SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-KSB
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended Commission File Number:
May 31, 1999 1-13360
Cornerstone Internet Solutions Company
(Name of Small Business Issuer as Specified in its Charter)
Delaware 22-3272662
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
584 Broadway, Suite 509
New York, NY 10012
(Address of principal executive offices) (Zip Code)
(212) 343-3920
(Issuer's telephone number, including area code)
Securities Registered pursuant to Section 12(b) of the Exchange Act:
Common Stock par value $.01
per share
Securities Registered pursuant to Section 12(g)of the Exchange Act: None
Check whether the Issuer (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days. Yes X No / /
Check if disclosure of delinquent filers pursuant to Item 405 of Regulation S-B
is not contained herein, and will not be contained, to the best of Registrant's
knowledge, in definitive proxy or information statements incorporated by
reference in Part III of this Form 10-KSB or any amendment to this Form 10-KSB.
[ X ]
Revenues for the Fiscal year ended May 31, 1999 were $3,257,069.
The aggregate market value of the voting stock held by non-affiliates of the
Registrant, based upon the closing price of the Common Stock on August 23, 1999,
was approximately $28,098,630. As of August 23, 1999, the Registrant had
outstanding 13,626,145 shares of Common Stock.
Documents Incorporated By Reference
Portions of the Proxy Statement for the 1999 Annual Meeting of Stockholders
incorporated by reference in Part III, Items 9, 10, 11 and 12.
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Cornerstone Internet Solutions Company
FORM 10-KSB ANNUAL REPORT
TABLE OF CONTENTS
PART I
Page
Item 1. Description of Business 3
Item 2. Description of Property 5
Item 3. Legal Proceedings 5
Item 4. Submission of Matters to a vote of Security Holders 6
PART II
Item 5. Market for Common Equity and Related Stockholder Matters 6
Item 6. Management's Discussion and Analysis of Financial
Condition and Results of Operations 6
Item 7. Consolidated Financial Statements 14
Item 8. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure 14
PART III
Item 9. Directors, Executive Officers, Promoters and Control Persons; 14
Compliance With Section 16(a) of the Exchange Act
Item 10. Executive Compensation 15
Item 11. Security Ownership of Certain Beneficial Owners and Management 15
Item 12. Certain Relationships and Related Transactions 15
Item 13. Exhibits, Lists and reports on Form 8-K
Consolidated Balance Sheets as of May 31, 1999 and 1998 18
Consolidated Statements of Operations for the years ended
May 31, 1999 and 1998 19
Consolidated Statements of Stockholders' Equity for the years ended
May 31, 1999 and 1998 20
Consolidated Statements of Cash Flows for the years ended
May 31, 1999 and 1998 21
Notes to Financial Statements 22
SIGNATURES 34
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PART 1
Item 1 Description of Business
Cornerstone Internet Solutions Company, a Delaware corporation (the "Company")
operates two subsidiaries, USWeb/CKS Cornerstone and B2Bgalalxy.com, are
synergistic Internet businesses. The Company is located at 584 Broadway, Suite
509, New York, New York 10012 and its telephone number is (212) 343-3920. Its
World Wide Web site address is http://www.crstone.com.
USWeb/CKS Cornerstone, a wholly-owned subsidiary of the Company and the only
public and independent affiliate of USWeb/CKS Corporation, the successor of
USWeb Corporation ("USWeb"), is a leading Internet professional services
company. As an affiliate of USWeb, Cornerstone benefits from the USWeb/CKS brand
and has access to the resources and support available from USWeb/CKS.
USWeb/CKS Cornerstone, concentrating on the tri-state area of New York, New
Jersey, and Connecticut, helps clients improve business processes using Internet
based technologies primarily in three major competencies or "Practice" areas:
o Electronic Commerce - Delivers a wide range of e-commerce solutions
from catalog merchant sites to large sophisticated business-to-business systems
across many value chains. Customer objectives are met by combining skills in
business strategy, understanding of e-commerce product and service offerings,
application of the best technology, and solution to security and financial
concerns.
o Business Applications - Automates business processes through the use of
Internet technology. Internet and Extranet deliver mission critical business
applications (sales force automation, dealer, supplier, and customer support,
etc) through secure Internet technologies, often leveraging the investment in
legacy system, to greatly increase productivity, reduce costs, and improve
profitability.
o Media Asset Management - delivers systems that enable the client to
gain control over their growing volumes of digital text, graphic, audio and
video assets. Using the latest technologies to provide web-based solutions that
streamline workflow, automate business processes and facilitate collaboration.
Pursuant to certain agreements with USWeb, the Company is a member of USWeb's
network of affiliates. Under the arrangement with USWeb, the Company is required
to pay license and marketing fees totaling 7% of revenues reduced by the cost of
any third party products. The Company receives a number of services from USWeb
including: (1) centralized marketing, brand awareness, competitive analyses, and
lead generation programs; (2) technology services; (3) an internal registry of
skills and technologies; and (4) strategic relationships with leading hardware
and software companies such as Microsoft and Hewlett Packard.
The Company's Internet professional services business commenced operations in
the fourth quarter of fiscal 1997, but did not generate revenue until fiscal
1998. The Company in fiscal 1999 began to shift its focus to Fortune 1000 and
other large organizations. As such, the average size of the Company's typical
engagement has increased significantly from fiscal 1998. The Company believes
that the market for Internet professional services is growing rapidly. As more
customers express a desire for a single-source professional services firm that
can deliver integrated strategy, technology and creative design, the Company
anticipates expanding its service offerings to fulfill such demand.
B2Bagalaxy.com Inc.
In February, 1999, the Company formed B2Bgalaxy. com., Inc. a Delaware
corporation ("B2B"). B2B is a majority owned subsidiary of the Company. The
Company established B2B to leverage its expertise in business consulting,
Internet technology and the development of business and e-commerce solutions to
create industry-specific business-to- business e-commerce portals that link
buyers and sellers through competitive on-line bidding and focus on improving
profitability. B2B targets industries where small to medium size businesses and
local or regional distribution are dominant and where cost of goods sold is
significant. The unique focus of each industry portal is on enhancing the
earnings of its members by reducing the cost of essential supplies through
competitive closed bidding.
At the core of each B2B portal is B2B's PowerPurchasing proprietary closed
bidding system that is focused on the mission critical process to continually
optimize price and availability of supplies. Members have the ability to use
this latest bidding technology to buy and sell goods and services assuring best
price and availability and thereby lowering their costs, increasing profits and
driving growth. Members also have access to additional services aggregated by
B2Bgalalxy.com to further reduce
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costs. Industry portals also serve as industry meeting place where trends, ideas
and information can be exchanged between companies and relevant content can be
disseminated.
In May, 1999, B2B launched FOODgalaxy.com the first such portal, designed to
lower the cost of food and supplies for restaurants and other food service
providers through increased price competition. FOODgalaxy.com enables
restaurants to post a customized inventory list online and requires suppliers to
continually submit their latest product bids. This competitive process is
intended to decrease the cost of goods to buyers and significantly reduce the
time traditionally devoted to the comparative price shopping process. B2B
estimates that use of PowerPurchasing can save up to 20% on the cost of food and
supplies. Since food and supplies costs can represent 40% of typical restaurant
sales, the impact on earnings could be significant. Suppliers also benefit by
exposure to a larger customer base, reduction of sales/marketing and order
processing costs. Additional industry portals are expected to be launched in the
next twelve (12) months provided that B2B receives additional financing to fund
such new portals.
In connection with the launch of FOODgalaxy.com, B2B on April 30, 1999
consummated a private placement ("B2B Private Placement") of 2,400 shares of
Class A par value $.01 Convertible Preferred Stock ("B2B Preferred Stock"). The
net proceeds received by B2B in the B2B Private Placement was $2,122,957. If B2B
has not consummated on or before September 30, 2000 a public offering of equity
securities where gross proceeds are in excess of $5,000,000, then each share of
B2B Preferred Stock must either at the option of the holder convert into 1,667
shares (the "B2B Exchange Rate") of B2B's Common Stock, $.01 par value ("B2B
Common Stock") or be exchanged into 400 shares (the "Cornerstone Exchange Rate")
of the Company's Common Stock, $ .01 par value (the "Cornerstone Common Stock").
If the holder elects to exchange B2B Preferred Stock for Cornerstone Common
Stock, then, immediately prior to such exchange, the Company shall have the
option to purchase all or any portion of the B2B Preferred Stock at a purchase
price equal to 1.5 multiplied by the stated value of the B2B Preferred Stock
($1,000). The Cornerstone Exchange Rate and B2B Exchange Rate will be subject to
adjustment to protect against dilution in the event of stock dividends, stock
splits, combinations, subdivisions and reclassifications of the Company and B2B,
respectively.
As a result of the B2B Private Placement, and assuming the conversion of
outstanding shares of B2B Preferred Stock into B2B Common Stock at the
conversion rate, and the issuances of B2B Common Stock to the other entities, as
of May 31, 1999 the Company holds approximately 54% of the outstanding common
shares of B2B. Pursuant to certain agreements with minority shareholders of B2B,
the Company will have the right to vote approximately 67% of such outstanding
shares of B2B Common Stock.
The following is a summary of the relationships between the Company and B2B. B2B
and USWeb/CKS Cornerstone, a wholly-owned subsidiary of the Company, have
entered into a Technology Development and Licensing Agreement ("Technology
Agreement") pursuant to which USWeb/CKS Cornerstone will provide internet
development services for B2B. The initial scope of work to be performed by
USWeb/CKS Cornerstone under the Technology Agreement will be the design and
implementation of B2Bgalaxy.com and FOODgalaxy.com. In consideration for its
services under the Technology Agreement, USWeb/CKS Cornerstone will be
reimbursed its costs and related overhead attributable to the services furnished
B2B will own all enhancements which it makes to the technology. Pursuant to an
Administrative Services Agreement between USWeb/CKS Cornerstone and B2B,
USWeb/CKS Cornerstone may also furnish certain administrative and management
services to B2B including accounting and financial services; MIS services:
marketing; and business development and other services. In consideration of such
services, B2B will reimburse USWeb/CKS Cornerstone its costs and related
overhead attributable to the services furnished.
Prior History
The Company was incorporated in December 1993 under the name Enteractive, Inc.
and is the successor to Sonic Images Productions, Inc. ("Sonic"), a District of
Columbia corporation incorporated in 1979 which was merged with and into the
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Company in May 1994 ("Merger"). The Company, as the surviving entity of the
Merger, continued its existence following the Merger as a Delaware corporation.
In July 1998, the Company changed its name to Cornerstone Internet Solutions
Company. In 1999, as described above, the Company formed B2B. Unless otherwise
indicated, references to the Company shall include its wholly owned
subsidiaries, B2B, and its predecessor.
Throughout the first half of fiscal 1997, the Company was primarily engaged in
the development, publishing and marketing of multimedia interactive software
with an emphasis on the CD-ROM platform. As a result of a rigorous review of the
CD-ROM market, the Company's performance and the related risks of continuing to
develop and market interactive multimedia titles, the Company determined to exit
that business and to redirect its business to Internet professional services. In
August 1997, the Company sold its domestic distribution rights, inventory and
certain accounts receivable from its interactive multimedia publishing business
to a third party. On August 14, 1998, the Company entered into a new agreement
with the same party and terminated the August 15, 1997 agreement, except with
respect to the sale of inventory and accounts receivable and the assignment of
the distribution contracts (the "1998 contract"). Under the terms of the 1998
contract, the Company sold all its rights to its multimedia titles to the
acquirer for $100,000.
During fiscal 1998, the Company reduced operating expenses by concentrating its
development activities in New York City and its marketing activities in the
surrounding tri-state area. As a result, the Company, with the approval of USWeb
surrendered its affiliation rights in certain geographic areas and recorded a
write-off of $315,000 representing the unamortized portion of the related
affiliation rights. In addition, the Company incurred restructuring expenses of
$427,700 for the estimated losses from subleasing the closed offices and related
severance costs paid in fiscal 1998.
Competition
The market for the Company's products and services is highly competitive.
Competitors include national and regional advertising agencies, specialized and
integrated marketing communication firms and businesses in the computer network
solutions industry. The Company expects that new competitors that provide
integrated or specialized services (e.g., corporate identity and packaging,
advertising services or World Wide Web site design) and are technologically
proficient, will emerge and will be competing with the Company. Most current and
potential competitors have longer operating histories, larger installed customer
bases, longer relationships with customers and significantly greater financial,
technical , marketing and public relations resources than the Company and could
decide to increase their resource commitments to the Company's market. In
addition, many competitors have lower overhead, more technical expertise and
more advanced technology. The Company does not have significant proprietary
technology that would preclude or inhibit competitors from entering its markets.
The Company intends to compete on the basis of price and the quality of their
services. In addition, the market for Internet development is relatively new and
subject to continuing definition, and, as a result, the core business of certain
competitors may better position them to compete in this market as it matures.
Competition of the type described above could materially adversely affect the
Company's business, results of operations and financial condition. There can be
no assurance that future competitors will not develop or offer services and
products that provide significant performance, price, creative or other
advantages over those offered by the Company, which could have a material
adverse effect on the Company's business, financial condition and operating
results.
Employees
As of August 1, 1999 the Company's USWeb/CKS Cornerstone subsidiary had 35
employees all of whom are employed on a full-time basis. The staff is comprised
of 3 sales and marketing, 25 in development and 7 in general and administrative
functions. The B2B subsidiary had 4 employees all of whom are employed on a
full-time basis. The Company has never experienced a work stoppage and its
employees are not covered by a collective bargaining agreement. The Company
believes that its relations with its employees are good.
Item 2 Properties
The Company owns no real property. The Company conducts its operations through
one leased facility in New York, New York. The Company also leases six other
office locations which have been subleased to independent companies. The
anticipated net loss from the subleases was accrued as of May 31, 1998 and the
subsequent expenditures have been consistent with the original accrued amounts.
Item 3 Legal Proceedings
Neither the Company nor any of its subsidiaries is a party to any material
pending legal proceedings, other than routine litigation incidental to the
business.
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Item 4 Submission of Matters to a Vote of Security Holders.
None.
PART 2
Item 5 Market for Common Equity and Related Stockholder Matters. The Common
Stock of Cornerstone Internet Solutions is traded under the symbol CNRS on the
NASDAQ SmallCap Market. The Company's Common Stock is also traded on the Boston
Stock Exchange under the symbol "CNR". The following table sets forth the ranges
of the high and low closing bid prices for the Common Stock since June 1, 1997,
as reported on the NASDAQ SmallCap Market, the principal trading market for the
Common Stock. The quotations are interdealer prices without adjustment for
retail markups, markdowns, or commission and do not necessarily represent actual
transactions.
COMMON STOCK
YEAR ENDED MAY 31, 1999
High Low
First Quarter 2--1/3 1--1/4
Second Quarter 1--21/32 5/8
Third Quarter 3--7/16 1--5/32
Fourth Quarter 4--1/16 1--15/16
YEAR ENDED MAY 31, 1998
High Low
First Quarter 2 -5/8 1 -1/8
Second Quarter 4 -1/16 1 -3/8
Third Quarter 3 1 -1/8
Fourth Quarter 3 -1/4 1 -1/2
As of August 23, 1999, the Company had outstanding 13,626,145 shares of Common
Stock and 126 holders of record of the Company's Common Stock. The Company
believes that at such date, there were in excess of 2,900 beneficial owners of
the Company's Common Stock.
The Company has never paid any dividends on its Common Stock. The Company
currently intends to retain all earnings, if any, to support the development and
growth of the Company's business. Accordingly, the Company does not anticipate
that any cash dividends will be declared on its Common Stock for the foreseeable
future.
In the fiscal quarter ended February 28, 1999, the closing price of the
Company's Common Stock was at least $1.50 per share on 15 trading days during a
consecutive 20 day trading period and accordingly the holders of Class D
Preferred Stock have the right at any time to convert each share of Class D
Preferred Stock into such whole number of shares of Common Stock equal to the
aggregate stated value of the Class D Preferred Stock of $1,250 per share to be
converted divided by $1.00. Through May 31, 1999, 880 shares of Class D
Preferred Stock were converted into 1,100,000 shares of Common Stock. Such
shares of Common Stock were issued pursuant to the exemption contained in
section 4 (2) of the Securities Act of 1933 as amended. As of August 1, 1999
there were 8,040 shares of Class D Preferred Stock issued and outstanding
convertible into 10,050,000 shares of Common Stock.
