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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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Form 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended September 30, 2000
Commission File Number: 0-25427
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NETOBJECTS, INC.
(Exact name of Registrant as specified in its charter)
Delaware 94-3233791
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
301 Galveston Drive, Redwood City, California 94063
(Address of Principal Executive Offices) (Zip Code)
(650) 482-3200
(Registrant's Telephone Number, Including Area Code)
None
Securities registered pursuant to Section 12(b) of the Act
Common Stock, par value $0.01
Securities registered pursuant to Section 12(g) of the Act
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Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports) and (2) has been subject to such filing
requirements for the past 90 days. Yes X No___
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated herein by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
As of September 30, 2000, the aggregate market value of voting stock held by
non-affiliates of the Registrant, based upon the closing sales price for the
Registrant's Common Stock, as reported in the NASDAQ National Market System, was
$36.8 million. Shares of Common Stock held by each officer and director and by
each person who owns 5% or more of the outstanding Common Stock have been
excluded in that such persons may be deemed to be affiliates. This determination
of affiliate status is not necessarily a conclusive determination for any other
purpose.
As of November 30, 2000, Registrant had outstanding 31,673,817 shares of Common
Stock, $.01 par value.
DOCUMENTS INCORPORATED BY REFERENCE
The following documents (or parts thereof) are incorporated by reference into
the following parts of this Form 10-K: Certain information required in Part III
of this Form 10-K is incorporated from the registrant's Proxy Statement for its
Annual Meeting of Stockholders.
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TABLE OF CONTENTS
Part I
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Page
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Item 1. Business.................................................................................... 1
Item 2. Properties.................................................................................. 16
Item 3. Legal Proceedings........................................................................... 16
Item 4. Submission of Matters to a Vote of Security Holders......................................... 16
Part II
Item 5. Market for Registrants Common Equity and Related Stockholder Matters........................ 16
Item 6. Selected Financial Data..................................................................... 18
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations....... 20
Item 7A. Qualitative and Quantitative Disclosures about Market Risk.................................. 30
Item 8. Financial Statements and Supplementary Data................................................. 30
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure........ 31
Part III
Item 10. Directors and Executive Officers of Registrant.............................................. 31
Item 11. Executive Compensation...................................................................... 31
Item 12. Security Ownership of Certain Beneficial Owners and Management.............................. 31
Item 13. Certain Relationships and Related Transactions.............................................. 31
Part IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K............................ 31
Signatures.................................................................................. 35
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BUSINESS
From our inception through the fiscal year ended September 30, 2000, we founded
our business on being a leading provider of software, solutions, and services
that enable small businesses to build, deploy and maintain Web sites; conduct
online e-business; and enable large enterprises to effectively create and manage
corporate intranets.
Our Company
Our objective is to become a leading provider of online services for small
businesses. We intend to partner with service providers--from telcos and
financial institutions to ISPs and hardware manufacturers--to deliver these
services to their small business customers. We offer our partners the technology
solutions and services they need to enable their small business customers to
successfully leverage the power of the Web. Our applications and services
empower small businesses by helping them create Web sites, engage in e-commerce,
and grow and manage their businesses. In deploying these services, our partners
benefit from potential new sources of revenue, faster time to market, less
administrative overhead, and an improved customer experience.
In 1996 we introduced NetObjects Fusion, the first Web site building software
application. Since then, NetObjects Fusion has been instrumental in the
development of over 4 million Web sites and has become an industry standard in
Web site building, winning over 75 awards. September 1998, we introduced
NetObjects Authoring Server Suite 3.0, a client-server application for the
corporate intranet market. In addition, to complement our enterprise solutions,
we began offering professional services to our business customers to better
serve their Web site planning, building and maintenance needs.
In March 2000, we launched NetObjects Collage, an integrated platform for the
management of enterprise Web applications. NetObjects Collage provides an
integrated platform that combines collaboration with content management,
enterprise integration, and dynamic application services. We provide
professional services to help our customers install NetObjects Collage and to
train their personnel in the use and maintenance of corporate Web sites with
this product.
On December 21, 2000 we signed an option and license agreement under which we
received $4 million in cash for an exclusive option to purchase the Company's
Enterprise division for $18 million (including the option payment).
The option to acquire the Enterprise division will expire on January 5, 2001, if
a definitive agreement for the purchase of the Enterprise division has not been
signed by that date, or by a later date as may be agreed upon by both companies.
If the acquisition is not completed, the potential acquirer will have a
three-year license to distribute NetObjects Collage. Completion of the
acqisition is subject to the negotiation and execution of a definitive
agreement, which would be subject to customary closing conditions. Accordingly,
there can be no assurances that the sale of the Enterprise division will occur.
Building on the success of NetObjects Fusion and the growth of the Internet, we
are changing the company from a traditional desktop software company to an
online services provider. We also built popular online resources, including
NetObjects.com, and eFuse.com, that target communities of business users and
provide sources of information, products, and services for building Web sites.
This strategic shift began in October 1999 with the acquisition of Sitematic,
Corp., and the formation of a Small Business Division. In December 1999, we
combined these online resources and launched GoBizGo.com, a Web application
services site where small businesses can find the solutions and services needed
to build a successful Web presence.
In July of 2000, we acquired privately-held Rocktide Inc., for $3.6 million in
NetObjects common stock and $0.4 million in cash. Rocktide is a provider of the
next generation application service provider (ASP) technology and wireless
e-Services that help Web-enable businesses worldwide. This product technology
was incorporated in our newly branded Matrix Platform, which was launched on
October 30, 2000.
NetObjects Matrix is an integrated suite of online services that enables small
businesses to take advantage of the Internet to expand and improve their
business. It is the first set of online services designed to be distributed by
service providers, companies whose reach into the small business marketplace
through their business relationships makes them the most effective distributors
of NetObjects products and services. We believe that these large established
service providers, such as hardware vendors, telecommunications carriers, Web
hosting companies and ISPs, will use NetObjects Matrix to offer essential online
services to small businesses, enhancing customer relationships while driving
subscription-based revenue through their own trusted brands.
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The mass distribution of NetObjects Fusion through service providers will also
create a new market for the essential online services offered in NetObjects
Matrix Services.
Small Business Market Opportunity
There are currently over 25 million small firms in the U.S., consisting of small
businesses with fewer than 20 employees and home-based business. We believe this
represents a significant opportunity for NetObjects. According to the October
2000 IDC report the amount of spending by small businesses to establish a Web
presence is anticipated to increase at 45 percent annually, from $19.6 billion
in 1999 to $85.4 billion by 2003.
We believe the majority of small businesses have not yet strategically embraced
the Internet. Those that have a Web presence often need to enhance their Web
sites with new functionality such as e-commerce or e-applications, or otherwise
improve their Web site features and promotion. Businesses with more
sophisticated Web site requirements, but without the financial resources to
support a Web development team, require an easy-to-use, capability-rich and open
solution. And for those small businesses entering the online world for the first
time, ease of use in creating a Web site is even more critical. While in-house
developers or third-party service providers can address technical design and
programming requirements, the cost is often prohibitive. As use of Internet
applications continues to grow, we believe small firms need solutions that are
affordable, easy to implement and manage, and that easily integrate, customize,
and scale to meet their needs.
Small Business Customers
Most small business customers do not have a Web site. The novice small business
customer requires a simple, intuitive and step-by-step approach to site
building. The more technically savvy small business customer has greater
technical expertise and requires more sophisticated functionality and
customization features. NetObjects has developed two distinct site-
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building tools to address these unique customer needs--NetObjects Matrix Builder
for the novice and NetObjects Fusion for the technically savvy.
Small business customers that have already built a Web site using either
NetObjects Fusion or other Web authoring products have already taken the
critical first step in achieving an online presence, but still require
additional services to promote that presence, attract and interact with
visitors, monitor performance, and engage in online commerce. NetObjects Matrix
Services will be offered to these small businesses to help them build a more
effective and comprehensive Web strategy.
The market for online Web-based business services is new and extremely
competitive. We cannot be assured of generating a significant amount of revenue
or earning a profit from the sale or license of these services.
NetObjects Strategy
As usage of the Internet by businesses and related markets for our products and
services have evolved, we have decided to narrow our focus in order to become a
leading provider of essential online services for small businesses worldwide by
partnering with service providers who can provide mass distribution to their
small business customers. Many of the key elements of our current strategy
remain the same, however. To date we have made significant progress in building
and partnering to create best-of-class Web site builders and online services for
service providers and their subscribers.
Technological Leadership for Building Essential Online Services
In October 2000, we announced a new platform of online services, NetObjects
Matrix, designed exclusively for service providers to offer to their small
business customers. The NetObjects Matrix Platform provides the framework
through which our partners can quickly and seamlessly deliver NetObjects Matrix
Builder and NetObjects Matrix Services to their small business customers over
the Internet. Using NetObjects Matrix, service providers will have the unique
ability to offer essential online services to their customers, driving
subscription-based revenue through their own trusted brands.
Brand recognition and Broad Customer Base
As a pioneer of Web site building technologies, and as the recipient of numerous
industry awards, we believe that we have established a premier Internet brand in
the market for Web site building products and services.
NetObjects Fusion will continue to play a significant role in our strategy, even
as we transition from a desktop software company to an online services provider.
The latest version of NetObjects Fusion, version 5.0, features an Online View
from which small businesses can instantly access the full suite of NetObjects
Matrix Services to enhance the commerce, connectivity, and community of their
sites.
Strageic Relationships
Our strong brand recognition is a significant asset for developing relationships
with service providers. We have made significant progress in this area as
evidenced by the announcement of distribution agreements with hardware vendors
Dell and IBM, with ISPs and telecommunication providers EarthLink and Deutsche
Telekom/T-Online, and with hosting company 1&1 Internet AG.
Focusing on the Small Business Market
NetObjects believes that the ubiquity of Web browsers and the evolution of ASP
technology to enable the online delivery of technology solutions provide key
benefits to small businesses. These benefits include ease of use, installation
and upgradeability, potential revenues from e-commerce, convenience, and reduced
costs--lower monthly subscription fees versus large, up-front payments.
NetObjects also believes that small businesses will look to a single supplier to
provide an integrated suite of applications and services they need rather than
shopping for individual services from multiple vendors. We anticipate that small
businesses will purchase these services from their current service providers --
companies with whom they already do business and who they trust to help them
achieve online success.
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Products and Services
NetObjects Fusion
NetObjects Fusion is an intuitive Web site building tool offering ease of use as
well as sophisticated functionality to meet the demands of the more technically
savvy small business customer. The latest version, NetObjects Fusion 5.0 offers
drag and drop productivity, as well as the ability to instantly access
NetObjects Matrix Services, a suite of essential online services. Earlier
versions of NetObjects Fusion are available in nine languages in addition to
English, including German, French, Spanish, Chinese, and Japanese.
NetObects Collage
To successfully execute on the next generation of enterprise Web strategies,
today's corporate enterprises require a solid foundation that can enable a Web
production cycle which controls the dynamics involved with creating and managing
the growing complexity of Web ever expanding applications. This platform must
enable enterprise-wide collaboration and content contribution, scaleable
management of both static and dynamic content, existing enterprise application
integration, and dynamic application services. NetObjects Collage is designed to
meet all these requirements. In December 2000, we entered into an agreement
relating to the sale of our Enterprise division and this product family. See,
Item 7. "Management's Discussion and Analysis of Financial Condition and Results
of Operations -- Recent Developments".
NetObjects Matrix Platform
The NetObjects Matrix Platform provides the framework through which service
providers can quickly and seamlessly deliver NetObjects Matrix Builder and
NetObjects Matrix Services to their small business customers. It is the first
platform combining a best-of-class online Web site builder with a suite of
integrated add-on business services. It provides true integration working with
the service provider's business model and technical environment--front-end and
back. The NetObjects Matrix Platform is highly scalable and reliable, and uses
XML and server-side Java to ensure openness and interoperability.
The platform also supports multiple publishing standards such as HTML, XML and
WML, allowing service providers the opportunity to support multiple devices
including PDAs and digital cellular phones. Service providers can customize the
NetObjects Matrix Platform to offer unique combinations of online services to
better serve the specific needs of their small business customers. The
NetObjects Matrix Platform can seamlessly integrate with the service provider's
network and can be installed in their hosting data centers, or run transparently
as a remotely hosted application.
NetObjects Matrix Builder
NetObjects Matrix Builder is an online Web site building tool that gives small
businesses online access to the functionality they need to plan, design, build,
and maintain their own interactive, revenue-producing Web sites. NetObjects
Matrix Builder is a new generation of online builder, providing a unique
preview-click-edit approach to building a Web site. With the help of a
QuickStart Wizard that walks users step-by-step through the Web building
process, and a range of preformatted templates and design styles, small
businesses can create professional looking, fully functional business Web sites.
NetObjects Matrix Services
NetObjects Matrix Services is a suite of essential online services to help small
companies grow and manage their businesses. These services include list
management, forms processing, tracking, and search and site promotion. In
addition, there is an intuitive dashboard to manage all of these services.
NetObjects Matrix Services are remotely hosted, thus eliminating the need for
client-side software which generally requires dedicated IT resources to install,
integrate, maintain, and upgrade. The remote hosting model thus saves service
providers both time and money.
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NetObjects Matrix Services currently offered include:
o SiteMiner, allowing small business customers to add search functionality to
their sites.
o BannerExchange, enabling small business Web sites to generate additional
traffic to their sites by participating in banner exchanges. This service
also enables NetObjects and its partners to utilize member Web sites for
advertising purposes.
o Ezpolls, helping small businesses better understand what their online
customers want by adding polls to the Web site.
o GuestBook and Message Boards, providing small business Web sites with a
fully functional guest book and forms processor that encourages visitors to
speak up about their needs as well as capture important contact information
on prospective customers.
o SuperStats, the loading tracking service in the market, analyzing site
traffic and profiling visitors.
o Hit Counter, enabling small businesses to track the number of visitors to
their Web sites on a daily basis.
NetObjects Global Services
NetObjects Global Services is a complete range of services designed to ensure
seamless and successful implementation of the NetObjects Matrix Platform by our
service providers customers. NetObjects Global Services provide integration,
customization, installation, configuration, training, and ongoing support. The
NetObjects Global Services team works with service providers on everything from
the initial project scope to ongoing training and network support to ensure that
both the business and technical objectives of their environment are met.
Strategic Relationships
We have established a number of significant ongoing strategic relationships
which include:
Cisco Systems, the worldwide leader in networking for the Internet, created the
Cisco Resource Network to bring independent software and hardware vendors,
service providers, value added resellers, and systems integrators together to
provide information, tools and resources to help small and medium sized
businesses fully participate in the Internet economy. Cisco has included
NetObjects Fusion in the Cisco Resource Network.
Under an agreement with Dell, a world leader in Internet commerce and
infrastructure, Dell is preloading NetObjects Fusion software and online
services on Dell PCs. Easily accessible from the NetObjects Fusion logo on the
desktop, the customized Dell Host Edition of NetObjects Fusion is integrated
with DellHost, making it easier and more affordable for Dell customers to
conduct business online.
EarthLink, a leading business solution company offering a variety of hosting
options, has chosen NetObjects to be one of its Premiere Partners, thereby
making NetObjects' products and services available to all EarthLink subscribers.
The NetObjects logo appears on EarthLink's Biz Resource Center, designed to
provide a one-stop destination for business information and services to
EarthLink's small business customers.
IBM leads in the creation, development, and manufacture of the industry's most
advanced information technologies. NetObjects Fusion is bundled with several IBM
product lines, including ThinkPad, Aptiva, and Intellistation, to provide
customers with an easy-to-learn, easy-to-use Web site building solution.
1&1 Internet AG, one of the largest ISPs in Germany, offers value-added services
for the Internet. Their products enable customers to use the Internet in a
meaningful and effective manner for all their business and personal success. 1&1
bundles a German localized version of NetObjects Fusion to every customer who
signs up for hosting.
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Lotus, a subsidiary of IBM Corporation, bundles award-winning NetObjects Fusion
5.0 with DominoDesigner R5, the premier integrated development environment for
building secure e-business applications. Lotus SmartSuite customers can also
download a copy of NetObjects Fusion 5.0.
MyComputer.com, a provider of online Web site services has integrated thus,
allowing some of its services including all of the services indentified under
NetObjects, Matrix Services, above, directly into NetObjects Matrix and
NetObjects Fusion 5.0. allowing small business customers to both create a Web
site and incorporate these Web site services seamlessly.
Register.com, one of the leading domain name registrars on the Internet, has
integrated its services into NetObjects Fusion 5.0. Allowing customers to both
create a Web site and easily register domain names with one powerful solution.
Sales, Marketing, and Distribution
We sell our products and services through targeted business development efforts
to service providers as well as through traditional distribution channels, both
indirect and online. To assist our partners in selling these products and
services to their customers, we have undertaken a variety of co-marketing
activities. As of September 30, 2000, 73 of our employees, or approximately 42%
of our work force, were engaged in sales and marketing activities.
Distribution Channels
Our indirect distribution channels include domestic and international
distributors, retail vendors, value-added resellers, OEM resellers and other
technology companies with whom we have strategic relationships. Our principal
OEM accounts are Dell, EarthLink, IBM, Lotus, Novell, and 1&1 Internet AG. For
Fiscal 2000, these OEM accounts have represented a major portion of our revenues
from license fees. Additionally, we have approximately 20 non-exclusive
distributors serving hundreds of resellers worldwide including Ingram Micro and
Digital River in North America; Internet 2000, Softline, and Unipalm in Europe.
Our online distribution channel includes a store on our Web site,
NetObjects.com, which allows users to download and purchase our products as well
as numerous third-party add-ons. In addition, several third-party e-commerce and
distribution sites, including buy.com and beyond.com, make our products
available for sale online. The online distribution channel continues to be a
convenient and easily accessible channel for our customers, providing global
accessibility, 24-hours a day.
Marketing Activities
Since our inception, we have invested in a broad range of marketing activities
to generate demand, gain corporate brand identity, establish the site building
product category and educate the market about our products and services. These
activities have included advertising, including both print and online, direct
marketing, including direct mail, newsletters and e-mail, public relations,
seminars for potential customers, participation in trade shows, as well as
conferences and Web site promotion. With a shift in our business strategy to a
partner-based distribution model, our ongoing marketing efforts will be aimed at
directly informing our partners of the capabilities and benefits of our products
and services, so that they can in turn market more effectively to their
customers. Currently we have co-marketing agreements with
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ADP, Cisco Systems, XO (formerly Concentric Network), Dell, Deluxe Forms,
EarthLink, IBM, Lotus, 1&1 Internet AG, Sir Speedy, and Vobis AG.
Competition
The market for software and services for the Internet is constantly evolving and
intensely competitive. We expect competition to intensify in the future. Many of
our current and potential competitors have greater financial, technical and
marketing resources than we do. We compete for small business customers with
software makers like Adobe Systems, Inc., Macromedia, Inc., and Microsoft. In
the online hosting and services market, we compete with providers like Trellix,
Netopia, Covia, Orbitcommerce, Kinzan, and many other companies that offer
online subscription services .
While we believe that NetObjects Fusion and NetObjects Matrix contain features
that significantly differentiate them from our competition, there is no
guarantee that we will be able to successfully compete with some of these
companies who have significant financial resources beyond ours.
