<PAGE>
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON DECEMBER 17, 1999.
REGISTRATION NO. 333-
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
FORM SB-2
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
(AMENDMENT NO. )
------------------------
FRONTLINE COMMUNICATIONS CORPORATION
(NAME OF SMALL BUSINESS ISSUER IN ITS CHARTER)
<TABLE>
<S> <C> <C>
DELAWARE 7374 13-3950283
(STATE OR OTHER JURISDICTION OF (PRIMARY STANDARD INDUSTRIAL (I.R.S. EMPLOYER IDENTIFICATION NUMBER)
INCORPORATION OR ORGANIZATION) CLASSIFICATION CODE NUMBER)
</TABLE>
------------------------
ONE BLUE HILL PLAZA, 7TH FLOOR
PEARL RIVER, NEW YORK 10965
(914) 623-8553
(ADDRESS AND TELEPHONE NUMBER OF PRINCIPAL EXECUTIVE
OFFICES AND PRINCIPAL PLACE OF BUSINESS)
------------------------
STEPHEN J. COLE-HATCHARD, CHIEF EXECUTIVE OFFICER
FRONTLINE COMMUNICATIONS CORPORATION
ONE BLUE HILL PLAZA, 7TH FLOOR
PEARL RIVER, NEW YORK 10965
(NAME, ADDRESS AND TELEPHONE NUMBER OF AGENT FOR SERVICE)
------------------------
Copies to:
<TABLE>
<S> <C>
ROBERT J. MITTMAN, ESQ. HENRY O. SMITH III, ESQ.
TENZER GREENBLATT LLP PROSKAUER ROSE LLP
THE CHRYSLER BUILDING 1585 BROADWAY
405 LEXINGTON AVENUE NEW YORK, NY 10036
NEW YORK, NY 10174 TELEPHONE NO. (212) 969-3000
TELEPHONE NO. (212) 885-5000 TELECOPIER NO. (212) 969-2900
TELECOPIER NO. (212) 885-5001
</TABLE>
------------------------
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: AS SOON AS
PRACTICABLE AFTER THE EFFECTIVE DATE OF THIS REGISTRATION STATEMENT.
If this form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, check the following box and
list the Securities Act registration statement number of the earlier effective
registration statement for the same offering. / /
If this form is a post-effective amendment filed pursuant to Rule
462(c) under the Securities Act, check the following box and list the Securities
Act registration statement number of the earlier effective registration
statement for the same offering. / /
If this form is a post-effective amendment filed pursuant to Rule
462(d) under the Securities Act, check the following box and list the Securities
Act registration statement number of the earlier effective registration
statement for the same offering. / /
If delivery of the prospectus is expected to be made pursuant to Rule 434,
please check the following box. / /
------------------------
CALCULATION OF REGISTRATION FEE
<TABLE>
<CAPTION>
PROPOSED PROPOSED
TITLE OF EACH CLASS NUMBER MAXIMUM OFFERING MAXIMUM AGGREGATE
OF SECURITIES TO BE REGISTERED OF SECURITIES PRICE PER SECURITY(1) OFFERING PRICE(1)
<S> <C> <C> <C>
Series B convertible preferred stock, $.01 par value....... 1,150,000(2) $15.00 $17,250,000
Common stock, $.01 par value, issuable upon conversion of
Series B convertible preferred stock(8)................... --(3)(4)(5) -- --
Common stock, $.01 par value............................... 230,000(7) $5.25 $1,207,500
Representative's warrants, each to purchase one share of
Series B convertible preferred stock(8)................... 100,000 $.001 $100
Series B convertible preferred stock, $.01 par value,
issuable upon exercise of Representative's warrants(10)... 100,000 $18.00 $1,800,000
Common stock, $.01 par value, issuable upon conversion of
Series B convertible preferred stock underlying
Representative's warrants................................. --(4)(5)(10) -- --
Total Registration Fee..............................................................................................................
<CAPTION>
TITLE OF EACH CLASS AMOUNT OF
OF SECURITIES TO BE REGISTERED REGISTRATION FEE
<S> <C>
Series B convertible preferred stock, $.01 par value....... $4,554
Common stock, $.01 par value, issuable upon conversion of
Series B convertible preferred stock(8)................... (6)
Common stock, $.01 par value............................... $318.78
Representative's warrants, each to purchase one share of
Series B convertible preferred stock(8)................... (9)
Series B convertible preferred stock, $.01 par value,
issuable upon exercise of Representative's warrants(10)... $475.20
Common stock, $.01 par value, issuable upon conversion of
Series B convertible preferred stock underlying
Representative's warrants................................. (9)
Total Registration Fee..................................... $5,347.98
</TABLE>
(1) Estimated solely for the purpose of computing the amount of the
registration fee pursuant to Rule 457 of the Securities Act.
(2) Assumes the Representative's overallotment option to purchase up to 150,000
additional shares of Series B convertible preferred stock is exercised in
full.
(3) Represents the estimated maximum number of shares of common stock issuable
upon conversion or redemption of the Series B convertible preferred stock,
assuming the Representative's overallotment option is exercised in full.
(4) The number of shares of common stock issuable upon conversion of Series B
convertible stock will be determined upon the setting of the conversion
rate.
(5) Pursuant to Rule 416, also includes such additional shares of common stock
as may become issuable upon conversion of the Series B convertible
preferred stock as a result of an adjustment in the conversion ratio
resulting from anti-dilution provisions of the Series B convertible
preferred stock.
(6) Pursuant to Rule 457(i), no fee is being paid.
(7) Represents the estimated number of shares of common stock which may be
issued, at the Company's option, as dividends on the Series B convertible
preferred stock in lieu of cash payments with respect to the first year's
interest payments.
(8) Represents warrants to be issued by the Company to the Representative at
the time of delivery and acceptance of the securities to be sold by the
Company to the public hereunder.
(9) Pursuant to Rule 457(g), no fee is being paid.
(10) Pursuant to Rule 416, there are also being registered such indeterminable
additional shares of Series B convertible preferred and common stock as may
become issuable pursuant to anti-dilution provisions contained in the
Representative's Warrants.
------------------------
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF
THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(A),
MAY DETERMINE.
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
The information in this prospectus is not complete and may be changed. We may
not sell these securities until the registration statement filed with the
Securities and Exchange Commission is effective. This prospectus is not an offer
to sell these securities and it is not soliciting an offer to buy these
securities in any state where the offer or sale is not permitted.
SUBJECT TO COMPLETION, DATED DECEMBER 17, 1999
PROSPECTUS
1,000,000 SHARES
FRONTLINE COMMUNICATIONS CORPORATION
SERIES B CONVERTIBLE PREFERRED STOCK
------------------------
Frontline Communications Corporation is offering 1,000,000 shares of Series
B convertible preferred stock. There is currently no public market for our
preferred stock. We expect the offering price to be $15 per share.
Our common stock and public warrants are traded on the Nasdaq SmallCap
Market under the symbols "FCCN" and "FCCNW." We have applied to list our
preferred stock and common stock on the American Stock Exchange under the
symbols and . On December 15, 1999, the closing sale prices of our common
stock and public warrants as reported by Nasdaq were $5.375 per share and
$1.6875 per warrant.
------------
AN INVESTMENT IN OUR SECURITIES IS SPECULATIVE AND INVOLVES A HIGH DEGREE
OF RISK. SEE "RISK FACTORS" BEGINNING ON PAGE 8 FOR FACTORS THAT SHOULD BE
CONSIDERED BEFORE INVESTING IN OUR SECURITIES.
------------
<TABLE>
<CAPTION>
UNDERWRITING
PRICE TO DISCOUNTS AND NET
THE PUBLIC COMMISSIONS PROCEEDS
------------------------ ------------------------ ------------------------
<S> <C> <C> <C>
Per share.............................. $ $ $
Total.................................. $ $ $
</TABLE>
NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE SECURITIES
COMMISSION HAS APPROVED OR DISAPPROVED OF THESE SECURITIES OR PASSED UPON THE
ADEQUACY OR ACCURACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
We have granted the Representative the right to purchase up to 150,000
additional shares to cover over-allotments. The Representative is offering the
shares on a firm commitment basis.
PRIME CHARTER LTD.
, 2000
<PAGE>
PROSPECTUS SUMMARY
This summary highlights information contained elsewhere in this prospectus.
This summary is not complete and may not contain all of the information that
investors should consider before investing in our securities. You should read
the entire prospectus carefully, including the financial statements and related
notes, and in particular the risks described under "Risk Factors."
BUSINESS OVERVIEW
We are a full service Internet company. We provide Internet-related
services, products and solutions to customers on a national basis. We offer our
customers a single point of contact for a complete business solution to their
Internet needs. Our primary focus is to provide small and medium-sized
businesses with Internet services designed to help these businesses maximize the
potential of the Internet and achieve a competitive advantage in their markets.
We provide customers with a wide array of Internet access alternatives and
Website development and Internet Website presence services. Our strategy is to
expand our geographic presence, our customer and revenue base and our Web
hosting and broadband capabilities.
The broad acceptance of the Internet has created numerous opportunities for
businesses to improve their competitive position in their markets. We believe
the small and medium-sized business market generally offers significant
opportunity for the growth of our business because of the large number of these
businesses throughout the United States and their growing presence on the
Internet. Small and medium-sized businesses are increasingly seeking third-party
service providers to help them create, build and implement their Internet
strategy. The analysis, design and implementation of an effective Internet
solution require a range of skills, expertise and technology that only a limited
number of small and medium-sized businesses possess. In response to these needs
and the growth of the Internet as a vehicle for sales and services, we have
developed a full array of services designed to address all of the Internet
service requirements of our small and medium-sized business customers.
We intend to continue to acquire additional Internet service businesses in
order to grow our access, development and presence services. Since October 1998,
primarily through 11 acquisitions, including regional Internet service providers
and Web development, hosting and related companies, we increased our customer
base from 1,500 to over 16,000 customers and now have the enhanced capability to
provide the access, development and presence services necessary to assist small
and medium-sized business customers. We have expanded our access services
nationally to include approximately 800 points of presence (POPs) capable of
providing Internet access services to 75% of the U.S. population. We also offer
significant national high-speed access, including Digital Subscriber Line (DSL)
though our alliances with COVAD Communications Corp. and Network Access
Solutions, Inc. In addition, as a licensed competitive local exchange carrier
(CLEC) in New York and Pennsylvania, we can reduce our communications costs and
receive revenue from other Internet service providers. We believe that we are
one of the few Internet companies that is qualified as a CLEC. We intend to
expand our network infrastructure and increase our Internet access subscriber
base by continuing to acquire other Internet service providers with a high
concentration of small business customers.
In addition to growth by acquisition, we have engaged in more traditional
marketing and advertising directed at the small and medium-sized business
market. In the northeast United States, where our sales force is currently
located and where we own 12 POPs, we are building brand equity in our
Frontline.net operations, targeted at business generally. Throughout the United
States, we target women-owned businesses with our WOWFactor.com marketing brand
and Website and retail business with our ChanneliShop.com marketing brand and
Website. We anticipate that our WOWFactor.com and Channel iShop.com marketing
efforts will continue nationally, and our Frontline.net branding will grow
geographically, as our POPs and sales force expand our footprint.
We were formed in February 1997 as a Delaware corporation under the name
Easy Street Online, Inc. We changed our name to Frontline Communications
Corporation in July 1997. Our principal executive offices are located at One
Blue Hill Plaza, Pearl River, New York 10965, and our telephone number is (914)
623-8553. Our Internet Website is located at www.frontline.net. WOWFactor's
Website is located at www.wowfactor.com. ChanneliShop's Website, which we expect
to launch in the first quarter of 2000, will
3
<PAGE>
be located at www.ChanneliShop.com. Information in these Websites is not part of
this prospectus. Unless the context indicates otherwise, the terms "Frontline,"
"we," "our" and "us" in this prospectus include the operations of our
wholly-owned subsidiaries, CLEC Communications Corporation and Frontline
Commerce Corporation.
We have made applications for federal trademark registration and claim
rights in the following trademarks: WOWFactor; WOWFactor Women on the Web;
Frontline.net; Frontline.net Effortless E-Commerce and Internet Access (name and
logo); Effortless E-Commerce and Internet Access; and Frontline Communications
Corp. We have received a notice of allowance from the U.S. Patent and Trademark
Office with respect to the following marks: WOWFactor.com and WOWFactor.com
design.
THE OFFERING
<TABLE>
<S> <C>
Series B convertible preferred stock
offered................................. 1,000,000 shares
Representative's overallotment option .... The Representative will have an option to purchase and sell up to an
additional 150,000 shares of preferred stock to cover over-
allotments.
Preferred stock terms:
Dividends............................... Holders will be entitled to receive annual cumulative dividends of
$ per share payable semi-annually on June 30 and December 31 of
each year, commencing June 30, 2000, either in cash or in shares of
common stock, in our sole discretion (except that dividends payable
upon a redemption of the preferred stock will be payable only in
cash). We anticipate that payments of dividends on our preferred
stock will be made by issuing additional shares of common stock for
the foreseeable future.
Dividends will accrue and are cumulative from the date of first
issuance of the preferred stock. The number of shares of common stock
to be issued as a dividend will be based on the average closing sales
price of the common stock on the five trading days immediately
preceding the record date for each dividend. No fractional shares of
common stock will be issued. Instead, we will pay the cash equivalent
of any fractional share.
Liquidation preference.................. In the event of any liquidation, dissolution or winding up of our
company, holders of preferred stock will be entitled to receive a
liquidation preference of $ per share, plus accumulated and unpaid
dividends, before any distributions will be made to holders of common
stock or any other capital stock ranking junior to the preferred
stock. Holders of shares of the preferred stock will not be entitled
to receive any liquidation preference on their shares until the
liquidation preference of any senior capital stock has been paid in
full.
Conversion.............................. The preferred stock will be convertible into common stock at any time
up to the day before the date of redemption at a conversion rate of ( % of
the market price of the common stock as of the date of this prospectus). No
fractional shares of common stock will be issued. We will pay cash on the
basis of the then-current market price of the common stock in lieu of
issuing fractional shares. </TABLE>
4
<PAGE>
<TABLE>
<S> <C>
Optional Redemption..................... We will have the option to redeem shares of preferred stock (1) at
any time, provided the closing sales price of the common stock has
been $ or more for any 21 consecutive trading days, for $ in
cash, plus accrued and unpaid dividends at any time during the five
days after the last day in the 21 day trading period; (2) at any time
more than 180 days after the issuance of the preferred stock for
$ plus accrued and unpaid dividends; (3) at any time more than
12 months after the issuance of the preferred stock for $ plus
accrued and unpaid dividends; (4) at any time more than 24 months
after the issuance of the preferred stock for $ plus accrued and
unpaid dividends; and (5) at any time more than 36 months after the
issuance of the preferred stock for $ plus accrued and unpaid
dividends.
Voting rights........................... Generally, the holders of the preferred stock will not be entitled to
voting rights except as to matters affecting their rights as
preferred stockholders or unless required by law.
So long as more than shares of preferred stock are outstanding,
if dividends on the preferred stock are in arrears and unpaid for six
or more dividend periods (whether or not consecutive), the holders of
the preferred stock will be entitled to elect an additional two
members to our Board of Directors. These rights will continue until
all dividends in arrears on the preferred stock are paid in full, the
preferred stock is redeemed, any other default giving rise to the
voting rights is remedied or waived by the holders of a majority of
the shares of outstanding preferred stock or if fewer than
shares of preferred stock remain outstanding. In any case where
holders of preferred stock have the right to vote, each outstanding
share of preferred stock will be entitled to one vote.
Use of proceeds......................... We intend to use the net proceeds of this offering for acquisitions,
repayment of indebtedness and working capital and general corporate
purposes.
Shares of common stock outstanding ..... As of December 14, 1999, we had outstanding 4,144,078 shares of
common stock.
We had outstanding options and warrants to purchase 3,480,743 shares
of our common stock at exercise prices ranging from $2.00 to $13.85
per share as of December 14, 1999. We have also granted two investors
the right to purchase up to an additional 287,544 shares of our
common stock upon the exercise of repricing rights.
Trading symbols......................... Our common stock is currently traded on the Nasdaq SmallCap Market
under the symbol "FCCN." We have applied to list our common stock on
the American Stock Exchange under the symbol .
Our public warrants are currently traded on the Nasdaq SmallCap
Market under the symbol "FCCNW."
We have applied to list our preferred stock on the American Stock
Exchange under the symbol .
</TABLE>
5
<PAGE>
<TABLE>
<S> <C>
RISK FACTORS.............................. YOU SHOULD READ "RISK FACTORS" BEGINNING ON PAGE 8 AND THE OTHER
CAUTIONARY STATEMENTS IN THIS PROSPECTUS TO ENSURE THAT YOU
UNDERSTAND THE RISKS ASSOCIATED WITH AN INVESTMENT IN OUR SECURITIES.
</TABLE>
CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
This prospectus contains forward-looking statements within the meaning of
Section 27A of the Securities Act and Section 21E of the Exchange Act. We intend
the forward-looking statements to be covered by the safe harbor provisions for
forward-looking statements in these sections. All statements regarding our
expected financial position and operating results, our business strategy and our
plans are forward-looking statements. These statements can sometimes be
identified by our use of words such as "may," "anticipate," "expect," "intend,"
"believe," "estimate" or similar expressions. Our expectations in any
forward-looking statements may not turn out to be correct. Our actual results
could be materially different from those discussed in these statements, and you
may consider these differences important to your investment decision. Important
factors that could cause our actual results to be materially different include
those discussed under "Risk Factors." You should not place undue reliance on the
forward-looking statements, which speak only as of the date the statements were
made.
SHARES OF COMMON STOCK OUTSTANDING
All references in this prospectus to the number of shares of our common
stock outstanding do not include the shares issuable upon: (1) conversion of our
preferred stock; (2) exercise or conversion of currently outstanding options,
warrants or repricing rights; (3) exercise of warrants to be issued to the
Representative; or (4) exercise by the Representative of all or part of its
over-allotment option to purchase an additional 150,000 shares of preferred
stock, unless we specifically state otherwise.
6
<PAGE>
SUMMARY FINANCIAL DATA
The following summary financial information should be read in conjunction
with our consolidated financial statements and the related notes appearing
elsewhere in this prospectus. You should also read "Use of Proceeds",
"Capitalization" and "Management's Discussion and Analysis of Financial
Condition and Results of Operations".
The pro forma data below reflects (1) the sale in October and December 1999
of 241,133 shares of our common stock for aggregate net proceeds of $1,150,000;
(2) the issuance in October and December 1999 of 140,706 shares of common stock
pursuant to repricing rights; and (3) the acquisition in October and December
1999 of Web design and hosting assets of United Computer Specialists, Inc. and
assets of Fronthost LLC for aggregate consideration of $50,000 cash, $425,000 in
promissory notes and 59,603 shares of common stock valued at $325,000.
The pro forma as adjusted data below gives effect to the application of the
net proceeds from the sale of the 1,000,000 shares of Series B convertible
preferred stock, assuming an offering price of $15 per share after deducting the
underwriting discounts and estimated offering expenses, and the repayment of
$425,000 of indebtedness.
CONSOLIDATED STATEMENT OF OPERATIONS DATA:
<TABLE>
<CAPTION>
NINE MONTHS ENDED
YEARS ENDED DECEMBER 31, SEPTEMBER 30,
-------------------------- -------------------------
1997 1998 1998 1999
----------- ----------- ---------- -----------
<S> <C> <C> <C> <C>
Revenues...................................................... $ 321,706 $ 574,964 $ 369,972 $ 2,159,585
----------- ----------- ---------- -----------
Costs and expenses:
Costs of revenues........................................... 215,199 586,760 309,627 1,426,006
Selling, general and administrative......................... 533,054 1,412,935 651,878 3,770,720
Depreciation and amortization............................... 44,558 220,575 55,590 1,189,080
Non-cash compensation charge................................ 1,537,000 175,137 -- 712,220
----------- ----------- ---------- -----------
2,329,811 2,395,407 1,017,095 7,098,026
----------- ----------- ---------- -----------
Loss from operations........................................ (2,008,105) (1,820,443) (647,123) (4,938,441)
----------- ----------- ---------- -----------
Other income (expense) net.................................... (29,312) 76,344 37,037 45,317
----------- ----------- ---------- -----------
Net loss...................................................... $(2,037,417) $(1,744,099) $ (610,086) $(4,893,124)
----------- ----------- ---------- -----------
----------- ----------- ---------- -----------
Loss per share--basic and diluted............................. $ (1.67) $ (.72) $ (.27) $ (1.43)
----------- ----------- ---------- -----------
----------- ----------- ---------- -----------
Weighted average number of shares outstanding................. 1,218,000 2,435,035 2,221,077 3,421,359
----------- ----------- ---------- -----------
----------- ----------- ---------- -----------
</TABLE>
BALANCE SHEET DATA:
<TABLE>
<CAPTION>
AS OF DECEMBER 31, 1998 AS OF SEPTEMBER 30, 1999
----------------------- -----------------------------------------
PRO FORMA
ACTUAL PRO FORMA AS ADJUSTED
----------- ----------- -----------
<S> <C> <C> <C> <C>
Cash and cash equivalents........................ $ 1,994,711 $ 913,782 $ 2,013,782 $14,338,782
Working capital.................................. 1,245,536 (867,668) (192,668) 12,557,332
Total assets..................................... 6,286,403 8,015,454 9,915,454 22,240,454
Total liabilities................................ 1,239,016 3,361,450 3,786,450 3,361,450
Accumulated deficit.............................. (3,843,647) (8,736,771) (8,736,771) (8,736,771)
Stockholders' equity............................. 5,047,387 4,654,004 6,129,004 18,879,004
</TABLE>
OTHER FINANCIAL DATA:
<TABLE>
<CAPTION>
NINE MONTHS ENDED
YEARS ENDED DECEMBER 31, SEPTEMBER 30,
-------------------------- ------------------------
1997 1998 1998 1999
----------- ----------- --------- -----------
<S> <C> <C> <C> <C>
EBITDA(1)............................................... $(1,963,547) $(1,599,868) $(591,533) $(3,749,361)
----------- ----------- --------- -----------
----------- ----------- --------- -----------
</TABLE>
- ------------------
(1) EBITDA is earnings from operations before interest, taxes, depreciation and
amortization. EBITDA is included because management believes that certain
investors find it to be a useful tool for measuring a company's ability to
service its debt. However, EBITDA does not represent cash flow from
operations, as defined by generally accepted accounting principles. In
addition, EBITDA should not be considered as a substitute for net income or
net loss as an indicator of our operating performance or cash flow or as a
measure of liquidity. This data should be examined in conjunction with our
consolidated financial statements and notes to the financial statements
included elsewhere in this prospectus.
7
<PAGE>
RISK FACTORS
An investment in the shares we are offering involves a high degree of risk.
Each prospective investor should carefully consider the following risk factors
before making an investment decision.
WE HAVE A HISTORY OF LOSSES AND ANTICIPATE THAT WE WILL CONTINUE TO INCUR LOSSES
IN THE FUTURE.
Since our inception we have incurred significant losses. For the years
ended December 31, 1997 and 1998 and the nine months ended September 30, 1999
our net losses were $2,037,417, $1,744,099 and $4,893,124. We had an accumulated
deficit of $8,736,771 and a working capital deficiency of $867,668 as of
September 30, 1999. We expect to incur operating losses as we incur increased
operating costs associated with expanding our customer base, establishing
additional POPs and increasing our e-commerce and Website design services. We
may not be able to achieve profitability or, if achieved, maintain profitability
for any extended period of time.
We expect that our net losses will continue for the next several years, as
our recent acquisitions have resulted in our having net intangible assets of
$3,596,347 at September 30, 1999. These intangible assets are being amortized
over a period of three years and will result in additional losses in each of the
next three years. We intend to engage in additional strategic acquisitions in
the future by using a significant portion of the net proceeds of this offering.
Future acquisitions may similarly result in our recording large amounts of
intangible assets and incurring the related net losses as these intangible
assets are amortized.
IN ORDER TO BECOME PROFITABLE, WE WILL NEED TO IMPLEMENT OUR BUSINESS PLAN
SUCCESSFULLY, INCLUDING ATTRACTING NEW CUSTOMERS FOR OUR INTERNET SERVICES AND
INCREASING THE COVERAGE AND EFFICIENCY OF OUR POPS.
The success of our business plan depends upon our ability to attract and
retain significant numbers of customers, consolidate our POPs and establish and
equip additional POPs on a timely and cost effective basis. At the same time, we
will need to hire and retain skilled management, technical, marketing and other
personnel and continue to expand our product and service offerings. In addition,
there is limited information available concerning the potential performance or
market acceptance of our Internet access or other services. We may not be able
to implement our business plan successfully, and we may also encounter
unanticipated expenses, problems or technical difficulties which could
materially delay the implementation of our business plan.
WE HAVE RECENTLY EXPANDED OUR MARKETING FOCUS AND HAVE BEGUN TO OFFER ADDITIONAL
PRODUCTS AND SERVICES, BOTH OF WHICH MAY PLACE A SIGNIFICANT STRAIN ON US.
Historically, we marketed our Internet access services to individual
customers, and the majority of our revenues to date has been generated from
individual customers. In electing to expand our target market, we decided to
market our services aggressively to small businesses and increase our product
offerings to provide a variety of e-commerce services to small businesses,
including Website design and development and Internet Website presence services.
As we expanded our marketing focus and product offerings relatively recently, we
have a limited relevant operating history which you can use to evaluate our
performance to date and future prospects. As a company with a relatively new
focus in a rapidly evolving industry, we may encounter many expenses, delays and
problems which we lack the experience to identify or quantify at this time.
The expansion of our target markets and product offerings will continue to
place significant demands on the time and attention of our senior management and
involve significant financial and other costs, including building necessary
network infrastructures, marketing and promoting our new products and services
and hiring personnel to provide these new services. We may not be able to enter
new markets and offer new services successfully, and we may not be able to
undertake these activities while maintaining sufficient levels of customer
service to retain our existing customers, either of which would have a material
adverse effect on us, our reputation and our operations.
8
<PAGE>
WE ARE PURSUING A STRATEGY OF RAPID GROWTH THROUGH ACQUISITIONS, WHICH MAY
STRAIN OUR OPERATIONS AND WHICH WE MAY NOT BE ABLE TO MANAGE EFFECTIVELY.
We are pursuing aggressive and rapid growth through the acquisition of
other Internet service providers and companies involved in related
Internet-based businesses such as Website design and e-commerce services.
However, we may not be able to successfully consummate any attempted
acquisitions or integrate any acquired businesses into our operations, and
acquired businesses may not perform as we expect. Our rapid growth has in the
past placed, and may continue to place, a significant strain on our business
resources. Implementing our current growth strategy will create significant
demands on the time and attention of our senior management and will involve
significant financial and other costs, including identifying and investigating
acquisition candidates, negotiating acquisition agreements and integrating the
acquired businesses with our existing operations and personnel. Future
acquisitions will also result in higher capital expenditures and operating
expenses for us.
Our ability to manage our planned future growth through acquisitions will
depend upon several factors, including our success in hiring and retaining
qualified management, technical and marketing personnel; effectively maintaining
high levels of customer service required to retain customers while undertaking
expansion; and expanding our network infrastructure capacity to service a
growing customer base. If we fail to achieve any of these factors, our business,
financial condition, results of operations and the market price of our
securities could be materially adversely affected.
WE MAY NEED TO SEEK ADDITIONAL FINANCING IN THE FUTURE IN ORDER TO CARRY OUT OUR
BUSINESS PLAN.
Implementing our current business plan will require significant capital. We
require the proceeds of this offering to expand our operations and finance our
future working capital requirements. Based on our current plans and assumptions
relating to our business strategy, we anticipate that our cash on hand, expected
revenues and the net proceeds of this offering will satisfy our capital
requirements for approximately 12 months following the closing of this offering.
However, if our plans change, if our assumptions prove to be inaccurate, or if
the net proceeds of this offering otherwise prove to be insufficient for our
needs, we may be forced either to seek additional financing sooner than we
currently anticipate or to curtail our operations. The proceeds of this offering
may not be sufficient to fund our proposed expansion.
In the past, we have relied on the issuance of equity securities and
borrowings to finance our operations. Sources of financing may not be available
to us in the future on commercially reasonable terms or at all. Our business
plan and proposed expansion would be adversely affected if we do not obtain
financing when needed.
THE INTERNET SERVICES INDUSTRY IS RELATIVELY NEW AND EVOLVING, AND ANY
SIGNIFICANT CHANGES IN IT MAY ADVERSELY AFFECT US.
The Internet services industry is characterized by rapidly changing
technology, frequent introductions of new services and products, evolving
industry standards and a high rate of business failures. Our business is also
subject to fundamental changes in the way Internet services are delivered. We
cannot predict the rate at which the market for our products and services will
grow, how quickly consumer tastes may change or whether new products will result
in market saturation. The evolving nature of the market for Internet services
may adversely affect our ability to attract new customers. Any significant
decline in demand for Internet connectivity services either generally or in
particular target markets would have a substantial adverse effect on our
business and prospects.
Currently, Internet services are accessed primarily by computers and are
delivered by telephone lines. However, if the Internet becomes widely accessible
by other media, or if customer requirements change the way Internet access is
provided, we may have to acquire or develop new technology or modify our
existing technology to accommodate these developments. Attempting to keep our
services current with recent technological advances may require substantial time
and expense, and we may not be able to adapt our Internet service business to
alternate access devices and conduits. We may not be able to identify new
product and service opportunities as they arise or develop or bring new products
and services to market in a
9
<PAGE>
timely manner. To the extent that high-speed Internet access is increasingly
delivered by telephone and cable companies, our business could be materially
adversely affected.
SIGNIFICANT INCREASES IN ATTRITION RATES OF OUR DIAL-UP ACCESS SUBSCRIBERS AND
BUSINESS CUSTOMERS WOULD ADVERSELY AFFECT OUR OPERATING RESULTS.
Dial-up access subscribers are permitted to discontinue our services
without penalty for any reason. From December 1997 through September 30, 1999,
the number of subscribers for our dial-up access services increased from 1,500
to approximately 14,000, which may result in an increase in our dial-up access
subscriber attrition rate. A significant increase in the attrition rate of our
dial-up access subscribers, including as a result of our recent shift in
business emphasis, would have a material adverse effect on our operating
results.
In particular, because our current expansion strategy emphasizes marketing
our Internet services to businesses, the loss of our business customers would
have a significant impact on our operations. Customers of businesses we acquire
may also terminate their relationships with these businesses after we acquire
them.
WE HAVE LIMITED EXPERIENCE IN MARKETING OUR SERVICES AND LIMITED MARKETING AND
CUSTOMER SUPPORT RESOURCES.
Our success depends to a significant degree on our ability to attract and
retain new customers. We have limited marketing experience and limited
marketing, customer support and other resources. Full-scale marketing of our
services to individuals and small businesses may require us to rely on third
party distribution channels, such as retail stores, catalogs, book publishers
and computer hardware and software vendors. We may not be able to develop or
maintain relationships with these parties. Our business plan will also require
us to expand our customer service and support capabilities in order to satisfy
increasing customer demands. We may not be able to successfully expand our
customer service or support capabilities, and our marketing efforts may not
result in initial or continued acceptance of our Internet access services.
WE MAY NOT HAVE THE FINANCIAL RESOURCES, TECHNICAL EXPERTISE OR MARKETING AND
SUPPORT CAPABILITIES TO WITHSTAND INTENSE COMPETITION IN THE INTERNET SERVICES
INDUSTRY.
The market for Internet services is intensely competitive, and we expect
that competition will intensify in the future. There are no substantial barriers
to entry, and this industry is characterized by rapidly increasing numbers of
new market entrants and new Internet products and services.
Our competitors for Internet access services include many large companies
that have significantly greater market presence and financial, technical,
marketing and other resources than we do. We compete with international,
national and regional commercial Internet service providers; established online
services companies that currently offer Internet access; computer hardware and
software and other technology companies; national long distance carriers;
regional Bell operating companies and cable operators. New competitors,
including large computer hardware and software, media, cable and
telecommunications companies, have also increased their focus on the Internet
access market. We also compete with smaller Internet service providers in the
northeast United States that seek to provide Internet access services to
individuals and small businesses.
Our competition in the market for Internet services includes other Internet
service firms, technology integrators and strategic consulting firms. As we
increase our CLEC services to third parties, we will become subject to
competition from other CLECs and local telephone companies. Furthermore,
telecommunications providers with which we currently compete and may compete in
the future may have the ability to bundle Internet access with local and long
distance telecommunications services. This bundling of services may make it
difficult for us to compete effectively with the telecommunications providers
and may result in pricing pressure that could have an adverse effect on our
business, financial condition and results of operations.
Increased competition could result in significant price competition, which
in turn could result in significant price reductions. In addition, increased
competition for new customers could result in increased sales and marketing
expenses and related customer acquisition costs, which could materially
adversely affect
10
<PAGE>
our operating results. We may not be able to offset the effects of any such
price reductions or increased expenses through an increase in the number of our
customers or higher revenue from enhanced services. We may not have the
financial resources, technical expertise or marketing and support capabilities
to compete successfully, and the software, services or technologies developed by
others may render our services or technologies obsolete or less marketable.
COMPUTER VIRUSES OR SOFTWARE ERRORS MAY DISRUPT OPERATIONS, SUBJECT US TO A RISK
OF LOSS, OR EXPOSE US TO LIABILITY.
Computer viruses may cause our systems to incur delays or other service
interruptions. In addition, the inadvertent transmission of computer viruses or
software errors in new services or products not detected until after their
release could expose us to a material risk of loss or litigation and possible
liability. If a computer virus affecting our systems is highly publicized, our
reputation could be materially damaged and we could lose revenues.
WE LACK EFFECTIVE METHODS FOR PROTECTING OUR PROPRIETARY INFORMATION.
We have no registered copyrights or patents or patent applications pending.
We do not have any proprietary applications software. We rely on a combination
of copyright and trademark laws, trade secrets, software security measures,
license agreements and nondisclosure agreements to protect our proprietary
information. It may be possible for unauthorized third parties to copy aspects
of, or otherwise obtain and use, our proprietary information. We employ
confidentiality agreements with our employees and license agreements with our
customers, but these agreements may not provide meaningful protection of our
proprietary information in the event of any unauthorized use or disclosure of
such information. Inappropriate use of the Internet by third parties could also
potentially jeopardize the security of confidential information stored in our
computer system relating to our customers, which could subject us to third party
liability and cause losses to us or our customers or deter potential customers
from using our services.
THIRD PARTIES COULD CLAIM THAT WE INFRINGE UPON THEIR INTELLECTUAL PROPERTY.
Our products, services and brand names may be found to infringe valid
copyrights, trademarks or other intellectual property rights held by third
parties. Any claims of infringement, with or without merit, could be time
consuming to defend, result in costly litigation, divert management attention,
require us to enter into costly royalty or licensing arrangements, modify our
technologies or services or prevent us from using important technologies or
services, any of which could damage our business and financial condition.
WE MAY NOT BE ABLE TO PROVIDE INTERNET ACCESS FOR OUR DIAL-UP ACCESS SUBSCRIBERS
IF OUR TELECOMMUNICATIONS CARRIERS RAISE THEIR RATES OR IF THEY CEASE DOING
BUSINESS WITH US.
Our business substantially depends on the capacity, affordability and
security of our telecommunications networks. Only a small number of
telecommunications providers offer the network services we require. There has
been significant consolidation in the telecommunications industry, and further
consolidation could make us dependent on an even smaller number of providers. In
addition, our telecommunications carriers may not be able to provide the
capacity and security we require for our networks. Most of our
telecommunications services are provided pursuant to short-term agreements that
the providers can terminate or elect not to renew.
Any or all of our current telecommunications service providers could decide
not to provide us with service at rates acceptable to us, or at all, which would
prevent us from being able to provide Internet access to our dial-up access
subscribers. Our operating margins are sensitive to variations in prices of the
telecommunications services we purchase. Our business could be harmed if minimum
connection charges increase or become more prevalent. In addition, the
availability and pricing of telecommunications services varies geographically,
and we may not be able to obtain new or substitute telecommunications services
in desired geographic areas on commercially reasonable terms, or at all.
11
<PAGE>
WE MAY LOSE CUSTOMERS IF OUR TELECOMMUNICATIONS PROVIDERS DO NOT DELIVER
ACCEPTABLE SERVICE QUALITY.
We rely on telecommunications companies to provide data communications
capacity. These providers may experience disruptions in service or may have
limited capacity, which could disrupt our services. If third party
telecommunications service providers deliver unacceptable service or fail to
provide the communications capacity we require, as a result of a natural
disaster, operational disruption or other reasons, the quality of our Internet
access service would suffer, and customers could experience service disruptions
and might become dissatisfied with our Internet access service. We do not have
control over the network reliability and the quality of service of these third
parties and may not be able to provide consistently reliable Internet access for
our dial-up access subscribers. Any accident, incident or system failure that
causes interruptions in our operations could have a material adverse effect on
our ability to provide Internet services to our customers and, in turn, our
business, financial condition and results of operations.
OUR OPERATIONS REQUIRE US TO USE SIGNIFICANT RESOURCES IN EXPANDING AND
PROTECTING OUR NETWORK INFRASTRUCTURE AND COMPUTER EQUIPMENT.
Our operations depend upon the capacity, reliability and security of our
network infrastructure. We will be required to expand our network infrastructure
to accommodate increasing numbers of users and the range of information they may
wish to access as we increase our operations. Expanding our network
infrastructure will continue to demand significant financial, operational and
management resources, and we may not be able to expand our network
infrastructure to meet potential demand on a timely basis, at a commercially
reasonable cost, or at all. Service interruptions could also occur if usage of
our systems exceeds their capacity.
The success of our operations also depends on our ability to protect our
computer equipment against damage from fire, power failures, telecommunications
outages, natural disasters and similar events. Our network infrastructure is
vulnerable to break-ins, vandalism, security breaches and similar disruptions
from unauthorized tampering with our computer systems. These or other problems
caused by third parties could lead to material delays or interruptions in
service to consumers, which would affect our reputation and business operations.
WE RELY ON STRATEGIC RELATIONSHIPS WITH THIRD PARTIES.
We depend on agreements and arrangements with a variety of third party
partners, including providers of high-speed access capability and other CLECs.
The loss of any of our existing strategic relationships or any inability to
create new strategic partnerships in the future would cause disruptions to our
business, reduce any competitive advantages that these relationships may provide
over our competitors and adversely affect our ability to expand our operations.
In addition, some of the third parties with which we seek to enter into
relationships may view us as a competitor and refuse to do business with us.
THE LEGAL AND REGULATORY ENVIRONMENT THAT PERTAINS TO THE INTERNET IS UNCERTAIN
AND MAY CHANGE.
Uncertainty and new regulations relating to the dissemination of
information over the Internet could increase our costs of doing business, slow
the growth of the Internet or subject us to liability, any of which could
adversely affect our business and prospects. There are currently few laws and
regulations directly governing access to or commerce on the Internet. The legal
and regulatory environment that pertains to the Internet is uncertain and may
change.
We may become subject to burdensome government regulation which could
increase our costs of doing business and/or subject us to liability.
New and existing laws may be interpreted to cover issues which include:
o user privacy;
o pricing controls;
o consumer protection;
12
<PAGE>
o libel and defamation;
o copyright and trademark protection;
o characteristics and quality of services;
o sales and other taxes; and
o other claims based on the nature and control of Internet materials.
In addition, changes in the regulatory environment relating to the Internet
access industry, including regulatory changes which affect telecommunication
costs, could increase the likelihood or scope of competition from local and
regional telephone companies or others.
WE MAY EXPERIENCE REDUCED REVENUE, LOSS OF CLIENTS AND HARM TO OUR REPUTATION IN
THE EVENT OF UNEXPECTED NETWORK INTERRUPTIONS CAUSED BY SYSTEM FAILURES.
Our servers and software must accommodate a high volume of traffic. We have
experienced minor system interruptions in the past and we believe that system
interruptions may occur from time to time in the future. Any substantial
increase in demands on our services will require us to spend capital and
resources to expand and adapt our network infrastructure. If we are unable to
add additional software and hardware to accommodate increased demand, we could
experience unanticipated system disruptions and slower response times. Our
business interruption insurance may not adequately compensate us for any losses
that may occur due to any failures in our system or interruptions in our
services.
IF WE ARE UNABLE TO ATTRACT AND RETAIN QUALIFIED MANAGEMENT AND OTHER PERSONNEL,
OUR BUSINESS AND OPERATIONS COULD SUFFER.
Our success depends on the personal efforts of our key personnel. The loss
of the services of these individuals could have a material adverse effect on our
business and prospects. As we pursue our strategy to grow through acquisitions
our need for qualified personnel may increase further. In addition, employees of
businesses we acquire in the future may terminate their relationships with these
businesses after we acquire them.
Our success also depends on our ability to hire and retain additional
qualified management, marketing, technical, financial and other personnel.
Competition for qualified personnel is intense, and we may not be able to hire
or retain additional qualified personnel.
THE MARKET PRICE OF BOTH OUR COMMON AND PREFERRED STOCK MAY BE HIGHLY VOLATILE.
The market price of both our common and preferred stock may be highly
volatile, as has recently been the case with the securities of other companies,
particularly Internet companies. Factors such as our operating results,
announcements by us or our competitors, introduction of new products or
technologies by us or our competitors and various factors affecting the
securities markets generally may have a significant impact on the market price
of our common stock. Additionally, in recent years the stock markets have
experienced a high level of price and volume volatility, and market prices for
the securities of many companies have experienced wide price fluctuations which
have not necessarily been related to the operating performance of such
companies.
There currently is no market for our preferred stock. Although we
anticipate that it will be listed on the American Stock Exchange upon the
completion of this offering, an effective trading market for our preferred stock
may not develop.
WE DO NOT ANTICIPATE PAYING CASH DIVIDENDS ON OUR PREFERRED STOCK.
We are required under the terms of our preferred stock to pay dividends
either in cash or in shares of common stock. We do not anticipate paying cash
dividends and we anticipate that payments of dividends on our preferred stock
will be made by issuing additional shares of our common stock for the
foreseeable future.
13
<PAGE>
This will result in further dilution to the holders of our common stock and
taxes to holders of preferred stock who receive shares as dividends.
OUR COMMON STOCK OR PREFERRED STOCK COULD BE DELISTED FROM THEIR TRADING MARKETS
IF WE FAIL TO MAINTAIN CERTAIN REQUIREMENTS.
Our common stock is currently listed on the Nasdaq SmallCap Market. We have
applied to list our preferred stock and common stock on the American Stock
Exchange. If our application is accepted, in order to continue to be listed on
the American Stock Exchange, we will be required to continue to achieve
specified maintenance criteria. If we become unable to maintain the continued
listing requirements at any time on the American Stock Exchange, our securities
could be delisted, we might not qualify for inclusion on the Nasdaq SmallCap
Market, and trading in the delisted securities, if any, would thereafter be
conducted in the non-Nasdaq over-the-counter market. As a result, investors in
our securities could find it more difficult to dispose of or obtain accurate
quotations as to the market value of our securities.
If we fail to keep our common or preferred stock on Nasdaq or the American
Stock Exchange and the trading price were to fall below $5.00 per share, the
trading would become subject to the Securities and Exchange Commission's penny
stock rules. The penny stock rules require additional disclosure by broker-
dealers in connection with any trades involving penny stock. If any of our
securities were deemed to be a penny stock, the additional burdens imposed upon
broker-dealers by such requirements could discourage broker-dealers from
effecting transactions in our securities, which could severely limit the market
liquidity in this offering and the ability of purchasers of in this offering to
sell our securities in the secondary market.
WE HAVE A SIGNIFICANT NUMBER OF OUTSTANDING OPTIONS AND WARRANTS WHICH COULD
DEPRESS THE MARKET PRICE OF OUR COMMON AND PREFERRED STOCK AND COULD INTERFERE
WITH OUR ABILITY TO RAISE CAPITAL IN THE FUTURE.
As of December 14, 1999, we had outstanding options and warrants to
purchase 3,480,743 shares of our common stock at exercise prices ranging from
$2.00 to $13.85 per share. We have also granted repricing rights to purchase up
to an aggregate of 287,544 additional shares of our common stock. To the extent
that the outstanding options, warrants or repricing rights are exercised,
dilution to the percentage of ownership of our stockholders will occur. Any
sales in the public market of the shares underlying such options, warrants and
repricing rights may adversely affect prevailing market prices for our common
and preferred stock which is convertible into common stock. Moreover, the terms
upon which we will be able to obtain additional equity capital may be adversely
affected, since the holders of outstanding options and warrants can be expected
to exercise them at a time when we would in all likelihood be able to obtain any
needed capital on terms more favorable to us than those provided in the
outstanding options and warrants.
WE AND CERTAIN OF OUR SUPPLIERS MAY EXPERIENCE PROBLEMS WITH THE YEAR 2000.
We depend on third party telecommunications and hardware suppliers and upon
our access to and the uninterrupted operation of the Internet. Service
interruptions or supplier delays may result from Year 2000 issues. Our business
would be materially adversely effected if there are any interruptions in service
resulting from an inability of such third party systems to recognize the year
2000. Our business would also be adversely affected if Year 2000 problems are
discovered in internal computer systems material to our operations. We have
employed redundant connections to diverse providers at our core locations to
minimize any service disruptions in the event of an outage. However, we are
currently unable to estimate the magnitude of the impact that material Year 2000
problems in our internal computer systems would have on us.
14
<PAGE>
USE OF PROCEEDS
We estimate that we will receive net proceeds from this offering of
approximately $12,750,000. Net proceeds are computed by deducting estimated
underwriting discounts and our estimated offering expenses from the total
offering price. We intend to use the net proceeds approximately as follows:
<TABLE>
<CAPTION>
APPROXIMATE
APPROXIMATE PERCENTAGE OF
APPLICATION OF PROCEEDS DOLLAR AMOUNT DOLLAR AMOUNT
- ---------------------------------------------------------------------------------- ------------- -------------
<S> <C> <C>
Acquisitions...................................................................... $ 9,250,000 73%
Repayment of indebtedness......................................................... 425,000 3
Working capital and general corporate purposes.................................... 3,075,000 24
----------- -----
Total........................................................................ $12,750,000 100%
----------- -----
----------- -----
</TABLE>
Our strategic acquisitions may include additional dial-up access
subscribers, Internet service providers, Web development companies and Web
hosting companies. We continue to evaluate possible acquisition opportunities
and do not have any agreements, commitments or arrangements with respect to any
acquisitions as of the date of this prospectus.
We intend to use a portion of the proceeds of this offering to repay
approximately $425,000 of indebtedness owed in connection with our acquisitions
of Web design and hosting assets from United Computer Specialists, Inc. in
October 1999 and Web hosting assets of FrontHost LLC in December 1999. The terms
of these acquisitions provided for us to pay $100,000 of this indebtedness in
April 2000, $150,000 in June 2000 and $175,000 in October 2000, or the entire
amount within five days of the closing of any financing in which we receive over
$5 million. No interest is due on this indebtedness if repaid by the payment due
dates.
The proceeds used for working capital and general corporate purposes will
include the integration of acquired businesses and companies into our existing
operations and sales and marketing.
If the Representative fully exercises its over-allotment option to purchase
an additional 150,000 shares, we will receive additional net proceeds of
approximately $2,000,000, all of which will be allocated to working capital and
general corporate purposes.
Based on our current plans and assumptions relating to our business
strategy, we anticipate that the net proceeds of this offering, together with
cash on hand and our expected revenues, will satisfy our capital requirements
for approximately 12 months following the closing of this offering. If our plans
change, if our assumptions prove to be inaccurate, or if the net proceeds of
this offering otherwise prove to be insufficient for our needs, we may be forced
to reallocate all or a portion of the proceeds of this offering, use proceeds
for other purposes, seek additional financing sooner than we currently
anticipate or curtail our operations. Sources of additional financing may not be
available to us in the future, if needed.
We intend to invest proceeds not immediately required for the purposes
described above principally in U.S. government securities, short-term
certificates of deposit, money market funds or other short-term interest bearing
investments.
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<PAGE>
PRICE RANGE OF COMMON STOCK
Our common stock has traded on the Nasdaq SmallCap Market under the symbol
"FCCN" since May 14, 1998. The following table shows the high and low bid prices
of our common stock as reported by Nasdaq.
<TABLE>
<CAPTION>
HIGH LOW
--------- --------
<S> <C> <C>
1998
Second Quarter (from May 14, 1998)...................................................... $ 5.25 $ 4.25
Third Quarter........................................................................... 8.125 2.125
Fourth Quarter.......................................................................... 8.2188 2.375
1999
First Quarter........................................................................... 16.75 5.625
Second Quarter.......................................................................... 18.065 8.125
Third Quarter........................................................................... 11.375 4.75
Fourth Quarter (through December 15, 1999).............................................. 7.50 3.8125
</TABLE>
On December 15, 1999, the last reported sale price of our common stock on
the Nasdaq SmallCap Market was $5.375 per share. As of December 15, 1999, there
were approximately 64 record owners of our common stock.
We have applied to list our preferred stock and common stock on the
American Stock Exchange under the symbols and .
DIVIDEND POLICY
We have not declared or paid and do not anticipate declaring or paying any
dividends on our common stock in the near future. Any future determination as to
the declaration and payment of dividends on our common stock will be at the
discretion of our Board of Directors and will depend on then existing
conditions, including our financial condition, earnings, results of operations,
capital requirements, business factors and other factors as our Board of
Directors deems relevant. We currently intend to retain all earnings to finance
our continued growth and the development of our business.
Each share of Series B convertible preferred stock will be entitled to
receive annual cumulative dividends of $ per share, payable semi-annually
on June 30 and December 31 of each year commencing June 30, 2000, either in cash
or in shares of common stock, in our sole discretion (except that dividends
payable upon a redemption of the preferred stock will be payable only in cash).
The number of shares of any common stock issued as a dividend will be based on
the average closing sales price of the common stock on the five trading days
immediately preceding the record date for each dividend. We anticipate that
payments of dividends on our preferred stock will be made by issuing additional
shares of our common stock for the foreseeable future.
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<PAGE>
CAPITALIZATION
The following table sets forth our capitalization as of September 30, 1999
on an actual basis. The pro forma data below reflects (1) the sale of 241,133
shares of common stock for aggregate net proceeds of $1,150,000; (2) the
issuance of 140,706 shares of common stock pursuant to repricing rights; and
(3) the acquisition of Web design and hosting assets of United Computer
Specialists, Inc. and assets of Fronthost LLC for aggregate consideration of
$50,000 cash, $425,000 in promissory notes and 59,603 shares of common stock
valued at $325,000. The pro forma as adjusted data reflects our receipt of the
net proceeds from the sale of 1,000,000 shares of Series B convertible preferred
stock, assuming an offering price of $15 per share, after deducting the
underwriting discounts and estimated offering expenses, and the repayment of
$425,000 of indebtedness.
The pro forma as adjusted data excludes (a) 3,480,743 shares of common
stock issuable upon the exercise of outstanding stock options and warrants at a
weighted average exercise price of $5.15 per share; (b) 287,544 shares of common
stock issuable upon the exercise of repricing rights; and (c) 458,732 additional
shares of common stock reserved for issuance under our stock option plan.
The capitalization information set forth in the table below is qualified by
and should be read in conjunction with more detailed consolidated financial
statements and related notes included elsewhere in this prospectus.
<TABLE>
<CAPTION>
SEPTEMBER 30, 1999
---------------------------------------
PRO FORMA
ACTUAL PRO FORMA AS ADJUSTED
---------- ---------- -----------
<S> <C> <C> <C>
Capitalized lease obligations and notes payable net of current
portion ............................................................ $1,175,771 $1,600,771 $ 1,175,771
---------- ---------- -----------
---------- ---------- -----------
Stockholders' equity
Preferred stock, $.01 par value; 1,000,000 shares authorized(1)
Series A, 10 shares issued and outstanding, actual, pro forma and
as adjusted....................................................
Series B, no shares issued and outstanding, actual and pro forma;
1,000,000 shares issued and outstanding, as adjusted........... 10,000
Common stock, $.01 par value; 25,000,000 shares authorized;
3,934,156 issued and 3,702,636 outstanding, actual; 4,375,598
issued and 4,144,078 outstanding, pro forma and pro forma as
adjusted......................................................... 39,342 43,756 43,756
Additional paid-in capital.......................................... 13,653,046 15,123,632 27,863,632
Accumulated deficit................................................. (8,736,771) (8,736,771) (8,736,771)
Note receivable..................................................... (37,500) (37,500) (37,500)
Treasury stock, at cost, 231,520 shares............................. (264,113) (264,113) (264,113)
---------- ---------- -----------
Total stockholders' equity....................................... 4,654,004 6,129,004 18,879,004
---------- ---------- -----------
Total capitalization................................................ $5,829,775 $7,729,775 $20,054,775
---------- ---------- -----------
---------- ---------- -----------
</TABLE>
- ------------------
(1) We are in the process of seeking stockholder approval to authorize us to
issue an additional 1,000,000 shares of preferred stock.
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<PAGE>
SELECTED CONSOLIDATED FINANCIAL DATA
The selected consolidated financial data for the years ended December 31,
1997 and 1998 are derived from our consolidated financial statements which have
been audited by BDO Seidman, LLP, independent public accountants, and are
included elsewhere in this prospectus. The selected consolidated statement of
operations data for the nine months ended September 30, 1998 and 1999 and the
selected consolidated balance sheet data as of September 30, 1999 are derived
from our unaudited consolidated financial statements included elsewhere in this
prospectus.
The pro forma data below reflects (1) the sale in October and December 1999
of 241,133 shares of our common stock for aggregate net proceeds of $1,150,000;
(2) the issuance in October and December 1999 of 140,706 shares of common stock
pursuant to repricing rights; and (3) the acquisition in October and December
1999 of Web design and hosting assets of United Computer Specialists, Inc. and
assets of Fronthost LLC for aggregate consideration of $50,000 cash, $425,000 in
promissory notes and 59,603 shares of common stock valued at $325,000.
The pro forma as adjusted data below gives effect to the application of the
net proceeds from the sale of the 1,000,000 shares of Series B convertible
preferred stock assuming an offering price of $15 per share, after deducting the
underwriting discounts and estimated offering expenses, and the repayment of
$425,000 of indebtedness.
The selected financial data set forth below contains only a portion of our
financial statements and should be read in conjunction with the consolidated
financial statements and related notes and "Management's Discussion and Analysis
of Financial Condition and Results of Operations" included elsewhere in this
prospectus.
