<PAGE> 1
TYPE: EX-99.1
SEQUENCE: 3
DESCRIPTION: FINANCIAL STATEMENTS OF HUMAN CODE, INC.
EXHIBIT 99.1
Report of Independent Auditors
The Board of Directors and Shareholders
Human Code, Inc. and Subsidiaries
We have audited the accompanying consolidated balance sheet of Human Code, Inc.
and subsidiaries as of December 31, 1999, and the related consolidated
statements of operations, shareholders' deficit and cash flows for the year then
ended. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audit.
We conducted our audit in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audit provides a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Human Code, Inc.
and subsidiaries at December 31, 1999 and the consolidated results of their
operations and their cash flows for the year then ended in conformity with
accounting principles generally accepted in the United States.
Ernst & Young LLP
Austin, Texas
March 31, 2000
5
<PAGE> 2
Human Code, Inc.
Consolidated Balance Sheet
<TABLE>
<CAPTION>
DECEMBER 31,
1999
------------
<S> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 2,532,981
Accounts receivable, less allowance for doubtful accounts
of $18,000 3,572,499
Income taxes receivable 64,236
Unbilled revenue 994,949
Prepaid expenses 85,157
Other 52,136
-----------
Total current assets 7,301,958
-----------
Property and equipment:
Computer and other equipment 2,392,006
Furniture and fixtures 671,119
-----------
3,063,125
Less accumulated depreciation (1,266,493)
-----------
1,796,632
Goodwill, net of accumulated amortization of $203,123 597,600
Other assets 20,347
-----------
Total assets $ 9,716,537
===========
LIABILITIES AND SHAREHOLDERS' DEFICIT
Current liabilities:
Accounts payable and accrued liabilities $ 1,997,643
Deferred consulting services revenue 707,418
Current portion of notes payable 360,088
-----------
Total current liabilities 3,065,149
Notes payable, less current portion 687,599
-----------
Total liabilities 3,752,748
-----------
Redeemable convertible preferred stock:
Series A, $0.01 stated value; 1,500,000 shares
authorized, issued and outstanding 1,500,000
Series B, $0.01 stated value; 2,824,859 shares
authorized, issued and outstanding 5,000,000
-----------
Total redeemable convertible preferred stock 6,500,000
-----------
Shareholders' deficit:
Common stock, no par value; 15,000,000 shares authorized;
3,108,063 issued and outstanding 795,173
Accumulated deficit (1,331,384)
-----------
Total shareholders' deficit (536,211)
-----------
Total liabilities and shareholders' deficit $ 9,716,537
===========
</TABLE>
See accompanying notes.
6
<PAGE> 3
Human Code, Inc.
Consolidated Statement of Operations
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
1999
------------
<S> <C>
Revenues:
Consulting services $ 15,263,244
Royalty income 90,424
------------
15,353,668
------------
Cost of consulting services revenues:
Salaries and benefits 6,914,806
Third-party consulting fees 1,892,423
Content and consumables 618,095
------------
9,425,324
------------
Gross profit 5,928,344
------------
Operating expenses:
General and administrative 4,456,515
Sales and marketing 1,188,275
Depreciation and amortization 595,362
Research and development 209,271
------------
Total operating expenses 6,449,423
------------
Operating loss (521,079)
Other income (expense):
Interest expense (40,179)
Interest income 89,395
Other income, net 15,267
------------
Loss before income taxes (456,596)
Income tax benefit (13,600)
------------
Net loss $ (442,996)
============
</TABLE>
See accompanying notes.
7
<PAGE> 4
Human Code, Inc.
Consolidated Statement of Shareholders' Deficit
<TABLE>
<CAPTION>
Additional
Common Stock Paid-In Accumulated
Shares Amount Capital Deficit Total
---------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Balance at December 31, 1998 2,641,438 $ 330,573 $ 3,340 $ (863,058) $ (529,145)
---------------------------------------------------------------------------
Preferred stock issuance costs -- -- (3,340) (25,330) (28,670)
Common stock issued upon purchase of Presage
Software 433,125 433,125 -- -- 433,125
Common stock issued upon exercise of stock
options 33,500 31,475 -- -- 31,475
Net loss -- -- -- (442,996) (442,996)
---------------------------------------------------------------------------
Balance at December 31, 1999 3,108,063 $ 795,173 $ -- $(1,331,384) $ (536,211)
===========================================================================
</TABLE>
See accompanying notes.