Competitive factors in our market segments include:
o Features for creating, editing, and developing Web sites;
o Ease of use and interactive user features;
o The ability to integrate online services and site builders with partner
service offerings;
o Quality and reliability;
o Pricing;
o Scalability and cost per user;
o Compatibility with the user's existing computer systems; and
o The manner in which the software is distributed with other products.
To expand our partners' user bases and further enhance their users' experiences,
we must continue to innovate and improve the performance of our products and
services. We anticipate that consolidation will continue in the Web site
building products and services industry and related industries such as computer
software, media and communications. Consequently, our competitors may be
acquired by, receive investments from or enter into other commercial
relationships with larger, well-established and well-financed companies. There
can be no assurance that we can establish or sustain a leadership position in
our market segments.
New technologies and the enhancement of existing technologies will also likely
increase our competitive pressures. Competing technologies or the emergence of
new industry standards could adversely affect our competitive position or render
our products or technologies noncompetitive or obsolete. There is no assurance
that we will compete effectively with current or future competitors or that
competitive pressures will not harm our business and cause our revenues and
stock price to fall.
Technology and Development
We devote substantial resources to the development of innovative products and
services. During the fiscal year ended September 30, 2000, we invested
approximately 38% of our total revenues on research and development activities.
We believe that we have effectively leveraged our understanding of the small
business market, our technology opportunities and our staff and software
development processes to build robust, open solutions. We intend to use these
core strengths to introduce innovative new online services, products and product
enhancements for building, deploying and maintaining small business Web sites.
We expect to significantly reduce our research and development expenditures from
their current level, but intend to continue devoting substantial resources to
research and development.
To meet and exceed partner and end-user expectations, our online services and
products must be highly reliable and scalable. To achieve this goal, NetObjects
has employed leading technologies such as XML, server-side Java and Linux, along
with proven solutions from companies such as Oracle, Sun Microsystems, and Red
Hat.
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In addition to our products, product enhancements and core proprietary
technology, we have a highly skilled engineering workforce that includes
seasoned software industry veterans. As of September 30, 2000, we had 69
employees engaged in research and development activities. If we are unable to
retain the required number of skilled engineers, our business will be harmed,
our revenues could decline and our stock price may fall.
Intellectual Property
Our success depends in part on our ability to protect our proprietary software
and other intellectual property. To protect our proprietary rights, we rely
generally on patent, copyright, trademark and trade secret laws, confidentiality
agreements with employees and third parties, license agreements with
consultants, vendors and customers, and "shrink-wrap" license agreements.
Despite these protections, a third party could, without authorization, copy or
otherwise obtain and use our products, or develop similar products. There can be
no assurance that our agreements will not be breached, that we will have
adequate remedies for any breach or that our trade secrets will not otherwise
become known or independently developed by competitors.
We currently have several pending patents relating to our product architecture
and technology and have licensed two utility patents from Rae Technology, a
predecessor to our business that is controlled and majority owned by our CEO.
There can be no assurance that any pending or future patent application will be
granted, that any existing or future patent will not be challenged, invalidated
or circumvented or that the rights granted under any patent that has issued or
may issue will provide competitive advantages to us. If a blocking patent has
issued or issues in the future, we would need to obtain a license or design
around the patent. Except for patents licensed from Rae Technology, which we
have rights to acquire, there can be no assurance that we would be able to
obtain a license on acceptable terms, if at all, or to design around the patent.
We pursue the registration of some of our trademarks and service marks in the
United States and in other countries, although we have not secured registration
of all of our marks. Many of our current and potential competitors dedicate
substantially greater resources to protection and enforcement of intellectual
property rights. We are also aware of other companies that use "Fusion" or
"Matrix" in their marks alone or in combination with other words, such as
Allaire's ColdFusion, and we do not expect to be able to prevent third party
uses of the word "Fusion" or "Matrix" for competing goods and services. We have
agreed with Allaire that neither party will use the word "Fusion" to describe
products in the absence of appropriate brand identification, such as "NetObjects
Fusion."
The laws of some foreign countries do not protect our proprietary rights to the
same extent as do the laws of the United States, and effective patent,
copyright, trademark and trade secret protection may not be available in these
jurisdictions. We license some of our proprietary rights to third parties, and
there can be no assurance that these licensees will abide by compliance and
quality control guidelines with respect to our proprietary rights.
Employees
As of September 30, 2000, we had 176 full-time employees and 8 part-time
employees. More than 40 of these employees were working full-time in our
Enterprise Division as of September 30, 2000. We signed an agreement relating to
the sale of this division in December 2000 and, if the sale occurs, would not
retain most of the employees of the Enterprise Division. None of our employees
are subject to a collective bargaining agreement. We believe that our relations
with our employees are good. However, our future success will depend in part on
our continued ability to attract, integrate, retain and motivate highly
qualified sales, technical, professional services and managerial personnel, and
upon the continued service of our current personnel. To supplement our work
force, we also use independent contractors. None of our personnel is bound by an
employment agreement that prevents the person from terminating his or her
relationship with the Company at any time, for any reason. Competition for
qualified personnel is intense, especially in the San Francisco Bay Area. We
cannot guarantee that we will be successful in attracting, integrating,
retaining, and motivating a sufficient number of qualified personnel to conduct
our business in the future.
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RISK FACTORS
In addition to other information in this Form 10-K, the following risk factors
should be carefully considered in evaluating NetObjects and its business because
such factors currently may have a significant impact on NetObjects' business,
operating results and financial condition. As a result of the risk factors set
forth below and elsewhere in this Form 10-K, and the risks discussed in our
other Securities and Exchange Commission filings, actual results could differ
materially from those projected in any forward-looking statements.
Our ability to continue as a going concern is dependent on our raising
additional funds.
Without raising new proceeds from the sale of assets, debt or equity
financing, we will not have enough cash to remain in business. Our auditors,
KPMG LLP, in their independent auditors' report, have expressed "substantial
doubt" as to our ability to continue as a going concern. This doubt is based on
our significant operating losses since we were formed, and our insufficient
funds as of September 30, 2000 to finance our operations through fiscal year
2001. This doubt is also described in note 3 of the notes to our consolidated
financial statements.
We have a history of substantial losses and expect substantial losses in the
future.
We were incorporated in November 1995 and first recognized revenues in
October 1996. As of September 30, 2000, we had an accumulated deficit of
approximately $107 million. We expect to sustain significant losses for the
foreseeable future, which could harm our business and decrease the market price
of our stock.
To achieve and sustain profitability, we must, among other things,
increase substantially our revenues from our two principal products, NetObjects
Fusion and Matrix, and substantially increase our revenues from online services,
which have been insignificant to date.
Our revenues are declining and will be substantially lower in fiscal year 2001
as we change our business model.
We are changing our business model from one in which we have received
large up front license fees for the distribution of large numbers of copies of
NetObjects Fusion to one in which we intend to earn most of our revenues from
distribution arrangements with service providers that will pay us reduced
license fees and a percentage of their subscription revenues received from small
business subscribers. There can be no assurance that we will generate
substantial revenues under our new business model and we expect our revenues to
decline substantially in the current fiscal year in comparison to our revenues
in preceding fiscal years.
Our online services are new and have not received a broad customer acceptance.
Since inception, we have invested resources to create and enhance our
online services, which we believe support and add to market acceptance of our
products. With the acquisition of Sitematic Corporation, providing online
services to enable small businesses to conduct e-commerce has become an integral
part of our business growth strategy. Including the period during which
Sitematic operated these services they have been offered to customers generally
for less than 12 months. Together with our distribution partners, we must
attract a substantial number of small business subscribers for these services
for our online business to succeed. We may fail to attract these new customers,
which would hurt our business and could cause our stock price to fall.
We may not adequately adjust our operating expense to reflect the anticipated
reduction in revenue.
We must reduce our operating expenses relative to the anticipated
revenue reduction but anticipate that these expenses will substantially exceed
our revenues for at least fiscal year 2001. As a result, we expect our operating
expenses, as well as planned capital expenditures, to continue to constitute a
material use of our cash resources. In addition, we may require cash resources
to fund acquisitions or investments in complementary businesses, technologies or
product lines.
We may not be able to raise additional capital to fund our future operations.
We believe that our current cash and cash equivalents, are adequate to
finance our current level of operations only for a short period. We intend to
raise additional capital to fund future operations through the sale of our
Enterprise Division, and, if possible, the sale of additional equity securities,
new borrowings, some combination of debt and equity, or other available
transactions. We have not decided upon the timing, form or amount of capital
that we will seek and have no assurances of commitments that we will succeed in
raising additional capital by any means. If we fail to raise additional capital
to fund future operations our business, financial condition and results of
operations will be materially and adversely affected.
Our relationship with IBM has changed substantially over time.
While IBM owns a substantial percentage of our common stock and has
three representatives on our board of directors, it is under no obligation to
continue any business relationships with us. IBM is allowed to compete with us
or act in a manner that is disadvantageous to us.
Although we have contracts with IBM to bundle our products with their offerings,
we have no commitments for future revenues from IBM.
Revenues from IBM have been a substantial portion of our total
revenues, representing approximately 19%, 29% and 36% of our total revenues for
the years ended September 30, 2000, 1999 and 1998, respectively. Lotus also
currently markets, bundles and sells our products and has created foreign
language, or "localized," versions of our software, for which IBM pays us
reduced royalties on products that it sells outside the U.S. Lotus' obligation
to create localized versions of our software expired on December 31, 1999. We
may need to incur substantial additional expense to obtain localized versions of
new products or product upgrades from Lotus or other vendors if necessary to
satisfy the requirements of key customers.
We have a number of license and reseller agreements or arrangements
with IBM, many of which are subject to the terms of our 10-year license
agreement that expires in April 2007. We have no future revenue commitments from
IBM or Lotus.
We have business conflicts with IBM. IBM has chosen in the past and is free in
the future to promote and bundle competitors' products over our products.
Although we have been dependent on IBM, and IBM has provided
substantial support to us, IBM makes independent business and product decisions
that present conflicts with our business objectives.
IBM is free to sell its interest in us.
As of September 30, 2000 IBM owns approximately 48% of our common stock and
holds warrants that if exercised, would increase its ownership to approximately
49% of our outstanding voting securities. IBM has substantial influence over our
direction and management, and may be able to prevent or cause a change in
control of us and could take other actions that might be favorable to IBM and
potentially harmful to us.
9
<PAGE>
IBM can act in ways that may be disadvantageous to us, such as competing with
us, investing in our competitors and taking advantage of corporate
opportunities.
IBM is contractually or otherwise free to act in ways that may harm our
business. Our restated certificate of incorporation contains provisions
expressly acknowledging that:
o IBM retains "freedom of action" to conduct its business and pursue other
business opportunities, even in competition with us;
o IBM has no obligation to refrain from investing in our competitors, doing
business with our customers or hiring away our key personnel;
o no director appointed by IBM is prohibited from taking actions or from
voting on any action because of any actual or apparent conflict of interest
between that director and us; and
o These provisions materially limit the liability of IBM and its affiliates,
including IBM's representatives on our board of directors and Lotus, from
conduct and actions taken by IBM or its affiliates, even if the conduct or
actions are beneficial to IBM and harmful to us.
Furthermore:
o IBM is eligible to sell its stock subject to applicable securities laws,
contractual arrangements with the underwriters and the terms of a
registration rights agreement. IBM may transfer some or all of its stock,
including to our competitors. Such a transfer could result in a transfer of
IBM's interest in us, which could cause our revenues to decrease and our
stock price to fall; and
o IBM is under no obligation to inform us of any corporate opportunity and is
free to avail itself of any opportunity or to transfer the opportunity to a
third party.
Any of IBM's rights could give rise to conflicts of interests, and we
cannot be certain that any conflicts would be resolved in our favor. Any of the
risks arising from our relationship with IBM could harm our business and cause
our stock price to fall.
IBM could obtain and use our source code if we default on our
obligations under license agreements with IBM. Although our license agreements
with IBM contain restrictions on IBM's use and transfer of our software and
intellectual property, these restrictions are subject to exceptions. Under a
software license agreement with IBM, we have placed our key source code in
escrow for IBM's benefit. IBM may obtain access to the source code upon events
of default related to the Company's failure to provide required maintenance and
support or its bankruptcy or similar event of financial reorganization. IBM may
use the source code that it obtains to create derivative works, which it will
own subject to the Company's rights in the underlying software.
Our licensing arrangements with IBM are not exclusive and IBM is free
to enter into similar arrangements with our competitors. All of our licensing
arrangements with IBM are non-exclusive. IBM has the right to cease promoting
and distributing our software at any time. IBM may license its name, logo and
technology to, or invest in, other Web site building companies, and it may more
actively promote the services of our competitors.
We have many established competitors, and may be unable to compete effectively
against them.
The market for Web site building software and services for the Internet and
corporate intranets is relatively new, constantly evolving and intensely
competitive. We expect competition to intensify in the future. The market for
subscription based online Web site services for small businesses is new and
extremely competitive and may not develop as we anticipate or soon enough for us
to succeed in implementing this business model. Many of our current and
potential competitors have longer operating histories, greater name recognition
and significantly greater financial, technical and marketing resources, and we
may be unable to compete effectively against them. We compete for small business
customers with Web content software makers like Adobe, Macromedia, and
Microsoft; in the online Web hosting and services with providers like Verio,
Bigstep, Icat, and Yahoo store. For our Enterprise customers, we compete in the
Internet application development and services market with companies such as
Interwoven, and Vignette. Microsoft's FrontPage, a Web site building software
product, has a dominant market share. Microsoft bundles FrontPage 2000 in
several versions of the Office 2000 product suite that dominates the market for
desktop business application software.
10
<PAGE>
We may not be able to accurately forecast revenue and adjust spending.
We have a very limited operating history and limited experience in
forecasting our revenues. Changing our business increases uncertainty and
reduces our ability to forcast revenues accurately. Our expense levels are based
in part on our expectations of future revenues, and to a large extent those
expenses are fixed, particularly in the short-term. We cannot be certain that
our revenue expectations will be accurate or that we will be able to adjust
spending in a timely manner to compensate for any unexpected revenue shortfall.
Our operating results will probably fluctuate.
We believe that period-to-period comparisons of our financial results
are not necessarily meaningful, and you should not rely upon them as an
indication of our future performance. Going forward, our revenues from IBM, if
any, are likely to become more variable. The promptness with which sales data,
used for recognizing product royalties, are reported to us from third parties,
including IBM, may cause annual results to be more volatile.
We allow product returns and provide price protection to some purchasers and
resellers of our products and our allowances for product returns may be
inadequate.
We have stock-balancing programs for our software products that under
specified circumstances allow for the return of software by resellers. These
programs also provide for price protection for our software for some of our
direct and indirect channel resellers that, under specified conditions, entitle
the reseller to a credit if we reduce our price to similar channel resellers.
There can be no assurance that actual returns or price protection will not
exceed our estimates, and our estimation policy may cause significant
fluctuations.
Most of our revenues have been derived from sales of a single product, and a
decline in demand or the sale price of that product would harm our business and
cause our stock price to fall.
About 68% of our revenues from software license fees in fiscal 2000
were derived from versions of one of our products, NetObjects Fusion, and we
expect that this single product will continue to account for the majority of our
total revenues in the near-term. To remain competitive, software products
typically require frequent updates that add new features. There can be no
assurance that we will succeed in creating and selling updated or new versions
of NetObjects Fusion. A decline in demand for, or in the average selling price
of, NetObjects Fusion, whether as a result of new product introductions or price
competition from competitors, technological change or otherwise, would hurt our
business or cause our stock price to fall.
11
<PAGE>
We may not be able to expand our distribution channels or sales force.
We need to maintain our third-party distribution channel because our
direct sales to third parties would be insufficient to support our operating
base. While we derive some of our revenues from selling our products directly to
third parties, most of our revenues are derived from the sale of our products
through third-party distributors and resellers. There can be no assurance that
third parties will be willing or able to carry our products in the future. If
third parties were to reduce or cease carrying our products, our direct sales to
third parties would be insufficient to support our operating expense base.
We need to maintain and establish new bundling arrangements because we may be
less successful at selling our products on a stand-alone basis.
We believe that products that are not sold in a "suite" containing
software products or components that perform different functions are less likely
to be commercially successful. For example, NetObjects Fusion 5.0 includes
software products or components from different vendors such as Allaire
Corporation, IBM, iCat, Lotus and NetStudio. IBM also bundles our products with
some of its software products, such as the bundling of NetObjects Fusion with
WebSphere Studio and NetObjects Fusion with Lotus Designer Studio. NetObjects
Fusion is also bundled with Novell's NetWare for Small Business. We cannot be
assured of maintaining or obtaining suitable product or component bundling
arrangements with third parties. Failure to maintain and expand our distribution
channels or conclude suitable software product bundling arrangements could hurt
our business, cause our revenues to decrease and our stock price to fall.
Our products may contain defects that could subject us to liability in excess of
insurance limitations.
Our software products are complex and may contain undetected errors or
result in system failures. Despite extensive testing, errors could occur in any
of our current or future product offerings after commencement of commercial
shipments. Any errors could result in loss of or delay in revenues, loss of
market share, failure to achieve market acceptance, diversion of development
resources, and injury to our reputation or damage to our efforts to build brand
awareness. We cannot be certain that the contractual limitations of liability
will be enforceable, or that our insurance coverage will continue to be
available on reasonable terms or will be available in amounts to cover one or
more large claims, or that the insurer will not disclaim coverage as to any
future claim. The successful assertion of one or more large claims that exceed
available insurance coverage or changes in our insurance policies, including
premium increases or the imposition of large deductible or co-insurance
requirements, could cause our revenues to decrease and our stock price to fall.
If we fail to respond adequately to rapid technological changes, our existing
products and services will become obsolete or unmarketable.
The market for our products is marked by rapid technological change,
which leads to frequent new product introductions and enhancements, uncertain
product life cycles, changes in customer demands and evolving industry
standards. New Web site building products and services based on new technologies
or new industry standards could render our existing products obsolete and
unmarketable. We believe that to succeed, we must enhance our current products
and develop new products on a timely basis to keep pace with technological
developments and to satisfy the increasingly sophisticated requirements of our
customers.
12
<PAGE>
Our product and software development efforts are inherently difficult to manage
and keep on schedule, so development delays may increase our costs.
On occasion, we have experienced development delays and related cost
overruns, which to date have not materially affected our business, and we cannot
be certain that we will not encounter these problems in the future. Any delays
in developing and releasing enhanced or new products could cause our revenues to
decrease. In addition, we cannot be certain that we will successfully develop
and market new products or product enhancements that respond to technological
change, evolving industry standards or customer requirements, or that any
product innovations will achieve the market penetration or price stability
necessary for profitability.
The loss of our key personnel, or failure to hire additional personnel, could
harm our business because we would lose experienced personnel and new skilled
personnel are in short supply and command high salaries.
We depend on the continued service of our key personnel, and we expect
that we will need to hire additional personnel in all areas. The competition for
personnel throughout our industry is intense, particularly in the San Francisco
Bay Area, where our headquarters are located. We have experienced difficulties
in attracting new personnel, and all of our personnel, including our management,
may terminate their employment at any time for any reason. Currently, we are
dependent upon the services of Samir Arora, our President, Chief Executive
Officer, Chairman of the Board and one of our founders. The loss of Mr. Arora's
services would materially impede the operation and growth of our business at
this time. We do not maintain key person life insurance for any of our
personnel. Furthermore, our failure to attract new personnel or retain and
motivate our current personnel could hurt our business.
