UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended June 30, 2000
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ____________________ to_____________________
Commission file number 0-16730
MARKETING SERVICES GROUP, INC.
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(Name of small business issuer in its charter)
Nevada 88-0085608
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(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
333 Seventh Avenue, 20th Floor
New York, New York 10001
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(Address of principal executive offices) (Zip Code)
Issuer's telephone number, including area code: (917) 339-7100
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: ____
Common Stock, par value $.01 per share
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(Title of class)
Check whether the Issuer (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding
12 months (or for such shorter period that the Registrant was required to file
such reports), and (2) has been subject to such filing requirements for the past
90 days.
X Yes __ No
Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-K is not contained in this form, and no disclosure will be
contained, to the best of Registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-K
or any amendment to this Form 10-K. [ ]
As of September 15, 2000, the aggregate market value of the voting stock held by
non-affiliates of the Registrant was approximately $133,000,000.
As of September 15, 2000, there were 30,018,832 shares of the Registrant's
common stock outstanding.
Documents incorporated by reference: Portions of the Company's definitive proxy
statement expected to be filed pursuant to Regulation 14A of the Securities
Exchange Act of 1934 have been incorporated by reference into Part III of this
report.
<PAGE>
PART I
Special Note Regarding Forward-Looking Statements
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Some of the statements contained in this Annual Report on Form 10-K discuss our
plans and strategies for our business or state other forward-looking statements,
as this term is defined in the Private Securities Litigation Reform Act of 1995.
Such forward-looking statements involve known and unknown risks, uncertainties
and other factors which may cause the actual results, performance or
achievements of the Company, or industry results to be materially different from
any future results, performance or achievements expressed or implied by such
forward-looking statements. Such factors include, among others, the following:
general economic and business conditions; industry capacity; direct marketing
and other industry trends; demographic changes; competition; the loss of any
significant customers; changes in business strategy or development plans;
availability and successful integration of acquisition candidates; availability,
terms and deployment of capital; advances in technology; retention of clients
not under long-term contract; quality of management; business abilities and
judgment of personnel; availability of qualified personnel; changes in, or the
failure to comply with, government regulations; and technology,
telecommunication and postal costs.
Item 1 - Business
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General
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Marketing Services Group, Inc. (the "Company" or "MSGi") through its
subsidiaries, is a leading provider of vertically integrated marketing
solutions. The Company provides seamless and cohesive traditional and
interactive marketing programs to leading companies around the world, including
American Express, Chase Manhattan, Columbia House, General Electric, Lincoln
Center for the Performing Arts, Madison Square Garden, Salvation Army, Sierra
Club, Verizon and Walt Disney.
The Company is a dominant player in the entertainment, publishing, fundraising
and financial service sectors as well as other key vertical markets.
MSGi provides marketing solutions to approximately 5,000 clients worldwide with
pro forma revenues for the fiscal year 2000 of approximately $195 million. The
Company has over 1,000 employees with material offices in New York, Boston,
Philadelphia, Atlanta, Houston, Los Angeles and San Francisco.
MSGi provides a wide range of services including strategic planning, creative,
direct marketing, database marketing, database management, telemarketing,
telefundraising, print production and mailing, media planning and buying,
e-commerce applications, Web development and hosting, and online ad sales and
consulting.
The Company's Strategy
----------------------
MSGi's strategy to enhance its position as a value-added premium provider of
integrated marketing services is to:
o Focus on our integrated marketing services business which include
comprehensive direct marketing services, including Internet related
services;
o Deepen market penetration in new industries and market segments as well as
those currently served by the Company;
o Develop existing and create new proprietary databases, proprietary database
software and database management applications; and
o Pursue strategic acquisitions, joint ventures and marketing alliances to
expand the services offered and industries served.
Background
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The Company was originally incorporated in Nevada in 1919. The current business
of MSGi, previously known as All-Comm Media Corporation and prior to that as
Sports-Tech, Inc., began operations in 1995.
Through the years, the Company has acquired and formed direct marketing
companies . The Company's acquisitions are summarized as follows:
Date Name of Company Acquired Service Performed
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May 1995 Stephen Dunn & Associates, Inc. Telemarketing and
telefundraising,
specializing in the arts,
educational and other
institutional tax exempt
organizations.
October 1996 Metro Direct, Inc. Develops and markets a
variety of database
marketing and direct
marketing products.
July 1997 Pegasus Internet, Inc. Provides a full suite of
Internet services including
content development and
planning, marketing strategy,
on-line ticketing system
development, technical site
hosting, graphic design,
multimedia production and
electronic commerce.
December 1997 Media Marketplace, Inc. Specializes in providing list
Media Marketplace management, list brokerage
Media Division, Inc. and media planning and buying
services.
May 1998 Formed Metro Fulfillment, Inc. Performed services such as
on-line commerce, real-time
database management inbound/
outbound customer service,
custom packaging, assembling,
product warehousing, shipping,
payment processing and retail
distribution.
January 1999 Stevens-Knox & Associates, Inc. Specializes in providing list
Stevens-Knox List Brokerage, Inc. management, list brokerage and
Stevens-Knox International, Inc. database management services
March 1999 Sold 85% of Metro Fulfillment, Inc.
May 1999 CMG Direct Corporation Specializes in database
services
September 1999 Sold remaining 15% of
Metro Fulfillment, Inc.
March 2000 Grizzard Advertising, Inc. Specializes in strategic
planning, creative services,
database management,
print-production, mailing and
Internet marketing
March 2000 The Coolidge Company Specializes in list management
and list brokerage services
Developments During Fiscal 2000
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On October 1, 1999, the Company completed an acquisition of approximately 87% of
the outstanding common stock of Cambridge Intelligence Agency for a total
purchase price of $2.4 million which consisted of $1.6 million in common stock
of the Company an interest in the Company's Permission Plus software and related
operations valued at $.8 million, subject to certain adjustments. Concurrently
with this acquisition, the Company formed WiredEmpire, a licensor of email
marketing tools. Effective with the acquisition, Cambridge Intelligence Agency
and the Permission Plus asset was merged into WiredEmpire. In January 2000, the
Company contributed its Pegasus subsidiary to WiredEmpire for additional shares
of common stock.
In March 2000, the Company completed a private placement of 3,120,001 shares of
Convertible Preferred Stock of its WiredEmpire subsidiary for proceeds of
approximately $18.7 million, net of placement fees and expenses of $1.3 million.
In connection with the discontinued operation of WiredEmpire, the Company has
offered to redeem the preferred shares in exchange for MSGi common shares. The
redemption is expected to occur in the second quarter of fiscal year 2001.
On September 21, 2000, the Company's Board of Directors approved a plan to
discontinue the operation of its WiredEmpire subsidiary. The Company will shut
down the operations anticipated to be completed by the end of January 2001. The
estimated losses associated with WiredEmpire are approximately $35 million.
These losses include approximately $20 million in losses from operations through
the measurement date and approximately $15 million of loss on disposal which
includes approximately $2 million in losses from operations from the measurement
date through the estimated date of disposal. The liability of $18.7 million for
the preferred shareholders is currently included in the net liability of
discontinued operations and it is anticipated that this will be settled in MSGi
stock. The Company has offered to redeem the preferred shares in exchange for
MSGi common shares. The redemption is expected to occur in the second quarter of
fiscal year 2001.
On March 22, 2000, the Company acquired Grizzard Advertising, Inc. for $104.0
million consisting of $47.8 million cash, $5 million for certain hold back
provisions, and aggregate of 2,545,799 shares of common stock of MSGi valued at
$19.04 per share and acquisition costs in the amount of $2.7 million. Grizzard
Advertising, Inc. was founded in 1919 and is ranked the 6th largest Direct
Response Agency in the country (with internal production capabilities) in
reported capitalized billings by the Direct Marketing Association ("DMA").
Grizzard's services include strategic planning, creative services, database
management, print-production, mailing and Internet marketing. Grizzard's client
base includes retail, consumer and business-to-business companies as well as
many premier not-for-profit clients.
On March 31, 2000, the Company acquired The Coolidge Company for $1.6 million
consisting of $.2 million cash, a $.5 million note payable, 22,251 shares of
common stock valued at $16.42 a share and other costs of a nominal amount.
Coolidge provides list management and brokerage services.
In December 1999, the Company acquired a 10% interest in Fusion Networks, Inc.
for $27.5 million in common stock. Fusion Networks became a public entity in
April 2000. At the time, such investment for Fusion Networks stock had a pro
forma value in excess of $50 million. Fusion Networks, Inc. operates the website
www.latinfusion.com. The website is an interactive, multimedia and entertainment
Latin American based portal featuring television, music and e-commerce
capabilities. In June 2000, the Company wrote its investment in Fusion Networks'
down by approximately $20.3 million to the fair value as determined by the
quoted market price. The charge was recorded through the statement of operations
due to the fact that the Company believes the impairment in market value is
other than temporary.
In July 1999, the Company invested $1.6 million to acquire a 10% interest in
Screenzone Media Network, LLC ("Screenzone"). Screenzone is a new interactive
broadcast gateway that was developed to advertise and promote movies, music,
live events and other entertainment at shopping malls and over the Internet. In
June 2000, the Company believed that the carrying value of its investment was
impaired and wrote off its investment in Screenzone.
In October 1999, the Company acquired a 10% interest in Mazescape.com for $.2
million. Mazescape.com is an innovative Internet technology company that
delivers customized, automated recruiting software and services that improve the
performance of corporate recruiters. In June 2000, the Company believed that the
carrying value of its investment was impaired and wrote off its investment.
In September 1999, the Company completed an investment of $5 million to acquire
convertible preferred stock of GreaterGood.com. The Company owns approximately
11% of the outstanding shares of GreaterGood.com. GreaterGood.com builds,
co-markets and manages online shopping villages for not-for-profit organization
web sites. In June 2000, the Company believed that the carrying value of its
investment was impaired and wrote off its investment in Greatergood.com.
As detailed above, the Company has taken a fourth quarter charge of
approximately $27 million for unrealized losses on Internet investments made
during the fiscal year based on all available information. The Company believes
such losses are a result of significant changes in Wall Street valuations of
Internet companies. The Company has suspended its Internet investment strategy
and will focus all efforts on its core direct marketing operations.
The Company's shares are traded on the NASDAQ National Market under the symbol
"MSGI". The Company's principal executive offices are located at 333 Seventh
Avenue, 20th Floor, New York, NY 10001. Its telephone number is (917) 339-7100.
Additional information is available on the Company's website: www.msginet.com.
Capital Stock and Financing Transactions
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Private Placement of Common Stock:
In September 1999, the Company completed a private placement of 3,130,586 shares
of common stock for proceeds of approximately $30.5 million, net of
approximately $2.3 million of placement fees and expenses. The shares had
certain registration rights which were fulfilled by the Company. The proceeds of
the private placement were used in connection with certain Internet investments,
to repay certain short-term debt and for working capital purposes.
Preferred Stock:
In February 2000, the Company completed a private placement of 30,000 shares of
Series E Convertible Preferred Stock and Warrants for proceeds of approximately
$29.5 million, net of placement fees and expenses. The shares are convertible at
any time at $24.473, per share, subject to reset on August 18, 2000. On August
18, 2000, the conversion price was reset to $12.24 per share. The warrants are
exercisable for a period of two years at an exercise price of $28.551. The
proceeds were used to repay certain debt and for working capital purposes.
Debt:
In March 2000, the Company entered into a credit agreement (the "Credit
Agreement") for $58 million senior secured facility in connection with the
acquisition of Grizzard. The Credit Agreement is comprised of a $13 million
revolving line of credit, $40 million term loan and $5 million standby letter of
credit. The Credit Agreement expires on March 31, 2005 and bears interest at
either prime rate or LIBOR plus an applicable margin ranging from 1.5% to 2.5%,
for prime and 2.5% to 3.5% for LIBOR based on a financial ratio. The loans are
collaterialized by substantially all of the assets of the Company and are
guaranteed by all of the Company's non-internet subsidiaries.
The Direct Marketing Industry
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Overview. Direct marketing is used for a variety of purposes including
lead-generation and prospecting for new customers, enhancing existing customer
relationships, exploring the potential for new products and services and
establishing new products. Unlike traditional mass marketing aimed at a broad
audience and focused on creating image and general brand or product awareness,
successful direct marketing requires the identification and analysis of
customers and purchasing patterns. Such patterns enable businesses to more
easily identify and create a customized message aimed at a highly defined
audience. Previous direct marketing activity consisted principally of direct
mail, but now has expanded into the use of multiple mediums including
telemarketing, print, television, radio, video, CD-ROM, on-line services, the
Internet and a variety of other interactive marketing formats.
The success of a direct marketing program is the result of the analysis of
customer information and related marketing data. Database management
capabilities allow for the creation of customer lists with specific,
identifiable attributes. Direct marketers use these lists to customize messages
and marketing programs to generate new customers whose purchasing patterns can
be statistically analyzed to isolate key determinants. In turn, this enables
direct marketers to continually evaluate and adjust their marketing programs, to
measure customer response rates in order to assess returns on marketing
expenditures, and to increase the effectiveness of such marketing programs.
Database management covers a range of services, including general marketing
consultation, execution of marketing programs and the creation and development
of customer databases and sales tracking and data analysis software. Data
analysis software consolidates and analyzes customer profile information to find
common characteristics among buyers of certain products. The results of such
tracking and analysis are used to define and match customer and product
attributes from millions of available database files for future direct marketing
applications. The process is one of continual refinement, as the number of
points of contact with customers increases, together with the proliferation of
mediums available to reach customers.
Telemarketing/telefundraising projects generally require significant amounts of
customer information supplied by the client or third party sources. Custom
telemarketing/telefundraising programs seek to maximize a client's direct
marketing results by utilizing appropriate databases to communicate with a
specific audience. This customization is often achieved through sophisticated
and comprehensive data analysis which identifies psychographic, cultural and
behavioral patterns in specific geographic markets.
Industry Growth. The use of direct marketing has increased over the last few
years due in part to the relative cost efficiency of direct marketing compared
to mass marketing, as well as the rapid development of more powerful and more
cost-effective information technology and data capture capabilities. According
to industry sources, over the next decade, demographic shifts and changes in
lifestyle, combined with new marketing mediums, are expected to create higher
demand by businesses for marketing information and services to provide
businesses with direct access to their customers and a more efficient means of
targeting specific audiences and developing long-term customer relationships.
According to the most recently available information from the DMA, the
industries' largest trade association, total U.S. direct marketing advertising
expenditures was projected to reach $176.5 billion during 1999, a 7.2% increase
over 1998. The 1999 direct marketing advertising expenditure figure is inclusive
of all direct marketing through various mediums including direct mail, telephone
marketing, newspaper, magazine, TV, radio and internet marketing. Direct
marketing advertising expenditures were projected to represent 57.1% of all US
advertising expenditures, estimated to be $308.9 billion, in 1999. Direct mail
accounts for approximately 25% of total direct marketing expenditures
nationwide.
Additionally, consumer direct marketing advertising expenditures via telephone
marketing were projected to be $24.4 billion in 1999, growing to $31.2 billion
in 2004. The compounded annual growth in this segment was estimated to be 6.4%
from 1994 through 1999 and is projected to be 5.0% from 1999 through 2004.
Corporate marketing departments often lack the technical expertise to create,
manage and control highly technical aspects of the direct marketing process. As
a result, the Company believes that there is a growing trend among direct
marketers to outsource direct marketing programs.
Industry Consolidation. The direct marketing industry is extremely fragmented.
According to industry sources, there are almost 11,000 direct marketing services
and database services firms in the United States. The Company believes that most
of such businesses are small, specialized companies which offer limited
services. However, industry consolidation has increased in the last few years
resulting in a greater number of large companies providing services similar to
those provided by the Company. See "Competition." The Company believes that much
of this consolidation is due to: (i) economies of scale in hardware, software
and other marketing resources; (ii) cross-selling of services; and (iii)
coordinating various components of direct marketing and media programs within a
single, reliable environment. The Company believes these trends are likely to
continue due in part to client demand for more cost-effective service to perform
increasingly complex functions.
Services
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The Company's operating businesses provide comprehensive database management,
Internet marketing, custom telemarketing/telefundraising, print production,
mailing capabilities, marketing communications and other direct marketing
services. The principal advantages of customized services include: (i) the
ability to expand and adapt a database to the client's changing business needs;
(ii) the ability to have services operate on a flexible basis consistent with
the client's goals; and (iii) the integration with other direct marketing,
Internet, database management and list processing functions, which are necessary
to keep a given database current. Some services offered by the Company are
described below.
Database Management Services. The Company's database management services begin
with database creation and development, which include the planning stages and
analytical processes to review all of the client's customer and operational
files. Utilizing both proprietary and commercial software, the Company
consolidates all of the separate information and relationships across multiple
files and converts the client's raw information into a consolidated format. Once
the client's customer data is consolidated and the database created, the data is
enhanced using a wide selection of demographic, geographic, census and lifestyle
information for over 95 million households and 153 million individuals to
identify patterns and probabilities of behavior. The Company licenses this
information from a variety of leading data compilers.
The combination of each client's proprietary customer information with external
data files provides a customized profile of a client's customer base, enabling
the client, through the use of the Company's behavior modeling and analysis
services, to design a direct marketing program for its customers. Through the
development of a scoring model, the client can segment its database and
determine its best customers and prospects in each marketplace. The entire
process results in a customized direct marketing program that can be targeted to
distinct audiences with a high propensity to buy the client's products or
services. Because of the dynamic nature and complexity of these databases,
clients frequently request that the Company update such databases with the
results of recent marketing programs and periodically perform list processing
services as part of the client's ongoing direct marketing efforts.