Item 6 Management's Discussion and Analysis of Financial Condition and Results
of Operations. The discussion and analysis should be read in conjunction with
the Consolidated Financial Statements of Cornerstone Internet Solutions Company
and Subsidiaries and Notes to the Consolidated Financial Statements included
elsewhere in this Form 10-KSB.
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Management's Discussion and Analysis of Financial Condition and Results of
Operations contains certain forward-looking statements that involve risks and
uncertainties, including statements regarding the Company's strategy, planned
operations, financial performance, and revenue sources. The Company's actual
results could differ materially from the results anticipated in these
forward-looking statements as a result of certain factors set forth under "Risk
Factors" below. For additional information regarding the Company and factors
that could affect future performance, see the information contained in the
Company's other public filings with the Securities and Exchange Commission.
Results of Operations -Years Ended May 31, 1999 and 1998
Revenues
Internet services revenue. Internet services revenue were $3,205,869 and
$1,182,600, in the fiscal years ended May 31, 1999 and 1998, respectively. The
increase in revenues is a result of securing new contracts with existing
customers and securing new customers. The Company anticipates that revenues will
be impacted in the future by its ability to expand its services in existing
accounts and grow its client base. There were two customers that individually
comprised more than 10% of Internet services revenue of the Company for the
fiscal year ended May 31, 1999. The Company's five largest customers comprised
69% of Internet services revenue of the Company for the fiscal year ended May
31, 1999. To the extent that any of the Company's major customers does not
remain a significant source of revenues, or is not replaced by similar or larger
customers, there could be a direct and immediate material adverse effect on the
Company's business, financial condition, results of operations and prospects.
Software licensing and royalty revenue. Software licensing and royalty revenue
were $51,200 and $328,300 in the fiscal years ended May 31, 1999 and 1998,
respectively. The decrease reflects the Company's decision to concentrate on the
design, development and implementation of business systems using Internet
technologies and to discontinue the publishing of interactive CD-ROM titles.
Expenses
Cost of Internet Services Revenue. Cost of Internet services revenue was
$3,967,454 and $2,855,300, in the fiscal years ended May 31, 1999, and 1998,
respectively. Cost of Internet services revenue as a percentage of related
revenues decreased to 124% from 241% in the fiscal years ended May 31, 1999 and
1998, respectively. Cost of Internet services revenue in the fiscal year ended
May 31, 1999 exceeded Internet services revenue as a result of the Company's
need to supplement internal staff with consultants who had specific skills
necessary to fulfill customer projects and non-chargeable time. The Company
expects that as it secures additional contracts, the cost of revenues as a
percentage of revenues will continue to decrease.
Cost of Licensing and Royalty Revenue. Cost of licensing and royalty revenue
were $0 and $36,500 in the fiscal years ended May 31, 1999 and 1998,
respectively. The reduction results from the Company's decision to discontinue
the publishing of interactive CD-ROM titles.
Marketing and Selling Expenses. Marketing and Selling expenses were $519,959 and
$2,756,700, in the fiscal years ended May 31, 1999 and 1998, respectively. The
81% decrease relates to the reduction in sales force and closure of sales
offices during the second half of fiscal 1998, a result of the Company's fiscal
1998 decision to centralize its marketing activities in the New York City and
tri-state area. The fiscal 1999 amount includes $66,665 related to B2B's
start-up marketing costs.
General and Administrative Expenses. General and administrative expenses were
$2,317,762 and $2,472,700 in the fiscal years ended May 31, 1999, and 1998,
respectively. The fiscal 1999 amount includes $255,539 related to B2B's start-up
costs.
Restructuring Expenses. The Company incurred restructuring expenses of $427,700
during the fiscal year ended May 31, 1998 for the estimated losses from
subleasing the closed sales offices and related severance costs. The subsequent
expenditures have been consistent with the original accrued amounts.
Interest expense. Interest expense was $10,760 and $14,600 in fiscal 1999 and
1998 respectively. The interest expense in fiscal 1999 and 1998 relates to long
term borrowings for equipment financing.
Interest income. Interest income was $10,594 and $108,600 in fiscal 1999 and
1998 respectively due to lower cash balances in fiscal 1999 than in fiscal 1998.
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Other Income and (Expense). Other income and (expense) was ($33,292) and $200 in
the fiscal years ended May 31, 1999 and 1998 respectively.
Income Tax Benefit. No income tax benefit was recorded in the fiscal years ended
May 31, 1999 and May 31, 1998. Using the standards set forth in Financial
Accounting Standard No. 109, management cannot currently determine whether the
Company will generate taxable income during the period that the Company's net
operating loss carry forward and other deferred tax asset may be applied towards
the Company's taxable income, if any. Accordingly, the Company has established a
valuation allowance against its deferred tax asset.
Liquidity and Capital Resources
Since June 1, 1997, the Company's principal sources of capital have been as
follows:
(i) On February 19, 1998, the Company consummated a private placement
resulting in the issuance of 2,000 shares of Class B Preferred
Stock. Net proceeds to the Company were $1,990,800.
(ii) On July 24, 1998, the Company consummated a private placement of
1,768,750 unregistered shares of Common Stock for $1.00 per share.
Net proceeds to the Company were $1,487,900.
(iii) On November 10, 1998, the Company consummated a private placement of
1,600 shares of newly created Class D Preferred Stock for $1,250 per
share. Net proceeds to the Company were $1,969,900.
(iv) In fiscal 1999, the Company received $991,373 from the exercise of
warrants and options.
(v) On April 30, 1999, B2B received net proceeds of $2,122,957 in a
private placement from the sale of 2,400 shares of B2B Preferred
Stock. (See Business--B2Bgalalxy.com Inc.)
The Company had consolidated cash and cash equivalents of $2,939,596 and
$392,200 at May 31, 1999 and May 31, 1998, respectively. The increase of
$2,547,396 reflects primarily the proceeds from the private placements described
above which provided $3,457,800, the net proceeds from the B2B Private Placement
which provided $2,122,957 and proceeds from the exercise of options and warrants
of $991,373 partially offset by the funding of operating activities ($3,463,395)
and payments of long term debt of $99,481. Accounts receivable increased from
$343,700 as of May 31, 1998 to $1,024,624 as of May 31, 1999, an increase of
198%, while sales for fiscal 1999 and 1998 increased from $1,182,600 to
$3,205,869, an increase of 171%. The higher rate of growth of accounts
receivable is attributable to extended contractual payment terms and longer
projects. Capital expenditures were $366,858 and $529,600 in the fiscal years
ended May 31, 1999 and 1998 respectively. The Company anticipates that capital
expenditures will increase as revenues increase as a result of equipping staff
or contractors to service customers.
Pursuant to certain agreements between the Company, B2B and certain B2B
stockholders, the proceeds of the B2B Private Placement can only be used for
B2B's business. Pursuant to such agreements, the Company has and will perform
for B2B certain administrative and development services for which B2B reimburses
the Company for its cost of providing such services plus a charge to cover
related overhead of the Company. The Company is obligated to provide such
services to B2B at a price no less favorable than could be obtained by B2B from
an unrelated third party. In the fiscal year ended May 31, 1999, the Company
provided to B2B $352,100 of such services.
The Company's continuing losses from operations could impact the Company's
ability to meet its obligations as they become due. The Independent Auditors'
report for the fiscal year ended May 31, 1999 includes an explanatory paragraph
regarding the Company's ability to continue as a going concern. As part of its
business plan to enhance liquidity, the Company has reduced its operating
expenses, secured in July 1998 and November 1998 $1,487,900 and $1,969,900,
respectively from the sale of common stock and preferred stock in two separate
private placements and is continuing its activities designed to increase its
revenues. However, these funds may not be sufficient to meet the Company's
longer-term cash requirements for operations. Based on management's assessment
of the demand for Internet based professional services, the Company may
significantly alter the level of expenses. Management believes that based on
funds on hand at May 31, 1999 and anticipated revenues, operations can continue
until at least through December 31, 1999.
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Year 2000 Compliance. Many currently installed computer systems and software
products are coded to accept only two-digit entries in the date code field.
These date code fields will need to accept four digit entries to distinguish
21st century dates from 20th century dates. As a result, in less than one year,
computer systems and software used by many companies, including customers and
potential customers of the Company, may need to be upgraded to comply with such
"Year 2000" requirements. The Company is closely monitoring the progress the
developers of the software the Company utilizes in many of its customer projects
i.e. Microsoft Corporation, as well as the developers of the software utilized
in internal systems are making towards ensuring that the products the Company
utilizes are Year 2000 compliant. The Company believes that its internal systems
and third party software incorporated into client solutions will be Year 2000
compliant. Failure to provide Year 2000 compliant business solutions and
software to its customers could have a material adverse effect on the Company's
business, results of operations and financial condition. The Company's costs to
ensure that internal systems and software acquired for integration into client
business solutions are Year 2000 compliant has not been and is not expected to
become significant. The Company has not implemented any contingency plans if it
fails to become year 2000 compliant. These risks, other than those specifically
associated with Internet professional services, are also applicable to B2B.
Further, the Company believes that the purchasing patterns of customers and
potential customers may be affected by Year 2000 issues as companies expend
significant resources to correct or patch their current software systems for
Year 2000 compliance. These expenditures may result in reduced funds available
to purchase products and services such as those offered by the Company.
New Accounting Pronouncements
The Company will implement the provisions of Statement of Financial Accounting
Standards ("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging
Activities", as amended by SFAS No. 137, in fiscal year 2001, for which the
Company is presently assessing its impact on the consolidated financial
statements, if any.
RISK FACTORS- ADDITIONAL IMPORTANT FACTORS TO BE CONSIDERED FOR THE COMPANY AND
B2B
Quarterly Operating Results and Margins; Seasonality of Business. The Company's
operating results have fluctuated in the past and are likely to fluctuate in the
future as a result of a variety of factors, many of which will be outside of the
Company's control. Some of these factors include timing of the completion,
material reduction or cancellation of major projects or the loss of a major
client; the amount and timing of the receipt of new business; timing of hiring
or loss of personnel; the amount and timing of the opening or closing of an
office; capital expenditures and other costs relating to the expansion of
operations; the level of demand for Intranet, Extranet and Web site development;
the productivity of consultants; the ability to maintain adequate staffing to
service clients effectively; the amount and timing of expenditures by clients
for professional services; the introduction of new products or services by
competitors; pricing changes in the industry; the relative mix of lower cost
full-time employees versus higher cost independent contractors; technical
difficulties with respect to the use of the Internet; economic conditions
specific to Internet technology usage; government regulation and legal
developments regarding the use of the Internet; and general economic conditions.
The Company, as its customer base expands, may also experience seasonality in
its business, resulting in diminished revenues as a consequence of decreased
demand for professional services during summer and year-end vacation and holiday
periods. Due to all of the foregoing factors, the Company's operating results in
any given quarter may fall below the expectations of securities analysts and
investors. In such event, the trading price of the Company's Common Stock would
likely be materially and adversely affected and litigation may ensue. These
risks, other than those specifically associated with Internet professional
services, are also applicable to B2B.
The Company's historical financial data is of limited value in planning future
operating expenses. Accordingly, the Company's expense levels will be based in
part on its expectations concerning future revenues and will be fixed to a large
extent. The Company will be unable to adjust spending in a timely manner to
compensate for any unexpected shortfall in revenues. Accordingly, a significant
shortfall in demand for services could have an immediate and material adverse
effect on the Company's business, financial condition, results of operations and
prospects. These risks, other than those specifically associated with Internet
professional services, are also applicable to B2B.
Limited Operating History; Accumulated Deficit; Evolving Business Model. The
Company entered the market for Internet professional services at the end of
fiscal 1997 and began to generate revenue from such services in fiscal 1998 and
as of May 31, 1999 had an accumulated deficit of $33,544,650. The Company
anticipates operating at a loss for the foreseeable future and there is no
assurance that its technology, products or services will achieve market
acceptance.The Company and its prospects must be considered in light of the
risks, expenses and difficulties frequently encountered by companies in an early
9
<PAGE>
stage of development, particularly companies in new and rapidly evolving markets
such as Internet professional services. Such risks for the Company include, but
are not limited to, an evolving business model. To address these risks, the
Company must, among other things, strengthen its business development and
management activities, continue to develop the strength and quality of its
operations, respond to competitive developments and continue to attract, retain
and motivate qualified employees. There can be no assurance that the Company
will be successful in meeting these challenges and addressing such risks and the
failure to do so could have a material adverse effect on the Company's business,
financial condition, results of operations and prospects. These risks, other
than those specifically associated with Internet professional services, are also
applicable to B2B, as it only commenced operations in the fourth quarter of
fiscal 1999.
Recruitment and Retention of Consulting Professionals. The Company's business is
labor intensive. Accordingly, the Company's success depends in large part on its
ability to identify, hire, train and retain consulting professionals who can
provide the Internet strategy, technology, marketing, audience development and
creative skills required by clients. There is currently a shortage of such
personnel, and this shortage is likely to continue for the foreseeable future.
The Company will encounter intense competition for qualified personnel from
other companies, and there can be no assurance that it will be able to identify,
hire, train and/or retain other highly qualified technical, marketing and
managerial personnel in the future. The inability to attract and retain the
necessary technical, marketing and managerial personnel would have a material
adverse effect on the Company's business, financial condition, results of
operations and prospects. These risks, other than those specifically associated
with Internet professional services, are also applicable to B2B.
Risks Associated with Failure to Manage Growth. The growth of the Company is
expected to place a significant strain on the Company's limited personnel,
management and other resources. In the future, the Company will be required to
attract, train, motivate and manage new employees successfully, to effectively
integrate new employees into its operations and to continue to improve its
operational, financial, management and information systems and controls. There
can be no assurance that the Company's systems, procedures or controls will be
adequate to support the Company's operations or that the Company's management
will be able to achieve the rapid execution necessary to exploit the market for
the Company's business model. In addition, the management of the Company is
devoting significant portions of time to the management of B2B, which could
affect the ability of the Company to manage growth. The failure to effectively
manage any further growth could have a material adverse effect on the Company's
business, financial condition, results of operations and prospects. These risks,
other than those specifically associated with Internet professional services,
are also applicable to B2B.
Developing Internet Economy and Market for e-Commerce Solutions. A substantial
portion of the Company's revenues is expected to be derived from services that
depend upon the adoption of Internet solutions by companies to improve their
business positioning and processes, and the continued development of the World
Wide Web, the Internet and e-commerce. The Internet may not prove to be a viable
commercial marketplace because of inadequate development of the necessary
infrastructure, lack of development of complementary products, implementation of
a competing technology, delays in the development or adoption of new standards
and protocols required to handle increased levels of Internet activity,
governmental regulation, or other reasons. The Internet has experienced, and is
expected to continue to experience, significant growth in the number of users
and volume of traffic. There can be no assurance that the Internet
infrastructure will continue to be able to support the demands placed on it by
this continued growth. Moreover, critical issues concerning the use of Internet
and e-commerce solutions (including security, reliability, cost, ease of
deployment and administration and quality of service) remain unresolved and may
affect the growth of the use of such technologies to maintain, manage and
operate a business, expand product marketing, improve corporate communications
and increase business efficiencies. The adoption of Internet solutions for these
purposes, particularly by those individuals and enterprises that have
historically relied on traditional means, can be capital intensive and generally
requires the acceptance of a new way of conducting business and exchanging
information. If critical issues concerning the ability of Internet solutions to
improve business positioning and processes are not resolved or if the necessary
infrastructure is not developed, the Company's business, financial condition,
results of operations and prospects will be materially adversely affected. Even
if these issues are resolved, there can be no assurance that businesses will
elect to outsource the design, development and maintenance of their Web sites to
Internet professional services firms. Companies may decide to assign the design,
development and implementation of Internet solutions to their internal
information technology divisions, which have ready access to both key client
decision makers and the information required to prepare proposals for such
solutions. If independent providers of Internet professional services prove to
be unreliable, ineffective or too expensive, or if software companies develop
tools that are sufficiently user-friendly and cost-effective, enterprises may
choose to design, develop or maintain all or part of their Intranets, Extranets
or Web sites in-house. If the market for such services does not continue to
develop or develops more slowly than expected, or if the Company's services do
not achieve market acceptance, its business, results of operations, financial
condition and prospects
10
<PAGE>
will be materially adversely affected. These risks, other than those
specifically associated with Internet professional services, are also applicable
to B2B.
Volatility of Stock Price. The trading prices of the Company's Common Stock has
historically been subject to wide fluctuations due to a variety of factors
including announcements regarding financial results and significant orders.
