<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C.
-----------
FORM 8-K/A
CURRENT REPORT
PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
DATE OF REPORT (DATE OF EARLIEST EVENT REPORTED): SEPTEMBER 25, 1998
DIGITAL GENERATION SYSTEMS, INC.
- --------------------------------------------------------------------------------
(Exact Name of Registrant as Specified in Charter)
California 000-27644 94-3140772
- --------------------------------------------------------------------------------
(State or other jurisdiction (Commission (IRS Employer
of incorporation) File Number) Identification No.)
875 Battery Street, San Francisco, California 94111
- --------------------------------------------------------------------------------
(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code (415) 276-6600
-----------------------------
Same
- --------------------------------------------------------------------------------
(Former name or Former Address, if Changed Since Last Report.)
<PAGE> 2
The undersigned Registrant hereby amends the following items,
financial statements, exhibits or other portions of its Current Report on Form
8-K, dated October 13, 1998, related to the September 25, 1998 acquisition of
substantially all of the property and assets of Digital Courier International
Corporation ("DCIC"), an Alberta corporation, and its wholly-owned subsidiary,
Digital Courier International Inc. ("DCII"), by 17231 Yukon Inc. ("Yukon"), a
wholly-owned subsidiary of the Registrant incorporated under the laws of the
Yukon Territory, Canada, which has subsequently changed its name to DG Systems
North Inc. ("DG North"), as set forth below and in the pages attached hereto.
Item 7. Financial Statements, Pro Forma Financial Information and Exhibits
(a) Financial Statements of Business Acquired.
The audited consolidated financial statements of DCIC for the twelve
months ended September 30, 1997 and 1996 are attached hereto as Exhibit 7.1.
The unaudited consolidated financial statements of DCIC for the sixth
months ended March 31, 1998 and 1997 are attached hereto as Exhibit 7.2.
(b) Pro Forma Financial Information.
The following unaudited condensed pro forma combined financial
statements of the Registrant, Starcom Mediatech, Inc., a wholly-owned subsidiary
of the Registrant, and DCIC, attached hereto as Exhibit 7.3, give pro forma
effect to the estimated financial impact of the Registrant's acquisition of the
property and assets of DCIC and DCII on September 25, 1998. The condensed pro
forma combined balance sheet at June 30, 1998 gives pro forma effect to the
acquisition as if it was consummated on that date. The condensed pro forma
combined statement of operations data for the six months ended June 30, 1998 and
the twelve months ended December 31, 1997 give pro forma effect to the
acquisition as if it was consummated as of the beginning of the respective
periods presented.
The unaudited condensed pro forma combined financial statements are
based on the historical combined financial statements of the Registrant giving
effect to the assumptions and adjustments set forth in the notes to the
condensed pro forma combined financial statements.
The unaudited condensed pro forma combined financial statements are
provided for informational purposes only and are not necessarily indicative of
how the Registrant's balance sheet and statement of operations would have been
presented had the acquisition of property and assets of DCIC and DCII been
consummated on the assumed dates, nor are they necessarily indicative of the
presentation of the Registrant's balance sheet and statement of operations for
any future period.
1
<PAGE> 3
(c) The following exhibits are filed herewith:
Exhibit
Number Description
- ------- -----------
7.1 The audited consolidated financial statements of DCIC for the
twelve months ended September 30, 1997 and 1996.
7.2 The unaudited consolidated financial statements of DCIC for
the six months ended March 31, 1998 and 1997.
7.3 The unaudited condensed pro forma combined financial
statements of Digital Generation Systems, Inc., Starcom
Mediatech, Inc. and DCIC.
2
<PAGE> 4
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of
1934, the Registrant has duly caused this report to be signed on its behalf by
the undersigned hereunto duly authorized.
DIGITAL GENERATION SYSTEMS, INC.
Date: November 12, 1998 By: /s/ PAUL W. EMERY, II
------------------------------------------
Paul W. Emery, II
Vice President and Chief Financial Officer
(Principal Financial and Chief Accounting
Officer)
3
<PAGE> 5
EXHIBIT INDEX
Exhibits
filed
herewith: Description
- --------- -----------
7.1 The audited consolidated financial statements of DCIC for the
twelve months ended September 30, 1997 and 1996.
7.2 The unaudited consolidated financial statements of DCIC for
the six months ended March 31, 1998 and 1997.
7.3 The unaudited condensed pro forma combined financial
statements of Digital Generation Systems, Starcom Mediatech,
Inc., and DCIC.
<PAGE> 1
EXHIBIT 7.1
Consolidated Financial Statements of
DIGITAL COURIER INTERNATIONAL CORPORATION
(Expressed in Canadian Dollars)
Auditors' Report
Comments by Auditors for U.S. Readers on Canada-U.S. Reporting Conflict
Years ended September 30, 1997 and 1996
<PAGE> 2
AUDITORS' REPORT
To the Board of Directors
Digital Courier International Corporation
We have audited the consolidated balance sheets of Digital Courier International
Corporation as at September 30, 1997 and 1996, and the consolidated statements
of operations and deficit and changes in financial position for the years ended
September 30, 1997 and 1996. These financial statements are the responsibility
of the Company's management. Our responsibility is to express an opinion on
these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing standards
in Canada. Those standards require that we plan and perform an audit to obtain
reasonable assurance 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.
In our opinion, these consolidated financial statements present fairly, in all
material respects, the financial position of the Company as at September 30,
1997 and 1996, and the results of its operations and the changes in its
financial position for the years ended September 30, 1997 and 1996 in accordance
with generally accepted accounting principles in Canada.
Accounting principles generally accepted in Canada vary in certain significant
respects from accounting principles generally accepted in the United States.
Application of accounting principles generally accepted in the United States
would have affected the results of operations for the year ended September 30,
1997 and 1996 and total assets and shareholders' equity as at September 30, 1997
to the extent summarized in note 13 to the financial statements.
Chartered Accountants
Vancouver, Canada
November 14, 1997, except as to notes 9(c)(i) and 15(b) which are as of December
24, 1997
<PAGE> 3
COMMENTS BY AUDITORS FOR U.S. READERS ON
CANADA-U.S. REPORTING CONFLICT
In the United States, reporting standards for auditors require the addition of
an explanatory paragraph (following the opinion paragraph) when the financial
statements are affected by significant uncertainties such as those described in
note 1(a) of the consolidated financial statements. Our report to the directors
dated November 14, 1997, except as to notes 9(c)(i) and 15(b) which are as of
December 24, 1997 is expressed in accordance with Canadian reporting standards
which do not permit a reference to such uncertainties in the auditors' report
when the uncertainties are adequately disclosed in the financial statements.
Chartered Accountants
Vancouver, Canada
November 14, 1997, except as to notes 9(c)(i) and 15(b) which are as of December
24, 1997.
<PAGE> 4
DIGITAL COURIER INTERNATIONAL CORPORATION
Consolidated Balance Sheets
(Expressed in Canadian Dollars)
September 30, 1997 and 1996
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------
1997 1996
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Assets
Current assets:
Cash and cash equivalents $ 444,143 $ 1,785,765
Accounts receivable 1,087,299 654,829
Government receivable 71,563 253,478
Inventories 302,262 153,727
Prepaids 351,512 94,210
- -------------------------------------------------------------------------------------------------------------------
2,256,779 2,942,009
Capital assets (note 4) 7,490,151 7,865,266
Deferred development costs - 100,000
Intellectual property (note 5) 749,995 1,416,667
Deferred charges - 480,000
- -------------------------------------------------------------------------------------------------------------------
$ 10,496,925 $ 12,803,942
- -------------------------------------------------------------------------------------------------------------------
Liabilities and Deficiency in Assets
Current liabilities:
Accounts payable and accrued liabilities $ 2,526,085 $ 1,836,251
Current portion of obligations under capital leases 3,101,271 1,843,964
- -------------------------------------------------------------------------------------------------------------------
5,627,356 3,680,215
Long-term obligations under capital leases (note 6) 3,608,873 3,743,228
Debenture (note 7) 2,960,571 2,908,000
Preferred shares (note 8) 2,000,000 2,000,000
Deficiency in assets:
Share capital (note 9) 15,040,866 7,426,510
Deficit (18,740,741) (6,954,011)
- -------------------------------------------------------------------------------------------------------------------
(3,699,875) 472,499
Commitments (notes 8(c) and 14)
Subsequent events (note 15)
- -------------------------------------------------------------------------------------------------------------------
$ 10,496,925 $ 12,803,942
- -------------------------------------------------------------------------------------------------------------------
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE> 5
DIGITAL COURIER INTERNATIONAL CORPORATION
Consolidated Statements of Operations and Deficit
(Expressed in Canadian Dollars)
Years ended September 30, 1997 and 1996
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------
1997 1996
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Revenue $ 3,069,857 $ 1,211,309
Expenses:
Direct network costs 5,089,295 2,021,969
General and administration 2,105,992 1,990,155
Depreciation and amortization 4,030,141 1,787,670
Sales and marketing 1,471,228 1,336,405
Research and development 1,103,197 960,103
Interest on long-term debt 1,019,155 151,810
- -------------------------------------------------------------------------------------------------------------------
14,819,008 8,248,112
- -------------------------------------------------------------------------------------------------------------------
Loss before other income 11,749,151 7,036,803
Other (income) loss 37,579 (82,792)
- -------------------------------------------------------------------------------------------------------------------
Loss for the year 11,786,730 6,954,011
Deficit, beginning of year 6,954,011 -
- -------------------------------------------------------------------------------------------------------------------
Deficit, end of year $ 18,740,741 $ 6,954,011
- -------------------------------------------------------------------------------------------------------------------
Loss per share (note 9(e)) $ 0.79 $ 0.63
- -------------------------------------------------------------------------------------------------------------------
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE> 6
DIGITAL COURIER INTERNATIONAL CORPORATION
Consolidated Statements of Changes in Financial Position
(Expressed in Canadian Dollars)
Years ended September 30, 1997 and 1996
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------
1997 1996
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Cash provided by (used in):
Operations:
Loss for the year $ (11,786,730) $ (6,954,011)
Items not involving cash:
Depreciation and amortization 4,030,141 1,787,670
Amortization of debenture discount 52,571 -
Changes in non-cash operating working capital:
Increase in accounts receivable (432,470) (654,829)
Decrease (increase) in government receivable 181,915 (253,478)
Increase in inventories (148,535) (153,727)
Increase in prepaids (257,302) (94,210)
Increase in accounts payable and accrued liabilities 689,834 1,836,251
- -------------------------------------------------------------------------------------------------------------------
(7,670,576) (4,486,334)
Financing:
Assumption of obligations under capital leases,
net of principal repayments 1,122,952 5,587,192
Issue of common shares, net of share issue costs 7,614,356 5,814,430
Decrease (increase) in deferred charges 480,000 (480,000)
Issue of common shares for acquisition of assets - 1,100,001
Issue of common shares for acquisition of business - 420,078
Issue of preferred shares for acquisition of intellectual property - 2,000,000
Issue of debentures - 2,908,000
Issue of warrants - 92,000
- -------------------------------------------------------------------------------------------------------------------
9,217,308 17,441,701
Investments:
Acquisition of business assets from MPR - (1,217,329)
Purchase of intellectual property from MPR - (2,000,001)
Acquisition of business, net of $452,295 cash acquired - 32,217
Deferred development costs - (100,000)
Purchase of capital assets (2,888,354) (7,884,490)
- -------------------------------------------------------------------------------------------------------------------
(2,888,354) (11,169,603)
- -------------------------------------------------------------------------------------------------------------------
Increase (decrease) in cash and cash equivalents (1,341,622) 1,785,764
Cash and cash equivalents, beginning of year 1,785,765 1
- -------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents, end of year $ 444,143 $ 1,785,765
- -------------------------------------------------------------------------------------------------------------------
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE> 7
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements
(Expressed in Canadian Dollars)
Years ended September 30, 1997 and 1996
- --------------------------------------------------------------------------------
Digital Courier International Corporation ("DCC") was incorporated under
the Business Corporations Act (Alberta) on November 30, 1993 and commenced
operations, when it acquired its business assets, on November 15, 1995.