A third party could be prevented from acquiring your shares of stock at a
premium to the market price because of our anti-takeover provisions.
As of September 30, 2000 IBM owns approximately 48% of our outstanding
stock and holds warrants that if exercised, would increase its ownership to
approximately 49% of our outstanding voting securities. That ownership interest
and provisions of our restated certificate of incorporation, bylaws, a voting
agreement between us and IBM and Delaware law could make it more difficult for a
third party to acquire us, even if a change in control would result in the
purchase of your shares of common stock at a premium to the market price.
If we fail to adequately protect our intellectual property rights or face a
claim of intellectual property infringement by a third party, we could lose our
intellectual property rights or be liable for significant damages.
Trademarks and other proprietary rights are important to our success
and our competitive position. We seek to protect our trademarks and other
proprietary rights, but our actions may be inadequate to prevent
misappropriation or infringement of our technology, trademarks and other
proprietary rights or to prevent others from claiming violations of their
trademarks and other proprietary rights. Although we have obtained federal
registration of the trademark NetObjects Fusion, we know that other businesses
use the word "Fusion" in their marks alone or in combination with other works.
We do not believe that we will be able to prevent others from using the word
"Fusion" for competing goods and services. For example, Allaire markets its
application development and server software for Web development, including
applications for e-commerce, under the federally registered trademark
"ColdFusion." Under an agreement with Allaire Corporation, we have agreed that
neither company will identify its products and services with the single word
"Fusion," unless otherwise agreed as in the case of our co-bundled product
"Fusion2Fusion." Business customers may confuse our products and services with
similarly named brands, which could dilute our brand names or limit our ability
to build market share. To license many of our products, we rely in part on
"shrink-wrap" and "clickwrap" licenses that are not signed by the end user and,
therefore may be unenforceable under the laws of certain jurisdictions. In
addition, we may license content from third parties. We could become subject to
13
<PAGE>
infringement actions based upon these third-party licenses, and we could be
required to obtain licenses from other third parties to continue offering our
products.
We cannot be certain that we will be able to avoid significant
expenditures to protect our intellectual property rights, to defend against
third-party infringement or other claims or to license content from third
parties alleging that our products infringe their intellectual property rights.
Incurring significant expenditures to protect our intellectual property rights
or to defend against claims or to license content could decrease our revenues
and cause our stock price to fall.
Since we are no longer a majority-owned subsidiary of IBM, we no longer
enjoy cross-licensing protection that we received as an IBM subsidiary. We may
face material litigation risk associated with patent infringement claims that
IBM's patent cross-licensees could not assert against us while we were an IBM
subsidiary.
Our international operations continue to expand and may not be successful.
International sales represented approximately 38% of our total revenues
in the fiscal year ended September 30, 2000. We intend to expand the scope of
our international operations and currently have subsidiaries in the United
Kingdom and Germany. Our continued growth and profitability will require
continued expansion of our international operations, particularly in Europe.
Our international operations are, and any expanded international
operations will be, subject to a variety of risks associated with conducting
business internationally that could materially adversely affect our business,
including the following:
o difficulties in staffing and managing international operations;
o lower gross margins than in the United States;
o slower adoption of the Internet;
o longer payment cycles;
o fluctuations in currency exchange rates;
o seasonal reductions in business activity during the summer months in Europe
and other parts of the world;
o recessionary environments in foreign economies; and
o increases in tariffs, duties, price controls or other restrictions on
foreign currencies or trade barriers imposed by foreign countries.
Furthermore, the laws of foreign countries may provide little or no
protection of our intellectual property rights.
If Internet and intranet usage does not continue to grow, we will not be
successful.
Sales of our products and services depend in large part on the
emergence of the Internet as a viable commercial marketplace with a strong and
reliable infrastructure and on the growth of corporate intranets. Critical
issues concerning use of the Internet and intranets, including security,
reliability, cost, ease of use and quality of service, remain unresolved and may
inhibit the growth of, and the degree to which business is conducted over, the
Internet and intranets. Failure of the Internet and intranets to develop into
viable commercial mediums would harm our business and cause our revenues to
decrease and our stock price to fall.
Due to our small size, limited operations and the difficulty of hiring personnel
in our industry, any future acquisitions could strain our managerial,
operational and financial resources.
In the future we may make acquisitions of, or large investments in,
businesses that offer products, services and technologies that we believe would
help us better provide e-business Web site and intranet site building software
and services to businesses. Any future acquisitions or investments would present
risks such as difficulty in combining the technology, operations or workforce of
the acquired business with our own, disruption of our ongoing businesses and
difficulty in realizing the anticipated financial or strategic benefits of the
transaction.
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<PAGE>
To make these acquisitions or large investments we might use cash,
common stock or a combination of cash and common stock. If we use common stock,
these acquisitions could further dilute existing stockholders. Amortization of
goodwill or other intangible assets resulting from acquisitions, as in the case
of our acquisitions of Sitematic and Rocktide, could materially impair our
operating results and financial condition. Furthermore, there can be no
assurance that we would be able to obtain acquisition financing, or that any
acquisition, if consummated, would be smoothly integrated into our business. If
we make acquisitions or large investments and are unable to surmount these
risks, our business could be harmed, our revenues could decrease and our stock
price could fall.
We may become subject to burdensome government regulation and legal
uncertainties in areas including network security, encryption and privacy, among
others, because we conduct electronic commerce and provide information and
services over the Internet.
We are not currently subject to direct regulation by any governmental
agency, other than laws and regulations generally applicable to businesses,
although specific U.S. export controls and import controls of other countries,
including controls on the use of encryption technologies, may apply to our
products. Due to the increasing popularity and use of the Internet, it is
possible that a number of laws and regulations may be adopted in the United
States and abroad with particular applicability to the Internet. It is possible
that governments will enact legislation that may apply to us in areas such as
network security, encryption, the use of key escrow, data and privacy
protection, electronic authentication or "digital" signatures, illegal and
harmful content, access charges and retransmission activities. Moreover, the
applicability to the Internet of existing laws governing issues such as property
ownership, content, taxation, defamation and personal privacy is uncertain. Any
new legislation or regulation or governmental enforcement of existing
regulations may limit the growth of the Internet, increase our cost of doing
business or increase our legal exposure, any of which could cause our revenues
to decrease and our stock price to fall.
A governmental body could impose sales and other taxes on the sale of our
products, license of our technology or provision of services, which would harm
our financial condition.
We currently do not collect sales or similar taxes with respect to the
sale of products, license of technology or provision of services in states and
countries other than states in which we have offices. In October 1998, the
Internet Tax Freedom Act, or ITFA, was signed into law. Among other things, the
ITFA imposes a three-year moratorium on discriminatory taxes on e-commerce.
Nonetheless, foreign countries, or, following the moratorium, one or more
states, may seek to impose sales or other tax obligations on companies that
engage in online commerce within their jurisdictions. A successful assertion by
one or more states or any foreign country that we should collect sales or other
taxes on the sale of products, license of technology or provision of services or
remit payment of sales or other taxes for prior periods, could hurt our
business.
Our stock price might have wide fluctuations, and Internet-related stocks have
been particularly volatile.
The market price of our common stock is likely to be highly volatile
and could be subject to wide fluctuations. Recently, the stock market has
experienced significant price and volume fluctuations and the market prices of
securities of technology companies, particularly Internet-related companies,
have been highly volatile. Market fluctuations, as well as general political and
economic conditions, such as recession or interest rate or currency rate
fluctuations, could adversely affect the market price of our common stock.
15
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Item 2. Properties
Our executive offices are located in Redwood City, California. We
currently maintain five primary work locations listed below.
Redwood City San Diego Office
301 Galveston Drive 10350 Science Center Drive
Redwood City, Ca 94063 San Diego, Ca 92121
Approximate Sq footage: 26,000 Approximate Sq footage: 8,000
Lease Ends: 11/2002 Lease Ends: Nov 2000, two one-year
options remain
Berkeley Germany Office
2512 9th Street, Suite 3 Schatzbogen 56
Berkeley, Ca 94710 81829 Munich, Germany
Approximate Sq footage: 1,000 Approximate Sq footage: 6,000
Lease Ends: 02/2001 Lease Ends: 04/2005
United Kingdom
St. Mary's Court
The Broadway, Old Amersham
Bucks, HP7 OUT, United Kingdom
Approximate Sq footage: 400
Lease Ends: 08/2000
Item 3. Legal Proceedings
From time to time, we are subject to legal proceedings and claims in
the ordinary course of business, including claims of alleged infringement of
third-party trademarks and other intellectual property rights by our licensees
and us. These claims, even if not meritorious, could result in the expenditure
of significant financial and managerial resources. We are not aware of any legal
proceedings or claims that we believe would harm our business or cause our
revenues or stock price to fall.
Item 4. Submission of Matters to a Vote of Security Holders
No matter was submitted to a vote of stockholders during the fourth quarter of
the fiscal year covered by this report.
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
NetObjects, Inc. common stock is quoted on the Nasdaq National Market
under the symbol "NETO".
The following table sets forth the range of high and low closing sales
prices for each period indicated.
Quarter ending High Low
September 30, 2000 9.313 2.844
June 30, 2000 18.680 6.781
March 31, 2000 43.500 18.000
December 31, 1999 19.000 5.938
September 30, 1999 10.438 5.156
June 30, 1999 13.000 6.750
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The Company had approximately 250 shareholders of record as of November
30, 2000. The Company has not declared or paid any cash dividends on its common
stock and presently intends to retain its future earnings, if any, to fund the
development and growth of its business and, therefore, does not anticipate
paying any cash dividends in the foreseeable future.
17
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Item 6. Selected Financial Data
<TABLE>
The selected historical consolidated financial data presented below are
derived from our consolidated financial statements. The selected consolidated
financial data set forth below is qualified in its entirety by, and should be
read in conjunction with, "Management's Discussion and Analysis of Financial
Condition and Results of Operations," our consolidated financial statements, the
related notes and other financial information included herein.
<CAPTION>
September 30,
----------------------------------------------------------------------------
2000 1999 1998 1997 1996
------------ ------------ ------------ ------------ ------------
<S> <C> <C> <C> <C> <C>
Revenues:
Software license fees and online revenues $ 23,287 $ 13,566 $ 9,703 $ 7,392 $--
Service revenues 4,492 2,178 -- -- --
Software license fees from IBM 6,439 3,689 2,700 175 --
Service revenues from IBM -- 2,782 2,867 -- --
------------ ------------ ------------ ------------ ------------
Total revenues 34,218 22,215 15,270 7,567 --
Cost of revenues:
Software license fees and online revenues 5,285 1,817 2,531 772 --
Service revenues 6,004 2,295 -- -- --
Service revenues from IBM -- 2,113 2,562 -- --
------------ ------------ ------------ ------------ ------------
Total cost of revenues 11,289 6,225 5,093 772 --
------------ ------------ ------------ ------------ ------------
Gross profit 22,929 15,990 10,177 6,795 --
------------ ------------ ------------ ------------ ------------
Operating expenses:
Sales and marketing 28,377 18,800 17,114 12,161 2,998
Research and development 13,068 9,358 10,231 8,436 2,765
General and administrative 5,809 4,314 3,575 3,762 978
Amortization of goodwill 8,297 -- -- -- --
Stock-based compensation 626 559 227 -- --
In-process research and development 1,443 -- -- -- --
------------ ------------ ------------ ------------ ------------
Total operating expenses 57,620 33,031 31,147 24,359 6,741
------------ ------------ ------------ ------------ ------------
Operating loss (34,691) (17,041) (20,970) (17,564) (6,741)
------------ ------------ ------------ ------------ ------------
Interest income (expense) 962 (715) (1,194) (234) 46
Accretion of discount on debt -- (1,653) -- -- --
Interest on beneficial conversion
feature of convertible debt -- (7,457) -- -- --
------------ ------------ ------------ ------------ ------------
Loss before income taxes (33,729) (26,866) (22,164) (17,798) (6,695)
Income taxes (82) (44) (60) (1) --
------------ ------------ ------------ ------------ ------------
Net loss $ (33,811) $ (26,910) $ (22,224) $ (17,799) $ (6,695)
------------ ------------ ------------ ------------ ------------
Basic and diluted net loss per share $ (1.16) $ (2.40) $ (12.26) $ (10.45) $ (4.10)
============ ============ ============ ============ ============
Shares used to calculate basic and
diluted net loss per share 29,227,545 11,215,118 1,812,484 1,702,726 1,634,259
============ ============ ============ ============ ============
</TABLE>
18
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<TABLE>
<CAPTION>
September 30,
---------------------------------------------------------------------
2000 1999 1998 1997 1996
------------- ------------- ------------- ------------- -------------
Balance Sheet Data:
<S> <C> <C> <C> <C> <C>
Cash, cash equivalents and short-term investments $ 8,323 $ 32,954 $ 459 $ 303 $ 1,090
Working capital (deficit) 9,965 34,022 (30,229) (10,116) (1,749)
Short-term borrowings from IBM and IBM Credit Corp. -- -- 20,666 -- --
Long-term obligations, less current portion 57 54 336 633 173
Total assets 32,614 42,709 5,145 4,605 2,129
Accumulated deficit (107,439) (73,628) (46,718) (24,494) (6,695)
Stockholders' equity (deficit) 23,774 36,172 (28,925) (8,913) (1,357)
</TABLE>
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Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
This Management's Discussion and Analysis of Financial Condition and
Results of Operations should be read in conjunction with the accompanying
NetObjects, Inc. consolidated financial statements and notes included in this
report. This discussion contains forward-looking statements that involve risks
and uncertainties. Our actual results could differ materially from those
expressed or implied by these forward-looking statements as a result of various
factors, including the risk factors described in Risk Factors and elsewhere in
this report.
Overview
For fiscal 2000, we provided both online and software solutions that
enable small businesses to build, deploy and maintain Internet Web sites, and
applications to conduct e-business, and enable large enterprises to create
corporate intranets. Our revenues were derived principally from license fees
from our software products and, to a lesser extent, from fees on a range of
services for both small business and enterprise customers. For small business
and other customers we license NetObjects Fusion and offer online internet
hosting services. Our online business, announced in the quarter ended December
31, 1999 and branded GoBizGo, was established with the acquisition of Sitematic
Corporation in October 1999. For enterprise customers, we license NetObjects
Authoring Server and NetObjects Collage and offer consulting and design services
for creating corporate Web sites.
We earn revenues from software license fees through direct licenses to
enterprises, through important strategic relationships such as our relationships
with IBM and through our indirect (OEM) distribution channel. Professional
services and maintenance are typically sold through our direct sales
organization. Most of our software license fees to date have come from licenses
to our indirect distribution channel and OEM resellers. We derive our
international revenues primarily through our indirect distribution channel.
We recognize revenues from software license fees upon delivery of our
software products to our customers, net of allowances for estimated returns and
price protection, as long as we have no significant obligations remaining and we
believe that collection of the resulting receivable is probable. We provide most
of our distributors of software products with rights of return and record an
allowance for estimated future returns based upon our historical experience with
product returns by those distributors. Software license fees earned from
products bundled with OEM resellers are recognized upon delivery, if the OEM
vendor commits to a quantity and a fixed price with no right of return or, if
the volumes are not committed, then when the OEM resellers ship the bundled
products to their customers. We recognize service revenues as services are
rendered, or, if applicable, using the percentage-of-completion method. We defer
Web site hosting subscriptions, which typically are paid up-front, and recognize
these fees as revenue ratably over the terms of the respective contracts, which
range from 1 to 48 months. We defer recognition of maintenance fees, paid
primarily for support and upgrades, upon receipt of payment and recognize the
related revenues ratably over the term of the contract, which typically is 12
months. These payments generally are made in advance and are nonrefundable.
We acquired Sitematic Corporation in October 1999 in order to offer
online Web site building and hosting capabilities to small businesses. In
December 1999, we combined our online resources with the Sitematic offering and
launched GoBizGo.com. These combined services include Web site building
software, e-mail list management for communicating with customers, domain name
and search engine registration, auction export, relevant content information for
building and maintaining an e-business online, and Web hosting services.
Currently, our online business has two sources of revenue: subscriptions for
Web-hosting services provided directly to small businesses; and fees charged to
our GoBizGo business "partners" for establishing co-branded sites.
20
<PAGE>
In March 2000, we launched NetObjects Collage, an integrated platform
for the management of enterprise Web applications. NetObjects Collage provides
an integrated platform that combines collaboration with content management,
enterprise integration, and dynamic application services. We provide
professional services to help our customers install NetObjects Collage and to
train their personnel in the use and maintenance of corporate Web sites with
this product. In December 2000, we entered into an agreement relating to the
sale of the Enterprise Division and this product family. See "-- Recent
Developments", below.
In July of 2000, we acquired privately-held Rocktide Inc., for $3.6
million in NetObjects common stock and $0.4 million in cash. Rocktide is a
provider of the next generation application service provider (ASP) technology
and wireless e-Services that help Web-enable businesses worldwide. This product
technology was incorporated in our newly branded Matrix Platform, which was
launched on October 30, 2000.
During fiscal year 2000, our revenues derived from IBM represented
approximately 19% of our total revenues for the period versus 29% in fiscal year
1999. We believe that our revenues from IBM may fluctuate significantly from
quarter to quarter and will decline as an overall percentage of our annual
revenue. Please refer to "Risk Factors--Our Relationship with International
Business Machines Corporation, or IBM, has changed substantially over time. IBM
is under no obligation to continue any business relationships with us, and IBM
is allowed to compete with us or act in a manner that is disadvantageous to us."
In the first two quarters of fiscal 2000, the acquisition of Sitematic
incrementally increased our operating expenses as we shifted some of our
existing staff to support online services and built infrastructure to maintain
and grow our online business. In the quarter ended June 30, 2000, we reduced our
workforce by approximately 7%, primarily through a reduction in the number of
personnel assigned to our online services organization, which included some
individuals who joined us through the Sitematic acquisition. In July 2000 we
reduced our workforce by an additional 20%, as we began to focus primarily on
our online services business through our partner relationships.
We have incurred substantial net losses in each fiscal period since our
inception and, as of September 30, 2000, had an accumulated deficit of $107.4
million. Such net losses and accumulated deficit resulted primarily from the
significant costs incurred in the development of our products and establishing
our brand identity, marketing organization, domestic and international sales
channels, and general and administrative infrastructure. Our operating expenses
before goodwill amortization and other non-cash charges decreased in the fourth
quarter of fiscal year 2000, but we expect to continue to incur substantial
losses from operations for the foreseeable future.
Our future operating results must be considered in light of our limited
operating history and the risks, expenses and difficulties frequently
encountered by companies in early stages of development, particularly companies
in rapidly evolving markets such as the market for Web site building software
and services.
Our business model is undergoing a major transformation, as we shift
from a predominately software license revenue model, to one driven and sustained
by online subscription revenue. To achieve our new business objectives we will
need to do the following:
o Become a leading supplier of B2B online services for partners that
reach small business;
o Continue to develop successfully new versions of our product
offerings;
21
<PAGE>
o Continue to be a leading provider of e-business product solutions
for building Web sites, and of online services for small
businesses;
o Respond quickly and effectively to competitive, market, and
technological developments;
o Control expenses;
o Continue to attract, train, and retain qualified personnel in the
competitive online marketplace; and
o Maintain existing relationships and establish new relationships
with leading Internet hardware, software and online companies,
such as our existing OEM resellers.
