<PAGE>
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
[X] Quarterly Report under Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the quarterly period ended SEPTEMBER 30, 1998
[ ] Transition Report under Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from _____________ to _____________
Commission file number: 33-13789LA
YOU BET INTERNATIONAL, INC.
- ------------------------------------------------------------------
(Exact name of small business issuer as specified in its charter)
Delaware 95-4627253
- ------------------------------- ----------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
1950 Sawtelle Boulevard, Suite 180, Los Angeles, California 90025
- ------------------------------------------------------------------
(Address of principal executive offices)
Issuer's telephone number, including area code: (310) 444-3300
Not applicable
- ------------------------------------------------------------------
(Former name, former address and former fiscal year,
if changed since last report.)
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 [X] No [ ]
As of September 30, 1998, the issuer had 11,603,368 shares of common stock
issued and outstanding and issuable.
Transitional Small Business Disclosure Format: Yes [ ] No [X]
<PAGE>
YOU BET INTERNATIONAL, INC. AND SUBSIDIARIES
INDEX
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets (Unaudited) - December 31,
1997 and September 30, 1998
Consolidated Statements of Operations (Unaudited) -
Three Months and Nine Months Ended September 30, 1997
and 1998, and 1995 to Date
Consolidated Statements of Cash Flows (Unaudited) - Nine
Months Ended September 30, 1997 and 1998, and 1995 to
Date
Notes to Consolidated Financial Statements (Unaudited) -
Nine Months Ended September 30, 1997 and 1998
Item 2. Management's Discussion and Analysis or Plan of
Operation
PART II. OTHER INFORMATION
Item 2. Changes in Securities
Item 6. Exhibits and Reports on Form 8-K
SIGNATURES
<PAGE>
You Bet International, Inc. and Subsidiaries
(a Development Stage Company)
Consolidated Balance Sheets (Unaudited)
December 31, 1997 and September 30, 1998
<TABLE>
<CAPTION>
December 31, September 30,
1997 1998
---- ----
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 52,895 $2,545,553
Receivables 6,158 14,150
Prepaid expenses (Notes 2 and 3) 49,315 169,852
Other current assets 4,288 31,306
---------- ----------
Total current assets 112,656 2,760,861
---------- ----------
Property and equipment (Note 2) 1,260,411 1,528,873
Less: Accumulated depreciation
and amortization (423,177) (667,502)
---------- ----------
Property and equipment, net 837,234 861,371
---------- ----------
Other assets:
Deferred financing costs, net
of amortization (Notes 2 and 4) 39,242
Deposits (Note 2) 53,963 19,032
---------- ----------
Total other assets 53,963 58,274
---------- ----------
Total assets $1,003,853 $3,680,506
========== ==========
</TABLE>
(continued)
3
<PAGE>
You Bet International, Inc. and Subsidiaries
(a Development Stage Company)
Consolidated Balance Sheets (Unaudited) (continued)
December 31, 1997 and September 30, 1998
<TABLE>
<CAPTION>
December 31, September 30,
1997 1998
---- ----
<S> <C> <C>
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIENCY)
Current liabilities:
Accounts payable $ 910,278 $ 764,201
Accrued compensation and related
items 503,467 101,145
Accrued interest payable 116,892
Other accrued expenses 341,108 358,547
Advances and bridge loans payable
(Note 4) -
Related parties 390,000
Unrelated parties 300,000
State income taxes payable 6,400
Current portion of capitalized
lease obligations (Note 2) 283,695 213,585
---------- ----------
Total current liabilities 2,851,840 1,437,478
Capitalized lease obligations,
less current portion (Note 2) 117,806
---------- ----------
Total liabilities 2,851,840 1,555,284
---------- ----------
Stockholders' equity (deficiency)
(Note 5):
Preferred stock, $.001 par value;
authorized - 1,000,000 shares;
issued and outstanding -
Series A Senior Convertible
Preferred Stock - 240,000
shares at September 30, 1998
(liquidation preference -
$25.00 per share) 240
Common stock, $.001 par value;
authorized - 50,000,000 shares;
issued and outstanding and
issuable - 9,603,994 shares at
December 31, 1997 and 11,603,368
shares at September 30, 1998 9,604 11,603
Additional paid-in capital 23,413,989 39,746,323
Accumulated deficit during
development stage (23,964,394) (35,214,377)
---------- ----------
Total stockholders' equity
(deficiency) (540,801) 4,543,789
Less: Deferred compensation (1,307,186) (1,858,567)
Stock notes receivable (560,000)
---------- ----------
Net stockholders' equity
(deficiency) (1,847,987) 2,125,222
---------- ----------
Total liabilities and
stockholders' equity
(deficiency) $1,003,853 $3,680,506
========== ==========
</TABLE>
See accompanying notes to consolidated financial statements.
4
<PAGE>
You Bet International, Inc. and Subsidiaries
(a Development Stage Company)
Consolidated Statements of Operations (Unaudited)
Three Months Ended September 30, 1997 and 1998
<TABLE>
<CAPTION>
1997 1998
---- ----
<S> <C> <C>
Revenues $ $ 76,382
---------- ----------
Costs and expenses:
Network operations 167,786 404,798
Research and development 296,497 348,667
Sales and marketing 143,218 499,587
General and administrative
(Note 3) 512,613 818,612
Depreciation and
amortization 79,631 86,192
Non-cash compensation
(Note 5) 1,169,196 707,283
---------- ----------
Total costs and expenses 2,368,941 2,865,139
---------- ----------
Other income (expense):
Interest expense (198,289) (79,116)
Amortization of deferred
financing costs (Note 4) (64,242)
Fair value of warrants
issued for financing
costs (Note 5) (2,800,220) (161,962)
Interest income 477 48,608
Consulting revenues 2,025
Other (130) (9,557)
---------- ----------
Total other expense, net (2,996,137) (266,269)
Loss before provision
for state income taxes (5,365,078) (3,055,026)
Provision for state
income taxes (2,400)
---------- ----------
Net loss $(5,367,478) $(3,055,026)
========== ==========
Net loss per common share $(0.84) $(0.28)
========== ==========
Weighted average number
of common shares 6,369,217 11,104,273
========== ==========
</TABLE>
See accompanying notes to consolidated financial statements.
5
<PAGE>
You Bet International, Inc. and Subsidiaries
(a Development Stage Company)
Consolidated Statements of Operations (Unaudited)
Nine Months Ended September 30, 1997 and 1998, and 1995 to Date
<TABLE>
<CAPTION>
1997 1998 1995 to Date
---- ---- ------------
(Note 1)
<S> <C> <C> <C>
Revenues $ $ 98,407 $ 98,407
----------- ------------ ------------
Costs and expenses:
Network operations 482,603 736,401 1,401,800
Research and development 961,939 927,202 4,109,536
Sales and marketing 465,635 1,190,751 2,564,855
General and administrative
(Note 3) 1,288,050 2,044,488 5,483,448
Depreciation and
amortization 230,176 244,325 677,789
Non-cash compensation
(Note 5) 1,220,328 3,452,572 5,769,492
Release of forfeiture
restrictions on common
stock owned by officers/
major stockholders 7,875,000
----------- ------------ ------------
Total costs and expenses 4,648,731 8,595,739 27,881,920
----------- ------------ ------------
Other income (expense):
Interest expense (323,155) (322,717) (761,875)
Amortization of deferred
financing costs (Note 4) (111,698) (111,698)
Discount on conversion of
bridge loans, accounts
payable and employee
deferred salaries into
common stock and
warrants (Note 5) (841,713) (1,415,061)
Fair value of warrants
issued for financing
costs (Note 5) (2,800,220) (1,405,684) (5,061,886)
Interest income 1,100 49,380 142,727
Consulting revenues 6,075 164,602
Other (1,313) (120,219) (91,175)
----------- ------------ ------------
Total other expense, net (3,117,513) (2,752,651) (7,134,366)
----------- ------------ ------------
Loss before provision
for state income taxes (7,766,244) (11,249,983) (34,917,879)
Provision for state
income taxes (2,400) (16,673)
----------- ------------ ------------
Net loss $(7,768,644) $(11,249,983) $(34,934,552)
=========== ============ ============
Net loss per common share $(1.29) $(1.10)
========== ===========
Weighted average number
of common shares 6,020,028 10,196,812
========== ===========
</TABLE>
See accompanying notes to consolidated financial statements.
