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As filed with the Securities and Exchange Commission on June 21, 1999.
File No. 333-
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM S-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
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FREESHOP.COM, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
WASHINGTON 7310 91-1809146
(STATE OR JURISDICTION OF (PRIMARY STANDARD INDUSTRIAL (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) CLASSIFICATION CODE NUMBER) IDENTIFICATION NO.)
95 SOUTH JACKSON STREET EVERGREEN CORPORATE SERVICES, INC.
SUITE 300 31635 36TH AVENUE S.W.
SEATTLE, WASHINGTON 98104 FEDERAL WAY, WASHINGTON 98023-2105
(206) 441-9100 (253) 925-9044
(ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE (NAME, ADDRESS, INCLUDING ZIP CODE, AND
NUMBER TELEPHONE NUMBER,
INCLUDING AREA CODE, OF REGISTRANT'S PRINCIPAL INCLUDING AREA CODE, OF AGENT FOR SERVICE)
EXECUTIVE OFFICES)
COPIES TO:
CHRISTOPHER J. BARRY STEPHEN M. GRAHAM
BRYCE L. HOLLAND, JR. PERKINS COIE LLP
DORSEY & WHITNEY LLP 1201 THIRD AVENUE, 48TH FLOOR
U.S. BANK CENTRE, SUITE 4200 SEATTLE, WASHINGTON 98101
1420 FIFTH AVENUE (206) 583-8888
SEATTLE, WASHINGTON 98101
(206) 903-8800
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC:
As soon as practicable after this Registration Statement becomes effective.
If any of the securities being registered on this Form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act,
check the following box. [ ]
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, check the following box and
list the Securities Act registration statement number of the earlier effective
registration statement for the same offering. [ ]
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If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ]
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If this Form is a post-effective amendment filed pursuant to Rule 462(d)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ]
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If delivery of the prospectus is expected to be made pursuant to Rule 434,
please check the following box. [X]
CALCULATION OF REGISTRATION FEE
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TITLE OF EACH CLASS OF SECURITIES PROPOSED MAXIMUM
TO BE REGISTERED AGGREGATE OFFERING PRICE(1) AMOUNT OF REGISTRATION FEE
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Common Stock, no par value........... $46,000,000 $12,788
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(1) Pursuant to Rule 457(a), the proposed maximum aggregate offering price is
estimated solely for the purpose of calculating the registration fee.
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF THE
SECURITIES ACT OF 1933 OR UNTIL THIS REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(A),
MAY DETERMINE.
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The information in this prospectus is not complete and may be changed. We may
not sell these securities until the registration statement filed with the
Securities and Exchange Commission is effective. This prospectus is not an offer
to sell these securities and we are not soliciting an offer to buy these
securities in any state where the offer or sale is not permitted.
SUBJECT TO COMPLETION , 1999
FREESHOP LOGO
SHARES
COMMON STOCK
This is the initial public offering of FreeShop.com, Inc. and we are offering
shares of our common stock. We anticipate that the initial public
offering price will be between $ and $ per share.
We have applied to list our common stock on the Nasdaq National Market under the
symbol "FSHP."
INVESTING IN OUR COMMON STOCK INVOLVES RISKS. SEE RISK FACTORS BEGINNING ON PAGE
7.
NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE SECURITIES
COMMISSION HAS APPROVED OR DISAPPROVED OF THESE SECURITIES OR PASSED UPON THE
ADEQUACY OR ACCURACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
UNDERWRITING
PUBLIC OFFERING DISCOUNTS AND PROCEEDS TO
PRICE COMMISSIONS FREESHOP
Per Share $ $ $
Total $ $ $
We have granted the underwriters the right to purchase up to
additional shares to cover any over-allotments.
DEUTSCHE BANC ALEX. BROWN
DAIN RAUSCHER WESSELS
A DIVISION OF DAIN
RAUSCHER INCORPORATED
VOLPE BROWN WHELAN & COMPANY
The date of this prospectus is , 1999
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( DESCRIPTION OF INSIDE COVER COLOR ARTWORK TO BE FILED BY AMENDMENT )
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PROSPECTUS SUMMARY
You should read the following summary together with the more detailed
information and financial statements and accompanying notes appearing in this
prospectus.
FREESHOP.COM, INC.
FreeShop is a leading provider of direct marketing services on the
Internet, leveraging an innovative consumer-driven approach that changes the
dynamics of direct marketing. Through our FreeShop.com Web site, consumers
seeking to discover, learn about, or try new products can choose among a broad
selection of free, trial and promotional offers in a fun, interactive
environment. FreeShop provides a network through which consumers can seek out
new products of specific interest to them, unlike the traditional direct
marketing model in which marketers communicate to broad audiences in search of
new customers. FreeShop currently has more than 1,000 high-quality offers from
over 100 companies such as Johnson & Johnson, Inc., The Walt Disney Company,
eBay, Inc., US News & World Report, Inc., Hammacher Schlemmer & Co., Inc. and
The Columbia House Company. Marketers pay us for the number of customer leads
delivered, the number of visitors we direct to their Web site, or the number of
times visitors view their advertisements. We believe FreeShop's Internet-based,
consumer-directed process creates a highly effective method of direct marketing
in terms of cost, targeting, efficiency and consumer satisfaction.
Through our direct marketing network of consumers and marketers, we have
generated more than 5.0 million orders for various offers and promotions. In
April 1999, FreeShop was among the top 20 online shopping sites based on reach,
according to Media Metrix, Inc. Our customer database has grown from
approximately 850,000 customers in January 1998 to more than 1.8 million
customers as of April 1999. In addition, we have over 650,000 members of Club
FreeShop. Members of Club FreeShop regularly receive an email newsletter
informing them of special offers, exclusive contests and other opportunities. We
believe that the number and diversity of our free, trial and promotional offers
attracts an increasing number of consumers. This helps us to continue to grow
our marketer client base and with it our base of offers, resulting in a positive
cycle as an increasing number of marketers are attracted to the increasing
number of consumers visiting our Web site.
The direct marketing industry is large and growing. In 1998, businesses
spent an estimated $80.1 billion marketing directly to consumers through direct
mail, telemarketing and direct response advertising in both online and offline
media. Direct marketing involves any direct communication to a consumer that is
designed to generate a response in the form of an order, a request for further
information or a visit to a place of business. Direct marketing allows marketers
to reach targeted audiences and to quantify and measure the effectiveness of
their campaigns and advertising spending. However, the traditional direct
marketers' targeting process is inefficient because marketers lack specific
information about a consumer's immediate interests and needs. As a result, the
majority of direct mail is discarded and the majority of telemarketing calls are
terminated quickly or ignored.
The Internet is particularly well suited for direct marketing because it
can be used to create an interactive environment between the consumer and the
marketer. The Direct Marketing Association estimates online direct marketing
will grow from $603 million in 1998 to $5.5 billion in 2003. We believe online
direct marketing is more attractive than traditional direct marketing media
because it requires lower production costs and provides easier customer response
features. In addition, online direct marketing allows marketers to more
effectively:
- develop one-to-one relationships with consumers;
- interact real-time with consumers;
- collect data and feedback on marketing campaigns; and
- customize marketing campaigns to broad audiences or specific groups.
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Even with these advantages, direct marketers face challenges in fully
utilizing the Internet as a marketing medium. With millions of Web sites, only a
fraction of which have significant audiences, it is difficult for marketers to
decide where to spend their marketing dollars. Even leading brand marketers who
build their own Web sites must find ways to attract a sizeable audience of
visitors. We believe marketers desire a solution that takes advantage of the
effectiveness of direct marketing while overcoming the challenges presented by
both traditional and online marketing methods. FreeShop provides this solution,
fundamentally changing the dynamics of direct marketing by putting consumers in
control of the marketing process.
FreeShop benefits consumers by allowing them to select the offers that most
interest them and meet their unique needs. We provide consumers with offers for
high quality items such as catalogs, magazines, product samples, software,
coupons and consumer goods, covering a variety of interests from travel,
personal finance and entertainment to automobiles and sports. In addition,
because many of our offers are free samples or trial offers, consumers are able
to try new products and services before making purchase decisions. FreeShop
allows new online visitors to sample the experience of online shopping in an
easy, intuitive and risk-free way.
FreeShop benefits marketers by offering a cost-effective way to acquire
customers. We provide a diversity of programs designed to meet marketers'
objectives throughout the entire marketing process, from awareness to interest
to trial to sale. We offer a variety of services to marketers, including lead
generation, banner advertising, site sponsorships and newsletter sponsorships.
We believe our programs are quick and easy to implement relative to traditional
direct marketing programs.
In December 1998, Fingerhut Companies, Inc. became a significant minority
shareholder in FreeShop. Fingerhut is one of the largest direct marketers in the
United States, selling general merchandise through catalogs and various Web
sites. Currently, Fingerhut's database consists of over 30 million consumers,
and, during 1999, Fingerhut expects to distribute over 450 million catalog and
promotional mailings. As a result of our participation in a portion of these
mailings, we believe we can increase our customer base quickly and
cost-effectively. We have recently initiated a direct marketing relationship
with Fingerhut which will include Web site links, package inserts, statement
stuffers and "blow in" cards for catalogs. In March 1999, Fingerhut was acquired
by Federated Department Stores, Inc., which operates over 400 full-line
department stores, including Bloomingdale's, The Bon Marche, Burdines,
Goldsmith's, Lazarus, Macy's, Rich's, and Stern's. Federated also operates
direct mail catalog businesses under the names Bloomingdale's By Mail and Macy's
By Mail, and operates an electronic commerce business which provides goods and
services online under the name macys.com. We are exploring ways to further
develop our relationships with both Fingerhut and Federated in order to improve
our Web site content and enhance our customer database.
Our objective is to be the dominant provider of online direct marketing
services. We intend to achieve this objective through the following key
strategies:
- increase visitor traffic and transactions through both online and offline
marketing programs, including our Associates Program of over 14,000
member sites;
- grow our client base by expanding our sales staff, the services we offer
and our relationships with advertising agencies and companies with
national consumer brands;
- enhance FreeShop's brand recognition through aggressive marketing;
- expand the number of categories and increase the number of offers within
each category;
- continue to develop and leverage technology to serve our marketer clients
and make our Web site faster, easier to use and more personalized; and
- further develop our marketing relationships with both Fingerhut and
Federated.
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RECENT ACQUISITIONS
As part of our strategy to deepen and diversify our content and grow our
visitor and client bases, we recently acquired two businesses which greatly
expanded our catalog and travel-related offerings.
Commonsite, LLC. In May 1999, we acquired the Catalog Site Web site and
substantially all of the related assets of Commonsite, LLC for $441,000 and
132,300 shares of our common stock. The Catalog Site Web site
(www.catalogsite.com) offers over 200 catalogs. The business acquired had
revenues of $540,000 for the fiscal year ended December 31, 1998 and generated
194,000 leads in the quarter ended March 31, 1999.
Travel Companions International, Inc. In May 1999, we acquired the
Worldwide Brochures Web site and substantially all of the related assets of
Travel Companions International, Inc. for $1.4 million. The Worldwide Brochures
Web site (www.wwb.com) offers an extensive selection of over 15,000 travel
brochures for locations around the world. The business acquired had revenues of
$220,000 for the fiscal year ended December 31, 1998 and generated 167,000 leads
in the quarter ended March 31, 1999.
THE OFFERING
Common stock offered by FreeShop............................ shares
Common stock to be outstanding after the offering........... shares(1)
Use of proceeds............................................. For working capital and
general corporate purposes.
See "Use of Proceeds."
Proposed Nasdaq National Market symbol...................... FSHP
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(1) Based on the number of shares actually outstanding as of May 24, 1999.
Includes 293,536 shares of series B convertible preferred stock which will
convert into 2,935,360 shares of common stock not later than the completion
of this offering and warrants to purchase 592,750 shares of series B
convertible preferred stock which will be exercised and converted into
5,927,500 shares of common stock not later than the completion of this
offering. Excludes, as of May 24, 1999, a total of 2,413,530 shares of
common stock issuable upon exercise of outstanding stock options at a
weighted average exercise price of $0.61, and 69,250 shares of common stock
issuable upon exercise of warrants at a weighted average exercise price of
$0.41.
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The terms "Freeshop," "we," "us," and "our" as used in this prospectus
refer to FreeShop.com., Inc. Unless otherwise specifically stated, information
throughout this prospectus assumes that:
- the Underwriters' over-allotment option is not exercised;
- Fingerhut will exercise warrants to purchase 592,750 shares of series B
convertible preferred stock prior to the completion of this offering, and
all shares of series B convertible preferred stock will convert into
8,862,860 shares of common stock not later than the completion of this
offering.
Free Shop is a registered trademark of FreeShop.com, Inc. "Find It! Try It!
Buy It!", "The starting point for smart online shopping", "Powered by FreeShop"
and "FreeShop by Email" are service marks of FreeShop. We may apply for certain
other trademarks and servicemarks including Club FreeShop, FreeShop Savings
Club, Savings Central, FreeShop shopping assistant, Catalog Site, Catalog
Channel, The Catalog Site and Worldwide Brochures. All other trademarks and
service marks that we refer to in this prospectus are the property of their
respective owners. The information on our Web site or the Web sites of our
affiliates is not a part of this prospectus.
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SUMMARY FINANCIAL DATA
(IN THOUSANDS, EXCEPT PER SHARE DATA)
The following unaudited pro forma statement of operations data gives effect
to the acquisitions of the Catalog Site and Worldwide Brochures Web sites and
related assets as if they had occurred on January 1, 1998, but does not reflect
the issuance and conversion of the series B convertible preferred stock which
will have occurred not later than the completion of this offering. See Note 9 to
our unaudited pro forma combined financial information for a description of the
method we used to compute our basic and diluted net loss per share of common
stock and the number of shares used in that computation.
With regard to the following actual statement of operations data, see Note
2 to Freeshop's audited financial statements for a description of how we
calculated the number of shares used to compute basic and diluted net loss per
share of common stock.
The following balance sheet data provides a summary at March 31, 1999, (a)
on an actual basis; (b) on a pro forma basis to reflect (1) the authorization of
series B convertible preferred stock, (2) the issuance of series B convertible
preferred stock upon the exercise of warrants, (3) the conversion of all series
B convertible preferred stock into shares of common stock no later than the
completion of this offering, and (4) the acquisition of the Catalog Site and
Worldwide Brochures Web sites and related assets; and (c) on a pro forma as
adjusted basis to reflect the estimated net proceeds from the sale of
shares of common stock in this offering at an assumed initial offering price of
$ per share, after deducting underwriting discounts and commissions and
estimated offering expenses. See "Use of Proceeds," "Capitalization" and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
THREE MONTHS ENDED
(UNAUDITED)
YEAR ENDED -----------------------------------------------------------
DEC. 31, MARCH 31, JUNE 30, SEPT. 30, DEC. 31, MARCH 31,
1998 1998 1998 1998 1998 1999
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STATEMENT OF OPERATIONS DATA:
ACTUAL
Revenues......................... $ 1,251 $ 220 $ 209 $ 321 $ 501 $ 667
Gross profit..................... 1,034 182 172 256 425 584
Operating loss................... (3,136) (572) (641) (970) (952) (1,378)
Net loss......................... $ (3,199) $ (584) $ (658) $ (992) $ (963) $ (1,366)
Basic and diluted net loss per
common share................... $ (0.21) $ (0.04) $ (0.04) $ (0.06) $ (0.06) $ (0.07)
Shares used to compute basic and
diluted net loss per common
share.......................... 15,559 14,219 14,887 15,918 17,177 20,377
PRO FORMA (UNAUDITED)
Revenues......................... $ 1,893 $ 838
Gross profit..................... 1,455 707
Operating loss................... (4,233) (1,584)
Net loss......................... $ (4,296) $ (1,571)
Basic and diluted net loss per
common share................... $ (0.27) $ (0.08)
Shares used to compute basic and
diluted net loss per common
share.......................... 15,692 20,509
AS OF MARCH 31, 1999
(UNAUDITED)
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PRO FORMA
ACTUAL PRO FORMA AS ADJUSTED
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BALANCE SHEET DATA:
Cash and cash equivalents................................. $ 1,330 $ 17,115 $
Working capital........................................... 530 16,221
Total assets.............................................. 2,581 21,067
Long-term obligations, less current portion............... 113 113
Total shareholders' equity................................ 1,020 19,381
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RISK FACTORS
This offering involves a high degree of risk. You should carefully consider
the risks described below and the other information in this prospectus before
deciding to invest in shares of our common stock. Any of these risk factors
could materially and adversely affect our business, financial condition or
operating results. In that case, the trading price of our common stock could
decline, and you could lose all or a part of your investment.
RISKS RELATED TO OUR BUSINESS
WE HAVE A LIMITED OPERATING HISTORY AND MAY FACE DIFFICULTIES ENCOUNTERED BY
EARLY STAGE COMPANIES IN INTERNET-RELATED BUSINESSES.
Our limited operating history makes predicting our future performance
difficult. From our inception in June 1994 through June 1997, we existed as a
division of Online Interactive. We commenced operations as an independent
company in June 1997. You must consider the risks early stage companies
frequently encounter in new and rapidly evolving markets, including the market
for online direct marketing. These risks include uncertainties about our ability
to:
- attract a larger number of consumers to our Web site;
- sign up new marketing clients and add new and compelling content to our
Web site;
- manage our expanding operations;
- adapt to potential decreases in online advertising rates;
- successfully introduce new products and services;
- continue to develop and upgrade our technology and minimize technical
difficulties and system downtime;
- create and maintain the loyalty of our customers and clients;
- maintain our current, and develop new, strategic relationships and
alliances; and
- attract, retain and motivate qualified personnel.
See "Management's Discussion and Analysis of Financial Condition and
Results of Operations."
WE HAVE A HISTORY OF LOSSES AND EXPECT FUTURE LOSSES.
We have not achieved profitability and expect to continue to incur
operating losses for the foreseeable future. We incurred net losses of $3.2
million for the year ended December 31, 1998 and $1.4 million for the three
months ended March 31, 1999. As of March 31, 1999, our accumulated deficit was
$7.2 million. We have recently increased our operating expenses and capital
expenditures in order to accelerate our growth. We expect further increases in
operating and capital expenditures. Although our revenues have grown in recent
quarters, we will need to generate significant increases in revenue to achieve
profitability. Even if we do achieve profitability, we may be unable to sustain
profitability on a quarterly or annual basis in the future. It is possible that
our revenues will grow more slowly than we anticipate or that operating expenses
will exceed our expectations. See "Selected Actual Financial Data" and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
OUR QUARTERLY OPERATING RESULTS ARE SUBJECT TO FLUCTUATIONS AND SEASONALITY.
Our operating results have varied significantly from quarter to quarter in
the past and may continue to fluctuate. We believe period-to-period comparisons
of our operating results are not meaningful. Our operating results for a
particular quarter or year may fall below the expectations of securities
analysts and investors which could result in a decrease in our stock price.
Numerous factors contribute to the unpredictability of our operating results,
including:
- the demand for online marketing;
- the addition of new or loss of current marketer clients;
- the responsiveness of consumers to the offers contained on our Web site;
- changes in the growth rate of Internet usage and online traffic levels;
- changes in costs we incur to attract and retain marketer clients and
visitors to our Web site;
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- changes in our prices, the prices of our competitors or the prices for
Internet advertising and direct marketing generally;
- the introduction of new services and programs by us or by our
competitors;
- the timing and amount of costs relating to the expansion of our
operations and acquisition of technology or businesses; and
- the occurrence of technical difficulties and system downtime.
Our limited operating history and the new and rapidly evolving Internet
markets make it difficult to ascertain the effects of seasonality on our
business. We believe, however, that our revenue may be subject to seasonal
fluctuations because advertisers generally place fewer advertisements during the
first and third calendar quarters of each year. In addition, expenditures by
advertisers tend to be cyclical, reflecting overall economic conditions as well
as budgeting and buying patterns. A decline in the economic prospects of
advertisers could alter current or prospective advertisers' spending priorities,
or the time periods in which they determine their budgets, or increase the time
it takes to close a sale with our advertisers.
The majority of our contracts are month-to-month and automatically renew
unless terminated by either party with 10 days notice. The loss of a significant
number of these contracts in any one period might result in significant
fluctuations in our quarterly operating results. See "Management's Discussion
and Analysis of Financial Condition and Results of Operations."
WE MAY BE UNABLE TO MANAGE OUR GROWTH EFFECTIVELY.
We may not be successful in managing our growth. To be successful, we must
continue to expand the size and scope of our business while retaining the
ability to react quickly to the requirements of our marketer clients. We must
also implement new technologies and respond to initiatives by new and existing
competitors. We have grown from 29 employees on July 1, 1997 to 96 employees on
June 15, 1999. We have recently hired key management personnel and added
personnel in connection with our recent business acquisitions. We may not be
successful in integrating our new management personnel and other employees into
our existing operations. In addition, we plan to continue to expand our sales
and marketing, customer support and research and development organizations. Past
growth in these areas has placed, and any future growth will continue to place,
a significant strain on our management systems and resources. Furthermore, we
expect we will need to continue to improve our financial and managerial controls
and our reporting systems and procedures. These changes in systems and controls
may prove to be ineffective or inadequate.
THE SUCCESS OF OUR BUSINESS WILL DEPEND ON OUR ABILITY TO STRENGTHEN THE
FREESHOP BRAND.
We may not be successful in strengthening our brand. As competitive
pressures in the online direct marketing industry increase, we expect that brand
strength will become increasingly important. We intend to devote substantial
resources to promote the FreeShop brand. The reputation of our brand will depend
on our ability to provide a high-quality online experience for consumers
visiting our Web site or receiving our Club Freeshop e-mail newsletters. If
consumers are not satisfied with the quality of their experience with us, they
may stop visiting our Web site or accepting our newsletters. In addition,
negative experiences of consumers or marketers with FreeShop might result in
publicity that could damage our reputation.
WE MAY BE UNABLE TO SECURE SUFFICIENT PROMOTIONAL OFFERS FROM OUR MARKETER
CLIENTS.
