<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended June 30, 2000
or
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _____________ to __________________
Commission file number 0-18114
-------------------------------------
VIRTUALFUND.COM, INC.
---------------------
(Exact name of registrant as specified in its charter)
MINNESOTA 41-1612861
----------------------------------------- ------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
7100 Shady Oak Road
Eden Prairie, Minnesota 55344
------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (952) 941-8687
---------------------
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which registered
None
----------------------- __________________________________________
_______________________ __________________________________________
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $.01 per share
------------------------------------------------------------------------
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
[X] Yes [_] No
[COVER PAGE 1 OF 2]
<PAGE>
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [X]
The aggregate market value of the voting stock held by non-affiliates of the
registrant as of August 31, 2000 was $28,526,571 based on the last sale price
for the common stock as recorded by the National Association of Securities
Dealers on that date.
As of August 31, 2000, there were 17,003,204 shares of the registrant's common
stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE:
None.
[COVER PAGE 2 OF 2]
2
<PAGE>
INDEX
<TABLE>
<CAPTION>
Item 1. Business
<S> <C>
General Business.............................................................................. 3
Digital Graphics Business Unit (DGBU)....................................................... 4
Internet Services Business Unit (ISBU)...................................................... 5
Venture Resource Group subset of ISBU....................................................... 6
B2BXchange, Inc........................................................................... 6
RSPNetwork, Inc........................................................................... 11
Strategy / ISBU............................................................................... 12
The Global Market / ISBU...................................................................... 14
Products / ISBU / B2BXchange / RSPNetwork..................................................... 16
Product Development / ISBU.................................................................... 20
Sales and Marketing / ISBU.................................................................... 20
Revenue Model / ISBU / B2BXchange / RSPNetwork................................................ 22
ISBU's CEOS................................................................................. 22
B2BXchange.................................................................................. 22
RSPNetwork.................................................................................. 23
Pricing / B2BXchange / RSPNetwork............................................................. 23
B2BXchange.................................................................................. 23
RSPNetwork.................................................................................. 24
Manufacturing / ISBU.......................................................................... 24
Service and Support / ISBU.................................................................... 25
Competition / ISBU............................................................................ 25
Item 2. Properties............................................................................. 30
Item 3. Legal Proceedings...................................................................... 30
Item 4. Submission of Matters to a Vote of Security Holders.................................... 31
Part II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters.................. 32
Dividends..................................................................................... 32
Market Information............................................................................ 32
Item 6. Selected Financial Data................................................................ 33
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.. 34
Liquidity and Capital Resources............................................................... 34
Results of Operations......................................................................... 35
Sales and Marketing........................................................................... 37
Research and Development...................................................................... 37
General and Administrative.................................................................... 37
Goodwill Amortization......................................................................... 37
Interest Expense / Income..................................................................... 38
Income Taxes.................................................................................. 38
Foreign Currencies............................................................................ 38
Item 8. Financial Statements and Supplementary Data............................................ 38
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure... 38
Part III
Item 10. Directors and Executive Officers of the Registrant.................................... 39
Item 11. Executive Compensation................................................................ 39
Item 12. Security Ownership of Certain Beneficial Owners and Management........................ 39
Item 13. Certain Relationships and Related Transactions........................................ 39
Part IV.
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 10-K..................... 40
</TABLE>
3
<PAGE>
Cautionary Statement
We desire to take advantage of the "safe harbor" provisions contained in the
Private Securities Litigation Reform Act of 1995 (the "Act"). This Form 10-K
contains statements, which are intended as "forward-looking statements" within
the meaning of the Act. The words or phrases "expects", "will continue", "is
anticipated", "we believe", "estimate", "projects", "hope" or expressions of a
similar nature denote forward-looking statements. Those statements are subject
to certain risks and uncertainties that could cause actual results to differ
materially from historical results or results presently anticipated or
projected. Those risks and uncertainties include those discussed in this Form
10-K. We wish to caution you not to place undue reliance on forward-looking
statements. The factors listed in this Exhibit Form 10-K have affected the
Company's performance in the past and could affect future performance. Those
factors include, but are not limited to, the risk that a product may not be
available when expected or may contain technical difficulties; uncertain demand
for new or existing products; the impact of competitor's advertising, products
or pricing; availability of sources of financing; economic developments, both
domestically and internationally; new accounting standards; risks associated
with the acquisition and integration of new businesses; risks related to the
diversification into new Internet software and information technology business;
and, the impact of the initiation, defense and resolution of litigation. Anyone
deciding to invest in our common stock will take on financial risk. In deciding
whether to invest, individuals should carefully consider the factors included in
this Form 10-K and other information publicly available to them. If we are
unable to implement our plans successfully, we may lose our investment in one or
more of the programs described in this Form 10-K.
Item 1. BUSINESS.
------------------
General Business
VirtualFund.com, Inc., referred to as "VirtualFund," "VFND," "the Company,"
"us," "our," and "we" in this Form 10-K, is a development-stage Internet Venture
Resource Company actively engaged in business-to-business, or B2B, e-commerce.
Our goal is to become a leader in B2B e-commerce by establishing a presence in
major segments of the global marketplace. During the fiscal year ended June 30,
2000, we operated in two business segments: the Digital Graphics Business Unit
("DGBU") and the Internet Services Business Unit ("ISBU"). On October 21, 1999,
we announced our intention to sell the DGBU assets and to focus our future
efforts on further developing the ISBU (see Strategy/ISBU).
On June 13, 2000, we completed the sale of the DGBU assets to MacDermid
Incorporated ("MacDermid"). As a result, the DGBU operations are disclosed in
the financial data as discontinued operations. We believe that our new focus on
the Internet and B2B economy will allow us to capitalize on new opportunities
for the Internet-based technologies and business-to-business solutions.
The ISBU, started in fiscal 1999, designs and develops technology solutions for
the Internet-based B2B economy. ISBU products and technologies target Small
businesses, Middle-market companies and Enterprise workgroups ("SME companies").
In addition to other development stage activities, the ISBU currently includes
two subsidiaries wholly owned by VFND: (i) B2BXchange, Inc. ("B2BXchange") (this
subsidiary was formed in fiscal year 2001 after the initial product debut in
October 1999) and (ii) RSPNetwork, Inc. ("RSPNetwork"). In early fiscal year
2001, we created a new segment of activity within the ISBU. This activity is
currently referred to as the Venture Resource Group. As we define and expand our
involvement with and in development stage Internet companies and opportunities,
we ultimately intend to establish this emerging portion of our business as the
Venture Resource Business Unit ("VRBU").
As a startup in a new sector, our business strategy is rapidly evolving, as are
many aspects of e-commerce. Our strategy, goals and business objectives are
constantly being updated, both as B2B e-commerce grows and as our capabilities
develop. Information in this report, unless we say otherwise, is as of June 30,
2000, the end of our fiscal year.
The following diagram represents the structure of the Company as of June 30,
2000. The overarching goal of many of our recent B2B e-commerce activities is to
optimize and extend the amount of time a user spends accessing the services,
market tools, and B2B software applications available at www.B2BXchange.net. In
other words, we are working to optimize his or her use of B2BXchange.net with a
specific focus on increasing the "stickiness" of our B2B portal through
continuing updates which add new functionality.
4
<PAGE>
[The following organization chart includes VirtualFund.com at the top with two
lines connected to business units within the Company. On the left is the DGBU,
reflected as Discontinued Operations. On the right is a line to the ISBU which
consists of two divisions: (1) the Venture Resource Group on the left includes
B2BXchange, Inc. and RSPNetwork, Inc.; (2) the Commerce Environment Operating
System on the right focuses on our development programs. A better representation
of this chart is available within the HTML version of this Form 10-K.]
<TABLE>
<CAPTION>
<S> <C> <C> <C>
VirtualFund.com, Inc.
Nasdaq: VFND
|
|
------------------------------------
| |
Digital Graphics Business Unit (DGBU) |
Divested to MacDermid |
June 2000 |
|
[Discontinued Operations] |
|
|
Internet Services Business Unit (ISBU)
|
|
--------------------------------------------------------------------------------------
| |
Venture Resource Group Commerce Environment Operating System
(Consisting of two wholly owned subsidiaries) (CEOS)
| (An operating group within VFND)
| |
-------------------------------------------- |
| | |
B2BXchange, Inc. RSPNetwork, Inc. CEOS Development Programs
---------------- ---------------- -------------------------
. Responsible for the buildout of the . Responsible for developing . Online tools to promote web site
1,600+ VerticalXchange Platform of global Internet infrastructure "stickiness"
trading communities to grow their and systems integration support . Online Application Service
Global Market Power(TM) through a worldwide network Provider ("ASP") tools to generate
of affiliates operating as transaction revenue
. B2BXchange(TM)brand development Regional Services Providers . Strategic alliance partnering and
programs (RSPs) e-commerce tool integration
. Development of proprietary VFND
. RSPNetwork(TM)brand technologies which can drive
development programs recurring monthly revenues
</TABLE>
Digital Graphics Business Unit (DGBU)
-------------------------------------
VFND sold the assets of the DGBU to MacDermid in June 2000 for $50 million in
cash (less certain post-closing adjustments as agreed on by both companies). The
transaction provided for MacDermid to assume working capital assets (DGBU
inventory and receivables) and working capital liabilities (DGBU accounts
payable and accrued expenses). A post closing update on activity now reflects a
final settlement amount between $46 million and $48 million. As a result, the
DGBU operations are disclosed in our financial statements as discontinued
operations. The divestiture decision was based on our desire to focus on
developing and investing exclusively in the Internet space, including Internet,
Intranet and Extranet-based software solutions and related Internet
technologies.
5
<PAGE>
Internet Services Business Unit (ISBU)
--------------------------------------
The development stage programs of the ISBU are comprised of ongoing projects
which require project management, software development and product marketing
management, but are not yet ready for product launch or full-scale
organizational development. In some cases, these are early-stage research and
development projects which require few, if any, senior management resources.
These projects take advantage of the efficiencies gained by having an
organization that provides a development environment and corporate resources
that can be shared by the entire ISBU. We may initially release some or all of
these projects to the market in the form of applications or products made
available for use within B2BXchange.net. We expect that these projects will
directly benefit from the growth that is anticipated from the B2BXchange
branding initiatives. Ultimately, some of these projects may progress to include
their own specific market distribution channels and a growing "market awareness"
requiring organizational operations independent of our other brands while other
of these projects may be sold or abandoned.
Many of these technology development projects are making their way into our
Commerce Environment Operating System, described below. Active projects
currently include, but are not limited to XcomTOOLS, XchangeERP, XchangeEDI,
XchangeXML, StorageVault, and DataQuarry.
Commerce Environment Operating System (CEOS). Beginning in fiscal 1996, we
started building early components of an Internet-based platform of enabling
technologies and operating capabilities. This platform, now known as the
Commerce Environment Operating System, is intended to allow us to realize
economies of scale while rapidly developing 1,600+ vertical marketplaces. The
CEOS is a comprehensive, and yet evolving, suite of tools and services that
provides everything a company needs to electronically enable its business.
The Application Service Provider ("ASP") Opportunity. Internet technology can
----------------------------------------------------
help solve many businesses' problems while offering advantages over installed or
packaged business software. For many SME companies, these advantages often
include lower license fees ("per seat" licensing costs), lower support and
infrastructure costs, increased ease of updating, and enhanced connectivity.
Because of this, the ASP model has become an extremely effective and popular way
to provide these software applications. In the ASP model, software to be used
resides on central computers, and users access the software applications via an
industry-standard Web browser.
Although the ASP market has grown rapidly in the last two years, we believe that
the present ASP market providers are not organized for the way typical SME
companies are organized. Most current ASP market providers concentrate on a
single type of business software solution (for example, procurement, intranet or
electronic auctions), thus requiring SME companies to establish relationships
with multiple (vertical or niche tool) ASPs in an attempt to solve their diverse
software application needs. Most ASPs are typically serving only a single
"vertical market" by offering only a single type of software application.
Rather than targeting a narrow business need and providing a single tool such as
an Intranet or electronic auction, we are structuring an ASP model which
simultaneously embraces both broad horizontal market reach and vertical market
depth. We provide the first comprehensive suite of tools and services that aims
to provide everything an SME company needs to electronically enable its business
(our Commerce Environment Operating System). Our CEOS concept is an evolution
of the ASP model, and, like an ASP, the Company hosts applications for users to
access via a Web browser. However, our software applications are designed for
integration within our CEOS, making our solution more attractive and requiring
lower maintenance than buying a la carte software applications and services from
multiple ASP market providers.
6
<PAGE>
Venture Resource Group subset of the ISBU
-----------------------------------------
Our Venture Resource Group, formed in fiscal 2001, is currently part of our
ISBU. This group's activities include two wholly owned VFND subsidiaries: (i)
B2BXchange, Inc. ("B2BXchange") and (ii) RSPNetwork, Inc. ("RSPNetwork").
B2BXchange provides online business-to-business tools and services that enable
SME companies to become e-commerce enabled. B2BXchange provides:
. Tools for building private, partner and public Web sites and Web stores
. Vertical business-to-business e-commerce marketplace communities known
as VerticalXchanges
. Industry-specific eBusiness tools operating in an online integrated
environment.
B2BXchange, through our CEOS, offers subscribing companies and their employees
an evolving business operating environment, or Intranet-based platform,
including access to software tools and applications that is intended to help
them conduct B2B electronic commerce with their suppliers or "trading partners,"
collaborate with each other, and create and manage the content on their Web
sites. Our goal is to make B2BXchange a leading provider of Internet-based
business-to-business electronic commerce and communications between suppliers,
distributors, customers and employees.
RSPNetwork provides an expanding array of services, including but not limited
to, Internet hosting, systems management, security, technical support, systems
integration, and business consulting. We intend to continue to add capabilities
which create a comprehensive suite of secure and robust hosted Internet services
that meet the needs of businesses of most every size. Our RSPNetwork gives our
customers around-the-clock access to mission-critical business software
applications and data at lower costs than maintaining in-house technical staff,
systems and networks. RSPNetwork also uses the online tools and services of
B2BXchange to develop complete Extranet solutions, which may be tailored to
allow customers to communicate and transact business with their global trading
partners.
B2BXchange, Inc. - Market Maker for the B2B Economy
---------------------------------------------------
B2BXchange, Inc. is a growth-stage online software ASP that leverages the
Internet infrastructure and planned global integration capabilities of its
sister company, RSPNetwork, Inc., and solutions integration affiliates. The
B2BXchange solution located at http://www.b2bxchange.net first debuted in
October 1999. The product is based on a B2BXchange branded implementation of the
ISBU's CEOS platform that allows businesses to easily develop web sites and to
set up electronic "stores" in what are designed to be vertically integrated
trading communities on the Internet. These VerticalXchanges facilitate secure
online transactions with customers, suppliers and distributors. The platform of
vertical trading communities is intended to act as a comprehensive source of
information, interaction and electronic commerce for the buying and selling of
particular categories of goods and services over the Internet. Each of these
vertical trading communities is descriptively branded (for example,
myPrintingXchange.com, myRestaurantXchange.com, myManufacturingXchange.com, and
mySportAviationXchange.com), and focuses on one business sector, catering to
individuals with similar business and professional interests. Each vertical
trading community will continually evolve in an effort to attract professionals
responsible for selecting and purchasing industry-related products and services.
We believe that smaller suppliers will join one or more VerticalXchanges in
order to have access to new business opportunities in areas they previously
would not be able to reach and that this may generate even more suppliers as
overall market acceptance grows.
The B2BXchange business portal provides online access to electronic commerce
applications that enable businesses to optimize their business processes via the
Internet. Our goal is to become a leading provider of B2B e-commerce. We intend
to accomplish this by leveraging the Company's more than 16 years of internal
software-development and direct marketing experience (the Discontinued
Operations) to incorporate our proprietary business solutions and applications
and by integrating best of breed third party solutions. We do not develop all
of the applications we host, but rather we intend to weave a seamless fabric of
alliance partnerships with third party technology companies to integrate their
value-added application solutions into our CEOS, while creating cross-
functionality with our own proprietary applications.
The Company first previewed B2BXchange.net functionality in October 1999. A
second release occurred in April 2000. Release 2.35 was launched in August and
Release 2.4 was launched in October 2000. We anticipate Releases 2.45, 2.5, 2.55
and 2.6 will continue to expand the functionality of B2BXchange.net over the
next several quarters.
7
<PAGE>
Companies that subscribe to B2BXchange.net receive:
. a limited scope "free" company Intranet Web site (a private portion of
the Internet available to people within a specific company or area) for
employees;
. a secure, limited scope "free" Extranet (a private portion of the
Internet available to authorized individuals or businesses who must
have a password for access) for transacting business with their supply
chain and distribution channel trading partners; and
. a public, limited scope "free" Internet presence (the portion of the
Internet that is available to anyone who has a computer, an Internet
connection and "web browser" software or interface to the Internet)
within one of B2BXchange's more than 1,600 highly descriptive
VerticalXchange domains.
All of these "limited scope" and "free" services may be expanded to increased
access and utility at the option of the customer by entering the "fee-based"
levels of B2BXchange through a variety of Service Level Agreements.
The objective of these commerce-enabled business-to-business Web sites is to
create online trading communities within a targeted vertical market and to
provide information and access to individuals who share a common interest and
thus can benefit from subscribing to B2BXchange.net.
Ease of Use and Brand Identity. The software tools and applications have been
designed to empower non-technical users to create and maintain their own Web
sites and establish, update and administer their own e-commerce stores. Once a
B2BXchange e-commerce site has been created, customers may selectively upgrade
service by having their content linked to more than one of the 1,600+ brand-
identified Internet domains, thus creating customer activity in multiple trading
communities. Each branded domain focuses on one industry-specific market segment
of goods and services. Our goal is that these branded domains will result in
industry-specific vertical communities (VerticalXchanges) that will eventually
create a large and cohesive global online trading community for those who share
common interests. Sellers can build a community of interested buyers; buyers can
have a source for competitive products (as well as their own established
suppliers); and all companies may share industry-specific information, and
collaborate with vendors to increase productivity and streamline the process of
buying and selling.
Adopting a ski trail metaphor, we have specified two user interface paths for
subscribers (depending on their experience): (1) Green Path for novice users
and (2) Black Diamond for experienced or expert users. Each path provides
progressive benefits to subscribers. As the Green Path user becomes more
familiar with B2BXchange.net and begins using additional applications and
services within their selected VerticalXchange, they will progressively gain
access to expert functions. We believe that this will enable us to capture
subscribers with our ease-of-use and hopefully to generate more revenue as the
subscribers' experience level and needs increase.
SME companies provide the opportunity for tremendous content diversity. Smaller
suppliers and businesses represent depth and breadth which is most accessible
when organized in the hierarchical structure such as that provided by our
industry-specific VerticalXchanges. In spite of the growth in computer
ownership, a large percentage of the computer users within these SME companies
either do not have the technical inclination or the time to engage in putting
intricate content online themselves, at least not until they see the financial
results of such effort from a progressive, one-step-at-a-time approach.
Recognizing this, we have recently embraced a "Green Path/Novice User"
configuration within the requirements specification for Release 2.5 of
B2BXchange.net. We intend to continually simplify the user interface in order
to capture the novice Internet user and allow him or her to effectively use and
stay within the B2BXchange.net portal.
While the plan for Release 2.5 includes specific updates for XchangeBUILDER (the
online toolset for subscriber creation of Public, Partner and Private sites), we
feel that the potential for rapid "viral" growth (word-of-mouth) for
B2BXchange.net depends on ease of use. Accordingly, we focus extensively on the
user interface to make it as intuitive as possible and to maximize ease of use
for the end user. The functionality of the "ASP tools" and "framed applications"
available within an industry-specific VerticalXchange ("VX") enables even the
novice Internet user to create an operating commerce-enabled Web site. In
short, we believe that customer Web site creation needs to be very simple
("Green Path" for novice users) in order for prospective B2BXchange.net
subscribers to take the plunge to establish a Web presence, act as community
members, and post content in their own public, private and partner Web sites.
8
<PAGE>
We believe the easier the tools are to use, the higher percentage of upgrades we
will have to higher service levels. If the toolset is powerful but too complex
for the novice user to operate, prospective subscribers are likely to fail to
contribute to the customer content of B2BXchange.net. We believe that our
business model becomes much more effective when we simplify the use of these
powerful Internet tools for subscribers to easily become active customer content
participants.
The tools and services designed to capture and retain users include daily news
feeds, industry-specific discussion groups, access to publications and targeted
industry information, opportunities for online education as well as a growing
list of other services. In addition, B2BXchange.net provides business tools
that are intended to help customers transact business and at the same time
generate recurring monthly revenue for B2BXchange. The tools to drive
transaction revenue are specified to include professional buying and selling
tools, supply chain-management systems, distribution management tools or
Extranets, auction capabilities and software for developing online stores. In
conjunction with the deployment of these tools, B2BXchange plans to include an
advertising revenue model that is intended to focus on recurring monthly
revenues that can be generated at various levels within B2BXchange.net. The
following information outlines each user path and describes the tools specified
to capture users or drive transactions within each sector.
Green Path Novice Users
. Easy Site Creation - Users can develop their own Internet, Intranet or
Extranet sites without needing to know programming languages such as HTML.
. Focus on Participation and Adoption - Navigation at this level is planned to
be intuitive to encourage the subscriber to spend more time within the
VerticalXchange.
. Facilitate Viral Growth - By making it easy for subscribers to register for
participation in a VerticalXchange, members have an "Efficiency Incentive" to
tell other people about the advantages of B2BXchange.net and thus to
encourage participation by their employees, customers, and trading partners.
. Huge Specialized Content Potential - Content can be provided from news
organizations, trade publications, associations, member companies and others
interested in the specific industry. Contributions can be from both large and
small businesses.
. Prospect Database for Paying Customers - Within each VerticalXchange, our
sales department has access to a participating audience of industry-specific
users who are the best prospects for additional services.
. Broadcast in English worldwide and work to add local language content -While
today's Internet is primarily composed of English language content, this
trend is rapidly changing. Through B2BXchange.net, we plan to continue to
distribute English language content worldwide but also to engage alliance
partners and RSPNetwork affiliates to develop both translations and original
local language content.
Black Diamond Expert Users
. Deep & Specific - VX Content and applications available for expert users will
allow access to more sophisticated tools and supply chain relationships.
. Multiple recurring revenue opportunities exist as we implement industry-
specific applications, content, transactions and services. These include:
. ASP Transactions Revenue
. Commerce Enablement Revenue
. Solutions Integration Revenue
. Customization Revenue
. Web Design Revenue
. Hosting and Access Revenue
9
<PAGE>
B2BXchange.net embraces two types of tools: (1) tools to drive site "stickiness"
and (2) tools to drive transaction revenue.
Tools to Drive Site "Stickiness"
These tools focus on providing information and resources that encourage users to
stay longer within the VerticalXchange once they have entered. Whether for news
and information, participation in discussion groups about industry trends,
asking questions of industry experts, or just gathering data from associations
and publications, subscribers should find these tools a valuable enhancement to
their online market experience.
Tools to Drive Transaction Revenue
These tools are designed to help users conduct business - with their employees,
customers, suppliers and trading partners. Whether they are buying products from
their suppliers, providing information to their distribution channel or trading
partners, or developing a storefront to promote e-commerce to their customers,
B2BXchange.net is specified to offer transaction tools including: auctions,
distribution management tools, buying/selling tools, supply-chain management
capabilities and more.