1. SIGNIFICANT ACCOUNTING POLICIES:
(a) Future operations:
These financial statements have been prepared on the going concern
basis, which assumes the realization of assets and settlement of
liabilities in the normal course of business. The ability of the
Company to realize its assets and settle its liabilities is dependent
upon its ability to obtain the financing necessary to continue the
development of its intellectual property, and deployment of its
proprietary network, repay its capital lease obligations, debentures
and current liabilities and attain profitable operations. At September
30, 1997, the Company had a working capital deficit of $3,370,577 and
net equity deficiency of $3,699,875 which substantiated uncertainty as
to the Company's ability to operate as a going concern. Failure to
continue as a going concern would require the Company's assets and
liabilities to be shown at their liquidation values, which are
substantially different from these presented.
(b) Basis of presentation:
These financial statements have been prepared in accordance with
accounting principles and practices generally accepted in Canada which
except as disclosed in note 13, are also in accordance, in all material
respects, with those in the United States.
The consolidated financial statements as at and for the year ended
September 30, 1997, and 1996 include the accounts of DCC and its
wholly-owned subsidiary Digital Courier International Inc. ("DCI")
(together the "Company"). All significant intercompany accounts and
transactions have been eliminated.
The Company commenced operations on November 15, 1995 as such there are
no comparative statements of operations and changes in financial
position for the year ended September 30, 1995.
(c) Cash and cash equivalents:
Cash and cash equivalents include fixed income securities that are
readily convertible to cash with a maturity of ninety days or less at
the date of acquisition.
(d) Inventories:
Raw materials inventories are stated at the lower of cost, determined
on a first in, first out basis, or replacement cost.
<PAGE> 8
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements, page 2
(Expressed in Canadian Dollars)
Years ended September 30, 1997 and 1996
- --------------------------------------------------------------------------------
1. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED):
(e) Capital assets:
Capital assets are stated at cost. Assets under capital leases are
initially recorded at the present value of minimum lease payments at
the inception of the lease. Depreciation and amortization are provided
on a straight-line basis over the estimated useful lives of the assets
as follows:
Office equipment 3 years
Computer equipment 3 years
Network costs 3 years
Leasehold improvements Lease term
Assets under capital leases Lease term
(f) Deferred development costs:
The Company expenses all research and development costs as incurred
with the exception of certain development costs incurred prior to
commencement of or during initial commercial production of new
products, which are deferred. Should the Company determine that the
unamortized balance of deferred costs is in excess of amounts that can
reasonably be recovered from the benefits of future sales, such excess
will be written off at that time.
Deferred development costs are amortized on a straight-line basis over
the product's estimated useful life.
(g) Intellectual property:
Intellectual property is stated at cost and is amortized on a straight
line basis over the estimated useful life of the property being three
years.
(h) Deferred charges:
Deferred charges represent share issuance costs that are charged to
share capital on completion of the public offering.
(i) Translation of foreign currencies:
The Company's functional currency is the Canadian dollar. Revenue and
expense items transacted in foreign currencies are reflected in
Canadian dollars at the rates prevailing at the time of the
transaction. Accounts payable and receivable in foreign currencies are
reflected in the financial statements in equivalent Canadian dollars at
the rate of exchange prevailing at the balance sheet date.
Currency gains and losses are included in loss for the period.
(j) Loss per share:
Loss per share has been calculated using the weighted average number of
common shares outstanding during the period. Fully diluted loss per
share has not been presented as the effect on basic loss per share
would be anti-dilutive.
<PAGE> 9
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements, page 3
(Expressed in Canadian Dollars)
Years ended September 30, 1997 and 1996
- --------------------------------------------------------------------------------
1. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED):
(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 amounts of assets and
liabilities and the disclosure of contingent assets and liabilities at
the date of the financial statements, and the reported amounts of
revenues and expenses during the period. Significant areas requiring
the use of estimates include the assessment of the underlying value of
capital assets and intangible property, both of which are, at least in
part, dependent upon the business continuing to operate as a going
concern (note 1(a)). Actual results could differ from those estimates
used in the financial statements.
(l) Financial instruments:
(i) Fair value of financial instruments:
The carrying amount of cash and cash equivalents, accounts
receivable, government receivable and accounts payable and accrued
liabilities approximates their fair value due to the short-term
maturity of these items.
The fair market value of the long-term obligations under capital
leases, debentures and preferred shares, which is based upon
discounted cash flows, including interest payments, approximates
the carrying value reported in the balance sheet.
(ii) Foreign exchange risk:
Foreign exchange risk reflects the risk that the Company's
earnings will decline due to fluctuations in exchange rates.
Contracts billed in United States dollars by the Company come due
in the short-term and, accordingly, the Company has determined
there is no significant exposure to foreign exchange fluctuations.
The Company does not have foreign exchange hedges in place at this
time.
(iii) Credit risk:
Credit risk reflects the risk that the Company may be unable to
recover contractual receivables. The Company has a significant
number of individual contracts and no one contract represents a
concentration of credit risk. The Company employs established
credit approval practices to further mitigate this risk.
<PAGE> 10
2. BUSINESS COMBINATIONS:
Effective the close of business on November 15, 1995, DCC issued
31,939,545 pre-consolidation common shares as consideration for the
acquisition of all of the issued and outstanding common shares of DCI on
the basis of three common shares of DCC for each common share of DCI.
The acquisition has been recorded at the estimated fair value of the
consideration given which, under reverse takeover accounting, is the fair
value of the total number of shares of DCI that would have had to be issued
in order to provide the same percentage of ownership of the combined
company to the shareholders of DCC as they have in the combined company as
a result of the reverse takeover.
The acquisition details are as follows:
Net assets acquired, at fair values:
Cash $452,295
Working capital deficiency (33,769)
Other assets 1,552
----------------------------------------------------------
$420,078
----------------------------------------------------------
Consideration given for net assets acquired:
Common shares issued $420,078
----------------------------------------------------------
As the continuing entity is deemed to be DCI, share capital of DCC totaling
$485,000 reported prior to the combination has been eliminated as a result
of accounting for this combination as a reverse takeover.
The consolidated statements of operations and deficit and changes in
financial position reflect the results of operations and changes in
financial position of DCC, the legal parent, for the period from November
16, 1995 to September 30, 1996 and for DCI the year ended September 30,
1996. The results of operations and changes in financial position of DCC
for the period from October 1, 1995, being the date following the most
recent audited balance sheet of DCC, to November 15, 1995, being
immediately prior to the effective date of the combination, were not
material.
3. BUSINESS ACQUISITION:
Effective November 15, 1995, DCI purchase certain business assets of its
former parent company, MPR Teltech Ltd. ("MPR").
Assets acquired, at the carrying amounts of MPR were as follows:
Cash $ 250
Accounts receivable 94,318
Capital assets 1,274,188
Intellectual property (note 5) 2,000,001
--------------------------------------------------------
3,368,757
Assumption of current liabilities (151,177)
--------------------------------------------------------
Net assets acquired $3,217,580
--------------------------------------------------------
<PAGE> 11
3. BUSINESS ACQUISITION (continued):
Consideration paid:
Issuance of common shares (note 9) $ 4,438,577
Related party transaction adjustment (note 5) (3,338,576)
--------------------------------------------------------
1,100,001
Assumption of payable to related party 117,579
Issuance of preferred shares (note 12) 2,000,000
--------------------------------------------------------
$3,217,580
--------------------------------------------------------
The exchange of the common shares for the assets is a non-monetary
transaction between related parties that does not result in the culmination
of the earnings process. Therefore, the assets are recorded in the Company
at their carrying amount to MPR. MPR had previously expensed all but
$2,000,000 of the research costs relating to the development of the
intellectual property. The related party transaction adjustment reduces the
assigned value of the technology acquired and the consideration paid to the
carrying amount of the intellectual property acquired.
<PAGE> 12
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements, page 4
(Expressed in Canadian Dollars)
Years ended September 30, 1997 and 1996
- --------------------------------------------------------------------------------
4. CAPITAL ASSETS:
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------
Accumulated
depreciation 1997
and Net book
Cost amortization value
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Office equipment $ 35,230 $ 14,902 $ 20,328
Computer equipment 1,665,560 141,699 1,523,861
Network costs 655,338 138,789 516,549
Leasehold improvements 175,000 175,000 -
Assets under capital lease 9,426,828 3,997,415 5,429,413
- -------------------------------------------------------------------------------------------------------------------
$ 11,957,956 $ 4,467,805 $ 7,490,151
- -------------------------------------------------------------------------------------------------------------------
- -------------------------------------------------------------------------------------------------------------------
Accumulated
depreciation 1996
and Net book
Cost amortization value
- -------------------------------------------------------------------------------------------------------------------
Office equipment $ 108,547 $ 16,000 $ 92,547
Computer equipment 2,623,023 635,210 1,987,813
Network costs 364,310 29,766 334,544
Leasehold improvements 175,000 87,500 87,500
Assets under capital lease 5,798,722 435,860 5,362,862
- -------------------------------------------------------------------------------------------------------------------
$ 9,069,602 $ 1,204,336 $ 7,865,266
- -------------------------------------------------------------------------------------------------------------------
</TABLE>
At September 30, 1997, computer equipment includes $339,109 (1996 -
$843,927) of computers, parts and materials that have not been put into use
at network sites and therefore have not been depreciated.
During the year the Company sold computer parts amounting to $477,225 to a
supplier that were then used in the manufacturing of computers for the
Company's proprietary network.
<PAGE> 13
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements, page 5
(Expressed in Canadian Dollars)
Years ended September 30, 1997 and 1996
- --------------------------------------------------------------------------------
5. INTELLECTUAL PROPERTY:
The Company acquired certain software and hardware design, copyrights,
trademarks, trade secrets and third party licenses from MPR. The
intellectual property was valued in the Technology Transfer and Licensing
Agreement at $5,338,577. For accounting purposes, however, their assets
have been recorded at their carrying value on the accounts of MPR (Note 3).
