<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 8-K
CURRENT REPORT
PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
Date of Report (Date of earliest event reported): September 10, 1999
ESOFT, INC.
(Exact name of registrant as specified in its charter)
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<S> <C> <C>
DELAWARE 00-23527 84-0938960
(State or other jurisdiction of (Commission File Number) (I.R.S. Employer
incorporation or organization) Identification Number)
</TABLE>
295 INTERLOCKEN BOULEVARD, SUITE 500
BROOMFIELD, COLORADO 80021
(303) 444-1600
(Address and Telephone Number of Registrant's Principal Executive Office)
<PAGE> 2
ITEM 5. OTHER EVENTS
Effective September 10, 1999, eSoft, Inc. ("eSoft" or the "Company")
completed the merger (the "Merger") with Technologic, Inc. ("Technologic")
located in Norcross, Georgia which provided for the issuance of 1,244,435
shares of eSoft common stock in exchange for all of the outstanding common
stock of Technologic and for the conversion of all Technologic stock options
into eSoft stock options to acquire 180,565 shares of eSoft common stock. The
Merger has been accounted for as a pooling of interests.
The Company's financial statements have been retroactively restated as
of December 31, 1998 and for each of the two years in the period ended
December 31, 1998 to reflect the consummation of the Merger. The consolidated
financial statements give retroactive effect to the Merger, which has been
accounted for using the pooling of interests method and, as a result, the
financial position, results of operations and cash flows are presented as if
Technologic had been consolidated with eSoft for all periods presented. The
consolidated statements of stockholders' equity reflect the accounts of eSoft
as if the additional common stock issued in connection with the Merger had
been issued for all periods presented. The consolidated financial statements,
including the notes thereto, should be read in conjunction with the
historical financial statements of eSoft included in eSoft's 1998 annual
report on Form 10-KSB and Form 8-K dated August 9, 1999, and the financial
statements of Technologic included in Form 8-K/A filed November 17, 1999.
The following is the Company's Management's Discussion and Analysis of
Financial Condition and Results of Operation relating to the Company's
restated consolidated financial statements set forth in Item 7 below.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
Throughout this report, we refer to our products using the Apexx and
Technologic product identifying trademarks "TEAM Internet," "Instagate" and
"Interceptor." TEAM Internet is a registered trademark of eSoft,Inc.
OVERVIEW
In the past year, the Company's growth has been achieved through the
mergers with Apexx Technology, Inc.("Apexx") and Technologic, Inc.
("Technologic") (the "Mergers"), which were each accounted for as a pooling
of interests and closed on May 25, 1999, and September 10, 1999,
respectively. Apexx stockholders received 1,591,365 shares of eSoft, Inc
common stock in exchange for all of the outstanding common stock of Apexx,
and Apexx optionholders have the right to exchange their options for options
to purchase 1,356,003 shares of eSoft common stock. Technologic stockholders
received 1,244,435 shares of eSoft common stock in exchange for all of the
outstanding common stock of Technologic, and Technologic optionholders have
the right to exchange their options
<PAGE> 3
for options to purchase 180,565 shares of eSoft common stock. The
accompanying financial statements have been restated to include the accounts
and operations of Apexx and Technologic for all periods presented.
The Company's financial statements have been retroactively restated as
of December 31, 1998 and each of the two years ended December 31, 1998 to
reflect the consummation of the Mergers. The consolidated financial
statements give retroactive effect to the Mergers, which have been accounted
for using the pooling of interests method and, as a result, the financial
position, results of operations and cash flows are presented as if Apexx and
Technologic had been consolidated for all periods presented. The consolidated
statements of stockholders' equity, reflect the accounts of eSoft as if the
common stock issued in connection with the Mergers had been issued for all
periods presented.
The Company is a technology based company that has developed an
Internet connectivity software and hardware solution permitting businesses to
connect to the Internet. This technology will empower businesses for the first
time to install and operate shared connectivity to the Internet without highly
specialized technical expertise.
The primary market being pursued by the Company consists of
small-to-medium sized businesses ("SMB") that wish to initiate, or expand, their
connection and presence on the Internet. The Company believes that the SMB
market is not only expanding exponentially into the Internet arena, but also
requires a solution that is more cost effective and easier to install and
maintain than systems typically available for the Fortune 1000 companies. The
SMB segment comprises the largest portion of the installed local area networks
and increasingly recognizes the importance of the Internet to grow their
business and improve productivity. Internet penetration has been estimated to
increase from 54.9% of small business PC owners in 1998 to 68.5% in 2002. The
number of small businesses online is expected to increase from 3.2 million in
1998 to 4.6 million in 2002. Most importantly for the SMB market, the Company's
TEAM Internet system is a complete, plug-and-play solution that can be installed
and maintained by non-technical personnel and at a fraction of the cost of the
typical large system solution. The TEAM Internet 100 is a system that can
connect a business Local Area Network (LAN) up to 50 users to the Internet using
a single Internet address. It provides all of the components an organization
needs to develop, manage, and monitor its Intranet or external web presence. The
TEAM Internet 2500 can connect up to 500 users on a LAN to the Internet. The
Company has also extended its product line features and functions in the areas
of firewall and virtual private network through the Instagate and Interceptor
products, which appeal to a broader group of end users. Other markets pursued by
the Company consist of Internet Service Providers (ISP), and telecommunication
(Teleco's) companies which can benefit from an integrated all in one
connectivity product to the Internet.
In June of 1998 the Company refocused its distribution strategy to a
two tier model moving away from direct selling to VARs and Resellers. With this
two tier distribution approach the Company signed up distributors that sell to
approximately 35,000 VAR's and Resellers. To
<PAGE> 4
supplement the distributors the Company employs Channel Development
Representatives (CDRs). The purpose of the CDRs and manufacturer's
representatives is to assist our distributors with lead generation and market
pull-through of our products in channel to VARs, Resellers, and end users. The
Company for the year has, trained and deployed CDRs in Atlanta, Denver, Dallas,
Orange County, and San Antonio, and signed Affinity Marketing Canada a
manufacturer's rep firm covering Vancouver, Calgary, Edmonton, Toronto, Ottawa,
Montreal and Quebec City.
The Company focused European distribution through two tier distribution
with the signing of Telindus SA. While the Company was encouraged by initial
Team Internet evaluations by the European cable company, management was
disappointed in its overall efforts to expand its European sales through its
original distributor. As a result, the Company is exploring other avenues for
distribution and refocusing its efforts on telecommunication and cable companies
in the European market. A U.S. based distributor and network product developer,
was engaged in September with IPAD distribution rights in Japan and their
personnel have introduced the IPAD into Japanese distribution opportunities. In
August 1998, the Company consummated a contract with Telecom Soluciones, one of
two Argentinian telephone companies. Telecom Soluciones received exclusive
rights to market the Team Internet products in Argentina for a limited period
subject to volume requirements. The agreement included an initial Team Internet
system delivery in excess of $500,000. Additionally, progress was made with
potential sales to other telecommunications companies in Peru. The Company has
restarted activities in Brazil and Mexico.
Another distribution channel the Company is pursuing is the Teleco
companies that provide data access lines. In the third quarter 1998 the Company
introduced its eStar alliance program. The eStar program provides Teleco's with
an all in one solution where the Company brings together financing, an internet
service provider, and a company to install on a national basis the product in
small-to-medium business throughout the country. The program combines the
strengths of a national leasing company(Transamerica Distribution Finance), a
national systems integrator (IBM Global Services) and Internet access providers
to enable Teleco's to deliver a complete Internet package in there respective
markets.
The Company hopes to establish one or more strategic alliance
relationships with synergistic companies such as computer or network product
manufacturers, large system integration companies or telecommunications
companies, ISP, software filtering products, and office automation products
which will permit the products to be sold in conjunction with other products and
telecommunications services. No such relationships have been established to date
and there is no assurance that the negotiation of such a relationship will be
successfully completed. If the Company establishes such relationships it may
become heavily dependent upon such strategic alliance partners to maintain and
expand its presence in the marketplace and the greater economic resources of the
other parties to such relationships may force significant reductions in prices
at which the Company can sell its products and thus adversely affect its margins
and potential for profits. Additionally, the Company may from time to time
explore other acquisition opportunities that will leverage the technology base
opening new markets for its products.
<PAGE> 5
Long term the Company proposes to develop a Team Internet-supported
virtual private network ("VPN") product. This product will require the
development and integration software encryption technology into the Team
Internet product. The Company has also begun research to identify the important
characteristics of a future VPN product offering. The Company believes that the
inclusion of the VPN technology in a Team Internet product will have
considerable market appeal for prospective customers that require secure network
connections from remote locations. Development of this proposed new product is
in a very early stage and there can be no assurance that the Company will be
able to satisfactorily integrate the all technology into the Team Internet
product in a timely manner or at a cost which will permit the Company to
effectively compete with other products offering similar technology.
THE YEAR ENDED DECEMBER 31, 1998 COMPARED TO THE YEAR ENDED DECEMBER 31, 1997
Total revenue for the year ended December 31, 1998 was $9,610,000 compared
to $4,462,000 for the year ended December 31, 1997. In 1998, the Company
expanded its product line focusing on selling direct to small-to-medium
business market until June 1998. The Company was able to leverage the robust
Team Internet operating system and the growth in the Internet in foreign
countries with substantial revenues in the year being generated from
International sales. The Team Internet product was qualified for connection
to the telecommunication backbone of countries in Argentina, Peru, Chile,
Mexico and Spain. In June 1998 the Company moved to a two tier distribution
strategy to provide additional access to value added resellers and network
consultants. The Company added Channel Development Representatives in six
major cities, from August to November of 1998, to work with value added
resellers in the respective area to generate product recognition. The Company
expended substantial resources in developing the market place for the Team
Internet family of product.
The gross profit margin in 1998 was 60% ($5,814,000) of revenue
compared to 59% ($2,649,000) in 1997. The margins remained relatively flat
due to the continued vigilance of the Company in outsourcing production of
the TEAM Internet 2500 product to a contract manufacturer. The outsourcing of
the manufacturing permitted the Company to maintain its cost of the product
without the addition of more assembly labor, as volumes continued to grow
during the year.
