SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------
FORM 10/A
Amendment No. 4
GENERAL FORM FOR REGISTRATION OF SECURITIES
PURSUANT TO SECTION 12(b) OR 12(g) OF
THE SECURITIES EXCHANGE ACT OF 1934
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) (Zip Code)
Registrant's telephone number, including area code 516-393-5016
Securities to be registered pursuant to Section 12(b) of the Act:
Title of Each Class Name of Each Exchange on Which
to be so Registered Each Class is to be Registered
------------------- ------------------------------
Securities to be registered pursuant to Section 12(g) of the Act:
Common Stock, par value $.0033 per share
(Title of Class)
<PAGE>
ITEM 1. BUSINESS
General
NetWolves Corporation ("NetWolves" or the "Company") designs, develops and
sells products which provide a secure, integrated, modular internet gateway. The
products connect business networks comprised of multiple computers sharing both
small and large geographic areas to the Internet. The primary product, the
FoxBox, is multi-functional. It supports secure access to the Internet for 3 to
400 users through a single dedicated connection or up to 8 users simultaneously
through a non-dedicated connection, provides advanced electronic mail functions
for unlimited users and delivers firewall security to protect the computers of a
private network from access by other users. The Company's initial target markets
are the end users in the small and mid-sized businesses and large organizations
with satellite offices. Larger end users to whom the product is intended to be
marketed are companies with multi-state locations, government agencies and
educational markets. NetWolves products are designed to service numerous
markets, including the financial, medical, legal, travel, hospitality,
entertainment, hotel and auto industries.
The Company's strategy is to establish the FoxBox as the standard for
enterprise-wide network connectivity worldwide. To achieve its objectives
worldwide, NetWolves seeks to form relationships with leading companies in their
respective areas to deliver application-specific internet solutions to
organizations worldwide. In furtherance of this objective, the Company has
recently entered into agreements with Anicom, Inc. and The Sullivan Group and is
negotiating additional relationships.
In January 1999, NetWolves entered into a distribution agreement with
Anicom, Inc. appointing Anicom, Inc. as the exclusive master distributor of its
products in North America subject to certain minimum purchase requirements.
Anicom is one of the largest distributors in the United States of multimedia
wiring systems with customers including Cisco Systems and Fast Com and intends
to sell the Company's products to its 75 offices located in the United States.
In addition, Anicom will maintain inventory of the FoxBox from all 75 locations
and intends to distribute the FoxBox nationwide. The Company delivered its first
significant order, in excess of $1,500,000, in March/April 1999.
In January 1999, the Company entered into an agreement with The Sullivan
Group, a leading consulting organization serving the needs of the automobile
aftermarket, convenience stores and oil industry. It maintains an extensive
library of training modules available to its client base which includes Amoco
Oil, British Petroleum, Chevron, Chrysler, Exxon, General Motors, Mobil Oil
Shell, Tosco and Unocal. Pursuant to its agreement, The Sullivan Group has
appointed NetWolves as its exclusive provider in the United States of a delivery
system whereby The Sullivan Group intends to sell its proprietary training
programs to approximately 40,000 retail locations throughout the United States.
NetWolves is customizing an Internet solution specifically to deliver distance
learning to these locations utilizing its FoxBox technology; and it anticipates
sales of this customized product to commence this summer.
<PAGE>
NetWolves, LLC was an Ohio limited liability company formed on February 13,
1998, which was merged into Watchdog Patrols, Inc. 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
and the former NetWolves LLC members owned 61.2% of the outstanding common stock
of NetWolves Corporation. NetWolves LLC was not affiliated with Watchdog prior
to the merger.
Products and Services
The FoxBox is a multi-services internet communications gateway that offers
a combined internet access and firewall security solution. The FoxBox includes
the following products or services which would have to be purchased separately
to achieve the same functionality: an exchange server, a web server, a firewall
which protects the computers of a private network from access by other users, a
router, internet hardware and software setup, and product training. The FoxBox
costs substantially less than purchasing its functionality in separate products,
which costs would exceed $30,000. Further, its "all-in-one" solution
significantly reduces costly network administration overhead, since there are
less divergent components to administer in the FoxBox. Each of the features in
the FoxBox is designed to work together using integrated hardware and software,
and a common interface. This facilitates expansion and support of the converging
voice and data industries. NetWolves currently offers five FoxBox models: FoxBox
DDR, at a suggested wholesale price of $3,400; FoxBox ISDN, at a price of
$4,400; FoxBox 56K, for $5,500; FoxBox T1, for $7,100; and FoxBox S2E, for
$4,100.
The FoxBox offers the following features:
-- It can securely connect any number of users in a small geographic area
(LAN) simultaneous to the Internet through a single dial-up or
dedicated connection.
-- Up to eight users at one time can connect to the Web/Internet on
non-dedicated connections.
-- Hierarchical caching, which are rules that tell a computer to look for
the data stored on a series of a computer before accessing the
internet for data, gives the FoxBox more efficient web viewing and
greater ability to transfer files from one file to another.
-- Any number of users can send and receive e-mail individually, while
sharing one internet service provider account.
-- A firewall protects the LAN from Internet-borne attacks.
-- An advanced network address translation module allows the creation of
powerful address translation rules for greater firewall flexibility.
-- Files that store events for review at a later date ensure appropriate
use of internet resources.
-- Scalability allows internet usage to grow as a company expands.
-- A network file server centrally stores programs and data for
accessability to multiple users simultaneously and share data and
programs from a central location.
-- It can be used as a stand-alone firewall to protect the resources of a
private network from users outside on a public network.
-- It allows a company to publish and host a web site.
<PAGE>
The FoxBox also offers the following optional features:
-- High speed tape backup/restore module (SCSI) allows all stored data on
the FoxBox to be backed up onto a DAT tape, which is a standardized
tape for file back up.
-- Fast SCSI hard drive provides extra storage for shared files and Web
data at faster access speeds.
-- Extra 9.1 gigabyte SCSI hard drive provides extra storage for shared
files and Web data.
-- E-Mail Archive module allows all inbound and outbound e-mail to be
saved for archival/compliance purposes.
-- Advanced access control module allows control over who can access the
web and the sites to which they have access.
-- Virtual Private Networking (VPN) module provides a process for
encrypting data for secure transmission over public networks.
Firewall and Security Functions
NetWolves believes that security is an essential element of any Internet
connectivity solution. For this reason, the FoxBox includes a high end firewall
security protection, without requiring the purchase of additional components.
The FoxBox is designed to protect a company's private data and systems from
outside intruders with its firewall security system, incorporating three
separate firewall technologies:
-- Stateful packet filters verify that all incoming data packets coming
from the Internet have been requested by an authorized user on the
LAN.
-- Proxy applications prevent unauthorized internet applications from
accessing the LAN.
-- Network Address Translation (or NAT), which are conversions of public
addresses to and from private addresses, makes the network invisible
to outside Internet users by hiding the internal network's addresses
of each sender or receiver of information.
All packets of data entering the FoxBox from the Internet are first checked
for validity against a series of stateful packet filters. The data is then
forwarded to proxy applications that further inspect the contents of the packets
for potential security violations. If the data is determined to be valid by both
the stateful packet filters and proxy applications, it is allowed to enter the
secure LAN.
<PAGE>
The FoxBox DDR and FoxBox ISDN dial on demand units come with a
preconfigured firewall and network address translation rules that allow these
products to securely connect the LAN to the Internet. The FoxBox 56K, FoxBox T1
and FoxBox S2E are designed with fully configurable firewalls and network
address translation rules that give the network administrator greater
flexibility in allowing or denying incoming and outgoing data.
E-Mail Services
A key feature of the FoxBox is its advanced and powerful management of
electronic mail. With only one Internet account, an unlimited number of users
can send and receive e-mail. In addition, the FoxBox supports e-mail standards.
For e-mail between a FoxBox and the Internet, NetWolves uses the standard simple
mail transfer protocol (SMTP), which is the standard for e-mail transmission on
the Internet. SMTP is accomplished using a product called Sendmail, version
8.8.8, which is the standard SMTP server on the Internet. Sendmail manages the
sending of e-mail from a FoxBox to any other host on the Internet. For LAN
users, the FoxBox supports a number of different protocols. If the FoxBox is
used as the LAN's e-mail server, two common client-server e-mail protocol
standards are supported:
-- POP-3 - a process for retrieving e-mail from its stored location to
the viewer.
-- IMAP - a method of viewing electronic mail at its stored location.
The FoxBox supports several e-mail clients, including:
-- Microsoft Exchange
-- Microsoft Internet Mail
-- Netscape Navigator Mail
-- Eudora
-- Pegasus
The FoxBox supports several e-mail gateways, including:
-- Microsoft Exchange Server
-- Lotus cc: Mail
-- GroupWise Mail
-- Others with SMTP gateways
Graphical User Interface for Administration/Management
A Web-based graphical user interface, or GUI allows the network
administrator to configure the various subsystems of the FoxBox. The FoxBox is
completely transparent to the Internet user. Likewise, because the FoxBox is
easy to setup, it will feel transparent to the administrator. This is especially
true should changes be required following initial installation. Since all
administration of the FoxBox is performed through a Web browser, the
administrator can be on any workstation on the LAN.
<PAGE>
Agreements With Anicom and The Sullivan Group
In January 1999, NetWolves entered into an agreement with Anicom. The
agreement appoints Anicom as NetWolves' exclusive master distributor of its
products throughout North America for a five year period. There are minimum
purchase requirements under the agreement to maintain exclusivity though there
are no specific purchase commitments beyond its initial order which was
delivered in March/April 1999. NetWolves has also reserved the right to make
direct sales or leases of its products to customers, distributors and Anicom
resellers during the term of the agreement provided that it pays a stipulated
commission to Anicom of such sales. The agreement further provides for Anicom to
maintain inventory of NetWolves' products and to distribute these products
throughout its 75 locations in the United States. The agreement provides for
certain rights of termination, including the option of NetWolves to terminate
during the first two years of the agreement on 30 days prior written notice
provided that, as a condition to the effectiveness of such termination,
NetWolves shall pay Anicom a stipulated fee. Anicom's only rights to terminate
are in the event of bankruptcy or insolvency proceedings against NetWolves or in
the event the products covered the agreement cease to be manufactured by or on
behalf of NetWolves. In the event of termination by Anicom, Anicom has the
right, but not the obligation, to direct NetWolves to repurchase from Anicom any
portion of any new undamaged and unused products sold within a one year period
and owned by and remaining in Anicom's inventory.