CONSOLIDATED STATEMENT OF OPERATIONS DATA:
<TABLE>
<CAPTION>
NINE MONTHS ENDED
YEARS ENDED DECEMBER 31, SEPTEMBER 30,
-------------------------- --------------------------
1997 1998 1998 1999
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Revenues.............................................. $ 321,706 $ 574,964 $ 369,972 $ 2,159,585
----------- ----------- ----------- -----------
Cost and expenses:
Cost of revenues.................................... 215,199 586,760 309,627 1,426,006
Selling, general and administrative................. 533,054 1,412,935 651,878 3,770,720
Depreciation and amortization....................... 44,558 220,575 55,590 1,189,080
Non-cash compensation charge........................ 1,537,000 175,137 -- 712,220
----------- ----------- ----------- -----------
2,329,811 2,395,407 1,017,095 7,098,026
----------- ----------- ----------- -----------
Loss from operations................................ (2,008,105) (1,820,443) (647,123) (4,938,441)
Other income (expense) (net):......................... (29,312) 76,344 37,037 45,317
----------- ----------- ----------- -----------
Net loss.............................................. $(2,037,417) $(1,744,099) $ (610,086) $(4,893,124)
----------- ----------- ----------- -----------
----------- ----------- ----------- -----------
Loss per share--basic and diluted..................... $ (1.67) $ (.72) $ (.27) $ (1.43)
----------- ----------- ----------- -----------
----------- ----------- ----------- -----------
Weighted average number of shares outstanding......... 1,218,000 2,435,035 2,221,077 3,421,359
----------- ----------- ----------- -----------
----------- ----------- ----------- -----------
Deficiency in earnings to cover fixed charges......... $(2,037,417) $(1,744,099) $ (610,086) $(4,893,124)
----------- ----------- ----------- -----------
----------- ----------- ----------- -----------
</TABLE>
18
<PAGE>
BALANCE SHEET DATA:
<TABLE>
<CAPTION>
AS OF DECEMBER 31, 1998 AS OF SEPTEMBER 30, 1999
-------------------------- -----------------------------------------
PRO FORMA
ACTUAL PRO FORMA AS ADJUSTED
----------- ----------- -----------
<S> <C> <C> <C> <C>
Cash and cash equivalents................ $ 1,994,711 $ 913,782 $ 2,013,782 $14,338,782
Working capital.......................... 1,245,536 (867,668) (192,668) 12,557,332
Total assets............................. 6,286,403 8,015,454 9,915,454 22,240,454
Total liabilities........................ 1,239,016 3,361,450 3,786,450 3,361,450
Accumulated deficit...................... (3,843,647) (8,736,771) (8,736,771) (8,736,771)
Stockholders' equity 5,047,387 4,654,004 6,129,004 18,879,004
</TABLE>
<TABLE>
<CAPTION>
NINE MONTHS ENDED
YEARS ENDED DECEMBER 31, SEPTEMBER 30,
-------------------------- --------------------------
1997 1998 1998 1999
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
EBITDA(1)............................................. $(1,963,547) $(1,599,868) $ (591,533) $(3,749,361)
----------- ----------- ----------- -----------
----------- ----------- ----------- -----------
</TABLE>
- ------------------
(1) EBITDA is earnings from operations before interest, taxes, depreciation and
amortization. EBITDA is included because management believes that certain
investors find it to be a useful tool for measuring a company's ability to
service its debt. However, EBITDA does not represent cash flow from
operations, as defined by generally accepted accounting principles. In
addition, EBITDA should not be considered as a substitute for net income or
net loss as an indicator of our operating performance or cash flow or as a
measure of liquidity. This data should be examined in conjunction with our
consolidated financial statements and notes to the financial statements
included elsewhere in this prospectus.
19
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction with
"Selected Financial Data" and the accompanying financial statements and related
notes included elsewhere in this prospectus.
OVERVIEW
Our company was organized in February 1997 as successor to the business of
three predecessor limited liability companies. In May 1997, we effected a
reorganization pursuant to which (1) the predecessor companies transferred all
of their assets, subject to all of their liabilities, to us; (2) our principal
stockholders exchanged their interests in the predecessor companies for
promissory notes in the aggregate principal amount of $372,137; and (3) each of
the predecessor companies dissolved. Our financial statements include the
accounts of the predecessor companies.
During 1998 and the first half of 1999, approximately 90% of our revenues
were derived from providing Internet access services to individuals and
businesses. These revenues are comprised principally of recurring revenues from
our customer base and leased line connections and from various ancillary
services. We charge subscription fees, which are billed monthly or quarterly, in
advance, typically pursuant to pre-authorized credit card accounts, or automatic
bank transfers. The remaining 10% of our revenues during those periods were
derived from Web development and hosting services. Our business strategy is to
increase the percentage of revenues we derive from Web development and hosting
services. We have not yet generated any revenues as a CLEC reseller of telephone
access.
Monthly subscription service revenues are recognized over the period in
which services are provided. Service revenues derived from dedicated access
services, which require the installation and use of equipment we provide at a
customer's location, are recognized when the service is commenced. Fee revenues
for Web development and hosting are recognized as services are performed.
RESULTS OF OPERATIONS
Comparison of Nine Months ended September 30, 1999 and 1998
Revenues. Revenues increased for the nine months ended September 30, 1999 by
$1,789,613, or 483.7%, over the same period in the prior year. The increase was
attributable to an expanded customer base. We had approximately 15,000 customers
at September 30, 1999, as compared to 2,000 customers at September 30, 1998. The
increase in our customer base was principally due to acquisitions.
Cost of Revenues. Cost of revenues for the nine-month period ended
September 30, 1999 increased by $1,116,379 from the prior comparable period to
$1,426,006. Cost of revenues as a percentage of revenues decreased to 66.0%
during the nine-month period ended September 30, 1999 from 83.7% for the
nine-month period ended September 30, 1998. The absolute dollars increase in
cost of revenues was due to increased communication and technical personnel
expenses incurred to support the increased customer base and in anticipation of
future customer growth. We expect these costs to increase in absolute dollars as
additional customers are added.
Selling, General and Administrative. For the nine-month period ended
September 30, 1999, selling, general and administrative expenses excluding
failed acquisition-related costs increased by $2,838,842 to $3,770,720. As a
percentage of revenues, selling, general and administrative expenses decreased
from 176.2% for the nine-month period ended September 30, 1998 to 174.6% for the
nine-month period ended September 30, 1999. The absolute dollar increase in
selling, general and administrative expenses was primarily attributable to
higher payroll, advertising, promotion and professional fees incurred in 1999
due to the increased revenue base and in anticipation of growth. On
September 30, 1999, we had 65 employees, as compared to 14 on September 30,
1998. In addition, $280,000 of failed acquisition related costs were charged to
operations for the nine-month period ended September 30, 1999. We anticipate
future increases in operating expenses related to advertising, promotion,
payroll and professional fees.
20
<PAGE>
Depreciation and Amortization. For the nine-month period ended
September 30, 1999, depreciation and amortization increased by $1,133,490 to
$1,189,080. The increase was due to amortization charges from acquisitions and
due to depreciation arising from additional equipment acquired in 1999.
Non-cash Compensation Charge. We granted certain employees options to
purchase an aggregate amount of 245,768 shares of common stock which required
stockholder approval prior to issuance. Our stockholders approved the issuance
in June 1999, and that approval date is deemed to be the grant date. Since the
fair market value of the shares at the grant date exceeded the exercise price,
compensation costs of $712,220 were recognized during the nine months ended
September 30, 1999.
Interest Income. Interest income net of interest expense increased by
$8,280, or 22.4%, for the nine-month period ended September 30, 1999. The
increase in interest income was due to investment of unutilized proceeds of our
initial public offering completed in May 1998.
Net Loss. We incurred significant losses and anticipate that we will
continue to incur losses until sufficient revenues are generated to offset the
substantial up-front expenditures and operating costs associated with attracting
and retaining additional customers. For the nine months ended September 30, 1999
and 1998, we incurred net losses of $4,893,124 and $610,086.
Comparison of Years ended December 31, 1998 and 1997
Revenues. Revenues for the year ended December 31, 1998 were $574,964
compared to $321,706 for the year ended December 31, 1997. The increase was
attributable to an expanded customer base. We had approximately 15,000 customers
at December 31, 1998, up from 1,400 customers at December 31, 1997. The increase
in customer base was principally due to acquisitions.
Cost of Revenues. For the year ended December 31, 1998, cost of revenues
increased by $371,561 to $586,760. As a percentage of revenues, cost of revenues
increased from 66.9% to 102.1%. The absolute dollars increase in our cost of
revenues was due to increased communication and technical personnel expenses
incurred to support the increased customer base and in anticipation of future
customer growth. We expect these costs to increase in absolute dollars as
additional customers are added.
Selling, General and Administrative. For the year ended December 31, 1998,
selling, general and administrative expenses increased by $879,881 to
$1,412,935. As a percentage of revenues, selling, general and administrative
expenses increased from 165.7% to 245.7%. The absolute dollar increase in our
selling, general and administrative expenses was primarily attributable to
higher payroll, advertising, promotion and professional fees incurred in 1999
due to increased revenue base and in anticipation of growth. We anticipate
future increases in operating expenses related to advertising, promotion,
payroll and professional fees.
Depreciation and Amortization. For the year ended December 31, 1998,
depreciation and amortization increased by $176,017 to $220,575. The increase
was due to amortization charges arising from acquisitions and due to
depreciation arising from additional equipment acquired in 1998.
Non-cash Compensation Charges. Non-cash compensation charges of $175,137
and $1,537,000 for the years ended December 31, 1998 and 1997 were recognized as
a result of stock options granted to non-employees in 1998 and shares of common
stock issued to founding shareholders and to a director for services in 1997.
Interest Income. Interest income net of interest expense for 1998 was
$73,344 compared to net interest expense of $28,421 for 1997. The increase in
interest income was due to investment of unutilized proceeds of our initial
public offering.
Net Loss. We have incurred significant losses and anticipate that we will
continue to incur losses until sufficient revenues are generated to offset the
substantial up-front expenditures and operating costs associated with attracting
and retaining additional customers. For the years ended December 31, 1998 and
1997, we incurred net losses of $1,744,099 and $2,037,417, respectively.
21
<PAGE>
ACQUISITIONS
Acquisitions have historically been and will continue to be an important
aspect of our growth strategy. Since October 1998, we have completed the
following acquisitions: WOWFactor, Inc., a company engaged in the business of
promoting e-commerce through its Websites primarily for women's businesses; Roxy
Systems, Inc. d/b/a Magic Carpet, an Internet service provider in Orange County,
New York; US Online, Inc., a provider of Internet access, Web hosting and leased
communications lines in New York, New Jersey and Pennsylvania; Webspan
Communications, Inc., an Internet service provider in New York and New Jersey;
WebPrime, Inc., a Website design, Web development and software development firm;
Channel iShop.com, a company with a marketing concept targeting retail
businesses; assets relating to the dial-up Internet access customer base and Web
design and hosting capabilities of United Computer Specialists, Inc.; a customer
base of additional DSL customers of Lingua Systems, Inc. d/b/a/ Fullwave
Networks; a customer base of additional dial-up customers of Skyhigh Information
Technologies; and FrontHost LLC, a company in the business of providing Web
hosting and design services.
Our acquisitions resulted in our recording significant intangible assets.
As of September 30, 1999, we had $3,596,347 of net intangible assets which are
being amortized over a period of three years. See Note 4 of Notes to
Consolidated Financial Statements.
LIQUIDITY AND CAPITAL RESOURCES
In May 1997, we consummated a private placement pursuant to which we issued
160,000 shares of common stock (after giving effect to a subsequent 4-for-5
reverse stock split) and received gross proceeds of $400,000.
In December 1997, we consummated a private placement pursuant to which we
issued (i) $150,000 principal amount of promissory notes and (ii) warrants to
purchase 300,000 shares of common stock at an exercise price of $5.00 per share.
The notes were repaid in May 1998.
In May 1998, we completed an initial public offering of our common stock
and warrants and received net proceeds of approximately $5.8 million. $443,000
of the proceeds was used for repayment of indebtedness (including $185,848 to
affiliates), and $264,113 was used to repurchase 231,520 shares of common stock.
We completed four acquisitions in 1998 and used approximately $1,482,000 of the
public offering proceeds for the cash portion of the purchase prices and related
expenses. The remaining proceeds, after meeting our working capital and capital
expenditure requirements, are currently held in interest-bearing bank accounts.
Our working capital deficiency at September 30, 1999 was $867,669 compared
to positive working capital of $1,245,536 at December 31, 1998. The decrease in
working capital was due to operating losses, the purchase of communications
equipment and acquisitions of businesses.
In March, July, October and December 1999, we sold an aggregate of
499,889 shares of common stock and three-year warrants to purchase an additional
68,195 shares of common stock at prices ranging from $5.23 to $13.85 per share
in four private placements for gross consideration of $4,250,000. Each purchaser
is also entitled to receive additional shares of common stock if the market
price of our common stock falls below specified price levels. As of
December 14, 1999, the purchasers exercised repricing rights that resulted in
our issuing an additional 239,716 shares of common stock. We may be required to
issue up to an additional 287,544 shares of common stock to satisfy the
remaining repricing rights.
Our primary capital requirements are to fund acquisition of subscriber
bases and related Internet businesses, establish additional POPs, install
network equipment, lease space for consolidated POPs and for working capital. To
date, we have financed our capital requirements primarily through issuance of
debt and equity securities. We currently do not have any lines of credit. The
availability of capital sources is dependent upon prevailing market conditions,
interest rates, and our financial condition.
In September 1999, we acquired $1.3 million worth of communications
equipment from a major telecommunications equipment manufacturer. The
manufacturer provided the financing through a lease for $957,000. The lease
requires us to pay $36,000 a month for 30 months commencing February 2000. In
addition, $376,000 due to the manufacturer is payable over four quarterly
installments of $93,650 commencing March 2000.
22
<PAGE>
We require the proceeds of this offering to expand our operations and
finance our future working capital requirements. Based on our current plans and
assumptions relating to our business strategy, we anticipate that our cash on
hand, expected revenues and the net proceeds of this offering will satisfy our
capital requirements for approximately 12 months following the closing of this
offering. However, if our plans change, if our assumptions prove to be
inaccurate, or if the net proceeds of this offering otherwise prove to be
insufficient for our needs, we may be forced either to seek additional financing
sooner than currently anticipated or curtail our operations. The proceeds of
this offering may not be sufficient to fund our proposed expansion, and
additional financing may not become available when needed. We will be materially
adversely affected if we do not obtain financing when needed.
YEAR 2000
We are aware of the issues associated with the programming code in existing
computer systems as the year 2000 approaches. The "Year 2000" problem is
concerned with 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 wrong data or fail. The Year 2000
problem is pervasive and complex, as virtually every company's computer
operations will potentially be affected in some way.
We are currently engaged in a phased process to evaluate our internal
status with respect to the Year 2000 issue. In the first phase, completed in the
fourth quarter of 1998, we conducted an assessment of our systems, including
both IT systems and non-IT systems such as hardware containing embedded
technology, for Year 2000 compliance. The network systems of operating regions
are substantially similar in technology.
We utilized certain employees in our evaluation of possible Year 2000
problems. The costs and expenses of such employees have not been material. To
date, we have not discovered Year 2000 issues in the course of our assessment
that would have a material adverse effect on our business, results of operations
or financial condition. However, all Year 2000 issues may not have been
discovered during the assessment, and we may discover additional Year 2000
issues that could have such an effect.
Phase two of our phased process involved taking corrective action to bring
systems into compliance and developing a contingency plan in the event any
non-compliant critical systems remain by January 1, 2000. The continued
consolidation of our operations, provisioning of national operation systems, and
standard maintenance updates is critical to the successful completion of our
Year 2000 plan. If issues are uncovered and resolved during the assessment of
the east coast operating region, such resolutions will be directly applied to
other operating regions. Although we cannot currently estimate the magnitude of
such impact, if systems material to our operations have not been made Year 2000
compliant, the Year 2000 issue could materially adversely affect us.
The costs incurred with respect to phase two were not material. Future
costs are difficult to estimate. However, we do not currently anticipate that
such costs will be material. Concurrently with the continuing analysis of our
internal systems, we have surveyed third party entities with which we transact
business, including critical vendors and financial institutions, for Year 2000
compliance. With respect to the most critical vendors, we are satisfied with the
responses as to the Year 2000 preparedness of our telecommunications providers,
on which we rely for network services crucial to our Web hosting and Internet
connectivity services, and have also deployed redundant connections to diverse
providers at core locations to minimize disruption of service in the event of an
outage. However, failure of any one provider may have a material adverse impact
on our operations. At this time we cannot estimate the effect, if any, that non-
compliant systems at these entities could have on us. The impact, if any, may be
material.
EFFECT OF RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Instruments
and Hedging Activities" (SFAS No. 133), which requires companies to recognize
all derivatives as either assets or liabilities in the statement of financial
position and measure those instruments at fair value. SFAS No. 133 is effective
for fiscal years beginning after June 15, 2000. We do not presently enter into
any transactions involving derivative financial instruments and, accordingly, do
not anticipate the new standard will have any effect on our financial
statements.
23
<PAGE>
BUSINESS
GENERAL
The broad acceptance of the Internet has created numerous opportunities for
businesses to improve their competitive position in their markets. However, the
analysis, design and implementation of an effective Internet solution require a
range of skills, expertise and technology that only a limited number of small
and medium-sized businesses possess. As a result, small and medium-sized
businesses are increasingly seeking third party service providers to help them
create, build and implement their Internet strategy. In response to these needs
and the growth of the Internet as a vehicle for sales and services, we have
developed a full array of services designed to address all of the Internet
service requirements of our small and medium-sized business customers, including
a variety of Internet access alternatives and Website development and Internet
Website presence services.
We continue to acquire additional Internet service businesses in order to
grow our access, development and presence services. Since October 1998,
primarily through 11 acquisitions, including regional Internet service
providers, Web development, hosting and related companies, we increased our
customer base from 1,500 to over 16,000 customers and now have the enhanced
capability to provide the access, development and presence services necessary to
assist small and medium-sized business customers. We have expanded our access
services nationally to include approximately 800 POPs capable of providing
Internet access services to 75% of the U.S. population. We also offer
significant national high-speed access, including DSL ability through our
alliances with COVAD Communications Corp. and Network Access Solutions, Inc. In
addition, as a licensed CLEC in New York and Pennsylvania, we can reduce our
communications costs and receive revenue from other Internet service providers.
We believe that we are one of the few Internet companies that is also qualified
as a CLEC. We intend to expand our network infrastructure and increase our
Internet access subscriber base by continuing to acquire other Internet service
providers with a high concentration of small business customers.
Our business model focuses on businesses in specifically identified
segments or geographic regions. In the northeast United States, where our sales
force is currently located and where we own 12 POPs, we are building brand
equity in our Frontline.net operations, targeted at businesses generally.
Throughout the United States, we target women-owned businesses with our
WOWFactor.com marketing brand and Website and retail businesses with our Channel
iShop.com marketing brand and Website. We anticipate that our WOWFactor.com and
Channel iShop.com marketing efforts will continue nationally, and our
Frontline.net branding effort will grow geographically, as our POPs and sales
force expand our footprint.
INDUSTRY OVERVIEW
In recent years, the Internet has experienced a rapid increase in its
number of users. As a result, Internet access services is one of the fastest
growing segments of the global telecommunications services marketplace.
According to a survey conducted by NUA Ltd. Internet Surveys, there were
201 million people online worldwide as of September 1999. The same study
predicts that by 2005, the number of people online globally will increase to
350 million. NUA Ltd. reports that business-to-business online transactions in
the United States alone are expected to reach $109 billion by the end of 1999
and $843 billion by 2002.
The rapid development and growth of the Internet has resulted in an
industry of local, regional and national Internet service providers in the
United States. These companies provide Internet access to their subscribers
either by developing a proprietary network infrastructure or by purchasing
Internet access from a wholesale provider or through a combination of both.
Internet access services represent the means by which Internet service providers
interconnect either businesses or individual consumers to the Internet's
resources or to corporate intranets and extranets.
Recent technological advances, combined with cultural changes and evolving
business practices, have led to integration of the Internet into the activities
of individuals and the operations and strategies of commercial organizations.
Use of the Internet by individuals and small and medium-sized businesses has
been accelerated by dramatic increases in cost-effective processing power and
data storage capabilities in personal computers, as well as widespread
availability of multimedia, fax/modem, and networking capabilities. Today,
businesses
24
<PAGE>
are increasingly realizing that the Internet is fundamentally transforming the
way they compete. This realization is forcing businesses to reevaluate their
Internet strategies and review their entire operational models in order to align
their business objectives more closely with their business processing and
systems. Businesses are attempting to utilize innovative Internet solutions to
improve their competitive position and take advantage of:
o greater opportunities to attract and retain profitable customers;
o lower costs;
o improved operational efficiencies;
o strengthened supply chain partner relationships; and
o improved communications within organizations.
As a result, businesses are increasingly seeking third party service
providers to help them create and build business-driven Internet solutions. To
service this emerging need, traditional service providers such as management
consultants, traditional information technology service providers and
advertising firms have created groups within their organizations that focus on
the Internet needs of their clients. However, many of these traditional service
providers lack the breadth of services to provide comprehensive Internet
solutions, and businesses have begun to seek new third party providers that can
provide them with Internet solutions balancing their strategy, marketing and
technology needs. This demand has led to the emergence of integrated Internet
services firms that have the expertise to service this emerging market and can
also provide a structured approach to integrating strategy, marketing and
technology to create a single, unified Internet solution.
OUR STRATEGY
Our goal is to become a leading provider of Internet access, development
and presence services for small and medium-sized businesses throughout the
United States. We intend to implement the following strategies in order to
achieve our goal:
o Increase our exposure to targeted segments of the small and medium-sized
business market and increase our customer base by continuing to acquire
and develop Websites devoted to particular small and medium-sized
business segments;
o Expand our network infrastructure and increase our Internet dial-up
access subscriber base by continuing to acquire regional Internet service
providers with a high concentration of small and medium-sized business
customers; and
o Expand our Internet development and presence services internally and by
acquiring or forming strategic partnerships with companies which provide
Internet-related services which benefit small and medium-sized
businesses.
Target small and medium-sized business segments through devoted
Websites. An essential part of our growth strategy will be the use of branded
Websites to increase the exposure of our Internet access, development and
presence services to potential small and medium-sized business customers in
particular market segments. We intend to use these Websites to target these
businesses as business owners, not as consumers, and we intend to attract
business owners to these Websites by offering them products and services
targeted to them as Internet users, based on their business segment. However,
business owners who visit these Websites will also be exposed to our array of
Internet access, presence and development services. We believe that the Internet
traffic generated by these Websites will be a valuable source of potential
customers for our Internet services.
In October 1998, we acquired WOWFactor, Inc. as the first step in our
Website marketing strategy. WOWFactor.com was launched in May 1999 to promote
e-commerce to professional women and women-owned businesses. We expect that
WOWFactor.com will become a source of revenue from advertising fees charged for
banner advertisements on its Website and revenue sharing arrangements with other
content providers that enter into strategic partnerships with us to provide
their services through the Website. Our
25
<PAGE>
primary purpose in developing WOWFactor.com is to generate traffic from small
and medium-sized businesses that can then be exposed to our full array of
Internet access, development and presence services available to business owners.
Channel iShop, which is currently scheduled to launch during the first
quarter of 2000, will feature products listed by categories and retailers listed
by location on stand-alone sites known as "verti-ports." Each destination will
provide specific niches in the small and medium-sized business retail market
(such as retailers in specified geographic areas and specialty retailers) with
the opportunity to conduct e-commerce and build their businesses on the
Internet. Channel iShop's goal is to provide retailers in each category with the
specific access, development and presence services that they need in order to
have an advantage over their competitors and to succeed online.
Expand our network infrastructure and increase Internet dial-up access
subscribers. While we currently provide access services to individuals as well
as small and medium-sized businesses, we are now focusing on increasing our
customer base as we develop and enhance our Internet services targeted to these
businesses. As our dial-up access subscriber base grows, we will seek to
increase our network infrastructure so that our Internet access capacity can
meet the demands of our customers.
We intend to expand our Internet access business principally through an
acquisition strategy that will increase our customer base as well as the network
infrastructure necessary to service our growing customer base. The Internet
access market in the United States is highly fragmented and consists of a small
number of large, national companies and a large number of smaller, regional
companies. The majority of these companies are small or medium-sized businesses
which we believe lack the technological capabilities and financial resources
necessary to serve the Internet access needs of a rapidly changing market. We
believe these factors are driving a general consolidation trend in the Internet
access industry, and we believe this trend will continue for the foreseeable
future.
There is significant competition for acquisition candidates. However,
unlike many Internet companies which seek to acquire access providers with a
large number of residential dial-up customers, our acquisition strategy is
focused on regional access providers which have a high number of potential small
and medium-sized business customers. We believe that there will generally be
less competition for our acquisition targets because of their relatively lower
concentration of residential users.
We will focus on acquiring companies that provide services in regions where
we have identified a high concentration of potential customers based on our
demographic research. We intend to focus on expanding our business into
geographic regions where we identify demand for our Internet services based on
several factors, including the level of use of our branded e-commerce Websites
in those geographic regions. In geographic regions which we target for growth,
we will seek an initial acquisition to serve as a regional operations center and
then attempt to grow our business within those regions by acquiring additional
Internet service providers that can be consolidated into the regional operations
center. We will seek to achieve operating efficiencies and economies of scale by
eliminating or consolidating redundant aspects of subsequent acquisitions within
each region, including POPs, equipment leases and telecommunications and access
contracts. Generally, we will seek to acquire companies with talented management
teams and compatible technology.
Expand Internet development and presence services. We will seek to develop
a full array of Internet development and presence services in addition to our
Internet access services to meet all of the Internet needs of our customers. We
will seek to customize our services to the small and medium-sized business
market, which we believe will result in higher customer loyalty and a lower
churn rate than is experienced generally in the Internet industry. We also
believe that this strategy will provide us with a competitive advantage over
many of our larger competitors which do not focus sufficiently on the small and
medium-sized business market and therefore do not offer such customized
services.
In 1999, we acquired WebPrime, Inc. and substantially all of the assets of
United Computer Specialists, both Internet Website design and development
companies. We will continue to expand our service offerings through internal
development and the acquisition of companies which have developed Internet
presence or development services that complement our existing offerings.
26
<PAGE>
We also believe that strategic partnerships are important to developing a
full array of Internet service offerings. We primarily select partners that will
provide us and our customers with a value-added service and then share the
revenue with us. In 1999, we developed proposals for and closed over 20 of these
partnership deals and became a premier business partner with IBM. Our premier
partner status with IBM permits us to receive products at cost, use the IBM
business partner logo and seal and earn commissions on Websites built on and
supported by IBM products.
Some of our other value added services and respective partnerships include
the ability to offer:
CONTENT: from partners such as LookSmart Ltd., MyWay.com, which is majority
owned by CMGI, Inc., and ScreamingMedia.Net, Inc., which provides Reuter's and
Associated Press stories;
E-COMMERCE TOOLS: including IBM's Net.commerce software for online
merchandising, an easy-to-use e-commerce wizard and a merchant identification
number;
ONLINE OFFICE TOOLS: such as a video conferencing, contact sharing
technology, file back up and privacy policy tools; and
SPECIAL OFFERS: special benefits and promotions from other companies
exclusive to our members, including becoming the only Internet service provider
to provide a special incentive to the e-centives, inc. network of 2.5 million
daily users.
We also enter into co-marketing agreements where organizations and
associations exclusively promote our Frontline.net and WOWFactor.com brands
through their marketing efforts. In some cases we have negotiated exclusive
arrangements for our WOWFactor.com brand. This is the only site for women-owned
businesses to offer content on CMGI's MyWay(TM) portal and on CMGI's
One-Click-Charge(TM) portal for niche content. WOWFactor has also been
exclusively promoted to women's organizations worldwide, including the Women in
Direct Marketing Association, the Ms. Foundation and the Women's International
Chamber of Commerce.
RECENT ACQUISITIONS
Since October 1998, we have completed the following acquisitions in order
to increase our Internet access, development and presence capabilities:
o WOWFactor, Inc. A company engaged in the business of promoting e-commerce
through its Websites primarily for women's businesses.
o Roxy Systems, Inc. d/b/a Magic Carpet. An Internet service provider in
Orange County, New York.
o US Online, Inc. A provider of Internet access, Web hosting and leased
communications lines in New York, New Jersey and Pennsylvania, including
a POP in the Philadelphia area.
o Webspan Communications, Inc. An Internet service provider in New York and
New Jersey.
o WebPrime, Inc. A Website design, Web development and software development
firm.
o Channel iShop.com. A company with a marketing concept targeting retail
businesses.
o United Computer Specialists, Inc.--access division. A subscriber base of
dial-up internet access customers.
o United Computer Specialists, Inc.--web services division. Assets relating
to Web design and hosting capabilities.
o Lingua Systems, Inc. d/b/a/ Fullwave Networks. A customer base of
additional DSL customers.
o Skyhigh Information Technologies. A customer base of additional dial-up
customers.
o FrontHost LLC. A company in the business of providing Web hosting and
design services.
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<PAGE>
INTERNET SERVICES
We have developed a variety of Internet access, development and presence
services to address the needs of our customers.
Internet Access Services. We provide a variety of competitively priced
Internet access services, including dial-up accounts and dedicated access.
o Dial-Up Accounts: We believe that dial-up accounts present not only an
attractive opportunity for growth and cash flow, but also constitute
excellent targets for our suite of e-commerce services. A user can
quickly activate an account with us and obtain two Internet e-mail
addresses and Web space and establish automatic billing to the user's
credit card. Our network supports connectivity software which utilizes
standard communication protocols such as TCP/IP, enabling a user's
computer to communicate with other computers over the Internet. Our
dial-up services experience over 99% uptime rates and a low incidence of
busy signals. We have recently expanded our dial-up services to add
national access capability, which permits customers to access their
Frontline accounts from anywhere in the continental United States, and
control features which prevent violence, profanity and other
inappropriate materials from reaching children or business accounts.
o DSL: We are a reseller of Digital Subscriber Line high-speed Internet
access services for both COVAD and NAS, and now offer Digital Subscriber
Line, ISDN Digital Subscriber Line, Asymmetric Digital Subscriber Line
and Symmetric Digital Subscriber Line services nationally. These products
provide dedicated connectivity at an affordable cost for companies that
need high-performance Internet access.
o Dedicated Access: We offer high speed, high bandwidth dedicated leased
lines principally for business users who desire to connect their internal
computer networks to the Internet, 24 hours a day, seven days a week. Our
leased line accounts are also available to provide Internet services to
businesses at various speeds, including 56K circuits, fractional T-1,
full T-1 and T-3 lines, depending on the customer's needs. Our dedicated
leased lines blend high security with optimum speed and offer commercial
strength bandwidth that businesses can rely on for critical productivity
and e-commerce applications.
o Co-location services: Our co-location services enable our customers to
install equipment at our facilities and connect their systems directly to
the Internet. We believe many of our customers will save money by
co-locating with us because they will avoid the costs associated with
establishing and maintaining an on-site facility and because the direct
connection to our network facilities eliminates communications charges.
Internet Development Services. We provide our customers with Internet
Website development services. These services enable small businesses to develop
operational Internet e-commerce Websites. Our Website development services
include the following:
o Do it yourself: Our do it yourself "Website wizard" products assist our
customers in developing their own Websites by using our user-friendly
unassisted Web development tools.
o Website design services: Our in-house engineers, consultants and
designers assist our customers with marketing strategy, graphic design
and layout, writing and editing and Website information architecture
(including Website navigation and searching systems). Our in-house
professionals also have expertise in the creation of intranets, which are
secure, internal networks that allow employees within a company to
communicate and share information through the company's Website, and
extranets, which is a network that enables a company's customers or other
outside parties to gain access to the intranet. As part of our Website
design services, our customers have access to our "toolbox" of e-commerce
solutions which we have developed through our partner programs, including
technology and services which enable online transactions, security,
advertising and promotions.
o Additional business-related services: Our Website development services
include search engine registration, domain name set up and transfer,
server set up, additional storage space for Website pages, e-mail
aliases, additional e-mail addresses and 1-800 roaming access service.
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<PAGE>
Internet Presence Services. We provide our customers with the following
Internet Website presence services to maximize the value of their Internet
Websites:
o Website hosting: Website hosting services offer our customers the
opportunity to develop a 24 hour interactive presence on the Internet by
renting space on our Internet servers. By using our Website hosting
services, our customers can avoid the hardware investment required to
operate their own servers and the ongoing costs associated with locating
and maintaining those servers. Our Web servers connect directly to the
Internet via high speed T-1 and T-3 communications lines, which provide
the maximum bandwith currently available. Our Website hosting services
include domain name registration, e-mail addresses, file upload and
download capability and statistical logs.
o Website analysis: We offer Website analysis services which are designed
to help our customers maximize the exposure of their Websites. We analyze
our customers' access logs to determine how much referral traffic they
receive from various search engines and Internet directories. Our
professionals also rate customer Websites in numerous categories,
including usability, information architecture, navigation and overall
appeal for the customer's target audience. We also evaluate whether our
customers' Websites can be redesigned so that they will be more visible
on Internet search engines and directories.
o Search engine submission: We can submit our customers' Websites to search
engines, and we offer long term contracts for resubmission at regular
intervals.
o Marketing strategy consultation: Our marketing and advertising
professionals can assist customers with building a marketing plan
designed to increase the recognition and use of their Websites. Owners of
Websites have numerous marketing options available to them, including
mass distribution through faxes or e-mails, press releases, newsgroup
postings, forming strategic links with popular Websites and posting
banner advertisements on other Websites. The exposure of Websites can
also be increased by increasing their visibility on Internet search
engines and directories. We work with our customers to identify which
marketing strategies best fit their circumstances, and we can assist them
in implementing the strategy, including negotiating with third parties on
their behalf. As part of this process, we also identify those customers
that can benefit from any of our e-commerce enabling resources which we
have developed through our partner programs.
NETWORK INFRASTRUCTURE
Our telecommunications network currently is comprised of leased high speed
data lines and numerous POPs which allow Internet access throughout the
northeast United States. These POPs permit customers in these areas to access
the Internet through a local telephone call. We currently support a variety of
modems, including 33.6 and V90 Kbps, at each of our POPs and have X2, 56K and
ISDN technologies at most of our POPs.
Our network is monitored 24 hours a day, seven days a week by our network
operations center in Pearl River, New York. The network operations center
provides network monitoring, performance support and traffic management. It also
furnishes real-time network status updates to our technical support and customer
service staff and assists with problem resolution. In addition, the network
operations center provides real-time alarms, event correlation, forecasting and
notifications of network events. Our technology team monitors and upgrades our
network technology when necessary. Access to our network operations center
requires electronic identification badges and is limited to top security
personnel and technical team members.
Our network equipment receives conditioned, or regulated, power to protect
it from damaging voltage spikes and brownouts. Backup power systems
automatically supply emergency power to our network equipment in the event of a
total power outage. Our network operations center contains a separate dedicated
industrial-size air conditioner to reduce the heat generated by our equipment in
order to prevent shut downs and overheating of critical equipment and to allow
our servers to operate at peak efficiency. In addition, we are in the process of
installing a FM-200 fire suppression system at our new network operations center
guaranteed to fill the entire room with a gas which will extinguish a fire
within 10 seconds. This suppression
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<PAGE>
system does not contain water sprinklers, which could damage equipment or cause
electrical fires, and covers the actual room, the ceiling and the floor beneath
the room.
MARKETING AND SALES
Although we continue to provide Internet services to a growing number of
individuals, our primary focus has shifted to providing Internet service to
small and medium-sized businesses. We currently obtain new individual customers
by (1) responding to telephone calls and e-mails which are largely generated
from referrals from existing customers and (2) acquiring other Internet service
providers. Our marketing programs include a retention program to maintain our
current customer base and a referral program to generate new customers.
The primary methods planned for targeting new small business customers
include direct response marketing programs such as radio, promotions, print
advertising, telemarketing, online marketing and broadcast fax. Affiliate
marketing programs, such as those with online book and record sellers, will also
be employed. In a highly competitive industry such as this one, we believe that
name recognition is essential. Our marketing personnel are actively working to
achieve name recognition through radio, trade and local business print media
advertising and local event marketing. We believe that this will also aid in the
development of a quality, value added reseller and affiliate channel. We have
adopted the slogan "Effortless E-Commerce & Internet Access" for which we have a
pending trademark application with the United States Patent and Trademark
Office. This slogan is intended to communicate our focus to potential small
business customers.
We currently have an in-house sales and marketing staff consisting of a
Director of Marketing , a Director of Sales, a Vice President of Business
Development, inbound sales representatives and brand and marketing managers. We
are currently exploring the advantages of outsourcing our telemarketing.
CUSTOMER SUPPORT
We believe that providing prompt and effective technical assistance to our
customers and carrying out effective quality improvement programs are of
paramount importance and essential in order to retain our customers. We provide
network monitoring and emergency customer assistance services 24 hours a day,
seven days a week. Regular support and technical assistance is available 16
hours per day, seven days per week. We currently provide 24-hour support to our
business customers and plan to implement 24-hour customer support for all of our
customers during 2000. In-house customer support personnel respond to telephone
and e-mail inquiries. All customer service is handled in-house in order to
maintain the support levels required to retain customers in a competitive
market.
COMPETITION
Internet Access Services. The market for Internet access services is highly
competitive, rapidly evolving and subject to technological change. There are no
substantial barriers to entry, and we expect that competition will intensify in
the future. Our ability to compete successfully is significantly affected by
numerous factors, including price, ease of use, reliability, customer support,
geographic coverage, and industry and general economic trends, particularly
unfavorable economic conditions adversely affecting consumer discretionary
spending. Our competitors include many large companies that have substantially
greater market presence and financial, technical, marketing and other resources
than we do, including
o international, national and regional Internet service providers;
o established online services companies that currently offer Internet
access;
o computer hardware and software and other technology companies;
o national long distance carriers;
o regional Bell operating companies; and
o cable operators.
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Advances in technology and changes in the marketplace and the regulatory
environment will continue, and we cannot predict the effect that ongoing or
future developments may have on us or our competitors, or on the pricing of our
products and services.
Internet Services. The market for Internet services is relatively new,
intensely competitive, quickly evolving and subject to rapid technological
change. We expect competition to intensify as the market evolves. We believe
that the competitors fall into several categories, including Internet service
firms, technology integrators and strategic consulting firms.
Many of our competitors have longer operating histories, larger client
bases, longer relationships with clients, greater brand or name recognition and
significantly greater financial, technical, marketing and public relations
resources than we do. While we believe that only a few of these competitors
offer an integrated package of Internet services, several competitors have
announced their intent to offer a broader range of services than they currently
provide. We believe that the principal competitive factors in the Internet
services market are the provision of an integrated services capability, breadth
of service offerings, cost certainty and a customer base to which high-end
products can be marketed, and we believe that our service model will allow us to
compete favorably against these competitors.
There are relatively low barriers to entry into the Internet services
market. As a result, new market entrants pose a threat to our business. Existing
or future competitors may develop or offer services that are comparable or
superior to ours at a lower price, which could have a material adverse effect on
our business, financial condition and results of operations.
Competitive Local Exchange Services. As we increase our CLEC services, we
will be subject to competition from other CLECs and local telephone companies.
The local exchange industry is competitive, evolving, and subject to
technological change, and competition is expected to increase in the future.
Many of the competitors in the CLEC industry have greater financial, personnel,
brand name recognition, and other resources than we do.
INDUSTRY REGULATION
The following summary of regulatory developments and legislation does not
describe all present and proposed federal, state and local regulations and
legislation affecting us and our industry. Other federal, state and local
legislation and regulations are currently the subject of judicial proceedings,
legislative hearings and administrative proposals which could change the manner
in which our industry operates. Neither the outcome of these proceedings, nor
their impact upon us or our industry can be predicted at this time.
Internet Service Provider Regulation. Currently, few U.S. laws or
regulations specifically regulate communications or commerce over the Internet.
However, changes in the regulatory environment relating to the Internet
connectivity market, including regulatory changes which directly or indirectly
affect telecommunications costs or increase the likelihood or scope of
competition from the regional Bell operating companies or other
telecommunications carriers, could affect the prices at which we may sell our
services and impact competition in our industry. Congress and the Federal
Communications Commission will likely continue to explore the potential
regulation of the Internet. For instance, the Federal Communications Commission
may reconsider its past ruling that Internet access service is not
"telecommunications" service and that Internet service providers are not subject
to the requirement to pay a percentage of their gross revenues as a "universal
service fund contribution," which carriers pay to support telecommunications
services in rural and other high cost areas. If the Federal Communications
Commission imposed these payments on Internet service providers, our costs of
doing business could increase substantially.
One area in which Congress has attempted to regulate information over the
Internet involved the dissemination of obscene or indecent materials. Certain
provisions of the Telecommunications Act of 1996 relating to indecent
communication over the Internet, generally referred to as the Communications
Decency Act, were found to be unconstitutional by the U.S. Supreme Court in
1997. In October 1998, Congress enacted the Child Online Protection Act, which
requires that online material that is "harmful" to minors be restricted. This
law is currently being challenged in federal district court. On February 1,
1999, a U.S.
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District Court judge issued a preliminary injunction against enforcement of
portions of that Act and the U.S. Department of Justice has appealed that
decision. Some states also have adopted or may adopt in the future similar
requirements. The constitutionality of such state requirements remains unsettled
at this time.
Future laws and regulations could be adopted to address matters such as
user privacy, copyright and trademark protection, pricing, consumer protection,
characteristics and quality of Internet services, libel and defamation, and
sales and other taxes. Internet-related legislation and regulatory policies are
continuing to develop, and we could be subject to increased regulation in the
future. Laws or regulations could be adopted in the future that may decrease the
growth and expansion of the Internet's use, increase our costs or otherwise
adversely affect our business.
In 1998, Congress passed the Digital Millennium Copyright Act. That act
provides numerous protections from certain types of copyright liability to
Internet service providers that comply with its requirements. To the extent that
we have not met those requirements, third parties could seek recovery from us
for copyright infringements caused by our Internet customers.
The law relating to the liability of Internet service providers for
information carried on or disseminated through their networks is currently
unsettled. It is possible that claims could be made against Internet service
providers for defamation, negligence, copyright or trademark infringement or on
other theories based on the nature and content of the materials disseminated
through their networks. We could be required to implement measures to reduce our
exposure to potential liability, which could include the expenditure of
resources or the discontinuance or modification of certain product or service
offerings. Costs that may be incurred as a result of contesting any claims
relating to our services or the consequent imposition of liability could have a
material adverse effect on our financial condition, results of operations and
cash flow.
Competitive Local Exchange Carrier Regulation. Our wholly-owned subsidiary,
CLEC Communications Corp., has been granted competitive local exchange carrier
status by the New York State Public Service Commission and authority to operate
as a competitive local exchange carrier by the Pennsylvania Board of Public
Utilities. We also have a CLEC application pending in New Jersey. In November
1999, we entered into an interconnection agreement with Bell Atlantic which sets
forth the parameters within which we may subscribe to and resell all forms of
local telephone service in New York. As a certified CLEC, we are subject to
various ongoing regulatory requirements applicable to CLECs in particular and
certain other requirements applicable to all telecommunications carriers. As we
become certified as a CLEC in other states, we will become subject to the
regulatory requirements in those states. Most states impose tariff filing
requirements on carriers and require that telecommunications carriers charge
just and reasonable rates and not discriminate among similarly situated
customers. Some states also require the filing of periodic reports, the payment
of various regulatory fees and surcharges, and compliance with service standards
and consumer protection rules. States often require prior approvals or
notifications for certain transfers of assets (such as fiber optic cable or
other telecommunications facilities), customers, or ownership. Some states also
require approval or notice of the issuance of securities or debt or for name
changes of a certificated carrier. We intend to seek CLEC authority in
additional states but may not be able to obtain approvals.
States generally retain the right to sanction a telecommunications carrier
or to revoke certifications if a carrier violates relevant laws and/or
regulations. If any state regulatory agency concluded that we provide intrastate
service without the appropriate authority or that we are not otherwise in
compliance with state public utility commission laws and rules, that agency
could initiate enforcement actions, potentially including the imposition of
fines, the disgorging of revenues or the refusal to grant the regulatory
authority necessary for the future provision of intrastate telecommunications
services.
EMPLOYEES
As of December 6, 1999, we had 67 employees, of which 61 are full time, in
addition to our six executive officers. We engage part-time employees from time
to time. None of our employees is represented by a union. We consider our
employee relations to be good.
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PROPERTIES
Our executive offices are located in Pearl River, New York. We lease
approximately 12,000 square feet of space at an annual rent of approximately
$275,000 pursuant to an amended lease which expires May 2004. Our customer
service center is located in Howell, New Jersey where we lease approximately
2,400 square feet under a least that expires on May 2004. The annual rent is
approximately $45,000. We also lease space, typically less than 100 square feet,
in various geographic locations to house the telecommunications equipment for
each of our POPs. Leased facilities for our POPs have various expiration dates
through May 2002. Aggregate annual rent for our POPs is approximately $17,000.
LEGAL PROCEEDINGS
In September 1999, the former principal stockholder of WOWFactor, Inc., who
also formerly served as our Vice President of Sales and Marketing, commenced
litigation against us in the United States District Court for the Southern
District of New York, seeking damages in the amount of $200,000 as well as
delivery of certain options and common stock certificates allegedly owed to her
by us pursuant to the terms of her employment agreement and the stock purchase
agreement relating to the purchase of WOWFactor, Inc. The shares that are the
subject of the stock certificate are shares of our common stock allegedly due to
her upon conversion of shares of Series A convertible preferred stock described
elsewhere in this prospectus. In November 1999, we filed an answer to the
complaint in which we denied the plaintiff's allegations. We also filed a
counterclaim and third party complaint against all of WOWFactor's original
stockholders in which we seek reformation of the stock purchase agreement and
the return of an unspecified portion of the consideration given in that
transaction. This litigation is in its early stages and we do not believe that
it will have a material impact on our operations.
Except as set forth above, we are not a party to any pending legal
proceedings other than ordinary course routine litigation incidental to our
business. We do not believe that any of these proceedings will have a material
adverse effect on our financial condition or results of operations.
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<PAGE>
MANAGEMENT
EXECUTIVE OFFICERS AND DIRECTORS
Our executive officers, directors and key employees are:
<TABLE>
<CAPTION>
NAME AGE POSITION
- ------------------------------------------------ --- ------------------------------------------------
<S> <C> <C>
Stephen J. Cole-Hatchard........................ 42 Chairman of the Board, Chief Executive Officer
and President
Jodie L. Jackson................................ 45 General Manager
Nicko Feinberg.................................. 28 Chief Information Officer, Executive Vice
President of Technology and Director
Michael Olbermann............................... 43 Chief Operating Officer, Executive Vice
President of Operations, and Director
Vasan Thatham................................... 41 Vice President and Chief Financial Officer
Amy Wagner-Mele................................. 31 Executive Vice President, Secretary and General
Counsel
Ronald Shapss................................... 52 Director
Ronald C. Signore............................... 38 Director
</TABLE>
Stephen J. Cole-Hatchard has been our Chairman, Chief Executive Officer and
President since August 1997. Mr. Cole-Hatchard was our Vice President of Finance
from February 1997 to August 1997 and has been one of our directors since
February 1997. Mr. Cole-Hatchard was Chief Financial Officer of Hudson
Technologies, Inc., a refrigerant services company specializing in recovery and
decontamination services, from 1993 to 1997.
Jodie L. Jackson has been our General Manager since September 1999. From
October 1996 to April 1999, Mr. Jackson served as a Chief Operating Officer at
Paperless Adjudication LLC, a developer of network solutions and proprietary
software for processing electronic transactions. From 1993 through September
1996, Mr. Jackson was the Director of Marketing at Theratronics International
Ltd., a manufacturer of medical equipment, hardware and software.
Nicko Feinberg founded our company in 1995 and has been one of our
directors and our Vice President of Technology since November 1996 and our Chief
Information Officer since August 1997. From April 1994 to October 1996,
Mr. Feinberg was a Sales Manager and, from April 1991 to April 1994, a Sales
Account Executive for Microage Computer Outlet, Inc., a company engaged in
retail computer sales.
Michael Olbermann has been our Chief Operating Officer since September 1997
and one of our directors since February 1997. Mr. Olbermann was also our Vice
President of Business Development from February 1997 until September 1997. From
1986 to the present, Mr. Olbermann has owned and operated Rock House
Construction Co., Inc., a company engaged in commercial and residential
construction.
Vasan Thatham has been our Vice President and Chief Financial Officer since
February 1999. From 1994 through 1998, Mr. Thatham was Vice President and Chief
Financial Officer of Esquire Communications Ltd., a company engaged in providing
legal support services.
Amy Wagner-Mele has been our Executive Vice President and General Counsel
since December 1998 and was our Vice President, Secretary and Corporate Counsel
from September to December 1998. From September 1997 to August 1998,
Ms. Wagner-Mele was an associate with the law firm of Winston & Strawn. From
1993 to August 1997, Ms. Wagner-Mele was an associate with the law firm of
Podvey, Sachs, Meanor, Catenacci, Hildner & Cocoziello, P.C.
Ronald Shapss has been one of our directors since December 1997.
Mr. Shapss is the founder of Ronald Shapss Corporate Services, Inc., a company
engaged in consolidating fragmented industries. Mr. Shapss was also the founder
of Coach USA, Inc. and is presently on the advisory boards of Consolidated
Partners Founding Fund, L.L.C., and 1+ USA, Inc., which founded Advanced
Communications Group, Inc., a competitive local exchange carrier which trades on
the New York Stock Exchange.
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Ronald C. Signore has been one of our directors since December 1997.
Mr. Signore has been a partner in the accounting firm of Robert Gray & Co., LLP
for more than the past five years.
All directors hold office until the next annual meeting of stockholders for
the ensuing year or until their successors have been duly elected and qualified.
Officers are elected annually by the Board of Directors and serve at the
discretion of the Board.
BOARD COMMITTEES
We have established an Audit Committee, which is responsible for making
recommendations concerning the engagement of independent public accountants,
reviewing the plans and results of the audit engagement with the independent
public accountants, approving professional services provided by the independent
public accountants and reviewing the adequacy of our internal accounting
controls. The Audit Committee is currently comprised of Messrs. Shapss and
Signore. We do not have standing compensation or nominating committees.
DIRECTOR COMPENSATION
We currently do not pay our employee directors any fees for attending Board
meetings. We pay non-employee directors $3,000 per annum for attending Board
Meetings. We reimburse our directors for reasonable travel expenses incurred in
connection with their activities on our behalf.
In December 1997, we entered into a consulting agreement with Mr. Shapss
which provided for Mr. Shapss to assist us with mergers and acquisitions. The
agreement expired in May 1999, but we continue to pay Mr. Shapss for consulting
services on a month to month basis. In consideration for his services, we pay
Mr. Shapss $2,000 per month and have issued to Mr. Shapss 100,000 shares of
common stock, options to purchase 80,000 shares of common stock at an exercise
price of $2.00 per share and options to purchase 20,000 shares of common stock
at an exercise price of $2.50 per share.
EXECUTIVE COMPENSATION
The following table sets forth, for the periods indicated, compensation
paid to our Chief Executive Officer during the years ended December 31, 1997 and
1998. No other executive officer received aggregate compensation in excess of
$100,000 for those years.
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
LONG-TERM
COMPENSATION
AWARDS
ANNUAL COMPENSATION ------------------
----------------------------------- SECURITIES
OTHER ANNUAL UNDERLYING
NAME AND PRINCIPAL POSITION YEAR SALARY BONUS COMPENSATION(1) OPTIONS/SAR'S (#)
- -------------------------------------------------- ---- ------- ----- --------------- ------------------
<S> <C> <C> <C> <C> <C>
Stephen J. Cole-Hatchard.......................... 1998 $34,846 $-0- -0- 79,000(2)
Chief Executive Officer 1997 -0- -0- -0- -0-
</TABLE>
- ------------------
(1) The aggregate value of benefits to be reported under the "Other Annual
Compensation" column did not exceed the lesser of $50,000 or 10% of the
total of annual salary and bonus for this officer.
(2) Represents stock options granted under our 1997 Stock Option Plan.
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<PAGE>
The following table sets forth information regarding options granted during
the year ended December 31, 1998 to our Chief Executive Officer:
OPTION/SAR GRANTS IN YEAR ENDING DECEMBER 31, 1998
<TABLE>
<CAPTION>
NUMBER OF SHARES
UNDERLYING % OF TOTAL
OPTIONS/SARS OPTIONS/SARS GRANTED EXERCISE PRICE
NAME GRANTED TO EMPLOYEES IN YEAR ($/SHARE) EXPIRATION DATE
- ----------------------------------------- ----------------- -------------------- -------------- ---------------
<S> <C> <C> <C> <C>
Stephen J. Cole-Hatchard................. 79,000 18.54% $ 2.50 10/08/2003
</TABLE>
The following table sets forth information concerning the number of options
owned by our Chief Executive Officer and the value of any in-the-money
unexercised options as of December 31, 1998. No options were exercised by our
Chief Executive Officer during 1998:
AGGREGATED OPTION EXERCISES
AND YEAR-END OPTION/SAR VALUES
<TABLE>
<CAPTION>
NUMBER OF SECURITIES VALUE OF UNEXERCISED
UNDERLYING UNEXERCISED IN-THE-MONEY
OPTIONS/SARS OPTIONS/SARS
AT DECEMBER 31, 1998(#) AT DECEMBER 31, 1998($)
------------------------------ ------------------------------
NAME EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- -------------------------------------------------- ----------- ------------- ----------- -------------
<S> <C> <C> <C> <C>
Stephen J. Cole-Hatchard.......................... 79,000 -0- $ 333,301 $ -0-
</TABLE>
The year-end values for unexercised in-the-money options represent the
positive difference between the exercise price of the options and the year-end
market value of our common stock. An option is "in-the-money" if the year-end
fair market value of our common stock exceeds the option exercise price. The
closing sale price of our common stock on December 31, 1998 was $6.719.
EMPLOYMENT AGREEMENTS
We have entered into employment agreements with each of Messrs. Feinberg,
Cole-Hatchard and Olbermann which provide for an annual base compensation of not
less than $88,000, $45,000, and $88,000, respectively, and such bonuses as the
Board of Directors may, in its sole discretion, from time to time determine. We
entered into an employment agreement with Amy Wagner-Mele pursuant to which
Ms. Wagner-Mele agreed to serve as Corporate Counsel at a salary of not less
than $98,000 per annum. The employment agreements with Messrs. Feinberg,
Cole-Hatchard and Olbermann expire in August 2000, and the employment agreement
with Ms. Wagner-Mele expires in September 2001, all subject to automatic
successive one year renewals unless either we or the employee gives notice of
intention not to renew the agreement. The employment agreements provide for
employment on a full-time basis and contain a provision that the employee will
not compete or engage in a business competitive with our current or anticipated
business during the term of the employment agreement and for a period of two
years thereafter. We have entered into a month-to-month employment agreement
with Mr. Thatham which provides for a base salary at a rate of $95,000 per year.
All of the employment agreements provide for each of the employees to be paid
additional compensation equal to 295% of their annual base salary in the event
of a change of ownership or effective control of our company (as defined in the
agreements).
1997 STOCK OPTION PLAN
In February 1997, our Board of Directors and stockholders adopted our 1997
Stock Option Plan, pursuant to which 500,000 shares of common stock were
reserved for issuance upon exercise of options. In June 1999, the Board of
Directors and our stockholders approved an amendment to reserve 1,400,000 shares
of common stock for issuance upon exercise of options under the stock option
plan. Our stock option plan is designed to serve as an incentive for retaining
qualified and competent employees, directors and consultants.