6
<PAGE>
You Bet International, Inc. and Subsidiaries
(a Development Stage Company)
Consolidated Statements of Cash Flows (Unaudited)
Nine Months Ended September 30, 1997 and 1998, and 1995 to Date
<TABLE>
<CAPTION>
1997 1998 1995 to Date
---- ---- ------------
(Note 1)
<S> <C> <C> <C>
Increase (Decrease) in Cash
and Cash Equivalents
Cash flows from operating
activities:
Net loss $(7,768,644) $(11,249,983) $(34,934,552)
Adjustments to reconcile
net loss to net cash
provided by (used in)
operating activities:
Depreciation and
amortization 230,176 244,325 677,789
Amortization of
deferred financing
costs 111,698 111,698
Other 70,645 70,645
Reduction of loan from
settlement agreement (20,000)
Settlements of accounts
payable and accrued
liabilities 263,127 556,079 836,517
Non-cash compensation 4,020,548 4,866,969 10,840,091
Discount on conversion
of bridge loans,
accounts payable and
employee deferred
salaries into common
stock and warrants 841,713 1,415,061
Release of forfeiture
restrictions on
common stock owned
by officers/major
stockholders 7,875,000
Changes in operating
assets and liabilities:
(Increase) decrease in -
Receivables (675) (7,992) 15,850
Prepaid expenses 73,935 (137,213) (186,528)
Other current assets (12,487) (16,775)
Deposits 734 (19,032) (72,995)
Increase (decrease) in -
Accounts payable (5,216) (146,077) 764,201
Accrued compensation
and related items 304,473 (402,322) 87,739
Accrued interest
payable 69,780 (94,663) 5,150
Other accrued
expenses (176,081) 17,439 358,547
State income taxes
payable (2,020) (6,400) (800)
---------- ----------- -----------
Net cash used in operating
activities (2,989,863) (5,367,301) (12,173,362)
---------- ----------- -----------
</TABLE>
(continued)
7
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You Bet International, Inc. and Subsidiaries
(a Development Stage Company)
Consolidated Statements of Cash Flows (Unaudited) (continued)
Nine Months Ended September 30, 1997 and 1998, and 1995 to Date
<TABLE>
<CAPTION>
1997 1998 1995 to Date
---- ---- ------------
(Note 1)
<S> <C> <C> <C>
Increase (Decrease) in Cash
and Cash Equivalents
Cash flows from investing
activities:
Purchases of property
and equipment (81,881) (188,462) (1,191,980)
---------- ----------- -----------
Net cash used in investing
activities (81,881) (188,462) (1,191,980)
---------- ----------- -----------
Cash flows from financing
activities:
Proceeds from lease
financing 150,261 150,261
Proceeds from sale of
securities, net of
offering costs 1,208,411 5,143,954 10,498,449
Proceeds from advances
and bridge loans -
Related parties 379,000 888,875 2,218,862
Unrelated parties 1,450,000 1,190,000 2,505,000
Repayments of advances -
Related parties (104,000) (23,875) (127,875)
Unrelated parties (40,000) (30,000) (135,000)
Payments on
capitalized lease
obligations (58,795) (54,533) (188,279)
Increase in deferred
financing costs (96,000) (96,000)
Proceeds from exercise
of stock options and
warrants 1,030,000 1,030,000
---------- ----------- -----------
Net cash provided by
financing activities 2,984,877 8,048,421 15,855,418
---------- ----------- -----------
Cash and cash equivalents:
Net increase (decrease) (86,867) 2,492,658 2,490,076
At beginning of period 87,318 52,895 55,477
---------- ----------- -----------
At end of period $ 451 $ 2,545,553 $ 2,545,553
========== =========== ===========
</TABLE>
See accompanying notes to consolidated financial statements.
8
<PAGE>
You Bet International, Inc. and Subsidiaries
(a Development Stage Company)
Notes to Consolidated Financial Statements (Unaudited)
Nine Months Ended September 30, 1997 and 1998
1. ORGANIZATION AND BASIS OF PRESENTATION
Principles of Consolidation -
The consolidated financial statements include the accounts of You Bet
International, Inc., a Delaware corporation, its wholly-owned subsidiary, You
Bet!, Inc., a Delaware corporation, and Middleware Telecom Corporation, a
California corporation and a wholly-owned subsidiary of You Bet!, Inc.
(collectively, the "Company"). All intercompany accounts and transactions
have been eliminated in consolidation.
Business -
Since mid-1995, the Company has been engaged in developing PC-based
proprietary communications software technology to be utilized by consumers
for online entertainment purposes. The Company's first service being offered
to consumers is The You Bet Racing Network, a horse racing network broadcast
over the Company's secure closed-loop network.
Development Stage -
As of September 30, 1998, the Company is considered to be a development stage
entity, as it had not realized significant revenues from planned principal
operations. During 1995, the Company shifted its business strategy by
de-emphasizing consulting services and software licensing, as a result of
which the Company became a development stage company. Accordingly, the
Company has provided cumulative consolidated statements of operations and
consolidated statements of cash flows for the period from January 1, 1995
through September 30, 1998.
Going Concern -
The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern, which contemplates the
realization of assets and the satisfaction of liabilities in the normal course
of business. The Company has had recurring losses, has periodically experienced
significant continuing liquidity problems from late 1996 through mid-1998, and
has financed its operations during such period from the sale of its securities
and short-term debt. As a result of these factors, the Company's independent
certified public accountants have expressed substantial doubt about the
Company's ability to continue as a going concern. During June and July 1998,
the Company completed the sale of $6,000,000 of preferred stock that provided
net proceeds of approximately $5,144,000 (Note 5). However, the proceeds from
this financing are not expected to be sufficient to support the continuing
development and expansion of the Company's operations until revenues reach the
level necessary to fund operations. The Company is currently attempting to
9
<PAGE>
sell an additional $4,000,000 of preferred stock, but there can be no
assurances that the Company will be successful in this regard. As a result
of the sale of preferred stock (Note 5) and the conversion of advances and
bridge loans into common stock during the nine months ended September 30,
1998 (Note 4), the Company had net working capital of $1,323,383 at September
30, 1998, as compared to a working capital deficit of $2,739,184 at December
31, 1997. The advances and bridge loans were utilized to fund the Company's
operations.
During the year ended December 31, 1997 and the nine months ended September
30, 1998, the Company relied on the proceeds from short-term loans, primarily
from related parties, bridge loans from both related and unrelated parties,
the exercise of stock options and warrants, and the private placement of its
common stock, preferred stock and stock purchase warrants, which aggregated
approximately $3,903,000 and $8,199,000, respectively, to fund its operating
requirements during such periods. During the nine months ended September 30,
1998, the Company received net advances of $560,000 and bridge financing of
$1,465,000, as well as the net proceeds from the preferred stock financing of
$5,144,000, to fund its estimated 1998 cash requirements of $7,000,000, which
includes estimated discretionary costs related to marketing and promotion
activities of $2,000,000. The Company is continuing to evaluate various
opportunities to raise additional capital during the remainder of 1998 and
1999, which includes the sale of the additional $4,000,000 of preferred stock
discussed above.
The Company is dependent on the proceeds from the previously described
financing activities for the continuation of its marketing efforts related to
The You Bet Racing Network, as well as for the continuation and expansion of
the Company's development activities. The Company expects that its cash on
hand at September 30, 1998 will be sufficient to fund operating and capital
expenditures at least through early 1999. However, there can be no
assurances that the Company will be able to complete such additional debt or
equity financings as may be required to fund the Company's operations on a
timely basis and/or under acceptable terms and conditions.
The Company's need for financing during 1999 and subsequently will vary based
upon a number of factors, some of which are outside the control of the
Company. These factors include the scope of the Company's development and
marketing efforts, consumer reaction/acceptance and the development of
operating revenues, the time and cost to develop and commercialize additional
applications, competition from similar wagering systems and from competing
interactive gaming/leisure time systems and activities, and potential
political and legal issues.
The consolidated financial statements do not include any adjustments that
might result from the outcome of these uncertainties.
Basis of Presentation -
The accompanying consolidated financial statements are unaudited, but in the
opinion of management of the Company, contain all adjustments necessary to
present fairly the financial position at September 30, 1998, the results of
operations for the three months and nine months ended September 30, 1997 and
1998, and the cash flows for the nine months ended September 30, 1997 and
1998. These adjustments are of a
10
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normal recurring nature. The consolidated balance sheet as of December 31,
1997 is derived from the Company's audited financial statements.
Certain information and footnote disclosures normally included in financial
statements that have been prepared in accordance with generally accepted
accounting principles have been condensed or omitted pursuant to the rules
and regulations of the Securities and Exchange Commission, although
management of the Company believes that the disclosures contained in these
financial statements are adequate to make the information presented therein
not misleading. For further information, refer to the consolidated financial
statements and notes thereto included in the Company's Annual Report on Form
10-KSB for the fiscal year ended December 31, 1997, as filed with the
Securities and Exchange Commission.
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities at the date of the
financial statements and the reported amounts of revenues and expenses during
the reporting period. Actual results could differ from those estimates. The
results of operations for the three months and nine months ended September
30, 1998 are not necessarily indicative of the results of operations to be
expected for the full fiscal year ending December 31, 1998.
Certain prior period amounts have been reclassified to conform to the current
year presentation.
Loss Per Share -
Effective December 31, 1997, the Company adopted Statement of Financial
Accounting Standards No. 128, "Earnings Per Share" ("SFAS 128"), which
establishes standards for computing and presenting earnings per share. SFAS
No. 128 replaces the presentation of primary earnings per share and fully
diluted earnings per share with basic earnings per share and diluted earnings
per share, respectively. Basic earnings per share excludes the dilutive
effects of options, warrants and convertible securities, if any, and is
computed by dividing net income (loss) available to common shareholders by
the weighted average number of common shares outstanding during the period.
