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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
X Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the quarterly period ended September 30, 2000
or
Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
COMMISSION FILE NUMBER 29947
INTEGRATED INFORMATION SYSTEMS, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 86-0624332
(State of Incorporation) (IRS Employer I.D. No.)
1560 W. FOUNTAINHEAD PARKWAY
TEMPE, ARIZONA 85282
(Address of principle executive offices)
(480) 317-8000
(Registrant's telephone number)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
YES X NO
----- -----
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, not including shares held in treasury:
AS OF NOVEMBER 6, 2000, THERE WERE 20,568,208 SHARES OF COMMON
STOCK, $0.001 PAR VALUE, OUTSTANDING
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INTEGRATED INFORMATION SYSTEMS, INC. AND SUBSIDIARY
INDEX
<TABLE>
<CAPTION>
PART I. FINANCIAL INFORMATION PAGE
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<S> <C>
ITEM 1 FINANCIAL STATEMENTS
Condensed Consolidated Balance Sheets as of September 30, 2000 and
December 31, 1999 3
Condensed Consolidated Statements of Operations for Three and Nine
Months Ended September 30, 2000 and 1999 4
Condensed Consolidated Statements of Cash Flows for Nine
Months Ended September 30, 2000 and 1999 5
Notes to Condensed Consolidated Financial Statements 6
ITEM 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS 7
ITEM 3 QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 10
PART II. OTHER INFORMATION
ITEM 2 CHANGES IN SECURITIES AND USE OF PROCEEDS 17
ITEM 6 EXHIBITS AND REPORTS ON FORM 8-K 18
SIGNATURES
</TABLE>
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PART I. FINANCIAL INFORMATION
ITEM 1.
INTEGRATED INFORMATION SYSTEMS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
2000 1999
---- ----
ASSETS (UNAUDITED)
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 53,287 $ 863
Accounts receivable, net of allowance of $3,933 and 13,688 3,982
$713, respectively
Income tax receivable -- 539
Unbilled revenues on contracts 797 685
Prepaid expenses and other current assets 1,549 708
--------- -------
Total current assets 69,321 6,777
Property and equipment, net 24,850 4,323
Other assets 4,718 1,018
--------- -------
$ 98,889 $12,118
========= =======
LIABILITIES, CONVERTIBLE PREFERRED
STOCK AND STOCKHOLDERS' EQUITY (DEFICIENCY)
Current liabilities:
Accounts payable and accrued expenses $ 6,523 $ 3,703
Lines of credit -- 1,015
Current installments of long-term debt -- 222
Current installments of capital lease obligations 4,013 779
Deferred revenues on contracts 304 396
--------- -------
Total current liabilities 10,840 6,115
Long-term debt, less current installments -- 663
Capital lease obligations, less current installments 5,736 1,162
--------- -------
Total liabilities 16,576 7,940
Series A Convertible Preferred Stock, $.001 par value,
1,666,666 shares authorized, 1,666,666 shares issued
and outstanding at December 31, 1999 -- 2,882
Series B Convertible Preferred Stock, $.001 par value,
751,879 shares authorized, 751,879 shares issued
and outstanding at December 31, 1999 -- 2,000
Stockholders' equity (deficiency):
Common stock, $.001 par value, authorized 100,000,000
shares, issued and outstanding 20,547,108 and 10,913,025
shares at September 30, 2000 and December 31, 1999,
respectively 21 11
Additional paid-in capital 93,506 1,298
Accumulated deficit (11,184) (2,013)
Accumulated other comprehensive loss:
Foreign currency translation (30) --
--------- -------
Total stockholders' equity (deficiency) 82,313 (704)
--------- -------
$ 98,889 $12,118
========= =======
</TABLE>
See accompanying notes to condensed consolidated financial statements.
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INTEGRATED INFORMATION SYSTEMS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
2000 1999 2000 1999
---- ---- ---- ----
<S> <C> <C> <C> <C>
Revenues
Consulting.................................................. $16,519 $ 6,395 $41,718 $14,698
Application management...................................... 817 -- 1,453 --
------- ------- ------- -------
Gross revenues............................................ 17,336 6,395 43,171 14,698
------- ------- ------- -------
Cost of revenues
Consulting.................................................. 8,462 3,349 21,232 7,247
Application management...................................... 1,900 -- 3,427 --
------- ------- ------- -------
Total cost of revenues.................................... 10,362 3,349 24,659 7,247
------- ------- ------- -------
Gross profit.............................................. 6,974 3,046 18,512 7,451
Operating expenses:
Selling and marketing....................................... 1,828 586 6,783 1,417
General and administrative.................................. 9,571 2,345 22,615 4,667
------- ------- ------- -------
Total operating expenses.................................. 11,399 2,931 29,398 6,084
------- ------- ------- -------
Income (loss) from operations................................. (4,425) 115 (10,886) 1,367
Interest expense (income), net................................ (738) 64 (1,715) 172
------- ------- ------- -------
Earnings (loss) before income taxes........................... (3,687) 51 (9,171) 1,195
Provision for income taxes.................................... -- 18 -- 423
------- ------- ------- -------
Net earnings (loss) before preferred dividends.............. (3,687) 33 (9,171) 772
Cumulative dividends on preferred stock....................... -- 77 -- 141
------- ------- ------- -------
Net earnings (loss) attributable to common stockholders....... $(3,687) $ (44) $(9,171) $ 631
======= ======== ======= =======
Earnings (loss) per common share:
Basic:
Earnings (loss) per common share.......................... $ (.18) $ .00 $ (.49) $ .06
======= ======= ======= =======
Weighted average number of common shares outstanding...... 20,474 10,911 18,881 10,801
======= ======= ======= =======
Diluted:
Earnings (loss) per common share.......................... $ (.18) $ .00 $ (.49) $ .06
======= ======= ======= =======
Weighted average number of common and common equivalent
shares outstanding...................................... 20,474 13,460 18,881 12,346
======= ======= ======= =======
</TABLE>
See accompanying notes to condensed consolidated financial statements.
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INTEGRATED INFORMATION SYSTEMS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30
2000 1999
---- ----
(UNAUDITED)
<S> <C> <C>
Cash flows from operating activities:
Net earnings (loss) ..................................... $ (9,171) $ 772
Adjustments to reconcile net earnings (loss) to
net cash used in operating activities:
Depreciation and amortization ........................ 4,549 456
Provision for doubtful accounts ...................... 3,220 279
Deferred tax liability ............................... -- 68
Increase (decrease) in cash resulting from changes in:
Accounts receivable ................................ (12,926) (3,202)
Income tax receivable .............................. 539 (184)
Unbilled revenues on contracts ..................... (112) (319)
Prepaid expenses and other current assets .......... (841) (368)
Other assets ....................................... (3,700) (55)
Accounts payable and accrued expenses .............. 2,820 614
Deferred revenues on contracts ..................... (92) 249
-------- --------
Net cash used in operating activities ........... (15,714) (1,690)
-------- --------
Cash flows from investing activities:
Purchase of property and equipment ...................... (15,328) (971)
-------- --------
Net cash used in investing activities ........... (15,328) (971)
-------- --------
Cash flows from financing activities:
Net repayments on lines of credit ....................... (1,015) (400)
Long-term debt repayments ............................... (885) (263)
Repayment of capital lease obligations .................. (1,940) (290)
Issuance of Series A Convertible Preferred
Stock, net of expenses ................................ -- 2,882
Issuance of Series C Convertible Preferred
Stock, net of expenses ................................ 19,411 --
Issuance of common stock and exercise of stock options .. 409 737
Proceeds of initial public offering, net of
expenses .............................................. 67,516 --
-------- --------
Net cash provided by financing activities ....... 83,496 2,668
-------- --------
Effect of exchange rate on cash ........................... (30) --
-------- --------
Increase in cash and cash equivalents ..................... 52,424 7
Cash and cash equivalents, at beginning of period ......... 863 392
-------- --------
Cash and cash equivalents, at end of period ............. $ 53,287 $ 399
======== ========
Non-cash Investing and Financing Activities:
Acquisition of property and equipment and
Assumption of capital lease obligations ................. $ 9,748 $ 1,066
======== ========
Supplemental disclosure of cash flow information
Cash paid for interest .................................... $ 675 $ 188
======== ========
</TABLE>
See accompanying notes to condensed consolidated financial statements.