VerticalXchanges and Advertising Revenue
At each level within B2BXchange.net and within each VerticalXchange, there are
multiple opportunities for developing recurring advertising revenue. We plan to
implement advanced advertising programs for subscribers, customers, and alliance
partners. Ultimately, we expect to be able to generate monthly recurring revenue
through data-mining-based advertising placed at various points throughout the
VerticalXchange sites which is targeted at specific types of participants or
specific user profiles.
Revenue Model. Casual users may browse the content without signing up until they
decide to participate. To access the tools of B2BXchange.net, participants must
"register" for the service by supplying information such as their name, company
name, market, and e-mail address. B2BXchange.net provides registered subscribers
with free basic versions of its software tools and applications, along with
specific allotted amounts of network disk space and Internet bandwidth (access
speed). Our intent is that free subscribers will find enough value in
B2BXchange.net that they will convert into paying customers and will pay monthly
fees. We charge monthly for enhanced software tools, upgraded application
features, more disk storage space for customer data, and more bandwidth
providing faster system access for users and their supply chain and distribution
channel trading partners. Monthly fees that are expected to be charged to these
customers range from $30 to $3,000 and up, depending on the level of service
required by the customer.
Diagram
The following summary diagram reflects the flow of content and activity between
the specified components of the B2BXchange.net platform.
There are four boxes within the chart, each representing an area discussed on
the previous page. The upper left box refers to Black Diamond Expert Users and
lists specific opportunities for revenue from these customers. The lower left
box describes the benefits for Green Path Novice Users. Both types of users are
connected to the VerticalXchange and thus to each other. This is represented on
the diagram by arrows pointing from VerticalXchange to each box.
The upper right box details the Tools to Drive Site "Stickiness" as outlined on
the previous page and the lower right box summarizes Tools to Drive Transaction
Revenue. These tools are used for both Black Diamond and Green Path users and
thus are connected via arrows through VerticalXchanges. The Advertising Revenue
which appears in the middle of the diagram indicates that we plan to offer
advertising at each level within B2BXchange.net. A better representation of this
chart is available within the HTML version of this Form 10-K.
10
<PAGE>
B2BXchange.net
<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------------------------------------------------
<S> <C>
-------------------------------------------------- -------------------------------------------------
Black Diamond Expert Users Tools to Drive Site "Stickiness"
-------------------------------------------------- -------------------------------------------------
. Deep & Specific . Experts, FAQ Database
. Repeat Customer Revenue . Discussion Groups
. ASP Transactions Revenue . Education
. Commerce Enablement Revenue . Publications
. Solutions Integration Revenue . Associations
. Customization Revenue . Daily News Feeds
. Web Design Revenue . Powerful Search Tools
. Hosting and Access Revenue . Global Content
-------------------------------------------------- -------------------------------------------------
/|\ /|\
| |
| |
| |
VerticalXchange / VerticalXchange / VerticalXchange / VerticalXchange / VerticalXchange / VerticalXchange
| |
| / \ |
| -------------------- ADVERTISING REVENUE -------------------- |
| \ / |
\|/ \|/
-------------------------------------------------- -------------------------------------------------
Green Path Novice Users Tools to Drive Transaction Revenue
-------------------------------------------------- -------------------------------------------------
. Easy Site Creation, Focus on Participation . VX Communities of Suppliers & Customers
. Facilitate Viral Growth . Professional Buying Tools
. Huge Specialized Content Potential . Professional Selling Tools
. Prospect Database for Paying Customers . Supply Chain XchangeEDI/XchangeXML
. Broadcast in English worldwide and work . Distribution Management Tools, Extranet
to add local language content . Storefront, XcomTOOLS
. Global Market Power(TM) . Auction Site, Green Path Content
-------------------------------------------------- -------------------------------------------------
------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
Subscriber Growth. By offering free, easy-to-use basic versions of electronic
commerce applications within B2BXchange.net and by allowing subscribers to
create their business web presence in one of over 1,600 industry-specific
branded domains, we believe that the increased productivity and cost savings
associated with doing business online will encourage both free registrations and
paying subscriptions within B2BXchange.net. As the free subscriber base grows
and as a percentage of companies are converted into paying customers, we believe
that B2BXchange.net will develop into a virtual business community whose members
can conduct electronic transactions with other registered businesses as well as
communicate and trade with outside business concerns. We also expect that
smaller suppliers will join one or more VerticalXchanges in order to have access
to new business opportunities in areas they previously would not have been able
to reach cost-effectively, and that this may generate even more suppliers as
overall market acceptance grows.
We also intend that subscriber growth should also be driven by VX Specialists
and Business Development Managers (BDMs). We currently employ a limited number
of VX Specialists, commission-based or salaried individuals who are experienced
in and have established contact within an industry-specific vertical market
segment. They are chartered to focus on building the industry-specific content
and subscriber base of particular vertical markets. BDMs are primarily
commission-based salespeople who are chartered with building a variety of
VerticalXchanges within a specific, but non-exclusive, geographic territory.
Their focus will be on turning "free" subscribers into paying customers by
building participation in one or more of the available VerticalXchanges.
B2BXchange.net software and services are expected to drive this cycle by
including buying and selling tools, supply chain XchangeEDI/XchangeXML software,
Extranet distribution management tools and XcomTOOLS commerce enabling software.
The commission-based BDMs are expected to be deployed in a decentralized fashion
with personnel stationed in numerous locations domestically and abroad.
11
<PAGE>
RSPNetwork, Inc. - The Global Extranet Experts(TM)
--------------------------------------------------
RSPNetwork, which was formed in December 1998 through our acquisition of K&R
Technical Services, Inc. (d/b/a TEAM Technologies), is a hosting, information
technology consulting and systems integrator. Today RSPNetwork is a provider of
a comprehensive suite of hosting and enhanced Internet professional services
designed to enable customers to setup and manage their Web sites more
effectively than with internally developed solutions. Its Web hosting services
provide secure and robust solutions to meet the needs of businesses of all sizes
as customer Web sites develop from low-end marketing "brochure-ware" to mission-
critical e-commerce uses. The tools of B2BXchange.net are available through an
"ASP" environment that is hosted and maintained within RSPNetwork's data centers
and co-location facilities. The ASP model, combined with the tools and
applications within B2BXchange, enable solutions that can give customers around-
the-clock access to mission-critical applications and data at lower costs than
maintaining in-house technical staff, systems and networks. In addition,
RSPNetwork has a number of long-term client relationships (including several
Fortune 500 companies) for which it provides systems and network integration
services and professional support services such as onsite training and staffing.
RSPNetwork provides the infrastructure that allows companies to create business
solutions on the Internet. In addition to providing business technology system
design, implementation and support, RSPNetwork provides hosting services that we
believe offer a high-quality, reliable blend of technological expertise,
partnering ability and an in-depth understanding of business process modeling.
We believe RSPNetwork is developing the infrastructure, resources, application
management expertise and industry relationships required to capitalize on this
emerging global market opportunity.
In addition to hosting B2BXchange.net and other mission-critical customized
applications, global affiliates of RSPNetwork can provide professional
Information Technology ("IT") services. These include design, development,
implementation, support and maintenance of Internet and other information
technology solutions on both a "fixed fee" and "time-and-materials" basis under
short-term and long-term contracts. RSPNetwork is chartered to focus on the
development of a global family of independent third-party systems integrator
affiliates, or Regional Service Providers, who sell tools developed by the
Company or who customize applications for customers using tools and services
provided by the Company. These online tools and services include, but are not
limited to, B2BXchange.net.
The RSPNetwork affiliate program is designed to recruit and train a global
network of third party solutions integrators who can, among other objectives,
assist with both the English and local language buildout of the more than 1,600
VerticalXchanges of B2BXchange.net. We believe that prospective affiliates of
RSPNetwork have a myriad of opportunities with which to generate incremental
revenue for their independent operations.
By recruiting and training affiliated RSPs worldwide, RSPNetwork intends to
develop a scalable source of integration resources and authorized resellers to
assist with the local language content of the VerticalXchange trading
communities. While the primary trading environment is designed to rebroadcast in
English from RSPNetwork co-location data centers worldwide, the addition of
local language B2BXchange.net content from many nations is a part of the long-
term RSPNetwork plan.
We believe RSPNetwork provides these advantages to its customers:
Performance and Reliability. RSPNetwork's hosting solutions help to ensure that
customer web sites, applications, and data are continuously online. RSPNetwork
operates a state-of-the-art Network Operating Center in Cedar Falls, Iowa, and
is expanding to include multiple co-location facilities which access the
capabilities of delivery partnerships with AboveNet Communications, and Onvoy
Communications. Together, these data and co-location centers provide high-
quality performance and reliability through features such as a redundant, high-
speed, secure network architecture, direct connections through the world's
largest Internet backbone providers, continuous system monitoring, alternate
power sources, environmental controls, regular data back-ups and fault-tolerant
hosting platforms. The network operations center monitors the RSPNetwork hosting
operations 24 hours a day, 7 days a week and allows its staff to minimize
service interruptions. Our data center features system administration to manage
user IDs, passwords, and email accounts; backup and recovery operations.
RSPNetwork uses Secure Sockets Layer ("SSL") encryption and digital certificates
from VeriSign to provide secure data transmission across the Internet. In
addition, our data center operations feature redundancy at multiple points to
reduce system downtime. We work 24/7 to provide the service which allows our
customer sites to remain open for business around-the-clock.
Through Remote Enterprise Management ("REM") for e-business, RSPNetwork offers
the ability for clients to outsource enterprise management. REM allows companies
to utilize our remote data center and expertise and manage
12
<PAGE>
LAN/WAN components and Web/Firewall services. REM monitors the status of
servers, networks, applications and databases, using "agents" that are installed
in a customer's mission-critical servers. If a problem is detected, the agents
send an alert. Prompt action is taken to resolve the problem based on the
customer's requirements.
Cost Savings. RSPNetwork's customers benefit from its focus on hosting and the
capital resources and labor investments that have been made to support its
hosting and enhanced Internet professional services. Customers attempting to
replicate RSPNetwork's performance and reliability would need to make
significant expenditures for equipment, personnel and dedicated Internet
bandwidth. RSPNetwork's solutions are significantly more cost-effective and
potentially more reliable than most in-house solutions deployed by SME
companies. Businesses with low-end application requirements and businesses whose
Internet operations require sophisticated mission-critical integration and
support can benefit through a step-by-step implementation approach. The online
business-to-business investment can be proven to provide immediate return on
investment with each incremental level of participation. Users no longer have
to commit to a huge IT budget in advance.
Customer Service. RSPNetwork is dedicated to providing the highest quality
customer service and seeks to provide rapid and accurate responses through
customer service personnel who can answer questions over the telephone or via e-
mail. RSPNetwork has invested in advanced customer service software and call
routing technology to streamline the customer service process. In addition,
RSPNetwork's customer service organization can address technical problems and
infrastructure support requirements of global customers 365 days a year.
For even more sophisticated users, RSPNetwork intends to provide traditional
customization and "Legacy" systems integration services using RSPNetwork
personnel and affiliates. Legacy systems are applications and data that have
been inherited from platforms and techniques earlier than current technology;
and yet, continue to serve a critical need within the customer's business. Many
companies who are migrating to new technology require customization services of
a vendor like RSPNetwork to enable the new technology to coexist and interact
with their existing systems. RSPNetwork bills customers based on the amount of
time and resources needed to complete individual customization and integration
projects. This customized approach can result in significantly higher fees than
the more automated B2BXchange.net revenue model.
Strategy / ISBU
Our strategy is to continue to internally develop or invest in promising
Internet opportunities and technologies worldwide which we believe offer high
growth and increased gross margin potential. As these opportunities and
technologies are developed, we intend to consider packaging them together into
branded Internet ventures and to consider seeking supplemental financing by
offering minority equity interests in such ventures. We believe that this
strategy may provide the ability to significantly increase overall shareholder
value as well as provide capital to support long-term growth of our subsidiaries
and our investments in emerging technologies.
The key elements of this strategy are:
Continue Our Acquisition Program. We intend to continue our acquisition
program, which began with our acquisition of K&R Technologies in fiscal 1999, to
capitalize on consolidation opportunities in the Internet professional services
market worldwide and to build our ISBU technical resources, systems and
infrastructure. Our goal is that these acquisitions will also result in
substantial operating synergies, greater internal growth and cost savings due to
economies of scale. We also hope to capitalize on certain "best practices" that
we may identify within our acquisitions to maintain our competitive advantage
and to ensure ongoing delivery of high quality Internet professional services to
our customers. As of October 4, 2000, we have entered into a Purchase Agreement
for a small software development operation in the Southwest region of the United
States which we intend to merge into our Continuing Operations. We have a period
of time in which we can continue due diligence and close this transaction
according to the terms of this Agreement. We are continuing to look for
additional Internet software development and systems integration acquisition
opportunities which we believe are a good fit for our Continuing Operations.
Several other "small acquisition" discussions are now progressing simultaneously
in the Midwest region of the United States.
With any growth plan, management constantly reassesses the timing and priority
of programs which are intended to contribute to top-line growth and bottom-line
results. With the progress we have now made on the platform performance of
B2BXchange, we currently anticipate shifting our priorities to emphasize the
commitment of a significant amount of management's time and our available
resources to build Continuing Operations through a series
13
<PAGE>
of acquisitions which are designed to expand and strengthen our technical
resources, extend our geographic reach and quickly grow the top-line performance
through consolidation of existing revenues from acquisition candidates.
Build the B2BXchange Brand. Building a strong B2BXchange brand identity within
many market segments with a broad array of VerticalXchanges conducting many-to-
many e-commerce transactions is a key element of our strategy. We believe that
this brand, which currently includes more than 1,600 industry-specific
descriptive Internet domain names, should be enhanced as B2BXchange.net rapidly
expands our current FastStart program. The FastStart program is a marketing
approach which uses dedicated internal resources for the rapid and simultaneous
build-out of dozens of VerticalXchanges. We intend to continue to build our
brand and strengthen recognition by marketing our full range of services through
an integrated communications program using public relations, online advertising
campaigns, targeted tradeshows, print ads, sponsorships, direct mail, and
cooperative promotions with key Internet hardware and services vendors. As of
October 2000, the program is known as the FastStart 33 and includes:
<TABLE>
<S> <C>
--------------------------------------------------------------------------------------------
myAgriculturelXchange.com myManufacturingXchange.com
--------------------------------------------------------------------------------------------
myAssociationXchange.com myPrintingXchange.com
--------------------------------------------------------------------------------------------
myBankingXchange.com myPublishingXchange.com
--------------------------------------------------------------------------------------------
myBoatingXchange.com myRacingXchange.com
--------------------------------------------------------------------------------------------
myComputerXchange.com myRealEstateXchange.com
--------------------------------------------------------------------------------------------
myConstructionXchange.com myRestaurantXchange.com
--------------------------------------------------------------------------------------------
myConsultantXchange.com myRetailXchange.com
--------------------------------------------------------------------------------------------
myElectronicsXchange.com mySailingXchange.com
--------------------------------------------------------------------------------------------
myFishingXchange.com mySportAviationXchange.com
--------------------------------------------------------------------------------------------
myGlobalTradeXchange.com mySystemsIntegratorXchange.com
--------------------------------------------------------------------------------------------
myGolfXchange.com myTradeshowXchange.com
--------------------------------------------------------------------------------------------
myGovernmentPurchasingXchange.com myTravelXchange.com
--------------------------------------------------------------------------------------------
myHeavyEquipmentXchange.com myWholeSaleXchange.com
--------------------------------------------------------------------------------------------
myHotelXchange.com myWriterXchange.com
--------------------------------------------------------------------------------------------
myInsuranceXchange.com myYachtingXchange.com
--------------------------------------------------------------------------------------------
myLegalServicesXchange.com iStartupXchange.com
--------------------------------------------------------------------------------------------
iResourceXchange.com
--------------------------------------------------------------------------------------------
</TABLE>
Soft Landing. We also believe that B2BXchange.net provides an opportunity for
Internet start-ups seeking a broader Internet audience than they are capable of
implementing or achieving themselves. By syndicating their technology, product,
service or content across the VerticalXchange trading communities,
B2BXchange.net alliance partners should be able to expand their market reach,
increase their selling opportunities and, perhaps, complete or even extend their
business offering. Many of these companies have unique application solutions or
value-added content but lack the resources and distribution system to maximize
their product's potential. B2BXchange.net offers many companies, which may not
be able to achieve critical mass in the marketplace on their own, a "soft
landing" for their efforts. We intend to solicit alliance partners on the basis
that, with the ".com" market fallout rate increasing, the syndication
opportunities available through B2BXchange.net could be more attractive to
technology company management and investors than many of the alternatives.
Based on revenue sharing syndication opportunities, there is no longer a
compelling reason to insist on "going it alone" in an effort to build a "dotcom"
brand. To facilitate these application integration efforts, we are now
initiating a technical development path for the CEOS which includes the addition
of, and modifications necessary to support, an Application Programmers Interface
("APIs"). The APIs enhancement of the CEOS and its implementation within
B2BXchange represents a long-term commitment to integration of third party
applications.
Build the RSPNetwork Brand. We intend to focus the activities for brand
building for RSPNetwork around the global RSPNetwork affiliate program. This
focus is intended to allow us to provide solutions for customers worldwide based
on regional expertise and support as we capitalize on acquisition or
partnerships with strong IT consulting companies or RSPs on a global basis. Such
entities' local presence combined with the capabilities of RSPNetwork, and the
alliance partnership between RSPNetwork and VFND's other companies, should help
create market awareness and word-of-mouth reputation for our IT services. We
also intend to create a value-added system for handling RFP (requests for
proposal), RFQ (requests for quotation), and bidding on IT services and
contracts. This program is planned to include matching RFPs to affiliates in
the relevant geographic or subject area who have the expertise to handle
customer requests. This program, to be based at www.RSPNetwork.com, is also
intended to become part of B2BXchange.net's
14
<PAGE>
"mySystemsIntegratorXchange.com." We are also planning to offer other value-
added services such as staff augmentation and REM services; however, these are
at an earlier stage of development.
With the significant performance improvements available through the October 2000
release of http://www.B2BXchange.net, Release 2.4, we now feel the product
functionality is sufficient for us to emphasize the B2BXchange Platform and
related toolset as we set out to expand the RSPNetwork affiliate program. By
utilizing the standardized tools of B2BXchange, RSPNetwork affiliates should be
able to grow their businesses within their respective regions and form
productive alliances with other affiliates in order to better service their
larger clients who have geographically dispersed operations.
The addition of the APIs to our CEOS will also facilitate the customization and
integration efforts of RSPNetwork affiliates worldwide. The following graphic
reflects the systems architecture we are moving toward with the specifications
of Release 2.5. The illustration is representative of the flexible model
required for continually adding third party software applications and services
to the Massively Interactive Content, which is the foundation of the B2BXchange
Platform. Supporting RSPNetwork affiliates with published APIs is expected to
enhance the RSPNetwork brand value for both affiliates and their customers going
forward.
Diagram Description
A graphic that shows the current B2BXchange Architecture is omitted from this
Form 10-K; it can be found on our Web site at
http://www.virtualfund.com/pressroom/10K-chart.htm. This diagram shows three
layers within the current B2BXchange Architecture, which is subject to change
without notice: Application Layer; Services Layer; and Persistence Layer. The
Application Layer components provide end user functionality; the Services Layer
components support the functionality required for multiple applications; and the
Persistence Layer components provide data storage and retrieval functionality.
Our Application Layer (end user functionality layer) has three boxes based on
the classifications of tools offered on B2BXchange.net: (1) Commerce, (2)
Collaboration, and (3) Content. The Commerce box includes tools that allow
electronic transactions, such as XcomTOOLS, Auctions and XchangeBUILDER.
Collaboration includes tools that enable users to communicate more effectively,
such as Discussion Groups and XchangeEXPERT knowledge database software. Content
includes tools that provide information, such as Personal Center (news, weather,
etc.), File Center, and XchangeADMIN for administrative functions.
The Services Layer (components that support the functionality required for
multiple applications) controls the manner in which the Applications Layer
communicates to the database. For example, XchangeBUILDER would connect to
several of the services through the appropriate APIs in order to communicate
correctly with the database. Another application, such as XchangeEXPERT, might
connect to the same or different services. This would also be done through the
appropriate APIs. The Services Layer provides such features as session
security, VerticalXchanges, personalization, entity management, news, logging,
system metrics, billing, search engine, proxy service, store, and e-mail.
The Persistence Layer is the B2BXchange database that is the heart of
B2BXchange.net. The APIs provide a set of development specifications which will
allow any internally developed or third-party application to be easily
integrated into the CEOS. The PODB, or Persistence Object Database, allows
applications to save and retrieve information from the database.
Expand Subscriber Growth. B2BXchange.net reaches subscribers through multiple
methods including Internet-based marketing, direct mail, direct contact at
tradeshows, indirect contact through referrals, and inbound and outbound
telephone contact. B2BXchange intends to continue expanding these methods to
further enhance its ability to attract customers. The planned efforts include
the deployment of a worldwide commission-based Business Development Manager and
Business Development Partner ("BDM") program as discussed earlier.
Leverage the B2BXchange and RSPNetwork Customer Bases. B2BXchange and RSPNetwork
both intend to capitalize on the enhanced revenue potential of their respective
customer bases and of any future acquisitions by leveraging the numerous cross-
selling opportunities of the expanded line of branded service offerings.
B2BXchange and RSPNetwork intend to use multiple sales methods, including a
direct sales force, BDMs and RSPNetwork affiliates to target specific customer
segments within the diverse customer base for deployment of new technologies.
These activities allow us to cross-sell and upsell IT services and access to
software applications, as we build recurring monthly revenues. We also plan to
coordinate the efforts of both the B2BXchange and RSPNetwork sales forces to
increase customer leads and referrals globally.
15
<PAGE>
Develop Strategic Relationships. We have established and continue to seek
strategic relationships that enhance our infrastructure and distribution
capabilities and broaden our product offerings. We believe that our alliance
partner and supplier arrangements with companies such as Microsoft Corporation,
UUNET Technologies, Computer Associates, AboveNet Communications, Check Point,
Sun Microsystems, and Oracle Corporation, among others, enable us to provide
complete, scalable and reliable ASP/hosting solutions to our customers. Some of
these relationships are with companies who have divisions or operations that may
compete with us in certain markets. We believe that this will not hinder our
business relationship with these companies.
The Global Market / ISBU
Many of the estimated 25 million SME companies operating globally are
intimidated by the Internet. They know they need to use it to run their
businesses to stay competitive. Their customers and trading partners are
starting to demand it, yet they are slow to adopt new methods due to the
technical challenges and are reluctant to risk changing their business
practices. We are developing a number of solutions that can facilitate their
implementation of new business-to-business technologies.
The U.S. Small Business Administration ("SBA") estimates that business-to-
business electronic commerce transactions accounted for between $17 billion and
$24.1 billion in 1998. However, less than 30 percent of the nation's small
businesses accept orders on the Web, and far fewer can process credit card
transactions. SME companies represent a significant economic force: more than
half the Gross Domestic Product of the U.S.A. according to the SBA.
These companies are very sensitive to the cost of growing their businesses
online. And with good reason: Gartner Group estimates that the average commerce-
enabled corporate web site costs $1 million to get up and running effectively.
