<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, DC
FORM 10-Q
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND
- ----- EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1998
------------------
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 0-28284
INFONAUTICS, INC.
(exact name of registrant as specified in its charter)
Pennsylvania 23-2707366
------------ ----------
(State or other jurisdiction (IRS Employer ID No.)
of incorporation of organization)
900 West Valley Road, Suite 1000, Wayne, Pa 19087
--------------------------------------------------
(Address of principal executive offices)
(610) 971-8840
--------------
(Registrant's telephone number, including area code)
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. Yes X No
----- -----
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
<TABLE>
<CAPTION>
Class Outstanding at September 30, 1998
----- -----------------------------
<S> <C>
Class A Common Stock, no par value 9,543,327
Class B Common Stock, no par value 100,000
</TABLE>
1
<PAGE>
INFONAUTICS, INC.
INDEX
<TABLE>
<CAPTION>
Page Number
-----------
<S> <C>
PART I: FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets as of September 30,
1998 (unaudited) and December 31, 1997 3
Consolidated Statements of Operations (unaudited) for the
three months and nine months ended September 30, 1998 and
September 30, 1997 4
Consolidated Statements of Cash Flows (unaudited) for the
nine months ended September 30, 1998 and September 30, 1997 5
Notes to Consolidated Financial Statements 6-7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 8-13
PART II: OTHER INFORMATION
Item 2. Changes in Securities 14
Item 5. Other Information 15
Item 6. Exhibits and Reports on Form 8-K 16
</TABLE>
2
<PAGE>
PART 1. FINANCIAL INFORMATION
Item 1. Financial Statements
INFONAUTICS, INC.
Consolidated Balance Sheets
<TABLE>
<CAPTION>
September 30, December 31,
1998 1997
---- ----
(unaudited)
<S> <C> <C>
Assets
Current assets:
Cash and cash equivalents .................................................. $ 2,927,307 $ 2,301,933
Short-term investments ..................................................... 1,751,327 10,095,504
Receivables:
Trade, less allowance for doubtful accounts
of $57,566 in 1998 and $32,566 in 1997 .................................. 4,168,725 1,742,070
Other (see Note 3) ....................................................... 490,468 154,397
Prepaid expenses and other assets .......................................... 1,187,013 799,127
------------ -----------
Total current assets ............................................... 10,524,840 15,093,031
Property and equipment, net .................................................... 2,856,858 3,019,908
Long-term investments .......................................................... -- 600,000
Prepaid and other assets ....................................................... 319,567 80,729
------------ -----------
Total assets ....................................................... $ 13,701,265 $ 18,793,668
------------ -----------
------------ -----------
Liabilities and Shareholders' Equity
Current liabilities:
Current portion of obligations under capital lease ......................... $ 323,596 $ 297,538
Accounts payable ........................................................... 2,148,355 1,275,500
Accrued expenses ........................................................... 1,713,802 1,642,421
Accrued royalties .......................................................... 1,123,825 674,723
Deferred revenue ........................................................... 7,959,907 4,039,752
------------ -----------
Total current liabilities .......................................... 13,269,485 7,929,934
Noncurrent portion of obligations under capital lease .......................... 134,675 404,107
------------ -----------
Total liabilities .................................................. 13,404,160 8,334,041
------------ -----------
Commitments and contingencies
Shareholders' equity (deficit):
Series A Convertible Preferred Stock, $1,000 par value, 5,000
shares authorized, 3,000 shares issued and outstanding at
September 30, 1998 ....................................................... 2,721,317 --
Preferred stock, no par value .............................................. -- --
Class A common stock, no par value; 25,000,000
shares authorized; one vote per share; 9,543,327
and 9,391,627 shares issued and outstanding at
September 30, 1998 and December 31, 1997, respectively ................... -- --
Class B common stock, no par value; 100,000 shares
authorized, issued and outstanding; 50 votes per
share .................................................................... -- --
Additional paid-in capital ................................................. 54,043,575 53,360,221
Deferred compensation ...................................................... (156,250) (250,000)
Accumulated deficit ........................................................ (56,311,537) (42,650,594)
------------ -----------
Total shareholders' equity ......................................... 297,105 10,459,627
------------ -----------
Total liabilities and shareholders' equity ......................... $ 13,701,265 $ 18,793,668
------------ -----------
------------ -----------
</TABLE>
The accompanying notes are an integral part of these consolidated
financial statements.
3
<PAGE>
INFONAUTICS, INC.
Consolidated Statements of Operations
(unaudited)
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
--------------------- ------------------------
1998 1997 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Revenues ................................................ $ 4,147,503 $ 1,666,900 $ 10,312,996 $ 4,378,350
------------ ------------ -------------- --------------
Costs and expenses:
Cost of revenues ................................... 1,079,261 673,707 3,006,330 1,743,981
Customer support expenses .......................... 318,619 162,483 800,671 420,530
Technical operations and development expenses ...... 1,939,843 1,777,896 5,775,994 4,628,190
Sales and marketing expenses ....................... 4,009,419 2,038,631 10,902,459 7,732,203
General and administrative expenses ................ 1,023,815 1,140,204 3,642,268 3,951,247
------------ ------------ -------------- --------------
Total costs and expenses ...................... 8,370,957 5,792,921 24,127,722 18,476,151
------------ ------------ -------------- --------------
Loss from operations .................................... (4,223,454) (4,126,021) (13,814,726) (14,097,801)
Interest income (expense), net .......................... 9,182 228,266 153,783 835,005
------------ ------------ -------------- --------------
Net loss ...................................... $ (4,214,272) $ (3,897,755) $ (13,660,943) $ (13,262,796)
------------ ------------ -------------- --------------
------------ ------------ -------------- --------------
Loss per common share- basic and diluted ................ $ (0.44) $ (0.41) $ (1.42) $ (1.40)
------------ ------------ -------------- --------------
------------ ------------ -------------- --------------
Weighted average shares
outstanding- basic and diluted ...................... 9,640,900 9,491,600 9,589,700 9,491,600
---------- ------------ -------------- --------------
---------- ------------ -------------- --------------
</TABLE>
The accompanying notes are an integral part of these
consolidated financial statements.
