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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-KSB
[ X ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE
ACT OF 1934 [Fee Required]
For the fiscal year ended December 31, 1999
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [No Fee Required]
For the transition period from to
Commission File Number: 0-14793
TEKNOWLEDGE CORPORATION
(Name of small business issuer as specified in its charter)
Delaware 94-2760916
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1810 Embarcadero Road, Palo Alto, California 94303
(Address of principal executive offices) (Zip Code)
Issuer's telephone number: (650)424-0500
Securities registered pursuant to Section 12 (b) of the Act: None
Securities registered pursuant to Section 12 (g) of the Act:
Common Stock, $.01 par value per share
Series A Preferred Stock Purchase Rights
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes [ ] No [X]
Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B 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-KSB or any
amendment to this Form 10-KSB. [ ]
State issuer's revenues for its most recent fiscal year. $11,094,672
The aggregate market value of Common Stock, $.01 par value per share, held by
non-affiliates of the registrant was $44,986,828 on March 21, 2000 (based on the
average bid and ask price per share of Common Stock on that date as reported by
the Nasdaq SmallCap Market). Shares of Common Stock held by each officer and
director and by each person who owns 5% or more of the outstanding Common Stock
have been excluded in that such persons may be deemed to be affiliates. This
determination of affiliate status is not necessarily a conclusive determination
for other purposes.
On March 24, 2000, there were 5,315,239 shares of Common Stock, $.01 par value
per share, of the registrant outstanding.
Documents Incorporated by Reference
Proxy Statement for the 2000 Annual Meeting of Stockholders Part III
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Teknowledge(R), TekPortal(TM), and Sales Associate(TM) are trademarks of
Teknowledge Corporation. All other brand names, product names, trademarks and
registered trademarks are the property of their respective holders.
PART I
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Item 1. Description of Business
Teknowledge Corporation (the "Company") is in the intelligent Internet
transactions business. Teknowledge's services and product solutions involve
processing application knowledge, and conducting flexible and secure
transactions over the Internet. Knowledge processing enables organizations to
codify their knowledge, represent it in machine readable forms, serve it to end
users on the Internet via agents and forms, and provide value-added application
services to businesses and end-users. Teknowledge's projects utilize knowledge
processing to provide customers with state-of the-art software solutions that
put knowledge to work.
The fastest growing part of Teknowledge is the eCommerce business unit.
This division is increasingly focused on Teknowledge's TekPortal(TM) solution
that provides customer information aggregation for the financial services
industry. This focus is strengthened by Teknowledge's knowledge processing
capabilities, and software solutions such as Teknowledge's Sales Associate(TM),
and 3rd party Value Added Reseller components such as Check Point's
Firewall-1(TM) security product. In addition, Teknowledge is an IBM Premier Team
Provider for Net.Commerce(TM) and a Microsoft Certified Solution Provider for
the Site Server(TM) product.
Teknowledge has four business units in complementary technical
application areas. Information Assurance provides network security solutions
that protect the information stored in computer networks and ensure that
information is accessible by the right people at the right time. Web-based
Training encapsulates traditional courseware into reusable electronic media,
develops intelligent tutoring systems, and distributes the resulting courseware
solutions on the Internet. Distributed Systems is focused on improving the
quality and timeliness of services on the Internet. Knowledge Systems is
developing solutions for processing knowledge and making inferences about
customer-supplied data. Many of Teknowledge's customers need to provide
knowledge-based Internet transactions, supported by security, web-based
training, and reliable network application performance. Winning national
competitions sponsored by the Defense Advanced Research Projects Agency
("DARPA"), the National Institute of Standards and Technology ("NIST"), and
other agencies, supports much of Teknowledge's cutting-edge R&D capability. This
provides Teknowledge with a rich source of technology for product development,
advanced services solutions, patents, and licensing. Teknowledge has an active
intellectual property-licensing program, with nine U.S. software patents.
Teknowledge's direct revenue mix from continuing operations for the
year ending December 31, 1999, was approximately 15% commercial products and
services and 85% government-sponsored R&D. In 1998, the ratio was 1% to 99%.
This ratio is expected to continue to change as eCommerce related investment and
customer solution capabilities increase over the coming years. In fact, during
the fourth quarter of 1999, this ratio was 29% commercial to 71% government
business. The eCommerce financial services solutions part of the business is
growing rapidly. Teknowledge is increasing its investments and attention focus
on commercial software products and services, particularly in the eCommerce
financial services market.
Teknowledge was incorporated on July 8, 1981 under the laws of the
State of Delaware. The Company's principal executive and technical operations
offices are located at 1810 Embarcadero Road, Palo Alto, California 94303. In
addition, Teknowledge has technical operations offices located in San Diego,
California; Fairfax, Virginia; and Orlando, Florida. Teknowledge's business is
currently concentrated in the United States.
Overview
The Internet economy places a competitive premium on an organization's
ability to process and distribute its customer knowledge effectively. Knowledge
has become the primary competitive weapon in the economic and military arenas.
However, knowledge acquired by people often does not get reused because it is
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not organized or distributed effectively. Knowledge systems are software
programs that enable combinations of people and computers to capture, refine,
distribute, and apply knowledge to solve business application problems.
Teknowledge develops systems that integrate conventional software and knowledge
processing in high-value Internet application solutions. These solutions are
developed with software products and services that support integration,
processing, and systematic utilization of an organization's key knowledge
assets. Increasingly, an organization's knowledge assets are encoded in
knowledge processing applications and distributed via the Internet to make
solutions available globally, seven days a week, 24 hours a day. When the
knowledge in this value chain is specialized for specific applications and
combined with customer information, it will drive the growth of Teknowledge's
business in financial services, network security, web-based training, and other
application areas.
Teknowledge operates five business units within a single reporting
segment. Each of these business units utilizes internally developed and third
party software components in its application solutions. Utilizing third party
components in an application solution allows for faster and more robust
solutions. It also allows Teknowledge to focus on developing knowledge
processing components in the context of a robust application solution.
Teknowledge's TekPortal(TM) and Sales Associate(TM) products are examples. They
can be sold with interfaces and databases from companies such as Oracle or
Microsoft, and a security firewall from CheckPoint. This strategy allows
Teknowledge to provide its innovative components in the context of delivering
basic value to the customer with leading commercial products. Teknowledge
delivers to the customer a faster and more robust solution, and Teknowledge
receives a VAR license fee on each third party commercial product delivered.
Computer software applications provide maximum value when integrated
into networked operations, both within and between enterprises. Integration of
these various functions is facilitated if object-oriented software is designed
with an "open architecture." This allows the same applications software and user
interfaces to be distributed via network protocols across many different types
of computers. The Company's products and services are designed to maximize the
value of integrating, distributing and activating application knowledge.
Teknowledge is executing a transition from a primary focus on R&D to increasing
focus on delivering application solutions to commercial customers.
Since the pace of commerce worldwide is accelerating, and many
businesses are conducting large-scale operations over the Internet, much of the
Company's current and future business focus is on providing software to make it
possible to delegate knowledge-intensive tasks to network-enabled computer
software "associate systems." These associate systems may integrate several
special-purpose software agents to accomplish routine tasks as well as
accelerate knowledge gathering, refinement, dissemination, and utilization over
computer networks. Teknowledge's strategic plans include commercializing and
embedding associate systems software that amplify human productivity and the
ability to apply knowledge effectively. Teknowledge has built six prototype
associate systems and one of these prototypes has been commercialized. These
systems include: the Briefing Associate, the Parent's Associate, the Student's
Associate, the Project Center Associate, the Desktop Associate, and the Sales
Associate. Some of these capabilities may now be incorporated into large-scale
TekPortal(TM) solutions for the financial industry.
Business Units
Teknowledge has distributed operations, with its headquarters located
in Palo Alto, California and offices in San Diego, California; Fairfax,
Virginia; and Orlando, Florida. The Company operates five business units within
its current operations: four are currently focused primarily on government
customers and one, eCommerce, is focused entirely on commercial customers. The
four largely government sponsored units contributed over 85% of the revenue;
therefore all units are reported as a single segment.
eCommerce. The eCommerce business unit has recently announced several new
contracts with Internet Banks to provide both financial services and
Teknowledge's new multi-institution account aggregation solution called
TekPortal. The TekPortal solution enables institutions to provide a consolidated
view of their customers' financial portfolio seamlessly integrated into their
own web site. TekPortal will act as an authorized agent of the customer to
access and consolidate account balance and transaction information from various
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institutions including banks, credit unions, brokerages, credit card companies,
billing companies, and frequent travel reward sites. TekPortal also offers funds
transfers services between multiple institutions, sweeps capabilities to
automatically move funds, and proactive notification services to alert customers
when specific events occur on an account in their portfolio. The TekPortal
solution has not gone unnoticed by the financial industry, which is currently
undergoing a transformation under the Gramm-Leach-Bliley Act. This legislation
permits banks to offer a more complete set of banking, brokerage, and insurance
services. Teknowledge believes that financial institution customers will be
attracted by the convenience of one-stop shopping for managing their financial
portfolio, and acquiring new products and services. The TekPortal solution is
uniquely positioned to provide financial institutions with the capability to
retain customers at their web site and then use that opportunity to sell new
products and services effectively.
Teknowledge's eCommerce business unit provides assessments and
installations of Teknowledge's own Sales Associate software, along with one or
more leading commercial products. This provides license fees, services revenues,
and some pull-through opportunities for selling Teknowledge's Internet security
and web-based training solutions. The Sales Associate is a software product that
provides unassisted sales over the Internet. It incorporates rules of selling
and utilizes specific product knowledge to emulate the best practices of the
most productive sales person in a firm. The product goes beyond the typical
browsing interaction on the World Wide Web by engaging the customer in an
interactive dialog about products. The Sales Associate creates a unique profile
of every customer and tailors the sales presentation to each prospect. It
remembers a customer's profile and preferences, and applies all available
information towards the next sale. The system can cater its presentation form to
match the user profile, selecting among web text, audio, or 3D graphics. The
Sales Associate incorporates both generic and domain-specific "rules of selling"
to guide the sales process. It matches a customer profile with the products in a
product knowledge base. The Sales Associate delivers up-to-the-minute
information on product features and availability, as well as news of special
discounts and other promotions. The product is designed for delivery with other
commercial components such as web servers, databases, firewalls, and other web
site component software. The Sales Associate is a technology-based product in a
rapidly growing, but competitive market. There are uncertainties and risks
associated with the introduction of any software product (see Part II, Item 6).
The Company has continued to evolve Sales Associate capabilities, and may
specialize its knowledge base for financial services or other key markets.
Information Assurance. The need for information security on computer networks
has created tremendous demand in both government and industry. Keeping Internet
sites and transactions secure from hackers and thieves is critical to effective
military and eCommerce operations. Information assurance goes beyond simply
protecting information. It is relatively easy to protect information if it does
not need to be accessible. However, both military and eCommerce information
needs to be accessible by people globally, seven days a week, 24 hours a day.
This requirement shifts the focus from information protection to assured
information access to the appropriate customers. Techniques for accomplishing
information assurance, such as authentication, encryption, and firewalls, are
constantly evolving. Teknowledge is the prime contractor on a number of DARPA
sponsored projects focused on advanced techniques of Internet or cyber security,
including an associate system for web site intrusion detection and response.
There are many 3rd party commercial opportunities in this arena. Some new
commercial products, such as CheckPoint's firewall for web site security, have
emerged as commercial market leaders. Teknowledge has recently become certified
as a VAR to deliver CheckPoint's Firewall-1(TM) product, which provides an
opportunity for product license and services sales to commercial information
assurance applications.
Web-based Training. The Internet and the World Wide Web have created a new
opportunity for formerly isolated desktop systems that provided computer-aided
instruction. Not only have the techniques of computer-aided instruction improved
dramatically in recent years, but also the means to distribute them have
undergone a veritable revolution. Now it is possible to provide distance
learning via an interactive course delivered through a standard World Wide Web
browser. There are major opportunities to deliver in-house corporate training
over intranets, K-12 education over the Internet, and just-in-time adult
training on the job or in the home. Teknowledge has been involved in education
and training since 1981; and, in 1998, it created a business unit devoted
entirely to this growing opportunity. Teknowledge served as the Cluster Leader
for the U.S.'s largest multi-institution project on Intelligent Tutors and
Associates between 1995 and 1998. The DARPA Computer Assisted Education and
Training Initiative sponsored Teknowledge's prototype work on the Parent's
Associate and the Center Associate. The Parent's Associate enabled parents to
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get advice on parenting and access to Internet-based educational resources. The
Center Associate provided a computer-based coach to help guide users in getting
the most from education resources available to them. Teknowledge is playing a
leading role in the Government sponsored Advanced Distance Learning Initiative,
which is advancing distance learning technology to provide cost effective and
industrial strength courseware over the Internet. In 1998, Teknowledge was one
of three prime contractors selected out of 51 teams in the National Institute of
Standards and Technology (NIST) Adaptive Learning Systems competition.
Teknowledge was awarded a $2 million cost-sharing contract for development of a
Courseware Factory(TM) for converting podium-based traditional courses for
delivery over the World Wide Web. This work has already provided several key
technology results. Teknowledge is also working on a Small Business Innovation
Research grant to provide advanced computer-based tutoring systems over the web.
Distributed Systems. Operations that are widely distributed require extensive
object-oriented systems infrastructure and the ability to extract reliable
performance from distributed resources. Currently, the World Wide Web provides
little of this systems infrastructure, but instead relies on the distribution of
linked web pages or multimedia documents. In the future, complex webs of objects
and knowledge will have to be distributed systematically and updated
dynamically. This requires the ability to provide reliable quality of service
performance, security of operations, and maintainability. Distribution of
knowledge by intelligent "push" and "pull" techniques has already become a
critical technology. In addition, the types and quantity of knowledge
distributed will require new designs and new software specialized for specific
knowledge processing tasks. Teknowledge's Distributed Systems business unit
focuses on providing new Internet systems infrastructure to address these needs.
It is a prime contractor on the DARPA sponsored QUITE project, where the
objective is to provide innovative solutions to the problem of optimizing the
quality of service of distributed resources on a network.
Knowledge Systems. Computer knowledge bases are much larger and more useful now
than they have been before. A threshold has been reached where the power gained
from applying knowledge-based technology is much greater than in the past.
Techniques for creating large knowledge bases have advanced significantly. Many
fundamental problems of how to perform efficient inference on large knowledge
bases have been solved (although others remain). Many specialized techniques for
creating and applying knowledge have matured. The potential payoff from
combining elements from this research progress into useful systems is
considerable. For example, complex problem solving requires the ability to
access and synthesize data quickly and effectively from multiple sources in
order to develop a dynamic assessment of an evolving opportunity, problem, or
competitive situation. Decision-makers have noticed that using satellite and
World Wide Web information systems is like "standing in front of an information
fire hose." It is hard to take a sip without getting more information than is
useful or necessary. Teknowledge's Knowledge Systems business unit focuses on
providing knowledge-based tools, applications, and ontology or knowledge
structures. It is a prime contractor on a number of government-sponsored
programs, and is participating in several commercial developments, including
TekPortal, an embeddable version of Sales Associate, and GlobalStake.com. This
infrastructure may be used to address some situation assessment and data fusion
problems effectively. In addition, it can provide pragmatic problem solving and
web interface capabilities for financial services or other applications.
Sales and Marketing
Teknowledge's employees, including the business unit managers,
dedicated sales staff, and the CEO, market and sell Teknowledge's services and
software. Each business unit offers consulting services to help prospective
customers define their problems and projects. Consulting assignments in
eCommerce financial services, Internet security, or web-based training, are
funded to evaluate current corporate capabilities and recommend next steps,
including application work. However, Government proposal work conducted in
response to a Broad Area Announcement or Request for Proposal is typically not
funded.
Teknowledge has increased its commercial sales and marketing efforts to
lay the foundation for increased commercial business. In 1999, the Company
continued implementation of its VAR strategy. It is now a Microsoft Certified
Solution Provider, and a CheckPoint VAR partner. The Company is offering
value-added services for leading commercial products that work with the
TekPortal solution. This should provide license and services revenues, and
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broaden market acceptance of Teknowledge's products by increasing access to an
expanded base of commercial customers. In addition, Teknowledge is actively
seeking other VAR companies to sell TekPortal, and pull through the Company's
eCommerce, security, and training application solutions.
