<PAGE>
Exhibit 99.1
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To AppNet, Inc.:
We have audited the accompanying consolidated balance sheets of
AppNet, Inc. (formerly AppNet Systems, Inc.) (a Delaware corporation) and
subsidiaries as of December 31, 1999 and 1998, and the related consolidated
statements of operations, stockholders' equity, and cash flows for the years
then ended. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with auditing standards
generally accepted in the United States. 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 consolidated financial statements referred to
above present fairly, in all material respects, the financial position of
AppNet, Inc. and subsidiaries as of December 31, 1999 and 1998, and the
results of their operations and their cash flows for the years then ended in
conformity with accounting principles generally accepted in the United States.
ARTHUR ANDERSEN LLP
Vienna, Virginia
February 9, 2000
<PAGE>
APPNET, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share data)
<TABLE>
<CAPTION>
1999 1998
---------- -----------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 66,549 $ 2,447
Accounts receivable, net 31,661 11,238
Other current assets 1,300 1,118
--------- ---------
Total current assets 99,510 14,803
Property and equipment, net 8,958 3,012
Intangible assets, net 97,247 99,380
Other assets 2,111 1,175
--------- ---------
Total assets $ 207,826 $ 118,370
========= =========
LIABILITIES, REDEEMABLE STOCK
AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 4,830 $ 2,737
Accrued liabilities 32,311 6,911
Current portion of convertible notes
and long-term debt 1,063 2,426
--------- ---------
Total current liabilities 38,204 12,074
Credit facilities -- 37,461
Convertible notes, net of current portion -- 2,706
Other long-term debt, net of current portion 3,516 1,199
Other long-term liabilities 1,264 3,398
--------- ---------
Total liabilities 42,984 56,838
--------- ---------
Commitments and contingencies (Note 15)
Class A Preferred Stock, $.01 par value,
96,621 shares authorized, zero and 38,093
shares issued and outstanding as of
December 31, 1999 and December 31, 1998,
respectively, liquidation value $1,000 -- 37,646
Common stock subject to put rights, $.0005
par value; zero and 48,771 shares issued and
outstanding as of December 31, 1999 and
December 31, 1998, respectively -- 278
Stockholders' equity:
Class B Preferred Stock, $.01 par value,
20,000 shares authorized, zero and 11,576
shares issued and outstanding as of
December 31, 1999 and December 31, 1998,
respectively, liquidation value $1,000 -- 11,576
Common stock, $.0005 par value; 75,000,000
shares authorized, 33,625,175 shares issued
and 33,454,474 shares outstanding as of
December 31, 1999, and 19,504,173 issued
and outstanding as of December 31, 1998 17 10
Additional paid-in capital 257,542 27,222
Treasury stock (51) --
Notes receivable from management (503) (821)
Deferred compensation (383) --
Accumulated deficit (91,780) (14,379)
--------- ---------
Total stockholders' equity 164,842 23,608
--------- ---------
Total liabilities, redeemable stock
and stockholders' equity $ 207,826 $ 118,370
========= =========
</TABLE>
The accompanying notes are an integral part of these statements.
<PAGE>
APPNET, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except share and per share data)
<TABLE>
<CAPTION>
Year ended December 31,
1999 1998
------------- -------------
<S> <C> <C>
Revenues $ 109,707 $ 17,674
Cost of revenues 61,604 11,699
------------ ------------
Gross profit 48,103 5,975
Operating expenses:
Selling and marketing 8,797 964
General and administrative 33,918 6,507
Stock-based and other
acquisition-related
compensation 19,651 1,157
Depreciation and amortization 58,024 10,151
------------ ------------
Total operating expenses 120,390 18,779
------------ ------------
Loss from operations (72,287) (12,804)
Interest income 585 17
Interest expense (4,313) (1,052)
Other expense, net (559) (740)
------------ ------------
Loss before income taxes (76,574) (14,579)
Income tax (benefit) provision 827 (200)
------------ ------------
Net loss (77,401) (14,379)
Dividends on and accretion of preferred stock (2,139) (873)
------------ ------------
Net loss attributable to common stockholders $ (79,540) $ (15,252)
============ ============
Basic and diluted net loss per common share $ (3.03) $ (1.41)
============ ============
Weighted average common shares outstanding 26,233,764 10,785,424
============ ============
</TABLE>
The accompanying notes are an integral part of these statements.
<PAGE>
<TABLE>
APPNET, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(amounts in '000s, except share data)
<CAPTION>
Redeemable Equity Securities
----------------------------------------------------------------------------------
Common Stock
Subject to Class A Series A-1
Put Rights Preferred Stock Preferred Stock
------------------------ --------------------------- ---------------------------
Shares Amount Shares Amount Shares Amount
---------- ---------- ------------ ------------- ------------ -------------
<S> <C> <C> <C> <C> <C> <C>
Initial capitalization -- $ -- -- $ -- -- $ --
Issuance of Series
A-1 Preferred Stock in
connection with acquisition -- -- -- -- 266,796 1,067
GTCR Investment 48,771 278 -- -- (266,796) (1,067)
Repurchase and cancellation
of shares in exchange for
note payable -- -- -- -- -- --
Repurchase and cancellation
of common stock shares -- -- -- -- -- --
Issuance of Class A
Preferred Stock -- -- 37,676 37,045 -- --
Conversion of common stock
into Class A Preferred Stock -- -- 417 417 -- --
Dividends on and accretion of
Class A Preferred Stock -- -- -- 184 -- --
Issuance of stock in connection
with the 1998 acquired
businesses -- -- -- -- -- --
Repurchase and cancellation of
shares sold to management -- -- -- -- -- --
Purchase of shares by management -- -- -- -- -- --
Stock options exercised -- -- -- -- -- --
Net loss -- -- -- -- -- --
----------- ----------- ----------- ----------- ----------- -----------
Total, December 31, 1998 48,771 $ 278 38,093 $ 37,646 -- $ --
----------- ----------- ----------- ----------- ----------- -----------
Issuance of Class A Preferred
Stock -- -- 7,337 7,191 -- --
Dividends on and accretion of
Class A Preferred Stock -- -- -- 593 -- --
Issuance of stock in connection
with the 1999 acquired
businesses -- -- -- -- -- --
Contingent purchase price earned,
payable in stock -- -- -- -- -- --
Exercise and expiration of
put rights (48,771) (278) -- -- -- --
Conversion of notes payable -- -- -- -- -- --
Issuance of common stock in
initial public offering, net
of expenses -- -- -- -- -- --
Exchange of Class A and Class
B Preferred Stock in the
initial public offering -- -- (45,430) (45,430) -- --
Charges associated with the
initial public offering -- -- -- -- -- --
Repurchase and cancellation of
shares sold to management -- -- -- -- -- --
Common stock sold for cash -- -- -- -- -- --
Issuance of common stock in
secondary public offering, net
of expenses -- -- -- -- -- --
Repurchase of common stock -- -- -- -- -- --
Stock options and warrants exercised -- -- -- -- -- --
Deferred compensation pursuant to
issuance of stock
options -- -- -- -- -- --
Amortization of deferred compensation -- -- -- -- -- --
Other -- -- -- -- -- --
Net loss -- -- -- -- -- --
----------- ----------- ----------- ----------- ----------- -----------
Total, December 31, 1999 -- $ -- -- $ -- -- $ --
=========== =========== =========== =========== =========== ===========
</TABLE>
<TABLE>
<CAPTION>
Class B Common
Preferred Stock Stock Additional
---------------------------- ----------------------------- Paid-In Treasury
Shares Amount Shares Amount Capital Stock
------------- ------------- -------------- ------------- ------------- -------------
<S> <C> <C> <C> <C> <C> <C>
Initial capitalization -- $ -- 5,343,860 $ 3 $ 132 $ --
Issuance of Series
A-1 Preferred Stock in
connection with acquisition -- -- -- -- -- --
GTCR Investment -- -- 13,342,145 7 4,108 --
Repurchase and cancellation
of shares in exchange for
note payable -- -- (1,350,877) (1) (405) --
Repurchase and cancellation
of common stock shares -- -- (138,455) -- (789) --
Issuance of Class A
Preferred Stock -- -- -- -- -- --
Conversion of common stock
into Class A Preferred Stock -- -- (1,387,097) (1) (416) --
Dividends on and accretion of
Class A Preferred Stock -- -- -- -- (873) --
Issuance of stock in connection
with the 1998 acquired
businesses 11,576 11,576 3,397,329 2 24,811 --
Repurchase and cancellation of
shares sold to management -- -- (681,053) -- (228) --
Purchase of shares by management -- -- 552,982 -- 572 --
Stock options exercised -- -- 425,339 -- 310 --
Net loss -- -- -- -- -- --
----------- ----------- ----------- ----------- ----------- -----------
Total, December 31, 1998 11,576 $ 11,576 19,504,173 $ 10 $ 27,222 $ --
----------- ----------- ----------- ----------- ----------- -----------
Issuance of Class A Preferred
Stock -- -- -- -- -- --
Dividends on and accretion of
Class A Preferred Stock -- -- -- -- (2,139) --
