UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1999
-----------------
Commission file number 000-25831
NetWolves Corporation
(Exact name of registrant as specified in its charter)
New York 11-3439392
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
200 Broadhollow Road, Melville, New York 11747
(Address of principal executive offices)
(516) 393-5016
(Registrant's telephone number, including area code)
None
(Former name,former address and former fiscal year,if changed since last report)
Indicate by checkmark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X * No
----
Indicate the number of shares outstanding of each of issuer's classes of common
stock as of the latest practicable date:
<TABLE>
<CAPTION>
NUMBER OF SHARES OUTSTANDING ON
TITLE OF CLASS November 19, 1999
- ------------------------------ -------------------------------
<S> <C>
Common Stock, $.0033 par value 6,346,370
---------
</TABLE>
Registrant became subject to the filing requirements of the Securities Exchange
Act of 1934 on April 20, 1999, when it filed a Registration Statement on Form
10.
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
FORM 10-Q - SEPTEMBER 30, 1999
INDEX
PART I - FINANCIAL INFORMATION
ITEM 1 - FINANCIAL STATEMENTS
CONSOLIDATED BALANCE SHEETS
September 30, 1999 and June 30, 1999................................. 1
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND
COMPREHENSIVE INCOME (LOSS)
For the three months ended September 30, 1999 and September 30, 1998. 2
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
For the three months ended September 30, 1999 and September 30, 1998. 3
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS................... 4-10
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS........................... 11-13
ITEM 3 QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK...... 13
PART II - OTHER INFORMATION
ITEM 1 - LEGAL PROCEEDINGS............................................. 14
ITEM 2 CHANGES IN SECURITIES AND USE OF PROCEEDS...................... 14
ITEM 3 DEFAULTS UPON SENIOR SECURITIES................................ 14
ITEM 4 SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS............ 14
ITEM 5 OTHER INFORMATION.............................................. 14
ITEM 6 - EXHIBITS AND REPORTS ON FORM 8-K.............................. 14
SIGNATURES................................................................ 15
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
September 30, June 30,
1999 1999
------------- --------
(Unaudited)
<S> <C> <C>
ASSETS
Current assets
Cash and cash equivalents $ 5,376,269 $ 5,585,981
Marketable securities, available for sale,
at market value 527,500 606,000
Accounts receivable, net of allowance of $40,000 87,429 76,907
Inventories 64,790 118,354
Prepaid expenses and other current assets 171,760 153,099
----------- -----------
Total current assets 6,227,748 6,540,341
----------- -----------
Property and equipment, net 278,560 224,691
Intangible assets, net 2,732,893 2,849,121
Other assets 26,181 22,781
----------- -----------
$ 9,265,382 $ 9,636,934
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities
Accounts payable and accrued expenses $ 530,987 $ 453,336
Deferred compensation 100,000 100,000
Loans and advances from TSG officer 37,203 144,348
Current maturities of long-term debt 44,616 43,411
----------- -----------
Total current liabilities 712,806 741,095
Long term debt, net of current maturities 254,921 266,537
----------- -----------
Total liabilities 967,727 1,007,632
----------- -----------
Minority interest 265,450 274,500
Commitment and contingencies
Shareholders' equity
Common stock, $.0033 par value; 10,000,000 shares
authorized; issued and outstanding;
6,163,870 on September 30, 1999 20,341 20,011
and 6,063,870 on June 30, 1999
Additional paid-in capital 18,170,607 14,013,687
Unamortized value of warrant grants (1,606,406) -
Accumulated deficit (8,849,682) (6,054,741)
Accumulated other comprehensive income 297,345 375,845
----------- -----------
Total shareholders' equity 8,032,205 8,354,802
----------- -----------
$ 9,265,382 $ 9,636,934
=========== ===========
<FN>
See notes to condensed consolidated financial statements 1
</FN>
</TABLE>
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
AND COMPREHENSIVE INCOME (LOSS)
(Unaudited)
<TABLE>
<CAPTION>
For the three months ended
September 30,
--------------------------
1999 1998
----------- -----------
<S> <C> <C>
Sales $ 137,951 $ 44,753
Cost of sales 96,169 16,299
----------- -----------
Gross profit 41,782 28,454
----------- -----------
Operating expenses
General and administrative 2,085,287 707,574
Research and development 184,718 13,104
Sales and marketing 606,007 905,062
----------- -----------
2,876,012 1,625,740
----------- -----------
Loss before other income (expense) (2,834,230) (1,597,286)
Other income (expense)
Investment income 45,730 15,716
Minority interest 4,050 -
Interest expense (10,491) -
----------- -----------
Net loss (2,794,941) (1,581,570)
Other comprehensive income (loss):
Marketable securities valuation adjustment 78,500 (41,186)
----------- -----------
Comprehensive income (loss) $(2,716,441) $(1,622,756)
=========== ===========