The attractiveness of our Web site to consumers is based in part on our
ability to provide a broad variety of high quality offers. A number of other Web
sites give consumers access to similar offers. We face competition from these
Web sites as well as a variety of other online and offline competitors. If we
are unsuccessful in acquiring and renewing a continuing array of free, trial and
promotional offers for our Web site, traffic on our site will likely decrease.
As a result, our Web site will become less attractive to marketers and our
ability to generate revenue from marketer clients will be adversely affected.
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WE DEPEND ON KEY PERSONNEL FOR OUR FUTURE SUCCESS.
Our future success depends to a significant extent on the efforts and
abilities of our senior management, particularly Timothy C. Choate, our
Chairman, President and Chief Executive Officer, and other key employees,
including our technical and sales personnel. The loss of service of these
individuals could adversely affect our business. We may be unable to attract,
motivate and retain other key employees in the future. Competition for these
employees in our industry is intense and in the past we have experienced
difficulty in hiring qualified personnel. We do not have employment agreements
with any of our key personnel, nor do we have key-person insurance for any of
our employees.
WE MAY BE UNABLE TO INTEGRATE THE OPERATIONS FROM OUR ACQUISITIONS OF THE
CATALOG SITE AND WORLDWIDE BROCHURES WEB SITES OR FROM ANY FUTURE ACQUISITIONS.
We may not be successful in integrating the operations from our two recent
acquisitions or from any future acquisitions. In May 1999, we acquired the
Catalog Site and Worldwide Brochures Web sites and related assets. These are our
first acquisitions and we have limited experience with completing and
integrating acquisitions. We may be unable to integrate their operations into
our existing business. Our business strategy includes growth through
acquisitions, so we expect to pursue other acquisitions in the future. Our
recent acquisitions and any future acquisitions present many risks and
uncertainties generally associated with acquisitions, including:
- difficulties integrating operations, personnel, technologies, products
and information systems of acquired businesses;
- potential loss of key employees of acquired businesses;
- adverse effects on our reported results of operations from
acquisition-related charges and amortization of goodwill and purchased
technology;
- increased fixed costs, which could cause profits to decrease;
- inability to maintain the key business relationships and the reputations
of acquired businesses;
- potential dilution to current shareholders from the issuance of
additional equity securities;
- inability to maintain our standards, controls, procedures and policies;
- responsibility for liabilities of companies we acquire; and
- diversion of management's attention from other business concerns.
WE MAY BE UNABLE TO DEVELOP AND MAINTAIN POSITIVE BUSINESS RELATIONSHIPS WITH
FINGERHUT OR FEDERATED.
Failure to develop and maintain positive relationships with Fingerhut or
Federated could adversely affect our business. We recently initiated a direct
marketing relationship with Fingerhut which will include Web site links, package
inserts, statement stuffers and "blow in" cards for catalogs. Because Fingerhut
only recently invested in us, and because Federated only recently acquired
Fingerhut, we do not know what benefits, if any, we will generate from either or
both of these relationships. Both Fingerhut and Federated operate independently
of FreeShop and, subject to future contractual obligations, each remains free to
act in its own interest regardless of the effect of its actions on us. In
addition, although Fingerhut will retain a substantial equity interest in us
immediately following this offering, apart from the exercise of its warrants,
neither Fingerhut nor Federated has any obligation to make equity or other
capital resources available to us in the future. Should either Fingerhut or
Federated become dissatisfied with its relationship with us or decide to change
its general business strategy relating to the Internet, our relationships with
these companies could be adversely affected. Further, should either Fingerhut or
Federated decide to discontinue its relationship with us, or our reputation, our
stock price, or both may be adversely affected.
AN INCREASE IN THE NUMBER OF VISITORS TO OUR WEB SITE MAY STRAIN OUR SYSTEMS,
AND WE ARE VULNERABLE TO OTHER SYSTEM MALFUNCTIONS.
Any serious or repeated problems with the performance of our Web site could
lead to the dissatisfaction of consumers or our marketer clients. The amount of
traffic on our Web site has
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continued to increase over time, and we are seeking to further increase traffic
on our Web site. The systems that support our Web site must be able to
accommodate an increased volume of traffic. In the past, our Web site has
experienced slow response times and other systems problems for a variety of
reasons. We may continue to experience these problems in the future. If we do
not effectively address any capacity constraints or system failures, our
business could be adversely affected. See "Business -- Operations and
Technology."
WE MAY FACE SYSTEM FAILURES RESULTING FROM YEAR 2000 RISKS.
Because many computer applications have been written using two digits
rather than four to define the applicable year, some date-sensitive software may
recognize a date using "00" as the year 1900 rather than the year 2000. This
year 2000 problem could result in system failures or miscalculations causing
disruptions of operations, including disruptions of our Web site. Although we
are in the process of obtaining confirmation from our third-party vendors that
they have resolved their year 2000 issues, until we have received responses from
all of these vendors and completed our testing, we will not know the extent of
our exposure to year 2000 risks. In addition, the systems and services provided
by these vendors may fail to be year 2000 compliant despite their
representations to the contrary. Failure of these systems or services to be year
2000 compliant could result in a systemic failure beyond our control and prevent
us from delivering our services to our customers, prevent users from accessing
our Web site and decrease the use of the Internet generally. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations -- Year
2000 Issues."
WE FACE INTENSE COMPETITION FROM MARKETING-FOCUSED COMPANIES FOR MARKETER
CLIENTS.
We may be unable to compete successfully with current or future
competitors. We face intense competition from many companies in a number of
categories, both offline and online, to provide marketing and advertising
services for marketer clients. We expect competition from online competitors to
increase significantly because there are no substantial barriers to entry in our
industry. Increased competition could result in price reductions for online
advertising space and marketing services, reduced gross margins and loss of our
market share.
Many of our existing competitors, as well as a number of potential new
competitors, have longer operating histories, greater name recognition, larger
customer bases and significantly greater financial, technical and marketing
resources than FreeShop. These advantages may allow them to respond more quickly
and effectively to new or emerging technologies and changes in customer
requirements. It may also allow them to engage in more extensive research and
development, undertake more far-reaching marketing campaigns, adopt more
aggressive pricing policies and make more attractive offers to potential
employees, strategic partners and advertisers. In addition, current and
potential competitors have established or may establish cooperative
relationships among themselves or with third parties to increase the ability of
their products or services to address the needs of our prospective marketer
clients.
Online marketing is a rapidly developing market, and new types of products
and services may emerge that are more attractive to consumers and marketers than
the types of services we offer. As a result, it is possible that new competitors
may emerge and rapidly acquire significant market share. See
"Business -- Competition."
WE MAY NEED TO INCUR LITIGATION EXPENSES IN ORDER TO DEFEND OUR INTELLECTUAL
PROPERTY RIGHTS AND MIGHT NEVERTHELESS BE UNABLE TO ADEQUATELY PROTECT THESE
RIGHTS.
We may need to engage in costly litigation to enforce our intellectual
property rights, to protect our trade secrets or to determine the validity and
scope of the intellectual property rights of others. We cannot assure you that
our efforts to prevent misappropriation or infringement of our intellectual
property will be successful. An adverse determination in any litigation of this
type could require us to make significant changes to the structure and operation
of our online services and features or to license alternative technology from
another party. Implementation of any of these alternatives could be costly and
time consuming and may not be successful. Any intellectual property litigation
would likely result in substantial costs and diversion of resources and
management attention.
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Our success largely depends on our trademarks and internally developed
technologies, which we seek to protect through a combination of trademark,
copyright and trade secret laws. Despite actions we take to protect our
intellectual property rights, it may be possible for third parties to copy or
otherwise obtain and use our intellectual property without authorization or to
develop similar technology independently. In addition, legal standards relating
to the validity, enforceability and scope of protection of intellectual property
rights in Internet-related businesses are uncertain and still evolving. We may
be unable to maintain the value of our intellectual property rights in the
future. See "Business -- Intellectual Property."
We currently hold the Internet domain names "freeshop.com,"
"catalogsite.com" and "wwb.com" as well as various other related names. Domain
names generally are regulated by Internet regulatory bodies. The regulation of
domain names in the United States and in foreign countries is subject to change.
Regulatory bodies could establish additional top-level domains, appoint
additional domain name registrars or modify the requirements for holding domain
names. As a result, we may be unable to acquire FreeShop top level domain names
in all of the countries in which we may desire to conduct business in the
future. The relationship between regulations governing domain names and laws
protecting trademarks and similar intellectual property rights is unclear.
Therefore, we may be unable to prevent third parties from acquiring domain names
that infringe or otherwise decrease the value of our trademarks and other
intellectual property rights. We believe there are online companies in other
countries using domain names that potentially infringe on our trademarks. We may
be unable to prevent them from using these domain names and this use may
decrease the value of our trademark.
We may need to obtain licenses from others to refine, develop, market and
deliver new services. We may be unable to obtain any such license on
commercially reasonable terms if at all. Rights granted pursuant to any licenses
may not be valid and enforceable.
WE MAY FACE LITIGATION AND LIABILITY FOR INFORMATION DISPLAYED ON OUR WEB SITE.
We may be subjected to claims for defamation, negligence, copyright or
trademark infringement and various other claims relating to the nature and
content of materials we publish on our Web site. These types of claims have been
brought, sometimes successfully, against online services in the past. We could
also face claims based on the content that is accessible from our Web site
through links to other Web sites. Any litigation would likely result in
substantial costs and diversion of resources and management attention.
SECURITY AND PRIVACY BREACHES COULD SUBJECT US TO LITIGATION AND LIABILITY AND
DETER CONSUMERS FROM USING OUR WEB SITE.
We could be subject to litigation and liability if third parties were able
to penetrate our network security or otherwise misappropriate our users'
personal or credit card information. This liability could include claims for
unauthorized purchases with credit card information, impersonation or other
similar fraud claims. It could also include claims for other misuses of personal
information, such as for unauthorized marketing purposes. In addition, the
Federal Trade Commission and other states and federal agencies have been
investigating various Internet companies regarding their use of personal
information. We could be subject to investigations and enforcement actions by
these or other agencies.
The need to transmit confidential information securely has been a
significant barrier to electronic commerce and communications over the Internet.
Any compromise of security could deter people from using the Internet in
general, or, specifically, from using the Internet to conduct transactions that
involve transmitting confidential information, such as purchases of goods or
services. Many marketers seek to market their products and services on our Web
site because they want to encourage people to use the Internet to purchase their
goods or services. Internet security concerns could frustrate these efforts.
Also, our relationships with consumers may be adversely affected if the security
measures we use to protect their personal information are ineffective. We cannot
predict whether events or developments will result in a compromise or breach of
the technology we use to protect a customer's personal information.
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Furthermore, our computer servers may be vulnerable to computer viruses,
physical or electronic break-ins and similar disruptions. We may need to expend
significant additional capital and other resources to protect against a security
breach or to alleviate problems caused by any breaches. We may be unable to
prevent or remedy all security breaches. If any of these breaches occur, we
could lose marketing clients and visitors to our Web site.
RISKS RELATED TO OUR INDUSTRY
WE DEPEND ON THE ACCEPTANCE OF ONLINE MARKETING.
The demand for online marketing may not develop to a level sufficient to
support our continued operations or may develop more slowly than we expect. We
expect to derive almost all of our revenues from contracts with marketer clients
under which we provide online marketing services through our Web site and email.
The Internet has not existed long enough as a marketing medium to demonstrate
its effectiveness relative to traditional marketing methods. Marketers that have
historically relied on traditional marketing methods may be reluctant or slow to
adopt online marketing. Many marketers have limited or no experience using the
Internet as a marketing medium. In addition, marketers that have invested
substantial resources in traditional methods of marketing may be reluctant to
reallocate these resources to online marketing. Those companies that have
invested a significant portion of their marketing budgets in online marketing
may decide after a time to return to more traditional methods if they find that
online marketing is a less effective method of promoting their products and
services than traditional marketing methods.
We do not know if accepted industry standards for measuring the
effectiveness of online marketing will develop. An absence of accepted standards
for measuring effectiveness could discourage companies from committing
significant resources to online marketing. There are a variety of pricing models
for marketing on the Internet. We cannot predict which, if any, will emerge as
the industry standard. Absence of such a standard makes it difficult to project
our future pricing and revenues.
Email marketing is also vulnerable to potential negative public perception
associated with unsolicited email, known as "spam." Although we do not send
unsolicited email, public perception, press reports or governmental action
related to spam could reduce the overall demand for email marketing in general
and our Club FreeShop email newsletter in particular.
WE MUST ADAPT TO RAPID CHANGES IN THE ONLINE MARKETING INDUSTRY.
Online marketing is characterized by rapidly changing technologies,
frequent new product and service introductions, short development cycles and
evolving industry standards. We may incur substantial costs to modify our
services or infrastructure to adapt to these changes and to maintain and improve
the performance, features and reliability of our services. We may be unable to
successfully develop new services on a timely basis or achieve and maintain
market acceptance.
WE FACE RISKS FROM POTENTIAL GOVERNMENT REGULATION AND OTHER LEGAL UNCERTAINTIES
RELATING TO THE INTERNET.
We are not currently subject to direct federal, state or local regulation
in the United States other than regulations applicable to businesses generally
or directly applicable to electronic commerce. The adoption of such laws could
create uncertainty in use of the Internet and reduce the demand for all products
and services. It is possible laws and regulations may be proposed or adopted
with respect to the Internet covering issues such as user privacy, freedom of
expression, pricing, content and quality of products and services, taxation,
advertising, intellectual property rights and information security. Furthermore,
the growth of electronic commerce may prompt calls for more stringent consumer
protection laws. The adoption of such consumer protection laws could create
uncertainty in Internet usage and reduce the demand for all products and
services.
In addition, we are not certain how our business may be affected by the
application of existing laws governing issues such as property ownership,
copyrights, encryption and other intellectual property issues, taxation, libel,
obscenity and export or import matters. It is possible that future
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applications of these laws to our business could reduce demand for our service
or increase the cost of doing business as a result of litigation costs or
increased service delivery costs.
Because our services are available over the Internet in multiple states and
foreign countries, other jurisdictions may claim that we are required to qualify
to do business in each state or foreign country. We are qualified to do business
only in Washington, Minnesota and California. Our failure to qualify in other
jurisdictions when we are required to do so could subject us to taxes and
penalties and could restrict our ability to enforce contracts in those
jurisdictions.
The European Union recently adopted a directive addressing data privacy
that may result in limits on the collection and use of consumer information. See
"Business -- Government Regulation."
RISKS RELATED TO THIS OFFERING
WE WILL HAVE BROAD DISCRETION IN USE OF THE PROCEEDS FROM THIS OFFERING, AND
THERE IS A RISK THAT WE MIGHT USE THE PROCEEDS INEFFECTIVELY.
We will have broad discretion over how we use the offering proceeds, and we
might spend the proceeds in ways with which you might not agree. We cannot
assure you that we will use these proceeds effectively. We plan to use the
proceeds of this offering for working capital and for general corporate
purposes, including expansion of sales and marketing activities. We have not
determined how we will allocate proceeds among these uses. Our business strategy
includes growth through acquisitions, and we may use a substantial portion of
the offering proceeds to buy businesses that we have not yet identified. See
"Use of Proceeds" and "Business -- Strategy."
VIRTUALLY ALL OF OUR SHARES WILL BE ELIGIBLE FOR SALE SHORTLY AFTER THIS
OFFERING, WHICH COULD RESULT IN A DECLINE IN OUR STOCK PRICE.
If our shareholders sell substantial amounts of common stock in the public
market following this offering, the market price of our common stock could fall.
These sales also might make it more difficult for us to sell equity or
equity-related securities in the future at a time and price that we deem
appropriate. Based on shares outstanding as of May 24, 1999, upon completion of
this offering, we will have shares of common stock outstanding. Of
these shares, the shares being offered in this prospectus will be
freely tradable, and 29,276,309 shares will become eligible for sale in the
public market as follows:
NUMBER OF SHARES DATE
- ---------------- ----
At various times after the date of this prospectus pursuant
............. to Rule 144
At various times after 90 days from the date of this
............. prospectus
Most of these shares are subject to contractual restrictions with the
underwriters that prevent them from being sold until 180 days after the
effective date of the registration statement for this offering without the
consent of Deutsche Bank Securities Inc.
In addition, shortly after the effective date of this offering, we expect
to register for sale up to 6,000,000 shares of common stock reserved for
issuance under the 1997 Stock Option Plan. As of May 24, 1999, options to
purchase 2,413,530 shares of common stock were outstanding. Shares acquired upon
exercise of these options will be eligible for sale in the public market from
time to time subject to vesting and the 180-day lockup restrictions that apply
to the outstanding stock. These stock options generally have exercise prices
significantly below the expected initial public offering price of our common
stock. Also, at the completion of this offering we will have 69,250 shares of
common stock issuable upon the exercise of outstanding warrants. The possible
sale of a significant number of these shares may cause the price of our common
stock to decline.
Neither Fingerhut, Mr. Choate nor Mr. Ballantine, who in the aggregate
beneficially own approximately 85.5% of our capital stock as of May 24, 1999,
are restricted from selling any of their FreeShop securities, other than as
provided in lock-up agreements with Deutsche Bank Securities Inc., a
stockholders agreement and under applicable securities laws. Also, shareholders
and warrant holders representing approximately 13,043,622 shares of common stock
may have the right, subject to
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conditions, to include their shares in registration statements relating to our
securities. By exercising their registration rights and causing a large number
of shares to be registered and sold in the public market, these holders could
cause the price of the common stock to decline. In addition, any demand to
include these shares in our registration statements could have an adverse effect
on our ability to raise additional capital. See "Management -- Director
Compensation," "-- Stock Option Plan," "Description of Capital
Stock -- Registration Rights" and "Shares Eligible for Future Sale."
OUR SECURITIES HAVE NO PRIOR MARKET.
There has not been a public market for our common stock. We cannot predict
the extent to which investor interest in our common stock will lead to the
development of an active trading market or how liquid that market might become.
The initial public offering price for the shares will be determined by
negotiations between us and the representatives of the underwriters and may not
be indicative of prices that will prevail in the trading market. See
"Underwriting."
THE PRICE OF OUR STOCK AFTER THIS INITIAL PUBLIC OFFERING IS LIKELY TO BE
VOLATILE.
The stock market has experienced significant price and volume fluctuations,
and the market prices of securities of Internet-related companies have been
highly volatile. Investors may be unable to resell their shares at or above the
initial public offering price. In the past, companies that have experienced
volatility in the market price of their stock have been subject to securities
class action litigation. A securities class action lawsuit against us could
result in substantial costs and a diversion of management's attention and
resources.
WE MAY NEED ADDITIONAL FINANCING, AND OUR PROSPECTS FOR OBTAINING IT ARE
UNCERTAIN.
We may be unable to obtain necessary additional financing in the future.
Our business does not generate the cash necessary to fund our operations. We
currently anticipate that our available cash resources combined with the net
proceeds from this offering will be sufficient to meet our anticipated capital
expenditures and working capital requirements through the next twelve months.
Thereafter, we expect we will need to raise additional funds to develop or
enhance our services or products, fund expansion, respond to competitive
pressures or acquire businesses or technologies. Unanticipated expenses, poor
financial results or unanticipated opportunities that require financial
commitments could give rise to earlier financing requirements. If we raise
additional funds through the issuance of equity or convertible debt securities,
the percentage ownership of our shareholders would be reduced, and these
securities might have rights, preferences or privileges senior to those of our
common stock. Additional financing may not be available on terms favorable to
us, or at all. If adequate funds are not available or are not available on
acceptable terms, our ability to fund our expansion, take advantage of business
opportunities, develop or enhance services or products or otherwise respond to
competitive pressures would be significantly limited, and we might need to
significantly restrict our operations. See "Use of Proceeds" and "Management's
Discussion and Analysis of Financial Condition and Results of
Operations -- Liquidity and Capital Resources."
EXISTING SHAREHOLDERS WILL BE ABLE TO EXERCISE CONTROL OF OUR COMMON STOCK.
Insider control of a large amount of our common stock could have an adverse
effect on the market price of our common stock. At the completion of this
offering, Fingerhut will own approximately % of the outstanding shares of
our common stock. In addition, following this offering our executive officers
and directors will beneficially own or control approximately % of the
outstanding shares of our common stock and our founders, Messrs. Choate and
Ballantine, will beneficially own or control approximately % of the
outstanding shares of our common stock. Although they are under no obligation to
do so, if our officers, directors, founders, their affiliates and Fingerhut were
to vote together they would have the ability to control the election of our
board of directors and the outcome of corporate actions requiring shareholder
approval, including mergers and other changes of corporate control, going
private transactions and other extraordinary transactions. This concentration of
ownership may have the effect of delaying or preventing a change of control of
Freeshop, even if this change of control would benefit shareholders.
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FORWARD-LOOKING STATEMENTS
This prospectus contains forward-looking statements based on our current
expectations, assumptions, estimates and projections about our business and
industry. These forward-looking statements involve risks and uncertainties. Our
actual results could differ materially from those anticipated in such
forward-looking statements as a result of numerous factors, as more fully
described in "Risk Factors," "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and "Business" and elsewhere in this
prospectus. We undertake no obligation to update publicly any forward-looking
statements for any reason, even if new information becomes available or other
events occur in the future.
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USE OF PROCEEDS
The net proceeds from the sale of the shares of common stock
offered hereby at an assumed initial public offering price of $ per
share, after deducting the underwriting discounts and commissions and estimated
offering expenses, are estimated to be $ million, or $ million
if the underwriters' over-allotment option is exercised in full.
We intend to use at least $20.0 million of the net proceeds from this
offering to significantly expand marketing and brand promotion spending over the
next twelve months. We expect to use the remaining net proceeds of this offering
for other general corporate purposes, including working capital, capital
expenditures and possible acquisitions of businesses and technologies, although
there are no current understandings, commitments or agreements with respect to
any material acquisitions. Pending such uses, we will invest the net proceeds of
this offering in short-term, interest-bearing, investment-grade securities.
DIVIDEND POLICY
We have never declared or paid any cash dividends on our capital stock and
do not anticipate paying any cash dividends on our capital stock in the
foreseeable future. We may incur indebtedness in the future that may prohibit or
effectively restrict the payment of dividends, although we have no current plans
to do so.