Issuance of stock in connection
with the 1999 acquired
businesses -- -- 595,711 -- 9,399 --
Contingent purchase price earned,
payable in stock -- -- -- -- 10,460 --
Exercise and expiration of
put rights -- -- 44,882 -- 256 --
Conversion of notes payable -- -- 1,130,558 -- 12,056 --
Issuance of common stock in
initial public offering, net
of expenses -- -- 6,000,000 3 64,116 --
Exchange of Class A and Class
B Preferred Stock in the
initial public offering (11,576) (11,576) 4,936,808 3 59,239 --
Charges associated with the
initial public offering -- -- -- -- 3,506 --
Repurchase and cancellation of
shares sold to management -- -- (467,074) -- (142) --
Common stock sold for cash -- -- 29,240 -- 375 --
Issuance of common stock in
secondary public offering, net
of expenses -- -- 1,500,000 1 71,098 --
Repurchase of common stock -- -- (170,701) -- -- (51)
Stock options and warrants exercised -- -- 350,877 -- 1,034 --
Deferred compensation pursuant to
issuance of stock
options -- -- -- -- 481 --
Amortization of deferred compensation -- -- -- -- -- --
Other -- -- -- -- 581 --
Net loss -- -- -- -- -- --
----------- ----------- ----------- ----------- ----------- -----------
Total, December 31, 1999 -- $ -- 33,454,474 $ 17 $ 257,542 $ (51)
=========== =========== =========== =========== =========== ===========
</TABLE>
<TABLE>
<CAPTION>
Stockholders' Equity
---------------------------------------------------------------
Notes Total
Receivable from Deferred Accumulated Stockholder's
Management Compensation Deficit Equity
---------------- ------------ ------------- ----------------
<S> <C> <C> <C> <C>
Initial capitalization $ -- $ -- $ -- $ 135
Issuance of Series
A-1 Preferred Stock in
connection with acquisition -- -- -- --
GTCR Investment (447) -- -- 3,668
Repurchase and cancellation
of shares in exchange for
note payable -- -- -- (406)
Repurchase and cancellation
of common stock shares -- -- -- (789)
Issuance of Class A
Preferred Stock -- -- -- --
Conversion of common stock
into Class A Preferred Stock -- -- -- (417)
Dividends on and accretion of
Class A Preferred Stock -- -- -- (873)
Issuance of stock in connection
with the 1998 acquired
businesses -- -- -- 36,389
Repurchase and cancellation of
shares sold to management 197 -- -- (31)
Purchase of shares by management (571) -- -- 1
Stock options exercised -- -- -- 310
Net loss -- -- (14,379) (14,379)
----------- ----------- ----------- -----------
Total, December 31, 1998 $ (821) $ -- $ (14,379) $ 23,608
----------- ----------- ----------- -----------
Issuance of Class A Preferred
Stock -- -- -- --
Dividends on and accretion of
Class A Preferred Stock -- -- -- (2,139)
Issuance of stock in connection
with the 1999 acquired
businesses -- -- -- 9,399
Contingent purchase price earned,
payable in stock -- -- -- 10,460
Exercise and expiration of
put rights -- -- -- 256
Conversion of notes payable -- -- -- 12,056
Issuance of common stock in
initial public offering, net
of expenses -- -- -- 64,119
Exchange of Class A and Class
B Preferred Stock in the
initial public offering -- -- -- 47,666
Charges associated with the
initial public offering -- -- -- 3,506
Repurchase and cancellation of
shares sold to management 142 -- -- --
Common stock sold for cash -- -- -- 375
Issuance of common stock in
secondary public offering, net
of expenses -- -- -- 71,099
Repurchase of common stock -- -- -- (51)
Stock options and warrants exercised -- -- -- 1,034
Deferred compensation pursuant to
issuance of stock
options -- (481) -- --
Amortization of deferred compensation -- 98 -- 98
Other 176 -- -- 757
Net loss -- -- (77,401) (77,401)
----------- ----------- ----------- -----------
Total, December 31, 1999 $ (503) $ (383) $ (91,780) $ 164,842
=========== =========== =========== ===========
The accompanying notes are an integral part of these statements.
</TABLE>
<PAGE>
APPNET, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
<TABLE>
<CAPTION>
Year ended
December 31,
-----------------------
1999 1998
---------- ----------
<S> <C> <C>
Cash flows from operating activities:
Net loss $ (77,401) $ (14,379)
Adjustments to reconcile net
loss to net cash used in
operating activities:
Amortization 55,271 9,867
Depreciation 2,753 284
Stock-based and other acquisition-related
compensation 19,651 1,157
Write-off of deferred financing costs 559 291
Deferred tax benefit -- (50)
Beneficial conversion charge 1,052 --
Change in assets and liabilities:
Accounts receivable, net (17,794) (1,762)
Other current assets 412 399
Accounts payable 744 1,012
Accrued liabilities 8,450 547
--------- ---------
Net cash used in operating activities (6,303) (2,634)
--------- ---------
Cash flows from investing activities:
Purchase of property and equipment (7,353) (1,196)
Cash paid for acquired businesses,
net of cash acquired (26,381) (69,562)
Other assets (1,340) (904)
--------- ---------
Net cash used in investing activities (35,074) (71,662)
--------- ---------
Cash flows from financing activities:
Proceeds from long-term debt -- 1,104
Repayments of long-term debt (203) (268)
Borrowings under credit facilities 75,800 47,261
Repayments of credit facilities (113,261) (9,800)
Debt issue costs (621) (351)
Proceeds from issuance of common stock 375 3,015
Net proceeds from initial public offering 64,119 --
Net proceeds from secondary public offering 70,463 --
Repurchase of common stock subject to
put rights (22) --
Proceeds from issuance of preferred stock 7,046 36,292
Proceeds from issuance (repurchase) of
shares sold to management 164 (31)
Repurchase of common stock (51) (789)
Proceeds from exercise of stock options 1,034 310
Other 636 --
--------- ---------
Net cash provided by financing activities 105,479 76,743
--------- ---------
Net increase in cash 64,102 2,447
Cash and cash equivalents, beginning of period 2,447 --
--------- ---------
Cash and cash equivalents, end of period $ 66,549 $ 2,447
========= =========
Supplementary information:
Cash paid for income taxes $ 437 $ --
========= =========
Cash paid for interest $ 2,332 $ 775
========= =========
</TABLE>
The accompanying notes are an integral part of these statements.
<PAGE>
APPNET, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999 AND 1998
1. Business Description:
AppNet, Inc. ("AppNet" or the "Company") was incorporated under the
name Internet Applications, Inc. in November 1997 ("Inception"), under the
laws of the state of Delaware. The Company changed its name to AppNet, Inc.
and AppNet Systems, Inc., in October 1999 and March 1998, respectively.
AppNet is based in Bethesda, Maryland and is a provider of end-to-end
e-business professional services and solutions, including strategy
consulting, interactive marketing, e-business application development,
e-business integration and e-business outsourcing.
The Company's financial statements for the period from Inception
through December 31, 1997 reflect immaterial transactions and, therefore,
have been included in the 1998 financial statements to facilitate
presentation. From Inception through March 11, 1998, the Company's operating
activities related primarily to recruiting personnel, raising capital,
identifying operating assets for acquisitions and developing technical and
marketing materials. In March 1998, the Company completed its first
acquisition and recognized its first revenues.
There are significant risks associated with the Company, including
the susceptibility of the Company's services to rapid technological change,
increased competition from existing service providers and new entrants, a
relatively short operating history, existence of fixed price contracts,
realizability of intangible assets, government regulations and dependence
upon key members of the management team.
2. Summary of Significant Accounting Policies:
Principles of Consolidation
The accompanying consolidated financial statements include the
accounts of AppNet and its wholly owned subsidiaries. All significant
intercompany transactions and accounts have been eliminated in consolidation.
Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to
make assumptions that affect the reported amounts of assets and liabilities
and the disclosure of contingent assets and liabilities at the date of the
financial statements and the reported amount of revenues and expenses during
the reporting period. Actual results could differ from those estimates.
Cash and Cash Equivalents
The Company considers all highly liquid investments with original
maturities of three months or less to be cash equivalents.
Property and Equipment
Property and equipment are stated at cost, net of accumulated
depreciation and amortization. Depreciation and amortization are computed
using the straight-line method over the estimated useful lives of the related
assets, as follows:
<TABLE>
<S> <C>
Computers and equipment..................... three to five years
Furniture and fixtures...................... five to seven years
</TABLE>
<PAGE>
Leasehold improvements are amortized over the lesser of the estimated
useful life of the asset or the remaining lease term.