Failure to achieve periodic revenue, earnings and other operating and financial
results as forecasted or anticipated by brokerage firms or industry analysts
could result in an immediate and adverse effect on the market price of the
Company's common stock. The Company may not discover, or be able to confirm,
revenue or earnings shortfalls until the end of a quarter, which could result in
a greater immediate and adverse effect on the common stock of the Company. In
addition, the stock market, which has recently been at or near historic highs,
has experienced extreme price and volume fluctuations that have particularly
affected the market prices of equity securities of many technology companies and
that often have been unrelated to the operating performance of such companies.
In the past, following periods of volatility in the market price of a company's
securities, securities class action litigation has often been instituted against
such a company. Such litigation could result in substantial costs and a
diversion of management's attention and resources, which would have a material
adverse effect on the Company's business, financial condition, results of
operations and prospects.
Rapid Technological Change. The market for Internet professional services is
characterized by rapid technological change, changes in user and client
requirements and preferences, frequent new product and service introductions
embodying new processes and technologies and evolving industry standards and
practices that could render the Company's existing service practices and
methodologies obsolete. The Company's success will depend, in part, on its
ability to improve its existing services, develop new services and solutions
that address the increasingly sophisticated and varied needs of its current and
prospective clients, and respond to technological advances, emerging industry
standards and practices, and competitive service offerings. Failure to do so
could result in the loss of existing customers or the inability to attract and
retain new customers, either of which developments could have a material adverse
effect on the Company's business, financial condition, results of operations and
prospects. There can be no assurance that the Company will be successful in
responding quickly, cost-effectively and sufficiently to these developments. If
the Company is unable, for technical, financial or other reasons, to adapt in a
timely manner in response to changing market conditions or client requirements,
its business, financial condition, results of operations and prospects would be
materially adversely affected. These risks, other than those specifically
associated with Internet professional services, are also applicable to B2B.
Risks of Fixed-Price Engagements. The Company generates and expects to continue
to generate a significant portion of its revenues through project fees billed on
a fixed-price basis as distinguished from billing on a time and materials basis.
The Company assumes greater financial risk from fixed-price type contracts than
on either time-and- material or cost-reimbursable contracts. The failure to
estimate accurately the resources and time required for an engagement, to manage
client expectations effectively regarding the scope of services to be delivered
for the estimated fees or to complete fixed-price engagements within budget, on
time and to clients' satisfaction would expose the Company to risks associated
with cost overruns and, in certain cases, penalties, any of which could have a
material adverse effect on the Company's business, results of operations and
financial condition.
Potential Liability to Clients. Many of the Company's service engagements
involve the development, implementation and maintenance of applications that are
critical to the operations of their clients' businesses. The Company's failure
or inability to meet a client's expectations in the performance of its services
could injure the Company's business reputation or result in a claim for
substantial damages against the Company, regardless of its responsibility for
such failure. In addition, the Company possesses technologies and content that
may include confidential or proprietary client information. Although the Company
has implemented certain policies to prevent such client information from being
disclosed to unauthorized parties or used inappropriately, any such unauthorized
disclosure or use could result in a claim for substantial damages. The Company
has attempted to limit contractually its damages arising from negligent acts,
errors, mistakes or omissions in rendering professional services; however there
can be no assurance that any contractual protections will be enforceable in all
instances or would otherwise protect the Company from liability for damages.
Although the Company maintains general liability insurance coverage, it does not
maintain coverage for errors. There can be no assurance that the Company's
insurance coverage will continue to be available on reasonable terms or will be
available in sufficient amounts to cover one or more large claims, or that the
insurer will not disclaim coverage as to any future claim. The successful
assertion of one or more large claims against the Company that are uninsured,
exceed available insurance coverage or result in changes to the Company's
insurance policies, including premium increases or the imposition of a large
deductible or co-insurance requirements, could adversely affect the Company's
business, results of operations and financial condition. These risks, other than
those specifically associated with Internet professional services, are also
applicable to B2B.
11
<PAGE>
Year 2000 Compliance. Many currently installed computer systems and software
products are coded to accept only two-digit entries in the date code field.
These date code fields will need to accept four digit entries to distinguish
21st century dates from 20th century dates. As a result, in less than one year,
computer systems and software used by many companies, including customers and
potential customers of the Company, may need to be upgraded to comply with such
"Year 2000" requirements. The Company is closely monitoring the progress the
developers of the software the Company utilizes in many of its customer projects
i.e. Microsoft Corporation, as well as the developers of the software utilized
in internal systems are making towards ensuring that the products the Company
utilizes are Year 2000 compliant. The Company believes that its internal systems
and third party software incorporated into client solutions will be Year 2000
compliant. Failure to provide Year 2000 compliant business solutions and
software to its customers could have a material adverse effect on the Company's
business, results of operations and financial condition. The Company's costs to
ensure that internal systems and software acquired for integration into client
business solutions are Year 2000 compliant has not been and is not expected to
become significant. The Company has not implemented any contingency plans if it
fails to become year 2000 compliant. These risks, other than those specifically
associated with Internet professional services, are also applicable to B2B.
Further, the Company believes that the purchasing patterns of customers and
potential customers may be affected by Year 2000 issues as companies expend
significant resources to correct or patch their current software systems for
Year 2000 compliance. These expenditures may result in reduced funds available
to purchase products and services such as those offered by the Company.
Future Capital Needs. The Company's continuing losses from operations could
impact the Company's ability to meet its obligations as they become due. The
Independent Auditors' report for the fiscal year ended May 31, 1999 includes an
explanatory paragraph regarding the Company's ability to continue as a going
concern. As part of its business plan to enhance liquidity, the Company has
reduced its operating expenses, secured in July 1998 and November 1998
$1,487,900 and $1,969,900, respectively, from the sale of common stock and
preferred stock in two separate private placements and is continuing its
activities designed to increase its revenues. However, these funds may not be
sufficient to meet the Company's longer-term cash requirements for operations.
Based on management's assessment of the demand for Internet based professional
services, the Company has and may continue to significantly alter the level of
expenses. Management believes that based on funds on hand at May 31, 1999 and
anticipated revenues, operations can continue until at least through December
1999. The Company may need to raise additional funds in order to continue
operations beyond such date and to support more rapid expansion, develop new or
enhanced services and products, respond to competitive pressures, or take
advantage of unanticipated opportunities. The Company's future liquidity and
capital requirements will depend upon numerous factors, including the success of
the Company's existing and new service offerings and competing technological and
market developments. The Company may be required to raise additional funds
through public or private financing, strategic relationships or other
arrangements. There can be no assurance that such additional funding, if needed,
will be available on terms acceptable to the Company, or at all. Furthermore,
any additional equity financing may be dilutive to stockholders, and debt
financing, if available, may involve restrictive covenants, which may limit the
Company's operating flexibility with respect to certain business matters.
Strategic arrangements, if necessary to raise additional funds, may require the
Company to relinquish its rights to certain of its intellectual property or
selected business opportunities. If additional funds are raised through the
issuance of equity securities, the percentage ownership of the stockholders of
the Company will be reduced, stockholders may experience additional dilution in
net book value per share, and such equity securities may have rights,
preferences or privileges senior to those of the holders of the Company's Common
Stock. If adequate funds are not available on acceptable terms, the Company may
be unable to continue operations or fully exploit business opportunities
available to it. These risks are also applicable to B2B.
Additional Dilution. As of July 31, 1999, the Company has issued and outstanding
8,040 shares of Series D Preferred Stock convertible into 10,050,000 shares of
the Company's Common Stock and 40 shares of Series C Preferred Stock convertible
into 40,410 additional shares of the Company's Common Stock. The Company also
has outstanding options and warrants to purchase approximately 4,490,974 shares
of Common Stock in the aggregate. In addition, upon a liquidation of B2B and in
lieu of certain liquidation preferences, the holders of B2B Preferred Stock may
exchange each share of B2B Preferred Stock for 400 shares of the Company's
Common Stock (the "Cornerstone Exchange Rate"), subject to certain adjustments.
If upon a liquidation a holder of B2B Preferred Stock elects to exchange their
B2B Preferred Stock into the Company's Common Stock at the Cornerstone Exchange
Rate, Cornerstone shall have the option exercisable until September 30, 2000 to
purchase all, or any portion of B2B Preferred Stock at a purchase price equal to
1.5 multiplied by the $1,000 Stated Value for each share of B2B Preferred Stock.
These risks, other than those specifically associated with Internet professional
services, are also applicable to B2B.
12
<PAGE>
If B2B, by September 30, 2000, does not consummate a public offering of equity
of B2B where the gross proceeds to B2B are in excess of $5,000,000 (the
"Subsequent Financing"), each share of B2B Preferred Stock must either, at the
option of the holder, (i) convert into Common Stock of B2B at a specified
conversion rate, or (ii) be exchanged for the Company's Common Stock at the
Cornerstone Exchange Rate.
The Cornerstone Exchange Rate will be subject to adjustment to protect against
dilution in the event of stock dividends, stock splits, combinations,
subdivision and reclassification of Cornerstone. If the holder elects to
exchange the B2B Preferred Stock into the Company's Common Stock then
immediately prior to such exchange Cornerstone shall have the option to purchase
all, or any portion of the B2B Preferred Stock at a purchase price equal to 1.5
multiplied by the $1,000 Stated Value for each share of the B2B Preferred Stock.
Government Regulation and Legal Uncertainties. The Company is not currently
subject to direct government regulation, other than pursuant to the securities
laws and the regulations thereunder applicable to all publicly owned companies,
and laws and regulations applicable to businesses generally, and there are
currently few laws or regulations directly applicable to access to or commerce
on the Internet. However, due to the increasing popularity and use of the
Internet, it is likely that a number of laws and regulations may be adopted at
the local, state, national or international levels with respect to the Internet
covering issues such as user privacy, freedom of expression, pricing of products
and services, taxation, advertising, intellectual property rights, information
security or the convergence of traditional communications services with Internet
communications. Because of the growth in the electronic commerce market,
Congress has held hearings on whether to regulate providers of services and
transactions in the electronic commerce market, which regulations could
negatively affect client demand for Internet solutions that facilitate
electronic commerce. Moreover, the adoption of any such laws or regulations may
decrease the growth of the Internet, which could in turn decrease the demand for
the Company's services or increase the cost of doing business or in some other
manner have a material adverse effect on the Company's business, financial
condition, results of operations or prospects. These risks, other than those
specifically associated with Internet professional services, are also applicable
to B2B.
Dependence on Key Accounts. There were two customers that individually comprised
more than 10% of Internet services revenue of the Company for the fiscal year
ended May 31, 1999. The Company's five largest customers comprised 69% of
Internet services revenue of the Company for the fiscal year ended May 31, 1999.
Since most of the Company's customers retain the Company on a project by project
basis, a customer from whom the Company generates substantial revenue in one
period may not be a substantial source of revenue in a subsequent period. To the
extent that any of the Company's major customers do not remain a significant
source of revenues, there could be a direct and immediate material adverse
effect on the Company's business, financial condition, results of operations and
prospects.
Concentration of Stock Ownership. The present directors, executive officers and
their respective affiliates and 5% or more stockholders of the Company
beneficially own a majority of the outstanding Common Stock of the Company. As a
result, these stockholders will be able to exercise significant influence over
all matters requiring stockholder approval, including the election of directors
and approval of significant corporate transactions. Such concentration of
ownership may also have the effect of delaying or preventing a change in control
of the Company.
Conflicts of Interest. B2B and the Company in the future may be presented with
similar business opportunities or compete for future business. There can be no
assurance that any of such conflicts will be resolved in favor of the Company.
RISK FACTORS- ADDITIONAL IMPORTANT FACTORS TO BE CONSIDERED FOR B2B
Possible Acquisitions or Joint Ventures. It is currently anticipated that a
substantial portion of B2B's future growth will result from acquisitions of
additional lines of similar or complementary business or through investments in
joint ventures with other entities. While B2B is currently in discussions with
companies regarding possible marketing relationships and joint venture
arrangements, to date B2B has no commitments, understandings or arrangements
with respect to any such transaction and there can be no assurance that any such
transaction will be consummated or that they will be profitable for B2B.
Dependence on The Company's Personnel and the Personnel of Joint Ventures; Need
to Attract Additional Personnel. B2B's future success will depend to a large
extent on the efforts and the work product of employees of the Company. There is
no requirement for any of such employees to devote even a substantial amount of
time to B2B. Accordingly, such personnel will have conflicts of interests in
allocating their time among various business activities. B2B's success will also
13
<PAGE>
depend to a large extent on the contributions of the management personnel of the
various industry ventures in which it engages. The inability of B2B's future
joint ventures to attract qualified personnel could have a material adverse
effect on B2B's business, financial condition and results of operations.
B2B's success will depend to a large extent on the efforts and the work product
of employees of the Company. B2B is in the early stages of building a sales
force and telesales group. B2B will need to continue to hire additional
personnel as B2B's business grows. A shortage in the number of trained
salespeople could limit B2B's ability to increase sales in B2B's existing Web
sites and to sell as B2B launches new Web sites.
Finally, the ability to attract and retain highly trained executives and
professionals with background experience and knowledge of the Internet, intranet
and other new media platforms is critical to the success of B2B. B2B's ability
to develop its businesses will depend upon its ability to recruit and retain
additional personnel, including engineering, marketing and management personnel.
Competition for qualified personnel is intense and accordingly, there can be no
assurance that B2B will be able to retain or hire all of the necessary personnel
or that B2B may not otherwise need to change its personnel to compete in its
rapidly changing market.
Need for Additional Financing. Although B2B believes that the net proceeds of
the B2B Private Placement were sufficient to allow it to develop its technology
infrastructure and to initially fund FOODgalaxy, inasmuch as B2B has no other
commitments, understandings or arrangements with respect to any other
transaction, B2B cannot ascertain the capital requirements for any particular
transaction. In addition, B2B will need additional funding to further develop
its technology and infrastructure and apply its technology to other industries.
Accordingly, in order to achieve its business objectives, B2B will be required
to seek additional financing. There can be no assurance that such financing
would be available on acceptable terms, if at all. The failure of B2B to secure
such additional financing could have a material adverse effect on the continued
development or growth of B2B.
Inflation
The past and expected future impact of inflation on the financial statements is
not significant.
Item 7 Consolidated Financial Statements and Supplementary Data
The response to this item is submitted as a separate section of this Form
10-KSB. See item 13.
Item 8 Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
None
PART 3
Item 9 Directors, Executive Officers, Promoters and Control Persons;
Compliance With Section 16(a) of the Exchange Act
The response on this item is incorporated by reference to the Company's proxy
statement for its 1999 Annual Meeting of Stockholders, which will be filed with
the Securities and Exchange Commission separately pursuant to Rule 14a-6 of the
Securities Exchange Act of 1934, as amended.
14
<PAGE>
Item 10 Executive Compensation
The response on this item is incorporated by reference to the Company's proxy
statement for its 1999 Annual Meeting of Stockholders, which will be filed with
the Securities and Exchange Commission separately pursuant to Rule 14a-6 of the
Securities Exchange Act of 1934, as amended.
Item 11 Security Ownership of Certain Beneficial Owners and Management
The response on this item is incorporated by reference to the Company's proxy
statement for its 1999 Annual Meeting of Stockholders, which will be filed with
the Securities and Exchange Commission separately pursuant to Rule 14a-6 of the
Securities Exchange Act of 1934, as amended.
Item 12 Certain Relationships and Related Transactions
The response on this item is incorporated by reference to the Company's proxy
statement for its 1999 Annual Meeting of Stockholders, which will be filed with
the Securities and Exchange Commission separately pursuant to Rule 14a-6 of the
Securities Exchange Act of 1934, as amended.
Item 13 Exhibits, Lists and Reports on Form 8-K
(a) 1 Financial Statements
The following financial Statements are filed as part of this report
Page
Report of Independent Auditors 17
Consolidated Balance Sheets as of May 31, 1999 and 1998 18
Consolidated Statements of Operations for the years ended
May 31, 1999 and 1998 19
Consolidated Statements of Stockholders' Equity for the years ended
May 31, 1999 and 1998 20
Consolidated Statements of Cash Flows for the years ended
May 31, 1999 and 1998 21
Notes to Consolidated Financial Statements 22
(a) 2 Financial Statement Schedules
None required
(a) 3 Exhibits
The following exhibits are filed herewith or are incorporated by reference to
exhibits previously filed with the Commission. The Company shall furnish copies
of exhibits for a reasonable fee (covering the expense of furnishing copies)
upon request.
