U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
(MARK ONE)
|X| Quarterly report under Section 13 or 15(d) of the Securities
Exchange Act of 1934 For the quarterly period ended March 31,
2000
| | Transition report under Section 13 or 15(d) of the Exchange Act
Commission File No. 1-11873
K2 DESIGN, INC.
(Exact Name of Small Business Issuer as Specified in Its Charter)
Delaware
(State or Other Jurisdiction of
Incorporation or Organization)
13-3886065
(I.R.S. Employer
Identification Number)
30 Broad Street, 16th Floor
New York, New York 10004
(Address of Principal Executive Offices)
(212) 301-8800
(Issuer's Telephone Number, Including Area Code)
Check whether the issuer: (1) filed all reports required by Section 13 or 15(d)
of the Exchange Act during the past 12 months (or for such shorter period that
the registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days.
Yes /x/ No / /
APPLICABLE ONLY TO CORPORATE ISSUERS:
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date:
Class Outstanding at May 5, 2000
----- --------------------------
Common stock, par value $.01 per share 3,359,818
Common stock redeemable purchase warrants 1,000,000
Transitional Small Business Disclosure Format (check one):
Yes / / No /x/
K2 DESIGN, INC. AND SUBSIDIARY
INDEX
Page
PART 1 - FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated balance sheet - March 31, 2000 (unaudited)...........................................1
Consolidated statements of operations - three months ended
March 31, 2000 (unaudited) and March 31, 1999 (unaudited).....................................2
Consolidated statements of cash flows - three months ended
March 31, 2000 (unaudited) and March 31, 1999 (unaudited).....................................3
Notes to consolidated financial statements ......................................................4
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations............6
PART II - OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K................................................................10
SIGNATURES..............................................................................................11
PART I
FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
K2 DESIGN, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEET
MARCH 31, 2000
(unaudited)
ASSETS
CURRENT ASSETS:
Cash & cash equivalents $ 2,321,994
Accounts receivable, net of allowance for doubtful accounts of $100,000 845,850
Unbilled revenue 1,285,199
Prepaid expenses and other current assets 83,858
Investment in securities available for sale 4,345,000
-----------
Total current assets 8,881,901
FIXED ASSETS, net 640,468
RESTRICTED CASH 150,711
OTHER ASSETS 1,250
-----------
Total assets 9,674,330
===========
LIABILITIES & STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Current portion of capital lease obligations $ 28,712
Accounts payable 435,539
Accrued compensation & payroll taxes 69,926
Accrued expenses 755,716
Customer advances 63,333
-----------
Total current liabilities 1,353,226
DEFERRED TAX LIABILITY 1,165,130
LONG-TERM CAPITAL LEASE OBLIGATIONS 34,078
-----------
Total liabilities 2,552,434
STOCKHOLERS' EQUITY:
Preferred Stock, $0.01 par value, 1,000,000 shares authorized;
0 shares issued and outstanding -
Common Stock, $0.01 par value 9,000,000 shares authorized;
3,773,485 shares issued and 3,356,068 shares outstanding 37,735
Treasury Stock, 417,417 shares at cost (819,296)
Additional paid-in capital 7,062,923
Accumulated other comprehensive income 1,747,696
Accumulated deficit (907,162)
-----------
Total stockholders' equity 7,121,896
-----------
Total liabilities & stockholders' equity $ 9,674,330
===========
See Notes to Consolidated Financial Statements
1
K2 DESIGN, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
Three Months Ended
March 31,
2000 1999
---- ----
(unaudited) (unaudited)
----------- -----------
Gross revenues $ 1,933,010 $ 1,444,063
Less: Pass-through costs (444,162) (976,416)
----------- ------------
Net revenues 1,488,848 467,647
Direct salaries and costs 885,078 436,475
Selling, general and administrative expenses 857,100 632,544
Depreciation 79,417 96,010
Loss from operations before interest & other ----------- ------------
income, net and income taxes (332,747) (697,382)
Interest and other income, net 41,634 25,226
Provision for income taxes 4,120 9,325
----------- ------------
Net loss $ (295,233) $ (681,481)
=========== ============
Net loss per share -
Basic and diluted $ (0.09) $ (0.20)
----------- ------------
Weighted average basic common shares outstanding 3,346,874 3,459,205
