UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2000
Commission file number 000-25831
NetWolves Corporation
(Exact name of registrant as specified in its charter)
New York 11-3439392
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
200 Broadhollow Road, Melville, New York 11747
(Address of principal executive offices)
(631) 393-5016
(Registrant's telephone number, including area code)
None
(Former name, former address and former fiscal year, if changed since last
report)
Indicate by checkmark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] * No [ ]
Indicate the number of shares outstanding of each of issuer's classes of common
stock as of the latest practicable date:
NUMBER OF SHARES OUTSTANDING ON
TITLE OF CLASS May 1, 2000
-------------- --------------------------------
Common Stock, $.0033 par value 8,299,904
---------
Registrant became subject to the filing requirements of the Securities Exchange
Act of 1934 on April 20, 1999, when it filed a Registration Statement on Form
10.
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
FORM 10-Q - MARCH 31, 2000
INDEX
PART I - FINANCIAL INFORMATION
- - - - - - - - ------------------------------
ITEM 1 - FINANCIAL STATEMENTS
CONDENSED CONSOLIDATED BALANCE SHEETS
December 31, 1999 and March 31, 2000 1
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND
COMPREHENSIVE INCOME (LOSS)
For the three and nine months ended March 31, 2000 and 1999 2
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
For the nine months ended March 31, 2000 and 1999 3
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS 4 - 11
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS 12 - 14
ITEM 3 - QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK 14
PART II - OTHER INFORMATION
- - - - - - - - ---------------------------
ITEM 1 - LEGAL PROCEEDINGS 15
ITEM 2 - CHANGES IN SECURITIES AND USE OF PROCEEDS 15
ITEM 3 - DEFAULTS UPON SENIOR SECURITIES 15
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 15
ITEM 5 - OTHER INFORMATION 15
ITEM 6 - EXHIBITS AND REPORTS ON FORM 8-K 15
SIGNATURES 16
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
March 31, June 30,
2000 1999
-------- --------
(unaudited)
ASSETS
<S> <C> <C>
Current assets
Cash and cash equivalents $23,377,626 $ 5,585,981
Marketable securities, available for sale,
at market value 161,750 606,000
Accounts receivable, net of allowance of $40,000 262,067 76,907
Inventories 410,110 118,354
Prepaid expenses and other current assets 217,278 153,099
----------- -----------
Total current assets 24,428,831 6,540,341
----------- -----------
Property and equipment, net 492,744 224,691
Software costs, net 12,779,630 -
Intangible assets, net 4,518,091 6,024,121
Other assets 30,849 22,781
----------- -----------
$42,250,145 $12,811,934
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities
Accounts payable and accrued expenses $ 1,220,584 $ 453,336
Deferred compensation - 100,000
Loans and advances from TSG officer - 144,348
Current maturities of long-term debt 183,793 43,411
----------- -----------
Total current liabilities 1,404,377 741,095
Long term debt, net of current maturities 454,046 266,537
----------- -----------
Total liabilities 1,858,423 1,007,632
----------- -----------
Minority interest 394,848 704,500
Commitment and contingencies
Shareholders' equity
Common stock, $.0033 par value; 10,000,000 shares
authorized; issued and outstanding;
8,299,904 - on March 31, 2000
and 6,063,870 - on June 30, 1999 27,390 20,011
Additional paid-in capital 62,068,062 17,726,374
Unamortized value of warrant grants (1,991,668) -
Accumulated deficit (20,038,505) (7,022,428)
Accumulated other comprehensive (loss) income (68,405) 375,845
----------- -----------
Total shareholders' equity 39,996,874 11,099,802
----------- -----------
$42,250,145 $12,811,934
=========== ===========
See notes to consolidated financial statements
</TABLE>
1
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
AND COMPREHENSIVE INCOME (LOSS)
(Unaudited)
<TABLE>
<CAPTION>
Three months ended Nine months ended
March 31, March 31,
-------------------- ------------------
2000 1999 2000 1999
---- ---- ---- ----
<S> <C> <C> <C> <C>
Sales $ 463,405 $ 1,518,045 $ 935,554 $1,598,759
Cost of sales 361,441 499,001 570,305 530,479
----------- ------------ ----------- -----------
Gross profit 101,964 1,019,044 365,249 1,068,280
----------- ------------ ----------- -----------
Operating expenses
General and administrative 3,005,843 2,472,528 11,306,540 4,308,999
Research and development 491,010 158,527 880,780 250,143
Sales and marketing 733,183 260,703 1,508,550 2,240,290
----------- ------------ ----------- -----------
4,230,036 2,891,758 13,695,870 6,799,432
----------- ------------ ----------- -----------
Loss before other income (expense) (4,128,072) (1,872,714) (13,330,621) (5,731,152)
Other income (expense)
Investment income 191,242 4,217 292,813 41,600
Loss on sale of marketable securities - - - (8,047)
Minority interest 25,114 - 48,333 -
Interest expense (7,972) - (26,602) -