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INTEGRATED INFORMATION SYSTEMS, INC. AND SUBSIDIARY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. Basis of Presentation
The accompanying unaudited condensed consolidated financial statements have
been prepared by Integrated Information Systems, Inc. (the "Company") pursuant
to the rules and regulations of the Securities and Exchange Commission regarding
interim financial reporting. Accordingly, they do not include all of the
information and footnotes required by generally accepted accounting principles
for complete financial statements and should be read in conjunction with the
consolidated financial statements and notes thereto for the year ended December
31, 1999 included in the Company's Form S-1 filed with the Securities and
Exchange Commission (Registration No. 333-94861). The accompanying condensed
consolidated financial statements reflect all adjustments (consisting solely of
normal, recurring adjustments) which are, in the opinion of management,
necessary for a fair presentation of results for the interim periods presented.
The results of operations for the three and nine month periods ended September
30, 2000 are not necessarily indicative of the results to be expected for any
future period or the full fiscal year.
2. 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
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
3. Revenue Recognition
Revenues for time-and-material contracts are recognized as the services are
rendered. Revenues pursuant to fixed fee contracts are generally recognized as
services are rendered on the percentage-of-completion method of accounting
(based on the ratio of labor hours incurred to total estimated labor hours).
Revenues from maintenance or post-contract support agreements are recognized as
earned over the terms of the agreements. Revenues from recurring services such
as application management and hosting operations are recognized as services are
provided each month. A one-time set up fee is typically charged for these
services, which is recognized when set-up is complete. Provisions for estimated
losses on uncompleted contracts are made on a contract-by-contract basis and are
recognized in the period in which such losses are determined. Unbilled revenues
on contracts are comprised of earnings on certain contracts in excess of
contractual billings on such contracts. Billings in excess of earnings are
classified as deferred revenues on contracts.
4. Series C Preferred Stock Financing
In January 2000, the Company received approximately $19.4 million, net of
issuance costs of $789,000, from the sale of 2,119,625 shares of Series C
Convertible Preferred Stock, which were converted into a like number of common
shares upon completion of our initial public offering. The conversion price of
the Series C Preferred Stock was $9.53 per share, the same as the purchase price
per share for the shares of Series C Preferred Stock.
5. Initial Public Offering and Conversion of Preferred Stock
On March 17, 2000, the Company issued 4,600,000 shares of its common stock,
$.001 par value per share, for proceeds of $69 million less underwriting
discounts and other expenses of $6.3 million. The Company intends to use the
proceeds for working capital and other general corporate purposes. At the time
of the initial public offering, the Series A, B, and C Preferred Stock issued by
the Company converted to Common Stock. On April 19, 2000, the underwriters'
exercised their over-allotment option and sold an additional 690,000 shares at
the same public offering price in the IPO. Of these additional 690,000 shares,
345,000 were sold ($4.8 million in net proceeds) by IIS and 345,000 were sold by
James G. Garvey, Jr., the founder, Chairman, CEO and President of IIS.
6. Other Events
On March 28, 2000, the Company entered into a sublease for a portion of
goracing.com Inc.'s 65,018 square foot facility in
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Tempe, Arizona, and assumed leases of equipment for an application hosting
center previously operated as an in-house facility by goracing.com, Inc. and its
parent company, Action Performance Companies, Inc., (collectively "goracing").
The Company also entered into agreements for the purchase of approximately $2
million of computer equipment and the assumption of $6.1 million in leased
equipment from goracing. Payments for the facilities and capital equipment total
approximately $18 million over 10 years.
7. Net Earning (Loss) Per Share
The following table sets forth the computation shares used in computing
basic and diluted net earnings (loss) per share (in thousands, except per share
amounts):
<TABLE>
<CAPTION>
THREE MONTHS ENDED SEPTEMBER 30, NINE MONTHS ENDED SEPTEMBER 30,
2000 1999 2000 1999
---- ---- ---- ----
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C>
Net earnings (loss)....................... $(3,687) $ 33 $(9,171) $ 772
Preferred stock dividends................. -- (77) -- (141)
------- ------- ------- -------
Net earnings (loss) attributable to common
Stockholders.............................. (3,687) (44) (9,171) 631
Effective of dilutive securities:
Preferred stock dividend............... -- 77 -- 141
------- ------- ------- -------
Net earnings (loss) attributable to common
stockholders after assumed conversion..... $(3,687) $ 33 $(9,171) $ 772
======= ======= ======= =======
Weighted average outstanding common shares 20,474 10,911 18,881 10,801
Effect of dilutive securities:
Stock options and warrants............. 1,461 882 1,713 507
Convertible preferred stock............ -- 1,667 -- 1,038
Antidilutive effect of securities...... (1,461) -- (1,713) --
------- ------- ------- -------
Weighted average and common equivalent
shares Outstanding........................ 20,474 13,460 18,881 12,346
======= ======= ======= =======
Earnings (loss) per share:
Basic.................................. $ (.18) $ .00 $ (.49) $ .06
======= ======= ======= =======
Diluted................................ $ (.18) $ .00 $ (.49) $ .06
======= ======= ======= =======
</TABLE>
8. Subsequent Event
In November 2000, one of our clients notified us that it intends to
discontinue a project with us and to challenge a portion of its balance of
approximately $3.2 million currently owed to us. This client accounted for
approximately eight percent of our revenue for the three and nine months ended
September 30, 2000. Our expected revenues and results of operations
could be negatively impacted in the fourth quarter and beyond by the loss of
this project. We intend to either resolve the matter with our client or
vigorously pursue collection of the amounts owed to us by this client.
ITEM 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
We began operations in 1989 to assist clients in adopting new technologies.
Initially focused on the microcomputer industry, we shifted our focus to
client/server technologies in 1993, and then to Internet-related technologies
beginning in 1997.
Our revenues have increased rapidly in recent periods. To meet increasing
requirements resulting from our revenue growth, and in anticipation of further
growth, we have significantly expanded our infrastructure. We have hired senior
executives, established new regional offices and expanded our physical
facilities. We have also invested in a data center which supports our new
application management and hosting service line. We are currently marketing
this new service.