Exhibit
Number Description of Exhibit
- ------ ----------------------
**3.1 Certificate of Incorporation of the Company, as amended.
*3.2 Amendment to Certificate of Incorporation.
**3.3 By-laws of the Company, as amended.
*****3.4 Amendment to Certificate of Incorporation
**4.7 Form of Unit Purchase Option granted to the Underwriter of its
designees.
****4.13 Certificate of Designation for Class C Convertible Preferred
Stock.
*****4.14 Certificate of Designation for Class D Convertible Preferred
Stock.
*****4.15 Certificate of Designation for Class A Convertible Prefered
Stock for B2B Galaxy.com Inc.
**10.1 Employment Agreement dated as January 3, 1994, by and between
the Company and Andrew Gyenes.
*10.4 Form of Indemnification Agreement between each of the Officers
and Directors of the Company and the Company.
**10.8 1994 Incentive and Non-Qualified Stock OptionPlan.
**10.9 1994 Consultant Stock Option Plan.
**10.14 1995 Stock Option Plan for Outside Directors.
***10.20 Agreement dated December 4, 1996 between the Company and USWeb
Corporation.
***10.21 Agreement dated August 15, 1997 between the Company and
Enteractive Distribution Company.
15
<PAGE>
**** Agreement dated August 14, 1998 between the Company and
Enteractive Distribution Company.
*****23.1 Consent of KPMG LLP
* Incorporated herein by reference to such Exhibit to the
Registration Statement on Form SB-2 of the Registrant
(Registration No.333-2244) filed in March 1996 as amended.
** Incorporated herein by reference to such Exhibit to the
Registration Statement on Form SB-2 of the Registrant
(Registration No. 33-83694) filed on September 6, 1994.
*** Incorporated herein by reference to such exhibit to the
Company's Annual Report on Form 10-KSB for the fiscal year
ended May 31, 1997.
**** Incorporated herein by reference to such Exhibit to the
Company's Annual Report on Form 10KSB for the fiscal year ended
May 31, 1998.
***** Filed herewith
(b) Reports on Form 8-K
The Company filed on report on Form 8-K under Item 5 -- Other
Events
16
<PAGE>
Independent Auditors' Report
The Board of Directors and Stockholders
Cornerstone Internet Solutions Company:
We have audited the accompanying consolidated balance sheets of Cornerstone
Internet Solutions Company and subsidiaries as of May 31, 1999 and 1998, and the
related consolidated statements of operations, stockholders' equity and cash
flows for the years then ended. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Cornerstone Internet
Solutions Company and subsidiaries as of May 31, 1999 and 1998, and the results
of their operations and their cash flows for the years then ended, in conformity
with generally accepted accounting principles.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in note 1 to the
consolidated financial statements, the Company's recurring losses from
operations raise substantial doubt about its ability to continue as a going
concern. Management's plans in regard to these matters are also described in
note 1. The consolidated financial statements do not include any adjustments
that might result from the outcome of this uncertainty.
KPMG LLP
Melville, New York
August 26, 1999
17
<PAGE>
CORNERSTONE INTERNET SOLUTIONS COMPANY and Subsidiaries
Consolidated Balance Sheets
<TABLE>
<CAPTION>
May 31, May 31,
1999 1998
-------------- -----------
ASSETS
Current Assets
<S> <C> <C>
Cash and cash equivalents $ 2,939,596 $ 392,200
Investments 398,348 167,400
Accounts receivable, net 1,024,624 343,700
Other receivables 20,587 100,000
Prepaid expenses and other 49,475 269,300
------------ ------------
Total current assets 4,432,630 1,272,600
Affiliation rights, net 191,667 219,200
Property and equipment, net 671,182 485,900
Other 200,920 69,200
------------ ------------
$ 5,496,399 $ 2,046,900
------------ ------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities
Current maturities of long-term debt $ 104,954 $ 99,500
Accounts payable 830,397 538,100
Accrued restructuring expenses 25,286 95,400
Accrued payroll and related expenses 124,866 202,800
Other accrued expenses 437,306 410,300
Other current liabilities 30,000 9,300
------------ ------------
Total current liabilities 1,552,809 1,355,400
Long-term debt, excluding current maturities 1,465 106,400
------------ ------------
Total liabilities 1,554,274 1,461,800
------------ ------------
Minority interest 938,838 --
Stockholders' Equity
Preferred stock, $.01 par value,
2,000,000 shares authorized;
Class A 0 and 340 shares issued and
outstanding at May 31, 1999 and 1998 -- --
Class B, 0 and 2,000 shares issued and
outstanding at May 31,1999 and 1998 -- 20
Class C, 540 and 6,260 shares issued and outstanding
at May 31,1999 and 1998 5 100
Class D, 8040 and 0 shares issued and outstanding at
May 31, 1999 and 1998, liquidating preference of
$11,055,000 at May 31, 1999 80 --
Common stock, $.01 par value, 50,000,000 shares
authorized and 13,121,013 and 9,441,117 shares
issued and outstanding at May 31, 1999 and 1998 131,210 94,400
Additional paid-in capital 36,018,294 30,222,480
Accumulated other comprehensive income 398,348 167,400
Accumulated deficit (33,544,650) (29,899,300)
------------ ------------
Total stockholders' equity 3,003,287 585,100
------------ ------------
$ 5,496,399 $ 2,046,900
------------ ------------
</TABLE>
See notes to consolidated financial statements
18
<PAGE>
CORNERSTONE INTERNET SOLUTIONS COMPANY and Subsidiaries
Consolidated Statements of Operations
Year Ended Year Ended
May 31, 1999 May 31, 1998
------------ ------------
Internet services revenue 3,205,869 1,182,600
Software licensing and royalty revenue 51,200 328,300
----------- -----------
Total revenues 3,257,069 1,510,900
----------- -----------
Cost of internet services revenue 3,967,454 2,855,300
Cost of licensing and royalty revenue -- 36,500
Marketing and selling expenses 519,959 2,756,700
General and administrative expenses 2,317,762 2,472,700
Restructuring expenses -- 427,700
----------- -----------
Total costs and expenses 6,805,175 8,548,900
----------- -----------
Operating loss (3,548,106) (7,038,000)
Other income (expense):
Interest expense (10,760) (14,600)
Interest income 10,594 108,600
Other income (expense), net (33,292) 200
----------- -----------
Loss before income taxes (3,581,564) (6,943,800)
Provision for income taxes -- --
Minority interest in net
loss of subsidiary, net (63,786) --
----------- -----------
Net loss (3,645,350) (6,943,800)
----------- -----------
Preferred stock dividends and preferences (1,850,950) (11,477,800)
----------- -----------
Net loss to common stockholders $ (5,496,300) (18,421,600)
----------- -----------
Basic and diluted loss per share $ (0.46) (2.21)
----------- -----------
Weighted average shares of common stock 11,905,740 8,337,063
----------- -----------
See notes to consolidated financial statements.
19
<PAGE>
CORNERSTONE INTERNET SOLUTIONS COMPANY and Subsidiaries
Consolidated Statements of Stockholders' Equity
Years ended May 31, 1999 and 1998
<TABLE>
<CAPTION>
Accumulated
Additional Other Compre- Compre-
Preferred Stock Common Stock Paid-In hensive Accumulated hensive
Shares Amount Shares Amount Capital income Deficit Total income
---------------------------------------------- ------------------------------- -------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance May 31, 1997 6,720 $ 100 7,679,441 $ 76,800 $ 28,038,400 - $(22,955,500) $ 5,159,800
Stock Option
consulting expense 210,000 210,000
Stock options exercised - - 115,489 1,100 243,000 - 244,100
Exchange of public
warrants for common
stock 248,864 2,500 (2,500) -
Exchange of private
warrants for common
stock - - 1,397,323 14,000 (14,000) - -
Redemption of preferred
stock (120) - - - (165,000) (165,000)
Preferred stock dividend (78,200) (78,200)
Sale of Class B
convertible preferred
stock 2,000 20 - - 1,990,780 1,990,800
Investment in USWeb
warrants 167,400 167,400 167,400
Net loss - - - - - (6,943,800) (6,943,800)(6,943,800)
------------------------------------------------------------------------------------------------------------
Balance May 31, 1998 8,600 $ 120 9,441,117 $ 94,400 $ 30,222,480 $167,400 $(29,899,300) $585,100 (6,776,400)
------------------------------------------------------------------------------------------------------------
Stock option consulting
expense - - - - 19,168 - 19,168
Stock options exercised - - 216,685 2,167 410,871 - - 413,038
Warrants exercised - - 246,100 2,461 575,874 - - 578,335
Sale of Class D
convertible preferred
stock 1,600 16 - - 1,969,884 1,969,900
Conversion of preferred
stock to common stock (1,220) (12) 1,448,361 14,484 (14,472) -
Sale of common stock - - 1,768,750 17,687 1,470,213 - - 1,487,900
Exchange of Class B
preferred stock for
Class D preferred stock(400) (4) - - 4 - -
Transaction involving
subsidiary's common
stock - - - - 27,369 27,369
Preferred stock dividend
adjustment - (35) - 11 79,303 - 79,279
Preference from issuance
of subsidiary's
preferred stock 1,257,600 1,257,600
Change in fair value of
investments in USWeb
warrants - - - - - 230,948 - 230,948 230,948
Net loss - - - - - - (3,645,350) (3,645,350) (3,645,350)
-------------------------------------------------------------------------------------------------------------
Balance May 31, 1999 8,580 $ 85 13,121,013 $ 131,210 $ 36,018,294 $398,348 $(33,544,650) $3,003,287 (3,414,402)
-------------------------------------------------------------------------------------------------------------
</TABLE>
See notes to consolidated financial statements.
20
<PAGE>
CORNERSTONE INTERNET SOLUTIONS COMPANY and Subsidiaries
Consolidated Statements of Cash Flows
<TABLE>
<CAPTION>
Year Ended May 31,
1999 1998
---------------------------
Cash flows from operating activities:
<S> <C> <C>
Net loss $(3,645,350) $(6,943,800)
Adjustments to reconcile net loss to net cash used in operating activities
Depreciation and amortization 246,173 258,200
Write-off of affiliation rights -- 315,000
Stock option consulting expense 19,168 210,000
Minority interest in net loss of consolidated subsidiary, net 63,786 --
Changes in assets and liabilities:
Accounts receivable (680,924) (119,300)
Other receivables 79,413 --
Prepaid expenses and other 219,825 (175,500)
Other assets (36,720) (7,700)
Accounts payable 292,297 250,200
Accrued expenses (41,763) 84,600
Other current liabilities 20,700 (60,200)
--------------------------
Net cash used in operating activities (3,463,395) (6,188,500)
--------------------------
Cash flows from investing activities:
Purchases of property and equipment (366,858) (529,600)
Purchases of investments (95,000) --
--------------------------
Net cash used in investing activities (461,858) (529,600)
--------------------------
Cash flows from financing activities:
Proceeds from exercise of stock options 413,038 244,100
Net proceeds from issuance of common and preferred stock 3,457,800 1,990,800
Proceeds from exercise of warrants 578,335 --
Net proceeds from sale of subsidiary's preferred stock 2,122,957 --
Proceeds from sale and leaseback of equipment -- 249,900
Preferred stock dividend -- (78,200)
Principal payments under long-term debt (99,481) (84,200)
Redemption of preferred stock -- (165,000)
--------------------------
Net cash provided by financing activities 6,472,649 2,157,400
--------------------------
Net increase (decrease) in cash and cash equivalents 2,547,396 (4,560,700)
Cash and cash equivalents
Beginning of year 392,200 4,952,900
--------------------------
End of year $ 2,939,596 $ 392,200
==========================
Non-cash investing and financing activities
Issuance of subsidiary's common stock for fixed assets $ 37,064 $ --
</TABLE>
See notes to consolidated financial statements
21
<PAGE>
Cornerstone Internet Solutions Company
Notes to Consolidated Financial Statements
May 31, 1999 and 1998
1. Business and Liquidity
On July 2, 1998 the Company's stockholders ratified a proposal to
change the Company's name from Enteractive, Inc. to Cornerstone
Internet Solutions Company. Throughout fiscal 1997 Cornerstone
Internet Solutions Company (the "Company") designed, published and
marketed interactive multimedia titles for the entertainment and
recreation markets. On December 4, 1996 the Company signed multiple
market affiliate agreements with USWeb Corporation ("USWeb") and
paid $625,000 for the right to operate USWeb/CKS affiliate offices
in New York City, and certain other markets in the Northeast portion
of the United States, for a ten-year period. This business provides
a full range of Internet and Intranet-based business solutions,
including Web site design, hosting and management, design and
implementation of database and e-commerce solutions, educational
programs and Web-related strategic consulting and marketing.
On August 15, 1997 the Company entered into an agreement with
Enteractive Distribution Company, LLC ("EDC"), an unrelated company,
whereby EDC acquired the inventory and certain accounts receivable
existing at the date of the closing resulting from the Company's
interactive multimedia publishing business. In addition, the Company
assigned its domestic distribution contracts to EDC. On August 14,
1998 the Company and EDC entered into a new agreement and terminated
the August 15, 1997 agreement, except with respect to the sale of
inventory and accounts receivable and the assignment of the
distribution contracts. Under the terms of the 1998 contract, the
Company sold all its rights to its multimedia titles and has
assigned all third party rights in the titles to EDC for $100,000.
As of May 31, 1999 the balance due from EDC of $20,587 is reflected
as other receivables.
The Company's Internet and Intranet solutions services business
commenced operations in the fourth quarter of fiscal 1997, but did
not generate revenue until fiscal 1998. The Company is obligated to
pay USWeb monthly fees equal in the aggregate to 7% of adjusted
gross revenues, as defined, but not less than certain contractual
minimum fees. During fiscal 1998, the Company reduced operating
expenses by concentrating its development activities in New York
City and its marketing activities in the surrounding tri-state area.
As a result the Company, with the approval of USWeb surrendered its
affiliation rights in certain other geographic regions and recorded
a write off of $315,000 representing the unamortized portion of the
related affiliation rights. In addition, the Company incurred
restructuring expenses of $427,700 for the estimated losses from
subleasing the closed offices and related severance costs paid in
fiscal 1998. Accrued restructuring costs at May 31, 1999 of $25,286
consist of the remaining rent commitments in excess of sublease
rental income for closed offices.
On February 17, 1999, the Company formed B2Bgalaxy. com Inc. ("B2B")
as a wholly owned subsidiary of the Company. The Company established
B2B to leverage its expertise in business consulting, Internet
technology and the development of business and e-commerce solutions
to create industry-specific business-to- business e-commerce portals
that link buyers and sellers through competitive on-line bidding
with a focus on improving profitability. In May 1999, B2B launched
FOODgalaxy.com, the first such portal, designed to lower the cost of
food and supplies for restaurants and other food service providers
through increased price competition. FOODgalaxy.com enables
restaurants to post a customized inventory list online and requires
suppliers to continually submit their latest product bids. This
competitive process is designed to decrease the cost of goods to
buyers and significantly reduce the time traditionally devoted to
the comparative price shopping process.
B2B received from a third party $37,064 of fixed assets in exchange
for 20.6% of its common shares outstanding, which resulted in an
increase in the Company's paid-in-capital of $27,369. In addition,
on April 30, 1999 B2B sold 2,400 shares of convertible preferred
stock ("Preferred Stock") for net
22
<PAGE>
proceeds of $2,122,957. The stated value of a share of the Preferred
Stock is $1,000. B2B's Preferred Stock has a liquidation preference
equal to its stated value and, upon liquidation, the holders may
exchange each share of Preferred Stock for 400 shares of the
Company's Common Stock in lieu of the liquidation preference. If
such an exchange occurs, the Company has the option exercisable
until September 30, 2000 to purchase any of the Preferred Stock at
1.5 times the stated value of the Preferred Stock. The Preferred
Stock does not provide for dividends and has voting rights equal to
the number of shares of common stock into which it is convertible.
If by September 30, 2000 B2B consummates a public offering of equity
in excess of $5 million, each share of Preferred Stock automatically
converts into 1,667 shares of B2B's Common Stock or converts based
on 75% of the Common Share price in the financing, whichever results
in a higher number of Common Shares. If B2B does not consummate the
financing by September 30, 2000, then the holder of the Preferred
Stock must at their option either convert each Preferred Share into
1,667 Common Shares of B2B or 400 Common Shares of the Company. If
the holder elects Company Common Stock, the Company will have the
option prior to the conversion to purchase the Preferred Stock at
1.5 times stated value.
