<PAGE>
U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
For the quarter ended September 30, 2000
Commission File No. 0-27055
CAVION TECHNOLOGIES, INC.
(Name of Small Business Issuer in its Charter)
Colorado 84-1472763
(State or other jurisdiction (I.R.S. Employer
of incorporation) Identification No.)
6446 S. Kenton Street
Englewood, Colorado 80111
(720) 875-1900
(Address and Telephone Number of Principal Executive Offices)
TITLE OF CLASS
Class A Common Stock, $.0001 Par Value
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 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.
[X] Yes [ ] No
The number of shares outstanding of the issuer's class of common stock as of
November 8, 2000:
CLASS OF SECURITIES OUTSTANDING SECURITIES
$.0001 par value Common Stock 5,032,599
<PAGE>
INDEX
<TABLE>
<CAPTION>
Page
----
<S> <C> <C>
Part I. Financial Information
Item 1.
Unaudited Financial Statements of Cavion Technologies, Inc.
Balance Sheets as of September 30, 2000 and December 31, 1999.......................................3
Statements of Operations for the three and nine-months ended
September 30, 2000 and 1999 ..................................................................5
Statements of Cash Flows for the three and nine-months ended
September 30, 2000 and 1999 ..................................................................6
Item 2.1 Management's Discussion and Analysis of Financial Conditions and Results of Operations.............23
Part II. Other Information
Item 1 Legal Proceedings..................................................................................33
Item 2 Changes in Securities and Use of Proceeds..........................................................33
Item 3 Defaults Upon Senior Securities....................................................................34
Item 4 Submission of Matters to a Vote of Security Holders................................................34
Item 5 Other Information..................................................................................34
Item 6 Exhibits and Reports on Form 8-K...................................................................40
Signatures
</TABLE>
-------------------------------
This report contains forward-looking statements within the meaning of Section
221E of the Securities Exchange Act of 1934, as amended, and Section 27A of the
Securities of the Securities Act of 1933, as amended, and is subject to the safe
harbors created by those sections. These forward-looking statements are subject
to significant risks and uncertainties, including those identified in the
section of this Form 10-QSB entitled "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Factors That May Affect Future
Operating Results," which may cause actual results to differ materially from
those discussed in such forward-looking statements. The forward-looking
statements within this Form 10-QSB are identified by words such as "believes,
"anticipates," "expects," "intends," "may," "will" and other similar
expressions. However, these words are not the exclusive means of identifying
such statements. In addition, any statements which refer to expectations,
projections or other characterizations of future events or circumstances are
forward-looking statements. The Company undertakes no obligation to publicly
release the results of any revisions to these forward-looking statements which
may be made to reflect events or circumstances occurring subsequent to the
filing of this Form 10-QSB with the Securities and Exchange Commission ("SEC").
Readers are urged to carefully review and consider the various disclosures made
by the Company in this report and in the Company's other reports filed with the
SEC that attempt to advise interested parties of the risks and other factors
that may affect the Company's business.
2
<PAGE>
PART I FINANCIAL INFORMATION
ITEM 1. UNAUDITED FINANCIAL STATEMENTS
CAVION TECHNOLOGIES, INC.
BALANCE SHEETS
AS OF SEPTEMBER 30, 2000 AND DECEMBER 31, 1999
(UNAUDITED)
<TABLE>
<CAPTION>
September 30, December 31,
ASSETS 2000 1999
------ --------------- ----------------
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents $ 189,075 $4,346,699
Accounts receivable 258,469 94,190
Prepaid expenses 183,333 141,949
Prepaid compensation 347,674 -
Other - 2,558
----------- -----------
Total current assets 978,551 4,585,396
----------- -----------
PROPERTY AND EQUIPMENT, at cost:
Leasehold improvements 934,685 164,357
Furniture and fixtures 326,108 16,851
Network equipment and licensed software 2,201,960 530,466
----------- -----------
3,462,753 711,674
Less - accumulated depreciation (388,951) (45,066)
----------- -----------
Property and equipment, net 3,073,802 666,608
----------- -----------
DEFERRED OFFERING AND DEBT ISSUANCE COSTS 172,042 -
DEPOSIT FOR LETTER OF CREDIT 325,000 300,000
GOODWILL, net of accumulated amortization of $1,588,421 and
$873,632, respectively 3,176,847 3,891,636
OTHER ASSETS 50,957 159,637
----------- -----------
TOTAL ASSETS $7,777,199 $9,603,277
=========== ===========
</TABLE>
The accompanying notes to financial statements are an integral part of these
balance sheets.
3
<PAGE>
CAVION TECHNOLOGIES, INC.
BALANCE SHEETS
AS OF SEPTEMBER 30, 2000 AND DECEMBER 31, 1999
(UNAUDITED)
<TABLE>
<CAPTION>
September 30, December 31,
LIABILITIES AND STOCKHOLDERS' EQUITY 2000 1999
------------------------------------ ------------- ------------
<S> <C> <C>
CURRENT LIABILITIES:
Accounts payable $ 905,762 $ 213,098
Accrued liabilities 180,528 375,524
Deferred revenue - network access and connectivity fees 1,553,352 547,639
Deferred revenue - e-commerce fees 75,000 300,000
Current portion of capital lease obligations 517,308 137,500
Notes payable 470,000 470,000
Convertible subordinated notes, net of discount 506,716 -
------------ -----------
Total current liabilities 4,208,666 2,043,761
------------ -----------
LONG-TERM LIABILITIES:
Capital lease obligations, net of current portion 1,044,449 386,494
------------ -----------
PUTABLE CLASS B COMMON STOCK: 30,000 shares
authorized; 0 and 28,648 shares issued and outstanding,
respectively (stated at redemption value) - 200,537
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
ClassA Common Stock; $.0001 par value, 19,970,000 shares authorized;
4,966,974 and 4,697,326 issued and outstanding at June 30, 2000
and December 31, 1999, respectively 497 470
Warrants and options 2,840,233 507,096
Deferred compensation - (107,735)
Stockholder receivable (86,100) -
Additional paid-in capital 13,012,573 11,426,314
Accumulated deficit (13,243,119) (4,853,660)
------------ -----------
Total stockholders' equity 2,524,084 6,972,485
------------ -----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 7,777,199 $ 9,603,277
============ ===========
</TABLE>
The accompanying notes to financial statements are an integral part of these
balance sheets.
4
<PAGE>
CAVION TECHNOLOGIES, INC.
STATEMENTS OF OPERATIONS
FOR THE THREE AND NINE-MONTHS ENDED SEPTEMBER 30, 2000 AND 1999
(UNAUDITED)
<TABLE>
<CAPTION>
Three-Month Nine-Month
Period Ending Period Ending
------------------------------- ---------------------------------
September 30, September 30, September 30, September 30,
2000 1999 2000 1999
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
REVENUE:
Network access and connectivity fees $ 442,229 $ 179,476 $ 1,032,986 $ 384,809
e-commerce service fees 77,923 - 227,923 -
------------- ------------- ------------- -------------
Total revenue 520,152 179,476 1,260,909 384,809
------------- ------------- ------------- -------------
OPERATING EXPENSES:
Network access and connectivity 503,339 149,850 1,096,859 283,467
Selling and marketing 1,310,212 544,270 3,496,174 957,590
General and administrative 1,308,104 237,137 3,681,054 886,896
Research and development 252,174 161,872 677,176 323,960
Amortization of goodwill 238,262 240,860 714,789 635,370
------------- ------------- ------------- -------------
Total operating expenses 3,612,091 1,333,989 9,666,052 3,087,283
------------- ------------- ------------- -------------
LOSS FROM OPERATIONS (3,091,939) (1,154,513) (8,405,143) (2,702,474)
INTEREST INCOME 31,434 - 154,572 -
INTEREST EXPENSE (51,028) (167,835) (138,888) (391,966)
------------- ------------- ------------- -------------
NET LOSS $ (3,111,533) $ (1,322,348) $ (8,389,459) $ (3,094,440)
============= ============= ============= =============
NET LOSS APPLICABLE TO COMMON
STOCKHOLDERS:
Net Loss $ (3,111,533) $ (1,322,348) $ (8,389,459) $ (3,094,440)
Dividends on redeemable, convertible
preferred stock - (26,250) - (54,704)
------------- ------------- ------------- -------------
NET LOSS APPLICABLE TO COMMON
STOCKHOLDERS $ (3,111,533) $ (1,348,598) $ (8,389,459) $ (3,149,144)
============= ============= ============= =============
BASIC AND DILUTED NET
LOSS PER SHARE $ (0.63) $ (0.50) $ (1.71) $ (1.12)
============= ============= ============= =============
WEIGHTED AVERAGE COMMON
SHARES OUTSTANDING -
BASIC AND DILUTED 4,966,527 2,706,326 4,908,283 2,806,287
============= ============= ============= =============
</TABLE>
The accompanying notes to financial statements are an integral part of these
statements.
5
<PAGE>
CAVION TECHNOLOGIES, INC.
STATEMENTS OF CASH FLOWS
FOR THE THREE AND NINE-MONTHS ENDED SEPTEMBER 30, 2000 AND 1999
(UNAUDITED)
<TABLE>
<CAPTION>
Three-Month Nine-Month
Period Ending Period Ending
----------------------------- ------------------------------
September 30, September 30, September 30, September 30,
2000 1999 2000 1999
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $(3,111,533) $(1,322,348) $(8,389,459) $(3,094,440)
Adjustments to reconcile net loss to net
cash used in operating activities-
Depreciation and amortization 401,117 276,945 1,059,098 722,522
Amortization of deferred compensation 261,279 - 1,021,210 -
Accretion of debt issuance costs 5,492 140,260 5,492 267,162
Accretion of putable stock - 11,880 - 29,380
Interest income accrued on stockholder note (3,603) - (3,603) -
Change in operating assets and liabilities-
Accounts receivable (96,742) (17,507) (157,953) (27,251)
Prepaids and other current assets 15,448 (17,480) (38,826) (47,409)
Other assets (9,146) (40,301) 108,680 (29,784)
Accounts payable 512,256 186,252 692,664 286,372
Accrued liabilities 101,668 52,220 4,787 144,382
Deferred revenue 244,645 420,567 774,387 448,820
Certificate of deposit - - (25,000) -
----------- ----------- ----------- -----------
Net cash used in operating activities (1,679,119) (309,512) (4,948,523) (1,300,246)
----------- ----------- ----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property and equipment (442,360) (46,205) (1,494,490) (133,220)
Proceeds form sale leasehold - - 2,673 -
----------- ----------- ----------- -----------
Net cash used in investing activities (442,360) (46,205) (1,491,817) (133,220)
----------- ----------- ----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from convertible subordinated notes 600,000 - 600,000 -
Proceeds from issuance of common stock - - 2,460,003 178
Proceeds from the exercise of employee options 10,581 - 29,583 -
Proceeds from notes payable - 300,000 - 400,000
Proceeds from issuance of Series A Preferred Stock - - - 2,100,000
Principal payments on capital leases (118,912) (10,067) (221,923) (32,454)
Exchange of notes receivable - - (199,783) -
Common stock offering costs - - (248,646) -
Deferred offering costs (capitalized) written-off - (86,585) - (458,883)
Series A preferred stock offering costs - - - (252,000)
Payment of debt issuance costs (136,518) (31,045) (136,518) (67,612)
Repurchase of common stock - - - (31)
Payment of dividends - (26,250) - (26,250)
----------- ----------- ----------- -----------
Net cash provided by financing activities 355,151 146,053 2,282,716 1,662,948
----------- ----------- ----------- -----------
The accompanying notes to financial statements are an integral part of these statements.
</TABLE>
<PAGE>
CAVION TECHNOLOGIES, INC.
STATEMENTS OF CASH FLOWS
FOR THE THREE AND NINE-MONTHS ENDED SEPTEMBER 30, 2000 AND 1999
(UNAUDITED)
<TABLE>
<CAPTION>
Three-Month Nine-Month
Period Ending Period Ending
----------------------------- ----------------------------
September 30, September 30, September 30, September 30,
2000 1999 2000 1999
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
NET (DECREASE) INCREASE IN CASH
AND CASH EQUIVALENTS $(1,766,328) $ (209,664) $(4,157,624) $ 229,482
CASH AND CASH EQUIVALENTS,
beginning of period 1,955,403 458,881 4,346,699 19,735
----------- ---------- ----------- -----------
CASH AND CASH EQUIVALENTS,
end of period $ 189,075 $ 249,217 $ 189,075 $ 249,217
=========== ========== =========== ===========
SUPPLEMENTAL DISCLOSURE OF CASH
FLOW INFORMATION:
Cash paid for interest $ 41,226 $ 34,814 $ 125,944 $ 98,992
=========== ========== =========== ===========
SUPPLEMENTAL DISCLOSURE OF NON-
CASH FINANCING ACTIVITIES:
Property acquired with capital leases $ 759,562 $ - $ 1,259,686 $ 63,804
=========== ========== =========== ===========
Value of common stock issued in
exchange for note receivable $ - $ - $ 82,497 $ -
=========== ========== =========== ===========
Value of warrants to purchase preferred
stock issued to Placement Agent $ - $ - $ - $ 168,790
=========== ========== =========== ===========
Value of warrants to purchase common
stock issued to convertible
subordinated note holders $ 96,178 $ - $ 96,178 $ -
=========== ========== =========== ===========
Value of warrants to purchase common
stock issued to note holder $ - $ 33,127 $ - $ 69,012
=========== ========== =========== ===========
Value of warrants to purchase common
stock issued to placement agent $ 38,122 $ - $ 168,712 $ -
=========== ========== =========== ===========
Value of warrants to purchase common
stock issued in exchange for
written put option $ 807,098 $ - $ 807,098 $ -
=========== ========== =========== ===========
Common stock issued in connection
with conversion of Class B Putable
Common Stock $ - $ - $ 200,537 $ -
=========== ========== =========== ===========
Value of non-employee stock options $ - $ - $ 1,261,149 $ -
=========== ========== =========== ===========
The accompanying notes to financial statements are an integral part of these statements.
</TABLE>
<PAGE>
CAVION TECHNOLOGIES, INC.
NOTES TO FINANCIAL STATEMENTS
AS OF AND FOR THE THREE AND NINE-MONTHS ENDED SEPTEMBER 30, 2000 AND 1999
(UNAUDITED)
1. DESCRIPTION OF BUSINESS:
ORGANIZATION
Cavion Technologies, Inc. (the "Company") offers products and services for
business to business communications, secure Internet financial products, such
as online banking and bill paying services, and secure Internet access and
services for its customers, which are primarily credit unions, their members
and credit union business partners. The Company is also building and managing a
secure private communications network exclusively for the credit union
industry. This network acts as a communications platform for the delivery of
services and information to and from credit unions and related businesses. The
Company has developed and is beginning to offer an integrated network of
e-commerce portals called Member Emporium-TM-. Member Emporium-TM- is designed
to enable a credit union to provide its members with access to a variety of
products and services, typically at a discount from retail or Internet-based
prices.