Basic and diluted net loss per share $ (.46) $ (.37)
=========== ===========
Weighted average common
shares outstanding 6,068,218 4,313,870
=========== ===========
<FN>
See notes to condensed consolidated financial statements 2
</FN>
</TABLE>
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
<TABLE>
<CAPTION>
For the three months ended
September 30,
--------------------------
1999 1998
----------- -----------
<S> <C> <C>
INCREASE (DECREASE) IN CASH AND
CASH EQUIVALENTS
Cash flows from operating activities
Net loss $(2,794,941) $(1,581,570)
Adjustments to reconcile net loss to net cash used
in operating activities
Depreciation and amortization 130,937 3,541
Noncash charge to operations with respect to
common stock and warrants issued for services 1,155,844 1,022,156
Minority interest (9,050) -
Changes in operating assets and liabilities
Accounts receivable (10,522) (44,809)
Inventories 53,564 (127,931)
Other assets - 993
Prepaid expenses and other current assets (73,661) -
Accounts payable and accrued expenses 77,651 78,900
----------- -----------
Net cash used in operating activities (1,470,178) (648,720)
----------- -----------
Cash flows from investing activities
Purchase of marketable securities - (3,034)
Proceeds from assets held for sale, net - 40,764
Issuance of note receivable (50,000) -
Purchase of property and equipment (68,578) (34,753)
Payments of security deposits (3,400) (4,211)
----------- -----------
Net cash used in investing activities (121,978) (1,234)
----------- -----------
Cash flows from financing activities
Repayment of advances from TSG officer (107,145) -
Repayment of long term debt (10,411) -
Cash proceeds from private sale of common stock 1,500,000 -
----------- -----------
Net cash provided by financing activities 1,382,444 -
----------- -----------
Net decrease in cash and cash equivalents (209,712) (649,954)
Cash and cash equivalents, beginning of period 5,585,981 1,118,416
----------- -----------
Cash and cash equivalents, end of period $ 5,376,269 $ 468,462
=========== ===========
<FN>
See notes to condensed consolidated financial statements 3
</FN>
</TABLE>
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
THREE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
1 Interim financial information
The summary financial information contained herein is unaudited; however,
in the opinion of management, all adjustments (consisting only of normal
recurring accruals) necessary for a fair presentation of such financial
information have been included. The accompanying condensed consolidated
financial statements, footnotes and discussions of NetWolves Corporation
("NetWolves" or the "Company") should be read in conjunction with the
Company's consolidated financial statements, and notes thereto, for the
year ended June 30, 1999 and the period from February 13, 1998 (inception)
to June 30, 1998. The results of operations for the three months ended
September 30, 1999 are not necessarily indicative of the results to be
expected for the full year.
2 The Company
NetWolves, LLC was an Ohio limited liability company formed on February 13,
1998, which was merged into Watchdog Patrols, Inc. ("Watchdog") on June 17,
1998. Watchdog, the legal surviving entity of the merger was incorporated
under the laws of the State of New York on January 5, 1970. As a result of
the merger and subsequent sale of Watchdog's business, Watchdog changed its
name to NetWolves Corporation.
NetWolves is an Internet systems developer that has designed and developed
a multi-functional product that is a secure, integrated, modular Internet
gateway. The primary product, the FoxBox, supports secure access to the
Internet for multiple users through a single connection and, among other
things, provides electronic mail, firewall security and web site hosting
and also contains a network file server. Since inception, the Company has
been developing its business plan and building its infrastructure in order
to effectively market its products and shipped its first significant order
in March 1999.
Additionally, in conjunction with the acquisition of Sales and Management
Consulting, Inc. (d/b/a The Sullivan Group, see Note 4), the Company
provides consulting, educational and training services primarily to the oil
and gas and automotive industries throughout the United States.
3 Significant accounting policies
Use of estimates
In preparing condensed consolidated financial statements in conformity with
generally accepted accounting principles, management makes estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosures of contingent assets and liabilities at the date of the
condensed consolidated financial statements, as well as the reported
amounts of revenue and expenses during the reporting period. Actual results
could differ from those estimates.
Risks and other factors
As a company that has developed a software product for use as a
multi-functional Internet communications device, NetWolves faces certain
risks. These include, among other items, the ability to continue to
implement its business plan, dependence on proprietary technology, rapid
technological change, challenges in recruiting personal and a highly
competitive market place.