Even packaged software becomes prohibitive once the typical three to five
dollars in implementation costs for every dollar of software license fees are
accounted for.
Growth of the Internet. The Internet is experiencing significant growth and is
emerging as a global medium for communications and commerce. International Data
Corporation ("IDC") estimates that the number of global World Wide Web users
will increase from about 97 million at the end of 1998 to about 320 million by
the end of 2002, a 34.6% compounded annual growth rate. IDC also estimates that
the number of Web users in the United States will increase from approximately 53
million at the end of 1998 to about 136 million by the end of 2002, a 27.4%
compounded annual growth rate. During this same period, the number of business
web sites in the United States is projected by industry analysts to increase
from approximately 650,000 in 1998 to approximately 2.6 million in 2002, a 41.1%
compounded annual growth rate. This growth in the number of Web users and number
of web sites is being driven by a number of factors including:
. the large and growing installed base of personal computers;
. easier and less expensive alternatives for Internet access;
. improvements in the speed, reliability and security of the Internet;
. electronic commerce-enabling technologies;
. higher quality and more diverse content on Web sites;
. an increase in the number of networked applications; and
. the proliferation of broadband technologies that promise faster, more
convenient access to the Internet.
Growth in Business-to-Business Use of the Internet. The dramatic growth in usage
combined with enhanced functionality and accessibility have made the Internet an
increasingly attractive medium for businesses to:
. disseminate information;
. engage in e-commerce;
. build customer relationships;
. streamline and automate data-intensive processes; and
. communicate more efficiently with dispersed employees.
A September 1999 Goldman Sachs Investment Research Report estimates that total
business-to-business revenue will grow from $114 billion in 1999 to $1.5
trillion in 2004, a 67.5% compounded annual growth rate.
16
<PAGE>
In the last several years, a large number of businesses have emerged with
operating models that are exclusively dependent on the Internet. More
importantly, traditional businesses of all sizes are working quickly to
establish a Web presence and to learn to conduct business-to-business e-commerce
on the Internet. Many of these businesses established their initial Web-based
presence with a simple, static electronic "brochure" for marketing purposes. As
they become more familiar with the Internet as a communications platform, an
increasing number of businesses are implementing a more complex, mission-
critical B2B-centered presence on the Internet that encompasses sales, customer
service, customer acquisition and retention, employee communications and e-
commerce between suppliers and business partners.
Trend Toward Broadband Communications. We believe that existing trends toward
increase network bandwidth for wired, wireless, and satellite-based information
networks bode well for our business strategies. As an example, broadband
network infrastructure is growing geometrically. According to EMC Corporation,:
"A huge buildout of the fiber optic networks will make it seem as
though bandwidth is free. The Web infrastructure will bulk up
tremendously in the next five years with effective use of fiber-
optic cable miles expected to jump from 20 million to 20 billion
worldwide. The capacity of each fiber can be boosted a
thousandfold by dense Wavelength Division Multiplexing (WDM)
which uses multiple lasers and transmits several wavelengths of
light (lamdas) simultaneously over a single optical fiber. Each
signal travels within its unique color band, which is modulated
by the data (text, voice, video, etc.). WDM enables the existing
fiber infrastructure of the telephone companies and other
carriers to be dramatically increased. Vendors have announced WDM
system, or DWDM (dense WDM) systems, as they are also called,
that can support more than 150 wavelengths, each carrying up to
10 Gbps (gigabits per second) Such systems provide more than a
terabit per second of data transmission on one optical strand
thinner than a human hair."
The net effect of all of this technology focus on the buildout of these
superfast broadband delivery infrastructures by global communications companies:
the future global availability of what we call "massively interactive content."
VFND is now building the tools and refining the service offering of
B2BXchange.net and our CEOS to become a syndicated provider of our own brand of
Massively Interactive Content.
Trend Toward Outsourcing. According to a leading industry analyst, U.S. firms
(including SME companies) are now spending approximately 25% of their overall
information technology ("IT") budgets on outsourcing services. These services
include packaged application software implementation and support, customer
support and network development and maintenance. We believe that the reasons
for the growth in outsourcing include:
. the desire of companies to focus on their core competencies;
. the increased costs that businesses experience in developing,
maintaining and upgrading their networks and software applications;
. the fast pace of technological change that shortens time to
obsolescence and increases capital expenditures as companies attempt
to capitalize on leading-edge technologies;
. the challenges faced by companies in hiring, motivating and retaining
qualified software development specialists, network engineers and
other IT employees; and
. the desire of companies to reduce business deployment times and risk.
Trend Toward Web Hosting Outsourcing. Many SME companies lack the resources and
expertise to cost-effectively develop and to continually enhance and host their
own Web sites with evolving technologies while maintaining a fault-tolerant and
scalable network infrastructure. SME companies typically lack the skilled
technical resources and capital to design their own commerce-enabled Web sites
and install, maintain and globally monitor their own Web servers and Internet
connectivity. Large businesses typically require state-of-the-art facilities and
networks that are monitored and managed around the clock by experts in Internet
technology and that can be upgraded and scaled to meet the needs of mission-
critical Internet applications. As a result, enterprises of all sizes are
seeking outsourcing arrangements to help build effective Web sites, extend the
global use of current sites and to improve site reliability and performance,
while enjoying continuous monitoring of their worldwide Internet operations with
reduced costs.
17
<PAGE>
Trend Toward Application Hosting Outsourcing. Many SME companies and other
businesses increasingly face competitive demands to automate key business
processes. In the last several years, this problem has been exacerbated by a
shortage of skilled technical and IT professionals worldwide. Until recently,
implementation of Internet applications required development of customized in-
house software applications or the customization of existing prepackaged
software, making such customized implementations very costly and complex. This
also made implementation time frames and costs unpredictable. Because of this,
businesses of all sizes are expected to continue to outsource the hosting of
these and other software applications to improve core business processes, reduce
costs and enhance global reach.
B2BXchange combines the power of the ASP model with the electronic commerce
market model. The Delphi Group found, in a survey of Fortune 1000 companies:
"Nearly 40% of all respondents are already participating in a
trading community, and fully two thirds participation is
anticipated by year end 2000. This is telling in the perception
of the importance and inevitability of the role of trading
communities to facilitate the business process outside the brick
and mortar walls of the average organization. Just short of 90%
is expected to be participating by the end of 2001."
We believe that where the Fortune 1000 leads, the rest of the market should
follow, and the SME companies who supply the big companies will be encouraged,
if not forced, to participate in Internet-based online markets.
The e-market opportunity is growing dramatically. Morgan Stanley Dean Witter
projects that corporate goods obtained through auction will grow from one
percent in 1999 to five percent by 2003. A survey by Purchasing Magazine found
that eight percent of purchasing managers had joined an online marketplace, and
71% said they planned to. Goldman Sachs found that 54% of enterprises are now
doing some purchasing on the Web. Further, 43% expect to spend more than
$500,000 on B2B software in 2000, concentrating mostly on e-markets, supply
chain, and distribution capabilities. Most respondents indicated they expect to
spend up to 25% of their e-commerce budgets on Internet-based solutions.
With the 1,600+ VerticalXchange Platform providing a broad infrastructure for e-
marketplaces, we plan to position B2BXchange.net as a familiar destination where
companies of all sizes can transact business securely as well as collaborate
with peers and find pertinent industry-focused information. Zona Research said,
"We feel that vertical industry sites offer unique advantages that come from
building online communities, including working with like minded buyers and
suppliers, and enabling the exchange of industry-specific news and information."
eMarketer believes that 34% of business-to-business e-commerce will be
transacted through public exchanges by 2004. Estimates by other researchers
range from 30.5% by the Yankee Group to 63.4% by Keenan Vision.
The Global Opportunity. The B2BXchange opportunity is even larger when
international markets are considered. As an example, Access Media found that the
market for Internet, IT, and communications-related products and services among
SME companies in France, Germany, and the United Kingdom is $40 billion, with
online services rising from $5 billion in 2000 to $9 billion in 2002. IDC says
ASP spending will grow to $7.8 billion for a 92 percent compound annual growth
rate from 1999 to 2004.
Through the programs of B2BXchange, Inc. and RSPNetwork, Inc., we intend to gain
first a foothold (and eventually a meaningful position) within in the following
high growth markets. Our hosting, access, data storage, and regulated bandwidth
revenue streams are expected to come from a market that is estimated to be
$16.8 billion in 2002. Our advertising revenue stream partakes in the online
business-to-business ad revenue market, which analysts predict will grow to $720
million in 2000. Our application rental revenue streams should benefit from the
tenfold growth Dataquest projects for ASP revenue, which is expected to grow to
$22.7 billion in 2003. We expect our transaction revenue stream to take
advantage of the nearly $850 billion in e-marketplace transactions by 2004
predicted by the Yankee Group.
Our strategy is to prove our core business and revenue models domestically and
then aggressively market internationally. In preparation for international
expansion, we are actively seeking global marketing partners to build the
B2BXchange and RSPNetwork brands overseas. The B2BXchange platform is readily
modifiable to support multilingual content and can empower these regional
alliance partners to leverage our investment in Internet technology by providing
global e-market content in English while adding localized content in the native
language(s) of each region. Bringing overseas subscribers into the B2BXchange
network and enabling them to find new trading partners and transact business
online should enhance the network effect and Global Market Power(TM) for all
B2BXchange.net and RSPNetwork customers.
18
<PAGE>
Products / ISBU / B2BXchange / RSPNetwork
ISBU's Commerce Environment Operating System. The CEOS, as described in Internet
Services Business Unit (ISBU) section earlier in this Form 10-K, provides the
infrastructure for our business-to-business Internet solutions under license.
CEOS platform-based tools and applications are currently specified to include,
but are not limited to:
XchangeBUILDER(TM) - Easy-to-use template-based system for Web design. This
completely automated system allows untrained users to create, edit, monitor and
manage professional-looking Web sites without knowing complicated developer
languages or file-transfer processes. XchangeBUILDER allows users to create and
modify content using professional templates, and enables real-time modifications
to personal, private and partner Web sites. No HTML (hypertext markup language)
experience is required. The continued simplification of the user interface of
B2BXchange.net is a high priority for our entire team.
XchangeEXPERT(TM) - Dynamic knowledge database. This dynamic knowledge database
allows companies to capture, collect and disseminate information and knowledge
using a topical online database. Information associated with projects, processes
and best practices can be collected and retained in a set of tightly organized,
and linked databases that support key corporate initiatives and this information
can be made available to anyone in the company. "Experts" provide the input
through question and answer exchanges. Users seeking answers to questions can
query existing knowledge bases or submit a question to one or more designated
experts. Experts edit and respond to questions in a secure area. Once the answer
is complete, an e-mail notification is sent to the questioner and the database
category or topic is automatically updated. Answers in the knowledge base can
contain attached documents, links to additional resources on the company
Intranet, or links to public sites on the Internet.
XchangeSEARCH(TM) - Tools for finding information on the Internet quickly. This
easy-to-use search engine enables users to perform complex searches more quickly
and easily within B2BXchange.net. There are many kinds of searches which we
believe customers will want to perform on the data within the "Public,"
"Private" and "Partner" portions of the Web sites contained in our fault-
tolerant data centers. As we add significant subscriber content, we plan to add
a more powerful set of features to our VXsearch software within B2BXchange.net.
The VX software allows the user to search not only for keywords, but also to
search by pre-set "context variables," allowing the keyword search to be
conducted only within one or more specified VerticalXchanges. For example, a
user might search for the keyword "Cobra" only within the
"myMuscleCarXchange.com" versus "myGolfXchange.com" or
"myAnimalBreederXchange.com." Ultimately, we plan to have the ability to exclude
variables as well as to incorporate various types of delimiters for VXsearch
functions. Since we control both the content location and the data structure, we
can create a search tool with tighter coupling to the data and thus let the
system do the sorting and elimination instead of the searcher.
We plan to add numerous search features to the VXsearch tool that empower a user
when they run an alphabetical list of all VerticalXchange subscribers to
B2BXchange.net. As we grow, we will need to have this "List All Sites"
procedure allow us to specify one letter through another letter in case the user
wants to just pull up all Web sites that begin with the letter "M" through the
letter "P", whether within an industry-specific VerticalXchange or as a subset
of the entire alpha-sorted database. Additional functionality should offer
vendors a simple, plain English, keyword feature for increasing the yield of
VXsearch results. We will endeavor to continue to increase the effectiveness
available when searching VerticalXchange "Description" fields by specifying
fields such as city, county, state, country, zip code, area code, and other
context delimiters which may become more useful as the content database becomes
truly massive. As the scope of our managed Internet content grows, these types
of features can save valuable time for the user suffering from information
overload.
XcomTOOLS(TM) - Comprehensive Tools for commerce-enabling businesses via the
Web. XcomTOOLS is a powerful suite of electronic commerce software developed by
VFND which incorporates integrated sales management tools, supports multiple
languages for global web site sales, allows multiple warehouses and shipping
locations, and accepts instant credit card transactions and open accounts.
Modules include an electronic showroom and catalog where customers can browse
and order products and a site management tool to create specific targeted
promotions to allow individual personalized and customized marketing. Store,
product, and customer-specific sales promotions allow individual targeted
selling based on customer history or buying habits. Site administrators can
create tailored sales and product line reports, which can be saved and run
automatically. An inventory management tool provides inventory
19
<PAGE>
visibility for multiple warehouses and multiple shipping locations. An
integrated sales management tool provides account information for sales
representatives. B2BXchange licenses the proprietary XcomTOOLS application, as
well as several other tools listed here, from VFND as part of the CEOS,
platform-based VerticalXchange solution.
XchangeERP(TM) - Comprehensive tools for purchasing goods and services.
Enterprise resources are the goods and services required to operate a company,
ranging from items such as information technology, telecommunications equipment
and professional services, to recurring items, such as office equipment,
supplies, travel expenses, maintenance and repairs. Today, most SME companies
and other businesses use paper-based methods to acquire and manage operating
resources. Much of the process is costly and time consuming and often requires a
clerk to re-enter data. It can become an administrative logjam as various
individuals and departments are involved in the approval cycle.
Enterprise Resource Planning ("ERP") software, which is usually installed in a
company's Information Technology department and is accessed through the
company's internal network, addresses the issues of procuring goods and services
and tracking them through a system. ERP software, which provides a modern,
electronic infrastructure that allows corporations to manage resources
strategically, is generally a very costly expenditure for SME companies to
justify. XchangeERP, which is currently in the concept development and
partnering stage, is expected to offer not only traditional ERP functions but
also to leverage Internet technologies to make it affordable through a secure
connection to the Internet. When released, we expect that participating SME
companies will pay a monthly subscription fee to use XchangeERP and lower
overall transaction costs. XchangeERP is intended to be more than just another
electronic procurement solution because we expect it to help streamline the
management of most operating resources, including capital equipment, services,
and other items requiring approvals through the internal business requisition
processes. XchangeERP is intended to provide a comprehensive system for managing
most items requiring approval within one integrated and secure system accessible
via the Internet.
XchangeEDI(TM) and XchangeXML(TM) - Protocols and formats for exchanging
business data. With the fast pace of business today, we believe that the more
rapidly SME companies and other businesses get a handle on supply chain
management by exchanging Electronic Data Interchange ("EDI") and eXtensible
Markup Language ("XML") formatted information with their vendors and suppliers,
the more streamlined their businesses will become. Protocols and formats provide
the capabilities to let businesses work in a global marketplace at a reasonable
cost that even small businesses can afford. The cost savings and productivity
increases that come with automated supply chain management systems such as
XchangeEDI and XchangeXML can offset the monthly fees and the reasonable upfront
costs involved in embracing a system of standardized data communications.
Using XchangeEDI and XchangeXML through B2BXchange.net provides timely access to
key business information at every point in the supply chain. Trading partners
could take control of their inventory, receive purchase orders directly into
their accounting and back office systems, and generate and transmit automated
order confirmations, shipping notices and invoices. This automated and
streamlined transaction system could allow "just-in-time" inventory control and
make invoicing faster and more accurate. Document tracking reports can become a
part of the total system so that information is available online in real-time.
Once businesses become electronically enabled with XchangeEDI or XchangeXML,
they can share information with other similarly enabled companies, transact
online business efficiently through B2BXchange.net, and take advantage of the
global reach of the Internet. The ISBU has numerous programs underway which
should intersect these emerging online technologies of the future.
StorageVault(TM) - Online data storage and delivery solution. Our development of
a data storage and data delivery solution, StorageVault, is anticipated to
provide a secure and cost-effective Internet-based alternative to physical
document storage, delivery and faxing. The StorageVault solution is currently
being designed to provide reliable and secure storage, delivery and tracking of
digital files using encrypted file transport/storage and digital certificates
for identity verification purposes. The StorageVault solution is intended to
allow companies to create a secure storage area on the Internet to deposit and
retrieve documents. This solution also provides automatic backup and restore
capabilities to allow users to perform automated backups to StorageVault.
DataQuarry(TM) - Web-based data mining. DataQuarry is planned as an Internet-
based data mining system to help businesses understand customer buying patterns
that can lead to strong strategic and tactical product and sales decisions. The
system is specified to help companies gather, store, sort and analyze large
quantities of product and sales data with the goal of understanding their
customers' purchasing habits. DataQuarry is expected to keep track of multiple
customer purchases by utilizing MarketBasket(TM) technology to determine which
products are typically purchased together, which are rarely purchased, and which
are purchased more often in a particular geographical area. When paired with
customer demographic information, companies could use DataQuarry's
MasterProfile(TM) feature to
20
<PAGE>
quickly determine which types of customers purchase particular items based on
psychographic marketing profiles -- the sum total of the psychological,
economic, educational and socioeconomic background of an individual customer.
netIntersection(TM) - Communities based on geographical area or common
interests. netIntersection is intended to allow Internet users to create their
own online "hubs" populated by people and organizations with similar interests.
These virtual communities can be based on unlimited themes, from geographic
areas to vertical industries to specific popular themes such as music, education
or politics. These communities are expected to be global, supporting
multilingual character sets and hosted at high-bandwidth facilities with fast
international data connections. Internet users of like minds come together on a
community site to share ideas, interests, and expertise, and to publish content,
files and software accessible to other users with common interests.
netIntersection plans to offer members free disk space to set up the new
community, along with free e-mail accounts, web site design tools, content
management tools, customized threaded discussion groups, live real-time chat
boards, personal planners, and more. After creating an initial community of
interest, a "subscriber" could upgrade to "customer" status and receive fee-
based premium features and enhancements. These upgrades are expected to include
a unique domain name, increased disk space, electronic commerce capabilities,
automatic submission of the site to search engines, aggregation of topically-
focused third-party content, enhanced content management tools, secure digital
file delivery, and collaborative workgroup software. netIntersection expects to
allow subscribers and customers to create and maintain their own targeted and
focused virtual space where they can interact with others of similar interests
and create their own growing community on the Internet. Components of this
project have been repurposed and incorporated into B2BXchange.net. We expect to
revitalize and redirect the netIntersection project with components of the CEOS
at the appropriate time.
netAppliances(TM) - Data assimilation and communication. We are working on
innovative new user interfaces for accessing and utilizing large amounts of
Internet data. While the focus of the software is to facilitate ease of use for
novice and non-technical users, our systems approach leverages some level of
highly specialized hardware. Whether in the emerging world of the wireless web
or the realm of home or office netAppliances, we believe our software efforts
will eventually be embedded in the Internet access habits of a large cross-
section of users of the Internet worldwide. We currently plan to move into
limited beta test with an initial product offering in this sector late in the
December 2000 quarter.
B2BXchange, Inc.. B2BXchange.net is an Internet portal which allows SME
companies and other businesses to easily create and operate e-commerce Web sites
to facilitate secure online transactions with their customers and trading
partners. While we expect some SME companies to use B2BXchange.net as their
sole Web presence, other businesses are expected to use our VX Platform to
supplement their existing Web site(s) by linking to them from their site at
B2BXchange.net. By aggregating these commerce-enabled, SME companies' Web sites
within industry-specific vertical market segments we intend to create virtual
trading communities that can enhance a subscribing company's chances of business
success on the Internet. B2BXchange.net provides free basic versions of
software tools and applications, along with specific allotted amounts of network
disk space usage and Internet bandwidth to subscribers. Subscribers who exceed
those allotted amounts become paying Customers who are charged a monthly fee for
upgraded tool and application features, more disk storage space for their data,
and more network bandwidth for faster system access by their employees and
trading partners. Monthly fees range from $30 to $3,000 and up, depending on the
Service Level Agreement ("SLA") selected.
Future Releases of B2BXchange.net. Planned releases will focus on tools of
simplification for the user including implementation of a solutions-oriented
approach that provides step-by-step instructions for creating and using the
environments based on the skill level of the user. The "Green Path" is
designated for the novice or uninitiated user who wants to get listed in a
VerticalXchange and quickly set up a site. This level is planned to be intuitive
enough that people can get into the VerticalXchange quickly. The "Black Diamond
Path" is for advanced or expert users who have more experience with the Internet
and want to delve into more features of XchangeBUILDER and, perhaps, create an
Intranet or a global Extranet.
Release numbers 2.5 and 2.6 are specified to offer tools and applications
targeted at empowering the supply side, including expanded VXauction
capabilities and the implementation of buying/selling functionality including
the e-Purchasing tools of an alliance partner, Metiom (formerly Intelysis).
These tools enable electronic inter-networking of buyers and suppliers by
allowing purchasers to order goods and services online directly from suppliers'
electronic catalogs. This solution should provide the foundation for electronic
marketplaces where buyers and sellers of all sizes and levels of technological
sophistication can trade. Buyers can search, compare and purchase goods and
services from a vast array of suppliers, create purchase orders, choose a
payment method, and track and control their purchasing. While the Metiom
ConnectTrade procurement capabilities will not be introduced until Release 2.5
to 2.6, we expect our alliance with Metiom to yield benefits to our users and
our shareholders for many years to come.
21
<PAGE>
RSPNetwork, Inc. - Professional Services. Complete IT services for SME companies
and other businesses. RSPNetwork provides professional services on both a fixed
fee and time-and-materials basis under short-term and long-term contracts.
Services include design, development, implementation, support and maintenance of
information technology solutions with an emphasis on Internet solutions.
RSPNetwork provides Web hosting from $100 to $2,000 per month and up. RSPNetwork
offers remote enterprise management ("REM") that uses its centralized employees
to monitor customer systems from its Network Operations Center in Cedar Falls,
Iowa. Fees for this service start at $1,125 per month and increase with the size
and complexity of the assignment. RSPNetwork also provides staff augmentation
services that supply its technical resources to customers on a contract basis.
Billing rates for professional services vary with the degree of complexity of
the assignment and the experience of the required professionals. Standard
billing rates range from $50 per hour to $200 per hour.
Product Development / ISBU
Our success depends on making ongoing investments in product development to
ensure the timely introduction of leading edge Internet-based application
services in response to changes in technology, market demands and customer
requirements. VFND is committed to acquiring, designing, commercializing and
upgrading new and existing Internet-based services that generate recurring
monthly revenue, attract new customers, and gain more revenue from existing
customers by allowing the sales department to cross-sell and upsell.
As of June 30, 2000, we employed approximately 45 people in Internet services
product development and product/project management activities. Our Internet
services development organization consists of multiple project teams of software
developers and product marketing specialists focused on both development stage
Internet services and services currently being marketed and sold.
