<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
/X/ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2000
OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM _____________ TO _____________
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COMMISSION FILE NUMBER 000-1084561
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ZAPME! CORPORATION
(Exact name of Registrant as specified in its charter)
DELAWARE 91-1836242
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
3000 EXECUTIVE PARKWAY #150
SAN RAMON, CALIFORNIA 94583
(Address of principal executive offices)
Registrant's telephone number, including area code: (925) 543-0300
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Indicate by check mark 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 periods 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 / /
The number of shares of the issuer's Common Stock outstanding as of
October 31, 2000 was 45,272,254.
<PAGE>
INDEX
<TABLE>
<CAPTION>
PAGE
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<S> <C>
PART I FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements
Condensed Consolidated Balance Sheets as of September 30, 2000 and December 31,
1999........................................................................... 3
Condensed Consolidated Statements of Operations for the three months and nine
months ended September 30, 2000 and 1999...................................... 4
Condensed Consolidated Statements of Cash Flows for the nine months ended
September 30, 2000 and 1999.................................................... 5
Notes to Condensed Consolidated Financial Statements.............................. 6
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations.......................................................... 10
Certain Risk Factors Which May Impact Future Operating Results................. 15
Item 3. Quantitative and Qualitative Disclosures about Market Risk........................ 27
PART II OTHER INFORMATION
Item 1. Legal Proceedings................................................................. 28
Item 2. Changes in Securities and Use of Proceeds......................................... 28
Item 3. Defaults Upon Senior Securities................................................... 29
Item 4. Submission of Matters to a Vote of Security Holders............................... 29
Item 5. Other Information................................................................. 29
Item 6. Exhibits and Reports on Form 8-K.................................................. 29
Signatures..................................................................................... 30
</TABLE>
2
<PAGE>
ZAPME! CORPORATION CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND
PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
2000 1999
---- ----
(UNAUDITED)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents ............................................................. $ 71,226 $112,714
Accounts receivable ................................................................... 5,689 1,500
Other receivables ..................................................................... 389 3,344
Notes receivable ...................................................................... 162 134
Prepaid expenses and other current assets ............................................. 724 801
Total current assets ..................................................................... 78,190 118,493
Equipment, net ........................................................................... 49,022 30,393
Restricted cash .......................................................................... 578 565
Other assets ............................................................................. 2,399 1,741
Goodwill ................................................................................. 10,478 --
Total assets ............................................................................. $140,667 $151,192
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses ................................................. $ 15,622 $ 10,117
Accrued compensation and related expenses ............................................. 1,866 1,723
Deferred revenue ...................................................................... 50 677
Current portion of capital lease obligations .......................................... 16,767 11,070
Total current liabilities ................................................................ 34,305 23,587
Capital lease obligations ................................................................ 23,076 13,292
Total liabilities ........................................................................ 57,381 36,879
Redeemable Convertible Preferred stock:
Preferred stock, no par value issuable in series:
Authorized shares-500,000,000 at September 30, 2000 and none at December 31, 1999......
Issued and outstanding shares-669,920 at September 30, 2000 and none at December 31, 1999
Common stock, $0.01 par value.......................................................... 5,500
Stockholders' equity:
Authorized shares-200,000,000 at September 30, 2000 and December 31, 1999
Issued and outstanding shares 45,221,362 at September 30, 2000 and 43,803,781 at
December 31, 1999 .................................................................. 186,322 183,765
Preferred stock ....................................................................... 595 --
Deferred stock compensation ........................................................... (5,525) (11,642)
Receivable due from stockholder ....................................................... (6,500) (6,500)
Accumulated deficit ................................................................... (97,091) (51,310)
Currency translation adjustment........................................................ (15) --
Total stockholders' equity................................................................ 77,786 114,313
Total liabilities, redeemable convertible preferred stock and
stockholders' equity .................................................................. $140,667 $151,192
</TABLE>
See accompanying Notes to Condensed Consolidated Financial Statements
3
<PAGE>
ZAPME! CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
-------- --------
2000 1999 2000 1999
---- ---- ---- ----
<S> <C> <C> <C> <C>
Revenue from non-affiliates ...................................... $ 722 $ 297 $ 2,245 $ 444
Revenue from affiliates .......................................... 45 -- 11,188 --
Total Revenue .................................................... $ 767 $ 297 $ 13,433 $ 444
Costs and expenses:
Cost of revenues .............................................. 7,676 1,257 23,801 2,504
Research and development, excluding stock-based compensation
of $97 and $163 for the three months ended September 30, 2000
and September 30, 1999 and $482 and $290 for the nine
months ended September 30, 2000 and September 30, 1999 ...... 1,771 676 5,445 1,710
Sales and marketing, excluding stock-based compensation of
$87 and $413 for the three months ended September 30, 2000
and September 30, 1999 and $522 and $857 for the nine
months ended September 30, 2000 and September 30, 1999 ...... 2,735 1,683 7,365 4,139
General and administrative, excluding stock-based
compensation of $1,120 and $1,239 for the three months
ended September 30, 2000 and September 30, 1999 and
$4,403 and $3,199 for the nine months ended September 30,
2000 and September 30, 1999 ................................. 6,709 1,942 16,028 3,917
Amortization of deferred stock compensation ................... 1,304 1,815 5,407 4,346
Amortization of Goodwill ...................................... 994 -- 1,393 --
Total costs and expenses ......................................... 21,189 7,373 59,439 16,616
Loss from operations ............................................. (20,422) (7,076) (46,006) (16,172)
Other income (expense) ........................................... 28 350 87 350
Interest income (expense), net ................................... (188) 47 269 76
Net Loss ......................................................... $(20,582) $ (6,679) $(45,650) $(15,746)
Accretion and dividend on redeemable convertible
Preferred stock .................................................. (135) (13,691) (213) (17,462)
Net loss applicable to common stockholders ....................... (20,717) (20,370) (45,863) (33,208)
Net loss per share
Basic and diluted ............................................. (0.47) (1.49) (1.07) (2.44)
Shares used in calculation of net loss per share:
Basic and diluted ............................................. 43,765 13,630 42,991 13,590
</TABLE>
See accompanying Notes to Condensed Consolidated Financial Statements
4
<PAGE>
ZAPME! CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30,
--------
2000 1999
---- ----
<S> <C> <C>
OPERATING ACTIVITIES
Net loss .................................................................. $ (45,650) $ (15,748)
Adjustments to reconcile net loss to net cash used in operating activities:
Amortization of deferred stock compensation ............................ 5,407 3,900
Depreciation and amortization .......................................... 11,521 1,664
Amortization of other non-cash compensation ............................ 226 446
Amortization of goodwill ............................................... 1,393 --
Changes in operating assets and liabilities:
Accounts receivable .................................................... (4,189) (628)
Other receivables ...................................................... 2,955 (1,546)
Prepaid expenses and other current assets .............................. 77 (671)
Other assets ........................................................... (998) (106)
Accounts payable and accrued expenses .................................. 5,502 2,686
Accrued compensation and related expenses .............................. 143 801
Deferred revenue ....................................................... (627) 653
Net cash used in operating activities ..................................... (24,240) (9,115)
INVESTING ACTIVITIES
Purchase of equipment, net ................................................ (5,296) (3,315)
Restricted cash ........................................................... (13) (--)
Notes receivable .......................................................... (28) (24)
Purchase of eFundraising.com .............................................. (1,850) 0
Purchase of LearningGate.com .............................................. (1,187) 0
Net cash used in investing activities ..................................... (8,374) (3,339)
FINANCING ACTIVITIES
Proceeds from issuance of preferred stock, net ............................ 0 36,063
Proceeds from the issuance of common stock, net ........................... 577 (396)
Proceeds from borrowings on notes payable ................................. -- 700
Payments on notes payable ................................................. -- (500)
Payments on lease obligations ............................................. (9,373) (979)
Payments of dividends ..................................................... (78) --
Net cash provided by (used in) financing activities ....................... (8,874) 34,888
Increase (decrease) in cash and cash equivalents .......................... (41,488) 22,434
Cash and cash equivalents at beginning of period .......................... 112,714 815
Cash and cash equivalents at end of period ................................ $ 71,226 $ 23,249
SUPPLEMENTAL DISCLOSURES:
Conversion of notes payable to stockholders to preferred stock ............ $-- $ 200
Accretion and dividends of redeemable preferred stock ..................... $ 78 $ 1,406
Accretion of mandatory dividends and guaranteed return of preferred stock.. $-- $ 3,874
Capital lease obligations incurred ........................................ $ 26,330 $ 11,950
Warrants issued in connection with lease financing ........................ $-- $ 1,359
Warrants issued in connection with Products and Services Agreement ........ $-- $ 1,238
Cash paid for interest .................................................... $ 3,936 $ 371
Non cash investing activities
Preferred stock issued in purchase of eFundraising.com .................. (6,095) --
Common stock issued in purchase of LearningGate.com ..................... (2,950) --
</TABLE>
See accompanying Notes to Condensed Consolidated Financial Statements
5
<PAGE>
ZAPME! CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS SEPTEMBER 30, 2000
1. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements include the
accounts of the following wholly owned subsidiaries of ZapMe! Corporation:
r)Star Broadband Networks, Inc., a Delaware corporation, eFundraising.com
Corporation, a Canadian corporation, and LearningGate.com Inc., a California
corporation. All significant intercompany accounts and transactions have been
eliminated in consolidation. In this document, ZapMe! and its subsidiaries are
collectively referred to as the "Company".
The unaudited consolidated financial information as of September 30, 2000
and September 30, 1999 includes all adjustments (consisting only of normal
recurring adjustments) that the Company considers necessary for a fair
presentation of the results for the periods shown. The results of operations for
such periods are not necessarily indicative of the results expected for the full
fiscal year or for any future period. These financial statements should be read
in conjunction with the financial statements as of December 31, 1999 and related
notes.
Certain information and note disclosures normally included in financial
statements prepared in accordance with generally accepted accounting principles
have been condensed or omitted pursuant to the rules and regulations of the
Securities and Exchange Commission.
2. BASIC AND DILUTED EARNINGS PER SHARE
Basic and diluted loss per share has been computed using the weighted
average number of common shares outstanding during the period, less shares
that may be repurchased and excludes any anti-dilutive effects of options,
warrants and convertible securities. Potentially dilutive issuances have also
been excluded from computation of diluted net loss per share as their
inclusion would be anti-dilutive.