As a result of the above transactions, at May 31, 1999 the Company
owned 79.4% of B2B's Common Stock or 54% of B2B, assuming the
conversion of B2B's Preferred Stock. The results of B2B are
consolidated with those of the Company and minority interest is
presented in the accompanying consolidated balance sheet. Due to the
insignificance of the minority common shareholders' investment in
B2B, the consolidated financial statements reflect approximately 97%
of B2B's net loss for fiscal 1999.
Based on the market price of the Company's Common Stock on the date
of issuance, B2B's Preferred Stock had a non-cash beneficial
conversion feature of $1,257,600. Such portion of the proceeds was
allocated to additional paid-in capital and will be recognized as an
expense in minority interest over the seventeen month period from
the issuance of B2B's Preferred Stock to September 30, 2000, the
first date that conversion to the Company's Common Stock can occur.
The amortization is calculated using the effective interest method,
increases minority interest in the balance sheet and amounted to
approximately $74,000 in fiscal 1999.
The accompanying consolidated financial statements have been
prepared assuming that the Company will continue as a going concern.
The Company's continuing losses from operations could impact the
Company's ability to meet its obligations as they become due. In
November, 1998, the Company consummated a private placement of 1,600
shares of newly created Class D Preferred Stock for net proceeds of
approximately $1,970,000 and in April, 1999 the Company received
$2,122,957 from the sale of a subsidiary's Preferred Stock. As part
of its business plan to enhance liquidity, the Company has reduced
its operating expenses and continues to expand its customer base and
engagement size to drive revenue and growth. It is also exploring
financing its receivables to improve cash flow, and it is in the
process of attempting to secure a line of credit. As of August 26,
1999 the Company has no commitments for either the financing or the
line of credit.
2. Summary of Significant Accounting Policies
(a) Consolidation Policy
The consolidated financial statements include the accounts of
Cornerstone Internet Solutions Company and its wholly and majority
owned subsidiaries. All significant intercompany transactions and
balances have been eliminated in consolidation.
(b) Cash and Cash Equivalents and Investments
All highly liquid debt instruments with maturities of three months
or less at the time of purchase are considered to be cash
equivalents. Cash equivalents of $2,736,121 and $392,200 at May 31,
1999 and 1998, respectively, consist of cash held in
interest-bearing money market accounts. Pursuant to a shareholders'
agreement for the Company's subsidiary, B2B, cash and cash
equivalents amounting to $2,144,045, representing the remaining
proceeds from the sale of B2B Preferred Stock, are restricted in use
to expenditures related to B2B's business. Short-term investments,
consisting of vested USWeb warrants, are "available for sale"
securities that are recorded at fair value.
24
<PAGE>
(c) Revenue Recognition
Revenue from Internet and Intranet-based business solution services
is recognized using the percentage of completion method based on
progress to date to total estimated cost. Deferred revenue
represents amounts paid by the customer for which the related
services were not provided at the balance sheet date. Royalty
revenue is recognized when earned. The allowance for doubtful
accounts at May 31, 1999 and 1998 was $248,814 and $108,400,
respectively. At May 31, 1999 and 1998 there are $378,278 and
$126,000, respectively of unbilled accounts receivable, which are
generally billable in the first quarter of the following fiscal
year.
(d) Affiliation Rights
Fees for affiliation rights were paid to USWeb for the right to join
the USWeb network and operate as an affiliate in the territories
indicated in note 1. The fee is being amortized over the 10-year
life of the agreement with USWeb. Affiliation rights at May 31, 1999
and 1998 were net of accumulated amortization of $118,333 and
$90,800, respectively, and the $315,000 write off described above.
(e) Property and Equipment
Property and equipment are stated at cost and are depreciated over
their estimated useful lives using the straight-line method, except
for leasehold improvements, which are amortized over the lesser of
the lease term or the life of the related asset.
(f) Income Taxes
Deferred tax assets and liabilities are recognized for the future
tax consequences attributable to differences between the financial
statement carrying amounts of existing assets and liabilities and
their respective tax bases. Deferred tax assets and liabilities are
measured using enacted tax rates expected to apply to taxable income
in the years in which those temporary differences are expected to be
realized or settled. The effect on deferred tax assets and
liabilities of a change in tax rates is recognized in income in the
period that includes the enactment date.
(g) Long-Lived Assets
The Company reviews its long-lived assets for impairment whenever
events or circumstances indicate that the carrying amount of an
asset may not be recoverable. If the sum of expected cash flows,
undiscounted and without interest, is less than the carrying amount
of the asset, an impairment loss is recognized as the amount by
which the carrying value of the asset exceeds its fair value.
(h) Earnings Per Share
In fiscal 1998, the Company adopted Statement of Financial
Accounting Standard No. 128, "Earnings Per Share", which requires
the presentation of basic and diluted earnings per share. Basic
earnings per share is based on weighted average shares outstanding
and diluted earnings per share adds the dilutive effect of stock
options and other common stock equivalents. Basic and diluted net
loss per share for fiscal 1999 and 1998 is based on the weighted
average number of shares of common stock outstanding, excluding
common stock equivalents (common stock options and warrants and
convertible preferred stock) since they are antidilutive.
25
<PAGE>
(i) Accounting for Stock-Based Compensation
The Company records compensation expense for employee stock options if
the market price of the underlying stock exceeds the exercise price on
the date of the grant. The Company has elected not to implement the
fair value based accounting method for employee stock options, but has
disclosed the pro forma net earnings per share to reflect employee
stock option grants made beginning in fiscal 1996 as if such method
had been used to account for stock-based compensation.
(j) Fair Value of Financial Instruments
At May 31, 1999 and 1998, the fair value of the Company's cash and
cash equivalents, accounts receivable, other receivables, accounts
payable and accrued expenses approximate their carrying value in the
consolidated financial statements due to the short maturity of those
instruments. The book value of the Company's debt approximates fair
value.
(k) 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 amount of assets and
liabilities and disclosures of contingent assets and liabilities at
the date of the financial statements and the reported amount of
revenues and expenses during the reporting period. Actual results
could differ from those estimates.
(l) In fiscal 1999, the Company adopted SFAS No. 130, "Reporting
Comprehensive Income". In accordance with SFAS No. 130, the Company is
required to present all components of comprehensive income in the
consolidated financial statements.
3. Property and Equipment
Property and equipment, at May 31, 1999 and 1998, consisted of the
following:
<TABLE>
<CAPTION>
1999 1998 Useful Life
---- ---- -----------
<S> <C> <C> <C>
Computer equipment $1,790,381 $1,360,400 3 years
Furniture and other equipment 176,403 216,500 3-5 years
Leasehold improvements 46,386 32,400 Lease Term
-----------------------
2,013,170 1,609,300
Accumulated depreciation and
amortization (1,341,988) (1,123,400)
-----------------------
Property and equipment, net $ 671,182 $ 485,900
========== ==========
</TABLE>
4. Long-Term Debt
Long-term debt at May 31, 1999 and 1998, consisted of the following:
1999 1998
---- ----
Notes payable in connection
with equipment financing
secured by Company assets, with
interest at 9.75% $ 106,419 205,900
Less current maturities (104,954) (99,500)
-------------------------
Long-term debt, excluding current
maturities $ 1,465 $106,400
=========================
26
<PAGE>
Interest costs of approximately $17,831 and $14,600 were paid in
fiscal 1999 and 1998, respectively.
5. Convertible Preferred Stock Class D
On November 10, 1998 the Company raised $1,969,900, net of related
expenses, through a private placement of 1,600 shares of Class D
Convertible Preferred Stock (Class D Preferred Stock) at a purchase
price of $1,250 per share. The holders of Class D Preferred Stock have
the right, at any time commencing after the earlier of (I) June 30,
2000 or (II) if the closing price of the common stock shall have been
at least $1.50 per share on 15 trading days during any 20-consecutive
trading day period, to convert each share of Class D Preferred Stock
into such whole number of shares of common stock equal to the
aggregate stated value of the Class D Preferred Stock to be converted
divided by $1.00, subject to adjustment. Each share of Class D
Preferred Stock has a liquidation preference of $1,375 per share. The
Class D Preferred Stock is entitled to vote on all matters submitted
to the holders of the Company's common stock, at 1,250 votes per
share, pays no dividends and is not redeemable. In the third quarter
of fiscal 1999, the closing price of the Company's Common Stock was at
least $1.50 per share on 15 trading days during a consecutive 20 day
trading period and accordingly the holders of Class D Preferred Stock
have the unrestricted right to convert each share of Class D Preferred
Stock as described above. In fiscal 1999, the Company issued 7,320
shares of Class D Preferred Stock in exchange for Class B and C
Preferred Stock (notes 6 and 7). During fiscal 1999, 880 shares of
Class D Preferred Stock were converted into 1,100,000 shares of Common
Stock. As of May 31, 1999 there were 8,040 shares of Class D Preferred
Stock issued and outstanding convertible into 10,050,000 shares of
Common Stock.
6. Convertible Preferred Stock Class A and C
On December 12, 1996 the Company completed a private placement of 84
units, each unit consisting of 80 shares of Class A Convertible
Preferred Stock (Class A Preferred) and 50,000 common stock purchase
warrants to purchase in the aggregate 4,200,000 shares of Common Stock
at an exercise price of $4.00 per share and expiring December 13,
2001(the "Warrants"). Proceeds from the private placement were
approximately $7,869,100, net of related expenses of $531,000. The
Class A Preferred has a stated value of $1,250 per share.
On November 19, 1997, the Company offered to exchange the 4,200,000
Warrants for common stock (the "Exchange Offer"), whereby for each 2.8
warrants exchanged, the Company issued one share of its Common Stock.
In connection with the Exchange Offer, the Company received the
written consent of the participating preferred stockholders to amend
the terms of the Class A Preferred to delay the date when the Class A
Preferred Stock can first be converted into common stock from May 1,
1998 to July 1, 1999 and modify certain redemption features of the
Class A Preferred . Holders of 6,260 shares of the Class A Preferred
Stock agreed to the terms of the Exchange Offer. As a result, on
February 6, 1998, the Company issued 1,397,323 shares of common stock
in exchange for the cancellation of 3,912,500 Warrants. The fair value
of the common stock issued approximated the fair value of the canceled
Warrants. Subsequently, the Company redesignated the 6,260 shares of
Class A Preferred held by the stockholders who approved the Exchange
Offer as Class C Convertible Preferred Stock (Class C Preferred). Such
preferred shareholders were entitled to receive a dividend at 12% per
year of the stated value of the Class C Preferred for the period from
April 30, 1998 to June 30, 1999. In accordance with the terms of the
Preferred Stock exchange offer discussed below, all dividends
associated with Class C Preferred exchanged were relinquished.
Dividends are payable in common stock and for
27
<PAGE>
those Class C Preferred shares still outstanding after the exchange
offer, such dividends amounted to $81,000 for the year ended May 31,
1999. In July, 1999 the Company issued 40,213 shares of Common Stock
in full payment of the Preferred Stock dividends.
Each share of Class C Preferred is convertible at any time after June
30, 1999 into such whole number of shares of common stock equal to the
aggregate stated value of the Class C Preferred Stock to be converted
divided by the lesser of (i) $2.00 or (ii) 50% of the average closing
price for the common stock for the last ten trading days in the fiscal
quarter of the Company prior to such conversion. The Company must use
33% of the proceeds from any other public equity financing prior to
January 1, 2000 to redeem the Class C Preferred at 110% of the stated
value. The Company also has the option to redeem all, or any portion
of on a pro rata basis, the Class C Preferred at any time upon 30 days
prior written notice, at a redemption price equal to 110% of the
stated value.
The conversion rate of the Class C Preferred (when calculated on the
basis of dividing the stated value by $2.00 only) will be subject to
adjustments to protect against dilution in the event of stock
dividends, stock splits, and certain other events. In July, 1999, 500
shares of Class C Preferred were converted into 505,132 shares of
common stock.
On April 27, 1998, the Company notified the holders of the Class A
Preferred that the Company would redeem the remaining 460 shares of
outstanding Class A Preferred as of May 28, 1998 at a price per share
equal to 1.1 multiplied by the stated value of each share of Class A
Preferred. Holders of 340 shares of Class A Preferred exercised their
right to convert such Class A Preferred to common stock, which
resulted in the issuance of 348,361 shares of common stock in June
1998. 120 shares of Class A Preferred were redeemed for $165,000 in
May 1998.
In October 1998, the Company offered to exchange one share of its
Class D Preferred Stock for one share of Class C Preferred. There were
6,260 shares of Class C Preferred outstanding at the time of the
offer. On November 25, 1998 the Company issued 5,720 shares of Class D
Preferred Stock in exchange for a like amount of Class C Preferred
pursuant to the exchange offer.
7. Class B Convertible Preferred Stock
On February 19, 1998, the Company consummated a $2,000,000 private
placement resulting in the issuance of 2,000 shares of Class B
Convertible Preferred Stock (Class B Preferred ). Net proceeds to the
Company were $1,990,800. The Class B Preferred with a stated value of
$1,000 per share, was entitled to vote on all matters submitted to
holders of the Company's common stock, at 1,000 votes per share, paid
no dividends and was not redeemable.
On December 7, 1998 the Company issued 1,600 shares of Class D
Preferred Stock in exchange for all the outstanding Class B Preferred
. The exchange was the result of the Company's offer, which provided
that one share of its Class B Preferred with a $1,000 stated value
could be exchanged for .8 shares of Class D Preferred Stock with a
$1,250 stated value.
Based on the market price of the Company's common stock on the date of
issuance the Class B Preferred Stock had a non-cash beneficial
conversion feature of $2,250,550. The beneficial conversion feature
was being recognized solely in the calculation of loss per common
share over a 14 month period, beginning with the issuance of the Class
B Preferred to March 1999 (the first date that conversion could have
occurred). Due to the exchange of all the Class B Preferred to
28
<PAGE>
Class D Preferred Stock, in the third quarter of fiscal 1999, the
Company reflected the remaining balance of $824,000 in the loss per
share calculation. As a result, the net loss to common shareholders
includes preferred stock preferences related to the Class B Preferred
of $1,769,950 and $480,600 for the years ended May 31, 1999 and 1998
respectively. In addition, the net loss to common shareholders in
fiscal 1998 includes a preferred stock preference of $10,997,200
related to a beneficial conversion feature for the Class A Preferred,
which was recognized through April 30,1998, the first date that
conversion of those shares could occur.
8. Private Placement of Common Stock
On July 24, 1998 the Company consummated a private placement of
1,768,750 unregistered shares of Common Stock, for $1 per share. The
net proceeds of the offering were approximately $1,487,900.
9. Stock Options and Warrants
On July 2,1998 the Company's stockholders approved an amendment to the
Company's 1994 Incentive and Stock Option Plan (the "Employee Plan")
increasing the number of shares of common stock authorized for
issuance upon exercise of the options granted pursuant to the plan to
3,250,000. The Company also has a 1994 Stock Option Plan for
Consultants and a 1995 Stock Option Plan for Directors and has
reserved 1,000,000 and 150,000 shares, as amended, for issuance to
consultants and non-employee directors, respectively.
The Company periodically grants stock options outside the Employee
Plan to other parties. All stock options, which have been granted by
the Company, with the exception of those options granted to persons
holding more than ten percent of the voting common stock in the
Company on the date of grant, expire up to ten years after grant and
are issued at exercise prices which are not less than the fair value
of the stock on the date of grant. Options granted to persons
holding more than ten percent of the voting common stock of the
Company on the date of grant expire five years after grant and are
issued at exercise prices which are not less than 110 percent of the
fair value of the stock on the date of grant. Stock options
generally vest monthly in equal increments over the first three
years after the date of grant. Payment for the exercise price of an
option may be made with previously acquired common stock of the
Company with certain limitations.
In November 1994, a total of 250,000 options were granted to two
consultants (one of which was a former director of the Company) under
the 1994 Stock Option Plan for Consultants for advisory services. The
options are exercisable for 10 years from date of grant at an exercise
price of $3.75. In fiscal 1997, the Company granted 400,000 options to
a partnership, which provides consulting services to the Company. The
options are exercisable for a three year period from the date of grant
29
<PAGE>
at an exercise price of $2.375. The expense related to the services
was recognized over the one-year vesting period. In addition, in
fiscal 1999, 1998 and 1997 15,000, 75,000, and 214,080 options,
respectively, were granted to various consultants at exercise prices
ranging from $1.75 to $3.00. Each are exercisable for periods which
range from five to ten years. Stock option compensation expense
related to these grants for fiscal 1999 and 1998 was $19,168 and
$210,000 respectively. A total of 445,920 options remain available for
grant under the 1994 Stock Option Plan for Consultants.