8
<PAGE> 5
Human Code, Inc.
Consolidated Statement of Cash Flows
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
1999
------------
<S> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (442,996)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation 382,239
Amortization 213,123
Changes in operating assets and liabilities, net of
amounts acquired:
Increase in accounts receivable (2,233,175)
Increase in income tax receivable (64,236)
Increase in unbilled revenue (683,949)
Increase in prepaid expenses and other assets (96,599)
Increase in accounts payable and accrued
liabilities 1,264,717
Decrease in income taxes payable (24,364)
Increase in deferred consulting services revenue 545,167
-----------
Net cash used in operating activities (1,140,073)
-----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment (1,335,789)
Net cash paid for acquisitions (123,914)
-----------
Net cash used in investing activities (1,459,703)
-----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from notes payable 949,934
Payments on notes payable (889,348)
Payments on capital lease obligations (25,075)
Issuance of preferred stock, net 4,971,330
Issuance of common stock upon exercise of stock options 31,475
-----------
Net cash provided by financing activities 5,038,316
-----------
Increase in cash and cash equivalents 2,438,540
Cash and cash equivalents at beginning of year 94,441
-----------
Cash and cash equivalents at end of year $ 2,532,981
===========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Cash paid during the year for:
Interest $ 40,179
Income tax $ 70,000
</TABLE>
See accompanying notes.
9
<PAGE> 6
Human Code, Inc.
Notes to Consolidated Financial Statements
December 31, 1999
1. ORGANIZATION
Human Code, Inc. (the "Company") is a Delaware Corporation formed on April 29,
1993. The Company develops interactive software products for education
publishers, business clients, and consumer title publishers using strategic
consulting, interface design, illustration and animation, 3D visualization,
programming and audio-visual production techniques.
The Company has a history of operating losses and also of negative cash flow
from operations. For the year ended December 31, 1999, net losses were $442,996
and cash used in operating activities was $1,140,073. At December 31, 1999, the
Company had cash and cash equivalents of $2,532,981. Additionally, at December
31, 1999, the Company had $1,000,000 available from a revolving line of credit.
(See Note 5 for a discussion of this line of credit and events which may
restrict its availability to the Company during 2000.) Management believes these
available sources and the projected cash flow from operations will be sufficient
to fund the operations and expansion efforts of the Company through 2000. In the
event available sources are not sufficient, management expects to obtain
additional resources, including debt or equity, to fund its activities. There
can be no assurances that available sources will be sufficient, or that
management will be successful in its efforts to obtain any additional funding.
If necessary, management has the willingness, intent, and ability to adjust its
operations and cash expenditures to an internally sustainable level.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF CONSOLIDATION
The consolidated financial statements of the Company include the accounts of the
Company and its wholly-owned and majority-owned subsidiaries. All significant
intercompany balances and transactions are eliminated in consolidation.
REVENUE RECOGNITION
Revenues are generally recognized on a percentage of completion basis. Unbilled
revenue and deferred consulting services revenue amounts reflect the temporary
differences between the amounts billed to the customers and the amount of
revenue recognized.
SEGMENTS
Effective January 1, 1998, the Company adopted the Financial Accounting
Standards Board's Statement of Financial Accounting Standards No. 131,
Disclosures About Segments of an Enterprise and Related Information. The
adoption of Statement No. 131 did not have a significant effect on the
disclosure of segment information as the Company considers its business
activities as a single segment.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Depreciation on property and
equipment is computed using the straight-line method over the estimated useful
lives of three to seven years. Amortization of capital leases is included in
depreciation and is computed using the straight-line method over the term of the
lease.
-10-
<PAGE> 7
Human Code, Inc.