4
<PAGE>
INFONAUTICS, INC.
Consolidated Statements of Cash Flows
(unaudited)
<TABLE>
<CAPTION>
Nine months ended
September 30,
1998 1997
----- ----
<S> <C> <C>
Cash flows from operating activities:
Net loss ...................................................... $(13,660,943) $(13,262,796)
Adjustments to reconcile net loss to cash provided by (used in)
operating activities:
Depreciation and amortization ............................ 1,119,461 787,269
Provision for losses on accounts receivable .............. 25,000 (976)
Amortization of deferred compensation .................... 93,751 93,750
Severance and related expenses ........................... 398,525 --
Changes in operating assets and liabilities:
Receivables:
Trade ................................................ (1,078,498) (33,175)
Other ................................................ (336,071) 62,406
Prepaid and other assets ............................... (626,721) (343,226)
Accounts payable ....................................... 672,855 124,218
Accrued expenses ....................................... 71,378 136,535
Accrued royalties ...................................... 449,102 374,246
Deferred revenue ....................................... 2,546,998 1,079,586
------------ ------------
Net cash used in operating activities ............... (10,325,163) (10,982,163)
------------ ------------
Cash flows from investing activities:
Purchases of property and equipment ........................... (756,412) (1,869,522)
Purchases of short-term investments ........................... (7,852,263) (16,357,886)
Proceeds from maturity of short-term investments .............. 16,796,440 15,843,000
------------ ------------
Net cash provided by (used in) investing
activities ...................................... 8,187,765 (2,384,408)
------------ ------------
Cash flows from financing activities:
Net proceeds from issuance of common stock .................... 53,007 5,876
Net proceeds from issuance of preferred stock and warrants,
net ......................................................... 2,953,139 --
Proceeds from sale-leaseback of equipment ..................... -- 766,504
Payments on capital lease obligations ......................... (243,374) (21,231)
------------ ------------
Net cash provided by financing activities ........... 2,762,772 751,149
------------ ------------
Net decrease in cash and cash equivalents ....................... 625,374 (12,615,422)
Cash and cash equivalents, beginning of period .................. 2,301,933 16,064,159
------------ ------------
Cash and cash equivalents, end of period ........................ $ 2,927,307 $ 3,448,737
------------ ------------
------------ ------------
</TABLE>
The accompanying notes are an integral part of these
consolidated financial statements.
5
<PAGE>
INFONAUTICS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Basis of Presentation
The unaudited consolidated financial statements of Infonautics, Inc.
(together with its subsidiaries, the "Company") presented herein have been
prepared by the Company, without audit, pursuant to the rules and regulations of
the Securities and Exchange Commission for quarterly reports on Form 10-Q.
Certain information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting principles
have been condensed or omitted pursuant to such rules and regulations. It is
suggested that these financial statements be read in conjunction with the
financial statements for the year ended December 31, 1997 and the notes thereto
included in the Company's 1997 Annual Report on Form 10-K.
The financial information in this report reflects, in the opinion of
management, all adjustments of a normal recurring nature necessary to present
fairly the results for the interim period. Quarterly operating results may not
be indicative of results which would be expected for the full year.
2. Basic and Diluted EPS:
In accordance with Statement of Financial Accounting Standards (SFAS) No.
128, "Earnings Per Share," the Company is required to present basic earnings per
share and, if applicable, diluted earnings per share. Basic EPS is a per share
measure of an entity's performance computed by dividing income (loss) available
to common shareholders (the numerator) by the weighted average number of common
shares outstanding during the period (the denominator). Diluted earnings per
share measures the entity's performance taking into consideration common shares
outstanding (as computed under basic EPS) and dilutive potential common shares,
such as stock options; however, entities with a net loss do not include common
stock equivalents in the computation of diluted earnings per share, as the
effect would be anti-dilutive. Accordingly, basic and diluted EPS are equal.
3. Related Party Transaction:
Included in general and administrative expenses for the nine months
ended September 30, 1998 is a charge of approximately $500,000, of which
approximately $193,000 is included in accrued expenses, for separation and
related expenses for the completion of transactions pursuant to the terms of an
agreement entered into in February 1998 with the former Chairman of the Board,
Chief Executive Officer and founder of the Company, under which he resigned as
Chairman and Chief Executive Officer of the Company on March 31, 1998.
Additionally, an amount of approximately $320,000 is included in other
receivables at September 30, 1998, for costs to be reimbursed by a newly formed
company which the former Chairman and Chief Executive Officer is currently the
Chief Executive Officer of, pursuant to the agreement discussed above.