The calculation of basic and diluted net loss per share is as follows (in
thousands, except per share amounts):
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
-------- --------
2000 1999 2000 1999
---- ---- ---- ----
<S> <C> <C> <C> <C>
Net loss ............................................................. $(20,582) $(6,679) $(45,650) $(15,746)
Accretion and dividend on preferred stock ............................ 135 (13,691) 213 (17,462)
Net Loss applicable to common stockholders ........................... $(20,717) $(20,370) $(45,863) $(33,208)
Weighted average shares of common stock outstanding .................. 45,170 14,627 44,396 14,418
Less: Weighted average shares subject to repurchase .................. (1,405) (997) (1,405) (828)
Weighted average shares of common stock outstanding used in computing
Basic and diluted net loss per share .............................. 43,765 13,630 42,991 13,590
Basic and diluted net loss per share .............................. $(0.47) $(1.49) $(1.07) $(2.44)
</TABLE>
6
<PAGE>
3. STOCKHOLDERS' EQUITY
The Company issued, in connection with its purchase of eFundraising.com
Corporation ("eFundraising"), 169,920 preferred shares Series C, D and E in a
wholly-owned subsidiary of eFundraising at $3.50 per share amounting to $595,000
to the former management of eFundraising.
4. REDEEMABLE CONVERTIBLE PREFERRED STOCK
In May 2000, the Company acquired eFundraising and as purchase
consideration issued 500,000 Series A preferred shares in a wholly-owned
subsidiary to the sellers of eFundraising at $11 per share amounting to
$5,500,000. The holders of the Series A preferred shares shall be entitled to
receive cash dividends at the annual rate per share of $1.10 for each Series A
preferred share, payable each quarter. The holders of the Series A preferred
shares shall have the right at any time to convert such shares into ZapMe!
common stock on a one-for-one basis. The holders of the Series A preferred
shares shall be entitled at any time after the third anniversary of the closing
date to require the Company to redeem the Series A shares at a retraction price
of $11 per share. The Company may at any time and from time to time after the
third anniversary of the closing date redeem all or any of the Series A
preferred shares at a redemption price of $11 per share. The Series A preferred
shares will automatically convert when the closing price of the Company's common
shares is above $20 per share. The holders of the Series A preferred shares also
have a right to redeem their shares at face value upon a change in control of
the Company, as defined. The transaction with Gilat Satellite Networks, Ltd.
described in Note 8 below - Subsequent Event - is believed to qualify as a
change in control that management expects to result in a redemption or
repurchase of those shares in the fourth quarter of 2000.
WARRANTS
The Company had the following warrants outstanding at September 30, 2000
to purchase shares of stock:
<TABLE>
<CAPTION>
NUMBER OF SHARES EXERCISE PRICE PER EXPIRATION OF WARRANTS
---------------- ------------------- ----------------------
SHARE
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<S> <C> <C>
250,000 $3.00 May 2003
250,000 3.50 May 2003
100,000 5.00 September 2004
150,000 5.00 December 2003
50,000 5.00 September 2004
30,000 5.00 October 2000
12,500 8.00 October 2000
842,500
</TABLE>
INITIAL PUBLIC OFFERING
In October 1999, ZapMe! completed an initial public offering in which it
sold 9,000,000 shares of its common stock at a price of $11.00 per share.
Concurrently with the underwritten initial public offering, ZapMe! sold to
various stockholders associated with Gilat Satellite Networks, at $10.23 per
share, an aggregate of 488,753 shares of ZapMe!'s common stock. The proceeds to
the Company from the offerings, after deducting underwriting discounts and
commissions, were approximately $97.1 million. Upon closing of the underwritten
offering, all of ZapMe!'s then outstanding preferred stock converted into common
stock. After the offering, ZapMe!'s authorized capital consists of 205,000,000
shares of capital stock (200,000,000 shares of common stock and 5,000,000 shares
of preferred stock) of which approximately 45,272,254 shares of common stock
were outstanding at October 31, 2000.
7
<PAGE>
5. COMMITMENTS AND CONTINGENCIES
In September 1999, the Company entered into an agreement with
Spacenet, Inc. whereby a minimum number of school sites would be established
and maintained for a fixed monthly fee for a minimum of three years. In
September 1999, the agreement was amended and the fixed monthly fee on the
minimum number of sites was increased, which increased the Company's
contingent obligation. If no additional school sites were to be installed
subsequent to September 30, 2000, the maximum, contingent obligation would
total less than $2.5 million. At September 30, 2000, there were approximately
180 school sites for which substantially all necessary computer equipment had
been shipped but not yet connected to the network.
6. RELATED PARTY TRANSACTIONS
In August 1999 a majority of the Company's directors approved the
issuance of an immediately exercisable option to purchase 300,000 shares of the
Company's common stock to a director of the Company at an exercise price of
$5.00 per share. The shares were and are subject to a right of repurchase in
favor of the Company, which will expire at a rate of one third each anniversary
date of the date of grant. In September 1999, the officer exercised the right to
purchase the shares. The Company recorded deferred stock compensation of
approximately $1.8 million, which is being amortized by a charge to operations
over the vesting period of the stock using a graded vesting method. The Company
has also loaned the amount necessary to pay for the aggregate purchase price of
the option, which has been secured by a full recourse promissory note. The note
has a term of four years and bears an interest rate of 5.98%.
In September 1999, the Company hired a new chief executive officer. As
part of the officer's employment agreement, the Company granted a right to
purchase one million shares of the Company's common stock at an exercise price
of $5.00 per share. The shares are subject to a right of repurchase in favor of
the Company, which will expire at a rate of twenty-five percent on the first
anniversary of the grant date and one forty-eighth of the shares at the end of
each month thereafter. In September 1999, the officer exercised the right and
the Company recorded deferred stock compensation of approximately $6.0 million,
which is being amortized by a charge to operations over the vesting period of
the stock using a graded vesting method. The Company lent the amount necessary
to pay for the aggregate purchase price of the restricted stock, secured by a
promissory note. The promissory note, as amended in September 2000, provides for
the shares to serve as the sole collateral for the loan, a payment term of four
years and an interest rate of 5.98%.
The Company recorded revenues totaling $45,000 and $11,188,000 for
sponsorship and advertising for the three and nine-month periods,
respectively, ended September 30, 2000 from affiliates with which the Company
has strategic business alliances. For revenue recognition purposes a party is
deemed an affiliate if it shares common board members, owns more than 5% of
the Company's stock or is a significant vendor to the Company.
7. BUSINESS COMBINATIONS
The Company completed two acquisitions during the nine months ended
September 30, 2000: eFundraising and LearningGate.com, Inc. Each acquisition was
recorded using the purchase method of accounting under Accounting Principles
Boards ("APB") Opinion No. 16. The aggregate purchase price of the acquired
companies, excluding future contingent consideration, was $11,553,000, and was
comprised of common stock, preferred stock in a subsidiary, Time Accelerated
Restricted Stock Award Plan stock options ("TARSAPS") and cash. Results of
operations for each acquired company have been included in the financial results
of the Company from the closing date of each transaction forward.
In accordance with APB 16, all identifiable assets were assigned a
portion of the cost (purchase price) of the acquired companies on the basis of
their respective fair values. The identifiable intangible assets and goodwill
are included in "Goodwill" on the accompanying consolidated balance sheets and
are being amortized over their estimated useful lives, which is 3 years.
8
<PAGE>
On May 10, 2000, the Company completed its acquisition of eFundraising,
a company that offers fundraising products and services to schools and other
organizations. In connection with the acquisition, the Company issued a
combination of cash and securities totaling approximately $7,945,000 to acquire
all of the outstanding shares of the corporation. Pursuant to the terms of the
agreement the purchase price may increase by the then value of approximately
1,040,000 common shares if certain financial and other milestones are achieved.
On June 23, 2000, the Company completed its acquisition of
LearningGate.com, Inc., a provider of web-based educational tools
("LearningGate"). In connection with the acquisition, the Company issued
approximately 1 million common shares in addition to $1,200,000 cash to acquire
all of the outstanding shares of the corporation. The combination of cash and
securities totaled $3,608,000.
8. SUBSEQUENT EVENTS
On October 3, 2000 Gilat Satellite Networks and the Company announced an
agreement under which Gilat would make a tender offer to acquire for cash 51%
of the Company's outstanding voting common shares at $2.32 per share. The
tender was subsequently made and, unless extended, will expire at midnight
Eastern Standard time November 14, 2000. Certain shareholders of the Company
have agreed to tender their shares and other shareholders, including Lance
Mortensen, the founder and CEO of the Company, have granted Gilat an option
to purchase their shares, such option to be exercised should an otherwise
insufficient number of shares be tendered to meet the 51% threshold. Gilat
Satellite Networks is a leading provider of telecommunications solutions
based on VSAT satellite network technology.
In October, the Company's founder, Lance Mortensen, was named Chief Executive
Officer while the then Chief Executive Officer, Rick Inatome, was named
Chairman of the Board. Also, in October, the Company reduced its headcount by
approximately 23% as part of a redirection of its business.
9. FOREIGN CURRENCY TRANSLATION
The income statements of our foreign operation are translated into US dollars at
rates of exchange in effect each month. The balance sheets of these operations
are translated at period-end exchange rates, and the differences from historical
exchange rates are reflected in stockholders' equity as unrealized currency
translation adjustments.
Changes in the currency translation adjustment included in Stockholders' equity
are as follows:
<TABLE>
<S> <C>
Currency translation adjustment-July 1, 2000 -
Translation adjustments 15
--
Currency translation adjustment-September 30, 2000 15
==
</TABLE>
There were no foreign operations that had a material financial impact in the
period proceeding July 1, 2000.
9
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
CAUTIONARY STATEMENT
Certain written and oral statements made or incorporated by
reference from time to time by the Company or its representatives in this
document, other documents filed with the SEC, press releases, conferences, or
otherwise that are not historical facts, or are preceded by, followed by or
that include words such as "anticipate," "believe," "plan," "estimate,"
"expect," "seek," and "intend," and words of similar import are intended to
identify forward-looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995. Such forward-looking statements
include the following: (i) the statement that the Company's strategy is to
become a leading provider of satellite-based e-business services; (ii) the
statement that the Company expects to generate revenues from both the end
users, who will be charged for Internet access and other horizontal services,
and from the suppliers, who will be charged for the dedicated connection and
e-commerce and advertising access to their customers; (iii) the statement
that management believes it is possible the Company will record a significant
charge to earnings in the fourth quarter of 2000 due in part to: (1) the
undetermined affect of the Gilat acquisition on the Company's operations and
strategic plan; (2) the possible divestiture of the education network; and
(3) management's decision to end the free service business model; (iv) the
statement that management believes that the Company's available cash
resources and amounts available under financing facilities will be sufficient
to meet the Company's expected working capital and capital requirements for
the next twelve months; (v) the statement that management believes that
continued investment in research and development will contribute to attaining
the Company's strategic objectives, including its development of new vertical
business markets and, as a result, expects research and development expenses
to increase in future periods; and (vi) the statement that management
believes that the Company's available cash resources and amounts available
under financial facilities will be sufficient to meet the Company's expected
working capital and capital expenditure requirements for the next twelve
months. These statements are not guarantees of future performance and are
subject to business and economic risks and uncertainties, which are difficult
to predict. Therefore, the Company's actual results of operations may differ
materially from those expressed or forecasted in the forward-looking
statements as a result of a number of factors, including, but not limited to,
those set forth in this discussion under "Certain Risk Factors Which May
Impact Future Operating Results" and other risks detailed from time to time
in reports filed with the SEC.