For cash consideration paid to the Company of $300,000, the Company issued
Anicom 300,000 warrants to purchase common stock of the Company at an exercise
price of $5 per share. The warrants issued to Anicom shall vest in equal
installments over three years, commencing on the first anniversary of the
agreement and shall expire in January 2004. Anicom also obtained piggyback
registration rights with respect to the issuable shares of common stock.
In January 1999, NetWolves entered into an agreement with The Sullivan
Group, a leading consulting organization serving the needs of the automotive
aftermarket, convenience store and oil industry and, through its subsidiary, The
Duffy-Vinet Institute, maintains an extensive library of training modules
available to its client customer base. Under the agreement, NetWolves has been
appointed as the exclusive provider of multi-services internet gateway products,
which is intended to enable The Sullivan Group and its subsidiary to sell its
proprietary training programs to approximately 40,000 retail locations
throughout the United States. This combined technology is intended to facilitate
simultaneous interactive distance learning at all sites. The agreement is for a
period of five years with an automatic five year renewal unless previously
terminated. NetWolves has agreed to customize its FoxBox to serve the needs of
The Sullivan Group.
<PAGE>
Initial deliveries are scheduled to commence in the quarter ending December
31, 1999. While deliveries will be made against specific purchase orders yet to
be received, NetWolves has agreed to deliver approximately 40,000 units over a
five-year period ranging from 350 units in 1999 and 4,150 units in 2000 to
14,000 in 2003. It is intended that the units will be leased over a 48 month
term at a monthly rate of $200 per unit. One year of maintenance is included
with each leasing agreement and extended maintenance contracts may be purchased
for a fee.
Research and Development
The internet and the computer hardware and software industry are
characterized by rapid technological change, which requires ongoing development
and maintenance of products. It is customary for modifications to be made to
products as experience with its use grows or changes in manufacturer's hardware
and software so require.
NetWolves' research and development organization is comprised of a core
team of engineers who specialize in different areas of product development.
NetWolves engineering team has experience in a variety of industries, including
information security, designing networking protocols, building interfaces,
designing databases, and computer telephony. Their expertise is used in the
design of the FoxBox and seeking improved methods for the FoxBox to meet
customer needs. As of March 31, 1999, the Company's research and development
group consists of five employees. The Company seeks to recruit highly qualified
employees and its ability to attract and retain such employees will be a
principal factor in its success in achieving and maintaining a leading
technological position.
For the six months ended December 31, 1998, the Company expended
approximately $91,600 for research and development expenses. The Company intends
to increase its investment in product development and believes that its future
services will depend, in part, on its ability to develop, manufacture and market
new products and enhancements to existing products on a cost-effective and
timely basis.
Manufacturing and Testing
The primary manufacturer currently used by the Company is Boca Research, a
hardware assembly and engineering firm located in Boca Raton, Florida.
Accuspecs, a hardware assembler located in McKeen, Pennsylvania, also
manufactures the FoxBox for the Company. While NetWolves has no long-term
agreements with these manufacturers, it believes that alternative manufacturers
are available if NetWolves were to change manufacturers.
Production Process
The process used to produce NetWolves products begins with hardware
configuration, installing the appropriate version of FoxBox software,
configuring client-specific software components, followed by a 24-hour "burn-in"
process. Raw/prefabricated materials, components, and subassemblies required for
<PAGE>
production include mother boards, CPU's, cases, Ethernet cards, network
communication cards, hard drives, memory, CPU fans and power supplies. The
Company believes that these materials are available from several companies and
that alternative sources of supply are currently available.
Testing
A majority of testing is performed as part of the manufacturing process. In
addition, NetWolves performs quality testing via the Internet on a periodic
basis to verify that the assembled products meet all production quality
criteria. Also, randomly chosen FoxBox units are shipped from the production
assembly facility back to NetWolves for additional testing.
In addition to testing the product on a regular basis, NetWolves researches
the status of existing components used in the FoxBox to determine if they are
being phased out or prices have changed. If it concludes that a certain
component must be substituted, trial testing is performed on a new component to
determine if it meets product component criteria. If it meets this criteria,
which includes cost effectiveness, longer life expectancy and product
efficiency, a plan to develop and use the component is implemented.
Customer Service and Technical Support
The Company maintains an experienced staff of customer service personnel to
provide technical support to its customers. Each member of the customer service
staff is certified through an ongoing in-house training and testing program to
provide support for each individual product. The Company's customer service
staff provides product support via telephone and e-mail 24 hours per day, seven
days per week. The Company generally provides software and documentation
updates, including maintenance releases, operating system upgrades and major
functional upgrades, as part of its customer support services.
Sales and Marketing
The Company's strategy of marketing and sales plan for it to enter into
agreements with providers of products in a wide variety of markets, including
financial, medical, legal, travel, hospitality, entertainment, hotel and the
auto industries in order to leverage their existing client base for sales of the
Company's products. With this objective, the Company has entered into agreements
with Anicom, Inc. and The Sullivan Group and is seeking additional strategic
alliances on a worldwide basis. The Company intends to hire sales and marketing
consultants in five (5) regional areas, New York, Tampa, Chicago, Washington D.
C. and Los Angeles. These persons will perform several important functions
including managing the master distribution agreements between the Company and
its partners and also customizing solutions for the various market business
segments.
The Company has implemented marketing initiatives to support the sales and
distribution of its products and services, and to communicate corporate
direction. The Company's sales and marketing employees are responsible for
collateral development, lead generation and awareness of the Company and its
products. Marketing programs include public relations, seminars, industry
conferences and trade shows, advertising and direct mail. The Company's
marketing employees also contribute to both the product direction and strategic
planning processes by providing market research and conducting surveys and focus
groups.
<PAGE>
Licensing and Intellectual Property
The Company considers certain features of its products, including its
methodology and technology to be proprietary. The Company relies on a
combination of trade secret, copyright and trademark laws, contractual
provisions and certain technology and security measures to protect its
proprietary intellectual property. The Company does not currently have any
patents or pending patent applications. Notwithstanding the efforts the Company
takes to protect its proprietary rights, existing trade secret, copyright, and
trademark laws afford only limited protection. In addition, effective protection
of copyrights, trade secrets, trademarks and other proprietary rights may be
unavailable or limited in certain foreign countries. The Company believes that,
because of the rapid rate of technological change in the computer industry,
factors such as the knowledge, ability and experience of the Company's
employees, product and service offering development, and quality of customer
support services are more important than any available trade secret or copyright
protection.
The Company does not intend to sell or transfer title of its products to
its clients though this structure may change as the Company expands its
operations. The products are intended to be licensed generally pursuant to
licensing agreements for which extended payment terms may be offered. In the
case of extended payment term agreements, the customer is contractually bound to
equal monthly fixed payments. The first year of maintenance is bundled with
standard licensing agreements. In the case of extended payment term agreements,
maintenance may be bundled for the length of the payment term. Thereafter, in
both instances, the customer may purchase maintenance annually.
Competition
The Company faces competition from the manufacturers of several different
types of products used as multi-service packaged solutions for Internet
gateways. Its major competitors are Whistle, which was recently acquired by IBM,
Team Internet and Free Gate. The Company expects competition to intensify as
more companies enter the market and compete for market share. In addition,
companies currently in the server market may continue to change product
offerings in order to capture further market share. Many of these companies have
substantially greater financial and marketing resources, research and
development staffs, manufacturing and distribution facilities. There can be no
assurance that the Company's current and potential competitors will not develop
products that may or may not be perceived to be more effective or responsive to
technological change than that of the Company, or that current or future
products will not be rendered obsolete by such developments. Furthermore,
increased competition could result in price reductions, reduced margins or loss
of market share, any of which could have a material adverse effect on the
Company's business operating results and financial condition.
The Company believes that an important competitive factor in its market is
the cost effective integration of many services in a single unit. In this
regard, the Company believes that it compares favorably to its competitors in
<PAGE>
price and overall cost of ownership including administrative and maintenance
costs. However, equally important are other factors, including but not limited
to, product reliability, availability, upgradability, and technical service and
support. The Company's ability to compete will depend upon, among other factors,
its ability to anticipate industry trends, invest in product research and
development, and effectively manage the introduction of new or upgraded products
into targeted markets.
Employees
As of March 15, 1998, the Company employed 23 full-time employees.
Approximately, five of these employees are involved in research and development,
seven in sales and marketing, and 11 in finance and general administration. In
addition, the Company has retained five independent contractors on a consulting
basis who support engineering and marketing functions. To date, the Company
believes it has been successful in attracting and retaining skilled and
motivated individuals. Competition for qualified management and technical
employees is intense in the computer industry. The Company's success will depend
in large part upon its continued ability to attract and retain qualified
employees. The Company has never experienced a work stoppage and its employees
are not covered by a collective bargaining agreement. The Company believes that
it has good relations with its employees.
<PAGE>
ITEM 2. FINANCIAL INFORMATION
Selected Financial Data
The following selected financial data has been derived from the financial
statements included elsewhere in this report and should be read in conjunction
with such financial statements.
<TABLE>
<CAPTION>
Period from Six Months ended
February 13, 1998 ended
(inception) to December 31, 1998
June 30, 1998 (unaudited)
------------------ -----------------
<S> <C> <C>
Statement of Operation Data:
Net sales $ 29,621 $ 80,714
Cost of goods sold 5,681 31,478
---------- ----------
Gross profit from sales 23,940 49,236
Operating expenses 149,510 3,907,674
---------- ----------
Loss before other income (expense)
and benefit from income taxes (125,570) (3,858,438)
Interest income (expense), net 2,666 27,218
Other income (expense), net 3,490 2,118
---------- ----------
Loss before benefit from income taxes (119,414) (3,829,102)
Benefit from income taxes 20,000 -
---------- ----------
Net loss $ (99,414) $(3,829,102)
========== ==========
Basic and diluted net loss per share $ (0.04) $ (0.89)
========== ==========
Weighted average common shares
outstanding 2,810,102 4,315,772
========== ==========
Financial position:
Cash and cash equivalents $1,118,416 $ 808,279
Marketable securities, available
for sale 1,063,828 463,500
Total assets 2,959,451 1,976,444
Total shareholders' equity 2,928,003 1,788,974
</TABLE>
<PAGE>
Management's Discussion and Analysis of Financial Condition and Results of
Operations
Overview
The Company is a corporation with a limited operating history, formed in
February 1998. The Company has 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 market awareness for the FoxBox (Multi- services Internet communications
gateway), solicit new customers, 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 revenues over the term of the agreement. The first of which
would be The Sullivan Group ("Sullivan") agreement 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. 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 through 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 of
development, particularly for companies in the rapidly evolving Technology
Industry. Certain risks for the Company include, but are not limited to unproven
business model, capital requirements and growth management. To counter this
risk, the Company must, among other things, increase its customer base, develop
a distribution network, successfully execute its business and marketing plan,
and increase the operating infrastructure. There can be no assurance that the
Company will be successful in addressing such risk, 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 December 31, 1998 had a deficit accumulated during the
development stage of approximately $3.9 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 through the
development and operational stages.
