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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
________________
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended June 30, 2000
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission file number 000-26275
drkoop.com, Inc.
(Exact name of registrant as specified in its charter)
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<S> <C>
Delaware 95-4697615
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
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7000 North Mopac, Suite 400
Austin, Texas 78731
(Address of principal executive offices)
________________
(512) 583-5667
(Registrant's telephone number, including area code)
________________
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Sections 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
(1) Yes X No
-------- --------
(2) Yes X No
-------- --------
As of July 31, 2000 there were 34,912,016 shares of the Registrant's
common stock outstanding.
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drkoop.com, Inc.
FORM 10-Q
For the Quarter Ended June 30, 2000
INDEX
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PAGE
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PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Balance Sheets at June 30, 2000 (Unaudited) and December 31, 1999............... 3
Condensed Statements of Operations for the three and six months ended
June 30, 2000 and 1999 (Unaudited)...................................................... 4
Condensed Statements of Cash Flows for the six months ended
June 30, 2000 and 1999 (Unaudited)...................................................... 5
Notes to Condensed Financial Statements (Unaudited)....................................... 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations............................................................... 10
Item 3. Quantitative and Qualitative Disclosures about Market Risk....................... 26
PART II. OTHER INFORMATION
Item 1. Legal Proceedings................................................................ 26
Item 2. Changes in Securities and Use of Proceeds........................................ 26
Item 3. Defaults Upon Senior Securities.................................................. 26
Item 4. Submission of Matters to a Vote of Security Holders.............................. 26
Item 5. Other Information................................................................ 27
Item 6. Exhibits and Reports on Form 8-K................................................. 27
SIGNATURES................................................................................ 27
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<PAGE>
Item 1: Financial Information
drkoop.com, Inc.
Condensed Balance Sheets
(in thousands, except share amounts)
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<CAPTION>
June 30, December 31,
2000 1999
------------ ------------
<S> <C> <C>
Assets (unaudited)
Current assets
Cash and cash equivalents $ 1,951 $ 35,706
Trade accounts receivable, net 2,975 6,532
Other receivable 0 4,000
Prepaids and other 29,957 22,862
------------ ------------
Total current assets 34,883 69,100
------------ ------------
Property and equipment, net 11,583 10,435
Investment in HealthMagic 0 5,000
Intangible assets, net 0 2,778
Other assets 836 12,407
------------ ------------
Total assets $ 47,302 $ 99,720
============ ============
Liabilities and Stockholders' Equity
Current liabilities:
Trade accounts payable $ 5,614 $ 8,197
Accrued liabilities 6,334 8,711
Leases payable 1,168 473
Related party payables 49 2
Deferred credit 2,000 2,000
Deferred revenue 2,106 3,415
Notes payable, net of discount 291 0
------------ ------------
Total current liabilities 17,562 22,798
------------ ------------
Leases payable, less current portion 1,291 605
Deferred credit 4,000 5,000
------------ ------------
Total liabilities 22,853 28,403
------------ ------------
Stockholders' equity:
Common stock, par value $.001; 100,000,000 shares
authorized; 34,845,814 and 30,508,324 shares
issued and outstanding at June 30, 2000
and December 31, 1999 35 30
Additional paid-in capital 167,578 149,447
Deferred stock compensation (2,133) (2,447)
Accumulated deficit (141,031) (75,713)
------------ ------------
Total stockholders' equity 24,449 71,317
------------ ------------
Total liabilities and stockholders' equity $ 47,302 $ 99,720
============ ============
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The accompanying notes are an integral part of the financial statements.
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drkoop.com, Inc.
Condensed Statements of Operations
(in thousands, except per share data)
(Unaudited)
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<CAPTION>
Three Months Ended June 30, Six Months Ended June 30,
----------------------------- ---------------------------
2000 1999 2000 1999
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Revenue:
Content subscription and software license $ 854 $ 238 $ 1,683 $ 454
Advertising and sponsorship 1,657 781 5,566 962
E-commerce and other 12 -- 17 7
---------- ---------- ---------- ----------
2,523 1,019 7,266 1,423
---------- ---------- ---------- ----------
Operating expenses:
Production, content and product development 5,361 2,110 11,147 3,145
Sales and marketing 24,916 8,010 44,281 10,058
General and administrative 4,828 1,740 8,830 2,844
Amortization of deferred stock compensation 553 592 1,205 1,074
Write off of investment and intangible assets 7,444 -- 7,444 --
---------- ---------- ---------- ----------
Total operating expenses 43,102 12,452 72,907 17,121
---------- ---------- ---------- ----------
Loss from operations (40,579) (11,433) (65,641) (15,698)
Interest income 18 67 323 36
---------- ---------- ---------- ----------
Net loss (40,561) (11,366) (65,318) (15,662)
Accretion of redeemable securities to fair value -- (6,319) -- (17,255)
Dividend to preferred stockholders -- -- -- (9,147)
---------- ---------- ---------- ----------
Net loss attributable to common stockholders $ (40,561) $ (17,685) $ (65,318) $ (42,064)
========== ========== ========== ==========
Basic net loss per share attributable
common stockholders $ (1.18) $ (1.28) $ (2.01) $ (1.40)
========== ========== ========== ==========
Weighted average shares used in computing basic
net loss per share attributable to common
stockholders 34,312 13,810 32,555 11,207
========== ========== ========== ==========
</TABLE>
The accompanying notes are an integral part of the financial statements.
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drkoop.com, Inc.
Condensed Statements of Cash Flows
(in thousands)
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<CAPTION>
Six Months Ended
June 30,
---------------------------
2000 1999
---------- ----------
(unaudited)
<S> <C> <C>
Operating Activities:
Net loss $ (65,318) $ (15,662)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation and amortization 13,658 654
Amortization of deferred stock compensation 1,205 1,074
Provision for doubtful accounts 514 --
Interest accretion on convertible notes payable -- 95
Write off of investment and intangible asset 7,444 --
Changes in assets and liabilities:
Accounts receivable 3,043 (924)
Other receivable 4,000 --
Prepaids and other assets 8,964 (3,590)
Accounts payable (2,584) 3,906
Accrued liabilities (2,766) 3,090
Related party payables 47 (895)
Deferred revenue (1,308) 700
Deferred credit (1,000) --
---------- ----------
Cash used in operating activities (34,101) (11,552)
---------- ----------
Investing Activities:
Purchase of furniture, fixtures and equipment (1,798) (450)
---------- ----------
Cash used in investing activities (1,798) (450)
---------- ----------
Financing Activities:
Proceeds from issuance of preferred stock, net -- 3,500
Proceeds from issuance of convertible notes payable -- 5,775
Proceeds from exercise of stock options 239 248
Proceeds from issuance of common stock, net 405 88,432
Proceeds from bridge loan 1,500 --
---------- ----------
Cash provided by financing activities 2,144 97,955
---------- ----------
(Decrease) / increase in cash and cash equivalents (33,755) 85,953
Cash and cash equivalents at beginning of period 35,706 --
---------- ----------
Cash and cash equivalents at end of period $ 1,951 $ 85,953
========== ==========
</TABLE>
The accompanying notes are an integral part of the financial statements.
<PAGE>
drkoop.com, Inc.
NOTES TO CONDENSED FINANCIAL STATEMENTS
June 30, 2000
NOTE 1 - ORGANIZATION
drkoop.com, Inc. (the "Company"), a Delaware corporation, operates an Internet-
based consumer healthcare network, consisting of an interactive Web site
providing consumers with healthcare information and services, as well as
affiliate relationships with portals, other Web sites, local healthcare
organizations and traditional media outlets. The Company also develops internet
enable software tools for use on its Web Site and licensing to third parties.
Effective June 11, 1999 the Company completed an initial public offering of
10,781,250 shares, including the underwriter's over allotment, at $9 per share.
Offering proceeds, net of aggregate expenses to the Company (including
underwriters' discount) totaled approximately $88.5 million. Upon closing of the
initial public offering, each outstanding share of the Company's convertible
Series A and C preferred stock and mandatorily redeemable convertible (Series B)
preferred stock were automatically converted into shares of common stock. The
conversion resulted in the issuance of 8,594,835 shares of common stock,
including the issuance of 1,345,185 shares of common stock to satisfy in full a
purchase option and related anti-dilution adjustment rights. An additional
916,908 shares of common stock were issued upon conversion of certain
convertible notes payable.
NOTE 2 - BASIS OF PRESENTATION
The condensed financial statements included herein are unaudited and reflect all
adjustments which in the opinion of management are necessary to fairly state
the Company's financial position, results of operations and cash flows for the
periods presented. These financial statements should be read in conjunction with
the Company's financial statements and notes thereto for the year ended December
31, 1999, which are contained in the Company's Annual Report on Form 10-K filed
with the Securities and Exchange Commission. The results of operations for the
three and six month periods ended June 30, 2000 are not necessarily indicative
of results that may be expected for any other interim period or for the full
fiscal year.
NOTE 3 - NET LOSS PER SHARE
Diluted net loss per share has not been presented as the effect of the assumed
exercise of stock options and warrants for common stock shares is antidilutive
due to the Company's net loss.
The following pro forma calculation of net loss per share for the three and six
months ended June 30, 2000 and 1999, assumes the conversion of all outstanding
convertible notes payable, preferred stock and mandatorily redeemable
convertible preferred stock into common stock upon the Company's initial public
offering using the if-converted method from their respective dates of issuance.
This presentation is deemed necessary as the Company's historical capital
structure is not indicative of the capital structure at June 30, 2000 due to the
automatic conversion of all shares of convertible notes payable, preferred stock
and mandatorily redeemable convertible preferred stock into common stock
concurrent with the closing of the Company's June 1999 initial public offering.
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<CAPTION>
Three months ended June 30, Six months ended June 30,
--------------------------- -------------------------
(in thousands, except per share data) 2000 1999 2000 1999
<S> <C> <C> <C> <C>
Net Loss $ (40,561) $ (11,366) $ (65,318) $ (15,662)
========= ========= ========= =========
Basic and diluted:
Shares used in computing basic and
diluted net loss 34,312 13,810 32,555 11,207
========= ========= ========= =========
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<S> <C> <C> <C> <C>
Basic and diluted net loss per share $ (1.18) $ (0.82) $ (2.01) $ (1.40)
======= ======= ======= =======
Pro forma:
Shares used above 34,312 13,810 32,555 11,207
Pro forma adjustment to reflect weighted
effect of assumed conversion of convertible
notes payable and preferred stock 0 7,669 0 7,806
------- ------- ------- -------
Shares used in computing pro forma basic and
diluted net loss per share 34,312 21,479 32,555 19,013
======= ======= ======= =======
Pro forma basic and diluted net loss per share $ (1.18) $ (0.53) $ (2.01) $ (0.82)
======= ======= ======= =======
</TABLE>
NOTE 4 - PREPAIDS AND OTHER ASSETS
Prepaids and other assets are comprised of the following (in thousands):
<TABLE>
<CAPTION>
June 30, December 31,
2000 1999
------------------------
<S> <C> <C>
Prepaid portal expense $ 5,717 $16,088
Prepaid warrant expense 17,801 5,578
Prepaid content expense 386 436
Loan commitment fees 3,900 0
Employee receivables 6 230
Other prepaids 2,147 530
------------------------
Total $29,957 $22,862
========================
</TABLE>
NOTE 5 - OTHER ASSETS
Other assets are comprised of the following (in thousands):
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<CAPTION>
June 30, December 31,
2000 1999
------------------------
<S> <C> <C>
Prepaid warrant expense, non-current $ 139 $11,773
Deposits 447 384
Pledged certificate of deposit 250 250
------------------------
Total $ 836 $12,407
========================
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NOTE 6 - NOTES PAYABLE AND LINE OF CREDIT
In June 2000, the Company borrowed $1.5 million from Com Vest Venture Partners,
L.P. and Commonwealth Associates, L.P. (collectively, "Commonwealth").