4
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
THREE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
3 Significant accounting policies (continued)
Principles of consolidation
The condensed consolidated financial statements include the accounts of the
Company and its subsidiaries. All significant intercompany transactions and
balances have been eliminated in consolidation. The separate ownership of
one of the Company's subsidiaries is reflected in the Company's condensed
consolidated financial statements as minority interest (Note 4). The
minority interest includes common stock representing 1.7% of the
outstanding shares of the subsidiary, plus preferred stock.
The subsidiary has issued 250,000 shares of non-voting Series A Cumulative
Convertible Preferred Stock with a $1 par value. The preferred stockholder
is entitled to preferential liquidation rights and is also entitled to
cumulative dividends that are included in minority interest expense and
accrue at the rate of 8% per annum, which commenced on June 30, 1999. On or
after January 1, 2000, the preferred stockholder may elect to convert the
preferred stock into NetWolves common stock (at fair market value at the
time of conversion). However, within 15 days of receiving the conversion
notice, NetWolves may elect to make a cash redemption of the preferred
stock at par value (including any unpaid cumulative dividends) and thereby
terminate the conversion right.
Revenue recognition
The Company records revenue in accordance with Statement of Position 97-2
"Software Revenue Recognition" ("SOP 97-2"), issued by the American
Institute of Certified Public Accountants (as modified by Statement of
Position 98-9). SOP 97-2 provides additional guidance with respect to
multiple element arrangements; returns, exchanges, and platform transfer
rights; resellers; services; funded software development arrangements; and
contract accounting. Accordingly, revenue from the sale of perpetual and
term software licenses are recognized, net of provisions for returns, at
the time of delivery and acceptance of software products by the customer,
when the fee is fixed and determinable and collectibility is probable.
Maintenance revenue that is bundled with an initial license fee is deferred
and recognized ratably over the maintenance period. Amounts deferred for
maintenance are based on the fair value of equivalent maintenance services
sold separately.
The Company recognizes revenue from consulting and training fees when the
services are provided.
Basic and diluted net loss per share
The Company displays earnings per share in accordance with Statement of
Financial Accounting Standards No.128, "Earnings Per Share" ("SFAS 128").
SFAS 128 requires dual presentation of basic and diluted earnings per
share. Basic earnings per share includes no dilution and is computed by
dividing net income (loss) available to common shareholders by the weighted
average number of common shares outstanding for the period. Diluted
earnings per share includes the potential dilution that could occur if
securities or other contracts to issue common stock were exercised or
converted into common stock.
5
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
THREE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
3 Significant accounting policies (continued)
Basic and diluted net loss per share (continued)
Outstanding stock options and warrants have not been considered in the
computation of diluted per share amounts, since the effect of their
inclusion would be antidilutive. Accordingly, basic and diluted earnings
per share amounts are identical.
Intangible assets
Intangible assets at September 30, 1999 consist of $2,849,121 of intangible
assets acquired in connection with the Company's purchase business
combination effective June 30, 1999 (Note 4). These assets include a
training library, industry benchmarking data and the Profit Coach
profitability analysis module with a fair value of $400,000, $100,000 and
$500,000, respectively. The estimated useful lives of such assets are 5
years, 1 year and 5 years, respectively. The remaining portion of the
intangible asset is allocated to goodwill, which will be amortized over an
estimated useful life of 10 years.
4 Purchase acquisition
On July 7, 1999, NetWolves and Sales and Management Consulting, Inc. (d/b/a
The Sullivan Group) ("SMCI") executed a merger agreement (the "Merger")
pursuant to which NetWolves acquired the outstanding capital stock of SMCI.
Under the terms of the Merger, TSG Global Education Web, Inc. ("TSG") (a
subsidiary of NetWolves), with 4,150,000 shares of common stock
outstanding, purchased all of the outstanding shares of SMCI's common stock
in exchange for 180,000 shares of NetWolves' restricted common stock. The
shareholders are restricted from selling, transferring or pledging such
shares for an eighteen-month period. Upon consummation of the Merger SMCI
merged into TSG and TSG was the surviving entity.
Concurrent with the Merger, the shareholders of SMCI purchased 70,000
shares of TSG common stock at $.35 per share for aggregate cash proceeds of
$24,500. This represents 1.7% of the outstanding common stock of TSG.
Additionally, TSG issued 250,000 shares of TSG Series A Cumulative (8%)
Convertible Preferred Stock to one of the SMCI shareholders, which was
issued in partial settlement of outstanding liabilities owed to the
shareholder. This TSG common and preferred stock has been reflected as
minority interest in the accompanying consolidated financial statements.
