<PAGE>
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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 March 31, 1999
OR
|_| TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT
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
incorporation or organization) Identification Number)
30 Broad Street, 16th Floor
New York, New York 10004
----------------------------------------
(Address of principal executive offices)
Issuer's telephone number: (212) 301-8800
--------------
Check whether the issuer (1) 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 /X/ No / /
Applicable only to Corporate Issuers:
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 MAY 10, 1999
- -------------------------------------- ---------------------------
Common stock, par value $.01 per share 3,484,415
Common stock redeemable purchase warrants 1,000,000
Transitional Small Business Disclosure Format (check one):
Yes / / No /X/
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<PAGE>
K2 DESIGN, INC. AND SUBSIDIARY
INDEX
<TABLE>
<CAPTION>
Page
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<S> <C> <C>
PART 1 - FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated balance sheet - March 31, 1999 (unaudited)..........................................3
Consolidated statements of operations - three months ended
March 31, 1999 (unaudited) and March 31, 1998 (unaudited)....................................4
Consolidated statements of cash flows - three months ended
March 31 1999 (unaudited) and March 31, 1998 (unaudited).....................................5
Notes to consolidated financial statements .....................................................6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations............8
PART II - OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K................................................................11
SIGNATURES..............................................................................................12
</TABLE>
2
<PAGE>
K2 DESIGN, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEET
<TABLE>
<CAPTION>
March 31,
1999
(unaudited)
-----------
<S> <C>
ASSETS
Current Assets:
Cash and cash equivalents $ 1,574,471
Accounts receivable, net of allowance for doubtful accounts of $50,000 344,859
Unbilled revenue 205,201
Prepaid expenses and other current assets 50,472
-----------
Total current assets 2,175,003
Investment in restricted securities 2,558,300
Fixed assets, net 699,388
Restricted cash 150,711
Other assets 5,231
-----------
Total assets $ 5,588,633
===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Current portion of capital lease obligations $ 31,384
Accounts payable 378,209
Accrued compensation and payroll taxes 116,875
Deferred revenue 72,353
Other accrued expenses 848,282
Customer advances 32,076
---------
Total current liabilities 1,479,179
Long-term capital lease obligations 29,977
Stockholders' equity:
Preferred stock, $0.01 par value, 1,000,000 shares authorized; --
0 shares issued and outstanding
Common stock, $0.01 par value 9,000,000 shares authorized;
3,717,626 shares issued and 3,471,376 shares outstanding 37,176
Treasury Stock, 246,250 shares at cost (386,781)
Additional paid-in capital 6,472,149
Accumulated Deficit (2,043,067)
-----------
Total stockholders' equity 4,079,477
-----------
Total liabilities and stockholders' equity $5,588,633
===========
</TABLE>
3
<PAGE>
K2 DESIGN, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
Three Months Ended
March 31,
1999 1998
---- ----
<S> <C> <C>
(unaudited)
Revenues $ 1,444,063 $ 2,140,382
Direct salaries and costs 1,412,891 1,465,602
Selling, general and administrative expenses 632,544 534,217
Depreciation 96,010 89,008
----------- -----------
Income (loss) from continuing operations before interest and other income, net,
income taxes and discontinued operations (697,382) 51,555
Interest and other income, net 25,226 40,463
----------- -----------
Income (loss) before income tax provision and discontinued operations (672,156) 92,018
Provision for income taxes 9,325 5,294
----------- -----------
Loss from continuing operations (681,481) 86,724
Loss from discontinued operations -- (48,805)
----------- -----------
Net income (loss) $ (681,481) $ 37,919
=========== ===========
Income (loss) per share from continuing operations
Basic $ (0.20) $ 0.02
Diluted $ (0.20) $ 0.02
Loss per share from discontinued operations
Basic $ -- $ (0.01)
Diluted $ -- $ (0.01)
Net income (loss) per share
Basic $ (0.20) $ 0.01
Diluted $ (0.20) $ 0.01
Weighted average basic common shares outstanding 3,459,205 3,680,671
=========== ===========
Weighted average diluted common shares outstanding 3,459,205 3,716,841
=========== ===========