----------- ------------ ------------ -----------
Net loss (3,919,688) (1,868,497) (13,016,077) (5,697,599)
Other comprehensive income (loss):
Marketable securities valuation
adjustment 12,250 237,500 (444,250) 434,823
----------- ------------ ------------ -----------
Comprehensive income (loss) $(3,907,438) $ (1,630,997) $(13,460,327) $(5,262,776)
=========== ============ ============ ===========
Basic and diluted net loss per share $ (.53) $ (.37) $ (1.97) $ (1.25)
=========== ============ ============ ===========
Weighted average common
shares outstanding 7,460,777 4,999,870 6,606,386 4,540,475
=========== ============ ============ ===========
See notes to condensed consolidated financial statements
</TABLE>
2
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
<TABLE>
<CAPTION>
Nine months ended
March 31,
------------ ------------
2000 1999
---- ----
<S> <C> <C>
INCREASE (DECREASE) IN CASH AND
CASH EQUIVALENTS
Cash flows from operating activities
Net loss $(13,016,077) $(5,697,599)
Adjustments to reconcile net loss to net cash used in
operating activities
Depreciation and amortization 2,187,229 6,496
Realized loss on sale of marketable securities - 8,047
Noncash charge to operations with respect to common
stock and warrants issued for services 5,435,724 4,337,750
Provision for doubtful accounts - 15,000
Minority interest (59,652) -
Changes in operating assets and liabilities
Accounts receivable (185,160) (1,384,866)
Inventories (291,756) (178,266)
Prepaid expenses and other current assets (8,179) (63,038)
Accounts payable and accrued expenses 467,248 703,817
Deferred compensation (100,000) -
------------ -----------
Net cash used in operating activities (5,570,623) (2,252,659)
------------ -----------
Cash flows from investing activities
Proceeds from sale of marketable securities - 789,604
Proceeds from assets held for sale, net - 553,330
Finder fees paid (550,000) -
Cash acquired - ComputerCOP Corp. 20,500,000 -
Issuance of note receivable (56,000) -
Purchases of property and equipment (328,882) (64,805)
Payments of security deposits (8,068) (4,848)
------------ -----------
Net cash provided by investing activities 19,557,050 1,273,281
------------ -----------
Cash flows from financing activities
Repayment of advances from TSG officer (144,348) -
Repayment of long term debt (32,109) -
Financing costs paid (330,825) (25,000)
Cash proceeds from sale of warrants - 300,000
Cash proceeds from private sale of common stock 4,312,500 -
------------ -----------
Net cash provided by financing activities 3,805,218 275,000
------------ -----------
Net increase (decrease) in cash and cash equivalents 17,791,645 (704,378)
Cash and cash equivalents, beginning of period 5,585,981 1,118,416
------------ -----------
Cash and cash equivalents, end of period $ 23,377,626 $ 414,038
============ ===========
SUPPLEMENTAL DISCLOSURE OF NONCASH INVESTING AND
FINANCING ACTIVITIES
Software acquired through issuance of equity
instruments $ 12,190,000 $ -
============ ===========
See notes to condensed consolidated financial statements
</TABLE>
3
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
FOR THE THREE AND NINE MONTHS ENDED MARCH 31, 2000 AND 1999
1 Interim financial information
The summary financial information contained herein is unaudited; however,
in the opinion of management, all adjustments (consisting only of normal
recurring accruals) necessary for a fair presentation of such financial
information have been included. The accompanying condensed consolidated
financial statements, footnotes and discussions of NetWolves Corporation
("NetWolves" or the "Company") should be read in conjunction with the
Company's consolidated financial statements, and notes thereto, for the
year ended June 30, 1999 and the period from February 13, 1998 (inception)
to June 30, 1998. The results of operations for the nine months ended March
31, 2000 are not necessarily indicative of the results to be expected for
the full year.
2 The Company
NetWolves, LLC was an Ohio limited liability company formed on February 13,
1998, which was merged into Watchdog Patrols, Inc. ("Watchdog") on June 17,
1998. Watchdog, the legal surviving entity of the merger was incorporated
under the laws of the State of New York on January 5, 1970. As a result of
the merger and subsequent sale of Watchdog's business, Watchdog changed its
name to NetWolves Corporation.
NetWolves is an Internet systems developer that has designed and developed
a multi-functional product that is a secure, integrated, modular Internet
gateway. The primary product, the FoxBox, supports secure access to the
Internet for multiple users through a single connection and, among other
things, provides electronic mail, firewall security and web site hosting
and also contains a network file server. Since inception, the Company has
been developing its business plan and building its infrastructure in order
to effectively market its products and shipped its first significant order
in March 1999.