The purchase price approximated $1,350,000 (exclusive of acquisition costs
of $82,875), which consisted of 180,000 shares of NetWolves restricted
common stock valued at $7.50 per share (fair value of the common stock was
based upon the gross sales price received by NetWolves in a private
placement that was completed on June 29, 1999). The acquisition has been
accounted for with an effective date of June 30, 1999 using the purchase
method of accounting. Accordingly, assets and liabilities were recorded at
their fair values as of June 30, 1999, and operations of SMCI have been
included in the Company's condensed consolidated statements of operations
commencing July 1, 1999.
6
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
THREE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
4 Purchase acquisition (continued)
An allocation of the fair value of the assets acquired and liabilities
assumed at June 30, 1999 is as follows:
<TABLE>
<CAPTION>
<S> <C>
Purchase price
NetWolves common stock issued $ 1,350,000
Acquisition costs 82,875
-----------
$ 1,432,875
===========
Allocation of purchase price
Fair value of tangible assets and liabilities
Current assets $ 70,221
Non-current assets 35,255
Current liabilities (443,909)
Non-current liabilities (266,537)
Advances to TSG, net of cash acquired of $412,224 (536,776)
-----------
(1,141,746)
-----------
Minority interest
Common stock (24,500)
Preferred stock (250,000)
-----------
(274,500)
-----------
Intangible assets acquired 2,849,121
-----------
$ 1,432,875
===========
</TABLE>
At the time of the Merger and in accordance with TSG's newly formed stock
option plan, the SMCI shareholders (who are all employees of TSG) received
605,000 five-year options to purchase TSG common stock at an exercise price
of $.35 per share. Management has determined that the exercise price
approximates the estimated fair value of the TSG common stock and
accordingly, the options have an intrinsic value of zero. Additionally, the
SMCI shareholders are entitled to an additional 175,000 options to purchase
TSG common stock (with an exercise price at fair value at the time of
grant), subject to TSG meeting specific earnings targets over the three
years ending June 30, 2000, 2001 and 2002. These options will be accounted
for as compensation expense in accordance with Accounting Principles Board
Opinion No. 25, "Accounting for Stock Issued to Employees" in such future
periods. All of the shareholders of SMCI entered into 5-year employment
agreements with TSG.
The Merger also provides for NetWolves to make up to $4,750,000 of
non-interest bearing open account working capital advances to TSG pursuant
to an agreed upon schedule through November 15, 1999. Through September 30,
1999, $2,600,000 has been advanced and an additional $850,000 has been
advanced from October 1, 1999 through November 10, 1999. Should NetWolves
decide not to make further working capital advances, the number of TSG
shares owned by NetWolves will be reduced in accordance with the agreement.
7
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
THREE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
4 Purchase acquisition (continued)
Based upon the $3,450,000 advanced through November 10, 1999 (should
NetWolves decide not to make any further advances), NetWolves could be
required to return 400,000 TSG shares to the treasury of TSG. This would
reduce NetWolves' current ownership interest from 4,150,000 shares to
3,750,000 (from 98.34% to 98.17%). Subject to NetWolves' first refusal
rights, TSG has the right to sell any shares, ultimately returned by
NetWolves, to third parties at fair value, which could further reduce
NetWolves' ownership interest.
In accordance with the Merger, the Board of Directors of TSG consists of
three members designated by NetWolves and two members designated by the
SMCI shareholders. A four-fifths majority of the TSG Board is required for
specified significant actions including: sale or merger of the business,
changes to the TSG capital structure, declaration of dividends and
repayment of the working capital advances made by NetWolves. A simple
majority of the TSG Board is required for all general operating matters.
Included in the consolidated entity's cash and cash equivalents balance at
September 30, 1999 is approximately $1,300,000 of cash held by TSG to be
used for working capital purposes.
5 Shareholders' equity
Common stock issuances
On September 29, 1999, the Company sold 100,000 shares of unregistered
common stock to an accredited investor at $15 per share (a total of
$1,500,000) exclusive of commissions totaling $105,000.
Warrants
* On July 26, 1999 and in connection with the Company entering into an
agreement with Comdisco, Inc. ("Comdisco"), Comdisco was granted a
five-year warrant to purchase 125,000 shares of the Company's
unregistered common stock, at an exercise price of $10 per share. The
warrants are immediately exercisable. The value of the warrants of
approximately $1,676,000 will be amortized over the initial term of
the agreement (four years) and has been calculated using the
Black-Scholes option-pricing model with the following assumptions: no
dividend yield, expected volatility of 65%, risk-free interest rate of
5.84%, and an expected term of five years.