All forward-looking statements of the Company are qualified by and
should be read in conjunction with such risk disclosure. The Company undertakes
no obligation to publicly update or revise any forward-looking statements
whether as a result of new information, future events or otherwise.
OVERVIEW
The Company was founded in June 1997 and has built the country's
largest broadband Internet Media Network specializing in education. ZapMe!'s
solution utilizes "always on" satellite technology which delivers technology
tools and educational resources to schools. The Company commenced operations in
September 1997 and began offering sponsorships through its proprietary network
in December 1998. Since commencement of operations, the Company's advertising
based revenue model has been subject to federal and state legislative challenge
by persons seeking to eliminate all advertising in schools.
During November 2000, the Company intends to offer a limited
sponsorship-based upgraded version of the ZapMe! computer labs to certain
schools on a fee or grant basis. As part of this upgraded version, the Company
will no longer accept or present paid commercial messages directed at students.
Recently, the Company began to reposition itself and is expanding
its focus from the education market to include other vertical markets. The
Company's strategy is to become a leading provider of satellite-based
e-business services. Through its wholly-owned subsidiary, r)Star Broadband
Networks, Inc., the Company intends to aggregate horizontal business
applications, such as merchant payment services, in-store audio and video,
and employee benefits administration, and bundle these services with
dedicated connections, using a satellite-based network, to vendors and other
Application Service Providers. ZapMe!'s managed browser technology will be
customized to allow industry-specific Internet access, in a managed
environment, for conducting business transactions or viewing web-based
content, training and e-business services to small and medium sized business
enterprises. The Company expects to generate revenues from both the end
users, who will be charged for Internet access and other horizontal services,
and from the suppliers, who will be charged for the dedicated connection and
e-commerce and advertising access to their customers.
Although management is encouraged by early feedback relating to
customers' desire to pay for a limited sponsorship-based alternative
educational product, and its satellite-based e-business services, management
believes it is too early to ascertain the demand for such product and
services or their affect on the Company's financial condition and results of
operations.
10
<PAGE>
As part of the Company's repositioning, management is considering
various alternatives for the Company's education network, including
divestiture. Management believes it is possible the Company will record a
significant charge to earnings in the fourth quarter of 2000 due in part to:
(1) the undetermined affect of the Gilat acquisition on the Company's
operations and strategic plan; (2) the possible divestiture of the education
network; and (3) management's decision to end the free service business
model. At this time the impact of such changes on the Company's financial
condition and results of operations cannot be quantified.
The Company announced its plan to end the free service business
model and will discontinue the installation of free computer labs for
schools. The Company is focusing on its plan to build a service-fee business
outside of the education market. Schools currently served by the Company will
have the opportunity to continue to receive Internet service. The Company may
require these schools to either pay for the equipment or return it.
As of September 30, 2000, the Company deployed ZapMe! equipment to
approximately 2,300 schools in 45 states. Total student enrollment in schools
with deployed ZapMe! equipment was over 2 million. Additionally, over 1,000
school districts, representing over 2,000 additional middle and high schools,
had approved and signed the Company's three-year agreement as of that date.
Included in the 2,300 deployed schools were approximately 180 school sites
for which substantially all necessary computer equipment had been shipped but
not yet connected to the network.
The Company has incurred net losses of approximately $97.1 million
for the period of inception through September 30, 2000. The Company expects
to incur additional losses for the foreseeable future due to the increased
cost of, among other things, sales and marketing, research and development
and the assorted costs of building and operating a larger number of
industry-specific networks. Management expects that the size of these losses
will fluctuate from quarter to quarter and that these fluctuations may be
substantial. In view of the rapidly evolving nature of the Company's business
and its limited operating history, management believes that period-to-period
comparisons of the Company's operating results are not necessarily meaningful
and should not be relied upon as an indication of future performance.
REVENUE. To date, the Company has generated revenue primarily from content
sponsorship fees paid by strategic partners. Four sponsors--Inacom, Toshiba,
Gilat, and Sylvan--accounted for approximately 79% of the Company's revenue for
the nine months ended September 30, 2000.
The Company derived revenue principally from sponsorship, e-commerce, network
services and sales of school fundraising services and supplies. Sponsorship
revenue consists of fees charged for advertising or promotional messages
delivered over the ZapMe! network. Revenue related to sponsorship of content
on the ZapMe! network is generally recognized when sponsorship is provided.
E-commerce revenue consists of referral fees and commissions on transactions
facilitated and referred through the ZapMe! network. Revenue from e-commerce
is recognized upon notification from the contracting partner that a
qualifying sale has occurred. Network services revenue is derived from the
distribution of content and products delivered through the ZapMe! network,
and from educational services delivered in the ZapMe! labs such as teacher
training, tutoring and other educational programs offered through a strategic
alliance with Sylvan Learning Systems. Network services and other revenue is
recognized in the time period in which the underlying service is delivered.
Network services and other revenue also include revenue from the Company's
five-year agreement with Sylvan, which provides for a sharing of revenue
derived from the delivery of Sylvan programs in ZapMe! computer labs. This
agreement allows Sylvan to offer student tutoring, teacher training, and
other programs in the ZapMe! computer labs. Fees payable under this agreement
are based on a rate for installed schools available for use by Sylvan. To
date, no programs have been offered under this arrangement, and additionally
no material e-commerce or network services have been delivered and the
Company has recognized no significant revenue for those activities. Revenue
from school fundraising services and supplies consists of the proceeds
derived from the sales of fundraising kits and supplies to schools or school
organizations. Revenue is generally recognized upon shipment.
COSTS OF REVENUE. Costs of revenue consist primarily of depreciation on school
network equipment, allowances for the cost of equipment replacement not covered
by manufacturers' warranties, and the cost of operating the Company's satellite
and terrestrial communications network. The costs associated with this form of
telecommunication include
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(1) the cost of land-based equipment, or "earth segment," such as the
satellite dish, hubs, send and receive cards located inside the network
servers and land-based phone service and (2) the cost of the link to and from
the satellite, or "space segment." ZapMe! provides much of its earth segment
to schools by purchasing satellite dishes, hubs and send/receive cards for
its network servers. ZapMe! purchases the space segment pursuant to fixed
price agreements. Commencing July 1999, a space segment vendor began to
install and lease satellite dishes and computer equipment as well as provide
space segment under a long-term fixed-price per school contract. The amount
of the allowance for cost of equipment replacements not covered by
manufacturers' warranties that is included in costs of revenue for the three
months ended September 30, 2000 was $181,000 and for the nine months ended
September 30, 2000 was $217,000. The amount of the reserve on the balance
sheet at September 30, 2000 was $138,000.
OPERATING EXPENSES. The Company's operating expenses consist primarily of
sales and marketing, research and development and general and administrative
expenses. Research and development expenses consist primarily of compensation
and consulting expenses associated with the development and refinement of the
ZapMe! user interface, the satellite network, content and quality assurance.
To date, the Company has not capitalized any software development costs under
Statement of Financial Accounting Standards ("SFAS") No. 86 because
management believes that the Company's process for developing software is
essentially completed concurrent with the establishment of technological
feasibility. As a result, all development costs have been expensed as
incurred. Sales and marketing expenses consist primarily of salaries,
commissions, travel expenses, advertising expenses, costs of promotional
programs, trade show expenses, seminars and costs of marketing materials.
General and administrative expenses consist primarily of salaries and related
costs for the Company's executive, administrative, finance, legal and
information technology personnel, support services, facilities costs and
professional services fees.
AMORTIZATION OF DEFERRED STOCK COMPENSATION. Amortization of deferred stock
compensation for the three months ended September 30, 2000 was $1.3 million made
up of $97,000 in research and development, $87,000 in sales and marketing, and
$1,120,000 in general and administrative. Amortization of deferred stock
compensation for the three months ended September 30, 1999 was $1.8 million made
up of $163,000 in research and development, $413,000 in sales and marketing, and
$$1,239,000 in general and administrative. Amortization of deferred stock
compensation for the nine months ended September 30, 2000 was $5.4 million made
up of $482,000 in research and development, $522,000 in sales and marketing, and
$4,403,000 in general and administrative. Amortization of deferred stock
compensation for the nine months ended September 30, 1999 was $4.3 million made
up of $290,000 in research and development, $857,000 in sales and marketing, and
$3,199,000 in general and administrative. Deferred stock compensation arose as a
result of stock options granted during 1998 and 1999 and shares of common stock
sold to officers of ZapMe! at prices below the deemed fair market value at the
date of grant. Deferred stock compensation is amortized over the vesting period
of the options, generally three to four years, or the performance period for
various warrants we granted using a graded vesting method. As a result,
management anticipates that amortization of deferred stock compensation will
adversely impact the Company's operating results for the next three years.
Future amortization expense is estimated to be approximately $804,000
for the remaining three months of 2000, and approximately $2.2 million, $804,000
and $99,000 for 2001, 2002 and 2003, respectively.
INCOME TAXES. There was no provision for federal or state income taxes for any
period since inception due to the Company's operating losses. At December 31,
1999, the Company had net operating loss carryforwards for federal income tax
purposes of approximately $21.9 million that will expire beginning in fiscal
year 2012 if not utilized. Utilization of the Company's net operating loss
carryforwards may be subject to a substantial annual limitation due to the
ownership change limitations provided by the Internal Revenue Code and similar
state provisions. Such an annual limitation could result in the expiration of
the net operating loss carryforwards before utilization. A valuation allowance
has been established and, accordingly, no benefit has been recognized for the
Company's net
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operating losses and other deferred tax assets. The net valuation allowance
increased by approximately $8.1 million during the year ended December 31, 1999.
Management believes that, based on the factors described below, the available
objective evidence creates sufficient uncertainty regarding the realizability of
the deferred tax assets such that a full valuation allowance has been recorded.
These factors include the Company's history of net losses since inception and
expected near-term future losses. Management will continue to assess the
realizability of the deferred tax assets based on actual and forecasted
operating results.
NET LOSS APPLICABLE TO COMMON STOCKHOLDERS. The Company recorded accretion
and a dividend on its preferred stock of approximately $135,000 for the three
months ended September 30, 2000 and $13,691,000 for the three months ended
September 30, 1999, and approximately $213,000 for the nine months ended
September 30, 2000 and $17,462,000 for the nine months ended September 30,
1999.
RESULTS OF OPERATIONS
REVENUE. Total revenues increased to approximately $767,000 for the three months
ended September 30, 2000 versus approximately $297,000 for the three months
ended September 30, 1999. Total revenues increased to approximately $13.4
million for the nine months ended September 30, 2000 versus approximately
$444,000 for the nine months ended September 30, 1999. Four sponsors-Inacom,
Toshiba, Gilat, and Sylvan-accounted for approximately 79% of the Company's
total revenue for the nine months ended September 30, 2000. During the three
month period ended September 30, 2000, the Company added no new sponsors.