Our Board of Directors or a committee administers our stock option plan and
is authorized, in its discretion, to grant options under our stock option plan
to all eligible employees, including our officers,
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<PAGE>
directors (whether or not employees) and consultants. Our stock option plan
provides for the granting of both "incentive stock options" (as defined in
Section 422 of the Internal Revenue Code of 1986, as amended) and non-qualified
stock options. Options can be granted under our stock option plan on such terms
and at such prices as determined by the Board of Directors or its committee,
except that the per share exercise price of options will not be less than the
fair market value of the common stock on the date of grant. In the case of an
incentive stock option granted to a stockholder who owns stock possessing more
than 10% of the total combined voting power of all of our classes of stock, the
per share exercise price will not be less than 110% of the fair market value on
the date of grant. The aggregate fair market value (determined on the date of
grant) of the shares covered by incentive stock options granted under our stock
option plan that become exercisable by a grantee for the first time in any
calendar year is subject to a $100,000 limit.
Options granted under our stock option plan will be exercisable during the
period or periods specified in each option agreement. Options granted under our
stock option plan are not exercisable after the expiration of 10 years from the
date of grant (five years in the case of incentive stock options granted to a
stockholder owning stock possessing more than 10% of the total combined voting
power of all of our classes of stock) and are not transferable other than by
will or by the laws of descent and distribution.
LIMITATION ON LIABILITY AND INDEMNIFICATION MATTERS
Our Certificate of Incorporation provides for us to indemnify each director
and officer to the fullest extent permitted by the Delaware General Corporation
Law. This may reduce the likelihood of derivative litigation against our
directors and may discourage or deter stockholders or management from suing
directors for breaches of their duty of care, even though such an action, if
successful, might otherwise benefit us and our stockholders.
Insofar as indemnification for liabilities arising under the Securities Act
of 1993 may be permitted to our directors, officers and controlling persons
pursuant to the foregoing provisions or otherwise, we have been advised that, in
the opinion of the SEC, such indemnification is against public policy as
expressed in the Securities Act and is therefore unenforceable.
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PRINCIPAL STOCKHOLDERS
The following table sets forth information known to us as of December 15,
1999 regarding the beneficial ownership of our common stock, based on
information provided by the persons named below in publicly available filings,
and as adjusted to reflect the completion of this offering by:
o each of our directors and our Chief Executive Officer;
o all directors and executive officers as a group; and
o each person who is known by us to own beneficially more than five
percent of our outstanding shares of common stock.
Unless otherwise indicated, the address of each beneficial owner is care of
Frontline Communications Corporation, One Blue Hill Plaza, 7th Floor, Pearl
River, New York 10965. Unless otherwise indicated, we believe that all persons
named in the following table have sole voting and investment power with respect
to all shares of common stock that they beneficially own.
<TABLE>
<CAPTION>
NUMBER OF SHARES PERCENTAGE OF SHARES
NAME AND ADDRESS OF BENEFICIAL OWNER BENEFICIALLY OWNED BENEFICIALLY OWNED
- ---------------------------------------------------------- ------------------ --------------------
<S> <C> <C>
Stephen J. Cole-Hatchard.................................. 321,000 7.5%
Nicko Feinberg............................................ 321,000 7.6
Michael Olbermann......................................... 253,000 6.0
Ronald Shapss............................................. 200,000 4.8
Ronald Signore............................................ 69,864 1.7
All directors and executive officers as a
group (seven persons)................................... 1,229,864 27.2%
</TABLE>
The shares beneficially owned by Mr. Cole-Hatchard include 144,000 shares
held by the Cole-Hatchard Family Limited Partnership, of which
Mr. Cole-Hatchard is the general partner, and options to purchase 124,000 shares
of common stock. This does not include 20,000 shares held by
Mr. Cole-Hatchard's mother and brother and warrants to purchase 64,000 shares
held by Mr. Cole-Hatchard's mother.
The number of shares beneficially owned by Mr. Feinberg and Mr. Olbermann
each includes 65,000 shares of common stock which may be purchased under
immediately exercisable options.
The shares beneficially owned by Mr. Signore include shares issuable upon
the exercise of (1) warrants to purchase 41,664 shares of common stock and
(2) immediately exercisable options to purchase 25,000 shares of common stock.
The shares beneficially owned by all directors and executive officers as a
group include options and warrants to purchase an aggregate of 370,664 shares of
common stock.
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RELATED PARTY TRANSACTIONS
In May 1997, Messrs. Nicko Feinberg and Stephen J. Cole-Hatchard, two of
our current officers and directors, and Mr. Michael Char, a former officer and
director, exchanged their interests in the three predecessor companies to whose
business we succeeded for promissory notes in the principal amounts of $141,800,
$66,800 and $163,537. This indebtedness included $21,737 and $35,000 of advances
previously made to us by Messrs. Char and Cole-Hatchard. The promissory notes
were issued to Messrs. Feinberg, Char and Cole-Hatchard in partial consideration
of their efforts in founding the predecessor companies. In May 1998, we repaid
all outstanding indebtedness to Mr. Char and $20,000 of indebtedness to each of
Messrs. Cole-Hatchard and Feinberg. The balance of indebtedness owed to Messrs.
Cole-Hatchard and Feinberg of $46,800 and $121,800 bears interest at the rate of
8% per annum.
In August 1997, we borrowed $60,000 from Mr. Cole-Hatchard, which
indebtedness bears interest at the rate of 9.25% per annum. We repaid $30,000 of
this indebtedness to Mr. Cole-Hatchard in December 1997 and the balance directly
to Mr. Cole-Hatchard's lender in May 1998.
In February 1997, we issued 256,000 shares of our common stock to each of
Messrs. Char, Feinberg and Cole-Hatchard, and 188,000 shares of our common stock
to Mr. Olbermann in consideration of $.01 per share. In December 1997, we issued
100,000 shares of our common stock to Ronald Shapss, a director, in
consideration of $.01 per share.
In March 1998, we entered into a settlement agreement with Mr. Char
pursuant to which Mr. Char discontinued a lawsuit and released us from all
claims (including for monies owed) in consideration of (i) an up-front payment
of $65,000 and (ii) a payment of $435,000 in May 1998 to (a) satisfy $240,000 of
existing obligations due to Mr. Char (including $15,000 of legal fees) and (b)
to repurchase 231,520 shares of our common stock from Mr. Char.
Mr. Cole-Hatchard's mother and brother purchased 12,000 and 8,000 shares of
our common stock at $2.00 per share pursuant to our May 1997 private placement.
The Rough Group, a general partnership of which Mr. Signore, a director, is a
general partner, purchased 16,000 shares of common stock pursuant to our May
1997 private placement. In addition, Mr. Cole-Hatchard's mother and the Rough
Group purchased $40,000 and $85,000 principal amount of promissory notes
pursuant to our December 1997 private placement, and received warrants to
purchase 64,000 and 196,000 shares of our common stock at an exercise price of
$5.00 per share. The notes were repaid in May 1998. These purchases were all on
terms and conditions identical to those of the other investors in these private
placements.
In August 1998, Mr. Cole-Hatchard borrowed $46,000 from us, evidenced by a
demand promissory note bearing interest at the rate of 8% per annum.
In September 1998, Mr. Feinberg borrowed $55,000 from us, evidenced by a
demand promissory note bearing interest at the rate of 8% per annum. In October
1998 and January 1999, Mr. Feinberg borrowed an additional $42,000 and $24,800
from us on the same terms.
In June 1999, Amy Wagner-Mele, an officer of the Company, exercised options
to purchase 15,000 shares of our common stock pursuant to our stock option plan
with a secured promissory note in the principal amount of $37,500. This note
bears interest at a rate of 6%, is due on June 1, 2002 and is secured by
personal assets of Ms. Wagner-Mele and the shares of our common stock that she
acquired.
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DESCRIPTION OF SECURITIES
GENERAL
We are authorized to issue 25,000,000 shares of common stock, par value
$.01 per share, and 1,000,000 shares of preferred stock, par value $.01 per
share. We are in the process of seeking stockholder approval to authorize us to
issue an additional 1,000,000 shares of preferred stock. As of December 14,
1999, there were 4,144,078 shares of common stock outstanding and 10 shares of
preferred stock outstanding designated as Series A convertible preferred stock.
Upon the closing of this offering, 1,000,000 shares of Series B convertible
preferred stock will be outstanding (1,150,000 shares if the Representative
exercises its overallotment option in full).
COMMON STOCK
The holders of our common stock are entitled to one vote for each share
held of record on all matters to be voted on by stockholders. There is no
cumulative voting with respect to the election of directors, with the result
that the holders of more than 50% of the shares voting for the election of
directors can elect all of the directors then up for election. The holders of
common stock are entitled to receive dividends when, as and if declared by the
Board of Directors out of funds legally available therefor. In the event of
liquidation, dissolution or winding up of our company, the holders of common
stock are entitled to share in all assets remaining which are available for
distribution to them after payment of liabilities and after provision has been
made for each class of stock, if any, having preference over the common stock.
Holders of shares of common stock have no conversion, preemptive or other
subscription rights, and there are no redemption provisions applicable to the
common stock. All of the outstanding shares of common stock are fully paid and
nonassessable.
PREFERRED STOCK
We are authorized to issue 1,000,000 shares of preferred stock and are
currently seeking stockholder approval to authorize us to issue an additional
1,000,000 shares of preferred stock. The preferred stock can be issued from time
to time in one or more series, in all cases ranking senior to the common stock
with respect to payment of dividends and in the event of the liquidation,
dissolution or winding-up of our company. There are currently 10 shares of
preferred stock outstanding, designated as Series A convertible preferred stock.
The Board has the power, without stockholder approval, to issue shares of one or
more series of preferred stock, at any time, for such consideration and with
such relative rights, privileges, preferences and other terms as the Board may
determine, including terms relating to dividend rates, redemption rates,
liquidation preferences and voting, sinking fund and conversion or other rights.
The rights and terms relating to any new series of preferred stock could
adversely affect the voting power or other rights of the holders of the common
stock or could be utilized, under certain circumstances, as a method of
discouraging, delaying or preventing a change in control of our company.
SERIES A CONVERTIBLE PREFERRED STOCK
The shares of Series A convertible preferred stock are convertible into
98,218 shares of common stock. The convertibility of the shares of Series A
convertible preferred stock is currently the subject of a dispute between us and
the holder of these shares. See "Business--Legal Proceedings."
SERIES B CONVERTIBLE PREFERRED STOCK
General
On , our Board of Directors approved the issuance
of Series B convertible preferred stock and the filing of a Certificate of
Designation with the Secretary of State of the State of Delaware for a new
series of preferred stock, $.01 par value, consisting of up to 1,150,000 shares.
This description is only a summary of the terms of the Series B convertible
preferred stock. If you wish to review further information regarding the
preferred stock, see the rights, preferences and limitations set forth in the
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Certificate of Designation, a copy of which is attached as an exhibit to the
registration statement of which this prospectus is a part and which is also
available upon request from the underwriters.
Ranking
The preferred stock will rank senior to our common stock in right of
payment of dividends and distributions upon liquidation, dissolution or winding
up of our company or any future capital stock that ranks junior to the preferred
stock.
Dividends
Holders of shares of preferred stock will be entitled to receive annual
cumulative dividends of $ per share, out of legally available funds,
payable semi-annually on June 30 and December 31 of each year, commencing
June 30, 2000. The dividends will be payable either in cash or in shares of
common stock, in our sole discretion (except that dividends payable upon a
redemption of the preferred stock will be payable only in cash). Dividends will
accrue and are cumulative from the date of first issuance of the preferred stock
and will be payable to holders of record as they appear on our stock books on
the record dates to be fixed by the Board of Directors. The number of shares of
common stock to be issued as a dividend will be based on the average closing
sales price of the common stock on the five trading days immediately preceding
the record date for each dividend. No fractional shares of common stock will be
issued. Instead, we will pay the cash equivalent of any fractional share. We
anticipate that payments of dividends on our preferred stock will be made by
issuing additional shares of common stock for the foreseeable future. This
prospectus covers common stock issued as a dividend on the preferred stock.
Liquidation Preference
In the event of any liquidation, dissolution or winding up of our company,
holders of shares of preferred stock will be entitled to receive, out of legally
available assets, a liquidation preference of $ per share, plus an amount
equal to any accrued and unpaid dividends up to the payment date, before any
payment or distribution will be made to the holders of common stock or any other
capital stock that ranks junior to the preferred stock. Holders of shares of the
preferred stock will not be entitled to receive any liquidation preference on
their shares until the liquidation preference of any senior capital stock has
been paid in full.
Optional Redemption
If at any time after the issuance of preferred stock, the closing price of
the common stock has been $ or more for any 21 consecutive trading days, we
may, at our option, at any time during the five days after the last trading day
in the 21 trading day period, redeem all of the preferred stock for $ in
cash plus accrued and unpaid dividends.
We will also have the option, at any time more than 180 days after the
issuance of the preferred stock, to redeem all of the preferred stock for cash.
The redemption price will depend on the date of the redemption, as follows:
If the date of the redemption is more than 180 days after the issuance of
the preferred stock, we may redeem all of the preferred stock for $ plus the
amount of accrued and unpaid dividends.
If the date of the redemption is more than 12 months after the issuance of
the preferred stock, we may redeem all of the preferred stock for $ plus the
amount of accrued and unpaid dividends.
If the date of the redemption is more than 24 months after the issuance of
the preferred stock, we may redeem all of the preferred stock for $ plus the
amount of accrued and unpaid dividends.
If the date of the redemption is more than 36 months after the issuance of
the preferred stock, we may redeem all of the preferred stock for $ plus the
amount of accrued and unpaid dividends.
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<PAGE>
Conversion
The preferred stock will be convertible into shares of common stock at any
time after it is issued and up to the day before the date of redemption. Shares
of common stock will be issuable upon conversion of a share of preferred stock
at a rate of ( % of the market price of the common stock as of the date of this
prospectus). The conversion rate is subject to adjustment for stock splits,
reverse stock splits and other similar capitalization changes, but there are no
provisions protecting against dilution resulting from the sale of common stock
at a price below the conversion rate or the then-current market price of our
securities. No fractional shares of common stock will be issued. We will pay
cash on the basis of the then-current market price of the common stock in lieu
of issuing fractional shares.
Voting Rights
Generally, the holders of preferred stock will have no voting rights except
as to matters affecting their rights as preferred stockholders or as to matters
upon which they are entitled to vote as a matter of law.
In addition, so long as there are more than shares of preferred stock
outstanding, if dividends on the preferred stock are in arrears and unpaid for
six or more dividend periods (whether or not consecutive), or if we fail to
redeem the preferred stock when a mandatory redemption is required, then the
Board of Directors will be increased by two members, who will be elected by the
holders of the then-outstanding shares of preferred stock. These voting rights
will continue until all dividends in arrears on the preferred stock are paid in
full, the preferred stock is redeemed, or any other default giving rise to the
voting rights is remedied or waived by the holders of a majority of the shares
of preferred stock then outstanding. In any case, the voting rights will
terminate if at any time there are fewer than shares of preferred stock
outstanding. After the voting rights are terminated, the terms of the directors
elected by the preferred stockholders will terminate and the size of the Board
of Directors will be reduced by two members.
In connection with any vote where holders of preferred stock have the right
to vote, each outstanding share of preferred stock will be entitled to one vote.
PUBLIC WARRANTS
There are currently outstanding public warrants to purchase 1,840,000
shares of our common stock at a price of $4.80 per share at any time until May
13, 2003.
We may redeem the public warrants at any time, upon notice of not less than
30 days, at a price of $.10 per public warrant, provided that the closing bid
quotation of our common stock on all 20 trading days ending on the third day
prior to the day on which we give notice has been at least $7.20. The public
warrant holders shall have the right to exercise their public warrants until the
close of business on the date fixed for redemption.
DELAWARE ANTI-TAKEOVER LAW
We are subject to the provisions of Section 203 of the Delaware General
Corporation Law. In general, that law prohibits a Delaware corporation from
engaging in a broad range of business combinations, including mergers, asset
sales and other financial transactions, with a person or his affiliate or
associate who owns 15% or more of the voting stock of the corporation for a
period of three years from the date that the person became an interested
stockholder.
TRANSFER AGENT AND WARRANT AGENT
The transfer agent and registrar for our common stock and Series B
convertible preferred stock and warrant agent for the public warrants is
.
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CERTAIN FEDERAL INCOME TAX CONSIDERATIONS
The following discussion is a summary of the material United States Federal
income tax considerations relevant to the purchase, ownership, redemption and
other disposition of shares of our preferred stock and common stock by their
holders, but does not purport to be a complete analysis of the relevant tax
issues. The discussion is based upon the Internal Revenue Code of 1986, as
amended (Code), Treasury regulations, Internal Revenue Service (IRS) rulings and
pronouncements and judicial decisions in effect as of the date hereof, all of
which are subject to change at any time, and any such change may be applied
retroactively in a manner that could adversely affect a holder of any such
stock. The discussion does not address all of the federal income tax
consequences that may be relevant to a holder in light of a holder's particular
circumstances or to holders subject to special rules, such as certain financial
institutions, tax-exempt organizations, insurance companies, dealers in
securities, foreign investors and persons holding either or both of preferred
stock and the common stock as part of a "straddle," "hedge" or "conversion
transaction." No information is provided with respect to foreign, state or local
tax laws, estate or gift tax considerations, or other tax laws that may be
applicable to holders subject to particular circumstances or special rules. The
discussion deals only with investors who hold preferred stock and common stock
as "capital assets" within the meaning of section 1221 of the Code.
DISTRIBUTIONS ON STOCK
Distributions on the preferred stock and the common stock will be taxable
as ordinary income to the extent that the amount distributed does not exceed our
current or accumulated earnings and profits (as determined for federal income
tax purposes). To the extent that the amount of distributions exceeds our
current or accumulated earnings and profits (as determined for federal income
tax purposes), a distribution will be treated as a return of capital, thus
reducing the holder's adjusted tax basis in such stock. The amount of any such
excess distribution that is greater than the holder's adjusted basis in the
stock with respect to which a distribution is made will be taxed as capital gain
and will be long-term capital gain if the holder's holding period for such stock
exceeds one year. If a distribution on the preferred stock is made in common
stock, the basis of the common stock will be its fair market value on the date
of distribution and its holding period will begin on the date of distribution.
For purposes of the remainder of this discussion, the term "dividend" refers to
a distribution taxed as ordinary income as described above, unless the context
indicates otherwise.
Dividends on the preferred stock and the common stock received by corporate
holders will be eligible for the 70% dividends-received deduction under
Section 243 of the Code, subject to limitations generally applicable to the
dividends-received deductions, including those contained in Sections 246 and
246A of the Code and the corporate alternative minimum tax. The 70%
dividends-received deduction may be reduced if a holder's shares with respect to
which a dividend was received are "debt financed." In addition, the availability
of the 70% dividends received deduction is subject to the satisfaction of
holding period requirements under Section 246(c) of the Code (generally 45 days
for the common stock and 90 days for the preferred stock). The length of time
that a holder is deemed to have held stock for these purposes is reduced for
periods during which the holder's risk of loss with respect to the stock is
diminished by reason of the existence of certain options, contracts to sell,
short sales or other similar transactions. Section 246(c) of the Code also
denies the 70% dividends received deduction to the extent that a corporate
holder is under an obligation, with respect to substantially similar or related
property, to make payments corresponding to the dividend received. Under Section
246(b) of the Code, the aggregate dividends-received deductions allowed
generally may not exceed 70% of the taxable income, with certain adjustments, of
the corporate stockholder.
In general, under Section 1059 of the Code, the tax basis of stock that has
been held by a corporate stockholder for two years or less (determined as of the
earliest of the date on which we declare, announce or agree to the payment of an
actual or constructive dividend) is reduced (but not below zero) by the
non-taxed portion of an "extraordinary dividend" for which a dividends-received
deduction is allowed. In addition, such corporate holder will recognize gain in
the year in which the extraordinary dividend is received to the extent that its
tax basis would have been reduced below zero but for the foregoing limitation.
Generally, an "extraordinary dividend" is a dividend that (i) equals or exceeds,
in the case of preferred stock, 5% of the holder's basis in such stock or 10% in
the case of any other stock (computed by treating all dividends having
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ex-dividend dates within an 85-day period as a single dividend) or (ii) exceeds
20% of the holder's adjusted basis in its stock (treating all dividends having
ex-dividend dates within a 365-day period as a single dividend). If an election
is made by a holder, under certain circumstances in applying these tests, the
fair market value of its stock as of the day before the ex-dividend date may be
substituted for the holder's basis.
An "extraordinary dividend" will also include amounts received in the case
of certain redemptions of the preferred stock and the common stock that are
non-pro rata as to all stockholders, without regard to the period the holder
held the stock.
Special rules apply with respect to "qualified preferred dividends." A
qualified preferred dividend is any fixed dividend payable with respect to
preferred stock which (i) provides for fixed preferred dividends payable no less
often than annually and (ii) is not in arrears as to dividends when acquired,
provided the actual rate of return as determined under Section 1059(e)(3) of the
Code on such stock does not exceed 15%. A qualified preferred dividend will not
be treated as an extraordinary dividend if the taxpayer holds the stock for more
than five years. In addition, if the taxpayer disposes of the stock before it
has been held for more than five years, the aggregate reduction in basis will
not exceed the excess of the qualified preferred dividends paid on such stock
during the period held by the taxpayer over the qualified preferred dividends
which would have been paid during such period on the basis of the stated rate of
return as determined under Section 1059(e)(3) of the Code. The length of time
that a taxpayer is deemed to have held stock for purposes of the extraordinary
dividend rules is determined under principles similar to those applicable for
purposes of the dividends-received deduction discussed above.
CONVERSION OF PREFERRED STOCK
Conversion of the preferred stock into common stock will not result in the
recognition of gain or loss (except with respect to cash received in lieu of
fractional shares). The holder's adjusted tax basis in the common stock received
upon conversion would be equal to the holder's tax basis in the shares of
preferred stock converted, reduced by the portion of such basis allocable to the
fractional share interest exchanged for cash. The holding period for the common
stock received upon conversion would include the holding period of the preferred
stock converted.
REDEMPTION OR OTHER DISPOSITION OF STOCK
In the event we exercise our right to redeem the preferred stock, the
redemption proceeds will generally be treated as a sale or exchange if the
holder does not own, actually or constructively, within the meaning of Section
318 of the Code, any or our stock other than the stock redeemed. If a holder
does own, actually or constructively, such other stock, a redemption of stock
may be treated as a dividend to the extent of our current or accumulated
earnings and profits (as determined for federal income tax purposes). Such
dividend treatment will not apply and the redemption will be treated as a sale
or exchange if the redemption is "substantially disproportionate" with respect
to the holder under Section 302(b)(2) of the Code or is "not essentially
equivalent to a dividend" with respect to the holder under
Section 302(b)(1) of the Code. A distribution to a holder will be "not
essentially equivalent to a dividend" if it results in a "meaningful reduction"
in the holder's stock interest in our company. A redemption of stock for cash
that results in a reduction in the proportionate interest in our company (taking
into account any constructive ownership) of a holder whose relative stock
interest in our company is minimal and who exercises no control over corporate
affairs may be regarded as a "meaningful reduction" in the holder's stock
interest in our company. In all cases, amounts of cash received upon redemption
of the preferred stock which represents declared and unpaid dividends will be
subject to taxation in the manner discussed under "Distributions on Stock"
above.
If a redemption of stock is treated as a distribution that is taxable as a
dividend, the amount of the distribution will be measured by the amount received
by the holder. The holder's adjusted tax basis in the redeemed stock will be
transferred to his remaining stock holdings in our company. If the holder does
not retain any stock ownership, the holder may lose such basis entirely.
Upon a redemption of stock that is not treated as a distribution taxable as
a dividend or upon a sale or other disposition of stock, the holder will
recognize capital gain or loss equal to the difference between the amount of
cash and the fair market value of property received and the holder's adjusted
tax basis in the stock
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that is redeemed, sold or disposed of. Such gain or loss would be long-term
capital gain or loss if the holding period for the stock exceeded one year. For
corporate taxpayers, long-term capital gains are taxed at the same rate as
ordinary income. For individual taxpayers, net capital gains (the excess of the
taxpayer's net long-term capital gains over his net short-term capital losses)
are subject to a maximum tax rate of 20% if the stock is held for more than one
year. The deductibility of capital losses are restricted and, in general, may
only be used to reduce capital gains to the extent thereof. However, individual
taxpayers generally may deduct annually $3,000 of capital losses in excess of
their capital gains. Capital losses which cannot be utilized because of the
aforementioned limitation are, for corporate taxpayers carried back three years
and, in most circumstances, carried forward for five years; for individual
taxpayers, capital losses may only be carried forward without a time limitation.
If the holder receives common stock on the redemption of Preferred Stock,
the basis of the common stock will be its fair market value on the date of
distribution and its holding period will begin on the date of distribution.
BACKUP WITHHOLDING
A holder of preferred stock or common stock may be subject to backup
withholding at a rate of 31% with respect to dividends thereon and gross
proceeds upon sale, exchange or retirement of such stock, unless such holder (i)
is a corporation or other exempt recipient and, when required, demonstrates that
fact, or (ii) provides a correct taxpayer identification number, certifies, when
required, that such holder is not subject to backup withholding, and otherwise
complies with applicable requirements of the backup withholding rules. Backup
withholding is not an additional tax; any amounts so withheld are creditable
against the holder's federal income tax, provided the required information is
provided to the IRS. A holder who does not provide us with a correct taxpayer
identification number may be subject to penalties imposed by the IRS. Holders
should consult their tax advisors regarding their qualification for exemption
from backup withholding and the procedure for obtaining any applicable
exemption.
EACH PROSPECTIVE HOLDER OF CONVERTIBLE PREFERRED STOCK OR COMMON STOCK SHOULD
CONSULT HIS OWN TAX ADVISOR AS TO THE PARTICULAR TAX CONSEQUENCES TO HIM OF
HOLDING OR DISPOSING OF SUCH STOCK INCLUDING THE APPLICABILITY AND EFFECT OF ANY
STATE, LOCAL, OR FOREIGN INCOME TAX LAWS, AND ANY RECENT OR PROSPECTIVE CHANGES
IN APPLICABLE TAX LAWS.
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SHARES ELIGIBLE FOR FUTURE SALE
On , we had approximately 4,144,078 shares of common stock
outstanding, of which shares are freely tradable without
restriction under the Securities Act, except for any shares purchased by any of
our affiliates, as that term is defined in Rule 144 under the Securities Act.
The remaining shares are restricted securities within the meaning of
Rule 144 of the Securities Act. All 1,000,000 shares of our Series B preferred
stock and the shares of common stock into which they may be
converted are being registered with this offering and will be freely tradable
without restrictions. The restricted securities generally may not be sold unless
they are registered under the Securities Act or are sold pursuant to an
exemption from registration, such as the exemption provided by Rule 144 under
the Securities Act.
We have granted registration rights with respect to shares. We
also have granted registration rights to the Representative with respect to the
Representative's warrants, shares of preferred stock issuable upon exercise of
the Representative's warrants and the underlying shares of common stock issuable
upon conversion of the preferred stock. These rights remain exercisable for a
period of seven years after the closing of this offering.
Our officers and directors will enter into lock-up agreements prior to the
effective date of this registration statement pursuant to which they will agree
not to offer or sell any shares of our common stock or preferred stock, or any
securities convertible into shares of our common stock or preferred stock, for a
period of twelve months following the date of this prospectus without the prior
written consent of the Representative.
In general, under Rule 144 as currently in effect, any person (or persons
whose shares are aggregated) who has beneficially owned shares for a period of
at least one year is entitled to sell, within any three-month period, a number
of shares that does not exceed the greater of
o 1% of the then outstanding shares of common stock; or
o the average weekly trading volume in the common stock during the
four calendar weeks immediately preceding the filing of notice on
Form 144 or, if no notice is required, during the four calendar
weeks immediately preceding the sale, provided that public
information as required by Rule 144 is then available and that the
seller complies with manner of sale provisions and notice
requirements.
The volume limitations described above, but not the one-year holding
period, also apply to sales of our non-restricted securities by our affiliates.
A person who is not an affiliate, has not been an affiliate within three
months before the sale and has beneficially owned the restricted securities for
at least two years is entitled to sell the restricted shares under Rule 144
without regard to any of the limitations described above.
Before this offering, there has been no public market for our preferred
stock. We can not predict the effect, if any, that market sales of our preferred
stock or the availability for sale of the common stock into which the preferred
stock may be converted will have on the market prices of our securities
prevailing from time to time. Nevertheless, the possibility that a substantial
number of shares may be sold in the public market may adversely affect the
prevailing market prices for our securities and could impair our ability to
raise capital through future sales of our securities.
46
<PAGE>
UNDERWRITING
Subject to the terms and conditions of the underwriting agreement, the form
of which has been filed as an exhibit to the registration statement of which
this prospectus is a part, the underwriters named below, acting through Prime
Charter as Representative, have severally agreed to purchase from us, and we
have agreed to sell, an aggregate of 1,000,000 shares of preferred stock. The
underwriters' obligations to pay for and accept delivery of the shares of
preferred stock are subject to certain conditions set forth in the underwriting
agreement, including, but not limited to delivery of a comfort letter from our
auditors, receipt of an opinion of our counsel and other closing conditions. The
underwriters are committed to purchase all of the shares of preferred stock if
any shares are purchased. If one or more underwriters does not purchase the
number of shares which it has agreed to purchase, the commitments of
non-defaulting underwriters may be increased on a pro rata basis, except that
the non-defaulting underwriters will not be obligated to purchase any shares if
the aggregate number of additional shares exceeds 10% of the total number of
shares offered.
<TABLE>
<CAPTION>
UNDERWRITER NUMBER OF SHARES
- -------------------------------------------------------------------------------------- ----------------
<S> <C>
Prime Charter Ltd.....................................................................
Total............................................................................... 1,000,000
----------
----------
</TABLE>
The underwriters have advised us that they propose to offer the shares of
preferred stock at the public offering price set forth on the cover page of this
prospectus and may offer the shares to certain dealers who are members of the
NASD at that price less a concession not in excess of $ per share. The
underwriters may allow, and such dealers may reallow, a concession not in excess
of $ per share to other dealers that are members of the NASD. Until
completion of this offering, the public offering price, the concession and the
reallowance will not be changed.
We have agreed to pay the Representative a non-accountable expense
allowance equal to 3% of the aggregate offering price of the shares of preferred
stock sold in this offering (including any shares of preferred stock purchased
pursuant to the underwriters' over-allotment option), of which we have paid
$100,000, to cover some of the due diligence expenses and underwriting costs
related to this offering. We have also agreed to pay the representative's fees
and expenses and the fees and expenses of the representatives' counsel up to a
maximum of $ .
We have agreed to indemnify the underwriters against liabilities under the
Securities Act in connection with this offering.
The underwriting agreement provides that the Representative, during the
five years after the date of this prospectus, has the right to designate a
person to observe the meetings of our board of directors or to require us to use
our best efforts to elect the Representative's nominee to our board of
directors.
We have agreed to sell to the Representative or its designees, for nominal
consideration, Representative's warrants to purchase an aggregate of 100,000
shares of preferred stock. The shares of preferred stock issuable upon exercise
of the Representative's warrants will be identical to the shares of stock
offered to the public. The Representative's warrants will be exercisable for a
four-year period commencing one year after the date of the consummation of this
offering at a per share exercise price of $ per share (120% of the public
offering price of the preferred stock). The Representative's warrants, the
shares of preferred stock issuable upon exercise of the Representative's
warrants and the shares of common stock issuable upon conversion of the
preferred shares will be restricted from sale, transfer, assignment or
hypothecation for a period of one year from the effective date of this
prospectus, except to officers or partners of the Representative. During the
six-year period beginning one year from the date of the consummation of this
offering, the holder of the Representative's warrants may require us on one
occasion only to register for resale to the public the shares of preferred stock
issued or issuable upon exercise of the Representative's warrants. In addition,
during the six-year period beginning one year from the consummation of this
offering, we have agreed to include these shares of preferred stock in any
appropriate registration statement we may file. The Representative's warrants
will contain anti-dilution provisions providing for appropriate adjustment of
the exercise price and number of shares that may be purchased upon the
occurrence of certain events. During the exercise period, the holders of the
Representative's warrants will have the opportunity to profit from a rise in the
market price of our securities, which will dilute the interests of our
47
<PAGE>
securityholders. We expect the Representative's warrants will be exercised when
we would in all likelihood be able to obtain any needed capital on terms more
favorable to us than those provided in the Representative's warrants. Any profit
realized by the underwriters on the sale of the Representative's warrants, the
underlying preferred stock or the common stock issuable upon conversion of the
preferred shares may be deemed additional underwriting compensation.
We have granted to the underwriters an option, exercisable during the
45-day period after the date of this prospectus, to purchase up to 150,000
additional shares of preferred stock at the public offering price, less
underwriting discounts and commissions and a pro rata portion of the
non-accountable expense allowance. The underwriters may exercise this option
solely to cover over-allotments, if any, made in the sale of the shares of
preferred stock. Generally, to the extent that this option is exercised, each
underwriter will become obligated to purchase approximately the same percentage
of shares of preferred stock as the percentage of shares of preferred stock it
was originally to purchase as set forth above. If the underwriters exercise this
over-allotment option in full, the total price to the public would be $ , the
total underwriting discounts and commissions would be $ , and the total
proceeds, before payment of the expenses of this offering, would be $ .
Prior to this offering, there has been no public market for the preferred
stock. Accordingly, the public offering price for the preferred stock was
determined by negotiation between us and the Representative. Among the factors
considered in determining the public offering price were the experience of
management, the economic conditions of our industry in general, the market price
and volatility of our common stock, the general condition of the equity
securities market, the demand for similar securities of companies considered
comparable to us and other relevant factors. The prices at which the preferred
stock will sell in the public market after this offering may be lower than the
price at which the shares of preferred stock are sold by the underwriters.
Until the distribution of preferred stock in this offering is completed,
SEC rules may limit the ability of the underwriters and certain selling group
members to bid for and purchase the preferred stock. As an exception to these
rules, the underwriters are permitted to engage in certain transactions that
stabilize the price of the preferred stock. Such transactions consist of bids or
purchases for the purpose of maintaining the price of the preferred stock. If
the underwriters create a short position in the preferred stock in connection
with this offering (if they sell more shares of preferred stock than are set
forth on the cover page of this prospectus), the underwriters may reduce the
short position by purchasing shares of preferred stock in the open market. The
Representative may also elect to reduce any short position by exercising all or
part of the over-allotment option described above. In addition, the
Representative may impose a penalty bid on certain underwriters and selling
group members. This means that if the Representative purchases shares of
preferred stock in the open market to reduce the underwriters' short position or
to stabilize the price of the preferred stock, it may reclaim the amount of the
selling concession from the underwriters and selling group members that sold
those shares as part of this offering. In general, purchases of a security for
the purpose of stabilization or to reduce a short position could cause price of
the security to be higher than it might be in the absence of such purchases. The
imposition of a penalty bid might also have an effect on the price of a security
to the extent that it discouraged resales of that security. Neither we nor any
of the underwriters makes any representation or predictions as to the direction
or magnitude of any effect that the transactions described above may have on the
price of the preferred stock. In addition, the Representative or any underwriter
may discontinue these transactions at any time without notice.
The underwriters have informed us that sales to any account over which the
underwriters exercise discretionary authority will not exceed 1% of this
offering.
LEGAL MATTERS
Tenzer, Greenblatt LLP, New York, New York will pass upon the validity of
the preferred stock offered with this prospectus and the common stock issuable
upon conversion of the preferred stock. Certain legal matters in connection with
this offering have been passed upon for the Representative by Proskauer
Rose LLP.
48
<PAGE>
EXPERTS
Our financial statements as of December 31, 1998 and for the two years then
ended included in this prospectus have been included in reliance upon the report
of BDO Seidman, LLP, independent accountants, given upon the authority of that
firm as experts in accounting and auditing.
The financial statements of WOWfactor, Inc. as of December 31, 1997 and for
the two years then ended included in this prospectus have been included in
reliance upon the report of BDO Seidman, LLP, independent accountants, given
upon the authority of that firm as experts in accounting and auditing.
The financial statements of Roxy Systems, Inc. d/b/a Magic Carpet as of
December 31, 1997 and for the year then ended included in this prospectus have
been included in reliance upon the report of BDO Seidman, LLP, independent
accountants, given upon the authority of that firm as experts in accounting and
auditing.
The financial statements of US Online, Inc. as of December 31, 1997 and for
the year then ended included in this prospectus have been included in reliance
upon the report of Joseph J. Repko, CPA given upon his authority as expert in
accounting and auditing.
The financial statements of Webspan, Inc. as of December 31, 1997 and for
the year then ended included in this prospectus have been included in reliance
upon the report of Steven H. Mermelstein, CPA, given upon his authority as
expert in accounting and auditing.
ADDITIONAL INFORMATION
We are subject to the reporting requirements of the Securities Exchange Act
of 1934, as amended, and file reports, proxy statements and other information
with the SEC. These reports, proxy statements and other information may be
inspected and copied at the public reference facilities maintained by the SEC at
450 Fifth Street, N.W., Washington, D.C. 20549 and at the SEC's regional offices
located at the Northwestern Atrium Center, 500 West Madison Street, Suite 1400,
Chicago, IL 60661 and Seven World Trade Center, 13th Floor, New York, New York
10048. You can obtain copies of these materials from the Public Reference
Section of the SEC upon payment of fees prescribed by the SEC. You may obtain
information on the operation of the Public Reference Room by calling the SEC at
1-800-SEC-0330. The SEC's Website contains reports, proxy and information
statements and other information regarding registrants that file electronically
with the SEC. The address of that site is http://www.sec.gov.
We have filed a registration statement on Form SB-2 with the SEC under the
Securities Act with respect to the securities offered in this prospectus. This
prospectus, which is filed as part of a registration statement, does not contain
all of the information set forth in the registration statement, some portions of
which have been omitted in accordance with the SEC's rules and regulations.
Statements made in this prospectus as to the contents of any contract, agreement
or other document referred to in this prospectus are not necessarily complete
and are qualified in their entirety by reference to each such contract,
agreement or other document which is filed as an exhibit to the registration
statement. The registration statement may be inspected without charge at the
public reference facilities maintained by the SEC, and copies of such materials
can be obtained from the Public Reference Section of the SEC at prescribed
rates.
49
<PAGE>
FRONTLINE COMMUNICATIONS CORPORATION
CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
-----------
<S> <C>
Report of independent certified public accountants................................................. F-3
Consolidated financial statements:
Balance sheet at December 31, 1998............................................................... F-4
Statements of operations for the years ended December 31, 1997 and 1998.......................... F-5
Statements of stockholders' equity (deficit) for the years ended December 31, 1997
and 1998...................................................................................... F-6
Statements of cash flows for the years ended December 31, 1997 and 1998.......................... F-7
Notes to consolidated financial statements....................................................... F-8 - F-15
</TABLE>
FRONTLINE COMMUNICATIONS CORPORATION
UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<S> <C>
Balance sheet at September 30, 1999 (unaudited).................................................... F-16
Statements of operations (unaudited) for the nine months ended September 30, 1999 and 1998....... F-17
Statements of cash flows (unaudited) for the nine months ended September 30, 1999 and 1998....... F-18
Notes to condensed consolidated financial statements (unaudited)................................... F-19 - F-21
Unaudited Pro Forma Combined Statement of Operations for the year ended December 31, 1998
Information................................................................................... F-22
Unaudited Pro Forma Combined Statement of Operations for the year ended December 31, 1998........ F-23
</TABLE>
WOWFACTOR, INC.
FINANCIAL STATEMENTS
<TABLE>
<S> <C>
Report of independent certified public accountants................................................. F-24
Balance sheet at December 31, 1997............................................................... F-25
Statements of operations for the years ended December 31, 1997 and 1996.......................... F-26
Statements of stockholders' deficit for the years ended December 31, 1997 and 1996............... F-27
Statements of cash flows for the years ended December 31, 1997 and 1996.......................... F-28
Summary of business and significant accounting policies.......................................... F-29
Notes to financial statements.................................................................... F-30
Statements of Operations (unaudited) for the nine months ended September 30, 1998
and 1997...................................................................................... F-31
Statement of Stockholders' deficit (unaudited) for the nine months ended September 30, 1998...... F-32
Statements of cash flows (unaudited) for the nine months ended September 30, 1998
and 1997...................................................................................... F-33
Notes to financial statements (unaudited)........................................................ F-34
</TABLE>
ROXY SYSTEMS, INC., D/B/A MAGIC CARPET
FINANCIAL STATEMENTS
<TABLE>
<S> <C>
Report of independent certified public accountants................................................. F-35
Balance sheet at December 31, 1997............................................................... F-36
Statement of operations for the year ended December 31, 1997..................................... F-37
Statement of stockholder's deficit for the year ended December 31, 1997.......................... F-38
Statement of cash flows for the year ended December 31, 1997..................................... F-39
Summary of business and significant accounting policies.......................................... F-40
Notes to financial statements.................................................................... F-41
Statements of operations (unaudited) for the nine months ended September 30, 1998 and 1997....... F-42
Statement of stockholders' deficit (unaudited) for the nine months ended September 30, 1998...... F-43
Statements of cash flows (unaudited) for the nine months ended September 30, 1998 and 1997....... F-44
Notes to financial statements (unaudited)........................................................ F-45
</TABLE>
F-1
<PAGE>
U.S. ONLINE, INC.
COMBINED FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
-----------
<S> <C>
Independent Auditor's Report....................................................................... F-46
Combined Balance Sheet at December 31, 1997...................................................... F-47
Combined Statement of Operations for the year ended December 31, 1997............................ F-48
Combined Statement of Changes in Shareholders' Equity for the year ended December 31, 1997....... F-49
Combined Statement of Cash Flows for the year ended December 31, 1997............................ F-50
Combined Notes to Financial Statements........................................................... F-51 - F-58
Supplemental Information:
Combined Cost of Revenue for the year ended December 31, 1997.................................... F-59
Combined Operating Expenses for the year ended December 31, 1997................................. F-60
</TABLE>
U.S. ONLINE, INC.
FINANCIAL STATEMENTS
<TABLE>
<S> <C>
Report of Independent Certified Public Accountants................................................. F-61
Balance Sheet at December 31, 1996............................................................... F-62
Statement of Operations for the year ended December 31, 1996..................................... F-63
Statement of Changes in Shareholders' Equity for the year ended December 31, 1996................ F-64
Statement of Cash Flows for the year ended December 31, 1996..................................... F-65
Notes to Financial Statements.................................................................... F-66 - F-70
Supplementary Information:
Report of Independent Certified Public Accountants on Supplementary Information.................. F-71
Cost of Revenue for the year ended December 31, 1996............................................. F-72
Operating Expenses for the year ended December 31, 1996.......................................... F-73
</TABLE>
U.S. ONLINE, INC.
FINANCIAL STATEMENTS
<TABLE>
<S> <C>
Statements of Operations (unaudited) for the nine months ended September 30, 1998
and 1997......................................................................................... F-74
Statement of Stockholders' Deficit (unaudited) for the nine months ended September 30, 1998........ F-75
Statements of Cash Flows (unaudited) for the nine months ended September 30, 1998
and 1997......................................................................................... F-76
Notes to Financial Statements (unaudited).......................................................... F-77
</TABLE>
WEBSPAN, INC.
FINANCIAL STATEMENTS
<TABLE>
<S> <C>
Independent Auditor's Report....................................................................... F-78
Balance Sheets at December 31, 1997 and 1996..................................................... F-79
Statements of Operations for the twelve months ended December 31, 1997 and 1996.................. F-80
Statements of Stockholders' Deficit for the twelve months ended December 31, 1997 and 1996....... F-81
Statements of Cash Flows for the twelve months ended December 31, 1997 and 1996.................. F-82
Notes to Financial Statements.................................................................... F-83
Statements of Operations (unaudited) for the nine months ended September 30, 1998
and 1997......................................................................................... F-84
Statement of Stockholders Deficit (unaudited) for the nine months ended September 30, 1998......... F-85
Statements of Cash Flows (unaudited) for the nine months ended September 30, 1998
and 1997......................................................................................... F-86
Notes to Financial Statements (unaudited).......................................................... F-87
</TABLE>
F-2
<PAGE>
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
To the Board of Directors of
Frontline Communications Corporation
We have audited the accompanying consolidated balance sheet of Frontline
Communications Corporation (the "Company") as of December 31, 1998, and the
related consolidated statements of operations, stockholders' equity (deficit)
and cash flows for the years ended December 31, 1997 and 1998. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of the Company as of
December 31, 1998, and the results of its operations and its cash flows for the
years ended December 31, 1997 and 1998, in conformity with generally accepted
accounting principles.
BDO SEIDMAN, LLP
New York, New York
March 12, 1999,
except for Note 13
which is as of March 26, 1999
F-3
<PAGE>
FRONTLINE COMMUNICATIONS CORPORATION
CONSOLIDATED BALANCE SHEET
DECEMBER 31, 1998
<TABLE>
<S> <C>
ASSETS
Current:
Cash and cash equivalents.................................................................... $ 1,994,711
Accounts receivable, less allowances for doubtful accounts of $5,526......................... 3,327
Notes receivable from stockholders (Note 3).................................................. 143,800
Prepaid expenses and other................................................................... 58,281
-----------
Total current assets...................................................................... 2,200,119
Property and equipment, net (Note 5)........................................................... 981,785
Intangibles (Note 4)........................................................................... 3,081,326
Other.......................................................................................... 23,173
-----------
$ 6,286,403
-----------
-----------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable............................................................................. $ 163,805
Accrued expenses............................................................................. 137,357
Deferred revenue............................................................................. 614,852
Current portion of capitalized lease obligations (Note 7).................................... 38,569
-----------
Total current liabilities................................................................. 954,583
Notes payable to stockholders (Note 6)......................................................... 168,600
Capitalized lease obligations--net of current portion (Note 7)................................. 115,833
-----------
Total liabilities......................................................................... 1,239,016
-----------
Commitments and contingencies (Notes 8, 9 and 12)
Stockholders' equity (Notes 1, 2, 9, 10 and 12):
Preferred stock, $.01 par value, 1,000,000 shares authorized, 10 issued and outstanding...... --
Common stock, $.01 par value, 10,000,000 shares authorized, 3,361,364 issued................. 33,614
Additional paid-in capital................................................................... 9,121,533
Accumulated deficit.......................................................................... (3,843,647)
-----------
5,311,500
Treasury stock, at cost, 231,520 shares...................................................... (264,113)
-----------
Total stockholders' equity................................................................ 5,047,387
-----------
$ 6,286,403
-----------
-----------
</TABLE>
See accompanying notes to consolidated financial statements.
F-4
<PAGE>
FRONTLINE COMMUNICATIONS CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------
1997 1998
----------- -----------
<S> <C> <C>
Revenues............................................................................ $ 321,706 $ 574,964
----------- -----------
Costs and expenses:
Cost of revenues.................................................................. 215,199 586,760
Selling, general and administrative............................................... 533,054 1,412,935
Depreciation and amortization..................................................... 44,558 220,575
Non-cash compensation charge (Note 1)............................................. 1,537,000 175,137
----------- -----------
(2,329,811) (2,395,407)
----------- -----------
Loss from operations........................................................... (2,008,105) (1,820,443)
Other income (expense):
Interest income................................................................... -- 108,194
Interest expense.................................................................. (28,421) (31,850)
Other............................................................................. (891) --
----------- -----------
Net loss............................................................................ $(2,037,417) $(1,744,099)
----------- -----------
----------- -----------
Loss per share--basic and diluted................................................... $ (1.67) $ (.72)
----------- -----------
----------- -----------
Weighted average number of shares outstanding--basic and diluted.................... 1,218,000 2,435,035
----------- -----------
----------- -----------
</TABLE>
See accompanying notes to consolidated financial statements.
F-5
<PAGE>
FRONTLINE COMMUNICATIONS CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
YEARS ENDED DECEMBER 31, 1997 AND 1998
<TABLE>
<CAPTION>
PREFERRED STOCK COMMON STOCK ADDITIONAL
------------------- ------------------- PAID-IN ACCUMULATED
SHARES AMOUNT SHARES AMOUNT CAPITAL DEFICIT
--------- ------- --------- ------- ---------- -----------
<S> <C> <C> <C> <C> <C> <C>
Balance, December 31, 1996........................ -- $ -- -- $ -- $ 6,000 $ (62,131)
Frontline reorganization (Note 2)................. -- -- 640,000 6,400 (325,000) --
Shares issued as compensation (Note 9)............ -- -- 100,000 1,000 199,000 --
Shares issued as compensation (Note 1)............ -- -- 820,000 8,200 1,230,000 --
Officer salary contributed to capital............. -- -- -- -- 3,000 --
Private placement sale of shares
at $2 per share................................. -- -- 200,000 2,000 398,000 --
Common stock options issued for services
(Note 9)........................................ -- -- -- -- 108,000 --
Warrants issue to debtholders (Note 6)............ -- -- -- -- 24,000 --
Recapitalization (4-for-5 reverse split)
(Note 10)....................................... -- -- (352,000) (3,520) 3,520 --
Net loss.......................................... -- -- -- -- -- (2,037,417)
--------- ------- --------- ------- ---------- -----------
Balance, December 31, 1997........................ -- -- 1,408,000 14,080 1,646,520 (2,099,548)
Payment of stock subscription..................... -- -- -- -- -- --
Initial public offering of common stock,
net (Note 1).................................... -- -- 1,840,000 18,400 5,792,005 --
Purchase of treasury stock, at cost
(231,520 shares) (Note 12)...................... -- -- -- -- -- --
Common stock options issued for
services (Note 9)............................... -- -- -- -- 175,137 --
Preferred shares issued for acquisition
of subsidiary (Note 4).......................... 10 -- -- -- 1,000,000 --
Shares issued to acquire business
(Note 4)........................................ -- -- 113,364 1,134 507,871 --
Net loss.......................................... -- -- -- -- -- (1,744,099)
--------- ------- --------- ------- ---------- -----------
Balance, December 31, 1998........................ 10 $ -- 3,361,364 $33,614 $9,121,533 $(3,843,647)
--------- ------- --------- ------- ---------- -----------
--------- ------- --------- ------- ---------- -----------
<CAPTION>
TOTAL
STOCK TREASURY STOCKHOLDERS'
SUBSCRIPTIONS STOCK, AT EQUITY
RECEIVABLE COST (DEFICIT)
------------- --------- -------------
<S> <C> <C> <C>
Balance, December 31, 1996........................ $ -- $ -- $ (56,131)
Frontline reorganization (Note 2)................. -- -- (318,600)
Shares issued as compensation (Note 9)............ -- -- 200,000
Shares issued as compensation (Note 1)............ (6,000) -- 1,232,200
Officer salary contributed to capital............. -- -- 3,000
Private placement sale of shares
at $2 per share................................. -- -- 400,000
Common stock options issued for services
(Note 9)........................................ -- -- 108,000
Warrants issue to debtholders (Note 6)............ -- -- 24,000
Recapitalization (4-for-5 reverse split)
(Note 10)....................................... -- --
Net loss.......................................... -- -- (2,037,417)
------- --------- -----------
Balance, December 31, 1997........................ (6,000) -- (444,948)
Payment of stock subscription..................... 6,000 -- 6,000
Initial public offering of common stock,
net (Note 1).................................... -- -- 5,810,405
Purchase of treasury stock, at cost
(231,520 shares) (Note 12)...................... -- (264,113) (264,113)
Common stock options issued for
services (Note 9)............................... -- -- 175,137
Preferred shares issued for acquisition
of subsidiary (Note 4).......................... -- -- 1,000,000
Shares issued to acquire business
(Note 4)........................................ -- -- 509,005
Net loss.......................................... -- -- (1,744,099)
------- --------- -----------
Balance, December 31, 1998........................ $ -- $(264,113) $ 5,047,387
------- --------- -----------
------- --------- -----------
</TABLE>
See accompanying notes to consolidated financial statements.
F-6
<PAGE>
FRONTLINE COMMUNICATIONS CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------
1997 1998
----------- -----------
<S> <C> <C>
Cash flows from operating activities:
Net loss.......................................................................... $(2,037,417) $(1,744,099)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization.................................................. 44,558 220,575
Officer salary contributed to capital.......................................... 3,000 --
Noncash compensation charge.................................................... 1,537,000 175,137
Allowance for doubtful accounts................................................ 16,666 (11,140)
Accounts receivable write-off.................................................. 8,605 --
Changes in assets and liabilities, net of effects from acquisitions in 1998:
Accounts receivable.......................................................... (35,169) 25,561
Notes receivable from stockholders........................................... -- (143,800)
Prepaid expenses and other................................................... (5,479) (49,754)
Other assets................................................................. (16,354) (5,206)
Accounts payable and accrued expenses........................................ 300,816 (58,012)
Interest due on stockholders loans........................................... 19,452 --
Deferred revenue............................................................. 24,385 46,467
----------- -----------
Net cash used in operating activities..................................... (139,937) (1,544,271)
----------- -----------
----------- -----------
Cash flows from investing activities:
Acquisition of property and equipment............................................. (176,304) (423,297)
Acquisition of businesses......................................................... -- (1,481,820)
----------- -----------
Net cash used in investing activities..................................... (176,304) (1,905,117)
----------- -----------
----------- -----------
Cash flows from financing activities:
Repayments of stockholder loans................................................... (45,266) (378,989)
Proceeds from stockholder loans, net.............................................. 230,000 --
Proceeds from sale of common stock................................................ 400,000 6,000
Proceeds from initial public offering of common stock............................. -- 6,041,476
Registration costs................................................................ (231,071) --
Payments to acquire treasury stock................................................ -- (264,113)
----------- -----------
Net cash provided by financing activities................................. 353,663 5,404,374
----------- -----------
----------- -----------
Net increase in cash and cash equivalents........................................... 37,422 1,954,986
Cash and cash equivalents, beginning of year........................................ 2,303 39,725
----------- -----------
Cash and cash equivalents, end of year.............................................. $ 39,725 $ 1,994,711
----------- -----------
----------- -----------
Supplemental disclosure of cash flow information:
Cash paid for interest............................................................ $ 10,451 $ 31,000
Noncash investing and financing activities:
Common stock issued for reduction of stockholder loans............................ 9,600 --
Notes payable to stockholders issued as distributions............................. 325,000 --
Capital lease obligations incurred................................................ -- 207,725
Preferred shares issued to acquire subsidiaries................................... -- 1,000,000
Common stock issued to acquire business........................................... -- 509,005
</TABLE>
See accompanying notes to consolidated financial statements.
F-7
<PAGE>
FRONTLINE COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Business
Frontline Communications Corporation ("Frontline" or the "Company") is an
internet service provider and Competitive Local Exchange Carrier ("CLEC") that
offers E-commerce and internet access to individual and business subscribers
located in the Northeast United States.
Frontline consummated an initial public offering ("IPO") during May 1998
and raised net proceeds of $5,810,405 (see Note 10).