The Company has spent $3.7 million in the past three years in software
development and plans to increase spending in this area in the next several
years.
Critical factors in the delivery of our services include: staying competitive
technologically, recruitment and retention of consulting and development
professionals, and the continued development of the perception of the Internet
as an appropriate place to transact mission-critical business. We have a proven
track record for meeting technology challenges and in attracting and retaining
talented people.
Sales and Marketing / ISBU
We sell our products through in-house sales professionals, both wholly owned and
affiliated RSPs and through commission-based contractors who sell to subscriber
prospects and other sources. As of June 30, 2000, we had 22 in-house sales and
marketing professionals operating in Cedar Falls, Iowa; Eden Prairie, Minnesota;
Chicago, Illinois, and San Francisco and San Jose, California. These sales and
marketing professionals are highly trained in technology solutions and are
available for travel to other locations throughout the world offering our
solutions to prospective partners, affiliates and customers.
B2BXchange also expects sales of monthly fee-based subscriptions to
B2BXchange.net to grow virally via word-of-mouth referrals from customers, in
particular as our Extranet customers invite their suppliers and distribution
partners to participate. B2BXchange products are also supported by Web
advertising efforts, targeted tradeshows, direct mail marketing efforts, low-
cost sponsorships providing high visibility for our brands in venues with large
numbers of participating enthusiasts.
Our marketing and sales efforts are designed to position B2BXchange.net as the
new archetype for conducting and managing business relationships in a global
marketplace. We explain to potential customers that our new model utilizes a
comprehensive Internet tool set that provides everything SME companies need to
continue their migration to embrace Internet e-commerce. We attempt to
differentiate ourselves by explaining that, in our view, this enterprise-wide
focus is not currently being addressed by our competition. Most competitors are
highly fragmented software tool vendors, consulting firms, electronic community
builders, marketing firms, and materials and services exchanges. By
encompassing most of these products and services within B2BXchange and offering
the existing backend or "Legacy" system integration services and data center
support of RSPNetwork, we can distinguish ourselves as the one-stop shop for SME
companies to implement business-to-business e-commerce.
22
<PAGE>
Our sales and marketing plan is based on the following fundamentals:
1. Create brand awareness of B2BXchange through sponsorships so that
businesses appreciate the value of subscribing and try the tools and
services of B2BXchange.net. We believe that we can establish a strong
brand identity for both the B2BXchange and many of the industry-specific
VerticalXchange brand names. Market segments represented by potentially
large and affluent audiences like mySailingXchange.com,
myRacingXchange.com, myGolfXchange.com and mySportAviationXchange.com are
typical of e-market segments where we intend to use high profile
sponsorships to drive brand awareness. Participating enthusiasts in these
and other niche areas include decision-makers in a variety of industries.
Sponsorships offer a low-cost way to increase exposure of the B2BXchange
brand. These sponsorships use logo-emblazoned products or banners in high-
visibility locations, such as sails for mySailingXchange.com and decals on
aerobatic planes during high-profile events. Each of these sponsorships is
designed to stimulate activity and cause SME growth companies to become
content participants in one or more of our industry-specific
VerticalXchanges.
2. Enhance offerings by partnering with recognized leaders in many vertical
industries. We have established and intend to continue to establish
strategic relationships with hardware and software manufacturers as well
as service and content providers in various industries. We believe that
our strategic alliances will continue to provide increasing access to
value-added applications and services for our customers. In addition,
these alliance partners are expected to help develop the B2BXchange and
RSPNetwork brands. One such strategic alliance, which was announced on
October 5, 2000, is with Metiom. The e-Purchasing tools of Metiom may be
studied further at www.metiom.com. Another Metiom strategic partner,
Intuit, has implemented the Metiom suite of e-Purchasing suppliers at
www.intuit.com. We expect to progressively support operating links to this
rapidly growing supplier community in Releases 2.5 to 2.6 of
B2BXchange.net.
3. Market new services to free subscribers to encourage upgrade to Service
Level Agreements as a paying customer. By offering free, easy-to-use basic
versions of electronic commerce applications within B2BXchange.net, we
believe that the increased productivity and cost savings associated with
doing business online will further decrease any existing barriers to
usage. By offering comprehensive, high-value applications and services, we
plan to entice free subscribers into becoming recurring revenue customers
through monthly Service Level Agreements.
4. Provide expanded services, including hosting, Web site development, and
24/7 management, monitoring and maintenance services as part of the
overall business-to-business solution. Through our in-house web
development group, XchangeSTUDIO(TM), we are able to provide Web site
customization and development services. Through RSPNetwork and our state-
of-the-art Network Operating Center in Cedar Falls, Iowa, we offer hosting
and access, systems integration, customization, IT consulting and many
other professional services.
To accomplish our objectives, we began in May 2000 to pursue a broad spectrum of
sales and marketing programs, some of which are targeted at the broad business-
to-business market and some of which are targeted to specific vertical
industries. In each case, we used and will continue to use the medium that
market feedback indicates is best suited for reaching industry-specific
VerticalXchange targeted audiences.
We currently intend to take advantage of the following marketing
venues/mechanisms to promote our brand names:
Target: General computer and Internet trade audience, industry-specific
VerticalXchange audiences
. Direct marketing through print advertising & direct mail
. Web banner advertising
. Press releases through wire services, e-mail and other online venues, and
general PR distribution
. Tradeshow exhibition
. Large venues of enthusiasts - sponsorships
. Speaking opportunities at trade exhibits, association conferences and
selected industry events
. Participation in associations as a member organization and active
committee member, where appropriate
. Co-branded marketing with strategic partners through their marketing
programs, both to their distribution channel(s) and to business customers
. Online seminar programs, as a participant, sponsor or speaker
. Active participation with industry research companies such as Zona
Research, Yankee Group, Delphi and others for development and distribution
of technology papers and as a participant on their conference programs
23
<PAGE>
Target: B2BXchange subscriber and customer base and RSPNetwork customer base
. Web advertising
. Online newsletters
. E-mail re: new products and services to subscriber and customer base
through "opt out" and "opt in" mail programs
Target: Alliance partners' customer base
. Web advertising
. Online newsletters
. E-mail re: new products and services to subscriber and customer base
through "opt out" and "opt in" mail programs
. Co-op advertising with select partners using specific prospect
qualifications
Revenue Model/ISBU/B2BXchange/RSPNetwork
ISBU's CEOS. The Commerce Environment Operating System is made up of a complex
series of online applications which offers capabilities that can be extended
continuously over time. The CEOS also offers content creation tools and third-
party content feeds to provide stickiness and transaction tools intended to
drive buy/sell transaction fees in multiple vertical market segments. The ISBU
has agreed to provide exclusive worldwide end user licensing rights for
B2BXchange to implement the components of the CEOS under the B2BXchange brand.
The ISBU has likewise agreed to provide exclusive worldwide reseller licensing
rights for RSPNetwork to implement the components of the CEOS under the
B2BXchange brand. The ISBU may license some or all of the components of future
versions of the CEOS under other brands in the future.
B2BXchange. The B2BXchange revenue model is similar to the ASP revenue model in
that it intends to generate revenues from system usage, application rental,
transaction fees and advertising. We intend to generate recurring monthly
revenues from end users of B2BXchange.net with needs in the following areas:
Needs Sources of Revenue
. Hosting & Access VerticalXchange customer sites
. Regulated Bandwidth More user visits = higher charges to
subscribers
. Data Storage Private site document center, large Web sites
. Application Rental Our own tools and third party tools
. E-commerce transactions No transaction charge for limited storefronts;
upscale transaction sites are chargeable
. Advertising Ads available at all three tiers of the
architecture: Toolkit, VerticalXchanges,
Subscriber sites
. Intranets XchangeSTUDIO Custom Development
. Extranets XchangeSTUDIO Custom Development
. Buying Tools Scheduled for Release 2.5 to 2.6
. Selling Tools Scheduled for Release 2.5 to 2.6
. VX Auction Site Operating now, major upgrades planned for
Releases 2.45 through 2.6
As we obtain a critical mass of business-to-business transactions, we intend to
offer marketing research on purchasing behavior to manufacturers, advertisers,
and trade publications, augmenting a growing advertising revenue stream.
24
<PAGE>
RSPNetwork. The RSPNetwork revenue model generates revenues from professional
services, customization and integration of backend systems. Through wholly owned
operations and international RSP affiliates, we intend to generate recurring
monthly revenues from customers with more sophisticated needs in the such areas
as the following:
Needs Sources of Revenue
. Hosting & Access VerticalXchange customer sites
. Regulated Bandwidth More user visits = higher charges to subscribers
. Data Storage Private site document center, large Web sites
. Application Rental B2BXchange and third party tools
. System Integration Customization and backend systems integration
through IT professional service consulting staff
and RSPNetwork affiliates
. E-commerce transactions No transaction charge for limited storefronts;
upscale transaction sites are chargeable
. Intranets Custom Development by RSPNetwork affiliates using
B2BXchange toolkit
. Extranets Custom Development by RSPNetwork affiliates using
B2BXchange toolkit
. Buying Tools Custom Development by RSPNetwork affiliates using
B2BXchange toolkit
. Selling Tools Custom Development by RSPNetwork affiliates using
B2BXchange toolkit
. VX Auction Site Operating now, major upgrades planned for Releases
2.45 through 2.6
. Staff Augmentation Providing on-site support and service on a 24/7
basis
. Remote Support Providing management, monitoring and maintenance
of customer systems on a 24/7 basis
Pricing/B2BXchange/RSPNetwork
-----------------------------
B2BXchange. The Company provides basic usage of B2BXchange.net for free. Once a
subscriber exceeds predetermined disk space, network bandwidth, and other
limits, a multi-tiered schedule of monthly charges go into effect. We arrive at
our pricing for B2BXchange based on both our internal gross margin objectives
and customer perceived value. We review our pricing regularly to ensure that
potential gross margin contributions are not overlooked. We believe customers
will pay these prices based on the value they receive. B2BXchange.net is
designed to allow our customers to achieve a significant return on investment
through both operating cost reductions and extending the reach of their
marketing message as it is syndicated with those of other VerticalXchange
participants and rebroadcast to worldwide markets through the Global Market
Power(TM) of B2BXchange.
There are currently seven pre-packaged Service Level Agreements for "Green Path"
for novice users.
Each SLA includes:
. Access to over our 1,600+ VerticalXchange Platform supplying industry-
specific content and software tools
. E-mail address and departmental tools for every employee in the
subscriber's organization
. Expert answers to subscriber's industry-specific questions
. Availability of global Intranet & Extranet tools and capabilities
. Unlimited discussion groups
25
<PAGE>
Service levels currently differ by the amount of space and bandwidth required,
the size of the company's Web site, e-store, and size of company's Expert
database. These service levels currently include, but are not limited to:
<TABLE>
<CAPTION>
<S> <C> <C>
------------------------------------------------------------------------------------------------------------------------------------
Service Level Cost Includes these features in addition to those listed above
------------------------------------------------------------------------------------------------------------------------------------
Free Basic FREE 5 MB Disk space, 1/2 GB Bandwidth, 5 web page, 10 product store for partners and
customers, 10 product store for employees
------------------------------------------------------------------------------------------------------------------------------------
Associate $ 29.95/month 20 MB disk space, 1 GB bandwidth, 128 bit SSL security, 100 product store for partners and
customers, 100 product store for employees
-----------------------------------------------------------------------------------------------------------------------------------
Merchant $ 199.00/month 40 MB disk space, 3 GB bandwidth, 128 bit SSL security, 300 product store for partners and
customers, 300 product store for employees
-----------------------------------------------------------------------------------------------------------------------------------
Growth Company $ 349.00/month 100 MB disk space, 10 GB bandwidth, 128 bit SSL security, 500 product store for partners
and customers, 500 product store for employees
----------------------------------------------------------------------------------------------------------------------------------
Corporate $ 599.00/month 200 MB disk space, 15 GB bandwidth, 128 bit SSL security, 2000 product store for partners
and customers, 2000 product store for employees
---------------------------------------------------------------------------------------------------------------------------------
Enterprise $1,299.00/month 1 GB disk space, 30 GB bandwidth, 128 bit SSL security, 10,000 product store for partners
and customers, 10,000 product store for employees
---------------------------------------------------------------------------------------------------------------------------------
Fully Customized $2,999.00/month Specifications are negotiable
---------------------------------------------------------------------------------------------------------------------------------
</TABLE>
RSPNetwork. For RSPNetwork consulting clients with more advanced, or "Expert
Path," needs, we provide Web site hosting for monthly charges ranging from $200
and up, along with Remote Enterprise Management for monthly charges starting at
$1,125 per month. Costs increase with the size and complexity of the assignment.
We also intend to provide staff augmentation and other professional services
through our RSPNetwork affiliates. Currently, pricing for professional services
ranges from $50 per hour to $200 per hour in most markets. Ultimately,
RSPNetwork intends to collect a portion of professional services revenues
generated by RSPNetwork affiliates.
RSPNetwork affiliates may generate revenues from their participation in the
development of B2BXchange.net both directly from their local customization
customers and as resellers of certain online tools offered to their customers
from within the ASP model of B2BXchange.net. RSPNetwork earns a portion of its
revenues from what is effectively an exclusive worldwide license to offer the
tools of B2BXchange.net to affiliated third party resellers who meet the
training and support requirements set out by RSPNetwork. In addition, RSPNetwork
maintains its own consulting and professional services resources as a part of
its wholly owned solutions integration operations. RSPNetwork intends to
increase the scope and size of these wholly owned operations through selective
acquisitions activity with the "best of the best" from within the diverse
solutions integration businesses operating in one or more of the 64 targeted
marketplace hubs which RSPNetwork has identified worldwide. Within these
geographically dispersed spheres of economic influence, RSPNetwork intends to
embark on an aggressive program for recruiting system integration affiliates as
RSPs in the following areas:
. North America 16
. Asia 24
. Europe 16
. Latin America 8
--
. Total Worldwide 64
In short, the expansion and brand recognition of B2BXchange.net as a destination
portal should assist RSPNetwork in the recruitment of solutions integrator
affiliates. Controlling a large network of technically competent and
geographically dispersed RSPs should improve customer satisfaction and speed the
rate of technology adoption by the customers of B2BXchange.net.
Manufacturing/ISBU
The ISBU does not currently manufacture any traditional "hardware" products. Our
products are Internet-based software and professional services based on the
principle of "write once and sell many times." We are focused on products which
enable recurring monthly revenues.
26
<PAGE>
Service and Support/ISBU
As of June 30, 2000, the ISBU had 66 professional services and support staff
offering custom development, legacy integration, maintenance, installation, and
support services on a fee basis. Customers retain the services of these
professionals on a fixed-fee or time-and-materials basis under short-term and
long-term contracts. Support for B2BXchange.net and related tools and
applications is performed via online help, via telephone or through
B2BXchange.net's e-mail support. Support staff are located in Cedar Falls, Iowa,
and Eden Prairie, Minnesota, and are available to help customers around the
clock. We expect to expand our commitment to provide first-rate support through
a growing network of affiliated support professionals.
Competition/ISBU
We compete in the electronic technology and Internet service arenas that are
comprised of numerous companies providing a variety of new technologies. This
market is highly competitive. We believe the principal competitive factors in
this market are ease of use, adoption rates, brand recognition, system
performance, providing a variety of value-added services, functionality and
features, completeness of solution, quality of support. and, most importantly,
our ability to convert "free subscribers" into paying customers.
Given the scope of the B2BXchange platform, we presently believe that we have no
immediate and direct competition, but we recognize that there are numerous
alternatives to our services in the marketplace. Our consulting business
competes directly and indirectly with many consulting firms, including the "Big
5", as well as numerous Internet and application hosting companies.
Since we offer a large range of products and services, our competitors include a
wide variety of companies and organizations, including Internet software,
content, service and technology companies, telecommunication companies, cable
companies, and equipment suppliers. In the future, we may encounter competition
from providers of Web browser software and other Internet products and services
that incorporate competing features into their offerings.
The current and potential competitors of B2BXchange include:
. ASPs and electronic commerce tool providers such as Ariba, CommerceOne, and
VerticalNet
. Portals targeting SME companies such as those by BigStep, Unibex,
Microsoft, Oracle, and IBM
. Web hosting and Internet services companies such as AboveNet Communications,
Exodus Communications, and other local and regional Web hosting and Internet
services providers
. National and regional Internet service providers such as Verio Inc.,
Concentric Network, UUNet Technologies, and PSINet.
. Global telecommunications companies including AT&T Corp., British
Telecommunications, Telecom Italia, and Nippon Telegraph and Telephone.
. Regional and local telecommunications companies, such as Qwest
Communications, and including the regional Bell operating companies such as
Bell Atlantic and Pacific Bell.
. Companies that focus on hosting applications within their data centers such
as USinternetworking, and IBM Global Services
. Audio and video content hosting companies such as Yahoo's Broadcast.com.
Both Ariba and VerticalNet could become more directly competitive due to their
recent acquisitions of complementary technologies that indicate that they aim to
provide comprehensive marketplaces similar to our strategy. While each has
historically concentrated on a narrowly-focused area, it is likely that many
competitors will enter industry-specific segments within the Internet and the
related B2B space.
We believe B2BXchange.net is set apart from the competition because of the
comprehensiveness of our product offerings, the years of software development
and brand marketing experience our personnel possess, our access to state-of-
the-art tools, and our large branding opportunity enabled by our investment in
the 1,600+ VerticalXchange Platform, or domain "real estate" with descriptive
names. Our horizontal breadth is designed to differentiate us from competitors
who focus on a particular vertical market or vertical software application
solution, like procurement or auctions. We plan to provide everything an SME
company needs to transform into a global eBusiness.
27
<PAGE>
Of business-to-business services, Ariba (hosted B2B procurement) and VerticalNet
(brochureware content sites) both now seem to be targeting integrated
marketplaces with content as well as e-commerce tools. Based upon what we know,
neither currently shows signs of developing the hierarchical structure and
breadth that we intend for B2BXchange.net. We believe Ariba is likely to remain
focused on procurement, and VerticalNet is likely to remain focused on providing
broad-based content delivery through a mixture of proprietary and third-party
exchanges. It remains to be seen whether either competitor will adopt a clear
focus on SME companies or whether they could be successful with that type of
strategy.
The competitors who most closely resemble our business plan are BigStep and
Unibex, both of which are startups targeting SME companies. BigStep offers
public Web page building tools and e-commerce stores. To our knowledge, they do
not, however, offer Private or Partner Web sites, nor do they provide or serve
multiple vertical marketplaces. Their emphasis appears to be on enabling small
businesses to sell to the public, rather than true business-to-business e-
commerce. Unibex offers auctions, catalogs, and a virtual tradeshow. Companies
can build a presence within Unibex, but they are generally limited to directory-
style listings. To our knowledge, Unibex does not offer site "stickiness" tools
like knowledge management, email, or discussion groups. Although they do offer
vertical marketplaces, they are narrowly focused on procurement. They appear to
be partnered with a single association, the National Association of
Manufacturers (admittedly a significant organization), rather than the hundreds
of associations B2BXchange is targeting as alliance partners.
While competitors such as Microsoft, Oracle, and IBM have announced they are
targeting small businesses, we believe our experience in our target market
sectors and our partnerships with leading edge Internet companies will afford us
a substantial basis to compete even with such large, well-known, well-
capitalized competitors. In addition, we believe our direct marketing and brand
development experience will enable us to take a mass marketing approach to e-
business services.
Many of our competitors have substantially greater financial, technical and
marketing resources, larger customer bases, longer operating histories, greater
name recognition and more established relationships in the industry than we do.
As a result, some of these competitors may be able to develop and expand their
network infrastructures and service offerings more efficiently and/or rapidly
than we can. They may be able to adapt to new or emerging technologies and
changes in customer requirements more quickly than we can. They may be able to
take advantage of acquisition and other opportunities more readily, devote
greater resources to the marketing and sale of their services and adopt more
aggressive pricing policies than we can. In addition, these competitors have
entered and will likely continue to enter into joint ventures or other
partnering programs to provide additional services that compete with those
provided by us and, additional services which, although not competing with us,
may give them an edge in the areas in which we do compete.
RSPNetwork consulting and systems integration services compete for projects and
staff with many competitors who have more experience and resources than
RSPNetwork. Substantially all of the Big 5 Accounting firms, Cambridge
Technology Partners, Diamond Technology Partners, USWeb/CKS, Whitman-Hart and a
large number of smaller firms compete to locate, hire or purchase resources in
this area.
Intellectual Property and Proprietary Rights/ISBU
We currently have not yet patented technology that would preclude or
significantly inhibit competitors from entering the market. Important features
of our products are incorporated in proprietary applications, some of which are
licensed from others and some of which we own. We plan to protect our
proprietary applications with a combination of patents, copyrights, trademarks
and trade secrets, employee and third party nondisclosure agreements and other
methods of statutory and contractual protection measures.
We intend for our short and long-term investments in the API of the Commerce
Environment Operating System to ultimately help us create successively higher
barriers to entry for many of our markets. The API will allow us to seamlessly
integrate more and more third party applications software and industry-specific
specialized content over time.
Despite these precautions, unauthorized third parties may be able to copy
certain portions of our products or to reverse-engineer or obtain and use
information that we regard as proprietary. Further, our intellectual property
may not be subject to the same level of protection in all countries where the
products are sold. There can be no assurance that the measures we take will be
adequate to protect the intellectual property or that others will not
independently develop or
28
<PAGE>
patent products similar or superior to those we have developed, patented or
planned, or that others will not be able to design products which circumvent any
patents we rely upon. The steps we have taken to protect our intellectual
property may not prove sufficient to prevent misappropriation of our technology
or to deter independent third-party development of similar technologies. We also
rely on certain technologies that we license from third parties. These third-
party technology licenses may not continue to be available to us on commercially
reasonable terms. The loss of the ability to use such technology could require
us to obtain the rights to use substitute technology, which could be more
expensive or offer lower quality or performance and which may force us to incur
costs to modify or adapt our business model.
To date, we have not been notified that any of our products or services infringe
on the proprietary rights of third parties, but third parties could claim
infringement with respect to current or future services. From time to time, we
may be notified that the content of one of our hosted Web sites infringes on
third party intellectual property rights. In response, we intend to inform the
affected customer of such claim and, in our markets will be increasingly subject
to infringement claims as the number of services and competitors in our industry
segment grows. Any such claim, whether meritorious or not, could be time-
consuming, result in costly litigation, cause service installation delays or
require us to enter into royalty or other licensing agreements. Such royalty or
other licensing agreements might not be available on terms acceptable to us or
at all. As a result, any such claim could have an adverse effect upon our
business.
Licenses and Strategic Relationships/ISBU
Our strategic relationships and partnerships with a number of technology
companies allow us to provide a wide range of services to meet our customers'
needs. We have established and continue to seek strategic hardware and software
manufacturer relationships that enhance our infrastructure and distribution
capabilities and broaden our product offerings. Currently, we have relationships
with companies such as Microsoft Corporation, UUNET Technologies, Computer
Associates, AboveNet Communiations, Onvoy Communications, Sun Microsystems,
Oracle Corporation and Metiom, Inc., pursuant to which we are providing a wide
variety of these companies' products and services to our customers.
Employees/ISBU
As of June 30, 2000 we had a total of 177 employees. As of August 31, 2000 we
had a total of 186 employees. None of our employees is represented by a labor
organization, and we have never experienced a work stoppage or interruption due
to a labor dispute. We believe our relationship with our employees is good.