Under the 1995 Stock Option Plan for Outside Directors, each person
who is an outside director on January 1 of each calendar year,
commencing January 1, 1995, shall be granted 5,000 options to purchase
shares of common stock of the Company. At May 31, 1999, 80,000 options
have been granted under the 1995 Stock Option Plan for Outside
Directors and 70,000 are available for grant.
A summary of all stock option transactions of the Company is as
follows:
Number of Price range Weighted
options per share average price
------- --------- -------------
Outstanding at May 31, 1997 3,133,390 $1.63 - 3.75 $2.53
Granted 989,500 $1.13 - 3.50
Exercised (115,489) $1.71 - 2.35
Canceled (648,950) $1.63 - 3.00
---------
Outstanding at May 31, 1998 3,358,451 $1.13 - 3.75 $2.63
Granted 1,084,000 $0.66 - 3.56
============
Exercised (216,685) $0.81 - 2.45
=============
Cancelled (432,292) $0.83 -3.75
--------- =============
Outstanding at May 31, 1999 3,793,474 $0.66 - $3.75 $2.33
========= ================ =====
Exercisable at May 31, 1999 1,657,970 $0.75 - $3.75 $2.57
========== ============= =======
The options outstanding as of May 31, 1999 are summarized in ranges
as follows:
<TABLE>
<CAPTION>
Weighted Average Number of Options Weighted Average
Range of Exercise Price Exercise Price Outstanding Remaining Life
- ---------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
$0.66 - $2.41 $2.11 3,143,125 4 Years
$2.42 - $3.75 $3.41 650,349 3 Years
---------
3,793,474
=========
</TABLE>
The Company applies APB Opinion No. 25 in accounting for its stock option grants
and, accordingly, no compensation cost has been recognized in the consolidated
financial statements for its employee stock options which have an exercise price
equal to or greater than the fair value of the stock on the date of the grant.
Had the Company determined compensation costs based on the fair value at the
grant date for its stock options under
30
<PAGE>
SFAS No.123, the Company's net loss to common shareholders and net loss per
common share would have been increased to the following pro forma amounts:
1999 1998
---- ----
Net loss:
As reported ($5,496,300) ($18,421,600)
Pro forma ($6,324,854) ($18,959,000)
Net loss per share:
As reported ($0.46) ($2.21)
Pro forma ($0.53) ($2.24)
The per share weighted-average fair value of stock options granted
during fiscal 1999 and 1998 was $1.34 and $1.12, respectively, on the
date of grant using the Black Scholes option-pricing model with the
following weighted-average assumptions : 1999-expected dividend yield
of 0%, risk free interest rate of 6%, expected stock volatility of
145%, and an expected option life of 5 years. 1998-expected dividend
yield of 0%, risk free interest rate of 6%; expected stock volatility
of 54% and an expected option life of 5 years.
Pro forma net loss reflects only options granted in fiscal 1996 and
thereafter. Therefore, the full impact of calculating compensation
cost for stock options under SFAS No. 123 is not reflected in the
pro forma net loss amounts presented above because compensation cost
is reflected over the options' vesting period and compensation cost
for options granted prior to June 1, 1995 was not considered.
In fiscal 1998, the Company offered to exchange one share of common
stock for twenty of its publicly traded warrants. Of the 5,121,468
warrants outstanding at the time, 4,977,280 warrants were exchanged
for 248,864 shares of common stock on October 14,1997 and the
balance expired unexercised on October 20, 1997. The fair value of
the common shares issued approximated the fair value of the
exchanged warrants.
At May 31, 1998, the Company had 340,000 warrants outstanding that
were issued in connection with a private placement. Of such warrants
246,100 were exercised at $2.35 per share in January 1999, and the
balance expired unexercised on January 31, 1999.
At May 31, 1999, the Company had reserved, authorized and unissued
common shares for the following purposes (excluding those for stock
options and convertible preferred stock):
<TABLE>
<CAPTION>
Shares of
Common
Exercise Stock
Price Issuable Expiration
======================================
<S> <C> <C> <C>
Warrants issued in connection with a
convertible preferred stock offering $4.00 287,500 December, 2001
Unit purchase options for one share
of common stock $6.60 200,000 October, 1999
Stock purchase rights sold to
underwriter $3.71 210,000 May, 2001
=======
Total 697,500
=======
</TABLE>
31
<PAGE>
Cornerstone Internet Solutions Company
Notes to Consolidated Financial Statements
May 31, 1998 and 1998
10. Income Taxes
The actual income tax benefit for fiscal 1999 and 1998 differs from
the "expected" income tax benefit, computed by applying the U.S.
Federal corporate tax rate of 34 percent to loss before income
taxes, as follows:
<TABLE>
<CAPTION>
1999 1998
---- ----
<S> <C> <C>
Computed "expected" tax benefit $(1,239,400) $(2,360,900)
Increase in income taxes resulting from:
Non-deductible expenses 13,300 78,200
Non-deductible loss of subsidiary 106,000 -
Increase in valuation allowance, primarily for
Federal net operating loss carryforwards 1,120,100 2,282,700
---------------------------------------
Actual tax benefit - -
=======================================
</TABLE>
The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets at May 31, 1999 and 1998, are as
follows:
<TABLE>
<CAPTION>
1999 1998
---- ----
Deferred tax assets:
<S> <C> <C>
Net operating loss carryforwards $9,282,000 $8,206,000
Allowance for doubtful accounts receivable 84,600 36,900
Accrued expenses 9,400 19,700
Research and development credit carryforward 127,300 127,300
Property and equipment depreciation 74,300 30,900
Valuation allowance (9,577,600) (8,420,800)
---------------------------------
Net deferred tax asset -- --
=================================
</TABLE>
In assessing the realizability of deferred tax assets, management
considers whether it is more likely than not that some portion or the
entire deferred tax asset will be realized. The ultimate realization of
the deferred tax asset is dependent upon the generation of future taxable
income during the periods in which temporary differences become deductible
or operating losses are carried forward. The Company does not believe that
it is more likely than not that it will realize its deferred tax asset and
has established a valuation allowance of $9,577,600 and $8,420,800 at May
31, 1999 and 1998, respectively, based upon the Company's historical
taxable losses and lack of offsetting objective evidence, and that
management cannot currently determine whether the Company will generate
taxable income during the remainder of the net operating loss carryforward
period.
At May 31, 1999, the Company had available approximately $27,300,000 of
tax loss carryforwards, which expire in varying amounts in years 2008
through 2014. The utilization of certain of these tax loss carryforwards
is subject to annual limitations imposed by the Internal Revenue Code
Section 382 due to the Company's various equity transactions.
32
<PAGE>
Cornerstone Internet Solutions Company
Notes to Consolidated Financial Statements
May 31, 1999 and 1998
11. Employee Benefit Plan
The Company sponsors an employee savings plan under Section 401(k) of the
Internal Revenue Code (IRC) that covers substantially all employees of the
Company who elect to participate on a voluntary basis. Participants may
authorize salary deferral amounts under the plan up to 15 percent of their
compensation limited to a maximum amount stipulated in the IRC. The plan
also provides for a discretionary Company contribution, which is
determined by the Board of Directors. No discretionary Company
contributions were made during the fiscal years 1999 and 1998.
12. Commitments
Rent expense for operating leases for fiscal 1999 and 1998 approximated
$190,948 and $317,800, respectively. The Company leases office space under
non-cancelable operating leases, which expire at various times through
2003. Minimum future rentals by fiscal year for operating leases with
noncancellable terms in excess of one year offset by sublease income are
as follows:
2000 - $194,563
2001 - $167,121
2002 - $162,499
2003 - $157,840
2004 - $0
13. Business and Credit Concentrations
In fiscal 1999 there were two customers that individually comprised more
than 10% of revenue and in the aggregate amounted to 24% of accounts
receivable and 48% of total revenues. In 1998 there were three customers
that individually comprised more than 10% of revenue and in the aggregate
amounted to 52% of accounts receivable and 45% of total revenues.
33
<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.
CORNERSTONE INTERNET SOLUTIONS
COMPANY
Date: August 30, 1999 By: EDWARD SCHROEDER
----------------
Edward Schroeder, President
and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the persons on behalf of the registrant and in the
capacities and on the date indicated.
Name Title Date
- ---- ----- ----
/S/ANDREW GYENES Chairman of the Board August 30, 1999
- ----------------
Andrew Gyenes
/s/ Edward Schroder Director, President and August 30, 1999
- ------------------- Chief Executive Officer
Edward Schroder (Principal Financial Officer)
/S/RINO BERGONZI Director August 30, 1999
- ----------------
Rino Bergonzi
/S/PETER GYENES Director August 30, 1999
- ----------------
Peter Gyenes
/S/HARRISON WEAVER Director August 30, 1999
- ------------------
Harrison Weaver
34
CORNERSTONE INTERNET SOLUTIONS COMPANY
CERTIFICATE OF DESIGNATIONS, PREFERENCES
AND OTHER RIGHTS AND QUALIFICATIONS OF
Class D PREFERRED STOCK
Pursuant to Section 151 of the
General Corporation Law
of the State of Delaware
CORNERSTONE INTERNET SOLUTIONS COMPANY, a corporation organized and
existing under the General Corporation Law of the State of Delaware (the
"Corporation"),
DOES HEREBY CERTIFY:
FIRST: That, pursuant to authority conferred upon the Board of
Directors of the Corporation (the "Board") by the Certificate of Incorporation
of said Corporation, as amended, and pursuant to the provisions of Sections 151
of the Delaware General Corporation Law, said Board duly determined that 9,860
shares of Preferred Stock, $.01 par value per share, shall be designated "Class
D Preferred Stock," and to that end the Board adopted a resolution providing for
the designation, preferences and relative, participating, optional or other
rights, and the qualifications, limitations and restrictions, of the Class D
Preferred Stock, which resolution is as follows:
RESOLVED, that the Board, pursuant to the authority vested in
it by the provisions of the Certificate of Incorporation of the
Corporation, as amended, hereby creates a class of Preferred Stock of
the Corporation, par value $.01 per share, to be designated as "Class D
Preferred Stock" and to consist of an aggregate of 9,860 shares. The
Class D Preferred Stock shall have such designations, preferences and
relative, participating, optional or other rights, and the
qualifications, limitations and restrictions as follows:
1. Designations and Amount. 9,860 shares of the Preferred
Stock of the Corporation, par value $.01 per share, shall constitute a class of
Preferred Stock designated as "Class D Convertible Preferred Stock" (the "Class
D Preferred Stock").
2. Rank. The Class D Preferred Stock shall rank junior to the
class of Preferred Stock of the Corporation, par value $.01 per share,
designated as Class C Preferred Stock (the "Class C
<PAGE>
Preferred Stock") and shall rank senior to all other classes and series of
capital stock of the Corporation now or hereafter authorized, issued or
outstanding, including, without limitation, the Common Stock, par value $.01 per
share of the Corporation (the "Common Stock"), and any other classes and series
of capital stock of the Corporation now or hereafter authorized, issued or
outstanding (collectively, the "Junior Securities"). In addition, the
Corporation will not issue any class or series of any class or capital stock
which ranks pari passu with the Class D Preferred Stock with respect to rights
on liquidation, dissolution or winding up of the Corporation; however, the
Corporation may issue additional shares of the Class D Preferred Stock.
3. Dividends. The holders of the Class D Preferred Stock shall
not be entitled to receive any dividends, cash or otherwise, in connection with
such Class D Preferred Stock. No dividends shall be payable upon any Junior
Securities unless equivalent dividends, on an as-converted basis, are declared
and paid concurrently on the Class D Preferred Stock. No dividends shall be
payable on any other class of preferred stock during such time as the Class D
Preferred Stock remains outstanding.
4. Rights on Liquidation, Dissolution or Winding Up,
Etc.
(a) In the event of any voluntary or involuntary liquidation,
dissolution or winding up of the Corporation, the assets of the Corporation
available for distribution to the stockholders of the Corporation, whether from
capital, surplus or earnings, shall be distributed in the following order of
priority:
(i) The holders of the Class D Preferred Stock shall
be entitled to receive, prior and in preference to any
distribution to the holders of any Junior Securities an amount
equal to the product of the stated value of the Class D
Preferred Stock ($1,250 per share) (the "Stated Value")
multiplied by 1.1 for each share of Class D Preferred Stock
then outstanding, but in no event shall the holders of the
Class D Preferred Stock receive any such distribution prior
and in preference to the Class C Preferred Stock; and
(ii) If there is a distribution pursuant to Section
4(a)(i) hereof, the remaining assets of the Corporation
available for distribution, if any, to the stockholders of the
Corporation shall be distributed to the holders of any
Preferred Stock ranking junior to the Class D Preferred Stock
and thereafter pro rata to the holders of issued and
outstanding shares of Common Stock.
(b) If, at any time (the "Change of Control Date"), (i) all or
substantially all of the Corporation's assets are sold as an entirety to any
person or related group of persons other than an Affiliate or Affiliates (as
hereinafter defined) of the Corporation, or (ii) the Corporation is merged into
another
-2-
<PAGE>
corporation and the Corporation is not the surviving entity of such merger,
(collectively, the "Change of Control"), then the Corporation shall notify the
holders of shares of the Class D Preferred Stock in writing of such occurrence
and shall make an offer to purchase (the "Change of Control Offer") within the
30th day following the Change of Control Date (the "Change of Control Payment
Date") all shares of the Class D Preferred Stock then outstanding at a purchase
price per share equal to the product of the Stated Value multiplied by 1.1 for
each such share of the Class D Preferred Stock.
Notice of a Change of Control Offer shall be mailed by the
Corporation not less than 30 days nor more than 60 days before the Change of
Control Payment Date to the holders of shares of the Class D Preferred Stock at
their last registered addresses as they appear on the books of the Corporation
or its Transfer Agent. The Change of Control Offer shall remain open from the
time of mailing until the fifth business day preceding the Change of Control
Payment Date. The notice, which shall govern the terms of the Change of Control
Offer, shall state:
(1) that the Change of Control Offer is being made pursuant to
this Section 4(b) and that all shares of the Class D Preferred
Stock will be accepted for purchase;
(2) the purchase price and the Change of Control Payment Date;
(3) that holders of shares of the Class D Preferred Stock
electing to have shares purchased pursuant to a Change of
Control Offer will be required to surrender certificates
representing their shares of the Class D Preferred Stock with
such documentation evidencing their election to have their
shares purchased as the Corporation shall reasonably request,
to the Corporation prior to the close of business on the
Change of Control Payment Date;
(4) that holders will be entitled to withdraw their election
if the Corporation receives, not later than the close of
business on the three Business Days preceding the Change of
Control Payment Date, a telegram, telex, facsimile
transmission or letter setting forth the name of the holder,
the number of shares of the Class D Preferred Stock the holder
delivered for purchase and a statement that such holder is
withdrawing his election to have such shares purchased;
(5) that holders whose shares are purchased only in part will
be issued certificates for shares representing the unpurchased
portion of the shares surrendered;
-3-
<PAGE>
(6) the instructions that holders must follow in order to
tender their shares; and
(7) the circumstances and relevant facts regarding such Change
of Control.
On the Change of Control Payment Date, the Corporation shall
(i) accept for payment the shares tendered pursuant to the Change of Control
Offer and (ii) promptly mail to the holder of shares so accepted payment in an
amount equal to the purchase price.
For purposes of this Section 4(b), the term "Affiliate" shall
mean any person directly or indirectly controlling, controlled by or under
common control with the Corporation as of the Change of Control Payment Date.
For the purposes of this definition, the beneficial ownership of 10% or more of
the voting common equity of a person shall be deemed to be control.
5. Voting Rights. The holders of Class D Preferred Stock shall
be entitled to vote on all matters submitted to the holders of Common Stock of
the Corporation. Each share of Class D Preferred Stock shall have that number of
votes equal to the number of shares of Common Stock into which it is then
convertible as of the record date of the proposed stockholder action. The
holders of Class D Preferred Stock shall also vote as a separate class on all
matters which the General Corporation Law of the State of Delaware specifically
requires the holders of the Class D Preferred Stock to vote as a separate class.