=========== ============
See Notes to Consolidated Financial Statements
2
K2 DESIGN, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
Three Months Ended
March 31,
2000 1999
---- ----
(unaudited) (unaudited)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (295,233) $ (681,481)
Adjustments to reconcile net loss to net cash used in
Operating activities -
Noncash compensation expense 143,683 $ 43,434
Depreciation 79,417 96,010
Changes in -
Accounts receivable, net 79,714 (75,686)
Prepaid expenses and other current assets (7,863) 17,374
Unbilled revenue (612,609) (154,749)
Other assets 2,882 3,941
Accounts payable (41,608) (405,007)
Accrued compensation and payroll taxes (43,996) 20,233
Other accrued expenses 208,447 (151,617)
Deferred revenue and customer advances - 53,141
------------ -----------
Net cash used in operating activities (487,166) (1,234,407)
------------ -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of equipment
(131,831) (12,755)
------------ -----------
Net cash provided by investing activities (131,831) (12,755)
------------ -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Principal payments on capital lease obligations (7,178) (7,995)
Options exercised for cash 11,251 -
------------ -----------
Net cash provided by (used in) financing activities 4,073 (7,995)
------------ -----------
Net decrease in cash
And cash equivalents (614,924) (1,255,157)
CASH AND CASH EQUIVALENTS, beginning of period 2,936,918 2,829,628
------------ -----------
CASH AND CASH EQUIVALENTS, end of period $ 2,321,994 $ 1,574,471
============ ===========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the period for -
Interest $ 660 $ 4,440
Income taxes $ 4,120 $ 23,125
Non cash investing activities -
Assets acquired under capital lease obligations $ - $ 37,255
Investment in restricted securities, at cost $ - $ 2,558,300
See Notes to Consolidated Financial Statements
3
K2 DESIGN, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
March 31, 2000
1 ORGANIZATION AND BUSINESS
K2 Design, Inc. ("K2" or the "Company") commenced operations on March 1, 1993 as
a partnership. In January 1995 the Partnership contributed its capital into a
newly formed corporation and elected S Corporation status.
Effective January 1, 1996, the Company was reorganized as a Delaware C
corporation having a wholly owned operating subsidiary incorporated in New York.
The Company is authorized to issue 9,000,000 shares of common stock, par value
$.01 per share, and 1,000,000 shares of preferred stock, par value $.01 per
share.
K2 is a strategic Internet services firm specializing in business consulting,
development and design related to digital communications.
2. BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements have been
prepared by the Company and reflect all adjustments, consisting of only normal
recurring adjustments, which are, in the opinion of management, necessary for a
fair presentation of financial results for the three months ended March 31,
2000, in accordance with generally accepted accounting principles for interim
financial statements and pursuant to Form 10-QSB and Regulation S-B. Certain
information and footnote disclosures normally included in the Company's annual
audited consolidated financial statements have been condensed or omitted
pursuant to such rules and regulations.
The results of operations for the three months ended March 31, 2000 are not
necessarily indicative of the results of operations to be expected for a full
fiscal year. These interim condensed consolidated financial statements should be
read in conjunction with the audited consolidated financial statements for the
fiscal year ended December 31, 1999, which are included in the Company's Annual
Report on Form 10-KSB filed with the Securities and Exchange Commission.
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and revenues and expenses during the
reporting periods. Actual results may differ from those estimates.
3. NET LOSS PER SHARE OF COMMON STOCK
SFAS 128, "Earnings per Share," establishes standards for computing and
presenting earnings per share (EPS). The standard requires the presentation of
basic EPS and diluted EPS. Basic EPS is calculated by dividing income available
to common stockholders by the weighted average number of shares of common stock
outstanding during the period. Diluted EPS is calculated by dividing income
available to common stockholders by the weighted average number of shares of
common stock outstanding adjusted to reflect potentially dilutive securities.