Backlog
At December 31, 1999, the expected order backlog was approximately
$18.6 million, which consisted of (i) new orders for which work has not yet
begun and (ii) revenue remaining to be recognized on work in progress. 96% of
the December 31, 1999 backlog is from government customers. Approximately 90% of
the backlog consist of government-sponsored programs that are awarded, but not
yet authorized for funding. The government normally funds a contract in
incremental amounts for the tasks that are currently in production. The Company
recently won a contract with the government to provided Cyber Command and
Control for mission critical systems that is scheduled to start in Q2 of 2000.
Backlog is an estimate and is subject to a number of risks (see Part II Item 6.
Management's Discussion & Analysis or Plan of Operation - Certain Factors That
May Affect Future Results of Operations and/or Stock Price). The portion of the
overall backlog that is expected to be fulfilled in the current fiscal year is
approximately 35%.
Research and Development
Most of the Company's software engineering operations, except for the
eCommerce business unit, and specific Information Assurance and Knowledge
Systems contracts were related to advanced government development projects. As a
result, Teknowledge's considerable R&D activities were mostly funded externally
by the Federal Government. Generally, the Company retains the exclusive right to
market the government sponsored R&D commercially. Teknowledge also sponsors its
own R&D, mostly in the form of commercializing the technology developed under
its government contracts. As the Company continues to grow its commercial
products and services business, more internally directed R&D is expected. The
Company expensed $599,231 and $132,501 of its own funds on R&D for the years
ended December 31, 1999 and 1998, respectively. In addition, the Company
capitalized $131,517 and $267,046 of computer software development costs in the
years ended December 31, 1999 and 1998, respectively.
Competition
A number of companies provide consulting services and software that
compete with aspects of Teknowledge's business. Many of these companies are
substantially larger and have greater financial resources than Teknowledge.
Teknowledge's primary competitive advantages are its experienced management
team, its technical talent base, its expertise in key application areas such as
financial services, its patent portfolio and other intellectual property, and
its unusually strong R&D program in several key Internet relevant areas.
TekPortal is uniquely positioned with respect to its main competition
from Yodlee, VerticalOne, and OnMoney that have historically focused on
providing off-premise, centralized data center solutions. TekPortal provides an
on-premise solution that allows the financial institution, as the trusted
provider, to warehouse and manage access to the customer's financial portfolio
information. The financial institution is uniquely positioned to use the
aggregated balance and transaction information, with the customer's permission,
to more effectively sell relevant products and services directly to its
customers. In addition, the TekPortal on-premise solution allows the financial
institution to set and enforce procedures to protect the privacy of the
customer's financial information.
Sales and configuration systems are provided by Trilogy Development
Group, Calico, Concentra, Selectica, Brightware, Baan, SAP, Oracle, PCorder.com,
and others. Knowledge processing systems are provided by Logica Carnegie Group,
Inference Corp., Neuron Data Corp., Intellicorp, Inc., and others. Distributed
systems and information assurance services are provided by GTE, Trusted
Information Systems, Secure Computing Lockheed-Martin, Boeing, Perceptronics,
ISX, and SAIC, among others. Internet-based distance education and training
technologies include Click2Learn, IBM, and KnowledgeNet, with new competitors
still emerging in the commercial marketplace. Potential competitors could also
be collaborators, such as Macromedia (learning components sold to IBM) and
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Click2Learn (formerly Asymetrix Learning Systems), Teknowledge's technology
suppliers on the Courseware Factory project.
Proprietary Rights
Teknowledge maintains an active intellectual property program and
currently holds nine U.S. software patents. The application software developed
by Teknowledge includes TekPortal(TM) for financial information consolidation,
Sales Associate(TM) for configuring automated sales on the Internet,
knowledge-based expert systems, pattern detection and data fusion tools, systems
to manage and protect webs of networked information, and Automatic Retrieval of
Changed Files by a Network Software Agent. As use of any product name becomes
consistent and established, the Company intends to apply for formal registration
of the product name as a trademark in the United States and relevant foreign
jurisdictions.
Teknowledge has relied on a combination of patent, copyright, trade
secret and trademark laws, as well as contractual provisions, to protect its
proprietary technology. The Company has required employees, customers, vendors,
and others who have access to proprietary technology to sign nondisclosure
agreements. The Company retains a proprietary right to market commercially most
of the development that was sponsored by government agencies. The government may
not distribute proprietary information that was developed by the Company to any
third party for commercial purposes without first receiving permission from the
Company.
Teknowledge provides its software products to end users under
non-exclusive, non-transferable licenses that typically have a perpetual term
unless terminated for breach. The Company protects the source code of its
software products as trade secrets and unpublished copyrighted works.
Additionally, Teknowledge holds patents for the knowledge processing and systems
engineering technologies that form the basis for many of the products and
configuration services that the Company markets.
There can be no assurance that Teknowledge's protective measures will
be adequate to protect its proprietary rights, that others have not or will not
independently develop or acquire equivalent or superior technology, or that the
Company will not be required to obtain royalty-bearing licenses to use other
intellectual property in order to utilize the inventions embodied in its
patents. There also can be no assurance that any patents will be issued pursuant
to the Company's current or future patent applications or that patents issued
pursuant to such applications or any patents the Company currently owns will not
be invalidated, circumvented or challenged. Thus far, Teknowledge has not been
notified that it may be infringing any patents or proprietary rights owned by
third parties. There can be no assurance that the Company would be able to enter
into an acceptable license under such third party patent, or that it could
redesign or modify its products and processes to avoid infringement of such
patent or proprietary rights, or that the Company could otherwise avoid
infringement of such patent or proprietary rights. In the event the Company is
unable to take such action, its business, financial condition and results of
operations could be materially and adversely affected. In some cases, litigation
may be necessary to protect the Company's proprietary rights (see Part 1 Item 3.
Legal Proceedings).
Government Contracts
In 1999, approximately 85% of the Company's revenues were from
cost-type government contracts, and 96% of its December 31, 1999 backlog was
from government contracts. The Company's business has been dependent upon
successful bidding for government contracts. The Company applies for contracts
in the form of a proposal by responding to Requests for Proposals and Broad
Agency Announcements issued by the United States Federal Government or by prime
contractors under contract to the Federal Government. Proposals include
discussion of the technical approach to be taken to satisfy the government's or
the prime contractor's requirements and a detailed presentation of costs
expected to be incurred. The proposal is reviewed and evaluated by technical and
administrative personnel employed by the government or the prime contractor. If
the procurement method is "competitive bid", the contract is awarded to the
company which would best satisfy the government's or the prime contractor's
requirements. If the procurement method was "negotiated award," the government
or the prime contractor would enter into negotiations to determine a price for
the contract; upon successful conclusion of negotiations, a contract is awarded.
Government contracts contain termination clauses, which permit contract
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termination upon the Company's default or at the government's discretion.
Government contracts are subject to agency funding limitations, congressional
appropriation, and the agenda of the current administration in Washington, D.C.
The typical cost-type government contract performed by the Company has
a regulated fixed fee limit, which inhibits the Company from improving profit
margins on government contracts beyond what is permitted in the government
regulations. In addition, Federal Acquisition Regulations exclude from
reimbursement some "unallowable" expenses that the Company considers a regular
part of the business. Furthermore, almost all the Company's contracts contain
termination clauses that permit contract termination upon the Company's default
or at the contracting party's discretion. During 1998, DARPA terminated several
of its own projects due to a change in its program priorities. Since the
terminations involve some of Teknowledge's multi-year projects, the effect on
revenue is spread over approximately three years. This resulted in a decline in
revenues on some government contracts, which was only partially offset by
increases in commercial revenues later in the year. Such cancellations may occur
again in the future. The Company intends to build its substantial multi-year
backlog further with additional proposals for new government and commercial
projects.
The indirect costs and expenses accumulated in the performance of
government contracts are allocated to the customer in the form of overhead
(indirect) rates. These rates, which are periodically reviewed by government
auditors, fluctuate based on the relationship between the overhead costs and
direct costs incurred in the performance of the contracts during the year.
Excluded from these rates, and not subject to reimbursement, are a small amount
of unallowable costs, such as entertainment and advertising. In addition, the
government has established compensation limits for employees which expressly
reduces the amount of compensation and related expenses, such as bonuses and
stock options, that can be passed on to the government through the overhead
rates. In recent years, the Company has experienced a gradual decline in the
fees on new government contracts due to government cost saving efforts. New
contracts may not suffer this fee erosion; however, the overall limitation on
potential government contract fees coupled with a potential increase in the
expenses not eligible for reimbursement, combine to restrict the Company's
ability to improve profit margins on government contracts in the future. The
Company's government-sponsored R&D is most valuable as a technology incubator,
development laboratory, and testbed. The best software from this work becomes a
candidate for software product commercialization. This helps the government
amortize the considerable cost of maintenance, and it provides Teknowledge with
the opportunity to compete in a growing commercial marketplace.
Employees
Teknowledge had a total of 51 full time employees at December 31, 1999.
All the employees were employed in the continental United States. The majority
of employees are technical. They perform direct billable work on contracts or
develop and support software products. In addition to full time employees,
Teknowledge revenues reflect several subcontractor companies, and independent
contractors working on specific projects. A large percentage of Teknowledge
employees, including management, hold advanced degrees in technical disciplines.
The future success of the Company will depend, in part, on the Company's ability
to continue to retain, attract, and motivate highly qualified technical,
marketing, and management personnel. This has become a particular challenge as
increasing demand for top quality software professionals has exceeded supply.
Teknowledge provides competitive salaries and bonuses, an active Incentive Stock
Option program, a superior benefits program, and a stimulating work environment.
The Company has never had a work stoppage, and it is not a party to any
collective bargaining agreement with any of its employees.
Executive Officers
Neil A. Jacobstein, 45, is Chairman of the Board, Chief Executive
Officer, and President of Teknowledge. He served as President and Chief
Operating Officer and a director of the Company since January 1993. He was
elected to the position of Chairman and CEO on November 22, 1999. After joining
Teknowledge in 1984, Mr. Jacobstein was promoted over a nine year period to:
Senior Knowledge Engineer, Manager of the Research and Advanced Development
Group, Vice President and General Manager of Research and Advanced Systems
Development, and Vice President and General Manager of the Knowledge Systems
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Division. Mr. Jacobstein initiated Teknowledge's eCommerce business unit in
1996. In 1998, he was appointed to the Technology Advisory Board of the U.S.
Army's Simulation, Training, and Instrumentation Command (STRICOM). Prior to
joining Teknowledge, Mr. Jacobstein was a Graduate Research Intern and
consultant at Xerox PARC, and a Research Associate at CBNS. Since 1992; he has
served as the Chairman of the Board of Directors of the Institute for Molecular
Manufacturing, a nonprofit organization. He co-founded and serves as a Director
of GlobalStake.com. In 1999, Mr. Jacobstein was elected a Henry Crown Fellow in
the Aspen Institute's executive leadership program.
Dennis A. Bugbee, 53, is Director of Finance, Treasurer, and Secretary
of the Company. Mr. Bugbee joined the Company in 1990 as the Division Controller
for the Knowledge Systems Division in Palo Alto, California. He was promoted to
Director of Finance March 1, 1993 and shortly thereafter to the positions of
Treasurer and Corporate Secretary. Prior to joining the Company, Mr. Bugbee held
the position of Accounting Manager with TRW's Space and Defense Sector. He has
over 25 years experience in finance and accounting.
Benedict O'Mahoney, 40, is Vice President, Administration and Legal
Affairs of the Company. Mr. O'Mahoney was elected a Director of Teknowledge in
December 1999. Mr. O'Mahoney joined the Company in 1996 as Corporate Counsel.
Prior to joining Teknowledge, Mr. O'Mahoney practiced intellectual property law
from 1991, and served as General Counsel for Slatt Mortgage Company from 1988.
He served with the Federal Reserve Bank of San Francisco from 1985 to 1988. Mr.
O'Mahoney also serves on the Board of Directors of the Virtual Reality Education
Foundation, a nonprofit organization.
Item 2. Description of Property
The Company's executive offices are located at 1810 Embarcadero Road,
Palo Alto, California, under a lease for a period of three years commencing
April 5, 1999, with an option to extend the lease for an additional three years.
The Company has also signed renewable leases for office space in Arlington and
Fairfax, Virginia; and San Diego, California.
Item 3. Legal Proceedings
In 1999 Teknowledge offered to sell SAP a license to use the technology
related to Teknowledge's Intelligent Configuration Patent Portfolio, a
collection of five patents relating to configuration technologies, including
Teknowledge's configuration systems patent, Bennett et al. U.S. Patent 4,591,983
(the "'983 patent"). In response to this offer, on October 8, 1999, SAP America,
Inc. and SAP Aktiengesellschaft (collectively, "SAP") filed a lawsuit against
the Company in the United States District Court for the District of Delaware.
The subject matter of the case involves the '983 patent and the configuration
technology associated with the SAP R/3 System ("R/3 System"). SAP is seeking a
judgment against Teknowledge that the `983 patent is invalid and is not
infringed by the R/3 System; an award of attorney fees, costs of suit, and other
relief the court may deem just and proper.
On October 21, 1999 Teknowledge filed a counterclaim against SAP for
patent infringement of two of its patents. The subject of the counter suit is
the `983 patent entitled "Hierarchical Knowledge System" and U.S. Patent
4,783,752 entitled "Knowledge Based Processing for Application Programs Using
Conventional Data Processing Capabilities." The management of the Company
considers the suit brought by SAP to be without merit and intends to defend its
patents vigorously. Management believes the ultimate resolution of the above
matters may have a positive impact, and will not have an adverse material impact
on the Company's financial position and results of operations.
Item 4. Submission of Matters to a Vote of Security Holders
No matters were submitted to a vote of security holders during the
fourth quarter of 1999.
<PAGE>
10
PART II
- --------------------------------------------------------------------------------
Item 5. Market for Common Equity and Related Stockholder Matters
The Common Stock of Teknowledge has been trading under the symbol TEKC
on the Nasdaq SmallCap Market since March 5, 1999. Before this date it was
traded under the same symbol on the "Bulletin Board", an over-the-counter
("OTC") listing service provided by the National Quotation Bureau. On March 28,
2000 the closing "bid" price of the stock was $11.88 a share.
The Company has effected a one-for-five reverse stock split on
December 22, 1998. The following table sets forth the range of high and low bid
information for the Common Stock on the OTC Bulletin Board for the quarterly
periods indicated, adjusted for the effect of the reverse stock split. All share
and per share data has been retroactively restated to reflect the effect of the
reverse stock split. The bid information reflects inter-dealer prices, without
retail mark-up, markdown or commission and may not represent actual
transactions. The Company has never paid dividends on its capital stock.
1999 High Low
First quarter, ended March 31, 1999 $ 6.88 $ 4.50
Second quarter, ended June 30, 1999 5.94 3.88
Third quarter, ended September 30, 1999 5.66 4.00
Fourth quarter, ended December 31, 1999 5.13 3.47
1998 High Low
First quarter, ended March 31, 1998 $ 4.70 $ 2.30
Second quarter, ended June 30, 1998 11.00 4.40
Third quarter, ended September 30, 1998 8.45 2.50
Fourth quarter, ended December 31, 1998 6.75 2.15
As of December 31, 1999 there were 1,666 holders of record of Common
Stock of the Company.
<PAGE>
11
Item 6. Management's Discussion and Analysis or Plan of Operation
Overview of Significant Matters
Forward looking statements made in this report relate to the demand for
technical employees, expected revenue growth, realizability of backlog,
competition for new government contracts, development of commercial products and
services, deferred tax assets, receivables and collections, and the viability of
a strategic start up. All forward looking statements involve risks and
uncertainties, and actual results could differ materially from those set forth
in the forward looking statements contained herein as a result of competition,
agency funding limitations, other factors relating to government contracting,
ability to attract and retain technical and management personnel, commercial
opportunities, financing, and other factors described in "Certain Factors That
May Affect Future Results of Operations and/or Stock Price."