Diluted earnings per share is computed assuming the exercise or conversion of
common equivalent shares, if dilutive, consisting of unissued shares under
stock options, warrants, convertible notes and preferred stock. In
accordance with SFAS No. 128, all prior periods presented have been restated
to conform to the new presentation.
As of September 30, 1998, potential dilutive securities representing
12,097,168 shares of common stock were not included in the earnings per share
calculation since their effect would be anti-dilutive. Potential dilutive
securities consisted of 1,906,442 outstanding stock options, 7,790,726
outstanding common stock purchase warrants, and 240,000 shares of preferred
stock convertible into 2,400,000 shares of common stock. Basic and diluted
earnings per share are the same for all periods presented.
During the three months and nine months ended September 30, 1997, 2,500,000
shares of common stock issued and outstanding to two
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officers/major stockholders and a stockholder related to one of the officers
were subject to forfeiture under certain specified conditions, and were
excluded from the calculation of net loss per share in 1997. The forfeiture
provisions were released effective December 31, 1997, in exchange for the
return to the Company and cancellation of 750,000 of such shares.
2. Restructuring of Capital Leases
Effective March 31, 1998, the Company restructured a capital lease obligation
aggregating $170,516 into a new capital lease bearing interest at
approximately 14% per annum. In conjunction with this transaction, the
Company increased the outstanding lease obligation by $80,000 to reflect the
acquisition of office and computer equipment from the lessor. The Company
agreed to pay the lessor eighteen monthly payments of $15,500 commencing July
1, 1998 under the restructured lease agreement. The Company also issued
20,000 shares of common stock to the lessor with an approximate fair market
value of $79,000. The effective interest rate on the restructured lease
agreement is approximately 41% per annum. In conjunction with the
restructuring of this capital lease, during the nine months ended September
30, 1998, the Company recorded a charge to operations of $64,750 for the
write-off of lease deposits of $53,963 and lease prepayments of $10,787
relating to the original lease. The Company also recorded deferred financing
costs of $54,941 as a result of the issuance of the 20,000 shares of common
stock to the lessor, which are being amortized to operations through December
31, 1999.
Effective September 1, 1998, the Company restructured a capital lease
obligation aggregating $120,286 into a new capital lease bearing interest at
approximately 7% per annum. The Company agreed to pay the lessor $21,000,
and thirty monthly payments of $4,495 commencing September 15, 1998 under the
restructured lease agreement. In conjunction with the restructuring of this
capital lease, during the three months and the nine months ended September
30, 1998, the Company recorded a charge to operations of $5,889 for the
write-off of lease prepayments relating to the original lease.
3. Prepaid Expenses
During March 1998, the Company entered into a supplemental agreement with a
financial and marketing consulting firm to develop and manage an expanded
investor relations program to publicize the Company to stockholders,
investors, brokerages, and industry professionals. This program is designed
to continue during 1998 and 1999, and requires that the Company make advance
payments to the consulting firm to fund the program's costs and expenses.
During April 1998, the consulting firm was issued warrants to purchase an
aggregate of 300,000 shares of the Company's common stock valued at
$1,444,000 (Note 5).
12
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4. Advances and Bridge Loans Payable
Advances and bridge loans consisted of the following at December 31, 1997 and
September 30, 1998:
<TABLE>
<CAPTION>
Related Unrelated
Parties Parties
------- -------
Advances
- --------
<S> <C> <C>
Balance, December 31, 1997 $390,000 $
Add: New loans 410,000
Less: Converted into 1998
bridge financing (185,000)
--------- --------
Balance, March 31, 1998 615,000
Add: New loans 98,875 105,000
Less: Repayments (30,000)
--------- --------
Balance, June 30, 1998 713,875 75,000
Less: Repayments (23,875)
Converted into 1998
bridge financing (690,000) (75,000)
--------- --------
Balance, September 30, 1998 $ $
========= ========
</TABLE>
13
<PAGE>
<TABLE>
<CAPTION>
Related Unrelated
Parties Parties
------- -------
Bridge Loans Payable
- --------------------
<S> <C> <C>
Balance, December 31, 1997 $ $ 300,000
Add: New loans 865,000
Converted from advances 185,000
---------- ----------
Balance, March 31, 1998 185,000 1,165,000
Add: New loans 380,000 220,000
Less: Conversion of 1997
bridge loan into
common stock and
warrants (25,000)
---------- ----------
Balance, June 30, 1998 565,000 1,360,000
Add: Converted from advances 690,000 75,000
Less: Conversion of 1997
bridge loans into
common stock and
warrants (275,000)
Conversion of 1998
bridge loans into
common stock (1,255,000) (1,160,000)
---------- ----------
$ $
========== ==========
</TABLE>
The 1997 bridge loans were secured by substantially all the assets of the
Company, and were due December 1998. The holders of the 1997 bridge loans
had the option of converting such loans, including accrued interest, into the
lesser of units, consisting of 10,000 shares of common stock and 5,000 Series
D warrants, at the rate of $18,750 per unit, or 75% of the next private
placement offering price of an offering over $5,000,000. During the nine
months ended September 30, 1998, as a result of the completion of the
preferred stock financing, the holders of the bridge loans aggregating
$300,000 at December 31, 1997 and $275,000 at June 30, 1998, converted such
loans, plus accrued interest, at the rate of $1.875 per unit, into common
stock and Series D common stock purchase warrants. Accordingly, during the
three months ended September 30, 1998, the Company issued 193,965 shares of
common stock and 96,983 Series D common stock purchase warrants, and during
the nine months ended September 30, 1998, the Company issued 210,232 shares
of common stock and 105,117 Series D common stock purchase warrants.
In January 1998, the Company commenced a new bridge financing, consisting of a
secured note with interest at 12% due December 1998, secured by a junior lien on
substantially all the assets of the
14
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Company. The Company issued a total of $2,415,000 of bridge notes (including
$950,000 converted from advances), of which $1,255,000 were to related
parties. At the option of the holder, each note was convertible into the
securities of a subsequent private placement (or the equivalent amount of
common stock, if such financing was not a common stock financing) at the
lower of $2.75 or 80% of the private placement price. During the three
months and nine months ended September 30, 1998, as a result of the
completion of the preferred stock financing, the holders of the $2,415,000 of
bridge notes payable converted such notes, plus accrued interest, at the rate
of $2.00 per share, into 1,303,319 shares of common stock, including 683,176
shares allocable to related parties. During the three months and nine months
ended September 30, 1998, as a result of the conversion of the 1998 bridge
financing into common stock, the Company issued 79,312 Series E common stock
purchase warrants, which had an aggregate fair value of $210,915, to certain
finders with respect to such bridge financing. These warrants are
exercisable at $3.125 per share for a period of three years. Finders fees
paid in cash with respect to such bridge notes aggregating $96,000 were
recorded as deferred financing costs and were being amortized through the
earlier of December 31, 1998 or the conversion of the bridge notes into
common stock. Accordingly, the unamortized portion of such deferred
financing costs of $56,391 at June 30, 1998 was charged to operations as
financing costs during the three months and nine months ended September 30,
1998.
As of June 30, 1998, advances payable totaled $788,875, including $713,875 to
related parties, of which $23,875 was repaid during July 1998. The holders
of the advances had the right to convert such amounts into the 1998 bridge
financing until such time as the bridge notes were either called or repaid.
During the three months ended March 31, 1998, $185,000 of advances converted
into the 1998 bridge financing, and during July 1998, as a result of the
completion of preferred stock financing, the holders of the remaining
$765,000 of advances converted into the 1998 bridge financing.
As a result of the previously described conversion discounts, which were part
of the initial consideration for such financings, the Company recognized
aggregate discounts of $841,713 as a charge to operations for financing costs
during the nine months ended September 30, 1998 (Note 5).
5. Stockholders' Equity (Deficiency)
Issuance of Stock Options -
The Company accounts for stock options issued to employees under Accounting
Principles Board Opinion No. 25, under which no compensation cost is recognized,
except when the exercise price is less than fair market value. The Company
accounts for stock options and warrants issued to non-employees pursuant to
Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation" ("SFAS 123"), which requires that non-cash compensation be
recognized over the expected period of benefit. Under SFAS 123, the fair value
of stock options and warrants, calculated according to the Black-Scholes pricing
model, is charged to operations, generally over the vesting period.
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On February 6, 1998, the Company's Board of Directors adopted a program to
compensate employees of the Company pursuant to a stock option plan. The
Company issued options to purchase 500,000 shares of common stock at $2.50
per share. Such options were fully vested upon issuance, but are not
exercisable until February 1999, and expire on February 6, 2003. The Company
has recorded the difference between the fair market value of the Company's
common stock on February 6, 1998 of $4.125 and the $2.50 exercise price as
deferred compensation cost. The aggregate amount of deferred compensation
cost of $812,500 is being amortized through December 31, 1998.
On April 21, 1998, the Company issued a stock option to the non-employee
director of the Company at that time under the 1995 Stock Option Plan for
Non-Employee Directors to purchase 5,000 shares of common stock at an
exercise price of $5.50 per share, the fair market value on the date of
grant. The stock option was fully vested upon issuance, and is exercisable
for a period of ten years. The fair value of the stock option of $19,350 was
charged to operations during the nine months ended September 30, 1998.
