<PAGE>
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SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q--QUARTERLY REPORT UNDER SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
(Mark One)
[X] Quarterly Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
For the quarterly period ended September 30, 2000
OR
[_] Transition Report Pursuant to Section 13 or 15 (d) of the
Securities Exchange Act of 1934
For the transition period from ____________ to _____________
Commission File Number: 333-94755
DIGITAL LIGHTHOUSE CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 84-1334615
(State or other jurisdiction (I.R.S. Employer Identification No.)
of incorporation)
5619 DTC Parkway, 12th Floor
Englewood, Colorado 80111-3017
(303) 357-3000
(Address and telephone number of principal executive offices)
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 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.
(1) Yes [X] No [_]
(2) Yes [X] No [_]
On October 26, 2000, 18,385,651 shares of the registrant's Common Stock were
outstanding
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<PAGE>
TABLE OF CONTENTS
PART I FINANCIAL INFORMATION
<TABLE>
<CAPTION>
Item 1. Financial Statements.
<S> <C>
Condensed Consolidated Financial Statements:
Condensed Consolidated Balance Sheets at December 31, 1999 and September 30, 2000 (unaudited)............ 1
Unaudited Condensed Consolidated Statements of Operations for the Three and Nine Months Ended September
30, 1999 and September 30, 2000....................................................................... 2
Unaudited Condensed Consolidated Statement of Stockholders' Equity (Deficit) for the Nine Months Ended
September 30, 2000.................................................................................... 3
Unaudited Condensed Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 1999
and September 30, 2000................................................................................ 4
Notes to Condensed Consolidated Financial Statements..................................................... 5
Item 2. Management's Discussion and Analysis of Financial Condition and Results of
Operations............................................................................................ 10
Item 3. Quantitative and Qualitative Disclosures About Market Risk...................................... 19
PART II OTHER INFORMATION
Item 1. Legal Proceedings............................................................................... 20
Item 2. Changes in Securities and Use of Proceeds....................................................... 20
Item 3. Defaults Upon Senior Securities................................................................. 20
Item 4. Submission of Matters to a Vote of Security Holders............................................. 20
Item 5. Other Information............................................................................... 20
Item 6. Exhibits and Reports on Form 8-K................................................................ 20
</TABLE>
Unless otherwise indicated, all references to "Digital Lighthouse," "we,"
"us" and "our" refer to Digital Lighthouse Corporation, a Delaware corporation,
and our predecessor Colorado corporation. When used in the Report, the words
"intend," "expects," "plans," "estimates," "anticipates," "projects,"
"believes," and similar expressions are intended to identify forward-looking
statements. Specifically, statements included in this Report that are not
historical facts, including statements about our beliefs and expectations about
our business and our industry are forward-looking statements. These statements
are subject to risks and uncertainties that could cause actual results to differ
materially. Forward looking statements included in this Report speak only as of
the date of this Report and we will not revise or update these statements to
reflect events or circumstances after the date of this Report or to reflect the
occurrence of unanticipated events.
All brand names and trademarks appearing in this filing are the property of
their holders.
<PAGE>
Item 1. Financial Statements
DIGITAL LIGHTHOUSE CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Dollars in thousands, except per share amounts)
<TABLE>
<CAPTION>
December 31, September 30,
ASSETS 1999 2000
------- -------
(unaudited)
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents.................................................... $ 6,204 $11,663
Restricted cash.............................................................. 407 4,457
Short term investments....................................................... -- 9,734
Receivables, net of allowances of $464 and $562 respectively--
Trade....................................................................... 5,218 13,618
Unbilled.................................................................... 1,108 1,300
Other....................................................................... -- 289
Related party notes receivable............................................... 690 786
Prepaid expenses............................................................. 713 2,539
Other current assets......................................................... 193 275
------- -------
Total current assets....................................................... 14,533 44,661
PROPERTY AND EQUIPMENT, net of accumulated depreciation of $5,223 and
$7,074, respectively......................................................... 7,982 15,990
GOODWILL AND OTHER INTANGIBLES, net of amortization of $5,062 and
$3,438, respectively......................................................... 2,808 7,163
OTHER ASSETS.................................................................. 1,055 1,351
------- -------
Total assets............................................................... $26,378 $69,165
======= =======
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES:
Trade accounts payable....................................................... $ 1,668 $ 3,685
Accrued compensation......................................................... 1,347 2,146
Other accrued liabilities.................................................... 2,034 367
Restructuring Costs.......................................................... -- 4,584
Customer deposits............................................................ 237 140
Current portion of notes payable and capital leases.......................... 1,316 2,240
Related party notes payable.................................................. 398 398
-------- -------
Total current liabilities.................................................. 7,000 13,560
Deferred rent................................................................ 245 193
Long-term notes payable and capital lease, net of current portion............ 1,722 3,766
-------- -------
Total liabilities.......................................................... 8,967 17,519
-------- -------
COMMITMENTS AND CONTINGENCIES (Note 8)........................................
CONVERTIBLE PREFERRED STOCK SUBJECT TO MANDATORY REDEMPTION, $.001 par value,
10,000,000 shares authorized................................................. 59,408 --
STOCKHOLDERS' EQUITY (DEFICIT):
Common stock, $.0001 par value, 100,000,000 shares authorized, 1,881,444
and 18,385,651 shares issued and outstanding as of December 31, 1999 and
September 30, 2000, respectively........................................... 1 2
Additional paid-in capital................................................... -- 115,993
Warrants for common stock.................................................... -- 1,254
Unearned compensation........................................................ (1,266) (3,871)
Accumulated deficit.......................................................... (40,732) (61,732)
-------- -------
Total stockholders' equity (deficit)....................................... (41,997) 51,646
-------- -------
Total liabilities and stockholders' equity (deficit)....................... $ 26,378 $69,165
======== =======
</TABLE>
The accompanying notes to financial statements
are an integral part of these consolidated balance sheets.