* For services rendered, on July 31, 1999, a financial consultant of the
Company was granted a five-year warrant to purchase 100,000 shares of
common stock, at an exercise price of $12 per share. The warrants are
immediately exercisable and the shares issuable pursuant to the
warrants have piggyback registration rights. The value of the warrants
of $768,000 has been calculated using the Black-Scholes option-pricing
model with the following assumptions: no dividend yield, expected
volatility of 65%, risk-free interest rate of 5.84%, and an expected
term of five years.
8
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
THREE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
6 Segment information
The Company reports segments in accordance with Financial Accounting
Standards Board Statement No. 131 "Disclosures about Segments of an
Enterprise and Related Information." The Company and its subsidiaries
operate in two separate business segments, the Technology segment and the
Training and consulting segment. These operating segments are
representative of the Company's management approach to its evaluation of
its operations. The accounting policies of the reportable operating
segments are the same as those described in the summary of significant
accounting policies. The Technology segment, which operates principally
domestically, is primarily engaged in the design, development, marketing
and support of information delivery hardware products and software. The
Training and consulting segment, which operates domestically, provides
consulting, educational and training services primarily to the oil and gas
and automotive industries throughout the United States.
<TABLE>
<CAPTION>
Three Months Ended
September 30,
------------------
1999 1998
----------- -----------
<S> <C> <C>
Revenue
Technology $ 13,200 $ 44,753
Training and consulting 124,751 -
----------- -----------
Total $ 137,951 $ 44,753
=========== ===========
Operating income (loss)
Technology $(2,294,613) $(1,597,286)
Training and consulting (539,617) -
----------- -----------
Total $(2,834,230) $(1,597,286)
=========== ===========
Identifiable assets
Technology $ 5,030,452
Training and consulting 4,234,930
-----------
Total $ 9,265,382
===========
</TABLE>
The Company had two major customers, both included in the Training and
consulting segment, which accounted for 57% and 24% of consolidated sales
for the three months ended September 30, 1999.
7 Commitments and contingencies
Legal matters
Certain claims, suits and complaints arising in the normal course with
respect to the Company's uniformed security guard services operations have
been filed or are pending against the Company. Generally, these matters are
all covered by a general liability insurance policy. In the opinion of
management, all such matters are without merit or are of such kind, or
involve such matters, as would not have a significant effect on the
financial position or results of operations of the Company, if disposed of
unfavorably.
9
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
THREE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
7 Commitments and contingencies (continued)
Comdisco, Inc. agreement
On July 26, 1999 the Company entered into an agreement with Comdisco
whereby Comdisco will provide management, installation and technology
services to the Company's proprietary Internet distribution system. In
addition, the agreement provides for the creation of a credit facility to
be utilized in connection with the sale and installation of the FoxBox in
up to 40,000 locations over a four-year period. However, there can be no
assurances that the Company will actually require the use of the credit
facility.
Under the agreement, the Company intends to lease the FoxBox to its
customers for 48 months at a monthly fee estimated under the agreement at
$200 . Comdisco will then acquire all of the right, title and interest in
the equipment with the exception of intellectual property rights, software
upgrades and software application and content and take an assignment of the
lease from the Company, without recourse. At the time of assignment,
Comdisco will pay the Company 95% of the present value of the rental stream
using an interest rate commensurate with each customer's credit rating and
prevailing market rates.
In connection with the agreement, Comdisco was granted a five-year warrant
to purchase 125,000 shares of the Company's unregistered common stock, at
an exercise price of $10 per share (Note 5).
8 Subsequent events
Private placement
In November 1999, the Company sold 182,500 shares of unregistered common
stock to a group of accredited investors at $15 per share (a total of
$2,737,500) exclusive of commissions and fees of approximately 7%.
10
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Forward Looking Statements
The Form 10-Q includes, without limitation, certain statements containing the
words "believes." "anticipates", "estimates", and words of a similar nature,
constitute "forward-looking statements" within the meaning of the Private
Securities Litigation Reform Act of 1995. This Act provides a "safe harbor" for
forward-looking statements to encourage companies to provide prospective
information about themselves so long as they identify these statements as
forward looking and provide meaningful, cautionary statements identifying
important factors that could cause actual results to differ from the projected
results. All statements other than statements of historical fact made in this
Form 10-Q are forward-looking. In particular, the statements herein regarding
industry prospects and future results of operations or financial position are
forward-looking statements. Forward-looking statements reflect management's
current expectations and are inherently uncertain. The Company's actual results
may differ significantly from management's expectations.