Selling, General and Administrative, Engineering and R&D Expenses
increased $6,657,000 or 165% from $4,031,000 in 1997 to $10,688,000 in 1998
primarily due to headcount increases related to the 1998 activities of
building the Company's distribution, marketing and sales network in an
emerging marketplace for the all-in-one appliance. General and Administrative
expenses increased from $1,589,000 in 1997 to $4,206,000 in 1998. The
increases relate to the continued expansion and the additional costs
associated with being a public company. In 1998, general and administrative
salaries increased $825,000, consulting and legal expenses increased $637,000
in part due to merger costs, travel expenses increased $133,000, bad debts
increased $162,000, stockholders' relations
<PAGE> 6
expenses increased $97,000, filing fees increased $51,000, and rent expense
increased $68,000. Selling and Marketing expenditures increased from
$1,412,000 in 1997 to $4,576,000 in 1998. Salaries and related costs
increased $1,332,000, travel expenses increased $382,000, consulting expenses
increased $574,000, and advertising and promotions increased $444,000.
Engineering and technical support increased from $338,000 in 1997 to $982,000
in 1998. Salaries and related costs increased $481,000 and consulting
expenses increased $161,000.
Other income decreased from $1,477,000 in 1997 to $472,000 in 1998. The
decrease is related to the realized gain on trading securities of $2,020,000
in 1997 compared to $235,000 in 1998. In 1997 there was also an unrealized
loss of $461,000 compared to an unrealized gain of $72,000 in 1998. Net
interest income(expense) increased from ($43,000) in 1997 to $140,000 in 1998
as a result of the fund raising activities which occurred in 1998 and the
investment income related to investing of those funds.
Net loss from operations was ($67,000) for the year ended December 31,
1997, compared to ($4,240,000) for the year ended December 31, 1998, an
increase in the loss of ($4,173,000) over the same period. The net losses are
associated with the aggressive expansion of the product line, marketing
efforts, and the hiring of a professional management team to grow the Company
in an emerging market.
LIQUIDITY AND CAPITAL RESOURCES
In April of 1998, the Company secured an equipment loan from Idaho
Independent bank that is collateralized by a first position security interest
in fixed assets. This term loan replaced a term loan expiring May 1998 from
US Bank of Idaho with a balance of $64,426. The Idaho Independent Bank term
loan provides for a maximum loan of $125,000. The balance on December 31,
1998 was $104, 309.
In June 1998 the Company issued a note payable to Extended Systems,
Inc. (ESI) in conjunction with the marketing agreement and OEM distribution
agreement between ESI and the Company. The funds were to assist in the
marketing efforts to benefit the ESI Internet Access Server IAS, manufactured
by the Company. Under the terms of the Marketing Agreement, ESI agreed to
loan the Company up to a maximum of $500,000. The note is reduced by the
amount of $158 for each IAS unit sold by ESI into the channel until October
1999, the note maturity date. The balance of the note on December 31, 1998,
was $356,060. Upon maturity, the note can be repaid in cash, converted to
common stock at $15 per share, or by another mutually agreed upon payment
method. The note is subordinate to all debt at Idaho Independent Bank.
<PAGE> 7
In March 1998, the Company completed its initial public offering in
Canada of 1,550,000 shares of the Company's common stock at an offering price
of $1.00 per share. Additionally, the Agent was issued 110,000 shares of the
Company's common stock in the Canadian Offering along with warrants to
purchase 250,000 shares of the Company's common stock at a price of $1.00 for
the first 12 months and at a price of $1.15 for the next 12 months. The
Agent, subsequent to March 31, 1998, exercised its right to purchase 250,000
shares of common stock. The net cash proceeds to the Company from the IPO was
approximately $1,009,000 after payment of expenses of approximately $541,000.
During the first quarter of 1998, the Company completed a $340,000
private placement in February and March 1998 of 340,000 shares of the
Company's common stock, at a price of $1.00 per share to officers, directors,
key employees and consultants of the Company including a subscription for
50,000 shares, included in the above at a price of $1.00 which was collected
in April 1998.
In June 1998, eSoft completed the private placement of 1,468,941 shares
of its common stock at a price of $4.25 per share for a total offering of
$6,243,000. The net cash proceeds to the Company from the private placement
were approximately $5,480,000 after payment of expenses of the offering,
estimated at $256,000, and payment of $507,825 (8.13% of the offering price)
commissions to the Agent, Sub-Agents, and Finders who were issued warrants to
purchase 159,318 (10.85% of the offered shares) shares of the Company's
common stock at a price of US $4.25 in the first year and US $4.90 in the
second year. In addition, other various private placements during 1998
produced cash proceeds of about $118,000.
During the year various employee and consultant options and warrants
were exercised, with resulting cash proceeds of about $369,000.
The Company's cash position on December 31, 1998 was $732,000, a
decrease of $496,000 from December 31, 1997 due to the realized gain on
investments in 1997. The Company's working capital at December 31, 1998 was
$4,456,000. Investments of $2,000,000 matured during the first quarter, from
which the proceeds were utilized to support operations. Management
anticipates continuing losses in support of the growth curve and, thus, its
cash position will continue to decrease. Additionally, in the near term, with
new distributors being added to continue market development, the Company
anticipates its accounts receivable to increase. The Company is increasing
efforts to reduce the present accounts receivable balance through more
stringent collection efforts of the current customer base in an attempt to
reduce days outstanding. The increase in inventories from 1997 resulted
primarily from conscious efforts by management in order to accommodate
forecasted sales. The Company has expended $428,000 in 1998 in capital
expenditures, of which $176,000 was related to leasehold improvements.
Management believes that its current cash position, the anticipated cash
receipts from receivables, and potential private placement funding discussed
below will be sufficient to meet its working capital needs for the
foreseeable future.
CASH FLOW
For the years ended December 31, 1998 and December 31, 1997, cash
decreased $496,000 and increased $1,179,000, respectively. In 1998, net cash
used in operating activities was $5,471,000 and in 1997, net cash provided by
operating activities was $825,000. The increase in cash used in operating
activities is primarily due to an increased net loss after adding back
non-cash charges, increased accounts receivable, and increased inventories in
anticipation of projected sales.
<PAGE> 8
Net cash used in investing activities for the year ended December 31,
1998 was $2,830,000 compared to $423,000 for the year ended December 31,
1997. The $2,407,000 increase is primarily a result of the purchase of
investments with the proceeds from fund raising activities in June 1998,
where 1,468,941 shares were issued at $4.25 per share pursuant to a private
placement.
Net cash provided by financing activities was $7,806,000 and $777,000
for the years ended December 31, 1998 and 1997, respectively. The $7,029,000
increase is primarily due to proceeds from the public offering of 1,550,000
shares, net of offering costs, and also the private placement of 1,468,941
shares. Financing activities also include various other private placements,
option conversions, and borrowings and repayments of long and short term
debt.
The Company anticipates expending an additional $200,000 for capital
expenditures this fiscal year. eSoft will continue to capitalize software
development costs consistent with its strategy of the development of TEAM
Internet software for the marketplace.
INCOME TAXES
At December 31, 1998, a valuation allowance of approximately $1,526,000
has been recorded, as Management of the Company is not able to determine that
it is more likely than not that its deferred tax assets will be realized. The
Company has recorded a valuation allowance primarily related to the
uncertainty of realizing operating loss carryforwards subject to limitations
under Section 382 of the Internal Revenue Code.
YEAR 2000 EFFECT
The Year 2000 ("Y2K") computer problem refers to the potential for
system and processing failures of date-related data as a result of
computer-controlled systems using two digits rather than four to define the
applicable year. For example, computer programs that have time-sensitive
software may recognize a date represented as "00" as the year 1900 rather
than the year 2000. This could result in a system failure or miscalculations
causing disruptions of operations, including among other things, a temporary
inability to process transactions, send invoices, or engage in similar normal
business activities.
All new products and upgrades introduced by eSoft will be Y2K
compliant. eSoft has tested the remainder of the IPAD, TEAM Internet,
Instagate and Interceptor systems and connections of the IPAD, TEAM Internet,
Instagate and Interceptor product lines to other systems utilizing standard
Internet protocols. The testing completed on the product line to date has
lead eSoft to believe that the products will not be affected by a connection
to a non-compliant Y2K system. eSoft has been testing its existing products
for use in the Year 2000 and beyond, and all products produced after November
1, 1997 are Y2K compliant until 2036.
However, eSoft's testing does not cover every possible computing
environment. Accordingly, some customers may have Y2K problems with products
that the company believes are Y2K compliant.
<PAGE> 9
For instance, eSoft's customers may be operating on older versions of
hardware platform utilizing eSoft's products software. Early models of the
TEAM Internet 2500 and 4500 products shipped before November 1, 1997 may
include a BIOS in the computer hardware that is not Y2K compliant. The number
of units affected is estimated to be a small percentage of the installed
base. In February 1999 a software upgrade was released to correct the
specific issues caused by use of the non-compliant BIOS. In addition, there
is a plan to replace the non-compliant BIOS with a Y2K compliant BIOS if the
customer prefers a hardware fix.
eSoft has tested the discontinued TBBS products that it no longer
markets for Y2K compliance, some of which might still be in use. eSoft's TBBS
product had one deficiency associated with Y2K, which was corrected with a
free update released in October 1998. eSoft expects that any customers that
materially rely on such discontinued products will test them for Y2K
compliance and notify eSoft if there are problems. eSoft's experience in
developing Y2K compliant versions of its existing products suggests that if
it is required to correct Y2K problems in such discontinued products, it
could do so without incurring material expenses.
eSoft also may be affected by Y2K issues related to non-compliant
internal systems developed by eSoft or by third-party vendors. eSoft has
reviewed its internal systems, including its accounting system, and have
found them to be Y2K compliant. eSoft is not currently aware of any Y2K
problem relating to any of its internal, material systems and does not
believe that it has any material systems that contain embedded chips that are
not Y2K compliant.
eSoft's internal operations and business are also dependent upon the
computer-controlled systems of third parties such as suppliers, customers and
service providers. Management believes that absent a systemic failure outside
the control of eSoft, such as a prolonged loss of electrical or telephone
service, Y2K problems at such third parties will not have a material impact
on eSoft. eSoft has no contingency plan for systemic failures such as loss of
electrical or telephone services. eSoft's contingency plan in the event of a
non-systemic failure is to establish relationships with alternative suppliers
or vendors to replace failed suppliers or vendors. Other than the previously
described testing, and remedying problems identified by testing or from
external sources, eSoft has no other contingency plans or intention to create
other contingency plans.