6. Conversion of Class D Preferred Stock.
(a) The holders of Class D Preferred Stock shall have the
right commencing on the earlier of (i) June 30, 2000 or (ii) at any time after
the closing price of the Common Stock shall have been at least $1.50 per share
(subject to adjustment in the event of subdivision or combination of the shares
of Common Stock) on 15 trading days during any 20-trading day period to convert
each share of Class D Preferred Stock into such whole number of shares of Common
Stock as is equal to the aggregate Stated Value of the Class D Preferred Stock
divided by $1.00.
(b) Before any holder of Class D Preferred Stock shall be
entitled to convert the same into shares of Common Stock, such holder shall
surrender the certificate or certificates therefor, duly endorsed, at the office
of the Corporation or of any transfer agent for the Class D Preferred Stock, and
shall give written notice to the Corporation at its principal corporate office,
of the election to convert the same and shall state therein the name or names in
which the certificate or certificates for shares of Common Stock are to be
issued. The Corporation shall, as soon as practicable thereafter, issue and
deliver at such office to such
-4-
<PAGE>
holder of Class D Preferred Stock, or to the nominee or nominees of such holder,
a certificate or certificates for the number of shares of Common Stock to which
such holder shall be entitled as aforesaid. Such conversion shall be deemed to
have been made immediately prior to the close of business on the date of such
surrender of the shares of Class D Preferred Stock to be converted, and the
person or persons entitled to receive the shares of Common Stock issuable upon
such conversion shall be treated for all purposes as the record holder or
holders of such shares of Common Stock as of such date.
(c) The Corporation shall not be required to issue fractions
of shares of Common Stock upon conversion of the Class D Preferred Stock. If any
fractions of a share would, but for this Section, be issuable upon any
conversion of Class D Preferred Stock, in lieu of such fractional share, the
Corporation shall pay to the holder, in cash, an amount equal to the same
fraction of the Closing Price per share of Common Stock.
(d) The Corporation shall reserve and shall at all times have
reserved out of its authorized but unissued shares of Common Stock sufficient
shares of Common Stock to permit the conversion of the then outstanding shares
of the Class D Preferred Stock pursuant to this Section 6. All shares of Common
Stock which may be issued upon conversion of shares of the Class D Preferred
Stock pursuant to this Section 6 shall be validly issued, fully paid and
nonassessable. In order that the Corporation may issue shares of Common Stock
upon conversion of shares of the Class D Preferred Stock, the Corporation will
endeavor to comply with all applicable Federal and State securities laws and
will endeavor to list such shares of Common Stock to be issued upon conversion
on each securities exchange on which the Common Stock is listed and endeavor to
maintain such listing for such period of time as either the Class D Preferred
Stock or Common Stock underlying such Class D Preferred Stock remains
outstanding.
(e) The Conversion Rate in effect at any time for conversion
of Class D Preferred Stock into Common Stock pursuant to Section 6(a) only shall
be subject to adjustment from time to time as follows:
(i) In the event that the Corporation shall (1) pay a dividend
in shares of Common Stock to holders of Common Stock, (2) make a
distribution in shares of Common Stock to holders of Common Stock, (3)
subdivide the outstanding shares of Common Stock into a greater number
of shares of Common Stock or (4) combine the outstanding shares of
Common Stock into a smaller number of shares of Common Stock, the
Conversion Rate in effect pursuant to Section 6(a) only immediately
prior to such action shall be adjusted so that the holder of any shares
of the Class D Preferred Stock thereafter surrendered for conversion
pursuant to Section 6(a) only shall be entitled to
-5-
<PAGE>
receive only that number of shares of Common Stock which he would have
owned immediately following such action had such shares of the Class D
Preferred Stock been converted immediately prior thereto. Such
adjustment shall be made whenever any event listed above shall occur
and shall become effective (A) immediately after the record date in the
case of a dividend or a distribution and (B) immediately after the
effective date in the case of a subdivision or combination.
(ii) In case the Corporation shall distribute to all holders
of Common Stock shares of any class of capital stock other than Common
Stock, evidences of indebtedness or other assets (other than cash
dividends out of current or retained earnings), or shall distribute to
substantially all holders of Common Stock rights or warrants to
subscribe for securities, then in each such case the Conversion Rate
pursuant to Section 6(a) only shall be adjusted so that the same shall
equal the number determined by multiplying the number of shares of
Common Stock into which such share of the Class D Preferred Stock was
convertible immediately prior to the date of such distribution by a
fraction of which the numerator shall be the current market price
(determined as provided in Section 6(f)) of Common Stock on the record
date mentioned below, and of which the denominator shall be such
current market price of Common Stock, less the then fair market value
(as determined by the Board of Directors, whose determination shall be
conclusive evidence of such fair market value) of the portion of the
assets so distributed or of such subscription rights or warrants
applicable to one share of Common Stock. Such adjustment shall become
effective immediately after the record date for the determination of
the holders of Common Stock entitled to receive such distribution.
(f) The closing price for each day shall be the last reported
sale price regular way or, in case no such reported sale takes place on such
date, the average of the daily reported closing bid and asked prices regular way
for ten consecutive trading days ending the last trading day before the day in
question, on the principal national securities exchange on which the Common
Stock is listed or admitted to trading or, if not listed or admitted to trading
on any national securities exchange, the closing sale price of the Common Stock,
or in case no reported sale takes place, the average of the daily closing bid
and asked prices for ten consecutive trading days ending the last trading day
before the day in question, on the Nasdaq SmallCap Market ("Nasdaq"), or if the
Common Stock is not quoted on Nasdaq, the OTC Electronic Bulletin Board or any
comparable system, the closing sale price or, in case no reported sale takes
place, the average of the daily closing bid and asked prices for ten consecutive
trading days ending the last trading day before the day in question, as
furnished by any two members of the National Association of Securities Dealers,
Inc. selected from time to time by the Corporation for that purpose. If
-6-
<PAGE>
the Common Stock is not quoted on Nasdaq, the Bulletin Board or any comparable
system, the Board of Directors shall in good faith determine the current market
price on such basis as it considers appropriate.
(g) No adjustment in the Conversion Rate in Section 6(a) shall
be required until cumulative adjustments result in a concomitant change of 1% or
more of the Conversion Rate under Section 6(a) as in effect prior to the last
adjustment of the Conversion Rate under Section 6(a); provided, however, that
any adjustments which by reason of this Section 6(g) are not required to be made
shall be carried forward and taken into account in any subsequent adjustment.
All calculations under this Section 6 shall be made to the nearest cent or to
the nearest one-hundredth of a share, as the case may be.
(h) In the event that, as a result of an adjustment made
pursuant to Section 6(e), the holder of any share of the Class D Preferred Stock
thereafter surrendered for conversion shall become entitled to receive any
shares of capital stock of the Corporation other than shares of Common Stock,
thereafter the number of such other shares so receivable upon conversion of any
shares of the Class D Preferred Stock shall be subject to adjustment from time
to time in a manner and on terms as nearly equivalent as practicable to the
provisions with respect to the Common Stock contained in this Section 6.
(i) The Corporation may make such changes in the Conversion
Rate under Section 6(a), in addition to those required by this Section 6, as it
considers to be advisable in order that any event treated for Federal income tax
purposes as a dividend of stock or stock rights shall not be taxable to the
recipients thereof.
(j) Whenever the Conversion Rate is adjusted pursuant to
Section 6(a), the Corporation shall promptly mail first class to all holders of
record of shares of the Class D Preferred Stock a notice of the adjustment and
shall cause to be prepared a certificate signed by a principal financial officer
of the Corporation setting forth the adjusted conversion rate and a brief
statement of the facts requiring such adjustment and the computation thereof.
Such certificate shall forthwith be filed with each transfer agent for the
shares of the Class D Preferred Stock.
(k) If any of the following shall occur: (i) any
reclassification or change of outstanding shares of Common Stock issuable upon
conversion of shares of the Class D Preferred Stock (other than a change in par
value, or from par value to no par value, or from no par value to par value, or
as a result of a subdivision or combination), or (ii) any consolidation or
merger to which the Corporation is a party other than a merger in which the
-7-
<PAGE>
Corporation is the continuing corporation and which does not result in any
reclassification of, or change (other than a change in name, or par value, or
from par value to no par value, or from no par value to par value, or as a
result of a subdivision or combination) in, outstanding shares of Common Stock,
then in addition to all of the rights granted to the holders of the Class D
Preferred Stock as designated herein, the Corporation, or such successor or
purchasing corporation, as the case may be, shall, as a condition precedent to
such reclassification, change, consolidation, merger, sale or conveyance,
provide in its certificate of incorporation or other charter document that each
share of the Class D Preferred Stock shall have rights and adjustments which
shall be as nearly equivalent as may be practicable to the adjustments provided
for in this Section 6. If, in the case of any such reclassification, change,
consolidation, merger, sale or conveyance, the stock or other securities and
property (including cash) receivable thereupon by a holder of Common Stock
includes shares of capital stock or other securities and property of a
corporation other than the successor purchasing corporation, as the case may be,
in such reclassification, change, consolidation, merger, sale or conveyance,
then the certificate of incorporation or other charter document of such other
corporation shall contain such additional provisions to protect the interests of
the holders of shares of the Class D Preferred Stock as the Board shall
reasonably consider necessary by reason of the foregoing. The provision of this
Section 6(k) shall similarly apply to successive consolidations, mergers, sales
or conveyances.
(l) In the event any shares of Class D Preferred Stock shall
be converted pursuant to Section 6 hereof, the shares so converted shall be
cancelled.
(m) The Corporation will not, by amendment of its Certificate
of Incorporation, as amended, or through any reorganization, transfer of assets,
consolidation, merger, dissolution, issue or sale of securities or any other
voluntary action, avoid or seek to avoid the observance or performance of any of
the terms to be observed or performed under this Section but will at all times
in good faith assist in the carrying out of all the provisions of this Section 6
and in the taking of all such action as may be necessary or appropriate in order
to protect the conversion rights of the holders of the Class D Preferred Stock
against impairment.
Such resolution was signed by the President and Secretary of
the Corporation.
-8-
<PAGE>
IN WITNESS WHEREOF, we have executed this Certificate of
Designation this 6th day of October 1998.
CORNERSTONE INTERNET SOLUTIONS
COMPANY
By: /s/ Edward Schroeder
------------------------
Name: Edward Schroeder
Title:President and Chief
Executive Officer
By: /s/ Kenneth Gruber
----------------------
Name: Kenneth Gruber
Title: Chief Financial Officer
and Secretary
-9-
CERTIFICATE OF THE DESIGNATIONS, POWERS,
PREFERENCES AND RIGHTS
OF THE
CLASS A CONVERTIBLE PREFERRED STOCK
($.01 par value per share)
of
B2BGALAXY.COM INC.
a Delaware Corporation
----------
Pursuant to Section 151 of the
General Corporation Law of the State of Delaware
----------
B2BGALAXY.COM INC., a corporation organized and existing under the
General Corporation Law of the State of Delaware (the "Corporation"),
DOES HEREBY CERTIFY:
FIRST: That, pursuant to authority conferred upon the Board of
Directors of the Corporation (the "Board") by the Certificate of Incorporation
of said Corporation, and pursuant to the provisions of Section 151 of the
Delaware General Corporation Law, there hereby is created, out of the 5,000,000
shares of Preferred Stock of the Corporation authorized in Article FOURTH of the
Certificate of Incorporation (the "Preferred Stock"), a series of the Preferred
Stock consisting of 2,640 shares, $.01 par value per share, to be designated
"Class A Convertible Preferred Stock," and to that end the Board adopted a
resolution providing for the designations, powers, preferences and rights, and
the qualifications, limitations and restrictions, of the Class A Convertible
Preferred Stock, which resolution is as follows:
RESOLVED, that the Board of Directors, pursuant to the
authority vested in it by the provisions of the Corporation's
Certificate of Incorporation, hereby creates a series of Preferred
Stock of the Corporation, $.01 par value per share, to be issued from
the Corporation's currently authorized Preferred Stock, $.01 par value
per share, which series shall be designated as "Class A Convertible
Preferred Stock" and will consist of an aggregate of 2,640 shares with
such rights, preferences, privileges and restrictions, which
Certificate of Designations Powers, Preferences and Rights shall be
filed with the Delaware Secretary of State in the form as follows:
<PAGE>
1. Designations and Amount and Rank. (One Thousand Five
Hundred) 1,500 shares of the Preferred Stock of the Corporation, par value $.01
per share, shall constitute a series of Preferred Stock designated as "Class A
Convertible Preferred Stock" (the "Class A Preferred Stock"). The Class A
Preferred Stock shall rank senior to all classes and series of capital stock of
the Corporation now or hereafter authorized, issued or outstanding, including,
without limitation, the Common Stock, par value $.01 per share of the
Corporation (the "Common Stock"), and any other classes and series of capital
stock of the Corporation now or hereafter authorized, issued or outstanding
(collectively, the "Junior Securities"). In addition, the Corporation will not
issue any class or series of any class or capital stock that ranks pari passu
with the Class A Preferred Stock with respect to rights on dividends,
liquidation, dissolution or winding up of the Corporation. The "Stated Value" of
each share of Class A Preferred Stock shall, without adjustment, be $1,000.
2. Dividends.
(a) The holders of the Class A Preferred Stock shall not be
entitled to receive any stated amount of dividends, cash or otherwise, in
connection with such Class A Preferred Stock. No dividends shall be payable upon
any Junior Securities unless equivalent dividends, on an as-converted basis, are
declared and paid concurrently on the Class A Preferred Stock.
(b) Notwithstanding anything to the contrary provided herein,
unless and until a dividend is paid to other holders of the Corporation's
capital stock, holders of Class A Preferred Stock shall not be entitled to
receive any dividends.
3. Rights on Liquidation, Dissolution or Winding Up, Etc.
(a) In the event of any voluntary or involuntary liquidation,
dissolution or winding up of the Corporation (including a sale by the Company of
all or substantially all of its assets or a merger or consolidation of the
Company with another company where the Company is not the surviving entity,
subject to certain exceptions including a sale of the Company to Cornerstone
Internet Solutions Company ("Cornerstone"))(each, a "Liquidation"), the assets
of the Corporation available for distribution to its stockholders, whether from
capital, surplus or earnings, shall be distributed in the following order of
priority:
(i)(A) The holders of Class A Preferred Stock shall
be entitled to receive, prior and in preference to any distribution to the
holders of Common Stock, any other series or class of Preferred Stock hereafter
created or any other class of the Corporation's capital stock hereafter created,
an amount per share equal to the Stated Value for each share of Class A
Preferred Stock then outstanding, plus accrued and unpaid dividends, subject to
adjustment as described in Section 5 hereof. If, upon the occurrence of a
Liquidation, the assets and funds thus distributed among the holders of the
Class A Preferred Stock shall be insufficient to permit the payment to such
holders of the full aforesaid preferential amounts, then the entire assets and
funds of the Corporation legally
-2-
<PAGE>
available for distribution shall be distributed ratably among the holders of the
Class A Preferred Stock, in proportion to the preferential amount each such
holder is otherwise entitled to receive.
(B) Upon a Liquidation and in lieu of the liquidation
preference set forth directly above and subject to the right
of Cornerstone to purchase the Class A Preferred Stock, the
holders of the Class A Preferred Stock may exchange each share
of Class A Preferred Stock for 400 shares (the "Cornerstone
Exchange Rate") of Common Stock, $.01 par value ( the
"Cornerstone Common Stock") of Cornerstone.
(ii) After distribution of the amounts set forth in
Section 3(a)(i) hereof, the remaining assets of the Corporation available for
distribution, if any, to the stockholders of the Corporation shall be
distributed to the holders of issued and outstanding shares of Common Stock. If,
upon the occurrence of such event, the assets and funds thus distributed among
the holders of the Common Stock shall be insufficient to permit the payment to
such holders of the full aforesaid aggregate amount, then the entire remaining
assets and funds of the Corporation legally available for distribution shall be
distributed ratably among the holders of the Common Stock in proportion to the
number of shares of Common Stock held by each such holder.
4. Voting Rights. The holders of Class A Preferred Stock shall
be entitled to vote on all matters submitted to the stockholders of the
Corporation. Each share of Class A Preferred Stock shall have that number of
votes equal to the number of shares of Common Stock into which it is convertible
(based upon the then-applicable Conversion Rate (as hereinafter defined)). The
holders of the Class A Preferred Stock shall also vote as a separate class on
all matters which the General Corporate Law of Delaware specifically requires
the holders of such Class A Preferred Stock to vote as a separate class.
