<PAGE> 1
As filed with the Securities and Exchange Commission on August ___, 2000
Registration No.
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SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
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FORM S-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
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netLIBRARY, INC.
(Exact name of Registrant as specified in its charter)
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<S> <C> <C>
DELAWARE 7371 84-1466042
(State or other jurisdiction of (Primary Standard Industrial (I.R.S. Employer
incorporation or organization) Classification Code Number) Identification No.)
</TABLE>
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3080 CENTER GREEN DRIVE
BOULDER, CO 80301
(303) 415-2548
(Address, including zip code, and telephone number, including area code, of
Registrant's principal executive office)
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ROBERT W. KAUFMAN, CHIEF EXECUTIVE OFFICER
PAUL E. SMITH, GENERAL COUNSEL
netLIBRARY, INC.
3080 CENTER GREEN DRIVE
BOULDER, CO 80301
(303) 415-2548
(Name, address, including zip code, and telephone number, including area code,
of agent for service)
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Copies to:
STEVEN A. COHEN STEVEN L. BERSON
WHITNEY HOLMES WILSON, SONSINI, GOODRICH & ROSATI
HOGAN & HARTSON L.L.P. 650 PAGE MILL ROAD
1200 SEVENTEENTH STREET, SUITE 1500 PALO ALTO, CA 94304-1050
DENVER, CO 80202 (650) 493-9300
(303) 899-7300
Approximate date of commencement of proposed sale to the public: As
soon as practicable after the effective date of this Registration Statement.
If any of the securities being registered on this form are to be
offered on a delayed or continuous basis pursuant to Rule 415 under the
Securities Act of 1933, check the following box. [ ]
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act of 1933, check the following
box and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. [ ] _________
If this Form is a post-effective amendment filed pursuant to Rule
462(c) under the Securities Act, check the following box and list the Securities
Act registration statement number of the earlier effective registration
statement for the same offering. [ ] __________
If this Form is a post-effective amendment filed pursuant to Rule
462(d) under the Securities Act, check the following box and list the Securities
Act registration statement number of the earlier effective registration
statement for the same offering. [ ] __________
If delivery of the prospectus is expected to be made pursuant to Rule
434, please check the following box. [ ]
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CALCULATION OF REGISTRATION FEE
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============================================================== ========================== =======================
Proposed maximum Amount of
Title of each class of securities to be registered aggregate offering price registration fee
(1)
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Common Stock, $.001 par value $82,225,000 $21,707.40
============================================================== ========================== =======================
</TABLE>
(1) Estimated solely for the purpose of calculating the registration fee
pursuant to Rule 457(o) under the Securities Act.
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The Registrant hereby amends this Registration Statement on such date
or dates as may be necessary to delay its effective date until Registrant shall
file a further amendment which specifically states that this Registration
Statement shall thereafter become effective in accordance with Section 8(a) of
the Securities Act of 1933 or until the Registration Statement shall become
effective on such date as the Commission, acting pursuant to said Section 8(a),
may determine.
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<PAGE> 2
The information in this prospectus is not complete and may be changed. We may
not sell these securities until the registration statement filed with the
Securities and Exchange Commission is effective. This prospectus is not an offer
to sell these securities and it is not soliciting an offer to buy these
securities in any state where the offer or sale is not permitted.
SUBJECT TO COMPLETION, DATED AUGUST ___, 2000
Shares
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[netLIBRARY LOGO]
Common Stock
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Prior to this offering, there has been no public market for our common
stock. The initial public offering price of our common stock is expected to be
between $_____ and $_____ per share. We have applied to list our common stock on
The Nasdaq Stock Market's National Market under the symbol "EBKS."
The underwriters have an option to purchase a maximum of ____________
additional shares to cover over-allotments of shares.
INVESTING IN THE COMMON STOCK INVOLVES RISKS. SEE "RISK FACTORS" ON
PAGE 5.
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UNDERWRITING
PRICE TO DISCOUNTS AND PROCEEDS TO
PUBLIC COMMISSIONS netLIBRARY
-------- ------------- -----------
<S> <C> <C> <C>
Per Share................................ $ $ $
Total.................................... $ $ $
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Delivery of the shares of common stock will be made on or about
____________, 2000.
Neither the Securities and Exchange Commission nor any state securities
commission has approved or disapproved of these securities or determined if this
prospectus is truthful or complete. Any representation to the contrary is a
criminal offense.
CREDIT SUISSE FIRST BOSTON
DEUTSCHE BANC ALEX. BROWN
J.P. MORGAN & CO.
The date of this prospectus is _____, 2000.
<PAGE> 3
TABLE OF CONTENTS
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PAGE PAGE
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PROSPECTUS SUMMARY.................................1 MANAGEMENT.....................................47
RISK FACTORS.......................................5 RELATED PARTY TRANSACTIONS.....................55
FORWARD-LOOKING STATEMENTS........................16 PRINCIPAL STOCKHOLDERS.........................57
USE OF PROCEEDS...................................16 DESCRIPTION OF CAPITAL STOCK...................59
DIVIDEND POLICY...................................16 SHARES ELIGIBLE FOR FUTURE SALE................63
CAPITALIZATION....................................17 UNDERWRITING...................................65
DILUTION..........................................18 NOTICE TO CANADIAN RESIDENTS...................67
SELECTED FINANCIAL DATA...........................19 LEGAL MATTERS..................................68
MANAGEMENT'S DISCUSSION AND ANALYSIS OF EXPERTS........................................68
FINANCIAL CONDITION AND RESULTS OF OPERATIONS...22 CHANGE IN ACCOUNTANTS..........................68
BUSINESS..........................................31 WHERE YOU CAN FIND MORE INFORMATION............68
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS.....F-1
</TABLE>
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YOU SHOULD RELY ONLY ON THE INFORMATION CONTAINED IN THIS DOCUMENT OR
TO WHICH WE HAVE REFERRED YOU. WE HAVE NOT AUTHORIZED ANYONE TO PROVIDE YOU WITH
INFORMATION THAT IS DIFFERENT. THIS DOCUMENT MAY ONLY BE USED WHERE IT IS LEGAL
TO SELL THESE SECURITIES. THE INFORMATION IN THIS DOCUMENT MAY ONLY BE ACCURATE
ON THE DATE OF THIS DOCUMENT.
DEALER PROSPECTUS DELIVERY OBLIGATION
UNTIL , 2000 (25 DAYS AFTER THE COMMENCEMENT OF THIS
OFFERING), ALL DEALERS THAT EFFECT TRANSACTIONS IN THESE SECURITIES, WHETHER OR
NOT PARTICIPATING IN THIS OFFERING, MAY BE REQUIRED TO DELIVER A PROSPECTUS.
THIS IS IN ADDITION TO THE DEALER'S OBLIGATION TO DELIVER A PROSPECTUS WHEN
ACTING AS AN UNDERWRITER AND WITH RESPECT TO UNSOLD ALLOTMENTS OR SUBSCRIPTIONS.
<PAGE> 4
[Graphic material omitted depicting the process of converting hardcopy
books into digital electronic book format, and the sale and use of electronic
books on personal computers and other reader devices using different reader
software products.]
<PAGE> 5
PROSPECTUS SUMMARY
The information below is only a summary of more detailed information
included in other sections of this prospectus. This summary may not contain all
the information that is important to you or that you should consider before
buying shares in the offering. The other information is important, so please
read this entire prospectus carefully.
netLIBRARY, INC.
We are the leading provider of electronic book technology and services
to publishers, educational and corporate libraries and other book industry
participants. Through our technology and services, which we call our platform,
we create, sell and manage electronic books while protecting the copyrights of
the digital content. Our electronic books can be securely delivered to audiences
over the Internet and corporate intranets for use with different reader devices
and reader software products. We offer publishers and customers an end-to-end
solution, including the conversion, copyright protection, hosting, management
and distribution of electronic books. We have converted over 28,000 titles,
which represent the largest collection of electronic books available from a
single source.
The Internet is the fastest growing communications medium in history,
and one of the most efficient distribution channels for commerce. Companies can
use the Internet to disseminate digital content efficiently to broad audiences
across geographic boundaries and to eliminate many traditional manufacturing,
packaging and distribution costs. Electronic books provide the publishing
industry with a significant opportunity to take advantage of this rapid and cost
efficient distribution capability. A recent study by Andersen Consulting
projected total retail revenue for electronic books of between $1.0 and $3.4
billion by 2005, with less than half replacing hardcopy sales and the remainder
representing incremental sales. The traditional publishing industry has been
slow to adopt the Internet as a vehicle for distributing published content,
largely because of concerns about protecting content and maintaining established
industry relationships. For the industry to take full advantage of the
compelling opportunities presented by the Internet, industry participants must
find an acceptable means of addressing these concerns.
We have designed a secure, cost-effective solution with the
functionality, scalability and flexibility to address current and anticipated
needs of book industry participants. We believe our platform offers the
following benefits:
o a proprietary digital rights management system that
incorporates both content-specific digital copyright
protection and a digital rights ownership management solution;
o additional revenue streams and significant cost savings to
publishers, book distributors and libraries;
o flexible and scalable business models to allow publishers,
distributors and other book industry participants to adopt the
business model most suitable to their business requirements;
o high functionality, increased accessibility and convenience
for end users;
o device independence which allows our electronic books to be
moved from one reader device or reader software product to
another; and
o detailed usage reports for publishers and libraries to allow a
more accurate forecast of demand.
We sell our electronic books directly and through distribution partners
in the institutional market, and through our subsidiary peanutpress.com, Inc.'s
Web site and online retailers in the consumer market. Our customers in the
institutional market include academic, corporate, K-12 and public libraries and
library consortia. As of June 30, 2000, we have sold over 162,000 copies of our
electronic books. Our electronic books are currently available to patrons of
more than 1,100 academic, corporate, K-12 and public libraries. Building on our
recent acquisition of MetaText, Inc., we have begun efforts to sell electronic
textbooks in the academic and K-12 markets.
We have developed strategic relationships with many leading book
industry participants, including publishers, book distributors, library
automation software vendors and providers of electronic book reading devices and
software. These relationships help us acquire electronic book rights to a broad
selection of titles in demand by our library customers, sell books to our
library customers through existing sales channels and integrate our electronic
books into the library management systems used by libraries. These efforts
facilitate the adoption and use of electronic books by library patrons and
encourage the purchase of additional electronic books by libraries. We believe
that our strategic relationships and our industry expertise have enabled us to
structure our products and services to complement, rather than compete with, the
products and services of participants in the traditional book industry.
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To maintain our position as the leading provider of electronic book
technology and services, we intend to:
o leverage and expand our strategic relationships;
o enhance our platform and functionality;
o extend our reader device and reader software product
leadership by ensuring that our platform remains compatible
with all existing and future reader devices and electronic
book file formats;
o grow our electronic book collection with additional quality
titles; and
o increase our penetration into existing and new markets.
CORPORATE INFORMATION
We incorporated in Delaware in June 1998 under the name staX
netLibrary, Inc. We changed our name to Interactive Knowledge, Inc. in August
1998, and to netLibrary, Inc. in August 1999. Our principal executive offices
are located at 3080 Center Green Drive, Boulder, Colorado 80301, and our
telephone number is 303-415-2548. We can be visited on the World Wide Web at
www.netLibrary.com. Information contained on our Web site does not constitute
any part of this prospectus.
netLibrary and www.netLibrary.com are trademarks of netLibrary, Inc.
All other brand names, trademarks, trade names and service marks appearing in
this prospectus are the property of their respective holders.
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<PAGE> 7
THE OFFERING
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Common stock offered............................... _______ shares
Common stock outstanding after the offering........ _______ shares
Use of proceeds from this offering................. We estimate that our net proceeds from this offering
without exercise of the over-allotment option will be
approximately $____ million. We intend to use these net
proceeds for selling and marketing our products and
services, continuing to develop and enhance our
technology, acquiring rights to additional book titles for
conversion to electronic books and general corporate
purposes, including working capital and capital needs. We
may also use a portion of the net proceeds to acquire or
invest in complementary businesses, technologies and
products.
Nasdaq National Market symbol...................... EBKS
</TABLE>
The number of shares outstanding after this offering is based on our
shares outstanding as of June 30, 2000. The number of shares outstanding
excludes:
o 2,428,592 shares of common stock underlying options granted
under our 1998 Stock Option Plan and outstanding as of June
30, 2000, at a weighted average exercise price of $7.85 per
share;
o 83,532 shares of common stock (20,625 of which are based upon
the automatic conversion of Series A preferred stock) issuable
upon the exercise of outstanding warrants and options as of
June 30, 2000, at a weighted average exercise price of $2.86
per share; and
o 1,046,252 shares reserved for future issuance under our 1998
Stock Option Plan as of June 30, 2000.
ASSUMPTIONS ABOUT THIS PROSPECTUS
Unless we indicate otherwise, all information in this prospectus assumes:
o the automatic conversion of our Series A preferred stock,
Series B preferred stock, Series C preferred stock and Series
D preferred stock on a one-for-one basis into 19,192,614
shares of our common stock upon completion of this offering;
o an increase in the number of our authorized shares of common
stock from _______________ to ____________ to be effected
concurrently with this offering;
o no exercise by the underwriters of their over-allotment option
to purchase up to ____________ additional shares of common
stock; and
o no exercise by any of our security holders of any outstanding
options or warrants.
If (i) the initial public offering price for our common stock is less
than $25.00 per share and the closing of this offering occurs on or before
October 31, 2000 or (ii) the initial public offering price is less than $30.00
per share and the closing occurs after October 31, 2000, our preferred stock
will not automatically convert into common stock upon the closing of this
offering unless the holders of two-thirds of the outstanding shares of each
series of our preferred stock elect to convert their shares. See "Description of
Capital Stock." If the initial public offering price minus the underwriting
discount is less than $17.675 per share, the ratio at which our Series D
preferred stock converts into common stock will be greater than one-to-one. The
section entitled "Description of Capital Stock - Anti-Dilution Provisions of our
Preferred Stock" provides additional information regarding anti-dilution.
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<PAGE> 8
SUMMARY CONSOLIDATED FINANCIAL DATA
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
Below is our summary financial data. We derived the condensed
statements of operations and balance sheet data from our audited and unaudited
financial statements. You should read this summary data together with
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and our financial statements and the related notes appearing
elsewhere in this prospectus. From June 1998 until March 31, 1999, we had a
March 31 fiscal year end. Effective April 1, 1999, we changed our fiscal year
end to December 31.
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SIX MONTHS ENDED
PERIOD FROM JUNE 30,
JUNE 5, 1998 (DATE NINE MONTHS ENDED ---------------------------------------
OF INCEPTION) DECEMBER 31,1999 1999 2000
THROUGH ----------------- ---- -------------------------
MARCH 31, 1999 ACTUAL PRO FORMA(a) ACTUAL ACTUAL PRO FORMA(a)
------------------ --------- ------------ --------- -------- ------------
CONDENSED STATEMENTS OF OPERATIONS DATA: (UNAUDITED) (UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C> <C> <C>
Revenue .................................... $ 18 $ 157 $ 224 $ 21 $ 4,264 $ 4,293
Loss from operations ....................... (4,299) (20,824) (26,074) (5,273) (27,522) (28,847)
Net loss before extraordinary lien ......... (4,274) (19,652) (24,893) (5,169) (25,620) (26,940)
Net loss attributable to common stock ...... (4,274) (22,691) (28,506) (5,470) (31,352) (32,783)
Basic and diluted loss per share:(b)
Net loss before extraordinary item ......... $ (3.18) $ (8.47) $ (8.69) $ (2.99) $ (6.32) $ (6.65)
Net loss attributable to common stock ...... $ (3.18) $ (9.78) $ (9.95) $ (3.16) $ (7.74) $ (8.09)
Shares used in computing basic and
diluted loss per share ................... 1,345 2,320 2,865 1,729 4,053 4,053
</TABLE>
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JUNE 30, 2000
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PRO FORMA AS
ACTUAL PRO FORMA(c) ADJUSTED(d)
----------- ------------ ------------
(UNAUDITED) (UNAUDITED) (UNAUDITED)
<S> <C> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents ......... $ 44,195 $ 51,695 $
Working capital ................... 38,684 46,184
Total assets ...................... 102,990 110,490
Long-term obligation .............. 189 189
Non current deferred revenue ...... 1,147 1,147
Redeemable preferred stock ........ 128,290 --
Stockholders' equity (deficit) .... (38,200) 97,590
</TABLE>
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(a) The pro forma financial information reflects the acquisition of peanutpress
and is derived from, and should be read in conjunction with, the unaudited
pro forma condensed combining financial statements of netLibrary and
peanutpress and the corresponding notes, which are included elsewhere in
this prospectus. In preparing the pro forma condensed statement of
operations data, the peanutpress results of operations have been included
as if the acquisition had occurred at April 1, 1999.
(b) We calculate loss per share of common stock by dividing the loss
attributable to common stock by the weighted average number of shares
outstanding. We do not include outstanding common stock options and
warrants in the loss per share of common stock calculation, as their effect
is anti-dilutive.
(c) The unaudited pro forma balance sheet data gives effect to the issuance of
424,328 shares of Series D preferred stock at $17.67 per share in July 2000
and the conversion of all outstanding shares of our preferred stock to
common stock on a one-for-one basis.
(d) Unaudited pro forma as adjusted balance sheet data gives effect to this
offering, assuming net proceeds of $____ million as if this offering had
occurred on June 30, 2000.
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<PAGE> 9
RISK FACTORS
Any investment in shares of our common stock involves a high degree of
risk. You should carefully consider the risks described below before making a
decision to buy our common stock. Additional risks and uncertainties not
presently known to us or that we currently deem immaterial also could harm our
business. If any of the following risks actually occur, our business could be
harmed, the trading price of our common stock could decline and you may lose all
or part of your investment. You should also refer to the other information
contained in this prospectus, including the financial statements and related
notes, before deciding to buy our common stock.
RISKS RELATED TO OUR BUSINESS
WE HAVE A NEW AND UNPROVEN BUSINESS MODEL, AND WE MAY NOT GENERATE SUFFICIENT
REVENUE FOR OUR BUSINESS TO GROW OR BE PROFITABLE.
Our business model is new and unproven and may never be successful. We
have changed and in the future may change our business model to adapt to changes
in our industry and markets and to realize additional sources of revenue. The
success of our model depends on our ability to generate revenue from the sale of
electronic books and services to our customers and our ability to realize new
revenue streams through the development of complementary products and services.
In order for our business to be successful, the publishing industry and
libraries must accept our platform for the delivery of electronic books and
other digital content over the Internet. We will need to develop products and
services that stimulate and satisfy customer demand while safeguarding
copyrights and other commercial rights of authors and publishers. If we fail to
achieve these objectives, our business may not be viable.
WE DEPEND UPON PUBLISHERS FOR OUR ELECTRONIC BOOK TITLES. IF WE ARE UNABLE TO
OBTAIN THE CONTENT DESIRED BY OUR CUSTOMERS, OUR BUSINESS WILL BE SUBSTANTIALLY
HARMED.
We must successfully acquire content that our customers demand. If we
fail to acquire quality content, customers may purchase fewer electronic books
from us and we may not be able to maintain our position as the market leader for
electronic books. We rely exclusively on publishers for our content and we must
maintain and strengthen these relationships to grow our business. Publishers may
be reluctant to provide us with titles to convert to electronic books unless
they are satisfied that our digital delivery of their titles over the Internet
will not result in the unauthorized copying and distribution of those
publications. Further, most of the books provided to us to date have been older,
or backlist, titles as opposed to current, or frontlist, titles. While
publishers have recently begun granting us rights to frontlist titles, we cannot
assure you that publishers will continue to provide us with these titles or that
we will obtain rights to the titles most in demand by our customers.
The terms we offer to publishers for converting books and for selling
the electronic books we create must remain competitive so that we can continue
to secure rights to the titles in demand by our customers. We must demonstrate
to publishers that our marketing practices will not reduce the aggregate sales
of their titles. If publishers believe that their hardcopy book sales will be
harmed by distribution over the Internet or by offering an electronic book
alternative, we may be unable to secure the rights to titles demanded by our
customers.
Our agreements with publishers are non-exclusive and do not require the
publishers to continue to provide us with titles for conversion. As a result, we
do not have a guaranteed or predictable supply of books to digitize. Publishers
may offer our competitors the same titles that we offer or other, more
attractive titles. Moreover, if publishers decide to offer electronic titles
themselves, provide book titles to our competitors on more favorable terms than
offered to us or simply fail to provide us with additional, quality titles, our
business and long-term prospects would be seriously impaired. Additionally, our
access to high demand content is limited by our ability to obtain the necessary
rights from the publishers that own these titles. If we are unsuccessful in
maintaining and expanding our current relationships with publishers or if we
fail to establish new relationships with other content providers, our business
would be harmed.
To date, we have paid the costs of creating our electronic books. We
recently modified our business model to have publishers pay for all or part of
the conversion costs beginning by the end of 2000. We have only recently begun
discussing this proposal with publishers, and do not yet know whether or to what
extent publishers will be willing to provide us rights to the titles that we
desire on these terms. Additionally, some other companies have begun offering
conversion services to publishers, some of which provide these services free of
charge. If publishers use other conversion service providers, publishers may not
grant us distribution rights to the resulting electronic books. If we must
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<PAGE> 10
continue to absorb all of the conversion costs, or cannot obtain rights to sell
the books desired by our customers, our revenues and cash flow could be
adversely affected.
In deciding which titles to convert, we currently rely on third party
information, such as input from our distribution partners, to assess customer
demand. This information is not always accurate. As a result, we have converted,
and will likely convert, some titles to electronic books that do not generate
adequate sales to recoup the conversion costs we incur.
OUR BUSINESS IS LARGELY DEPENDENT ON THE WIDESPREAD ACCEPTANCE OF ELECTRONIC
BOOKS AS AN ATTRACTIVE ALTERNATIVE TO TRADITIONAL HARDCOPY BOOKS, AND THE
FAILURE TO ACHIEVE WIDESPREAD ACCEPTANCE OF THIS NEW FORMAT OR A SIGNIFICANT
DELAY IN THE ADOPTION OF THIS FORMAT WILL HAVE A MATERIAL ADVERSE EFFECT ON OUR
BUSINESS, FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
Our success depends in large part on widespread acceptance and use by
library patrons and consumers of electronic books as a replacement for, or
supplement to, traditional hardcopy books, learning tools and research methods.
The adoption of our electronic books by libraries and library patrons may depend
upon our ability to integrate electronic books with existing library catalog
systems and other technology used by libraries, and upon our ability to deliver
electronic books that are easy to use. We believe that the consumer market for
electronic books will not fully develop until consumers are able to read
electronic books on handheld devices that provide a quality end user experience.
Although several consumer electronics companies have introduced or announced
plans to introduce handheld reader devices, we do not believe that the currently
available devices are being adopted at a rate adequate to support significant
consumer electronic book sales. End users may fail to adopt electronic books for
a number of additional reasons, including:
o lack of awareness of electronic books;
o the look and feel of electronic books;
o actual or perceived difficulty researching, reading and
accessing electronic books;
o actual or perceived limitations in selection and availability
of electronic books; or
o actual or perceived lack of privacy.
If our electronic books are not widely accepted by end users, our
business, financial condition and results of operations will be significantly
impaired.
OUR LIMITED OPERATING HISTORY MAKES EVALUATING OUR BUSINESS DIFFICULT.
We began operations in July 1998, digitized our first electronic book
in January 1999, launched our Web site in March 1999 and sold our first
electronic book in May 1999. Our limited operating history makes it difficult to
evaluate our business and prospects. Our prospects must be considered in light
of the risks, uncertainties, expenses and difficulties frequently encountered by
companies in their early stages of development, particularly companies
attempting to use technology to change long-established business and consumer
behavior. These risks and uncertainties are discussed in this "Risk Factors"
section and elsewhere throughout this prospectus. If we fail to address these
risks and uncertainties, we may be unable to grow our business, increase our
revenue or become profitable.
WE HAVE A HISTORY OF LOSSES, EXPECT TO INCUR LOSSES FOR THE FORESEEABLE FUTURE,
AND MAY NEVER BECOME PROFITABLE OR GENERATE POSITIVE CASH FLOW.
We have experienced operating losses in each quarterly and annual
period since inception. As of June 30, 2000, we had an accumulated deficit of
$49.8 million. We expect to continue to incur net losses for the foreseeable
future because our operating expenses and capital expenditures will increase
significantly during the next several years as we attempt to grow our business.
With increased expenses, we will need to generate significant additional revenue
to achieve profitability. As a result, we may never become profitable. Even if
we do achieve profitability in any period, we may not be able to sustain or
increase profitability on a quarterly or annual basis.
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OUR QUARTERLY REVENUE AND OPERATING RESULTS ARE DIFFICULT TO FORECAST AND MAY
FLUCTUATE, WHICH MAY CAUSE OUR SHARE PRICE TO DECLINE.
Our quarterly revenue and operating results are difficult to forecast
because of our limited operating history. Our sales may fluctuate based on the
seasonal purchasing patterns of our customers and we may not be able to
accurately predict seasonal fluctuations. We began selling electronic books in
May 1999 and therefore have a limited operating history from which to make
accurate forecasts. The book purchasing patterns of our institutional customers,
particularly academic, K-12, public libraries and library consortia, have
seasonal fluctuations influenced in part by academic calendars, annual budget
cycles and the availability of budget funds. Moreover, our sales could be
delayed from quarter to quarter, partly due to our need to educate customers
about the benefits of electronic books and the approval processes that may
accompany expenditures by academic, K-12, public libraries and library
consortia. If a significant sale that we expect to occur in a particular quarter
is delayed or does not occur at all, our quarterly performance may fall below
financial analysts' and investors' expectations, which may cause our share price
to decline.
PROTECTING THE COPYRIGHTED MATERIAL CONTAINED IN OUR ELECTRONIC BOOKS IS
CRITICAL TO OUR SUCCESS, AND WE COULD BE LIABLE FOR SUBSTANTIAL DAMAGES IF THERE
IS UNAUTHORIZED DUPLICATION OF THE ELECTRONIC BOOKS THAT WE SELL, OR IF OUR
DISTRIBUTION OF CONTENT VIOLATES COPYRIGHT LAWS OR THE TERMS OF AN AUTHOR'S
AGREEMENT WITH A PUBLISHER.
Publishers and other providers of content must have confidence in our
digital rights management system and our ability to deliver electronic books
securely over the Internet for our business to grow and to succeed. Our
electronic books use software that is designed to protect publisher and author
rights to the electronic books by limiting an end user's ability to make
unauthorized copies of text. If end users circumvent these protections, they
could make unauthorized copies that infringe the rights of copyright holders. If
significant infringement occurs, our reputation and competitive position will be
adversely affected. In addition, publishers may refuse to provide us with
additional content or demand that we cease distributing electronic books for
which we have previously acquired distribution rights. Moreover, any failure to
prevent infringement could subject us to litigation, which would be
time-consuming, costly and divert significant managerial and financial
resources.
We may also face potential liability for unauthorized duplication or
distribution of third party materials. For example, if electronic distribution
of a particular title is not authorized by an author's agreement with his or her
publisher, our distribution of that content could subject us to liability for
infringement. We rely to a large extent on our publishers' representations that
they are able to grant us electronic distribution rights to a particular
author's works. Publishers may make mistakes in determining whether they can
grant us these rights. Violation of an author's rights could result in costly
and time-consuming litigation, loss of content, liability for money damages that
we may not be able to recover from the publisher and injury to our reputation
and strategic relationships.
WE DEPEND ON INSTITUTIONAL LIBRARY CUSTOMERS FOR SUBSTANTIALLY ALL OF OUR
REVENUE, AND THE LOSS OF ANY SIGNIFICANT CUSTOMER WOULD REDUCE OUR REVENUE.
Currently, we derive approximately 85% of our revenue from
institutional library customers and from library consortia, which serve as
purchasing agents for member libraries. We expect to derive most of our revenue
from these customers for the foreseeable future. For the six months ended June
30, 2000, our five largest customers represented 27% of our gross revenue. As a
result, the loss of, or reduced electronic book purchases by, any significant
institutional library customer could reduce our revenue significantly. The
number of electronic books ordered by a specific library or library consortium
is likely to vary from period to period, and a significant customer in one
period may not purchase our electronic books or use our services in a subsequent
period.
IF WE ARE UNSUCCESSFUL IN DEVELOPING AND ENHANCING OUR STRATEGIC RELATIONSHIPS,
OUR BUSINESS WILL BE HARMED.
We currently have strategic relationships with publishers, book
distributors, library automation software companies and providers of electronic
book reading devices and software. These relationships provide us with access to
content, market and consumer preference information and large institutional
buyers and distributors. We expect a growing percentage of our sales will be
generated through strategic partners such as book distributors that facilitate
the distribution of our electronic books to their customers. If we are not
successful in developing and enhancing these relationships, we could lose access
to the content, distribution networks and consumer and market information that
these strategic relationships provide.
Most of these strategic relationships have developed recently, and our
strategic partners may not view these relationships with the same level of
significance to their own business as we do to ours. Our partners may reassess
their commitment to us or decide to compete directly with us in the future. Our
agreements with our strategic partners do not
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prohibit them from competing against us directly or from contracting with our
competitors. As a result, our current partners may compete with us in the
future, or partner exclusively or non-exclusively with our competitors, either
of which could reduce our revenue and harm our business.
OUR GROWTH MAY BE CONSTRAINED IF WE ARE UNABLE TO PENETRATE ADDITIONAL MARKETS
SUCH AS THE CORPORATE LIBRARY, CONSUMER, INTERNATIONAL OR DIGITAL TEXTBOOK
MARKETS.
To date, we have sold most of our electronic books to academic
libraries or library consortia in the United States. Our future prospects depend
primarily on increasing sales to academic libraries and to a lesser extent on
selling electronic books to additional markets such as the corporate library,
consumer and international markets. We may encounter difficulty penetrating some
or all of these markets. The attributes of electronic books that are useful and
attractive to researchers, students and professors may not be important to other
consumers. Corporations may be reluctant to invest in electronic book technology
until they are satisfied that the technology is cost efficient and will be
widely adopted. Our success in selling electronic books in international markets
will depend on the demand for English language content, our ability to create
electronic books in languages other than the English language, our ability to
deliver and host electronic books for users outside of the United States, and
upon the ability to comply with regulatory and legal requirements in foreign
countries. Widespread reluctance by additional markets to accept electronic
books could slow our growth, result in the market adoption of competing
technologies and reduce our revenue.
In order to penetrate these additional markets, we must develop our
technology further and enter into agreements with manufacturers of electronic
book reading devices and software to ensure that our platform will enable
consumers to download our electronic books to different reading devices or
different reading software, such as the Microsoft Reader, Rocket eBook and
others. If companies fail to introduce additional devices that are widely
adopted by consumers, if our products and services are incompatible with these
devices, or if these companies deny us access to their products and services,
our business would be harmed.
Our future prospects may also depend upon our ability to create and
sell digital textbooks. The digital textbook market may require more advanced
multimedia capability than our platform currently supports. We may be unable to
implement multimedia capability on a satisfactory basis, and publishers may be
unable to obtain the necessary third-party intellectual property rights to
multimedia content. The successful distribution of digital textbooks will also
require the acceptance and adoption of electronic textbooks by faculty and
students. Generally we will rely on publisher representatives to introduce our
digital textbooks to faculty. If these publisher's representatives fail to
successfully market our electronic textbooks or if we are unable to expand our
sales activities to include faculty and textbook distributors, our business may
be harmed.
IF WE FAIL TO EXPAND OUR PLATFORM TO MEET DEMAND, SYSTEM CAPACITY CONSTRAINTS
COULD LIMIT OUR ABILITY TO PROVIDE OUR PRODUCTS AND SERVICES TO OUR CUSTOMERS,
REDUCE OUR REVENUE AND DAMAGE OUR REPUTATION.
A substantial increase in the use of our products and services could
strain the capacity of our systems, which could lead to slower response time or
system failures. These failures or slowdowns could be frustrating for our
customers and could harm our business. As an example, connection errors and
other problems hampered the Internet-only distribution of Stephen King's 66-page
novella Riding the Bullet by other electronic book vendors on the first day it
became available for download. Our business would suffer if consumers experience
significant delays or other difficulties in accessing or downloading electronic
books from our Web site.
Although we have designed and tested our systems to handle several
times the highest daily traffic volume we have experienced to date, we cannot be
certain that our systems will be able to meet sporadic or sustained increases in
traffic to our Web site. As a result, our ability to scale up to our expected
traffic levels while maintaining satisfactory performance may be compromised. As
our traffic volume increases, we will need to purchase additional servers and
networking equipment to maintain adequate data transmission speeds. The
availability of these products and related services may be limited or their cost
may be significant.
We also expect that the evolving market for electronic books will lead
to changes in the functionality of electronic books, enhanced customers'
expectations for additional data collection and reporting and other services,
new pricing and usage models, and other changes in how our electronic books are
marketed, sold and used. Our Web site and the Web sites to which we provide
systems integration must be able to accommodate this increased functionality and
services and evolving transactional models. If we are unable to design our
systems to accommodate these changes or
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requirements as they arise, we may not be able to satisfy customer service
expectations or respond to new business opportunities in a rapidly changing
environment.
WE ARE VULNERABLE TO SYSTEM FAILURES, WHICH COULD CAUSE INTERRUPTIONS IN OUR
SERVICE.
Interruptions in our computer systems or Web site operations could
cause our revenue to decline and impose substantial unforeseen costs on our
operations. If our customers experience significant interruptions or slow
response times in our Web services or their ability to access electronic books,
the attractiveness of electronic books as a viable alternative to traditional
books and research methods may be reduced. Similarly, system failures that
affect our ability to convert hardcopy books to electronic books could result in
material losses of digitized content or slow our efforts to provide the digital
content that is necessary to expand our business and attract and retain
customers. Our primary hardware infrastructure is maintained by a third party
vendor, Exodus Communications, Inc. We may not be able to control the risks
associated with having our hardware infrastructure maintained by Exodus
Communications. Unexpected events such as natural disasters, power losses and
vandalism could damage our systems. Also, telecommunications failures, computer
viruses, electronic break-ins or other similar disruptive problems could also
adversely affect the operation of our systems. The "I LOVE YOU" virus that
occurred in May, 2000, for example, caused global disruptions, including the
temporary shutdown of a portion of the servers that support our Web site. Our
insurance policies may not adequately compensate us for any losses that may
result from these types of system problems.
We have experienced unscheduled system downtime in the past, which
resulted in our Web site being inaccessible to customers, or being accessible
with limited functionality. Since our Web site was installed on the Exodus
Communications hardware in November 1999, our Web site has been inaccessible to
customers for approximately 8.25 hours, including 7.00 hours because of failures
of equipment or software and 1.25 hours because of problems created by vendors.
Although we did not suffer material losses during these downtimes, any future
system failures could harm our reputation and reduce publisher and customer
confidence in our platform and business.
UNKNOWN SOFTWARE DEFECTS COULD DISRUPT OUR SERVICES, WHICH COULD HARM OUR
BUSINESS AND REPUTATION.
Our platform depends on complex computer software that has been either
developed internally or licensed from third parties. Computer software often
contains defects, particularly when first introduced or when new versions are
released. Although we conduct extensive testing, we may not discover software
defects that affect our new or current services or enhancements until after they
are deployed. Although we have not experienced any material software defects to
date, it is possible that, despite testing by us, defects may occur in the
software. In addition, our conversion process and quality assurance mechanisms
may fail to detect errors in the electronic books that we produce. If we
experience service interruptions or market products and services that contain
errors or that do not function properly, we may experience negative publicity,
loss of or delay in market acceptance, or claims against us by publishers or
customers, any of which could harm our business.
WE RELY ON THE TECHNOLOGY AND SERVICES OF THIRD PARTIES AND FAILURE TO MAINTAIN
THESE RELATIONSHIPS OR REPLACE THEM COULD ADVERSELY AFFECT OUR BUSINESS.
We license third party technology including applications that are
integrated into our platform and used to provide our products and services to
our customers. As our platform evolves, we may need to license additional or
alternative technology from third parties. These third party technology licenses
may not be available or continue to be available to us on commercially
reasonable terms, or at all, and we may not be able to obtain licenses for other
existing and future technologies that we desire to integrate into our platform
and products. If we cannot maintain existing third party technology licenses or
enter into licenses for other existing and future technologies needed for our
platform and our products, we would be required to delay the delivery of our
products and services to our customers while we seek licenses with alternative
third parties or develop the necessary technology internally. A delay in
providing our customers with our products and services would harm our business.
We also rely on third party vendors using our proprietary conversion
process to perform the initial conversion work in creating an electronic book.
We have trained these vendors to convert publications to our specifications,
including complex scientific and technical publications that are often
time-consuming and expensive to convert into digital format. If we lose the
services of vendors, particularly those that we have trained to convert our
scientific and technical publications, we would need to train alternative
vendors, which could delay conversion of titles and adversely affect our
revenue.
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WE MAY NOT BE ABLE TO COMPETE SUCCESSFULLY WITH COMPETITORS WITH GREATER
FINANCIAL RESOURCES OR WITH OTHER NEW ENTRANTS TO THE DIGITAL CONTENT MARKET.
The market for Internet content, products and services is new, rapidly
evolving and intensely competitive. We expect this competition to increase
significantly as new companies enter the electronic book publishing and hosting
market. While we currently are not aware of any competitor that provides an
end-to-end solution for the conversion, distribution, management and sale of
electronic books over the Internet, we face competition in each of these areas,
and we expect that competition in some or all of these areas will increase.
Current and potential competitors include:
o providers of digital content and related services such as
Books 24x7, IT Knowledge, a division of Earth Web, Inc., R.R.
Donnelley & Sons Company; and Versaware, Inc.;
o providers of digital rights management and infrastructure
solutions and reader devices and reader software products such
as Adobe Systems Incorporated; Glassbook, Inc.; InterTrust
Technologies Corporation; Microsoft Corporation, NuvoMedia and
SoftBook, divisions of GemStar, Inc., Reciprocal, Inc.; and
Xerox, Inc.; and
o distributors and retailers such as Amazon.com;
barnesandnoble.com; Fatbrain.com, Inc.; and Ingram Industries
Inc.
Many current and potential competitors in different portions of our
market have longer operating histories and significantly greater financial,
technical, sales, marketing, support and distribution resources than we do. As a
result, these competitors are able to devote greater resources than we can to
the development, promotion, sale and support of their products and services.
Several of our competitors also have large market capitalizations and/or cash
reserves, and are much better positioned than we are to acquire other companies
and complementary technologies, products and services that could provide them
with significant strategic advantages over us. Additionally, several of these
companies have greater brand recognition, larger installed customer bases and
broader product and service offerings than we do. These competitors can leverage
their customer bases and broader product and service offerings and adopt
aggressive pricing policies to gain market share.
Competition for electronic book customers could increase due to a
number of factors, including:
o loss of existing, or inability to establish new, publisher
relationships;
o the establishment of cooperative relationships among
competitors or between competitors and third parties that
develop, promote and support digital content products and
services;
o increased competition from publishers, distributors,
electronic retailers or other established online content
distributors;
o entry into the electronic book market by existing hardcopy
book printers, other book industry participants and other
companies that we do not currently view as competitors;
o changes in technology or business activities that render our
digital rights management software obsolete or less
significant; and
o our inability to patent or otherwise protect our proprietary
software from use by our competitors.
We believe that due to increased competition we will need to invest in
new technologies and increase our product and service offerings to maintain our
competitive position. If we are unable to compete effectively, or if we
experience pricing pressures, reduced margins or loss of market share, our
financial results and the price of our common stock could be adversely affected.
WE MAY NOT BE ABLE TO KEEP UP WITH RAPID TECHNOLOGICAL AND INDUSTRY CHANGES.
The Internet digital content market is characterized by rapid
technological change, frequent introductions of new or enhanced products and
services, evolving industry standards and changes in customer preferences and
requirements. We may not be able to keep up with any of these or other rapid
technological changes, and if we do not, our business will be harmed. These
changes and the emergence of new industry standards and practices could render
obsolete our existing platform, business model, products and services. The
widespread adoption of new technologies or other technological changes could
require us to incur substantial expenditures to modify or adapt our platform and
operating practices. To be successful, we must enhance our platform's
functionality and features, acquire and license
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leading technologies, enhance our existing service and product offerings, and
respond to technological advances and emerging industry standards and practices
in a timely and cost effective manner. In addition, we must be able to
continually adapt and respond to ongoing changes in the publishing and library
industries.
WE DEPEND ON THE SERVICES OF OUR EXECUTIVE OFFICERS AND KEY EMPLOYEES TO MANAGE
OUR GROWTH, AND WE MAY NOT BE ABLE TO RETAIN THESE INDIVIDUALS OR ATTRACT OTHER
QUALIFIED PERSONNEL.
Our business is largely dependent on the personal efforts and abilities
of our key technical, sales and senior management personnel and their ability to
execute our strategy. In particular, we depend on the services of Robert
Kaufman, our Chief Executive Officer and President, Nancy Talmey, our Chief
Operating Officer, and Richard Rosy, our Executive Vice President, Sales. Any of
our officers or employees can terminate their employment relationship at any
time. We do not maintain key person life insurance on any member of our
management team. If we lose the services of any key employee, including members
of our senior management team, our ability to maintain a cohesive and stable
environment and culture would decrease and could harm our business. Similarly,
if we fail to attract, motivate and retain experienced and qualified personnel,
we may be unable to provide the quality electronic book titles and other
services that our customers expect. We plan to hire additional personnel in all
areas of our business. Competition for personnel is intense, particularly in the
Internet industry and in the Boulder, Colorado area. As a result, we may be
unable to attract or retain qualified personnel.