Year Ended December 31, 1999
Quarterly Results Summary
(In thousands, except for per share data)
First Second Third Fourth Total
Revenues $2,790 $2,777 $2,901 $2,627 $11,095
Costs and Expenses 2,563 2,573 2,820 2,615 10,571
Other and Tax Provision 75 65 29 (29) 140
Net Income 152 139 52 41 384
Diluted Net Income per share .03 .02 .01 .01 .07
Teknowledge revenue for the year ended December 31, 1999 was
$11,094,672 and net income was $383,539, or 3.5% of revenues. Approximately 85%
of the revenues were from agencies of the Federal Government and the balance of
15% was from eCommerce services and products. While government revenues are
still a substantial part of the revenue base, they declined overall about $2.6
million from 1998's level. Late in 1998, the government initiated a cutback on
some DARPA programs that started to have an effect on Teknowledge revenues in
early 1999. In response to these cutbacks, the Company allowed employee
headcount to decline by attrition until new contracts were awarded. In the third
quarter of 1999, the Company recruited Rodney Robinson to head the eCommerce
business unit. The eCommerce unit was successful in securing several new
contracts in Q3 and eCommerce revenues have improved in successive quarters,
accounting for over 29% of the revenues in fourth quarter 1999 and 15% of the
total revenues in 1999. This is in sharp contrast to the eCommerce revenue in
1998, which totaled less than 1% of revenues for the entire year. If this trend
continues, the contribution of eCommerce products and services could surpass
government revenues in 2000.
Teknowledge expects to continue to be an active competitor for
government sponsored R&D projects in the future. Almost 96% of the current
backlog of over $18,000,000 is for government sponsored R&D contracts. Some of
the government contract related backlog is associated with services provided
over several years. As long as the government continues to solicit R&D contracts
in areas that favor Teknowledge's expertise and strategic technical directions
in areas such as Internet security, distributed systems, web-based training, or
knowledge systems, the Company will actively pursue these opportunities. This
R&D work may lead to new patents, software solutions, services expertise, or a
foundation for innovative commercial Internet products.
Teknowledge's commercial business is growing faster than the government
business, and it is likely that commercial revenues will exceed government
revenues in coming years. Commercial revenues were approximately 29% of fourth
quarter 1999 revenues compared to less than 1% in the comparable quarter of
1998. Generally, the net margin on the government business is limited by
government negotiated and regulated fee arrangements. Fees rarely exceed 8% and
are often much less because of predetermined limits and cost exclusions
contained in the government regulations. Commercial margins, on the other hand,
are not constrained by government regulations and are potentially more lucrative
in the long run. Because the eCommerce unit is relatively new, it has yet to
achieve its potential margins. The Company experienced slow payments from some
commercial vendors in 1999 and elected not to record approximately $275,000 of
potential net revenues pending the final outcome of the collection matter. If
<PAGE>
12
the arbitration is successful, the Company will report additional revenue in
2000. The Company believes the risk of default is greater with new commercial
businesses; therefore, Teknowledge plans to substantially increase its
anticipated bad debt reserves in 2000.
In November 1999, Teknowledge agreed to provide seed money for a new
web-based real estate Company, GlobalStake.com, which was spun off from
Teknowledge Corporation. GlobalStake.com will provide full service, discounted
real estate transactions under the ExploreRealty.com trade name. Teknowledge
retained 19.9% of GlobalStake.com consisting of Series A Preferred shares.
Teknowledge currently maintains this percentage interest against dilution
through a warrant to acquire Common Stock until an IPO or acquisition, and also
has an aggregate liquidation preference over common shares. As long as
Teknowledge owns less than 20% of GlobalStake.com, the Company will account for
the investment in GlobalStake.com using the cost method. Teknowledge expects to
provide: (1) approximately $1,200,000 in cumulative seed cash and services; (2)
the proprietary information and technology developed in support of the
GlobalStake.com business plan; and (3) licenses to practice Teknowledge's patent
portfolio. Former Chairman and CEO of Teknowledge, Rick Hayes-Roth, resigned
from his position of CEO and Director of the Company and was elected Chairman
and CEO of GlobalStake.com. Neil Jacobstein was elected to serve on the
GlobalStake.com Board of Directors.
In 1997 the Company recorded a deferred tax asset of $900,000 that
represented the more likely than not expected tax savings which may be realized
from its net operating loss carryforwards generated subsequent to the
quasi-reorganization. The Company evaluates its earnings prospects in revolving
two-year cycles annually, to determine if adjustment to the deferred tax asset
balance is necessary. No adjustment was deemed necessary for the year ended
December 31, 1999 as a result of this evaluation.
Certain Factors That May Affect Future Results of Operations and/or Stock Price
Management believes that the market for TekPortal software is a
significant new opportunity for the Company and that its eCommerce services
business will expand rapidly. The market for Internet software, however, is
rapidly evolving, and characterized by an increasing number of market entrants
who have introduced or are developing competing software products and services.
As is typical for a new and rapidly evolving industry, demand and market
acceptance for recently introduced products and services are subject to a high
level of uncertainty. In spite of this, the stock market for eCommerce and
Internet companies has experienced a large wave of speculative investment.
Further, aspects of the Internet (including security, privacy, reliability,
cost, ease of use, and quality of services) are undergoing rapid evolution that
may affect the use of the Internet in general, and Internet information
aggregation software in particular. In addition, for new dot.com customers, the
Company is exposed to a higher risk of bad debt and slower collections, compared
to reliable government customers. The demand for some new Internet software will
depend upon broad acceptance of new methods of conducting business and
exchanging information over the Internet. The demand for products developed by
the Company cannot be determined, nor can the viability of these products be
determined at this time due to the explosive growth and competitive nature of
the market. As the market continues to change, there can be no assurance that
the Company will be able to recruit or retain the technical staff to develop and
bring to market products that will gain market acceptance or generate
significant revenue or profits. If the TekPortal(TM) or other product markets
develops more slowly than expected, becomes saturated with competitors, or if
the Company's products do not achieve market acceptance, the Company's business,
financial condition, and results of operations may be materially and adversely
affected.
Teknowledge plans to grow its business by investing in TekPortal(TM),
and by expanding into additional product or service offerings. This may require
significant additional expense and could strain technical, management,
financial, and operational resources. New competitors can enter the market for
TekPortal(TM) and other Internet solutions business. The Company's gross margins
in new business areas may be lower than in existing business activities, and it
may not be able to expand or maintain operations in a cost-effective or timely
manner. If a number of customers do not receive new products or services
favorably, it could hurt the Company's reputation and delay future expansion.
<PAGE>
13
The majority of Teknowledge's service revenue is derived from
government R&D contracts, and the Company has historically been profitable in
that business. However, dependence on government contracts can be risky because
the contracts are subject to administrative, legislative, and political
interruptions, which may jeopardize the flow of funds. There can be no assurance
that the government will continue to seek services at the current level in the
future. Another uncertainty is that the Company's revenues, costs and earnings
on government contracts are determined based on estimated overhead rates derived
from forecasted annual costs. The Company's actual experience in headcount
growth, billable efficiency, and costs may vary from original estimates and
necessitate periodic adjustments to overhead rates and revenues. Such
adjustments are made on a cumulative basis whereby the resulting revenue and
income effects are recognized in the period of the adjustments.
The typical cost-type government contract performed by the Company has
a regulated fixed fee limit, which inhibits the Company from improving profit
margins beyond what is permitted in the government regulations. In addition,
Federal Acquisition Regulations exclude from reimbursement some "unallowable"
expenses, which the Company considers a regular part of the business.
Furthermore, almost all the Company's contracts contain termination clauses,
which permit contract termination upon the Company's default or at the
contracting party's discretion.
Another uncertainty in providing services is the Company's ability to
attract and retain sufficient technical staff to meet the demands of new orders.
The Company recognizes that the loss of one or more key management and technical
personnel could adversely affect aspects of the Company's business. The Company
relies on its executives and business unit managers for the acquisition and
negotiation of new business, the management of services contracts and product
development, and the management of on-going operations. The Company believes
that its future success depends on attracting and retaining highly skilled
technical personnel and other employees.
In summary, the Company's operating results and stock price are
affected by a wide variety of factors, including successful commercialization of
the Company's products, government intervention, competition, ability to staff,
retain, and recruit key employees, financing and collections, and general
economic and market conditions.
Results of Operations
1999 compared to 1998
Revenues in 1999 were $11,094,672 compared to $12,200,849 in 1998.
Government revenues were $9,471,449, or 85% of total revenue, compared to 99% of
revenue in 1998. Government revenues fell in 1999 by approximately $2.6 million
over the previous year because of government initiated funding reductions in
certain DARPA programs that began in late 1998. As a consequence of these
reductions and the scheduled completion of some task orders, not all of the
project overhead costs were absorbed into revenue in 1999. Revenues from
commercial enterprises rose to $1,623,223, or approximately 15% of total
revenues, in 1999. Commercial revenue improved to 29% of revenues in fourth
quarter 1999. The Company experienced some slow payments from vendors and
elected not to record about $275,000 of net revenues at year-end, pending final
resolution of the collection matter. A favorable outcome from the arbitration
will have a positive impact on 2000's results. The Company believes the demand
for government services may grow slowly in 2000; however, the demand for
eCommerce related services is expected to grow rapidly. The Company is currently
seeking new employees to fill technical openings in both areas. A large
proportion of the technical support base for eCommerce operations is provided by
outside consultants and it is anticipated that this trend will continue in the
future. The use of outside consultants allows the company to expand or constrict
its operations quickly both inside and outside the U.S.
The Company typically recognizes revenue from commercial contracts on a
percentage of completion basis. This may result in timing difference between the
amount of revenue recognized on an accrual basis vs. the amount billed in the
customer invoice, which is subject to separate determination based on an
analysis of certain deliverables and milestones. The difference between the
revenue recognized on a percentage of completion basis and the amount billed the
<PAGE>
14
customer is recorded in account receivable as unbilled receivables. At December
31, 1999, approximately 60% of unbilled receivables were for commercial
contracts and 40% for government contracts. Subsequent to year-end close, most
of the government unbilled receivables and a substantial amount of commercial
receivables were billed to customers.
Cost of revenues decreased 14% to $7,049,550 in 1999 from $8,244,290 in
1998. The decrease was mostly attributable to the aforementioned decline in
government contracting and an increase in company-sponsored R&D investment. Cost
of revenues in 1999 was 64% of revenues as compared to 68% in 1998. The Company
has decided to increase its bad debt reserves for eCommerce contracts in 2000 to
approximately 5% of estimated sales as a consequence of its experience with some
customers in 1999.
General and administrative costs were $2,410,001 and $2,373,789 in 1999
and 1998, respectively. The Company experienced cost increases related to office
rents, salary and fringe expenses, legal and accounting costs, and insurance
fees. Overall, general and administrative costs were relatively stable between
years. General and administrative costs rose to 22% of revenue in 1999, as
compared to 19% of revenues in 1998.
Sales and marketing costs fell $258,871 to $512,040 in 1999, compared
to $764,911 in 1998. During the first half of 1999, the Company was actively
recruiting for an eCommerce manager. The new manager was hired in third quarter
1999, new commercial customers were developed, and a technical team was
assembled to do the work. Most of the costs incurred for sales and marketing
were incurred in the last half of 1999, accounting for the drop in expenditures
between comparable periods. The Company's sales and marketing efforts include
applications engineering and technical support, direct sales efforts, as well as
trade shows, demonstrations, and other traditional marketing activities.
The Company expended $599,231 on internally funded research and
development ("R&D") in 1999 and $132,501 in 1998. The Company concentrates in
the development of commercial products for the Internet, which it hopes to
introduce as new products in the future. In special circumstances with strategic
value, the Company may accept partial funding of R&D efforts from other
government agencies, e.g., NIST, to fund some of its R&D efforts. The Company
has a two-year commitment to provide cost sharing on the NIST Courseware Factory
project at approximately the same level as 1999. The NIST contract started in
late 1998. The Company expects to maintain or expand R&D expenditures for at
least the next two years. The majority of the Company's R&D expenditures are
funded externally through government projects (and recorded as cost of
revenues), which are expected to provide new technology and intellectual
property. The Company also capitalized $185,460 and $267,046 of computer
software development costs in the years ended December 31, 1999 and 1998,
respectively.
Interest income was $112,637 in 1999 versus $102,945 in 1998. The
increase was primarily due to increased cash balances during the year. Other
income and expense increased to $2,744 in 1999 from $2,065 in 1998.
The Company has reflected, as a reduction to the provision for income
taxes, the benefit from tax losses generated subsequent to the date of the
quasi-reorganization in 1992. As of December 31, 1999, the Company has utilized
essentially all tax losses generated subsequent to the date of the
quasi-reorganization. Any subsequent realization of tax benefits existing at the
date of the quasi-reorganization, will be recorded as an adjustment to
additional paid-in-capital. Accordingly, the Company expects that its provision
for income taxes and its effective income tax rate for book purposes will be
approximately 40% in 1999; however, the cash liability for income taxes is not
expected to change as a result of the utilization of tax losses existing at the
date of the quasi-reorganization nor is there expected to be any material cash
outlays from the current tax period (see Notes 1 and 6 of Notes to Consolidated
Financial Statements).
In 1999, Teknowledge's net income was $383,539, or $0.07 diluted
earnings per share; and was $785,620, or $0.14 diluted earnings per share for
1998. The 1998 net income reflected a much lower tax rate. Although the Company
still has large tax loss carryforward credit, it has utilized essentially all
tax losses generated subsequent to the 1992 quasi-reorganization. Commencing
1999, the company has increased its effective tax rate for reporting purposes to
40% of taxable income. This change is reflected as a reduction in the 1999
financial results. As a result of the change in tax reporting treatment, 1999
net income was reduced by approximately $250,000 over the comparable period.
<PAGE>
15
However, because of the large tax loss credits remaining, this was only a
reporting change, and there was no cash impact to the Company.
Liquidity and Capital Resources
As of December 31, 1999, unused sources of liquidity of the Company
were $1,951,393 in cash and cash equivalents, a decrease of $426,997 over the
previous year. The Company generated cash of $226,770 from its operating
activities and $174,326 from issuance of common stock to employees exercising
their stock options. It invested $185,460 for developing capitalized software
and $139,373 for purchases of computer equipment and other improvements. The
Company expended $291,494 to repurchase company stock in the open market and
invested $211,766 in GlobalStake.com as of the end of 1999.
The Company believes that the present level of cash and cash
equivalents and borrowing capacity is adequate to service the Company's
short-term liquidity needs in 2000. The Company is contractually committed to
provide approximately $1,000,000 of seed money to GlobalStake.com in 2000. It is
anticipated that this requirement will be spread over a period of at least six
months in approximately equal increments; however, there can be no assurance
that the cash requirements of GlobalStake.com will be incurred in the planned
increments. Given this uncertainty, coupled with expanding cash requirements of
the eCommerce business unit, it is possible that the Company will have to borrow
on its line of credit to provide a supplemental level of cash reserves in the
first half of 2000.
The Company has an unsecured line of credit from a financial
institution in the amount of $2,000,000. The Company may borrow up to the lower
of 60% of the receivable base or $2,000,000 at a rate of one percent over Prime.
The line is subject to certain covenants and maintenance requirements that have
been fulfilled. The line expires in December 2000 and is renewable. The Company
did not utilize the credit line in 1999.
Recent Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board issued SFAS No.
133, "Accounting for Derivative Instruments and Hedging Activities", which
requires companies to value derivative financial instruments, including those
used for hedging foreign currency exposures, at current market value with the
impact of any change in market value being charged against earnings in each
period. In June 1999, the Financial Accounting Standards Board issued SFAS No.
137, "Accounting for Derivative Instruments and Hedging Activities - Deferral of
the Effective Date of SFAS No. 133" to defer the effective date of SFAS No. 133
until fiscal years beginning after June 15, 2000. To date, the Company has not
entered into any derivative financial instrument contracts. Thus the Company
anticipates that SFAS No. 133 will not have a material impact on its
consolidated financial statements.
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin (SAB) No. 101 "Revenue Recognition in Financial Statements".
SAB 101 provides guidance on applying generally accepted accounting principles
to revenue recognition issues in financial statements. We will adopt SAB 101 as
required in the second quarter of 2000. We do not expect the adoption of SAB 101
to have a material impact on our consolidated results of operations and
financial position.
Item 7. Financial Statements
The response to this item is incorporated by reference in a separate
section of this report. See Exhibits, Financial Statement Schedules and Reports
on Form 8-K, Item 13(a)(1) and (2).
Item 8. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
Not applicable.