Any failure by eSoft to make its products Y2K compliant could result in
a decrease in sales of its products, an increase in allocation of resources
to address Y2K problems of its customers without additional revenue
commensurate with such dedication of resources, or litigation costs relating
to losses suffered by eSoft's customers due to such year 2000 problems.
Failures of eSoft's internal systems could temporarily prevent it from
processing orders, issuing invoices, and developing products, and could
require it to devote significant resources to correcting such problems. But
to eSoft's knowledge, the internal accounting systems have been attested by
the supplier as Y2K compliant. Due to the general uncertainty inherent in the
year 2000 computer problem, resulting from the uncertainty of the year 2000
readiness of third-party suppliers and vendors, eSoft is unable to determine
at this time whether the consequences of Y2K failures will have a material
impact on its business, results of operations, and financial condition.
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ITEM 7. FINANCIAL STATEMENTS AND EXHIBITS.
The following are the consolidated financial statements and exhibits of
eSoft, Inc. and subsidiary which are filed as part of this report.
eSOFT, INC. AND
SUBSIDIARIES
CONTENTS
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CONSOLIDATED FINANCIAL STATEMENTS:
Report of Independent Certified Public Accountants -
BDO Seidman, LLP F-2
Independent Auditors' Report -
Balukoff, Lindstrom & Co., P.A. F-3
Balance Sheet as of December 31, 1998 F-4 - F-5
Statements of Operations for the Years Ended
December 31, 1998 and 1997 F-6
Statements of Stockholders' Equity for the
Years Ended December 31, 1998 and 1997 F-7
Statements of Cash Flows for the Years Ended
December 31, 1998 and 1997 F-8 - F-9
Summary of Accounting Policies F-10 - F-17
Notes to Consolidated Financial Statements F-18 - F-36
All other schedules are omitted because the required
information is either inapplicable or is included in the
consolidated financial statements or the notes thereto.
</TABLE>
F-1
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REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
To the Board of Directors
eSoft, Inc.
Broomfield, Colorado
We have audited the accompanying consolidated balance sheet of eSoft, Inc. and
Technologic, Inc. as of December 31, 1998, and the related consolidated
statements of operations, stockholders' equity and cash flows for each of the
two years in the period ended December 31, 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 did not audit
the financial statements of Apexx Technology, Inc. which financial statements
reflect total assets of approximately $1,168,000 as of December 31, 1998 and
total revenues of approximately $2,003,000 and $3,808,000 for each of the two
years in the period ended December 31, 1998, respectively. Those financial
statements were audited by another auditor whose report has been furnished to
us, and our opinion, insofar as it relates to the amounts included for Apexx
Technology, Inc., is based solely on the report of the other auditor.
We conducted our audits 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 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 and the report of the other auditor provide a
reasonable basis for our opinion.
In our opinion, based on our audits and the report of the other auditor, the
consolidated financial statements referred to above present fairly, in all
material respects, the financial position of eSoft, Inc. as of December 31, 1998
and the results of their operations and their cash flows for each of the two
years in the period ended December 31, 1998, in conformity with generally
accepted accounting principles.
/s/ BDO Seidman, LLP
Denver, Colorado
November 17, 1999
F-2
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INDEPENDENT AUDITORS' REPORT
Board of Directors
Apexx Technology, Inc.
Boise, Idaho
We have audited the balance sheet of Apexx Technology, Inc. as of December 31,
1998 and the related statements of operations, changes in stockholders' deficit,
and cash flows for each of the two years in the period ended December 31, 1998.
The 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 audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Apexx Technology, Inc. as of
December 31, 1998 and the results of its operations and its cash flows for each
of the two years in the period ended December 31, 1998 in conformity with
generally accepted accounting principles.
The Company's financial statements have been prepared assuming that it will
continue as a going concern. The Company's significant operating losses raise
substantial doubt about its ability to continue as a going concern. The
financial statements do not include any adjustments that might result from the
outcome of this uncertainty.
/s/ Balukoff, Lindstrom & Co., P.A.
Boise, Idaho
February 4, 1999
F-3
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eSOFT, INC. AND
SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
================================================================================
<TABLE>
<CAPTION>
December 31, 1998
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ASSETS
CURRENT:
Cash and cash equivalents $ 732,384
Investment securities 2,174,730
Accounts receivable, less allowance of $313,000
for possible losses 2,830,981
Inventories 1,617,889
Prepaid expenses and other 259,696
------------
Total current assets 7,615,680
------------
PROPERTY AND EQUIPMENT:
Computer equipment 546,720
Furniture and equipment 504,248
Manufacturing tools and equipment 26,423
------------
1,077,391
Less accumulated depreciation 483,495
------------
Net property and equipment 593,896
------------
OTHER ASSETS:
Capitalized software development costs, net of accumulated
amortization of $314,000 867,072
Restricted cash and cash equivalents 85,000
Other 7,039
------------
Total other assets 959,111
------------
$ 9,168,687
============
</TABLE>
See accompanying summary of accounting policies and
notes to consolidated financial statements.
F-4
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eSOFT, INC. AND
SUBSIDIARIES
CONSOLIDATED BALANCE SHEET (CONTINUED)
================================================================================
<TABLE>
<CAPTION>
December 31, 1998
------------
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LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT:
Accounts payable $ 1,497,276
Margin loan on investments 39,544
Current portion of long-term debt 136,865
Marketing loan agreement 356,060
Deferred revenue 259,307
Customer deposits 248,287
Accrued expenses:
Payroll and payroll expenses 258,184
Legal fees 53,400
Other 310,666
------------
Total current liabilities 3,159,589
------------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Preferred stock, $.01 par value, 5,000,000 shares authorized,
none outstanding --
Common stock, $.01 par value, 50,000,000 shares authorized,
9,694,673 shares issued and outstanding 96,947
Additional paid-in capital 10,215,840
Accumulated deficit (4,303,689)
------------
Total stockholders' equity 6,009,098
------------
$ 9,168,687
============
</TABLE>
See accompanying summary of accounting policies and
notes to consolidated financial statements.
F-5
<PAGE> 15
eSOFT, INC. AND
SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
================================================================================
<TABLE>
<CAPTION>
Years Ended December 31, 1998 1997
------------ ------------
<S> <C> <C>
REVENUES $ 9,609,964 $ 4,461,569
COST OF GOODS SOLD 3,796,175 1,812,761
------------ ------------
Gross profit 5,813,789 2,648,808
------------ ------------
EXPENSES:
Selling and marketing 4,575,906 1,412,303
General and administrative 4,206,168 1,589,476
Engineering 982,097 337,895
Research and development 734,567 574,739
Amortization of software costs 189,399 116,912
Total costs and expenses 10,688,137 4,031,325
------------ ------------
Loss from operations (4,874,348) (1,382,517)
------------ ------------
OTHER (INCOME) EXPENSE:
Interest (income) expense, net (139,611) 43,209
Realized gain on trading securities (234,940) (2,020,292)
Unrealized (gain) loss on trading securities (72,361) 460,610
Other (income) expense, net (26,251) 25,577
Loss on sale of assets 1,013 13,624
------------ ------------
Total other income (472,150) (1,477,272)
------------ ------------
Income (loss) before income tax (benefit) expense (4,402,198) 94,755
Income tax (benefit) expense (162,000) 162,000
------------ ------------
NET LOSS $ (4,240,198) $ (67,245)
============ ============
BASIC AND DILUTED LOSS PER COMMON STOCK: $ (.50) $ (.02)
============ ============
WEIGHTED-AVERAGE NUMBER OF COMMON
SHARES OUTSTANDING BASIC AND DILUTED: 8,433,839 4,029,015
============ ============
</TABLE>
See accompanying summary of accounting policies and
notes to consolidated financial statements.
F-6
<PAGE> 16
eSOFT, INC. AND
SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
================================================================================
<TABLE>
<CAPTION>
Common Stock Additional
---------------------------- Paid-in
Years Ended December 31, 1998 and 1997 Shares Amount Capital
------------ ------------ ------------
<S> <C> <C> <C>
BALANCE, January 1, 1997 3,720,900 $ 37,209 $ 865,135
Issuance of common stock pursuant to private
placements, net of offering costs of $80,841 1,227,015 12,270 970,839
Common stock subscribed 350,000 3,500 346,500
Repurchase of common stock (22,856) (228) 227
Net loss for the year -- -- --
------------ ------------ ------------
BALANCE, December 31, 1997 5,275,059 52,751 2,182,701
Issuance of compensatory options -- -- 106,413
Issuance of warrants for prepaid consulting services -- -- 214,649
Exercise of warrants and options 442,372 4,424 396,076
Issuance of common stock pursuant to initial public
offering, net of offering costs of $ 540,850 1,550,000 15,500 993,650
Issuance of common stock pursuant to private
placements, net of offering costs of $866,449 1,995,281 19,952 5,916,908
Issuance of common stock to employees 90,000 900 89,100
Issuance of common stock for offering fees 110,000 1,100 (1,100)
Issuance of common stock pursuant to conversion
of notes payable 355,903 3,559 352,344
Repurchase of common stock (123,942) (1,239) (34,901)
Cash dividend paid by pooled company -- -- --
Net loss for the year -- -- --
------------ ------------ ------------
BALANCE, December 31, 1998 9,694,673 $ 96,947 $ 10,215,840
============ ============ ============
</TABLE>
<TABLE>
<CAPTION>
Retained Earnings Total
(Accumulated Stockholders'
Years Ended December 31, 1998 and 1997 Deficit) Equity
------------ ------------
<S> <C> <C>
BALANCE, January 1, 1997 $ 253,754 $ 1,156,098
Issuance of common stock pursuant to private
placements, net of offering costs of $80,841 -- 983,109
Common stock subscribed -- 350,000
Repurchase of common stock -- (1)
Net loss for the year (67,245) (67,245)
------------ ------------
BALANCE, December 31, 1997 186,509 2,421,961
Issuance of compensatory options -- 106,413
Issuance of warrants for prepaid consulting services -- 214,649
Exercise of warrants and options -- 400,500
Issuance of common stock pursuant to initial public
offering, net of offering costs of $ 540,850 -- 1,009,150
Issuance of common stock pursuant to private
placements, net of offering costs of $866,449 -- 5,936,860
Issuance of common stock to employees -- 90,000
Issuance of common stock for offering fees -- --
Issuance of common stock pursuant to conversion
of notes payable -- 355,903
Repurchase of common stock -- (36,140)
Cash dividend paid by pooled company (250,000) (250,000)
Net loss for the year (4,240,198) (4,240,198)
------------ ------------
BALANCE, December 31, 1998 $ (4,303,689) $ 6,009,098
============ ============
</TABLE>
See accompanying summary of accounting policies and
notes to consolidated financial statements.