WE MAY BE UNABLE TO MANAGE OUR RAPID GROWTH OR INTEGRATE NEW PERSONNEL
EFFECTIVELY, WHICH WOULD RESULT IN INEFFICIENT OPERATIONS, INCREASED EXPENSES
AND REDUCED PROFITABILITY POTENTIAL.
We have grown rapidly and this growth may continue as we hire new
employees. Our growth has placed, and will continue to place, significant
demands on our management, operating and financial resources. Our full-time
employee base grew from eight to 383 between August 1998 and June 30, 2000. Our
new employees include a number of key managerial and technical employees who
have not been fully integrated into our management team, and we expect to add
additional key personnel in the near future. If we are unable to manage growth
or integrate new personnel effectively, our business and financial results would
be adversely affected. In addition, our ability to offer services and products
and implement our business plan successfully in a rapidly evolving market
requires an effective planning and management process. We have increased, and
plan to continue to increase, the scope of our operations. To manage our future
growth, we will need to:
o improve existing or implement new operational and financial
systems, procedures and controls;
o expand, train and manage our employee base;
o integrate any new acquisitions effectively; and
o maintain close coordination among our technical, finance,
marketing, sales and support staffs.
Failure to accomplish any of these items could adversely affect our
ability to expand our business.
CHANGES IN REVENUE RECOGNITION PRINCIPLES COULD CHANGE OUR RESULTS OF OPERATIONS
FOR PRIOR PERIODS.
We report revenue based upon revenue recognition principles established
by the accounting profession, as applied to our business practices, and based
upon the advice of our accountants. In particular, our revenue recognition
practices depend upon a recent tentative conclusion of an existing pronouncement
reached by the Financial Accounting Standards Board's Emerging Issues Task
Force, and we have adapted our business practices to comply with requirements of
that conclusion. However, the accounting profession and the SEC are continually
evaluating the principles for recognizing revenue by the Internet and software
industries. Any change in the revenue recognition principles upon which we are
relying could require us to change our revenue recognition practices, and could
require changes in the results of our operations for prior periods.
OUR BUSINESS COULD BE HARMED IF WE FAIL TO PREVENT ONLINE SECURITY BREACHES, AND
WE MAY BE FORCED TO EXPEND SIGNIFICANT RESOURCES TO PROTECT AGAINST ONLINE
SECURITY BREACHES OR TO ADDRESS PROBLEMS CAUSED BY BREACHES.
A significant barrier to electronic commerce and communications is the
secure transmission of confidential, proprietary and copyrighted information
over public networks. We accept credit card numbers for purchases of electronic
books on the peanutpress Web site and transmit copyrighted material over our Web
site. Our proprietary software and other security measures may not prevent
security breaches, credit card fraud and unauthorized access to and copying of
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electronic books. Recently, some well-known Web sites, including Yahoo, eBay and
Buy.com, have been attacked by hackers that have rendered the Web sites
inoperable. Additionally, the digital rights management system of an electronic
book reader's software was breached during the electronic book-only release of
Stephen King's Riding the Bullet resulting in the distribution of unauthorized
copies. Substantial or ongoing security breaches of our system or other
Internet-based systems could reduce user and publisher confidence in Internet
distribution of content or in our Web site. This could lead to reduced usage,
reduced access to content and lower revenue. A third party who is able to
circumvent our security systems could steal proprietary information, make and
distribute unauthorized copies of electronic books or cause interruptions in our
operations. In response to a breach, we would likely incur substantial
corrective and prevention costs. If we suffer significant or repeated breaches
of security, our reputation would be harmed, we could lose contracts with
publishers, and we could be exposed to systems failures, data loss or
litigation, any of which could have a material adverse effect on our results of
operations. Moreover, our insurance policies may be inadequate to reimburse us
for losses caused by security breaches.
IF WE FAIL TO PROTECT OUR PROPRIETARY RIGHTS ADEQUATELY, OR INFRINGE THE
INTELLECTUAL PROPERTY RIGHTS OF OTHERS, OUR BUSINESS COULD BE SERIOUSLY HARMED
AND WE COULD INCUR SIGNIFICANT COSTS.
Our success and ability to compete depends on our internally developed
technologies and trademarks, which we protect through a combination of patent,
copyright, trade secret and trademark laws. We have filed applications for
patents and trademarks but these applications may not be approved. Even if they
are approved, our patents or trademarks may be successfully challenged by others
or invalidated.
We generally enter into confidentiality or license agreements with our
employees, consultants and corporate partners, and control access to and
distribution of our technologies, documentation and other proprietary
information. Despite our efforts to protect our proprietary rights from
unauthorized use or disclosure, parties may attempt to disclose, obtain or use
our trade secrets, solutions or technologies. The steps we take to protect our
intellectual property may not prevent its misappropriation, particularly as we
expand into foreign countries where laws or law enforcement practices may not
protect our proprietary rights as fully as in the United States.
We may be subject to claims that we infringe the proprietary rights of
third parties. We could incur substantial costs and diversion of management
resources to defend any claims relating to proprietary rights, and we may not be
successful, regardless of the merits of the claims.
We attempt to avoid infringing known proprietary rights of third
parties in our product and service development efforts. We do not, however,
conduct comprehensive patent searches to determine whether our technology
infringes patents held by third parties. If we were to discover that our
products violate third party proprietary rights, we might not be able to obtain
licenses to continue offering these products without substantial reengineering.
The effort to undertake this reengineering might not be successful, licenses
might be unavailable on commercially reasonable terms, if at all, and litigation
might not be avoided or settled without substantial expense and damage awards.
Any claims relating to the infringement of third party proprietary rights, even
if not meritorious, could force us to expend significant financial and
managerial resources and could result in injunctions preventing us from
distributing our products and services.
WE MAY NEED TO RAISE ADDITIONAL CAPITAL, WHICH MAY NOT BE AVAILABLE ON FAVORABLE
TERMS AND COULD RESULT IN ADDITIONAL DILUTION.
We may need to raise additional capital after this offering to fund
operating losses, develop and enhance our services and products, fund expansion,
respond to competitive pressures or acquire complementary products, businesses
or technologies. We may not be able to raise additional financing on favorable
terms, if at all. If we raise additional funds through the issuance of equity or
convertible debt securities, the percentage ownership of our stockholders will
be reduced and the securities issued may have rights, preferences or privileges
senior to those of our common stock. If we cannot raise adequate funds on
acceptable terms, our ability to fund our growth, take advantage of business
opportunities, develop or enhance services or products or otherwise respond to
competitive pressures will be significantly limited.
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RISKS RELATED TO THE INTERNET
SLOW DEVELOPMENT OR A DECLINE IN USE OF THE INTERNET WOULD ADVERSELY AFFECT OUR
ABILITY TO OFFER OUR SERVICES AND RESULT IN REDUCED REVENUE.
A number of factors may inhibit Internet usage, including inadequate
network infrastructure, security concerns, inconsistent quality of service and
lack of availability of cost-effective, high-speed service. If Internet usage
grows, the Internet infrastructure may not be able to support the demands placed
on it by this growth and its performance and reliability may decline. If
Internet outages or delays occur frequently in the future, Internet usage,
electronic commerce and the usage of our products and services could grow more
slowly or decline.
THE INTERNET IS SUBJECT TO MANY LEGAL UNCERTAINTIES AND POTENTIAL GOVERNMENT
REGULATIONS THAT MAY SUBJECT US TO LIABILITY FOR DISTRIBUTION OF PERSONAL DATA
OR UNLAWFUL CONTENT.
Any new law or regulation pertaining to the Internet, or the
application or interpretation of existing laws to the Internet, could decrease
demand for our products and services, increase our cost of doing business or
otherwise have a material adverse effect on our business, financial condition
and results of operations. New laws or new applications of old laws could
subject us to defamation, indecency and other content-based claims brought by
Internet users.
The United States and foreign nations may adopt legislation aimed at
protecting Internet users' privacy. This legislation could increase our cost of
doing business and negatively affect our financial results. Moreover, it may
take years to determine the extent to which existing laws governing issues like
property ownership, libel, negligence and personal privacy are applicable to the
Internet. Currently, privacy law in the United States consists of disparate
state and federal statutes regulating specific industries that collect personal
data. Most of these statutes pre-date and do not specifically address online
activities. European nations are now implementing a European Union Data Privacy
Directive regulating the transmission and storage of personal information and
data. In addition, a number of comprehensive legislative and regulatory privacy
proposals are now under consideration by federal, state and local governments in
the United States.
Implementation of privacy laws or application of content liability laws
to the Internet will result in increased regulatory compliance costs and
increased liability exposure, which could negatively impact our results of
operations.
INTERNET TRANSACTIONS MAY BECOME LESS DESIRABLE TO PUBLISHERS AND CONSUMERS IF
THEY BECOME SUBJECT TO ADDITIONAL TAXES, WHICH WOULD HARM OUR REVENUE AND
PROSPECTS.
The tax treatment of the Internet and electronic commerce is currently
unsettled, and any legislation that substantially impairs the growth of
electronic commerce could seriously harm our revenue and prospects. We do not
collect sales tax or other similar taxes in connection with our sales, except
from purchasers located in Colorado. One or more states or the federal
government may seek to impose sales tax collection obligations on out-of-state
companies that engage in or facilitate online commerce, and a number of
proposals have been made at the state and local level that would impose
additional taxes on electronic commerce. The Internet Tax Freedom Act of 1998
placed a three-year moratorium on selected types of federal, state and local
taxation on Internet commerce. This tax moratorium does not, however, prohibit
states or the Internal Revenue Service from collecting taxes on our income, if
any, or from collecting taxes that are due under existing tax rules. A
successful assertion by one or more states, the federal government or any
foreign country that we should collect taxes on the sales of electronic books
over the Internet could harm our business. The Federal Advisory Commission on
Electronic Commerce has prepared its final report and submitted formal
recommendations to Congress. The final report includes a proposal, supported by
a majority of the commissioners, for a five-year extension of the moratorium on
new taxes on certain Internet transactions. However, this proposal failed to
receive the required two-thirds vote necessary for a formal recommendation
Congress. We cannot assure you that future laws will not impose taxes or other
regulations on Internet commerce, or that the three-year moratorium will not be
repealed or renewed, any of which could substantially impair the growth of
electronic commerce.
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RISKS RELATED TO THIS OFFERING
OUR COMMON STOCK HAS NOT TRADED PUBLICLY AND MAY NOT TRADE ACTIVELY AFTER THIS
OFFERING.
Prior to this offering, you could not buy or sell our common stock
publicly. We cannot assure you that an active public trading market for our
stock will develop or be sustained after this offering.
THE MARKET PRICE OF OUR COMMON STOCK AFTER THIS OFFERING MAY VARY SIGNIFICANTLY
FROM THE INITIAL PUBLIC OFFERING PRICE.
The initial public offering price for our common stock will be
determined through negotiations with the underwriters, and may not be indicative
of the market price of our common stock after the offering. Investors may be
unable to resell their shares at or above the initial offering price due to many
factors, including:
o changes in financial estimates or investment recommendations
by securities analysts;
o actual or anticipated fluctuations in operating results;
o announcements by us or our competitors of significant
contracts, acquisitions, strategic partnerships, joint
ventures, technological innovations or capital commitments;
o loss of a significant customer;
o additions or departures of key personnel; and
o the operating and stock price performance of comparable
companies.
Market prices for securities of Internet and technology companies
frequently have reached elevated levels following their initial public
offerings. These levels may be unsustainable and may bear little or no
relationship to the historical or reasonably anticipated future operating
results of these companies. Similarly, the market price of our common stock may
reach an elevated level following this offering, followed by a substantial
decline. Stockholders of public companies have instituted securities class
action litigation following periods of volatility in the market price of a
company's securities. If we were involved in a class action suit, it could be
costly, damage our reputation and divert the attention of management.
Furthermore, if adversely determined, a class action suit would negatively
impact our profitability and have a material adverse effect on our business,
financial condition and results of operations.
OUR EXISTING STOCKHOLDERS WILL MAINTAIN CONTROL OF OUR COMPANY FOLLOWING THIS
OFFERING, WHICH THEY COULD EXERCISE AGAINST YOUR BEST INTEREST.
Upon completion of this offering, our present directors and executive
officers, existing stockholders, and their affiliates will beneficially own
approximately _____% of our outstanding common stock. As a result, if they act
as a group, these stockholders will have the ability to control all matters
submitted to the stockholders for approval and exert significant influence over
our management. The control held by our existing stockholders may have the
effect of delaying or preventing a change in control of our company, which could
negatively affect our stock price. Furthermore, five of the members of our
current board of directors have been elected in accordance with the terms of
stockholders agreements which provided specified stockholders, or classes of
stockholders, with rights to elect directors. While the rights to elect
directors in the stockholders agreements terminate at the effective time of this
offering, the incumbent board of directors will continue to be composed of the
representatives of our pre-existing stockholders until they resign, are removed,
or do not stand for reelection.
ANTI-TAKEOVER PROVISIONS IN OUR CHARTER DOCUMENTS, AS WELL AS PROVISIONS OF
DELAWARE LAW, COULD PREVENT OR DELAY A CHANGE IN CONTROL OF OUR COMPANY.
Provisions in our bylaws and certificate of incorporation may have the
effect of delaying or preventing a change in our control or changes in our
management. These provisions include:
o the calling of special meetings of the stockholders only by
the board of directors, the chairman or the chief executive
officer;
o the prohibition of any stockholder action by written consent
without a meeting;
o staggered three-year terms for the members of the board of
directors;
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o the removal of directors without cause only upon the
affirmative vote of holders representing two-thirds of our
outstanding shares; and
o the advance notice procedures contained in our bylaws with
regard to the nomination of candidates for election to the
board of directors and with regard to matters to be brought
before an annual meeting of our stockholders.
In addition, we are subject to the anti-takeover provisions contained
in Section 203 of the Delaware General Corporation Law, which prohibits us from
engaging in a business combination with an interested stockholder for a period
of three years after the date of the transaction in which the person became an
interested stockholder, unless the business combination is approved in a
prescribed manner. The application of Section 203 could have the effect of
delaying or preventing a change in our control.
AS A NEW INVESTOR, YOU WILL INCUR SUBSTANTIAL DILUTION AS A RESULT OF THIS
OFFERING AND FUTURE EQUITY ISSUANCES.
The initial public offering price will be substantially higher than the
book value per share of our outstanding common stock. As a result, investors
purchasing common stock in this offering will incur immediate dilution of $____
a share, assuming an initial public offering price of $_____ a share, the
midpoint of the offering range set forth on the cover page of this prospectus,
and a one-to-one conversion of the outstanding shares of our preferred stock
into common stock. Moreover, the anti-dilution provisions in our certificate of
incorporation applicable to our preferred stock may result in additional
dilution to new investors depending on the actual initial public offering price.
Based on an initial public offering price of $_____, the minimum offering price
on the cover of this prospectus, the 1,412,864 outstanding shares of Series D
preferred stock will convert into _______ shares of common stock. The exercise
of outstanding options and warrants would result in further dilution.
OUR OUTSTANDING SHARES OF PREFERRED STOCK MAY NOT AUTOMATICALLY CONVERT INTO
COMMON STOCK UPON THE CLOSING OF THIS OFFERING, WHICH COULD REDUCE YOUR RIGHTS
AS A STOCKHOLDER AND NEGATIVELY AFFECT THE PRICE AND LIQUIDITY OF OUR COMMON
STOCK.
Our preferred stock will not automatically convert into common stock
upon the closing of this offering if (i) the initial public offering price is
less than $25.00 per share and the closing occurs on or before October 31, 2000
or (ii) the initial public offering price is less than $30.00 per share and the
closing occurs after October 31, 2000, unless two-thirds of the outstanding
shares of each series of our preferred stock elect to convert the shares. If
this conversion does not occur, current stockholders who own our preferred stock
will have rights, preferences and privileges that are greater than those held by
new investors who purchase common stock in this offering. Moreover, the
existence of outstanding preferred stock may negatively impact the liquidity of
our stock and cause our share price to decline.
FUTURE SALES OF OUR COMMON STOCK COULD CAUSE THE PRICE OF OUR SHARES TO DECLINE.
Upon completion of this offering, we will have __________ shares of
common stock outstanding. Of these shares, ___________ will be transferable
without restriction or registration under the Securities Act of 1933, or
pursuant to the volume and other limitations of Rule 144 promulgated under the
Securities Act. Approximately _________ shares of common stock are subject to
lock-up agreements between the holders of those shares and the representatives
of the underwriters, under which the holders have agreed not to offer, sell,
contract to sell or grant any option to purchase or otherwise dispose of their
common stock until __________, 2001, subject to limited exceptions. Credit
Suisse First Boston may release stockholders from the lock-up agreement at any
time and without notice. Following the expiration of this lock-up period,
_________ shares will become available for immediate resale in the public market
subject, in some instances, to the volume and other limitations of Rule 144. The
market price of our common stock could drop significantly if the holders of
these shares sell them or are perceived by the market as intending to sell them.
OUR MANAGEMENT WILL HAVE BROAD DISCRETION IN USING THE NET PROCEEDS FROM THIS
OFFERING, WHICH MAY RESULT IN USES WITH WHICH YOU DISAGREE.
Our management will have broad discretion over the use of the net
proceeds from this offering. In addition, our management has not designated a
specific use for a substantial portion of the net proceeds from this offering.
Accordingly, it is possible that our management may allocate the net proceeds
differently than investors in this offering would have preferred.
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<PAGE> 20
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
This prospectus contains forward-looking statements. We use words like
"believe," "intend," "expect," "may," "will," "should," "plan," "project,"
"contemplate," "anticipate" and similar expressions to identify these
forward-looking statements. We have based these forward-looking statements on
our current expectations and projections about the growth of our business, our
financial performance and the development of our industry. Because these
statements reflect our current views concerning future events, these
forward-looking statements involve risks and uncertainties. Our actual results
could differ materially from those anticipated in these forward-looking
statements as a result of many factors, as more fully described in "Risk
Factors," "Management's Discussion and Analysis of Financial Condition and
Results of Operations" and "Business" and elsewhere in this prospectus. We
undertake no obligation to update publicly any forward-looking statements for
any reason, even if new information becomes available or other events occur in
the future.
USE OF PROCEEDS
We estimate our net proceeds from the sale of ______________ shares of
common stock in this offering will be approximately $___________, or
approximately $____ if the underwriters exercise their over-allotment option in
full, based on an assumed initial public offering price of $____ per share, the
midpoint of the offering price range set forth on the cover of this prospectus,
and after deducting the underwriting discount and our estimated offering
expenses.
Currently, we intend to use the net proceeds for:
o selling and marketing our products and services;
o continuing to develop and enhance our technology;
o acquiring rights to additional book titles for conversion to
electronic books; and
o general corporate purposes, including working capital
requirements.
We also may use a portion of the net proceeds from this offering to
acquire or invest in complementary businesses, technologies and products.
Pending the application of the net proceeds towards one of the above uses, we
intend to invest the net proceeds in short-term, interest-bearing,
investment-grade securities.
The foregoing represents our current intentions based upon our present
plans and business condition. Our management will have broad discretion in the
application of the net proceeds from this offering, and the occurrence of
unforeseen events or changed business conditions could result in the application
of the net proceeds from this offering in a manner other than as described in
this prospectus.
DIVIDEND POLICY
We have never declared or paid any cash dividends on our capital stock
and we do not intend to pay any cash dividends with respect to our common stock
in the foreseeable future. We currently intend to retain any earnings for use in
the operation of our business and to fund future growth.
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<PAGE> 21
CAPITALIZATION
The following table sets forth our cash and cash equivalents position,
long-term debt including current portion and total capitalization as of June 30,
2000, presented:
o on an actual basis;
o on a pro forma basis to give effect to (i) the issuance of
424,328 shares of Series D preferred stock for $17.67 per
share in July 2000; and (ii) the automatic conversion of all
outstanding shares of our preferred stock into shares of our
common stock at a conversion rate of one-to-one, as if these
events had occurred as of June 30, 2000; and
o on a pro forma as adjusted basis to give effect to the sale of
__________ shares of common stock offered by us at an assumed
initial public offering price of $_____ per share, which
represents the midpoint of the offering price range set forth
on the cover of this prospectus.
<TABLE>
<CAPTION>
JUNE 30, 2000
---------------------------------------
PRO FORMA AS
ACTUAL PRO FORMA ADJUSTED
--------- --------- ------------
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
<S> <C> <C> <C>
Cash and cash equivalents ...................................................... $ 44,195 $ 51,695 $
========= ========= =========
Long-term debt, including current portion ...................................... $ 442 $ 442 $ 442
========= ========= =========
Redeemable preferred stock:
Series A redeemable preferred stock, par value $.001;
5,250,000 shares authorized, 5,225,000 shares issued and
outstanding (actual); no shares authorized, issued and
outstanding (pro forma and pro forma as adjusted) ........................... $ 5,171 $ -- $ --
Series B redeemable preferred stock, par value $.001;
6,828,176 shares authorized, 6,828,176 issued and
outstanding (actual); no shares authorized, issued and
outstanding (pro forma and pro forma as adjusted) ........................... 27,741 -- --
Series C redeemable preferred stock, par value $.001;
5,726,574 shares authorized, 5,726,574 issued and
outstanding (actual); no shares authorized, issued and
outstanding (pro forma and pro forma as adjusted) ........................... 77,241 -- --
Series D redeemable preferred stock, par value $.001;
2,025,000 shares authorized, 988,536 shares issued and
outstanding (actual); no shares authorized, issued and
outstanding (pro forma and pro forma as adjusted) ........................... 18,137 -- --
--------- --------- ---------
Total redeemable preferred stock ............................................... $ 128,290 $ $ --
========= ========= =========
Stockholders' equity (deficit):
Preferred stock, par value $.001; no shares authorized, no shares issued and
outstanding (actual); __________ shares
authorized, no shares issued and outstanding (pro forma and
pro forma as adjusted) ......................................................... $ -- $ -- $ --
Common stock, par value $.001; 35,000,000 shares authorized,
5,396,401 issued and outstanding (actual); ___________ shares authorized,
24,589,015 shares issued and outstanding (pro forma); ___________ shares
authorized, ________ shares issued
and outstanding (pro forma as adjusted) ........................................ 5 25
Additional paid in capital ..................................................... 16,395 152,165
Deferred compensation .......................................................... (4,844) (4,844) (4,844)
Accumulated deficit ............................................................ (49,756) (49,756) (49,756)
--------- --------- ---------
Total stockholders' equity (deficit) ...................................... (38,200) 97,590
--------- --------- ---------
Total capitalization ...................................................... $ 90,532 $ 98,032 $
========= ========= =========
</TABLE>
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<PAGE> 22
DILUTION
As of June 30, 2000, our pro forma net tangible book value would have
been $69.9 million, or $2.84 per share of common stock. Pro forma net tangible
book value per share is equal to our total net tangible book value, which is
total tangible assets less total liabilities, divided by the number of shares of
common stock outstanding on June 30, 2000 after giving effect to the issuance of
424,328 shares of Series D preferred stock for $17.67 per share in July 2000 and
the conversion of all outstanding shares of our preferred stock. Dilution in pro
forma net tangible book value per share equals the difference between the amount
per share paid by purchasers of shares of common stock in this offering and the
pro forma net tangible book value per share of shares of common stock offered by
us in this offering. Without taking into account any other changes in our pro
forma net tangible book value per share after June 30, 2000, other than to give
effect to the sale of the __________ shares of common stock offered by this
prospectus at an assumed initial public offering price of $____ per share, which
represents the midpoint of the offering price range, set forth on the cover of
this prospectus, and after deducting the underwriting discount and estimated
offering expenses payable by us, our pro forma as adjusted net tangible book
value as of June 30, 2000 would have been $____ million, or $____ per share.
This represents an immediate increase in pro forma as adjusted net tangible book
value to existing stockholders of $___ per share, and an immediate dilution to
purchasers in this offering of $____ per share. The following table illustrates
the per share dilution:
<TABLE>
<S> <C> <C>
Assumed initial public offering price per share ...................... $____
Pro forma net tangible book value per share as of
June 30, 2000 ............................................. $ 2.84
Increase per share attributable to existing investors .......... $ ____
Pro forma net tangible book value per share after this offering ...... $____
Pro forma dilution per share to new investors ........................ $
====
</TABLE>
The following table illustrates, on a pro forma basis, as of June 30, 2000, the
difference between the number of shares of common stock purchased from us, the
total consideration paid and the average price per share paid (1) by existing
common and preferred stockholders, and (2) by the purchasers at an assumed
initial public offering price of $_____ per share and before deducting the
underwriting discount and estimated offering expenses payable by us.
<TABLE>
<CAPTION>
SHARES PURCHASED TOTAL CONSIDERATION
---------------------- ------------------------- AVERAGE PRICE
NUMBER PERCENT AMOUNT PERCENT PER SHARE
---------- -------- ------------ ------- --------------
<S> <C> <C> <C> <C> <C>
Existing stockholders .... 24,589,015 $145,858,000 $ 5.93
New investors ............
---------- ------ ------------ --------
Total ............... 100.0%
========== ====== ============ ========
</TABLE>
The discussion and table assume:
o the automatic conversion of all outstanding shares of our
preferred stock into shares of our common stock upon the
closing of this offering at a conversion rate of one-to-one;
o no exercise of options outstanding under our 1998 Stock Option
Plan or of warrants or options outstanding as of June 30,
2000; and
o no exercise of the underwriters' over-allotment option.
As of June 30, 2000, there were options outstanding to purchase a total
of 2,428,592 shares of common stock at a weighted average price of $7.85 per
share. As of the same date, there were options and warrants to purchase a total
of 83,532 shares of common stock (20,625 shares of which are based on the
assumed automatic conversion of Series A preferred stock) at a weighted average
exercise price of $2.86 per share. New investors will experience further
dilution to the extent any of our outstanding options or warrants are exercised
or if the underwriters exercise their over-allotment option.
Our outstanding shares of Series D preferred stock have anti-dilution
protection that will result in additional shares of common stock being issued
upon conversion if the initial public offering price minus the underwriting
discount is less than $17.675 per share. The section entitled "Description of
Capital Stock--Anti-Dilution Provisions of our Preferred Stock" contains more
information regarding the anti-dilution provisions of our preferred stock.
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<PAGE> 23
SELECTED FINANCIAL DATA
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
The following selected financial data should be read in conjunction
with our financial statements and the related notes and with "Management's
Discussion and Analysis of Financial Condition and Results of Operations"
included elsewhere in this prospectus. The selected data in this section is not
intended to replace the financial statements. From June 1998 until March 31,
1999, we had a March 31 fiscal year end. Effective April 1, 1999, we changed our
fiscal year end to December 31.
The condensed statement of operations data for the period from June 5,
1998 (inception) through March 31, 1999 and for the nine months ended December
31, 1999 and balance sheet data as of March 31, 1999 and December 31, 1999 are
derived from our financial statements included elsewhere in this prospectus,
which have been audited by Deloitte & Touche LLP. The pro forma condensed
statement of operations data for the nine months ended December 31, 1999 and the
six months ended June 30, 2000 are derived from the unaudited pro forma
condensed combining statements of operations that gives effect to our
acquisition of peanutpress in February 2000 and are included elsewhere in this
prospectus. The condensed statement of operations data for the six months ended
June 30, 1999 and 2000 and the balance sheet data as of June 30, 2000 are
derived from the unaudited consolidated financial statements which, in the
opinion of management, have been prepared on the same basis as the audited
consolidated financial statements and reflect all adjustments (consisting only
of normal recurring adjustments) necessary for a fair presentation of our
results of operations and financial position. The historical results presented
are not necessarily indicative of the results to be expected for any future
fiscal year.
-19-
<PAGE> 24
<TABLE>
<CAPTION> SIX MONTHS ENDED
PERIOD FROM NINE MONTHS ENDED JUNE 30,
JUNE 5, 1998 DECEMBER 31, 1999 -------------------------------------
(INCEPTION) ---------------------- 1999 2000
THROUGH ------ ------------------------
MARCH 31,1999 ACTUAL PRO FORMA ACTUAL ACTUAL PRO FORMA
------------- ------ --------- ------ ------ ----------
<S> <C> <C> <C> <C> <C> <C>
CONDENSED STATEMENT OF OPERATIONS DATA:
Revenue:
Sales of electronic book titles ........... $ -- $ -- $ 67 $ -- $ 3,705 $ 3,734
Service fees .............................. -- 141 141 10 284 284
Other ..................................... 18 16 16 11 275 275
-------- -------- -------- -------- -------- --------
Total revenue ............................... 18 157 224 21 4,264 4,293
Costs and expenses:
Cost of publisher rights and electronic
book production ........................ 410 1,890 1,925 363 4,486 4,511
Sales and marketing ...................... 982 10,560 10,686 1,415 12,623 12,668
Research and development and Web
site operations ........................ 780 2,833 3,269 1,098 3,885 3,885
General and administrative ............... 1,667 4,230 4,504 1,771 5,983 6,241
Depreciation and amortization ............ 342 905 5,324 470 4,042 4,893
Stock-based compensation* ................ 136 563 590 177 767 942
-------- -------- -------- -------- -------- --------
Total expenses .............................. 4,317 20,981 26,298 5,294 31,786 33,140
-------- -------- -------- -------- -------- --------
Loss from operations ........................ (4,299) (20,824) (26,074) (5,273) (27,522) (28,847)
Interest income, net ........................ 25 1,172 1,181 104 1,902 1,907
-------- -------- -------- -------- -------- --------
Net loss before extraordinary item .......... (4,274) (19,652) (24,893) (5,169) (25,620) (26,940)
Extraordinary loss on early
extinguishment of debt .................... -- -- -- -- (210) (210)
-------- -------- -------- -------- -------- --------
Net loss after extraordinary item ........... (4,274) (19,652) (24,893) (5,169) (25,830) (27,150)
Cumulative dividends on preferred stock ..... -- 3,039 3,613 301 5,522 5,633
-------- -------- -------- -------- -------- --------
Net loss available to common stock .......... $ (4,274) $(22,691) $(28,506) $ (5,470) $(31,352) $(32,783)
======== ======== ======== ======== ======== ========
Basic and diluted loss per share: (a)
Net loss before extraordinary item .......... $ (3.18) $ (8.47) $ (8.69) $ (2.99) $ (6.32) $ (6.65)
Extraordinary loss on early extinguishment
of debt ................................... $ -- $ -- $ -- $ -- $ (0.05) $ (0.05)
Net loss attributable to common stock ....... $ (3.18) $ (9.78) $ (9.95) $ (3.16) $ (7.74) $ (8.09)
Shares used in computing basic and
diluted loss per share .................... 1,345 2,320 2,865 1,729 4,053 4,053
* Stock-based compensation expense:
Cost of publisher rights and
electronic book production ............. $ 8 $ 40 $ 40 $ 12 $ 59 $ 59
Sales and marketing ...................... 7 83 83 16 193 193
Research and development and Web
site operations .......................... 8 48 48 14 84 84
General and administrative ............... 113 392 419 135 431 606
-------- -------- -------- -------- -------- --------
Total stock-based compensation ........... $ 136 $ 563 $ 590 $ 177 $ 767 $ 942
======== ======== ======== ======== ======== ========
</TABLE>
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<PAGE> 25
<TABLE>
<CAPTION>
AS OF AS OF AS OF
MARCH 31, DECEMBER 31, JUNE 30,
1999 1999 2000
--------- --------- ---------
<S> <C> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents ........ $ 1,731 $ 74,321 $ 44,195
Working capital (deficit) ........ (266) 68,653 38,684
Total assets ..................... 4,445 88,994 102,990
Long-term debt ................... 1,246 2,227 189
Non current deferred revenue ..... -- 519 1,147
Preferred stock .................. 5,171 105,057 128,290
Stockholders' deficit ............ (4,029) (25,901) (38,200)
</TABLE>
----------
(a) We calculated loss per share by dividing the loss attributable to common
stock by the weighted-average number of shares outstanding. We did not
include outstanding common stock options and warrants in the loss per share
calculation, as their effect is anti-dilutive.
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<PAGE> 26
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion of our financial condition and results of
operations should be read in conjunction with our financial statements and the
related notes included elsewhere in this prospectus. This discussion contains
forward-looking statements that involve risks and uncertainties. Our actual
results may differ materially from those anticipated in these forward-looking
statements as a result of many factors, including but not limited to, those
described under "Risk Factors" and elsewhere in this prospectus.
OVERVIEW
We are the leading provider of electronic book technology and services
to publishers, educational and corporate libraries and other book industry
participants. Through our technology and services, which we call our platform,
we create, sell and manage electronic books while protecting the copyrights of
the digital content. Our electronic books can be securely delivered to audiences
over the Internet and corporate intranets for use with different reader devices
and reader software products. We offer publishers and customers an end-to-end
solution, including conversion, copyright protection, hosting, management and
distribution of electronic books. We have converted over 28,000 titles, which
represents the largest collection of electronic books available from a single
source.
We incorporated in June 1998. During 1998, our operating activities
consisted largely of developing the infrastructure necessary to create
electronic books and deliver them over the Internet. Throughout 1999, we
continued to build our collection of electronic books, raise capital, hire
personnel and expand our operations. We were a development stage company until
May 1999 when we commenced our first sales effort in the institutional library
market.
We have derived the majority of our revenue to date through the sale of
electronic book titles to the institutional market and from service fees for
providing hosting and collection management services. We expect that revenue
from the sale of electronic books will be our largest revenue category in the
future. Beginning in March 2000, our customers were given the option to purchase
electronic books in conjunction with hosting and collection management services
or to purchase and take delivery of electronic books in CD-ROM format without
hosting and collection management services. Since that time, we have recognized
revenue from the sale of an electronic book at the time the customer had access
to the electronic book. Prior to March 2000, when customers were not provided
the option of taking physical delivery of electronic books, we did not recognize
revenue for the sale of electronic book titles. Instead, we deferred revenue for
hosting and collection management services and recognize the revenue as service
fee revenue ratably over the composite estimated useful life of the electronic
book collection. We sell hosting and collection management services either under
annually renewable contracts or prepaid lifetime contracts. We recognize revenue
from hosting and collection management services as service fees ratably over the
composite estimated useful life of our electronic book collection. Electronic
book service fees accounted for approximately 90% of our revenue for the nine
months ended December 31, 1999. In addition, we have earned revenue from selling
advertising on our Web site and expect to earn revenue from data mining. We
recognize this revenue as "Other" revenue but do not expect it to be a
significant source of revenue in future periods.
To date, we have borne the costs of converting hardcopy books to
electronic books and have retained ownership of the rights to the electronic
books we converted. We have capitalized these costs as capitalized and
in-process electronic book production costs on our balance sheet, and we
amortize capitalized costs over the composite estimated useful life of our
electronic book collections. We expect to begin providing conversion services to
publishers on a cost reimbursement basis before the end of 2000. For titles that
we request from a publisher, we will incur a portion of the conversion costs and
the publishers will reimburse us for the remaining amount. The publishers may
obtain ownership of the electronic book that we create by reimbursing us for the
conversion costs that we incur. Our portion of conversion costs will be
accounted for as stated above. The conversion costs reimbursed by the publishers
will be recorded as a reduction to capitalized and in-process electronic book
production costs and these costs will be amortized over the composite estimated
useful life of our electronic book collection. We believe that the deferral and
recognition of conversion cost reimbursements from the publishers is required as
the earnings process is expected to be completed over the composite estimated
useful life of our electronic book collection. For titles that we convert at the
request of publishers, the publishers will reimburse us for 100% of the
conversion costs and will own the rights to the electronic books, subject to our
distribution rights. The publisher's 100% cost reimbursement will be recorded as
a reduction to the
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<PAGE> 27
cost of publisher rights and electronic book production in our statement of
operations in the month that the conversion is completed, which coincides with
the earnings process.
We have entered into agreements with existing participants in several
institutional book distribution channels, including book and electronic content
distributors and library automation software companies. We authorize
distributors to sell our electronic books to their institutional customers and
pay them a percentage of the net revenue attributable to sales of electronic
books. Library automation software companies provide the capability for the
automation software systems to accommodate our electronic books and for the
preferential marketing of our electronic books in return for payments based upon
either the number of software systems installed or a fixed compensation amount.
RECENT ACQUISITIONS
On February 22, 2000, we expanded our presence in the consumer market
by acquiring peanutpress, an electronic book provider focused on delivering
electronic books to users of handheld computing devices. The purchase price paid
was approximately $24.8 million, consisting of $1.7 million in cash, 544,900
shares of our common stock, 432,468 shares of our Series D preferred stock, and
options to purchase 323,897 shares of our common stock. We believe this
acquisition secured significant development and other resources specific to
selling and delivering electronic books to consumers.
On March 29, 2000, we acquired the assets of MetaText, a company that
converts published content into digital textbooks and provides students and
professors with access to the digital textbooks. The purchase price was
approximately $6.3 million, consisting of 153,974 shares of our common stock and
128,910 shares of our Series D preferred stock, and the assumption of
liabilities. We believe the technology and publisher relationships of MetaText
complement our platform.
Both acquisitions were accounted for using the purchase method of
accounting. The results of operations for these companies are in our
consolidated results of operations from the acquisition dates. As a result of
the acquisitions, we recorded approximately $29.8 million of intangible assets
and goodwill on our balance sheet, which is being amortized on a straight-line
method over the estimated useful lives ranging from one to ten years.
Approximately $294,000 of the purchase consideration represented purchased
in-process research and development that had not yet reached technological
feasibility and had no future use. Accordingly, we charged this amount to
operations in the six months ended June 30, 2000.
RESULTS OF OPERATIONS
From June 1998 until March 31, 1999, we had a March 31 fiscal year end.
Effective April 1, 1999, we changed our fiscal year end to December 31.
For the six months ended June 30, 1999 compared to the six months ended June 30,
2000
Revenue
Sales of electronic book titles. We did not recognize any revenue from
the sales of electronic book titles for the six months ended June 30,
1999. We recognized $3.7 million in revenue, representing 87% of our
total revenue, from the sale of electronic book titles for the six
months ended June 30, 2000. This increase is the result of selling
additional electronic book titles and recognizing revenue previously
deferred as we began providing our customers with the option to take
physical delivery of electronic books in CD-ROM format.
Service fees. Our revenue from service fees increased from $10,000,
representing 48% of our total revenue, for the six months ended June
30, 1999, to $284,000, representing 7% of our total revenue, for the
six months ended June 30, 2000. This increase was attributable to a
substantial increase in the sales of our electronic books in which our
customers elected to receive hosting and collection management
services.
Other. Our revenue from other sources increased from $11,000,
representing 52% of our total revenue, for the six months ended June
30, 1999, to $275,000, representing 6% of our total revenue, for the
six months ended June 30, 2000. Other revenue for the six months ended
June 30, 1999, was attributable to sales of
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<PAGE> 28
products not related to our principal business, while other revenue for
the six months ended June 30, 2000, was composed of membership sales
and exclusivity agreements with distribution partners.
Costs and Expenses
Cost of publisher rights and electronic book production (including
amortization of capitalized electronic book production costs). Cost of
publisher rights and electronic book production consists of the cost to
acquire digital rights for electronic books from publishers, and direct
and indirect costs related to the conversion of hardcopy books to
electronic books, including scanning, editing, and quality control of
the electronic books in our online library and CD-ROM formats.
Electronic book production costs are capitalized and amortized on a
straight-line method over 30 months, the composite estimated useful
life of our electronic book collection, beginning on the date that the
electronic books are placed into service on our Web site. Our costs
incurred for publisher rights and electronic book production (including
amortization of capitalized electronic book production costs) increased
from $363,000, net of capitalized electronic book production costs of
$1.7 million, for the six months ended June 30, 1999, to $4.5 million,
net of capitalized electronic book production costs of $8.2 million,
for the six months ended June 30, 2000. This increase was attributable
to the fact that during the six months ended June 30, 1999, we
converted fewer titles to electronic format as we were focused on
developing our production process and we did not start to amortize
capitalized electronic book production costs until May 1999.
Sales and marketing. Sales and marketing expenses consist of marketing
program expenses, including public relations, advertising and trade
shows, and employee expenses for our sales and marketing personnel,
including salaries and commissions. Our expenses for sales and
marketing increased from $1.4 million for the six months ended June 30,
1999, to $12.6 million for the six months ended June 30, 2000, as we
expanded our sales and marketing efforts. Of these amounts, $486,000
for the six months ended June 30, 1999, and $3.5 million for the six
months ended June 30, 2000, consisted of employee expenses for our
sales and marketing personnel. Additionally, we incurred $637,000 for
the six months ended June 30, 1999, and $8.0 million for the six months
ended June 30, 2000, in expenses for marketing programs including
public relations, advertising and trade shows to promote awareness of
the netLibrary brand and end user adoption of our electronic books.