THE COMPANY
FreeShop began as a division of Online Interactive, Inc., a Washington
corporation that was incorporated in June 1994. On June 30, 1997, Online
Interactive contributed the FreeShop division to its wholly-owned subsidiary,
FreeShop International, Inc., a Washington corporation incorporated on June 23,
1997, which then began operating as a separate entity. On February 19, 1999,
FreeShop International, Inc. changed its name to FreeShop.com, Inc. Our offices
are located at 95 South Jackson Street, Suite 300, Seattle, Washington 98104.
Our telephone number is (206) 441-9100.
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CAPITALIZATION
The following table sets forth our capitalization as of March 31, 1999 (a)
on an actual basis; (b) on a pro forma basis to reflect (1) the authorization of
series B convertible preferred stock, (2) the issuance of series B convertible
preferred stock upon the exercise of warrants, (3) the conversion of all series
B convertible preferred stock into shares of common stock not later than the
completion of this offering, and (4) the acquisition of the Catalog Site and
Worldwide Brochures Web sites and related assets; and (c) on a pro forma as
adjusted basis to reflect the estimated net proceeds from the sale of shares of
common stock in this offering at an assumed initial public offering price of
$ per share, after deducting underwriting discounts and commissions and
estimated offering expenses.
AS OF
MARCH 31, 1999
(UNAUDITED)
----------------------------------------
PRO FORMA
ACTUAL PRO FORMA AS ADJUSTED
--------- -------------- -----------
(IN THOUSANDS)
Current portion of long-term obligations.................... $ 117 $ 117 $
======= ======= =======
Long-term obligations, less current portion................. $ 113 $ 113 $
------- ------- -------
Shareholders' equity:
Preferred stock, undesignated, no par value; 10,000,000
shares authorized and no shares issued or outstanding,
actual; 6,814,516 shares authorized and no shares
issued and outstanding pro forma and pro forma as
adjusted(1)............................................ -- -- --
Series A convertible preferred stock, no par value;
1,935,484 shares authorized and issued; no shares
outstanding, actual, pro forma and pro forma as
adjusted(2)............................................ -- -- --
Series B convertible preferred stock, no par value; no
shares authorized, issued or outstanding, actual;
1,250,000 shares authorized, no shares issued or
outstanding pro forma and pro forma as adjusted(3)..... -- -- --
Common stock, no par value, 100,000,000 shares authorized;
20,440,874, 29,303,733 and shares issued
and outstanding, actual, pro forma and pro forma as
adjusted, respectively(4).............................. 7,880 26,241
Additional paid-in capital................................ 1,035 1,035
Deferred stock compensation............................... (675) (675)
Accumulated deficit....................................... (7,220) (7,220)
------- ------- -------
Total shareholders' equity............................. 1,020 19,381
------- ------- -------
Total capitalization.............................. $ 1,133 $19,494 $
======= ======= =======
- ---------------
(1) Ten million shares of undesignated preferred stock are authorized, of which
1,935,484 shares were designated as series A convertible preferred stock and
1,250,000 shares were designated as series B convertible preferred stock.
(2) Shares of series A convertible preferred stock were issued on June 30, 1997.
On July 18, 1997, all of the shares of series A convertible preferred stock
were converted into common stock.
(3) The shares of series B convertible preferred stock were designated on May
21, 1999. On May 24, 1999, 293,536 shares were issued pursuant to the
exercise of warrants. Prior to the completion of this offering, 592,750
additional shares of series B convertible preferred stock will be issued
pursuant to the exercise of warrants. Upon completion of this offering each
share of series B convertible preferred stock will be converted into 10
shares of common stock.
(4) Based on the number of shares outstanding as of March 31, 1999. Excludes
2,221,490 shares of common stock then issuable upon the exercise of options
then outstanding with a weighted average exercise price of $0.52 per share,
and 192,040 shares of common stock issuable upon exercise of options granted
after March 31, 1999. See "Management -- Stock Option Plan" and Note 10 to
Freeshop's audited financial statements included in this prospectus.
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DILUTION
The pro forma net tangible book value of FreeShop as of March 31, 1999, was
approximately $1,020,000, or $0.03 per share of common stock. Pro forma net
tangible book value per share represents the amount of total tangible assets
less total liabilities, divided by the number of shares of common stock
outstanding on a pro forma basis after giving effect to the conversion of the
Series B convertible preferred stock into 8,862,860 shares of common stock
concurrent with the closing of this offering. After giving effect to the sale of
shares of common stock offered by FreeShop at an assumed initial public offering
price of $ per share and after deducting underwriting discounts and
commissions and estimated offering expenses, the pro forma net tangible book
value of FreeShop as of March 31, 1999 would have been $ per share of
common stock. This represents an immediate increase in pro forma net tangible
book value of $ per share to existing shareholders and an immediate
dilution of $ per share to new investors. The following table
illustrates this per share dilution:
Assumed initial public offering price per share............. $
Pro forma net tangible book value per share before this
offering............................................... $ 0.03
Increase per share attributable to new investors..........
--------
Pro forma net tangible book value per share after this
offering..................................................
--------
Dilution per share to new investors......................... $
========
The following table summarizes, on a pro forma basis as of March 31, 1999,
the differences between existing shareholders and new investors with respect to
the number of shares of common stock purchased from FreeShop, the total
consideration paid to FreeShop and the average price per share paid:
SHARES PURCHASED TOTAL CONSIDERATION AVERAGE
-------------------- -------------------- PRICE
NUMBER PERCENT AMOUNT PERCENT PER SHARE
---------- ------- ---------- ------- ---------
Existing shareholders..................... 20,440,874 % $7,879,761 % $0.39
New investors.............................
---------- --- ---------- --- -----
Total................................ % $ %
========== === ========== === =====
The foregoing discussion and tables assume no exercise of any stock options
outstanding as of March 31, 1999. As of March 31, 1999, there were options
outstanding to purchase a total of 2,221,490 shares of common stock with a
weighted average exercise price of $0.52 per share. To the extent that any of
the options are exercised, there will be further dilution to new investors. See
"Management -- Stock Option Plan" and Note 10 to FreeShop's audited financial
statements included in this prospectus.
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SELECTED UNAUDITED PRO FORMA FINANCIAL DATA
(IN THOUSANDS, EXCEPT PER SHARE DATA)
The following unaudited pro forma statement of operations data reflects the
acquisitions of the Catalog Site and Worldwide Brochures Web sites and related
assets as if they had occurred on January 1, 1998. The following unaudited pro
forma financial data is presented for informational purposes only and has been
derived from the unaudited pro forma financial statements and accompanying notes
appearing in this prospectus and should be read in conjunction with those
financial statements. The selected unaudited pro forma financial data does not
purport to be indicative of future operations and should not be construed as
representative of future operations of the combined businesses. See Note 9 to
FreeShop's unaudited pro forma combined financial information for a description
of the method we used to compute our basic and diluted net loss per share of
common stock.
PRO FORMA PRO FORMA
YEAR ENDED THREE MONTHS ENDED
DEC. 31, 1998 MARCH 31, 1999
----------------- ------------------
STATEMENT OF OPERATIONS DATA:
Revenues.................................................. $ 1,893 $ 838
Cost of revenues.......................................... 438 131
----------- -----------
Gross profit........................................... 1,455 707
Operating expenses:
Sales and marketing.................................... 3,429 1,592
Research and development............................... 407 152
General and administrative............................. 711 337
Amortization........................................... 1,141 210
----------- -----------
Total operating expenses.......................... 5,688 2,291
Operating loss............................................ (4,233) (1,584)
Interest expense.......................................... 66 13
Other (income) expense.................................... (3) (26)
----------- -----------
Net loss.................................................. $ (4,296) $ (1,571)
=========== ===========
Basic and diluted net loss per common share............... $ (0.27) $ (0.08)
=========== ===========
Shares used to compute basic and diluted
net loss per common share................................. 15,692 20,509
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SELECTED ACTUAL FINANCIAL DATA
(IN THOUSANDS, EXCEPT PER SHARE DATA)
The following selected actual financial data are qualified in their
entirety by reference to, and you should read them in conjunction with,
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and FreeShop's audited financial statements and accompanying notes
appearing in this prospectus. We have derived the statements of operations data
for December 31, 1998 from our audited financial statements that appear in this
prospectus, and this data is qualified by reference to the financial statements.
Prior to June 30, 1997, FreeShop's business operations were conducted as a
division of Online Interactive. On June 30, 1997, Online Interactive contributed
the FreeShop division to its wholly owned subsidiary, FreeShop International,
which began operating as an independent entity with a fiscal year end of
December 31. The statements of operations and balance sheet information for the
three fiscal years ended June 30, 1995, 1996 and 1997 reflect the data of the
FreeShop division of Online Interactive. The statements of operations and
balance sheet information for the six months ended December 31, 1997, the fiscal
year ended December 31, 1998 and the three month periods ended March 31, 1998
and March 31, 1999 reflect data compiled since FreeShop began operating as an
independent entity. See Note 1 to Freeshop's audited financial statements
included in this prospectus.
FREESHOP DIVISION
OF ONLINE INTERACTIVE, INC. FREESHOP
---------------------------- --------------------------------------------------------------
THREE MONTHS
SIX MONTHS 12 MONTHS YEAR ENDED
YEAR ENDED JUNE 30, ENDED ENDED ENDED MARCH 31,
---------------------------- DEC. 31, DEC. 31, DEC. 31, -----------------
1995 1996 1997 1997 1997(1) 1998 1998 1999
-------- ------- ------- ------------ ------------ ------------ ------- -------
(UNAUDITED)
STATEMENT OF OPERATIONS DATA:
Revenues........................ $ 313 $ 1,271 $ 1,198 $ 535 $ 1,037 $ 1,251 $ 220 $ 667
Cost of revenues................ 85 310 314 140 259 217 38 83
-------- ------- ------- ------- ------- ------- ------- -------
Gross profit.................. 228 961 884 395 778 1,034 182 584
Operating expenses:
Sales and marketing........... 134 624 1,810 1,192 2,243 3,248 507 1,554
Research and development...... 2 66 137 188 265 407 120 152
General and administrative.... 126 299 381 158 391 515 127 256
-------- ------- ------- ------- ------- ------- ------- -------
Total operating
expenses................ 262 989 2,328 1,538 2,899 4,170 754 1,962
Operating loss.................. (34) (28) (1,444) (1,143) (2,121) (3,136) (572) (1,378)
Interest expense................ -- -- -- 6 6 66 12 13
Other (income) expense.......... -- -- -- 0 0 (3) 0 (25)
-------- ------- ------- ------- ------- ------- ------- -------
Net loss........................ $ (34) $ (28) $(1,444) $(1,149) $(2,127) $(3,199) $ (584) $(1,366)
======== ======= ======= ======= ======= ======= ======= =======
Basic and diluted net loss per
common share.................. $ (0.00) $ (0.00) $ (0.13) $ (0.09) $ (0.21) $ (0.04) $ (0.07)
======== ======= ======= ======= ======= ======= =======
Shares used to compute basic and
diluted net loss per common
share......................... 11,502 11,502 11,502 12,972 15,559 14,219 20,377
AS OF JUNE 30, AS OF DEC. 31,
---------------------------- --------------------------- AS OF MARCH 31,
1995 1996 1997 1997 1998 1999
-------- ------- ------- ------------ ------------ -----------------
(UNAUDITED)
BALANCE SHEET DATA:
Cash and cash equivalents....... $ -- $ -- $ -- $ 26 $ 2,892 $1,330
Working capital (deficiency).... 3 80 322 (158) 2,014 530
Total assets.................... 48 207 536 645 3,687 2,581
Long-term obligations, less
current portion............... -- -- 5 160 195 113
Total shareholders' equity...... 8 105 432 82 2,244 1,020
- ---------------
(1) The financial information presented for the 12 months ended December 31,
1997 is an unaudited 12 month period prepared by our management for
comparative purposes only.
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MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
We began our direct marketing business in 1994 as the FreeShop division of
Online Interactive, Inc., a company founded by Timothy Choate and John
Ballantine. In addition to operating the FreeShop division, Online Interactive
was also engaged in the business of selling software over the Internet. In July
1997, Micro Warehouse, Inc. purchased all of the stock of Online Interactive
from its shareholders. Before the purchase was completed, Online Interactive
transferred the FreeShop division to FreeShop International, Inc., a newly
formed, wholly owned subsidiary of Online Interactive. In June 1997, Online
Interactive spun off FreeShop International through a distribution to its
shareholders. On February 19, 1999, FreeShop International changed its name to
FreeShop.com, Inc.
We began our online marketing operations in 1994 through a relationship
with Prodigy Communications Corporation, a proprietary online service. In 1995,
we also began a marketing relationship with America Online, Inc., another
proprietary online service. We believed proprietary online environments, which
provide content exclusively to their fee-paying members, were limiting our
ability to develop the FreeShop brand and to access the growing number of people
using the Internet. As a result, we terminated our relationship with Prodigy in
August 1997 and our relationship with America Online in March 1998. Since March
1998, we have focused exclusively on our FreeShop.com Web site.
With the Micro Warehouse purchase of Online Interactive in July 1997, Mr.
Choate joined Micro Warehouse as a vice president. In March 1998, Mr. Choate
rejoined FreeShop as chief executive officer and began initiatives to expand our
sources of revenue by offering multiple advertising vehicles such as banner
advertising, site sponsorships and sponsorships of our Club FreeShop email
newsletters, in addition to our primary business of lead generation. We also
increased our efforts to expand consumer awareness of and visits to our Web
site. We have continued our efforts to improve the attractiveness of the
FreeShop.com Web site to consumers and to develop technology to improve our
ability to offer services to clients and to monitor and manage our Web site.
We derive our revenues primarily from online lead generation and
advertising contracts. We receive lead generation revenues when we deliver
customer information to a marketer in connection with an offer on our Web site.
We receive advertising revenues from sales of banner advertising, site
sponsorships and newsletter sponsorships. We also derive a small portion of our
lead generation revenues from the rental of customer names and street addresses
to third parties. Lead generation pricing is based on cost per lead and varies
depending on the type of offer. Generally, pricing of advertising is based on
cost per impression or per "click through." The services we deliver are
primarily sold under short-term agreements that are subject to cancellation.
Revenues are recognized in the period the service is delivered. See "Business --
Client Services" and Note 2 to FreeShop's audited financial statements included
in this prospectus.
Our ten largest clients accounted for 25.0% of our revenues in the year
ended December 31, 1998 and 26.6% of our revenues in the three months ended
March 31, 1999. No single client accounted for more than 5.3% of our revenues in
either the year ended December 31, 1998 or the three months ended March 31,
1999. One client accounted for 9.0% of our revenues for the three months ended
March 31, 1998.
In December 1998, Fingerhut invested $4.0 million in our business and
received common stock and warrants. As of May 24, 1999, Fingerhut had exercised
warrants for an additional investment of $5.0 million. Subsequently, Fingerhut
exercised warrants for an additional investment of $3.6 million. Pursuant to the
terms of an escrow agreement, Fingerhut has agreed to exercise the remainder of
its
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warrants for an additional investment of $9.0 million, subject to certain
conditions. Assuming the exercise of the warrants and conversion of the series B
convertible preferred stock, Fingerhut will hold approximately 43.5% of the
common stock immediately prior to the completion of this offering. Fingerhut's
investments have given us more resources to accelerate the growth of our
business and have permitted us to add additional experienced management,
marketing and technical personnel. Apart from the exercise by Fingerhut of these
warrants, however, neither Fingerhut nor Federated has any obligation to make
equity or other capital resources available to us in the future. See
"Business -- Strategy" and "Related Party Transactions."
Part of our strategy involves growth through the acquisition of businesses
that will expand our offerings to consumers and our services to marketers. In
May 1999, we purchased the Web sites and related assets of two companies,
Commonsite LLC, whose Catalog Site Web site offers more than 200 catalogs, and
Travel Companions International, Inc., whose Worldwide Brochures Web site offers
consumers more than 15,000 free travel brochures. Revenues generated by the
Catalog Site and Worldwide Brochures Web sites primarily come from flat-fee
advertising contracts. We intend to transition these advertising contracts to
lead generation contracts. We accounted for these acquisitions as asset
purchases and will include the results of the acquired businesses in our
financial statements from the date we completed the acquisitions. These
acquisitions will result in the allocation of $2.7 million to goodwill and other
intangible assets in the quarter ending June 30, 1999. We will amortize these
intangible assets over periods ranging from one to five years. We have included
unaudited pro forma combined financial information in this prospectus reflecting
these acquisitions as if the acquisitions had occurred on January 1, 1998. Pro
forma revenues were $838,000 for the three months ended March 31, 1999 and $1.9
million for the year ended December 31, 1998. See our unaudited pro forma
combined financial statements, the Commonsite audited financial statements and
the Travel Companions International audited financial statements included in
this prospectus.
Our business has been operating at a loss and generating negative cash flow
since inception. As of March 31, 1999, we had an accumulated deficit of
approximately $7.2 million. After the completion of this offering, we plan to
increase further the level of our investment in marketing and promotion,
development of technology and expansion of our business. As a result, our losses
and negative cash flow are likely to continue to increase.
RESULTS OF OPERATIONS
We changed our fiscal year end from June 30 to December 31 in connection
with our spin off from Online Interactive in June 1997. Due to this change, we
believe comparison of the year ended December 31, 1998 to the six months ended
December 31, 1997 is not appropriate. Therefore, management prepared financial
information for the 12 month period ended December 31, 1997 for the purposes of
comparison only. The following discussion compares the results of operations for
the year ended December 31, 1998 to the unaudited 12 month period ended December
31, 1997 and compares the results of operations for the year ended June 30, 1997
to the year ended June 30, 1996.
Our financial statements for the years ended June 30, 1996 and 1997 reflect
the assets and liabilities and the revenues, expenses and cash flow of the
FreeShop division of Online Interactive. Certain expenses of Online Interactive
were allocated to us on a basis we believe reflects a reasonable allocation of
expenses to present FreeShop as a stand-alone company. See Note 1 to FreeShop's
audited financial statements included in this prospectus.
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The following table sets forth statement of operations data for the periods
indicated as a percentage of revenues:
THREE MONTHS
YEAR ENDED 12 MONTHS YEAR ENDED
JUNE 30, ENDED ENDED MARCH 31,
--------------- DEC. 31, DEC. 31, ----------------
1996 1997 1997(1) 1998 1998 1999
----- ------ ------------ ---------- ------ ------
(UNAUDITED)
Revenues....................... 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%
Cost of revenues............... 24.4 26.2 25.0 17.3 17.5 12.5
----- ------ ------ ------ ------ ------
Gross profit................. 75.6 73.8 75.0 82.7 82.5 87.5
Operating expenses:
Sales and marketing.......... 49.1 151.1 216.3 259.7 230.3 233.1
Research and development..... 5.2 11.5 25.5 32.5 54.7 22.8
General and administrative... 23.5 31.8 37.7 41.2 57.7 38.5
----- ------ ------ ------ ------ ------
Total operating
expenses................ 77.8 194.4 279.5 333.4 342.6 294.3
----- ------ ------ ------ ------ ------
Operating loss................. (2.2) (120.5) (204.5) (250.7) (260.0) (206.8)
Interest expense............... 0.0 0.0 0.6 5.2 5.5 2.0
Other (income) expense......... 0.0 0.0 0.0 (0.2) 0.0 (3.8)
----- ------ ------ ------ ------ ------
Net loss....................... (2.2)% (120.5)% (205.2)% (255.7)% (265.5)% (204.9)%
===== ====== ====== ====== ====== ======
- ---------------
(1) The financial information for the 12 months ended December 31, 1997 is an
unaudited 12 month period prepared by our management for comparative
purposes only.
THREE MONTHS ENDED MARCH 31, 1999 COMPARED TO THREE MONTHS ENDED MARCH 31, 1998
(UNAUDITED)
Revenues. We derive our revenues primarily from online lead generation and
advertising contracts. Our revenues increased by $447,000, or 203%, to $667,000
in the three months ended March 31, 1999, compared to $220,000 in the three
months ended March 31, 1998. This growth in revenue was primarily attributable
to the introduction of advertising revenue after March 31, 1998 and an increase
in the number of visits to our site, which increased lead generation revenues.
We introduced advertising, including banner ads, site sponsorships and
newsletter sponsorships, in the second and third quarters of 1998. Revenues from
advertising services were $263,000 in the three months ended March 31, 1999
compared to no advertising revenues in the three months ended March 31, 1998.
Over the same period, lead generation revenues increased to $404,000 from
$220,000.
Cost of revenues. Cost of revenues consists of expenses associated with the
production and usage of the FreeShop.com Web site. Such costs consist primarily
of Internet connection charges, banner ad serving fees, equipment and software
depreciation and personnel costs. Cost of revenues increased to $83,000 in the
three months ended March 31, 1999 from $38,000 in the three months ended March
31, 1998. The increase was primarily due to costs related to additional Internet
connection capacity and personnel costs to support our growth. Gross margin
increased to 87.5% in the three months ended March 31, 1999 from 82.5% in the
three months ended March 31, 1998. This increase in gross margin was primarily
due to leveraging relatively fixed expenses against higher revenues.
Sales and marketing. Sales and marketing expenses consist primarily of
marketing and promotional costs related to developing our brand, as well as
personnel and other costs. Sales and marketing expenses increased by $1.1
million, or 206%, to $1.6 million in the three months ended March 31, 1999,
compared to $507,000 in the three months ended March 31, 1998. The increase was
due to a $619,000, or 652%, increase in advertising and brand awareness spending
and a $445,000, or 504%, increase in personnel costs. We expect to continue to
increase our advertising and brand awareness spending in the future. As a
percentage of revenues, sales and
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25
marketing expenses increased to 233.1% in the three months ended March 31, 1999
from 230.3% in the three months ended March 31, 1998.