4
In accordance with SFAS 128, the following table reconciles net loss and share
amounts used to calculate basic and diluted loss per share:
Three Months Ended
March 31,
2000 1999
---- ----
(unaudited)
Numerator: Net loss $ (295,233) $ (681,481)
Denominator: Weighted average number of common shares outstanding - basic 3,346,874 3,459,205
and diluted
Net loss per share - Basic and diluted $ (0.09)** $ (0.20)**
**Excludes outstanding stock options as of March 31, 2000 and March 31, 1999, as
they are antidilutive.
The stockholders of the Company will be voting on an amendment to increase the
number of shares of common stock subject to stock options issuable under the
Company's 1997 Stock Incentive Plan at the Company's 2000 Annual Meeting of
Stockholders on June 1, 2000. If approved by the stockholders, 800,000
additional shares of common stock would be available for issuance under such
plan.
4. INVESTMENT IN SECURITIES
As of March 31, 2000, the Company held 110,000 shares of common stock of 24/7
Media Inc. These shares have been classified as "investments in securities
available for sale" as a result of the Company's ability and intent to sell such
shares in the near future. In accordance with SFAS No. 115, the shares are
stated at fair market value on the Company's March 31, 2000 consolidated balance
sheet. The unrealized holding gain is reflected as "other comprehensive income"
in the stockholders' equity section of the balance sheet, net of the related
"deferred tax liability."
The following disclosures are presented in accordance with SFAS No. 115:
Equity Securities:
Aggregate fair market value $4,345,000
Gross unrealized holding gain $2,912,825
The Company did not sell any shares of capital stock of 24/7 Media Inc. during
the quarter ended March 31, 2000.
5
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following presentation of management's discussion and analysis of the
Company's financial condition and results of operations should be read in
conjunction with the Company's Consolidated Financial Statements, the
accompanying notes thereto and other financial information appearing elsewhere
in this Report. This section and other parts of this Report contain
forward-looking statements that involve risks and uncertainties. The Company's
actual results may differ significantly from the results discussed in the
forward-looking statements. Readers are encouraged to review "Factors Affecting
Operating Results and Market Price of Stock" commencing on page 11 of the
Company's 1999 Annual Report on Form 10-KSB for a discussion of certain of these
risks and uncertainties.
RESULTS OF OPERATIONS
General
The Company works with clients to develop strategies for using new and emerging
technologies to help the clients build one-to-one relationships with their
customers, employees and vendors. Through the strategic and technical expertise,
media knowledge, and creative talent of the Company's team of employees, the
Company assists its clients in achieving a favorable return-on-investment from
digital channels of e-commerce, information, customer support, advertising and
entertainment. These channels include Web sites, transmission of broadband
content, intranets, extranets, online media, and wireless appliances.
The Company currently provides its clients with a range of services, including:
qualitative and quantitative research, usability labs to test graphical user
interfaces, navigation, functionality and systems, positioning studies for
online branding, strategic planning, e-commerce planning, business process
reengineering, online media planning and buying, proprietary media partnerships,
marketing strategies, Web design, creative services for online advertising
(e.g., banners, rich media, interstitials), technical strategies, requirements
specifications and programming.
Revenues are recognized on a percentage of completion basis. Provisions for any
estimated losses on uncompleted projects are made in the period in which such
losses are determinable. Most of the Company's revenues have been generated on a
fixed fee or cap fee basis. The Company also provides ongoing services to
certain customers.
While the Company considers the presentation of gross revenues to be
appropriate, as a result of the Company assuming the economic risk related to
reimbursable expenses, such as pass-through media costs, the Company has elected
to present net revenues in its statement of operations, because they are
representative of the Company's fee-based strategic and process consulting and
development services, which are at the core of the current business model. Net
revenues represents gross revenues, less reimbursable expenses, such as media
pass-through costs. The Company's operating results discussed herein are not
necessarily representative of future periods.