Research and development and Web site operations. Research and
development and Web site operations expenses include employee expenses
for our Web site developers, architects, technical writers and help
desk staff, and the expenses we incur for third parties to host our Web
sites. Our research and development and Web site operations expenses
increased from $1.1 million for the six months ended June 30, 1999, to
$3.9 million for the six months ended June 30, 2000. This increase was
due to increased employee and consulting expenses associated with
maintaining our platform and a one-time charge of $294,000 for
purchased in-process research and development related to the
acquisition of peanutpress.
General and administrative. General and administrative expenses consist
of employee expenses for our administrative and executive staff,
building and related costs and professional service fees. Our general
and administrative expenses increased from $1.8 million for the six
months ended June 30, 1999, to $6.0 million for the six months ended
June 30, 2000, reflecting increases in facilities costs and personnel
expenses.
Depreciation and amortization. Depreciation and amortization expenses
include depreciation and amortization of our property and equipment and
acquired intangible assets. Our charge to depreciation and amortization
increased from $470,000 for the six months ended June 30, 1999, to $4.0
million for the six months ended June 30, 2000, reflecting an increase
in the amount of property and equipment acquired and the acquisitions
of peanutpress and MetaText.
Stock-based compensation. Stock-based compensation expense represents
the amortization expense, over the vesting period, of the amount by
which the deemed fair value of our common stock exceeds the exercise
price of options we granted to employees and the consideration given
for common stock issued to our founders. Our stock-based compensation
expense increased from $177,000 for the six months ended June 30, 1999,
to $767,000 for the six months ended June 30, 2000, for the
amortization of deferred compensation that arose
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from options we granted to our employees, common stock issued to our
founders and other non-cash compensation related to consulting
services.
Interest income, net. Interest income, net, increased from $104,000 for
the six months ended June 30, 1999, to $1.9 million for the six months
ended June 30, 2000. This increase was principally attributable to
increased interest income earned upon receipt of net proceeds from the
private sales of our preferred stock. Interest expense also increased
as a result of higher average outstanding balances on our bank
borrowings.
Extraordinary loss on early extinguishment of debt. During the six
months ended June 30, 2000, we recorded an extraordinary charge of
$210,000 related to the repayment, at our option, of our bank line of
credit. The charge represented the accretion of repaid debt to its
maturity value that was originally recorded at a discount due to the
issuance of warrants to the bank. We recorded no such charge in the
six-month period ended June 30, 1999.
For the nine month period ended December 31, 1999
Revenue
Sales of electronic book titles. We did not recognize any revenue from
sales of electronic book titles because we had not yet begun to provide
our customers with the option to take physical delivery of electronic
books in CD-ROM format.
Service fees. We recognized $141,000 in service fees related to our
initial hosting and collection management contracts.
Other. We recognized $16,000 of other revenue that was composed
entirely of sales of products not related to our principal business.
Costs and Expenses
Cost of publisher rights and electronic book production (including
amortization of capitalized electronic book production costs). Cost of
publisher rights and electronic book production (including amortization
of capitalized electronic book production costs) was $1.9 million,
which consisted of costs associated with meetings with publishers and
negotiations for the rights to convert titles to electronic books and
distribute them. During this period, we amortized $552,000 of
capitalized electronic book production costs after we placed our first
electronic books in service on our Web site at the end of March 1999.
Sales and marketing. Sales and marketing expenses were $10.6 million,
which included $1.4 million of labor expenses and $9.2 million for
marketing programs to promote awareness of the netLibrary brand and
user adoption.
Research and development and Web site operations. We expensed $2.8
million for research and development and Web site operations, which
consisted primarily of employee and consulting expenses associated with
designing, implementing and maintaining our platform. Effective April
1, 1999, we adopted the Statement of Position 98-1, "Accounting for the
Costs of Software Developed for Internal Use," whereas we will continue
to capitalize certain development costs. During this period, $354,000
of costs were capitalized for internally developed software.
General and administrative. General and administrative expenses were
$4.2 million, incurred to support the growth of our operations.
Depreciation and amortization. We incurred $905,000 of depreciation and
amortization for existing and acquired property and equipment.
Stock-based compensation. We recorded deferred compensation of $4.1
million for options granted to employees during the period. We expensed
$528,000 to stock-based compensation as amortization of the deferred
compensation balance over the vesting period of the options and $35,000
for options granted for
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<PAGE> 30
consulting services rendered. We expect that stock-based compensation
expense related to future stock option grants will decrease as the
result of smaller differences between the exercise prices of the
options and the deemed fair value of our common stock on the date of
the option grant.
Interest income, net. Interest income, net was $1.2 million, which
consisted of $1.3 million for interest income we earned on our cash and
cash equivalents primarily from the net proceeds of the private sales
of our preferred stock offset by $163,000 of interest expense incurred
on our bank line of credit facility and our term loan, which included
$11,000 of amortization of debt discount expensed during the period for
warrants issued to banks as part of our line of credit facilities.
For the period from inception (June 5, 1998) to March 31, 1999
Revenue
We were a development stage company until May 1999 when we commenced
our first sales effort in the institutional library market.
Sales of electronic book titles and service fees. We had no sales of
electronic book titles or service fees revenue because we had not yet
begun our initial sales effort.
Other. We recognized $18,000 in other revenue that was composed
entirely of sales of products not related to our principal business.
Costs and Expenses
Cost of publisher rights and electronic book production (including
amortization of capitalized electronic book production costs). We
incurred $410,000 of costs principally associated with developing our
production process, but not associated with specific electronic book
title conversions. The amount also included employee costs associated
with meeting with publishers and negotiating for the rights to convert
titles to electronic books and distribute them.
Sales and marketing. We had $982,000 of sales and marketing expenses,
consisting of labor expenses of $428,000 and marketing program expenses
of $554,000.
Research and development and Web site operations. We incurred $780,000
in employee costs associated with designing and implementing our
platform.
General and administrative. We incurred $1.7 million of general and
administrative expenses to support the growth of our operations.
Depreciation and amortization. We charged $342,000 of depreciation and
amortization for property and equipment.
Stock-based compensation. In connection with the issuance of common
stock to our founding stockholders, we recorded $214,000 of deferred
compensation. We recorded deferred compensation of $568,000 for options
granted to employees to purchase common stock. We expensed $136,000 to
stock-based compensation, as we are amortizing these amounts over the
vesting periods of the options.
Interest income, net. Interest income, net, was $25,000, which
consisted of earned interest income of $54,000 on our cash and cash
equivalents, primarily from the net proceeds of the private sales of
our preferred stock, offset by interest expense of $29,000 incurred on
our bank line of credit facility and term loan.
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QUARTERLY RESULTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
The following table presents our results of operations for the six
quarters ended March 31, 1999, June 30, 1999, September 30, 1999, December 31,
1999, March 31, 2000 and June 30, 2000. This information has been compiled from
our unaudited financial statements. Our unaudited financial statements have been
prepared on the same basis as our audited financial statements which, in the
opinion of management, include all necessary adjustments, consisting only of
normal recurring adjustments, that we consider necessary to present fairly this
information. The results of operations for any quarter are not necessarily
indicative of the results of operations for any future period.
<TABLE>
<CAPTION>
THREE MONTHS ENDED
------------------------------------------------------------------------------
MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31, MARCH 31, JUNE 30,
1999 1999 1999 1999 2000 2000
--------- -------- ------------- ------------ --------- --------
<S> <C> <C> <C> <C> <C> <C>
REVENUE
Sales of electronic book titles. ............... $ -- $ -- $ -- $ -- $ 1,235 $ 2,470
Service fees ................................... -- 10 58 73 117 167
Other .......................................... 6 4 3 9 119 156
--------- -------- -------- -------- --------- --------
Total revenue ................................. 6 14 61 82 1,471 2,793
COSTS AND EXPENSES
Cost of publisher rights and electronic
book production ............................. 101 261 810 819 1,649 2,837
Sales and marketing ........................... 605 810 2,947 6,803 3,394 9,229
Research and development and Web site
operations .................................. 496 602 729 1,502 1,919 1,966
General and administrative .................... 1,069 702 1,099 2,429 3,028 2,955
Depreciation and amortization ................. 269 246 458 1,283 2,759 201
Stock-based compensation* ..................... 59 115 148 300 363 404
--------- -------- -------- -------- --------- --------
Total expenses .............................. 2,599 2,691 5,979 12,311 11,636 20,150
--------- -------- -------- -------- --------- --------
Loss from operations ............................. (2,593) (2,677) (5,918) (12,229) (10,165) (17,357)
Interest income, net ............................. 3 102 193 877 1,034 868
--------- -------- -------- -------- --------- --------
Net loss before extraordinary items .............. (2,590) (2,575) (5,725) (11,352) (9,131) (16,489)
Extraordinary loss on early extinguishment
of debt ....................................... -- -- -- -- (210) --
--------- -------- -------- -------- --------- --------
Net loss after extraordinary items ............... (2,590) (2,575) (5,725) (11,352) (9,341) (16,489)
Cumulative dividends on Preferred stock .......... -- 301 630 2,108 2,654 2,868
--------- -------- -------- -------- -------- --------
Net loss attributable to common shareholders ..... $ (2,590) $ (2,876) $ (6,355) $(13,460) $ (11,995) $(19,357)
========= ======== ======== ======== ========= ========
Net loss per share before extraordinary item ..... $ (1.64) $ (1.39) $ (2.61) $ (4.45) $ (2.44) $ (3.99)
Extraordinary loss on early extinguishment
of debt ....................................... $ -- $ -- $ -- $ -- $ (0.06) $ --
Net loss attributable to common stock ............ $ (1.64) $ (1.55) $ (2.90) $ (5.27) $ (3.20) $ (4.69)
Shares used in computing basic and diluted
loss per share ................................ 1,577 1,856 2,192 2,552 3,747 4,130
* Stock-based compensation expense:
Cost of publisher rights and electronic
book production ........................... $ 5 $ 7 13 $ 20 $ 28 $ 31
Sales and marketing ......................... 4 12 22 48 80 113
Research and development and Web
site operations ........................... 5 6 11 31 41 43
General and administrative .................. 45 90 102 201 214 217
--------- -------- -------- -------- --------- --------
Total stock-based compensation .............. $ 59 $ 115 $ 148 $ 300 $ 363 $ 404
========= ======== ======== ======== ========= ========
</TABLE>
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<PAGE> 32
LIQUIDITY AND CAPITAL RESOURCES
Overview
Since inception, we have financed our operations primarily through the
private placement of equity securities. As of June 30, 2000, we had raised
$109.8 million, net of issuance costs, through the sale of our preferred stock,
and we had cash and cash equivalents of $1.7 million at March 31, 1999, $74.3
million at December 31, 1999, and $44.2 million at June 30, 2000.
At June 30, 2000, we had a term debt facility of up to $750,000 for the
purchase of equipment that expires in April 2002. As of June 30, 2000, we owed
$452,000, including unamortized debt discount equal to $10,000 related to the
issuance of warrants to the bank, on the term debt facility. Each borrowing
under the facility was repayable in 36 monthly installments and subject to a
final payment equal to 5% of the borrowing. The term debt facility bears
interest at a weighted average rate of 8.13% and is collateralized by the
related equipment.
We have had significant negative cash flows from operating activities
in each operating period since inception.
Operating Activities
Net cash used in operating activities during the period from inception
(June 5, 1998) to March 31, 1999, was approximately $2.2 million, which resulted
primarily from a net loss of approximately $3.8 million, net of non-cash
depreciation and stock-based compensation charges of $478,000, offset in part by
increases in accounts payable and other accrued liabilities.
Net cash used in operating activities during the nine months ended
December 31, 1999, was approximately $14.6 million, which consisted primarily
of:
o net loss of approximately $17.6 million, net of non-cash
depreciation and stock-based compensation charges of $2.0
million;
o cash used because of an increase in accounts receivable,
deposits and prepaid expenses, and other assets of
approximately $1.8 million;
o cash provided by an increase in accounts payable and accrued
liabilities of $3.4 million; and
o cash provided by an increase in customer deposits and deferred
revenue of $1.5 million.
During the six months ended June 30, 2000, net cash used in operating
activities of $18.2 million, which consisted primarily of:
o net loss of approximately $19.1 million, net of non-cash
depreciation, purchased in-process research and development,
stock-based compensation and extraordinary loss on early
extinguishment of debt charges of $6.7 million;
o cash used because of an increase in accounts receivable,
deposits and prepaid expenses of approximately $4.7 million;
o cash provided by an increase in accounts payable and accrued
liabilities of $5.5 million; and
o cash provided by an increase in customer deposits and deferred
revenue of $134,000.
Investing Activities
Net cash used in investing activities was approximately $2.9 million
during the period from inception (June 5, 1998) to March 31, 1999, approximately
$11.6 million during the nine months ended December 31, 1999, and approximately
$15.7 million during the six months ended June 30, 2000. Net cash used in
investing activities in these periods consisted primarily of capital
expenditures for equipment, capitalization of electronic book production costs
and cash paid for the acquisition of peanutpress. During the nine months ended
December 31, 1999, we used $1.2 million in cash to purchase restricted
investments that serve as collateral for the lease of our corporate office and
production facilities. During the six months ended June 30, 2000, we used $1.2
million in cash to purchase restricted investments that serve as collateral for
a lease commitment commencing during the period.
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<PAGE> 33
Financing Activities
Net cash provided by financing activities was $6.8 million during the
period from inception (June 5, 1998) to March 31, 1999, $98.7 million during the
nine months ended December 31, 1999, and $3.7 million during the six months
ended June 30, 2000. Net cash provided by financing activities was principally
attributable to the private sale of our preferred stock and, to a lesser extent,
to the proceeds from our long-term debt and from the exercise of stock options
offset by the repayment of assumed liabilities for the MetaText acquisition.
Recent Developments
In January 2000, we raised $7.5 million through the private placement
of our Series D preferred stock and $250,000 through an additional placement of
our Series C preferred stock.
On February 22, 2000, we acquired peanutpress for approximately $24.8
million. The purchase price consisted of $1.7 million of cash, $23.0 million of
a combination of common stock and preferred stock and options to purchase common
stock, and transaction costs of $100,000.
On February 29, 2000, we repaid and terminated, at our option, our line
of credit facility with a bank. The total payment, including principal and
accrued interest, was $4.3 million. In addition, we incurred a charge equal to
$210,000 related to the accretion of the related debt to its maturity value that
was originally recorded at a discount due to the issuance of warrants to the
bank for the purchase of 24,582 shares of our common stock.
In March 2000, we raised an additional $50,000 through the private
placement of our Series D preferred stock.
On March 29, 2000, we acquired substantially all of the assets of
MetaText for approximately $6.3 million. The purchase price consisted of $1.2
million of cash to assume and repay the liabilities of the company, $5.0 million
of a combination of common stock and preferred stock and $100,000 of transaction
costs.
In July 2000, we raised $7.5 million through the private placement of
our Series D preferred stock.
Net Operating Loss Carryforwards
From our inception through December 31, 1999, we incurred net losses
for federal and state income tax purposes and have not recognized any income tax
benefit from the losses. As of December 31, 1999, we had $20.6 million of
federal net operating loss carryforwards to offset future taxable income from
the losses. These carryforwards begin to expire in 2019. Given our limited
operating history and losses incurred to date, coupled with difficulty in
forecasting future results, a full valuation allowance has been recorded.
Furthermore, as a result of changes in our equity ownership from our preferred
stock offerings and this offering, utilization of net operating losses and tax
credits may be subject to substantial annual limitations. This is due to the
ownership change limitations imposed by the Internal Revenue Code and similar
state provisions. The degree of any such limitations cannot currently be
estimated. To date, we have not performed an evaluation to determine if such
limitations exist, and we may not perform such an evaluation until and unless we
are profitable in the future. The annual limitations may result in the
expiration of net operating losses and tax credits before utilization.
Future Capital Requirements
We believe our current cash balances, together with the net proceeds of
this offering, will allow us to fund our operations for at least the next 12
months. However, we may require substantial working capital to fund our business
and we may need to raise additional capital. We cannot be certain that
additional funds will be available on satisfactory terms when needed, if at all.
MARKET RISK
Given our current operations and capitalization, we do not have
material exposure to interest rate, foreign currency and exchange rate risks. We
do not currently have any direct equity price risk because we do not own any
equity investments.
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RECENT ACCOUNTING PRONOUNCEMENTS
In June 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 130, "Reporting
Comprehensive Income," which requires an enterprise to report by major
components and as a single total, the change in its net assets during the period
from non-owner sources; and SFAS No. 131, "Disclosures About Segments of an
Enterprise and Related Information," which establishes annual and interim
reporting standards for an enterprise's business segments and related
disclosures about its products, services, geographic areas and major customers.
We had no items of other comprehensive income to report through December 31,
1999. We currently operate in one reportable segment under SFAS No. 131.
Adoption of these statements did not impact our financial position, results of
operations or cash flows. In June 1998, the FASB issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities," which defines
derivatives, requires that all derivatives be carried at fair value, and
provides for hedge accounting when certain conditions are met. SFAS No. 133 is
effective for us in fiscal 2001. We do not believe that adoption of this
statement will have a material impact on our financial position or results of
operations.
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements,"
providing guidance with respect to revenue recognition issues and disclosures.
As amended by SAB 101B, the Company is not required to implement SAB 101 until
the fourth quarter of calendar year 2000. We believe that the implementation of
SAB 101 will not have a significant impact on our financial statements.
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<PAGE> 35
BUSINESS
We are the leading provider of electronic book technology and services
that enable publishers, libraries and other book industry participants to
deliver and manage electronic books while protecting the copyrights of the
digital content. Our electronic books can be securely delivered to audiences
over the Internet and corporate intranets for use on multiple device and reader
software products. We offer publishers and customers an end-to-end solution,
including conversion, copyright protection, hosting, management and distribution
of electronic books. We have converted over 28,000 titles to create the
publishing industry's largest electronic book collection available from a single
source, including more than 23,000 copyrighted titles and 5,000 public domain
titles.
We sell our electronic books directly and through distribution partners
to the institutional market, which consists of academic, corporate, K-12 and
public libraries and library consortia. We also sell our electronic books the
consumer market through the peanutpress Web site and online retailers.
As of June 30, 2000, we have sold over 162,000 copies of our electronic
books. Our electronic books are currently available to patrons of more than
1,100 academic, K-12 and corporate libraries and library consortia. With our
acquisition of MetaText, we have launched a sales initiative for digital
textbooks targeting faculty and students in the academic and K-12 markets.
We have developed strategic relationships with leading publishers, book
distributors, library automation software vendors and providers of reading
devices and software products. To date we have agreements with:
o over 320 publishers;
o leading book distributors to academic and K-12 libraries and
with a leading distributor of electronic content; and
o three of the leading library automation software vendors.
Our strategic relationships help us acquire electronic book rights to a
broad selection of titles in demand by our library customers, sell books to our
library customers through existing sales channels, integrate our electronic
books into the library management systems used by libraries and deliver
electronic books to end users. These efforts facilitate the adoption and use of
electronic books and encourage the purchase of additional electronic books by
libraries and end users.
INDUSTRY BACKGROUND
The Internet. The Internet is the fastest growing communications medium
in history and is one of the most efficient distribution channels for commerce.
International Data Corporation estimates that the number of Internet users
worldwide will increase from approximately 196 million at the end of 1999 to
more than 502 million by the end of 2003, while the number of customers making
purchases on the Internet will grow from approximately 48 million to
approximately 183 million during the same period. Companies can use the Internet
to disseminate digital content efficiently to broad audiences across geographic
boundaries and to eliminate many traditional manufacturing, packaging and
distribution costs. Electronic books present the publishing industry with a
significant opportunity to take advantage of this rapid and cost efficient
distribution capability.
The Book Market. According to the Book Industry Study Group, Inc.,
estimated annual book sales in the United States were $31.9 billion in 1999.
These sales comprise reference, scholarly, professional, textbook and technical
publications, which we refer to as the learning market, and novels and other
popular publications intended for consumers, which we refer to as the consumer
market.
Learning Market. The learning market had book sales of approximately
$15.2 billion in 1999, with sales in the following areas:
o approximately $1.9 billion in book sales to libraries,
including approximately $481.0 million to academic and
research libraries, $470.2 million to K-12 libraries, $766.4
million to public libraries and $135.4 million to corporate
libraries;
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<PAGE> 36
o approximately $7.3 billion in textbook sales to K-12
institutions and students at academic institutions; and
o approximately $6.1 billion in technical and reference book
sales to individuals and other non-institutional purchasers.
Consumer Market. The consumer market, with $16.7 billion in sales in
1999, consists largely of consumers purchasing hardcopy books.
Traditionally, retail booksellers have purchased their inventory
directly from distributors. However, in recent years, there have been
two significant changes to this approach. First, the proliferation of
large chains such as Barnes & Noble and Borders Books, that purchase
books in volume directly from the publishers, has reduced the role of
distributors. Second, the emergence of Internet retailers, such as
Amazon.com and barnesandnoble.com, has reduced the role of both
distributors and traditional retail booksellers.
Traditional Book Industry Participants. Participants in the traditional
book industry include publishers, book distributors, libraries and library
automation software companies.
Publishers. According to the Book Industry Study Group, Inc., the top
20 publishers accounted for approximately 94% of sales in 1999.
Additionally, there are numerous smaller publishers specializing in
particular types of books such as professional, technical, health and
medical titles. Generally, publishers acquire rights to books, provide
editorial services and market, print and distribute books. In many
cases, publishers acquire rights from independent authors. In some
instances, publishers hire individuals to write books and own all
associated rights directly. A publisher's rights may be limited to
specific media, may or may not include electronic rights, and may be
limited to particular geographic territories.
In their efforts to improve profitability, publishers face several
challenges, including the ability to:
o forecast demand accurately;
o minimize printing, warehousing and distribution
inefficiencies; and
o capture revenue from the used book and educational course pack
markets.
Book Distributors. Generally, publishers do not sell books directly to
end users, but rely instead on a variety of distribution channels for
different markets, including book distributors and large retailers. In
the institutional market, independent book distributors tend to operate
predominantly in particular sectors of the market. Blackwell Limited,
for example, sells primarily to the academic library market and Follett
Library Resources sells primarily to the K-12 library market. In the
consumer market, publishers sell books to distributors and directly to
large retailers such as Barnes & Noble, Borders Books, Amazon.com and
barnesandnoble.com.
Distributors also face several challenges, including the ability to:
o reduce inefficiencies in forecasting demand, including book
return costs;
o overcome limited title availability caused by physical
inventory costs and other constraints; and
o broaden existing distribution channels.
Libraries. Currently, there are over 120,000 libraries in the United
States. There are different types of libraries, including academic,
corporate, K-12 and public libraries, each serving different types of
patrons and requiring different types of content. Libraries purchase
books from distributors, directly from publishers and recently, over
the Internet. Many libraries are members of consortia, which act as
collective purchasing agents for electronic content and are recognized
as a marketing channel for various electronic resources, including
electronic books. In the United States, there are 13 large consortia
representing approximately 17,000 academic libraries.
Challenges libraries face in their efforts to better serve patrons
include the ability to:
o overcome budget constraints for purchasing, storing,
maintaining and managing collections;
o track patron usage and more effectively tailor content
purchases to patron needs;
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<PAGE> 37
o optimize availability and breadth of content; and
o provide timely and convenient access to their collections.
Library Automation Software Vendors. Libraries generally rely on third
party software systems for cataloging, checkout and other methods of
managing the use of materials in their collections. In addition to
providing libraries with tools to manage their collections, these
systems provide patrons with an interface and tools for finding
materials in a library's collection. A library usually uses a single
automation software vendor. In addition, because of the cost and effort
required to migrate information to a different system, libraries do not
change automation software vendors frequently. Six automation software
vendors account for a majority of the systems installed in libraries in
the United States. These leading vendors are Data Research Associates,
Endeavor, epixtech, Inc., Follett Software Company, Innovative
Interfaces, Inc., and SIRSI Corporation.
Opportunities and Challenges Presented by the Internet. It is widely
recognized that the Internet offers significant opportunities for addressing
many of the challenges historically faced by publishers, book distributors and
libraries, and for achieving greater efficiencies in the distribution of
published material. The most visible example of the potential for Internet
distribution of digital content was illustrated by consumer response to the
digital-only release of the Stephen King novella Riding the Bullet by Simon &
Schuster in April 2000. It is estimated that over 400,000 copies of Riding the
Bullet were downloaded through over 100 different Web sites in the first month
following its release, and over 500,000 copies have been downloaded to date.
Other examples include the growing use of digital content by students,
researchers, and employees of a broad range of businesses. A recent study by
Andersen Consulting projected total retail revenue for electronic books of
between $1.0 and $3.4 billion by 2005, with less than half of this replacing
existing sales of hardcopy books and the remainder representing incremental
sales.
The traditional publishing industry has been slow to adopt the Internet
as a vehicle for distributing published content. One of the principal reasons
for the publishing industry's reluctance to use the Internet is a concern about
protecting copyrighted material. Digital content, if not protected and managed,
can be easily copied without degradation in quality, and can be altered and
defaced and distributed with the touch of a button. Recent experience in the
music industry has demonstrated the risks of being unable to distribute digital
content in a secure manner. Unauthorized copying and distribution of music over
the Internet threatens to erode the economic value of digital content. The book
publishing industry is unlikely to fully accept the Internet as a means of
distributing content without assurance that copyrighted material can be
protected.
Another reason the publishing industry has been slow to adopt the
Internet is that more efficient distribution methods made possible by digital
content may threaten existing relationships among, and established roles of,
traditional book industry participants. For example, authors are able to publish
their own works and distribute them directly to end users over the Internet.
Recently, novelist Stephen King published a segment of his novel The Plant on
the Internet and will continue to publish segments as long as end users pay one
dollar for each segment. Similarly, distributors and retailers face risks that
consumers will access content directly, without using existing channels.
In addition to concerns about protecting content and maintaining
established relationships, other reasons the publishing industry has been slow
to adopt the Internet, include:
o the need for access to the technology and expertise to convert
books and other content to digital format;
o the lack of established standards and the existence of
multiple formats for electronic books;
o the lack of suitable electronic devices for reading electronic
books; and
o a limited number of established channels for the distribution
of electronic content.
For the publishing industry to take advantage of the compelling
opportunities presented by the Internet, industry participants must find an
acceptable means of addressing these concerns.
THE netLIBRARY SOLUTION
We are the leading provider of electronic book technology and services
that enable publishers, libraries and other book industry participants to
deliver and manage electronic books while protecting the copyrights of the
digital content. Our electronic books can be securely delivered to audiences
over the Internet and corporate intranets for use on multiple device and reader
software products. We offer publishers and customers an end-to-end solution,
including the
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<PAGE> 38
conversion, copyright protection, management and distribution of electronic
books. We have designed a secure, cost-effective solution with the
functionality, scalability and flexibility to address current and anticipated
needs of book industry participants.
We believe our electronic books and related technology and services,
which we collectively call our platform, provide the following benefits:
o Digital Rights Management. Our platform includes a proprietary
digital rights management system that incorporates both
content-specific digital copyright protection and a digital
rights ownership management solution.
Copyright protection: We have designed our
proprietary digital copyright protection solution for
individual titles to protect a publisher's
copyrighted material both in the traditional
one-book, one-user format and across a broad range of
other end user applications as may be permitted by
the publisher. In the library market, our copyright
protection system permits fair use by libraries and
end users while protecting the publisher's copyright.
As with hardcopy books, readers using our platform
may copy limited portions of our electronic books. If
an end user attempts to copy or print excessive
portions of an electronic book, our solution
automatically sends a notice of potential copyright
violations to the end user. Our solution also
includes electronic watermark features that enable us
to detect whether electronic books that may be found
on other Web sites, in whole or in part, originated
from our collection.
Ownership management: Our digital rights management
solution also enables the owner of a title to manage
a variety of aspects relating to the use of that
title. Because digital content has a long useful
life, it is important that an owner can use it across
different reader devices and reader software
products. Our digital rights management solution
enables owners to manage their digital content
separately from the copyright protection solution
used in a particular application. In addition, our
ownership management system is designed to operate
not only with our proprietary copyright protection
systems, but also with third party copyright
protection systems. We believe our digital rights
management solution is the only platform to currently
offer this capability. For example, an electronic
book owner can view the title online using our
proprietary online reader, download the title to a
personal computer using a third party reader software
product, or download the title to a Palm Pilot using
our peanutpress Peanut Reader. In the library
setting, our solution enables a library to manage
checkout of the title, download the title to
different reader devices and software platforms, and
to compile information concerning use of the title.
o Increased Revenue and Lower Costs. Our digital content
solution provides additional revenue streams and significant
cost savings to publishers, book distributors and libraries.
By selling electronic books, we provide publishers and
distributors with an additional revenue source to traditional
hardcopy book sales. Our electronic books eliminate printing
costs associated with hardcopy books and, for publishers and
book distributors, reduce the cost and risk associated with
inventory, order fulfillment and book returns. In hosting and
managing electronic book collections for libraries, we reduce
the costs associated with cataloging, storing, repairing and
rebinding books, replacing stolen or lost books, and managing
inter-library loans. Libraries are also able to optimize
availability and breadth of content because our platform
enables them to track patron usage and more effectively tailor
content purchases to patrons' demands.
o Flexible and Scalable Business Models. Our platform allows
publishers, distributors and other book industry participants
to select among different electronic book pricing and usage
models the model most suitable to their business requirements.
Our platform supports the traditional one-book, one-user
model, which requires the purchase of multiple copies for
simultaneous access by multiple end users. Our electronic book
platform also enables:
o site and seat licenses, pay-per-use, and electronic book
rentals;
o assembly of content from a variety of sources, such as
college coursepacks; and
o commercial print-on-demand.
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Our platform can accommodate thousands of electronic books
from hundreds of publishers and can manage electronic book
collections for thousands of libraries serving millions of
patrons.
o High Functionality. Our platform enables end users to search
thousands of electronic books simultaneously by keyword,
phrase, subject, author or title. End users can also make
notes in margins, highlight text and bookmark the pages of our
downloaded electronic books, and retain these annotations
after the electronic book is checked back into the library. We
have also designed our platform to operate with multimedia
capability including audio, video and interactive
functionality, along with external linking capabilities to
other electronic books or other Web-based content. We believe
these capabilities will be particularly useful in our digital
textbook products, as students will be able to access video
and audio clips and animated illustration to supplement the
text of the electronic textbook. End users may access
electronic books from any Internet location 24 hours a day,
seven days per week. Our platform makes it possible for end
users to store all of their electronic materials in a single
location, and to access those materials from different
locations or different reader devices or software.
o Device Independence. Our platform is designed to be device
agnostic, which means our electronic books are not limited to
any single electronic book reader device or software and can
be moved from one reader device or reader software product to
another. As a result, our electronic books can be read online
on any personal computer and are compatible with and can be
adapted for download to any Windows-based personal computer
and to every currently available electronic book reader device
and handheld device using the Palm or Windows CE operating
system. Our platform also has the flexibility to adapt to
anticipated future applications for digital content.
o Data-Rich Usage Reports. We have developed our platform to
provide publishers and libraries with detailed usage reports.
These reports currently provide information on which books and
subject areas are most in demand by users, while maintaining
the confidentiality of user-specific demographic information,
and contain previously unavailable information including how
often an electronic book was purchased or checked out and
which books are not being used. We believe that publishers and
libraries will be able to use this information to forecast
demand more accurately and that libraries will be able to use
this information to improve collection utilization and
management efforts.
GROWTH STRATEGY
We have established our position as the leading provider of electronic
book technology and services by creating the industry's largest collection of
electronic books and by developing a secure system for the conversion,
distribution and management of electronic books. Our platform works with and
extends existing distribution channels and third party technology. To maintain
our leading position, we intend to:
Leverage and Expand Our Strategic Relationships. We believe our
strategic relationships with publishers, distributors and library automation
software vendors will enable us to achieve rapid growth by allowing us to:
o maximize the distribution of electronic books and the adoption
of our platform;
o use the market knowledge of our publishing and distribution
partners to identify and obtain rights to the most highly
demanded and most profitable content;
o market aggressively our electronic books to academic,
corporate, K-12 and public libraries;
o assist publishers in developing new revenue and distribution
models; and
o leverage the existing sales forces of our distribution
partners.
Enhance Our Platform and Functionality. We intend to enhance the
features and functionality of our platform and to offer alternative revenue
streams. These enhancements include:
o greater data gathering and reporting capabilities to respond
to the needs of publishers and customers;
o the ability to sell individual chapters or other portions of
individual publications; and
o enhanced end user functionality including the continued
integration of multimedia image, video and audio content with
our electronic books.
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Extend Our Reader Device and Reader Software Product Leadership. Our
reader software and the devices it supports represent the reader software
through which the majority of electronic book titles have been sold to date. Our
goal is to continue to enhance our technology so that our platform remains
compatible with all existing and future reader devices and electronic book file
formats. We are committed to support and create the business relationships
necessary to make our electronic books available on other reader devices and
reader software products.
Grow Our Electronic Book Collection. Our platform currently offers over
28,000 electronic books and has the capacity to add electronic books at a rate
of 40,000 to 50,000 per year with our existing facilities and vendor
relationships. By leveraging information from our customers and the historical
market knowledge of our strategic publisher and distributor relationships, our
book acquisitions staff focuses on identifying and securing titles for
conversion to electronic books that are targeted at specific areas within the
learning and consumer markets. Based on these efforts, we plan to digitize
approximately 20,000 titles per year. We believe these titles will represent a
substantial majority of the electronic books most in demand by our target
institutional customers each year. We believe we will be able to attract new
customers by adding titles to our electronic book collection and to generate
recurring revenue through the sale of new titles to our established customer
base.
Increase Market Penetration. Our platform facilitates our continued
expansion into existing and new markets, such as digital textbooks, consumer
purchases, print-on-demand and international markets. We anticipate increased
adoption of digital textbooks, given the large size of the traditional textbook
market, we plan to dedicate significant resources to further develop our digital
textbook product and relationships with textbook publishers. Moreover, with
increased acceptance and adoption of electronic books by individuals and the
improvement in electronic book reader devices and software, the consumer market
also represents a significant opportunity. We believe the number and usage of
print-on-demand installations will increase, and that there will be
opportunities to provide our digital content to fulfill print-on-demand
requirements. We also anticipate that international markets may represent a
significant source of revenue, initially for English language content
distributed over our existing platform.
STRATEGIC RELATIONSHIPS
We have developed strategic relationships with many leading book
industry participants, including publishers, book distributors, library
automation software vendors and providers of electronic book reading devices and
software. These relationships help us to acquire electronic book rights to a
broad selection of titles in demand by our library customers, sell books to our
library customers through existing sales channels, and integrate our electronic
books into the library management systems used by libraries, facilitating the
adoption and use of electronic books by library patrons and encouraging the
purchase of additional electronic books by libraries. We believe that our
strategic relationships and our industry expertise have enabled us to structure
our products and services to complement, rather than compete with, the products
and services of participants in the traditional book industry.
Our strategic relationships include the following:
Publishers. Our relationships with over 320 publishers enable us to
acquire the digital rights to printed publications so that we may offer an
attractive electronic book selection for our customers. To date, our principal
focus has been digitizing scholarly, reference, technical and professional
publications for the institutional library market. We currently have agreements
with academic and university presses, publishers of technical and reference
works, and other publishers of professional and consumer titles. These
agreements enable us to provide electronic books that are in high demand by the
learning and consumer markets. The books selected for digitization are
determined jointly by us and the publisher.
Using information from our institutional library customers and
distributors and other industry sources, we have identified and attempted to
obtain agreements with the publishers whose publications are most suitable for
and in demand within particular markets. Based on these criteria, representative
publishers with whom we have agreements in each of these areas include:
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<TABLE>
<S> <C> <C>
Professional, Scientific and Butterworth-Heinemann The MIT Press
Technical: Delmar Publishers, a division of The National Academy Press
Thompson Corporation O'Reilly & Associates
IDG Books Worldwide, Inc. Sage Publications, Inc.
John Wiley & Sons Springer Verlag Press, a division of
Lawrence Erlbaum Associates, Inc. Bertlesmann AG
Macmillan USA, a division of Pearson plc
Marcel Dekker, Inc.
The McGraw-Hill Companies, Inc.
Academic Presses: Beacon Press New York University Press
Cambridge University Press Oxford University Press
Columbia University Press Rowman & Littlefield Publishing Group,
Cornell University Press Inc.
Harvard Business School Press Sage Publications, Inc.
Indiana University Press Taylor & Francis Group
The Johns Hopkins University Press University of California Press
The MIT Press The University of Chicago Press
Yale University Press
Reference: ABC-CLIO Libraries Unlimited
Columbia University Press NTC/Contemporary Publishing Group, Inc.
Fitzroy Dearborn Publishers Oryx Press
The Houghton Mifflin Company, Inc. Scarecrow Press, Inc
The H.W. Wilson Company
Business and Management: AMACOM Books John Wiley & Sons and its Jossey-Bass
Berrett-Koehler Publishers Inc. division
Dearborn, A Kaplan Professional Company The McGraw-Hill Companies, Inc.
Executive Excellence Nolo.com, Inc.
Harvard Business School Press NTC/Contemporary Publishing Group, Inc.
K-12: Chelsea House Publishers Millbrook Press Inc.
The Houghton Mifflin Company, Inc. Rosen Publishing Group
Consumer: Health Communications, Inc. Penguin Putnam, Inc.
The Houghton Mifflin Company, Inc. Random House, Inc.
IDG Books Worldwide, Inc. Simon & Schuster, Inc.
The Library of America St. Martin's Press
NTC/Contemporary Publishing Group, Inc. Time Warner Trade Publishing, Inc.
W.W. Norton & Company, Inc.
</TABLE>
Historically, our agreements with publishers generally have provided
that we pay the costs of converting printed books to digital format and that we
receive rights to distribute the digital version to institutional library
customers for a specified term and retain ownership of the digital version we
create. Generally, we have not acquired exclusive rights to create and sell
digitized versions of any particular printed title and the publisher is free to
grant conversion and distribution rights to one or more other companies.
Beginning with books provided by publishers after September 1, 2000, we have
proposed different economic arrangements, under which publishers would pay a
portion of the conversion costs when we have requested the right to convert a
title, and all of the conversion costs when the publisher requests conversion of
the title. Under this proposal, the publisher would have the right to terminate
our distribution rights on a date substantially earlier than those rights would
expire under our current agreement but under some circumstances must reimburse
us for all or part of our conversion costs. Also, when the publisher pays or
reimburses us for all of the conversion costs, the publisher would retain
ownership of the digital version we create, subject to our distribution rights.
We have only recently begun discussing this proposal with publishers, and do not
yet know whether or to what extent publishers will be willing to provide us
rights to the titles that we desire on these terms.
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Textbook Publishers. We currently have an agreement with W.W. Norton &
Company to convert a limited number of textbooks and an agreement with The
McGraw-Hill Companies for use of software tools. We are negotiating agreements
with most of the largest textbook publishers in the United States including
Blackwell's, Ltd., Harcourt, Inc., Houghton Mifflin Company, John Wiley & Sons,
Jones and Bartlett, Inc., The McGraw-Hill Companies, Thomson Learning, Inc., and
W.W. Norton & Company. Our goal under these agreements is to obtain rights to
convert and sell over 300 textbooks through our platform by January of 2001.
Book and Content Distributors. Libraries purchase a substantial portion
of their hardcopy books and electronic materials, such as electronic journals
and newspapers, through distributors. Distributors tend to focus on different
types of content and customers in the institutional market. We have entered into
agreements with leading book distributors in the academic, K-12 and public
library markets and with a leading distributor of electronic content. Our
agreements with these distributors enable us to leverage their sales staffs to
sell electronic books to libraries and, in some cases, call for collaborative
efforts to identify and obtain digital rights to titles in demand in the
particular distributor's market. We have established relationships with
distributors in various areas of the library market including:
o Academic. Blackwell Limited is the distributor to
approximately 5,000 libraries in the United States.
Blackwell's, which has a total of 11 sales representatives
selling our electronic books, has been in the book
distribution business for over 120 years. In addition, we have
an agreement with EBSCO Publishing, a leading distributor of
electronic content, to distribute our electronic books to
junior and community colleges. EBSCO has approximately 30
sales representatives selling our electronic books to junior
colleges.
o K-12. Follett Library Resources, which will be selling our
electronic books to the K-12 market in the United States in
the upcoming school year, has approximately 90 sales
representatives that sell to approximately 50,000 libraries in
the K-12 market. Follett is a privately-held company with a
125-year history in the book distribution business. We have
agreed that Follett Library Resources will be our only
distributor in the K-12 market as long as it satisfies certain
minimum sales requirements.
o Public. We have entered into an agreement with EBSCO
Publishing to distribute electronic books to public libraries
in the United States. EBSCO has over 18,000 public library
customers and approximately 50 sales representatives selling
electronic content to public libraries. EBSCO may also
distribute our electronic books to libraries outside the
United States.
Library Automation Software Companies. Libraries rely on automation
software for traditional catalog and circulation management functions. We have
entered into preferential agreements with three of the six leading library
automation software companies, epixtech, Inc., Follett Software Company and
Innovative Interfaces, Inc. In each of these agreements, the automation software
company has agreed that its software will be modified to integrate our
electronic book offerings into the software user's library access catalog. Thus,
if a library purchases one of our electronic books, all of the necessary
information for cataloging and activating the electronic book is already in
place, and a patron can access the electronic book directly from the access
catalog. In addition, we believe the software will facilitate the purchase of
electronic books by libraries by enabling librarians or, at the library's
option, patrons to search our entire catalog of electronic books and by
notifying libraries and their patrons of the availability of our electronic
books. In some of these agreements, we have agreed to restrictions on our
ability to enter agreements with other software automation companies.