COSTS OF REVENUE. Costs of revenue increased to approximately $7.7 million for
the three months ended September 30, 2000. Given the minimal network deployment
level in early 1999, costs of revenue for the three months ended September 30,
1999 were just $1.3 million. Costs of revenue increased to approximately $23.8
million for the nine months ended September 30, 2000 . Similarly, as a result of
the minimal network deployment level in early 1999, costs of revenue for the
nine months ended September 30, 1999 were just $2.5 million. The increase from
1999 to 2000 was due primarily to: (1) depreciation related to network equipment
installed in significantly more schools, (2) space segment costs related to the
increased number of installed schools, (3) call center costs to support users
and (4) a write off of earlier technology satellite cards deemed worthless.
RESEARCH AND DEVELOPMENT. Research and development expenses increased to
approximately $1.8 million for the three months ended September 30, 2000 from
approximately $676,000 for the three months ended September 30, 1999. Research
and development expenses increased to approximately $5.4 million for the nine
months ended September 30, 2000 from approximately $1.7 million for the nine
months ended September 30, 1999. The increase was due primarily to increased
payroll and consulting fees as we continue to develop our network capabilities.
Management believes that continued investment in research and development will
contribute to attaining the Company's strategic objectives, including its
development of new vertical business markets and, as a result, expects research
and development expenses to increase in future periods.
SALES AND MARKETING. Sales and marketing expenses increased to approximately
$2.7 million for the three months ended September 30, 2000 from approximately
$1.7 million for the three months ended September 30, 1999. Sales and marketing
expenses increased to approximately $7.4 million for the nine months ended
September 30, 2000 from approximately $4.1 million for the nine months ended
September 30, 1999. The increase in the level of expense was due primarily to
compensation associated with the increased number of sales and marketing
personnel and related overhead, and increased travel costs associated with our
direct selling efforts.
GENERAL AND ADMINISTRATIVE. General and administrative expenses increased to
approximately $6.7 million for the three months ended September 30, 2000 from
approximately $1.9 million for the three months ended September 30, 1999.
General and administrative expenses increased to approximately $16.0 million for
the nine months ended September 30, 2000 from approximately $3.9 million for the
nine months ended September 30, 1999. The increase in
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the level of expenses is due primarily to increased personnel and related
overhead necessary to support the Company's increased scale of operations,
particularly the addition of key executive staff.
AMORTIZATION OF DEFERRED STOCK COMPENSATION. Amortization of deferred stock
compensation for the three months ended September 30, 2000 was $1.3 million made
up of $97,000 in research and development, $87,000 in sales and marketing, and
$1,120,000 in general and administrative. Amortization of deferred stock
compensation for the three months ended September 30, 1999 was $1.8 million made
up of $163,000 in research and development, $413,000 in sales and marketing, and
$1,239,000 in general and administrative. Amortization of deferred stock
compensation for the nine months ended September 30, 2000 was $5.4 million made
up of $482,000 in research and development, $522,000 in sales and marketing, and
$4,403,000 in general and administrative. Amortization of deferred stock
compensation for the nine months ended September 30, 1999 was $4.3 million made
up of $290,000 in research and development, $857,000 in sales and marketing, and
$3,199,000 in general and administrative. The deferred stock compensation is
amortized over the vesting period of the related options using a graded vesting
method.
INTEREST INCOME (EXPENSE), NET. Interest income (expense), was approximately
($188,000) for the three months ended September 30, 2000 consisting of
$1,219,000 interest income and $1,398,000 interest expense compared to
approximately $47,000 for the three months ended September 30, 1999 consisting
of $312,000 interest income and $265,000 interest expense. Interest income
(expense), net increased to approximately $269,000 for the nine months ended
September 30, 2000 consisting of $4,211,000 interest income and $3,942,000
interest expense from approximately $76,000 for the nine months ended September
30, 1999 consisting of $464,000 interest income and $388,000 interest expense.
The increase is due to substantially higher interest income on cash balances
derived primarily from proceeds from ZapMe!'s initial public offering of Common
Stock in October, 1999. The increase in interest expense is due primarily from
the interest the Company incurs on lease obligations.
The Company's revenue, operating expenses and operating results may
vary significantly from quarter to quarter. The fluctuations may be due to a
number of factors, many of which are beyond its control. These factors include,
but are not limited to: (1) the rate of expansion of the Company's network
through deployment into additional schools and other business enterprises; (2)
the rate of usage of the Company's network in schools and at home; (3) the
Company's ability to generate and sustain significant levels of sponsorship
revenue; (4) fluctuations in the use of ZapMe!'s network and in demand for the
Company's products and services related to the school calendar, including
vacations and holidays; (5) the burden of lease payment obligations; (6)
government action to regulate or otherwise restrict the Company's ability to
serve schools; (7) the Company's ability to manage costs, including personnel
costs; and (8) costs relating to possible acquisitions and integration of
technologies or other businesses.
Due to all of the foregoing factors, the Company's quarterly revenue
and operating results are difficult to forecast, and management believes that
period-to-period comparisons of the Company's operating results will not
necessarily be meaningful and should not be relied upon as an indication of
future performance.
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LIQUIDITY AND CAPITAL RESOURCES
On October 25, 1999, the Company closed its underwritten initial public
offering and a concurrent offering of Common Stock, which resulted in net
proceeds of approximately $97.1 million.
Net cash used in operating activities increased to approximately $24.2
million for the nine months ended September 30, 2000 from approximately $9.1
million for the nine months ended September 30, 1999. In each period, cash used
by operating activities was primarily a result of the net losses for such period
offset by amortization of deferred stock compensation. The increase in the
current period was due to a larger net loss.
Net cash used in investing activities increased to approximately $8.4
million for nine months ended September 30, 2000 from approximately $3.3 million
for the nine months ended September 30, 1999. The increase in the current period
is primarily due to purchase of equipment for $5.3 million, and for the
acquisitions of eFundraising for $1.9 million and LearningGate for $1.2 million.
Cash provided by (used in) financing activities decreased to
approximately $(8.9) million for the nine months ended September 30, 2000 from
approximately $34.9 million for the nine months ended September 30, 1999. The
decrease was attributable to reduced stock issuance in the current period and
increased payments on lease obligations.
Capital lease obligations incurred totaled approximately $26.3
million for the nine months ended September 30, 2000 compared to $12.0
million for the nine months ended September 30, 1999. Lease financing was
used primarily to acquire and install computer equipment in schools. The
increase was due to higher school deployment levels in the current period.
The Company's deferred revenue balance includes deferred revenue
attributable to billings in advance of earnings on content sponsorship
activities. The Company records an account receivable and deferred revenue upon
billing for sponsorships. The Company recognizes revenue ratably over the period
the sponsorship is delivered.
Management believes that the Company's available cash resources and
amounts available under financing facilities will be sufficient to meet the
Company's expected working capital and capital expenditure requirements for
the next twelve months.
The Company may need to raise additional funds in order to support more
rapid expansion, develop new vertical markets, respond to competitive pressures,
acquire complementary businesses or technologies, or respond to unanticipated
developments. The Company may seek to raise additional funds through private or
public sales of securities, strategic financial and business relationships, bank
debt, lease financing, or otherwise. If additional funds are raised through the
issuance of equity securities, the percentage of ZapMe! owned by existing
stockholders will be reduced, stockholders may experience additional dilution,
and these equity securities may have rights, preferences, or privileges senior
to those of the holders of ZapMe!'s common stock. Additional financing may not
be available on acceptable terms, if at all. If adequate funds are not available
or are not available on acceptable terms, The Company may be unable to deploy or
enhance its network and Netspace, take advantage of future opportunities, or
respond to competitive pressures or unanticipated developments, which could
severely harm its business.
CERTAIN RISK FACTORS THAT MAY IMPACT FUTURE OPERATING RESULTS
The Company operates in a rapidly changing environment that involves a
number of risks, some of which are beyond its control. The following discussion
highlights some of these risks and the possible impact of these factors on
future results of operations.
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THE COMPANY HAS AN UNPROVEN BUSINESS MODEL AND A LIMITED OPERATING HISTORY.
Because ZapMe! was incorporated in September 1997 and only launched its
network in September 1998, the Company has a limited operating history on which
investors can base an evaluation of the Company's business and prospects. The
Company's revenue and income potential are unproven and its business model is
unique, constantly evolves and will continue to evolve. The Company only
recently began generating revenue from sponsorships and to date the Company has
not generated any material revenue from e-commerce or network services. The
Company is also in the process of redirecting its business away from the
education market and toward a currently unproven commercial market.
Additionally, the Company is no longer accepting paid, commercial messages
directed at students. The Company has limited insight into trends that may
emerge and affect its business.
An investor in ZapMe!'s common stock must carefully consider the risks
and difficulties frequently encountered by companies in an early stage of
development, as well as the risks the Company faces due to its participation in
a new and rapidly evolving market. The Company's business strategy may not be
successful and it may not successfully overcome these risks.
THE COMPANY'S BUSINESS MODEL IS CHANGING AND FUTURE REVENUE GROWTH WILL
SUFFER IF THE COMPANY FAILS TO RETAIN AND GROW ITS USER BASE, GENERATE
FREQUENT AND RECURRING USAGE BY THE COMPANY'S USERS, OR DEMONSTRATE THAT THE
COMPANY'S USERS ARE ACTUALLY USING ITS SERVICES.
The success of the Company's business will depend on its ability to
aggregate horizontal business applications, such as merchant payment services,
in-store audio and video, and employee benefits administration, and bundle these
services with dedicated connections, via a satellite-based network, to vendors
and other application service providers specific to targeted industries. The
Company's ability to grow its user base depends largely on its ability to deploy
its browser technology to other e-business customers. If the Company is unable
to rapidly deploy its network to a large number of other fee-based business
customers, the Company's ability to generate revenue and implement its strategy
will be severely limited. The Company's ability to grow its user base also
depends on management's success with the development and implementation of
programs designed to help secure and build or incubate vertical markets for
paying subscribers.
The Company must also encourage its users to use the Company's
services regularly and for long periods of time. Users may find that the
Company's network features and content are not sufficiently compelling to
continue regular use, or may turn to other Internet providers for such
services such as e-mail and other e-commerce business solutions. A number of
the Company's users may not actively use its services for periods of time. If
the Company is not able to demonstrate to its sponsors that the Company has
an active and growing user base, sponsors may choose not to enter into
sponsorship agreements with the Company and the Company's revenues generated
from sponsorships would suffer.
THE COMPANY HAS INCURRED SUBSTANTIAL LOSSES AND ANTICIPATES CONTINUED LOSSES.
The Company incurred net losses of approximately $97.1 million for the
period of inception through September 30, 2000. These losses resulted primarily
from costs related to developing the ZapMe! network, deploying the ZapMe!
network to schools and developing content and features for the ZapMe! network.
The Company has not achieved profitability. The Company expects to have
increasing net losses and negative cash flows for the foreseeable future. The
size of these net losses will depend, in part, on the Company's revenues from
its sponsors, e-commerce offerings and network services and on the level of its
expenses.