1
<PAGE>
DIGITAL LIGHTHOUSE, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Dollars in thousands, except per share amounts)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
1999 2000 1999 2000
---------- ----------- ---------- -----------
(unaudited)
<S> <C> <C> <C> <C>
REVENUE..................................................... $ 5,567 $ 12,134 $ 15,878 $ 30,440
DIRECT COST OF SERVICES..................................... (4,296) (7,485) (11,354) (19,159)
---------- ----------- ---------- -----------
GROSS PROFIT................................................ 1,271 4,649 4,524 11,281
---------- ----------- ---------- -----------
OPERATING EXPENSES:
Selling, general and administrative....................... 3,864 9,128 9,957 22,938
Depreciation and amortization............................. 875 1,454 2,415 3,465
Research and development.................................. 389 -- 1,061 --
Restructure charge........................................ -- 5,009 -- 5,009
---------- ----------- ---------- -----------
Total operating expenses............................... 5,128 15,591 13,433 31,412
---------- ----------- ---------- -----------
LOSS FROM OPERATIONS........................................ (3,857) (10,942) (8,909) (20,131)
---------- ----------- ---------- -----------
OTHER (EXPENSES) INCOME:
Recovery from Spider...................................... -- -- -- 522
Interest income........................................... 23 477 82 1,138
Interest expense.......................................... (8) (58) (19) (179)
Loss on disposal of equipment and other (11) (22) (12) (66)
---------- ----------- ---------- -----------
NET LOSS.................................................... $ (3,853) $ (10,545) $ (8,858) $ (18,716)
========== =========== ========== ===========
NET LOSS APPLICABLE TO COMMON
STOCKHOLDERS:
Net loss............................................... $ (3,853) $ (10,545) $ (8,858) $ (18,716)
Accretion of mandatorily redeemable convertible
preferred stock...................................... (132) -- (387) (882)
Cumulative dividends to preferred stockholders......... -- -- -- (1,402)
Guaranteed minimum return on series F preferred stock.. -- -- -- (13,366)
---------- ----------- ---------- -----------
NET LOSS APPLICABLE TO COMMON
STOCKHOLDERS............................................. $ (3,985) $ (10,545) $ (9,245) $ (34,366)
========== =========== ========== ===========
BASIC AND DILUTED NET LOSS PER SHARE........................ $ (2.13) $ (0.57) $ (4.95) $ (2.60)
========== =========== ========== ===========
WEIGHTED AVERAGE COMMON SHARES
OUTSTANDING--
BASIC AND DILUTED...................................... 1,868,124 18,387,023 1,868,100 13,239,841
========== =========== ========== ===========
</TABLE>
The accompanying notes to financial statements
are an integral part of these consolidated statements
2
<PAGE>
DIGITAL LIGHTHOUSE, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY (DEFICIT)
(Amounts in thousands, except share amounts)
<TABLE>
<CAPTION>
Common Stock Additional Warrants in
------------------ Paid-In Common Unearned Accumulated
Shares Amount Capital Stock Compensation Deficit Total
---------- ------ ---------- ----------- ------------ ----------- --------
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCES, December 31, 1999................... 1,881,444 $ 1 $ -- $ -- $ (1,266) $ (40,732) $(41,997)
Accretion of preferred stock to
liquidation and Redemption value........... -- -- -- -- -- (882) (882)
Cumulative dividends to preferred
Stockholders............................... -- -- -- -- -- (1,402) (1,402)
Guaranteed minimum return to series F
preferred stockholders..................... -- -- (13,366) -- -- -- (13,336)
Warrants issued.............................. -- -- -- 1,254 -- -- 1,254
Option grants................................ -- -- 4,306 -- (4,306) -- --
Option exercises............................. 375 -- 1 -- -- -- 1
Amortization of unearned compensation........ -- -- -- -- 1,701 -- 1,701
Initial public offering, net................. 4,500,000 -- 47,851 -- -- -- 47,851
Preferred stock converted into common
stock...................................... 11,593,832 1 75,057 -- -- -- 75,058
Issuance of common stock for the Acorn
acquisition................................ 10,000 -- 119 -- -- -- 119
Issuance of common stock for the
Lighthouse acquisition..................... 400,000 -- 2,025 -- -- -- 2,025
Net loss..................................... -- -- -- -- -- (18,716) (18,716)
---------- ------ ---------- ----------- ------------ ----------- --------
BALANCES, September 30, 2000 (unaudited)...... 18,385,651 $ 2 $ 115,993 $ 1,254 $ (3,871) $ (61,732) $ 51,646
========== ====== ========== =========== ============ =========== ========
</TABLE>
The accompanying notes to financial statements
are an integral part of these consolidated statements.