PRODUCTS AND SERVICES
Our products and services include:
netLibrary Electronic Books. Our electronic book is a digital copy of a
printed publication that generally is rendered to appear virtually identical to
the original book. We currently offer over 27,000 titles, including over 5,000
public domain titles, to our institutional library customers and offer nearly
1,000 additional titles for sale to individuals through peanutpress. We have
three textbooks in development with interactive capability, and are negotiating
with several textbook publishers to convert over 300 titles with this capability
by January 2001. Our electronic books provide end users with increased
functionality not available with traditional books, including the ability to
search full text and, through use of our reader software, the ability to
annotate text. We have also designed our electronic book platform to
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operate with multimedia capability including embedded and associated video,
audio and interactive content. We believe that as bandwidth capabilities, reader
devices and software and related technologies improve, an end user using one of
our electronic books will be able to view and listen to embedded multimedia
content. In a digital textbook on history, for example, a person reading about
space travel will also be able to view a video clip of the first lunar landing
or hear an interview with an astronaut. As a result, we believe the reading and
learning experience with electronic books will be enhanced significantly from
the traditional experience with printed books.
Electronic Book Creation Services. We provide electronic book creation
services for publishers including:
o Conversion. We apply proprietary technologies to efficiently
convert printed publications into our electronic book format,
while maintaining the integrity of the printed publication and
adding digital functionality. We have developed a conversion
monitoring system to track each step of the conversion
process, which has resulted in increased production speed and
output quality and reduced product costs. Third party vendors
perform most of the initial conversion work using our
proprietary conversion process. The balance of the conversion
work and all final electronic book quality assurance is
performed in our Boulder, Colorado production facility. We
believe our conversion process can be used to facilitate the
global expansion of our business by hiring additional third
party vendors, which may eventually enable us to create
electronic books in different languages.
o Multiple formats. Our system makes it possible for us to
produce an electronic book title in multiple formats, so that
an electronic book can be viewed on different electronic book
reader devices and software. We currently offer three
proprietary readers: the netLibrary On-Line Reader, the
netLibrary Personal Reader and the Peanut Reader. We also
currently support the Glassbook Reader and the Glassbook Plus
Reader and have designed our platform to accommodate all
currently available reader devices. This permits us to deliver
digital content to different reader devices and software,
depending on the preferences of the user.
Publisher Archival and Fulfillment Services. We offer a range of
services enabling publishers to manage the rights to their digital content.
o Digital archiving and hosting. We offer publishers the ability
to archive and host their digital files in our system. We can
store files in multiple formats, so that they can be available
for rapid and cost-effective delivery for reading applications
as approved by the publisher.
o Electronic book fulfillment. Our platform enables us to
fulfill electronic book orders for publishers in a variety of
sales activities. For example, we currently serve as
distributor for sales to our institutional customers. In
addition, we have the capability to deliver publishers'
digital content to retail channels, either in the capacity as
distributor or as fulfillment agent for the publisher.
o Access to usage data. Our platform has the ability to capture,
organize and maintain data regarding the use of an electronic
book or other digital content. This data provides publishers
with previously unavailable aggregate usage information,
familiarize them with customer habits and interests, and
enable them to provide more desirable content. This usage data
currently includes information regarding how frequently
customers access specific electronic books and the sales of
specific titles. Our reports do not include user-specific
demographic or usage information without the consent of the
users.
o Revenue collection. We collect electronic book revenue for
publishers by billing libraries and other customers for the
digital content they purchase.
Library Hosting and Collection Management Services. When a library
purchases our electronic books, we offer to host and manage that library's
electronic book collection on a home page that we establish for the library, or
allow them to take delivery of an electronic book on CD-ROM. The hosting and
managing services we provide to libraries include:
o Collection management in a co-branded environment. We provide
a co-branded managed infrastructure in which library patrons
access digital content through the Internet. Through this
infrastructure, we enable
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libraries to control the usage parameters for their electronic
book collections, including setting the check-out period
duration for particular electronic books based on demand. We
authenticate first-time end users affiliated with a library by
identifying and verifying either a referring URL or IP
address. Once a first-time user is authenticated, the user can
create a netLibrary account, including a unique login and
password, which can thereafter be used to authenticate the end
user to the customer's collection from any Internet-enabled
computer. An end user may be affiliated with multiple
institutions but must be authenticated by us for each one.
Additional features of our system that are currently in
development may segment the patron base and limit each
segment's access to specific titles or collections.
o Access to usage data. We capture, organize and convey
aggregate data regarding the end users' interface with an
electronic book. Our platform offers libraries an improved
understanding of which titles and content categories are used
and the frequency of use. Our platform also will support
additional customized information reporting, such as reports
on how collections and titles are used, searching and
referencing patterns, and electronic book availability
patterns. We believe this reporting capability, when
implemented, will help libraries better understand their
patrons' needs and thereby optimize content procurement
decisions. We do not provide user-specific information without
the consent of the user.
o Flexible purchase options. Libraries can purchase our
electronic books directly from us or through some existing
hardcopy book distributors, and will be able to purchase
electronic books through the software of leading library
automation software companies. In addition, we provide
libraries with an on-demand alternative that allows the
library to prepay through a deposit account for electronic
books to be purchased automatically according to patrons'
content-driven demands.
o Integration with existing catalog infrastructure. Our
strategic relationships with library automation software
vendors will enable us to integrate our electronic books
directly into the existing automated catalog systems of
customers using the library automation software systems of
those vendors with no additional effort by the library.
Because it would be possible to preload information regarding
our electronic books into each library's automation software,
libraries will be able to view information relating to all
available electronic books, rather than only those that their
library has purchased. Libraries may also allow patrons to
view this information, which we believe may facilitate
additional sales of electronic books in response to patron
demand.
Personal eBookshelf. Our platform is designed to enable end users to
access their electronic books through a personal digital bookshelf called an
eBookshelf. This virtual bookshelf currently permits patrons to store titles
checked out from their libraries' collections. As the consumer electronic book
market evolves, our platform can be used to enable individual customers to
manage electronic books they have purchased. From a user's personal eBookshelf,
the user can:
o view owned or borrowed electronic books online;
o download owned or borrowed electronic books to offline
devices, including personal computers and certain electronic
book reader devices; and
o track and manage the check-in and check-out of electronic
books borrowed from a library.
peanutpress. Through our acquisition of peanutpress, we have obtained
the ability to allow users to purchase nearly 1,000 copyrighted titles for
download to devices using either the Palm or Windows CE operating system.
Currently, these titles are available from the peanutpress Web site. We are
working to integrate the peanutpress offerings with our existing offerings by
modifying netLibrary titles so that they may be downloaded in the peanutpress
format and by obtaining rights to sell the titles obtained by peanutpress to
institutional customers.
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CUSTOMERS
We sell our electronic books directly and through distribution partners
in the institutional market, and through the peanutpress Web site and through
online retailers in the consumer market. Currently, our principal customers are
academic, corporate, K-12 and public libraries and library consortia. As of June
30, 2000, we had sales agreements in place with 20 library consortia, which
purchase collections and also act as purchasing agents for libraries. These
consortia represent over 18,537 libraries, approximately 4,900 of which are
active members and of which over 1,000 libraries currently have access to our
electronic books. We also have agreements with an additional 71 libraries that
are not members of a consortium. Our relationships with consortia create sales
and marketing efficiencies by allowing us to reach a large number of libraries
through one consortium. In addition, some consortia undertake marketing and
sales efforts on our behalf. Generally, we sell each consortium a collection for
use by all participating member institutions and by patrons of those members. In
many instances, member institutions will also purchase unique collections for
use only by their patrons. Some of our publishers do not permit their books to
be sold to consortia.
Our existing library and consortia customers include:
o Academic libraries such as the University of Colorado, the
University of Pittsburgh and the University of Texas at
Austin, as well as National University, a distance learning
institution.
o Public libraries such as the Cleveland, Orange County and
Newport Beach Public Libraries. In addition, public libraries
such as the Chicago, Los Angeles, New York, San Francisco and
Seattle Public Libraries are participating in our public
library seed program.
o Corporate libraries such as ABC News, AT&T Corp., Commonwealth
Edison, Deere & Company, Honeywell International, NASA's
Goddard Space Flight Center, Raytheon, Inc., Sun Microsystems,
Inc. and TASC, Inc.
o State-based library consortia representing the academic and
other libraries in a given state, including IDAL in Illinois,
Minitex in Minnesota, NYLINK in New York and Palinet in
Pennsylvania. In addition, we have signed agreements for
unique collections with several individual member institutions
of some of our consortia customers.
o Regional library consortia representing a large number of
libraries, including corporate libraries, over a multi-state
region, including the 620-member AMIGOS consortium covering
libraries in the Southwest, Bibliographic Center for Research
covering libraries in the Mountain West, NELINET in New
England and SOLINET in the Southeast.
We have also sold our electronic books to libraries in Australia,
Canada, Hong Kong, Mexico, Singapore, South Africa, United Arab Emirates and the
United Kingdom.
TECHNOLOGY
Our electronic book platform provides broad flexibility for the
distribution and use of electronic books. We believe the continued development
of digital content and Internet delivery capabilities will result in the
adoption of new methods for digital rights management and for using and
distributing digital content. We have designed our proprietary technology
platform to accommodate many different content management and distribution
objectives, as well as the requirements of publishers, distributors, libraries
and end users. Our platform also has the flexibility to adapt to anticipated
future applications for digital content.
Architecture. The architectural design of our platform utilizes a
number of components. Each component addresses a separate content hosting or
management function. These functions can be summarized as follows:
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<TABLE>
<CAPTION>
COMPONENT DESCRIPTION
<S> <C>
Conversion.................... A system that converts printed publications into a digital file that is
structured and tagged to permit the publication to be viewed in different
formats, such as HTML, PDF, DjVu, Microsoft Reader, OEB and XML.
User Authentication........... A login/password system with the option of auto-login from the
customers' trusted systems.
Digital Rights Management..... A proprietary system that uses a relational database and middleware.
This component currently implements a lending library model enforcing in
real-time a one-book, one-user model, and will support alternative
revenue models including ownership, rentals and seat and site licenses.
Information Retrieval
(Search/Browse)............... A retrieval engine supporting simultaneous retrieval of full text and
book-specific information.
Collection Management......... Tools to define, manage and extend large collections of electronic books.
Data Tracking and Reporting... Provides logging and analysis that conforms to stated privacy policies
and reports in the aggregate without providing end user demographic
information.
Content Delivery.............. Translation from a tagged, structured format to HTML, or download to
offline reader software products.
Electronic Commerce........... Ability to process online purchases by institutions and individuals.
</TABLE>
Digital Rights Management. Our platform incorporates a comprehensive
digital rights management solution that is designed both to protect the
publisher's copyright while administering usage restrictions imposed by the
publisher of each particular publication, and to permit the owner of content,
such as a library, to manage the use and distribution of that content.
Copyright Protection System. Several electronic book reader device
developers and manufacturers have developed proprietary copyright
enforcement and use restriction systems. Generally, these systems
consist of:
o a secure container that contains the document, most likely
encrypted, and a description of the rights granted by the
publisher for use of the document; and
o controls or keys used to allow access to the document.
Our platform incorporates three copyright protection systems, including
the netLibrary On-line Reader for online reading, the netLibrary eBook
Reader for reading electronic books on a Windows-based personal
computer, and the Peanut Reader, for reading publications on the Palm
OS and Windows CE operating systems. With a copyright protection system
alone, content is coupled with a specific reading device or software
and cannot be separated from the platform on which it is initially
downloaded and rendered. This coupling limits the user's benefit from
purchasing digital content by restricting use to a particular device or
software application, and limits the owner's flexibility in
distributing content.
Ownership Management. Our digital rights management system incorporates
the architecture and functions to manage rights to digital content and
to compile associated information. These functions include tracking
owner identities and purchase events, maintaining copies of
publisher-granted usage rights in order to enforce copyrights
appropriately, distributing keys with defined access rights, and
compiling usage information. The purpose of our ownership management
system is to enable the de-coupling of digital content from a specific
reader device or software.
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The basic tool of our ownership management system is the rights token.
The presence of a rights token on a platform such as a computer,
dedicated reading device or personal digital assistant device, together
with an encrypted content file, enables the use of digital content on
that particular platform. Through an online interface, which we call a
digital bookshelf, a user can move the rights token from the ownership
management system to the copyright enforcement system used by a
particular platform thereby enabling access to the content on that
platform. Subsequently, the user may move the rights token from the
copyright enforcement system used by a particular platform to the
ownership management system, thereby terminating access on that
platform and restoring the content to the digital bookshelf. This
process can be repeated to use the content on another platform.
Web Site Design. Our Web sites employ a standard architecture that
consists of three layers:
o a Web presentation layer that provides the HTML interface and
content presentation to the end user and that is implemented
through multiple Web servers with local server load balancing;
o a middleware layer that performs transaction management and
information retrieval; and
o a data layer that consists of persistent account and rights
storage and content storage. A direct link to the corporate
facility via secure private leased lines facilitates the data
upload, maintenance, replication and financial accounting
communications.
We have developed and own the principal software components used in our
platform with two exceptions. Our architecture does not require that we provide
a unique, proprietary solution for each function. Instead, we can use third
party solutions as appropriate. We currently use a third party document
retrieval solution, Folio, which we license from NextPage, and the DjVu image
rendering software, which was developed by AT&T Corp. and which we license from
AT&T's assignee. As other types of media are introduced, other third party media
server components can be added to the architecture. The online viewing
experience is available through most of the installed base of Web browsers,
including the 4.0 and later versions of Netscape, Microsoft Internet Explorer
and the AOL version of Internet Explorer. The offline reader viewing experience
is available on the Microsoft Windows operating system.
Traffic Management. Our platform is designed to:
o handle a substantial increase in current Web traffic and
fluctuations in that traffic and to add capacity as demand
increases;
o provide redundant processes and facilities for critical
features; and
o manage traffic through local load distribution with the
capability to add one or more server sites to permit
geographic load distribution.
In addition, we currently maintain separate live sites for
netLibrary.com and peanutpress, and our platform supports collocation to
multiple Internet service providers. A hot failover backup site is maintained by
netLibrary.com to provide netLibrary.com users continuous service in the case of
accidents or other events that would cause our main site to be inoperable.
Security. Our platform architecture incorporates standard security
precautions that we believe are prudent for any electronic commerce Web site.
These include firewalls at the Web sites and at the corporate interface, private
leased lines between the Web sites and the corporate interface, and two-level
subnetworks at the Web sites.
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<PAGE> 48
RESEARCH AND DEVELOPMENT
Our research and development efforts are focused on enhancing the
functionality of our platform. In addition, we will continue to evaluate our
platform in order to respond to the needs and demands of our publishers and
customers. Our research and development expenses, in which we also include our
expenses from Web site operations, were approximately $780,000 for the period
from June 1998 until March 31, 1999, $2.8 million for the period from April 1,
1999 until December 31, 1999, and $3.9 million for the six months ended June 30,
2000. We expect that we will continue to invest substantial funds in research
and development activities.
MARKETING
Our marketing efforts have included advertising and marketing campaigns
in a variety of media designed to create immediate awareness of the netLibrary
name and the availability of our electronic books, as well as to promote trial
and usage of our electronic books by end users. We have undertaken a broad
effort to establish the electronic book product category in the minds of end
users, generate demand for our electronic books by institutional customers,
their patrons and individual consumers and develop market awareness of the
netLibrary brand. Given the growing awareness and acceptance of electronic
books, as evidenced by the publicity given and the consumer response to the
digital-only release of Steven King's novella Riding the Bullet, we are
redirecting our marketing efforts to target our institutional and publishing
customers.
For our institutional customers, we have developed market-specific
promotions and are an active participant in both the publishing and library
communities. We attend and exhibit at leading publishing and library trade shows
and place regular advertising in most major trade journals targeted to these two
communities. We target librarians to encourage electronic book purchases and
publishers to publish or distribute electronic books through us. We also work
closely with our strategic distribution partners, including Blackwell Limited,
EBSCO Publishing and Follett Library Resources, to market our services to
publishers and libraries through both trade and direct media advertising.
For customers of peanutpress, we advertise our electronic books in
print publications and through banner ads on selected Internet sites. We also
produce and send a monthly email newsletter to customers and others on our
mailing list.
We believe that growing the market for our electronic books is critical
to our success. We have devoted substantial marketing efforts to educate end
users, including college students and business travelers, on the convenience and
value of electronic books and to encourage them to try our electronic books. Our
end user marketing efforts include electronic book introduction programs and
advertising campaigns. Under our public library seeding program, for example, we
have purchased and provided a total of approximately 100,000 electronic books to
64 public libraries in the United States. Each participating public library
received 1,500 electronic books free-of-charge for six months, after which they
may choose to purchase all or a portion of these titles or other electronic
books from our general collection.
SALES
We sell our electronic books to institutional libraries, corporations
and educational institutions through our internal sales staff and the sales
staffs of our distribution partners and to consumers directly through
peanutpress. Our sales staff is divided between the academic, public and K-12
library markets, which include library consortia, and the corporate library
market. Each sales staff member is responsible for customers in a specific
geographic region. Our sales staff consists of outside sales representatives,
who focus on the largest libraries and library consortia, and inside sales
representatives, with responsibilities for identifying new customers and for
increasing sales to library members of existing consortia customers that are not
currently purchasing our electronic books. We also have account managers who
work with our existing consortia and individual library customers to generate
revenue on a recurring basis by introducing them to new titles in our expanding
electronic book collection and to any sales promotions. Through this
interaction, our account managers also help to identify those electronic book
titles most in demand by our customers.
In addition to our sales staff, we sell our electronic books through
our distribution partners, including Blackwell's and EBSCO. Because Follett's
sales efforts focus on the K-12 market, we anticipate their sales activity for
our electronic books to begin in the upcoming school year. We manage the sales
efforts of these book distributor partners, who act in place of our direct sales
staff in their markets, and have two sales representatives supporting these
partners.
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<PAGE> 49
COMPETITION
Competition among companies that provide digital content over the
Internet is intense. While we currently are not aware of any competitor that
provides an end-to-end solution for the conversion, distribution, management and
sale of electronic books over the Internet, we face competition in each of these
areas, and we expect that competition in some or all of these areas will
increase. We compete with the following types of companies:
o providers of digital content and related services;
o providers of digital rights management solutions and related
services and reader software products; and
o book retailers and distributors.
We may also face competition from existing book industry participants
entering the electronic book market and from strategic alliances formed by
competitors in several of our markets. We believe that due to increased
competition we will need to invest in new technologies to maintain our
competitive position.
We believe that the primary competitive factors in our market include:
o the scalability of digital rights management solutions for
various applications of electronic books;
o the costs and efficiencies of electronic book conversion;
o the breadth and relevance of electronic books to customers and
end users; and
o establishing relationships with industry participants including
publishers and other providers of published content and
electronic commerce booksellers.
INTELLECTUAL PROPERTY
Our success will depend in part on our ability to protect our
proprietary software and other intellectual property. To protect our proprietary
rights, we rely generally on patent, copyright, trademark and trade secret laws,
and agreements with employees and third parties, including confidentiality,
assignment and license agreements. Despite these protections, our agreements
with employees, consultants and others who participate in product and service
development activities may be breached, we may not have adequate remedies for
any breach, and our trade secrets may become known or independently developed by
competitors.
We may be liable to third parties for the content on our Web site and
the digital content we distribute if:
o the text, graphics or other content on our Web site violates
their copyright, trademark, or other intellectual property
rights;
o our publishers violate their contractual obligations to others
and provide us with unauthorized titles that we put on our Web
site; or
o anything on our Web site is deemed obscene, indecent or
defamatory.
We may also be liable for anything that is accessible from our Web site
through links to other Web sites.
We attempt to minimize these types of liabilities by requiring
representations and warranties from the publishers that their agreement with the
authors allows them to grant us the right to make a digital version of a
particular title. Most publishers also agree to indemnify us against liability
we might sustain due to the content they provide.
We have applied for registration of several of our trademarks and
service marks in the United States and in several foreign jurisdictions,
including Australia, Argentina, Chile, the European Union, Mexico and South
Africa. These marks include "e and design," "netLibrary and design," "netLibrary
Interactive Knowledge and Design," "Knowledge Station" and "netLibrary." Our
registration applications were accepted for "e and design" in Chile and Mexico.
We do not know if any of our remaining applications will be approved or whether
we will be able to protect the use of these marks effectively. We have received
notice from the Patent and Trademark Office that the trademark "MetaText" has
been approved for registration.
We currently have one patent pending in the United States and one
pending Patent Cooperation Treaty application, both relating to our platform
architecture and technology. Any pending or future patent applications may
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<PAGE> 50
not be granted, future patents may be challenged, invalidated or circumvented,
and the rights granted under any patent that may issue may not provide
competitive advantages to us.
We also rely on technology that we license from third parties,
including software that is integrated with internally developed software and
used in our products and services, to perform key functions. Third party
technology licenses may not continue to be available to us on commercially
reasonable terms, if at all. The loss of any of these technologies could harm
our business.
GOVERNMENT REGULATION OF THE INTERNET
The laws and regulations that govern our business change rapidly.
Although our operations are currently based in Colorado, the United States
government and the governments of other states and foreign countries have
attempted to regulate activities on the Internet. The following are some of the
evolving areas of law that are relevant to our business:
o Privacy Law. Current and proposed federal, state and foreign
privacy regulations and other laws restricting the collection,
use and disclosure of personal information could limit our
ability to use the information in our databases to generate
revenue.
o Content Regulation. Both foreign and domestic governments have
adopted and proposed laws governing the content of material
transmitted over the Internet. These include laws relating to
obscenity, indecency, libel and defamation. We could be liable if
content delivered by us or placed on our Web site violates these
regulations.
o Sales and Use Tax. We do not currently collect sales, use or
other taxes on the sale of goods and services on our Web site
other than on sales in Colorado. States or foreign jurisdictions
may, however, seek to impose tax collection obligations on
companies like us that engage in online commerce. If they do,
these obligations could limit the growth of electronic commerce
in general and limit our ability to profit from the sale of goods
and services over the Internet.
Because of this rapidly evolving and uncertain regulatory environment,
we cannot predict how these laws and regulations may affect our business. In
addition, these uncertainties make it difficult to ensure compliance with the
laws and regulations governing the Internet. These laws and regulations could
harm us by subjecting us to liability or forcing us to change how we do
business.
LEGAL PROCEEDINGS
We are not a party to any material legal proceedings.
EMPLOYEES
As of June 30, 2000, we had 383 full-time and 42 part-time employees.
None of our employees are covered by a collective bargaining agreement. We
consider our employee relations to be good.
FACILITIES
We are headquartered in Boulder, Colorado, where we lease approximately
131,000 square feet of office space in a four-building campus under two separate
leases, both of which expire August 31, 2006. In June 2000, we subleased
approximately 23,500 square feet for 30 months to a third party. We believe our
facilities will be sufficient for our anticipated growth until approximately
December 2001. We also lease approximately 4,750 square feet of office space for
peanutpress, in Maynard, Massachusetts. This lease expires in November 2002. We
do not own any real estate. We do not consider any specific leased location to
be material to our operations and believe that equally suitable alternative
locations are available in the Boulder and Maynard areas.
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<PAGE> 51
MANAGEMENT
DIRECTORS AND EXECUTIVE OFFICERS
Shown below are the names, ages and positions of our executive officers and
directors as of June 30, 2000:
<TABLE>
<CAPTION>
NAME AGE POSITION
---- --- --------
<S> <C> <C>
Timothy R. Schiewe ......... 47 Chairman of the Board of Directors
Robert W. Kaufman .......... 37 Chief Executive Officer, President and Director
Nancy S. Talmey ........... 50 Executive Vice President, Chief Operating Officer
Richard L. Rosy ............ 52 Executive Vice President, Sales
Nicholas J. Cuccaro ........ 58 Senior Vice President, Finance, Chief Financial
Officer
Craig McSavaney ............ 36 Senior Vice President, Technology
Maria E. Silva ............. 40 Senior Vice President, Operations
Paul E. Smith .............. 46 Executive Vice President, General Counsel
Thomas M. Deany ............ 44 Executive Vice President, Human Resources
Sherwood J. Palasek ........ 53 Executive Vice President, Special Initiatives
Scott Carpenter ............ 34 Director
Robert Finzi ............... 46 Director
Jonathan Newcomb ........... 54 Director
Ralph Z. Sorenson .......... 66 Director
Thomas G. Washing .......... 59 Director
</TABLE>
Timothy R. Schiewe has served as our Chairman of the Board of Directors
since May 1999. From inception through March 2000, Mr. Schiewe also served as
our Chief Executive Officer and President and on our board of directors. Prior
to founding netLibrary, Mr. Schiewe served as President of InfoMaster, Inc., a
company founded in 1992 that provided banking laws on CD-ROM.
Robert W. Kaufman has served as our Chief Executive Officer, President
and on our board of directors since March 2000. From February 1999 until March
2000, Mr. Kaufman served as our Executive Vice President and Chief Financial
Officer. Prior to joining us, he was an investment banker with The Wallach
Company, a Denver-based investment bank focused on mid-market mergers and
acquisitions, from November 1995 to February 1999. From October 1991 until March
1995, Mr. Kaufman was the managing general partner of Sierra International
Partners, a Boston-based private investor partnership.
Nancy S. Talmey has served as our Executive Vice President, Chief
Operating Officer since January 1999. For the four months preceding her
appointment as Executive Vice President, Ms. Talmey served as our Operations
Consultant. Prior to joining us, Ms. Talmey was President of the Media and
Entertainment Division of Centrobe, Inc., an Electronic Data Systems Corporation
("EDS") company, from September 1997 until August 1998. From April 1994 until
September 1997, Ms. Talmey was General Manager and Vice President of Publishing
for Neodata, Inc., a magazine fulfillment and customer service company that was
acquired by EDS in August 1997.
Richard L. Rosy has served as our Executive Vice President, Sales since
November 1999. Prior to joining us, Mr. Rosy was President of the Consumer
Division of Centrobe, Inc. from November 1997 until November 1999 and Vice
President of Neodata, Inc. from March 1992 until November 1997.
Nicholas J. Cuccaro has served as our Chief Financial Officer since
March 2000. From November 1999 until March 2000, Mr. Cuccaro served as our
Senior Vice President, Finance. Prior to joining us, Mr. Cuccaro was Chief
Financial Officer from June 1994 to November 1998 and President of the
Publishing Division from December 1998 to October 1999 of Centrobe, Inc.
Craig McSavaney has served as our Senior Vice President, Technology
since October 1999. From July 1999 until October 1999, Mr. McSavaney served as
our Vice President of Technology. Prior to joining us, Mr. McSavaney was Vice
President and General Manager of the Technology Applications Group of Digital
Systems International Corporation from February 1995 until July 1999.
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<PAGE> 52
Maria E. Silva has served as our Senior Vice President, Operations
since February 2000, and has managed our book production operations since
November 1998. Prior to joining us, Ms. Silva was Senior Director, Production
Operations of Centrobe, Inc. from January 1995 until November 1997 and Senior
Director, Client Services from November 1997 until November 1998.
Paul E. Smith has served as our Executive Vice President, General
Counsel since June 1999. Prior to joining us, Mr. Smith was a partner with the
Denver-based law firm Holme Roberts & Owen LLP from January 1987 until June
1999.
Thomas M. Deany has served as our Executive Vice President, Human
Resources since April 1999. Prior to joining us, Mr. Deany served as Director of
Human Resources of Coors Brewing Company from April 1998 until April 1999, as
Director of Human Resources for Neodata, Inc. from March 1997 until April 1998
and as Regional Manager of Human Resources for Kraft Foods, Inc. from August
1994 until March 1997.
Sherwood J. Palasek has served as our Executive Vice President, Special
Initiatives, since March 2000. Mr. Palasek previously served as our Executive
Vice President, Strategic Technology from February 2000 until March 2000, as
Executive Vice President, Strategic Development, from October 1999 until
February 2000, as Executive Vice President, Sales and Acquisitions, from
November 1998 until October 1999, and as Executive Vice President, Operations,
from August 1998 until November 1998. Prior to joining us, Mr. Palasek was a
self-employed consultant from November 1997 until August 1998 and served as
Senior Vice President of American Operations for Dataware Technologies, Inc.
from February 1992 until November 1997.
Scott Carpenter has served on our board of directors since August 1998.
Since August 1997, Mr. Carpenter has been a Vice President of Anschutz
Investment Company, an affiliate of an investor in our company. He has been
employed at Anschutz Investment Company since 1994.
Robert Finzi has served on our board of directors since May 1999. Since
1991, Mr. Finzi has been a General Partner of the Sprout Group, a venture
capital firm and an investor in our company. Mr. Finzi also serves on the board
of directors of Edison Schools and InterDent, Inc.
Jonathan Newcomb has served on our board of directors since September
1999. Since September 1994, Mr. Newcomb has served as the Chief Executive
Officer of Simon & Schuster, Inc. Mr. Newcomb also serves on the board of
directors of Primark Corporation and Hong Kong Shanghai Bank Corporation USA.
Mr. Newcomb is also a member of the Board of Trustees of the National Book
Foundation of Dartmouth College and the Amos Tuck School of Business.
Ralph Z. Sorenson has served on our board of directors since August
1998, serving as Chairman of the Board of Directors from inception until May
1999. Since 1993, Mr. Sorenson has been Professor Emeritus at the University of
Colorado Business School and was Dean of the University of Colorado Business
School during the 1992-1993 academic year. Mr. Sorenson also serves on the board
of directors of the Houghton Mifflin Company, Inc., Polaroid Corporation, Eaton
Vance, Inc., Whole Foods Market, Inc. and Exabyte, Inc.
Thomas G. Washing has served on our board of directors since August
1998. Since 1996, Mr. Washing has been a Managing Director with Sequel Venture
Partners, a venture capital firm and an investor in our company. Prior to
joining Sequel, he was an independent investor.
Some of our stockholders have the right to designate members of our
board of directors under the terms of a stockholders agreement we entered into
with them. Specifically, the Sprout Group has the right to appoint two
directors, one of whom must be approved by us; each of Sequel Venture Partners
and Anschutz Family Investment Company has a right to appoint one director; each
holder of Series C preferred stock that owns more than 500,000 shares, together
with each other such holder, voting as a single class, have the right to appoint
one director; and the common stockholders, voting as a class, have the right to
appoint one director. The current designees for these entities are as follows:
Robert Finzi and Jonathan Newcomb are the director designees for the Sprout
Group; Thomas Washing is the director designee for Sequel Venture Partners;
Scott Carpenter is the director designee for Anschutz Family Investment Company;
Ralph Z. Sorenson is the director designee for the holders of the Series C
preferred stock and Tim Schiewe is the director designee for the common
stockholders. Upon completion of this offering these board designation rights
will terminate.
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<PAGE> 53
There are no family relationships among any of our directors or
executive officers.
BOARD COMPOSITION
Our board of directors currently consists of seven directors. Upon
completion of this offering, the authorized size of our board of directors will
be increased to nine members. Our board will be divided into three classes:
Class I, whose term will expire at the annual meeting of stockholders to be held
in 2001; Class II, whose term will expire at the annual meeting of stockholders
to be held in 2002; and Class III, whose term will expire at the annual meeting
of stockholders to be held in 2003. The directors who make up each class will be
designated prior to completion of this offering.
At each annual meeting of the stockholders beginning in 2001, the
successors to the class of directors whose terms expire will be elected to serve
three-year terms. If the number of directors on our board increases, the newly
created directorships will be distributed among the three classes so that each
class will, as nearly as possible, consist of one-third of the directors. The
classification of our board of directors may delay or prevent changes in our
control or management. In addition, our directors may be removed without cause
only upon the vote of holders of two-thirds of our outstanding common stock.
BOARD COMMITTEES
Our board of directors has established an audit committee and a
compensation committee.
The audit committee consists of Messrs. Carpenter, Finzi and Washing.
The audit committee meets periodically with management and our independent
accountants to review their work and confirm that they are properly discharging
their respective responsibilities. The audit committee also:
o recommends the appointment of independent accountants to audit
our financial statements and perform services related to the
audit;
o reviews the scope and results of the audit with the independent
accountants;
o reviews with management and the independent accountants our
annual operating results;
o considers the adequacy of the internal accounting control
procedures; and
o considers the independence of our accountants.
The compensation committee consists of Messrs. Washing, Newcomb and
Sorenson. The compensation committee determines the salary and incentive
compensation of our officers and provides recommendations for the salaries and
incentive compensation of our other employees. The compensation committee also
administers our stock option plan, including reviewing management
recommendations with respect to option grants and taking other actions as may be
required in connection with our compensation and incentive plans.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
No interlocking relationship exists between our board of directors or
compensation committee and the board of directors or compensation committee of
any other company, nor has any interlocking relationship existed in the past.
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<PAGE> 54
DIRECTOR COMPENSATION
We reimburse our directors for reasonable out-of-pocket expenses
related to attending board or committee meetings. In addition, as set forth in
the following table, we have awarded some of our directors restricted stock
grants or options to purchase shares of our common stock. We currently do not
intend to pay cash compensation to directors for serving on our board.
<TABLE>
<CAPTION>
OPTION GRANTS RESTRICTED STOCK GRANTS
---------------------------------------------- -----------------------------
NUMBER OF EXERCISE PRICE EXPIRATION NUMBER OF
NAME OPTIONS GRANTED PER SHARE DATE SHARES GRANTED VESTING DATE
---- --------------- -------------- ---------- -------------- ------------
<S> <C> <C> <C> <C> <C>
Jonathan Newcomb 50,000 $0.50 11/18/09 -- --
Ralph Sorenson -- -- -- 90,000 8/10/01 (a)
</TABLE>
----------
(a) Of the 90,000 shares, 30,000 shares vested on August 10, 1998, and the
remaining shares vest monthly over the three year period ending August 10,
2001. If Mr. Sorenson ceases to serve as a director, all shares of
restricted stock that have not vested will be subject to forfeiture. Mr.
Sorenson has transferred these shares to the Sorenson Limited Partnership
FLLLP.
EXECUTIVE COMPENSATION
The following table sets forth summary information concerning the
compensation we paid during 1999 to our chief executive officer and each of our
other four most highly compensated executive officers who were serving as
executive officers for the calendar year ended December 31, 1999. We refer to
these individuals as our named executive officers.
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
LONG-TERM
ANNUAL COMPENSATION COMPENSATION
------------------------ ------------------
SECURITIES
NAME AND PRINCIPAL POSITION SALARY BONUS UNDERLYING OPTIONS
--------------------------- ------------ ------- ------------------
<S> <C> <C> <C>
Timothy R. Schiewe (a)
Chairman of the Board of Directors.......... $185,915 $66,610 --
Robert W. Kaufman (b)
Chief Executive Officer and President....... 144,046 14,822 350,000
Nancy S. Talmey
Executive Vice President, Chief Operating
Officer................................... 222,472 (c) 25,042 50,000
Sherwood J. Palasek
Executive Vice President, Special
Initiatives............................... 163,620 31,146 30,000
Warren D. Melancon Jr.
Former Executive Vice President, Marketing
and Chief Marketing Officer............... 157,538 (d) -- 190,000
</TABLE>
----------
(a) Mr. Schiewe was our Chairman of the Board, Chief Executive Officer and
President until March 2000.
(b) Mr. Kaufman was our Chief Financial Officer until March 2000. In March
2000, Mr. Kaufman became our Chief Executive Officer and President upon the
resignation of Mr. Schiewe from those positions.
(c) Ms. Talmey's salary includes a $50,000 signing bonus.
(d) Mr. Melancon's salary includes a $50,000 relocation reimbursement. Mr.
Melancon has resigned his position with us.
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<PAGE> 55
OPTION GRANTS IN 1999
The following table sets forth information related to each grant of
stock options to our named executive officers for the calendar year ended
December 31, 1999. We have never granted any stock appreciation rights. Each of
the options listed in the table below is immediately exercisable. Any shares
purchased upon exercise of these options may be repurchased by us at the
original exercise price per share to the extent the shares have not vested upon
termination of the optionee's service to us. Generally, our repurchase right
lapses and the option vests over four years, with 25% of the total grant vesting
at the end of the first year and the remainder vesting monthly thereafter.
<TABLE>
<CAPTION>
INDIVIDUAL GRANTS
----------------------------------------------------------
NUMBER OF PERCENT OF POTENTIAL REALIZABLE VALUE
SECURITIES TOTAL OPTIONS AT ASSUMED ANNUAL RATES OF
UNDERLYING GRANTED TO EXERCISE SHARE PRICE FOR OPTION TERM (c)
OPTIONS EMPLOYEES IN PRICE PER EXPIRATION -------------------------------
NAME GRANTED FISCAL YEAR (a) SHARE (b) DATE 5% 10%
---- --------- --------------- ---------- ---------- ------------ -----------
<S> <C> <C> <C> <C> <C> <C>
Timothy R. Schiewe........... -- -- % $ -- -- $ -- $ --
Robert W. Kaufman............ 200,000 10.1 0.10 2/15/09
100,000 5.0 0.10 4/22/09
50,000 2.5 10.00 10/18/09
Nancy S. Talmey.............. 50,000 2.5 10.00 10/18/09
Sherwood J. Palasek.......... 30,000 1.5 10.00 10/18/09
Warren D. Melancon Jr. (d)... 150,000 7.6 0.10 4/30/09
40,000 2.0 10.00 10/18/09
</TABLE>
(a) Based on options to purchase an aggregate of 1,985,450 shares of common
stock granted to our employees in 1999.
(b) The exercise price per share of each option was equal to the fair market
value of the common stock on the date of grant as determined by the board
of directors.
(c) Potential realizable values are computed by (i) multiplying the number of
shares of common stock subject to a given option by the assumed initial
public offering price of $____ per share, the midpoint of the offering
price range, (ii) assuming that the aggregate stock value derived from that
calculation compounds at the annual 5% or 10% rate shown in the table for
the entire ten-year term of the option and (iii) subtracting from that
result the aggregate option exercise price. The 5% and 10% assumed annual
rates of stock price appreciation are mandated by the rules of the SEC and
do not represent our estimate or projection of future common stock prices.
(d) Of the total options granted to Mr. Melancon, options to purchase 120,625
shares were cancelled upon resignation of his employment with us. He
exercised options to purchase 65,000 shares of our common stock, 10,625
shares of which are subject to our right of repurchase, and has options to
purchase 4,375 shares of our common stock, which, if exercised, are subject
to our right of repurchase.
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<PAGE> 56
OPTIONS EXERCISED IN 1999 AND YEAR-END DECEMBER 31, 1999 OPTION VALUES
The following table provides summary information for each of our named
executive officers with respect to stock options held as of December 31, 1999,
and with respect to stock options exercised during the calendar year ended
December 31, 1999. The value realized upon exercise and the value of unexercised
in-the-money options shown below have been calculated on the basis of the
assumed initial public offering price of $___ per share, the midpoint of the
offering price range, less the applicable exercise price per share, multiplied
by the number of shares underlying these options.
<TABLE>
<CAPTION>
NUMBER OF SECURITIES
UNDERLYING VALUE OF UNEXERCISED
UNEXERCISED OPTIONS AT IN-THE-MONEY OPTIONS AT
FISCAL YEAR-END FISCAL YEAR-END
SHARES ---------------------- -----------------------
ACQUIRED ON VALUE UNEXER- EXER- UNEXER- EXER-
NAME EXERCISE REALIZED CISABLE CISABLE(a) CISABLE CISABLE(a)
---- ----------- -------- ------- ---------- ------- ----------
<S> <C> <C> <C> <C> <C> <C>
Timothy R. Schiewe............ - - - - - -
Robert W. Kaufman............. 42,334 $ - 307,678
Nancy S. Talmey............... 68,750 - 281,250
Sherwood J. Palasek........... 41,671 - 163,337
Warren D. Melancon Jr. (b).... 15,625 - 174,375
</TABLE>
----------
(a) Optionees may exercise stock options prior to vesting subject to our right
to repurchase shares of unvested options should an optionee's employment
terminate prior to the vesting date.
(b) Of the total options granted to Mr. Melancon, options to purchase 120,625
shares were cancelled upon resignation of his employment with us. He
exercised options to purchase 65,000 shares of our common stock, 10,625
shares of which are subject to our right of repurchase, and has options to
purchase 4,375 shares of our common stock, which, if exercised, are subject
to our right of repurchase.
EMPLOYEE BENEFIT PLANS
1998 STOCK OPTION PLAN
The following is a summary description of our 1998 Stock Option Plan.
You may refer to the exhibits that are part of the registration statement of
which this prospectus is a part for a copy of the stock option plan.
Types of Awards. The stock option plan provides for grants of incentive
stock options, which are intended to qualify for favorable federal tax treatment
under Section 422 of the Internal Revenue Code of 1986, and nonqualified stock
options, which do not so qualify.