As a result, management expects that the Company's operating expenses
will continue for the foreseeable future. The Company will need to generate
significant additional revenues to achieve profitability. Consequently, it is
possible that the Company will never achieve profitability, and even if the
Company does achieve profitability, it may not sustain or increase profitability
on a quarterly or annual basis in the future. If the Company does not achieve or
sustain profitability in the future, then it may be unable to continue its
operations.
THE COMPANY EXPECTS ITS QUARTERLY FINANCIAL RESULTS TO FLUCTUATE AND ITS EARLY
STAGE OF DEVELOPMENT LIMITS MANAGEMENT'S ABILITY TO PREDICT REVENUES AND
EXPENSES PRECISELY.
The Company's quarterly and annual operating results have varied in the
past and are likely to fluctuate significantly in the future due to a variety of
factors, many of which are outside of its control. Factors that might cause
quarterly fluctuations in its operating results include the factors described in
the subheadings below. To respond to these and other factors, management may
need to make business decisions that could impact the Company's quarterly
operating results. Most of the Company's expenses, such as lease payment
obligations, employee compensation and rent, are relatively fixed in the short
term. Moreover, the Company's expense levels are based, in part, on management's
expectations regarding future revenue levels. As a result, if total revenues for
a particular quarter are below management's expectations the Company could not
proportionately reduce its operating expenses for that quarter. Therefore, this
revenue shortfall would have a disproportionate effect on the Company's expected
operating results for that quarter. Consequently, management believes that
period-to-period comparisons of the Company's operating results are not
necessarily meaningful, and should not be viewed as indicators of its future
performance. In addition, during future periods the Company's quarterly or
annual operating results may fail to meet the expectations of securities
analysts or investors. In this case the trading price of ZapMe!'s common stock
would likely decrease.
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THE COMPANY IS SUBJECT TO A TENDER OFFER WHICH, IF COMPLETED, WILL GIVE 51%
VOTING CONTROL TO ANOTHER COMPANY.
Gilat Satellite Networks, Ltd., has commenced a tender offer that, once
completed will give it majority voting control of the Company. Were Gilat to
exercise its control in a manner detrimental to the minority stockholders,
those stockholders would have limited means with which to seek redress.
THE COMPANY IS SUBJECT TO A TENDER OFFER, THAT WERE IT TO BE WITHDRAWN OR NOT
CONSUMMATED, COULD HARM THE COMPANY'S PROSPECTS.
An important component of the Company's business plan to develop a
service-fee based business is access to the technology of Gilat Satellite
Networks, Ltd. Were the tender offer not be consummated, that technology may
not be available to the Company or, if available, may not be as seamlessly
delivered to the Company's customers as might be possible were the Company to
be a non-wholly owned subsidiary of Gilat.
THE COMPANY'S PUBLICLY TRADED SECURITIES MAY BECOME DELISTED FROM NASDAQ
According to the NASDAQ's published guidelines, ZapMe!'s common stock
("Shares") would not be eligible to be included for listing if, among other
things, the number of Shares publicly held falls below 750,000, the number of
holders of round lot Shares falls below 400 or the market value of such
publicly held Shares is not at least $5 million. If, the Company is unable to
meet such continued listing requirements, or if the Company is otherwise
unable to satisfy Nasdaq that the Company will continue to meet the
requirements of Nasdaq for continued listing resulting from the purchase of
Shares by Gilat Satellite Networks Ltd., or from continued losses by the
Company or otherwise, then the listing of the Shares will be discontinued. In
such event, the market for the Shares would be adversely affected. Management
cannot predict whether the reduction in the number of Shares that might
otherwise trade publicly would have an adverse or beneficial effect on the
market price for or marketability of the Shares or whether it would cause
future market prices of the Shares to increase or decrease. Management
believes that if the Shares are delisted from the Nasdaq National Market,
that the liquidity of the Company's securities would be impaired.
THE COMPANY'S METHODS OF GENERATING REVENUES ARE NEW AND LARGELY UNTESTED.
The success of the Company's business will depend on its ability to
generate revenue. The Company has only recently begun to generate revenue, and
because its methods of generating revenue are new and largely untested the
Company may generate lower revenues than it expects. Further, if the Company is
unable to generate multiple new sources of revenue, its future revenue growth
will suffer. Currently, the Company expects to receive the majority of its
revenue from: (1) suppliers to participants in vertical broadband networks now
in the planning stage who will be charged for dedicated connections and
e-commerce advertising access to their customers; (2) network services,
including marketing and profit sharing fees; and (3) an upgraded version of the
ZapMe! computer labs offered with limited sponsorship on a fee basis.
From inception through September 30, 2000, the Company generated
approximately 90% of its revenue from sponsorships. Although the Company expects
to generate a portion of its future revenue through e-commerce and network
services, it has not generated any material e-commerce or network service
revenue through September 30, 2000. As a result, the Company's expected primary
methods of generating revenue are relatively new to it and largely untested.
If Internet and online advertising do not continue to grow, or if
sponsorship on the ZapMe! network does not achieve market acceptance, the
Company's revenues generated from sponsorships will be lower than expected, and
may be insufficient to support the Company's business model.
The success of the Company's initiatives to become a leading provider
of satellite based e-business services to vertical markets depends in part on
the Company's ability to leverage its experience in building browser technology
for vertical markets and marketing and managing relationships with small to
medium sized entities, its ability to build additional vertical markets by
serving as an incubator, which provides other vertical service providers with an
easier path for providing connectivity to their customers, and more generally
upon the adoption of the Internet as a medium for commerce by a broad base of
customers and its users. If this market fails to develop or develops more slowly
than expected, or if the Company's e-commerce services do not achieve market
acceptance, the Company's revenue generated from e-commerce will be lower than
expected.
In the future, the Company expects to build a base of paying
subscribers in several vertical markets, using the marketing power of key
suppliers to identify, enroll and retain subscribers. The Company expects to
generate revenue from fees charged for the delivery of additional horizontal
services such as payment and insurance processing, employee benefits
administration, and other e-commerce services.
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THE COMPANY RELIES HEAVILY ON ITS KEY PARTNERS AND IF THEY TERMINATE THEIR
STRATEGIC ALLIANCES WITH THE COMPANY OR IF THE ARRANGEMENT FAILS TO MEET THE
COMPANY'S OBJECTIVES, THE COMPANY MAY EXPERIENCE DIFFICULTY OR DELAYS IN
INSTALLING AND MAINTAINING ITS NETWORKS AND THE COMPANY'S REVENUE GROWTH MAY
SUFFER.
The Company's strategic alliance relationships have included: Gilat,
Spacenet, Sylvan, and Toshiba. The Company relies heavily on its strategic
alliance relationships. These agreements involve many aspects of the
Company's business and in some cases include the sale of equity securities to
these companies. These types of arrangements are complex and will require a
great deal of effort to operate successfully. As a result, there are many
risks related to these arrangements, including some that management may not
have foreseen. It is difficult to assess the likelihood of occurrence of
these risks, including the lack of success of the overall arrangement to meet
the parties' objectives. If the Company fails to maintain these
relationships, or if the Company's partners do not perform to management's
expectations, the performance of the Company's network, and the Company's
ability to generate revenues may all be harmed. Specific examples of these
strategic alliance relationships include the Company's agreements with: (1)
Sylvan relating to the use of the ZapMe! network and labs outside of school
hours, (2) Toshiba relating to the acquisition and integration of ZapMe!
computer lab equipment, and (3) Spacenet relating to the installation of the
Company's network and labs as well as the operation of the Company's network.
THE COMPANY IS DEPENDENT ON THIRD PARTIES TO DEPLOY ITS NETWORK TO E-COMMERCE
BUSINESS ENTERPRISES AND SCHOOLS AND SUPPORT IT ONCE INSTALLED.
The Company has used, and plans to continue to use, third parties such as
Gilat and Spacenet to install and support the Company's network in business
entities and schools. In the past the Company has experienced difficulties
resulting from the failure of former third party integrators to manage
successfully a wide-scale deployment into a school environment. Such failures
resulted in delays in the scheduled deployment of the Company's network to
additional schools. The Company previously entered into relationships with
nationally recognized parties to install software on the computers, to
install the Company's network in school site and to serve as the general
contractor to oversee the installation process. However, these parties may
not be able to install schools or other customer sites on a wide scale
according to the Company's schedule. Changes of the Company's third party
installers would cause delays in the deployment of the ZapMe! network and
could limit or eliminate revenue generated from sponsorships, e-commerce and
network services. Further, if the Company does need to hire substitute or
additional third party installers of its network the Company cannot assure
investors that the Company will be able to do so on terms as favorable as its
current arrangements, or at all, which could result in higher installation
costs to the Company as well as potential delays in such deployment.
The Company also relies on third parties to provide the majority of
support necessary to maintain the Company's network and labs once installed.
Any inability to maintain or delays to the maintenance of this equipment
would lead to lower revenue generated from sponsorship and network services.
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THE COMPANY'S DEPENDENCE ON SHORT-TERM SPONSORSHIP CONTRACTS EXPOSES IT TO
GREATER PRESSURE ON ITS SPONSORSHIP PRICES AND ALLOWS SPONSORS TO QUICKLY
CEASE THEIR SPONSORSHIPS.
A substantial portion of the Company's sponsorship revenue has been
derived from short-term contracts. Consequently, the Company may not be able to
command higher prices typically associated with more comprehensive arrangements.
Further, many of the Company's sponsors are able to cease sponsorship of the
Company's network quickly and without penalty, thereby increasing the Company's
exposure to competitive pressures. The Company's current sponsors may
discontinue sponsorship of the Company's network and the Company may not be able
to secure new contracts from existing or future sponsors at attractive rates or
at all.
THE COMPANY HAS DERIVED A SIGNIFICANT PORTION OF ITS REVENUE FROM A SMALL NUMBER
OF SPONSORS AND THE COMPANY'S REVENUE MAY DECLINE SIGNIFICANTLY IF ANY MAJOR
SPONSOR CANCELS OR DELAYS A PURCHASE.
A small number of sponsors have accounted for a significant portion
of the Company's revenue, however, management is uncertain whether this trend
will continue. Four sponsors-Inacom, Toshiba, Gilat, and Sylvan-accounted for
approximately 79% of the Company's revenue during the nine months ended
September 30, 2000. The Company's revenue from sponsorships will not increase
if the Company is unable to renew its material agreements, replace such
agreements with similar agreements with new sponsors, or sufficiently
diversify the Company's sponsor base so that the Company does not rely on a
small number of sponsors for a significant portion of its revenue.
THE COMPANY'S VARIED SALES CYCLES COULD HARM ITS RESULTS OF OPERATIONS IF
FORECASTED SALES ARE DELAYED OR DO NOT OCCUR.
The length of time between the date of initial contact with a potential
sponsor and the execution of a contract with the potential sponsor varies
significantly and depends on the nature of the arrangement. Furthermore,
contracting with potential sponsors is subject to delays over which the Company
has little or no control, including: (1) potential sponsors' adoption of the
ZapMe! network, which is an entirely new advertising medium, as an acceptable
use of advertising budgets; (2) potential sponsors' budgetary constraints; (3)
potential sponsors' internal acceptance reviews; and (4) the possibility of
cancellation or delay of projects by sponsors or the Company.