Notes to Consolidated Financial Statements (continued)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
SOFTWARE DEVELOPMENT COSTS
The Company's policy is to capitalize purchased software and eligible internally
developed software costs upon achievement of technological feasibility, and
subject to net realizable value considerations in accordance with Statement of
Financial Accounting Standards No. 86, Accounting for the Costs of Computer
Software to be Sold, Leased, or Otherwise Marketed. Software development costs
are amortized on either a straight-line basis over the estimated useful life of
the product (three years) or the ratio of current revenue to the total of
current and anticipated future revenue, whichever expense is greater. No
significant internally developed software costs have met this criteria and,
accordingly, the Company has charged all such internally developed costs to
expense as incurred in the accompanying statement of operations. During the year
ended December 31, 1999, amortization expense related to capitalized software
was $10,000.
GOODWILL
Goodwill associated with acquisitions is amortized using the straight-line
method over its estimated useful life (generally three years).
ADVERTISING COSTS
The Company expenses advertising costs as incurred. These costs were not
significant for the year ended December 31, 1999.
RESEARCH AND DEVELOPMENT
Research and development expenses are expensed as incurred.
STOCK-BASED COMPENSATION
In 1995, the Financial Accounting Standards Board (FASB) issued Statement No.
123, Accounting for Stock-Based Compensation, which prescribes accounting and
reporting standards for all stock-based compensation plans, including employee
stock options. As allowed by Statement No. 123, the Company has elected to
account for its employee stock-based compensation in accordance with Accounting
Principles Board Opinion No. 25, Accounting for Stock Issued to Employees (APB
25).
INCOME TAXES
The Company accounts for income taxes using the liability method as required by
the Financial Accounting Standards Board's Statement of Financial Accounting
Standards No. 109, Accounting for Income Taxes. Under this method, deferred tax
assets and liabilities are determined based on differences between financial
reporting and tax bases of assets and liabilities and are measured using the
enacted tax rate and laws that will be in effect when the differences are
expected to reverse.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and the reported amounts
of revenues and expenses during the reporting period. Actual results could
differ from those estimates.
-11-
<PAGE> 8
Human Code, Inc.
Notes to Consolidated Financial Statements (continued)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
CASH EQUIVALENTS
All highly liquid investments with original maturities of less than three months
when purchased are classified as cash equivalents. Cash equivalents consist
primarily of U.S. Treasury Bills which mature within three months.
IMPAIRMENT OF LONG-LIVED ASSETS
Assessments of whether there has been a permanent impairment in the value of
long-lived assets, including goodwill, are periodically performed by considering
factors such as expected future operating results, trends and prospects, as well
as the effects of demand, competition and other economic factors. The method
used to determine if any impairment has occurred is first whether there has been
a change in circumstances regarding the long-lived assets, followed by an
analysis of cash flows and evaluation of the inherent qualitative
characteristics regarding the assets in question. If an impairment is determined
to have occurred as a result of these analyses, then the Company recognizes and
measures that impairment generally using discounted cash flow or other measures
of fair value, as appropriate.
CONCENTRATIONS OF CREDIT RISK
Financial instruments which potentially subject the Company to concentrations of
credit risk are cash and short-term investments. Excess cash is invested in high
quality, short-term liquid money market instruments issued by highly-rated
financial institutions. At December 31, 1999, $1,237,388 of the Company's cash
balances was invested in short-term liquid money market instruments.
The Company extends credit based on an evaluation of the client's financial
condition, and collateral is not generally required. Credit losses are provided
for in the consolidated financial statements and have been consistently within
management's expectation.
The following table summarizes the change in allowance for doubtful accounts for
trade receivables:
<TABLE>
<CAPTION>
<S> <C>
Balance at December 31, 1998 $ --
Additions charged to costs and expenses 118,025
Write-off of uncollectible accounts (100,025)
---------
Balance at December 31, 1999 $ 18,000
=========
</TABLE>
For the year ended December 31, 1999, Customers A, B, and C accounted for 21%,
16%, and 10%, respectively, of the Company's total revenues.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The Company's financial instruments consist principally of cash and cash
equivalents, accounts receivable, accounts payable, and borrowings. The Company
believes that all of the financial instruments' recorded values approximate fair
values.