<PAGE>
16
PART III
- --------------------------------------------------------------------------------
Item 9. Directors, Executive Officers, Promoters and Control Persons;
Compliance with Section 15(a) of the Exchange Act
The information required by Item 9 regarding directors of the Company
is incorporated herein by reference to the sections entitled "Election of
Directors" included in the definitive proxy statement for the Company's 2000
Annual Meeting of Stockholders (the "2000 Annual Meeting Proxy Statement").
Information regarding executive officers is included in Part I under the heading
"Executive Officers". Information required by Rule 405 is incorporated by
reference to Section entitled "Compliance with Section 16(b) reporting
requirements" in the 2000 Annual Meeting Proxy Statement.
Item 10. Executive Compensation
The information required by Item 10 is incorporated herein by
reference to the section entitled "Executive Compensation and Other Matters" and
"Proposal 1: Election of Directors - Directors Compensation" included in the
2000 Annual Meeting Proxy Statement.
Item 11. Security Ownership of Certain Beneficial Owners and Management
The information required by Item 11 is incorporated herein by
reference to the section entitled "Security Ownership" included in the 2000
Annual Meeting Proxy Statement.
Item 12. Certain Relationships and Related Transactions
The information required by Item 12 is incorporated herein by
reference to the section entitled "Certain Relationships and Other Transactions"
included in the 2000 Annual Meeting Proxy Statement.
Item 13. Exhibits and Reports on Form 8-K
(a)(1) and (2): Financial Statements and Financial Statement Schedules
Reference is made to the Index to Financial Statements preceding the
consolidated financial statements included in response to Part II, Item 7 of
this annual report for a list of all financial statements filed.
(a)(3): Exhibits
Set forth below is a list of all exhibits filed herewith or
incorporated by reference as part of this Annual Report on Form 10-KSB.
Exhibit No. Description
3.1 Amended and Restated Certificate of Incorporation of
Teknowledge Corporation (4)
3.2 Amended and Restated Bylaws of Teknowledge Corporation (4)
3.3 Certificate of Designation, Preferences and Rights of the
Terms of the Series A Preferred Stock (2)
4.1 Rights Agreement dated January 29, 1996 between the Company
and Registrar and Transfer Company as Rights Agent (2)
10.1 Stock Option Agreement between the Company and Frederick
Hayes-Roth, dated November 29, 1993 (5)
<PAGE>
17
Exhibit No. Description
10.2 Stock Option Agreement between the Company and Neil
Jacobstein, dated November 29, 1993 (5)
10.3 Stock Option Agreement between the Company and Frederick
Hayes-Roth, dated April 1, 1994 (5)
10.4 Stock Option Agreement between the Company and Neil
Jacobstein, dated April 1, 1994 (5)
10.5 Change of Control Agreement, dated November 21, 1994, between
the Company and Frederick Hayes-Roth and Neil Jacobstein (1)
10.6 Stock Option Agreement between the Company and Frederick
Hayes-Roth, dated March 30, 1995 (5)
10.7 Stock Option Agreement between the Company and Neil
Jacobstein, dated March 30, 1995 (5)
10.8 Teknowledge Corporation 1998 Stock Option Plan (3)
10.9 Executive Compensation Plan, adopted by resolution of the
Company's Compensation Committee, dated November 22, 1999
10.10 Contract Agreement with GlobalStake.com, dated
November 22, 199
23.1 Consent of Arthur Andersen LLP, independent public
accountants
27 Financial Data Schedule
References
(1) Filed as an Exhibit to the Company's Annual Report on Form 10-KSB,
for the fiscal year ended December 31, 1994.
(2) Filed as an Exhibit to the Company's Current Report on Form 8-K
dated February 12, 1996, related to the adoption of a 12(g)
Shareholder Rights Agreement dated January 29, 1996.
(3) Filed as an Exhibit to the Company's Quarterly Report on Form
10-QSB, for the quarter ended June 30, 1998.
(4) Filed as an Exhibit to the Company's Annual Report on Form 10-KSB,
for the fiscal year ended December 31, 1998.
(5) Filed as an Exhibit to the Company's Quarterly Report on Form
10-QSB, for the quarter ended June 30, 1999.
(b) Reports on Form 8-K
None.
<PAGE>
18
(c) Exhibits
Reference is made to the response to Item 13(a)(3) above for a list of
all exhibits filed herewith or incorporated by reference as part of this Annual
Report on Form 10-KSB. Reference is also made to the Exhibit Index forming part
of this Annual Report on Form 10-KSB.
(d) Financial Statement Schedules
Reference is made to the response to Item 13(a)(1) and (2) above with
regard to the financial statement schedules filed as part of this Annual Report
on Form 10-KSB.
For the purposes of complying with the amendments to the rules
governing Form S-8 (effective July 13, 1990) under the Securities Act of 1933,
the undersigned registrant hereby undertakes as follows, which undertaking shall
be incorporated by reference into registrant's Registration Statements on Form
S-8 Nos. 33-27291, 33-77874, 33-78984, 33-82720, 333-00261, and 333-67623.
Insofar as indemnification for liabilities arising under the Securities
Act of 1933 may be permitted to directors, officers and controlling persons of
the registrant pursuant to the foregoing provisions, or otherwise, the
registrant has been advised that in the opinion of the Securities and Exchange
Commission such indemnification is against public policy as expressed in the
Securities Act of 1933 and is, therefore, unenforceable. In the event that a
claim for indemnification against such liabilities (other than the payment by
the registrant of expenses incurred or paid by a director, officer or
controlling person of the registrant in the successful defense of any action,
suit or proceeding) is asserted by such director, officer or controlling person
in connection with the securities being registered, the registrant will, unless
in the opinion of its counsel the matter has been settled by controlling
precedent, submit to a court of appropriate jurisdiction the question whether
such indemnification by it is against public policy as expressed in the Act and
will be governed by the final adjudication of such issue.
<PAGE>
19
SIGNATURES
In accordance with 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.
Teknowledge Corporation
Date: March 30, 2000 By: /s/ Neil A. Jacobstein
------------------------
Neil A. Jacobstein
Chairman of the Board of Directors
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.
Name Capacity Date
---- -------- ----
/s/ Neil A. Jacobstein Chairman of the Board March 30, 2000
- ------------------------------ of Directors, President &
Neil A. Jacobstein Chief Executive Officer
(Principal Executive
Officer)
/s/ Dennis A. Bugbee Director of Finance, March 30, 2000
- ------------------------------ Treasurer and Secretary
Dennis A. Bugbee (Principal Financial and
Accounting Officer)
/s/ Lawrence Druffel Director March 30, 2000
- ------------------------------
Lawrence Druffel
/s/ Benedict O'Mahoney Director, Vice President, March 30, 2000
- ------------------------------ Administration and
Benedict O'Mahoney Legal Affairs
/s/ General Robert T. Marsh Director March 30, 2000
- ------------------------------
General Robert T. Marsh (Ret.)
/s/ James C. Workman Director March 30, 2000
- ------------------------------
James C. Workman
<PAGE>
20
ANNUAL REPORT ON FORM 10-KSB
ITEM 7, ITEM 13(a)(1) and (2), (c) and (d)
LIST OF FINANCIAL STATEMENTS
CERTAIN EXHIBITS
FINANCIAL STATEMENTS
AS OF DECEMBER 31, 1999 AND FOR THE TWO YEARS ENDED DECEMBER 31, 1999
TEKNOWLEDGE CORPORATION
PALO ALTO, CALIFORNIA
<PAGE>
21
TEKNOWLEDGE CORPORATION
FORM 10-KSB - ITEM 13(a)(1) and (2)
LIST OF CONSOLIDATED FINANCIAL STATEMENTS
The following consolidated financial statements of Teknowledge Corporation are
included in Item 7:
Page
Report of Independent Public Accountants 22
Consolidated Balance Sheet - December 31, 1999 23
Consolidated Statements of Operations and Comprehensive Income
- - Years ended December 31, 1999 and 1998 24
Consolidated Statements of Stockholders' Equity - Years ended
December 31, 1999 and 1998 25
Consolidated Statements of Cash Flows - Years ended
December 31, 1999 and 1998 26
Notes to Consolidated Financial Statements 27 - 38
<PAGE>
22
Report Of Independent Public Accountants
To Teknowledge Corporation:
We have audited the accompanying consolidated balance sheet of Teknowledge
Corporation (a Delaware Corporation) and subsidiary as of December 31, 1999, and
the related consolidated statements of operations and comprehensive income,
stockholders' equity and cash flows for the years ended December 31, 1999 and
1998. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Teknowledge Corporation and
subsidiary as of December 31, 1999, and the results of their operations and
their cash flows for the years ended December 31, 1999 and 1998 in conformity
with accounting principles generally accepted in the United States.
/s/ Arthur Andersen LLP
Arthur Andersen LLP
San Jose, California
March 17, 2000
<PAGE>
23
<TABLE>
<CAPTION>
TEKNOWLEDGE CORPORATION
CONSOLIDATED BALANCE SHEET
AS OF DECEMBER 31, 1999
ASSETS
December 31,
1999
--------------
<S> <C>
Current assets:
Cash and cash equivalents $ 1,951,393
--------------
Receivables:
Customer - billed, net of allowance of $10,000 2,028,953
Customer - unbilled 1,234,189
--------------
Total receivables 3,263,142
Deferred tax asset, short-term 400,000
Deposits and prepaid expenses 75,692
--------------
Total current assets 5,690,227
--------------
Capitalized software development costs, net of accumulated
amortization of $104,485 359,743
--------------
Fixed assets, at cost
Computer and other equipment 3,078,647
Furniture and fixtures 112,647
Leasehold improvements 838,398
--------------
4,029,692
Less: Accumulated depreciation and amortization (3,652,857)
--------------
376,835
Deferred tax asset, long-term 500,000
Other assets, long-term (note 12) 241,162
--------------
Total assets $ 7,167,967
==============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 747,404
Payroll and related liabilities 659,752
Other accrued liabilities (Note 3) 221,159
--------------
Total current liabilities 1,628,315
Commitments and contingencies (Notes 4 and 11)
Stockholders' equity:
Preferred stock, $.01 par value,
authorized 2,500,000 shares, Series A
Convertible Preferred Stock, none issued -
Common stock, $.01 par value, authorized
25,000,000 shares, 5,302,540 shares issued and
5,257,470 shares outstanding at December 31, 1999 53,025
Additional paid-in capital 1,795,402
Retained earnings since January 1, 1993
(following quasi-reorganization) 3,872,322
Less: Treasury stock, at cost (181,097)
--------------
Total stockholders' equity 5,539,652
--------------
Total liabilities and stockholders' equity $ 7,167,967
==============
The accompanying notes are an integral part of this consolidated financial statement.
</TABLE>
<PAGE>
24
TEKNOWLEDGE CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
AND COMPREHENSIVE INCOME
Years Ended December 31,
------------------------
1999 1998
---- ----
Revenues $ 11,094,672 $ 12,200,849
------------- -------------
Costs and expenses:
Cost of revenues 7,049,550 8,244,290
General and administrative 2,410,001 2,373,789
Sales and marketing 512,040 764,911
Research and development 599,231 132,501
------------- -------------
Total costs and expenses 10,570,822 11,515,491
------------- -------------
Operating income 523,850 685,358
Interest and other income, net 115,381 105,010
------------- -------------
Income before tax 639,231 790,368
Provision for income tax 255,692 4,748
============= =============
Net income $ 383,539 $ 785,620
============= =============
Net income per share:
- Basic $ 0.08 $ 0.16
============= =============
- Diluted $ 0.07 $ 0.14
============= =============
Shares used in computing net income per share:
- Basic 5,050,386 4,887,910
============= =============
- Diluted 5,795,717 5,763,361
============= =============
The accompanying notes are an integral part of these consolidated financial
statements.
<PAGE>
25
<TABLE>
<CAPTION>
TEKNOWLEDGE CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
Common Stock Additional
Shares Par Paid-in Retained Treasury
Issued Value Capital Earnings Stock Total
------ ----- ------- -------- ----- -----
<S> <C> <C> <C> <C> <C> <C>
Balance, December 31, 1997 4,796,543 $ 41,608 $ 1,415,270 $ 2,703,163 $ - $4,160,041
Exercise of stock options 158,839 7,942 95,020 - - 102,962
Net income - - - 785,620 - 785,620
Distribution of cash for
fractional shares due to
reverse stock split (428) - (1,921) - - (1,921)
Reversal of portions of
provisions made prior to
quasi-reorganization for
restructuring reserve - - 45,611 - - 45,611
---------- --------- ---------- ------------- ---------- ---------
Balance, December 31, 1998 4,954,954 49,550 1,553,980 3,488,783 - 5,092,313
Repurchase of common stock - - - - (291,494) (291,494)
Exercise of stock options 347,586 3,475 60,454 - 110,397 174,326
Net income - - - 383,539 - 383,539
Realization of net operating
loss carryforwards established
prior to quasi-reorganization - - 180,968 - - 180,968
---------- --------- ---------- ------------- ---------- ---------
Balance, December 31, 1999 5,302,540 $ 53,025 $ 1,795,402 $ 3,872,322 $ (181,097) $5,539,652
========== ========= ========== ============= ========== =========
The accompanying notes are an integral part of these consolidated
financial statements.
</TABLE>
<PAGE>
26
<TABLE>
<CAPTION>
TEKNOWLEDGE CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31,
------------------------
1999 1998
---- ----
<S> <C> <C>
Cash flows from operating activities:
Net income $ 383,539 $ 785,620
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 359,839 319,578
Deferred income taxes 180,968 -
Changes in assets and liabilities:
Receivables (729,359) (245,030)
Deposits and prepaid expenses 11,167 (18,350)
Accounts payable 86,083 (41,577)
Accrued liabilities (65,467) (229,959)
------------- -------------
Net cash provided by operating activities 226,770 570,282
------------- -------------
Cash flows from investing activities:
Investment in GlobalStake (211,766) -
Capitalization of software development costs (185,460) (267,046)
Purchase of fixed assets (139,373) (198,122)
------------- -------------
Net cash used for investing activities (536,599) (465,168)
------------- -------------
Cash flows from financing activities:
Proceeds from issuance of common stock 174,326 102,962
Redemption of fractional shares from reverse stock split - (1,921)
Repurchase of common stock (291,494) -
------------- -------------
Net cash provided by (used for) financing activities (117,168) 101,041
------------- -------------
Net increase (decrease) in cash and cash equivalents (426,997) 206,155
Cash and cash equivalents at beginning of period 2,378,390 2,172,235
------------- -------------
Cash and cash equivalents at end of period $ 1,951,393 $ 2,378,390
============= =============
Supplemental disclosure of cash flow information:
Cash paid for income taxes $ 18,200 $ 8,644
The accompanying notes are an integral part of these consolidated financial
statements.
</TABLE>
<PAGE>
27
TEKNOWLEDGE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999
1. History and Business
Teknowledge Corporation (the "Company") was incorporated on
July 8, 1981 under the laws of the State of Delaware and is the
surviving corporation of the merger of American Cimflex Corporation
("Cimflex") and Teknowledge Inc., which was consummated in 1989. Prior
to 1993, Cimflex restructured and divested a significant part of its
operations. Reserves for discontinued operations and restructuring
obligations were established for those events. In December 1992, the
Board of Directors approved a quasi-reorganization, which had the
effect of eliminating the accumulated deficit at December 31, 1992 of
approximately $58 million by reducing paid-in-capital. Adjustments to
previously established reserves and any subsequent realization of tax
benefits existing at the date of the quasi-reorganization will be
recorded as adjustments to additional paid-in-capital.
The Company is in the Internet knowledge system business.
Almost all of the Company's projects involve processing application
knowledge and distributing it over the Internet. The Company leverages
its core competencies in knowledge-based systems and large-scale
distributed object-oriented software with the expanding opportunities
presented by the Internet and the World Wide Web. The Company provides
software products and consulting services for government and commercial
applications. The application areas are addressed by five program
areas: Distributed Systems Engineering, Situation Assessment and Data
Fusion, Education & Training Technologies, Information Assurance, and
Electronic Commerce ("eCommerce") Systems.
The Company recognizes that the continued success of its
business is dependent on key management and technical personnel, the
loss of one or more of whom could adversely affect the Company's
business. The Company is also subject to risks inherent to companies at
a similar stage of development, including the successful
commercialization of the Company's products, competition from larger
companies with financial resources greater than the Company, the
ability to retain and attract employees, and capital and financing
needs.