3
<PAGE>
DIGITAL LIGHTHOUSE CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
<TABLE>
<CAPTION>
Nine months ended
September 30,
1999 2000
------- --------
(unaudited)
<S> <C> <C>
Cash flows from operating activities:
Net loss.................................................................................... $(8,858) $(18,716)
Adjustments to reconcile net loss to net cash used in operating activities--
Depreciation and amortization............................................................ 2,415 3,465
Amortization of warrants................................................................. -- 702
Discount on short term investments....................................................... -- 428
Stock compensation expense............................................................... 12 1,701
Changes in assets and liabilities--
Receivables........................................................................... 1,197 (7,714)
Prepaid and other assets.............................................................. (715) (1,580)
Accounts payable...................................................................... 466 570
Accrued expenses...................................................................... 975 3,312
Other................................................................................. 68 (52)
------- --------
Net cash used in operating activities.................................................... (4,440) (17,884)
Cash flows from investing activities:
Short term investments...................................................................... -- (10,162)
Purchase of property and equipment.......................................................... (3,817) (9,202)
Restricted cash............................................................................. (258) (4,050)
Acquisitions, net of cash acquired.......................................................... -- (2,469)
Notes receivables........................................................................... (450) (97)
------- --------
Net cash used in investing activities.................................................... (4,525) (25,980)
Cash flows from financing activities:
Proceeds from preferred stock offering, net................................................. 3,970 --
Proceeds from initial public offering, net.................................................. -- 47,851
Borrowings.................................................................................. 1,623 2,583
Repayment of borrowings..................................................................... (13) (1,112)
Options exercised........................................................................... -- 1
------- --------
Net cash provided by financing activities................................................ 5,580 49,323
Net (decrease) increase in cash and cash equivalents........................................ (3,385) 5,459
------- --------
Cash and cash equivalents, beginning of period.............................................. 3,752 6,204
------- --------
Cash and cash equivalents, end of period.................................................... $ 367 $ 11,663
======= ========
Supplemental disclosures of cash flow information:
Cash paid for interest...................................................................... $ 19 $ 123
Acquisition of property, plant and equipment through the issuance of
capital leases or other financing facilities............................................. $ 1,623 $ 2,583
</TABLE>
The accompanying notes to financial statements
are an integral part of these consolidated statements.
4
<PAGE>
DIGITAL LIGHTHOUSE CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(1) Organization and Nature of Business
Digital Lighthouse is an eBusiness Service Provider, delivering integrated
end-to-end customer relationship management (CRM) solutions. We enable our
clients to increase the lifetime value of their customers and streamline
customer interactions in order to become more effective customer-centric
enterprises. Digital Lighthouse focuses on the design and integration of
technologies required for organizations to harness the power of the
customer-centric business model. We offer Internet Professional and Operational
ASP services that help transform businesses into customer-centric enterprises.
Digital Lighthouses designs, integrates and operates the technological and
operational infrastructures that enable our clients to manage their
direct-to-customer relationships effectively and efficiently. These services
include the integration and customization of customer interactions systems,
including transaction platforms, communications systems, web site interfaces and
content management programs. Beyond systems design, integration and
customization, Digital Lighthouse also manages and analyzes customer data. Our
Operational ASP Services team operates and manages CRM related technical and
operation infrastructures, including software and data hosting and ongoing
customer communication programs.
(2) Interim Financial Data
The consolidated balance sheet as of September 30, 2000, statement of
stockholders' equity (deficit) for the nine months ended September 30, 2000 and
the condensed consolidated statements of operations and cash flows for the three
and nine months ended September 30, 1999 and 2000 have been prepared by us
without an audit. In our opinion, all adjustments, consisting of normal
recurring adjustments necessary to present fairly the consolidated financial
position, results of operations and cash flows have been made. The results of
operations for this interim period are not necessarily indicative of the results
for the full year.
The accompanying financial statements should be read with our consolidated
financial statements included in our Registration Statement filed on Form S-1
with the Securities and Exchange Commission on March 24, 2000. Certain prior
period amounts have been reclassified to conform to the current period's
presentation.
5
<PAGE>
(3) Short Term Investments
All short-term investments, consisting of commercial paper, are currently
classified as held to maturity in accordance with Financial Accounting Standards
Board ("FASB") No. 115, "Accounting for Certain Investments in Debt and Equity
Securities." Realized gains and losses, dividends, and interest income for these
securities are included in earnings.
(8) Recently Adopted Accounting Standards
In December 1999, the staff of the Securities and Exchange Commission
issued its Staff Accounting Bulletin ("SAB") No. 101, Revenue Recognition. SAB
No. 101 provides guidance on the measurement and timing of revenue recognition
in financial statements of public companies. The early adoption by us in January
2000 of SAB No. 101, had an immaterial effect on our consolidated financial
statements.
In March 2000, the FASB issued FASB Interpretations ("FIN") No. 44,
"Accounting for Certain Transactions Involving Stock Compensation." FIN No. 44
provides clarification and guidance on applying Accounting Principles Board
("APB") No. 25. FIN No. 44 generally provides for prospective application for
grants or modifications to existing stock options or awards made after June 30,
2000. Effective April 1, 2000, we adopted FIN No. 44, which had no material
effect on our consolidated financial statements.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities," which establishes accounting and reporting
standards for derivative instruments and hedging activity. SFAS No. 133, as
amended by SFAS No. 137 in June 1999, is effective for the company for all
periods in fiscal year 2001. SFAS No. 133 requires all derivatives to be
recorded on the balance sheet as either an asset or liability and measured at
their fair value. Changes in the derivatives fair value will be recognized
currently in earnings unless specific hedging accounting criteria are met. SFAS
No. 133 also establishes uniform hedge accounting criteria for all derivatives.