Data Processing. The Company's primary data processing service is to manage from
the Company's data centers, all or a portion of a client's marketing information
processing needs. After migrating a client's raw data to one of the Company's
data centers, the Company's technology allows the client to continue to request
and access all available information from remote sites. The database can also be
verified for accuracy and overlaid with external data elements to further
identify specific consumer behavior.
Other data processing services provided include migration (takeover and
turnover) support for database maintenance or creation, merge/purge, data
overlay and postal qualification. The Company also offers on-line and batch
processing capacity, technical support, and data back-up and recovery.
Strategic Planning and Creative Services. The Company offers its clients
end-to-end business solutions. The process begins with strategic planning and
development. Through consultative approach, each client is taken step by step in
campaign management, including positioning development, integration of
communication strategies and creative services. Some of the capabilities include
copy development, design and art production.
List Services. List processing includes the preparation and generation of
comprehensive name and address lists which are used in direct marketing
promotions. The Company's state-of-the-art data centers and large volume
processing capabilities allow the Company to meet the list processing needs of
its clients through its advanced list processing software applications, list
brokerage and list management operations. The Company customizes list processing
solutions by utilizing a variety of licensed software products and services,
such as Address Conversion and Reformat, Address Standardization and Enhanced
Merge/Purge, in addition to services provided by third parties, including;
National Change of Address (NCOA), Delivery Sequence File and Locatable Address
Conversion System. Other licensed products include databases used for
suppressions such as the DMA Mail Preference File and the American Correctional
Association Prison Suppress File.
The Company also offers an array of list acquisition techniques. Approximately
12,000 lists are available for rental in the list industry. The Company's
account managers, many of whom are recruited from existing Company accounts, use
their industry experience as well as sophisticated computer profiles to
recommend particular lists for customer acquisition campaigns. The Company
acquires hundreds of millions of records annually for customer acquisition
campaigns. The Company also manages several hundred lists for rental purposes on
behalf of list owners.
Database Product Development. To further leverage its database management and
list processing services, the Company has participated in the development of a
new product using client/server technology. The product is a scaleable,
three-tiered client/server data warehouse system that provides desktop,
real-time decision support and marketing analysis to a non-technical user. This
application is an intuitive, graphical user interface tool that offers both
flexibility and the ability to access and analyze large customer files exceeding
100 million records. The incorporation of third-party software, relational and
multidimensional database technology in an open system environment is intended
to allow the Company's clients to take advantage of the latest developments in
high-speed computing, utilizing both single and multi-processor hardware.
Response Analysis, Predictive Muclelling and Testing Services. Response analysis
of direct mail respondents, including age, demographic and lifestyle attributes,
to determine which particular attributes of the responding universe played a
part in increasing the recipients' propensity to respond to the offer. This
service is provided to improve direct marketing response rates.
Market Analysis. The Company's market research services include problem
conceptualization, program design, data gathering and results analysis. These
services are conducted through telephone, mail and focus groups. Through the use
of data capture technology, the Company is also able to obtain data from a
statistically predictable sample of market survey contacts. The Company then
tabulates and analyzes fielded data using multi-variate statistical techniques,
and produces detailed reports to answer clients' marketing questions and suggest
further marketing opportunities.
Production and Mailing Services. Full range of complex / lasering, insertion and
mailing services. The Company provides many of its commercial customers
production and mailing services that are customized for each recipient,
requiring highly sophisticated systems and capabilities. The Company is one of a
limited number of companies capable of performing these services on a fully
automated basis, resulting in high volume, accuracy, efficiency and customer
service. Due to its highly automated facilities, the Company is also capable of
producing and mailing up to 1 million pieces of mail over a single 24-hour
period.
Direct Mail Support Services. The Company's direct mail support services include
preparing and coordinating database services and custom
telemarketing/telefundraising services for use in addressing and mailing
materials to current and potential customers. The Company obtains name and
address data from clients and other external sources, processes the data to
eliminate duplicates, corrects errors, sorts for postal discounts and
electronically prepares the data for other vendors who will address pre-printed
materials.
Media Planning and Buying. The Company's Media Division is a multifaceted direct
response media broker specializing in direct advertising such as: traditional
print advertising; cooperative direct mail programs; Sunday supplements; card
decks and more.
Internet Services. The Company provides a full suite of Internet services such
as content planning to market strategy, from technical site hosting to graphic
design and multimedia production. The Company has developed Web sites from the
perspective of both client and presence provider, resulting in an intimate
knowledge of the issues encountered by both entities in a Web development
project. From the initial planning sessions and identification of an
organization's promotional objectives to the live cutover of the finished site,
the Company takes a proactive role in ensuring the most efficient development
process for the client and the most rewarding experience for their online
clientele. Once the site is up and running, the Company provides technical
maintenance and ongoing consulting to keep Web resource current, technologically
up-to-date and graphically ahead of the curve. The Company generates usage
reports, complete with optional analysis and feedback features.
Custom Telemarketing/Telefundraising Services. Custom
telemarketing/telefundraising services are designed according to the client's
existing database and any other databases which may be purchased or rented on
behalf of the client to create a direct marketing program or fundraising
campaign to achieve specific objectives. After designing the program according
to the marketing information derived from the database analysis, it is
conceptualized in terms of the message content of the offer or solicitation, and
an assessment is made of other supporting elements, such as the use of a direct
mail letter campaign.
Typically, a campaign is designed in collaboration with a client, tested for
accuracy and responsiveness and adjusted accordingly, after which the full
campaign is commenced. The full campaign runs for a mutually agreed period,
which can be shortened or extended depending on the results achieved.
The Company maintains a state-of-the-art outbound telemarketing/telefundraising
calling center in Berkeley, California. The Berkeley calling center increases
the efficiency of its outbound calling by using a computerized predictive
dialing system supported by a UNIX-based call processing server system and
networked computers. The predictive dialing system, using relational database
software, supports 72 outbound telemarketers and maximizes calling efficiency by
reducing the time between calls for each calling station and reducing the number
of calls connected to wrong numbers, answering machines and electronic devices.
The system provides on-line real time reporting of caller efficiency and client
program efficiency as well as flexible and sophisticated reports analyzing
caller sales results and client program results against Company and client
selected parameters. The Berkeley calling center has the capacity to serve up to
15 separate clients or projects simultaneously and can produce 27,000 valid
contacts per week (1,400,000 per year) or 3,400 calling hours per week (176,800
per year) on a single shift basis. A valid contact occurs when the caller speaks
with the intended person and receives a "yes," "no" or "will consider" response.
The existing platform can be expanded to accommodate 100 predictive dialing
stations with a single shift capacity of approximately 1,900,000 valid contacts
per year.
Marketing and Sales
-------------------
The Company's marketing strategy is to offer customized solutions to clients'
database management, Internet, telemarketing/telefundraising, fulfillment and
other direct marketing requirements. Historically, the Company's operating
businesses have acquired new clients and marketed their services by attending
trade shows, advertising in industry publications, responding to requests for
proposals, pursuing client referrals and cross-selling to existing clients. The
Company targets those companies that have a high probability of generating
recurring revenues because of their ongoing direct marketing needs, as well as
companies which have large customer bases that can benefit from targeted direct
marketing database and fulfillment services and customized
telemarketing/telefundraising services.
The Company markets its marketing services through a sales force consisting of
both salaried and commissioned sales persons. In some instances, account
representatives, will coordinate a client's database management, Internet,
custom telemarketing/telefundraising, fulfillment and/or other direct marketing
needs to identify cross-selling opportunities.
Account representatives are responsible for keeping existing and potential
clients informed of the results of recent marketing campaigns, industry trends
and new developments in the Company's technical database resources. Often, the
Company develops an initial pilot program for new or potential clients to
demonstrate the effectiveness of its services. Access to data captured during
such pilot programs allows the Company and its clients to identify previously
unrecognized target market opportunities and to modify or enhance the client's
marketing effort on the basis of such information. Additionally, the Company is
able to provide its clients with current updates on the progress of ongoing
direct marketing programs.
Pricing for direct marketing services is dependent upon the complexity of the
services required. In general, the Company establishes pricing for clients by
detailing a broad range of service options and quotation proposals for specific
components of a direct marketing program. These quotes are based in part on the
volume of records to be processed, complexity of assembly, and the level of
customization required. Pricing for data processing services is dependent upon
the anticipated range of computer resource consumption. Typically, clients are
charged a flat or stepped-up rate for data processing services provided under
multi-year contracts. If the processing time, data storage, retrieval
requirements and output volume exceed the budgeted amounts, the client may be
subject to an additional charge. Minimum charges and early termination charges
are typically included in contracts or other arrangements between the Company
and the client.
On-site telemarketing and telefundraising fees are generally based on a mutually
agreed percentage of amounts received by the Company's clients from a campaign.
Off-site fees are typically based on a mutually agreed amount per contact with a
potential donor.
Client Base
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The Company believes that its large and diversified client base is a primary
asset which contributes to stability and the opportunity for growth in revenues.
The Company has approximately 5,000 clients who utilize its various marketing
services. These clients are comprised of leading commercial businesses and
nonprofit institutions in the publishing, entertainment marketing, public
broadcasting, education, retail, financial services (including credit card, home
mortgage and home equity services), education, travel and leisure and healthcare
industries. No single client accounted for more than 5% of total revenue in
fiscal 2000.
Competition
-----------
The direct marketing services industry is highly competitive and fragmented,
with no single dominant competitor. The Company competes with companies that
have more extensive financial, marketing and other resources and substantially
greater assets than those of the Company, thereby enabling such competitors to
have an advantage in obtaining client contracts where sizable asset purchases or
investments are required. The Company also competes with in-house database
management, telemarketing/telefundraising and direct mail operations of certain
of its clients or potential clients.
Competition is based on quality and reliability of products and services,
technological expertise, historical experience, ability to develop customized
solutions for clients, technological capabilities and price. The Company
believes that it competes favorably, especially in the arts and entertainment,
publishing, financial services and fundraising sectors. The Company's principal
competitors include: Acxiom Corporation, Harte-Hanks Communications, Experian
North America, Fair-Isaac, Epsilon and Abacus Direct, a DoubleClick subsidiary.
The current market is highly competitive and the Company anticipates that new
competitors will continue to enter the market.
Facilities
----------
The Company leases all of its real property, except for certain properties in
Atlanta and Houston which are owned. Facilities for its headquarters are in New
York City; it's sales and service offices are located in New York City; Newtown,
Pennsylvania, Berkeley and Los Angeles, California; Wilmington and Burlington,
Massachusetts; Atlanta, Georgia; Houston, Texas; and London; its data centers
are located in New York City, Houston and Boston; its telemarketing calling
center in Berkeley and production facility in Houston. The Company's
administrative office for its telemarketing/telefundraising operations in Los
Angeles is located in office space leased from the former owner of the
telemarketing business, which lease the Company believes is on terms no less
favorable than those that would be available from independent third parties. The
Company believes that all of its facilities are in good condition and are
adequate for its current needs through fiscal 2001. The Company believes such
space is readily available at commercially reasonable rates and terms. The
Company also believes that its technological resources, including the mainframe
computer and other data processing and data storage computers and electronic
machinery at its data centers in New York City, Houston and Boston, as well as
its related operating, processing and database software, are all adequate for
its needs through fiscal 2001. Nevertheless, the Company intends to expand its
technological resources, including computer systems, software, telemarketing
equipment and technical support. Any such expansion may require the leasing of
additional operating office space.
Intellectual Property Rights
----------------------------
The Company relies upon its trade secret protection program and non-disclosure
safeguards to protect its proprietary computer technologies, software
applications and systems know-how. In the ordinary course of business, the
Company enters into license agreements and contracts which specify terms and
conditions prohibiting unauthorized reproduction or usage of the Company's
proprietary technologies and software applications. In addition, the Company
generally enters into confidentiality agreements with its employees, clients,
potential clients and suppliers with access to sensitive information and limits
the access to and distribution of its software documentation and other
proprietary information. No assurance can be given that steps taken by the
Company will be adequate to deter misuse or misappropriation of its proprietary
rights or trade secret know-how. The Company believes that there is rapid
technological change in its business and, as a result, legal protections
generally afforded through patent protection for its products are less
significant than the knowledge, experience and know-how of its employees, the
frequency of product enhancements and the timeliness and quality of customer
support in the usage of such products.
Government Regulation and Privacy Issues
----------------------------------------
The telemarketing industry has become subject to an increasing amount of federal
and state regulation. Violation of these rules may result in injunctive relief,
monetary penalties or disgorgement of profits and can give rise to private
actions for damages. While the Federal Trade Commission's new rules have not
required or caused the Company to alter its operating procedures, additional
federal or state consumer-oriented legislation could limit the telemarketing
activities of the Company or its clients or significantly increase the Company's
costs of regulatory compliance. Several of the industries which the Company
intends to serve, including the financial services, and healthcare industries,
are subject to varying degrees of government regulation. Although compliance
with these regulations is generally the responsibility of the Company's clients,
the Company could be subject to a variety of enforcement or private actions for
its failure or the failure of its clients to comply with such regulations.
In addition, the growth of information and communications technology has
produced a proliferation of information of various types and has raised many new
issues concerning the privacy of such information. Congress and various state
legislatures have considered legislation which would restrict access to, and the
use of, credit and other personal information for direct marketing purposes. The
direct marketing services industry, including the Company, could be negatively
impacted in the event any of these or similar types of legislation are enacted.
With the exception of regulations applicable to business generally, with respect
to the Company's Internet products and services, the Company is not currently
subject to direct regulation by any government agency. Due to increasing
popularity and use of the Internet, however, it is possible that a number of
laws may be adopted with respect to the Internet in the future, covering such
issues as: user privacy; pricing of goods and services offered; and types of
products and service offered..
If the government adopts any additional laws or regulations covering use of the
Internet, such actions could decrease the growth of the Internet. Any such
reduction in the growth of the Internet may reduce demand for the Company's
goods and services and raise the cost to the Company of producing such goods and
services. Finally, the sales of services may be reduced and the costs to produce
such services may be increased if existing U.S state and federal laws and
foreign laws governing issues such as commerce, taxation, property ownership,
defamation and personal privacy are increasingly applied to the Internet.
Employees
---------
At June 30, 2000, the Company employed approximately 2,780 persons, of whom
1,100 were employed on a full-time basis. None of the Company's employees are
covered by collective bargaining agreements and the Company believes that its
relations with its employees are good.
<PAGE>
Item 2 - Properties
-------------------
The Company and certain subsidiaries own land and buildings in Houston and
Atlanta. In addition, the Company and certain subsidiaries lease facilities for
office space summarized as follows and in Note 13 of Notes to Consolidated
Financial Statements.
Location Square Feet
-------- -----------
New York, New York 40,900
Atlanta, Georgia 30,500
Burlington, Massachusetts 21,000
Wilmington, Massachusetts 20,000
Los Angeles, California 17,100
Newtown, Pennsylvania 10,270
Houston, Texas 6,130
Berkeley, California 6,600
Venice, California 5,500
Altamonte Springs, Florida 2,400
Stamford, Connecticut 1,000
Lincoln, Nebraska 910
Patterson, New York 250
Toronto, Canada 860
London, England 460
Item 3 - Legal Proceedings
--------------------------
In June 1999, certain employees of MSGi Direct, Inc.'s telemarketing subsidiary
voted against representation by the International Longshore and Warehouse Union
("ILWU"). The ILWU has filed unfair practices with the National Labor Relations
Board ("NLRB") alleging that MSGi Direct, Inc.'s telemarketing subsidiary
engaged in unlawful conduct prior to the vote. The NLRB has issued a complaint
seeking a bargaining order and injunctive relief against these charges. An
unfavorable finding will not have any direct financial impact on the Company.
In September 1999, an action was commenced against the Company in the Supreme
Court of New York, Kings County alleging damages of $4.3 million in connection
with the Company's alleged failure to deliver warrants due the plaintiff in June
1996. Although the Company denied all liability, the suit was settled in January
2000 in consideration for the issuance of warrants to acquire 18,000 shares of
common stock of the Company at an exercise price of $1.00 per share.
Accordingly, the Company recognized $315,000 of expense based on the fair market
value of the warrants granted as determined by the Black-Scholes model. The
expense is included in selling general and administrative expenses for the year
ended June 30, 2000.
An employee of Metro Fulfillment, Inc. ("MFI"), which, until March 1999, was a
subsidiary of the Company, filed a complaint in the Superior Court of the State
of California for the County of Los Angeles, Central District, against MSGI and
current and former officers of MSGI. The complaint seeks compensatory and
punitive damages in connection with the individual's employment at MFI. The
Company believes that the allegations in the complaint are without merit and,
the Company has asserted numerous defenses, including that the complaint fails
to state a claim upon which relief can be granted. The Company intends to
vigorously defend against the lawsuit. An estimate of the possible loss cannot
be determined at this time.
In addition to the above, certain other legal actions in the normal course of
business are pending to which the Company is a party. The Company does not
expect that the ultimate resolution of pending legal matters in future periods
will have a material effect on the financial condition, results of operations or
cash flows.