Overview
The Company is a corporation with a limited operating history, formed in
February 1998, when it commenced field trial and limited sales of its primary
product, "The FoxBox". Additionally, efforts were made to obtain operating
capital and convert the Company to a public entity. This was successfully
accomplished through a reverse merger with Watchdog Patrols, Inc., a publicly
traded (OTCBB), non-reporting corporation. Operating expenses have increased
significantly since the Company's inception. This reflects the cost associated
with the formation of the Company as well as increased efforts to promote sales
of the FoxBox (Multi- services Internet communications gateway), recruit
personnel, build operating infrastructure and continued product development. The
FoxBox is a multi- functional product that connects business networks [Local
Area Networks (LANs) and Wide Area Networks (WANs)] to the Internet. It supports
secure access to the Internet for 3 to 400 users through a single connection,
provides advanced electronic mail functions for unlimited users and delivers
firewall security. The Company's initial target markets are the end users in
small and mid-size businesses and large organizations with satellite offices. In
January 1999 the Company was able to secure two Agreements which have the
potential to generate significant revenue the terms of the agreements. The first
of which would be the TSG ("Sullivan") agreements, whereby Sullivan appointed
the Company as its exclusive provider of the Company's multi-service Internet
delivery system (known as "FoxBox") to be used in conjunction with Sullivan's
proprietary interactive distance learning training programs. The period of the
agreement is for a term of five years. In July 1999, the Company acquired TSG
and in July 1999 secured a $320 million credit facility with Comdisco, Inc. to
finance the anticipated sales to be generated from the application of the FoxBox
technology to TSG's client base. Comdisco also has agreed to provide management,
installation and technology services for FoxBoxes sold to this client base. The
second agreement is with Anicom, Inc. ("Anicom"). The Company entered into a
five-year exclusive master distribution agreement with Anicom, Inc. to
distribute the FoxBox throughout North America.
The Company has a limited operating history in which to base an evaluation of
the business and prospects. The Company's prospects must be considered in light
of the risks frequently encountered by companies in their early stages,
particularly for companies in the rapidly evolving technology industry. Certain
risks for the Company include, but are not limited to an unproven business
model, capital requirements and growth management. To counter this risk, the
Company must, among other things, increase its customer base, continue to
develop its distribution network and product offerings, successfully execute its
business and marketing plan, and expand the operating infrastructure. There can
be no assurance that the Company will be successful in addressing such risks,
and the failure to do so could have a material adverse effect on the Company's
financial condition and results of operations. Since inception, the Company has
incurred significant losses and as of September 30, 1999 had an accumulated
deficit of approximately $8.8 million. The Company believes that its success
depends in large part on its ability to create market awareness and acceptance
for the FoxBox, raise additional operating capital to grow operations, build
technology and non-technology infrastructures, expand the sales force and
distribution network, and continue new product R&D.
<PAGE>
Results of Operations
As a result of the July 1999 acquisition of TSG, NetWolves and its subsidiaries
operated in two business segments, the Technology segment and the Training and
consulting segment. The net sales from operations were $137,951 and $44,753 for
the three months ended September 30, 1999 and September 30, 1998, respectively.
Sales for the first quarter of fiscal 2000 were primarily attributable to the
training and consulting business segment. Although training and consulting
revenue is currently derived from traditional leader-lead training and benchmark
studies, the Company's strategic focus is on distance learning. The Company is
currently "beta testing" products utilizing the FoxBox technology to deliver
distance learning to existing clients in the petroleum industry. In fiscal 1999,
the Company delivered an initial stocking order of 500 FoxBoxes ($1.7 million)
to Anicom. As of July 1999 the Company has dedicated resources to train and
support the Anicom sales force in developing demand in the Anicom sales channel.
$45,730 of investment income was generated through September 30, 1999 as
compared to $15,716 for the period ended September 30, 1998. The increase is
primarily attributable to the additional amounts of securities held with respect
to the prior period.
NetWolves had gross profit of 31% for the period ended September 30, 1999. As of
yet, the Company has not had a full year of production in order to have a basis
of comparison. However, the Company believes that gross profit greater than 31%
are achievable at increased production levels. These results will depend, in
part, on the effects of economies-of-scale, the use of third-party assemblers
and the ability to competitively purchase rapidly evolving commodity hardware,
which is a significant component of "cost of goods sold." The use of
non-Proprietary hardware is one of many inherent design features of the FoxBox
which facilitates an efficient and cost effective production cycle.