The Company was incorporated in Colorado on August 18, 1998, as Network
Acquisitions, Inc. to acquire the assets of Cavion Technologies, Inc., now
known as LanXtra, Inc. ("LanXtra"), which was engaged in providing internet,
intranet, and extranet services to the credit union industry. On February 1,
1999, the Company acquired the business of LanXtra, and the Company changed its
name to Cavion Technologies, Inc. doing business as cavion.com.
LIQUIDITY AND COMPANY FUNDING
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern, which contemplates the realization of
assets and the satisfaction of liabilities in the normal course of business. As
shown in the accompanying financial statements, during the nine months ended
September 30, 2000, the Company incurred a loss of $8,389,459 and used net cash
of $4,157,624 in its activities. The Company also has a working capital deficit
of $3,230,115 at September 30, 2000. In addition, the Company has not repaid
$470,000 of notes due October 19, 2000. Accordingly, based on the 30 day grace
period, the notes went into default on November 19, 2000 because we did not pay
the principal and accrued interest by that date. To date, the Company has not
received a notice of default from any of the note holders. Management is
currently negotiating with the note holders to either extend the term of the
various notes or to convert them to convertible notes offered in our August
2000 private placement. These factors, among others, indicate that there is
substantial doubt as to whether the Company will be able to continue as a going
concern unless the Company is able to raise substantial additional capital to
fund its cash needs. Management's plans to address these uncertainties are
discussed below. The accompanying financial statements do not include any
adjustments relating to the recoverability and classification of asset carrying
amounts or the amount and classification of liabilities that might result
should the Company be unable to continue as a going concern.
Based on its cash position at November 17, 2000, the Company believes that it
will be unable to continue to operate beyond a few weeks without additional
funding. In addition, the Company may be required to implement a substantial
decrease in its scope of operations. Our management continues to pursue
various alternatives to enable the Company to continue to grow. The Company
is in ongoing discussions to identify additional sources of capital including
further sales of its securities, which may result in substantial dilution to
existing shareholders. The Company is also considering other alternatives,
including the sale of all or substantially all of the Company's assets, the
sale of a controlling interest in the Company, substantial reductions in
headcount and operating expenditures, and other actions. In particular, the
Company is presently engaged in negotiations with an application services
provider engaged in direct
8
<PAGE>
account aggregation whereby the Company, or its private network, would be
acquired for cash and/or securities. There can be no guarantee that any such
actions will occur or that, if they occur, they will allow the Company to
continue operations for an extended period of time.
The Company has been advised by its independent public accountants that, if it
is unable to raise sufficient capital to reasonably fund its operations and
other cash needs through at least December 31, 2001, prior to the completion of
their audit of the Company's financial statements for the year ending December
31, 2000, their auditor's report on those financial statements will be modified
to include a statement regarding their substantial doubt regarding the
Company's ability to continue as a going concern.
The Company is in ongoing discussions to identify additional sources of
capital, including sales of its securities, which may result in substantial
dilution to existing shareholders. The Company is also considering other
alternatives, including the sale of a controlling interest in the Company,
substantial reductions in headcount and operating expenditures, and other
actions. There can be no guarantee that any such actions will allow the Company
to continue operations for an extended period of time. The Company will
continue to seek capital from its subordinated convertible Note offering. To
date, the Company has accepted a total of $1,075,000, including a
non-convertible $75,000 note from an existing shareholder.
On August 1, 2000, our Board of Directors approved a private offering of up to
$3 million in convertible subordinated notes. On September 7, 2000, the Board
of Directors increased the maximum size of the private offering to $4 million.
On September 19, 2000 the Company received $600,000 of gross proceeds from this
offering. In October and November of 2000, the Company received an additional
$475,000 of funding. (See Note 5).
On July 21, 2000, the Company entered into a private stock purchase agreement
with an institutional investor in which the investor committed to buy up to 1
million shares of the Company's Class A Common Stock. This agreement will
enable the Company, in its discretion, to sell up to 1 million shares of its
common stock to this institutional investor, subject to specified terms and
conditions, over a twenty-four month period. (See Note 6).
During the three months ended September 30, 2000, the Company entered into
agreements with three entities whereby these entities will assist in
identifying and securing additional capital.
On February 17, 2000, the Company entered into an agreement to issue, for
$12.00 per share, 205,000 shares of its Class A Common Stock in a private
transaction. Gross proceeds of approximately $2,460,000 were raised, and the
Company, after a reduction of $196,800 for the selling agent's commission and
other offering costs, netted proceeds of $2,211,354. In conjunction with this
private placement, warrants to purchase 20,500 shares of the Company's Class A
Common Stock were issued to the selling agent, which were valued at $130,590.
OTHER CAPITAL TRANSACTIONS
On October 29, 1999, the Company successfully completed an Initial Public
Offering ("IPO"). The number of shares offered and sold was 1,200,000, with an
underwriter's over-allotment option for an additional 180,000 shares. Total
gross proceeds of $7,800,000 were raised in the offering, and the Company,
after offering expenses, netted proceeds of approximately $6,288,000. In
November 1999, the Company sold 90,500 additional shares from the underwriters
over-allotment option, raising additional gross proceeds of approximately
$588,000, and net proceeds of approximately $467,000. The total number of
shares outstanding after the offering was 4,696,826, reflecting the automatic
conversion of 700,000 shares of Convertible Preferred Stock into 700,000 shares
of Class A Common Stock upon the closing of the offering. In addition, at the
closing of the IPO, the Company issued warrants to purchase 120,000 shares of
the Company's Class A Common Stock to certain underwriters with an exercise
price of 125% of the IPO price, or $8.125 per share.
Prior to the IPO, the Company financed its operations through private
placements of promissory notes, bearing 15% interest per annum, which were
offered commencing on October 20, 1998 (the "Note Offering"), the sale of
Series A Preferred Stock and funding through a Bridge Loan. The Company
advanced a portion of the proceeds from the Note Offering to LanXtra in
anticipation of the acquisition of LanXtra.
9
<PAGE>
RISK FACTORS
In addition to the going concern matter notes above, the Company also faces a
number of other risk factors.
Cavion's revenue depends upon information technology spending by credit unions.
The Company cannot be sure that this type of spending will increase or even
continue at today's levels. Credit unions tend to be cautious in making
purchase decisions regarding new technologies for their financial applications.
As a result, Cavion must provide a significant level of education to
prospective customers regarding the use and benefits of our products and
services prior to their purchase. Furthermore, credit unions are frequently
slow to approve capital expenditures, especially for new technologies that
affect key operations. All of this could have the effect of significantly
lengthening the sales cycle, thereby delaying revenue growth and adversely
affecting operating results. In addition, the Company's current liquidity
position puts it at a competitive disadvantage relative to certain competitors,
which could result in decreased revenue, cancelled contracts and a more lengthy
sales cycle.
The Company expects to derive a substantial portion of its future revenue from
its e-commerce products. The success of these e-commerce products is dependent
on, among other things, the Company's ability to:
- convince credit unions to allow Cavion to link their websites to
the Member Emporium-TM- website and network of portals;
- persuade businesses to advertise their products and services on
the Member Emporium-TM- website and portal network, and to
offer those products and services at a meaningful discount;
- entice credit union members to visit the Member Emporium-TM-
website and portal network, and purchase the products and services
advertised; and
- to earn commissions on these transactions.
If Member Emporium-TM- is unable to produce the revenue we presently expect,
there could be a material adverse effect on our business, financial condition
and results of operations.
Future issuances of shares of Cavion's common stock in the public market,
including shares associated with the private offering of convertible
subordinated notes, the private stock purchase agreement, and the outstanding
warrants and options or the perception by the market that these sales may
occur, could lower the market price of our common stock.
PURCHASE OF LANXTRA'S ASSETS, LIABILITIES AND OPERATIONS
In August 1998, the Company signed a letter of intent to purchase LanXtra's
business. In December 1998, the Company signed an Asset Purchase Agreement (the
"Purchase Agreement") with LanXtra to purchase substantially all the assets of
LanXtra in exchange for approximately 375,214 shares and 28,648 shares of the
Company's Class A and B Common Stock, respectively, and the assumption by the
Company of certain liabilities of LanXtra. The number of Class A Common Stock
shares issued to LanXtra represented approximately 12% of the Company's equity
interest at the time of the Purchase Agreement. The Purchase Agreement was
consummated on February 1, 1999, and the Company assumed the operations of
LanXtra on that date. Upon consummation, significant modifications were made to
LanXtra's capital structure. On December 21, 1998, the Company issued 625,356
shares to certain shareholders of LanXtra who would continue as management of
the Company. One of these shareholders held directly and through irrevocable
proxies sufficient voting shares to approve the transaction. The shares are
non-forfeitable and not contingent upon the this member of management's
continued employment with the Company. As a result, the shares have been
considered additional purchase consideration and are recorded at their
estimated fair value of $3 per share.
10
<PAGE>
The estimated fair value of assets acquired, liabilities assumed, and
consideration issued in the transaction with LanXtra are as follows:
<TABLE>
<S> <C>
Consideration:
Class A Common Stock $3,001,710
Class B Common Stock 167,197
Cash 338,735
------------
3,507,642
Add: Net liabilities (assets):
Working capital deficit 706,044
Property and equipment (331,020)
Borrowings 924,417
Other assets (41,815)
------------
Goodwill $4,765,268
============
</TABLE>
The Company has recorded the fair value of its stock issued to LanXtra at $3
per share based principally upon its private placement of Series A Preferred
Stock completed in February 1999. The transaction with LanXtra resulted in
approximately $4,760,000 of goodwill, which will be amortized over five years.
Because the business now operated by the Company has never been profitable, and
due to the other risks and uncertainties discussed herein, it is reasonably
possible that an analysis of these long-lived assets in future periods could
result in a conclusion that they are impaired, and the amount of the impairment
could be substantial.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
INTERIM FINANCIAL STATEMENTS (UNAUDITED)
The interim financial statements of the Company as of and for the three and
nine months ended September 30, 2000 and 1999 are unaudited and have been
prepared pursuant to the rules and regulations of the Securities and Exchange
Commission. Accordingly, they do not include all of the information and
footnotes required by accounting principles generally accepted in the United
States for complete financial statements. In the opinion of the Company's
management, the unaudited interim financial statements contain all adjustments,
consisting of normal recurring adjustments, considered necessary for a fair
presentation. The results of operations for the interim period is not
necessarily indicative of the results of the entire year.
USE OF ESTIMATES
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to make
estimates and assumptions. These estimates and assumptions affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements, and the reported amounts
of revenue and expenses during the reporting period. Actual results could
differ from those estimates.
CASH AND CASH EQUIVALENTS
The Company considers all highly liquid investments with original maturities of
three months or less to be cash equivalents.
PREPAID COMPENSATION
The Company has issued options to purchase shares of its common stock to
certain non-employees. If the options are unvested and the option holder is
required to perform certain services to meet the vesting requirements, the
unamortized fair market value of the option is recorded as deferred
compensation, a reduction of stockholders' equity. Once the options become
fully vested and the option holder is still obligated to provide services to
the
11
<PAGE>
Company, the unamortized deferred compensation is reclassified as an asset and
is expensed over the period in which the related services are provided by the
non-employee.
DEFERRED OFFERING AND DEBT ISSUANCE COSTS
The Company has made cash payments and issued warrants to certain placement
agents that are helping raise funds through equity and debt offerings. In
addition, the Company has incurred certain legal and other costs in conducting
fund raising activities. As financing agreements are reached and funded, the
applicable deferred offering costs will be removed and accounted for as a
direct financing cost. If no such financing agreements are reached and no
funding received, these deferred offering and debt issuance costs will be
expensed. At September 30, 2000, approximately $85,000 of these costs are debt
issuance costs and are being amortized into interest expense over a one year
period.
IMPAIRMENT OF LONG-LIVED ASSETS
The Company reviews its long-lived assets for impairment whenever events or
changes in circumstances indicate that the carrying amount of an asset may not
be recoverable from future undiscounted cash flows. Impairment losses are
recorded for the difference between the carrying value and fair value of the
long-lived assets. The acquisition of LanXtra generated approximately
$4,760,000 of intangible assets, which are continuously reviewed by the Company
for impairment. As of September 30, 2000, management does not believe that
these assets are impaired. However, if the Company is unable to obtain adequate
financing to continue operations in the normal course of business, future write
downs of goodwill may be necessary.
ACCRUED LIABILITIES
Accrued liabilities consist of the following:
<TABLE>
<CAPTION>
September 30, December 31,
2000 1999
------------ ------------
<S> <C> <C>
Accrued commissions and vacation $126,610 $ 53,938
Accrued professional fees 40,540 67,854
Accrued telecom and equipment
fees for Convergent contract 5,535 81,392
Accrued interest 1,808 -
Other liabilities 6,035 172,340
--------- ----------
Total accrued liabilities $180,528 $ 375,524
========= ==========
</TABLE>
NET LOSS PER SHARE
The Company reports net loss per share in accordance with Statement of
Financial Accounting Standards ("SFAS") No. 128, "Earnings Per Share," which
requires the presentation of both basic and diluted earnings (loss) per share.
Basic net loss per common share has been computed based upon the weighted
average number of shares of common stock outstanding during the period. Diluted
net loss per share is computed by dividing the net loss applicable to common
stockholders for the period by the weighted average number of common and
potential common shares outstanding during the period if the effect of the
potential common shares is dilutive. The Company has excluded the weighted
average effect of common stock issuable upon exercise of all warrants, options
and convertible notes payable from the computation of diluted earnings per
share as the effect of all such securities is anti-dilutive for the periods
presented. The shares excluded related to outstanding options and warrants
(without regard to the treasury stock method) and convertible notes payable at
September 30, 2000 and 1999 and were 1,658,496 and 409,248, respectively.
12
<PAGE>
STOCK BASED COMPENSATION
The Company accounts for its employee stock option plan and other employee
stock-based compensation arrangements in accordance with the provisions of
Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees" ("APB No. 25"), and related interpretations. The Company adopted the
disclosure-only provisions of SFAS No. 123 "Accounting for Stock-Based
Compensation" ("SFAS No. 123"), which allows entities to continue to apply the
provisions of APB No. 25 for transactions with employees and provide pro forma
disclosures for employee stock grants as if the fair value-based method of
accounting per SFAS No. 123 had been applied to these transactions.