We derive our consulting revenues primarily from the delivery of
professional services. We offer our services to clients under time and materials
contracts or under fixed-price contracts. For time and material projects, we
recognize revenues based on the number of hours worked by consultants at a rate
per hour agreed upon with our clients. We recognize revenues from fixed-price
contracts on a percentage-of-completion method based on project hours worked.
The percentage of our revenues from fixed fee contracts was 11%
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in 1999, and 5% for the three and nine month periods ended September 30, 2000,
respectively. We provide our application management and hosting services at a
minimum monthly fee and charge extra fees for services that exceed agreed upon
parameters. Revenues from these services are recognized as services are
provided. In addition, we charge our application management and hosting clients
a one-time set-up fee, which we recognize when set-up is complete.
Our consulting cost of revenues consists primarily of employee compensation
and benefits for project personnel. Application management cost of revenues
consists primarily of compensation and benefits of application management
personnel and depreciation of hosting facility property and equipment. Sales and
marketing expenses consist primarily of compensation and benefits, and the costs
of marketing programs. General and administrative expenses consist primarily of
compensation and benefits for our executive management and our finance,
administration, information technology, recruiting, and human resources
personnel. General and administrative expenses also include research and
development expense, depreciation, and operating expenses such as rent,
insurance, telephones, office supplies, travel, outside professional services,
training, and facilities costs. We expect all of our costs to increase as we add
additional personnel, expand our sales and marketing efforts, open or expand new
offices, increase our recruiting efforts, enhance our information systems, and
incur additional costs related to the growth of our business and operations.
We have historically derived and believe that we will continue to derive a
significant portion of our revenues from a limited number of clients who may
change from year to year. Any cancellation, deferral, or significant reduction
in work performed for our principal clients could harm our business and cause
our operating results to fluctuate significantly from period to period. In
addition, we plan to continue to expand our operations by hiring additional
consultants and other employees and by adding new offices, systems and other
infrastructure. As a result of our continued infrastructure buildup and increase
in operating expenses, we anticipate incurring net losses in the fourth quarter
of 2000 and in 2001. Further, our quarterly revenue, cost of revenues, and
operating results have varied in the past due to fluctuations in the utilization
of project personnel and are likely to vary significantly in the future.
Therefore, we believe that period-to-period comparisons of our operating results
may not necessarily be meaningful and should not be relied upon as indications
of future performance.
RESULTS OF OPERATIONS
REVENUES. Revenues in the third quarter of 2000 increased 171% to $17.3 million,
from $6.4 million in the third quarter of 1999. For the first nine months of
2000, revenues increased 194% to $43.2 million, from $14.7 million in the first
nine months of 1999. For the third quarter of 2000, compared to the third
quarter of 1999, a 22% increase in average hourly rates accounted for
approximately $3.0 million of the increase, new client engagements contributed
approximately $6.1 million of the increase and additional revenues from our
largest client accounted for approximately $1.0 million of the increase.
Application management and hosting services revenues accounted for approximately
$800,000 of the increase. For the first nine months of 2000, compared to the
first nine months of 1999, a 21% increase in average hourly rates accounted for
approximately $7.0 million of the increase, new client engagements contributed
approximately $15.0 million of the increase and additional revenues from our
largest client accounted for approximately $5.0 million of the increase.
Application management and hosting services revenues accounted for approximately
$1.5 million of the increase.
COST OF REVENUES. Cost of revenues in the third quarter of 2000 increased 209%
to $10.4 million, from $3.3 million in the third quarter of 1999. For the first
nine months of 2000, cost of revenues increased 240% to $24.7 million, from $7.2
million for the same period of 1999. The increase was due primarily to an
increase in project personnel from 153 at September 30, 1999, to 414 at
September 30, 2000. The increase was also due to the application management cost
of revenues, including the cost of personnel and depreciation, which was a new
service for IIS in 2000. As a percentage of revenues, cost of revenues in the
third quarter increased from 52% in 1999 to 60% in 2000, and cost of revenues in
the first nine months increased from 49% in 1999 to 57% in 2000. This increase
as a percentage of revenues was due primarily to the addition of application
management cost of revenues in 2000.
SELLING AND MARKETING EXPENSES. Selling and marketing expenses in the third
quarter of 2000 increased 212% to $1.8 million, from $586,000 in the third
quarter of 1999. For the first nine months of 2000, selling and marketing
expenses increased 379% to $6.7 million, from $1.4 million in the same period of
1999. For the third quarter of 2000, compared to the third quarter of 1999,
approximately $800,000 of the increase was due to additional sales and marketing
personnel and approximately $414,000 of the increase was due to additional
advertising and promotional expenses. For the first nine months of 2000,
compared to the first nine months of 1999, approximately $3.4 million of the
increase was due to additional sales and marketing personnel and approximately
$1.9 million of the increase was due to additional advertising and promotional
expenses. As a percentage of revenues, selling and marketing expenses in the
third quarter increased from 9% in 1999 to 11% in 2000; and in the first nine
months increased from 10%
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in 1999 to 16% in 2000.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses in the
third quarter of 2000 increased 308% to $9.6 million, from $2.3 million in the
third quarter of 1999. For the first nine months of 2000, general and
administrative expenses increased 385% to $22.7 million, from $4.7 million in
the same period of 1999. Of the increase for the third quarter of 2000, compared
to the third quarter of 1999, approximately $900,000 was due to compensation and
benefits paid to additional administrative personnel, approximately $800,000 was
due to additional rent expense, approximately $900,000 was due to additional
depreciation expense, approximately $1.8 million was due to additional bad debt
expense, and the balance related to increases in other expenses such as
recruiting, training, insurance, telephone, travel, legal and accounting. Of the
increase for the first nine months of 2000, compared to the first nine months of
1999, approximately $3.1 million was due to compensation and benefits paid to
additional administrative personnel, approximately $2.0 million was due to
additional rent expense, approximately $2.1 million was due to additional
depreciation expense, approximately $2.8 million was due to additional bad debt
expense, and the balance related to increases in other expenses such as
recruiting, training, insurance, telephone, travel, legal and accounting. As a
percentage of revenues, general and administrative expenses in the third quarter
increased from 37% in 1999 to 55% in 2000; and for the first nine months,
general and administrative expenses increased from 32% in 1999 to 53% in 2000.
INTEREST INCOME, NET. Interest income, net of interest expenses, in the third
quarter of 2000 increased to $738,000 compared to net interest expense of
$64,000 in the third quarter of 1999. For the first nine months of 2000, net
interest income increased to $1.7 million compared to net interest expense of
$172,000 in the same period of 1999. The increase in 2000 was due primarily to
interest income earned on the invested portion of proceeds from both our
preferred stock financing in January 2000 and our initial public offering in
March and April 2000.
LIQUIDITY AND CAPITAL RESOURCES
Since inception, we have funded our operations and investments in property
and equipment through cash generated from operations, capital lease financing
arrangements, bank borrowings, and equity financings.
