FORM 10-QSB
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
(MARK ONE)
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1996
OR
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT
For the Transition Period From ... to ...
Commission File No. 1-11873
K2 DESIGN, INC.
(Exact name of small business issuer as specified in its charter)
DELAWARE 13-3886065
(State or other jurisdiction of (I.R.S. Employer Identification
incorporation or organization) Number)
55 BROAD STREET
NEW YORK, NEW YORK 10004
(Address of principal executive (Zip Code)
offices)
Issuer's telephone number: (212) 547-5234
Check whether the issuer (1) has filed all reports required by
Section 13 or 15(d) of the Exchange Act 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 No X
State the number of shares outstanding of each of the issuer's
classes of common equity, as of the latest practicable date.
CLASS OUTSTANDING AT SEPTEMBER 30, 1996
Common stock, par value $.01 3,495,482
Common stock redeemable purchase warrants 1,000,000
<PAGE>
K2 DESIGN, INC. AND SUBSIDIARY
INDEX
Page
PART 1 - FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated balance sheets - September 30, 1996
(unaudited) and December 31, 1995........................................3
Consolidated statements of operations - three
months and nine months ended September 30, 1996 (unaudited)
and September 30, 1995 (unaudited).......................................4
Consolidated statements of cash flows -
nine months ended September 30, 1996 (unaudited) and
September 30, 1995 (unaudited)...........................................5
Notes to consolidated financial statements.................................7
Item 2. Management's Discussion and Analysis of Results of
Operations and Financial Condition.........................................8
PART II - OTHER INFORMATION
Items 1. - 5...............................................................12
Item 6. Exhibits and Reports on Form 8-K...................................12
SIGNATURES..................................................................12
<PAGE>
K2 DESIGN, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
September 30, 1996 December 31, 1995
ASSETS
<S> <C> <C>
(unaudited)
CURRENT ASSETS:
Cash $5,022,941 $17,756
Accounts receivable 512,202 133,694
Prepaid and other assets 145,170 0
Total current assets 5,680,313 151,450
EQUIPMENT AND LEASEHOLD IMPROVEMENTS 439,050 67,603
RESTRICTED CASH 30,000 0
OTHER ASSETS 2,030 4,405
Total assets $6,151,393 $223,458
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES:
Current portion of long-term debt $30,063 $45,770
Accounts payable 233,969 94,940
Accrued professional fees 22,111 22,000
Accrued compensation 65,535 23,952
Accrued taxes 47,557 3,727
Other accrued expenses 52,748 8,210
Customer advances 36,300 29,857
Total current liabilities 488,283 228,456
LONG-TERM DEBT AND CAPITAL LEASES 39,864 26,527
STOCKHOLDERS' EQUITY (DEFICIT):
Common stock 36,454 18,955
Additional paid-in capital 6,272,743 (62,376)
Retained earnings (deficit) (685,951) 11,896
Total stockholders' equity (deficit) 5,623,246 (31,525)
Total liabilities and stockholders' equity $6,151,393 $223,458
(deficit)
</TABLE>
[10Q3-96]
<PAGE>
K2 DESIGN, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
<S> <C> <C> <C> <C>
1996 1995 1996 1995
(unaudited)
REVENUES $825,348 $301,481 $1,835,833 $718,543
DIRECT SALARIES AND COSTS 785,245 268,074 1,891,419 610,536
SELLING, GENERAL AND 220,948 53,090 607,532 137,834
ADMINISTRATIVE EXPENSES
DEPRECIATION 23,626 4,779 46,960 19,705
(204,471) (24,462) (710,078) (49,532)
Income (loss) from operations
INTEREST INCOME 41,026 0 41,036 0
INTEREST EXPENSE 5,480 266 13,252 669
PROVISION FOR INCOME TAXES 13,356 0 15,553 0
($182,281) ($24,729) ($697,847) ($50,201)
Net income (loss)
($0.06) ($0.27)
NET LOSS PER COMMON SHARE
3,326,945 2,573,715
WEIGHTED AVERAGE NUMBER OF
COMMON SHARES OUTSTANDING
</TABLE>
[10Q3-96]
<PAGE>
K2 DESIGN, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Nine Months Ended
September 30,
<S> <C> <C>
1996 1995
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) ($697,847) ($50,201)
Adjustments to reconcile net income to net cash
provided by operating activities-
Depreciation 46,960 19,705
Changes in-
Accounts receivable (378,508) (118,397)