The Company accounts for equity instruments issued to non-employees in
accordance with SFAS 123 and Emerging Issues Task Force ("EITF") Issue No.
96-18 "Accounting for Equity Instruments that are Issued to Other Than
Employees for Acquiring, or in Conjunction with Selling Goods or Services." The
valuation of equity based securities issued to consultants is generally based
upon the Black-Scholes option pricing model. Use of this model may result in
significant variation in the fair market value on each determination date. Fair
market values are generally redetermined until the equity-based security is
vested, and the resulting income statement impact can be volatile and
significant.
REVENUE RECOGNITION
The Company currently generates revenue from two sources: (1) recurring monthly
network access and connectivity fees and (2) e-commerce services. Monthly
network access and connectivity fees include fees for enabling credit unions to
conduct a variety of transactions and communications with their members, other
credit unions, or credit union leagues over Cavion's private secure network.
These transactions and services include, but are not limited to: interactive
account transactions, secure communications, bill payment, on-line loan
applications, and Internet access for credit union members. Revenues do not
fluctuate for recurring monthly fees as the Company does not charge per user or
per transaction. During the first quarter of 2000, the Company modified its
price structure to eliminate installation charges. Service revenue was
previously recognized as the services were performed. As a result of the change
to the Company's price structure, service fees are bundled with the network
access and connectivity fees, and are recognized together over the term of the
contract. Network access and connectivity fees, including bundled service fees,
are typically billed in advance and recognized ratably over the period that the
access/connectivity is provided. Cavion's e-commerce services are provided by
Member Emporium-TM-. Fees from these services are primarily generated through a
preferred merchant fee, target advertising services, and other fees related to
credit union members' usage of e-commerce vendors.
COMPREHENSIVE INCOME
The Company has adopted the provisions of SFAS No. 130, "Reporting
Comprehensive Income" ("SFAS No. 130"). SFAS No. 130 establishes standards for
reporting comprehensive income and its components in the financial statements.
Comprehensive income, as defined, includes all changes in equity (net assets)
during a period from non-owner sources. From inception through September 30,
2000, there have been no differences between the Company's comprehensive loss
and its net loss.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board ("FASB") issued SFAS No.
133, "Accounting for Derivative Instruments and Hedging Activities" ("SFAS No.
133"), and in June 1999, the FASB issued SFAS No. 137, "Accounting for
Derivative Instruments and Hedging Activities - Deferral of the Effective Date
of FASB 133" ("SFAS No 137"). SFAS No. 137 requires the Company to adopt SFAS
No. 133 for all quarters in the year ended December 31, 2001. SFAS No. 133
establishes methods of accounting for derivative financial instruments and
hedging activities related to those instruments as well as other hedging
activities. To date, the Company has not entered into any derivative financial
instruments or hedging activities and does not expect the adoption of SFAS 133
to have a significant impact on the Company's results of operations.
During December 1999, the Securities and Exchange Commission released Staff
Accounting Bulletin 101, "Revenue Recognition" ("SAB 101"), to establish
guidelines for revenue recognition and enhance revenue
13
<PAGE>
recognition disclosure requirements. SAB 101 is not required to be adopted
until the quarter ending December 31, 2000; with retroactive implementation to
January 1, 2000. If the Company determines that its revenue recognition
policies must change to be in accordance with SAB 101, the implementation of
SAB 101 will require the Company to restate its quarterly results for 2000 for
the effect of this change in accounting principle as if SAB 101 had been
implemented on January 1, 2000. The Company is currently assessing the
implications of adopting SAB 101. Subsequent to December 31, 1999,
implementation service fees are recognized over the term of the underlying
contract rather than on completion of implementation. Upon adoption of SAB 101,
previously recognized implementation fees will be deferred and recognized
ratably over the contract term. In the period of adoption, the cumulative
impact will be reported as a change in accounting principle as dictated by SAB
101.
3. RELATED PARTY TRANSACTIONS:
MONEYLINE AMERICA, LLC
In August 1999, the Company entered into an agreement with MoneyLine America,
LLC, (the "MoneyLine Agreement"), which provides that the Company receives
payments under an agreement with MoneyLine to provide online mortgage lending
services for credit unions and their members through the Company's network.
MoneyLine is provided a preferred merchant status and is the exclusive provider
of online mortgage lending services. This agreement calls for a minimum payment
of $300,000 in the first year, beginning September 1999, escalating to
$1,000,000 in years six through ten, provided the Company has at least 1,500
credit unions, or 12% of the U.S. credit unions, on its network by the end of
year three. The amounts received are reflected as deferred revenue - e-commerce
fees in the accompanying balance sheets. This service was initiated in January
2000, and as a result, through September 30, 2000, $225,000 has been recognized
as e-commerce fees revenue. Boutine Capital, LLC, a principal shareholder of
the Company owned 50% of MoneyLine America on August 18, 1999, the date of the
MoneyLine Agreement, and currently owns 5% of MoneyLine.
CONVERGENT COMMUNICATIONS
Effective October 22, 1999, the Company entered into a five-year agreement with
Convergent Communications Services, Inc., ("Convergent"). This agreement
included a sale and lease-back of certain network equipment. Equipment with a
net book value of $265,394, sold for $285,976. A corresponding deferred gain of
$20,582 was recorded and will be recognized over the life of the leases. Under
this agreement, Convergent will establish, maintain and support network
connectivity between the Company's network and its customers, including
providing, equipment, maintenance and related services for the network for a
monthly fee. During the nine-months ended September 30, 2000, the Company paid
approximately $534,000 to Convergent for these services. One of the Company's
directors was also a director of Convergent until April 2000 and he served as
its Executive Officer and Chairman until March 31, 2000.
4. CAPITAL LEASE OBLIGATIONS:
The Company assumed several capital lease agreements related to computers and
various office equipment in conjunction with the Purchase Agreement. The
Company has also entered into additional capital lease agreements. The capital
leases have terms ranging from 24 to 60 months with interest rates ranging
between 9% and 20.3%.
14
<PAGE>
As of September 30, 2000, the present value of the future minimum lease payments
is as follows:
<TABLE>
<S> <C>
2000 $ 152,613
2001 603,851
2002 468,795
2003 325,749
2004 261,567
----------
1,812,575
Less: amounts representing interest (250,818)
----------
1,561,757
Less: current portion (517,308)
----------
Long-term capital lease obligation $1,044,449
==========
</TABLE>
The net book value of assets under capital lease obligations as of September 30,
2000, was approximately $1,533,000.
5. CONVERTIBLE SUBORDINATED NOTES:
During August 2000, the Company initiated a private offering of convertible
subordinated notes. The Company's Board of Directors has approved a maximum
offering of up to $4 million. The notes were to be convertible into the
Company's Common Stock at the ratio of 8,333 shares per $50,000 of notes
(implied conversion rate of $6.00 per share). The notes are immediately
convertible once the underlying shares are registered with the Securities
Exchange Commission. Each note holder was to receive detachable warrants to
purchase 2,083 shares of Cavion's Common Stock for each $50,000 of notes. The
terms of the offering were amended in October 2000 (see Note 12). After the
amendment, the notes are convertible into the Company's common stock at the
ratio of 25,000 shares per $50,000 of notes (implied conversion of $2 per
share). Each note holder will receive detachable warrants to purchase 6,750
shares of the Company's common stock for each $50,000 of their investment.
The notes accrue interest at 10% per annum with mature one year from the date
funded. The interest is payable quarterly in cash or Cavion's Common Stock.
As part of this agreement, Cavion is required to issue warrants to FCI
entitling the purchase of its common stock totaling 10% of the total amount
of any securities issued under this agreement that will be exercisable at any
time during a five year term exercisable at 110% of the price of the notes.
Upon each closing, Cavion will also pay 8% of the total gross proceeds
received to FCI. The Company is required to register the shares of Cavion's
common into which these shares are convertible as well as shares subject to
issuance upon the exercise of detachable warrants within 90 days from the day
of closing. On the effective day of the registration statement, each
purchaser, at its discretion, may adjust the conversion price in the event
the average closing price of the Company's common stock during the preceding
ten day period is equal to or less than $2.00 per share. If during the one
year period following the effective date of the registration statement, the
Company sells shares of its own common stock at a price lower than the
current implied conversion price, the conversion price shall automatically be
reduced to equal such lower price. In addition, the exercise price of the
warrants issued under this arrangement will also be reset to the conversion
price if the conversion price is changed. Another modification was in the
event the Company is sold or acquired in the future, the note holders are
guaranteed a minimum return of 50% of their investment.
On September 19, 2000, the Company received $600,000 of funding from this
offering. As part of the selling agent's compensation, the Company issued
warrants to purchase 10,000 shares of its Class A Common Stock. The warrants
are exercisable at any time during a five-year term at an exercise price of
$6.00 per share. The warrants, when issued, were valued at a total of
approximately $38,000 utilizing the Black-Scholes option pricing model assuming
a volatility factor of 126%, a risk free rate of 5.95% and a fair market value
of the underlying shares of $4.56. These warrants were recorded as debt
issuance costs and will be amortized into interest expense over the note period
of one year.
15
<PAGE>
In conjunction with the funding received on September 19, 2000, the Company
issued warrants to the investors to purchase 25,000 shares of its Class A
Common Stock. The warrants are exercisable at any time during a five-year term
at an exercise price of $6.00 per share. The warrants, when issued, were valued
at a total of approximately $96,000, utilizing the Black-Scholes option pricing
model assuming a volatility factor of 126%, a risk free rate of 5.95% and a
fair market value of the underlying shares of $4.56. These warrants were
recorded as a debt discount. The discounted debt will be accreted back to its
face value over the note period of one year. The accretion of the debt will be
recorded as interest expense.
The Company also recorded debt issuance costs of $48,000 related to a cash
placement agent fee made to FCI. These costs will be amortized to interest
expense over the life of the debt. During the three-months ended September 30,
2000, the Company recorded interest expense of approximately $5,500 related to
these notes. The Company obtained shareholder approval of the terms of this
transaction prior to the October 2000 modification of these terms. The Company
intends to seek shareholder approval of the modifications.
6. PRIVATE STOCK PURCHASE AGREEMENT:
On July 21, 2000, the Company entered into a private stock purchase agreement
with an institutional investor, Mothlake International Limited, in which the
investor committed to buy up to 1 million shares of the Company's Class A
Common Stock. This agreement will enable the Company, at its discretion, to
sell up to 1 million shares of its common stock to this institutional investor,
subject to specified terms and conditions, over the next twenty-four months. In
conjunction with the stock purchase agreement, the Company issued warrants to
the investor to purchase 60,000 shares of the Company's common stock at a price
of $10.17 per share. The Company also issued warrants to the placement agent to
purchase 80,000 shares of the Company's common stock at a price of $10.17 per
share. The fair value of these warrants on the date of grant was approximately
$807,000. The warrants were valued using the Black-Scholes option pricing model
assuming a volatility factor of 112%, a risk free interest rate of 6.00% and a
fair value of the underlying shares of $8.63. This agreement is considered to
be the equivalent of a written put option as it provides Cavion the right to
require this investor to purchase its stock on a future date. The value of this
put option is determined by the value provided by Cavion in the form of
warrants to both the investor and the placement agent. Therefore, this
arrangement has been accounted for under the guidance of Emerging Issues Task
Force No. 96-13 "Accounting for Derivative Financial Instruments Indexed to,
and Potentially Settled in, a Company's Own Stock." The fair value of the put
option has been recorded as a decrease in additional paid-in-capital and the
warrants as an increase in warrants outstanding.
In addition, each time the Company sells shares to this investor, the Company
will issue warrants to the investor equal to 25% of the shares purchased, pay
an escrow fee of $1,500, an 8% placement fee and a 2.64% financial consultant
fee out of the proceeds from the sale of the Company's common stock to this
investor.
The Company has agreed to register the shares purchased by the investor with
the Securities and Exchange Commission. The Company has obtained shareholder
ratification of the transaction. No shares will be offered for resale by the
investor except by means of a prospectus.
7. AGREEMENTS WITH PLACEMENT AGENTS AND FINANCIAL ADVISORS:
On June 26, 2000, the Company entered into a one-year agreement with a
placement agent to help raise capital for the Company. Cavion will compensate
this placement agent by paying a cash sum equal to 8% of the funds raised by
this agent upon closing of the transaction. In addition, the placement agent
will be granted warrants to purchase Cavion's common stock. The warrants shall
provide an 8% coverage of the gross funds raised. The terms are to be the same
as those granted to the investors. In the event the investors are not granted
warrants, the placement agent shall be granted warrants with an exercise price
of 120% of the closing price of Cavion's stock on the day prior to the closing
of the transaction with a five-year life from the date of issuance.
As part of the private stock purchase agreement that Cavion entered into on
July 21, 2000 (see Note 6), the Company issued warrants to a placement agent to
purchase 80,000 shares of its common stock. No cash fees have yet been paid as
the Company has not yet received any funding under this facility. The warrants
have an exercise price of $10.17, are fully vested and expire on July 21, 2003.
The fair value of these warrants is approximately $511,000. The warrants are
treated as the cost of obtaining a written put option. As such, the Company
recorded
16
<PAGE>
these warrants by decreasing additional paid-in capital and increasing warrants
outstanding. The warrants were valued using the Black-Scholes option pricing
model assuming a volatility of 112%, a risk free interest rate of 6.0%, and a
fair value of the underlying shares of $8.625.
On July 21, 2000, the Company entered into an agreement with Strategic Growth
International, Inc. ("SGI"), which is currently providing investor relations
services, to also act as a financial consultant. Cavion is to pay a consulting
fee upon the closing of any financing transaction resulting from an initial
introduction by SGI. The consulting fee will be 33% of all cash fees charged by
financial intermediaries introduced by SGI. In the event funds are provided
directly by a financial institution, SGI will be entitled to 8% of the gross
proceeds of any funds raised through equity, and 3% of the gross proceeds of
any funds raised through debt. As additional incentive, Cavion issued on the
date of this agreement 100,000 warrants to purchase its common stock. The
warrants are exercisable at $8.625. The warrants vest and shall be immediately
exercisable if and when Cavion has succeeded in raising $5 million resulting
from all such introductions by SGI under this agreement. The warrants have a 5
year life from the date of vesting, have non-dilution provisions, and have
piggy-back registration rights. The fees are payable for any transaction
resulting from an introduction by SGI for a two-year period following the date
of this agreement.
