<PAGE>
Filed pursuant to Rule 424(b)(1)
Registration No. 333-76099
PROSPECTUS
6,000,000 Shares
[LOGO OF US SEARCH.COM]
Common Stock
-----------
This is an initial public offering of shares of common stock of US SEARCH.com
Inc. US SEARCH is offering 4,500,000 shares of common stock. Our principal
stockholder, The Kushner-Locke Company, is offering 1,500,000 shares of common
stock. We will not receive any of the proceeds from the sale of common stock by
Kushner-Locke. After the offering, Kushner-Locke will own approximately 55.2%
of our outstanding common stock.
The Common Stock has been approved for quotation on the Nasdaq National Market
under the symbol "SRCH".
See "Risk Factors" beginning on page 5 to read about material risks that you
should consider before buying shares of our common stock.
Neither the Securities and Exchange Commission nor any state securities
regulators have approved or disapproved of these securities or determined if
this prospectus is truthful or complete. Any representation to the contrary is
a criminal offense.
-----------
<TABLE>
<CAPTION>
Per
Share Total
----- -----------
<S> <C> <C>
Public offering price........................................ $9.00 $54,000,000
Underwriting discounts and commissions....................... $0.63 $ 3,780,000
Proceeds to US SEARCH.com Inc. .............................. $8.37 $37,665,000
Proceeds to Kushner-Locke.................................... $8.37 $12,555,000
</TABLE>
-----------
The underwriters may, under certain circumstances, purchase up to an additional
900,000 shares of common stock from us at the initial public offering price
less the underwriting discount.
The underwriters are severally underwriting the shares being offered. The
underwriters expect to deliver the shares against payment in New York, New York
on June 30, 1999.
-----------
Bear, Stearns & Co. Inc. BancBoston Robertson Stephens
Wit Capital Corporation
The date of this prospectus is June 25, 1999.
<PAGE>
Online Public Record Information Access
[Circular design illustrating order and fulfillment of our services]
1. Internet Access -- 2. Online Query -- 3. Internet Delivery
1. Clients
Convenient access via the Internet.
2. US SEARCH.com
Provides a broad range of public record search services. A growing number of
our searches can be conducted online through our Web site.
3. Database Searches
We electronically access multiple geographically dispersed public record
databases to provide information on individuals.
Our Web site address is: 1800USSEARCH.com
<PAGE>
[Logo of US SEARCH with two faces in upper left corner]
US SEARCH.com provides electronic access to a broad range of public record
information about individuals. Our services can be accessed from anywhere and
at anytime through our Web site 1800USSEARCH.com.
[Oval-shaped graphic illustrating the way in which clients access our services,
the type of services we provide, and the delivery of our services to the
client.]
1. Clients -- Internet Access -- 2. Choose a Search From our Web Site --
Instant Searches -- Advanced Searches -- Corporate Services -- 3. Online
Assistance -- 4. Database Searches -- 5. Information Delivery
1. Clients
.Individual
.Corporate
.Professional clients
2. Choose a Search From our Web Site
Clients can choose from a wide variety of available services, including our
Individual Locator Search, Adoption Reunion Search, Nationwide Court Records
Search and Individual Profile Report.
3. Online Assistance
Trained Search Specialists are available 24 hours a day, 7 days a week.
Customers can have their questions answered by telephone, via e-mail or in our
chat area.
4. Database Searches
Available third party databases include information such as names, addresses,
aliases, liens, court records, judgments, property ownership, and bankruptcies.
US SEARCH.com brings fragmented and geographically dispersed information to a
single source.
5. Information Delivery
US SEARCH.com delivers timely, accurate and comprehensive public record
information via e-mail, HTML and other delivery means.
Our Web site address is 1800USSEARCH.com
<PAGE>
PROSPECTUS SUMMARY
This is a summary of more detailed information contained elsewhere in this
prospectus. This summary is not complete and does not contain all of the
information that you should consider before investing in the common stock. You
should read the entire prospectus carefully, including the Risk Factors, and
the financial statements and related notes.
US SEARCH.com Inc.
US SEARCH provides clients with a single, comprehensive access point to a
broad range of public record information about individuals. Our services can be
accessed from anywhere and at any time through our Web site, 1800USSEARCH.com,
or by calling our toll free telephone number, 1-800 U.S. SEARCH. In the first
quarter of 1999, we had approximately 4.6 million unique visitors to our Web
site and received over 220,000 telephone inquiries. The number of unique
visitors is determined by counting the number of people that access our Web
site to learn more about our services, and excluding multiple visits by the
same person within a five minute period.
Using our services, clients can obtain addresses, aliases, phone numbers,
property ownership, court records and judgments, corporate affiliations, date
of birth and date of death information. We recently began offering individual
locator and individual profile report services to corporate and professional
clients. Individual locator services provide address and phone number
information for individuals. Individual profile report services combine first
and last name, alias, current and previous address, phone number, vehicle
ownership, bankruptcy, property ownership, nationwide court record and
corporate affiliation information into a single report. In the fourth quarter
of 1999, we intend to introduce pre-employment background screening, a service
designed to include a search of criminal records databases, to corporations,
professional organizations and government agencies.
Using our services is quick, easy and inexpensive. All of our searches are
highly automated and performed by electronically accessing multiple,
geographically-dispersed public record databases. We aggregate the requested
information and deliver the search results in a user-friendly format. A growing
number of searches can be conducted directly by clients via our Web site. For
example, our Internet-based "Instant Searches" are processed online in a
completely automated fashion and the results are often delivered in as little
as a few seconds or minutes. For more complex searches, we provide additional
services, including assisted searches, both online and through our toll free
telephone number. Search results can be delivered through our Web site, by e-
mail, telephone, facsimile or mail. We continually evaluate our database and
other information sources to ensure that we make available the most timely,
accurate and comprehensive public record information to our clients.
We intend to strengthen the market awareness of our services through
increased advertising, emphasis on our Web site and promotion of additional
public record information and search services under the US SEARCH brand. We
maintain marketing agreements with leading Internet search engines and popular
Web sites, including InfoSpace.com, The Lycos Network, Go Network/InfoSeek.com,
Snap.com and Yahoo!. These marketing agreements provide access to our Web site
by placing our advertising on a broad range of popular Web sites such as:
InfoSpace.com, AOL.com, Netcenter.com, Lycos.com, Snap.com, WhoWhere.com,
Tripod.com, Angelfire.com, MailCity.com, Go Network/Infoseek.com, Excite.com
and Yahoo.com. These marketing agreements typically provide direct access from
these sites to our Web site through banners, buttons, text-links and co-branded
areas featuring our services. A co-branded area features our services and brand
alongside the services and/or brand of the other Internet Web site.
We believe that our growth will be driven, in part, by the growth in usage
of the Internet and electronic commerce. A report generated by International
Data Corporation, a third-party market research firm, estimates the number of
Internet users worldwide will grow from an estimated 97 million at the end of
1998 to an
1
<PAGE>
estimated 320 million in 2002. IDC also estimates that the total value of goods
and services purchased over the Internet worldwide will grow from approximately
$32 billion in 1998 to approximately $426 billion per year by the end of 2002.
THE OFFERING
<TABLE>
<C> <S>
Common stock offered by US SEARCH.................. 4,500,000 shares
Common stock offered by Kushner-Locke.............. 1,500,000 shares
Common stock to be outstanding after the offering.. 17,421,644 shares
Use of proceeds.................................... For repayment of related
party debt, advertising
and promotion of our
services and US SEARCH
brand, development of
infrastructure and new
services, capital
expenditures and other
working capital and
general corporate
purposes. See "Use of
Proceeds."
Nasdaq National Market symbol...................... SRCH
</TABLE>
The total number of shares of common stock to be outstanding after the
offering shown above does not include (1) up to 900,000 shares issuable
pursuant to the underwriters' over-allotment option, (2) 1,459,914 shares
reserved for issuance upon the exercise of stock options outstanding as of
March 31, 1999 under our 1998 Stock Incentive Plan and our 1999 Non-Employee
Directors' Stock Option Plan, and (3) 1,458,109 shares available for future
grant or issuances under our 1998 Stock Incentive Plan and our 1999 Non-
Employee Directors' Stock Option Plan.
THE COMPANY AND ITS PARENT
US SEARCH was incorporated in November 1994. Our principal executive offices
are located at: 9107 Wilshire Boulevard, Suite 700, Beverly Hills, CA 90210,
(310) 553-7000. Our principal Web site address is www.1800ussearch.com.
Information contained on our Web site does not constitute part of this
prospectus.
Kushner-Locke, the selling stockholder, currently owns 86% of US SEARCH. In
addition, Peter Locke and Donald Kushner, the Co-Chairmen of US SEARCH, are the
Co-Chairmen and Co-Chief Executive Officers of Kushner-Locke. After the
offering, Kushner-Locke will own 55.2% of US SEARCH and will continue to have
significant influence over us. In particular, Kushner-Locke will have the
ability to take a broad range of corporate actions without the approval of the
other stockholders, such as elect a majority of our board of directors, remove
directors, amend our certificate of incorporation and bylaws, delay or prevent
a change of control and exercise control over our management and operations.
Except as otherwise indicated, all information in this prospectus assumes:
. the underwriters' over-allotment option is not exercised;
. our reincorporation in Delaware prior to the closing of this offering;
. a 906.782 for one stock split of our common stock pursuant to a stock
dividend to our stockholders prior to the closing of this offering;
. exercise of warrants to purchase 1,360,173 shares of common stock; and
. conversion of an outstanding convertible subordinated note into
2,493,651 shares of common stock.
2
<PAGE>
SUMMARY FINANCIAL INFORMATION
The summary financial data set forth below should be read in conjunction
with Management's Discussion and Analysis of Financial Condition and Results of
Operations and the financial statements of US SEARCH and related notes included
elsewhere in this prospectus.
<TABLE>
<CAPTION>
From Three Months Ended
November 3- Years Ended December 31, March 31,
December 31, ------------------------------------------ ---------------------
1994 1995 1996 1997 1998 1998 1999
------------ --------- --------- --------- --------- --------- ----------
(in thousands, except share data)
<S> <C> <C> <C> <C> <C> <C> <C>
Statement of Operations
Data:
Net revenues............ $ 21 $ 899 $ 5,690 $ 2,971 $ 9,245 $ 1,804 $ 3,296
Cost of services........ 23 595 3,363 1,501 3,769 642 1,227
--------- --------- --------- --------- --------- --------- ----------
Gross profit (loss)..... (2) 304 2,327 1,470 5,476 1,162 2,069
--------- --------- --------- --------- --------- --------- ----------
Operating expenses:
Advertising and
marketing............. -- 626 2,559 655 7,007 670 2,553
General and
administrative........ 7 188 1,007 1,165 3,882 527 846
Charge for warrants
issued to majority
stockholder(1)........ -- -- -- -- 1,190 -- --
Charge for compensation
related to stock
options............... -- -- -- -- -- -- 876
--------- --------- --------- --------- --------- --------- ----------
Total operating
expenses............... 7 814 3,566 1,820 12,079 1,197 4,275
--------- --------- --------- --------- --------- --------- ----------
Loss from operations.... (9) (510) (1,239) (350) (6,603) (35) (2,206)
Interest expense(2)..... -- (15) (64) (110) (197) (24) (2,786)
Amortization of debt
issue costs............ -- -- -- -- -- -- (1,603)
Other (expense) income,
net.................... -- 132 (60) 63 13 6 --
--------- --------- --------- --------- --------- --------- ----------
Loss before income
taxes.................. (9) (393) (1,363) (397) (6,787) (53) (6,595)
Provision for income
taxes.................. -- 1 1 2 1 1 1
--------- --------- --------- --------- --------- --------- ----------
Net loss................ $ (9) $ (394) $ (1,364) $ (399) $ (6,788) $ (54) $ (6,596)
========= ========= ========= ========= ========= ========= ==========
Basic and diluted net
loss per share(3)...... $ (0.00) $ (0.04) $ (0.14) $ (0.04) $ (0.71) $ (0.01) $ (0.69)
Weighted-average shares
outstanding used in
per-share
calculation(3)......... 9,521,211 9,521,211 9,521,211 9,521,211 9,521,211 9,521,211 9,521,211
Pro forma basic and
diluted net loss per
share(3)............... $ (0.71) $ (0.33)
Weighted-average shares
outstanding used in the
pro forma per share
calculation(3)......... 9,521,211 12,014,862
</TABLE>
<TABLE>
<CAPTION>
As of March 31, 1999
----------------------------------
Pro Forma As
Actual Pro Forma(4) Adjusted(5)
------- ------------ ------------
<S> <C> <C> <C>
Balance Sheet Data:
Cash and cash equivalents.................... $ 16 $ 16 $34,481
Working capital (deficiency)................. (8,465) (6,458) 32,979
Total assets................................. 2,019 526 36,991
Total debt................................... 6,608 3,108 408
Total stockholders' equity (deficit)......... (8,284) (6,277) 33,188
</TABLE>
US SEARCH has incurred substantial net losses from continuing operations. We
incurred significant net losses of approximately $6.6 million in the three
months ended March 31, 1999. We expect to incur significant additional losses
and continued negative cash flow from operations in 1999. We may never achieve
profitability. We do not anticipate paying any cash dividends in the
foreseeable future. Notes to this summary financial information appear on the
next page.
3
<PAGE>
Notes to Summary Financial Information:
(1) For a description of this charge, see Note 13 of the notes to financial
statements.
(2) Included in interest expense for the three months ended March 31, 1999 is
approximately $2.6 million relating to the beneficial conversion feature on
the convertible subordinated note. For a further description of this
charge, see Note 10 of the notes to financial statements.
(3) For a description of the method that we used to compute our basic and
diluted net loss per share and weighted average shares outstanding, see
Note 3 of the notes to financial statements.
(4) The Pro Forma Balance Sheet Data gives effect to:
. the issuance of 2,493,651 shares of common stock upon the
conversion of a $5.5 million convertible subordinated
note, of which $3.5 million was outstanding at March 31,
1999. Subsequent to March 31, 1999 additional borrowings
of $2.0 million were received and used in operations. The
additional borrowings resulted in an interest expense of
$2.0 million due to the convertible subordinated note
beneficial conversion feature; and
. the amortization of debt issue costs of $1.5 million
relating to the issuance of warrants and payment of an
origination fee issued to Kushner-Locke in January 1999.
(5) The Pro Forma As Adjusted Balance Sheet Data gives effect to:
. the sale of 4,500,000 shares of common stock offered by us
at an initial public offering price of $9.00 per share,
the receipt of the net proceeds from the offering, the
repayment of $3.0 million of outstanding related party
obligations and a $2.0 million payment to Yahoo! Inc.
related to our marketing agreement due within five days
after the closing of this offering; and
. the issuance of 1,360,173 shares of common stock upon the
exercise of outstanding warrants issued in September 1998
and January 1999 and proceeds of approximately $2.8
million to be received on assumed full exercise of
September 1998 and January 1999 warrants. Unless exercised
earlier, these warrants will expire upon the consummation
of this offering. Kushner-Locke, the holder of the
warrants, has indicated to us that they will exercise
these warrants prior to the consummation of this offering.
4
<PAGE>
RISK FACTORS
An investment in our common stock is very risky. You should carefully
consider the following risk factors in addition to those factors included in
the remainder of this prospectus before purchasing the common stock. These risk
factors and the other factors set forth in this prospectus could materially
adversely affect our business and results of operations. As a result of these
factors, we may fail to meet the expectations of the public market in any given
period, and the market price of our common stock could be adversely affected.
This prospectus contains forward-looking statements that involve risks and
uncertainties. Many factors, including those described below, may cause actual
results to differ materially from our anticipated results.
We have incurred significant net losses and we may never achieve profitability
We incurred significant net losses of approximately $1.4 million in 1996,
$399,000 in 1997 and $6.8 million in 1998. For the three months ended March 31,
1999, we incurred a loss of $6.6 million. As of March 31, 1999, we had an
accumulated deficit of approximately $13.4 million. We expect to incur
significant additional losses and continued negative cash flow from operations
in 1999. We may never achieve profitability.
Our revenues and operating results may fluctuate significantly
Our revenues and operating results have fluctuated in the past, and may
significantly fluctuate in the future due to a variety of factors many of which
are outside of our control, such as fluctuations in the cost of television,
Internet and other advertising and events causing shifts in television viewing
patterns and consumers' use of the Internet. These factors may have a negative
impact on our revenues and operating results.
Our limited experience offering services on the Internet could make it
difficult for us to expand this business
Our success and future growth depends on our ability to expand the nature
and number of our services offered on the Internet. Historically, we offered
our services primarily through our toll free telephone number, 1-800 U.S.
SEARCH. Within the last five months, we began offering our Internet-based
"Instant Searches." Additionally, we intend to increase the number and range of
"Instant Searches" available on our Web site. Our limited experience may make
it difficult for us to continually increase Internet traffic and transactions
on our Web site. In particular, it may be difficult for us to adequately
predict consumer response to our Internet advertising, causing us to spend more
on Internet advertising than planned. Our Internet advertising may also be
ineffective in strengthening our brand, increasing awareness of our services,
or generating additional traffic or sales. The loss of one or more marketing
relationships with Internet companies could adversely impact our ability to
generate additional traffic or sales. If we fail to generate additional traffic
to an increasing number of Internet services, our business and results of
operations could be materially adversely affected.
The Internet is a rapidly changing marketplace, which makes it difficult to
evaluate our business and prospects
Any evaluation of our business and prospects must be made in light of the
risks and difficulties frequently encountered by companies offering services in
new and rapidly evolving markets such as the Internet. The Internet marketplace
is characterized by rapidly changing consumer preferences, low barriers to
entry for competitors and rapidly changing technologies. Expanding our US
SEARCH brand and increasing the market awareness of our Internet services is
complicated, time-consuming and expensive. We may be unable to accurately
forecast client behavior and recognize or respond to emerging trends, changing
preferences or competitive factors on the Internet. Failure to recognize or
respond to these factors may result in a material adverse effect on our
business and prospects. In addition, it is difficult to predict the size and
future growth rate, if any, of our market. The market for our existing and new
services may not develop or become economically sustainable. New and evolving
trends, including the trend toward low-cost and enhanced access to public
information may hinder the growth of our market.
We depend on a limited number of service offerings for a significant portion of
our revenues
We have historically derived a substantial portion of our revenues from a
small number of service offerings, particularly our individual locator and
"Instant Searches" services. In 1998, our individual locator
5
<PAGE>
and "Instant Searches" services accounted for over 90% of our revenue. In the
three months ended March 31, 1999, our individual locator and "Instant
Searches" services accounted for over 85% of our revenue. If we are unable to
continue to offer these services or if our costs of providing these services
increase such that we can no longer offer these services at competitive prices,
our business and results of operations may be materially adversely affected.
We have substantial fixed costs which may not be offset by our revenues
A substantial portion of our operating expenses are fixed in any given
quarter, such as costs relating to management personnel, administrative support
and advertising on television programming, Internet search engines and popular
Web sites. Our advertising is typically conducted under non-cancelable fixed
term contracts. As a result, a substantial portion of our expenses in any given
period is fixed and based in part on our expectations of future revenues and
advertising and sales productivity. We may be unable to adjust our spending in
a timely manner to compensate for any unexpected revenue shortfall. If we are
unable to generate sufficient revenues to offset our advertising costs or if we
are unable to lower our advertising costs to respond to lower than expected
revenues, our results of operations will suffer and the market price of our
common stock could fall.
We depend on our marketing agreements with Internet companies
An important element of our current business strategy is to maintain
relationships with an increasing number of Internet search engines and popular
Web sites for advertising and to direct and attract traffic to our Web site.
Advertising on the Internet is expensive, new and evolving. The effectiveness
of Internet-based advertising is not clear. Under our marketing and advertising
agreements, we are typically required to make payments in advance of running
ads on a Web site. Internet companies display our text, banner or logo, often
referred to as "impressions," on their Web sites. These impressions may not
lead to sales of our services, and our payment is required whether or not the
advertising was effective. We may not be able to maintain our existing
marketing relationships with other Internet companies. We may also be unable to
enter into new marketing relationships with Internet companies, which generate
adequate returns to offset related costs. Internet-based advertising expenses
comprised over 40% of our total operating expenses for the three month period
ended March 31, 1999. We currently anticipate that these expenses will continue
to constitute a significant portion of our total operating expenses in future
periods. Due to our limited operating experience, we are unable to accurately
forecast the revenues these agreements will generate. Any termination of
existing agreements or failure to enter into new agreements with Internet
companies on terms favorable to us, could have a material adverse effect on our
business and results of operations.
Our access to key Internet advertising depends on marketing agreements between
other Internet companies that are beyond our control
Advertising arrangements with one Internet company may provide us access to
another company's Web site. For example, our arrangement with Infospace
provides us with advertising on parts of the AOL and Netcenter Web sites, even
though we do not have agreements with AOL or Netcenter. Our advertising on
these Web sites depends on the continued relationship Infospace has with
companies such as AOL and Netcenter. If this relationship is terminated for any
reason and if we are either unable to enter into an agreement with these
companies or unable to enter into an agreement with another company that has an
agreement providing access to AOL and/or Netcenter, our advertising will no
longer appear on their Web sites. This could significantly reduce our
advertising reach and, consequently, lower the number of potential clients
visiting our Web site which could in turn materially adversely affect our
business and results of operations.
Our business and financial performance may suffer if we are unsuccessful in
expanding our service offerings
Our strategy includes expanding the market awareness of our existing
services. We intend to offer a greater number of new searches available through
our Web site and to develop and promote service offerings to
6
<PAGE>
address the needs of corporate and professional clients. We have very limited
experience in providing services to corporate and professional clients.
Attracting these clients will require us to hire new sales and marketing
personnel and spend money to develop and promote these new services. We may
fail in our efforts to provide these new services in a timely and cost-
effective manner. If individual or corporate clients are unwilling to pay for
the aggregation of public record information, or if the market for our services
fails to develop or develops more slowly than anticipated, our business and
prospects will be materially adversely affected.
Implementing these measures will substantially increase our operating
expenses and will place considerable strain on our existing management and
operational resources. We will incur a substantial portion of these expenses
before we achieve any meaningful revenues or market acceptance of new services.
Our new services may not achieve a sustainable level of market acceptance or
ever become profitable. If a new service is unsuccessful, our reputation and
brand position may be damaged and this may make it more difficult to sell our
existing services. A significant amount of our future growth depends on our
ability to offer these new services.
We face competition from many sources
The market in which we operate is highly competitive and highly fragmented.
Currently, our competition falls into four categories:
. free individual locator and information services, including services
offered by Internet search engines, telephone companies and other third
parties who publish free printed or electronic directories;
. fee-based Internet search services offering comparable services, such as
KnowX.com, a division of Information America;
. firms offering more comprehensive public record information, such as
LEXIS-NEXIS, a division of Reed Elsevier Inc., The Dun & Bradstreet
Corporation, Reuters Limited, Avert, Inc. and ChoicePoint, Inc.; and
. local, regional and national private investigation firms, such as Kroll-
O'Gara Company, Pinkerton, the Proudfoot Reports Division of ASI
Solutions, Inc., and a significant number of companies operating on
either a national scale or a local or regional basis.
Some of these competitors do not currently offer public record search sales
over the Internet, but they may do so in the future. There are no significant
barriers that would prevent new companies from entering the market in which we
operate. In addition, some of our current suppliers and companies with which we
have advertising agreements may compete with us in the future, which may make
it more difficult to advertise our services effectively on their Web sites.
We may be unable to respond to the competitive efforts of other companies
Many of our competitors have greater financial and marketing resources than
we do and may have significant competitive advantages through other lines of
business, their existing client base and other business relationships. These
competitors and other potential competitors may undertake more extensive
marketing campaigns, adopt more aggressive pricing policies and devote more
resources to developing public record search services for individual or
corporate clients than we are willing or able to accomplish. Our competitors or
potential competitors may develop services that are superior to ours, develop
services less expensive than ours or that achieve greater market acceptance
than our services. We may not be able to successfully compete against our
current or future competitors with respect to any of these factors. As a
response to changes in the competitive environment, we may make pricing,
service or marketing decisions such as reducing our prices or increasing our
advertising, all of which may affect our operating results. If we are
unsuccessful in responding to our competitors, our business and results of
operations will be materially adversely affected.
We use third party database and other information suppliers, with which we have
short term arrangements
We obtain data used in our services from a limited number of third party
suppliers. We currently purchase information from these suppliers on a per
transaction basis and our relationships can be cancelled at any time. If
7
<PAGE>
our current suppliers raise their prices or if the information they provide
becomes unavailable or unreliable, we will need to find alternative sources of
information. The time it takes to identify and contract with suitable
alternative data suppliers, as well as integrate these data sources into our
service offerings, could cause service disruptions, increased costs and reduced
quality of our services. Additionally, costs of obtaining data that may be
necessary in our new service offerings, such as criminal background
information, could be significantly higher, on a per transaction basis, than
our current information costs. Termination of existing agreements, or, failure
after termination, to enter into new agreements with third party suppliers on
terms favorable to us, could have a material adverse effect on our business and
results of operations. Additionally, failure to obtain the data and information
necessary for our intended service offerings at commercially reasonable costs
or at all could prevent us from offering these new services and our business
and results of operations could be materially adversely affected.
Service interruptions may have a negative impact on our revenues and may damage
our reputation and decrease our ability to attract clients
We depend on the satisfactory performance, reliability and availability of
our Web site and telecommunications infrastructure to attract clients and
generate sales. Our revenues, reputation and brand would be harmed and the
value of our services to clients would be reduced if we experience technical
difficulties that result in slower response times, disruptions or
unavailability of the services. We have experienced unanticipated system
interruptions in the past and we believe that these interruptions may occur
again in the future. For example, we have experienced system disruptions and
slower response times as we change or upgrade the software and hardware running
on our network. In addition, telephone systems and networks are subject to
unanticipated downtimes due to national disasters, power outages and similar
events. Our servers may be vulnerable to computer viruses, physical or
electronic break-ins and similar disruptions, which could lead to
interruptions, delays, loss of data or the inability to accept and fulfill
client orders. The occurrence of any of these events may have a material
adverse effect on our revenues, business and results of operations.
If we are unable to expand and improve our infrastructure, facilities, and
operational capacity, we will be unable to grow and our business and our
financial condition will suffer
The recent growth of our business has placed significant strain on our
communication and networking infrastructure and existing facility. From time to
time, demand for our services following television or Internet-based
advertising has exceeded our infrastructure and operational capacity. Clients
may experience delays during times when demand for our services exceeds our
operational capacity. These instances are independent of any service
interruptions related to disruption of our Web site or other systems. For
example, we have in the past experienced longer response times to client
telephone calls during periods of high calling volume because we lacked
adequate capacity through our telephone systems and operations and support
personnel to handle the increased number of calls. Similarly, we have
experienced slower Web site response times during periods of high traffic
because our Internet servers lacked adequate capacity. If these events occur
again, we may lose clients and our reputation may be damaged.
This growth has also increased the demands on our management team and
technical, sales and operational resources. We anticipate that continued growth
will require us to implement and improve our operational, financial and
management information systems. In addition, we will need to invest in new and
expanded computer, telecommunication and information systems that better
address our existing capacity constraints. We are also currently considering
acquiring new space or relocating to a larger facility that would better
address our operational and personnel needs. As we offer new services and
pursue corporate and professional markets, we will also need to increase our
executive and sales and support personnel. Our business and results of
operations will be adversely affected if we are unable to expand and
continually improve our infrastructure.
We are controlled by Kushner-Locke
Prior to this offering, Kushner-Locke beneficially owned 86% of our
outstanding common stock. Kushner-Locke is a feature film and television
production and distribution company. In addition, Peter Locke
8
<PAGE>
and Donald Kushner, the Co-Chairmen of US SEARCH, are the Co-Chairmen and Co-
Chief Executive Officers of Kushner-Locke, which will own approximately 55.2%
of the outstanding common stock immediately after the offering. As a result,
Kushner-Locke has and is likely to continue to have significant influence over
us, giving Kushner-Locke the ability to take a broad range of corporate actions
without the approval of the other stockholders, such as:
. electing a majority of our Board of Directors;
. removing any of our directors;
. amending our certificate of incorporation or bylaws;
. delaying or preventing a change in control, impeding a merger or
takeover or other business combination involving us; and
. otherwise controlling management and operations and the outcome of most
matters submitted for a stockholder vote.
Actions taken by Kushner-Locke could conflict with interests of other
stockholders. Also, as a result of the Kushner-Locke ownership and control, a
potential acquiror may be discouraged from attempting to obtain control of us
which could have a material adverse effect on the market price of our common
stock.
We have been a majority owned subsidiary of Kushner-Locke and we may fail to
succeed as an independent operating company
Prior to this offering, we received a substantial amount of financial and
operational support from our controlling stockholder, Kushner-Locke. Kushner-
Locke has provided us with cash funding in the form of loans or inter-company
advances and has provided guarantees to third party creditors and vendors which
equaled approximately $4.3 million as of March 31, 1999. Kushner-Locke has also
provided us with insurance coverage and services and personnel for various
functions, such as legal, human resources, administrative, managerial and
accounting. Over the course of its involvement and through March 31, 1999,
Kushner-Locke has advanced funds to us for working capital purposes of
approximately $4.4 million. In addition, Kushner-Locke has guaranteed our
payments under our marketing agreement with InfoSpace.com until the earlier of
an initial public offering or December 31, 1999. Kushner-Locke has indicated
that after this offering, it will not continue to provide us with these
services and does not intend to continue to fund our operations or guarantee
payments. As a result, we will be required to fund operations on our own and
hire additional administrative, sales, advertising, financial and accounting
personnel, including corporate officers, to perform these functions. We may not
be able to perform these functions effectively as an independent company. We
expect that our operating expenses will increase as we establish the financial,
administrative and managerial infrastructure necessary to operate as an
independent public company and as we secure various forms of insurance coverage
independent of Kushner-Locke.
We depend on our key management personnel for our future success
Our success depends to a significant degree upon the continued contributions
of our executive management team and its ability to effectively manage the
anticipated growth of our operations and personnel. The loss of any members of
our management team and the inability to hire additional senior management if
necessary, could have a material adverse effect on our business and results of
operations. In addition, increased costs of new personnel, including members of
executive management, could have a material adverse effect on our business and
operating results.
Our senior executive officers are very new to US SEARCH
Several members of our executive management team joined us in early 1999,
and therefore may take some time to adequately familiarize themselves with the
nature of our business and operations. If these executives are
9
<PAGE>
unable to learn about and adjust to our business quickly and efficiently, our
business and results of operations may be materially adversely affected.
We depend on attracting qualified employees and responding to employee turnover
for our success
As of March 31, 1999, we had 100 full-time employees and 18 part-time
employees. We anticipate that the number of employees may increase
significantly during the next 12 months as we expand our existing service
offerings and introduce and market new services to corporate and professional
clients. Competition for qualified employees is intense. Our success depends
upon our ability to attract and retain additional highly qualified technical,
sales and marketing personnel to support growing operations. The process of
locating and hiring personnel with the combination of skills and attributes
required to carry out our strategy is time-consuming and costly. Our success
also depends on our ability to effectively train and maximize the productivity
of our existing and future employees. We may also experience higher costs and
possible disruption of our business as we hire and train new personnel to
replace those lost in the ordinary course of our business or lost in an
expansion or relocation of our facility. Last year, we experienced a turnover
rate which is comparable to that experienced by other telemarketing businesses.
The loss of key personnel or the inability to attract additional qualified
personnel to supplement or, if necessary, to replace existing personnel, could
have a material adverse effect on our business and results of operations.
Problems related to the "Year 2000 Issue" could adversely affect our business
We depend on the delivery of information over the Internet, a medium which
is susceptible to the Year 2000 Issue. The "Year 2000 Issue" is typically the
result of limitations of software written using two digits rather than four to
define the applicable year. If software with date-sensitive functions are not
Year 2000 compliant, they may recognize a date using "00" as the year 1900
rather than the year 2000. The Year 2000 Issue could result in a system failure
or miscalculations causing significant disruption of our operations, including,
among other things, interruptions in Internet traffic, accessibility of our Web
site, delivery of our service, transaction processing or searching and other
features of our services. It is possible that this disruption will continue for
an extended period of time.
We depend on information contained primarily in electronic format in
databases and computer systems maintained by third parties, including
governmental agencies. The disruption of third-party systems or our systems
interacting with these third-party systems could prevent us from receiving
orders or delivering search results in a timely manner. In addition, we rely on
the integration of many systems in aggregating search data from multiple
sources. The failure of any of those systems as a result of Year 2000
compliance issues could prevent us from delivering our products and services.