4. Supplemental Disclosure of Cash Flow Information:
At September 30, 1998, included in accounts receivable and deferred
revenue was approximately $2.5 million representing that portion of subscription
revenue from long-term agreements which have been billed, but not yet received
or recognized as income.
Additional paid in capital of $352,000 and $47,000 were recorded as of
March 31, 1998 for the issuance of 125,000 shares of Class A Common Stock
("Common Stock") and the
6
<PAGE>
acceleration of vesting of 50,000 options to purchase Common Stock,
respectively, pursuant to the agreement with the Company's former Chairman and
CEO described in Note 3.
Additional paid in capital of $261,000 was recorded on July 22, 1998 related to
the valuation of warrants issued in connection with a private placement of
Series A Convertible Preferred Stock with a stated value of $1,000 per share
("Preferred Stock"). See Note 6 below.
5. Comprehensive Income:
As of January 1, 1998, the Company adopted Statement of Financial
Accounting Standards No. 130 ("SFAS No. 130"), Reporting Comprehensive Income.
SFAS No. 130 establishes new rules for the reporting and display of
comprehensive income and its components. SFAS No. 130 requires unrealized gains
or losses on the Company's foreign currency translation adjustments to be
included in other comprehensive income. The Company has not had foreign currency
translation adjustments to date.
6. Private Placement:
On July 22, 1998, the Company issued 3,000 shares of Preferred Stock
and warrants to purchase 200,000 shares of Common Stock resulting in net
proceeds, after expenses, of approximately $2,950,000.
The Series A Preferred Stock has no voting rights and is convertible
into the number of shares of the Company's Common Stock equal to the stated
value of $1,000 per share plus a premium of 5% per annum calculated commencing
on the date of issuance of the Preferred Stock divided by the Conversion Price
(as defined in the agreement), calculated in accordance with the terms of the
agreement.
The Series A Preferred Stock is convertible at the option of the
holders subject to limits on the number of shares they can convert at any one
time. Subject to the terms of the agreement, prior to January 22, 1999, the
Series A Preferred Stock may not be converted. Unless the trading price of the
Common Stock on Nasdaq on the date of conversion meets certain amounts
calculated as per the agreement, the following limits apply to conversion:
beginning on January 23, 1999, each holder of Series A Preferred Stock may
convert up to 25% of its initial holding of Series A Preferred Stock into Common
Stock; beginning on February 23, 1999, it may convert up to 50% of its initial
holding into Common Stock; beginning on March 23, 1999, it may convert up to 75%
of its initial holding; beginning on April 23, 1999, it may convert up to 100%
of its initial holding. Any Series A Preferred Stock issued and outstanding on
July 22, 2001 is automatically converted into Common Stock on that date (as such
date may be delayed on the terms of the agreement).
The exercise price of the warrants issued at the initial closing is
equal to $5.15 per share for half of the warrants, and for the other half, 130%
of the average closing bid price of the Company's Common Stock during specified
periods. All of the warrants have a five year term.
In addition, the Company has the option to issue, to the same
holders of the Preferred Stock up to 2,000 additional shares of Preferred
Stock and similar warrants for $2,000,000 subject to satisfaction of certain
conditions.
7
<PAGE>
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operations
This Report contains, in addition to historical information, forward looking
statements by the Company with regard to its expectations as to financial
results and other aspects of its business that involve risks and uncertainties
and may constitute forward looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995. Words such as "may," "should,"
"believe," "plan," "estimate," "expect," and "intend," and other similar
expressions are intended to identify forward-looking statements. These include
statements regarding changes in the amount of content available on the Company's
services, the number of subscribers, price competition, gross margins, current
and future expenses, changes in data conversion costs, future revenues, use of
system resources and marketing efforts, growth and expansion plans, sales and
marketing plans, increases in sales personnel, capital expenditures, effects of
the agreement with America Online, Inc. (the "AOL Agreement") on the Company,
Year 2000, seasonality, operating results, and the sufficiency of the Company's
liquidity, including cash resources, and capital. Such statements are based on
management's current expectations and are subject to a number of uncertainties
and risks that could cause actual results to differ materially from those
described in the forward-looking statements. Factors that may cause such a
difference include, but are not limited to, the risks set forth in the Company's
filings with the Securities and Exchange Commission. The Company does not intend
to update these cautionary statements or any forward looking statements.
Financial information discussed in this report is rounded to the nearest
thousand.
RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED SEPTEMBER 30, 1998 AS COMPARED
TO THE THREE MONTHS ENDED SEPTEMBER 30, 1997, AND FOR THE NINE MONTHS ENDED
SEPTEMBER 30, 1998 AS COMPARED TO THE NINE MONTHS ENDED SEPTEMBER 30, 1997
REVENUES. Total revenues were $4,148,000 for the three months ended September
30, 1998, and $1,667,000 for the three months ended September 30, 1997. Total
revenues were $10,313,000 for the nine months ended September 30, 1998 compared
to $4,378,000 for the nine months ended September 30, 1997. An amount of
$500,000 was included in revenues for the nine months ended September 30, 1997.
This amount was received in 1995 as consideration for limited exclusivity
contained in a marketing agreement. During the second quarter of 1997 this
amount was recognized as the period of exclusivity ended and the Company had no
further obligation under the marketing agreement. This amount is excluded for
period to period comparisons, and comparison of expenses as a percentage of
revenues.