2. Summary of Significant Accounting Policies
Use of Estimates in the Preparation of Financial Statements
The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets
and liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results could
differ from these estimates.
Principle of Consolidation
The consolidated financial statements include the accounts of
Teknowledge Corporation and its wholly owned subsidiary, Teknowledge
Federal Systems, Inc. All significant intercompany transactions and
balances have been eliminated.
<PAGE>
28
TEKNOWLEDGE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999
2. Summary of Significant Accounting Policies (cont'd)
Cash and Cash Equivalents
The Company considers all highly liquid investments, with
original maturity dates of less than 90 days, as cash equivalents. As
of December 31, 1999, the Company's funds were invested almost entirely
in money market instruments at various institutions.
Unbilled Receivables
Unbilled receivables represent differences between billings
and revenues recognized on cost-type government contracts and certain
eCommerce services. The unbilled amounts primarily represent (i) timing
differences between incurred costs and billed costs, or (ii) a portion
of the earned fee held back as retention until the contract is
completed and the final indirect overhead rates have been determined. A
substantial portion of the retained fee may be billed to the government
after the final indirect rates are submitted to the government;
however, they are subject to future review and approval by the Defense
Contract Audit Agency. The Company has received final overhead rate
approval for costs incurred through December 31, 1997.
Concentration of Credit Risk
The Company performs periodic credit evaluations of the
financial condition of commercial customers and generally does not
require collateral. Historically, the Company has experienced minimal
write-offs from commercial receivables. The Company has not experienced
a credit loss from a government customer nor does it anticipate such
losses.
Capitalized Software Development Costs
Teknowledge capitalizes software development costs starting
from the point technological feasibility is determined and continuing
until the general availability of the product. During 1999 and 1998,
software development costs of $185,460 and $267,046 were capitalized,
respectively. Amortization costs were $92,923 in 1999 and $27,238 in
1998.
The Company's policy is to amortize capitalized software
development costs by the greater of (a) the ratio of current gross
revenues for a product to the total of current and anticipated future
gross revenues for that product, or (b) the straight-line method over
the remaining estimated economic life of the product which is three
years.
Fixed Assets
Equipment and improvements, which include assets under capital
leases, are depreciated using the straight-line method over their
estimated useful lives ranging from three to five years. Maintenance
and repairs are charged to expense as incurred. Leasehold improvements
are amortized over the shorter of the useful life or the remaining
lease term.
<PAGE>
29
TEKNOWLEDGE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999
2. Summary of Significant Accounting Policies (cont'd)
Revenue Recognition
(a) Government Contracts
The Company's revenues are primarily generated from U.S.
Government contracts under which the Company may be either the prime
contractor or a subcontractor. The Company principally uses the
percentage-of-completion method of accounting for contract revenues.
The percentage-of-completion method is based on total costs incurred to
date compared with estimated total costs upon completion of contracts.
The Company charges all losses on contracts to operations in the period
when the loss is known.
In 1999, approximately 85% of the Company's revenues were
recorded in connection with U.S. Government contracts, principally of
the cost-plus-fixed-fee type, compared to approximately 99% in 1998.
These contracts are predominantly funded by the Defense Advanced
Research Projects Agency (DARPA) and administered by various government
agencies.
For the year ended December 31, 1999, the DARPA Information
Technology Office and Information Systems Office were the sponsors of
the Company's three largest government contracts accounting for 58% of
government revenue. For the year ended December 31, 1998, a classified
customer was the sponsor of the Company's largest government contract,
accounting for approximately 17% of total revenues. The DARPA
Information Technology Office and Information Systems Office were the
sponsors for the second and third largest government contracts; each
contributed 14% of total revenues.
(b) Commercial Contracts
Revenue earned under software license agreements with end
users are generally recognized as revenue upon contract execution,
provided all shipment obligations have been met, fees are fixed or
determinable, and collection is probable. Revenue from post-contract
customer support is recognized ratably over the period the customer
support services are provided, and software services revenue is
recognized as services are performed.
Revenues from professional services provided principally under
technology contracts are recognized when costs for time and materials
are incurred.
Reverse Stock Split
The Company has effected a one-for-five reverse stock split on
December 22, 1998. All share and per share data has been retroactively
restated to reflect the effect of the reverse stock split. Since there
was no change in per share par value, aggregate par value has also been
retroactively adjusted to reflect the reduction in the number of common
stock.
<PAGE>
30
TEKNOWLEDGE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999
2. Summary of Significant Accounting Policies (cont'd)
Treasury Stock
On December 16, 1998, the Company adopted a program to
repurchase up to 300,000 shares of the Company's common stock in the
open market or in private during the twelve-month period ending
December 15, 1999 at prevailing prices. Repurchases will be made
periodically at management discretion using the Company's own cash
reserves. Shares repurchased may be reissued to employees pursuant to
the Company's stock option plans, or for other corporate purposes.
Earnings Per Share
Basic earnings per share is calculated by dividing net income
by the weighted average shares of common stock outstanding during the
period. Diluted earnings per share is calculated by dividing net income
by the weighted average shares of outstanding common stock and common
stock equivalents during the period. Common stock equivalents included
in the diluted calculation consist of dilutive shares issuable upon the
exercise of outstanding common stock options.
A summary of the earnings per share calculation for each of
the two years ended December 31, 1999 and 1998 is as follows (in
thousands, except per share amounts). All share amounts have been
adjusted for the effect of the one-for-five reverse stock split
effective December 22, 1998.
<TABLE>
<CAPTION>
1999 1998
---- ----
<S> <C> <C>
Basic earnings per share:
Net income $ 384 $ 786
--------- --------
Weighted average common shares 5,050 4,888
--------- --------
Basic earnings per share $ 0.08 $ 0.16
========= ========
Diluted earnings per share:
Net income $ 384 $ 786
--------- --------
Weighted average common shares 5,050 4,888
Weighted average common shares equivalent:
Options 746 875
--------- --------
Diluted weighted average common shares 5,796 5,763
--------- --------
Diluted earnings per share $ 0.07 $ 0.14
========= ========
</TABLE>
Accounting for Stock-Based Compensation
The Company has adopted the disclosure provisions of Statement
of Financial Accounting Standards (SFAS) No. 123, "Accounting for
Stock-Based Compensation." The adoption did not have a significant
effect on the Company's results of operations as the Company continues
to apply the principles of Accounting Principles Board (APB) Opinion
No. 25 and related interpretations in accounting for the Company's
stock plans.
<PAGE>
31
TEKNOWLEDGE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999
2. Summary of Significant Accounting Policies (cont'd)
Segment Reporting
During 1998, the Company adopted SFAS No. 131, "Disclosures
About Segments of an Enterprise and Related Information." SFAS No. 131
requires a new basis of determining reportable business segments, i.e.,
the management approach. This approach requires that business segment
information used by management to assess performance and manage Company
resources be the source for information disclosure. On this basis, the
Company is organized and operates as one business segment, providing
software products and consulting services for government and commercial
applications. As a result, the adoption of SFAS No. 131 had no impact
on the Company's disclosures or financial statements.
Recent Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board issued
SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities", which requires companies to value derivative financial
instruments, including those used for hedging foreign currency
exposures, at current market value with the impact of any change in
market value being charged against earnings in each period. In June
1999, the Financial Accounting Standards Board issued SFAS No. 137,
"Accounting for Derivative Instruments and Hedging Activities -
Deferral of the Effective Date of SFAS No. 133" to defer the effective
date of SFAS No. 133 until fiscal years beginning after June 15, 2000.
To date, the Company has not entered into any derivative financial
instrument contracts. Thus the Company anticipates that SFAS No. 133
will not have a material impact on its consolidated financial
statements.
In December 1999, the Securities and Exchange Commission
issued Staff Accounting Bulletin (SAB) No. 101 "Revenue Recognition in
Financial Statements". SAB 101 provides guidance on applying generally
accepted accounting principles to revenue recognition issues in
financial statements. We will adopt SAB 101 as required in the second
quarter of 2000. We do not expect the adoption of SAB 101 to have a
material impact on our consolidated results of operations and financial
position.
<PAGE>
32
TEKNOWLEDGE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999
3. Other Accrued Liabilities
Other Accrued liabilities as of December 31, 1999 consist of
the following:
Provision for contract charges $ 100,000
Accrual for professional services 64,552
Accrual for income taxes 55,315
Miscellaneous 1,292
-------------
$ 221,159
=============
4. Commitments
The Company leases its facilities and certain equipment under
operating leases. As of December 31, 1999, the Company had active
leases in the following locations:
Location Date Lease Expires
-------- ------------------
Palo Alto, California April 4, 2002
San Diego, California May 31, 2000
Arlington, Virginia June 30, 2001
Fairfax, Virginia June 30, 2002
The remaining obligations under these leases are as follows:
Year Ending
December 31,
------------
2000 $ 611,453
2001 591,424
2002 162,604
-----------
$ 1,365,481
===========
Rent expense for the years ended December 31, 1999 and 1998
totaled $645,870 and $504,111, respectively.
5. Line of Credit
The Company has a $2,000,000 unsecured line of credit
agreement with a bank. The line expires in December 2000 and can be
extended from year to year. The Company can borrow up to 60% of the
eligible receivables base or $2,000,000, whichever is lower. The
maximum rate that may be charged is one percent over the bank's prime
rate (8.25% at December 31, 1999). The agreement includes certain
financial covenants and disclosure requirements that were met during
the year. The line was not utilized in 1999.
<PAGE>
33
TEKNOWLEDGE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999
6. Income Taxes
The Company accounts for income taxes in accordance with SFAS
No. 109, "Accounting for Income Taxes." SFAS No. 109 is an asset and
liability approach for computing deferred income taxes based on enacted
tax laws and rates applicable to the period in which the taxes become
payable.
The Company has reflected as a reduction to the provision for
income taxes the benefit from tax losses generated subsequent to the
date of the quasi-reorganization (see Note 1). The provision for income
taxes differs from the statutory U.S. Federal income tax rate due to
the following:
1999 1998
---- ----
Provision at U.S. statutory rate 35.0% 34.0%
State income taxes, net of other Federal benefit 5.8 6.1
Other (0.8) -
Change in valuation allowance - (39.5)
----- -----
Provision for income taxes 40.0% 0.6%
===== =====
The components of the net deferred income tax asset as of
December 31, 1999 are as follows:
Net operating loss carryforwards $ 23,487,194
Cumulative temporary differences 256,429
Tax credit carryforwards 783,894
--------------
24,527,517
Valuation allowance (23,627,517)
--------------
Net deferred income tax asset $ 900,000
==============
The valuation allowance consists of net operating losses,
cumulative temporary differences and tax credit carryforwards, which
may expire before they can be used. The Company believes sufficient
uncertainty exists regarding the realizability of these items, and
accordingly, a valuation allowance has been established.
At December 31, 1999, the Company had net operating loss
carryforwards of approximately $67 million available to offset future
Federal taxable income. Any subsequent realization of tax loss
carryforwards that existed at the date of the quasi-reorganization will
be recorded as an adjustment to additional paid-in-capital. These loss
carryforwards expire through the year 2009. The availability and timing
of the amount of prior losses to be used to offset taxable income in
future years may be limited due to various provisions, including any
change in ownership interest of the Company resulting from significant
stock transactions.
Realization of the net deferred tax asset of $900,000 as of
December 31, 1999 is dependent on generating sufficient taxable income
to offset future deduction of the related items. Although realization
is not assured, management believes it is more likely than not that the
net deferred tax asset will be realized. The amount of the deferred tax
asset considered realizable, however, could be reduced in the near term
if estimates of future taxable income are reduced.
<PAGE>
34
TEKNOWLEDGE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999
7. 401(k) Plan
The Company has a 401(k) plan covering all of the Company's
regular employees. Participants in the plan may make a contribution as
a percentage of their gross wages subject to the applicable government
limits. Effective January 1, 1999, the Board of Directors amended the
Plan, and increased the Company matching provision of eligible wages
from 4% to 5%. The Company matching contribution vests at 20% a year
over a five-year period. The Company contributed $200,201 and $143,333
to the plan during 1999 and 1998, respectively.
8. Executive Compensation Plan
The Chief Executive Officer of the Company has an employment
agreement with the Company dated November 22, 1999 for the year 2000.
Besides base compensation, this agreement includes an incentive
compensation plan with target objectives established in the six
strategic categories of cash flow, profitability, bookings, eCommerce,
licensing fees, and GlobalStake.com performance, which will be
determined and assessed by the Board of Directors to a maximum of 120%
of base salary.
9. Stock-Based Compensation Plans
The Company has two stock option plans. The stock option plan
for employees is called the Teknowledge Corporation 1998 Stock Option
Plan (the "1998 Plan") and the stock option plan for Directors is
called the Teknowledge Plan for Non-Employee Directors (the "Directors'
Plan"). The Company accounts for these plans under APB Opinion No. 25.
Had compensation cost for these plans been determined
consistent with SFAS No. 123, the Company's net income and earnings per
share would have been reduced to the following pro forma amounts:
1999 1998
Net Income As Reported $383,539 $785,620
Pro Forma $135,799 $681,737
Diluted EPS As Reported $0.07 $0.14
Pro Forma $0.02 $0.12
Because the SFAS No. 123 method of accounting has not been
applied to options granted prior to January 1, 1995, the resulting pro
forma compensation cost may not be representative of that to be
expected in future years.
<PAGE>
35
TEKNOWLEDGE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999
9. Stock-Based Compensation Plans (cont'd)
The Company may grant options for up to 1,546,636 shares under
the 1998 Plan to employees. The Company has granted options for 337,600
shares ($3.50 - $5.38 per share) and 347,900 shares ($2.15 - $8.60 per
share) in 1999 and 1998, respectively, and has reserved for issuance a
total of 1,127,426 shares through December 31, 1999. The Board of
Directors has granted options to employees that are either incentive
stock options ("ISO") or non-statutory stock options ("NSO"). For ISO,
the exercise price of the common stock options granted under the 1998
Plan may not be less than the fair market price on the date of grant.
For NSO, the exercise price of the common stock may not be less than
85% of the fair market price of the common stock on the date of grant.
Options that have been granted normally vest in quarterly increments
starting the second year of a four-year term and expire ten years after
the grant date. The 1998 Stock Option Plan is scheduled to expire in
April 2008.
The aggregate number of shares issued under the Directors'
Plan may not exceed 100,000 shares of Common Stock. 38,000 shares were
available for future grant as of December 31, 1999. Under this plan,
non-employee directors are entitled to receive annual option grants to
purchase 3,000 shares of Common Stock on their initial election to the
Board and thereafter on the anniversary date of their election to the
Board. Options, which are granted at fair market value, are exercisable
one year after the grant date and expire ten years from the grant date.
Options to purchase a total of 57,000 shares were outstanding as of
December 31, 1999 at $.75 to $8.15 per share and a weighted average of
$4.30 per share. Options for 45,000 shares at $.75 to $8.15 per share
and a weighted average of $4.24 per share were vested at December 31,
1999. No options were exercised during 1999.
A summary of the status of the Company's stock option plans as
of December 31, 1999 and 1998 is presented below:
<TABLE>
<CAPTION>
1999 1998
---------------------------------- -------------------------------
Wtd Avg Wtd Avg
Shares Ex Price Shares Ex Price
---------------------------------- -------------------------------
<S> <C> <C> <C> <C>
Outstanding at beg. of year 1,264,899 $ 1.44 1,268,516 $ 1.75
Granted 349,600 3.98 347,900 2.85
Exercised (372,786) .47 (158,839) .65
Forfeited (137,701) 4.32 (192,678) 6.59
------------ ---------
Outstanding at end of year 1,104,012 2.10 1,264,899 1.44
Exercisable at end of year 591,749 .98 890,482 .91
Weighted average fair value
of options granted $3.98 $2.26
</TABLE>
<PAGE>
36
TEKNOWLEDGE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999
9. Stock-Based Compensation Plans (cont'd)
The following table summarizes information about stock options
outstanding at December 31, 1999:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
------------------ ------------------------------------------------- ---------------------------------
Wtd Avg
Range of Shares Contractual Shares
Ex Prices Outstanding Life Wtd Avg Exercisable Wtd Avg
($'s) 12/31/99 (Years) Ex Price 12/31/99 Ex Price
------------------ ------------------------------------------------- ---------------------------------
<S> <C> <C> <C> <C> <C>
.05 - 1.76 437,957 4.6 .28 437,957 .28
1.77 - 3.53 311,955 8.3 2.34 133,792 2.42
3.54 - 5.29 342,100 9.7 4.00 8,000 4.38
5.30 - 8.82 12,000 8.5 8.15 12,000 8.15
------------------- -------------------
.05 - 8.82 1,104,012 7.3 2.10 591,749 .98
------------------- -------------------
</TABLE>
The fair value of each option grant is estimated on the date
of grant using the Black-Scholes option pricing model with the
following weighted-average assumptions used for grants in 1999 and
1998, respectively; risk-free interest rates of 5.6% and 5.5%; expected
lives of 5.5 and 5.5 years; expected volatility of 68% and 100%; and
expected dividend yield of 0%.