There can be no assurance that we will achieve or sustain
profitability. Moreover, particularly as we transition to our new business
model, we may be unable to adjust spending in a timely manner to compensate for
both anticipated and unanticipated revenue shortfalls. Accordingly, any
significant shortfall of revenues in relation to expectations would cause
significant declines in operating results.
Due to the foregoing factors, we believe that period-to-period
comparisons of historical operating results should not be relied upon as an
indication of future performance. Also, operating results may fall below our
expectations or the expectations of securities analysts or investors in some
future quarter and our stock price may decline substantially.
22
<PAGE>
Results of Operations
Years Ended September 30, 2000 and 1999
Revenues. Total revenues increased to approximately $34.2 million from
approximately $22.2 million for 2000 and 1999, respectively. The increase of 54%
year over year was primarily due to growth of our domestic and international
partner agreements, in which NetObjects Fusion products and related intellectual
property were bundled with products offered by our partners, as well as growth
of license sales to IBM. In addition, our enterprise business, which is
comprised of license and service offerings, grew substantially from the same
period in the previous fiscal year, due to continued expansion of our sales
organization and new product introductions.
For fiscal years 2000 and 1999, international revenues were $10 million
and $4.5 million or 29% and 23% of total revenues, respectively. The increase in
the amount of international revenues from the last fiscal year resulted mainly
from new OEM arrangements with Internet service providers (ISP) in Europe.
IBM software license fees for fiscal years 2000 and 1999 were $6.4
million and $3.7 million, respectively. The increase was due to increased
purchases of NetObjects Fusion 5.0 to be bundled with one of IBM's product
offerings.
In the current year, we had no IBM revenue from services as compared to
approximately $2.8 million in fiscal 1999. Our contract to provide services to
IBM ended in the second quarter of fiscal 1999. We do not anticipate additional
service revenue from IBM in the future.
Cost of Revenues. We recorded $5.3 million cost of software license
fees and online revenue for the year ended September 30, 2000 as compared to
$1.8 million cost incurred for the year ended September 30, 1999. The increase
was attributable to the cost of bundling Web hosting with Fusion 5.0 and to
royalties due to third parties for integrated technology.
Our cost of services increased to $6 million from $2.3 million in the
year ended ended September 30, 2000 and 1999, respectively. The increase was
driven by the revenue growth in services and our investment in staffing to
handle this growth.
Gross margins for the year ended September 30, 2000 were 67% versus 72%
for the previous fiscal year. The decrease in gross margin was due to the
increase in the costs associated with the bundling of Web hosting with Fusion
5.0 and to increased royalties due to third parties.
Sales and Marketing. Sales and marketing expenses were approximately
$28.4 million and $18.8 million for the year ended September 30, 2000 and 1999,
respectively, representing 83% and 85%, respectively, of total revenues for each
period. The increased amount resulted primarily from personnel growth in our
enterprise division, increased European marketing expenses, increased sales
commissions, and costs related to the continued development and implementation
of our branding and marketing campaigns.
Research and Development. Research and development expenses were
approximately $13.1 million and $9.4 million for the year ended September 30,
2000 and 1999, respectively, representing approximately 38% and 42%,
respectively, of total revenues for each period. The increase in research and
development expenses was due to higher staffing levels than the previous period,
costs associated with the release of NetObjects Collage, and the costs of
ongoing product development.
General and Administrative. General and administrative expenses were
approximately $5.8 million and $4.3 million for the year ended September 30,
2000 and 1999, respectively, representing approximately 17% and 19%, of total
revenues for each period. The decrease as a percentage of revenue resulted from
23
<PAGE>
faster revenue growth than expense growth. The increase in costs is due to
increased staffing levels and related expenses, as well as increased
professional services needed to operate a public company.
Amortization of Intangible Assets. Amortization of goodwill and related
intangible assets increased to $8.3 million from $0 for the year ended September
30, 2000 and 1999, respectively. The change is attributable to the purchase of
Sitematic Corporation in October 1999 and the purchase of Rocktide Corporation
in July 2000. In connection with the acquisitions, the company recorded $19
million of goodwill which is being amortized over two years. During fiscal 2000,
the Company recorded $8.3 million in amortization expense.
Stock-Based Compensation. For both years ended September 30, 2000 and
1999, we incurred stock-based compensation charges of approximately $0.6
million. These stock-based compensation charges are being amortized on an
accelerated basis over the vesting period of the options in a manner consistent
with Financial Accounting Standards Board (FASB) Interpretation No. 28.
Other Income (Expense). We earned interest income of $1.0 million for
the year ended September 30, 2000. The interest income was the result of the
investment of funds obtained at our initial public offering ("IPO") in May 1999.
Interest expense was immaterial for the fiscal year ended September 30, 2000.
Income Taxes. We recorded an income tax provision of approximately
$82,000 in the fiscal year ended September 30, 2000 for our international
operations.
Years Ended September 30, 1999 and 1998
Revenues. Total revenues increased to $22.2 million for the year ended
September 30, 1999 from $15.3 million for the year ended September 30, 1998. The
increase was attributable to additional license fees for NetObjects Fusion, the
introduction of NetObjects Authoring Server, and related services. Our software
license revenues were $17.3 million and $12.4 million for the years ended
September 30, 1999 and 1998, respectively. Software license revenue from IBM was
$3.7 million and $2.7 million, respectively, for the two fiscal years.
For the fiscal year ended September 30, 1999 services revenues were
approximately $5.0 million, compared to $2.9 million for the year ended
September 30, 1998. Of these amounts, $2.8 million represented services provided
to IBM in fiscal 1999. The remaining $2.2 million in fiscal 1999 was derived
from our newly formed professional services group.
International sales of software licenses grew steadily over the same
period, increasing to $4.5 million in fiscal 1999 from $2.5 million in fiscal
1998. Increased international sales resulted primarily from increased licenses
of NetObjects Fusion through our distributors in Europe. Total international
revenues, which include the sale of software licenses and services, were 23% and
16% of total revenues for the fiscal years ended September 30, 1999 and 1998,
respectively.
Revenues from IBM were 29% and 36% of total revenues for the fiscal
years ended September 30, 1999, and 1998, respectively. Service revenue from IBM
declined slightly with the expiration of the WebSphere contract. IBM license
fees increased by 37% over the entire period, primarily during the first half of
the year.
Cost of Revenues. The cost of software license fees was approximately
$1.8 million and $2.5 million for the years ended September 30, 1999 and 1998,
respectively, representing approximately 8% and 17%, respectively, of total
revenues. The improvement in percentage terms from fiscal 1998 to fiscal 1999
resulted primarily from better inventory management, more favorable freight
contract terms, and a better sales channel mix.
24
<PAGE>
The cost of service for our new professional services group was $2.3
million, with a gross margin of (-5%). The loss reflected our initial startup
costs for this business in its first year of operation.
Cost of revenues from the sale of services to IBM and affiliates was
approximately $2.1 million and $2.6 million for the years ended September 30,
1999 and 1998, respectively.
Overall our gross margin improved from 67% for the year ended September
30, 1998 to 72% for the year ended September 30, 1999.
Sales and Marketing. Our sales and marketing expenses were
approximately $18.8 million and $17.1 million for the years ended September 30,
1999 and 1998, respectively, representing approximately 85% and 112%
respectively, of total revenues. The increased expenses in fiscal 1999 resulted
primarily from growth in the number of sales personnel, increased sales
commissions and costs related to the continued development and implementation of
our branding and marketing campaigns. The decrease in percentage terms occurred
as revenues grew at a faster rate than expenses.
Research and Development. Our research and development expenses were
approximately $9.4 million and $10.2 million for the years ended September 30,
1999 and 1998, respectively, which was 42% and 67% respectively, of total
revenues. The decrease in percentage terms occurred as revenues grew at a faster
rate than expenses. The savings were achieved through reductions in contractor
costs and selective staffing reductions.
General and Administrative. Our general and administrative expenses
were approximately $4.3 million and $3.6 million for the years ended September
30, 1999 and 1998, respectively, representing approximately 19% and 23%
respectively, of total revenues. The decrease in percentage terms occurred as
revenues grew at a faster rate than expenses. The increase in expenses in fiscal
1999 resulted primarily from hiring additional personnel and related personnel
expenses, as well as increased professional fees needed to operate a public
company.
Interest expense. Interest expense was $0.7 million and $1.0 million
for the years ended September 30, 1999 and 1998, respectively. In fiscal 1999,
we recorded a charge to earnings of $9.1 million, compared to $200,000 in fiscal
1998. Of this amount, approximately $7.5 million was recognized in connection
with the "in-the-money" convertible notes totaling $10.9 million that we issued
to IBM and Perseus Capital LLC during October 1998, and was recorded as interest
expense in accordance with EITF Topic D-60 for the fiscal year ended September
30, 1999. The remaining $1.6 million charge recorded during fiscal 1999 was an
accretion of discount resulting from Series E-2 and Series F warrants issued in
connection with loans obtained from IBM, IBM Credit Corp, and Perseus Capital
LLC in fiscal 1999. The value of the attached warrants, and the resulting
interest expense was determined using a Black-Scholes option-pricing model. We
recorded $200,000 in charges during fiscal 1998.
Liquidity and Capital Resources
As of September 30, 2000, we had cash, cash equivalents and short-term
investments totaling $8.3 million, a decrease of $24.6 million from September
30, 1999. The decrease was primarily due to losses from continuing operations
and the Sitematic acquisition which required the payment in cash of
approximately $2.0 million, which includes approximately $1.6 million paid to
Sitematic preferred stockholders and transaction costs of $0.4 million.
Net cash used in operating activities was $24.0 million and $25.9
million for the twelve months ended September 30, 2000 and 1999, respectively.
For the period ended September 30, 2000, net cash used in operating activities
included a decrease in accounts receivable of approximately $0.2 million, and an
increase of $3.0 million in prepaid expenses related to prepaid royalty
expenses. Adjustments to reconcile net loss to net cash used in operating
activities for the period ended September 30, 2000
25
<PAGE>
included amortization of goodwill of approximately $8.4 million related to the
Sitematic and Rocktide acquisitions. Net cash used in operating activities in
the period ended September 30, 1999 included the recognition of $4.3 million in
deferred revenues from IBM. Adjustments to reconcile net loss to net cash used
in operating expenses for the period ended September 30, 1999 included noncash
interest of $7.5 million on the conversion feature of debt held by IBM and a
related party.
Net cash provided by investing activities was $5.9 million for the
twelve months ended September 30, 2000 as compared to $2.0 million net cash used
in investing activities for the twelve months ended September 30, 1999. The
change during 2000 was primarily attributable to the payment of cash to
Sitematic stockholders for their preferred stock, offset by the maturity of
short-term investments. The increase for the year ended September 30, 1999 was
attributable to expenditures for new leasehold improvements as the Company moved
from smaller facilities to its current location and to operating loans provided
to Sitematic Corporation in August 1999.
Net cash provided by financing activities was approximately $2.9
million for the twelve months ended September 30, 2000 as compared to $60.5
million for the twelve months ended September 30, 1999. Net cash provided by
financing activities for the period ended September 30, 2000 consisted primarily
of proceeds from the exercise of stock options by employees. Net cash provided
by financing activities for the period ended September 30, 1999 reflected
proceeds from borrowings of $16.3 million, the issuance of preferred stock of
$5.2 million, and the issuance of common stock in our initial public offering,
which yielded $65.6 million net of offering costs offset by the repayment of
short-term notes of $24.4 million.
Recent Developments
On October 18, 2000, the Company signed an agreement to acquire all of
the shares of privately held MyComputer.com, Inc. of Orem, Utah for
approximately $51 million of common stock and cash, and to pay up to $6 million
in additional shares of common stock based on future performance of the acquired
business. Under the agreement, the Company agreed to advance interim operating
funds to MyComputer, depending upon the length of time between the date of the
agreement and the closing. The Company also agreed to reimburse up to $300,000
for legal, accounting and other expenses of MyComputer relating to the
transaction; if the transaction failed to close by December 1, 2000. The
agreement and the proposed acquisition were terminated in December 2000. The
Company loaned a total of $2.25 million to MyComputer under this agreement. All
of the loans were made under notes bearing interest at the prime rate and
maturing on October 18, 2001. The Company canceled $375,000 of this indebtedness
upon termination of the agreement, as provided by its terms. The remaining
indebtedness, which totals $1.875 million, will convert into MyComputer
preferred stock that is issued in an equity financing of at least $15.0 million
prior to October 18, 2001. We have not received notice from MyComputer of any
such financing and cannot be assured that MyComputer will receive such financing
or be able to repay the notes issued to us.
On December 13, 2000, we borrowed $750,000 from IBM under a note
bearing interest of 10% per annum. This note will be repaid on January 3, 2001.
On December 21, 2000 we signed an option and license agreement under
which we received $4 million in cash for an exclusive option to purchase the
Enterprise Division for $18 million. If the sale is completed, the option
payment will be credited in full towards the purchase price. The option to
acquire the Enterprise Division will expire on January 5, 2001, if a definitive
agreement for the purchase of the Enterprise Division has not been signed by
that date, or by such later date as may be agreed upon by both companies. If the
acquisition is not completed, the potential acquirer will have a three-year
license to distribute NetObjects Collage and the $4 million option payment will
be credited against future royalty payment obligations under the license
agreement. Completion of the acqisition is subject to the negotiation and
execution of a definitive agreement, which would be subject to customary closing
conditions. Accordingly, there can be no assurances that the sale of the
Enterprise division will occur.
We expect our operating expenses, as well as planned capital
expenditures, to continue to constitute a material use of our cash resources. In
addition, we will require cash resources to fund acquisitions or investments in
complementary businesses, technologies or product lines. We intend to raise
additional capital to fund future operations through the sale of our Enterprise
Division, the sale of additional equity securities, new borrowings, some
combination of debt and equity, or other available transactions. We have no
assurances or commitments that we will succeed in raising additional capital by
any means. If we fail to raise additional capital to fund future operations we
will be unable to continue our business.
Recent Accounting Pronouncements
In June 1998, FASB issued Statement of Financial Accounting Standards
(SFAS) no. 133, "Accounting for Derivative Instruments and Hedging Activities."
As amended by SFAS No. 137 and 138, SFAS No. 133 establishes methods of
accounting for derivative financial instruments and hedging activities related
to those instruments as well as other hedging activities. In accordance with
SFAS No. 137, issued by the FASB in June 1999 and which deferred the
implementation of SFAS No. 133, the Company has adopted SFAS No. 133 in the
first quarter of fiscal 2001. To date the Company's investments in derivative
instruments have not been significant and the Company has not engaged in any
hedging activities. Accordingly, the Company has evaluated the effects of
adopting SFAS No. 133 and has determined that it will not have a material
impact on its financial statements, cashflows or results of operations.
In December 1999, the Securities and Exchange Commission (SEC) issued
Staff Accounting Bulletin (SAB) No. 101, "Revenue Recognition in Financial
Statements," which provides guidance related to revenue recognition based on
interpretations and practices followed by the SEC and requires companies to
report any changes in revenue recognition as a cumulative change in accounting
principle at the time of implementation in accordance with Accounting Principles
Board opinion 20, "Accounting Changes." SAB No. 101A and 101B were issued to
delay the implementation of SAB No. 101. The Company anticipates that the
adoption of SAB No. 101 will not have a material impact on its financial
position, results of operations or cashflows. The Company will adopt SAB No. 101
in the fourth quarter of fiscal 2001.
26
<PAGE>
Quarterly Results of Operations
<TABLE>
The following table sets forth certain unaudited quarterly results of
operations data for the eight quarters ended September 30, 2000. We believe that
this information has been prepared substantially on the same basis as the
audited consolidated financial statements appearing elsewhere in this
prospectus, and all necessary adjustments, consisting only of normal recurring
adjustments, have been included in the amounts stated below to present fairly
the unaudited quarterly results of operations. The quarterly data should be read
in conjunction with our audited consolidated financial statements and notes to
consolidated financial statements appearing elsewhere in this prospectus.
<CAPTION>
30-Sep-00 30-Jun-00 31-Mar-00 31-Dec-99 30-Sep-99 30-Jun-99 31-Mar-99 31-Dec-98
-------- -------- -------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Revenues:
Software license fees $ 3,912 $ 6,911 $ 6,803 $ 5,662 $ 4,569 $ 3,452 $ 2,923 $ 2,622
Service revenues 1,264 1,098 1,170 959 863 685 440 190
Software license fees from IBM 250 2,650 2,251 1,288 374 980 1,017 1,318
Service revenues from IBM -- -- -- -- -- 49 1,246 1,487
-------- -------- -------- -------- -------- -------- -------- --------
Total revenues 5,426 10,659 10,224 7,909 5,806 5,166 5,626 5,617
Cost of revenues:
Software license fees 2,194 1,708 839 544 382 487 453 495
Royalty adjustment -- -- (1,418) 1,418 -- -- -- --
Service revenues 1,361 1,572 1,846 1,225 751 820 540 184
IBM service revenues -- -- -- -- -- 21 688 1,404
-------- -------- -------- -------- -------- -------- -------- --------
Total cost of revenues 3,555 3,280 1,267 3,187 1,133 1,328 1,681 2,083
Gross profit 1,871 7,379 8,957 4,722 4,673 3,838 3,945 3,534
Operating expenses:
Sales and marketing 5,714 7,701 9,015 5,947 4,806 4,968 4,596 4,430
Research and development 3,194 3,485 3,160 3,229 3,026 2,347 1,781 2,204
General and administrative 1,450 1,652 1,323 1,384 1,316 1,032 1,072 894
Amortization of intangible assets 2,247 2,017 2,017 2,016 -- -- -- --
Stock-based compensation 274 2 144 206 155 234 70 100
In Process R&D 1,443 -- -- -- -- -- -- --
-------- -------- -------- -------- -------- -------- -------- --------
Total operating expenses 14,322 14,857 15,659 12,782 9,303 8,581 7,519 7,628
Operating loss (12,451) (7,478) (6,702) (8,060) (4,630) (4,743) (3,574) (4,094)
Interest income (expense) 129 183 276 374 492 (93) (603) (511)
Accretion of discount on debt -- -- -- -- -- (1,054) (408) (191)
Interest charge on
beneficial conversion
feature of convertible debt -- -- -- -- -- -- (3,665) (3,792)
-------- -------- -------- -------- -------- -------- -------- --------
Loss before income taxes (12,322) (7,295) (6,426) (7,686) (4,138) (5,890) (8,250) (8,588)
Income taxes 19 39 12 12 42 -- -- 2
-------- -------- -------- -------- -------- -------- -------- --------
Net loss (12,341) (7,334) (6,438) (7,698) (4,180) (5,890) (8,250) (8,590)
-------- -------- -------- -------- -------- -------- -------- --------
Translation adjustment (17) (22) (9) (11) (20) -- -- (10)
-------- -------- -------- -------- -------- -------- -------- --------
Comprehensive loss $(12,358) $ (7,356) $ (6,447) $ (7,709) $ (4,200) $ (5,890) $ (8,250) $ (8,600)
======== ======== ======== ======== ======== ======== ======== ========
</TABLE>
27
<PAGE>
The operating results for any quarter are not necessarily indicative of
the operating results for any future period.