Educational revenue accounted for $1,908,000 or 46% of revenue for the three
months ended September 30, 1998 and $613,000 or 37% of revenue for the three
months ended September 30, 1997. Total educational revenue were $4,519,000 for
the nine months ended September 30, 1998 compared to $1,114,000 for the nine
months ended September 30, 1997. The Company had over 3,300 educational
contracts at September 30, 1998, compared with approximately 1,440 at December
31, 1997 and 362 at September 30, 1997. The 3,300 contracts cover approximately
9,500 institutions. The Company anticipates that despite price competition in
the educational market, revenues will not be adversely impacted.
End-user revenue accounted for $1,154,000 or 28% of revenue for the three months
ended September 30, 1998 and $924,000 or 55% of revenue for the three months
ended September 30, 1997. Total end-user revenue were $3,328,000 for the nine
months ended September 30, 1998 compared to $2,258,000 for the nine months ended
September 30, 1997. The Company had approximately 54,000 subscribers at
September 30, 1998 compared to approximately
8
<PAGE>
33,600 at September 30, 1997.
Content management and custom archive services revenue was $858,000, or 21% of
revenue for the three months ended September 30, 1998, and $130,000, or 8% of
revenue for the three months ended September 30, 1997. Revenue for the nine
months ended September 30, 1998 amounted to $2,060,000 as compared to $506,000
for the nine months ended September 30, 1997. Revenue has increased as a result
of the increase in the number of hosting and archive customers. The Company had
14 content management and custom archive customers at September 30, 1998
compared to 3 at September 30, 1997.
Other revenue was $228,000 for the three months ended September 30, 1998. Other
revenue consists mainly of international and reseller revenue. There was no
other revenue for the three months and nine months ended September 30, 1997. For
the nine months ended September 30, 1998, other revenue was $406,000.
At September 30, 1998 the Company had deferred revenues of approximately
$7,960,000, up from $4,947,000 at June 30, 1998. The deferred revenues include
revenue to be recognized from educational contracts, annual end-user
subscriptions and contracted archive services. Deferred revenue at September 30,
1998 consists of $6,689,000 related to educational subscriptions, $625,000
related to end-user subscriptions, $577,000 related to international contracts,
$37,000 related to contracted archive services and $32,000 related to other
accounts.
COST OF REVENUES. The principal elements of the Company's cost of revenues are
royalty and license fees paid to providers of content, hardware and software, as
well as communication costs associated with the delivery of the online services.
Cost of revenues was $1,079,000 for the three months ended September 30, 1998,
compared to $674,000 for the three months ended September 30, 1997. Cost of
revenues as a percentage of revenue for the three months ended September 30,
1998 and 1997 was 26% and 40%, respectively. Cost of revenues were $3,006,000
and $1,744,000 for the nine months ended September 30, 1998 and 1997,
respectively. As a percentage of revenues, this amounted to 29% and 45%,
respectively. The absolute dollar increase in cost of revenues for each period
primarily reflects costs incurred to provide services to an increased number of
users. The improvement in gross margin as a percentage of revenues in 1998 was
primarily due to the positive impact of the restructuring of certain agreements
with hardware, software and content providers which occurred during 1997 and the
early part of 1998, and to a higher gross margin on content management contracts
as the Company was able to spread its fixed costs over more contracts.
CUSTOMER SUPPORT. Customer support expenses consist primarily of costs
associated with the staffing of professionals responsible for assisting users
with technical and product issues and monitoring customer feedback. Customer
support expenses were $319,000 for the three months ended September 30, 1998,
compared to $162,000 for the three months ended September 30, 1997, a 97%
increase. As a percentage of revenue, customer support expenses for the third
quarter were 8% in 1998 and 10% in 1997. Customer support expenses were $801,000
for the nine months ended September 30, 1998 compared to $420,000 for the nine
months ended September 30, 1997. The absolute dollar increase in 1998 resulted
primarily from higher staffing levels and the continuing need for the Company to
provide additional support to its growing customer base. The customer support
expenses, as a percentage of revenues, declined in 1998, as the staffing levels
were able to support a greater number of users. The Company anticipates that
customer support expenses may increase in absolute dollar amounts but decline as
a percentage of total revenues.
TECHNICAL OPERATIONS AND DEVELOPMENT. Technical operations and development
expenses consist primarily of costs associated with maintaining the Company's
service, data center operations, hardware expenses and data conversion costs as
well as the design, programming, testing, documentation and support of the
Company's new and existing software, services and databases. To date, all of the
Company's costs for technical
9
<PAGE>
operations and development have been expensed as incurred. Technical operations
and development expenses were $1,940,000 or 47% of total revenues for the three
months ended September 30, 1998, compared to $1,778,000 or 107% of total
revenues for the three months ended September 30, 1997. For the nine months
ended September 30, 1998 and 1997, the technical development and operations
costs were $5,776,000 and $4,628,000, or 56% and 119% of total revenues,
respectively. The Company anticipates that technical operations and development
expenses may increase in absolute dollar amounts but decline as a percentage of
total revenues. The Company's overall effort to maintain and increase the
content available under its Electric Library service may result in an increase
in data conversion costs in future periods, which to date have not been
material. The Company currently purchases data conversion services from a number
of sources and also converts data internally. The Company anticipates it will
change one of its significant suppliers. The Company may not enter into an
agreement with another supplier on terms similar to its existing services and
the costs of data conversion for this portion of conversion services may
increase. Data conversion costs are deferred and expensed over the minimum
useful life of the content.