Impairment of Long-Lived Assets
In accordance with Statement of Financial Accounting Standards
("SFAS") No. 121, "Accounting for Impairment of Long-Lived Assets and for
Long-Lived Assets to Be Disposed Of," the Company reviews its recorded
goodwill, other intangibles and long-lived assets for impairment whenever
events or changes in circumstances indicate that the carrying amount of an
asset may not be recoverable. When deemed necessary, goodwill and other
intangibles are assessed for possible impairment based upon a number of
factors, including turnover of the acquired workforce and the undiscounted
value of expected future operating cash flows in relation to the Company's
net investment in each subsidiary. Since Inception, the Company has not
recorded a provision for possible impairment of long-lived assets or
intangible assets associated with its acquired businesses.
Internal Use Computer Software
In accordance with the American Institute of Certified Public
Accountants (the "AICPA") Statement of Position 98-1 "Accounting for the
Costs of Computer Software Developed or Obtained for Internal Use," the
Company capitalizes costs related to software and implementation in
connection with its internal use software systems. Such costs are amortized
principally over three years and are included in other assets in the
accompanying consolidated balance sheets.
Fair Value of Financial Instruments
The Company's financial instruments consist primarily of cash and
cash equivalents, accounts receivable, accounts payable, credit facilities,
long-term debt and convertible notes. In management's opinion, the carrying
amounts of these financial instruments approximate their fair values at
December 31, 1999 and 1998. Due to the related party nature of the Company's
Class A Preferred Stock, it is impracticable to estimate its fair value at
December 31, 1998.
Stock-Based Compensation
The Company accounts for stock-based employee compensation
arrangements using the intrinsic value method in accordance with provisions
of Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock
Issued to Employees," and complies with the disclosure provisions of SFAS No.
123, "Accounting for Stock-Based Compensation." Under APB Opinion No. 25,
compensation cost is generally recognized based on the difference, if any, on
the date of grant between the fair value of the Company's stock and the
amount an employee must pay to acquire the stock.
Revenue Recognition
Revenues from time and materials contracts are recognized based on
fixed hourly rates for direct labor hours expended. Revenues from fixed-price
contracts are recognized on the percentage-of-completion method, with costs
and estimated profits recorded as work is performed. Revenues from
cost-plus-fixed-fee contracts are recognized on the basis of direct costs
plus indirect costs incurred plus a fixed profit percentage. Revenues exclude
the cost of media and advertising purchases reimbursed by clients.
Cost of revenues includes all direct material and labor costs related
to contract performance and does not include any related depreciation
expense. Provisions for estimated losses on uncompleted contracts are made in
the period in which such losses are determined. Changes in contract
performance and estimated profitability, including final contract
settlements, may result in revisions to costs and revenues and are recognized
in the period in which the revisions are determined. Unbilled receivables on
contracts are comprised of costs, plus earnings on certain contracts in
excess of contractual billings on such contracts. Cash received in excess of
costs incurred is classified as deferred revenue.
<PAGE>
Business Concentration and Credit Risk
The following table summarizes the revenues and accounts receivable
from clients in excess of 10% of total revenues and accounts receivable:
<TABLE>
<CAPTION>
Revenues for Accounts Receivable Revenues for Accounts Receivable
the year ended as of the year ended as of
December 31, 1999 December 31, 1999 December 31, 1998 December 31, 1998
------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Customer A * * 15% 12%
Customer B * 10% 12% 13%
</TABLE>
* Represents less than 10% of total.
Income Taxes
Income taxes are accounted for using an asset and liability approach
that requires the recognition of taxes payable or refundable for the current
year and deferred tax liabilities and assets for the future tax consequences
of events that have been recognized in the Company's financial statements or
tax returns. The measurement of current and deferred tax liabilities and
assets are based on provisions of the enacted tax law; the effects of future
changes in tax laws or rates are not anticipated. The measurement of deferred
tax assets is reduced, if necessary, by the amount of any tax benefits that,
based on available evidence, are not expected to be realized.
Earnings Per Share
SFAS No. 128 "Earnings Per Share," requires the presentation of basic
and diluted earnings per share. Basic net income (loss) per share is computed
by dividing income (loss) attributable to common stockholders by the weighted
average number of common shares outstanding for the period. The diluted net
income (loss) per share data is computed using the weighted average number of
common shares outstanding plus the dilutive effect of common stock
equivalents, unless the common stock equivalents are antidilutive.
Recent Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board issued SFAS
No. 133, "Accounting for Derivatives and Hedging Activities" ("SFAS No.
133"), which establishes accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded in other
contracts (collectively referred to as derivatives), and for hedging
activities. SFAS No. 133, as amended, is effective for all fiscal quarters of
fiscal years beginning after June 15, 2000 and management believes this
standard will not have a significant impact on its results of operations,
financial position or cash flows.
Segment Reporting
During 1998, the Company adopted SFAS No. 131, "Disclosures about
Segments of an Enterprise and Related Information" ("SFAS No. 131"). SFAS No.
131 requires a business enterprise, based upon a management approach, to
disclose financial and descriptive information about its operating segments.
Operating segments are components of an enterprise about which separate
financial information is available and regularly evaluated by the chief
operating decision maker(s) of an enterprise. Under this definition, the
Company operated as a single segment for all years and periods presented.
Reclassifications
Certain amounts have been reclassified to conform with the current
presentation.
<PAGE>
3. Acquisitions:
1998 Acquisitions
From March 1998 through December 1998, the Company acquired
businesses in the Internet and electronic commerce professional services
industry. Collectively, these entities are referred to as the "1998 Acquired
Businesses." The accounts of the Acquired Businesses are included in the
accompanying consolidated financial statements from the date of their
respective acquisitions. These acquisitions are described as follows:
On March 12, 1998, the Company acquired the assets of Arbor
Intelligent Systems, Inc. ("Arbor"), for an aggregate purchase price of
approximately $3.1 million, including transaction costs, of which $1.1
million was paid in the form of the Company's Series A-1 Convertible
Preferred Stock (266,796 shares valued at $4.00 per share), and $2.0 million
was paid in cash.
On April 30, 1998, the Company acquired the assets of LOGEX
International, L.L.C. ("LOGEX"), in exchange for approximately $300,000 in
cash and a five-year convertible note in the principal amount of $300,000
(Note 8.) The former shareholders of LOGEX were entitled to a contingent
consideration payment in the event that certain performance criteria were
achieved by LOGEX during the year ending April 30, 1999. Accordingly, the
Company made a $200,000 contingent payment to the former shareholders of
LOGEX during 1999, which was reflected as additional purchase price
consideration and recorded as goodwill as of December 31, 1999.
On August 25, 1998, the Company acquired all the outstanding stock of
Software Services Corporation, Inc. ("SSC") for an aggregate purchase price
of approximately $23.0 million, including transaction costs, of which $12.0
million was paid in the form of Company common stock, and $11.0 million was
paid in cash. In connection with the SSC acquisition, the Company issued
11,576 shares of its Class B Preferred Stock at a price of $1,000 per share
and 1,387,095 shares of Company common stock at a price of $0.3007 per share
to the former SSC shareholders.
On October 2, 1998, the Company acquired all the outstanding stock of
New Media Publishing, Inc. ("NMP") for an aggregate purchase price of
approximately $19.5 million, including transaction costs, of which $8.8
million was paid in cash, $9.5 million was paid in the form of Company common
stock (1,111,111 shares valued at $8.55 per share) and the remainder was paid
in options to purchase 145,518 shares of Company common stock, valued using a
fair value pricing model, at approximately $1.2 million. These options were
issued in exchange for previously outstanding options of NMP, have exercise
prices ranging from $0.06 to $8.69 and have vesting schedules ranging from
three months to 32 months. The value associated with these options has been
classified as additional paid-in capital on the accompanying consolidated
balance sheets. The acquisition of NMP provided for an additional $14.0
million in contingent payments potentially payable to the former owners of
NMP in cash and Company common stock based upon NMP meeting certain revenue
and profitability targets for the twelve-month period ended September 30,
1999 and, for their pro rata share of the payment, certain NMP executives
remain employed by the Company. During the period of measurement, NMP met
100% of the operating targets. A portion of the contingent payments was made
in January 2000. Employment contingencies still exist which must be met
before the remaining contingent consideration is payable to the former owners
of NMP (Note 15).
On October 12, 1998, the Company acquired all the outstanding stock
of Century Computing, Incorporated ("Century"). The aggregate purchase price
was approximately $29.2 million, including transaction costs, of which $2.0
million was provided in the form of a convertible note which was converted
during 1999 (Note 8), $21.6 million was paid in cash and the remainder was
paid in options to purchase 704,127 shares of Company common stock valued,
using a fair value pricing model, at approximately $5.6 million. These
options were issued in exchange for previously outstanding options of
Century, have exercise prices ranging from $0.71 to $1.00 and were fully
vested at the time of issuance. The value associated with these options has
been classified as additional paid in capital on the accompanying
consolidated balance sheets.