As of September 30, 2000, cash and cash equivalents totaled $53.3 million
and we had $58.5 million in working capital. In January 2000, we raised $19.4
million, after expenses, through a private placement of Series C preferred stock
to institutional and other accredited investors. In March and April 2000, we
raised $67.5 million (net of underwriting discounts and other offering expenses)
through our initial public offering of 4,945,000 shares of our common stock.
For the nine months ended September 30, 2000 and 1999, net cash used in
operating activities was $15.7 million and $1.7 million, respectively. Cash used
in operating activities in each of these periods was the result of increases in
accounts receivable and unbilled revenues on contracts due to increases in sales
for the period, partially offset by increases in accounts payable and accrued
expenses related to our growth. Cash used in operating activities was also the
result of net losses, adjusted for non-cash items, primarily related to
depreciation and amortization.
For the nine months ended September 30, 2000 and 1999, net cash used in
investing activities was $15.3 million and $971,000, respectively. Cash used in
investing activities in each period consisted primarily of purchases of
furniture and equipment to support growth in our infrastructure. We are
continuing the process of expanding our data center in which we provide
application hosting, in addition to our geographic expansion. We anticipate
total capital expenditures of approximately $20 million in 2000 to accommodate
our planned growth.
Net cash provided by financing activities in the nine months ended September
30, 2000 and 1999 was $83.5 million and $2.7 million, respectively. In the first
nine months of 2000, cash provided by financing activities was from the sale of
our preferred stock in a private placement and our common stock in our initial
public offering. In 1999, cash provided by financing activities was from the
sale of preferred stock and borrowings under our credit facility.
Non-cash investing and financing activities for the nine months ended
September 30, 2000 and 1999 consisted of $9.7 million and $1.1 million,
respectively, related to the acquisition of property and equipment under capital
leases.
As of September 30, 2000, we had a $2.0 million line of credit and a master
lease agreement to finance up to $6.2 million of computer equipment, both with
Imperial Bank. These facilities are secured by substantially all of our assets.
The line of credit bears
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interest at a rate of prime plus 1% (10.5% at September 30, 2000). The master
lease agreement has an implied interest rate of approximately 10.5%. As of
September 30, 2000, there were no borrowings outstanding under the line of
credit and $3.2 million was outstanding under the master lease agreement. The
line of credit and master lease agreement require compliance with certain
financial and other covenants. We were in compliance with all covenants at
September 30, 2000. The line of credit is subject to renewal on September 30,
2001, and the master lease agreement expires on various dates through June 2002.
As of September 30, 2000 the line of credit was supporting letters of credit
totaling $1.0 million.
We believe that the net remaining proceeds from our public offering,
combined with other current cash balances and amounts available under our credit
facilities, will be sufficient to meet our working capital and capital
expenditure requirements for the next 12 months. We may need additional
financing to fund our cash requirements beyond 12 months. In this regard, we
expect to continue to invest aggressively in our business in an effort to grow
revenues. Such additional financing, if needed, may not be available on terms
acceptable to us, if at all.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In December 1999, the Securities and Exchange Commission (SEC) issued Staff
Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements"
subsequently updated by SAB 101A and SAB 101B ("SAB 101"). SAB 101 summarizes
certain of the SEC's view in applying generally accepted accounting principles
to revenue recognition in financial statements. We are required to adopt SAB 101
no later than the fourth quarter of fiscal 2000. We do not expect the
implementation of SAB 101 to have a material effect on our consolidated
financial statements.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
To date, we have not utilized derivative financial instruments or derivative
commodity instruments. We do not expect to employ these or other strategies to
hedge market risk in 2000 or 2001. We invest our cash in money market funds and
investment grade corporate securities, which are subject to minimal credit and
market risk. We believe that the market risks associated with these financial
instruments are immaterial. Our line of credit is at a variable interest rate
and is subject to market risk in the form of interest rate fluctuations.
All of our revenues are realized currently in U.S. dollars and are from
clients primarily in the United States. Therefore, we do not believe that we
currently have any significant direct foreign currency exchange rate risk.
FACTORS THAT MAY AFFECT FUTURE RESULTS AND OUR STOCK PRICE
This Quarterly Report on Form 10-Q includes forward-looking statements within
the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the
Securities Act of 1934. Forward-looking statements give our current expectations
or forecasts of future events. Words such as "expect," "may," "anticipate,"
"intend," "would," "will," "plan," "believe," "estimate," "should," and similar
expressions identify forward-looking statements. Forward-looking statements in
this Form 10-Q include express or implied statements concerning our future
revenues, expenditures, capital or other funding requirements, the adequacy of
our current cash and working capital balances to fund our present and planned
operations and financing needs, expansion of and demand for our service
offerings, and the growth of our business and operations, as well as future
economic and other conditions both generally and in our specific geographic and
product and services markets. These statements are based on our estimates,
projections, beliefs, and assumptions, and are not guarantees of future
performance. From time to time, we also may provide oral or written
forward-looking statements in other materials we release to the public.
We caution that the following important factors, among others, could cause
our actual results to differ materially from those expressed in forward-looking
statements made by or on behalf of us in filings with the Securities and
Exchange Commission, press releases, communications with investors, and oral
statements. Any of these factors, among others, could also negatively impact our
operating results and financial condition and cause the trading price of our
common stock to decline or fluctuate significantly. We undertake no obligation
to publicly update any forward-looking statements, whether as a result of new
information, future events or otherwise. You are advised, however, to consult
any further disclosures we make in our reports filed with the Securities and
Exchange Commission and in future public statements and press releases.
WE HAVE EXPERIENCED RECENT OPERATING LOSSES AND MAY INCUR OPERATING LOSSES
IN FUTURE PERIODS,
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WHICH COULD CAUSE THE PRICE OF OUR COMMON STOCK TO DECLINE.
We had a net loss of approximately $1.4 million for the year ended December
31, 1999, a net loss of approximately $3.7 million for the three months ended
September 30, 2000, and a net loss of approximately $9.2 million for the nine
months ended September 30, 2000. We expect to continue to incur losses in 2000
and 2001. If we do not achieve continued revenue growth, we could experience
operating losses greater than already anticipated or for periods after 2001.
These losses or any fluctuation in our operating results could cause the market
value of our common stock to decline.
WE RELY ON A SMALL NUMBER OF CLIENTS FOR MOST OF OUR REVENUES AND OUR REVENUES
WILL DECLINE SIGNIFICANTLY IF WE CANNOT RETAIN OR REPLACE, OR IF WE EXPERIENCE
COLLECTION PROBLEMS FROM, THESE CLIENTS.
We derive, and expect to continue to derive, a significant portion of our
revenues from a limited number of clients. In 1999, our three largest clients
accounted for approximately 50% of our revenues, and in the first nine months of
2000, our three largest clients accounted for approximately 38% of our revenues.
One of our current clients, American Express, which first engaged us in the
fourth quarter of 1998, accounted for 35% of our revenues during 1999, 22% of
our revenues for the three months ended September 30, 2000 and 21% of our
revenues for the nine months ended September 30, 2000.