Research and development. Research and development expenses primarily
include personnel costs relating to maintaining and enhancing the features,
content and functionality of our Web site and related systems. Research and
development expenses increased by $32,000, or 27%, to $152,000 in the three
months ended March 31, 1999, compared to $120,000 in the three months ended
March 31, 1998. The increase was primarily due to hiring additional staff to
support our growth. As a percentage of revenues, research and development
expenses decreased to 22.8% in the three months ended March 31, 1999 from 54.7%
in the three months ended March 31, 1998. The decrease was primarily due to
leveraging relatively fixed research and development expenses against higher
revenues.
General and administrative. General and administrative expenses primarily
consist of management, financial and administrative personnel expenses and
related costs and professional service fees. General and administrative expenses
increased by $129,000, or 102%, to $256,000 in the three months ended March 31,
1999, compared to $127,000 in the three months ended March 31, 1998. The
increase was primarily due to increased personnel costs and professional service
fees necessary to support our growth. As a percentage of revenues, general and
administrative expenses decreased to 38.5% in the three months ended March 31,
1999 from 57.7% in the three months ended March 31, 1998. The decrease is
primarily due to leveraging relatively fixed general and administrative expenses
against higher revenues.
Interest expense. Interest expense primarily relates to capital equipment
leases and totaled $13,000 in the three months ended March 31, 1999 and $12,000
in the three months ended March 31, 1998.
Other (income) expense. Other (income) expense consists primarily of
interest income. Interest income increased to $25,000 in the three months ended
March 31, 1999 from no interest income in the three months ended March 31, 1998,
due to higher cash balances resulting from the investment by Fingerhut in
December 1998.
Income taxes. No provision for federal income taxes has been recorded for
any of the periods presented. As of March 31, 1999, we had approximately $5.5
million of federal net operating loss carryforwards that are available to offset
future taxable income; these carryforwards expire in various years beginning in
2012, if not previously utilized. We expect that Fingerhut will increase its
ownership of our common stock prior to the completion of this offering which
will limit, under the Tax Reform Act of 1986, the amounts of and benefits from
our net operating loss carryforwards. Based on preliminary estimates, we believe
the effect of such limitation, if imposed, will not have a material adverse
effect on our business, results of operations and financial condition.
YEAR ENDED DECEMBER 31, 1998 COMPARED TO THE UNAUDITED 12 MONTHS ENDED DECEMBER
31, 1997
Revenues. Our revenues increased by $214,000, or 21%, to $1.3 million in
the year ended December 31, 1998, compared to $1.0 million in the 12 months
ended December 31, 1997. The growth in revenue in 1998 was primarily
attributable to the introduction of new revenue streams. We introduced
advertising, including banner ads, site sponsorships and newsletter sponsorships
in the second and third quarters of 1998. Revenues from advertising were
$288,000 in 1998 compared to no advertising revenues in 1997. Revenues from lead
generation were $963,000 in 1998 compared to $1.0 million in 1997. The overall
growth in revenues was partially offset by a reduction in lead generation
revenues resulting from the termination of our relationships with Prodigy in
August 1997 and America Online in March 1998.
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Cost of revenues. Cost of revenues decreased to $217,000 in 1998 from
$259,000 in 1997. The decrease in cost of revenues was primarily due to lower
access charges for the Internet compared to the proprietary Prodigy and America
Online environments. As a result, gross margin increased to 82.7% in 1998 from
75.0% in 1997.
Sales and marketing. Sales and marketing expenses increased by $1.0
million, or 45%, to $3.2 million in 1998, compared to $2.2 million in 1997. The
increase was primarily due to a $988,000, or 405%, increase in advertising and
brand awareness spending. As a percentage of revenues, sales and marketing
expenses increased to 259.7% in 1998 from 216.3% in 1997.
Research and development. Research and development expenses increased by
$142,000, or 54%, to $407,000 in 1998, compared to $265,000 in 1997. The
increase was primarily due to hiring of additional staff to support our growth.
As a percentage of revenues, research and development expenses increased to
32.5% in 1998 from 25.5% in 1997.
General and administrative. General and administrative expenses increased
by $124,000, or 32%, to $515,000 in 1998, compared to $391,000 in 1997. The
increase was primarily a result of increased personnel costs and professional
service fees necessary to support our growth. As a percentage of revenues,
general and administrative expenses increased to 41.2% in 1998 from 37.7% in
1997.
Interest expense. Interest expense increased by $60,000, to $66,000 in
1998, compared to $6,000 in 1997. The increase was due to the addition of leased
capital equipment in the third and fourth quarters of 1997 and throughout 1998.
Other (income) expense. Other (income) expense in 1998 consisted primarily
of interest income in the amount of $11,000 offset by the write-off of obsolete
assets in the amount of $9,000. There was no other (income) expense in 1997.
YEAR ENDED JUNE 30, 1997 COMPARED TO THE YEAR ENDED JUNE 30, 1996
Revenues. Our revenues decreased by $73,000, or 6%, to $1.2 million in the
year ended June 30, 1997 compared to $1.3 million in the year ended June 30,
1996. The decrease was primarily due to the decline in Prodigy's membership
base. Revenues related to the Prodigy relationship were $396,000, or 33% of
total revenue, in 1997 and $484,000, or 38% of total revenue, in 1996.
Cost of revenues. Cost of revenues increased to $314,000 in 1997 from
$310,000 in 1996. As a result, gross margin decreased to 73.8% in 1997 from
75.6% in 1996.
Sales and marketing. Sales and marketing expenses increased by $1.2
million, or 190%, to $1.8 million in 1997, compared to $624,000 in 1996. The
increase was primarily due to increased personnel costs related to building our
own internal sales and marketing staff in 1997 and costs associated with
termination of a contract with a third-party sales agent. As a percentage of
revenues, sales and marketing expenses increased to 151.1% in 1997 from 49.1% in
1996.
Research and development. Research and development expenses increased by
$71,000, or 109%, to $137,000 in 1997, compared to $66,000 in 1996. The increase
was primarily due to hiring of additional staff. As a percentage of revenues,
research and development expenses increased to 11.5% in 1997 from 5.2% in 1996.
General and administrative. General and administrative expenses increased
by $82,000, or 27%, to $381,000 in 1997, compared to $299,000 in 1996. The
increase was primarily a result of increased personnel costs and professional
service fees. As a percentage of revenues, general and administrative expenses
increased to 31.8% in 1997 from 23.5% in 1996.
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QUARTERLY RESULTS OF OPERATIONS
The following table sets forth Freeshop's unaudited quarterly statement of
operations data for the five quarters ended March 31, 1999. In the opinion of
our management, this information was prepared on substantially the same basis as
FreeShop's audited financial statements and accompanying notes included in this
prospectus.
In the opinion of our management, all necessary adjustments, consisting
only of normal recurring adjustments, have been included in the amounts stated
below to present fairly the unaudited quarterly results. You should read this
quarterly data in conjunction with FreeShop's audited financial statements and
accompanying notes included in this prospectus. Our operating results for any
quarter are not necessarily indicative of the operating results for any future
period.
QUARTER ENDED
-----------------------------------------------------------
MARCH 31, JUNE 30, SEPT. 30, DEC. 31, MARCH 31,
1998 1998 1998 1998 1999
--------- -------- --------- -------- ---------
(IN THOUSANDS)
STATEMENT OF OPERATIONS DATA:
Revenues............................ $ 220 $ 209 $ 321 $ 501 $ 667
Cost of revenues.................... 38 37 65 76 83
----- ----- ------ ------ -------
Gross profit..................... 182 172 256 425 584
Operating expenses:
Sales and marketing.............. 507 612 1,030 1,100 1,554
Research and development......... 120 85 90 111 152
General and administrative....... 127 116 106 166 256
----- ----- ------ ------ -------
Total operating expenses....... 754 813 1,226 1,377 1,962
----- ----- ------ ------ -------
Operating loss...................... (572) (641) (970) (952) (1,378)
Interest expense.................... 12 16 16 21 13
Other (income) expense.............. -- 1 6 (10) (25)
----- ----- ------ ------ -------
Net loss............................ $(584) $(658) $ (992) $ (963) $(1,366)
===== ===== ====== ====== =======
QUARTER ENDED
-----------------------------------------------------------
MARCH 31, JUNE 30, SEPT. 30, DEC. 31, MARCH 31,
1998 1998 1998 1998 1999
--------- -------- --------- -------- ---------
AS A PERCENTAGE OF REVENUES:
Revenues............................ 100.0% 100.0% 100.0% 100.0% 100.0%
Cost of revenues.................... 17.5 17.8 20.2 15.2 12.5
------ ------ ------ ------ ------
Gross profit..................... 82.5 82.2 79.8 84.8 87.5
Operating expenses:
Sales and marketing.............. 230.3 292.8 320.9 219.6 233.1
Research and development......... 54.7 40.9 28.1 22.2 22.8
General and administrative....... 57.7 55.6 33.0 33.1 38.5
------ ------ ------ ------ ------
Total operating expenses....... 342.6 389.3 382.0 274.9 294.3
------ ------ ------ ------ ------
Operating loss...................... (260.0) (307.1) (302.2) (190.1) (206.8)
Interest expense.................... 5.5 7.8 4.9 4.3 2.0
Other (income) expense.............. 0.0 0.4 2.0 (1.9) (3.8)
------ ------ ------ ------ ------
Net loss............................ (265.5)% (315.3)% (309.1)% (192.4)% (204.9)%
====== ====== ====== ====== ======
Revenues. Our revenues increased in each quarter presented, except for the
second quarter of 1998. Our revenues decreased by $11,000, or 5%, to $209,000 in
the second quarter of 1998 compared to $220,000 in the first quarter of 1998.
This decrease was due to the termination of our relationship with America Online
in March 1998. The relationship with America Online had accounted for $111,000,
or 50%, of total revenues in the first quarter of 1998. Revenues unrelated
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to America Online increased by $94,000, or 86%, to $203,000 in the second
quarter of 1998 compared to $109,000 in the first quarter of 1998. In addition,
our current chief executive officer, Timothy C. Choate, rejoined FreeShop in
March 1998 and focused on creating new revenue streams and accelerating the
growth of our business.
Cost of revenues. As a percentage of revenues, cost of revenues increased
during the first three quarters of 1998 as we built our infrastructure in
anticipation of future revenues. Since the third quarter of 1998, we have
recognized significant increases in gross margin due to leveraging relatively
fixed expenses against higher revenue.
Sales and marketing. Sales and marketing expenses increased in absolute
dollars in each quarter presented. As a percentage of revenues, there was a
decrease in sales and marketing expenses in the fourth quarter of 1998. This
resulted from an increase in revenues in the fourth quarter of 1998 without a
corresponding increase in advertising and brand awareness spending.
Research and development. Research and development expenses decreased in
the second quarter of 1998 primarily due to higher personnel costs and
recruiting fees paid in the first quarter of 1998. Research and development
expenses have increased steadily since the third quarter of 1998 as a result of
increased personnel costs related to the continued enhancement of our systems
and Web site.
General and administrative. General and administrative expenses decreased
in the second quarter of 1998 primarily due to a decrease in personnel costs and
one-time severance costs incurred in the first quarter of 1998 resulting from
the departure of our former chief executive officer and another senior officer.
General and administrative expenses decreased in the third quarter of 1998
primarily due to higher recruiting costs in the second quarter of 1998. General
and administrative expenses have increased steadily since the third quarter of
1998 due primarily to additional personnel costs and professional service fees
necessary to support our growth.
We anticipate our revenues may be subject to seasonal fluctuations. We
believe advertisers generally place fewer advertisements during the first and
third calendar quarters of each year. In addition, expenditures by advertisers
tend to be cyclical, reflecting overall economic conditions as well as budgeting
and buying patterns. Our results of operations may fluctuate significantly in
the future as a result of a variety of factors, many of which are beyond our
control.
STOCK OPTIONS GRANTED IN 1999
From January 1, 1999 to March 31, 1999, we granted stock options to
purchase 277,000 shares of common stock under the 1997 Stock Option Plan. These
stock options were granted to employees, directors and service providers at an
exercise price of $1.00 per share which was below the fair market value at the
date of grant. In relation to these grants, we will recognize estimated
compensation expense of approximately $740,000 over the vesting terms of one to
four years. Compensation expense related to the options of approximately
$373,000, $210,000, $104,000, $46,000 and $7,000 will be classified as operating
expenses in the years ending 1999, 2000, 2001, 2002 and 2003, respectively.
LIQUIDITY AND CAPITAL RESOURCES
Since we began operating as an independent company in June 1997, we have
financed our operations primarily through the issuance of common stock. Gross
proceeds from the issuance of stock through March 31, 1999 totaled $5.9 million,
including $4.0 million raised in December 1998. As of March 31, 1999 we had a
$500,000 bank line-of-credit available at prime plus 1.5%. As of March 31, 1999
we had approximately $1.3 million in cash and cash equivalents and working
capital of $530,000. Subsequent to March 31, 1999, Fingerhut exercised warrants
to purchase additional capital stock in the amount of $8.6 million.
Net cash used in operating activities was $1.3 million in the three months
ended March 31, 1999, $2.2 million in the year ended December 31, 1998 and
$595,000 in the six months ended December 31, 1997. Cash used in operating
activities for each period resulted primarily from net
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losses and increases in accounts receivable, which were partially offset by
increases in accounts payable and accrued liabilities.
Net cash used in investing activities was $227,000 in the three months
ended March 31, 1999, $67,000 in the year ended December 31, 1998 and $56,000 in
the six months ended December 31, 1997. Cash used in investing activities was
primarily related to purchases of property and equipment in each period.
Net cash used in financing activities was $13,000 in the three months ended
March 31, 1999. Net cash provided by financing activities was $5.2 million in
the year ended December 31, 1998 and $677,000 in the six months ended December
31, 1997. Net cash used in financing activities in the three months ended March
31, 1999 was primarily due to the payment of lease obligations. Net cash
provided by financing activities in the year ended December 31, 1998 and the six
months ended December 31, 1997 resulted primarily from issuance of common stock,
which was partially offset by principle payments made on capital leases.
We believe our current cash and cash equivalents, including expected net
proceeds from this offering, will be sufficient to meet our anticipated cash
needs for working capital and capital expenditures for at least the next 12
months. Thereafter, we expect we will need to raise additional capital to meet
our long term operating requirements. Although we have increased revenues, our
expenses also have continued to increase, and we expect to increase our expenses
significantly in future periods such that our expenses will exceed our revenues
for the foreseeable future. Accordingly, we do not expect to be able to fund our
operations from internally generated funds for the foreseeable future. Our cash
requirements depend on several factors, including the level of expenditures on
advertising and brand awareness, the rate of market acceptance of our services,
and the extent to which we use cash for acquisitions and strategic investments.
Unanticipated expenses, poor financial results or unanticipated opportunities
that require financial commitments could give rise to earlier financing
requirements. If we raise additional funds through the issuance of equity or
convertible debt securities, the percentage ownership of our shareholders would
be reduced, and these securities might have rights, preferences or privileges
senior to those of our common stock. Additional financing may not be available
on terms favorable to us, or at all. If adequate funds are not available or are
not available on acceptable terms, our ability to fund our expansion, take
advantage of business opportunities, develop or enhance services or products or
otherwise respond to competitive pressures would be significantly limited, and
we might need to significantly restrict our operations.
YEAR 2000 ISSUES
Because many computer applications have been written using two digits
rather than four to define the applicable year, some date-sensitive software may
recognize a date using "00" as the year 1900 rather than the year 2000. The year
2000 issue could result in system failures or miscalculations causing
disruptions of operations, including disruptions of our Web site.
We have completed a review of our internal information technology and
non-information technology systems for year 2000 compliance. We do not believe
that we have material exposure to the year 2000 issue with respect to our
systems.
We are in the process of obtaining confirmation from all of our third-party
vendors that they have resolved their year 2000 issues. The majority of our
vendors have responded and either confirmed their compliance or provided patches
for their affected software. We expect to receive replies from our remaining
third-party vendors by June 30, 1999. The vendors who have already responded
include all vendors related to our critical systems.
We have completed an initial test of our internal systems and anticipate
conducting tests with the cooperation of our vendors after June 30, 1999 to
simulate the year 2000 rollover with hardware, software and key vendors. We plan
to make any modifications resulting from the test by the third quarter of 1999.
Based on the test results, if any vendor is found to be non-compliant, our
contingency plan is to attempt to find a replacement vendor. In addition, we
have developed
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a limited contingency plan related to the functioning of our Web site and order
processing systems. We are establishing backup servers at a site maintained by
Fingerhut in Minnesota in the event that there is a power or other electrical
failure that affects our computer servers and systems located in the Seattle
area. Aside from the identification of new vendors and the establishment of
offsite servers, we do not currently have any other contingency plans, and we do
not anticipate developing any other contingency plans.
To date, we have spent approximately $30,000 on year 2000 compliance. We
expect total expenditures to be between $40,000 and $50,000. Most of our future
expenses are expected to be operating expenses associated with the time spent by
employees working on year 2000 compliance matters.
The worst-case scenario pertaining to the year 2000 issue would be an
overall failure of the Internet, electronic and telecommunications
infrastructures. In addition, the systems and services provided by our
third-party vendors may fail to be year 2000 compliant despite their
representations to the contrary. The failure by these entities or systems to be
year 2000 compliant could result in a systemic failure beyond our control, which
could also prevent us from delivering our services to our customers or generally
prevent users from accessing our Web site, which would have a material adverse
effect on our business, results of operations and financial condition.
RECENT ACCOUNTING PRONOUNCEMENTS
In March 1998, the American Institute of Certified Public Accountants
(AICPA) issued Statement of Position (SOP) 98-1, "Accounting for the Costs of
Computer Software Developed or Obtained For Internal Use," which is effective
for fiscal years beginning after December 15, 1998. SOP No. 98-1 provides
guidance on accounting for the costs of computer software developed or obtained
for internal use and defines specific criteria that determine when such costs
are required to be expensed, and when such costs may be capitalized. The
adoption of this standard has not had a material effect on the Company's
capitalization policy, results of operations, financial position or cash flows.
In April 1998, the AICPA issued SOP 98-5, "Reporting the Costs of Start-up
Activities," SOP 98-5, which is effective for fiscal years beginning after
December 15, 1998, provides guidance on the financial reporting of start-up
costs and organization costs. It requires costs of start up activities and
organization costs to be expensed as incurred. As we have expensed these costs
historically, the adoption of this standard has not had a significant impact on
our results of operations, financial position or cash flows.
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards (SFAS) No. 133, "Accounting for Derivative
Instruments and Hedging Activities", which establishes accounting and reporting
standards for derivative instruments, including certain derivative instruments
embedded in other contracts, (collectively referred to as derivatives) and for
hedging activities. SFAS 133 is effective for all fiscal quarters of fiscal
years beginning after June 15, 1999. We do not expect the adoption of this
statement to have a significant impact on our results of operations, financial
position or cash flows.
LIMITATION ON NET OPERATING LOSS CARRYFORWARDS
We have approximately $5.5 million of federal net operating loss
carryforwards as of March 31, 1999 which may be available to reduce the amount
of United States federal income taxes payable by us in the future. We believe
the exercise of Fingerhut's warrants prior to the completion of this offering
will result in an ownership change for purposes of Section 382 of the Internal
Revenue Code. As a result, the use of our pre-ownership change federal net
operating loss carryforwards will be limited annually by Section 382 of the
Internal Revenue Code. Section 382 of the Internal Revenue Code limits the
amount of net operating losses that may be utilized from pre-ownership change
years to offset our taxable income in any post-ownership change year.
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BUSINESS
OVERVIEW
FreeShop is a leading provider of direct marketing services on the
Internet, leveraging an innovative consumer-driven approach that changes the
dynamics of direct marketing. Through our FreeShop.com Web site, consumers
seeking to discover, learn about, or try new products can choose among a broad
selection of free, trial and promotional offers in a fun, interactive
environment. FreeShop provides a network through which consumers can seek out
new products of specific interest to them, unlike the traditional direct
marketing model in which marketers communicate to broad audiences in search of
new customers. FreeShop currently has more than 1,000 high-quality offers from
more than 100 companies such as Johnson & Johnson, Walt Disney, eBay, US News &
World Report, Hammacher Schlemmer and Columbia House. Marketers pay us for the
number of customer leads delivered, the number of visitors we direct to their
Web site, or the number of times visitors view their advertisements. We believe
FreeShop's Internet-based, consumer-directed process creates a highly effective
method of direct marketing in terms of cost, targeting, efficiency and consumer
satisfaction.
Through our direct-marketing network of consumers and marketers, we have
generated more than 5 million orders for various offers and promotions. In April
1999, FreeShop was among the top 20 online shopping sites based on reach,
according to Media Metrix. Our customer database has grown from approximately
850,000 customers in January 1998 to more than 1.8 million customers as of April
1999. In addition, we have over 650,000 members of Club FreeShop. In April 1999,
over 40% of our orders came from repeat customers. We believe that the number
and diversity of our free, trial and promotional offers attracts an increasing
number of consumers. This helps us to continue to grow our marketer client base
and with it our base of offers, resulting in a positive cycle as an increasing
number of marketers are attracted to the increasing number of consumers visiting
our Web site.
INDUSTRY BACKGROUND
GROWTH OF THE INTERNET AND ONLINE COMMERCE
Over the past several years, the Internet has emerged as a powerful and
efficient new medium enabling people worldwide to exchange information,
communicate and conduct business electronically. The number of people using the
Internet continues to expand rapidly. International Data Corporation estimates
that the number of people using the Internet will grow from approximately 160
million worldwide in 1998 to over 500 million worldwide by the end of 2003.
Businesses have recognized the online commerce opportunity and are
increasingly using the Internet to sell and distribute products and services.
According to IDC, online commerce will increase from approximately $50 billion
worldwide in 1998 to approximately $1.3 trillion worldwide in 2003, representing
a compound annual growth rate of approximately 92%. As online commerce and the
number of people using the Internet grow, advertisers and direct marketers are
increasingly using the Internet to locate customers, advertise products or
services and facilitate transactions. Forrester Research estimates that
approximately $1.5 billion was spent on Internet advertising worldwide in 1998
and that this amount will grow to approximately $15.3 billion in 2003.