<PAGE>
On October 20, 1998, the Company acquired all the outstanding stock
of Research and Planning, Inc. ("R&P") for an aggregate purchase price of
approximately $22.1 million, including transaction costs, of which $15.1
million was paid in cash, $6.0 million was paid in the form of Company common
stock (701,754 shares valued at $8.55 per share), and $1.0 million was
provided in the form of notes to the previous R&P shareholders (Note 8),
which were repaid in January 2000.
On December 14, 1998, the Company acquired all the outstanding stock
of The Kodiak Group, Inc. ("Kodiak") for an aggregate purchase price of
approximately $16.4 million, including transaction costs, of which $12.1
million was paid in cash, approximately $2.3 million was paid in the form of
Company common stock (197,368 shares valued at $11.40 per share) and $2.0
million was provided in the form of notes to the previous Kodiak shareholders
of which all were converted in December 1999 (Note 8). In addition, the
former Kodiak shareholders are entitled to a potential contingent payment
payable in cash of up to $4.0 million in the event that Kodiak sells or
licenses certain technology during the three-year period ending December 14,
2001.
1999 Acquisitions
During 1999, the Company acquired an additional five businesses in
the Internet and electronic commerce professional services industries.
Collectively, these entities are referred to as the "1999 Acquired
Businesses".
On January 8, 1999, the Company acquired all the outstanding stock of
i33 communications corp. ("i33"). The aggregate purchase price was
approximately $21.6 million, plus transaction costs, consisting of $10.3
million paid in cash and $11.3 million paid in the form of convertible notes
to the previous i33 shareholders, of which $6.8 million was converted in
December 1999. The remaining $4.5 million is outstanding as of December 31,
1999, of which $3.5 million is included in long-term debt (Note 8), and the
other $1.0 million relates to a trust that eliminates upon consolidation
(Note 14).
On March 4, 1999, the Company acquired all of the issued and
outstanding stock of Sigma6, Inc. ("Sigma6"). The aggregate purchase price
was approximately $2.5 million, plus transaction costs, consisting of $1.25
million paid in cash and $1.25 million paid in shares of Company common stock
(97,465 shares valued at $12.83 per share). The acquisition of Sigma6
provided for an additional $2.8 million contingent payment payable to the
former stockholders of Sigma6 in cash and Company common stock based upon
Sigma6 meeting certain performance criteria during the twelve-month period
ended December 31, 1999. Based on Sigma6's results for the period of
measurement, 100% of the performance criteria were met and the contingent
payment will be made in April 2000 (Note 15).
On March 15, 1999, the Company acquired certain assets of Salzinger &
Company, Inc. ("Salzinger"). The aggregate purchase price was approximately
$8.5 million, plus transaction costs, consisting of $5.0 million in cash and
$3.5 million in Company common stock (245,614 shares valued at $14.25 per
share). If certain performance criteria are met during any consecutive twelve
month period during the period from April 1, 1999 to September 30, 2000,
Salzinger is entitled to a contingent payment of up to $5.0 million in cash
or, at the seller's option, cash and Company common stock (Note 15).
On March 26, 1999, the Company acquired all of the issued and
outstanding stock of Internet Outfitters, Inc. ("Internet Outfitters"). The
aggregate purchase price was approximately $9.5 million, plus transaction
costs, consisting of cash, $2.7 million in Company common stock (157,895
shares valued at $17.10 per share), and the issuance of 22,300 options to
purchase Company common stock. If certain performance criteria were met
during the twelve-month period ending December 31, 1999, the former
stockholders were entitled to a contingent payment of up to $3.5 million in
cash and Company common stock. Based on Internet Outfitters' results for the
period of performance, no contingent payment will be made.
<PAGE>
On March 29, 1999, the Company acquired certain assets of Transform
IT, Incorporated ("Transform IT"). The aggregate purchase price was
approximately $5.1 million, plus transaction costs, consisting of $3.5
million in cash and $1.6 million in Company common stock (94,737 shares
valued at $17.10 per share). If certain performance criteria are met during
the twelve-month period ending March 31, 2000, the seller is entitled to a
contingent payment of up to $3.5 million in cash (Note 15).
Allocation of Purchase Consideration
The acquisitions have been accounted for using the purchase method of
accounting and, accordingly, the recognized purchase price has been
allocated, based on estimates of fair value, to the tangible assets acquired
and liabilities assumed and, with the advice of independent valuation
experts, to the identifiable intangible assets, on the acquisition dates. The
Company has recorded identifiable intangibles on the 1999 and 1998 Acquired
Businesses, as follows (amounts in thousands):
<TABLE>
<CAPTION>
Fair Value Useful Life
-------------- ---------------
<S> <C> <C>
Customer lists $4,160 7-24 months
Non-competition agreements 2,800 36 months
Assembled workforce 7,678 12-48 months
Proprietary technology 4,325 12-24 months
</TABLE>
As of December 31, 1999 and 1998, the purchase price in excess of
identified tangible and intangible assets and liabilities assumed in the
amount of $143.4 million and $93.2 million, respectively, was allocated to
goodwill. As a result of the early stage of development of the Internet and
electronic business, the dynamics of this rapidly evolving industry and the
expectation of increasing competition, the recorded goodwill is being
amortized on a straight-line basis over three years, the estimated period of
its benefit.
The following unaudited pro forma consolidated amounts give effect to
the 1999 and 1998 acquisitions as if they had occurred on January 1, 1998 by
consolidating the results of operations of the 1999 and 1998 Acquired
Businesses with the results of AppNet for the years ended December 31, 1999
and 1998. The pro forma amounts do not purport to be indicative of the
results of operations that would have been achieved had the transactions been
in effect as of the beginning of 1999 and 1998 and should not be construed as
being representative of future results of operations.
<TABLE>
<CAPTION>
Year ended December 31,
1999 1998
-------------- -----------
(in thousands, except per
share data)
<S> <C> <C>
Revenues $112,335 $ 54,493
Net loss attributable to common stockholders $(80,432) $(50,217)
Basic and diluted net loss per share $ (3.05) $ (2.81)
</TABLE>
4. Accounts Receivable:
Accounts receivable consists of the following as of December 31 (in
thousands):
<TABLE>
<CAPTION>
1999 1998
-------------- -----------
<S> <C> <C>
Accounts receivable $24,777 $9,571
Unbilled accounts receivable 8,831 2,791
Allowance for doubtful accounts (1,947) (1,124)
------- -------
Accounts receivable, net $31,661 $11,238
======= =======
</TABLE>
<PAGE>
5. Property and Equipment:
Property and equipment consists of the following as of December 31
(in thousands):
<TABLE>
<CAPTION>
1999 1998
--------- ---------
<S> <C> <C>
Computers and equipment $ 8,860 $ 2,797
Furniture and fixtures 1,572 288
Leasehold improvements 922 211
------- -------
11,354 3,296
Accumulated depreciation (2,396) (284)
------- -------
Property and equipment, net $ 8,958 $ 3,012
======= =======
</TABLE>
6. Intangible Assets:
Intangible assets consists of the following as of December 31 (in
thousands):
<TABLE>
<CAPTION>
1999 1998
------------ -----------
<S> <C> <C>
Customer lists $ 4,160 $4,160
Non-competition agreements 2,800 2,800
Assembled workforce 7,678 4,803
Proprietary technology 4,325 4,325
Goodwill 143,409 93,159
------- --------
162,372 109,247
Accumulated amortization (65,125) (9,867)
------- --------
Intangible assets, net $97,247 $ 99,380
======== ========
</TABLE>
7. Accrued Liabilities:
Accrued liabilities consists of the following as of December 31 (in
thousands):
<TABLE>
<CAPTION>
1999 1998
----------- ------------
<S> <C> <C>
Accrued compensation and benefits $ 4,851 $2,590
Accrued dividends on Class A
Preferred Stock and
Class B Preferred Stock - 689
Payments due to former shareholders of
Acquired Businesses 1,600 1,500
Accrued acquisition-related
compensation 16,816 -
Other accrued liabilities 9,044 2,132
------- -------
Accrued liabilities $32,311 $ 6,911
======= =======
</TABLE>
<PAGE>
8. Debt:
Debt consists of the following as of December 31 (in thousands):
<TABLE>
<CAPTION>
1999 1998
---------- ---------
<S> <C> <C>
Credit facilities:
Credit facility, bears interest at the lender's prime
rate plus .5% (8.25% at December 31, 1998),
interest due monthly $ -- $ 19,730
Credit facility, bears interest at the lender's prime
rate (7.75% at December 31, 1998), interest due
monthly -- 17,731
-------- --------
-- 37,461
-------- --------
Convertible notes:
Note payable, principal and interest due October 13,
1999, bears interest at 7%, convertible at the
option of the holder for common stock at $8.55 per
share -- 2,000
Note payable, principal and interest due June 29,
2003, bears interest at 5%, convertible at 80% of
common stock price upon a sale of Company or an
initial public offering -- 406
Notes payable, principal and interest due December 14,
2001, bear interest at 8%, convertible at the
option of the holder for common stock at $11.40 per
share -- 2,000
Note payable, principal and interest due April 30,
2003, bears interest at the prime rate (7.75% at
December 31, 1998), interest payable quarterly at
July 31, October 31, January 31 and April 30,