On April 22, 1998, the Company issued a stock option to an employee under the
1995 Stock Option Plan to purchase 10,000 shares of common stock at $5.50 per
share, the fair market value on the date of grant. The stock option vests in
four equal annual installments, and is exercisable for a period of 10 years.
On May 1, 1998, the Company issued a stock option to its newly-appointed
Executive Vice President and Chief Financial Officer under the 1995 Stock
Option Plan to purchase 75,000 shares of common stock at an exercise price of
$2.50 per share. The stock option vests in four equal annual installments
commencing one year after the grant date, and is exercisable for a period of
ten years. The Company has recorded a charge to deferred compensation of
$323,438 to reflect the difference between the fair market value of the
Company's common stock on the grant date of $6.81 per share and the exercise
price of $2.50 per share. The Company is amortizing this amount to operations
over the four year period beginning May 1, 1998.
During July 1998, the Company issued various stock options under the 1998
Stock Option Plan, as follows:
(1) The Company issued stock options to three employees to purchase 3,000
shares of common stock at an exercise price of $5.50 per share, the fair
market value on the date of grant, which vest in equal annual installments
over four years. The stock options are exercisable for a period of
10 years.
(2) The Company issued a stock option to a consultant to purchase 15,000
shares of common stock at an exercise price of $5.4375 per share, the fair
market value on the date of grant. The stock option vests monthly over the
one year period beginning July 1998, and is exercisable for a period of 5
years. The fair value of the stock option of $63,150 is being charged to
operations over the one year period beginning July 1998.
(3) The Company issued a stock option to a consultant to purchase 4,000
shares of common stock at an exercise price of $2.50 per share.
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The stock option was fully vested upon issuance, and is exercisable for
a period of 10 years. The fair value of the stock option of $17,960 was
charged to operations during the three months and nine months ended
September 30, 1998.
(4) The Company issued a stock option to the Company's legal counsel, in his
capacity as Secretary of the Company, to purchase 40,000 shares of common
stock at an exercise price of $2.50 per share. The stock option vests
monthly over the two year period beginning July 1998, and is exercisable
for a period of 10 years. The fair value of the stock option of $179,600
is being charged to operations over the two year period beginning July
1998.
(5) The Company issued stock options to four of the Company's non-employee
directors to purchase an aggregate of 160,000 shares of common stock at an
exercise price of $2.50 per share. The stock options vest monthly over the
one year period beginning July 1998, and are exercisable for a period of 10
years. The fair value of the stock options of $868,800 is being charged to
operations over the one year period beginning July 1998.
Issuance of Common Stock -
During the nine months ended September 30, 1998, in conjunction with the
restructuring of a capital lease obligation, the Company issued 20,000 shares
of common stock to the lessor with an approximate fair market value of
$79,000 (Note 2).
During the nine months ended September 30, 1998, the Company issued 2,500
shares of common stock to a former employee for services rendered which were
valued at $15,469 and charged to operations.
During the three months ended September 30, 1998, the Company issued 193,965
shares of common stock (and 96,983 Series D common stock purchase warrants)
in conjunction with the conversion of 1997 bridge financing notes with a
principal balance of $275,000 and accrued interest of $88,688. During the
nine months ended September 30, 1998, the Company issued 210,232 shares of
common stock (and 105,117 Series D common stock purchase warrants) in
conjunction with the conversion of 1997 bridge financing notes with a
principal balance of $300,000 and accrued interest of $94,188 (see "Issuance
of Warrants" below).
During the three months and nine months ended September 30, 1998, the Company
issued 1,303,319 shares of common stock in conjunction with the conversion of
1998 bridge financing notes with a principal balance of $2,415,000 and
accrued interest of $191,682.
During the nine months ended September 30, 1998, the Company issued 342,000
shares of common stock to three individuals, including one officer, in
conjunction with the exercise of warrants and stock options with exercise
prices ranging from $2.50 to $3.125 per share, generating gross proceeds to
the Company of $1,030,000.
During the nine months ended September 30, 1998, the Company issued 11,200
shares of common stock (and 5,600 Series D common stock purchase
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warrants) in conjunction with the conversion of vendor debt of $28,000 into
common stock (see "Issuance of Warrants" below).
During the nine months ended September 30, 1998, the Company issued 110,123
shares of common stock (and 55,063 Series C and 55,063 Series D common stock
purchase warrants), including 96,220 shares to two officers/major
stockholders, in conjunction with the conversion of employee deferred
compensation of $206,483 into common stock (see "Issuance of Warrants"
below).
Issuance of Warrants -
During April 1998, the Company issued warrants to a financial and marketing
consulting firm to purchase an aggregate of 300,000 shares of common stock,
of which 200,000 warrants are exercisable at $3.125 per share and 100,000
warrants are exercisable at $5.25 per share, for additional services rendered
during January through June 1998. The warrants are exercisable through March
2003. The aggregate fair value of the 300,000 warrants of $1,444,000 was
recorded as a charge to operations during the six months ended June 30, 1998
and the nine months ended September 30, 1998.
During April 1998, the Company issued a warrant to purchase 25,000 shares of
common stock exercisable at $3.00 per share to the Company's Chief Financial
Officer at that time for services rendered through June 1998. The warrant is
exercisable through April 1999. The fair value of the warrant was
approximately $75,000, which was charged to operations during the six months
ended June 30, 1998 and the nine months ended September 30, 1998.
During the nine months ended September 30, 1998, the Company issued Series C
common stock purchase warrants for 254,593 shares of common stock to various
parties. The Series C common stock purchase warrants are exercisable at
$2.50 per share through June 2003. The Company issued 5,000 warrants to a
vendor which deferred an amount due it, 55,063 warrants (including 48,110
warrants to two officers/major stockholders) in conjunction with the
conversion into common stock of employee deferred compensation of $206,483,
and 177,000 warrants (including 134,000 warrants to related parties) as
additional consideration for short-term advances of $440,000, all of which
were considered financing costs. The Company also issued 17,530 warrants for
legal fees. Aggregate fair value of the warrants issued for financing costs
was $1,119,891, which was charged to operations as financing costs during the
six months ended June 30, 1998 and the nine months ended September 30, 1998.
The warrant issued for legal fees had an aggregate fair value of $100,447, of
which $37,668 was charged to operations during the three months ended
September 30, 1998 and $62,780 was charged to operations during the nine
months ended September 30, 1998. The remaining $37,667 will be charged to
operations during the three months ended December 31, 1998.
During the three months and nine months ended September 30, 1998, a Series C
common stock purchase warrant for 20,000 shares of common stock, originally
issued in 1997, was returned to the Company and cancelled. The fair value of
such warrant was $95,200, which was recognized as a credit to operations
during the three months and nine months ended September 30, 1998.
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During the nine months ended September 30, 1998, the Company issued Series D
common stock purchase warrants for 165,780 shares of common stock to various
parties. The Series D common stock purchase warrants are exercisable at
$5.25 per share through September 2000. The Company issued 105,117 warrants
in conjunction with the conversion into common stock of 1997 bridge financing
notes with a principal balance of $300,000, 5,600 warrants in conjunction
with the conversion into common stock of vendor debt of $28,000, and 55,063
warrants (including 48,110 warrants to two officers/major stockholders) in
conjunction with the conversion into common stock of employee deferred
compensation of $206,483, all of which were considered financing costs. The
aggregate fair value of such warrants of $386,240 was charged to operations
as financing costs during the nine months ended September 30, 1998. During
the three months ended September 30, 1998, the Company issued 96,983 warrants
in conjunction with the conversion into common stock of 1997 bridge financing
notes with a principal balance of $275,000. The aggregate fair value of such
warrants of $161,962 was charged to operations as financing costs during the
three months ended September 30, 1998.
During the nine months ended September 30, 1998, the Company issued Series E
common stock purchase warrants to various parties. The Series E common stock
purchase warrants are exercisable at $3.125. During April 1998, the Company
issued a Series E common stock purchase warrant for 50,000 shares of common
stock to a consulting firm exercisable through April 2001. The fair value of
the warrant of $251,000 was charged to operations during the nine months
ended September 30, 1998. During the July 1998, the Company issued a Series
E common stock purchase warrant for 1,000 shares to a placement agency
exercisable through July 2001. The fair value of the warrant of $3,440 was
charged to operations during the three months and nine months ended September
30, 1998.
During the nine months ended September 30, 1998, in conjunction with the 1997
private placement, the Company issued 8,532 Series E common stock purchase
warrants exercisable through June 2001, which had an aggregate fair value of
$32,336. During the three months and nine months ended September 30, 1998,
in conjunction with the conversion of the 1998 bridge financing into common
stock, the Company issued 79,312 Series E common stock purchase warrants
exercisable through September 2001, which had an aggregate fair value of
$210,915.
Conversion Discount -
As part of the consideration for making the advances and bridge loans
described at Note 3, the Company granted the investors the option to convert
their bridge loans, including accrued interest, into the securities offered
in any subsequent private placement (or the equivalent amount of common
stock, if such financing is not a common stock financing), at 75% to 80% of
the private placement offering price, representing discounts of 20% to 25%.