As a result, the intellectual property and common shares were each reduced
by $3,338,576 resulting in the common shares recorded at $1.00 and the
intellectual property at $2,000,001.
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------
1997 1996
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Intellectual property $ 2,000,001 $ 2,000,001
Less accumulated amortization 1,250,006 583,334
- -------------------------------------------------------------------------------------------------------------------
$ 749,995 $ 1,416,667
- -------------------------------------------------------------------------------------------------------------------
</TABLE>
6. LONG-TERM OBLIGATIONS UNDER CAPITAL LEASES:
The Company is obligated to make principal and interest payments under
capital leases during the fiscal years ended September 30 as follows:
<TABLE>
<S> <C>
1998 $ 3,596,469
1999 3,041,632
2000 658,029
2001 167,687
2002 19,773
-------------------------------------------------------------------------
Minimum lease payments 7,483,590
Less amount representing interest at approximately 11% 773,446
-------------------------------------------------------------------------
6,710,144
Current portion of obligations under capital leases 3,101,271
-------------------------------------------------------------------------
$ 3,608,873
-------------------------------------------------------------------------
</TABLE>
The capital leases are secured by a charge on all assets, property and
undertakings of the Company. Interest expense of $643,681 (1996 - $151,810)
relating to capital lease obligations has been included in interest on
long-term debt.
7. DEBENTURE:
On September 30, 1996, the Company issued a 9% debenture with a face value
of $3,000,000, for cash consideration equal to $2,908,000 to various
shareholders of the Company. The interest is compounded and payable
quarterly. The debenture is due and payable on October 1, 1998 or repayable
at the option of the Company at any time without penalty. The debenture is
secured by a floating charge on all assets, property and undertakings of
the Company. However, it is subordinated to the security interest granted
to the lessor for capital leases, and to each of the four debentures issued
on October 31, 1997 and December 24, 1997 (note 15(b)).
The debenture was issued together with warrants having an assigned fair
value of $92,000 (note 9(d)).
<PAGE> 14
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements, page 6
(Expressed in Canadian Dollars)
Years ended September 30, 1997 and 1996
- --------------------------------------------------------------------------------
8. PREFERRED SHARES:
(a) Authorized:
Unlimited number of preferred shares issuable in series Series 1
non-voting, redeemable and retractable at $1 per share
(b) Issued and outstanding at September 30, 1997 and September 30, 1996:
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------
Number
of shares Amount
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Series 1 preferred shares 2,000,000 $ 2,000,000
- -------------------------------------------------------------------------------------------------------------------
</TABLE>
(c) Redemption and retraction rights:
In the event of a liquidation or winding up of the Company, the holders
of the Series 1 preferred shares are entitled to payment of the paid-up
amount, being $2,000,000. This must be paid in advance of any amounts
being paid to common shareholders.
The Company must redeem a portion of the Series 1 preferred shares 30
days following the end of each financial quarter that they remain
outstanding. The aggregate redemption amount of the portion to be
redeemed equals 50% of the Company's gross margin for the quarter, as
defined in the preferred share conditions. To September 30, 1997, the
gross margin test has not been met and no shares have been required to
be redeemed.
The Company may at any time redeem any or all of the preferred shares
for $1 per share in cash or, at the option of the shareholder, for a
number of common shares equal to one-half of the preferred shares being
redeemed with the remaining half in cash.
The holders of the Series 1 preferred shares may, at any time after
November 15, 1998, demand by notice in writing that the Company redeem
any or all of the shares for $1 per share. Payment of the retraction
price would be made, solely at the option of the holder, by issuing one
fully paid common share of the Company for each preferred share
redeemed or by paying cash, in twelve equal monthly instalments.
<PAGE> 15
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements, page 7
(Expressed in Canadian Dollars)
Years ended September 30, 1997 and 1996
- --------------------------------------------------------------------------------
9. SHARE CAPITAL:
(a) Authorized: Unlimited common shares, no par value
(b) Issued and outstanding:
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------
Number
of shares Amount
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Balance at September 30, 1995 1,555,556 $ 470,000
Issued from October 1, 1995 to November 15, 1995
exercise of agent's options for cash 33,333 15,000
- -------------------------------------------------------------------------------------------------------------------
1,588,889 485,000
Adjustments to record combination (reverse takeover):
Reduction in book value of DCC stated share capital
to that of DCI - (64,922)
Shares issued to acquire shares of subsidiary 10,646,515 6,830,002
Finder's fee related to business combination 77,223 -
- -------------------------------------------------------------------------------------------------------------------
Balance at November 15, 1995 after business combination 12,312,627 7,250,080
Issued from November 16, 1995 to September 30, 1996:
Exercise of agent's options for cash 33,333 15,000
Exercise of directors' incentive stock options for cash 155,555 70,000
- -------------------------------------------------------------------------------------------------------------------
188,888 85,000
Repurchased for cash (11,400) (570)
Value ascribed to warrants issued with debenture (note 7) - 92,000
- -------------------------------------------------------------------------------------------------------------------
Balance at September 30, 1996 12,490,115 7,426,510
Issued for cash 3,196,700 6,393,400
Exercise of right for cash 1,088,370 2,176,740
Exercise of share purchase options for cash 62,100 77,625
Share issue costs - (1,033,409)
- -------------------------------------------------------------------------------------------------------------------
Balance at September 30, 1997 16,837,285 $ 15,040,866
- -------------------------------------------------------------------------------------------------------------------
</TABLE>
On February 14, 1997 and March 14, 1997, the Company issued 3,100,000 and
96,700 common shares, respectively, at a price of $2.00 each for total cash
proceeds of $6,393,400.
Pursuant to a rights offering, the Company issued on April 29, 1997,
1,088,370 common shares at a price of $2.00 each for total proceeds of
$2,176,740.
<PAGE> 16
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements, page 8
(Expressed in Canadian Dollars)
Years ended September 30, 1997 and 1996
- --------------------------------------------------------------------------------
9. SHARE CAPITAL (CONTINUED):
(c) Share purchase options:
(i) Employee and director share purchase option:
The Company has a stock option plan for employees including
officers and employee directors of the Company which provides for
incentive options. While the Board of Directors determines the
option price, such option price cannot be less than the closing
market value of the common shares on the date of grant. The
options generally expire five years from the date of grant and are
exercisable over the period stated in each option.
Employee and director share purchase options outstanding at
September 30, 1997 are as follows.
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------
Price Number
Vesting date Expiry date per share of shares
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
March 6, 1996 March 6, 2001 $1.25 341,816
March 6, 1997 May 6, 1999 $1.25 51,300
March 6, 1997 March 6, 2001 $1.25 20,500
March 6, 1997 March 6, 2001 $2.00 191,167
September 27, 1997 March 6, 2001 $3.00 191,167
September 27, 1997 March 6, 2001 $4.00 190,402
September 27, 1997 March 6, 2001 $5.00 185,448
March 13, 1997 March 12, 2002 $2.05 272,000
- -------------------------------------------------------------------------------------------------------------------
Total employee and director share purchase options 1,443,800
- -------------------------------------------------------------------------------------------------------------------
</TABLE>
During the year ended September 30, 1997, 62,100 common shares
were issued at $1.25 each pursuant to exercising share purchase
options for total proceeds of $77,625. Share purchase options of
16,100 have expired.
Subsequent to September 30, 1997 an additional 3,700 common
shares have been issued at $1.25 each pursuant to share purchase
option agreements.
(ii) Other share purchase option:
The Company has granted compensation options entitling the
underwriters associated with the February 14, 1997 offering the
right to acquire up to 80,100 common shares at a price of $2.00
per share expiring February 14, 1998 and up to an additional
74,900 common shares at a price of $2.00 per share expiring
February 14, 1999.
<PAGE> 17
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements, page 9
(Expressed in Canadian Dollars)
Years ended September 30, 1997 and 1996
- --------------------------------------------------------------------------------
9. SHARE CAPITAL (CONTINUED):
(d) Warrants:
On September 30, 1996, the Company issued 200,000 common share purchase
warrants to various existing shareholders of the Company in conjunction
with the issuance of the $3,000,000 debenture (note 7). The warrants
are exercisable at a purchase price of $7.25 per common share at any
time after September 30, 1997 and prior to September 30, 1998.
(e) Loss per share:
Loss per share has been calculated based on the weighted average number
of shares outstanding after share consolidation being 14,953,409 (1996
- 11,075,624).
(f) Escrow shares:
Pursuant to two escrow agreements among the Company, certain
shareholders and the Company's transfer agent, a total of 2,615,851
common shares were held in escrow at September 30, 1997 (1996 -
3,923,775) subject to the following terms and conditions:
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------
1997 1996
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Common shares held in escrow to be released, with the consent of the
Alberta Securities Commission, one half on each of March
5, 1998 and March 5, 1999 592,593 888,889
Common shares held in escrow to be released one half on each of March
5, 1998 and March 5, 1999 unless sooner released upon the attainment
of certain performance goals and consent of the
Alberta Securities Commission 2,023,258 3,034,886
- -------------------------------------------------------------------------------------------------------------------
2,615,851 3,923,775
- -------------------------------------------------------------------------------------------------------------------
</TABLE>
(g) Performance incentive plan:
The Company sold to employees of the Company an aggregate of 600,000
common shares at $0.05 per common share. The shares are held in a trust
to be distributed to each employee quarterly or repurchased by the
Company if employment is terminated.
At September 30, 1997, the trust has distributed 343,207 (1996 -
235,815) of these shares to employees. Subsequent to September 30, 1997
a further 26,880 common shares were distributed from the trust to
employees.
At September 30, 1997, the Company had repurchased 11,400 shares from
the trust relating to employees that are no longer with the Company.
<PAGE> 18
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements, page 10
(Expressed in Canadian Dollars)
Years ended September 30, 1997 and 1996
- --------------------------------------------------------------------------------
10. INCOME TAXES
To September 30, 1997, the Company has incurred non-capital losses of
approximately $17,000,000 that are available to reduce future years' income
for Canadian income tax purposes. In addition, the Company has assets for
which tax values exceed the recorded net book value by $5,100,000 (1996 -
$4,100,000). The potential income tax benefits related to these non-capital
losses and timing differences have not been reflected in the accounts as
there is no virtual certainty that the benefits will be realized.
11. SEGMENTED INFORMATION:
All of the Company's activities are in one business segment, the operation
of a two way digital delivery system to the radio broadcast market.
Although the Company has sales in Canada and the United States,
substantially all of its assets are located in Canada. Total sales during
the year ended September 30, 1997 outside Canada were approximately
$1,878,000 (1996 - $691,000).
12. RELATED PARTY TRANSACTIONS:
(a) DCI agreed to provide certain technological support and assistance to a
shareholder, MPR Teltech Ltd. ("MPR"), a wholly owned subsidiary of BC
Telecom Inc. ("BC Telecom") for a period of two years ending September
15, 1997. The credit terms for these transactions are payment within 30
days of the receipt of the invoice and any balance that remains
outstanding after 30 days will be subject to a finance charge of one
per cent per month.