On July 21, 2000, the Company entered into a private stock purchase agreement
with an institutional investor, Mothlake International Limited, that resulted
from an introduction by SGI. The details and terms of this agreement are
discussed in detail in Note 6. As of September 30, 2000, the Company had not
raised any funds under this agreement. No cash placement fees have yet been
paid to any financial intermediaries. However, upon funding, an 8% placement
fee will be paid to a placement agent which will result in an additional
2.64% fee being paid to SGI.
Following the guidance of the EITF presented in its Topic D-90 "Grantor Balance
Sheet Presentation of Unvested, Forfeitable Equity Instruments Granted to a
Nonemployee", the Company has treated the warrants for accounting purposes as
not issued until vested. If the warrants are never vested, the Company will not
account for the issuance of these warrants. If the warrants vest, the Company
will record the fair value of these warrants on that day as a direct financing
cost. The fair value of the warrants at September 30, 2000, was approximately
$314,000. These warrants have been valued using the Black-Scholes option
pricing model assuming a volatility factor of 112% and 126%, a risk free
interest rate of 6.0%, and a fair value of the underlying shares of $8.625 and
$3.8125 as of July 21, 2000 and September 30, 2000, respectively.
On September 11, 2000, the Company entered into an agreement with a
professional financial advisor, Baird, Patrick & Co. This advisor will provide
consulting services in relation to raising capital for the Company and also
acting as a placement agent. For the financial advisory services, the Company
will pay this advisor $7,500 per month for the remainder of the contract. The
contract will continue to exist until one of the parties provides a 30 day
termination notification. In addition, the Company issued warrants to purchase
50,000 shares of Cavion's common stock at an exercise price of $4.50 and an
expiration date of September 14, 2003. The warrants vest and become exercisable
upon the completion of any financing transactions in which this advisor helps
establish. For acting as a placement agent, this advisor will be paid a cash
fee equal to 5% of the total gross proceeds received. As of September 30, 2000,
the Company has not entered into any financing agreements as a result of the
relationship with this advisor.
Currently, these warrants are not vested and have therefore been treated for
accounting purposes as not issued. If the warrants vest, the Company will
record the fair value of these warrants on that day as a direct financing cost.
The fair value of these warrants at September 30, 2000 was approximately
$139,000. These warrants have been valued using the Black-Scholes option
pricing model assuming a volatility factor of 122% and 126%, a risk free
interest rate of 6.0% and a fair value of the underlying shares of $4.50 and
$3.8125 as of September 11, 2000 and September 30, 2000, respectively.
17
<PAGE>
8. STOCKHOLDERS' EQUITY:
The Company is authorized to issue 19,970,000 shares of common stock, par value
$.0001 per share and 10,000,000 shares of preferred stock, par value $.0001 per
share.
CLASS A COMMON STOCK
The holders of Class A Common Stock are entitled to one vote for each share held
on record on each matter submitted to a vote of shareholders. Cumulative voting
for election of directors is not permitted. Holders of Class A Common Stock have
no preemptive rights or rights to convert their Class A Common Stock into any
other securities.
CLASS B COMMON STOCK
These shares were issued in exchange for similar securities of LanXtra as
partial consideration for the purchase of LanXtra's business, and were callable
by the Company at $7 per share. The holders of Class B Common Stock had the
right to sell the Class B Common Stock to the Company at $7 per share or convert
their shares to equivalent units of Class A Common Stock until March 31, 2000,
at which time no holder of Class B Common Stock had exercised the put option. On
that date, pursuant to the Company's Articles of Incorporation, (i) each share
of Class B Common Stock terminated; (ii) the Company's authority to issue Class
B Common Stock terminated; and (iii) the only other Class of Common Stock, which
had until that time been designated as Class A Common Stock, was designated as
Common Stock.
PREFERRED STOCK
In February 1999, the Board of Directors authorized the Company, without further
action by the shareholders, to issue 10,000,000 shares of one or more series of
preferred stock at a par value of $.0001, all of which is nonvoting. The Board
of Directors may, without shareholder approval, determine the dividend rates,
redemption prices, preferences on liquidation or dissolution, conversion rights,
voting rights and any other preferences.
WARRANTS
As part of FCI's compensation for its services as selling agent for the funds
raised in the February 2000 private issuance of Class A Common Stock, the
Company issued warrants to purchase 20,500 shares of its Class A Common Stock.
The warrants are exercisable at any time during a five-year term at an exercise
price of $12.00 per share. The warrants, when issued, were valued at a total of
$130,590, utilizing the Black-Scholes option pricing model assuming a volatility
factor of 53%, a risk free interest rate of 6.22% and a fair market value of the
underlying shares of $12.00. The value of these warrants was recorded as a
reduction of additional paid-in capital.
As part of the underwriter's compensation for the funds raised in the Company's
IPO, the Company agreed to sell, for $100, warrants to purchase 120,000 shares
of its Common Stock. The warrants are exercisable at any time during a four-year
term beginning November 3, 2000 at an exercise price equal to 125% of the
offering price, or $8.125. The warrants outstanding were valued at a total of
$366,234, utilizing the Black-Scholes option pricing model assuming a volatility
factor of 53%, a risk free interest rate of 6.22% and a fair market value of the
underlying shares of $6.50. The value of these warrants was recorded as a
reduction of additional paid-in-capital. On February 25, 2000, the Company
agreed with certain of the present holders of these warrants that 112,500 of
these warrants would be exercised without a cash payment on November 3, 2000, in
return for the issuance of 65,625 shares of common stock. In connection with the
negotiation of this net exercise price, the underwriter forfeited its right of
first refusal to act as the Company's investment banker for future private or
public securities offerings.
In conjunction with the issuance of the August 1999 Bridge Loan, the Company
granted the Bridge Loan holders warrants to purchase 5,000 shares of the
Company's common stock for every $50,000 of notes purchased. The warrants are
exercisable for a period of five years beginning on the earlier to occur of (i)
the closing of the IPO or (ii) one year from the date of the warrant. These
detachable warrants were valued at a total of $33,127 utilizing the
18
<PAGE>
Black-Scholes option pricing model, assuming a volatility factor of 70%, a risk
free interest rate of 6.22% and a fair value of the underlying shares of $6.50,
and have been recorded as a debt discount.
The following table summarizes the warrants outstanding at September 30, 2000:
<TABLE>
<CAPTION>
Exercise
Price Shares
---------- ----------
<S> <C> <C>
Avalon Research Group, Inc. - July 21, 2000 $ 10.170 80,000
Baird, Patrick & Co. - September 11, 2000 $ 4.500 50,000
SGI $ 8.625 100,000
Convertible Subordinated Note Holders $ 6.000 25,000
First Capital Investments, Inc. - September 2000
debt issuance $ 6.600 10,000
First Capital Investments, Inc. - February
stock issuance $ 12.000 20,500
Neidiger, Tucker, Bruner, Inc. $ 8.125 120,000 (*)
Note Holders $ 6.500 30,000
Moth lake International Limited $ 10.170 60,000
---------
495,500
=========
</TABLE>
* These warrants were exercised on November 3, 2000. See discussion in Note 12.
STOCK OPTIONS
Effective March 19, 1999, the Company adopted a stock option plan (the "Plan").
The Plan provides for grants of incentive stock options, non-qualified stock
options and restricted stock to designated employees, officers, directors,
advisors and independent contractors. The Plan authorizes the issuance of up to
995,000 shares of Class A Common Stock. Under the Plan, the exercise price per
share of a non-qualified stock option must be equal to at least 50% of the fair
market value of the common stock at the grant date, and the exercise price per
share of an incentive stock option must equal the fair market value of the
common stock at the grant date. Through September 30, 2000, and December 31,
1999, options for 996,000 and 505,500 shares of Cavion's common stock,
respectively, have been issued to employees under the Plan. As of September 30,
2000, the outstanding stock options have an average exercise price of $10.91 per
share, with a range of $3.00 to $32.12, and vest over various terms with a
maximum vesting period of 3 years and expire after the contract period of ten
years.
During the year ended December 31, 1999, the Company granted options for 20,000
shares of Class A Common Stock to non-employees in exchange for services. The
exercise price of these options range from $3.00 to $6.00 per share. These
options became fully vested on March 1, 2000, and no future services were
required by the option holders. The fair value of these options on the vesting
date was approximately $324,000, which is included in general and administrative
expense in the accompanying Statements of Operations. The fair value of each
non-employee option grant was estimated on the vesting date using the
Black-Scholes option pricing model. Assumptions used to calculate the fair value
were the risk free interest rate of 6.22%, no dividend yields, a life of 9-10
years and volatility of 69%.
In April 2000, the Company accepted a promissory note from a former director in
the amount of $82,497 as payment for the exercise price of 27,500 stock options.
The short-term note bears interest at 9.0% per annum and is due with interest
and principal in May 2001 with no pre-payment penalties, and is collateralized
by personal property. This amount is reflected as a deduction of stockholder's
equity in the accompanying balance sheets.
On February 14, 2000, the Company entered into an agreement for investor
relations consulting services with SGI. In connection with the agreement, the
Company granted SGI fully vested options to purchase 175,000 shares of common
stock exercisable at $11.1875 per share for a period of five years. The
agreement has a term of one-year and requires monthly payments of $8,000 to SGI
for the services. The fair value of these options on the date of
19
<PAGE>
grant was approximately $1,045,000. The fair value is being amortized over
the life of the one year contract, in which amortization of approximately
$261,000 and $696,000 is included in selling and marketing expense in the
accompanying statements of operations for the three-month and nine-month
period ended September 30, 2000, respectively. The fair value of the
non-employee option grant was estimated on the vesting date using the
Black-Scholes option pricing model. Assumptions used to calculate the fair
value were risk free interest rate of 6.22%, no dividend yields, a life of
five years and volatility of 53%.
The following table summarizes stock option activity:
<TABLE>
<CAPTION>
Under the Stock Option Plan: Other Grants:
------------------------------------------- --------------------
Granted to Granted to
Granted to Employees Non-Employees Non-Employees
-------------------- ------------------- ---------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
------- -------- ------- ------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at December 31, 1999 491,000 $ 4.21 20,000 $4.50 - $ -
Granted 490,500 16.84 - - 175,000 11.19
Exercised (36,000) 3.11 - - - -
Canceled (77,500) 9.63 - - - -
------- ------ ------- ------- -------- ------
Outstanding at September 30, 2000 868,000 $ 10.91 20,000 $4.50 175,000 $11.19
======= ======= ======= ======= ======== ======
Exercisable at September 30, 2000 481,585 $ 7.09 20,000 $4.50 - $ -
======= ======= ======= ======= ======== ======
Weighted average fair value of options
granted during the nine-months ended
September 30, 2000 $ 13.27 $ 5.97
======= ======
</TABLE>
9. COMMITMENTS AND CONTINGENCIES:
LEGAL MATTERS
In connection with the Purchase Agreement transaction, a shareholder of LanXtra
exercised his rights as a dissenting shareholder. The Company assumed LanXtra's
obligation (if any) to this dissenting shareholder. If the shareholder is
permitted to pursue his claim in a legal proceeding, LanXtra could be required
to pay the shareholder the fair value of his shares immediately before the
closing date of the Purchase Agreement. The Company's and LanXtra's management
believes that the value paid on account of these shares pursuant to the Purchase
Agreement is greater than the amount which the dissenting shareholder could
recover under Colorado law. The dissenting shareholder has asserted that the
value of his 50,000 LanXtra shares immediately before the closing date of the
Purchase Agreement would be approximately $250,000. The ultimate resolution of
the matter, which is expected to occur within one year, could result in an
obligation to such shareholder. Further, should LanXtra, or the Company as
successor, be required to make a payment to this shareholder, such payment could
result in the purchase transaction being treated as a taxable transaction which
could subject the Company to a significant tax liability.
The Company is exposed to legal claims arising in the ordinary course of
business. In management's opinion, none of the claims currently asserted will
result in a material liability or change to earnings.
20
<PAGE>
10. ACQUISITION OF LANXTRA BUSINESS (UNAUDITED):
As discussed above, the Company acquired the business of LanXtra on February 1,
1999. The following is pro forma operating information. For purposes of the pro
forma statement of operations, the transaction was assumed to be consummated on
January 1, 1999. Pro forma earnings per share are calculated as if the Purchase
Agreement was completed on January 1, 1999 and the related 1,029,218 shares of
common stock were issued on that date.
The pro forma statement of operations for the nine months ended September 30,
1999 is as follows:
<TABLE>
<CAPTION>
Pro Forma
LanXtra Cavion Adjustments Pro Forma
---------- ----------- ----------- -------------
(unaudited) (unaudited) (unaudited)
<S> <C> <C> <C> <C>
Revenue $ 37,850 $ 384,809 $ - $ 422,659
Operating expenses 245,209 3,087,283 79,421 (1) 3,411,913
Interest expense and other 64,069 391,966 (52,932)(2) 403,103
--------- ----------- -------- -----------
Net loss $ (271,428) $(3,094,440) $(26,489) $(3,392,357)
========== =========== ======== ===========
Net loss per basic share $ (1.22)
===========
Weighted average shares
outstanding 2,830,600
===========
</TABLE>
ADJUSTMENTS
(1) Amortization of goodwill
(2) Reduction of interest expense to reflect Cavion's capital
structure
11. SEGMENT REPORTING:
The Company has two reportable segments: a provider of a secure financial
network connectivity and Internet solutions to credit unions and their business
partners ("Cavion") and a provider of e-commerce services to credit union
members ("Member Emporium-TM-"). Cavion activities include the operations of
providing a connection to the CuiNet and Internet banking products, which
enables credit unions to offer their members a wide array of financial products
and services over the Internet. Member Emporium-TM- activities include
development and implementing e-commerce relationships with third party merchants
and suppliers and, in turn, offering their products to credit union members.
Member Emporium-TM- operations began in the first quarter of 2000. The
accounting policies of the segments are the same as those applied in the
financial statements. Intercompany interest is calculated based on monthly
balances of segment loans and is eliminated in consolidation. The following is a
summary of information about each of the Company's reportable segments that is
used by the Company to measure the segment's operations:
21
<PAGE>
<TABLE>
<CAPTION>
As of and for the nine-months ended
September 30, 2000
---------------------------------------------
Member
Cavion Emporium Consolidated
------------ ----------- ---------------
<S> <C> <C> <C>
Revenues $ 1,032,986 $ 227,923 $ 1,260,909
Segment Losses (7,828,651) (560,808) (8,389,459)
Segment Assets 7,642,522 134,677 7,777,199
</TABLE>
12. SUBSEQUENT EVENTS:
On November 3, 2000, as discussed in note 8, Neidiger, Tucker, Bruner, Inc., the
Company's underwriter for its initial public offering and its nominees,
exercised options to purchase 112,500 shares of Cavion's common stock. In
accordance with the agreement on February 25, 2000, the exercise was done
without a cash payment as a net share settlement. Cavion issued 65,625 shares of
its common stock as settlement of the warrants.