Failure of our systems or third-party systems providing information used in our
services could materially adversely affect our business and results of
operations. We have received information confirming the Year 2000 compliance
from present data suppliers. We are expecting to obtain Year 2000 compliance
information from other third party vendors by June 30, 1999.
We are conducting an evaluation of our internal systems. We are seeking
written confirmation of the Year 2000 status of our third party software. We
are also utilizing internal resources to test internally developed software for
Year 2000 compliance. We may be required to modify or replace significant
portions of our software so that our systems will function properly with
respect to dates in the year 2000 and thereafter. If we are unable to make the
required modifications or conversions in a timely and cost-effective manner or
if there is a malfunction in our systems, potential systems interruptions or
delays in services may have a material adverse effect on our business and
results of operations. Further, if we fail to successfully resolve these
issues, some or all of our operations may shut-down, which would have a
material adverse effect on our business and results of operations.
We are currently developing contingency plans to address situations that may
result if we are unable to achieve Year 2000 readiness of our critical
operations. We expect to complete this plan by September 30, 1999. We may not
be able to develop a contingency plan that will adequately address all Year
2000 issues. Within
10
<PAGE>
the plans, we are addressing various problems, including disruptions to our
Web-servers, significant interruption of data flow between us and third party
data providers, and failures associated with internal systems. The contingency
plans emphasize the identification and implementation of redundant sources of
our various services. Our failure to develop and implement, if necessary,
appropriate contingency plans could materially adversely affect our business
and results of operations.
The Internet may fail to support the growth of electronic commerce
The rapid rise in the number of Internet users and the growth of electronic
commerce and applications for the Internet have placed increasing strains on
the Internet's communications and transmissions infrastructure. This could lead
to significant deterioration in transmission speeds and the reliability of the
Internet as a commercial medium and, consequently, could reduce the use of the
Internet by businesses and individuals. The Internet may not be able to support
the demands placed upon it by this continued growth. Any failure of the
Internet to support growth due to inadequate infrastructure or for any other
reason would seriously limit its development as a viable source of commercial
and interactive content and services. This could materially adversely affect
the acceptance of our services and our business.
Our success depends on our ability to protect and enforce our trademarks and
other proprietary rights
We rely on a combination of trademark, service mark, copyright and trade
secret laws, restrictions on disclosure and transferring title and other
methods to protect our proprietary rights. We also generally enter into
confidentiality agreements with our employees, business partners and/or others
to protect our proprietary rights. It may be possible for a third party to copy
or otherwise obtain and use our proprietary information without authorization
or to develop similar technology independently.
"1-800 U.S. SEARCH" and "Reuniting America Two People at a Time" are our
registered trademarks. In addition, we have applied for registered trademark
status for "US SEARCH", "The Public Record Portal" and our logo and service
marks in the United States and intend to pursue registration internationally
through applications. Effective trademark, service mark, copyright and trade
secret protection may not be available in every country in which our products
and services are made available, online or otherwise. Also, policing
unauthorized use of our trademark, service mark or other proprietary rights
might be difficult and expensive and we may be unable to protect our brand and
our trademarks from third party challenges. Our US SEARCH brand may suffer and
our business and results of operations could be materially and adversely
affected if we are unable to effectively protect or enforce our trademark,
service marks or other proprietary rights.
We may be unable to prevent third parties from developing Web sites and
acquiring domain names similar to ours
We have registered several domain names, including 1800USSEARCH.com and
ussearchcorp.com. We know of at least one competitor that has a corporate name
and domain name similar to ours. This competitor also has a Web site with a
similar look and feel to our Web site. We believe that these similarities may
cause confusion on the part of potential clients, and this confusion may harm
our business and results of operations. In addition, we currently do not have
the rights to use the domain name USSEARCH.com and may not ever be able to
obtain the rights necessary to use this domain name. We may be unable to
prevent third parties from acquiring domain names that are similar to, infringe
upon or otherwise decrease the value of our trademarks and other property
rights.
We face significant security risks related to our electronic transmission of
confidential information
We rely on encryption and other technologies to provide system security and
verify users' identities to effect secure transmission of confidential
information, such as credit card numbers. We license these technologies from
third parties. Advances in computer capabilities, new discoveries in the field
of
11
<PAGE>
cryptography, or other events or developments may result in a compromise or
breach of the security measures used by us to protect customer transaction
data. If any compromise of our security were to occur, it could materially
adversely affect our reputation and business. A party who is able to circumvent
our security measures could misappropriate proprietary information or cause
interruptions in our operations and damage to our reputation and customers'
willingness to engage in electronic commerce on our Web site. We may be
required to expend significant capital and other resources to protect against
these security breaches or to alleviate problems caused by these breaches. If
our third-party contractors experience security breaches involving the storage
and transmission of proprietary information, such as credit card numbers, our
reputation may be damaged and we may be exposed to risk of loss or litigation.
We face risks of fraud related to fraudulent credit card information and 900
telephone service
Like many other service providers who accept credit card information without
a signature over the telephone or Internet or who provide 900 telephone
service, we have issued credits as a result of orders placed with fraudulent
credit card information. We may suffer losses as a result of fraudulent use of
credit card information or the continued reliance on 900 telephone service in
the future.
We could face liability based on the nature of our services and the content of
the materials that we provide
We may face potential liability from individuals, government agencies or
businesses for defamation, invasion of privacy, negligence, copyright, patent
or trademark infringement and other claims based on the nature and content of
the materials that appear on our Web site or in our search reports sent to
consumers. Although we carry a limited amount of general liability insurance,
our insurance may not cover claims of these types or may not be adequate to
indemnify us for all liability that may be imposed. In addition, this insurance
may not remain available to us on acceptable terms. Any imposition of
liability, particularly liability that is not covered by insurance or is in
excess of our insurance coverage, could have a material adverse effect on our
reputation and our business and results of operations.
We could face claims from clients or the subjects of our search reports that
are not covered by insurance
We could be held liable to clients and/or to the subjects of individual
search reports prepared by us for inaccurate information or misuse of the
information. We have internal practices designed to help ensure that
information contained in our services meet industry standards for accuracy. We
have retained counsel to ensure that, as we develop new services which may be
subject to the Fair Credit Reporting Act, or the " FCRA," we are in compliance
with the FCRA and similar state laws. However, we do not currently maintain
liability insurance to cover claims by clients or the subjects of reports.
Based on our research, losses from these claims are either uninsurable or the
insurance that is available is so limited in coverage that it is not
economically practicable. We intend to continue our efforts to obtain insurance
coverage for these types of claims but adequate insurance coverage may not be
available on terms acceptable to us. Claims of violations of the FCRA or
similar state laws may be made against us in the future and the claims, if
made, may not be successfully defended. Uninsured losses from claims could
materially adversely affect our business and results of operations.
We face risks associated with government regulation and legal uncertainties
relating to the Internet
We are subject to regulations applicable to businesses generally and laws or
regulations specifically applicable to electronic commerce. Due to concerns
arising in connection with the increasing popularity and use of the Internet, a
number of new or changed laws, governmental policies and/or regulations may be
adopted, or cases may be decided, with respect to the Internet or commercial
online services covering issues such as property ownership, user privacy,
libel, pricing, acceptable content, copyrights, trademarks and/or other
intellectual property rights, distribution, taxation, access charges and other
fees, and quality of products and services. Cost increases relating to this
government regulation could result in these increased costs being passed
12
<PAGE>
along Internet end users and could dampen the growth in use of the Internet as
a communications and commercial medium, which could have a material adverse
effect on our business and results of operations.
Purchasers of our common stock in this offering will suffer immediate and
substantial dilution
The initial public offering price is substantially higher than the pro forma
adjusted net tangible book value per share of our common stock. As a result,
you will experience immediate dilution of $7.09 in the pro forma adjusted net
tangible book value per share of common stock at an assumed public offering
price of $9.00 per share. This dilution is in large part because the earlier
investors in US SEARCH paid substantially less than the initial public offering
price when they purchased their shares. This includes the dilution you will
experience upon the exercise of warrants by Kushner-Locke to purchase 453,391
shares of our common stock for an aggregate exercise price of approximately
$5.00 and the exercise of warrants to purchase up to 906,782 shares, one half
of these shares are exercisable at an exercise price of $2.76 per share and the
remaining half of the shares are exercisable at an exercise price of $3.31 per
share. You will also experience additional dilution upon exercise of
outstanding options.
In addition, tax authorities in a number of states are currently reviewing
the appropriate tax treatment of companies engaged in electronic commerce, and
new state tax regulations may subject us to additional state sales and income
taxes. Any new tax legislation or regulation, the application of laws and
regulations from jurisdictions whose laws do not currently apply to our
business, or the application of existing laws and regulations to the Internet
and electronic commerce could have a material adverse effect on our business,
and results of operations. We might unintentionally violate these laws, these
laws may be modified or new laws may be enacted, in the future. Any of these
developments could have a material adverse effect on our business and results
of operations.
Our services are subject to various federal and state laws and licensing
requirements
In connection with services we may provide in the future, particularly pre-
employment background checks, we may be considered a "consumer reporting
agency," as this term is used in the FCRA. If so, we may be required to comply
with the various consumer credit disclosure requirements of the FCRA.
Noncompliance with the FCRA can result in enforcement by the Federal Trade
Commission and state attorney generals where they have similar authority.
Willful or negligent noncompliance could result in civil liability to the
subjects of reports. Also, the Americans with Disabilities Act of 1990, or the
"ADA", contains pre-employment inquiry and confidentiality restrictions
designed to prevent discrimination against individuals with disabilities in the
hiring process. Although our business is not directly regulated by the ADA, the
use by our clients of information sold to them is regulated, both as to the
type of information and when it is used. Similarly, there are a number of
states which have laws similar to the FCRA, and some states which have laws
more restrictive than the ADA. Further, many state laws limit the type of
information which can be made available to the public. In addition, some state
laws may require us to be licensed in order to conduct pre-employment
background checks. Clients in these states can access our Web site, which may
subject us to the laws of those states. We intend to apply for the necessary
licenses in each state where we conduct a substantial part of our business. Any
failure to obtain required licenses, could have a material adverse effect on
our business and results of operations. In the event we are determined to have
violated these federal or state laws, we could be subject to substantial civil
and/or criminal liability which would have a material adverse effect on our
business and results of operations.
We may be subject to federal and state laws relating to the use of personal
information and privacy rights
Many privacy and consumer advocates and federal regulators have become
increasingly concerned with the use of personal information, particularly
consumer credit reports (which we do not provide). However, we use the social
security numbers of individuals to search various databases, including those of
consumer credit reporting agencies. For example, we search the "header"
information contained in various consumer credit reporting agencies' databases
to find, among other items, current and previous addresses, social security
numbers used by an individual, or possible other names (such as maiden names,
married names, etc.).
13
<PAGE>
"Header" information consists only of the name, social security number, date of
birth, and current and previous addresses on a consumer credit report. We also
search these databases to determine if a customer's social security number is
being used by any other party. Attempts have been made and can be expected to
continue to be made by various federal regulators and organized groups to adopt
new or additional federal and state legislation to regulate the use of personal
information. If federal and/or state laws are amended or enacted in the future
relating to access and use of personal information, in particular, and privacy
and civil rights, in general, there could be a material adverse effect on our
business and results of operations.
Our services may suffer as a result of natural disasters
Our ability to successfully receive and complete search requests and provide
high-quality client service largely depends on the efficient and uninterrupted
operation of our computer and communications hardware systems. Substantially
all of our computer and communications hardware is currently located at
facilities in Southern California, which is an area susceptible to earthquakes.
Our systems and operations may be vulnerable to damage or interruption from
earthquakes, fire, flood, power loss, telecommunications failure, break-ins and
similar events. We do not carry business interruption insurance sufficient to
compensate fully for all losses, and in some cases, any losses from any or all
these types of events.
Management has broad discretion on how to use the proceeds from this offering
A substantial portion of the net proceeds we receive in connection with this
offering will be for advertising and promotion of our services and US SEARCH
brand, development of infrastructure and new services, repayment of debt,
including amounts owed to Kushner-Locke, capital expenditures and other working
capital and general corporate purposes. Assuming sale of 4,500,000 shares of
common stock by us at the initial public offering price of $9.00 per share, we
will receive net proceeds of approximately $36.7 million. After deducting
approximately $3.0 million for repayment of advances from Kushner-Locke and
debt assumed on behalf of Nicholas Matzorkis and a $2.0 million payment due
under our marketing agreement with Yahoo! Inc. within five days of the closing
of this offering, the remaining $31.7 million of proceeds has not been
specifically allocated for specific purposes. As a result, management will have
broad discretion with respect to the expenditure of a substantial amount of the
net proceeds from this offering. You will be entrusting your funds to our
management, upon whose judgment you must depend, with limited information
concerning the specific working capital requirements and general corporate
purposes to which the funds will ultimately be applied. We may not be able to
yield a significant return on any investment of the proceeds.
We may need to raise additional capital that may not be available
Our existing capital resources, combined with the net proceeds of this
offering, may not be sufficient to meet our cash requirements through the next
12 months. We may need to raise additional capital and we may not be able to
obtain additional financing on favorable terms, if at all. If we cannot raise
necessary additional capital on acceptable terms, we may not be able to develop
or enhance our services, take advantage of future opportunities or respond to
competitive pressures or unanticipated requirements, any of which could have a
material adverse effect on our business and results of operations. If
additional capital is raised through the issuance of equity securities, the
percentage ownership of the stockholders of US SEARCH will be reduced,
stockholders may experience dilution in net book value per share, or these
equity securities may have rights, preferences or privileges senior to those of
the holders of our common stock. Any debt financing, if available, may involve
covenants limiting, or restricting our operations or future opportunities.
Our certificate of incorporation, bylaws and Delaware law contain provisions
that could discourage a third party from acquiring us and consequently decrease
the market value of our common stock
Our certificate of incorporation grants our board of directors the authority
to issue up to 1,000,000 shares of preferred stock, and to determine the price,
rights, preferences, privileges and restrictions, including voting rights of
these shares without any further vote or action by the stockholders. Since the
preferred stock could be
14
<PAGE>
issued with voting, liquidation, dividend and other rights superior to those of
the common stock, the rights of the holders of common stock will be subject to,
and may be adversely affected by, the rights of the holders of any preferred
stock that may be issued. The issuance of preferred stock could have the effect
of making it more difficult for a third party to acquire a majority of our
outstanding voting stock which could decrease the market value of our stock.
Further, provisions in our certificate of incorporation and bylaws and of
Delaware law could have the effect of delaying or preventing a third party from
acquiring us, even if a change in control would be in the best interest of our
stockholders. These provisions include the inability of stockholders to act by
written consent without a meeting and procedures required for director
nomination and stockholder proposal.
Our market segment of Internet-related companies has experienced dramatic price
fluctuations
Prior to the offering, there has been no public market for the common stock.
The initial public offering price will be determined by negotiations between
the underwriters and us and may not be indicative of the market price for the
common stock after this offering. We do not know the extent to which investor
interest will lead to the development of an active public market. Investors may
not be able to resell our common stock at or above the initial public offering
price. In particular, certain market segments such as Internet companies have
experienced very dramatic price and volume fluctuations from time to time and
in many cases from day to day. These fluctuations may or may not be based upon
any business or operating results. Our common stock may experience similar or
even more dramatic price and volume fluctuations which may continue
indefinitely. These fluctuations, as well as general economic and market
conditions, may have a material adverse effect on the market price of our
common stock.
Future sales of our common stock may depress our stock price
The market price of our common stock could drop as a result of sales of a
large number of shares of common stock in the market after this offering or in
response to the perception that sales of large number of shares could occur. No
prediction can be made about the effect that future sales of common stock will
have on the market price of shares. Upon completion of the offering, we will
have 17,421,644 shares of common stock outstanding (18,321,644 shares if the
underwriters' over-allotment option is exercised in full). Immediately upon
effectiveness of this offering, the shares offered hereby (plus any shares
issued upon exercise of the underwriters' over-allotment option) will be freely
tradable. Of the remaining shares, 12,921,643 are subject to lock-up agreements
under which the holders of these shares have agreed not to sell or otherwise
dispose of their shares for a period of 180 days after the date of the offering
without the prior written consent of Bear, Stearns & Co. Inc. Of the shares
outstanding prior to the offering, all of these shares will be "restricted
securities" as the term is defined under Rule 144 promulgated under the
Securities Act. Unless sold pursuant to Rule 144, which provides for minimum
holding periods, public availability of information, and volume and manner
restrictions on sales, "restricted securities" cannot be sold without an
effective registration statement on file with the Commission. In addition,
options to purchase up to 1,459,914 shares of common stock from us are
outstanding as of March 31, 1999 under our 1998 Stock Incentive Plan and 1999
Non-Employee Directors' Stock Option Plan. Following the offering, it is
expected that the shares underlying these options will be registered.
15
<PAGE>
USE OF PROCEEDS
The net proceeds to us from the sale of the 4,500,000 shares of common stock
that we are offering hereby will be approximately $36.7 million, at an initial
offering price of $9.00 per share and after deducting the estimated
underwriting discounts and commissions and estimated offering expenses payable
by us. If the underwriters' over-allotment option is exercised in full, the net
proceeds will be approximately $44.2 million. We will not receive any proceeds
from the sale of common stock by Kushner-Locke.
We intend to use approximately $2.7 million of the net proceeds of this
offering to repay advances and outstanding obligations to Kushner-Locke. These
advances are due on demand and bear interest at 10% per annum. We intend to use
approximately $296,000 of the net proceeds of this offering to repay debt under
a promissory note we assumed on behalf of Nicholas Matzorkis, our co-founder,
which matures in July 1999 and bears interest at 12% per annum. We intend to
use approximately $9.2 million of the net proceeds of this offering to make our
required payments under our marketing agreement with Yahoo! Inc., approximately
$2.0 million of which will be paid within five days of the closing of this
offering.
We currently have no specific plans for the remaining proceeds of this
offering. However, the principal reasons for this offering include:
. increased advertising and promotion of our services and US SEARCH
brand;
. expansion of our sales and marketing infrastructure to support new
services, including services to corporate and professional clients;
. expansion and improvements of our technology infrastructure,
including our information systems and computer hardware and
software; and
. other working capital and general corporate purposes.
We may apply an undetermined portion of the net proceeds of this offering to
acquire or invest in complementary businesses or technologies. However, we have
no present understandings, commitments or agreements and are not currently
engaged in any negotiations with respect to any material acquisition or
investment in third parties. Pending these uses, we intend to invest the net
proceeds from this offering in short-term, interest-bearing, investment-grade
securities.
DIVIDEND POLICY
We have never declared or paid cash dividends on our capital stock. We
currently expect to retain our future earnings, if any, for use in the
operation and expansion of our business and do not anticipate paying any cash
dividends in the foreseeable future.
16
<PAGE>
CAPITALIZATION
The following table sets forth the capitalization of US SEARCH as of March
31, 1999 on an actual basis, on a pro forma basis to reflect the issuance of
2,493,651 shares of common stock upon the conversion of the $5.5 million
convertible subordinated note assumed outstanding as of March 31, 1999, and on
a pro forma as adjusted basis to reflect the issuance of 1,360,173 shares of
common stock upon the full exercise of outstanding warrants and proceeds of
approximately $2.8 million to be received on full exercise of these warrants,
and the sale of 4,500,000 shares of common stock offered by us at the initial
public offering price of $9.00 per share and the receipt of the estimated net
proceeds from the offering, after deducting the underwriting discounts and
estimated offering expenses and the use of approximately $3.0 million to repay
related party debt and approximately $2.0 million to be paid within five days
after the closing of this offering under a marketing agreement with Yahoo! Inc.
This table should be read in conjunction with "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and the financial
statements and the related notes included elsewhere in this prospectus.
<TABLE>
<CAPTION>
As of March 31, 1999
-------------------------------
Pro
Pro Forma As
Actual Forma(1) Adjusted(2)
-------- -------- -----------
(in thousands)
<S> <C> <C> <C>
Cash and cash equivalents...................... $ 16 $ 16 $ 34,481
======== ======== ========
Short-term borrowings.......................... $ 6,391 $ 2,891 $ 219
Long-term debt, net of current portion......... 217 217 189
Stockholders' equity (deficit):
Common stock, $.001 par value; 40,000,000
shares authorized; 9,067,820 shares issued
and outstanding, actual; 11,561,471 and
17,421,644 shares issued and outstanding pro
forma and pro forma as adjusted,
respectively................................ 15 12 17
Additional paid-in capital................... 7,488 14,991 54,451
Unearned deferred compensation............... (2,349) (2,349) (2,349)
Accumulated deficit.......................... (13,438) (18,931) (18,931)
-------- -------- --------
Total stockholders' equity (deficit)....... (8,284) (6,277) 33,188
-------- -------- --------
Total capitalization (deficit)........... $ (1,676) $ (3,169) $ 33,596
======== ======== ========
</TABLE>
- ----------
(1) The pro forma amounts include amortization of debt issue costs of $1.5
million relating to the issuance of warrants and payment of an origination
fee to Kushner-Locke in January 1999.
(2) Does not include (a) up to 900,000 shares issuable pursuant to the
underwriters' over-allotment option, (b) 1,459,914 shares reserved for
issuance upon the exercise of stock options outstanding as of March 31,
1999 under our 1998 Stock Incentive Plan and our 1999 Non-Employee
Directors' Stock Option Plan, and (c) 1,458,109 shares available for future
grant or issuances under our 1998 Stock Incentive Plan and 1999 Non-
Employee Directors' Stock Option Plan.
17
<PAGE>
DILUTION
Our net tangible book deficit as of March 31, 1999 was approximately
$(8,284,000) or $(0.91) per share of common stock. After giving effect to the
matters described below on the net tangible book deficit as of March 31, 1999,
we had a pro forma adjusted net tangible book deficit of approximately
$(3,527,000), or $(.27) per share of common stock. Net tangible book value per
share represents the amount of total tangible assets less total liabilities,
divided by the number of shares of common stock outstanding. Without taking
into account any other changes in the pro forma adjusted net tangible book
value after March 31, 1999, other than to give effect to the receipt by US
SEARCH of the estimated net proceeds from the sale of the 4,500,000 shares of
common stock offered by US SEARCH hereby at the initial public offering price
of $9.00 per share, the pro forma adjusted net tangible book value of US SEARCH
as of March 31, 1999, would have been approximately $33.2 million, or $1.91 per
share. This represents an immediate increase in the net tangible book value of
$2.18 per share to existing stockholders and an immediate dilution of $7.09 per
share to new investors. The following table illustrates this per share
dilution:
<TABLE>
<S> <C> <C>
Assumed initial public offering price per share.................. $9.00
-----
Pro forma adjusted net tangible book deficit per share before
this offering................................................... $(.27)
Increase per share attributable to new investors................. 2.18
-----
Pro forma adjusted net tangible book value per share after this
offering........................................................ 1.91
-----
Dilution per share to new investors.............................. $7.09
=====
</TABLE>
The following table sets forth the number of shares of common stock
purchased from US SEARCH, total consideration paid to US SEARCH, and the
average price per share paid by the existing stockholders and by new investors
purchasing shares in this offering, before deducting estimated underwriting
discounts and commissions and offering expenses payable by US SEARCH at the
public offering price of $9.00 per share.
<TABLE>
<CAPTION>
Shares Purchased Total Consideration
------------------ ------------------- Average Price
Number Percent Amount Percent Per Share
---------- ------- ----------- ------- -------------
<S> <C> <C> <C> <C> <C>
Existing stockholders...... 12,921,644 74.2% $ 8,265,005 16.9% $0.64
New investors.............. 4,500,000 25.8 40,500,000 83.1 9.00
---------- ---- ----------- ----
Total.................... 17,421,644 100% $48,765,005 100% 2.80
========== ==== =========== ====
</TABLE>
The foregoing table and the pro forma adjusted net tangible book value per
share, before this offering gives effect to the issuance of 453,391 shares of
common stock upon the assumed full exercise of outstanding warrants issued in
September 1998; conversion of $5,500,000 convertible subordinated note assumed
to be outstanding as of March 31, 1999 into 2,493,651 shares of common stock;
and issuance of 906,782 shares of common stock upon assumed full exercise of
the outstanding warrants issued in January 1999 and proceeds of $2,750,000 to
be received on full exercise of these warrants, of which none had been received
as of March 31, 1999. The foregoing table excludes an aggregate of 2,918,023
shares of common stock reserved for issuance under our 1998 Stock Incentive
Plan and 1999 Non-Employee Directors' Stock Option Plan, of which options to
purchase 1,459,914 shares of common stock were outstanding as of March 31,
1999.
18
<PAGE>
SELECTED FINANCIAL INFORMATION
The selected financial data set forth below should be read in conjunction
with "Management's Discussion and Analysis of Financial Condition and Results
of Operations" and the financial statements of US SEARCH and related notes
included elsewhere in this prospectus. The statements of operations data for
each of the years in the three-year period ended December 31, 1998, and the
balance sheet data at December 31, 1997 and 1998, are derived from financial
statements of US SEARCH audited by PricewaterhouseCoopers llp, independent
accountants, which are included elsewhere in this prospectus. The statements of
operations data for the year ended December 31, 1995, and the balance sheet
data for December 31, 1995 and 1996, are derived from audited financial
statements of US SEARCH (not included in this prospectus). The statements of
operations data for the period from November 3 to December 31, 1994 and balance
sheet data at December 31, 1994 are derived from unaudited financial statements
of US SEARCH not included in this prospectus. The statements of operations data
for the three months ended March 31, 1998 and 1999 and the balance sheet data
for March 31, 1999 are derived from unaudited financial statements of
US SEARCH. The unaudited financial statements have been prepared on
substantially the same basis as the audited financial statements and, in the
opinion of management, include all adjustments, consisting only of normal
recurring adjustments, necessary for the fair presentation of the results of
operations for such periods. Historical results are not necessarily indicative
of the results to be expected in the future.
<TABLE>
<CAPTION>
From Three Months
November 3- Years Ended December 31, Ended March 31,
December 31, ------------------------------------------ ---------------------
1994 1995 1996 1997 1998 1998 1999
------------ --------- --------- --------- --------- --------- ----------
Statement of Operations
Data: (in thousands, except share data)
<S> <C> <C> <C> <C> <C> <C> <C>
Net revenues............ $ 21 $ 899 $ 5,690 $ 2,971 $ 9,245 $ 1,804 $ 3,296
Cost of services........ 23 595 3,363 1,501 3,769 642 1,227
--------- --------- --------- --------- --------- --------- ----------
Gross profit (loss)..... (2) 304 2,327 1,470 5,476 1,162 2,069
--------- --------- --------- --------- --------- --------- ----------
Operating expenses:
Advertising and
marketing............. -- 626 2,559 655 7,007 670 2,553
General and
administrative........ 7 188 1,007 1,165 3,882 527 846
Charge for warrants
issued to majority
stockholder(1)........ -- -- -- -- 1,190 -- --
Charge for compensation
related to stock
options............... -- -- -- -- -- -- 876
--------- --------- --------- --------- --------- --------- ----------
Total operating
expenses............... 7 814 3,566 1,820 12,079 1,197 4,275
--------- --------- --------- --------- --------- --------- ----------
Loss from operations.... (9) (510) (1,239) (350) (6,603) (35) (2,206)
Interest expense(2)..... -- (15) (64) (110) (197) (24) (2,786)
Amortization of debt
issue costs............ -- -- -- -- -- -- (1,603)
Other (expense) income,
net.................... -- 132 (60) 63 13 6 --
--------- --------- --------- --------- --------- --------- ----------
Loss before income
taxes.................. (9) (393) (1,363) (397) (6,787) (53) (6,595)
Provision for income
taxes.................. -- 1 1 2 1 1 1
--------- --------- --------- --------- --------- --------- ----------
Net loss................ $ (9) $ (394) $ (1,364) $ (399) $ (6,788) $ (54) $ (6,596)
========= ========= ========= ========= ========= ========= ==========
Basic and diluted net
loss per-share(3)...... $ (0.00) $ (0.04) $ (0.14) $ (0.04) $ (0.71) $ (0.01) $ (0.69)
========= ========= ========= ========= ========= ========= ==========
Weighted-average shares
outstanding used in
per-share
calculation(3)......... 9,521,211 9,521,211 9,521,211 9,521,211 9,521,211 9,521,211 9,521,211
Pro Forma basic and
diluted net loss per
share(3) $ (0.71) $ (0.33)
Weighted average shares
outstanding used in pro
forma per share
calculation(3) 9,521,211 12,014,862
</TABLE>
<TABLE>
<CAPTION>
As of December 31, As of
----------------------------------------------- March 31,
1994 1995 1996 1997 1998 1999
-------- -------- -------- -------- -------- ---------
Balance Sheet Data: (in thousands)
<S> <C> <C> <C> <C> <C> <C>
Cash and cash
equivalents............ $ 7 $ 7 $ -- $ -- $ 99 $ 16
Working capital
(deficiency)........... 2 (432) (2,069) (2,363) (7,761) (8,465)
Total assets............ 11 94 653 547 575 2,019
Long term debt, net of
current portion........ -- -- 81 61 343 217
Total debt.............. 5 233 850 904 4,001 6,608
Total stockholders'
equity (deficit)....... 6 (388) (1,752) (2,151) (7,749) (8,284)
</TABLE>
- ----------
(1) For a description of the charge for warrants issued to the majority
stockholder, see Note 13 of notes to the financial statements.
(2) Included in interest expense for the three months ended in March 31, 1999
is approximately $2.6 million relating to the beneficial conversion feature
of the convertible subordinated note. For a further description of this
charge, see Note 10 of notes to the financial statements.
(3) For a description of the method used to compute basic and diluted net loss
per share and weighted average number of shares outstanding, see Note 3 of
notes to the financial statements.
19
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction with
"Selected Financial Information" and the financial statements and related notes
contained elsewhere in this prospectus. This prospectus contains forward-
looking statements that involve risks and uncertainties, such as statements of
our plans, objectives, expectations and intentions. The cautionary statements
made in this prospectus should be read as being applicable to all related
forward-looking statements wherever they appear in this prospectus. Our actual
results could differ materially from those discussed here as a result of
several factors, including those set forth under "Risk Factors" and elsewhere
in this prospectus.
Overview
US SEARCH provides clients with quick, easy and inexpensive access to a
broad range of public record information about individuals. We offer our
services through our Web site and our toll free telephone number.
We generate revenues by performing public record search services for
clients. Our services include individual locator, individual profile report,
nationwide court record search, adoption reunion and other related public
record search services. Individual locator services provide clients with the
address and phone number for individuals, as well as date of birth, date of
death, and the city, state and zip code where the death benefits were issued.
Our Internet-based "Instant Searches" provide a subset of this information in a
completely automated fashion and at a lower price. Individual profile report
services provide clients with the first and last name, alias, current and
previous address, phone number, vehicle ownership, bankruptcy, property
ownership nationwide court record and corporate affiliation information about
an individual into a single report. The typical time required to complete a
search is one to three days, with "Instant Searches" requiring as little as a
few seconds or minutes. We publish the prices for our services directly on our
Web site and typically determine a client's manner of payment prior to
beginning the search process. Prices for our non-instant searches have ranged
from approximately $25 to $140 per search. Prices for "Instant Searches" have
ranged from approximately $5 to $10 per search. The prices for our services
vary based on the nature and amount of information and whether or not the
search is assisted by a search specialist.
Revenue for our services are recognized when the search results are
delivered to the client. The terms of sale do not provide for refunds after
search services have been delivered, however, in instances where the clients
indicate that the initial search result was unsuccessful, we may perform, at no
charge to the client, up to three identical searches during the one year period
following the first search. In addition, where clients desire additional
information they can request to broaden the scope of their "Instant Searches"
and we apply up to a portion of the cost of the client's "Instant Searches"
towards the cost of the more comprehensive search. For the twelve month period
ended December 31, 1998 and the three months ended March 31, 1999, revenues
generated from individual locator and "Instant Searches" accounted for more
than 90% and 85% of revenues, respectively. We expect the revenue contribution
of each of our services to change over time, including with the introduction of
pre-employment background screening.
Our cost of services consists primarily of payroll expenses, including
commissions paid to sales employees, data acquisition costs, local and long
distance telephone charges associated with providing our services, and payment
processing costs. In addition, we include an allocable portion of facilities,
network and technology infrastructure. Our cost of services is likely to
increase substantially as we obtain access to new data and information sources
and expand infrastructure to support an increase in marketing and sales
personnel to address existing and anticipated demand for our services.
Our operating expenses consist primarily of advertising, marketing, general
and administrative expenses. We expect our operating expenses to increase
substantially as we attempt to expand our sales and marketing force and hire
additional administrative, sales, advertising, financial and accounting
personnel. We may also need to relocate or seek new facilities that better
address our operational and personnel needs. We may incur
20
<PAGE>
higher costs and possible disruption to our business as we hire and train new
personnel to replace those lost in an expansion or relocation of our facility.