5. Conversion of Class A Preferred Stock.
(a) If after the date of the closing of this Offering and on
or before September 30, 2000, the Corporation consummates a public offering of
equity securities of the Corporation where the gross proceeds to the Corporation
are in excess of $5,000,000 (the "Subsequent Financing"), each share of Class A
Preferred Stock shall automatically convert into either (a) 1,667 shares of
Common Stock (the "Conversion Rate") or (b) 75% of the per share offering price
of the Common Stock in the Subsequent Financing (or 75% of the exercise or
conversion price into Common Stock in the event that, in lieu of Common Stock,
the Corporation issues equity securities which are convertible or exchangeable
into Common Stock in the Subsequent Financing) which ever results in a higher
number of shares of Common Stock.
(b) If the Corporation has not consummated a Subsequent
Financing on or before September 30, 2000, then each share of Class A Preferred
Stock will either convert into Common Stock at the Conversion Rate or, subject
to the right of Cornerstone to purchase the Class A Preferred Stock, be
exchanged at the Cornerstone Exchange Rate into Cornerstone Common Stock.
-3-
<PAGE>
The Conversion Rate will be subject to adjustment to protect against dilution in
the event of stock dividends, stock splits, combinations, subdivision and
reclassifications of the Corporation.
(c) Before any holder of Class A Preferred Stock shall be
entitled to convert the same into shares of Common Stock, such holder shall
surrender the certificate or certificates therefor, duly endorsed, at the office
of the Corporation or of any transfer agent for the Class A Preferred Stock, and
shall give written notice to the Corporation at its principal corporate office,
of the election to convert the same and shall state therein the name or names in
which the certificate or certificates for shares of Common Stock are to be
issued. The Corporation shall, as soon as practicable thereafter, issue and
deliver at such office to such holder of Class A Preferred Stock, or to the
nominee or nominees of such holder, a certificate or certificates for the number
of shares of Common Stock to which such holder shall be entitled as aforesaid.
Such conversion shall be deemed to have been made immediately prior to the close
of business on the date of such surrender of the shares of Class A Preferred
Stock to be converted, and the person or persons entitled to receive the shares
of Common Stock issuable upon such conversion shall be treated for all purposes
as the record holder or holders of such shares of Common Stock as of such date.
(d) The Conversion Rate shall be subject to adjustment from
time to time as follows:
(i) In the event the Corporation should at any time
or from time to time fix a record date for the effectuation of a split or
subdivision of the outstanding shares of Common Stock or the determination of
holders of Common Stock entitled to receive a dividend or other distribution
payable in additional shares of Common Stock or Common Stock equivalents without
payment of any consideration by such holder for the additional shares of Common
Stock or the Common Stock equivalents (including the additional shares of Common
Stock issuable upon conversion or exercise thereof), then, as of such record
date (or the date of such dividend distribution, split or subdivision if no
record date is fixed), the Conversion Rate shall be appropriately decreased so
that the number of shares of Common Stock issuable upon conversion of each share
of such Class A Preferred Stock shall be increased in proportion to such
increase in the aggregate of shares of Common Stock outstanding and those
issuable with respect to such Common Stock equivalents.
(ii) If the number of shares of Common Stock
outstanding at any time after the day the Class A Preferred Stock is issued is
decreased by a combination of the outstanding shares of Common Stock, then,
following the record date of such combination, the Conversion Rate shall be
appropriately increased so that the number of shares of Common Stock issuable
upon conversion of each share of Class A Preferred Stock shall be decreased in
proportion to such decrease in outstanding shares.
(e) In the event the Corporation shall declare a distribution
payable in securities of other persons, evidences of indebtedness issued by the
Corporation or other persons, assets (excluding cash dividends) or options or
rights not referred to in Section 2(b) hereof to the holders
-4-
<PAGE>
of Common Stock, then, in each such case for the purpose of this Section 5(e),
the holders of the Class A Preferred Stock shall be entitled to a proportionate
share of any such distribution as though they were the holders of the number of
shares of Common Stock of the Corporation into which their shares of Class A
Preferred Stock are convertible as of the record date fixed for the
determination of the holders of Common Stock of the Corporation entitled to
receive such distribution.
(f) If at any time or from time to time there shall be a
recapitalization of the Common Stock (other than a subdivision, combination or
merger or sale of assets transaction provided for elsewhere in this Section 5),
provision shall be made so that the holders of the Class A Preferred Stock shall
thereafter be entitled to receive upon conversion of the Class A Preferred Stock
the number of shares of stock or other securities or property of the Corporation
or otherwise, to which a holder of Common Stock deliverable upon conversion
would have been entitled on such recapitalization. In any such case, appropriate
adjustment shall be made in the application of the provisions of this Section 5
with respect to the rights of the holders of the Class A Preferred Stock after
the recapitalization to the end that the provisions of this Section 5 (including
adjustment of the number of shares issuable upon conversion of the Class A
Preferred Stock) shall be applicable after that event as nearly equivalent as
may be practicable.
(g) The Corporation will not, by amendment of its Certificate
of Incorporation or through any reorganization, recapitalization, transfer of
assets, consolidation, merger, dissolution, issue or sale of securities or any
other voluntary action, avoid or seek to avoid the observance or performance of
any of the terms to be observed or performed hereunder by the Corporation, but
will at all times in good faith assist in the carrying out of all the provisions
of this Section 5 and in the taking of all such action as may be necessary or
appropriate in order to protect the conversion rights of the holders of the
Class A Preferred Stock against impairment.
(h) If any capital reorganization or reclassification of the
capital stock of the Corporation, or consolidation or merger of the Corporation
with and into another corporation, or the sale of all or substantially all of
its assets to another corporation, shall be effected while any shares of Class A
Preferred Stock are outstanding in such a manner that holders of shares of
Common Stock shall be entitled to receive stock, securities or assets with
respect to or in exchange for Common Stock, then, as a condition of such
reorganization or reclassification, consolidation, merger or sale, lawful and
adequate provision shall be made whereby each holder of Class A Preferred Stock
shall thereafter have the right to receive upon the basis and upon the terms and
conditions specified herein and in lieu of the shares of Common Stock
immediately theretofore receivable upon conversion of Class A Preferred Stock,
such shares of stock, securities or assets as may be issued or payable with
respect to or in exchange for a number of outstanding shares of such Common
Stock equal to the number of shares of such Common Stock immediately theretofore
so receivable had such reorganization or reclassification, consolidation, merger
or sale not taken place, and in such case appropriate provision shall be made
with respect to the rights and interests of the holders of Class A Preferred
Stock to the end that the provisions hereof (including, without limitation,
provisions for adjustment of the number of shares of Common Stock issuable upon
conversion thereof) shall
-5-
<PAGE>
thereafter be applicable, as nearly as may be possible, in relation to any
shares of stock, securities or assets thereafter deliverable upon the conversion
of such shares of Class A Preferred Stock.
(i) (i) No fractional shares shall be issued upon the
conversion of any share or shares of the Class A Preferred Stock, and the number
of shares of Common Stock to be issued shall be rounded to the nearest whole
share. In lieu of any fractional shares to which the holder would otherwise be
entitled, the Corporation shall make a cash payment equal to the Fair Market
Value (as hereinafter defined) of the Common Stock as of two business days prior
to payment multiplied by such fraction. "Fair Market Value" shall mean the
closing price of the Common Stock on the national securities exchange on which
the Common Stock is listed (if the Common Stock is so listed) or on the Nasdaq
National Market or SmallCap Market (if the Common Stock is regularly quoted on
the Nasdaq National Market or SmallCap Market), or, if not so listed or
regularly quoted or if there is no such closing price, the mean between the
closing bid and asked prices of the Common Stock in the over-the-counter market
or on such exchange or on Nasdaq, or, if such bid and asked prices shall not be
available, as reported by any nationally recognized quotation service, or if the
price is not so reported, as determined in good faith by the Board.
(ii) Upon the occurrence of each adjustment or
readjustment of the Conversion Rate, the Corporation, at its expense, shall
promptly compute such adjustment or readjustment in accordance with the terms
hereof and prepare and furnish to each holder of Class A Preferred Stock a
statement setting forth such adjustment or readjustment and showing in detail
the facts upon which such adjustment or readjustment is based. The Corporation
shall, upon the written request at any time of any holder of Class A Preferred
Stock, furnish or cause to be furnished to such holder a like certificate
setting forth (A) such adjustment and readjustment and (B) the number of shares
of Common Stock and the amount, if any, of other property which at the time
would be received upon the conversion of a share of such Class A Preferred
Stock.
(j) In the event of any taking by the Corporation of a record
of the holders of any class of securities for the purpose of determining the
holders thereof who are entitled to receive any dividend (other than a cash
dividend) or other distribution, any right to subscribe for, purchase or
otherwise acquire any shares of stock of any class or any other securities or
property, or to receive any other right, the Corporation shall mail to each
holder of Class A Preferred Stock, at least 20 days prior to the date specified
therein, a notice specifying the date on which any such record is to be taken
for the purpose of such dividend, distribution or right, and the amount and
character of such dividend, distribution or right.
(k) The Corporation shall at all times reserve and keep
available out of its authorized but unissued shares of Common Stock, solely for
the purpose of effecting the conversion of the shares of the Class A Preferred
Stock, such number of its shares of Common Stock as shall from time to time be
sufficient to effect the conversion of all outstanding shares of the Class A
Preferred Stock; and if at any time the number of authorized but unissued shares
of Common Stock shall not be sufficient to effect the conversion of all then
outstanding shares of the Class A Preferred Stock, in addition to such other
remedies as shall be available to the holder of such Class A Preferred
-6-
<PAGE>
Stock, the Corporation will take such corporate action as may, in the opinion of
its counsel, be necessary to increase its authorized but unissued shares of
Common Stock to such number of shares as shall be sufficient for such purposes,
including, without limitation, engaging in best efforts to obtain the requisite
stockholder approval of any necessary amendment to these provisions.
(l) The Corporation shall pay all documentary, stamp or other
transactional taxes attributable to the issuance or delivery of shares of
capital stock of the Corporation upon conversion of any shares of Class A
Preferred Stock; provided, however, that the Corporation shall not be required
to pay any taxes which may be payable in respect of any transfer involved in the
issuance or delivery of any certificate for such shares in a name other than
that of the holder of the shares of Class A Preferred Stock in respect of which
such shares are being issued.
(m) All shares of Common Stock which may be issued in
connection with the conversion provisions set forth herein will, upon issuance
by the Corporation, be validly issued, fully paid and nonassessable and free
from all taxes, liens or charges with respect thereto.
(n) Any notice required by the provisions of this Section 5 to
be given to the holders of shares of Class A Preferred Stock shall be deemed
given if deposited in the United States mail, postage prepaid, and addressed to
each holder of record at his address appearing on the stock books of the
Corporation.
(o) In the event any shares of Class A Preferred Stock shall
be converted pursuant to Section 5 hereof or otherwise reacquired by the
Corporation, the shares so converted or reacquired shall be canceled. The
Certificate of Incorporation of the Corporation may be appropriately amended
from time to time to effect the corresponding reduction in the Corporation's
authorized capital stock.
6. Pre-emptive Right.
(a) So long as any shares of Class A Preferred Stock are
outstanding and up to but not including the Subsequent Financing, each holder of
Class A Preferred Stock is hereby granted a pre-emptive right to purchase all or
any part of his or its pro rata share of New Securities (as hereinafter defined)
which the Corporation may, from time to time, propose to sell and issue in a
subsequent financing, at the price and on the terms applicable to such proposed
sale of New Securities. A pro rata share of New Securities for purposes of this
Section 6 as to each such holder, shall be the percentage figure which expresses
the ratio, on a Common Stock equivalent basis, between the number of shares of
Class A Preferred Stock owned by such holder and the aggregate number of shares
of Common Stock (including Preferred Stock, on a Common Stock equivalent basis)
owned by all holders thereof at the date of determination. "New Securities"
shall mean any shares of Common Stock of the Corporation whether now authorized,
and any rights, options, warrants or other securities exercisable for or
convertible into Common Stock; provided, that the term "New Securities" does not
include shares of Common Stock: (i) issued upon conversion of Class A Preferred
Stock, (ii) sold in a Subsequent Financing; (iii) issued in connection with any
-7-
<PAGE>
stock split, stock dividend or recapitalization of the Corporation; (iv) issued
pursuant to an existing bona fide stock option plan in the normal course of
business approved by the Board of Directors of the Corporation; (v) underlying
warrants issued in connection with a bank financing; or (vi) issued in
connection with the acquisition of the capital stock or assets of any other
person or entity.
(b) In the event the Corporation proposes to undertake an
issuance of New Securities, it shall give each holder of Class A Preferred Stock
written notice of its intention, describing the type of New Securities and the
price and the terms upon which the Corporation proposes to issue the same. If
the terms involve a unique consideration which the holders of Class A Preferred
Stock are unable to deliver, the Board of Directors of the Corporation shall
determine, in good faith and on a reasonable basis, the fair market value of
such consideration and such fair market value shall be the price offered to the
holders of Class A Preferred Stock, payable in cash. Each holder of Class A
Preferred Stock shall have 15 days from the date such notice is given to agree
to purchase its pro rata share of such New Securities for the price and upon the
terms specified in such notice by giving written notice to the Corporation and
stating therein the quantity of New Securities to be purchased.
(c) In the event any Purchaser fails to exercise fully the
pre-emptive right granted under this Section 6 within such 30-day period, the
Corporation shall have 90 days thereafter to sell or enter into an agreement
(pursuant to which the sale of New Securities covered thereby shall be closed,
if at all, within 90 days from the date of such agreement) to sell the New
Securities in respect of which such holder's rights were not exercised on
substantially the same terms or terms more favorable to the Corporation than
specified in the Corporation's notice. In the event the Corporation has not sold
or entered into an agreement to sell such New Securities in accordance with the
foregoing within such 90-day period, the Corporation shall not thereafter issue
or sell any of such New Securities without first offering such securities to the
holders of Class A Preferred Stock in the manner provided above."
-8-
<PAGE>
IN WITNESS WHEREOF, b2bGalaxy.com Inc. has caused
this Certificate of Designation to be executed this ____ day of April, 1999.
B2BGALAXY.COM INC.
By:______________________________
Name: Edward Schroeder
Title:President and Chief Executive
Officer
By:______________________________
Name: Andrew Gyenes
Title:Chairman of the Board
-9-
Consent of Independent Auditors
The Board of Directors
Cornerstone Internet Solutions Company:
We consent to incorporation by reference in the registration statement (No.
333-06780) on Form S-3 and registration statements (No. 33-04038 and No.
33-97208) on Form S-8 of Cornerstone Internet Solutions Company of our report
dated August 26, 1999, relating to the consolidated balance sheets of
Cornerstone Internet Solutions Company and subsidiaries as of May 31, 1999 and
1998, and the related consolidated statements of operations, stockholders'
equity, and cash flows for the years then ended, which report appears in the May
31, 1999 annual report on Form 10-KSB of Cornerstone Internet Solutions Company.
Our report dated August 26, 1999, contains an explanatory paragraph that states
that the Company's recurring losses from operations raise substantial doubt
about its ability to continue as a going concern. The consolidated financial
statements do not include any adjustments that might result from the outcome of
that uncertainty.
KPMG LLP
Melville, New York
August 30, 1999
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
COMPANY'S FORM 10-KSB FOR THE YEAR ENDED MAY 31, 1999 AND IS QUALIFIED IN ITS
ENTIRETYBY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> MAY-31-1999
<PERIOD-START> JUN-01-1998
<PERIOD-END> MAY-31-1999
<CASH> 2,939,596
<SECURITIES> 398,348
<RECEIVABLES> 1,024,624
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 4,432,630
<PP&E> 2,013,170
<DEPRECIATION> (1,341,988)
<TOTAL-ASSETS> 5,496,399
<CURRENT-LIABILITIES> 1,552,809
<BONDS> 0
0
85
<COMMON> 131,210
<OTHER-SE> 398,348
<TOTAL-LIABILITY-AND-EQUITY> 5,496,399
<SALES> 0
<TOTAL-REVENUES> 3,257,069
<CGS> 3,967,454
<TOTAL-COSTS> 6,805,175
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> (10,760)
<INCOME-PRETAX> (3,581,564)
<INCOME-TAX> 0
<INCOME-CONTINUING> 0
<DISCONTINUED> 0
<EXTRAORDINARY> (63,786)
<CHANGES> 0
<NET-INCOME> (3,645,350)
<EPS-BASIC> (0.46)
<EPS-DILUTED> (0.46)
</TABLE>