SALES AND MARKETING. Sales and marketing costs consist primarily of costs
related to compensation, attendance at conferences and trade shows, advertising,
promotion and other marketing programs. Sales and marketing costs are expensed
when incurred and revenue from sales is deferred over the term of the
subscription or contract. Sales and marketing expenses were $4,009,000 for the
three months ended September 30, 1998, compared to $2,039,000 for the three
months ended September 30, 1997, representing a 97% increase. As a percentage of
revenue, sales and marketing costs were 97% and 122% for the three months ended
September 30, 1998 and 1997, respectively. Sales and marketing costs were
$10,902,000 and $7,732,000, or 106% and 199% of revenue, for the nine months
ended September 30, 1998 and 1997 respectively. During the last twelve months,
end-user subscriber acquisition costs have decreased, which has been more than
offset by an increase in the size of the educational sales and marketing staff.
Additionally, beginning in May 1998, the Company had started to amortize the
payments made under the AOL Agreement over the period of the agreement. This
approximated $500,000 in the quarter ended September 30, 1998. In 1998, the
Company anticipates focusing its sales and marketing efforts towards those
activities that are believed to generate increased sales commitments and traffic
and does not anticipate significantly increasing the size of its sales and
marketing staff or expanding its direct sales force.
GENERAL AND ADMINISTRATIVE. General and administrative expenses consist
primarily of expenses for administration, office operations, finance and general
management activities, including legal, accounting and other professional fees.
General and administrative expenses were $1,024,000 for the three months ended
September 30, 1998, compared to $1,140,000 for the three months ended September
30, 1997. For the nine months ended September 30, 1998 general and
administrative expenses were $3,643,000, as compared to $3,951,000 for the nine
months ended September 30, 1997. Included in the nine months ended September 30,
1998, was a one time charge of approximately $500,000 for separation and related
costs in connection with the resignation of the former Chairman of the Board,
Chief Executive Officer and founder of the Company. The Company anticipates that
general and administrative expenses may increase in absolute dollar amounts but
decline as a percentage of total revenues.
INTEREST INCOME, NET. Interest income, net of interest expense was approximately
$10,000 for the three months ended September 30, 1998, compared to $228,000 for
the three months ended September 30, 1997. The decrease in interest income was a
result of the decrease in cash and investments. Interest income, net, was
$154,000 for the nine months ended September 30, 1998, compared to $835,000 for
the nine months ended September 30, 1997.
INCOME TAXES. The Company has incurred net operating losses since inception and
accordingly, has not recorded an income tax benefit for these losses.
10
<PAGE>
LIQUIDITY AND CAPITAL RESOURCES
The Company had cash, cash equivalents and investments of approximately $4.7
million at September 30, 1998, as compared to $13.0 million at December 31,
1997, a decrease of $8.3 million. Included in this balance is an additional $3.0
million raised by the Company on July 22, 1998 in a private placement of 3,000
shares of Preferred Stock. See Note 6. The Company monitors its cash and
investment balances regularly and invests excess funds in short-term money
market funds, corporate bonds and commercial paper.
The Company used cash in operations of approximately $10.3 million for the nine
months ended September 30, 1998 compared with $11.0 million for the comparable
period in 1997. The Company has decreased its use of cash in each of the
quarters in 1998. Cash used in operations for the three months ended September
30, 1998 was $1,484,000, compared to $2,239,000 for the three months ended
September 30, 1997.
Net cash provided by investing activities was $8.2 million for the nine months
ended September 30, 1998 compared to net cash used in investing activities of
$2.4 million for the nine months ended September 30, 1997. Net cash used for
capital expenditures was $756,000 and $1,870,000, respectively, for the nine
months ended September 30, 1998 and 1997. Net cash provided by investment
purchases and proceeds was $8.9 million, net, for the nine months ended
September 30, 1998. Net cash used in investment purchases and proceeds was
$515,000, net, for the nine months ended September 30, 1997.
The Company's principal commitments at September 30, 1998 consisted of
commitments under royalty licenses and other agreements, as well as
obligations under capital leases. In connection with the AOL Agreement
entered into during March 1998, the Company has agreed to pay AOL $4.0
million in placement fees, with $500,000 paid in March 1998, $500,000 paid in
April 1998, and $500,000 due each quarter commencing approximately six months
after the commercial launch, which occurred in May 1998. Included in prepaid
expenses is $167,000, net of $833,000 amortized as of September 30, 1998. The
fees are being amortized on a straight-line basis as of the launch in May
1998, over the term of the two year agreement. In addition to the placement
fees, AOL will receive additional fees based on a sliding scale of end-user
revenues, which will be expensed as incurred. Although the Company
anticipates that the promotional placements resulting from this arrangement
will increase subscriber numbers, and accordingly revenue, there can be no
assurance that this agreement will generate adequate revenues to cover the
associated expenditures and any significant shortfall would have a material
adverse effect on the Company.
Capital expenditures have been, and future expenditures are anticipated to be,
primarily for facilities and equipment to support the expansion of the Company's
operations and systems. The Company expects that its capital expenditures will
increase as the number of Electric Library subscribers and archive hosting
contracts increase. As of September 30, 1998, the Company did not have any
material commitments for capital expenditures. Additionally, the Company may
choose to finance these capital needs through equipment leases.