F-7
<PAGE> 17
eSOFT, INC. AND
SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
================================================================================
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
<TABLE>
<CAPTION>
Years Ended December 31, 1998 1997
------------ ------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (4,240,198) $ (67,245)
Adjustments to reconcile net loss to net cash provided by (used in)
operating activities:
Depreciation and amortization 475,958 212,310
Proceeds from sale of trading securities 234,940 2,020,292
Realized gain from sale of trading securities (234,940) (2,020,292)
Unrealized (gain) loss from sale of trading securities (72,361) 460,610
Loss on sale of assets 1,013 13,624
Amortization of discount on investments (71,624) --
Issuance of common stock for compensation 90,000 --
Provision for losses on accounts receivable 212,981 51,465
Provision for inventory obsolescence 59,440 --
Deferred tax expense (benefit) (162,000) 162,000
Consulting expense incurred for note payable -- 41,000
Issuance of compensatory options 106,413 --
Non-cash additions to notes payable 47,189 --
Changes in operating assets and liabilities:
Accounts receivable (2,377,716) (388,519)
Inventories (1,188,056) (225,594)
Other assets (335) 52,344
Accounts payable 946,981 416,839
Accrued expenses and other 596,795 102,679
Deferred revenue 104,224 (6,498)
------------ ------------
Net cash provided by (used in) operating activities (5,471,296) 825,015
------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of investments (1,919,917) --
Proceeds from sale of assets 2,722 --
Purchase of property and equipment (428,332) (181,606)
Deposit on leased facilities (85,000) --
Advances on non-operating notes receivable - employee (15,000) (20,000)
Payments received from non-operating notes receivable - employee 20,443 --
Additions to capitalized software (405,000) (221,139)
------------ ------------
Net cash used in investing activities (2,830,084) (422,745)
------------ ------------
</TABLE>
See accompanying summary of accounting policies and
notes to consolidated financial statements.
F-8
<PAGE> 18
eSOFT, INC. AND
SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(CONTINUED)
================================================================================
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
<TABLE>
<CAPTION>
Years Ended December 31, 1998 1997
------------ ------------
<S> <C> <C>
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from sale of stock, warrants and options 8,753,809 1,213,950
Offering costs paid (1,126,405) (80,841)
Purchase of treasury stock (36,140) (1)
Payment of cash dividend (250,000) --
Proceeds from stock subscription receivable 200,000 --
Proceeds from short-term debt 668,872 370,000
Payments on short-term debt (390,000) (395,000)
Proceeds from long-term debt 125,879 --
Payments on long-term debt (25,581) (8,793)
Proceeds (repayment) from margin loan on investments 39,544 (192,510)
Proceeds from line of credit, net (58,600) (19,532)
Proceeds from borrowings -- 100,000
Payments on borrowings (75,757) (24,243)
Proceeds (payments) from related party borrowings (20,000) 20,000
Deferred offering costs -- (205,896)
------------ ------------
Net cash provided by financing activities 7,805,621 777,134
------------ ------------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (495,759) 1,179,404
CASH AND CASH EQUIVALENTS, beginning of year 1,228,143 48,739
------------ ------------
CASH AND CASH EQUIVALENTS, end of year $ 732,384 $ 1,228,143
============ ============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for interest $ 28,313 $ 74,809
Cash paid for taxes -- 21
SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND
FINANCING ACTIVITIES:
Common stock issued for conversion of debt 355,903 --
Common stock issued for offering costs 1,100 --
Warrants issued for prepaid consulting services 214,649 --
Convertible notes payable issued for consulting
services and deferred offering costs -- 116,000
Common stock issued for subscription receivable -- 200,000
Short-term debt converted to long-term debt -- 40,200
============ ============
</TABLE>
See accompanying summary of accounting policies and
notes to consolidated financial statements.
F-9
<PAGE> 19
eSOFT, INC. AND
SUBSIDIARIES
SUMMARY OF ACCOUNTING POLICIES
================================================================================
BUSINESS eSoft, Inc. (the "Company" or "eSoft"), a Delaware
corporation, develops and markets internet
connectivity solutions. The Company has developed
software, which is integrated with a hardware
component that allows local area networks to
connect with the internet. The software also
contains full access control for its remote access
features. The Company also resells related
connectivity accessories. The Company previously
had developed and sold software for the bulletin
board market. The majority of the Company's
products are manufactured by external sources. In
1998, 60% of the Company's product was purchased
from two suppliers.
The Company was previously a Colorado corporation
and was merged into a newly formed Delaware
corporation as of February 17, 1998 of the same
name with the Colorado corporation ceasing to
exist. The transaction was accounted for on a
basis similar to a pooling of interests with no
change in the historical financial statements of
eSoft. The newly formed corporation had no
operations prior to the merger.
Effective May 25, 1999, the Company completed the
merger with Apexx Technology, Inc. ("Apexx")
located in Boise, Idaho which provided for the
exchange of all of the outstanding stock of Apexx
for shares of eSoft common stock and for the
conversion of all Apexx stock options into eSoft
stock options to acquire 1,356,003 shares of eSoft
common stock. The merger has been accounted for as
a pooling of interests, and, as a result, the
Company filed restated historical financial
statements giving retroactive effect of this
merger in Form 8-K on August 9, 1999.
Effective September 10, 1999, the Company
completed the merger (the "Merger") with
Technologic, Inc. ("Technologic") located in
Norcross, Georgia which provided for the exchange
of all of the outstanding stock of Technologic for
shares of eSoft common stock and for the
conversion of all Technologic stock options into
eSoft stock options to acquire 180,565 shares of
eSoft common stock. The Merger has been accounted
for as a pooling of interests.
F-10
<PAGE> 20
eSOFT, INC. AND
SUBSIDIARIES
SUMMARY OF ACCOUNTING POLICIES
================================================================================
<TABLE>
<CAPTION>
Number of
eSoft Shares
Pooled Company Nature of Operations Merger Date Issued
-------------------------- ------------------------ ------------------ ----------------
<S> <C> <C> <C>
Technologic, Inc. Internet connectivity September 10, 1,244,435
solutions 1999
</TABLE>
The consolidated financial statements give
retroactive effect to the Merger, which has been
accounted for using the pooling of interests
method and, as a result, the financial position,
results of operations and cash flows are presented
as if Technologic had been consolidated with eSoft
for all years presented. The consolidated
statements of stockholders' equity reflect the
accounts of eSoft as if the additional common
stock issued in connection with the Merger had
been issued for all periods presented.
The consolidated financial statements, including
the notes thereto, should be read in conjunction
with the historical financial statements of eSoft
included in eSoft's 1998 annual report on Form
10-KSB and Form 8-K dated August 9, 1999 and the
financial statements of Technologic included in
Form 8-K/A dated November 17, 1999.
The consolidated balance sheet of eSoft as of
December 31, 1998 has been combined with that of
Technologic as of December 31, 1998. For the years
ended December 31, 1998 and 1997, the results of
eSoft have been combined with those of Technologic
for the same years.
PRINCIPLES OF The consolidated financial statements include the
CONSOLIDATION accounts of the Company and its wholly owned
subsidiaries, Apexx and Technologic. All
significant intercompany accounts and transactions
have been eliminated in consolidation.
CASH The Company considers cash and all highly liquid
EQUIVALENTS investments purchased with an original maturity of
three months or less to be cash equivalents.
F-11
<PAGE> 21
eSOFT, INC. AND
SUBSIDIARIES
SUMMARY OF ACCOUNTING POLICIES
================================================================================
INVESTMENT Investment securities are classified as either
SECURITIES held-to-maturity, available-for-sale or trading.
Investment securities classified as
held-to-maturity are stated at cost, adjusted for
amortization of premiums and accretion of
discounts. It is management's intention and it has
the ability to hold investment securities
classified as held-to-maturity and, accordingly,
adjustments are not made for temporary declines in
their market value below amortized cost.
Investment securities classified as
available-for-sale are carried at their estimated
market value with unrealized holding gains and
losses, net of tax, reported as a separate
component of stockholders' equity until realized.
Investment securities classified as trading are
carried at estimated market value. Unrealized
holding gains and losses for trading securities
are included in the statements of operations.
Gains and losses on securities sold are determined
based on the specific identification of the
securities sold. At December 31, 1998, $183,189
was classified as trading securities; all other
investments were classified as held-to-maturity.
INVENTORIES Inventories, consisting of purchased goods, are
valued at the lower of cost (weighted-average) or
market.
PROPERTY AND Property and equipment are stated at cost.
EQUIPMENT Depreciation is computed using the straight-line
method over the estimated useful lives (ranging
from three to seven years) of the assets.
Depreciation expense for the years ended December
31, 1998 and 1997, was $179,405 and $95,398.
CAPITALIZED Costs incurred internally in creating software
SOFTWARE COSTS products for resale are charged to expense until
technological feasibility has been established
upon completion of a detail program design.
Thereafter, all software development costs are
capitalized until the point that the product is
ready for sale and subsequently reported at the
lower of amortized cost or net realizable value.
F-12
<PAGE> 22
eSOFT, INC. AND
SUBSIDIARIES
SUMMARY OF ACCOUNTING POLICIES
================================================================================
In accordance with Statement of Financial
Accounting Standard ("SFAS") No. 86, the Company
recognizes the greater amount of annual
amortization of capitalized software costs under
1) the ratio of current year revenues by product,
to the product's total estimated revenues method
or 2) over the products estimated economic useful
life by the straight-line method.
LONG-TERM The Company applies SFAS No. 121, "Accounting for
ASSETS the Impairment of Long-Lived Assets." Under SFAS
No. 121, long-lived assets and certain intangibles
are evaluated for impairment when events or
changes in circumstances indicate that the
carrying value of the assets may not be
recoverable through the estimated undiscounted
future cash flows resulting from the use of these
assets. When any such impairment exists, the
related assets will be written down to fair value.
REVENUE The Company recognizes certain revenue at the time
RECOGNITION products are shipped to its customers. Provision
is made currently for estimated product returns
which may occur. Revenue from support and update
service agreements is deferred at the time the
agreement is executed and recognized ratably over
the contractual period. The Company recognizes
revenues from customer training and consulting
services when such services are provided. All
costs associated with licensing of software
products, support and update services, and
training and consulting services are expensed as
incurred.