Additionally, in conjunction with the acquisition of Sales and Management
Consulting, Inc. (d/b/a The Sullivan Group, see Note 4), the Company
provides consulting, educational and training services primarily to the oil
and gas and automotive industries throughout the United States.
Pursuant to an agreement dated February 10, 2000, the Company acquired all
of the outstanding capital stock of ComputerCOP Corp., a New York
corporation and a subsidiary of Computer Concepts Corp. ("Computer
Concepts"), in exchange for 1,775,000 restricted shares of the Company's
common stock. ComputerCOP Corp.'s assets included ComputerCOP technology,
inventory and $20.5 million in cash. In connection with the transaction,
the Company incurred finders fees of approximately $960,000 million and
issued 125,000 restricted shares of the Company's common stock and five
year warrants to purchase an aggregate of 900,000 shares of the Company's
common stock, 600,000 of the 900,000 warrants did not vest in accordance
with their terms and were cancelled on March 31, 2000 (Note 5).
Additionally, Computer Concepts purchased 225,000 shares of the Company's
common stock from three officers of the Company for $4.5 million.
All of the shares issued by the Company in connection with the ComputerCOP
Corp. acquisition as well as all shares sold by the three officers (the
"Trust Shares") are subject to a Voting Trust Agreement, wherein the
Company's chief executive officer has been granted the right to vote all
Trust Shares for two years, subject to earlier termination on the sale of
the shares based on certain parameters.
4
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
FOR THE THREE AND NINE MONTHS ENDED MARCH 31, 2000 AND 1999
2 The Company (continued)
The Trust Shares are subject to piggyback registration rights and a
one-time demand registration right effective after August 15, 2000.
3 Significant accounting policies
Use of estimates
In preparing condensed consolidated financial statements in conformity with
generally accepted accounting principles, management makes estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosures of contingent assets and liabilities at the date of the
condensed consolidated financial statements, as well as the reported
amounts of revenue and expenses during the reporting period. Actual results
could differ from those estimates.
Software costs
Costs associated with the development of software products are generally
capitalized once technological feasibility is established. Purchased
software technologies are recorded at cost and software technologies
acquired in purchase business transactions are recorded at their estimated
fair value. 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.
4 Purchase acquisition
On July 7, 1999, NetWolves and Sales and Management Consulting, Inc. (d/b/a
The Sullivan Group) ("SMCI") executed a merger agreement (the "Merger")
pursuant to which NetWolves acquired the outstanding capital stock of SMCI.
Under the terms of the Merger, TSG Global Education Web, Inc. ("TSG") (a
subsidiary of NetWolves), with 4,150,000 shares of common stock
outstanding, purchased all of the outstanding shares of SMCI's common stock
in exchange for 180,000 shares of NetWolves' restricted common stock. The
shareholders are restricted from selling, transferring or pledging such
shares for an eighteen-month period. Upon consummation of the Merger, SMCI
merged into TSG and TSG was the surviving entity.
Concurrent with the Merger, the shareholders of SMCI purchased 70,000
shares of TSG common stock at $.35 per share for aggregate cash proceeds of
$24,500. This represents 1.7% of the outstanding common stock of TSG.
Additionally, TSG issued 250,000 shares of TSG Series A Cumulative (8%)
Convertible Preferred Stock to one of the SMCI shareholders, which was
issued in partial settlement of outstanding liabilities owed to the
shareholder. This TSG common and preferred stock has been reflected as
minority interest in the accompanying consolidated financial statements.
5
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
FOR THE THREE AND NINE MONTHS ENDED MARCH 31, 2000 AND 1999
4 Purchase acquisition (continued)
The purchase price approximated $4,095,000 (exclusive of acquisition costs
of $82,875), which consisted of 180,000 shares of NetWolves restricted
common stock valued at $22.75 per share (fair value of the common stock was
based on its quoted market price on the effective date of the acquisition).
The acquisition has been accounted for with an effective date of June 30,
1999 using the purchase method of accounting. Accordingly, assets and
liabilities were recorded at their fair values as of June 30, 1999, and
operations of SMCI have been included in the Company's condensed
consolidated statements of operations commencing July 1, 1999.