</TABLE>
4
<PAGE>
K2 DESIGN, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Three Months Ended March 31,
1999 1998
------------ -------------
<S> <C> <C>
(unaudited)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $(681,481) $37,919
Adjustments to reconcile net income (loss) to net cash provided
by (used in) operating activities--
Non cash compensation expense 43,434 31,385
Depreciation 96,010 92,814
Changes in--
Accounts receivable (75,686) 1,836,361
Prepaid and other current assets 17,374 (2,515)
Unbilled revenue (154,749) (50,765)
Other assets 3,941 501
Accounts payable (405,007) (740,518)
Accrued compensation and payroll taxes 20,233 (27,472)
Other accrued expenses (151,617) 276,307
Deferred revenue and customer advances 53,141 10,477
Net cash provided by (used in) operating activities (1,234,407) 1,465,494
---------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of fixed assets (12,755) (73,037)
---------- ---------
Net used in investing activities (12,755) (73,037)
---------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Purchase of Treasury Stock -- (75,266)
Capital lease obligations (7,995) (16,361)
---------- ---------
Net cash used in financing activities (7,995) (91,627)
---------- ---------
Net increase (decrease) in cash (1,255,157) 1,300,830
Cash, beginning of period 2,829,628 2,242,988
---------- ----------
Cash, end of period $1,574,471 $3,543,818
========== ==========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the period for--
Interest $ 4,440 $ 7,287
========== ==========
State and local income taxes $ 23,125 $ 5,294
========== ==========
SUPPLEMENTAL DISCLOSURES OF NONCASH INVESTING
AND FINANCING ACTIVITIES:
Assets acquired under capital lease obligations $ 37,255 $ --
========== ==========
</TABLE>
5
<PAGE>
K2 DESIGN, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
March 31, 1999
1. ORGANIZATION AND BUSINESS
K2 Design, Inc. ("K2" or the "Company") commenced operations on March 1, 1993 as
a partnership. In January 1995 the Partnership contributed its capital into a
newly formed corporation and elected S Corporation status.
Effective January 1, 1996, the Company was reorganized as a Delaware C
corporation having a wholly owned operating subsidiary incorporated in New York.
The Company is authorized to issue 9,000,000 shares of common stock, par value
$.01 per share, and 1,000,000 shares of preferred stock, par value $.01 per
share.
K2 is a full service interactive communications, design and technology company,
engaged primarily in the business of interactive advertising.
Discontinued Operations
On June 1, 1998, the Company sold its CLIQNOW! Division to 24/7 Media, Inc.
("TFSM"). As a result of this sale, the Consolidated Statements of Operations
for the three months ended March 31, 1998 have been restated to reflect the
CLIQNOW! Division as a discontinued operation and to show income from
discontinued operations separately.
Investment in 24/7 Media, Inc. Stock
As of March 31, 1999, K2 Design, Inc. owned 196,492 shares of common stock of
TFSM. As of that date, the basis of this stock on the books of the Company was
$2,558,300 or approximately $13.02 per share. On May 3, 1999, the Company sold
50,000 shares of common stock of TFSM for net proceeds of $2,173,500 resulting
in a gain of approximately $1,500,000. As a condition of such sale, the Company
cannot sell or transfer any additional shares of common stock of TFSM until
August 2, 1999.
2. 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 month periods ended March
31, 1999 and 1998, in accordance with generally accepted accounting principles
for interim financial statements and pursuant to Form 10-QSB and Regulation S-B.
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 month periods ended March 31, 1999 and
1998 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, 1998, which are included in
the Company's Annual Report on Form 10-KSB 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 revenues and expenses during the
reporting periods. Actual results may differ from those estimates.
6
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3. NET INCOME (LOSS) PER SHARE OF COMMON STOCK
SFAS 128, "Earnings per Share" establishes new standards for computing and
presenting earnings per share (EPS). The new standard requires the presentation
of basic EPS and diluted EPS. Basic EPS is calculated by dividing income
available to common stockholders by the weighted average number of shares of
common stock outstanding during the period. Diluted EPS is calculated by
dividing income available to common stockholders by the weighted average number
of shares of common stock outstanding adjusted to reflect potentially dilutive
securities.