As a result of the sale of preferred stock on June 29, 1998 as described
below, the difference between the fair value of the Company's common stock of
$2.50 per share on June 29, 1998 (as determined by an investment and merchant
banking firm) and the effective conversion rates ranging from $1.875 to $2.00
per share, was recognized as a charge to operations. Accordingly, the
Company recorded the aggregate discount of $841,713 as a charge to
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operations for financing costs during the nine months ended September 30,
1998.
Preferred Stock Financing -
On June 29, 1998, the Company entered into a Stock Purchase Agreement with
certain private and institutional investors. Pursuant to the Stock Purchase
Agreement, the Company sold 200,000 shares of Series A Senior Convertible
Preferred Stock (the "Preferred Stock") for a cash purchase price of $25.00
per share, resulting in gross proceeds to the Company of $5,000,000. Robert
M. Fell, David M. Marshall and Jess Rifkind purchased 445 shares, 445 shares
and 400 shares, respectively, of Preferred Stock.
On July 31, 1998, the Company sold an additional 20,000 shares of Preferred
Stock under the same terms for gross proceeds of $500,000. The Company is
seeking to sell an additional 160,000 shares of Preferred Stock to private
and institutional investors on the same terms, but there can be no assurances
that the Company will be successful in this regard.
The Preferred Stock has a liquidation preference of $25.00 per share and will
rank senior to all other series of preferred stock that may be issued in the
future. Each share of Preferred Stock is convertible into ten shares of
common stock of the Company, and will be automatically converted into common
stock at the then prevailing conversion rate at such time as the Company has
completed a secondary public offering which raises not less than $15,000,000
in gross proceeds and has its common stock listed on the New York Stock
Exchange, the American Stock Exchange or the NASDAQ National Market System.
The holders of the Preferred Stock are not entitled to dividends, except that
if dividends are paid on the Company's common stock, holders of Preferred
Stock will be entitled to dividends on the basis of the number of shares of
common stock into which the Preferred Stock is then convertible. The
Preferred Stock will vote together with the holders of common stock on all
matters presented to stockholders for a vote on the basis of the number of
shares of common stock into which the Preferred Stock is then convertible.
The holders of the Preferred Stock have unlimited piggyback registration
rights and certain demand registration rights.
Based on a valuation report prepared by an investment and merchant banking
firm dated July 31, 1998, the Company has determined that the Preferred Stock
was sold at fair market value.
In addition, on June 29, 1998, the Company entered into a Securities Purchase
Agreement with the Robert M. Fell Living Trust (the "Fell Trust"). Pursuant
to the Securities Purchase Agreement, the Fell Trust acquired 20,000 shares
of Preferred Stock and a warrant to purchase 1,200,000 shares of the
Company's common stock (the "Fell Warrant"). The purchase price of the
Preferred Stock acquired by the Fell Trust was $25.00 per share, or an
aggregate of $500,000, of which $10,000 was paid in cash and $490,000 was
paid in the form of a promissory note (the "$490,000 Note"). The purchase
price of the Fell Warrant was $75,000, of which $5,000 was paid in cash and
$70,000 was paid in the form of a promissory note (the "$70,000 Note"). The
Fell Warrant expires on June 29, 2008, and entitles the Fell Trust to
purchase
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1,200,000 shares of common stock at $2.50 per share. The Fell Warrant is
exercisable one-sixth on June 29, 1998, and one-sixth thereafter on each six
month anniversary date. The $490,000 Note bears interest at the rate of 8%
per annum, which may, at the option of the Fell Trust, be paid currently or
added to the principal amount of the note. The $490,000 Note is due June 29,
2002, provided that the Fell Trust is required to prepay the note, without
penalty, as soon as possible consistent with its other cash requirements.
The $70,000 Note bears interest at the rate of 6% per annum, which may, at
the option of the Fell Trust, be paid currently or added to the principal
amount of the note. The $70,000 Note is due on June 29, 2008. The Fell
Trust has pledged the Fell Warrant and the Preferred Stock acquired pursuant
to the Securities Purchase Agreement to secure its obligations under the
$490,000 Note and the $70,000 Note.
The $490,000 Note and the $70,000 Note were recorded as reductions to
stockholders' equity at September 30, 1998. Based on a valuation report
prepared by an investment and merchant banking firm dated July 31, 1998, the
Company has determined that the exercise price of the Fell Warrant was at not
less than fair market value.
In connection with the Stock Purchase Agreement and the Securities Purchase
Agreement, the parties to such agreements and David M. Marshall and Russell
M. Fine entered into a Stockholders Agreement. Pursuant to the Stockholders
Agreement, the parties agreed to vote all shares of Preferred Stock and
common stock owned by them (including any stock acquired in the future) for
election to the Board of Directors of four persons designated by Robert M.
Fell and three persons designated by David M. Marshall and Russell M. Fine.
The Stockholders Agreement terminates on June 29, 2000.
In connection with the Stock Purchase Agreement and the Securities Purchase
Agreement, the Company entered into a Services Agreement with Fell & Company,
Inc. ("FCI"), pursuant to which Robert M. Fell will serve as Chairman of the
Board of Directors for a period of three years. Mr. Fell will also serve as
interim Chief Executive Officer until a new Chief Executive Officer is
appointed, provided that if an employment agreement is not entered into with
a new Chief Executive Officer within six months from June 29, 1998, or such
person does not commence employment within eight months of June 29, 1998, the
position of Chief Executive Officer will become the Office of the Chief
Executive and will consist of Mr. Fell, Mr. Marshall and Mr. Fine. For
making Mr. Fell's services available to the Company, FCI will receive
$150,000 per annum, subject to cost of living increases, plus the amount of
payroll taxes the Company would pay if Mr. Fell were an employee of the
Company.
The Company also entered into new employment agreements with David M.
Marshall and Russell M. Fine pursuant to which they will serve as Vice
Chairman and Chief Technology Officer, respectively. In addition, until a
permanent Chief Executive Officer is appointed, Mr. Marshall will serve as
President and Chief Operating Officer of the Company. Both employment
agreements provide for terms of five years and compensation of $150,000 per
annum, subject to cost of living increases.
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Effective June 29, 1998, the number of directors of the Company was increased
to seven and Robert M. Fell, Alan Landsburg, Bill Roedy and Caesar Kimmel
were elected to the Board of Directors of the Company. Such persons were
designated by Mr. Fell pursuant to the Stockholders Agreement. David M.
Marshall, Russell M. Fine and Jess Rifkind remain as directors of the
Company, as the designees of Mr. Marshall and Mr. Fine. At such time as the
Company retains a permanent Chief Executive Officer, the number of directors
of the Company will be increased to eight and the Chief Executive Officer
will be elected to the Board of Directors. As a result of the ability to
designate four directors as provided in the Stockholders Agreement, Mr. Fell
may be deemed to have acquired control of the Company.
In conjunction with the Preferred Stock financing, the Company incurred
direct costs related to such financing of $360,903, which were charged to
additional paid-in capital. Of such amount, $217,493 was paid to a firm for
investment advisory services. In addition, this firm has the right to
acquire warrants to purchase 72,498 shares of common stock for $.0625 per
warrant, consisting of 24,166 warrants exercisable at $.01 per share and
48,332 warrants exercisable at $2.50 per share. The warrants are exercisable
through June 2003, and have certain piggyback registration rights. The
aggregate fair value of such warrants was $401,639. The Company also paid
cash finder's fees to other parties aggregating $28,500.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
Cautionary Statement Pursuant to Safe Harbor Provisions of the Private
Securities Litigation Reform Act of 1995:
This Quarterly Report on Form 10-QSB for the three months ended September 30,
1998 contains "forward-looking" statements within the meaning of the Federal
securities laws. These forward-looking statements include, among others,
statements concerning the Company's expectations regarding its financing
requirements and efforts to raise additional financing, its development and
marketing efforts, consumer reaction/acceptance to the Company's services,
and the development of operating revenues, and other statements of
expectations, beliefs, future plans and strategies, anticipated events or
trends, and similar expressions concerning matters that are not historical
facts. The forward-looking statements in this Quarterly Report on Form
10-QSB for the three months ended September 30, 1998 are subject to risks and
uncertainties that could cause actual results to differ materially from those
results expressed in or implied by the statements contained herein.
Overview:
Since mid-1995, the Company has been engaged in developing PC-based
proprietary communications software technology to be utilized by consumers
for online entertainment purposes. The Company's first service being offered
to consumers is The You Bet Racing Network, a horse racing network broadcast
over the Company's secure closed-loop network. The Company has incurred
substantial software development costs during 1995 through September 30,
1998, which have been charged to operations as research and development
costs. Management is of the opinion that technological feasibility of the
Company's proprietary software technology had been established during the
nine months ended September 30, 1998.