Reorganization and Principles of Combination
The consolidated financial statements include the accounts of Hobbes & Co.,
LLC ("Hobbes"), INET Communications Company, LLC ("INET") and Sarah Girl & Co.,
LLC ("Sarah Girl"), (collectively the "Predecessor Companies") and Frontline
Communications Corporation. As described more fully in Note 2, on May 30, 1997,
Frontline acquired the net assets of the Predecessor Companies. For accounting
purposes, the business consolidation has been accounted for as if the acquirer
was Hobbes. With respect to the acquisition of INET, the acquisition has been
accounted for as a consolidation of entities under common control in a manner
similar to a pooling of interests and reflects the consolidated financial
position, operating results and cash flows of Hobbes and INET as if they had
been consolidated for all periods presented. With respect to Sarah Girl and
Frontline, the business consolidation has been accounted for using purchase
accounting, which resulted in the recording of a special non-cash charge of
$1,230,000. The non-cash charge represents the estimated fair market value of
the Company's 820,000 shares of common stock issued to certain founding
shareholders in February 1997 for current and future services. An additional
non-cash charge was taken for the value of services on stock issued to a
director. The Predecessor Companies were dissolved and Frontline is the
continuing legal entity. All intercompany accounts and transactions have been
eliminated.
Principles of Consolidation
The consolidated financial statements include the accounts of the Company
and its wholly-owned subsidiaries. Intercompany balances and transactions have
been eliminated.
The format of the statements of operations in the accompanying financial
statements is different from the one appearing in the Company's Annual Report on
Form 10-KSB for the year ended December 31, 1998.
Property, Equipment and Depreciation
Property and equipment is stated at cost, less accumulated depreciation and
amortization. Depreciation and amortization is computed over the estimated
useful lives of the assets using the straight-line method.
The following estimated useful lives are applied in the computation of
depreciation and amortization:
<TABLE>
<CAPTION>
YEARS
----------
<S> <C>
Computer and office equipment................................... 3-5
Furniture and fixtures.......................................... 5
Leasehold improvements.......................................... Lease term
</TABLE>
Intangible Assets
Intangible assets include goodwill, the excess of the cost of purchased
businesses over the fair value of the net assets acquired, and purchased
customer bases. Amortization is computed using the straight-line basis over
three years, the expected benefit period.
F-8
<PAGE>
FRONTLINE COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--(CONTINUED)
Revenue Recognition
Monthly subscription service revenue is recognized over the period in which
services are provided. Service revenues derived from dedicated access services,
which require the installation and use of Company provided equipment at a
subscriber's location, are recognized when the service is commenced. Fee
revenues for ancillary services are recognized as services are performed.
Deferred revenue represents prepaid access fees by subscribers.
Long-Lived Assets
Long-lived assets, such as property and equipment, intangibles and customer
bases, are evaluated for impairment when events or changes in circumstances
indicate that the carrying amount of the assets may not be recoverable through
the estimated undiscounted future cash flows from the use of these assets. When
any such impairment exists, the related assets will be written down to fair
value. No write downs were necessary for the years ended December 31, 1997 and
1998.
Income Taxes
Deferred income taxes are provided on differences between the financial
reporting and income tax bases of assets and liabilities based upon statutory
tax rates enacted for future periods. Valuation allowances are established when
necessary to reduce deferred tax assets to the amount expected to be realized.
Use of Estimates
In preparing the consolidated financial statements in conformity with
generally accepted accounting principles, management is required to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and the disclosure of contingent assets and liabilities at the date
of the consolidated financial statements, and the reported amount of revenues
and expenses during the reporting period. Actual results could differ from those
estimates. Many of the Company's estimates and assumptions used in the financial
statements related to the Company's industry which are subject to rapid
technological change. It is reasonably possible that changes may occur in the
near term that would affect management's estimates with respect to the carrying
values of plant and equipment, intangibles and customer bases.
Credit Risk
Financial instruments which potentially subject the Company to
concentrations of credit risk consist principally of temporary cash investments
and trade accounts receivable. The Company's cash investments are placed with
high credit quality financial institutions and may exceed the amount of federal
deposit insurance. Concentrations of credit risk with respect to trade
receivables are limited due to the large number of customers comprising the
Company's customer base.
Cash and Cash Equivalents
The Company considers all highly liquid money market instruments purchased
with an original maturity of three months or less to be cash equivalents. Cash
equivalent instruments were $-0- and $1,766,267 at December 31, 1997 and 1998,
respectively.
Financial Instruments
The carrying amounts of financial instruments including cash, accounts
receivable, notes receivable from (payable to) stockholders and accounts payable
approximated fair value as of December 31, 1998, because of the relatively short
maturity of these instruments.
F-9
<PAGE>
FRONTLINE COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--(CONTINUED)
Stock-Based Compensation
Statement of Financial Accounting Standards ("SFAS") No. 123, "Accounting
for Stock-Based Compensation", establishes a fair value method for accounting
for stock-based compensation plans either through recognition or disclosure. The
Company adopted the employee stock-based compensation provisions of SFAS
No. 123 by disclosing the pro forma net income and pro forma net income per
share amounts assuming the fair value method. Stock arrangements with
non-employees, if applicable, are recorded at fair value.
Advertising
All costs associated with advertising services are expensed in the period
incurred. Advertising expense was approximately $28,000 and $ 136,000 for the
years ended December 31, 1997 and 1998, respectively.
Loss Per Share
The Company has adopted SFAS No. 128, "Earnings per Share," which provides
for the calculation of "basic" and "diluted" earnings per share. Basic earnings
per share includes no dilution and is computed by dividing income available to
common shareholders by the weighted average number of common shares outstanding
for the period. Diluted earnings per share reflect, in periods in which they
have a dilutive effect, the effect of common shares issuable upon exercise of
stock options and warrants. Diluted earnings per share amounts have not been
reported because the Company has a net loss and the impact of the assumed
conversion of preferred stock and exercise of stock options and warrants would
be anti-dilutive.
Effect of Recent Accounting Pronouncement
In June 1998, the Financial Accounting Standards Board issued SFAS
No. 133, "Accounting for Derivative Instruments and Hedging Activities", which
requires companies to recognize all derivatives as either assets or liabilities
in the statement of financial position and measure those instruments at fair
value. SFAS No. 133 is effective for fiscal years beginning after June 15, 2000.
The Company does not presently enter into any transactions involving derivative
financial instruments and, accordingly, does not anticipate the new standard
will have any effect on its financial statements.
2. REORGANIZATION
On May 30, 1997, the Predecessor Companies were acquired by the Company by
issuing three notes aggregating $325,000 (see Note 6) for all the membership
interest in the Predecessor Companies. For accounting purposes Hobbes has been
considered to be the acquirer. As a result, the business consolidation of Hobbes
and INET has been accounted for as a consolidation of entities under common
control in a manner similar to a pooling of interests. The business
consolidation with Sarah Girl and Frontline have been accounted for as
purchases. The net assets and operations of Sarah Girl and Frontline are not
material to the Company's consolidation financial statements. Notes payable to
the members of the Predecessor Companies are accounted for as distributions in
the accompanying consolidated statements of stockholders' equity.
3. NOTES RECEIVABLE FROM STOCKHOLDERS
During August and October 1998, the Company made advances aggregating
$143,800 to two of its stockholders. The notes are due on demand and bear
interest at 8% which is offset against the interest payable from the
stockholders (see Note 6).
F-10
<PAGE>
FRONTLINE COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
4. ACQUISITION OF BUSINESSES
During 1998, the Company made the following acquisitions all of which were
accounted for using the purchase method of accounting with the results of each
acquisition included in the consolidated financial statements from the
respective acquisition date. The acquisition resulted in intangibles of
$3,215,226, which are being amortized over their expected benefit period of
3 years.
At December 31, 1998, intangibles were as follows:
<TABLE>
<CAPTION>
CUSTOMER
GOODWILL BASES TOTAL
---------- ---------- ----------
<S> <C> <C> <C>
Intangibles....................................................... $1,143,998 $2,071,228 $3,215,226
Less: Accumulated amortization.................................... 88,979 44,921 133,900
---------- ---------- ----------
$1,055,019 $2,026,307 $3,081,326
---------- ---------- ----------
---------- ---------- ----------
</TABLE>
WOWFactor
On October 9, 1998, the Company acquired all of the issued and outstanding
capital stock of WOWFactor, Inc. ("WOWFactor"), a New Jersey corporation engaged
in the business of promoting e-commerce through its web sites primarily for
women's businesses. The Company issued to the stockholders of WOWFactor ten
shares of newly created Series A preferred stock, which is convertible on
July 15, 1999 into common stock with a market value of $1,000,000, subject to a
maximum issuance of 250,000 shares. In addition, to the extent that the
Company's common stock has a market value on July 15, 1999 of (i) less than
$3.00 per share or (ii) greater than $3.00 per share but less than $4.00 per
share, the Company agreed to issue to the WOWFactor stockholders options to
purchase up to an aggregate of 100,000 or 50,000 shares, respectively.
Roxy Systems d/b/a Magic Carpet
On October 9, 1998, the Company acquired substantially all of the assets
used in the business of Roxy Systems, Inc. d/b/a Magic Carpet ("Roxy") in
consideration of $75,000 in cash and the assumption of approximately $60,000 of
liabilities. Roxy is an internet service provider which, at the date of
acquisition, had approximately 1,000 individual and business subscribers in
Orange County, New York.
US Online
Pursuant to an order of the United States Bankruptcy Court, District of New
Jersey, on October 23, 1998, the Company acquired substantially all of the
assets used in the business of US Online, Inc. ("US Online"), including a point
of presence in the Philadelphia area, and assumed two of US Online's executory
contracts for consideration of $570,000 in cash paid upon closing. At the time
of the acquisition, US Online was engaged in the business of providing internet
access, web hosting and leased communications lines to approximately 3,500
subscribers in New York, New Jersey and Pennsylvania.
Webspan
On December 17, 1998, the Company acquired substantially all of the assets
used in the business of Webspan Communications, Inc. ("Webspan") in
consideration of $500,000 in cash, assumption of approximately $544,000 of
liabilities and an aggregate of 113,364 shares of the Company's common stock
(approximately $509,000). At the time of the acquisition, Webspan was an
internet service provider with approximately 9,000 individual and business
subscribers in New York and New Jersey.
The following pro forma consolidated financial information has been
prepared to reflect the 1998 acquisitions. The pro forma financial information
is based on the historical financial statements of the Company and those of the
acquired businesses. The accompanying pro forma operating statements are
F-11
<PAGE>
FRONTLINE COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
4. ACQUISITION OF BUSINESSES--(CONTINUED)
presented as if the acquisitions occurred on January 1, 1997. The pro forma
financial information is unaudited and is not necessarily indicative of what the
actual results of operations of the Company would have been assuming the
acquisitions had been completed as of January 1, 1997, and neither is it
necessarily indicative of the results of operations for future periods.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------
1997 1998
----------- -----------
(UNAUDITED)
<S> <C> <C>
Revenues....................................................... $ 2,383,063 $ 2,635,923
Net loss....................................................... (5,320,805) (4,307,399)
----------- -----------
Net loss per share--basic and diluted.......................... $ (3.85) $ (1.69)
----------- -----------
----------- -----------
</TABLE>
The above unaudited pro forma consolidated financial information has been
adjusted to reflect amortization of intangibles as generated by the acquisitions
over a three-year period, WOWFactor officer's employment agreement entered into
at the date of acquisition, the conversion of the preferred shares issued in the
WOWFactor acquisition and the issuance of 113,364 common shares in the Webspan
acquisition.
5. PROPERTY AND EQUIPMENT
Property and equipment consisted of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
1998
------------
<S> <C>
Computer and office equipment..................................................... $1,070,492
Furniture and fixtures............................................................ 38,705
Leasehold improvements............................................................ 13,783
----------
1,122,980
Less: Accumulated depreciation and amortization................................... 141,195
----------
$ 981,785
----------
----------
</TABLE>
6. NOTES PAYABLE STOCKHOLDERS
On May 30, 1997, the Company issued notes aggregating $372,137 to three of
its stockholders related to the reorganization discussed in Note 2, and certain
advances made to the Company since inception. The notes bear interest at 8%. To
date $203,537 has been repaid and $168,600 will be deferred until such time as
the Company achieves $1.9 million in pre-tax earnings, but in no event sooner
than May 2000.
7. CAPITAL LEASE OBLIGATIONS
The Company leases computer equipment under capital leases. The assets
acquired under capital leases have a cost of $207,725 and accumulated
depreciation of $-0- as of December 31, 1998.
F-12
<PAGE>
FRONTLINE COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
7. CAPITAL LEASE OBLIGATIONS--(CONTINUED)
The following is a schedule of future minimum lease payments under
capitalized leases, together with the present value of the net minimum lease
payments at December 31, 1998.
<TABLE>
<S> <C>
Payments for the year ending:
1999............................................................ $ 75,745
2000............................................................ 75,745
2001............................................................ 75,745
--------
Total minimum lease payments...................................... 227,235
Less: Amount representing interest................................ 72,833
--------
Present value of net minimum lease payments....................... 154,402
Less: Current portion............................................. 38,569
--------
Long-term lease obligations....................................... $115,833
--------
--------
</TABLE>
8. COMMITMENTS AND CONTINGENCIES
Leases
The Company rents office space and equipment under operating lease
agreements expiring at various dates through 2000.
Future minimum rental payments required under operating leases as of
December 31, 1998 are approximately as follows:
<TABLE>
<S> <C>
1999.............................................................. $121,000
2000.............................................................. 119,000
2001.............................................................. 118,000
2002.............................................................. 57,000
--------
Total............................................................. $415,000
--------
--------
</TABLE>
Rental expense was $69,981 and $134,249 for the years ended December 31,
1997 and 1998, respectively.
The Company has entered into three-year employment agreements with certain
officers and employees which provide for aggregate annual base compensation of
approximately $401,000, and such bonuses as the Board of Directors may, in its
sole discretion, from time to time determine. These employment agreements, which
expire in August 2000 and September 2001, provide for employment on a full-time
basis (except for the Company's agreement with its Chief Executive Officer) and
contain a provision that the employee will not compete or engage in a business
competitive with the current or anticipated business of the Company during the
term of the employment agreement and for a period of two years thereafter.
9. STOCK OPTIONS
The Company has a stock option plan (the "Plan"), which authorized the
issuance of incentive options and non-qualified options to purchase up to
500,000 shares of common stock. The plan has a ten year term. The Board retained
the authority to determine the individuals to whom, and the times at which,
stock options would be made, along with the number of shares, vesting schedule
and other provisions related to the stock options.
The Company applies Accounting Principles Board Opinion No. 25 "Accounting
for Stock Issued to Employees" and related interpretations by recording
compensation expense for the excess of fair market value and the exercisable
price per share as of the date of the grant in accounting for its stock options.
F-13
<PAGE>
FRONTLINE COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
9. STOCK OPTIONS--(CONTINUED)
Accordingly, no compensation costs have been recognized for its issuance of
options to employees since the exercise price exceeded the then fair market
value on the date of the grant. In accordance with SFAS No. 123, the Company has
recognized $108,000 and $175,137 as the fair value of services received for the
136,000 and 103,000 options granted to non-employees during 1997 and 1998,
respectively.
SFAS No. 123 requires the Company to provide pro forma information
regarding net loss and net loss per share as if compensation cost for the
Company's stock options had been determined in accordance with the fair value
based method prescribed in SFAS No. 123. The Company estimates fair value of
each stock based option at the date of the grant using the Black Scholes
option-pricing model with the following weighted average assumptions used for
options in 1997 and 1998:
<TABLE>
<CAPTION>
1997 1998
------ -----------
<S> <C> <C>
Risk-free interest rate.............................................. 6.51% 4.29%-5.48%
Expected life........................................................ 5 years 5 years
Expected volatility.................................................. 15.00% 46.10%
Dividend yield....................................................... None None
</TABLE>
Under the accounting provisions of SFAS No. 123, the Company's net loss and
loss per share would have been reduced to the pro forma amounts indicated below:
<TABLE>
<CAPTION>
1997 1998
----------- -----------
<S> <C> <C>
Net loss:
As reported..................................................... $(2,037,417) $(1,744,099)
Pro forma....................................................... (2,037,417) (2,060,753)
----------- -----------
Net loss per share (basic and diluted):
As reported..................................................... $ (1.67) $ (.72)
Pro forma....................................................... (1.67) (.85)
----------- -----------
</TABLE>
Stock options granted prior to 1998 were considered to have minimal value
based on the fair value method of SFAS No. 123.
A summary of the status of the Company's stock option plan as of
December 31, 1997 and 1998, and changes during the years ending on those dates,
is presented below:
<TABLE>
<CAPTION>
DECEMBER 31,
-----------------------------------------------
1997 1998
--------------------- ---------------------
WEIGHTED WEIGHTED
AVERAGE AVERAGE
EXERCISE EXERCISE
SHARES PRICE SHARES PRICE
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Outstanding at beginning of year................................ -- $ -- 165,600 $ 2.00
Granted......................................................... 280,000 2.00 426,200 3.00
Exercised....................................................... -- -- -- --
Forfeited....................................................... (114,400) (2.00) (8,800) (2.00)
-------- ------ -------- ------
Outstanding at end of year...................................... 165,600 $ 2.00 583,000 $ 2.73
-------- ------ -------- ------
-------- ------ -------- ------
Options exercisable at year-end................................. -- $ -- 457,000 $ 2.66
-------- ------ -------- ------
-------- ------ -------- ------
Weighted average fair value of options
granted during the year....................................... $ -- $ 1.62
------ ------
------ ------
</TABLE>
F-14
<PAGE>
FRONTLINE COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
9. STOCK OPTIONS--(CONTINUED)
The following table summarizes information about stock options outstanding
at December 31, 1998.
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING
------------------------------------------ OPTIONS EXERCISABLE
WEIGHTED ------------------------
NUMBER AVERAGE WEIGHTED NUMBER WEIGHTED
OUTSTANDING AT REMAINING AVERAGE EXERCISABLE AVERAGE
DECEMBER 31, CONTRACTUAL EXERCISE AT DECEMBER EXERCISE
RANGE OF EXERCISE PRICES 1998 LIFE PRICE 31, 1998 PRICE
- ----------------------------------------------- --------------- ----------- -------- ------------ --------
<S> <C> <C> <C> <C> <C>
$2.00 to $3.00................................. 418,600 9.4 $ 2.31 358,600 $ 2.27
$3.00 to $5.18................................. 164,400 9.4 3.81 98,400 4.09
------- --- ------ -------- ------
------- --- ------ -------- ------
</TABLE>
10. CAPITAL STOCK AND WARRANTS
At December 31, 1998, there was an aggregate of 2,460,000 warrants
outstanding at exercise prices between $4.80 and $7.92 per share, expiring at
various times through 2003, as follows:
In December 1997, as partial consideration for a loan, the Company granted
warrants to purchase 300,000 shares, at an exercise price of $5.00 per share,
expiring in December 2003. These warrants were valued at $24,000 and recorded as
a debt discount.
As part of its IPO in February 1998, the Company offered and sold warrants
(the "Public Warrants") to purchase 1,840,000 shares, at an exercise price of
$4.80 per share, expiring in February 2003.
In March 1998, the Company effected a 4 for 5 reverse stock split. All
shares and per share data in the consolidated financial statements have been
adjusted to give retroactive effect to the reverse stock split.
Additionally, during May 1998, the Company sold to the underwriter of the
IPO, warrants to purchase 160,000 shares, at an exercise price of $6.60 per
share, and 160,000 shares, at an exercise price of $7.92 per share. These
warrants expire in May 2003.
The Board of Directors is authorized to fix the rights, preferences,
privileges and restrictions of any series of preferred stock, including the
dividend rights, original issue price, conversion rights, voting rights, terms
of redemption, liquidation preferences and sinking fund terms thereof, and the
number of shares constituting any such series and the designation thereof and to
increase or decrease the number of shares subsequent to the issuance of shares
of such series (but not below the number of shares of such series then
outstanding).
11. INCOME TAXES
The Company had net operating loss carryforwards of approximately $1,500,000 at
December 31, 1998, which expire beginning in 2111. The tax benefit of these
losses has been completely offset by a valuation allowance due to the
uncertainty of its realization.
12. LITIGATION SETTLEMENT
In connection with a settlement of all disputes with a former officer, the
Company purchased 231,520 shares of common stock owned by that officer for
$264,113. These amounts were accounted for as treasury stock in the accompanying
balance sheet.
13. SUBSEQUENT EVENT
In March 1999, the Company entered into an agreement with two institutional
investors pursuant to which the Company sold 158,856 shares of common stock, at
prevailing market price, for an aggregate purchase price of $2,000,000. The
agreement with the investors provides for certain registration and repricing
rights. The Company may, at any time prior to the effectiveness of registration,
redeem the common stock issued in its entirety for a premium. The Company also
issued 21,662 warrants to purchase common stock for 13.849 per share. The
warrants are exercisable on or before March 25, 2002.
F-15
<PAGE>
FRONTLINE COMMUNICATIONS CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEET
<TABLE>
<CAPTION>
SEPTEMBER 30,
1999
-------------
(UNAUDITED)
<S> <C>
ASSETS
Current:
Cash and cash equivalents........................................................................ $ 913,782
Accounts receivable, net of allowance for doubtful accounts...................................... 194,170
Prepaid expenses and other....................................................................... 210,059
-----------
Total current assets.......................................................................... 1,318,011
Property and equipment, net........................................................................ 2,903,855
Intangibles, net of accumulated amortization of $1,084,642......................................... 3,596,347
Other.............................................................................................. 197,241
-----------
$ 8,015,454
-----------
-----------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses............................................................ $ 1,161,585
Deferred revenue................................................................................. 607,426
Current portion of capitalized lease obligations................................................. 416,668
-----------
Total current liabilities..................................................................... 2,185,679
Capitalized lease obligations and notes payable--net of current portion............................ 1,175,771
-----------
Total liabilities............................................................................. 3,361,450
-----------
Stockholders' equity:
Preferred stock, $.01 par value, 1,000,000 authorized, 10 issued
and outstanding
Common Stock, $.01 par value, authorized 25,000,000, 3,934,156 issued, and 3,702,636
outstanding................................................................................... 39,342
Additional paid-in capital....................................................................... 13,653,046
Accumulated deficit.............................................................................. (8,736,771)
Note receivable.................................................................................. (37,500)
Treasury stock, at cost, 231,520 shares.......................................................... (264,113)
-----------
Total stockholders' equity.................................................................... 4,654,004
-----------
$ 8,015,454
-----------
-----------
</TABLE>
See notes to condensed consolidated financial statements.
F-16
<PAGE>
FRONTLINE COMMUNICATIONS CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
<TABLE>
<CAPTION>
FOR THE NINE MONTHS ENDED
------------------------------
SEPTEMBER 30, SEPTEMBER 30,
1999 1998
------------- -------------
<S> <C> <C>
Revenues............................................................................ $ 2,159,585 $ 369,972
Costs and expenses:
Cost of revenues.................................................................. 1,426,006 309,627
Selling, general and administrative............................................... 3,770,720 651,878
Depreciation and amortization..................................................... 1,189,080 55,590
Non-cash compensation charge...................................................... 712,220
----------- -----------
7,098,026 1,017,095
----------- -----------
Loss from operations................................................................ (4,938,441) (647,123)
Other income (expense):
Interest income................................................................... 73,117 64,949
Interest expense.................................................................. (27,800) (27,912)
----------- -----------
Net loss............................................................................ $(4,893,124) $ (610,086)
----------- -----------
----------- -----------
Loss per share--basic and diluted................................................... $ (1.43) $ (0.27)
----------- -----------
----------- -----------
Weighted average number of shares outstanding--basic and diluted.................... 3,421,359 2,221,077
----------- -----------
----------- -----------
</TABLE>
See notes to condensed consolidated financial statements.
F-17
<PAGE>
FRONTLINE COMMUNICATIONS CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
FOR THE NINE MONTHS ENDED
-------------------------------
SEPTEMBER 30, SEPTEMBER 30,
1999 1998
------------- -------------
<S> <C> <C>
Cash flow from operating activities:
Net loss........................................................................ ($4,893,124) ($ 610,086)
Adjustments to reconcile net loss to net cash used
in operating activities:
Depreciation and amortization................................................ 1,189,080 55,590
Non-cash compensation charge................................................. 712,220 --
Changes in assets and liabilities
Accounts receivable........................................................ (190,843) (1,485)
Prepaid expenses and other................................................. (7,977) (33,042)
Other assets............................................................... (156,575) (31,093)
Accounts payable and accrued expenses...................................... 860,423 (293,336)
Deferred revenue........................................................... (7,426) 11,307
----------- -----------
Net cash used in operating activities................................... (2,494,222) (902,145)
----------- -----------
Cash flows from investing activities:
Acquisition of property and equipment........................................... (821,538) (164,763)
Acquisition of businesses....................................................... (681,661)
----------- -----------
Net cash used in investing activities................................... (1,503,199) (164,763)
----------- -----------
Cash flows from financing activities:
Proceeds from sale of common stock, net......................................... 2,769,420 6,041,476
Proceeds from exercise of stock options......................................... 215,000 --
Principal payments on capitalized lease obligations............................. (67,928) --
Deferred registration costs
Purchase of Treasury Stock................................................... -- (264,113)
Repayments of stockholder and bank loans, net................................ -- (481,384)
----------- -----------
Net cash provided by financing activities............................... 2,916,492 5,295,979
----------- -----------
Net increase (decrease) in cash and cash equivalents.............................. (1,080,929) 4,229,071
Cash and cash equivalents, beginning of period.................................... 1,994,711 39,725
----------- -----------
----------- -----------
Cash and cash equivalents, end of period.......................................... $ 913,782 $ 4,268,796
----------- -----------
----------- -----------
Supplemental information:
Cash paid for interest during the period.......................................... $ 28,000 $ 27,000
Noncash investing and financing activities:
Capital lease obligations incurred.............................................. 1,337,000 --
Common stock issued to acquire businesses....................................... 675,000 --
</TABLE>
See notes to condensed consolidated financial statements.
F-18
<PAGE>
FRONTLINE COMMUNICATIONS CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(UNAUDITED)
SEPTEMBER 30, 1999
NOTE A--BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements have
been prepared in accordance with generally accepted accounting principles for
interim financial information and with the instructions to Item 310 (b) of
Regulation S-B. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of the management, all adjustments
(consisting of normal recurring accruals) considered necessary for fair
presentation have been included. The results for the interim periods are not
necessarily indicative of the results that may be attained for an entire year or
any future periods. For further information, refer to the Company's Financial
Statements and footnotes thereto, included elsewhere herein.
The condensed consolidated financial statements include the accounts of the
Company and its subsidiaries. All significant intercompany accounts and
transactions have been eliminated.
The format of the statements of operations in the accompanying financial
statement is different from the one appearing in the Company's Annual Report on
Form 10-KSB for the year ended December 31, 1998.
NOTE B--LOSS PER SHARE
The Company has adopted SFAS No. 128, "Earning per Share", which provides
for calculation of "basic" and "diluted" earning per share. Basic earnings per
share includes no dilution and is computed by weighted average number of common
shares outstanding for the period. Diluted earnings per share reflect, in
periods in which they have dilutive effect, the effect of common shares issuable
upon exercise of stock options and warrants. Diluted earnings per share amounts
have not been reported because the Company has a net loss and the impact of the
assumed conversion of preferred stock and exercise of stock options and warrants
would be anti-dilutive.
NOTE C--CAPITAL STOCK
In March 1999, the Company sold 158,856 shares of its Common Stock to two
investors for an aggregate purchase price of $2,000,000, with net proceeds to
the Company of $1,770,000. The Company also issued warrants to purchase an
aggregate of 21,662 shares of Common Stock at an exercise price of $13.85 per
share. The Company granted repricing rights with respect to the shares, and
anti-dilution rights with respect to the warrants, subject to an aggregate
maximum issuance of 450,000 shares. As of September 30, 1999, the Company had
issued 99,010 additional shares of Common Stock pursuant to the repricing
rights.
In May 1999, an officer of the Company exercised options granted under the
Company's stock option plan and acquired 15,000 shares of Common Stock for
$37,500. The payment was made by an interest bearing secured promissory note.
The amounts due under the note are secured by certain personal assets of the
officer in addition to shares of Common Stock acquired by the officer.
In June 1999, the Company's shareholders approved an amendment to the
Certificate of Incorporation of the Company increasing the number of authorized
shares of Common Stock to 25,000,000.
In July 1999, the Company sold 99,900 shares of its Common Stock to two
investors for an aggregate purchase price of $1,000,000. The Company also issued
warrants to purchase an aggregate of 13,625 shares of Common Stock at an
exercise price of $11.01 per share. The Company granted repricing rights with
respect to the shares, and anti-dilution rights with respect to the warrants,
subject to an aggregate maximum issuance of 225,000 shares.
In 1999, the Company issued 60,436 shares of its Common Stock for
acquisition of businesses. See Note D.
F-19
<PAGE>
FRONTLINE COMMUNICATIONS CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(UNAUDITED)(CONTINUED)
SEPTEMBER 30, 1999
NOTE C--CAPITAL STOCK--(CONTINUED)
At September 30,1999, options to acquire 788,268 shares of Common Stock
pursuant to the Company's stock option plan were outstanding. In addition, there
was an aggregate of 2,506,587 warrants outstanding at exercise prices between
$4.80 and $13.85 expiring at various dates through 2004.
NOTE D--ACQUISITIONS OF BUSINESSES
In May 1999, the Company acquired substantially all of the assets of
channel I Shop.com and, acquired all of the issued and outstanding stock of
WebPrime, Inc. In August 1999, the Company acquired certain dial-up access
assets of United Computer Specialists, Inc. The aggregate consideration
consisted of $325,000 in cash (including transaction-related costs) and 50,436
shares of Common stock (approximately $675,000). The acquisitions resulted in
intangibles of $988,000, which are being amortized over their expected benefit
period of 3 years. In addition, the Company issued 10,000 shares of its Common
Stock as a purchase price adjustment to a business it acquired in 1998. $128,000
representing the value of the additional consideration was adjusted to the cost
of related intangibles.
In July 1999, the Company entered into a stock purchase agreement (the
"Agreement") to purchase all of the outstanding stock of Sovernet, Inc.
("Sovernet") from its three shareholders (the "Sellers"). The transaction is
subject to the Company securing adequate financing to fund the purchase and
other customary closing conditions. The Company paid a $250,000 deposit to the
Sellers, which is only refundable under certain limited circumstances as set
forth in the Agreement. The Agreement expired on September 30, 1999 and the
Company has not exercised its right to extend the Agreement. Discussions and
negotiations with the Sellers are continuing, but there is no assurance that the
Company will obtain the financing to consummate the transaction or the sellers
will agree to consummate the transaction. Accordingly, the deposit and related
transaction costs in the aggregate amount of $280,000 were charged to operations
during the three months ended September 30, 1999.
NOTE E--NON-CASH COMPENSATION CHARGE
The Company granted to certain employees options to purchase an aggregate
amount of 245,768 shares of its Common Stock which required shareholder approval
prior to its issuance. The shareholders approved the issuance in June 1999, and
accordingly the approval date is deemed to be the grant date. Since the fair
market value of the shares at the grant date exceeded the exercise price,
compensation costs have been recognized during the nine months ended September
30,1999.
NOTE F--CAPITAL LEASE OBLIGATIONS
In September, the Company purchased communications equipment in the
aggregate amount of $1.3 million from a major telecommunications equipment
manufacturer. The manufacturer provided the financing through a lease for
$957,000. As per the term of the lease, the Company is required to pay $ 36,000
a month for 30 months commencing from February of 2000. In addition, $376,000
due to the manufacturer is payable over four quarterly installments of $93,650
commencing from March 2000.
NOTE G--LEASES
The Company rents office space and equipment under operating lease
agreements expiring at various dates through 2004. Future minimum rental
payments required under operating leases as of September 30, 1999 are
approximately as follows: 2000--$332,000; 2001--$330,000; 2002--$328,000;
2003--$325,000; 2004--$307,000.
F-20
<PAGE>
FRONTLINE COMMUNICATIONS CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(UNAUDITED)(CONTINUED)
SEPTEMBER 30, 1999
NOTE H--SUBSEQUENT EVENTS
In October 1999, the Company sold 105,263 shares of its Common Stock to two
investors for an aggregate purchase price of $500,000. The Company also issued
warrants to purchase an aggregate of 14,354 shares of Common Stock at an
exercise price of $5.23 per share. The Company granted repricing rights with
respect to the shares, and anti-dilution rights with respect to the warrants,
subject to an aggregate maximum issuance of 200,000 shares.
In October 1999, the Company acquired the Web design and hosting assets of
United Computer Specialists, Inc ("UCS"). The purchase price consisted of
$50,000 in cash, $275,000 in non interest bearing promissory notes and 33,065
shares of the Company's Common Stock valued at $175,000. The principal amounts
of the promissory notes are subject to downward revision based on revenues
derived from UCS's customers during the nine months following the closing date.
The promissory note for $100,000 is payable on the six month anniversary of the
closing date and the promissory note for $175,000 is payable on the one year
anniversary of the closing date.
NOTE I--LEGAL PROCEEDINGS
In September 1999, the former principal stockholder of WoWFactor, Inc. who
also served as the Company's Vice President of Sales and Marketing commenced
litigation against the Company in the United States District Court for the
Southern District, New York, seeking damages in the amount of $200,000 as well
as delivery of certain options and Common Stock certificates allegedly owed by
the Company pursuant to the terms of her Employment Agreement and Stock Purchase
Agreement relating to the purchase of WOWFactor, Inc. The shares that are
subject of the stock certificates are shares of Common Stock allegedly due to
her upon conversion of series A convertible Preferred Stock. The Company is
currently considering the plaintiff's claim for the shares. This litigation is
in its early stages and the Company believes that it will not have a material
impact on its operations and financial conditions.
F-21
<PAGE>
FRONTLINE COMMUNICATIONS CORPORATION
UNAUDITED PRO FORMA COMBINED STATEMENT OF OPERATIONS
YEAR ENDED DECEMBER 31, 1998
BASIS OF COMBINATION--PRO FORMA
The accompanying pro forma combined statement of operations has been
derived from Frontline Communications Corporation's (the "Company") statement of
operations for the year ended December 31, 1998. Adjustments have been made to
such information to give effect to the following transaction and events as if
each had occurred as of the beginning of the period covered by the combined
statement of operations:
A. The Company's acquisition of all of the issued and outstanding
stock of WOW Factor, Inc. ("WOWFactor) on October 9, 1998.
B. The Company's acquisition of substantially all of the assets used
in the business of Roxy Systems, Inc. d/b/a Magic Carpets on
October 9, 1998.
C. The Company's acquisition of substantially all of the assets used
in the business of US Online, Inc. on October 23, 1998
D. The Company's acquisition of substantially all of the assets used
in the business of Webspan Communications, Inc. ("Webspan") on
December 17, 1998.
The aggregate consideration for the above acquisitions approximated
$3,595,000 and resulted in intangibles of $3,215,226. The intangibles are being
amortized over their expected benefit period of 3 years.
The pro forma combined statement of operations has been adjusted to reflect
amortization of intangibles as generated by the acquisitions over a three-year
period, WOW Factor officer's employment agreement entered into at the date of
acquisition, the conversion of the preferred shares issued in the WOWFactor
acquisition and the issuance of 113,364 common shares in the Webspan
acquisition.
The accompanying pro forma financial information does not purport to
represent what the Company's results of operations or financial condition would
have been had such transactions in fact occurred at the beginning of the period
presented or to project the Company's results of operations or financial
position in, or for, any future periods.
F-22
<PAGE>
FRONTLINE COMMUNICATIONS CORPORATION
UNAUDITED PRO FORMA COMBINED STATEMENT OF OPERATIONS
YEAR ENDED DECEMBER 31, 1998
<TABLE>
<CAPTION>
FRONTLINE ROXY WOW
COMMUNICATIONS SYSTEMS, INC FACTORS, INC. U.S. ONLINE INC.
-------------- ------------ ------------- ----------------
<S> <C> <C> <C> <C>
Revenues.................................... $ 574,964 $192,037 $ 29,029 $ 768,142
Cost of revenues............................ 651,378 129,521 3,293 915,454
------------ -------- --------- ----------
Gross profit (loss)......................... (76,414) 62,516 25,736 (147,312)
Operating expenses:
Selling, general and administrative....... 1,744,029 73,782 42,067 825,379
------------ -------- --------- ----------
Loss from operations...................... (1,820,443) (11,266) (16,331) (972,691)
Other income (expense):
Interest income........................... 108,194
Interest expense.......................... (31,850)
------------ -------- --------- ----------
Net loss.................................... $ (1,744,099) $(11,266) $ (16,331) $ (972,691)
------------ -------- --------- ----------
------------ -------- --------- ----------
Loss per share--basic and diluted........... $ (0.72)
------------
------------
Weighted average number of shares
outstanding--basic and diluted............ 2,435,035
------------
------------
<CAPTION>
WEBSPAN PRO FORMA PRO FORMA
COMMUNICATIONS, INC ADJUSTMENTS COMBINED
-------------------- ----------- -----------
<S> <C> <C> <C>
Revenues.................................... $ 1,071,751 $ 2,635,923
Cost of revenues............................ 1,117,321 2,816,967
------------ ----------- -----------
Gross profit (loss)......................... (45,570) (181,044)
Operating expenses:
Selling, general and administrative....... 345,442 1,172,000 4,202,699
------------ ----------- -----------
Loss from operations...................... (391,012) $(1,172,000) (4,383,743)
Other income (expense):
Interest income........................... 108,194
Interest expense.......................... (31,850)
------------ ----------- -----------
Net loss.................................... $ (391,012) $(1,172,000) $(4,307,399)
------------ ----------- -----------
------------ ----------- -----------
Loss per share--basic and diluted........... $ (1.69)
-----------
-----------
Weighted average number of shares
outstanding--basic and diluted............ 2,543,676
-----------
-----------
</TABLE>
F-23
<PAGE>
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
WOWFactor, Inc.
Montclair, New Jersey
We have audited the accompanying balance sheet of WOWFactor, Inc. as of December
31, 1997 and the related statements of operations, stockholders' deficit and
cash flows for each of the two years in the period ended December 31, 1997.
These financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements based
on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit also includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of WOWFactor, Inc. as of December
31, 1997, and the results of its operations and its cash flows for each of the
two years in the period ended December 31, 1997 in conformity with generally
accepted accounting principles.
BDO SEIDMAN, LLP
New York, New York
December 18, 1998
F-24
<PAGE>
WOWFACTOR, INC.
BALANCE SHEET
DECEMBER 31, 1997
<TABLE>
<S> <C>
ASSETS
Equipment, net (Note 1).............................................................................. $ 12,170
LIABILITIES AND STOCKHOLDERS' DEFICIT
Current liabilities:
Accounts payable................................................................................... $ 31,668
Accrued expenses................................................................................... 25,301
Notes payable (Note 2)............................................................................. 60,000
---------
Total current liabilities............................................................................ 116,969
---------
Stockholders' deficit:
Common stock, no par value--100 shares authorized,
issued and outstanding (Note 2)................................................................. 657,263
Accumulated deficit................................................................................ (762,062)
---------
Total stockholders' deficit.......................................................................... (104,799)
---------
$ 12,170
---------
---------
</TABLE>
See accompanying summary of business and significant accounting policies
and notes to financial statements.
F-25
<PAGE>
WOWFACTOR, INC.
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------
1997 1996
--------- ---------
<S> <C> <C>
Net sales......................................................................... $ 4,754 $ 25
Cost of sales..................................................................... 47,676 34,369
--------- ---------
Gross margin.................................................................... (42,922) (34,344)
--------- ---------
Operating expenses:
Selling, general and administrative............................................. 96,173 95,976
Noncash compensation (Note 3)................................................... 234,000 259,000
--------- ---------
Total operating expenses..................................................... 330,173 354,976
--------- ---------
(373,095) (389,320)
Other income:
Interest income................................................................. -- 353
--------- ---------
Net loss.......................................................................... (373,095) (388,967)
Accumulated deficit, beginning of year............................................ (388,967) --
--------- ---------
Accumulated deficit, end of year.................................................. $(762,062) $(388,967)
--------- ---------
--------- ---------
</TABLE>
See accompanying summary of business and significant accounting policies
and notes to financial statements.
F-26
<PAGE>
WOWFACTOR, INC.
STATEMENTS OF STOCKHOLDERS' DEFICIT
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31, 1997 AND 1996
-----------------------------------------
ACCUMULATED
CAPITAL STOCK DEFICIT TOTAL
------------- ----------- ---------
<S> <C> <C> <C>
Balance, January 1, 1996................................................ $ -- $ -- $ --
Net loss................................................................ -- (388,967) (388,967)
Capital contributions (Notes 2(b) and 3)................................ 327,140 -- 327,140
--------- --------- ---------
Balance, December 31, 1996.............................................. 327,140 (388,967) (61,827)
Net loss................................................................ -- (373,095) (373,095)
Capital contributions (Notes 2(b) and 3)................................ 330,123 -- 330,123
--------- --------- ---------
Balance, December 31, 1997.............................................. $ 657,263 $(762,062) $(104,799)
--------- --------- ---------
--------- --------- ---------
</TABLE>
See accompanying summary of business and significant accounting policies
and notes to financial statements.
F-27
<PAGE>
WOWFACTOR, INC.
STATEMENTS OF CASH FLOWS (NOTE 3)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
---------------------------
1997 1996
--------- ---------
<S> <C> <C>
Cash flows from operating activities:
Net loss........................................................................ $(373,095) $(388,967)
--------- ---------
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation................................................................. 8,121 5,088
Capital contributed through performance of services.......................... 234,000 259,000
Change in assets and liabilities:
(Increase) decrease in:
Accounts payable........................................................ 13,462 18,206
Accrued expenses........................................................ (8,883) 34,184
--------- ---------
Total adjustments..................................................... 246,700 316,478
--------- ---------
Net cash used in operating activities................................. (126,395) (72,489)
--------- ---------
Cash flows from investing activities:
Purchase of equipment........................................................... -- (25,379)
--------- ---------
Cash flows from financing activities:
Proceeds from issuance of notes................................................. 25,000 35,000
Contributions of capital--cash.................................................. 96,123 68,140
--------- ---------
Net cash provided by financing activities............................. 121,123 103,140
--------- ---------
Net increase (decrease) in cash................................................... (5,272) 5,272
Cash, beginning of year 5,272 --
--------- ---------
Cash, end of year................................................................. $ -- $ 5,272
--------- ---------
--------- ---------
Supplemental disclosure of cash flow information:
Cash paid during the year for:
Interest..................................................................... $ -- $ --
Income....................................................................... -- --
--------- ---------
--------- ---------
</TABLE>
See accompanying summary of business and significant accounting policies
and notes to financial statements.
F-28
<PAGE>
WOWFACTOR, INC.
SUMMARY OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES
<TABLE>
<S> <C>
BUSINESS WOWFactor, Inc. (the "Company") which was incorporated in 1995, and commenced business as
an internet web-based Company providing consumer and business goods and services,
focusing on women business owners.
USE OF ESTIMATES The preparation of the financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of revenues
and expenses during the reporting period. Actual results could differ from those
estimates.
EQUIPMENT AND Equipment is stated at cost. Depreciation is computed using the double declining balance
DEPRECIATION method over the estimated useful lives of the assets of five years.
INCOME TAXES The Company is taxed as an S corporation under the provisions of the Internal Revenue
Code. The stockholder's report the Company's taxable income or loss in their personal
income tax returns. Accordingly, Federal as well as State of New Jersey income taxes or
benefits are not reflected in the financial statements.
Deferred taxes are inconsequential as a result of the Company's tax status.
REVENUE RECOGNITION Revenues were derived from various internet related services and are recognized in the
month in which services are provided.
</TABLE>
F-29
<PAGE>
WOWFACTOR, INC.
NOTES TO FINANCIAL STATEMENTS
1. EQUIPMENT
Equipment, as presented on the balance sheet, is as follows:
<TABLE>
<CAPTION>
DECEMBER 31, 1997
-----------------
<S> <C>
Equipment............................................................... $ 25,379
Less: Accumulated depreciation.......................................... (13,209)
---------
$ 12,170
---------
---------
</TABLE>
2. RELATED PARTY TRANSACTIONS
(a) The Company has outstanding, at December 31, 1997, noninterest bearing
notes payable to a related party totaling $60,000. These notes were
repaid during 1998.
(b) In 1997 and 1996, shareholders made cash capital contributions of
$96,123 and $68,140, respectively.
(c) The Company's operations are conducted at the home of the principal
stockholder at no expense to the Company. Management has determined
that the cost of such space cannot be reasonably estimated and has
therefore chosen not to disclose such information.
3. NONCASH COMPENSATION
During 1997 and 1996, the Company recognized contributed capital in lieu of
the payments of salaries and fees to certain stockholders. The amounts
recognized as expense and contributed capital in the financial statements were
$234,000 and $259,000 in 1997 and 1996, respectively.
4. SUBSEQUENT EVENT
On October 9, 1998, the Company entered into an agreement with Frontline
Communications Corporation (the "Purchaser") whereby ten (10) shares of
Series A Convertible Preferred Stock of the Purchaser ("Series A Preferred"),
convertible on July 15, 1999 into common stock, par value $0.1 per share, having
a market value of $1,000,000 on the conversion date, were transferred in
consideration of all the authorized, issued and outstanding shares of the
Company's common stock. The conversion feature, however, provides for a
limitation that under no circumstances shall the Series A Preferred stock be
convertible into the Purchaser's common stock aggregating more than 250,000
shares. In connection with the transactions, stock options were granted to the
Company's former shareholders to be exercised on July 15, 1999 under the
conditions that (a) if the Purchaser's common stock has a market value on
July 15, 1999 of less than $3.00 per share, up to 100,000 shares may be
purchased under the option or (b) if the Purchaser's common stock has a market
value of less than $4.00 per share but greater than $3.00 per share, options to
purchase will be limited to 50,000 shares.
F-30
<PAGE>
WOWFACTOR, INC.
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
FOR THE NINE MONTHS
ENDED SEPTEMBER 30,
---------------------
1998 1997
-------- ---------
(UNAUDITED)
<S> <C> <C>
Net sales................................................................................ $ 29,029 $ 2,318
Cost of sales............................................................................ 3,293 46,576
-------- ---------
Gross margin (loss).................................................................... 25,736 (44,258)
Operating expenses:
Selling, general and administrative.................................................... 42,056 89,258
-------- ---------
Loss from operations..................................................................... (16,320) (133,516)
Other income (expense):
Interest expense....................................................................... 11
-------- ---------
Net loss................................................................................. $(16,331) $(133,516)
-------- ---------
-------- ---------
</TABLE>
See accompanying notes to financial statements.
F-31
<PAGE>
WOWFACTOR, INC.
STATEMENT OF STOCKHOLDERS' DEFICIT
(UNAUDITED)
<TABLE>
<CAPTION>
NINE MONTHS ENDED SEPTEMBER 30, 1998
-----------------------------------------
ACCUMULATED
CAPITAL STOCK DEFICIT TOTAL
------------- ----------- ---------
<S> <C> <C> <C>
Balance, December 31, 1998.............................................. $ 657,263 $(762,062) $(104,799)
Net loss................................................................ 0 (16,331) (16,331)
Capital contributions................................................... 26,774 0 26,774
--------- --------- ---------
Balance, September 30, 1998............................................. $ 684,037 $(778,393) $ (94,356)
--------- --------- ---------
--------- --------- ---------
</TABLE>
See accompanying notes to financial statements.
F-32
<PAGE>
WOWFACTOR, INC.
STATEMENTS OF CASH FLOWS
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
<TABLE>
<CAPTION>
NINE MONTHS
ENDED SEPTEMBER 30,
---------------------
1998 1997
-------- ---------
(UNAUDITED)
<S> <C> <C>
Cash flow from operating activities:
Net loss................................................................................. $(16,331) $(133,516)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization.......................................................... 3,655 4,738
Changes in assets and liabilities:
Accounts payable and accrued expenses............................................... (13,969) 8,658
Notes payable....................................................................... -- 25,000
-------- ---------
Net cash used by operating activities.................................................... (26,645) (95,120)
-------- ---------
Cash flows from financing activities:
Proceeds from stockholder loans........................................................ -- 89,848
Proceeds from sale of common stock and warrants........................................ 26,774 --
-------- ---------
Net cash provided by financing activities........................................... 26,774 89,848
-------- ---------
Net increase (decrease) in cash and cash equivalents:.................................... 129 (5,272)
Cash, beginning of period................................................................ -- 5,272
-------- ---------
Cash, end of period...................................................................... $ 129 $ --
-------- ---------
-------- ---------
</TABLE>
See accompanying notes to financial statements.
F-33
<PAGE>
WOWFACTOR, INC.
NOTES TO FINANCIAL STATEMENTS (UNAUDITED)
1. BASIS OF PRESENTATION
The accompanying unaudited financial statements have been prepared in
accordance with generally accepted accounting principles for interim financial
information. Accordingly, they do not include all the information and footnotes
required by generally accepted accounting principles for complete financial
statements.
In the opinion of management, the accompanying unaudited financial
statements include all adjustments, consisting of normal recurring accruals,
considered necessary for the fair presentation of the results for interim
periods. Operating results for the nine months ended September 30, 1998 are not
necessarily indicative of the results to be expected for the full year ending
December 31, 1998.
F-34
<PAGE>
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Roxy Systems, Inc., D/B/A Magic Carpet
Middletown, New York
We have audited the accompanying balance sheet of Roxy Systems, Inc., D/B/A
Magic Carpet as of December 31, 1997 and the related statements of operations,
stockholder's deficit and cash flows for the year then ended. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audit.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit also includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audit provides a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Roxy Systems, Inc., D/B/A Magic
Carpet at December 31, 1997, and the results of its operations and its cash
flows for the year then ended, in conformity with generally accepted accounting
principles.
BDO SEIDMAN, LLP
New York, New York
December 22, 1998
F-35
<PAGE>
ROXY SYSTEMS, INC., D/B/A MAGIC CARPET
BALANCE SHEET
DECEMBER 31, 1997
<TABLE>
<S> <C>
ASSETS
Current:
Accounts receivable, less allowance for doubtful accounts of $10,000.............................. $ 2,686
Property and equipment, net (Note 1)................................................................ 21,080
Other............................................................................................... 774
----------
$ 24,540
----------
----------
LIABILITIES AND STOCKHOLDER'S DEFICIT
Current liabilities:
Accounts payable and accrued expenses............................................................. $ 46,387
Due to stockholder (Note 2)....................................................................... 15,860
----------
Total current liabilities........................................................................... 62,247
----------
Stockholder's deficit:
Common stock, no par value--shares authorized, issued and outstanding: 100........................ $ 80,000
Accumulated deficit............................................................................... (117,707)
----------
Total stockholder's deficit......................................................................... (37,707)
----------
$ 24,540
----------
----------
</TABLE>
See accompanying summary of business and significant accounting
policies and notes to financial statements.
F-36
<PAGE>
ROXY SYSTEMS, INC., D/B/A MAGIC CARPET
STATEMENT OF OPERATIONS
YEAR ENDED DECEMBER 31, 1997
<TABLE>
<S> <C>
Net sales................................................................................... $ 180,569
Cost of sales............................................................................... 157,542
---------
Gross profit........................................................................... 23,027
---------
Operating expenses:
Selling, general and administrative....................................................... 79,740
---------
Net loss.................................................................................... (56,713)
Accumulated deficit, beginning of year...................................................... (60,994)
---------
Accumulated deficit, end of year............................................................ $(117,707)
---------
---------
</TABLE>
See accompanying summary of business and significant accounting
policies and notes to financial statements.
F-37
<PAGE>
ROXY SYSTEMS, INC., D/B/A MAGIC CARPET
STATEMENT OF STOCKHOLDER'S DEFICIT
YEAR ENDED DECEMBER 31, 1997
<TABLE>
<CAPTION>
ACCUMULATED
CAPITAL STOCK DEFICIT TOTAL
------------- ----------- --------
<S> <C> <C> <C>
Balance, January 1, 1997................................................. $80,000 $ (60,994) $ 19,006
Net loss................................................................. -- (56,713) (56,713)
------- --------- --------
Balance, December 31, 1997............................................... $80,000 $(117,707) $(37,707)
------- --------- --------
------- --------- --------
</TABLE>
See accompanying summary of business and significant accounting
policies and notes to financial statements.
F-38
<PAGE>
ROXY SYSTEMS, INC., D/B/A MAGIC CARPET
STATEMENT OF CASH FLOWS
YEAR ENDED DECEMBER 31, 1997
<TABLE>
<S> <C>
Cash flows from operating activities:
Net loss..................................................................................... $ (56,713)
---------
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation.............................................................................. 6,770
Allowance for doubtful accounts........................................................... 10,000
Change in assets and liabilities:
Increase in:
Accounts receivable.................................................................. (12,686)
Other assets......................................................................... (774)
Increase in accounts payable and accrued expenses....................................... 31,795
---------
Total adjustments.................................................................. 35,105
---------
Net cash used in operating activities.............................................. (21,608)
Cash flows from investing activities:
Purchase of equipment........................................................................ (3,850)
Cash flows from financing activities:
Advances received from stockholder........................................................... 20,836
---------
Net decrease in cash........................................................................... (4,622)
Cash, beginning of year........................................................................ 4,622
---------
Cash, end of year.............................................................................. $ --
---------
---------
</TABLE>
See accompanying summary of business and significant accounting
policies and notes to financial statements.
F-39
<PAGE>
ROXY SYSTEMS, INC., D/B/A MAGIC CARPET
SUMMARY OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES
BUSINESS
Roxy Systems, Inc., D/B/A Magic Carpet (the "Company") is an internet
service provider that offers "dial-up" Internet access primarily to individual
subscribers. The Company provides subscribers with direct access to a wide range
of Internet applications and resources, including electronic mail, world wide
web sites and regional and local information and data services.
USE OF ESTIMATES
The preparation of the financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
PROPERTY, EQUIPMENT AND DEPRECIATION
Equipment is stated at cost. Depreciation is computed over the estimated
useful lives of the assets by the straight-line method for property and
equipment.
REVENUE
Revenue from monthly Internet service are recognized in the month in which
services are provided.
INCOME TAXES
The Company is taxed as an S corporation under the provisions of the
Internal Revenue Code. The stockholder reports the Company's taxable income or
loss in his personal income tax return. Accordingly, Federal as well as New York
State income taxes or benefits are not reflected in the financial statements.
Deferred taxes are inconsequential as a result of the Company's tax status.
F-40
<PAGE>
ROXY SYSTEMS, INC., D/B/A MAGIC CARPET
NOTES TO FINANCIAL STATEMENTS
1. PROPERTY AND EQUIPMENT, NET
Property and equipment, as presented on the balance sheet, is as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
1997
------------
<S> <C>
Equipment....................................................................... $ 31,825
Furniture and fixtures.......................................................... 2,025
--------
33,850
Less: Accumulated depreciation.................................................. (12,770)
--------
$ 21,080
--------
--------
</TABLE>
2. RELATED PARTY TRANSACTIONS
The stockholder of the Company has made advances to the Company totaling
$15,860 at December 31, 1997. These advances were in the form of
noninterest-bearing notes that are due on demand.
The Company's operations are conducted at the home of a relative of the
stockholder on a month-to-month basis at a rate of $100 per month.