In accordance with SFAS 128, the following table reconciles net income (loss)
and share amounts used to calculate basic and diluted income (loss) per share:
<TABLE>
<CAPTION>
Three Months Ended
March 31,
1999 1998
---- ----
<S> <C> <C>
(unaudited)
Numerator: Net Income (loss) $ (681,481) $ 37,919
Denominator: Weighted average number of common shares outstanding - Basic 3,459,205 3,680,671
Weighted average number of common shares outstanding - Diluted 3,459,205 3,716,841
Net income (loss) per share
Basic $ (0.20) $ 0.01
Diluted $ (0.20)** $ 0.01
</TABLE>
**Excludes outstanding stock options as of March 31, 1999 as they are
antidilutive.
The stockholders of the Company will be voting on an amendment to increase the
number of shares of common stock subject to stock options issuable under the
Company's 1997 Stock Incentive Plan. If approved, 400,000 additional shares of
common stock would be available for issuance under such plan.
7
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following presentation of management's discussion and analysis of the
Company's financial condition and results of operations should be read in
conjunction with the Company's Consolidated Financial Statements, the
accompanying notes thereto and other financial information appearing elsewhere
in this Report. This section and other parts of this Report contain
forward-looking statements that involve risks and uncertainties. The Company's
actual results may differ significantly from the results discussed in the
forward-looking statements. Readers are encouraged to review "Factors Affecting
Operating Results and Market Price of Stock" commencing on page 14 of the
Company's 1998 Annual Report on Form 10-KSB for a discussion of these risks and
uncertainties.
RESULTS OF OPERATIONS
General
The Company is a full-service interactive marketing and communications company.
The Company provides such services as development of online brand, direct
response, communications and technical strategies, development of CD-ROM discs,
media placement on Web sites, consulting services regarding Web site usage and
user characteristics, development and maintenance of Company-owned Web site
advertising networks, live Internet broadcasts and offline media services.
Revenues are recognized on a percentage of completion basis. Provisions for any
estimated losses on uncompleted projects are made in the period in which such
losses are determinable. Most of the Company's revenues have been generated on a
fixed fee or cap fee basis. The Company also provides ongoing services to
certain customers.
On June 1, 1998, the Company sold its CLIQNOW! Division to 24/7 Media, Inc.
("TFSM"). As a result of this sale, the Consolidated Statements of Operations
for the three months ended March 31, 1998 have been restated to reflect the
CLIQNOW! Division as a discontinued operation and to show loss from
discontinued operations separately. The Company's operating results from
continuing operations for the periods discussed herein are not necessarily
representative of future periods.
<TABLE>
<CAPTION>
Percentage of Revenues For the Three
Months Ended March 31,
1999 1998
---- ----
<S> <C> <C>
Revenues: 100.00% 100.0%
Operating Expenses:
Direct salaries and costs 97.8% 68.5%
Selling, general and administrative 43.8% 25.0%
Depreciation 6.6% 4.2%
Total operating expenses 148.2% 97.7%
Income (Loss) from continuing operations before interest
and other income, net, income taxes and discontinued operations (48.2)% 2.3%
Interest and other income, net 1.8% 1.9%
Income (loss) before income tax provision and discontinued operations (46.4)% 4.2%
Provision for income taxes 0.6% 0.2%
</TABLE>
8
<PAGE>
<TABLE>
<S> <C> <C>
Income (loss) from continuing operations (47.0)% 4.0%
Loss from discontinued operations (0.0)% (2.3)%
Net income (loss) (47.0)% 1.7%
</TABLE>
Revenues
Revenues for the three months ended March 31, 1999 and 1998 were approximately
$1,444,000 and $2,140,000, respectively, or a decrease of approximately 33%. Net
revenues (i.e., gross revenues less pass-through expenses such as media
placement costs) during the same periods were approximately $492,000 and
$1,157,000, respectively, or a decrease of 57%. This decrease in net revenues
was primarily attributable to reduced internet/intranet development and reduced
banner revenues during the three months ended March 31, 1999 as compared to the
three months ended March 31, 1998. However, revenues for the three months ended
March 31, 1999 represented an increase of $961,000 or 199% over revenues of
$483,000 for the three months ended December 31, 1998. During the three months
ended March 31, 1999, VarsityBooks.com, Inc., Standard & Poor's and NCR
Corporation accounted for approximately 62%, 12% and 11%, respectively, of the
Company's gross revenues. During the three months ended March 31, 1998, Standard
& Poor's, Bell Atlantic and Planet Direct, Inc., accounted for approximately
24%, 13% and 10%, respectively, of the Company's gross revenues. Accordingly,
although the Company has increased its efforts to maintain and enhance client
relationships, loss of major clients without a comparable replacement could
cause quarterly results to fluctuate and could have a material adverse effect on
the Company's financial condition. See "Fluctuations in Quarterly Operating
Results."