A portion of sales is made to distributors under
terms allowing certain rights of return and price
protection on unsold product held by the
distributors.
Software Revenue Recognition
The Company follows the guidance of Statement of
Position ("SOP") 97-2, "Software Revenue
Recognition." SOP 97-2 provides guidance on when
revenue should be recognized and in what amounts
for licensing, selling, leasing or otherwise
marketing computer software.
F-13
<PAGE> 23
eSOFT, INC. AND
SUBSIDIARIES
SUMMARY OF ACCOUNTING POLICIES
================================================================================
ADVERTISING The Company records advertising expense in the
period the expense is incurred. In 1998 and 1997,
the Company recorded $688,753 and $311,217 in
advertising expense.
INCOME TAXES The Company with consent of its stockholder,
through September 4, 1997, elected under the
Internal Revenue Code to be an S-corporation.
Subsequent to September 4, 1997, the Company is
taxed as a U.S. C-corporation. In lieu of
corporation income taxes, the stockholder and
partners were taxed on their proportional share of
the Company's or partnership's taxable income.
Therefore through September 4, 1997, no provision
for income taxes has been made in the accompanying
financial statements.
Through September 10, 1999, Technologic elected
under the Internal Revenue Code to be an
S-Corporation. Subsequent to September 10, 1999,
the Company is taxed as a U.S. C-Corporation. In
lieu of corporation income taxes, the stockholder
and partners were taxed on their proportional
share of the Company's taxable income. Therefore
through September 10, 1999, no provision for
income taxes has been made in the accompanying
financial statements.
The Company follows the provisions of SFAS No.
109, "Accounting for Income Taxes," which requires
use of the "liability method". Accordingly,
deferred tax liabilities and assets are determined
based on the temporary differences between the
financial statement and tax bases of assets and
liabilities, using the enacted tax rates in effect
for the year in which the differences are expected
to reverse. The provisions of SFAS No. 109 did not
have an impact until after September 4, 1997.
F-14
<PAGE> 24
eSOFT, INC. AND
SUBSIDIARIES
SUMMARY OF ACCOUNTING POLICIES
================================================================================
NET LOSS The Company follows the provisions of SFAS No.
PER SHARE 128, "Earnings Per Share." SFAS No. 128 provides
for the calculation of "Basic" and "Diluted"
earnings per share. Basic earnings per share
includes no dilution and is computed by dividing
income or loss available to common stockholders by
the weighted average number of common shares
outstanding for the period. Diluted earnings per
share reflect the potential dilution of securities
that could share in the earnings of an entity,
similar to fully diluted earnings per share. In
loss periods, dilutive common equivalent shares
are excluded, as the effect would be
anti-dilutive. Basic and diluted earnings per
share are the same for all periods presented.
For the years ended December 31, 1998 and 1997,
total stock options and stock warrants of
3,513,451 and 1,971,420 were not included in the
computation of diluted earnings per share because
their effect was anti-dilutive.
USE OF ESTIMATES The preparation of financial statements in
conformity with generally accepted accounting
principles requires management to make estimates
and assumptions that affect the reported amounts
of assets and liabilities and disclosures of
contingent assets and liabilities at the date of
the financial statements and revenues and expenses
during the reporting period. Actual results could
differ from those estimates and assumptions.
CONCENTRATIONS Credit risk represents the accounting loss that
OF CREDIT RISK would be recognized at the reporting date if
counterparties failed to completely perform as
contracted. Concentrations of credit risk, whether
on or off the balance sheet, that arise from
financial instruments exist for groups of
customers or groups of counterparties when they
have similar economic characteristics that would
cause their ability to meet contractual
obligations to be similarly effected by changes in
economic or other conditions.
F-15
<PAGE> 25
eSOFT, INC. AND
SUBSIDIARIES
SUMMARY OF ACCOUNTING POLICIES
================================================================================
Concentrations of credit risk with respect to
trade accounts receivable are generally limited
due to customers are dispersed across geographic
areas. On-going credit evaluations of customers'
financial condition are performed and, generally
no collateral is required. The Company maintains
an allowance for potential losses based on
management's analysis of possible uncollectible
accounts. (See Note 13).
FAIR VALUE OF Unless otherwise specified, the Company believes
FINANCIAL the book value of financial instruments
INSTRUMENTS approximates their fair value.
STOCK OPTIONS The Company applies Accounting Principles Board
AND WARRANTS Opinion ("APB") 25, "Accounting for Stock Issued
to Employees," and related Interpretations in
accounting for all stock option plans. Under APB
25, compensation cost is recognized for stock
options granted at prices below the market price
of the underlying common stock on the date of
grant.
SFAS No. 123, "Accounting for Stock-Based
Compensation," requires the Company to provide pro
forma information regarding net income as if
compensation cost for the Company's stock option
plans had been determined in accordance with the
fair value based method prescribed in SFAS No.
123.
COMPREHENSIVE The Company has adopted SFAS No. 130, "Reporting
INCOME Comprehensive Income". Comprehensive income is
comprised of net income and all changes to the
statements of stockholders' equity, except those
due to investment by stockholders, changes in paid
in capital and distributions to stockholders. The
adoption of SFAS No. 130 does not impact the
Company's financial statements for 1998 and 1997.
F-16
<PAGE> 26
eSOFT, INC. AND
SUBSIDIARIES
SUMMARY OF ACCOUNTING POLICIES
================================================================================
IMPACT OF SFAS No. 133, "Accounting for Derivative
RECENTLY ISSUED Instruments and Hedging Activities" requires
ACCOUNTING companies to record derivatives on the balance
PRONOUNCEMENTS sheet as assets or liabilities, measured at fair
market value. Gains or losses resulting from
changes in the values of those derivatives are
accounted for depending on the use of the
derivative and whether it qualifies for hedge
accounting. The key criterion for hedge accounting
is that the hedging relationship must be highly
effective in achieving offsetting changes in fair
value or cash flows. SFAS No. 133 is effective for
fiscal years beginning after June 15, 2000.
Management believes that the adoption of SFAS No.
133 will have no material effect on its financial
statements.
SOP 98-5, "Reporting on the Costs of Start-Up
Activities," requires that the costs of start-up
activities, including organization costs, be
expensed as incurred. This Statement is effective
for financial statements issued for fiscal years
beginning after December 15, 1998. Management
believes that the adoption of SOP 98-5 will have
no material effect on its financial statements.
F-17
<PAGE> 27
eSOFT, INC. AND
SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
1. BUSINESS Revenue, net loss and net loss per common share of
COMBINATION eSoft, as previously reported in Form 8-K dated
August 9, 1999, after the Apexx merger, and
Technologic for the two years ending December 31,
are as follows:
REVENUE:
<TABLE>
<CAPTION>
Years Ended December 31, 1998 1997
------------ ------------
<S> <C> <C>
eSoft, as previously reported $ 7,675,706 $ 3,236,563
Technologic 1,934,258 1,225,006
------------ ------------
eSoft, as restated $ 9,609,964 $ 4,461,569
============ ============
NET LOSS:
Years Ended December 31, 1998 1997
------------ ------------
eSoft, as previously reported $ (3,826,615) $ (552,912)
Technologic (413,583) 485,667
------------ ------------
eSoft, as restated $ (4,240,198) $ (67,245)
============ ============
NET LOSS PER COMMON SHARE:
Years Ended December 31, 1998 1997
------------ ------------
As previously reported basic and diluted: $ (.54) $ (.21)
As restated basic and diluted: (.50) (.02)
============ ============
</TABLE>
F-18
<PAGE> 28
eSOFT, INC. AND
SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
2. INVESTMENT A summary of the amortized cost and estimated
SECURITIES market value of investment securities which mature
in six months is as follows:
<TABLE>
<CAPTION>
Gross Gross
Unrealized Unrealized Estimated Market
December 31, 1998 Amortized Cost Gains Losses Value
---------------- ----------- ---------- ----------------
<S> <C> <C> <C> <C>
HELD TO MATURITY:
Short-term zero
coupon notes $ 1,991,541 $ -- $ -- $ 1,991,541
=========== ========= ======== =============
</TABLE>
Included in investment securities is $183,189
(cost of $10) in trading securities. Trading
securities consist of common stock of a single
corporation. These securities are carried at
market value. Realized gains during the periods
included in the statements of operations pertain
to sales made of the common stock.
3. INVENTORIES Inventories at December 31, 1998 consisted of the
following:
<TABLE>
<CAPTION>
1998
------------
<S> <C>
Finished goods $ 1,391,996
Raw materials 285,333
------------
1,677,329
Less reserve for obsolescence 59,440
------------
$ 1,617,889
============
</TABLE>
4. REVOLVING The Company has an unused bank line-of-credit of
LINE OF CREDIT $500,000. The line bears interest at prime plus
1.5%. The line expired in May 1999, and is secured
by accounts receivable, inventory, equipment, and
other assets. Two of the Company's primary
stockholders have personally guaranteed the bank
line-of-credit.
F-19
<PAGE> 29
eSOFT, INC. AND
SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
The line-of-credit has certain debt covenants.
These debt covenants are as follows:
o Ratio of current assets to current
liabilities of at least 1.5 to 1
o Ratio of total liabilities to tangible net
worth that does not exceed 2.5 to 1
o Minimum working capital of $150,000
At December 31, 1998, the Company was not in
compliance with the above covenants and the
Company has not obtained a waiver for such
violations.
5. LONG-TERM Long-term debt consists of the following:
DEBT
<TABLE>
<CAPTION>
December 31, 1998
-------------
<S> <C>
Note payable to bank, payable in monthly installments of
$3,171, including interest at prime plus 1.5% (9.25% at
December 31, 1998), equipment, inventory and accounts
receivable are provided as collateral, due on demand as
a result of the Apexx merger. $ 104,309
Note payable to bank, payable in monthly installments of
$2,170, including interest at prime rate plus 2% (9.75%
at December 31, 1998), maturing March 10, 2002,
collateralized by guarantees from certain shareholders,
due on demand as a result of the Technologic merger. 32,556
-------------
136,865
Less current portion 136,865
-------------
Total long-term debt, less current portion $ --
=============
</TABLE>
F-20
<PAGE> 30
eSOFT, INC. AND
SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
6. RESEARCH AND During the years ended December 31, 1998 and 1997,
DEVELOPMENT the Company capitalized $405,000 and $221,139 of
software development costs. Amortization expense
of capitalized software development costs included
in depreciation and amortization for the years
ended December 31, 1998 and 1997 amounted to
$189,399 and $116,912. Research and development
costs were $734,567 and $574,739 for the years
ended December 31, 1998 and 1997.