<PAGE>
PART II
Item 5 - Market for Registrant's Common Equity and Related Stockholder Matters
------------------------------------------------------------------------------
The common stock of the Company trades on the NASDAQ National Market under the
symbol "MSGi". The following table reflects the high and low sales prices for
the Company's common stock for the fiscal quarters indicated, as furnished by
the NASD:
Common Stock
------------
Low Sales Price High Sales Price
--------------- ----------------
Fiscal 2000
Fourth Quarter $4.06 $15.00
Third Quarter 15.06 28.75
Second Quarter 11.00 21.13
First Quarter 11.19 29.50
Fiscal 1999
Fourth Quarter $15.93 $51.25
Third Quarter 3.25 14.50
Second Quarter 2.18 3.87
First Quarter 2.03 3.87
As of June 30, 2000, there were approximately 800 registered holders of record
of the Company's common stock. (This number does not include approximately
16,000 investors whose accounts are maintained by securities firms in "street
name".) The Company has not paid any cash dividends on any of its capital stock
in at least the last five years. The Company intends to retain future earnings,
if any, to finance the growth and development of its business and, therefore,
does not anticipate paying any cash dividends in the foreseeable future.
Item 6 - Selected Financial Data
--------------------------------
The selected historical consolidated financial data for the Company presented
below as of and for the five fiscal years ended June 30, 2000 have been derived
from the Company's audited consolidated financial statements. Amounts are in
thousands, except per share data.
<TABLE>
<CAPTION>
Historical
----------------------------------------------------------------
Years ended June 30,
----------------------------------------------------------------
In thousands
1996 1997(1) 1998(2) 1999(3) 2000(4)
-------- -------- --------- --------- ---------
OPERATING DATA:
<S> <C> <C> <C> <C> <C>
Revenue $15,889 $24,145 $51,174 $82,242 $128,607
Amortization and
depreciation $501 $970 $1,486 $2,282 $6,028
Loss from operations $(460) $(3,574)(5) $(580) $(7,072) $(11,292)
Loss from
continuing operations $(1,094) $(5,377) $(780) $(7,646) $(41,130)(11)
Loss from
discontinued operations - - - - (34,543)(12)
Net loss $(1,094) $(5,377)(6) $(780) $(7,646)(8) $(75,673)
Net loss attributable
to common
shareholders $(1,094) $(20,199) $(4,724)(7) $(20,181)(9) $(75,673)
Loss per common share:
From continuing
operations $(0.36) $(2.85) $(0.37) $(1.39) $(1.55)
From discontinued
operations - - - - $(1.30)
------- ------- -------- -------- --------
$(0.36) $(2.85) $(0.37) $(1.39) $(2.85)
Weighted average
common shares
oustanding 3,068 7,089 12,892 14,552 26,582
OTHER DATA:
EBITDA (10) $41 $4 $906 $(4,346) $(5,159)
Net cash used in
operating activities $(884) $(2,664) $(1,886) $(45) $(11,357)
Net cash provided by
(used in) investing
activities: $(572) $578 $(7,281) $(18,939) $(60,116)
Net cash provided by
financing activities $1,631 $3,622 $12,474 $16,035 $ 78,904
Net cash used in
discontinued operations - - - - $(812)
Historical
----------------------------------------------------------------
Years ended June 30,
----------------------------------------------------------------
1996 1997(1) 1998(2) 1999(3) 2000(4)
-------- -------- --------- --------- ---------
BALANCE SHEET DATA:
Cash $1,393 $2,929 $6,235 $3,285 $9,904
Working capital (deficit) $1,651 $189 $5,013 $(9,647) $430
Total intangible assets $7,851 $16,127 $24,771 $56,978 $154,016
Net assets of
discontinued operatons - - - $5,516 -
Total assets $13,301 $25,391 $49,781 $97,627 245,184
Total long term debt,
net of current portion $1,517 $3,205 $204 $5,937 $36,157
Net liabilities of
discontinued operations - - - - $18,347
Convertible preferred
stock $1,306 - $14,367 - 29,417
Total stockholders'
equity $6,945 $13,686 $17,325 $48,928 98,021
</TABLE>
<PAGE>
(1)Effective October 1, 1996, the Company acquired all of the outstanding common
shares of Metro Services Group, Inc., renamed Metro Direct, Inc. The results
of operations for Metro Direct are included in the consolidated statements of
operations beginning October 1, 1996.
(2)Effective July 1, 1997, the Company acquired all of the outstanding common
shares of Pegasus Internet, Inc. The results of operations for Pegasus are
included in the consolidated statements of operations beginning July 1, 1997.
Effective December 1, 1997, the Company acquired all of the outstanding
common shares of Media Marketplace, Inc. and Media Marketplace Media
Division, Inc. The results of operations for Media Marketplace are included
in the consolidated statements of operations beginning December 1, 1997. In
May 1998, MSGi formed Metro Fulfillment, Inc., a new operating subsidiary..
(3)Effective January 1, 1999, the Company acquired all of the outstanding common
shares of Stevens-Knox List Brokerage, Inc., Stevens-Knox List Management,
Inc. and Stevens-Knox International, Inc. (collectively, "SKA"). The results
of operations for SK&A are included in the consolidated statements of
operations beginning January 1, 1999. Effective March 1, 1999 the Company
sold 85% of its subsidiary Metro Fulfillment. Accordingly, effective March 1,
1999 the results of operations of MFI are no longer consolidated in the
Company's statement of operations. On May 13, 1999, the Company acquired all
of the outstanding common shares of CMG Direct, Inc. The results of
operations for CMGD Direct, Inc. are included in the consolidated statements
of operations beginning May 14, 1999.
(4)On March 31, 2000, the Company acquired all of the outstanding common shares
of The Coolidge Company. On March 22, 2000 the Company acquired all of the
outstanding common shares of Grizzard Advertising, Inc. Effective October 1,
1999, the Company acquired 87% of the outstanding common shares of The
Cambridge Intelligence Agency. The results of operations are included in the
consolidated statements of operations from the date of the respective
acquisition.
(5)Loss from operations includes compensation expense on option grants of $1,650
which were granted at exercise prices below market value and approximately
$958 for restructuring costs.
(6)Net loss includes a charge for approximately $113 for discounts on warrant
exercises and approximately $1,180 for the costs associated with a withdrawn
public offering.
(7)Net loss attributable to common shareholders includes the impact of dividends
on preferred stock for a non-cash beneficial conversion feature of $3,214.
(8)Loss from continuing operations and net loss include a one-time severance
charge of $1,125 and a compensation expense on option grants of $444 which
were granted at exercise prices below market value.
(9)Net loss attributable to common shareholders includes the impact of dividends
on preferred stock for (a) adjustment of the conversion ratio of $11,366 for
exercises of stock options and warrants; (b) $949 in cumulative undeclared
preferred stock dividends; and (c) $220 of periodic non-cash accretions of
preferred stock.
(10)EBITDA is defined as earnings from continuing operations before interest,
income tax, depreciation, amortization and other non-cash items. EBITDA
should not be construed as an alternative to operating income or net income
(as determined in accordance with generally accepted accounting principles),
as an indicator of MSGi's operating performance, as an alternative to cash
flows provided by operating activities (as determined in accordance with
generally accepted accounting principles), or as a measure of liquidity.
EBITDA is presented solely as a supplemental disclosure because management
believes that it enhances the understanding of the financial performance of
a company with substantial amortization and depreciation expense. MSGi's
definition of EBITDA may not be the same as that of similarly captioned
measures used by other companies.
(11)Loss from continuing operations includes a charge for approximately $27,216
for write-downs of certain Internet Investments.
(12)On September 21, 2000, the Company's Board of Directors approved a plan to
discontinue the operation of its WiredEmpire subsidiary. The Company will
shut down the operations anticipated to be completed by the end of January
2001. The estimated losses associated with WiredEmpire are approximately $35
million and are reported as discontinued operations.
<PAGE>
Item 7 - Management's Discussion and Analysis
---------------------------------------------
Overview
--------
This discussion summarizes the significant factors affecting the consolidated
operating results, financial condition and liquidity/cash flows of the Company
for the twelve month period ended June 30, 2000. This should be read in
conjunction with the financial statements, and notes thereto, included in this
Form 10-K.
To facilitate an analysis of MSGi operating results, certain significant events
should be considered.
On October 1, 1999, the Company completed an acquisition of approximately 87% of
the outstanding common stock of Cambridge Intelligence Agency for a total
purchase price of $2.4 million which consisted of $1.6 million in common stock
of the Company and an interest in the Company's Permission Plus software and
related operations valued at $.8 million, subject to certain adjustments.
Concurrently with this acquisition, the Company formed WiredEmpire, a licensor
of email marketing tools. Effective with the acquisition, Cambridge Intelligence
Agency and the Permission Plus asset was merged into WiredEmpire.
In March 2000, the Company completed a private placement of 3,120,001 shares of
Convertible Preferred Stock of its WiredEmpire subsidiary for proceeds of
approximately $18.7 million, net of placement fees and expenses of $1.3 million.
In connection with the discontinued operation of WiredEmpire, the Company has
offered to redeem the preferred shares in exchange for MSGi common shares. The
redemption is expected to occur in the second quarter of fiscal year 2001.
On September 21, 2000, the Company's Board of Directors approved a plan to
discontinue the operation of its WiredEmpire subsidiary. The Company will shut
down the operations anticipated to be completed by the end of January 2001. The
estimated losses associated with WiredEmpire are approximately $35 million.
These losses for WiredEmpire include approximately $20 million in losses from
operations through the measurement date and approximately $15 million of loss on
disposal which includes approximately $2 million in losses from operations from
the measurement date through the estimated date of disposal.
Pursuant to Accounting Principles Board Opinion ("APB") No. 30, "Reporting the
Results of Operations - Reporting the Effects of a Disposal of a Segment of a
Business, and Extraordinary, Unusual and Infrequently Occuring Events and
Transactions," the consolidated financial statements of MSGi have been
reclassified to reflect the discontinued operations of WiredEmpire. Accordingly,
revenues, costs and expenses, and cash flows of WiredEmpire have been excluded
from the respective captions in the Consolidated Statement of Operations and
Consolidated Cash Flows of MSGi. The net operating results of WiredEmpire have
been reported as "Loss from Discontinued Operations", and the net cash flows of
WiredEmpire have been reported as "Net Cash (Used In) Provided By Discontinued
Operations". The assets and liabilities of WiredEmpire have been excluded from
the respective captions in the Consolidated Balance Sheets of MSGi and have been
reported as "Net Assets/Liabilities of Discontinued Operations".
In May 1998, the Company formed Metro Fulfillment, Inc. ("MFI"), a subsidiary
providing online commerce, real-time database management, inbound/outbound
customer service, custom packaging, assembling, product warehousing, shipping,
payment processing and retail distribution Effective March 1, 1999, the Company
sold 85% of the common stock of MFI. Accordingly, effective March 1, 1999 the
results of operations of MFI are no longer consolidated in the Company's
statement of operations. In September 1999, the Company sold the remaining 15%
interest. The sale resulted in an immaterial gain.
Effective January 1, 1999, the Company acquired all of the outstanding common
shares of Stevens-Knox & Associates, Inc., Stevens-Knox List Brokerage, Inc.,
and Stevens-Knox International, Inc. The results of operations are reflected in
the consolidated financial statements using the purchase method of accounting
from the date of acquisition.
Effective May 13, 1999, the Company acquired all of the outstanding common
shares of CMG Direct Corporation. The results of operations of are reflected in
the consolidated financial statements using the purchase method of accounting
from the date of acquisition.
On March 22, 2000, the Company acquired all of the outstanding common shares of
Grizzard Advertising, Inc. ("Grizzard"). The results of operations of Grizzard
are reflected in the consolidated financial statements using the purchase method
of accounting from the date of acquisition.
On March 31, 2000, the Company acquired all of the outstanding common shares of
The Coolidge Company ("Coolidge"). The results of operations of Coolidge are
reflected in the consolidated financial statements using the purchase method of
accounting from the date of acquisition.
The Company's business tends to be seasonal. Certain marketing services have
higher revenues and profits occurring in the second fiscal quarter, followed by
the first fiscal quarter based on the seasonality of its clients' mail dates to
coordinate with the Thanksgiving and Holiday season. Telemarketing services have
higher revenues and profits occurring in the fourth fiscal quarter, followed by
the first fiscal quarter. This is due to subscription renewal campaigns for its
performing arts clients, which generally begin in the spring time and continue
during the summer months.
Results of Operations Fiscal 2000 Compared to Fiscal 1999.
----------------------------------------------------------
Revenues of approximately $128.6 million for the year ended June 30, 2000
("Current Period") increased by $46.5 million or 56% over revenues of $82.2
million during the year ended June 30, 1999 (the "Prior Period"). Of the
increase, approximately $49.7 million is attributable to acquisitions completed
in the current period and including a full year of operations of acquisitions
completed in the Prior Period. This increase in revenues was partially offset by
the divestiture of MFI representing a $1.5 million revenue reduction in the
Current Period. Revenue, not including the effects of acquisitions and
divestitures, decreased $1.7 million mainly due to the reduction in brokerage
revenue due to lower campaign activity.
Direct costs of approximately $77.9 million for the Current Period increased by
$25.4 million or 48% over direct costs of $52.5 million during the Prior Period.
Of the increase, approximately $28.8 million is attributable to acquisitions in
the Current Period and a full year of operations for acquisitions completed
during the Prior Period. The increase cost was partially offset by the
divestiture of MFI representing a $.5 million direct cost reduction in the
Current Period. Direct costs, not including the effects of acquisitions or
divestitures, decreased $2.9 million due to the reduction in revenue as well as
a change in the mix of services sold to more profitable lines of business.
Direct costs as a percentage of revenue decreased from 64% in the Prior Period
to 61% in the Current Period, reflecting the change in the mix of services sold.
Salaries and benefits of approximately $42.7 million in the Current Period
increased by $14.9 million or 54% over salaries and benefits of approximately
$27.8 million in the Prior Period. Of the increase, approximately $16.7 million
is attributable to acquisitions in the Current Period and a full year of
operations for acquisitions completed during the Prior Period. Salaries and
benefits associated with the divestiture of MFI resulted in a reduction of $1.8
million in the Current Period. Salaries and benefits excluding acquisitions
increased by approximately $1.1 million due to normal wage increases of 7%, as
well as an increase in head count to manage current and anticipated growth,
offset by $1.1 million reduction of severance and compensation expense on option
grants the Current Period. There are no further amounts to be paid in connection
with the termination of these employment contracts.
Selling, general and administrative expenses of approximately $13.3 million in
the Current Period increased by approximately $6.5 million or 96% over
comparable expenses of $6.8 million in the Prior Period. Of the increase,
approximately $4.1 million is attributable to acquisitions in the Current Period
and a full year of operations for acquisitions completed during the Prior
Period. Selling, general and administrative expenses associated with the
divestiture of MFI resulted in a reduction of $.4 million in the Current Period.
Selling, general and administrative expenses excluding acquisitions increased by
approximately $2.8 million principally due to increased professional fees
associated with an unsuccessful attempt by third parties to unionize the calling
center, increases in rent, professional fees (principally legal and accounting),
travel and entertainment and reporting fees associated with the increase in
merger and acquisition activity and becoming a larger company.
Depreciation and amortization expense of approximately $6.0 million in the
Current Period increased by approximately $3.7 million over expense of $2.3
million in the Prior Period. Of the increase, approximately $2.5 million is
attributable to acquisitions in the Current Period and including a full year of
operations for acquisitions completed during the Prior Period. Depreciation and
amortization expenses associated with the divestiture of MFI resulted in a
reduction of $.1 million in the Current Period.
The Company has taken a fourth quarter charge of approximately $27 million for
unrealized losses on Internet investments made during the fiscal year based on
all available information. The Company believes such losses are a result of
significant changes in Wall Street valuations of Internet stocks. The Company
has suspended its Internet investment strategy and will focus all efforts on the
profitability of its core direct marketing operations.
Net interest expense of approximately $2.5 million in the Current Period
increased by approximately $1.9 million over net interest expense of
approximately $.6 million in the Prior Period. Such expenses increased
principally due to interest expense on outstanding borrowings relating to the
Grizzard acquisition.
The net provision for income taxes of approximately $265,000 in the Current
Period increased by approximately $208,000 over the provision of approximately
$57,000 in the Prior Period. The Company records provisions for state and local
taxes incurred on taxable income at the operating subsidiary level, which cannot
be offset by losses incurred at the parent company level or other operating
subsidiaries.
As a result of the above, loss from continuing operations of $41.1 million in
the Current Period increased $33.5 million over comparable net loss of $7.6 in
the Prior Period.
Net loss attributable to common shareholders in the Prior Period includes the
impact of dividends on preferred stock for (a) adjustment of the conversion
ratio of $11,366,022 for exercises of stock options and warrants; (b) $949,365
in cumulative undeclared preferred stock dividends; and (c) $219,943 of periodic
non-cash accretions on preferred stock.
Results of Operations Fiscal 1999 Compared to Fiscal 1998.
----------------------------------------------------------
Revenues of approximately $82.2 million for the year ended June 30, 1999 (the
"Fiscal 1999") increased by $31.0 million or 61% over revenues of $51.2 million
during the year ended June 30, 1998 (the "Fiscal 1998"). Of the increase,
approximately $27.8 million is attributable acquisitions completed during Fiscal
1999 and including a full year of operations for acquisitions completed Fiscal
1998. Revenues, not including the effects of acquisitions and telemarketing and
telefundraising revenue, increased by $3.4 million or 10% over the Fiscal 1998.
These increases were partially offset by a decrease in telemarketing and
telefundraising revenues of approximately $1.3 million or 8%. In addition,
fulfillment revenue for Fiscal 1999 increased by approximately $1.1 million due
to inclusion of eight months of operations in the Fiscal 1999 as compared to a
month and a half in the Fiscal 1998. The decrease in telemarketing and
telefundraising primarily resulted from a loss of revenue due to an unsuccessful
attempt by third parties to unionize the calling center. New management has been
put in place at the start of the 1999 fiscal year and have refocused its
priorities.