An allocation of the fair value of the assets acquired and liabilities
assumed at June 30, 1999 is as follows:
<TABLE>
<S> <C>
Purchase price
NetWolves common stock issued $ 4,095,000
Acquisition costs 82,875
-----------
$ 4,177,875
===========
Allocation of purchase price
Fair value of tangible assets and liabilities
Current assets $ 70,221
Non-current assets 35,255
Current liabilities (443,909)
Non-current liabilities (266,537)
Advances to TSG, net of cash acquired of $412,224 (536,776)
-----------
(1,141,746)
-----------
Minority interest
Common stock and additional paid-in capital (454,500)
Preferred stock (250,000)
-----------
(704,500)
-----------
Intangible assets acquired 6,024,121
-----------
$ 4,177,875
===========
</TABLE>
At the time of the Merger and in accordance with TSG's newly formed stock
option plan, the SMCI shareholders (who are all employees of TSG) received
605,000 five-year options to purchase TSG common stock at an exercise price
of $.35 per share. The options were issued in proportion to the SMCI
shareholders' ownership interest. The intrinsic value of these options
(plus the 70,000 shares of the TSG common stock) totalled $430,000, which
has been reflected in the allocation of the purchase price. Additionally,
the SMCI shareholders are entitled to an additional 175,000 options to
purchase TSG common stock (with an exercise price at fair value at the time
of grant), subject to TSG meeting specific earnings targets over the three
years ending June 30, 2000, 2001 and 2002. These options will be accounted
for as compensation expense in accordance with Accounting Principles Board
Opinion No. 25, "Accounting for Stock Issued to Employees" in such future
periods. All of the shareholders of SMCI entered into 3-year employment
agreements with TSG.
6
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
FOR THE THREE AND NINE MONTHS ENDED MARCH 31, 2000 AND 1999
4 Purchase acquisition (continued)
In accordance with the Merger, NetWolves made $4,750,000 of non-interest
bearing open account working capital advances to TSG.
The following unaudited pro forma financial information for the three and
nine months ended March 31, 1999 has been prepared assuming that the
acquisition of SMCI had taken place at the beginning of such periods
presented. The pro forma information is not necessarily indicative of the
combined results that would have occurred had the acquisition taken place
at the beginning of the periods, nor is it necessarily indicative of the
results that may occur in the future. Pro forma information for the three
and nine months ended March 31, 2000 are not presented, since the results
of TSG are reflected in the Company's consolidated results for the entire
periods.
<TABLE>
<CAPTION>
Three months Nine months
ended ended
March 31, March 31,
1999 1999
-------------- ------------
(unaudited) (unaudited)
<S> <C> <C>
Revenue $ 1,712,000 $ 2,566,000
Net loss $ (2,665,000) $ (7,688,000)
Basic and diluted net loss per share $ (.51) $ (1.63)
</TABLE>
5 Shareholders' equity
Common stock issuances
-- On September 29, 1999, the Company sold 100,000 shares of unregistered
common stock to an accredited investor at $15 per share (a total of
$1,500,000) exclusive of commissions totaling $105,000.
-- During November 1999, the Company sold 187,500 shares of unregistered
common stock to a group of accredited investors at $15 per share (a
total of $2,812,500) exclusive of commissions and fees of
approximately 7%.
-- On November 20, 1999, 12,500 shares were issued to a financial
consultant for services rendered during the three months ending
December 31, 1999, which resulted in a charge to operations of
$275,000. Management determined the fair value of the common stock
based on its quoted market price at the time of the issuance.
7
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
FOR THE THREE AND NINE MONTHS ENDED MARCH 31, 2000 AND 1999
5 Shareholders' equity (continued)
Common stock issuances (continued)
-- Pursuant to an agreement dated February 10, 2000, the Company acquired
all of the outstanding capital stock of ComputerCOP Corp., a New York
corporation and a subsidiary of Computer Concepts Corp. ("Computer
Concepts"), in exchange for 1,775,000 restricted shares of the
Company's common stock. ComputerCOP Corp.'s assets included
ComputerCOP technology, inventory and $20.5 million in cash. In
connection with the transaction, the Company incurred finders fees of
approximately $960,000 million and issued 125,000 restricted shares of
the Company's common stock and five year warrants to purchase an
aggregate of 900,000 shares of the Company's common stock, 600,000 of
the 900,000 warrants did not vest in accordance with their terms and
were cancelled on March 31, 2000 (Note 5). Additionally, Computer
Concepts purchased 225,000 shares of the Company's common stock from
three officers of the Company for $4.5 million.
-- During January 2000, the preferred stockholder elected to convert the
preferred stock into 13,888 shares of NetWolves common stock (at fair
market value at the time of conversion).
Warrants
-- On July 26, 1999 and in connection with the Company entering into an
agreement with Comdisco, Inc. ("Comdisco"), Comdisco was granted a
five-year warrant to purchase 125,000 shares of the Company's
unregistered common stock, at an exercise price of $10 per share. The
warrants are immediately exercisable. The value of the warrants of
$2,390,000 are being amortized over the initial term of the agreement
(four years) and has been calculated using the Black-Scholes
option-pricing model with the following assumptions: no dividend
yield, expected volatility of 65%, risk-free interest rate of 5.84%,
and an expected term of five years.