The company currently does not use any derivative instruments and accordingly
does not believe that the adoption of SFAS No. 133 will have any impact on its
financial statements.
(5) Net Loss Per Share
Effective March 2, 2000, we amended our Certificate of Incorporation to
change the automatic conversion of our preferred stock (other than our series A
preferred stock) to provide that all such preferred stock, including unpaid
dividends, automatically converted into common stock on a four for one basis
upon completion of an initial public offering of common stock resulting in
aggregate proceeds to Digital Lighthouse of at least $25 million and a per share
price of at least $10.00.
Our outstanding preferred stock, including unpaid dividends, automatically
converted to in the aggregate 11,034,615 shares of common stock upon the
completion of our initial public offering on March 24, 2000. Periodic charges
to net loss applicable to common stockholders of $882,000 were recognized for
the period December 31, 1999 through March 24, 2000 to accrete the value of each
series of preferred stock to its liquidation and redemption value.
The terms of the series F preferred stock financing provided that we would
issue additional shares upon conversion of the series F preferred stock to
common stock so that the price per share of series F preferred stock would not
exceed one-half of the initial public offering price. As a result, we issued
559,217 additional shares of common stock and recognized a one-time charge of
approximately $13.4 million net loss applicable to common stockholders upon
consummation of our initial public offering.
6
<PAGE>
Components of our net loss per share of ($2.60) for the nine months ended
September 30, 2000 are as follows:
Net loss.............................................................. $(1.41)
Accretion of mandatorily redeemable convertible preferred stock....... (0.07)
Cumulative dividends to preferred stockholders........................ (0.11)
Guaranteed minimum return on series F preferred stock................. (1.01)
------
Net loss applicable to common stockholders............................ $(2.60)
======
(6) Stockholders' Equity (Deficit)
Employee Stock Purchase Plan
In June 2000, we delayed the implementation of our 2000 Employee Stock
Purchase Plan. The plan will be implemented in eight semiannual offerings of
250,000 shares of common stock each, commencing on October 1, 2000; 2,000,000
shares in aggregate are available to be sold under the plan. Eligible employees
may withhold up to 10% of their base salary during the semiannual period to be
used to purchase shares under the plan in exchange for 85% of the lesser of the
closing price at the beginning or end of the purchase period.
2000 Stock Incentive Plan
In January 2000, we adopted the 2000 Stock Incentive Plan and reserved
2,750,000 shares of common stock for issuance upon stock grants or exercise of
options granted under this plan. As of September 30, 2000, we had granted
695,862 options under this plan. Compensation expense related to these grants
and other grants under our 2000, 1998 and 1997 plans for the nine months ended
September 30, 2000 was approximately $1,701,000.
Warrant
In January 2000, Digital Lighthouse granted a warrant to a major customer
to purchase 181,250 shares of common stock at an exercise price of $8.52 per
share. The value of the warrant at the date of grant was approximately $1.1
million and is being amortized over one year. Sales to this customer as a
percentage of revenue were 27% and 28% for the three and nine months ended
September 30, 2000, respectively.
7
<PAGE>
(7) Borrowings
In June 2000, we entered into an equipment lease facility agreement, which
provides us with up to $10 million in financing on purchases of new equipment
and furniture. The facility is available to draw upon through June of 2001 and
provides for leasing terms of between three and five years. The cost of funds is
determined at the date of funding and the facility is secured by the equipment
purchased and up to an equal amount in restricted cash. As of September 30, 2000
we had approximately $3.1 million outstanding under this line of credit.
(8) Commitments and Contingencies
On October 1, 1999, we acquired Acorn Information Systems, Inc. ("Acorn").
On March 20, 2000, the contingent earn-out provision relating to the Acorn
acquisition was amended. As a result, four former stockholders of Acorn, who are
now our employees, will collectively receive a total of $200,000, on each of the
first and second anniversaries of the acquisition, assuming all four employees
remain employed when these amounts become due. On the third anniversary of the
Acorn acquisition, the former Acorn stockholders will be entitled to receive an
additional $400,000 aggregate payment so long as they are employed by Digital
Lighthouse on that date or, if approved by our Chief Executive Officer, at least
two of them are employed by Digital Lighthouse on that date. These payments
will be accounted for as compensation expense in the years earned. These four
employees were also granted a total of 400,000 stock options at an exercise
price of $10.00 per share one-third of which vested immediately and the
remainder vesting monthly over the next thirty months. A former stockholder of
Acorn, who is not a Digital Lighthouse employee, was issued 10,000 shares of our
common stock, which was accounted for as additional purchase consideration.
Additionally, we transferred 1,000,000 shares of Spider Technologies, Inc.
("Spider") common stock to the former Acorn stockholders. These shares were
acquired through our exercise of a warrant we had been granted upon completion
of the Spider spin-off in the fourth quarter of 1999. These shares are
restricted and will vest at the same rate as the stock options for the four
employee former stockholders. Any unvested shares will be forfeited to us if
the vesting requirements are not satisfied. The transfer of these shares will
be charged to compensation expense over the vesting period based upon the fair
value of the shares as they vest. The one non-employee former Acorn stockholder
received his Spider shares without restriction.