<PAGE>
Results of Operations
From February 13, 1998 (date of inception) to December 31, 1998
The Company continues to operate as a development stage enterprise as of
December 31, 1998, and accordingly, the Company has engaged in limited revenue
generating operations. The net sales from operations for NetWolves for the
period from inception through December 31, 1998 were $110,335, all of which were
from sales of the FoxBox. Additionally, $43,884 of dividend and interest income
was generated during this period. The Company operates on a fiscal year end of
June 30.
The Company's gross margin from the period of inception to December 31,
1998 was 66%. The Company believes that gross margins greater than 66% 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 costs and general economic
conditions in the future.
Operating expenses for this period were $4,057,184, which consisted
primarily of $1,941,518 of general and administrative costs relating to the
establishment of the infrastructure of the business. $91,616 of costs were
incurred relating to research and development, $2,024,050 relating to selling,
marketing and consulting. Included in the above mentioned operating expenses are
approximately $2,493,000 of compensation for services in the form of the
Company's common stock and options.
<PAGE>
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. Additionally, 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.
As of December 31, 1998 the Company has $1,271,779 of cash, cash equivalent
and marketable securities available to fund operations. In March/April 1999, the
Company delivered an initial stocking order of approximately $1.5 million
pursuant to its master distribution agreement with Anicom. Additionally, the
Company completed a private placement memorandum (PPM) of $6 million in the
fourth quarter of fiscal 1999. Management believes that the Company has adequate
capital resources to meet its working capital need for at least the next twelve
months based upon its current plans. 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. However, there can be no assurance that the Company will have
sufficient capital to finance its planned growth.
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 decision, some of these systems could fail to operate
or fail to produce correct results if "00" is interpreted to mean 1900, rather
than 2000. These problems are widely expected to increase in frequency and
severity as the year 2000 approaches and are 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.
<PAGE>
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.
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.
<PAGE>
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. PROPERTIES
The Company maintains approximately 250 square feet of office space in
Melville, New York at a monthly rental of approximately $1,600, which currently
accommodates the Company's headquarters for administrative and financial
functions. The lease expired in January and is currently on a month-to-month
basis. The Company has a three year lease expiring in August 2001 for
approximately 4,100 square feet of space in Tampa, Florida, which currently
accommodates the Company's research and development facilities. The annual rent
is approximately $28,500. The Company is presently negotiating for new
facilities in New York and in the Tampa, Florida area. The Company believes that
its present and proposed facilities are adequate to meet its current business
requirements and that suitable facilities for expansion will be available, if
necessary, to accommodate further physical expansion of corporate operations and
for additional sales and support offices.
<PAGE>
ITEM 4. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT
The following table sets forth the beneficial ownership of the Company's
common stock as of March 1, 1999 of (i) each person known by the Company to
beneficially own 5% or more of the Company's outstanding Common Stock, (ii) each
of the Company's executive officers, directors and director nominees, and (iii)
all of the Company's executive officers and directors as a group. Except as
otherwise indicated, all shares of Common Stock are beneficially owned, and
investment and voting power is held, by the persons named as owners. Percentage
ownership for each owner includes warrants currently exercisable or exercisable
by such owner within 60 days.
<TABLE>
<CAPTION>
Name and Address of Amount of Shares
Beneficial Owner Beneficially Owned Percentage Ownership
- --------------------- ------------------ --------------------
<S> <C> <C>
Greenleaf Capital Partners, LLC (7) 1,141,360 (5) 27%
Walter M. Groteke 528,064 (1)(2) 11%
Daniel G. Stephens 528,064 (1)(2) 11%
Kevin F. Sherlock 528,064 (1)(2) 11%
Keith Darling 528,064 (2)(3) 11%
Mark Jacques 475,258 (2)(3) 10%
Walter R. Groteke 150,000 (1) 3%
Internet Technologies, Inc.(7) 260,000 (4)(5) 5%
Ed Lavin 50,000 1%
Louis Liben 50,000 1%
Kirlin Securities, Inc.(7) 500,000 (6) 9%
Executive officers and
directors as a group 1,834,192 38%
* less than one percent (1%) unless otherwise indicated.
(1) Does not include unvested warrants to purchase 200,000 shares at an option
price of $1.63 per share. See "Management - Employment Agreements."
(2) Messrs. Walter M. Groteke, Daniel G. Stephens, Kevin F. Sherlock, Keith
Darling and Mark Jacques have agreed that the shares owned by them may not
be sold until June 17, 2000 without the prior written consent of Kirlin
Securities. Kirlin Securities may release such restriction, although there
are no understandings or arrangements in this regard.
(3) Messrs. Darling and Jacques are former officers, directors and employees of
the Company. Does not include unvested, performance based warrants to
purchase 50,000 shares each at an option price of $5.00 per share.
(4) Internet Technologies, Inc., a consultant to the Company, has the right to
receive up to 120,000 additional shares based upon future performance
criteria.
(5) Greenleaf Capital Partners, LLC has demand registration rights on its
shares and Internet Technologies, Inc. has demand registration rights for
200,000 shares of common stock.
(6) Represents warrants currently exercisable by Kirlin Securities and its
affiliates to purchase 500,000 shares of common stock at $1.63 per share.
Kirlin Securities, Inc. has demand registration rights on the shares of
common stock issuable upon exercise of the warrants.
<PAGE>
(7) The natural person or persons who exercise sole or shared voting and
dispositive powers over the shares held of record by these entities are as
follows: Greenleaf Capital Partners, LLC - Mr. Phillip LoRusso and Mr.
Edmund McCormick; Internet Technologies, Inc. - Mr. Louis McElwee; Kirlin
Securities, Inc. - Mr. Anthony Kirincic.
</TABLE>
ITEM 5. DIRECTORS AND EXECUTIVE OFFICERS
Directors and Executive Officers
The directors and executive officers of the Company as of March 1, 1999 and
their ages are as follows:
Name Age Position
- ---- --- --------
Walter M Groteke 29 Chairman of the Board, President and
Chief Executive Officer
Daniel G. Stephens 28 Vice Chairman of the Board and
Chief Information Officer
Kevin F. Sherlock 35 Chief Operating Officer and Director
Walter R. Groteke 52 Vice President - Sales and Marketing
and Director
Ed Lavin 55 Director
Louis Liben 40 Director
- ------
Walter M. Groteke, a co-founder of the Company, has been Chairman of the
Board, Chief Executive Officer and a director of the Company since June 1998.
Mr. Groteke is responsible for planning, developing and establishing policies
and business objectives for the Company. From June 1995 until 1997, Mr. Groteke
was regional business development manager for Techmatics, Inc. an information
systems Department of Defense contractor. From May 1993 to June 1995, Mr.
Groteke was senior account manager for NYNEX's strategic account management
program.
Daniel G. Stephens, a co-founder of the Company, has been Vice Chairman of
the Board and Chief Information Officer since June 1998. Mr. Stephens directs
research and development, information systems and technical support services for
the Company. From May 1994 until 1997, Mr. Stephens was a senior systems
engineer for Techmatics, Inc. In this capacity, he advised the Department of
Justice on development of a nationwide series network infrastructure to support
a law-enforcement database.
Kevin F. Sherlock, has been Chief Operating Officer of the Company since
January1999 and a director of the Company since June 1998. From 1985 to June
1998, Mr. Sherlock was an Account Director responsible for sales and marketing
at Standard Register.
<PAGE>
Walter R. Groteke has been a director of the Company since February 1999
and Vice President - Sales and Marketing since August 1998. From 1995 through
July 1998, Mr. Groteke was a regional and district sales manager for GTE Florida
and GTE Communications Corporation. Mr. Groteke founded Hawk Telecom in 1975 and
was President until its sale in 1994. Mr. Groteke is the father of Walter M.
Groteke.
Ed Lavin has been a director of the Company since February 1999. Mr. Lavin
has been Chairman and Chief Executive Officer of Staples Communications, a
subsidiary of Staples Corporation since March, 1999. Mr. Lavin began his career
at ADT from 1967 to 1972. In 1970 he was promoted into ADT's National Accounts
Division. Mr. Lavin then joined the L. M. Ericcson Company of Sweden from 1973
to 1979 where he served as Vice President of Sales in the United States. Mr.
Lavin immigrated to Canada in 1980 to form Canadian Telecommunications Group and
was Chairman and CEO of Canadian Telecommunications Group (CTG) from 1980 to
1986. Mr. Lavin moved to TIE Communications where he served as president from
1987 to 1990. TIE Communications acquired Centel Communications, which was later
merged with WilTel Communications where he served as CEO from 1990 to 1993. In
November 1993, Mr. Lavin founded Quest America, a telecommunications consulting
company based in Boston, Massachusetts. On April 10, 1996, Mr. Lavin led a group
that acquired Executone Information Systems' Network Division. The purchaser was
a group financed by Bain Capital, Inc. of Boston, Massachusetts. The company
name was later changed to Claricom, Inc. In March 1999, Claricom successfully
merged its business with Staples Corporation.
Louis Liben has been a director of the Company since February 1999. From
1997 to date, Mr. Libin has been a director, Chief Technology Officer and Senior
Vice President of e.TV Commerce, Inc., a Jacksonville, Florida network
distribution technology company. Mr. Libin is also a director and the Chief
Technology Officer of Compu-DAWN, Inc., a leading public safety software company
in the United States. Louis Libin is the founder of Broadcast Communications,
Inc. (Broad Comm), a broadcast project management group. Mr. Libin is a
world-renowned expert in wireless communications systems. At the International
Telecommunications Union in Geneva, Switzerland, Mr. Libin represents the United
States on satellite and transmission issues and is currently Chairman of the
expert group on interactive data services. Mr. Libin has over 15 years
experience in engineering, communications, and management. From 1983 to 1986,
Mr. Libin was employed by the Radio Corporation of American ("RCA") as a project
manager. In 1986, RCA was acquired by the General Electric Corporation ("G.E.").