Environmental Matters/ISBU/DGBU
We believe that we are in compliance with all material aspects of applicable
federal, state and local laws regarding the discharge of materials into the
environment with respect to both the ISBU and the DGBU. We do not believe that
we will be required to spend any material amount in compliance with these laws.
Other Matters
For important additional cautionary factors, risks and uncertainties, refer to
Exhibit 99.1 to this Form 10-K. Although not currently affecting or reasonably
expected to affect our business, operations or financial results, these
additional cautionary factors, risks and uncertainties would be expected to
affect our business, operations or financial results if they were to
materialize.
29
<PAGE>
Item 2. PROPERTIES.
------ ----------
As of August 31, 2000 we lease an aggregate of 185,209 square feet of office and
warehouse space in Eden Prairie, Minnesota which include leases from a related
party, pursuant to leases expiring at various times through December 2010. Under
the related party leases, we lease 146,570 square feet (of which 58,800 square
feet is currently being sublet to MacDermid under the transition plan) and
another 32,204 square feet which is sublet to MacDermid until July 2005. It is
expected that MacDermid will be utilizing the space under the transition plan
through December 2000. We also sublet to MacDermid another 6,435 square feet of
space which we lease from a non-related party. The leases require payments of
property taxes, insurance and maintenance costs in addition to basic rent. The
leases contain renewal options for periods ranging from one to three years.
We lease 16,800 square feet of office space in Cedar Falls, Iowa for our
RSPNetwork headquarters. The lease is with an entity owned and controlled by the
three former owners of K&R Technical Services, Inc. who are now shareholders of
VFND.
We lease 10,000 square feet of office space in San Jose, California (of which
MacDermid is currently subleasing about 3,300 square feet on a month-to-month
lease) and 2,023 square feet in Chicago, Illinois.
As of August 31, 2000, we lease 4,317 square feet in Bozeman, Montana which we
expect to be used as a software development center. We lease a 500 square foot
apartment in the San Francisco area.
In the fourth quarter of fiscal year 2000, we closed offices in Miami, Florida
and Santa Clara, California. Approximately 25,000 square feet of office and
production space in Cedar Rapids, Iowa used for the DGBU media coating
operations was sold to MacDermid as part of the DGBU divestiture.
We expect to acquire access to additional facilities, most likely through
leasing, in fiscal 2001 to accommodate the anticipated growth in the Internet
Services Business Unit and Venture Resource Group.
Item 3. LEGAL PROCEEDINGS.
------ -----------------
We are involved in legal proceedings related to DGBU customers' credit and
product warranty issues in the normal course of business. In accordance with the
terms of the Asset Purchase Agreement between MacDermid and us, we retain
certain liability relating to claims made by customers who purchased equipment
from the DGBU prior to its sale to MacDermid. In certain proceedings, the
claimants have alleged or may allege claims for exemplary or punitive damages
which may not bear a direct relationship to the alleged actual incurred damages,
and therefore could have a material adverse effect on our business. At this time
none of the proceedings are expected to have a material effect on our operations
or financial condition.
In September 2000, we commenced suit against Jaffray Communications, Inc., doing
business as Vitesse Networks, Inc. ("Vitesse"), and its President and COO, Mark
Kittrell, in Hennepin County, Minnesota District Court for alleged breaches of
the agreements related to our acquisition of K&R Technologies. The lawsuit
alleges that Mr. Kittrell violated his agreement not to compete against
VirtualFund and its subsidiaries and that he, contrary to his promises, has
recruited away RSPNetwork employees to Vitesse. It also alleges that Vitesse has
interfered with the contract rights of RSPNetwork that were to prevent Mr.
Kittrell from competing against it and VirtualFund and from recruiting employees
of RSPNetwork and VirtualFund. Finally, the suit alleges certain securities law
violations and misrepresentations by Mr. Kittrell in connection with the
conversion of VirtualFund preferred stock to common stock. VirtualFund and
RSPNetwork intend to vigorously pursue their claims.
We are involved in disputes and litigation in the normal course of business. We
do not believe that the outcome of those disputes or litigation will have a
material effect on the Company's financial condition or results of operations.
However, an unfavorable outcome of some or all of these matters could have a
material effect on our financial position or results of operations.
30
<PAGE>
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
------ ---------------------------------------------------
The Annual Meeting of the shareholders of VirtualFund.com, Inc. was held on June
27, 2000, pursuant to notice to all shareholders of record at the close of
business on May 12, 2000. As of the notice of the meeting there were 17,083,856
common shares outstanding.
The following matters were presented for a vote of the security holders:
1. Elect two directors (Roger Wikner, Darris McCord) to serve for a three-year
term, confirm the Board's appointment of one director (Edward S. Adams) to
fill a vacancy for a two-year term, and confirm the Board's appointment of
one director (Timothy R. Duoos) to fill a vacancy for a one-year term; in
each case for such term and until their successors have been duly elected
and qualified.
For Withhold Authority
--- ------------------
Wikner 8,440,304 131,549
McCord 8,440,304 131,549
Duoos 8,387,904 183,949
Adams 8,443,004 128,849
31
<PAGE>
PART II
-------
Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
------ ---------------------------------------------------------------------
Dividends
We have never paid cash dividends on our Common Stock. We currently intend to
retain any earnings for use in our business and, accordingly, do not anticipate
paying any cash dividends in the foreseeable future. Any payment of dividends
in the future will depend upon our capital requirements, earnings, and general
business and financial condition, as well as other factors that the Board of
Directors may deem relevant.
Market Information
Since July 17, 1990, the Company's Common Stock has traded on the Nasdaq
National Market System (Nasdaq symbol: VFND). The following table sets forth
the high and low sale prices reported in the Nasdaq National Market System:
<TABLE>
<CAPTION>
Common Stock
-------------
High Low
------ -----
<S> <C> <C>
Fiscal Year 1999
First Quarter.............. $ 5.25 $3.00
Second Quarter............. 4.25 1.31
Third Quarter.............. 2.72 1.19
Fourth Quarter............. 3.75 1.38
Fiscal Year 2000
First Quarter.............. $ 4.13 1.14
Second Quarter............. 6.38 1.22
Third Quarter.............. 11.50 4.63
Fourth Quarter............. 5.88 1.56
</TABLE>
As of August 31, 2000, the last reported sale price of our Common Stock was
$2.06 per share. As of such date, there were approximately 221 record holders
and 5,188 beneficial holders of our Common Stock.
32
<PAGE>
Item 6. SELECTED FINANCIAL DATA.
------- ------------------------
<TABLE>
<CAPTION>
Fiscal Years Ended June 30,
--------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
(In thousands, except per share amounts) 2000 1999 1998 (a) 1997 (a) 1996
-------- -------- -------- -------- --------
Statement of Operations Data
Continuing Operations of ISBU
Net Sales.......................................... $ 6,901 $ 4,138 (e)
Cost of goods sold................................. 5,485 3,058
-------- -------- ------- -------- --------
Gross profit................................. 1,416 1,080
Operating expenses:
Sales and marketing.............................. 2,939 1,275
Research and development......................... 2,566 939 203
General and administrative....................... 8,174 (g) 4,523 2,475 2,359 3,212
Goodwill amortization............................ 2,294 1,338
Goodwill write-off (f)........................... 7,838
-------- -------- ------- -------- --------
Operating loss............................... (22,395)(h) (6,995) (2,678) (2,359) (3,212)
Other income (expense) (primarily interest)........... (85) (41)
-------- -------- ------- -------- --------
Loss from continuing operations before taxes....... (22,480) (7,036) (2,678) (2,359) (3,212)
Income tax (provision) benefit..................... 759 (3,342) 920 (1,289) 964
-------- -------- ------- -------- --------
Loss from continuing operations.................... (21,721) (10,378) (1,758) (3,648) (2,248)
Earnings (loss) from discontinued operations
net of income taxes............................... 5,024 2,555 (b) 3,599 (a) (12,836)(c) (8,214)(d)
Gain on sale of discontinued operations
net of income taxes............................... 35,778 - - - -
-------- -------- ------- -------- --------
Net earnings (loss).......................... $ 19,081 $ (7,823) $ 1,841 $(16,484) $(10,462)
======== ======== ======= ======== ========
Basic and dilutive net earnings (loss) per common share: (a) (a)
Loss from continuing operations (ISBU).......... $ (1.32) $ (.66) $ (.11) $ (.25) $ (.20)
Earnings (loss) from discontinued operations
(DGBU)....................................... .31 .16 .23 (.90) (.73)
Gain on sale of Discontinued Operations........ 2.17
-------- -------- -------- -------- --------
Net earnings (loss) per common share............ $ 1.16 $ (.50) $ .12 $ (1.15) $ (0.93)
======== ======== ======= ======== ========
Weighted average common shares outstanding............ 16,480 15,783 15,316 14,306 11,305
</TABLE>
/(a)/ Includes the results of K&R Technical Services, Inc. as of December 1,
1998. See Note 2 to the Consolidated Financial Statements for additional
information on business combinations.
/(b)/ In September 1998, we reversed $600,000 of special charges which had been
incurred in the fourth quarter of fiscal 1996 related to intellectual property
licenses. These charges, which we previously accrued and expensed, were not
incurred due to a negotiated settlement.
/(c)/ In June 1997, we incurred special pre-tax charges of $8.4 million. The
charges were related to the phase out of two proprietary printer products and
settlement of litigation; $3.5 million was charged to cost of goods sold and
$4.9 million to operating expenses. In addition, we recorded a special income
tax charge of $6.5 million related to the revaluation of deferred tax assets.
/(d)/ In May 1996, we incurred special pre-tax charges of $9.9 million,
consisting of restructuring and other special charges of $4.4 million and a
special charge to cost of goods sold of $5.5 million related to a revised
business plan and technical problems in one of the DGBU products.
/(e)/ Revenue of Team Technologies from the date of acquisition (December 18,
1998) through June 30, 1999.
/(f)/ Goodwill recorded as a result of the acquisition of K&R Technical
Services, Inc. was determined to be impaired resulting in a write-off of the
remaining balance. See Notes 2 and 3 of the Consolidated Financial Statements
for additional information.
/(g)/ While general administrative expense of $8.2 million was incurred in the
current fiscal year, a substantial portion of these resources was utilized in
the management of Discontinued Operations and divestiture of the DGBU. While we
do not anticipate significant reductions in the current fiscal year related to
these expenses, we intend to redirect many of
33
<PAGE>
these same resources to now focus on the ISBU development and increasing
revenues in the Continuing Operations.
/(h)/ Total operating expenses for the Continuing Operations were $23.8 million
for the year ended June 30, 2000, compared to $8.1 million in the comparable
period one year ago. Of the $23.8 million in operating expenses recorded for the
fiscal year ended June 30, 2000, $14.3 million represents nonrecurring and
start-up expenses including:
. Nonrecurring: $2.3 million reflects the goodwill amortization for the year
and $7.8 million represents a write-off of the balance of the goodwill
recorded for the acquisition of K&R Technical Services in December 1998 in
accordance with Statement of Financial Accounting Standard No. 121.
. Of the total $2.9 million in sales and marketing expense for Continuing
Operations, approximately $1.9 million was generated by start-up activities
related to B2BXchange.
. Of the total $2.6 million research and development expense for Continuing
Operations, approximately $2.3 million was generated by activities related
to start-up activities of B2BXchange and the early stage development of the
ISBU's CEOS.
<TABLE>
<CAPTION>
June 30,
----------------------------------------------------
2000 1999 1998 (a) 1997 (a) 1996
------- ------- ---------- -------- -------
Balance Sheet Data (a): (In thousands)
<S> <C> <C> <C> <C> <C>
Cash and cash equivalents $39,642 $ 251 $ 5,011 $ 610 $ 91
Net assets of discontinued operations - 5,972 - - 2,894
Total assets 44,454 20,367 26,843 22,357 16,534
Net liabilities of discontinued operations 2,321 - 9,480 9,195 -
Long-term debt, less current maturities 92 570 67 2,244 19
Stockholders' equity:
Preferred - 7,500 - - -
Common 33,074 5,944 13,860 9,894 15,638
</TABLE>
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
------- -----------------------------------------------------------------------
OF OPERATIONS.
--------------
(Tabular information: dollars in thousands, except per share and percentage
amounts)
The discussion in this report contains forward-looking statements that involve
risks and uncertainties. The Company's actual results could differ materially
from those discussed herein. Factors that could cause or contribute to such
differences include but are not limited to those discussed in Exhibit 99.1, as
well as those discussed in this section and elsewhere in this report.
Liquidity and Capital Resources
At June 30, 2000, the Company had cash and cash equivalents of $39.6 million, an
increase of $39.4 million over 1999. The increase in cash and cash equivalents
was primarily due to the sale of the DGBU. On June 13, 2000, MacDermid
Incorporated acquired certain working capital assets and liabilities of the DGBU
for a purchase price of $50 million in cash less certain post-closing
adjustments. The Company received approximately $45.8 million at closing with
approximately $4.2 million used to pay off all outstanding revolving credit
facilities. The Company currently does not maintain any secured credit
facilities.
Operating activities consumed cash of $3.9 million in 2000 and $2.0 million in
1999 net of cash contributed by the DGBU. Excluding cash provided by the DGBU,
cash used in operations was $7.2 million and $3.1 million for fiscal years 2000
and 1999 respectively. Net cash used in operating activities consisted primarily
of net operating losses, partially offset by increases in accounts payable and
accrued expenses.
Net cash provided by investing activities was $43.8 million in fiscal 2000,
which included $45.8 million in proceeds from the sale of the DGBU. Net cash
used in investing activities was $2.7 million in fiscal 1999. Cash used in
investing activities for fiscal 2000 primarily resulted from additions to
equipment and other assets.
34
<PAGE>
Net cash used in financing activities was $495,000 in fiscal 2000 and $514,000
in fiscal 1999. Net cash used in financing activities for fiscal year 2000
resulted from repayment on a revolving credit line and principal payments in
capital lease obligations and other long-term debt offset by cash received from
exercise of stock options.
The Company is developing a new operating segment in the business-to-business
electronic commerce market. The development of this market has required
substantial cash, which was financed by cash flow from the DGBU until its sale.
The proceeds from the sale will be used to further invest in and grow our
products for electronic commerce. Financing needs will depend on the results of
the continuing operations, expansion through acquisition, and the availability
of new product opportunities. We believe that the proceeds from the DGBU sale
will be sufficient to meet the working capital requirements of our current
business plan through the fiscal 2001 year and into the following year. If such
proceeds and sales from products are not sufficient to fund our technology
programs, operations growth plans and acquisitions, we will be required to seek
additional financing and/or alter our plans related to product development,
business development and acquisitions. Should further capital be required to
fund future technology and operations growth or acquisitions, the Company may
seek to raise additional capital through public or private financing of the
Company or its subsidiaries' stock or through debt financing. We can provide no
assurance that we will be successful in obtaining such financing on acceptable
terms or at all.
Results of Operations
The following table sets forth certain items from our Consolidated Statements of
Operations expressed as a percentage of net sales.
<TABLE>
<CAPTION>
Fiscal Year Fiscal Year
Ended Ended
June 30, 2000 June 30, 1999
-------------- --------------
<S> <C> <C>
Net sales............................................................. 100.0% 100.0%
Cost of goods sold.................................................... 79.5 73.9
------ -------
Gross margin.......................................................... 20.5 26.1
Expenses:
Sales and marketing................................................ 42.6 30.8
Research and development........................................... 37.2 22.7
General and administrative......................................... 118.5 109.3
Goodwill amortization.............................................. 33.2 32.3
Goodwill write-off................................................. 113.6 -
------ -------
Total operating expenses.............................................. 345.1 195.1
------ -------
Operating loss........................................................ (324.6) (169.0)
Other (expense) income:
Interest expense................................................... (4.9) (3.9)
Other.............................................................. 3.7 2.9
------ -------
Loss from continuing operations before income taxes................... (325.8) (170.0)
Income tax benefit (provision)........................................ 11.0 (80.7)
------ -------
Loss from continuing operations....................................... (314.8) (250.7)
Earnings from discontinued operations................................. 72.8 61.7
Gain on sale of discontinued operations............................... 518.5 -
------ -------
Net earnings (loss)................................................... 276.5% (189.0)%
====== =======
</TABLE>
Net Sales
Net sales from Continuing Operations were $6.9 million for fiscal 2000 and $4.1
million in 1999. Fiscal 1999 sales were for a partial year as a result of the
December acquisition of K&R Technical Services, Inc. All the Company's sales for
these two fiscal years were derived from RSPNetwork, Inc. For the years ended
June 30, 2000 and 1999, two customers approximated 56% and 50% of the total
revenue, respectively. As of June 30, 2000, no revenue has been generated from
B2BXchange, Inc.
35
<PAGE>
The following table sets forth net sales by product line expressed in thousands
and as a percent of net sales:
<TABLE>
<CAPTION>
Fiscal Year Ended June 30, Fiscal Year Ended June 30,
-------------------------- --------------------------
RSPNetwork Net Sales 2000 1999
---- ----
<S> <C> <C> <C> <C>
Internet Services Business Unit:
VAR Product Sales............... $1,256 18.2% $ 478 11.6%
Hosting/Access SLAs............. 1,162 16.9 530 12.8
Remote Support.................. 727 10.5 236 5.7
Staff Augmentation.............. 1,934 28.0 1,576 38.1
Internet Services............... 1,544 22.4 1,070 25.9
Consulting and Other............ 278 4.0 248 5.9
------ ----- ------ -----
Total net sales................... $6,901 100.0% $4,138 100.0%
====== ===== ====== =====
</TABLE>
Sales Outlook
RSPNetwork was formed in December 1998 with the acquisition of K&R Technical
Services, Inc. Accordingly, fiscal 1999 revenue only includes 7 months of
activity from this operation. We expect to grow RSPNetwork through acquisitions
of companies which have existing revenue in fiscal 2001. We also expect to
generate additional revenue from the introduction of our B2BXchange product. A
separate, wholly owned subsidiary of VFND, B2BXchange, Inc., was formed in
fiscal 2001. In fiscal 2001, we anticipate that these two subsidiaries will make
up the majority of what we expect to call the Venture Resources Business Unit
("VRBU"). In the future, we intend to generate additional revenue by licensing
some or all of the components of future versions of our Commerce Environment
Operating System (CEOS). We intend to generate current sales growth in
B2BXchange from system usage, application rental, transaction fees, and
advertising. Additional revenues are expected from RSPNetwork resulting from its
professional services, customization and integration of backend system
activities for B2BXchange customers. However, there can be no assurances that
these sales models will be successful or that we will be able to increase the
revenue base for fiscal 2001.
Gross Margin
Gross margins were 20.5% in fiscal 2000 and 26.1% in fiscal 1999. Gross margin
as a percent of net sales decreased in fiscal 2000 primarily because a higher
portion of revenues were from VAR ("Value-Added Reseller") product and start-up
hosting sales which have a lower gross margin than professional services. High
start-up and data center costs for hosting create lower gross margins in the
beginning, with an expectation of gross margin improvement over time, as volume
revenues are generated against a relatively fixed cost structure with low
incremental cost increases when we add hosting capacity. VAR product generates
relatively low margins and is not a significant component in our long-term
growth strategy.
We expect gross margins to increase as our software and Web-based products gain
market share. Gross margins on software and Web-based products are much higher
than those achieved from professional services where employee related costs are
significant in generating revenue. We believe B2BXchange's Application Service
Provider model (where you write software once, which you can sell many times)
will sustain consistently higher gross margins than the current RSPNetwork
systems integration model. We believe RSPNetwork gross margins will improve with
the addition of a significant portion of new revenues coming from customization
and integration contracts which we expect to enter into with B2BXchange
customers who are seeking value-added services. We intend to improve and sustain
higher gross margins than traditional systems integrators, Application Service
Providers, and "commodity Web hosting" operations.
This focus on gross margins is at the heart of our business model with the CEOS
(including the Application Programmers Interface), B2BXchange, and RSPNetwork
driving a viral growth strategy over the Internet.
Sales and Marketing
Sales and marketing expenses were $2.9 million in fiscal 2000 and $1.3 million
in fiscal 1999. The increase in sales and marketing expenses are related to
additional sales staff, additional marketing managers and Web designers and
product marketing materials. Sales and marketing expenses are expected to grow
in the future as B2BXchange and RSPNetwork are developed further. Efforts will
focus on bringing subscribers to the free services of B2BXchange and
36
<PAGE>
then converting subscribers into paying customers. As we pursue our aggressive
growth strategy, we expect to incur increases in expenses for sales and
marketing personnel, promotional activities, and branding for the B2BXchange and
RSPNetwork.
Research and Development
Research and development ("R&D") expenditures were $2.6 million, $939,000, and
$203,000 in fiscal 2000, 1999 and 1998, respectively. This increase was
primarily attributable to increased staffing levels and recruiting costs. Our
future success depends on continually developing new and better products for the
markets we serve. We intend to continue investing resources in product
development activities and expect expenditures to increase in future periods.
General and Administrative
General and administrative expenses were $8.2 million, $4.5 million, and $2.5
million in fiscal 2000, 1999, and 1998, respectively. The increase in general
and administrative expenses in fiscal 2000 compared to 1999 is, in part,
attributable to increases in personnel costs, professional and legal costs,
domain name amortization costs, and other expenses related to the development of
B2BXchange. The increase from 1998 to 1999 was primarily due to the acquired
operations of K&R Technical Services, Inc. A substantial portion of the general
and administrative resources were utilized in the management of the Discontinued
Operations and divestiture of DGBU. While we do not anticipate significant
reductions in these expenses for the next fiscal year, we intend to redirect
many of these resources to now focus on the ISBU development and increasing
revenues in the Continuing Operations.
Goodwill Amortization
In December 1998, we acquired K&R Technical Services, Inc. d/b/a TEAM
Technologies in a business combination using the purchase method of accounting.
Accordingly, the aggregate purchase price of approximately $11,278,000,
including transaction costs, was allocated to the assets acquired and
liabilities assumed based upon the fair values at the date of acquisition. The
historical carrying amounts of the assets acquired and liabilities assumed
approximated their fair value with liabilities assumed exceeding assets acquired
by $193,000. The purchase price and the liabilities assumed in excess of
tangible assets acquired had been recorded as goodwill in the amount of
$11,471,000 and was being amortized on a straight-line basis over five years. In
pursuit of our new ISBU strategy, we believed there was significant value in
obtaining experienced management and staff in the information technology market.
In the fourth quarter of fiscal 2000, management conducted a regular impairment
assessment of the goodwill resulting from the Team Technologies acquisition.
During fiscal 2000, the Company pursued various revenue growth and expense
reduction strategies to expand the business beyond its then current market and
operate more efficiently. However, due to our inability to expand the business
beyond its regional market with existing skills and toolsets, management
concluded from its fourth quarter impairment assessment that the discounted
expected future cash flows from the acquired operations would be insufficient to
recover the carrying amount of goodwill. In accordance with SFAS No. 121, we
recorded a $7.8 million non-cash charge to operations. This charge has been
reflected in the Consolidated Statement of Operations.
Management is now actively repurposing relevant assets of the acquired
operations in both RSPNetwork, Inc. and B2BXchange, Inc.