As of December 31, 1999, the following number of shares of
Common Stock have been reserved for future issuance under both Plans:
Teknowledge Corporation 1998 Stock Option Plan 1,127,426
Stock Option Plan for Non-Employee Directors 95,000
----------
1,222,426
==========
10. Other Income and Expense
The composition of other income and expense is as follows:
1999 1998
---- ----
Other Income and Expense $ 2,744 $ 2,065
<PAGE>
37
TEKNOWLEDGE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999
11. Contingencies
Change of Control - Severance Benefits
In the event of a change of control, defined as any
consolidation or merger of the Company in which the Company is not the
continuing or surviving corporation, the Chief Executive
Officer/President of the Company will be entitled to severance benefits
to include: (i) full accrued salary and vacation pay, (ii) accrued
incentive compensation awarded or determined to be awarded by the Board
of Directors, (iii) insurance coverage, (iv) retirement benefits and
(v) a lump sum severance payment equal to two times the most recent
annual salary.
Rights Agreement
On January 29, 1996, the Company's Board of Directors approved
a Rights Agreement (the "Plan"). The adoption of the Plan is intended
as a means to guard against takeover tactics designed to gain control
of the Company without paying all stockholders full and fair value.
Under the Plan, stockholders will receive five Rights to
purchase one one-hundredth of a share of a new series of Preferred
Stock for each outstanding share of the Company's Common Stock of
record held at the close of business on February 12, 1996. The Company
has effected a one-for-five reverse stock split on December 22, 1998.
Pursuant to the Plan, the number of Rights received per share of Common
Stock held has been proportionately adjusted to reflect the effect of
the reverse stock split.
The Rights, which will initially trade with the Common Stock,
become exercisable to purchase one one-hundredth of a share of the new
Preferred Stock, at $2.00 per Right, when a third party acquires 15
percent or more of Common Stock or announces a tender offer which could
result in such person owning 15 percent or more of Common Stock. Each
one one-hundredth of a share of the new Preferred Stock has terms
designed to make it substantially the economic equivalent of one share
of Common Stock. Prior to a third party acquiring 15 percent, the
Rights can be redeemed for $.001 each by action of the Board. Under
certain circumstances, if a third party acquires 15 percent or more of
Common Stock, the Rights permit the holders to purchase Teknowledge
Common Stock having a market value of twice the exercise price of the
Rights, in lieu of the Preferred Stock. In addition, in the event of
certain business combinations, the Rights permit purchase of the Common
Stock of an acquirer at a 50 percent discount. In either case, Rights
held by the acquirer will become null and void.
Legal Proceedings
In 1999 the Company offered to sell SAP a license to use the
technology related to the Company's Intelligent Configuration Patent
Portfolio, a collection of five patents relating to configuration
technologies, including the Company's configuration systems patent,
Bennett et al. U.S. Patent 4,591,983 (the "'983 patent"). In response
to this offer, on October 8, 1999, SAP America, Inc. and SAP
Aktiengesellschaft (collectively, "SAP") filed a lawsuit against the
Company in the United States District Court for the District of
Delaware. The subject matter of the case involves the Company's '983
patent and the configuration technology associated with the SAP R/3
System ("R/3 System"). SAP is seeking a judgment against the Company
that the `983 patent is invalid and is not infringed by the R/3 System;
an award of attorney fees, costs of suit, and other relief the court
may deem just and proper.
<PAGE>
38
11. Contingencies (cont'd)
On October 21, 1999 the Company filed a counterclaim against
SAP for patent infringement of two of its patents. The subject of the
counter suit is the `983 patent entitled "Hierarchical Knowledge
System" and U.S. Patent 4,783,752 entitled "Knowledge Based Processing
for Application Programs Using Conventional Data Processing
Capabilities." The management of the Company considers the suit brought
by SAP to be without merit and intends to defend its patents
vigorously. Management believes the ultimate resolution of the above
matters may have a positive impact, and will not have an adverse
material impact on the Company's financial position and results of
operations.
12. Investments in GlobalStake.com
In November 1999, Teknowledge agreed to provide seed money for
a new web-based real estate company, GlobalStake.com, which was spun
off from Teknowledge Corporation. GlobalStake.com will provide full
service, discounted real estate transactions under the
ExploreRealty.com trade name. Teknowledge retained 19.9% of
GlobalStake.com consisting of Series A Preferred shares. Teknowledge
currently maintains this percentage interest against dilution through a
warrant to acquire Common Stock until an IPO or acquisition, and also
has an aggregate liquidation preference over common shares. As long as
Teknowledge owns less than 20% of GlobalStake.com, the Company will
account for the investment in GlobalStake.com using the cost method.
Teknowledge expects to provide: (1) approximately $1,200,000 in
cumulative seed cash and services; (2) the proprietary information and
technology developed in support of the GlobalStake.com business plan;
and (3) licenses to practice Teknowledge's patent portfolio. Former
Chairman and CEO of Teknowledge, Rick Hayes-Roth, resigned from his
position of CEO and Director of the Company and was elected Chairman
and CEO of GlobalStake.com. Neil Jacobstein was elected to serve on the
GlobalStake.com Board of Directors.
CONFIDENTIAL MEMORANDUM
TO: Compensation Committee of the Board of Directors
FROM: Rick Hayes-Roth
SUBJECT: 2000 Objectives and Executive Incentive Compensation
DATE: November 22, 1999
Situation:
We had a very productive 1999. Highlights included moving TEKC to the
Nasdaq SmallCaps market, regaining our backlog, developing a vertical subsidiary
- - GlobalStake.com, and building our commercial E-Commerce business from 1% of
revenues to 20% of revenues by Q3 99. On the stock front, the temporary peak was
$6/share, with a low of $3.80/share.
In 1999, we said: "the company will need to regain lost ground in the
government services arena and convert its E-Commerce investments into a viable
commercial services business that can be leveraged by 3rd party product sales.
Overall, our single biggest objective in `99 is to grow the company's base of
both government and 3rd party product-leveraged commercial services. We will
also continue the search for a small-firm acquisition that exploits our NOL
asset." On the commercial front, this mission was accomplished by hiring Rodney
Robinson. A well-oiled team from Edify and elsewhere followed soon after. This
team is disciplined and committed to both profitability and rapid growth. They
delivered 20% of Teknowledge's revenues in Q3. Teknowledge now has a first-rate
E-Commerce team--the challenge will be retaining them. They joined Teknowledge
because they saw that it has smart people, a long track record of profitability,
and a sleepy stock price that could be driven much higher via multiple
commercial E-Commerce projects with the associated revenues and profitability.
They want in on that ride, and have already threatened to leave if they are
deprived of it via high government business rates, or having their profits
washed out by losses from GlobalStake.com. We are planning to get Tek's
investment in GlobalStake below the 20% threshold in 4Q99 to cut Teknowledge
free of GlobalStake losses.
GlobalStake is another large upside opportunity. The real estate market is
huge and only superficially serviced by the web. It now appears that GlobalStake
will not have first or second mover position in discount real estate
transactions. Those honors go to zipReality.com and HomesThatClick.com. No doubt
others are on the way. GlobalStake probably has the most comprehensive offering
planned. No doubt it will be a battle for first, second, and third place in the
market. Neil has talked to a half dozen potential investors, and none of them
has jumped in with big investments yet. Some are still considering it. Most
agree that the market will evolve on the web, but some doubt our rapid growth
model that has us at $680M in cumulative profits at the end of year 5, and
others think that the real estate companies will move faster than the brokerage
companies did to cannibalize their businesses. So, GlobalStake will plan to
raise investment money in 4Q99. It is apparent from the speed of the market that
GlobalStake will have to accelerate to have any chance of dominating its market.
This probably means five things: 1) raising more capital, 2) giving away a
larger stake than anticipated, 3) larger losses than anticipated, 4) hiring the
new execs and staff faster, 5) cutting the company free faster to focus
exclusively on the on-line real estate market. Given the need for larger than
anticipated losses, this increases the risk to the parent company considerably.
We do not want the needs of the parent to limit the growth or competitiveness of
GlobalStake. On the other hand, we do not want the needs of GlobalStake to trash
the business of the parent company. TEKC faces the total loss of its E-Commerce
business if GlobalStake losses roll-up to the parent. GlobalStake's
competitiveness will suffer if TEKC is limiting investment and maximum
deployment velocity in order to protect its profitability. This suggested the
need for an earlier than anticipated separation, to be achieved by a change of
management and separation of control.
As a result, a single Executive (NJ) will now staff the former two-man
office of the CEO/President. We have promoted Benedict O'Mahoney to Vice
President to reflect his excellent performance as corporate counsel and director
of administration. Over time, Neil will need to identify and groom additional
executive talent. But that is not considered a top priority for the coming year.
Our patent portfolio is aging, and in need of being exercised or abandoned
as worthless. Our attempts to extract royalties from SAP resulted in us being
sued by and counter suing SAP. If SAP fails to prevail in a summary judgment
case in the Delaware courts, they will probably settle with us. If that happens,
others may follow their example.
Goals for 2000:
- Increase the market cap of Teknowledge in 2000 by 25%
- Develop a profitable E-Commerce service business that is 40% of revenues
- Complete the launch of GlobalStake.com
- Replenish and build up the backlog
- Leverage the patent portfolio
Objectives:
1. Cash gating factor constraint. Cash on hand at end of year (12/31/00)
must exceed $2.0M.
[15%] 2. Profit. Achieve 9% EBIT.
[15%] 3. Bookings. Land $15M in new bookings that are earnable within 18 months
of notice of award.
[15%] 4. Commercial business. Record $5M of E-Commerce revenue.
[5%] 5. Licensing. Produce $500K in patent license fees and at least
break even after expenses.
[10%] 6. Launch GlobalStake.com. Help the company launch in 1Q00 and retain
more than 19% ownership.
Base compensation:
I am recommending that we raise base compensation for the new Chairman/CEO (NJ)
by 27.2% in 2000. This new salary would be approximately halfway between the
salary Neil received in 1999 as President and that RHR received in 1999 as CEO.
The base plan would be:
Basic Contract NJ
Base salary: $195,000
Severance: 12 months
Change of control: 24 months
Note specifically that I am recommending this new salary be implemented on
11/22/99, consistent with NJ's promotion, assuming that is approved.
Specific gating factor and performance factors:
As in the last few years, I suggest adopting a gating factor based on "cash
on hand" at 12/31/00. This gating factor (GF) can scale from 0 to 1 and is a
multiplier on each individual performance factor. We are currently running
between a high of approximately $3M and a low of approximately $2.1M, but we
have promised approximately $1.2M to GlobalStake.com. The proposed gating factor
would be 0 below $1M, and then scale linearly from 0.2 at $1M to 1.0 at $2.0M
(or above). This includes all items in the budget but excludes any potential
extraordinary financing, DCAA adjustments contrary to our accountants'
interpretations, or unplanned board-authorized expenses.
This year I am recommending retaining the target bonus at 60% of base
salaries. This reflects the need to add additional objectives to maintain a
viable Teknowledge while spinning-off GlobalStake.com. This is a real challenge.
Profit: Target factor would be 15% at 9% EBIT. It would scale linearly
from 0% at 0 EBIT or below to 15% at 9% EBIT, and then from 15% at 9% EBIT to
30% at 13.5% EBIT or higher.
Bookings: Target factor would be 15% for $15M in backlog for business
awarded in 1999 which is earnable within 18 months after award. Revenues
produced from earlier year awards not previously considered part of "bookings"
for calculating this factor would be considered bookings for this purpose.
Target factor would scale linearly from 5% at $7.5M to 15% at $15M, and then
linearly from 15% at $15M to 30% at $22.5M or higher.
E-commerce business line: Target factor would be 15% for $5M in revenue
earned. It would scale linearly from 5% for $2M to 15% for $5M, and would scale
linearly from 15% for $5M to 30% for $7.5M or above. This commercial revenue
could be earned via Teknowledge employees and contractors.
Patent fees: Target factor would be 5% for $500K in patent licensing
revenue earned, conditional upon a non-negative associated net income. It would
scale linearly from 2.5% for $200K to 5% for $500K, and would scale linearly
from 5% for $500K to 10% for $750K or higher.
GlobalStake.com spinout: Target factor would be 10% for launch of
GlobalStake. Com as a competent, additionally funded, and independent company
during the first quarter (NLT 3/31/00). In all cases, the percentage of the
company retained for Teknowledge must be at least an undilutable 19%. The target
factor would vary by month of business launch, as follows: June 2000 = 2.5%, May
2000 = 5%, April 2000 = 7.5%, March 2000 = 10.%, February 2000 = 14%, January
2000 = 20%. While Teknowledge has no influence or direct control over
GlobalStake.com, we have agreed to provide them facilities and support as part
of their startup, and we may be able to help them succeed in other ways by
providing commercial products or services that they need.
Resolution of the Compensation Committee of the Board of Directors:
We agree to implement the 2000 Exec Compensation plan as described in this
November 22, 1999 memorandum from Rick Hayes-Roth.
Agreed:
/s/ Neil Jacobstein
- ---------------------------------
Neil Jacobstein, Chairman and CEO
Approved:
/s/ James Workman
- -----------------------------------------------
James Workman, Chairman, Compensation Committee
GLOBALSTAKE.COM CORPORATION
SERIES A PREFERRED STOCK
PURCHASE AGREEMENT
THIS STOCK PURCHASE AGREEMENT is made as of the 22nd day of November, 1999, by
and among GlobalStake.com ,a Delaware corporation (the "Company"), and the
investors listed on Schedule A hereto, each of which is herein referred to as an
"Investor."
THE PARTIES HEREBY AGREE AS FOLLOWS:
1. Purchase and Sale of Stock.
1.1 Sale and Issuance of Series A Preferred Stock.
(a) The Company shall adopt and file with the Secretary of State
of Delaware on or before the Closing (as defined below) the Restated Certificate
of Incorporation in the form attached hereto as Exhibit A (the "Restated
Certificate").
(b) On or prior to the Closing (as defined below), the Company
shall have authorized (i) the sale and issuance to the Investors of the Series A
Preferred Stock and (ii) the issuance of the shares of Common Stock to be issued
upon conversion of the Series A Preferred Stock (the "Conversion Shares"). The
Series A Preferred Stock and the Conversion Shares shall have the rights,
preferences, privileges and restrictions set forth in the Restated Certificate.
(c) Subject to the terms and conditions of this Agreement, each
Investor agrees, severally and not jointly, to purchase at the Closing or
pursuant to Section 1.3 and the Company agrees to sell and issue to each
Investor at the Closing, that number of shares of the Company's Series A
Preferred Stock set forth opposite such Investor's name on Schedule A hereto for
the purchase price set forth thereon.
1.2 Closing. The purchase and sale of the Series A Preferred Stock
shall take place at the offices of Teknowledge Corporation, 1810 Embarcadero
Road, Palo Alto, CA 94303 at 1:00 P.M., on November 22, 1999, or at such other
time and place as the Company and Investors acquiring in the aggregate more than
half the shares of Series A Preferred Stock sold pursuant hereto mutually agree
upon orally or in writing (which time and place are designated as the
"Closing"). At the Closing the Company shall deliver to each Investor a
certificate representing the Series A Preferred Stock that such Investor is
purchasing against payment of the purchase price therefor by check, wire
transfer, cancellation of indebtedness, or any combination thereof. In the event
that payment by an Investor is made, in whole or in part, by cancellation of
indebtedness, then such Investor shall surrender to the Company for cancellation
at the Closing any evidence of such indebtedness or shall execute an instrument
of cancellation in form and substance acceptable to the Company. In addition, at
the Closing the Company shall deliver to any Investor choosing to pay any part
of the purchase price of the Series A Preferred Stock by cancellation of
indebtedness, a check in the amount of any interest accrued on such indebtedness
through the Closing.