Advertising and marketing expenses constitute the largest portion of our
operating expenses. Prior to the introduction of our Internet-based services,
advertising consisted primarily of radio and television advertising. With the
growth of our Internet-based services, an increasing portion of our advertising
expenses consists of Internet-based advertising such as arrangements with
Internet search engines and popular Web sites. Production costs associated with
such advertising are expensed in the period first aired or displayed to the
public. Costs relating to actual airing or display of such advertising are
expensed in the quarter the advertising appears. We expect our advertising and
marketing expenses to significantly increase as we offer new services, attempt
to expand our US SEARCH brand and build a corporate sales force.
We have non-cancelable advertising and marketing agreements with several
Internet companies. These agreements provide for varying levels of exclusivity
and require us to make monthly minimum payments based on the number of
impressions displayed on affiliate Web sites. As of March 31, 1999, the minimum
non-cancelable payments required under these agreements are approximately $4.4
million for the remainder of 1999, $3.5 million in 2000, $3.0 million in 2001,
and $1.0 million in 2002. Pursuant to our marketing agreement with Yahoo! Inc.,
we are required to make payments of approximately $9.2 million through the end
of 2000, of which approximately $2.0 million will be paid within five days of
closing of the offering.
Our general and administrative expenses consist primarily of compensation
and related costs for administrative personnel, fees for outside professional
advisors and an allocation of our occupancy costs and other overhead costs.
Under an administrative services agreement, Kushner-Locke provides human
resources services, accounting services and management services, as well as the
services of Peter Locke and Donald Kushner. In connection with this agreement,
we pay Kushner-Locke a monthly fee of $35,000. This agreement will terminate at
the end of June 1999. We will need to hire additional human resources, finance
and accounting personnel to replace the services provided by Kushner-Locke
under this agreement. We expect that costs relating to these replacement
personnel will be comparable to the fee charged by Kushner-Locke under this
agreement. We expect the trend of increased general and administrative costs to
continue as we hire additional sales, research and executive personnel to
promote new services to corporate and professional clients.
In September 1998, in consideration of advances and provision of certain
administrative services to us by Kushner-Locke and certain guarantees made by
Kushner-Locke on our behalf, we issued Kushner-Locke warrants to purchase
453,391 shares of our common stock at an aggregate exercise price of $5.00.
Accordingly, we recorded a charge of approximately $1.2 million in 1998,
representing the deemed fair value of the warrants at the date of grant. See
"Certain Relationships and Related Transactions."
We incurred significant net losses of approximately $1.4 million in 1996,
$399,000 in 1997 and $6.8 million in 1998. For the three months ended March 31,
1999 we incurred a net loss of $6.6 million. At March 31, 1999, we had an
accumulated deficit of approximately $13.4 million. We expect to incur
significant additional losses and continued negative cash flow from operations
for the next year.
We expect to incur in total an interest charge of approximately $4.6 million
in the first half of 1999 relating to the beneficial conversion feature of the
convertible subordinated note. Through March 31, 1999, we have recorded a
charge of approximately $2.6 million of the anticipated $4.6 million charge
relating to the beneficial conversion feature of this convertible subordinated
note. This charge is calculated using the deemed fair value of common stock on
the date each advance is made to us subtracting the conversion price and
multiplying the resulting amount by the number of shares into which the advance
is convertible. The value assigned to the beneficial conversion feature is no
greater than the amount of each advance made under the convertible subordinated
note.
We will further incur a non-cash charge of $2.5 million relating to warrants
issued to Kushner-Locke in January 1999. This charge represents the deemed fair
value of the warrants, which is the per share value derived by applying the
Black-Scholes option pricing model to our underlying shares of common stock and
21
<PAGE>
multiplying that value by the number of shares of common stock issuable upon
exercise of the warrants. This charge is amortized over the expected term of
the convertible subordinated note. The expected term of the convertible
subordinated note is six months. Through March 31, 1999, we have recorded
approximately $1.3 million of the $2.5 million charge related to these
warrants.
During the first quarter of 1999, we granted certain stock options to
employees and non-employee directors and will continue to grant options under
the 1998 Stock Incentive Plan and the 1999 Non-Employee Directors' Stock Option
Plan. We will record an unearned deferred compensation expense of approximately
$3.2 million, representing the difference between the deemed fair value of our
common stock for accounting purposes and the exercise price of such options at
the date of grant. This amount, net of amortization will be presented as a
reduction of stockholders' equity and amortized over the vesting period of the
applicable options. As a result, we currently expect to amortize the following
amounts of deferred compensation annually: approximately $2.1 million in 1999;
$735,000 in 2000; $315,000 in 2001; $75,000 in 2002; and $1,000 thereafter.
Results of Operations
The following table sets forth, for the periods indicated, the relative
percentages that certain income and expense items bear to net revenues:
<TABLE>
<CAPTION>
Three
Months
Years Ended Ended
December 31, March 31,
------------------ -----------
1996 1997 1998 1998 1999
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Net revenues.................................... 100% 100% 100% 100% 100%
Cost of services................................ 59 51 40 36 37
--- --- --- --- ----
Gross profit.................................... 41 49 60 64 63
--- --- --- --- ----
Operating expenses:
Advertising and marketing..................... 45 22 76 37 77
General and administrative.................... 18 39 42 29 26
Charge for warrants issued to majority
stockholder.................................. -- -- 13 -- --
Charge for compensation related to stock
options...................................... -- -- -- -- 27
--- --- --- --- ----
Total operating expenses........................ 63 61 131 66 130
--- --- --- --- ----
Loss from operations............................ (22) (12) (71) (2) (67)
Interest expense................................ (1) (4) (2) (1) (84)
Amortization of debt issue costs................ -- -- -- -- (49)
Other (expense) income, net..................... (1) 3 -- -- --
--- --- --- --- ----
Loss before income taxes........................ (24) (13) (73) (3) (200)
Provision for income taxes...................... -- -- -- -- --
--- --- --- --- ----
Net loss........................................ (24)% (13)% (73)% (3)% (200)%
=== === === === ====
</TABLE>
Comparison of the Three Months Ended March 31, 1999 to the Three Months Ended
March 31, 1998
Net Revenues. Our net revenues increased to approximately $3.3 million for
the three months ended March 31, 1999, or 83%, from approximately $1.8 million
for the three months ended March 31, 1998. The increase is primarily
attributable to an increase in the number of Internet-based transactions which
occurred as a result of the introduction of lower-priced "Instant Searches" and
increased Internet-based advertising on a greater number of Internet search
engines and popular Web sites.
Gross Profit. Gross profit increased to approximately $2.1 million for the
three months ended March 31, 1999, or 78%, from approximately $1.2 million for
the three months ended March 31, 1998. Gross profit as a percentage of net
revenues decreased to approximately 63% for the three months ended March 31,
1999, from approximately 64% for the three months ended March 31, 1998. Cost of
services increased to approximately $1.2 million for the three months ended
March 31, 1999, or 91%, from approximately $642,000 for the three months ended
March 31, 1998. As a percentage of net revenues, cost of services remained
consistent for the three month period ended March 31, 1999 as compared to the
three month period ended March 31, 1998. Higher data acquisition and
fulfillment costs were offset by reduced labor and telephone costs. As a
percentage
22
<PAGE>
of net revenues, data acquisition and fulfillment costs increased from 4% to 7%
of net revenues and labor and telephone costs decreased from 29% to 20% of net
revenues. Telephone costs decreased as a percentage of net revenues primarily
due to lower volume of 900-number telephone billings. Labor costs decreased as
a percentage of net revenues primarily due to a higher volume of Internet
transactions which generally involve a lower labor component.
Advertising and Marketing Expenses. Advertising and marketing expenses
increased to approximately $2.6 million for the three months ended March 31,
1999, from approximately $670,000 for the three months ended March 31, 1998. As
a percentage of net revenues, advertising and marketing expenses increased to
approximately 77% for the three months ended March 31, 1999, from approximately
37% for the three months ended March 31, 1998. This increase is primarily
attributable to an increase in the level of Internet-based advertising.
General and Administrative Expenses. General and administrative expenses
increased to approximately $846,000 for the three months ended March 31, 1999,
from approximately $527,000 for the three months ended March 31, 1998. As a
percentage of net revenues, general and administrative expenses decreased to
approximately 26% for the three months ended March 31, 1999, from approximately
29% for the three months ended March 31, 1998. This increase in general and
administrative expenses in absolute dollars is primarily attributable to the
cost associated with administrative services provided by Kushner-Locke pursuant
to the administrative services agreement, and the hiring of a new chief
executive officer in February 1999.
Charge for Compensation related to stock options. During the period ended
March 31, 1999, we granted options to officers, employees and directors under
the 1998 Stock Incentive Plan and the 1999 Non-Employee Directors' Stock Option
Plan. In connection with these grants, approximately $876,000 of compensation
expense was recorded in the three month period ended March 31, 1999. No options
were granted in the corresponding three month period ended March 31, 1998. We
expect to incur a charge of approximately $1.2 million for the remainder of
1999, $735,000 for 2000, $315,000 for 2001, $75,000 for 2002 and $1,000 for
2003 in connection with these options.
Interest Expense. Interest expense increased to $2.8 million for the three
months ended March 31, 1999 from $24,000 for the three months ended March 31,
1998. Included in interest expense for the three months ended in March 31, 1999
is approximately $2.6 million relating to the beneficial conversion feature on
the convertible subordinated note. The interest expense for the three months
ended March 31, 1999 also includes interest on outstanding short term and long
term debt, the convertible subordinated note issued to Kushner-Locke and
advances and other inter-company charges from Kushner-Locke.
Amortization of debt issue costs. In connection with the convertible
subordinated note issued to Kushner-Locke, we granted to Kushner-Locke warrants
to purchase 906,782 shares of our common stock. Relating to these warrants we
will incur a non-cash charge of $2.5 million. This charge is amortized over the
expected term of the convertible subordinated note. The expected term of the
convertible subordinated note is six months. In the three months ended March
31, 1999, we incurred amortization of $1.3 million which has been recorded as
debt issue costs. Also, the $5,500,000 convertible subordinated note includes
an origination fee in the amount of $550,000 payable to Kushner-Locke. In the
three months ended March 31, 1999, $330,000 of this origination fee was
amortized. We expect to incur additional charges of $1.5 million relating to
the warrants and origination fee in the three months ended June 30, 1999.
Comparison of the Year Ended December 31, 1998 to the Year Ended December 31,
1997
Net Revenues. Our net revenues increased to approximately $9.2 million for
the year ended December 31, 1998 from approximately $3.0 million for the year
ended December 31, 1997. The increase is primarily attributable to increased
advertising, including the initiation of Internet-based advertising, and
improvement in the sales productivity of our operations center.
Gross Profit. Gross profit increased to approximately $5.5 million for the
year ended December 31, 1998 from approximately $1.5 million for the year ended
December 31, 1997. Gross profit as a percentage of net
23
<PAGE>
revenues increased to approximately 60% for the year ended December 31, 1998,
from approximately 49% in the year ended December 31, 1997. Cost of services
increased to approximately $3.8 million for the year ended December 31, 1998
from approximately $1.5 million for the year ended December 31, 1997. As a
percentage of net revenues, cost of services decreased to 40% for the year
ended December 31, 1998 from 51% for the year ended December 31, 1997. The
decrease is primarily attributable to lower labor costs resulting from a higher
volume of Internet transactions which generally involve a lower labor
component.
Advertising and Marketing Expenses. Our advertising and marketing expenses
increased to approximately $7.0 million for the year ended December 31, 1998
from $655,000 for the year ended December 31, 1997. As a percentage of net
revenues, advertising and marketing expenses increased to approximately 76% for
the year ended December 31, 1998, from approximately 22% for the year ended
December 31, 1997. This increase is primarily attributable to initiating
Internet-based advertising and increased television promotional fee
advertisements.
General and Administrative Expenses. Our general and administrative expenses
increased to approximately $3.9 million for year ended December 31, 1998 from
approximately $1.2 million for the year ended December 31, 1997. As a
percentage of net revenues, general and administrative expenses increased to
approximately 42% for the year ended December 31, 1998, from approximately 39%
for the year ended December 31, 1997. This increase is primarily attributable
to professional and advisor fees associated with planned financings in 1998,
increased administrative services charges from Kushner-Locke and an increase in
bad debt expenses. Bad debt expense for the year ended December 31, 1998
increased over the prior year due primarily to the increase in uncollectible
900-number billings to clients. In addition, general and administrative
expenses in 1998 include a non-recurring charge of $296,000 relating to
compensation expenses to a stockholder. See "Certain Relationships and Related
Transactions."
Charge relating to issuance of warrants to majority stockholder. In
September 1998, in consideration of Kushner-Locke's advances to us, provision
of administrative services to us and guarantees made by Kushner-Locke on our
behalf, we issued Kushner-Locke warrants to purchase 453,391 shares of our
common stock at an aggregate exercise price of $5.00. Accordingly, we recorded
a charge of approximately $1.2 million in 1998, representing the fair market
value of the warrants at the date of grant.
Interest Expense. Interest expense results primarily under our credit
facilities and other borrowing. Our interest expense increased to $197,000 for
the year ended December 31, 1998, or 79%, from $110,000 for the year ended
December 31, 1997. The increase is primarily attributable to the increased bank
borrowings under a line of credit from Comerica Bank and from interest on the
advances received from Kushner-Locke. We expect interest expense to increase in
the first half of 1999 as a result of increased borrowing from Kushner-Locke
under the convertible subordinated note. The entire amount outstanding under
the convertible subordinated note will be automatically converted into our
common stock on the closing of this offering. See "Certain Relationships and
Related Transactions" for a description of the convertible subordinated note to
Kushner-Locke.
Income Taxes. As of December 31, 1998 we had approximately $3.5 million of
federal and $3.5 million of state net operating loss carryforwards to offset
future taxable income. Our net operating loss carryforwards expire beginning in
2017 for federal and 2002 for state. Our ability to utilize net operating loss
carryforwards may be limited in the event that a change in ownership, as
defined in the Internal Revenue Code, occurs in the future. We have recorded a
full valuation allowance against our deferred tax assets as we believe that it
is more likely than not that the deferred tax assets will not be realized based
upon our expected future results of operations.
Comparison of the Year Ended December 31, 1997 to the Year Ended December 31,
1996
Net Revenues. Our net revenues decreased to approximately $3.0 million for
the year ended December 31, 1997, or 48%, from approximately $5.7 million for
the year ended December 31, 1996. The
24
<PAGE>
decrease is primarily attributable to a decline in the number of customer
telephone calls to our operations and support center, which was primarily a
result of a substantial reduction in advertising expenditures. The effects of
the declining call volume were offset, in part, by an improved sales
productivity which can be attributed to the introduction in 1997 of a 900-
number telephone billing option for customer payments.
Gross Profit. Gross profit decreased to approximately $1.5 million, or 37%,
for the year ended December 31, 1997, from approximately $2.3 million for the
year ended December 31. 1996. Gross profit as a percentage of net revenues
increased to approximately 49% for the year ended December 31, 1997, from
approximately 41% for the year ended December 31, 1996. This increase is
primarily attributable to a decrease in cost of services as a result of
staffing and operations reductions. Cost of services decreased to approximately
$1.5 million for the year ended December 31, 1997, or 55% from approximately
$3.4 million for the year ended December 31, 1996. As a percentage of net
revenues, cost of services decreased to 51% for the year ended December 31,
1997 from 59% for the year ended December 31, 1996. The decrease is primarily
attributable to a reduction in labor and temporary help costs associated with a
lower number of operator assisted search services in 1997. This decrease was
partly offset by increased telephone costs following the introduction of 900-
number telephone billings. As a percentage of net revenues, labor costs
decreased from 30% to 25% and telephone costs increased from 9% to 11%.
Advertising and Marketing Expenses. Advertising and marketing expenses
decreased to $655,000 for the year ended December 31, 1997, or 74%, from
approximately $2.6 million for the year ended December 31, 1996. As a
percentage of net revenues, advertising and marketing expenses decreased to
approximately 22% for the year ended December 31, 1997, from approximately 45%
for the year ended December 31, 1996. This decrease is primarily attributable
to our inability to fund additional advertising during the year ended
December 31, 1997.
General and Administrative Expenses. General and administrative expenses
increased to approximately $1.2 million for the year ended December 31, 1997,
or 16%, from approximately $1.0 million for the year ended December 31, 1996.
As a percentage of net revenues, general and administrative expenses increased
to approximately 39% for the year ended December 31, 1997, from approximately
18% for the year ended December 31, 1996. This percentage increase is primarily
attributable to an increase in bad debt expense associated with the
introduction of 900-number call revenues as well as fixed costs in relation to
the reduced revenue base.
Interest Expense. Interest expense increased to $110,000 for the year ended
December 31, 1997, or 72%, from $64,000 for the year ended December 31, 1996.
This increase is primarily attributable to the increasing average balance of
unpaid borrowings and to the addition of several capitalized equipment leases.
Subchapter S Election. Through November 1997, we had elected to be treated
as a Subchapter S company for income tax purposes. This provides for the pass-
through, to the individual taxable income of our stockholders, of all taxable
income and losses for federal income tax purposes and substantially all taxable
income and losses for state income tax purposes. For fiscal years 1996 and
1997, we recognized minimum federal and state income tax expense. Effective
November 1997, our Subchapter S election was terminated. We will be subject to
income taxes for periods subsequent to the termination. As of December 31,
1997, we had approximately $90,000 in net operating loss carryforwards. We have
recorded a full valuation allowance against our deferred tax assets as we
believe that it is more likely than not that the deferred tax assets will not
be realized based upon our expected future results of operations.
25
<PAGE>
Selected Quarterly Results Of Operations
The following table sets forth certain unaudited statements of operations
data for the seven quarters ended March 31, 1999, in dollars and as a
percentage of net revenues. This data has been derived from unaudited financial
statements that, in the opinion of our management, include all adjustments
(consisting only of normal recurring adjustments) necessary for a fair
presentation of the information when read in conjunction with our annual
audited financial statements and the notes thereto. The operating results for
any quarter are not necessarily indicative of the results for any future
period.
<TABLE>
<CAPTION>
Quarter Ended
------------------------------------------------------------------------------------
September 30, December 31, March 31, June 30, September 30, December 31, March 31,
1997 1997 1998 1998 1998 1998 1999
------------- ------------ --------- -------- ------------- ------------ ---------
(in thousands)
<S> <C> <C> <C> <C> <C> <C> <C>
Net revenues................ $ 737 $ 823 $1,804 $2,436 $ 2,704 $ 2,301 $ 3,296
Cost of services............ 315 441 643 976 1,112 1,038 1,227
----- ----- ------ ------ ------- ------- -------
Gross profit................ 422 382 1,161 1,460 1,592 1,263 2,069
----- ----- ------ ------ ------- ------- -------
Operating expenses:
Advertising and marketing.. 220 250 670 1,851 2,429 2,057 2,553
General and
administrative............ 334 327 527 501 1,434 1,420 846
Charge for warrants issued
to majority stockholder... -- -- -- -- 1,190 -- --
Charge for compensation
related to stock options.. -- -- -- -- -- -- 876
----- ----- ------ ------ ------- ------- -------
Total operating expenses.... 554 577 1,197 2,352 5,053 3,477 4,275
----- ----- ------ ------ ------- ------- -------
Loss from operations........ (132) (195) (36) (892) (3,461) (2,214) (2,206)
Interest expense............ (22) (37) (24) (46) (62) (65) (2,786)
Amortization of debt issue
costs...................... -- -- -- -- -- -- (1,603)
Other (expense) income,
net........................ 8 7 6 3 1 3 --
----- ----- ------ ------ ------- ------- -------
Loss before income taxes.... (146) (225) (54) (935) (3,522) (2,276) (6,595)
Provision for income taxes.. -- 2 -- -- -- 1 1
----- ----- ------ ------ ------- ------- -------
Net loss.................... $(146) $(227) $ (54) $ (935) $(3,522) $(2,277) $(6,596)
===== ===== ====== ====== ======= ======= =======
<CAPTION>
Percentage of Net Revenues
------------------------------------------------------------------------------------
September 30, December 31, March 31, June 30, September 30, December 31, March 31,
1997 1997 1998 1998 1998 1998 1999
------------- ------------ --------- -------- ------------- ------------ ---------
<S> <C> <C> <C> <C> <C> <C> <C>
Net revenues................ 100% 100% 100% 100% 100% 100% 100%
Cost of services............ 43 54 36 40 41 45 37
----- ----- ------ ------ ------- ------- -------
Gross profit................ 57 46 64 60 59 55 63
----- ----- ------ ------ ------- ------- -------
Operating expenses:
Advertising and marketing.. 30 30 37 76 90 89 77
General and
administrative............ 45 40 29 20 53 62 26
Charge for warrants issued
to majority stockholder... -- -- -- -- 44 -- --
Charge for compensation
related to stock options.. -- -- -- -- -- -- 27
----- ----- ------ ------ ------- ------- -------
Total operating expenses.... 75 70 66 96 187 151 130
----- ----- ------ ------ ------- ------- -------
Loss from operations........ (18) (24) (2) (36) (128) (96) (67)
Interest expense............ (3) (4) (1) (2) (2) (3) (84)
Amortization of debt issue
costs...................... -- -- -- -- -- -- (49)
Other (expense) income,
net........................ 1 1 -- -- -- -- --
----- ----- ------ ------ ------- ------- -------
Loss before income taxes.... (20) (27) (3) (38) (130) (99) (200)
Provision for income taxes.. -- (1) -- -- -- -- --
----- ----- ------ ------ ------- ------- -------
Net loss.................... (20)% (28)% (3)% (38)% (130)% (99)% (200)%
===== ===== ====== ====== ======= ======= =======
</TABLE>
26
<PAGE>
In the quarter ended March 1998, net revenues increased approximately $1.0
million from the preceding quarter primarily due to the introduction of our
Internet-based services. In the quarter ended June 1998, our advertising and
marketing expenses increased by approximately $1.2 million from the preceding
quarter primarily due to the introduction of Internet-based advertising. In the
quarter ended December 1998, net revenues decreased primarily due to customer
confusion relating to a temporary change in our television advertising
strategy. In the quarter ended December 1998, we reduced our advertising and
marketing expenses due to our capital constraints.
We expect that interest expense and debt issue costs for the three month
period ending June 30, 1999 will be lower than the quarter ended March 31,
1999, primarily due to lower amortization amounts relating to warrants and the
beneficial conversion feature on the convertible subordinated note. Thereafter,
we expect that interest expense for the following six months will decrease
following the repayment and/or conversion of existing debt with the proceeds of
this offering.
Our quarterly revenues and operating results have fluctuated in the past,
and may significantly fluctuate in the future due to a variety of factors, many
of which are outside of our control. These factors include:
. service interruption, delays and costs relating to expansion of our
networking infrastructure and facilities, for example, we have
experienced system interruptions in the past as well as slower response
times during periods of high calling volume;
. fluctuations in the cost of television, radio, print and Internet-based
advertising, for example, television advertising prices are generally
higher during the last quarter of calendar year due to the seasonal
trends in programming and consumer viewing patterns;
. the inability to maintain or develop relationships with, or continue
advertising on, various key Internet companies and popular Web sites,
for example, due to capital constraints, we decreased our advertising on
popular Web sites during the quarter ended December 1998;
. delays and costs associated with unsuccessful service introductions;
. increased turnover of our personnel due to a relocation of our
facilities or for other reasons;
. loss of one or more of our database providers; and
. anticipating and responding to the introduction of new or enhanced
services by our competitors, or more generally to increase demand for
our services, for example, we reduced the price of our Internet-based
services in December 1998 to further increase demand for these services.
Our business depends largely on our ability to attract new clients through
television and Internet-based advertising as well as other marketing efforts. A
substantial portion of our operating expenses are based on advertising
commitments on television programming and Internet directories and Web sites.
Many of our advertising arrangements are non-cancelable fixed term contracts.
As a result, a substantial portion of our expenses in any given period is fixed
and based in part on expectations of future revenue and advertising and sales
productivity. We may be unable to generate enough revenues following this
advertising to offset the related cost. We may also be unable to adjust our
spending in a timely manner to compensate for any unexpected revenue shortfall.
From time to time, demand for our services following television or Internet-
based advertising has exceeded our infrastructure and operational capacity and
we were slow or unable to respond to client demand for our services. When these
events occurred, we may have lost clients and our reputation may have been
damaged.
Liquidity And Capital Resources
Cash and cash equivalents increased to $99,000 at December 31, 1998 as
compared to zero at December 31, 1997. This increase is primarily attributable
to increased borrowings under our bank line of credit and advances from
Kushner-Locke in excess of amounts used in operating and investing activities.
For
27
<PAGE>
the three month period ended March 31, 1999, cash and cash equivalents
decreased to $16,000 from $99,000 at December 31, 1998. The decrease in cash
and cash equivalents is primarily attributable to expenditures on operations
and repayment of debt to third parties exceeding our net cash flows from
additional borrowings from Kushner-Locke.
Cash used by operations increased to approximately $1.4 million for the year
ended December 31, 1998 as compared to $321,000 for the year ended December 31,
1997. This increase is primarily attributable to the increase in our net loss
during 1998 partly offset by deferring payments in accounts payable. Cash used
in operations increased to $1.9 million for the three month period ended March
31, 1999 as compared to $437,000 for the three month period ended March 31,
1998. This increase is primarily attributable to increased expenditures on
Internet-based advertising and increased general and administrative expenses
relating to the administrative services agreement and hiring of executive
personnel.
Cash used in investing activities increased to $168,000 for the year ended
December 31, 1998 as compared to $32,000 for the year ended December 31, 1997.
This increase is primarily attributable to increased purchases of computer
hardware and software and other equipment. Cash used in investing activities
increased to $59,000 for the three month period ended March 31, 1999 as
compared to $45,000 for the three month period ended March 31, 1998 primarily
due to additional purchases of computer hardware and software.
Cash provided by financing activities increased to approximately $1.6
million for the year ended December 31, 1998 as compared to $353,000 for the
year ended December 31, 1997. We received additional advances from Kushner-
Locke of approximately $1.8 million during the year ended December 31, 1998,
including approximately $1.2 million which in January 1999 was refinanced in
connection with the issuance of convertible subordinated note to Kushner-Locke.
In addition, we received bank financing in the form of lines of credit. Net
borrowings under lines of credit were approximately $338,000 in 1998. These
amounts were partially offset by principal payments of approximately $238,000
made by us on notes payable, repayment of bank overdraft of $101,000 and
principal payments on capital leases. Cash provided by financing activities
increased to $1,826,000 for the three month period ended March 31, 1999 as
compared to $488,000 for the three month period ended March 31, 1998. This
increase in cash flows from financing activities was primarily attributable to
additional advances from Kushner-Locke of $2.3 million under the convertible
subordinated note. These advances were partially offset by scheduled repayments
on third-party notes payable and capital leases, and full payment on the bank
line of credit.
We require substantial working capital to fund our operations and expect to
use a significant portion of the net proceeds of this offering to fund our
operating losses and capital expenditures.
Since inception we have experienced negative cash flow from operations and
expect to continue to experience significant negative cash flow from operations
in the foreseeable future. We currently believe that our existing capital
resources, combined with the net proceeds of this offering, will be sufficient
to meet our presently anticipated cash requirements through at least the next
12 months. After the next 12 months, we may be required to obtain additional
funds through equity or debt financing. No assurance is given that we will not
be required to raise additional financing prior to that time. Furthermore,
there is no assurance that additional financing will be available when needed
or that, if available, the financing will be on favorable terms. If the
financing is not available when required or is not available on acceptable
terms, we may be unable to develop or enhance our services, take advantage of
business opportunities or respond to competitive pressures, any of which could
have a material adverse effect on our business and results of operations.
In June 1998, US SEARCH became a guarantor of Kushner-Locke's $60 million
credit facility with The Chase Manhattan Bank. In connection with this credit
facility, we granted Chase a security interest in all of our assets. This
credit facility was amended in May 1999 to release us from obligations under
this credit facility and to release our assets from the security interest held
by Chase. This release is effective upon the registration statement relating to
this offering being declared effective by the Securities and Exchange
Commission.
28
<PAGE>
Year 2000 Issue
We depend on the delivery of information over the Internet, a medium which
is susceptible to the Year 2000 Issue. The "Year 2000 Issue" is typically the
result of limitations software written using two digits rather than four to
define the applicable year. If software with date-sensitive functions are not
Year 2000 compliant, they may recognize a date using "00" as the year 1900
rather than the year 2000.
Risks
The Year 2000 Issue could result in a system failure or miscalculations
causing significant disruption of our operations, including, among other
things, interruptions in Internet traffic, accessibility of our Web site,
delivery of our service, transaction processing or searching and other features
of our services. It is possible that this disruption will continue for an
extended period of time. We depend on information contained primarily in
electronic format in databases and computer systems maintained by third
parties, including governmental agencies. The disruption of third-party systems
or our systems interacting with these third-party systems could prevent us from
receiving orders or delivering search results in a timely manner. In addition,
we rely on the integration of many systems in aggregating search data from
multiple sources. The failure of any of those systems as a result of Year 2000
compliance issues could prevent us from delivering our products and services.
Failure of our systems or third-party systems providing information used in our
services could materially adversely affect our business and results of
operations. We have received information confirming the Year 2000 compliance
from present data suppliers. We are expecting to obtain Year 2000 compliance
information from other third party vendors by June 30, 1999.
Readiness for Year 2000
We are conducting an evaluation of our internal systems. Our objective is to
ensure uninterrupted transition into the Year 2000. The scope of the Year 2000
objective includes: (1) information technology ("IT") such as software and
hardware, (2) non-IT systems such as components contained in various safety
systems, facilities and utilities, and (3) readiness of key third parties,
including suppliers and customers. We are seeking written confirmation of the
Year 2000 status of our third party software. We are also utilizing internal
resources to test internally developed software for Year 2000 compliance. We
may be required to modify or replace significant portions of our software so
that our systems will function properly with respect to dates in the year 2000
and thereafter. If we are unable to make the required modifications or
conversions in a timely and cost-effective manner or if there is a malfunction
in our systems, potential systems interruptions or delays in services may have
a material adverse effect on our business, financial condition and results of
operations. Further, if we fail to successfully resolve these issues, some or
all of our operations may shut-down, which would have a material adverse effect
on our business, financial condition and results of operations.
Third Party Readiness
We have a process in place to assess the Year 2000 readiness of our business
critical vendors and customers, and are involved in working with these vendors
and customers on Year 2000 compliance issues. Disruptions with respect to
computer systems of vendors or customers, whose systems are outside our
control, could impair our ability to provide support to our customers, and
could have a material adverse effect on our financial condition and results of
operations.
Costs
We estimate that the total cost of implementing and maintaining our Year
2000 compliance program will not exceed $250,000 and most of these expenses
will be incurred during 1999. This estimate includes implementation of
redundant hardware, software and communications systems. We will monitor this
estimate and revisions will be made as information becomes available. Our costs
incurred to date with respect to Year 2000 compliance have not been
significant.
29
<PAGE>
Contingency Plans
We are currently developing contingency plans to be implemented as part of
our efforts to identify and correct Year 2000 problems with our internal and
Web-based systems. We expect to complete this plan by September 30, 1999.
Within the plans, we are addressing various problems, including disruptions to
our Web-servers, significant interruption of data flow between us and third
party data providers, and failures associated with internal systems. The
contingency plans emphasize the identification and accessibility of additional
data sources for our services.
We are currently evaluating (1) the use of multiple Web-hosting sites to
assure availability of our services, (2) additional data sources, (3) manual
procedures for order processing and delivery of search results (4) standby
equipment and accelerated availability of replacement parts, and (5) increased
staffing levels for resolution of information technology issues and to manually
process orders. Failure to implement any of these plans, if and when necessary,
may have a material adverse effect on our business and results of operations.
New Accounting Pronouncements
In March 1998, the American Institute of Certified Public Accountants issued
Statement of Position 98-1, "Accounting for the costs of computer software
developed or obtained for internal use." This statement provides guidance on
accounting for the costs of computer software developed or obtained for
internal use. This statement is effective for fiscal periods commencing after
December 15, 1998. We do not believe that the implementation of this statement
will have a material impact on our financial statements.
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Instruments
and Hedging Activities." This statement establishes accounting and reporting
standards for derivative instruments and hedging activities and requires
companies to recognize all derivatives as either assets or liabilities in the
statement of financial position and measure those instruments at fair value.