From 1987 to 1997, Mr. Libin served as the Director of Technology for NBC/G.E.,
specializing in a broadcast transmission systems and is also an officer as
Corporate Secretary or Assistant Corporate Secretary for all G.E. wholly-owned
subsidiaries that deal in broadcast, with responsibility for technical
developments and all Federal Communications Commission ("FCC") issues and
licenses. From 1981 to 1982, Mr. Libin was employed by the Loral Corporation as
Electronic Design Engineer and designed Radio Frequency ("RF") systems for the
military. From 1979 to 1980 he worked for Burroughs Computer Systems, Inc. (now
UNISYS) as a Field Engineer and from 1980 to 1981 for the Chryon corporation as
Design Engineer.
<PAGE>
Employment Agreements
Walter M. Groteke, Daniel G. Stephens and Kevin F. Sherlock entered into
employment agreements in June 1998 in connection with the acquisition of
Watchdog Patrols, Inc. ("Watchdog Patrols"). Pursuant to these agreements,
Messrs. Groteke, Stephens and Sherlock are employed as Chief Executive Officer,
Chief Information Officer and Chief Operating Officer, respectively, for an
initial term of three years. The agreement provides for automatic renewal for an
additional three years unless terminated by the Company for cause or terminated
by the executive. The base salary for each person is $100,000 increasing to
$150,000 annually in the event NetWolves generates revenues between $5,000,000
and $10,000,000 within one year of the employment term and further increasing to
$250,000 if NetWolves generates revenues of at least $10,000,000 within one year
of the initial employment term. The employment agreements each provide for an
annual incentive equivalent to 2% of the gross profit of NetWolves.
The employment agreements with Messrs. Groteke, Stephens and Sherlock
further provide for certain payments following death or disability for certain
fringe benefits such as reimbursement for reasonable expenses and participation
in medical plans, and for accelerated payments in the event of change of control
of the Company.
Walter M. Groteke, Daniel G. Stephens and Kevin F. Sherlock also have
entered into warrant agreements with the Company whereby each is entitled to
receive warrants to purchase 200,000 shares of the Company's common stock at
$1.63 per share vesting on July 1, 2000. Warrants to purchase 200,000 shares of
the Company's common stock at $1.63 per share also were issued to Walter R.
Groteke. These warrants are fully vested on June 17, 2003 subject to
acceleration under certain events. These events include the sale or disposition
of substantially all of the capital stock or assets of the Company and the
generation of certain revenues by the Company. Specifically, the vesting of
50,000 warrants is accelerated if the Company generates revenues of at least
$5,000,000 within one year from the date of the Watchdog Patrols acquisition,
100,000 warrants will become exercisable if the Company generates at least
$10,000,000 in revenues with at least $2,000,000 in pretax profit within one
year of the Watchdog Patrols acquisition; and 50,000 warrants will become
exercisable if at least $10,000,000 of revenue is generated by the Company with
at least $1,000,000 in pretax profit within the second year following the
Watchdog Patrols acquisition. Further, if the vesting of the warrants is not
otherwise accelerated, they will nevertheless become exercisable if the Company
generates $20,000,000 in revenues with at least $4,000,000 in pretax income
during the second year following the acquisition of Watchdog Patrols.
Stock Option Plan
In June 1998, the Company adopted a 1998 Long Term Incentive Plan (the
"1998 Incentive Plan") in order to motivate qualified employees of the Company,
to assist the Company in attracting employees and to align the interests of such
persons with those of the Company's shareholders.
<PAGE>
The 1998 Incentive Plan provides for a grant of "incentive stock options"
within the meaning of the Section 422 of the Internal Revenue Code of 1986, as
amended, "non-qualified stock options," restricted stock, performance grants and
other types of awards to officers, key employees, consultants and independent
contractors of the Company and its affiliates.
The 1998 Incentive Plan, which will be administered by the Board of
Directors, authorizes the issuance of a maximum of 282,500 shares of common
stock, which may be either newly issued shares, treasury shares, reacquired
shares, shares purchased in the open market or any combination thereof. If any
award under the 1998 Incentive Plan terminates, expires unexercised, or is
cancelled, the shares of common stock that would otherwise have been issuable
pursuant thereto will be available for issuance pursuant to the grant of new
awards. To date, the Company has granted options to purchase 165,500 shares of
common stock under the 1998 Incentive Plan to its officers and key employees.
ITEM 6. EXECUTIVE COMPENSATION
The following table sets forth the annual compensation with regard to the
Chief Executive Officer and each of the other executive officers of the Company
for fiscal year ended June 30, 1998. None of the persons in this summary
compensation table received compensation for the fiscal year ended June 30,
1998.
<TABLE>
<CAPTION>
Summary Compensation Table
Annual Compensation
Name and Fiscal
Principal Position Year Salary Bonus
- ------------------ ------- ------ -----
<S> <C> <C> <C>
Walter M. Groteke 1998 - -
Chairman and Chief
Executive Officer
Daniel G. Stephens 1998 - -
Vice Chairman and
Chief Information
Officer
Kevin Sherlock 1998 - -
Chief Operating Officer
</TABLE>
<PAGE>
ITEM 7. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
On June 17, 1998, NetWolves, LLC merged into a subsidiary of Watchdog
Patrols, Inc., which thereafter changed its name to NetWolves Corporation. The
merger provided for exchange of securities of NetWolves, LLC for the securities
of the Company. The total capital contribution to NetWolves LLC by its members
was $64,245. As part of such exchange, principals of NetWolves, LLC received
2,640,322 shares of NetWolves Corporation for a per share cost of approximately
$.02. Messrs. Walter M. Groteke, Daniel G. Stephens, Jr. , Kevin F. Sherlock and
Keith A. Darling each received 528,064 shares and Mr. Marc Jacques received
475,258 shares. Messrs. Groteke, Stephens, Sherlock, Darling and Jacques also
each received 200,000 warrants in connection with the merger, exercisable at a
price of $1.63 per share. The exercise price was based upon the public trading
price of Watchdog Patrols Inc's common stock at the time of the acquisition.
Howard Habberstadt and Joseph Ariola acted as finders for the merger transaction
for which they received 75,000 warrants and 12,500 warrants, respectively,
exercisable at a price of $2.00 per share. The exercise price for the warrants
issued to Messrs. Habberstad and Ariola was determined through arms-length
negotiations between the parties.
Greenleaf Capital Partners LLC was a shareholder of Watchdog Patrols, Inc.
prior to the merger, having acquired 1,141,360 shares at an aggregate purchase
price of $2,200,000. Greenleaf Capital received demand registration rights in
connection with the merger. Pursuant to these rights, Greenleaf Capital or any
member or members of Greenleaf Capital owning at least 20% of the outstanding
shares of common stock owned by Greenleaf Capital, has the right to request in
writing that NetWolves register such shares under a registration statement to be
filed with the Securities and Exchange Commission. The Company is thereafter
required to file such registration statement within sixty (60) days after
receipt of the request. The Company is further obligated to maintain the
effectiveness of the registration statement until the securities covered
thereunder have been sold.
ITEM 8. LEGAL PROCEEDINGS
There are no material pending legal proceedings to which the Company is a
party or of which any of their property is the subject.
<PAGE>
ITEM 9. MARKET PRICE OF AND DIVIDENDS ON THE REGISTRANT'S
COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
NetWolves' common stock has traded on the OTC Bulletin Board under the
symbol "WOLV" since December 1998. Prior to the December name and symbol change,
the Company's stock traded under the symbol "WDGT", Watchdog Patrols, Inc. The
following table sets forth the high and low closing prices for the common stock
for the periods indicated.
<TABLE>
<CAPTION>
High Low
---- ---
<S> <C> <C>
1999
Second Quarter (through April 5, 1999). . . . . $11.50 $10.625
First Quarter . . . . . . . . . . . . . . . . . 16.00 4.50
1998
Fourth Quarter. . . . . . . . . . . . . . . . . $4.875 $3.25
Third Quarter . . . . . . . . . . . . . . . . . 7.75 4.50
Second Quarter (since June 17, 1998) . . . . . 5.00 1.625
</TABLE>
As of April 5, 1999, there were approximately 225 holders of record of the
common stock. On April 5, 1999, the closing sales price of NetWolves common
stock was $11.50 per share.
NetWolves has not paid any cash dividends on its Common Stock and does not
presently intend to do so. Future dividend policy will be determined by its
Board of Directors on the basis of NetWolves' earnings, capital requirements,
financial condition and other factors deemed relevant.
The transfer agent and registrar of NetWolves' Common Stock is American
Stock Transfer and Trust Co., 40 Wall Street, New York, New York 10005.
<PAGE>
ITEM 10. RECENT SALES OF UNREGISTERED SECURITIES
1. In June 1998, in connection with the merger of Watchdog Patrols, Inc.
with the Company 2,640,322 shares of the Company's common stock were issued to
the principals of NetWolves, LLC in exchange for their ownership interest in
that company. The book value of the NetWolves, LLC ownership interest totalled
$64,245 at the time of the merger, representing a cost for the 2,640,322 shares
of approximately $.02 per share. This was a transaction by the Company not
involving any public offering which was exempt from the registration
requirements under the Securities Act pursuant to Section 4(2) thereof.
2. In January 1999, an aggregate of 260,000 shares of the Company's common
stock (valued at $5.125 per share) were issued to a person in exchange for
services rendered. This was a transaction by the Company not involving any
public offering which was exempt from the registration requirements under the
Securities Act pursuant to Section 4(2) thereof.
3. In January 1999, an aggregate of 200,000 shares of the Company's common
stock (valued at $5.125 per share) were issued to two persons in exchange for
services rendered. These were transactions by the Company not involving any
public offering which were exempt from the registration requirements under the
Securities Act pursuant to Section 4(2) thereof.
4. In January 1999, an aggregate of 250,000 shares of the Company's common
stock (valued at $5.125 per share) were issued to three directors of the Company
in exchange for services rendered. This was transaction by the Company not
involving any public offering which was exempt from the registration
requirements under the Securities Act pursuant to Section 4(2) thereof.
ITEM 11. DESCRIPTION OF REGISTRANT'S SECURITIES TO BE REGISTERED
The Company's authorized capital stock consists of 10,000,000 shares of
common stock, $.0033 par value per share.