In addition, DCI granted to MPR and its parent company the perpetual,
irrevocable, royalty free right to use, modify and otherwise exploit,
for specific purposes, the technology acquired by the Company from MPR.
(b) During the years presented, the Company and MPR provided services and
materials to each other in the ordinary course of business. There were
no sales to MPR during the year ended September 30, 1997 (1996 -
$181,000). During the year ended September 30, 1997, the Company
acquired services of approximately $12,000 (1996 - $784,000) and no
materials (1996 - $1,897,000) from MPR. Commencing June 1996, MPR no
longer provided materials to the Company.
(c) During the year ended September 30, 1997, the Company was charged
consulting expenses of approximately $208,000 (1996 - $246,000) by
companies related by virtue of common directors and officers.
(d) The Company leases equipment from Telecom Leasing Canada Limited
("TLC"), which is a wholly owned subsidiary of BC Telecom (Note 14(b)).
<PAGE> 19
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements, page 11
(Expressed in Canadian Dollars)
Years ended September 30, 1997 and 1996
- --------------------------------------------------------------------------------
13. UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES:
As disclosed in note 1(b), these financial statements have been prepared in
accordance with Canadian generally accepted accounting principles ("GAAP")
which conform, in all material respects, with those of the United States,
except as described below:
(a) Income taxes:
Under the asset and liability method of United States Statement of
Financial Accounting Standards No. 109 ("FAS 109"), deferred income tax
assets and liabilities are measured using enacted tax rates for the
future income tax consequences attributable to differences between the
financial statement carrying amount of existing assets and liabilities
and their respective tax bases. The application of the provisions of
FAS 109 on the Company's balance sheet resulted in no net difference in
deferred taxes from that reported under Canadian GAAP, as calculated
net deferred tax assets would be fully offset by a valuation allowance.
At September 30, 1997, the gross deferred tax asset amount was
approximately $9,724,000 (1996 - $4,400,000), primarily composed of a
non-capital loss carryforward of $7,480,000 (1996 - $ 2,596,000) and
excess tax costs over book basis of capital assets and intellectual
property of $2,244,000 (1996 - $1,804,000), which is reduced by a
valuation allowance of $9,724,000 (1996 - $4,400,000). There was no
deferred tax liability.
(b) Accounting for stock based compensation:
The Company has adopted Statement of Financial Accounting Standards No.
123, "Accounting for Stock-Based Compensation" ("FAS 123") which
requires stock based compensation be accounted for based on a fair
value methodology. As permitted by the statement, the Company has
elected to continue measuring compensation costs relating to stock
options granted to employees, management and directors using the
intrinsic value based method of accounting. Under the intrinsic value
based method, employee stock option compensation is the excess, if any,
of the quoted market value of the stock at the date of the grant over
the amount an optionee must pay to acquire the stock. Stock options
issued to individuals other than employees, management or directors
would be recorded at their fair market value.
Under the intrinsic value method was used, the total stock based
compensation expense to be recognized for the stock options granted on
March 6, 1996 would have been approximately $6,100,000. Deferred
compensation would be amortized to income over the service period of
the stock options as follows:
<TABLE>
<S> <C>
Year ended September 30, 1996 $ 3,984,000
Year ended September 30, 1997 2,116,000
-----------------------------------------------------------------------
$ 6,100,000
-----------------------------------------------------------------------
</TABLE>
As the exercise price of all other options approximate market value at
date of grant, the Company has determined that this accounting policy
has no effect, with respect to these other stock options, on its
results of operations.
<PAGE> 20
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements, page 12
(Expressed in Canadian Dollars)
Years ended September 30, 1997 and 1996
- --------------------------------------------------------------------------------
13. UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (CONTINUED):
(c) Research and development:
During the year ended September 30, 1996, the Company acquired
intellectual property with an assigned value of $2,000,000 from its
parent company that has been recorded at the parent company's carrying
amount. However, under United States Statement of Financial Accounting
Standards No. 2 ("FAS 2") the parent would have been required to
expense the research and development as incurred. Accordingly, the
parent's carrying amount would be nil and the Company, under Staff
Accounting Bulletin No. 48, would record the intellectual property at
nil.
In addition, $100,000 of deferred development costs which were
capitalized during the period ended September 30, 1996 would be
expensed immediately under AICPA Accounting Principle Board Opinion 17.
If the financial statements had been prepared in conformity with U.S.
GAAP, as a result of the accounting for acquired intellectual property
and deferred development costs, the amortization for the year ended
September 30, 1997 would decrease by $766,672 (1996 - $483,334).
(d) Summary of U.S. GAAP adjustments:
The following table sets forth the effect on the loss for the period
and loss per share:
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------
1997 1996
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Loss determined under Canadian GAAP $ 11,786,730 $ 6,954,011
Expense relating to stock based compensation 2,116,000 3,984,000
Reduction of amortization of intellectual property
and deferred development costs (766,672) (583,334)
Write off of deferred development costs - 100,000
- -------------------------------------------------------------------------------------------------------------------
Loss determined under U.S. GAAP $ 13,136,058 $ 10,454,677
- -------------------------------------------------------------------------------------------------------------------
Weighted average number of shares outstanding 14,953,409 11,075,624
- -------------------------------------------------------------------------------------------------------------------
Loss per share $ 0.88 $ 0.94
- -------------------------------------------------------------------------------------------------------------------
</TABLE>
<PAGE> 21
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements, page 13
(Expressed in Canadian Dollars)
Years ended September 30, 1997 and 1996
- --------------------------------------------------------------------------------
13. UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (CONTINUED):
(d) Summary of U.S. GAAP adjustments (continued):
The following table sets forth the effect on the balance sheet:
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------
1997 1996
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Total assets determined under Canadian GAAP $ 10,496,925 $ 12,803,942
Decrease in intellectual property (749,995) (1,416,667)
Decrease in deferred development costs - (100,000)
- -------------------------------------------------------------------------------------------------------------------
Total assets determination under U.S. GAAP $ 9,746,930 $ 11,287,275
- -------------------------------------------------------------------------------------------------------------------
Shareholders' equity (Deficiency in Assets)
determined under Canadian GAAP $ (3,699,875) $ 472,499
Additional paid in capital for stock
compensation expense 6,100,000 6,100,000
Deferred compensation - (2,116,000)
Reduction of equity for decrease in
intellectual property (2,000,000) (2,000,000)
- -------------------------------------------------------------------------------------------------------------------
400,125 2,456,498
Increase in deficit under U.S. GAAP (4,849,995) (3,500,666)
- -------------------------------------------------------------------------------------------------------------------
Shareholders' deficiency in assets under U.S. GAAP (4,449,870) (1,044,168)
Current liabilities 5,627,356 3,680,215
Long-term obligations under capital leases 3,608,873 3,743,228
Debenture 2,960,571 2,908,000
Preferred shares 2,000,000 2,000,000
- -------------------------------------------------------------------------------------------------------------------
Liabilities and Shareholders' equity under U.S. GAAP $ 9,746,930 $ 11,287,275
- -------------------------------------------------------------------------------------------------------------------
</TABLE>
(e) Statement of cash flows:
The following non-cash transactions would not be reflected as investing
and financing cash flows in a statement of cash flows under U.S. GAAP:
(i) Acquisition of assets through assumption of capital lease
obligations of $3,628,106 at September 30, 1997 (1996 -
$5,798,722).
(ii) Application of deferred financing charges of $480,000 for the
year ended September 30,1997 (1996 - Nil) to share capital
issued.
(iii) Acquisition of $3,217,329 of assets, including $2,000,001 of
intellectual property, through the issuance of $2,000,000 in
preferred shares, $1,100,001 in common shares, and assumption of
$117,328 in payable to related party during the year ended
September 30, 1996.
<PAGE> 22
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements, page 14
(Expressed in Canadian Dollars)
Years ended September 30, 1997 and 1996
- --------------------------------------------------------------------------------
13. UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (CONTINUED):
(e) Statement of cash flows (continued):
(iv) Acquisition of subsidiary through the issue of $420,078 of common
shares and the assumption of $32,117 of working capital deficiency
during the year ended September 30, 1996.
As a result, cash flows from operating, financing and investing activities
under U.S. GAAP would be presented as follows:
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------
1997 1996
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Cash flows from:
Operating activities $ (7,670,576) $ (4,586,334)
Financing activities 5,589,202 8,005,572
Investing activities 739,752 (1,633,474)
- -------------------------------------------------------------------------------------------------------------------
$ 1,341,622 $ 1,785,764
- -------------------------------------------------------------------------------------------------------------------
</TABLE>
14. COMMITMENTS:
(a) Premises lease:
The Company has an operating lease for office premises commencing
January 1, 1997 and expiring December 31, 1999, with a three year
option to renew. The Company's basic rent payments are as follows:
<TABLE>
<S> <C>
1998 $ 117,593
1999 111,792
2000 27,948
--------------------------------------------------------------
$ 257,333
--------------------------------------------------------------
</TABLE>
(b) Lease credit facility:
The Company has entered into an agreement dated November 15, 1995 to
lease computer equipment with a combined value of up to $10 million for
periods of 36 months. The obligation under the lease agreement is not
to exceed $7 million.
To September 30, 1997, the Company entered into lease agreements
totaling $9,426,828. These agreements have been accounted for as
capital leases (see note 6).
(c) Inventory:
The Company has entered into an agreement to purchase inventory from a
supplier requiring six monthly payments of $17,500 commencing October
1, 1997 with a final payment of approximately $133,000 due in March
1998.
<PAGE> 23
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements, page 15
(Expressed in Canadian Dollars)
Years ended September 30, 1997 and 1996
- --------------------------------------------------------------------------------
15. SUBSEQUENT EVENTS:
(a) Obligations under capital leases:
Subsequent to September 30, 1997, the Company has assumed $361,861 of
assets under capital leases.
In addition TLC and the Company have entered into an agreement
("Modification Agreement") to defer the principal portion of lease
payments for the months of December 1997 to April 1998. The principal
portion of the December 1997 and January 1998 payments will be
recapitalized over the remaining term of the existing leases and the
February 1998 to April 1998 principal amounts will be due and payable
on May 1, 1998.
The Company must pay deferral fees for each month a principal payment
is deferred as follows:
<TABLE>
<S> <C>
January, 1998 $ 30,000
February, 1998 35,000
March, 1998 40,000
April, 1998 45,000
--------------------------------------------------------------
$ 150,000
--------------------------------------------------------------
</TABLE>
The deferral fees are due and payable on May 1, 1998.
On November 5, 1997 the Company issued 50,000 common shares at a price
of $1.85 to TLC as a fee for renegotiating the covenants and terms and
conditions of the capital leases in conjunction with the debentures
issued on October 31, 1997. The fee has been reflected in the September
30, 1997 statement of operations.