RECENTLY ISSUED ACCOUNTING STANDARDS
In June 1998, the FASB issued SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities, as amended by SFAS No. 137, which is
effective for fiscal years beginning after June 15, 2000. This statement
requires companies to record derivatives on the balance sheet as assets or
liabilities measured at fair value. Gains or losses resulting from changes in
the values of those derivatives would be accounted for depending on the use of
the derivative and whether it qualifies for hedge accounting. SFAS No. 133 will
be effective for the Company's financial statements for the year ending December
31, 2001. Management believes that this statement will not have a material
impact on the Company's financial position or results of operations because of
its limited use of derivative instruments.
-12-
<PAGE> 9
Human Code, Inc.
Notes to Consolidated Financial Statements (continued)
3. ACQUISITION OF PRESAGE SOFTWARE DEVELOPMENT COMPANY
In March 1999, the Company acquired 100% of the outstanding common stock of
Presage Software Development Company (Presage), a San Francisco Bay area
developer of interactive software for the educational and entertainment markets.
The purchase price was $628,206, consisting of $103,130 in cash, 433,125 shares
of the Company's common stock valued at $433,125, and acquisition costs related
to the transaction of $91,951. An additional $21,870 in cash and 91,875 shares
of the Company's common stock will be issued to Presage stockholders one year
after the purchase date subject to certain escrow provisions and contingent upon
attaining certain financial performance goals. The excess of the purchase price
over the fair values of the net assets acquired was $708,299 and was allocated
to goodwill. The results of Presage's operations are included in the
consolidated results of the Company from the date of acquisition.
The following unaudited pro forma results of operations for 1999 assumes the
acquisition of Presage occurred as of January 1, 1999:
<TABLE>
<CAPTION>
1999
----
<S> <C>
Revenues $ 16,024,795
Loss from continuing operations (240,544)
Net loss (240,544)
</TABLE>
The unaudited pro forma financial information is not necessarily indicative of
the operating results that would have occurred had this acquisition been
consummated as of January 1, 1999, nor is it necessarily indicative of future
operating results.
4. NOTES PAYABLE
Notes payable consist of the following at December 31, 1999:
<TABLE>
<S> <C>
Note payable to a bank, bearing interest at the bank's prime
rate plus 1% (9.5% at December 31, 1999), due in
monthly principal installments of approximately $4,200
through April 2000. The note is secured by substantially
all of the Company's fixed assets now owned or hereafter
acquired. Proceeds from the note may only be used to
finance fixed asset purchases related to the Company's
move to a new office space $ 20,833
Note payable to a bank, bearing interest at the bank's prime
rate plus 1% (9.5% at December 31, 1999), due in
monthly principal installments of approximately $2,700
through February 2001. The note is secured by
</TABLE>
-13-
<PAGE> 10
Human Code, Inc.
Notes to Consolidated Financial Statements (continued)
4. NOTES PAYABLE (CONTINUED)
<TABLE>
<S> <C>
substantially all of the Company's fixed assets now
owned or hereafter acquired. Proceeds from the note may
only be used to finance fixed asset purchases related to
the Company's expansion into new office space 40,240
Note payable to a bank, bearing interest at the bank's prime
rate plus 1% (9.5% at December 31, 1999), due in
monthly principal installments of approximately $5,600
through June 2002. The note is secured by substantially
all of the Company's fixed assets now owned or hereafter
acquired. Proceeds from the note may only be used to
finance fixed asset purchases related to the Company's
overall expansion 166,612
Note payable to a bank, bearing interest at the bank's prime
rate plus 1% (9.5% at December 31, 1999), due in
monthly principal installments of approximately $20,800
through December 2002. The note is secured by
substantially all of the Company's fixed assets now
owned or hereafter acquired. Proceeds from the note may
only be used to finance fixed asset purchases related to
the Company's overall expansion 750,000
Note payable to Presage partner, bearing interest at 5%,
maturing February 2001 51,789
Other note payable 18,213
-----------
1,047,687
Less current portion (360,088)
-----------
Notes payable, less current portion $ 687,599
===========
</TABLE>
Maturities of all the Company's notes payable as of December 31, 1999 are as
follows:
<TABLE>
<CAPTION>
PAYMENT AMOUNT
--------------
<S> <C>
2000 $ 360,088
2001 404,283
2002 283,316
2003 --
2004 --
Thereafter --
----------
Total minimum payments $1,047,687
==========
</TABLE>
-14-
<PAGE> 11
Human Code, Inc.