3. SUBSEQUENT EVENT
On October 9, 1998, the Company transferred all assets, trademarks, service
marks, patents, contracts and similar rights to Frontline Communications Corp.,
(the "Purchaser"). Pursuant to the agreement, the Purchaser assumed up to
$60,348 in past due obligations of the Company. Additionally, a two year
noncompete agreement was executed by the Company and all stockholders, partners,
owners, officers and directors of the Company, as relating to the ownership,
operations of, or employment in an Internet service provider or other web
services company directly competing with purchaser. In consideration thereof,
the Company received $100,000.
F-41
<PAGE>
ROXY SYSTEMS, INC., D/B/A MAGIC CARPET
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
FOR THE NINE MONTHS
ENDED SEPTEMBER 30,
----------------------
1998 1997
-------- --------
(UNAUDITED)
<S> <C> <C>
Revenues........................................................................... $192,038 $133,172
Cost of revenues................................................................... 129,521 124,503
-------- --------
Gross profit..................................................................... 62,517 8,669
-------- --------
Operating expenses:
Selling, general and administrative.............................................. 73,783 50,078
-------- --------
Net loss........................................................................... $(11,266) $(41,409)
-------- --------
-------- --------
</TABLE>
See accompanying notes to financial statements.
F-42
<PAGE>
ROXY SYSTEMS, INC., D/B/A MAGIC CARPET
STATEMENT OF STOCKHOLDERS' DEFICIT
(UNAUDITED)
<TABLE>
<CAPTION>
NINE MONTHS ENDED SEPTEMBER 30, 1998
----------------------------------------
ACCUMULATED
CAPITAL STOCK DEFICIT TOTAL
------------- ----------- --------
<S> <C> <C> <C>
Balance, December 31, 1997................................................ $80,000 $ (70,116) $ 9,884
Net loss.................................................................. 0 (11,266) (11,266)
Capital contributions..................................................... 10,000 0 10,000
------- --------- --------
Balance, September 30, 1998............................................... $90,000 $ (81,382) $ 8,618
------- --------- --------
------- --------- --------
</TABLE>
See accompanying notes to financial statements.
F-43
<PAGE>
ROXY SYSTEMS, INC., D/B/A MAGIC CARPET
STATEMENTS OF CASH FLOWS
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
<TABLE>
<CAPTION>
NINE MONTH PERIOD
ENDED SEPTEMBER 30,
--------------------
1998 1997
-------- --------
(UNAUDITED)
<S> <C> <C>
Cash flow from operating activities:
Net loss................................................................................. $(11,266) $(41,409)
Adjustments to reconcile net loss to net cash used by operating activities:
Depreciation and amortization....................................................... 16,225 0
Officer salary contributed to capital............................................... 10,000 (12,062)
Changes in assets and liabilities:
Accounts receivable................................................................. (17,569) (6,953)
Other assets........................................................................ 10,174 (124)
Accounts payable and accrued expenses............................................... 29,300 62,965
-------- --------
Net cash provided by operating activities.................................................. 36,864 2,417
-------- --------
Cash flows from investing activities:
Acquisition of equipment................................................................. (16,743) (3,788)
-------- --------
Cash flows from financing activities:
Repayments of stockholder and bank loans................................................. (15,860) (3,024)
-------- --------
Net increase (decrease) in cash and cash equivalents....................................... 4,261 (4,395)
Cash, beginning of period.................................................................. 0 4,622
-------- --------
Cash, end of period........................................................................ $ 4,261 $ 227
-------- --------
-------- --------
</TABLE>
See accompanying notes to financial statements
F-44
<PAGE>
ROXY SYSTEMS, INC., D/B/A MAGIC CARPET
NOTES TO FINANCIAL STATEMENTS (UNAUDITED)
1. BASIS OF PRESENTATION
The accompanying unaudited financial statements have been prepared in
accordance with generally accepted accounting principles for interim financial
information. Accordingly, they do not include all the information and footnotes
required by generally accepted accounting principles for complete financial
statements.
In the opinion of management, the accompanying unaudited financial
statements include all adjustments, consisting of normal recurring accruals,
considered necessary for the fair presentation of the results for interim
periods. Operating results for the nine months ended September 30, 1998 are not
necessarily indicative of the results to be expected for the full year ending
December 31, 1998.
F-45
<PAGE>
JOSEPH J. REPKO
CERTIFIED PUBLIC ACCOUNTANT
435 N. STATE ROAD
SPRINGFIELD, PENNSYLVANIA 19064
(610) 328-9551
INDEPENDENT AUDITOR'S REPORT
The Board of Directors and Shareholders
U.S. Online, Inc.
Mount Laurel, NJ 08054
I have audited the accompanying balance sheet of U.S. Online, Inc. as of
December 31, 1997 and the related statement of operations, shareholders equity,
and cash flows for the period then ended. These financial statements are the
responsibility of the Company's management. My responsibility is to express an
opinion on these financial statements based on my audit.
I conducted my audit in accordance with generally accepted auditing standards.
Those standards require that I plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free from material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
I believe that my audits provide a reasonable basis for my opinion.
The accompanying financial statements have been prepared assuming that the
company will continue as a going concern.
As shown in the financial statements, the company incurred a substantial net
loss of $1,310,142 for 1997. At December 31, 1997, current liabilities exceeded
current assets by $1,399,853 and total liabilities exceed total assets by
$1,036,621. These factors, and others discussed in Note 18 specifically the
bankruptcy filings under Chapter 11 and then conversion to Chapter 7,
liquidation, indicates that the company will not continue to exist. The
financial statements do not include any adjustments relating to the
recoverability and classification of recorded assets, or the amounts and
classification of liabilities that will be necessary in the circumstances. In
addition, I was unable to obtain written representations from one of the
directors of U.S. Online, Inc.
Because of the effects of any adjustments that might have resulted had the
ultimate outcome of the uncertainty referred to in the preceding paragraph been
known, I do not express an opinion on the financial statements referred to
above.
Joseph J. Repko, C.P.A
January 6, 1999
F-46
<PAGE>
U.S. ONLINE, INC.
COMBINED BALANCE SHEET
DECEMBER 31, 1997
<TABLE>
<S> <C>
ASSETS
Current assets:
Cash and cash equivalents.................................................................... $ 6,573
Accounts receivable:
Franchise................................................................................. 34,000
Customers................................................................................. 19,783
Due from shareholders........................................................................ 4,800
Due from franchise owners.................................................................... 34,610
-----------
Total current assets................................................................. 99,766
Fixed assets--at cost.......................................................................... 709,319
Less accumulated depreciation and amortization............................................... 187,550
-----------
521,769
Other assets:
Deposits..................................................................................... 13,647
Organization costs--net...................................................................... 12,500
-----------
26,147
-----------
Total Assets......................................................................... $ 647,682
-----------
-----------
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Current portion of capital lease obligations................................................. $ 169,512
Accounts payable and accrued expenses........................................................ 714,050
Franchise deposits........................................................................... 485,030
Sales tax payable............................................................................ 3,852
Deferred revenue............................................................................. 47,175
-----------
Total current liabilities............................................................ $ 1,419,619
Capital lease obligations, net of current portion.............................................. 264,684
-----------
Total liabilities.................................................................... 1,684,303
-----------
Shareholders' equity:
Common stock--authorized 200,000,000 shares par value $.002, issued and outstanding 9,936,000
shares.................................................................................... 19,871
Additional paid in capital..................................................................... 756,076
Accumulated deficit............................................................................ (1,812,568)
-----------
Total shareholders' equity........................................................... (1,036,621)
-----------
Total liabilities and shareholders equity............................................ $ 647,682
-----------
-----------
</TABLE>
F-47
<PAGE>
U.S. ONLINE, INC.
COMBINED STATEMENT OF OPERATIONS
YEAR ENDED DECEMBER 31, 1997
<TABLE>
<S> <C>
Operating revenue.................................................................................. $ 610,564
Cost of revenue.................................................................................... 1,119,580
-----------
Gross profit................................................................................ (509,016)
Operating expenses................................................................................. 692,789
-----------
Operating loss.............................................................................. (1,201,805)
Other income (expense)
Depreciation..................................................................................... (148,494)
Interest expense................................................................................. (70,347)
Interest income.................................................................................. 13,143
Debt forgiveness income.......................................................................... 97,361
-----------
Net loss.................................................................................... (1,310,142)
-----------
-----------
Net loss per share of common stock................................................................. $ (.21)
-----------
-----------
Weighted average shares outstanding................................................................ 6,260,319
-----------
-----------
</TABLE>
F-48
<PAGE>
U.S. ONLINE, INC
COMBINED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
YEAR ENDED DECEMBER 31, 1997
<TABLE>
<CAPTION>
CAPITAL TOTAL
COMMON STOCK IN SHARE-
--------------------- EXCESS OF ACCUMULATED HOLDERS'
SHARES AMOUNT PAR VALUE DEFICIT EQUITY
---------- ------- --------- ----------- -----------
<S> <C> <C> <C> <C> <C>
Balance, January 1, 1997....................... 875,000 $ 1,750 $ 27,858 $ (44,483) $ (14,875)
Issuance of common stock in January 1997 to
Venture Quest Shareholders for cancellation
of debt...................................... 55,000 110 12,190 12,300
Issuance of common stock in January 1997 to
Venture Quest Shareholders for investment
return under the Rule 419 offering........... 362,500 725 725
Issuance of common stock in January 1997 to
Venture Quest Shareholders for service to be
rendered..................................... 7,500 15 15
U.S. Online, Inc. prior to merger.............. 6,400,000 6,400 449,400 (457,943) (2,143)
Issuance of common stock to investors in
private placement prior to merger in June
1997 U.S. Online............................. 17,333 17 12,982 12,999
Exchange of U.S. Online Stock.................. (6,417,333) (6,417) 6,417
Issuance of common stock to U.S. Online, Inc.
shareholders in a 1:1 exchange............... 6,417,333 12,834 (12,834)
Issuance of common stock to Investors in a
private placement on July 19, 1997 at $.75
per share.................................... 19,667 39 14,711 14,750
Issuance of common stock to Investors in a
private placement on October 29, 1997 at $.25
per share.................................... 199,000 398 49,352 49,750
Issuance of common stock to Investors in a
private placement on October 29, 1997 at $.10
per share.................................... 2,000,000 4,000 196,000 200,000
Net loss for the year ended December 31,
1997......................................... (1,310,142) (1,310,142)
---------- ------- --------- ----------- -----------
Balance........................................ 9,936,000 $19,871 $ 756,076 $(1,812,568) $(1,036,621)
---------- ------- --------- ----------- -----------
---------- ------- --------- ----------- -----------
</TABLE>
F-49
<PAGE>
U.S. ONLINE, INC
COMBINED STATEMENT OF CASH FLOWS
YEAR ENDED DECEMBER 31, 1997
<TABLE>
<S> <C>
Cash flows from operating activities:
Net loss......................................................................................... $(1,310,142)
Adjustments to reconcile net (loss) to net
cash provided by operating activities:
Depreciation and amortization................................................................. 154,081
Changes in assets and liabilities:
Increase in accounts receivable............................................................. (12,143)
Decrease in due from Franchise Pop's........................................................ 63,500
Increase in due from franchise owners....................................................... (34,610)
Increase in accounts payable and accrued expenses........................................... 589,151
Increase in franchise deposits.............................................................. 88,030
Increase in deferred revenue................................................................ 47,175
Increase in sales tax payable............................................................... 3,852
-----------
Increase in security deposits............................................................... (8,459)
-----------
Net cash used in operating activities.................................................... (419,565)
-----------
Cash flows from investing activities:
Additions to property and equipment........................................................... 99,111
Payment for organizational costs.............................................................. (14,750)
-----------
Net cash used in investing activities.................................................... (113,861)
-----------
Cash flows from financing activities:
Repayment of principle under capital lease obligations........................................ (189,550)
Issuance of common stock in a private placement............................................... 264,500
-----------
Net cash provided by financing activities................................................ 74,950
-----------
Net decrease in cash..................................................................... (458,476)
Cash and cash equivalents--beginning of year....................................................... 465,049
-----------
Cash and cash equivalents--ending of year.......................................................... $ 6,573
-----------
-----------
</TABLE>
F-50
<PAGE>
U.S. ONLINE, INC.
COMBINED NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997
NOTE 1--SUMMARY OF ACCOUNTING POLICIES
Summary of Significant Accounting Policies
This summary of significant accounting policies of U.S. Online, Inc.
(formerly Venture Quest, Inc.) "the Company" is presented to assist in
understanding the Company's financial statements. The financial statements and
notes are representations of the Company's management who is responsible for
their integrity and objectivity.
Nature of Operations
U.S. Online, Inc. (formerly Venture Quest, Inc.) "the Company", was
organized under the laws of New York on July 18, 1989, and is engaged in the
business of providing computer internet access service and point of sale
internet franchise sales to customers primarily in the Eastern Region of the
United States.
Basis of Combination
The combined financial statements include the accounts of U.S. Online,
Inc., a Pennsylvania Corporation and Venture Quest, Inc., a New York
Corporation. All significant intercompany accounts and transactions have been
eliminated in the combination.
Fixed Assets
Fixed assets are stated at cost. Depreciation is provided for by the
straight-line and accelerated methods over the estimated useful lives of the
assets. Organization costs are amortized on a straight-line basis over a period
of five years.
Income Taxes
Income taxes are provided for the tax effects of transactions reported in
the financial statements and consist of taxes currently due. The Company had a
net loss of $1,310,410 at December 31, 1997 and accordingly no provision for
income taxes is necessary. The Company has loss carry forward that may be offset
against future federal income taxes expiring 2112.
Use of Estimates
In preparing financial statements in conformity with generally accepted
accounting principles, management makes estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosures of contingent
assets and liabilities at the date of the financial statements, as well as the
reported amounts of revenue and expenses during the reporting period. Actual
results could differ from those estimates.
Repairs and Maintenance
Expenditures for repairs, maintenance, and minor renewals are charged
against income as incurred and expenditures for major renewals and betterments
are capitalized and amortized over five years. The cost and accumulated
depreciation of assets sold or retired are removed from the respective accounts
with any gain or loss on disposal reflected in income.
F-51
<PAGE>
U.S. ONLINE, INC.
COMBINED NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997
NOTE 1--SUMMARY OF ACCOUNTING POLICIES--(CONTINUED)
Cash and Cash Equivalents
The Company considers cash equivalents to be those short-term investments
maturing within three months of the balance sheet date.
Loss per Share
The loss per share is based on the weighted average number of shares of
common stock outstanding during the year.
Fair Value of Financial Instruments
The note due from shareholders is based on the terms at which those same
loans would be made currently and approximate their fair value. At December 31,
1997, the carrying value of the assets were $647,682 which equates their fair
value. The carrying value of the capital lease obligations was $434,196 and are
reflective of borrowing rates currently available to the Company.
Deferred Revenue
Deferred revenue represents prepayment of customer accounts for services to
be rendered. These revenues are amortized over the number of months in the
period.
NOTE 2--CONCENTRATION OF CREDIT RISK
The Company has a potential concentration of credit risk consisting
primarily of temporary cash deposits and trade accounts receivable.
Concentrations of credit with respect to trade receivables are limited due to
the large number of customers comprising the Company's customer base and their
dispersion across different geographic locations.
NOTE 3--FIXED ASSETS
Major classifications of property and equipment are summarized below:
<TABLE>
<CAPTION>
DEC. 31, 1997
-------------
<S> <C>
Computer equipment and software................................................. $ 666,784
Furniture and Fixtures.......................................................... 41,100
Leasehold improvements.......................................................... 1,435
---------
$ 709,319
---------
---------
</TABLE>
NOTE 4--RELATED PARTY TRANSACTIONS
Balance Sheet Items
Long Term Debt
U.S. Online, Inc. had incurred a related party obligation to a company for
expenses paid on the Company's behalf. Such expenses included: payroll,
advertising, rent and other operating expenses advanced since inception. At
December 31, 1996, the net advanced costs were $242,945 and were included on the
balance sheet financial statement as long-term debt related party.
F-52
<PAGE>
U.S. ONLINE, INC.
COMBINED NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997
NOTE 4--RELATED PARTY TRANSACTIONS--(CONTINUED)
Retirement of Long Term Debt
On April 7, 1997, the Board of Directors voted to exchange $200,000 of long
term debt to a related party for POP (Point of Presence) deposits. The value of
the deposits are estimated at a fair market value established by the Board of
Directors. The deposits are to be converted later to franchises. Under such
agreement, the franchises will be located in the following territories:
Manhattan, NY, Edison, NJ, Eatontown, NJ and Morristown, NJ.
On August 3, 1997, the Board of Directors voted to exchange the remaining
$40,000 demand note to a related party for POP (Point of Presence) deposits. The
value of the deposits were issued at an estimated discount of between 28% and
38% established by the Board of Directors. The deposits are to be converted
later to franchises. Under such agreement, the franchises will be located in the
following territories: Nassau County, Long Island New York, Southern Westchester
County, New York and Vineland, New Jersey.
Advances
Related parties had advanced expenses including payroll, advertising, rent,
equipment and other expenses since inception. The amounts outstanding at
December 31, 1996 was $94,416 and were included in the financial statement as
advances from related parties.
Forgiveness of Debt (Advances)
On April 7, 1997, management reached an agreement with the related
companies concerning the advances. The related companies agreed to forgive the
advances in the amount of $97,661 of which $94,416 was listed as related party
advances on the balance sheet at December 31, 1996.
Operating Sub-Lease
The Company maintains a related party obligation on several non cancelable
operating sub-leases from a Company controlled by an executive officer of the
Company and a principle shareholder. The master leases from which the sub-leases
are derived from are guaranteed by the principles of the affiliated Company. The
details of these related party leases are as follows:
Facility rentals, monthly payments of $2,972, with certain operating
expenses and amortized costs, expiring May 1998.
Telephone system, monthly payments of $361, expiring March 1998.
Security system, monthly payments of $355, expiring May 2000.
Computer equipment, monthly payments of $979, on various leases expiring
December 1999.
NOTE 5--CAPITAL LEASE OBLIGATIONS
The Company has purchased certain computer equipment and furniture under
capital lease obligations expiring through 2001. Accordingly, SFAS 13 requires
that the asset be capitalized and depreciated and the related lease obligations
be recorded at the present value of the future minimum lease payments and
interest imputed. Some of the lease obligations are secured by the corresponding
assets, guaranteed by a related party
F-53
<PAGE>
U.S. ONLINE, INC.
COMBINED NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997
NOTE 5--CAPITAL LEASE OBLIGATIONS--(CONTINUED)
Company and personal guarantees by the executive officers and a principal
shareholder of the Company. Future minimum lease obligations at December 31,
1997 for capital lease obligations were as follows:
<TABLE>
<CAPTION>
MINIMUM
MONTHLY GROSS LEASE
OBLIGATION OBLIGATIONS
----------- -----------
<S> <C> <C>
Capital lease obligation for modem pools, including interest of 12 5/8%, expires August
2001................................................................................... $ 621 $ 27,324
Capital lease obligation for modem pools, including interest of 18 3/8%, expires December
2000................................................................................... 539 19,404
Capital lease obligation for computer network, including interest of 20 11/16%, expires
April 1998............................................................................. 101 404
Capital lease obligation for computer server, including interest of 19.2%, expires
September 1999......................................................................... 468 9,828
Capital lease obligation for computer web space, including interest of 22.8%, expires
March 1999............................................................................. 520 7,800
Capital lease obligation for computer equipment, including interest of 23 7/16%, expires
March 1999............................................................................. 414 6,210
Capital lease obligation for computer equipment, including interest of 86 1/8%, expires
February 1999.......................................................................... 259 3,626
Capital lease obligation for office furniture, including interest of 19 15/16%, expires
January 2001........................................................................... 416 15,392
Capital lease obligation for computer equipment including interest of 13.41%, expires
June 2001.............................................................................. 5,189 217,938
Capital lease obligation for furniture, including interest of 29.47%, expires April
1999................................................................................... 1,199 19,184
Capital lease obligation for computer network bundle, including interest of 5.93%,
expires May 2000....................................................................... 141 4,089
Capital lease obligation for furniture, including interest of 29.9%, expires April 2000.. 163 4,564
Capital lease obligation for copier machine, including interest of 21.05%, expires May
2002................................................................................... 175 9,275
Capital lease obligation for modem pool equipment, including interest of 25.3%, expires
April 2000............................................................................. 196 5,488
Capital lease obligation for computer equipment including interest of 11.91%, expires May
2001................................................................................... 640 26,240
Capital lease obligation for modem bundles including interest of 9.47%, expires August
1999................................................................................... 6,052 121,040
Capital lease obligation for monitors, keyboards & routers including interest of 11.91%,
expires September 2000................................................................. 235 7,755
Capital lease obligation for scanners and printers including interest of 18.05%, expires
September 2000......................................................................... 186 6,138
Capital lease obligation for racks and cards including interest of 14.0%, expires
September 2000......................................................................... 134 4,422
Capital lease obligation for net frames and processors including interest of 15.49%,
expires December 2000.................................................................. 184 6,624
Capital lease obligation for tiget switch and ports including interest of 12.8%, expires
August 2000............................................................................ 163 5,216
Capital lease obligation for master switch and conv. rack including interest of 12.81%,
expires December 2000.................................................................. 335 12,060
------- ---------
Future minimum lease payments............................................................ $18,330 $ 540,021
------- ---------
------- ---------
</TABLE>
F-54
<PAGE>
U.S. ONLINE, INC.
COMBINED NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997
NOTE 5--CAPITAL LEASE OBLIGATIONS--(CONTINUED)
Annual maturities are as follows:
<TABLE>
<S> <C>
1998............................................................................. $ 219,152
1999............................................................................. 172,548
2000............................................................................. 105,628
2001............................................................................. 41,818
Thereafter....................................................................... 875
---------
$ 540,021
Less amounts representing interest............................................... (108,554)
---------
Present value of minimum lease payments.......................................... $ 431,467
Less current portion............................................................. 169,512
---------
Capital lease obligation, net of current portion................................. $ 261,955
---------
---------
</TABLE>
NOTE 6--LEASES
The Company maintains a related party obligation on several non cancelable
operating sub-leases from a Company controlled by an executive officer of the
Company and a principle shareholder. The master leases from which the sub-leases
are derived from are guaranteed by the principles of the affiliated Company. The
details of these related party leases are as follows:
Facility rentals, monthly payments of $2,972, with certain operating
expenses and amortized costs, expiring May 1998.
Telephone system, monthly payments of $361, expiring March 1998.
Security System, monthly payments of $355, expiring May 2000.
Computer equipment, monthly payments of $979, on various leases expiring
December 1999.
Future minimum rentals under all non cancelable operating leases are as
follows:
<TABLE>
<CAPTION>
YEAR ENDING DECEMBER 31,
- -----------------------------------------------------------------------------------
<S> <C>
1998..................................................................... $23,235
1999..................................................................... 15,409
2000..................................................................... 1,225
-------
$39,869
-------
-------
</TABLE>
On August 3, 1997, the Board of Directors voted to exchange $60,000 of
related party rents, or five months of payments where the equivalent is $60,000,
for POP (Point of Presence) deposits. The value of the deposits were issued at
an estimated discount of between 28% and 38% as established by the Board of
Directors. The deposits are to be converted later to franchises. Under such
agreement, the franchises will be located in the following territories: Nassau
County, Long Island New York, Southern Westchester County, New York and
Vineland, New Jersey. (See Retirement of Long Term Debt footnote above)
NOTE 7--AGREEMENT, MERGER AND CORPORATE NAME CHANGE
On May 7, 1997, U.S. Online, Inc., a Pennsylvania Corporation, signed a
merger agreement with Venture Quest, Inc., a New York corporation. One share of
the Company's common stock was exchanged for one share of Venture Quest, Inc.
common stock with Venture Quest, Inc. being the surviving corporation. The
exchange is intended to qualify as a tax-free transaction under Section 351 of
the Internal Revenue Code.
F-55
<PAGE>
U.S. ONLINE, INC.
COMBINED NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997
NOTE 7--AGREEMENT, MERGER AND CORPORATE NAME CHANGE--(CONTINUED)
Venture Quest, Inc. has elected to adopt the U.S. Online, Inc. name effective
the date of the merger which was June 26, 1997.
NOTE 8--OMNIBUS AND SENIOR EMPLOYEE STOCK OPTION PLAN
On December 11, 1997, the Company voted to authorize 10,000,000 shares of
common stock for an employee stock option plan. The term of the plan will be
10 years. The Company issued 864,000 shares to certain executives of the Company
with various employment restrictions and an exercise price of $.25.
NOTE 9--EQUITY FINANCING, CAPITAL STOCK AND WARRANT PURCHASE SHARES
On June 19, 1997 the Board of Directors voted for the Company to offer on a
"best efforts basis", under Regulation A, 133,334 shares of common stock at a
price of $.75 per share. The offering closed with 19,667 shares being issued and
raised $14,750.
On October 29, 1997 the Board of Directors voted for the Company to offer
on a "best efforts basis", under Regulation A, 400,000 shares of common stock at
a price of $.25 per share. The offering closed with 199,000 shares being issued
and raised $49,750.
On October 29, 1997 the Board of Directors voted for the Company to offer
on a "best efforts basis", under Regulation A, 2,000,000 shares of common stock
at a price of $.10 per share with a minimum purchase of five thousand dollars
($5,000) during the third and fourth quarters of 1997. The offering closed on
October 29, 1997 with the maximum shares being issued and raised $200,000.
On July 18, 1997, the Board of Directors voted to issue to all shareholders
of record as of July 18, 1997 a Class A Common Stock Purchase Warrant with an
exercise price of $2.00 per share and a maturity of two years from issuance.
On October 31, 1997, the Board of Directors voted to issue to all
shareholders of record a Class B Common Stock Purchase Warrant, whereby the
shareholder of record could exercise the warrant shares at an exercise price of
four dollars ($4.00) per share on a one for one basis and a maturity of one year
from date of issuance.
NOTE 10--NONMONETARY TRANSACTION
Capital lease obligations were incurred for the purchase of equipment in
the amount of $428,640.
NOTE 11--FRANCHISE
The Company intends to sell Point of Presence territorial rights and
equipment under franchising arrangements. These rights granted under the
franchise will allow the franchise to exclusively market services provided by
the Company throughout a particular geographic region.
NOTE 12--RETIREMENT OF LONG-TERM DEBT AND NONMONETARY TRANSACTIONS
On April 7, 1997 and August 3, 1997 respectively, the Board of Directors
voted to exchange $242,000 of long term debt to a related party for POP (Point
of Presence) deposits. The value of the April 7, 1997 deposits are at a fair
market value and the August 3, 1997 deposits were issued at a discount as
established by the Board of Directors.
F-56
<PAGE>
U.S. ONLINE, INC.
COMBINED NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997
NOTE 13--FOREGIVENESS OF DEBT AND NONMONETARY TRANSACTIONS
On April 7, 1997 and August 3, 1997 respectively, the Company reached an
agreement with the related companies concerning outstanding debt. The related
companies agreed to forgive debt in the following amounts which are listed as
related party advances on the balance sheet at December 31, 1996.
NOTE 14--COMBINED FINANCIAL STATEMENTS
Included in the financial statements at December 31, 1997 is the following
proforma balance sheet and income statement activity of Venture Quest, Inc, the
former development stage company.
VENTURE QUEST, INC.
BALANCE SHEET
DECEMBER 31, 1997
-----------------
<TABLE>
<S> <C>
ASSETS
Cash....................................... $ 222
Loan Receivable Officers................... 1,170
--------
$ 1,392
--------
--------
LIABILITIES AND SHAREHOLDER'S EQUITY
Loan Payable Officer....................... $ 12,300
Loan Payable Affiliate..................... 2,000
--------
14,300
Common Stock............................... 1,750
Additional Paid In Capital................. 27,858
Retained Earnings.......................... (42,516)
--------
$(12,908)
--------
$ 1,392
--------
--------
VENTURE QUEST, INC.
STATEMENT OF OPERATIONS
YEAR ENDED
DECEMBER 31, 1997
-----------------
Sales...................................... $ --
Bank Fees.................................. 57
Professional Fees.......................... (3,000)
Taxes...................................... 976
--------
Net Income................................. $ 1,967
--------
--------
Retained Earnings
Beginning................................ $(44,483)
--------
Retained Earnings
Ending................................... $(42,516)
--------
--------
</TABLE>
NOTE 15--FRANCHISE DEPOSITS
The Company has received certain deposits in the amount of $344,500 which
is reflected as franchise deposit liabilities at December 31, 1997. Upon
completion of the Uniform Franchise Offering Circular and the specific
performance and obligations of the Company to install these franchise
points-of-presence (POP) the Company will recognize such amounts as revenue.
NOTE 16--REALIZATION OF ASSETS AND GOING CONCERN
As shown in the accompanying financial statements, the Company incurred a
net loss of $1,310,142 during the year ended December 31, 1997, and as of that
date, the Company's current liabilities exceeded its current assets by
$1,319,853 and its total liabilities exceeded its total assets by $1,036,621.
These factors create an uncertainty as to the Company's ability to continue as a
going concern. The Company has developed a plan to reduce its liabilities
through the sale of assets (POP franchises) and/or a possible third party
financing. The ability of the Company to continue as a going concern is
dependent upon the success of the plan. The financial statements do not include
any adjustments that might be necessary should the Company be unable to continue
as a going concern.
F-57
<PAGE>
U.S. ONLINE, INC.
COMBINED NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1997
NOTE 17--COMMITMENTS
On June 5, 1997 the Board of Directors agreed to issue 50,000 shares of
common stock to the Company's internal legal council in exchange for services.
On February 4, 1997 the Board of Directors agreed to issue 3,333 shares of
common stock to the Company's franchise legal council in exchange for services.
On December 11, 1997, the Company voted to issue the Company's Principal
Executive Officer 500,000 shares under the Senior Stock Option Plan and a
maximum compensation package of $125,000 annually inclusive of the stock
options. In addition, this employment contract would require certain performance
results.
NOTE 18--SUBSEQUENT EVENTS
Issuance of Convertible Subordinated Debentures.
The Board of Directors voted on September 16, 1997 to issue and register
with the securities and exchange commission under Regulation A, 300,000 shares
of 9% subordinated convertible debentures with a floating exercise price at a
20% discount to the average closing bid price 15 days prior to conversion and a
five year maturity. Under the Securities Purchase Agreement dated May 6, 1998,
the Company raised $300,000 by issuing these subordinated debentures and entered
into an Intercreditor Agreement with the Note Holders.
Bankruptcy Filings (Chapter 11)
On August 25, 1998 the Company filed a voluntary petition under Chapter 11
of the United States Bankruptcy Code with the United states Bankruptcy Court for
the District of New Jersey. At the time of the filing, the Company represented
that the going concern of the business exceeded its liquidation value.
Sale of Assets under Chapter 11
On or about October 23, 1998, the Company and the United States Bankruptcy
Court entered into an agreement with a competitor to sell substantially all of
its corporate assets for $566,000, including $161,000 paid to satisfy certain
executory contracts, eleven point of presence locations and all equipment
located at the Mount Laurel headquarters of the Company.
Litigation and Objections to Motions under Chapter 11 protection
Certain motions of protest were filed against the Company and its
principles for the sale of the Company's assets. In addition, an injunctive
relief and compensatory and punitive damages attributable to breach of common
law fiduciary duties as shareholders and other improper actions are being sought
by certain Point of Presence owners.
Bankruptcy Motion of Conversion from Chapter 11 to Chapter 7.
On December 21, 1998, the United States Trustee motioned to convert the
Chapter 11 petition to Chapter 7 liquidation proceedings. A United States
Trustee was appointed to liquidate the affairs of the Company based on the
debtors inability to: provide certain required documentation and schedules, to
effectuate a plan of reorganization, to pay quarterly fees due to the United
States Trustee and other supporting facts as stated in the December 21, 1998
Motion.
F-58
<PAGE>
U.S. ONLINE, INC.
SUPPLEMENTAL INFORMATION
COMBINED COST OF REVENUE
YEAR ENDED DECEMBER 31, 1997
<TABLE>
<S> <C>
Advertising......................................................................................... $ 539,164
Agent's commissions................................................................................. 33,691
Credit card settlement fees......................................................................... 18,154
Electrical expense.................................................................................. 15,184
Telecommunication charges........................................................................... 513,387
------------
$ 1,119,580
------------
------------
</TABLE>
F-59
<PAGE>
U.S. ONLINE, INC
SUPPLEMENTAL INFORMATION
COMBINED OPERATING EXPENSES
YEAR ENDED DECEMBER 31, 1997
<TABLE>
<S> <C>
Salaries office....................................................................................... $ 269,083
Payroll tax expense................................................................................... 31,918
Bank charges.......................................................................................... 15,734
Casual labor.......................................................................................... 17,358
Charity............................................................................................... 1,800
Computer supplies and software........................................................................ 13,837
Dues and subscriptions................................................................................ 1,468
Entertainment......................................................................................... 5,818
Fuel and oil.......................................................................................... 5,895
Insurance............................................................................................. 4,855
Lease--telephone system............................................................................... 3,972
Office expenses and printing.......................................................................... 25,101
Postage............................................................................................... 47,292
Professional fees..................................................................................... 41,444
Rent--office.......................................................................................... 43,931
Rent--computer room................................................................................... 589
Rental equipment...................................................................................... 7,344
Repairs and maintenance............................................................................... 7,408
Security system lease................................................................................. 4,258
Taxes Other........................................................................................... 2,193
Technical manuals..................................................................................... 2,421
Telephone............................................................................................. 126,423
Utilities............................................................................................. 12,647
----------
$ 692,789
----------
----------
</TABLE>
F-60
<PAGE>
JOSEPH J. REPKO
CERTIFIED PUBLIC ACCOUNTANT
453 N. STATE ROAD
SPRINGFIELD, PENNSYLVANIA 19064
(610) 328-9551
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Board of Directors and Stockholders
U.S. Online, Inc.
Mt. Laurel, New Jersey
I have audited the accompanying balance sheet of U.S. Online, Inc. as of
December 31, 1996, and the related statements of operations, stockholders'
equity and cash flows for the year then ended. These financial statements are
the responsibility of the Company's management. My responsibility is to express
an opinion on these financial statements based on my audit.
I conducted my audit in accordance with generally accepted auditing standards.
Those standards require that I plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
I believe that my audit provides a reasonable basis for my opinion.
In my opinion, the financial statements referred to above present fairly, in all
material respects, the financial position of U.S. Online, Inc. as of
December 31, 1996, and the results of its operations, stockholders' equity and
its cash flows for the year then ended, in conformity with generally accepted
accounting principles.
JOSEPH J. REPKO, CPA
February 8, 1997
F-61
<PAGE>
U.S. ONLINE, INC.
BALANCE SHEET
DECEMBER 31, 1996
<TABLE>
<S> <C>
ASSETS
Current assets:
Cash and cash equivalents.......................................................................... $ 459,336
Accounts receivable:
Franchise....................................................................................... 97,500
Customers....................................................................................... 7,640
Due from shareholders.............................................................................. 4,800
---------
Total current assets................................................................................. 569,276
Fixed assets--at cost................................................................................ 181,568
Less accumulated depreciation and amortization..................................................... 35,719
---------
145,849
Other assets......................................................................................... 5,188
---------
Total assets.................................................................................... $ 720,313
---------
---------
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Advances from related parties...................................................................... $ 94,416
Current portion of capital lease obligations....................................................... 38,993
Current portion of long term debt--related party................................................... 33,320
Accounts payable and accrued expenses.............................................................. 124,899
Accrued interest--related party.................................................................... 10,932
Franchise deposits................................................................................. 157,000
---------
Total current liabilities....................................................................... 459,560
Long term debt, net of current portion--related party................................................ 209,625
Capital lease obligations, net of current portion.................................................... 53,271
---------
Total liabilities............................................................................... 722,456
Shareholders' equity:
Additional paid in capital......................................................................... 449,400
Common stock--authorized 10,000,000 shares par value $.001,
issued and outstanding 6,400,000 shares......................................................... 6,400
Accumulated deficit................................................................................ (457,943)
---------
Total shareholders' equity...................................................................... (2,143)
---------
Total liabilities and shareholders equity............................................................ $ 720,313
---------
---------
</TABLE>
See accountant's audit report and notes to financial statements.
F-62
<PAGE>
U.S. ONLINE, INC.
STATEMENT OF OPERATIONS
YEAR ENDED DECEMBER 31, 1996
<TABLE>
<S> <C>
Operating revenue................................................................................... $ 143,890
Cost of revenue..................................................................................... 161,823
----------
Gross profit...................................................................................... (17,933)
Operating expenses.................................................................................. 382,917
----------
Operating loss (loss)............................................................................. (400,850)
Other income (expense):
Depreciation...................................................................................... (35,719)
Interest expense.................................................................................. (21,881)
Interest income................................................................................... 507
----------
Net loss............................................................................................ $ (457,943)
----------
----------
Net loss per share of common stock.................................................................. $ (.072)
Weighted average shares outstanding................................................................. 6,400,000
</TABLE>
See accountant's audit report and notes to financial statements.
F-63
<PAGE>
U.S. ONLINE, INC.
STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
YEAR ENDED DECEMBER 31, 1996
<TABLE>
<CAPTION>
COMMON STOCK CAPITAL IN
-------------------- EXCESS OF ACCUM'D STOCKHOLDERS'
SHARES AMOUNT PAR VALUE DEFICIT EQUITY
---------- ------- ---------- --------- -------------
<S> <C> <C> <C> <C> <C>
Balance, January 1, 1996........................... 1,000 $ 1,000 $ 1,000
Adjustment for fifty-eight hundred
to one stock split............................... 5,799,000 4,800 4,800
Issuance of common stock to investors in a Private
Placement in December 22, 1996................... 600,000 600 $449,400 450,000
Net loss for the year ended
December 31, 1996................................ $(457,943) (457,943)
---------- ------- -------- --------- ---------
Balance, December 31, 1996......................... 6,400,000 $ 6,400 $449,400 $(457,943) $ (2,143)
---------- ------- -------- --------- ---------
---------- ------- -------- --------- ---------
</TABLE>
See accountant's audit report and notes to financial statements.
F-64
<PAGE>
U.S. ONLINE, INC.
STATEMENT OF CASH FLOWS
YEAR ENDED DECEMBER 31, 1996
<TABLE>
<CAPTION>
1996
---------
<S> <C>
Cash flows from operating activities:
Net loss........................................................................................... $(457,943)
Adjustments to reconcile net (loss) to net cash provided by operating activities:
Depreciation and amortization...................................................................... 35,719
Changes in assets and liabilities:
Increase in accounts receivable................................................................. (105,140)
Increase in other assets........................................................................ (5,188)
Increase in accounts payable and accrued expenses............................................... 135,831
Increase in deposits............................................................................ 157,000
---------
Net cash used in operating activities...................................................... (239,721)
---------
Cash flows from investing activities:
Additions to property and equipment................................................................ (36,244)
Loans to stockholder............................................................................... (4,800)
---------
Net cash used in investing activities...................................................... (41,044)
Cash flows from financing activities:
Advances from related parties...................................................................... 94,416
Issuance of common stock to related parties........................................................ 5,800
Net related party loans............................................................................ 189,885
Issuance of common stock in a private placement.................................................... 450,000
---------
Net cash provided by financing activities.................................................. 740,101
---------
Net increase in cash....................................................................... 459,336
Cash and cash equivalents--beginning................................................................. --
---------
Cash and cash equivalents--ending.................................................................... $ 459,336
</TABLE>
See accountant's audit report and notes to financial statements.
F-65
<PAGE>
U.S. ONLINE, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1996
NOTE 1--SUMMARY OF ACCOUNTING POLICIES
Nature of Operations
U.S. Online, Inc. "the Company", a Pennsylvania Corporation, is engaged in
the business of providing computer internet access service and point of sale
internet franchise sales to customers primarily in the Eastern Region of the
United States.
On October 17, 1996 the Company issued an aggregate of 5,800,000 shares of
restricted common stock to its shareholders in a 5,800 to 1 stock split.
During 1996, the Company offered to private investors through a private
offering a total of 600,000 shares at an offering price of $.75 per share. The
maximum offering would raise the company $450,000, the minimum would raise
$300,000. At December 31, 1996, the Company obtained its maximum offering.
Fixed Assets
Fixed assets are stated at cost. Depreciation is provided for by the
straight-line and accelerated methods over the estimated useful lives of the
assets.
Income Taxes
The company elected to be taxed as a Subchapter "S" Corporation for both
federal and state tax purposes. Accordingly, the company's results of operations
are reflected in the shareholder's individual tax returns therefore, no tax
provision has been reflected in the accompanying financial statements. On
December 22, 1996, the company terminated its Subchapter "S" election due to the
addition of a corporate shareholder.
The company filed a regular corporate return for the short period
December 22, to December 31, 1996. No provision for taxes has been reflected on
the accompanying financial statement due to a net loss for the short period.
Use of Estimates
In preparing financial statements in conformity with generally accepted
accounting principles, management makes estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosures of contingent
assets and liabilities at the date of the financial statements, as well as the
reported amounts of revenue and expenses during the reporting period. Actual
results could differ from those estimates.
Repairs and Maintenance
Expenditures for repairs, maintenance, and minor renewals are charged
against income as incurred and expenditures for major renewals and betterments
are capitalized and amortized over five years. The cost and accumulated
depreciation of assets sold or retired are removed from the respective accounts
with any gain or loss on disposal reflected in income.
F-66
<PAGE>
U.S. ONLINE, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1996
NOTE 1--SUMMARY OF ACCOUNTING POLICIES--(CONTINUED)
Cash and Cash Equivalents
The Company considers cash equivalents to be those short-term investments
maturing within three months of the balance sheet date.
Loss per Share
The loss per share is based on the weighted average number of shares of
common stock outstanding during the year. The effect of the stock split of 5,800
to 1 has been considered in this calculation.
Fair Value of Financial Instruments
The note due from shareholders is based on the terms at which those same
loans would be made currently and approximate their fair value. At December 31,
1996, the carrying value of the assets were $720,313 which equates their fair
value. The carrying value of the capital lease obligations was $92,264, the
related party long-term note was $242,945, and the related party advances were
$94,416 and are reflective of borrowing rates currently available to the
Company.
NOTE 2--CONCENTRATION OF CREDIT RISK
The Company has a potential concentration of credit risk consisting
primarily of temporary cash deposits and trade accounts receivable.
Concentrations of credit with respect to trade receivables are limited due to
the large number of customers comprising the Company's customer base and their
dispersion across different geographic locations. At December 31, 1996, the
Company held $459,336 in one bank account which is in excess of the federal
deposit insurance company limit of $100,000 creating a potential concentration
of credit risk of $359,336.
NOTE 3--FIXED ASSETS
Major classifications of property and equipment are summarized below:
<TABLE>
<CAPTION>
1996
--------
<S> <C>
Computer equipment and software................................... $164,418
Furniture and fixtures............................................ 15,715
Leasehold improvements............................................ 1,435
--------
$181,568
--------
--------
</TABLE>
At December 31, 1996 the Company agreed to assume title of assets under
capital leases previously leased by a related party. The equipment was
physically in operation by the Company and payments were made by the Company
directly to the third party lessors.
NOTE 4--RELATED PARTY TRANSACTIONS
BALANCE SHEET ITEMS
Notes Payable
U.S. Online, Inc. has incurred a related party obligation to two companies
for expenses paid on the Company's behalf. Such expenses included: payroll,
advertising, rent and other operating expenses advanced since inception. As of
December 31, 1996, the net advanced costs were $242,945. The note bears interest
at
F-67
<PAGE>
U.S. ONLINE, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1996
NOTE 4--RELATED PARTY TRANSACTIONS--(CONTINUED)
9% annually and is payable in monthly installments of $5,043 beginning
March 15, 1997. Interest on the related party debt was $10,932 at December 31,
1996.
Annual maturities are as follows:
<TABLE>
<S> <C>
1997.............................................................. $ 33,320
1998.............................................................. 43,413
1999.............................................................. 47,486
2000.............................................................. 51,940
2001.............................................................. 56,812
2002.............................................................. 9,974
--------
$242,945
--------
--------
</TABLE>
Advances
Related parties had advanced expenses including payroll, advertising, rent,
equipment and other expenses since inception. The amounts outstanding at
December 31, 1996 was $94,416.
Operating Sub-Lease
The Company maintains a related party obligation on several non-cancelable
operating sub-leases from a Company controlled by an executive officer of the
Company and a principle shareholder. The master leases from which the sub-leases
are derived from are guaranteed by the principles of the affiliated Company. The
details of these related party leases are as follows:
Facility rentals, monthly payments of $2,972, with certain operating
expenses and amortized costs, expiring May 1998.
Telephone system, monthly payments of $361, expiring March 1998. Security
System, monthly payments of $355, expiring May 2000. Computer equipment, monthly
payments of $979, on various leases expiring December 1999.
NOTE 5--CAPITAL LEASE OBLIGATIONS
The Company has purchased certain computer equipment and furniture under
capital lease obligations expiring through 2001. Accordingly, SFAS 13 requires
that the asset be capitalized and depreciated and the related lease obligations
be recorded at the present value of the future minimum lease payments and
interest imputed. The lease obligations are secured by the corresponding assets,
guaranteed by a related party
F-68
<PAGE>
U.S. ONLINE, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1996
NOTE 5--CAPITAL LEASE OBLIGATIONS--(CONTINUED)
Company and personal guarantees by the executive officers and a principal
shareholder of the Company. Future minimum lease obligations at December 31,
1996 for capital lease obligations were as follows:
<TABLE>
<CAPTION>
MINIMUM
MONTHLY GROSS LEASE
OBLIGATIONS OBLIGATION
----------- -----------
<S> <C> <C>
Capital lease obligation for modem pools, including interest of 12 5/8%.................. $ 586 $ 32,831
Capital lease obligation for modem pools, including interest of 18 3/8%.................. 539 25,328
Capital lease obligation for computer network, including interest of 20 11/16%........... 101 1,621
Capital lease obligation for computer server, including interest of 15 1/16%............. 442 14,595
Capital lease obligation for computer web space, including interest of 18 9/16%.......... 491 13,261
Capital lease obligation for computer equipment, including interest of 23 7/16%.......... 414 11,187
Capital lease obligation for computer equipment, including interest of 86 1/8%........... 259 6,737
Capital lease obligation for office furniture, including interest of 19 15/16%........... 416 20,386
------- ---------
Future minimum lease payments............................................................ $ 3,248 $ 125,946
------- ---------
------- ---------
Annual maturities are as follows:
1997................................................................................... $ 38,993
1998................................................................................... 38,182
1999................................................................................... 25,709
2000................................................................................... 17,956
2001................................................................................... 5,106
---------
$ 125,946
---------
Less amounts representing interest....................................................... (33,682)
---------
Present value of minimum lease payments.................................................. $ 92,264
---------
Less current portion..................................................................... (38,993)
---------
Capital lease obligation, net of current portion......................................... $ 53,271
---------
---------
</TABLE>
NOTE 6--LEASES
The Company maintains a related party obligation on several non-cancelable
operating sub-leases from a Company controlled by an executive officer of the
Company and a principle shareholder. The master leases from which the sub-leases
are derived from are guaranteed by the principles of the affiliated Company. The
details of these related party leases are as follows:
Facility rentals, monthly payments of $2,972, with certain operating
expenses and amortized costs, expiring May 1998.
Telephone system, monthly payments of $361, expiring March 1998. Security
System, monthly payments of $355, expiring May 2000. Computer equipment, monthly
payments of $979, on various leases expiring December 1999.
F-69
<PAGE>
U.S. ONLINE, INC.
NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1996
NOTE 6--LEASES--(CONTINUED)
Future minimum rentals under all non-cancelable operating leases are
as follows:
<TABLE>
<CAPTION>
YEAR ENDING
DECEMBER 31,
- ----------------------------------------------------------------
<S> <C>
1997......................................................... $ 35,085
1998......................................................... 23,235
1999......................................................... 15,409
2000......................................................... 1,225
--------
$ 74,954
--------
--------
</TABLE>
NOTE 7--PROPOSED MERGER
On December 2, 1996 the Company signed a letter of intent to merge with
Venture Quest, Inc., a New York corporation. One share of the Company's common
stock will be exchanged for one share of Venture Quest, Inc. common stock with
Venture Quest, Inc. being the surviving corporation. The exchange is intended to
qualify as a tax-free transaction under Section 351 of the Internal Revenue
Code.
NOTE 8--NOTES PAYABLE
Notes Payable
U.S. Online, Inc. has incurred a related party obligation to two companies
for expenses paid on the Company's behalf. Such expenses included: payroll,
advertising, rent and other operating expenses advanced since inception. As of
December 31, 1996, the net advanced costs were $242,945. The note bears interest
at 9% annually and is payable in monthly installments of $5,043 beginning
March 15, 1997. Interest on the related party debt was $10,932 at December 31,
1996.
Annual maturities are as follows:
<TABLE>
<S> <C>
1997............................................................ $ 33,320
1998............................................................ 43,413
1999............................................................ 47,486
2000............................................................ 51,940
2001............................................................ 56,812
2002............................................................ 9,974
--------
$242,945
--------
--------
</TABLE>
NOTE 9--NONMONETARY TRANSACTION
Capital lease obligations were incurred for the purchase of equipment in
the amount of $104,512.
Related parties contributed equipment in the amount of $48,312 along with
the payment of Company expenses in the amount of $346,390. The equipment has
been recorded in the accompanying balance sheet at its fair market value on the
date of the transfer.
NOTE 10--FRANCHISE
The Company intends to sell Point of Presence territorial rights and
equipment under franchising arrangements. These rights granted under the
franchise will allow the franchise to exclusively market services provided by
the Company throughout a particular geographic region.
F-70
<PAGE>
JOSEPH J. REPKO
CERTIFIED PUBLIC ACCOUNTANT
453 N. STATE ROAD
SPRINGFIELD, PENNSYLVANIA 19064
(610) 328-9551
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
ON SUPPLEMENTARY INFORMATION
Officers and Directors
U.S Online, Inc.
Mount Laurel, NJ
My audit was made for the purpose of forming an opinion on the basic
financial statements taken as a whole of U.S. Online, Inc. for the year ended
December 31, 1996, which is presented in the preceding section of this report.
The supplementary information presented hereinafter is presented for purposes of
additional analysis and is not a required part of the basic financial
statements. Such information has been subjected to the audit procedures applied
in the audit of the basic financial statements and, in my opinion, is fairly
stated, in all material respects, in relation to the basic financial statements
taken as a whole.
JOSEPH J. REPKO, CPA
February 8, 1997
F-71
<PAGE>
U.S. ONLINE, INC.
SUPPLEMENTAL INFORMATION
COST OF REVENUE
YEAR ENDED DECEMBER 31, 1996
<TABLE>
<S> <C>
Advertising................................................................................. $ 80,131
Agent's commissions......................................................................... 7,986
Credit card settlement fees................................................................. 6,279
Electrical expense.......................................................................... 4,390
Telecommunication charges................................................................... 63,037
----------
$ 161,823
----------
----------
</TABLE>
See accountant's report on supplemental information.
F-72
<PAGE>
U.S. ONLINE, INC.
SUPPLEMENTAL INFORMATION
OPERATING EXPENSES
YEAR ENDED DECEMBER 31, 1996
<TABLE>
<S> <C>
Salaries office....................................................................................... $ 80,325
Payroll tax expense................................................................................... 7,695
Automobile expenses................................................................................... 1,126
Casual labor.......................................................................................... 13,380
Charity............................................................................................... 600
Computer supplies and software........................................................................ 40,409
Consulting............................................................................................ 20,000
Corporate taxes....................................................................................... 325
Dues and subscriptions................................................................................ 4,485
Entertainment......................................................................................... 1,177
Fuel and oil.......................................................................................... 1,071
Insurance............................................................................................. 1,645
Lease--telephone system............................................................................... 4,334
Office expenses....................................................................................... 30,221
Postage............................................................................................... 32,112
Printing.............................................................................................. 12,790
Professional fees..................................................................................... 48,640
Rent--office.......................................................................................... 35,674
Rent--computer room................................................................................... 785
Rental equipment...................................................................................... 14,181
Repairs and maintenance............................................................................... 1,741
Security system lease................................................................................. 4,876
Technical manuals..................................................................................... 865
Telephone............................................................................................. 16,946
Utilities............................................................................................. 7,514
--------
$382,917
--------
--------
</TABLE>
See accountant's report on supplemental information.
F-73
<PAGE>
U.S. ONLINE, INC.
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30,
------------------------
1998 1997
--------- ---------
(UNAUDITED)
<S> <C> <C>
Revenues............................................................................. $ 768,142 $ 408,553
Cost of revenues..................................................................... 915,454 596,710
--------- ---------
Gross loss......................................................................... (147,312) (188,157)
Operating expenses:
Selling, general and administrative................................................ 825,379 530,256
--------- ---------
Net loss............................................................................. $(972,691) $(718,413)
--------- ---------
--------- ---------
</TABLE>
See accompanying notes to financial statements.
F-74
<PAGE>
U. S. ONLINE, INC.
STATEMENT OF STOCKHOLDERS' DEFICIT
(UNAUDITED)
<TABLE>
<CAPTION>
NINE MONTHS ENDED SEPTEMBER 30, 1998
--------------------------------------
CAPITAL ACCUMULATED
STOCK DEFICIT TOTAL
-------- ----------- -----------
<S> <C> <C> <C>
Balance, December 31, 1997.............................................. $775,948 $(1,812,568) $(1,036,620)
Net loss................................................................ 0 (972,691) (972,691)
Capital contributions................................................... 24,250 0 24,250
-------- ----------- -----------
Balance, September 30, 1998............................................. $800,198 $(2,785,259) $(1,985,061)
-------- ----------- -----------
-------- ----------- -----------
</TABLE>
See accompanying notes to financial statements.
F-75
<PAGE>
U.S. ONLINE, INC.
STATEMENTS OF CASH FLOWS
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
<TABLE>
<CAPTION>
NINE MONTHS
ENDED SEPTEMBER 30,
----------------------
1998 1997
--------- ---------
(UNAUDITED)
<S> <C> <C>
Cash flow from operating activities:
Net loss.............................................................................. $(972,691) $(718,413)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization...................................................... 139,083 109,135
Allowance for doubtful accounts.................................................... -- --
Officer salary contributed to capital.............................................. -- --
Stock options issued for services.................................................. -- --
Non-cash compensation charge....................................................... -- --
Changes in assets and liabilities:
Accounts receivable.............................................................. 70,042 49,542
Notes receivable................................................................. -- --
Prepaid expenses and other....................................................... -- --
Other assets..................................................................... (2,218) (20,098)
Accounts payable and accrued expenses............................................ 644,626 362,149
Notes payable.................................................................... 166,250 --
Franchise deposits............................................................... (70,861) 187,500
Deferred revenue................................................................. 43,575 10,000
--------- ---------
Net cash provided (used) by operating activities........................................ 17,806 (20,185)
--------- ---------
Cash flows from investing activities:
Acquisition of equipment.............................................................. (72,714) (494,916)
--------- ---------
Cash flows from financing activities:
Due to related parties................................................................ -- (297,361)
Proceeds from stockholder loans & capitalized leases.................................. 25,130 354,004
Repayments of stockholder loans & capitalized leases.................................. -- --
Purchase of treasury stock............................................................ -- --
Proceeds from sale of common stock and warrants....................................... 24,250 11,164
--------- ---------
Net cash provided by financing activities............................................. 49,380 67,807
--------- ---------
Net increase (decrease) in cash and cash equivalents.................................. (5,527) (447,294)
Cash, beginning of period............................................................... 6,573 459,336
--------- ---------
Cash, end of period..................................................................... $ 1,046 $ 12,042
--------- ---------
--------- ---------
</TABLE>
See accompanying notes to financial statements.