Business Plan:
The Company's original short-term goal, established in 1995, was to maximize
customer subscription levels. However, in 1997, the Company decided to
de-emphasize its original short-term goal in order to focus on certain
long-term goals. The Company's revised marketing strategy, which management
is seeking to implement during 1998 and 1999, is focused on building a brand
name and becoming a market leader, acquiring and retaining a large and loyal
customer base, and maximizing long-term profitability. In order to do so,
the Company has begun to concentrate on marketing to existing horse players
during the initial phase of operations. By being the first to deliver an
interactive product, the Company believes that it will fill a significant
market need and establish itself as the leading brand in the horse racing
industry. Marketing activities will then be expanded to focus on a variety
of additional potential users, including sports gamblers and casino and
lottery customers. The Company then intends to move its products into the
mainstream online community through a mass marketing campaign.
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Liquidity and Capital Resources - September 30, 1998:
The Company has had recurring losses, has periodically experienced
significant continuing liquidity problems from late 1996 through mid-1998,
and has financed its operations during such period from the sale of its
securities and short-term debt. As a result of these factors, the Company's
independent certified public accountants have expressed substantial doubt
about the Company's ability to continue as a going concern. During June and
July 1998, the Company completed the sale of $6,000,000 of preferred stock
that provided net proceeds of approximately $5,144,000, as described below.
However, the proceeds from this financing are not expected to be sufficient
to support the continuing development and expansion of the Company's
operations until revenues reach the level necessary to fund operations. The
Company is currently attempting to sell an additional $4,000,000 of preferred
stock, but there can be no assurances that the Company will be successful in
this regard. As a result of the sale of preferred stock and the conversion
of advances and bridge loans into common stock during the nine months ended
September 30, 1998, the Company had net working capital of $1,323,383 at
September 30, 1998, as compared to a working capital deficit of $2,739,184 at
December 31, 1997. The advances and bridge loans were utilized to fund the
Company's operations.
During the year ended December 31, 1997 and the nine months ended September
30, 1998, the Company relied on the proceeds from short-term loans, primarily
from related parties, bridge loans from both related and unrelated parties,
the exercise of stock options and warrants, and the private placement of its
common stock, preferred stock and stock purchase warrants, which aggregated
approximately $3,903,000 and $8,199,000, respectively, to fund its operating
requirements during such periods. During the nine months ended September 30,
1998, the Company received net advances of $560,000 and bridge financing of
$1,465,000, as well as the net proceeds from the preferred stock financing of
$5,144,000, to fund its estimated 1998 cash requirements of $7,000,000, which
includes estimated discretionary costs related to marketing and promotion
activities of $2,000,000. The Company is continuing to evaluate various
opportunities to raise additional capital during the remainder of 1998 and
1999, which includes the sale of the additional $4,000,000 of preferred stock
discussed above.
The Company is dependent on the proceeds from the previously described
financing efforts for the continuation of its marketing efforts related to
The You Bet Racing Network, as well as for the continuation and expansion of
the Company's development activities. The Company expects that its cash on
hand at September 30, 1998 will be sufficient to fund operating and capital
expenditures at least through early 1999. However, there can be no
assurances that the Company will be able to complete such additional debt or
equity financings as may be required to fund the Company's operations on a
timely basis and/or under acceptable terms and conditions.
The Company's need for financing during 1999 and subsequently will vary based
upon a number of factors, some of which are outside the control of the
Company. These factors include the scope of the Company's development and
marketing efforts, consumer reaction/acceptance and the development of
operating revenues, the time and cost to develop and
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commercialize additional applications, competition from similar wagering
systems and from competing interactive gaming/leisure time systems and
activities, and potential political and legal issues.
During the nine months ended September 30, 1998, the Company's operations
used $5,367,301 of cash, as compared to using $2,989,863 of cash during the
nine months ended September 30, 1997, reflecting a general increase in all
levels of activity as the Company completed the development of The You Bet
Racing Network and commenced commercial marketing activities.
During the nine months ended September 30, 1998, cash flows used in investing
activities aggregated $188,462 for purchases of property and equipment. In
addition, effective March 31, 1998, in conjunction with the restructuring of
a capital lease obligation, the Company increased the outstanding lease
obligation by $80,000 to reflect the acquisition of office and computer
equipment from the lessor.
On June 29, 1998, the Company entered into a Stock Purchase Agreement with
certain private and institutional investors. Pursuant to the Stock Purchase
Agreement, the Company sold 200,000 shares of Series A Senior Convertible
Preferred Stock (the "Preferred Stock") for a cash purchase price of $25.00
per share, resulting in gross proceeds to the Company of $5,000,000. Robert
M. Fell, David M. Marshall and Jess Rifkind purchased 445 shares, 445 shares
and 400 shares, respectively, of Preferred Stock.
On July 31, 1998, the Company sold an additional 20,000 shares of Preferred
Stock under the same terms for gross proceeds of $500,000. The Company is
seeking to sell an additional 160,000 shares of Preferred Stock to private
and institutional investors on the same terms, but there can be no assurances
that the Company will be successful in this regard.
The Preferred Stock has a liquidation preference of $25.00 per share and will
rank senior to all other series of preferred stock that may be issued in the
future. Each share of Preferred Stock is convertible into ten shares of
common stock of the Company, and will be automatically converted into common
stock at the then prevailing conversion rate at such time as the Company has
completed a secondary public offering which raises not less than $15,000,000
in gross proceeds and has its common stock listed on the New York Stock
Exchange, the American Stock Exchange or the NASDAQ National Market System.
The holders of the Preferred Stock are not entitled to dividends, except that
if dividends are paid on the Company's common stock, holders of Preferred
Stock will be entitled to dividends on the basis of the number of shares of
common stock into which the Preferred Stock is then convertible. The
Preferred Stock will vote together with the holders of common stock on all
matters presented to stockholders for a vote on the basis of the number of
shares of common stock into which the Preferred Stock is then convertible.
The holders of the Preferred Stock have unlimited piggyback registration
rights and certain demand registration rights.
Based on a valuation report prepared by an investment and merchant banking firm
dated July 31, 1998, the Company has determined that the Preferred Stock was
sold at fair market value.
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In addition, on June 29, 1998, the Company entered into a Securities Purchase
Agreement with the Robert M. Fell Living Trust (the "Fell Trust"). Pursuant
to the Securities Purchase Agreement, the Fell Trust acquired 20,000 shares
of Preferred Stock and a warrant to purchase 1,200,000 shares of the
Company's common stock (the "Fell Warrant"). The purchase price of the
Preferred Stock acquired by the Fell Trust was $25.00 per share, or an
aggregate of $500,000, of which $10,000 was paid in cash and $490,000 was
paid in the form of a promissory note (the "$490,000 Note"). The purchase
price of the Fell Warrant was $75,000, of which $5,000 was paid in cash and
$70,000 was paid in the form of a promissory note (the "$70,000 Note"). The
Fell Warrant expires on June 29, 2008, and entitles the Fell Trust to
purchase 1,200,000 shares of common stock at $2.50 per share. The Fell
Warrant is exercisable one-sixth on June 29, 1998, and one-sixth thereafter
on each six month anniversary date. The $490,000 Note bears interest at the
rate of 8% per annum, which may, at the option of the Fell Trust, be paid
currently or added to the principal amount of the note. The $490,000 Note is
due June 29, 2002, provided that the Fell Trust is required to prepay the
note, without penalty, as soon as possible consistent with its other cash
requirements. The $70,000 Note bears interest at the rate of 6% per annum,
which may, at the option of the Fell Trust, be paid currently or added to the
principal amount of the note. The $70,000 Note is due on June 29, 2008. The
Fell Trust has pledged the Fell Warrant and the Preferred Stock acquired
pursuant to the Securities Purchase Agreement to secure its obligations under
the $490,000 Note and the $70,000 Note.
The $490,000 Note and the $70,000 Note were recorded as reductions to
stockholders' equity at September 30, 1998. Based on a valuation report
prepared by an investment and merchant banking firm dated July 31, 1998, the
Company has determined that the exercise price of the Fell Warrant was at not
less than fair market value.
In connection with the Stock Purchase Agreement and the Securities Purchase
Agreement, the parties to such agreements and David M. Marshall and Russell
M. Fine entered into a Stockholders Agreement. Pursuant to the Stockholders
Agreement, the parties agreed to vote all shares of Preferred Stock and
common stock owned by them (including any stock acquired in the future) for
election to the Board of Directors of four persons designated by Robert M.
Fell and three persons designated by David M. Marshall and Russell M. Fine.
The Stockholders Agreement terminates on June 29, 2000.
In connection with the Stock Purchase Agreement and the Securities Purchase
Agreement, the Company entered into a Services Agreement with Fell & Company,
Inc. ("FCI"), pursuant to which Robert M. Fell will serve as Chairman of the
Board of Directors for a period of three years. Mr. Fell will also serve as
interim Chief Executive Officer until a new Chief Executive Officer is
appointed, provided that if an employment agreement is not entered into with
a new Chief Executive Officer within six months from June 29, 1998, or such
person does not commence employment within eight months of June 29, 1998, the
position of Chief Executive Officer will become the Office of the Chief
Executive and will consist of Mr. Fell, Mr. Marshall and Mr. Fine. For
making Mr. Fell's services available to the Company, FCI will receive
$150,000 per annum, subject to cost of living increases, plus the
26
<PAGE>
amount of payroll taxes the Company would pay if Mr. Fell were an employee of
the Company.