Substantially all of the Company's assets are pledged against the notes, which
accrue interest at a rate of 8%. In conjunction with these notes, the Company
issued to Commonwealth warrants to purchase 4.0 million shares of the Company's
common stock at $0.75 per share, subject to adjustment for certain events,
including price-based anti-dilution adjustments related to future financings and
trading prices. The Company recorded a discount of $1.2 million on the notes
associated with the issuance of these warrants, which will be amortized to
interest expense over a maximum period of six months. The notes payable in the
financial statements are shown net of the unamortized discount. The principal
and accrued interest on the notes is due in full at the earlier of the Company
raising at least $7.5 million in either additional equity or debt financing, a
merger by the Company with another entity, or maturity of the notes, December
18, 2000.
On June 30, 2000 the Company entered into a line of credit agreement with
Commonwealth for up to $3.0 million. In consideration of the agreement, the
Company issued to Commonwealth warrants to purchase 2.5 million shares of the
Company's common stock at $0.75 per share, subject to adjustment for certain
events, including price-based anti-dilution adjustments related to future
financings and trading prices. Interest on the line of credit accrues at 8% and
any borrowings plus accrued interest are due at maturity, December 18, 2000.
Under the terms of the credit agreement, the line may be drawn down in
$1,000,000 increments. For each $1,000,000 borrowed, the Company is required to
issue to Commonwealth seven-year warrants to purchase 1,000,000 shares of the
Company's common stock at an exercise price of $0.75 per share, subject to
adjustment for certain events, including price-based anti-dilution adjustments
related to future financings and trading prices.
<PAGE>
The 6.5 million $0.75 per share warrants are recorded at a fair value of $1.84
per share which was calculated at the time of issuance using the Black-Scholes
option-pricing model with the following weighted average assumptions: zero
dividend yield; 75% volatility; risk-free rate of 5.0% and a legal life of seven
years.
NOTE 7 - COMMITMENTS & CONTINGENCIES
Portal Agreements
GO.com (Infoseek and Buena Vista Internet Group)
On April 9, 1999, the Company entered into agreements with Infoseek Corporation
and the Buena Vista Internet Group, each a unit of The Walt Disney Company
(collectively, "GO.com" or the "GO network"), under which the Company became the
exclusive provider of health and related content on three Web sites of the Go
Network: GO.com Health Center, ESPN.com Training Room and the Family.com Health
Channel. Under the GO.com agreement, the Company also became the premier health
content provider for ABCnews.com. Under these agreements, users on the Go
Network were to be able to access various health information, services,
interactive tools and commerce opportunities through a co-branded Web site
served by the Company.
The term of both agreements was originally three years with the ability to
terminate the relationship after two years. The Company was scheduled to pay
Infoseek and the Buena Vista Internet Group $57.9 million in total cash
consideration and warrants to purchase 775,000 shares of common stock at an
exercise price of $8.60 per share over the full three year term.
Effective April 15, 2000, Infoseek Corporation, the Buena Vista Internet Group
and the Company entered into an amendment to the original agreements. In
exchange for additional cash payments of $5.3 million, an additional 820,000
warrants to purchase common stock at an exercise price of $1.25, and
acceleration of the vesting of the initial warrants, the original agreements
will terminate effective July 15, 2000 without further obligation for either
party. The number of $8.60 per share warrants are subject to anti-dilution
adjustment for specified future financings. The newly-issued $1.25 warrants are
to be exercisable on or after July 15, 2000 and are recorded at a fair value of
$1.91 per share which was calculated at the time of issuance using the Black-
Scholes option-pricing model with the following weighted average assumptions:
zero dividend yield; 100% volatility; risk-free interest rate of 5.0% and a
legal life of 3 years.
The Company recognized total sales and marketing expense related to agreements
with GO.com of $7.2 million for the year ended December 31, 1999 and $8.0
million and $10.6 million for the three and six months ended June 30, 2000.
America Online
Effective July 1, 1999, the Company and America Online, Inc. ("AOL") signed a
four-year Interactive Services Agreement ("ISA") pursuant to which the Company
was designated as AOL's premier provider of healthcare content. The ISA
obligated the Company to make carriage payments aggregating $89.0 million in
cash over a four-year period. Concurrently, the Company and AOL entered into a
four-year Development and Services Agreement ("DSA") pursuant to which the
Company is to provide specified software development services to AOL for the
term of the agreement and AOL is to pay the Company $8.0 million. In addition,
the Company provided AOL 1,570,932 immediately vested warrants (the "time
warrants") to purchase drkoop.com, Inc. common stock at an exercise price of
$15.94 per share and the right to earn up to an additional 4,320,063 warrants
based on performance (the "performance warrants"). In June 1999, the Company
made a total cash payment of $24.3 million under the ISA. In September 1999 and
February 2000, the Company received two equal installments representing payment
in full for the $8.0 million under DSA.
Effective April 12, 2000 the Company and AOL entered into a First Amendment to
the Interactive Services Agreement ("First Amendment"). In exchange for 3.5
million shares of drkoop.com, Inc. common stock, the Company was relieved of any
further cash payment obligations to AOL under the ISA; all existing warrant
agreements, vested and unvested, were canceled; and the Company will receive
reduced carriage for a twelve-month period subject to compliance with the
modified terms of the ISA.
The Company recognized total sales and marketing expense related to agreements
with AOL, net of fees earned under the DSA, of $12.1 million for the year ended
December 31, 1999 and $7.0
<PAGE>
million and $13.1 million for the three and six months ended June 30, 2000.
Severance Agreements
In May and June, 2000, the Company's Executive Vice President, Marketing,
Executive Vice President and General Manager, Healthcare Division, and its
Senior Vice President, Chief Internet Strategist resigned. In July 2000 the
Company's Chief Operating Officer and Chief Financial Officer resigned. As a
condition to the severance of these employment relationships, the Company
entered into agreements and complete releases with each of the individuals.
Under the agreements, the Company agreed to accelerate the vesting of the
individuals' stock options and to pay the individuals an aggregate gross sum
totaling $728,500, which will be paid out in twelve equal monthly installments
to the individuals.
Legal Matters
Effective April 18, 2000 the Company and HealthMagic, Inc. ("HMI") entered into
a Settlement Agreement and Mutual General Releases ("Settlement"). Under the
terms of the Settlement, the business relationship between the Company and HMI
was terminated; HMI transferred back to the Company the previously acquired
intellectual property; the Company rescinded and returned its 10% ownership of
HMI; and the Company agreed that it will not launch a Personal Medical Record
(as defined in its agreements with HMI) for a period of nine months after the
date of the Settlement subject to a change in control exception. No cash payment
was made and no drkoop.com, Inc. securities were issued in connection with the
termination of the relationship. The Company's investment in HMI of $5.0 million
and unamortized intangible assets of $2.4 million were written off in the second
quarter of 2000. Also in connection with the termination of the HMI
relationship, Mardian Blair resigned from the Company's board of directors and
Dr. C. Everett Koop resigned from the board of HMI.
On April 12, 1999, a civil complaint was filed against the Company in the
District Court of Travis County, Texas, 126 Judicial District, Case No. 99-
04294. In the lawsuit, plaintiff attempted to allege causes of action including
fraud, promissory estoppel, negligence, misrepresentation, breach of contract,
conversion, stock fraud, defamation and misrepresentation. The suit was settled
in February 2000.
See Note 9 for additional legal matters subsequent to June 30, 2000.
The Company is also involved in other claims and disputes not described in the
notes that are incidental to the regular conduct of our business and are not
presently believed to be material.
NOTE 8 - SUPPLEMENTAL CASH FLOWS INFORMATION
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<CAPTION>
Six Months Ended
June 30,
----------------------------------
2000 1999
----------------------------------
(in thousands)
<S> <C> <C>
Supplemental Disclosure of Cash and Noncash Investing and
Financing Activities:
--------------------------------------------------------------------------------------------------------------------
Cash paid for interest $ 168 $ 40
--------------------------------------------------------------------------------------------------------------------
Deferred stock compensation related to options granted $ 891 $ 3,507
--------------------------------------------------------------------------------------------------------------------
Accretion of redeemable securities to fair value $ - $17,255
--------------------------------------------------------------------------------------------------------------------
Amortization of deferred stock compensation $ 1,205 $ 1,074
--------------------------------------------------------------------------------------------------------------------
Issuance of preferred stock for investment in affiliate $ - $ 5,000
--------------------------------------------------------------------------------------------------------------------
Issuance of preferred stock for intangible asset $ - $ 4,000
--------------------------------------------------------------------------------------------------------------------
Obligation to issue common stock pursuant to option
cancellation agreement $ - $ 9,147
--------------------------------------------------------------------------------------------------------------------
Conversion of convertible notes payable to common stock $ - $ 5,990
--------------------------------------------------------------------------------------------------------------------
Conversion of Series B preferred stock to common stock at IPO $ - $35,660
--------------------------------------------------------------------------------------------------------------------
Acquisition of assets under capital lease $ 1,919 $ --
--------------------------------------------------------------------------------------------------------------------
Issuance of Warrants $ 6,828 $ 2,240
</TABLE>
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Issuance of common stock $ 9,625 $ --
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Issuance of common stock for services $ 148 $ --
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</TABLE>
NOTE 9 - SUBSEQUENT EVENTS
Several law firms have disseminated press releases announcing that one or more
of these law firms is filing or has filed a class action lawsuit against the
Company. The first such lawsuit was filed on or about July 14, 2000 in the
United States District Court for the Western District of Texas on behalf of
purchasers of the securities of drkoop.com, Inc. alleging violations of the
federal securities laws in a case captioned as William Gambino, on behalf of
himself and other [sic] similarly situated, vs. drkoop.com, Inc., Donald
Hackett, C. Everett Koop, Nancy Snyderman, John F. Zaccaro and Neal K. Longwill.
The Company is aware that six additional lawsuits (most of which are
substantially identical to each other) have also been filed. To date the Company
has not been served with process or received formal requests to waive process in
most of these actions. Other lawsuits may have been filed that the Company is
not aware of. Each suit that the Company is aware of alleges violations of the
federal securities laws and lists as defendants drkoop.com, Inc. and certain
present and prior directors and officers of the Company. The time for the
Company to respond to the complaints in each of these actions has not yet
expired. It is common for multiple similar lawsuits such as those described
above to be consolidated into a single case. The Company believes that the
claims asserted in the lawsuits which it is aware of are without merit and
intend to defend these litigations vigorously. The Company's counsel has also
received a letter from a representative of a regional office of the SEC stating
that the SEC is investigating the circumstances surrounding the allegations in
the litigations described above, and asking that the Company voluntarily provide
information regarding such events and circumstances. This letter states that the
SEC's request for information should not be construed as an indication by the
SEC that any violation of the federal securities laws has occurred. In addition,
the Company has also received a letter demanding that drkoop.com, Inc. assert
various claims that the letter asserts that it possesses for alleged breaches of
fiduciary duty and other matters against certain present and prior directors and
officers in a stockholders derivative action. The alleged claims identified in
this letter will be reviewed by the board of directors as required under
applicable law. The Company's counsel has also received a letter from an
attorney representing one of the purchasers of a convertible promissory note
issued by the Company, which asserts a claim for $208,000 based on the
allegation that the purchaser was misinformed as to the length of the holding
period upon conversion of this note into common stock of the Company.
The Company cannot predict the outcome of the litigation described above or the
extent to which the costs of defense and any settlement or award will be covered
by its insurance policies.
NOTE 10 - RECENT ACCOUNTING PRONOUNCEMENTS
In December 1999, the SEC issued Staff Accounting Bulletin ("SAB") 101, "Revenue
Recognition in Financial Statements" which is required to be implemented no
later than the fourth quarter of 2000. In SAB 101, the SEC staff expresses its
view regarding the appropriate recognition of revenue with regard to a variety
of circumstances, some of which are of particular relevance to us. The adoption
of SAB 101 is not expected to have a material impact on the Company.