Effective October 11, 2000, as discussed in note 5, the Company modified the
terms of the private offering of convertible subordinated notes and the terms of
the currently outstanding convertible subordinated notes. The terms were
modified such that the notes are convertible into Cavion's common stock at the
ratio of 25,000 shares per $50,000 of notes (implied conversion rate of $2.00
per share). Each note holder will receive warrants to purchase 6,250 shares of
Cavion's common stock for each $50,000 of notes. The warrants issued to both the
placement agent and investors will have an exercise price of $2.00. In the event
the Company is sold or acquired in the future, the note holders would be
guaranteed a minimum return of 50% of their investment. All other terms remained
the same.
The modification of terms for the notes outstanding is accounted for in
accordance with EITF No. 96-19, "Debtors Accounting for a Modification or
Exchange of Debt Instruments." Accordingly, the modification of the terms has
been treated as an extinguishment of the original debt and issuance of new
debt. As a result of the extinguishment, the old debt issuance costs,
recorded debt, and debt discount will be removed from the financial
statements and replaced with the new debt. The difference in values is
recorded as a gain or loss on extinguishment of debt. The Company will record
a loss on extinguishment of debt of approximately $522,000. As part of the
new debt, warrants issued to the placement agent to purchase Cavion's common
stock increased to 30,000 shares. The fair value of these warrants is
approximately $60,000. The warrants issued to the note holders to purchase
Cavion's common stock increased to 75,000 shares. The fair value of these
warrants is approximately $247,000. The warrants have been valued using the
Black-Scholes option pricing model assuming a volatility factor of 124%, a
risk free interest rate of 5.95% and a fair market value of the underlying
shares of $2.31. The issuance of these notes resulted in a beneficial
conversion of approximately $228,000, calculated in accordance with EITF No.
98-5, "Accounting for Convertible Securities with Beneficial Conversion
Features." The beneficial conversion feature is reflected as a debt discount.
The discount resulting from the beneficial conversion feature will be
accreted back to its original value as interest expense over the 90-day
period the notes become convertible.
Subsequent to September 30, 2000 and through November 17, 2000, the Company has
issued additional convertible subordinated notes and received $400,000 of
funding under the private offering approved by the Board of Directors in August
of 2000. The terms of the notes and detachable warrants are consistent with the
modified terms. As part of the selling agent's compensation for this funding,
the Company issued warrants to purchase 20,000 shares of its common stock with
an exercise price of $2.00 per share. These warrants, when issued, were valued
at a total of approximately $48,000. These warrants have been recorded as debt
issuance costs and will be amortized into interest expense over the note term of
one year. The Company also issued warrants to the investors to purchase 50,000
shares of its common stock with an exercise price of $2.00 per share. These
warrants, when issued, were valued at a total of approximately $121,000. These
warrants will be recorded as a debt discount. The discounted debt will be
accreted back to its face value over the note period of one year. The accretion
of the debt will be recorded as interest expense. The warrants have been valued
using the Black-Scholes option pricing model
22
<PAGE>
assuming a volatility factor ranging from 136% to 140%, a risk free interest
rate of 5.95% and a fair market value of the underlying shares ranging from
$2.31 to $2.88. The issuance of these notes will result in a beneficial
conversion of approximately $213,000. The beneficial conversion feature will
be reflected as a debt discount. The discount resulting from the beneficial
conversion feature will be accreted back to its original value as interest
expense over the 90-day period the notes become convertible.
In addition to the $400,000 received the Company issued another
non-convertible note for $75,000 to an existing shareholder under the private
offering of convertible subordinated notes in October. This note is due on
December 31, 2000. No detachable warrants were issued to the shareholder or
to the selling agent in connection with this purchase.
As previously reported, between October 20, 1998 and February 8, 1999, the
Company issued $470,000 in 15% secured promissory notes due October 19, 2000 to
13 investors. The notes are secured by a lien on our assets. The principal of
these notes has not yet been paid. Accordingly, based on the 30 day grace
period, the notes went into default on November 19, 2000 because we did not pay
the principal and accrued interest by that date. To date, the Company has not
received a notice of default from any of the note holders. Management is
currently negotiating with the note holders to either extend the term of the
various notes or to convert them to convertible notes offered in our August 2000
private placement.
23
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
Cavion offers a secure private network and Internet banking products and
services to credit unions that connect them to other credit unions, their
business partners and members. Cavion builds and maintains a suite of network
products and services for the credit union industry that currently includes:
- a secure private network, CUiNET-TM-, that connects credit unions with
their business partners, enabling business-to-business movement of data
and e-commerce;
- secure Internet banking products, bill payment and secure automated
loan application software with access to third party decision products;
- secure Internet access services for credit unions; and
- e-commerce services for credit union members.
The following discussion of our results of operations includes the results
of our predecessor, LanXtra, Inc., for the period prior to February 1, 1999.
LanXtra was incorporated in June 1992 and was originally engaged in the
business of integrating computer networks and communications technologies for
large business and government clients. In 1997, LanXtra created a software
development division to develop network-based financial services software for
credit unions. In December 1997, LanXtra sold all of its assets except its
credit union financial services business, which we acquired in February 1999.
We were originally incorporated under the name Network Acquisitions, Inc. in
August 1998 for the purpose of acquiring the assets and business operations of
LanXtra. This acquisition was completed on February 1, 1999. At that time, we
changed our name to Cavion Technologies, Inc. and began to conduct some of our
business under the trade name cavion.com
Prior to our acquisition of LanXtra, we did not conduct any business
operations except preparation for the acquisition, including providing bridge
funding to LanXtra with funds raised through a private placement of promissory
notes and related warrants.
In the following discussion, "we" refers both to the business we purchased from
LanXtra on February 1, 1999, and to Cavion since its inception (referred to
below as the combined results).
Our revenues have been historically derived from recurring monthly
connectivity fees, installation services and software licensing fees associated
with our secure Internet access services and secure Internet financial
products. Beginning in January 2000, we changed our pricing policy and
eliminated installation fees for access to CUiNET-TM- and our Internet banking
products. Currently, credit unions pay us a monthly fee based on bandwidth
requirements and the mix of products and services we provide to them. In
addition, we charge vendors connected to CUiNET-TM- a flat monthly fee to be
connected to CUiNET-TM-in addition to charges based upon the number of credit
unions to which such vendors provide services. We market a connection to
CUiNET-TM- and our Internet banking products as a packaged solution to credit
unions.
In addition, we offer bill payment services, secure forms servers, secure
Internet access and an online loan application, CUiLOAN-TM-, with access to
third party approval products. Included in the monthly fee is the cost of
hardware, software installation, set up, maintenance, technical assistance for
our services, and any hardware or software upgrades. We do not charge end user
transaction fees or per user fees. Customers pay for a full year of services in
advance when they initially connect with us and on each anniversary date
thereafter. This payment is reflected on the balance sheet as an increase in
deferred revenue and by an increase in cash. As revenues are deemed earned,
deferred revenues are amortized into revenue.
24
<PAGE>
We have recently developed and are beginning to market our e-commerce
product, Member Emporium-TM-, which will allow credit unions to offer their
members products and services at discounted prices. In the future, we expect to
earn a substantial portion of our revenue from commissions and fees for
transactions conducted over Member Emporium-TM-. Revenue earned from Member
Emporium in the nine months ended September 30, 2000 was primarily from one
entity.
As of September 30, 2000, we had 208 customers under contract to connect to
CUiNET-TM-, which included 191 credit unions and 17 business critical vendors.
Of the 208 customers that contracted to connect to CUiNET-TM-, 99 had also
subscribed to our Internet banking products. We believe that our new pricing
policy, combined with our new strategy of marketing a CUiNET-TM- connection and
Internet banking products as a packaged solution will increase the percentage
of our credit union customers who also subscribe for Internet banking products.
As of September 30, 2000, 52% of credit unions that contracted to connect to
CUiNET-TM-also subscribed to our Internet banking products, as compared to 42%
through December 31, 1999.
Our operating expenses consist of network access and connectivity expenses,
installation service expenses, selling, general and administrative expenses,
research and development expenses, and amortization of goodwill and other
intangible assets. Network access and connectivity expenses include our monthly
connection costs paid to Convergent and other telecommunications providers,
hardware costs, as well as the ongoing personnel and system maintenance costs
associated with our data center. Our installation services expenses consist of
personnel costs required to implement our secure private network and Internet
banking products. Selling, general and administrative expenses include
marketing expenses, sales commissions, employee compensation and benefits,
amortization of stock-based compensation and occupancy and general office
expenses incurred in the ordinary course of business. Research and development
expenses consist of programmers and engineers allocated salaries applicable to
the amount of time they devoted to development activities. Amortization of
goodwill and other intangible assets is related to the purchase of LanXtra. Our
discussions of expected future expense and revenue trends and relationships is
dependent upon securing the financing necessary to continue our growth. If we
are unable to secure such financing in a timely manner, it is likely that we
would substantially reduce our scope of operations and decrease our
expenditures.
RESULTS OF OPERATIONS FOR CAVION AND THE PREDECESSOR
The following table sets forth the results of operations of Cavion and our
predecessor for the periods ended September 30, 1999 and for the one month
ended January 31, 1999. Combined operating information for the period ended
September 30, 1999 has been presented to facilitate comparison between these
periods.
25
<PAGE>
<TABLE>
<CAPTION>
Predecessor Cavion Combined
----------------------------------------------------------------------------------
For the month ended For the nine-month period For the nine-month period
January 31, 1999 ended September 30, 1999 ended September 30, 1999
---------------- ------------------------ ------------------------
(dollars in thousands)
<S> <C> <C> <C>
REVENUE:
Network access and connectivity fees $ 38 $ 385 $ 423
----------------------------------------------------------------------------------
Total revenue 38 385 423
OPERATING EXPENSES:
Network access and connectivity 32 283 315
Selling and marketing 73 958 1,031
General and administrative 109 887 996
Research and development 31 324 355
Amortization of goodwill - 635 635
---------------------------------------------------------------------------------
Total operating expenses 245 3,087 3,332
LOSS FROM OPERATIONS (207) (2,702) (2,909)
Interest income (expense), net (64) (392) (456)
----------------------------------------------------------------------------------
NET LOSS $(271) $(3,094) $(3,365)
==================================================================================
</TABLE>
26
<PAGE>
DETAIL OF NETWORK ACCESS AND CONNECTIVITY COSTS
A detail of the network access and connectivity costs for the last three
quarters and the nine-months ended September 30, 2000 is included in the table
below for a further analysis of the Company's results and our true direct
customer costs. The direct gross margin will vary based upon our product mix,
but the network access margins do reflect the fact that our profitability
increases with each credit union that is connected to our network. The network
access and connectivity costs shown in our statement of operations includes our
direct customer costs as well as our relatively fixed costs associated with the
build up of our infrastructure and technical staff (reflected as customer and
data center support below). The build up of our infrastructure and technical
staff has been increased to support our expected increase in customers. These
expenses will be absorbed by higher revenues as additional customers go on-line
our network.
<TABLE>
<CAPTION>
Three-month Three-month Three-month Nine-month period
period ended period ended period ended ended
September September
REVENUE: March 31,2000 June 30, 2000 30,2000 30,2000
------------------------------------------------------------------
<S> <C> <C> <C> <C>
Network access & connectivity fees $ 251,842 $ 338,915 $ 442,229 $ 1,032,986
e-commerce service fees $ 75,000 $ 75,000 $ 77,923 $ 227,923
-----------------------------------------------------------------
Total Revenue $ 326,842 $ 413,915 $ 520,152 $ 1,260,909
DIRECT CUSTOMER COSTS:
Network access & connectivity fees $ 83,123 $ 118,427 $ 171,049 $ 372,599
e-commerce service fees $ 5,652 $ 13,233 $ 23,870 $ 42,755
DIRECT GROSS MARGIN $ 238,067 $ 282,255 $ 325,233 $ 845,555
OPERATING EXPENSES:
Customer and data center support $ 195,739 $ 177,346 $ 308,420 $ 681,505
Selling and Marketing, excluding deferred compensation $ 719,345 $ 1,031,046 $ 1,048,933 $ 2,800,174
General and administrative, excluding deferred compensation $ 791,505 $ 1,257,029 $ 1,308,104 $ 3,355,842
Research and Development $ 198,972 $ 226,031 $ 252,174 $ 677,176
Amortization of Goodwill and Deferred Compensation $ 736,918 $ 499,542 $ 499,541 $ 1,736,001
------------ ------------ ----------- ------------
Total Operating expenses $ 2,642,479 $ 3,190,994 $ 3,417,172 $ 9,250,698
Other expenses (income) $ (25,943) $ (9,282) $ 19,594 $ (15,684)
-----------------------------------------------------------------
Net Loss $(2,378,469) $(2,899,457) $(3,111,533) $(8,389,459)
============ ============ ============ ============
</TABLE>
27
<PAGE>
THREE MONTH PERIOD ENDED SEPTEMBER 30, 2000 COMPARED TO THREE MONTH PERIOD ENDED
SEPTEMBER 30, 1999
REVENUE
Total revenue for the three-month period increased approximately $341,000,
or 190%, from approximately $179,000 for 1999 to approximately $520,000 for
2000. This increase consisted of an increase of approximately $263,000 in
network access and connectivity fees and an increase of approximately $78,000
in e-commerce fees for Member Emporium-TM-.
NETWORK ACCESS AND CONNECTIVITY FEES. Network access and connectivity fees
increased approximately $263,000, or 147%, from approximately $179,000 for 1999
to approximately $442,000 for 2000. This increase was due to the increase in
the number of customers connected to CUiNET-TM- from 41 as of September 30,
1999 to 147 as of September 30, 2000.
e-COMMERCE FEES. e-commerce fees increased from $0 in 1999 to $78,000. This
was due to the initiation of our Member Emporium-TM- in 2000. Of the amount
recognized, $75,000 represents fees earned from MoneyLine LLC. See Note 3 to
the financial statements.