The Company also entered into new employment agreements with David M.
Marshall and Russell M. Fine pursuant to which they will serve as Vice
Chairman and Chief Technology Officer, respectively. In addition, until a
permanent Chief Executive Officer is appointed, Mr. Marshall will serve as
President and Chief Operating Officer of the Company. Both employment
agreements provide for terms of five years and compensation of $150,000 per
annum, subject to cost of living increases.
Effective June 29, 1998, the number of directors of the Company was increased
to seven and Robert M. Fell, Alan Landsburg, Bill Roedy and Caesar Kimmel
were elected to the Board of Directors of the Company. Such persons were
designated by Mr. Fell pursuant to the Stockholders Agreement. David M.
Marshall, Russell M. Fine and Jess Rifkind remain as directors of the
Company, as the designees of Mr. Marshall and Mr. Fine. At such time as the
Company retains a permanent Chief Executive Officer, the number of directors
of the Company will be increased to eight and the Chief Executive Officer
will be elected to the Board of Directors. As a result of the ability to
designate four directors as provided in the Stockholders Agreement, Mr. Fell
may be deemed to have acquired control of the Company.
In conjunction with the Preferred Stock financing, the Company incurred
direct costs related to such financing of $360,903, which were charged to
additional paid-in capital. Of such amount, $217,493 was paid to a firm for
investment advisory services. In addition, this firm has the right to
acquire warrants to purchase 72,498 shares of common stock for $.0625 per
warrant, consisting of 24,166 warrants exercisable at $.01 per share and
48,332 warrants exercisable at $2.50 per share. The warrants are exercisable
through June 2003, and have certain piggyback registration rights. The
aggregate fair value of such warrants was $401,639. The Company also paid
cash finder's fees to other parties aggregating $28,500.
The Company does not currently have any existing capital expenditure
commitments. However, subject to the continuing development of The You Bet
Racing Network and the availability of sufficient capital resources, the
Company's business plan includes a capital expenditure of approximately
$2,000,000 during 1999 in order to expand the Company's facilities to support
the anticipated increase in activity on The You Bet Racing Network.
Consolidated Results of Operations:
Three Months Ended September 30, 1997 and 1998 -
Network operations increased by $237,012 or 141.3%, to $404,798 in 1998, as
compared to $167,786 in 1997, reflecting the expansion of operations of The
You Bet Racing Network.
Research and development costs increased by $52,170 or 17.6%, to $348,667 in
1998, as compared to $296,497 in 1997, reflecting the continuing development
of The You Bet Racing Network.
27
<PAGE>
Sales and marketing expense increased by $356,369 or 248.8%, to $499,587 in
1998, as compared to $143,218 in 1997, reflecting the expansion of the
Company's marketing activities with respect to The You Bet Racing Network.
General and administrative expenses increased by $305,999 or 59.7%, to
$818,612 in 1998, as compared to $512,613 in 1997, reflecting an increase in
personnel related costs, legal and accounting fees, and general operating
activities, and the implementation of an expanded stockholder relations
program, as described below.
During March 1998, the Company entered into a supplemental agreement with a
financial and marketing consulting firm to develop and manage an expanded
investor relations program to publicize the Company to stockholders,
investors, brokerages, and industry professionals. This program is designed
to continue during the remainder of 1998 and 1999, and requires that the
Company make advance payments to the consulting firm to fund the program's
costs and expenses. During the three months ended September 30, 1998, the
Company charged approximately $189,000 to operations for this program.
The Company is continuing development efforts with respect to The You Bet
Racing Network, including the recruiting and hiring of management and
entering into agreements with strategic partners.
Interest expense decreased by $119,173 or 60.1%, to $79,116 in 1998, as
compared to $198,289 in 1997, as a result of the conversion of advances and
bridge loans into common stock during the three months ended September 30,
1998.
The Company records the fair value of various stock options and warrants
issued for services rendered and as financing costs as a charge to
operations. During the three months ended September 30, 1998, the Company
incurred non-cash expenses related to the issuance of stock options and
warrants of $869,245, including $480,948 for stock options issued in 1998 to
non-officer directors, employees and consultants at less than fair market
value. The recognition of these expenses did not have any effect on working
capital, net stockholders' equity (deficiency) or cash flows.
Nine Months Ended September 30, 1997 and 1998 -
Network operations increased by $253,798 or 52.6%, to $736,401 in 1998, as
compared to $482,603 in 1997, reflecting the expansion of operations of The
You Bet Racing Network.
Research and development costs decreased by $34,737 or 3.6%, to $927,202 in
1998, as compared to $961,939 in 1997, reflecting the Company's reallocation
of resources to its marketing programs.
Sales and marketing expenses increased by $725,116 or 155.7%, to $1,190,751
in 1998, as compared to $465,635 in 1997, reflecting the expansion of the
Company's marketing activities with respect to The You Bet Racing Network.
General and administrative expenses increased by $756,438 or 58.7%, to
$2,044,488 in 1998, as compared to $1,288,050 in 1997, reflecting an
28
<PAGE>
increase in personnel related costs, legal and accounting fees, and general
operating activities, and the implementation of an expanded stockholder
relations program, as described below.
During March 1998, the Company entered into a supplemental agreement with a
financial and marketing consulting firm to develop and manage an expanded
investor relations program to publicize the Company to stockholders,
investors, brokerages, and industry professionals. This program is designed
to continue during the remainder of 1998 and 1999, and requires that the
Company make advance payments to the consulting firm to fund the program's
costs and expenses. During the nine months ended September 30, 1998, the
Company charged approximately $453,000 to operations for this program.
The Company is continuing development efforts with respect to The You Bet
Racing Network, including the recruiting and hiring of management and
entering into agreements with strategic partners.
Interest expense did not change significantly, from $322,717 in 1998, as
compared to $323,155 in 1997, primarily as a result of advances and bridge
loans being outstanding during both such periods. The Company expects that
interest expense will decrease significantly subsequent to September 30,
1998, as a result of the conversion of advances and bridge loans into common
stock during the three months ended September 30, 1998.
The Company records the fair value of various stock options and warrants
issued for services rendered and as financing costs as a charge to
operations. During the nine months ended September 30, 1998, the Company
incurred non-cash expenses related to the issuance of stock options and
warrants of $4,858,256, including $900,944 for stock options issued in 1998
to non-officer directors, employees and consultants at less than fair market
value. The Company also incurred non-cash expenses related to the discount
on conversion of various obligations into common stock and warrants of
$841,713. The recognition of these expenses did not have any effect on
working capital, net stockholders' equity (deficiency) or cash flows. The
Company does not expect that these types of costs will continue at these
levels in the future. However, approximately $1,859,000 of deferred
compensation at September 30, 1998 will be recognized as non-cash
compensation, primarily during the remainder of 1998 and during 1999, which
is expected to provide commensurate benefit during such periods.
Year 2000 Issue:
The Year 2000 Issue is the result of computer programs being written using
two digits rather than four digits to define the applicable year. Computer
programs that have sensitive software may recognize a date using "00" as the
year 1900 rather than the year 2000. This could result in a system failure
or miscalculations causing disruptions of operations, including, among other
things, a temporary inability to process transactions, send invoices or
engage in similar normal business activities.
Based on a recent internal assessment, the Company has determined that its
software programs, both developed internally and purchased from
29
<PAGE>
outside vendors, are already Year 2000 compliant, or that the cost of any
needed modifications will not have a material effect on the Company's
consolidated financial position, results of operations or cash flows.
However, the Company is currently unable to determine if its strategic
partners have fully addressed the Year 2000 Issue as it relates to their
respective operating systems. A Year 2000 system failure by a strategic
partner of the Company could have a material adverse effect on the Company's
results of operations.
30
<PAGE>
PART II. OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES
(c) Equity securities of the registrant sold by the registrant during the
three months ended September 30, 1998 that were not registered under the
Securities Act of 1933, as amended, other than unregistered sales made in
reliance on Regulation S, were as follows:
During the three months ended September 30, 1998, the Company issued
1,303,319 shares of common stock in conjunction with the conversion of 1998
bridge financing notes with a principal balance of $2,415,000 and accrued
interest of $191,682. The shares of common stock were issued under Section
4(2) of the Securities Act of 1933, as amended, based on the representations
of the recipients.
During the three months ended September 30, 1998, the Company issued 193,965
shares of common stock (and 96,983 Series D common stock purchase warrants)
in conjunction with the conversion of 1997 bridge financing notes with a
principal balance of $275,000 and accrued interest of $88,688 into common
stock. The shares of common stock were issued under Section 4(2) of the
Securities Act of 1933, as amended, based on the representations of the
recipients.
During July 1998, the Company issued various stock options under the 1998
Stock Option Plan, as follows:
(1) The Company issued stock options to three employees to purchase 3,000
shares of common stock at an exercise price of $5.50 per share, the fair
market value on the date of grant, which vest in equal annual installments
over four years. The stock options are exercisable for a period of 10 years.