DIRECT MARKETING
Advertising expenditures can be broadly categorized as either brand
advertising or direct marketing. Brand advertising is intended to generate
awareness and create a specific image for a particular company, product or
service. Direct marketing involves any direct communication to a consumer that
is designed to generate a response in the form of an order, a request for
further
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information or a visit to a place of business. These responses can range from
simple replies to consumer registrations to actual purchases. The Direct
Marketing Association estimates that direct marketing accounts for over 57% of
total U.S. advertising expenditures, and in 1998, marketers spent $80.1 billion
on direct marketing to consumers.
Traditional Direct Marketing. Traditional direct marketing media include
direct mail, telemarketing and direct response advertising in newspapers,
magazines, radio and television. Although traditional direct marketing is
effective and widely used, it presents a number of challenges for marketers and
consumers alike. The traditional direct marketer's targeting process is
inefficient because marketers lack specific and timely information on a
consumer's immediate interests and needs. As a result, marketers spend
considerable resources on communications most consumers don't want or need. For
example, the average response rate to the nearly 3.5 billion mailings of credit
card solicitations in 1998 was only 1.2%, according to BAIGlobal, Inc. Given the
significant costs associated with traditional direct marketing, which include
telecommunications, postage, printing, assembly, labor and facilities, the often
low response rates make the process particularly inefficient.
Online Direct Marketing. Online direct marketing media include banner
advertisements, targeted email solicitations and Web site sponsorships and
promotions. We believe online direct marketing is more attractive than
traditional direct marketing media because it requires lower production costs
and provides easier customer response features. In addition, online direct
marketing allows marketers to more effectively:
- develop one-to-one relationships with consumers;
- interact real-time with consumers;
- collect data and feedback on marketing campaigns; and
- customize marketing campaigns to broad audiences or specific groups.
Even with these advantages, direct marketers face challenges in realizing
the full potential of the Internet as a marketing medium. With millions of Web
sites, only a fraction of which have significant audiences, it is difficult for
marketers to decide where to spend their marketing dollars. Even leading brand
marketers who build their own Web sites must find ways to attract a sizeable
audience of visitors. In addition, technological hurdles may impede conventional
direct marketers from successfully extending their activities to the Internet.
In order to participate in most online marketing efforts, marketers must build
and maintain Web sites as well as incorporate order taking capabilities and
develop systems to integrate online ordering with their traditional databases.
Marketers desire a solution that benefits from the effectiveness of direct
marketing while overcoming the challenges presented by both traditional and
online marketing methods.
THE FREESHOP SOLUTION
FreeShop fundamentally changes the dynamics of direct marketing by putting
consumers in control of the process. As a result, we deliver to marketers a cost
effective way to reach customers who are truly interested in their product or
service. Our solution significantly reduces the inefficiencies associated with
traditional and online direct marketing. Consumers benefit from being able to
select offers that most interest them without being inundated with unwanted
communications.
FreeShop creates a direct marketing network by acting as an intermediary
between consumers and marketers. Consumers seeking to try new products are
presented with a broad selection of free, trial and promotional offers from
marketers seeking an audience of potential customers. FreeShop offers a
consumer-directed process, in which consumers select only those offers that are
of immediate interest to them. We then forward those orders to our clients.
FreeShop's solution
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creates a highly effective method of direct marketing in terms of cost,
targeting, efficiency and consumer satisfaction. Marketers pay us for the number
of customer leads delivered, the number of visitors we direct to their Web site,
or the number of times an advertisement is viewed.
Benefits to Consumers. FreeShop puts consumers in control of the direct
marketing process by empowering them to select offers that most interest them
and meet their individual needs. Through our FreeShop.com Web site, we bring
together consumers and marketers in a fun, interactive environment. FreeShop has
more than 1,000 high-quality offers from over 100 companies such as Johnson &
Johnson, Walt Disney, eBay, US News & World Report, Hammacher Schlemmer and
Columbia House. The offers include items such as catalogs, magazines, product
samples, software and coupons, covering a variety of interests from travel,
personal finance and entertainment to automobiles and sports. In addition,
because many offers are free samples or trial offers, consumers are able to try
new products and services before making purchase decisions. FreeShop allows new
online visitors to sample the experience of online shopping in an easy,
intuitive and risk-free way.
Benefits to Marketers. FreeShop benefits marketers by offering a
cost-effective and low-risk way to acquire customers. Our clients receive
significant visibility from our large traffic base of new and repeat customers.
FreeShop offers marketers a diversity of programs designed to meet their
objectives throughout the entire marketing process, from awareness to interest
to trial to sale. Our services include lead generation, banner advertising, site
sponsorships and sponsorship of the Club FreeShop newsletter. In addition,
because set-up costs are minimal, marketers can test the FreeShop medium with
little risk. Our programs are quick and easy to implement relative to
traditional direct marketing formats. Most importantly, because the process is
consumer-directed, we believe marketers receive higher quality leads and avoid
the risk of tarnishing their brand image as a result of making numerous unwanted
solicitations.
STRATEGY
Our objective is to be the dominant provider of online direct marketing
services. We intend to achieve this objective through the following key
strategies:
Increase Traffic and Transactions. Our strategy to rapidly increase
consumer traffic to our Web site is focused on both new and repeat visitors. New
visits will be driven primarily by our online and offline advertising programs,
our Associates Program of over 14,000 member sites, other traffic partnerships,
including "Powered By FreeShop" participants, word-of-mouth referrals and our
traffic relationships with companies such as Yahoo! Inc., Excite, Inc., Go2Net,
Inc., Microsoft Corporation and Lycos, Inc. We promote repeat visits through
regular email communications to the over 650,000 members of Club FreeShop. In
addition, we encourage repeat visits and additional transactions by seeking to
continually improve the consumer's experience with FreeShop by increasing the
volume and quality of our offers and by improving the speed and overall
ease-of-use of our Web site. In April 1999, over 40% of our orders came from
repeat visitors. Finally, to ensure that we retain our loyal base of consumers,
we monitor the performance of our client marketers in fulfilling orders
generated through our Web site.
Grow Client Base. We believe FreeShop offers marketers a cost-effective
alternative to traditional direct marketing and, as a result, we have a
significant opportunity to grow the number of clients we serve. In particular,
we believe more and more companies with national consumer brands are seeking
Internet-based direct marketing vehicles, and we plan to expand our
relationships with these companies. We are rapidly increasing our sales staff in
order to drive this client growth. We will continue to build upon the services
we offer our clients including enhanced marketing programs, new methods of
presenting offers, expanded and customized data gathering options and increased
opportunities for following up on initial lead generation. In addition to
enhancing our existing marketing programs, we will be developing new programs in
an effort to meet the needs of new and different marketers. Finally, we are
focusing on marketing
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our services to larger advertising agencies as a solution for their client
companies to access the rapid growth of consumers on the Internet.
Continue to Build the FreeShop Brand. We intend to continue to increase
awareness and strength of the FreeShop brand among both consumers and marketers
through site design and focused and aggressive advertising. Because both
consumers and marketers tend to favor well known Web sites, strong brand
presence is critical to our efforts to grow visitor traffic, attract marketing
clients and increase the number and quality of free, trial and promotional
offers on our Web site. To date, we have used our Associates Program, other
traffic partnerships, online advertising and public relations in an effort to
create a leading brand name in our sector. We plan to initiate a major offline
marketing campaign which will include outdoor, radio and print advertising in
key metropolitan markets.
Expand Offers. The number and quality of offers is critical to our ability
to drive visitor traffic and increase revenues from our client marketer base. We
believe that we have a significant competitive advantage in attracting
additional clients with national consumer brands due to our high traffic level
and wide selection of offers across multiple categories. We plan to expand the
number of categories and increase the number of offers within each category. We
will drive this content expansion through a combination of internal sales
efforts, partnerships and acquisitions. As part of this strategy, we are
expanding our relationship with NewSub Services, Inc. to offer consumers access
to over 600 magazine titles. We have also greatly increased the number and
quality of our offers within the catalog and travel categories through the
recent acquisitions of the Catalog Site and Worldwide Brochures Web sites and
related assets. Other categories which we intend to expand in the near future
include product samples, coupons and personal finance.
Continue to Develop and Leverage Technology. We have designed and
implemented numerous proprietary systems that enable us to rapidly and
cost-effectively process orders from consumers and deliver lead generation
information to marketers. We regularly update our Web site and related system
technologies to encourage consumers to place orders and frequently revisit the
FreeShop.com Web site. As part of our effort to drive repeat visits and
additional transaction volume, we continue to develop features that will make
the FreeShop experience faster, easier and more personalized. In addition, we
are enhancing our technology in an effort to maintain our rapid processing time
as orders increase and to expand marketer options for consumer information
received with each order.
Develop Relationship with Fingerhut and Federated. Fingerhut is one of the
largest direct marketers in the United States, selling general merchandise
through catalogs and various Web sites. Currently, Fingerhut's database consists
of over 30 million consumers, and in 1999, Fingerhut expects to distribute over
450 million catalog and promotional mailings. As a result of our participation
in a portion of these mailings, we believe we can increase our customer base
quickly and cost-effectively. We have recently initiated a direct marketing
relationship with Fingerhut that will include Web site links, package inserts,
statement stuffers and "blow in" cards for catalogs. In March 1999, Fingerhut
was acquired by Federated which operates over 400 full-line department stores,
including Bloomingdale's, The Bon Marche, Burdines, Goldsmith's, Lazarus,
Macy's, Rich's and Stern's. Federated also operates direct mail catalog
businesses under the names Bloomingdale's By Mail and Macy's By Mail, and
operates an electronic commerce business which provides goods and services
online under the name macys.com. We are exploring ways to further develop our
relationship with Fingerhut and Federated in order to improve our Web site
content and enhance our customer database.
OUR WEB SITE
We have designed all aspects of our Web site to ensure our site is fast,
enjoyable and easy to use for our customers, to enhance the FreeShop brand and
to encourage customers to request an offer. The site is organized around
categories, events and promotions. We regularly update the
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site to refresh the content and encourage repeat visits by customers. The key
features of Freeshop.com include: offers, promotions, highlighted offers and
Club FreeShop.
Offers. Visitors are attracted to our Web site by the aggregation of free,
trial and promotional offers. Our base of more than 1,000 offers is organized
around categories, currently including: Auto, Business & Career, Catalogs,
Computing & Electronics, Entertainment, Family, Health & Sports, Hobbies, Home &
Living, Image & Fashion, International, Magazines, Men's Style, New Offers,
Personal Finance, Software and Travel. By organizing content into categories, we
allow customers to review offers in their self-selected areas of interest,
providing our clients the ability to do more targeted direct marketing.
Each offer page provides a description of the product offered, delivery
information and any cancellation details for trial offers. The ordering process
is straightforward and requires the customer to provide basic information only
once. FreeShop saves this information, allowing the customer to order any
additional offers in subsequent visits by clicking the "Express Order" button.
After a customer has ordered, we send emails to thank the customer for the order
and, later, to confirm the order has been received. The emails include
information on additional related offers, providing an opportunity to
cross-promote and "upsell" other offers.
Promotions. We combine free offers with items for sale from our clients
organized around seasonal or other events. Promotions run for limited time
periods and include both special offers created solely for individual promotions
as well as offers listed under other categories elsewhere on the site.
Promotions function much like categories, aggregating free and trial offers as
well as products for sale around a central theme.
Highlighted Offers. We have the ability to highlight offers and dynamically
manage the traffic directed to individual offers in various ways. Highlighted
offers on our home page are selected and regularly updated by our staff. These
offers are intended to provide a representation of the wide range of offers
available on our Web site. On subsequent pages, offers are highlighted based on
an automated ranking system.
We also create a list of our site's top offers based on our own assessment
of broad consumer appeal. This allows customers to review several of the site's
best offers without having to explore every category. The list provides a type
of "recommended viewing" guide for customers, which results in increased order
volume for such offers.
Club FreeShop. We designed Club FreeShop to communicate with our most
valued customers. Club members, totalling over 650,000 as of April 1999,
regularly receive email newsletters informing them of special offers, exclusive
contests and other opportunities. Membership in the Club is free and available
to any visitor who chooses to provide an email address to FreeShop. We invite
customers who place orders on FreeShop to join Club FreeShop as a way of
receiving updates about additional items of interest. We anticipate providing
more personalized and targeted offers to Club FreeShop members in the future
which will allow for more focused marketing.
Other Features. As part of our effort to increase traffic on our site from
word-of-mouth advertising, we created Tell-a-Friend. This feature, available
throughout our site, allows a customer to send an email to a friend with a link
to a specific page or offer. In addition, to make our customer's shopping
experience more comfortable, FreeShop has adopted strong privacy and customer
service policies, which are fully explained on our Web site. Our privacy policy
fully complies with the standards of the Direct Marketing Association and
TRUSTe. In addition to enabling customers to limit use of their personal
information by FreeShop, we provide our customers with access to general
information about methods of limiting use of their personal information by other
direct marketers.
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CLIENT SERVICES
We provide numerous services to our marketer clients. Our primary business
is generating customer leads for our clients through free, trial and promotional
offers. We also provide a number of advertising services on our Web site and
within our Club FreeShop newsletters. In addition, we offer the rental of our
customer lists to other marketers. We offer marketers a diversity of programs
designed to meet their objectives along the entire marketing process, from
awareness to interest to trial to sale.
- Lead Generation. We post offers from our clients for catalogs, magazine
and newsletter subscriptions, product samples and information, coupons
and discounts, and trial periods for services, software and publications.
Consumers are able to place orders with us for these offers, and we
deliver this order information to our clients, who are responsible for
fulfilling these orders. Information sent to our clients includes
information required for order fulfillment as well as additional
information requested by the marketer. Marketers pay us for each customer
inquiry, or lead. Another form of lead generation that we provide to our
clients is the aggregation of commerce opportunities on our Web site. We
group these commerce offers in the same categories as free and trial
offers. When consumers decide to purchase a particular item, they click
through from our site to the actual commerce site sponsoring the offer.
In this way, we generate valuable leads to our commerce partners and do
not have responsibility for processing and fulfilling orders for
products.
- Advertising. We offer advertising opportunities through banner ads, site
sponsorships and sponsorships of the Club FreeShop newsletters. Banner
advertising clients benefit from our high traffic volume of consumers who
are likely to be in a shopping mode. Marketing clients can also receive
high-profile placement on our homepage and on specific category pages
through our site sponsorship program. Club FreeShop newsletter
sponsorships appeal to marketers due to the receptive audience the
newsletters reach.
The majority of our contracts are month-to-month, and automatically renew
unless terminated by either party with 10 days notice. Some of our advertising
contracts have longer terms of up to eight months. In the first quarter of 1999,
our top ten clients accounted for 26.6% of revenues and no client accounted for
more than 5.3% of revenues.
SALES AND MARKETING
CONSUMER BASE DEVELOPMENT
To drive traffic to our Web site and increase transactions, we must
continue to enhance the recognition of the FreeShop brand and position ourselves
as a leader in the online direct marketing industry. Additional traffic provides
increased opportunities to add members to our consumer base. The primary methods
we use to build our traffic are online advertising, our Associates Program and
other traffic partnerships, offline advertising and Club FreeShop.
Online Advertising. We recognize the importance of well-placed advertising
in building traffic and the strength of our brand. FreeShop has a number of
marketing relationships with leading Web sites that promote the FreeShop brand
and specific offers to targeted audiences. We continue to seek new
cost-effective advertising vehicles and to optimize our existing ones.
Associates Program and Traffic Partners. We launched our Associates Program
in the fourth quarter of 1998 and, as of June 1999, we had over 14,000
associates. Under the program, we configure a link to our site for an associate
to place on its Web site and pay the associate a fee for traffic and orders
generated from the associate's Web site. In April 1999, the Associates Program
provided over 8.0% of our traffic and 8.7% of our orders. We also offer a
traffic partnership program called "Powered by FreeShop" under which we contract
with larger Web sites, including Go2Net and Excite, to create free-offer content
sites or promotions, which are co-branded with
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the brands of FreeShop and our partners. We share revenues generated from the
co-branded site, but we own any customer information generated. In April 1999,
approximately 11.8% of our traffic and 14.5% of our orders were provided by
other non-Associates Program traffic partnerships, including the "Powered by
FreeShop" program.
Offline Advertising. We plan to supplement our online presence with an
offline marketing campaign, which will include outdoor, radio and print
advertising in key metropolitan markets. We recently hired a creative director
and engaged an advertising agency to assist with campaign development and
provide media placement services. Additionally, we have initiated direct
marketing efforts with Fingerhut that will include package inserts, statement
stuffers and "blow in" cards for catalogs.
We also use public relations as a way to create customer awareness of the
FreeShop brand. We have been the subject of newspaper, magazine, and television
stories. Articles about FreeShop have appeared in Wired Magazine, Advertising
Age, PC World and the Washington Post, among other publications. Television
stories featuring us have been aired nationally on CNBC and CNNfn. We believe
ongoing media coverage will be essential to increase general brand awareness and
to drive new traffic to our site.
Club FreeShop. We created Club FreeShop to communicate with our most valued
customers. Consumers who join Club FreeShop regularly receive email newsletters
informing them of special offers, exclusive contests and other opportunities.
Consumer response to offers contained in the Club FreeShop newsletters is a
significant source of repeat traffic.
CLIENT BASE DEVELOPMENT
We sell our client services primarily through our direct sales force. The
majority of FreeShop's sales organization, which included ten salespeople as of
May 24, 1999, focuses on small and medium-sized clients. Two of our salespeople
specifically target larger national clients and advertising agencies. By
marketing directly to advertising agencies, we are able to position Freeshop as
the online marketing solution for their numerous clients. Our salespeople are
located in Washington, New York, Virginia and California. As part of our
strategy to grow our client base, we intend to significantly increase our sales
force in the near future. In addition, we have an ongoing advertising campaign
designed to promote the FreeShop brand to marketers through various trade and
industry publications.
OPERATIONS AND TECHNOLOGY
We have implemented a broad array of site management, customer service,
transaction processing and fulfillment systems using both proprietary and
licensed technologies. During April 1999, we received a total of approximately
280,000 orders and transmitted order data in various formats and media to over
80 clients on a regular basis. All order information is integrated with our
customer and Club FreeShop member databases to provide for high levels of
internal data analysis. The sophisticated databases and technology supporting
these systems are not available commercially and were developed over a number of
years, acting as a barrier to entry for our competitors.
Our systems are built around Microsoft Backoffice components to provide for
a scalable and redundant platform. In addition to in-house software, we use a
variety of third party software and service solutions to support our business.
LinkShare provides software and support for our Associates Program, DoubleClick
is used for banner ad serving and reporting, and Marketwave software is used for
Web site traffic analysis. These tools are used in conjunction with in-house
developed tools to optimize marketing efforts and to determine the effectiveness
of various campaigns and content on our Web site. Performance monitoring of our
Web site is provided by multiple sources, including Keynote Systems and our
Internet service and Web site hosting partners.
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Web content is posted and modified from our headquarters in Seattle through
a combination of internally developed applications. Visits to FreeShop.com are
directed to a network of Microsoft IIS Web servers at the Mead Group, a hosting
facility, in Seattle. The Mead Group provides redundant power and environmental
controls. In order to provide a high level of security, all order information is
gathered using secure servers at our Seattle headquarters. The Internet
connection to both facilities is provided by Savvis Communications in the form
of DS-3 and multiple T-1 redundant services.
COMPETITION
We face intense competition from both offline and online advertising and
direct marketing companies. We also face competition from established online
portals and community Web sites that engage in direct marketing. Although we
believe no other company offers the combination of attributes we offer, we
compete directly and indirectly for marketers and consumers with companies in
various categories, including:
- Free Offer Web Sites. There are a number of sites, both large and small,
that give consumers access to free offers including Volition.com and
Free2Try.com.
- Specialty Lead Generation Web Sites. Various sites focus on generating
leads for a specific segment of the direct marketing industry such as the
catalog, magazine or coupon segments. While these sites typically provide
a depth of offerings within their specific sector, they may not offer
promotions across a broad spectrum of product categories. These sites
include eNews, Cataloglink and Catalogcity. In some instances, we have
partnerships with these companies and include their offerings on our Web
site.
- Other Web Sites. We also compete with a number of "community" sites that
offer content, services or information about a particular topic as well
as other advertising networks. In addition, we compete with sites
featuring loyalty programs that reward consumers for taking certain
actions.
The number of Web sites competing for consumer attention and marketers'
dollars has proliferated, and we expect that competition will continue to
intensify. We also compete with traditional offline media such as television,
radio and print for a share of marketers' total marketing budgets. We may be
unable to compete successfully against current or future competitors, many of
which have significantly greater financial, technical and marketing resources.
We believe that the principal competitive factors in our markets are:
- brand recognition;
- Web site speed and ease of use;
- quality and diversity of offers; and
- the volume of online visitors, duration and frequency of visits and their
demographic profiles.
GOVERNMENT REGULATION
We are not currently subject to direct federal, state or local regulation
in the United States other than regulations applicable to businesses generally
or directly applicable to electronic commerce. The adoption of such laws could
create uncertainty in Internet usage and reduce the demand for all products and
services. It is possible laws and regulations may be proposed or adopted with
respect to the Internet covering issues such as user privacy, freedom of
expression, pricing, content and quality of products and services, taxation,
advertising, intellectual property rights and information security. Several
states have proposed legislation to limit the use of
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personal user information gathered online or to require online services to
establish privacy policies. In addition, the Federal Trade Commission has
indicated that it may propose legislation on this issue in the near future and
has initiated action against at least one online service regarding the manner in
which personal information was collected from users and provided to third
parties.
We do not know how our business may be affected by the application of
existing laws governing issues such as property ownership, copyrights,
encryption and other intellectual property issues, taxation, libel, obscenity
and export or import matters. Most of these laws were adopted before the advent
of the Internet and do not contemplate or address the unique issues of the
Internet and related technologies. Changes in laws intended to address such
issues could create uncertainty in the Internet marketplace. That uncertainty
could reduce demand for our service or increase the cost of doing business as a
result of litigation costs or increased service delivery costs.