Holders of the common stock do not have subscription, redemption,
conversion or preemptive rights. The shares of common stock when issued and paid
for, are fully paid and non-assessable. Each share of common stock is entitled
to participate pro rata in distribution upon liquidation and to one vote on all
matters submitted to a vote of shareholders. The holders of common stock may
receive cash dividends as declared by the Board of Directors out of funds
legally available therefor. Holders of the common stock are entitled to elect
all directors. At each annual meeting of the shareholders all of the directors
will be elected. The holders of the common stock do not have cumulative voting
rights, which means that the holders of more than half of the shares voting for
the election of a class of directors can elect all of the directors of such
class and in such event the holders of the remaining shares will not be able to
elect any of such directors.
<PAGE>
ITEM 12. INDEMNIFICATION OF DIRECTORS AND OFFICERS
The Company's Certificate of Incorporation and By-laws contain provisions
which reduce the potential personal liability of directors for certain monetary
damages and provide for indemnity of directors and other persons. The Company is
unaware of any pending or threatened litigation against the Company or its
directors that would result in any liability for which such director would seek
indemnification or similar protection.
Such indemnification provisions are intended to increase the protection
provided directors and, thus, increase the Company's ability to attract and
retain qualified persons to serve as directors. The Company currently maintains
a liability insurance policy for the benefit of its directors in the sum of
$3,000,000.
The provisions affecting personal liability do not abrogate a director's
fiduciary duty to the Company and its shareholders, but eliminate personal
liability for monetary damages for breach of that duty. The provisions do not,
however, eliminate or limit the liability of a director for failing to act in
good faith, for engaging in intentional misconduct or knowingly violating a law,
for authorizing the illegal payment of a dividend or repurchase of stock, for
obtaining an improper personal benefit, for breaching a director's duty of
loyalty (which is generally described as the duty not to engage in any
transaction which involves a conflict between the interests of the Company and
those of the director) or for violations of the federal securities laws. The
provisions also limit or indemnify against liability resulting from grossly
negligent decisions including grossly negligent business decisions relating to
attempts to change control of the Company.
The provisions regarding indemnification provide, in essence, that the
Company will indemnify its directors against expenses (including attorneys'
fees), judgments, fines and amounts paid in settlement actually and reasonably
incurred in connection with any action, suit or proceeding arising out of the
director's status as a director of the Company, including actions brought by or
on behalf of the Company (shareholder derivative actions). The provisions do not
require a showing of good faith. Moreover, they do not provide indemnification
for liability arising out of willful misconduct, fraud, or dishonesty, for
"short-swing" profits violations under the federal securities laws, or for the
receipt of illegal remuneration. The provisions also do not provide
indemnification for any liability to the extent such liability is covered by
insurance. One purpose of the provisions is to supplement the coverage provided
by such insurance.
These provisions diminish the potential rights of action which might
otherwise be available to shareholders by limiting the liability of officers and
directors to the maximum extent allowable under New York law and by affording
indemnification against most damages and settlement amounts paid by a director
of the Company in connection with any shareholders derivative action. However,
the provisions do not have the effect of limiting the right of a shareholder to
enjoin a director from taking actions in breach of his fiduciary duty, or to
cause the Company to rescind actions already taken, although as a practical
matter courts may be unwilling to grant such equitable remedies in circumstances
in which such actions have already been taken.
<PAGE>
The Company also has entered into indemnification agreements with its
officers and directors. The indemnification agreements provide for reimbursement
for all direct and indirect costs of any type or nature whatsoever (including
attorneys' fees and related disbursements) actually and reasonably incurred in
connection with either the investigation, defense or appeal of a proceeding, (as
defined) including amounts paid in settlement by or on behalf of an indemnitee
thereunder.
ITEM 13. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
See attached statements.
ITEM 14. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE
Not applicable.
<PAGE>
ITEM 15. FINANCIAL STATEMENTS AND EXHIBITS
(a) See Index to Financial Statements at beginning of attached financial
statements.
(b) Exhibits
3.1 Certificate of Incorporation, as amended. *
3.2 By-Laws. *
4.1 Specimen common stock certificate.*
4.2 Form of warrant to investment banking firm. *
4.3 Form of warrant to employees. *
10.1 Merger and Reorganization Agreement dated June 15, 1998 among
Watchdog Patrols, Inc., Watchdog Acquisition Corp. and NetWolves,
LLC. *
10.2 Agreement between The Sullivan Group and NetWolves Corporation dated
January 5, 1999.*
10.3 Distribution Agreement between NetWolves Corporation and Anicom, Inc.
dated as of January 18, 1999. *
10.4 Employment Agreement between NetWolves Corporation and Daniel G.
Stephens, Jr. dated June 17, 1998.*
10.5 Employment Agreement between NetWolves Corporation and Walter M.
Groteke dated June 17, 1998.*
10.6 Employment Agreement between NetWolves Corporation and Kevin F.
Sherlock dated June 17, 1998.*
10.7 Warrant Agreement between NetWolves Corporation and Walter M.
Groteke dated June 17, 1998.*
10.8 Warrant Agreement between NetWolves Corporation and Daniel G.
Stephens, Jr. dated June 17, 1998.*
10.9 Warrant Agreement between NetWolves Corporation and Kevin F.
Sherlock dated June 17, 1998.*
10.10 Stock Option Plan.*
10.11 Form of Indemnification Agreement*
10.12 Settlement Agreement and Mutual Release with Keith Darling.*
10.13 Settlement Agreement and Mutual Release with Mark Jacques.*
27 Financial Data Schedule*
- ------
* Previously filed
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 12 of the Securities Exchange Act
of 1934, the registrant has duly caused this amendment to registration statement
to be signed on its behalf by the undersigned, thereunto duly authorized.
NETWOLVES CORPORATION
/s/ Walter M. Groteke
By: Walter M. Groteke
Chairman of the Board and
President
Dated: March 9, 2000
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
(A Development Stage Company)
CONSOLIDATED FINANCIAL STATEMENTS
FOR THE PERIOD FROM FEBRUARY 13, 1998 (INCEPTION)
TO JUNE 30, 1998 AND FOR THE
THREE AND SIX MONTHS ENDED DECEMBER 31, 1998 (UNAUDITED)
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
(A Development Stage Company)
CONSOLIDATED FINANCIAL STATEMENTS
PERIOD FROM FEBRUARY 13, 1998 (INCEPTION)
TO JUNE 30, 1998 AND FOR THE
THREE AND SIX MONTHS ENDED DECEMBER 31, 1998 (UNAUDITED)
CONTENTS
INDEPENDENT AUDITOR'S REPORT ............................................. F-1
CONSOLIDATED BALANCE SHEETS
June 30, 1998 and December 31, 1998 (unaudited) ........................ F-2
CONSOLIDATED STATEMENTS OF OPERATIONS
For the period from February 13, 1998 (inception) to June 30, 1998 and
for the three and six months ended December 31, 1998 (unaudited) ....... 3
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
For the period from February 13, 1998 (inception) to June 30, 1998 and
for the six months ended December 31, 1998 (unaudited) .................. F-4
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the period from February 13, 1998 (inception) to June 30, 1998 and
for the six months ended December 31, 1998 (unaudited) .................. F-5
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS ........................ F-6 - F-17
<PAGE>
Board of Directors and Shareholders
NetWolves Corporation
Melville, New York
INDEPENDENT AUDITOR'S REPORT
We have audited the accompanying consolidated balance sheet of NetWolves
Corporation and subsidiaries (the "Company") as of June 30, 1998, and the
related consolidated statements of operations, shareholders' equity and cash
flows for the period from February 13, 1998 (inception) to June 30, 1998. 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 audit.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of NetWolves
Corporation and subsidiaries as of June 30, 1998, and the consolidated results
of their operations and their consolidated cash flows for the period from
February 13, 1998 (inception) to June 30, 1998 in conformity with generally
accepted accounting principles.
/s/ Hays & Company
Hays & Company
February 25, 1999, except for Note 10c which
is dated March 23, 1999
New York, New York
F-1
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
(A Development Stage Company)
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
December 31,
June 30, 1998
1998 (unaudited)
----------- -------------
ASSETS
<S> <C> <C>
Current assets
Cash and cash equivalents $ 1,118,416 $ 808,279
Marketable securities, available for sale, at market value 1,063,828 463,500
Accounts receivable, net of allowance for doubtful
accounts of $5,000 6,803 77,898
Net assets held for sale (Note 4) 720,000 275,000
Inventories 22,410 194,553
Prepaid expenses and other current assets 18,318 99,471
----------- -----------
Total current assets 2,949,775 1,918,701
Property and equipment, net 4,949 48,805
Other assets 4,727 8,938
----------- -----------
$ 2,959,451 $ 1,976,444
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities
Accounts payable and accrued expenses $ 31,448 $ 187,470
----------- -----------
Total current liabilities 31,448 187,470
----------- -----------
Commitments and contingencies (Notes 4, 7, 9 and 10)
Shareholders' equity
Common stock, $.0033 par value; 10,000,000 shares authorized;
issued and outstanding: 4,313,870 - June 30, 1998
and 4,663,870 - December 31, 1998 14,236 15,391
Additional paid-in capital 3,012,159 5,503,754
Deficit accumulated during the development stage (99,414) (3,928,516)
Accumulated other comprehensive income 1,022 198,345
----------- -----------
Total shareholders' equity 2,928,003 1,788,974
----------- -----------
$ 2,959,451 $ 1,976,444
=========== ===========
<FN>
The accompanying notes are an integral part of these consolidated financial
statements.