6
Percentage of Net Revenues for the Three
Months Ended March 31,
2000 1999
---- ----
(unaudited) (unaudited)
Net Revenues: 100.00% 100.0%
Operating Expenses:
Direct salaries and costs 59.4% 93.3%
Selling, general and administrative 57.6% 135.3%
Depreciation 5.3% 20.5%
Total operating expenses 122.3% 249.1%
Loss from continuing operations before interest (22.3)% (149.1)%
and other income, net, and income taxes
Interest and other income, net 2.8% 5.4%
Loss before income tax provision (19.5)% (143.7)%
Provision for income taxes 0.3% 2.00%
Net loss (19.8)% (145.7)%
Revenues
Net revenues consist of gross revenues less pass-through expenses such as media
placement costs. Net revenues for the three months ended March 31, 2000 and 1999
were approximately $1,489,000 and $468,000, respectively, or an increase of
approximately 218%. This increase in net revenues was primarily attributable to
new clients during the three months ended March 31, 2000 as compared to the
three months ended March 31, 1999. Net revenues for the three months ended March
31, 2000 represented an increase of $152,000 or 11% over net revenues of
$1,337,000 for the three months ended December 31, 1999. These increases in both
year-to-year periods and sequential quarters reflect the acquisition of new
clients, such as Hewlett-Packard and WorldCom, and deepening engagements with
existing clients. During the three months ended March 31, 2000, the two largest
net revenue producing clients, accounted for approximately 60% and 27%,
respectively, of the Company's net revenues. During the three months ended March
31, 1999, the largest two net revenue producing clients accounted for
approximately 35% and 11%, respectively, of the Company's net revenues.
Accordingly, although the Company has increased its efforts to maintain and
enhance client relationships, loss of major clients without a comparable
replacement could cause quarterly results to fluctuate and could have a material
adverse effect on the Company's financial condition. See "Fluctuations in
Quarterly Operating Results."
Direct Salaries and Costs
Direct salaries and costs include all direct labor costs and other direct costs
related to project performance, such as independent contractors, supplies, and
printing and equipment costs, less any reimbursed expenses. As a percentage of
net revenues, direct salaries and costs decreased for the three months ended
March 31, 2000 as compared to the same period in 1999. This decrease is due to
the increased net revenues in the 2000 period as compared to the 1999 period,
partly offset by increased direct salaries and costs during the 2000 period.
Direct salaries and costs increased by approximately $449,000 to approximately
$885,000 for the 2000 quarter from approximately $436,000 for the 1999 quarter.
In the 2000 period, direct salaries and costs primarily consisted of
approximately $626,000 paid as direct salary costs and $207,000 paid as
independent contractor costs. In the 1999 period, direct salaries and costs
primarily consisted of approximately $417,000 paid as direct salary costs and
approximately $35,000 paid as independent contractor costs. Gross profit, which
is net revenues less direct salaries and costs, totaled $604,000 for the period
ending March 31, 2000 as compared to $31,000 for the same period in 1999,
resulting in a gross margin of 40.6% and 6.7%, respectively.
7
Selling, General and Administrative Expenses
Selling, general and administrative expenses for the three months ended March
31, 2000 and 1999 were approximately $857,000 and $633,000, respectively, and
consisted primarily of labor costs, professional fees, occupancy costs, and
non-cash compensation expense and recruitment costs. The Company's selling,
general and administrative costs have increased due to increased compensation
costs, recruitment costs and non-cash compensation expense. Non-cash
compensation charges totalled $144,000 for the period ending March 31, 2000.
Depreciation
Depreciation expense was approximately $79,000 and $96,000 in the three months
ended March 31, 2000 and 1999, respectively, and related to depreciation of
equipment, furniture and fixtures, and leasehold improvements. The Company's
depreciation expenses in 2000 have decreased as a result of previous purchases
of computer and office equipment becoming fully depreciated.