Additionally, this allows the Company to focus its core R&D efforts on
developing cutting edge Software. There can be no assurance that the Company
will be successful in increasing its margins due to one or more factors. These
factors include, but are not limited to increases/decreases in direct labor and
material cost, as well as increased competition and general economic conditions
in the future.
Operating expenses were $2,876,012 and $1,625,740 for the three months ended
September 30, 1999 and September 30, 1998, respectively. The increase in
operating expense is primarily due to the continued growth of the Company and
the addition of the training and consulting business segment. The operating
expenses for September 30, 1999 consisted primarily of $2,085,287 of general and
administrative costs relating to the establishment of the infrastructure and the
continued operations of the business. $184,718 of costs were incurred relating
to research and development, and $606,007 related to selling and marketing.
Included in the above mentioned operating expenses are $1,155,844 of non-cash
compensation for services in the form of the Company's common stock and options.
Operating expenses for the period June 30, 1998 were limited and provide an
inadequate basis for comparability purposes.
Liquidity and Capital Resources
On June 17, 1998 the Company executed a reverse merger with Watchdog Patrols,
Inc. a publicly traded non-reporting company engaged in the activity of
providing armed and unarmed security guard services for the New
York/Metropolitan Area. This merger made available to the Company, approximately
$2.3 million of cash, cash equivalents and marketable securities to be used as
operating capital. On November 22, 1998 the Company sold substantially all the
assets of the security guard business, consisting primarily of uniforms,
vehicles, computer systems and furniture to a third party. This generated an
additional $600,000 of cash flow to the Company. On June 29, 1999 NetWolves
concluded a private offering of 800,000 shares of common stock which generated
$5.4 million (net of $.6 million of expenses). Additionally, on September 29,
1999 the Company completed a private placement of 100,000 shares of common stock
to one accredited investor for $1.4 million (net of 100,000 of expenses) to be
used in operations.
NetWolves had cash and cash equivalents of $5.3 million million at September 30,
1999. In November 1999, the Company completed a private sale of an additional
182,500 shares of common stock to accredited investors for $2.5 million (net of
expenses of approximately 7%). Management believes that the Company has adequate
capital resources to meet its working capital needs for at least the next twelve
months based upon its current operating level. However, there can be no
assurance that the Company will have sufficient capital to finance its planned
growth. The Company intends to raise additional monies from the sale of its
capital stock to fund its growth over the next 24 to 36 months.
<PAGE>
Year 2000 Issues
Background. Some computers, software, and other equipment include programming
code in which calendar year data is abbreviated to only two digits. As a result
of this design decisions, some of these systems could fail to operate or fail to
produce correct results if "00" is interpreted to commonly referred to as the
"Millennium Bug" or "Year 2000 problem.
Assessment. The Year 2000 problem could affect computers, software, and other
equipment which NetWolves Corporation uses, operates, or maintains. Accordingly,
NetWolves Corporation has reviewed its internal computer programs and systems to
ensure that the programs and systems are Year 2000 complaint. NetWolves
Corporation presently believes that its computer systems are Year 2000
complaint. However, while the estimated cost of these efforts is not expected to
be material to its overall financial position, or any year's results of
operations, there can be no assurance to this effect.
Products Sold to Consumers. NetWolves Corporation believes that it has
substantially identified and resolved all potential Year 2000 problems with the
software products it develops and markets. However, it also believes that is not
possible to determine with complete certainty that all Year 2000 problems
affecting its products have been identified or corrected due to the complexity
of these products and the fact that these products interact with other third
party vendor products and operate with other systems which are not under its
control.
NetWolves Corporation recognizes the significance of the Year 2000 issue as it
relates to internal systems, including IT and non-IT systems. To that extent
NetWolves Corporation has achieved the following:
Internal Information Technology Infrastructure. NetWolves Corporation believes
that it has identified, modified upgraded, or replaced substantially all of the
major computers, software applications, and related equipment used in connection
with its internal operations in order to minimize the possibility of a material
disruption to its business. While most of the upgrades were planned as part of a
general enhancement to its infrastructure, the timing of the upgrades also
result in Year 2000 compliance.
Systems Other than Information Technology Systems. In addition to computers and
related systems, the operation of office and facilities equipment, such as fax
machines, photocopiers, telephone switches, security systems, elevators, and
other common devices may be affected by the Year 2000 problem. NetWolves
Corporation has assessed and remediated the effect of the Year 2000 problem on
its office and facilities equipment under its control, and the total costs
associated with completing the required modifications, upgrades, or replacements
of these internal systems were not material.