In addition, because our services are available over the Internet in
multiple states and foreign countries, other jurisdictions may claim that we are
required to qualify to do business in each state or foreign country. We are
qualified to do business only in Washington, Minnesota and California. Our
failure to qualify in other jurisdictions when we are required to do so could
subject us to taxes and penalties. It could also restrict our ability to enforce
contracts in those jurisdictions. The application of laws or regulations from
jurisdictions whose laws do not currently apply to our business could have a
material adverse affect on our business, results of operations and financial
condition.
The European Union has adopted a policy directive that went into effect in
1998. Under this directive, business entities domiciled in member states of the
EU are limited in the transactions they may do with business entities domiciled
outside the EU unless they are domiciled in a jurisdiction with privacy laws
comparable to the EU privacy directive. The United States presently does not
have laws that satisfy the EU privacy directive. Discussions between
representatives of the EU and the United States are ongoing and may lead to
certain safe harbor provisions which, if adhered to, would allow business
entities in the EU and the United States to continue to do business without
limitation. If these negotiations are not successful and the EU begins
enforcement of the privacy directive, there could be an adverse impact on
international Internet business. If we do business directly in the EU in the
future we will be required to comply with the privacy directive of the EU.
INTELLECTUAL PROPERTY
We regard our copyrights, service marks, trademarks, trade secrets,
proprietary technology and similar intellectual property as critical to our
success, and we rely on trademark and copyright law, trade secret protection and
confidentiality and license agreements with our employees, customers,
independent contractors, partners and others to protect our intellectual
property rights. We have registered the trademark Free Shop in the United States
and may apply for registration in the United States for other trademarks and
service marks, including Club FreeShop, FreeShop Savings Club, Savings Central,
FreeShop shopping assistant, Catalog Site, Catalog Channel, The Catalog Site and
Worldwide Brochures. "Find It! Try It! Buy It!", "The starting point for smart
online shopping", "Powered by FreeShop" and "FreeShop by Email" are service
marks of FreeShop. However, effective trademark, service mark, copyright and
trade secret protection may not be available in every country in which
FreeShop's products and services are made available online.
We have registered domain names, including: freeshop.com, catalogsite.com,
wwb.com, clubfreeshop.com, and others. Domain names generally are regulated by
Internet regulatory bodies. The regulation of domain names in the United States
and in foreign countries is subject to change. Regulatory bodies could establish
additional top-level domains, appoint additional
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domain name registrars or modify the requirements for holding domain names. As a
result, we may be unable to acquire FreeShop top level domain names in all of
the countries in which we may desire to conduct business in the future. The
relationship between regulations governing domain names and laws protecting
trademarks and similar intellectual property rights is unclear. Therefore, we
could be unable to prevent third parties from acquiring domain names that
infringe or otherwise decrease the value of our trademarks and other proprietary
rights. We believe there are online companies in other countries using domain
names that potentially infringe on our trademarks.
FreeShop may be required to obtain licenses from others to refine, develop,
market and deliver new services. We may be unable to obtain any such license on
commercially reasonable terms or at all or that rights granted by any licenses
will be valid and enforceable.
EMPLOYEES
As of June 15, 1999, FreeShop had a total of 96 employees, including 72 in
sales and marketing, 15 in technology and development, and nine in finance and
administration. None of our employees are represented by unions, and we consider
relations with our employees to be good.
FACILITIES
We currently occupy 20,920 square feet in a leased facility in Seattle,
Washington. We expect that this facility will be adequate for meeting our needs
over the next 12 months. Our current lease expires in May 2003.
LEGAL PROCEEDINGS
FreeShop is not currently a party to any material legal proceeding.
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MANAGEMENT
EXECUTIVE OFFICERS, DIRECTORS AND KEY EMPLOYEES
The following table sets forth certain information, as of June 15, 1999,
regarding the executive officers, directors and key employees of FreeShop:
NAME AGE POSITION
---- --- --------
Timothy C. Choate...................... 34 Chairman, President and Chief Executive
Officer
William H. Fritsch..................... 47 Executive Vice President, Marketing
John A. Wade........................... 36 Secretary, Vice President, Finance and
Chief Financial Officer
Ronald C. Christiansen................. 46 Vice President, Sales
Lisa C. Wolff.......................... 30 Vice President, Business Development
Karen M. Leathers...................... 34 Vice President, Operations and Planning
Mark S. Noblitt........................ 35 Vice President, Technology
John P. Ballantine..................... 35 Director
Kirk M. Loevner........................ 41 Director
John B. Balousek....................... 53 Director
William J. Lansing..................... 40 Director
Timothy C. Choate has served as Chairman, President and Chief Executive
Officer since March 1998. From July 1997 to March 1998, Mr. Choate served as a
vice president of Micro Warehouse. In 1994, Mr. Choate co-founded Online
Interactive, Inc., the former parent of FreeShop, and served as its Chairman,
President and Chief Executive Officer until June 1997. Before 1994, Mr. Choate
served as President of Softdisk Publishing LLC, a software publishing company.
Mr. Choate's prior experience includes serving as a Senior Marketing Manager at
Prodigy, an Internet access and content provider, and developing and launching
the New Products Division for Business Week, a division of the McGraw-Hill
Companies Inc. Mr. Choate serves on the boards of directors of Digital River,
Inc., a provider of electronic commerce outsourcing solutions, and Traveling
Software, Inc., a software publishing company. Mr. Choate has a B.S.E. degree in
Marketing and Entrepreneurial Management from the Wharton School of Business at
the University of Pennsylvania.
William H. Fritsch has served as Executive Vice President, Marketing since
February 1999. Mr. Fritsch joined FreeShop in January 1999 as Vice President,
Sales and Marketing. In 1988, Mr. Fritsch co-founded CF2GS, a Seattle-based
direct marketing agency, and served as its president until 1998. Before 1988,
Mr. Fritsch served as Vice President for Sharp Hartwig Advertising, as the
Director of Marketing Services at Walt Disney Productions, as Marketing
Coordinator for The Smithers Company and as an auditor for Ernst & Ernst. Mr.
Fritsch has a B.S. degree in Accounting from the University of Akron in Ohio.
John A. Wade has served as Secretary, Vice President, Finance and Chief
Financial Officer since May 1998. From 1992 to May 1998, Mr. Wade served as the
Chief Financial Officer and Chief Operating Officer for Buzz Oates Enterprises,
a real estate development company. Prior to 1992, Mr. Wade served as the
controller for A&A Properties, Inc., an asset management corporation, the
controller for Labels West, a manufacturing concern, and as an auditor and
taxation specialist at McGladrey and Pullen, an international accounting firm.
Mr. Wade has a B.S. degree in Business Administration with a concentration in
Accounting from the San Diego State University School of Business.
Ronald C. Christiansen has served as Vice President, Sales since January
1999. In 1988, Mr. Christiansen co-founded CF2GS and served as its New Business
Development Director until 1998. Prior to 1988, Mr. Christiansen worked at
several large national advertising agencies,
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including Cole & Weber (an Ogilvy Mather company) and McCann Erickson. Mr.
Christiansen has an undergraduate degree in Advertising from Washington State
University.
Lisa C. Wolff has served as Vice President, Business Development since July
1998. Ms. Wolff joined FreeShop as Director of Business Development in July
1997. From 1995 to 1997, Ms. Wolff served as Director of Consumer Marketing and
as Product Manager for Online Interactive. From May 1994 to August 1994, Ms.
Wolff served as an Associate Product Manager for Microsoft Corporation's
TechNet. Prior to May 1994, Ms. Wolff worked for two years in corporate sales
and marketing at NeXT Computer, Inc., a computer software and hardware company.
Ms. Wolff has an MBA from the University of Washington and a B.A. degree in
Business Economics from the University of California at Santa Barbara.
Karen M. Leathers has served as Vice President, Operations and Planning
since July 1998. Since joining FreeShop in September 1997, Ms. Leathers has also
served as Director, Operations and Human Resources and Manager of Operations.
From March 1997 to August 1997, Ms. Leathers managed the Web-based data
acquisition team at Affinity Publishing, a partner marketing technology services
company. From 1993 to March 1997, Ms. Leathers managed the corporate Membership
Services Department at Recreational Equipment Incorporated. Prior to 1993, Ms.
Leathers served as a market analyst for Weyerhaeuser Company. Ms. Leathers holds
a B.A. in Business Management and Computers from The Evergreen State College in
Washington.
Mark S. Noblitt has served as Vice President, Technology since February
1999. Since July 1997, Mr. Noblitt has served as Director of Technology,
Production Engineering Manager and SQL Developer. From October 1996 to July
1997, Mr. Noblitt served as SQL Database Administrator for Online Interactive.
From June 1987 to January 1996, Mr. Noblitt served as Project Manager and Lead
Estimator for Leewens Corporation, a company specializing in hazardous waste
containment projects. Mr. Noblitt also serves on the Board of Advisors for
International Barter Corporation, an international commercial barter exchange
company. Mr. Noblitt is a Microsoft Certified Systems Engineer with specialties
in SQL, NT, Microsoft BackOffice, Microsoft Office and TCP/IP.
John P. Ballantine has served as a Director since July 1997. Since March
1999, Mr. Ballantine has served as Chairman and Chief Executive Officer of
iStart Ventures LLC, a company that develops early stage e-commerce concepts.
From July 1997 to March 1998, Mr. Ballantine served as a vice president of Micro
Warehouse. In 1994, Mr. Ballantine co-founded Online Interactive and served as
its Executive Vice President and later as President and Chief Executive Officer.
From February 1993 to June 1994, Mr. Ballantine served as Vice President of
Softdisk Publishing, where he managed online shopping applications with America
Online, CompuServe, Prodigy and GEnie. From March 1989 to February 1993, Mr.
Ballantine served as Vice President of Sales for DataEnvelope, a full-service
software marketing and distribution company. Mr. Ballantine holds a B.S.E. in
Finance and International Business from the San Diego State University School of
Business.
Kirk M. Loevner has served as a Director since November 1998. In February
1999, Mr. Loevner founded PublishOne Inc., an online publishing service for
businesses, of which he is currently President and Chief Executive Officer. From
August 1996 to August 1998, Mr. Loevner served as President and Chief Executive
Officer of the Internet Shopping Network, an online retailer and auction house.
From November 1993 to July 1996, Mr. Loevner served as a vice president and
general manager of Silicon Graphics Inc., a leading supplier of visual computing
and high performance computer systems. Before November 1993, Mr. Loevner served
as a vice president and general manager of Apple Computer Inc., a computer
manufacturing company. Mr. Loevner currently serves on the board of directors of
the Software Industry and Information Association, a software industry
association. Mr. Loevner holds a B.S.E. in Computer Science from Tufts
University and an MBA in General Management from Harvard University.
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John B. Balousek has served as a Director since February 1999. In 1998 Mr.
Balousek co-founded PhotoAlley.com, an internet retailer of photographic
equipment, supplies and services. From 1979 to 1997, Mr. Balousek served in
various positions, including President/Chief Operating Officer and Director of
Foote, Cone & Belding Communications, Inc., a global advertising and
communications company. In 1996 Mr. Balousek served as Chairman/Chief Executive
Officer of True North Technologies, a digital and interactive service of True
North Communications, Foote, Cone & Belding's parent company. Mr. Balousek
currently serves as a director for Geoworks, a provider of end-to-end solutions
for the wireless communications market; Transilluminant Corporation, a
privately-held company focusing on electronic data marketing; and EDB Holdings,
Inc., a superoptical retailing company. Mr. Balousek has an undergraduate degree
from Creighton University and a graduate degree from Northwestern University.
William J. Lansing has served as a Director since January 1999. Mr. Lansing
is the President and Chief Executive Officer of Fingerhut. From May 1998 to May
1999, Mr. Lansing served as President of Fingerhut. From November 1996 to May
1998, Mr. Lansing served as a vice president for business development at General
Electric Corp. From January 1996 to October 1996, he served as Chief Operating
Officer of Prodigy. From 1986 to 1996, Mr. Lansing was a principal at McKinsey &
Co., a management consulting company. Mr. Lansing also serves on the board of
directors of Digital River, Inc., an electronic commerce solutions provider,
Select Comfort Corp., a specialty retailer and direct marketer of air beds, Net
Perceptions, Inc., a developer of Internet marketing solutions and BigStar
Entertainment, Inc., an online filmed entertainment superstore. Mr. Lansing has
a B.A. degree in English from Wesleyan University and a J.D. from Georgetown
University.
Freeshop currently has authorized six directors. Each director is elected
for a period of one year at our annual meeting of shareholders and serves until
the next annual meeting or until his successor is duly elected and qualified.
The executive officers serve at the discretion of the board. There are no family
relationships among any of the directors and executive officers of Freeshop.
BOARD COMMITTEES
In May 1999, the Board established two standing committees of the board of
directors, an audit committee and a compensation committee.
Audit Committee. The audit committee's responsibilities include reviewing
our internal accounting procedures and consulting with and reviewing the
services provided by our independent accountants. The audit committee currently
consists of Messrs. Ballantine and Balousek.
Compensation Committee. The compensation committee's responsibilities
include reviewing and recommending to the board of directors the compensation
and benefits of all our executive officers, administering our stock option plans
and establishing and reviewing general policies relating to compensation and
benefits of our employees. The compensation committee currently consists of
Messrs. Ballantine, Lansing and Loevner.
No interlocking relationships exist between our board of directors or
compensation committee and the board of directors or compensation committee of
any other company, nor has any such interlocking relationship existed in the
past.
DIRECTOR COMPENSATION
Directors do not currently receive cash compensation from FreeShop for
their service as members of the board of directors, although they may be
reimbursed for certain expenses in connection with attendance at board and
committee meetings. We do not provide additional compensation for committee
participation or special assignments of the board of directors. From
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time to time, certain of our directors have received grants of options to
purchase shares of our common stock pursuant to the 1997 Stock Option Plan. In
January 1998, we granted to Mr. Choate and Mr. Ballantine options to purchase
40,000 shares of common stock at an exercise price of $0.41 per share. In
addition, since March 1998, we have paid health insurance premiums on behalf of
Mr. Ballantine of approximately $250 per month. In September 1998, we granted to
Mr. Loevner an option to purchase 40,000 shares of common stock at an exercise
price of $0.60 per share. In February 1999, we granted to Mr. Balousek an option
to purchase 40,000 shares of common stock at an exercise price of $1.00 per
share. See "-- Stock Option Plan."
EXECUTIVE COMPENSATION
The following table sets forth the compensation paid to our Chief Executive
Officer and former Chief Executive Officer for the year ended December 31, 1998.
No other executive officer of FreeShop earned a salary and bonus for such fiscal
year in excess of $100,000.
SUMMARY COMPENSATION TABLE
LONG TERM
ANNUAL COMPENSATION
COMPENSATION -----------------
------------ SECURITIES ALL OTHER
NAME AND PRINCIPAL POSITION SALARY UNDERLYING OPTION COMPENSATION
--------------------------- ------------ ----------------- ------------
Timothy C. Choate(1)....................... $26,825(2) 40,000 $ 5,085(3)
Chairman, President and Chief Executive
Officer
Mike Schutzler(4).......................... $26,951 340,000 $41,420(5)
- ---------------
(1) Mr. Choate became our Chief Executive Officer in March 1998.
(2) Includes $19,220 in deferred compensation paid in January 1999.
(3) Represents health insurance premiums paid by us on behalf of Mr. Choate.
(4) Mr. Schutzler was the Chief Executive Officer until March 1998.
(5) This figure includes a $7,000 cash payment for severance and $36,488 worth
of common stock, at fair value, that Mr. Schutzler received on exercise of
certain options.
OPTION GRANTS IN LAST FISCAL YEAR
The following table sets forth certain information regarding stock option
grants to our Chief Executive Officer and former Chief Executive Officer during
the fiscal year ended December 31, 1998. The potential realizable value is
calculated based on the assumption that the common stock appreciates at the
annual rate shown, compounded annually, from the date of grant until the
expiration of its term. These numbers are calculated based on Securities and
Exchange Commission requirements and do not reflect our projection or estimate
of future stock price growth. Potential realizable values are computed by:
- multiplying the number of shares of common stock subject to a given
option by the exercise price;
- assuming that the aggregate stock value derived from that calculation
compounds at the annual 5% or 10% rate shown in the table for the entire
ten-year term of the option; and
- subtracting from that result the aggregate option exercise price.
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OPTION GRANTS IN 1998
INDIVIDUAL GRANTS POTENTIAL REALIZED
---------------------------------------------------------- VALUE AT ASSUMED
NUMBER OF % OF TOTAL ANNUAL RATES OF STOCK
SECURITIES OPTIONS PRICE APPRECIATION FOR
UNDERLYING GRANTED TO EXERCISE OPTION TERM
OPTIONS EMPLOYEES IN PRICE EXPIRATION -----------------------
NAME GRANTED FISCAL YEAR(1) (PER SHARE)(2) DATE 5% 10%
---- ---------- -------------- -------------- ---------- ---------- ----------
Timothy C. Choate(3)...... 40,000 2.78% $0.41 1/15/08 $10,314 $26,137
Mike Schutzler(4)......... 300,000 20.82% $0.41 3/16/00 $12,608 $25,830
40,000(5) 2.78% $0.41 1/15/08 $10,314 $26,137
- ---------------
(1) During 1998, 350,000 options were issued as severance compensation, 200,000
options were issued as compensation to members of the board of directors for
their services on the Board and 891,050 options were issued to employees.
(2) The exercise price per share of each option was equal to the fair market
value of the common stock on the date of grant as determined by the board of
directors.
(3) Mr. Choate became the Chief Executive Officer in March 1998.
(4) Mr. Schutzler was the Chief Executive Officer until March 1998.
(5) Mr. Schutzler has forfeited these options.
OPTION EXERCISES AND FISCAL YEAR-END VALUES
The following table sets forth for our Chief Executive Officer and former
Chief Executive Officer the number of shares acquired upon exercise of stock
options during the fiscal year ended December 31, 1998 and the number of shares
subject to exercisable and unexercisable stock options held at December 31,
1998.
AGGREGATED OPTION EXERCISES IN 1998
AND YEAR-END OPTION VALUES
NUMBER OF SECURITIES
UNDERLYING UNEXERCISED VALUE OF UNEXERCISED
OPTIONS AT IN-THE-MONEY OPTIONS AT
SHARES DECEMBER 31, 1998 DECEMBER 31, 1998(1)
ACQUIRED ON VALUE --------------------------- ---------------------------
NAME EXERCISE REALIZED EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
---- ----------- -------- ----------- ------------- ----------- -------------
Timothy C. Choate........... -- -- 27,500 12,500 $ 40,700 $18,500
Mike Schutzler.............. 104,250 36,488 300,000 0 $440,000 $ 0
- ---------------
(1) The value of unexercised in-the-money options at December 31, 1998 is based
on $1.89 per share, the assumed fair market value of the common stock at
such time, less the exercise price per share.
NONCOMPETITION AGREEMENTS
Until July 1999, Messrs. Choate and Ballantine are subject to the terms of
noncompetition agreements with Micro Warehouse. Under the terms of the
agreements, Messrs. Choate and Ballantine cannot engage in any business activity
that directly competes with Micro Warehouse's business. We do not believe that
their current positions with FreeShop violate these agreements.
STOCK OPTION PLAN
On June 30, 1997, we adopted our 1997 Stock Option Plan, which was
subsequently approved by our shareholders. The plan authorizes the board of
directors, or a committee of independent directors, to act as the plan
administrator.
The plan provides for the grant of incentive stock options and
non-qualified stock options to purchase up to an authorized total of 6,000,000
shares of common stock. The plan administrator
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may grant incentive stock options to our full-time employees or to our
non-employee directors only. Non-qualified stock options are available to
employees, directors and other persons as the plan administrator shall select.
The plan authorizes the plan administrator to, among other things:
- set the number of shares of common stock to be issued upon exercise of
the options;
- set the exercise price of the options, provided that, for incentive stock
options granted to greater than 10% shareholders, the price cannot be
less that 110% of the fair market value per share of common stock at the
date of grant of such options;
- designate the expiration date of the options, for incentive stock
options, which cannot be later than ten years from the date such options
were granted; and
- accelerate the vesting of the options, which otherwise vest over four
years according to a set schedule.
The 1997 Stock Option Plan will expire on June 30, 2007. The expiration of
the plan, however, will not affect the exercisability of options granted under
the plan prior to the plan's expiration.
401(K) PLAN
Our employees participate in the Freeshop.com, Inc. 401(k) plan, a tax
qualified savings and retirement plan intended to qualify under Section 401 of
the Internal Revenue Code. All employees who satisfy the eligibility
requirements relating to minimum age and length of service are eligible to
participate in the plan and may enter the plan on the first day of any month
after they become eligible to participate. Participants may make pre-tax
contributions to the plan of up to 15% of their eligible earnings, subject to a
statutorily prescribed annual limit. At our discretion, we may make matching
contributions of up to 100% of the first 6% of the compensation elected for
contribution to the plan by an employee. Each participant is fully vested in his
or her contributions and the investment earnings thereon, but vesting in any
matching contributions by us takes place over a period of five years.
Contributions by the participants or us, and the income earned on such
contributions, are generally not taxable to the participants until withdrawn.
Contributions by us, if any, are generally deductible by us when made.
Contributions are held in trust as required by law. Individual participants may
direct the trustee to invest their accounts in authorized investment
alternatives. We have made no matching contributions to the plan as of March 31,
1999.
DIRECTOR AND OFFICER INDEMNIFICATION AND LIABILITY
Our amended and restated articles of incorporation limit the liability of
our directors to the fullest extent permitted by Washington law, and our
articles incorporate by reference any later amendments to the Washington
Business Corporation Act. This Act provides that a corporation's articles of
incorporation may contain a provision eliminating or limiting the personal
liability of directors for monetary damages for breach of their fiduciary duty
as directors, except for liability for:
- acts or omissions that involve intentional misconduct or a knowing
violation of law;
- unlawful payments of dividends or unlawful stock repurchases or
redemptions as provided in Section 23B.08.310 of the Washington Business
Corporation Act; or
- any transaction from which the director derived an improper personal
benefit.