Prepaid and other assets (145,170) 0
Restricted cash (30,000) 0
Other assets 2,375 (1,931)
Accounts payable 139,029 75,969
Accrued professional fees 111 12,125
Accrued compensation 41,583 13,198
Accrued taxes 43,830 0
Other accrued expenses 44,538 37,511
Customer advances 6,443 77,563
Net cash (used in) provided by operating activities (926,656) 65,542
CASH FLOWS FROM INVESTING ACTIVITIES --
Purchase of equipment (397,005) (18,333)
CASH FLOWS FROM FINANCING ACTIVITIES:
Issuance of common stock 17,500 10,000
Capital contribution 6,335,118 (44,997)
Principal payments on capital lease obligations (23,772) (15,538)
Net cash (used in) provided by financing activities 6,328,846 (50,535)
Net increase (decrease) in cash 5,005,185 (3,326)
CASH, beginning of period 17,756 3,326
CASH, end of period $5,022,941 $0
</TABLE>
[10Q3-96]
<PAGE>
<TABLE>
<CAPTION>
Nine Months Ended
September 30,
<S> <C> <C>
1996 1995
(unaudited)
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the period for-
Interest $13,252 $669
State income taxes 15,553 0
SUPPLEMENTAL DISCLOSURES OF NONCASH INVESTING
AND FINANCING ACTIVITIES:
Assets acquired under capital lease obligations $56,261 $57,120
</TABLE>
[10Q3-96]
<PAGE>
K2 DESIGN, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 1996
(UNAUDITED)
(1)BASIS OF PRESENTATION:
The accompanying unaudited condensed consolidated financial statements
have been prepared by the Company and reflect all adjustments, consisting
of only normal recurring adjustments, which are, in the opinion of
management, necessary for a fair presentation of financial results for the
three and nine month periods ended September 30, 1996 and 1995, in
accordance with generally accepted accounting principles for interim
financial reporting and pursuant to Form 10-QSB and Regulation SB.
Certain information and footnote disclosures normally included in the
Company's annual audited consolidated financial statements have been
condensed or omitted pursuant to such rules and regulations.
The results of operations for the three and nine month periods ended
September 30, 1996 and 1995 are not necessarily indicative of the results
of operations to be expected for a full fiscal year. These interim
condensed consolidated financial statements should be read in conjunction
with the audited consolidated financial statements for the fiscal year
ended December 31, 1995, which are included in the Company's Registration
Statement on Form SB-2 filed with the Securities and Exchange Commission.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and disclosures of
contingent assets and liabilities at the dates of the financial statements
and the reported amounts of revenues and expenses during the reporting
periods. Actual results could differ from those estimates.
(2)NET LOSS PER COMMON SHARE:
Net loss per common share has been computed by dividing net loss by the
number of common shares outstanding. As required by the Securities and
Exchange Commission rules, all warrants, options and shares issued within
one year of the public offering at less than the public offering price are
assumed to be outstanding for each period presented for purposes of the
per share calculation.
[10Q3-96]
<PAGE>
K2 DESIGN, INC. AND SUBSIDIARY
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL
CONDITION
OVERVIEW
K2 Design, Inc. (the "Company") was founded in 1993 as a general partnership
and initially operated a traditional graphic design business. The Company was
hired to design a graphical user interface in March 1994 for Sierra Magazine
Online, a proprietary online service, and in August 1994 for NetMarket Inc.,
the first company to perform a secure online transaction on the Internet, at
which time the Company shifted its principal business to Web site design and
creation. In January 1995, the Company was reorganized as a New York
corporation that elected to be treated as an S corporation for tax purposes.
In January 1996 the Company was reorganized as a Delaware holding company and
the New York corporation became a wholly-owned operating subsidiary thereof and
thus ceased to be an S corporation for tax purposes. For financial reporting
purposes, the Company's Consolidated Financial Statements include the Company
and its wholly-owned subsidiary.