Direct costs of approximately $52.5 million in Fiscal 1999 increased by $25.7
million or 96% over direct costs of $26.8 million in Fiscal 1998. Of the
increase, approximately $24.4 million is attributable to acquisitions for a full
year of operations for acquisitions completed during Fiscal 1998. Direct costs
for direct and internet marketing not including the effects of acquisitions
increased by $.9 million or 4% which is due to the increase in revenue. The
remaining increase is primarily due to fulfillment direct costs of approximately
$.4 million which is consistent with the growth in revenue. The Company's direct
costs consist principally of commissions paid to use marketing lists. Direct
costs as a percentage of revenue increased from 52% in Fiscal 1998 to 64% in
Fiscal 1999. The increase in the direct costs as a percentage of revenue results
from the mix in services sold. Most of the acquisitions made in the past two
years resulted in a substantial increase to the list management and list
brokerage services. These services have a high direct cost percentage. As MSGi
acquires new companies and internet revenues become a higher percentage of
overall revenue, management expects the direct cost percentage of revenue to
begin to decrease.
Salaries and benefits of approximately $27.8 million in Fiscal 1999 increased by
$8.5 million or 44% over salaries and benefits of approximately $19.3 million in
Fiscal 1998. Of the increase, approximately $3.5 million is attributable to
acquisitions completed during Fiscal 1999 and including a full year of operation
for acquisitions completed during Fiscal 1998. Salaries and benefits excluding
acquisitions increased by approximately $1.8 million due to increase in head
count to manage current and anticipated future growth of 10% and $1.6 million in
severance costs in connection with the termination of two employment contracts
and compensation expense on option grants. Salaries and benefits relating to
fulfillment increased by approximately $1.4 million due to inclusion of eight
months of operations in Fiscal 1999 as compared to a month and a half in Fiscal
1998. Salaries and benefits associated with corporate overhead increased
approximately $.2 million in the Fiscal 1999 principally due to an increase in
head count to manage current and anticipated future growth.
Selling, general and administrative expenses of approximately $6.8 million in
Fiscal 1999 increased by approximately $2.5 million or 62% over comparable
expenses of $4.2 million in Fiscal 1998. Of the increase, approximately $1.4
million is attributable to acquisitions completed during Fiscal 1999 and
including a full year of operations for acquisitions completed during Fiscal
1998. Selling, general and administrative expenses excluding acquisitions
increased by approximately $.3 million principally due to increased professional
fees associated with an unsuccessful attempt by third parties to unionize the
calling center and increased rent expense due to expansion of certain office
space. Selling general and administrative expenses relating to fulfillment
increased by approximately $.4 million due to inclusion of eight months of
operations in Fiscal 1999 as compared to a month and a half in Fiscal 1998. The
remaining increase is primarily due to an increase in corporate expenses of
approximately $.4 million due to merger and acquisition activity.
Depreciation and amortization expense of approximately $2.2 million in Fiscal
1999 increased by approximately $.7 million over expense of $1.5 million in
Fiscal 1998. Of the increase, approximately $.6 million is attributable to
acquisitions completed during Fiscal 1999 and including a full year of
operations for acquisitions completed during Fiscal 1998.
Net interest expense of approximately $516,000 in Fiscal 1999 increased by
approximately $330,000 over net interest expense of approximately $186,000 in
Fiscal 1998. Such expenses increased principally due to accrued interest on
outstanding borrowings relating to the acquisitions of SK&A and CMGD. In
addition, interest income from cash invested decreased due to cash used for
stock buyback and to fund the fulfillment operations.
The net provision for income taxes of approximately $57,000 in Fiscal 1999
increased by approximately $42,000 over the provision of approximately $15,000
in Fiscal 1998. The Company records provisions for state and local taxes
incurred on taxable income at the operating subsidiary level which cannot be
offset by losses incurred at the parent company level or other operating
subsidiaries.
As a result of the above, loss from continuing operations of $7.6 million in
Fiscal 1999 increased $6.8 million over comparable net loss of $.8 in Fiscal
1998.
Net loss attributable to common shareholders in Fiscal 1999 includes the impact
of dividends on preferred stock for (a) adjustment of the conversion ratio of
$11,366,022 for exercises of stock options and warrants; (b) $949,365 in
cumulative undeclared preferred stock dividends; and (c) $219,943 of periodic
non-cash accretions of preferred stock.
Net loss attributable to common shareholders in Fiscal 1998 includes the impact
of dividends on preferred stock for (a) a non-cash, beneficial conversion
feature of $3,214,400 (b) adjustment of the conversion ratio of $152,512 for
exercises of stock options and warrants and issuances of common stock; (c)
$464,816 in cumulative undeclared preferred stock dividends; and (c) $112,274 of
periodic non-cash accretions on preferred stock.
Capital Resources and Liquidity
-------------------------------
Historically, the Company has funded its operations, capital expenditures and
acquisitions primarily through cash flows from operations, private placements of
equity transactions, and its credit facilities. At June 30, 2000, the Company
had cash and cash equivalents of $9.9 million and accounts receivable net of
allowances of $42.2 million.
The Company incurred losses from continuing operations of $41.1 million in the
Current Period. Cash used in operating activities from continuing operations was
approximately $11.4 million. Net cash used in operating activities principally
resulted from the loss from continuing operations, an increase in inventory
balances and a decrease in accrued expenses and other liabilities offset by
unrealized loss on investments and loss from discontinued operations. In the
Prior Period, the Company incurred losses from continuing operations of $7.6
million. Cash used in operating activities was approximately $45,000. Net cash
used in operating activities principally resulted from the net loss offset by
the decreases in accounts receivable and the increase in accrued expenses and
other liabilities.
In the Current Period, net cash of $60.1 million was used in investing
activities consisting of: $50.2 million for the acquisitions of CIA, Grizzard
and Coolidge, $1.9 million for the purchases of property and equipment, $1.6
million for purchases of intangible assets and $6.9 million for purchases of
Internet investments. In the Prior Period, net cash used in investing activities
of $18.9 million consisted of $17.7 million for the acquisitions of SK&A and CMG
Direct, $.9 million for a contingent payment for the acquisition of SD&A, $.5
million for the purchases of property and equipment .
In the Current Period, net cash of $78.9 million was provided by financing
activities. Net cash provided by financing activities consisted primarily of
$30.5 million in proceeds from the issuance of common stock, $29.4 million in
proceeds from the issuance of convertible preferred stock, and $23.0 million in
net proceeds from bank financing.
In the Prior Period, net cash of $16.0 million was provided by financing
activities. Net cash provided by financing activities consisted of $10.0 million
proceeds from a promissory note issued in connection with the CMG Direct
acquisition, $5.5 million in proceeds from the exercise of stock options and
warrants, $2.8 million in net proceeds from lines of credit offset by $1.3
million used for the purchase of treasury stock and $.8 million for repayments
on debt, other notes payable and capital leases.
At June 30, 2000, the Company had amounts outstanding of $9.7 million on its
lines of credit. As of June 30, 2000 the Company was in violation of certain
covenants at certain of its subsidiaries. The Company has obtained a waiver of
such violations. The Company had approximately $4.2 million of additional
availability on its lines of credit as of June 30, 2000.
On April 21, 1999, the Company exercised its right to convert all 50,000 shares
of General Electric Capital Corporation's Series D Convertible Preferred Stock
to approximately 4.8 million shares of common stock. In conjunction with the
conversion, all preferred shareholder rights, including quarterly dividends,
financial covenants, acquisition approvals and board seats, were immediately
cancelled.
On February 24, 2000 the Company entered into a private placement with RGC
International Investors LDC and Marshall Capital Management, Inc., an affiliate
of Credit Suisse First Boston, in which the Company sold an aggregate of 30,000
shares of Series E Convertible Preferred Stock, par value $.01 ("Series E
Preferred Stock"), and warrants to acquire 1,471,074 shares of common stock for
proceeds of approximately $29.5 million, net of approximately $520,000 of
placement fees and expenses. The preferred stock provides for liquidation
preference under certain circumstances and accordingly has been classified in
the mezzanine section of the balance sheet. The preferred stock has no dividend
requirements.
The Series E Preferred Stock is convertible at any time at $24.473 per share,
subject to reset on August 18, 2000 if the market price of our Common Stock is
lower and subject to certain anti-dilution adjustments. On August 18, 2000, the
conversion price was reset to $12.24 per share, the market price on that date.
The warrants are exercisable for a period of two years at an exercise price of
$28.551, subject to certain anti-dilution adjustments.
In March 2000, the Company entered into a credit agreement (the "Credit
Agreement") with a $58,000,000 senior secured facility. The Credit Agreement is
comprised of a $13 million revolving line of credit, $40 million term loan and
$5 million standby letter of credit. The Credit Agreement expires on March 31,
2005 and bears interest at prime rate or LIBOR plus an applicable margin ranging
from 1.5% to 2.5%, for prime and 2.5% to 3.5% for LIBOR based on a financial
ratio. The term loan is payable in quarterly installments through March 2005.
The loans are collaterialized by substantially all of the assets of the Company
and are guaranteed by all of the Company's non-internet subsidiaries. The
revolving line of credit is classified under short term borrowings (See Note 9).
As of June 30, 2000, the interest rates were 11.5% for borrowings under the
prime rate and 10.4% for borrowings under LIBOR.
In connection with the Credit Agreement, the Company issued a warrant to
purchase 298,541 shares of the Company's common stock at an exercise price of
$.01 per share. The $40 million term loan was recorded at a discount of
approximately $5 million to reflect an allocation of the proceeds to the
estimated value of the warrant and is being amortized as interest expense over
the life of the loan using the interest method of accounting. Approximately
$453,000 was recorded as interest expense for the year ended June 30, 2000.
Under the terms of the Credit Agreement, the Company is required to maintain
certain financial covenants related to consolidated EBITDA and consolidated debt
to capital, among others.
The Company believes that funds on hand, funds available from its operations and
its unused lines of credit, should be adequate to finance its operations and
capital expenditure requirements, and enable the Company to meet interest and
debt obligations for the next twelve months. In conjunction with the Company's
acquisition and growth strategy, additional financing may be required to
complete any such acquisitions and to meet potential contingent acquisition
payments.
In connection with the discontinued operations of WiredEmpire, the Company has
offered to redeem the preferred shares in exchange for MSGi common shares. The
redemption is expected to occur in the second quarter of fiscal year 2001. The
liability of $18.8 million for the preferred shareholders is currently included
in the net liability of discontinued operations and it is anticipated that this
will be settled in MSGi stock. The Company believes that the cash on hand at
WiredEmpire will be sufficient to satisfy the remaining obligations to be
incurred as a result of the decision to discontinue operations.
Summary of Recent Accounting Pronouncements
-------------------------------------------
In March 2000, the Financial Accounting Standards Board issued Interpretation
No. 44, "Accounting for Certain Transactions Involving Stock Compensation, an
interpretation of APB Opinion No. 25" (FIN 44). The interpretation provides
guidance for certain issues relating to stock compensation involving employees
that arose in applying Opinion 25. Among other issues, FIN No. 44 clarifies (a)
the definition of an employee for purposes of applying Opinion 25, (b) the
criteria for determining whether a plan qualifies as a noncompensatory plan, (c)
the accounting consequence of various modifications to the terms of a previously
fixed stock option or award, and (d) the accounting for an exchange of stock
compensation awards in a business combination. The provisions of FIN No. 44 are
effective July 1, 2000, except for the provisions regarding modifications to
fixed stock option awards which reduce the exercise price of an award, which
apply to modifications made after December 15, 1998. Provisions regarding
modifications to fixed stock option awards to add reload features apply to
modifications made after January 12,2000. The Company believes that it is in
compliance with this guidance.
In December 1999, the staff of the Securities and Exchange Commission ("SEC")
issued Staff Accounting Bulletin No. 101 "Revenue Recognition in Financial
Statements" (SAB 101). SAB 101 summarizes some of the staff's interpretations of
the application of generally accepted accounting principles to revenue
recognition, including presentation in the financial statements. The staff
provided guidance due, in part, to the large number of revenue-recognition
issues that it has encountered in registrant filings. In June 2000, SAB101B,
"Second Amendment: Revenue Recognition in Financial Statements", was issued,
which defers the effective date of SAB 101 until no later than the fourth
quarter of fiscal years beginning after December 15, 1999. The Company is
currently evaluating the impact that SAB 101 will have on it's financial
statements and will adopt SAB 101 in fiscal 2001.
In June, 1998, the Financial Accounting Standards Board issued SFAS No. 133,
Accounting for Derivative Instruments and Hedging Activities"("SFAS No. 133").
This statement established accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded in other
contracts, and for hedging activities. It requires recognition of all
derivatives as either assets or liabilities on the balance sheet and measurement
of those instruments at fair value. In June 1999, the Financial Accounting
Standards Board issued SFAS No. 137 delaying the effective date of SFAS No. 133.
The provisions of SFAS No. 133 are effective for all fiscal quarters of all
fiscal years beginning after June 15, 2000. The effect of adopting SFAS No. 133
is not expected to have any impact on the Company as it current does not engage
in derivative or hedging activities.
Item 8 - Financial Statements and Supplementary Data
----------------------------------------------------
The Consolidated Financial Statements required by this Item 8 are set forth as
indicated in the index following Item 13(a)(1).
Item 9 - Changes in and Disagreements with Accountants on Accounting and
--------------------------------------------------------------------------------
Financial Disclosure
--------------------
None.
<PAGE>
PART III
The information required by this Part III (items 10, 11, 12, and 13) is hereby
incorporated by reference from the Company's definitive proxy statement which is
expected to be filed pursuant to Regulation 14A of the Securities Exchange Act
of 1934 not later than 120 days after the end of the fiscal year covered by this
report.
Item 14 - Exhibits, Financial Statement Schedules, and Reports on Form 8-K
(a)(1) Financial statements - see "Index to Financial Statements" on page 29.
(2) Financial statement schedules - see "Index to Financial Statements" on
page 29.
(3) Exhibits:
2.1 Stock Purchase Agreement between Marketing Services Group, Inc.
and Ralph Stevens (n)
2.2 Stock Purchase Agreement between Marketing Services Group, Inc.
and CMGI, Inc. (o)
2.3 Agreement and Plan of Merger By and Among Marketing Services
Group, Inc., GCG Merger Corp., and Grizzard Advertising, Inc.(p)
3.1 Amended and Restated Articles of Incorporation (b)3.2 Certificate
of Amendment to the Amended and Restated Articles of
Incorporation of the Company (b)
3.3 Certificate of Amendment to the Articles of Incorporation for
change of name to All-Comm Media Corporation (e)
3.4 By-Laws (b)
3.5 Certificate of Amendment of Articles of Incorporation for
increase in number of authorized shares to 36,300,000 total (h)
3.6 Certificate of Amendment of Articles of Incorporation for
change of name to Marketing Services Group, Inc. (k)
3.7 Certificate of Amendment of Articles of Incorporation for
increase in number of authorized shares to 75,150,000 total (q)
3.8 The Amended Certificate of Designation, Preferences and Relative,
Participating and Optional and Other Special Rights of Preferred
Stock and Qualifications, Limitations and Restrictions Thereof
for the Series D Convertible Preferred Stock (l)
3.9 Certificate of Designation, Preferences, and Rights of Series E
Convertible Preferred Stock of Marketing Services Group, Inc. (t)
3.10 Certificate of Amendment to Certificate of Designation,
Preferences, and Rights of Series E Convertible Preferred Stock
of Marketing Services Group, Inc. (u)
10.1 1991 Stock Option Plan (c)
10.2 Agreement and Plan of Merger between All-Comm Media Corporation
and Metro Services Group, Inc. (i)
10.3 Security Agreement between Milberg Factors, Inc. and Metro
Services Group, Inc. (j)
10.4 Security Agreement between Milberg Factors, Inc. and Stephen
Dunn & Associates, Inc. (k)
10.5 Agreement and Plan of Merger between Marketing Services Group,
Inc. and Pegasus Internet, Inc. (k)
10.6 J. Jeremy Barbera Employment Agreement (a)
10.7 Rudy Howard Employment Agreement (a)
10.8 Stephen Killeen Employment Agreement (a)
10.9 Mike Dzvonik Employment Agreement (a)
10.10 Robert M. Budlow Employment Agreement (i)
10.11 Form of Private Placement Agreement (j)
10.12 Fourth Memorandum of Understanding (q)
10.13 Stock Purchase Agreement among Marketing Services Group, Inc.,
Stephen M. Reustle and Thomas R. Kellogg (m)
10.14 Purchase agreement dated as of December 24, 1997, by and between
the Company and GE Capital (l)
10.15 Stockholders Agreement by and among the Company, GE Capital and
certain existing stockholders of the Company, dated as of
December 24, 1997 (l)
10.16 Registration Rights Agreement by and among the Company and GE
Capital, dated as of December 24, 1997 (l)
10.17 Warrant, dated as of December 24, 1997, to purchase shares of
Common Stock of the Company (l)
10.18 Form of Employment Agreement by and among Marketing Services
Group, Inc. and Ralph Stevens (n)
10.19 Form of Employment Agreement by and among Marketing Services
Group, Inc. and Edward Mullen (a)
10.20 First Amendment to Preferred Stock Purchase Agreement
Between General Electric Capital Corporation and Marketing
Services Group, Inc. (r)
10.21 Promissory note (r)
10.22 Warrant Agreement (r)
10.23 Second Amendment (s)
10.24 Warrant Agreement between Marketing Services Group, Inc. and
Marshall Capital Management, Inc. (t)
10.25 Warrant Agreement between Marketing Services Group, Inc.
and RCG International Investors, LDC. (t)
10.26 Registration Rights Agreement by and Among The Company, RCG
International Investors, LDC and Marshall Capital Management,
Inc. (t)
10.27 Securities Purchase Agreement by and Among The Company, RCG
International Investors, LDC and Marshall Capital Management,
Inc. (t)
10.28 Credit Agreement Among Grizzard Communications, Inc. and
Paribas (v)
21 List of Company's subsidiaries (a)
23 Consent of PricewaterhouseCoopers, LLP (a)
27 Financial Data Schedule (a)
(a) Incorporated herein
(b) Incorporated by reference from the Company's Registration Statement on
Form S-4, Registration Statement No. 33-45192
(c) Incorporated by reference to the Company's Registration Statement on
Form S-8, Registration Statement 333-30839
(d) Incorporated herein by reference to the Company's Report on Form 8-K
dated April 25, 1995
(e) Incorporated by reference to the Company's Report on Form 10-K for the
fiscal year ended June 30, 1995
(f) Incorporated by reference to the Company's Report on Form 10-Q for the
quarter ended March 31, 1996
(g) Incorporated by reference to the Company's Report on Form 8-K dated June
7, 1996
(h) Incorporated by reference to the Company's Report on Form 10-K dated
June 30, 1996
(i) Incorporated by reference to the Company'sReport on Form 8-K dated
October 11, 1996
(j) Incorporated by reference to the Company's Report on Form 10-Q for the
quarter ended March 31, 1997
(k) Incorporated by reference to the Company's Report on Form 10-KSB for the
fiscal year ended June 30, 1997
(l) Incorporated by reference to the Company's Report on Form 8-K dated
January 13, 1998
(m) Incorporated by reference to the Company's Report on Form 8-K dated
March 16,1998
(n) Incorporated by reference to the Company's Report on Form 8-K dated
February 1, 1999
(o) Incorporated by reference to the Company's Report on Form 8-K dated
March 24, 1999
(p) Incorporated by reference from the Company's Registration Statement on
Form S-4, Registration Statement No. 33-85233.