Virtually all of our client contracts may be canceled by the client
following limited notice and without economic penalty; however, the client is
responsible for fees earned through the date of contract termination unless a
valid offset exists. The revenues derived from specific clients is likely to
vary from period to period, and a major client in one year may not use our
services in a subsequent year. The loss of a large client or project in any
period could result in a decline in our revenues and profitability from period
to period, and cause significant and sudden declines or fluctuations in the
market value of our common stock. In addition, because a large portion of our
receivables relate to a limited number of clients and large projects, write-offs
attributable to one or a few of these clients or projects could exceed our
allowance for doubtful accounts and significantly harm our operating results.
In November 2000, one of our clients notified us that it intends to
discontinue a project with us and to challenge a portion of its balance of
approximately $3.2 million currently owed to us. This client accounted for
approximately eight percent of our revenue for the three and nine months ended
September 30, 2000. Our expected revenues and results of operations
could be negatively impacted in the fourth quarter and beyond by the loss of
this project. We intend to either resolve the matter with our client or
vigorously pursue collection of the amounts owed to us by this client.
IF WE ARE UNABLE TO ATTRACT AND RETAIN PROFESSIONAL STAFF, WE WILL BE UNABLE TO
PROVIDE OUR SERVICES EFFECTIVELY AND CONSEQUENTLY MAY BE UNABLE TO INCREASE OR
MAINTAIN CURRENT REVENUE LEVELS OR ACHIEVE OR MAINTAIN PROFITABILITY, WHICH
WOULD CAUSE THE PRICE OF OUR COMMON STOCK TO DECLINE.
We derive substantially all of our revenue from the billings of our
professional services personnel on projects. If we fail to attract and retain
professionals, we may not be able to successfully compete for new projects,
timely finish existing projects, or generally carry out our business plan. The
emergence of the Internet and the growth in e-commerce requires integrated
solutions implemented by Internet and network professionals qualified in leading
and emerging technologies. There is significant competition for professionals
with the skills required to provide these solutions, as businesses quickly adopt
and seek to implement their e-commerce strategies. Internet professional service
providers who are unable to attract and retain qualified professionals will have
difficulty competing in today's marketplace. We may lose prospective qualified
employees to clients or competitors. We may not attract a sufficient number of
highly skilled professionals, or retain, train, and motivate the professionals
that we do attract. Failure to do so could impair our ability to adequately
manage and complete our existing projects or obtain new projects. In addition,
declines in the trading price of our common stock could materially and adversely
affect employee morale and retention and other aspects of our business.
OUR RESULTS OF OPERATIONS MAY VARY FROM QUARTER TO QUARTER IN FUTURE PERIODS
AND, AS A RESULT, WE MAY NOT MEET THE EXPECTATIONS OF OUR INVESTORS AND
ANALYSTS, WHICH COULD CAUSE OUR STOCK PRICE TO FLUCTUATE OR DECLINE.
Our revenues and results of operations have fluctuated significantly in the
past and could fluctuate significantly in the future. In 1999, our quarterly net
earnings ranged from a loss of $2.2 million in the fourth quarter to earnings of
$559,000 in the third quarter. We incurred net losses of $2.3 million, $3.2
million and $3.7 million in the first, second and third quarters of 2000,
respectively. You should not rely on period-to-period comparisons of operations
as an indication of future performance.
Our results may fluctuate due to the factors described in this Form 10-Q, as
well as:
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- the loss of or failure to replace any significant clients;
- demand for our services;
- higher than expected bad debt write-offs;
- changes in the mix of services offered by us; and
- increases in our operating expenses.
A substantial portion of our operating expense is related to personnel
costs, marketing programs, and overhead, which cannot be adjusted quickly and is
therefore relatively fixed in the short term. Our operating expenses are based,
in significant part, on our expectations of future revenues. If actual revenues
are below our expectations, we may not achieve our anticipated operating
results. Moreover, it is possible that in some future periods our results of
operations may be below the expectations of analysts and investors. In this
event, the market price of our common stock is likely to decline.
IF WE FAIL TO KEEP PACE WITH THE RAPID TECHNOLOGICAL CHANGES THAT CHARACTERIZE
OUR INDUSTRY, OUR COMPETITIVENESS WOULD SUFFER, CAUSING US TO LOSE PROJECTS OR
CLIENTS AND CONSEQUENTLY REDUCING OUR REVENUES AND THE PRICE OF OUR COMMON
STOCK.
Our market and the enabling technologies used by our clients are
characterized by rapid, frequent, and significant technological changes. If we
fail to respond in a timely or cost-effective way to these technological
developments, we may not be able to meet the demands of our clients, which would
affect our ability to generate revenues and achieve profitability. We have
derived, and expect to continue to derive, a large portion of our revenues from
creating e-business or e-commerce systems and solutions that are based upon
today's leading and developing technologies and which are capable of adapting to
future technologies. Our historical results of operations may not reflect our
new service offerings and may not give you an accurate indication of our ability
to adapt to these future technologies.
OUR FAILURE TO MEET CLIENT EXPECTATIONS OR DELIVER ERROR-FREE SERVICES COULD
DAMAGE OUR REPUTATION AND HARM OUR ABILITY TO COMPETE FOR NEW BUSINESS OR RETAIN
OUR EXISTING CLIENTS, WHICH MAY LIMIT OUR ABILITY TO GENERATE REVENUES AND
ACHIEVE OR MAINTAIN PROFITABILITY.
Many of our engagements involve the delivery of information technology
services that are critical to our clients' businesses. Any defects or errors in
these services or failure to meet clients' specifications or expectations could
result in:
- delayed or lost revenues due to adverse client reaction;
- requirements to provide additional services to a client at no or a
limited charge;
- refunds of fees for failure to meet obligations;
- negative publicity about us and our services; and
- claims for substantial damages against us.
In addition, we sometimes implement critical functions for high profile
clients or for projects that have high visibility and widespread usage in the
marketplace. If these functions experience difficulties, whether or not as a
result of errors in our services, our name could be associated with these
difficulties and our reputation could be damaged, which would harm our business.
WE MAY LOSE MONEY ON FIXED-PRICE CONTRACTS BECAUSE WE MAY FAIL TO ACCURATELY
ESTIMATE AT THE BEGINNING OF PROJECTS THE TIME AND RESOURCES REQUIRED TO FULFILL
OUR OBLIGATIONS UNDER OUR CONTRACTS; THE ADDITIONAL EXPENDITURES THAT WE MUST
MAKE TO FULFILL THESE CONTRACT
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OBLIGATIONS MAY CAUSE OUR PROFITABILITY TO DECLINE OR PREVENT US FROM ACHIEVING
PROFITABILITY AND COULD REDUCE THE PRICE OF OUR COMMON STOCK.
Although we provide consulting services primarily on a time and materials
compensation basis, approximately 11% of our consulting revenue was derived from
fixed-price, fixed-time engagements in 1999, and approximately 5% of revenues
were derived from fixed-price, fixed-time engagements in the nine months ended
September 30, 2000. Our failure to accurately estimate the resources required
for a fixed-price, fixed-time engagement or our failure to complete our
contractual obligations in a manner consistent with our projections or
contractual commitments could harm our overall profitability and our business.
From time to time, we have been required to commit unanticipated additional
resources to complete some fixed-price, fixed-time engagements, resulting in
losses on these engagements. We believe that we may experience similar
situations in the future. In addition, we may negotiate a fixed price for some
projects before the design specifications are finalized, resulting in a fixed
price that is too low and causing a decline in our operating results.