During any given sales cycle, the Company may expend substantial funds
and management resources and yet not obtain sponsorship revenue. The Company's
results of operations for a particular period may suffer if sales to sponsors
forecasted in a particular period are delayed or do not otherwise occur.
OPPOSITION TO THE COMPANY'S NETWORK, ADVERTISING IN SCHOOLS AND UNRESTRICTED
INTERNET ACCESS MAY LEAD TO NEGATIVE PUBLICITY, REGULATORY CONTROL, LEGAL
ACTION, BOYCOTTS OR OTHER ACTIONS THAT COULD HARM THE COMPANY'S BUSINESS.
The Company has to date generated a significant portion of its
revenue from sponsorships purchased by marketers interested in addressing the
student population across the ZapMe! network in schools. This business model has
been controversial and has lead to negative publicity as well as action by the
government or private interests to restrict or stop the Company's network. To
date, some third parties that oppose corporate advertising in schools, as well
as sponsorships on the ZapMe! network, have engaged in publicity campaigns to
deter sponsors from dealing with the companies engaging in advertising or
sponsorship activities and have sought legislation to curb this practice.
California recently enacted a law that imposes additional procedural
requirements before local public school boards can enter into contracts
involving advertising in schools. In particular, starting in the year 2000,
California public school boards must (a) notice a public hearing and make
certain findings regarding the importance and affordability of a covered product
or service, such as the ZapMe! network, before entering into new contracts and
(b) give parents the right to opt in writing that their children not
participate. Minnesota enacted a similar law. These laws could delay deployment
of the ZapMe! network and reduce student participation. Similar or more
restrictive legislation is possible in other states including Wisconsin and New
York, and at the local and federal levels. For example, Congress is currently
considering legislation that would require prior, written parental
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consent before any entity could collect any information for any commercial
purpose from any student under 18. Anti-school-advertising groups have had some
successes in the past seeking regulation and boycotts of companies that
advertise in schools, such as Channel One, a wholly-owned subsidiary of
Primedia, Inc. Moreover, any new restriction, law or regulation pertaining to
online media, sponsorships or e-commerce in schools, or the application or
interpretation of existing laws, could decrease the demand for the Company's
services, increase the Company's cost of doing business or otherwise have a
negative impact on the Company's business.
The Internet is the subject of an increasing number of laws and
regulations. These laws or regulations may relate to liability for information
retrieved from or transmitted over the Internet, online content regulation, user
privacy, taxation and the quality of products and services. In addition, these
new laws have not yet been interpreted by the courts, and consequently their
applicability and reach are not defined. Moreover, the applicability to the
Internet of existing laws governing issues such as intellectual property
ownership, copyright, defamation, obscenity and personal privacy is uncertain
and developing. We may be subject to claims that our services violate such laws.
Any new legislation or regulation in the United States or abroad or the
application of existing laws and regulations to the Internet could impose
significant restrictions, requirements or additional costs on the Company's
business, require the Company to change its operating methods, business
strategy, or subject the Company to additional liabilities and cause the price
of ZapMe! common stock to decline.
THE COMPANY IS DEPENDENT ON ITS NETWORK INFRASTRUCTURE, AND IN PARTICULAR ON
SATELLITES AND SATELLITE TRANSMISSION TECHNOLOGY, AND ANY FAILURE OF THE
COMPANY'S NETWORK WOULD HARM ITS OPERATIONS.
The Company recently repositioned itself to expand its focus from the education
market and seeks to focus on becoming a leading provider of satellite-based
e-business services. The Company also began offering a limited sponsorship-based
upgraded version of ZapMe! computer labs to select schools on a fee or grant
basis. The Company's network infrastructure may not be able to support the
demands this growth places on it and its performance and reliability may
decline. The Company has experienced and may in the future experience
interruptions in service as a result of outages and other delays occurring
throughout its network infrastructure. If these outages or delays occur
frequently in the future, use of the Company's networks could grow more slowly
or decline.
The Company's network operations center and its communications and
other computer hardware are also subject to disruptions which are beyond
management's control and for which the Company may not have adequate insurance.
Fire, floods, earthquakes, power loss, telecommunications failures, break-ins
and similar events could damage the Company's communications hardware and other
network operations.
Each school installed with the ZapMe! network, or e-business enterprise
solution supported by a Company network is connected to the Company's network
through a satellite link. The complete or partial loss of the satellite used to
transmit data to schools and other business customers could affect the
performance of the Company's network. The Company network currently uses a
single satellite.
Orbiting satellites are subject to the risk of failing prematurely due
to mechanical failure, a collision with objects in space or an inability to
maintain proper orbit. Any such loss of the use of the satellite could prevent
us from delivering the Company's services. This interruption in services would
continue until either a new substitute satellite is placed into orbit, or until
the Company's services were moved to a different satellite. Moving to an
alternate satellite would require the Company to redirect all of the satellite
dishes in the Company's network-a very time consuming and expensive process. The
loss of a satellite could also result in increased costs of using satellites.
The Company is dependent on transmissions from the satellite to its customer
sites, and these transmissions may be interrupted or experience other
difficulty, which could result in service interruptions and delays in the
Company's network. In addition, the use of the satellite to provide
transmissions to the Company's customers requires a direct line of
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sight between the satellite and the receiver at the school or business site and
is subject to distance and rain attenuation. In markets which experience heavy
rainfall the Company may need to use greater power to maintain transmission
quality. Such changes may require Federal Communications Commission, or FCC,
approval, which may not be granted.
THE COMPANY MAY BE SUBJECT TO THIRD PARTY ABUSES OF ITS NETWORK, SUCH AS "SPAM"
OR "HACKING," WHICH COULD LEAD TO INTERRUPTIONS IN COMPANY SERVICES AND OTHER
ADVERSE CONSEQUENCES WHICH COULD BE EXPENSIVE TO FIX, SUBJECT THE COMPANY TO
LIABILITY OR RESULT IN LOWER USE OF THE COMPANY'S NETWORKS THAN WE EXPECT.
The future success of the Company's business depends on the security of
its networks. Computer viruses or problems caused by the Company's users or
other third parties, such as the sending of excessive volumes of unsolicited
bulk e-mail or "spam," could lead to interruptions, delays, or cessation in
service to our users. In addition, the sending of "spam" through the Company's
network could result in third parties asserting claims against the Company. The
Company may not prevail in such claims and its failure to do so could result in
large judgments that would harm the Company's business. Users or other third
parties could also potentially jeopardize the security of confidential
information stored in our computer systems by their inappropriate use of the
Internet, including "hacking," which could cause losses to the Company or its
users or deter persons from using the Company's services. Users or third parties
may also potentially expose the Company to liability by "identity theft," or
posing as another ZapMe! user. Unauthorized access by current and former
employees or others could also potentially jeopardize the security of
confidential information stored in the Company's computer systems and those of
its users.
The Company expects that its users will increasingly use the Internet
for commercial transactions in the future. Any network malfunction or security
breach could cause these transactions to be delayed, not completed at all, or
completed with compromised security. Users or others may assert claims of
liability against us as a result of any failure by the Company to prevent these
network malfunctions and security breaches, and may deter others from using the
Company's services, which could cause its business prospects to suffer. Although
the Company intends to continue using industry-standard security measures, such
measures have been circumvented in the past, and management cannot assure you
that these measures will not be circumvented in the future. In addition, to
alleviate problems caused by computer viruses or other inappropriate uses or
security breaches, the Company may have to interrupt, delay, or cease service to
the Company's users, which could severely harm its business.
THE COMPANY IS DEPENDENT ON ITS LEASED SATELLITE BANDWIDTH AND IF SUCH LEASES
WERE TERMINATED OR OTHERWISE UNAVAILABLE TO THE COMPANY, IT COULD BE SUBJECTED
TO SIGNIFICANT ADDITIONAL COSTS OR RESTRICTIONS ON ITS BUSINESS.
The Company currently leases satellite bandwidth from GE Americom
and Spacenet. If, for any reason, the leases were to be terminated, the
Company might not be able to renegotiate new leases with GE Americom or
Spacenet or another satellite provider on favorable terms, if at all.
The satellite industry is a highly regulated industry. In the United
States, operation and use of satellites requires licenses from the FCC. As a
lessee of satellite space, we could in the future be indirectly subject to new
laws, policies or regulations or changes in the interpretation or application of
existing laws, policies or regulations, any of which may modify the present
regulatory environment in the United States. While we believe that the Company's
satellite access providers will be able to obtain all U.S. licenses and
authorizations necessary to operate effectively, they may not continue to be
successful in doing so. The Company's failure to indirectly obtain some or all
necessary licenses or approvals could impose significant additional costs and
restrictions on the its business, require the Company to change its operating
methods, or result in the Company no longer being able to provide its service to
affected users.
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IF THE COMPANY IS UNABLE TO COMPETE EFFECTIVELY AGAINST ITS CURRENT AND
POTENTIAL COMPETITORS THEN THE COMPANY MAY LOSE USERS TO OTHER SERVICES WHICH
COULD RESULT IN LOWER USAGE OF THE COMPANY'S NETWORK AS WELL AS LOWER THAN
EXPECTED REVENUES.
The market for the ZapMe! network and the Company's e-commerce
business services is new and rapidly evolving, and management expects
competition in and around this market to intensify in the future. While
management does do not believe any of the Company's competitors currently offer
the functionality offered by the Company's network, the Company face competition
from a number of companies who provide services and functionality similar to
portions of the Company's network, who market products and services to a similar
base of users, or both, and who could in the future seek to compete more
directly with the Company. In this light, management believes the Company's
current and potential competitors include, among others, America Online, Channel
One, Family Education Network, Helius, Inc., Bigchalk.com, Lightspan, Idealab!,
Internet Capital Group, Inc., and CMGI, Inc.
Many of the Company's existing competitors, as well as potential new
competitors, have longer operating histories, greater name recognition, larger
customer bases and significantly greater financial, technical and marketing
resources than the Company does. This may allow such competitors to devote
greater resources than the Company can to the development and promotion of their
products and services. Many of these competitors offer a wider range of products
and services than the Company does. These products and services may attract
users to the Company's competitors' sites and, consequently, result in lower
usage of the Company's network.
SCHOOLS AND OTHER BUSINESS ENTERPRISES MAY USE ALTERNATIVE MEANS TO ACQUIRE
COMPUTERS AND INTERNET ACCESS, WHICH COULD REDUCE THE COMPANY'S POTENTIAL USER
BASE AND MAY LEAD TO LOWER THAN EXPECTED REVENUES.