Research and development expenditures during the
following periods were comprised as follows:
<TABLE>
<CAPTION>
Years Ended December 31, 1998 1997
------------ ------------
<S> <C> <C>
Payroll and related costs $ 618,269 $ 622,650
Officer payroll -- 50,000
Internet and telephone expenses -- 30,056
Occupancy costs -- 34,860
Purchased services 410,820 2,320
Other 110,478 55,992
------------ ------------
1,139,567 795,878
Less capitalized software costs 405,000 221,139
------------ ------------
$ 734,567 $ 574,739
============ ============
</TABLE>
7. INCOME TAXES The provision for income taxes consisted of the
following:
<TABLE>
<CAPTION>
Years Ended December 31, 1998 1997
------------ ------------
<S> <C> <C>
DEFERRED EXPENSE (BENEFIT):
Federal $ (148,000) $ 148,000
State (14,000) 14,000
------------ ------------
$ (162,000) $ 162,000
============ ============
</TABLE>
F-21
<PAGE> 31
eSOFT, INC. AND
SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
A reconciliation of the effective tax rate and the statutory U.S. federal income
tax rates are as follows:
<TABLE>
<CAPTION>
Years Ended December 31, 1998 1997
------------ ------------
<S> <C> <C>
Federal tax benefit at the federal
statutory rate $ (1,497,000) $ 32,000
State income tax benefit, net of
federal tax amount (191,000) 4,000
Permanent differences (110,000) 2,000
Other 87,000 (26,000)
Losses (earnings) not subject to tax(1) 153,000 (180,000)
Deferred tax expense due to S. Corp
termination -- 243,000
Increase in valuation allowance 1,396,000 87,000
------------ ------------
Income tax (benefit) expense $ (162,000) $ 162,000
============ ============
</TABLE>
(1) Certain income (losses) are not subject to tax at the corporate level as
Technologic, Inc. had elected to be taxed as an S-corporation. Effective
with the merger of eSoft and Technologic, the S-corporation election has
been terminated.
Temporary differences that give rise to a significant portion of the deferred
tax assets and liabilities are as follows:
<TABLE>
<CAPTION>
December 31, 1998
------------
<S> <C>
Net operating loss carryforwards $ 1,442,121
Tax credit carryforward 37,038
Accounts receivable 100,646
Inventory 22,000
Accruals 194,200
Options and warrants 66,000
------------
Total deferred tax asset 1,862,005
------------
Capitalized software costs (325,000)
Property and equipment (1,588)
Other (9,000)
------------
Total deferred tax liability (335,588)
------------
Total 1,526,417
Less valuation allowance 1,526,417
------------
Net deferred tax asset (liability) $ --
============
</TABLE>
F-22
<PAGE> 32
eSOFT, INC. AND
SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
The valuation allowance of $1,526,417 at December
31, 1998, was established because the Company has
not been able to determine that it is more likely
than not that the deferred tax assets will be
realized.
At December 31, 1998, the Company had net
operating loss carryforwards of approximately
$3,798,000 with expirations through 2018. The
utilization of certain of the loss carryforwards
is limited under Section 382 of the Internal
Revenue Code.
As stated in the summary of accounting policies,
eSoft and Technologic had elected to be taxed as
S-corporations. In lieu of the corporation income
taxes, the stockholders and partners were taxed on
their proportional share of eSoft's and
Technologic's taxable income. The pro forma income
(loss) per common share if eSoft and Technologic
were subject to taxes (federal statutory rate of
34%) would be as follows:
<TABLE>
<CAPTION>
Year Ended December 31, 1997
------------
<S> <C>
Income before income taxes $ 94,755
Pro forma income tax expense 306,000
------------
Pro forma net loss $ (211,245)
============
Pro forma loss per share $ --
============
</TABLE>
8. COMMITMENTS AND The Company leases certain of its facilities and
CONTINGENCIES equipment under noncancellable operating lease
agreements, which expire at various dates through
2004. Rent expense for the years ended December
31, 1998 and 1997 was $241,809 and $184,058.
Subsequent to December 31, 1998, the Company
executed a lease to relocate its corporate
headquarters and shipping and assembly facilities
into one location. The new facility lease expires
in May 2004 and annual rental payments are
$173,000. The Company was fully released from its
lease on its prior corporate headquarters.
F-23
<PAGE> 33
eSOFT, INC. AND
SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
Future minimum lease payments under noncancellable
operating leases as adjusted for the new corporate
headquarters lease are as follows:
<TABLE>
<CAPTION>
Years Ending December 31,
-------------------------
<S> <C>
1999 $ 222,000
2000 260,000
2001 266,000
2002 270,000
2003 201,000
Thereafter 78,000
------------
$ 1,297,0
============
</TABLE>
Software Development and License Agreements
The Company has entered into several software
development and license agreements related to
software utilized in certain of the Company's
products. The agreements require compensation or
royalty payments based on percentages (ranging
from 2.5% to 33.3%) of applicable gross sales and
subject to certain maximum amounts per license as
defined in the agreements.
During 1998, the Company entered into an agreement
to terminate the software development agreements.
The termination agreement required the Company to
pay $30,000 at the agreement's inception; $30,000
no later than 15 days after the Company completes
its proposed public offering but not later than
December 31, 1998 if the proposed public offering
is not completed by that date; and the issuance of
stock warrants entitling the warrant holder, for a
period of two years from January 29, 1998 to
purchase up to 20,000 shares of the Company's
common stock at a price of $1.00 per share until
one year after the closing of the public offering
and $1.15 per share until the warrants expire. The
required $60,000 payment was made in 1998.
F-24
<PAGE> 34
eSOFT, INC. AND
SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
In 1998, the Company entered into a software
development agreement with a company. The
development agreement required a payment of
$150,000 for a wireless product with VPN
capabilities to be integrated with the IPAD.
Additionally, in conjunction with its sales
efforts in Japan, the company was paid $195,000 to
nationalize the interface of the IPAD for the
Japanese marketplace.
Marketing Agreement
In June 1998, the Company entered into an
agreement with Extended Systems, Inc. (ESI). Under
the terms of the agreement, ESI agreed to loan the
Company up to $500,000 to assist in marketing
ESI's products. The loan balance is reduced by
$158 for each unit sold through October 1999. The
unpaid balance is due in October 1999 and can be
paid in cash, common stock of the Company, or by
another mutually agreed upon payment method. The
Company controls the choice of payment options. As
of December 31, 1998, ESI has advanced the Company
approximately $390,000; including cash advances of
$308,872 and noncash advances of approximately
$80,000 and the recorded balance after accounting
for the number of units sold was $356,060.
Interest on the note accrues at a rate of 6% per
year.
Pacific Crest Securities, Inc. Agreement
On January 25, 1999, the Company entered into an
agreement with Pacific Crest Securities, Inc.
("Pacific") related to the merger with Apexx.
Under the terms of the agreement, eSoft paid
Pacific $200,000 and the Company's stockholders
transferred 48,000 shares of eSoft stock to
Pacific subsequent to December 31, 1998.
F-25
<PAGE> 35
eSOFT, INC. AND
SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
Employment Agreements
On September 2, 1997, the Company entered into an
employment agreement with an officer and a
director that extends for a thirty-six month
period commencing on September 1, 1997. Under the
terms of the agreement, the Company is obligated
to pay the sum of $10,000 per month. In addition,
the officer and director was granted incentive
stock options to acquire 200,000 shares of common
stock at a price of $1.00 per share for a period
of five years. The options vest over a 36-month
period as follows: 7/36 of the options vested in
April 1998 and 1/36 of the options will vest on
the first day of each month thereafter. A
quarterly performance bonus equal to 10% of the
Company's earnings, net of adjustments for
interest and taxes. In the event that the bonus
exceeds 50% of the gross annual salary, the bonus
will be capped at the amount of the salary for the
quarter.
On November 6, 1998 the Company entered into an
employment agreement with an officer and director
that extends for a thirty-six month period
commencing on November 9, 1998. Under the terms of
the agreement, the Company is obligated to pay the
sum of $15,000 per month. In addition, the officer
and director was granted incentive stock options
to acquire 400,000 shares of eSoft common stock at
a price of $4.00 per share for a period of four
years. The options vest over a 36-month period as
follows: 7/36 of the options will vest in June
1999 and 1/36 of the options will vest on the
first day of each month thereafter. The officer
and director is also eligible to receive incentive
pay equal to 50% of his annual salary paid
quarterly based on objectives agreed by officer
and the Company's Board of Directors. The
incentive pay will be based as follows: one-third
on revenue, one-third on earnings and one-third on
mutually agreed quarterly objectives.
F-26
<PAGE> 36
eSOFT, INC. AND
SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
The Company has entered into employment agreements
with seven other executive officers with a range
of salary levels and benefits. The term of these
employment agreements is either twenty-four months
or thirty-six months, at salary levels ranging
from $7,500 to $10,000 per month. The agreements
are cancelable and terminate from December 2000
through April 2002. The employment agreements
provide for either a quarterly performance-based
bonus ranging from $5,000 to $12,500 or a 1%
commission on gross sales, paid on a monthly
basis. In addition to monthly compensation and
quarterly bonuses, executives under these
agreements have received incentive stock options
to purchase between 20,000 and 80,000 shares of
eSoft common stock at exercise prices ranging from
$1.00 to $6.15 per share.
Effective March 30, 1999, the Company served its
former Vice President of Marketing with notice of
termination of services pursuant to his employment
agreement. The agreement requires payment of three
months salary totaling $31,250 and participation
in its employee benefit program as severance
beginning in April 1999.
Effective March 30, 1999, the Company served its
former Chief Financial Officer with notice of
termination of services pursuant to his employment
agreement. The agreement requires payment of three
months salary totaling $22,500 and participation
in its employee benefit program as severance
beginning in April 1999.
Effective February 28, 1999, the Company served
its former President and Chief Operating Officer
with notice of termination of services pursuant to
his employment agreement. The employment agreement
required ninety days prior notice of termination
of services. The agreement requires payment of
three months salary totaling $30,000 and
participation in its employee benefits program as
severance beginning March 1, 1999.