Interest Income and Expense
Our cash balances at fiscal year end 2000 were invested in high-quality money
market instruments. Subsequent investments have included debt instruments of
high-quality corporate issues. Interest income was $229,000 in fiscal 2000 and
$96,000 in fiscal 1999. The increase was primarily attributable to the
investment of cash proceeds from the sale of the DGBU after the sale on June 13,
2000. Interest expense was $342,000 in fiscal 2000 and $162,000 in fiscal 1999.
This increase resulted from increased interest costs attributable to increased
average debt levels due to the development of our e-commerce products and
services. With the cash proceeds from the sale of the DGBU and the payoff of our
revolving credit facilities, interest expense is expected to decrease in fiscal
2001 and interest income is expected to increase.
37
<PAGE>
Income Taxes
At June 30, 2000, the valuation allowance for deferred taxes was approximately
$3.4 million. The net change in the total valuation allowance for the year ended
June 30, 2000 was a decrease of approximately $10.7 million. The Company has net
operating loss carryforwards for state income tax purposes of approximately $2.8
million which are available to offset future taxable income, if any, through
2010. The Company also has alternative minimum tax credit carryforwards of
approximately $225,000 available to reduce future federal income taxes, if any,
over an indefinite period and research credit carryforwards of approximately
$1.4 million available to reduce future federal income tax, if any, through
2005.
At June 30, 1999, the carrying value of our deferred tax assets was zero due to
the uncertainty of any realization of the benefits in the future. The valuation
allowance for deferred tax assets was approximately $14.1 million. At June 30,
1999, we had net operating loss carryforwards for federal income tax purposes of
approximately $22.2 million and net operating loss carryforwards for state
income tax purposes of approximately $9.4 million, which were available to
offset future taxable income and the gain from the sale of the DGBU.
See Note 12 of the Notes to Consolidated Financial Statements for further
disclosures relating to income taxes.
Foreign Currencies
In general, our exposure to foreign currency gains and losses is not material.
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
------ -------------------------------------------
See Financial Statements and Supplementary Data attached.
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
------ ---------------------------------------------------------------
FINANCIAL DISCLOSURE.
--------------------
Effective June 27, 2000, the Company appointed KPMG LLP as the Company's
independent accountants for the fiscal year ended June 30, 2000 and dismissed
Deloitte & Touche LLP. The decision to change accountants was approved by the
Board of Directors of the Company.
In connection with the Company's audits for the two most recent fiscal years and
the subsequent interim period through June 27, 2000, there have been no
disagreements with Deloitte & Touche LLP on any matter of accounting principles
or practices, financial statement disclosure, or auditing scope or procedure,
which disagreements if not resolved to the satisfaction of Deloitte & Touche LLP
would have caused them to make reference thereto in their report on the
financial statements for such years. The reports of Deloitte & Touche LLP on the
Company's financial statements for the past two fiscal years contained no
adverse opinion or disclaimer of opinion and were not qualified or modified as
to uncertainty, audit scope or accounting principles, except that their reports
for the past two fiscal years included an explanatory paragraph regarding
substantial doubt about the Company's ability to continue as a going concern.
The Company has provided a copy of this disclosure to Deloitte & Touche LLP and
has requested that Deloitte & Touche LLP furnish it with a letter addressed to
the SEC stating whether or not Deloitte & Touche LLP agrees with the above
statements, and if not, stating the respects in which Deloitte & Touche LLP does
not agree. A copy of such letter, dated June 29, 2000, was filed as Exhibit 16.1
to the Company's Report on Form 8-K filed June 29, 2000.
As indicated above, on June 27, 2000, the Company engaged KPMG LLP as its new
independent accountants to audit the Company's consolidated financial statements
at June 30, 2000 and for the year then ended. During the two most recent fiscal
years and the subsequent interim period prior to the engagement of KPMG LLP, the
Company did not consult with KPMG LLP regarding any of the matters or events
listed in Regulation S-K Items (304) (2) (i) and (ii).
38
<PAGE>
PART III
Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
------- --------------------------------------------------
The information required by Item 10 is incorporated herein by reference to the
Company's proxy statement for its Annual Meeting of Shareholders which will be
filed with Securities & Exchange Commission within 120 days of the Company's
fiscal year ended June 30, 2000.
Item 11. EXECUTIVE COMPENSATION.
------- -----------------------
The information required by Item 11 is incorporated herein by reference to the
Company's proxy statement for its Annual Meeting of Shareholders which will be
filed with Securities & Exchange Commission within 120 days of the Company's
fiscal year ended June 30, 2000.
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
------- --------------------------------------------------------------
The information required by Item 12 is incorporated herein by reference to the
Company's proxy statement for its Annual Meeting of Shareholders which will be
filed with Securities & Exchange Commission within 120 days of the Company's
fiscal year ended June 30, 2000.
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
------- ----------------------------------------------
The information required by Item 13 is incorporated herein by reference to the
Company's proxy statement for its Annual Meeting of Shareholders which will be
filed with Securities & Exchange Commission within 120 days of the Company's
fiscal year ended June 30, 2000.
39
<PAGE>
PART IV
-------
Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 10-K.
------- -----------------------------------------------------------------
(a) 1. Financial Statements
--------------------
Consolidated Financial Statements of VirtualFund.com, Inc. and
Subsidiaries:
Independent Auditors' Reports
Consolidated Balance Sheets as of June 30, 2000 and 1999
Consolidated Statements of Operations for the fiscal years ended
June 30, 2000, 1999 and 1998
Consolidated Statements of Stockholders' Equity for the fiscal
years ended June 30, 2000, 1999 and 1998
Consolidated Statements of Cash Flows for the fiscal years ended
June 30, 2000, 1999, and 1998
Notes to Consolidated Financial Statements
(a) 2. Financial Statement Schedules
-----------------------------
VirtualFund.com, Inc. and Subsidiaries
Schedule II -- Valuation and Qualifying Accounts
Schedules not listed above have been omitted because they are either
not applicable or required information has been given in the
consolidated financial statements or notes thereto.
(a) 3. Exhibits
--------
The exhibits to this Annual Report on Form 10-K are listed in the
Exhibit Index on pages E-1 to E-3 of this Report. The Company will
furnish a copy of any exhibit to a shareholder who requests a copy in
writing upon payment to the Company of a fee of $5.00 per exhibit.
Requests should be sent to: Director, Investor Relations,
VirtualFund.com, Inc., 7090 Shady Oak Road, Eden Prairie, MN 55344.
(b) Reports on Form 8-K: On June 27, 2000, the Company filed Form 8-K
regarding the asset sale of the DGBU to MacDermid, Incorporated. On
June 29, 2000, the Company filed Form 8-K regarding the adoption of
KPMG as our new auditors. On September 28, 2000, the Company filed Form
8-K regarding its business development plan.
(c) Exhibits: The response to this portion of Item 14 is included as a
separate section of this Annual Report on Form 10-K.
(d) Financial Statement Schedules: The response to this portion of Item 14
is included as a separate section of this Annual Report on Form 10-K.
40
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
Date: October 12, 2000
VIRTUALFUND.COM, INC.
By /s/ Melvin L. Masters
-----------------------------------------
Melvin L. Masters, President, Chief Executive
Officer and Chairman of the Board
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed by the following persons on behalf of the registrant and in the
capacities and on the dates indicated.
President, Chief Executive Officer
/s/ Melvin L. Masters and Chairman of the Board
--------------------------
Melvin L. Masters (Principal Executive Officer)
/s/ Roger Wikner Director
--------------------------
Roger Wikner
/s/ Timothy R. Duoos Director
--------------------------
Timothy R. Duoos
/s/ Edward S. Adams Director
--------------------------
Edward S. Adams
/s/ Stephen Fisher Director
--------------------------
Stephen Fisher
/s/ Timothy N. Thurn Chief Financial Officer and
--------------------------
Timothy N. Thurn Principal Accounting Officer
41
<PAGE>
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Stockholders
VirtualFund.com, Inc.
Eden Prairie, Minnesota
We have audited the accompanying consolidated balance sheet of VirtualFund.com,
Inc. (the Company) and subsidiaries as of June 30, 2000, and the related
statements of operations, stockholders' equity and cash flows for the fiscal
year ended June 30, 2000, and the financial statement schedule listed in the
index at Item 14(a)(2). These consolidated financial statements and the
financial statement schedule are the responsibility of the Company's management.
Our responsibility is to express an opinion on these consolidated financial
statements based on our audit.
We conducted our audit in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the consolidated
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the consolidated financial statements. An audit also includes assessing the
accounting principles used and significant estimates made by management, as well
as evaluating the overall financial statement presentation. We believe that our
audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of VirtualFund.com,
Inc. and subsidiaries as of June 30, 2000, and the results of their operations
and their cash flows for the fiscal year ended June 30, 2000, in conformity with
accounting principles generally accepted in the United States of America.
KPMG LLP
Minneapolis, Minnesota
September 19, 2000
F-1
<PAGE>
VIRTUALFUND.COM, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
June 30, 2000 June 30, 1999
------------- -------------
<S> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 39,641,785 $ 250,792
Accounts receivable, less allowance for doubtful
accounts of $20,000 and $20,000, respectively 311,271 802,901
Receivable - related parties (Note 14) 1,915,405 1,378,749
Other current assets 229,098 222,924
Net assets of discontinued operations (Note 4) -- 5,971,989
------------ ------------
TOTAL CURRENT ASSETS 42,097,559 8,627,355
PROPERTY AND EQUIPMENT, NET
(Notes 4, 7 and 14) 1,697,212 1,491,138
GOODWILL, less accumulated amortization of none and
$1,338,246, respectively -- 10,132,423
OTHER ASSETS (Notes 1 and 14) 658,993 116,017
------------ ------------
$ 44,453,764 $ 20,366,933
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Notes payable (Notes 6 and 14) $ -- $ 630,167
Notes payable - related parties (Notes 2 and 14) 2,398,381 2,235,766
Current maturities of long-term debt (Note 7) 475,630 701,768
Accounts payable 3,338,799 1,228,449
Accrued payroll and payroll taxes 1,712,642 1,075,462
Income taxes payable 843,440 373,524
Other current liabilities 198,607 108,019
Net liabilities of discontinued operations 2,320,789 --
------------ ------------
TOTAL CURRENT LIABILITIES 11,288,288 6,353,155
LONG-TERM DEBT, less current maturities (Note 7) 91,860 569,747
COMMITMENTS AND CONTINGENCIES (Notes 2, 11 and 16) -- --
STOCKHOLDERS' EQUITY: (Notes 2, 8,9, 10 and 16)
Series A convertible preferred stock, $.01 par value;
authorized 5,000,000 shares; 1,499,998 shares issued
issued and outstanding at June 30, 1999;
redeemable; $7,500,000 liquidation preference -- 7,500,000
Common stock, $.01 par value; authorized
50,000,000 shares; 17,577,002 and 15,803,866
shares issued and outstanding, respectively 175,770 158,039
Additional paid-in capital 41,171,851 33,040,170
Accumulated deficit (8,172,755) (27,254,178)
Receivable from exercise of stock options (101,250) --
------------ ------------
TOTAL STOCKHOLDERS' EQUITY 33,073,616 13,444,031
------------ ------------
$ 44,453,764 $ 20,366,933
============ ============
</TABLE>
See notes to consolidated financial statements.
F-2
<PAGE>
VIRTUALFUND.COM, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Years Ended June 30,
--------------------------------------------
2000 1999 1998
------------ ------------ ------------
<S> <C> <C> <C>
CONTINUING OPERATIONS
NET SALES $ 6,900,557 $ 4,138,211 $ --
COST OF SALES 5,484,524 3,057,710 --
------------ ------------ ------------
GROSS PROFIT 1,416,033 1,080,501 --
OPERATING EXPENSES
Sales and marketing 2,938,423 1,274,572 --
Research and development 2,565,348 938,997 203,153
General and administrative 8,174,307 4,523,084 2,474,936
Goodwill amortization 2,294,136 1,338,246 --
Goodwill write off (Note 3) 7,838,287 -- --
------------ ------------ ------------
23,810,501 8,074,899 2,678,089
------------ ------------ ------------
OPERATING LOSS (22,394,468) (6,994,398) (2,678,089)
OTHER INCOME (EXPENSE)
Interest expense (341,985) (162,394) --
Interest income 228,515 95,639 --
Other income (expense) 28,439 25,486 --
------------ ------------ ------------
(85,031) (41,269) --
------------ ------------ ------------
LOSS FROM CONTINUING OPERATIONS
BEFORE INCOME TAXES (22,479,499) (7,035,667) (2,678,089)
INCOME TAX BENEFIT (PROVISION) 759,000 (3,342,000) 920,000
------------ ------------ ------------
LOSS FROM CONTINUING OPERATIONS (21,720,499) (10,377,667) (1,758,089)
------------ ------------ ------------
EARNINGS FROM DISCONTINUED OPERATIONS
net of income tax (benefit) provision of $(1,033,000),
$1,424,000 and $920,000 in 2000, 1999, and 1998,
respectively (Notes 4 and 12) 5,023,720 2,554,554 3,598,921
GAIN ON SALE OF DISCONTINUED OPERATIONS
net of income tax provision of $2,271,000 (Notes 4 and 12) 35,778,202 -- --
------------ ------------ ------------
EARNINGS FROM DISCONTINUED OPERATIONS 40,801,922 2,554,554 3,598,921
------------ ------------ ------------
NET EARNINGS (LOSS) $ 19,081,423 $ (7,823,113) $ 1,840,832
============ ============ ============
BASIC AND DILUTIVE NET EARNINGS
(LOSS) PER COMMON SHARE (Note 13)
LOSS FROM CONTINUING OPERATIONS $ (1.32) $ (.66) $ (.11)
EARNINGS FROM DISCONTINUED OPERATIONS .31 .16 .23
GAIN ON SALE OF DISCONTINUED OPERATIONS 2.17 -- --
------------ ------------ ------------
NET EARNINGS (LOSS) PER COMMON SHARE $ 1.16 $ (.50) $ .12
============ ============ ============
Weighted average common shares outstanding (Note 13) 16,479,857 15,782,770 15,316,003
============ ============ ============
</TABLE>
See notes to consolidated financial statements.
F-3
<PAGE>
VIRTUALFUND.COM, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Receivable
Common Stock Additional On Stock
----------------------- Preferred Paid-In (Accumulated Option
Shares Par Value Stock Capital Deficit) Exercises Total
---------- ----------- ---------- ----------- ------------ ---------- -----------
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCES, JUNE 30, 1997 15,032,462 $ 150,325 $30,897,064 $(21,153,596) $ 9,893,793
Conversion of debentures (Note 8) 525,000 5,250 1,985,146 1,990,396
Exercise of stock options
(Note 10) 80,071 801 134,623 135,424
Litigation settlement (Note 16) 141,333 1,413 (1,413) --
Net earnings 1,840,832 1,840,832
---------- ----------- ----------- ----------- ------------ --------- -------------
BALANCES, JUNE 30, 1998 15,778,866 157,789 33,015,420 (19,312,764) 13,860,445
Exercise of stock options
(Note 10) 25,000 250 24,750 25,000
Other (118,301) (118,301)
Acquisition of K&R Technical
Services, Inc. (Note 2) $ 7,500,000 7,500,000
Net loss (7,823,113) (7,823,113)
---------- ----------- ----------- ----------- ------------ --------- -------------
BALANCES, JUNE 30, 1999 15,803,866 158,039 7,500,000 33,040,170 (27,254,178) 13,444,031
Exercise of stock options (Note 10) 373,138 3,731 936,934 $(101,250) 839,415
Preferred shares converted (Note 9) 1,399,998 14,000 (7,000,000) 6,986,000 --
Repurchase of preferred shares
(Note 9) (500,000) (500,000)
Issuance of 70,000 warrants 77,388 77,388
Other 47,359 47,359
Stock option tax benefit (Note 12) 84,000 84,000
Net earnings 19,081,423 19,081,423
---------- ----------- ----------- ----------- ------------ --------- -------------
BALANCES, JUNE 30, 2000 17,577,002 $ 175,770 -- $41,171,851 $ (8,172,755) $(101,250) $ 33,073,616
========== =========== =========== =========== ============ ========= =============
</TABLE>
See notes to consolidated financial statements.
F-4
<PAGE>
VIRTUALFUND.COM, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (NOTE 15)
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Years Ended June 30,
--------------------------------------------
2000 1999 1998
------------ ------------ ------------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net earnings (loss) $ 19,081,423 $ (7,823,113) $ 1,840,832
Adjustments to reconcile net loss to net
cash provided by operating activities:
Discontinued Operations (37,519,240) (1,395,944) 2,846,433
Depreciation and amortization 1,059,461 575,014 320,439
Amortization of goodwill 2,294,136 1,338,246 --
Goodwill write off 7,838,287 -- --
Loss on sale of property and equipment 69,984 109 26,794
Deferred income taxes -- 4,766,000 --
Stock option tax benefit 84,000 -- --
Warrants issued for services 77,388 -- --
Other 47,359 -- --
Change in assets and liabilities, net of effects
from purchase of K&R Technical Services, Inc.:
Accounts receivable (144,255) 87,897 72,532
Other current assets (6,174) 11,197 (39,468)
Accounts payable 1,828,737 173,034 127,313
Accrued payroll and payroll taxes 637,180 601,538 64,468
Other current liabilities 629,589 (167,864) (5,648)
Deferred revenue 93,530 (130,671) --
------------ ------------ ------------
NET CASH (USED IN) PROVIDED BY
OPERATING ACTIVITIES (3,928,595) (1,964,557) 5,253,695
CASH FLOWS FROM INVESTING ACTIVITIES:
Loans to related parties (288,116) (1,141,208) (337,460)
Collection of loans from related parties -- 46,800 --
Additions to property and equipment (1,107,804) (224,094) (197,893)
Proceeds from sale of property and equipment 70 -- 300
Proceeds from sale of discontinued operations 45,781,550 -- --
Additions to acquired technology and other
intangible assets (571,335) -- --
Payments for acquisition of K&R Technical
Services Inc., net of cash acquired -- (1,388,655) --
------------ ------------ ------------
NET CASH PROVIDED BY (USED IN)
INVESTING ACTIVITIES 43,814,365 (2,707,157) (535,053)
CASH FLOWS FROM FINANCING ACTIVITIES:
Net borrowing (payments) under revolving
credit lines (630,167) 62,172 --
Payment of debenture -- (375,866) --
Proceeds from long-term debt -- 228,908 --
Payments on long-term debt (704,025) (454,469) (27,488)
Proceeds from exercise of stock options 839,415 25,000 135,424
------------ ------------ ------------
NET CASH (USED IN) PROVIDED BY
FINANCING ACTIVITIES (494,777) (514,255) 107,936
------------ ------------ ------------
INCREASE (DECREASE) IN CASH AND
CASH EQUIVALENTS 39,390,993 (5,185,969) 4,826,578
CASH AND CASH EQUIVALENTS AT
BEGINNING OF YEAR 250,792 5,436,761 610,183
------------ ------------ ------------
CASH AND CASH EQUIVALENTS
AT END OF YEAR $ 39,641,785 $ 250,792 $ 5,436,761
============ ============ ============
</TABLE>
See notes to consolidated financial statements.
F-5
<PAGE>
VIRTUALFUND.COM, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
1. BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES
Business
VirtualFund.com, Inc. ("the Company") is an Internet Venture Resource
company that is actively developing and engaging in
business-to-business, or B2B, e-commerce. During the fiscal year ended
June 30, 2000, the Company operated in two business segments: the
Digital Graphics Business Unit ("DGBU") and the Internet Services
Business Unit ("ISBU").
The DGBU designed, manufactured, marketed and sold wide-format digital
color printers, aftermarket inks and specialty coated media for graphic
arts professionals. On June 13, 2000, the Company completed an asset
sale of DGBU operations to MacDermid Incorporated. The DGBU operations
are disclosed in the accompanying financial statements as discontinued
operations.
The ISBU provides information system design, implementation and support
services, develops and sells Internet-based electronic commerce
software, and provides Internet hosting services. This business unit
will be the primary operating company going forward.
Liquidity/Discontinued Operations
The Company is developing a new operating segment in the
Business-to-Business electronic commerce market. The development of
this market has required substantial cash, which has been financed by
the cash flow from the DGBU until its sale. On June 13, 2000, MacDermid
acquired certain working capital assets and working capital liabilities
of the DGBU for a purchase price of $50 million in cash less certain
post-closing adjustments. The Company received approximately $46
million at closing and anticipates final cash proceeds to be between
$46 million and $48 million. A portion of the proceeds received at
closing were used to pay off the revolving credit facilities of
ColorSpan Corporation (with General Electric Capital Corporation),
ColorSpan Europe and RSPNetwork. The Company currently does not
maintain any secured credit facilities.
The sales proceeds will be used to further invest in and grow the ISBU
products for electronic commerce. This investment and growth may result
in further significant losses. Management believes the sale proceeds
will fund the ISBU through the fiscal 2001 year and into the following
year. Should further capital be required to fund future operations,
growth and acquisitions, the Company may raise additional capital
through public or private financing of the Company or its subsidiaries'
stock, or through debt financing.
Concentration of credit risk
Financial instruments which potentially subject the Company to
concentration of credit risk are cash and cash equivalents and accounts
receivable. To reduce risk for cash and cash equivalents, the Company
maintains its portfolio with a high-quality financial institution. The
Company's current customer base ranges from small local entities to
Fortune 500 companies located primarily in the Midwest and in the
agriculture industry. Revenue is concentrated in a few large customers.
In fiscal 2000, revenue from two Fortune 500 customers contributed
approximately 56% of revenue from continuing operations. The Company
performs ongoing credit evaluations of its customers' financial
condition and generally requires no collateral. To date, the Company
has had no material write-offs of accounts receivable.
Consolidation
The consolidated financial statements include the accounts of
VirtualFund.com, Inc. and its subsidiaries, RSPNetwork, Inc.
("RSPNetwork"), Kilborn Photo Products, Inc. ("Kilborn"), and ColorSpan
Corporation ("CSC"), and CSC's subsidiaries, ColorSpan Europe, Ltd.
("CSE"), ColorSpan Asia/Pacific, Ltd. ("CSA"), and ColorSpan Latin
America, Inc. ("CSLA"). Kilborn, CSC and its subsidiaries represent the
DGBU and are disclosed herein as discontinued operations. All
significant intercompany balances and transactions have been eliminated
in consolidation.
F-6
<PAGE>
Revenue recognition and warranties
The Company also provides information system design, implementation and
support services under fixed price and time and materials contracts.
For fixed price contracts, revenue is recorded on the basis of the
estimated percentage of completion of services rendered. Losses, if
any, on fixed price contracts are recognized when the loss is
determined. For time and materials contracts, revenue is recognized at
contractually agreed upon rates as the costs are incurred.
Cash equivalents
All highly liquid cash investments with a maturity of three months or
less at the date of purchase are considered to be cash equivalents.
Property and equipment
Property and equipment are recorded at cost. Depreciation and
amortization are computed using the straight-line method over the
estimated useful lives of the assets of 2 to 7 years.
Goodwill
Goodwill represents the excess of purchase price over the fair value of
net assets acquired, and was being amortized on a straight-line basis
over five years. During the fourth quarter of fiscal year 2000, the
balance of goodwill associated with the K&R Technical Services, Inc.
d/b/a Team Technologies ("K&R") acquisition (see Note 2) was written
off in accordance with Statement of Financial Accounting Standard No.