OPERATING EXPENSES
Total quarterly operating expenses increased approximately $2.3 million, or
177%, from approximately $1.3 million for 1999 to approximately $3.6 million
for 2000. This increase consisted of an increase of approximately $353,000 in
network access and connectivity expenses, $766,000 in selling and marketing
expenses, $1.1 million in general and administrative expenses and $90,000 in
research and development expenses. These increases were primarily due to
increased personnel and occupancy costs to support our recent growth, increased
commissions paid to sales personnel, and amortization of stock-based
compensation for non-employees. Total operating expenses as a percentage of
total revenue decreased from 743% in 1999 to 694% in 2000.
COST OF NETWORK ACCESS AND CONNECTIVITY. Quarterly costs related to network
access and connectivity increased approximately $353,000, or 235%, from
approximately $150,000 for 1999 to approximately $503,000 for 2000. This
increase was due to an increase in the number of customers connected to
CUINET-TM-, and related increased telecommunications charges, personnel and
network maintenance and data center expenses and associated charges. The
Company's data centers are currently being built out and scaled to support the
level of volume anticipated as a result of our aggressive growth model. As
such, network maintenance and data center expenses are expected to eventually
decline as a percentage of related revenues in future periods as our customer
base expands. Cost of network access and connectivity as a percentage of
related revenue increased from 83% in 1999 to 114% in 2000.
SELLING AND MARKETING. Selling and marketing expenses increased
approximately $766,000, or 141%, from $544,000 for 1999 to $1.3 million for
2000. This increase was primarily due to increased sales and sales support
personnel, increased occupancy costs for additional sales offices, increased
commissions paid to sales personnel and amortization of stock-based
compensation. The amount of stock-based compensation included in selling and
marketing for the three-month period ending September 30, 2000 was
approximately $261,000. We anticipate that our commissions will increase as we
continue to grow the number of credit unions signed on to our network. Selling
and marketing expenses decreased as a percentage of total revenue from 303% in
1999 to 252% in 2000.
GENERAL AND ADMINISTRATIVE. General and administrative expenses for the
quarter increased approximately $1.1 million, or 452%, from $237,000 for 1999
to $1.3 million for 2000. This increase was primarily due to increased
personnel and increased occupancy costs for our corporate headquarters. General
and administrative expenses increased as a percentage of total revenue from
132% in 1999 to 252% in 2000.
RESEARCH AND DEVELOPMENT. Research and development expenses increased
approximately $90,000, or 56%, from $162,000 in the 1999 quarter to $252,000
for 2000. This increase was primarily due to increased
28
<PAGE>
personnel devoted to development activities. Research and development expenses
decreased as a percentage of total revenue from 90% in 1999 to 56% in 2000.
AMORTIZATION OF GOODWILL. Amortization of goodwill stayed at approximately
the same dollar value but decreased as a percentage of total revenue from 134%
in 1999 to 46% in 2000.
INTEREST INCOME AND EXPENSE. Interest income increased approximately
$31,000 in 2000 from 1999, and was derived from interest earned on short-term
cash investments. Interest expense totaled approximately $51,000 for 2000,
compared to approximately $168,000 for 1999. The decrease in interest expense
is due to higher debt service costs during 1999 prior to our initial public
offering and obligations assumed from LanXtra. Interest expense in 2000
primarily related to capital leases and our notes payable.
NINE MONTH PERIOD ENDED SEPTEMBER 30, 2000 COMPARED TO NINE MONTH PERIOD ENDED
SEPTEMBER 30, 1999 (COMBINED CAVION AND LANXTRA)
REVENUE
Total revenue for the nine-month period increased approximately $838,000,
or 198%, from approximately $423,000 for 1999 to approximately $1.3 million for
2000. The increase is comprised of an increase of approximately $610,000 in
network access and connectivity revenue and an increase of approximately
$228,000 in e-commerce fees for Member Emporium-TM- .
NETWORK ACCESS AND CONNECTIVITY FEES. Network access and connectivity fees
increased approximately $610,000, or 144%, from approximately $423,000 for 1999
to approximately $1.0 million for 2000. This increase was due to the increase
in the number of customers connected to CUiNET-TM- from 41 as of September 30,
1999 to 147 as of September 30, 2000.
e-COMMERCE FEES. e-commerce fees increased from $0 in 1999 to $228,000.
This was due to the initiation of our Member Emporium-TM- preferred merchant
program in 2000. Of the amount recognized, $225,000 represents fees earned from
MoneyLine LLC. See Note 3 to the financial statements.
OPERATING EXPENSES
Total operating expenses for the nine-month period increased approximately
$6.4 million, or 194%, from approximately $3.3 million for 1999 to
approximately $9.7 million for 2000. This increase consisted of an increase of
approximately $781,000 in network access and connectivity expenses, $2.5
million in selling and marketing expenses, $2.7 million in general and
administrative expenses, $322,000 in research and development expenses, and
$80,000 of amortization of goodwill. These increases were primarily due to an
additional month of amortization of goodwill from the LanXtra acquisition,
increased personnel and occupancy costs to support our recent growth, increased
commissions paid to sales personnel, and amortization of stock-based
compensation for non-employees. Total operating expenses as a percentage of
total revenue decreased from 788% in 1999 to 767% in 2000.
COST OF NETWORK ACCESS AND CONNECTIVITY. Costs related to network access
and connectivity increased approximately $781,000, or 248%, from approximately
$315,000 for 1999 to approximately $1.0 million for 2000. This increase was due
to an increase in the number of customers connected to CUINET-TM-, and related
increased telecommunications charges, personnel and network maintenance and
data center expenses and associated charges. The Company's data centers are
currently being built out and scaled to support the level of volume anticipated
as a result of our aggressive growth model. As such, network maintenance and
data center expenses are expected to eventually decline as a percentage of
related revenues in future periods as our customer base expands. In the
beginning of the period ended September 30, 2000, costs of network access and
connectivity include the costs to transition telecommunication providers which
included higher telephony costs and some overlap of charges, which costs were
eliminated during the later 6 months of this period. This increase was
29
<PAGE>
somewhat offset by a reduction in prices we were charged for installation
services by a new telecommunications provider. Cost of network access and
connectivity as a percentage of related revenue increased from 76% in 1999 to
106% in 2000.
SELLING AND MARKETING. Selling and marketing expenses increased
approximately $2.5 million, or 250%, from $1.0 million in 1999 to $3.5 million
for the corresponding period in 2000. This increase was primarily due to
increased sales and sales support personnel, increased occupancy costs for
additional sales offices, increased commissions paid to sales personnel and
amortization of stock-based compensation. The amount of stock-based
compensation included in selling and marketing for the nine-month period ended
September 30, 2000 was approximately $697,000. The fair value of stock-based
compensation to non-employees is estimated on the vesting date using the
Black-Scholes option-pricing model. We anticipate that our salaries and
commissions will increase as we hire additional personnel to facilitate the
growth of our business. Selling and marketing expenses increased as a
percentage of total revenue from 236% in 1999 to 277% in 2000.
GENERAL AND ADMINISTRATIVE. General and administrative expenses increased
approximately $2.7 million, or 270%, from $1.0 million for the first nine
months in 1999 to $3.7 million for 2000. This increase was primarily due to
increased personnel, increased occupancy costs for our corporate headquarters,
write-off of fees for our cancelled Form S-1 filing in the second quarter of
2000 and amortization of stock-based compensation. The amount of the write-off
for the cancelled S-1 filing was $243,000. The amount of stock-based
compensation included in general and administrative expenses for the nine-month
period ended September 30, 2000 was approximately $324,000. All options granted
to non-employees who are not directors are fully vested. We also expect
increased occupancy expenses and corporate infrastructure costs as we grow.
General and administrative expenses increased as a percentage of total revenue
from 236% in 1999 to 292% in 2000.
RESEARCH AND DEVELOPMENT. Research and development expenses for the first
nine months of the year increased approximately $321,000, or 90%, from $356,000
in 1999 to $677,000 in 2000. This increase was primarily due to increased
personnel devoted to development activities. Research and development expenses
decreased as a percentage of total revenue from 84% in 1999 to 54% in 2000.
AMORTIZATION OF GOODWILL. Amortization of goodwill increased approximately
$79,000, or 12%, from $636,000 in 1999 to $715,000 in 2000. This increase is
due to the acquisition of LanXtra, and the related goodwill, which occurred on
February 1, 1999. Amortization of goodwill decreased as a percentage of total
revenue from 150% in 1999 to 57% in 2000.
INTEREST INCOME AND EXPENSE. Interest income was approximately $155,000 in
2000, and was derived from interest earned on short-term cash investments.
Interest expense totaled approximately $139,000 for 2000, compared to
approximately $456,000 for 1999. The decrease is due to higher debt service
costs during 1999 prior to our initial public offering and obligations assumed
from LanXtra. Interest expense in 2000 primarily related to capital leases and
our notes payable.
LIQUIDITY AND CAPITAL RESOURCES
Since our inception, we have funded our operations primarily through net
proceeds from public and private sales of equity and debt securities and, to a
lesser extent, through cash flow generated by our operations. Our business is
subject to substantial risks associated with a rapidly evolving marketplace,
including the need for additional capital, technological change, intense
competition, and dependence on key personnel. As of September 30, 2000, we had
cash and cash equivalents of approximately $189,000, and we had a working
capital deficit of approximately $3.2 million. During the first nine months of
2000, we recorded a net loss of approximately $8.4 million, and we have an
accumulated deficit of $13.2 million as of September 30, 2000. As previously
reported, the Company issued $470,000 in 15% secured promissory notes due
October 19, 2000. The principal of these notes has not yet been paid.
Accordingly, based on the 30 day grace period, the notes went into default on
November 19, 2000 because we did not pay the principal and accrued interest by
that date. To date, the Company has not received a notice of
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default from any of the noteholders. Management is currently negotiating with
the note holders to either extend the term of the various notes or to convert
them to convertible notes offered in our August 2000 private placement.
During the first nine months of 2000, we pursued a strategy of aggressive
growth in the number of credit unions and related entities connected to our
network and using our products. We also pursued a strategy of aggressive
development of our Member Emporium product. We believe that both strategies,
absent our current liquidity constrictions, are resulting in new customers and
will lead to increased revenue in the future. To pursue these strategies, we
expended substantial funds in marketing, network infrastructure buildout, and
overall organizational infrastructure enhancement in anticipation of growth in
our revenue and customer base. In order to deliver the services and products we
marketed, we were required to make these expenditures in advance of the
resultant revenue.
Our management has pursued several courses of action to secure capital to
finance these strategies for growth. We filed with the SEC in April 2000 to
raise substantial additional capital through a public offering of our stock.
This filing was withdrawn due to the volatile public capital markets. As
described in the Notes to Financial Statements, we have engaged several
financial intermediaries to solicit investors and creditors on our behalf.
Further, our Board authorized the issuance of up to $4 million of convertible
subordinated notes, of which $1.075 million has been raised through November
17, 2000. Based on its cash position at November 17, 2000, the Company
believes that it will be unable to continue to operate beyond a few weeks
without additional funding. In addition, the Company may be required to
implement a substantial decrease in its scope of operations. Our management
continues to pursue various alternatives to enable the Company to continue to
grow. The Company is in ongoing discussions to identify additional sources of
capital including further sales of its securities, which may result in
substantial dilution to existing shareholders. The Company is also
considering other alternatives, including the sale of all or substantially
all of the Company's assets, the sale of a controlling interest in the
Company, substantial reductions in headcount and operating expenditures, and
other actions. In particular, the Company is presently engaged in
negotiations with an application services provider engaged in direct account
aggregation whereby the Company, or its private network, would be acquired
for cash and/or securities. There can be no guarantee that any such actions
will occur or that, if they occur, they will allow the Company to continue
operations for an extended period of time.
The accompanying financial statements have been prepared assuming that
the Company will continue as a going concern. As discussed above and in Note
1 to the financial statements, because of ongoing and significant operating
losses, as well as other matters discussed herein, the Company may be unable
to continue as a going concern unless it is able to raise substantial
additional capital. The financial statements do not include any adjustments
relating to the recoverability and classification of asset carrying amounts
or the amount and classification of liabilities that might result should the
Company be unable to continue as a going concern.
The Company has been advised by its independent public accountants that, if
it is unable to raise sufficient capital to reasonably fund its operations and
other cash needs through at least December 31, 2001, prior to the completion of
their audit of the Company's financial statements for the year ending December
31, 2000, the auditor's report on those financial statements will be modified
to include a statement regarding their substantial doubt regarding our ability
to continue as a going concern.
Our operating activities used cash of approximately $1.7 million and
approximately $4.9 million during the three and nine months ended September 30,
2000 and approximately $310,000 and approximately $1.3 million during the three
and nine months ended September 30, 1999. Cash used by operating activities in
the listed periods primarily resulted from our net losses, which were partially
offset by depreciation and amortization, accretion of debt discount and putable
stock non-cash compensation charge, by increases in accounts payable and
deferred revenue.
Our investing activities used cash of approximately $46,000 and $133,000
during the three and nine months ended September 30, 1999, respectively, and
approximately $442,000 and $1.5 million during the three and nine months ended
September 30, 2000, respectively, which was primarily related to the purchase
of new property and equipment.
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Our financing activities used cash of approximately $45,000 and $133,000
million during the three and nine months ended September 30, 1999,
respectively, and approximately $355,000 and approximately $2.3 million during
the three and nine months ended September 30, 2000. The cash generated by
financing activities during 1999 and 2000 resulted primarily from the sale of
equity, which was offset somewhat by payments of offering costs and principal
payments on capital leases.
In August 2000, the Company entered into a private offering of up to $3
million in convertible subordinated Notes and Warrants to purchase shares of
the Company's Class A Common Stock. In September 2000, the Board of Directors
raised the maximum size of the private offering to $4 million. The Notes were
convertible into Common Stock at the ratio of 8,333 shares per $50,000 Note
($6.00 per share). In addition, the Note holders received detachable warrants
to purchase common stock at the ratio of 2,083 shares per $50,000 note with
an exercise price of $6.00. On September 19, 2000, the Company accepted the
first tranche of the 10% convertible subordinated notes in the amount of
$600,000. In October, the Company modified the terms of the Notes and
Warrants. The Notes are now convertible into Common Stock at the ratio of
25,000 shares per $50,000 note ($2.00 per share). The detachable Warrants are
prorated for the purchase of Common Stock at the ratio of 6,250 shares per
$50,000 note with an exercise price of $2.00. These updated terms now apply
to the first tranche as well. The Company has subsequently accepted an
additional $475,000.