Suppliers. NetWolves Corporation has initiated communications, including
surveys, with business critical third party suppliers of the major computers,
software, and other equipment which it uses, operates, or maintains to identify
and, to the extent possible, to resolve issues involving the Year 2000 problem.
NetWolves Corporation has received vendor certification that all of its business
critical information technology systems, including internal communications
systems, accounting and finance systems, customer service systems, and sales and
marketing tracking systems, are Year 2000 compliant. Accordingly, NetWolves
Corporation does not anticipate any significant Year 2000 problems with these
systems; however, it cannot ensure that these suppliers will resolve any or all
of their Year 2000 problems with these systems before the occurrence of a
material disruption to its business or that of its customers. NetWolves
Corporation believes that its primary exposure is presently with respect to
public utilities and telecommunications suppliers. Any failure of these third
parties to resolve Year 2000 problems with their systems in a timely manner
could have a material adverse affect on NetWolves Corporation business,
financial condition, and results of operation.
<PAGE>
Additionally, NetWolves Corporation has initiated communications, including
surveys, with all other vendors or businesses that supply any service to
NetWolves Corporation. While it has limited or no control over responses to its
inquiries and the actions of these third party suppliers, NetWolves Corporation
does not view this category of services to be business critical and in the event
of a Year 2000 problem with a particular vendor, believes that those goods or
services could easily be obtained from other sources.
Banking Relationships. NetWolves Corporation has confined its banking
relationships to top tier financial institutions who have represented that their
respective systems are Year 2000 complaint. Any failure of these banks to
resolve Year 2000 problems with their systems in a timely manner would result in
financial inconvenience and, depending upon the duration of the failure, could
have a material adverse affect on NetWolves Corporation financial condition and
results of operation.
Most Likely Consequences of Year 2000 Problems. NetWolves Corporation believes
that it has identified all Year 2000 problems that could materially adversely
affect its business operations. However, it does not believe that it is possible
to determine with complete certainty that all Year 2000 problems which effect it
have been identified or corrected.
The number of devices that could be affected and the interactions among these
devices are simply too numerous. In addition, one cannot accurately predict how
many Year 2000 problem- related failures will occur or the severity, duration,
or financial consequences of these perhaps inevitable failures. In addition,
NetWolves Corporation is unable to determine with any degree of certainty the
changes in buying habits of its current and potential customers due to their
concerns over Year 2000 issues. As a result, NetWolves Corporation expects that
it could likely experience a significant number of operational inconveniences
and inefficiencies that may divert management's time and attention and its
financial and human resources from its ordinary business activities. In
addition, NetWolves Corporation may experience a lesser number of serious system
failures that may require significant efforts by it or its customers to prevent
or alleviate material business disruptions.
ITEM 3 QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable.
<PAGE>
ITEM 1. LEGAL PROCEEDINGS
None.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
On September 29, 1999, the Company sold 100,000 shares of unregistered
common stock to an accredited investor at $15 per share.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
ITEM 5. OTHER INFORMATION
Not applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
--------
Exhibit 27- Financial Data Schedule (for electronic submission only).
(b) Reports on Form 8-K
-------------------
Report on Form 8-K dated July 7, 1999, as amended.
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
BY: NETWOLVES CORPORATION
/s/ Walter M. Groteke
---------------------------------------
Walter M. Groteke
Chief Executive Officer
/s/ Peter C. Castle
---------------------------------------
Peter C. Castle
Secretary-Treasurer
Date: November 19, 1999
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from the
financial staements from the quarterly period ending September 30, 1999
and is qualified in its entirety by reference to such financial statements.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> JUN-30-1999
<PERIOD-END> SEP-30-1999
<CASH> 5,376,269
<SECURITIES> 527,500
<RECEIVABLES> 127,429
<ALLOWANCES> 40,000
<INVENTORY> 64,790
<CURRENT-ASSETS> 6,227,748
<PP&E> 309,566
<DEPRECIATION> 31,006
<TOTAL-ASSETS> 9,265,382
<CURRENT-LIABILITIES> 712,806
<BONDS> 0
0
0
<COMMON> 20,341
<OTHER-SE> 8,011,864
<TOTAL-LIABILITY-AND-EQUITY> 9,265,382
<SALES> 137,951
<TOTAL-REVENUES> 137,951
<CGS> 96,169
<TOTAL-COSTS> 96,169
<OTHER-EXPENSES> 2,876,012
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 10,491
<INCOME-PRETAX> (2,794,941)
<INCOME-TAX> 0
<INCOME-CONTINUING> (2,794,941)
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<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (2,794,941)
<EPS-BASIC> (.46)
<EPS-DILUTED> (.46)
</TABLE>