F-27
<PAGE> 37
eSOFT, INC. AND
SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
Effective May 25, 1999, the Company served its
former Vice President of Business Development with
notice of termination of services pursuant to his
employment agreement. The agreement requires
payment of six months salary totaling $55,000 and
participation in its employee benefit program as
severance beginning in May 1999.
9. STOCKHOLDERS' Stock Split
EQUITY
On August 27, 1997, the Board of Directors
authorized a stock split of 63.1579 to 1. All
references to common share and per share amounts
in the accompanying financial statements have been
retroactively restated to reflect the effect of
the stock split.
In 1998, Technologic's Board of Directors
authorized a 50-for-1 stock split effected in the
form of a 49 share dividend payable January 14,
1998 to shareholders of record on December 31,
1997. All share and per share amounts in the
accompanying financial statements have been
restated to give effect to the stock split.
Private Placements
On September 12, 1997, the Company sold 820,000
shares of common stock for $410,000 in a private
placement. Warrants to purchase 414,600 shares of
common stock were issued to consultants and
investors at an exercise price of $1.00 per share.
The warrants were modified in January 1998
changing the term to one year and fifteen days
after the Company's shares are listed for trading.
If the shares are not exercised within a year, the
exercise price increases to $1.15 for fifteen
days. The net proceeds to the Company after stock
issuance costs was $329,159.
In December 1997, the Company sold 350,000 shares
of common stock for $350,000 in a private
placement. The Company granted the promoter of the
private placement warrants to purchase an
additional 87,500 shares of common stock at $1 per
share. The warrants expire December 22, 1999.
F-28
<PAGE> 38
eSOFT, INC. AND
SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
In 1997, the Company completed two private
placements totaling $653,950. In connection with
these private placements, the Company issued
190,228 and 216,787 shares at a price of $.89 and
$2.23 per share.
In January 1998, the Company granted 90,000 shares
of common stock to certain employees for past
services rendered to the Company. The Company
recognized $90,000 of compensation expense based
on the fair value of its common stock at that
date.
During the first quarter of 1998, the Company
completed a $290,000 private placement of 290,000
shares of the Company's common stock, at a price
of $1.00 per share to officers, directors, and key
employees. The Company received $186,983 from the
offering net of offering costs.
During the first quarter of 1998, the Company
accepted stock subscriptions of $150,000 from
consultants and an officer of the Company at a
price of $1.00 per share. In March and April 1998,
$150,000 of the stock subscription was collected.
The Vancouver Stock Exchange required stockholder
approval of the private placement to the officer,
which was received in December 1998, at which time
the shares were issued to the officer.
In June 1998, the Company completed the private
placement of 1,468,941 shares of its common stock
at a price of $4.25 per share for a total offering
of $6,243,000. The net cash proceeds to the
Company from the private placement were $5,479,568
after payment of expenses of the offering of
$255,607 and payment of $507,825 commissions to
the agent, sub-agents, and finders, who in
addition were issued warrants to purchase 159,318
shares of the Company's common stock at a price of
$4.25 per share in the first year and $4.90 per
share in the second year
In 1998, the Company completed the private
placement of 51,616 shares of its common stock at
a price of $2.23 per share. The net cash proceeds
to the Company were $115,250.
F-29
<PAGE> 39
eSOFT, INC. AND
SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
Initial Public Offering
In March 1998, the Company completed its initial
public offering in Canada of 1,550,000 shares of
the Company's common stock at an offering price of
$1.00 per share. Additionally, the agent was
issued 110,000 shares of the Company's common
stock in the Canadian Offering along with warrants
to purchase 250,000 shares of the Company's common
stock at a price of $1.00 for the first 12 months
and at a price of $1.15 for the next 12 months.
The net cash proceeds to the Company from the IPO
were approximately $1,009,000 after payment of
expenses of approximately $541,000. In April 1998,
the agent exercised its warrants at a price of
$1.00 per share and the Company issued 250,000
shares of its common stock.
Conversion of Debt
Prior to January 1, 1996 the Company had entered
into an unsecured note agreement with the initial
stockholder in the amount of $125,000 with
interest at 9% per annum, maturing December 31,
1997. The Company also had borrowed an additional
$111,598 from the stockholder under various
unsecured demand note agreements with interest at
7% per annum.
On June 21, 1996, the stockholder converted
$130,555 of the above notes into 341,454 shares of
common stock. The remaining amounts outstanding
and additional advances from the stockholder
during 1996 were combined into a $239,903
unsecured demand note payable. The note bears
interest at 7% per annum and requires monthly
interest payments of $1,399. In October 1997, the
note was amended which provides the Company the
option to convert the note into equity at the
price of the Company's contemplated initial public
offering. The note is payable in full on January
2, 1999.
F-30
<PAGE> 40
eSOFT, INC. AND
SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
During 1997, the Company entered into an agreement
with a business consulting firm to provide
services through May 31, 1998 in exchange for
convertible notes payable totaling $116,000. The
convertible notes payable bear interest at a rate
of 12% per annum and are payable on January 2,
1999. The notes are convertible into common stock,
at the Company's option, at the price of the
Company's contemplated initial public offering.
In the first quarter of 1998, the holders of the
above convertible notes totaling $355,903
converted the notes into 355,903 shares of common
stock at a price of $1.00 per share.
10. STOCK OPTION In September 1998, the Board of Directors, and on
PLAN AND December 4, 1998, the stockholders, of the Company
WARRANTS approved an amended Equity Compensation Plan,
originally adopted in August 1997 (the "Plan"),
which provides for incentive stock options and
non-statutory options to be granted to officers,
employees, directors and consultants to the
Company. Options to purchase up to 1,700,000
shares of the Company's Common Stock may be
granted under the Plan. Terms of exercise and
expiration of options granted under the Plan may
be established at the discretion of an
administrative committee appointed to administer
the Plan or by the Board of Directors if no
committee is appointed, but no option may be
exercisable for more than five years. As of
December 31, 1998, options to purchase 2,752,032
shares of the Company's common stock had been
granted under the Plan.
Of the options granted in 1998, 60,000 were issued
at a price below fair market value at date of
grant and, accordingly, the Company recognized
compensation expense of $69,600 based on the
difference between the exercise price and the fair
market value at the grant date.
Of the options granted by Apexx in 1998, 136,461
were issued at a price below fair market value at
date of grant and, accordingly, the Company
recognized compensation expense of $36,813 in 1998
based on the difference between the exercise price
and the fair market value at the grant date.
F-31
<PAGE> 41
eSOFT, INC. AND
SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
The disclosures below include options issued by
Apexx and Technologic as if such options were
issued for the purchase of eSoft's common stock,
and are based on the exchange ratio of eSoft's
common stock for Apexx's and Technologic's stock
options pursuant to the related merger agreements.
The Company applies APB 25 in accounting for stock
options and stock purchase warrants granted to
employees. Had compensation expense been
determined based upon the fair value of the awards
at the grant date and consistent with the method
under SFAS 123, the Company's net loss and basic
and diluted loss per share would have been
increased to the pro forma amounts indicated in
the following table.
<TABLE>
<CAPTION>
Years Ended December 31, 1998 1997
----------------- -----------------
<S> <C> <C>
Net loss as reported $ (4,240,198) $ (67,245)
Net loss pro forma (4,320,550) (110,630)
Loss per share basic and diluted,
as reported (.50) (.02)
Loss per share basic and diluted,
pro forma (.51) (.03)
</TABLE>
<TABLE>
<CAPTION>
Years Ended December 31, 1998 1997
----------------- -----------------
<S> <C> <C>
Dividend yield 0% 0%
Expected volatility 6 TO 56.75% 0 to 56.75%
Risk free interest rates 4.12 TO 6.20% 5.99 to 6.00%
Expected lives in years 1.17 TO 5 YEARS 25 to 3.50 years
================= =================
</TABLE>
F-32
<PAGE> 42
eSOFT, INC. AND
SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
A summary of the status of the Company's stock
option plan as of December 31, 1998 and 1997 is
presented below:
<TABLE>
<CAPTION>
Options Warrants
---------------------------- ----------------------------
Weighted Weighted
Average Average
Exercise Exercise
Shares Price Shares Price
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Outstanding,
January 1, 1997 1,055,759 $ .35 -- $ --
Granted 415,733 .82 502,100 1.00
Canceled (2,172) (.50) -- --
------------ ------------ ------------ ------------
Outstanding,
December 31, 1997 1,469,320 .46 502,100 1.00
Granted 1,533,742 2.59 554,318 3.20
Canceled (103,658) (1.40) -- --
Exercised (147,372) (.73) (295,000) (1.00)
------------ ------------ ------------ ------------
Outstanding
December 31, 1998 2,752,032 $ 1.60 761,418 $ 2.61
============ ============ ============ ============
Exercisable
December 31, 1997 1,058,302 $ .32 87,500 $ 1.00
============ ============ ============ ============
Exercisable
December 31, 1998 1,361,876 $ .55 761,418 $ 2.61
============ ============ ============ ============
</TABLE>
<TABLE>
<CAPTION>
Options Warrants
-------- --------
<S> <C> <C>
Weighted average fair value of options
and warrants granted during 1997 $ .77 $ 1.00
Weighted average fair value of options
and warrants granted during 1998 $ .76 $ 1.20
======== ========
</TABLE>
F-33
<PAGE> 43
eSOFT, INC. AND
SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
The following table summarizes information about exercisable stock options and
warrants at December 31, 1998.