Notes to Consolidated Financial Statements (continued)
5. LINE OF CREDIT
The Company has available a $1,000,000 revolving line of credit (the Line) which
matures in July 2000. The Line is secured by substantially all of the Company's
accounts receivable. The proceeds of the Line can be used for financing working
capital and accounts receivable support. Interest on the Line is payable monthly
at the bank's prime rate plus 0.5% (9.0% at December 31, 1999). Amounts
available under the Line are subject to certain borrowing base limitations. As
of December 31, 1999, there was $0 outstanding under the Line.
The Line contains restrictive covenants that require the Company to maintain
certain financial ratios. The Company was in violation of the tangible net
worth, current ratio and total debt to tangible net worth requirements for
January 1999 and the tangible net worth requirement for February 1999. In March
1999, the Company obtained an amendment to the line agreement which modified the
financial covenants. As a result, the Company was in compliance with the new
covenants for the remainder of 1999. Also, the Company was in violation of the
EBITDA requirement for March 2000. The Company has obtained a waiver from the
lender for all of the aforementioned violations.
6. INCOME TAXES
As of December 31, 1999, the Company had federal net operating loss
carryforwards of approximately $944,000 and research and development credit
carryforwards of approximately $34,000. The net operating loss carryforward and
research and development credit carryforward will expire beginning in 2012, if
not used.
Use of the net operating losses and credit carryovers may be subject to a
substantial annual limitation due to the "change in ownership" provisions of the
Internal Revenue Code of 1986. The annual limitation may result in the
expiration of net operating losses and credit carryovers before utilization.
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components of
the Company's deferred taxes are as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
1999
------------
<S> <C>
Deferred tax assets:
Tax carryforwards $ 383,396
Trademark legal costs 17,140
Accrued expenses 41,734
Other 1,276
---------
Total deferred tax assets 443,546
Valuation allowance for deferred tax assets (388,318)
---------
Total net deferred tax assets 55,228
---------
Deferred tax liabilities:
Tax over book depreciation (15,972)
Prepaid expenses (6,716)
Accrual to cash differences (32,540)
---------
Total deferred tax liabilities (55,228)
---------
Net deferred tax assets $ --
=========
</TABLE>
-15-
<PAGE> 12
Human Code, Inc.
Notes to Consolidated Financial Statements (continued)
6. INCOME TAXES (CONTINUED)
The Company has established a valuation allowance equal to the net deferred tax
asset due to uncertainties regarding the realization of deferred tax assets
based on the Company's lack of earnings history. During the year ended December
31, 1999, the valuation allowance increased by approximately $203,000.
Approximately $65,000 of this increase was due to the addition of the valuation
allowance of Presage. The initial recognition of the tax benefits for the
Presage deferred tax asset items will first reduce goodwill, then other
non-current intangible assets of the acquired entity.
The Company's provision for income taxes differs from the expected tax benefit
amount computed by applying the statutory federal income tax rate of 34% to
income before income taxes as a result of the following:
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
1999
------------
<S> <C>
Federal statutory rate (34.0)%
State taxes, net of federal benefit (1.2)
Permanent items 4.5
Nondeductible goodwill 15.6
Research and development credit generated (3.6)
Change in valuation allowance 19.1
Other (0.4)
-----
--%
=====
</TABLE>
7. COMMITMENTS AND CONTINGENCIES
The Company leases its facilities under operating leases that extend through
September 2008. Rental expense for operating leases amounted to $618,587 for
1999.