Our total revenues fluctuate from quarter to quarter due to many
factors, including new product and product upgrade introductions. In addition,
we attempt to limit sales of existing products during the months preceding the
release of upgraded products in order to reduce returns of the older product
from some of our direct and indirect channel resellers. The timing of our
recognition of revenues from strategic arrangements with other companies has
contributed to fluctuations in revenues from quarter to quarter. During the
three months ended September 30, 2000, we had no IBM revenue from services as
compared to previous quarters and earned license fees of $250,000 from IBM. We
have no ongoing commitments from IBM that will generate significant revenues for
us.
As a result of our limited operating history and the emerging nature of
the markets in which we compete, we are unable to forecast accurately our
revenues. The success of our business and our revenue growth to date have
depended on our ability to create Web site building software that appeals to our
customers, to update our main product, NetObjects Fusion, with new features and
to release and deliver new versions of NetObjects Fusion on time. We need to
develop new products. Failure to do so will materially affect the amount and
timing of future revenues. Furthermore, $10.5 million of cash prepayments under
our license agreement with IBM have provided some revenue certainty from April
1997, through June 30, 1999. Our future revenues from IBM, if any, will continue
to be variable.
Our expense levels are based in part on our expectations with regard to
future revenues. We may be unable to adjust spending in a timely manner to
compensate for any unexpected revenues shortfall. As a result, any significant
shortfall in demand for our products and services relative to our expectations
would harm our business and cause our revenues to decrease. Further, as a
strategic response to changes in the competitive environment, we may from time
to time implement pricing, service or marketing changes that could have a
material adverse effect on our business, prospects, financial condition and
results of operations. See "-- Overview," above for additional factors affecting
quarterly operating results.
In addition to fluctuations in revenues from IBM and other third party
distributors, our revenues have become more variable due to factors such as our
decision to focus our sales activities on NetObjects Matrix rather than OEM
licenses of NetObjects Fusion, our planned sale of the Enterprise Division and
the uncertainty of generating significant revenues from small business
subscriptions for online services.
Other factors contributing to uncertainty and fluctuations in our
quarterly operating results seasonal demand for our products and services, for
example, annual reductions in sales in Europe in July and August, costs of
litigation and intellectual property protection, technical difficulties with
respect to the use of our products, general economic conditions and economic
conditions specifically related to businesses dependent upon the Internet. The
promptness with which sales and licensing data, used in recognizing product
royalties, is delivered to us from third parties also may affect quarterly
operating results. It often is difficult to forecast the effect these factors,
would have on our results of operations for any given fiscal quarter.
Due to the factors noted above, it is likely that in some future
quarters our operating results will fall below the expectations of securities
analysts and investors, which would harm our business and cause our stock price
to fall.
28
<PAGE>
Item 7A. Qualitative and Quantitative Disclosures About Market Risk
Our exposure to market risks for changes in interest rates relates
primarily to investments in debt securities issued by U.S. government agencies
and corporate debt securities. We place our investments with high quality credit
issuers and, by policy, limit the amount of the credit exposure to any one
issuer. We manage interest rate risk by limiting investments to debt securities
of relatively short maturities.
At September 30, 2000, we had cash and cash equivalents of $8.3
million, including approximately $1.4 million in money market funds and $1.0
million invested in high-grade commercial paper issued by U.S. companies, with
maturities of less than 90 days. We have classified these debt securities as
available for sale.
Our general policy is to limit the risk of principal loss and ensure
the safety of invested funds by limiting market and credit risk. All highly
liquid investments with a maturity of three months or less at the date of
purchase are considered to be cash equivalents; investments with maturities
greater than three months are considered to be short-term investments. Our
investment policy limits purchases of debt securities to maturities of three
months or less.
To date, we have not purchased or sold forward contracts to hedge
foreign currency exposure, since the relative amounts of international revenue
generated by us have not been large enough to make hedging cost-effective.
Item 8. Financial Statements and Supplemenatary Data
Reference is made to the financial statements listed under the heading
"(a)(1) Financial Statements and Report of KPMG LLP" of Item 14, which financial
statements are incorporated by reference in response to this Item 8.
29
<PAGE>
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure.
None.
Part III
Item 10. Directors and Executive Officers of the Registrant
The response to this item is incorporated by reference from the
Sections titled "Management" and "Section 16(A) Beneficial Ownership Reporting
Compliance" in the Registrant's Proxy Statement for its 2001 Annual Meeting of
Stockholders.
Item 11. Executive Compensation
The response to this item is incorporated by reference from the Section
titled "Executive Compensation", but not from the Sections titled "Executive
Compensation--Performance Graph" and "Executive Compensation--Report on
Executive Compensation by the Compensation and Management Development Committee
of the Board of Directors", in the Registrant's Proxy Statement for its 2001
Annual Meeting of Stockholders.
Item 12. Security Ownership of Certain Beneficial Owners and Management
The response to this item is incorporated by reference from the Section
titled "Share Ownership: in the Registrant's Proxy Statement for its 2001 Annual
Meeting of Stockholders.
Item 13. Certain Relationships and Related Transactions
The response to this item is incorporated by reference from the Section
titled "Certain Relationships and Related Transactions" in the Registrant's
Proxy Statement for its 2001 Annual Meeting of Stockholders.
Part IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K
(a) The following documents are filed as part of this report:
(1) Financial Statements and Report of KPMG LLP, which are set forth
in the index to Consolidated Financial Statements on pages F-1
through F-28 of this report.
Page
Independent Auditors Report ............................................ F-2
Consolidated Balance Sheets as of September 30, 2000
and 1999...................................................... F-3
Consolidated Statement of Operations and Comprehensive Loss for
the years ended September 30, 2000, 1999, and 1998............. F-4
Consolidated Statements of Stockholders' Equity (Deficit) for
the years ended September 30, 2000, 1999 and 1998.............. F-5
Consolidated Statements of Cash Flows for the years
ended September 30, 2000, 1999, and 1998....................... F-7
Notes to Consolidated Financial Statements.............................. F-8
(2) Financial Statement Schedules.
<TABLE>
Schedule II - Valuation and Qualifying Accounts
<CAPTION>
BALANCE AT ADDITIONS
BEGINNING OF CHARGED TO BALANCE AT
PERIOD EXPENSE DEDUCTIONS END OF PERIOD
-------------------- -- ------------------ -- ------------------ -- --------------------
Accounts Receivable Reserve
<S> <C> <C> <C> <C>
Year ended September 30, 1998 756 4,691 (3,184) 2,263
Year ended September 30, 1999 2,263 1,698 (3,053) 908
Year ended September 30, 2000 908 2,372 (1,965) 1,315
</TABLE>
(3) Exhibits
31
<PAGE>
Item 14. Exhibits and Financial Statement Schedules.
Exhibit
Number Description of Document
------ -----------------------
2.1+++ Agreement and Plan of Reorganization with Sitematic Corporation
dated of October 4, 1999
2.2 Agreement and Plan of Reorganization with Rocktide, Inc. dated
as of July 7, 2000.
3.1.1++++ Restated Certificate of Incorporation of the Registrant
3.2.1+ Bylaws of the Registrant
4.1+ Specimen Stock Certificate
4.3+ Form of Series E Preferred Stock Warrant
4.4+ Form of Series E-2 Preferred Stock Warrant
4.5+ Form of Series F Preferred Stock Warrant
9.1+ Voting Agreement between NetObjects, Inc. and International
Business Machines
10.1.1+ NetObjects, Inc. Amended and Restated 1997 Stock Option Plan
10.1.2+ Form of Stock Option Agreement under the 1997 Stock Option Plan
10.1.3+ Form of Restricted Stock Purchase Agreement under the 1997
Stock Option Plan
10.1.4+ Form of Restricted Stock Transfer Agreement under the 1997
Stock Option Plan
10.1.5++ Form of Executive Stock Option Agreement
10.2+ NetObjects, Inc. 1997 Special Stock Option Plan
10.3.1+ Amended 1999 Employee Stock Purchase Plan
10.4+ IBM Software License Agreement (NetObjects License Agreement
#L97063) by and between NetObjects and IBM dated as of March
18, 1997
10.4.1+ Amendment Number 1 to NetObjects License Agreement L97063 dated
as of April 30, 1997
10.4.2+ Second Amendment to NetObjects License Agreement L97063 dated
as of October 7, 1997
10.4.3+ Third Amendment to NetObjects License Agreement L97063 dated as
of December 16, 1997
10.4.4+ Fourth Amendment to NetObjects License Agreement L97063 dated
as of April 27, 1998
10.4.5+ Fifth Amendment to NetObjects License Agreement L97063 dated as
of January 14, 1999
10.4.6+ Amendment No. 6 to NetObjects License Agreement L97063 dated as
of September 18, 1998
10.4.7+ Seventh Amendment to NetObjects License Agreement L97063
effective January 15, 1999
10.4.8+ Eighth Amendment to NetObjects License Agreement L97063 dated
September 18, 1998
10.4.9+ Amendment No. 9 to NetObjects License Agreement effective
January 21, 1999
10.4.10+ Amendment No. 10 to NetObjects License Agreement dated as of
February 4, 1999
10.4.11+ Letter Agreement modifying NetObjects License Agreement L97063
dated as of February 6, 1998
10.4.12+ Letter Agreement modifying NetObjects License Agreement L97063
dated as of June 30, 1998
10.4.13+ Letter Agreement modifying NetObjects License Agreement L97063
dated as of January 14, 1999
10.4.14+ Letter Agreement modifying NetObjects License Agreement L97063
dated as of March 25, 1999
32
<PAGE>
10.5+ IBM Patent License Agreement by and between NetObjects and IBM
dated as of April 10, 1997
10.6+ Lease Agreement by and between NetObjects and Metropolitan Life
Insurance Company dated July 24, 1998
10.7+ Lease Agreement by and between NetObjects Limited and HQ
Executive Offices (UK)
33
<PAGE>
LTD dated February 15, 1999
10.10+ Technology Transfer Agreement between Rae Technology, Inc. and
NetObjects, Inc. dated February 2, 1996
10.10.1+ Amendment to Technology Transfer Agreement by and between Rae
Technology and NetObjects dated as of March 18, 1997
10.11+ Patent Transfer and License Agreement by and between Rae
Technology LLC and NetObjects, Inc. dated as of April 10, 1997,
as amended
10.12+ Technology License Agreement by and between NetObjects and
Clement Mok Designs dated as of December 21, 1995
10.13+ Distribution Agreement by and between Ingram Micro, Inc. and
NetObjects, Inc. dated March 6, 1997
10.14+ Commercial Application Partner Agreement by and between Sybase,
Inc. and NetObjects, Inc. dated June 30, 1997
10.15+ Master Distributor Agreement by and between Mitsubishi
Corporation and NetObjects, Inc. dated September 30, 1997
10.16+ Standard Inbound License Agreement by and between NetObjects
and Novell effective September 30, 1998
10.16.1+ Amendment to Standard Inbound License Agreement by and between
NetObjects and Novell effective April 2, 1999
10.17+ Build-It License Agreement dated as of February 2, 1999
10.18+ IBM Trademark License Agreement dated as of January 19, 1999
10.19+ Letter Agreement by and between NetObjects and John Sculley
dated February 3, 1999
10.20+ Sun Microsystems, Inc. Porting Agreement by and between Sun
Microsystems, Inc. and NetObjects dated as of March 26, 1999
10.21+ Employment Agreement between Russell F. Surmanek and NetObjects
dated as of April 5, 1999
10.22+ Distribution Agreement by and between Lotus Development
Corporation and NetObjects dated as of April 21, 1999
10.23 Promissory Note from Samir Arora to the Company dated September
28, 2000
10.24 Option Agreement with [***] dated as of December 19,
2000
16.1+ Letter from Ernst & Young LLP dated February 5, 1999 regarding
change in certifying accountant
21.1 Subsidiaries of the Registrant
23.1 Consent of KPMG LLP, Independent Auditors
24.1 Power of attorney (included on the signature page of this Form
S-1)
27.1 Financial Data Schedule
--------------
+ Incorporated by reference to the same-numbered exhibit to our Registration
Statement on Form S-1, as amended, originally filed February 5, 1999, declared
effective May 7, 1999 (Commission File No. 333-71893).
++ Incorporated by reference to the form of Executive Option Agreement filed as
Exhibit A to the Registrant's preliminary proxy statement, filed with the
Securities and Exchange Commission on January 28, 2000 (No. 000-25427).
+++ Incorporated by reference to the Sitematic Agreement and Plan of
Reorganization filed as an exhibit to the Form 8-K filed with the Securities and
Exchange Commission on October 19, 1999.
++++ Incorporated by reference to the same numbered exhibit to our Registration
Statement on Form S-3 filed on June 6, 2000 (Commission File No. 333-36990).
(b) On July 27, 2000, we filed a report on Form 8-K with respect to the
acquisition of Rocktide, Inc.
[***] omitted pursuant to a request for confidential treatment.
34
<PAGE>
Signatures
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this amendment to be signed
on its behalf by the undersigned, thereunto duly authorized, on the __th day of
December, 2000.
/s/ Samir Arora
----------------------------------------------------
Samir Arora
Chairman of the Board, Chief Executive Officer,
and President (principal executive officer)
/s/ Russell Surmanek
----------------------------------------------------
Russell Surmanek
Executive Vice President, Finance & Operations,
and Chief Financial Officer
(principal financial officer)
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature
appears below constitutes and appoints Samir Arora and Russell R. Surmanek, and
each of them, his true and lawful attorneys-in-fact, each with full power of
substitution, for him in any and all capacities, to sign any amendments to this
report on Form 10-K and to file the same, with exhibits thereto and other
documents in connection therewith, with the Securities and Exchange Commission,
hereby ratifying and confirming all that each of said attorneys-in-fact or their
substitute or substitutes may do or cause to be done by virtue hereof.
<TABLE>
Pursuant to the requirements of the Securities Exchange Act of 1934,
this amendment has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated:
<CAPTION>
<S> <C> <C>
/s/ Samir Arora
--------------------------- Chairman of the Board, Chief Executive Officer, December 29, 2000
Samir Arora and President
/s/ Russell F. Surmanek
--------------------------- Executive Vice President, Finance & Operations, December 29, 2000
Russell F. Surmanek and Chief Financial Officer
/s/ Robert G. Anderegg
--------------------------- Director December 29, 2000
Robert G. Anderegg
/s/ Lee A. Dayton
--------------------------- Director December 29, 2000
Lee A. Dayton
/s/ Blake Modersitzki
--------------------------- Director December 29, 2000
Blake Modersitzki
/s/ Michael D. Zisman
--------------------------- Director December 29, 2000
Michael D. Zisman
</TABLE>
35
<PAGE>
NetObjects, Inc and subsidiaries
Index to Consolidated Financial Statements and Financial Statement Schedule
Page
Independent Auditors Report ............................................ F-2
Consolidated Balance Sheets as of September 30, 2000
and 1999...................................................... F-3
Consolidated Statement of Operations and Comprehensive Loss for
the years ended September 30, 2000, 1999, and 1998............. F-4
Consolidated Statements of Stockholders' Equity (Deficit) for
the years ended September 30, 2000, 1999 and 1998.............. F-5
Consolidated Statements of Cash Flows for the years
ended September 30, 2000, 1999, and 1998....................... F-7
Notes to Consolidated Financial Statements.............................. F-8
<PAGE>
Independent Auditors' Report
The Board of Directors and Stockholders
NetObjects, Inc.:
We have audited the accompanying consolidated balance sheets of
NetObjects, Inc. and subsidiaries as of September 30, 2000 and 1999, and the
related consolidated statements of operations and comprehensive loss,
stockholders' equity (deficit), and cash flows for each of the years in the
three-year period ended September 30, 2000. In connection with our audits of the
consolidated financial statements, we also have audited the related financial
statement schedule. These consolidated financial statements and financial
statement schedule are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements and financial statement schedule based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. 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 audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of NetObjects,
Inc. and subsidiaries as of September 30, 2000 and 1999, and the results of
their operations and their cash flows for each of the years in the three-year
period ended September 30, 2000, in conformity with accounting principles
generally accepted in the United States of America. Also in our opinion, the
related financial statement schedule, when considered in relation to the basic
consolidated financial statements taken as a whole, presents fairly, in all
material respects, the information set forth therein.
The accompanying consolidated financial statements have been prepared
assuming that the Company will continue as a going concern. As discussed in Note
3 to the consolidated financial statements, the Company has suffered recurring
losses from operations that raises substantial doubt about its ability to
continue as a going concern. Management's plans in regard to these matters are
also described in Note 3. The consolidated financial statements do not include
any adjustments that might result from the outcome of this uncertainty.
KPMG LLP
Mountain View, California
November 7, 2000 except as to Note 14
which is as of December 21, 2000
F-2
<PAGE>
NETOBJECTS, INC.
AND SUBSIDIARIES
Consolidated Balance Sheets
(In thousands, except share and per share data)
September September
30, 2000 30, 1999
----------- -----------
Assets
Cash and cash equivalents $ 8,323 $ 23,623
Short-term investments -- 9,331
Accounts receivable, net of allowance for
doubtful accounts of $1,315 and $908 at
September 30, 2000 and 1999, respectively 5,647 5,643
IBM trade receivable 250 422
Prepaid expenses 3,892 848
Other current assets 636 638
----------- -----------
Total current assets 18,748 40,505
Property and equipment, net 2,700 2,204
Intangible assets, net of amortization
of $8,297 and $0 as of
September 30, 2000 and 1999, respectively 10,690 --
Other long-term assets 476 --
----------- -----------
Total Assets $ 32,614 $ 42,709
=========== ===========
Liabilities & Stockholders' Equity
Accounts payable $ 944 $ 2,489
Accrued compensation 1,337 1,068
Other accrued liabilities 3,900 1,657
Deferred revenue 2,434 988
Current portion of capital lease obligations 168 281
----------- -----------
Total current liabilities 8,783 6,483
Capital lease obligations, less current portion 57 54
----------- -----------
Total liabilities 8,840 6,537
Stockholders' Equity:
Preferred stock, $0.01 par value,
6,000,000 and 0 shares authorized as of
September 30, 2000 and 1999, respectively
No shares issued and outstanding as of
September 30, 2000 and 1999 -- --
Common stock, $0.01 par value. 120,000,000 and
60,000,000 shares authorized as of
September 30, 2000 and 1999, respectively;
31,632,125 and 24,755,960 shares
issued and outstanding at
September 30, 2000 and 1999, respectively 316 248
Additional paid-in capital 132,007 110,810
Deferred stock-based compensation (423) (1,205)
Notes receivable from stockholders (598) (23)
Accumulated other comprehensive losses (89) (30)
Accumulated deficit (107,439) (73,628)
----------- -----------
Total stockholders' equity 23,774 36,172
----------- -----------
Total liabilities and stockholders' equity $ 32,614 $ 42,709
=========== ===========
The accompanying notes are an integral part of these
consolidated financial statements.
F-3
<PAGE>
<TABLE>
NETOBJECTS, INC.