(q) Incorporated by reference to the Company's Report on Form 10-KSB dated
June 30, 1998.
(r) Incorporated by reference to the Company's Report on Form 8-K dated May
13, 1999.
(s) Incorporated by reference to the Company's Report on Form 8-K dated
August 30, 1999.
(t) Incorporated by reference to the Company's Report on Form 8-K dated
February 29, 2000.
(u) Incorporated by reference to the Company's Report on Form 8-K/A dated
March 23, 2000.
(v) Incorporated by reference to the Company's Report on Form 10-Q dated May
16, 2000.
(b) Reports on Form 8-K. During the fourth quarter 2000, Form 8-K dated April
6, 2000 was filed pursuant to Item 2 (Acquisition or Disposition of Assets)
and Item 7 (Financial Statements and Exhibits). On June 5, 2000 Form 8-K/A
was filed pursuant to Item 2 (Acquisition or Disposition of Assets) and
Item 7 (Financial Statements and Exhibits).
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
MARKETING SERVICES GROUP, INC.
------------------------------
(Registrant)
By:/s/ J. Jeremy Barbera
---------------------
J. Jeremy Barbera
Chairman of the Board and
Chief Executive Officer
Date: October 13, 2000
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the Registrant and
in the capacities and on the dates indicated.
Signature Title Date
--------- ----- ----
/s/ J. Jeremy Barbera Chairman of the Board and October 13, 2000
--------------------- Chief Executive Officer
J. Jeremy Barbera (Principal Executive Officer)
/s/ Stephen Killeen President and Director October 13, 2000
-------------------
Stephen Killeen
/s/ Michael Dzvonik Chief Operating Officer October 13, 2000
-------------------
Michael Dzvonik
/s/ Rudy Howard Chief Financial Officer October 13, 2000
--------------- (Principal Financial Officer)
Rudy Howard
/s/ Cindy H. Hill Chief Accounting Officer October 13, 2000
----------------- (Principal Accounting Officer)
Cindy H. Hill
/s/ Alan I. Annex Director and Secretary October 13, 2000
-----------------
Alan I. Annex
/s/ S. James Coppersmith Director October 13, 2000
------------------------
S. James Coppersmith
/s/ John T. Gerlach Director October 13, 2000
---------------------
John T. Gerlach
/s/ Seymour Jones Director October 13, 2000
Seymour Jones
/s/ C. Anthony Wainwright Director October 13, 2000
-------------------------
C. Anthony Wainwright
<PAGE>
MARKETING SERVICES GROUP, INC. AND SUBSIDIARIES
INDEX TO FINANCIAL STATEMENTS
[Items 14]
(1) FINANCIAL STATEMENTS: Page
--------------------- ----
Report of Independent Accountants 30
Consolidated Balance Sheets as of June 30, 2000 and
June 30, 1999 31
Consolidated Statements of Operations
Years Ended June 30, 2000, 1999, and 1998 32
Consolidated Statement of Stockholders' Equity
Years Ended June 30, 2000, 1999, and 1998 33-35
Consolidated Statements of Cash Flows
Years Ended June 30, 2000, 1999, and 1998 36
Notes to Consolidated Financial Statements 37-55
(2) FINANCIAL STATEMENT SCHEDULES:
Schedule II - Valuation and Qualifying Accounts 56
Schedules other than those listed above are omitted because they are
not required or are not applicable or the information is shown in the
audited financial statements or related notes.
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and
Stockholders of Marketing Services Group, Inc.:
In our opinion, the consolidated financial statements listed in the accompanying
index present fairly, in all material respects, the financial position of
Marketing Services Group, Inc. and Subsidiaries at June 30, 2000 and 1999, and
the consolidated results of their operations and their cash flows for each of
the three years in the period ended June 30, 2000, in conformity with accounting
principles generally accepted in the United States of America. In addition, in
our opinion, the financial statement schedule listed in the accompanying index
presents fairly, in all material respects, the information set forth therein
when read in conjunction with the related consolidated financial statements.
These financial statements and financial statement schedule are the
responsibility of the Company's management; our responsibility is to express an
opinion on these financial statements and financial statement schedule based on
our audits. We conducted our audits of these statements in accordance with
auditing standards generally accepted in the United States of America, which
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, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
/s/ PRICEWATERHOUSECOOPERS LLP
October 12, 2000
<PAGE>
<TABLE>
<CAPTION>
MARKETING SERVICES GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS AS OF JUNE 30, 2000 AND 1999
ASSETS 2000 1999
------ ---- ----
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 9,903,799 $ 3,285,217
Accounts receivable, billed, net of
allowance for doubtful accounts of
$2,287,857 and $551,043, respectively 38,324,777 23,527,798
Accounts receivable, unbilled 3,834,057 3,862,907
Inventories 4,574,046 -
Note receivable- current portion 173,359 685,873
Other current assets 4,428,673 1,168,653
--------- -----------
Total current assets 61,238,711 32,530,448
Investments 7,445,500 -
Property and equipment, net 18,690,478 1,504,826
Intangible assets, net 154,016,073 56,977,949
Note receivable 652,010 474,127
Other assets 3,141,343 623,599
Net assets of discontinued operations - 5,516,000
-------- ---------
Total assets $245,184,115 $97,626,949
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
Current liabilities:
Short - term borrowing 9,745,053 $5,316,775
Accounts payable-trade 30,098,401 23,214,278
Related party payable 5,000,000 -
Accrued expenses and other current liabilities 9,531,728 8,151,764
Current portion of note payable-related party - 4,871,750
Current portion of capital lease obligations 234,032 52,099
Current portion of long term obligations 6,199,820 570,653
--------- -----------
Total current liabilities 60,809,034 42,177,319
Capital lease obligations, net of current portion 543,517 67,407
Long-term obligations, net of current portion 35,613,194 997,890
Note payable- related party, net of current portion - 4,871,750
Other liabilities 2,433,450 584,954
Net liabilities of discontinued operations 18,346,721 -
---------- ----------
Total liabilities 117,745,916 48,699,320
----------- ----------
Convertible preferred stock - $.01 par value;
150,000 shares authorized; 30,000 shares of
Series E issued and outstanding 29,417,279 -
Commitments and contingencies (Note 13)
Stockholders' equity:
Common stock - $.01 par value;
75,000,000 authorized; 30,442,488 and
22,513,772 shares issued as of
June 30, 2000 and 1999, respectively 304,425 225,138
Additional paid-in capital 194,712,085 70,812,973
Accumulated deficit (95,601,880) (19,928,677)
Deferred compensation - (788,095)
Less: 423,894 shares of common stock in
treasury, at cost (1,393,710) (1,393,710)
Total stockholders' equity 98,020,920 48,927,629
---------- ------------
Total liabilities and stockholders' equity $245,184,115 $97,626,949
=========== ===========
</TABLE>
The accompanying notes are an integral part of the Consolidated Financial
Statements.
<TABLE>
<CAPTION>
MARKETING SERVICES GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED JUNE 30, 2000, 1999, AND 1998
2000 1999 1998
---- ---- ----
<S> <C> <C> <C>
Revenues $128,606,882 $82,241,894 $51,174,063
------------ ----------- -----------
Operating costs and expenses:
Direct costs 77,906,758 52,510,154 26,771,611
Salaries and benefits 42,657,063 27,757,246 19,255,348
Selling, general and administrative 13,307,682 6,764,488 4,240,805
Depreciation and amortization 6,027,871 2,282,251 1,486,106
--------- --------- ----------
Total operating costs and expenses 139,899,374 89,314,139 51,753,870
----------- ---------- ----------
Loss from operations (11,292,492) (7,072,245) (579,807)
----------- ---------- ----------
Unrealized loss on investments (27,216,200) - -
Interest expense and other, net (2,355,848) (516,099) (185,967)
----------- -------- ---------
Loss from continuing operations
before income taxes (40,864,540) (7,588,344) (765,774)
Provision for income taxes 265,683 57,259 14,704
------- ------ ------
Loss from continuing operations (41,130,223) (7,645,603) (780,478)
Discontinued operations (Note 18):
Loss from discontinued operations (19,488,943) - -
Loss from disposal of discontinued
operations (15,054,037) - -
---------- -------- -------
(34,542,980) - -
---------- -------- -------
Net loss $(75,673,203) $(7,645,603) $(780,478)
============= ============ ==========
Net loss attributable to
common stockholders (Note 15) $(75,673,203) $(20,180,933) $(4,724,480)
============= ============= ============
Net loss per common share:
Continuing operations $(1.55) $(1.39) $(0.37)
Discontinued operations $(1.30) - -
------- ----- ----
Net loss per common share,
basic and diluted $(2.85) $(1.39) $(0.37)
======= ======= =======
Weighted average common shares
outstanding 26,582,218 14,552,444 12,892,323
========== ========== ==========
</TABLE>
The accompanying notes are an integral part of the Consolidated Financial
Statements.
<TABLE>
<CAPTION>
MARKETING SERVICES GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED JUNE 30, 2000, 1999, AND 1998
Common Stock Additional Treasury Stock
------------ Paid-in Accumulated --------------
Shares Amount Capital Deficit Shares Amount Totals
------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance July 1, 1997 11,438,564 $114,386 $25,209,493 $(11,502,596) (11,800) $(135,469) $13,685,814
Shares issued upon exercise
of options 4,135 41 8,229 8,270
Issuance of warrants to
consultants 19,500 19,500
Issuance of restricted shares for
SD&A earn-out 139,178 1,392 423,608 425,000
Issuance of common stock for
acquisition of Pegasus Internet 600,000 6,000 1,794,000 1,800,000
Conversion of $1.7 million of
convertible debt to common stock,
net of discount and stock
issuance costs 694,411 6,944 1,629,228 1,636,172
Sale of Series D Preferred Stock,
net of stock issuance costs 3,474,982 3,474,982
Dividend for non-cash, non-recurring
beneficial conversion feature (3,214,400) (3,214,400)
Issuance of common stock
for acquisition of
Media Marketplace, Inc. 222,222 2,222 997,778 1,000,000
Adjustment to conversion ratio
for redeemable convertible
preferred stock (152,512) (152,512)
Cumulative undeclared dividends for
redeemable convertible
preferred stock (464,816) (464,816)
Accretion of redeemable convertible
preferred stock (112,274) (112,274)
Net and comprehensive loss (780,478) (780,478)
------------------------------------------------------------------------------------------------
Balance June 30,1998 13,098,510 130,985 29,612,816 (12,283,074) (11,800) (135,469) 17,325,258
</TABLE>
<TABLE>
<CAPTION>
Common Stock Additional Treasury Stock
------------ Paid-in Deferred Accumulated --------------
Shares Amount Capital Compensation Deficit Shares Amount Totals
------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance July 1,1998 13,098,510 130,985 29,612,816 - (12,283,074) (11,800) (135,469) 17,325,258
Purchase of common stock held
in treasury (412,094) (1,258,241) (1,258,241)
Shares issued upon exercise of
stock options 1,590,101 15,901 4,352,241 4,368,142
Shares issued upon exercise
of warrants 439,455 4,395 1,087,085 1,091,480
Conversion of $558,765 of
convertible debt and interest
to common stock 224,000 2,240 556,525 558,765
Issuance of common stock for
acquisition of CMG Direct
Corporation 2,321,084 23,211 19,311,411 19,334,622
Warrants issued in connection
with debt 342,000 342,000
Adjustment to conversion ratio
for redeemable
convertible preferred stock (11,366,022) (11,366,022)
Cumulative undeclared dividends
for redeemable convertible
preferred stock (949,365) (949,365)
Accretion of redeemable convertible
preferred stock (219,943) (219,943)
Conversion of Series D
Preferred Stock 4,840,622 48,406 26,854,225 26,902,631
Issuance of below market
stock options 1,232,000 (1,232,000) -
Recognition of stock based
compensation expense 443,905 443,905
Net and comprehensive loss (7,645,603) (7,645,603)
------------------------------------------------------------------------------------------------
Balance June 30,1999 22,513,772 $225,138 $70,812,973 $(788,095) $(19,928,677) (423,894) $(1,393,710) $48,927,629
</TABLE>
The accompanying notes are an integral part of the Consolidated Financial
Statements.
<PAGE>
<TABLE>
<CAPTION>
MARKETING SERVICES GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED JUNE 30, 2000, 1999, AND 1998
Common Stock Additional Treasury Stock
------------ Paid-in Deferred Accumulated --------------
Shares Amount Capital Compensation Deficit Shares Amount Totals
------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance July 1, 1999 22,513,772 $225,138 $70,812,973 $(788,095) $(19,928,677) (423,894)$(1,393,710) $48,927,629
Shares issued upon exercise of
stock options 475,282 4,753 1,948,467 1,953,220
Shares issued upon exercise
of warrants 129,218 1,292 385,695 386,987
Issuance of common stock for
Acquisition of Grizzard
Communications, Inc. 2,545,799 25,458 48,446,555 48,472,013
Issuance of common stock for
acquisition of
The Coolidge Company 22,251 222 365,139 365,361
Issuance of common stock for
acquisition of Cambridge
Intelligence Agency, Inc. 121,469 1,215 1,556,477 1,557,692
Issuance of common stock for
Investment in Latin Fusion, Inc. 1,500,000 15,000 27,491,400 27,506,400
Shares issued in connection with
Private placement of common
stock, net of stock
issuance costs 3,130,586 31,306 30,500,523 30,531,829
Issuance of shares for
executive bonus 4,111 41 64,959 65,000
Purchase of warrants by Directors 2,500 2,500
Warrants issued in connection with
the settlement of a lawsuit 315,000 315,000
Discount on debt incurred in
connection with bank financing 5,023,500 5,023,500
Recognition of stock based
Compensation expense 7,798,897 788,095 8,586,992
Net and comprehensive loss (75,673,203) (75,673,203)
-------------------------------------------------------------------------------------------------
Balance June 30, 2000 30,442,488 $304,425 $194,712,085 $ - $(95,601,880) (423,894)$(1,393,710) $98,020,920
=================================================================================================
</TABLE>
The accompanying notes are an integral part of the Consolidated Financial
Statements.