121 (see Note 3).
Recorded amounts are regularly reviewed and recoverability assessed.
The review considers factors such as whether the amortization of the
goodwill for each operating unit over its remaining life can be
recovered through forecasted undiscounted cash flows.
Research and development costs and capitalized software
Expenditures related to the development of new products and processes,
including significant improvements and refinements to existing products
and the development of software are expensed as incurred, unless they
are required to be capitalized. Software development costs incurred
subsequent to establishment of the software's technological feasibility
are capitalized. Capitalization ceases when the software is available
for general release to customers. The recoverability of capitalized
software development costs is continually evaluated, and provisions for
estimated losses are recorded in the period such losses are determined.
There were no software development costs capitalized during fiscal
2000, 1999 and 1998.
Acquired technology and other intangible assets
Acquired technology and other intangible assets are amortized using the
straight-line method over the estimated useful lives of the assets,
generally from two to three years. In fiscal 2000, the Company acquired
domain names for B2BXchange, an e-commerce marketplace. The
recoverability of these assets is continually evaluated by comparing
the remaining unamortized cost to the estimated future cash flows of
the associated assets. Provisions for estimated losses are recorded in
the period such losses are determined.
Fair value of financial instruments
Cash and cash equivalents, accounts receivable, short-term debt,
accounts payable, and accrued liabilities are carried at amounts
believed to approximate fair value. The carrying amount of the
Company's long-term debt approximated its fair value at June 30, 2000
and 1999 due to the debt agreements containing market interest rates.
Income taxes
The Company utilizes the asset and liability method of accounting for
income taxes. Under the asset and liability method, deferred tax assets
and liabilities are recognized for the future tax consequences
attributable to the differences between the financial statement and tax
bases of existing assets and liabilities. Deferred tax assets and
liabilities are measured using enacted tax rates expected to apply to
taxable income in the years in which these temporary differences are
expected to be recovered or settled.
F-7
<PAGE>
Net earnings (loss) per common share
Basic earnings (loss) per share is computed by dividing net earnings
(loss) by the weighted average number of common shares outstanding
during each period. Common share equivalents include stock options,
warrants, convertible debenture (Note 8) and shares issuable relating
to the litigation settlement (Note 16). All common equivalent shares
were excluded from the calculation because they were anti-dilutive for
all periods presented.
Stock-Based Compensation
The Company has elected to continue following the guidance of
Accounting Principles Board Opinion No. 25, "Accounting for Stock
Issued to Employees," for measurement and recognition of stock-based
transactions with employees and has adopted the disclosure-only
provisions of SFAS No. 123.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent 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.
New Accounting Standards
The Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities" which
will be effective for the Company in fiscal 2001. The Company has
reviewed the requirements of this standard and has determined that
there is no impact on the financial statements.
Reclassifications
Certain amounts presented in fiscal 1999 and 1998 have been
reclassified to conform to the fiscal 2000 presentation.
2. BUSINESS COMBINATIONS
On December 18, 1998, the Company, through its wholly owned subsidiary
RSPNetwork, Inc., issued 1,499,998 shares of Series A Convertible
Preferred Stock and notes payable of $3,678,258, in exchange for all of
the common stock of K&R, a privately held information technology
consulting company. Each share of Series A Convertible Preferred Stock
was convertible into Common Stock of the Company, initially at the rate
of one share of Common Stock for each share of Series A Convertible
Preferred Stock. The Series A Convertible Preferred Stock carried a
$5.00 per share guaranteed value on the maturity date of December 17,
2000. The Preferred Stock was valued at $5 per share for accounting
purposes and the acquisition has been accounted for using the purchase
method of accounting. Accordingly, the aggregate purchase price of
approximately $11,278,000, including transaction costs, was allocated
to the assets acquired and liabilities assumed based upon the fair
values at the date of acquisition. The historical carrying amounts of
the assets acquired and liabilities assumed approximated their fair
value with liabilities assumed exceeding assets acquired by $193,000.
The purchase price and the liabilities assumed in excess of tangible
assets acquired was recorded as goodwill in the amount of $11,471,000
which was being amortized on a straight-line basis over five years.
Tangible assets acquired and liabilities assumed include the following
as of December 1, 1998:
Accounts receivable $ 983,000
Notes receivable - related party 444,000
Property, plant and equipment 1,236,000
Other assets 195,000
Note payable 568,000
Term debt 1,230,000
Accounts payable 346,000
Accrued compensation 423,000
Other liabilities 484,000
F-8
<PAGE>
The operating results of the acquired business were included in the
consolidated statement of operations from the effective date of
acquisition, which was December 1, 1998. The following pro forma
results of operations for the years ended June 30, 1999 and 1998 assume
the acquisition occurred as of July 1, 1997:
June 30, 1999 June 30, 1998
------------- -------------
Net sales $ 7,150,000 $ 4,467,000
Net loss (7,954,000) (5,297,000)
Loss per common share (.50) (.35)
3. IMPAIRMENT OF K&R / RSPNETWORK GOODWILL
In the fourth quarter of fiscal 2000, management conducted a regular
impairment assessment of the goodwill resulting from the K&R
acquisition. During fiscal 2000, the Company pursued various revenue
growth and expense reduction strategies to expand the business beyond
its then current market. However, due to the Company's inability to
expand the business beyond its regional market, management concluded
from its fourth quarter impairment assessment that the discounted
expected future cash flows would be insufficient to recover the
carrying amount of goodwill. In accordance with SFAS No. 121, the
Company recorded a $7.8 million non-cash charge to operations. This
charge has been reflected in the Consolidated Statement of Operations.
4. DISCONTINUED OPERATIONS
On June 13, 2000, the company sold the Digital Graphics Business Unit
to MacDermid Graphic Arts, a division of MacDermid Incorporated. In
determining the gain from this sale of $35.8 million, cash proceeds of
$45.8 million were reduced by net assets sold of $5.1 million, related
income taxes of $2.3 million, and other costs and adjustments of $2.6
million. Included in the adjustments that reduced the gain are
estimated charges for costs to be incurred in the future. Estimated
future costs include an accrual for contractual responsibilities
remaining from the sale of the DGBU and other miscellaneous anticipated
expenses. The Company expects to receive an additional $1,000,000 in
fiscal 2001, which is not included in the cash proceeds above, when
consents to assign facility leases to MacDermid are received from the
lessors.
Net sales from discontinued operations were $62,858,444, $71,578,364,
and $82,609,562 in fiscal 2000, 1999, and 1998, respectively. The
results from discontinued operations do not include any general
corporate overhead expense. Debt and the corresponding interest expense
relating to the Digital Graphics Business Unit reside within the
operating companies of the discontinued operations. The components of
net assets (liabilities) of discontinued operations included in the
Consolidated Balance Sheets are as follows:
June 30, 2000 June 30, 1999
------------- -------------
Accounts and notes receivable $ -- $ 12,055,299
Inventory -- 8,630,576
Other current assets -- 1,871,509
Property and equipment, net -- 2,141,105
Other assets -- 107,659
Notes payable -- (3,237,835)
Accounts payable (2,141,000) (11,509,167)
Other current liabilities and debt (179,789) (4,042,659)
Long term debt -- (44,498)
----------- ------------
$(2,320,789) $ 5,971,989
=========== ============
F-9
<PAGE>
5. PROPERTY AND EQUIPMENT
Property and equipment consists of the following:
<TABLE>
<CAPTION>
Life Used
for Depreciation June 30, 2000 June 30, 1999
---------------- ------------- -------------
<S> <C> <C> <C>
Equipment 2 - 5 years 2,862,391 2,055,101
Furniture and fixtures 5 - 7 years 458,045 445,198
Purchased software 3 years 554,234 411,794
Vehicles 5 years 77,310 15,203
Leasehold improvements 5 years 276,155 380,713
------------- -------------
4,228,135 3,308,009
Accumulated depreciation and amortization 2,530,923 1,816,871
------------- -------------
$ 1,697,212 $ 1,491,138
============= =============
</TABLE>
Property and equipment includes assets under capital leases as follows:
<TABLE>
<CAPTION>
June 30, 2000 June 30, 1999
------------- -------------
<S> <C> <C>
Equipment $ 539,878 $ 725,049
Furniture and fixtures 111,570 111,570
Purchased software 311,111 311,111
------------- -------------
962,559 1,147,730
Accumulated amortization 595,475 299,284
------------- -------------
$ 367,084 $ 848,446
============= =============
</TABLE>
6. NOTES PAYABLE
Notes payable to a bank at June 30, 1999 were $630,167, carried
interest at 10% and were repaid during fiscal 2000.
7. LONG-TERM DEBT
Long-term debt consists of the following:
<TABLE>
<CAPTION>
June 30, 2000 June 30, 1999
------------- -------------
<S> <C> <C>
Note payable to a finance company, payments,
including principal and interest at 8.57%, of $3,640
due monthly through January 2002, secured by certain
domestic property and equipment $ 61,602 $ 98,279
Note payable to a finance company, payments,
including principal and interest at 8.25%, of $1,500
due monthly through January 2002, secured by certain
domestic property and equipment 26,631 41,751
5% Community Economic Betterment Account
(CEBA) loan due June 2001 that is forgivable
if certain employment quotas are met 45,000 45,000
Obligations under capital leases for equipment,
payable in monthly installments (Note 11) 434,257 1,086,485
------------- -------------
567,490 1,271,515
Less current maturities 475,630 701,768
------------- -------------
$ 91,860 $ 569,747
============= =============
</TABLE>
F-10
<PAGE>
Maturities of long-term debt at June 30, 2000, excluding capital lease
obligations, are as follows:
Year ending June 30:
2001 $101,360
2002 31,873
--------
$133,233
========
8. CONVERTIBLE SUBORDINATED DEBENTURE
In September 1996, the Company entered into a series of agreements with
one of its largest trade creditors, converting approximately $1.7
million of trade payables and a promissory note of $859,516 into a $2.5
million convertible subordinated debenture. The debenture was due
September 12, 1998 together with accrued interest at an annual rate of
8.0%. The debenture contained voluntary, automatic and mandatory
conversion provisions. Under the voluntary conversion provision, the
debenture was convertible in whole or in part into common stock of the
Company at $6.00 per share at any time that the market price of the
Company's common stock was less than $6.00 per share. The debenture was
automatically converted at the rate of 30,000 shares a week at the
market price of the common stock at any time that the market price
equaled or exceeded $6.00 per share. The automatic conversion provision
contained limited price protection under certain circumstances. Under
the mandatory conversion provision, the debenture was converted on a
quarterly basis at market prices and in share quantities equal to
specified threshold amounts, less any shares converted under the other
provisions. The mandatory provision was effective for the quarter
ending March 31, 1997 and continued until the debenture was paid off.
As of June 30, 1998, 630,000 shares had been converted aggregating
$2,353,209. No additional conversions took place. The remaining
principal in the amount of $375,866 and accrued interest was paid
during fiscal 1999.
9. STOCKHOLDERS' EQUITY
In December 1998, the Board of Directors approved the plan to issue
shares of Series A Convertible Preferred Stock (Preferred Stock), with
certain powers, preferences, rights, qualifications, limitations and
restrictions, to purchase K&R. On December 18, 1998, the Company issued
1,499,998 shares of Preferred Stock to the shareholders of K&R (Note
2). Holders of the Preferred Stock had the same voting rights as the
Company's Common stockholders and had a liquidation preference of $5.00
per share. The Preferred Stock was convertible at the option of the
holder into Common Stock initially at the rate of one share of Common
Stock for each share of Preferred Stock, and had a guaranteed value of
$5.00 per share on the maturity date of December 17, 2000. The
Preferred Stock agreement provided for automatic conversion to Common
Stock if the Common Stock traded at or above $5.00 per share for 30
consecutive calendar days and if VirtualFund's board of directors
waived a two-year restriction on transferability of the shares of
Common Stock issuable upon such converstion. The automatic conversion
was triggered on February 17, 2000. As part of a non-compete agreement,
which is in litigation, 100,000 shares of converted Preferred Stock
were repurchased and cancelled. Total net common shares issued in the
conversion were 1,399,998.
On June 28, 2000, the Company's board of directors authorized the
repurchase of up to 2,000,000 shares of the Company's common stock. No
shares were repurchased for fiscal 2000. Subsequent to fiscal year end
and through August 31, 2000, the Company repurchased 582,100 shares of
its common stock for $1,174,170, pursuant to this authorization.
10. STOCK OPTIONS AND WARRANTS
On June 24, 1999, the stockholders approved an amendment to the
"LaserMaster Technologies, Inc. 1996 Stock Incentive Plan" to revise
the name of the plan to the "VirtualFund.com, Inc. 1996 Stock Incentive
Plan", to extend the term of the plan to ten years from the date of
shareholder approval of the amendment and to increase the number of
shares available for awards under the plan from 1,500,000 shares to
5,000,000 shares.
F-11
<PAGE>
Under the plan, incentive stock options and non-statutory stock options
may be granted to key employees, directors, and consultants of the
Company at exercise prices not less than 100 percent of the fair market
value of the common stock at the date of grant and 110 percent for
incentive stock options granted to individuals owning 10 percent or
more of the Company's common stock. The plan is administered by a Stock
Option Committee appointed by the Board of Directors. The committee
establishes all terms and conditions of each grant, except that, in the
case of incentive options, the term may not exceed 10 years. The
Company also has a 1990 Restated Stock Option Plan with 3,513,309
shares authorized. On October 12, 2000, no additional options may be
granted under this plan. All previously granted options will remain
outstanding for 10 years from the grant date.
Warrant activity and activity under the stock option plans is
summarized as follows:
<TABLE>
<CAPTION>
Weighted Average Weighted Average
Warrants Warrant Price Options Option Price
Outstanding Per Share Outstanding Per Share
------------- ---------------- ------------- ----------------
<S> <C> <C> <C> <C>
Balance, June 30, 1997 3,049,953 $6.90 2,808,110 $ 3.38
Granted - 1,051,500 2.97
Exercised - (80,071) 1.69
Forfeited (15,000) (150,500) 3.07
Repriced * - - (0.89)
--------- ----------
Balance, June 30, 1998 3,034,953 6.91 3,629,039 3.11
Granted - 1,736,500 2.00
Exercised - (25,000) 1.00
Forfeited - (603,650) 3.08
--------- ----------
Balance, June 30, 1999 3,034,953 6.91 4,736,889 2.71
Granted 1,370,000 1.98 1,986,250 2.28
Exercised - (373,138) 2.52
Forfeited - (2,269,200) 2.74
--------- ----------
Balance, June 30, 2000 4,404,953 $5.37 4,080,801 $ 2.54
=========
Exercisable, June 30, 1998 3,034,953 $6.91 1,034,513 $ 2.71
Exercisable, June 30, 1999 3,034,953 6.91 1,160,889 2.76
Exercisable, June 30, 2000 4,404,953 5.37 1,542,551 2.85
</TABLE>
* The Company's Board of Directors approved the repricing of 776,000
non-statutory stock options to the closing Nasdaq price on September
26, 1997 ($3.00 per share). These options had original exercise prices
ranging from $3.38 to $4.75 per share with an average exercise price of
$3.89 per share.
F-12
<PAGE>
Pro Forma Information:
The Company has adopted the disclosure-only provisions of Statement of
Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation" (SFAS 123). Accordingly, since options have been issued
with exercise prices at or above market value of the Company's stock,
no compensation expense has been recognized for the stock option plans.
Had compensation expense for the Company's stock option plans been
determined based on the fair value at the grant date for awards since
July 1, 1995 consistent with the provisions of SFAS 123, the Company's
net earnings (loss) and net earnings (loss) per share would have been
adjusted to the pro forma amounts reflected in the following table:
<TABLE>
<CAPTION>
June 30, 2000 June 30, 1999 June 30, 1998
------------------ ----------------- -------------------
<S> <C> <C> <C>
Reported net earnings (loss) $ 19,081,423 $ (7,823,113) $ 1,840,832
Pro forma net earnings (loss) 18,713,959 (8,305,228) 1,243,163
Net earnings (loss) per share:
As reported 1.16 (.50) .12
Pro forma 1.14 (.53) .08
</TABLE>
The fair value of each option grant has been estimated as of the date
of grant using the Black-Scholes option-pricing model with the
following weighted-average assumptions used for grants in fiscal 2000,
1999 and 1998:
<TABLE>
<CAPTION>
June 30, 2000 June 30, 1999 June 30, 1998
------------------ ----------------- -------------------
<S> <C> <C> <C>
Expected dividend yield $ - $ - $ -
Expected stock price volatility 85% 65% 60%
Risk-free interest rate 6.2% 5.9% 5.5%
Expected life of options (years) 4.5 4.5 4.5
</TABLE>
The per share weighted-average fair value of stock options granted
during 2000, 1999 and 1998 is estimated as $ .99, $1.14 and $1.60,
respectively on the date of grant using the Black-Scholes option
pricing model.
The following table summarizes information about the Company's stock
option plans at June 30, 2000:
<TABLE>
<CAPTION>
Weighted
Range of Number Average Weighted Number Weighted
Exercise Outstanding at Remaining Average Exercisable at Average
Prices June 30, 2000 Contractual Life Exercise Price June 30, 2000 Exercise Price
-------- -------------- ---------------- -------------- -------------- --------------
<S> <C> <C> <C> <C> <C> <C>
$ .93 to 2.00 1,823,484 110 months $ 1.71 209,734 1.60
2.01 to 3.00 1,396,567 71 months 2.79 892,817 2.68
3.01 to 4.00 813,750 78 months 3.81 406,750 3.71
4.01 to 5.00 47,000 93 months 4.75 33,250 4.75
--------- ---------
4,080,801 $ 2.54 1,542,551 $ 2.85
========= =========
</TABLE>
F-13
<PAGE>
11. COMMITMENTS
Leases
The Company leases certain equipment under leases that meet the
criteria for capital lease classification. These agreements have been
capitalized at the lesser of the fair market value of the equipment or
the present value of the future minimum lease payments. The Company
also leases other equipment under operating leases. In addition, the
Company leases its office and warehouse facilities under operating
leases that expire at various dates through October 2011. The leases
require payments of property taxes, insurance, and maintenance costs in
addition to basic rent and contain renewal options for periods ranging
from one to three years.
Certain of the facilities leases are under a 15-year commercial lease
through December 31, 2010 with Grandchildren's Realty Alternative
Management Program I ("GRAMPI"), a Minnesota limited partnership
controlled by the Company's Chief Executive Officer, for space it
currently occupies in Shady View I & II. The Company leases from GRAMPI
146,570 square feet and another 32,204 square feet are sublet to
MacDermid (see further details in this footnote). GRAMPI purchased the
real estate in April 1995, after the Company's Board of Directors
declined to do so. GRAMPI sold the property in October 1996 in a
sale-leaseback transaction and remains the lessor to the Company. The
Company's Board of Directors retained services of an outside commercial
real estate brokerage firm and outside legal counsel to negotiate the
lease with the landlord's outside legal counsel. Management and the
outside brokerage firm and legal counsel believe that the lease is at
market rate.
Certain of the facilities leases are under a commercial lease through
March 31, 2007 with TEAM Property Management Company, a company
controlled by three VirtualFund.com shareholders.
Rent expense is allocated to discontinued operations based on the
square feet of space occupied by facilities used by the DGBU.
Rent expense under all equipment and facilities operating leases
(including property taxes, insurance, and maintenance costs) was as
follows:
<TABLE>
<CAPTION>
Year Ended June 30
---------------------------------------------
2000 1999 1998
------------ ------------ ------------
<S> <C> <C> <C>
GRAMPI $ 1,844,000 $ 1,682,000 $ 1,547,000
TEAM Property Management 201,000 113,000
Other parties 1,327,000 1,390,000 1,037,000
------------ ------------ -------------
Total $ 3,372,000 $ 3,185,000 $ 2,584,000
============ ============ ============
</TABLE>
Future minimum lease payments under operating leases in effect at June
30, 2000 are as follows:
<TABLE>
<CAPTION>
Year Operating Leases
ending -------------------------------------------------------------------
June 30: TEAM GRAMPI Other Sublease Total
-------- ---------- ----------- ---------- ------------ -----------
<S> <C> <C> <C> <C> <C>
2001 $ 192,000 $ 1,407,000 $ 491,000 $ (266,000) $ 1,824,000
2002 192,000 1,351,000 384,000 (266,000) 1,661,000
2003 192,000 1,323,000 332,000 (259,000) 1,588,000
2004 192,000 1,368,000 317,000 (246,000) 1,631,000
2005 192,000 1,412,000 326,000 (254,000) 1,676,000
Thereafter 1,216,000 8,125,000 848,000 (21,000) 10,168,000
----------- ------------ ----------- ------------ -----------
$2,176,000 $14,986,000 $2,698,000 $(1,312,000) $18,548,000
=========== ============ =========== =========== ===========
</TABLE>
The company is subleasing space that was utilized by the DGBU to
MacDermid Incorporated through July 2005, with rights to extend the
term to March 31, 2007. In addition, MacDermid is required to pay its
pro rata share of property taxes, insurance and maintenance costs.
F-14
<PAGE>
Future minimum lease payments under capital leases in effect at June
30, 2000 are as follows:
Capital
Year ending June 30: Leases
-----------
2001 $ 387,112
2002 51,152
2003 16,426
-----------
454,690
Less interest (20,433)
-----------
Present value of net
minimum lease payments $ 434,257
===========
Employment agreements
The Company has employment agreements with eight members of management
that renew automatically on an annual basis. Four agreements provide
for continuation payments equal to 36 months. The remaining four
agreements provide for 12 months pay. At June 30, 2000, the minimum
commitment for the agreements based on current annual salary levels
was, in aggregate, $3,100,000. The Company has also accrued, as of June
30, 2000, $534,000 for bonuses to two former owners of K&R under the
acquisition agreements (Note 2). The Company's obligation to guarantee
any bonuses under the acquisition agreements has terminated.
Employee benefit plan
The Company has two qualified defined contribution 401(k) plans
covering substantially all employees. One plan covers RSPNetwork
employees, the other plan covers all other employees. The plans offer
employees a savings feature and discretionary Company matching
contributions. There were no employer contributions to the plans for
the years ended June 30, 2000, 1999, and 1998.
F-15
<PAGE>
12. INCOME TAXES
The provision for income taxes consists of the following:
<TABLE>
<CAPTION>
Year Ended June 30,
---------------------------------------------
2000 1999 1998
----------- ----------- ----------
<S> <C> <C> <C>
Continuing operations:
Current, primarily federal $ - $ - $ -
Deferred, primarily federal 759,000 (3,342,000) 920,000
----------- ----------- ---------
759,000 (3,342,000) 920,000
Discontinued operations, primarily deferred (1,238,000) (1,424,000) (920,000)
----------- ----------- ---------
$ (479,000) $(4,766,000) $ -
=========== =========== =========
</TABLE>
A reconciliation of the expected federal income tax provision at the
statutory rate of 35% with the provision for income taxes is as
follows:
<TABLE>
<CAPTION>
Year Ended June 30,
----------------------------------------------------
2000 1999 1998
------------- ------------- -------------
<S> <C> <C> <C>
Tax (provision) benefit
computed at statutory rates $ (6,846,000) $ 1,070,000 $ (644,000)
State income tax, net of
federal benefit (392,000) 198,000 (31,000)
Graduated tax bracket
benefit (provision) 195,000 (31,000) 18,000
Change in valuation allowance 10,744,000 (6,399,000) 457,000
Other (337,000) 396,000 200,000
Goodwill Amortization (3,913,000) - -
------------- ------------- -------------
$ (479,000) $ (4,766,000) $ -
============= ============= =============
Reconciliation of income tax provision:
Continuing operations $ 759,000 $ (3,342,000) $ 920,000
============= ============= =============
Discontinued operations $ (1,238,000) $ (1,424,000) $ (920,000)
============== ============= =============
</TABLE>
Under SFAS No. 109, deferred tax assets and liabilities are classified
as current and non-current on the basis of the classification of the
related asset or liability for financial reporting. Deferred taxes are
recorded for temporary differences between the bases of assets and
liabilities for financial reporting purposes and tax purposes.