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. As a percentage of revenues,
direct salaries and costs increased for the three months ended March 31, 1999 as
compared to the same period in 1998. Part of the reason for this increase is due
to the 33% decrease in sales during the three months ended March 31, 1999 as
compared to the same period in 1998, with direct salaries remaining
approximately the same for both periods. In absolute dollars, direct salaries
and costs decreased by approximately $53,000 from approximately $1,466,000 for
the 1998 quarter to approximately $1,413,000 for the 1999 quarter. In the 1999
period, direct salaries and costs consisted primarily of approximately $918,000
of media placement costs, and approximately $417,000 paid as direct labor costs.
In the 1998 period, direct salaries and costs consisted primarily of
approximately $935,000 paid as media placement costs and approximately $405,000
paid as direct labor costs.
Selling, General and Administrative Expenses
Selling, general and administrative expenses for the three months ended March 31
1999 and 1998 were approximately $633,000 (43.8% of revenues) and $534,000
(25.0% of revenues), respectively, and consisted primarily of labor costs,
professional fees, occupancy costs, travel, office expenses and supplies and
marketing and advertising, among other things. The Company's selling, general
and administrative costs have increased due to increased compensation costs as
well as increased public relations and printing costs.
Depreciation
Depreciation expense was approximately $96,000 and $89,000 in the three months
ended March 31, 1999 and 1998, respectively, and related to depreciation of
equipment, furniture and fixtures, and leasehold improvements. The Company's
depreciation expenses in 1999 have increased as a result of recent purchases of
computer equipment and peripherals.
Income Taxes
The Company currently has a net operating loss carry forward of approximately $2
million.
9
<PAGE>
Operating Loss
The operating loss of $697,000 during the three months ended March 31, 1999 as
compared to operating income of $51,000 during the three months ended March 31,
1998, was primarily due to a reduction in internet/intranet development revenue,
as well as a reduction in banner revenue. In addition, selling general and
administrative costs have increased due to increased compensation costs, public
relations costs and printing costs. However, operating loss for the three months
ended March 31, 1999 represented a decrease in operating loss of $766,000 or
52.7% from the operating loss of $1,473,000 for the three months ended December
31, 1998.
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. The Company's quarterly operating margins
may also fluctuate from period to period depending on the relative mix of media
placement and maintenance versus other forms of advertising.
Liquidity and Capital Resources
The Company's cash of $1,574,471, plus the value of its equity position in TFSM
at cost of $2,558,300, or an aggregate of approximately $4,132,771, has
decreased approximately $1,250,000 or 23% as compared to December 31, 1998. This
decrease is due primarily to a reduction in outstanding liabilities as well as
the net loss for the three months ended March 31, 1999. However, on May 3, 1999,
the Company sold 50,000 shares of common stock of TFSM for net proceeds of
$2,173,500, a gain of approximately $1,500,000. The Company intends to use the
proceeds of this sale plus its equity interest in TFSM to provide additional
financial strength to assist the Company with its growth strategy.