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Forward-Looking Statements
The following discussion of our financial condition and results of operations
should be read in conjunction with our condensed financial statements and the
related notes thereto included elsewhere in this report. This document contains
forward-looking statements that involve risks and uncertainties, such as
statements of our plans, objectives, expectations and intentions. When used in
this document, the words "expects," "anticipates," "intends" and "plans" and
similar expressions are intended to identify certain of these forward-looking
statements. The cautionary statements made in this document should be read as
being applicable to all related forward-looking statements wherever they appear
in this document. Our actual results could differ materially from those
discussed in this document. We do not intend to update any of the forward-
looking statements after the date of this filing on Form 10-Q to conform these
statements to actual results.
<PAGE>
Factors that could cause or contribute to such differences include those
discussed below, as well as those discussed in our Form 10-K for the year ended
December 31, 1999.
Overview
Our company operates drkoop.com, an Internet-based consumer healthcare network.
Our network consists of a consumer-focused interactive Web site that provides
users with comprehensive healthcare information and services, as well as
affiliate relationships with portals, other Web sites, healthcare organizations
and traditional media outlets. Our Web site, www.drkoop.com, is a healthcare
portal which integrates dynamic healthcare content on a wide variety of
subjects, interactive communities and tools as well as opportunities to purchase
healthcare related products and services on-line. We also develop Internet
enabled software tools for use on our Web site and licensing to third parties.
Revenues
We have to date derived our revenues primarily from advertising and sponsorship
arrangements and content subscription and software licensing fees. We also
generate revenues from electronic commerce through alliances with certain
retailers of pharmaceuticals and related products and through providing
insurance companies users with the opportunity to sell products and services to
our users, although these revenues have to date not been material.
Advertising revenues are derived primarily from short-term advertising contracts
in which we typically guarantee a minimum number of user "impressions" to be
delivered over a specific period of time for a fixed fee. Impressions are the
number of times that users on our Web site view an advertisement. We recognize
advertising revenues at the lesser of the ratio of impressions delivered over
the guaranteed impressions or the straight-line rate over the term of the
contract, provided that no significant obligations remain and collection of the
resulting receivable is probable. We have utilized a combination of third-party
firms and in-house staff for the sales and insertion of advertisements on the
drkoop.com Web site. Advertising rates, measured on a cost per thousand
impressions basis, are dependent on whether the impressions are for general
rotation throughout the drkoop.com Web site or for target audiences and
properties within specific areas of the Web site. In addition, some of our
advertising is performance-based whereby payment is based on "click-throughs" to
the customer's Web site.
Sponsorship revenues are derived from term contracts in which we commit to
provide sponsors enhanced promotional opportunities that go beyond traditional
banner advertising. Sponsorships are designed to support broad marketing
objectives, including branding, awareness, product introductions, research and
transactions. Sponsorship arrangements typically include the delivery of a
guaranteed minimum number of impressions and the design and implementation of
customized pages on the Web site that enhance the promotional objective of the
sponsor. Costs associated with the development of the web pages are minimal and
are expensed when incurred. Sponsorship revenues are recognized at the lesser of
the ratio of impressions delivered over the total guaranteed impressions or the
straight-line rate over the term of the contract, provided that no significant
obligations remain and collection of the resulting receivable is probable.
Content subscription and software licensing fees are facilitated through our
Community Partnership Program ("CPP") and from the sale of calculators and other
software tools. Subscriptions to our Community Partnership Program generally
vary from one to three years. Under this program, we develop co-branded
Internet pages and software consisting of visual icons containing embedded links
back to our drkoop.com Web site for local healthcare organizations, such as
hospitals and payor organizations. Advance billings and collections relating to
future services are recorded as deferred revenue and recognized when revenue is
earned. Sales of software licenses to CPP affiliates are recognized into revenue
upon shipment of the software, provided that the portion of the contract
allocated to the software license is based upon vendor specific objective
evidence of fair value, and collectibility is probable. Content subscription
revenue is recognized ratably over the term of the CPP contract, generally
ranging from one to three years. Software licenses are also sold as a stand-
alone product for both calculators and under the Health Links program
independent of
<PAGE>
the Community Partnership Program. We also have in place one licensing
relationship for an international market which involves content and software
tools.
We have begun to generate electronic commerce revenues through alliances with
certain retailers of pharmaceuticals and related products and to provide
insurance companies with the opportunity to sell products and services to our
audience. We do not provide any of the goods or services offered. We receive
compensation in the form of transaction fees or anchor tenant rental fees from
third parties who have entered into preferred provider arrangements with us.
Revenues from our share of the proceeds from the commerce partner's transactions
are recognized by us upon notification from the commerce partner of sales
attributable to users from the drkoop.com Web Site. E-commerce revenues were
nominal for the six months ended June 30, 2000 and 1999.
From time to time, and dependent upon the complexity of an advertising or
sponsorship revenue arrangement, we provide initial site design consulting and
engineering services which require the development and implementation of
specific Web site enhancements prior to launching a co-branded site. Revenues
and related costs for initial site design and engineering services are
recognized under contract accounting.
As our market develops, seasonal and cyclical patterns may emerge. These
patterns may affect our revenues. We cannot yet predict to what extent our
operations will prove to be seasonal.
Portal Agreements
During this quarter we made material changes to our relationships with GO.com
and AOL. See Note 7 to the Condensed Financial Statements, our current report on
Form 8-K dated April 25, 2000 and our Form 10-Q for the quarter ended March 31,
2000.
Results of Operations
Comparison of the three months ended June 30, 2000 to the three months ended
June 30, 1999
Revenues. Revenues increased to $2.5 million for the three months ended June
30, 2000, as compared to $1.0 for the comparable period of 1999. Revenue from
content subscription and software licenses for the quarter ended June 30, 2000
totaled $854,000 or 34% of total revenues, as compared to $238,000, or 23% of
total revenues for the quarter ended June 30, 1999. All content subscription
and software license revenue is considered recurring revenue. The increase in
content subscription and software license revenue is attributable to the growth
of the Community Partner Program during 1999 and into 2000, resulting in a total
of 33 partners at the end of June 2000, as compared to 15 partners at the end of
June 1999. Additionally, in December 1999, we entered into a content and tools
syndication agreement with a company in Australia. Revenue recognized under this
agreement represents $282,000, or 11% of total revenue for the quarter ended
June 30, 2000.
Advertising and sponsorship revenues totaled $1,657,000, or 66% of total
revenues for the quarter ended June 30, 2000 as compared to $781,000, or 77% of
total revenues, for the same period in 1999. Included in advertising and
sponsorship revenues were recurring revenues from sponsorship agreements of $1.2
million, or 49% of total revenues, for the quarter ended June 30, 2000, as
compared to $245,000, or 24% of total revenues for the same period during 1999.
In the quarter ended June 30, 1999, revenues included non-recurring engineering
services revenues of $203,000, or 20% of total revenues in the 1999 period. The
remaining advertising revenues of $409,000, or 16% of total revenues for the
quarter ended June 30, 2000 and $333,000, or 33% of total revenues for the
quarter ended June 1999, were derived from non-recurring short-term advertising
and sponsorship arrangements. The increase in advertising and sponsorship
revenues was primarily due to an increase in the number of advertising
arrangements combined with an increase in traffic to our Web site resulting in a
higher number of impressions delivered.
Other revenues totaled $12,000 for the quarter ended June 30, 2000. Other
revenues consist primarily of fees from e-commerce transactions. There were no
revenues from this source in the quarter ended June 30, 1999.
Revenues for the quarter were adversely affected by our widely publicized
liquidity shortfall and similar problems affecting some of our customers which
resulted in extended sales cycles and extended accounts receivable cycles. These
problems continued to exist as of the date of this report. We do not record
advertising or sponsorship revenues unless we deem collection of the related
account receivable to be probable.
<PAGE>
Included in content subscription and software licensing revenues are barter
transactions that accounted for $30,000 and $30,000 for the three months ended
June 30, 2000 and 1999, respectively. There was no barter revenues related to
advertising and sponsorship for the three months ended June 30, 2000, and
$84,000 for the three months ended June 30, 1999. In total, barter revenues
represented $30,000, or 1%, and $114,000, or 11%, of total revenues for the
quarters ended June 30, 2000 and 1999, respectively.
Production, content and product development expenses. Production, content and
product development expenses consist primarily of salaries and benefits,
contract labor and consulting fees related to technology development and other
costs related to content acquisition and licensing, software development,
application development and Web site operations expense. Production, content
and product development expense increased by $3.3 million, or 154%, from $2.1
million for the quarter ended June 30, 1999 to $5.4 million for the quarter
ended June 30, 2000. The increase in production, content and product development
costs was primarily due to the addition of personnel, resulting in higher
salaries, benefits and travel costs, combined with a $822,000 increase in
content licensing required.
Sales and marketing expenses. Sales and marketing expenses consist primarily of
portal fees, web-based advertising, salaries and related costs, commissions,
general advertising and other related expenses. Sales and marketing expense
increased by $16.9 million, from $8.0 million to $24.9 million for the quarters
ended June 30, 1999 and 2000, respectively. The primary reasons for the
increases were costs associated with the amendment of distribution agreements
with major portals totaling $9.4 million for the three months ended June 30,
2000 as compared to $2.8 million for the same period in 1999. The quarter ended
June 30, 2000 also included a $9.2 million charge related to amortization of
warrant expenses incurred with the amending of our portal agreements during
April 2000. The remainder of the increase was due to a growth in the number of
personnel, resulting in increased salary and related expenses and increased
depreciation expense caused by a significant increase in depreciable assets
purchased with proceeds from the IPO in late 1999. Please see "Portal
Agreements."
General and administrative expenses. General and administrative expenses
consist primarily of salaries and related costs for general corporate functions,
including executive, finance, accounting, investor relations, human resources,
facilities and fees for professional services. General and administrative
expenses increased by $3.1 million, or 177%, from $1.7 million to $4.8 million
for the quarters ended June 30, 1999 and 2000, respectively. During the quarter
ended June 30, 2000, the company incurred expenses of $1.2 million related to
the employment severance and bad debt expenses of $1.1 million compared to none
in 1999. The remainder of the increase was primarily due to increased
professional fees and increased salaries and related expenses. During May and
June 2000, we took significant steps to decrease head count levels, with the
number of full time employees reduced from 183 at April 30, 2000 to 122 at June
30, 2000.
Deferred stock compensation expense. We have recorded non-cash deferred stock
compensation of $65,000 and $406,000 during the three months ended June 30, 2000
and 1999, respectively, for the difference between the exercise price and the
fair market value of certain stock options granted by us to our employees. The
deferred stock compensation is being amortized over the four-year vesting period
of such options. Of the total deferred stock compensation, $553,000 and $592,000
were amortized in the three months ended June 30, 2000 and 1999, respectively.
Net interest income. Net interest income includes interest income from our cash
balances and interest expenses related to our financing obligations,
particularly on the convertible notes payable prior to conversion and capital
leases on computer equipment. Net interest income was $18,000 for the three
months ended June 30, 2000 as compared to net interest income of $67,000 for the
three months ended June 30, 1999. The decrease was due to lower average net cash
and cash equivalents balances in 2000 as the Company has utilized cash generated
from our IPO completed in June 1999 to fund operating losses.
Income tax. We have incurred net losses to date. As of June 30, 2000, we had
net operating loss carryforwards of $119.6 million for financial reporting
purposes. We have recorded an allowance equal to the amount of the carryforward
due to the uncertain realization of these tax benefits.
Comparison of the six months ended June 30, 2000 to the six months ended
June 30, 1999
<PAGE>
Revenues. Revenues increased to $7.3 million for the six months ended June 30,
2000, as compared to $1.4 million for the comparable period of 1999. Revenue
from content subscription and software licenses for the six months ended June
30, 2000 totaled $1.7 million or 23% of total revenues, as compared to $454,000,
or 32% of total revenues for the six months ended June 30, 1999. All content
subscription and software license revenue is considered recurring revenue. The
increase in content subscription and software license revenue is attributable to
the growth of the Community Partner Program during 1999 and into 2000, resulting
in a total of 33 partners at the end of June 2000, as compared to 15 partners at
the end of June 1999. Additionally, in December 1999, we entered into a content
and tools syndication agreement with a company in Australia. Revenue recognized
under this agreement represents $563,000, or 7.8% of total revenue for the six
months ended June 30, 2000.