OUR LACK OF LONG-TERM CONTRACTS WITH CLIENTS AND OUR CLIENTS' ABILITY TO
TERMINATE CONTRACTS WITH LITTLE OR NO NOTICE REDUCES THE PREDICTABILITY OF OUR
REVENUES AND INCREASES THE POTENTIAL VOLATILITY OF OUR STOCK PRICE.
Our clients generally retain us on an engagement-by-engagement basis, rather
than under long-term contracts. In addition, our current clients can generally
reduce the scope of or cancel their use of our services without penalty and with
little or no notice, as we have recently experienced from one of our significant
clients. As a result, our revenues are difficult to predict. Because we incur
costs based on our expectations of future revenues, our failure to predict our
revenues accurately may cause our expenses to exceed our revenues, which could
cause us to incur increased operating losses. Although we try to design and
build complete e-business systems for our clients, we are sometimes retained to
design and build discrete segments of the overall e-business system on an
engagement-by-engagement basis. Since the projects of our large clients can
involve multiple engagements or stages, there is a risk that a client may choose
not to retain us for additional stages of a project or that the client will
cancel or delay additional planned projects. These cancellations or delays could
result from factors related or unrelated to our work product or the progress of
the project, including changing client objectives or strategies, as well as
general business or financial considerations of the client. If a client defers,
modifies, or cancels an engagement or chooses not to retain us for additional
phases of a project, we must be able to rapidly re-deploy our employees to other
engagements in order to minimize underutilization of employees and the resulting
harm to our operating results. Our operating expenses are relatively fixed and
cannot be reduced on short notice to compensate for unanticipated variations in
the number or size of engagements in progress. If we are unable to efficiently
re-deploy our consultants, our operating results would be harmed.
WE MAY NOT BE SUCCESSFUL IN RETAINING OUR CURRENT TECHNOLOGY ALLIANCES OR
ENTERING INTO NEW ALLIANCES, WHICH COULD HAMPER OUR ABILITY TO MARKET OR DELIVER
SOLUTIONS NEEDED OR DESIRED BY OUR CLIENTS AND LIMIT OUR ABILITY TO INCREASE OR
SUSTAIN OUR REVENUES AND ACHIEVE OR MAINTAIN PROFITABILITY.
We have vendor alliances with over 75 companies. We have written agreements
with about one-third of these companies. All of our other relationships rely on
oral arrangements. Although these relationships generally entail only the supply
of technologies or solutions used in our clients' solutions, we also rely on
these relationships for client referral and marketing opportunities, access to
advanced technology and training as well as other important benefits. These
relationships are non-exclusive and the vendors are free to enter into similar
or more favorable relationships with our competitors. Whether written or oral,
many of the agreements underlying our relationships are general in nature, do
not legally bind the parties to transact business with each other or to provide
specific client referrals, cross-marketing opportunities, or other intended
benefits to each other, have indefinite terms, and may be ended at the will of
either party. We may not be able to maintain our existing strategic
relationships and may fail to enter into new relationships. If we are unable to
maintain these relationships, the benefits that we derive from these
relationships, including the receipt of important sales leads, cross-marketing
opportunities, access to emerging technology training and certifications, and
other benefits, may be lost. Consequently, we may not be able to offer desired
solutions to clients, which would result in a loss of revenues and our inability
to effectively compete for clients seeking emerging or leading technologies
offered by these vendors.
IF WE ARE UNABLE TO SUCCESSFULLY OPEN AND OPERATE NEW REGIONAL OFFICES, WE MAY
INCUR INCREASED OPERATING EXPENSES WITHOUT CORRESPONDING INCREASED REVENUES,
WHICH MAY LIMIT OUR ABILITY TO ACHIEVE OR MAINTAIN PROFITABILITY AND CAUSE THE
PRICE OF OUR COMMON STOCK TO
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DECLINE.
A key component of our business strategy is to open regional offices in new
geographic locations. Over the last year we opened new offices in Atlanta,
Boston, Denver, Las Vegas, Los Angeles and Irvine, and established a solutions
development center in India. We may be unable to select appropriate locations
for additional regional offices, to open them efficiently, or to manage them
profitably. In addition, we may not be able to operate our new offices
profitably or successfully expand these new offices. If we do not implement this
strategy successfully, we may incur increased operating expenses without
increased revenues, which would harm our operating results and our stock price.
IF OUR EFFORTS TO DEVELOP BRAND AWARENESS ARE NOT SUCCESSFUL, WE MAY NOT BE ABLE
TO INCREASE OUR REVENUES SUFFICIENTLY TO OFFSET THE MARKETING COSTS THAT WE WILL
INCUR IN THESE EFFORTS.
Because the Internet professional service provider industry is expanding
rapidly, an element of our business strategy is to develop and maintain
widespread awareness of our brand name in our target markets. If our marketing
efforts are not successful, we may not experience increases in revenues to
offset the increase in our marketing expenses, causing our operating margins to
decline. In addition, if we are unable to further develop our brand awareness,
we may not attain the growth in revenues that we seek.
BECAUSE WE OPERATE IN A HIGHLY COMPETITIVE AND RAPIDLY EVOLVING INDUSTRY,
EXISTING AND NEW COMPETITORS COULD CAUSE US TO LOSE BUSINESS OPPORTUNITIES OR
PROFESSIONAL PERSONNEL AND LIMIT OUR ABILITY TO INCREASE OR SUSTAIN REVENUE
LEVELS.
The business areas in which we compete are intensely competitive and subject
to rapid change. Due to the rapid growth in our industry, we expect competition
to continue and to intensify. Existing or future competitors could hire
professionals or win new client engagements that we are competing for. If this
occurs, our ability to generate increased revenues may be limited and we may not
achieve profitability. Our competitors fall into several categories and include
a range of entities providing both general management and information technology
consulting services and Internet services or solutions focused on discreet
e-business segments. Many of our competitors have longer operating histories,
larger client bases, and greater brand or name recognition, as well as greater
financial, technical, marketing, and public relations resources. Our competitors
may be able to respond more quickly to technological developments and changes in
clients' needs. Further, as a result of the low barriers to entry, we expect to
continue to face additional competition from new entrants into our markets. We
do not own any technologies that preclude or inhibit competitors from entering
the general business areas in which we compete. Existing or future competitors
may independently develop and patent or copyright technologies that are superior
or substantially similar to our technologies, which may place us at a
competitive disadvantage.
WE MAY NOT BE ABLE TO PROTECT OUR INTELLECTUAL PROPERTY RIGHTS AND, AS A RESULT,
WE COULD LOSE COMPETITIVE ADVANTAGES WHICH DIFFERENTIATE OUR SOLUTIONS AND OUR
ABILITY TO ATTRACT AND RETAIN CLIENTS.
Our success is dependent, in part, upon our intellectual property rights. We
rely upon a combination of trade secret, confidentiality and nondisclosure
agreements, and other contractual arrangements, as well as copyright and
trademark laws to protect our proprietary rights. We have no patents or pending
patent applications. We enter into confidentiality agreements with our
employees, we generally require that our consultants and clients enter into
these agreements, and attempt to limit access to and distribution of our
proprietary information. Nevertheless, we may be unable to deter
misappropriation of our proprietary information or to detect unauthorized use
and take appropriate steps to enforce our intellectual property rights or
proprietary information.