convertible at the option of the holder at 80% of
common stock price on a sale of Company or an
initial public offering -- 300
-------- --------
-- 4,706
-------- --------
Other long-term debt:
Notes payable, principal and interest due January 8,
2002, bearing interest at 6% 3,500 --
Notes payable, principal and interest due January 1,
2000, bearing interest at 6% 1,000 1,000
Note payable to Smart Technology, L.L.C., due the
earlier of an initial public offering or June 29,
2000, bearing interest at 12% -- 150
Other notes payable 79 425
Note payable to a member of Company management, due at
earlier of an initial public offering or December
31, 1999 -- 50
-------- --------
4,579 1,625
-------- --------
Total debt 4,579 43,792
Less current portion (1,063) (2,426)
-------- --------
Long-term debt, net of current portion $ 3,516 $ 41,366
======== ========
</TABLE>
<PAGE>
The future minimum principal payments of debt outstanding at December 31,
1999, are as follows (in thousands):
<TABLE>
<S> <C>
2000........................................ $1,063
2001........................................ 16
2002........................................ 3,500
------
Total .................................... $4,579
</TABLE>
1999 Credit Facilities
On January 8, 1999, the Company replaced its two existing credit
agreements ("the 1998 Credit Facilities") with two credit agreements
(together the "1999 Credit Facilities") entered into with a syndicate of
lenders providing for up to $55.0 million in borrowings. The 1999 Credit
Facilities consist of $40.0 million in credit loans (the "Guaranteed Loans"),
which were guaranteed by a significant stockholder and up to $15.0 million of
additional credit loans (the "Unguaranteed Loans"). The Guaranteed Loans bore
interest, at the Company's option, at various LIBOR rates plus 2.5 percent or
the lenders' base rate plus 0.5 percent. The Unguaranteed Loans bear
interest, at the Company's option, at various LIBOR rates or the lenders'
base rate plus an applicable margin, as determined by the Company's operating
performance. On March 10, 1999, the Company amended the Unguaranteed Loans
increasing available borrowings from up to $15.0 million to up to $26.0
million. During June 1999, in connection with the initial public offering,
the Company terminated the Guaranteed Loans and amended the Unguaranteed
Loans decreasing available borrowings from up to $26.0 million to up to $20.0
million (the "Amended 1999 Credit Facility"). The Amended 1999 Credit
Facility matures on August 24, 2001. In conjunction with the modification of
the credit facilities during June 1999, a charge of $559,000 was recorded to
write-off financing costs related to the facilities.
The Amended 1999 Credit Facility is secured by all of our assets and
contains various restrictive covenants that, among other things, require us to
maintain specified financial ratios and restrict us from paying dividends to our
common stockholders. As of December 31, 1999, the Company had available
borrowings under the Amended 1999 Credit Facility of $20.0 million.
1998 Credit Facilities
In August 1998, the Company entered into a $15.0 million credit facility
with a commercial lender, which bore interest at the lender's base rate plus a
defined percentage or at various LIBOR rates, and was due on demand. In October
1998, the Company modified the $15.0 million facility by entering into two
credit agreements (the "1998 Credit Facilities") with two commercial lenders.
Under the 1998 Credit Facilities, each lender provided a $20.0 million line of
credit which was payable upon demand, guaranteed by a significant stockholder
and bore interest at the option of the Company at the lenders' base rate plus a
defined percentage or at various LIBOR options plus 2.5 percent. As a result of
the 1999 Credit Facilities, which replaced the 1998 Credit Facilities and
qualify for non-current classification, the amounts outstanding under the 1998
Credit Facilities as of December 31, 1998 have been classified as long-term in
the accompanying consolidated balance sheets. In connection with the debt
refinancing during 1998, the Company charged to other expense approximately
$291,000 of previously deferred financing fees.
Letter of Credit
In August 1999, the Company entered into a letter of credit agreement in
the amount of approximately $248,000 with a commercial lender. The letter of
credit expires in August 2000, at which time it automatically renews. The letter
automatically renews annually thereafter, and expires in June 2003.
<PAGE>
Convertible Notes
In conjunction with certain of the Acquired Businesses, the Company
issued convertible notes, certain of which, at the option of the holders, allow
the holders to convert the notes to Company common stock upon certain defined
events at either a stated price or a discount to the then current market price
for the Company common stock.
Certain promissory notes automatically converted at the time of the
initial public offering and certain promissory notes were converted at the
option of the promissory note holders. The notes that converted had a principal
balance of approximately $700,000 plus accrued interest and converted into
75,129 shares of the Company's common stock at a conversion price at 80% of the
$12.00 initial public offering price. The Company recognized an interest charge
of approximately $1.1 million related to the beneficial conversion features of
certain convertible notes that allowed the holders to convert at a discount from
the initial public offering price of the common stock.
During 1999, the Company converted promissory notes of approximately
$2.0 million plus accrued interest to former owners of an acquired business into
245,511 shares of the Company's common stock at a conversion price of $8.55 per
share. During December 1999, certain notes to former owners of other acquired
businesses totaling $8.8 million, convertible at the option of the holders for
common stock at $11.40 per share plus accrued interest, were converted into
810,132 shares of the Company's common stock.
9. Capital Stock:
In June 1999, the Company completed its initial public offering of
securities and issued 6,000,000 shares of common stock at $12.00 per share,
which generated proceeds, net of issuance costs, of approximately $64.1
million. In connection with the initial public offering, the Company
exchanged 45,430 shares of Class A Preferred Stock and 11,576 Class B
Preferred Stock, including accrued dividends, for 4,936,808 shares of the
Company's common stock at an exchange rate based on the initial public
offering price of $12.00 per share. Of the 4,936,808 shares of the Company's
common stock exchanged, 3,813,864 shares were issued to affiliates of GTCR
Golder Rauner, L.L.C. ("GTCR").
During November 1999, the Company completed a follow-on offering of
4,300,000 shares of common stock, of which existing shareholders sold 2,800,000
shares and the Company issued and sold 1,500,000 shares of common stock at
$50.00 per share. The follow-on offering generated proceeds to the Company, net
of issuance costs, of approximately $70.4 million.
Common Stock Splits
In June 1998, upon adoption of the Company's Second Restated
Certificate of Incorporation, a two-for-one stock split of the Company common
stock was effected. On June 15, 1999, the Company declared a 2.85-for-one
reverse stock split. All share and per-share amounts, including stock option
information, have been restated in these notes and the accompanying financial
statements to reflect the 1998 stock split and the 1999 reverse stock split.
Treasury Stock
During 1999, in connection with rights under certain employment
agreements, the Company repurchased 170,701 shares of the Company's common
stock at their original issuance cost.
GTCR Investment
In June 1998, the Company completed an investment transaction with GTCR
and certain related investment funds and Smart Technology, L.L.C. ("Smart
Technology"), a party related to the Company's President and Chief Executive
Officer (the "GTCR Investment"). Prior to the GTCR Investment, the Company
<PAGE>
had 5,343,860 shares of issued and outstanding common stock all of which were
owned by the Company's initial investors (the "Initial Investors"). Pursuant
to the GTCR Investment, the Company made a net redemption of 1,350,887 shares
of Company common stock from certain of the Initial Investors for $0.3007 per
share or $406,000 and sold an aggregate 11,559,144 shares to GTCR and Smart
Technology for $0.3007 per share or approximately $3.5 million before
deduction for expenses and fees. The Company also sold 1,251,228 shares of
Company common stock to the Company's President and Chief Executive Officer
(the "Reserved Stock") and 531,773 shares to other certain parties affiliated
with the GTCR Investment. These shares were sold for $0.3007 per share.
GTCR and Smart Technology committed to provide up to an additional $96.5
million in capital to the Company to fund acquisitions as well as other general
corporate purposes. Upon the request of the Board and the approval of GTCR and
Smart Technology, shares of Class A Preferred Stock were to be issued to GTCR
and Smart Technology in the ratio of 98 percent to 2 percent, respectively, in
exchange for $1,000 per share. No shares of Class A Preferred Stock were issued
at the time of the GTCR Investment. In connection with the issuance of Class B
Preferred Stock as part of the SSC transaction, the capital commitment from GTCR
and Smart Technology was decreased to $84.9 million.
In connection with the GTCR Investment, the Company entered into a
management services agreement with GTCR for $200,000 per year, which terminated
upon completion of the Company's initial public offering in June 1999.