Advertising and sponsorship revenues totaled $5.6 million, or 77% of total
revenues for the six months ended June 30, 2000 as compared to $962,000, or 68%
of total revenues, for the same period in 1999. Included in advertising and
sponsorship revenues were recurring revenues from sponsorship agreements of $4.2
million, or 57% of total revenues, for the six months ended June 30, 2000, as
compared to $273,000, or 19% of total revenues for the same period during 1999.
In the six months ended June 30, 1999, revenues included non-recurring
engineering services revenues of $203,000, or 14% of total revenues in the 1999
period. The remaining advertising revenues of $1.4 million, or 19% of total
advertising revenues for the six months ended June 30, 2000 and $486,000, or 35%
of total revenues for the six months ended June 1999, were derived from non-
recurring short-term advertising and sponsorship arrangements. The increase in
advertising and sponsorship revenues was primarily due to an increase in the
number of advertising arrangements combined with an increase in traffic to our
Web site resulting in a higher number of impressions delivered.
Other revenues totaled $17,000 and $7,000, for the six months ended June 30,
2000 and 1999, respectively. Other revenues consist primarily of fees from e-
commerce transactions.
As noted above, publicity regarding our liquidity shortfall and similar problems
affecting some of our customers have adversely affected revenues and this
problem is continuing as of the date of this report.
Included in content subscription and software licensing revenues are barter
transactions that accounted for $60,000 and $62,000 for the six months ended
June 30, 2000 and 1999, respectively. Barter revenues accounted for $97,000 and
$104,000 of the advertising and sponsorship revenues for the six months ended
June 30, 2000 and 1999, respectively. In total, barter revenues represented
$157,000, or 2%, and $166,000, or 12%, of total revenues for the six months
ended June 30, 2000 and 1999, respectively.
Production, content and product development expenses. Production, content and
product development expenses consist primarily of salaries and benefits,
contract labor and consulting fees related to technology development and other
costs related to content acquisition and licensing, software development,
application development and Web site operations expense. Production, content
and product development expense increased by $8.0 million, or 254%, from $3.1
million for the six months ended June 30, 1999 to $11.1 million for the six
months ended June 30, 2000. The increase in production, content and product
development costs was primarily due to the addition of personnel, resulting in
higher salaries, benefits and travel costs, combined with a $1.5 million
increase in content licensing required.
Sales and marketing expenses. Sales and marketing expenses consist primarily of
portal fees, web-based advertising, salaries and related costs, commissions,
general advertising and other related expenses. Sales and marketing expense
increased by $34.2 million, from $10.1 million to $44.3 million for the six
months ended June 30, 1999 and 2000, respectively. The primary reasons for the
increases were costs associated with the distribution agreements with major
portals totaling $17.0 million for the six months ended June 30, 2000 as
compared to $2.8 million for the same period in 1999. Also included in 2000 is a
$10.3 million charge related to amortization of warrant expenses incurred with
the amending of our portal agreements during April 2000. During the quarter
ended June 30, 2000 we renegotiated our principal portal agreements resulting in
the elimination of most of the cash payment obligations. Marketing and
promotions expense increased to $8.0 million in the six months ended June 30,
2000 from $4.9 million in the corresponding period in 1999. The remainder of the
increase was due to a growth in the number of personnel, resulting in increased
salary and related expenses and increased depreciation expense caused by a
increase in depreciable assets purchased with proceeds from the IPO in late
1999. Please see "Portal Expense."
<PAGE>
General and administrative expenses. General and administrative expenses
consist primarily of salaries and related costs for general corporate functions,
including executive, finance, accounting, investor relations, human resources,
facilities and fees for professional services. General and administrative
expenses increased by $6.0 million, or 210%, from $2.8 million to $8.8 million
for the six months ended June 30, 1999 and 2000, respectively. During the six
months ended June 30, 2000, the company incurred expenses of $1.2 million
related to the employment severance of several employees and bad debt expenses
of $1.2 million compared to none in 1999. Additionally, legal and other
professional fees increased from $808,000 to $2.3 million during the six months
ended June 30 1999 and 2000, respectively. The remainder of the increase was
primarily due to increased salaries and related expenses as well as increased
depreciation charges due to an increase in depreciable assets after the IPO in
late 1999. Headcount levels were reduced significantly during May and June 2000.
Deferred stock compensation expense. We have recorded non-cash deferred stock
compensation of $891,000 and $3,508,000 during the six months ended June 30,
2000 and 1999, respectively, for the difference between the exercise price and
the fair market value of certain stock options granted by us to our employees.
The deferred stock compensation is being amortized over the four-year vesting
period of such options. Of the total deferred stock compensation, $1,205,000 and
$1,074,000 were amortized in the six months ended June 30, 2000 and 1999,
respectively.
Net interest income. Net interest income includes interest income from our cash
balances and interest expenses related to our financing obligations,
particularly on the convertible notes payable prior to conversion and capital
leases on computer equipment. Net interest income was $323,000 for the six
months ended June 30, 2000 as compared to $36,000 for the six months ended June
30, 1999. The increase was due to higher average net cash and cash equivalents
balances in 2000 as the Company completed an IPO in June 1999.
Income tax. We have incurred net losses to date. As of June 30, 2000, we had
net operating loss carryforwards of $119.6 million for financial reporting
purposes. We have recorded a valuation reserve equal to the amount of the
carryforward due to the uncertain realization of these tax benefits.
Liquidity and Capital Resources
Until our initial public offering in June 1999, which raised net proceeds of
$88.5 million, we financed our operations primarily through equity sales and
convertible notes payable debt financing. At June 30, 2000 we had $2.0 million
in cash and cash equivalents, and these funds have been largely expended as of
the date of this report. We require significant additional financing in the very
near future to fund operations. We will not be able to continue to operate our
business unless such a financing is completed. We are presently pursuing a
permanent financing but have not completed it and cannot provide any assurances
as to whether it will be completed. The permanent financing being pursued is
expected to consist of convertible preferred stock and warrants. The financing
contemplates the placement agent and investors obtaining the right to designate
a majority of the Board of Directors.
Cash used in operating activities for the six months ended June 30, 2000 was
$34.1 million. The cash used in operating activities was attributable to funding
net operating losses offset by non-cash charges for write off of investments and
intangible assets, depreciation and amortization, amortization of deferred stock
compensation and a provision for doubtful accounts. These amounts were further
offset by decreases in accounts receivable, other receivable, and prepaids and
other assets. Cash used in operating activities for the six months ended June
30, 1999 was $11.6 million. The cash used in operating activities was
attributable to funding net operating losses and, also reflected increases in
prepaids and other assets and accounts receivable as well as a decrease in
related party payables. This usage was offset by non-cash charges for
amortization of deferred stock compensation and depreciation and amortization,
as well as increases in accounts payable, accrued liabilities and deferred
revenue. Based on our well-publicized need for additional capital, we have
experienced extended sales and receivable cycles, and reduced trade credit
availability.
Cash used in investing activities was $1.8 million and $450,000 for the six
months ended June 30, 2000 and 1999, respectively. Net cash used for investing
activities for these periods consisted primarily of capital expenditures for
computer equipment, software and furniture and fixtures.
<PAGE>
Cash provided by financing activities was $2.1 million for the six months ended
June 30, 2000, compared to $98.0 million for the same period in 1999. Of the
$2.1 million, $1.5 million relates to the proceeds of a bridge loan and the
remainder is the proceeds from the issuance of common stock and the exercise of
stock options. The 1999 amount resulted primarily from proceeds of our initial
public offering which generated net proceeds of approximately $88.5 million and
, to a lesser extent, net proceeds from the issuance of Series C Convertible
Preferred Stock of $3.5 million, net proceeds from the issuance of convertible
notes payable of $5.8 million, and the exercise of stock options resulting in
$248,000 of net proceeds.
As of June 30, 2000, our primary source of liquidity was the $2.0 million of
cash and cash equivalents on hand and a $3.0 million bridge loan line of credit.
We made a $400,000 draw on the line of credit on August 14, 2000. Substantially
all of the Company's assets are pledged against the line of credit and a related
bridge loan, which calls for interest on drawings to accrue at a rate of 8% with
principal and interest being due six months from the date of the draw. Maturity
will also be accelerated if we complete a material financing. Under the terms of
the credit agreement, for each $1,000,000 borrowed, the Company is required to
issue to Commonwealth seven-year warrants to purchase 1,000,000 shares of the
Company's common stock at an exercise price of $0.75 per share. The terms of the
warrants are subject to adjustment for certain events, including price-based
adjustments related to future financings and trading prices.
We expect a significant use of cash during the Year 2000 as we continue the
procurement of content and our marketing efforts for the drkoop.com Web Site. We
are actively pursuing other sources of new cash financing. Additionally, we have
retained the investment-banking firm of Bear, Stearns & Co., Inc. to explore
available strategic alternatives which may include a business combination. No
agreement has been reached regarding any business combination.
If additional funds are raised through the issuance of equity securities, our
stockholders will experience material dilution. Furthermore, there can be no
assurance that additional financing will be available when needed or that if
available, such financing will include terms favorable to our stockholders or
us. If such financing is not available when required or is not available on
acceptable terms, we will be unable to meet operating obligations which would
likely require that we cease operations. See "Risk Factors That May Affect
Future Results and Safe Harbor Statement" below.
Recent Developments
As described elsewhere in this report, it is imperative that we complete a
significant financing. We are presently pursuing an offering solely to
accredited investors in a private placement of shares of a newly established
series of convertible preferred stock. A minimum of $5,000,000 and a maximum of
$15,000,000 is being sought in the private placement, subject to an increase to
up to $27,500,000 if all overallotments are exercised in full.
The principal elements of the proposed transaction and a related bridge
financing completed by us are as follows:
. The issuance of up to $27.5 million of Series D 8% Convertible
Preferred Stock. These shares will initially be convertible into our
common stock based on a conversion price of $0.35 per share. Each $1.0
million of preferred shares issued will therefore initially be
convertible into 2,857,143 shares of common stock (78.6 million shares
in total if the full $27.5 million of preferred stock is issued).
. The issuance of warrants and options to purchase up to 19.7 million
shares at an exercise price of $0.35 per share to be granted to new
management, certain affiliates and related persons.
. The issuance of warrants to purchase shares of common stock at an
exercise price of $0.35 per share to the placement agent or its
designees in connection with the placement of the preferred stock,
other than to excluded purchasers. 286,000 warrants will be issued for
each $1 million of preferred stock (approximately 6.2 million warrants
if the full $27.5 million of preferred stock is issued in the manner
currently planned).
. The issuance of warrants to purchase 14.8 million shares of common
stock at an exercise price of $0.35 per share issued in connection
with bridge loans made to us by a merchant bank.
The terms of some of these securities are also subject to adjustment for
certain events, including price-based adjustments related to future financings
and trading prices. Included in the securities identified above are warrants
issued in connection with bridge loans that will receive anti-dilution
adjustments as a result of the permanent financing. The financing provides to
the investors and placement agent the right to designate a majority of the board
of directors and also contemplates the employment of a new senior management
team. Investors will also receive registration rights.
As of the filing of this report, the transaction described above is being
negotiated but is not completed and we cannot assure you that it will be
completed. At such time as the terms are finalized and we complete the
financing, we will report to you by press release and one or more filings with
the SEC regarding the actual terms and conditions, which could vary from those
described above.
As the proposed transaction being negotiated will involve the issuance by
the Company of securities convertible into or exercisable for our common stock
equal to 20% or more of the common stock or voting power outstanding before the
issuance, under Rule 4460(i) of the Nasdaq Stock Market, Inc. we are required to
obtain stockholder approval for this transaction, unless we are able to make a
successful application to the Nasdaq Stock Market, Inc. excepting this
requirement by showing: (a) the delay in securing stockholder approval would
seriously jeopardize the financial viability of the enterprise and (b) reliance
by us on the exception is expressly approved by our Audit Committee. On June 23,
2000, we submitted an application to the Nasdaq Stock Market, Inc. for an
exception to the stockholder approval requirement. On July 12, 2000, the Nasdaq
Stock Market, Inc. approved our application for such exception subject to
mailing of a notice to stockholders. This approval was subsequently updated and
a supplemental notice is being mailed to stockholders.