AND SUBSIDIARIES
Consolidated Statement of Operations and Comprehensive Loss
(In thousands, except share and per share data)
<CAPTION>
Year ended September 30,
--------------------------------------------
2000 1999 1998
------------ ------------ ------------
<S> <C> <C> <C>
Revenues:
Software license fees and online revenues $ 23,287 $ 13,566 $ 9,703
Service revenues 4,492 2,178 --
Software license fees from IBM 6,439 3,689 2,700
Service revenues from IBM -- 2,782 2,867
------------ ------------ ------------
Total revenues 34,218 22,215 15,270
Cost of revenues:
Software license fees and online revenues 5,285 1,817 2,531
Service revenues 6,004 2,295 --
Service revenues from IBM -- 2,113 2,562
------------ ------------ ------------
Total cost of revenues 11,289 6,225 5,093
------------ ------------ ------------
Gross profit 22,929 15,990 10,177
------------ ------------ ------------
Operating expenses:
Sales and marketing 28,377 18,800 17,114
Research and development 13,068 9,358 10,231
General and administrative 5,809 4,314 3,575
Amortization of goodwill 8,297 -- --
Stock-based compensation 626 559 227
In process research and development 1,443 -- --
------------ ------------ ------------
Total operating expenses 57,620 33,031 31,147
------------ ------------ ------------
Operating loss (34,691) (17,041) (20,970)
------------ ------------ ------------
Interest income (expense) 962 (715) (1,194)
Accretion of discount on debt -- (1,653) --
Interest on beneficial conversion
feature of convertible debt -- (7,457) --
------------ ------------ ------------
Loss before income taxes (33,729) (26,866) (22,164)
Income taxes 82 44 60
------------ ------------ ------------
Net loss $ (33,811) $ (26,910) $ (22,224)
------------ ------------ ------------
Translation adjustment (59) (30) --
------------ ------------ ------------
Comprehensive loss $ (33,870) $ (26,940) $ (22,224)
============ ============ ============
Basic and diluted net loss per share $ (1.16) $ (2.40) $ (12.26)
============ ============ ============
Shares used to calculate basic and diluted
net loss per share 29,227,545 11,215,118 1,812,484
============ ============ ============
<FN>
The accompanying notes are an integral part of these consolidated
financial statements.
</FN>
</TABLE>
F-4
<PAGE>
<TABLE>
NETOBJECTS INC. AND SUBSIDIARIES
Consolidated Statements of Stockholders' Equity (Deficit)
Three Years Ended September 30, 2000, 1999, 1998
(In thousands)
<CAPTION>
Preferred Stock Common Stock
----------------- -----------------
Notes
Shares Amount Shares Amount Additional Deferred Receivable
Paid in Stock from
Capital Compensation Stockholders
-------- ------ -------- -------- ------------ ------------ ------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at September 30, 1997 11,395 $ 107 1,857 $ 18 $ 15,599 $ -- $ (143)
Exercise of stock options 144 2 89
Issuance of common stock 18 116
Repurchase of restricted stock (18) (2)
Warrant to purchase Series F preferred stock 535
Issuance of Series E preferred stock 182 2 1,213
Repayment of stockholder notes receivable 30
Deferred compensation related to stock option 768 (768)
grants
Amortization of stock-based compensation 227
Net loss
-------- ------ -------- -------- ------------ ------------ ------------
Balance at September 30, 1998 11,577 109 2,001 20 18,318 (541) (113)
Exercise of stock options 541 5 588
Issuance of common stock to non-employees 33 316
Issuance of common stock pursuant to ESPP 13 76
Repurchase of restricted stock (30) (6)
Warrants exercised 652 7 1,181
Warrants to purchase Series E preferred stock 120
Issuance of in-the-money convertible debt and
warrants to purchase Series E preferred stock 8,776
Issuance of Series F preferred stock, net of
$30 in issuance costs 389 4 3,466
Issuance of Series E preferred stock, net of
$67 in issuance costs 82 1 482
Cashless exercise of C warrants for common
stock 1,356 14 (14)
Issuance of common stock at IPO, net of
$7,076 in issuance costs 6,000 60 64,862
Conversion of Series A,C,E and F preferred
stock to common stock (12,700) (121) 12,700 127 (6)
Convertible debt and interest converted to
common stock 2,142 22 11,428
Repayment of stockholder notes receivable 90
Deferred compensation related to stock option
grants 1,223 (1,223)
</TABLE>
<TABLE>
Accumulated Total
Other Accumulated Stockholders'
Comprehensive Loss Deficit Equity (Deficit)
------------------- ----------- ----------------
<S> <C> <C> <C>
Balance at September 30, 1997 $ -- $ (24,494) $ (8,913)
Exercise of stock options 91
Issuance of common stock 116
Repurchase of restricted stock (2)
Warrant to purchase Series F preferred stock 535
Issuance of Series E preferred stock 1,215
Repayment of stockholder notes receivable 30
Deferred compensation related to stock option
grants --
Amortization of stock-based compensation 227
Net loss (22,224) (22,224)
------------------- ----------- ----------------
Balance at September 30, 1998 -- (46,718) (28,925)
Exercise of stock options 593
Issuance of common stock to non-employees 316
Issuance of common stock pursuant to ESPP 76
Repurchase of restricted stock (6)
Warrants exercised 1,188
Warrants to purchase Series E preferred stock 120
Issuance of in-the-money convertible debt and 8,776
warrants to purchase Series E preferred stock
Issuance of Series F preferred stock, net of
$30 in issuance costs 3,470
Issuance of Series E preferred stock, net of
$67 in issuance costs 483
Cashless exercise of C warrants for common
stock --
Issuance of common stock at IPO, net of
$7,076 in issuance costs 64,922
Conversion of Series A,C,E and F preferred
stock to common stock --
Convertible debt and interest converted to
common stock 11,450
Repayment of stockholder notes receivable 90
Deferred compensation related to stock option
grants --
</TABLE>
F-5
<PAGE>
<TABLE>
<CAPTION>
Preferred Stock Common Stock
----------------- -----------------
Notes
Shares Amount Shares Amount Additional Deferred Receivable
Paid in Stock from
Capital Compensation Stockholders
-------- ------ -------- -------- ------------ ------------ ------------
<S> <C> <C> <C> <C> <C> <C> <C>
Amortization of stock-based compensation 559
Translation adjustment
Net loss
-------- ------ -------- -------- ------------ ------------ ------------
Balance at September 30, 1999 -- -- 24,756 248 110,810 (1,205) (23)
Issuance of common stock for Sitematic
Corporation acquisition 2,005 20 13,458
Issuance of common stock for Rocktide
Corporation acquisition 458 5 3,595
Exercised warrants for cash 51 551
Cashless exercise of warrants for common stock 3,163 32 (32)
Exercise of stock options 1,124 11 3,394
Issuance of shareholder notes receivable (575)
Issuance of common stock pursuant to ESPP 75 360
Deferred compensation related to stock option 211 (184)
grants
Cancellation of deferred compensation (340) 340
Amortization of deferred compensation 626
Translation adjustment
Net loss
-------- ------ -------- -------- ------------ ------------ ------------
Balance at September 30, 2000 -- $ -- 31,632 $ 316 $ 132,007 $ (423) $ (598)
======== ====== ======== ======== ============ ============ ============
</TABLE>
<TABLE>
<CAPTION>
Accumulated Total
Other Accumulated Stockholders'
Comprehensive Loss Deficit Equity (Deficit)
------------------- ----------- ----------------
<S> <C> <C> <C>
Amortization of stock-based compensation 559
Translation adjustment (30) (30)
Net loss (26,910) (26,910)
------------------- ----------- ----------------
Balance at September 30, 1999 (30) (73,628) 36,172
Issuance of common stock for Sitematic
Corporation acquisition 13,478
Issuance of common stock for Rocktide
Corporation acquisition 3,600
Exercised warrants for cash 551
Cashless exercise of warrants for common stock --
Exercise of stock options 3,405
Issuance of shareholder notes receivable (575)
Issuance of common stock pursuant to ESPP 360
Deferred compensation related to stock option 27
grants
Cancellation of deferred compensation --
Amortization of deferred compensation 626
Translation adjustment (59) (59)
Net loss (33,811) (33,811)
------------------- ----------- ----------------
Balance at September 30, 2000 $ (89) $ (107,439) $ 23,774
=================== ============== ================
<FN>
The accompanying notes are an integral part of these consolidated
financial statements.
</FN>
</TABLE>
F-6
<PAGE>
<TABLE>
NETOBJECTS, INC.
AND SUBSIDIARY
Consolidated Statements of Cash Flows
(In thousands)
<CAPTION>
Year ended September 30,
-----------------------------------
2000 1999 1998
-----------------------------------
<S> <C> <C> <C>
Cash used in operating activities:
Net loss $(33,870) $(26,940) $(22,224)
Adjustments to reconcile net loss to net
cash used in operating activities:
Depreciation 1,555 1,119 1,104
Accretion of discount on borrowings -- 1,653 201
Nonrecurring interest charge on
beneficial conversion feature of
convertible debt -- 7,457 --
Amortization of intangible assets 8,410 -- --
Amortization of deferred stock-based compensation 626 559 227
Allowance for doubtful accounts and returns 406 (1,355) 1,508
Changes in operating assets and liabilities:
Accounts receivable (179) (2,417) (1,782)
Prepaid expenses (3,044) (234) (306)
Other current assets 448 -- --
Accounts payable (1,763) (1,919) 2,205
Accrued compensation 269 (622) 649
Other accrued liabilities 1,660 810 382
Deferred revenue 1,394 (4,301) (999)
Interest payable -- 321 --
-------- -------- --------
Net cash used in operating activities (24,088) (25,869) (19,036)
-------- -------- --------
Cash provided by (used in) investing activities:
Purchases of property and equipment (1,798) (1,684) (792)
Cash paid for Sitematic Corporation, net of cash acquired (1,297) -- --
Bridge loan to Sitematic Corporation -- (500) --
Cash paid for Rocktide Corporation, net of cash acquired (360)
Purchase of short-term investments -- (16,000) --
Maturities of short-term investments 9,331 6,669 --
-------- -------- --------
Net cash provided by (used in)
investing activities 5,876 (11,515) (792)
-------- -------- --------
Cash provided by financing activities:
Proceeds from short-term borrowings -- 3,421 21,000
Repayments of short-term borrowings -- (24,421) (2,050)
Proceeds from convertible debt -- 12,910 --
Repayment of convertible debt -- (2,000) --
Payment on capital lease obligations (339) (298) (300)
Proceeds from issuance of preferred stock,
net of issuance costs -- 5,262 1,215
Proceeds from issuance of common stock,
net of issuance costs 3,826 65,584 91
Repurchases of common stock -- -- (2)
Issuance of stockholder notes receivable (575) -- --
Repayment of stockholder notes receivable -- 90 30
-------- -------- --------
Net cash provided by financing activities 2,912 60,548 19,984
-------- -------- --------
Effect of exchange rate changes on cash (59) (30) --
Net increase (decrease) in cash (15,241) 23,164 156
Cash and cash equivalents at beginning of period 23,623 459 303
-------- -------- --------
Cash and cash equivalents at end of period $ 8,323 $ 23,623 $ 459
======== ======== ========
Supplemental disclosures of cash flow information:
Interest paid $ -- $ 1,471 $ 753
Noncash investing and financing activities:
Equipment recorded under capital leases $ -- $ 335 $ 634
Discount on borrowings $ -- $ 1,653 $ 535
Stock issued in exchange for services $ -- $ 316 $ --
Issuance of common stock for acquisitions $ 17,078 $ -- $ --
In process research and development $ 1,443 $ -- $ --
Deferred stock-based compensation $ 123 $ 1,223 $ 768
<FN>
The accompanying notes are an integral part of these consolidated financial statements
</FN>
</TABLE>
F-7
<PAGE>
NETOBJECTS, INC. AND SUBISIDIARIES
Notes to Consolidated Financial Statements
1. Description of the Business
The Company was incorporated in Delaware on November 21, 1995 and
became a majority-owned subsidiary of IBM on April 11, 1997. In fiscal 1998, the
Company changed its fiscal year end from September 30 to the Saturday nearest
September 30. For presentation purposes, the consolidated financial statements
and notes refer to the calendar month end.
On May 7, 1999, the Company completed its initial public offering. At
that time, all series of convertible preferred shares outstanding were converted
to common stock.
On October 4, 1999 NetObjects acquired Sitematic Corporation and issued
common stock that brought IBM's ownership to less than 50%. See Note 13.
On July 14, 2000 NetObjects acquired Rocktide Corporation and issued
common stock that brought IBM's ownership to 48%. See Note 13.
On September 29, 2000, the Company entered into an agreement with
IBIZU, Inc. a private company (IBIZU) pursuant to which the Company acquired a
preferred equity interest in IBIZU in exchange for the transfer of certain
technology rights developed by the Company. The Company accounts for this
investment using the equity method of accounting.
On October 18, 2000, the Company signed an agreement to acquire all of
the shares of privately held MyComputer.com, Inc. See note 13.
NetObjects provides software, solutions, and services that enable small
businesses to build, deploy, maintain Web sites online, provide online services,
and conduct e-business; and enable large enterprises to effectively create and
manage corporate intranets.
2. Summary of Significant Accounting Policies
F-8
<PAGE>
NETOBJECTS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
Consolidation Principles
The accompanying consolidated financial statements include the accounts
of NetObjects, Inc. and its wholly owned subsidiaries, NetObjects, Ltd.,
Sitematic Corporation and Rocktide Corporation (collectively, the "Company" or
"NetObjects"). All intercompany transactions have been eliminated in
consolidation.
Estimates and Assumptions
In preparing these financial statements, management has made estimates
and assumptions that effect the reported amounts of assets, liabilities,
revenues and expenses and disclosures of contingent assets and liabilities at
the date of the consolidated financial statements. Actual results may differ
from these estimates.
Equity Investments
Where the company has investments in which it has the ability to
exercise significant influence over operating and financial policies, the
investments are accounted for using the equity method. Accordingly, the
Company's share of income/(loss) in the investments is included in other
operating income. To date, the effect of such amounts on net loss has not been
material.
Foreign Currency Translation
The functional currency of the Company's foreign subsidiary is its
local currency. Adjustments arising from the translation of the subsidiary's
financial statements are reported in other comprehensive income. Exchange gains
and losses arising from transactions denominated in a currency other than the
functional currency of the subsidiary are included in net income. To date, the
effect of such amounts on net loss has not been material.
Revenue Recognition
The Company recognizes revenue in accordance with American Institute of
Certified Public Accountants (AICPA) Statement of Position (SOP) 97-2, Software
Revenue Recognition, as amended by SOP 98-9, Software Revenue Recognition with
respect to certain arrangements.
Under SOP 97-2, software license revenue is recognized upon delivery of
the software, when persuasive evidence of an agreement exists, and provided the
fee is fixed, determinable, and collectible, and the arrangement does not
involve significant customization of the software. Maintenance and service
revenue are recognized on a straight-line basis over the term of the maintenance
agreement. In addition, SOP 97-2 generally requires revenue earned on software
arrangements involving multiple elements to be allocated to each element based
on the relative fair values of the elements.
F-9
<PAGE>
NETOBJECTS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
The fair value of an element must be based on evidence that is specific
to the vendor. If a vendor does not have evidence of the fair value for all
delivered elements in a multiple-element arrangement, revenue is recognized
under the `residual method' in accordance with SOP 98-9. Under the `residual
method', the total fair value of the undelivered elements is deferred, and the
residual revenue is recorded upon delivery in accordance with SOP 97-2. When
evidence of fair value of the undelivered items does not exist, all revenue from
the arrangement is deferred until such evidence exists or until all elements are
delivered.
Software license fees are generally recognized upon delivery to
distributors, net of an allowance for estimated returns, price protection and
rebates, provided no significant obligations of the Company remain and
collection for the resulting receivable is probable. The Company receives on
hand inventory and sales information from its significant distributors on a
periodic basis. The allowance for returns and price protection is determined
based on a comparison of on hand inventory in the distribution channel to
historical sales made by the distributors to their respective customers. This
analysis is performed on a product line basis to estimate potential excess
inventory in the distribution channel. The allowance for rebates is based upon
contractual rebate rates certain distributors earn upon selling products to
their respective customers. Software license fees earned from products bundled
with original equipment manufacturer's (OEM) products are recognized either
upfront, if the OEM vendor commits to a quantity and a fixed price with no right
of return or, if the volumes are not committed, upon the OEM shipping bundled
products to its customer. IBM and Lotus are considered OEMs for purposes of this
accounting policy. See Note 11 for a discussion of software license fees from
IBM.
Service revenue from maintenance agreements for support and upgrades of
existing products, online services and hosting are deferred and recognized
ratably over the term of the contract, which typically is 12 months. Service
revenue for training and consulting services are recognized as the services are
performed. See Note 11 for a discussion of service revenue from IBM.
Prior to October 1, 1999, the Company recognized revenue in accordance
with American Institute of Certified Public Accountants (AICPA) Statement of
Position (SOP) 91-1, Software Revenue Recognition. Software license fees were
generally recognized upon delivery to distributors, net of an allowance for
estimated returns, price protection and rebates, provided no significant
obligations of the Company remained and collection of the resulting receivable
was probable.
Property and Equipment
Fixed assets are stated at cost and depreciated over the useful life of
the related asset on a straight-line basis. Leasehold improvements and assets
recorded under capital leases are amortized on a straight-line basis over the
lesser of the related asset's estimated useful life or the remaining lease term.
F-10
<PAGE>
NETOBJECTS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
The estimated useful life for each category are:
Asset Category Estimated Useful Life
-------------- ---------------------
Office equipment 5 years
Furniture and fixtures 5 years
Computer equipment 3 years
Tradeshow equipment 3 years
Software 3 years
Goodwill and Other Intangible Assets
The Company records goodwill when the cost of net identifiable assets
it acquires exceeds their fair value. Goodwill, purchased technology and other
intangible assets are amortized on a straight-line basis over an estimated
useful life of 2 years.
Long Lived Assets
The Company regularly performs reviews to determine if the carrying
value of long-lived assets is impaired. The purpose for the review is to
identify any facts or circumstances, either internal or external, which indicate
that the carrying value of the asset cannot be recovered. No such impairment has
been indicated to date. If, in the future, management determines the existence
of impairment indicators, the Company would use undiscounted cash flows to
initially determine whether impairment should be recognized. If necessary, the
Company would perform a subsequent calculation to measure the amount of the
impairment loss based on the excess of the carrying value over the fair value of
the impaired assets. If quoted market prices for the assets are not available,
the fair value would be calculated using the present value of estimated expected
future cash flows. The cash flow calculation would be based on management's best
estimates, using appropriate assumptions and projections at the time.
Stock-Based Compensation
The Company accounts for its stock-based compensation plans using the
intrinsic value method. Deferred stock-based compensation expense is recorded
if, on the date of the grant, the current market value of the underlying stock
exceeds the exercise price. The Company amortizes deferred stock-based
compensation in accordance with Financial Accounting Standards Board (FASB)
Interpretation 28.
Net Loss Per Share
Basic net loss per share is computed using the weighted-average number
of outstanding shares of common stock, excluding shares of common stock subject
to repurchase. Diluted net loss per share is computed using the weighted-average
number of shares of common stock outstanding and, when dilutive, potential
common shares from stock subject to repurchase, options and warrants to purchase
common stock using the treasury stock method and from convertible securities on
an "as if-converted" basis. All potential
F-11
<PAGE>
NETOBJECTS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
common shares have been excluded from the computation of diluted net loss per
share for all periods presented because the effect would have been antidilutive.
Diluted net loss per share for the year ended September 30, 2000, does
not include the effect of approximately 336,528 stock options with a
weighted-average exercise price of $7.70 per share, 7,375,534 common stock
warrants with a weighted-average exercise price of $9.20 per share, or 32,849
shares of common stock issued and subject to repurchase at a weighted-average
exercise price of $0.16, because their effects are antidilutive.