<PAGE>
<TABLE>
<CAPTION>
MARKETING SERVICES GROUP AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED JUNE 30, 2000, 1999, AND 1998
2000 1999 1998
---- ---- ----
<S> <C> <C> <C>>
OPERATING ACTIVITIES:
Net loss $(75,673,203) $(7,645,603) $(780,478)
Add: Loss from discontinued operations 34,542,980 - -
---------- --------- -------
Loss from continuing operations (41,130,223) (7,645,603) (780,478)
Adjustments to reconcile net loss to net cash
used in operating activities:
Gain on sale of minority interest (45,163) (16,604) -
Depreciation 1,826,792 673,154 412,212
Amortization 4,210,487 1,609,097 1,073,894
Unrealized loss on investments 27,216,200 - -
Compensation expense on option and stock grants 105,800 443,905 -
Accretion on note payable and redeemable stock - 85,500 37,555
Warrant Issuances to consultants and creditors - - 19,500
Amortization of debt issuance costs 830,185 - -
Loss on disposal of assets 87,813 - -
Settlement of litigation 315,000 - -
Bad debt expense 427,578 162,715 70,170
Changes in assets and liabilities net of
effects from acquisitions:
Accounts receivable 990,092 1,211,918 (487,516)
Inventory (2,701,359) - -
Other current assets 1,231,867 29,716 (398,413)
Other assets (614,971) (341,006) (362,671)
Trade accounts payable 299,605 (482,908) (1,240,126)
Accrued expenses and other liabilities (4,406,582) 4,224,861 (230,616)
---------- --------- ---------
Net cash used in operating activities (11,356,879) (45,255) (1,886,489)
INVESTING ACTIVITIES:
Acquisitions in fiscal year 2000, net
of cash acquired of $580,468 (50,187,882) - -
Acquisitions in fiscal year 1999, net
of cash acquired of $290,946 - (17,665,884) -
Acquisitions in fiscal year 1998, net
of cash acquired of $384,361 - - (5,968,864)
Earn-out relating to acquisition of SD&A - (850,000) (425,000)
Purchases of capitalized software (1,612,776) - -
Purchases of property and equipment (1,942,312) (523,437) (287,529)
Proceeds from sale of MFI 556,984 100,000 -
Purchase of note receivable - - (600,000)
Investment in internet companies (6,930,300) - -
---------- ---------- ---------
Net cash used in investing activities: (60,116,286) (18,939,321) (7,281,393)
FINANCING ACTIVITIES:
Proceeds from issuance of common stock 30,531,829 - -
Proceeds from sale of Series E convertible
preferred stock 29,417,279 - -
Proceeds from sale of Series D convertible
preferred stock - - 13,898,280
Net proceeds from (repayments on)
credit facilities (571,722) 2,794,467 860,598
Net proceeds from bank financing 22,965,716 - -
Proceeds from exercise of stock
options and warrants 2,342,706 5,459,624 8,271
Proceeds from related party note payable - 10,000,000 -
Payments on promissory notes - (134,385) -
Repayment of note payable - (117,540) (330,095)
Principal payments under capital lease obligation (58,176) (125,779) (96,537)
Repayment of related party notes payable (5,000,000) - -
Purchase of treasury stock - (1,258,241) -
Repayments of long term debt (723,578) (583,334) (1,866,666)
---------- ---------- ----------
Net cash provided by financing activities: 78,904,054 16,034,812 12,473,851
Net cash used in discontinued operations (812,307) - -
------- --------- ---------
Net increase (decrease) in cash and cash equivalents 6,618,582 (2,949,764) 3,305,969
Cash and cash equivalents at beginning of year 3,285,217 6,234,981 2,929,012
Cash and cash equivalents at end of year $9,903,799 $3,285,217 $6,234,981
========== ========== ==========
</TABLE>
The accompanying notes are an integral part of the Consolidated Financial
Statements
<PAGE>
MARKETING SERVICES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. COMPANY OVERVIEW AND PRINCIPLES OF CONSOLIDATION:
Marketing Services Group, Inc. ("MSGi" or the "Company") provides direct and
database marketing, telemarketing and telefundraising, marketing communications,
media planning and buying, online consulting and commerce, and Web design
services. Substantially all of the Company's business activity is conducted with
customers located within the United States and Canada.
The consolidated financial statements include the accounts of MSGi and its
wholly-owned and majority owned subsidiaries. All material intercompany accounts
and transactions have been eliminated in consolidation. Subsidiaries acquired
during the year are recorded from the date of the respective acquisition. As
more fully discussed in Note 18, WiredEmpire is presented as a discontinued
operation.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
Cash and Cash Equivalents:
The Company considers investments with an original maturity of three months or
less to be cash equivalents.
Inventory:
Inventory is stated at the lower of cost (specific identification method) or
market. Work in process includes job related costs which have not yet been
billed to the customer.
Property, Plant and Equipment:
Property, plant and equipment are stated at cost. Depreciation and amortization
are computed using the straight-line method over the estimated useful lives of
the respective assets. Estimated useful lives are as follows:
Buildings .............................20 years
Furniture and fixtures.................2 to 7 years
Computer equipment and software........3 to 5 years
Leasehold improvements are amortized, using the straight-line method, over the
shorter of the estimated useful life of the asset or the term of the lease.
The costs of additions and betterments are capitalized, and repairs and
maintenance are expensed as incurred. The cost and related accumulated
depreciation and amortization of property and equipment sold or retired are
removed from the accounts and resulting gains or losses are recognized in
current operations.
Intangible Assets:
Intangible assets consist of covenants not to compete, capitalized software,
customer base, list databases, assembled work force, present value of favorable
leases and the remaining excess purchase price paid over identified intangible
and tangible net assets of acquired companies. Intangible assets are amortized
under the straight-line method over the period of expected benefit of 3 to 40
years.
The development costs of new software applications, which will be utilized in
customer service, are capitalized, and once completed are amortized over three
to five years.
Long-Lived Assets:
In accordance with SFAS No. 121, "Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to be Disposed Of", the Company reviews for
impairment of long-lived assets and certain identifiable intangibles whenever
events or changes in circumstances indicate that the carrying amount of an asset
may not be recoverable. In general, the Company will recognize an impairment
when the sum of undiscounted future cash flows (without interest charges) is
less than the carrying amount of such assets. The measurement for such
impairment loss is based on the fair value of the asset.
At each balance sheet date, the Company reviews the recoverability of goodwill,
not identified with long-lived assets, based on estimated undiscounted future
cash flows from operating activities compared with the carrying value of
goodwill, and recognizes any impairment on the basis of such comparison.
Investments:
The Company makes investments for the promotion of business and strategic
purposes. Management determines the appropriate classification of its
investments in marketable securities at the time of purchase and evaluates such
investments at each balance sheet date.
The Company's marketable security investments are classified as
available-for-sale as of the balance sheet date and are carried at fair value,
with the unrealized gains and losses, net of tax, reported as a separate
component of stockholders' equity until realized, unless the unrealized loss is
deemed to be other than temporary whereby the loss is recognized in the
statement of operations.
Non-marketable security investments are recorded at the lower of cost or market.
Unrealized losses that are other than temporary are recognized in the statement
of operations.
Revenue Recognition:
Revenues derived from direct and database marketing are recognized when services
have been fully performed and completed (the "Service Date"), but does not bill
for such services, in accordance with industry practices, until all services
relating to a client's campaign, including services to be performed by unrelated
third parties, have been completed. The client's obligation to pay for its
completed services is not contingent upon completion of the services to be
performed by these unrelated third parties. In any event, clients are billed no
later than a predetermined mailing date for their respective campaigns, which
date is generally not more than thirty days after the Service Date. Unbilled
receivables represent the portion of revenues recognized in excess of revenues
billed in accordance with this practice.
Revenues derived from telemarketing and telefundraising are recognized when
pledged cash is received for on-site campaigns and when services are provided
for off-site campaigns. Revenues and costs derived from Website development are
deferred until services are completed and recognized using a straight line
method over the remaining life of the contract.
Revenues derived from marketing communications are recognized when the campaign
is mailed.
Income Taxes:
The Company recognizes deferred taxes for differences between the financial
statement and tax bases of assets and liabilities at currently enacted statutory
tax rates and laws for the years in which the differences are expected to
reverse. The effect on deferred taxes of a change in tax rates is recognized in
income in the period that includes the enactment date. Valuation allowances are
established when necessary to reduce deferred tax assets to the amounts expected
to be realized.
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 at the date of the
financial statements and the reported amounts of revenues and expenses during
the reporting period. The most significant estimates and assumptions made in the
preparation of the consolidated financial statements relate to the carrying
amount and amortization of intangible assets, deferred tax valuation allowance
and the allowance for doubtful accounts. Actual results could differ from those
estimates.
Liquidity:
The Company has continued to experience operating losses and negative cash
flows. To date, the Company has funded its operations with public and private
equity offerings, and external financing through debt issuance. However,
management believes that the Company's current cash resources and credit
facility together with expected revenue growth and planned cost reductions will
be sufficient to fund the Company's operations for the next twelve months.
Failure to generate sufficient revenue or achieve planned cost reductions could
have a material adverse effect on the Company's ability to continue as a going
concern and to achieve its intended business objectives.
Concentration of Credit Risk:
Financial instruments that potentially subject the Company to concentration of
credit risk consist primarily of temporary cash investments and trade
receivables. The Company restricts investment of temporary cash to financial
institutions with high credit standings. A significant portion of cash balances
are maintained with one financial institution and may, at time, exceed federally
insurable amounts. Collateral is generally not required on trade accounts
receivable. Credit risk on trade receivables is minimized as a result of the
large and diverse nature of the Company's customer base.
Earnings (Loss) Per Share:
In accordance with SFAS No. 128, "Earnings Per Share," basic earnings per share
is calculated based on the weighted average number of shares of common stock
outstanding during the reporting period. Diluted earnings per share gives effect
to all potentially dilutive common shares that were outstanding during the
reporting period. Stock options and warrants with exercise prices below average
market price in the amount of 7,166,563, 3,354,238, and 1,138,264 shares for the
years ended June 30, 2000, 1999 and 1998, respectively, were not included in the
computation of diluted earnings per share as they are antidilutive as a result
of net losses during the periods presented.
The year ended June 30, 1999 includes the impact of dividends on preferred stock
for (a) adjustment of the conversion ratio for $11,366,022 for exercises of
stock options and warrants; (b) $949,365 in cumulative undeclared preferred
stock dividends; and (c) $219,943 of periodic non-cash accretions of preferred
stock.
The year ended June 30, 1998 includes the impact of dividends on preferred stock
for (a) a non-cash, non-recurring beneficial conversion feature of $3,214,400;
(b) $152,512 from adjustment of the conversion ratio for certain issuances of
common stock and exercises of stock options; (c) $464,816 in cumulative
undeclared dividends; and (d) $112,274 of periodic non-cash accretions on
preferred stock.
Employee Stock-Based Compensation:
The accompanying financial position and results of operations for the Company
have been prepared in accordance with APB Opinion No. 25, "Accounting for Stock
Issued to Employees" ("APB No. 25"). Under APB No. 25, generally, no
compensation expense is recognized in the financial statements in connection
with the awarding of stock option grants to employees provided that, as of the
grant date, the number of shares and the exercise price of the award are fixed
and the fair value of the Company's stock, as of the grant date, is equal to or
less than the amount an employee must pay to acquire the stock as defined.
The Company has elected the disclosure only provisions of Statement of Financial
Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS
123"). Pro forma operating results had the Company prepared its financial
statements in accordance with the fair-value-based method of accounting under
SFAS 123 have been included in Note 15.
Comprehensive Income:
The Company adopted SFAS No. 130, "Reporting Comprehensive Income" ("SFAS 130")
during the current fiscal year. SFAS 130 establishes standards for the reporting
and display of comprehensive income and its components. The Company has no items
of other comprehensive income in any period presented.
Summary of Recent Accounting Pronouncements:
In March 2000, the Financial Accounting Standards Board issued Interpretation
No. 44, "Accounting for Certain Transactions Involving Stock Compensation, an
interpretation of APB Opinion No. 25" (FIN 44). The interpretation provides
guidance for certain issues relating to stock compensation involving employees
that arose in applying Opinion 25. Among other issues, FIN No. 44 clarifies (a)
the definition of an employee for purposes of applying Opinion 25, (b) the
criteria for determining whether a plan qualifies as a noncompensatory plan, (c)
the accounting consequence of various modifications to the terms of a previously
fixed stock option or award, and (d) the accounting for an exchange of stock
compensation awards in a business combination. The provisions of FIN No. 44 are
effective July 1, 2000, except for the provisions regarding modifications to
fixed stock option awards which reduce the exercise price of an award, which
apply to modifications made after December 15, 1998. Provisions regarding
modifications to fixed stock option awards to add reload features apply to
modifications made after January 12, 2000. The Company believes that it is in
compliance with this guidance.
In December 1999, the staff of the Securities and Exchange Commission ("SEC")
issued Staff Accounting Bulletin No. 101 "Revenue Recognition in Financial
Statements" (SAB 101). SAB 101 summarizes some of the staff's interpretations of
the application of generally accepted accounting principles to revenue
recognition, including presentation in the financial statements. The staff
provided guidance due, in part, to the large number of revenue-recognition
issues that it has encountered in registrant filings. In June 2000, SAB101B,
"Second Amendment: Revenue Recognition in Financial Statements", was issued,
which defers the effective date of SAB 101 until no later than the fourth
quarter of fiscal years beginning after December 15, 1999. The Company is
currently evaluating the impact that SAB 101 will have on it's financial
statements and will adopt SAB 101 in fiscal 2001.
In June, 1998, the Financial Accounting Standards Board issued SFAS No. 133,
Accounting for Derivative Instruments and Hedging Activities"("SFAS No. 133").
This statement established accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded in other
contracts, and for hedging activities. It requires recognition of all
derivatives as either assets or liabilities on the balance sheet and measurement
of those instruments at fair value. In June 1999, the Financial Accounting
Standards Board issued SFAS No. 137 delaying the effective date of SFAS No. 133.
The provisions of SFAS No. 133 are effective for all fiscal quarters of all
fiscal years beginning after June 15, 2000. The effect of adopting SFAS No. 133
is not expected to have any impact on the Company as it current does not engage
in derivative or hedging activities.
Fair Value of Financial Instruments:
The carrying amounts of the Company's financial instruments, including cash,
accounts receivable, accounts payable and accrued liabilities, approximate fair
value because of their short maturities. The carrying amount of the Company's
lines of credit and long term debt approximates the fair value of such
instruments based upon management's best estimate of interest rates that would
be available to the Company for similar debt obligations at June 30, 2000, 1999
and 1998.
Reclassifications:
Certain reclassifications have been made to the prior years' financial
statements to conform with the current year's presentation.
3. ACQUISITIONS
Grizzard Communications Group, Inc:
On March 22, 2000, the Company acquired all of the outstanding capital stock of
Grizzard Advertising, Inc. and its subsidiaries, ("Grizzard"). Grizzard operates
a vertically integrated network of marketing communications companies. Total
cost of the acquisition was $104.0 million consisting of $47.8 million cash, a
$5 million Letter of Credit for certain hold back provisions, an aggregate of
2,545,799 shares of common stock of MSGi, valued at $19.04 per share and
acquisition costs in the amount of $2.7 million. A portion of the cash purchase
price was financed through a $58 million senior secured credit facility. See
Note 12. The purchase price has been allocated to the assets acquired and
liabilities assumed based on their estimated fair value as follows:
Working deficit $(9,902,262)
Property and equipment 16,631,724
Intangible assets 97,302,953
----------
$104,032,415
============
Coolidge:
On March 31, 2000, the Company acquired all of the outstanding common shares of
The Coolidge Company ("Coolidge"). The total cost of the acquisition was
$1,632,379, consisting of $207,946 of cash and a $538,715 note payable, 22,251
shares of common stock valued at $16.42 per share and transaction and other
costs of $51,356.
Working capital $295,843
Property and equipment 19,095
Intangible assets 1,317,441
---------
$1,632,379
==========
CMG Direct Corporation:
On May 13, 1999, MSGi acquired all of the outstanding capital stock of CMG
Direct Corporation, a wholly-owned subsidiary of CMGI, Inc. Total cost of the
acquisition was $33,029,237 which included $13,464,857 in cash, net of a
purchase price adjustment of $371,992 received in fiscal 2000, an aggregate of
2,321,084 shares of common stock of MSGi valued at $19,334,621 and acquisition
costs of $229,759. The cost of the acquisition has been allocated to the assets
acquired and liabilities assumed, based on their estimated fair value, as
follows:
Working capital $39,274
Property and equipment 433,063
Intangible assets 32,556,900
----------
$33,029,237
===========
CMG Direct provides database services to the direct marketing and internet
industries. PermissionPlus, a Web application developed by CMGD Direct that
enables companies to automate Web site customer acquisition and increase
customer lifetime value, was included in discontinued operations (see Note 18).
Stevens-Knox & Associates:
Effective January 1, 1999, MSGi acquired all of the issued and outstanding
capital stock (the "Shares") of Stevens-Knox and Associates, Inc., Stevens-Knox
List Brokerage, Inc. and Stevens-Knox International, Inc. (collectively "SK&A").
The total cost of the acquisition was $3,890,222, consisting of $3,254,417 cash
purchase price , assumption and payment of notes and loans payable of $385,445
and transaction and other costs of $250,360. The cost of the acquisition has
been allocated to the assets acquired and liabilities assumed based upon their
estimated fair values, as follows:
Working deficit $(1,647,833)
Property and equipment 78,115
Other assets 63,725
Other liabilities (1,302,194)
Intangible assets 6,698,409
----------
$3,890,222
==========
The agreement includes a contingent payment of up to $1,000,000 a year for each
of the next three fiscal years, adjustable forward to apply to the next fiscal
year if no contingent payment is due for one such year. The payments are
contingent upon (a) SK&A meeting targeted earnings before interest and taxes and
(b) certain targeted billings of MSGi subsidiaries and affiliates, as defined.
No amounts have been earned under the agreement. SK&A provides list management,
brokerage and database management services.
These acquisitions have been accounted for using the purchase method of
accounting. Accordingly, the operating results of these acquisitions are
included in the results of operations from the date of acquisition. The
following summary pro forma information presents the consolidated results of
operations of MSGi as if, Grizzard, Coolidge, CMG Direct, and SKA, after
including the impact of certain adjustments, such as amortization of
intangibles, adjustments in salaries and increased interest on acquisition debt,
had been acquired as of the beginning of fiscal year 1999. The summary also
includes the conversion of the redeemable preferred stock (see Note 14) as if
the conversion occurred prior to July 1, 1998.
Supplemental
Pro forma information
For the year ended June 30,
Unaudited
2000 1999
---- ----
Revenues $195,181,000 $195,128,000
Loss from continuing
operations $(39,602,000) $(11,051,000)
Net Loss per common share
Continuing operations,
Basic and diluted $(1.39) $(.54)
======= ======
The unaudited pro forma information is provided for informational purposes only.
It is based on historical information and is not necessarily indicative of
future results of operations of the consolidated entities.