The Company has agreed in substance to net the amounts due to and due from a
related party (see Note 3). Such amounts net to a due from the related party of
approximately $130,000. This amount is expected to be collected under a schedule
of payments over the next 6 months.
At September 30, 1998, the Company had available cash, cash equivalents and
investments of approximately $4.7 million. The Company has a working capital
deficiency of approximately $2,745,000. This working capital deficiency includes
a deferred revenue amount of approximately $8.0 million. The Company raised an
additional $3.0 million in July 1998 as discussed above to supplement its
working capital. The Company has an option to secure an additional $2.0 million
in equity capital from the same investor under certain conditions (one of which
is the closing bid price of the Common Stock be
11
<PAGE>
at least $5.60 for ten (10) consecutive trading days through the closing date
for the additional $2.0 million) and the terms described in Note 6. The
Company has no current plans to exercise this option. Additionally, as of
September 30, 1998, the Company had available approximately $200,000 under a
revolving lease line available to finance equipment purchases, some of which
is expected to be utilized by the end of 1998. The Company believes that
these funds and its expected cash flows generated in the remainder of 1998
and in 1999, in conjunction with appropriate cost management efforts should
be sufficient to meet its capital and liquidity requirements for the next
twelve months. The rate of use by the Company of its cash resources will
depend, however, on numerous factors, including but not limited to the rate
of increases in end-user and educational subscribers and content management
contracts. The Company will change its planned expenditures or take
additional cost cutting measures, if its expected rate of revenue and
subscriber growth is not achieved. If the cash and cash equivalents balance
and cash generated by operations is insufficient to satisfy the Company's
liquidity requirements, the Company may be required to sell additional debt
or equity securities. The sale of additional equity or debt securities, if
available, could result in dilution to the Company's shareholders. There can
be no assurance, however, that the Company will be successful in such efforts
or that additional funds will be available on acceptable terms, if at all. In
the event the Company does not meet its expected cash flows and the efforts
to raise financing are unsuccessful, this could have a material adverse
effect on the Company.
YEAR 2000
The Company is conducting a comprehensive review of its computer systems and
other operational equipment to identify how the Company may be impacted by
the Year 2000 problem. The Year 2000 problem arises because many currently
installed computer systems and software programs accept only two-digit
(rather than four-digit) entries to define the applicable year and as a
result are not able to distinguish 21st century dates from 20th century
dates. Commencing in the year 2000, this could result in a systems failure or
miscalculations causing disruptions of operations, including, among other
things, an inability to provide services, process transactions, send invoices
or engage in similar normal business activities. This review covers the
information technology systems used in the Company's operations ("IT
Systems"), the Company's non-IT Systems, such as building security, voice
mail and other systems and the computer hardware and software systems used by
the Company's customers who use the Company's products and services
("Products"). The Company currently anticipates that its Year 2000 review
will cover the following phases: (i) identification of all Products, IT
Systems, and non-IT Systems; (ii) identification of and communication with
the Company's significant suppliers, customers, vendors and business partners
whose failure to remedy their own Year 2000 problems will affect the Company;
(iii) assessment of repair or replacement requirements; (iv) repair or
replacement; (v) testing; (vi) implementation; and (vii) creation of
contingency plans in the event of Year 2000 failures. The project is being
managed internally and the Company currently plans to complete its Year 2000
review by the second quarter of 1999.
The Company has completed a preliminary assessment of all current versions of
its Products and believes they are Year 2000 compliant. Even so, the
assessment of whether a system or device in which a Product is embedded will
operate correctly for an end-user depends in large part on the Year 2000
compliance of the system or device's other components, many of which are
supplied by parties other than the Company. The supplier of the Company's
current financial and accounting software has informed the Company that a
fully Year 2000 compliant version of such software is available. The Company
is in the process of completing the implementation of such financial and
accounting software on its IT Systems and Products. The supplier of the
Company's credit card processing services and related software has made
certain contractual representations to the Company that the supplier will
comply with all applicable Visa and MasterCard rules and regulations as they
relate to credit card processing and Year 2000 compliance.
12
<PAGE>
Further, the Company relies, both domestically and internationally, upon
various vendors, governmental agencies, utility companies, telecommunications
service companies, delivery service companies and other service providers who
are outside of the Company's control. There is no assurance that such parties
will not suffer a Year 2000 business disruption, which could have a material
adverse effect on the Company's financial condition and results of operations.
To date, the Company has not incurred any material expenditures in connection
with identifying or evaluating Year 2000 compliance issues. The estimated
total cost of the Year 2000 review is less than $250,000. Most of its
expenses have related to the opportunity cost of time spent by employees of
the Company evaluating prior and current versions of the Products, and Year
2000 compliance matters generally. At this time, the Company does not possess
the information necessary to estimate the potential impact of Year 2000
compliance issues relating to its other IT-Systems, non-IT Systems, prior or
current versions of its Products, its suppliers, its vendors, its business
partners, its customers, and other parties. Such impact, including the effect
of a Year 2000 business disruption, could have a material adverse effect on
the Company's financial condition and results of operations.