The information provided in this report is not intended to and shall not be
construed as an offer to sell or a solicitation of an offer to buy any
securities of the Company. These securities have not been registered under the
Securities Act of 1933 and may not be offered or sold absent registration or an
applicable exemption from registration. This offering is being made solely to
accredited investors in a private placement exempt from registration under the
Securities Act of 1933. All offerees in the proposed transaction have been
identified and contacted prior to the date of this report.
Recent Accounting Pronouncements
In December 1999, the Securities and Exchange Commission ("SEC") issued Staff
Accounting Bulletin ("SAB") 101, "Revenue Recognition in Financial Statements"
which is required to be implemented no later than the fourth quarter of 2000. In
SAB 101, the SEC staff expresses its view regarding the appropriate recognition
of revenue with regard to a variety of circumstances, some of which are of
particular relevance to us. The adoption of SAB 101 is not expected to have a
material impact on us.
Risk Factors That May Affect Future Results and Safe Harbor Statement
Investors are cautioned that this Form 10-Q contains forward-looking statements
that involve risks and uncertainties, including the following: (i) the
Company's plans, strategies, objectives, expectations and intentions are subject
to change at any time at the discretion of management and the Board of
Directors; (ii) the Company's plans and results of operations will be affected
by the Company's ability to manage its growth and working capital and its
ability to finance future operations, none of which are assured; (iii) the
Company's business is highly competitive and the entrance of new competitors or
the expansion of the operations by existing competitors in the Company's markets
could adversely affect the Company's plans and results of operations; and (iv)
the risk factors identified below are not represented to be a comprehensive
list. In addition, the Company identifies the risk factors discussed below which
may affect the Company's actual results and may cause actual results to differ
materially from those contained in forward looking statements.
Risks Related to Our Business
We have a limited operating history and have not attained profitability.
Since inception, we have incurred significant losses and negative cash flow, and
as of June 30, 2000 we had an accumulated deficit of $141.0 million. We have
not achieved profitability and expect to continue to incur operating losses for
the foreseeable future as we fund operating and capital expenditures in the
areas of expansion of our network, advertising, brand promotion, content
development, sales and marketing, and operating infrastructure. Our business
model assumes that consumers will be attracted to and use health information and
related content available on our online network which will, in turn, allow us
the opportunity
<PAGE>
to sell advertising and sponsorship designed to reach those consumers. Our
business model also assumes that those users will access important healthcare
needs through electronic commerce and that local healthcare participants and
television stations will affiliate with us. This business model is not yet
proven and we cannot assure you that we will ever achieve or sustain
profitability or that our operating losses will not increase in the future or be
inconsistent with the expectations of the public market. We have received a
report from our independent auditors for our fiscal year ended December 31, 1999
containing an explanatory paragraph that describes the uncertainty as to our
ability to continue as a going concern due to our historical negative cash flow
and because, as of the date they rendered their opinion, we did not have access
to sufficient committed capital to meet our projected operating needs for at
least the next twelve months.
Our business has been adversely affected by our well publicized need for
additional financing.
Our need to raise additional financing has been well publicized based on our
public disclosures to stockholders and numerous news stories regarding the need
for Internet companies to raise additional capital, many of which have mentioned
our company. Publicity regarding this situation has created a number of
difficulties for us, including:
. extended sales cycles as customers are reluctant to place orders for
advertising or sponsorship in the face of uncertainty in our financial
stability;
. extended receivable cycles as some customers delay payment with the
hope of negotiating discount terms due to our need for cash;
. reduced trade credit as many vendors shorten terms or demand payment
at or prior to the time goods and services are delivered;
. challenges in employee retention and recruitment, particularly in
light of a very strong market for high technology workers in Austin,
Texas, where our headquarters are located; and
. the inability to fund marketing expenditures which thereby impedes the
development of our brand and the attraction of users to our Web Site.
We are actively seeking financing to stabilize our financial position in order
to permit us to address the factors identified above and pursue our business
strategy. We cannot provide any prediction or assurance as to how long it will
take us to address these issues or whether any of these matters can fully be
returned to the status that existed in 1999. We require significant additional
financing in the very near future to fund operations. The terms of any such
financing, if obtained, will almost certainly result in material dilution to
existing stockholders and grant significant control and other rights to any new
investors.
Our business is difficult to evaluate because we have an extremely limited
operating history.
We were incorporated in July 1997 and launched our Internet operations in July
1998. Accordingly, we have an extremely limited operating history. An investor
in our common stock must consider the risks, uncertainties, expenses and
difficulties frequently encountered by companies in their early stages of
development, particularly companies in new and rapidly evolving markets,
including the Internet market. These risks and difficulties include our ability
to:
. attract a larger audience of users to our Internet-based consumer
health network;
. increase awareness of our brand;
. strengthen user loyalty and increase the number of registered users;
. offer compelling online content, services and e-commerce
opportunities;
. maintain our current, and develop new, affiliate relationships;
. attract a large number of advertisers who desire to reach our users;
<PAGE>
. respond effectively to the offerings of competitive providers of
health information on the Internet;
. continue to develop and upgrade our technology;
. attract, retain and motivate qualified personnel; and
. develop new revenue streams in areas such as physician services,
market research, licensing of tools and other technology, and
international opportunities.
We also depend on the growing use of the Internet for advertising, commerce and
communication, and on general economic conditions. We cannot assure you that our
business strategy will be successful or that we will successfully address these
risks or difficulties. If we fail to address adequately any of these risks or
difficulties our business would likely suffer. Please see "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
our financial statements for detailed information on our extremely limited
operating history.
Our business is changing rapidly, which could cause our quarterly operating
results to vary and our stock price to fluctuate.
Our revenues and operating results may vary significantly from quarter to
quarter due to a number of factors, not all of which are in our control. If we
have a shortfall in revenues in relation to our expenses, or if our expenses
precede increased revenues, then our business would be materially adversely
affected. This would likely affect the market price of our common stock in a
manner which may be unrelated to our long-term operating performance. These
conditions have existed in the quarter ended June 30, 2000.
Important factors which could cause our results to fluctuate materially include:
. our ability to attract and retain users;
. our ability to attract and retain advertisers and sponsors and
maintain advertiser and sponsor satisfaction;
. the availability of sufficient capital to fund our business plan;
. traffic levels on our Internet site;
. our ability to attract and retain customers and maintain customer
satisfaction for our existing and future e-commerce offerings;
. new Internet sites, services or products introduced by us or our
competitors;
. the level of Internet and other online services usage;
. our ability to upgrade and develop our systems and infrastructure and
attract new personnel in a timely and effective manner;
. our ability to develop new revenue streams;
. our ability to successfully integrate operations and technologies from
any acquisitions, joint ventures or other business combinations or
investments;
. technical difficulties or system downtime affecting the operation of
our Web Site; and
. our ability to attract new business partners, many of whom have become
unsure of the company's long term viability based on recent adverse
press coverage.
Our revenues for the foreseeable future will remain principally dependent on
user traffic levels, and advertising and sponsorship activity. To a lesser
extent we will also be dependent on the further development of revenue streams
related to e-commerce activities, physician services, market research, sales of
interactive tools and similar technology products and the level of affiliate
subscriptions in our domestic and international content
<PAGE>
partner programs. Such future revenues are difficult to forecast due to, among
other things, the involvement of third parties and the time lag in receiving
sales data and simply because these are all new, developing businesses. In
addition, we plan to increase our sales and marketing operations, obtain broader
distribution for our service, expand and develop content and upgrade and enhance
our technology and infrastructure development in order to support our growth.
Many of the expenses associated with these activities - for example, personnel
costs, and technology and infrastructure costs - are relatively fixed in the
short-term. We have endeavored over the past several months to reduce the cost
of operating our business. However, we may be unable to adjust spending quickly
enough to offset any unexpected revenue or capital shortfall, in which case our
results of operations and liquidity would suffer materially.
Our monthly page views may fluctuate.
The amount of page views on our network may fluctuate on a monthly basis based
upon a number of factors including, among others, the amount of our advertising
spending, the quality of the programming on the websites we partner with, the
release by us of new interactive tools for consumers to use, and seasonal
effects, the result of which could have a negative impact on our revenues or
ability to attract advertisers.
We must establish, maintain and strengthen our brand in order to attract users
to our network and generate revenue from existing and new businesses.
In order to expand our audience of users and increase our online traffic, we
must establish, maintain and strengthen our brand. For us to be successful in
establishing our brand, healthcare consumers must perceive us as a trusted
source of health information, and advertisers, merchants and manufacturers must
perceive us as an effective marketing and sales channel for their products and
services. In addition, this community must also view us as financially stable.
Our business could be materially adversely affected if our marketing efforts are
not productive or if we cannot strengthen our brand. In addition, a key element
of our strategy to establish, maintain and strengthen our brand is to encourage
consumers to associate us with Dr. C. Everett Koop. We believe that consumers
consider Dr. C. Everett Koop to be a trustworthy and credible leader in the
healthcare field, although at times he has been at the center of controversy on
various issues. We cannot assure you, however, that Dr. C. Everett Koop will
maintain this reputation, any damage to which would materially adversely impact
our business. In addition, if our relationship with Dr. C. Everett Koop
terminates for any reason, we would need to change the name of our Web Site and
our business, and devote substantial resources towards building a new marketing
and brand strategy.
Key elements of our marketing and brand building strategies are dependent on our
relationship with Dr. C. Everett Koop.
A key element of our strategy is to associate our company with former U.S.
Surgeon General C. Everett Koop, Chairman of the Board of our company and a
person who we believe is viewed by consumers as a trustworthy and credible
leader in the healthcare field. We are a party to a Second Amended and Restated
Name and Likeness Agreement, dated June 22, 2000, with Dr. C. Everett Koop which
permits us to use his image, name and likeness in connection with health-related
services and products. Under this agreement, our use of Dr. C. Everett Koop's
name, image or likeness is subject to his prior written approval of the
resulting products, which may not be unreasonably withheld. As consideration for
this extension of the Dr. Koop agreement and the previous amendment completed in
August 1999, we granted Dr. C. Everett Koop options to purchase 214,400 shares
of our common stock for an exercise price of $17.88 per share and options to
purchase 1,000 shares of our common stock at an exercise price of $1.50 per
share. The Dr. Koop agreement is exclusive and for a term of seven years,
subject to automatic renewal for additional five-year terms unless it is
terminated by either party not more than 270 and not less than 180 days before
the end of each term. If the Dr. Koop agreement is terminated other than due to
a breach or default by us, we have the right to use the name, image or likeness
of Dr. C. Everett Koop on a non-exclusive basis, and we have the right to use
the name, image or likeness of Dr. C. Everett Koop on an exclusive basis with
respect to any products or services involving or related to Internet-based
health information, healthcare related software services and products, or
electronic commerce for a period of five (5) years after the termination of the
Dr. Koop agreement. Additionally, Dr. C. Everett Koop's name, image or likeness
may not be licensed or otherwise conveyed to any direct competitor. If we
default in our obligations and do not promptly cure the default, Dr. C. Everett
Koop may terminate the Dr. Koop agreement, no rebranding period will apply and
we would lose all rights to use Dr. C. Everett Koop's name, image and likeness
on the 90th day after such termination. Dr. C. Everett Koop may also terminate
the Dr. Koop agreement under certain circumstances upon a change in control of
our company to which Dr. Koop does not give his prior consent, in which event
the agreement automatically terminates and all rights in the Koop name granted
under the agreement immediately revert to Dr. Koop.