The statement is effective for all fiscal quarters of fiscal years beginning
after June 15, 1999. We do not believe that the implementation of this
statement will have any material impact on our financial statements since we do
not presently engage in derivative or hedging activities.
On September 28, 1998, the SEC issued a press release and stated the "SEC
will formulate and augment new and existing accounting rules and
interpretations covering revenue recognition, restructuring reserves,
materiality, and disclosure" for all publicly-traded companies. Until such time
as the SEC staff issues such interpretative guidelines, it is unclear what, if
any, impact such interpretative guidance will have on the Company's current
accounting practices.
Quantitative and qualitative disclosures about market risk
We considered the provision of Financial Reporting Release No. 48
"Disclosure of Accounting Policies for Derivative Financial Instruments and
Derivative Commodity Instruments, and Disclosure of Quantitative and
Qualitative Information about Market Risk Inherent In Derivative Financial
Instruments, Other Financial Instruments and Derivative Commodity Instruments."
We had no holdings of derivative financial instruments at March 31, 1999 and
our total liabilities as of March 31, 1999 consist primarily of notes payable
and accounts payable which have fixed interest rates and were not subject to
any significant market risk.
30
<PAGE>
BUSINESS
Overview
US SEARCH provides clients with a single, comprehensive access point to a
broad range of public record information about individuals. Our services can be
accessed from anywhere and at any time through our Web site, 1800USSEARCH.com,
or by calling our toll free telephone number, 1-800 U.S. SEARCH. Using our
services, clients can obtain addresses, aliases, phone numbers, property
ownership, court records and judgments, corporate affiliations, date of birth
and date of death information. We recently began offering some of our services
to corporate and professional clients. In the fourth quarter of 1999, we intend
to introduce and offer pre-employment background screening to corporations,
professional organizations and government agencies. In the first quarter of
1999, we had approximately 4.6 million unique visitors to our Web site and
received over 220,000 telephone inquiries. The number of unique visitors is
determined by counting the number of people that access our Web site to learn
more about our services, and excluding multiple visits by the same person
within a five minute period.
Using our services is quick, easy and inexpensive. All of our searches are
highly automated and performed by electronically accessing multiple,
geographically-dispersed public record databases. We aggregate the requested
information and deliver the search results in a user-friendly format. A growing
number of searches can be conducted directly by clients via our Web site. For
example, our Internet-based "Instant Searches" are processed online, in a
completely automated fashion, and the results are often delivered in as little
as a few seconds or minutes. For more complex searches, we also provide
additional services, including assisted searches, both online and through our
toll free telephone number. Search results can be delivered through our Web
site, by e-mail, telephone, facsimile or mail. We continually evaluate our
database and other information sources to ensure that we make available the
most timely, accurate and comprehensive public record information to our
clients.
Industry Background
The Fragmented Nature of Public Record Information
A considerable amount of public record information exists with respect to
every individual. This information includes names and addresses, aliases,
nationwide court records, property ownership and bankruptcies. However, the
sources of this information are often fragmented, geographically dispersed and
poorly indexed. In addition, the reliability of this information and the data
provided by multiple sources may not be consistent. In this environment,
individuals, businesses and government agencies who wish to access public
record information are faced with the time-consuming, costly and difficult task
of gathering data from numerous locations and sources. Even after gathering the
data, consumers may not be able to adequately verify the information and
organize it into a useful format.
While services and technologies have developed to enable remote access to
public record information, there generally has been no single, comprehensive
access point for the multitude of public record information available on
individuals. Other sources, including credit reporting services and other
database services, make available only limited types of information for
specific purposes, such as verifying individual credit records. These services
are typically expensive, charging a fee or requiring a subscription prior to
use. More comprehensive search and background check services are available
through private investigation firms, but they are typically too detailed and
expensive to permit general use by the public.
Highly Mobile Society
In addition, our society is highly mobile and constantly changing: people
are moving, getting married or divorced, changing jobs, changing names,
acquiring and disposing of assets and interacting with different private and
public entities for personal, professional and commercial reasons. These
population and market dynamics often make it very difficult to maintain contact
with friends, relatives and others and to verify
31
<PAGE>
individual background and reference information for important business,
personal or other purposes. According to research published by the U.S.
Department of Commerce's Census Bureau, between March 1996 and March 1997,
about 42 million Americans, 16% of the population, moved. In addition,
according to research published by the Bureau of National Affairs, the average
monthly employee turnover rate for 1998 was approximately 1.1% of the U.S. work
force. Moreover, according to the U.S. Bureau of Labor Statistics, in February
1998, the average worker in the U.S. had been with their current employer for
only 3.6 years. According to the U.S. Bureau of Labor Statistics, approximately
26 million individuals re-entered the United States work force in 1998.
The Individual Reference Service Industry
The individual reference service industry plays an important role in our
highly mobile society--helping consumers, businesses and government agencies to
find people, verify identities and otherwise obtain public record information
about individuals. Individual reference services provide clients with access to
databases containing information obtained from various fragmented,
geographically dispersed sources, including (1) records that government
agencies have made available for public inspection; (2) publicly available
information from non-governmental sources, such as telephone directories and
newspaper reports; and (3) to a lesser extent, proprietary or non-public
sources, such as survey data, other self-reported information, or credit header
data (the non-financial identifying information at the top of a credit report).
Growth of the Internet and Electronic Commerce
The growth of the Internet has fueled electronic commerce. A report
generated by International Data Corporation, a third-party market research
firm, estimates that the number of Internet users worldwide will grow from an
estimated 97 million at the end of 1998 to an estimated 320 million in 2002.
Several factors have fueled the growth of the Internet and its increased use by
businesses and consumers as a vehicle for commerce, including:
. the large and growing number of personal computers in the workplace and
home;
. the continued improvements in network infrastructure and capacity;
. the easy, low-cost access to the Internet and new navigation
capabilities;
. the proliferation of online content and the development of specialized
online services; and
. the growing acceptance and awareness of the Internet among consumer and
business users.
The growth of the Internet as a global medium for communication and
information exchange has driven demand for content and services which can be
accessed and delivered online. In particular, the Internet provides the ability
to efficiently and rapidly search, access and manipulate information from a
wide variety of sources regardless of their location. Through electronic
commerce, these information services can be accessed and delivered online
quickly, easily and inexpensively.
Growing acceptance of electronic commerce has enabled businesses to offer
their products and services to a global audience and develop one-to-one
relationships with consumers without having to make significant investments in
traditional infrastructure such as retail outlets, distribution channels and
sales personnel. Technological advances that enable secure online transactions
have also facilitated an increase in electronic commerce. In addition,
consumers can access a broader selection of goods, efficiently compare goods
and make informed purchasing decisions. Consumers also benefit from the
increased convenience of purchasing goods and services from anywhere at anytime
using their personal computers.
As a result, the volume of business transacted on the Internet is increasing
substantially. IDC estimates that the total value of goods and services
purchased over the Internet worldwide will grow from approximately $32 billion
in 1998 to approximately $426 billion per year by the end of 2002. IDC also
estimates that business to consumer commerce on the Internet will increase from
approximately $11 billion in 1998 to approximately
32
<PAGE>
$94 billion in 2002. Business to business commerce on the Internet is expected
to grow from approximately $21 billion in 1998 to approximately $332 billion in
2002.
The fragmented nature of public record data sources, the highly mobile
nature of our society and the growth of the Internet and electronic commerce
has created a significant opportunity for companies, including those within the
individual reference services industry, who are capable of offering this
content on the Internet. Using the Internet, public record information can be
gathered and delivered without the need for time consuming and expensive
searches by the client. Without these services, individuals would typically be
required to locate and visit multiple government offices or sites and become
acquainted with varying methods of categorization, access and retrieval.
Benefits of US SEARCH Services
US SEARCH provides clients with quick, easy and inexpensive access to a
broad range of public record information about individuals. Our services can be
accessed from anywhere, at any time through our Web site, 1800USSEARCH.com, or
by calling our toll free telephone number, 1-800 U.S. SEARCH. We perform
searches quickly by electronically accessing multiple, geographically-dispersed
public record databases, aggregating the requested information, and then
delivering the search results in a user-friendly format, often within seconds
or minutes. Search results can be delivered on our Web site, by e-mail,
telephone, facsimile or mail. All of our searches are highly automated. A
growing number of searches can be conducted by our clients online via our Web
site. We also provide our clients with additional services, such as assisted
searches, both online or through our toll free telephone number. We continually
evaluate our database and other information sources to ensure that we make
available timely, accurate and comprehensive public record information to our
clients. Key benefits of our services include:
Single Access Point to Broad Range of Public Record Information Services. We
provide clients with a single, comprehensive access point to a broad range of
public record information about individuals. Through our Web site and toll free
telephone number, clients can obtain addresses, aliases, phone numbers,
property ownership, court records and judgments, corporate affiliations, date
of birth and date of death information. We also offer a number of our services,
such as individual locator and individual profile report services, to corporate
and professional clients. We intend to expand our corporate and professional
service offerings by introducing pre-employment background screening in the
fourth quarter of 1999.
Expanding Range of Online Search Services. Our online searches provide
clients with convenient, effective and inexpensive access to public record
information about individuals. Online searches access public record databases
electronically and can be performed quickly and effectively by the client on
our Web site. In the case of our Internet-based "Instant Searches," which
include individual locator, first name only and national death record searches,
the search request is processed online, in a completely automated fashion, and
the results are often delivered in as little as a few seconds or minutes. Our
online searches currently consist of "Instant Searches," individual locator,
individual profile report, anti-fraud identification verification, nationwide
court records and adoption and reunion searches. We intend to increase the
number of online searches, including the number of "Instant Searches,"
available to our clients.
Growing Access to Public Record Information Sources. We electronically
access and aggregate data from multiple, geographically-dispersed public record
databases and other information sources. These data sources provide us with
access to a wide variety of information about individuals such as aliases,
bankruptcies, past and current addresses and telephone numbers, property
ownership and court judgments. We continually evaluate our information sources
to ensure that we have access to the most timely, accurate and comprehensive
public record information. We plan to gain access to additional online
databases in order to expand the number of online searches offered to our
clients.
Additional Services. We provide additional services through our search
specialists for more complex and in-depth public record search requests. We are
often able to fulfill a client's search request based on only very
33
<PAGE>
minimal client input information, such as a first and last name or a date of
birth. We provide both pre-and post-sales support via e-mail, live online chat
rooms and telephone-based client services and search consultations, 24 hours a
day, seven days a week. Our search specialists are trained to perform searches,
help clients define search criteria, refine the search process to produce
useful results for clients, and assist clients in understanding the search
results.
US SEARCH Strategy
Our objective is to be the leading provider of public record information and
search services for individual, corporate and professional clients. To
accomplish these objectives, we plan to:
Strengthen the US SEARCH Brand. We began marketing our services under our 1-
800 U.S. SEARCH brand. In the first quarter of 1999, we had approximately 4.6
million unique visitors to our Web site and received over 220,000 telephone
inquiries. We intend to strengthen our brand position through increased
advertising, emphasis on our 1800USSEARCH.com Web site and promotion of
additional public record information and search services under the US SEARCH
brand. We also intend to combine increasing Internet-based advertising and
Internet marketing agreements with strategically placed television advertising
to attract a greater number of users to our Web site.
Leverage Efficiencies of the Internet. We are committed to offering a
greater number of Internet-based "Instant Searches" and expanding the type and
nature of information that can be accessed through our Web site. To do this, we
intend to increase the use and accessibility of our Web site and enhance our
technology infrastructure to accommodate electronic access to additional public
record information sources, increase the speed and automation of search and
delivery processes, and improve our user interface, navigation and transaction
processing.
Expand Range of Service Offerings. We regularly evaluate potential service
offerings and will promote new services to our clients. To do this, we plan to
gain access to additional third party content and database information and
enter into marketing agreements with Internet search engines and popular Web
sites to offer integrated search services to clients. We intend to monitor the
market acceptance of new service offerings and combine complementary services
to encourage multiple searches by the same client.
Develop Corporate and Professional Service Offerings. Our public record
information and search services for corporate and professional clients
currently include individual locator and individual profile report search
services. We intend to further develop and expand these service offerings by
introducing new services such as pre-employment background screening and by
providing customized Web pages that allow rapid processing of high volume
search requests by corporate and professional clients. We plan to offer these
services primarily to corporate and professional organizations, such as
nationwide retailers, insurance companies, health care providers and lodging
and transportation companies. In addition, we are establishing a corporate
sales force and a team of research specialists to increase the marketing of our
services to prospective professional and corporate clients and to address the
specific needs of each corporate and professional client.
US SEARCH Services
US SEARCH provides individual, corporate and professional clients with
quick, easy and inexpensive access to a broad range of public record
information about individuals. A client can request a search from anywhere, at
any time through our Web site, 1800USSEARCH.com, or by calling our toll free
telephone number, 1-800 U.S. SEARCH. We perform the search quickly by
electronically accessing multiple, geographically-dispersed public record
databases, aggregating the requested information, and then delivering the
search results in a user-friendly format, often within seconds or minutes. We
are often able to fulfill a client's search requests based on only very minimal
client input information, such as a first and last name or a date of birth. Our
services are available 24 hours a day, seven days a week.
34
<PAGE>
We provide clients with a single, comprehensive access point to a broad
range of public record information about individuals. The fees for our services
range from $10.00 to $139.95 per transaction based on the nature and amount of
information gathered and whether or not the search is assisted by one of our
search specialists. We believe that by providing a broad range of services at
multiple price points, we promote increased use of our services and offer a
better value than alternative sources. We intend to expand our service
offerings to include pre-employment background screening and other services for
corporate and professional clients and government agencies.
All of our searches are highly automated. A growing number of our searches,
such as our "Instant Searches," can be conducted by clients online via our Web
site 1800USSEARCH.com. For complex and in-depth search requests, our search
specialists conduct search consultations, during which they perform searches,
define search criteria, suggest further complementary searches, refine the
search process to produce the most useful results for the client, and assist
clients in understanding the search results. Assisted searches are available to
clients directly by calling 1-800 U.S. SEARCH, after online searches or during
customer service consultations.
The table below illustrates our current service offerings. Prices for our
services vary based on the nature and amount of information gathered and
whether or not the search is assisted by a search specialist.
<TABLE>
<CAPTION>
Name of Search Service Typical Selling Prices Type of Search Results
---------------------------------------- -------------------------- ------------------------
<C> <C> <S>
"Instant Searches"...................... $10 for first search First or last name,
addresses, telephone
number, date of birth,
-people locator search $5 for additional searches date of death and
the city, state and zip
-first name only search code where the
death benefits were
-national death records search issued
Individual Locator...................... $39.95-$69.95 Address and telephone
number of the person,
date of birth, date of
death and the city,
state and zip code where
the death benefits were
issued
Individual Profile Report............... $69.95-$139.95 First and last name,
aliases, current and
previous addresses,
phone numbers, vehicle
ownership, bankruptcies,
property ownership,
nationwide court
records, and corporate
affiliations
Anti-Fraud Identification Verification.. $50.00-$79.95 Addresses associated
with the social security
number, telephone
number, date of birth,
any known aliases, and
name variations of the
social security number,
and the state and year
the social security
number was issued
Nationwide Court Records Search......... $24.95 Pending and past
lawsuits, civil
judgments, foreclosures,
property and tax liens,
and unlawful detainers
Adoption Reunion........................ $25.00-$125.00 Adoption and reunion
manual and registry and
search specialists to
assist in reuniting
clients with biological
family members and
friends
</TABLE>
Instant Searches. In December 1998, we began offering Internet-based
"Instant Searches," which include general individual locator, first name only
and national death record searches. To conduct an "Instant
35
<PAGE>
Search," the client enters available information into appropriate fields on our
Web site. Searches are performed automatically and results are delivered via
the Web site, often in a matter of seconds or minutes. If a client desires
additional information, the client can then request a more comprehensive search
service which may include using a search specialist to assist in completing the
search request. We apply up to a portion of the cost of the "Instant Searches"
purchased online by the client towards the cost of the more comprehensive
search.
Individual Locator. This service is targeted at individual, corporate and
professional clients interested in locating missing individuals such as long-
lost friends, family, former employees, or business contacts. Corporate and
professional organizations may also wish to locate a large number of members in
connection with class reunions, corporate gatherings or fundraising efforts. We
can search various databases and public records to find the person, with as
little as a person's name, date of birth or last known address.
Individual Profile Reports. Individual or corporate clients can order a
public record search to verify information about a person and determine whether
there is any material information about a person's history that has not been
disclosed. This service provides a simple individual profile report at an
affordable, cost-effective price. Using this service, a client will receive
information about a person's previous addresses, lawsuits, judgments, UCC
filings, property ownership and corporate affiliations. We believe that the
individual profile report can provide valuable decision support to corporate
and professional clients.
Anti-Fraud Identification Verification. This service allows clients to
search for evidence of anyone using their social security number or assuming
their identity for fraudulent purposes. One of the major causes of credit card
fraud is the unlawful use of a person's social security number to gain credit.
The person whose identity was used typically suffers the expense of time and
money trying to remove the information from his or her credit reports. Our
service allows for early detection of this activity, avoiding time consuming
and costly resolution. The client is provided with addresses associated with
their social security number for the past 7-10 years, the telephone number,
date of birth, known aliases, and name variations of the social security
number, and the state and year the social security number was issued.
Nationwide Court Records Search. This service allows clients to search court
records across all 50 states to determine if an individual has filed any
lawsuits, had lawsuits filed against them, obtained a civil judgment, had a
civil judgment filed against them, had property or tax liens against them, had
any foreclosures, or had any unlawful detainers filed against them.
Adoption Reunion. This service allows clients to find their biological
family members. In July 1998, we began to emphasize and develop this service to
address the needs of clients who have been separated by adoption and would like
to find biological family members.
For the year ended December 31, 1998, our individual locator and "Instant
Searches" services accounted for over 90% of our revenues. For the three months
ended March 31, 1999, our individual locator and "Instant Searches" services
accounted for over 85% of our revenues.
Services Under Development
Additional "Instant Searches." We intend to begin offering several
additional Internet-based "Instant Searches" on our Web site. For example, we
plan to offer "Instant" lawsuit searches, legal judgment searches, UCC filings
searches, real property searches, and unclaimed property searches. As with our
current "Instant Searches," clients would be able to directly access these
services online and receive results in a completely automated fashion via our
Web site, often in as little as seconds or minutes.
Pre-Employment Background Screening. In the fourth quarter of 1999, we
intend to begin offering pre-employment background screening services to
corporate and professional clients. This service will allow corporate and
professional clients to conduct automated public record information searches in
connection with hiring and other employment decisions. These services will
incorporate our personal profile reports and a wide variety of criminal records
databases. We believe these services will provide valuable support to the
36
<PAGE>
employment processes of corporate and professional clients. We expect to design
customized templates with appropriate fields on separate Web pages with secure
access for our corporate and professional clients.
Using US SEARCH Services
Using our services is quick, easy and inexpensive. Clients can access our
services through our user-friendly Web site, 1800USSEARCH.com, as well as our
toll free telephone number, 1-800 U.S. SEARCH. Our services are available 24
hours a day, seven days a week.
1800USSEARCH.Com Web Site. Clients can access our Web site directly or can
click through via our advertising on the people search services of one of the
following Internet search engines and popular Web sites: AOL.com,
Netcenter.com, Excite.com, InfoSpace.com, Lycos.com, Snap.com, Infoseek.com,
WhoWhere.com, Tripod.com, Angelfire.com and MailCity.com. From our Web site, a
client can choose from one of our completely automated "Instant Searches" or
from several different types of assisted searches, including (1) individual
locator; (2) individual profile reports; (3) anti-fraud identification
verification or (4) adoption reunion. Once a search is selected, a client will
be prompted to fill in specific information, such as the full name, birth date,
social security number or last known address of the individual about whom the
information is requested. In some cases, a search can be performed with as
little as a person's first name. Prior to processing the search request, the
client must complete an order form and provide us with the client's credit card
information.
In the case of our Internet-based "Instant Searches," the search request is
processed online, and the results are delivered in often as little as a few
seconds or minutes. In the case of our partially-automated searches, the
request is forwarded to one of our search specialists for fulfillment. Based on
the information provided, our search specialists search, aggregate, cross-
reference and verify data from multiple, dispersed public record information
sources in order to find the most useful results for the client. Our computer
system then assembles the results into a pre-formatted, user-friendly template.
After review, the completed report is delivered to the client by email,
facsimile or mail. It is our long-term strategy to offer an increasing number
of automated search services and expand the type and nature of information that
may be accessed online through our Web site.
US SEARCH Telephone Services. Through our toll free telephone number, 1-800
U.S. SEARCH, we provide additional search services for more complex and in-
depth search requests. Our operations and support center has trained search
specialists and customer service agents available 24 hours a day, seven days a
week. Our search specialists are available for search consultations, during
which they can perform searches, help clients define search criteria, refine
the search process to produce the most useful results for clients, and assist
clients in understanding the search results. If a client's online search via
our Web site is unsuccessful or he desires additional information, the client
can then call in to request additional, more comprehensive search services
which may include using a search specialist to assist in completing the search
request. In addition, we provide both pre-and post-sales support. We train our
search specialists and customer service representatives to offer solutions that
best address the clients' search requests and public record information needs.
We believe that access to our toll free telephone number increases the ease and
convenience of our services and allows for a greater range of available
services, delivery methods, and payment options.
Public Record Information Database Sources. We have direct and indirect
electronic access to a broad range of public record databases and other
information sources such as CSRA/Ameridex, Metromail, Database Technologies,
Experian (formerly TRW Information Services) and TransUnion. These suppliers,
directly and indirectly, provide us with quick access to a wide variety of
information such as aliases, vehicle ownership, bankruptcies, property
ownership, past and current addresses, address profiles, current and previous
telephone numbers, judgments, deed transfer information, corporate affiliation
information, UCC filings, voter registration records, pilot license, and
aircraft and water vessel ownership. We intend to expand access to additional
databases, such as criminal record databases, in order to implement our
upcoming corporate and professional service offerings. We maintain open
accounts with our data providers and pay fixed fees per inquiry. While we
37
<PAGE>
currently obtain over 50% of the information used in our services from
CSRA/Ameridex and Database Technologies, we do not believe that we are
dependent on any single third party source for any particular information,
because we believe multiple alternative sources of information are available to
us if our current sources become unavailable or unreliable for any reason.
We continually evaluate our information database sources both to ensure that
we have access to the most timely, cost-effective, accurate and comprehensive
data, and to expand the number of automated searches offered to our clients. If
we determine that a particular information database source is inadequate or it
otherwise becomes unavailable, we believe we can switch to an alternative data
source with some increase in cost and without significant delay. From time to
time we expect to evaluate potential acquisitions or investments in in-house
proprietary information databases to complement our access to third party data
providers.
Marketing and Brand Awareness
We market our services through a combination of Internet and television
advertising featuring our US SEARCH brand. We intend to strengthen our US
SEARCH brand through increased advertising, emphasis on our 1800USSEARCH.com
Web site and promotion of additional public record information and search
services under the US SEARCH brand. We also intend to combine an increasing
level of key Internet advertising with strategically placed television
advertising to attract a great number of users to our Web site.
Internet Advertising. We believe that marketing agreements with Internet
search engines and popular Web sites have increased our brand recognition and
attracted clients. We generate visitors to our Web site from our various forms
of Internet advertising, such as banners, buttons, text links, and online white
pages. We maintain marketing agreements with leading Internet search engines
and popular Web sites, including InfoSpace.com, The Lycos Network, Go
Network/Infoseek, Snap.com and Yahoo!. These marketing agreements have placed
our advertising on major Web sites such as InfoSpace.com, AOL.com,
Netcenter.com, Lycos.com, Snap.com, WhoWhere.com, Tripod.com, Angelfire.com,
MailCity.com, Go Network/Infoseek.com, Excite.com and Yahoo.com. We believe
that these search engines and Web sites reach a growing base of Internet users
who perform a free people search on the Internet but desire better results or
more information. We plan to increase the type and amount of Internet
advertising to enhance our brand recognition and attract clients. In addition,
we intend to develop relationships with other companies, based on traffic
patterns, customer profiles, and related services in order to increase our
advertising presence on the Internet.
The following is a summary of some of the key features of our Internet
marketing agreements:
. InfoSpace.com. InfoSpace has agreed to integrate our content into its
Web site and offer our service as a co-branded service distributed on
its network. As a co-branded service, our services and brand are
featured alongside the services and/or brand of the respective Web site
within the network of InfoSpace.com. During the four-year term beginning
1998, InfoSpace will not run advertising on its Web site from any of our
competitors, and we will not include the name of any competitor of
InfoSpace in our advertising. The Infospace.com agreement provides us
with a minimum guarantee of 72 million impressions per month within the
Infospace network and affiliated Web sites.
. The Lycos Network (Lycos.com, WhoWhere.com, Tripod.com, Angelfire.com,
MailCity.com). Lycos has agreed to advertise our content on all of its
affiliated sites in the form of buttons, text links, banners, and
keywords. Our agreement is for a term of one year starting in March of
1999, with a renewal for an additional year. Our agreement provides that
Lycos will not run advertising from any of our competitors on any of the
sites that Lycos owns. The Lycos agreement provides us with a minimum
guarantee of 500 million impressions for the first year.
. Go Network/InfoSeek.com. Go Network/Infoseek.com has agreed to advertise
our content on its People & Business Finder section in the form of an ad
banner which is linked to key words and topic-based matches. This one-
year agreement, ending in September of 1999, provides us with
approximately 14 million impressions per year, primarily tied to our
name appearing in the static page.
38
<PAGE>
. Snap.com. Under our one-year advertising arrangement with Snap.com,
starting in March of 1999, Snap.com has agreed to advertise our content
on its White Page section in the form of a static "Midas" button and not
to sell a permanent "Midas" button to any of our competitors. Snap.com
uses the term "Midas" button to refer to buttons that allow direct
access to a third party's site.
. Yahoo! Yahoo! has agreed to integrate our search services into its Yahoo
People Search Web site. Yahoo! has also agreed to advertise our content
on Yahoo! People Search and other areas of Yahoo's US-based Web sites in
the form of graphic links, text links and banners. Our agreement
provides that we will be the only third party to have specific types of
services relating to public record information about individuals and
businesses integrated into or advertised on Yahoo! People Search. Yahoo!
has agreed to place our banner advertising on specific directory and
keyword search result pages. Under this agreement, Yahoo! has the right
to honor its current contracts with companies that may directly compete
with us. The term of our agreement with Yahoo! expires on January 31,
2001. Under this agreement, we are obligated to pay approximately $9.2
million.
Television Advertising. We use television advertising to promote our
services. Our principal form of television advertising includes 10-second
promotional fee spots on national television programs that prominently feature
our toll free telephone number, 1-800 U.S. SEARCH, and Web site address,
1800USSEARCH.com. We intend to continue using television advertising to
increase brand awareness and loyalty and attract Internet users to our Web
site. We will pursue multiple marketing and advertising channels, combining
strategically placed fee spots on popular television shows with longer format
commercials and other television advertising. We believe that our television
advertising has enabled us to increase the reach of our US SEARCH brand and
services.
We are currently the network closed captioning sponsor for CNBC and
regularly appear on other cable networks including MSNBC, CNN and CNN Headline
News. As a closed captioning sponsor, we receive a 10-second spot during
regular television programing which identifies us as a sponsor. Closed
captioning sponsorship is generally less expensive than other forms of
television advertising. We are also a fee spot sponsor of the two highest rated
syndicated television programs, Jeopardy and Wheel of Fortune. Fee spots are
10-second commercials which are offered by the producers of television shows as
opposed to the television network broadcasting company or affiliate and are
generally less expensive than advertising arrangements made directly with the
television network or affiliate. We advertise weekly on Leeza, The Ricki Lake
Show, Hollywood Squares, Judge Judy, The Dating Game, Newlywed Game and Judge
Joe Brown. We intend to expand our fee spot advertising as opportunities arise.
By monitoring telephone call volumes on the days that the spots aired, we
estimate the effectiveness of each advertising buy. We intend to reach a wider
audience and to attract more clients through the use of longer length
commercials (15, 30 and 60 seconds) and longer format commercials which provide
marketing flexibility not available with the 10-second fee spots.
Marketing to Corporate and Professional Clients. We are establishing a
corporate sales force and a team of research specialists to promote and
increase the marketing of our services to prospective professional and
corporate clients and to address the specific needs of each corporate and
professional client. We may also offer corporate accounts with volume discounts
to promote and market our services. In addition, we intend to work closely with
corporate and professional clients to better understand their information and
search needs, and we plan to leverage our existing database information to
create search services tailored to those needs. For example, in the fourth
quarter of 1999, we intend to begin offering pre-employment background
screening services to corporate and professional clients, allowing these
clients to conduct automated public record information searches in connection
with hiring and other employment decisions. In addition, we expect to design
customized Web pages with specific search criteria tailored to the needs of
each corporate and professional client. The customized Web page would
conveniently and securely provide online delivery of search results that could
then be more easily integrated with the client's own existing database or other
technology infrastructure.
39
<PAGE>
Technology and Infrastructure
Our Internet connectivity is provided by Worldsite, via a dedicated frame
relay connection. We currently have one Web server, housed at Worldsite. We
plan to move our Web server and Internet connectivity to Exodus in second
quarter of 1999. We will have 3 Web servers at Exodus after the move. Worldsite
and Exodus are third parties that provide clients with off-site hosting of
their Web servers.
We plan to continue to upgrade and expand our server and networking
structure in an effort to improve accessibility, reliability, and the response
time of our Web site and increasing the efficiency and security of our
services. For example, we intend to increase the number of servers supporting
our Web site, and rapidly deploy high quality software and features into our
system to increasingly automate our search processes and improve communication
and response time. We also intend to continue to invest in our telephone
systems to allow for greater flexibility in managing inbound call flows and
gathering relevant trend information.
By investing in our technology and telecommunications infrastructures, we
believe we can improve client accessibility to our services and are able to
more effectively collect user information and respond to search requests. Any
failure to effectively integrate planned networking structure and tools into
our operations and any system or vendor failure that causes an interruption in
our service or decreases responsiveness of our Web site could result in less
traffic on our Web site and, if sustained or repeated, could impair our
reputation, brand and overall demand for our services.
Competition
The individual reference service industry is highly competitive and highly
fragmented. Currently, our primary competitors in the area of individual
locator searches include major Internet search engines, telephone companies and
other third parties who publish free printed or electronic directories, private
investigation firms and a variety of other companies. Our primary competitors
for individual profile report search services include these companies, as well
as LEXIS-NEXIS, a division of Reed Elsevier Inc., The Dun & Bradstreet
Corporation, Reuters Limited, Avert, Inc., ChoicePoint, Inc., KnowX.com, a
division of Information America, The Kroll-O'Gara Company, Pinkerton and the
Proudfoot Reports Division of ASI Solutions, Inc. Many of these companies have
greater financial and marketing resources than we do and may have significant
competitive advantages through other lines of business, their existing client
base and other business relationships. We also compete with online services and
other Web site operators, as well as traditional media such as television,
radio and print for a share of advertisers' total advertising space or
programs. We do not presently consider major Internet search directories or Web
sites as competitors. In fact, we view them as lead generators through their
search directories and other services, and we presently benefit from strategic
advertising arrangements with several of the major Internet search engines and
Web sites. However, there is no guarantee that these Web sites, many of which
have financial and other resources greater than ours will not acquire
businesses that compete with ours or introduce new products and services in
direct competition with us. More generally, our competitors or potential
competitors may develop services that are superior to ours, are less expensive
than ours or achieve greater market acceptance than ours.
Government Regulation
In connection with services we may provide in the future, particularly pre-
employment background checks, we may be considered a "consumer reporting
agency" as such term is used in the Fair Credit Reporting Act, or the "FCRA,"
and, therefore, may be required to comply with the various consumer credit
disclosure requirements of the FCRA. Noncompliance with the FCRA can result in
enforcement by the Federal Trade Commission and state attorney generals where
they have similar authority. We currently have no internal controls which
ensure compliance with the FCRA. Willful or negligent noncompliance could
result in civil liability to the subjects of reports. Also, the Americans with
Disabilities Act of 1990, or the "ADA," contains pre-employment inquiry and
confidentiality restrictions designed to prevent discrimination against
individuals with disabilities in the hiring process. Although our business is
not directly regulated by the ADA, the use by our clients of information sold
to them is regulated, both as to the type of information and the timing of its
use.
40
<PAGE>
Similarly, there are a number of states which have laws similar to the FCRA,
and some states which have laws more restrictive than the ADA. Further, many
state laws limit the type of information which can be made available to the
public. In addition, some state laws may require us to be licensed in order to
conduct pre-employment background checks. Clients in these states can access
our Web site, which may subject us to the laws of those states. We may be
subject to the laws of states in which we have no contacts other than residents
of the state ordering services through our Web site and our delivery of reports
to persons within the state. If we are determined to have violated any of these
federal or state laws, we could be subject to substantial civil and/or criminal
liability, which would have a material adverse effect on our business and
results of operations.