In July 2000, we entered into a private stock purchase agreement with an
institutional investor, Mothlake International Limited, in which the investor
committed to buy up to 1 million shares of our Class A Common Stock. This
agreement will enable us, in our discretion, to sell up to 1 million shares of
our Common Stock to this institutional investor, subject to specified terms and
conditions, over the twenty-four month period following the effectiveness of
the registration statement covering the resale of those shares. As an example
of the liquidity provided by this security, as of August 7th, we would be able
to draw approximately $536,000 in gross proceeds for the current 22-day draw
down period based upon the formulas defined in the agreement. Subsequent draw
down amounts will vary based upon our stock price and the trading volume of our
Common Stock. Our efforts to provide funds for operations may have a negative
impact on our operating results (such as in the form of interest expense)
and/or dilution to existing shareholders. There can be no assurance that these
transactions will be consummated. We intend to continue to find acceptable
sources of funds and we would consider a reduction in the scope of our
operations to preserve our cash.
In February 2000, we received net proceeds of approximately $2.2 million
through a private placement to two investors. We issued 205,000 shares of
common stock for $12.00 per share.
In March 1999, we received net proceeds of approximately $1.5 million from
the private placement of 567,000 shares of our preferred stock. Subsequent to
March 31, 1999, the Company sold an additional 133,000 shares for a total of
700,000 shares and total net proceeds of approximately $1.8 million. These
shares were converted into 700,000 shares of common stock on November 3, 1999.
We currently lease all of the equipment in our data center. We have a lease
line of credit from Data Sales Company which enables us to lease up to $500,000
of computer hardware. Interest on the outstanding balance accrues at the rate
of 10.7% annually. As of September 30, 2000, a total of approximately $361,000
was outstanding on this line. Additionally, we have an agreement with
Convergent Communications in which we pay a monthly fee for data center
equipment, customer equipment, maintenance and related services for the
network. The amount paid and accrued to Convergent Communications during the
nine-month period ended September 30, 2000 was approximately $534,000.
Management expects that we will continue to operate at a loss as we expand
our network of credit union clients. Expenses will increase because of the need
to acquire additional equipment and provide for additional telephone
connections. We believe our operating results may fluctuate significantly as a
result of a variety of factors, some of which are outside of our control.
Because of that, we cannot assure you that we will achieve profitable
operations even with a significant increase in our credit union customer base.
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INFLATION
Although our operations are influenced by general economic conditions, we
do not believe that inflation had a material effect on the results of our
operations during the three or nine month periods ended September 30, 2000, nor
do we expect that inflation will have a material effect on the results of our
future operations. Our customer contracts have CPI Index provisions that can be
adjusted on an annual basis.
RECENT ACCOUNTING GUIDELINES
During December 1999, the Securities and Exchange Commission released Staff
Accounting Bulletin 101, "Revenue Recognition" ("SAB 101"), to establish
guidelines for revenue recognition and enhance revenue recognition disclosure
requirements. SAB 101 clarifies basic criteria for when revenues are taken into
account for purposes of a company's financial statements. SAB 101 is effective
for the quarter ended March 31, 2000. However, SAB 101 is not required to be
adopted until the quarter ending December 31, 2000. If we determine that our
revenue recognition policies must change to be in compliance with SAB 101, the
implementation of SAB 101 will require us to restate our quarterly results for
2000 to reflect a cumulative change in accounting principle as if SAB 101 had
been implemented on January 1, 2000. We are currently assessing the
implications of adopting SAB 101. Currently, implementation service fees are
recognized over the term of the underlying contract rather than on completion
of implementation. Upon adoption of SAB 101, previously recognized
implementation fees will be deferred and recognized ratably over the contract
term. In the period of adoption, the cumulative impact will be reported as a
change in accounting principle as dictated by SAB 101.
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PART II
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
None.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
RECENT SALES OF UNREGISTERED SECURITIES.
JULY 2000 PRIVATE PLACEMENT. On July 21, 2000, we entered into a private stock
purchase agreement with Mothlake International Limited, an institutional
investor, in which Mothlake committed to buy up to 1,000,000 shares of our
common stock. The agreement enables us, in our discretion, to sell up to 1
million shares of our common stock, subject to specified terms and conditions,
over the next twenty-four months. In conjunction with the agreement, we issued
three year warrants to Mothlake to purchase 60,000 shares of our common stock
at $10.17 per share. We also issued three year warrants to Avalon Research
Group, Inc., the placement agent and a registered broker-dealer, to purchase
80,000 shares of our common stock at the same exercise price per share. Avalon
is also entitled to receive a placement fee of 8% for any drawdowns made under
the agreement with Mothlake. In addition, under the agreement, we will issue
Mothlake a warrant to purchase up a number of shares of our common stock equal
to 25% of the shares purchased in that drawdown, exercisable at the same price
as the shares it purchased in that drawdown. The offering was made in reliance
on the exemption from registration provided by Section 4(2) and 4(6) of the Act
and Rule 506 of Regulation D adopted under the Act, as well as exemptions under
various state securities laws. We also agreed to register the shares to be
issued to Mothlake and the shares for which the warrants are exercisable.
AUGUST 2000 PRIVATE PLACEMENT. In August 2000, our board of directors approved
a private offering of up to $3,000,000 in convertible subordinated notes.
During September 2000, the maximum amount of the offering was increased to
$4,000,000. During September, October and November we raised $1,075,000 and the
offering is still open. The notes are convertible into our common stock at the
ratio of 25,000 shares per $50,000 note. Each note holder received warrants to
purchase 6,250 shares of our stock for each $50,000 note. The securities were
sold in reliance on the exemption from registration provided by Section 4(2)
and 4(6) of the Act and Rule 506 of Regulation D adopted under the Act, as well
as exemptions under various state securities laws. The offering has been sold
to ten accredited investors to date. In connection with the offering, First
Capital Investments, Inc. acted as our placement agent and received a
commission of 8%, or $80,000, and will receive the same commission on
subsequent closings. First Capital also received a warrant to purchase 50,000
shares of our common stock, exercisable at $2.20, 110% of the exercise price of
the warrants issued to the note holders, for a period of 5 years, and will
receive additional warrants on subsequent closings. We also agreed to register
the shares for which the notes are convertible and the warrants are exercisable
as soon as practicable.
USE OF PROCEEDS.
As previously reported, as of September 30, 2000, we had used all
of the $6,755,000 of the net proceeds of our 1999 initial public offering
approximately as follows:
- $1.3 million to purchase of equipment, infrastructure and establish new
points of presence
- $2.2 million for selling and marketing expenses
- $2.2 million for general working capital
- $0.8 million to pay debts, accrued interest and accounts payable
- $0.3 million to repay our August 1999 promissory notes
As part of the underwriters' compensation for the funds raised in that
offering, we issued warrants to purchase 120,000 shares of our common stock.
These underwriters' warrants are exercisable at any time during a four year
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period beginning one year after October 29, 1999, at an exercise price equal to
125% of the offering price, or $8.125. On February 25, 2000, we agreed with
certain of the present holders of the warrants that 112,500 of these warrants
would be exercised without a cash payment on November 3, 2000, at $19.50 per
share, the fair market value of our common stock on the date of the agreement,
in return for the issuance of 65,625 shares of our common stock. On November 3,
2000, those 65,625 shares were issued to 11 persons in exchange for the
cancellation of the 112,500 warrants.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
As previously reported, between October 20, 1998 and February 8,
1999, the Company issued $470,000 in 15% secured promissory notes due October
19, 2000 to 13 investors. The notes are secured by a lien on our assets. The
principal of these notes has not yet been paid. Accordingly, based on the 30
day grace period, the notes went into default on November 19, 2000 because we
did not pay the principal and accrued interest by that date. To date, the
Company has not received a notice of default from any of the note holders.
Management is currently negotiating with the note holders to either extend
the term of the various notes or to convert them to convertible notes offered
in our August 2000 private placement.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not Applicable.
ITEM 5. OTHER INFORMATION
RISK FACTORS
OUR CONTINUING OPERATIONS DEPEND ON OUR ABILITY TO RAISE CAPITAL IN THE
IMMEDIATE FUTURE.
As of date of this filing, we do not have enough cash to continue
operations for more than a few weeks. While management is confident that we
will be able to raise enough capital to operate at existing or reduced levels
for the foreseeable future, either by the private sale of debt or equity
securities or by a business combination or alliance with another, better
capitalized, entity, there is no guarantee that their optimism will prove to be
warranted. The amount of cash consumed by our present level of operations is
considerable and, even though management believes that a significant
diminishment of our operations, including but not limited to our workforce, is
highly inadvisable at this time, such action may prove to be necessary or
unavoidable and could have an adverse effect on our long term prospects and
potential profitability.
THE TRADING MARKET FOR OUR COMMON STOCK WOULD BE ADVERSELY AFFECTED IF WE ARE
DELISTED BY NASDAQ.
While our common stock is currently traded on the Nasdaq SmallCap
Market, there has recently been a relatively low volume of trading in those
shares. Consequently, the price at which the shares trade may be highly
volatile. In addition, in the absence of a significant infusion of new equity
capital, our common stock will no longer be eligible to be included on the
Nasdaq SmallCap Market. If delisting occurs, our common stock would probably
only be traded on the NASD's OTC Bulletin Board, which is considered much less
desirable than Nasdaq. Our stock could also come to be considered as a "penny
stock" under federal securities laws. This change would likely lower the
liquidity of our common stock which, in turn, may result in the loss of
effective trading markets for the shares. Further, additional regulatory
requirements apply to trading by broker-dealers of penny stocks.
WE HAVE A SHORT OPERATING HISTORY SO THERE IS LIMITED INFORMATION CONCERNING
OUR PRIOR OPERATIONS AND FINANCIAL RESULTS.
Our business plan was developed in January 1998. Our short
operating history makes it difficult to evaluate us and to predict our future
financial results. As an early stage company in the new and rapidly evolving
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Internet banking and e-commerce markets, we face a number of significant risks.
These risks include our potential inability to:
- attract credit unions to use CUINET-TM-;
- gain acceptance of Member Emporium-TM- by credit unions and
their members;
- develop, test, market and sell new and enhanced products and
services;
- expand successfully our sales and marketing efforts;
- maintain our current, and develop new, strategic partners;
- promote acceptance of our Internet banking products and related
services to credit unions and their members;
- respond effectively to competitors providing alternative
products to credit unions and their members; and
- continue to develop and upgrade our technology.
We may not succeed in achieving all or any of these goals and
challenges, and current evaluations of us and our prospects may prove to be
inaccurate.
WE HAVE A HISTORY OF LOSSES AND CANNOT GUARANTEE THAT WE WILL EVER BECOME
PROFITABLE.
Neither Cavion nor its predecessor has ever earned a profit. As of
September 30, 2000, our accumulated deficit was more than $13 million. We
expect to lose money for at least the rest of fiscal 2000 and there can be no
assurance that we will ever achieve profitable operations. Even if we do become
profitable, we may not be able to continue to be profitable.
Today, we receive the majority of our revenue from the sale of
products and services to our credit union customers. If our revenue does not
grow as rapidly as we anticipate or if we are unable to control our expenses,
our operating performance would be adversely affected and we will be unable to
achieve profitability.
WE ARE CURRENTLY EXPERIENCING A PERIOD OF SIGNIFICANT GROWTH THAT MAY PLACE A
STRAIN ON OUR RESOURCES.
We are experiencing and, if we are funded, expect to continue to
experience significant growth in our operations. This expansion will place
additional demands on our management, operational capacity and financial
resources. Our management, sales, technical and accounting resources may not be
adequate to support our recent expansion and anticipated future growth. In
order to manage our expected growth, we will be required to hire additional
personnel and devote significant resources to improving or replacing existing
operational, accounting and informational systems, procedures and controls. Our
future operating results will substantially depend on the ability of our
management to manage our growth effectively by, among other things:
- predicting accurately the growth in the demand for our Internet
banking products and related services by our customers;
- attracting, training, motivating, managing and retaining key
employees;
- expanding and improving our operating and financial systems,
procedures and controls;
- acquiring and installing new equipment and facilities; and
- responding quickly and effectively to unanticipated changes in
the industry.
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If we are unable to manage our growth effectively, our business may be adversely
affected.
WE CURRENTLY RELY ON THIRD PARTY TELECOMMUNICATION SERVICE PROVIDERS TO
ESTABLISH AND MAINTAIN THE CONNECTION BETWEEN OUR CUSTOMERS AND
CUINET-TM-.
In order to provide our Internet-based products to our customers,
we must purchase a large quantity of telecommunications services from
providers of these services. We have entered into non-exclusive agreements
with Convergent Communications Services, Inc. and MCI Worldcom to establish
and maintain connectivity between our network and substantially all our
customers. Our business depends upon the ability of these telecommunications
service providers, to establish and maintain connectivity with CUINET-TM-.
Convergent has recently experienced its own financial difficulties which,
because it is also publicly held (Nasdaq: CONV), have been widely publicized.
If Convergent is unable to provide connectivity in a timely manner to our new
customers or experiences problems in delivering services to our existing
customers, we would try to shift our customers to another provider, but our
business could still be adversely affected. If we are unable to continue to
obtain services from Convergent or some other provider on economically
favorable terms, our business and our financial performance would be
adversely affected.
OUR BUSINESS AND PROSPECTS WILL SUFFER IF CREDIT UNIONS AND THEIR MEMBERS DO
NOT ACCEPT AND USE MEMBER EMPORIUM-TM-, OUR E-COMMERCE SOLUTION.
We hope to derive a substantial portion of our future revenue from
our e-commerce product, Member Emporium-TM-. This product is a network of
portals which is designed to aggregate credit union members and offer them a
variety of products and services from third party vendors, such as insurance
policies, home mortgages, Internet access, online brokerage, and consumer
merchandise, often at a discount to retail or Internet-based prices. The
success of Member Emporium-TM- is dependent on, among other things, our ability
to:
- convince credit unions to allow us to link their websites to the
Member Emporium-TM- website and network of portals;
- persuade businesses to advertise their products and services on
the Member Emporium-TM- website and portal network, and to offer
those products and services at a meaningful discount;
- entice credit union members to visit the Member Emporium-TM-
website and portal network, and purchase the products and
services advertised; and
- to earn commissions on these transactions.
If Member Emporium-TM- is unable to produce the revenue we
presently expect, there would be a material adverse effect on our business,
financial condition and results of operations.
OUR SUCCESS DEPENDS ON OUR ABILITY TO MARKET OUR PRODUCTS TO CREDIT UNIONS,
WHICH HISTORICALLY HAVE BEEN SLOW TO ADOPT NEW TECHNOLOGIES.