An immediate attraction of deploying the Company's network is access
for a fee to computers and the Internet. However, for a variety of reasons,
schools and other business enterprises may decide to use other methods to
acquire computers and Internet access. If business enterprises and schools
decide to use means other than deployment of the Company's networks, it will
limit the Company's user base, and consequently the Company will have lower than
expected revenues from sponsorships, e-commerce and network services. Aside from
purchasing the computers and Internet access from already existing budgets or
from donations from parents or other members of the community, some other
methods of acquiring computer equipment and Internet access that schools may
turn to include the government subsidized E-Rate and various free computer
equipment and Internet access companies and offerings.
THE COMPANY MAY NOT BE ABLE TO OBTAIN ADDITIONAL CAPITAL TO FUND ITS OPERATIONS
WHEN NEEDED.
The Company expects to use its existing cash for general corporate
purposes, including expanding its sales and marketing activities, continuing
investments in technology and product development and other capital
expenditures, as well as working capital and other corporate expenses, including
the funding of net losses from operations. Management believes that the
Company's existing capital resources will be sufficient to meet its cash
requirements for at least the next twelve months. However, the Company's cash
requirements are large, and depend on several factors, including cash outflows
due to lease obligations, the rate of expansion of the Company's e-commerce and
vertical business networks, the installed school base, the availability of
equipment leases on competitive terms, the Company's success in generating
revenues, the growth of sales and marketing, and other factors. If capital
requirements vary materially from those currently planned, the Company may
require additional financing sooner than anticipated.
If additional funds are raised through the issuance of equity
securities, the percentage ownership of ZapMe!'s stockholders will be reduced,
stockholders may experience additional dilution, or these equity securities may
have rights, preferences or privileges senior to those of the holders of ZapMe!
common stock. If additional funds are raised
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through the issuance of debt securities, such securities would have rights,
preferences and privileges senior to holders of common stock and the term of
such debt could impose restrictions on the Company's operations. Additional
financing may not be available when needed on terms favorable to us or at all.
If adequate funds are not available or are not available on acceptable terms,
the Company may be unable to deploy its network, develop or enhance the
Company's services, take advantage of future opportunities or respond to
competitive pressures.
THE COMPANY IS DEPENDENT ON THE CONTINUED GROWTH IN USE AND POPULARITY OF THE
COMPANY'S NETWORKS AND THE INTERNET BY THE COMPANY'S USERS AND MANAGEMENT'S
ABILITY TO SUCCESSFULLY ANTICIPATE THE FREQUENTLY CHANGING TASTES OF THE
COMPANY'S USERS.
The Company's business is unlikely to be successful if the popularity
of the Internet as a viable e-commerce business tool and related media in
schools as an educational tool and among students in general does not continue
to increase. Even if the popularity of the Internet and related media does
increase, the success of the Company's network in particular depends on
management's ability to anticipate and keep current with the frequently changing
tastes of the Company's users, primarily small and medium sized business
enterprises and students age 13-19. Any failure on management's part to
successfully anticipate, identify or react to changes in styles, trends or
preferences of the Company's users would lead to reduced interest in and use of
the ZapMe! network and therefore limit opportunities for sponsorship sales as
well as e-commerce. Moreover, the ZapMe! brand could be eroded by misjudgments
in service offerings or a failure to keep the Company's content current with the
evolving preferences of the Company's audience.
SEASONAL AND CYCLICAL PATTERNS MAY AFFECT THE COMPANY'S REVENUE AND RESULTS OF
OPERATIONS.
Management believes that in-school advertising and e-commerce sales
will be lower during the Summer, in late December and early January and during
other school holiday periods when most users of the ZapMe! network will be on
vacation and away from school. In addition, advertising sales in traditional
media, such as television and radio, generally are lower in the first and third
calendar quarters of each year. If the Company's market makes the transition
from an emerging to a more developed market, these traditional seasonal and
cyclical patterns may develop in the future. These patterns would exacerbate
seasonality to which we are subject by further reducing advertising revenues in
the first and third calendar quarter of each year. Seasonal and cyclical
patterns in online advertising and e-commerce in general may also affect the
Company's revenue. Because the Company's operating history is so limited, it is
difficult for us to accurately predict these trends and plan accordingly. Since
the Company's operating expenses are based on future revenue performance, it is
possible that seasonal fluctuations could materially and adversely affect the
Company's revenue and results of operations.
THE COMPANY'S NETWORK IS NEW AND THE COMPANY MAY NEED TO DEVELOP TOOLS TO
ATTRACT SPONSORS AND PARTNERS.
No standard measurement currently exists to determine the
effectiveness or market reach of the sponsor messages that is available on the
Company's network. The Company may need to develop standards and systems
measuring these factors to support and promote the Company's network as a
significant advertising medium. If the Company fails to develop such standards,
it could be difficult to attract sponsors and sponsorship revenue.
THE COMPANY'S EFFORTS TO DEVELOP WIDESPREAD BRAND RECOGNITION ARE LIKELY TO BE
EXPENSIVE AND MAY FAIL.
The development of the Company's brand is important to the Company's
future success. If the Company fails to develop sufficient brand recognition,
the Company's ability to attract advertising and sponsorship revenue may be
impaired, and the Company's revenue will suffer. In order to build the Company's
brand awareness the Company must succeed in the Company's brand marketing
efforts, deliver features and services that are engaging to the Company's users,
provide high-quality content and increase user traffic to
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the Company's networks. These efforts have required, and will continue to
require, significant expenses. Management cannot assure you that the Company
will be successful in developing the Company's brand.
THE COMPANY MAY BE LIABLE OR INCUR ADDITIONAL COSTS FOR ITS USE OR DISTRIBUTION
OF THE COMPANY'S USERS' INFORMATION.
Despite the Company's best efforts, it could be subject to liability
claims for misuses of information collected from the Company's users, such as
for unauthorized marketing purposes, and will face additional expenses to
analyze and comply with increasing regulation in this area, including the
Children's Online Privacy Protection Act. The Company could incur additional
expenses, or be required to alter, or eliminate, various current practices if
new regulations regarding the use or distribution of information collected
online are introduced or if the Company's privacy practices are investigated.
THE COMPANY MAY BE SUBJECT TO LIABILITY FOR PRODUCTS AND SERVICES SOLD THROUGH
ITS NETWORK.
To date, the Company has had very limited experience in the sale of
services and products online and the development of relationships with
manufacturers or suppliers of such products. However, the Company plans to
develop a range of e-commerce opportunities. Consumers may sue us if any of the
services or products that the Company sell online are defective, fail to perform
properly or injure the user. Liability claims resulting from the Company's sale
of products could require us to spend significant time and money in litigation
or to pay significant damages.
THE COMPANY MAY BE SUBJECT TO LIABILITY FOR PUBLISHING OR DISTRIBUTING CONTENT
OVER ITS NETWORK.
The Company may be subject to claims relating to content that is
published on or downloaded from the ZapMe! network. The Company also could be
subject to liability for content that is accessible from the Company's network
through links to other web sites or that is posted by members in chat rooms or
bulletin boards. Although the Company carries general liability insurance, the
Company's insurance may not cover potential claims of this type, such as
defamation or trademark infringement, or may not be adequate to cover all costs
incurred in defense of potential claims or to indemnify us for all liability
that may be imposed. In addition, any claims like this, with or without merit,
could require us to change the Company's network in a manner that could be less
attractive to the Company's customers and would result in the diversion of the
Company's financial resources and management personnel.
THE COMPANY MAY NOT BE ABLE TO DELIVER VARIOUS SERVICES IF THIRD PARTIES FAIL TO
PROVIDE RELIABLE SOFTWARE, SYSTEMS AND RELATED SERVICES TO US.
All of the Company's advertisements are served using software licensed
from NetGravity. While there is other software available, it would substantially
disrupt the Company's business in the near term to switch to another provider.
As such, the Company is reliant on NetGravity and its software. If NetGravity's
software fails to perform as expected, or if the Company is not able to renew
such agreement or license or internally develop similar software in the future,
the Company may not be able to effectively display advertisements to the
Company's users. In such event, the Company's revenue from sponsorships would
likely suffer. On October 26, 1999, DoubleClick, an Internet advertising
provider, acquired NetGravity in a stock-for-stock transaction. Although the
Company has experienced no change in its relationship, the Company can not
predict how the acquisition will affect its relationship with DoubleClick in the
future.
In addition the Company is dependent on various third parties for other
software, systems and related services. Several of the third parties that
provide software and services to us have a limited operating history, have
relatively immature technology
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and are themselves dependent on reliable delivery of services from others. As a
result, the Company's ability to deliver various services to the Company's users
may suffer due to the failure of these third parties to provide reliable
software, systems and related services to us.
THE INABILITY TO OBTAIN KEY SOFTWARE FROM THIRD PARTIES MAY HARM THE COMPANY'S
BUSINESS.
The Company relies on software licensed from third parties, including
applications that are integrated with internally developed software and used in
the Company's products. Most notably, the Company licenses remote management
software and Windows NT. These third-party technology licenses may not continue
to be available to us on commercially reasonable terms, or at all, and the
Company may not be able to obtain licenses for other existing or future
technologies that management desires to integrate into the Company's products.
The Company's business could be seriously harmed if it cannot maintain existing
third-party technology licenses or enter into licenses for other existing or
future technologies needed for the Company's products.
THE COMPANY'S SUCCESS DEPENDS UPON THE SUCCESSFUL DEVELOPMENT OF NEW SERVICES
AND FEATURES IN THE FACE OF RAPIDLY EVOLVING TECHNOLOGY.
The Company's market is characterized by rapidly changing technologies,
frequent new service introductions and evolving industry standards. The recent
growth of the Internet and intense competition in the Company's industry
exacerbate these market characteristics. The Company's future success will
depend on the Company's ability to adapt to rapidly changing technologies by
continually improving the performance, features and reliability of its network.
The Company may experience difficulties that could delay or prevent the
successful development, introduction or marketing of new features, content or
network services. In addition, the Company's new enhancements must meet the
requirements of its current and prospective users and must achieve significant
market acceptance. The Company could also incur substantial costs if it needed
to modify its service or infrastructures to adapt to these changes.
FAILURE TO MANAGE THE GROWTH OF THE COMPANY'S OPERATIONS COULD HARM ITS BUSINESS
AND STRAIN THE COMPANY'S MANAGERIAL, OPERATIONAL AND FINANCIAL RESOURCES.
The Company has rapidly and significantly expanded its business
operations. Management anticipates that further significant expansion will be
required to grow the Company's user base if the Company is to be successful in
implementing its business strategy. The Company may not be able to implement
management information and control systems in an efficient and timely manner,
and the Company's current or planned personnel, systems, procedures and controls
may not be adequate to support the Company's future operations. If the Company
is unable to manage growth effectively, its business would suffer. To manage the
expected growth of the Company's operations and personnel, the Company will be
required to: (1) improve existing and implement new operational, financial and
management controls, reporting systems and procedures; (2) install new
management information systems; and (3) train, motivate and manage the Company's
sales and marketing, engineering, technical and customer support employees.
THE LOSS OF KEY PERSONNEL MAY HURT THE COMPANY'S ABILITY TO OPERATE ITS BUSINESS
EFFECTIVELY.