Many privacy and consumer advocates and federal regulators have become
increasingly concerned with the use of personal information, particularly
consumer credit reports (which we do not provide). However, we use the social
security numbers of individuals to search various databases, including those of
consumer credit reporting agencies. For example, we search the "header"
information contained in various consumer credit reporting agencies' databases
to find, among other items, current and previous addresses, social security
numbers used by an individual, or possible other names (such as maiden names,
married names, etc.). "Header" information consists only of the name, social
security number, date of birth, and current and previous addresses on a
consumer credit report. We also search these databases to determine if a
customer's social security number is being used by another person. Attempts
have been made and can be expected to continue to be made by various federal
regulators and organized groups to adopt new or additional federal and state
legislation to regulate the use of personal information. If federal and/or
state laws are amended or enacted in the future relating to access and use of
personal information, in particular, and privacy and civil rights, in general,
there could be a material adverse effect on our business and results of
operations.
Licensing Requirements
A number of states require consumer reporting agencies or business which
provide investigative services to obtain a license to conduct business within
those states. We may be deemed subject to this licensing requirement because of
our individual profile report search services. As clients in those states
access our Web site, which may become subject to the laws of those states. We
may be subject to the laws of those states as a result of citizens of those
states purchasing our services through our Web site. We intend to apply for the
necessary licenses in each state where we conduct a substantial part of our
business. However, we may not be able to obtain the necessary licenses to do
business in those states. In addition, failure to comply with the privacy laws
of those states could subject us to civil litigation and liability to the
subjects of the search reports issued to our clients. Any violation of these
laws or failure to obtain required licenses could have a material adverse
effect on our business and results of operations.
Risk of Civil Liability
We could be held liable to clients and/or to the subjects of individual
search reports prepared by us for inaccurate information or misuse of the
information. We have internal practices designed to help ensure that
information contained in our services meet industry standards for accuracy. We
have retained counsel to ensure that, as we develop new services which may be
subject to the FCRA, we are in compliance with the FCRA and similar state laws.
However, we do not currently maintain liability insurance to cover claims by
clients or the subjects of reports. Based on our research, losses from these
claims are either uninsurable or the insurance that is available is so limited
in coverage that it is not economically practicable. We intend to continue our
efforts to obtain insurance coverage for these types of claims, but adequate
insurance coverage may not be available on terms acceptable to us. Claims of
violations of the FCRA or similar state laws may be made against us in the
future or the claims, if made, may not be successfully defended. Uninsured
losses from these claims could materially adversely impact our business and
results of operations.
Trademarks
We are the owner of registered trademarks for "1-800 U.S. SEARCH" and
"Reuniting America Two People at a Time" and have applied for registered
trademark status for "US SEARCH," "The Public Record
41
<PAGE>
Portal," and our logo and service marks. We have also registered several domain
names, including 1800USSEARCH.com and ussearchcorp.com.
Limited Protection of Proprietary Information and Procedures
Our ability to compete effectively depends on our ability to protect our
proprietary information, including our proprietary methodologies, research,
tools, software code and other information. We rely primarily on a combination
of copyright, trademark, service mark and trade secret laws and confidentiality
procedures to protect our intellectual property rights. We request that our
consultants and employees sign confidentiality agreements and generally limit
access to and distribution of our research, methodologies and software codes.
Steps taken by us to protect our proprietary information may not be adequate to
prevent misappropriation. In addition, the laws of some countries do not
protect or enforce proprietary rights to the same extent as the laws of the
United States. The unauthorized use of our intellectual property could have a
material adverse effect on our business, and results of operations. We believe
that our systems and procedures and other proprietary rights do not infringe
upon the proprietary rights of third parties. Third parties may, however,
assert infringement claims against us in the future, and these claims may
result in lengthy and costly litigation, regardless of the merits of the
claims.
Employees
As of March 31, 1999, we had 100 full-time and 18 part-time employees. We
believe that our relations with our employees are good. None of our employees
are represented by a union.
Properties
Our headquarters are located in approximately 9,000 square feet of office
space in Beverly Hills, California. The lease terminates on February 14, 2001,
and we have an option to extend the lease for an additional three years. An
unrelated third party has subleased approximately 3,000 square feet through
February 14, 2001. We are currently considering acquiring more space or
possibly relocating to a larger facility that would better address our needs.
Legal Proceedings
We may from time to time become a party to various legal proceedings arising
in the ordinary course of business.
42
<PAGE>
MANAGEMENT
Executive Officers, Directors and Key Employees
The executive officers, directors and key employees of US SEARCH and their
ages as of March 31, 1999, are as follows:
<TABLE>
<CAPTION>
Name Age Position
---- --- --------
<S> <C> <C>
C. Nicholas Keating, Jr.... 57 President, Chief Executive Officer and Director
William G. Langley......... 49 Vice President--Chief Financial Officer
Robert J. Richards......... 45 Vice President--Operations
Meg Shea-Chiles............ 44 Vice President--Business Development
Alan S. Mazursky........... 40 Vice President--Finance
Nicholas Matzorkis......... 36 Founder
Peter Locke(2)............. 55 Co-Chairman and Director
Donald Kushner(1).......... 54 Co-Chairman and Director
Nicholas Rockefeller(2).... 42 Director
Russell I. Pillar(2)....... 33 Director
Harry B. Chandler(1)....... 45 Director
Alan C. Mendelson(1)....... 51 Director
</TABLE>
- ----------
(1) Member of the Audit Committee.
(2) Member of the Compensation Committee
C. Nicholas Keating, Jr. has served as our President, Chief Executive
Officer and as one of our directors since February 1999. From August 1993 to
February 1999, Mr. Keating served as an independent business advisor to a
number of companies principally in the networking, software, semiconductor and
imaging industries. From May 1987 to August 1993, Mr. Keating was Vice
President of Network Equipment Technologies, Inc., a wide-area networking
company. Mr. Keating currently serves on the board of directors of MCMS, Inc.,
a leading advanced electronics manufacturer serving original equipment
manufacturers, and LIC Energy, a European software simulation systems company
serving the energy industry. Mr. Keating holds a B.A. and a M.A. from American
University and is a former Fulbright Scholar.
William G. Langley has served as our Chief Financial Officer since March
1999. From September 1998 to March 1999, Mr. Langley served as a financial
consultant to FEI Company, a company that designs, manufactures and markets
charged particle beam products. From September 1992 to September 1998,
Mr. Langley served as Chief Financial Officer of FEI Company and between
October 1994 and February 1997 held the additional positions of Chief Operating
Officer and President. Mr. Langley was also a director of FEI from October 1994
through September 1998. Mr. Langley was Vice President of Acquisitions/Finance
for Ticonderoga Partners from April 1990 to September 1992 as well as a Vice
President of Capital Preservation and Restructuring for Shearson Lehman Hutton
from March 1988 to April 1990. From June 1984 to June 1988, Mr. Langley served
as Vice President--Asset Finance at Kidder, Peabody & Company. He is a member
of the Oregon state bar and a certified public accountant. Mr. Langley holds an
LL.M. from New York University School of Law, a J.D. from Northwestern School
of Law of Lewis & Clark College and a B.A. from Albertson College.
Robert J. Richards has served as our Vice President, Operations since April
1999. From November 1996 to April 1999, Mr. Richards served as Vice President,
Operations at E-Net Corporation, overseeing aspects of research and
development, technical support, technical writing and MIS activities. From
October 1995 to September 1996, Mr. Richards served as Vice President,
Operations at GEMM Corporation and directed all operations activities including
sales, marketing, administration research and development. Mr. Richards joined
QuickResponse Services, Inc. in February 1988 serving in various roles, and
served as its Vice President, Research and Development from July 1994 to
October 1995. From June 1983 to February 1988, Mr. Richards served as Director,
Systems Technology and then as Vice President, Operations at the Pacific Stock
Exchange. Mr. Richards holds a B.A. from Moravian College.
43
<PAGE>
Meg Shea-Chiles has served as our Vice President, Business Development since
May 1999. From January 1998 to April 1999, Ms. Shea-Chiles served as a Global
Alliance Executive at IBM, where she also served as Director of Reengineering
and Information Technology from March 1996 to December 1998, and Program
Director of Business Development from May 1995 to March 1996. From December
1994 to May 1995, Ms. Shea-Chiles served as Vice President, Product Design for
NBS Imaging Systems, Inc., a systems integrator and producer of identification
and verification cards. From March 1989 to December 1994, Ms. Shea-Chiles
served in various roles at Network Equipment Technologies, Inc., a manufacturer
of enterprise network equipment, and became its Senior Director of Strategic
Partnership Programs in October 1991. Ms. Shea-Chiles holds a B.S., magna cum
laude, from Boston College and a M.S. from Southern Methodist University.
Alan S. Mazursky has served as our Vice President, Finance since February
1999. Effective February 1998, Kushner-Locke retained Alan Mazursky to provide
consulting services to Kushner-Locke. From May 1998 through July 1998, Kushner-
Locke provided Mr. Mazursky's services to us as a financial consultant. From
August 1998 through May 1999, Mr. Mazursky's services to us were provided as
part of his duties as an employee of Kushner-Locke under the Administrative
Services Agreement. From July 1996 to July 1998, Mr. Mazursky served as an
independent financial consultant. From June 1988 to June 1996, Mr. Mazursky was
Chief Financial Officer of Hard Rock Cafe America, the owner, operator and
franchisor of Hard Rock Cafe restaurants in the western United States and
international territories. From September 1984 to June 1988, Mr. Mazursky was
Corporate Controller of The Federated Group, a 68-store retail consumer
electronics chain, and from September 1980 to August 1984, he was an audit
supervisor for Ernst & Young LLP. Mr. Mazursky is a certified public accountant
and holds a B.S. from the University of California Los Angeles.
Nicholas Matzorkis, a co-founder, serves as our Senior Strategist. From our
inception in November 1994 to September 1998, Mr. Matzorkis served as our
President and one of our directors. From October 1991 to March 1994, Mr.
Matzorkis was founder and President of U.S. Bell Long Distance, an aggregator
and reseller of telecommunications services. In addition, from April 1995 to
December 1996, Mr. Matzorkis consulted with companies in the entertainment
industry on Web site development and has served as a promoter of a variety of
music and entertainment ventures. Mr. Matzorkis attended Kent State University.
In 1990, Mr. Matzorkis plead guilty to a fourth degree felony as a result of
providing false identification information in connection with the purchase of
an automobile, was given a suspended sentence and ordered to serve 200 hours of
community service. In 1997, Mr. Matzorkis was arrested for having failed to
complete his community service. Mr. Matzorkis subsequently completed this
community service. Mr. Matzorkis no longer serves as an officer or director of
US SEARCH and placed all of his shares in an irrevocable trust for the benefit
of his family, other than himself, and does not have discretionary authority
over the administration or control of the trust or the disposition of the
shares held in the trust.
Peter Locke has served as Co-Chairman and one of our directors since
November 1997. From September 1998 to February 1999, Mr. Locke served as our
President. Mr. Locke co-founded Kushner-Locke, a feature film and television
production and distribution company, with Donald Kushner in 1983 and currently
serves as its Co-Chairman and Co-Chief Executive Officer. Kushner-Locke
currently owns a controlling interest in US SEARCH and is one of the selling
stockholders. Mr. Locke has served as executive producer on substantially all
of Kushner-Locke's programming since its inception and has produced over 1,000
hours of film and television programming. Prior to 1983, Mr. Locke produced
several prime-time television programs and independent feature films. Mr. Locke
holds a B.A. from Syracuse University.
Donald Kushner has served as Co-Chairman and one of our directors since
November 1997. Mr. Kushner co-founded Kushner-Locke with Peter Locke in 1983
and currently serves as its Co-Chairman, Co-Chief Executive Officer and
Secretary. Mr. Kushner has served as executive producer on substantially all of
Kushner-Locke's programming since its inception. Mr. Kushner was the producer
of Tron, a 1982 Walt Disney theatrical film which was nominated for two Academy
Awards. Mr. Kushner holds a B.A. from Syracuse University and a J.D. from
Boston University, and is a member of the Massachusetts state bar.
Nicholas Rockefeller has served as one of our directors since February 1999.
Mr. Rockefeller is an attorney with the law firm of Troop Meisinger Steuber
Pasich Reddick & Tobey, LLP, and has been with the
44
<PAGE>
firm since June 1997, prior to which he was engaged in the private practice of
law for ten years. Mr. Rockefeller also serves as a Managing Partner of the
Rockvest Development Group and its affiliate, the Rockefeller International
Fund, which supervises investments in publicly traded securities and private
enterprises and maintains an active venture capital portfolio. Mr. Rockefeller
is also Chairman of Rockefeller Asia, a financial services company, and is a
Managing Director of Trenwith Holdings, a merchant bank. Mr. Rockefeller is a
member of the California and Washington, D.C. bars, and holds a J.D. from Yale
Law School. Mr. Rockefeller is the trustee of the trust established pursuant to
a stockholders' agreement between Mr. Matzorkis and Kushner-Locke and is
serving as the director designated by the trust pursuant to the stockholders'
agreement. See "Certain Relationships and Related Transactions--Other
Agreements".
Russell I. Pillar has served as one of our directors since January 1999. Mr.
Pillar has served as President and Chief Executive Officer of Virgin
Entertainment Group, Inc., the North American operation of Richard Branson's
Virgin Group of companies, since November 1998. Since October 1991, he also has
served as Managing Partner of Critical Mass, a technology incubator/venture
capital firm. He joined the Board of Directors of Prodigy Communications
Corporation in October 1996 as part of the investor group that purchased the
company from IBM and Sears, and led Prodigy Internet's turnaround as its
President and Chief Executive Officer from September 1997 to August 1998. From
December 1993 to October 1996, he led the turnaround of Precision Systems,
Inc., a publicly traded international telecommunications software provider,
serving as its President, Chief Executive Officer and as one of its directors.
Mr. Pillar also serves on the board of directors of Prodigy Communications
Corporation and Telescan, Inc., as well as a number of private information
technology companies. Mr. Pillar holds an A.B., Phi Beta Kappa, cum laude, from
Brown University.
Harry B. Chandler has served as one of our directors since April 1999. Mr.
Chandler has served as the Executive Vice President of Goto.com, a Pasadena
company since March 1999. From April 1994 until March 1999, Mr. Chandler served
as Director of New Business Development at the Los Angeles Times, where he was
responsible for investments, acquisitions and operations of much of its
Internet activities. From 1991 to 1994, Mr. Chandler served as founder and
President of Dream City Films. Mr. Chandler holds a B.A. from Stanford
University and attended UCLA Graduate School of Film/TV and Anderson School of
Business.
Alan C. Mendelson has served as one of our directors since February 1999.
Mr. Mendelson is a senior partner of Cooley Godward llp and has been with the
firm since 1973, where he currently heads the companies and the life sciences
groups and is a member of its Management Committee. He served as Managing
Partner of the firm's Palo Alto office from May 1990 to March 1995 and from
November 1996 to September 1997. Mr. Mendelson served as Secretary and Acting
General Counsel of Amgen, Inc., from April 1990 to April 1991 and as Acting
General Counsel of Cadence Design Systems, Inc. from November 1995 to June
1996. Mr. Mendelson serves as the Secretary of a number of public companies and
is a member of the board of directors of CoCensys, Inc. and Isis
Pharmaceuticals, Inc. Mr. Mendelson holds a J.D., cum laude, from Harvard
University Law School and an A.B., Phi Beta Kappa, from the University of
California, Berkeley.
Board Composition
Upon the closing of the offering, there will be seven directors. In
accordance with the terms of our certificate of incorporation, the terms of the
office of the board of directors will be divided into three classes, with each
class holding office for staggered three year terms: Class I directors' terms
will expire at the annual meeting of stockholders to be held in 1999, Class II
directors' terms will expire at the annual meeting of stockholders to be held
in 2000, and Class III directors' terms will expire at the annual meeting of
stockholders to be held in 2001. The Class I directors are Messrs. Chandler and
Rockefeller, the Class II directors are Messrs. Kushner and Pillar and the
Class III directors are Messrs. Locke, Keating and Mendelson. At each annual
meeting of stockholders after the initial classification, the successors to
directors whose term will then expire will be elected to serve from the time of
election and qualification until the third annual meeting following election.
Any additional directorships resulting from an increase in the number of
directors will be distributed among the three classes so that, as nearly
possible, each class will consist of one-third of the directors. This
classification of the board of directors may have the effect of delaying or
preventing changes in
45
<PAGE>
control or management of US SEARCH. Directors may be removed by the
affirmative vote of the holders of a majority of the common stock.
Board Committees
Audit Committee. The audit committee is responsible for, among other
things, making recommendations concerning the engagement of our independent
public accountants, reviewing with the independent public accountants the
plans and results of the audit engagement, approving professional services
provided by the independent public accountants, reviewing the independence of
the independent public accountants, considering the range of audit and non-
audit fees and reviewing the adequacy of our internal accounting controls.
Since April 1999, the audit committee has consisted of Messrs. Kushner,
Chandler and Mendelson.
Compensation Committee. The compensation committee is responsible for
determining compensation for our directors, officers, employees and
consultants and administering the 1998 Stock Incentive Plan. Since March 1999,
the compensation committee has consisted of Messrs. Pillar, Locke and
Rockefeller.
Compensation Committee Interlocks and Insider Participation
The members of our compensation committee are Messrs. Pillar, Locke and
Rockefeller. Two of the members of our compensation committee, Messrs. Pillar
and Rockefeller, are not currently and have never been, since the formation of
US SEARCH an officer or employee of US SEARCH. The third member of our
compensation committee, Mr. Locke, served as our President from September 1998
to February 1999. Prior to the formation of the compensation committee, all
decisions regarding compensation for directors, officers, employees and
consultants and administration of the 1998 Stock Incentive Plan were made
solely by the board of directors.
Director Compensation
Directors who are also executive officers of US SEARCH do not receive any
additional compensation for serving as members of the board of directors or
any committee thereof. Non-employee directors are expected to receive a cash
stipend payable quarterly for serving on the board of directors and any
committees thereof, as well as an initial option to purchase 35,364 shares of
common stock and an annual option to purchase 9,067 shares of common stock
under our 1999 Non-Employee Directors' Stock Option Plan. See "1999 Non-
Employee Directors' Stock Option Plan."
Executive Compensation
The following table sets forth information for the year ended December 31,
1998, regarding the compensation of the two individuals who served as our
Chief Executive Officer. There were no other executive officers of US SEARCH
whose salary and bonus for that year were in excess of $100,000 on an
annualized basis (the "Named Executive Officers"):
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
Annual
Compensation Long-Term
-------------- Compensation All Other
Name and Principal Position Salary Bonus Awards Compensation
- --------------------------- -------- ----- ------------ ------------
<S> <C> <C> <C> <C>
Nicholas Matzorkis(1) ............... $127,460 -- -- $340,400(3)
Founder and Former President
Peter Locke(2)....................... -- -- -- 97,000(4)
Director and Former President
</TABLE>
- ----------
(1) Mr. Matzorkis, a co-founder of US SEARCH, was the President and a director
from our inception in November 1994 through September 1998. Mr. Matzorkis
is no longer an officer or director of
46
<PAGE>
US SEARCH. Mr. Matzorkis entered into a three year employment agreement
with US SEARCH as of November 1997, as amended and restated as of September
1998, which provides for an annual base compensation of $150,000, plus a
$25,000 per year increase, until completion of this offering, at which time
the base compensation will be increased to $175,000, with the same annual
increases. See "--Employment Agreements."
(2) Mr. Locke, a director of US SEARCH, was the President from September 1998
through February 1999. Compensation for his services as President was paid
as part of the amounts billed to US SEARCH pursuant to the Administrative
Services Agreement between US SEARCH and Kushner-Locke dated July 1998.
See "Certain Relationships and Related Transactions--Other Agreements."
(3) Includes (a) the assumption by the Company of Mr. Matzorkis' obligations
under a $296,000 note in connection with the September 1998 negotiation of
the three year employment agreement and reimbursement to Mr. Matzorkis of
$7,200 in interest payments he previously made under this note,
(b) $10,000 paid to Mr. Matzorkis for the rights to music used in the
Company's advertisements, and (c) $27,200 for reimbursement of legal
expenses and automobile allowance.
(4) This amount represents the portion attributable to Peter Locke's services
under the administrative services agreement.
Option Grants In Last Fiscal Year
There were no stock option grants to the Named Executive Officers during
the fiscal year ended December 31, 1998.
Aggregate Option Exercises In Last Fiscal Year And Fiscal Year-End Option
Values
There were no option exercises by the Named Executive Officers during the
fiscal year ended December 31, 1998. There were no options held by the Named
Executive Officers at December 31, 1998.
Employment Agreements
C. Nicholas Keating, Jr. entered into an employment agreement with US
SEARCH effective February 1999 for the position of President and Chief
Executive Officer. The term of the employment agreement is one year and US
SEARCH has the option to extend the agreement for an additional two year term.
The employment agreement provides for annual base compensation of $250,000, in
addition to stock options to purchase 569,459 shares of common stock at an
exercise price equal to $3.10 per share, which options will vest one-third
upon date of grant, one-third on the first anniversary of the date of grant
and one-third on the second anniversary of the date of grant. The options also
vest immediately in the event Mr. Keating is terminated without cause or in
the event of a change in control of US SEARCH in connection with a sale of
substantially all of our assets or a merger. Mr. Keating's employment
agreement also provides for an annual performance bonus based on goals and
objectives agreed upon by him and the Board, a monthly housing allowance and a
severance package in the event he is terminated without cause. This severance
package consists of twelve months base salary if terminated without cause
during the first two years, or if during the third year, base salary for the
remainder of the third year.
William G. Langley entered into an at-will employment agreement with US
SEARCH effective March 1999 for the position of Vice President, Chief
Financial Officer. Mr. Langley may terminate his employment with US SEARCH at
any time and for any reason, and US SEARCH can terminate his employment at any
time and for any reasons, with or without cause or notice. The employment
agreement provides for annual base compensation of $170,000, in addition to
stock options to purchase 175,915 shares of common stock at an exercise price
equal to $5.69 per share, which options will vest one-fourth on each of the
four anniversaries of the date of grant. Mr. Langley's employment agreement
also provides for an annual performance bonus based on goals and objectives
agreed upon by him and the CEO, and a severance package in the event he is
terminated without cause. The severance package consists of six months base
salary if Mr. Langley is terminated without cause during the first twelve
months, or if terminated after the first twelve months, twelve months base
salary and a pro-rata share of any bonus due.
47
<PAGE>
Robert J. Richards entered into an at-will employment agreement with US
SEARCH effective April 1999 for the position of Vice President, Operations. Mr.
Richards may terminate his employment with US SEARCH at any time and for any
reason, and US SEARCH can terminate his employment at any time and for any
reasons, with or without cause or notice. The employment agreement provides for
annual base compensation of $160,000, in addition to stock options to purchase
175,915 shares of common stock at an exercise price equal to $4.45 per share,
which options will vest one-fourth on each of the four anniversaries of the
date of grant. Mr. Richards' employment agreement also provides for an annual
performance bonus based on goals and objectives agreed upon by him and the CEO,
and a severance package in the event he is terminated without cause. The
severance package consists of six months base salary if Mr. Richards is
terminated without cause during the first twelve months, or if terminated after
the first twelve months, twelve months base salary and a pro-rata share of any
bonus due.
Meg Shea-Chiles entered into an at-will employment agreement with US SEARCH
effective May 1999 for the position of Vice President, Business Development.
Ms. Shea-Chiles may terminate her employment with US SEARCH at any time and for
any reason, and US SEARCH can terminate her employment at any time and for any
reason, with or without cause or notice. The employment agreement provides for
base compensation of $150,000, in addition to stock options to purchase 175,915
shares of common stock at an exercise price equal to $4.45 per share, which
options will vest one-fourth on each of the four anniversaries of the date of
grant. Ms. Shea-Chiles's employment agreement also provides for an annual
performance bonus based on goals and objectives agreed upon by her and the CEO,
and a severance package in the event she is terminated without cause. The
severance package consists of six months base salary if Ms. Shea-Chiles is
terminated without cause during the first twelve months, or if terminated after
the first twelve months, twelve months base salary and a pro-rata share of any
bonus due.
Nicholas Matzorkis entered into an employment agreement with US SEARCH in
November 1997, as amended and restated effective September 1998. The term of
the employment agreement is three years, commencing in September 1998, provided
that US SEARCH may terminate his employment at any time for cause. The
employment agreement provides for base compensation of $150,000 per year for
the first year, with annual increases of $25,000, until completion of this
offering, at which time the base compensation for the first year will be
increased to $175,000, with the same annual increases. Mr. Matzorkis' title is
"Founder," his duties include the position of Senior Strategist, and he is no
longer an executive officer. In addition, we will pay the premiums on a $1.0
million life insurance policy on the life of Mr. Matzorkis, for the benefit of
Mr. Matzorkis' designated beneficiaries.
Stock Plans
1998 Stock Incentive Plan.
On July 23, 1998, the board adopted, and the stockholders of US SEARCH
subsequently approved, the 1998 Stock Incentive Plan. On February 26, 1999, the
board adopted, and the stockholders of US SEARCH subsequently approved, an
amendment and restatement of the 1998 Stock Incentive Plan. A total of
2,600,650 shares of common stock have been reserved for issuance under the 1998
Stock Incentive Plan. The 1998 Incentive Plan provides for grants of incentive
stock options that qualify under Section 422 of the Internal Revenue Code of
1986, as amended (the "Code"), to employees (including officers and employee
directors) of US SEARCH or any affiliate, and nonstatutory stock options, stock
appreciation rights, restricted stock awards and stock bonuses ("Performance
Share Awards") to employees (including officers and employee directors),
directors and independent contractors of, and consultants to, US SEARCH or a
subsidiary. The 1998 Stock Incentive Plan is administered by the board or a
committee appointed by the board (references herein to the board shall include
any such committee). It is intended that the 1998 Stock Incentive Plan will be
administered by the Compensation Committee. The board has the authority to
determine to whom and the dates on which awards are to be granted, what types
of awards are to be granted, and the terms of each award including the exercise
price, number of shares subject to the award, and the exercisability thereof.
48
<PAGE>
The term of options granted under the 1998 Stock Incentive Plan may not
exceed ten years. The exercise price of options granted under the 1998 Stock
Incentive Plan is determined by the board but, in the case of an incentive
stock option, cannot be less than 100% of the fair market value of the common
stock on the date of grant. Options granted under the 1998 Stock Incentive Plan
vest at the rate specified in the option agreement. Incentive stock options
granted prior to this offering may allow for the payment by US SEARCH of a tax
offset bonus in order to offset the impact on the option holder of additional
taxes owed as a result of a disqualifying disposition of common stock of US
SEARCH issued upon the exercise of the options.
An optionee whose relationship with US SEARCH or any of its subsidiaries
ceases for any reason (other than by retirement, death or permanent and total
disability) may exercise vested options during the three-month period following
this cessation, unless the options terminate or expire sooner by its terms.
Vested options may be exercised for up to twelve months after an optionee's
relationship with US SEARCH, or an affiliate, ceases due to retirement or
disability and for up to eighteen months after the relationship ceases due to
death (unless the options terminate or expire sooner by their terms). Vested
incentive stock options may be exercised only during the three-month period
following an employee's retirement from US SEARCH or its subsidiaries.
No incentive stock option may be granted to any person who, at the time of
the grant, owns, or is deemed to own, stock possessing more than ten percent
(10%) of the total combined voting power of US SEARCH or any affiliate of US
SEARCH, unless the option exercise price is at least 110% of the fair market
value of the stock subject to the option on the date of grant and the term of
the option does not exceed five (5) years from the date of grant. In addition,
the aggregate fair market value, determined at the time of grant, of the shares
of common stock with respect to which incentive stock options are exercisable
for the first time by an optionee during any calendar year (under the 1998
Stock Incentive Plan and all other stock plans of US SEARCH and its affiliates)
may not exceed $100,000. Any options, or portions thereof, which exceed this
limit are treated as nonstatutory options.
No award granted under the plan may be transferred by the optionee other
than by will or the laws of descent or distribution except that shares
underlying the awards may be transferred if all applicable restrictions have
lapsed. During the lifetime of the holder of any award, the award may be
exercised only by the holder or the holder's personal representative in the
event of the holder's disability or incompetence.
Shares of common stock subject to awards that have lapsed or terminated,
without having been exercised in full, may again become available for grant
pursuant to awards under the 1998 Stock Incentive Plan.
Stock Appreciation Rights granted under the Plan in connection with stock
options or other awards typically will provide for payments to the holder based
upon increases in the price of the common stock over the exercise price of the
related option or other awards. Restricted stock may be sold to participants at
various prices and made subject to the restrictions as may be determined by the
Compensation Committee. Purchasers of restricted stock will have voting rights
and will receive dividends prior to the time when the restrictions lapse.
Upon a Change in Control of US SEARCH, all outstanding options under the
1998 Stock Incentive Plan shall be assumed by the surviving entity or the
surviving entity shall substitute similar options for the outstanding options.
If the surviving entity determines not to assume the outstanding options or
substitute similar options therefor, then with respect to persons whose service
with US SEARCH or an affiliate has not terminated prior to the Change in
Control, the vesting of the options shall accelerate and the options shall
terminate if not exercised prior to the Change in Control. "Change in Control"
means a sale of all or substantially all of the assets of US SEARCH, a merger
or consolidation in which US SEARCH is not the surviving corporation or a
reverse merger in which US SEARCH is the surviving corporation but the shares
of our common stock outstanding immediately before the merger are converted by
virtue of the merger into other property.
As of March 31, 1999, no shares had been issued upon the exercise of options
granted under the 1998 Stock Incentive Plan and options to purchase 1,283,094
shares were outstanding with 1,317,556 shares reserved
49
<PAGE>
for future grants or purchases under the 1998 Stock Incentive Plan. The 1998
Stock Incentive Plan will terminate on June 1, 2008 unless terminated sooner by
the board.
1999 Non-Employee Directors' Stock Option Plan
On February 26, 1999, the board adopted, and the stockholders of US SEARCH
subsequently approved, the 1999 Non-Employee Directors' Stock Option Plan. A
total of 317,373 shares of common stock have been reserved for issuance under
the 1999 Non-Employee Directors' Stock Option Plan. Under the 1999 Non-Employee
Directors' Stock Option Plan, each non-employee director was automatically
granted an option to purchase 35,364 shares of our common stock at an exercise
price of $4.45 per share on February 26, 1999, and each new non-employee
director who is subsequently elected or appointed for the first time will
automatically be granted an option to purchase 35,364 shares of common stock of
US SEARCH ("Initial Grants").
On the day prior to each annual meeting of our stockholders, commencing with
the annual meeting in 2000, each non-employee director will be granted an
option to purchase 9,067 shares of common stock of US SEARCH; provided,
however, that if the person has not been serving as a non-employee director for
the entire period since the preceding annual meeting of our stockholders, then
the number of shares of common stock subject to the option shall be reduced
pro-rata for each full quarter prior to the date of grant during which the
person did not serve as a non-employee director ("Annual Grants").
Options granted under the 1999 Non-Employee Directors' Stock Option Plan are
granted at 100% of the fair market value of the common stock of US SEARCH on
the date of grant. Options granted under the 1999 Non-Employee Directors' Stock
Option Plan have a ten-year term and vest as follows: Initial Grants vest as to
1/3rd of the shares on each anniversary of the date of grant; Annual Grants
vest as to 1/12th of the shares each month for 12 months after the date of the
grant. In the event the services of a holder of an option under the 1999 Non-
Employee Director's Stock Option Plan are terminated, the holder may exercise
his or her options that have vested as of the termination date only within the
period of time ending on the earlier of (1) the date 12 months (18 months if
the termination is as a result of the option holder's death) following the
termination of the holder's services or (2) the expiration of the term of the
option as set forth in the option agreement. All options granted under the 1999
Non-Employee Directors' Stock Option Plan are non-transferrable.
Upon a Change in Control of US SEARCH, all outstanding options under the
1999 Non-Employee Directors' Stock Option Plan shall be assumed by the
surviving entity or the surviving entity shall substitute similar options for
the outstanding options. If the surviving entity determines not to assume the
outstanding options or substitute similar options therefor, then with respect
to persons whose service with US SEARCH or an affiliate has not terminated
prior to the Change in Control, the vesting of the options shall accelerate and
the options terminated if not exercised prior to the Change in Control. "Change
in Control" means a sale of all or substantially all of the assets of US
SEARCH, a merger or consolidation in which US SEARCH is not the surviving
corporation or a reverse merger in which US SEARCH is the surviving corporation
but the shares of our common stock outstanding immediately before the merger
are converted by virtue of the merger into other property.