-- On July 31, 1999, a financial consultant of the Company was granted a
five-year warrant to purchase 100,000 shares of common stock, at an
exercise price of $12 per share. The warrants are immediately
exercisable and the shares issuable pursuant to the warrants have
piggyback registration rights. The value of the warrants of $1,704,000
are being amortized over a period of three months and has been
calculated using the Black- Scholes option-pricing model with the
following assumptions: no dividend yield, expected volatility of 65%,
risk-free interest rate of 5.84%, and an expected term of five years.
-- On November 1, 1999, the Company's granted a five-year warrant to
purchase 24,000 shares of common stock, at an exercise price of $18
per share to a public relations firm. The warrants vest ratably over
twelve months and resulted in a charge to operations of approximately
$88,000 for the three months ended March 31, 2000. The total value of
the warrants of approximately $351,000 has been calculated using the
Black-Scholes option- pricing model with the following assumptions: no
dividend yield, expected volatility of 65%, risk-free interest rate of
5.97%, and an expected term of five years.
-- In November 1999, a consultant was granted a five-year warrant to
purchase 60,000 shares of common stock, at an exercise price of $18
per share.
8
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
FOR THE THREE AND NINE MONTHS ENDED MARCH 31, 2000 AND 1999
5 Shareholders' equity (continued)
Warrants (continued)
-- In December 1999, the Company granted 65,000 ten-year warrants to the
Company's Vice President of Finance at an exercise price of $12 per
share. The warrants vest immediately and accordingly resulted in a
charge to operations of $422,500, based upon the intrinsic value of
the warrants on the date of grant.
-- In December 1999, a consultant was granted a ten-year warrant to
purchase 100,000 shares of common stock, at an exercise price of $12
per share. The warrants are immediately exercisable. The value of the
warrants resulted in a charge to operations of approximately
$1,536,000 during the three months ended December 31, 1999 and has
been calculated using the Black-Scholes option-pricing model with the
following assumptions: no dividend yield, expected volatility of 65%,
risk-free interest rate of 5.97%, and an expected term of ten years.
-- In connection with the February 10, 2000 acquisition of ComputerCOP
Corp., the Company issued a warrant to purchase an aggregate of
300,000 shares of the Company's stock that are initially exercisable
at $25 per share if exercised on or before September 30, 2002 and $30
thereafter until they expire on February 10, 2005. The fair value of
this warrant has been included in the value of the software. In
addition, the Company issued another warrant to purchase an aggregate
of 600,000 shares of the Company's common stock. This warrant did not
vest in accordance with its terms and was cancelled on March 31, 2000.
6 Segment information
The Company reports segments in accordance with Financial Accounting
Standards Board Statement No. 131 "Disclosures about Segments of an
Enterprise and Related Information". The Company and its subsidiaries
operate in three separate business segments, the Technology segment,
the Training and consulting segment and the Computer software segment.
These operating segments are representative of the Company's
management approach to its evaluation of its operations. The
accounting policies of the reportable operating segments are the same
as those described in the summary of significant accounting policies.
The technology segment, which operates principally domestically, is
primarily engaged in the design, development, marketing and support of
information delivery hardware products and software. The training and
consulting segment, which operates domestically, provides consulting,
educational and training services primarily to the oil and gas and
automotive industries throughout the United States. The software
segment, which operates domestically, is primarily engaged in the
design, development, marketing and support of software products which
are designed to provide non computer literate owners the ability to
identify threats as well as objectionable material which may be viewed
by users of the computer on the Internet.
9
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
FOR THE THREE AND NINE MONTHS ENDED MARCH 31, 2000 AND 1999
6 Segment information (continued)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
March 31, March 31,
------------------ -----------------
2000 1999 2000 1999
----- ---- ---- ----
<S> <C> <C> <C> <C>
Revenue
Technology $ 27,921 $ 1,518,045 $ 67,050 $ 1,598,759
Training and consulting 435,484 - 868,504 -
Computer software - - - -
----------- ----------- ------------ -----------
Total $ 463,405 $ 1,518,045 $ 935,554 $ 1,598,759
=========== =========== ============ ===========
Operating income (loss)
Technology $(1,888,071) $(1,872,714) $ (9,087,464) $(5,731,152)
Training and consulting (1,617,608) - (3,620,764) -
Computer software (622,393) - (622,393) -
----------- ----------- ------------ -----------
Total $(4,128,072) $(1,872,714) $(13,330,621) $(5,731,152)
=========== =========== ============ ===========
</TABLE>
<TABLE>
<CAPTION>
March 31, June 30,
2000 1999
------------ -----------
<S> <C> <C>
Identifiable assets
Technology $ 22,672,490 $ 6,270,113
Training and consulting 6,666,378 6,541,821
Computer software 12,911,277 -
------------ -----------
Total $ 42,250,145 $12,811,934
============ ===========
</TABLE>
The Company had two major customers, both included in the Training and
consulting segment, which accounted for 47% and 33% of consolidated sales
for the nine months ended March 31, 2000.