2. Representations and Warranties of the Company. The Company hereby
represents and warrants to each Investor that, except as set forth on a Schedule
of Exceptions (the "Schedule of Exceptions") furnished each Investor, which
exceptions shall be deemed to be representations and warranties as if made
hereunder:
2.1 Organization, Good Standing and Qualification. The Company is a
corporation duly organized, validly existing and in good standing under the laws
of the State of Delaware and has all requisite corporate power and authority to
carry on its business as now conducted and as proposed to be conducted. The
Company is duly qualified to transact business and is in good standing in each
jurisdiction in which the failure to so qualify would have a material adverse
effect on its business or properties.
2.2 Capitalization and Voting Rights. The authorized capital of the
Company consists, or will consist immediately prior to the Closing, of:
(a) Preferred Stock. 10,000,000 shares of Preferred Stock, par
value $0.01 (the "Preferred Stock"), of which 5,000,000 shares have been
designated Series A Preferred Stock (the "Series A Preferred Stock") and up to
all of which will be sold pursuant to this Agreement. The rights, privileges and
preferences of the Series A Preferred Stock will be as stated in the Company's
Restated Certificate.
(b) Common Stock. 30,000,000 shares of common stock, par value
$0.01 ("Common Stock"), of which 200,000 shares are issued and outstanding.
(c) The outstanding shares of Common Stock are owned by the
stockholders and in the numbers specified in Exhibit C hereto.
(d) The outstanding shares of Common Stock are all duly and
validly authorized and issued, fully paid and nonassessable, and were issued in
accordance with the registration or qualification provisions of the Securities
Act of 1933, as amended (the "Act") and any relevant state securities laws, or
pursuant to valid exemptions therefrom.
(e) Except for (A) the conversion privileges of the Series A
Preferred Stock to be issued under this Agreement, (B) the rights provided in
Section of the Investors' Rights Agreement, (C) the conversion privileges of the
Warrant to Purchase Preferred Stock issued in conjunction with this Agreement,
and (D) currently outstanding options to purchase 677,000 shares of Common Stock
granted to employees and other service providers pursuant to the Company's 1999
Stock Option Plan (the "Option Plan"), there are not outstanding any options,
warrants, rights (including conversion or preemptive rights) or agreements for
the purchase or acquisition from the Company of any shares of its capital stock.
In addition to the aforementioned options, the Company has reserved an
additional 2,323,000 shares of its Common Stock for purchase upon exercise of
options to be granted in the future under the Option Plan. The Company is not a
party or subject to any agreement or understanding, and, to the best of the
Company's knowledge, there is no agreement or understanding between any persons
and/or entities, which affects or relates to the voting or giving of written
consents with respect to any security or by a director of the Company.
2.3 Subsidiaries. The Company does not presently own or control,
directly or indirectly, any interest in any other corporation, association, or
other business entity. The Company is not a participant in any joint venture,
partnership, or similar arrangement.
2.4 Authorization. All corporate action on the part of the Company, its
officers, directors and stockholders necessary for the authorization, execution
and delivery of this Agreement, the Investors' Rights Agreement, and the Warrant
to Purchase Preferred Stock, the performance of all obligations of the Company
hereunder and thereunder, and the authorization, issuance (or reservation for
issuance), sale and delivery of the Series A Preferred Stock being sold
hereunder and the Common Stock issuable upon conversion of the Series A
Preferred Stock has been taken or will be taken prior to the Closing, and this
Agreement and the Investors' Rights Agreement constitute valid and legally
binding obligations of the Company, enforceable in accordance with their
respective terms, except (i) as limited by applicable bankruptcy, insolvency,
reorganization, moratorium, and other laws of general application affecting
enforcement of creditors' rights generally, (ii) as limited by laws relating to
the availability of specific performance, injunctive relief, or other equitable
remedies, and (iii) to the extent the indemnification provisions contained in
the Investors' Rights Agreement may be limited by applicable federal or state
securities laws.
2.5 Valid Issuance of Preferred and Common Stock. The Series A
Preferred Stock that is being purchased by the Investors hereunder, when issued,
sold and delivered in accordance with the terms of this Agreement for the
consideration expressed herein, will be duly and validly issued, fully paid, and
nonassessable, and will be free of restrictions on transfer other than
restrictions on transfer under this Agreement and the Investors' Rights
Agreement and under applicable state and federal securities laws. The Common
Stock issuable upon conversion of the Series A Preferred Stock purchased under
this Agreement has been duly and validly reserved for issuance and, upon
issuance in accordance with the terms of the Restated Certificate, will be duly
and validly issued, fully paid, and nonassessable and will be free of
restrictions on transfer other than restrictions on transfer under this
Agreement and the Investors' Rights Agreement and under applicable state and
federal securities laws.
2.6 Governmental Consents. No consent, approval, order or authorization
of, or registration, qualification, designation, declaration or filing with, any
federal, state or local governmental authority on the part of the Company is
required in connection with the consummation of the transactions contemplated by
this Agreement, except (i) the filing of the Restated Certificate with the
Secretary of State of Delaware; and (ii) the filing pursuant to Section 25102(f)
of the California Corporate Securities Law of 1968, as amended, and the rules
thereunder, which filing will be effected within 15 days of the sale of the
Series A Preferred Stock hereunder, or such other post-closing filings as may be
required.
2.7 Offering. Subject in part to the truth and accuracy of each
Investor's representations set forth in Section 3 of this Agreement, the offer,
sale and issuance of the Series A Preferred Stock as contemplated by this
Agreement are exempt from the registration requirements of any applicable state
and federal securities laws, and neither the Company nor any authorized agent
acting on its behalf will take any action hereafter that would cause the loss of
such exemption.
2.8 Litigation. There is no action, suit, proceeding or investigation
pending or, to the Company's knowledge, currently threatened against the Company
that questions the validity of this Agreement or the Investors' Rights
Agreement, or the right of the Company to enter into such agreements, or to
consummate the transactions contemplated hereby or thereby, or that might
result, either individually or in the aggregate, in any material adverse changes
in the assets, condition, affairs or prospects of the Company, financially or
otherwise, or any change in the current equity ownership of the Company. The
foregoing includes, without limitation, actions, suits, proceedings or
investigations pending or threatened involving the prior employment of any of
the Company's employees, their use in connection with the Company's business of
any information or techniques allegedly proprietary to any of their former
employers, or their obligations under any agreements with prior employers. The
Company is not a party or subject to the provisions of any order, writ,
injunction, judgment or decree of any court or government agency or
instrumentality. There is no action, suit, proceeding or investigation by the
Company currently pending or that the Company intends to initiate.
2.9 Proprietary Information and Employee Stock Purchase Agreements.
Each employee, officer and consultant of the Company has executed a Proprietary
Information and Inventions Agreement and an Employee Stock Purchase Agreement.
The Company is not aware that any of its employees, officers or consultants are
in violation thereof, and the Company will use its best efforts to prevent any
such violation.
2.10 Patents and Trademarks. To the best of its knowledge the Company
has sufficient title and ownership of, or licenses to, all patents, trademarks,
service marks, trade names, copyrights, trade secrets, information, proprietary
rights and processes necessary for its business as now conducted and as proposed
to be conducted as described in the Business Plan without any conflict with or
infringement of the rights of others. There are no outstanding options,
licenses, or agreements of any kind relating to the foregoing, nor is the
Company bound by or a party to any options, licenses or agreements of any kind
with respect to the patents, trademarks, service marks, trade names, copyrights,
trade secrets, licenses, information, proprietary rights and processes of any
other person or entity. The Company has not received any communications alleging
that the Company has violated or, by conducting its business as proposed, would
violate any of the patents, trademarks, service marks, trade names, copyrights
or trade secrets or other proprietary rights of any other person or entity. The
Company is not aware that any of its employees is obligated under any contract
(including licenses, covenants or commitments of any nature) or other agreement,
or subject to any judgment, decree or order of any court or administrative
agency, that would interfere with the use of his or her best efforts to promote
the interests of the Company or that would conflict with the Company's business
as proposed to be conducted. Neither the execution nor delivery of this
Agreement or the Investors' Rights Agreement, nor the carrying on of the
Company's business by the employees of the Company, nor the conduct of the
Company's business as proposed, will, to the best of the Company's knowledge,
conflict with or result in a breach of the terms, conditions or provisions of,
or constitute a default under, any contract, covenant or instrument under which
any of such employee is now obligated. The Company does not believe it is, or
will, be necessary to utilize any inventions of any of its employees (or people
it currently intends to hire) made prior to or outside the scope of their
employment by the Company.
2.11 Compliance With Other Instruments. The Company is not in violation
or default in any material respect of any provision of its Restated Certificate
or Bylaws, or in any material respect of any instrument, judgment, order, writ,
decree or contract to which it is a party or by which it is bound, or, to the
best of its knowledge, of any provision of any federal or state statute, rule or
regulation applicable to the Company. The execution, delivery and performance of
this Agreement and the Investors' Rights Agreement, and the consummation of the
transactions contemplated hereby and thereby will not result in any such
violation or be in conflict with or constitute, with or without the passage of
time and giving of notice, either a default under any such provision,
instrument, judgment, order, writ, decree or contract or an event that results
in the creation of any lien, charge or encumbrance upon any assets of the
Company or the suspension, revocation, impairment, forfeiture, or nonrenewal of
any material permit, license, authorization, or approval applicable to the
Company, its business or operations or any of its assets or properties.
2.12 Agreements; Action.
(a) Except for agreements explicitly contemplated hereby and by
the Investors' Rights Agreement, there are no agreements, understandings or
proposed transactions between the Company and any of its officers, directors,
affiliates, or any affiliate thereof.
(b) There are no agreements, understandings, instruments,
contracts, proposed transactions, judgments, orders, writs or decrees to which
the Company is a party or by which it is bound that may involve (i) obligations
(contingent or otherwise) of, or payments to the Company in excess of, $10,000,
or (ii) the license of any patent, copyright, trade secret or other proprietary
right to or from the Company (other than the license of the Company's software
and products in the ordinary course of business), or (iii) provisions
restricting or affecting the development, manufacture or distribution of the
Company's products or services, or (iv) indemnification by the Company with
respect to infringements of proprietary rights.
(c) The Company has not (i) declared or paid any dividends or
authorized or made any distribution upon or with respect to any class or series
of its capital stock, (ii) incurred any indebtedness for money borrowed or any
other liabilities individually in excess of $10,000 or, in the case of
indebtedness and/or liabilities individually less than $10,000, in excess of
$25,000 in the aggregate, (iii) made any loans or advances to any person, other
than ordinary advances for travel expenses, or (iv) sold, exchanged or otherwise
disposed of any of its assets or rights, other than the sale of its inventory in
the ordinary course of business.
(d) For the purposes of subsections (b) and (c) above, all
indebtedness, liabilities, agreements, understandings, instruments, contracts
and proposed transactions involving the same person or entity (including persons
or entities the Company has reason to believe are affiliated therewith) shall be
aggregated for the purpose of meeting the individual minimum dollar amounts of
such subsections.
(e) The Company is not a party to and is not bound by any
contract, agreement or instrument, or subject to any restriction under its
Restated Certificate or Bylaws that adversely affects its business as now
conducted or as proposed to be conducted in the Business Plan, its properties or
its financial condition.
(f) The Company has not engaged in the past three (3) months in
any discussion (i) with any representative of any corporation or corporations
regarding the consolidation or merger of the Company with or into any such
corporation or corporations, (ii) with any corporation, partnership, association
or other business entity or any individual regarding the sale, conveyance or
disposition of all or substantially all of the assets of the Company or a
transaction or series of related transactions in which more than fifty percent
(50%) of the voting power of the Company is disposed of, or (iii) regarding any
other form of acquisition, liquidation, dissolution or winding up of the
Company.
2.13 Related-Party Transactions. No employee, officer, or director of
the Company or member of his or her immediate family is indebted to the Company,
nor is the Company indebted (or committed to make loans or extend or guarantee
credit) to any of them. To the best of the Company's knowledge, none of such
persons has any direct or indirect ownership interest in any firm or corporation
with which the Company is affiliated or with which the Company has a business
relationship, or any firm or corporation that competes with the Company, except
that employees, officers, or directors of the Company and members of their
immediate families may own stock in publicly traded companies that may compete
with the Company. No member of the immediate family of any officer or director
of the Company is directly or indirectly interested in any material contract
with the Company.
2.14 Permits. The Company has all franchises, permits, licenses, and
any similar authority necessary for the conduct of its business as now being
conducted by it, the lack of which could materially and adversely affect the
business, properties, prospects, or financial condition of the Company, and the
Company believes it can obtain, without undue burden or expense, any similar
authority for the conduct of its business as planned to be conducted. The
Company is not in default in any material respect under any of such franchises,
permits, licenses, or other similar authority.
2.15 Environmental and Safety Laws. To the best of its knowledge, the
Company is not in violation of any applicable statute, law or regulation
relating to the environment or occupational health and safety, and to the best
of its knowledge, no material expenditures are or will be required in order to
comply with any such existing statute, law or regulation.
2.16 Manufacturing and Marketing Rights. The Company has not granted
rights to manufacture, produce, assemble, license, market, or sell its products
to any other person and is not bound by any agreement that affects the Company's
exclusive right to develop, manufacture, assemble, distribute, market or sell
its products.
2.17 Disclosure. The Company has fully provided each Investor with all
the information that such Investor has requested for deciding whether to
purchase the Series A Preferred Stock and all information that the Company
believes is reasonably necessary to enable such Investor to make such decision.
To the best of its knowledge, neither this Agreement, the Investors' Rights
Agreement, nor any other statements or certificates made or delivered in
connection herewith or therewith contains any untrue statement of a material
fact or omits to state a material fact necessary to make the statements herein
or therein not misleading.
2.18 Business Plan. The Business Plan dated November 12, 1999,
previously delivered to each Investor has been prepared in good faith by the
Company and does not contain any untrue statement of a material fact nor does it
omit to state a material fact necessary to make the statements made therein not
misleading, except that with respect to projections contained in the Business
Plan, the Company represents only that such projections were prepared in good
faith and that the Company reasonably believes there is a reasonable basis for
such projections.
2.19 Registration Rights. Except as provided in the Investors' Rights
Agreement, the Company has not granted or agreed to grant any registration
rights, including piggyback rights, to any person or entity.
2.20 Corporate Documents. Except for amendments necessary to satisfy
representations and warranties or conditions contained herein (the form of which
amendments has been approved by the Investors), the Restated Certificate and
Bylaws of the Company are in the form previously provided to the Investors.
2.21 Title to Property and Assets. The Company owns its property and
assets free and clear of all mortgages, liens, loans and encumbrances, except
such encumbrances and liens that arise in the ordinary course of business and do
not materially impair the Company's ownership or use of such property or assets.
With respect to the property and assets it leases, the Company is in compliance
with such leases.
2.23 Material Liabilities. The Company has no material liability or
obligation, absolute or contingent (individually or in the aggregate), except
(i) obligations and liabilities incurred after the date of incorporation in the
ordinary course of business that are not material, individually or in the
aggregate, and (ii) obligations under contracts made in the ordinary course of
business that would not be required to be reflected in financial statements
prepared in accordance with generally accepted accounting principles.
2.24 Employee Benefit Plans. The Company does not have any Employee
Benefit Plan as defined in the Employee Retirement Income Security Act of 1974.
2.25 Tax Returns, Payments and Elections. The Company has filed all tax
returns and reports (including information returns and reports) as required by
law. These returns and reports, if any, are true and correct in all material
respects. The Company has paid all taxes and other assessments due, except those
contested by it in good faith that are listed in the Schedule of Exceptions. The
Company has not elected pursuant to the Internal Revenue Code of 1986, as
amended (the "Code"), to be treated as a Subchapter S corporation or a
collapsible corporation pursuant to Section 1362(a) or Section 341(f) of the
Code, nor has it made any other elections pursuant to the Code (other than
elections that relate solely to methods of accounting, depreciation or
amortization) that would have a material effect on the Company, its financial
condition, its business as presently conducted or proposed to be conducted or
any of its properties or material assets. The Company has never had any tax
deficiency proposed or assessed against it and has not executed any waiver of
any statute of limitations on the assessment or collection of any tax or
governmental charge. None of the Company's federal income tax returns, if any,
and none of its state income or franchise tax or sales or use tax returns, if
any, has ever been audited by governmental authorities. The Company has not
incurred any taxes, assessments or governmental charges other than in the
ordinary course of business and the Company has made adequate provisions on its
books of account for all taxes, assessments and governmental charges with
respect to its business, properties and operations for such period. The Company
has withheld or collected from each payment made to each of its employees, if
any, the amount of all taxes (including, but not limited to, federal income
taxes, Federal Insurance Contribution Act taxes and Federal Unemployment Tax Act
taxes) required to be withheld or collected therefrom, and has paid the same to
the proper tax receiving officers or authorized depositories.