As of March 31, 1999, no shares had been issued upon the exercise of options
granted under the 1999 Non-Employee Directors' Stock Option Plan and options to
purchase 176,820 shares were outstanding with 140,553 shares reserved for
future grants or purchases under this plan.
Limitation of Liability and Indemnification Matters
As permitted by Section 145 of the Delaware General Corporation Law, the
bylaws of US SEARCH provide that:
. we are required to indemnify our directors and officers to the fullest
extent permitted by the Delaware General Corporation Law;
50
<PAGE>
. we may, in our discretion, indemnify other employees and agents as set
forth in the Delaware General Corporation Law;
. to the fullest extent permitted by the Delaware General Corporation Law,
we are required to advance all expenses incurred by our directors and
executive officers in connection with a legal proceeding (subject to
exceptions);
. the rights conferred in the bylaws are not exclusive;
. we are authorized to enter into indemnification agreements with our
directors, officers, employees and agents;
. to the fullest extent permitted by the Delaware General Corporation Law,
we may purchase insurance on behalf of any person required or permitted
to be indemnified; and
. we may not retroactively amend the bylaws provisions relating to
indemnity.
We intend to enter into agreements to indemnify our officers and directors.
A copy of the form of the indemnity agreement has been filed as an exhibit to
the registration statement.
US SEARCH has obtained officer and director liability insurance with respect
to liabilities arising out of various matters, including matters arising under
the Securities Act. In addition, our certificate of incorporation provides that
our directors will not be liable for monetary damages for breach of their
fiduciary duty as directors to the fullest extent permitted by the Delaware
General Corporation Law. This provision in our certificate of incorporation
does not eliminate their fiduciary duty and in appropriate circumstances,
equitable remedies such as an injunction or other forms of non-monetary relief
would remain available under Delaware General Corporation Law. This provision
does not affect a director's responsibilities under any other laws such as the
federal securities laws or state or federal environmental laws.
There is no pending litigation or proceeding involving a director or officer
of US SEARCH as to which indemnification is being sought nor are we aware of
any pending or threatened litigation that may result in claims for
indemnification by any director or officer.
51
<PAGE>
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Acquisition of Common Stock
In November 1994, US SEARCH issued and sold 4,987,301 shares of common stock
to Nicholas Matzorkis, and 4,080,519 shares of common stock to Robert L. Rich,
each a co-founder, for an aggregate purchase price of $15,000.
In August 1997, Peter Locke, a director and former President of US SEARCH,
acquired an option to purchase all of the outstanding shares of common stock of
US SEARCH owned by Robert L. Rich, a co-founder and then CEO, director and
stockholder of US SEARCH. Under this option from Mr. Rich, Mr. Locke had the
right to acquire these shares, which equaled 45% of the outstanding common
stock of US SEARCH at that time, in exchange for indemnifying Mr. Rich from
obligations of up to an aggregate amount of $335,000 that Mr. Rich was
personally liable for and which included payroll tax obligations and amounts
owed to third parties (the "Indemnified Liabilities").
After the execution of the option from Mr. Rich, Mr. Locke, the Co-Chairman
and Co-Chief Executive Officer of Kushner-Locke presented US SEARCH to the
board of directors of Kushner-Locke for possible investment purposes.
In October 1997, Kushner-Locke decided to enter into an agreement to acquire
35% of the outstanding shares of common stock of US SEARCH held by Nicholas
Matzorkis, a co-founder, stockholder, and then President and director of US
SEARCH. Under this agreement with Mr. Matzorkis, Kushner-Locke had the right to
acquire these shares in exchange for indemnifying Mr. Matzorkis from
obligations of up to an aggregate amount of $317,000 for which Mr. Matzorkis
was personally liable. These obligations included payroll tax obligations and
amounts owed to third parties for which Mr. Matzorkis was personally liable
(the "Matzorkis Liabilities").
In November 1997, Mr. Locke exercised the option from Mr. Rich and acquired
all of the shares subject to the option, which equaled 4,080,519 shares of
common stock. Subsequently, Mr. Locke executed an agreement with Dayton Way
Pictures V, Inc., in which Mr. Locke transferred all of the shares of US SEARCH
he owned to Dayton Way in exchange for Dayton Way's agreement to indemnify Mr.
Locke from the Indemnified Liabilities. Dayton Way was an entity controlled by
Kushner-Locke through an option which allowed Kushner-Locke to purchase 100% of
the shares of Dayton Way. Also in November 1997, Kushner-Locke assigned all of
its rights and obligations under the agreement with Mr. Matzorkis to Dayton
Way, including its obligation to indemnify Mr. Matzorkis from the Matzorkis
Liabilities. In connection with this assignment and Kushner-Locke's agreement
to indemnify Dayton Way and Mr. Locke from the Indemnified Liabilities and the
Matzorkis Liabilities, Dayton-Way granted Kushner-Locke an option to purchase
all of the shares of US SEARCH which it otherwise owned or it had a right to
acquire.
Dayton Way exercised its rights under the agreement with Mr Matzorkis and
acquired the shares in exchange for its agreement to indemnify Mr. Matzorkis
from the Matzorkis Liabilities. In January of 1998, Kushner-Locke exercised its
option from Dayton Way and acquired all of the shares of US SEARCH owned by
Dayton Way through payment of $100 and its agreement to indemnify Dayton Way
and Mr. Locke from the Indemnified Liabilities and the Matzorkis Liabilities.
As a result of the exercise of its option from Dayton Way as well as the
transactions described above, Kushner-Locke acquired 80% of the then
outstanding shares of common stock of US SEARCH for $100 and the
indemnification of liabilities of Mr. Rich and Mr. Matzorkis in an aggregate
amount of up to approximately $670,000.
In connection with Robert Rich's November 1997 sale of shares of common
stock to Peter Locke, Mr. Rich resigned as an officer and director of US
SEARCH, and US SEARCH entered into a 24 month
52
<PAGE>
consulting agreement with Mr. Rich providing for payment of $2,000 per month.
Mr. Rich is obligated to provide ten hours of consulting services to US SEARCH
per week.
Stockholder Loans
US SEARCH loaned approximately $41,000 in 1995, $176,000 in 1996, and
$32,000 in 1997, to Nicholas Matzorkis, then its co-founder, President, and
stockholder. US SEARCH received repayments of approximately $5,000 in 1995 and
$3,000 in 1996 from Mr. Matzorkis. In June 1997, Mr. Matzorkis personally
assumed US SEARCH's obligations under a $296,000 promissory note payable to
Keith Davis. In consideration for Matzorkis' assumption of US SEARCH's
obligations under the loan from Mr. Davis in the aggregate amount of $296,000,
the prior outstanding amounts loaned to Mr. Matzorkis were repaid in full and
an amount payable to Mr. Matzorkis of $62,000 was established to the extent the
assumption of the loan from Mr. Davis exceeded loans made to Mr. Matzorkis. In
September 1998, in connection with US SEARCH's amended and restated employment
agreement with Mr. Matzorkis, US SEARCH agreed to assume Mr. Matzorkis'
obligations on the Davis Loan. See "Management--Employment Agreements." In
addition, US SEARCH reimbursed Mr. Matzorkis for $7,200 in interest payments he
previously made under the note, $10,000 for rights to music used in US SEARCH's
advertisements, and $20,000 for legal expenses incurred in connection with his
employment agreement. As of December 31, 1998, US SEARCH owed Mr. Matzorkis
approximately $42,000 of the $62,000 amount, bearing no interest and payable in
38 equal monthly installments of approximately $1,100.
US SEARCH borrowed approximately $70,000 in 1995, $143,000 in 1996 and
$22,000 in 1997, from Robert Rich, then its Chief Executive Officer. US SEARCH
repaid approximately $24,000 in 1995, $108,000 in 1996, $32,000 in 1997 and
$3,000 in 1998. These amounts are non-interest bearing. As of December 31, 1998
and March 31, 1999, US SEARCH owed Mr. Rich approximately $68,000 and $56,000,
respectively, payable in monthly installments beginning in January 1999.
John Rich, the father of Robert Rich, then its Chief Executive Officer, lent
us $50,000 in December 1996 and $50,000 in May 1997, bearing interest at 20%
per annum, payable in six monthly installments of $10,000 each, including
interest. US SEARCH executed promissory notes to John Rich, personally
guaranteed by both Robert Rich and Nicholas Matzorkis. US SEARCH subsequently
defaulted in its obligations under these notes. On January 2, 1998, the notes
were restructured providing for the payment by US SEARCH of $120,000, including
all past and future interest, in 36 equal monthly installments of approximately
$3,333 each. These payment obligations commenced on January 15, 1998 and are
guaranteed by Kushner-Locke. As of December 31, 1998 and March 31, 1999, US
SEARCH owed John Rich approximately $70,000 and $63,000, respectively.
From May 1997 to October 1997, Peter Locke personally advanced to US SEARCH
amounts totalling over time approximately $397,000, bearing interest at 10% per
annum, payable upon demand. These advances were subsequently repaid in full. In
addition, US SEARCH paid approximately $40,000 in consulting fees and interest
to Mr. Locke for services rendered through December 31, 1997.
In January 1999, US SEARCH issued a convertible subordinated note to
Kushner-Locke. Under the convertible subordinated note, Kushner-Locke agreed to
provide US SEARCH advances of up to $5.5 million. As of May 18, 1999, Kushner-
Locke has made advances of approximately $4.9 million under the convertible
subordinated note. Any advances under the convertible subordinated note bear
interest at a rate of 10% per annum. The entire outstanding principal amount
and any accrued interest under the convertible subordinated note will convert,
at the option of Kushner-Locke, into shares of US SEARCH's common stock at a
rate of approximately one share of common stock for each $2.21 owed under the
convertible subordinated note. On the closing of this offering, the entire
amount US SEARCH owes Kushner-Locke under the convertible subordinated note
will automatically convert into shares of its common stock on the same basis as
described in the preceding sentence. The shares of common stock issued upon
conversion of the convertible subordinated note have registration rights. See
"Description of Capital Stock--Registration Rights." The convertible
subordinated note includes a 10% origination fee payable to Kushner-Locke based
upon the total amount borrowed under the
53
<PAGE>
convertible subordinated note. The convertible subordinated note and the
amounts owed under them are subordinated in some cases, including subordinated
to any amounts owed to banks and financial institutions.
In June 1999, the Company received an additional $200,000 from Kushner-
Locke in the form of advances.
Warrants
In September 1998, US SEARCH granted to Kushner-Locke a warrant to purchase
up to 453,391 shares of common stock at an aggregate exercise price of
approximately $5.00 in consideration for (1) advances of capital to US SEARCH
by Kushner-Locke, (2) administrative services provided by Kushner-Locke and
(3) provision of guarantees. These warrants are exercisable at any time on or
before September 14, 2008. The warrants will be exercised prior to the closing
of this offering. The warrant provides for piggyback registration rights and a
one-time demand registration right. US SEARCH's obligations for advances of
capital made to it by Kushner-Locke were not reduced or impacted by the
issuance of these warrants. US SEARCH intends to use approximately $2.7
million of the net proceeds of this offering to repay advances and outstanding
obligations to Kushner-Locke. US SEARCH agreed to pay Kushner-Locke for the
administrative services under the terms of the Administrative Services
Agreement. See "Description of Capital Stock--Registration Rights."
In January 1999, in connection with the convertible subordinated note, US
SEARCH granted to Kushner-Locke a warrant to purchase up to 906,782 shares of
common stock. One-half of the shares granted were at an exercise price of
$2.76 per share, and the remaining half of the shares were at an exercise
price of $3.31 per share. The warrants are exercisable at any time on or
before January 7, 2009. The warrant will be exercised prior to the
consummation of this offering. The warrant provides for piggyback registration
rights and a one-time demand registration right. See "Description of Capital
Stock--Registration Rights."
Guarantees
In February 1998, US SEARCH entered into a revolving line of credit with
Comerica Bank. Kushner-Locke, which owned 80% of the outstanding capital stock
of US SEARCH at that time, guaranteed its obligations under the line of
credit. US SEARCH repaid all the principal and interest amounts outstanding
under the line of credit in March 1999.
In May 1998, Kushner-Locke guaranteed US SEARCH's obligations for purchases
of broadcast media advertising, not to exceed $837,000. The accrued balance of
its obligations as of December 31, 1998 was approximately $896,000 for
advertising which commenced on July 1, 1998.
Kushner-Locke guaranteed notes payable to John Rich in the total amount of
$120,000. As of December 31, 1998 and March 31, 1999, US SEARCH's obligation
on these related-party notes was approximately $70,000 and $63,000,
respectively.
Kushner-Locke guaranteed US SEARCH's obligations under the marketing
agreement with InfoSpace. As of March 31, 1999, the minimum non-cancelable
fees under this agreement are approximately $3.4 million.
In June 1998, US SEARCH became a guarantor of Kushner-Locke's $60 million
Credit, Security, Guaranty and Pledge Agreement (the "credit facility") with
The Chase Manhattan Bank ("Chase"). In connection with the credit facility, US
SEARCH granted Chase a security interest in all of its assets. Chase also has
a security interest in the common stock of US SEARCH held by Kushner-Locke.
The credit facility was amended in May 1999 to release US SEARCH from its
obligations under this credit facility and to release the common stock of US
SEARCH held by Kushner-Locke and the assets of US SEARCH from the security
interest. This release is effective upon the registration statement relating
to this offering being declared effective by the Securities and Exchange
Commission.
Other Agreements
Effective February 1998, Kushner-Locke retained Alan Mazursky to provide
consulting services to Kushner-Locke for a minimum six month term at a rate of
$13,100 per month. From May 1998 through July
54
<PAGE>
1998, Kushner-Locke provided Mr. Mazursky's services to US SEARCH as a
financial consultant. From August 1998 through May 1999, Mr. Mazursky's
services to US SEARCH were provided as part of his duties as an employee of
Kushner-Locke under the Administrative Services Agreement.
Effective July 1998, US SEARCH and Kushner-Locke entered into an
Administrative Services Agreement, under which Kushner-Locke provides
administrative services to US SEARCH, including human resources, legal
services, accounting services and management services, as well as the services
of Peter Locke and Donald Kushner, through June 1999. In connection with this
agreement, US SEARCH agreed to pay to Kushner-Locke a monthly fee of $35,000,
which may be decreased in some cases. Approximately $210,000 were billed to
US SEARCH under this agreement for the year ended December 31, 1998.
Approximately $90,000 was billed to US SEARCH in connection with services
rendered by Kushner-Locke prior to entering into the Administrative Services
Agreement. As a result, a total of approximately $300,000 was billed to US
SEARCH in connection with services rendered by Kushner-Locke in 1998. For the
three months ended March 31, 1999, $105,000 was billed to US SEARCH under the
Administrative Services Agreement.
In September 1998, Mr. Matzorkis and Kushner-Locke entered into a
stockholders' agreement in which Mr. Matzorkis agreed to transfer his shares of
common stock to an irrevocable trust administered and controlled solely by an
independent trustee. The provisions relating to the administration and control
of the trust shall terminate on the fifth anniversary date of the completion of
this offering. Kushner-Locke agreed to vote all shares held by Kushner-Locke in
favor of one director, subject to various conditions, nominated by the trust,
and the trust will vote all shares held by the trust in favor of three
directors nominated by Kushner-Locke. The provision with respect to designation
and voting for directors, as well as other provisions relating to voting
agreement, tag-along rights, and drag-along rights set forth in the
stockholders' agreement will terminate automatically upon completion of this
offering, or at any time the shares held by the trust represent less than 10%
of the outstanding shares of common stock. In September 1998, US SEARCH agreed
to reimburse Mr. Matzorkis for legal expenses, up to a maximum of $20,000, in
connection with the negotiation, preparation and execution of the stockholders'
agreement and his amended and restated employment agreement. See "Management--
Employment Agreements."
US SEARCH intends to enter into indemnification agreements with its
directors and executive officers for the indemnification of and advancement of
expenses to these persons to the full extent permitted by law. US SEARCH also
intends to execute these agreements with its future directors and executive
officers.
US SEARCH believes that the foregoing transactions were in its best interest
and were approved by its board of directors. As a matter of policy, all future
transactions between US SEARCH and any of its officers, directors or principal
stockholders will be approved by a majority of the independent and
disinterested members of the board of directors.
55
<PAGE>
PRINCIPAL AND SELLING STOCKHOLDERS
The following table sets forth information regarding the beneficial
ownership of our common stock as of March 31, 1999, and as adjusted to reflect
the sale of our common stock offered hereby, by: (1) each stockholder who owns
beneficially more than 5% of our common stock; (2) each Named Executive Officer
of US SEARCH; (3) each director of US SEARCH; (4) Kushner-Locke, the selling
stockholder; and (5) all directors and executive officers of US SEARCH as a
group. Unless otherwise indicated, to our knowledge, all persons listed below
have sole voting and investment power with respect to their shares of our
common stock, except to the extent authority is shared by spouses under
applicable law. The percentages beneficially owned have been calculated
according to the rules of the Securities and Exchange Commission. Shares not
outstanding but subject to options, warrants, rights or conversion privileges
exercisable within 60 days as of March 31, 1999 are counted as outstanding for
the purpose of calculating the number and percentage owned by such person, but
not counted outstanding for the purpose of calculating the percentage owned by
any other person listed. Percentages beneficially owned are based on 13,111,464
shares of common stock outstanding as of March 31, 1999 and 17,611,464 shares
outstanding after this offering.
<TABLE>
<CAPTION>
Shares Beneficially Shares Beneficially
Owned Prior to the Number of Owned After the
Offering Shares Offering
----------------------- being -----------------------
Number Percent Offered Number Percent
------------ ------------------- ------------ ----------
<S> <C> <C> <C> <C> <C>
5% Stockholders, Selling
Stockholder,
Named Executive
Officers and Directors
The Kushner-Locke
Company(1)............ 11,108,080 86.0% 1,500,000 9,608,080 55.2%
11601 Wilshire
Boulevard, 21st Floor
Los Angeles,
California 90025
The SHMNM Investment
Trust(2).............. 1,813,564 20.0% -- 1,813,564 10.4%
C. Nicholas Keating,
Jr.(3)................ 189,820 2.1% -- 189,820 1.1%
Peter Locke(4)......... 11,108,080 86.0% -- 9,608,080 55.2%
Donald Kushner(4)...... 11,108,080 86.0% -- 9,608,080 55.2%
Russel I. Pillar....... -- -- -- -- --
Nicholas Rockefeller... -- -- -- -- --
Harry B. Chandler...... -- -- -- -- --
Alan C. Mendelson...... -- -- -- -- --
All directors and
executive officers (10
persons)(5)........... 189,820 2.1% -- 189,820 1.1%
</TABLE>
- ----------
(1) Consists of 7,254,256 shares of common stock, 1,360,173 shares subject to
warrants exercisable within 60 days, and 2,493,651 shares subject to a
convertible subordinated note convertible within 60 days. All of these
warrants and the convertible subordinated note will be converted upon this
offering.
(2) Consists of 1,813,564 shares held in an irrevocable trust managed by
Nicholas Rockefeller as trustee for the sole benefit of Susan Hanle, Mr.
Matzorkis' spouse. Mr. Matzorkis disclaims beneficial ownership as to all
of the shares held by the trust. The trust has granted an option to the
underwriters to purchase 112,000 shares solely for the purpose of covering
over-allotments. Nicholas Rockefeller's address is 2029 Century Park East,
24th Floor, Los Angeles, CA 90067.
(3) Consists of 189,820 shares subject to options exercisable within 60 days.
(4) Includes 11,108,080 shares beneficially owned by Kushner-Locke. Mr. Locke
and Mr. Kushner are each directors of US SEARCH and each also serve as Co-
Chairman and Co-Chief Executive Officer of Kushner-Locke. Mr. Locke and Mr.
Kushner may be deemed to have voting and investment power over the shares
held by Kushner-Locke. Mr. Locke and Mr. Kushner each disclaim beneficial
ownership as to all of the shares held by Kushner-Locke.
(5) Consists of 189,820 shares subject to options held by Mr. Keating,
President, CEO and director, exercisable within 60 days. Does not include
11,108,080 shares beneficially owned by Kushner-Locke.
56
<PAGE>
DESCRIPTION OF CAPITAL STOCK
Upon completion of this offering, the authorized capital stock of US SEARCH
will consist of 40,000,000 shares of common stock, $.001 par value, and
1,000,000 shares of preferred stock, $.001 par value.
Common Stock
As of March 31, 1999, and after giving effect to the issuance of 1,360,173
shares of common stock issuable upon the exercise of warrants outstanding as of
such date and the issuance of 2,493,651 shares of common stock upon the
conversion of the outstanding convertible subordinated note outstanding as of
March 31, 1999, there were 12,921,644 shares of common stock outstanding held
of record by two stockholders. The holders of common stock are entitled to one
vote for each share held of record on all matters submitted to a vote of the
stockholders. Subject to preferences that may be applicable to any outstanding
shares of preferred stock, the holders of common stock are entitled to receive
ratably the dividends as may be declared by the board of directors out of funds
legally available therefor. See "Dividend Policy." In the event of a
liquidation, dissolution or winding up of US SEARCH, holders of the common
stock are entitled to share ratably in all assets remaining after payment of
liabilities and the liquidation preferences of any outstanding shares of
preferred stock. Holders of common stock have no preemptive rights and no right
to convert their common stock into any other securities. There are no
redemption or sinking fund provisions applicable to the common stock. All
outstanding shares of common stock are, and all shares of common stock to be
outstanding upon completion of this offering will be, fully-paid and
nonassessable.
Preferred Stock
There are no shares of preferred stock outstanding. The board of directors
has the authority, without further action by the stockholders, to issue up to
1,000,000 shares of preferred stock, $.001 par value, in one or more series and
to fix the powers, preferences, privileges, rights and qualifications,
limitations or restrictions thereof, including dividend rights, conversion
rights, voting rights, terms of redemption, liquidation preferences, sinking
fund terms and the number of shares constituting any series or the designation
of the series, without any further vote or action by stockholders. We believe
that the board of directors' authority to set the terms of, and our ability to
issue, preferred stock will provide flexibility in connection with possible
financing transactions in the future. The issuance of preferred stock, however,
could adversely affect the voting power of holders of common stock, and the
likelihood that the holders will receive dividend payments and payments upon
liquidation and could have the effect of delaying, deferring or preventing a
change in control of US SEARCH. We have no present plan to issue any shares of
preferred stock.
Registration Rights
Kushner-Locke has registration rights related to 1,360,173 shares of common
stock issuable upon the exercise of warrants and 2,493,651 shares of common
stock issuable upon the conversion of convertible subordinated note held by
Kushner-Locke. If US SEARCH proposes to register its common stock under the
Securities Act, subject to exceptions, the holders of those shares are entitled
to notice of the registration and to include the shares in that offering,
provided that the managing underwriters have the right to determine the number
of shares included in the registration. In addition, the holders may require US
SEARCH, on one occasion, to file a registration statement under the Securities
Act with respect to their shares of common stock. These rights may not be
exercised until one year after the closing of this offering. US SEARCH has the
right to defer the registration for up to 120 days upon the good faith
determination of the board of directors that the registration would be
seriously detrimental to US SEARCH and its stockholders. To the extent
requested by an underwriter, the holders will defer the sale of shares for a
period commencing 20 days prior to and terminating 180 days after the effective
date of the registration statement, provided that any principal shareholders
other than the holders who also have shares included in the registration
statement will also defer their sales for a similar period.
57
<PAGE>
Delaware Law and Anti-Takeover Charter Provisions
US SEARCH is subject to the provisions of Section 203 of the Delaware
General Corporation Law, an anti-takeover law. In general, the statute
prohibits a publicly held Delaware corporation from engaging in a "business
combination" with an "interested stockholder" for a period of three years after
the date of the transaction in which the person became an interested
stockholder, unless the business combination is approved in a prescribed
manner. For purposes of Section 203, a "business combination" includes a
merger, asset sale or other transaction resulting in a financial benefit to the
interested stockholder, and an "interested stockholder" is a person who,
together with affiliates and employees, owns (or within three years prior, did
own) 15% or more of the corporation's voting stock.
Our certificate of incorporation and bylaws also require that, effective
upon the closing of this offering, any action required or permitted to be taken
by our stockholders must be effected at a duly called annual or special meeting
of the stockholders and may not be effected by a consent in writing. In
addition, special meetings of our stockholders may be called only by our board
of directors, Chairman of the Board, Chief Executive Officer, or a majority of
the stockholders. Our certificate of incorporation and bylaws also provide that
directors may be removed by a vote of a majority of the stockholders and that
vacancies on the Board created either by resignation, death, disqualification,
removal or by an increase in the size of the Board may be filled by a majority
of the directors in office, or a majority of the stockholders. Our certificate
of incorporation also provides for a classified board and specifies that the
authorized number of directors may be changed only by resolution of the board
of directors. These provisions may have the effect of deterring hostile
takeovers or delaying changes in control or management of US SEARCH. See
"Management--Board Composition."
Transfer Agent and Registrar
Norwest Bank Minnesota, N.A. has been appointed as the transfer agent and
registrar for our common stock.
58
<PAGE>
SHARES ELIGIBLE FOR FUTURE SALE
Prior to the offering, there has been no public market for the common stock.
No information is currently available and no prediction can be made as to the
timing or amount of future sales of shares, or the effect, if any, that future
sales of shares, or the availability of shares for future sale, will have on
the market price of the common stock prevailing from time to time. Sales of
substantial amounts of the common stock (including shares issuable upon the
exercise of stock options) in the public market after the lapse of the
restrictions described below, or the perception that the sales may occur, could
materially adversely affect the prevailing market prices for the common stock
and the ability of US SEARCH to raise equity capital in the future. See "Risk
Factors--Future sales of our common stock may depress our stock price."
Upon consummation of the offering, US SEARCH will have approximately
17,421,644 million outstanding shares of common stock, approximately 18,321,644
million shares if the underwriters' over-allotment option is exercised in full
and 1,459,914 shares of common stock subject to options granted as of March 31,
1999 under the 1998 Stock Incentive Plan and 1999 Non-Employee Directors' Stock
Option Plan, respectively. See "Management--Executive Compensation." The shares
of common stock being sold in the offering will be immediately eligible for
sale in the public market without restriction or further registration under
Securities Act, unless they are purchased by or issued to any "affiliate" of US
SEARCH, as that term is defined in Rule 144, described below. All of the shares
of common stock outstanding prior to the offering are "restricted securities"
as the term is defined under Rule 144, in that the shares were issued in
private transactions not involving a public offering and may not be sold in the
absence of registration other than in accordance with Rule 144 under the
Securities Act or another exemption from registration.
In general, under Rule 144 as currently in effect, any affiliate of US
SEARCH or any person (or persons whose shares are aggregated in accordance with
Rule 144) who has beneficially owned shares of common stock which are treated
as restricted securities for at least one year would be entitled to sell within
any three-month period commencing 90 days after this offering, a number of
shares that does not exceed the greater of 1% of the outstanding shares of
common stock or the reported average weekly trading volume of the common stock
during the four weeks preceding the date on which notice of the sale was filed
under Rule 144. Sales under Rule 144 are also subject to manner of sale
restrictions and notice requirements and the availability of current public
information about US SEARCH. In addition, affiliates of US SEARCH must comply
with the restrictions and requirements of Rule 144 (other than the one-year
holding period requirements) in order to sell shares of common stock that are
not restricted securities (such as common stock acquired by affiliates in
market transactions). Furthermore, a person who is not deemed to have been an
affiliate of US SEARCH for at least three months prior to a sale, and who has
beneficially owned for at least two years the shares proposed to be sold, would
be entitled to sell the shares immediately without regard to the volume, manner
of sale, notice and public information requirements of Rule 144.
Holders of approximately 3,853,824 shares of our outstanding common stock
will have demand registration rights with respect to the shares of common stock
(subject to the 180-day lock-up arrangement described below), under various
circumstances and subject to various conditions, to require us to register
their shares of common stock under the Securities Act and rights to participate
in any future registration of securities by US SEARCH. We are not required to
effect more than one demand registration on behalf of the holders. Holders of
registrable securities have agreed to be subject to lock-up periods of up to
180 days following the date of this prospectus and up to 180 days prior to
effective date of any subsequent prospectus. We intend to file a registration
statement on Form S-8 for the shares held pursuant to our option plans that may
make those shares freely tradeable. The registration statement will become
effective immediately upon filing and, shares covered by that registration
statement will thereupon be eligible for sale in the public markets, subject to
applicable lock-up agreement and Rule 144 limitations applicable to affiliates.
See "Description of Capital Stock--Registration Rights."
59
<PAGE>
US SEARCH and its executive officers, directors and its current stockholders
have agreed that, subject to certain exceptions, for a period of 180 days after
the date of this prospectus, without the prior written consent of Bear, Stearns
& Co. Inc., they will not (1) directly or indirectly, offer, pledge, sell,
contract to sell, sell any option or contract to purchase, purchase any option
or contract to sell, grant any option, right or warrant to purchase, lend, or
otherwise transfer or dispose of, any shares of common stock or any securities
convertible into or exercisable or exchangeable for common stock, (2) enter
into any swap or other arrangement that transfers to another, in whole or in
part, any of the economic consequences of ownership of common stock, or (3)
make any demand for or exercise any right with respect to, the registration of
any shares of common stock or any security convertible into or exercisable or
exchangeable for common stock.
60
<PAGE>
UNDERWRITING
The underwriters of the initial public offering named below for whom Bear,
Stearns & Co. Inc., BancBoston Robertson Stephens Inc. and Wit Capital
Corporation ("Wit Capital") are acting as representatives, have severally
agreed with US SEARCH, subject to the terms and conditions of the underwriting
agreement (the form of which has been filed as an exhibit to the registration
statement on Form S-1 of which this prospectus is a part), to purchase from US
SEARCH and Kushner-Locke the aggregate number of shares set forth opposite
their respective names below at the initial public offering price less the
underwriting discounts and commission set forth on the cover page of this
prospectus.
<TABLE>
<CAPTION>
Underwriters Number of Shares
------------ ----------------
<S> <C>
Bear, Stearns & Co. Inc..................................... 1,966,500
BancBoston Robertson Stephens Inc. ......................... 1,966,500
Wit Capital Corporation..................................... 207,000
Banc of America Securities LLC.............................. 120,000
CIBC World Markets Corp..................................... 120,000
Donaldson, Lufkin & Jenrette Securities Corporation......... 120,000
Hambrecht & Quist LLC....................................... 120,000
ING Baring Furman Selz LLC.................................. 120,000
Prudential Securities Incorporated.......................... 120,000
SG Cowen Securities Corporation............................. 120,000
Gaines, Berland Inc......................................... 120,000
Axiom Partners Inc.......................................... 60,000
Cruttenden Roth Incorporated................................ 60,000
Gerard Klauer Mattison & Co., LLC........................... 60,000
Goldis Financial Group, Inc................................. 60,000
GunnAllen Financial, Inc.................................... 60,000
Janco Partners, Inc......................................... 60,000
Jefferies & Company......................................... 60,000
Josephthal & Co. Inc........................................ 60,000
Needham & Company, Inc...................................... 60,000
Raymond James & Associates, Inc............................. 60,000
The Seidler Companies Incorporated.......................... 60,000
Muriel Siebert & Co., Inc................................... 60,000
SoundView Technology Group, Inc............................. 60,000
SunTrust Equitable Securities Corporation................... 60,000
Sutter Securities Incorporated.............................. 60,000
---------
Total..................................................... 6,000,000
=========
</TABLE>
The nature of the respective obligations of the underwriters is such that
all of the shares of common stock must be purchased if any are purchased. Those
obligations are subject, however, to various conditions, including the approval
of matters by counsel. US SEARCH and Kushner-Locke have agreed to indemnify the
underwriters against various liabilities, including liabilities under the
Securities Act, and where the indemnification is unavailable, to contribute to
payments that the underwriters may be required to make in respect of such
liabilities. US SEARCH and Kushner-Locke have agreed, under certain
circumstances, to indemnify one another for these obligations.
US SEARCH has been advised that the underwriters propose to offer the shares
of common stock, initially at the initial public offering price set forth on
the cover page of this prospectus and to certain selected dealers at such price
less a concession not to exceed $0.38 per share; that the underwriters may
allow, and such selected dealers may reallow, a concession to other deals not
to exceed $0.10 per share; and that after the commencement of the offering, the
public price and the concessions may be changed.