The Company's success depends to a significant degree upon the
continued contributions of the principal members of its sales, engineering and
management departments, many of whom perform important management functions and
would be difficult to replace. Specifically, management believes that the
Company's future success is highly dependent on its senior management, and in
particular on Lance Mortensen, its Chief Executive Officer and President, and
Rick Inatome, its Chairman. The loss of the services of any key personnel,
particularly senior management, could seriously harm the Company's business.
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IF THE COMPANY IS UNABLE TO RETAIN AND HIRE ADDITIONAL QUALIFIED PERSONNEL AS
NECESSARY, THE COMPANY MAY NOT BE ABLE TO SUCCESSFULLY ACHIEVE ITS OBJECTIVES.
The Company has hired and anticipates continuing to hire additional
engineering, sales, marketing, e-commerce, customer support and accounting
personnel. The Company may not be able to attract and retain the necessary
personnel to accomplish its business objectives, and the Company may experience
constraints that will adversely affect its ability to deploy the Company's
networks in a timely fashion or to support the Company's users and operations.
The Company has at times experienced, and continue to experience, difficulty in
recruiting qualified personnel. Recruiting qualified personnel is an intensely
competitive and time-consuming process.
THE COMPANY MAY ENGAGE IN FUTURE ACQUISITIONS THAT DILUTE OUR STOCKHOLDERS AND
RESULT IN INCREASED DEBT AND ASSUMPTION OF CONTINGENT LIABILITIES.
As part of our business strategy, the Company expects to review
acquisition prospects that would complement its current product offerings,
augment its market coverage, enhance its technical capabilities, or otherwise
offer growth opportunities. While the Company has no current agreements or
negotiations underway with respect to any such acquisitions, the Company may
acquire businesses, products or technologies in the future. In the event of such
future acquisitions, the Company could: (1) issue equity securities, which would
dilute current stockholders' percentage ownership; (2) incur substantial debt;
or (3) assume contingent liabilities.
Such actions by the Company could have a detrimental effect on the
Company's results of operations and/or the price of ZapMe! common stock.
Acquisitions also entail numerous risks, including: (1) difficulties in
assimilating acquired operations, technologies, products or personnel; (2)
unanticipated costs associated with the acquisition that could materially
adversely affect the Company's results of operations; (4) negative effects on
the Company's reported results of operations from acquisition related charges
and of amortization of acquired technology and other intangibles; (5) diversion
of management's attention from other business concerns; (6) adverse effects on
existing business relationships with suppliers and customers; (7) risks of
entering markets in which the Company has no or limited prior experience; and
(8) potential loss of key employees of acquired organizations
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POSSIBLE INFRINGEMENT OF INTELLECTUAL PROPERTY RIGHTS COULD HARM THE COMPANY'S
BUSINESS.
The Company seeks to protect its intellectual property and to respect
the intellectual property rights of others. To protect its own intellectual
property, the Company relies on U.S. and international law regarding copyright,
patents, trademarks and trade secrets as well as confidentiality agreements with
employees, consultants, contractors and business partners. The Company cannot
guarantee that it will succeed in obtaining, registering, policing or defeating
challenges to its intellectual property rights, or that the Company will avoid
claims that it is infringing the rights of others.
Despite the Company's efforts to protect its intellectual
property, the Company may be unsuccessful in doing so. The Company may be
unable to obtain patents or register trademarks for a variety of reasons,
including a mistaken belief that these items are eligible for intellectual
property protection or that the Company is the entity entitled to this
protection, if any. The Company's copyrights and trade secrets may similarly
turn out to be ineligible for legal protection. In addition, parties may
attempt to disclose, obtain or the Company's proprietary information despite,
or in the absence of, a confidentiality agreement. Some foreign countries do
not protect intellectual property rights to the same extent as the United
States, and intellectual property law in the United States is still uncertain
and evolving as applied to Internet-related industries. The status of domain
names and the regulatory bodies in charge of them is also unsettled. Any
inability to register or otherwise protect the Company's intellectual
property rights could seriously harm the Company's business since it could
enable competitors to copy important features on the Company's network.
Furthermore, third parties may assert intellectual property
infringement claims against the Company. These claims, possibly including those
from companies from which the Company licenses key technology for its
operations, could result in significant liability, the inability to use key
rights and technologies, and the invalidation of the Company's own proprietary
rights. In addition, regardless of the outcome, any litigation could be
time-consuming, expensive, and distracting of management's time and attention.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's exposure to market risk for changes in interest
rates relates primarily to the increase or decrease in the amount of interest
income the Company can earn on its investment portfolio and on the increase
or decrease in the amount of interest expense the Company must pay with
respect to its various outstanding debt instruments. The risk associated with
fluctuating interest expense is limited, however, to the expense related to
those debt instruments and credit facilities that are tied to market rates.
The Company does not use derivative financial instruments in its investment
portfolio. The Company ensures the safety and preservation of its invested
principal funds by limiting default risks, market risk and reinvestment risk.
The Company mitigates default risk by investing in investment grade and
high-credit quality securities. A hypothetical increase or decrease in market
interest rates by 10% from the market interest rates at September 30, 2000
would not cause the fair value of the Company's cash and cash equivalents or
the interest expense paid with respect to the Company's outstanding debt
instruments to change by a material amount. Declines in interest rates over
time will, however, reduce the Company's interest income while increases in
interest rates over time will increase the Company's interest expense. As of
September 30, 2000, the Company had not engaged in any foreign currency
activity.
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PART II.
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In the June 30, 2000 Quarterly Report on Form 10-Q and previous
filings, the Company reported the pendency of arbitration proceedings with the
Company's former president and director, Frank J. Vigil, related to his
employment at and departure from the Company. On October 25, 2000, the
Arbitrator issued a final award holding the Company to be the prevailing party
entitled to recover from Mr. Vigil $302,159 for costs and attorneys' fees
incurred by the Company, and an additional $11,514 for fees and costs the
Company paid to the American Arbitration Association. The Arbitrator confirmed
the findings stated in the Arbitrator's preliminary award in favor of the
Company on its claim that Mr. Vigil resigned from the Company and that the
Company would have been entitled to terminate his employment for cause had he
not resigned, and on the Company's defenses to Mr. Vigil's counter-claims under
his employment agreement.
The Arbitrator also determined: (i) the Company has the right to
repurchase 1,075,000 of Mr. Vigil's shares at $0.12 per share (and the Company
has agreed to pay Mr. Vigil $129,000 for such shares); (ii) Mr. Vigil is
entitled to retain 275,000 shares or elect to sell such shares to the Company
for $3.8125 per share (Mr. Vigil elected to sell all to the Company); (iii) Mr.
Vigil must repay to the Company a $125,000 loan made to him, with interest in
the sum of $13,542; (iv) Mr. Vigil must repay to the Company $3,147 for salary
and expenses he received after his resignation; and (vi) Mr. Vigil was awarded
reimbursement of miscellaneous unpaid business expenses in the amount of $5,816.
From time to time the Company may be engaged in litigation involving
the Company or any specific aspect of its business. Currently there is no
pending or current litigation involving the Company or any specific aspect of
its business that in the opinion of management is expected to have a material
adverse effect on the financial condition or results of operations of the
Company.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
(a) Modification of Constituent Instrument
Not applicable.
(b) Change in Rights
Not applicable.
(c) Issuance of Securities
The Company did not have any sales of unregistered
securities during the quarter:
(d) Use of Proceeds
On October 20, 1999, ZapMe! commenced its underwritten
initial public offering of 9,000,000 shares of common stock
at $11.00 per share and a concurrent offering of 488,753
shares of common stock, at $10.23 per share, pursuant to a
registration statement (No. 333-84557) (the "Initial
Registration Statement") and a related registration
statement (333-89367) filed pursuant to Rule 462(b) of the
Securities Act. The Initial Registration Statement was
declared effective by the Securities and Exchange
Commission on October 19, 1999. The offering has been
terminated and all shares were sold. The managing
underwriters for the underwritten initial public offering
were Merrill Lynch & Co., Deutsche Bank Securities Inc.,
Thomas Weisel Partners LLC and Wit Capital Corporation.
Proceeds to the Company from the offering (after deducting
underwriting fees) were approximately $97.1 million. In
28
<PAGE>
addition, we incurred approximately $1.6 million for
expenses related to the initial public offering. The net
offering proceeds have been used for general corporate
purposes, to provide working capital to develop products
and for the two acquisitions described below. Funds that
have not been used have been invested in short-term
financial instruments. No payments constituted direct or
indirect payments to any of the Company's directors,
officers or general partners or their associates, to
persons owning 10% or more of any class of the Company's
equity securities, or to any of the Company's affiliates.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
On October 3, 2000, the Company filed an Initial Solicitation
Statement on Schedule 14D-9 with the Securities and Exchange Commission
("SEC") which announced that the Company and Gilat Satellite Networks Ltd.,
an Israeli corporation ("Gilat"), had executed an agreement under which Gilat
would make a tender offer to acquire for cash 51% of ZapMe!'s approximately
44.3 million outstanding shares of common stock at $2.32 per share.
On October 17, 2000 Gilat filed a Tender Offer Statement on Schedule
TO with the SEC pursuant to which, subject to the terms and conditions set
forth in the Schedule TO, Gilat offered to purchase up to the number issued
and outstanding shares of common stock, par value $0.01 per share of ZapMe!
Corporation, which represents, together with the shares beneficially owned by
Gilat, approximately 51% of the outstanding shares of ZapMe! Corporation at a
price of $2.32 per share net to the seller in cash, without interest thereon.
Pursuant to the tender offer, certain stockholders of the Company have agreed
to tender their shares and not withdraw from the tender offer. In addition,
certain other stockholders of the Company ("Schedule A Stockholders") have
granted Gilat the option to purchase their shares, which Gilat will exercise
only to the extent necessary for it to acquire up to the maximum number of
shares. Included among the Schedule A Stockholders are entities related to
Lance Mortensen and Michael Arnose, both of whom are directors of the Company.
On October 24, 2000, the Company filed a Solicitation/Recommendation
Statement with the SEC that relates to the Schedule TO previously filed by
Gilat.
ITEM 6. EXHIBITS AND REPORTS ON 8-K
a) Exhibits
The exhibits listed in the accompanying Index to Exhibits are filed
as a part of this Form 10-Q.
b) Reports on Form 8-K
None
29
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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.
ZAPME! CORPORATION
(Registrant)
By:
/s/ Lance Mortensen
-----------------------------
Lance Mortensen
PRESIDENT AND CHIEF EXECUTIVE OFFICER
(PRINCIPAL EXECUTIVE OFFICER)
By:
/s/ Robert Edwards
-----------------------------
Robert Edwards
(PRINCIPAL FINANCIAL OFFICER)
Date: November 14, 2000
30
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EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT DESCRIPTION
NO.
--------------------------------------------------------------------------------
<S> <C>
11.1 Computation of Net Loss Per Share.
27.1 Financial Data Schedule.
</TABLE>