Since the Company has engaged in its current primary line of business only
for approximately two years, the Company has a limited operating history upon
which an evaluation of the Company and its prospects can be based. Management
therefore believes that period-to-period comparisons of the Company's results
of operations are not indicative of future results. In addition, operating
results for the nine months ended September 30, 1996 are not necessarily
indicative of the results that may be expected for the year ending December 31,
1996.
RESULTS OF OPERATIONS
General
The Company derives revenues from Web site design and creation projects,
electronic and print media placement, print design and CD-ROM creation. Web
site projects for which the Company has been engaged have generally been
completed within six to eight weeks (although certain past, current and future
projects have taken and are expected to take longer to complete). Revenues are
recognized on the percentage of completion method on an individual project
basis. Provisions for any estimated losses on uncompleted projects are made in
the period in which such losses are determinable.
The Company has increased its expense levels to accommodate its past growth
and anticipated growth in its business, including substantially increasing the
number of employees, relocating its principal offices during the three months
ended June 30, 1996, taking on additional office space at 50 Broad Street in
New York City (across the street from its principal offices) and investing in
equipment. The Company's failure to expand its business in an efficient manner
could have a material adverse effect on the Company's business, operating
results and financial condition. In addition, there can be no assurance that
the Company's revenues will continue to grow at a rate that will support its
increasing expense levels.
A substantial portion of the Company's revenues has been generated on a
fixed fee for service basis. In addition, revenues generated by certain
projects are expected to be dependent on advertising revenues generated by Web
sites. The Company assumes greater financial risk both on fixed-price
contracts and contracts dependent upon advertising revenues to pay the
Company's fees than on either time-and-material or cost-reimbursable contracts.
Failure to anticipate technical problems, estimate costs accurately or control
costs during performance of a fixed-price contract, and failure to generate
advertising revenues in connection with contracts dependent thereon to pay the
Company's fees, which may be dependent upon the ability of the Company's
customer, may reduce the Company's profits or cause a loss.
The changes in the various line-items discussed below result from the
increase in the Company's revenues since it shifted its principal business to
Web site design and creation and the attendant increases in expenses.
Revenues
Revenues for the three months ended September 30, 1996 and 1995 were
$825,348 and $301,481, respectively and for the nine months ended September 30,
1996 and 1995 were $1,835,833 and $718,543, respectively. The increase in
revenues in the quarter ended September 30, 1996 as compared to that ended
September 30, 1995 resulted from the expansion of the Company's core Web site
services business. The increased revenues in the nine months ended September
30, 1996 as compared to the same period in 1995 also reflects the shift in the
Company's business to Web site design in the second quarter of 1995, as
compared to the first quarter in 1995 in which substantially all of the
Company's revenues were generated by traditional graphic design services. The
Company expects that the ratio of revenues derived from Web site services as
compared to revenues derived from traditional graphic design services will
continue to increase, since the Company expects to continue to focus its
resources on promoting its Web site services, electronic and print media
placement services and CD-ROM creation and to limit its traditional graphic
design services to those provided in conjunction with Web site services.
During the three months ended September 30, 1996, America Online Incorporated,
Toys "R" Us, Corporation and Chase Manhattan accounted for approximately 23%,
26% and 10% of the Company's revenues, respectively. During the nine months
ended September 30, 1996, International Business Machines, Inc., America Online
Incorporated and Toys "R" Us, Corporation accounted for approximately 21%, 18%
and 12% of the Company's revenues, respectively.
The increased in revenues in the three months ended September 30, 1996
resulted primarily because (i) the Company's executive management devoted
substantially more time to sales and marketing after the Company's initial
public offering on July 26, 1996, and (ii) the Company increased its production
capacity and sales initiative during the September 30, 1996 quarter.