Common Stock subject to Put Rights
In conjunction with its acquisition of Arbor, the Company issued 266,796
shares of Series A-1 Convertible Preferred Stock with a liquidation value of
$1.1 million. Pursuant to their terms, these shares were converted into 187,225
shares of Company common stock at the time of the GTCR Investment. As part of
the GTCR Investment, the Board of Directors authorized the repurchase of 138,455
shares of the common stock issued upon the conversion for $5.70 per share which
provided the holders a return equivalent to the liquidation value of the Series
A-1 Convertible Preferred Stock. In addition, the Board of Directors agreed to
grant the holders of the remaining 48,771 shares of Company common stock the
right to require the Company to repurchase their shares for cash at $5.70 per
share. During 1999, the Company repurchased 3,889 shares prior to the expiration
of such rights. The remaining common stock shares subject to put rights were
converted into 44,882 shares of Company common stock at $5.70 per share.
Class A Preferred Stock
Holders of the Company's Class A Preferred Stock ("Class A Preferred
Stock") are entitled to a 6 percent cumulative dividend, which is paid when
declared by the Company's Board of Directors. The Company can redeem the shares
at any time for their liquidation value of $1,000 per share plus accrued but
unpaid dividends. The shares have no voting or conversion rights. Upon the
earliest of the liquidation of the Company, a change in the control of the
Company, an initial public offering ("IPO") or other fundamental change in the
Company, as defined, a majority of the holders of the Class A Preferred Stock
can require the Company to redeem their shares for their liquidation value, plus
accrued but unpaid dividends. In the case of an IPO, the redemption is limited
to the net funds available from the IPO. GTCR held approximately 97 percent of
the outstanding Class A Preferred Stock as of December 31, 1998. In connection
with the Company's June 1999 initial public offering, all Class A Preferred
Stock shares were exchanged for shares of the Company's common stock.
The Company incurred certain fees associated with the issuance of the
Class A Preferred Stock. Through December 31, 1998, the Company paid a one
percent fee of $369,000 to GTCR based on the issuance of the Company's Class
A Preferred Stock to GTCR. The Company also incurred a commission of $262,000
to one of the Company's directors in connection with purchases of Class A
Preferred Stock. These costs were deducted from the proceeds of the Class A
Preferred Stock shown in the accompanying consolidated balance sheets. The
Class A Preferred Stock was being accreted to its liquidation value over the
period to its estimated redemption
<PAGE>
date, which occurred in 1999. The accretion of the costs associated with the
Class A Preferred Stock was $593,000 and $184,000 for the years ended December
31, 1999 and 1998, respectively and is classified as dividends on and accretion
of preferred stock in the accompanying consolidated statements of operations and
stockholders' equity.
Class B Preferred Stock
Holders of the Company's Class B Preferred Stock are entitled to a 6
percent cumulative dividend, which is paid when declared by the Company's Board
of Directors. The shares have no voting rights. The Company had the contractual
ability to redeem or convert all outstanding shares of Class B Preferred Stock
upon an initial public offering. In connection with the initial public offering,
all shares of Class B Preferred Stock were exchanged for shares of the Company's
common stock.
Stock Warrants
During 1998, the Company issued warrants to purchase 84,795 shares of
Company common stock at $0.3007 per share, of which Smart Technology holds
70,715, and are exercisable for ten years. During 1999, warrants to purchase
14,620 share of common stock were exercised. As of December 31, 1999, Smart
Technology continues to hold 70,175 warrants. The values attributable to these
warrants at the time of issuance are not significant and, therefore, have not
been separately presented in the consolidated financial statements. The Company
has also issued warrants to purchase 121 shares of Class A Preferred Stock at
$1,000 per share.
Reserved Stock
The Reserved Stock, described above under "GTCR Investment", is subject
to a Senior Management Agreement dated June 29, 1998 (the "Agreement") with the
Company's President and Chief Executive Officer. At the time of the GTCR
Investment, 1,251,228 shares of Reserved Stock were purchased at a price of
$0.3007 per share in exchange for cash equal to the par value of the stock and a
promissory note equal to the remaining balance. Pursuant to the Agreement, the
Company may, at its discretion, repurchase any or all of the Reserved Stock for
the $0.3007 per share paid by the executive in order to issue a corresponding
number of shares and options to purchase shares to certain employees. As of
December 31, 1998, the Company's President and Chief Executive Officer had
659,649 shares of Reserved Stock remaining. Additional shares were repurchased
during the first quarter of 1999 reducing the total shares outstanding to
210,119.
Upon completion of the Company's June 1999 initial public offering, the
Company's right to repurchase the Reversed Stock terminated. Consequently, the
Company recognized a compensation charge of approximately $2.5 million, recorded
as stock-based and acquisition-related compensation expense. The amount of the
compensation charge was calculated as the difference between the initial public
offering price of $12.00 per share and $0.3007, multiplied by 210,119, the
number of Reserved Shares retained by the executive.
Sales to Management
Shortly after the GTCR Investment, the Company sold 503,860 shares of
Company common stock to management for $0.3007 per share, the fair value at that
time. In November 1998, the Company sold 49,123 shares of common stock to a
member of management for $8.55 per share, the fair value at that time.
10. Retirement Plan:
During 1998, the Company maintained various 401(k) plans for its
employees. These plans had been established by the 1998 Acquired Businesses
prior to acquisition. Effective February 1, 1999, the employees of the 1998
Acquired Businesses began making contributions to the AppNet plan. During
1998, the Company's expense under these plans totaled $281,000.
<PAGE>
Effective February 1, 1999, the Company established a 401(k) retirement
plan for the benefit of all eligible employees. Participants may contribute up
to 15 percent of their annual compensation to the plan, subject to IRS
limitations. Employee contributions are fully vested. The Company will match 50
percent of each employees' contributions up to six percent of each employees'
salary. The Company may also elect to make a discretionary contribution as
determined by its Board of Directors on an annual basis. Employees will fully
vest in the Company's matching and any discretionary contributions ratably over
three years. During 1999, the Company's expense under this plan totaled $1.2
million.
11. Employee Stock Plans:
Employee Stock Option Plans
The Company had four stock option plans as of December 31, 1999, which
were the 1998 Stock Option and Incentive Plan, an incentive stock option plan
assumed in connection with the acquisition of Century (the "Century Plan"), an
incentive stock option plan assumed in connection with the acquisition of
Internet Outfitters (the "Internet Outfitters Plan") and the 1999 Stock Option
and Incentive Plan (collectively the "Plans"). The majority of the options under
the Plans expire no later than ten years from the date of the grant or when
employment ceases, whichever comes first and generally become exercisable
ratably over 4 years. The maximum number of shares of common stock, which may be
issued pursuant to the Plans, is 3,306,310 at December 31, 1999 and 913,039 at
December 31, 1998.
Options granted under the Plans are accounted for under APB Opinion
No. 25, and accordingly, the Company recognizes compensation expense for the
difference between the fair value of the underlying common stock and the
grant price of option at the date of the grant. The effect of applying SFAS
No. 123 on 1999 and 1998 pro forma net loss attributable to common
stockholders and basic and diluted net loss per share is not necessarily
representative of the effects on reported net loss attributable to common
stockholders for future years due to, among other things, (1) the vesting
period of the stock options and (2) the fair value of additional stock
options in future years. Had compensation cost for the Plans been determined
based on the estimated fair value of the options at the grant dates
consistent with the method of SFAS No. 123, pro forma net loss attributable
to common stockholders would have been approximately $92.0 million and $15.4
million or a basic and diluted net loss per share of $3.51 and $1.43 for 1999
and 1998, respectively. The weighted average fair value of the options
granted by the Company during 1999 and 1998 using a fair value option-pricing
model is estimated to be $15.29 per option and $3.85 per option, respectively
assuming the following: no dividend yield, risk-free interest rate of 5.875
percent for 1999 and 5 percent for 1998, an expected term of the options of
five years for 1999 and four years for 1998 and an expected volatility of 90
percent for 1999 and 45 percent for 1998.