(b) Debentures:
On October 31, 1997, the Company issued two 15% convertible debentures
with a face value of $1,250,000 each, totaling $2,500,000, to MPR and
CIBC. The interest is payable and the debentures are due and payable on
the earlier of May 1, 1998 or the date the Company completes a treasury
offering of common shares or other equity securities that results in
net proceeds to the Company of at least $8,000,000. The debentures are
convertible into common shares of the Company, at the sole option of
the holder, at the weighted average share price for the ten trading
days ending on the fifth trading day immediately preceding the
conversion. The debentures are secured by a floating charge on all
assets, property and undertakings of the Company. However, they are
subordinated to the security interest granted to the lessor for capital
leases.
<PAGE> 24
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements, page 16
(Expressed in Canadian Dollars)
Years ended September 30, 1997 and 1996
- --------------------------------------------------------------------------------
15. SUBSEQUENT EVENTS (CONTINUED):
(b) Debentures (continued):
On December 24, 1997, the Company issued two additional 15% debentures
with a face value of $1,250,000 each, totaling $2,500,000 to MPR and
CIBC. The interest is payable and the debentures are due and payable
the earlier of May 1, 1998 or the date the Company completes a treasury
offering of common shares or other equity securities that results in
net proceeds to the Company of at least $4,000,000; and the date a
change of control occurs of over 25% of the outstanding voting
securities of the Company. The debentures are secured by a floating
charge on all assets, property and undertakings of the Company.
However, they are subordinated to the security interest granted to the
lessor for capital leases. These debentures have pari passu ranking to
the debentures issued October 31, 1997.
<PAGE> 1
EXHIBIT 7.2
Consolidated Financial Statements of
DIGITAL COURIER INTERNATIONAL CORPORATION
Unaudited - Prepared by Management
For the three month and six month periods ended March 31,
1998 (with comparative figures for 1997)
<PAGE> 2
DIGITAL COURIER INTERNATIONAL CORPORATION
Consolidated Balance Sheet
(Unaudited - Prepared by Management)
Six months ended March 31, 1998, with comparative figures for 1997
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------------------
1998 1997
- ------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Assets
Current assets:
Cash and cash equivalents $ 473,166 $ 2,875,912
Accounts receivable 1,331,983 916,046
Receivable from Lessor -- 324,691
Inventories 26,262 265,897
Prepaids 84,212 341,939
- ------------------------------------------------------------------------------------------------------------------
1,915,623 4,724,485
Capital assets 6,290,917 7,683,652
Deferred development costs -- 83,333
Intellectual property 416,659 1,083,331
Deferred charges -- 34,652
- ------------------------------------------------------------------------------------------------------------------
$ 8,623,199 $ 13,609,453
- ------------------------------------------------------------------------------------------------------------------
Liabilities and Shareholders' Equity (Deficiency in Assets)
Current liabilities:
Accounts payable and accrued liabilities $ 2,246,866 $ 2,057,684
Current portion of obligations under capital leases 2,720,730 3,135,492
Debentures (note 3) 7,376,857 2,934,286
- ------------------------------------------------------------------------------------------------------------------
12,344,453 8,127,462
Long-term obligations under capital leases (note 2) 3,821,913 3,530,149
Preferred shares (note 4) 2,000,000 2,000,000
Shareholders' Equity (Deficiency in Assets):
Share capital (note 5) 15,137,991 12,823,516
Deficit (24,681,158) (12,871,674)
- ------------------------------------------------------------------------------------------------------------------
(9,543,167) (48,158)
- ------------------------------------------------------------------------------------------------------------------
Future operations (note 1a)
Subsequent event (note 7)
Contingency (note 8)
- ------------------------------------------------------------------------------------------------------------------
$ 8,623,199 $ 13,609,453
- ------------------------------------------------------------------------------------------------------------------
</TABLE>
See accompanying notes to consolidated financial statements.
On behalf of the Board:
signed "E.L. Patterson" Director signed "Edward Ford" Director
- --------------------------------- -----------------------------
<PAGE> 3
DIGITAL COURIER INTERNATIONAL CORPORATION
Consolidated Statement of Operations and Deficit
(Unaudited- Prepared by Management)
Three month and six month periods ended March 31, 1998, with comparative figures
for 1997
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Three months ended Six months ended
- ---------------------------------------------------------------------------------------------------------------------------
1998 1997 1998 1997
- ---------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Revenue $ 1,048,271 $ 698,654 $ 2,054,627 $ 1,307,010
Expenses:
Direct network costs 1,632,627 1,226,944 3,060,329 2,452,903
General and administration 451,676 658,758 848,834 1,217,705
Sales and marketing 307,237 384,972 561,574 777,843
Research and development 199,301 339,555 399,278 570,011
- ---------------------------------------------------------------------------------------------------------------------------
2,590,841 2,610,229 4,870,015 5,018,462
- ---------------------------------------------------------------------------------------------------------------------------
Loss before the following: 1,542,570 1,911,575 2,815,388 3,711,452
Depreciation and amortization 1,125,036 844,432 2,224,614 1,721,344
Interest on obligations under capital leases 142,979 167,759 302,475 473,834
Deferral fees on obligation of capital leases 105,000 -- 105,000 --
Interest on debentures 221,393 92,026 343,745 33,998
Other (income) loss 148,593 26,187 149,195 (22,965)
- ---------------------------------------------------------------------------------------------------------------------------
1,743,001 1,130,404 3,125,029 2,206,211
- ---------------------------------------------------------------------------------------------------------------------------
Loss for the period $ 3,285,571 $ 3,041,979 $ 5,940,417 $ 5,917,663
- ---------------------------------------------------------------------------------------------------------------------------
Deficit, beginning of period (21,395,587) (9,829,695) (18,740,741) (6,954,011)
Deficit, end of period $(24,681,158) $(12,871,674) $(24,681,158) $ 12,871,674)
- ---------------------------------------------------------------------------------------------------------------------------
Loss per share (note 5(e)) $ (0.19) $ (0.22) $ (0.35) $ (0.45)
- ---------------------------------------------------------------------------------------------------------------------------
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE> 4
DIGITAL COURIER INTERNATIONAL CORPORATION
Consolidated Statement of Changes in Financial Position
(Unaudited - Prepared by Management)
Three month and six month periods ended March 31, 1998, with comparative figures
for 1997
<TABLE>
<CAPTION>
Three months ended Six months ended
- -------------------------------------------------------------------------------------------------------------------------
1998 1997 1998 1997
- -------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Operations:
Loss for the period $ (3,285,571) $(3,041,979) $(5,940,417) $(5,917,663)
Items not involving cash:
Depreciation and amortization 1,125,036 844,432 2,224,614 1,721,344
Write off of cancelled lines 3,762 -- 24,646 --
Amortization of debenture discount 13,143 13,140 26,286 26,826
Changes in non-cash operating working capital
Decrease (increase) in accounts receivable (80,207) (171,964) (173,121) (139,316)
Increase in receivable from lessor -- (324,691) -- (193,114)
Decrease (increase) in inventories -- 374,385 276,000 (112,170)
Decrease (increase) in prepaids (48,216) 61,035 267,300 (247,729)
Increase (decrease) in accounts payable
and accrued liabilities 326,083 (904,844) (279,219) 221,433
- -------------------------------------------------------------------------------------------------------------------------
(1,945,970) (3,150,486) (3,573,911) (4,640,389)
Financing:
Assumption (repayment) of obligations under
capital leases, net (12,412) (184,797) (167,501) 1,078,449
Increase of common shares, net of share issue costs -- 5,397,006 97,125 5,397,006
Issue of debentures 1,890,000 -- 4,390,000 --
- -------------------------------------------------------------------------------------------------------------------------
1,877,588 5,212,209 4,319,624 6,475,455
Investments:
Purchase of capital assets (86,168) (834,649) (716,690) (1,190,267)
Decrease in deferred charges -- 653,179 -- 445,348
- -------------------------------------------------------------------------------------------------------------------------
(86,168) (181,470) (716,690) (744,919)
- -------------------------------------------------------------------------------------------------------------------------
Increase (decrease) in cash and cash equivalents (154,550) 1,880,253 29,023 1,090,147
Cash and cash equivalents, beginning of period 627,716 995,659 444,143 1,785,765
- -------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents, end of period $ 473,166 $ 2,875,912 $ 473,166 $ 2,875,912
- -------------------------------------------------------------------------------------------------------------------------
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE> 5
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements Schedule B
(Unaudited - Prepared by Management)
Six month period ended March 31, 1998
- --------------------------------------------------------------------------------
Digital Courier International Corporation was incorporated under the
Business Corporations Act (Alberta) on November 30, 1993 and commenced
operations when the Company acquired its business assets on November 15,
1995.
1. SIGNIFICANT ACCOUNTING POLICIES:
(a) Future operations:
These financial statements have been prepared on the going concern
basis, which assumes the realization of assets and payment of
liabilities in the normal course of business, and do not include
adjustments relating either to the realization of assets or the
settlement of liabilities that might be required should the Company be
unable to continue as a going concern.
The future operations of the Company are dependent upon its ability to
obtain the financing necessary to complete the development of its
intellectual property, and ultimately upon its ability to attain
profitable operations.
(b) Basis of presentation:
The accompanying financial statements for the six months ended March 31,
1998 and 1997 have been prepared by the Company without audit pursuant
to the rules and regulations of the Securities and Exchange Commission
("SEC") applicable to interim financial reporting and reflect, in the
opinion of management, all adjustments necessary to present fairly the
financial information of the Company. All adjustments are of a normal
and recurring nature. Certain information and disclosure normally
included in financial statements have been omitted as permitted by the
applicable rules and regulations of the SEC. These financial statements
should be read in conjunction with the financial statements for the
years ended September 30, 1997 and 1996.
These consolidated financial statements include the accounts of Digital
Courier International Corporation and its wholly-owned subsidiary
Digital Courier International Inc. ("DCI") (together the "Company"). All
significant intercompany accounts and transactions have been eliminated.
These consolidated financial statements may not be in accordance with
generally accepted accounting principles in Canada.
(c) Cash and cash equivalents:
Cash and cash equivalents include short-term investments with a maturity
of ninety days or less at the time of issue.
(d) Inventories:
Raw materials inventories are stated at the lower of cost, on a first
in, first out basis, or replacement cost.
(e) Capital assets:
<PAGE> 6
Capital assets are stated at cost. Assets under capital leases are
initially recorded at the present value of minimum lease payments at the
inception of the lease. Depreciation and amortization are provided on a
straight-line basis over the estimated useful lives of the assets as
follows:
<TABLE>
<S> <C>
Office equipment 3 years
Computer equipment 3 years
Network costs 5 years
Leasehold improvements Lease term
Assets under capital leases Lease term
</TABLE>
<PAGE> 7
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements, page 2 Schedule B
(Unaudited - Prepared by Management)
Six month period ended March 31, 1998
- --------------------------------------------------------------------------------
1. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED):
(f) Research and development:
The Company expenses all research and development costs as incurred with
the exception of certain development costs incurred prior to
commencement of or during initial commercial production of new products,
which are deferred. Should the Company determine that the unamortized
balance of deferrred costs is in excess of amounts that can reasonably
be recovered from the benefits of future sales, such excess will be
written off at that time.