If our agreement with Dr. C. Everett Koop were terminated prior to the end of
its current term or not renewed at the end of its current term, we would need to
change the name of our
<PAGE>
Web Site and devote substantial resources towards building a new marketing and
brand strategy. Without our ability to use Dr. C. Everett Koop's name and
likeness or Dr. C. Everett Koop's participation in our business, we may not be
able to continue to attract a significant amount of user traffic and advertisers
to our Web Site. The potential also exists that if Dr. C. Everett Koop ends his
affiliation with our company, we could suffer a significant loss of credibility
and trust with health consumers as a result. Any development that would cause
Dr. C. Everett Koop to exercise his right to terminate his relationship with our
company or which otherwise would cause us to lose the benefits of our
affiliation with him would have a material adverse effect on our business,
results of operation and financial condition. We do not maintain "key person"
life insurance for Dr. C. Everett Koop or any of our personnel.
We have recently materially amended our major portal contracts which may result
in reduced traffic to our Web Site.
In order to expand our network, in 1999 we entered into long-term portal
agreements with AOL and an affiliate of The Walt Disney Company which involved
the payment of significant funds and the granting of large warrant positions for
prominent or exclusive carriage of our health information and services. These
transactions were premised on the assumption that the traffic we would obtain
from these arrangements would permit us to earn revenues in excess of the
payments made to the carriage partners. These assumptions proved to be untrue,
and since we were unsuccessful in generating sufficient revenues to offset these
expenditures, we renegotiated these agreements.
On April 9, 1999 we entered into agreements with Infoseek Corporation and the
Buena Vista Internet Group, a unit of The Walt Disney Company, under which we
became the exclusive provider of health and related content on three Web Sites
of the GO Network. Under the Infoseek agreement, drkoop.com was also the premier
health content provider for ABCNews.com. The term of these agreements was for
three years and they called for the payment of an aggregate of $57.9 million in
cash over three years. We also issued warrants to acquire 775,000 shares of our
common stock at an exercise price of $8.60 per share. Additionally, on July 1,
1999 we entered into agreements with America Online, Inc. under which we became
the premier health content provider across five AOL brands: America Online,
CompuServe, AOL.com, Netscape Netcenter and Digital City. The term of the
agreement was for four years for cash payments of $89 million, plus fully vested
and performance-based warrants to purchase shares of our common stock. Both of
these agreements were renegotiated in April 2000. The terms of these
renegotiations are described generally in our Form 8-K dated April 25, 2000 and
our Form 10-Q for the quarter ended March 31, 2000.
Due to our renegotiation we may receive less traffic from these portal
arrangements than before the renegotiation. As renegotiated, the carriage of
our service on the GO.com sites could end at any time. In recent months,
however, the traffic on our site emanating from our relationship with GO.com has
represented less than five percent of the traffic on our Web Site. Our
relationship with AOL, as renegotiated, no longer entitles us to premier status
and runs through April 2001. Traffic from AOL varies widely, but can be
significant particularly when AOL elects to promote or give prominent placement
to one of our interactive tools or to a news story or feature on our Web Site.
We and AOL also remain party to a separate contract for which we were paid $8.0
million in advance which imposes obligations on us relating to the development
of a personal medical record tool and which could be terminated if our carriage
agreement is terminated, resulting in potential financial penalties.
In order to attract and retain our audience of users, we must provide health
content, tools and other features, which meet the changing demands of those
users.
One of our fundamental business objectives is for drkoop.com to be a trusted
source for health information and services. As with any form of consumer-
oriented media, we have to provide editorial content and other features such as
interactive tools that consumers demand in order to continue to attract and
retain our audience of users. We expect that competitive factors will create a
continuing need for us to retain, improve and add to our editorial content,
interactive tools and other features. We will not only have to expend
significant funds and other resources to continue to improve our network, but we
must also properly anticipate and respond to consumer preferences and demands.
Competition for content has increased the fees charged by high quality content
providers and we expect this trend to continue. The addition of new features
will also require that we continue to improve the technology underlying our Web
Site. These requirements are significant, and we may fail to execute on them
quickly and efficiently. If we fail to expand the breadth of our offerings
<PAGE>
quickly, or these offerings fail to achieve market acceptance, our business will
suffer significantly.
Our business model relies on Internet advertising and sponsorship activities,
which may not be an effective or profitable marketing media and may create a
perceived conflict of interest issue.
Our future is highly dependent on increased use of the Internet as an
advertising medium. We expect to derive a substantial portion of our revenues
from advertising and sponsorships. The Internet advertising market is new and
rapidly evolving, and we cannot yet predict its effectiveness as compared to
traditional media advertising. As a result, demand and market acceptance for
Internet advertising solutions is uncertain. Most of our current or potential
advertising customers have little or no experience advertising over the Internet
and have allocated only a limited portion of their advertising budgets to
Internet advertising. The adoption of Internet advertising, particularly by
those entities that have historically relied upon traditional media for
advertising, requires the acceptance of a new way of conducting business,
exchanging information and advertising products and services. Such customers may
find Internet advertising to be less effective for promoting their products and
services relative to traditional advertising media. We cannot assure you that
the market for Internet advertising will continue to emerge or become
sustainable. If the market for Internet advertising fails to develop or develops
more slowly than we expect, then our ability to generate advertising revenues
would be materially adversely affected. Further, our relationship with
advertisers and sponsors could be perceived as a conflict of interest by users
regardless of the safeguards put in place to segregate our editorial and
commercial activities.
Various pricing models are used to sell advertising on the Internet. For
example, some arrangements rely on the display of an "impression" to a user,
while others require that the user actually "click-through" to the advertiser's
Web Site. It is difficult to predict which, if either, will emerge as the
industry standard, thereby making it difficult to project our future advertising
rates and revenues. Our advertising revenues could also be adversely affected if
we are unable to adapt to new forms of Internet advertising. Moreover, "filter"
software programs are available that limit or prevent advertising from being
delivered to an Internet user's computer. Widespread adoption of this software
could adversely affect the commercial viability of Internet advertising.
In order to execute our growth plan we must attract, retain and motivate highly
skilled employees, and we face significant competition from other Internet and
new media companies in doing so.
Our ability to execute our growth plan and be successful also depends on our
continuing ability to attract, retain and motivate highly skilled employees. In
addition to Dr. C. Everett Koop, Chairman of the Board, we depend on the
continued services of key board members, our senior management and other
personnel, particularly Donald W. Hackett, President and Chief Executive
Officer. Competition for personnel throughout the Internet and related new-media
industry is intense. We have faced particular challenges recently in light of
our well publicized liquidity issues, our low stock price which has fallen below
the exercise price of many of the stock options granted to employees and a very
competitive labor market for high technology workers in Austin, Texas, where our
headquarters are located. Recently, a significant number of our employees have
been terminated in cost cutting efforts or voluntarily departed to pursue other
opportunities. Several key positions, including Chief Operating Officer and
Chief Financial Officer, are either vacant or being filled temporarily until a
replacement is hired. We may be unable to retain our key employees or attract,
assimilate or retain other highly qualified employees in the future. We have
from time to time in the past experienced, and we expect to continue to
experience in the future, difficulty in hiring and retaining highly skilled
employees with appropriate qualifications. If we do not succeed in attracting
new personnel or retaining and motivating our current personnel, our business
will be adversely affected.
We depend on third-party relationships, many of which are short-term or
terminable, to generate advertising and provide us with content.
We depend, and will continue to depend, on a number of third-party relationships
to increase traffic on www.drkoop.com and generate advertising and other
revenues. Outside parties on which we depend include unrelated Web Site
operators that provide links to drkoop.com, providers of health content and
portals which provide us with carriage. Many of our arrangements with third-
party Internet sites and other third-party service providers are not
<PAGE>
exclusive and are short-term or may be terminated at the convenience of either
party. We cannot assure you that third parties regard our relationship with them
as important to their own respective businesses and operations. They may
reassess their commitment to us at any time in the future and may develop their
own competitive services or products. We intend to produce only a portion of the
health content that will be found on the drkoop.com network. We will rely on
third-party organizations that have the appropriate expertise, technical
capability, name recognition, reputation for integrity and willingness to
syndicate product content for branding and distribution by others. Several key
content relationships are up for renewal in the next year, including the name
and likeness agreement with Dr. Nancy Snyderman (May 31, 2001) and the content
agreement for the Drug Checker feature. Failure to renew existing content
relationships may result in a competitor acquiring a key content provider on an
exclusive basis. Such an outcome could make the drkoop.com network less
attractive or useful for an end user, which could reduce our advertising and e-
commerce revenues.
We cannot assure you that we will be able to maintain relationships with third
parties that supply us with content, carriage, software or related products or
services that are crucial to our success, or that such content, software,
products or services will be able to sustain any third-party claims or rights
against their use. Also, we cannot assure you that the content, software,
products or services of those companies that provide access or links to our Web
Site will achieve market acceptance or commercial success. Accordingly, we
cannot assure you that our existing relationships will result in sustained
business partnerships, successful product or service offerings or the generation
of significant revenues for us.
If our ability to expand our network infrastructure is constrained in any way we
could lose customers and suffer damage to our operating results.
Presently, a relatively limited number of consumers use our Web Site. We must
continue to expand and adapt our network infrastructure to accommodate
additional users, increased transaction volumes and changing consumer and
customer requirements. We may not be able to accurately project the rate or
timing of increases, if any, in the use of our Web Site or to expand and upgrade
our systems and infrastructure to accommodate such increases. Our systems may
not accommodate increased use while maintaining acceptable overall performance.
Service lapses could cause our users to instead use the online services of our
competitors. Many of our service agreements, such as those with our Community
Partners, contain performance standards. If we fail to meet these standards, our
customers could terminate their agreements with us or require that we refund
part or all of the license fees. The loss of any of our service agreements
and/or associated revenues would directly and significantly impact our business.
We may be unable to expand or adapt our network infrastructure to meet
additional demand or our customers' changing needs on a timely basis, at a
commercially reasonable cost, or at all.
We may have liability for information we provide on our Web Site or which is
accessed from our Web Site.
Because users of our Web Site access health content and services relating to a
condition they may have or may distribute our content to others, third parties
may sue us for defamation, negligence, copyright or trademark infringement,
personal injury or other matters. We could also become liable if confidential
information is disclosed inappropriately. These types of claims have been
brought, sometimes successfully, against online services in the past. Privacy
concerns have also resulted in recent actions by the Federal Trade Commission
and other government agencies. Others could also sue us for the content and
services that are accessible from our Web Site through links to other Web Sites
or through content and materials that may be posted by our users in chat rooms
or bulletin boards. While our agreements, including those with content
providers, in some cases provide that we will be indemnified against such
liabilities, such indemnification, if available, may not be adequate. Our
insurance may not adequately protect us against these types of claims. Further,
our business is based on establishing the drkoop.com network as a trustworthy
and dependable provider of health information and services. Allegations of
impropriety, even if unfounded, could therefore have a material adverse effect
on our reputation and our business.
Any failure or inability to protect our intellectual property rights could
adversely affect our ability to establish our brand.
Our intellectual property is important to our business. We rely on a combination
of copyright, trademark and trade secret laws, confidentiality procedures and
contractual provisions to protect our intellectual property. Registrations are
pending for the trademark
<PAGE>
"drkoop.com," as well as other services and trademarks which incorporate the Dr.
Koop name. Our right to use the Dr. Koop name is granted to us under an
agreement with Dr. C. Everett Koop. If we lose our right to use the Dr. Koop
name, we would be forced to change our corporate name and adopt a new domain
name. These changes could confuse current and potential customers and would
adversely impact our business. We also rely on a variety of technologies that
are licensed from third parties, including our database and Internet server
software, which is used in the drkoop.com Web Site to perform key functions.
These third-party licenses may not be available to us on commercially reasonable
terms in the future.
We do not expect to pay dividends on our common stock, and investors should not
buy our common stock expecting to receive dividends.
We have never declared or paid any cash dividends on our common stock. We
presently intend to retain future earnings, if any, to finance the expansion of
our business and do not expect to pay any dividends in the foreseeable future
except to the extent required by the terms of the Preferred Stock. Investors
should not purchase our common stock with the expectation of receiving
dividends.
We are subject to anti-takeover provisions in our charter and in our contracts
that could delay or prevent an acquisition of our company, even if such an
acquisition would be beneficial to our stockholders.