7 Commitments and contingencies
Legal matters
Certain claims, suits and complaints arising in the normal course with
respect to the Company's uniformed security guard services operations have
been filed or are pending against the Company. Generally, these matters are
all covered by a general liability insurance policy. In the opinion of
management, all such matters are without merit or are of such kind, or
involve such matters, as would not have a significant effect on the
financial position or results of operations of the Company, if disposed of
unfavorably.
10
<PAGE>
NETWOLVES CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
FOR THE THREE AND NINE MONTHS ENDED MARCH 31, 2000 AND 1999
7 Commitments and contingencies (continued)
Comdisco, Inc. agreement
On July 26, 1999 the Company entered into an agreement with Comdisco
whereby Comdisco will provide management, installation and technology
services to the Company's proprietary Internet distribution system. In
addition, the agreement provides for the creation of a credit facility to
be utilized in connection with the sale and installation of the FoxBox in
up to 40,000 locations over a four-year period. However, there can be no
assurances that the Company will actually require the use of the credit
facility.
Under the agreement, the Company intends to lease the FoxBox to its
customers for 48 months at a monthly fee estimated under the agreement at
$200. Comdisco will then acquire all of the rights, title and interest in
the equipment with the exception of intellectual rights, software upgrades
and software application and content and take an assignment of the lease
from the Company, without recourse. At the time of assignment, Comdisco
will pay the Company 95% of the present value of the rental stream using an
interest rate commensurate with each customer's credit rating and
prevailing market rates.
In connection with the agreement, Comdisco was granted a five-year warrant
to purchase 125,000 shares of the Company's unregistered common stock, at
an exercise price of $10 per share (Note 5).
8 Subsequent Events
Gateway, Inc. Agreement
In April, 2000, the Company entered into an agreement with Gateway, Inc.
("Gateway") whereby Gateway agreed to install the ComputerCOP software on
every new Gateway consumer computer. The Company is to receive fifty
percent (50%) of all gross margins generated from sales of upgrades to the
existing software contained within the Gateway consumer computer.
Anicom Inc.
On April 10, 2000, the Company exercised its right to terminate its
exclusive distributorship agreement with Anicom, Inc. pursuant to its
terms. On April 19, 2000, an action was commenced against the Company in
the U.S. District Court for the Northern District of Illinois by Anicom,
Inc. The action is based upon NetWolves' alleged failure to deliver
approximately 74,842 shares of its common stock to Anicom upon exercise by
Anicom of the Company's warrants. The action seeks specific performance as
well as any damages that may result from a diminution in value of NetWolves
common stock. NetWolves intends to submit an answer denying the allegations
of the complaint and further intends to vigorously defend this action.
11
<PAGE>
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Forward-looking statements
The Form 10-Q includes, without limitation, certain statements containing the
words "believes." "anticipates", "estimates", and words of a similar nature,
constitute "forward-looking statements" within the meaning of the Private
Securities Litigation Reform Act of 1995. This Act provides a "safe harbor" for
forward-looking statements to encourage companies to provide prospective
information about themselves so long as they identify these statements as
forward looking and provide meaningful, cautionary statements identifying
important factors that could cause actual results to differ from the projected
results. All statements other than statements of historical fact made in this
Form 10-Q are forward-looking. In particular, the statements herein regarding
industry prospects and future results of operations or financial position are
forward-looking statements. Forward-looking statements reflect management's
current expectations and are inherently uncertain. The Company's actual results
may differ significantly from management's expectations.