(g) Intellectual property:
Intellectual property is stated at cost and is amortized on a
straight-line basis over the estimated useful life of the property being
three years.
(h) Translation of foreign currencies:
Revenue and expense items transacted in foreign currencies are reflected
in Canadian dollars at the rates prevailing at the time of the
transaction. Accounts payable and receivable in foreign currencies are
reflected in the financial statements in equivalent Canadian dollars at
the rate of exchange prevailing at the balance sheet date. Currency
gains and losses are included in the loss for the period.
(i) Loss per share:
Loss per share has been calculated using the weighted average number of
common shares outstanding during the period. Fully diluted loss per
share has not been presented as the effect on basic loss per share would
be anti-dilutive.
(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 amounts of assets and liabilities
and the disclosure of contingent assets and liabilities at the date of
the financial statements, and the reported amounts of revenues and
expenses during the period. For these financial statements, estimates
are particularly used in the assessment of the underlying value of
capital assets and intangible property, both of which are, at least in
part, dependent upon the business continuing to operate as a going
concern (note 1(a)). Actual results could differ from those estimates
used in the financial statements.
(l) Financial instruments:
(i) Fair value of financial instruments:
The carrying amount of cash and cash equivalents, accounts
receivable, receivable from lessor and accounts payable and
accrued liabilities approximates their fair value due to the
short-term maturity of these items.
<PAGE> 8
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements, page 3 Schedule B
(Unaudited - Prepared by Management)
Six month period ended March 31, 1998
- --------------------------------------------------------------------------------
1. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED):
(i) Fair value of financial instruments: (continued)
The fair market value of the long-term obligations under capital
leases, debentures and preferred shares, which is based upon
discounted cash flows, including interest payments, approximates
the carrying value reported in the balance sheet.
(ii) Foreign exchange risk:
Foreign exchange risk reflects the risk that the Company's
earnings will decline due to fluctuations in exchange rates.
Contracts billed in United States dollars by the Company come due
in the short term and, accordingly, the Company has determined
there is no significant exposure to foreign exchange fluctuations.
The Company does not have foreign exchange hedges in place at this
time.
(iii) Credit risk:
Credit risk reflects the risk that the Company may be unable to
recover contractual receivables. The Company has a significant
number of individual contracts and no one contract represents a
concentration of credit risk. The Company employs established
credit approval practices to further mitigate this risk.
2. LONG-TERM OBLIGATIONS UNDER CAPITAL LEASES:
The Company is obligated to make principal repayments under capital leases
during the fiscal years ended September 30 as follows:
<TABLE>
<S> <C>
1998 $3,478,109
1999 3,041,632
2000 658,029
2001 167,687
2002 19,773
=================================================================================
Minimum lease payments 7,365,230
Less amount representing interest at approximately 11% 822,587
- ---------------------------------------------------------------------------------
6,542,643
Current portion of obligations under capital lease 2,720,730
- ---------------------------------------------------------------------------------
$3,821,913
=================================================================================
</TABLE>
The capital leases are secured by a charge on all assets, property and
undertakings of the Company. Interest expense of $302,475 relating to capital
lease obligations has been included in interest on long-term debt.
In addition, Telecom Leasing Canada (TLC) Limited ("TLC") and the Company
have entered into an agreement to defer the principal portion of lease
payments for the months of December 1997 through May 1998. The principal
portion of the December 1997 to January 1998
<PAGE> 9
payments will be recapitalized over the remaining lease term of the existing
leases and the February 1998 to May 1998 principal amounts will be due and
payable June 1, 1998.
<PAGE> 10
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements, page 3 Schedule B
(Unaudited - Prepared by Management)
Six month period ended March 31, 1998
- --------------------------------------------------------------------------------
2. LONG-TERM OBLIGATIONS UNDER CAPITAL LEASES: (CONTINUED)
The Company must pay deferral fees for each month a principal payment is
deferred as follows:
<TABLE>
<S> <C>
January, 1998 $ 30,000
February, 1998 35,000
March, 1998 40,000
April, 1998 45,000
May, 1998 10,000
-----------------------------------------------
$ 160,000
-----------------------------------------------
</TABLE>
The deferral fees are due and payable on June 1, 1998.
On November 5, 1997 the Company issued 50,000 common shares at a price of
$1.85 to TLC as a fee for renegotiating the covenants and terms and
conditions of the capital leases.
3. DEBENTURES:
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------
Amount
- -------------------------------------------------------------------------------------------
<S> <C>
9% debenture with a face value of $3,000,000, issued to various shareholders $ 2,986,857
of the Company, interest is compounded and payable quarterly, debenture is
due and payable on October 1, 1998 or repayable at the option of the Company
at any time without penalty. Secured by a floating charge on all assets,
property and undertakings of the Company now owned or after acquired;
however, it is postponed and subordinated to the security interest granted
to the lessor for capital leases and each of the four debentures issued on
October 31, 1997 and December 24, 1997.
15% convertible debentures issued October 31, 1997, with a face value of 2,500,000
$2,500,000, to MPR Teltech Ltd. ("MPR") and CIBC, interest is payable upon
maturity, debenture is due and payable on June 1, 1998 or repayable at the
option of the Company at any time without penalty. Secured by a floating
charge on all assets, property and undertakings of the Company now owned or
after acquired; however, it is postponed and subordinated to the security
interest granted to the lessor for capital leases. (see note 7(b))
15% debentures issued December 24, 1997, with a face value of $2,500,000, to 1,890,000
MPR and CIBC, interest is payable upon maturity, debenture is due and
payable on June 1, 1998 or repayable at the option of the Company at any
time without penalty. Secured by a floating charge on all assets, property
and undertakings of the Company now owned or after acquired; however, it is
postponed and subordinated to the security interest granted to the lessor
for capital leases. These debentures have pari passu ranking to the
debentures issued October 31, 1997. (see note 7(a))
- -------------------------------------------------------------------------------------------
$ 7,376,857
- -------------------------------------------------------------------------------------------
</TABLE>
<PAGE> 11
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements, page 3 Schedule B
(Unaudited - Prepared by Management)
Six month period ended March 31, 1998
- --------------------------------------------------------------------------------
4. PREFERRED SHARES:
(a) Authorized:
Unlimited preferred shares issuable in series
Series 1 non-voting, redeemable and retractable
at $1 per share
(b) Issued and outstanding:
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------------
Number
of shares Amount
- ---------------------------------------------------------------------------
<S> <C> <C>
Series 1 preferred shares 2,000,000 $ 2,000,000
- ---------------------------------------------------------------------------
</TABLE>
(c) Redemption and retraction rights:
In the event of a liquidation or winding up of the Company, the holders
of the preferred shares, Series 1 are entitled to payment of the paid-up
amount, being $2,000,000. This must be paid in advance of any amounts
being paid to common shareholders.
The Company must redeem a portion of the preferred shares, Series 1, 30
days following the end of each financial quarter that they remain
outstanding. The aggregate redemption amount of the portion to be
redeemed equals 50% of the Company's gross margin for the quarter, as
defined in the preferred share conditions.
The Company may at any time redeem any or all of the preferred shares
for $1 per share in cash or, at the option of the shareholder, a number
of common shares equal to one-half of the preferred shares being
redeemed and the remaining half in cash.
The holders of the preferred shares, Series 1 may, at any time after
November 15, 1998, demand by notice in writing that the Company redeem
any or all of the shares for $1 per share. Payment of the retraction
price would be made, solely at the option of the holder, by issuing one
fully paid common share of the Company for each preferred share redeemed
or by paying cash, in twelve equal monthly instalments.
5. SHARE CAPITAL:
(a) Authorized: Unlimited common shares, no par value
<PAGE> 12
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements, page 4 Schedule B
(Unaudited - Prepared by Management)
Six month period ended March 31, 1998
- --------------------------------------------------------------------------------
5. SHARE CAPITAL (CONTINUED):
(b) Issued and outstanding:
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------
Number
of shares Amount
- -------------------------------------------------------------------------------------------
<S> <C> <C>
Balance at September 30, 1997 16,837,285 $15,040,866
Issued:
Issued in consideration for financing fee 50,000 92,500
Exercise of share purchase options for cash 3,7004,625
- -------------------------------------------------------------------------------------------
Balance at March 31, 1998 16,890,985 $15,137,991
- -------------------------------------------------------------------------------------------
</TABLE>
(c) Share purchase options:
The Company has a stock option plan for employees including officers and
employee directors and consultants of the Company which provides for
incentive options. While the Board of Directors determines the option
price, such option price cannot be less than the closing market value of
the common shares on the date of grant. The options generally expire
five years from the date of grant and are exercisable over the period
stated in each option.
Employee and director share purchase options outstanding at March 31,
1998 are as follows:
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------------------------
Price Number
Vesting date Expiry date per share of shares
- ---------------------------------------------------------------------------------------
<S> <C> <C> <C>
March 6, 1996 March 6, 2001 $1.25 341,816
March 6, 1997 May 6, 1999 $1.25 42,100
March 6, 1997 March 6, 2001 $1.25 20,500
March 6, 1997 March 6, 2001 $2.00 191,167
September 27, 1997 March 6, 2001 $3.00 191,167
September 27, 1997 March 6, 2001 $4.00 190,402
September 27, 1997 March 6, 2001 $5.00 185,448
March 13, 1997 March 12, 2002 $2.05 272,000
- ---------------------------------------------------------------------------------------
Total employee and director share purchase options 1,434,600
- ---------------------------------------------------------------------------------------
</TABLE>
During the period 5,500 employee share purchase options with an exercise
price of $1.25 expired.
(d) Other share purchase option:
<PAGE> 13
The Company has granted compensation options entitling the underwriters
associated with the February 14, 1997 offering the right to acquire up
to 74,900 shares at a price of $2.00 per share expiring February 14,
1999.
<PAGE> 14
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements, page 5 Schedule B
(Unaudited - Prepared by Management)
Six month period ended March 31, 1998
- --------------------------------------------------------------------------------
5. SHARE CAPITAL (CONTINUED):
(e) Warrants:
On September 30, 1996, the Company issued 200,000 common share purchase
warrants at a purchase price of $7.25 per common share to various
existing shareholders of the Company in conjunction with the issuance of
the $3,000,000 debenture (note 3). The warrants are exercisable at any
time after September 30, 1997 and prior to September 30, 1998.
(f) Loss per share:
Loss per share has been calculated based on the weighted average number
of shares outstanding for the six month period being 16,869,743 (1996 -
12,490,115).