61
<PAGE>
US SEARCH has granted the underwriters an option to purchase in the
aggregate up to 900,000 additional shares of common stock solely to cover over-
allotments, if any. The option may be exercised in whole or in part at any time
within 30 days after the date of this prospectus. To the extent the option is
exercised, the underwriters will be severally committed, subject to various
conditions, including the approval of matters by counsel, to purchase the
additional shares of common stock in proportion to their respective purchase
commitments as indicated in the preceding table.
The underwriters have reserved for sale at the initial public offering price
up to 5% of the shares of common stock to be sold in the initial public
offering for sale to employees of US SEARCH and its affiliates, and to their
associates and related persons. The number of shares available for sale to the
general public will be reduced to the extent any reserved shares are purchased.
Any reserved shares not so purchased will be offered by the underwriters on the
same basis as the other shares offered hereby. The underwriters do not expect
sales of common stock to any accounts over which they exercise discretionary
authority to exceed 5% of the number of shares being offered hereby.
Internet Distribution. The underwriters, at the request of US SEARCH, have
reserved for sale at the initial public offering price up to 207,000 shares of
common stock to members and visitors to Wit Capital's services or Web site who
express an interest in purchasing these shares. The sale of these shares will
be made by Wit Capital. Purchases of the reserved shares will be made through
an account at Wit Capital in accordance with Wit Capital's procedures for
opening an account and transacting in securities. Any of these reserved shares
not purchased by visitors to and users of Wit Capital's services or Web site
will be offered by the underwriters to the public on the same terms as the
other shares.
Internet Prospectus. A prospectus in electronic format is being made
available on a Web site maintained by Wit Capital. In addition, pursuant to an
e-Dealer Agreement, all dealers purchasing shares from Wit Capital in the
offering, the e-Dealers, similarly have agreed to make a prospectus in
electronic format available on the Web sites that they maintain.
US SEARCH and its executive officers, directors and its current stockholders
have agreed that, subject to exceptions, for a period of 180 days after the
date of this prospectus, without the prior written consent of Bear, Stearns &
Co. Inc., they will not, directly or indirectly offer, pledge, sell, contract
to sell, sell any option or contract to purchase, purchase any option or
contract to sell, grant any option, right or warrant to purchase, lend, or
otherwise transfer or dispose of, any shares of common stock or any securities
convertible into or exercisable or exchangeable for common stock of US SEARCH
or enter into any swap or other arrangement that transfers to another, in whole
or in part, any of the exercise consequences of ownership of common stock,
whether such transaction is to be settled by delivery of common stock or such
other securities, in cash or otherwise.
Prior to the offering, there was no public market for the common stock.
Consequently, the initial public offering price was determined through
negotiations among US SEARCH and representatives of the underwriters. Among the
factors considered in making such determination were US SEARCH's financial and
operating history and condition, its prospects and prospects for the industry
in which it does business in general, the management of US SEARCH, prevailing
equity market conditions and the demand for securities considered comparable to
those of US SEARCH.
In order to facilitate the offering, persons participating in the offering
may engage in transactions that stabilize, maintain or otherwise affect the
price of the common stock during and after the offering. Specifically, the
underwriters may over-allot or otherwise create a short position in the common
stock for their own account by selling more shares than have been sold to them
by US SEARCH . The underwriters may elect to cover any such short position by
purchasing shares in the open market or by exercising the over-allotment
options granted to the underwriters. In addition, such persons may stabilize or
maintain the price of the common stock by bidding for or purchasing shares in
the open market and may impose penalty bids, under which selling concessions
allowed to syndicate members or other broker-dealers participating in the
offering are reclaimed if
62
<PAGE>
shares previously distributed in the offering are repurchased in connection
with stabilization transactions or otherwise. The effect of these transactions
may be to stabilize or maintain the market price of the common stock at a level
above that which might otherwise prevail in the open market. The imposition of
a penalty bid may also affect the price of common stock to the extent that it
discourages resales thereof. No representation is made as to the magnitude or
effect of any such stabilization or other transactions. Such transactions may
be effected on the Nasdaq National Market or otherwise and, if commenced, may
be discounted at any time.
LEGAL MATTERS
The validity of the issuance of the common stock offered hereby will be
passed upon for US SEARCH by Cooley Godward LLP, Palo Alto, California. Alan C.
Mendelson, a senior partner of Cooley Godward LLP, serves as one of our
directors and has been granted an option to purchase 35,364 shares of common
stock, with an exercise price of $4.45 per share, under our 1999 Non-Employee
Directors' Stock Option Plan. Legal matters in connection with the offering
will be passed upon for the underwriters by Wilson Sonsini Goodrich & Rosati,
Professional Corporation, Palo Alto, California.
EXPERTS
The financial statements of US SEARCH as of December 31, 1997 and 1998, and
for each of the three years in the period ended December 31, 1998, appearing in
this prospectus and registration statement have been audited by
PricewaterhouseCoopers LLP, independent accountants, as set forth in their
report appearing elsewhere in this prospectus, and are included in reliance
upon their report given on the authority of the firm as experts in accounting
and auditing.
ADDITIONAL INFORMATION
A registration statement on Form S-1, including amendments thereto, relating
to the common stock being offered has been filed by US SEARCH with the
Securities and Exchange Commission. This prospectus, which constitutes a part
of the registration statement, does not contain all of the information set
forth in the registration statement and the related exhibits and schedules.
Statements contained in this prospectus as to the contents of any contract or
other document referred to are not necessarily complete, and in each instance
reference is made to the copy of the contract or other document filed as an
exhibit to the registration statement, each such statement being qualified in
all respects by such reference. For further information with respect to US
SEARCH and the common stock offered hereby, reference is made to such
registration statement, exhibits and schedules. A copy of the registration
statement may be inspected by anyone without charge at the public reference
facilities maintained by the Securities and Exchange Commission at 450 Fifth
Street, NW, Judiciary Plaza, Washington, D.C. 20549, and copies of all or any
part thereof maybe obtained from the Securities and Exchange Commission upon
payment of fees prescribed by the Securities and Exchange Commission. The
Securities and Exchange Commission maintains a World Wide Web site that
contains reports, proxy and information statements and other information filed
electronically with the Securities and Exchange Commission. The address of the
site is http://www.sec.gov.
63
<PAGE>
INDEX TO FINANCIAL STATEMENTS
(Information with respect to March 31, 1998 and 1999 is unaudited)
<TABLE>
<CAPTION>
Page
----
<S> <C>
Report of Independent Accountants......................................... F-2
Financial Statements:
Balance Sheets as of December 31, 1997 and 1998 and March 31, 1999...... F-3
Statements of Operations for Each of the Three Years in the Period Ended
December 31, 1998 and the Three Month Periods Ended March 31, 1998 and
1999................................................................... F-4
Statements of Stockholders' Deficit for Each of the Three Years in the
Period Ended December 31, 1998 and the Three Month Period Ended March
31, 1999............................................................... F-5
Statements of Cash Flows for Each of the Three Years in the Period Ended
December 31, 1998 and the Three Month Periods Ended March 31, 1998 and
1999................................................................... F-6
Notes to the Financial Statements....................................... F-7
</TABLE>
F-1
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders of US SEARCH.com Inc.:
In our opinion, the accompanying balance sheets and the related statements
of operations, stockholders' deficit and cash flows present fairly, in all
material respects, the financial position of US SEARCH.com Inc. (the "Company")
as of December 31, 1997 and 1998, and the results of its operations and its
cash flows for each of the three years in the period ended December 31, 1998,
in conformity with generally accepted accounting principles. These financial
statements are the responsibility of the Company's management; our
responsibility is to express an opinion on these financial statements based on
our audits. We conducted our audits of these statements in accordance with
generally accepted auditing standards which require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test
basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for the
opinion expressed above.
PricewaterhouseCoopers LLP
Woodland Hills, California
February 22, 1999, except for the
effects of the stock split and
reincorporation into Delaware
described in Note 3 as to which
the date is June 22, 1999
F-2
<PAGE>
US SEARCH.COM INC.
BALANCE SHEETS
(All information as of March 31, 1999 is unaudited)
<TABLE>
<CAPTION>
December 31, December 31, March 31, March 31,
1997 1998 1999 1999
------------ ------------ ------------ ------------
(Pro Forma)
<S> <C> <C> <C> <C>
ASSETS: (All assets are
pledged as collateral
under the parent company's
credit facility--Note 12)
Current assets:
Cash and cash
equivalents............ $ -- $ 99,000 $ 16,000 $ 16,000
Accounts receivable,
less allowance for
doubtful accounts of
$87,000 (1997) $64,000
(December 1998) and
$57,000 (March 1999)... 177,000 83,000 73,000 73,000
Prepaids and other
current assets......... 53,000 6,000 7,000 7,000
Debt issue costs, net... -- -- 1,493,000 --
----------- ----------- ------------ ------------
Total current assets... 230,000 188,000 1,589,000 96,000
Property and equipment,
net..................... 301,000 371,000 388,000 388,000
Other assets............. 16,000 16,000 42,000 42,000
----------- ----------- ------------ ------------
Total assets.......... $ 547,000 $ 575,000 $ 2,019,000 $ 526,000
=========== =========== ============ ============
LIABILITIES AND
STOCKHOLDERS' DEFICIT:
Current liabilities:
Cash overdrafts......... $ 101,000 $ -- $ -- $ --
Accounts payable........ 1,165,000 3,721,000 3,217,000 3,217,000
Accrued liabilities..... 484,000 570,000 446,000 446,000
Lines of credit......... 34,000 372,000 24,000 24,000
Notes payable, current
portion................ 90,000 693,000 693,000 693,000
Capital lease
obligations, current
portion................ 43,000 40,000 39,000 39,000
Related-party
convertible
subordinated note
payable................ -- -- 3,500,000 --
Related-party notes
payable................ 676,000 2,553,000 2,135,000 2,135,000
----------- ----------- ------------ ------------
Total current
liabilities........... 2,593,000 7,949,000 10,054,000 6,554,000
Notes payable, net of
current portion......... -- 269,000 158,000 158,000
Related-party notes
payable, net of current
portion................. -- 29,000 28,000 28,000
Capital lease obligation,
net of current portion.. 61,000 45,000 31,000 31,000
Other non-current
liabilities............. 44,000 32,000 32,000 32,000
----------- ----------- ------------ ------------
Total liabilities..... 2,698,000 8,324,000 10,303,000 6,803,000
----------- ----------- ------------ ------------
Commitments and
contingencies (Notes 11
and 12)
Stockholders' deficit:
Common stock, $0.001 par
value; authorized
40,000,000 shares;
issued and outstanding
9,067,820 shares as of
December 31, 1997 and
1998, and March 31,
1999 (and 11,561,471 as
of March 31, 1999, on a
pro forma basis)....... 15,000 15,000 15,000 12,000
Additional paid-in
capital................ (2,112,000) (922,000) 7,488,000 14,991,000
Unearned deferred
compensation........... -- -- (2,349,000) (2,349,000)
Accumulated deficit..... (54,000) (6,842,000) (13,438,000) (18,931,000)
----------- ----------- ------------ ------------
Total stockholders'
deficit.............. (2,151,000) (7,749,000) (8,284,000) (6,277,000)
----------- ----------- ------------ ------------
Total liabilities and
stockholders'
deficit.............. $ 547,000 $ 575,000 $ 2,019,000 $ 526,000
=========== =========== ============ ============
</TABLE>
The accompanying notes are an integral part of these statements.
F-3
<PAGE>
US SEARCH.COM INC.
STATEMENTS OF OPERATIONS
(Information with respect to the three months ended March 31, 1998 and 1999 is
unaudited)
<TABLE>
<CAPTION>
Three Months Ended
Year Ended December 31, March 31,
------------------------------------ -----------------------
1996 1997 1998 1998 1999
----------- ---------- ----------- ---------- -----------
<S> <C> <C> <C> <C> <C>
Net revenues............ $ 5,690,000 $2,971,000 $ 9,245,000 $1,804,000 $ 3,296,000
Cost of services........ 3,363,000 1,501,000 3,769,000 642,000 1,227,000
----------- ---------- ----------- ---------- -----------
Gross profit.......... 2,327,000 1,470,000 5,476,000 1,162,000 2,069,000
Operating expenses:
Advertising and
marketing............. 2,559,000 655,000 7,007,000 670,000 2,553,000
General and
administrative........ 1,007,000 1,165,000 3,882,000 527,000 846,000
Charge for warrants
issued to majority
stockholder........... -- -- 1,190,000 -- --
Charge for compensation
related to stock
options............... -- -- -- -- 876,000
----------- ---------- ----------- ---------- -----------
Total operating
expenses............. 3,566,000 1,820,000 12,079,000 1,197,000 4,275,000
----------- ---------- ----------- ---------- -----------
Loss from operations.... (1,239,000) (350,000) (6,603,000) (35,000) (2,206,000)
Interest expense........ (64,000) (110,000) (197,000) (24,000) (2,786,000)
Amortization of debt
issue costs............ -- -- -- -- (1,603,000)
Other (expense) income,
net.................... (60,000) 63,000 13,000 6,000 --
----------- ---------- ----------- ---------- -----------
Loss before income
taxes................ (1,363,000) (397,000) (6,787,000) (53,000) (6,595,000)
Provision for income
taxes.................. 1,000 2,000 1,000 1,000 1,000
----------- ---------- ----------- ---------- -----------
Net loss............... $(1,364,000) $ (399,000) $(6,788,000) $ (54,000) $(6,596,000)
=========== ========== =========== ========== ===========
Basic and diluted net
loss per share......... $ (0.14) $ (0.04) $ (0.71) $ (0.01) $ (0.69)
=========== ========== =========== ========== ===========
Weighted-average shares
outstanding used in per
share calculation...... 9,521,211 9,521,211 9,521,211 9,521,211 9,521,211
=========== ========== =========== ========== ===========
Pro forma basic and
diluted net loss per
share.................. $ (0.71) $ (0.33)
Weighted-average shares
used in pro forma per
share calculation...... 9,521,211 12,014,862
</TABLE>
The accompanying notes are an integral part of these statements.
F-4
<PAGE>
US SEARCH.COM INC.
STATEMENTS OF STOCKHOLDERS' DEFICIT
(Information with respect to the three months ended March 31, 1998 and 1999 is
unaudited)
<TABLE>
<CAPTION>
Common Stock Unearned Total
--------------------- Additional Deferred Accumulated Stockholders'
Shares Amount Paid-In Capital Compensation Deficit (Deficit)
---------- ---------- --------------- ------------ ------------ -------------
<S> <C> <C> <C> <C> <C> <C>
Balance, December 31,
1995................... 9,067,820 $ 15,000 $ -- -- $ (403,000) $ (388,000)
Net loss............... -- -- -- -- (1,364,000) (1,364,000)
---------- ---------- ----------- ----------- ------------ -----------
Balance, December 31,
1996................... 9,067,820 15,000 -- -- (1,767,000) (1,752,000)
Reclassification of
deficit due to
termination of S-
Corporation election... -- -- (2,112,000) -- 2,112,000 --
Net loss............... -- -- -- -- (399,000) (399,000)
---------- ---------- ----------- ----------- ------------ -----------
Balance, December 31,
1997................... 9,067,820 15,000 (2,112,000) -- (54,000) (2,151,000)
Issuance of warrants to
majority stockholder.. -- -- 1,190,000 -- -- 1,190,000
Net loss............... -- -- -- -- (6,788,000) (6,788,000)
---------- ---------- ----------- ----------- ------------ -----------
Balance, December 31,
1998................... 9,067,820 15,000 (922,000) -- (6,842,000) (7,749,000)
Unearned compensation
related to stock
options............... -- -- 3,225,000 (3,225,000) -- --
Amortization of
unearned
compensation.......... -- -- -- 876,000 -- 876,000
Issuance of warrants
with convertible
subordinated note..... -- -- 2,546,000 -- -- 2,546,000
Beneficial conversion
feature on convertible
subordinated note..... -- -- 2,639,000 -- -- 2,639,000
Net loss............... -- -- -- -- (6,596,000) (6,596,000)
---------- ---------- ----------- ----------- ------------ -----------
Balance, March 31, 1999
(unaudited)............ 9,067,820 15,000 7,488,000 (2,349,000) (13,438,000) (8,284,000)
Conversion of
$5,500,000 convertible
subordinated note and
amortization of debt
issue costs........... 2,493,651 5,500,000 -- -- (3,493,000) 2,007,000
Beneficial conversion
feature on convertible
subordinated note..... -- -- 2,000,000 -- (2,000,000) --
Reincorporation into
Delaware and change in
par value of common
stock................. -- (5,503,000) 5,503,000 -- -- --
---------- ---------- ----------- ----------- ------------ -----------
Balance, March 31, 1999,
pro forma (unaudited).. 11,561,471 $ 12,000 $14,991,000 $(2,349,000) $(18,931,000) $(6,277,000)
========== ========== =========== =========== ============ ===========
</TABLE>
The accompanying notes are an integral part of these statements.
F-5
<PAGE>
US SEARCH.COM INC.
STATEMENTS OF CASH FLOWS
(Information with respect to the three months ended March 31, 1998 and 1999 is
unaudited)
<TABLE>
<CAPTION>
For the three months
For the years ended December 31, ended March 31,
----------------------------------- ----------------------
1996 1997 1998 1998 1999
----------- --------- ----------- --------- -----------
<S> <C> <C> <C> <C> <C>
Cash flows from
operating activities:
Net loss............... $(1,364,000) $(399,000) $(6,788,000) $ (54,000) $(6,596,000)
Adjustments to
reconcile net loss to
net cash used in
operating activities:
Depreciation and
amortization......... 67,000 99,000 128,000 28,000 42,000
Provision for doubtful
accounts............. -- 153,000 364,000 134,000 98,000
Compensation charge... -- -- 296,000 -- --
Charge for warrants
and beneficial
conversion feature
issued to majority
stockholder -- -- 1,190,000 -- 2,639,000
Amortization of
unearned
compensation......... -- -- -- -- 876,000
Amortization of debt
issue costs.......... -- -- -- -- 1,603,000
Related-party
charges.............. -- -- 384,000 -- 231,000
Change in assets and
liabilities:
Accounts receivable.. -- (245,000) (270,000) (191,000) (88,000)
Accounts payable..... 1,054,000 (27,000) 3,193,000 249,000 (504,000)
Accrued liabilities.. 180,000 108,000 86,000 (318,000) (124,000)
Other................ (15,000) (10,000) 38,000 (285,000) (27,000)
----------- --------- ----------- --------- -----------
Net cash used in
operating activities... (78,000) (321,000) (1,379,000) (437,000) (1,850,000)
----------- --------- ----------- --------- -----------
Cash flows from
investing activities:
Additions to property
and equipment......... (247,000) (15,000) (168,000) (45,000) (59,000)
Loans to related
parties............... (177,000) (17,000) -- -- --
Repayments of related-
party loans........... 3,000 -- -- -- --
----------- --------- ----------- --------- -----------
Net cash used in
investing activities... (421,000) (32,000) (168,000) (45,000) (59,000)
----------- --------- ----------- --------- -----------
Cash flows from
financing activities:
Increase (decrease) in
cash overdrafts....... 33,000 68,000 (101,000) (101,000) --
Proceeds from line of
credit................ 36,000 8,000 1,126,000 408,000 --
Repayments of line of
credit................ (3,000) (8,000) (788,000) (2,000) (348,000)
Proceeds from third
party notes payable... 219,000 -- -- -- --
Repayments of third
party notes payable... (56,000) (73,000) (238,000) (102,000) (111,000)
Advances from related
parties............... 409,000 930,000 1,816,000 324,000 2,300,000
Repayments to related
parties............... (122,000) (539,000) (121,000) (37,000) --
Repayments of capital
lease obligations..... (24,000) (33,000) (48,000) (2,000) (15,000)
----------- --------- ----------- --------- -----------
Net cash provided by
financing activities... 492,000 353,000 1,646,000 488,000 1,826,000
----------- --------- ----------- --------- -----------
Net (decrease) increase
in cash and cash
equivalents............ (7,000) -- 99,000 6,000 (83,000)
Cash at beginning of
period................. 7,000 -- -- -- 99,000
----------- --------- ----------- --------- -----------
Cash at end of period... $ -- $ -- $ 99,000 6,000 $ 16,000
=========== ========= =========== ========= ===========
</TABLE>
The accompanying notes are an integral part of these statements.
F-6
<PAGE>
US SEARCH.COM INC.
NOTES TO FINANCIAL STATEMENTS
(All information with respect to March 31, 1998 and 1999 is unaudited)
1. Organization and Business:
US SEARCH.com Inc. (the "Company") provides public record information about
individuals. The Company was formed as a California S Corporation in 1994, and
converted to a C Corporation in November 1997. Accordingly, the accumulated
deficit totaling $2,112,000 as of the date of the termination of the S-
Corporation election was transferred to additional paid-in capital.
In November 1997, The Kushner-Locke Company ("Kushner-Locke"), acquired 80%
of the outstanding shares of the Company in exchange for the indemnification of
various liabilities not to exceed $670,000. The Company's financial statements
are presented on a historical basis and do not reflect the push-down of
Kushner-Locke's purchase accounting adjustments.
2. Management's Plans:
The Company has incurred operating losses since its inception. In addition,
the Company has a working capital deficit of approximately $7,761,000 and a
stockholders' deficit of approximately $7,749,000 as of December 31, 1998.
The Company has historically funded losses through the deferral of trade
payables, refinancing of trade payables, and through debt financing. Since
November 1997, the Company has borrowed primarily from Kushner-Locke. In
January 1999, the Company obtained bridge financing in the form of a
convertible subordinated note to Kushner-Locke (see Note 10). In addition,
Kushner-Locke has committed to provide the Company with additional financial
support as needed through the earlier of (a) a public sale or private placement
of securities or (b) March 31, 2000.
3. Summary of Significant Accounting Policies:
Initial Public Offering and Unaudited Pro Forma Balance Sheet
In March 1999, the Board of Directors authorized the filing of a
registration statement with the Securities and Exchange Commission ("SEC") that
would permit the Company to sell shares of the Company's common stock in
connection with a proposed initial public offering ("IPO"). Unless exercised
earlier, the warrants issued in September 1998 and January 1999 will expire
upon the consummation of the proposed IPO (see Note 13). These warrants are
expected to be exercised prior to such expiration and the convertible
subordinated note (see Note 10) is expected to convert into shares of common
stock. The conversion of the $5,500,000 convertible subordinated note (of which
$3.5 million was outstanding at March 31, 1999 and $2.0 million subsequently
borrowed and used in operations), write-off of related debt costs, and
additional interest expense relating to the beneficial conversion feature on
the subsequent $2.0 million borrowing under the convertible subordinated note
have been reflected in the accompanying unaudited pro forma balance sheet as of
March 31, 1999.
In February 1999, the Board of Directors approved the reincorporation of the
Company in the State of Delaware and a change in the par value of the Company's
common stock which will be effected prior to the closing of the IPO.
Unaudited Interim Financial Statements
The interim financial statements of the Company for the three months ended
March 31, 1998 and 1999, included herein, have been prepared by the Company,
without audit, pursuant to the rules and regulations of the Securities and
Exchange Commission. Certain information and footnote disclosures normally
included in financial statements prepared in accordance with generally accepted
accounting principles have been condensed
F-7
<PAGE>
US SEARCH.COM INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
(All information with respect to March 31, 1998 and 1999 is unaudited)
or omitted pursuant to such rules and regulations relating to interim financial
statements. In the opinion of management, the accompanying unaudited interim
financial statements reflect all adjustments, consisting only of normal
recurring adjustments, necessary to present fairly the financial position of
the Company as March 31, 1999, and the results of its operations and its cash
flows for the three month periods ended March 31, 1998 and 1999.
Stock Split
In June 1999, the Company authorized a 906.782 for one stock split pursuant
to a stock dividend to its current stockholders which became effective on June
22, 1999. The share information in the accompanying financial statements has
been retroactively restated to reflect the effect of the stock split.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Cash and Cash Equivalents
The Company considers all highly liquid investments with an original
maturity of three months or less to be cash equivalents. Cash overdrafts
resulted primarily from checks issued and outstanding in excess of book cash
balances and from bank disbursements in excess of actual cash balances.
Property and Equipment
Property and equipment are stated at cost less accumulated depreciation.
Depreciation is computed using the straight-line method based upon the
estimated useful lives of the assets. Leasehold improvements and equipment
under capital leases are amortized over the shorter of the estimated useful
life or the life of the lease. Depreciation and amortization periods by asset
category are as follows:
<TABLE>
<S> <C>
Equipment......................... 3-10 years
Furniture and fixtures............ 7 years
Leasehold improvements............ Shorter of useful life or lease term
Equipment under capital leases.... Shorter of useful life or lease term
</TABLE>
Maintenance and repairs are charged to expense as incurred while renewals
and improvements are capitalized. Upon the sale or retirement of property and
equipment, the accounts are relieved of the cost and the related accumulated
depreciation, with any resulting gain or loss included in the Statement of
Operations.
Long-Lived Assets
The Company identifies and records impairment losses on long-lived assets
when events and circumstances indicate that such assets might be impaired. To
date, no such impairment has been recorded.
Fair Value of Financial Instruments
The estimated fair value of cash overdrafts, accounts receivable, accounts
payable, accrued liabilities and notes payable are carried at cost which
approximates their fair market value because of the short-term maturity of
these instruments.
F-8
<PAGE>
US SEARCH.COM INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
(All information with respect to March 31, 1998 and 1999 is unaudited)
Net Loss Per Common Share
Basic net loss per common share is computed using the weighted-average
number of shares of common stock and diluted net loss per common share is
computed using the weighted average number of shares of common stock and common
equivalent shares outstanding. Common equivalent shares related to stock
options and warrants are excluded from the computation when their effect is
antidilutive. The warrants issued to Kushner-Locke in September 1998 were
issued for nominal consideration (see Note 13). For purposes of computing basic
and diluted net loss per share, the common stock issuable pursuant to these
warrants is considered outstanding for all periods presented in the
accompanying Statements of Operations.
As of March 31, 1999, 1,459,914 options, 906,782 warrants (issued in January
1999) and 1,586,868 shares issuable on the conversion of the convertible
subordinated note are excluded from the computation of diluted earnings per
share because their inclusion would have been anti-dilutive.
Pro forma net loss per common share for the year ended December 31, 1998 and
for the three months ended March 31, 1999, assumes that the common stock
issuable upon conversion of the outstanding convertible subordinated note
payable had been outstanding during the period or from the date of issuance.
Comprehensive Income
In June 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standard ("SFAS") No. 130, "Reporting
Comprehensive Income." This statement established standards for the reporting
and display of comprehensive income and its components in a full set of general
purpose financial statements. Comprehensive income generally represents all
changes in stockholders' deficit during the period except those resulting from
investments by, or distributions to, stockholders. SFAS No. 130 is effective
for fiscal years beginning after December 15, 1997, and requires restatement of
earlier periods presented. SFAS No. 130 defines comprehensive income as net
income plus all other changes in equity from non-owner sources. The Company has
no other comprehensive income items and accordingly net income equals
comprehensive income.
Stock-Based Compensation
The Company accounts for stock-based employee compensation arrangements in
accordance with the provisions of Accounting Principles Board ("APB") No. 25,
"Accounting for Stock Issued to Employees," and complies with the disclosure
requirements of SFAS No. 123, "Accounting for Stock-Based Compensation." Under
APB No. 25, compensation cost, if any, is recognized over the respective
vesting period based on the difference on the date of grant, between the fair
value of the Company's common stock and the grant price.
Segment Reporting
The Company adopted Statement of Financial Accounting Standards No. 131.
"Disclosures about Segments of an Enterprise and Related Information" for the
year ended December 31, 1998. SFAS No. 131 supersedes SFAS No. 14, "Financial
Reporting for Segments of a Business Enterprise", replacing the "industry
segment" approach with the "management" approach. The management approach
designates the internal organization that is used by management for making
operating decisions and assessing performance as the source of the Company's
reportable segments. SFAS No. 131 also requires disclosures about products or
services, geographic areas, and major customers. The Company's management
reporting structure provides for only one segment and accordingly, no separate
segment information is presented. In addition, the Company operates only in the
United States and no single customer accounts for more than 10% of revenues for
all periods presented.
F-9
<PAGE>
US SEARCH.COM INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
(All information with respect to March 31, 1998 and 1999 is unaudited)
Income Taxes
The Company utilizes the liability method of accounting for income taxes.
Under this method, deferred tax liabilities and assets are determined based on
the difference between the financial statement and the tax bases of assets and
liabilities using enacted tax rates in effect for the period in which the
differences are expected to reverse. Valuation allowances are established, when
necessary, to reduce deferred tax assets to the amount expected to be realized.
Revenue Recognition
The Company generates revenues by performing various information search
services for customers. Revenue is recognized when the results of the search
services are delivered to clients. The terms of each sale do not provide for
client refunds. For certain search services, where the clients indicate that
the initial search result is unsuccessful, the Company may perform, at no
charge to the client, up to three identical searches during the one year period
following the first search. The costs related to such additional searches are
recorded in the period of the initial sale and are based upon the estimated
number of additional searches. In addition, where clients request to broaden
the scope of their fully automated searches, the Company may apply up to a
portion of the cost of the client's fully automated searches towards the cost
of the broader and more extensive searches. The estimated credits are recorded
in the period of the initial sale and are based upon the amount estimated to be
redeemed by clients. To date, the costs of additional searches and estimated
credits to be provided in future periods have not been material.
Advertising Costs
Advertising production costs are expensed the first time the advertisement
is run. Media costs are expensed in the month the advertising appears.
Advertising expense was approximately $2,530,000 for the year ended December
31, 1996, $646,000 for 1997, $6,944,000 for 1998, $670,000 and $2,552,000 for
the three months ended March 31, 1998 and 1999, respectively.
4. New Accounting Pronouncements:
In March 1998, the American Institute of Certified Public Accountants issued
Statement of Position ("SOP") 98-1, "Accounting for the Costs of Computer
Software Developed or Obtained for Internal Use." This statement provides
guidance on accounting for the costs of computer software developed or obtained
for internal use. This SOP is effective for fiscal periods commencing after
December 15, 1998. Management does not believe that the implementation of SOP
98-1 will have a material effect on the financial statements.
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative
Instruments and Hedging Activities." This statement establishes accounting and
reporting standards for derivative instruments and hedging activities and
requires companies to recognize all derivatives as either assets or liabilities
in the statement of financial position and measures those instruments at fair
value. This statement is effective for all fiscal quarters of fiscal years
beginning after June 15, 1999. Management does not believe that the
implementation of SFAS No. 133 will have any impact on the financial statements
since the Company does not engage in derivative or hedging activities.
On September 28, 1998, the SEC issued a press release and stated the "SEC
will formulate and augment new and existing accounting rules and
interpretations covering revenue recognition, restructuring reserves,
materiality, and disclosure" for all publicly-traded companies. Until such time
as the SEC staff issues such interpretative guidelines, it is unclear what, if
any, impact such interpretative guidance will have on the Company's current
accounting practices.
F-10
<PAGE>
US SEARCH.COM INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
(All information with respect to March 31, 1998 and 1999 is unaudited)
5. Concentrations of Risk:
Credit Risk
Financial instruments which subject the Company to concentrations of credit
risk consist primarily of cash and cash equivalents and trade accounts
receivable. The Company maintains cash and cash equivalents with various
domestic financial institutions. The Company performs periodic evaluations of
the relative credit standing of these institutions. From time to time, the
Company's cash balances with any one financial institution may exceed Federal
Deposit Insurance Corporation (FDIC) insurance limits.
The Company's customers are concentrated in the United States. The Company
extends minimum levels of credit to customers and does not require collateral.
The Company maintains reserves for potential credit losses which to date have
been within management's expectations.
Business Risk
The Company provides services to its customers using internal and external
computer systems. Operations are currently susceptible to varying degrees of
physical and electronic security as well as varying levels of internal support.
A disruption in security or internal support could cause a delay in the
Company's performance of services which would adversely affect operating
results.