</FN>
</TABLE>
F-2
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
(A Development Stage Company)
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
Period from
Period from Three months Six months February 13,
February 13, ended ended 1998 (inception)
1998 December 31, December 31, to December 31,
(inception) to 1998 1998 1998
June 30, 1998 (unaudited) (unaudited) (unaudited)
------------- ----------- ----------- ---------------
<S> <C> <C> <C> <C>
Sales $ 29,621 $ 35,961 $ 80,714 $ 110,335
Cost of goods sold 5,681 15,179 31,478 37,159
----------- ----------- ----------- -----------
Gross profit from sales 23,940 20,782 49,236 73,176
----------- ----------- ----------- -----------
Operating expenses
General and administrative 105,047 1,000,772 1,836,471 1,941,518
Research and development -- 78,512 91,616 91,616
Sales and marketing 44,463 978,431 1,979,587 2,024,050
----------- ----------- ----------- -----------
149,510 2,057,715 3,907,674 4,057,184
----------- ----------- ----------- -----------
Loss before other income (expense)
and benefit from income taxes (125,570) (2,036,933) (3,858,438) (3,984,008)
Other income (expense)
Interest income 3,011 14,536 27,218 30,229
Loss on sale of marketable securities -- (8,047) (8,047) (8,047)
Dividend income 3,490 7,131 10,165 13,655
Interest expense (345) -- -- (345)
----------- ----------- ----------- -----------
Loss before benefit from income taxes (119,414) (2,023,313) (3,829,102) (3,948,516)
Benefit from income taxes 20,000 -- -- 20,000
----------- ----------- ----------- -----------
Net loss $ (99,414) $(2,023,313) $(3,829,102) $(3,928,516)
=========== =========== =========== ===========
Basic and diluted net loss per share $ (0.04) $ (0.47) $ (0.89) $ (1.07)
=========== =========== =========== ===========
Weighted average common
shares outstanding 2,810,102 4,317,674 4,315,772 3,670,485
=========== =========== =========== ===========
<FN>
The accompanying notes are an integral part of
these consolidated financial statements.
</FN>
</TABLE>
F-3
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
(A Development Stage Company)
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
PERIOD FROM FEBRUARY 13, 1998 (INCEPTION) TO JUNE 30, 1998
AND FOR THE SIX MONTHS ENDED DECEMBER 31, 1998 (UNAUDITED)
<TABLE>
<CAPTION>
Deficit
accumulated Accumulated Compre-
Additional during the other Total hensive
Common stock paid-in development comprehensive shareholders' income
Shares Amount capital stage income equity (loss)
------ ------ ---------- ----------- ------------- ------------ ---------
<S> <C> <C> <C> <C> <C> <C> <C>
Initial capital contributions to NetWolves, LLC 100 $ 64,245 $ - $ - $ - $ 64,245
Reverse acquisition, June 17, 1998 (Note 2)
Exchange of NetWolves, LLC membership
interests (100) (64,245) - - - (64,245)
Issuance of common stock to owners of
NetWolves, LLC 2,640,322 8,713 55,532 - - 64,245
Outstanding common stock of Watchdog
Patrols, Inc. 1,673,548 5,523 2,956,627 - - 2,962,150
Marketable securities valuation adjustment - - - - 1,022 1,022 $ 1,022
Net loss, period from February 13, 1998
(inception) to June 30, 1998 - - - (99,414) - (99,414) (99,414)
---------- --------- ---------- ----------- ------- ----------- ----------
Total comprehensive loss $ (98,392)
==========
Balance, June 30, 1998 4,313,870 14,236 3,012,159 (99,414) 1,022 2,928,003
Marketable securities valuation
adjustment (unaudited) - - - - 197,323 197,323 $ 197,323
Common stock and warrants issued for
services (unaudited) 350,000 1,155 2,491,595 - - 2,492,750 -
Net loss, six months ended
December 31, 1998 (unaudited) - - - (3,829,102) - (3,829,102) (3,829,102)
---------- --------- ---------- ----------- ------- ----------- ----------
Total comprehensive loss (unaudited) $(3,631,779)
===========
Balance, December 31, 1998 (unaudited) 4,663,870 $ 15,391 $ 5,503,754 $(3,928,516) $198,345 $ 1,788,974
========== ========= =========== =========== ======== ===========
<FN>
The accompanying notes are an integral part of these consolidated
financial statements.
</FN>
</TABLE>
F-4
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
(A Development Stage Comany)
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Period from
Period from Six months February 13
February 13, ended 1998 (inception)
1998 December 31, to December 31,
(inception) to 1998 1998
June 30, 1998 (unaudited) (unaudited)
------------- ------------ ----------------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
<S> <C> <C> <C>
Cash flows from operating activities
Net loss $ (99,414) $(3,829,102) $ (3,928,516)
Adjustments to reconcile net loss to net cash used in
operating activities
Depreciation 401 3,541 3,942
Realized loss on sale of marketable securities -- 8,047 8,047
Provision for doubtful accounts 5,000 -- 5,000
Common stock and warrants issued for services -- 2,492,750 2,492,750
Deferred income tax benefit (20,000) -- (20,000)
Changes in operating assets and liabilities
Accounts receivable (11,803) (71,095) (82,898)
Inventories (22,410) (172,143) (194,553)
Prepaid expenses and other current assets (18,318) (81,153) (99,471)
Accounts payable and accrued expenses 31,448 156,022 187,470
----------- ----------- ------------
Net cash used in operating activities (135,096) (1,493,133) (1,628,229)
----------- ----------- ------------
Cash flows from investing activities
Proceeds from the sale of marketable securities -- 789,604 789,604
Proceeds from assets held for sale, net -- 445,000 445,000
Purchases of property and equipment (5,350) (47,397) (52,747)
Payments of security deposits (4,727) (4,211) (8,938)
----------- ----------- ------------
Net cash provided by investing activities (10,077) 1,182,996 1,172,919
----------- ----------- ------------
Cash flows from financing activities
Proceeds from initial capital contribution 64,245 -- 64,245
Cash acquired in reverse acquisition 1,460,366 -- 1,460,366
Transaction costs paid in connection with reverse acquisition (261,022) -- (261,022)
----------- ----------- ------------
Net cash provided by financing activities 1,263,589 -- 1,263,589
----------- ----------- ------------
Net increase (decrease) in cash and cash equivalents 1,118,416 (310,137) 808,279
Cash and cash equivalents, beginning of period -- 1,118,416 --
----------- ----------- ------------
Cash and cash equivalents, end of period $ 1,118,416 $ 808,279 $ 808,279
=========== =========== ============
SUPPLEMENTAL DISCLOSURE OF NONCASH
INVESTING AND FINANCING ACTIVITIES
Reverse acquisition (Note 2)
Marketable securities acquired $ 1,062,806 $ -- $ 1,062,806
Net assets held for sale 720,000 -- 720,000
Deferred income tax liability (20,000) -- (20,000)
Cash acquired, net of $261,022 of transaction costs paid 1,199,344 -- 1,199,344
----------- ----------- ------------
Outstanding common stock of Watchdog Patrols, Inc. $ 2,962,150 $ -- $ 2,962,150
=========== =========== ============
<FN>
The accompanying notes are an integral part of
these consolidated financial statements.
</FN>
</TABLE>
F-5
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
(A Development Stage Company)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
PERIOD FROM FEBRUARY 13, 1998 (INCEPTION)
TO JUNE 30, 1998 AND FOR THE
SIX MONTHS ENDED DECEMBER 31, 1998 (UNAUDITED)
1 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 (Note 4), Watchdog
changed its name to NetWolves Corporation (the "Company").
The Company is a development stage company 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. The Company is expecting to ship its
first significant order, in excess of $1,500,000, in March/April 1999.
2 Reverse acquisition
On June 17, 1998, Watchdog acquired all of the outstanding common stock of
NetWolves, LLC (the "Merger"). For accounting purposes, the acquisition has
been treated as an acquisition of Watchdog by NetWolves, LLC and as a
recapitalization of NetWolves, LLC. The historical financial statements
prior to June 17, 1998 are those of NetWolves, LLC. The acquisition of
Watchdog has been recorded based on the fair value of Watchdog's net
tangible assets, which consist primarily of cash, marketable securities and
certain assets held for sale (Note 4), with an aggregate value of
$2,962,150 (net of transaction costs of $261,022). Since this transaction
is in substance, a recapitalization of NetWolves, LLC and not a business
combination, pro forma information is not presented.
As part of the Merger, the NetWolves, LLC membership interests were
converted into 2,640,322 shares of Watchdog common stock and warrants to
purchase an aggregate of 620,000 shares of Watchdog common stock at an
exercise price of $1.63 per share. Immediately prior to the Merger, there
were 1,673,548 shares of Watchdog common stock issued and outstanding. In
addition, certain pre-Merger shareholders of Watchdog received warrants to
purchase 500,000 shares of Watchdog common stock at an exercise price of
$1.63 per share. Additionally, two individuals, who provided consulting
services with respect to the Merger, received warrants to purchase an
aggregate of 87,500 shares of Watchdog common stock at an exercise price of
$2.00 per share. These warrants are described further in Note 7.
3 Significant accounting policies
Principles of consolidation
The consolidated financial statements include the accounts of the Company
and its wholly-owned subsidiaries. All significant intercompany
transactions and balances have been eliminated in consolidation.
F-6
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
(A Development Stage Company)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
PERIOD FROM FEBRUARY 13, 1998 (INCEPTION)
TO JUNE 30, 1998 AND FOR THE
SIX MONTHS ENDED DECEMBER 31, 1998 (UNAUDITED)
3 Significant accounting policies (continued)
Interim financial information
The unaudited consolidated balance sheet as of December 31, 1998, the
unaudited consolidated statements of operations for the three and six
months ended December 31, 1998 and the unaudited consolidated statement of
cash flows for the six months ended December 31, 1998, have been prepared
by the Company and in the opinion of management include all adjustments
consisting only of normal recurring accruals, which management considers
necessary for the fair presentation of the financial statements for such
periods. The Company's results of operations for the six months ended
December 31, 1998, are not necessarily indicative of results that may be
expected for any other future interim periods or for the year ending June
30, 1999.
Fiscal year-end
The Company operates on a fiscal-year end of June 30.
Risks and other factors
As a company that has developed a software product for use as a
multi-functional Internet communications device, and whose planned
principal operations has not yet commenced, NetWolves Corporation faces
certain risks. These include, among other items, the ability to implement
its business plan, dependence on proprietary technology, rapid
technological change, challenges in recruiting personal and a highly
competitive market place.
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.
Marketable securities
Marketable securities, which are all classified as "available for sale",
are valued at fair market value. Unrealized gains or losses are recorded
net of income taxes as "accumulated other comprehensive income" in
shareholders' equity, whereas realized gains and losses are recognized in
the Company's statements of operations using the first-in, first-out
method.
F-7
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
(A Development Stage Company)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
PERIOD FROM FEBRUARY 13, 1998 (INCEPTION)
TO JUNE 30, 1998 AND FOR THE
SIX MONTHS ENDED DECEMBER 31, 1998 (UNAUDITED)
3 Significant accounting policies (continued)
Inventories
Inventories consist of raw materials and finished goods. Inventories are
valued at the lower of cost or net realizable value using the first-in,
first-out method.