(g) Escrow shares:
Pursuant to two escrow agreements among the Company, certain
shareholders and the Company's transfer agent, a total of 1,307,927
common shares are held in escrow subject to the following terms and
conditions:
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------
Shares
- --------------------------------------------------------------------------------------------
<S> <C>
Common shares held in escrow to be released, with the
consent of the Alberta Securities Commission, March 5, 1999 296,297
Common shares held in escrow to be released March 5, 1999 unless sooner
released upon the attainment of certain performance goals and consent
of the Alberta Stock Exchange 1,011,630
- --------------------------------------------------------------------------------------------
1,307,927
- --------------------------------------------------------------------------------------------
</TABLE>
Pursuant to the escrow agreements 1,307,924 common shares were released
from escrow on March 5, 1998
(h) Performance Incentive Plan:
The Company sold to employees of the Company an aggregate of 600,000
common shares at $0.05 per common share. The shares are held in a trust
to be distributed to each employee quarterly or repurchased by the
Company if the employee is terminated.
At March 31, 1998, the trust has distributed 394,820 of these shares to
employees. Subsequent to March 31, 1998 a further 24,285 common shares
were distributed from the trust to employees.
The Company has repurchased, to December 31, 1997, 11,400 shares from
the trust relating to employees that were terminated.
<PAGE> 15
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements, page 6 Schedule B
(Unaudited - Prepared by Management)
Six month period ended March 31, 1998
- --------------------------------------------------------------------------------
6. RELATED PARTY TRANSACTIONS:
(a) During the period, the Company was charged consulting fees of $75,080
for the six month period by companies related by virtue of common
directors and officers.
(b) The Company leases equipment from TLC, which is a subsidiary of BC
Telecom Inc.
(c) The Company paid to BC Tel, a subsidiary of BC Telecom Inc., $521,310
for the six month period for long distance services and rental of
telecom facilities.
7. SUBSEQUENT EVENT
(a) Supplemental debentures
The Company has drawn a further $97,500 from each of the debentures,
issued on December 24, 1997, for an aggregate funding of $2,085,000.
(b) Second Supplemental debenture:
On May 1, 1998 the Company issued an amendment to the second
supplemental debenture, dated October 31, 1997, to increase the
principal amount of the debentures issued to MPR from $1,250,000 to
$3,250,000, such increase to be advanced from time to time, at the sole
discretion of MPR.
The Company has drawn $500,000 from MPR under the addendum to the second
supplemental debenture.
(c) Receiver-Managership
On June 17, 1998 the Company's assets and operations were placed under
the control of a Receiver-Manager, Grant Thornton Limited, at the
request of a secured creditor. On July 15, 1998 the Receiver-Manager was
appointed by the Supreme Court of British Columbia to seek a sale of the
assets of the Company.
On September 24, 1998 the assets of the Company were sold to Digital
Generation Systems, Inc. for cash proceeds of $13,500,000. Subsequently
on October 16, 1998 the Company paid to Telecom Leasing (Canada) Limited
the sum of $9,421,104 representing settlement in full of amounts owing
under the lease arrangement (see note 2).
8. CONTINGENCY
(a) Patent Infringement
A Complaint was filed by a competitor in a U.S. District Court against
the Company alleging that the Company's digital audio distribution
system infringes on a U.S. patent owned by the competitor. The Company
has not been served with the complaint. Once served the Company intends
to defend against the claim vigorously, challenging the validity of the
patent. Management is of the opinion that the claim is without merit.
On July 27, 1998 the complaintant withdrew the statement of claim
without reason.
<PAGE> 16
(b) Supplier claim
A supplier to the Company has filed a complaint against the Company
claiming the Company has not fulfilled its obligations under an OEM
agreement. The amount of the claim is for $142,000 and other The Company
has recorded $130,000 of this obligation in its accounts.
9. UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES:
These financial statements have been prepared in accordance with Canadian
generally accepted accounting principles ("GAAP") which conform, in all
material respects, with those of the United States, except as described
below:
(a) Income taxes:
Under the asset and liability method of United States Statement of
Financial Accounting Standards No. 109 ("FAS 109"), deferred income tax
assets and liabilities are measured using enacted tax rates for the
future income tax consequences attributable to differences between the
financial statement carrying amount of existing assets and liabilities
and their respective tax bases. The application of the provisions of FAS
109 on the Company's balance sheet resulted in no net difference in
deferred taxes from that reported under Canadian GAAP as calculated net
deferred tax assets would be offset by a valuation allowance.
(b) Accounting for stock based compensation:
The Company has adopted Statement of Financial Accounting Standards No.
123, "Accounting for Stock-Based Compensation" ("FAS 123") which
requires stock based compensation be accounted for based on a fair value
methodology. As permitted by the statement, the Company has elected to
continue measuring compensation costs relating to stock options granted
to employees, management and directors using the intrinsic value based
method of accounting. Under the intrinsic value based method, employee
stock option compensation is the excess, if any, of the quoted market
value of the stock at the date of the grant over the amount an optionee
must pay to acquire the stock. Stock options issued to individuals other
than employees, management or directors would be recorded at their fair
market value.
Under the intrinsic value method, the total stock based compensation
expense to be recognized for the stock options granted on March 6, 1996
would have been approximately $6,100,000. Deferred Compensation would
be amortized to income over the service period of the stock options
as follows:
<TABLE>
<S> <C>
Year ended September 30, 1996 $ 3,984,000
Six months ended March 31, 1997 1,481,000
Six months ended September 30, 1997 635,000
- -------------------------------------------------------------------------
$ 6,100,000
- -------------------------------------------------------------------------
</TABLE>
As the exercise price of all other options approximate market value at
date of grant, the Company has determined that this accounting policy
has no effect, with respect to these other stock options, on its results
of operations.
<PAGE> 17
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements
(unaudited - Prepared by Management)
Six months ended March 31, 1998
- --------------------------------------------------------------------------------
9. UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (CONTINUED):
(c) Research and development:
During the year ended September 30, 1996, the Company acquired
intellectual property with an assigned value of $2,000,000 from its
parent company that has been recorded at the parent company's carrying
amount. However, under United States Statement of Financial Accounting
Standards No. 2 ("FAS 2") the parent would have been required to expense
the research and development as incurred. Accordingly, the parent's
carrying amount would be nil and the Company, under Staff Accounting
Bulletin No. 48, would record the intellectual property at nil.
In addition, $100,000 of deferred development costs which were
capitalized during the period ended September 30, 1996 would be expensed
immediately under AICPA Accounting Principle Board Opinion 17.
If the financial statements had been prepared in conformity with U.S.
GAAP, as a result of the accounting for acquired intellectual property
and deferred development costs, the amortization for the six months
ended March 31, 1998 would decrease by $400,002 (1997 - $350,003).
(d) Summary of U.S. GAAP adjustments:
The following table sets forth the effect on the loss for the period and
loss per share:
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------------------------------------
1998 1997
- ---------------------------------------------------------------------------------------------------
<S> <C> <C>
Loss determined under Canadian GAAP $ 5,940,417 $ 5,917,663
Expense relating to stock based compensation -- 1,481,000
Reduction of amortization of intellectual property
and deferred development costs (333,336) (350,003)
- ---------------------------------------------------------------------------------------------------
Loss determined under U.S. GAAP $ 5,607,081 $ 7,048,660
- ---------------------------------------------------------------------------------------------------
Weighted average number of shares outstanding 16,869,743 12,490,115
- ---------------------------------------------------------------------------------------------------
Loss per share $ 0.33 $ 0.56
- ---------------------------------------------------------------------------------------------------
</TABLE>
<PAGE> 18
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements
(unaudited - Prepared by Management)
Six months ended March 31, 1998
- --------------------------------------------------------------------------------
9. UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (CONTINUED):
(d) Summary of U.S. GAAP adjustments (continued):
The following table sets forth the effect on the balance sheet:
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------
1998 1997
- -------------------------------------------------------------------------------------------------------
<S> <C> <C>
Total assets determined under Canadian GAAP $ 8,623,199 $ 13,609,453
Decrease in intellectual property (416,659) (1,083,331)
Decrease in deferred development costs -- (83,333)
- -------------------------------------------------------------------------------------------------------
Total assets determined under U.S. GAAP $ 8,206,540 $ 12,442,789
- -------------------------------------------------------------------------------------------------------
Shareholders' equity (Deficiency in Assets)
determined under Canadian GAAP $ (9,543,167) $ (48,158)
Additional paid in capital for compensation expense 6,100,000 6,100,000
Deferred compensation -- (635,000)
Reduction of equity for decrease in
intellectual property (2,000,000) (2,000,000)
- -------------------------------------------------------------------------------------------------------
(5,443,167) 3,416,842
Increase in deficit under U.S. GAAP (4,516,659) (4,631,664)
- -------------------------------------------------------------------------------------------------------
Shareholders' deficiency in assets under U.S. GAAP (9,959,826) (1,214,822)
Current liabilities 12,344,453 8,127,462
Long-term obligations under capital leases 3,821,913 3,530,149
Preferred shares 2,000,000 2,000,000
- -------------------------------------------------------------------------------------------------------
Liabilities and Shareholders' equity under U.S. GAAP $ 8,206,540 $ 12,442,789
- -------------------------------------------------------------------------------------------------------
</TABLE>
(e) Statement of cash flows:
The following non-cash transactions would not be reflected as investing
and financing cash flows in a statement of cash flows under U.S. GAAP:
(i) Acquisition of assets through assumption of capital lease
obligations of $443,600 at March 31, 1998 (1997 - $2,362,091).
(ii) Application of deferred financing charges of $480,000 for the six
months ended March 31,1997 to share capital issued.