6. Allowance for Doubtful Accounts:
<TABLE>
<CAPTION>
December 31,
------------------- March 31,
1997 1998 1999
-------- --------- ---------
<S> <C> <C> <C>
Beginning balance............................ $ -- $ 87,000 $ 64,000
Additions.................................... 153,000 364,000 98,000
Deductions................................... (66,000) (387,000) (105,000)
-------- --------- ---------
Ending balance............................... $ 87,000 $ 64,000 $ 57,000
======== ========= =========
</TABLE>
7. Property and Equipment:
Property and equipment is comprised of the following:
<TABLE>
<CAPTION>
December 31,
----------------- March 31,
1997 1998 1999
-------- -------- ---------
<S> <C> <C> <C>
Equipment....................................... $255,000 $405,000 $464,000
Furniture and fixtures.......................... 34,000 40,000 40,000
Leasehold improvements.......................... 26,000 38,000 38,000
Equipment under capital leases.................. 161,000 191,000 191,000
-------- -------- --------
476,000 674,000 733,000
Less, accumulated depreciation, including
capital lease amortization of $56,000,
$115,000, and $126,000 at 1997, 1998 and 1999,
respectively................................... 175,000 303,000 345,000
-------- -------- --------
Property and equipment, net..................... $301,000 $371,000 $388,000
======== ======== ========
</TABLE>
F-11
<PAGE>
US SEARCH.COM INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
(All information with respect to March 31, 1998 and 1999 is unaudited)
8. Lines of Credit:
In September 1996, the Company established a $35,000 revolving line of
credit (the "line") with a commercial bank. In fiscal year 1997, the line was
capped at $34,000, converted to a term loan bearing interest at 14.25% at
December 31, 1998, and is not subject to additional borrowings. As of December
31, 1998 and March 31, 1999, the outstanding balance under the line was
approximately $27,000 and $24,000, respectively.
In February 1998, the Company entered into a revolving line of credit (the
"Credit Agreement") with Comerica Bank ("Comerica"). The Credit Agreement is
collateralized by substantially all of the Company's assets and bears interest
at a variable rate of Comerica's base rate plus 2.5% (10.25% at December 31,
1998). The Credit Agreement required the Company to maintain a cash flow to
fixed charge ratio, as defined, and restrictive covenants including, among
other things, limitations on additional indebtedness, liens, investments,
disposition of assets, mergers, changes in ownership, guarantees, the uses of
proceeds, payment of cash dividends and prepayment of subordinated debt.
Kushner-Locke is a guarantor under the Credit Agreement. In May 1998, Comerica
granted a waiver of non-compliance to the Company. In August 1998, Comerica
revised the term of the Credit Agreement, which was capped at $345,000 (the
outstanding balance as of the date of revision), with repayment of outstanding
amounts due on or before November 15, 1998. In addition, the cash flow to fixed
charge ratio was rescinded. In December 1998, Comerica extended the maturity
date to March 1999. The Company agreed to fully retire all indebtedness on or
before March 31, 1999. Upon the receipt of funding from any financing
transaction, by the Company, the Company will immediately repay the Credit
Agreement in full or provide such funds as cash collateral to Comerica. As of
December 31, 1998, the outstanding amount under the Credit Agreement was
approximately $345,000. In March 1999, the Company repaid all principal and
interest then due under the Credit Agreement.
9. Accrued Liabilities:
Accrued liabilities is comprised of the following:
<TABLE>
<CAPTION>
December 31,
----------------- March
1997 1998 31, 1999
-------- -------- --------
<S> <C> <C> <C>
Sales and payroll taxes.......................... $226,000 $107,000 $ 65,000
Accrued vacation and payroll..................... 105,000 203,000 67,000
Accrued professional fees........................ 55,000 70,000 30,000
Other accrued expenses........................... 98,000 190,000 284,000
-------- -------- --------
$484,000 $570,000 $446,000
======== ======== ========
</TABLE>
F-12
<PAGE>
US SEARCH.COM INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
(All information with respect to March 31, 1998 and 1999 is unaudited)
10. Notes Payable:
<TABLE>
<CAPTION>
December 31,
------------------- March 31,
1997 1998 1999
-------- ---------- -----------
(unaudited)
<S> <C> <C> <C>
Convertible subordinated note payable to
Kushner-Locke ............................... $ -- $ -- $3,500,000
Note payable to Kushner-Locke, payable on
demand bearing interest at 10% per annum..... 388,000 2,540,000 2,121,000
Note payable to third party, payable July
1999, bearing interest at 12% per annum...... -- 296,000 296,000
Notes payable in equal monthly installments of
$3,333 comprising principal and interest
through December 2000 bearing interest at
12.5% per annum.............................. 100,000 70,000 63,000
Trade notes payable, due in monthly
installments by $13,583 comprising principal
and interest through November 1999 bearing
interest at 10.0% per annum.................. -- 142,000 105,000
Trade notes payable, due in blended monthly
installments through May 2000 bearing
interest at 10.0% per annum.................. -- 186,000 167,000
Loan payable to former stockholder/executive
officer of the Company, due in monthly
installments through July 2001, non-interest
bearing...................................... 75,000 68,000 56,000
Note payable in equal monthly installments
through December 2000, bearing interest at
12.25% per annum(1).......................... 50,000 35,000 31,000
Loan payable to executive officer of the
Company, payable in monthly installments of
$1,100, non-interest bearing................. 48,000 42,000 42,000
Notes payable to employees and other related
parties, various due dates, bearing interest
at 20% per annum............................. 15,000 -- --
Other trade notes payable, payable through
2000 bearing interest at 10% per annum....... -- 165,000 133,000
Trade note payable, payable in four monthly
installments due March 31, 1998, bearing
interest at 12% per annum.................... 90,000 -- --
-------- ---------- ----------
Total notes payable....................... $766,000 $3,544,000 $6,514,000
======== ========== ==========
Related-party notes payable:
Current..................................... $676,000 $2,553,000 $5,635,000
Non-current................................. -- 29,000 28,000
Other notes payable:
Current..................................... 90,000 693,000 693,000
Non-current................................. -- 269,000 158,000
-------- ---------- ----------
Total notes payable....................... $766,000 $3,544,000 $6,514,000
======== ========== ==========
</TABLE>
The maturities of the third-party notes as of December 31, 1998 are as follows:
<TABLE>
<S> <C>
1999........................................................... $707,000
2000........................................................... 241,000
2001........................................................... 14,000
--------
Total:....................................................... $962,000
========
</TABLE>
- ----------
(1) The former stockholder/executive was a related party through December 31,
1997.
F-13
<PAGE>
US SEARCH.COM INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
(All information with respect to March 31, 1998 and 1999 is unaudited)
Related-Party Convertible Subordinated Note:
In January 1999, Kushner-Locke agreed to provide a credit facility up to
$5,500,000 of bridge financing to the Company in the form of a convertible
subordinated note ("Note"). The Note bears interest at 10% per annum and
matures on the earlier of December 31, 1999 or on the date the Company
completes a private placement or initial public offering raising gross proceeds
of at least $10,000,000. The Note is convertible, at the option of Kushner-
Locke, in whole or in part, into common stock at the rate of one share of
common stock per $2.21 of principal and/or accrued and unpaid interest of the
Note at any time prior to maturity. The Note will automatically convert into
shares of common in the event the Company does an initial public offering. The
Note includes a 10% origination fee totalling $550,000 payable to Kushner-Locke
for providing the credit facility. The origination fee is amortized on a
straight line basis over the anticipated term of the Note. As of March 31,
1999, the Company has amortized $330,000 of the origination fee. Notes payable
on demand to Kushner-Locke of $1,200,000 outstanding as of December 31, 1998
were converted to the Note in January 1999. For the three month period ended
March 31, 1999, the Company received $2,300,000 under this facility. The Note
has a beneficial conversion feature ("BCF") since it is convertible at a
discount to the deemed fair value of the common stock. Since conversion is at
the option of the holder at any time prior to maturity, the value assigned to
the BCF is immediately recorded as interest expense at the date of each
borrowing. The BCF is calculated using the intrinsic value methodology based on
the difference between the deemed fair value of the underlying common stock and
the conversion price on the Note of $2.21. The value assigned to the BCF is
limited to the amount of each borrowing. During the three month period ended
March 31, 1999, the deemed fair value of the underlying common stock at the
date of each borrowing ranged from $3.31 to $6.84 per share. For the three-
month period ended March 31, 1999, the Company has recorded $2,639,000 as
additional interest expense.
In connection with the Notes, the Company granted Kushner-Locke warrants to
purchase (1) 453,391 shares of common stock at an exercise price of $2.76 per
share and (ii) 453,391 shares of common stock at an exercise price of $3.31 per
share. The warrants are exercisable at the option of the holder between January
7, 1999 and the earlier of (i) five days prior to the pricing of the Company's
stock in connection with an initial public offering; or (ii) sale of all or
substantially all of the assets of the Company or any consolidation, merger or
reorganization, as defined; or (iii) January 7, 2009. The deemed fair value of
the warrants of $2,546,000 is recorded as additional debt issue costs and is
being amortized over the expected term of the Note of six months. For the three
month period ended March 31, 1999, total amortization of this debt issue cost
was $1,273,000.
11. Commitments And Contingencies:
Capitalized Leases
The Company has entered into capital lease agreements for their telephone
system and other office equipment.
Operating Leases
The Company leases its Beverly Hills, California headquarters under an
operating lease that expires February 14, 2001, if not renewed. The Company has
an option to renew the lease for a term of 36 months. Future minimum lease
obligations related to this lease have not been reduced by related future
minimum sublease rentals of $136,000 to be received over the term of this
lease. The Company has operating lease agreements for other office equipment.
Rent expense pertaining to all operating leases for the years ended December
31, 1996, 1997, 1998 and for the three months ended March 31, 1998 and 1999 was
approximately $167,000, $180,000, $135,000, respectively, and $34,000 and
$38,000, respectively.
F-14
<PAGE>
US SEARCH.COM INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
(All information with respect to March 31, 1998 and 1999 is unaudited)
The future minimum lease payments under capital leases and noncancellable
operating leases at December 31, 1998, are as follows:
<TABLE>
<CAPTION>
Capital Operating
Leases Leases
-------- ---------
<S> <C> <C>
1999................................................... $ 52,000 $125,000
2000................................................... 35,000 132,000
2001................................................... 16,000 14,000
Thereafter............................................. -- --
-------- --------
Total minimum obligations.............................. 103,000 $271,000
========
Less interest.......................................... (18,000)
Present value of minimum obligations................... 85,000
Less current portion................................... 40,000
--------
Non-current obligations at December 31, 1998........... $ 45,000
========
</TABLE>
Employment And Consulting Agreements
The former president and co-founder of the Company entered into a three-year
employment agreement as Founder and Chief of Technology with the Company
effective in September 1998. The employment agreement provides that following
the completion of permanent financing of at least $10,000,000 the base
compensation increases from $50,000 to $175,000 for the first year, with annual
increases of $25,000 increasing the base compensation to $225,000 for the third
year. The Company will pay the premiums on a $1,000,000 life insurance policy
for the benefit of the employee's designated beneficiaries, and key man life
insurance on the employee's life for the benefit of the Company. In addition,
the Company agreed to assume his $296,000 loan payable to an individual which
resulted in a compensation charge recorded in general and administrative
expenses in the year ended December 31, 1998 (see Note 12).
Employment Agreements
In February and March 1999, the Company entered into four employment
agreements with the new President/Chief Executive Officer and three other
officers. The agreements provide for base salaries ranging from $150,000 to
$250,000, eligibility for options, performance bonuses and severance payments.
Strategic Alliance Commitments
The Company has several cancellable and non-cancelable distribution and
marketing agreements with various Internet companies. Terms of these agreements
provide for varying levels of exclusivity and minimum and maximum fees payable
based on the number of banners, buttons and text links displayed on affiliate
web sites. At December 31, 1998 the minimum non-cancelable payments required
under these agreements are approximately $3,000,000 for the year ending
December 31, 1999, $3,000,000 for 2000, $3,000,000 for 2001, and $1,000,000 for
2002. At March 31, 1999, the minimum non-cancelable payments under these
agreements are approximately $4,381,000 for the remainder of 1999, $3,516,000
for 2000, $3,000,000 for 2001 and $1,000,000 for 2002.
Distribution and Marketing Agreements
In March 1999, the Company entered into a distribution and marketing
agreement with an Internet company. Pursuant to the agreement, which is for one
year commencing in March 1999, with a renewal option
F-15
<PAGE>
US SEARCH.COM INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
(All information with respect to March 31, 1998 and 1999 is unaudited)
of one additional year, the Company will be the exclusive public records
reseller on the Internet company's network. For the first year of the
agreement, the Company will pay $2,525,000 for a guaranteed number of
impressions. The payment for the second year will be based on the number of
impressions as agreed upon between the parties. The agreement can be terminated
in certain instances, including, if the parties cannot agree on the number of
impressions for the second year of the contract.
Litigation
From time to time, the Company has been party to various litigation and
administrative proceedings relating to claims arising in the normal course of
business. Management believes that the resolution of these matters will not
have a material adverse effect on the Company's financial position, results of
operations or cash flows.
12. Related Parties:
Related-Party Transactions
On November 21, 1997, Kushner-Locke acquired 80% of the outstanding shares
of the Company in exchange for $100 and the indemnification of various
liabilities not to exceed $670,000.
From May 1997 to October 1997, Peter Locke (co-chairman of the Company and
Kushner-Locke) personally loaned to the Company amounts aggregating
approximately $397,000 (gross of any repayments which occurred during such
period). The loans with interest at 10% per annum were repaid in full. In
addition, the Company paid approximately $40,000 in consulting fees and
interest to Mr. Locke for services rendered through December 31, 1997.
From November 1997 to December 1998, Kushner-Locke advanced funds to the
Company of approximately $2,093,000, net of repayments. As of December 31,
1998, advanced funds net of repayments, expenses paid by Kushner-Locke on the
Company's behalf, interest and administrative services were approximately
$2,093,000, $63,000, $84,000 and $300,000, respectively, of the $2,540,000
notes due Kushner-Locke. For the three month period ended March 31, 1999,
Kushner-Locke advanced $2,300,000 under the convertible subordinated note
agreement. As of March 31, 1999, advanced funds net of repayments, interest,
debt issue costs, out of pocket expenses paid by Kushner-Locke on the Company's
behalf and administrative services were approximately $4,393,000 (including
$3.5 million under the convertible subordinated note), $178,000, $550,000,
$95,000 and $405,000, of the $5,621,000 notes due to Kushner-Locke.
The Company loaned approximately $41,000 in 1995, $176,000 in 1996 and
$32,000 in 1997, to an existing stockholder and co-founder (the "Stockholder").
The Company received repayments of approximately $5,000 in 1995 and $3,000 in
1996 from Stockholder. In June 1997, the Stockholder personally assumed the
Company's obligations under a $296,000 promissory note payable to a former
stockholder (the "Related Loan"). In consideration of the Stockholder's
assumption of the Company's obligations under the Stockholder Loan, the prior
outstanding amounts loaned to this Stockholder were repaid in full and an
amount payable to Stockholder was established to the extent the assumption of
the Related Loan exceeded loans made to the Stockholder. In September 1998, in
connection with the Company's amended and restated employment agreement with
the Stockholder, the Company agreed to assume the Stockholder's obligations on
the Related Loan. The assumption resulted in a $296,000 compensation charge
recorded in general and administrative expenses in the year ended December 31,
1998. As of December 31, 1998 and March 31, 1999, the Company owed the
Stockholder approximately $42,000, bearing no interest and payable in 38 equal
monthly installments of approximately $1,100.
The Company borrowed approximately $70,000 in 1995, $143,000 in 1996 and
$22,000 in 1997 from a former stockholder/executive officer. The Company repaid
approximately $24,000 in 1995, $108,000 in 1996,
F-16
<PAGE>
US SEARCH.COM INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
(All information with respect to March 31, 1998 and 1999 is unaudited)
$32,000 in 1997 and $3,000 in 1998. As of December 31, 1998 and March 31, 1999
the Company owed approximately $68,000 and $56,000, respectively. The Company
entered into a 24 month consulting agreement with this former stockholder
providing for payment of $2,000 per month. The agreement provides for 10 hours
of consulting services to the Company per week and expires December 1999.
An affiliate of a former stockholder/executive officer of the Company lent
to the Company $50,000 in December 1996 and $50,000 in May 1997, bearing
interest at 20% per annum and payable in six monthly installments of $10,000
each (including interest). The Company subsequently defaulted in its
obligations under these notes. On January 2, 1998, the notes were restructured
providing for the payment of $120,000, including all past and future interest,
in 36 equal monthly installments of approximately $3,333 each, beginning on
January 15, 1998, and guaranteed by Kushner-Locke. As of December 31, 1998 and
March 31, 1999, the Company owed approximately $70,000 and $63,000,
respectively, under this note.
Related-Party Guarantees
In June 1998, the Company became a guarantor of Kushner-Locke's $60,000,000
Credit, Security, Guaranty, and Pledge Agreement ("credit facility") with The
Chase Manhattan Bank ("Chase"). In connection with the credit facility, the
Company granted to Chase a security interest in all the assets of the Company.
Chase was also granted a security interest in the common stock of the Company
held by Kushner-Locke. The credit facility was amended in May 1999 to release
the Company from its obligations under this credit facility and to release the
common stock of the Company held by Kushner-Locke and the assets of the Company
from the security interest. This release is effective upon the registration
statement relating to the proposed IPO being declared effective by the
Securities and Exchange Commission.
Kushner-Locke is a guarantor of certain related-party notes payable of
$120,000, advertising and media buying obligations of $1,334,000 and a
distribution and marketing agreement with Infospace of $4,500,000. As of
December 31, 1998, the Company's obligations on the related-party note was
$70,000, the media buying obligations was $1,026,000, and the Infospace
agreement was $4,092,000. As of March 31, 1999, the Company's obligations on
the related-party note was $63,000, the advertising and media buying
obligations was $801,000 and the Infospace Agreement was $3,452,000.
A former stockholder of the Company has guaranteed various computer and
office equipment lease obligations of the Company.
Administrative Services Agreement
Effective July 1998, the Company entered into an Administrative Services
Agreement with Kushner-Locke, whereby Kushner-Locke will provide administrative
services to US SEARCH, including human resources, legal services, accounting
services and management services, as well as executive services, through June
1999. In connection with this agreement, the Company agreed to pay to Kushner-
Locke a monthly fee of $35,000, which may be decreased in various
circumstances. Approximately $210,000 were billed to the Company under this
agreement for the year ended December 31, 1998. Approximately $90,000 was
billed to the Company in connection with services rendered by Kushner-Locke
prior to entering into the Administrative Services Agreement. As a result, a
total of approximately $300,000 was billed to the Company in connection with
services rendered by Kushner-Locke in 1998. For the three month period ended
March 31, 1999, $105,000 was billed to the Company under the Administrative
Services Agreement.
F-17
<PAGE>
US SEARCH.COM INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
(All information with respect to March 31, 1998 and 1999 is unaudited)
13. Stock Options And Warrants:
Stock Incentive Plan
In July 1998, the Board adopted, and the stockholders of the Company
subsequently approved, the 1998 Stock Incentive Plan (the "1998 Plan") in
order to attract and retain employees (including officers and employee
directors), directors and independent contractors, and consultants to the
Company. An aggregate of 2,600,650 shares of common stock, subject to
adjustment for stock splits, stock dividends and similar events, has been
authorized for issuance upon exercise of options, stock appreciation rights
("SARs"), restricted stock awards ("restricted awards"), and performance share
awards ("performance awards").
The 1998 Plan provides for the issuance of nonqualified and incentive stock
options to employees, (including officers and employee directors), directors
and independent contractors, and consultants to the Company. Incentive stock
options may not be granted at less than 100% of the fair market value of the
Company's common stock on the date of grant (110% if granted to an employee
who owns 10% or more of the common stock). Options vest in accordance with the
award agreement and generally expire 10 years after the award date (5 years if
granted to an employee who owns 10% or more of the common stock).
The 1998 Plan provides for the issuance of SARs concurrently or
independently with the grant of options. SARs granted concurrently with an
option vest according to the option terms. SARs granted independently of any
option vest according to the award agreement.
The 1998 Plan provides for the issuance of restricted awards or performance
awards. Participants of restricted awards are entitled to receive dividends
and vote whether or not vested. Restricted awards are nontransferable until
vested and the terms of the restricted awards are determined on the grant
date. The terms of performance awards are determined at the date of grant.
In the event a holder of an option, SAR, restricted award, or performance
award ceases to be employed by the Company: all unvested options and SARs are
forfeited, all vested options and SARs may be exercised within a period not to
exceed 12 months, all vested SARs granted independently of options are
exercisable in accordance with the award agreement, all unvested restricted
and performance awards are forfeited, and all vested restricted and
performance awards are exercisable in accordance with the award agreement.
Non-Employee Directors' Stock Option Plan
In February 1999, the Company adopted the 1999 Non-Employee Directors'
Stock Option Plan and reserved 317,373 shares of common stock for issuance
thereunder. Under the plan each non-employee director is granted 35,364 shares
of common stock on the date of initial appointment to the board of directors.
Additionally, each non-employee director will receive an additional grant of
9,067 shares of common stock annually which will be pro rated if the non-
employee director has not served for the entire preceding period.
The options are granted at 100% of fair market value on the date of grant
and have a ten year term. The options vest as follows: initial appointment
grants vest 1/3rd of the shares on each anniversary from the date of grant and
the annual grants vest 1/12th of the shares each month for 12 months after the
date of grant. In the event the services of the holder are terminated, the
holder may only exercise vested options at the date of termination within the
earlier of 12 months from termination (18 months if termination as a result of
the options holder's death) or the expiration of the term of the option.
As of March 31, 1999 176,820 shares have been issued, which are included in
the summary table below.
Options
No stock options were granted as of December 31, 1998.
F-18
<PAGE>
US SEARCH.COM INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
(All information with respect to March 31, 1998 and 1999 is unaudited)
A summary of the changes in the Company's stock options for the three month
period ended March 31, 1999 is presented below:
<TABLE>
<CAPTION>
Weighted-
Average
Shares Exercise Price
--------- --------------
<S> <C> <C>
Outstanding at December 31, 1998.................. -- $ --
Granted........................................... 1,459,914 $4.23
--------- -----
Outstanding at March 31, 1999..................... 1,459,914 $4.23
========= =====
Options exercisable at March 31, 1999............. 189,820
Options available for future grant................ 1,458,109
</TABLE>
The following table summarizes information about stock options outstanding
at March 31, 1999:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
--------------------------------- ---------------------
Weighted-
Average
Remaining Weighted- Weighted-
Contractual Average Average
Number Life Exercise Number Exercise
Range of exercise prices Outstanding (years) Price Outstanding Price
------------------------ ----------- ----------- --------- ----------- ---------
<S> <C> <C> <C> <C> <C>
$3.10................ 569,459 9.78 $3.10 189,820 $3.10
$4.45................ 528,650 9.92 $4.45 -- --
$5.69................ 361,805 9.99 $5.69 -- --
--------- -------
1,459,914 189,820
========= =======
</TABLE>
Unearned stock-based compensation
In connection with its grants of options, the Company recorded unearned
deferred compensation expense of $3,225,000 during the three months ended March
31, 1999. This amount will be amortized over the vesting period ranging from 24
to 48 months from the date of grant; $876,000 was expensed during the three
month period ended March 31, 1999.
Fair Value Disclosures
The Company calculated the minimum fair value of each option grant on the
date of grant using the Black-Scholes option pricing model as prescribed by
SFAS No. 123 under the following assumptions: 5.0% risk free rate, two to four
year expected lives, 0% dividend yield, deemed fair value underlying the common
stock ranging from $3.31 to $6.84 per share and expected volatility of 80%.
The compensation cost associated with the Company's stock based compensation
plans, determined using the minimum value method prescribed by SFAS No. 123 did
not result in a material difference from the reported net loss for the three
month period ended March 31, 1999.
Warrants
In September 1998, the Company granted to Kushner-Locke warrants to purchase
453,391 shares of the Company's common stock at an aggregate exercise price of
$5.00. The warrants were issued principally in consideration for Kushner-
Locke's provision of certain guarantees on behalf of the Company, advances of
capital to the Company and provision of administrative services during the
third quarter of 1998. The warrants are exercisable between September 14, 1998,
and the earlier of (i) five days prior to the pricing of the
F-19
<PAGE>
US SEARCH.COM INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
(All information with respect to March 31, 1998 and 1999 is unaudited)
Company's stock in connection with an initial public offering; or (ii) sale of
all or substantially all of the assets of the Company, or any consolidation,
merger or reorganization, as defined; or (iii) September 14, 2008. The warrants
will expire the earlier of the consummation of an initial public offering, an
acquisition or September 14, 2008. In September 1998, the Company recorded a
charge of $1,190,000, representing the deemed fair value of the warrants at the
date of grant using the Black-Scholes option pricing model. The principal
assumptions used in the computation are: volatility of 80%, 10 year term,
dividend yield of 0%, deemed fair value at the date of issuance of $2.63 per
share and risk-free rate of 5%.
In January 1999, in connection with the convertible subordinated note, the
Company granted Kushner-Locke warrants to purchase (i) 453,391 shares of common
stock at an exercise price of $2.76 per share and (ii) 453,391 shares of common
stock at an exercise price of $3.31 per share of common stock. The warrants are
exercisable at the option of the holder between January 7, 1999 and the earlier
of (i) five days prior to the pricing of the Company's stock in connection with
an initial public offering; or (ii) sale of all or substantially all of the
assets of the Company or any consolidation, merger or reorganization, as
defined; or (iii) January 7, 2009. The warrants will expire the earlier of
January 7, 2009, the consummation of an initial public offering or the
consummation of an acquisition. During the first and second quarter of 1999,
the Company will incur a charge in the aggregate amount of $2,546,000
representing the deemed fair value of the warrants at the date of grant using
the Black-Scholes option pricing model. The principal assumptions used in the
computation are: volatility of 80%, 10 year term, dividend yield of 0%, deemed
fair value at the date of issuance of $3.31 per share and risk free rate of 5%.
The charge for these warrants is recorded as additional debt issue costs and is
being amortized over the expected term of the subordinated convertible note of
six months.
14. Income Taxes:
Prior to November 22, 1997 (termination of the S Corporation election), the
Company elected to file its income tax returns under the S Corporation
provisions of the Internal Revenue Code and for California Franchise tax
purposes. In accordance with the Federal income tax provisions, corporate
earnings flow to, and are taxed solely at, the stockholder level. Under the
provisions of the California Franchise tax law, S Corporation earnings are
subject to a reduced state income tax rate (minimum $800) with the remainder
taxed at the individual shareholder level.
The provision for income taxes reflects the minimum California Franchise tax
for 1996, 1997 and 1998. From the date the Company was founded until November
21, 1997, the Company operated as an S Corporation.
Since November 22, 1997, the Company has been subject to corporate taxation
as a C Corporation. For the period of November 22, 1997 through December 31,
1998, the Company had a net operating loss.
F-20
<PAGE>
US SEARCH.COM INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
(All information with respect to March 31, 1998 and 1999 is unaudited)
Deferred taxes reflect the net tax effects of temporary differences between
the carrying amounts of assets and liabilities for financial reporting purposes
and the amounts used for income tax purposes. Significant components of the
Company's deferred taxes consisted of the following at December 31, 1997 and
1998:
<TABLE>
<CAPTION>
December 31,
----------------------
1997 1998
--------- -----------
<S> <C> <C>
Deferred tax assets:
Net operating loss carryforwards................... $ 38,000 $ 1,375,000
Allowance for doubtful accounts.................... 74,000 26,000
Accounts payable and accrued liabilities........... 634,000 2,001,000
--------- -----------
Total deferred tax assets........................ 746,000 3,402,000
Less, Valuation allowance.......................... (661,000) (3,343,000)
--------- -----------
Net deferred tax assets.......................... 85,000 59,000
Deferred tax liabilities:
Other.............................................. (76,000) (59,000)
Depreciation and amortization...................... (9,000) --
--------- -----------
Net deferred tax liabilities..................... (85,000) (59,000)
--------- -----------
Net deferred tax................................. $ -- $ --
========= ===========
</TABLE>
In assessing the realizability of deferred tax assets, management considers
whether it is more likely than not that some portion or all of the deferred tax
assets will be realized. Based upon the level of historical losses and
projections of future taxable income over the periods in which the deferred tax
assets are deductible, a full valuation allowance has been provided as
management believes that it is more likely than not based upon available
evidence that the deferred tax assets will not be realized.
As of December 31, 1998, the Company has federal and state net operating
loss carryforwards of approximately $3,464,000 and $3,536,000, respectively.
The federal net operating loss carryforwards will begin to expire in 2017, and
the state net operating loss carryforwards will begin to expire in 2002. The
Company's ability to utilize net operating loss carryforwards may be limited in
the event that a change in ownership, as defined in the Internal Revenue Code,
occurs in the future.
The Company's effective tax rate for the fiscal year ended December 31, 1997
and 1998 differ from the statutory federal income tax rate as follows:
<TABLE>
<CAPTION>
1997 1998
----- -----
<S> <C> <C>
Tax provision at the statutory rate............................ (34%) (34%)
State taxes, net of federal benefit............................ -- (6%)
Net operating loss benefit..................................... 34% 40%
----- -----
-- --
===== =====
</TABLE>
F-21
<PAGE>
US SEARCH.COM INC.
NOTES TO FINANCIAL STATEMENTS--(Continued)
(All information with respect to March 31, 1998 and 1999 is unaudited)
15. Supplemental Cash Flow Disclosure:
Supplemental cash flow disclosure is comprised of:
<TABLE>
<CAPTION>
1996 1997 1998
------- -------- --------
<S> <C> <C> <C>
Cash paid during the year for:
Interest...................................... $62,000 $106,000 $195,000
Income taxes.................................. 1,000 1,000 1,000
</TABLE>
Capital lease obligations of $159,000, $1,900, and $30,000 were incurred
during the years ended December 31, 1996, 1997 and 1998, respectively, for the
purchase of property and equipment (see Note 7).
During the year ended December 31, 1997, a stockholder loan from the Company
in the amount of $234,000 was extinguished through his personal assumption of a
$296,000 notes payable of the Company. In the year ended December 31, 1998, the
Company re-assumed the debt from the stockholder (see Note 12).
Trade accounts payable in the amount of $637,000 were converted to notes
payable in the year ended December 31, 1998.
16. Subsequent Events (unaudited):
In June 1999, the Company entered into a marketing agreement with Yahoo!
Inc. Under this agreement, Yahoo! agreed to integrate the Company's search
services into its Yahoo People Search Web site. The term of the agreement
expires on January 31, 2001. Under this agreement, the Company is obligated to
pay approximately $9.2 million over the term, approximately $2.0 million of
which will be paid within five days after the closing of the initial public
offering.
F-22
<PAGE>
Key Internet Advertising Agreements
We maintain key advertising agreements with the following Internet search
engines and popular Web sites: Infospace.com, The Lycos Network, Go
Network/InfoSeek.com and Snap.com. Clients can directly access our Web site
through banners, text links and co-branded areas placed in the White Pages,
People Finder, and People & Business Finder sections of these Web sites.
[Logos of Lycos, InfoSpace.com, Go Network, and Snap.com]
[Screen shot/illustration of the home page of our Web site, 1800USSEARCH.com]
<PAGE>
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
You should rely only on the information contained in this prospectus. We have
not authorized anyone to provide you with information different from that con-
tained in this prospectus. We are offering to sell, and seeking offers to buy,
shares of common stock only in jurisdictions where offers and sales are per-
mitted. The information contained in this prospectus is accurate only as of
the date of this prospectus, regardless of the time of delivery of this pro-
spectus or of any sale of the common stock. In this prospectus, references to
"US SEARCH," "we," "us," and "our" refer to US SEARCH.com Inc., including its
predecessor.
---------------------
TABLE OF CONTENTS
---------------------
<TABLE>
<CAPTION>
Page
----
<S> <C>
Prospectus Summary....................................................... 1
Risk Factors............................................................. 5
Use of Proceeds.......................................................... 16
Dividend Policy.......................................................... 16
Capitalization........................................................... 17
Dilution................................................................. 18
Selected Financial Information........................................... 19
Management's Discussion and Analysis of Financial Condition and Results
of Operations........................................................... 20
Business................................................................. 31
Management............................................................... 43
Certain Relationships and Related Transactions........................... 52
Principal and Selling Stockholders....................................... 56
Description of Capital Stock............................................. 57
Shares Eligible for Future Sale.......................................... 59
Underwriting............................................................. 61
Legal Matters............................................................ 63
Experts.................................................................. 63
Additional Information................................................... 63
Index to Financial Statements............................................ F-1
</TABLE>
----------------
Until July 20, 1999 (25 days after the date of this Prospectus), all dealers
effecting transactions in the Common Stock, whether or not participating in
this offering, may be required to deliver a prospectus. This is in addition to
the obligation of dealers to deliver a prospectus when acting as underwriters
and with respect to their unsold allotments or subscriptions.
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
6,000,000 Shares
[LOGO OF US SEARCH.COM]
Common Stock
------------
PROSPECTUS
------------
Bear, Stearns & Co. Inc.
BancBoston Robertson Stephens
Wit Capital Corporation
June 25, 1999
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