Shares Subject to the Stock Option Plan. As of June 30, 2000, the total
number of shares of common stock authorized for issuance under the stock option
plan was 5,021,666 shares. These shares may be authorized but unissued common
stock or authorized and issued common stock that has been reacquired by us and
held in our treasury. If an option grant expires or for any reason is terminated
or unexercised, the shares of common stock relating to that grant again become
available for issuance under the stock option plan.
As of June 30, 2000, there were options to purchase 2,428,592 shares
outstanding and 1,046,252 shares available for future grant. As of June 30,
2000, we had issued 1,546,822 shares upon exercise of options granted under the
option plan, of which 808,334 shares are subject to our repurchase right if the
holder's employment is terminated before the shares become vested, and 19,295
shares have been repurchased pursuant to such repurchase right.
In the event of a merger, consolidation, reorganization, stock
dividend, stock split, or other similar change affecting our capital structure,
the compensation committee has the authority to make appropriate adjustments to
the total number of shares available for issuance under the stock option plan,
the number of shares that may be purchased and the exercise price applicable to
outstanding stock options.
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Eligibility. Grants may be made to any of our full or part-time
employees and to any consultant, director or independent contractor providing
services to us, in each case as determined by the compensation committee.
Administration. Currently, our compensation committee administers the
stock option plan. The committee has the authority to:
o make grants under the stock option plan;
o select the individuals to receive grants;
o determine the terms of the grant and the terms and provisions of
each option certificate reflecting awards; and
o prescribe rules and make interpretations regarding the stock
option plan that are final and conclusive.
Stock Options. The compensation committee may grant incentive stock
options and nonqualified stock options to eligible persons. The options may
permit the optionee to purchase shares of our common stock at a fixed price and
in accordance with terms determined by the compensation committee relating to,
among others, option exercise price, exercisability, method of payment of the
exercise price, and the option exercise periods applicable after the optionee's
termination of service. The term of any stock option granted under the stock
option plan may not exceed ten years from the grant date.
Optionees may exercise stock options prior to vesting, but shares of
common stock acquired upon exercise of an unvested stock option are subject to
netLibrary's right to repurchase the shares if the optionee's employment is
terminated prior to the vesting date.
In the case of any grant intended to constitute an incentive stock
option, the exercise price will be no less than the fair market value of the
common stock on the date of grant. Further, the aggregate fair market value of
shares of common stock represented by incentive stock options that become
exercisable in any calendar year by any eligible employee may not exceed
$100,000. Options in excess of this limit are treated as nonqualified stock
options. For holders of 10% or more of our outstanding common stock, the
exercise price must equal 110% of fair market value and the option term may not
exceed five years.
If we are acquired or undergo certain changes in control, outstanding
options become fully vested unless they are assumed by the continuing company.
In addition, following an acquisition or change in control, an employee may
become fully vested if he or she is terminated, or if certain changes are made
in the conditions of his or her employment, such as a reduction in
responsibilities, compensation or a required relocation.
Nonassignability. Except as otherwise provided in the option
certificate, no grant is assignable or transferable by an optionee other than by
will or the laws of descent and distribution. During the optionee's lifetime,
the grant may be exercisable only by the optionee or in the event of disability
or incapacity, by the optionee's guardian or legal representative.
Amendment and Termination. Our board of directors may amend or
discontinue the stock option plan at any time, provided that for option grants
to qualify as incentive stock options the following amendments are subject to
shareholder approval:
o increasing the maximum number of shares of common stock available
for issuance under the stock option plan;
o modifying the eligibility requirements for participation in the
stock option plan;
o decreasing the minimum option price; or
o extending the maximum option term.
In addition, the board of directors may not change the terms of any
outstanding grant without the optionee's consent if the change would be
materially adverse to the optionee.
Federal Income Tax Consequences. The following is a brief description
of various United States federal income tax consequences of grants under the
stock option plan based upon the laws in effect on the date of this prospectus.
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Incentive Stock Options. No federal taxable income should be recognized
by the employee upon the grant or exercise of an incentive stock
option. If the shares of common stock acquired upon exercise of an
incentive stock option are not disposed of within two years of the date
of grant or within one year after the transfer of the shares to the
employee upon exercise of the incentive stock option, then:
o upon the sale of the shares, any amount realized in excess of the
exercise price of the option will be taxed as long-term capital
gain; and
o no deduction will be available to us for federal income tax
purposes.
The exercise of an incentive stock option may result in an alternative
minimum tax liability to the employee.
If the stock acquired upon the exercise of an incentive stock option is
disposed of prior to the expiration of the holding periods described
above, then, generally:
o the employee will recognize ordinary income in an amount equal to
the excess, if any, of the fair market value of the shares at
exercise, or, if less, the amount realized on the disposition of
the shares, over the exercise price of the option;
o we will be entitled to a tax deduction in the same amount; and
o any further gain recognized by the employee will be taxed as
short-term or long-term capital gain, depending upon the length
of time the employee held the shares, and this amount will not be
deductible by us.
Nonqualified Stock Options. With respect to nonqualified stock options:
o no federal taxable income should be recognized by the optionee at
the time the option is granted;
o generally upon exercise of the option, the optionee will
recognize ordinary income in an amount equal to the difference
between the exercise price of the option and the fair market
value of the shares purchased on the date of exercise and we
generally will be entitled to a tax deduction in the same amount;
and
o upon disposition of the shares acquired, generally any
appreciation or depreciation after the date of exercise is
treated by the optionee either as long-term or short-term capital
gain or loss, depending upon the length of time that the optionee
held the shares.
Section 162(m) Limitations. The stock option plan is subject to a
special initial public offering-related transition rule under Internal
Revenue Code Section 162(m). If a nonqualified stock option is granted
to some of our executive officers following this offering with an
exercise price less than the fair market value of the common stock on
the date of grant, our tax deduction upon the exercise of a
nonqualified stock option by certain executive officers would be
subject to the limitations of Section 162(m). When we become subject to
Section 162(m) of the Internal Revenue Code of 1986 (which denies a
deduction to publicly held corporations for certain compensation paid
to specified employees in a taxable year to the extent that the
compensation exceeds $1.0 million), no person may be granted options
under the incentive plan covering more than 2,000,000 shares of common
stock in any calendar year. Shares subject to stock options that have
expired or otherwise terminated without having been exercised in full
again become available for the grant of awards under the incentive
plan. Under its general authority to grant options, the board of
directors has the implicit authority to reprice outstanding options or
to offer optionees the opportunity to replace outstanding options with
new options for the same or a different number of shares. Both the
original and new options will count toward the Section 162(m)
limitation.
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RELATED PARTY TRANSACTIONS
On August 20, 1998, we issued and sold an aggregate of 3,075,000 shares
of our Series A preferred stock at a purchase price of $1.00 per share. On
January 8, 1999, we issued and sold an aggregate of 2,150,000 shares of Series A
preferred stock at a purchase price of $1.00 per share. On May 17, 1999, we
issued and sold an aggregate of 6,828,176 shares of our Series B preferred stock
at a purchase price of $3.6613 per share. On October 14, 1999, we issued and
sold an aggregate of 5,726,574 shares of our Series C preferred stock at a
purchase price of $12.613 per share. On January 18, 2000, we entered into an
agreement to sell 848,657 of Series D preferred stock at a purchase price of
$17.675 per share. We issued and sold an aggregate of 424,329 of those shares on
that date and the remaining shares in July 2000. On February 22, 2000, we issued
an additional 432,468 shares of our Series D preferred stock and 544,900 shares
of our common stock in connection with the purchase of peanutpress. On March 16,
2000 we issued and sold 2,829 shares of our Series D preferred stock at a
purchase price of $17.675 per share. On March 29, 2000, we issued 128,910 shares
of our Series D preferred stock and 153,974 shares of our common stock in
connection with the purchase of the assets of MetaText.
The following table identifies our directors, executive officers, and
five percent stockholders who have made equity investments in our company,
excluding the exercise of options to purchase shares of our preferred stock or
common stock and reflects the stock ownership of these investors as of July 31,
2000. See "Principal Stockholders" for additional information relating to the
beneficial ownership of these stockholders.
<TABLE>
<CAPTION>
SHARES OF SHARES OF SHARES OF SHARES OF
COMMON SERIES A SERIES B SERIES C
INVESTOR STOCK PREFERRED STOCK PREFERRED STOCK PREFERRED STOCK
---------------------------------- --------- --------------- --------------- ---------------
<S> <C> <C> <C> <C>
Anschutz Family Investment
Company LLC (a)................. -- 2,337,500 383,061 --
Sequel Limited Partnership (b).. -- 2,500,000 546,254 --
Ralph Sorenson (c).............. 90,000 50,000 27,313 --
Bowana Foundation (d)........... -- -- 1,365,635 700,000
Sprout Group (e)................ -- -- 2,458,144 --
Bain Capital (f)................ -- -- -- 1,982,085
Timothy R. Schiewe (g).......... 843,706 -- --
</TABLE>
----------
(a) Anschutz Family Investment Company LLC originally purchased a total of
2,500,000 shares of Series A preferred stock and 409,691 shares of Series B
preferred stock and subsequently transferred the following shares: (i)
62,500 shares of Series A preferred stock and 10,242 shares of Series B
preferred stock to Scott Carpenter, who is Vice President of Anschutz
Investment Company, an Anschutz Family Investment Company LLC affiliate;
and (ii) 100,000 shares of Series A preferred stock and 16,388 shares of
Series B preferred stock to certain officers and employees of Anschutz
Family Investment Company LLC and its affiliates.
(b) Includes 760,745 shares of Series A preferred stock and 166,224 shares of
Series B preferred stock purchased by Sequel Euro Limited Partnership, an
affiliate of Sequel Limited Partnership.
(c) Includes 5,000 shares of Series B preferred stock subsequently transferred
to Mr. Sorenson's sister. In August 1998, Mr. Sorenson received 90,000
shares of restricted common stock as compensation for his services on our
board of directors. Mr. Sorenson subsequently transferred all of these
shares to the Sorenson Limited Partnership FLLLP. In January 1999, Mr.
Sorenson purchased 50,000 shares of Series A Preferred stock at $1.00 per
share.
(d) Includes 546,254 shares of Series B preferred stock and 100,000 shares of
Series C preferred stock purchased by Pearl Street Trust, an affiliate of
Bowana Foundation.
(e) Includes purchases by the following Sprout affiliates: 2,136,857 shares
purchased by Sprout Capital VIII, L.P., 128,212 shares purchased by Sprout
Venture Capital, L.P., 7,129 shares purchased by DLJ Capital Corp. and
185,946 shares purchased by DLJ ESC II, L.P.
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<PAGE> 60
(f) Includes purchases by the following Bain Capital affiliates: 527,129 shares
purchased by Bain Capital Fund VI, L.P., 115,138 shares purchased by BCIP
Associates II, 16,645 shares purchased by BCIP Associates II-B, 1,189,249
shares purchased by Brookside Capital Partners Fund, L.P., 132,166 shares
purchased by Sankaty High Yield Asset Partners, L.P., and 1,758 shares
purchased by PEP Investment PTY Ltd.
(g) Mr. Schiewe originally owned a total of 1,385,148 shares issued upon
formation of netLibrary, and subsequently transferred the following shares:
(i) 400,000 shares sold for $10.00 per share in September 1999 to an
investment fund that is affiliated with a former director and that had
purchased shares of Series A and Series B preferred stock and (ii) a total
141,442 shares sold for $17.675 per share in March 2000 to two unrelated
individuals.
We believe that the shares issued in the transactions described above
were sold at the then fair market value and that the terms of all the
transactions described above were no less favorable than we could have obtained
from unaffiliated third parties.
We have no outstanding loans to, or guarantees on behalf of, any of our
directors or executive officers.
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<PAGE> 61
PRINCIPAL STOCKHOLDERS
The following table shows information with respect to beneficial
ownership of our common stock, as of July 31, 2000, after giving pro forma
effect to the conversion of all of our outstanding shares of preferred stock
into common stock on a one-to-one basis, and as adjusted to reflect the sale of
the common stock offered by us in this offering, for:
o each of our directors and named executive officers;
o all of our directors and executive officers as a group; and
o each person known by us to beneficially own more than 5% of our
common stock.
We have calculated the percentage of beneficial ownership based on
24,587,971 shares of common stock outstanding as of July 31, 2000, after giving
effect to the conversion of our convertible preferred stock, and ____________
shares of common stock outstanding after completion of this offering.
<TABLE>
<CAPTION>
PERCENTAGE OF SHARES
BENEFICIALLY OWNED(a)
--------------------------
NUMBER OF SHARES BEFORE AFTER
NAME OF BENEFICIAL OWNER BENEFICIALLY OWNED OFFERING OFFERING
------------------------ ------------------ -------- --------
DIRECTORS AND EXECUTIVE OFFICERS
<S> <C> <C> <C>
Timothy R. Schiewe (b)........................... 843,706 3.4%
Robert W. Kaufman (c)............................ 500,000 2.0%
Nancy S. Talmey (d).............................. 350,000 1.4%
Sherwood J. Palasek (e).......................... 230,000 *
Warren D. Melancon Jr. (f)....................... 69,375 *
Scott Carpenter (g).............................. 72,742 *
Robert Finzi (h) ................................ 2,458,144 10.0%
Jonathan Newcomb (i)............................. 50,000 *
Ralph Sorenson (j) .............................. 167,313 *
Thomas Washing (k) .............................. 3,046,254 12.4%
All directors and executive officers as a group
(16 persons) ............................... 8,397,534 33.1%
FIVE PERCENT STOCKHOLDERS
Sequel Limited Partnership (l) ................. 3,046,254 12.4%
Anschutz Family Investment Company LLC .......... 2,720,561 11.1%
Sprout Group (m) ................................ 2,458,144 10.0%
Bowana Foundation (n)............................ 2,065,635 8.4%
Bain Capital (o)................................. 1,982,085 8.1%
</TABLE>
----------
* Less than 1% beneficial ownership.
(a) Beneficial ownership is determined under the rules of the Securities and
Exchange Commission and includes voting or investment power with respect to
the securities. Except as indicated by footnote, the persons named in the
table have sole voting and investment power with respect to all shares of
common stock shown as beneficially owned by them. The number of shares of
common stock outstanding used in calculating the percentage for each listed
person includes the shares of common stock underlying options held by that
person that are currently exercisable or are exercisable within 60 days of
July 31, 2000 but excludes shares of common stock underlying options held
by any other person. References to our right of repurchase in the footnotes
below relate to our ability to repurchase shares acquired upon exercise of
unvested options upon an optionee's termination of service prior to vesting
in the shares.
(b) All 843,706 shares are owned jointly by Timothy R. Schiewe and his spouse.
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(c) Includes 197,917 shares that are subject to our right of repurchase and
200,000 shares underlying currently exercisable options of which, if the
option were to be exercised in full within 60 days of July 31, 2000,
181,250 would be subject to our right of repurchase.
(d) Includes 162,500 shares that are subject to our right of repurchase and
50,000 shares underlying currently exercisable options of which, if the
option were to be exercised in full within 60 days of July 31, 2000, 40,625
shares would be subject to our right of repurchase.
(e) Includes 91,667 shares that are subject to our right of repurchase and
30,000 shares underlying currently exercisable options of which, if the
option were to be exercised in full within 60 days of July 31, 2000, 24,375
shares would be subject to our right of repurchase.
(f) Includes 10,625 shares that are subject to our right of repurchase and
4,375 shares underlying currently exercisable options, which, if exercised
in full within 60 days of July 31, 2000, would be subject to our right of
repurchase.
(g) Excludes 2,720,561 shares held by Anschutz Family Investment Company LLC.
Mr. Carpenter is Vice President of Anschutz Investment Company, an
affiliate of this entity.
(h) Includes 2,136,857 shares held by Sprout Capital VIII, L.P., 128,212 shares
held by Sprout Venture Capital, L.P., 7,129 shares held by DLJ Capital
Corp. and 185,946 shares held by DLJ ESC II, L.P. Mr. Finzi, who is a
General Partner of Sprout Group, has no voting or investment power over any
of these shares and disclaims beneficial ownership of these shares except
to the extent of his proportionate ownership interest in the Sprout Group.
(i) Includes 50,000 options to purchase shares of our common stock that are
currently exercisable.
(j) Includes 5,000 shares held by Mr. Sorenson's sister. Includes 90,000 shares
held by Sorenson Limited Partnership FLLLP. The 90,000 shares of common
stock are restricted stock, currently subject to our right of repurchase on
a pro rata basis until the end of the vesting period in August 2001.
(k) Includes 3,046,254 shares held by Sequel Limited Partnership and Sequel
Euro Limited Partnership. Mr. Washing, who is a Managing Director of these
two entities, has no voting or investment power over any of these shares
and disclaims beneficial ownership of the shares held by these two entities
except to the extent of his proportionate ownership interest in these two
entities.
(l) Includes 926,969 shares held by Sequel Euro Limited Partnership. The
address for these entities is Sequel Venture Partners, 4430 Arapahoe
Avenue, Suite 220, Boulder, Colorado 80303.
(m) Includes 2,136,857 shares held by Sprout Capital VIII, L.P., 128,212 shares
held by Sprout Venture Capital, L.P., 7,129 shares held by DLJ Capital
Corp. and 185,946 shares held by DLJ ESC II, L.P. The address for these
entities is Sprout Group, 277 Park Avenue, New York, New York 10172.
(n) Includes 646,254 shares held by Pearl Street Trust. The address for Bowana
Foundation and Pearl Street Trust is 831 Pearl Street, Boulder, Colorado
80302.
(o) Includes 527,129 shares held by Bain Capital Fund VI, L.P., whose sole
general partner is Bain Capital Partners VI, L.P., whose sole general
partner is Bain Capital Investors VI, Inc., a Delaware corporation wholly
owned by W. Mitt Romney; 115,138 shares held by BCIP Associates II, a
Delaware general partnership of which the managing general partner is Bain
Capital, Inc., which is wholly owned by W. Mitt Romney; 16,645 shares held
by BCIP Associates II-B, a Delaware general partnership of which the
managing general partner is Bain Capital, Inc., which is wholly owned by W.
Mitt Romney; 1,189,249 shares held by Brookside Capital Partners Fund,
L.P., whose sole general partner is Brookside Capital Investors, L.P. whose
sole general partner is Brookside Capital Investors, Inc., a Delaware
corporation wholly owned by W. Mitt Romney; 132,166 shares held by Sankaty
High Yield Asset Partners, L.P., a Delaware limited partnership whose sole
general partner is Sankaty High Yield Asset Investors, LLC, whose sole
general partner is Sankaty High Yield Asset Investors, Ltd., a Bermuda
corporation wholly owned by W. Mitt Romney; and 1,758 shares held by PEP
Investment PTY Ltd., an Australian company limited by shares organized
under the laws of New South Wales, of which Bain Capital, Inc., a Delaware
corporation wholly owned by W. Mitt Romney, is its attorney-in-fact. The
address for these entities is: Two Copley Place, 7th Floor, Boston, MA
02116.
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<PAGE> 63
DESCRIPTION OF CAPITAL STOCK
The following description of our capital stock and material provisions
of our certificate of incorporation and bylaws, which will become effective upon
the completion of this offering, is only a summary. The description is qualified
in its entirety by the complete provisions of the certificate of incorporation
and bylaws, which have been filed as exhibits to the registration statement of
which this prospectus is a part. Upon the closing of this offering, our amended
and restated certificate of incorporation will authorize the issuance of up to
___________ shares of common stock, par value $0.001 per share, and ___________
shares of preferred stock, par value $0.001 per share. As of June 30, 2000,
5,396,401 shares of common stock were outstanding, 808,334 shares of which are
subject to our right of repurchase, and 18,768,286 shares of preferred stock
were issued and outstanding. As of June 30, 2000, we had approximately 197
stockholders.
COMMON STOCK
Each holder of common stock is entitled to one vote for each share on
all matters to be voted upon by the stockholders. Holders of common stock are
not entitled to cumulative voting rights with respect to the election of
directors. Subject to preferences that may be applicable to any preferred stock
outstanding at the time, holders of common stock are entitled to receive ratable
dividends, if any, as may be declared from time to time by the board of
directors out of funds legally available for that purpose. In the event of our
liquidation, dissolution or winding up, holders of common stock would be
entitled to share ratably in all assets remaining after the payment of
liabilities and liquidation preferences on any outstanding preferred stock.
Holders of common stock have no preemptive or conversion rights or other
subscription rights and there are no redemption or sinking fund provisions
applicable to the common stock. All outstanding shares of common stock are, and
shares of common stock offered by us in this offering, when issued and paid for,
will be, fully paid and nonassessable.
Each share of our preferred stock shall automatically be converted into
shares of common stock, based on the then-effective conversion price as
determined in accordance with the provisions of our certificate of
incorporation, (i) at any time upon the affirmative election of the holders of
at least two-thirds of the then outstanding shares of each series of our
preferred stock voting as a separate class, or (ii) immediately upon the closing
of a firmly underwritten public offering pursuant to an effective registration
statement under the Securities Act of 1933, as amended, covering the offer and
sale of our common stock in which (a) the per share price is at least $25.00
from July 1, 2000 through October 31, 2000 and $30.00 subsequent to October 31,
2000, (b) the gross cash proceeds we receive from the sale are at least
$30,000,000, and (c) our common stock is listed on a national securities
exchange or on The Nasdaq National Market System. Our Series D preferred stock
has anti-dilution adjustment provisions that will increase the number of shares
of our common stock issuable upon conversion of the Series D preferred stock in
the event the initial public offering price of the common stock offered by this
prospectus is less than $17.675 per share, after deducting the underwriting
discount but before deducting the expenses payable by us in this offering. The
section entitled "-- Anti-Dilution Provisions of our Preferred Stock" set forth
below contains additional information.
PREFERRED STOCK
Upon the closing of this offering, our board of directors will be
authorized, without stockholder approval, to issue up to an aggregate of
20,000,000 shares of preferred stock in one or more series. The board of
directors can fix the rights, preferences and privileges and any qualifications,
limitations or restrictions of the shares of each series.
The issuance of preferred stock may have the effect of delaying or
preventing a change in our control or make removal of our management more
difficult. Additionally, the issuance of preferred stock could decrease the
amount of earnings and assets available for distribution to the holders of our
common stock or could adversely affect the rights and powers, including voting
rights, of the holders of our common stock. The issuance of preferred stock
could also cause the market price of our common stock to decline. At present, we
have no plans to issue any shares of preferred stock.
WARRANTS AND OPTIONS
Upon the closing of this offering, we will have outstanding warrants to
purchase a total of 62,907 shares of common stock and 20,625 shares of Series A
preferred stock, including 24,582 shares of common stock to Imperial Bank at
$3.6613 per share, which will expire on September 2, 2004; 33,325 shares of
common stock to Concept Ventures, Inc. at $1.20 per share, which will expire on
January 7, 2004; and 20,625 shares of Series A preferred stock to Silicon Valley
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<PAGE> 64
Bank at $1.00 per share, which will expire on March 15, 2006. In addition, we
have outstanding an option to purchase 5,000 shares of our common stock at
$17.675 per share held by Answer Technology, Inc.
REGISTRATION RIGHTS
After this offering, the holders of up to 19,192,614 shares of our
common stock will be entitled to registration rights. These rights include
rights to require us to include the holders' common stock in future registration
statements we file with the SEC subject to certain limitations and, in some
cases, demand registration rights. Some holders may also require us to register
their common stock once we are eligible to use a short-form registration
statement. Holders of substantially all of these shares have agreed not to
exercise their registration rights until 180 days after the date of this
prospectus. After this 180-day period, any one of these holders may require us
to file:
o on not more than three occasions, a registration statement under
the Securities Act on Form S-1 with respect to at least 20% of
the shares holding registration rights if the gross offering
proceeds would be expected to exceed $30 million; and
o on not more than two occasions in any twelve-month period, a
registration statement under the Securities Act on Form S-3 if
the gross offering proceeds would be expected to exceed $5.0
million.
In addition, if beginning at any time 180 days after the date of this
offering, we prepare to register any of our securities under the Securities Act,
for our account or for the account of our other holders, we must send notice of
the registration to all holders with registration rights. Subject to certain
conditions and limitations, these holders may elect to register their eligible
shares. Registration of shares of common stock upon the exercise of demand
registration rights would result in the covered shares becoming freely tradable
without restriction under the Securities Act immediately upon the effectiveness
of the registration statement. We will pay the expenses incurred in connection
with such registrations.
LIMITATION OF LIABILITY OF DIRECTORS AND OFFICERS
As permitted by the Delaware General Corporation Law, our certificate
of incorporation provides that our directors are not personally liable to us or
our stockholders for monetary damages for breach of fiduciary duty as a
director, except for liability:
o for any breach of the director's duty of loyalty to us or our
stockholders;
o for acts or omissions not in good faith or which involve
intentional misconduct or a knowing violation of law;
o under Section 174 of the Delaware General Corporation Law,
relating to unlawful dividends or unlawful stock purchases or
redemptions; or
o for any transaction from which the director derives an improper
personal benefit.
As a result of this provision, we and our stockholders may be unable to
obtain monetary damages from a director for breach of his or her duty of care.
Our bylaws provide for the indemnification of our directors and
officers to the fullest extent authorized by the Delaware General Corporation
Law. We will indemnify a director or officer in connection with an action
initiated by that person if the action was authorized by our board of directors.
The indemnification provided under our bylaws includes the right to be paid
expenses in advance of the final disposition of a proceeding for which
indemnification may be had, provided that the payment of these expenses incurred
by a director or officer in advance of the final disposition of a proceeding may
be made only upon delivery to us of an undertaking by the director or officer to
repay all amounts advanced if the director or officer is ultimately determined
not to be entitled to be indemnified. Under our bylaws, if we do not pay a claim
for indemnification within 60 days after we have received a written claim, the
director or officer may bring an action to recover the unpaid amount of the
claim. If successful, the director or officer also will be entitled to be paid
the expense of prosecuting the action to recover these unpaid amounts.
Under our bylaws, we have the power to purchase and maintain insurance
on behalf of any person who is or was one of our directors, officers, employees
or agents, or is or was serving at our request as a director, officer, employee,
partner or agent of another corporation or of a partnership, joint venture,
limited liability company, trust or
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<PAGE> 65
other enterprise, against any liability asserted against the person or incurred
by the person in any of these capacities, or arising out of the person's
fulfilling one of these capacities, and related expenses, whether or not we
would have the power to indemnify the person against the claim under the
provisions of the Delaware General Corporation Law. We have purchased director
and officer liability insurance on behalf of our directors and officers.
ANTI-TAKEOVER PROVISIONS
General
Upon the completion of this offering, our certificate of incorporation
and bylaws will contain some provisions that are intended to enhance the
likelihood of continuity and stability in the composition of our board of
directors and in the policies formulated by our board of directors. In addition,
provisions of Delaware law may hinder or delay an attempted takeover without
prior approval of our board of directors. These provisions could discourage
attempts to acquire us or remove incumbent management even if some or a majority
of our stockholders believe this action is in their best interest. These
provisions could, therefore, prevent stockholders from receiving a premium over
the market price for the shares of common stock they hold.
Classified Board
Our certificate of incorporation provides for the division of our board
of directors into three classes of directors serving staggered three-year terms.
Our certificate of incorporation further provides that the approval of the
holders of at least two-thirds of the shares entitled to vote and the approval
of a majority of our entire board of directors are necessary for the alteration,
amendment or repeal of sections of our certificate of incorporation relating to
the election and classification of our board of directors, limitation of
director liability, indemnification and the vote requirements for these
amendments to our certificate of incorporation. These provisions may have the
effect of deterring hostile takeovers or delaying changes in control or
management.
Removal of Directors; Vacancies
Our certificate of incorporation provides that directors may be removed
without cause only upon the affirmative vote of holders representing two-thirds
of our outstanding shares. In addition, vacancies and newly created
directorships resulting from any increase in the size of the board of directors
may be filled only by the affirmative vote of a majority of the directors then
in office, even if they do not constitute a quorum, or by the sole remaining
director. These provisions would prevent stockholders from removing incumbent
directors without cause and filling the resulting vacancies with their own
nominees.
Advance Notice Provisions for Stockholder Proposals and Stockholder Nominations
of Directors
Our bylaws establish an advance notice procedure with regard to the
nomination, other than by the board of directors, of candidates for election to
the board of directors and with regard to matters to be brought before an annual
meeting of our stockholders by a stockholder. For nominations and other business
to be brought properly before an annual meeting by a stockholder, the
stockholder must deliver notice to us not less than 60 days nor more than 90
days prior to the first anniversary of the preceding year's annual meeting.
Separate provisions based on public notice by us specify how this advance notice
requirement operates if the date of the annual meeting is advanced by more than
30 days or delayed by more than 60 days from the anniversary date. The
stockholder's notice must contain specified information regarding the
stockholder and its holdings, as well as background information regarding any
director nominee, together with that person's written consent to being named in
the proxy statement as a nominee and to serving as a director if elected, and a
brief description of any business desired to be brought before the meeting, the
reasons for conducting the business at the meeting and any material interest of
the stockholder in the business proposed. In the case of a special meeting of
stockholders called for the purpose of electing directors, nominations by a
stockholder may be made only by delivery to us, no later than 10 days following
the day on which public announcement of the special meeting is made, of a notice
that complies with the above requirements. Although our bylaws do not give our
board of directors any power to approve or disapprove stockholder nominations
for the election of directors or any other business desired by stockholders to
be conducted at an annual meeting, the bylaws:
o may preclude a nomination for the election of directors or
preclude the conduct of business at a particular annual meeting
if the proper procedures are not followed; and
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<PAGE> 66
o may discourage or deter a third party from conducting a
solicitation of proxies to elect its own slate of directors or
otherwise attempting to obtain control of us, even if the conduct
of this solicitation and the attempt to obtain control might be
beneficial to us and our stockholders.
Anti-Dilution Provisions of our Preferred Stock
Our certificate of incorporation contains anti-dilution provisions that
will increase the number of shares of common stock into which the outstanding
shares of our Series D preferred stock can be converted in the event the initial
public offering price of the common stock offered by this prospectus is less
than $17.675 per share, after deducting the underwriting discount but before
deducting the expenses payable by us in this offering. Any such increase will
change the number of shares used in calculations for purposes of, among other
things, dilution to new investors, shares held by some of our principal
stockholders, shares subject to registration rights and shares eligible for
future sale.
If the initial public offering price minus the underwriting discount is
less than $17.675 per share, the number of shares of common stock into which
each share of Series D preferred stock will be converted shall equal the number
of shares of Series D preferred stock multiplied by a fraction, the numerator of
which is $17.765 and the denominator of which is the initial public offering
price minus the underwriting discount. Based on an assumed initial public
offering price of $________ per share, which is the minimum offering price set
forth on the cover of this prospectus, the 1,412,864 outstanding shares of
Series D preferred stock will convert into __________ shares of common stock.
Special Stockholders' Meetings
Under our certificate of incorporation and bylaws, unless otherwise
prescribed by statute, special meetings of stockholders may be called only by
the board of directors, the chairman or the chief executive officer.
No Stockholder Action by Written Consent
Our certificate of incorporation provides that any action required or
permitted to be taken at a stockholders' meeting may not be taken by written
consent.
Section 203 of the Delaware General Corporation Law
Under Section 203 of the Delaware General Corporation Law, we may not
engage in a "business combination," which includes a merger or sale of more than
10% of our assets, with any "interested stockholder," namely, a stockholder who
owns 15% or more of our outstanding voting stock, as well as affiliates and
associates of any of these persons, for three years following the time that
stockholder became an interested stockholder, unless:
o the transaction in which the stockholder became an interested
stockholder is approved by our board of directors prior to the
time the interested stockholder attained that status;
o upon completion of the transaction that resulted in the
stockholder becoming an interested stockholder, the interested
stockholder owned at least 85% of our voting stock outstanding at
the time the transaction commenced, excluding those shares owned
by persons who are directors and also officers; or
o at or after the time the stockholder became an interested
stockholder the business combination is approved by the board of
directors and authorized at an annual or special meeting of
stockholders by the affirmative vote of at least two-thirds of
the outstanding voting stock that is not owned by the interested
stockholder.
Blank Check Preferred Stock
The authorization of undesignated preferred stock makes it possible for
the board of directors to issue preferred stock with voting or other rights or
preferences that could impede the success of any attempt to change control of
our company. These and other provisions may have the effect of deterring hostile
takeovers or delaying changes in control or management of our company.
TRANSFER AGENT AND REGISTRAR
The transfer agent and registrar for the common stock is American Stock
Transfer & Trust Company.
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<PAGE> 67
LISTING
We have applied to have our common stock approved for quotation on The
Nasdaq National Market under the trading symbol "EBKS."
SHARES ELIGIBLE FOR FUTURE SALE
If our stockholders sell substantial amounts of common stock, including
shares issued upon the exercise of outstanding options, in the public market
following this offering, the market price of our common stock could fall. These
sales also may make it more difficult for us to sell equity or equity-related
securities in the future and at a time and price that we deem appropriate.
Upon completion of this offering, we will have outstanding an aggregate
of ____________ shares of our common stock, assuming no exercise of the
underwriters' over-allotment option and no exercise of outstanding options. Of
these shares, all of the shares sold in this offering will be freely tradeable
without restriction or further registration under the Securities Act, unless
these shares are purchased by "affiliates" as that term is defined in Rule 144
under the Securities Act. This leaves _____________ shares eligible for sale in
the public market as follows:
<TABLE>
<CAPTION>
Number Of Shares Date
---------------- ----
<S> <C>
.............................. After 90 days from the date of this
prospectus.
.............................. After 180 days from the date of this
prospectus (subject, in some cases, to volume
limitations).
.............................. At various times after 180 days from the date
of this prospectus (subject, in some cases,
to volume limitations).
</TABLE>
LOCK-UP AGREEMENTS
All of our officers and directors and stockholders holding
substantially all of the common stock outstanding before completion of this
offering have signed lock-up agreements with our underwriters under which they
agreed not to transfer or dispose of, directly or indirectly, any shares of our
common stock or any securities convertible into or exercisable or exchangeable
for shares of our common stock, for a period of 180 days after the date of this
prospectus without the prior written consent of Credit Suisse First Boston.
RULE 144
In general, under Rule 144 as currently in effect, beginning 90 days
after the date of this prospectus, a person who has beneficially owned shares of
our common stock for at least one year would be entitled to sell within any
three-month period a number of shares that does not exceed the greater of:
o 1% of the number of shares of our common stock then outstanding,
which will equal approximately ________ shares immediately after
this offering; or
o the average weekly trading volume of our common stock on The
Nasdaq National Market during the four calendar weeks preceding
the filing of a notice on Form 144 with respect to that sale.
Sales under Rule 144 are also subject to manner of sale provisions and
notice requirements and to the availability of current public information about
us.
Under Rule 144(k), a person who is not deemed to have been one of our
affiliates at any time during the 90 days preceding a sale, and who has
beneficially owned the shares proposed to be sold for at least two years,
including the holding period of any prior owner other than an affiliate, is
entitled to sell those shares without complying with the manner of sale, public
information, volume limitation or notice provisions of Rule 144. Therefore,
unless otherwise restricted, shares eligible for resale under Rule 144(k) may be
sold immediately upon the completion of this offering.
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<PAGE> 68
RULE 701
In general, under Rule 701 of the Securities Act as currently in
effect, any of our employees, consultants or advisors who purchased shares of
our common stock from us in connection with a compensatory stock or option plan
or other written agreement is eligible to resell those shares 90 days after the
effective date of this offering in reliance on Rule 144, but without compliance
with some of the restrictions, including the holding period, contained in Rule
144. As of June 30, 2000, a total of 3,975,414 shares of common stock had been
issued or were issuable upon the exercise of options. Of these, 19,295 shares
were repurchased. Of these shares of common stock, __________ will be restricted
by lock-up agreements.
REGISTRATION RIGHTS
After this offering, the holders of 19,192,614 shares of our common
stock, or their transferees, will be entitled to rights with respect to the
registration of those shares under the Securities Act subject to the terms of
the lock-up agreements entered into by these holders. After such a registration,
these shares of our common stock become freely tradeable without restriction
under the Securities Act. These sales could have a material adverse effect on
the trading price of our common stock.
STOCK OPTIONS
As soon as practicable after this offering, we intend to file a
registration statement on Form S-8 covering the shares of common stock reserved
for issuance under our stock option plan. As of June 30, 2000, options to
purchase 2,428,592 shares of common stock were outstanding. The registration
statement is expected to be filed and become effective as soon as practicable
after the effective date of this offering. Shares of common stock registered
under any registration statement will, subject to Rule 144 volume limitations
applicable to affiliates, be available for sale in the open market, unless the
shares are subject to vesting restrictions or the lock-up agreements described
above.
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<PAGE> 69
UNDERWRITING
Under the terms and subject to the conditions contained in an
underwriting agreement dated _________________, we have agreed to sell to the
underwriters named below, for whom Credit Suisse First Boston Corporation,
Deutsche Bank Securities Inc. and J.P. Morgan Securities Inc. are acting as
representatives the following respective numbers of shares of common stock:
<TABLE>
<CAPTION>
Number
Underwriter of Shares
----------- ---------
<S> <C>
Credit Suisse First Boston Corporation ......................
Deutsche Bank Securities Inc. ...............................
J.P. Morgan Securities Inc. .................................
---------
Total...............................................
=========
</TABLE>
The underwriting agreement provides that the underwriters are obligated
to purchase all the shares of common stock in the offering if any are purchased,
other than those shares covered by the over-allotment option described below.
The underwriting agreement also provides that if an underwriter defaults the
purchase commitments of non-defaulting underwriters may be increased or the
offering of common stock may be terminated.
We have granted to the underwriters a 30-day option to purchase on a
pro rata basis up to _________ additional shares at the initial public offering
price less the underwriting discounts and commissions. The option may be
exercised only to cover any over-allotments of common stock.
The underwriters propose to offer the shares of common stock initially
at the public offering price on the cover page of this prospectus and to selling
group members at that price less a concession of $_____ per share. The
underwriters and selling group members may allow a discount of $______ per share
on sales to other broker/dealers. After the initial public offering, the public
offering price and concession and discount to broker/dealers may be changed by
the representatives.
The following table summarizes the compensation and estimated expenses
we will pay.
<TABLE>
<CAPTION>
Per Share Total
------------------------------- --------------------------------
Without With Without With
Over-allotment Over-allotment Over-allotment Over-allotment
-------------- -------------- -------------- --------------
<S> <C> <C> <C> <C>
Underwriting Discounts and Commissions
paid by us ............................ $ $ $ $
Expenses payable by us ................ $ $ $ $
</TABLE>
The underwriters have informed us that they do not expect discretionary
sales to exceed 5% of the shares of common stock being offered.
We have agreed that we will not offer, sell, contract to sell, pledge
or otherwise dispose of, directly or indirectly, or file with the Securities and
Exchange Commission a registration statement under the Securities Act of 1933
(the "Securities Act") relating to any shares of our common stock or securities
convertible into or exchangeable or exercisable for any shares of our common
stock, or publicly disclose the intention to make any such offer, sale, pledge,
disposition or filing, without the prior written consent of Credit Suisse First
Boston Corporation for a period of 180 days after the date of this prospectus,
except issuances pursuant to the exercise of employee stock options outstanding
on the date hereof.
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<PAGE> 70
Our officers, directors and substantially all of our securityholders
have agreed that they will not offer, sell, contract to sell, pledge or
otherwise dispose of, directly or indirectly, any shares of our common stock or
securities convertible into or exchangeable or exercisable for any shares of our
common stock, enter into a transaction which would have the same effect, or
enter into any swap, hedge or other arrangement that transfers, in whole or in
part, any of the economic consequences of ownership of our common stock, whether
any of these transactions is to be settled by delivery of our common stock or
such other securities, in cash or otherwise, or publicly disclose the intention
to make any such offer, sale, pledge or disposition, or to enter into any such
transaction, swap, hedge or other arrangement, without, in each case, the prior
written consent of Credit Suisse First Boston Corporation for a period of 180
days after the date of this prospectus.
The underwriters have reserved for sale, at the initial public offering
price up to ______ shares of the common stock for employees, directors and
certain other persons associated with us who have expressed an interest in
purchasing common stock in the offering. The number of shares available for sale
to the general public in the offering will be reduced to the extent such persons
purchase such reserved shares. Any reserved shares not so purchased will be
offered by the underwriters to the general public on the same terms as the other
shares.
We have agreed to indemnify the underwriters against liabilities under
the Securities Act, or contribute to payments which the underwriters may be
required to make in that respect.
We have applied to list the shares of common stock on The Nasdaq Stock
Market's National Market under the symbol "EBKS."