<PAGE> 19
DIGITAL COURIER INTERNATIONAL CORPORATION
Notes to Consolidated Financial Statements
(unaudited - Prepared by Management)
Six months ended March 31, 1998
- --------------------------------------------------------------------------------
9. UNITED STATES GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (CONTINUED):
(e) Statement of cash flows (continued):
As a result, cash flows from operating, financing and investing
activities under U.S. GAAP would be presented as follows:
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------
1998 1997
- ---------------------------------------------------------------------
<S> <C> <C>
Cash flows from:
Operating activities $(3,573,911) $(4,640,389)
Financing activities 4,319,624 4,593,364
Investing activities (716,690) 1,137,172
- ---------------------------------------------------------------------
$ 29,023 $ 1,090,147
</TABLE>
<PAGE> 1
EXHIBIT 7.3
DIGITAL GENERATION SYSTEMS, INC. AND DIGITAL COURIER INTERNATIONAL CORPORATION
CONDENSED PRO FORMA COMBINED BALANCE SHEETS
JUNE 30, 1998
(UNAUDITED)
(IN THOUSANDS)
<TABLE>
<CAPTION>
AUG CS
ADJUSTED PRIVATE
HISTORICAL DCIC IN US$ PRO FORMA PLACEMENT PRO FORMA
CONSOLIDATED HISTORICAL ADJ'S TO US AT $C1.418 ADJUSTMENTS & PS CONV- COMBINED
DG SYSTEMS(a) DCIC IN C$ GAAP IN C$ $US (n) IN $US ERSION (h) IN $US
------------- ---------- ----------- ---------- ----------- -------- ---------
<S> <C> <C> <C> <C> <C> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents 4,188 473 334 (9,130)(c) 11,450 6,508
(334)(d)
Short-term investments -- -- -- --
Accounts receivable, net 8,683 1,332 939 192 (d) 9,814
Prepaid expenses and other 557 111 78 (7)(d) 628
-------- -------- -------- -------- -------- -------- --------
Total current assets 13,428 1,916 1,351 (9,279) 11,450 16,950
-------- -------- -------- -------- -------- -------- --------
PROPERTY AND EQUIPMENT, at cost:
Network equipment 31,112 11,412 8,048 (5,724)(e) 33,436
Office furniture and equipment 3,082 1,132 798 (329)(e) 3,551
Leasehold improvements 555 175 123 (123)(e) 555
-------- -------- -------- -------- -------- -------- --------
34,749 12,719 8,970 (6,176) 37,543
Less - Accumulated depreciation
and amortization (21,357) (6,428) (4,533) 4,533 (e) (21,357)
-------- -------- -------- -------- -------- -------- --------
Property and equipment, net 13,392 6,291 4,437 (1,643) 16,186
-------- -------- -------- -------- -------- -------- --------
GOODWILL AND OTHER ASSETS, net 25,088 416 (416)(k) 0 5,134 (d) 30,222
-------- -------- -------- -------- -------- -------- --------
51,908 8,623 (416) 5,788 (5,788) 11,450 63,358
======== ======== ======== ======== ======== ======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable 3,020 518 365 (365)(f) 3,020
Accrued liabilities 3,964 1,728 1,219 (1,219)(f) 3,964
Lines of credit 1,672 -- -- 1,672
Current portion of long-term debt 7,915 10,098 7,121 (7,121)(f) 7,915
-------- -------- -------- -------- -------- -------- --------
Total current liabilities 16,571 12,344 8,705 (8,705) 16,571
-------- -------- -------- -------- -------- -------- --------
LONG-TERM DEBT, net of current portion 12,025 3,822 2,695 (2,695)(f) 12,025
-------- -------- -------- -------- -------- -------- --------
SHAREHOLDERS' EQUITY:
Preferred stock 31,561 2,000 1,410 (1,410)(f) (31,561) 0
Common stock 57,208 15,138 10,676 (10,676)(f) 45,901 103,109
Paid in capital -- 6,100 (j) 4,302 (4,302)(f) (0)
Receivable from issuance of
common stock (175) -- -- (1,250) (1,425)
Accumulated deficit (65,282) (24,681) (2,000)(k) (22,001) 22,001 (f) (1,640) (66,922)
(4,516)(l) --
-------- -------- -------- -------- -------- -------- --------
Total shareholders' equity 23,312 (7,543) (416) (5,613) 5,613 11,450 34,762
-------- -------- -------- -------- -------- -------- --------
51,908 8,623 (416) 5,788 (5,788) 11,450 63,358
======== ======== ======== ======== ======== ======== ========
</TABLE>
See accompanying notes to the condensed pro forma combined financial statements.
<PAGE> 2
DIGITAL GENERATION SYSTEMS, INC. AND DIGITAL COURIER INTERNATIONAL CORPORATION
CONDENSED PRO FORMA COMBINED STATEMENT OF OPERATIONS
FOR THE SIX MONTHS ENDED JUNE 30, 1998
(UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
HISTORICAL DCIC
HISTORICAL ADJ'S TO W/GAAP ADJ'S PRO FORMA PRO FORMA
CONSOLIDATED HISTORICAL US GAAP @ 1$US TO ADJUSTMENTS COMBINED
DG SYSTEMS(a) DCIC IN $C IN $ CANADIAN $C1.420(o) IN US$ IN US$
------------- ---------- ------------- -------------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C>
REVENUES $ 19,971 $ 2,055 $ 1,447 $ 21,418
-------- -------- ------ -------- ----- ---------
COSTS AND EXPENSES:
Delivery and material costs 7,412 2,385 (i) 1,680 9,092
Customer operations 7,043 675 (i) 475 7,518
Sales and marketing 2,499 562 396 2,895
Research and development 1,189 399 281 1,470
General and administrative 2,043 849 598 2,641
Depreciation and amortization 5,713 2,225 (333)(k) 1,332 128 (g) 7,174
Stock compensation expense 1,058 (j) 745 745
-------- -------- ------ -------- ----- ---------
Total expenses 25,900 7,095 725 5,508 128 31,536
-------- -------- ------ -------- ----- ---------
INCOME/(LOSS) FROM OPERATIONS (5,929) (5,040) (725) (4,061) (128) (10,118)
OTHER INCOME (EXPENSE):
Other expense (149) (105) (105)
Interest income 114 - - 114
Interest expense (1,407) (751) (529) 529 (m) (1,407)
-------- -------- ------ -------- ----- ---------
NET INCOME (LOSS) $ (7,222) $ (5,940) $ (725) $ (4,695) $ 401 $ (11,516)
======== ======== ====== ======== ===== =========
NET LOSS PER SHARE $ (0.59) $ (0.35) $ (0.28) $ (0.94)
======== ======== ====== ======== ===== =========
WEIGHTED AVERAGE COMMON SHARES 12,196 16,870 16,870 12,196
======== ======== ====== ======== ===== =========
</TABLE>
See accompanying notes to the condensed pro forma combined financial statements.
<PAGE> 3
DIGITAL GENERATION SYSTEMS, INC. AND DIGITAL COURIER INTERNATIONAL CORPORATION
CONDENSED PRO FORMA COMBINED STATEMENT OF OPERATIONS
FOR THE TWELVE MONTHS ENDED DECEMBER 31, 1997
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
HISTORICAL
STARCOM HISTORICAL PRO PRO
HISTORICAL MEDIATECH, PRO FORMA DCIC W/ FORMA FORMA
CONSOL- AND PRO CONSOL- ADJ'S TO GAAP ADJ'S ADJUST- COMBINED
IDATED DG FORMA IDATED HISTORICAL US GAAP IN @ 1$US TO MENTS IN
SYSTEMS(b) ADJUSTMENTS DG SYSTEMS DCIC IN $C $ CANADIAN $C1.370(p) IN $US US$
---------- ----------- ---------- ---------- ---------- ---------- ------ ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
REVENUES $ 29,175 $ 11,946 $ 41,121 $ 3,070 $ 2,241 $ 43,362
--------- -------- --------- --------- -------- -------- ----- ---------
COSTS AND EXPENSES:
Delivery and material costs 11,334 5,949 17,283 3,567 (i) 2,604 19,887
Customer operations 11,388 4,030 15,418 1,522 (i) 1,111 16,529
Sales and marketing 4,417 514 4,931 1,471 1,074 6,005
Research and development 2,473 111 2,584 1,103 805 3,389
General and administrative 3,169 678 3,847 2,106 1,537 5,384
Depreciation and amortization 9,306 1,633 10,939 4,030 (767)(k) 2,382 257 (g) 13,578
Stock compensation expense - - 2,116 (j) 1,545 1,545
Restructuring expense - 323 323 - 323
--------- -------- --------- --------- -------- -------- ----- ---------
Total expenses 42,087 13,238 55,325 13,799 1,349 11,057 257 66,639
--------- -------- --------- --------- -------- -------- ----- ---------
INCOME/(LOSS) FROM OPERATIONS (12,912) (1,292) (14,204) (10,729) (1,349) (8,816) (257) (23,277)
OTHER INCOME (EXPENSE):
Other income (expense) 71 71 (39) (28) 43
Interest income 744 - 744 744
Interest expense (2,607) (418) (3,025) (1,019) (744) 744 (m) (3,025)
--------- -------- --------- --------- -------- -------- ----- ---------
NET INCOME (LOSS) $ (14,775) $ (1,639) $ (16,414) $ (11,787) $ (1,349) $ (9,588) $ 487 $ (25,515)
========= ======== ========= ========= ======== ======== ===== =========
NET LOSS PER SHARE $ (2.52) $ (2.65) $ (0.79) $ (0.64) $ (3.42)
========= ========= ========= ======== ======== ===== =========
WEIGHTED AVERAGE COMMON SHARES 11,893 11,893 14,953 14,953 11,893
========= ========= ========= ======== ======== ===== =========
</TABLE>
See accompanying notes to the condensed pro forma combined financial statements.
<PAGE> 4
DIGITAL GENERATION SYSTEMS, INC. AND DIGITAL COURIER INTERNATIONAL CORPORATION
NOTES TO CONDENSED PROFORMA COMBINED FINANCIAL STATEMENTS
(a) Historical Consolidated Digital Generation Systems ("DG") balances
and operating results for the period ended June 30, 1998 include the
balances and the operating results of Starcom Mediatech, Inc.
(b) Historical Consolidated DG balances and operating results for the
twelve months ended December 31, 1997, include the balances and the
operating results of Starcom Mediatech, Inc. for the six months ended
December 31, 1997.
(c) Represents cash used to fund the purchase of substantially all the
property and assets of Digital Courier International, Inc. ("DCI" or
"DCI acquisition") from Digital Courier International Corporation
("DCIC"). The total includes a purchase price of $9.06 million plus
and an additional $70,000 for deal costs, primarily legal and other
professional fees.
(d) Represents adjustment for reduction of value of assets purchased by
DG to their fair value at September 25, 1998.
(e) Represents adjustment to DCI's fixed assets to their net book value
at September 25, 1998, which approximates their fair value at
that date.
(f) Liabilities and shareholders' equity were not included as part of
DG's purchase.
(g) Estimated net increase in amortization of the excess of cost over
fair value of the net assets acquired assuming the acquisition had
taken place on the first day of the fiscal year period presented.
Excess of cost over fair value of net assets acquired is being
amortized by the straight-line method over twenty years.
(h) As the cash used to fund the acquisition was derived principally from
the private placement completed after June 30, 1998, the pro forma
effect of this transaction and the related conversion of preferred
stock are included in this analysis. In August 1998 DG sold 4.6
million shares of the Company's common stock in a private placement,
and converted all of the Company's Preferred Stock outstanding at
June 30, 1998 to Common Stock at a ratio of 1.1 shares of common
stock for each share of preferred stock. See Company's Report on Form
10-Q filed August 14, 1998.
(i) DCI'S delivery and material costs and customer operations have been
reclassed to conform to DG's presentation.
(j) Represents adjustment from Canadian GAAP to US GAAP for recognizing
expense related to stock based compensation.
(k) Represents adjustment from Canadian GAAP to US GAAP for reduction of
amortization of intellectual property which would have been expensed
as incurred under US GAAP.
(l) Represents adjustment to accumulated deficit under US GAAP.
(m) Adjustment to eliminate interest expense incurred as a result of debt
which was not assumed by DG in the acquisition.
(n) Rate represents exchange rate in effect on March 31, 1998, between
Canadian $ and US$.
<PAGE> 5
(o) Rate represents the average monthly exchange rate in effect between
Canadian$ and US$ for the six months ended March 31, 1998.
(p) Rate represents the average monthly exchange rate in effect between
Canadian$ and US$ for the twelve months ended September 30, 1997.