2.26 Minute Books. The minute books of the Company provided to the
Investors contain a complete summary of all meetings of directors and
stockholders since the time of incorporation and reflect all transactions
referred to in such minutes accurately in all material respects.
2.27 Labor Agreements and Actions; Employee Compensation. The Company
is not bound by or subject to (and none of its assets or properties is bound by
or subject to) any written or oral, express or implied, contract, commitment or
arrangement with any labor union, and no labor union has requested or, to the
best of the Company's knowledge, has sought to represent any of the employees,
representatives or agents of the Company. There is no strike or other labor
dispute involving the Company pending, or to the best of the Company's
knowledge, threatened, that could have a material adverse effect on the assets,
properties, financial condition, operating results, or business of the Company
(as such business is presently conducted and as it is proposed to be conducted),
nor is the Company aware of any labor organization activity involving its
employees. The Company is not aware that any officer or key employee, or that
any group of key employees, intends to terminate their employment with the
Company, nor does the Company have a present intention to terminate the
employment of any of the foregoing. The employment of each officer and employee
of the Company is terminable at the will of the Company. To the best of its
knowledge, the Company has complied in all material respects with all applicable
state and federal equal employment opportunity and other laws related to
employment. The Company is not a party to or bound by any currently effective
employment contract, deferred compensation agreement, bonus plan, incentive
plan, profit sharing plan, retirement agreement, or other employee compensation
agreement.
2.28 Section 83(b) Elections. To the best of the Company's knowledge,
all individuals who have purchased unvested shares of the Company's Common Stock
have timely filed elections under Section 83(b) of the Code and any analogous
provisions of applicable state tax laws.
2.29 Real Property Holding Company. The Company is not currently, and
has not been during the prior five years, a United States real property holding
corporation within the meaning of Section 897 of the Code and the Company has
filed with the Internal Revenue Service all statements, if any, with its United
States income tax returns which are required under Section 1.897-2(h) of the
Treasury Regulations.
2.30 Brokers. The Company has no contract, arrangement or understanding
with any broker, finder or similar agent with respect to the transactions
contemplated by this Agreement.
3. Representations and Warranties of the Investors. Each Investor hereby
represents and warrants that:
3.1 Authorization. Such Investor has full power and authority to enter
into this Agreement and the Investors' Rights Agreement, and each such Agreement
constitutes its valid and legally binding obligation, enforceable in accordance
with its terms except (i) as limited by applicable bankruptcy, insolvency,
reorganization, moratorium, and other laws of general application affecting
enforcement of creditors' rights generally, (ii) as limited by laws relating to
the availability of specific performance, injunctive relief, or other equitable
remedies, and (iii) to the extent the indemnification provisions contained in
the Investors' Rights Agreement may be limited by applicable federal or state
securities laws.
3.2 Purchase Entirely for Own Account. This Agreement is made with such
Investor in reliance upon such Investor's representation to the Company, which
by such Investor's execution of this Agreement such Investor hereby confirms,
that the Series A Preferred Stock to be received by such Investor and the Common
Stock issuable upon conversion thereof (collectively, the "Securities") will be
acquired for investment for such Investor's own account, not as a nominee or
agent, and not with a view to the resale or distribution of any part thereof,
and that such Investor has no present intention of selling, granting any
participation in, or otherwise distributing the same. By executing this
Agreement, such Investor further represents that such Investor does not have any
contract, undertaking, agreement or arrangement with any person to sell,
transfer or grant participations to such person or to any third person, with
respect to any of the Securities.
3.3 Disclosure of Information. Such Investor believes it has received
all the information it considers necessary or appropriate for deciding whether
to purchase the Series A Preferred Stock. Such Investor further represents that
it has had an opportunity to ask questions and receive answers from the Company
regarding the terms and conditions of the offering of the Series A Preferred
Stock and the business, properties, prospects and financial condition of the
Company. The foregoing, however, does not limit or modify the representations
and warranties of the Company in Section 2 of this Agreement or the right of the
Investors to rely thereon.
3.4 Investment Experience. Such Investor is an investor in securities
of companies in the development stage and acknowledges that it is able to fend
for itself, can bear the economic risk of its investment, and has such knowledge
and experience in financial or business matters that it is capable of evaluating
the merits and risks of the investment in the Series A Preferred Stock. If other
than an individual, Investor also represents it has not been organized for the
purpose of acquiring the Series A Preferred Stock.
3.5 Accredited Investor. Such Investor is an "accredited investor"
within the meaning of Securities and Exchange Commission ("SEC") Rule 501 of
Regulation D, as presently in effect.
3.6 Restricted Securities. Such Investor understands that the
Securities it is purchasing are characterized as "restricted securities" under
the federal securities laws inasmuch as they are being acquired from the Company
in a transaction not involving a public offering and that under such laws and
applicable regulations such securities may be resold without registration under
the Act, only in certain limited circumstances. In this connection, such
Investor represents that it is familiar with SEC Rule 144, as presently in
effect, and understands the resale limitations imposed thereby and by the Act.
3.7 Further Limitations on Disposition. Without in any way limiting the
representations set forth above, such Investor further agrees not to make any
disposition of all or any portion of the Securities unless and until the
transferee has agreed in writing for the benefit of the Company to be bound by
this Section 3 and the Investors' Rights Agreement provided and to the extent
this Section and such agreement are then applicable, and:
(a) There is then in effect a Registration Statement under the
Act covering such proposed disposition and such disposition is made in
accordance with such Registration Statement; or
(b) (i) Such Investor shall have notified the Company of the
proposed disposition and shall have furnished the Company with a detailed
statement of the circumstances surrounding the proposed disposition, and (ii) if
reasonably requested by the Company, such Investor shall have furnished the
Company with an opinion of counsel, reasonably satisfactory to the Company that
such disposition will not require registration of such shares under the Act. It
is agreed that the Company will not require opinions of counsel for transactions
made pursuant to Rule 144 except in unusual circumstances.
(c) Notwithstanding the provisions of Paragraphs (a) and (b)
above, no such registration statement or opinion of counsel shall be necessary
for a transfer by an Investor that is a partnership to a partner of such
partnership or a retired partner of such partnership who retires after the date
hereof, or to the estate of any such partner or retired partner or the transfer
by gift, will or intestate succession of any partner to his or her spouse or to
the siblings, lineal descendants or ancestors of such partner or his or her
spouse, if the transferee agrees in writing to be subject to the terms hereof to
the same extent as if he or she were an original Investor hereunder.
3.8 Legends. It is understood that the certificates evidencing the
Securities may bear the following legend:
"These securities have not been registered under the Securities
Act of 1933, as amended. They may not be sold, offered for sale, pledged or
hypothecated in the absence of a registration statement in effect with respect
to the securities under such Act or an opinion of counsel satisfactory to the
Company that such registration is not required or unless sold pursuant to Rule
144 of such Act."
4. Conditions of Investors' Obligations at Closing. The obligations of each
Investor under subsection 1.1(b) of this Agreement are subject to the
fulfillment on or before the Closing of each of the following conditions, the
waiver of which shall not be effective against any Investor who does not consent
thereto:
4.1 Representations and Warranties. The representations and warranties
of the Company contained in Section 2 shall be true on and as of the Closing
with the same effect as though such representations and warranties had been made
on and as of the date of such Closing.
4.2 Performance. The Company shall have performed and complied with all
agreements, obligations and conditions contained in this Agreement that are
required to be performed or complied with by it on or before the Closing.
4.3 Compliance Certificate. The President of the Company shall deliver
to each Investor at the Closing a certificate stating that the conditions
specified in Sections 4.1 and 4.2 have been fulfilled and stating that there
shall have been no adverse change in the business, affairs, operations,
properties, assets or condition of the Company since the date of the Business
Plan.
4.4 Qualifications. All authorizations, approvals, or permits, if any,
of any governmental authority or regulatory body of the United States or of any
state that are required in connection with the lawful issuance and sale of the
Securities pursuant to this Agreement shall be duly obtained and effective as of
the Closing.
4.5 Proceedings and Documents. All corporate and other proceedings in
connection with the transactions contemplated at the Closing and all documents
incident thereto shall be reasonably satisfactory in form and substance to
Investors' special counsel, and they shall have received all such counterpart
original and certified or other copies of such documents as they may reasonably
request.
4.6 Proprietary Information and Employee Stock Purchase Agreements.
Each employee of and consultant to the Company shall have entered into a
Proprietary Information and Inventions Agreement. Each holder of Common Stock of
the Company shall have entered into an Employee Stock Purchase Agreement
4.7 Bylaws. The Bylaws of the Company shall provide that the Board of
Directors of the Company shall consist of a maximum of nine (9) persons.
4.8 Board of Directors. The directors of the Company shall be Messrs.
Hayes-Roth, Jacobstein, Roth, Robinson and Tuccillo, and there shall be five
vacancies on the Board of Directors.
4.9 Investors' Rights Agreement. The Company and each Investor shall
have entered into the Investors' Rights Agreement in the form attached as
Exhibit B.
5. Conditions of the Company's Obligations at Closing. The obligations of the
Company to each Investor under this Agreement are subject to the fulfillment on
or before the Closing of each of the following conditions by that Investor:
5.1 Representations and Warranties. The representations and warranties
of the Investors contained in Section 3 shall be true on and as of the Closing
with the same effect as though such representations and warranties had been made
on and as of the Closing.
5.2 Payment of Purchase Price. The Investor shall have delivered the
purchase price specified in Section 1.2.
5.3 Qualifications. All authorizations, approvals, or permits, if any,
of any governmental authority or regulatory body of the United States or of any
state that are required in connection with the lawful issuance and sale of the
Securities pursuant to this Agreement shall be duly obtained and effective as of
the Closing.
6. Miscellaneous.
6.1 Survival of Warranties. The warranties, representations and
covenants of the Company and Investors contained in or made pursuant to this
Agreement shall survive the execution and delivery of this Agreement and the
Closing and shall in no way be affected by any investigation of the subject
matter thereof made by or on behalf of the Investors or the Company.
6.2 Successors and Assigns. Except as otherwise provided herein, the
terms and conditions of this Agreement shall inure to the benefit of and be
binding upon the respective successors and assigns of the parties (including
transferees of any Securities). Nothing in this Agreement, express or implied,
is intended to confer upon any party other than the parties hereto or their
respective successors and assigns any rights, remedies, obligations, or
liabilities under or by reason of this Agreement, except as expressly provided
in this Agreement.
6.3 Governing Law. This Agreement shall be governed by and construed
under the laws of the State of California as applied to agreements among
California residents entered into and to be performed entirely within
California.
6.4 Counterparts. This Agreement may be executed in two or more
counterparts, each of which shall be deemed an original, but all of which
together shall constitute one and the same instrument.
6.5 Titles and Subtitles. The titles and subtitles used in this
Agreement are used for convenience only and are not to be considered in
construing or interpreting this Agreement.
6.6 Notices. Unless otherwise provided, any notice required or
permitted under this Agreement shall be given in writing and shall be deemed
effectively given upon personal delivery to the party to be notified or upon
deposit with the United States Post Office, by registered or certified mail,
postage prepaid and addressed to the party to be notified at the address
indicated for such party on the signature page hereof, or at such other address
as such party may designate by ten (10) days' advance written notice to the
other parties.
6.7 Finder's Fee. Each party represents that it neither is nor will be
obligated for any finders' fee or commission in connection with this
transaction. Each Investor agrees to indemnify and to hold harmless the Company
from any liability for any commission or compensation in the nature of a
finders' fee (and the costs and expenses of defending against such liability or
asserted liability) for which such Investor or any of its officers, partners,
employees, or representatives is responsible.
The Company agrees to indemnify and hold harmless each Investor from any
liability for any commission or compensation in the nature of a finders' fee
(and the costs and expenses of defending against such liability or asserted
liability) for which the Company or any of its officers, employees or
representatives is responsible.
6.8 Expenses. Irrespective of whether the Closing is effected, the
Company shall pay all costs and expenses that it incurs with respect to the
negotiation, execution, delivery and performance of this Agreement. If any
action at law or in equity is necessary to enforce or interpret the terms of
this Agreement, the Investors' Rights Agreement or the Restated Certificate, the
prevailing party shall be entitled to reasonable attorney's fees, costs and
necessary disbursements in addition to any other relief to which such party may
be entitled.
6.9 Amendments and Waivers. Any term of this Agreement may be amended
and the observance of any term of this Agreement may be waived (either generally
or in a particular instance and either retroactively or prospectively), only
with the written consent of the Company and the holders of a majority of the
Common Stock issuable or issued upon conversion of the Series A Preferred Stock.
Any amendment or waiver effected in accordance with this paragraph shall be
binding upon each holder of any securities purchased under this Agreement at the
time outstanding (including securities into which such securities are
convertible), each future holder of all such securities, and the Company.
6.10 Severability. If one or more provisions of this Agreement are held
to be unenforceable under applicable law, such provision shall be excluded from
this Agreement and the balance of the Agreement shall be interpreted as if such
provision were so excluded and shall be enforceable in accordance with its
terms.
6.11 Corporate Securities Law. THE SALE OF THE SECURITIES THAT ARE THE
SUBJECT OF THIS AGREEMENT HAS NOT BEEN QUALIFIED WITH THE COMMISSIONER OF
CORPORATIONS OF THE STATE OF CALIFORNIA AND THE ISSUANCE OF SUCH SECURITIES OR
THE PAYMENT OR RECEIPT OF ANY PART OF THE CONSIDERATION FOR SUCH SECURITIES
PRIOR TO SUCH QUALIFICATION IS UNLAWFUL, UNLESS THE SALE OF SECURITIES IS EXEMPT
FROM QUALIFICATION BY SECTION 25100, 25102 OR 25105 OF THE CALIFORNIA
CORPORATIONS CODE. THE RIGHTS OF ALL PARTIES TO THIS AGREEMENT ARE EXPRESSLY
CONDITIONED UPON SUCH QUALIFICATION BEING OBTAINED, UNLESS THE SALE IS SO
EXEMPT.
6.12 Aggregation of Stock. All shares of the Preferred Stock held or
acquired by affiliated entities or persons shall be aggregated together for the
purpose of determining the availability of any rights under this Agreement.
6.13 Entire Agreement. This Agreement and the documents referred to
herein constitute the entire agreement among the parties and no party shall be
liable or bound to any other party in any manner by any warranties,
representations, or covenants except as specifically set forth herein or
therein.
IN WITNESS WHEREOF, the parties have executed this Agreement as of the date
first above written.
INVESTOR; COMPANY;
Teknowledge Corporation GlobalStake.com
By: /s/ Neil Jacobstein By: /s/ Frederick Hayes-Roth
------------------- ------------------------
Neil Jacobstein, President Frederick Hayes-Roth, Chairman and CEO
1810 Embarcadero Road 1810 Embarcadero Road
Palo Alto, CA 94303 Palo Alto, CA 94303
<PAGE>
Schedule A
Schedule of Investors
Number of
Shares Initial Price Ownership Total Purchase
Name and Address Purchased per Share Purchased Price of Shares
- ---------------- --------- --------- --------- ---------------
Teknowledge Corporation
1810 Embarcadero Road 199,900 $6.00 19.9% $1,200,000
Palo Alto, CA 94303
Exhibit 23.1
Consent of Independent Public Accountants
As independent public accountants, we hereby consent to
the incorporation of our report included in this Form 10-KSB, into
the Company's previously filed Registration Statements on Form S-8
(File No. 33-27291, File No. 33-77874, File No. 33-78984, File No.
33-82720, File No. 333-00261, and File No. 333-67623).
/s/ Arthur Andersen LLP
-----------------------
Arthur Andersen LLP
San Jose, California
March 29, 2000
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<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> DEC-31-1999
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0
0
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<INCOME-TAX> 255,692
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