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Our bylaws provide that:
- we must indemnify our directors and officers against all reasonable
expenses incurred in a proceeding in which they are a party because they
are or were a director or officer;
- we must indemnify our directors and officers against liability incurred
in a proceeding in which they are a party because they are or were a
director or officer if:
1. they acted in good faith, and they reasonably believed, in the case
of conduct in the individual's official capacity, that their conduct
was in our best interest and, in all other cases, that their conduct
was at least not opposed to our best interest;
2. in the case of a criminal proceeding, the individual had no
reasonable cause to believe that their conduct was unlawful;
- we may indemnify other employees and agents to the same extent that we
indemnified our officers and directors, unless otherwise required by
law, our articles of incorporation, our bylaws or agreements; and
- we must advance expenses, as incurred, to our directors and executive
officers in connection with a legal proceeding to the fullest extent
permitted by Washington law.
We have entered into agreements with our directors that, among other
things, indemnify them for reasonable expenses incurred in legal proceedings if
the director acted in good faith and with a reasonable belief that such
director's official conduct was in the best interests of FreeShop, or, if not
taken in an official capacity, not opposed to FreeShop's best interests.
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RELATED PARTY TRANSACTIONS
On December 10, 1998, FreeShop issued 4,048,467 shares of its common stock
to Fingerhut Companies Inc. in consideration for $4.0 million ($0.99 per share)
pursuant to an investor subscription agreement. Fingerhut paid $500,000 of the
$4.0 million consideration by converting into common stock the entire principal
balance of a promissory note FreeShop had issued to Fingerhut on December 4,
1998. Immediately following the issuance of such shares, Fingerhut owned 19.9%
of FreeShop's issued and outstanding shares of common stock.
FreeShop also entered into a warrant agreement with Fingerhut under which
FreeShop issued to Fingerhut the following warrants to purchase FreeShop common
stock:
(1) a series of irrevocable "percentage warrants," including
- a warrant to purchase 2,935,356 shares at $1.72 per share;
- a warrant to purchase 1,790,724 shares at $1.99 per share;
- a warrant to purchase 2,089,178 shares at $2.21 per share;
(2) "anti-dilution warrants" to purchase 1,842,877 shares at $2.21 per
share; and
(3) "third party agreement warrants" to purchase 204,720 shares at $1.59
per share.
In May 1999, we agreed to issue to Fingerhut series B convertible preferred
stock on the exercise of their warrants rather than common stock. As of May 24,
1999, Fingerhut exercised percentage warrants for a total of 293,536 shares of
series B convertible preferred stock. These shares will be converted into
2,935,360 shares of common stock upon the completion of this offering.
Subsequently, Fingerhut exercised an additional warrant for a total of 179,072
shares of series B convertible preferred stock. These shares will be converted
into 1,790,720 shares of common stock upon completion of this offering. Any
unexercised warrants held by Fingerhut expire at the completion of this
offering. Pursuant to the terms of an escrow agreement, Fingerhut has agreed to
exercise all of their warrants prior to the completion of this offering, subject
to certain conditions.
FreeShop, Mr. Ballantine and Mr. Choate also entered into a stockholders
agreement with Fingerhut. The stockholders agreement, among other things, grants
Fingerhut a right of first refusal on shares proposed for transfer by Messrs.
Ballantine or Choate, contains agreements among the parties regarding
composition of FreeShop's board of directors, requires approval by the board of
directors of specified actions by FreeShop, grants Fingerhut preemptive rights
to maintain its percentage ownership interest in connection with proposed share
issuances by FreeShop, grants demand and piggyback registration rights to
Fingerhut and provides for drag-along and tag-along rights among the parties
with respect to proposed sales of shares to third parties. The stockholders
agreement terminates generally on the earlier of December 10, 2008 or the
closing of a sale of substantially all of FreeShop's assets or the acquisition
of FreeShop by merger or consolidation. Specific provisions of the stockholders
agreement, including the right of first refusal, right of participation, the
agreements regarding board composition, the special voting requirements, the
preemptive rights and the drag-along and tag-along rights, terminate at the
completion of this offering. In addition, Fingerhut, Mr. Ballantine and Mr.
Choate have entered into a cross-lockup agreement which prevents any of the
parties from selling common stock pursuant to a waiver from Deutsche Bank
Securities Inc. under the lock-up agreements unless the other parties receive
similar waivers.
Recently, Federated purchased Fingerhut. Federated and Fingerhut are
clients of FreeShop. In the first quarter of 1999, we received approximately
$11,000 for services provided to Federated and Fingerhut consisting primarily of
lead generation. William J. Lansing, a member of FreeShop's board of directors,
is the current President and Chief Executive Officer of Fingerhut.
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Mr. Lansing is also a director of BigStar Entertainment, Inc., a client of
FreeShop. In 1998, Bigstar Entertainment paid $42,330 for our services.
In 1988, Messrs. Fritsch and Christiansen founded CF2GS, which was
purchased by True North Communications in April 1994. In March 1998, CF2GS
merged into Bozell Worldwide, another company True North Communications had
purchased in December 1997. Mr. Fritsch ceased his employment with Bozell in
December 1998, and Mr. Christiansen ceased his employment with Bozell in March
1998. In consideration for services provided to FreeShop by Bozell during 1999,
FreeShop issued to Bozell and three Bozell employees options to purchase a total
of 30,000 shares of FreeShop common stock at an exercise price of $1.00 per
share.
During January and February of 1998, Mr. Choate advanced a series of three
loans to FreeShop for a total principal amount of $55,000, each at a 10%
interest rate. Also during this period, Mr. Ballantine advanced two loans to
FreeShop for a total principal amount of $30,000, each at a 10% interest rate.
FreeShop repaid all five of these loans in full in September 1998.
During the period from May 1998 through August 1998, Mr. Ballantine
transferred 115,000 shares of his FreeShop common stock, with an estimated value
of $69,000, and Mr. Choate transferred 25,000 shares of his FreeShop common
stock, with an estimated value of $15,000, to employees of FreeShop as
compensation for services.
In January 1999, we repurchased 125,000 shares of our common stock from Mr.
Ballantine for a total purchase price of $125,000.
We have entered into indemnification agreements with each of our officers
and directors containing provisions that may require us, among other things, to
indemnify our officers and directors against liabilities that may arise by
reason of their status or service as officers and directions, other than
liabilities arising from willful misconduct of a culpable nature, and to advance
their expenses incurred as a result of any proceeding against them as to which
they could be indemnified. See "Management -- Director and Officer
Indemnification and Liability."
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PRINCIPAL SHAREHOLDERS
The following table sets forth certain information concerning the
beneficial ownership of our outstanding common stock as of May 24, 1999 and as
adjusted to reflect the sale of the shares of common stock in this offering:
- each person or group that we know owns beneficially more than 5% of our
common stock;
- each of our directors and executive officers individually; and
- all directors and executive officers as a group.
Certain rules of the Securities and Exchange Commission define the term
"beneficial ownership." Under these rules, the term includes shares over which
the indicated beneficial owner exercises voting and/or investment power. The
rules also deem common stock subject to options currently exercisable, or
exercisable within 60 days, to be outstanding for purposes of computing the
percentage ownership of the person holding the options but do not deem such
stock to be outstanding for purposes of computing the percentage ownership of
any other person. The applicable percentage of ownership for each stockholder is
based on 20,608,174 shares of common stock outstanding as of May 24, 1999,
together with applicable options and warrants for that shareholder. Except as
otherwise indicated, we believe the beneficial owners of the common stock listed
below, based on information furnished by them, have sole voting and investment
power over the number of shares listed opposite their names. The information
provided in the table below assumes no exercise of the underwriters'
over-allotment option.
PERCENT OF
NUMBER OF SHARES OUTSTANDING
SHARES --------------------
NAME AND ADDRESS BENEFICIALLY BEFORE AFTER
OF BENEFICIAL OWNER OWNED OFFERING OFFERING
------------------- ------------------ -------- --------
Fingerhut Companies, Inc.(1)....................... 12,739,937 43.5%
4400 Baker Road
Minnetonka, Minnesota 55343
Timothy C. Choate(2)............................... 4,522,420 21.9%
95 South Jackson Street, Ste. 300
Seattle, WA 98104
John P. Ballantine(3).............................. 4,139,347 20.1%
95 South Jackson Street, Ste. 300
Seattle, WA 98104
Kirk M. Loevner(4)................................. 210,427 1.0%
John B. Balousek(5)................................ 125,000 *
John A. Wade(6).................................... 95,500 *
William H. Fritsch(7).............................. 64,417 *
William J. Lansing................................. -- *
All directors and officers as a group
(11 persons)(8).................................. 9,387,122 44.4%
- ---------------
* Less than one percent of the outstanding shares of common stock.
(1) Represents 6,983,827 shares (including 293,536 shares of series B preferred
stock, which will be converted into 2,935,360 shares of common stock upon
the completion of this offering) held by Fingerhut directly and 5,756,110
shares of common stock that Fingerhut has a right to acquire pursuant to
warrants exercisable into series B convertible preferred stock within sixty
days of May 24, 1999. Fingerhut is a wholly-owned subsidiary of Federated
Department Stores, Inc. and, as such, our capital stock owned by Fingerhut
may also be deemed to be beneficially owned by Federated.
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(2) Represents 4,457,420 shares held by Mr. Choate directly, 30,000 shares held
by a trust established for Mr. Choate's children and 35,000 shares that Mr.
Choate has a right to acquire pursuant to options exercisable within sixty
days of May 24, 1999.
(3) Represents 4,104,347 shares held by Mr. Ballantine directly and 35,000
shares that Mr. Ballantine has a right to acquire pursuant to options
exercisable within sixty days of May 24, 1999.
(4) Represents 182,927 shares held by Kirk Loevner Trust w/d/t dated 8/5/96
directly and 27,500 shares that Mr. Loevner has a right to acquire pursuant
to options exercisable within sixty days of May 24, 1999.
(5) Represents 75,000 shares held by the Balousek Family Limited Partnership
and 25,000 shares held by the Balousek 1994 Irrevocable Trust and 25,000
shares that Mr. Balousek has a right to acquire pursuant to options
exercisable within sixty days of May 24, 1999.
(6) Represents 50,000 shares held by Mr. Wade directly and 45,500 shares that
the Mr. Wade has a right to acquire pursuant to options exercisable within
sixty days of May 24, 1999.
(7) Represents 41,667 shares held by Mr. Fritsch directly and 22,750 shares
that Mr. Fritsch has a right to acquire pursuant to options exercisable
within sixty days of May 24, 1999.
(8) Represents 9,149,661 shares listed as to all current directors and
executive officers and includes 237,461 shares issuable within sixty days
of May 24, 1999 upon the exercise of outstanding options.
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DESCRIPTION OF CAPITAL STOCK
Our authorized capital stock consists of 100,000,000 shares of common
stock, no par value per share, and 10,000,000 shares of preferred stock, no par
value per share.
COMMON STOCK
As of May 24, 1999, there were 23,543,534 shares of our common stock issued
and outstanding (including shares issuable upon conversion of outstanding series
of preferred stock), held of record by 110 shareholders. Holders of common stock
are entitled to one vote per share on all matters to be voted upon by the
shareholders. The articles of incorporation do not authorize cumulative voting
for the election of directors, which means that the holders of a majority of the
shares voted can elect all of the directors then standing for election. Subject
to preferences of any outstanding shares of preferred stock, holders of common
stock are entitled to receive ratably any dividends the board of directors
declares out of funds legally available for the payment of dividends. If we are
liquidated, dissolved or wound up, the holders of common stock are entitled to
share in proportion to the percentage of their ownership all assets remaining
after payment of liabilities and liquidation preferences of any outstanding
shares of preferred stock. Holders of shares of common stock have no preemptive
or conversion rights or other subscriptive rights, and there are no redemption
or sinking fund provisions that apply to the common stock. All outstanding
shares of common stock are fully paid and nonassessable, and the shares of
common stock in this offering will be fully paid and nonassessable.
PREFERRED STOCK
In June 1997, we designated 1,935,484 shares of series A convertible
preferred stock, all of which was issued and later converted into common stock
in July 1997. In May 1999, we designated 1,250,000 shares of series B
convertible preferred stock. As of May 24, 1999, we had outstanding 293,536
shares of series B convertible preferred stock. The series B convertible
preferred stock has identical rights and preferences as common stock except that
it has no voting rights. Each share of series B convertible preferred stock is
convertible into ten shares of common stock at the option of the holder or upon
the completion of this offering.
Subject to the provisions of the articles of incorporation and limitations
prescribed by law, the board of directors has the authority to issue, without
further vote or action by the shareholders, up to 6,814,516 additional shares of
preferred stock in one or more series. The board has the authority to fix the
rights, preferences, privileges and restrictions of the shares of each series
including dividend rights, convertibility, voting rights, redemption rights,
liquidation preferences and the number of shares constituting any series and the
designation of such series. Issuance of preferred stock, while providing
desirable flexibility in connection with possible acquisitions and other
corporate purposes, could have the effect of making it more difficult for a
third party to acquire, or of discouraging a third party from attempting to
acquire, a majority of our outstanding voting stock.
WARRANTS
As of May 24, 1999, Fingerhut held irrevocable "percentage warrants" to
purchase 387,990 shares of our series B convertible preferred stock;
"anti-dilution warrants" to purchase 184,288 of our series B convertible
preferred stock; and "third party agreement warrants" to purchase 20,472 shares
of our series B convertible preferred stock. All Fingerhut warrants will expire
at the closing of this offering, if not previously exercised. Pursuant to the
terms of an escrow agreement, Fingerhut has agreed to exercise the remainder of
their warrants prior to the completion of this offering, subject to certain
conditions. See "Related Party Transactions."
In addition to the warrants held by Fingerhut, as of May 24, 1999 we had
warrants outstanding to purchase 69,250 shares of common stock. Generally, each
warrant contains
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provisions for the adjustment of the exercise price and the number of shares
issuable upon the exercise of the warrant upon the occurrence of events such as
stock dividends, stock splits, reorganizations, reclassifications and
consolidations.
REGISTRATION RIGHTS
According to the terms of a stockholders agreement between us, Fingerhut,
Messrs. Choate and Ballantine, Fingerhut is entitled to make a one-time demand
that we file a registration statement with respect to shares of common stock
owned by Fingerhut. However, we are not required to effect this "demand
registration" before June 30, 2001 and may postpone the registration for up to
180 days for bona fide business reasons. In addition, under the stockholders
agreement, Fingerhut is entitled to "piggyback" registration rights in
connection with any registration by us of our securities for our own account or
for the account of other security holders (other than in this offering and in
any registration of securities to be issued in connection with an acquisition or
under our employee compensation plans). If we propose to register any shares of
common stock under the Securities Act, Fingerhut is entitled to receive notice
and to include its shares in the registration statement, subject to certain
limitations. Fingerhut is entitled to two piggyback registrations under the
agreement.
We have also granted piggyback registration rights to Commonsite with
respect to 132,300 shares of common stock in connection with our acquisition of
substantially all of the assets of Commonsite. Under the terms of the
registration rights agreement, after completion of this offering, Commonsite is
entitled to one piggyback registration in connection with any registration by us
of our securities for our own account or for the account of other security
holders (other than any registration of securities to be issued in connection
with an acquisition or under our employee compensation plans). If we propose to
register any shares of common stock under the Securities Act, Commonsite is
entitled to receive notice and to include its shares in the registration
statement, subject to certain limitations.
ANTI-TAKEOVER EFFECTS OF CERTAIN CHARTER AND BYLAWS PROVISIONS AND THE
WASHINGTON BUSINESS CORPORATION ACT
Articles and Bylaws. Our articles of incorporation and bylaws contain
provisions that may have the effect of delaying, deferring or preventing a
change in control. Neither the articles of incorporation nor the bylaws provide
for cumulative voting in the election of directors. Furthermore, the
authorization of undesignated preferred stock makes it possible for the board of
directors to issue preferred stock with voting or other rights or preferences
that could impede the success of any attempt to change control of FreeShop.
Washington Business Corporation Act. Washington law imposes restrictions on
certain transactions between a corporation and certain significant shareholders.
Chapter 23B.19 of the Washington Business Corporation Act prohibits a "target
corporation," with some exceptions, from engaging in certain significant
business transactions with a person or group of persons that beneficially owns
10% or more of the voting securities of the target corporation (an Acquiring
Person) for a period of five years after such acquisition, unless the
transaction or acquisition of shares is approved by a majority of the members of
the target corporation's board of directors prior to the time of acquisition.
Transactions prohibited by this statute include, among others,
- a merger or consolidation with, disposition of assets to, or issuance or
redemption of stock to or from, the Acquiring Person;
- termination of 5% or more of the employees of the target corporation as a
result of the Acquiring Person's acquisition of 10% or more of the
shares; or
- allowing the Acquiring Person to receive any disproportionate benefit as
a shareholder.
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After the five-year period, a "significant business transaction" may occur,
as long as it complies with certain "fair price" provisions of the statute. A
public corporation may not "opt out" of this statute. This provision may have
the effect of delaying, deferring or preventing a change in control of FreeShop.
TRANSFER AGENT AND REGISTRAR
The registrar and transfer agent for our common stock is ChaseMellon
Shareholder Services, L.L.C. Its address is 400 South Oak Street, 4th Floor, Los
Angeles, California 90071, and its telephone number at this location is (213)
553-9731 .
LISTING
We have applied to list our common stock on the Nasdaq National Market
under the trading symbol "FSHP."
SHARES ELIGIBLE FOR FUTURE SALE
Future sales of substantial amounts of our common stock in the public
market could adversely affect prevailing market prices of our common stock.
Furthermore, because no shares will be available for sale shortly after this
offering because of certain contractual and legal restrictions on resale
described below, sales of substantial amounts of common stock in the public
market after these restrictions lapse could adversely affect the prevailing
market price and our ability to raise equity capital in the future.
Upon completion of this offering and based on shares of common stock
outstanding as of May 24, 1999, we will have outstanding an aggregate of
shares of our common stock, assuming no exercise of the underwriters'
over-allotment option and no exercise of outstanding options. Of these shares,
shares sold in this offering will be freely tradable without restriction or
further registration under the Securities Act, unless such shares are purchased
by "affiliates" as that term is defined in Rule 144 under the Securities Act.
The remaining 20,608,174 shares of common stock held by existing shareholders
are "restricted securities" as that term is defined in Rule 144 under the
Securities Act. Restricted securities may be sold in the public market only if
registered or if they qualify for an exemption from registration under Rule 144
or 701 promulgated under the Securities Act, which rules are summarized below.
Lock-Up Agreements. A majority of shareholders, including each of our
officers and directors, who hold an aggregate of 26,938,486 shares of common
stock (which includes common stock issuable upon conversion of series B
convertible preferred stock), have agreed not to offer, sell, contract to sell
or otherwise dispose of, or enter into any transaction that is designed to, or
could be expected to, result in the disposition of any portion of, any common
stock for a period of 180 days after the effective date of the registration
statement of which this prospectus is a part, without the prior written consent
of Deutsche Bank Securities Inc. This consent may be given at any time without
public notice. We have entered into a similar agreement, except that we may
issue, and grant options or warrants to purchase, common stock or any securities
convertible into, or exercisable for or exchangeable for, shares of common
stock, pursuant to the exercise of outstanding options and warrants and the
issuance of options granted under our existing stock option plans. In addition,
Fingerhut, Mr. Ballantine and Mr. Choate have entered into a cross-lockup
agreement which prevents any of the parties from selling stock pursuant to a
waiver from Deutsche Bank Securities Inc. under the lock-up agreements unless
the other parties receive similar waivers.
Before taking into account the lock-up agreements, the following shares
will be eligible for sale in the public market at the following times:
- Beginning on the effective date of the offering, shares will be
immediately available for sale in the public market.
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- Beginning 90 days after the effective date of the offering, approximately
shares will be eligible for sale pursuant to Rules 144 and 701.
- An additional shares will become eligible for sale pursuant to Rule
144 at various times after 90 days from the effective date of the
offering. Shares eligible to be sold by affiliates pursuant to Rule 144
are subject to volume restrictions as described below.
Rule 144. In general, under Rule 144 as currently in effect, beginning 90
days after the date of this prospectus, a person who has beneficially owned
shares of our common stock for at least one year would be entitled to sell
within any three-month period a number of shares that does not exceed the
greater of:
- 1% of the number of shares of common stock then outstanding, which will
equal approximately shares immediately after this offering; or
- the average weekly trading volume of the common stock on the Nasdaq
National Market during the four calendar weeks preceding the filing of a
notice on Form 144 with respect to such sale.
Sales under Rule 144 are also subject to certain manner of sale provisions
and notice requirements and to the availability of current public information
about us.
Rule 144(k). Under Rule 144(k), a person who is not deemed to have been one
of our affiliates at any time during the 90 days preceding a sale, and who has
beneficially owned the shares proposed to be sold for at least two years,
including the holding period of any prior owner other than an affiliate, is
entitled to sell such shares without complying with the manner of sale, public
information, volume limitation or notice provisions of Rule 144. Therefore,
unless otherwise restricted, "144(k) shares" may be sold immediately upon the
completion of this offering.
Rule 701. In general, under Rule 701 of the Securities Act as currently in
effect, any of our employees, consultants or advisors who purchases shares from
us in connection with a compensatory stock or option plan or other written
agreement is eligible to resell such shares 90 days after the effective date of
this offering in reliance on Rule 144, but without compliance with certain
restrictions, including the holding period, contained in Rule 144.
Registration Rights. Upon completion of this offering, Fingerhut and
Commonsite will be entitled to rights with respect to the registration of shares
of our common stock under the Securities Act. See "Description of Capital
Stock -- Registration Rights." After such a registration, these shares become
freely tradable without restriction under the Securities Act. Neither Fingerhut
nor Commonsite will have any obligation or other restrictions on resale with
respect to any of our securities, other than restrictions imposed by lock-up
agreements and applicable securities laws. Any sales of securities by these
shareholders could have a material adverse effect on the trading price of our
common stock.