In connection with the offering the underwriters may engage in
stabilizing transactions, over-allotment transactions, syndicate covering
transactions and penalty bids in accordance with Regulation M under the
Securities Exchange Act of 1934 (the "Exchange Act").
o Stabilizing transactions permit bids to purchase the underlying
security so long as the stabilizing bids do not exceed a
specified maximum.
o Over-allotment involves sales by the underwriters of shares in
excess of the number of shares the underwriters are obligated to
purchase, which creates a syndicate short position. The short
position may be either a covered short position or a naked short
position. In a covered short position, the number of shares
over-allotted by the underwriters is not greater than the number
of shares that they may purchase in the over-allotment option. In
a naked short position, the number of shares involved is greater
than the number of shares in the over-allotment option. The
underwriters may close out any short position by either
exercising their over-allotment option and/or purchasing shares
in the open market.
o Syndicate covering transactions involve purchases of the common
stock in the open market after the distribution has been
completed in order to cover syndicate short positions. In
determining the source of shares to close out the short position,
the underwriters will consider, among other things, the price of
shares available for purchase in the open market as compared to
the price at which they may purchase shares through the
over-allotment option. If the underwriters sell more shares than
could be covered by the over-allotment option--a naked short
position--that position can only be closed out by buying shares
in the open market. A naked short position is more likely to be
created if the underwriters are concerned that there may be
downward pressure on the price of the shares in the open market
after pricing that could adversely affect investors who purchase
in the offering.
o Penalty bids permit the representatives to reclaim a selling
concession from a syndicate member when the common stock
originally sold by the syndicate member is purchased in a
stabilizing or syndicate covering transaction to cover syndicate
short positions.
These stabilizing transactions, syndicate covering transactions and
penalty bids may have the effect of raising or maintaining the market price of
the common stock or preventing or retarding a decline in the market price of the
common stock. As a result the price of the common stock may be higher than the
price that might otherwise exist in the open market. These transactions may be
effected on The Nasdaq National Market or otherwise and, if commenced, may be
discontinued at any time.
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<PAGE> 71
A prospectus in electronic format may be made available on the Web
sites maintained by one or more of the underwriters participating in this
offering. The representatives may agree to allocate a number of shares to
underwriters for sale to their online brokerage account holders. Internet
distributions will be allocated by the underwriters that will make internet
distributions on the same basis as other allocations.
NOTICE TO CANADIAN RESIDENTS
RESALE RESTRICTIONS
The distribution of the common stock in Canada is being made only on a
private placement basis exempt from the requirement that we prepare and file a
prospectus with the securities regulatory authorities in each province where
trades of common stock are effected. Accordingly, any resale of the common stock
in Canada must be made in accordance with applicable securities laws which will
vary depending on the relevant jurisdiction, and which may require resales to be
made in accordance with available statutory exemptions or pursuant to a
discretionary exemption granted by the applicable Canadian securities regulatory
authority. Purchasers are advised to seek legal advice prior to any resale of
the common stock.
REPRESENTATIONS OF PURCHASERS
Each purchaser of common stock in Canada who receives a purchase
confirmation will be deemed to represent to us and the dealer from whom such
purchase confirmation is received that (i) such purchaser is entitled under
applicable provincial securities laws to purchase such common stock without the
benefit of a prospectus qualified under such securities laws, (ii) where
required by law, that such purchaser is purchasing as principal and not as
agent, and (iii) such purchaser has reviewed the text above under "Resale
Restrictions."
RIGHTS OF ACTION (ONTARIO PURCHASERS)
The securities being offered are those of a foreign issuer and Ontario
purchasers will not receive the contractual right of action prescribed by
Ontario securities law. As a result, Ontario purchasers must rely on other
remedies that may be available, including common law rights of action for
damages or rescission or rights of action under the civil liability provisions
of the United States federal securities laws.
ENFORCEMENT OF LEGAL RIGHTS
All of the issuer's directors and officers as well as the experts named
herein may be located outside of Canada and, as a result, it may not be possible
for Canadian purchasers to effect service of process within Canada upon the
issuer or such persons. All or a substantial portion of the assets of the issuer
and such persons may be located outside of Canada and, as a result, it may not
be possible to satisfy a judgment against the issuer or such persons in Canada
or to enforce a judgment obtained in Canadian courts against such issuer or
persons outside of Canada.
NOTICE TO BRITISH COLUMBIA RESIDENTS
A purchaser of common stock to whom the Securities Act (British
Columbia) applies is advised that such purchaser is required to file with the
British Columbia Securities Commission a report within ten days of the sale of
any common stock acquired by such purchaser pursuant to this offering. Such
report must be in the form attached to British Columbia Securities Commission
Blanket Order BOR #95/17, a copy of which may be obtained from us. Only one such
report must be filed in respect of common stock acquired on the same date and
under the same prospectus exemption.
TAXATION AND ELIGIBILITY FOR INVESTMENT
Canadian purchasers of common stock should consult their own legal and
tax advisors with respect to the tax consequences of an investment in the common
stock in their particular circumstances and with respect to the eligibility of
the common stock for investment by the purchaser under relevant Canadian
legislation.
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<PAGE> 72
LEGAL MATTERS
The validity of the shares of common stock offered in this prospectus
will be passed upon for us by Hogan & Hartson L.L.P., Boulder, Colorado. Legal
matters relating to the sale of common stock in this offering will be passed
upon for the underwriters by Wilson Sonsini Goodrich & Rosati, Professional
Corporation, Palo Alto, California.
EXPERTS
The financial statements of netLibrary, Inc. as of March 31, 1999 and
December 31, 1999, and for the period from June 5, 1998 (date of inception)
through March 31, 1999, and for the nine months ended December 31, 1999,
included in this prospectus, have been audited by Deloitte & Touche LLP,
independent auditors, as stated in their report appearing herein, and have been
so included in reliance upon the report of such firm given upon their authority
as experts in accounting and auditing.
The financial statements of peanutpress, Inc. as of December 31, 1999
and for the year then ended, included in this prospectus, have been audited by
Deloitte & Touche LLP, independent auditors, as stated in their report appearing
herein, and have been so included in reliance upon the report of such firm given
upon their authority as experts in accounting and auditing.
CHANGE IN ACCOUNTANTS
Effective December 28, 1999, Deloitte & Touche LLP was engaged as our
independent accountants and replaced PricewaterhouseCoopers LLP, who were
dismissed as our independent accountants. The decision to change independent
accountants was approved by our Board of Directors. PricewaterhouseCoopers LLP
reported on our financial statements for the period from inception through March
31, 1999. The report of PricewaterhouseCoopers LLP on those financial statements
did not contain an adverse opinion or disclaimer of opinion and was not
qualified or modified as to uncertainty, audit scope or accounting principles.
In connection with their audit through March 31, 1999 and through December 28,
1999, we did not have any disagreements with PricewaterhouseCoopers LLP on any
matter of accounting principles or practices, financial statement disclosure, or
auditing scope or procedures, which disagreements, if not resolved to their
satisfaction, would have caused them to make reference thereto in connection
with their report on the financial statements for such period.
PricewaterhouseCoopers LLP has not audited or reported on any financial
statements or information included in this prospectus. For purposes of this
filing, the financial statements for the period ended March 31, 1999 and
December 31, 1999 have been audited by Deloitte & Touche LLP. Prior to December
28, 1999, we had not consulted with Deloitte & Touche LLP on items that involved
our accounting principles or the form of audit opinion to be issued on our
financial statements.
WHERE YOU CAN FIND MORE INFORMATION
We have filed with the SEC a registration statement on Form S-1,
including amendments to it, relating to the common stock offered by us. This
prospectus does not contain all of the information in the registration statement
and its exhibits and schedules. For further information with respect to our
company and our common stock, you should review the registration statement and
its exhibits and schedules. You may inspect a copy of the registration statement
and the exhibits and schedules to the registration statement without charge at
the SEC's principal office in Washington, D.C. You may obtain copies of all or
any part of the registration statement from the Public Reference Section of the
SEC, 450 Fifth Street, N.W., Washington, D.C. 20549, the New York Regional
Office located at Seven World Trade Center, New York, New York 10048, and the
Chicago Regional Office located at Northwestern Atrium Center, 500 West Madison
Street, Suite 1400, Chicago, Illinois 60661, upon payment of fees prescribed by
the SEC. You may obtain information on the operation of the Public Reference
Room by calling the SEC at 1-800-SEC-0330. The SEC maintains a Web site that
contains reports, proxy and information statements and other information
regarding companies that file electronically with the SEC. The address of the
SEC's Web site is www.sec.gov.
We intend to furnish our stockholders with annual reports containing
audited financial statements certified by our independent auditors.
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<PAGE> 73
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
NETLIBRARY, INC.:
Independent Auditors' Report.............................. F-2
Consolidated Balance Sheets............................... F-3
Consolidated Statements of Operations..................... F-4
Consolidated Statements of Stockholders' Deficit.......... F-5
Consolidated Statements of Cash Flows..................... F-6
Notes to Consolidated Financial Statements................ F-7
PEANUTPRESS.COM, INC.:
Independent Auditors' Report.............................. F-22
Balance Sheet............................................. F-23
Statement of Operations................................... F-24
Statement of Stockholders' Deficit........................ F-25
Statement of Cash Flows................................... F-26
Notes to Financial Statements............................. F-27
PRO FORMA CONDENSED COMBINING FINANCIAL INFORMATION
(UNAUDITED):
Pro Forma Condensed Combining Balance Sheets.............. F-33
Pro Forma Condensed Combining Statements of Operations.... F-34
Notes to Pro Forma Condensed Combining Financial
Statements............................................. F-36
</TABLE>
F-1
<PAGE> 74
INDEPENDENT AUDITORS' REPORT
Board of Directors and Stockholders
of netLibrary, Inc.
Boulder, Colorado
We have audited the accompanying balance sheets of netLibrary, Inc. as of
December 31, 1999 and March 31, 1999, and the related statements of operations,
stockholders' deficit, and cash flows for the nine months ended December 31,
1999, and for the period from June 5, 1998 (date of inception) through March 31,
1999. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, such financial statements present fairly, in all material
respects, the financial position of netLibrary, Inc. as of December 31, 1999 and
March 31, 1999, and the results of its operations and its cash flows for the
periods then ended, in conformity with accounting principles generally accepted
in the United States of America.
March 16, 2000, except for Note 12, as to which the date is March 29, 2000
Denver, Colorado
F-2
<PAGE> 75
netLIBRARY, INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
PRO FORMA
MARCH 31, DECEMBER 31, JUNE 30, JUNE 30,
1999 1999 2000 2000
--------- ------------ ----------- ----------
(UNAUDITED) (NOTE 1 --
UNAUDITED)
<S> <C> <C> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents............................ $ 1,731 $ 74,321 $ 44,195 $ --
Restricted investment................................ -- -- 240 --
Accounts receivable.................................. 3 352 2,442 --
Deposits and prepaid expenses........................ 57 1,072 3,371 --
------- -------- -------- --------
Total current assets.......................... 1,791 75,745 50,248 --
Property and equipment, net............................ 1,913 6,559 10,522 --
Capitalized and in-process electronic book production
costs, net of accumulated amortization of $0, $552
and $2,130 (unaudited), respectively................. 556 4,867 11,485 --
Intangible assets, net of accumulated amortization of
$33, $69 and $2,576 (unaudited), respectively........ 185 148 27,707 --
Restricted investments................................. -- 1,200 2,160 --
Other assets........................................... -- 475 868 --
------- -------- -------- --------
TOTAL......................................... $ 4,445 $ 88,994 $102,990 $ --
======= ======== ======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES:
Current portion of long-term debt.................... $ 417 $ 1,079 $ 253 $ --
Accounts payable..................................... 1,084 2,823 6,745 --
Accrued payroll and benefits......................... 334 1,652 2,265 --
Other accrued liabilities............................ 222 550 1,810 --
Deferred revenues and customer deposits.............. -- 988 491 --
------- -------- -------- --------
Total current liabilities..................... 2,057 7,092 11,564 --
NONCURRENT LIABILITIES:
Long-term debt....................................... 1,246 2,227 189 --
Deferred revenues.................................... -- 519 1,147 --
------- -------- -------- --------
Total liabilities............................. 3,303 9,838 12,900 --
------- -------- -------- --------
COMMITMENTS AND CONTINGENCIES
REDEEMABLE SERIES A, B, C AND D PREFERRED
STOCK -- $0.001 par value; 5,250,000, 17,905,000,
19,829,750 and shares authorized,
respectively; 5,225,000, 17,759,929 and 18,768,286
(unaudited) shares issued and outstanding,
respectively......................................... 5,171 105,057 128,290 --
STOCKHOLDERS' EQUITY (DEFICIT):
Common stock, $0.001 par value; 10,325,000, 35,000,000,
35,000,000 and shares authorized,
respectively; 3,258,499, 3,490,133, 5,396,401
(unaudited) and 24,589,015 (unaudited) shares issued
and outstanding, respectively........................ 3 3 5 25
Additional paid-in capital........................... 888 2,283 16,395 152,165
Deferred compensation................................ (646) (4,261) (4,844) (4,844)
Accumulated deficit.................................. (4,274) (23,926) (49,756) (49,756)
------- -------- -------- --------
Total stockholders' equity (deficit).......... (4,029) (25,901) (38,200) 97,590
------- -------- -------- --------
TOTAL......................................... $ 4,445 $ 88,994 $102,990 $ 97,590
======= ======== ======== ========
</TABLE>
See accompanying notes to financial statements.
F-3
<PAGE> 76
netLIBRARY, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
PERIOD FROM
JUNE 5, 1998
(DATE OF
INCEPTION) NINE MONTHS FOR THE SIX MONTHS ENDED
THROUGH ENDED JUNE 30,
MARCH 31, DECEMBER 31, -------------------------
1999 1999 1999 2000
------------ ------------ ----------- -----------
(UNAUDITED)
<S> <C> <C> <C> <C>
REVENUE:
Sale of electronic books titles................... $ -- $ -- $ -- $ 3,705
Service fees...................................... -- 141 10 284
Other............................................. 18 16 11 275
------- -------- ------- --------
Total net revenue.......................... 18 157 21 4,264
------- -------- ------- --------
COSTS AND EXPENSES:
Cost of publisher rights and electronic book
production (including amortization of
capitalized electronic book production costs)... 410 1,890 363 4,486
Sales and marketing............................... 982 10,560 1,415 12,623
Research and development and Web site
operations...................................... 780 2,833 1,098 3,885
General and administrative........................ 1,667 4,230 1,771 5,983
Depreciation and amortization..................... 342 905 470 4,042
Stock-based compensation expense*................. 136 563 177 767
------- -------- ------- --------
Total costs and expenses................... 4,317 20,981 5,294 31,786
------- -------- ------- --------
LOSS FROM OPERATIONS................................ (4,299) (20,824) (5,273) (27,522)
OTHER INCOME (EXPENSE):
Interest income................................... 54 1,335 164 1,993
Interest expense.................................. (29) (163) (60) (91)
------- -------- ------- --------
Total other income......................... 25 1,172 104 1,902
------- -------- ------- --------
NET LOSS BEFORE EXTRAORDINARY ITEM.................. (4,274) (19,652) (5,169) (25,620)
EXTRAORDINARY LOSS ON EARLY EXTINGUISHMENT OF
DEBT.............................................. -- -- -- (210)
------- -------- ------- --------
NET LOSS AFTER EXTRAORDINARY ITEM................... (4,274) (19,652) (5,169) (25,830)
CUMULATIVE DIVIDENDS ON REDEEMABLE PREFERRED
STOCK............................................. -- 3,039 301 5,522
------- -------- ------- --------
NET LOSS ATTRIBUTABLE TO COMMON STOCK............... $(4,274) $(22,691) $(5,470) $(31,352)
======= ======== ======= ========
Basic and diluted loss per share:
Net loss before extraordinary item................ $ (3.18) $ (8.47) $ (2.99) $ (6.32)
Extraordinary loss on early extinguishment of
debt............................................ $ -- $ -- $ -- $ (0.05)
Net loss attributable to common stock............. $ (3.18) $ (9.78) $ (3.16) $ (7.74)
SHARES USED IN COMPUTATION, BASIC AND DILUTED....... 1,345 2,320 1,729 4,053
======= ======== ======= ========
Pro forma basic and diluted loss per share (note
1 -- unaudited)................................. $ (1.33) $ (1.14)
Shares used in pro forma basic and diluted loss
per share (note 1 -- unaudited)................. 14,787 22,594
-------- --------
* Stock-based compensation expense:
Cost of publisher rights and electronic book
production...................................... $ 8 $ 40 $ 12 $ 59
Sales and marketing............................... 7 83 16 193
Research and development and Web site
operations...................................... 8 48 14 84
General and administrative........................ 113 392 135 431
------- -------- ------- --------
$ 136 $ 563 $ 177 $ 767
======= ======== ======= ========
</TABLE>
See accompanying notes to financial statements.
F-4
<PAGE> 77
netLIBRARY, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' DEFICIT
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
<TABLE>
<CAPTION>
COMMON STOCK ADDITIONAL
--------------------- PAID-IN DEFERRED ACCUMULATED
SHARES AMOUNT CAPITAL COMPENSATION DEFICIT TOTAL
------------ ------ ---------- ------------ ----------- --------
<S> <C> <C> <C> <C> <C> <C>
Balance, June 5, 1998 (date of
inception)................... -- $-- $ -- $ -- $ -- $ --
Common stock issued at
inception to founders..... 3,120,000 3 306 (214) -- 95
Exercise of stock options.... 138,499 -- 14 -- -- 14
Stock-based compensation
arrangements.............. -- -- 568 (568) -- --
Amortization of deferred
compensation.............. -- -- -- 136 -- 136
Net loss..................... -- -- -- -- (4,274) (4,274)
--------- --- ------- ------- -------- --------
Balance, March 31, 1999........ 3,258,499 3 888 (646) (4,274) (4,029)
Exercise of stock options.... 246,634 -- 45 -- -- 45
Stock-based compensation
arrangements.............. -- -- 4,178 (4,143) -- 35
Issuance of warrants with
debt...................... -- -- 219 -- -- 219
Amortization of deferred
compensation.............. -- -- -- 528 -- 528
Repurchase of common stock,
at cost................... (15,000) -- (8) -- -- (8)
Net loss..................... -- -- -- -- (19,652) (19,652)
Cumulative dividend on
redeemable preferred
stock..................... -- -- (3,039) -- -- (3,039)
--------- --- ------- ------- -------- --------
Balance, December 31, 1999..... 3,490,133 3 2,283 (4,261) (23,926) (25,901)
Equity issued for business
acquisitions
(unaudited)............... 698,874 1 18,068 -- -- 18,069
Common stock issued
(unaudited)............... 50,000 -- -- -- -- --
Exercise of stock options
(unaudited)............... 1,161,689 1 231 -- -- 232
Stock-based compensation
arrangements
(unaudited)............... -- -- 1,350 (1,350) -- --
Amortization of deferred
compensation
(unaudited)............... -- -- -- 767 -- 767
Repurchase of common stock
(unaudited)............... (4,295) -- (15) -- -- (15)
Net loss (unaudited)......... -- -- -- -- (25,830) (25,830)
Cumulative dividends on
redeemable preferred stock
(unaudited)............... -- -- (5,522) -- -- (5,522)
--------- --- ------- ------- -------- --------
Balance, June 30, 2000
(unaudited).................. 5,396,401 $ 5 $16,395 $(4,844) $(49,756) $(38,200)
========= === ======= ======= ======== ========
</TABLE>
See accompanying notes to financial statements.
F-5
<PAGE> 78
netLIBRARY, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
PERIOD FROM
JUNE 5,
1998
(DATE OF FOR THE SIX MONTHS
INCEPTION) NINE MONTHS ENDED
THROUGH ENDED -----------------------
MARCH 31, DECEMBER 31, JUNE 30, JUNE 30,
1999 1999 1999 2000
----------- ------------ ---------- ----------
(UNAUDITED)
<S> <C> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss.................................................. $(4,274) $(19,652) $(5,169) $(25,830)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation and amortization........................... 342 1,450 577 5,465
Purchased in-process research and development........... -- -- -- 294
Stock-based compensation................................ 136 563 177 767
Extraordinary loss on early extinguishment of debt...... -- -- -- 210
Non-cash consulting expense............................. 12 -- 12 --
Non-cash interest expense............................... -- 19 4 11
Changes in assets and liabilities:
Accounts receivable................................... (3) (349) (157) (2,073)
Deposits and prepaid expenses......................... (57) (1,015) (547) (2,266)
Other assets.......................................... -- (475) 6 (379)
Accounts payable...................................... 1,084 1,739 567 3,921
Other accrued liabilities............................. 556 1,646 1,204 1,570
Customer deposits and deferred revenue................ -- 1,507 255 134
------- -------- ------- --------
Net cash used in operating activities............... (2,204) (14,567) (3,071) (18,176)
------- -------- ------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment....................... (2,057) (5,508) (1,800) (5,207)
Capitalization of electronic book production costs........ (556) (4,862) (1,770) (8,171)
Purchase of restricted investments........................ -- (1,200) -- (1,200)
Cash paid for assets at date of inception................. (300) -- -- --
Cash paid for business acquisitions, net of cash
acquired................................................ -- -- -- (1,109)
------- -------- ------- --------
Net cash used in investing activities............... (2,913) (11,570) (3,570) (15,687)
------- -------- ------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of preferred stock, net of issuance
costs................................................... 5,154 96,847 26,923 7,790
Proceeds from issuance of common stock.................... 14 45 59 232
Repurchase of common stock................................ -- (8) (8) (15)
Proceeds from long-term debt.............................. 1,840 2,120 1,396 1,400
Repayment of long-term debt............................... (160) (277) (106) (4,485)
Repayment of acquired loan................................ -- -- -- (1,185)
------- -------- ------- --------
Net cash provided by financing activities........... 6,848 98,727 28,264 3,737
------- -------- ------- --------
</TABLE>
<TABLE>
<CAPTION>
NET INCREASE (DECREASE) IN CASH AND CASH
<S> <C> <C> <C> <C>
EQUIVALENTS............................................... 1,731 72,590 21,623 (30,126)
CASH AND CASH EQUIVALENTS, BEGINNING OF
PERIOD.................................................... -- 1,731 1,117 74,321
------- -------- ------- --------
CASH AND CASH EQUIVALENTS, END OF PERIOD.................... $ 1,731 $ 74,321 $22,740 $ 44,195
======= ======== ======= ========
SUPPLEMENTAL DISCLOSURE, INCLUDING NON-CASH
INVESTING AND FINANCING TRANSACTIONS:
Interest paid............................................. $ 23 $ 115 $ 59 $ 77
Stock warrants issued with long-term debt................. 17 219 -- --
Common stock issued for assets and services at
inception............................................... 248 -- -- --
Common stock and stock options issued for business
acquisitions............................................ -- -- -- 18,069
Preferred stock issued for business acquisitions.......... -- -- -- 9,923
Cumulative dividends on redeemable preferred stock........ -- 3,039 301 5,522
Deferred compensation forfeited due to terminations....... 178 135 163 292
Liabilities assumed in business acquisition............... -- -- -- 1,185
</TABLE>
See accompanying notes to financial statements.
F-6
<PAGE> 79
netLIBRARY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE PERIOD FROM JUNE 5, 1998 (DATE OF INCEPTION) THROUGH
MARCH 31, 1999, FOR THE NINE MONTHS ENDED DECEMBER 31, 1999, AND
FOR THE SIX MONTHS ENDED JUNE 30, 1999 (UNAUDITED) AND
JUNE 30, 2000 (UNAUDITED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BUSINESS -- netLibrary, Inc. (formerly staX netLibrary, Inc. and
Interactive Knowledge, Inc.) (the "Company" or "netLibrary") was incorporated in
Delaware on June 5, 1998. netLibrary creates, maintains and sells a collection
of electronic books ("eBooks"). The Company has developed a proprietary
production process for converting published hardcopy books to netLibrary's eBook
format. These eBooks are sold to netLibrary's institutional and individual
customers who may contract with netLibrary to manage their collections on
netLibrary's library architecture that provides anytime, anywhere access to an
Internet-based electronic library. netLibrary's eBooks are device agnostic and
can be downloaded to different reader devices and reader software products.
The Company was in the development stage until May 1999 when it commenced
its initial sales focus in the institutional (academic, K-12, corporate and
public libraries) markets. Through March 31, 1999, the Company's fiscal year end
was March 31; effective April 1, 1999, the Company changed its fiscal year end
to December 31.
UNAUDITED INTERIM FINANCIAL INFORMATION -- The balance sheet at June 30,
2000, the statements of operations and cash flows for the six months ended June
30, 1999 and June 30, 2000 and the statement of stockholders' deficit for the
six months ended June 30, 2000 are unaudited and have been prepared in
accordance with generally accepted accounting principles. In the opinion of
management, all adjustments, consisting only of normal recurring adjustments,
considered necessary to fairly present the interim financial information, have
been made. The results of operations for interim periods are not necessarily
indicative of the operating results of a full year or of future years.
UNAUDITED PRO FORMA INFORMATION -- The unaudited pro forma balance sheet
information as of June 30, 2000 assumes (i) the issuance of 424,328 shares of
Series D preferred stock at $17.67 per share in July 2000; and (ii) that the
conversion of each share of redeemable preferred stock (Note 6) to one share of
common stock upon consummation of an initial public offering had actually
occurred at June 30, 2000. Estimated proceeds from the common stock to be issued
as a result of such initial public offering are excluded.
UNAUDITED PRO FORMA NET LOSS PER COMMON SHARE -- Pro Forma basic and
diluted loss per common share is computed by dividing loss attributable to
common stockholders, excluding cumulative dividends on redeemable preferred
stock, by the weighted average number of common stock outstanding for the period
and the weighted average number of shares of common stock resulting from the
assumed conversion of outstanding shares of redeemable preferred stock. The
unaudited pro forma net loss per common share information for the six months
ended June 30, 2000 also assumes the issuance and conversion of 424,328 shares
of Series D preferred stock issued by the Company in July 2000.
PRINCIPLES OF CONSOLIDATION -- The Company's balance sheets as of March 31,
1999 and December 31, 1999 and the related statements of operations,
stockholders' deficit, and cash flows for the three months ended March 31, 1999,
for the period from June 5, 1998 ("date of inception") through March 31, 1999
(hereafter referred to as "the period ended March 31, 1999") and the nine months
ended December 31, 1999 (hereafter referred to as "the period ended December 31,
1999") include the Company's accounts for such periods. The Company's balance
sheet as of June 30, 2000 and the related statements of operations,
stockholders' deficit, and cash flows for the six months ended June 30, 2000
include the Company's accounts and the accounts of peanutpress.com, Inc.
("peanutpress") from the date
F-7
<PAGE> 80
netLIBRARY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
of its acquisition (see Note 2). All material intercompany accounts and balances
have been eliminated as of and for the six months ended June 30, 2000.
LIQUIDITY -- The Company incurred net losses after extraordinary item of
$4,274,000, $19,652,000, $5,169,000 and $25,830,000 for the periods ended March
31, 1999, December 31, 1999 and the six months ended June 30, 1999 (unaudited)
and June 30, 2000 (unaudited), respectively, and had net cash outflows from
operations of $2,204,000, $14,567,000, $3,071,000 (unaudited) and $18,176,000
(unaudited), respectively. The Company had a stockholders' deficiency of
$25,901,000 at December 31, 1999, and $38,200,000 (unaudited) at June 30, 2000.
Management believes that cash on hand combined with other capital sources
available to the Company will be sufficient to meet the Company's minimum
obligations through December 31, 2000.
USE OF ESTIMATES -- The preparation of financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent liabilities, as well as the reported
amounts of revenue and expenses. Actual results could differ from these
estimates.
CERTAIN RISKS AND UNCERTAINTIES -- The Company operates in the Internet
industry and, accordingly, can be affected by a variety of factors. For example,
management of the Company believes that changes in any of the following areas
could have a significant negative effect on the Company's future financial
position, results of operations and cash flows:
- failure to generate sufficient revenue, or realize new revenue streams,
from the sale of eBooks and services;
- ability to obtain rights to eBook titles;
- increased acceptance of eBooks and the Company's ability to penetrate new
markets;
- dependence on publisher and other strategic relationships;
- dependence on institutional library customers;
- successfully competing against present and future competitors in the
eBook market;
- system failure or Internet service interruptions; and
- ability to attract and retain highly qualified technical, sales,
marketing and management personnel.
REVENUE RECOGNITION AND PAYMENTS TO PUBLISHERS -- The Company offers its
customers both eBooks and hosting and library management services. As of
December 31, 1999 the Company had not provided its customers with the option to
take physical delivery of eBooks. Beginning in March 2000, the Company's
customers were given the option to purchase electronic books in conjunction with
hosting and collection management services or to purchase and take physical
delivery of eBooks in CD-ROM format without hosting and collection management
services. The hosting and library management services are sold under contracts
providing for annual renewals or, for a prepaid fee, lifetime service. The
Company recognizes revenue for its agreements in accordance with the provisions
of the American Institute of Certified Public Accountant's ("AICPA") Statement
of Position ("SOP") 97-2, "Software Revenue Recognition," as amended by SOP
98-9.
When customers are not provided the option of taking delivery of the eBook
during the contract period, the Company defers the contract revenue for the
access to the eBooks and hosting and library management services and recognizes
the agreement fee ratably over the composite estimated useful life of its eBook
collection as service fees revenue. When the Company provides its customers with
the option to take physical delivery of the eBooks in CD-ROM format, the Company
recognizes the revenue for the sale
F-8
<PAGE> 81
netLIBRARY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
of the eBook at the time the customer has access to the eBook. Revenue from the
eBooks sale is recognized if collection of the resulting receivable is probable,
an executed agreement has been signed, the fee is fixed or determinable and
vendor-specific objective evidence exists to allocate a portion of the total fee
to any undelivered elements of the contract. Such undelivered elements in these
contracts consist of hosting and library management services. Vendor-specific
objective evidence is based on the price generally charged when an element is
sold separately, or if not yet sold separately, is established by authorized
management based on the price expected when the product is introduced to the
market separately. The related hosting and library management services
component, if applicable, is deferred and recognized over the composite
estimated useful life of the Company's eBook collection.
The Company is required to remit payments to publishers for each eBook
sale. When the Company does not offer the customer the option to take delivery,
payments made to publishers are deferred and amortized to operating expenses in
the same manner that revenue is recognized for these arrangements. Publisher
costs are expensed immediately when the Company provides its customers the
option to take physical delivery of the eBook.
FAIR VALUE OF FINANCIAL INSTRUMENTS -- The Company's financial instruments
include cash and cash equivalents, accounts receivable, accounts payable,
accrued liabilities and the current portion of long-term obligations. The
carrying amounts of these financial instruments approximate fair value due to
their short maturities. The carrying value of long-term obligations is
considered to be equal to its fair value due to the rates being equivalent to
market rates for the relative risks of the debt.
CASH AND CASH EQUIVALENTS -- The Company considers all highly liquid
investments purchased with original maturities of three months or less to be
cash equivalents.
PROPERTY AND EQUIPMENT -- Property and equipment are recorded at cost and
depreciated using the straight-line method over the shorter of the estimated
useful lives ranging from three to five years or the lease term. Maintenance and
repairs are expensed as incurred.
EBOOK PRODUCTION COSTS -- The Company capitalizes direct and indirect costs
related to the production, scanning, editing and quality control functions
related to the creation of the eBooks included in the Company's online library
and CD-ROM formats. Capitalized costs are amortized straight-line over 30
months, the composite estimated useful life of the Company's eBook collection,
beginning on the date the eBooks are placed into service on the Company's Web
site. Amortization expense related to capitalized eBook production costs was $0
and $552,000 for the periods ended March 31, 1999 and December 31, 1999,
respectively, and $107,000 and $1,578,000 for the six months ended June 30, 1999
(unaudited) and June 30, 2000 (unaudited), respectively.
SOFTWARE COSTS -- The Company accounts for costs of internal use software
in accordance with SOP 98-1, "Accounting for the Costs of Computer Software
Developed or Obtained for Internal Use." This standard requires companies to
capitalize qualifying computer software costs, which are principally incurred
during the application development stage, and amortize them over the software's
estimated useful life. The Company adopted SOP 98-1 effective April 1, 1999.
Prior to April 1, 1999, the Company generally expensed such costs with the
exception of certain purchased software.
IMPAIRMENT OF LONG-LIVED ASSETS -- Long-lived assets are reviewed for
impairment whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable. Recoverability is based on
future net cash flows from the use and ultimate disposition of the asset.
Management does not believe current events or circumstances indicate that its
long-lived assets, including intangible assets, are impaired, and as such, the
Company has recorded no adjustment for impairment to date.
F-9
<PAGE> 82
netLIBRARY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
INTANGIBLE ASSETS -- In connection with the issuance of bank debt and in
connection with the acquisition of certain assets from Infomaster CD-ROM, LLC
(Note 7), the Company recorded certain intangible assets. These assets are being
amortized on a straight-line method over the estimated useful lives ranging from
four to five years. Other intangible assets arising from business acquisitions,
(Note 2), are being amortized on a straight-line basis over the estimated useful
lives ranging from one to ten years.
INCOME TAXES -- The Company accounts for income taxes using the asset and
liability approach for financial accounting and reporting. Deferred income tax
assets and liabilities are computed for differences between the financial
statement basis and the income tax basis of assets and liabilities that will
result in taxable or deductible amounts in the future. Such deferred income tax
computations are based on enacted laws and rates applicable to the years in
which the differences are expected to affect taxable income. Deferred tax assets
are reduced by a valuation allowance if, based on the weight of the available
evidence, it is more likely than not that these benefits will not be realized.
COMPREHENSIVE INCOME -- For the periods presented, the Company's
comprehensive loss, as defined by Statement of Financial Accounting Standards
("SFAS") No. 130, "Reporting Comprehensive Income," is equal to its net loss.
SEGMENT REPORTING -- Effective June 5, 1998, the Company adopted SFAS No.
131, "Disclosures About Segments of an Enterprise and Related Information." For
the periods presented, the Company operated in a single reportable segment and
will evaluate additional segment disclosure requirements as it expands
operations (Note 11).
STOCK-BASED COMPENSATION -- The Company applies Accounting Principles Board
Opinion No. 25, "Accounting for Stock Issued to Employees," and related
interpretations in accounting for its stock option plan, and, accordingly, does
not recognize compensation cost for options granted to employees and directors
whose exercise price is equal to or exceeds the fair value of common stock as of
the grant date.
LOSS PER COMMON SHARE -- Basic loss per common share excludes dilution and
is computed by dividing loss applicable to common stockholders by the weighted
average number of common stock outstanding, less the weighted average number of
common stock subject to repurchase by the Company. Diluted loss per common share
reflects the potential dilution that could occur if securities or other
contracts to issue common stock (convertible preferred stock, warrants and
common stock options) were exercised or converted into common stock, unless
their effect would be antidilutive.
NEW ACCOUNTING PRONOUNCEMENT -- In June 1998, the Financial Accounting
Standards Board issued SFAS No. 133, "Accounting for Derivative Instruments and
Hedging Activities." SFAS No. 133 establishes accounting and reporting standards
requiring that all derivative instruments (including certain derivative
instruments embedded in other contracts) be recorded in the balance sheet as
either an asset or liability measured at its fair value. SFAS No. 133 requires
that changes in the derivative's fair value be recognized currently in earnings
unless specific hedge accounting criteria are met. The accounting provisions for
qualifying hedges allow gains and losses related to a hedged item recognized in
the income statement to be offset by the related derivative's gain and losses,
and requires the Company to formally document, designate and assess the
effectiveness of transactions that qualify for hedge accounting. As amended by
SFAS No. 137, "Accounting for Derivative Instruments and Hedging
Activities -- Deferral of the Effective Date of SFAS No. 133," the Company is
not required to adopt this statement until January 1, 2001. The Company has not
determined its method or timing of adopting this Statement nor the impact on its
financial statements. However, when adopted, this statement could increase
volatility in reported earnings and other comprehensive loss of the Company.
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin ("SAB") 101, "Revenue Recognition in Financial Statements,"
providing guidance with respect to revenue recognition issues and disclosures.
As amended by SAB 101B, the Company is not required to implement
F-10
<PAGE> 83
netLIBRARY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
SAB 101 until the fourth quarter of calendar year 2000. The Company believes
that the implementation of SAB 101 will not have a significant impact on its
financial statements.
2. BUSINESS COMBINATIONS
On February 22, 2000, the Company acquired all of the outstanding capital
stock of peanutpress, a Massachusetts-based electronic book provider focused on
delivering eBooks to users of handheld computing devices. The purchase price
paid, totaling $24,830,000, was comprised of cash of $1,730,000, 544,900 shares
of the Company's common stock valued at $9,631,000, 432,468 shares of Series D
preferred stock valued at $7,644,000, 323,897, options for the Company's common
stock valued at $5,725,000 and transaction costs of approximately $100,000. In
1999, peanutpress had net sales of $67,000 and a net loss of $539,000 and, as of
December 31, 1999, had total assets, principally comprised of $1,195,000 of
cash, equal to $1,350,000. The acquisition has been accounted for using the
purchase method of accounting and the Company has included the results of
peanutpress' operations in its consolidated results of operations from the
acquisition date.
The aggregate purchase price has been allocated to the assets and
liabilities acquired based on their fair value. The total consideration exceeded
the fair value of the net assets acquired by approximately $23,872,000, which
has been allocated to the following intangible assets:
<TABLE>
<CAPTION>
PERIOD OF
INTANGIBLE ASSET AMOUNT AMORTIZATION
---------------- ----------- ------------
<S> <C> <C>
In-process research and development......................... $ 294,000 N/A
Purchased technology........................................ 2,936,000 6 years
Assembled workforce......................................... 93,000 3 years
Noncompete agreements....................................... 3,298,000 1 year
Publisher relationship intangibles.......................... 12,098,000 8 years
Domain name................................................. 56,000 1.5 years
Goodwill.................................................... 5,097,000 10 years
-----------
Total....................................................... $23,872,000
===========
</TABLE>
The intangible assets were identified and valued by an independent
appraiser through extensive interviews and discussions with netLibrary and
peanutpress management and the analysis of data provided by peanutpress. The
in-process research and development represents technology that had not yet
reached technological feasibility and did not have alternative future uses. This
amount was charged to netLibrary's operations during the six month period ended
June 30, 2000. The in-process research and development technology was valued by
considering data relevant to developmental products, their respective stage of
development, the time and resources needed to complete them, their expected
income-generating ability, target markets and associated risks. The Income
Approach, which includes an analysis of the markets, cash flows, and risks
associated with achieving such cash flows, was the primary technique utilized in
valuing each in-process research and development projects. A portion of the
purchase price was allocated to the developmental projects based on the
appraised fair value of such projects.
On March 29, 2000, the Company acquired substantially all of the assets and
assumed substantially all of the liabilities of MetaText, Inc. ("MetaText"), a
Florida-based corporation that converts published content into a digital
textbook and provides students and professors with access to a digital version
through the MetaText Web site. The purchase price paid approximated $6,285,000,
including related transaction costs of approximately $100,000, and was comprised
of 153,974 shares of the Company's common stock valued at $2,722,000, 128,910
shares of Series D preferred stock valued at $2,278,000 and the assumption of
liabilities totalling approximately $1,185,000. The acquisition was accounted
for using the purchase
F-11
<PAGE> 84
netLIBRARY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
method of accounting and the Company has included the results of MetaText's
operations in its consolidated results of operations from the acquisition date.
The aggregate purchase price has been allocated to the assets and
liabilities acquired based on their fair value. The total consideration exceeded
the fair value of the net assets acquired by approximately $6,238,000, which has
been allocated to the following intangible assets:
<TABLE>
<CAPTION>
PERIOD OF
INTANGIBLE ASSET AMOUNT AMORTIZATION
---------------- ----------- ------------
(UNAUDITED)
<S> <C> <C>
Purchased technology........................................ $4,674,000 3.5 years
Assembled workforce......................................... 57,000 3 years
Noncompete agreements....................................... 1,388,000 2 years
Goodwill.................................................... 119,000 10 years
----------
Total....................................................... $6,238,000
==========
</TABLE>
The intangible assets acquired with the MetaText acquisition were
identified and valued by an independent appraiser through extensive interviews
and discussions with netLibrary and MetaText management and the analysis of data
provided by MetaText.
The following unaudited pro forma financial information has been prepared
as if the peanutpress and MetaText acquisitions were completed at the beginning
of the periods presented. The unaudited pro forma financial information is not
necessarily indicative of the operating results that might have occurred if the
transaction had been completed at such earlier dates or the operating results
that may occur in the future.