Certain provisions of our certificate of incorporation, our bylaws, Delaware law
and material contracts to which we are party could make it more difficult for a
third party to acquire us, even if doing so might be beneficial to our
stockholders.
Our business may face additional risks and uncertainties not presently known to
us, which could cause our business to suffer.
In addition to the risks specifically identified in this section or elsewhere in
this report, we may face additional risks and uncertainties not presently known
to us or that we currently deem immaterial which ultimately impair our business,
results of operations and financial condition.
Risks Related to Our Industry
Consumers and the healthcare industry must accept the Internet as a source of
health content and services for our business model to be successful.
To be successful, we must attract to our network a significant number of
consumers as well as other participants in the health industry. To date,
consumers have generally looked to healthcare professionals as their principal
source for health and wellness information. Our business model assumes that
consumers will use health information available on our network, that consumers
will access important health needs through electronic commerce using our Web
Site, and that local healthcare organizations and other participants in the
healthcare industry will affiliate with us. Our business model also assumes that
the services provided by our network will be supported in part by advertising,
sponsorship and similar activities purchased by companies with commercial
interests in the healthcare industry and that this practice will be accepted by
consumers. Our business model is not yet proven and we have not reached break-
even as to earnings or cash flow.
The Internet industry is highly competitive and changing rapidly, and we may not
have the resources to compete adequately.
The number of Internet Web Sites offering users health content, products and
services is vast and increasing at a rapid rate. These companies compete with us
for users, advertisers, e-commerce transactions and other sources of online
revenues. In addition, traditional media and healthcare providers compete for
consumers' attention both through traditional means as well as through new
Internet initiatives. We believe that competition for health consumers will
continue to increase as the Internet develops as a communication and commercial
medium. We compete directly for users, advertisers, e-commerce merchants,
syndication partners and other affiliates with numerous Internet and non-
Internet businesses, including:
. health-related online services or Web Sites targeted at consumers,
such as healthcentral.com, healthgate.com, intelihealth.com,
mayohealth.org; mediconsult.com, onhealth.com, thriveonline.com and
webmd.com;
<PAGE>
. online and Internet portal companies, such as America Online, Inc.;
Microsoft Network; Yahoo! Inc.; Excite@Home, Inc.; Lycos Corporation
and GO.com which commonly distribute multiple sources of health data;
. electronic merchants and conventional retailers that provide health
goods and services competitive to those available from links on our
Web Site;
. hospitals, HMOs, managed care organizations, insurance companies and
other healthcare providers and payers which offer healthcare
information through the Internet; and
. healthcare information technology organizations such as
Healtheon/WebMD, CareInSite, Cerner, IDX and Eclipsys.
Many of these potential competitors are likely to enjoy substantial competitive
advantages compared to our company, including:
. the ability to offer a wider array of online products and services;
. larger production and technical staffs;
. greater name recognition and larger marketing budgets and resources;
. larger customer and user bases; and
. substantially greater financial, technical and other resources.
To be competitive, we must respond promptly and effectively to the challenges of
technological change, evolving standards and our competitors' innovations by
continuing to enhance our products and services, as well as our distribution,
sales and marketing channels. We must also meet or exceed evolving consumer
expectations and competitive standards regarding medical ethics, Internet ethics
and privacy concerns. Increased competition could result in a loss of our market
share or a reduction in our prices or margins. Competition is likely to increase
significantly as new companies enter the market and current competitors expand
their services or consolidate with each other.
Since we operate an Internet-based network, our business is subject to
government regulation relating to the Internet, which could impair our
operations.
Because of the increasing use of the Internet as a communication and commercial
medium, the government has adopted and may adopt additional laws and regulations
with respect to the Internet covering such areas as user privacy, pricing,
content, taxation, copyright protection, distribution and characteristics and
quality of production and services. Since we operate a health network over the
Internet, our business is subject to government regulation specifically relating
to medical devices, the practice of medicine and pharmacology, healthcare
regulation, insurance and other matters unique to the healthcare area.
Laws and regulations have been or may be adopted with respect to the provision
of health-related products and services online, covering areas such as:
. the regulation of medical devices;
. the practice of medicine and pharmacology and the sale of controlled
products such as pharmaceuticals online;
. the regulation of government and third-party cost reimbursement; and
. the regulation of insurance sales.
FDA Regulation of Medical Devices. Some computer applications and software
are considered medical devices and are subject to regulation by the United
States Food and Drug Administration. We do not believe that the FDA will
regulate our current applications or services; however, our applications and
services may become subject to FDA regulation.
<PAGE>
Additionally, we may expand our application and service offerings into areas
that subject us to FDA regulation. We have no experience in complying with FDA
regulations. We believe that complying with FDA regulations would be time
consuming, burdensome and expensive and could delay or prevent our introduction
of new applications or services.
Regulation of the Practice of Medicine and Pharmacology. The practice of
medicine and pharmacology requires licensing under applicable state law. We have
endeavored to structure our Web Site and affiliate relationships to avoid
violation of state licensing requirements, but a state regulatory authority may
at some point allege that some portion of our business violates these statutes.
Any such allegation could result in a material adverse effect on our business.
Further, any liability based on a determination that we engaged in the practice
of medicine without a license may be excluded from coverage under the terms of
our current general liability insurance policy.
Federal and State Healthcare Regulation. We earn a service fee when users
on our Web Site purchase prescription pharmacy products from certain of our e-
commerce partners. The fee is not based on the value of the sales transaction.
Federal and state "anti-kickback" laws prohibit granting or receiving referral
fees in connection with sales of pharmacy products that are reimbursable under
federal Medicare and Medicaid programs and other reimbursement programs.
Although there is uncertainty regarding the applicability of these regulations
to our e-commerce revenue strategy, we believe that the service fees we receive
from our e-commerce partners are for the primary purpose of marketing and do not
constitute payments that would violate federal or state "anti-kickback" laws.
However, if our program were deemed to be inconsistent with federal or state
law, we could face criminal or civil penalties. Further, we would be required
either not to accept any transactions which are subject to reimbursement under
federal or state healthcare programs or to restructure our compensation to
comply with any applicable anti-kickback laws or regulations. In addition,
similar laws in several states apply not only to government reimbursement but
also to reimbursement by private insurers. If our activities were deemed to
violate any of these laws or regulations, it could cause a material adverse
effect on our business, results of operations and financial condition.
State Insurance Regulation. In addition, we market insurance online,
offered by unrelated third parties, and receive referral fees from those
providers in connection with this activity. The use of the Internet in the
marketing of insurance products is a relatively new practice. It is not clear
whether or to what extent state insurance licensing laws apply to our
activities. We have not sought or received a license under any state's insurance
laws. If we were required to comply with such licensing laws, compliance could
be costly or not possible. This could have a material adverse effect on our
business. We plan to develop relationships with retailers, manufacturers and
other providers to offer health products and services through direct links from
our Web Site to their Web Site. Such a strategy involves numerous risks and
uncertainties. There is no established business model for the sale of health
products or services over the Internet. Accordingly, we have limited experience
in the sale of products and services online and the development of relationships
with retailers, manufacturers or other providers of such products and services,
and we cannot predict the rate at which consumers will elect to engage in this
form of commerce or the compensation that we will receive for enabling these
transactions.
Consumers may sue us if any of the products or services that are sold through
our Web Site are defective, fail to perform properly or injure the user, even if
such goods and services are provided by unrelated third parties. Some of our
agreements with manufacturers, retailers and other providers contain provisions
intended to limit our exposure to liability claims. These limitations may not,
however, prevent all potential claims, and our insurance may not adequately
protect us from these types of claims. Liability claims could require us to
spend significant time and money in litigation or to pay significant damages. As
a result, any such claims, whether or not successful, could seriously damage our
reputation and our business.
Internet capacity constraints may impair the ability of consumers to access our
Web Site, which could hinder our ability to generate advertising revenues.
Our success will depend, in large part, upon a robust communications industry
and infrastructure for providing Internet access and carrying Internet traffic.
The Internet may not prove to be a viable commercial medium because of:
. inadequate development of the necessary infrastructure such as a
reliable network backbone;
<PAGE>
. timely development of complementary products such as high speed
modems;
. delays in the development or adoption of new standards and protocols
required to handle increased levels of Internet activity; or
. increased government regulation.
If the Internet continues to experience significant growth in the number of
users and the level of use, then the Internet infrastructure may not be able to
continue to support the demands placed on it.
Our business is dependent on the continuous, reliable and secure operation of
our Web Site and related tools and functions we provide as well as the Internet
generally.
We rely on the Internet and, accordingly, depend upon the continuous, reliable
and secure operation of Internet servers and related hardware and software.
Recently, several large Internet commerce companies have suffered highly
publicized system failures which resulted in adverse reactions to their stock
prices, significant negative publicity and, in certain instances, litigation.
There have also been recent incidents involving significant disruptions to Web
Sites and the Internet generally by hackers through computer viruses, "denial of
service attacks" or similar actions which compromise network security and
reliability or damage the personal computer and networks of users. We have also
suffered service outages from time to time, although to date none of these
interruptions has materially adversely affected our business operations or
financial condition. To the extent that our service is interrupted, our users
will be inconvenienced, our commercial customers will suffer from a loss in
advertising or transaction delivery and our reputation may be diminished. Some
of these outcomes could directly result in a reduction in our stock price,
significant negative publicity and litigation. Our computer and communications
hardware are protected through physical and software safeguards. However, they
are still vulnerable to fire, storm, flood, power loss, telecommunications
failures, physical or software break-ins and similar events. We do not have full
redundancy for all of our computer and telecommunications facilities and do not
maintain a back-up data facility. Our business interruption insurance may be
inadequate to protect us in the event of a catastrophe. We also depend on third
parties to provide potential users with web browsers and Internet and online
services necessary for access to our Web Site. In the past, our users have
occasionally experienced difficulties with Internet and other online services
due to system failures, including failures unrelated to our systems. Any
sustained disruption in Internet access provided by third parties could
adversely impact our business.
Growth of Internet businesses, particularly in the healthcare sector, may be
impacted by privacy or security concerns.
In February 2000, concerns about access to consumers' private data on the
Internet were raised through published reports over whether or not practices of
a large third-party ad serving corporation could result in individual consumers
being identified by their Internet behavior. In response to these reports, we
took immediate action, such as designating a Chief Privacy Officer, launching a
Privacy Center which explains to consumers issues regarding privacy online,
releasing a more detailed policy statement, removing personal data "cookies" on
all third party ads, and severing our business relationship with DoubleClick for
the use of its "Dart" third-party ad server which was replaced by an in-house ad
serving solution. In December 1999, we helped form a consortium of over a dozen
eHealth companies called Health Internet Ethics (Hi-Ethics) dedicated to
adopting "best practice standards" for companies in the sector. The group
ratified and released privacy policies related to content, advertising,
electronic commerce, and connectivity in the second quarter of 2000. We retain
confidential customer information in our database, and there is no way of
determining whether or not usage of health Web Sites may be adversely impacted
by such concerns. While our privacy policy makes clear that no individual user
data will be shared without an individual's express written consent, it is
critical that the facilities and infrastructure which allows the company to
enforce this policy remain secure and is perceived by consumers to be secure.
Despite the implementation of privacy or security measures, our infrastructure
may be vulnerable to physical break-ins, computer viruses, programming errors or
similar disruptive problems. Security and privacy are important concerns for our
company especially as we develop additional interactive tools which retain
private user data on our system, and any perception that this personal data is
not private and secure would likely be a severe public relations problem for our
company and our brand.
Any financing activity by our company will result in dilution to current
stockholders.
If additional funds are raised through the issuance of equity or
convertible debt securities, the percentage ownership of our stockholders will
be reduced, and these newly-issued securities will most likely have rights,
preferences or privileges senior to those of existing stockholders. Further, at
the present there is little if any ability for Internet content companies
targeted to specific consumer markets, such as drkoop.com, to raise capital in
the public markets. We cannot assure you that additional financing will be
available on terms favorable to us, or at all. If adequate funds are not
available or are not available on acceptable terms, our ability to fund our
operations, take advantage of unanticipated opportunities, develop or enhance
editorial content, features or services, or otherwise respond to competitive
pressures would be significantly limited.