The following summarizes option activity:
<TABLE>
<CAPTION>
Weighted-
Number of Average
Shares Exercise Price
----------------- -------------------
<S> <C> <C>
Balance at January 1, 1998 - $ -
Granted in 1998 500,351 7.67
Options converted from 1998
Acquired Businesses 849,641 0.91
Exercised in 1998 (425,339) 0.74
Cancelled in 1998 (11,614) 1.08
--------------- ---------------
Balance at December 31, 1998 913,039 $ 4.67
Granted in 1999 2,939,373 20.98
Exercised in 1999 (336,257) 3.22
Cancelled in 1999 (209,845) 12.53
--------------- ---------------
Balance at December 31, 1999 3,306,310 $ 18.92
=============== ===============
Options exercisable,
December 31, 1998 296,736 $ 1.37
=============== ===============
Options exercisable,
December 31, 1999 291,310 $ 8.20
=============== ===============
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
--------------------------------------------------------------- ---------------------------
Weighted-
average Weighted- Weighted-
Number remaining average Number average
Range of outstanding contractual exercise exercisable as exercise
exercise price as of 12/31/99 life (in years) price of 12/31/99 price
----------------- -------------- --------------- -------- -------------- ---------
<S> <C> <C> <C> <C> <C>
$0.01 to $ 9.95 427,041 8.7 $ 3.79 145,816 $ 2.76
$9.951 to $19.90 2,165,512 8.8 14.26 144,670 13.48
$19.901 to $29.85 184,500 9.7 27.24 - -
$29.851 to $49.75 529,257 9.7 47.25 824 43.56
---------- --- ------ -------- -------
3,306,310 9.0 $18.82 291,310 $ 8.20
========= === ====== ======== =======
</TABLE>
In March 1999, the Company issued 337,776 stock options to a member
of management. These options have an exercise price of $12.83 and vest
ratably over four years. As a result of this grant, the Company recorded
deferred compensation of $481,000. The amount of deferred compensation was
based on the difference between the estimated fair market value of the
Company common stock at the date of grant, as determined by the most recent
third party stock transaction, and the stated exercise price. The Company
amortized approximately $98,000 of the deferred compensation for the year
ended December 31, 1999.
In January 2000, the Company increased the number of shares available
under the Company's 1999 Stock Option and Incentive Plan from 2,000,000 to
3,945,000 shares.
Employee Stock Purchase Plan
On September 30, 1999, the stockholders of the Company approved the
adoption of the 1999 Employee Stock Purchase Plan ("ESPP"). The purpose of the
Plan is to enhance stockholder value and promote the attainment of significant
business objectives of the Company by allowing employees to purchase the
Company's common stock at a discount of 15%, thereby giving employees an
interest in common with that of the stockholders. The number of shares available
for purchase under the ESPP is 250,000. The purchase price of shares under the
plan is the lower of 85% of the share price on the first day of the plan quarter
or the share price on the plan quarter close. All employees are eligible to
participate except (i) those employed for less than 20 hours per week; (ii)
employees who, as a result of participation in the ESPP, would own stock or hold
options to purchase stock possessing five percent or more of the total combined
voting power or value of all classes of stock of the Company; and (iii) if such
right would permit the employee to purchase stock under the Plan and any other
stock purchase plans of the Company and its subsidiaries in effect from time to
time with a fair market value in excess of $25,000 (determined as of the first
day of each plan quarter) for each calendar year. Participants can contribute
from 1% to 10% of their annual salary. The plan became effective on October 1,
1999. On December 31, 1999, the Company issued approximately 15,000 shares under
the plan to participating employees at $22.31 per share.
12. Earnings Per Share:
Potentially dilutive securities have not been included in the diluted
earnings per share calculated, as they would have been antidilutive due to
the net loss reported by the Company. Included in the weighted average number
of common shares outstanding are certain shares contingently payable to
former shareholders of acquired businesses, which will be issued in 2000
because all necessary conditions to issue the shares have been satisfied
and no circumstances are known in which the shares will not be issued.
However, other certain shares of common stock, which are contingently payable
pursuant to the acquisition agreements, are not included in the calculation
of weighted average shares outstanding for the periods presented, as
circumstances may arise in which the shares would not be issued.
<PAGE>
Potentially dilutive securities consist of the following as of December
31:
<TABLE>
<CAPTION>
1999 1998
-------------- -------------
<S> <C> <C>
Stock options 1,041,402 539,312
Warrants 76,790 84,010
Convertible notes 895,593 413,554
</TABLE>
13. Income Taxes:
The Company follows the provisions of SFAS No. 109, "Accounting for
Income Taxes," for financial reporting purposes. Deferred tax assets or
liabilities at the end of each period are determined using the currently
enacted tax rates to apply to taxable income in the period in which the
deferred tax asset or liability is expected to be settled or realized.
The sources of and differences between the financial accounting and
tax basis of the Company's assets and liabilities, which give rise to the net
deferred tax liability are as follows as of December 31 (in thousands):
<TABLE>
<CAPTION>
1999 1998
------------ ----------
<S> <C> <C>
Deferred tax liabilities:
Intangible assets $ 744 $ 2,241
Deferred tax assets:
Allowance for doubtful accounts 760 434
Net operating loss carryforward 3,367 1,624
Cumulative amortization differences on
intangibles 2,883 994
Accrued expenses 798 506
Valuation allowance (7,064) (1,317)
------- -------
Net deferred tax liability $ -- $ --
======= =======
</TABLE>
The components of the provision (benefit) for income taxes are as
follows during the years ended December 31 (in thousands):
<TABLE>
<CAPTION>
1999 1998
---------- ----------
<S> <C> <C>
Current:
Federal $ -- $ (400)
State 348 250
----- -----
Total 348 (150)
Deferred:
Federal -- (50)
State 479 --
----- -----
Income tax provision (benefit) $ 827 $(200)
===== =====
</TABLE>
<PAGE>
The income tax provision (benefit) differed from the amounts computed at
the statutory rate as follows for the years ended December 31 (in thousands):
<TABLE>
<CAPTION>
1999 1998
--------- -----------
<S> <C> <C>
Income tax benefit computed at
federal statutory rates $(26,316) $ (4,957)
Nondeductible intangible amortization 14,090 2,402
Nondeductible portion of stock-based
and other acquisition-related
compensation, net 6,681 497
State income taxes, net of federal
income tax benefit 554 165
Changes in valuation allowance 5,747 1,317
Other, net 71 376
-------- --------
Total $ 827 $ (200)
======== ========
</TABLE>
As of December 31, 1999 and 1998, the Company had approximately $8.6
million and $4.2 million, respectively, of net operating loss carryforwards
which begin to expire in 2018. The Company has recorded a valuation allowance
for deferred tax assets as of December 31, 1999 and 1998, of $7.1 million and
$1.3 million, respectively. In assessing the realizability of deferred tax
assets, management considers whether it is more likely than not that some
portion or all of the deferred tax assets will not be realized. The ultimate
realization of deferred tax assets is dependent upon the generation of future
taxable income during the periods in which those temporary differences become
deductible. Management considers the scheduled reversal of deferred tax
liabilities, projected future taxable income, and tax planning strategies in
making this assessment.
As of December 31, 1998, approximately $800,000 of state income tax
receivables is included in other current assets on the accompanying
consolidated balance sheets.
14. Related Parties:
At December 31, 1999 and 1998, the Company was owed $503,000 and
$821,000 from members of management, respectively. These amounts are recorded
as notes receivable from management in the accompanying consolidated balance
sheets and stockholders' equity. These borrowings are due at varying dates
through November 2008.
At December 31, 1998, the Company had outstanding borrowings of
$150,000 from Smart Technology, $50,000 from a member of management, and
$406,000 from one of the Company's Initial Investors. The convertible notes
of $4.3 million and the notes payable for $1.0 million as of December 31,
1998, as well as the notes payable for $4.5 million as of December 31, 1999
are due to former shareholders of the Acquired Businesses, the majority of
whom are employees of the Company as of December 31, 1999. During January
1999, the Company issued a note of $1.0 million to a trust established for
employees of one of the 1999 Acquired Businesses. Since the trust is
available to the Company's creditors, the trust's assets are included in the
accompanying consolidated financial statements. As such, the trust's note
receivable and the Company's convertible note payable held by the trust have
been eliminated in consolidation.
In December 1997, the Company entered into an agreement which was
consummated in 1998 to purchase a 50 percent ownership interest in AppNet
Commerce Services, Inc. ("ACS"). In 1998, the Company determined that its
investment in ACS was impaired and recorded a charge of approximately
$300,000, which is included in the accompanying consolidated statements of
operations as other expense. As of December 31, 1999 and 1998, the investment
in ACS has a value of zero.
During 1998, the Company was party to a professional services
agreement with one of its directors. The agreement provided for the payment
of $17,000 per month. The Company incurred approximately $200,000 related to
this agreement in 1998. In addition, the Director received a fee of $350,000
in association with the
<PAGE>
GTCR Investment in 1998. The professional services agreement also provides
for a one percent commission on certain issuances of Class A Preferred Stock.
The Company also paid approximately $336,000 related to certain fees and a
professional services agreement with one of its initial investors during 1998.
15. Commitments and Contingencies:
Leases
As of December 31, 1999, the Company has noncancellable operating
leases, primarily for real estate, that expire over the next 7 years. Rental
expense during 1999 and 1998 was $2.7 million and $512,000, respectively.
Future minimum lease payments under noncancellable operating leases are
as follows as of December 31, 1999 (in thousands):
<TABLE>
<S> <C>
2000.................................................. $ 3,608
2001.................................................. 3,007
2002.................................................. 2,191
2003.................................................. 1,531
2004.................................................. 1,074
Thereafter............................................ 2,649
--------
Total minimum lease payments.......................... $14,060
=======
</TABLE>
Litigation and Claims
The Company is subject to lawsuits, investigations and claims arising
out of the ordinary course of business, including those related to commercial
transactions, contracts, government regulation and employment matters.