Property and equipment
Property and equipment are stated at cost and depreciated on a
straight-line basis over the estimated useful lives of the related assets.
Expenditures for maintenance and repairs are charged directly to the
appropriate operating accounts at the time the expense is incurred.
Expenditures determined to represent additions and betterments are
capitalized.
Software development costs
Costs associated with the development of software products are generally
capitalized once technological feasibility is established. Purchased
software technologies are recorded at cost. Software costs associated with
technology development and purchased software technologies are amortized
using the greater of the ratio of current revenue to total projected
revenue for a product or the straight-line method over its estimated useful
life. Amortization of software costs begins when products become available
for general customer release. Costs incurred prior to establishment of
technological feasibility are expensed as incurred and reflected as
research and development costs in the accompanying consolidated statements
of operations.
Start-up and organization costs
The Company accounts for start-up costs in accordance with Statement of
Position 98-5, "Reporting on the Costs of Start-up Activities" ("SOP
98-5"), issued by the American Institute of Certified Public Accountants.
SOP 98-5 requires the cost of start-up activities, including organization
costs, to be expensed as incurred.
Impairment of long-lived assets
The Company reviews its long-lived assets, including software development
costs and property and equipment, for impairment whenever events or changes
in circumstances indicate that the carrying amount of the assets may not be
fully recoverable. To determine recoverability of its long-lived assets,
the Company evaluates the probability that future undiscounted net cash
flows, without interest charges, will be less than the carrying amount of
the assets. The Company has determined that as of June 30, 1998, there has
been no impairment in the carrying value of long-lived assets.
F-8
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
(A Development Stage Company)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
PERIOD FROM FEBRUARY 13, 1998 (INCEPTION)
TO JUNE 30, 1998 AND FOR THE
SIX MONTHS ENDED DECEMBER 31, 1998 (UNAUDITED)
3 Significant accounting policies (continued)
Income taxes
The Company accounts for income taxes using the liability method which
requires the determination of deferred tax assets and liabilities based on
the differences between the financial and tax bases of assets and
liabilities using enacted tax rates in effect for the year in which
differences are expected to reverse. The net deferred tax asset is adjusted
by a valuation allowance, if, based on the weight of available evidence, it
is more likely than not that some portion or all of the net deferred tax
asset will not be realized. The Company and its subsidiaries are expected
to file a consolidated Federal income tax return.
Stock Options
Statement of Financial Accounting Standards No. 123, "Accounting for
Stock-Based Compensation" ("SFAS 123") establishes a fair value-based
method of accounting for stock compensation plans. The Company has chosen
to adopt the disclosure requirements of SFAS 123 and continue to record
stock compensation for its employees in accordance with Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees"
("APB 25"). Under APB 25, charges are made to operations in accounting for
stock options granted to employees when the option exercise prices are
below the fair market value of the common stock at the measurement date.
Options granted to non-employees are recorded in accordance with SFAS 123.
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.
The effect of the recapitalization on the NetWolves, LLC members has been
given retroactive application in the earnings per share calculation. The
common stock issued and outstanding with respect to the pre-Merger Watchdog
shareholders has been included since the effective date of the Merger.
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.
Cash and cash equivalents
Generally, the Company considers investments with original maturities of
three months or less to be cash equivalents.
Concentrations and fair value of financial instruments
Financial instruments that potentially subject the Company to
concentrations of credit risk consist principally of cash investments and
marketable securities. At June 30, 1998, the Company's cash investments are
held at various financial institutions, which limits the amount of credit
exposure to any one financial institution. Concentrations of credit risk
with respect to marketable securities consist of a varied portfolio, which
limits the amount of credit exposure to any one particular investment.
Unless otherwise disclosed, the fair value of financial instruments
approximates their recorded values.
F-9
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
(A Development Stage Company)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
PERIOD FROM FEBRUARY 13, 1998 (INCEPTION)
TO JUNE 30, 1998 AND FOR THE
SIX MONTHS ENDED DECEMBER 31, 1998 (UNAUDITED)
3 Significant accounting policies (continued)
Use of estimates
In preparing 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 consolidated
financial statements, as well as the reported amounts of revenue and
expenses during the reporting period. Actual results could differ from
those estimates.
4 Net assets held for sale
In November 1998, the Company sold substantially all of the business assets
related to Watchdog's uniformed security guard services operations to W
Acquisition Corp. (the "Purchaser") for $600,000. The Purchaser acquired
all inventory, furniture and equipment, customer lists, trade rights,
contracts, goodwill and rights to the name "Watchdog Patrols, Inc." (the
"Assets"). The Company retained responsibility for all remaining accounts
receivable, other current assets, accounts payable and accrued expenses.
The net assets held for sale are classified as a current asset and are
reflected at net realizable value based on the selling price of the Assets,
the net estimated liquidation value of the assets and liabilities retained,
and the net negative cash flows from the operations of the security guard
business during the period from June 17, 1998 (the date of acquisition) to
the date of disposal in November 1998. Net assets held for sale consist of
the following:
<TABLE>
<CAPTION>
December 31,
1998
June 30, 1998 (unaudited)
------------- -------------
<S> <C> <C>
Sale of Assets $ 600,000 $ -
Retained assets and liabilities
Accounts receivable 500,000 250,000
Other current assets 140,000 140,000
Accounts payable and accrued expenses (460,000) (115,000)
Cash out-flows from operations during holding period (60,000) -
----------- -----------
Net assets held for sale $ 720,000 $ 275,000
=========== ===========
</TABLE>
F-10
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
(A Development Stage Company)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
PERIOD FROM FEBRUARY 13, 1998 (INCEPTION)
TO JUNE 30, 1998 AND FOR THE
SIX MONTHS ENDED DECEMBER 31, 1998 (UNAUDITED)
5 Marketable securities, available for sale
The following is a summary of marketable securities, available for sale:
<TABLE>
<CAPTION>
Gross
Amortized unrealized Fair
cost gain (loss) value
---------- ----------- ----------
<S> <C> <C> <C>
June 30, 1998
Mutual funds/equity securities $ 569,131 $ (536) $ 568,595
Bonds 493,675 1,558 495,233
---------- -------- ----------
$1,062,806 $ 1,022 $1,063,828
========== ======== ==========
December 31, 1998 (unaudited)
Mutual funds/equity securities $ 70,000 $230,000 $ 300,000
Bonds 195,155 (31,655) 163,500
---------- -------- ----------
$265,155 $198,345 $ 463,500
========== ======== ==========
</TABLE>
Changes in the unrealized gain (loss) on marketable securities, available
for sale are reported as separate components of shareholders' equity.
The maturities of the Company's debt securities at June 30, 1998 are as
follows:
<TABLE>
<CAPTION>
Amortized Fair
Cost value
--------- -----------
<S> <C> <C>
Due in one year or less $ - $ -
Due after one year through five years 202,660 203,733
Due after six years through ten years 291,015 291,500
---------- -----------
$ 493,675 $ 495,233
========== ===========
</TABLE>
F-11
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
(A Development Stage Company)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
PERIOD FROM FEBRUARY 13, 1998 (INCEPTION)
TO JUNE 30, 1998 AND FOR THE
SIX MONTHS ENDED DECEMBER 31, 1998 (UNAUDITED)
6 Property and equipment
Property and equipment consists of the following:
<TABLE>
<CAPTION>
December 31,
Useful life 1998
in years June 30, 1998 (unaudited)
----------- ------------- ------------
<S> <C> <C> <C>
Machinery and equipment 5 $ 3,350 $ 36,601
Furniture and fixtures 5 2,000 16,146
---------- -----------
5,350 52,747
Less accumulated depreciation (401) (3,942)
---------- -----------
Property and equipment, net $ 4,949 $ 48,805
========== ===========
</TABLE>
7 Shareholders' equity
Common stock issuances
During the six months ended December 31, 1998, the Company issued 350,000
shares of its common stock as follows:
. 150,000 shares were issued to the Company's Vice President of Sales
and Marketing (who is also a Director of the Company) for services
rendered during the six months ended December 31, 1998, which resulted
in a charge to operations of approximately $769,000. Management
determined the fair value of the common stock based on its quoted
market price at the time of issuance.
. 200,000 shares were issued to Internet Technologies, Inc., a
consultant to the Company ("Internet Technologies"), for services
rendered during the six months ended December 31, 1998, which resulted
in a charge to operations of $1,025,000. Management determined the
fair value of the common stock based on its quoted market price at the
time of issuance. Internet Technologies has demand registration rights
on these 200,000 shares.
During January 1999, the Company issued 360,000 shares of its common stock
as follows:
. 60,000 shares were issued to Internet Technologies for services to be
rendered during the three months ending March 31, 1999, which resulted
in a charge to operations in such quarter of approximately $308,000.
Management determined the fair value of the common stock based on its
quoted market price at the time of issuance. Additionally, Internet
Technologies has the right to receive up to 60,000 shares upon
completion of a $6,000,000 private placement (Note 10c) and an
additional 60,000 shares upon completion of a second private
placement, if any.
. 100,000 shares were issued to a financial consultant for services to
be rendered during the three months ending March 31, 1999, which
resulted in a charge to operations in such quarter of approximately
$513,000. Management determined the fair value of the common stock
based on its quoted market price at the time of issuance.
. 100,000 shares were issued in conjunction with the appointment of two
new Directors of the Company effective February 1, 1999 (50,000 shares
each), which resulted in an aggregate charge to operations in such
quarter of approximately $513,000. Management determined the fair
value of the common stock based on its quoted market price at the time
of issuance.
. 100,000 shares were issued to the Company's legal counsel for services
to be rendered during the three months ending March 31, 1999, which
resulted in a charge to operations in such quarter of approximately
$513,000. Management determined the fair value of the common stock
based on its quoted market price at the time of issuance.
Another shareholder, Greenleaf Capital Partners, LLC (a pre-Merger
shareholder of Watchdog), has demand registration rights on its 1,141,360
shares of common stock.
F-12
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
(A Development Stage Company)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
PERIOD FROM FEBRUARY 13, 1998 (INCEPTION)
TO JUNE 30, 1998 AND FOR THE
SIX MONTHS ENDED DECEMBER 31, 1998 (UNAUDITED)
7 Shareholders' equity (continued)
Stock option plan
In June 1998, the Company adopted the 1998 Long Term Incentive Plan (the
"1998 Incentive Plan") in order to motivate qualified employees of the
Company, to assist the Company in attracting employees and to align the
interests of such persons with those of the Company's shareholders. The
1998 Incentive Plan, which authorizes the issuance of a maximum of 282,500
shares of common stock, provides for a grant of incentive stock options,
non-qualified stock options, restricted stock, performance grants and other
types of awards to officers, key employees, consultants and independent
contractors of the Company and its affiliates. The 1998 Incentive Plan is
administered by the Board of Directors, which has sole discretion and
authority, consistent with the provisions of the 1998 Incentive Plan, to
determine which eligible participants will receive options, the time when
options will be granted and the terms of options granted.