The magnitude of the Company's Year 2000 problem (if any), the costs to
complete its Year 2000 program and the dates on which the Company believes it
will be Year 2000 compliant are based on management's best estimates and
current knowledge. These estimates were derived using numerous assumptions,
including, but not limited to, continued availability of resources and third
party compliance plans. However, there can be no assurance that these
estimates will be achieved and actual results could differ materially from
those anticipated. Specific factors that might cause such material
differences include, but are not limited to, the ability to identify and
correct all Year 2000 impacted areas, the availability and cost of personnel,
and the availability and cost of third party Year 2000 solutions.
The audit, analysis and assessment phase of the Company's Year 2000 review is
based on numerous assumptions, one of the most significant of which has to do
with the percentage of non-compliant systems and program code of all systems
and program code. The Year 2000 review assumes that the percentage of
non-compliant code will be consistent with general software industry
practices, and as such, the timing to address this percentage of code is the
basis for the Company's estimated completion of its Year 2000 review by the
second quarter of 1999. Any significant differences between the assumptions
and actual percentage of non-compliant code will have an impact on the
estimated completion date and the costs of the Year 2000 review.
The Company anticipates having all critical systems Year 2000 compliant no
later than the second quarter of 1999 and has not yet developed a contingency
plan. If Year 2000 compliance issues are discovered, the Company then will
evaluate the need for contingency plans relating to such issues.
SEASONALITY
The Company experiences certain elements of seasonality related to the annual
school terms. A significant number of schools align their payments and
subscription start dates for the September and October timeframe. As a result,
the Company expects seasonally strong cash collections in the third and fourth
quarters. Additionally, new sales commitments, or bookings, tend to be slower
when schools are not in session, primarily during the summer months.
13
<PAGE>
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
Not Applicable.
Item 2. Changes in Securities
On July 22, 1998, the Company completed a private placement with a private
equity fund under which it issued 3,000 shares of Preferred Stock and
warrants to purchase common stock for an aggregate of $3 million in cash.
Under the terms of the agreement, the Company can under certain circumstances
issue to the same private equity fund up to an additional 2,000 shares of
Preferred Stock along with certain warrants to purchase Common Stock for an
additional $2 million in cash.
Each share of Series A Preferred Stock is convertible into the number of shares
of the Company's Common Stock equal to (i) the stated value ($1,000) plus a
premium of 5% per annum of the stated value from the date of issuance of the
Series A Preferred Stock, divided by (ii) the Conversion Price. The Conversion
Price is equal to the lesser of (i) the average of the closing bid prices on the
Nasdaq National Market ("Nasdaq") for any five consecutive trading days during
either (A) the twenty trading day period ending one trading day prior to the
date that the conversion notice is sent by a holder to the Company on or before
240 days following the issue date and (B) the thirty trading day period ending
one trading day prior to any conversion date occurring after 240 days after the
issue date, or (ii) the dollar amount, $5.15, which represents 150% of the
average of the closing bid prices over the 10 trading days beginning on July 16,
1998 or, in the case of any subsequent closing, 130% of the average of the
closing bid prices over the 5 trading days immediately preceding the subsequent
closing.
The holders of the Series A Preferred Stock are subject to limits on the number
of shares they can convert at any one time. Unless the trading price of the
Common Stock on Nasdaq on the date of conversion is greater than or equal to
either (i) 120% of the average of the closing bid prices for any five
consecutive trading days during either (A) the twenty trading day period ending
one trading day prior to the date that the conversion notice is sent by a holder
to the Company on or before 240 days following the issue date and (B) the thirty
trading day period ending one trading day prior to any conversion date occurring
after 240 days after the issue date or (ii) the dollar amount, $5.15, which
represents 150% of the average of the closing bid prices over the 10 trading
days beginning on July 16, 1998 or, in the case of subsequent closing, 130% of
the average of the closing bid prices over the 5 trading days immediately
preceding the subsequent closing, and in certain other limited situations, the
following limits apply: Prior to January 22, 1999, the Series A Preferred Stock
may not be converted; beginning on January 23, 1999, each holder of Series A
Preferred Stock may convert up to 25% of its initial holding of Series A
Preferred Stock into Common Stock; beginning on February 23, 1999, it may
convert up to 50% of its initial holding into Common Stock; beginning on March
23, 1999, it may convert up to 75% of its initial holding; beginning on April
23, 1999, it may convert up to 100% of its initial holding.
The Company also issued five year warrants to the private equity fund to
purchase 200,000 shares of Common Stock at a purchase price, subject to
adjustment, equal to $5.15 for half of the warrants, and 130% of the average
closing bid price of the Company's Common Stock during specified periods for the
other half.
The Company has agreed to register under the Securities Act of 1933 the resale
of the Common Stock to be issued upon conversion of the Series A Preferred Stock
or exercise of the warrants.
14
<PAGE>
On November 2, 1998, the Company received a written waiver letter from the
private equity fund with which the Company completed the private placement
discussed in this Item 2. In the waiver letter, the private equity fund waived
certain rights to "put" the shares of the Preferred Stock held by the fund in
connection with certain Mandatory Redemption Events (as defined in the private
placement agreement) relating to the Preferred Stock. See Item 6(a), Exhibit
99.1.
On November 13, 1998, the Company received notices of conversion from the
holder of the Preferred Stock for a total of 2,000 shares of Preferred Stock
convertible into approximately 1,400,000 shares of Common Stock.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Not applicable.