Overview
The Company is a corporation with a limited operating history, formed in
February 1998, when it commenced field trial and limited sales of its primary
product, "The FoxBox". Additionally, efforts were made to obtain operating
capital and convert the Company to a public entity. This was accomplished
through a reverse merger with Watchdog Patrols, Inc., a publicly traded (OTCBB),
non-reporting corporation. In April, 2000, the Company commenced trading on the
NASDAQ Small Cap market under the symbol WOLV. Operating expenses have increased
significantly since the Company's inception. This reflects the costs associated
with the formation of the Company, costs associated with acquisitions, and
increased efforts to promote sales of the FoxBox (Multi- services Internet
communications gateway), recruit personnel, build operating infrastructure and
continued product development. The FoxBox is a multi- functional product that
connects business networks [Local Area Networks (LANs) and Wide Area Networks
(WANs)] to the Internet. It supports secure access to the Internet for 3 to 400
users through a single connection, provides advanced electronic mail functions
for unlimited users and delivers firewall security. The Company's initial target
markets are the end users in small and mid-size businesses and large
organizations with satellite offices. In January, 1999 the Company entered into
an agreement with TSG ("Sullivan") whereby Sullivan appointed the Company as the
exclusive provider for Sullivan's proprietary interactive distance learning
training programs. In July 1999, the Company acquired TSG and in July 1999
secured a credit facility with Comdisco, Inc. to finance the anticipated sales
to be generated from the application of the FoxBox technology to TSG's client
base. Comdisco also agreed to provide management, installation and technology
services for FoxBoxes sold to this client base. In January, 1999, the Company
also entered into an agreement with Anicom, Inc. ("Anicom") appointing Anicom as
its exclusive distributor in North America. In April, 2000, the Company
exercised its right to terminate this agreement pursuant to its terms. In
February, 2000, the Company acquired ComputerCOP Corp. This transaction provided
cash, inventory and software which is primarily designed to provide non computer
literate owners (e.g. parants or guardians) the ability to identify threats as
well as objectionable material which may be viewed by the users of the computer
on the internet (e.g. children).
12
<PAGE>
Overview (continued)
The Company has a limited operating history in which to base an evaluation of
the business and prospects. The Company's prospects must be considered in light
of the risks frequently encountered by companies in their early stages,
particularly for companies in the rapidly evolving technology industry. Certain
risks for the Company include, but are not limited to an unproven business model
and growth management. To counter this risk, the Company must, among other
things, increase its customer base, continue to develop its distribution network
and product offerings, successfully execute its business and marketing plan, and
expand the operating infrastructure. There can be no assurance that the Company
will be successful in addressing such risks, and the failure to do so could have
a material adverse effect on the Company's financial condition and results of
operations. Since inception, the Company has incurred significant losses and as
of March 31, 2000 had an accumulated deficit of approximately $20 million. The
Company believes that its success depends in large part on its ability to create
market awareness and acceptance for the FoxBox, build technology and non-
technology infrastructures, expand the sales force and distribution network, and
continue new product research and development.
Results of Operations
As a result of the July 1999 and February 2000 acquisition of TSG and
ComputerCOP respectively, NetWolves and its subsidiaries operate in three
business segments, the technology segment, the training and consulting segment
and the computer software segment. Total revenue for the three and nine-month
periods ended March 31, 2000 when compared to the same time periods for the
prior year, decreased $1,054,640 from $1,518,045 to $463,405 and decreased
$663,205 from $1,598,759 to $935,554, respectively. Revenue derived from
technology decreased from $1,518,045 to $27,921 and from $1,598,759 to $67,050
for the three months and nine months ended March 31, 2000, respectively, when
compared to the three months and nine ended March 31, 1999. This decrease is
primarily attributable to an initial order in March 1999 by Anicom as compared
to no revenue from Anicom for the nine months ended March 31, 2000. The Company
recently terminated the Anicom agreement and has been pursuing multiple
distributors to deliver products into the reseller channel. The addition of the
training and consulting segment in July 1999 provided revenue of $435,484 and
$868,504 for the three and nine months ended March 31, 2000, as compared to no
revenue for the comparable prior period. Although training and consulting
revenue is currently derived from traditional leader-lead training and benchmark
studies, the segment's strategic focus is on distance learning. The Company is
currently "beta testing" products utilizing the FoxBox technology to deliver
distance learning to existing clients in the petroleum industry. Although
computer software does not account for any revenue to date, The Company believes
that certain revenue will be derived by delivering ComputerCOP under the terms
of the Gateway agreement (Note 8) . and by pursuing additional contracts for the
current version of ComputerCOP . $191,242 and $292,813 of investment income was
generated for the three and nine month periods ended March 31, 2000 as compared
to $4,217 and $41,600 for the three and nine month periods ended March 31, 1999.
The increase is primarily attributable to interest earned on cash from the
ComputerCOP Corp. acquisition.
13
<PAGE>
NetWolves had gross profit of 39% for the nine month period ended March 31,
2000 as compared to 67% for the nine month period ended March 31, 1999. To
date, the Company has not had consistent levels of significant production in
order to have a basis of comparison. Future 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 research and development efforts on developing
software.