<TABLE>
<CAPTION>
NINE MONTHS SIX MONTHS
ENDED ENDED
DECEMBER 31, 1999 JUNE 30, 2000
----------------- -------------
(UNAUDITED, IN THOUSANDS,
EXCEPT PER SHARE AMOUNTS)
<S> <C> <C>
Revenues................................................ $ 224 $ 4,354
Loss from operations.................................... (28,747) (29,343)
Net loss before extraordinary item...................... (27,573) (27,436)
Net loss................................................ (27,573) (27,646)
Net loss available to common stock...................... (31,357) (33,334)
Basic and diluted loss per share........................ (10.39) (7.74)
</TABLE>
3. PROPERTY AND EQUIPMENT
Property and equipment consists of the following (in thousands):
<TABLE>
<CAPTION>
MARCH 31, DECEMBER 31, JUNE 30,
1999 1999 2000
--------- ------------ ------------
(UNAUDITED)
<S> <C> <C> <C>
Computer equipment................................ $1,492 $3,930 $ 6,386
Equipment......................................... -- 532 771
Office furniture.................................. 289 1,544 1,810
Internal use software............................. 328 1,169 2,689
Leasehold improvements............................ 20 462 1,318
------ ------ -------
2,129 7,637 12,974
Less: accumulated depreciation and amortization... 216 1,078 2,452
------ ------ -------
Property and equipment, net....................... $1,913 $6,559 $10,522
====== ====== =======
</TABLE>
F-12
<PAGE> 85
netLIBRARY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
4. LONG-TERM OBLIGATIONS
Long-term debt consists of the following (in thousands):
<TABLE>
<CAPTION>
MARCH 31, DECEMBER 31, JUNE 30,
1999 1999 2000
--------- ------------ ------------
(UNAUDITED)
<S> <C> <C> <C>
Long-term debt:
Bank line of credit facility.................... $1,000 $2,754 $ --
Term debt facility with a bank.................. 663 552 442
------ ------ ----
1,663 3,306 442
Less current maturities......................... 417 1,079 253
------ ------ ----
Long-term debt:................................... $1,246 $2,227 $189
====== ====== ====
</TABLE>
LINE OF CREDIT -- The Company had a line of credit totaling $5,500,000 with
a bank, bearing interest at the bank's prime rate plus 0.5% (9.0% at December
31, 1999). The Company had borrowings totaling $1,000,000, $2,967,000, and $0
outstanding under the facility as of March 31, 1999, December 31, 1999, and June
30, 2000, respectively. Borrowings under the line of credit were secured by all
assets of the Company, subordinated to the security interest on the equipment
collateralized under the term debt facility. Borrowings under the line of credit
were scheduled to expire in February 2002. On February 29, 2000, the Company
repaid and terminated, at its option, this line of credit facility. Total
payment, including principal and accrued interest, was $4,329,000. In addition,
the Company incurred an extraordinary charge of $210,000 related to the
accretion of the related debt to its maturity value that was originally recorded
at a discount due to the issuance of warrants to the bank for the purchase of
24,582 shares of the Company's common stock. The Company had $0 and $2,450,000
available under the line of credit as of March 31, 1999 and December 31, 1999,
respectively.
In connection with entering into the line of credit facility, the Company
issued warrants to acquire 24,582 shares of common stock. The warrants have an
exercise price of $3.6613 per share, are fully vested and expire in September
2004. The value assigned to the warrants, totaling $219,000, was recorded as
debt discount, which is being amortized to interest expense over the term of the
facility. The fair value was determined using a Black-Scholes model and was
calculated using a risk free interest rate of 6.0%, expected volatility of 100%
and a term of five years.
TERM DEBT FACILITY -- The Company also has a term debt facility for the
purchase of equipment with a separate bank. Under the term debt facility, which
expires in April 2002, the Company can draw up to a maximum of $750,000. Each
borrowing under the facility is repayable in 36 monthly installments and is
subject to a final payment equal to 5% of the borrowing. The term debt facility
bears interest at a weighted average rate of 8.13% and is collateralized by the
related equipment. As of March 31, 1999, December 31, 1999, and June 30, 2000,
the Company owed $680,000, $565,000 and $452,000 (unaudited) on the term debt
facility, respectively.
In connection with entering into the term debt facility, the Company issued
warrants to acquire 20,625 shares of Series A preferred stock. The warrants have
an exercise price of $1.00 per share, are fully vested and expire in March 2006.
The value assigned to the warrants, totaling $17,000, was recorded as debt
discount, which is being amortized to interest expense over the term of the
facility. The fair value was determined using a Black-Scholes model and was
calculated using a risk free interest rate of 5.3%, expected volatility of 100%
and a term of seven years.
Under the Company's borrowing arrangements, the Company is limited in its
ability to pay dividends, make investments, incur other indebtedness, or enter
into a business merger. Additionally, the Company
F-13
<PAGE> 86
netLIBRARY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
must maintain certain financial covenants, minimum liquidity and equity
requirements, with which it was in compliance as of December 31, 1999.
Aggregate annual maturities for long-term debt obligations outstanding as
of December 31, 1999 are as follows (in thousands):
<TABLE>
<S> <C>
YEAR ENDING DECEMBER 31:
2000........................................................ $1,079
2001........................................................ 1,409
2002........................................................ 920
2003........................................................ 124
2004........................................................ --
Thereafter.................................................. --
------
Total....................................................... $3,532
======
</TABLE>
5. COMMITMENTS AND CONTINGENCIES
The Company leases its office space and certain office equipment under
non-cancelable operating leases. Most of the leases contain purchase and/or
various term renewal options at fair market and fair rental values,
respectively. In most cases, management expects that, in the normal course of
business, leases will be renewed or replaced by other leases. At December 31,
1999, future minimum annual payments under noncancelable operating leases having
an initial or remaining term in excess of one year are as follows (in
thousands):
<TABLE>
<S> <C>
2000........................................................ $ 1,559
2001........................................................ 1,766
2002........................................................ 1,797
2003........................................................ 1,893
2004........................................................ 1,895
2005 and thereafter......................................... 3,268
-------
Total....................................................... $12,178
=======
</TABLE>
Rent expense totaled $213,000 and $958,000 for the periods ended March 31,
1999 and December 31, 1999, respectively, and $231,000 (unaudited) and $914,000
(unaudited) for the six months ended June 30, 1999 and June 30, 2000,
respectively.
As of December 31, 1999, the Company has a certificate of deposit in the
amount of $1,200,000 pledged to a bank for a stand-by letter of credit issued by
a bank that serves as collateral for a lease that the Company has for its
corporate offices and production facilities. During the six months ended June
30, 2000 the Company purchased a certificate of deposit in the amount of
$1,200,000 pledged to a bank for a stand-by letter of credit issued by a bank
that serves as collateral for a lease commitment commencing during the period.
The Company is involved in various litigation matters in the normal course
of its operations. Management does not believe that the ultimate outcome of
these matters will have a material adverse effect on the financial statements of
the Company.
6. REDEEMABLE PREFERRED STOCK
Pursuant to its certificate of incorporation, as amended February 18, 2000,
the Company is authorized to issue up to 35,000,000 shares of common stock with
a par value of $.001 and 19,829,750 shares of
F-14
<PAGE> 87
netLIBRARY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
preferred stock with a par value of $.001 per share comprised of 5,250,000,
6,828,176, 5,726,574 and 2,025,000 shares, respectively, of Series A, Series B,
Series C and Series D (collectively referred to as "Series Preferred").
SERIES A -- In August 1998 and January 1999 the Company issued 3,075,000
and 2,150,000 shares, respectively, of $.001 par value redeemable convertible
Series A preferred stock at $1.00 per share. In connection with the Series A
preferred stock offering, the Company issued warrants to acquire 33,325 shares
of the Company's common stock and paid $71,000 in issuance costs. The warrants
have an exercise price of $1.20 per share and expire in January 2004. No value
was recorded for the warrants because the exercise price exceeded the deemed
fair value as determined using the Black Scholes model.
SERIES B -- In May 1999 the Company issued 6,828,176 shares of $.001 par
value redeemable convertible Series B preferred stock at $3.6613 per share. In
connection with the Series B preferred stock offering, the Company paid $67,000
in issuance costs.
SERIES C -- In October 1999, December 1999, and January 2000 the Company
issued 5,449,081, 257,672 and 19,821 shares, respectively, of $.001 par value
redeemable convertible Series C preferred stock at $12.613 per share. In
connection with the Series C preferred stock offering, the Company paid $65,000
in issuance costs.
SERIES D -- In January 2000, the Company issued 424,329 shares of $.001 par
value redeemable convertible Series D preferred stock at $17.675 per share. In
March 2000, the Company issued 2,829 additional shares of the Series D preferred
stock at $17.675 per share. In February 2000 and March 2000, the Company issued
a total of 561,378 additional shares of the Series D preferred stock as a
portion of the consideration related to its acquisition of peanutpress and
MetaText (see Note 2). In July 2000, the Company issued 424,328 additional
shares of the Series D Preferred Stock at $17.675 per share (unaudited).
CONVERSION -- Each share of Series Preferred may, at the option of the
holder, be converted in whole or in part at any time into fully paid and
nonassessable shares of the Company's common stock. The conversion rate in
effect at any time is the quotient obtained by dividing the original issue price
for Series Preferred by the applicable conversion price. The conversion rate is
subject to adjustment to avoid dilution of the Series Preferred. At December 31,
1999 and June 30, 2000, the conversion rate for Series Preferred to common stock
is one-to-one.
Each share of Series Preferred shall automatically be converted into shares
of common stock, based on the then-effective conversion price (i) at any time
upon the affirmative election of the holders of at least two-thirds of the then
outstanding shares of Series A, Series B, Series C, and Series D, each voting as
a separate class, or (ii) immediately upon the closing of a firmly underwritten
public offering pursuant to an effective registration statement under the
Securities Act of 1933, as amended, covering the offer and sale of the Company's
common stock for the account of the Company in which (a) the per share price is
at least $20.00 prior to July 1, 2000, at least $25.00 from July 1, 2000 through
October 31, 2000 and $30.00 subsequent to October 31, 2000, (b) the gross cash
proceeds to the Company are at least $30,000,000, and (c) the Company's common
stock is listed on a national securities exchange or on The Nasdaq National
Market System of The Nasdaq Stock Market.
LIQUIDATION RIGHTS -- Upon any liquidation, dissolution, merger, or winding
up of the Company, (i) before any distribution or payment is made to the holders
of Series A or common stockholders, the holders of Series B, Series C and Series
D are entitled to an amount per share equal to the original issue price ("Series
B Liquidation Value," "Series C Liquidation Value" or "Series D Liquidation
Value") for each Series, (ii) after the payment in full of the Liquidation
Values to Series B, Series C and Series D, holders of Series A are entitled an
amount per share equal to the original issuance price for Series A ("Series A
Liquidation Value"), (iii) after payment of Series A, Series B, Series C and
Series D
F-15
<PAGE> 88
netLIBRARY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Liquidation Values and before any distribution or payment to common
stockholders, the holders of Series B, Series C, and Series D are entitled to
all accrued but unpaid dividends on their respective Series, (iv) after payments
required by (i) -- (iii) above, holders of Series A are entitled to all declared
but unpaid dividends on Series A, and (v) after payments required by (i) -- (iv)
above, the Company's assets legally available for distribution, if any, shall be
distributed ratably to the holders of Series Preferred and common stockholders
on an as-if converted to common stock basis.
REDEMPTION -- The Company is obligated to redeem Series Preferred as
follows: (i) the holders of at least two-thirds of the then outstanding shares
of Series A, voting as a separate class, may require the Company to redeem all
outstanding Series A shares in eight quarterly installments beginning on May 17,
2004, subject to a six month notice prior to the first redemption date, and not
prior to the full redemption of Series B, Series C, and Series D, and (ii) the
holders of at least two-thirds of the then outstanding shares of Series B,
Series C, and Series D, each voting as a separate class, may require the Company
to redeem all outstanding Series B, Series C, and Series D shares in one
installment at any time beginning May 17, 2004, subject to a six month notice
prior to the redemption date and subject to agreement by the Company's board of
directors which has the right to defer the lump sum payments into three equal
consecutive annual installments beginning on May 17, 2004. If the holders of
Series B, Series C, and Series D require the Company to redeem their shares, the
redemptions will be made by allocating each redemption payment amount to the
holders of Series B, Series C, and Series D ratably in proportion to the full
amounts to which they are entitled on redemption. The redemption price is equal
to: (i) Series A Liquidation Value plus declared and unpaid dividends, and (ii)
Series B, Series C, and Series D Liquidation Value plus accrued and unpaid
dividends.
VOTING RIGHTS -- Series A, Series B, Series C, and Series D holders are
entitled to the same voting rights as common stockholders on an as-if converted
basis, except as described below. Series A, Series B and Series C holders have
the right to elect two, two, and one members of the Company's board of
directors, respectively. The affirmative vote of at least a majority of the
issued and outstanding Series Preferred, voting collectively, is necessary for
effecting or validating (i) any increase or decrease in the authorized number of
shares of common stock or preferred stock, (ii) any redemption, repurchase,
payment of dividends or other distributions with respect to common stock, (iii)
any amendment of the Company's certificate of incorporation or bylaws, (iv) any
change to the number of members of the board of directors, (v) any action that
results in the payment or declaration of any dividend on any shares of common or
preferred stock, (vi) any action that provides for a transaction with a related
party or ten percent (10%) stockholder of the Company, (vii) any increase in the
number of shares of common stock reserved for issuance under the Company's Stock
Option Plan above 5,021,666 shares or any action to enter into any new stock
option plans for directors, officers, employees or consultants of the Company,
or (viii) any action to dissolve, liquidate or wind up the Company.
For so long as at least 1,530,000 shares of Series A, 2,080,000 shares of
Series B, 1,680,000 shares of Series C and at least 30% of the originally issued
shares of Series D, all amounts subject to adjustment for any stock split,
reverse stock split or other similar event, remain outstanding, the affirmative
vote of at least two-thirds of the issued and outstanding Series Preferred,
voting separately by series, is necessary for authorizing, effecting or
validating (i) any amendment of any provision of the Company's certificate of
incorporation or bylaws relative to the holders' respective Series Preferred,
(ii) any authorization of any new class of or series of stock or any other
securities convertible into equity securities of the Company ranking on a parity
with or senior to the holders' respective Series Preferred, or (iii) any
agreement by the Company or its stockholders regarding an asset transfer or
acquisition, as defined. In addition, the affirmative vote of at least
two-thirds of issued and outstanding Series B, Series C and Series D shares,
voting as separate groups, is required prior to the Company entering into any
agreement that would restrict the Company's right to perform under the Series B,
Series C and Series D Preferred Stock Purchase Agreements dated May 17, 1999,
October 8, 1999 and January 18, 2000, respectively.
F-16
<PAGE> 89
netLIBRARY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
DIVIDEND RIGHTS -- Holders of Series B, Series C, and Series D, in
preference to Series A holders and common stockholders, are entitled to receive
cumulative cash dividends at the rate of 10% per annum until (i) the date on
which Series B, Series C, and Series D Liquidation Value is paid, (ii) the date
Series B, Series C, and Series D are converted to common stock, or (iii) the
date on which Series B, Series C, and Series D are otherwise acquired by the
Company. Series B, Series C, and Series D dividends accrue whether or not they
have been declared by the Company's board of directors and whether or not there
are profits, surplus or other funds of the Company legally available for the
payment of dividends. Series A holders, in preference to common stockholders,
are entitled to receive, when and as declared by the Company's board of
directors, but only out of funds that are legally available, cash dividends at
the rate of 10% of the Series A original issue price per annum on each
outstanding share of Series A. Upon conversion of the Series Preferred in
connection with a registered public offering resulting in gross cash proceeds to
the Company of at least $30 million and involving a price per share (as
adjusted) that is not less than a specified amount, accrued dividends on the
Series Preferred will be payable only to the extent they have been declared, and
the holders of the Series Preferred will not be entitled to any accrued and
undeclared dividends.
CARRYING VALUE -- Series Preferred were initially recorded at the total net
proceeds received by the Company upon issuance. The Company adjusts the carrying
value of Series Preferred to accrete up to liquidation value, which is primarily
due to the dividend rights for the holders of Series B, Series C, and Series D.
During the period ended December 31, 1999, and the six months ended June 30,
2000, the Company accreted an amount equal to $3,039,000, and $5,522,000
(unaudited), respectively, by charging additional paid-in-capital.
7. STOCKHOLDERS' EQUITY
COMMON STOCK -- On August 1, 1998, the Company issued 2,475,248 shares of
common stock and paid $300,000 in cash to the founders of the Company in
exchange for their interests in certain assets and technology of Infomaster
CD-ROM, LLC (the "LLC"). As part of the transaction with the LLC, the founders
and the LLC entered into five-year, non-compete agreements.
The Company also issued additional 644,752 shares of common stock to a
founder and certain other individuals for services performed in the formation of
the Company. The Company recorded approximately $214,000 of deferred
compensation related to the shares of common stock issued to the founders,
subject to vesting.
Of the total shares issued, the 2,970,297 shares issued to founders vested
one-third on issuance and the balance ratably on a monthly basis for two years
thereafter. All unvested shares are subject to repurchase by the Company at $.10
per share upon termination of employment.
Of the remaining shares, 69,703 vested fully on issuance and the balance
ratably, on a monthly basis, for three years thereafter. As of March 31, 1999,
December 31, 1999, and June 30, 2000, 1,568,188, 2,330,763, and 2,839,151
(unaudited) shares, respectively, of the total 3,120,000 shares issued are
vested.
On May 21, 1999, the Company committed to issue 50,000 shares of common
stock to a research library consortium for consultative services rendered. The
Company recognized $35,000 in compensation expense related to this transaction
based upon the deemed fair value of the Company's common stock at the time of
the commitment. On March 20, 2000, the Company issued the shares.
STOCK OPTIONS -- Pursuant to the Company's 1998 Stock Option Plan (the
"Plan"), as amended, the Company may grant incentive and nonstatutory stock
options to employees, directors and consultants to acquire up to 4,431,666
shares of the Company's common stock. During the six months ended June 30, 2000,
the Company's Board of Directors increased options available for issuance under
the Plan by 590,000 shares. Options granted vest over four years and expire no
more than ten years from the date of
F-17
<PAGE> 90
netLIBRARY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
the grant. Effective December 28, 1999, the Company amended the Plan to allow
for the exercise of unvested options. Shares of common stock issued pursuant to
this clause are subject to repurchase by the Company until vested according to
the original vesting terms.
The following table summarizes stock option activity during the period from
the Company's date of inception (June 5, 1998) through June 30, 2000:
<TABLE>
<CAPTION>
AVERAGE
NUMBER EXERCISE
OF SHARES PRICE
---------- --------
<S> <C> <C>
Balances, June 5, 1998...................................... -- $ --
Granted (weighted average stock option fair value of
$0.42).................................................... 1,893,000 0.10
Exercised................................................... (138,499) 0.10
Canceled.................................................... (495,417) 0.10
---------- ------
Balances, March 31, 1999 (4,202 exercisable at a weighted
average price of $0.10 per share)......................... 1,259,084 $ 0.10
Granted (weighted average stock option fair value of
$3.56).................................................... 1,641,450 4.54
Exercised................................................... (246,634) 0.19
Canceled.................................................... (73,423) 0.90
---------- ------
Balances, December 31, 1999................................. 2,580,477 $ 2.90
Granted (weighted average stock option fair value of $9.10)
(unaudited)............................................... 1,156,032 11.30
Exercised (unaudited)....................................... (1,161,689) 0.20
Canceled (unaudited)........................................ (146,228) 8.51
---------- ------
Balances, June 30, 2000 (unaudited)......................... 2,428,592 $ 7.85
========== ======
</TABLE>
At December 31, 1999 and June 30, 2000, options for 1,466,056 and 1,046,252
(unaudited) shares were available under the Plan for future grant, respectively.
Additional information regarding options outstanding as of December 31,
1999 is as follows:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
-------------------------- -------------------------
WEIGHTED
AVERAGE WEIGHTED
REMAINING EXERCISABLE AT AVERAGE
EXERCISE NUMBER CONTRACTUAL DECEMBER 31, EXERCISE
PRICES OUTSTANDING LIFE (YEARS) 1999 PRICE
-------- ----------- ------------ -------------- --------
<S> <C> <C> <C> <C>
$ 0.10................................. 1,471,907 9.1 136,613 $0.10
0.50................................. 285,050 9.6 59,500 0.50
3.00................................. 150,365 9.7 -- --
10.00................................. 673,155 9.9 12,706 10.00
--------- --- ------- -----
2,580,477 9.5 208,819 $0.82
========= === ======= =====
</TABLE>
ADDITIONAL STOCK PLAN INFORMATION -- SFAS No. 123, "Accounting for
Stock-Based Compensation," requires the disclosure of pro forma net income and
earnings per share had the Company adopted the fair value method of accounting
for stock-based awards. Under SFAS No. 123, the fair value of the stock-based
awards to employees is calculated through the use of option pricing models, even
though such models were developed to estimate the fair value of freely tradable,
fully transferable options without vesting restrictions, which significantly
differ from the Company's stock option awards. These models also require
subjective assumptions, including future stock price volatility and expected
time to exercise, which greatly affect the calculated values. The Company's
calculations were made using the Black-Scholes option
F-18
<PAGE> 91
netLIBRARY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
pricing model under the minimum value method with the following weighted average
assumptions for both periods ended March 31, 1999 and December 31, 1999;
expected life, four years; risk free interest rates of 6.0%; and no dividends
during the expected term. The Company's calculations are based on a single
option valuation approach and forfeitures are recognized as they occur. If the
computed fair values of the stock-based awards had been amortized over the
vesting period of the awards, pro forma net loss applicable to common
stockholders would have been approximately $4,784,000 ($3.44 per basic and
diluted share) and $27,825,000 ($11.99 per basic and diluted share) for the
periods ended March 31, 1999 and December 31, 1999, respectively.
STOCK-BASED COMPENSATION -- In connection with options granted to employees
to purchase common stock, the Company recorded deferred compensation expense of
$568,000 and $4,143,000 in the periods ended March 31, 1999 and December 31,
1999, respectively, and $873,000 (unaudited) and $1,350,000 (unaudited) for the
six months ended June 30, 1999 and June 30, 2000, respectively. Such amounts
represent the difference between the exercise price and the deemed fair value of
the Company's common stock at the date of grant. The deferred charges are being
amortized to expense through fiscal year 2004.
COMMON STOCK RESERVED -- At December 31, 1999 and June 30, 2000, the
Company had reserved shares of common stock for issuance as follows:
<TABLE>
<CAPTION>
DECEMBER 31, JUNE 30,
1999 2000
------------ -----------
(UNAUDITED)
<S> <C> <C>
Conversion of preferred stock............................... 17,759,929 18,768,286
Issuance available under 1998 stock option plan............. 1,466,056 1,046,252
Exercise of options......................................... 2,580,477 2,428,592
Exercise of warrants and other.............................. 128,532 83,532
---------- ----------
Total....................................................... 21,934,994 22,326,662
========== ==========
</TABLE>
8. LOSS PER COMMON SHARE
A reconciliation of the numerator and denominator used in the calculation
of basic and diluted loss per common share is presented below (in thousands
except per share amounts):
<TABLE>
<CAPTION>
MARCH 31, DECEMBER 31, JUNE 30, JUNE 30,
1999 1999 1999 2000
--------- ------------ ----------- -----------
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C>
Net loss, basic and diluted....................... $(4,274) $(19,652) $(5,169) $(25,830)
Cumulative dividends on Series Preferred.......... -- 3,039 301 5,522
------- -------- ------- --------
Net loss applicable to common shares (numerator),
basic and diluted............................... $(4,274) $(22,691) $(5,470) $(31,352)
======= ======== ======= ========
Shares (denominator):
Weighted average common shares outstanding........ 3,151 3,490 3,281 5,396
Shares subject to repurchase...................... (1,806) (1,170) (1,552) (1,343)
------- -------- ------- --------
Shares used in computation basic and diluted...... 1,345 2,320 1,729 4,053
======= ======== ======= ========
Loss per share attributable to common shares,
basic and diluted............................... $ (3.18) $ (9.78) $ (3.16) $ (7.74)
======= ======== ======= ========
</TABLE>
F-19
<PAGE> 92
netLIBRARY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
9. INCOME TAXES
The tax effects of temporary differences that give rise to significant
portions of the Company's net deferred tax asset are as follows (in thousands):
<TABLE>
<CAPTION>
MARCH 31, DECEMBER 31,
1999 1999
--------- ------------
<S> <C> <C>
Deferred tax assets:
Net operating loss carryforwards.......................... $ 1,501 $ 7,635
Fixed assets.............................................. 23 338
Deferred revenues......................................... -- 266
Other accruals............................................ 19 515
Stock-based compensation.................................. 26 208
Intangibles............................................... 14 24
Income tax credits........................................ -- 12
------- -------
Total deferred tax assets................................... 1,583 8,998
Deferred tax liabilities:
Research and development expensed......................... -- (132)
Valuation allowance....................................... (1,583) (8,866)
------- -------
Net deferred tax asset...................................... $ -- $ --
======= =======
</TABLE>
The gross deferred tax assets have been reduced by a valuation allowance
because management believes that it is currently more likely than not that such
benefits will not be realized.
At March 31, 1999 and December 31, 1999, the Company had approximately
$4,041,000 and $20,557,000, respectively, of net operating loss carryforwards
which begin expiring in 2019. The Internal Revenue Code places certain
limitations on the annual amount of net operating loss carryforwards which can
be utilized if certain changes in the Company's ownership occurs.
The Company's effective tax rate differs from the expected benefit at the
federal statutory tax rate as follows:
<TABLE>
<CAPTION>
MARCH 31, DECEMBER 31,
1999 1999
--------- ------------
<S> <C> <C>
Taxes computed at federal statutory rate.................... (34.0)% (34.0)%
State income taxes, net of federal benefit.................. (3.1) (3.1)
Permanent and other items................................... 0.1 0.1
Income tax credits.......................................... -- 0.1
Change in valuation allowance............................... 37.0 36.9
----- -----
Total provision............................................. --% --%
===== =====
</TABLE>
10. EMPLOYEE BENEFIT PLAN
The Company maintains a savings plan under section 401(k) of the Internal
Revenue Code (the "401(k)"). The 401(k)is available to all employees with
eligibility commencing on the first day of employment. Employees may contribute
up to 15% of their eligible compensation, not to exceed the amounts allowed by
law. The 401(k)allows for discretionary matching contributions to be made by the
Company. No matching contributions were made for the periods ended March 31,
1999, December 31, 1999 and June 30, 2000 (unaudited).
F-20
<PAGE> 93
netLIBRARY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
11. SEGMENT INFORMATION, OPERATIONS BY GEOGRAPHIC AREA AND SIGNIFICANT CUSTOMERS
Segment Information
As discussed in Note 1, the Company follows the requirements of SFAS No.
131, "Disclosures About Segments of an Enterprise and Related Information." As
defined in SFAS No. 131, the Company operates in a single reportable segment.
Geographic Information (in thousands)
<TABLE>
<CAPTION>
PERIOD ENDED SIX MONTHS ENDED
--------------------------------------------------- --------------------------------------
MARCH 31, 1999 DECEMBER 31, 1999 JUNE 30, JUNE 30, 2000
------------------------ ------------------------ 1999 ------------------------
LONG-LIVED LONG-LIVED ----------- LONG-LIVED
REVENUES(1) ASSETS REVENUES(1) ASSETS REVENUES(1) REVENUES(1) ASSETS
----------- ---------- ----------- ---------- ----------- ----------- ----------
<S> <C> <C> <C> <C> <C> <C> <C>
North America......... $18 $1,913 $137 $6,559 $21 $3,935 $10,522
Rest of the
world(2)............ -- -- 20 -- -- 329 --
--- ------ ---- ------ --- ------ -------
$18 $1,913 $157 $6,559 $21 $4,264 $10,522
=== ====== ==== ====== === ====== =======
</TABLE>
---------------
(1) Revenues are attributed to countries based on location of customer invoiced.
(2) No individual foreign country accounted for greater than 10% of total
revenues or long-lived assets in any of the periods presented.
Significant Customers
No one customer accounted for greater than 10% of total revenues for the
six months ended June 30, 1999 (unaudited) and June 30, 2000 (unaudited). Two
unrelated customers accounted for 14% and 13% of total revenues for the period
ended December 31, 1999. No one customer accounted for greater than 10% of total
revenues for the period ended March 31, 1999.
One customer accounted for 10% of accounts receivable as of June 30, 2000
(unaudited). Four unrelated customers accounted for 28%, 27%, 26% and 11% of
accounts receivable as of December 31, 1999. No one customer accounted for
greater than 10% of accounts receivable as of March 31, 1999.
12. SUBSEQUENT EVENTS
On March 29, 2000, the Company acquired substantially all of the assets and
assumed substantially all of the liabilities of MetaText, Inc. (see Note 2).
The Company intends to file a registration statement with the Securities
and Exchange Commission for its initial public offering of common stock during
the third quarter of calendar 2000. The Company plans to offer shares of
its common stock and the underwriters have an option to purchase an additional
shares to cover over-allotments.
F-21
<PAGE> 94
INDEPENDENT AUDITORS' REPORT
Board of Directors and Stockholders
of peanutpress.com, Inc.
Maynard, Massachusetts
We have audited the accompanying balance sheet of peanutpress.com, Inc. as
of December 31, 1999, and the related statements of operations, stockholders'
deficit, and cash flows for the year then ended. These financial statements are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements based on our audit.
We conducted our audit in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, such financial statements present fairly, in all material
respects, the financial position of peanutpress.com, Inc. as of December 31,
1999, and the results of its operations and its cash flows for the year then
ended, in conformity with accounting principles generally accepted in the United
States of America.
February 22, 2000
Denver, Colorado
F-22
<PAGE> 95
peanutpress.com, INC.
BALANCE SHEET
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
DECEMBER 31,
1999
------------
<S> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents................................. $1,195
Deposits and prepaid expenses............................. 23
------
Total current assets.............................. 1,218
Property and Equipment, Net................................. 88
Capitalized electronic book production costs, net of
accumulated amortization of $6............................ 20
Intangible Assets........................................... 6
Other Assets................................................ 18
------
TOTAL............................................. $1,350
======
LIABILITIES AND STOCKHOLDERS' DEFICIT
CURRENT LIABILITIES:
Accounts payable.......................................... $ 26
Accrued compensation...................................... 319
Other accrued liabilities................................. 47
------
Total liabilities................................. 392
------
COMMITMENTS AND CONTINGENCIES (Note 6)
REDEEMABLE SERIES A PREFERRED STOCK --
$0.01 par value; 8,876 authorized shares; 8,876 issued and
outstanding shares..................................... 1,638
STOCKHOLDERS' DEFICIT:
Common stock, $0.01 par value; 200,000 shares authorized;
10,049 shares issued and outstanding...................... --
Additional paid-in capital.................................. 82
Deferred compensation....................................... (54)
Accumulated deficit......................................... (708)
------
Total stockholders' deficit....................... (680)
------
TOTAL............................................. $1,350
======
</TABLE>
See accompanying notes to financial statements.
F-23
<PAGE> 96
peanutpress.com, INC.
STATEMENT OF OPERATIONS
(IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
1999
------------
<S> <C>
NET SALES................................................... $ 67
-----
COST AND EXPENSES:
Cost of publisher rights and electronic book production
(including amortization of capitalized electronic book
production costs)......................................... 35
Sales and marketing......................................... 126
Research and development and Web site operations............ 142
General and administrative (exclusive of $27 stock-based
compensation)............................................. 274
Depreciation and amortization............................... 11
Stock-based compensation expense............................ 27
-----
Total costs and expenses.................................... 615
-----
LOSS FROM OPERATIONS...................................... (548)
OTHER INCOME.............................................. 9
-----
NET LOSS.................................................. $(539)
=====
</TABLE>
See accompanying notes to financial statements.
F-24
<PAGE> 97
peanutpress.com, INC.
STATEMENT OF STOCKHOLDERS' DEFICIT
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
<TABLE>
<CAPTION>
COMMON STOCK ADDITIONAL
MEMBER'S ---------------------- PAID-IN DEFERRED ACCUMULATED
EQUITY SHARES AMOUNT CAPITAL COMPENSATION DEFICIT TOTAL
-------- ------------ ------- ---------- ------------ ----------- -----
<S> <C> <C> <C> <C> <C> <C> <C>
Balance, January 1, 1999..... $(105) -- $ -- $-- $ -- $ -- $(105)
Net loss January 1, 1999 to
March 12, 1999............. (112) -- -- -- -- -- (112)
Recapitalization............. 217 10,000 -- 1 -- (281) (63)
Exercise of stock options.... -- 49 -- -- -- -- --
Stock-based compensation
arrangement................ -- -- -- 81 (81) -- --
Amortization of deferred
compensation............... -- -- -- -- 27 -- 27
Net loss March 13, 1999 to
December 31, 1999.......... -- -- -- -- -- (427) (427)
----- ------ ------- --- ---- ----- -----
Balance, December 31, 1999... $ -- 10,049 $ -- $82 $(54) $(708) $(680)
===== ====== ======= === ==== ===== =====
</TABLE>
See accompanying notes to financial statements.
F-25
<PAGE> 98
peanutpress.com, INC.
STATEMENT OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
1999
------------
<S> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss.................................................. $ (539)
Adjustments to reconciled net loss to net cash used in
operating activities:
Depreciation and amortization.......................... 17
Amortization of deferred compensation.................. 27
Changes in assets and liabilities:
Deposits and prepaid expenses........................ (23)
Accounts payable..................................... 25
Accrued compensation................................. 199
Other accrued liabilities............................ 47
------
Net cash used in operating activities............. (247)
------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment....................... (83)
Capitalization of electronic book production costs........ (26)
Increase in other assets.................................. (25)
------
Net cash used in investing activities............. (134)
------
CASH FLOWS FROM FINANCING ACTIVITIES:
Accounts payable to stockholders.......................... (64)
Proceeds from issuance of preferred stock, net of issuance
costs.................................................. 1,638
Proceeds from issuance of common stock.................... 1
------
Net cash provided by financing activities......... 1,575
------
NET INCREASE IN CASH AND CASH EQUIVALENTS................... 1,194
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR................ 1
------
CASH AND CASH EQUIVALENTS, END OF PERIOD.................... $1,195
======
</TABLE>
See accompanying notes to financial statements.
F-26
<PAGE> 99
peanutpress.com, INC.
NOTES TO FINANCIAL STATEMENTS
FOR THE YEAR ENDED DECEMBER 31, 1999
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
NATURE OF THE ORGANIZATION -- peanutpress.com, Inc. (formerly Peanut
Development Corporation ("PDC")) (the "Company" or "peanutpress"), a
Massachusetts based corporation, was incorporated on February 23, 1999. Peanut
Press LLC ("LLC"), a Massachusetts limited liability company, was formed on
April 29, 1998 (date of inception). On March 12, 1999, LLC recapitalized by
merging with and into PDC, with PDC being the surviving entity. Prior to the
merger, PDC was a shell company with no prior operations. For the period from
inception through the merger with PDC, the LLC experienced cumulative losses
totaling $281,000. As part of the merger, PDC changed its name to peanutpress.
The Company is a provider focused on delivering electronic books ("eBook")
to users of handheld computing devices.
LIQUIDITY -- The Company has incurred operating losses since inception
related primarily to the development and marketing of its products and has a
stockholders' deficit of $680,000 as of December 31, 1999. In November 1999, the
Company completed a sale of redeemable preferred stock, raising $1,638,000, and
in February 2000 entered into an agreement and plan of merger with netLibrary,
Inc. (see Note 7).
USE OF ESTIMATES -- The preparation of financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent liabilities, as well as the reported
amounts of revenue and expenses. Actual results could differ from these
estimates.
REVENUE RECOGNITION AND PAYMENTS TO PUBLISHERS -- The Company sells its
eBooks to its customers upon downloading the eBook from the Company's Web site
to the customer's handheld device. The Company recognizes the revenue for the
sale of the eBook at the time the customer takes physical delivery of the eBook.
The Company is required to remit payments to publishers for each eBook
sale. Publisher costs are expensed as incurred when the customer takes physical
delivery of the eBook.
FAIR VALUE OF FINANCIAL INSTRUMENTS -- The Company's financial instruments
include cash and cash equivalents, accounts payable and accrued liabilities. The
carrying amounts of these financial instruments approximate fair value due to
their short maturities.
CASH AND CASH EQUIVALENTS -- The Company considers all highly liquid
investments purchased with original maturities of three months or less to be
cash equivalents.
PROPERTY AND EQUIPMENT -- Property and equipment are recorded at cost and
depreciated using the straight-line method over the estimated useful lives of
three to five years or the lease term, if shorter. Maintenance and repairs are
expensed as incurred.
eBOOK PRODUCTION COSTS -- The Company capitalizes direct and indirect costs
related to the production, scanning, editing and quality control functions
related to the creation of the eBooks included in the Company's Web site.
Capitalized costs are amortized straight-line over 30 months beginning on the
date the eBooks are placed in the Company's Web site. Amortization expense
related to the capitalized eBook production costs was $6,000 for the year ended
December 31, 1999.
SOFTWARE COSTS -- The Company accounts for costs of internal use software
in accordance with American Institute of Certified Public Accountants ("AICPA")
Statement of Position ("SOP") 98-1, Accounting for the Costs of Computer
Software Developed or Obtained for Internal Use. This standard requires
companies to capitalize qualifying computer software costs, which are
principally incurred during the application development stage, and amortize them
over the software's estimated useful life. The
F-27
<PAGE> 100
peanutpress.com, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Company adopted SOP 98-1 effective January 1, 1999. Prior to January 1, 1999,
the Company generally expensed such costs with the exception of certain
purchased software.
IMPAIRMENT OF LONG-LIVED ASSETS -- Long-lived assets are reviewed for
impairment whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable. Recoverability is based on
future net cash flows from the use and ultimate disposition of the asset. The
Company recorded no adjustment for impairment of long-lived assets during the
year ended December 31, 1999.
INCOME TAXES -- For the period from inception through March 1999, the
Company was a limited liability company. From March 1999 through November 12,
1999, the Company elected S-Corporation status under the Internal Revenue Code.
Beginning November 13, 1999, the Company revoked its S-Corporation status and
began to account for income taxes in accordance with the Financial Accounting
Standards Board ("FASB") Statement of Financial Accounting Standards ("SFAS")
No. 109, "Accounting for Income Taxes," which requires an asset and liability
approach to financial accounting and reporting for income taxes. Deferred income
tax assets and liabilities are computed for differences between the financial
statement basis and the income tax basis of assets and liabilities that will
result in taxable or deductible amounts in the future. Such deferred income tax
computations are based on enacted laws and rates applicable to the years in
which the differences are expected to affect taxable income. Deferred taxes are
reduced by a valuation allowance if, based on the weight of the available
evidence, it is more likely that not that these benefits will not be realized.
STOCK-BASED COMPENSATION -- The Company applies Accounting Principles Board
Opinion No. 25, "Accounting for Stock Issued to Employees," and related
interpretations in accounting for its stock option plan, and, accordingly, does
not recognize compensation cost for options granted to employees and directors
whose exercise price is equal to or exceeds the fair value of common stock as of
the grant date.
COMPREHENSIVE INCOME -- For the year ended December 31, 1999, the Company's
comprehensive loss, as defined by SFAS No. 130, "Reporting Comprehensive
Income," is equal to its net loss.
NEW ACCOUNTING PRONOUNCEMENT -- In June 1998, the FASB issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities." SFAS No. 133
establishes accounting and reporting standards requiring that all derivative
instruments (including certain derivative instruments embedded in other
contracts) be recorded in the balance sheet as either an asset or liability
measured at its fair value. SFAS No. 133 requires that changes in the
derivative's fair value be recognized currently in earnings unless specific
hedge accounting criteria are met. The accounting provisions for qualifying
hedges allow gains and losses recognized related to a hedged item in the income
statement to be offset by related derivative's gain and losses, and requires the
Company to formally document, designate, and assess the effectiveness of
transactions that qualify for hedge accounting. As amended by SFAS No. 137,
"Accounting for Derivative Instruments and Hedging Activities -- Deferral of the
Effective Date of SFAS No. 133," the Company is not required to adopt this
statement until January 1, 2001. The Company has not determined its method or
timing of adopting this statement or the impact on its financial statements.
However, when adopted this statement could increase volatility in reported
earnings and other comprehensive income of the Company.
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin ("SAB") 101, "Revenue Recognition in Financial Statements,"
providing guidance with respect to revenue recognition issues and disclosures.
As amended by SAB 101B, the Company is not required to implement SAB 101 until
the fourth quarter of calendar year 2000. The Company believes that the
implementation of SAB 101 will not have a significant impact on its financial
statements.
F-28
<PAGE> 101
peanutpress.com, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
2. PROPERTY AND EQUIPMENT
Property and equipment consists of the following (in thousands):
<TABLE>
<S> <C>
Computer equipment.......................................... $66
Office furniture............................................ 1
Internal use software....................................... 33
---
100
Less: accumulated depreciation.............................. 12
---
Total....................................................... $88
===
</TABLE>
3. REDEEMABLE PREFERRED STOCK -- SERIES A
On November 12, 1999, the Company issued 8,876 shares of $0.01 par value
convertible Series A preferred stock at $189.27 per share.
The Series A preferred stock is redeemable at the option of the holder at
any time after November 12, 2003, at a price per share equal to the liquidation
value. Each share of Series A preferred stock is convertible into shares of
common stock at the option of the holder or automatically at the closing of a
public offering of common stock with proceeds of at least $50 million. The
Series A conversion rate is equal to the original Series A issue price, subject
to certain anti-dilution provisions. Each share of Series A preferred stock has
a liquidation value equal to the original issue price plus any declared and
unpaid dividends and has voting rights on an as-if-converted basis. A
liquidation includes any merger, dissolution or sale of the Company.
4. STOCKHOLDERS' EQUITY
STOCK OPTIONS -- Pursuant to the Company's 1999 Stock Option Plan, as
amended, (the "Plan"), the Company may grant incentive and nonstatutory stock
options to employees, directors and consultants to acquire up to 36,331 shares
of the Company's common stock. Options granted vest over three years and expire
no more than ten years from the date of the grant.
The following table summarizes stock option activity during the year ended
December 31, 1999:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING
--------------------------
WEIGHTED
NUMBER AVERAGE
OF SHARES EXERCISE PRICE
--------- --------------
<S> <C> <C>
Outstanding at January 1, 1999.............................. -- $ --
Granted (weighted average stock option fair value of
$0.16).................................................... 5,399 1.00
Exercised................................................... (49) 1.00
----- -----
Outstanding at December 31, 1999............................ 5,350 $1.00
===== =====
</TABLE>
At December 31, 1999, 30,932 options were available for grant under the
Plan.