4. DISPOSITION OF SUBSIDIARY
In May 1998, the Company formed Metro Fulfillment, Inc, ("MFI"), an operating
subsidiary providing on-line commerce, real-time database management,
inbound/outbound customer service, custom packaging, assembling, product
warehousing, shipping, payment processing and retail distribution.
Effective March 1, 1999, the Company sold 85% of the issued and outstanding
common stock of MFI for $1,260,000 consisting of a cash payment of $100,000 and
a promissory note of $1,160,000. The promissory note is payable in nine annual
installments and bears interest at prime plus 1%. The note receivable is
collateralized by certain stock options held by the purchaser of MFI. The
transaction resulted in an immaterial gain. The purchaser of MFI has retained
the right to acquire the remaining shares under the same terms and conditions as
the original agreement.
In September 1999, the purchaser elected to acquire the remaining 15% for
$222,353 which consisted of a promissory note. The note is payable $22,235 on
October 1, 1999 and the remainder in nine equal annual installments and bears
interest at prime plus 1%. The note receivable is collateralized by certain
stock options held by the purchaser.
5. INTERNET INVESTMENTS
In July 1999, the Company invested $1.6 million to acquire a 10% interest in
Screenzone Media Network, LLC ("Screenzone"). Screenzone is a new interactive
broadcast gateway that was developed to advertise and promote movies, music,
live events and other entertainment at shopping malls and over the Internet. In
June 2000, the Company believed that the carrying value of its investment was
impaired and wrote off its investment in Screenzone.
In October 1999, the Company acquired approximately a 10% interest in
Mazescape.com for $.2 million. Mazescape.com is an innovative Internet
technology company that delivers customized, automated recruiting software and
services that improve the performance of corporate recruiters. In June 2000, the
Company believed that the carrying value of its investment was impaired and
wrote off its investment.
In September 1999, the Company completed an investment of $5 million to acquire
convertible preferred stock of GreaterGood.com. The Company owns approximately
11% of the outstanding shares of GreaterGood.com. GreaterGood.com builds,
co-markets and manages online shopping villages for not-for-profit organization
web sites. In June 2000, the Company believed that the carrying value of its
investment was impaired and wrote off its investment in Greatergood.com.
In December 1999, the Company acquired a 10% interest in Fusion Networks, Inc.
for $27.5 million in common stock. Fusion Networks became a public entity in
April 2000. Fusion Networks, Inc. operates the website www.latinfusion.com. The
website is an interactive, multimedia and entertainment Latin American based
portal featuring television, music and e-commerce capabilities. In June 2000,
the Company wrote its investment in Fusion Networks down by approximately $20.3
million to the fair value as determined by the quoted market price. The charge
was recorded through the statement of operations due to the fact that the
Company believes the impairment in market value is other than temporary.
As detailed above, the Company has taken a fourth quarter charge of
approximately $27 million for unrealized losses on Internet investments made
during the fiscal year based on all available information. The Company believes
such losses are a result of significant changes in Wall Street valuations of
Internet stocks. The Company has suspended its Internet investment strategy and
will focus all efforts on the profitability of its core direct marketing
operations.
6. PROPERTY, PLANT AND EQUIPMENT:
Property, plant and equipment at June 30, 2000 and 1999 consist of the
following:
2000 1999
---- ----
Land, building and improvements $7,355,082 $ -
Office furniture and equipment 11,466,068 2,048,252
Assets under capital leases 1,066,194 342,590
Leasehold improvements 1,797,587 355,502
Construction in progress - 84,492
--------- ----------
21,684,931 2,830,836
Less accumulated depreciation and
Amortization (2,994,453) (1,326,010)
--------- ---------
$18,690,478 $ 1,504,826
=========== ===========
Assets under capital leases as of June 30, 2000 and 1999, consist primarily of
computer and related equipment. Accumulated amortization for such assets
amounted to $602,900 and $260,399 as of June 30, 2000 and 1999, respectively.
7. INTANGIBLE ASSETS:
Intangible assets at June 30, 2000 and 1999, consist of the following:
Lives 2000 1999
----- ---- ----
Covenants not to compete 5 years 1,650,000 $ 1,650,000
Capitalized software 3-7 years 9,197,974 350,000
Customer base 15-20 years 25,578,125 3,361,573
List databases 3-10 years 966,748 966,748
Assembled workforce 5 years 3,337,953 472,184
Present value of favorable lease 53 months 1,187,982 347,920
Goodwill 10-40 years 120,124,615 53,655,970
---------- ----------
162,043,397 60,804,395
Less accumulated amortization (8,027,324) (3,826,446)
----------- -----------
$154,016,073 $56,977,949
The increase in intangible assets during 2000 was due to the identified
intangible assets and costs in excess of net assets acquired in Grizzard and
Coolidge. The increase in intangible assets during 1999 was due primarily to the
identified intangible assets and costs in excess of net assets acquired in the
SK&A and CMG Direct acquisitions.
As of June 30, 2000 and 1999 the unamortized balance of capitalized software was
$8,601,808 and $205,833, respectively. Amortization expense for software was
$380,740 and $56,667 and $50,000 for the years end June 30, 2000, 1999 and 1998
respectively.
8. INVENTORIES:
Inventory consists of the following at June 30, 2000:
2000
----
Work in process $4,076,417
Raw materials and supplies 497,629
---------
Total $4,574,046
==========
9. SHORT TERM BORROWINGS:
Certain of the Company's subsidiaries have renewable two-year credit facilities
with a lender for lines of credit aggregating $4,500,000, collateralized by
certain tangible assets of the Company. Borrowings are limited to the lesser of
the maximum availability or a percentage of eligible receivables. Interest is
payable monthly at the Chase Manhattan reference rate (9.5 % and 8 1/2% at June
30, 2000 and June 30, 1999, respectively) plus 1 1/2% with a minimum annual
interest requirement of $155,000. The facility requires an annual fee of 1% of
the maximum available line and has tangible net worth and working capital
covenants. As of June 30, 2000, the Company was in violation of certain net
worth covenants and had received the applicable waivers of violation from the
lendor.
A certain subsidiary has a revolving credit facility with a bank for $13,000,000
which expires in March 2005. Borrowings are limited to the lesser of the maximum
availability or a percentage of eligible receivables. Interest is payable
quarterly at either prime rate or LIBOR plus an applicable margin ranging from
1.5% to 2.5%, for prime and 2.5% to 3.5% for LIBOR based on a financial ratio.
See Note 12.
As of June 30, 2000, there was an aggregate of approximately $4.2 million
available under all lines of credit.
10. ACCRUED EXPENSES AND OTHER CURRENT LIABILITIES:
Accrued expenses as of June 30, 2000 and 1999 consisted of the following:
2000 1999
---- ----
Salaries and benefits $2,512,158 $1,134,987
Severance cost 157,814 1,000,000
Stock option withholding taxes - 2,977,088
Other 6,861,756 3,039,689
--------- ---------
Total $9,531,728 $8,151,764
========== ==========
11. RELATED PARTY TRANSACTIONS:
During July and August 1999, the Company entered into a promissory note
agreement with a venture fund in the amount of $4,500,000. The principal and all
accrued interest was payable in full on December 10, 1999 and bore interest at
the greater of 10% or prime plus 2%. An officer of the Company is a partner in
the venture fund. The principal amount and all accrued interest was prepaid in
September 1999 with proceeds of a private placement. (See Note 15).
In connection with the acquisition of CMGD, the Company entered into a
promissory note agreement with GE Capital in the amount of $10,000,000. The note
was payable in full on November 17, 1999 and accrues interest at 12% per annum.
Interest was payable in arrears on August 17, 1999 and on the maturity date.
Concurrent with issuance of the promissory note, the original outstanding
warrant which was issued in connection with GE Capital's purchase of redeemable
convertible preferred stock was amended (See Note 14).
The Company recorded the GE Capital promissory note at a discount of $342,000 to
reflect an allocation of the proceeds to the estimated value of the amended
warrant. The discount is being amortized into interest expense using the
interest method over the term of the debt. Approximately $256,500 and $85,500 of
such discount was included as interest expense for the year ended June 30, 2000
and 1999, respectively.
In August 1999, the GE Capital note was amended to extend the maturity date to
October 15, 2000 with interest to be paid quarterly and provided for certain
increases in the interest rate based on the time the principal remains
outstanding. In addition, in the event the Company completed a private placement
as defined on or before December 20, 1999 the maturity date was subject to
acceleration. During September 1999, the Company completed a private placement
of common stock for net proceeds of approximately $30.8 million (See Note 15).
In accordance with the amendment, $5,000,000, was immediately paid and the
remaining balance, included in current liabilities, was due and paid on July 1,
2000. As of June 30, 2000 GE Capital owned approximately 14.5% of the
outstanding common stock of the Company.
In December 1998, MSGi loaned an officer of the Company $100,000 pursuant to a
promissory note. The note bore interest at the rate earned on the Company's
money market fund. Principal and interest were payable in full in a lump sum. In
April 1999, the promissory note, including accrued interest was repaid.
A member of the Board of Directors, is a partner in a law firm which provides
legal services for which the Company incurred expenses aggregating approximately
$1,272,000, $94,000 and $176,000 during fiscal 2000, 1999 and 1998,
respectively.
12. LONG TERM OBLIGATIONS:
Long term obligations as of June 30, 2000 and 1999 consist of the following:
2000 1999
---- ----
Promissory notes payable - maturity
October 1999 (a) - $233,333
Promissory notes payable - maturity
January 2004 (b) 997,876 1,242,585
Promissory notes payable - maturity
March 2000 (c) 23,305 92,625
Promissory note payable - maturity
July 25, 2000 (d) 362,500 -
Term loan payable - maturity
March 2005 (e) 40,000,000 -
Contingent purchase price for
Grizzard acquisition 5,000,000 -
--------- -------
Total debt 46,383,681 1,568,543
Less: Current portion of
long-term debt (6,199,820) (570,653)
Discount on notes payable to bank (4,570,667) -
---------- -------
Long-term debt $35,613,194 $997,890
=========== ========
(a) In connection with the acquisition of SD&A, the Company incurred promissory
notes payable to former shareholders, payable monthly at 8% interest
through October 1999.
(b) In connection with the acquisition of SK&A, the Company incurred promissory
notes payable to former shareholders, payable monthly at 5.59% interest
through January 2004.
(c) In connection with the acquisition of SK&A, the Company incurred promissory
notes payable to former shareholders, payable monthly at 12% interest
through March 2000.
(d) In connection with the acquisition of Coolidge, the Company incurred
promissory note payable to a former shareholder, payable monthly at 10%
interest through July 25, 2000.
(e) In March 2000, the Company entered into a credit agreement (the "Credit
Agreement") with a $58,000,000 senior secured facility.
The Credit Agreement is comprised of a $13 million revolving line of
credit, $40 million term loan and $5 million standby letter of credit. The
Credit Agreement expires on March 31, 2005 and bears interest at prime rate
or LIBOR plus an applicable margin ranging from 1.5% to 2.5%, for prime and
2.5% to 3.5% for LIBOR based on a financial ratio. The term loan is payable
in quarterly installments through March 2005. The loans are collaterialized
by substantially all of the assets of the Company and are guaranteed by all
of the Company's non-internet subsidiaries. The revolving line of credit is
classified under short term borrowings (See Note 9). As of June 30, 2000,
the interest rates were 11.5% for borrowings under the prime rate and 10.4%
for borrowings under LIBOR.
In connection with the Credit Agreement, the Company issued a warrant to
purchase 298,541 shares of the Company's common stock at an exercise price
of $.01 per share. The $40 million term loan was recorded at a discount of
approximately $5 million to reflect an allocation of the proceeds to the
estimated value of the warrant and is being amortized as interest expense
over the life of the loan using the interest method of accounting.
Approximately $453,000 was recorded as interest expense for the year ended
June 30, 2000.
Under the terms of the Credit Agreement, the Company is required to
maintain certain financial covenants related to consolidated EBITDA and
consolidated debt to capital, among others.
13. COMMITMENTS AND CONTINGENCIES:
Leases: The Company leases various office space and equipment under
non-cancelable long-term leases. The Company incurs all costs of insurance,
maintenance and utilities.
Future minimum rental commitments under all non-cancelable leases, as of June
30, 2000 are as follows:
Operating Leases Capital Leases
---------------- --------------
2001 $5,802,392 $256,499
2002 5,244,574 202,013
2003 4,352,684 170,107
2004 3,667,107 122,015
2005 3,273,090 7,548
Thereafter 8,896,016 71,931
--------- ------
$31,235,863 830,113
===========
Less interest (52,564)
Present value of capital lease -------
obligation $777,549
========
Rent expense was approximately $2,921,739, $840,000, and $646,00 for fiscal
years ended 2000, 1999, and1998 respectively.
Contingencies: In June 1999, certain employees of SD&A voted against
representation by the International Longshore and Warehouse Union ("ILWU"). The
ILWU has filed unfair labor practices with the National Labor Relations Board
("NLRB") alleging that the Company engaged in unlawful conduct prior to the
vote. The NLRB has issued a complaint seeking a bargaining order and injunctive
relief compelling the Company to recognize and bargain with the ILWU. The
Company intends to vigorously defend against these charges. An unfavorable
finding will not have any direct financial impact on the Company.
Litigation: In September, 1999, an action was commenced against the Company in
the Supreme Court of New York, Kings County alleging damages of $4.3 million in
connection with the Company's alleged failure to deliver warrants due the
plaintiff, in June 1996. Although the Company denied all liability, the suit was
settled in January 2000 in consideration for the issuance of warrants to acquire
18,000 shares of common stock of the Company at an exercise price of $1.00 per
share. Accordingly, the Company recognized $315,000 of expense based on the fair
market value of the warrants granted as determined by the Black Scholes model.
The expense is included in selling general and administrative expenses for the
year ended June 30, 2000.
An employee of Metro Fulfillment, Inc. ("MFI"), which, until March 1999, was a
subsidiary of the Company, filed a complaint in the Superior Court of the State
of California for the County of Los Angeles, Central District, against MSGi and
current and former officers of MSGi. The complaint seeks compensatory and
punitive damages in connection with the individual's employment at MFI. The
Company believes that the allegations in the complaint are without merit and,
the Company has asserted numerous defenses, including that the complaint fails
to state a claim upon which relief can be granted. The Company intends to
vigorously defend against the lawsuit. An estimate of the possible loss cannot
be determined.
In addition to the above, certain other legal actions in the normal course of
business are pending to which the Company is a party. The Company does not
expect that the ultimate resolution of pending legal matters will have a
material effect on the financial condition, results of operations or cash flows.
14. PREFERRED STOCK:
On February 24, 2000 the Company entered into a private placement with RGC
International Investors LDC and Marshall Capital Management, Inc., an affiliate
of Credit Suisse First Boston, in which the Company sold an aggregate of 30,000
shares of Series E Convertible Preferred Stock, par value $.01 ("Series E
Preferred Stock"), and warrants to acquire 1,471,074 shares of common stock for
proceeds of approximately $29.5 million, net of approximately $520,000 of
placement fees and expenses. The preferred stock provides for liquidation
preference under certain circumstances and accordingly has been classified in
the mezzanine section of the balance sheet. The preferred stock has no dividend
requirements.
The Series E Preferred Stock is convertible at any time at $24.473 per share,
subject to reset on August 18, 2000 if the market price of our Common Stock is
lower and subject to certain anti-dilution adjustments. On August 18, 2000, the
conversion price was reset to $12.24 per share, the market price on that date.
The warrants are exercisable for a period of two years at an exercise price of
$28.551, subject to certain anti-dilution adjustments.
On December 24, 1997, the Company and General Electric Capital Corporation ("GE
Capital") entered into a stock purchase agreement (the "Purchase Agreement")
providing for the purchase by GE Capital of (i) 50,000 shares of Series D
redeemable convertible preferred stock, par value $0.01 per share, (the
"Convertible Preferred Stock"), and (ii) a warrant to purchase up to 10,670,000
shares of Common Stock (the "Original Warrant"), all for an aggregate purchase
price of $15,000,000. The Convertible Preferred Stock was convertible into
shares of Common Stock at a conversion rate, subject to anti-dilution
adjustments. The Original Warrant is exercisable in November 2001 and is subject
to reduction or cancellation based on the Company's meeting certain financial
goals set forth in the Original Warrant or upon the occurrence of a qualified
secondary offering within a certain time period, as defined.
The Company recorded the Convertible Preferred Stock at a discount of
approximately $1,362,000, to reflect an allocation of the proceeds to the
estimated value of the Original Warrant and was being amortized as a dividend
using the interest method over the redemption period. Approximately $219,000 and
$112,000 of such discount has been included as a dividend for the years ended
June 30, 1999 and 1998, respectively. In addition, the Company recorded a
non-cash, non-recurring deemed dividend of $3,214,400 for the year ended June
30, 1998 representing the difference between the conversion price of the
Convertible Preferred Stock and the fair market value of the common stock as of
the date of the agreement.
Dividends were cumulative and accrued at the rate of 6% per annum. The
convertible preferred stock was mandatorily redeemable for $300 per share, if
not previously converted, on the sixth anniversary of the original issue date
and was redeemable at the option of the holder upon the occurrence of an organic
change in the Company, as defined in the purchase agreement.
On April 21, 1999, the Company exercised its right to convert all 50,000 shares
of GE Capital's Series D redeemable convertible preferred stock into
approximately 4.8 million shares of common stock. In conjunction with the
conversion, all preferred shareholder rights, including quarterly dividends,
financial covenants, acquisition approvals and board seats, were cancelled
effective immediately.