Diluted net loss per share for the year ended September 30, 1999, does
not include the effect of approximately 3,045,869 stock options with a
weighted-average exercise price of $4.42 per share, 4,614,550 common stock
warrants with a weighted-average exercise price of $7.49 per share, or 37,594
shares of common stock issued and subject to repurchase at a weighted-average
exercise price of $0.12, because their effects are antidilutive.
Diluted net loss per share for the year ended September 30, 1998, does
not include the effect of approximately 11,576,937 (on an "as if-converted"
basis) shares of convertible preferred stock outstanding, 2,466,694 stock
options with a weighted-average exercise price of $1.32 per share, 6,650,006
preferred stock warrants with a weighted-average exercise price of $5.60 per
share, or 88,177 shares of common stock issued and subject to repurchase at a
weighted-average exercise price of $0.12, because their effects are
antidilutive.
Research and Development
Research and development costs are expensed as incurred up to the point
that technological feasibility is established. To date, the Company has not
capitalized any software development costs as software development has been
completed concurrent with the establishment of technological feasibility.
Income Taxes
The Company's tax provision for all years has been calculated on a
stand-alone basis using the asset and liability method. Under this method,
deferred tax liabilities and assets are recognized for the expected future tax
consequences attributable to differences between the carrying amounts and the
tax bases of assets and liabilities. Deferred tax assets and liabilities are
measured using enacted tax rates expected to apply to taxable income in the
years in which those temporary differences are expected to be recovered or
settled. The effect on deferred tax assets and liabilities of a change in tax
rates is recognized in income in the period that includes the enactment date. A
valuation allowance is recorded to reduce deferred tax assets to an amount whose
realization is more likely than not.
Cash equivalents and short-term investments
The Company considers highly liquid investments held in money-market
funds and certificates of deposit with maturities of 90 days or less at the date
of purchase to be cash equivalents. The Company does not hold equity securities
for investment purposes.
Short-term investments are carried at fair market value, which
approximates cost. Realized and unrealized gains and losses for the fiscal years
ended September 30, 2000 and 1999 were not material. Short-term investments
consisting of high-quality commercial paper having maturities of 90 to 180 days
at September 30, 1999, were classified as held to maturity, and measured at
amortized cost.
F-12
<PAGE>
NETOBJECTS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
Concentration of Credit Risk
Financial instruments that potentially subject the Company to
concentrations of credit risk consist of cash, cash equivalents, short-term
investments and trade accounts receivable. The Company's cash, cash equivalents
and short-term investments are managed by recognized financial institutions
which follow the Company's investment policy. Such investment policy limits the
amount of credit exposure in any one issue and the maturity date of the
investment securities that typically comprise investment grade short-term debt
instruments.
Accounts receivable has the potential to subject the Company to
concentrations of credit risk. The Company evaluates its customer's financial
condition prior to extending terms, performs ongoing credit evaluations of its
customers and generally does not require collateral for accounts receivable. As
necessary, the Company maintains an allowance for doubtful accounts and to date
the use of such allowances has been within management estimates. The following
indicates significant customer balances:
Year Ended
September 30,
------------------------------------
2000 1999
---------------- ---------------
Customer 1 26% 10%
Customer 2 15% --
Customer 3 -- 22%
For the year ended September 30, 2000, software license fees and
service revenue from IBM represented approximately 19% of total revenues
respectively, while four other customers accounted for approximately 38% of
total revenues. No other customer accounts for more than 5% of total revenues.
For the year ended September 30, 1999, software license fees and
service revenue from IBM represented approximately 29% of total revenues, while
three other customers accounted for approximately 24% of total revenues. No
other customer accounts for more than 5% of total revenues.
The Company's principal markets are North America and Europe.
International sales represented approximately 38%, 23% and 16% of revenues for
the fiscal years ended September 30, 2000, 1999 and 1998.
Fair Value of Financial Instruments
The carrying amounts of cash and cash equivalents, short-term
investments, account receivable, accounts payable, accrued compensation, and
other accrued liabilities approximate fair value because of the short maturity
of these instruments.
Advertising Expense
The cost of advertising is expensed as incurred and included in selling
and marketing expenses. For the years ended September 30, 2000, 1999 and 1998,
those expenses totaled approximately $6.6 million, $7.2 million and $5.8
million, respectively.
F-13
<PAGE>
NETOBJECTS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
Employee Benefits Plan
The Company has established a qualified savings plan for employees
under Section 401(k) of the Internal Revenue Service Code, in which employees
may defer as much as 15% of their pretax annual salary up to the statutory
limits. The Company does not contribute to the plan.
Recent Accounting Pronouncements
In June 1998, FASB issued Statement of Financial Accounting Standards
(SFAS) no. 133, "Accounting for Derivative Instruments and Hedging Activities."
As amended by SFAS No. 137 and 138, SFAS No. 133 establishes methods of
accounting for derivative financial instruments and hedging activities related
to those instruments as well as other hedging activities. In accordance with
SFAS No. 137, issued by the FASB in June 1999 and which deferred the
implementation of SFAS No. 133, the Company has adopted SFAS No. 133 in the
first quarter of fiscal 2001. To date the Company's investments in derivative
instruments have not been significant and the Company has not engaged in any
hedging activities. Accordingly, the Company has evaluated the effects of
adopting SFAS No. 133 and has determined that it will not have a material
impact on its financial statements, cashflows or results of operations.
In December 1999, the Securities and Exchange Commission (SEC) issued
Staff Accounting Bulletin (SAB) No. 101, "Revenue Recognition in Financial
Statements," which provides guidance related to revenue recognition based on
interpretations and practices followed by the SEC and requires companies to
report any changes in revenue recognition as a cumulative change in accounting
principle at the time of implementation in accordance with Accounting Principles
Board opinion 20, "Accounting Changes." SAB No. 101A and 101B were issued to
delay the implementation of SAB No. 101. The Company anticipates that the
adoption of SAB No. 101 will not have a material impact on its financial
position, results of operations or cashflows. The Company will adopt SAB No. 101
in the fourth quarter of fiscal 2001.
3. Basis of Presentation
The Company has suffered recurring losses from operations and has
insufficient funds to finance operations through fiscal 2001. This raises a
substantial doubt about its ability to continue as a going concern. Management
has been working to improve its results from operations and to obtain additional
capital in order to provide the funding necessary to continue product
development activities and bring products to market. Management is currently
seeking the sale of its Enterprise business segment (see Note 14) and in
addition is actively pursuing strategic alliances, equity financing, and sales
of non-strategic assets to address this issue, although there can be no
assurance that these efforts will be successful. The accompanying consolidated
financial statements do not include any adjustments that might result from the
outcome of this uncertainty.
4. Property and Equipment
The Company's property and equipment consist of the following (in
thousands):
Year ended
September 30,
------------------
2000 1999
------- -------
Computer equipment and software $ 4,711 $ 2,963
Furniture and equipment 854 651
Leasehold improvements 1,690 1,589
------- -------
7,255 5,203
Less: accumulated depreciation and amortization (4,555) (2,999)
------- -------
Total property and equipment $ 2,700 $ 2,204
======= =======
Equipment recorded under capital leases was $1.2 million and the
related accumulated amortization was $1.2 million as of September 30, 2000.
Equipment recorded under capital leases is $1.2 million and the related
accumulated amortization is $912 thousand as of September 30, 1999.
F-14
<PAGE>
NETOBJECTS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
5. Goodwill and Intangible Assets
Goodwill and intangible assets consisted of the following (in thousands):
Year ended
September 30,
---------------------
2000 1999
------- -------
Goodwill $16,757 $--
Purchased technology 1,980 --
Other Intangibles 250 --
------- -------
18,987 --
Less: accumulated amortization 8,297 --
------- -------
Total goodwill and intangible assets $10,690 $--
======= =======
As of September 30, 2000, intangible assets consisted of Purchased
Technology, Goodwill and other miscellaneous intangibles acquired in the
acquisitions of Sitematic, and Rocktide. Purchased technology and other specific
intangibles such as acquired workforce, patents, tradename and other
miscellaneous acquisition expenses have been identified by independent fair
value appraisals. Goodwill represents the excess purchase price over the fair
value of assets acquired. See Note 13 for a more in-depth discussion of each
acquisition. All intangible assets are being amortized over a period of two
years from the respective dates of acquisition.
6. Other Accrued Liabilities
Other accrued expenses consisted of the following (in thousands):
Year ended
September 30,
-----------------------
2000 1999
------ ------
Accrued professional fees $1,086 $ 428
Accrued MDF 1,439 76
Accrued royalties 920 138
Other accrued liabilities 455 1,015
------ ------
Total $3,900 $1,658
====== ======
7. Stockholder's Equity (Deficit)
Capital stock
On December 23, 1997, the Company issued a warrant to purchase 83,333
shares of Series F preferred stock, at a purchase price of $10.80 per share, to
IBM Credit Corp. These warrants are exercisable until December 23, 2002 and have
not been exercised as of September 30, 2000. The Company determined the fair
value of these warrants at the date of grant using the Black-Scholes pricing
model with the following assumptions: a risk-free interest rate of 6%; a life of
five years; volatility of 65%; and no dividend yield. The resulting interest
expense of $535,000 was accounted for as additional paid-in capital and fully
amortized in fiscal 1998. At the closing of the Company's initial public
offering (IPO), these warrants became exercisable for common stock. The holders
of the warrants may
F-15
<PAGE>
NETOBJECTS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
surrender them on a cashless exercise basis by surrendering shares of common
stock as payment of the exercise price.
In connection with IBM's acquisition of approximately 80% of our stock
on April 11, 1997, the Company issued a warrant to IBM to purchase up to
3,482,838 shares of Series E preferred stock at an exercise price of
approximately $6.68 per share. On September 30, 2000, these warrants were
exercised for 3,163,000 shares of common stock upon a cashless basis per the
terms of the warrant agreement.
On October 8, 1998, the Company entered into Convertible Note and
Warrant Purchase Agreements with IBM and Perseus Capital LLC. The Company
recorded a $7.5 million nonrecurring interest charge in fiscal 1999 to account
for the "in-the-money" conversion right of the convertible notes. Principal and
accrued interest totaling $10.9 million on these notes was converted into Series
E-2 preferred stock at $5.35 per share which converted automatically into
2,141,713 shares of common stock upon the completion of the Company's IPO.
In connection with the Convertible Note and Warrant Purchase Agreement,
the Company issued warrants to acquire 163,715 shares of Series E-2 preferred
stock at an exercise price of $6.68 per share. The Company determined the fair
value of these warrants at the date of grant using the Black-Scholes pricing
model with the following assumptions: a risk-free interest rate of 6%; a life of
five years; volatility of 65%; and no dividend yield. The resulting interest
expense of $887,000, which appears in the accompanying consolidated statement of
operations as a portion of the accretion of discount on debt, was fully
amortized during the year ended September 30, 1999. At the closing of the
Company's IPO, these warrants became exercisable for common stock. The warrants
remain outstanding and are exercisable for shares of common stock at any time
before October, 2003. As of September 30, 2000, these warrants are still
outstanding and have not been exercised.
In connection with notes issued to IBM in October and December 1998,
the Company issued warrants to acquire 51,335 shares of Series E-2 preferred
stock at an exercise price of $6.68 per share. The Company determined the fair
value of these warrants at the date of grant using the Black-Scholes pricing
model. The fair value of the warrants issued, calculated using the Black Scholes
option pricing model and the following assumptions: 6% interest rate, a life of
5 years, and expected volatility of 80% was determined by the Company and the
resulting discount of $432,000 was accounted for as additional paid-in capital
and was fully amortized in fiscal 1999. The warrants are exercisable for common
stock at any time before February, 2004. As of September 30, 2000, these
warrants have not been exercised.
In May 1999, the Company sold 6,000,000 shares of its common stock
through its IPO. Net proceeds from the offering were approximately $65 million,
after deducting the underwriting discount and other offering expenses. At the
time of the IPO, all of the Company's then authorized shares of preferred stock
were eliminated and all outstanding shares of preferred stock and convertible
debt automatically converted into 14,056,093 and 2,141,713 shares of common
stock, respectively. All outstanding warrants that were not exercised upon the
IPO became warrants to purchase common stock.
In the fiscal year ended September 30, 1999, the Company issued common
stock with a fair value of approximately $316,000 to various vendors in exchange
for services.
Stock split
On February 4, 1999, the Board of Directors authorized a
recapitalization of the Company's equity structure, including changes in par
value, the number of shares authorized and a 1-for-6 reverse
F-16
<PAGE>
NETOBJECTS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
split of all the outstanding shares of the Company's preferred and common stock.
The reverse stock split took effect upon the closing of IPO. All share and per
share amounts have been restated to reflect the reverse stock split for all
periods presented.
Stock option plans
The Company's 1997 Stock Option Plan, (the 1997 plan) provides for the
issuance of incentive stock options under the Internal Revenue Code of 1986 and
for the issuance of nonqualified stock options to purchase common stock to
employees, non-employee directors or consultants at exercise prices not less
than 85% of the fair market value at the date of grant. A total of 9,526,994
shares of common stock have been authorized for issuance under the 1997 Plan.
The board of directors, or the compensation committee of the board of directors,
utilizes the fair market value of the common stock as the basis for determining
the exercise price. Options currently outstanding generally vest 25% at the end
of the first year and then monthly on a pro rata basis over the next three
years. Options expire ten years from the date of grant.
In connection with IBM's acquisition of approximately 80% of the
Company's outstanding stock in April 1997, the Company's 1996 Stock Option Plan
was canceled and all options issued under that plan were reissued under the 1997
Plan. Under the 1996 Stock Option Plan, optionees had the right to exercise
unvested options, subject to the Company's right to repurchase unvested shares
held at the time of termination of employment. That right was carried over to
the 1997 Plan for optionees who held options under the 1996 Stock Option Plan
that were reissued under the 1997 Plan, but does not apply to new options
granted since April 11, 1997 under the 1997 Plan. As of September 30, 2000,
32,849 shares of common stock were subject to our right of repurchase, and
1,756,443 shares of common stock were available for future option grants, under
the 1997 Plan.
In March 1997, the board of directors adopted, and in April 1997, the
stockholders approved, the 1997 Special Stock Option Plan. A total of 1,041,056
shares of common stock were authorized for issuance under the plan. On March 18,
1997, the board of directors authorized the grant of options for the purchase of
all shares of common stock authorized for issuance under the plan to 35 key
employees. The options granted under the plan generally vest 25% at the end of
the first year and then monthly on a pro rata basis over the next three years.
The board of directors does not intend to grant any more options under this
stock option plan.
In November 1999, the board of directors adopted, and in March 2000,
the stockholders approved, the Executive Stock Option Plan. A total of 1,400,000
shares of common stock were authorized for issuance under the plan. On March 15,
2000, the board of directors authorized the grant of options for the purchase of
all shares of common stock authorized for issuance under the plan to 7 key
senior executives. The options granted under the plan generally vest monthly on
a pro rata basis over the next two years. The board of directors does not intend
to grant any more options under this stock option plan.
In connection with options granted in fiscal year 2000, 1999, and 1998,
the Company has recorded deferred stock-based compensation of $208,000,
$1,223,000 and $768,000, respectively, representing the difference between the
exercise price and the fair value of the Company's common stock at the date of
grant. Amortization of deferred stock-based compensation of $ 626,000, $559,000
and $227,000 was recognized during the fiscal years ended September 30, 2000,
1999 and 1998, respectively.
The amortization of deferred employee stock-based compensation combined
with the expense associated with stock options granted to non-employees, relates
to the following items in the accompanying consolidated statements of operations
and comprehensive loss (in thousands):
F-17
<PAGE>
NETOBJECTS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
Year ended
September 30,
-------------------
2000 1999
---- ----
Sales and marketing $397 $352
Research and development 72 73
General and administrative 157 134
---- ----
Total $626 $559
==== ====
<TABLE>
The Company's stock option plans and related activity are summarized in
the table below:
<CAPTION>
Year ended Year ended Year ended
September 30, 2000 September 30, 1999 September 30, 1998
-----------------------------------------------------------------------------------
Weighted Weighted Number of Weighted
Number of Average Number of Average Exercise Average
Options Exercise Price Options Exercise Price Options Price
-----------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at beginning of
period 3,045,869 $ 4.41 2,466,694 $ 1.32 2,517,670 $ 1.20
Granted at market value 9,005,712 $ 8.75 848,180 $ 7.28 173,362 $ 2.10
Granted at less than market
value related to Sitematic
acquisition 296,718 $ 0.33 939,361 $ 7.47 167,940 $ 2.10
Exercised (1,122,761) $ 3.03 (541,498) $ 1.09 (144,410) $ 0.60
Cancelled (1,841,165) $ 8.91 (666,868) $ 3.70 (247,768) $ 1.26
Outstanding at end of period 9,383,391 $ 7.72 3,045,869 $ 4.42 2,466,694 $ 1.32
Vested at period end 2,396,488 973,735 852,158
Weighted-average fair value
of options granted during the
period with exercise prices
equal to market value at date
of grant $ 6.83 $ 5.41 $ 0.66
Weighted-average fair value
of options granted during the
period with exercise prices
less than market value at
date of grant $ 5.29 $ 5.65 $ 0.69
</TABLE>
F-18
<PAGE>
NETOBJECTS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
<TABLE>
The following table summarizes outstanding and exercisable options at September
30, 2000:
<CAPTION>
Options Outstanding Options Exercisable
--------------------------------------------------------- -------------------------------------
Range of Number Weighted average Weighted Number Weighted
exercise prices Outstanding contractual life average Exercisable average
remaining exercise price exercise price
------------------ ---------------- ------------------- ----------------- ------------------ -----------------
<S> <C> <C> <C> <C> <C>
$ 0.12 - 1.65 770,167 6.76 $ 1.25 615,633 $ 1.29
2.10 - 2.94 1,274,315 9.77 2.89 61,758 2.44
3.13 - 5.81 1,040,780 9.82 4.11 34,970 5.49
5.88 - 6.94 1,301,945 8.99 6.46 261,243 6.27
7.00 - 7.13 1,436,878 9.16 7.12 586,947 7.13
7.44 - 9.72 1,047,971 9.00 8.03 246,516 7.68
9.75 - 13.19 1,305,816 9.47 12.42 276,962 12.43
13.44 - 18.06 940,927 9.25 14.62 292,929 14.51
18.19 - 40.88 256,592 9.03 23.98 19,530 22.14
43.50 8,000 9.43 43.50 -- --
---------------- ------------------- ----------------- ------------------ -----------------
0.12 - 43.50 9,383,391 9.12 $ .72 2,396,488 $ 7.08
</TABLE>
Employee stock purchase plan.
The Company's board of directors approved the 1999 Employee Stock
Purchase Plan (ESPP), which became effective on May 28, 1999, and 300,000 shares
were reserved under the plan.
The ESPP permits an eligible employee to purchase common stock, in an
amount which may not exceed 10% of his or her compensation, at a price equal to
85% of the lesser of the fair market value of the common stock at the beginning
of the offering period and the fair market value of the common stock at the end
of each purchase period.
To date, 87,867 shares have been purchased at a weighted average price
of $4.97 per share. The weighted average fair market value of the stock purchase
rights granted during fiscal 2000 and fiscal 1999 was $4.81 and $2.20,
respectively.