In January 1999, the Company granted options to purchase 165,500 shares of
common stock under the 1998 Incentive Plan to key employees at an exercise
price of $5.00 per share that vest in equal installments over three years
commencing January 2000. The exercise price represents the closing quoted
price of the common stock on the day immediately prior to the grants. All
options expire in ten years from the grant date.
Warrants
On June 17, 1998, in conjunction with the Merger, the Company granted
warrants to purchase 1,207,500 shares of its common stock as follows:
. 620,000 ten-year warrants issued to the former members of NetWolves
LLC at an exercise price of $1.63 per share. Originally, an aggregate
of 1,000,000 warrants were granted to six individuals; upon
termination of two of these individuals in January 1999, 380,000
warrants were cancelled resulting in 620,000 outstanding warrants. The
warrants were originally issued as performance-based warrants, vesting
only upon achieving specified financial targets. In January 1999, the
vesting terms of 600,000 of the warrants were amended so that the
warrants would automatically vest in June 2000. Accordingly, the
modification changed the warrant to a fixed-warrant and a new
measurement date was established. The intrinsic value of the modified
warrants approximated $1,908,000, which will be charged to operations
over the 18-month vesting period (also see Note 9).
. 500,000 five-year warrants issued to certain pre-Merger shareholders
of Watchdog at an exercise price of $1.63 per share. These warrants
became exercisable when granted. The pre-merger shareholders have
demand registration rights on the shares of common stock issuable upon
exercise of these warrants.
. 87,500 five-year warrants issued to two individuals who provided
consulting services with respect to the Merger at an exercise price of
$2.00 per share. These warrants became exercisable when granted.
F-13
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
(A Development Stage Company)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
PERIOD FROM FEBRUARY 13, 1998 (INCEPTION)
TO JUNE 30, 1998 AND FOR THE
SIX MONTHS ENDED DECEMBER 31, 1998 (UNAUDITED)
7 Shareholders' equity (continued)
Warrants (continued)
During the six months ended December 31, 1998, the Company granted warrants
to purchase 200,000 shares of its common stock as follows:
. 200,000 ten-year warrants issued to the Company's Vice President of
Sales and Marketing (who is also a Director of the Company) at an
exercise price of $1.63 per share. The warrants vest in 5 years
subject to acceleration pursuant to specified performance criteria.
These warrants were issued for services rendered during the six months
ended December 31, 1998 and resulted in a charge to operations of
approximately $699,000, based upon the intrinsic value of the warrants
on the date of grant.
During January 1999, the Company granted warrants to purchase 400,000
shares of its common stock as follows:
. 100,000 two-year warrants were issued to two terminated employees
(50,000 warrants each) at an exercise price of $5.00 per share (also
see Note 9). The warrants vest only upon the independent contractors'
submission of valid, legally binding purchase orders totaling
$10,000,000 for the period from January 1, 1999 to December 31, 1999.
The potential charge to operations upon achieving specified
performance criteria is approximately $200,000. The value of the
warrants 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 4.62%, and an expected
term of two years.
. 300,000 warrants were issued to Anicom, Inc. for cash consideration of
$300,000 (see Note 10b).
8 Benefit from income taxes
The benefit from income taxes for the period from February 13, 1998
(inception) to June 30, 1998 consists of the following:
<TABLE>
<S> <C>
Current - Federal and states $ -
Deferred - Federal 15,000
Deferred - states 5,000
------------
Benefit from income taxes $ 20,000
============
</TABLE>
The following table summarizes the significant differences between the
Federal statutory tax rate and the Company's effective tax rate for
financial reporting purposes:
<TABLE>
<S> <C>
Federal statutory tax rate (34.0)%
State and local taxes net of Federal tax effect (5.0)
Effect of graduated tax rates 9.0
Permanent differences 1.9
Valuation allowance on deferred tax asset 11.4
------
Effective tax rate (16.7)%
======
</TABLE>
F-14
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
(A Development Stage Company)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
PERIOD FROM FEBRUARY 13, 1998 (INCEPTION)
TO JUNE 30, 1998 AND FOR THE
SIX MONTHS ENDED DECEMBER 31, 1998 (UNAUDITED)
8 Benefit from income taxes (continued)
The tax effects of temporary differences and carry forwards that give rise
to deferred tax assets or liabilities at June 30, 1998 are summarized as
follows:
<TABLE>
<S> <C>
Provision for doubtful accounts $ 1,500
Net operating loss carry forward 32,000
Net assets held for sale (20,000)
Valuation allowance on net deferred tax asset (13,500)
------------
Deferred tax asset, net $ -
============
</TABLE>
The Company has provided for full valuation allowances on the net deferred
tax assets due to the uncertainty of future income tax estimates. At June
30, 1998, the Company has net tax operating loss carryforwards of
approximately $100,000 available to offset future income tax liabilities,
if any. The carryforward losses expire in the year 2013.
9 Commitments and contingencies
Leases
The Company has entered into several leases for office space. At June 30,
1998, the approximate future minimum annual lease payments are summarized
as follows:
<TABLE>
<S> <C>
Fiscal year ending June 30,
1999 $ 66,000
2000 48,000
2001 48,000
2002 23,000
2003 18,000
Thereafter 2,000
------------
$ 205,000
============
</TABLE>
Employment agreements
In conjunction with the consummation of the Merger, the Company entered
into employment agreements with 5 executives who were the principal
pre-Merger owners of NetWolves, LLC. Two of these executives were
subsequently terminated as discussed below. Each of the agreements are
substantially identical and provide for the following significant terms:
. employment term of three years commencing June 1999, with
automatic renewals for additional three-year terms unless
terminated by the Company for cause or terminated by the
executive,
. salary of $100,000, increasing up to $250,000, dependent on
specified revenue targets,
. bonus of 2% of the Company's gross profit, and
. 200,000 warrants for four of the executives and 180,000 warrants
for the fifth executive (see Note 7).
F-15
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
(A Development Stage Company)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
PERIOD FROM FEBRUARY 13, 1998 (INCEPTION)
TO JUNE 30, 1998 AND FOR THE
SIX MONTHS ENDED DECEMBER 31, 1998 (UNAUDITED)
9 Commitments and contingencies (continued)
Employment agreements (continued)
In January 1999, two of the five executives were terminated pursuant to a
Settlement Agreement and Mutual Release. In exchange for terminating the
employment agreements and cancellation of the 380,000 warrants (in total)
previously issued, the Company will pay each terminated executive $50,000
in cash and enter into a Manufacturer's Representation Agreement ("MRA").
The MRA appoints the terminated executive as an independent non-exclusive
sales person to promote the sale of the Company's products. The MRA is for
a one-year term commencing January 1999 and provides for a 5% commission on
all net sales attributed to such representative. Additionally, each of the
terminated executives received 50,000 performance based warrants (see Note
7).
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.
10 Subsequent events
a. The Sullivan Group
In January 1999, the Company entered into an agreement with The Sullivan
Group ("Sullivan") 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 and shall be automatically renewed for an additional
five-year term unless six months notice of termination is provided by
either party.
Although there are no minimum order requirements, it is expected that
delivery will commence in June 1999, and in most instances, the FoxBox
units will be subject to 48-month rental contracts at a rate of $200 per
unit, per month. The lease obligations will be paid for by the end user
retail site (or its corporate parent, the "Site"). One year of maintenance
is to be included with each leasing agreement. Beginning in the second
year, each Site may agree to pay the Company an additional fee in order to
extend the maintenance period.
F-16
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
(A Development Stage Company)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
PERIOD FROM FEBRUARY 13, 1998 (INCEPTION)
TO JUNE 30, 1998 AND FOR THE
SIX MONTHS ENDED DECEMBER 31, 1998 (UNAUDITED)
10 Subsequent events (continued)
b. Anicom, Inc.
In January 1999, the Company entered into a five-year exclusive master
distribution agreement with Anicom, Inc. ("Anicom") to distribute the
FoxBox throughout North America. Additionally, Anicom is entitled to
receive a commission on any sales or leases of the FoxBox unit made
directly by the Company that Anicom was not involved with and a commission
on certain technical support revenue earned by the Company. The agreement
may be terminated by the Company with payment of a specified termination
fee or it may be terminated should Anicom fail to meet minimum order
requirements.
For cash consideration paid to the Company of $300,000, the Company issued
Anicom 300,000 warrants to purchase common stock of the Company at an
exercise price of $5 per share. The warrants issued to Anicom shall vest in
equal installments over three years, commencing on the first anniversary of
the agreement and shall expire in January 2004. Anicom also obtained
piggyback registration rights with respect to the issuable shares of common
stock.
c. Private placement memorandum
On April 20, 1999, the Company completed preparation of a Private Placement
Memorandum. The Company is offering to sell up to 800,000 shares of
restricted common stock at $7.50 per share (a total of $6,000,000) on a
"best efforts, no minimum, maximum basis." Any proceeds to the Company are
expected to be used for working capital purposes and will be subject to
sales commissions and other expenses including legal, accounting and filing
fees. There can be no assurances that the Company's offering will be
successful.
11 Restatement of consolidated financial statements (unaudited)
The Company has restated previously issued unaudited financial results for
the three and six months ended December 31, 1998 as well as the unaudited
financial results for the period from February 13, 1998 (inception) to
December 31, 1998. The restated unaudited financial results primarily
reflect an adjustment made to the values assigned to equity instruments
issued in fiscal 1999 as compensation to employees and consultants.
Management originally determined the fair value of the equity instruments
using the quoted market price on the day of issuance less a discount due to
its restricted nature. Subsequently, management determined that it would be
more objectively verifiable to use the undiscounted quoted market price. As
a result of this adjustment, the net loss for the three months ended
December 31, 1998 was increased from $1,799,094 to $2,023,313, the net loss
for the six months ended December 31, 1998 was increased from $3,380,664 to
$3,829,102 and the net loss for the period from February 13, 1998
(inception) to December 31, 1998 was increased from $3,480,078 to
$3,928,516.
F-17