Direct Salaries and Costs
Direct salaries and costs include all direct labor costs and other direct
costs related to project performance, such as independent contractors,
freelance labor, supplies, and printing and equipment costs. The Company's
direct salaries and costs for the three months ended September 30, 1996 and
1995 were $785,245, and $268,074, respectively, and consisted primarily of
approximately $382,000 and $104,000 paid as direct salaries, and secondarily of
approximately $137,000 and $125,000, paid to freelance artists and other
independent contractors (approximately $44,000 and $61,000 of which,
respectively, was paid to vendors of complex computer programming services
required for special features on Web sites). The Company has hired and expects
that it will continue to hire additional programmers in anticipation of future
projects and will consequently incur increased direct costs in an effort to
reduce reliance on outside vendors of complex computer programming. Since the
preceding sentence is forward looking, there can be no assurance that the
Company will successfully achieve a net savings by bringing in-house more of
the complex programming required in its business. Among other things, the
Company may not be able to attract and retain personnel capable of performing
these services at a rate less than that provided by outside vendors and even if
such persons can be retained, their efforts may not entirely eliminate reliance
on outside vendors, especially if the Company's complex programming needs
continue to increase rapidly.
The Company's direct salaries and costs for the nine months ended September
30, 1996 and 1995 were $1,891,419 and $610,536, respectively, and consisted
primarily of approximately $550,000 and $270,000 paid to freelance artists and
other independent contractors (approximately $285,000 and $130,000 of which,
respectively, was paid to vendors of complex computer programming services) and
approximately $897,000 and $183,000 paid as direct salaries.
Selling, General and Administrative Expenses
Selling, general and administrative expenses for the three months ended
September 30, 1996 and 1995 were approximately $221,000 and $53,000,
respectively, and primarily consisted of professional fees, occupancy costs,
travel, office expenses and supplies and marketing and advertising, among other
things. Selling, general and administrative expenses for the nine months ended
September 30, 1996 and 1995 were approximately $607,532 and $137,834,
respectively and primarily consisted of occupancy costs, office expenses and
supplies and travel.
Subsequent to September 30, 1996, the Company opened an additional sales
office in Baltimore, Maryland and expects to open additional sales offices,
including one in Germany. As a result of any such expansion, the Company's
selling, general and administrative expenses, particularly occupancy costs,
personnel costs and office expenses and supplies, are expected to increase.
Depreciation
Depreciation expense was $23,626 and $4,779 in the three months ended
September 30, 1996 and 1995, respectively, and $46,960 and $19,705 in the nine
months ended September 30, 1996 and 1995, respectively, and related to
depreciation of equipment and leasehold improvements. The Company's
depreciation expenses in 1996 have increased significantly as a result of
depreciation of the Company's equipment and leasehold improvements in
connection with the relocation of its offices.
Income Taxes
Effective January 1995, the Company elected to be treated as an S
Corporation for federal income tax purposes. As a result, the shareholders
were individually liable for federal income tax on the Company's taxable
income. In January 1996, the Company began to be treated as a C corporation
for federal and state income tax purposes. The Company is also liable for New
York state and city income taxes.
FLUCTUATIONS IN QUARTERLY OPERATING RESULTS
Quarterly revenues and operating results have fluctuated and will fluctuate
as a result of a variety of factors. These factors, some of which have
affected the Company and some of which are beyond the Company's control,
include the timing of the completion, material reduction or cancellation of
major projects, the loss of a major customer or the termination of a
relationship with a channel source, timing of the receipt of new business,
timing of the hiring or loss of personnel, changes in the pricing strategies
and business focus of the Company or its competitors, capital expenditures,
operating expenses and other costs relating to the expansion of operations,
general economic conditions and acceptance and use of the Internet. At the
present time, the Company has determined to increase expense levels, which to a
large extent are fixed, based in part on expectations as to future revenues and
will base future expense levels similarly. As a result, operating expenses as
a percentage of revenues have increased in the three and nine months ended
September 30, 1996 as compared to the same periods in 1995. Revenues and
operating results are difficult to forecast because of these fluctuations and
because the Company lacks historical financial data for a significant number of
periods. The Company may be unable to adjust spending in a timely manner to
compensate for any unexpected revenue shortfall.
Any significant shortfall of demand for the Company's services in relation
to the Company's expectations would have an adverse impact on the Company's
business, operating results and financial condition.
The Company's quarterly operating margins may also fluctuate from period to
period depending on the relative mix of lower cost full time employees versus
higher cost independent contractors.