Future minimum lease payments required under operating leases as of December 31,
1999 are as follows:
<TABLE>
<S> <C>
2000 $1,086,643
2001 814,761
2002 342,120
2003 197,409
2004 158,721
Thereafter 819,833
----------
Total minimum lease payments $3,419,487
==========
</TABLE>
-16-
<PAGE> 13
Human Code, Inc.
Notes to Consolidated Financial Statements (continued)
8. 401(k) PLAN
During 1997, the Company adopted a voluntary defined contribution plan (the
401(k) Plan) which is qualified under Section 401(k) of the Internal Revenue
Code of 1986, as amended. Under the 401(k) Plan, domestic employees who have met
certain age and service requirements may contribute a percentage of their
compensation up to the maximum allowable by the IRS. Matching contributions are
made at the Company's discretion. Such contributions vest ratably over four
years. No employer contributions were made during 1999.
9. SHAREHOLDERS' DEFICIT
COMMON STOCK AND REDEEMABLE CONVERTIBLE PREFERRED STOCK
The capital stock of the Company consists of common stock, Series A Convertible
Preferred Stock (Series A Preferred) and Series B Convertible Preferred Stock
(Series B Preferred). The holders of Series A Preferred and Series B Preferred
are entitled to, among other things, voting rights, non-cumulative dividend
rights, liquidation rights, redemption rights and conversion rights.
Series A Preferred is convertible into common stock at any time at the option of
the holder on a one-for-one basis, subject to adjustments for future dilution.
Series A Preferred automatically converts into common stock upon the closing of
a firm underwritten public offering in excess of $10,000,000 at a price of not
less than $5.00 per share.
Each share of Series A Preferred has a number of votes equal to the number of
shares of common stock into which it is convertible. In the event of
liquidation, the Series A Preferred shareholders are entitled to receive $1.00
per share, plus all declared and unpaid dividends prior to any distribution to
any other shareholders. No dividends have been declared as of December 31, 1999.
In February 1999, the Company issued 2,824,859 shares of Series B Preferred at
$1.77 per share for proceeds of $5,000,000, less issuance costs of $28,670. Such
shares have a stated value of $0.01 per share and are convertible into common
stock at any time at the option of the holder on a one-for-one basis, subject to
adjustment for future dilution. Such shares automatically convert into common
stock upon the closing of a firm underwritten public offering in excess of
$15,000,000 at a price of not less than $5.31 per share.
Each share of Series B Preferred has a number of votes equal to the number of
shares of common stock into which it is convertible. In the event of
liquidation, the Series B Preferred shareholders will be entitled to receive in
preference to the holders of the Series A Preferred or common stock an amount of
$1.77 per share, plus all declared and unpaid dividends. No dividends have been
declared as of December 31, 1999. The holders of at least 75% of the outstanding
shares of Series A Preferred and Series B Preferred, voting together as a single
class, may elect to require the Company to redeem all outstanding shares in
three annual installments beginning on a date not earlier than February 23,
2003. The redemption price shall be $1.77 per share, plus all declared and
unpaid dividends.
STOCK OPTION PLAN
The Company's 1994 Incentive Stock Option Plan (ISO) has authorized the grant of
ISO options to Company personnel and non-statutory options to non-employees for
up to 4,046,000 shares of the Company's common stock. Company employees are
granted ISO options with ten year terms and a four year vesting period that
renders the options fully exercisable at the end of the fourth year of continued
employment. Upon termination, employees are eligible to exercise all vested ISO
options for a period of three months following the termination date. All
unvested and unexercised ISO options granted to terminated employees are
returned to the Company for use in future employee grants. Certain non-employees
have been granted non-statutory options that are fully vested and exercisable at
the grant date. The Company has repurchase rights for unvested shares equal to
the original exercise price.
-17-
<PAGE> 14
Human Code, Inc.