F-76
<PAGE>
U. S. ONLINE, INC.
NOTES TO FINANCIAL STATEMENTS (UNAUDITED)
1. BASIS OF PRESENTATION
The accompanying unaudited financial statements have been prepared in
accordance with generally accepted accounting principles for interim financial
information. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements.
In the opinion of management, the accompanying unaudited financial
statements include all adjustments, consisting of normal recurring accruals,
considered necessary for a fair presentation of the results for interim periods.
Operating results for the nine months ended September 30, 1998 are not
necessarily indicative of the results to be expected for the full year ending
December 31, 1998.
F-77
<PAGE>
STEVEN H. MERMELSTEIN
CERTIFIED PUBLIC ACCOUNTANT
2523 AVENUE P
BROOKLYN, N. Y. 11229
1-718-258-6865
INDEPENDENT AUDITOR'S REPORT
To the Stockholders
Webspan, Inc.
Lakewood, N. J. 08701
I have audited the accompanying balance sheets of Webspan, Inc. (the "Company")
as of December 31, 1996 and 1997, and the related statements of operations,
stockholders' deficit and cash flows for the years then ended. These financial
statements are the responsibility of the Company's management. My responsibility
is to express an opinion on these financial statements based on my audits.
I conducted my audits in accordance with generally accepted auditing standards.
Those standards require that I plan and perform the audits to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
I believe that my audit provides a reasonable basis for my opinion.
In my opinion, the financial statements referred to above present fairly, in all
material respects, the financial position of the Company as of December 31, 1996
and 1997, and the results of its operations and its cash flows for the years
then ended in conformity with generally accepted accounting principles.
STEVEN H. MERMELSTEIN, CPA
February 8, 1999
Brooklyn, NY
F-78
<PAGE>
WEBSPAN, INC.
BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1997 1996
------------ ------------
<S> <C> <C>
ASSETS
Current:
Cash and cash equivalents......................................................... $ 45,161 $ 75,245
Accounts receivable............................................................... -- 57,428
Prepaid expenses and other current assets......................................... 48,683 29,210
------------ ------------
Total current assets........................................................... 93,844 161,883
------------ ------------
Fixed:
Equipment and equipment leases.................................................... 417,794 406,632
Less: accumulated depreciation.................................................... (213,680) (81,326)
Net fixed assets............................................................... 204,114 325,306
------------ ------------
Other assets...................................................................... 11,875 41,084
------------ ------------
Total Assets........................................................................ $ 309,833 $ 528,273
------------ ------------
------------ ------------
LIABILITIES AND STOCKHOLDERS' DEFICIT
Current:
Notes payable--current portion.................................................... $ 132,372 $ 85,416
Equipment lease payable--current portion.......................................... 19,344 19,343
Accounts payable and accrued expenses............................................. 126,810 147,985
Deferred income................................................................... 751,561 408,898
------------ ------------
Total current liabilities...................................................... 1,030,087 661,642
------------ ------------
Long term:
Notes payable--long term portion.................................................. -- 75,428
Equipment leases payable--long term portion....................................... 10,193 29,537
Deferred income................................................................... 32,890 955
------------ ------------
Total long-term liabilities.................................................... 43,083 105,920
------------ ------------
Officer loans payable............................................................... 105,322 257,932
Total liabilities.............................................................. 1,178,492 1,025,494
------------ ------------
Stockholders' deficit:
Capital stock, no par value, 1,000,000 shares authorized and issued................. 300,000 300,000
Accumulated deficit................................................................. (1,168,659) (797,221)
------------ ------------
Total stockholders' deficit.................................................... (868,659) (497,221)
------------ ------------
Total liabilities and stockholders' deficit......................................... $ 309,833 $ 528,273
------------ ------------
------------ ------------
</TABLE>
See independent auditor's report and notes to financial statements.
F-79
<PAGE>
WEBSPAN, INC.
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
FOR THE TWELVE MONTHS
ENDED DECEMBER 31,
------------------------
1997 1996
---------- ----------
<S> <C> <C>
Revenues.............................................................................. $1,265,470 $ 643,017
Cost of revenues...................................................................... 1,356,493 698,388
---------- ----------
Gross profit.......................................................................... (91,023) (55,371)
Operating expenses:
Selling, general and administrative................................................. 270,679 741,850
---------- ----------
Loss from operations.................................................................. (361,702) (797,221)
Other income (expense):
Interest expense.................................................................... 9,736 --
---------- ----------
Net loss.................................................................... $ (371,438) $ (797,221)
---------- ----------
---------- ----------
Loss per share of common stock........................................................ $ (0.37) $ (0.80)
---------- ----------
---------- ----------
Weighted average number of shares outstanding:........................................ 1,000,000 1,000,000
---------- ----------
---------- ----------
</TABLE>
See independent auditor's report and notes to financial statements.
F-80
<PAGE>
WEBSPAN, INC.
STATEMENTS OF STOCKHOLDERS' DEFICIT
TWELVE MONTHS ENDED DECEMBER 31, 1997 AND 1996
<TABLE>
<CAPTION>
ACCUMULATED
-----------------------------------------
COMMON STOCK DEFICIT TOTAL
------------- ----------- ---------
<S> <C> <C> <C>
Balance, January 1, 1996.............................................. $ -- $ -- $ --
Issue 1,000,000 shares--capital stock, no par......................... 300,000 -- 300,000
Net loss.............................................................. -- (797,221) (797,221)
--------- ----------- ---------
Balance, December 31, 1996............................................ 300,000 (797,221) (497,221)
Net loss.............................................................. -- (371,438) (371,438)
--------- ----------- ---------
Balance, December 31, 1997............................................ $ 300,000 $(1,168,659) $(868,659)
--------- ----------- ---------
--------- ----------- ---------
</TABLE>
See independent auditor's report and notes to financial statements.
F-81
<PAGE>
WEBSPAN, INC.
STATEMENTS OF CASH FLOWS
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
<TABLE>
<CAPTION>
TWELVE MONTHS
ENDED DECEMBER 31,
----------------------
1997 1996
--------- ---------
<S> <C> <C>
Cash flow from operating activities:
Net loss................................................................................ $(371,438) $(797,221)
Adjustments to reconcile net loss to net cash used by operating activities:
Depreciation and amortization......................................................... 132,354 81,326
Changes in assets and liabilities:
Accounts receivable................................................................ 57,428 (57,428)
Prepaid expenses and other......................................................... (19,473) (29,210)
Other assets....................................................................... 29,209 (41,084)
Accounts payable and accrued expenses.............................................. (21,175) 147,985
Deferred income.................................................................... 374,598 409,853
--------- ---------
Net cash used by operating activities................................................... 181,503 (285,779)
Cash flows from investing activities:
Acquisition of equipment.............................................................. (11,162) (406,632)
Net cash used by operating activities................................................... (11,162) (406,632)
--------- ---------
Cash flows from financing activities:
Proceeds from notes payable........................................................... -- 160,844
Proceeds from officer loans payable................................................... -- 257,932
Proceeds from equipment leases payable................................................ -- 48,880
Repayments of notes and officer notes payable......................................... (181,082) --
Repayments of equipment leases payable................................................ (19,343) --
Proceeds from sale of capital stock................................................... -- 300,000
--------- ---------
Net cash used by financing activities................................................... (200,425) 767,656
--------- ---------
Net increase in cash and cash equivalents:.............................................. $ (30,084) $ 75,245
Cash, beginning of period............................................................... 75,245 --
--------- ---------
Cash, end of period..................................................................... $ 45,161 $ 75,245
--------- ---------
--------- ---------
</TABLE>
See independent auditor's report and notes to financial statements.
F-82
<PAGE>
WEBSPAN, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997 AND 1996
NOTE 1--ORGANIZATION AND NATURE OF BUSINESS
The Company is a corporation organized on January 5, 1996 under the laws of
the state of New Jersey for the purpose of serving as an internet web host.
NOTE 2--EQUIPMENT AND DEPRECIATION
Equipment is stated at cost and equipment leases are all capitalized.
Depreciation is computed over a period of five (5) years using the
double-declining balance method. All equipment is subject to an U. C. C.
security interest.
NOTE 3--EQUIPMENT LEASE PAYABLE
Equipment lease payable represents the balance of lease payments due on the
capitalized leases included in note 2.
NOTE 4--NOTES PAYABLE/DEFERRED INTEREST
Net server equipment in the amount of $112,425 was purchased from U. S.
Robotics. Note payments of $7,118 are to be made monthly for 24 months of which
$58,419 represents deferred interest. The equipment is subject to an U. C. C.
filing.
NOTE 5--DEFERRED INCOME-REVENUE RECOGNITION
Deferred income applies to prepaid customer subscriptions, which if
cancelled at the customer's discretion under each of the respective plans, would
be non-forfeitable. Consequently, income will be recognizable at the point that
payments are forfeitable.
NOTE 6--SUBSEQUENT EVENTS
On January 5, 1998 CPHP, a secured creditor of Webspan, Inc., enforced a
security interest against Webspan, Inc. due to its default of an agreement dated
December 10, 1995. The U. C. C. security interest was applicable to much of the
equipment, equipment leases and to the entire customer list. This effectively
terminated Webspan Inc.'s status as a going concern. CPHP subsequently
transferred all the acquired assets to Webspan Communications, Inc. subject to a
new U. C. C. interest on the equipment and customer list in exchange for its
stock.
F-83
<PAGE>
WEBSPAN COMMUNICATIONS, INC.
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
NINE MONTHS ENDED
------------------------------
SEPTEMBER 30, SEPTEMBER 30,
1998 1997
------------- -------------
(UNAUDITED)
<S> <C> <C>
Revenues........................................................................... $ 803,741 $ 1,088,953
Cost of revenues................................................................... 837,983 1,026,724
--------- -----------
Gross (loss) profit.............................................................. (34,242) 62,229
Operating expenses:
Selling, general and administrative.............................................. 258,770 317,054
--------- -----------
Net loss........................................................................... $(293,012) $ (254,825)
--------- -----------
--------- -----------
</TABLE>
See accompanying notes to financial statements.
F-84
<PAGE>
WEBSPAN COMMUNICATIONS, INC.
STATEMENT OF STOCKHOLDERS DEFICIT
(UNAUDITED)
<TABLE>
<CAPTION>
NINE MONTHS ENDED SEPTEMBER 30, 1998
-------------------------------------
CAPITAL ACCUMULATED
STOCK DEFICIT TOTAL
--------- ----------- ---------
<S> <C> <C> <C>
Balance at January 5, 1998:
Issue 1,000,000 shares--capital stock, no par............................. $ 183,668 $ 183,668
Net loss.................................................................. $(293,012) (293,012)
Capital contributions (withdrawals)....................................... (25,000)
--------- --------- ---------
Balance, September 30, 1998............................................... $ 158,668 $(293,012) $(109,344)
--------- --------- ---------
--------- --------- ---------
</TABLE>
See accompanying notes to financial statements.
F-85
<PAGE>
WEBSPAN COMMUNICATIONS, INC.
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
NINE MONTHS ENDED
------------------------------
SEPTEMBER 30, SEPTEMBER 30,
1998 1997
------------- -------------
(UNAUDITED)
<S> <C> <C>
Cash flows from operating activities:
Net loss............................................................................ $(293,012) $(254,825)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization..................................................... 62,313 99,265
Changes in assets and liabilities:
Accounts receivable............................................................ (4,343) 54,486
Prepaid expenses and other..................................................... -- 58,419
Accounts payable and accrued expenses.......................................... 71,554 (33,385)
Deferred revenue............................................................... 317,669 102,450
--------- ---------
Net cash provided by operating activities........................................... 154,181 26,410
--------- ---------
Cash flows from investing activities:
Acquisition of equipment.......................................................... (65,574) --
--------- ---------
Cash flows from financing activities:
Capital withdrawals............................................................... (25,000) --
Repayments of notes payable....................................................... -- (78,295)
Repayment of capital leases....................................................... -- (10,531)
--------- ---------
Net cash used in financing activities............................................... (25,000) (88,826)
--------- ---------
Net increase (decrease) in cash and cash equivalents................................ 63,607 (62,416)
Cash, beginning of period........................................................... -- 75,245
--------- ---------
Cash, end of period................................................................. $ 63,607 $ 12,829
--------- ---------
--------- ---------
</TABLE>
See accompanying notes to financial statements.
F-86
<PAGE>
WEBSPAN COMMUNICATIONS, INC.
NOTES TO FINANCIAL STATEMENTS (UNAUDITED)
SEPTEMBER 30, 1998
NOTE 1--BASIS OF PRESENTATION
The accompanying unaudited financial statements have been prepared in
accordance with generally accepted accounting principles for interim financial
information. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements.
In the opinion of management, the accompanying unaudited financial
statements include all adjustment, consisting of normal recurring accruals,
considered necessary for a fair presentation of the results for interim periods.
The results for the interim periods are not necessarily indicative of the
results that may be attained for an entire year or any future periods.
NOTE 2--ORGANIZATION AND NATURE OF BUSINESS
Webspan Communications, Inc. is a corporation organized under the laws of
the State of New Jersey for the purpose of serving as an Internet web host.
Webspan, Inc., a predecessor company, engaged in an identical business, ceased
operations on January 5, 1998. CPHP, a secured creditor of Webspan, Inc.,
enforced a security interest against Webspan, Inc. due to its default of an
agreement dated December 10, 1995. The U.C.C. security interest was applicable
to much of the equipment and leases and to entire customer list. CPHP
subsequently transferred all the acquired assets to Webspan Communications Inc.,
subject to new U.C.C. security interest on the equipment and customer list, in
exchange for its stock.
NOTE 3--SUBSEQUENT EVENT
On December 17, 1998, Webspan Communications, Inc. sold substantially all
of its assets and business to Frontline Communications Corp ("Frontline") in
consideration of: $500,000 cash payment; issuance of 113,364 shares of
Frontline's common stock and assumption of $543,775 of liabilities.
F-87
<PAGE>
------------------------------------------------------
------------------------------------------------------
YOU SHOULD RELY ONLY ON THE INFORMATION CONTAINED IN THIS PROSPECTUS. WE
HAVE NOT AUTHORIZED ANYONE TO PROVIDE YOU WITH INFORMATION CONTAINED IN THIS
PROSPECTUS. WE ARE OFFERING TO SELL, AND SEEKING OFFERS TO BUY, SHARES ONLY IN
JURISDICTIONS WHERE OFFERS AND SALES ARE PERMITTED. THE INFORMATION CONTAINED IN
THIS PROSPECTUS IS ACCURATE ONLY AS OF THE DATE OF THIS PROSPECTUS, REGARDLESS
OF THE TIME OF DELIVERY OF THIS PROSPECTUS OR OF ANY SALES OF SHARES.
------------------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Prospectus Summary............................. 3
Risk Factors................................... 8
Use of Proceeds................................ 15
Price Range of Common Stock.................... 16
Dividend Policy................................ 16
Capitalization................................. 17
Management's Discussion and Analysis of
Financial Condition and Results of
Operations................................... 20
Business....................................... 24
Management..................................... 34
Principal Stockholders......................... 38
Related Party Transactions..................... 39
Description of Securities...................... 40
Shares Eligible for Future Sale................ 46
Underwriting................................... 47
Legal Matters.................................. 48
Experts........................................ 49
Additional Information......................... 49
</TABLE>
------------------------
------------------------------------------------------
------------------------------------------------------
------------------------------------------------------
------------------------------------------------------
1,000,000 SHARES
FRONTLINE
COMMUNICATIONS
CORPORATION
SERIES B CONVERTIBLE PREFERRED STOCK
---------------------------------
PROSPECTUS
---------------------------------
PRIME CHARTER LTD.
, 2000
------------------------------------------------------
------------------------------------------------------
<PAGE>
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 24. INDEMNIFICATION OF DIRECTORS AND OFFICERS.
Section 145 of the Delaware General Corporation Law (the "DGCL") contains
the provisions entitling the Registrant's directors and officers to
indemnification from judgments, fines, amounts paid in settlement, and
reasonable expenses (including attorney's fees) as the result of an action or
proceeding in which they may be involved by reason of having been a director or
officer of the Registrant. In its Certificate of Incorporation, the Registrant
has included a provision that limits, the personal liability of its directors to
the Registrant or its stockholders for monetary damages arising from a breach of
their fiduciary duties as directors except where such director (i) breaches his
duty of loyalty to the Registrant or its stockholders, (ii) fails to act in good
faith or engages in intentional misconduct or a knowing violation of law,
(iii) authorizes payment of an unlawful dividend or stock purchase or redemption
as provided in Section 174 of the DGCL, or (iv) obtains an improper personal
benefit. This provision does not prevent the Registrant or its stockholders from
seeking equitable remedies, such as injunctive relief or rescission. If
equitable remedies are found not to be available to stockholders in any
particular case, stockholders may not have any effective remedy against actions
taken by directors that constitute negligence or gross negligence.
The Certificate of Incorporation also includes provisions to the effect
that (subject to certain exceptions) the Registrant shall, to the maximum extent
permitted from time to time under the law of the State of Delaware, indemnify,
and upon request (subject to certain conditions) shall advance expenses to, any
director or officer to the extent that such indemnification and advancement of
expenses is permitted under such law, as may from time to time be in effect. In
addition, the By-Laws require the Registrant to indemnify, to the full extent
permitted by law, any person (which includes directors and officers) whom the
Registrant is empowered to indemnify pursuant to Section 145 of the DCGL, for
acts which such person reasonably believes are not in violation of the
Registrant's corporate purposes as set forth in the Certificate of
Incorporation. At present, the DGCL provides that, in order to be entitled to
indemnification, an individual must have acted in good faith and in a manner he
or she reasonably believed to be in or not opposed to the Registrant's best
interests.
Insofar as indemnification for liabilities arising under the Securities Act
of 1933 may be permitted to directors, officers and controlling persons of the
Registrant pursuant to any charter provision, by-law, contract, arrangement,
statute or otherwise, the Registrant has been advised that in the opinion of the
Securities and Exchange Commission such indemnification is against public policy
as expressed in the Securities Act of 1933 and is, therefore, unenforceable.
ITEM 25. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION.
The following table sets forth the expenses (other than the underwriting
discounts and commissions and the Representative's non-accountable expense
allowance) expected to be incurred in connection with the issuance and
distribution of the securities being registered.
<TABLE>
<S> <C>
SEC registration fee.................................................................................. $ 5,347.98
NASD filing fee....................................................................................... $ 2,150
Legal fees and expenses*.............................................................................. $ **
Printing and engraving costs*......................................................................... $ **
Accounting fees and expenses*......................................................................... $ **
American Stock Exchange listing fees and related expenses*............................................ $ **
Blue Sky fees and expenses*........................................................................... $ **
Transfer agent fees................................................................................... $ **
Miscellaneous*........................................................................................ $ **
----------
Total............................................................................................ $ 600,000
----------
----------
</TABLE>
- ------------------
* Estimated
** To be provided by amendment.
II-1
<PAGE>
ITEM 26. RECENT SALES OF UNREGISTERED SECURITIES.
The Company has made the following sales of unregistered securities in the
past three years:
In February 1997, the Company issued an aggregate of 1,168,000 shares of
its common stock for consideration of $.01 per share to the following persons:
Nicko Feinberg, Michael Char, Stephen J. Cole-Hatchard, Stephen Cole-Hatchard
Family Limited Partnership, Michael Olbermann, Vestrco, Inc., Nino Fontana,
Michael Garvey, Jeffrey Cohen, Edward Anderson, Peter Morris and Jay Edward &
Partners, Ltd.
In February 1997, the Company issued options to purchase an aggregate of
165,600 shares of common stock (net of forfeitures) to: Michael Garvey, Jeffrey
Cohen, Sharon Baker, Ron Signore, Chris Ann Stolecki and Jennifer Brodil.
Options issued to Ms. Baker and Mr. Signore were issued in consideration of
consulting services.
In May 1997, the Company issued an aggregate of 160,000 shares of common
stock for consideration of $2.00 per share to the following persons: Allen
Markowitz, William A. Barron, The Rough Group, Robert E. Sullivan and Virginia
M. Sullivan, Richard Baker, William E. Stolecki and James W. Stolecki, Doris
Cole-Hatchard, Patrick Keenan, Douglas J. Cole-Hatchard Jr., James P. Quinn and
Deborah A. Quinn, William J. Collins, Lewis L. Prince, Michael J. Dooling,
Maureen T. Donoghue, Geraldine Garvey, Edwin Kahn and Wilma R. Kahn, Bruce G.
Tracy, Elizabeth M. Dooling and FKF Holding Company, L.P.
In December 1997, the Company issued 100,000 shares of common stock and
options to purchase 80,000 shares to Ronald Shapss in consideration of
consulting services. In addition, 300,000 warrants were issued to Edward
Anderson (40,000), Doris Cole-Hatchard (64,000) and The Rough Group (196,000) in
connection with a private placement.
In October 1998, the Company issued 10 shares of Series A convertible
preferred stock to the stockholders of WOWFactor, Inc. in connection with the
Company's acquisition of all of the outstanding common stock of WOWFactor, Inc.
The Series A preferred stock is convertible into 98,218 shares of common stock.
In December 1998, the Company issued 113,364 shares of common stock to the
stockholders of Webspan, Inc. in connection with its acquisition of
substantially all of the assets of Webspan, Inc.
In February 1999, the Company issued 9,232 shares of common stock in
connection with the acquisition of ChanneliShop.com, Inc.
In March 1999, the Company issued 158,856 shares of its common stock and
warrants to purchase 21,662 shares of common stock to two investors in a private
transaction for aggregate consideration of $2,000,000.
In April 1999, the Company issued 10,000 shares of common stock to Webspan,
Inc. for the use of equipment and services of Webspan, Inc.
In May 1999, the Company issued 41,204 shares of common stock in connection
with the acquisition of WebPrime, Inc.
In May 1999, an officer of the Company exercised options to acquire 15,000
shares of common stock pursuant to the Company's stock option plan in exchange
for an interest-bearing secured promissory note in the principal amount of
$37,500.
In July 1999, the Company issued 99,900 shares of common stock and warrants
to purchase 10,900 shares of common stock to two investors for aggregate
consideration of $1,000,000, and issued warrants to purchase 2,725 shares of
common stock to the placement agent.
In August 1999, the Company issued 13,700 shares upon the exercise of
outstanding warrants.
In October 1999, the Company issued 33,065 shares of common stock in
connection with the acquisition of assets of United Computer Specialists, Inc.
In October 1999, the Company issued 105,263 shares of common stock and
warrants to purchase 11,483 shares of common stock to two investors for
aggregate consideration of $500,000, and issued warrants to purchase 2,871
shares of common stock to the placement agent.
In November 1999, the Company issued 5,974 shares of common stock to Martin
Janis & Co. in exchange for services rendered pursuant to a consulting
agreement.
In December 1999, the Company issued 26,538 shares of common stock in
connection with the acquisition of Front Host LLC.
II-2
<PAGE>
In December 1999, the Company issued 135,870 shares of common stock and
warrants to purchase 14,847 shares of common stock to two investors for
aggregate consideration of $750,000, and issued warrants to purchase 3,707
shares of common stock to the placement agent.
From April 1999 to December 1999, the Company issued an aggregate of
239,716 shares of common stock pursuant to repricing rights.
From February 1997 to December 1999, the Company issued an aggregate of
119,916 shares of common stock upon the exercise of options granted under its
stock option plan.
Each of the above investors had full access to information relating to the
Company and represented to the Company that he or she had the required
investment intent. Each of the above investors was sophisticated in that he or
she had such knowledge and experience in financial and business matters that he
or she was capable of evaluating the merits and risks of the investment. In
addition, the above-referenced securities bear appropriate restrictive legends,
and stop transfer orders were placed against such securities.
In connection with these issuances, the Company relied on the exemption
from registration offered by Section 4(2) of the Securities Act of 1933 for
transactions by an issuer not involving any public offering.
ITEM 27. EXHIBITS.
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
- ----------- -----------------------------------------------------------------------------------------------------
<S> <C>
1.1 Form of Underwriting Agreement between the Company and the Representative.
3.1 Certificate of Incorporation of the Company.+
3.2 Certificate of Amendment of the Certificate of Incorporation of the Company.++++++
3.3 By-Laws of the Company.+
4.1 Certificate of Designation of Series A preferred stock.++
4.2 Certificate of Designation of Series B preferred stock.*
4.3 Form of Representative's Warrant Agreement, including Form of Warrant Certificate.
5.1 Opinion of Tenzer Greenblatt LLP.*
10.1 Employment Agreements with Messrs. Stephen Cole-Hatchard, Nicko Feinberg and Michael Olbermann.+
10.2 Employment Agreement with Amy Wagner-Mele.*
10.3 Employment Agreement with Vasan Thatham.*
10.4 Stock Purchase Agreement dated as of October 1, 1998 by and among the Company, WOWFactor, Inc. and
the WOWFactor, Inc. stockholders.++
10.5 Form of Registration Rights Agreement among the Company and the WOWFactor, Inc. Stockholders.++
10.6 Letter Offer to Purchase Substantially all of the Assets of US Online, Inc.+++
10.7 Asset Purchase Agreement dated as of November 24, 1998 by and among the Company, Webspan, and the
sole stockholder of Webspan.++++
10.8 Amendment to Asset Purchase Agreement dated December 17, 1998 by and among the Company, Webspan, and
the sole stockholder of Webspan.++++
10.9 Form of Registration Rights Agreement among the Company and the sole stockholder of Webspan.++++
10.10 1997 Stock Option Plan of the Company.+
10.11 Stock Purchase Agreement dated March 25, 1999.+++++
10.12 Registration Rights Agreement dated March 25, 1999.+++++
10.13 Stock Purchase Agreement dated as of July 9, 1999.*
10.14 Registration Rights Agreement dated as of July 9, 1999.*
10.15 Stock Purchase Agreement dated as of October 7, 1999.*
10.16 Registration Rights Agreement dated as of October 7, 1999.*
10.17 Stock Purchase Agreement dated as of December 10, 1999.*
</TABLE>
II-3
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
------- -----------------------------------------------------------------------------------------------------
<S> <C>
10.18 Registration Rights Agreement dated as of December 10, 1999.*
10.19 Office Lease between Registrant and Glorious Sun Robert Martin LLC.+
10.20 Amendment to Office Lease.*
10.21 Promissory Note of Amy Wagner-Mele dated as of June 1, 1999.*
21.1 Subsidiaries of the Company.
23.1 Consent of BDO Seidman, LLP
23.2 Consent of Joseph J. Repko, CPA
23.3 Consent of Steven H. Mermelstein, CPA
23.4 Consent of Tenzer Greenblatt LLP (included in opinion filed as Exhibit 5)*
24.1 Power of Attorney (included in the signature page of this Registration Statement).
</TABLE>
- ------------------
* to be filed by amendment.
+ Incorporated by reference to the applicable exhibit contained in the
Company's Registration Statement on Form SB-2 (file no. 333-34115).
++ Incorporated by reference to the applicable exhibit contained in the
Company's Current Report on Form 8-K dated October 9, 1998.
+++ Incorporated by reference to the applicable exhibit contained in the
Company's Current Report on Form 8-K dated October 23, 1998.
++++ Incorporated by reference to the applicable exhibit contained in the
Company's Current Report on Form 8-K dated December 17, 1998.
+++++ Incorporated by reference to the applicable exhibit contained in the
Company's Annual Report on Form 10-KSB for the year ended December 31,
1998.
++++++ Incorporated by reference to the applicable exhibit contained in the
Company's Quarterly Report on Form 10-QSB for the quarterly period ended
June 30, 1999.
ITEM 28. UNDERTAKINGS.
(a) The undersigned Registrant hereby undertakes to:
(1) File, during any period in which it offers or sells securities, a
post-effective amendment to this registration statement to:
(i) Include any prospectus required by Section 10(a)(3) of the
Securities Act;
(ii) Reflect in the prospectus any facts or events which, individually
or together, represent a fundamental change in the information in the
registration statement. Notwithstanding the foregoing, any increase or
decrease in volume of securities offered (if the total dollar value of
securities offered would not exceed that which was registered) and any
deviation from the low or high end of the estimated maximum offering range
may be reflected in the form of prospectus filed with the Commission
pursuant to Rule 424(b) if, in the aggregate, the changes in volume and
price represent no more than a 20 percent change in the maximum aggregate
offering price set forth in the "Calculation of Registration Fee" table in
the effective registration statement.
(iii) Include any additional or changed material information on the
plan of distribution.
(2) For determining liability under the Securities Act, treat each
post-effective amendment as a new registration statement of the securities
offered, and the offering of the securities at that time to be the initial bona
fide offering.
(3) File a post-effective amendment to remove from registration any of the
securities that remain unsold at the end of the offering.
(b) Insofar as indemnification for liabilities arising under the Securities Act
may be permitted to directors, officers and controlling persons of the
Registrant pursuant to the foregoing provisions, or otherwise, the
II-4
<PAGE>
Registrant has been advised that in the opinion of the Securities and
Exchange Commission such indemnification is against public policy as
expressed in the Securities Act and is, therefore, unenforceable. In the
event that a claim for indemnification against such liabilities (other than
the payment by the Registrant of expenses incurred or paid by a director,
officer or controlling person of the Registrant in the successful defense of
any action, suit or proceeding) is asserted by such director, officer or
controlling person in connection with the securities being registered, the
Registrant will, unless in the opinion of its counsel the matter has been
settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against
public policy as expressed in the Securities Act and will be governed by the
final adjudication of such issue.
(c) The undersigned Registrant hereby undertakes for the purpose of determining
any liability under the Securities Act, to treat the information omitted
from the form of prospectus filed as part of this Registration Statement in
reliance upon Rule 430A and contained in a form of prospectus filed by the
Registrant pursuant to Rule 424(b)(1) or (4) or 497(h) under the Securities
Act as part of this Registration Statement as of the time the Securities and
Exchange Commission declares it effective; and for the purpose of
determining any liability under the Securities Act, treat each
post-effective amendment that contains a form of prospectus as a new
registration statement for the securities offered in the registration
statement, and that offering of the securities at that time as the initial
bona fide offering of those securities.
II-5
<PAGE>
SIGNATURES
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT OF 1933, THE REGISTRANT
CERTIFIES THAT IT HAS REASONABLE GROUNDS TO BELIEVE THAT IT MEETS ALL OF THE
REQUIREMENTS OF FILING ON FORM SB-2 AND HAS DULY CAUSED THIS REGISTRATION
STATEMENT TO BE SIGNED ON ITS BEHALF BY THE UNDERSIGNED, IN THE CITY OF PEARL
RIVER, STATE OF NEW YORK, ON DECEMBER 16, 1999.
FRONTLINE COMMUNICATIONS CORPORATION
By: /s/ STEPHEN J. COLE-HATCHARD
----------------------------------
Stephen J. Cole-Hatchard,
Chief Executive Officer
EACH PERSON WHOSE SIGNATURE APPEARS BELOW ON THIS REGISTRATION STATEMENT
HEREBY CONSTITUTES AND APPOINTS STEPHEN J. COLE-HATCHARD, AS HIS TRUE AND LAWFUL
ATTORNEY-IN-FACT AND AGENT, WITH FULL POWER OF SUBSTITUTION FOR HIM AND IN HIS
NAME, PLACE AND STEAD, IN ANY AND ALL CAPACITIES (UNTIL REVOKED IN WRITING) TO
SIGN ANY AND ALL AMENDMENTS (INCLUDING POST-EFFECTIVE AMENDMENTS AND AMENDMENTS
THERETO) TO THIS REGISTRATION STATEMENT ON FORM SB-2 OF FRONTLINE COMMUNICATIONS
CORPORATION AND TO FILE THE SAME, WITH ALL EXHIBITS THERETO AND OTHER DOCUMENTS
IN CONNECTION THEREWITH, WITH THE SECURITIES AND EXCHANGE COMMISSION.
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT OF 1933, THIS
REGISTRATION STATEMENT HAS BEEN SIGNED BY THE FOLLOWING PERSONS IN THE
CAPACITIES AND ON THE DATES INDICATED:
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
- ------------------------------------------ ------------------------------------------- ------------------
<S> <C> <C>
/s/ STEPHEN J. COLE-HATCHARD Chief Executive Officer, President and December 16, 1999
- ------------------------------------------ Director (Principal Executive Officer)
Stephen J. Cole-Hatchard
/s/ NICKO FEINBERG Director December 16, 1999
- ------------------------------------------
Nicko Feinberg
/s/ MICHAEL OLBERMANN Director December 16, 1999
- ------------------------------------------
Michael Olbermann
/s/ VASAN THATHAM Chief Financial Officer and Executive Vice December 16, 1999
- ------------------------------------------ President (Principal Financial and
Vasan Thatham Accounting Officer)
/s/ RONALD SIGNORE Director December 16, 1999
- ------------------------------------------
Ronald Signore
/s/ RONALD SHAPSS Director December 16, 1999
- ------------------------------------------
Ronald Shapss
</TABLE>
II-6
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
- ----------- -----------------------------------------------------------------------------------------------------
<S> <C>
1.1 Form of Underwriting Agreement between the Company and the Representative.
3.1 Certificate of Incorporation of the Company.+
3.2 Certificate of Amendment of the Certificate of Incorporation of the Company.++++++
3.3 By-Laws of the Company.+
4.1 Certificate of Designation of Series A preferred stock.++
4.2 Certificate of Designation of Series B preferred stock.*
4.3 Form of Representative's Warrant Agreement, including Form of Warrant Certificate.
5.1 Opinion of Tenzer Greenblatt LLP.*
10.1 Employment Agreements with Messrs. Stephen Cole-Hatchard, Nicko Feinberg and Michael Olbermann.+
10.2 Employment Agreement with Amy Wagner-Mele.*
10.3 Employment Agreement with Vasan Thatham.*
10.4 Stock Purchase Agreement dated as of October 1, 1998 by and among the Company, WOWFactor, Inc. and
the WOWFactor, Inc. stockholders.++
10.5 Form of Registration Rights Agreement among the Company and the WOWFactor, Inc. Stockholders.++
10.6 Letter Offer to Purchase Substantially all of the Assets of US Online, Inc.+++
10.7 Asset Purchase Agreement dated as of November 24, 1998 by and among the Company, Webspan, and the
sole stockholder of Webspan.++++
10.8 Amendment to Asset Purchase Agreement dated December 17, 1998 by and among the Company, Webspan, and
the sole stockholder of Webspan.++++
10.9 Form of Registration Rights Agreement among the Company and the sole stockholder of Webspan.++++
10.10 1997 Stock Option Plan of the Company.+
10.11 Stock Purchase Agreement dated March 25, 1999.+++++
10.12 Registration Rights Agreement dated March 25, 1999.+++++
10.13 Stock Purchase Agreement dated as of July 9, 1999.*
10.14 Registration Rights Agreement dated as of July 9, 1999.*
10.15 Stock Purchase Agreement dated as of October 7, 1999.*
10.16 Registration Rights Agreement dated as of October 7, 1999.*
10.17 Stock Purchase Agreement dated as of December 10, 1999.*
10.18 Registration Rights Agreement dated as of December 10, 1999.*
10.19 Office Lease between Registrant and Glorious Sun Robert Martin LLC.+
10.20 Amendment to Office Lease.*
10.21 Promissory Note of Amy Wagner-Mele dated as of June 1, 1999.*
21.1 Subsidiaries of the Company.
23.1 Consent of BDO Seidman, LLP
23.2 Consent of Joseph J. Repko, CPA
23.3 Consent of Steven H. Mermelstein, CPA
23.4 Consent of Tenzer Greenblatt LLP (included in opinion filed as Exhibit 5)*
24.1 Power of Attorney (included in the signature page of this Registration Statement).
</TABLE>
(Footnotes continued on next page)
<PAGE>
(Footnotes continued from previous page)
- ------------------
* to be filed by amendment.
+ Incorporated by reference to the applicable exhibit contained in the
Company's Registration Statement on Form SB-2 (file no. 333-34115).
++ Incorporated by reference to the applicable exhibit contained in the
Company's Current Report on Form 8-K dated October 9, 1998.
+++ Incorporated by reference to the applicable exhibit contained in the
Company's Current Report on Form 8-K dated October 23, 1998.
++++ Incorporated by reference to the applicable exhibit contained in the
Company's Current Report on Form 8-K dated December 17, 1998.
+++++ Incorporated by reference to the applicable exhibit contained in the
Company's Annual Report on Form 10-KSB for the year ended December 31,
1998.
++++++ Incorporated by reference to the applicable exhibit contained in the
Company's Quarterly Report on Form 10-QSB for the quarterly period ended
June 30, 1999.
<PAGE>
1,000,000 Shares
Frontline Communications Corporation
Series B Preferred Stock
UNDERWRITING AGREEMENT
----------------------
December __, 1999
Prime Charter Ltd.,
As representative of the
several Underwriters named
in Schedule A hereto
810 Seventh Avenue
New York, New York 10019
Ladies and Gentlemen:
Frontline Communications Corporation, a Delaware corporation (the
"Company"), proposes to issue and sell 1,000,000 shares (the "Firm Shares") of
its authorized but unissued Series B Preferred Stock, par value $.01 per share
(the "Series B Preferred Stock"), to Prime Charter Ltd. (the "Representative")
and the other underwriters listed on Schedule A to this Agreement (the
Representative and the other underwriters being herein collectively called the
"Underwriters"). The Company also proposes to grant to the Underwriters an
option to purchase up to an aggregate of 150,000 additional shares (the
"Overallotment Shares") of Series B Preferred Stock on the terms and conditions
set forth in Section 3(c). The Firm Shares and the Overallotment Shares are
hereinafter collectively referred to as the "Shares."
The Company wishes to confirm as follows its agreements with the
Underwriters in connection with the several purchases by the Underwriters of the
Shares.
1. Registration Statement. The Company has prepared and filed with the
Securities and Exchange Commission (the "Commission") a registration statement
on Form SB-2 (File No. __________), including a prospectus relating to the
Shares and each amendment thereto in conformity with the requirements of
<PAGE>
the Securities Act of 1933, as amended (the "Act"). There have been delivered to
the Representative signed copies of such registration statement and amendments,
together with copies of each exhibit filed therewith. Copies of such
registration statement and amendments and of the related preliminary prospectus
have been delivered to the Representative in such reasonable quantities as the
Representative has requested for each of the Underwriters. If such registration
statement has not become effective, a further amendment to such registration
statement, including a form of final prospectus, necessary to permit such
registration statement to become effective will be filed promptly by the Company
with the Commission. If such registration statement has become effective, a
final prospectus containing all Rule 430A Information (as hereinafter defined)
will be filed by the Company with the Commission in accordance with, and if
required by, Rule 424(b) of the rules and regulations of the Act (the "Rules and
Regulations") on or before the second business day after the date hereof (or
such earlier time as may be required by the Rules and Regulations).
The term "Registration Statement" as used in this Agreement shall mean
such registration statement (including all exhibits and financial statements) at
the time such registration statement becomes or became effective and, if any
post-effective amendment thereto becomes effective prior to the Closing Date (as
hereinafter defined), shall also mean such registration statement as so amended;
provided, however, that such term shall include all Rule 430A Information deemed
to be included in such registration statement at the time such registration
statement becomes effective as provided by Rule 430A of the Rules and
Regulations and shall also mean any registration statement filed pursuant to
Rule 462(b) of the Rules and Regulations with respect to the Shares. The term
"Preliminary Prospectus" shall mean any preliminary prospectus referred to in
the preceding paragraph and any preliminary prospectus included in the
Registration Statement at the time it becomes effective that omits Rule 430A
Information. The term "Prospectus" as used in this Agreement shall mean the
prospectus relating to the Shares in the form in which it is first filed with
the Commission pursuant to Rule 424(b) of the Rules and Regulations or, if no
filing pursuant to Rule 424(b) of the Rules and Regulations is required, shall
mean the form of final prospectus included in the Registration Statement at the
time such registration statement becomes effective. The term "Rule 430A
Information" means information with respect to the Shares and the offering
thereof permitted to be omitted from the Registration Statement when it becomes
effective pursuant to Rule 430A of the Rules and Regulations.
(a) Representations and Warranties. The Company hereby represents and warrants
as follows:
<PAGE>
(i) The Company has not received, and has no notice of, any order of the
Commission preventing or suspending the use of any Preliminary Prospectus, or
the institution of proceedings for that purpose, and each Preliminary
Prospectus, at the time of filing thereof, conformed in all material respects to
the requirements of the Act and the Rules and Regulations. When the Registration
Statement became or becomes, as the case may be, effective (the "Effective
Date") and at all times subsequent thereto up to and at the Closing Date (as
hereinafter defined), any later date on which Overallotment Shares are to be
purchased (the "Overallotment Closing Date") and when any post-effective
amendment to the Registration Statement becomes effective or any amendment or
supplement to the Prospectus is filed with the Commission, (A) the Registration
Statement and Prospectus, and any amendments or supplements thereto, will
contain all statements which are required to be stated therein by, and will
comply with the requirements of, the Act and the Rules and Regulations and (B)
neither the Registration Statement nor the Prospectus, nor any amendment or
supplement thereto, will include any untrue statement of a material fact or omit
to state any material fact required to be stated therein or necessary to make
the statements therein not misleading. The foregoing representations and
warranties in this Section 2(a)(i) do not apply to any statements or omissions
made in reliance on and in conformity with the information contained in the
section of the Prospectus entitled "Underwriting." The Company has not
distributed any offering material in connection with the offering or sale of the
Shares other than the Registration Statement, the Preliminary Prospectus, the
Prospectus or any other materials, if any, permitted by the Act.
(i) The Company has been duly incorporated and is validly existing as a
corporation in good standing under the laws of the State of Delaware, with full
corporate power and authority to own, lease and operate its properties and
conduct its business as described in the Registration Statement. The Company is
duly qualified to do business as a foreign corporation in good standing in each
jurisdiction where the ownership or leasing of its properties or the conduct of
its business requires such qualification, except where the failure so to qualify
would not have a material adverse effect on the business, properties, prospects,
financial condition or results of operations of the Company (a "Material Adverse
Effect"). The Company has no subsidiaries (as defined in the Rules and
Regulations) other than its wholly owned subsidiaries, CLEC Communications,
Inc., and WOW Factor, Inc. (the "Subsidiaries"). The Company does not own,
directly or indirectly, any shares of stock or any other equity or long-term
debt securities of any corporation or have any equity interest in any firm,
partnership, joint venture,
<PAGE>
association or other entity other than its Subsidiaries. Complete and correct
copies of the certificates of incorporation and of the bylaws of the Company and
all amendments thereto have been delivered to the Representative and no changes
therein will be made subsequent to the date hereof and prior to the Closing Date
or, if later, the Overallotment Closing Date.
(i) The Company has full power and authority (corporate and other) to enter into
this Agreement and the agreement between the Company and the Representative
relating to issuance of the Representative's Warrants (as hereinafter defined)
(the "Representative's Warrant Agreement"), which is being executed concurrently
herewith, and to perform the transactions contemplated hereby and thereby to be
performed by it. Each of this Agreement and the Representative's Warrant
Agreement has been duly authorized, executed and delivered by the Company and is
a valid and binding agreement on the part of the Company, enforceable against
the Company in accordance with its terms, except as rights to indemnity and
contribution hereunder may be limited by applicable laws or equitable principles
and except as enforcement hereof or thereof may be limited by applicable
bankruptcy, insolvency, reorganization or other similar laws relating to or
affecting creditors' rights generally or by general equitable principles. The
performance of this Agreement and the Representative's Warrant Agreement by the
Company and the consummation by the Company of the transactions contemplated
hereby and thereby will not result in a breach or violation of any of the terms
and provisions of, or constitute a default under, (A) any indenture, mortgage,
deed of trust, loan agreement, bond, debenture, note agreement or other evidence
of indebtedness, or any lease, contract or other agreement or instrument to
which the Company is a party or by which its properties are bound, (B) the
certificate of incorporation or bylaws of the Company or (C) any law, order,
rule, regulation, writ, injunction or decree of any court or governmental agency
or body to which the Company is subject. The Company is not required to obtain
or make (as the case may be) any consent, approval, authorization, order,
designation or filing by or with any court or regulatory, administrative or
other governmental agency or body as a requirement for the consummation by the
Company of the transactions contemplated by this Agreement or the
Representative's Warrant Agreement, except such as may be required under the
Act, the Securities Exchange Act of 1934, as amended (the "Exchange Act") or
under state securities or blue sky ("Blue Sky") laws or under the rules and
regulations of the Nasdaq SmallCap Market ("Nasdaq SmallCap").
(i) There is not pending or, to the Company's knowledge, threatened, any action,
suit, claim, proceeding or investigation against the Company or any of its
officers or any
<PAGE>
of its properties, assets or rights before any court or governmental agency or
body or otherwise which might result in a Material Adverse Effect or prevent
consummation of the transactions contemplated hereby. There are no statutes,
rules, regulations, agreements, contracts, leases or documents that are required
to be described in the Prospectus, or to be filed as exhibits to the
Registration Statement by the Act or by the Rules and Regulations that have not
been accurately described in all material respects in the Prospectus or filed as
exhibits to the Registration Statement.
(i) All outstanding shares of capital stock of the Company have been duly
authorized and validly issued and are fully paid and nonassessable, have been
issued in compliance with all federal and state securities laws and were not
issued in violation of any preemptive right, resale right, right of first
refusal or similar right. The authorized and outstanding capital stock of the
Company conforms in all material respects to the description thereof contained
in the Registration Statement and the Prospectus (and such description correctly
states the substance of the provisions of the instruments defining the capital
stock of the Company). The Shares have been duly authorized for issuance and
sale to the Underwriters pursuant to this Agreement and, when issued and
delivered by the Company against payment therefor in accordance with the terms
of this Agreement, will be duly and validly issued and fully paid and
nonassessable. The shares of common stock of the company issuable upon
conversion of the Shares (the "Converted Shares") have been duly authorized,
when issued, and be duly and validly issued and fully paid and nonassessable. No
preemptive right, co-sale right, right of first refusal or other similar rights
of security holders exists with respect to any of the Shares or the issue and
sale thereof other than those that have been expressly waived prior to the date
hereof. No holder of securities of the Company has the right to cause the
Company to include such holder's securities in the Registration Statement. The
Representative's Warrant Agreement and the Representative's Warrants (as
hereinafter defined) conform in all material respects to the descriptions
thereof contained in the Registration Statement and the Prospectus. The shares
of Series B Preferred Stock issuable upon exercise of the Representative's
Warrants (the "Warrant Shares") have been duly authorized for issuance and sale
to the holders of the Representative's Warrants pursuant to the Representative's
Warrant Agreement and, when issued and delivered by the Company against payment
therefor in accordance with the terms of the Representative's Warrant Agreement,
will be duly and validly issued and fully paid and nonassessable. The shares of
common stock issuable upon conversion of the Warrant Shares (the "Converted
Warrant Shares") have been duly authorized and when issued, will be duly and
<PAGE>
validly issued and fully paid and nonassessable. No further approval or
authorization of any security holder, the Board of Directors or any duly
appointed committee thereof or others is required for the issuance and sale or
transfer of the Shares or the Converted Shares or the Warrant Shares or the
Converted Warrant Shares, except as may be required under the Act, the Exchange
Act or Blue Sky laws. Except as disclosed in or contemplated by the Prospectus
and the financial statements of the Company and the related notes thereto,
included in the Prospectus, the Company does not have outstanding any options or
warrants to purchase, or any preemptive rights or other rights to subscribe for
or to purchase, any securities or obligations convertible into, or any contracts
or commitments to issue or sell, shares of its capital stock or any such
options, rights, convertible securities or obligations. The description of the
Company's stock option and other plans or arrangements, and the options or other
rights which may be or have been granted thereunder, set forth in the Prospectus
accurately and fairly presents, in all material respects, the information
required to be shown with respect to such plans, arrangements, options and
rights.
(i) BDO Seidman LLP (the "Accountants") who have examined the financial
statements, together with the related schedules and notes, of the Company filed
with the Commission as a part of the Registration Statement, which are included
in the Prospectus, are independent public accountants within the meaning of the
Act and the Rules and Regulations. The financial statements of the Company,
together with the related schedules and notes, forming part of the Registration
Statement and the Prospectus, fairly present the financial position and the
results of operations of the Company at the respective dates and for the
respective periods to which they apply. All financial statements, together with
the related schedules and notes, filed with the Commission as part of the
Registration Statement have been prepared in accordance with generally accepted
accounting principles as in effect in the United States consistently applied
throughout the periods involved except as may be otherwise stated in the
Registration Statement. The selected and summary financial and statistical data
included in the Registration Statement present fairly the information shown
therein and have been compiled on a basis consistent with the financial
statements presented therein. No other financial statements or schedules are
required by the Act or the Rules and Regulations to be included in the
Registration Statement.
(i) Subsequent to the respective dates as of which information is given in the
Registration Statement and the Prospectus, there has not been (A) any material
adverse change, or any development which, in the Company's reasonable judgment,
<PAGE>
is likely to cause a material adverse change, in the business, prospects,
properties or assets described or referred to in the Registration Statement, or
the results of operations, condition (financial or otherwise), business or
operations of the Company, (B) any transaction which is material to the Company,
except transactions in the ordinary course of business, (C) any obligation,
direct or contingent, which is material to the Company, incurred by the Company,
except obligations incurred in the ordinary course of business, (D) any change
in the capital stock or outstanding indebtedness of the Company or (E) (except
as specifically described in the Prospectus) any dividend or distribution of any
kind declared, paid or made on the capital stock of the Company. The Company has
no material contingent obligation which is not disclosed in the Registration
Statement.
(i) Except as set forth in the Prospectus, (A) the Company has good and
marketable title to all material properties and assets described in the
Prospectus as owned by it, free and clear of any pledge, lien, security
interest, charge, encumbrance, claim, equitable interest or restriction, (B) the
agreements to which the Company is a party described in the Prospectus are valid
agreements, enforceable against the Company in accordance with their respective
terms, except as enforcement may be limited by applicable bankruptcy,
insolvency, reorganization, moratorium or other similar laws relating to or
affecting creditors' rights generally or by general equitable principles and
except as rights to indemnity and contribution thereunder may be limited by
applicable laws or equitable principles, and, to the Company's knowledge, the
other contracting party or parties thereto are not in material breach or default
under any of such agreements and (C) the Company has valid and enforceable
leases for the properties described in the Prospectus as leased by it, and such
leases conform in all material respects to the description thereof, if any, set
forth in the Registration Statement.
(ii) The Company now holds and at the Closing Date and any later Overallotment
Closing Date, as the case may be, will hold, all licenses, certificates,
approvals and permits from all state, United States, foreign and other
regulatory authorities that are material to the conduct of the business of the
Company (as such business is currently conducted), except for such licenses,
certificates, approvals and permits the failure of which to hold would not have
a Material Adverse Effect), all of which are valid and in full force and effect
(and there is no proceeding pending or, to the knowledge of the Company,
threatened which may cause any such license, certificate, approval or permit to
be withdrawn, canceled, suspended or not renewed). The Company is not in
violation of its certificate of incorporation or bylaws, or, except for defaults
or violations which would not have a Material Adverse Effect, in default in the
<PAGE>
performance or observance of any obligation, agreement, covenant or condition
contained in any bond, debenture, note or other evidence of indebtedness or in
any contract, indenture, mortgage, loan agreement, joint venture or other
agreement or instrument to which it is a party or by which it or any of its
properties are bound, or in violation of any law, order, rule, regulation, writ,
injunction or decree of any court or governmental agency or body.
(i) The Company has filed on a timely basis all necessary federal, state and
foreign income, franchise and other tax returns and has paid all taxes shown
thereon as due, and the Company has no knowledge of any tax deficiency which has
been or might be asserted against the Company which might have a Material
Adverse Effect. All material tax liabilities are adequately provided for within
the financial statements of the Company.
(i) The Company maintains insurance of the types and in the amounts adequate for
its business and consistent with insurance coverage maintained by similar
companies in similar businesses, including, but not limited to, business
interruption insurance and real and personal property owned or leased against
theft, damage, destruction, acts of vandalism and all other risks customarily
insured against, all of which insurance is in full force and effect.
(i) The Company is not involved in any labor dispute or disturbance nor, to the
knowledge of the Company, is any such dispute or disturbance threatened.
(i) The Company owns or possesses adequate licenses or other rights to use all
patents, trademarks, service marks, tradenames, copyrights, trade secrets,
know-how, franchises, and other material intangible property and assets
(collectively, "Intellectual Property") necessary to the conduct of its business
as conducted and as proposed to be conducted as described in the Prospectus. The
Company has no knowledge that it lacks or will be unable to obtain any rights or
licenses to use any of the Intellectual Property necessary to conduct the
business now conducted or proposed to be conducted by it as described in the
Prospectus. The Prospectus fairly and accurately describes the Company's rights
with respect to the Intellectual Property. The Company has not received any
notice of infringement or of conflict with rights or claims of others with
respect to any Intellectual Property.
(i) The Company is not an "investment company," or a "promoter" or "principal
underwriter" for a registered investment company, as such terms are defined in
the Investment Company Act of 1940, as amended.
<PAGE>
(i) The Company has not incurred any liability for a fee or commission or other
compensation on account of the employment of a broker or finder in connection
with the transactions contemplated by this Agreement other than the underwriting
discounts and commissions contemplated hereby.
(i) The Company (A) is in compliance with any and all applicable United States,
foreign, state and local environmental laws, rules, regulations, treaties,
statutes and codes promulgated by any and all governmental authorities relating
to the protection of human health and safety, the environment or toxic
substances or wastes, pollutants or contaminants ("Environmental Laws"), (B) has
received all permits, licenses or other approvals required of it under
applicable Environmental Laws to conduct its business as currently conducted and
(C) is in compliance with all terms and conditions of any such permit, license
or approval, except where such noncompliance with Environmental Laws, failure to
receive required permit licenses or other approvals would not, individually or
in the aggregate, have a Material Adverse Effect. No action, proceeding,
revocation proceeding, writ, injunction or claim is pending or threatened
relating to the Environmental Laws or to the Company's activities involving
Hazardous Materials. "Hazardous Materials" means any material or substance (i)
that is prohibited or regulated by any environmental law, rule, regulation,
order, treaty, statute or code promulgated by any governmental authority, or any
amendment or modification thereto, or (ii) that has been designated or regulated
by any governmental authority as radioactive, toxic, hazardous or otherwise a
danger to health, reproduction or the environment.