Market prices of emerging Internet companies have been highly volatile, and
the market for our stock has exhibited volatility as well.
The stock market has experienced significant price and trading volume
fluctuations, and the market prices of technology companies, particularly
Internet-related companies, have been extremely volatile. In March and April
2000, most Internet companies oriented towards consumer markets, including
drkoop.com, suffered significant reductions in their share prices resulting in
deep discounts to their trading prices in late 1999 and early 2000. Investors
may not be able to resell their shares at or above the purchase price prevailing
in the market. In the past, following periods of volatility in the market price
of a public company's securities, securities class action litigation has often
been instituted against that company. Such litigation has been commenced
against our company and could result in substantial costs and a diversion of
management's attention and resources.
The large number of shares eligible for public sale could cause our stock
price to decline.
The market price of our common stock could decline as a result of sales by
our existing stockholders of a large number of shares of our common stock in the
market or the perception that such sales could occur. This circumstance could
become a significant issue if we sell securities in private placements at such
time as the shares sold are either registered or may be resold in reliance on
Rule 144. The availability of convertible securities and warrants may also
facilitate hedging, short selling and other trading strategies which often
result in market volatility.
Our continued Nasdaq National Market listing is not assured.
Our common stock is presently authorized for quotation on the Nasdaq
National Market. We have requested and received from Nasdaq a written waiver
from their requirement that we receive stockholder approval of a private
placement offering. Nonetheless, we remain subject to all requirements of our
listing agreement with Nasdaq. Among the events which could cause us to have our
status as a National Market Issuer terminated are:
. failure to maintain a minimum bid price for the common stock of either
$1.00 per share or $5.00 per share, depending on, among other things,
whether or not tangible net assets for the Company is greater than or
less than $4 million;
. failure to maintain an audit committee which comports to the
independence and other standards of the Nasdaq and the SEC; and
. failure to timely hold annual meetings of stockholders and comply with
other corporate governance requirements.
We intend promptly to notice and hold an annual meeting of stockholders
once our financial position is stabilized. Our ability to meet the $4 million
tangible asset requirement in order to use the $1.00 per share minimum bid test
is dependent to a significant extent on the completion of new financing which is
treated as equity for financial reporting purposes. This treatment cannot be
assured. We also have recently had trading days below the $1 minimum bid which
could result in delisting or the need to complete a reverse stock split. If we
lose our Nasdaq National Market status, our common stock would trade either as a
Nasdaq Small Cap issue or in the over-the-counter market, both of which are
viewed by most investors as less desirable, less liquid marketplaces. Loss of
our Nasdaq National Market status would also complicate compliance with state
blue sky laws and permit termination of our AOL agreements.
Forward-looking statements contained in this Memorandum may not be realized.
This report contains forward-looking statements that involve risks and
uncertainties. Our actual results could differ materially from those
anticipated in these forward-looking statements as a result of the risks faced
by us described above and elsewhere in this prospectus. We undertake no
obligation after the date of this report to update publicly any forward-looking
statements for any reason, even if new information becomes available or other
events occur in the future.
<PAGE>
Item 3. Quantitative and Qualitative Disclosure About Market Risk
We are not subject to any meaningful market risks related to currency, commodity
prices or similar matters.
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
We are aware that several law firms have disseminated press releases announcing
that one or more of these law firms is filing or has filed a class action
lawsuit against the Company. The first such lawsuit was filed on or about July
14, 2000 in the United States District Court for the Western District of Texas
on behalf of purchasers of the securities of drkoop.com, Inc. alleging
violations of the federal securities laws in a case captioned as William
Gambino, on behalf of himself and other [sic] similarly situated, vs.
drkoop.com, Inc., Donald Hackett, C. Everett Koop, Nancy Snyderman, John F.
Zaccaro and Neal K. Longwill. We are aware that six additional lawsuits (most of
which are substantially identical to each other) have also been filed. To date
we have been served with process or received formal requests to waive process in
most of these actions. Other lawsuits may have been filed that we are not aware
of. Each suit that we are aware of alleges violations of the federal securities
laws and lists as defendants drkoop.com, Inc. and certain present and prior
directors and officers of the Company. The time for us to respond to the
complaints in each of these actions has not yet expired. It is common for
multiple similar lawsuits such as those described above to be consolidated into
a single case. We believe that the claims asserted in the lawsuits we are aware
of are without merit and intend to defend these litigations vigorously. Our
counsel has also received a letter from a representative of a regional office of
the SEC stating that the SEC is investigating the circumstances surrounding the
allegations in the litigations described above, and asking that the Company
voluntarily provide information regarding such events and circumstances. This
letter states that the SEC's request for information should not be construed as
an indication by the SEC that any violation of the federal securities laws has
occurred. In addition, we have also received a letter demanding that drkoop.com,
Inc. assert various claims that the letter asserts that we have for alleged
breaches of fiduciary duty and other matters against certain present and prior
directors and officers in a stockholders derivative action. The alleged claims
identified in this letter will be reviewed by our board of directors as required
under applicable law. Our counsel has also received a letter from an attorney
representing one of the purchasers of a convertible promissory note issued by
the Company, which asserts a claim for $208,000 based on the allegation that the
purchaser was misinformed as to the length of the holding period upon conversion
of this note into common stock of the Company.
We cannot predict the outcome of the litigation described above or the extent to
which the costs of defense and any settlement or award will be covered by our
insurance policies.
Item 2. Changes in Securities and Use of Proceeds
(c) Private Placements of Securities.
In April 2000, 3,500,000 shares of common stock were issued to America
Online, Inc. in connection with the amendment of a business arrangement.
In April 2000, warrants to purchase 820,000 shares of common stock were
issued to an affiliate of The Walt Disney Company in connection with the
amendment of a business arrangement.
In June 2000, warrants to purchase an aggregate of 6.5 million shares of
common stock (subject to adjustment for certain events including price-based
anti-dilution adjustments related to future financings and trading prices) were
issued in connection with bridge loans made or committed to the Company.
These issuances were exempt from registration under Section 4(2) under the
Securities Act of 1933 and Regulation D promulgated thereunder.
(d) Use of Proceeds
The effective date of our first registration statement, filed on Form S-1 under
the Securities Act of 1933 (File No. 333-73459) relating to an initial public
offering of our common stock, was June 8, 1999. A total of 10,781,250 shares of
our common stock were sold to an underwriting syndicate, including the exercise
of the 15% over allotment. The managing underwriters were Bear, Stearns & Co.
Inc., Hambrecht & Quist LLC, and Wit Capital Corporation. The offering commenced
and completed on June 8, 1999, at an initial public offering price of $9.00 per
share. The initial public offering resulted in gross proceeds of $97.0 million,
$6.8 million of which was applied to the underwriting discount and approximately
$1.7 million of which was applied to related expenses. As a result, net proceeds
of the offering to us were approximately $88.5 million. From the date of receipt
through June 30, 2000, the net proceeds of the initial public offering were used
to fund operating losses and for general corporate purposes, including expansion
of our network, advertising, brand promotion, content development and working
capital or invested in an interest bearing money market account. None of the net
proceeds of the offering were paid, directly or indirectly, to any director,
officer or general partner of drkoop.com, Inc., or any of their associates, or
to any persons owning ten percent or more of any class of our
equity securities, or any affiliates.
<PAGE>
Item 3. Defaults Upon Senior Securities.
Not Applicable.
Item 4. Submission of Matters to a Vote of Security Holders.
None.
Item 5. Other Information.
As of August 14, 2000, our Board of Directors consists of Dr. C. Everett Koop,
John Zacarro, Donald Hackett and Dr. Nancy Snyderman.
In connection with arranging permanent financing, we have obtained a written
waiver from the Nasdaq National Market to its standard requirement that
stockholder approval be obtained in advance of any private placement of equity
securities at less than market prices if the transaction would result in shares
of common stock representing more than 19.9 percent of the outstanding stock
being issued. This waiver was granted in concurrence with the assessment of our
audit committee that our liquidity needs require that the financing be pursued
and, hopefully, completed before a proxy statement could have been prepared and
a special meeting of stockholders noticed and held. In compliance with the
requirements of Nasdaq, on July 14, 2000 we mailed to our stockholders a notice
of the granting of this waiver. Nothing contained in this report is intended to
constitute an offer to sell or the solicitation of any offer to purchase
securities of the Company.
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits:
The Exhibit Index attached hereto is hereby incorporated by reference to this
Item.
Exhibit 27 Financial Data Schedule
(b) Reports on Form 8-K for the quarter ended June 30, 2000.
Report on Form 8-K filed on April 25, 2000: The text of two press releases,
one regarding the restructuring of the AOL agreements and the engagement of
Bear, Stearns & Co., Inc. to explore strategic alternatives for the company, and
the other regarding the restructuring of the GO.com agreement.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
drkoop.com, Inc.
Date: August 21, 2000 /s/ Susan M. Georgen Saad
----------------------------------
Name Susan M. Georgen Saad
Title: Acting Chief Financial Officer
<PAGE>
EXHIBIT INDEX
Exhibit Number Exhibit Title
10.57+ First Amendment to Interactive Services Agreement by and
between the Company and America Online, Inc. effective April
12, 2000.
10.58+ Amendment to Distribution Agreement by and between the
Company and Buena Vista Internet Group and by and between
the Company and Infoseek Corporation effective April 15,
2000.
10.59 Warrant to Purchase 820,000 Shares of Common Stock Issued to
Infoseek Corporation dated April 24, 2000.
10.60 Registration Agreement by and between the Company and
Adventist Health System Sunbelt Healthcare Corporation
effective April 18, 2000.
10.61 Second Amended and Restated Name and Likeness Agreement by
and between the Company and Dr. C. Everett Koop effective
June 22, 2000.
10.62 Placement Agency Agreement by and between the Company and
Commonwealth Associates, L.P. dated June 23, 2000.
10.63 General Security Agreement by and among the Company,
Commonwealth Associates, L.P. and ComVest Venture Partners,
L.P. dated June 23, 2000.
10.64 Registration Rights Agreement by and among the Company,
Commonwealth Associates, L.P. and ComVest Capital
Management, LLC dated June 23, 2000.
10.65 8% Senior Secured Promissory Note by and between the Company
and ComVest Venture Partners, L.P. dated June 23, 2000.
10.66 8% Senior Secured Promissory Note by and between the Company
and Commonwealth Associates, L.P. dated June 23, 2000.
10.67 Warrant to Purchase 3,200,000 Shares of Common Stock Issued
to ComVest Venture Partners, L.P. dated June 2000.
10.68 Warrant to Purchase 800,000 Shares of Common Stock Issued to
Commonwealth Associates, L.P. dated June 23, 2000.
10.69 Warrant to Purchase 2,500,000 Shares of Common Stock Issued
to ComVest Venture Partners, L.P. dated June 30, 2000.
10.70 Credit Agreement by and between the Company and Commonwealth
Associates, L.P. dated June 30, 2000.
10.71 Promissory Note by and between the Company and Commonwealth
Associates, L.P. dated June 5, 2001.
10.72 Employment Agreement Extension by and between the Company
and Donald W. Hackett dated June 16, 2000.
10.73 Employment Agreement Extension by and between the Company
and Louis A. Scalpati dated June 16, 2000.
10.74 Agreement and Complete Release by and between the Company
and Peter Brumleve dated April 12, 2000.
10.75 Agreement and Complete Release by and between the Company
and Ian Bagnall dated June 6, 2000.
10.76 Agreement and Complete Release by and between the Company
and Susan M. Georgen-Saad dated July 5, 2000.
<PAGE>
10.77 Agreement and Complete Release by and between the Company
and John Osborne dated July 7, 2000.
10.78 Agreement and Complete Release by and between the Company
and Dennis J. Upah dated July 27, 2000.
10.79 Amendment to Agreement and Complete Release by and between
the Company and Dennis J. Upah dated July 27, 2000.
27.1 Financial Data Schedule
+ Confidential Treatment Requested