In May 1999, the Original Warrant was amended in connection with the issuance of
a promissory note (See Note 11). Upon an occurrence of a Qualified Secondary
Offering, as defined in the agreement, the Original Warrant was fixed at 200,000
shares with an exercise price of $.01 per share. The amendment changed the
amount and exercise price per share to 300,000 shares with an exercise price of
one-third of the offering price in a Qualified Secondary Offering. In August
1999, the warrant was amended a second time to amend the definition of a
Qualified Secondary Offering to include a Qualified Private Placement, as
defined, and to change the time frame for the completion of a Qualified
Secondary Offering or Private Placement from December 31, 1999 to on or after
December 20, 1999 through April 30, 2000. The Company has not completed a
Qualified Secondary Offering or Private Placement during the specified period,
accordingly the Original Warrant remains exercisable for up to 10,670,000 shares
subject to reduction or cancellation based on the Company's meeting certain
financial goals for fiscal year 2001.
15. COMMON STOCK, STOCK OPTIONS, AND WARRANTS:
Common Stock: In September 1999, the Company completed a private placement of
3,130,586 shares of common stock for proceeds of approximately $30.5 million,
net of approximately $2.3 million of placement fees and expenses. The shares
have certain registration rights. The proceeds of the private placement were
used in connection with the Company's Internet investments, to repay certain
short-term debt and for working capital purposes. The shares were registered on
October 29, 1999.
On September 23, 1998, the Company announced its intention to acquire, in open
market transactions, up to 1,000,000 shares of its Common Stock, par value, $.01
per share (the "Common Stock"), subject to and in compliance with the provisions
and limitations of Rule 10b-18 of the Securities Exchange Act of 1934. Purchases
were made from time to time at prevailing market prices during the one-year
period which commenced on September 28, 1998. The source of funds for the
purchase of the shares was the Company's general corporate funds, and all shares
purchased are held in treasury. During 1999, the Company bought back 412,094
shares at a cost of $1,258,241.
During fiscal years ended 1998 and 1997, the Company issued 139,178 and 96,748
shares of common stock, respectively, as additional contingent purchase price
resulting from SD&A's achievement of defined results of operations for fiscal
1997 and 1996.
Stock Options: The Company maintains a non-qualified stock option plan (the
"1991 Plan") for key employees, officers, directors and consultants to purchase
3,150,000 shares of common stock. The Company also maintains a qualified stock
option plan (the "1999 Plan") for the issuance of up to an additional 3,000,000
shares of common stock under qualified and non-qualified stock options. Both
plans are administered by the compensation committee of the Board of Directors
which has the authority to determine which officers and key employees of the
Company will be granted options, the option price and vesting of the options. In
no event shall an option expire more than ten years after the date of grant.
On November 16, 1998, the compensation committee of the Board of Directors
agreed to reprice certain stock options of employees of the Company. All
employee stock options with an exercise price greater than $3.11 were repriced
to $3.11. As a result, stock options in the amount of 950,458 were repriced. On
November 16, 1998, the closing price of the Company's stock was $2.189.
The following summarizes the stock option transactions under the 1991 Plan for
the three years ended June 30, 2000:
Number Option Price
of Shares Per Share
--------- ---------
Outstanding at June 30, 1997 1,586,747
Granted 1,302,100 $2.825 to $6.00
Exercised (4,135) $2.00
Canceled (93,132) $2.00 to $16.00
--------
Outstanding at June 30, 1998 2,791,580
Granted 379,200 $3.00 to $8.50
Exercised (1,590,101) $2.00 to $4.1875
Canceled (20,626) $2.00 to $3.00
--------
Outstanding at June 30, 1999 1,560,053
Granted -
Excercised (235,282) $2.00 to $5.00
Canceled (17,479) $2.00 to $3.11
--------
Outstanding at June 30, 2000 1,307,292
The following summarizes the stock option transactions under the 1999 Plan for
the years ended June, 30 1999 and June 30, 2000:
Granted 190,000 $5.17 to $8.50
-------
Outstanding at June 30, 1999 190,000
=======
Granted 2,332,906 $1.54 to $15.125
Excercised -
Canceled -
---------
Outstanding at June 30, 2000 2,522,906
=========
During Fiscal 1999, 400,000 stock options were granted with a below market
exercise price on the date of employment to a then executive of the Company.
133,000 options vested immediately and the balance ratably over the next two
years. The aggregate difference of $1,232,000 between the exercise price and the
market price on the date of grant has been recorded as deferred compensation and
included in stockholders' equity. The deferred compensation was being amortized
into compensation expense over the vesting period of the options. In March 2000,
in connection with a severance agreement, all options became fully vested and
the balance of deferred compensation was expensed. The Company recognized
compensation expense of approximately $444,000 in 1999. Approximately $788,000
was recognized as compensation expense and included in loss from discontinued
operations for the year ended June 30, 2000.
In addition to the 1991 and 1999 Plans, the Company has option agreements with
current and former officers and employees of the Company. The following
summarizes transactions for the three years ended June 30, 2000:
Number Option Price
of Shares Per Share
--------- ---------
Outstanding at June 30, 1997 1,002,250
Canceled (2,250) $16.00
-------
Outstanding at June 30, 1998 1,000,000
Granted 400,000 $5.17
---------
Outstanding at June 30, 1999 1,400,000
=========
Granted 375,000 $4.4375
Exercised (240,000) $5.17
--------
Outstanding at June 30, 2000 1,535,000
=========
As of June 30, 2000, 2,349,191 options are exercisable. The weighted average
exercise price of all outstanding options is $4.84 and the weighted average
remaining contractual life is 6.04 years. Except as noted above, all options
granted in fiscal years 2000, 1999 and 1998 were issued at fair market value. At
June 30, 2000, 477,094 options were available for grant.
Had the Company determined compensation cost based on the fair value methodology
of SFAS 123 at the grant date for its stock options, the Company's loss and
earnings per share from continuing operations would have been adjusted to the
pro forma amounts indicated below:
Years ended June 30,
---------------------------------
2000 1999 1998
---- ---- ----
Loss from continuing
operations as reported $(41,130,223) $(7,645,603) $(780,478)
pro forma $(46,731,147) $(9,913,855) $(2,798,152)
Net loss
attributable to
common stockholders as reported $(41,130,223) $(20,180,933) $(4,724,480)
pro forma $(46,731,147) $(22,449,185) $(6,742,154)
Earnings per share as reported $(1.55) $(1.39) $(.37)
pro forma $(1.76) $(1.54) $(.52)
Pro forma net loss reflects only options granted in fiscal 1996 through 2000.
Therefore, the full impact of calculating compensation cost for stock options
under SFAS No. 123 is not reflected in the pro forma net loss amounts presented
above because compensation cost is reflected over the options' maximum vesting
period of seven years and compensation cost for options granted prior to July 1,
1995, has not been considered. The fair value of each stock option is estimated
on the date of grant using the Black-Scholes option pricing model with the
following weighted average assumptions: an expected life of vesting plus two
years, expected volatility of 90%, no dividend yield and a risk-free interest
rate ranging from 4.5% to 6%.
As of June 30, 2000, the Company has 1,801,365 warrants outstanding to purchase
shares of common stock at prices ranging from $0.01 to $8.00. All outstanding
warrants are currently exercisable.
16. INCOME TAXES:
As of June 30,
--------------
2000 1999
---- ----
Deferred tax assets:
Net operating loss carryforwards:
Continuing operations $36,082,076 $21,909,217
Discontinued operations 7,948,549 -
Compensation on option grants 3,486,775 150,928
Unrealized loss on investments 11,659,420 -
Other - 352,415
---------- ----------
Total assets 59,176,820 22,412,560
Deferred tax liabilities:
Amortization of intangible assets (15,114,470) -
Other (982,478) -
---------- ----------
Total liabilities (16,096,948) -
---------- ----------
Net deferred tax assets 43,079,872 22,412,560
Valuation allowance (43,079,872) (22,412,560)
----------- -----------
Net deferred tax assets $ - $ -
=========== ===========
The Company has a net operating loss carryforward of approximately $84,700,000
available which expires from 2010 through 2020. Of these net operating loss
carryforwards approximately $50 million is the result of windfall deductions
related to the exercise of non-qualified stock options. The realization of these
net operating loss carryforwards would result in a credit to equity. These loss
carryforwards are subject to annual limitations.
17. EMPLOYEE RETIREMENT SAVINGS PLAN (401K):
Certain subsidiaries sponsor tax deferred retirement savings plans ("401(k)
plans") which permit eligible employees to contribute varying percentages of
their compensation up to the annual limit allowed by the Internal Revenue
Service.
Certain subsidiaries match employees' contributions to a maximum of 2% of the
employee's salary. Matching contributions charged to expense were $274,951, $
63,523 and $48,822 for the fiscal years ended June 30, 2000, 1999 and 1998,
respectively.
Certain subsidiaries also provide for discretionary company contributions.
Discretionary contributions charged to expense for the fiscal years end June 30,
2000, 1999 and 1998 were $64,024, $63,391 and $24,959, respectively.
18. DISCONTINUED OPERATIONS:
On October 1, 1999, the Company completed an acquisition of approximately 87% of
the outstanding common stock of Cambridge Intelligence Agency for a total
purchase price of $2.4 million which consisted of $1.6 million in common stock
of the Company and an interest in the Company's Permission Plus software and
related operations valued at $.8 million, subject to certain adjustments.
Concurrently with this acquisition, the Company formed WiredEmpire, a licensor
of email marketing tools. Effective with the acquisition, Cambridge Intelligence
Agency and the Permission Plus asset was merged into WiredEmpire. In January
2000, the Company contributed its Pegasus subsidiary to WiredEmpire for
additional shares of common stock.
In March 2000, the Company completed a private placement of 3,120,001 shares of
Convertible Preferred Stock of its WiredEmpire subsidiary for proceeds of
approximately $18.7 million, net of placement fees and expenses of $1.3 million.
In connection with the discontinued operation of WiredEmpire, the Company has
offered to redeem the preferred shares in exchange for MSGi common shares. The
redemption is expected to occur in the second quarter of fiscal year 2001.
On September 21, 2000, the Company's Board of Directors approved a plan to
discontinue the operation of its WiredEmpire subsidiary. The Company will shut
down the operations anticipated to be completed by the end of January 2001. The
estimated losses associated with WiredEmpire are approximately $35 million.
These losses for WiredEmpire include approximately $20 million in losses from
operations through the measurement date and approximately $15 million of loss on
disposal which includes approximately $2 million in losses from operations from
the measurement date through the estimated date of disposal. It also includes
provisions for vested compensation expense, write down of assets to net
realizable value, lease termination costs, employee severance and benefits and
other contractual commitments.
The assets and liabilities of WiredEmpire have been separately classified on the
consolidated balance sheets as "Net assets(liabilities) of discontinued
operations." A summary of these assets and liabilities at June 30, 2000 and 1999
were as follows:
2000 1999
---- ----
Current assets $9,970,510 -
Non current assets 606,086 5,516,000
Current liabilities (10,193,618) -
Preferred stock (18,729,699) -
Net assets (liabilities) of ---------- ---------
discontinued operations $(18,346,721) $5,516,000
========== =========
In connection with the discontinued operations of WiredEmpire, the Company has
offered to redeem the preferred shares in exchange for MSGi common shares. The
redemption is expected to occur in the second quarter of fiscal year 2001. The
liability of $18.7 million for the preferred shareholders is currently included
in the net liability of discontinued operations and it is anticipated that this
will be settled in MSGi stock.
19. SUPPLEMENTAL SCHEDULE OF NON CASH INVESTING AND FINANCING ACTIVITIES:
For the year ended June 30, 2000:
o Capital lease obligations of $708,510 were incurred for the leasing of
certain equipment.
o The Company sold its 15% minority interest in Metro Fulfillment, Inc. for a
Note Receivable in the amount of $222,353.
o In addition, there were certain non-cash transactions related to the
acquisitions of Grizzard, Coolidge and the investment in Fusion Networks,
Inc. (See footnotes 3 and 5).
For the year ended June 30, 1999:
o The Company recorded the following non-cash preferred dividends as of June
30, 1999: (a) $11,366,022 adjustment of the conversion ratio for exercises
of stock options and warrants; (b)$949,365 cumulative undeclared dividends;
and (d) $219,943 of periodic, non-cash accretions on preferred stock. On
April 21, 1999, the Company exercised its right to convert all 50,000
shares of General Electric Capital Corporation's Series D Convertible
Preferred Stock into approximately 4.8 million shares of common stock. In
conjunction with the conversion, all preferred shareholder rights,
including quarterly dividends, financial covenants, acquisition approvals
and board seats were cancelled.
o Convertible debt and accrued interest with an aggregate amount of $558,765
was converted into 224,000 shares of common stock.
o Capital lease obligations of $47,934 were incurred for the leasing of
certain equipment. o The Company sold 85% of the issued and outstanding
common stock of MFI for $1,260,000 consisting of a cash payment of $100,000
and a promissory note of $1,160,000.
o 145,000 outstanding warrants were converted into 116,406 shares of common
stock in a cashless exercise.
For the year ended June 30, 1998:
o As a result of the sale of $15,000,000 of redeemable convertible preferred
stock and warrants to General Electric Capital Corporation, more fully
described in Note 12, the Company has recorded the following non-cash
preferred dividends as of June 30, 1998: (a) $3,214,400 non-cash,
non-recurring beneficial conversion feature; (b) $152,512 adjustment of the
conversion ratio for certain issuances of common stock and exercises of stock
options; (c) $464,816 cumulative undeclared dividends; and (d) $112,274 of
period, non-cash accretions on preferred stock.
o Convertible debt and accrued interest with an aggregate principal amount of
$1,700,000 was converted into 694,411 shares of common stock. Unamortized
deferred financing costs relating to the convertible debt in the amount of
$99,857 were written off to paid in capital upon conversion.
o Capital lease obligations of $142,231 were incurred for the leasing of
certain equipment and automobiles.
o Property and equipment in the amount of $626,356 were acquired through the
foreclosure on a note receivable.
o The Company issued 139,178 shares of common stock, valued at $425,000, as an
earn-out payment to the former owner of SD&A for achieving certain targeted
earnings for the fiscal year ended June 30, 1997. The Company increased
intangible assets by $780,000 and $91,112 due to an earn-out payment paid to
the former owner of SD&A for the achievement of defined results of operations
for the fiscal year ended June 30, 1998 and 1997, respectively.
Supplemental disclosures of cash flow data:
2000 1999 1998
---- ---- ----
Cash paid during the year for:
Interest 1,510,937 $547,209 $ 439,264
Financing charge 90,741 $75,000 $1,101,719
Income tax paid 48,429 $162,107 $ 45,019
Supplemental schedule of non cash investing and financing activities o Details
of businesses acquired in purchase transactions:
2000 1999 1998
---- ---- ----
Working capital deficit, other than
cash acquired $11,627,717 $(1,527,513) $(203,142)
Fair value of other assets acquired $117,702,990 $39,830,212 $9,091,306
Liabilities assumed or incurred $30,303,214 $1,302,194 $119,300
Fair value of stock issued for
acquisitions $48,837,375 $19,334,621 $2,800,000
Cash paid for acquisitions
(including related expenses) $50,770,586 $17,956,830 $6,353,225
Cash acquired $580,468 $290,946 $384,361
Net cash paid for (provided by) ---------- ---------- ---------
acquisitions $50,190,118 $17,665,884 $5,968,864
20. SEGMENT INFORMATION:
In accordance with SFAS No. 131, "Disclosures about Segments of an Enterprise
and Related Information" segment information is being reported consistent with
the Company's method of internal reporting, which excludes discontinued
operations from the segments. In accordance with SFAS No. 131, operating
segments are defined as components of an enterprise for which separate financial
information is available that is evaluated regularly by the chief operating
decision maker in deciding how to allocate resources and in assessing
performance. MSGi is organized primarily on the basis of products broken down
into separate subsidiaries. Based on the nature of the services provided and
class of customers, as well as the similar economic characteristics, MSGi's
subsidiaries have been aggregated. The accounting policies of the segments are
the same as those described in Note 2, Summary of Significant Accounting
Policies. No single customer accounted for 10% or more of total revenues. MSGi
earns 100% of its revenue in the United States.
Supplemental product line information:
2000 1999 1998
---- ---- ----
List services $74,699,861 $56,201,456 $28,998,882
Database/computer processing 16,371,657 8,389,500 4,643,024
Telemarketing/telefundraising 15,204,985 15,210,562 16,505,516
Marketing communications 20,458,691 - -
Internet 1,720,076 946,973 618,084
Other 151,612 1,493,403 408,557
------- --------- -------
Consolidated total $128,606,882 $82,241,894 $51,174,063
============ =========== ===========
<PAGE>
Schedule II
Marketing Services Group, Inc.
Valuation and Qualifying Accounts
For the Years Ended June 30, 2000, 1999 and 1998
--------------------------------------------------------------------------------
Column A Column B Column C Column D Column E
--------------------------------------------------------------------------------
Additions
-----------------------
Balance at Charged To Charged To
Description Beginning Costs And Other Deductions- Balance At
Of Period Expenses Accounts- Describe(1) End Of Period
Describe
--------------------------------------------------------------------------------
Allowance for doubtful accounts
Fiscal 2000 $551,043 $427,578 $1,642,442(2) $333,206 2,287,857
Fiscal 1999 $421,861 $162,715 $361,3772(2) $394,910 $551,043
Fiscal 1998 $32,329 $70,170 $319,3622(2) - $421,861
------------------
(1) Represents accounts written off during the period.
(2) Represents allowance for doubtful account balance on the opening balance
sheets for acquisitions made during the year.