Notes to Consolidated Financial Statements (continued)
9. SHAREHOLDERS' DEFICIT (CONTINUED)
The following table summarized the stock option activity for the periods
indicated:
<TABLE>
<CAPTION>
Stock Exercise Weighted-Average
Options Price Exercise Price
Outstanding Per Share Per Share
-----------------------------------------------------------
<S> <C> <C> <C>
Outstanding at December 31, 1998 1,200,500 $ .10 - 1.00 $ .58
Granted 1,053,597 1.00 - 3.25 1.18
Exercised (33,500) .10 - 1.00 .94
Canceled (62,000) .10 - 1.00 .99
---------
Outstanding at December 31, 1999 2,158,597 .10 - 3.25 .85
=========
</TABLE>
The following is a summary of options outstanding and exercisable as of December
31, 1999:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
------------------------------------------------------------------------ ---------------------------
Weighted-Average Weighted-
Remaining Weighted- Average
Range of Number Contractual Average Exercise Number Exercise
Exercise Prices Outstanding Life (in years) Price Exercisable Price
------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
$ .10 575,000 5.20 $ .10 565,938 $ .10
1.00 1,301,500 9.04 1.00 215,281 1.00
1.25 225,097 9.85 1.25 8,375 1.25
3.25 57,000 9.97 3.25 5,000 3.25
--------- ----
.10 - 3.25 2,158,597 8.12 .85 794,594 .36
========= ====
</TABLE>
As required by Statement 123, the Company has determined pro forma information
regarding net income (loss) for its employee stock options. The fair value of
these options was estimated at the date of grant using a minimum value option
pricing model with the following weighted average assumptions:
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
1999
------------
<S> <C>
Risk-free interest rate 5.8%
Expected life of the options 4 years
Dividend yield --
</TABLE>
For purposes of pro forma disclosures, the estimated fair value of the options
is amortized to expense over the options' vesting period. The Company's pro
forma net loss is as follows:
-18-
<PAGE> 15
Human Code, Inc.
Notes to Consolidated Financial Statements (continued)
9. SHAREHOLDERS' DEFICIT (CONTINUED)
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
1999
------------
<S> <C>
Net loss - as reported $(442,996)
Net loss - pro forma (492,049)
</TABLE>
Because the Statement provides for pro forma amounts for options granted
beginning in 1995, the pro forma expense will likely increase in future years as
the new option grants become subject to the pricing model. The weighted-average
fair values of options granted during 1999 using the minimum value pricing model
was $0.24.
SHARES RESERVED
Common stock reserved at December 31, 1999 consists of the following:
<TABLE>
<S> <C>
For exercise of stock options 3,671,062
For conversion of Series A Preferred shares 2,824,859
For conversion of Series B Preferred shares 1,500,000
---------
7,995,921
=========
</TABLE>
10. SUBSEQUENT EVENTS
In February 2000, the Company acquired certain assets and assumed certain
liabilities of Top Drawer Productions, Inc. (Top Drawer) for approximately
$400,000 cash and 55,000 shares of the Company's common stock. This transaction
has been accounted for under the purchase method of accounting. An additional
25,000 shares of the Company's common stock will be issued to Top Drawer one
year after the purchase date subject to certain escrow provisions and contingent
upon attaining certain financial performance goals. Following the close of the
acquisition, options to purchase 76,000 shares of the Company's common stock
were granted to certain Top Drawer employees. Top Drawer is an Austin-based
developer of interactive software for the educational market.
In March 2000, the Company acquired certain intangible assets (Technology) of
Interactive Imaging, Inc. (Interactive Imaging) for approximately $100,000 cash.
This transaction has been accounted for under the purchase method of accounting.
Interactive Imaging will receive an additional $90,000 cash contingent upon
attaining certain Technology development goals. Following the close of the
acquisition, the Company agreed to hire a certain employee of Interactive
Imaging and to grant this employee options to purchase approximately 15,000
shares of the Company's common stock. Interactive Imaging is a Rochester,
Minnesota-based developer of software.
11. SUBSEQUENT EVENT (UNAUDITED)
On August 9, 2000, the Company signed an Agreement and Plan of Merger whereby
the Company's outstanding common stock was acquired by Sapient Corporation.
-19-
<PAGE> 16
HUMAN CODE, INC.