LIQUIDITY AND CAPITAL RESOURCES
The Company's current primary focus is on increasing its World Wide Web,
media, advertising and interactive related business and the Company continues
to hire additional personnel and to increase expenses related to
administration, production, technical resources, marketing, customer support
and infrastructure to enhance and expand its operations. During the three
months ended September 30, 1996, the Company hired 13 new employees, consisting
of two administrative personnel, three production personnel, five sales and
marketing personnel, one artist, and two programmers. In addition, the Company
had an operating cash flow deficit of $(223,406) and $(926,656) in the three
months and nine months ended September 30, 1996, respectively, which reflected
the increased expenses incurred in connection with the Company's expansion.
The Company also finances the purchase of certain equipment through capital
leases. The principal balance of such leases was $69,927 at September 30, 1996
and is payable in varying installments through the year 2001.
In July 1996, the Company completed its initial public offering in which it
sold 1,000,000 Units for gross proceeds of $6 each. Each Unit consisted of one
share of common stock and one redeemable common stock purchase warrant (two of
which entitle the holder to purchase one share of common stock). Thereafter,
the Company sold an additional 149,939 Units in connection with the exercise of
the over-allotment option. The Company received approximately $6,195,926 of
net proceeds from the initial public offering and the over-allotment option.
The Company applied a portion of the proceeds from its initial public offering
to repay its then outstanding bank loans and, accordingly, the Company
currently has no bank loans outstanding at September 30, 1996.
In addition, in May 1996, the Company sold 400,002 shares of its common
stock in a private placement for $1.75 each, or an aggregate of $700,000 gross
proceeds which yielded net proceeds of $629,000.
The Company is dependent on the proceeds of its initial public offering and
its prior private placements, together with operating revenues, for working
capital in order to be competitive, to meet the increasing demands for service,
quality and pricing and for any expansion of its business. If the Company
requires additional financing in order to satisfy its working capital needs, it
may be unavailable or prohibitively expensive since the Company's only assets
available to secure additional financing are accounts receivable. However, the
Company doe snot presently anticipate the need for additional financing based
upon its current plan of operation.
In the three months ended September 30, 1996, the Company has spent
approximately $309,000 on capital expenditures, consisting of furniture,
fixtures and leasehold improvements acquired and made in connection with the
Company's recent relocation of its principal offices. The Company expects to
make additional capital expenditures of approximately $100,000 during the
quarter ending December 31, 1996 consisting of furniture and computer equipment
for its additional offices at 50 Broad Street, New York, New York and
Baltimore, Maryland. Additional capital expenditures may be made in connection
with the opening of additional sales offices.
[10Q3-96]
<PAGE>
K2 DESIGN, INC. AND SUBSIDIARY
PART II - OTHER INFORMATION
Items 1.- 5. Not applicable
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits - Exhibit 27.1 - Final Data Schedule (included only in the
electronic filing with the Securities and
Exchange Commission)
(b) No reports on Form 8-K have been filed during the quarter for which this
report is filed.
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant caused
this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
K2 DESIGN, INC.
Date: November 14, 1996 /S/ DAVID J. CENTNER
------------------------------
David J. Centner
Chairman Of The Board,
Principal Executive Officer,
Principal Financial Officer and
Principal Accounting Officer
[10Q3-96]
<PAGE>
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
K2 DESIGN, INC. AND SUBSIDIARY CONSOLIDATED FINANCIAL STATEMENTS FOR THE
QUARTER ENDED SEPTEMBER 30, 1996 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE
TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-END> SEP-30-1996
<CASH> 5,022,941
<SECURITIES> 0
<RECEIVABLES> 537,202
<ALLOWANCES> 25,000
<INVENTORY> 0
<CURRENT-ASSETS> 5,680,313
<PP&E> 517,286
<DEPRECIATION> 78,236
<TOTAL-ASSETS> 6,151,393
<CURRENT-LIABILITIES> 488,283
<BONDS> 0
<COMMON> 36,454
0
0
<OTHER-SE> 5,586,792
<TOTAL-LIABILITY-AND-EQUITY> 6,151,393
<SALES> 1,835,833
<TOTAL-REVENUES> 1,835,833
<CGS> 1,891,419
<TOTAL-COSTS> 2,545,911
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 13,252
<INCOME-PRETAX> (682,294)
<INCOME-TAX> 15,553
<INCOME-CONTINUING> 697,847
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (697,847)
<EPS-PRIMARY> (0.27)
<EPS-DILUTED> (0.27)
</TABLE>