Item 4. Submission of Matters to a Vote of Security Holders
Not applicable.
Item 5. Other Information
The Company's Common Stock is presently listed on the Nasdaq National Market
System. However, as a result of accounting conventions that defer revenue ($8.0
million, as of September 30, 1998), the Company's net tangible assets do not
meet the requirements for continued listing on Nasdaq. Accordingly, the Nasdaq
staff informed the Company that the Company's common stock would be delisted.
Representatives of the Company appeared before a Nasdaq Listing Qualifications
Panel on November 5, 1998 to request a waiver of the net tangible asset
requirement. That request is currently under consideration by the Panel. There
can be no assurance that the waiver requested by the Company will be granted.
Should the Company receive an unfavorable decision from the Nasdaq Panel, it
intends to appeal the decision and request a stay of any delisting action
pending resolution of the appeal.
If the Company's Common Stock is delisted from Nasdaq, the Company expects that
its Common Stock will be quoted on the OTC Bulletin Board. A delisting may have
an adverse effect on, among other things, availability of current market price
information for the Common Stock and news coverage of the Company may be
limited. Delisting may have the effect of restricting investors' interest in the
Common Stock and may have a material adverse effect on the liquidity, trading
market and prices for the Common Stock as well as the Company's ability to issue
additional securities or to secure additional financing. Because of the adverse
impact on the trading market of the Common Stock and the potential loss of
effective trading markets, the volatility of the Common Stock may be increased.
15
<PAGE>
Item 6. Exhibits & Reports on Form 8-K
(a) Exhibits:
27.0 - Financial Data Schedule
99.1 - Letter dated November 2, 1998 from RGC International
Investors, LDC waiving certain rights under the securities
purchase and related agreements discussed in Note 6 of the Notes
To Consolidated Financial Statements above and in Item 2, Changes
in Securities, above.
(b) Reports on Form 8-K:
On July 23, 1998, the Registrant filed with the Securities and
Exchange Commission a current Report on Form 8-K reporting a
Securities Purchase Agreement with RGC International Investors,
LDC to issue up to 5,000 shares of Series A Convertible Preferred
Stock for an aggregate of $5 million in cash.
On August 10, 1998, the Registrant filed with the Securities and
Exchange Commission a current Report on Form 8-K/A amending and
modifying Item 5 of the current Report on Form 8-K of the Company
filed with the Securities and Exchange Commission on July 23,
1998.
16
<PAGE>
SIGNATURES
Pursuant to the requirements 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.
INFONAUTICS, INC.
Date: November 13, 1998 /s/ David Van Riper Morris
----------------------------
David Van Riper Morris
Chief Executive Officer
Date: November 13, 1998 /s/ Federica F. O'Brien
----------------------------
Federica F. O'Brien
Director of Financial Reporting,
Acting Chief Financial Officer
(Principal Financial
and Accounting Officer)
17
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> SEP-30-1998
<CASH> 2,927,307
<SECURITIES> 1,751,327
<RECEIVABLES> 4,226,291
<ALLOWANCES> 57,566
<INVENTORY> 0
<CURRENT-ASSETS> 10,524,840
<PP&E> 5,723,635
<DEPRECIATION> 2,866,777
<TOTAL-ASSETS> 13,701,265
<CURRENT-LIABILITIES> 13,269,485
<BONDS> 0
0
2,721,317
<COMMON> 0
<OTHER-SE> (2,424,212)
<TOTAL-LIABILITY-AND-EQUITY> 13,701,265
<SALES> 10,312,996
<TOTAL-REVENUES> 10,312,996
<CGS> 3,006,330
<TOTAL-COSTS> 24,127,722
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 114,679
<INCOME-PRETAX> (13,660,943)
<INCOME-TAX> 0
<INCOME-CONTINUING> (13,660,943)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (13,660,943)
<EPS-PRIMARY> (1.42)
<EPS-DILUTED> (1.42)
</TABLE>
<PAGE>
Exhibit 99.1
November 2, 1998
VIA FAX
David Van Riper Morris
President and Chief Executive Officer
Infonautics Corporation
900 West Valley Road
Suite 1000
Wayne, PA 19087
Dear Mr. Morris:
By execution of this letter, RGC International Investors, LDC ("RGC")
hereby agrees to waive its right to "put" the shares of Series A Convertible
Preferred Stock held by it in connection with the following Mandatory Redemption
Events (as defined in the Statement with Respect to Shares (the "Statement")
relating to the Series A Convertible Preferred Stock) contained in the
referenced sections of the Statement:
(a) Article V.A. (iii) relating to an assignment for the benefit of
creditors of or the appointment of a receiver for the Company;
(b) Article V.A. (iv) relating to bankruptcy, insolvency,
reorganization or liquidation proceedings involving the
Company; and
(C) Article V.A. (v) relating to the failure to maintain the listing
of the Company's Common Stock on an exchange.
All other provisions of the Statement shall remain in full force and effect. No
transfer of the Series A Convertible Preferred Stock may be effected unless the
transferee first agrees to the waiver set forth herein, and any attempted
transfer without such agreement shall be void.
RGC INTERNATIONAL INVESTORS, LDC
By: Rose Glen Capital Management, L.P.,
Investment Manager
By: RGC General Partner Corp.,
As General Partner
By: /s/Wayne D. Bloch
--------------------------
Wayne D. Bloch
Managing Director