The options to purchase 5,350 shares of the Company's common stock
outstanding as of December 31, 1999 had a weighted average remaining contractual
life of 6.6 years. Options to purchase 121 shares of the Company's common stock
were exercisable at December 31, 1999, at a weighted average exercise price of
$1.00.
ADDITIONAL STOCK INFORMATION -- SFAS No. 123, "Accounting for Stock-Based
Compensation," requires the disclosure of pro forma net income and earnings per
share had the Company adopted the fair value for stock-based awards. Under SFAS
No. 123, the fair value of the stock-based awards to employees
F-29
<PAGE> 102
peanutpress.com, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
is calculated through the use of option pricing models, even though such models
were developed to estimate the fair value of freely tradable, fully transferable
options without vesting restrictions, which significantly differ from the
Company's stock option awards. These models also require subjective assumptions,
including future stock price volatility and expected time to exercise, which
greatly affect the calculated values. The Company's calculations were made using
the Black-Scholes option pricing model under the minimum value method with the
following weighted average assumptions for 1999; expected life, 3.0 years for
grants; risk free interest rates of 6.0%; and no dividends during the expected
term. The Company's calculations are based on a single option valuation approach
and forfeitures are recognized as they occur. If the computed fair values of the
stock-based awards had been amortized over the vesting period of the awards, pro
forma net loss applicable to common stockholders would have been approximately
$540,000 for the year ended December 31, 1999.
STOCK-BASED COMPENSATION -- In connection with options granted to employees
to purchase common stock, the Company recorded deferred compensation expense of
$81,000 in the year ended December 31, 1999. Such amount represents the
difference between the exercise price and the deemed fair value of the Company's
common stock at the date of grant. The deferred charges are being amortized to
expense through fiscal 2003. Stock-based compensation expense of $27,000 was
recorded in the year ended December 31, 1999.
5. INCOME TAXES
The tax effects of temporary differences that give rise to significant
portions of the Company's net deferred tax asset are as follows (in thousands):
<TABLE>
<S> <C>
Deferred tax assets:
Net operating loss carryforwards.......................... $ 55
Other..................................................... 10
----
Total deferred tax assets................................... 65
Valuation allowance......................................... (65)
----
Net deferred tax asset...................................... $ --
====
</TABLE>
The income tax benefit for 1999 differs from the amount computed by
applying the U.S. federal statutory income tax rate to loss before income taxes
primarily due to the valuation allowance. The deferred tax assets have been
reduced by a valuation allowance because management believes that it is
currently more likely than not that such benefits will not be realized.
At December 31, 1999, the Company had approximately $158,000 of net
operating loss carryforwards which begin expiring in 2020. The Internal Revenue
Code places certain limitations on the annual amount of net operating loss
carryforwards which can be utilized if certain changes in the Company's
ownership occurs.
F-30
<PAGE> 103
peanutpress.com, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
6. COMMITMENTS AND CONTINGENCIES
The Company leases its office space and certain office equipment under
non-cancelable operating leases. Most of the leases contain purchase and/or
various term renewal options at fair market and fair rental values,
respectively. In most cases management expects that, in the normal course of
business, leases will be renewed or replaced by other leases. At December 31,
1999, future minimum annual payments under noncancelable operating leases having
an initial or remaining term in excess of one year are as follows:
<TABLE>
<S> <C>
2000........................................................ $ 88
2001........................................................ 88
2002........................................................ 81
2003........................................................ --
2004........................................................ --
Thereafter.................................................. --
----
Total....................................................... $257
====
</TABLE>
Rent expense totaled $10,000 for the year ended December 31, 1999.
7. SUBSEQUENT EVENTS
On February 22, 2000 the Company entered into an agreement and plan of
merger (the "Agreement") with netLibrary, Inc. ("netLibrary") whereby it agreed
to sell all of its outstanding capital stock, including options outstanding, in
exchange for cash of $1,730,000, 544,900 shares of netLibrary's common stock,
432,468 shares of netLibrary's Series D Preferred stock, and options for 323,897
shares of netLibrary's common stock, valued at a total of approximately $24.7
million. As a result of the Agreement, the founders of the Company forgave the
amounts owed to them by the Company for compensation previously accrued.
F-31
<PAGE> 104
netLIBRARY, INC.
PRO FORMA CONDENSED COMBINING FINANCIAL STATEMENTS
YEAR ENDED DECEMBER 31, 1999
On February 22, 2000, netLibrary, Inc. ("netLibrary" or the "Company")
acquired all of the outstanding capital stock of peanutpress.com, Inc.
("peanutpress"), a Massachusetts-based electronic book ("eBooks") to users of
handheld computing devices. The Company paid $24,830,000 for the acquisition
comprised of cash of $1,730,000, 544,900 shares of the Company's common stock
valued at $9,631,000, 432,468 shares of Series D preferred stock valued at
$7,644,000, options for 323,897 shares of the Company's common stock valued at
$5,725,000, and related transaction costs totaling approximately $100,000.
The acquisition has been accounted for using the purchase method of
accounting. The aggregate purchase price has been allocated to the assets and
liabilities acquired based on their fair value. The total consideration exceeded
the fair value of the net assets acquired by approximately $23,872,000, which
has been allocated to the following intangible assets:
<TABLE>
<CAPTION>
PERIOD OF
INTANGIBLE ASSET AMOUNT AMORTIZATION
---------------- ----------- ------------
(UNAUDITED)
<S> <C> <C>
In-process research and development......................... $ 294,000 N/A
Purchased technology........................................ 2,936,000 6 years
Assembled workforce......................................... 93,000 3 years
Noncompete agreements....................................... 3,298,000 1 year
Publisher relationship intangibles.......................... 12,098,000 8 years
Domain name................................................. 56,000 1.5 years
Goodwill.................................................... 5,097,000 10 years
-----------
Total............................................. $23,872,000
===========
</TABLE>
The intangible assets were identified and valued by an independent
appraiser through extensive interviews and discussions with netLibrary and
peanutpress management and the analysis of data provided by peanutpress. The
in-process research and development represents technology which has not yet
reached technological feasibility and does not have alternative future uses.
This amount was charged to netLibrary's operations during the six-month period
ended June 30, 2000. The in-process research and development technology was
valued by considering data relevant to developmental products, their respective
stage of development, the time and resources needed to complete them, their
expected income generating ability, target markets and associated risks. The
Income Approach, which includes an analysis of the markets, cash flows, and
risks associated with achieving such cash flows, was the primary technique
utilized in valuing each in-process research and development projects. A portion
of the purchase price was allocated to the developmental projects based on the
appraised fair value of such projects.
The accompanying pro forma financial statements are presented in accordance
with Article 11 of Regulation S-X.
The unaudited pro forma condensed combining balance sheet has been prepared
as if the acquisition was completed as of December 31, 1999. The unaudited pro
forma condensed combining statement of operations was prepared as if the
acquisition was completed at the beginning of the earliest fiscal year presented
and carried through the interim period presented. To prepare the pro forma
unaudited condensed combining statement of operations, the netLibrary statement
of operations for the nine months ended December 31, 1999 has been combined with
the statement of operations of peanutpress for the year ended December 31, 1999.
The unaudited pro forma condensed combining financial statements should be
read in conjunction with the historical financial statements of netLibrary and
peanutpress.
F-32
<PAGE> 105
netLIBRARY, INC.
PRO FORMA CONDENSED COMBINING BALANCE SHEETS (UNAUDITED)
(IN THOUSANDS)
<TABLE>
<CAPTION>
PRO FORMA
COMBINED
PRO FORMA DECEMBER 31,
NETLIBRARY PEANUTPRESS ADJUSTMENTS 1999
---------- ----------- ----------- ------------
<S> <C> <C> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents.................. $ 74,321 $1,195 $(1,730)(b) $ 73,786
Other...................................... 1,424 23 -- 1,447
-------- ------ ------- --------
Total current assets............... 75,745 1,218 (1,730) 75,233
Property and equipment, net.................. 6,559 88 -- 6,647
Capitalized and in-process electronic book
production costs, net...................... 4,867 20 -- 4,887
Intangible assets, net....................... 148 6 23,578(b) 23,732
Other assets................................. 1,675 18 -- 1,693
-------- ------ ------- --------
TOTAL.............................. $ 88,994 $1,350 $21,848 $112,192
======== ====== ======= ========
LIABILITIES AND STOCKHOLDERS' DEFICIT
CURRENT LIABILITIES.......................... $ 7,092 $ 392 $ 100(b) $ 7,584
-------- ------ ------- --------
NONCURRENT LIABILITIES....................... 2,746 -- -- 2,746
-------- ------ ------- --------
COMMITMENTS AND CONTINGENCIES
REDEEMABLE PREFERRED STOCK................... 105,057 1,638 6,006(a)(b) 112,701
-------- ------ ------- --------
STOCKHOLDERS' DEFICIT:
Common stock............................... 3 -- 1(b) 4
Additional paid-in capital................. 2,283 82 15,273(a)(b) 17,638
Deferred compensation...................... (4,261) (54) 54(a) (4,261)
Accumulated deficit........................ (23,926) (708) 414(a)(c) (24,220)
-------- ------ ------- --------
Total stockholders' deficit........ (25,901) (680) 15,742 (10,839)
-------- ------ ------- --------
TOTAL.............................. $ 88,994 $1,350 $21,848 $112,192
======== ====== ======= ========
</TABLE>
See notes to pro forma condensed combining financial statements.
F-33
<PAGE> 106
netLIBRARY, INC.
PRO FORMA CONDENSED COMBINING STATEMENTS OF OPERATIONS (UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
NETLIBRARY
NINE MONTH PEANUTPRESS PRO FORMA
ENDED YEAR ENDED COMBINED PERIOD
DECEMBER 31, DECEMBER 31, PRO FORMA ENDED DECEMBER 31,
1999 1999 ADJUSTMENTS 1999
------------ ------------ ----------- ------------------
<S> <C> <C> <C> <C>
REVENUE.................................. $ 157 $ 67 $ -- $ 224
-------- ----- ------- --------
COSTS AND EXPENSES:
Cost of publisher rights and electronic
book production (including amortization
of capitalized electronic book
production costs)...................... 1,890 35 -- 1,925
Sales and marketing...................... 10,560 126 -- 10,686
Research and development and Web site
operations............................. 2,833 142 294(c) 3,269
General and administrative............... 4,230 274 -- 4,504
Depreciation and amortization............ 905 11 4,408(d) 5,324
Stock-based compensation expense*........ 563 27 -- 590
-------- ----- ------- --------
Total costs and expenses....... 20,981 615 4,702 26,298
-------- ----- ------- --------
LOSS FROM OPERATIONS..................... (20,824) (548) (4,702) (26,074)
INTEREST INCOME, net..................... 1,172 9 -- 1,181
-------- ----- ------- --------
NET LOSS................................. (19,652) (539) (4,702) (24,893)
CUMULATIVE DIVIDENDS ON REDEEMABLE
PREFERRED STOCK........................ 3,039 -- 574(f) 3,613
-------- ----- ------- --------
NET LOSS AVAILABLE TO COMMON STOCK....... $(22,691) $(539) $(5,276) $(28,506)
======== ===== ======= ========
BASIC AND DILUTED LOSS PER SHARE......... $ (9.78) $ (9.95)
======== ========
SHARES USED IN COMPUTATION, BASIC AND
DILUTED................................ 2,320 545(e) 2,865
======== ======= ========
* Stock-based compensation:
Cost of publisher rights and electronic
book production..................... $ 40 $ -- $ 40
Sales and marketing.................... 83 -- 83
Research and development and Web site
operations.......................... 48 -- 48
General and administrative............. 392 27 419
-------- --------
$ 563 $ 27 $ 590
======== ===== ========
</TABLE>
See notes to pro forma condensed combining financial statements.
F-34
<PAGE> 107
netLIBRARY, INC.
PRO FORMA CONDENSED COMBINING STATEMENTS OF OPERATIONS (UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
PEANUTPRESS
FROM
NETLIBRARY JANUARY 1, PRO FORMA
SIX MONTHS 2000 COMBINED SIX
ENDED TO MONTHS ENDED
JUNE 30, FEBRUARY 22, PRO FORMA JUNE 30,
2000 2000 ADJUSTMENTS 2000
---------- ------------ ----------- ------------
<S> <C> <C> <C> <C>
REVENUE............................................ $ 4,264 $ 29 $ -- $ 4,293
-------- ----- -------- --------
COSTS AND EXPENSES:
Cost of publisher rights and eBook production
(including amortization of capitalized electronic
book production costs)........................... 4,486 25 -- 4,511
Sales and marketing................................ 12,623 45 -- 12,668
Research and development and Web site
operations....................................... 3,885 -- -- 3,885
General and administrative......................... 5,983 258 -- 6,241
Depreciation and amortization...................... 4,042 3 848(d) 4,893
Stock-based compensation expense*.................. 767 175 -- 942
-------- ----- -------- --------
Total costs and expenses.................. 31,786 506 848 33,140
-------- ----- -------- --------
LOSS FROM OPERATIONS............................... (27,522) (477) (848) (28,847)
INTEREST INCOME, net............................... 1,902 5 -- 1,907
-------- ----- -------- --------
NET LOSS BEFORE EXTRAORDINARY
ITEM............................................. (25,620) (472) (848) (26,940)
EXTRAORDINARY LOSS ON EARLY
EXTINGUISHMENT OF DEBT........................... (210) -- -- (210)
-------- ----- -------- --------
NET LOSS AFTER EXTRAORDINARY ITEM.................. (25,830) (472) (848) (27,150)
CUMULATIVE DIVIDENDS ON REDEEMABLE PREFERRED
STOCK............................................ 5,522 -- 111(f) 5,633
-------- ----- -------- --------
NET LOSS AVAILABLE TO COMMON STOCK................. $(31,352) $ (72) $ (959) $(32,783)
======== ===== ======== ========
Basic and diluted loss per share:
Net loss before extraordinary item............. $ (6.32) $ (6.65)
Extraordinary loss on early extinguishment of
debt......................................... $ (0.05) $ (0.05)
Net loss attributable to common stock.......... $ (7.74) $ (8.09)
SHARES USED IN COMPUTATION, BASIC AND DILUTED...... 4,053 4,053
======== ========
* Stock-based compensation:
Cost of publisher rights and electronic book
production................................ $ 59 $ -- $ 59
Sales and marketing.......................... 193 -- 193
Research and development and Web site
operations................................ 84 -- 84
General and administrative................... 431 175 606
-------- ----- --------
$ 767 $ 175 $ 942
======== ===== ========
</TABLE>
See notes to pro forma condensed combining financial statements.
F-35
<PAGE> 108
netLIBRARY, INC.
NOTES TO PRO FORMA CONDENSED COMBINING FINANCIAL STATEMENTS
FOR THE PERIOD ENDED DECEMBER 31, 1999
AND THE SIX MONTHS ENDED JUNE 30, 2000
The following pro forma adjustments have been made to the pro forma
condensed combining financial statements:
(a) Reflects the elimination of peanutpress' redeemable preferred
stock and stockholders' deficit comprised of redeemable preferred stock of
$1,638,000, additional paid in capital of $82,000, deferred compensation of
$54,000, and accumulated deficit of $708,000.
(b) Reflects payment of purchase price totaling $24,830,000, comprised
of the issuance of approximately 544,900 shares of common stock valued at
$9,631,000, the issuance of 432,468 shares of Series D redeemable preferred
stock valued at $7,644,000, the granting of 323,897 options to purchase the
Company's common stock valued at approximately $5,725,000, the payment of
$1,730,000 and transaction costs totaling approximately $100,000, and the
related allocation of purchase price. A deferred income tax liability
related to the intangible assets' financial reporting basis in excess of
income tax basis has not been recorded. This is due to the reversal of
$7,027,000 of netLibrary's recorded valuation allowance related to its
deferred tax asset as of December 31, 1999.
(c) Reflects the one-time charge of $294,000 for purchased in-process
research and development identified in the purchase price allocation.
(d) Reflects pro forma amortization of the purchased intangibles over
the estimated useful lives as follows:
<TABLE>
<CAPTION>
AMORTIZATION AMORTIZATION
CHARGE CHARGE
PERIOD ENDED PERIOD ENDED
PERIOD OF DECEMBER 31, JUNE 30,
AMOUNT AMORTIZATION 1999 2000(I)
----------- ------------ ------------ -------------
<S> <C> <C> <C> <C>
Purchased technology.............. $ 2,936,000 6 years $ 367,000 $ 71,000
Assembled workforce............... 93,000 3 years 23,000 4,000
Domain name....................... 56,000 1.5 years 28,000 5,000
Publisher relationship
intangibles..................... 12,098,000 8 years 1,134,000 218,000
Noncompete agreements............. 3,298,000 1 year 2,474,000 476,000
Goodwill.......................... 5,097,000 10 years 382,000 74,000
----------- ---------- --------
$23,578,000 $4,408,000 $848,000
=========== ========== ========
</TABLE>
---------------
(i) For the period from January 1, 2000 through February 22, 2000, the date of
acquisition.
(e) Reflects the issuance of 544,900 shares of common stock considered
outstanding from the beginning of the period for computation of loss per
share.
(f) This calculation also assumes the accretion of cumulative
dividends totaling $574,000 for the period ended December 31, 1999, and
$111,000 for the period from January 1, 2000 to February 22, 2000, the date
of acquisition, on the 432,468 shares of Series D redeemable preferred
stock issued in connection with the acquisition of peanutpress.
F-36
<PAGE> 109
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION.
The following table shows the various fees and expenses, other than the
underwriting discounts and commissions, payable by Registrant in connection with
the sale of the common stock being registered under this registration statement.
All amounts shown are estimates except for the Securities and Exchange
Commission registration fee, the NASD filing fee and the Nasdaq National Market
listing fee.
<TABLE>
<S> <C>
Registration fee............................................ $ 21,707
NASD filing fee............................................. 8,723
Nasdaq National Market listing fee.......................... *
Printing and engraving expenses............................. *
Legal fees and expenses..................................... *
Accounting fees and expenses................................ *
Blue Sky fees and expenses (including legal fees)........... *
Transfer agent and registrar fees and expenses.............. *
Miscellaneous............................................... *
--------
Total.............................................. $
========
</TABLE>
----------
* To be filed by amendment.
ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS.
Upon completion of this offering, the Bylaws of Registrant will provide
for the indemnification of Registrant's directors and officers to the fullest
extent authorized by, and subject to the conditions set forth in the Delaware
General Corporation Law (the "DGCL"), except that Registrant will indemnify a
director or officer in connection with a proceeding (or part thereof) initiated
by the person only if the proceeding (or part thereof) was authorized by
Registrant's Board of Directors. The indemnification provided under the Bylaws
includes the right to be paid by Registrant the expenses (including attorneys'
fees) for any proceeding for which indemnification may be had in advance of its
final disposition upon the terms and conditions approved by the Registrant's
Board of Directors. The payment of those expenses (including attorneys' fees)
incurred by a director or officer in advance of the final disposition of a
proceeding may be made only upon delivery to Registrant of an undertaking by or
on behalf of the director or officer to repay all amounts so paid in advance if
it is ultimately determined that the director or officer is not entitled to be
indemnified. The Bylaws also provide that if Registrant does not pay a claim for
indemnification within 60 days after it has received a written claim, the
director or officer may bring an action to recover the unpaid amount of the
claim and, if successful, the director or officer also will be entitled to be
paid the expense of prosecuting the action to recover these unpaid amounts.
These rights to indemnification and advance payment of expenses are not
exclusive of any other rights to indemnification or advance payment under any
bylaw or agreement or pursuant to any vote of Registrant's stockholders or of
the disinterested directors.
As permitted by the DGCL, Registrant's Certificate of Incorporation
will provide upon completion of this offering that directors of Registrant shall
not be liable to Registrant or its stockholders for monetary damages for breach
of fiduciary duty as a director, except for liability (i) for any breach of the
director's duty of loyalty to Registrant or its stockholders, (ii) for acts or
omissions not in good faith or which involve intentional misconduct or a knowing
violation of law, (iii) under Section 174 of the DGCL, relating to unlawful
payment of dividends or unlawful stock purchase or redemption or (iv) for any
transaction from which the director derived an improper personal benefit. As a
result of this provision, Registrant and its stockholders may be unable to
obtain monetary damages from a director for breach of his or her duty of care.
The Bylaws also authorize Registrant to purchase and maintain insurance
on behalf of any person who is or was a director, officer, employee or agent of
Registrant, or is or was serving at the request of Registrant as a director,
officer, employee, partner or agent of another corporation or of a partnership,
joint venture, limited liability company, trust or other enterprise, against any
liability asserted against the person or incurred by the person in that
capacity, or arising out of
II-1
<PAGE> 110
the person's fulfilling one of these capacities, and related expenses, whether
or not Registrant would have the power to indemnify the person against the claim
under the provisions of the DGCL. Registrant has in force as of the date of this
Registration Statement director and officer liability insurance on behalf of its
directors and officers.
The Underwriting Agreement provides that the underwriters must, under
specified circumstances, indemnify Registrant's directors, officers and
controlling persons against specified liabilities, including liabilities under
the Securities Act of 1933, as amended. Reference is made to the form of
Underwriting Agreement to be filed as Exhibit 1.1 hereto.
ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES.
The following information relates to securities issued or sold by Registrant
within the last three years. All such securities were offered and sold in
reliance upon the exemption from registration under Section 4(2) of the
Securities Act, relating to sales by an issuer not involving any public
offering, including offers and sales under Regulation D, or Rule 701 under the
Securities Act.
The sales of securities were made without the use of an underwriter and the
certificates evidencing the shares bear a restrictive legend permitting the
transfer thereof only upon registration of the shares or pursuant to an
exemption from registration under the Securities Act.
(1) From June 5, 1998 to June 30, 2000, Registrant had granted options to
purchase an aggregate of 4,690,482 shares of common stock to employees,
directors and consultants pursuant to the netLibrary, Inc. 1998 Stock
Option Plan dated August 17, 1998, as amended. As of June 30, 2000,
1,546,822 shares have been purchased, 937,244 shares are fully vested,
715,068 shares have been cancelled and 19,295 shares were repurchased and
subsequently cancelled.
(2) On August 1, 1998, Registrant entered into a Preincorporation and
Contribution Agreement, and related agreements, for the transfer to
Registrant of certain assets for an aggregate of 2,475,248 shares of common
stock and $300,000 cash and Registrant's assumption of certain liabilities;
for the issuance of an aggregate of 644,752 shares of common stock to four
individuals for services rendered; and for the issuance of a warrant to
Concept Ventures to purchase 33,325 shares of common stock at a price of
$1.20 per share, as adjusted, effective January 8, 1999. A portion of the
shares issued pursuant to these agreements is subject to vesting.
(3) On August 10, 1998, Registrant entered two Letter Agreements, as amended
January 4, 1999, with two individuals, Peter Estler and Ralph Sorenson, who
were then members of the Registrant's board of directors, for the issuance
of an aggregate of 120,000 shares of common stock as compensation for
services rendered to Registrant for an aggregate value of $12,000. A
portion of these shares is subject to vesting.
(4) On August 20, 1998, Registrant entered into a Series A Preferred Stock
Purchase Agreement, as amended on January 6, 1999, for the sale of an
aggregate of 5,225,000 shares of Series A preferred stock to six
institutional investors and two other sophisticated investors for an
aggregate purchase price of $5,225,000.
(5) On October 10, 1998, Registrant entered into a credit facility with
Imperial Bank, as amended, under which Imperial Bank received a warrant to
purchase 24,582 shares of Registrant's common stock at $3.6613 per share on
September 3, 1999.
(6) On March 15, 1999, Registrant entered a Loan and Security Agreement with
Silicon Valley Bank and granted Silicon Valley Bank a warrant to purchase
20,625 shares of the Series A preferred stock at an initial exercise price
of $1.00 per share.
(7) On March 20, 2000, Registrant issued 50,000 shares of common stock to a
non-profit organization for services provided pursuant to a Letter
Agreement dated April 21, 1999.
(8) On May 17, 1999, Registrant entered into a Series B Preferred Stock
Purchase Agreement for the sale of an aggregate of 6,828,176 shares of
Series B preferred stock to fifteen institutional investors and four
sophisticated investors for an aggregate purchase price of $25,000,000.
(9) On June 18, 1999, Registrant repurchased 15,000 shares of its common stock
from a former employee for $0.50 per share. These shares were acquired by
the former employee upon exercise of a stock option.
II-2
<PAGE> 111
(10) On July 9, 1999, Registrant entered a Letter Agreement with an individual
regarding the grant of an option to purchase 50,000 shares of common stock
at $.50 per share for services provided.
(11) On September 30, 1999, Registrant entered a Letter Agreement with Jonathan
Newcomb regarding the grant of an option to purchase 50,000 shares of
common stock for $0.50 per share. The option was granted in connection with
Mr. Newcomb's service on the Board of Directors.
(12) Between October 8, 1999 and October 13, 1999, Registrant entered into a
Series C Preferred Stock Purchase Agreement for the sale of an aggregate of
5,726,574 shares of Series C preferred stock to twenty seven institutional
investors and six sophisticated investors for an aggregate purchase price
of $72,229,281.
(13) On January 18, 2000, Registrant entered into a Series D Preferred Stock
Purchase Agreement for the sale of an aggregate of 848,657 shares of Series
D preferred stock to two institutional investors for an aggregate purchase
price of $15,000,012, of which it sold an aggregate of 424,329 shares of
Series D preferred stock for an aggregate purchase price of $7,500,015. In
July 2000, Registrant issued and sold an additional 424,328 shares of
Series D preferred stock to the two institutional investors for an
aggregate purchase price of $7,499,997 under the terms of the Series D
Preferred Stock Purchase Agreement.
(14) On January 18, 2000, Registrant entered into a Series D Preferred Stock
Purchase Agreement for the sale of an aggregate of 2,829 shares of Series D
preferred stock to one accredited investor for an aggregate purchase price
of $50,003.
(15) On February 18, 2000, Registrant entered into an Agreement and Plan of
Merger with peanutpress.com, Inc. and NL pp.com Acquisition Corporation, a
wholly owned subsidiary of Registrant. peanutpress.com merged into NL
pp.com Acquisition Corporation and the stockholders of peanutpress received
an aggregate of 544,900 shares of common stock for an aggregate price of
$9,631,108; $1,730,491 cash; and an aggregate of 432,468 shares of Series D
preferred stock for an aggregate price of $7,643,872. In addition, options
to purchase a total of 5,724,880 shares of Registrant's common stock were
granted in substitution for options to purchase shares of peanutpress
common stock. 116,288 shares of the common stock and 25,152 options are
held in escrow pending post closing adjustments.
(16) On March 29, 2000, Registrant entered into an Asset Purchase Agreement with
MetaText, Inc. in which Registrant acquired substantially all of the assets
of MetaText, in consideration for assuming approximately $1.2 million in
indebtedness and issuing 128,910 shares of Series D preferred stock and
153,974 shares of common stock to its stockholders.
(17) On _______, 2000, Registrant granted an option to purchase 5,000 shares of
its common stock at an exercise price of $17.675 per share to Answer
Technology, Inc.
The sales of securities described in paragraph (1) above was deemed to be exempt
from the registration requirements of the Securities Act in reliance on Rule 701
promulgated under Section 3(b) of the Securities Act as transactions by an
issuer pursuant to written compensatory benefit plans and contracts relating to
compensation as provided under Rule 701.
The issuances described in paragraphs (2) through (7), (9) through (11), and
(15) through (17) above were deemed to be exempt from registration under the
Securities Act in reliance on Section 4(2) of the Securities Act as transactions
by an issuer not involving a public offering.
The issuances described in paragraphs (8) and (12) through (14) above were
deemed to be exempt from registration under the Securities Act in reliance on
Section 4(2), pursuant to Regulation D, Rule 506, as transactions by an Issuer
not involving a public offering.
The recipients of securities in each such transaction represented their
intention to acquire the securities for investment only and not with a view to
or for sale in connection with any distribution thereof and appropriate legends
were affixed to the share certificates and other instruments issued in such
transactions. All recipients either received adequate information about
Registrant or had access, through employment or other relationships, to
information about Registrant.
II-3
<PAGE> 112
ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.
(a) Exhibits:
Exhibit Number Description
-------------- -----------
1.1* Form of Underwriting Agreement
2.1 Agreement and Plan of Merger among Registrant, NL PP.Com
Acquisition Corporation and PeanutPress.com, Inc dated
February 18, 2000
2.2 Asset Purchase Agreement between Registrant and MetaText, Inc
dated March 29, 2000
3.1* Form of Fifth Amended and Restated Certificate of
Incorporation of netLibrary, Inc
3.2* Form of Amended and Restated Bylaws of netLibrary, Inc
4.1* Specimen certificate representing the common stock
5.1* Opinion of Hogan & Hartson L.L.P. with respect to legality of
the common stock
10.1 1998 Stock Option Plan effective August 17, 1998
10.2 Amendment to Stock Option Plan dated February 18, 2000
10.3 Lease Agreement by and between Registrant, as Tenant, and TC
Boulder Office, LP, as Landlord, dated July, 1999
10.4 Founder's Stock Purchase Agreement between Registrant and
Timothy Schiewe and Lori Gulstrom Schiewe dated August 1, 1998
10.5 Founder's Stock Purchase Agreement between Registrant and
Ralph Sorenson dated August 1, 1998
10.6 Amendment to Founder's Stock Purchase Agreement between
Registrant and Founders dated May 17, 1999
10.7 Series A Preferred Stock Purchase Agreement between Registrant
and the parties whose signatures appear on the signature pages
thereto dated August 20, 1998
10.8 Amendment and Addendum to Series A Preferred Stock Purchase
Agreement between Registrant and the parties whose signatures
appear on the signature pages thereto dated January 6, 1999
10.9 Series B Preferred Stock Purchase Agreement between Registrant
and the parties whose signatures appear on the signature pages
thereto dated May 17, 1997
10.10 Series C Preferred Stock Purchase Agreement between Registrant
and the parties whose signatures appear on the signature pages
thereto dated October 8, 1999
10.11.1 Series D Preferred Stock Purchase Agreement between Registrant
and the parties whose signatures appear on the signature pages
thereto dated January 18, 2000
10.11.2 Series D Preferred Stock Purchase Agreement between Registrant
and the parties whose signatures appear on the signature pages
thereto dated January 18, 2000
10.12 Agreement Regarding Management Rights between Registrant and
Sequel Limited Partnership dated August 1998
10.13 Letter Agreements between Registrant and Ralph Sorenson dated
August 10, 1998 and January 4, 1999
10.14 Letter Agreement between Registrant and Concept Ventures, Inc.
dated August 19, 1998
10.15 Master Services Agreement between Registrant and Exodus
Communications, Inc. dated effective August 23, 1999
10.16 Second Amended and Restated Investors Rights Agreement between
Registrant and the parties whose signatures appear on the
signature pages thereto dated October 8, 1999
10.17 Amendment to Second Amended and Restated Investors Rights
Agreement between Registrant and the parties whose signatures
appear on the signature pages thereto dated January 18, 2000
10.18 Second Amended and Restated Stockholders Agreement between
Registrant and the parties whose signatures appear on the
signature pages thereto dated October 8, 1999
10.19 Amendment to Second Amended and Restated Stockholders
Agreement between Registrant and the parties whose signatures
appear on the signature pages thereto dated January 18, 2000
10.20 Second Amendment to Second Amended and Restated Stockholders
Agreement between Registrant and the parties whose signatures
appear on the signature pages thereto dated February 18, 2000
10.21 Warrant to Purchase Stock issued to Imperial Bancorp, issue
date September 3, 1999
10.22 Warrant to Purchase Stock issued to Concept Ventures, Inc.
effective as of January 8, 1999
10.23 Warrant to Purchase Stock issued to Silicon Valley Bank, issue
date March 15, 1999
10.24 Preincorporation and Contribution Agreement dated as of August
1, 1998
10.25* Option to purchase 5,000 shares of common stock granted to
Answer Technology, Inc.
16.1 Letter on Change in Certifying Accountant dated March 20, 2000
21.1 List of Subsidiaries
II-4
<PAGE> 113
23.1.1 Consent of Independent Public Accountants - Deloitte & Touche
LLP
23.1.2 Consent of Independent Public Accountants - Deloitte & Touche
LLP
23.2* Consent of Hogan & Hartson L.L.P. (included in Exhibit 5.1)
24.1 Power of Attorney (imbedded in signature page)
27.1 Financial Data Schedule
----------
* To be filed by amendment.
(b) Financial Statement Schedules:
All other schedules are omitted because they are not
required, are not applicable or the information is included in the consolidated
financial statements or notes thereto.
ITEM 17. UNDERTAKINGS.
The undersigned registrant hereby undertakes to provide to the
underwriters at the closing specified in the underwriting agreements
certificates in such denominations and registered in such names as required by
the underwriters to permit prompt delivery to each purchaser.
Insofar as indemnification for liabilities arising under the
Securities Act may be permitted to directors, officers and controlling persons
of the registrant pursuant to the foregoing provisions, or otherwise, the
registrant has been advised that in the opinion of the Securities and Exchange
Commission such indemnification is against public policy as expressed in the Act
and is, therefore, unenforceable. In the event that a claim for indemnification
against such liabilities (other than the payment by the registrant of expenses
incurred or paid by a director, officer or controlling person of the registrant
in the successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the securities being
registered, the registrant will, unless in the opinion of its counsel the matter
has been settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against public
policy as expressed in the Act and will be governed by the final adjudication of
such issue.
The undersigned registrant hereby undertakes that:
(1) For purposes of determining any liability under the Securities Act
of 1933, the information omitted from the form of prospectus filed as
part of this registration statement in reliance upon Rule 430A and
contained in a form of prospectus filed by the registrant pursuant to
Rule 424(b)(1) or (4) or 497(h) under the Securities Act shall be
deemed to be part of this registration statement as of the time it was
declared effective.
(2) For the purpose of determining any liability under the Securities
Act of 1933, each post-effective amendment that contains a form of
prospectus shall be deemed to be a new registration statement relating
to the securities offered therein, and the offering of such securities
at that time shall be deemed to be the initial bona fide offering
thereof.
II-5
<PAGE> 114
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the
registrant has duly caused this Registration Statement to be signed on its
behalf by the undersigned, thereunto duly authorized, in the city of Boulder,
State of Colorado, on August 17, 2000.
netLibrary, Inc
By: /s/ ROBERT W. KAUFMAN
-------------------------------------
Robert W. Kaufman
Chief Executive Officer and President
POWER OF ATTORNEY
Each person whose signature appears below constitutes and appoints
Timothy R. Schiewe, Robert W. Kaufman, and Nicholas Cuccaro and each of them,
his or her true and lawful attorneys-in-fact and agents, with full power of
substitution and resubstitution, from such person and in each person's name,
place and stead, in any and all capacities, to sign any and all amendments
(including post-effective amendments) to this registration statement or any
registration statement relating to this registration statement under Rule 462
under the Securities Act of 1933 and to file the same, with all exhibits thereto
and all documents in connection therewith, with the Securities and Exchange
Commission, granting unto said attorneys-in-fact and agents, and each of them,
full power and authority to do and perform each and every act and thing
requisite and necessary to be done as fully to all intents and purposes as he or
she might or could do in person, hereby ratifying and confirming all that said
attorneys-in-fact and agents or any of them, or his, her or their substitute or
substitutes, may lawfully do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Act of 1933,
this Registration Statement has been signed by the following persons in the
capacities indicated on the dates indicated.
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
--------- ----- ----
<S> <C> <C>
/s/ ROBERT W. KAUFMAN
--------------------------------------------
Robert W. Kaufman Chief Executive Officer, President and Director August 17, 2000
(Principal Executive Officer)
/s/ TIMOTHY R. SCHIEWE
--------------------------------------------
Timothy R. Schiewe Chairman of the Board of Directors August 17, 2000
/s/ NICHOLAS J. CUCCARO
--------------------------------------------
Nicholas J. Cuccaro Chief Financial Officer August 17, 2000
(Principal Financial and Accounting Officer)
/s/ SCOTT CARPENTER
--------------------------------------------
Scott Carpenter Director August 17, 2000
/s/ ROBERT FINZI
--------------------------------------------
Robert Finzi Director August 17, 2000
</TABLE>
II-6
<PAGE> 115
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
--------- ----- ----
<S> <C> <C>
/s/ JONATHAN NEWCOMB
--------------------------------------------
Jonathan Newcomb Director August 17, 2000
/s/ RALPH Z. SORENSON
--------------------------------------------
Ralph Z. Sorenson Director August 17, 2000
/s/ THOMAS G. WASHING
--------------------------------------------
Thomas G. Washing Director August 17, 2000
</TABLE>
II-7
<PAGE> 116
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
------- -----------
<S> <C>
1.1* Form of Underwriting Agreement
2.1 Agreement and Plan of Merger among Registrant, NL PP.Com
Acquisition Corporation and PeanutPress.com, Inc. dated
February 18, 2000
2.2 Asset Purchase Agreement between Registrant and MetaText, Inc.
dated March 29, 2000
3.1* Form of Fifth Amended and Restated Certificate of
Incorporation of netLibrary, Inc.
3.2* Form of Amended and Restated Bylaws of netLibrary, Inc.
4.1* Specimen certificate representing the common stock
5.1* Opinion of Hogan & Hartson L.L.P. with respect to legality of
the common stock
10.1 1998 Stock Option Plan effective August 17, 1998
10.2 Amendment to Stock Option Plan dated February 18, 2000
10.3 Lease Agreement by and between Registrant, as Tenant, and TC
Boulder Office, LP, as Landlord, dated July, 1999
10.4 Founder's Stock Purchase Agreement between Registrant and
Timothy Schiewe and Lori Gulstrom Schiewe dated August 1, 1998
10.5 Founder's Stock Purchase Agreement between Registrant and
Ralph Sorenson dated August 1, 1998
10.6 Amendment to Founder's Stock Purchase Agreement between
Registrant and Founders dated May 17, 1999
10.7 Series A Preferred Stock Purchase Agreement between Registrant
and the parties whose signatures appear on the signature pages
thereto dated August 20, 1998
10.8 Amendment and Addendum to Series A Preferred Stock Purchase
Agreement between Registrant and the parties whose signatures
appear on the signature pages thereto dated January 6, 1999
10.9 Series B Preferred Stock Purchase Agreement between Registrant
and the parties whose signatures appear on the signature pages
thereto dated May 17, 1997
10.10 Series C Preferred Stock Purchase Agreement between Registrant
and the parties whose signatures appear on the signature pages
thereto dated October 8, 1999
10.11.1 Series D Preferred Stock Purchase Agreement between Registrant
and the parties whose signatures appear on the signature pages
thereto dated January 18, 2000
10.11.2 Series D Preferred Stock Purchase Agreement between Registrant
and the parties whose signatures appear on the signature pages
thereto dated January 18, 2000
10.12 Agreement Regarding Management Rights between Registrant and
Sequel Limited Partnership dated August 1998
10.13 Letter Agreements between Registrant and Ralph Sorenson dated
August 10, 1998 and January 4, 1999
10.14 Letter Agreement between Registrant and Concept Ventures, Inc.
dated August 19, 1998
10.15 Master Services Agreement between Registrant and Exodus
Communications, Inc. dated effective August 23, 1999
10.16 Second Amended and Restated Investors Rights Agreement between
Registrant and the parties whose signatures appear on the
signature pages thereto dated October 8, 1999
10.17 Amendment to Second Amended and Restated Investors Rights
Agreement between Registrant and the parties whose signatures
appear on the signature pages thereto dated January 18, 2000
10.18 Second Amended and Restated Stockholders Agreement between
Registrant and the parties whose signatures appear on the
signature pages thereto dated October 8, 1999
10.19 Amendment to Second Amended and Restated Stockholders
Agreement between Registrant and the parties whose signatures
appear on the signature pages thereto dated January 18, 2000
10.20 Second Amendment to Second Amended and Restated Stockholders
Agreement between Registrant and the parties whose signatures
appear on the signature pages thereto dated February 18, 2000
10.21 Warrant to Purchase Stock issued to Imperial Bancorp, issue
date September 3, 1999
10.22 Warrant to Purchase Stock issued to Concept Ventures, Inc.
effective as of January 8, 1999
10.23 Warrant to Purchase Stock issued to Silicon Valley Bank, issue
date March 15, 1999
10.24 Preincorporation and Contribution Agreement dated as of
August 1, 1998
</TABLE>
<PAGE> 117
<TABLE>
<S> <C>
10.25* Option to purchase 5,000 shares of common stock granted to
Answer Technology, Inc.
16.1 Letter on Change in Certifying Accountant dated March 20, 2000
21.1 List of Subsidiaries
23.1.1 Consent of Independent Public Accountants - Deloitte & Touche
LLP
23.1.2 Consent of Independent Public Accountants - Deloitte & Touche
LLP
23.2* Consent of Hogan & Hartson L.L.P. (included in Exhibit 5.1)
24.1 Power of Attorney (imbedded in signature page)
27.1 Financial Data Schedule
</TABLE>
----------
* To be filed by amendment.