(2) The Company issued a stock option to a consultant to purchase 15,000
shares of common stock at an exercise price of $5.4375 per share, the fair
market value on the date of grant. The stock option vests monthly over the
one year period beginning July 1998, and is exercisable for a period of 5
years.
(3) The Company issued a stock option to a consultant to purchase 4,000
shares of common stock at an exercise price of $2.50 per share. The stock
option was fully vested upon issuance, and is exercisable for a period of 10
years.
(4) The Company issued a stock option to the Company's legal counsel, in his
capacity as Secretary of the Company, to purchase 40,000 shares of common
stock at an exercise price of $2.50 per share. The stock option vests
monthly over the two year period beginning July 1998, and is exercisable for
a period of 10 years.
(5) The Company issued stock options to four of the Company's non-employee
directors to purchase an aggregate of 160,000 shares of common stock at an
exercise price of $2.50 per share. The stock options vest monthly over the
one year period beginning July 1998, and are exercisable for a period of 10
years.
31
<PAGE>
All such stock options were issued under Section 4(2) of the Securities Act
of 1933, as amended, based on the representations of the recipients.
During the three months ended September 30, 1998, the Company issued Series D
common stock purchase warrants for 96,983 shares of common stock to various
parties in conjunction with the conversion of 1997 bridge financing notes
into common stock, as described above, which were considered financing costs.
The Series D common stock purchase warrants are exercisable at $5.25 per
share through September 2000. The warrants were issued under Section 4(2) of
the Securities Act of 1933, as amended, based on the representations of the
recipients.
During the three months ended September 30, 1998, the Company issued Series E
common stock purchase warrants for 80,312 shares of common stock to various
parties, primarily as finders fees with respect to the conversion of 1998
bridge financing notes into common stock. The Series E common stock purchase
warrants are exercisable at $3.125 per share through September 2001. The
warrants were issued under Section 4(2) of the Securities Act of 1933, as
amended, based on the representations of the recipients.
On June 29, 1998, the Company entered into a Stock Purchase Agreement with
certain private and institutional investors. Pursuant to the Stock Purchase
Agreement, the Company sold 200,000 shares of Series A Senior Convertible
Preferred Stock (the "Preferred Stock") for a cash purchase price of $25.00
per share, resulting in gross proceeds to the Company of $5,000,000. On July
31, 1998, the Company sold an additional 20,000 shares of Preferred Stock
under the same terms and conditions for gross proceeds of $500,000. The
Preferred Stock was sold as a private placement pursuant to Regulation D of
Section 4(2) of the Securities Act of 1933, as amended.
The Preferred Stock has a liquidation preference of $25.00 per share and will
rank senior to all other series of preferred stock that may be issued in the
future. Each share of Preferred Stock is convertible into ten shares of
common stock of the Company, and will be automatically converted into common
stock at the then prevailing conversion rate at such time as the Company has
completed a secondary public offering which raises not less than $15,000,000
in gross proceeds and has its common stock listed on the New York Stock
Exchange, the American Stock Exchange or the NASDAQ National Market System.
The holders of the Preferred Stock are not entitled to dividends, except that
if dividends are paid on the Company's common stock, holders of Preferred
Stock will be entitled to dividends on the basis of the number of shares of
common stock into which the Preferred Stock is then convertible. The
Preferred Stock will vote together with the holders of common stock on all
matters presented to stockholders for a vote on the basis of the number of
shares of common stock into which the Preferred Stock is then convertible.
The holders of the Preferred Stock have unlimited piggyback registration
rights and certain demand registration rights.
Based on a valuation report prepared by an investment and merchant banking
firm dated July 31, 1998, the Company has determined that the Preferred Stock
was sold at fair market value.
32
<PAGE>
In addition, on June 29, 1998, the Company entered into a Securities Purchase
Agreement with the Robert M. Fell Living Trust (the "Fell Trust"). Pursuant
to the Securities Purchase Agreement, the Fell Trust acquired 20,000 shares
of Preferred Stock and a warrant to purchase 1,200,000 shares of the
Company's common stock (the "Fell Warrant"). The purchase price of the
Preferred Stock acquired by the Fell Trust was $25.00 per share, or an
aggregate of $500,000, of which $10,000 was paid in cash and $490,000 was
paid in the form of a promissory note (the "$490,000 Note"). The purchase
price of the Fell Warrant was $75,000, of which $5,000 was paid in cash and
$70,000 was paid in the form of a promissory note (the "$70,000 Note"). The
Fell Warrant expires on June 29, 2008, and entitles the Fell Trust to
purchase 1,200,000 shares of common stock at $2.50 per share. The Fell
Warrant is exercisable one-sixth on June 29, 1998, and one-sixth thereafter
on each six month anniversary date. The $490,000 Note bears interest at the
rate of 8% per annum, which may, at the option of the Fell Trust, be paid
currently or added to the principal amount of the note. The $490,000 Note is
due June 29, 2002, provided that the Fell Trust is required to prepay the
note, without penalty, as soon as possible consistent with its other cash
requirements. The $70,000 Note bears interest at the rate of 6% per annum,
which may, at the option of the Fell Trust, be paid currently or added to the
principal amount of the note. The $70,000 Note is due on June 29, 2008. The
Fell Trust has pledged the Fell Warrant and the Preferred Stock acquired
pursuant to the Securities Purchase Agreement to secure its obligations under
the $490,000 Note and the $70,000 Note. The 20,000 shares of Preferred Stock
and the Fell Warrant were issued under Section 4(2) of the Securities Act of
1933, as amended, based on the representations of the recipient.
Based on a valuation report prepared by an investment and merchant banking
firm dated July 31, 1998, the Company has determined that the exercise price
of the Fell Warrant was at not less than fair market value.
Effective June 29, 1998, the number of directors of the Company was increased
to seven and Robert M. Fell, Alan Landsburg, Bill Roedy and Caesar Kimmel
were elected to the Board of Directors of the Company. Such persons were
designated by Mr. Fell pursuant to a Stockholders Agreement entered into in
conjunction with the sale of the Preferred Stock. David M. Marshall, Russell
M. Fine and Jess Rifkind remain as directors of the Company, as the designees
of Mr. Marshall and Mr. Fine. At such time as the Company retains a
permanent Chief Executive Officer, the number of directors of the Company
will be increased to eight and the Chief Executive Officer will be elected to
the Board of Directors. As a result of the ability to designate four
directors as provided in the Stockholders Agreement, Mr. Fell may be deemed
to have acquired control of the Company.
In conjunction the Preferred Stock financing, the Company incurred direct
costs related to such financing of $360,903, which were charged to additional
paid-in capital. Of such amount, $217,493 was paid to a firm for investment
advisory services. In addition, this firm has the right to acquire warrants
to purchase 72,498 shares of common stock for $.0625 per warrant, consisting
of 24,166 warrants exercisable at $.01 per share and 48,332 warrants
exercisable at $2.50 per share. The warrants are exercisable through June
2003, and have certain piggyback
33
<PAGE>
registration rights. The warrants were issued under Section 4(2) of the
Securities Act of 1933, as amended, based on the representations of the
recipient. The Company also paid cash finder's fees to other parties
aggregating $28,500.
34
<PAGE>
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
27 Financial Data Schedule (electronic filing only)
(b) Reports on Form 8-K - Three Months Ended September 30, 1998:
The Company filed a Current Report on Form 8-K on July 13, 1998, to
report a change in control of the Company in conjunction with a $5,500,000
preferred stock financing, consisting of the sale of 220,000 shares of
Series A Senior Convertible Preferred Stock at $25.00 per share on June 29,
1998 (Item 1).
35
<PAGE>
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant caused
this report to be signed on its behalf by the undersigned thereunto duly
authorized.
YOU BET INTERNATIONAL, INC.
---------------------------
(Registrant)
Date: November 10, 1998 By: /s/ ROBERT M. FELL
---------------------------
Robert M. Fell
Chief Executive Officer
(Duly Authorized Officer)
Date: November 10, 1998 By: /s/ PHILLIP HERMANN
---------------------------
Phillip Hermann
Executive Vice President
and Chief Financial Officer
(Principal Financial Officer)
36
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS INCLUDED IN THE COMPANY'S QUARTERLY
REPORT ON FORM 10-QSB FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1998, AND IS
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> SEP-30-1998
<CASH> 2,545,553
<SECURITIES> 0
<RECEIVABLES> 14,150
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 2,760,861
<PP&E> 1,528,873
<DEPRECIATION> 667,502
<TOTAL-ASSETS> 3,680,506
<CURRENT-LIABILITIES> 1,437,478
<BONDS> 117,806
0
240
<COMMON> 11,603
<OTHER-SE> 4,531,946
<TOTAL-LIABILITY-AND-EQUITY> 3,680,506
<SALES> 98,407
<TOTAL-REVENUES> 98,407
<CGS> 736,401
<TOTAL-COSTS> 736,401
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 322,717
<INCOME-PRETAX> (11,249,983)
<INCOME-TAX> 0
<INCOME-CONTINUING> (11,249,983)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (11,249,983)
<EPS-PRIMARY> (1.10)
<EPS-DILUTED> (1.10)
</TABLE>