(i) The Company has not engaged in the generation, use, manufacture,
transportation or storage of any Hazardous Materials on any of the Company's
properties or former properties, except where such use, manufacture,
transportation or storage is in compliance with Environmental Laws. No Hazardous
Materials have been treated or disposed of on any of the Company's properties or
on properties formerly owned or leased by the Company during the time of such
ownership or lease, except in compliance with Environmental Laws. No spills,
discharges, releases, deposits, emplacements, leaks or disposal of any Hazardous
Materials have occurred on or under or have emanated from any of the Company's
properties or former properties.
(i) The Company has not at any time during the last five years (A) made any
unlawful contribution to any candidate for foreign office, or failed to disclose
fully any contribution in violation of law, or (B) made any payment to any
foreign, United States or state governmental officer or official, or other
person charged with similar public or quasi-public
<PAGE>
duties, other than payments required or permitted by the laws of the United
States.
(i) The Company has taken no action designed to, or likely to have the effect
of, terminating the registration of the Common Stock of the Company under the
Exchange Act or delisting the Common Stock from the Nasdaq SmallCap, nor has the
Company received any notification that the Commission, or Nasdaq SmallCap is
contemplating terminating such registration or listing.
(i) Neither the Company nor, to its knowledge, any of its officers, directors or
affiliates has taken, and at the Closing Date and at any later Overallotment
Closing Date, neither the Company nor, to its knowledge, any of its officers,
directors or affiliates will have taken, directly or indirectly, any action
which has constituted, or might reasonably be expected to constitute, the
stabilization or manipulation of the price of sale or resale of the Shares.
(i) The Company has obtained and delivered to the Representative agreements (the
"Lock-Up Agreements") from each of the persons and entities listed on Schedule B
hereto, representing all of the Company's executive officers and directors
providing that such person or entity will not, commencing on the date of the
Prospectus and continuing for a 12-month period thereafter, without the
Representative's prior written consent, directly or indirectly, offer to sell,
sell, pledge, solicit an offer to buy, contract to sell, grant any option for
the sale thereof, or otherwise encumber, or cause the transfer or disposition
of, any shares of Series B Preferred Stock or any securities convertible into or
exchangeable or exercisable for, Series B Preferred Stock, or exercise any
registration rights with respect to any shares of Series B Preferred Stock or
any securities convertible into or exchangeable or exercisable for any Shares of
Series B Preferred Stock.
(i) The Company agrees that it will not, without the Representative's prior
written consent, amend or grant waivers with respect to any existing agreement
between the Company and its executive officers, directors or stockholders (or
holders of securities convertible into or exchangeable or exercisable for equity
securities of the Company) who have not entered into a Lock-Up Agreement with
the Representative and under which such securityholders' ability to transfer
their securities is restricted (the "Existing Lock-Up Agreements"); the Company
further acknowledges and agrees, and will promptly give written notice to the
parties to the Existing Lock-Up Agreements, that the Representative has
specified that the one-year period commencing on the Effective Date shall be the
period during which
<PAGE>
such securityholders' ability to transfer their securities shall be restricted
under the Existing Lock-Up Agreements; and the Company agrees that it will, at
its own expense, strictly enforce the Existing Lock-Up Agreements and, if the
Company fails to do so, it will be deemed to have assigned to the Representative
all of the Company's rights under the Existing Lock-Up Agreements and will
indemnify the Representative for all expenses, as and when incurred, arising out
of the Representative's enforcement of the Existing Lock-Up Agreements.
(i) The Company has not distributed and, prior to the latest to occur of (A) the
Closing Date, (B) the Overallotment Closing Date and (C) the completion of the
distribution of the Shares, will not distribute any offering material in
connection with the offering and sale of the Shares other than the Registration
Statement or any amendment thereto, any Preliminary Prospectus or the Prospectus
or any amendment or supplement thereto, or other materials, if any, as permitted
by the Act.
1. Purchase of the Shares by the Underwriters.
(a) On the basis of the representations and warranties and subject to the terms
and conditions herein set forth, the Company agrees to issue and sell the Firm
Shares to the several Underwriters, and each of the Underwriters agrees to
purchase from the Company the respective aggregate number of Firm Shares set
forth opposite its name on Schedule A, plus such additional number of Firm
Shares which such Underwriter may become obligated to purchase pursuant to
Section 3(b) hereof. The price at which such Firm Shares shall be sold by the
Company and purchased by the several Underwriters shall be $____ per share. In
making this Agreement, each Underwriter is contracting severally and not
jointly; except as provided in Section 3(b) and Section 3(c), the agreement of
each Underwriter is to purchase only the respective number of Firm Shares
specified on Schedule A.
(a) If for any reason one or more of the Underwriters shall fail or refuse
(otherwise than for a reason sufficient to justify the termination of this
Agreement under the provisions of Section 10 hereof) to purchase and pay for the
number of Shares agreed to be purchased by such Underwriter or Underwriters, the
non-defaulting Underwriters shall have the right within 24 hours after such
default to purchase, or procure one or more other Underwriters to purchase, in
such proportions as may be agreed upon between the Representative and such
purchasing Underwriter or Underwriters and upon the terms herein set forth, all
or any part of the Shares which such defaulting Underwriter or Underwriters
agreed to purchase. If the non-
<PAGE>
defaulting Underwriters fail so to make such arrangements with respect to all
such Shares and portion, the number of Shares which each non-defaulting
Underwriter is otherwise obligated to purchase under this Agreement shall be
automatically increased on a pro rata basis (as adjusted by the Representative
in such manner as the Representative deems advisable to avoid fractional shares)
to absorb the remaining shares and portion which the defaulting Underwriter or
Underwriters agreed to purchase; provided, however, that the non-defaulting
Underwriters shall not be obligated to purchase the Shares and portion which the
defaulting Underwriter or Underwriters agreed to purchase if the aggregate
number of such Shares exceeds 10% of the total number of Shares which all
Underwriters agreed to purchase hereunder. If the total number of Shares which
the defaulting Underwriter or Underwriters agreed to purchase shall not be
purchased or absorbed in accordance with the two preceding sentences, the
Company shall have the right, within 24 hours next succeeding the 24-hour period
referred to above, to make arrangements with other underwriters or purchasers
reasonably satisfactory to the Representative for purchase of such Shares and
portion on the terms herein set forth. In any such case, either the
Representative or the Company shall have the right to postpone the Closing Date
determined as provided in Section 5 hereof for not more than seven business days
after the date originally fixed as the Closing Date pursuant to said Section 5
in order that any necessary changes in the Registration Statement, the
Prospectus or any other documents or arrangements may be made. If the aggregate
number of Shares which the defaulting Underwriter or Underwriters agreed to
purchase exceeds 10% of the total number of Shares which all Underwriters agreed
to purchase hereunder, and if neither the non-defaulting Underwriters nor the
Company shall make arrangements within the 24-hour periods stated above for the
purchase of all the Shares which the defaulting Underwriter or Underwriters
agreed to purchase hereunder, this Agreement shall be terminated without further
act or deed and without any liability on the part of the Company to any
non-defaulting Underwriter and without any liability on the part of any
non-defaulting Underwriter to the Company. Nothing in this Section 3(b), and no
action taken hereunder, shall relieve any defaulting Underwriter from liability
in respect of any default of such Underwriter under this Agreement.
(a) On the basis of the representations, warranties and covenants herein
contained, and subject to the terms and conditions herein set forth, the Company
hereby grants an option to the several Underwriters to purchase up to 150,000
shares of Series B Preferred Stock at the same price per share as the
Underwriters shall pay for the Firm Shares. Such option may be exercised only to
cover overallotments in the sale of the Firm Shares by the Underwriters and may
be exercised in whole or in
<PAGE>
part at any time, or from time to time, on or before the 30th day after the date
of the Prospectus upon written or telegraphic notice by the Representative to
the Company setting forth the aggregate number of Overallotment Shares as to
which the Underwriters are exercising the option. Delivery of certificates for
the Overallotment Shares, and payment therefor, shall be made as provided in
Section 5 hereof. Each Underwriter shall purchase such percentage of the
Overallotment Shares as is equal to the percentage of Firm Shares that such
Underwriter is purchasing, the exact number of shares to be adjusted by the
Representative in such manner as the Representative deems advisable to avoid
fractional shares.
(a) On the Closing Date, the Company shall issue and deliver to the
Representative, or at the direction of the Representative, to its designees as
provided in the Representative's Warrant Agreement, for a purchase price of
$.001 per Representative's Warrant (an aggregate of $100), the Representative's
Warrants entitling the holder thereof to purchase 100,000 shares of Series B
Preferred Stock on the terms and conditions set forth in the Representative's
Warrant Agreement.
1. Offering by Underwriters.
The terms of the offering of the Shares by the Underwriters
shall be as set forth in the Prospectus.
1. Delivery of and Payment for the Shares and the Representative's Warrants.
(a) Delivery of certificates for the Firm Shares, the Overallotment Shares (if
the option granted pursuant to Section 3(c) hereof shall have been exercised not
later than 1:00 p.m., New York time, on the date at least two business days
preceding the Closing Date) and the Representative's Warrants, and payment
therefor, shall be made at the office of Proskauer Rose LLP, 1585 Broadway, New
York, New York 10036-8299 at 9:00 a.m., New York City time, on the fourth
business day after the date of this Agreement, or at such time on such other
day, not later than seven full business days after such fourth business day, as
shall be agreed upon in writing by the Company and the Representative (the
"Closing Date").
(a) If the option granted pursuant to Section 3(c) hereof shall be exercised
after 1:00 p.m., New York City time, on the date two business days preceding the
Closing Date, and on or before the 45th day after the date of this Agreement,
delivery of certificates for the Overallotment Shares, and payment therefor,
shall be made at the office of Proskauer
<PAGE>
Rose LLP, 1585 Broadway, New York, New York 10036-8299 at 9:00 a.m., New York
City time, on the third business day after the exercise of such option.
(a) Payment for the Shares shall be made to the Company, by either a same day
funds check or federal funds wire transfer. Such payment shall be made upon
delivery of certificates for the Shares to the Representative for the respective
accounts of the several Underwriters against receipt therefor signed by the
Representative. Certificates for the Shares to be delivered to the
Representative shall be registered in such name or names and shall be in such
denominations as the Representative may request at least three business days
before the Closing Date, in the case of Firm Shares, and at least two business
days prior to the Overallotment Closing Date, in the case of the Overallotment
Shares. Such certificates will be made available to the Underwriters for
inspection, checking and packaging at a location in New York, New York,
designated by the Underwriters not less than one full business day prior to the
Closing Date or, in the case of the Overallotment Shares, by 3:00 p.m., New York
time, on the business day preceding the Overallotment Closing Date.
It is understood that the Representative, individually and not
on behalf of the Underwriters, may (but shall not be obligated to) make payment
to the Company for shares to be purchased by any Underwriter whose check shall
not have been received by the Representative on the Closing Date or any later
Overallotment Closing Date. Any such payment by the Representative shall not
relieve such Underwriter from any of its obligations hereunder.
(a) Payment for the Representative's Warrants shall be made to the Company or
its order, by either a same day funds check or federal funds wire transfer. Such
payment shall be made upon delivery of certificates for the Representative's
Warrants to the Representative against receipt therefor signed by the
Representative. Certificates for the Representative's Warrants to be delivered
to the Representative shall, subject to the terms and provisions of the
Representative's Warrant Agreement, be registered in such name or names as
permitted by the Representative's Warrant Agreement and shall be in such
denominations as the Representative may request at least three business days
before the Closing Date.
<PAGE>
1. Further Agreements of the Company. The Company covenants and agrees as
follows:
(a) The Company will use its best efforts to cause the Registration Statement
and any amendment thereof, if not effective at the time and date that this
Agreement is executed and delivered by the parties hereto, to become effective
as promptly as possible; it will notify the Representative, promptly after it
shall receive notice thereof, of the time when the Registration Statement or any
subsequent amendment to the Registration Statement has become effective or any
supplement to the Prospectus has been filed. If the Company omitted information
from the Registration Statement at the time it was originally declared effective
in reliance upon Rule 430A(a), the Company will provide evidence satisfactory to
the Representative that the Prospectus contains such information and has been
filed, within the time period prescribed, with the Commission pursuant to
subparagraph (1) or (4) of Rule 424(b) of the Rules and Regulations or as part
of a post-effective amendment to such Registration Statement as originally
declared effective which is declared effective by the Commission. If for any
reason the filing of the final form of Prospectus is required under Rule
424(b)(3) of the Rules and Regulations, it will provide evidence satisfactory to
the Representative that the Prospectus contains such information and has been
filed with the Commission within the time period prescribed. The Company will
notify the Representative promptly of any request by the Commission for the
amending or supplementing of the Registration Statement or the Prospectus or for
additional information. Promptly upon the Representative's request, it will
prepare and file with the Commission any amendments or supplements to the
Registration Statement or Prospectus which, in the reasonable opinion of counsel
to the Representative, may be necessary or advisable in connection with the
distribution of the Shares by the Underwriters. The Company will promptly
prepare and file with the Commission, and promptly notify the Representative of
the filing of, any amendments or supplements to the Registration Statement or
Prospectus which may be necessary to correct any statements or omissions, if, at
any time when a prospectus relating to the Shares is required to be delivered
under the Act, any event shall have occurred as a result of which the Prospectus
or any other prospectus relating to the Shares as then in effect would include
an untrue statement of a material fact or omit to state any material fact
necessary to make the statements therein, in light of the circumstances under
which they were made, not misleading. In case any Underwriter is required to
deliver a prospectus within the nine-month period referred to in Section
10(a)(3) of the Act in connection with the sale of the Shares, the Company will
prepare promptly upon request, but at the expense of such Underwriter, such
amendment or amendments to the Registration Statement and such prospectus or
prospectuses as may be necessary to permit compliance with the requirements of
Section 10(a)(3) of the Act. The Company will file no amendment
<PAGE>
or supplement to the Registration Statement or Prospectus that shall not
previously have been submitted to the Representative a reasonable time prior to
the proposed filing thereof or to which the Representative shall reasonably
object in writing or which is not in compliance with the Act and Rules and
Regulations or the provisions of this Agreement.
(a) The Company will advise the Representative, promptly after it shall receive
notice or obtain knowledge thereof, of the issuance of any stop order by the
Commission suspending the effectiveness of the Registration Statement or the use
of the Prospectus or of the initiation or threat of any proceeding for that
purpose; and it will promptly use its best efforts to prevent the issuance of
any such stop order or to obtain its withdrawal at the earliest possible moment
if such stop order should be issued.
(a) The Company will cooperate with the Representative in endeavoring to qualify
the Shares for offering and sale under the securities laws of such jurisdictions
as the Representative may designate and to continue such qualifications in
effect for so long as may be required for purposes of the distribution of the
Shares, except that the Company shall not be required in connection therewith or
as a condition thereof to qualify as a foreign corporation, or to execute a
general consent to service of process in any jurisdiction, or to make any
undertaking with respect to the conduct of its business. In each jurisdiction in
which the Shares shall have been qualified, the Company will make and file such
statements, reports and other documents in each year as are or may be reasonably
required by the laws of such jurisdictions so as to continue such qualifications
in effect for so long a period as the Representative may reasonably request for
distribution of the Shares, or as otherwise may be required by law.
(a) The Company will furnish to the Representative, as soon as available, copies
of the Registration Statement (three of which will be signed and which will
include all exhibits), each Preliminary Prospectus, the Prospectus, and any
amendments or supplements to such documents, including any prospectus prepared
to permit compliance with Section 10(a)(3) of the Act, all in such quantities as
the Representative may from time to time reasonably request.
(a) The Company will make generally available to its stockholders as soon as
practicable, but in any event not later than the 45th day following the end of
the fiscal quarter first occurring after the first anniversary of the Effective
Date, an earnings statement (which will be in reasonable detail but need not be
audited) complying with the provisions of
<PAGE>
Section 11(a) of the Act and Rule 158 of the Rules and Regulations and covering
a 12-month period beginning after the Effective Date, and will advise the
Representative in writing when such statement has been made available.
(a) During a period of five years after the date hereof, the Company, as soon as
practicable after the end of each respective period, will furnish to its
stockholders annual reports (including financial statements audited by
independent certified public accountants) and will furnish to its stockholders
unaudited quarterly reports of operations for each of the first three quarters
of the fiscal year, and will, upon request, furnish to the Representative and
the other several Underwriters hereunder (i) concurrently with making such
reports available to its stockholders, statements of operations of the Company
for each of the first three quarters in the form made available to the Company's
stockholders; (ii) concurrently with the furnishing thereof to its stockholders,
a balance sheet of the Company as of the end of such fiscal year, together with
statements of operations, of stockholders' equity and of cash flow of the
Company for such fiscal year, accompanied by a copy of the certificate or report
thereon of nationally recognized independent certified public accountants; (iii)
concurrently with the furnishing of such reports to its stockholders, copies of
all reports (financial or other) mailed to stockholders; (iv) as soon as they
are available, copies of all reports and financial statements furnished to or
filed with the Commission, any securities exchange or automated quotation system
by the Company (except for documents for which confidential treatment is
requested); and (v) every material press release and every material news item or
article in respect of the Company or its affairs which was generally released to
stockholders or prepared for general release by the Company. During such
five-year period, if the Company shall have any active subsidiaries, the
foregoing financial statements shall be on a consolidated basis to the extent
that the accounts of the Company are consolidated with any subsidiaries, and
shall be accompanied by similar financial statements for any significant
subsidiary that is not so consolidated.
(a) The Company shall not, during the 12 months following the Effective Date,
except with the Representative's prior written consent, file, or announce an
intent to file, a registration statement covering to any public offering of its
shares of capital stock.
(a) The Company shall not, during the 12 months following the Effective Date,
except with the prior written consent of the Representative, in its individual
capacity and not in its capacity as representative of the Underwriters, issue,
<PAGE>
sell, offer or agree to sell, grant, distribute or otherwise dispose of,
directly or indirectly, any shares of Series B Preferred Stock, or any options,
rights or warrants with respect to shares of Series B Preferred Stock, or any
securities convertible into or exchangeable for Series B Preferred Stock, other
than the issuance of (i) the Overallotment Shares, and (ii) the Representative's
Warrants.
(a) The Company will apply the net proceeds from the sale of the Shares being
sold by it in the manner set forth under the caption "Use of Proceeds" in the
Prospectus.
(a) The Company will maintain a transfer agent and a registrar (which may be the
same entity as the transfer agent) for the Series B Preferred Stock.
(a) The Company will use its best efforts to maintain listing of its shares of
Common Stock and its Series B Preferred Stock on the American Stock Exchange
("Amex").
(a) The Company is familiar with the Investment Company Act of 1940, as amended,
and the rules and regulations thereunder, and has in the past conducted its
affairs, and will in the future conduct its affairs, in such a manner so as to
ensure that the Company was not and will not be an "investment company" within
the meaning of the Investment Company Act of 1940, as amended, and the rules and
regulations thereunder.
(a) The Company will, at the option of the Representative, (i) during a period
of ____ years from the Effective Date, use its best efforts to nominate and
cause to be elected and reelected to the Board of Directors of the Company a
designee of the Representative or (ii) during a period of _____ years from the
Effective Date, permit an agent of the Representative to attend all meetings of
the Board of Directors of the Company as a non-voting observer, will give such
agent notice of all meetings of the Board of Directors at the same time and in
the same manner that directors are notified and will reimburse such agent for
all expenses incurred in attending such meetings, including, but not limited to
food, transportation and lodging.
1. Expenses.
The Company agrees with each Underwriter that:
(a) The Company will pay and bear all costs, fees and expenses in connection
with the preparation, printing and filing of the Registration Statement
(including all amendments, supplements, financial statements, schedules and
exhibits), as
<PAGE>
many Preliminary Prospectuses and final Prospectuses and any amendments or
supplements thereto that the Representative reasonably deems necessary; the
reproduction of this Agreement; the issuance and delivery of the Shares and the
Representative's Warrants, including stock transfer taxes, if any; the cost of
all stock certificates representing the Shares and transfer agents' and
registrars' fees; the fees and disbursements of counsel for the Company; all
fees and other charges of the Company's independent public accountants; the cost
of furnishing to the several Underwriters copies of the Registration Statement
(including appropriate exhibits), Preliminary Prospectuses and the Prospectus;
NASD filing fees and expenses incident to securing any required review; all fees
and expenses relating to the listing of the Shares and the Warrant Shares on the
Amex; all fees, expenses and disbursements relating to the registration or
qualification of the Shares under the securities laws of such states and other
jurisdictions as the Representative may reasonably designate (including, without
limitation, all filing and registration fees and fees and disbursements of the
Representative's counsel in connection with Blue Sky matters, such as the
Preliminary Blue Sky Memoranda and any supplemental Blue Sky Memoranda and any
instruments relating to any of the foregoing; the fees and disbursements of
counsel to the Underwriters (not to exceed $_________) in connection with the
offering, this Agreement and the transactions contemplated hereby; the costs of
all mailing and printing of the underwriting documents (including, but not
limited to, the Underwriting Agreement, any Blue Sky surveys and memoranda and,
if appropriate, any Agreement Among Underwriters, Selected Dealers Agreement,
Underwriter's Questionnaire and Power of Attorney); the costs of preparing,
printing and delivering certificates representing the Shares and the
Representative's Warrants; and all other expenses directly incurred by the
Company in connection with the performance of its obligations hereunder.
(a) If the transactions contemplated hereby are not consummated by reason of any
failure, refusal or inability on the part of the Company to perform any
agreement on its part to be performed hereunder or to fulfill any condition of
the Underwriters' obligations hereunder, the Company will, in addition to paying
the expenses described in Section 7(a), reimburse the several Underwriters for
all out-of-pocket expenses (including fees and disbursements of Underwriters'
counsel without the limitations therein set forth in Section 7(a)) incurred by
the Underwriters in reviewing the Registration Statement and the Prospectus and
in otherwise investigating, preparing to market or marketing the Shares; such
fees and expenses not to exceed ________.
<PAGE>
(a) The Representative, in its individual capacity and not as representative of
the Underwriters, shall also be entitled to a non-accountable expense allowance
equal to 3% of the aggregate offering price of the Shares. The Company has
previously paid the Representative an aggregate of $100,000 in partial payment
of such non-accountable expense allowance, which amount shall be non-refundable
(notwithstanding the termination of this Agreement for any reason) and will be
applied against the non-accountable expense allowance.
1. Conditions of Underwriters' Obligations.
The obligations of the several Underwriters to purchase and pay for the
Shares, as provided herein, shall be subject: (x) to the accuracy, as of the
date hereof and the Closing Date and any later Overallotment Closing Date, as
the case may be, of the representations and warranties of the Company herein and
to the performance by the Company of its obligations hereunder; and (y) to the
following additional conditions:
(a) The Registration Statement shall have become effective not later than 9:00
a.m., New York City time, on the day immediately following the date of this
Agreement, or such later time or date as shall be consented to in writing by the
Representative. If the filing of the Prospectus, or any supplement thereto, is
required pursuant to Rule 424(b) and Rule 430A of the Rules and Regulations, the
Prospectus shall have been filed in the manner and within the time period
required by Rule 424(b) and Rule 430A of the Rules and Regulations. No stop
order suspending the effectiveness of the Registration Statement shall have been
issued and no proceeding for that purpose shall have been initiated or, to the
knowledge of the Company or any Underwriter, threatened by the Commission, and
any request of the Commission for additional information (to be included in the
Registration Statement or the Prospectus or otherwise) shall have been complied
with to the reasonable satisfaction of counsel to the Underwriters.
(a) All corporate proceedings and other legal matters in connection with this
Agreement, the form of Registration Statement, and the Prospectus, and the
registration, authorization, issue, sale and delivery of the Shares shall have
been reasonably satisfactory to counsel to the Underwriters, and such counsel
shall have been furnished with such papers and information as they may
reasonably have requested to enable them to pass upon the matters referred to
herein.
(a) The Representative shall have received, at no cost to it, on the Closing
Date and on any later Overallotment Closing Date, as the case may be, (the
opinion of Tenzer
<PAGE>
Greenblatt, LLP, counsel to the Company, dated the Closing Date or such later
Overallotment Closing Date, in the form attached hereto as Appendix A. Such
opinion shall be addressed to the Underwriters and with reproduced copies of
signed counterparts thereof for the Representative.
(a) The Representative shall have received from Proskauer Rose LLP,
Underwriters' Counsel, an opinion or opinions, dated the Closing Date or on any
later Overallotment Closing Date, as the case may be, in form and substance
reasonably satisfactory to the Representative, with respect to certain legal
matters as the Representative may reasonably require, and the Company shall have
furnished to such counsel such documents as it may have reasonably requested for
the purpose of enabling it to pass upon such matters.
(a) The Representative shall have received on the Closing Date and on any later
Overallotment Closing Date, as the case may be, a letter from the Accountants
addressed to the Company and the Underwriters, dated the Closing Date or such
later Overallotment Closing Date, as the case may be, confirming that it is an
independent certified public accountant with respect to the Company within the
meaning of the Act and the Rules and Regulations thereunder and based upon the
procedures described in its letter delivered to the Representative concurrently
with the execution of this Agreement (herein called the "Original Letter"), but
carried out to a date not more than three days prior to the Closing Date or any
such later Overallotment Closing Date, as the case may be, (i) confirming that
the statements and conclusions set forth in the Original Letter are accurate as
of the Closing Date or such later Overallotment Closing Date, as the case may
be; and (ii) setting forth any revisions and additions to the statements and
conclusions set forth in the Original Letter that are necessary to reflect any
changes in the facts described in the Original Letter since the date of such
letter, or to reflect the availability of more recent financial statements, data
or information. The letter shall not disclose any change, or any development
involving a prospective change, in or affecting the business or properties of
the Company which, in the Representative's reasonable judgment, makes it
impracticable or inadvisable to proceed with the public offering of the Shares
as contemplated by the Prospectus. In addition, the Representative shall have
received from the Accountants a letter addressed to the Company and made
available to the Representative for the use of the Underwriters stating that its
review of the Company's system of internal accounting controls, to the extent it
deemed necessary in establishing the scope of its latest examination of the
Company's financial statements, did not disclose any weaknesses in internal
controls that it considered to be material
<PAGE>
weaknesses. All such letters shall be in a form reasonably satisfactory to the
Representative and its counsel.
(a) The Representative shall have received on the Closing Date and on any later
Overallotment Closing Date, as the case may be, a certificate of the President
and the Chief Financial Officer of the Company, dated the Closing Date or such
later date, to the effect that as of such date (and the Representative shall be
satisfied that as of such date):
(i) The representations and warranties of the Company in this Agreement are true
and correct, as if made on and as of the Closing Date or any later Overallotment
Closing Date, as the case may be; and the Company has complied with all of the
agreements and satisfied all of the conditions on its part to be performed or
satisfied at or prior to the Closing Date or any later Overallotment Closing
Date, as the case may be;
(ii) The Registration Statement has become effective under the Act and no stop
order suspending the effectiveness of the Registration Statement or preventing
or suspending the use of the Prospectus has been issued, and no proceedings for
that purpose have been instituted or are pending or, to the best of their
knowledge, threatened under the Act;
(iii) They have carefully reviewed the Registration Statement, and the
Prospectus; and, when the Registration Statement became effective and at all
times subsequent thereto up to the delivery of such certificate, the
Registration Statement and the Prospectus and any amendments or supplements
thereto contained all statements and information required to be included therein
or necessary to make the statements therein not misleading; and when the
Registration Statement became effective, and at all times subsequent thereto up
to the delivery of such certificate, none of the Registration Statement, the
Prospectus or any amendment or supplement thereto included any untrue statement
of a material fact or omitted to state any material fact required to be stated
therein or necessary to make the statements therein not misleading; and, since
the Effective Date, there has occurred no event required to be set forth in an
amended or supplemented Prospectus that has not been so set forth; and
(iv) Subsequent to the respective dates as of which information is given in the
Registration Statement, and the Prospectus, there has not been (A) any material
adverse change in the properties or assets described or referred to in the
Registration Statement and the Prospectus or in the condition (financial or
otherwise), operations, business or prospects of the Company, (B) any
transaction which is material to the
<PAGE>
Company, except transactions entered into in the ordinary course of business,
(C) any obligation, direct or contingent, incurred by the Company, which is
material to the Company, except obligations incurred in the ordinary course of
business in accordance with past practices,(D) any change in the capital stock
or outstanding indebtedness of the Company which is material to the Company or
(E) any dividend or distribution of any kind declared, paid or made on the
capital stock of the Company, except as specifically described in the
Prospectus.
(a) The Company shall have furnished to the Representative such further
certificates and documents as the Representative shall reasonably request as to
the accuracy of the representations and warranties of the Company herein, as to
the performance by the Company of its obligations hereunder and as to the other
conditions precedent to the obligations of the Underwriters hereunder.
(a) The Firm Shares and the Overallotment Shares, if any, shall have been
approved for listing upon notice of issuance on the Amex.
All such opinions, certificates, letters and documents will be in
compliance with the provisions hereof only if they are reasonably satisfactory
to counsel to the Underwriters. The Company will furnish the Representative with
such number of conformed copies of such opinions, certificates, letters and
documents as the Representative shall reasonably request.
<PAGE>
1. Indemnification and Contribution.
(a) Subject to the provisions of Section 9(g), the Company agrees to indemnify
and hold harmless each Underwriter and each person (including each partner or
officer thereof) who controls any Underwriter within the meaning of Section 15
of the Act from and against any and all losses, claims, damages or liabilities,
joint or several, to which such indemnified parties or any of them may become
subject under the Act, the Exchange Act, the common law or otherwise, and the
Company agrees to reimburse each such Underwriter and controlling person for any
legal or other out-of-pocket expenses (including, except as otherwise
hereinafter provided, reasonable fees and disbursements of counsel) incurred by
the respective indemnified parties in connection with defending against any such
losses, claims, damages or liabilities or in connection with any investigation
or inquiry of, or other proceeding which may be brought against, the respective
indemnified parties, in each case arising out of or based upon (i) any untrue
statement or alleged untrue statement of a material fact contained in the
Registration Statement (including the Prospectus as part thereof and any 462(b)
registration statement) or any post-effective amendment thereto (including any
462(b) registration statement), or the omission or alleged omission to state
therein a material fact required to be stated therein or necessary to make the
statements therein not misleading, or (ii) any untrue statement or alleged
untrue statement of a material fact contained in any Preliminary Prospectus or
the Prospectus (as amended or as supplemented if the Company shall have filed
with the Commission any amendment thereof or supplement thereto) or the omission
or alleged omission to state therein a material fact necessary in order to make
the statements therein, in the light of the circumstances under which they were
made, not misleading; provided, however, that (1) the indemnity agreements of
the Company contained in this Section 9(a) shall not apply to any such losses,
claims, damages, liabilities or expenses if such statement or omission is
contained in the section of the Prospectus entitled "Underwriting," and (2) the
indemnity agreement contained in this paragraph (a) with respect to any
Preliminary Prospectus shall not inure to the benefit of any Underwriter from
whom the person asserting any such losses, claims, damages, liabilities or
expenses purchased the Shares which is the subject thereof (or to the benefit of
any person controlling such Underwriter) if at or prior to the written
confirmation of the sale of such Shares a copy of the Prospectus (or the
Prospectus as amended or supplemented) was not sent or delivered to such person
(excluding any documents incorporated therein by reference) and the untrue
statement or omission of a material fact contained in such Preliminary
Prospectus was corrected in the Prospectus (or the Prospectus as amended or
supplemented) unless the failure is the result of noncompliance by the Company
with Section 6(a) hereof.
<PAGE>
(a) Each Underwriter severally agrees to indemnify and hold harmless the
Company, each of its executive officers, each of its directors, each other
Underwriter and each person (including each partner or officer thereof) who
controls the Company or any such other Underwriter within the meaning of Section
15 of the Act, from and against any and all losses, claims, damages or
liabilities, joint or several, to which such indemnified parties or any of them
may become subject under the Act, the Exchange Act, the common law or otherwise
and to reimburse each of them for any legal or other expenses (including, except
as otherwise hereinafter provided, reasonable fees and disbursements of counsel)
incurred by the respective indemnified parties in connection with defending
against any such losses, claims, damages or liabilities or in connection with
any investigation or inquiry of, or other proceeding which may be brought
against, the respective indemnified parties, in each case arising out of or
based upon (i) any untrue statement or alleged untrue statement of a material
fact contained in the Registration Statement (including the Prospectus as part
thereof and any Rule 462(b) registration statement) or any post-effective
amendment thereto (including any 462(b) registration statement) or the omission
or alleged omission to state therein a material fact required to be stated
therein or necessary to make the statements therein not misleading or (ii) any
untrue statement or alleged untrue statement of a material fact contained in any
Preliminary Prospectus or the Prospectus (as amended or as supplemented if the
Company shall have filed with the Commission any amendment thereof or supplement
thereto) or the omission or alleged omission to state therein a material fact
necessary in order to make the statements therein, in the light of the
circumstances under which they were made, not misleading; provided, however,
that in the cases of clauses (i) and (ii) above, such statement or omission is
contained in the Section of the Prospectus entitled "Underwriting."
(a) Each party indemnified under the provision of Section 9(a),(b) or (c) agrees
that, upon the service of a summons or other initial legal process upon it in
any action or suit instituted against it or upon its receipt of written
notification of the commencement of any investigation or inquiry of, or
proceeding against it, in respect of which indemnity may be sought on account of
any indemnity agreement contained in such paragraphs, it will promptly give
written notice (a "Notice") of such service or notification to the party or
parties from whom indemnification may be sought hereunder. No indemnification
provided for in such Section 9(a), (b) or (c) shall be available to any party
who shall fail so to give the Notice if the party to whom such Notice was not
given was unaware of the action, suit, investigation, inquiry or proceeding to
which the Notice would have related and was prejudiced by the failure to give
the
<PAGE>
Notice, but the omission so to notify such indemnifying party or parties of any
such service or notification shall not relieve such indemnifying party or
parties from any liability which it or they may have to the indemnified party
for contribution or otherwise than on account of such indemnity agreement. Any
indemnifying party shall be entitled at its own expense to participate in the
defense of any action, suit or proceeding against, or investigation or inquiry
of, an indemnified party. Any indemnifying party shall be entitled, if it so
elects within a reasonable time after receipt of the Notice by giving written
notice (the "Notice of Defense") to the indemnified party, to assume (alone or
in conjunction with any other indemnifying party or parties) the entire defense
of such action, suit, investigation, inquiry or proceeding, in which event such
defense shall be conducted, at the expense of the indemnifying party or parties,
by counsel chosen by such indemnifying party or parties and reasonably
satisfactory to the indemnified party or parties; provided, however, that (i) if
the indemnified party or parties reasonably determine that there may be a
conflict between the positions of the indemnifying party or parties and of the
indemnified party or parties in conducting the defense of such action, suit,
investigation, inquiry or proceeding or that there may be legal defenses
available to such indemnified party or parties different from or in addition to
those available to the indemnifying party or parties, then counsel for the
indemnified party or parties shall be entitled to conduct the defense to the
extent reasonably determined by such counsel to be necessary to protect the
interests of the indemnified party or parties and (ii) in any event, the
indemnified party or parties shall be entitled, at its or their own expense to
have counsel chosen by such indemnified party or parties participate in, but not
conduct, the defense. It is understood that the indemnifying parties shall not,
in respect of the legal defenses of any indemnified party in connection with any
proceeding or related proceedings in the same jurisdiction, be liable for (a)
the fees and expenses of more than one separate firm (in addition to any local
counsel) for all of the Underwriters and each person, if any, who controls any
Underwriter within the meaning of Section 15 of the Act, and (b) the fees and
expenses of more than one separate firm (in addition to any local counsel) for
the Company, its directors, its officers who sign the Registration Statement and
each person, if any, who controls the Company within the meaning of Section 15
of the Act. If, within a reasonable time after receipt of the Notice, an
indemnifying party gives a Notice of Defense and the counsel chosen by the
indemnifying party or parties is reasonably satisfactory to the indemnified
party or parties, the indemnifying party or parties will not be liable under
Section 9(a), (b) or (c) for any legal or other expenses subsequently incurred
by the indemnified party or parties in connection with the defense of the
action, suit,
<PAGE>
investigation, inquiry or proceeding, except that (A) the indemnifying party or
parties shall bear the legal and other expenses incurred in connection with the
conduct of the defense as referred to in clause (i) of the proviso to the
preceding sentence and (B) the indemnifying party or parties shall bear such
other expenses as it or they have authorized to be incurred by the indemnified
party or parties. If, within a reasonable time after receipt of the Notice, no
Notice of Defense has been given, the indemnifying party or parties shall be
responsible for any legal or other expenses incurred by the indemnified party or
parties in connection with the defense of the action, suit, investigation,
inquiry or proceeding. The indemnifying party or parties shall not be liable for
any settlement of any proceeding effected without its or their written consent,
provided such consent has not been unreasonably withheld.
(a) If the indemnification provided for in this Section 9 is unavailable or
insufficient to hold harmless an indemnified party under Section 9(a), (b) or
(c), then each indemnifying party shall, in lieu of indemnifying such
indemnified party, contribute to the amount paid or payable by such indemnified
party as a result of the losses, claims, damages or liabilities referred to in
Section 9(a), (b) or (c),(i) in such proportion as is appropriate to reflect the
relative benefits received by each indemnifying party from the offering of the
Shares or (ii) if the allocation provided by clause (i) above is not permitted
by applicable law, in such proportion as is appropriate to reflect not only the
relative benefits referred to in clause (i) above but also the relative fault of
each indemnifying party in connection with the statements or omissions that
resulted in such losses, claims, damages or liabilities, or actions in respect
thereof, as well as any other relevant equitable considerations. The relative
benefits received by the Company, on the one hand, and the Underwriters, on the
other, shall be deemed to be in the same respective proportions as the total net
proceeds from the offering of the Shares received by the Company and the total
underwriting discount received by the Underwriters, as set forth in the table on
the cover page of the Prospectus, bear to the aggregate public offering price of
the Shares. Relative fault shall be determined by reference to, among other
things, whether the untrue or alleged untrue statement of a material fact or the
omission or alleged omission to state a material fact relates to information
supplied by each indemnifying party and the parties' relative intent, knowledge,
access to information and opportunity to correct or prevent such untrue
statement or omission.
The parties agree that it would not be just and equitable if
contributions pursuant to Section 9(e) were to be determined by pro rata
allocation (even if the Underwriters were
<PAGE>
treated as one entity for such purpose) or by any other method of allocation
which does not take into account the equitable considerations referred to in the
first sentence of this Section 9(e). The amount paid by an indemnified party as
a result of the losses, claims, damages or liabilities or actions in respect
thereof, referred to in the first sentence of this Section 9(e) shall be deemed
to include any legal or other expenses reasonably incurred by such indemnified
party in connection with investigation, preparation to defend or defense against
any action or claim which is the subject of this Section 9(e). Notwithstanding
the provisions of this Section 9(e), no Underwriter shall be required to
contribute any amount in excess of the underwriting discount applicable to the
Shares purchased by such Underwriter. No person guilty of fraudulent
misrepresentation (within the meaning of Section 11(f) of the Act) shall be
entitled to contribution from any person who was not guilty of such fraudulent
misrepresentation. The Underwriters' obligations in this Section 9(e) to
contribute are several in proportion to their respective underwriting
obligations and not joint.
Each party entitled to contribution agrees that upon the
service of a summons or other initial legal process upon it in any action
instituted against it in respect of which contribution may be sought, it will
promptly give written notice of such service to the party or parties from whom
contribution may be sought, but the omission so to notify such party or parties
of any such service shall not relieve the party from whom contribution may be
sought from any obligation it may have hereunder or otherwise (except as
specifically provided in Section 9(d)).
(a) The Company will not, without the prior written consent of each Underwriter,
settle or compromise or consent to the entry of any judgment in any pending or
threatened claim, action, suit or proceeding in respect of which indemnification
may be sought hereunder (whether or not such Underwriter or any person who
controls such Underwriter within the meaning of Section 15 of the Act or Section
20 of the Exchange Act is a party to such claim, action, suit or proceeding)
unless such settlement, compromise or consent includes an unconditional release
of such Underwriter and each such controlling person from all liability arising
out of such claim, action, suit or proceeding.
(a) The parties to this Agreement hereby acknowledge that they are sophisticated
business persons who were represented by counsel during the negotiations
regarding the provisions hereof, including without limitation the provisions of
this Section 9 and are fully informed regarding said provisions.
<PAGE>
They further acknowledge that the provisions of this Section 9 fairly allocate
the risks in light of the ability of the parties to investigate the Company and
its business in order to assure that adequate disclosure is made in the
Registration Statement and Prospectus as required by the Act and the Exchange
Act.
1. Termination. This Agreement may be terminated by the Representative at any
time on or prior to the Closing Date or on or prior to any later Overallotment
Closing Date, as the case may be, (i) if the Company shall have failed, refused
or been unable, at or prior to the Closing Date, or on or prior to any later
Overallotment Closing Date, as the case may be, to perform any agreement on its
part to be performed, or because any other condition of the Underwriters'
obligations hereunder required to be fulfilled by the Company is not fulfilled,
or (ii) if trading on the New York Stock Exchange, Nasdaq SmallCap, or Amex
shall have been suspended, or minimum or maximum prices for trading shall have
been fixed, or maximum ranges for prices for securities shall have been required
on the New York Stock Exchange, Nasdaq SmallCap, or Amex by such trading
exchanges or by order of the Commission or any other governmental authority
having jurisdiction, or if a banking moratorium shall have been declared by
federal or New York authorities, or (iii) if the Company shall have sustained a
loss by strike, fire, flood, accident or other calamity of such character as to
have a Material Adverse Effect regardless of whether or not such loss shall have
been insured, or (iv) if there shall have occurred an outbreak or escalation of
hostilities between the United States and any foreign power or of any other
insurrection or armed conflict involving the United States or other national or
international calamity, hostilities or crisis or the declaration by the United
States of a national emergency which, in the judgment of the Representative,
adversely affects the marketability of the Shares, or (v) if since the
respective dates as of which information is given in the Registration Statement
and the Prospectus, there shall have occurred any material adverse change or any
development involving a prospective material adverse change in or affecting the
condition, financial or otherwise, of the Company or the business, affairs,
management, or prospects of the Company, whether or not arising in the ordinary
course of business, or (vi) if any foreign, federal or state statute,
regulation, rule or order of any court or other governmental authority shall
have been enacted, published, decreed or otherwise promulgated which in the
judgment of the Representative materially and adversely affects or will
materially and adversely affect the business or operations of the Company, or
trading in the Series B Preferred Stock shall have been suspended, or (vii)
action shall be taken by any foreign, federal, state or local government or
agency in respect of its monetary or fiscal affairs which, in the judgment of
the
<PAGE>
Representative, has a material adverse effect on the securities markets in
the United States and on the marketability of the Shares. If this Agreement
shall be terminated in accordance with this Section 10, there shall be no
liability of the Company to the Underwriters and no liability of the
Underwriters to the Company; provided, however, that in the event of any such
termination the Company agrees to indemnify and hold harmless the Underwriters
from all costs or expenses incident to the performance of the obligations of the
Company under this Agreement, including all costs and expenses referred to in
Section 7.
If the Representative elects to terminate this Agreement as provided in
this Section 10, the Company shall be notified promptly by the Representative by
telephone, telecopy or telegram, confirmed by letter.
1. Reimbursement of Certain Expenses.
(a) Subject to Section 9 of this Agreement, the Company hereby agrees to
reimburse on a monthly basis the Underwriters for all reasonable legal and other
expenses incurred in connection with investigating or defending any claim,
action, investigation, inquiry or other proceeding arising out of or based upon
any statement or omission, or any alleged statement or omission, described in
Section 9(a), notwithstanding the absence of a judicial determination as to the
propriety and enforceability of the obligations under this Section 11 and the
possibility that such payments might later be held to be improper; provided,
however, that (i) to the extent any such payment is ultimately held to be
improper, the persons receiving such payments shall promptly refund them and
(ii) such persons shall provide to the Company, upon request, reasonable
assurances of their ability to effect any refund, when and if due.
(a) Subject to Section 9 of this Agreement, the Underwriters hereby agree to
reimburse on a monthly basis the Company for all reasonable legal and other
expenses incurred in connection with investigating or defending any claim,
action, investigation, inquiry or other proceeding arising out of or based upon
any statement or omission, or any alleged statement or omission, described in
Section 9(b) of this Agreement, notwithstanding the absence of a judicial
determination as to the propriety and enforceability of the obligations under
this Section 11 and the possibility that such payments might later be held to be
improper; provided, however, that (i) to the extent any such payment is
ultimately held to be improper, the Company shall promptly refund it and (ii)
the Company shall provide to the Underwriter, upon request, reasonable
assurances of its ability to effect any refund, when and if due.
<PAGE>
1. Persons Entitled to Benefit of Agreement. This Agreement shall inure to the
benefit of the Company and the several Underwriters and, with respect to the
provisions of Section 9 hereof, the several parties (in addition to the Company
and the several Underwriters) indemnified under the provisions of said Section
9, and their respective personal representatives, successors and assigns.
Nothing in this Agreement is intended or shall be construed to give to any other
person, firm or corporation any legal or equitable remedy or claim under or in
respect of this Agreement or any provision herein contained. The term
"successors and assigns" as herein used shall not include any purchaser, as such
purchaser, of any of the Shares from any of the several Underwriters.
(a) Notices. Except as otherwise provided herein, all communications hereunder
shall be in writing or by telegraph and, if to the Underwriters, shall be
mailed, telegraphed or delivered to Prime Charter Ltd., 499 Park Ave. - 20th
Floor New York, New York, 10022, Attention: Mr. Philip M. Getter; and if to the
Company, shall be mailed, telegraphed or delivered to it at its office,
Frontline Communications Corporation, One Blue Hill Plaza, P.O. Box 1548, Pearl
River, New York 10965, Attention:
Stephen J. Cole-Hatchard.
(b) Jurisdiction; Venue; Service of Process. Each of the Representative and the
Company (a) agrees that any legal suit, action or proceeding arising out of or
relating to this letter shall be instituted exclusively in New York State
Supreme Court, County of New York or in the United States District Court for the
Southern District of New York, (b) waives any objection to the venue of any such
suit, action or proceeding, and (c) irrevocably consents to the jurisdiction of
the New York State Supreme Court, County of New York, and the United States
District Court for the Southern District of New York, in any such suit, action
or proceeding. Each of the Representative and the Company further agrees to
accept and acknowledge service of any and all process which may be served in any
such suit, action or proceeding in the New York State Supreme Court, County of
New York, or in the United States District Court for the Southern District of
New York. Each of the Representative and the Company further agrees that service
of process upon it mailed by certified mail to its address shall be deemed in
every respect effective service of process upon it in any such suit, action or
proceeding.
(c) Counterparts. This Agreement may be executed in two or more counterparts,
each of which shall be deemed an original, but all of which together shall
constitute one and the same instrument.
<PAGE>
(d) Miscellaneous. The reimbursement, indemnification and contribution
agreements contained in this Agreement and the representations, warranties and
covenants in this Agreement shall remain in full force and effect regardless of
(i) any investigation made by or on behalf of any Underwriter or controlling
person thereof, or by or on behalf of the Company or its respective directors or
officers and (ii) delivery of and payment for the Shares under this Agreement.
THIS AGREEMENT SHALL BE GOVERNED BY, AND CONSTRUED IN ACCORDANCE WITH,
THE LAWS OF THE STATE OF NEW YORK, WITHOUT GIVING EFFECT TO RULES GOVERNING THE
CONFLICT OF LAWS.
Please sign and return to the Company the enclosed duplicate of this
letter, whereupon this letter will become a binding agreement among the Company
and the several Underwriters in accordance with its terms.
Very truly yours,
FRONTLINE COMMUNICATIONS CORPORATION
By ______________________________
Name:____________________________
Title:___________________________
The foregoing Agreement is hereby confirmed and accepted as of the date first
above written.
PRIME CHARTER LTD.
By
-------------------------------
Philip M. Getter
Managing Director
Acting on behalf of the several Underwriters, including themselves, named on
Schedule A hereto.
<PAGE>
SCHEDULE A
UNDERWRITERS
Number of
Shares
to be
Underwriters Purchased
- ------------ ---------
1. Prime Charter
Ltd.
Total 1,000,000
=========
<PAGE>
SCHEDULE B
Lock-up Agreements
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Name
----
1.
2.
3.
4.
5.
6.
7.
8.
Existing Lock-up Agreements
Name
----
1.
2.
3.
4.
5.
6.
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APPENDIX A
(a) The Registration Statement has become effective under the Act and, to such
counsel's knowledge after due inquiry, no stop order suspending the
effectiveness of the Registration Statement or suspending or preventing the use
of the Prospectus has been issued and no proceedings for that purpose have been
instituted or are pending or threatened under the Act; any required filing of
the Prospectus and any supplement thereto pursuant to Rule 424(b) of the Rules
and Regulations has been made in the manner and within the time period required
by such Rule 424(b).
(i) The Registration Statement, all Preliminary Prospectuses, the Prospectus,
and each amendment or supplement thereto (other than the financial statements,
financial data and supporting schedules included therein, as to which such
counsel need express no opinion), comply as to form in all material respects
with the requirements of the Act and the applicable Rules and Regulations and to
such counsel's knowledge after due inquiry, there are no agreements, contracts,
leases or documents of a character required to be described in, or filed as an
exhibit to, the Registration Statement which are not described or filed as
required by the Act and the applicable Rules and Regulations.
(i) The Company is duly incorporated and is validly existing as a corporation in
good standing under the laws of the State of Delaware.
(i) The Company has full corporate power and authority to own, lease and operate
its properties and to conduct its business as described in the Registration
Statement.
(i) To such counsel's knowledge after due inquiry, the Company does not own or
control, directly or indirectly, any shares of stock or any other equity
interest in any firm, partnership, joint venture, association or other entity.
(i) The Company has full corporate power and authority to enter into the
Underwriting Agreement and the Representative's Warrant Agreement and to issue,
sell and deliver the Firm Shares and the Overallotment Shares in accordance with
the terms of the Underwriting Agreement and the Representative's Warrants in
accordance with the terms of the Representative's Warrant Agreement.
<PAGE>
(i) The Underwriting Agreement and the Representative's Warrant Agreement have
been duly authorized by all necessary corporate action on the part of the
Company, have been duly executed and delivered by the Company and the
Representative's Warrant Agreement is a valid and binding agreement of the
Company, enforceable in accordance with its terms, except to the extent that
enforceability may be limited by bankruptcy, insolvency, moratorium,
reorganization or other laws of general applicability relating to or affecting
creditors' rights or by general principles of equity, whether considered at law
or in equity, and except as rights to indemnity and contribution thereunder may
be limited by federal or state securities laws or the public policies underlying
such laws.
(i) The execution, delivery and performance of the Underwriting Agreement and
the Representative's Warrant Agreement by the Company and the consummation of
the transactions therein contemplated do not and will not (a) conflict with or
result in a violation or breach of any of the terms or provisions of, or
constitute a default under (i) any material indenture, mortgage, deed of trust,
loan agreement, bond, debenture, note agreement or other evidence of
indebtedness, or any lease, contract or other agreement or instrument known to
such counsel after due inquiry to which the Company is a party or by which its
respective properties are bound, (ii) the Certificate of Incorporation or Bylaws
(or other organizational documents) of the Company, (iii) any statute, rule or
regulation applicable to the Company or (iv) any applicable license,
authorization, approval, permit, judgment, franchise, order, writ, injunction or
decree of any court or governmental agency or body known to such counsel after
due inquiry and to which the Company is subject.
(i) The Company is not required to obtain or make any consent, approval,
authorization, order, designation or declaration of or filing by or with any
court or regulatory, administrative or other governmental agency or body in
connection with the execution and delivery of the Underwriting Agreement or the
Representative's Warrant Agreement by the Company and the consummation of the
transactions therein contemplated except such as have been obtained under the
Act and the Rules and Regulations or such as may be required under state
securities laws, Blue Sky laws or by the rules and regulations of the Amex in
connection with the purchase and distribution of the Shares by the Underwriters.
(i) To such counsel's knowledge after due inquiry, there are no pending or
threatened actions, suits, claims, proceedings or investigations before any
court, regulatory body, administrative agency or any other governmental agency
or body, domestic or foreign against the Company or any of their respective
officers or any of their
<PAGE>
respective properties, assets or rights that could reasonably be expected to
have a Material Adverse Effect or would limit, revoke, cancel, suspend, or cause
not to be renewed any existing license, certificate, registration, approval or
permit that is material to the conduct of the business of the Company as
presently conducted, or that is of a character otherwise required to be
disclosed in the Registration Statement or the Prospectus under the Act or the
applicable Rules and Regulations.
(i) The authorized capital stock of the Company consists of 25,000,000 shares of
Common Stock, of which there are outstanding __________ shares and 2,000,000
shares of Preferred Stock, of which there are outstanding ___ shares. All the
issued and outstanding shares of Common Stock and Preferred Stock have been duly
authorized and validly issued, are fully paid and non-assessable, have been
issued in compliance with the registration requirements of applicable federal
and state securities laws and were not issued in violation of any preemptive
right, resale right, registration right, right of first refusal or other similar
right known to such counsel.
(i) The issuance and sale of the Shares and the Representative's Warrants have
been duly authorized by the Company. Upon issuance and delivery against payment
therefor in accordance with the terms of the Underwriting Agreement, the Shares
will be validly issued, fully paid and non-assessable, and, to such counsel's
knowledge after due inquiry, the stockholders of the Company do not have any
preemptive right, re-sale right, registration right, right of first refusal or
other similar right, in connection with the purchase or sale of any of the
Shares. Shares of Series B Preferred Stock have been duly and validly authorized
and reserved for issuance upon exercise of the Representative's Warrants and
shares of Common Stock (the "Conversion Shares")have been duly and validly
authorized and reserved for issuance upon conversion of the Series B Preferred
Stock, and when issued and delivered by the Company against payment therefor in
the manner set forth in the Representative's Warrant Agreement, the Warrant
Shares and the Conversion Shares will be duly and validly issued, fully paid,
non-assessable and free of preemptive rights. To such counsel's knowledge after
due inquiry, there are no outstanding warrants, options or other rights granted
by the Company to purchase shares of its Series B Preferred Stock or other
securities, other than as described in the Prospectus.
(i) The terms and provisions of the Series B Preferred Stock conform in all
material respects to the description thereof contained in the Registration
Statement and the Prospectus, and the information in the Prospectus under the
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caption "Description of Capital Stock," to the extent that it constitutes
matters of law or legal conclusions, has been reviewed by such counsel and is
correct, and the form of certificate evidencing the Series B Preferred Stock
complies with the applicable provisions of Delaware law.
(i) The statements in the Registration Statement and the Prospectus summarizing
statutes, rules and regulations, including the Delaware General Corporation Law
and the description of the Certificate of Incorporation and Bylaws of the
Company are accurate and fairly and correctly present the information required
to be presented by the Act or the Rules and Regulations in all material
respects; and there are no statutes, rules or regulations required to be
described in the Registration Statement or the Prospectus that are not described
or referred to therein as required.
(i) The statements under the captions __________ and ___________ in the
Prospectus, insofar as such statements constitute a summary of documents
referred to therein or matters of law, are accurate summaries and fairly and
correctly present, in all material respects, the information called for with
respect to such documents and matters.
(i) The information required to be set forth in the Registration Statement in
answer to Item 509 of Regulation S-B insofar as it relates to such counsel is
accurately and adequately set forth therein in all material respects or no
response is required with respect to such Item.