8
<PAGE>
(9) Acquisitions:
Lighthouse Consulting Group, Inc. In July 2000, we completed a merger with
Lighthouse Consulting Group, a content and document management consulting firm
based in Kansas City, Missouri. The purchase was accounted for under the
purchase method of accounting. The purchase price consisted of $878,000 in cash,
400,000 shares of common stock valued at $2.0 million for a total purchase price
of $2.9 million. An additional 200,000 shares of our common stock may be issued
on March 31, 2001 and an additional 200,000 shares of our common stock may be
issued on March 31, 2002 if certain financial results are attained. The
acquisition of Lighthouse has allowed us to expand our capabilities in
Professional Services and expand our presence in major metropolitan areas such
as New York and Chicago.
Riptide Communications, Inc. In July 2000, we acquired the assets and
certain liabilities of Riptide Communications, Inc., a web design and hosting
company based in New York City, New York. The purchase was accounted for under
the purchase method of accounting. The purchase price consisted of $1.6 million
in cash. The acquisition of Riptide has allowed us to expand our abilities in
providing web services to our clients.
The purchase price allocations are subject to adjustments based upon the
final determination of the fair value of assets acquired and liabilities
assumed. Digital Lighthouse does not believe any such adjustments will
materially change the initial purchase price allocation.
The allocation of consideration given during the nine months ended
September 30, 2000 to the acquired assets is as follows:
Purchase price:
Cash paid............................................. $ 2,476,820
Common stock issued to former owners.................. 2,025,000
--------------
Total purchase price.................................. $ 4,501,820
==============
Allocation of the purchase price to acquired assets and assumed
liabilities:
Cash.................................................. $ 7,941
Accounts receivable................................... 1,168,404
Prepaid, deposits & other current assets.............. 61,898
Equipment............................................. 938,769
Goodwill and other intangible assets.................. 5,568,000
Liabilities and debt assumed.......................... (3,243,192)
--------------
Amounts allocated.................................. $ 4,501,820
==============
9
<PAGE>
Item 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis of our financial condition and
results of operations should be read in conjunction our condensed consolidated
financial statements and accompanying notes included elsewhere in this Quarterly
Report. This discussion and analysis contains certain forward-looking statements
that are based on current expectations and involve risks, uncertainties and
assumptions. Our actual results may differ materially from those anticipated in
these forward-looking statements as a result of the uncertainty of several
factors.
Overview
Digital Lighthouse is an eBusiness Service Provider, delivering integrated
end-to-end customer relationship management (CRM) solutions. We enable our
clients to increase the lifetime value of their customers and streamline
customer interactions in order to become more effective customer-centric
enterprises. Digital Lighthouse focuses on the design and integration of
technologies required for organizations to harness the power of the
customer-centric business model. We offer Internet Professional and Operational
ASP services that help transform businesses into customer-centric enterprises.
Digital Lighthouses designs, integrates and operates the technological and
operational infrastructures that enable our clients to manage their
direct-to-customer relationships effectively and efficiently. These services
include the integration and customization of customer interactions systems,
including transaction platforms, communications systems, web site interfaces and
content management programs. Beyond systems design, integration and
customization, Digital Lighthouse also manages and analyzes customer data. Our
Operational ASP Services team operates and manages CRM related technical and
operation infrastructures, including software and data hosting and ongoing
customer communication programs.
Description of Financial Components
Our revenues are generated both from our internet professional services
practice groups, including web site design and creative strategies, knowledge
management, data management, and analytics and technology services, as well as
from our operational services group, including transaction processing and
communications services, e-mail, live chat, voice, and other programs.
10
<PAGE>
Direct cost of services consists primarily of compensation and benefits to
our employees engaged in the direct delivery of professional services related to
the development, implementation and support of programs for our clients. Direct
cost of services also includes materials, training, and telecommunications
expenses necessary for execution of our clients' programs.
Selling, general and administrative expenses have increased, and we expect
them to continue to increase as we recruit additional support personnel for
continued growth. These expenses consist primarily of salaries, commissions,
benefits, and related expenses for personnel engaged in sales and client
support; salaries and related expenses of executive management, human resources,
finance and administrative personnel; expenses related to our facilities;
marketing and branding expenses, including trade shows and promotional events;
and other general corporate expenses. During the third quarter of 2000, we
recognized $276,000 and $404,000 in compensation expense related to warrants and
stock option grants, respectively.
Depreciation and amortization expenses consist of the depreciation of
equipment used in our operations, including phone switches and computer
equipment at our facilities. These expenses will continue to increase as we
build out our additional operations service centers. Depreciation and
amortization also consists of amortization of goodwill and other intangibles.
We had $7.2 million of goodwill and other intangibles, net of amortization at
September 30, 2000. We amortize our goodwill over five years and other
intangibles over three years.
Research and development expenses consist of charges, including labor and
materials, related to the development and enhancement of software and technology
platforms used in providing services to our clients. In 2000 and going forward,
we anticipate these expenses to be minimal as a result of our transferring
the rights to the proprietary software that we had developed to a newly formed
subsidiary, Spider Technologies, Inc. ("Spider"), and spinning off the stock of
Spider to our stockholders in the fourth quarter of 1999 to form a separate
company.
Restructure charge consist of one-time accrued expenses taken in September
2000 related mainly to the elimination of personnel positions and facilities
resulting from improved efficiencies from automated systems and the deletion of
duplicated positions and responsibilities as an indirect result of the
acquisitions. The charge was approximately $5 million of which approximately
$4.5 million was related to personnel severance charges and approximately
$500,000 was related to facilities discontinuation charges. The overall savings
is expected to save the Company at least $6 million over the next 12 months. The
severance charges will impact cash usage, as the severances are salary and
benefit continuation with an average duration of seven months.