CONSOLIDATED BALANCE SHEET
JUNE 30, 2000
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<S> <C>
ASSETS
Current assets:
Cash and cash equivalents ......................................................................... $ 1,073
Accounts receivable, less allowance for doubtful accounts
of $18 ......................................................................................... 3,478
Unbilled revenues on contracts .................................................................... 1,424
Prepaid expenses and other current assets ......................................................... 150
-------
Total current assets ...................................................................... 6,125
Property and equipment, net ......................................................................... 2,528
Intangible assets, net .............................................................................. 495
Other assets ........................................................................................ 444
-------
Total assets .............................................................................. $ 9,592
=======
LIABILITIES AND STOCKHOLDERS' DEFICIT
Current liabilities:
Accounts payable .................................................................................. $ 2,803
Accrued expenses .................................................................................. 543
Accrued compensation .............................................................................. 427
Debt and lease obligations, current ............................................................... 2,978
Deferred revenues on contracts .................................................................... 411
-------
Total current liabilities ................................................................. 7,162
-------
Redeemable convertible preferred stock:
Series A, $.01 stated value, 1,500,000 shares authorized, issued and outstanding .................. 1,500
Series B, $.01 stated value, 2,824,859 shares authorized, issued and outstanding .................. 5,000
-------
Total redeemable convertible preferred stock .............................................. 6,500
-------
Stockholders' deficit:
Common stock, no par value, 15,000,000 shares authorized, 3,202,875 issued and outstanding......... 982
Accumulated deficit ............................................................................... (5,052)
-------
Total stockholders' deficit ............................................................... (4,070)
-------
Total liabilities and stockholders' deficit ............................................... $ 9,592
=======
</TABLE>
The accompanying notes are an integral part of these Consolidated Financial
Statements
-20-
<PAGE> 17
HUMAN CODE, INC.
CONSOLIDATED STATEMENT OF OPERATIONS
FOR THE SIX MONTHS ENDED JUNE 30, 2000
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<S> <C>
Revenues .................................... $ 11,473
--------
Operating expenses:
Project personnel costs ................... 7,747
Selling and marketing ..................... 1,661
General and administrative ................ 5,731
--------
Total operating expenses........... 15,139
--------
Loss from operations ........................ (3,666)
Interest expense ............................ (56)
--------
Loss before income taxes .................... (3,722)
Income taxes ................................ --
--------
Net loss .......................... $ (3,722)
========
</TABLE>
The accompanying notes are an integral part of these Consolidated Financial
Statements
-21-
<PAGE> 18
HUMAN CODE, INC.
CONSOLIDATED STATEMENT OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 2000
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<S> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (3,722)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation 513
Changes in operating assets and liabilities, net of
amounts acquired:
Decrease in accounts receivable 95
Increase in unbilled revenues on contracts (493)
Increase in prepaid expenses and other current assets (24)
Increase in accounts payable and accrued
expenses 1,763
Decrease in deferred revenues on contracts (285)
-----------
Net cash used in operating activities (2,153)
-----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment (990)
Net cash paid for acquisitions (256)
-----------
Net cash used in investing activities (1,246)
-----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from notes payable 1,931
Issuance of common stock upon exercise of stock options 8
-----------
Net cash provided by financing activities 1,939
-----------
Decrease in cash and cash equivalents (1,460)
Cash and cash equivalents at beginning of period 2,533
-----------
Cash and cash equivalents at end of period $ 1,073
===========
</TABLE>
The accompanying notes are an integral part of these Consolidated Financial
Statements
-22-
<PAGE> 19
HUMAN CODE, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) BASIS OF PRESENTATION
The unaudited financial statements as of June 30, 2000 and for the six months
then ended have been prepared in accordance with generally accepted accounting
principles and reflect all adjustments (consisting solely of normal, recurring
adjustments) which are, in the opinion of management, necessary for a fair
presentation of results for the interim periods presented. The results of
operations for the six months ended June 30, 2000 are not necessarily indicative
of the results to be expected for any future period or the full fiscal year.
(2) SUBSEQUENT EVENT
On August 9, 2000, the Company signed an Agreement and Plan of Merger whereby
the Company's outstanding common stock was acquired by Sapient Corporation.
-23-