F-19
<PAGE>
NETOBJECTS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
Stock compensation
<TABLE>
The Company accounts for stock-based compensation using the intrinsic
method. Had compensation expense for the Company's stock compensation plans been
determined using the fair-value method, as described by SFAS 123, Accounting for
Stock-Based Compensation, pro forma losses for 2000, 1999 and 1998 would have
been as follows (in thousands, except per share amounts):
<CAPTION>
Year Ended September 30,
--------------------------------------------
2000 1999 1998
------------ ------------ ------------
<S> <C> <C> <C>
Net income (loss)
As reported $ (33,870) $ (26,940) $ (22,224)
Pro forma $ (36,554) $ (28,011) $ (22,417)
Net income (loss) per share - basic and
diluted
As reported $ (1.16) $ (2.40) $ (12.26)
Pro forma $ (1.25) $ (2.50) $ (12.37)
Weighted average common shares outstanding 29,227,545 11,215,118 1,812,484
</TABLE>
<TABLE>
The fair value of each option grant and share purchased under the
Purchase Plan are estimated on the date of grant or share purchase using the
Black-Scholes option-pricing model with the following assumptions:
<CAPTION>
Year Ended September 30,
--------------------------------------------
2000 1999 1998
------------ ------------ ------------
<S> <C> <C> <C>
Expected volatility 100% 85% 85%
Risk-free interest rate 5.91% 5.875% 6.50%
Dividend yield -- -- --
Expected life in years 2 2 4
</TABLE>
Expected volatility was calculated using an average of NetObjects share price
volatility and the share price volatility of similar companies.
The Black-Scholes option valuation model was developed for use in estimating the
fair value of traded options which have no vesting restrictions and are fully
transferable while the Company's employee stock options have characteristics
significantly different from those of traded options. In addition, option
valuation models require the input of highly subjective assumptions including
the expected stock price volatility.
F-20
<PAGE>
NETOBJECTS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
8. Income Taxes
As of September 30, 2000, 1999, 1998, the types of temporary
differences that give rise to significant portions of the Company's deferred tax
assets and liabilities as follows (in thousands):
Year ended September 30,
-------------------------------
2000 1999 1998
-------- -------- --------
Net operating loss carryforwards $ 37,319 $ 29,821 $ 17,506
Research and development credit carryforwards 2,787 1,811 1,649
Accruals and reserves not currently deductible 1,891 1,059 1,767
Depreciation on property and equipment 898 739 488
Other 80 -- --
-------- -------- --------
Gross deferred tax assets 42,975 33,430 21,410
-------- -------- --------
Valuation allowance (42,003) (33,430) (21,410)
-------- -------- --------
Total deferred assets 972 -- --
Deferred tax liabilities -acquired intangibles (972) -- --
-------- -------- --------
Net deferred tax asset, net of deferred tax
liabilities $ -- $ -- $ --
======== ======== ========
The Company has recorded a valuation allowance on its deferred tax
assets due to uncertainty of future realization of such amounts. The valuation
allowance increased by approximately $9.5 million from fiscal 1999 to fiscal
2000, and by $12.0 million from fiscal 1998 to fiscal 1999.
As of September 30, 2000, the Company had net operating loss
carryforwards of $93 million and $63 million for federal and state income tax
purposes, respectively. The federal tax loss carryforwards expire in years 2012
through 2020, while the state tax loss carryforwards expire in the year 2006. As
of September 30, 2000 the Company has research and development credit
carryforwards for federal and state tax purposes of approximately $1.5M and
$1.2M respectively. The federal research and development credit carryforwards
expire in the years 2012 through 2020. The state research and development
credits can be carried forward indefinitely.
Federal and California tax laws impose substantial restrictions on the
utilization of net operating loss carryforwards in the event of an "ownership
change" as defined in section 382 of the Internal Revenue Code. If NetObjects
has an ownership change, NetObjects' ability to utilize the net operating loss
carryforwards could be significantly reduced.
F-21
<PAGE>
NETOBJECTS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
The Company's actual tax expense for the years ended September 30,
2000, 1999, and 1998 differs from the benefit at the federal statutory tax rate
of 34%, as follows (in thousands):
Year ended September 30,
------------------------
2000 1999 1998
------- ------- -------
Statutory federal income tax benefit ($9,878) ($9,243) ($7,556)
Losses not benefited 9,878 9,243 7,556
State taxes 2 1 1
Foreign taxes 80 43 59
------- ------- -------
$ 82 $ 44 $ 60
======= ======= =======
The components of income taxes for the years ended September 30, 2000,
1999, and 1998 are as follows (in thousands):
Year ended September 30,
------------------------
2000 1999 1998
--- --- ---
Current:
Foreign $80 $43 $59
State 2 1 1
--- --- ---
Total $82 $44 $60
=== === ===
9. Commitments
Purchase Commitments
During December, 1999, the Company entered into a marketing and hosting
services agreement with Concentric Networks Incorporated related to the
provision of co-marketing, internal hosting, and external Fusion 5.0 customer
hosting services. Under the terms of the contract, the Company is obligated to
pay $6.0 million over the twenty-two month period of the contract through the
combined utilization of hosting services and hardware purchases. As of September
30, 2000 the Company had paid approximately $3.3 million and has $2.7 million in
future minimum payments due in equal quarterly installments during the year
ended September 30, 2001.
Operating leases
Total rental expense for operating leases was approximately $948,000,
$686,000, and $683,000 for the years ended September 30, 2000, 1999, and 1998,
respectively. Future minimum rental payments under noncancelable leases are
approximately $1,390,000 $1,246,000, and $483,000 for the years ended September
30, 2001, 2002, and 2003, respectively. As of September 30, 2000 and 1999,
approximately $407,000 and $360,000 respectively, of the Company's cash balance
is pledged as security for a lease line for furniture and fixtures.
F-22
<PAGE>
NETOBJECTS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
10. Segment and Geographic Information
The Company conducts its business in two distinct segments: Enterprise
and Small Business Online. The products of the Enterprise segment are targeted
toward the large business intranet and content management markets. The principal
products of the Enterprise segment are NetObjects Collage, which was launched in
March 2000, and NetObjects Authoring Server. The products of the Small Business
and Online segment are targeted at small businesses that would like to establish
a Web site or upgrade an existing site. The principal products of the Small
Business and Online segment are NetObjects Fusion and, as of the October 1999
acquisition of Sitematic, Corp., GoBizGo.com. In October 2000, The Company added
the NetObjects Matrix Platform to the Small Business and Online segment's line
of products.
The Company uses a direct sales force to distribute NetObjects Collage
and NetObjects Authoring Server domestically and uses resellers in international
markets. The Company distributes NetObjects Fusion, GoBizGo and Matrix through
resellers, distributors, and a dedicated Web site.
The Company's Chief Operating Decision Maker (CODM) is the Chief
Executive Officer. During fiscal 2000, the CODM received only revenue
information on a disaggregated basis for the Company's two segments. All other
operating information was prepared on a basis consistent with the consolidated
statement of operations.
Revenue information for the Company's two segments is as follows:
<TABLE>
For the twelve month period ended September 30, 2000
<CAPTION>
Small Business & Enterprise
Online Markets Markets Total NetObjects
----------- ----------- -----------
<S> <C> <C> <C>
Revenues:
Domestic license and online $ 9,106 $ 5,174 $ 14,280
International license 7,889 1,119 9,008
Domestic service - 3,479 3,479
International service - 1,012 1,012
IBM license 6,193 246 6,439
----------- ----------- -----------
Total Revenue $ 23,188 $ 11,030 $ 34,218
=========== =========== ===========
</TABLE>
In the Small Business and Online segment, three customers accounted for
approximately 66% of the revenue for the twelve months ended September 30, 2000.
In the Enterprise segment one customer accounted for approximately 8% of the
revenue for the twelve months ended September 30, 2000. The accounting policies
of each segment are the same as those described in the summary of significant
accounting policies.
For the twelve months ended September 30, 2000 revenues for the Small
Business Online segment were concentrated in the United States and Europe,
representing approximately $15.7 million and $7.8 million, respectively. License
fees for the Enterprise segment were concentrated in the United States and
Europe, representing approximately $8.5 million and $2.0 million, respectively.
F-23
<PAGE>
NETOBJECTS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
<TABLE>
For the twelve month period ended September 30, 1999
<CAPTION>
Small Business & Enterprise
Online Markets Markets Total NetObjects
----------- ----------- -----------
<S> <C> <C> <C>
Revenues:
Domestic license and online $ 6,915 $ 2,195 $ 9,110
International license 4,437 18 4,455
Domestic service - 1,463 1,463
International service - 716 716
IBM license 3,689 - 3,689
IBM Service 2,782 - 2,782
----------- ----------- -----------
Total Revenue $ 17,823 $ 4,392 $ 22,215
=========== =========== ===========
</TABLE>
In the Small Business and Online segment, one customer accounted for
approximately 36% of the revenue for the twelve months ended September 30, 1999.
There were no significant customer concentrations in the Enterprise segment.
For the twelve months ended September 30, 1999, revenues for the Small
Business & Online segment were concentrated in the United States and Europe,
representing approximately $13.4 million and $4.4 million, respectively. Sales
for the Enterprise segment were concentrated in the United States and Europe,
representing approximately $3.7 million and $0.7 million, respectively.
The Company did not begin selling NetObjects Authoring Server until
September 1998 and did not begin operating in two segments until the end of
fiscal 1999. As a result, a comparison with previous fiscal years would not be
meaningful.
11. IBM Relationship
Sales and Service Agreements with IBM
The Company has entered into a Master License Agreement, as amended,
whereby IBM could sublicense the Company's software products in exchange for
royalty payments, the Company agreed to integrate certain of the Company's
software products into IBM's WebSphere software products as part of a service
agreement with IBM, for which the Company was to be paid an amount not to exceed
$5.3 million, and the Company's products were to be bundled with Lotus products
in connection with certain promotional programs, in exchange for royalty
payments. The promotion period began on January 1, 1999 and ended on December
31, 1999. There were no significant amendments during the fiscal 2000.
During the year ended September 30, 2000, 1999 and 1998, the Company
recognized license revenue from IBM of approximately $6.4 million, $3.7 million
and $2.7 million, respectively. During the year ended September 30, 2000, the
Company did not recognize any service revenue related to IBM. Service revenue
from IBM for the years ended September 30, 1999, and 1998 was $2.8 million and
$2.9 million, respectively.
F-24
<PAGE>
NETOBJECTS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
Debt and Equity Financing from IBM
IBM acquired controlling interest of NetObjects on April 11, 1997,
receiving 10,495,968 shares of Series E convertible preferred stock at $6.68 per
share. This represented about 80% of the Company's voting securities at that
time. In connection with this transaction, the Company issued a warrant to IBM
to purchase up to 3,482,838 shares of Series E convertible preferred stock at an
exercise price of approximately $6.68 per share. This warrant for common stock
expired April 11, 2000. The Series E preferred stock issued to IBM when they
acquired 80% of the Company voting shares was converted to common stock at the
Company's IPO.
In December 1997, the Company obtained a line of credit from IBM Credit
Corp. that was eventually increased to a total of $19 million. In connection
with this line, the Company issued warrants to purchase 83,333 shares of Series
F convertible preferred stock at $10.80 per share to IBM Credit Corp. This note
was repaid with proceeds from the Company's initial public offering in May 1999.
The warrant is currently exercisable for common stock and expires December 23,
2002. In connection with the warrant issuance, the Company recorded interest
expense of $535,000, which appears on the statement of operations as a portion
of the accretion of discount on debt to IBM, has been fully amortized as of
September 30, 1999.
In October 1998, the Company entered into a Convertible Note and
Warrant Purchase Agreement with IBM and Perseus Capital LLC, under which the
Company borrowed $10.9 million and issued warrants to purchase an additional
163,715 shares of Series E-2 preferred stock at $6.68 per share. These notes
totaling $10.9 million were converted automatically into 2,141,713 shares of
common stock at the IPO. The warrant is currently exercisable for common stock
and expires October 8, 2003. The preferred warrants automatically convert to
common stock upon exercise.
From February 1999 through March 1999, the Company borrowed an
additional $3.4 million from IBM at an interest rate of 10% per annum, for which
IBM received warrants to acquire 51,335 shares of Series E-2 preferred stock at
$6.68 per share. In April 1999, the Company borrowed an additional $2 million
from IBM under the Convertible Note and Warrant Purchase Agreement. The Company
repaid both notes with proceeds of its IPO. The warrant is currently exercisable
for common stock and expires February 19, 2004. In connection with the warrant
issuance, the Company recorded interest expense of $432,000, which appears on
the statement of operations as a portion of the accretion of discount on debt,
has been fully amortized as of September 30, 1999.
As of September 30, 2000 IBM held 15,205,522 shares of the Company's
common stock and warrants to purchase an additional 336,528 shares of common
stock. If all outstanding warrants were exercised, IBM would own approximately
49% of the Company's common stock. All of these warrants may be exercised by
foregoing the receipt of that number of shares of common stock that would
otherwise have been issued upon exercise, equal in value to the exercise price
of all warrants exercised.
12. Other Related Party Transactions
On April 17, 2000 and September 28, 2000, the Company issued two
shareholder notes receivable for a total of $575,000. The notes are unsecured
and accrue interest at 6.45% per annum, and are due in full in two years from
the date of issuance. The shareholder has agreed to pay the amount due from net
proceeds, after payment of commissions, of the sale of his shares of the
Company's common stock.
F-25
<PAGE>
NETOBJECTS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
13. Acquisitions and Investments
Acquistions
On October 4, 1999, the Company acquired Sitematic Corporation, an
application services provider (ASP) that offers e-business solutions for small
businesses. Under the terms of the acquisition, which was accounted for as a
purchase, the Company exchanged approximately two million shares of common stock
for all issued and outstanding Sitematic equity.
In addition to the exchange of its preferred shares with the Company's
common stock, Sitematic preferred shareholders received approximately $1.6
million in cash for their shares. All issued and outstanding Sitematic options
were converted into options to purchase 267,506 shares of the Company's common
stock.
Sitematic's operating results for the year ended September 30, 1999
included revenue of approximately $0.2 million and a net loss of approximately
$2.6 million.
Total consideration, including transaction costs of approximately $0.5
million, was $15.5 million. Allocation of the purchase price in excess of
Sitematic Corporation's net book value resulted in the addition of $15.7 million
in intangible assets to the Company's balance sheet, of which about $14.1
million represents goodwill. The goodwill and intangible assets are being
amortized on a straight-line basis over an estimated useful life of 2 years.
During July 2000, the Company acquired Rocktide, Inc.; a developer of an
embedded ASP platform and an embeddable online Web builder. Under the terms of
the acquisition which was accounted for as a purchase, the Company exchanged
approximately $458,000 shares of its common stock for the 8,625,000 issued and
outstanding Rocktide common stock.
In addition to the exchange of its common stock with the Company's common
stock, Rocktide common stockholders received approximately $400,000 in cash for
their shares. All issued and outstanding Rocktide options were converted into
options to purchase 29,213 shares of the Company's common stock.
Rocktide as of the date of acquisition has not yet generated any revenues
and had incurred a net loss of approximately $135,000 for the six month period,
from inception, to the date of acquisition.
Total consideration including transaction costs of $67,000, was $4.2
million. Allocation of the purchase price that was in excess of Rocktide Inc.'s
net book value resulted in the write-off of $1.4 million representing in-process
research and development and the addition of $2.8 million in intangible assets
to the Company's balance sheet, of which $2.6 million represents goodwill.
The following unaudited pro forma information presents a summary of the
Company's consolidated results of operations including the acquired ASP business
of Sitematic and the embeddable Web business of Rocktide as if the acquisitions
had occurred on October 1, 1998.
F-26
<PAGE>
NETOBJECTS, INC. AND SUBSIDIARIES
(a subsidiary of IBM corporation)
Notes to Consolidated Financial Statements
In thousands except per share data Year ended September 30
2000 1999
Revenues 34,218 22,418
Net Earnings (33,577) (40,397)
Net Earnings per share (2.45) (2.95)
These unaudited pro forma results have been prepared for comparative
purposes and do not purport to be indicative of operations which, would have
actually resulted had the combinations been in effect on October 1, 1998 or of
future results of operations.
On October 18, 2000, the Company signed an agreement to acquire all of
the shares of privately held MyComputer.com, Inc. of Orem, Utah for
approximately $51 million of common stock and cash, and to pay up to $6 million
in additional shares of common stock based on future performance of the acquired
business. Under the agreement, the Company agreed to advance interim operating
funds to MyComputer, depending upon the length of time between the date of the
agreement and the closing. The Company also agreed to reimburse up to $300,000
for legal, accounting and other expenses of MyComputer relating to the
transaction; if the transaction failed to close by December 1, 2000. (See note
14)
Investments
On September 29, 2000, the Company entered into an agreement with
IBIZU, Inc. a private company (IBIZU) pursuant to which the Company acquired a
preferred equity interest in IBIZU in exchange for the transfer of certain
technology rights developed by the Company. The investment has been accounted
for under the equity method of accounting. As of September 30, 2000, the Company
recorded no basis for the carrying value of this investment. See Note 2.
14. Subsequent Events
Sale of Enterprise Division
On December 21, 2000 the Company signed an option and license agreement
under which it received $4 million in cash for an exclusive option to purchase
the Enterprise Division for $18 million. If the sale is completed, the option
payment will be credited in full towards the purchase price. The option to
acquire the Enterprise division will expire on January 5, 2001, if a definitive
agreement for the purchase of the Enterprise Division has not been signed by
that date, or by such later date as may be agreed upon by both companies. If the
acquisition is not completed, the potential acquirer will have a three-year
license to distribute NetObjects Collage and the $4 million option payment will
be credited against future royalty payment obligations under the license
agreement. Completion of the acqisition is subject to the negotiation and
execution of a definitive agreement, which would be subject to customary closing
conditions. Accordingly, there can be no assurances that the sale of the
Enterprise division will occur.
Issuance of Promissory Note to IBM
In December 2000, the Company issued a promissory note to IBM
corporation for $750,000 at an annual interest rate of 10%. The note is
currently due and payable.
Termination of MyComputer.com Transaction
In December 2000, the agreement and the proposed acquisition of
MyComputer.com, Inc. were terminated. The Company loaned a total of $2.25
million to MyComputer under this agreement. All of the loans were made under
notes bearing interest at the prime rate and maturing on October 18, 2001. The
Company will forgive $375,000 of this indebtedness upon termination of the
agreement, as provided by its terms. The remaining indebtedness, which totals
$1.875 million, will convert into MyComputer preferred stock that is issued in
an equity financing of at least $15.0 million prior to October 18, 2001. The
Company has not received notice from MyComputer of any such financing and cannot
be assured that MyComputer will receive such financing or will be able to repay
the notes issued to the Company.
F-27
<PAGE>
<TABLE>
Schedule II - Valuation and Qualifying Accounts
<CAPTION>
BALANCE AT ADDITIONS
BEGINNING OF CHARGED TO BALANCE AT
PERIOD EXPENSE DEDUCTIONS END OF PERIOD
-------------------- -- ------------------ -- ------------------ -- --------------------
Accounts Receivable Reserve
<S> <C> <C> <C> <C>
Year ended September 30, 1998 756 4,691 (3,184) 2,263
Year ended September 30, 1999 2,263 1,698 (3,053) 908
Year ended September 30, 2000 908 2,372 (1,965) 1,315
F-28
</TABLE>