11
<PAGE>
Interest income is primarily earned on cash balances in our bank accounts
and short-term investments, and will decrease as we use the proceeds of our
initial public offering for working capital requirements. Interest expense is
incurred on our debt and capital lease obligations that we use to finance a
portion of our capital expenditures. In June 2000, we entered into a $10
million equipment lease facility. As of September 30, 2000, $6.9 million was
available under this facility. Use of this facility will increase our interest
expense in future periods.
Results of Operations
The following table sets forth data for the three and nine months ended
September 30, 1999 and 2000 taken from our consolidated statements of
operations. We evaluate our business based on numerous factors, including
revenue and gross profit as a percentage of our revenues.
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
1999 2000 1999 2000
------- -------- ------- --------
<S> <C> <C> <C> <C>
(Dollars in thousands)
(unaudited)
Revenue....................................... $ 5,567 $ 12,134 $15,878 $ 30,440
Direct cost of services....................... (4,296) (7,485) (11,354) (19,159)
------- -------- ------- --------
Gross profit.................................. 1,271 4,649 4,524 11,281
Operating expenses:
Selling, general and administrative......... 3,864 9,128 9,957 22,938
Depreciation and amortization............... 875 1,454 2,415 3,465
Research and development.................... 389 -- 1,061 --
Restructuring charge........................ -- 5,009 -- 5,009
------- -------- ------- --------
Total operating expenses................. 5,128 15,591 13,433 31,412
------- -------- ------- --------
Loss from operations.......................... (3,857) (10,942) (8,909) (20,131)
Other (expense) income:
Recovery from Spider........................ -- -- -- 522
Interest income............................. 23 477 82 1,138
Interest expense............................ (8) (58) (19) (179)
Loss on disposal of equipment and other (11) (22) (12) (66)
------- -------- ------- --------
Net loss...................................... $(3,853) $(10,545) $(8,858) $(18,716)
======= ======== ======= ========
</TABLE>
Three Months Ended September 30, 2000 Compared to Three Months Ended September
30, 1999
Revenue. Revenue for the third quarter of 2000 was $12.1 million, which
was 118% greater than revenue of $5.6 million for the third quarter of 1999. The
increase came primarily from new clients working with the customer relationship
professional services team. ASP operations service revenue also grew through the
expansion of existing accounts.
12
<PAGE>
Direct cost of services. Direct cost of services for the third quarter of
2000 was $7.5 million, compared to $4.3 million for the third quarter of 1999.
Direct costs as a percentage of revenue decreased from 77% to 62% primarily as a
result of a change in mix of our revenue towards our customer relationship
professional services, our focus on increased utilization of our people, and our
efforts to consolidate similar customer services into the same operations
service centers.
Selling, general and administrative expenses. Selling, general and
administrative expenses were $9.1 million, or 75% of revenue, in the third
quarter of 2000, compared to $3.9 million, or 69% of revenue, in the third
quarter of 1999. This increase consists primarily of salaries and related
expenses resulting from an increase in personnel to support continued growth in
our professional services and ASP operations areas. The two acquisitions in the
third quarter contributed substantially to this increase, however, we would
expect these to decline as a percentage of revenue over time as we continue to
grow our professional services and ASP operational areas, as well, as cross
selling to our existing customer base. Included also is the costs of soliciting
potential customers such as brochures, trade shows, consulting fees, printing,
advertising and promotional campaigns as we continue our additional focus on our
sales and marketing efforts. In addition, we incurred approximately $404,000 in
compensation expense for incentive stock options and $276,000 in amortization
expense for warrants granted.
Depreciation and amortization expenses. Depreciation and amortization
expenses in the third quarter of 2000 were $1,454,000 compared to $875,000 in
the third quarter of 1999. The increase resulted from approximately $7.2
million of capital expenditures primarily relating to the expansion of
infrastructure to support our existing centers and offices, as well as, expenses
related to opening new locations.
Research and development expenses. Research and development expenses in
the third quarter of 2000 were negligible compared to $389,000 in the third
quarter of 1999. The decrease in research and development expenses was a result
of our transferring proprietary software used in the Digital Lighthouse
WebDirect System to Spider prior to our spin-off of Spider in the fourth quarter
of 1999. Nearly all of our research and development expenses were attributable
to the development of this proprietary software.
Restructure charge. In September 2000, we accrued expenses of approximately
$5 million related to the restructuring of our organization. We eliminated
several personnel positions as a result of automated processes and duplication
of responsibilities indirectly related to the acquisitions we completed in the
third quarter. Approximately $4.5 million is related to severance costs and
approximately $500,000 is related to discontinued facility usage. Approximately
$500,000 was applied against these charges in the month of September.
13
<PAGE>
Interest income. Interest income in the third quarter of 2000 was $477,000
compared to $23,000 in the third quarter of 1999. Fluctuations in interest
income from year to year are due to varying rates of interest when we invest our
cash in short-term financial instruments. The substantial increase for the
third quarter of 2000 compared to the same period in 1999 resulted largely from
the investment of the proceeds of our initial public offering.
Interest expense. Interest expense in the third quarter of 2000 was
$58,000, compared to $8,000 in the third quarter of 1999. Interest expense in
both quarters resulted from our borrowings under our credit facilities and
capitalized leases for office equipment and furniture.