The Company is dependent on its current cash and the TFSM stock, together with
cash generated by operations for working capital in order to be competitive, to
meet the increasing demands of service, quality and pricing and for the
expansion of its business. While the Company believes that its cash position
together with cash expected to be generated by operations will be sufficient to
finance its operations for at least one year, the Company may nevertheless
require future financing in order to satisfy its working capital needs, which
may be unavailable or prohibitively expensive.* Accordingly, the Company may not
have the funds to relieve any liquidity problems, should they arise, or to
finance any expansion of its business.
Net cash used in the Company's operating activities was $1,234,407 for the three
months ended March 31, 1999 and related primarily to an increase in unbilled
revenue and accounts receivable, and a decrease in accounts payable and accrued
expenses payable as indicated in the statement of cash flows.
For the three months ended March 31, 1999, the Company spent approximately
$12,755 on capital expenditures, consisting of computer equipment, furniture,
fixtures and leasehold improvements. Additional capital expenditures of
approximately $90,000 are expected to be made in connection with equipment and
office leasehold improvements during 1999.
Year 2000 Compliance
- ----------
* This statement is a forward-looking statement reflecting current
expectations. There can be no assurance that the Company's actual future
performance will meet the Company's current expectations. See "Factors Affecting
Operating results and Market Price of Stock" contained in the Company's Annual
Report on Form 10-KSB for the fiscal year ended December 31, 1998 for a
discussion of the risks and uncertainties which may affect this statement.
10
<PAGE>
There are issues associated with the programming code in existing computer
systems as the year 2000 approaches. The "year 2000 problem" is pervasive and
complex, as virtually every computer operation will be affected in some way by
the rollover of the two digit year value of 00. The issue is whether computer
systems will properly recognize date sensitive information when the year changes
to 2000. Systems that do not properly recognize such information could generate
erroneous data or cause a system to fail. Management believes that after testing
all internal hardware and software, they are year 2000 compliant. The Company's
router has been replaced in order to be year 2000 compliant and a special year
2000 compliant test software has been run on the Company's hardware to ascertain
that the Company hardware is compliant. The Company's telecommunications system
and accompanying software have been verified by a third party as being year 2000
compliant. The Company is not aware of any programming created by the Company on
behalf of a client that is not year 2000 compliant. The Company is not
responsible for outside modes of communication, sites or facilities over which
client media campaigns or placements occur; however, the Company is not
currently aware of any such delivery vendors that are not year 2000 compliant.
However, significant uncertainty exists concerning the potential costs and
effects with year 2000 compliance. Any year 2000 compliance problems of either
the Company or its clients or vendors could have a material adverse effect of
the Company's business, results of operations and financial condition.
PART II - OTHER INFORMATION
Items 1., 2., 3., 4., & 5. Not applicable.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits - Exhibit 27.1 - Financial Data Schedule
(b) None
11
<PAGE>
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.
<TABLE>
<S> <C>
K2 DESIGN, INC.
Date: May 19, 1999 By: /s/ Lynn Fantom
---------------------------------------
Lynn Fantom
Chief Executive Officer and President
By: /s/ Seth Bressman
---------------------------------------
Seth Bressman
Chief Financial Officer
(Principal Financial and Accounting Officer)
</TABLE>
12
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> MAR-31-1999
<CASH> 1,574,471
<SECURITIES> 0
<RECEIVABLES> 394,589
<ALLOWANCES> 50,000
<INVENTORY> 0
<CURRENT-ASSETS> 2,175,003
<PP&E> 1,515,213
<DEPRECIATION> 815,825
<TOTAL-ASSETS> 5,588,633
<CURRENT-LIABILITIES> 1,479,179
<BONDS> 0
0
0
<COMMON> 37,176
<OTHER-SE> 0
<TOTAL-LIABILITY-AND-EQUITY> 5,588,633
<SALES> 0
<TOTAL-REVENUES> 1,444,063
<CGS> 918,422
<TOTAL-COSTS> 2,141,445
<OTHER-EXPENSES> 2,885
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 4,440
<INCOME-PRETAX> (672,156)
<INCOME-TAX> 9,325
<INCOME-CONTINUING> (681,481)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (681,481)
<EPS-PRIMARY> (0.20)
<EPS-DILUTED> (0.20)
</TABLE>