Income Taxes
As of March 31, 2000, the Company had an accumulated deficit of $(907,000). The
provision for income taxes consists of minimum statutory taxes due.
Operating Loss
The operating loss for the three months ended March 31, 2000 was $333,000 as
compared to an operating loss of $697,000 for the three months ended March 31,
1999. Contributing to the operating loss for the three months ended March 31,
2000 were increases in direct labor and selling, general and administrative
costs, which include non-cash compensation charges of $144,000. However, the
operating loss for the three months ended March 31, 2000 represented a decrease
of $364,000 or 52% from the operating loss of $697,000 for the three months
ended March 31, 1999.
Fluctuations in Quarterly Operating Results
Quarterly revenues and operating results have fluctuated and will fluctuate as a
result of a variety of factors. These factors, some of which may be managed by
the Company and some of which are beyond the Company's control, include the
timing of the completion, material reduction or cancellation of major projects,
the loss of a major customer or the termination of a relationship with a channel
source, the timing of the receipt of new business, the timing of the hiring or
loss of personnel, changes in the pricing strategies and business focus of the
Company or its competitors, capital expenditures, operating expenses and other
costs relating to the expansion of operations, general economic conditions and
acceptance and use of the Internet.
8
Liquidity and Capital Resources
The Company's cash balance of $2,322,000 at March 31, 2000, has decreased by
$615,000 or 21% as compared to the $2,937,000 cash balance at December 31, 1999.
This decrease is primarily due to a $613,000 increase in unbilled revenue at
March 31, 2000, compared to unbilled revenue at December 31, 1999. The increase
in unbilled revenue resulted from the delayed billing of one of the Company's
material clients due to internal review of the contract governing the services
provided to this client. The review process has been completed and the client
has been billed.
The Company is dependent on its current cash and investment securities, together
with cash generated by operations for working capital in order to be
competitive, to meet the increasing demands of service, quality and pricing and
for the expansion of its business. While the Company believes that its cash
position together with cash expected to be generated by operations will be
sufficient to finance its operations for at least one year, the Company may
nevertheless require future financing in order to satisfy its working capital
needs, and such financing may be unavailable or prohibitively expensive.*
Accordingly, the Company may not have the funds to relieve any liquidity
problems, should they arise, or to finance any expansion of its business.
Net cash used in the Company's operating activities was $487,000 for the three
months ended March 31, 2000 and related primarily to an increase in unbilled
revenue and decreases in accounts payable and accrued compensation and payroll
taxes, offset by an increase in other accrued expenses payable, as indicated in
the statement of cash flows.
For the three months ended March 31, 2000, the Company spent approximately
$132,000 on capital expenditures, consisting of computer equipment, furniture,
fixtures and leasehold improvements.
- --------
* This statement is a forward-looking statement reflecting current expectations.
There can be no assurance that the Company's actual future performance will meet
the Company's current expectations. See "Factors Affecting Operating results and
Market Price of Stock" contained in the Company's Annual Report on Form 10-KSB
for the fiscal year ended December 31, 1998 for a discussion of the risks and
uncertainties which may affect this statement.
9
PART II
OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits:
Exhibit 10.1 - Employment contract of Gary W. Brown
Exhibit 10.2 - Restricted stock agreement of Gary W. Brown
Exhibit 10.3 - Amendments to employment contract of Matthew G. de Ganon
Exhibit 27.1 - Financial Data Schedule (Edgar filing only)
(b) Reports on Form 8-K:
The Company filed a Current Report on Form 8-K with the Securities and
Exchange Commission on April 28, 2000 reporting the election of Gary W.
Brown as a director and officer of the Company.
10
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant has
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
K2 DESIGN, INC.
Date: May 15, 2000 By: /s/ Lynn Fantom
--------------------------------------------
Lynn Fantom
Chief Executive Officer and President
By: /s/ Seth Bressman
--------------------------------------------
Seth Bressman
Chief Financial Officer
(Principal Financial and Accounting Officer)
11