Operating expenses increased from $2,891,758 to $4,230,036 and from $6,799,432
to $13,695,870 for the three and nine month periods ended March 31, 1999 and
March 31, 2000, respectively. The increase in operating expense is primarily due
to the continued growth of the Company and the addition of the training and
consulting and computer software business segment. The operating expenses for
the nine months ended March 31, 2000 and March 31, 1999 consisted primarily of
$11,306,540 and $4,308,999 of general and administrative costs relating to the
establishment of the infrastructure and the continued operations of the
business. $880,780 and $250,143 of costs were incurred relating to research and
development, and $1,508,550 and $2,240,290 related to selling and marketing.
Included in the general and administrative expenses are $5,435,724 and
$4,337,750 of non-cash compensation for services in the form of the Company's
common stock, options and warrants.
14
<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. On November 22, 1998 the Company sold substantially all the
assets of the security guard business, consisting primarily of uniforms,
vehicles, computer systems and furniture to a third party. This generated an
additional $600,000 of cash flow to the Company. On June 29, 1999 NetWolves
concluded a private offering of 800,000 shares of common stock which generated
$5.4 million (net of $.6 million of expenses). On September 29, 1999 the Company
completed a private placement of 100,000 shares of common stock to one
accredited investor for $1.4 million (net of $100,000 of expenses) to be used in
operations. In November 1999, the Company completed a private sale of an
additional 182,500 shares of common stock to accredited investors for $2.6
million (net of expenses of approximately 7%). Additionally, in February 2000
the Company acquired 100% of the outstanding common stock of ComputerCOP Corp
for approximately 1,775,000 shares of the Companies common stock. This
transaction provided certain software, inventory and cash of $19.3 million (net
of $1.2 million of expenses).
NetWolves had cash and cash equivalents of approximately $23 million at March
31, 2000. Management believes that the Company has adequate capital resources to
meet its working capital needs for at least the next twelve months based upon
its current operating level. However, there can be no assurance that the Company
will have sufficient capital to finance its planned growth. The Company may seek
to raise additional monies from the sale of its capital stock to fund its growth
over the next 24 to 36 months.
15
<PAGE>
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
On April 19, 2000, an action was commenced against the Company in the U.S.
District Court for the Northern District of Illinois by Anicom, Inc. The action
is based upon NetWolves' alleged failure to deliver approximately 74,842 shares
of its common stock to Anicom upon exercise by Anicom of the Company's warrants.
The action seeks specific performance as well as any damages that may result
from a diminution in value of NetWolves common stock. NetWolves intends to
submit an answer denying the allegations of the complaint and further intends to
vigorously defend this action.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
(c) In February 2000, the Company sold 1,775,000 shares of its common stock
to Computer Concepts Corp. in connection with the purchase of Computercop Corp.
Concurrently the Company issued an aggregate of 125,000 shares of its common
stock to two finders as well as warrants to purchase an aggregate of 900,000
shares of its common stock at an initial exercise price of $25.00 per share.
600,000 of these warrants have since been cancelled pursuant to their terms.
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.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
ITEM 5. OTHER INFORMATION..
Not applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
27 Financial Data Schedule (for electronic submission only)
(b) Reports on Form 8-K
(i) Current Report on Form 8-K dated January 13, 2000 covering Item 4
- Changes in Registrant's Certifying Accountant and Item 7 -
Financial Statements, Pro Forma Financial Information and
Exhibits.
(ii) Current Report on Form 8-K dated February 10, 2000 covering Item
2 - Acquisition or Disposition of Assets and Item 7 - Financial
Statements, Pro Forma Financial Information and Exhibits.
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
NETWOLVES CORPORATION
/s/ Walter M. Groteke
Walter M. Groteke
Chief Executive Officer
/s/ Peter C. Castle
Peter C. Castle
VP Finance, Secretary, Treasurer
Date: May 22, 2000
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
The schedule contains summary financial informtion extracted from the financial
statements for the nine months ended March 31, 2000 and is qualified in its
entirety by reference to such financial statements.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> JUN-30-2000
<PERIOD-END> MAR-31-2000
<CASH> 23,377,626
<SECURITIES> 161,750
<RECEIVABLES> 302,067
<ALLOWANCES> 40,000
<INVENTORY> 410,110
<CURRENT-ASSETS> 24,428,831
<PP&E> 569,870
<DEPRECIATION> 77,126
<TOTAL-ASSETS> 42,250,145
<CURRENT-LIABILITIES> 1,404,377
<BONDS> 0
0
0
<COMMON> 27,390
<OTHER-SE> 39,969,484
<TOTAL-LIABILITY-AND-EQUITY> 42,250,145
<SALES> 935,554
<TOTAL-REVENUES> 935,554
<CGS> 570,305
<TOTAL-COSTS> 570,305
<OTHER-EXPENSES> 13,695,870
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 26,602
<INCOME-PRETAX> (13,016,077)
<INCOME-TAX> 0
<INCOME-CONTINUING> (13,016,077)
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