We attempt to retain significant ownership or rights to use our internally
developed software applications and to build applications which we can market
and adapt through further customization for other client projects. Under some of
our client contracts, all of our project developments are the property of the
client and we have no or limited rights to reuse or provide these developments
in other client projects. To the extent that we are unable to negotiate
contracts which permit us to reuse code and methodologies, or to the extent that
we have conflicts with our clients regarding our ability to do so, we may be
unable to provide services to some of our clients within price and timeframes
acceptable to these clients.
Although we believe that our services, trade or service names, and products
do not infringe upon the intellectual property rights of others, claims could be
asserted against us in the future. If asserted, we may be unable to successfully
defend these claims, which could cause us to cease providing some services or
products and limit any competitive advantage we derive from our trademarks or
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names.
If any of these events occur, our ability to differentiate ourselves and
compete effectively could be limited and we may lose revenue opportunities.
WE OCCASIONALLY AGREE NOT TO PERFORM SERVICES FOR OUR CLIENTS' COMPETITORS,
WHICH MAY LIMIT OUR ABILITY TO GENERATE FUTURE REVENUES AND INHIBIT OUR BUSINESS
STRATEGY.
In order to secure particularly large engagements or engagements with
industry leading clients, we have agreed on limited occasions not to perform
services, or not to utilize some of our intellectual property rights developed
for clients, for competitors of those clients for limited periods of time
ranging from one to three years. In our agreement with American Express, our
largest client, we have agreed not to perform services for competitors of
American Express for one year after each project completion date and not to
assign consultants who have worked on American Express projects to other
clients' competitive projects for nine months after completing work for American
Express. These non-compete provisions reduce the number of our prospective
clients and our potential sources of revenue. These agreements also may limit
our ability to execute a part of our business strategy of leveraging our
business expertise in discreet industry segments by attracting multiple clients
competing in those industries. In addition, these agreements increase the
significance of our client selection process because some of our clients compete
in markets where only a limited number of companies gain meaningful market
share. If we agree not to perform services or to utilize intellectual property
rights for a particular client's competitors or competitive projects, we are
unlikely to receive significant future revenues in that particular market.
OUR LONG SALES CYCLES MAKE OUR REVENUES DIFFICULT TO PREDICT, WHICH COULD CAUSE
OUR REVENUES OR PROFITABILITY TO BE BELOW ANALYST OR INVESTOR EXPECTATIONS,
CAUSING OUR STOCK PRICE TO FLUCTUATE AND DECLINE SIGNIFICANTLY.
The timing of our revenues is difficult to predict because of the length and
variance of the time required to complete a sale. Our sales cycle typically
ranges in length from three months to nine months and is sometimes longer. Prior
to retaining us for a project, our clients often undertake an extensive review
of their systems, needs, and budgets and may require approval at various levels
within their organization. The length or unpredictability of our sales cycle
could cause our revenues or profitability to be below the expectations of
analysts or investors and our stock price to fluctuate significantly.
IF BUSINESSES DO NOT ADOPT AND ACCEPT APPLICATION HOSTING SERVICES, WE MAY BE
UNABLE TO RECOVER OUR INVESTMENT IN PROVIDING THESE SERVICES, REDUCING OUR
PROFITABILITY AND THE PRICE OF OUR COMMON STOCK.
Our ability to increase revenues and profitability depends in part on the
adoption and acceptance of third-party application hosting services by our
clients. We have only recently begun to offer third-party application hosting
services. We have expended, and expect to continue to expend, significant
resources to increase our data center capacity to accommodate our hosting
services, as evidenced by our recent agreements with goracing.com. If we do not
generate sufficient revenues from these services, our operating results and
stock price could be negatively affected.
SOME OF OUR CLIENTS ARE EMERGING COMPANIES THAT HAVE LITTLE OR NO OPERATING
HISTORY AND MAY LACK THE RESOURCES TO PAY OUR FEES, WHICH COULD CAUSE US TO
INCUR LOSSES ON THESE ACCOUNTS.
We derive a significant portion of our revenues from small emerging
companies, particularly start-up e-venture companies that have limited operating
histories and resources to pay our fees. We have recently increased our
allowance for doubtful accounts receivable due to changing market conditions
affecting capital availability to such clients. In addition, we provide services
to select start-up companies in exchange for equity in those clients. These
companies often have little or no earnings or cash flow and their business is
generally at greater risk of failing than more established, traditional
businesses. As a result, these clients may be unable to pay for our services in
a timely manner, or at all. This would reduce our cash flow, making it difficult
to carry on our business without additional funds, and could lead to the
inefficient allocation of our professional and other resources. In addition, if
the investments we make in these companies decline in value, we may be required
to recognize losses on our investments.
THE LOSS OF MR. JAMES G. GARVEY, JR., OUR FOUNDER, PRESIDENT AND CHIEF EXECUTIVE
OFFICER, MAY HARM OUR ABILITY TO OBTAIN AND RETAIN CLIENT ENGAGEMENTS, MAINTAIN
A COHESIVE CULTURE, OR
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COMPETE EFFECTIVELY.
Our success will depend in large part upon the continued services of James
G. Garvey, Jr., our President, Chief Executive Officer, and founder. We have an
employment contract with Mr. Garvey. Mr. Garvey is precluded under his agreement
from competing against us for one year should he leave us. The loss of services
of Mr. Garvey could harm us and cause a loss of investor confidence in our
business, which could cause the trading price of our stock to decline. In
addition, if Mr. Garvey resigns to join a competitor or to form a competing
company, the loss of Mr. Garvey and any resulting loss of existing or potential
clients to any competitor could harm our business. If we lose Mr. Garvey, we may
be unable to prevent the unauthorized disclosure or use by other companies of
our technical knowledge, practices, or procedures. In addition, due to the
substantial number of shares of our common stock owned by Mr. Garvey, the loss
of Mr. Garvey's services could cause investor or analyst concern that Mr. Garvey
may sell a large portion of his shares, which could cause a rapid and
substantial decline in the trading price of our common stock.
WE MAY NEED ADDITIONAL CAPITAL WHICH, IF NOT AVAILABLE TO US, MAY ALTER OUR
BUSINESS PLAN OR LIMIT OUR ABILITY TO ACHIEVE GROWTH IN REVENUES AND WHICH, IF
AVAILABLE AND RAISED, WOULD DILUTE YOUR OWNERSHIP INTEREST IN US.
We may need to raise additional funds through public or private equity or
debt financings in order to:
- support capital expenditures;
- take advantage of acquisition or expansion opportunities;
- develop new services;
- address working capital needs; or
- address unanticipated contingencies.
Our inability to obtain financing on terms acceptable to us, or at all, may
limit our ability to increase revenues or to achieve profitability. Our stock
price, like the stock price of many competitors in our industry, has been
depressed in recent periods, which could limit our ability to obtain any needed
financing on favorable or acceptable terms. In addition, if we are able to raise
additional capital through the sale of equity securities, your investment in us
would be diluted, which could cause our stock price to further decline.