Certain claims, suits and complaints have been filed or are pending against
the Company. In the opinion of management, based on all known facts, all
matters are without merit, and except as related to the claims mentioned
below, are of such kind, or involve such amounts, as would not have a
material effect on the financial position or results of operations of the
Company if disposed of unfavorably.
In connection with the acquisition of Internet Outfitters,
approximately $1.45 million of the purchase price in the form of shares of
Company common stock, based upon the fair value of $17.10 per share at the
date of acquisition, was pledged to the Company and escrowed to be available
to satisfy any potential liability in connection with a license dispute. The
Company also held back $750,000 of the cash purchase price to be used to
satisfy this and any other indemnification claims. Subsequent to December 31,
1999, the license dispute was settled with no financial consequences to the
Company. The shares of Company common stock pledged and escrowed and the cash
purchase price held back in connection with the license dispute are no longer
escrowed and will be released in March 2000.
In November 1999, a former employee filed suit against the Company
and its Chief Executive Officer in state court in Michigan. The case has been
removed to the United States District Court for the Eastern District of
Michigan. The plaintiff alleges a breach of contract and fraud in connection
with the former employee's employment agreement with the Company, and
improper interference with the former employee's efforts to sell shares of
the Company's common stock. The former employee is seeking monetary damages
in connection with these claims. On March 21, 2000, the court dismissed some
of the former employee's claims and tentatively dismissed the fraud claims
while allowing the former employee to replead. The court indicated that the
former employee will be permitted to pursue the claim for interference with
the effort to sell shares of the Company's common stock. The Company intends
to contest the claims vigorously. At this time, the Company is not able to
reasonably estimate the amount of loss, if any, that will be incurred as a
consequence of this lawsuit.
<PAGE>
In February 2000, a former customer of the Company filed suit against
the Company, one of its subsidiaries and a former and current employee of the
Company in the Supreme Court of the State of New York, County of New York.
The plaintiff in the suit alleges breach of contract and misrepresentation
related to services performed by the Company. The former customer is seeking
direct damages, plus punitive damages, costs and fees. The Company intends to
vigorously contest these claims and has filed counterclaims against the
defendants alleging monies due for services performed. The Company is not
able to reasonably estimate the amount of loss, if any, that will be incurred
as a consequence of this lawsuit.
Contingent Payments
The Company's acquisition of NMP provided for additional contingent
payments of up to $14.0 million as of December 31, 1998, of which $8.4
million is payable in cash and $5.6 million or 654,971 shares of common stock
is payable in stock based on $8.55 per share, the agreed to price for the
Company's common stock at the time of the acquisition. The fair value of the
stock portion totaled approximately $28.7 million as of December 31, 1999.
The contingent payments are payable to the former owners of NMP if NMP
reached certain revenue and earnings before interest, taxes, depreciation,
and amortization targets for the period from October 1, 1998 to September 30,
1999. The amount of this contingent payment varies based on a sliding scale
of revenues and earnings before interest, taxes, depreciation and
amortization. A portion of the contingent payment will be paid only if the
targets are reached and certain former owners remain employed by the Company.
During 1999, the Company and NMP agreed to provide a portion of the
contingent payment to certain employees of NMP contingent on their employment
at time of payment.
Pursuant to the consensus reached in Emerging Issues Task Force Issue
95-08, "Accounting for Contingent Consideration Paid to the Shareholders of
an Acquired Company in a Purchase Business Combination," ("EITF 95-08") an
estimate of the amount expected to be paid to those who remain employed will
be reflected as stock-based and other acquisition-related compensation
expense ratably over the period which these employees must remain employed.
Revisions to this estimate will be reflected on a prospective basis each
reporting period until paid. The accompanying consolidated statements of
operations reflect a charge of $10.9 million and $1.2 million for the years
ended December 31, 1999 and 1998, respectively, of stock-based and other
acquisition related compensation for this contingent payment.
Based on the results of NMP's operating performance during the period
of measurement and the resolution of certain employment contingencies, a
portion of the contingent consideration was paid in January 2000. Of this
portion, $5.1 million in cash was paid to the former shareholders and
employees, a note payable of approximately $800,000, which accrues interest
at 9% and is due January 2001 was issued for the remaining cash portion
payable to a former shareholder, 334,762 shares of the Company's common stock
were issued to the former shareholders, and options to purchase 88,523 shares
of the Company's common stock at $11.70 per share were issued to certain
employees. Approximately $9.6 million of the contingent consideration was
reflected as additional purchase consideration and is recorded as goodwill as
of December 31, 1999. The goodwill will be amortized over its remaining
amortization period of two years. Approximately $10.5 million related to the
stock portion of the contingent consideration paid in January 2000 was
recorded as additional paid-in capital as of December 31, 1999. Approximately
$10.2 million is recorded in accrued liabilities for the cash and stock
portion of the contingent payments as of December 31, 1999. The remaining
portion payable in cash and stock will be paid in January 2001 if certain NMP
employees remain employed by the Company through September 2000. The Company
expects to incur approximately $5.0 million in additional stock-based
compensation expense during 2000 for the amount that remains to be paid to
the former shareholders due to the employment contingencies that exist
through September 2000.
The Company's acquisitions of Sigma6, Salzinger and Transform IT
provided for contingent payments of up to $14.8 million in the form of cash
and Company common stock to be made to the former owners of these companies
if these entities reach certain revenue and earnings targets for periods
ranging from 9 to 18 months from the date of their acquisition. The amount of
these contingent payments varies based on a sliding scale of revenues and
earnings, as defined in the acquisition agreements. Based on Sigma6's results
for the period of measurement, 100% of the performance criteria were met and
the contingent payment will be made in 2000. The contingent payment, $1.4
million in cash and $1.4 million in Company common stock will be made in
April 2000. The number of shares to be issued will be based on the closing
price of the Company's common stock on the day
<PAGE>
before payment is made. Further, certain employees of the acquired business
must remain employed by AppNet through March 2000 in order to receive their
contingent payment.
If the goals are reached for Salzinger, the amount will be paid only
if the targets are reached and certain Salzinger employees remain employed by
the Company. Further, certain Sigma6 employees must remain employed by the
Company through March 2000 in order to receive their contingent payment.
Accordingly, pursuant to EITF 95-08, an estimate of the amount to be paid to
these employees is reflected as stock-based and other acquisition-related
compensation expense ratably over the period, which the employees must remain
employed to receive the contingent consideration. Revisions to this estimate
are reflected on a prospective basis each reporting period until paid. A
charge of approximately $5.2 million is included for the year ended December
31, 1999 as stock-based and other acquisition-related compensation for these
contingent payments in the accompanying consolidated statements of operations.
If the goals are reached for Transform IT, approximately 33 percent
of the contingent payment will be reflected as additional purchase price
consideration if and when paid. The remaining contingent amount will be paid
only if the targets are reached and certain Transform IT employees remain
employed by the Company. Accordingly, pursuant to EITF 95-08, an estimate of
the amount to be paid to these employees will be reflected as stock-based and
other acquisition-related compensation expense ratably over the period which
the employees must remain employed to receive the contingent consideration.
Revisions to this estimate will be reflected on a prospective basis each
reporting period until paid. The Company has not recorded a charge during
1999, as it is not expected that Transform IT will meet the certain operating
targets.
16. Quarterly Information (unaudited):
The table below sets forth certain unaudited quarterly results of
operations of AppNet for 1999 and 1998. In the opinion of management, this
information has been prepared on the same basis as the audited Consolidated
Financial Statements and all necessary adjustments, consisting only of normal
recurring adjustments, have been included in the amounts stated below to
present fairly, in accordance with generally accepted accounting principles,
the quarterly information when read in conjunction with the audited
Consolidated Financial Statements and Notes thereto included elsewhere in
this Annual Report on Form 10-K. The quarterly operating results are not
necessarily indicative of future results of operations.
<TABLE>
<CAPTION>
Quarter Ended
-----------------------------------------------------------------------------------------
1998 1999
----------------------------------------- -------------------------------------------
March 31 June 30 Sept 30 Dec 31 March 31 June 30 Sept 30 Dec 31
-------- ------- ------- ------ -------- ------- ------- ------
(in thousands, except per share data)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Revenues $ 197 $ 823 $ 2,488 $ 14,166 $ 19,643 $ 25,063 $ 30,096 $ 34,905
Gross Profit 52 (63) 267 5,719 8,186 10,843 13,568 15,506
Net Loss (279) (1,213) (3,094) (9,793) (16,342) (22,363) (21,298) (17,397)
Net Loss
attributable
to common
stockholders (279) (1,213) (3,204) (10,556) (17,381) (23,463) (21,298) (17,397)
Basic and
diluted net
loss per
common share $ (0.23) $ (0.22) $ (0.19) $ (0.66) $ (0.88) $ (1.09) $ (0.68) $ (0.54)
</TABLE>