Nine Months Ended September 30, 2000 Compared to Nine Months Ended September 30,
1999
Revenue. Revenue for the nine months ended September 30, 2000 was $30.4
million which was 92% greater than revenue of $15.9 million for the nine months
ended September 30, 1999. This increase was due primarily to revenue growth and
maintenance from existing clients in our operational service centers, and
increase in new client base in our customer relationship professional services
team.
Direct cost of services. Direct cost of services for the nine months ended
September 30, 2000 was $19.2 million, compared to $11.4 million for the nine
months ended September 30, 1999. Direct costs as a percentage of revenue
decreased from 72% to 63% primarily as a result of a change in mix of our
revenue towards our customer relationship professional services, our focus on
increased utilization of our people, and our efforts to consolidate similar
customer services into the same operations service centers.
14
<PAGE>
Selling, general and administrative expenses. Selling, general and
administrative expenses were $22.9 million, or 75% of revenue, for the nine
months ended September 30, 2000, compared to $10.0 million, or 63% of revenue,
for the nine months ended September 30, 1999. This increase consists primarily
of salaries and related expenses resulting from an increase in personnel to
support continued growth in our professional services and ASP operations areas.
The two acquisitions in the third quarter contributed substantially to this
increase, however, we would expect these to decline as a percentage of revenue
over time as we continue to grow our professional services and ASP operational
areas, as well as, cross selling to our existing customer base. Included also is
the costs of soliciting potential customers such as brochures, trade shows,
consulting fees, printing, advertising and promotional campaigns as we continue
our additional focus on our sales and marketing efforts. We also incurred
approximately $1,701,000 in compensation expense for incentive stock options,
$828,000 in amortization expense for warrants granted.
Depreciation and amortization expenses. Depreciation and amortization
expenses in the nine months ended September 30, 2000 were $3.5 million, compared
to $2.4 million for the nine months ended September 30, 1999. The increase
resulted from approximately $9.2 million of capital expenditures primarily
relating to the expansion of infrastructure to support our existing centers and
offices, as well as, expenses related to opening new locations.
Research and development expenses. Research and development expenses in
the nine months ended September 30, 2000 were negligible compared to $1,061,000
for the nine months ended September 30, 1999. The decrease in research and
development expenses was a result of our transferring proprietary software used
in the Digital Lighthouse WebDirect System to Spider prior to our spin-off of
Spider in the fourth quarter of 1999. Nearly all of our research and development
expenses were attributable to the development of this proprietary software.
Restructure charge. In September 2000, we accrued expenses of approximately
$5 million related to the restructuring of our organization. We eliminated
several personnel positions as a result of automated processes and duplication
of responsibilities indirectly related to the acquisitions we completed in the
third quarter. Approximately $4.5 million is related to severance costs and
approximately $500,000 is related to discontinued facility usage. Approximately
$500,000 was applied against these charges in the month of September.
Recovery from Spider. Effective October 1, 1999, Digital Lighthouse
distributed 100% of the shares of Spider Technologies, Inc. to its stockholder
on a pro-rata basis. As a result of advances given to Spider by Digital
Lighthouse during the fourth quarter of 1999 and the probability of realization
of payment at that time, Digital Lighthouse recorded a valuation allowance of
approximately $1,055,000 for the year ended December 31, 1999. During the
second quarter of 2000, Spider was able to complete a Series A financing and
approximately $522,000 was recorded as a recovery.
15
<PAGE>
Interest income. Interest income in the nine months ended September 30,
2000 was $1,138,000 compared to $82,000 in the nine months ended September 30,
1999. Fluctuations in interest income from year to year are due to varying rates
of interest when we invest our cash in short-term financial instruments. The
increase for the first nine months of 2000 compared to the same period in 1999
resulted largely from the investment of the proceeds of our initial public
offering in March 2000.
Interest expense. Interest expense in the nine months ended September 30,
2000 was $179,000, compared to $19,000 in the first nine months of 1999.
Interest expense in both quarters resulted from our borrowings under our credit
facilities and capitalized leases for office equipment and furniture.
Operating results for any quarter are not necessarily indicative of results
for any future period. The following factors have affected our operations in
the past and may affect our operations in the future, which could cause
quarterly fluctuations:
. Beginning, ending or deferring of significant services for clients
during a quarter, particularly if we must add personnel and other
resources in advance of new client initiatives;
. Variations in the number, size and scope of our clients' direct-to-
customer initiatives, which in the past have ranged from small pilot
programs involving only a few of our employees to nationwide programs
using many new employees;
. Utilization of our employees and operational facilities, which can be
affected significantly, for example, by reassigning or terminating
personnel following the completion of a client's initiative or by
opening a new facility in anticipation of future business;
. Fluctuations in demand for our clients' products, which are beyond our
control but which directly affect our revenue as a substantial portion
of our client billings depends upon the time our personnel devote to a
client's customers or, under a new contract with a major client, are
based on the client's sales generated from our operation of its direct-
to-customer initiative;
. Expenses incurred in connection with strategic acquisitions, such as our
recent acquisitions of Riptide Communications, LLC and Lighthouse
Consulting Group Inc., which are part of our strategy to broaden and
expand our service offerings; and
. Expenses related to our sales and marketing efforts, which have
increased in 2000.
16
<PAGE>
Liquidity and Capital Resources
Since we were first capitalized, we have raised $98.9 million of equity
capital from the sale of common and preferred stock, including $47.9 million in
proceeds, net of offering costs, from our initial public offering completed on
March 24, 2000.