WE MAY NOT BE ABLE TO MAINTAIN ADEQUATE PERSONNEL, SYSTEMS, OR OTHER RESOURCES
TO EFFECTIVELY MANAGE OUR PLANNED GROWTH, WHICH COULD IMPAIR OUR ABILITY TO
DELIVER PROJECT WORK AND CAUSE OUR EMPLOYEE AND CLIENT RELATIONS TO SUFFER.
Our recent growth at times has strained our managerial and operational
resources by diverting management attention from client project implementation
to personnel recruitment, training, and infrastructure development. We may not
be able to manage our planned growth effectively. To manage future growth, we
must continue to improve our operating and financial systems, procedures, and
controls, and to expand, train, retain, and manage our employee base. If our
systems, procedures, and controls are inadequate to support our operations, we
would not be able to attract new clients or employees and our planned expansion
could be impaired.
OUR REVENUES MAY DECLINE AND WE MAY NOT ACHIEVE PROFITABILITY IF GROWTH IN THE
USE OF THE INTERNET DECLINES.
Our business is dependent upon continued growth in the use of the Internet
by our clients, prospective clients and their clients, suppliers, and other
business constituents. If use of the Internet does not increase and commerce
over the Internet does not become more accepted and widespread, demand for our
services may decrease and, as a result, our revenues would decline and we may be
unable to achieve (or, once achieved, maintain) profitability. The market for
e-business solutions is relatively new and is undergoing significant and rapid
development. The acceptance and growth of e-business solutions will be limited
if the Internet does not prove to be a viable commercial market. Factors that
may affect Internet usage or e-commerce adoption include:
- actual or perceived lack of security of information;
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- lack of access and ease of use;
- congestion of Internet traffic and the availability and cost of newer,
high-speed telecommunications lines and equipment;
- increases in access costs to the Internet;
- excessive or new governmental regulation;
- uncertainty regarding intellectual property ownership;
- reluctance to adopt new business methods; and
- costs associated with the obsolescence of existing infrastructure.
THE VOLUME OF TRADING AND PRICE OF OUR COMMON STOCK COULD FLUCTUATE
SIGNIFICANTLY, ADVERSELY AFFECTING OUR STOCK PRICE.
Many publications and market commentators indicate that the stock of
technology companies focused on the Internet trade at overly inflated prices and
the stock prices of many technology companies, such as ours, has declined
significantly in recent periods. If investor interest in these stocks continues
to decline generally or does not increase, the price of our common stock could
continue to decline suddenly and significantly.
THE SALE OF A SUBSTANTIAL NUMBER OF SHARES OF OUR COMMON STOCK IN THE PUBLIC
MARKET COULD ADVERSELY AFFECT THEIR MARKET PRICE, NEGATIVELY IMPACTING YOUR
INVESTMENT.
There are a substantial number of shares currently available for sale in the
public market, and additional shares will be available for sale as the
availability of exemptions from registration afforded by Rules 144 of the
Securities Act of 1933 become available. The sales of a substantial number of
shares of our common stock in the public market could depress the market price
of our common stock and could impair our ability to raise capital through the
sale of additional equity securities. Some holders of shares of our common stock
who held our preferred stock outstanding immediately prior to our initial public
offering and one of our warrant holders have registration rights relating to a
total of 4,638,170 shares of our common stock, which currently enable them to
require us to register their shares for sale under the Securities Act.
THE HOLDINGS OF MR. GARVEY MAY LIMIT YOUR ABILITY TO INFLUENCE THE OUTCOME OF
DIRECTOR ELECTIONS AND OTHER MATTERS SUBJECT TO A STOCKHOLDER VOTE, INCLUDING A
SALE OF OUR COMPANY ON TERMS THAT MAY BE ATTRACTIVE TO YOU.
James G. Garvey, Jr., a director, executive officer, and our founder,
currently owns approximately 47% of our outstanding common stock. Mr. Garvey's
stock ownership and management positions enable him to exert considerable
influence over us, including in the election of directors and the approval of
other actions submitted to our stockholders. In addition, without the consent of
Mr. Garvey, we may be prevented from entering into transactions that could be
viewed as beneficial to other stockholders, including a sale of Integrated
Information Systems. This could prevent you from selling your stock to a
potential acquirer at prices that exceed the market price of our stock, or could
cause the market price of our common stock to decline.
OUR CHARTER DOCUMENTS COULD MAKE IT MORE DIFFICULT FOR A THIRD PARTY TO ACQUIRE
US, WHICH COULD LIMIT YOUR ABILITY TO SELL YOUR STOCK TO AN ACQUIROR AT A
PREMIUM PRICE OR COULD CAUSE OUR STOCK PRICE TO DECLINE.
Our certificate of incorporation and by-laws may make it difficult for a
third party to acquire control of us, even if a change in control would be
beneficial to stockholders. Our certificate of incorporation authorizes our
board of directors to issue up to 5,000,000 shares of "blank check" preferred
stock. Without stockholder approval, the board of directors has the authority to
attach special rights, including voting and dividend rights, to this preferred
stock. With these rights, preferred stockholders could make it more difficult
for
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a third party to acquire our company.
Our by-laws do not permit any person other than at least three members of
our board of directors, our President, the Chairman of the Board, or holders of
at least a majority of our stock to call special meetings of the stockholders.
In addition, a stockholder's proposal for an annual meeting must be received
within a specified period in order to be placed on the agenda. Because
stockholders do not have the power to call meetings and are subject to timing
requirements in submitting stockholder proposals for consideration at meetings,
any third-party takeover or other matter that stockholders wish to vote on that
is not supported by the board of directors could be subject to significant
delays and difficulties.
If a third party finds it more difficult to acquire us because of these
provisions, you may not be able to sell your stock at a premium price that may
have been offered by the acquirer, and the trading price of our stock may be
lower than it otherwise would be if these provisions were not in effect.
PART II. OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
On March 16, 2000, the Securities and Exchange Commission declared
effective our Registration Statement on Form S-1 (File No. 333-94861) for our
initial public offering. On March 22, 2000, IIS closed its offering for
4,600,000 shares of Common Stock at a public offering price of $15.00 per
share. On April 19, 2000, IIS closed an offering of an additional 690,000
shares at the same public offering price pursuant to exercise of the
underwriters' over-allotment option, 345,000 of which shares were sold by IIS,
and 345,000 were sold by James G. Garvey, Jr., the founder, Chairman, CEO, and
President of IIS.
Through September 30, 2000, approximately $15.7 million of the proceeds to
IIS of the offering have been applied to working capital and to capital
improvements to the Company's facilities. The remaining net proceeds are being
maintained in a portfolio of money market funds and investment grade securities.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a.) Exhibits
27. Financial Data Schedule.
(b.) Reports on Form 8-K
The Company did not file any reports on Form 8-K during the third quarter of
2000.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities and
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
INTEGRATED INFORMATION SYSTEMS, INC.
By: DAVID A. WIRTHLIN
-----------------
David A. Wirthlin
Chief Financial Officer
Principal Accounting Officer
Date: November 14, 2000
18
<PAGE> 19
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION OF EXHIBITS
------ -----------------------
<S> <C>
27 Financial Data Schedule
</TABLE>
19