<TABLE>
<CAPTION>
Outstanding Exercisable
------------------------------------- ----------------------
Weighted
Average Weighted Weighted
Range of Remaining Average Average
Exercisable Number Contractual Exercise Number Exercise
Prices Outstanding Life Price Exercisable Price
- ------------------ ----------- ----------- -------- ----------- --------
<S> <C> <C> <C> <C> <C>
December 31, 1998
OPTIONS:
$ .10 - .50 1,111,812 5.11 $ .28 971,092 $ .27
1.00 - 1.10 773,933 4.25 1.00 353,727 1.00
2.50 159,787 4.36 2.50 20,557 2.50
3.06 - 4.00 581,500 3.55 3.74 1,500 4.00
5.34 - 6.85 125,000 3.61 5.95 15,000 5.34
- ------------------ ---------- ---------- ---------- ---------- ----------
$ .10 - 6.85 2,752,032 4.43 $ 1.60 1,361,876 $ .55
================== ========== ========== ========== ========== ==========
WARRANTS:
$ 1.00 - 1.10 477,100 .44 $ 1.02 477,100 $ 1.02
4.25 - 4.68 169,318 1.66 4.28 169,318 4.28
5.34 - 6.98 115,000 4.39 6.77 115,000 6.77
- ------------------ ---------- ---------- ---------- ---------- ----------
$ 1.00 - 6.98 761,418 $ 1.30 $ 2.61 761,418 $ 2.61
================== ========== ========== ========== ========== ==========
</TABLE>
The weighted average grant date fair value of stock options granted is
summarized as follows:
<TABLE>
<CAPTION>
Years Ended December 31, 1998 1997
----------- -----------
<S> <C> <C>
Market value equal to exercise price $ .73 $ 1.00
Market value greater than exercise price .55 .88
Market value less than exercise price 1.15 --
=========== ===========
</TABLE>
F-34
<PAGE> 44
eSOFT, INC. AND
SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
The weighted average grant date fair value of
warrants granted is summarized as follows:
<TABLE>
<CAPTION>
Years Ended December 31, 1998 1997
---------- ----------
<S> <C> <C>
Market value equal to exercise price $ .11 $ 1.00
Market value greater than exercise price -- --
Market value less than exercise price 2.24 --
========== ==========
</TABLE>
During 1998, the Company granted warrants to
purchase 145,000 shares of common stock ranging
from $1.00 to $6.98 per share to consultants. The
warrants vest immediately and expire at various
dates through November 2003. Certain of the
consulting agreements are for twelve-month periods
and, therefore, the Company recorded an asset of
$214,649 that is being amortized over twelve
months. In 1998, the Company recognized
approximately $108,000 of expense in conjunction
with the above warrants.
11. RETIREMENT The Company has a Simple SEP pension plan which
PLANS includes all employees who have attained the age
of 21 and have been employed by the Company for
one year. To be eligible to participate in the
plan, the employee must be reasonably expected to
receive compensation in the plan year of at least
$5,000. The Company matches employee contributions
dollar for dollar up to 3% of the employee's gross
wages. For the years ended December 31, 1998 and
1997, the Company contributed $16,668 and $9,733,
respectively, on behalf of employees to the
retirement plan.
F-35
<PAGE> 45
eSOFT, INC. AND
SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
Effective January 1, 1995, Technologic established
a 401(k) plan whereby employees, upon attaining 21
years of age, are eligible to contribute up to the
maximum percentage of their salary allowable under
applicable IRS Code Sections. The Company makes
mandatory matching contributions, which are at a
rate of 25% up to 6% of employee contributions.
The Company made mandatory matching contributions
for the years ended December 31, 1998 and 1997 in
the amounts of $11,426 and $4,464.
12. RELATED PARTY A director of the Company is also the President,
TRANSACTIONS Chief Executive Officer and a director of CANnect
Communications, Inc., which is a distributor of
the Company's products in Canada. CANnect
purchased $47,000 of the Company's products in
1998. There were no such purchases in 1997.
13. BUSINESS In 1998, the Company adopted SFAS No. 131,
SEGMENTS "Disclosures About Segments of an Enterprise and
Related Information." Disclosures required by SFAS
No. 131 are as follows:
The Company is engaged in one business segment -
Internet Connectivity Solutions.
The following table presents information by
geographic area:
<TABLE>
<CAPTION>
Long-Lived
Year Ended December 31, 1998 Revenues(1) Assets
------------ ------------
<S> <C> <C>
United States $ 8,128,000 $ 1,460,000
Foreign countries 1,482,000 --
------------ ------------
$ 9,610,000 $ 1,460,000
============ ============
</TABLE>
F-36
<PAGE> 46
eSOFT, INC. AND
SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
<TABLE>
<CAPTION>
Long-Lived
Year Ended December 31, 1997 Revenues(1) Assets
------------ ------------
<S> <C> <C>
United States $ 4,313,000 $ 981,397
Foreign countries 149,000 --
------------ ------------
$ 4,462,000 $ 981,397
============ ============
</TABLE>
(1) Revenues are attributed to countries based
on location of customer.
During 1998, sales to two domestic customers
represented $2,162,000 of the Company's total
sales. At December 31, 1998, accounts receivable
from these customers was $1,770,000. For the
year-end December 31, 1997, there were no such
concentrations in sales or accounts receivable.
For the year ended December 31, 1998 revenues from
significant customers consisted of the following:
------------------------------------------------
Customer:
A 18%
================================================
14. SUBSEQUENT
EVENTS In June 1999, the Company completed the private
placement of $3,000,000 convertible subordinated
debentures. In September 1999, the Company
completed the private placement of $2,000,000
convertible subordinated debentures.
F-37
<PAGE> 47
eSOFT, INC. AND
SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
The debenture financing consists of a $5 million
of 5% convertible subordinated debentures due in
June 2002. Interest is payable in cash or, at the
Company's option, in shares of common stock. The
debentures are convertible at any time at the
investor's option into a fixed number of shares of
eSoft common stock at $3.9125 per share, subject
to certain anti-dilution provisions and
adjustments. The investor has converted $2,277,075
of the debentures. The investor also received
warrants to purchase 1,277,955 shares of common
stock with an exercise price of $4.4994 per common
share. The warrants have a three-year term. The
Company has the ability, under certain
circumstances, to obligate the investor to convert
the debentures into common stock and to exercise
the warrants.
As part of the debenture financing, the investor
has the option to purchase an additional $3
million of debentures with warrants in a
subsequent tranche. The $3 million of debentures
would be convertible at the lower of (i) the
Company's then current market price or (ii) $5.50,
but in no event less than $3.9125 per share. The
debentures would be accompanied by warrants with
an exercise price of 115% of the debenture
conversion price.
F-38
<PAGE> 48
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF EXHIBITS
<S> <C>
2.1 Amended and Restated Agreement and Plan Merger dated January 25,
1999 between eSoft, Inc., eSoft Acquisition Corporation and Apexx
Technology, Inc. (filed with Registration Statement on Form S-4/A on
April 20, 1999 and incorporated herein by reference).
2.2 Form of Stockholders Agreement executed by Apexx Technology, Inc.
stockholders in connection with the merger (filed with Registration
Statement on Form S-4 on April 20, 1999 and incorporated herein by
reference).
2.3 Form of Escrow Agreement executed by eSoft, Inc. Thomas
Loutzenheiser and The Trust Company of The Bank of Montreal (filed
with Registration Statement on Form S-4/A on April 20, 1999 and
incorporated herein by reference).
2.5 Employment Agreement by and between eSoft, Inc. and Thomas
Loutzenheiser (filed with Registration Statement on Form S-4/A on
April 20, 1999 and incorporated herein by reference).
9.1 Voting Agreement by and between eSoft, Inc and Tom Loutzenheiser,
Gayl Loutzenheiser and David Dahms (filed with Registration
Statement on Form S-4/A on April 20, 1999 and incorporated herein by
reference).
9.2 Voting Agreement by and between eSoft, Inc and Albert Youngwerth,
Heather Youngwerth, Lawrence Lynch, George Minow, Chris Minow,
William Rivers, Ray Jenks (filed with Registration Statement on Form
S-4/A on April 20, 1999 and incorporated herein by reference).
23.1* Consent of Balukoff, Lindstrom & Co., P.A.
27.1 Restated Financial Data Schedule
27.2 Restated Financial Data Schedule
27.3 Restated Financial Data Schedule
27.4 Restated Financial Data Schedule
</TABLE>
- ------------
* Filed herewith
<PAGE> 49
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned hereunto duly authorized.
eSoft, Inc.
Date: November 24, 1999 By: /s/ Jeffrey Finn
--------------------------------------
Name: Jeffrey Finn
Title: President and Chief Executive
Officer
<PAGE> 50
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF EXHIBITS
<S> <C>
2.1 Amended and Restated Agreement and Plan Merger dated January 25,
1999 between eSoft, Inc., eSoft Acquisition Corporation and Apexx
Technology, Inc. (filed with Registration Statement on Form S-4/A on
April 20, 1999 and incorporated herein by reference).
2.2 Form of Stockholders Agreement executed by Apexx Technology, Inc.
stockholders in connection with the merger (filed with Registration
Statement on Form S-4/A on April 20, 1999 and incorporated herein by
reference).
2.3 Form of Escrow Agreement executed by eSoft, Inc. Thomas
Loutzenheiser and The Trust Company of The Bank of Montreal (filed
with Registration Statement on Form S-4/A on April 20, 1999 and
incorporated herein by reference).
2.5 Employment Agreement by and between eSoft, Inc. and Thomas
Loutzenheiser (filed with Registration Statement on Form S-4/A on
April 20, 1999 and incorporated herein by reference).
9.1 Voting Agreement by and between eSoft, Inc and Tom Loutzenheiser,
Gayl Loutzenheiser and David Dahms (filed with Registration
Statement on Form S-4/A on April 20, 1999 and incorporated herein by
reference).
9.2 Voting Agreement by and between eSoft, Inc and Albert Youngwerth,
Heather Youngwerth, Lawrence Lynch, George Minow, Chris Minow,
William Rivers, Ray Jenks (filed with Registration Statement on Form
S-4/A on April 20, 1999 and incorporated herein by reference).
23.1* Consent of Balukoff, Lindstrom & Co., P.A.
27.1 Restated Financial Data Schedule
27.2 Restated Financial Data Schedule
27.3 Restated Financial Data Schedule
27.4 Restated Financial Data Schedule
</TABLE>
- -----------
* Filed herewith
<PAGE> 1
Exhibit 23.1
CONSENT OF INDEPENDENT
CERTIFIED PUBLIC ACCOUNTANTS
Apexx Technology, Inc.
Boise, Idaho
We hereby consent to the incorporation by reference in the previously filed
Registration Statements on Form S-3 (Registration # 333-82619 and # 333-82247)
and Form S-8 (Registration # 333-80151, #333-91163 and #333-91161) of eSoft,
Inc. of our report dated February 4, 1999, relating to the balance sheet of
Apexx Technology, Inc. as of December 31, 1998 and the statements of operations,
stockholders' deficit and cash flows for each of the two years in the period
ended December 31, 1998 appearing in eSoft's 8-K dated August 9, 1999. Our
report contains an explanatory paragraph regarding Apexx Technology, Inc.'s
ability to continue as a going concern.
/s/ Balukoff, Lindstrom & Co., P.A.
Boise, Idaho
November 22, 1999