Our revenue depends upon information technology spending by credit
unions. We cannot be sure that this type of spending will increase or even
continue at today's levels. Our experience suggests that credit unions tend to
be cautious in making purchase decisions regarding new technologies for their
financial applications. As a result, we must provide a significant level of
education to prospective customers regarding the use and benefits of our
products and services prior to their purchase. Furthermore, credit unions are
frequently slow to approve capital expenditures, especially for new
technologies that affect key operations. All of this could have the effect of
significantly lengthening our sales cycle, thereby delaying revenue growth and
adversely affecting operating results.
OUR BUSINESS COULD SUFFER IF THE CREDIT UNION MEMBERSHIP ACCESS ACT OF 1998 IS
REPEALED OR LIMITED IN ITS SCOPE.
Our primary customers are credit unions which are regulated by the
National Credit Union Administration (NCUA). In 1998, the U.S. Congress passed
the Credit Union Membership Access Act of 1998 which allows
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federally chartered credit unions to solicit credit union members from more
than one occupational group, as well as make certain business loans to their
members. The Credit Union Membership Act has the potential to increase the
activity of federal credit unions in the financial marketplace as it presents
new opportunities for federal credit unions to expand their member base. A
repeal of the Act would eliminate the new opportunities allowed by the Act.
Title IV of the Act requires the U.S. Treasury Department to study
the regulatory, tax and other differences between credit unions and other
federally insured financial institutions, including a review of the potential
effect of applying federal tax laws to credit unions. The Treasury Department's
study will consider whether the competitive advantage produced by credit
unions' tax exemption may endanger the viability of smaller banks. The Treasury
Department may ultimately recommend imposing taxation on credit unions or
enacting legislative or administrative measures to cut taxes for smaller
depository institutions which compete with credit unions. Any such new laws or
regulations which subject credit unions to taxation or reduce the tax liability
of competing financial institutions could adversely affect credit unions and
the size of our potential market. Similarly, the adoption of amendments to the
Act or the issuance of NCUA regulations under the Act which impair credit
unions' ability to expand or serve their member base could hinder our growth
and have a material adverse effect on our business, financial condition and
operating results.
OUR BUSINESS AND FINANCIAL CONDITION WILL BE ADVERSELY AFFECTED IF THERE IS A
DECLINE IN DEMAND FOR OUR PRODUCTS AND SERVICES OR IN THE USE OF THE INTERNET
FOR FINANCIAL SERVICES GENERALLY.
We expect to derive substantially all of our revenues from products
and services provided to credit unions, their members and other participants in
the financial services industry. Our future success depends significantly upon
the willingness of credit unions to utilize our services and offer
technological innovations such as Internet banking, bill payment and online
shopping to their members, and upon their members' demand for and acceptance of
these technological innovations. If credit unions and their members do not
readily accept these technological innovations, the demand for our products and
services will be materially and adversely affected.
There can be no assurance that we will be successful in marketing
these products and services or other integrated products and services. In
addition, changes in economic conditions and unforeseen events, including
recession, inflation or other adverse occurrences, may result in a significant
decline in the utilization of credit union services or demand for our products
and services. Any event that results in decreased use of credit union services,
or increased pressure on credit unions toward the in-house development of
Internet banking systems, could have a material adverse effect on our business,
financial condition and results of operations.
Demand for our products and services by credit unions is driven by
the demand for Internet-based products and services by credit union members.
Our business would be adversely affected if Internet use does not continue to
grow or grows more slowly than expected. Internet usage may be inhibited for a
number of reasons, including inadequate network infrastructure, security
concerns, inconsistent quality of service, and unavailability of cost
effective, high-speed access to the Internet. If the market for Internet-based
financial services fails to grow, grows more slowly than anticipated, or
becomes saturated with competitors, it is likely that our business, financial
condition and results of operations would be materially and adversely affected.
WE CURRENTLY RELY ON A SINGLE DATA CENTER TO SUPPORT ALL OF OUR PRODUCTS AND
SERVICES.
Essential components of our communications and network equipment
are currently located at our corporate headquarters in Englewood, Colorado. A
natural disaster, such as fire, earthquake or flood, at or affecting our
facility could result in failures or interruptions in providing our network and
Internet banking services to our customers. In the event of a failure or
interruption in our systems, our reputation could be materially harmed and we
could lose many of our current and potential customers. We do not currently
have backup facilities for our network and Internet banking services. We are
currently constructing two additional data centers which will provide the
redundancy necessary to serve as backup facilities for our existing data center
and for each other. Even though these additional data centers were previously
scheduled to be operational in the third quarter of this year, we have been
forced to delay their implementation because of our limited financial
resources, As a result, it now appears that neither center will be fully
operational before the first quarter of 2001. We still cannot be certain that
these new data centers will become operational as scheduled or that, when
operational, they will perform as
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expected. Even with the two new data centers, we could still experience a
failure or interruption in our systems, which could lead to delays, loss of
data or the inability to provide our services to our customers.
TECHNOLOGICAL CHANGES MAY RENDER OUR SOLUTIONS OBSOLETE.
The electronic banking and financial services industry is
characterized by rapidly changing technology and evolving industry standards.
In addition, we have several competitors who have been consistently introducing
new products and services, some of which compete with our products and
services. Our future success will depend on our ability to design, develop,
sell and support new and integrated products and services that will keep pace
with technological advances, industry standards and our competitors, as well as
satisfy the evolving needs of credit unions and their members. Our inability to
develop and introduce such products and services in a timely manner could limit
the marketability of our products and services which would adversely affect our
business. Furthermore, we cannot predict the time and costs involved in
developing new and integrated products and services. Actual development costs
could substantially exceed budgeted amounts and completion of such development
could be later than presently scheduled. In either case, our operating results
and business could be seriously harmed.
COMPETITION FROM THIRD PARTIES COULD REDUCE OR ELIMINATE DEMAND FOR OUR
PRODUCTS AND SERVICES.
The market for Internet banking services is highly competitive, and
we expect that competition will intensify in the future. We may not be able to
compete successfully against our current or future competitors and,
accordingly, we cannot be certain that we will be able to expand the number of
our customers, or retain our current customers or third-party service
providers. A number of public and private companies compete with one or more of
the individual products and services offered by Cavion. Any of these companies,
as well as other potential competitors, could in the future offer a combination
of products and services to credit unions similar to the combination we
presently offer. Many of our current and potential competitors have longer
operating histories and may be in a better position to produce and market their
services due to their greater financial, technical, marketing and other
resources, as well as their significantly greater name recognition and larger
installed bases of customers.
UNDETECTED DEFECTS MAY EXIST IN THE HARDWARE AND SOFTWARE THAT WE USE TO
DELIVER OUR PRODUCTS.
The hardware and software used by our systems in the delivery of
our products and services currently or in the future may contain undetected
errors, defects or bugs. Although we have not suffered significant harm from
any errors or defects to date, we may discover significant errors or defects in
the future that we may or may not be able to correct. Any such defects could
result in a loss of sales and additional costs as well as damage to our
reputation and our relationships with our customers.
WE MAY EXPERIENCE CAPACITY CONSTRAINTS AS THE VOLUME OF TRAFFIC ON OUR SYSTEMS
INCREASES.
If the volume of traffic and transactions on our system increases
substantially, we could periodically experience temporary capacity constraints,
resulting in unanticipated system disruptions, slower response times and lower
levels of customer service. We may be unable to project accurately the rate or
timing of increases, if any, in the use of our services or to expand and
upgrade our systems and infrastructure to accommodate these increases in a
timely manner. Any inability to do so could harm our business.
IMPLEMENTATION OF OUR SOLUTION BY OUR CREDIT UNION CUSTOMERS MAY TAKE LONGER
THAN WE ANTICIPATE.
During the course of an initial implementation of our products and
services, we must integrate our Internet banking software with a credit union's
core processing software. This involves the installation of an interface to
permit communication between our products and services and the credit union's
core processing software, which typically takes an average of 60 to 90 days
from the date the credit union contracts with us. From time to time, we may
experience delays in the integration process, particularly if we do not already
have an established interface for a particular core processing software. We
also rely on both our own and the customer's telecommunications provider to
establish connectivity between our systems and the customer. The process of
connecting a customer to CUINET-Registered Tradmark- takes an average of 60
days from the date the credit union contracts with us to implement by
Convergent. A longer implementation period for either the integration or
connectivity process will increase our costs associated with the implementation
and delay our recognition of revenues. Moreover, changes to the core
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software systems used by existing customers, or custom implementations for new
customers, may cause integration delays. Significant delays of customer
implementation, however caused, could materially and adversely affect our
operating results for subsequent periods.
BECAUSE OF THE IMPORTANCE TO US OF DAVID SELINA'S EXPERIENCE AND RELATIONSHIPS
IN THE CREDIT UNION INDUSTRY, AND JEFF MARSHALL'S TECHNICAL EXPERTISE, OUR
SUCCESS MAY BE DEPENDENT ON OUR ABILITY TO RETAIN THESE INDIVIDUALS.
We believe that the credit union and related management experience
of David J. Selina, our President, Chief Executive Officer and Chief Operating
Officer, is important to our future success. We also believe that the software
development ability of Jeff Marshall, Vice President of Software Development,
is important to our future success. We have employment contracts with Messrs.
Selina and Marshall, and we have purchased $1,000,000 of key man insurance on
each of them. The loss of the services of Messrs. Selina or Marshall could have
a significant adverse effect on our business.
OUR FUTURE SUCCESS WILL BE DEPENDENT ON OUR ABILITY TO ATTRACT AND RETAIN
QUALIFIED PERSONNEL.
Our growth plan will require us to hire more people in sales,
customer service, research and development and other areas during 2000 and the
foreseeable future. Competition for qualified people in the Internet services
and software industry, particularly in the network services field, is intense.
We compete with bigger and better financed software and Internet services
companies for these employees. Our future success depends on our ability to
attract, retain and motivate highly qualified personnel.
Our ability to expand our business will depend significantly on our
ability to expand our sales and marketing forces and our strategic
partnerships. To continue our growth we must cross-market products and services
to existing customers and enter into agreements with new customers. This
requires us to locate and hire experienced sales and marketing personnel and to
establish and maintain key marketing relationships.
SECURITY BREACHES COULD DAMAGE OUR REPUTATION AND BUSINESS.
Our networks may be vulnerable to unauthorized access, computer
viruses and other disruptive problems. We transmit confidential information in
providing our services. Users of Internet banking and other e-commerce services
are concerned about the security of transmissions over public networks.
Therefore, it is critical that our facilities and infrastructure remain secure
and are perceived by the marketplace to be secure. A material security breach
affecting us could damage our reputation, deter credit unions from purchasing
our products, deter their members from using our products, or result in
liability to us. Further, any material security breach affecting our
competitors could affect the marketplace's perception of Internet banking in
general and have the same effects.
Concerns about security and privacy may inhibit the growth of the
Internet and other online services generally, especially as a means of
conducting commercial transactions. Any well-publicized compromise of security
could deter people from using the Internet or using it to conduct transactions
that involve the transmission of confidential information. We may need to
expend significant capital or other resources to protect against the threat of
security breaches or alleviate problems caused by breaches. Although we intend
to continue to implement state of the art security measures, it may
nevertheless be possible to circumvent any such measures. In addition, the
process of eliminating computer viruses and alleviating other security problems
may result in interruptions, delays or cessation of service to users accessing
websites that deliver our services, any of which could harm our business.
OUR GROWTH MAY BE ADVERSELY AFFECTED BY GOVERNMENT REGULATION AND LEGAL
UNCERTAINTIES THAT COULD ADD ADDITIONAL COSTS TO DOING BUSINESS ON THE INTERNET.
There are currently few laws or regulations that specifically
regulate communications or commerce on the Internet. However, laws and
regulations may be adopted in the future that address such issues, including
user privacy, pricing, and the characteristics and quality of products and
services offered. For example, several telecommunications companies have
petitioned the Federal Communications Commission to regulate Internet service
providers and online service providers in a manner similar to long distance
telephone carriers and to impose access fees on those companies. Any such
regulation could increase the cost of transmitting data over the Internet.
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Federal or state authorities may adopt regulations addressing the
electronic operations of financial institutions that could require us to modify
our current or future products and services. For example, the U.S. Congress is
currently considering financial services reform legislation that may include
limitations on the ability of financial institutions to disclose nonpublic
consumer financial information. The adoption of laws or regulations affecting
our customers' businesses could reduce our growth rate or otherwise have a
material adverse effect on our business, financial condition and operating
results.
TAXATION OF OUR INTERNET PRODUCTS AND SERVICES COULD AFFECT OUR PRICING
POLICIES AND REDUCE DEMAND FOR OUR PRODUCTS AND SERVICES.
Any legislation that substantially impairs the growth of e-commerce
could have a material adverse effect on our business, financial condition and
operating results. The tax treatment of the Internet and e-commerce is
currently unsettled. A number of proposals at the federal, state and local
levels in the United States would, if enacted, impose taxes on the sale of
goods and services over the Internet. In October 1998, the U.S. Congress passed
the Internet Tax Freedom Act, which generally imposes a three year moratorium
on new federal, state and local taxation of online services. Taxation of
Internet commerce could have a material adverse affect on our business,
financial condition and operations.
THE UNPREDICTABILITY OF FUTURE FINANCIAL RESULTS AND EVENTS BEYOND OUR CONTROL
MAY ADVERSELY AFFECT THE TRADING PRICE OF OUR COMMON STOCK.
Our financial results and the price of our common stock may
fluctuate substantially in the future. These fluctuations may be caused by
several factors, including the price we are able to charge for our services,
competition, new product offerings from our competition and changes in
technology. Other factors which may cause significant fluctuations in our stock
price include:
- our actual or anticipated operating results;
- changes in our actual or anticipated growth rates;
- changes in analysts' estimates;
- competitors' announcements;
- regulatory actions;
- industry conditions;
- general economic conditions; and
- a variety of other factors that we have discussed elsewhere in
"Risk Factors."
Furthermore, the market for Internet and technology companies has
experienced extreme price and volume volatility that have often been unrelated
or disproportionate to the operating performance of those companies. These
broad market and industry factors may materially and adversely affect our stock
price. Even the currently depressed trading prices and relatively low valuation
levels for Internet-related stocks like ours may prove to be too high generally
or for our stock in particular.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
10.1 Letter Agreement with Baird, Patrick & Co., Inc. dated
September 18, 2000.
27 Financial Data Schedule
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(b) Reports on Form 8-K. None.
ITEM 7.
SIGNATURES
In accordance with the requirements of the Securities Exchange Act,
the registrant caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
CAVION TECHNOLOGIES, INC.
Date: November 20, 2000 By: /s/ Marshall E. Aster
--------------------------------------
Marshall E. Aster, Vice President,
Chief Financial Officer and
Principal Financial and
Accounting Officer