F-16
<PAGE>
Temporary differences comprising the net deferred taxes shown on the
consolidated balance sheets are as follows:
<TABLE>
<CAPTION>
June 30, 2000 June 30, 1999
------------------------------------------------ -------------
Assets Liabilities Total Total
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Allowance for doubtful
accounts and sales returns $ 7,000 $ -- $ 7,000 $ 420,000
Inventory costs -- -- -- 2,360,000
Accrued vacation 112,000 -- 112,000 188,000
Lease holdback 372,000 -- 372,000 --
Other 3,000 (27,000) (24,000) (43,000)
------------ ------------ ------------ ------------
Current 494,000 (27,000) 467,000 2,925,000
Property and equipment basis 48,000 -- 48,000 686,000
Net operating loss carryforwards 268,000 -- 268,000 8,467,000
Research and development credit
carryforwards 1,424,000 -- 1,424,000 1,773,000
Alternative minimum tax credits 225,000 -- 225,000 225,000
Other 956,000 -- 956,000 26,000
------------ ------------ ------------ ------------
Noncurrent 2,921,000 -- 2,921,000 11,177,000
------------ ------------ ------------ ------------
Gross 3,415,000 (27,000) 3,388,000 14,102,000
Valuation allowance (3,388,000) -- (3,388,000) (14,102,000)
------------ ------------ ------------ ------------
Net $ 27,000 $ (27,000) $ -- $ --
============ ============ ============ ============
</TABLE>
A valuation allowance is required to reduce a potential deferred tax
asset when it is likely that all or some portion of the potential
deferred tax asset will not be realized due to the lack of sufficient
taxable income. The Company has reviewed its taxable earnings history
and prospective future taxable income. Based on this assessment, the
Company has provided a valuation allowance and will continue to assess
the need for this allowance. In addition, the Company may be required
to provide further valuation allowances if the Company does not
generate sufficient future taxable income.
The valuation allowance for deferred tax assets as of June 30, 2000 was
$3,388,000 and was $14,102,000 as of June 30, 1999. The net change in
the total valuation allowance for the year ended June 30, 2000 was a
decrease of $10,714,000.
At June 30, 2000, the Company has net operating loss carryforwards for
state income tax purposes of approximately $2,750,000 which are
available to offset future taxable income, if any, through 2010. The
Company also has alternative minimum tax credit carryforwards of
approximately $225,000 available to reduce future federal income taxes,
if any, over an indefinite period and research credit carryforwards of
approximately $1,424,000 available to reduce future federal income tax,
if any, through 2005.
The Company recognized income tax benefits of $84,000 in 2000
pertaining to the exercise of stock options, which are reflected in
additional paid-in capital.
13. EARNINGS PER SHARE CALCULATION
The following table summarizes the securities that could potentially
dilute basic earnings per share in the future that were not included in
the computation of diluted loss per share from continuing operations
because to do so would have been anti-dilutive for the periods
presented:
<TABLE>
<CAPTION>
2000 1999 1998
----------- ----------- --------------
<S> <C> <C> <C>
Stock options 4,080,801 4,736,889 858,117
Warrants 4,404,953 3,034,953 3,034,953
Convertible debenture 28,998
Shares issuable relating to settlement
of litigation 140,953
----------- ----------- -----------
8,485,754 7,771,842 4,063,021
=========== =========== ===========
</TABLE>
F-17
<PAGE>
14. RELATED PARTY TRANSACTIONS
The Company is involved in various transactions with TimeMasters, Inc.
("TMI"), a corporation controlled by the Company's Chief Executive
Officer. The Company also purchased certain inventory for the DGBU from
a greater than 5% shareholder and maintains one of its employee 401(k)
plans with an affiliate of its former senior lender, General Electric
Capital Corporation ("GECC"). The former senior lender is also a
shareholder. Transactions with related parties are as follows:
<TABLE>
<CAPTION>
Year Ended June 30,
--------------------------------------
2000 1999 1998
---------- ---------- ----------
<S> <C> <C> <C>
Interest expense (j) $ 796,347 $ 497,574 $ 336,816
Interest expense (a) 7,440
Interest income (b),(c),(g) 108,072 94,093 4,696
Rent, CAM, Property Tax expense (Note 11), (g) 2,045,004 1,795,000 1,547,000
Operating expenses (d) 134,261 326,065 198,723
Equipment purchases (e) 5,505 31,903 52,970
Inventory purchases (i) 660,653 2,327,631 2,721,156
</TABLE>
Balances outstanding with related parties are as follows:
<TABLE>
<CAPTION>
June 30,
-----------------------
2000 1999
---------- ----------
<S> <C> <C>
Receivables and accrued interest (b),(c),(f),(h) $1,915,405 $1,378,749
Other assets (h) 122,029
Notes payable (j) 1,489,011
Notes payable - related parties (Note 2), (f) 2,398,381 2,235,766
Accounts payable (i) 262,924
Capital lease obligations (j) 156,178
</TABLE>
Amounts related to continuing operations:
(a) During September and October 1995, CSC borrowed $1,765,000 under a
demand note from TMI. In January 1996, CSC obtained a new line of
credit from a commercial finance company that required the indebtedness
to TMI be subordinated to the line of credit and not be repaid unless
certain financial covenants were achieved. In return for such
subordination and for the significant restrictions on repayment, the
Company issued to TMI a warrant to purchase 277,953 shares of common
stock. The warrant is exercisable at $6.35 per share through January
17, 2002. In December 1996, the principal balance of $1,765,000, along
with $53,715 in accrued interest, was offset against a similar amount
due from TMI related to an equity investment in the Company (Note 10).
Fiscal 1998 expense represents interest paid to GRAMPI for past due
rent payments.
(b) On June 26, 1998 GRAMPI borrowed $250,000 from the Company. The
note was personally guaranteed by Mr. Masters and was secured by
certain shares of the Company's common stock owned by GRAMPI, and bore
interest at the Prime Rate plus 2.0%. In September 1999, the principal
balance of the note, which was originally due February 25, 1999, was
combined with additional borrowing during fiscal 1999 by Mr. Masters
into a new $500,000 non-interest bearing note that was due September 1,
2000. During fiscal 1999, Mr. Masters and TMI borrowed an additional
$375,472 from the Company. This additional borrowing was combined in
September 1999 with $97,505 that was owed to the Company by TMI at June
30, 1998 into a second note from Mr. Masters of $472,977 that was
payable September 1, 2000 and bears interest at 9.75%. In August 1999
Mr. Masters borrowed an additional $200,000 pursuant to a note that was
payable September 1, 2000 and bears interest at 9.75%. All three notes
are secured by a Deed of Trust encumbering certain real property
located in the state of Montana that is owned by GRAMPI. Total
principal and accrued interest due from Mr. Masters at June 30, 2000
was $1,405,285. These notes remain outstanding.
(c) Prior to the Company acquiring K&R, K&R had loaned $281,217 to TEAM
Property Management (see Note 11). This note was among the assets
acquired by the Company when it acquired K&R. The note, which
F-18
<PAGE>
bears interest at 9% and was due September 1, 2000, and had an
outstanding balance of $329,982 at June 30, 2000. As of August 31,
2000, $109,994 remained outstanding on this balance.
(d) Under a Use Indemnification Agreement and certain related Board of
Directors' actions, the Company has the right to sponsor business and
business-related occasions at facilities owned by Melvin L. Masters
and/or Masters Trust I (a trust for Mr. Masters' children) and/or
Jessicca Lee Tran-Masters (Mr. Masters' spouse) and/or TMI and/or
GRAMPI. In addition, the Company occasionally uses an airplane that is
owned by a company controlled by Mr. Masters for business-related
travel. The Company indemnifies the owners against loss or damage
beyond available insurance, reimburses out-of-pocket and operating
expenses, and pays a usage charge based on what management believes are
market rates. The Company also used the services of a travel agency
that was controlled by Mr. Masters. The travel agency relationship
terminated in fiscal 2000.
(e) Represents the cost of additional hardware and software upgrades
which the Company acquired from TMI in 2000, 1999, and 1998 related to
a campus-wide TMI wireless voice system which it had previously
installed in its Eden Prairie facility. There are no monthly call
operating charges for unlimited use of that system.
(f) The balance at June 30, 2000 represents notes issued in acquisition
of K&R. One note for $733,150 plus accrued interest of $6,589 was due
June 18, 2000 but remains outstanding as it is currently subject to
ligitation. Three other notes aggregating $1,516,887 plus accrued
interest of $141,755 were due after the receipt of funds from the sale
of the DGBU and were subsequently paid in July 2000. Interest accrued
on the notes from June 18, 1999 at a rate of 9%. One of the notes paid
was a $733,150 note plus accrued interest of $68,514 payable to Steven
Fisher, an executive and director of the Company.
(g) The Company rents space to TMI. Rent charged to TMI reduces rent
expense and was $20,412, $18,996, and $18,820, for the years ended June
30, 2000, 1999 and 1998, respectively. The Company also performed
services and paid various amounts on behalf of TMI. The receivable from
TMI of $206,711 at June 30, 1999 was combined with additional
indebtedness into the $472,977 note described in (b).
(h) Other assets at June 30, 1999 includes a note receivable from
Stephen Fisher that was assumed in the acquisition of K&R. This note
was reclassified in fiscal 2000 from a long-term asset to a current
asset reflected in Receivable - related party. The balance plus accrued
interest at June 30, 2000 was $133,371. This note was paid in July
2000.
Amounts related to discontinued operations:
(i) Inventory purchases from Sihl, a greater than 5% shareholder, and
related payables at year end.
(j) Revolving line of credit with GECC which was paid off and
terminated upon closing of the DGBU sale with MacDermid. Outstanding
capital leases with GECC were also paid off during fiscal 2000.
F-19
<PAGE>
15. SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION AND NON-CASH
FINANCING ACTIVITIES
<TABLE>
<CAPTION>
Year Ended June 30,
---------------------------------------------
2000 1999 1998
----------- ----------- -----------
<S> <C> <C> <C>
The Company paid cash for the following items:
Interest paid $ 193,641 $ 183,353 $ 7,973
Income tax (received) paid, net (73,496) (118,827) 7,677
Financing transactions not affecting cash:
1,499,998 shares of convertible preferred stock issued
for acquisition of K&R -- 7,500,000 --
Convertible subordinated debenture and accrued
interest converted to common stock 1,990,396
Capital lease obligations -- 115,318 --
</TABLE>
16. LITIGATION
During fiscal 1999, the Company recorded other income, which is
included in discontinued operations, of $1,500,000 as a result of the
settlement of a lawsuit filed by ColorSpan Corporation against Sentinel
Business Systems, Inc. The Company received $1,150,000 in cash in May
1999, as was required by the agreement. The $350,000 balance owed to
the Company was paid in fiscal 2000.
In October 1995, a shareholder of the Company (Becker) filed an action
against the Company and four of its officers and directors alleging
violations of the Securities Exchange Act of 1934. In December 1995,
similar claims filed by other shareholders were consolidated into the
Becker claim as a class action to include all purchasers of the
Company's stock during the period of December 3, 1993 through December
8, 1994. The basic allegation was that the Company and the named
defendants knew of material, negative, non-public information and
withheld such information from the market so that they could personally
benefit by selling shares of common stock over a one year period, prior
to a drop in the stock price. The Company and the insiders denied the
allegations. In order to avoid the costs of litigation and distraction
of management, a settlement in this case was reached between the
Company and the plaintiffs and was approved in October 1997. The
settlement included an amount from the Company's insurance carrier and
$636,000 from the Company. The Company's portion of the proposed
settlement was to be paid in cash or common stock at the Company's
discretion. The Company elected to contribute common stock and issued
141,333 shares on June 30, 1998 in settlement of the obligation. The
Company recorded its $636,000 share of the proposed settlement as
expense included in discontinued operations and additional paid in
capital as of June 30, 1997.
The Company is involved in legal proceedings related to DGBU customers'
credit and product warranty issues in the normal course of business. In
accordance with the terms of the Asset Purchase Agreement between the
Company and MacDermid, the Company retains liability for certain claims
made by customers who purchased equipment from the DGBU prior to its
sale to MacDermid. In certain proceedings, the claimants have alleged
claims for exemplary or punitive damages which may not bear a direct
relationship to the alleged actual incurred damages, and therefore
could have a material adverse effect on the Company's business. At this
time none of the proceedings is expected to have a material effect on
the Company's operations or financial condition.
In September 2000, the Company commenced suit against Jaffray
Communications, Inc., doing business as Vitesse Networks, Inc.
("Vitesse"), and its President and COO, Mark Kittrell, in Hennepin
County, Minnesota District Court for alleged breaches of the agreements
related to our acquisition of K&R Technologies. The lawsuit alleges
that Mr. Kittrell violated his agreement not to compete against
VirtualFund and its subsidiaries
F-20
<PAGE>
and that he, contrary to his promises, has recruited away RSPNetwork
employees to Vitesse. It also alleges that Vitesse has interfered with
the contract rights of RSPNetwork that were to prevent Mr. Kittrell
from competing against it and VirtualFund and from recruiting employees
of RSPNetwork and VirtualFund. Finally, the suit alleges certain
securities law violations and misrepresentations by Mr. Kittrell in
connection with the conversion of VirtualFund preferred stock to common
stock. VirtualFund and RSPNetwork intend to vigorously pursue their
claims.
The Company is involved in disputes and litigation in the normal course
of business. The Company does not believe that the outcome of those
disputes or litigation will have a material effect on the Company's
financial condition or results of operations. However, an unfavorable
outcome of some or all of these matters could have a material effect on
the Company's financial position or results of operations.
F-21
<PAGE>
17. QUARTERLY RESULTS OF OPERATIONS
(Unaudited) (in thousands, except per share data)
<TABLE>
<CAPTION>
Quarter Ended
----------------------------------------------- Fiscal
Oct. 3 Jan. 3 April 2 June 30 Year
-------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
Fiscal 2000:
Net sales:
Continuing $ 1,901 $ 1,598 $ 1,636 $ 1,766 $ 6,901
Discontinued 17,755 17,568 16,787 10,748 62,858
-------- -------- -------- -------- --------
Total net sales $ 19,656 19,166 $ 18,423 $ 12,514 $ 69,759
Gross profit:
Continuing 353 243 361 459 1,416
Discontinued 7,241 7,442 7,487 4,702 26,872
-------- -------- -------- -------- --------
Total gross profit 7,594 7,685 7,848 5,161 28,288
Net (loss) earnings:
Continuing (2,214) (3,626) (a) (3,044) (12,837) (a) (21,721)
Discontinued 792 946 1,109 2,177 5,024
Gain on sale of discontinued -- 14,555 (a) -- 21,223 (a) 35,778
-------- -------- -------- -------- --------
Total net (loss) earnings (1,422) 11,875 (1,935) 10,563 19,081
Net (loss) earnings per
Per common share:
Continuing (.14) (.23) (a) (.18) (.73) (a) (1.32)
Discontinued .05 .06 .07 .12 .31
Gain on sale of discontinued -- .92 (a) -- 1.21 (a) 2.17
-------- -------- -------- -------- --------
Total net (loss) earnings
per common share (.09) .75 (.11) .60 1.16
</TABLE>
(a) The income tax benefit of $14,555 that was recorded in the
second quarter of fiscal 2000 was originally attributed to
continuing operations. That amount has been reclassified to
the gain on sale of discontinued operations for quarterly
presentation to match the June 30, 2000 fiscal year
presentation.
<TABLE>
<CAPTION>
Quarter Ended
-------------------------------------------- Fiscal
Oct. 4 Jan. 3 April 4 June 30 Year
-------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
Fiscal 1999:
Net sales:
Continuing -- $ 487 $ 2,020 $ 1,631 $ 4,138
Discontinued $ 15,355 17,562 17,194 21,468 71,579
-------- -------- -------- -------- --------
Total net sales $ 15,355 18,049 $ 19,214 $ 23,099 $ 75,717
Gross profit:
Continuing -- 128 666 287 1,081
Discontinued 6,937 6,645 7,610 8,855 30,047
-------- -------- -------- -------- --------
Total gross profit 6,937 6,773 8,276 9,142 31,128
Net (loss) earnings:
Continuing (933) (1,984) (1,758) (5,703) (10,378)
Discontinued 264 (627) 410 2,508 2,555
-------- -------- -------- -------- --------
Total net loss (669) (2,611) (1,348) (3,195) (7,823)
Net (loss) earnings per common share:
Continuing (.06) (.13) (.11) (.36) (.66)
Discontinued .02 (.04) .02 .16 .16
-------- -------- -------- -------- --------
Net loss per common share (.04) (.17) (.09) (.20) (.50)
</TABLE>
F-22
<PAGE>
VIRTUALFUND.COM, INC. AND SUBSIDIARIES Schedule II
VALUATION AND QUALIFYING ACCOUNTS
FOR THE YEARS ENDED JUNE 30, 2000, 1999, AND 1998
-------------------------------------------------------------------------------
Balance Charged Balance
beginning to costs Accounts at
of and written end of
Description period expenses off period
----------- --------- -------- -------- --------
2000:
Allowance for doubtful accounts
and sales returns $20,000 $70,000 $70,000 $20,000
1999:
Allowance for doubtful accounts
and sales returns $ -- $20,000 $ -- $20,000
1998:
Allowance for doubtful accounts
and sales returns $ -- $ -- $ -- $ --
F-23
<PAGE>
EXHIBIT INDEX
VirtualFund.com, Inc.
Annual Report on Form 10-K
for the fiscal year ended June 30, 2000
Exhibit
Number Description of Exhibits
------- -----------------------
2.1 Agreement and Plan of Merger,
dated as of December 18, 1998,
by and among VirtualFund.com,
Inc., Virtual Acquisition Corp.
I, K&R Technical Services, Inc.
and the shareholders of K&R
Technical Services, Inc......... Incorporated by reference to
Exhibit 2.1 to the Company's
Form 10-K for the fiscal year
ended June 30, 1998.
2.2 Asset Purchase Agreement, dated
as of June 13, 2000, by and
among VirtualFund.com, Inc. and
MacDermid Incorporated.......... Incorporated by reference to the
Company's Form 8-K filed June
27, 2000.
3.1 Articles of Incorporation of the
Company as amended March 24,
1994............................ Incorporated by reference to
Exhibit 3.1 to the Company's
Form 10-K for the year ended
June 30, 1994
3.2 LaserMaster Technologies, Inc.
Minutes of Shareholder Meeting
dated April 3, 1998 which amends
Article I of the Article of
Incorporation to change the
company name to VirtualFund.com,
Inc............................. Incorporated by reference to
Exhibit 10.6 to the Company's
Report on Form 10-K for the
fiscal year ended June 30, 1998
3.3 Restated Bylaws of the Company
as amended March 24, 1994....... Incorporated by reference to
Exhibit 3.2 to the Company's
Form 10-K for the fiscal year
ended June 30, 1994
3.4 Rights Agreement, dated as of
October 9, 1998, between
VirtualFund.com, Inc. and
Norwest Bank Minnesota, N.A.,
which includes Exhibit A thereto
the Form of Certificate of
Designation of Series A Junior
Participating Preferred Stock,
and Exhibit B thereto the Form
of Right Certificate............ Incorporated by reference to the
Company's Form 8A filed October
29, 1998
3.5 Amended Article III of Articles
of Incorporation of the Company,
as amended September 5, 2000.... Herewith filed electronically
E-1
<PAGE>
4.1 Certificate of Designation of
the Powers, Preferences and
Rights, and Qualifications,
Limitations and Restrictions, of
Series A Convertible Preferred
Stock of VirtualFund.com, Inc... Incorporated by reference to
Exhibit 4.1 to the Company's
Form 10-Q filed February 17,
1999
4.2 Sample Certificate of the
Company's Common Stock.......... Incorporated by reference to the
Company's Registration Statement
on Form S-1 (Registration No.
33-36202)
10.1 LaserMaster Technologies, Inc.
1990 Restated Stock Option Plan,
as amended...................... Incorporated by reference to
Exhibit 10.1 to the Company
report on Form 10-K for the year
ended June 30, 1991.
10.2 Employment Agreement with Melvin
L. Masters...................... Incorporated by reference to
Exhibit 10.1 to the Company's
Form 10 Registration.
10.3 LaserMaster Technologies, Inc.
Minutes of Shareholder Meeting
dated April 3, 1998 which amends
Article I of the Articles of
Incorporation to change the
company name to VirtualFund.com,
Inc............................. Incorporated by reference to
Exhibit 10.6 to the Company's
Report on Form 10-K for the
fiscal year ended June 30, 1998.
10.4 Employment Agreement with Robert
J. Wenzel....................... Incorporated by reference to
Exhibit 10.12 to the
Registration Statement
10.5 Use Indemnification Agreement
dated November 1, 1991 covering
property located at 12790
Century Lane, Eden Prairie, MN.. Incorporated by reference to the
Company's report on Form 10-Q
for the period ended December
31, 1991.
10.6 Promissory Note with
Grandchildren's Realty
Alternative Program I, LP,
Pledge Agreement and Guaranty... Incorporated by reference to
Exhibit 10.7 to the Company's
Report on Form 10-K for the
fiscal year ended June 30, 1998.
10.7 Promissory Notes from Principals
of K&R Technical Services....... Incorporated by reference to
Exhibit 3(w)(I) to the Company's
Report on Form 8-K filed
December 31, 1998.
10.8 Note receivable from Steve
Fisher.......................... Incorporated by reference to the
Company's Report on Form 8-K
filed December 31, 1998
E-2
<PAGE>
10.9 Lease for property in Shady View
I & II dated December, 1995
between LaserMaster Corporation
and GRAMPI...................... Incorporated by reference to the
Company Report on Form 10-Q for
the quarter ended December
31,1995
10.10 Promissory Note dated January
17, 1996 by LaserMaster
Corporation to TimeMasters, Inc. Incorporated by reference to the
Company Report on Form 10-Q for
the quarter ended December
31,1995
10.11 Warrants for the purchase of
common stock of LaserMaster
Technologies, Inc. issued to
TimeMasters, Inc. dated January
17, 1996........................ Incorporated by reference to the
Company Report on Form 10-Q for
the quarter ended December
31,1995
10.12 Promissory Note from Team
Property Management............. Incorporated by reference to
Exhibit 3(w)(2) to the Company's
Report on Form 8-K filed
December 31, 1998.
23.2 Consent of KPMG................. Filed herewith electronically.
27.1 Financial Data Schedule which is
filed herewith electronically... Filed herewith electronically.
99.1 Cautionary Factors Under Private
Securities Litigation Reform Act
of 1995 which is filed herewith. Filed herewith electronically.
E-3