Cash and cash equivalents at the end of the nine months ended September 30,
2000 were $11.7 million compared to $367,000 at the end of the nine months ended
September 30, 1999. This increase excludes approximately $9.7 million in short-
term investments with original maturities between ninety days and one year and
4.5 million in restricted cash. The increase compared to September 30, 1999 is
primarily attributable to the net proceeds of our initial public offering.
Cash used in operations for the nine months ended September 30, 2000 was
$17.9 million, compared to $4.4 million for the nine months ended September 30,
1999. Our change in operating cash flow resulted primarily from our increased
net loss, as well as additional prepayments. In addition, increases in
receivables resulted from our expanding customer base, and decreases in accrued
liabilities resulted from the pay down of outstanding liabilities with the
proceeds from our initial public offering.
Cash used in investing activities for the nine months ended September 30,
2000 was $26.0 million compared to $4.5 million for the nine months ended
September 30, 1999. This increase is due primarily to our investing part of the
proceeds from our initial public offering in short term commercial paper, cash
paid for acquisitions of Lighthouse and Riptide and also as a result of our
continued focus on investing in and expanding our infrastructure to provide the
volume of services necessary for our increasing client base. Additionally, in
the first quarter of 2000, we added internal infrastructure as a consequence of
our increase in management and support personnel. During the first quarter of
1999, we began preparing to open our operations service center in Fort Scott,
Kansas and we moved our headquarters from Denver to Englewood, Colorado, which
resulted in some capital investments in computer systems, facility expansion,
and furniture and fixtures, but to a significantly lesser extent than in first
quarter 2000.
Our financing activities have generated cash of $49.3 million and $5.6
million for the nine month periods ended September 30, 2000 and 1999,
respectively. The majority of our financing activities in the first half of 2000
resulted from the net proceeds of our initial public offering, which occurred in
the first quarter, whereas the majority of our financing activities in 1999
resulted from our series E preferred stock offering, which occurred in the
second quarter.
17
<PAGE>
Our business plan will continue to require substantial capital to fund
expansion. Our business plan includes the following:
. Developing our sales organization and marketing initiatives;
. Expanding our Internet Professional Services;
. Expanding internal infrastructure related to our operations centers
. Evaluating potential acquisitions and investments; and
. Funding operating losses.
We believe that the proceeds from our initial public offering, together
with our cash from operations and investments and borrowing capacity will be
sufficient to fund our activities for at least the next 12 months. We could,
however, require capital funding sooner, if we have shortfalls in operating and
financial performance or expand more quickly than currently anticipated. If this
occurs, we may need to seek additional financing sources to fund our planned
business expansion efforts, which may be dilutive to existing investors.
Recent Accounting Pronouncements
See note 4 to the condensed consolidated financial statements.
Income Taxes
We have historically concluded that there exists substantial doubt as to
the recoverability of our deferred tax assets. As a result, we have recorded a
full valuation allowance against those deferred tax assets. Our view as to the
ultimate recoverability of our deferred tax assets may change in the near term
based principally upon the successful execution of our business plan.
18
<PAGE>
Item 3. Quantitative and Qualitative Disclosures about Market Risks
Market risks represent the risk of loss that may impact our financial
position, operating results or cash flows due to adverse changes in financial
market prices and rates. We are exposed to market risks from changes in United
States interest rates. Historically, and as of September 30, 2000, we have not
used derivative instruments or engaged in hedging activities.
We had long-term borrowings, including current maturities, of $6.4 million
as of September 30, 2000. Of this amount, $2.0 million bears interest at fixed
rates of 10.0% and 13.9%. The fair value of the fixed-rate debt would change
approximately $9,000 in the event of a 0.50% change in the level of interest
rates. The remaining $4.4 million is variable rate debt. The annual interest
expense would change by approximately $6,000 in the event of a 0.50% change in
the level of interest rates on the variable rate debt
We temporarily invest our excess cash in money market funds and short-term
commercial paper. Changes in interest rates would not significantly affect the
fair value of these cash investments due to their short-term nature.
19
<PAGE>
PART II
Item 1. Legal Proceedings.
We are involved in legal proceedings from time to time, none of which we
believe, if decided adversely to us, would have a material adverse effect on our
business, financial condition or results of operations.
Item 2. Changes in Securities.
(c) Securities sold
On March 25, 2000, we issued 10,000 shares of common stock to a former
shareholder of Acorn in reliance on Section 4(2) of the Securities Act of 1933,
as amended.
Item 3. Defaults Upon Senior Securities.
None
Item 4. Submission of Matters to a Vote of Security Holders.
None
Item 5. Other Information
None
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
Exhibit No. Description
----------- -----------
27.1 Financial Data Schedule
(b) Reports on Form 8-K
None
20
<PAGE>
SIGNATURE
Pursuant to the requirements of the Securities and Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
DIGITAL LIGHTHOUSE, INC.
By: /s/ TIMOTHY C. O'CROWLEY
Timothy C. O'Crowley
Chairman and Chief Executive
Officer
Signature Title Date
--------- ----- -----
/s/ TIMOTHY C. O'CROWLEY Chairman and
------------------------ Chief Executive, August 9, 2000
Timothy C. O'Crowley Officer
(Principal
Executive Officer)
/s/ STEVEN Q. HANSEN Chief Financial
------------------------ Officer (Principal August 9, 2000
Steven Q. Hansen Financial and
Accounting Officer)
21