(i) The Company is not in violation of its Certificate of Incorporation or
Bylaws, and to such counsel's knowledge after due inquiry, the Company is not in
breach of or default with respect to any provision of any agreement, mortgage,
deed of trust, lease, franchise, license, indenture, permit or other instrument
known to such counsel after due inquiry, by which it or any of its properties
may be bound or affected.
(i) To such counsel's knowledge after due inquiry, except as set forth in the
Registration Statement and Prospectus, no holders of shares of Common Stock or
other securities of the Company have registration rights with respect to
securities of the Company.
(i) No transfer taxes are required to be paid in connection with the sale or
delivery to the Underwriters of the Firm Shares or the Overallotment Shares.
(i) The Company is not and will not, upon consummation of the transactions
contemplated by the Underwriting
<PAGE>
Agreement, be an "investment company," or a "promoter" or "principal
underwriter" for, a "registered investment company," as such terms are defined
in the Investment Company Act of 1940, as amended.
(i) The Shares have been approved for listing on the Amex, subject to official
notice of issuance.
(i) Counsel for the Company have participated in conferences with officials and
other representatives of the Company, the Representative, counsel for the
Representative and the independent public accountants of the Company, at which
conferences the contents of the Registration Statement and the Prospectus and
related matters were discussed, and although such counsel have not verified the
accuracy or completeness of the statements contained in the Registration
Statement or the Prospectus, nothing has come to the attention of such counsel
which caused them to believe that, at the time the Registration Statement became
effective the Registration Statement (except as to financial statements,
financial and statistical data and supporting schedules contained therein, as to
which such counsel need express no opinion) contained any untrue statement of a
material fact or omitted to state a material fact required to be stated therein
or necessary to make the statements therein not misleading, or at the Closing
Date or any later Overallotment Closing Date, as the case may be, the
Registration Statement or the Prospectus (except as aforesaid) contained any
untrue statement of a material fact or omitted to state a material fact required
to be stated therein or necessary to make the statements therein, in light of
the circumstances under which they were made, not misleading.
Counsel rendering the foregoing opinion may rely as to questions of
fact upon representations or certificates of officers of the Company and of
governmental officials, as the case may be, in which case its opinion is to
state that it is so doing and that it has no actual knowledge of any material
misstatement or inaccuracy in such opinions, representations or certificates,
and that such counsel believes that it and the Underwriters are justified in
relying on such opinions, representations or certificates. Copies of any
opinion, representation or certificate so relied upon shall be delivered to the
Representative, and to the Representative's counsel.
<PAGE>
FORM OF
WARRANT AGREEMENT
BETWEEN
FRONTLINE COMMUNICATIONS CORPORATION
AND
PRIME CHARTER LTD.
DATED AS OF _________, 2000
<PAGE>
WARRANT AGREEMENT, dated as of ________, 2000 (the "Effective Date"),
between FRONTLINE COMMUNICATIONS CORPORATION, a Delaware corporation (the
"Company"), and PRIME CHARTER LTD., a Delaware corporation ("Prime Charter").
The Company proposes to sell to Prime Charter and/or its designee(s)
warrants (the "Warrants") to purchase an aggregate of 100,000 shares (the
"Warrant Shares") of the Company's Series B Preferred Stock, par value $.01 per
share (the "Preferred Stock"), in connection with a public offering by the
Company of 1,000,000 shares of Preferred Stock (the "Offering") pursuant to a
registration statement (the "Registration Statement") on Form SB-2 (File No.
_________) filed by the Company with the Securities and Exchange Commission (the
"Commission") under the Securities Act of 1933, as amended (the "Act").
THEREFORE, in consideration of the mutual undertakings contained herein,
the Company and Prime Charter hereby agree as follows:
1. Issuance of Warrants. Concurrently with the initial closing (the "Closing")
under the Underwriting Agreement of even date herewith between the Company and
Prime Charter, as representative of the several underwriters named therein (the
"Underwriting Agreement"), related to the Offering, the Company shall issue,
sell and deliver the Warrants to Prime Charter and/or, at Prime Charter's
direction, to one or more underwriters or other members of the National
Association of Securities Dealers, Inc. that participate in the Offering and/or
the bona fide officers or partners of Prime Charter or such other participants
(each a "Permitted Designee") for a purchase price of $.001 per Warrant. Each
certificate for Warrants (a "Warrant Certificate") shall be substantially in the
form of Annex A attached hereto.
1. Registration. The Company shall maintain a register for the Warrants at its
principal executive offices for the registration of the issuance and transfer of
Warrants. The Company shall be entitled to treat the registered holder of any
Warrant (the "Holder") as the owner in fact thereof for all purposes and shall
not be bound to recognize any equitable or other claim to or interest in such
Warrant on the part of any other person. The Warrants shall be registered
initially in the name of Prime Charter and/or one or more Permitted Designees in
such denominations as Prime Charter may request not less than two business days
prior to the scheduled date of the Closing as set forth in the Underwriting
Agreement.
1. Transfer and Exchange of Warrants. Any Warrant shall be transferable only
upon surrender thereof at the Company's principal executive offices duly
endorsed by its Holder or by such Holder's duly authorized attorney or
representative, or accompanied by proper evidence of succession, assignment or
authority to transfer. Upon any registration of transfer, the Company shall
deliver a new Warrant or Warrants to the persons entitled thereto. In addition,
a Warrant Certificate may be exchanged, at the option of the Holder thereof, for
another Warrant Certificate or Warrant Certificates of different denominations,
of like tenor and representing in the aggregate the right to purchase a like
number of Warrant Shares upon surrender at the Company's principal executive
offices. Notwithstanding the foregoing, the Warrants may not be sold, assigned,
transferred, pledged, hypothecated or otherwise disposed of until after the
first anniversary of the Effective Date, except to a Permitted Designee, by
operation of law or by reason of a reorganization of the Company. Thereafter,
the Warrants and any Warrant Shares shall be freely transferable, subject only
to compliance with applicable securities laws.
<PAGE>
1. Exercise of Warrants.
1.1 Exercise Price and Term. Each Warrant shall entitle the Holder thereof to
purchase from the Company one Warrant Share at a purchase price per share of
$____ (the "Exercise Price"), as such purchase price and number of Warrant
Shares may be adjusted from time to time pursuant to the provisions of Section 8
hereof, payable in full at the time of exercise of such Warrant. The Warrants
may be exercised, in whole or in part, at any time or from time to time during
the four-year period commencing on the first anniversary of the Effective Date
and ending at 5:00 p.m., New York City time, on the fifth anniversary of the
Effective Date (the "Expiration Date"). After the Expiration Date, any
unexercised Warrants shall be void and all rights of the Holders with respect
thereto shall cease.
1.1 Payment of Exercise Price. At the election of any Holder, the aggregate
Exercise Price for any Warrants being exercised may be paid: (a) in cash in the
amount of the aggregate Exercise Price then in effect for the number of Warrants
being exercised, (b) by surrender to the Company of shares of Common Stock
having an aggregate Fair Market Value (as defined below) on the date of exercise
equal to the aggregate Exercise Price then in effect for the number of Warrants
being exercised, (c) by a surrender of Warrants covering a number of Warrant
Shares having an aggregate Fair Market Value, net of the applicable aggregate
Exercise Price therefor, equal to the aggregate Exercise Price then in effect
for the number of Warrants being exercised, or (d) by a combination of the
aforementioned methods of payment. For purposes of this Agreement, the "Fair
Market Value" per share of Common Stock on a given date shall be: (i) if the
Common Stock is listed on a national securities exchange or included on the
Nasdaq National Market, the closing price per share of Common Stock on such date
(or, if there was no trading on such date, on the next preceding day on which
there was trading); (ii) if the Common Stock is not listed on a national
securities exchange or included on the Nasdaq National Market, the average of
the closing bid and asked quotations per share of Common Stock as reported by
Nasdaq (or the National Quotation Bureau Incorporated or any similar
organization) on such date (or, if there were no quotations for the Common Stock
on such date, on the next preceding day on which there were quotations) as
provided by such organization; and (iii) if the Common Stock is not traded on a
national securities exchange or included on the Nasdaq National Market and bid
and asked quotations are not provided by Nasdaq (or the National Quotation
Bureau Incorporated or any similar organization), as determined by the agreement
of the parties in good faith or, in the absence of such agreement, as determined
pursuant to arbitration under the auspices of the American Arbitration
Association.
1.1 Exercise Procedure. Warrants may be exercised by their surrender at the
Company's principal executive offices, with the Election to Purchase form
attached thereto duly completed and executed, accompanied by payment of the
aggregate Exercise Price for the Warrant Shares to be purchased upon such
exercise. Payment for the Warrant Shares shall be made (a) if payment is to be
made in cash, by a certified or bank cashier's check payable to the order of the
Company or by wire transfer to an account designated by the Company, (b) if
payment is to be made through a surrender of shares of Common Stock, by
surrender of certificates duly endorsed for transfer (with all transfer taxes
paid or provided for), and (c) if payment is to be made by a surrender of
Warrants, by surrender of certificates representing such Warrants. Promptly
after the exercise of any Warrants, upon compliance with Section 5 hereof, the
Company shall issue a certificate or certificates, for the number of full
Warrant Shares to which the Holder thereof is entitled, registered in accordance
with the instructions set forth in the Election to Purchase, together with cash
as provided in Section 10 of this Warrant Agreement payable in respect of
fractional shares and (if applicable) a new Warrant Certificate or Certificates
representing all remaining unexercised Warrants. All Warrant Shares shall be
duly authorized, validly issued, fully paid, non-assessable and free of
preemptive rights, and free from all liens and charges other than those
<PAGE>
created by the Holder. Upon compliance with Section 5 hereof, certificates
representing such Warrant Shares and remaining unexercised Warrants shall be
issued by the Company in such names and denominations, and shall be delivered to
such persons, as are specified by written instructions of the Holder.
1.1 Record Holder. Each person in whose name any such certificate for Warrant
Shares is issued shall for all purposes be deemed to have become the holder of
record of the Warrant Shares represented thereby on the date upon which such
Warrants were surrendered for exercise, accompanied by payment of the aggregate
Exercise Price as aforesaid, irrespective of the date of issuance or delivery of
such certificate for Warrant Shares; provided, however, that if, at the date of
the surrender of such Warrants and payment of the aggregate Exercise Price, the
transfer books for the Common Stock or any other class of stock purchasable upon
the exercise of such Warrants shall be closed, the certificates for the Warrant
Shares or for shares of such other class of stock in respect of which such
Warrants are then exercisable shall be issuable as of the date on which such
books shall next be opened (whether before or after the Expiration Date) and,
until such date, the Company shall be under no duty to deliver any certificate
for such Warrant Shares or for shares of such other class of stock; and,
provided, further, that the transfer books of record, unless otherwise required
by law, shall not be closed at any one time for a period longer than 20 days.
1. Payment of Taxes. The Company shall promptly pay all documentary stamp taxes
attributable to the issuance of Warrants or the issuance of Warrant Shares upon
the exercise of any Warrants, except that any transfer taxes payable in
connection with the issuance of Warrants or Warrant Shares in any name other
than that of the Holder of the Warrants surrendered shall be paid by such Holder
and, if any such tax would otherwise be payable by the Company, no such issuance
or delivery shall be made unless and until the person requesting such issuance
has paid to the Company the amount of any such tax or it is established to the
reasonable satisfaction of the Company that any such tax has been paid.
1. Replacement Warrants. In case any Warrant Certificate shall be mutilated,
lost, stolen or destroyed, the Company shall issue and deliver in exchange and
substitution for and upon cancellation of the mutilated Warrant Certificate or
in lieu of and substitution for the lost, stolen or destroyed Warrant
Certificate, a new Warrant Certificate of like tenor and representing an
equivalent right or interest, but only upon receipt of evidence reasonably
satisfactory to the Company of such loss, theft or destruction of such Warrant
Certificate, together with an appropriate agreement regarding indemnification of
the Company relating to the issuance of a replacement Warrant Certificate.
1. Reservation of Warrant Shares. (i)The Company shall at all times reserve and
keep available for issuance the number of its authorized but unissued shares of
Preferred Stock or other stock sufficient to permit the exercise in full of the
Warrants and any transfer agent for the Preferred Stock or other stock issuable
upon the exercise of Warrants shall be directed at all times to reserve such
number as shall be sufficient for such purpose and (ii) the Company shall at all
times reserve and keep available for issuance the number of its authorized but
unissued shares of Common Stock or other stock sufficient to permit the
conversion in full of the Warrant Shares and any transfer agent for the Common
Stock or other stock issuable upon the exercise of Warrants shall be directed at
all times to reserve such number as shall be sufficient for such purpose. The
Company will keep a copy of this Warrant Agreement on file with each such
transfer agent and will supply such transfer agent with duly executed stock
certificates for such purpose and will provide or otherwise make available any
cash that may be payable as provided in Section 10 hereof. All Warrants
surrendered upon the exercise thereof shall be canceled. After the Expiration
Date, no shares shall be subject to reservation in respect of any unexercised
Warrants.
<PAGE>
1. Adjustments.
1.1 Adjustment of Exercise Price.
1.1.1 Initial Exercise Price. The Exercise Price, which initially will be as
provided in Section 4.1, shall be adjusted and readjusted from time to time as
provided in this Section 8.1 and, as so adjusted or readjusted, shall remain in
effect until a further adjustment or readjustment thereof is required by this
Section 8.1.
1.1.1 Issuance of Additional Shares of Preferred Stock. In case the Company, at
any time after the date of the Closing, shall issue additional shares of
Preferred Stock for no consideration in connection with a dividend, stock split
or other distribution on the Preferred Stock (including, without limitation, any
distribution of Preferred Stock by way of spin-off, reclassification or
corporate rearrangement), then, and in each such case, the Exercise Price shall
be reduced concurrently with such issuance to a price (calculated to the nearest
cent) determined by multiplying such Exercise Price by a fraction of which:
(a) the numerator shall be the number of shares of Preferred Stock outstanding
immediately prior to such issuance, and
(a) the denominator shall be the number of shares of Preferred Stock outstanding
immediately after such issuance.
1.1.1 Dividends and Distributions. In case the Company, at any time after the
Effective Date, shall pay or make a dividend or other distribution on the
Preferred Stock (including, without limitation, any distribution of stock (other
than Preferred Stock) or other securities, including securities that are
convertible into or exchangeable or exercisable for Preferred Stock, property or
options by way of dividend, spin-off, reclassification or corporate
rearrangement) then, and in each such case, the Exercise Price in effect
immediately prior to the close of business on the record date fixed for the
determination of the holders of the Preferred Stock entitled to receive such
dividend or other distribution shall be reduced, effective as of the close of
business on such record date, to a price (calculated to the nearest cent)
determined by multiplying such Exercise Price by a fraction of which:
(a) the numerator shall be the Exercise Price in effect immediately prior to the
close of business on such record date minus the value of such dividend or other
distribution (as determined in good faith by the Board of Directors of the
Company) applicable to one share of Preferred Stock, and
(a) the denominator shall be such Exercise Price in effect immediately prior to
the close of business on such record date;
provided, however, that no such reduction shall be made pursuant to this Section
8.1.3 for a dividend payable in shares of Preferred Stock (which is subject to
Section 8.1.2) or payable in cash or other property and declared out of the
earned surplus (i.e., retained earnings) of the Company (excluding any portion
thereof resulting from a revaluation of property) or which is declared but is
then not paid or made. For purposes of the foregoing, a dividend or distribution
payable other than in cash shall be considered payable out of earned surplus
only to the extent that such earned surplus is charged an amount equal to the
fair value of such dividend or distribution at the time of payment as determined
in good faith
<PAGE>
by the Board of Directors of the Company. If a dividend or distribution covered
under this Section 8.1.3 is declared prior to the Expiration Date but not paid
by such date, the Expiration Date shall be extended until the payment thereof.
1.1.1 Adjustments for Combinations, etc. In case the outstanding shares of
Preferred Stock shall be combined or consolidated, by reclassification or
otherwise, into a lesser number of shares of Preferred Stock, the Exercise Price
in effect immediately prior to such combination or consolidation shall be
proportionately increased concurrently with the effectiveness of such
combination or consolidation.
1.1.1 Minimum Adjustment of Exercise Price. If the amount of any adjustment of
the Exercise Price required pursuant to this Section 8.1 would be less than
$.01, such amount shall be carried forward, and an adjustment with respect
thereto shall be made at the time of and together with any subsequent adjustment
that, together with such amount and any other amount or amounts so carried
forward, shall aggregate at least $.01.
1.1.1 Minimum Exercise Price. Notwithstanding anything to the contrary set forth
herein, no adjustment provided for in this Section 8.1 shall reduce the Exercise
Price below the par or stated value of the Preferred Stock and the Company shall
have no obligation to change such value to permit a further reduction of the
Exercise Price; provided, however, that, except in the event of any transactions
of the type contemplated under Section 8.1.4 hereof, the Company agrees not to
change the par or stated value of the Preferred Stock.
1.1 Adjustment of Number of Warrant Shares. Upon each adjustment of the Exercise
Price pursuant to the provisions of Section 8.1, the number of Warrant Shares
that the Holder of a Warrant shall be entitled to receive upon exercise thereof
shall be adjusted to equal that number of Warrant Shares determined by
multiplying the number of Warrant Shares issuable upon exercise of such Warrant
immediately prior to such adjustment of the Exercise Price by a fraction of
which:
(a) the numerator shall be the Exercise Price in effect immediately prior to
such adjustment of the Exercise Price, and
(a) the denominator shall be the Exercise Price in effect immediately following
such adjustment of the Exercise Price.
1.1 Notice, Evidence of Adjustments. Whenever the Exercise Price is adjusted as
herein provided, the Company shall promptly cause a notice setting forth the
adjusted Exercise Price and adjusted number of Warrant Shares, issuable upon
exercise of each Warrant to be mailed to the Holders, at their last addresses
appearing in the Warrant register, and shall cause a copy thereof to be mailed
to each transfer agent for the Preferred Stock. The Company shall retain a firm
of independent public accountants of recognized standing selected by the Board
of Directors (who may be the regular accountants employed by the Company) to
make any computation required by this Section 8, and a certificate signed by
such firm shall accompany said notice and shall be conclusive evidence of the
correctness of such adjustments.
1. Consolidation, Merger, Sale of Assets, Reorganization, etc.
1.1 General Provisions. In case the Company at any time after the Effective Date
<PAGE>
(a) shall consolidate with or merge into any other person and not be the
continuing or surviving person of such consolidation or merger, or (b) shall
permit any other person to consolidate with or merge into the Company and the
Company shall be the continuing or surviving person but, in connection with such
consolidation or merger, the Preferred Stock or other securities then issuable
upon exercise of the Warrants shall be changed into or exchanged for cash, stock
or other securities or property, or (c) shall transfer, directly or indirectly,
all or substantially all its properties and assets to any other person, or (d)
shall effect a capital reorganization or reclassification of the Preferred Stock
or other securities then issuable upon exercise of the Warrants (other than a
capital reorganization or reclassification resulting in an adjustment of the
Exercise Price as provided in Section 8.1), then, and in the case of each such
transaction, the Company shall make proper provision such that, upon the terms
and in the manner provided in this Warrant Agreement, the Holder of each
Warrant, upon the exercise thereof at any time after the consummation of such
transaction, shall be entitled to receive, at the Exercise Price then in effect,
in lieu of the Preferred Stock or other securities issuable upon such exercise
immediately prior to such transaction, the amount of cash, stock or other
securities or property to which such Holder would have been entitled if such
Warrant had been exercised in full immediately prior to such transaction,
subject to adjustments subsequent to such transaction as nearly equivalent as
possible to the adjustments provided for in Section 8 and this Section 9.
1.1 Assumption of Obligations. Notwithstanding anything contained in this
Warrant Agreement to the contrary, the Company shall not effect any of the
transactions described in Section 9.1(a), (b), (c) or (d) unless, prior to the
consummation thereof, the person (other than the Company) that may be required
to deliver any cash, stock or other securities or property upon exercise of any
Warrant as provided herein shall assume, by written instrument delivered to the
Holders of the Warrants, (a) the obligations of the Company under this Warrant
Agreement and the Warrants (and if the Company shall survive the consummation of
any such transaction, such assumption shall not release the Company from any
continuing obligations of the Company under this Warrant Agreement and the
Warrants) and (b) the obligation to deliver to such Holder such cash, stock or
other securities or other property as such Holder may be entitled to receive in
accordance with the provisions of this Section 9; provided, however, that this
Section 9.2 shall not be applicable to any transaction described in Section 9.1
if all such cash, stock, property or other consideration receivable upon
consummation of such transaction is delivered to the Company at such time. Such
person shall similarly deliver to the Company an opinion of counsel to the
effect that this Warrant Agreement and the Warrants shall continue in full force
and effect after any such transaction and that the terms hereof (including,
without limitation all of the provisions of Section 8 and this Section 9.2) and
thereof shall be applicable to the cash, stock or other securities or property
that such person may be required to deliver upon any exercise of the Warrants.
1.1 No Dilution or Impairment. The Company shall not, by amendment of its
certificate of incorporation or by-laws or through any consolidation, merger,
reorganization, transfer of assets, dissolution, issue, sale, grant or
assumption of securities or any other voluntary action, avoid or seek to avoid
the observance or performance of any of the terms of this Warrant Agreement or
the Warrants, but will at all times, whether or not requested to do so, in good
faith assist in the carrying out of all such terms and in the taking of all such
action as may be necessary or appropriate in order to protect the rights of the
Holders against dilution or other impairment. Without limiting the generality of
the foregoing, the Company agrees that it shall take all such reasonable action
as may be necessary or appropriate in order that the Company may validly and
legally issue fully paid and non-assessable shares of stock upon the exercise of
all Warrants from time to time outstanding.
1. Fractional Interests. The Company shall not be required to issue fractions of
shares of Preferred Stock upon the exercise of any Warrants. If more than one
Warrant shall be presented for exercise at the same time by the same Holder, the
number of Warrant Shares that shall be
<PAGE>
issuable upon the exercise thereof shall be computed on the basis of the
aggregate number of Warrant Shares purchasable on exercise of the Warrants so
presented. If any fraction of a share of Preferred Stock would, except for the
provisions of this Section 10, be issuable on the exercise of any Warrant, the
Company shall purchase such fraction for an amount in cash equal to the same
fraction of the Fair Market Value of one share of Preferred Stock on the date of
exercise.
1. Restrictions on Dispositions. The Warrants and the Warrant Shares have been
registered under the Act pursuant to the Registration Statement; however, Prime
Charter acknowledges that the Warrants and the Warrant Shares may not be
transferred except pursuant to (i) a post-effective amendment to the
Registration Statement, (ii) an effective registration statement under the Act
or (iii) any available exemption from registration under the Act permitting such
disposition of securities and upon delivery to the Company of an opinion of
counsel, reasonably satisfactory to counsel for the Company, that such exemption
from registration is available. Prime Charter agrees that the certificates
representing the Warrants and Warrant Shares shall bear an appropriate
restrictive legend to such effect.
1. Registration Rights.
1.1 Demand Registration. Upon written request of the Holder(s) of at least a
majority of the then outstanding Warrants and Warrant Shares made at any time
within the period commencing one year and ending five years after the Effective
Date, the Company shall file within a reasonable period of time and, in any
event within the time period provided in Section 12.3(a) after receipt of such
written request, on one occasion, a registration statement (or a post-effective
amendment to a registration statement) under the Act registering the Warrant
Shares. Within 15 days after receiving any such notice, the Company shall give
notice to the other Holders of the Warrants and the Warrant Shares advising that
the Company is proceeding with such registration statement or post-effective
amendment (the"Demand Registration Statement"), and offering to include therein
the Warrant Shares of such other Holders. The Company shall not be obligated to
include the Warrant Shares of any such other Holder in such registration unless
such other Holder shall accept such offer by notice in writing to the Company
within 15 days after receipt of such notice from the Company. The Company shall
use its reasonable best efforts to file and cause the Demand Registration
Statement to become effective as promptly as practicable and to remain effective
for the period of time provided in Section 12.3, to reflect in the Demand
Registration Statement financial statements that are prepared in accordance with
Section 10(a)(3) of the Act, and to amend or supplement the Demand Registration
Statement to reflect any facts or events arising that, individually or in the
aggregate, represent a material change in the information set forth in the
Demand Registration Statement to enable any Holders of Warrants to exercise
warrants and/or sell the underlying Warrant Shares during such time period
provided in Section 12.3. If any registration pursuant to this Section 12.1 is
an underwritten offering, the Holders of a majority of the Warrant Shares to be
included in such registration will select an underwriter (or managing
underwriter if such offering should be syndicated) approved by the Company, such
approval not to be unreasonably withheld. Notwithstanding anything in this
Warrant Agreement to the contrary, the Company shall be entitled to postpone for
a reasonable period of time (not exceeding 60 days in any 12-month period) the
filing or effectiveness of the Demand Registration Statement otherwise required
to be prepared and filed by it pursuant to this Section 12.1 if the Company's
Board of Directors determines, in its reasonable discretion, that such
registration and offering would adversely affect any financing, acquisition,
corporate reorganization or other material transaction involving the Company and
the Company promptly gives the Holders written notice of such determination
specifying the grounds therefor and an estimate of the anticipated delay. If the
Company shall so postpone the filing of the Demand Registration Statement, a
majority-in-interest of the requesting Holders shall have the right to withdraw
the request for demand registration by giving written notice to the Company
within 30 days after receipt of the notice of postponement.
<PAGE>
1.1 Piggyback Registration. If, at any time within the period commencing one
year and ending seven years after the Effective Date, the Company proposes to
register any voting equity securities under the Act in a primary registration on
behalf of the Company and/or in a secondary registration on behalf of holders of
such securities, and the registration form to be used may be used for
registration of the Warrant Shares, the Company shall give prompt written notice
(which, in the case of a registration pursuant to the exercise of demand
registration rights other than those provided in Section 12.1, shall be within
10 business days after the Company's receipt of notice of such exercise and, in
any event, shall be at least 30 days prior to the date of such filing) to the
Holders of Warrants and/or Warrant Shares (regardless of whether some of the
Holders shall have theretofore availed themselves of the demand rights provided
in Section 12.1) of its intention to effect registration and shall offer to
include in such registration such number of Warrant Shares with respect to which
the Company has received written requests for inclusion therein within 10
business days after receipt of such, notice from, the Company upon generally the
same terms and conditions as the person or persons for whom such registration is
being effected has agreed to. This Section 12.2 is not applicable to any
registration statement to be filed by the Company on Forms S-4 or S-8 or any
successor forms. The Company shall not be obligated to cause to be effective any
registration statement as to which it has given notice to the Holders of
Warrants and/or Warrant Shares and shall have discretion to withdraw any such
registration without liability to Holders of Warrants and/or Warrant Shares.
Notwithstanding the foregoing, if the managing underwriter of the offering
shall determine in good faith and advise the Company in writing that the
inclusion of the Warrant Shares and other securities being offered in such
registration would materially and adversely affect the marketability of the
offering, then the Company and the managing underwriter may reduce the number of
Warrant Shares to be registered on a pro rata basis proportionate to the
reduction of all other holders of securities participating in such registration
pursuant to the exercise of piggyback registration rights. In such event, the
Company may reduce the number of Warrant Shares to be registered to zero as long
as no other securities are registered in such registration statement pursuant to
an exercise of piggyback registration rights.
1.1 Registration Procedures. If and whenever the Company is required by the
provisions of this Section 12 to use its reasonable best efforts to effect the
registration of any Warrant Shares under the Act, the Company will, as
expeditiously as possible:
(a) in connection with any registration pursuant to Section 12.1, prepare and
file with the Commission a registration statement (which shall be filed as soon
as practical after receipt of requisite requests from Holders of Warrant Shares
for registration, but not more than 90 days in the case of a registration
statement on Form S-1 or SB-2, or 45 days in the case of any other form) with
respect to the Warrant Shares and use its reasonable best efforts to cause such
registration statement to become and remain effective for the period of the
distribution contemplated thereby (determined as hereinafter provided);
(a) prepare and file with the Commission such amendments and supplements to such
registration statement and the prospectus used in connection therewith as may be
necessary to keep such registration statement effective for the period specified
in Section 12.3(a) and comply with the provisions of the Act with respect to the
disposition of all Warrant Shares covered by such registration statement in
accordance with the Holders' intended method of disposition set forth in such
registration statement for such period (so long as such registration statement
was filed pursuant to Section 12.1);
<PAGE>
(a) furnish to each seller of Warrant Shares and to each underwriter such number
of copies of the registration statement and the prospectus included therein
(including each preliminary prospectus) as such persons reasonably may request
in order to facilitate the public sale or other disposition of the Warrant
Shares covered by such registration statement;
(a) use its reasonable best efforts to register or qualify the Warrant Shares
covered by such registration statement under such securities or blue sky laws of
such jurisdictions as each seller shall request, and do any and all other acts
and things which may be necessary under such securities or blue sky laws to
enable such seller to consummate the public sale or other disposition in such
jurisdictions of the securities to be sold by such seller, except that the
Company shall not for any such purpose be required to qualify to do business as
a foreign corporation in any jurisdiction wherein it is not qualified or to file
any general consent to service of process;
(a) use its reasonable best efforts to list the Warrant Shares covered by such
registration statement with any securities exchange or automated quotation
system on which the Preferred Stock of the Company is then listed;
(a) immediately notify each seller of Warrant Shares and each underwriter under
such registration statement, at any time when a prospectus relating thereto is
required to be delivered under the Act, of the happening of any event of which
the Company has knowledge as result of which the prospectus contained in such
registration statement, as then in effect, included an untrue statement of a
material fact or omits to state a material fact required to be stated therein or
necessary to make the statements therein not misleading in light of the
circumstances then existing;
(a) enter into such agreements (including an underwriting agreement, if
applicable) and take all such other actions reasonably necessary in connection
therewith in order to expedite and facilitate the disposition of the Warrant
Shares to be registered;
(a) whether or not the offering is underwritten and at the request of any seller
of Warrant Shares, furnish: (i) such representations and warranties to such
seller and the underwriters, if any, as are customary in primary underwritten
offerings, (ii) an opinion of counsel representing the Company for the purposes
of such registration, addressed to the underwriters, if any, and to such seller
of Warrant Shares, dated the effective date of such registration statement and
in form and substance as is customarily given to underwriters in an underwritten
public offering and to such other effect as reasonably may be requested by
counsel for the underwriters or by such seller of Warrant Shares or its counsel
and (iii) a letter dated such effective date from the independent public
accountants retained by the Company, addressed to the underwriters, if any, and
to such seller of Warrant Shares, in form and substance as is customarily given
by independent certified public accountants to underwriters in an underwritten
public offering, and such letter shall additionally cover such other financial
matters (including information as to the period ending no more than five
business days prior to the date of such letter) with respect to such
registration as such underwriters reasonably may request;
(a) make available upon reasonable notice for inspection by each seller of
Warrant Shares, any underwriter participating in any distribution pursuant to
such registration statement, and any attorney, accountant or other agent
retained by such seller of Warrant Shares or underwriter, all financial and
other records, pertinent corporate documents and properties of the Company, and
cause the Company's officers, directors and employees to supply all information
reasonably requested by any such seller, underwriter, attorney, accountant or
agent in connection with such registration statement; and
<PAGE>
(a) otherwise use its reasonable best efforts to comply with all applicable
rules and regulations of the Commission, and make available to its
securityholders, as soon as reasonably practicable, but not later than 18 months
after the effective date of the registration statement, an earnings statement
covering the period of at least 12 months beginning with the first full month
after the effective date of such registration statement, which earnings
statements shall satisfy the provisions of Section 11(a) of the Act.
For purposes of Section 12.3(a) and (b), the period of distribution of
Warrant Shares in a firm commitment underwritten public offering shall be deemed
to extend until each underwriter has completed the distribution of all
securities purchased by it, and the period of distribution of Warrant Shares in
any other registration shall be deemed to extend until the earlier of the sale
of all Warrant Shares covered thereby and 120 days after the effective date
thereof.
In connection with each registration hereunder the sellers of Warrant
Shares will furnish to the Company in writing such information with respect to
themselves and the proposed distribution by them as reasonably shall be
necessary and shall be requested by the Company in order to comply with federal
and applicable state securities laws.
In connection with each registration pursuant to this Section 12 covering
an underwritten public offering, the Company and each seller of Warrant Shares
agree to enter into a written agreement with the managing underwriter (unless
the Holder is the managing underwriter) in such form and containing such
provisions as are customary in the securities business for such an arrangement
between such underwriter and companies of the Company's size and investment
stature.
1.1 Expenses. All expenses incurred by the Company in complying with Sections
12.1, 12.2 and 12.3, including, without limitation, all registration and filing
fees, printing expenses, fees and disbursements of counsel and independent
public accountants for the Company, fees and expenses (including counsel fees)
incurred in connection with complying with state securities or "blue sky" laws,
fees of the National Association of Securities Dealers, Inc., transfer taxes,
fees of transfer agents and registrars, costs of insurance and reasonable fees
and disbursements of counsel for the sellers of Warrant Shares, but excluding
any Selling Expenses, are herein referred to as "Registration Expenses."
"Selling Expenses," as used herein, mean all underwriting discounts and selling
commissions applicable to the sale of Warrant Shares.
The Company will pay or cause to be paid all Registration Expenses of the
participating sellers of Warrant Shares in connection with each registration
statement under Sections 12.1 and 12.2. All Selling Expenses in connection with
each registration statement under Sections 12.1 and 12.2 shall be borne by the
participating sellers of Warrant Shares in proportion to the number of Warrant
Shares sold by each, or by such participating sellers of Warrant Shares other
than the Company (except to the extent the Company shall be a seller of
Preferred Stock) as they may agree.
1.1 No Conflicts. The Company will not enter into any agreement granting
registration rights to any person or entity on terms which conflict with the
provisions of this Section 12.
(a) Indemnification and Contribution. In the event of a registration of any
Warrant Shares under the Act pursuant to this Section 12, the Company will
indemnify and hold harmless, to the fullest extent permitted by law, each Holder
selling Warrant Shares thereunder, each underwriter thereunder, and each other
person, if any, who controls such selling Holder of Warrant Shares or
underwriter within the meaning of the Act or the Securities Exchange Act of
1934, as amended (the "Exchange Act"), against any losses, claims, damages,
liabilities and expenses, joint for several, to which
<PAGE>
such selling Holder, underwriter or controlling person may become subject under
the Act or otherwise, insofar as such losses, claims, damages or liabilities (or
actions in respect thereof) arise out of or are based upon an untrue statement
or alleged untrue statement of a material fact contained in any registration
statement under which such Warrant Shares were registered under the Act pursuant
to Section 12, any preliminary prospectus or final prospectus contained therein,
or any amendment or supplement thereof, or arise out of or are based upon the
omission or alleged omission to state therein a material fact required to be
stated therein or necessary to make the statements therein not misleading, and
will pay or reimburse each such selling Holder, each such underwriter and each
such controlling person for any legal or other expenses reasonably incurred by
them in connection with investigating or defending any such loss, claim, damage,
liability or action; provided, however, that the Company (i) will not be liable
in any such case if and to the extent that (A) any such loss, claim, damage or
liability arises out of or is based upon an untrue statement or alleged untrue
statement or omission or alleged omission so made in conformity with information
furnished by any such selling Holder, any such underwriter or any such
controlling person, as the case may be, in writing specifically for use in such
registration statement, prospectus, amendment or supplement or (B) in respect to
such statement, alleged statement omission or alleged omission with respect to
which such loss, claim, damage or liability directly relates, the final
prospectus for such registration statement corrected in all material respects
such statement alleged statement, omission or alleged omission and a copy of
such final prospectus was not sent or given by or on behalf of such Holder (or
otherwise delivered in accordance with applicable law or regulation) at or prior
to the confirmation of the sale of Warrant Shares of such Holder and (ii) will
not be liable for amounts paid in settlement of any such loss, claim, damage,
liability or action if such settlement is effected without the consent of the
Company, such consent not to be unreasonably withheld or delayed.
(a) In the event of a registration of any Warrant Shares under the Act pursuant
to this Section 12, each Holder selling Warrant Shares thereunder, severally and
not jointly, will indemnify and hold harmless the Company, each person, if any,
who controls the Company within the meaning of the Act, each officer of the
Company who signs the registration statement, each director of the Company, each
underwriter and each person who controls any underwriter within the meaning of
the Act, against all losses, claims, damages or liabilities, joint or several,
to which the Company or such officer, director, underwriter or controlling
person may become subject under the Act or otherwise, but only to the extent
that such losses, claims, damages or liabilities (or actions in respect thereof)
arise out of or are based upon (i) an untrue statement or alleged untrue
statement or omission or alleged omission to state therein a material fact
required to be stated therein or necessary to make the statements therein not
misleading, made in reliance upon and in conformity with information pertaining
to such selling Holder, as such, furnished in writing to the Company by such
selling Holder specifically for use in such registration statement under which
such Warrant Shares was registered under the Act pursuant to this Section 12,
any preliminary prospectus or final prospectus contained therein, or any
amendment or supplement thereof, and will pay or reimburse the Company and each
such officer, director, underwriter and controlling person for any legal or
other expenses reasonably by them in connection with investigating or defending
any such loss, claim, damage liability or action or (ii) any statement, alleged
statement, omission or alleged omission made by the Company with respect to
which such loss, claim, damage or liability directly relates, if the final
prospectus for such registration statement corrected in all material respects
such statement, alleged statement, omission or alleged omission and a copy of
such final prospectus was not sent or given by or on behalf of such Holder (or
otherwise delivered in accordance with applicable law or regulation) at or prior
to the confirmation of the sale of Warrant Shares of such Holder, provided,
however, that (A) the liability of each selling Holder hereunder shall be
limited to the proportion of any such loss, claim, damage, liability or expense
which is equal to the proportion that the public offering price of the Warrant
Shares sold by such selling Holder under such registration statement bears to
the total public offering price of all securities sold thereunder, but not in
any event to exceed the net proceeds received by such selling Holder from the
sale of Warrant Shares
<PAGE>
covered by such registration statement and (B) no selling Holder shall be liable
for amounts paid in settlement of any such loss, claim, damage, liability or
action if such settlement is effected without the consent of such selling
Holder, such consent not to be unreasonably withheld or delayed.
(a) Promptly after receipt by an indemnified party hereunder of written notice
of any claim or the commencement of any action or proceeding, such indemnified
party shall, if a claim in respect thereof is to be made against the
indemnifying party hereunder, notify the indemnifying party in writing thereof,
but the omission so to notify the indemnifying party shall not relieve it from
any liability which it may have to such indemnified party, except to the extent
the indemnifying party is materially prejudiced by such omission. In case any
such action shall be brought against any indemnified party and the indemnified
party shall notify the indemnifying party of the commencement thereof, the
indemnifying party shall be entitled to participate in and, to the extent it
shall wish, to assume and undertake the defense thereof with counsel reasonably
satisfactory to such indemnified party and, after notice from the indemnifying
party to such indemnified party of its election so to assume and undertake the
defense thereof, the indemnifying party shall not be liable to such indemnified
party under this Section 12.6(c) for any legal or other professional expenses
subsequently incurred by such indemnified party in connection with the defense
thereof. No indemnifying party, in the defense of any such claim or litigation
against an indemnified party, shall consent to entry of any judgment or enter
into any settlement which does not include as an unconditional term thereof the
giving by the claimant or plaintiff to such indemnified party of a release from
all liability in respect of such claim or litigation, unless such indemnified
party shall otherwise consent in writing. An indemnifying party who elects to
assume the defense of a claim shall not be obligated to pay the fees and
expenses of more than one counsel for all parties indemnified by such
indemnifying party with respect to such claim (in addition to any local
counsel), unless any indemnified party reasonably concludes that there may be
legal defenses available to such indemnified party with respect to such claim
which are different from or additional to those available to any other of such
indemnified parties or that a conflict of interest may exist between such
indemnified party and any other of such indemnified parties with respect to such
claim, in which event the indemnifying party shall be obligated to pay the
reasonable fees and expenses of such additional counsel or counsels.
(a) In order to provide for just and equitable contribution in any case in which
either (i) any Holder exercising registration rights under this Section 12, or
any controlling person of any such Holder, makes a claim for indemnification
pursuant to this Section 12.6, but it is judicially determined (by the entry of
a final judgment or decree by a court of competent jurisdiction and following
the expiration of time to appeal or the denial of the last right of appeal) that
such indemnification may not be enforced in such case notwithstanding the fact
that this Section 12.6 provides for indemnification in such case or (ii)
contribution under the Act may be required on the part of any such Holder or any
such controlling person in circumstances for which indemnification is provided
under this Section 12.6, then, and in each such case, the Company and such
Holder shall contribute to the aggregate losses, claims, damages or liabilities
to which they may be subject (after contribution from others) in such proportion
as is appropriate to reflect both the relative benefit received by such Holder
and the relative fault of the Company and such Holder; provided, however, that,
in any such case, (A) no Holder will be required to contribute any amount in
excess of the public offering price of all such Warrant Shares offered by it
pursuant to such registration statement and (B) no person or entity guilty of
fraudulent misrepresentation (within, the meaning of Section 11(f) of the Act)
will be entitled to contribution from any person or entity who was not guilty of
such fraudulent misrepresentation. For purposes of the preceding sentence, the
relative benefit received by the Holder of Warrant Shares shall be deemed to be
in the same proportion as the public offering price of its Warrant Shares
offered by the registration statement bears to the public offering price of all
securities offered by such registration statement; and the relative fault of the
Company and such Holder shall be determined by reference to, among other things,
whether the
<PAGE>
untrue or alleged untrue statement of a material fact or omission of a material
fact relates to information supplied by the Company or by the Holder and the
parties' relative intent, knowledge, access to information and opportunity to
correct or prevent such statement or omission.
1.1 Securities Law Compliance. The Company covenants that it will timely file
all reports required to be filed by it under the Act and the Exchange Act. So
long as the Company is subject to the periodic reporting requirements of the
Exchange Act, the Company covenants to make publicly available such information
as may be necessary to permit the sale of Warrant Shares without registration
under the Act pursuant to the exemption provided by Rule 144 under the Act, as
such rule may be amended from time to time, or any similar rule or regulation
hereafter adopted by the Commission. Upon the request of any Holder of Warrants
or Warrant Shares at any time, if applicable the Company will deliver to such
Holder or such Holder's prospective transferee such information as may be
necessary to permit the sale of Warrants or Warrant Shares pursuant to Rule 144A
under the Act, as such rule may be amended from time to time. Upon request of
any Holder of Warrants or Warrant Shares, the Company will deliver to such
Holder a written statement as to whether it has complied with such information
requirements.
1. Notices to Holders.
1.1 Nothing contained in this Warrant Agreement or in any of the Warrants shall
be construed as conferring upon the Holders thereof as such the right to vote or
to receive dividends or to consent or to receive notice as stockholders in
respect of the meetings of stockholders or the election of directors of the
Company or any other matter or any other rights whatsoever as stockholders of
the Company.
1.1 In the event the Company intends to:
(a) make any distribution on or with respect to its Preferred Stock (or other
securities that may then be issuable in lieu thereof upon the exercise of
Warrants), including without limitation any dividend or distribution from earned
surplus, any dividend or distribution of stock, assets or evidences of
indebtedness, or any similar distribution,
(a) issue subscription rights or warrants to holders of its Preferred Stock,
(a) consolidate or merge with or into another entity,
(a) liquidate, dissolve or sell or otherwise dispose of substantially all its
assets, or
(a) take any other action that would result in an adjustment to the Exercise
Price or an adjustment to the number of Warrant Shares that the Holder of a
Warrant shall be entitled to receive upon exercise thereof, then the Company
shall cause a notice of its intention to take such action to be sent by
first-class mail, postage prepaid, at least 20 days prior to the date fixed as a
record date or the date of closing the transfer books for the determination of
the stockholders entitled to such distribution or issuance or to vote upon such
proposed consolidation, merger, liquidation, sale or conveyance to each Holder
at its address appearing on the Warrant register, but failure to mail or to
receive such notice or any defect therein or in the mailing thereof shall not
affect the validity of any action taken in connection with such distribution,
issuance, consolidation, merger, liquidation, sale or conveyance.
<PAGE>
1. Notices. Any notice or demand required by this Warrant Agreement to be given
or made by any Holder to or on the Company shall be sufficiently given or made
if sent by registered or certified mail, postage prepaid, or by facsimile
transmission address as follows:
Frontline Communications Corporation
----------------------------
----------------------------
----------------------------
----------------------------
Any notice or demand required by this Warrant Agreement to be given or made by
the Company to or on the Holder of any Warrant shall be sufficiently given or
made, whether or not such Holder receives the notice, if sent by first-class
mail, postage prepaid, addressed to such Holder at his last address as shown on
the books of the Company.
1. Governing Law. The validity, interpretation and performance of this Warrant
Agreement, of each Warrant issued hereunder and of the respective terms and
provisions thereof shall be governed by the laws of the State of New York
without giving effect to principles of conflicts of law.
1. Counterparts. This Warrant Agreement may be executed in two counterparts,
each of which when so executed shall be deemed to be an original; but such
counterparts shall together constitute but one and the same instrument.
IN WITNESS WHEREOF, the parties have executed this Warrant Agreement as of
the date first set forth above.
FRONTLINE COMMUNICATIONS CORPORATION
By
Name:
Title:
PRIME CHARTER LTD.
By
Name:
Title:
<PAGE>
ANNEX A
THE WARRANTS REPRESENTED HEREBY AND THE SECURITIES ISSUABLE UPON EXERCISE
THEREOF HAVE BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AS AMENDED (THE
"ACT"); HOWEVER, NONE OF SUCH SECURITIES MAY BE OFFERED, OR SOLD OR OTHERWISE
TRANSFERRED EXCEPT PURSUANT TO (i) A POST-EFFECTIVE AMENDMENT TO THE
REGISTRATION STATEMENT UNDER WHICH SUCH SECURITIES WERE REGISTERED UNDER THE
ACT; (ii) AN EFFECTIVE REGISTRATION STATEMENT UNDER THE ACT, OR (iii) AN
AVAILABLE EXEMPTION FROM REGISTRATION UNDER THE ACT RELATING TO THE DISPOSITION
OF SECURITIES AND UPON DELIVERY TO THE COMPANY OF AN OPINION OF COUNSEL,
REASONABLY SATISFACTORY TO COUNSEL FOR THE COMPANY, THAT SUCH EXEMPTION FROM
REGISTRATION UNDER THE ACT IS AVAILABLE. IN ADDITION, THE WARRANTS REPRESENTED
HEREBY MAY NOT BE TRANSFERRED OR EXERCISED EXCEPT IN ACCORDANCE WITH THE
PROVISIONS OF THE WARRANT AGREEMENT DATED AS OF FEBRUARY 26, 1999 BETWEEN
FRONTLINE COMMUNICATIONS CORPORATION AND PRIME CHARTER LTD.
No. 1
120,000 Warrants
Void After 5:00 p.m. New York City Time
On February 26, 2004
FRONTLINE COMMUNICATIONS CORPORATION
Warrant Certificate
THIS CERTIFIES THAT, for value received, Prime Charter Ltd., or registered
assigns, is the Holder of the number of Warrants set forth above, each Warrant
entitling the owner thereof to purchase at any time after ________, 2000 and
prior to 5:00 p.m., New York City time, on ____, 2004 (the "Expiration Date"),
one fully paid and non-assessable share of Series B Preferred Stock, par value
$.01 per share ("Preferred Stock"), of Frontline Communications Corporation, a
Delaware corporation (the "Company"), at a purchase price per share (the
"Exercise Price") initially equal to $_____, upon presentation and surrender of
this Warrant Certificate with the Form of Election to Purchase (attached hereto)
duly executed. The number of Warrants evidenced by this Warrant Certificate (and
the number of shares that may be purchased upon exercise hereof (the "Warrant
Shares") set forth above and the Exercise Price set forth above are the number
and Exercise Price as of the date of original issuance of this Warrant
Certificate, based on the Preferred Stock as constituted at such date. As
provided in the Warrant Agreement referred to below, the Exercise Price and the
number or kind of shares that may be purchased upon the exercise of the Warrants
evidenced by this Warrant Certificate are subject to modification and adjustment
upon the happening of certain events.
This Warrant Certificate is subject to, and entitled to the benefits of,
all of the terms, provisions and conditions of the Warrant Agreement dated as of
________, 2000 between the Company and Prime Charter Ltd., which Warrant
Agreement is hereby incorporated herein reference and made a part hereof and to
which reference is hereby made for a full description of the rights, limitations
of rights, duties and immunities hereunder of the Company and the Holders of the
Warrant Certificates. A copy of the Warrant Agreement is on file at the
principal office of the Company.
This Warrant Certificate, with or without other Warrant Certificates, upon
surrender at the principal office of the Company, may be exchanged for another
Warrant Certificate or Warrant
<PAGE>
Certificates of like tenor, evidencing Warrants entitling the Holder to purchase
a like aggregate number of shares of Common Stock as the Warrants evidenced by
the Warrant Certificate or Warrant Certificates surrendered entitled such Holder
to purchase. If this Warrant Certificate shall be exercised in part, the Holder
hereof shall be entitled to receive upon surrender hereof another Warrant
Certificate or Warrant Certificates for the number of whole Warrants not
exercised.
The Exercise Price may be paid in cash or by surrender of the appropriate
number of Warrants or shares of Preferred Stock in a cashless exercise or in a
combination thereof as provided in Section 4.2 of the Warrant Agreement.
No fractional shares of Preferred Stock will be issued upon the exercise of
any Warrant or Warrants evidenced hereby, but in lieu thereof a cash payment
will be made as provided in the Warrant Agreement.
[No Holder of this Warrant Certificate, as such, shall be entitled to vote
or to receive dividends or to consent or to receive notice as a stockholder of
the meetings of stockholders for the election of directors of the Company or any
other matter or to any rights whatsoever as stockholder of the Company, until
the Warrant or Warrant evidenced by this Warrant Certificate shall have been
exercised and the Warrant Shares shall have been delivered as provided in the
Warrant Agreement.]
If this Warrant Certificate shall be surrendered for exercise within any
period during which the transfer books for the Preferred Stock or other class of
stock issuable upon exercise of this Warrant Certificate are closed for any
purpose, the Company shall not be required to make delivery of certificates for
shares issuable upon such exercise until the date of the reopening of said
transfer books as provided in the Warrant Agreement.
IN WITNESS WHEREOF, Frontline Communications Corporation has caused the
signature (or facsimile signature) of its Chief Executive Officer and Secretary
to be printed hereon.
FRONTLINE COMMUNICATIONS CORPORATION
By
----------------------------------
Name:
Title:
Attest:
- -------------------------------------
Secretary
<PAGE>
FORM OF ASSIGNMENT
(To be executed by the Holder if such Holder desires to transfer this Warrant
Certificate).
TO FRONTLINE COMMUNICATIONS CORPORATION
FOR VALUE RECEIVED, __________________________________________ hereby
sells, assigns and transfers unto ________________________ this Warrant
Certificate, together with all rights, title and interest therein, and does
hereby irrevocably constitute and appoint ______________________, to transfer
the within Warrant Certificate on the books of the within-named Company, with
full power of substitution.
DATED:
Signature
Signature Guaranteed:
NOTICE:
The signature on the foregoing assignment must correspond to the name
as written upon the face of this Warrant Certificate in every particular,
without alteration or enlargement or any change whatsoever.
<PAGE>
FORM OF ELECTION TO PURCHASE
(To be executed if Holder desires to exercise the Warrants evidenced by this
Warrant Certificate).
TO FRONTLINE COMMUNICATIONS CORPORATION
The undersigned hereby (1) irrevocably elects to exercise _____________________
___________________________________ Warrants represented by this Warrant
Certificate to purchase __________ shares of Preferred Stock issuable upon the
exercise of such Warrants, (2) makes payment in full of the aggregate Exercise
Price for such Warrants by enclosure of a bank cashier's check or money order
therefor or by surrendering Warrants or shares of Common Stock for application
to the aggregate Exercise Price, upon condition that new Warrants be issued for
the balance of the Warrants remaining, and (3) requests that certificates for
shares and Warrants be issued in the name of.
(Please insert social security or other
identifying number) __________________________
- -------------------------------------------
(Please print name and address)
If such number of Warrants shall not be all the Warrants evidenced by this
Warrant Certificate, a new Warrant Certificate for the balance remaining of such
Warrants shall be registered in the name of and delivered to:
Please insert social security or other
identifying number) ___________________________
- -------------------------------------------
(Please print name and address)
DATED: ___________________ , 20___
Signature
Signature Guaranteed:
NOTICE:
The signature on the foregoing election to purchase must correspond to the name
as written upon the face of this Warrant Certificate in every particular,
without alteration or enlargement or any change whatsoever.
<PAGE>
EXHIBIT 21.1
Subsidiaries of the Company
Name Jurisdiction of Incorporation
CLEC Communications Corporation.................. Delaware
Frontline Commerce Corporation................... Delaware
WOWFactor, Inc................................... New Jersey
Webprime, Inc.................................... New York
<PAGE>
EXHIBIT 23.1
CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
We hereby consent to the use in the prospectus constituting a
part of this Registration Statement on Form SB-2 of our report dated March 12,
1999, except for Note 13 which is as of March 26, 1999, relating to the
consolidated financial statements of Frontline Communications Corporation
as of December 31, 1998 and for the two years then ended as well as our report
dated December 18, 1998 relating to the financial statements of WOWFactor, Inc.
as of December 31, 1997 and for the two years then ended and our report dated
December 22, 1998 relating to the financial statements of Roxy Systems, Inc., as
of December 31, 1997 and for the year then ended.
We also consent to the reference to us under the caption "Experts" in
the prospectus.
/s/ BDO Seidman, LLP
---------------------------
BDO SEIDMAN, LLP
New York, New York
December 16, 1999
<PAGE>
EXHIBIT 23.2
CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANT
JOSEPH J. REPKO
Certified Public Accountant
453 N. State Road
Springfield, PA 19064
I hereby consent to the inclusion in the prospectus constituting a part
of this Registration Statement on Form SB-2 of my report dated February 8, 1997
relating to the financial statements of U.S. Online, Inc. as of December 31,
1996 and for the one year then ended and my report dated January 6, 1999
relating to the financial statements of U.S. Online, Inc. as of December 31,
1997 and for the one year then ended.
I also consent to the reference to me under the caption "Experts" in
the prospectus.
/s/ Joseph J. Repko CPA
--------------------------------
Joseph J. Repko, CPA
December 16, 1999
<PAGE>
EXHIBIT 23.3
CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANT
STEVEN H. MERMELSTEIN
Certified Public Accountant
2523 Avenue P
Brooklyn, NY 11229
I hereby consent to the inclusion in the prospectus constituting a part
of this Registration Statement on Form SB-2 of my report dated February 8, 1999,
relating to the consolidated financial statements of Webspan, Inc. as of
December 31, 1996 and 1997 and for the two years then ended.
I also consent to the reference to me under the caption "Experts" in
the prospectus.
/s/ Steven H. Mermelstein CPA
-------------------------------------
Steven H. Mermelstein, CPA
December 16, 1999