Stock Options. Immediately after this offering, we intend to file a
registration statement under the Securities Act covering up to 6,000,000 shares
of common stock reserved for issuance under our 1997 Stock Option Plan. As of
May 24, 1999, options to purchase 2,413,530 shares of common stock were issued
and outstanding. Upon the expiration of the lock-up agreements described above,
at least shares of common stock will be subject to vested options (based on
options outstanding as of May 24, 1999). Such registration statement is expected
to be filed and become effective as soon as practicable after the effective date
of this offering. Accordingly, shares registered under such registration
statement will, subject to vesting provisions and Rule 144 volume limitations
applicable to our affiliates, be available for sale in the open market
immediately after the 180-day lock-up agreements expire.
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UNDERWRITING
Subject to the terms and conditions of the underwriting agreement, the
underwriters named below, through their representatives Deutsche Bank Securities
Inc., Dain Rauscher Wessels, a division of Dain Rauscher Incorporated, and Volpe
Brown Whelan & Company, LLC have severally agreed to purchase from us the
following respective numbers of shares of common stock at the public offering
price less the underwriting discounts and commissions set forth on the cover
page of this prospectus.
NUMBER
UNDERWRITER OF SHARES
----------- ---------
Deutsche Bank Securities Inc. ..............................
Dain Rauscher Wessels.......................................
Volpe Brown Whelan & Company, LLC...........................
--------
Total.............................................
The underwriting agreement provides that the obligations of the
underwriters are subject to certain conditions and that the underwriters will
purchase all the shares of common stock offered by this prospectus, other than
those covered by the over-allotment option described below, if any of such
shares are purchased.
We have been advised by the representatives that the underwriters propose
to offer the shares of common stock directly to the public at the offering price
set forth on the cover page of this prospectus and to certain dealers at such
price less a concession not in excess of $ per share. The underwriters may
allow, and such dealers may re-allow, a concession not in excess of $ per
share to certain other dealers. After the initial public offering, the offering
price and other selling terms may be changed by the representatives.
We have granted to the underwriters an option, exercisable not later than
30 days after the date of this prospectus, to purchase up to additional
shares of common stock at the public offering price less the underwriting
discounts and commissions set forth on the cover page of this prospectus. The
underwriters may exercise this option only to cover over-allotments made in
connection with the sale of the common stock offered in this prospectus. To the
extent the underwriters exercise the option, each of the underwriters will
become obligated, subject to certain conditions, to purchase approximately the
same percentage of additional shares of common stock as the number of shares of
common stock to be purchased by it in the above table bears to the total listed
above. We will be obligated, pursuant to the option, to sell these shares to the
underwriters to the extent the option is exercised. If any additional shares of
common stock are purchased, the underwriters will offer such additional shares
on the same terms as those on which the shares are being offered.
The following table summarizes the compensation that we will pay to the
underwriters in connection with this offering.
TOTAL
-------------------------------
WITHOUT WITH
PER SHARE OVER-ALLOTMENT OVER-ALLOTMENT
--------- -------------- --------------
Underwriting discounts and commissions paid by us.... $ $ $
We have agreed to indemnify the underwriters against certain liabilities,
including liabilities under the Securities Act, and to contribute to payments
the underwriters may be required to make with respect to such liabilities.
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The representatives have advised us that the underwriters do not intend to
confirm orders to any account over which they exercise discretionary authority.
In order to facilitate the offering of the common stock, the underwriters
may engage in transactions that stabilize, maintain or otherwise affect the
market price of the common stock. Specifically, the underwriters may over-allot
shares of the common stock in connection with this offering, thus creating a
short position in the common stock for their own account. Additionally, to cover
these over-allotments or to stabilize the market price of the common stock, the
underwriters may bid for, and purchase, shares of the common stock in the open
market. Finally, the representatives, on behalf of the underwriters, may reclaim
selling concessions allowed to an underwriter or dealer if the underwriting
syndicate repurchases shares distributed by that underwriter or dealer. Any of
these activities may maintain the market price of our common stock at a level
above that which might otherwise prevail in the open market. The underwriters
are not required to engage in these activities and, if commenced, may end any of
these activities at any time.
We estimate that the total expenses of the offering, excluding underwriting
discounts and commissions, will be approximately $ .
The underwriters, at our request, have reserved for sale at the initial
public offering price up to shares of common stock for visitors to our
Web site and users of our services who express an interest in purchasing these
shares. Any reserved shares not so purchased will be offered by the underwriters
on the same basis as the other shares offered by this prospectus.
PRICING OF THE OFFERING
Prior to this offering, there has been no public market for our common
stock. Consequently, the initial public offering price for our common stock will
be determined by negotiation among FreeShop and the representatives of the
underwriters. Among the factors to be considered in determining the public
offering price will be:
- prevailing market conditions;
- our results of operations in recent periods;
- the present stage of our development;
- the market capitalizations and stages of development of other companies
we and the representatives believe to the comparable to us; and
- estimates of our business potential.
LEGAL MATTERS
Dorsey & Whitney LLP, Seattle, Washington, will pass upon the legality of
the shares offered by this prospectus. Perkins Coie LLP, Seattle, Washington,
will pass upon certain legal matters for the underwriters. A partner of Dorsey &
Whitney LLP owns an aggregate of 28,080 shares of our common stock.
EXPERTS
The financial statements of Freeshop as of December 31, 1997 and 1998 and
for the years ended June 30, 1996 and 1997, the six months ended December 31,
1997 and the year ended December 31, 1998, included in this prospectus, have
been included in reliance on the report of PricewaterhouseCoopers LLP,
independent accountants, given on the authority of PricewaterhouseCoopers as
experts in auditing and accounting.
The financial statements of Commonsite as of December 31, 1998 and for the
year then ended that are included in this prospectus, have been included in
reliance on the report of
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PricewaterhouseCoopers LLP, independent accountants, given on the authority of
PricewaterhouseCoopers as experts in auditing and accounting.
The financial statements of Travel Companions International as of December
31, 1998 and for the year then ended that are included in this prospectus, have
been included in reliance on the report of PricewaterhouseCoopers LLP,
independent accountants, given on the authority of PricewaterhouseCoopers as
experts in auditing and accounting.
WHERE YOU CAN FIND MORE INFORMATION
We have filed with the Securities and Exchange Commission a registration
statement on Form S-1 covering the shares being sold in this offering. We have
not included in this prospectus some information contained in the registration
statement, and you should refer to the registration statement, including
exhibits and schedules filed with the registration statement, for further
information. You may review without charge a copy of the registration statement
at the public reference section of the Securities and Exchange Commission in
Room 1024, Judiciary Plaza, 450 5th Street, N.W., Washington, D.C. 20549; and at
the SEC's Regional Office located at 7 World Trade Center, Suite 1300, New York,
New York 10048 and 1400 Citicorp Center, 500 West Madison Street, Chicago, IL
60661. You may also obtain copies of such materials at prescribed rates from the
public reference section at the Commission, Room 1024, Judiciary Plaza, 450 5th
Street, N.W., Washington, D.C. 20549. In addition, the Securities and Exchange
Commission maintains a Web site on the Internet at the address
http://www.sec.gov that contains reports, proxy and information statements and
other information regarding registrants that file electronically with the
Securities and Exchange Commission.
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INDEX TO FINANCIAL STATEMENTS
FREESHOP.COM, INC.
FINANCIAL STATEMENTS
PAGE
----
Report of Independent Accountants........................... F-2
Balance Sheet for the periods ended December 31, 1997,
December 31, 1998 and March 31, 1999 (unaudited).......... F-3
Statement of Operations for the periods ended June 30, 1996,
June 30, 1997, December 31, 1997, December 31, 1998, March
31, 1998 (unaudited) and March 31, 1999 (unaudited)....... F-4
Statement of Changes in Mandatorily Redeemable Preferred
Stock and Shareholders' Equity/Division Equity for the
periods ended June 30, 1996, June 30, 1997, December 31,
1997, December 31, 1998 and March 31, 1999 (unaudited).... F-5
Statement of Cash Flows for the periods ended June 30, 1996,
June 30, 1997, December 31, 1997, December 31, 1998, March
31, 1998 (unaudited) and March 31, 1999 (unaudited)....... F-6
Notes to Financial Statements............................... F-7
COMMONSITE, LLC
FINANCIAL STATEMENTS
Report of Independent Accountants........................... F-20
Statement of Financial Position as of December 31, 1998..... F-21
Statement of Operations and Members' Deficit for the year
ended December 31, 1998................................... F-22
Statement of Cash Flows for the year ended December 31,
1998...................................................... F-23
Notes to Financial Statements............................... F-24
TRAVEL COMPANIONS INTERNATIONAL, INC.
FINANCIAL STATEMENTS
Report of Independent Accountants........................... F-27
Balance Sheet as of December 31, 1998....................... F-28
Statement of Income for the year ended December 31, 1998.... F-29
Statement of Stockholders' Deficit for the year ended
December 31, 1998......................................... F-30
Statement of Cash Flows for the year ended December 31,
1998...................................................... F-31
Notes to Financial Statements............................... F-32
FREESHOP.COM, INC.
UNAUDITED PRO FORMA COMBINED FINANCIAL INFORMATION
Unaudited Pro Forma Combined Financial Information.......... F-35
Unaudited Pro Forma Combined Balance Sheet as of March 31,
1999...................................................... F-36
Unaudited Pro Forma Combined Statement of Operations for the
year ended December 31, 1998 and the three months ended
March 31, 1999............................................ F-37
Notes to Unaudited Pro Forma Combined Financial
Statements................................................ F-38
F-1
60
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Shareholders
of FreeShop.com, Inc.
In our opinion, the accompanying balance sheet and the related statements
of operations, of changes in mandatorily redeemable convertible preferred stock
and shareholders' equity/division equity and of cash flows present fairly, in
all material respects, the financial position of FreeShop.com, Inc. at December
31, 1997 and 1998, and the results of its operations and its cash flows for the
years ended June 30, 1996 and 1997, the six-month period ended December 31, 1997
and the year ended December 31, 1998, in conformity with generally accepted
accounting principles. 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 of these
statements in accordance with generally accepted auditing standards which
require that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for the opinion expressed above.
As described in Note 1, FreeShop.com, Inc. was a wholly owned subsidiary of
Online Interactive, Inc. prior to July 1, 1997.
PricewaterhouseCoopers LLP
Seattle, Washington
April 16, 1999, except as to paragraphs two through four
of Note 13 which are as of June 18, 1999.
F-2
61
FREESHOP.COM, INC.
BALANCE SHEET
DECEMBER 31, MARCH 31,
------------------------- -----------
1997 1998 1999
----------- ----------- -----------
(UNAUDITED)
ASSETS
Cash and cash equivalents......................... $ 26,329 $ 2,892,144 $ 1,330,482
Accounts receivable, net.......................... 204,691 339,179 484,648
Prepaid expenses.................................. 13,598 30,497 163,686
----------- ----------- -----------
Total current assets......................... 244,618 3,261,820 1,978,816
Property and equipment, net....................... 354,496 381,296 558,970
Other assets and deposits......................... 45,818 43,454 43,454
----------- ----------- -----------
$ 644,932 $ 3,686,570 $ 2,581,240
=========== =========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Accounts payable.................................. $ 247,491 $ 464,872 $ 510,132
Accrued and other liabilities..................... 68,966 670,857 820,847
Payable to Online Interactive, Inc................ 27,269
Current portion of capital lease obligations...... 59,081 112,327 117,386
----------- ----------- -----------
Total current liabilities.................... 402,807 1,248,056 1,448,365
----------- ----------- -----------
Long-term convertible debt........................ 50,000
Capital lease obligations, net of current
portion......................................... 159,757 144,727 113,413
Commitments (Note 9)
Mandatorily redeemable preferred stock, Series A
convertible, no par value; 10,000,000 shares
authorized, none issued and outstanding at
December 31, 1997 and 1998 and March 31, 1999,
liquidation value $0.086........................
Shareholders' equity
Common stock, no par value; 100,000,000 shares
authorized, 13,993,970 issued and outstanding
at December 31, 1997, 20,352,354 issued and
outstanding at December 31, 1998 and
20,440,874 issued and outstanding at March
31, 1999 (unaudited)......................... 2,699,518 7,816,328 7,879,761
Additional paid-in capital...................... 62,968 294,529 1,034,976
Note receivable from shareholder................ (25,000)
Deferred stock compensation..................... (12,927) (675,054)
Accumulated deficit............................. (2,655,118) (5,854,143) (7,220,221)
----------- ----------- -----------
Total shareholders' equity................... 82,368 2,243,787 1,019,462
----------- ----------- -----------
$ 644,932 $ 3,686,570 $ 2,581,240
=========== =========== ===========
The accompanying notes are an integral part of these financial statements.
F-3
62
FREESHOP.COM, INC.
STATEMENT OF OPERATIONS
SIX MONTHS THREE MONTHS ENDED
YEAR ENDED JUNE 30, ENDED YEAR ENDED MARCH 31,
------------------------ DECEMBER 31, DECEMBER 31, -------------------------
1996 1997 1997 1998 1998 1999
---------- ----------- ------------ ------------ ----------- -----------
(UNAUDITED)
Net revenues......... $1,270,949 $ 1,197,757 $ 534,733 $ 1,250,940 $ 220,136 $ 666,579
Cost of revenues..... 310,308 313,672 139,451 216,557 38,420 83,106
---------- ----------- ----------- ----------- ----------- -----------
Gross profit......... 960,641 884,085 395,282 1,034,383 181,716 583,473
---------- ----------- ----------- ----------- ----------- -----------
Operating expenses
Sales and
marketing........ 624,560 1,809,912 1,192,062 3,248,429 506,885 1,553,810
Research and
development...... 65,694 137,226 187,534 407,053 120,307 151,783
General and
administrative... 298,808 380,829 158,334 514,854 126,935 256,368
---------- ----------- ----------- ----------- ----------- -----------
Total operating
expenses...... 989,062 2,327,967 1,537,930 4,170,336 754,127 1,961,961
---------- ----------- ----------- ----------- ----------- -----------
Operating loss....... (28,421) (1,443,882) (1,142,648) (3,135,953) (572,411) (1,378,488)
Interest expense..... 6,226 65,654 12,152 13,048
Other (income)
expense............ (2,582) (25,458)
---------- ----------- ----------- ----------- ----------- -----------
Loss before income
tax expense........ (28,421) (1,443,882) (1,148,874) (3,199,025) (584,563) (1,366,078)
Income tax expense...
---------- ----------- ----------- ----------- ----------- -----------
Net loss............. $ (28,421) $(1,443,882) $(1,148,874) $(3,199,025) $ (584,563) $(1,366,078)
========== =========== =========== =========== =========== ===========
Basic and diluted net
loss per share..... $ (0.00) $ (0.13) $ (0.09) $ (0.21) $ (0.04) $ (0.07)
========== =========== =========== =========== =========== ===========
Weighted-average
shares used in
computing net loss
per share.......... 11,502,050 11,502,050 12,972,275 15,559,315 14,218,990 20,376,622
========== =========== =========== =========== =========== ===========
The accompanying notes are an integral part of these financial statements.
F-4
63
FREESHOP.COM, INC.
STATEMENT OF CHANGES IN MANDATORILY REDEEMABLE PREFERRED STOCK AND
SHAREHOLDERS' EQUITY/DIVISION EQUITY
MANDATORILY
REDEEMABLE
CONVERTIBLE NOTE
PREFERRED STOCK COMMON STOCK ADDITIONAL RECEIVABLE
---------------------- ----------------------- PAID-IN FROM DEFERRED
SHARES AMOUNT SHARES AMOUNT CAPITAL SHAREHOLDER COMPENSATION
---------- --------- ---------- ---------- ---------- ----------- ------------
Balance at June 30, 1995......... -- $ -- -- $ -- $ -- $ -- $ --
Capital contributions............
Net loss.........................
---------- --------- ---------- ---------- ---------- -------- -----------
Balance at June 30, 1996......... -- -- -- -- -- -- --
Capital contributions............
Issuance of common and Series A
preferred stock in connection
with spin-off................... 1,935,484 279,196 11,502,050 1,659,182
Net loss.........................
---------- --------- ---------- ---------- ---------- -------- -----------
Balance at June 30, 1997......... 1,935,484 279,196 11,502,050 1,659,182 -- -- --
Forfeiture of common stock....... (1,300,000)
Conversion of preferred stock.... (1,935,484) (279,196) 1,935,484 279,196
Issuance of common stock......... 1,795,461 736,140
Common stock issued in exchange
for a note receivable........... 60,975 25,000 (25,000)
Stock options issued to third
parties......................... 62,968
Net loss.........................
---------- --------- ---------- ---------- ---------- -------- -----------
Balance at December 31, 1997..... -- -- 13,993,970 2,699,518 62,968 (25,000) --
Issuance of common stock, net of
offering expenses of $36,563.... 6,219,249 5,108,150
Exercise of stock options........ 139,135 8,660
Repayment of note receivable from
shareholder..................... 25,000
Stock options and warrants issued
to third parties................ 147,561 (22,677)
Shares transferred to employees
by principal shareholders....... 84,000
Amortization of deferred
compensation.................... 9,750
Net loss.........................
---------- --------- ---------- ---------- ---------- -------- -----------
Balance at December 31, 1998..... -- -- 20,352,354 7,816,328 294,529 -- (12,927)
Issuance of common stock upon
conversion of promissory note
(unaudited)..................... 50,000 50,000
Exercise of stock options
(unaudited)..................... 38,520 13,433
Stock options and warrants issued
to third parties (unaudited).... 740,447 (740,447)
Amortization of deferred
compensation (unaudited)........ 78,320
Net loss (unaudited).............
---------- --------- ---------- ---------- ---------- -------- -----------
Balance at March 31, 1999
(unaudited)..................... -- $ -- 20,440,874 $7,879,761 $1,034,976 $ -- $ (675,054)
========== ========= ========== ========== ========== ======== ===========
TOTAL
SHAREHOLDERS'
DIVISION ACCUMULATED EQUITY/
EQUITY DEFICIT DIVISION EQUITY
----------- ----------- ---------------
Balance at June 30, 1995......... $ 7,747 $ -- $ 7,747
Capital contributions............ 125,198 125,198
Net loss......................... (28,421) (28,421)
----------- ----------- -----------
Balance at June 30, 1996......... 104,524 -- 104,524
Capital contributions............ 1,771,492 1,771,492
Issuance of common and Series A
preferred stock in connection
with spin-off................... (1,876,016) (62,362) (279,196)
Net loss......................... (1,443,882) (1,443,882)
----------- ----------- -----------
Balance at June 30, 1997......... -- (1,506,244) 152,938
Forfeiture of common stock....... --
Conversion of preferred stock.... 279,196
Issuance of common stock......... 736,140
Common stock issued in exchange
for a note receivable........... --
Stock options issued to third
parties......................... 62,968
Net loss......................... (1,148,874) (1,148,874)
----------- ----------- -----------
Balance at December 31, 1997..... -- (2,655,118) 82,368
Issuance of common stock, net of
offering expenses of $36,563.... 5,108,150
Exercise of stock options........ 8,660
Repayment of note receivable from
shareholder..................... 25,000
Stock options and warrants issued
to third parties................ 124,884
Shares transferred to employees
by principal shareholders....... 84,000
Amortization of deferred
compensation.................... 9,750
Net loss......................... (3,199,025) (3,199,025)
----------- ----------- -----------
Balance at December 31, 1998..... -- (5,854,143) 2,243,787
Issuance of common stock upon
conversion of promissory note
(unaudited)..................... 50,000
Exercise of stock options
(unaudited)..................... 13,433
Stock options and warrants issued
to third parties (unaudited).... --
Amortization of deferred
compensation (unaudited)........ 78,320
Net loss (unaudited)............. (1,366,078) (1,366,078)
----------- ----------- -----------
Balance at March 31, 1999
(unaudited)..................... $ -- $(7,220,221) $ 1,019,462
=========== =========== ===========
The accompanying notes are an integral part of these financial statements.
F-5
64
FREESHOP.COM, INC.
STATEMENT OF CASH FLOWS
SIX MONTHS THREE MONTHS ENDED
YEAR ENDED JUNE 30, ENDED YEAR ENDED MARCH 31,
----------------------- DECEMBER 31, DECEMBER 31, -----------------------
1996 1997 1997 1998 1998 1999
--------- ----------- ------------ ------------ --------- -----------
(UNAUDITED)
CASH FLOWS FROM OPERATING
ACTIVITIES
Net loss...................... $ (28,421) $(1,443,882) $(1,148,874) $(3,199,025) $(584,563) $(1,366,078)
Adjustments to reconcile net
loss to net cash used in
operating activities
Depreciation and
amortization........... 5,566 33,659 47,617 140,710 32,338 48,840
Bad debt expense.......... 58,907 146,310 122,485 56,551 10,816 16,261
Amortization of deferred
compensation........... 9,750 78,320
Shares transferred to
employees by principal
shareholders........... 84,000
Issuance of stock options
and warrants for
services............... 62,968 88,321 69,496
Issuance of stock for
office rent............ 32,637
Loss on disposal of
property and
equipment.............. 8,624 896
Changes in assets and
liabilities:
Accounts receivable.... (198,548) (94,449) (196,560) (191,039) (13,961) (161,730)
Prepaid expenses and
other assets......... (17,280) (43,559) (21,074) 4,640 (133,189)
Accounts payable....... 11,873 43,044 192,402 217,381 89,550 45,260
Accrued and other
liabilities.......... 50,502 (48,957) 27,545 601,891 43,132 149,990
Payable to Online
Interactive, Inc..... (280,918) 308,187 (27,269) (27,269)
--------- ----------- ----------- ----------- --------- -----------
Net cash used in
operating
activities........... (100,121) (1,662,473) (595,152) (2,231,179) (375,821) (1,321,430)
--------- ----------- ----------- ----------- --------- -----------
CASH FLOWS FROM INVESTING
ACTIVITIES
Purchase of property and
equipment................... (25,077) (108,894) (55,902) (67,428) (10,116) (227,410)
--------- ----------- ----------- ----------- --------- -----------
CASH FLOWS FROM FINANCING
ACTIVITIES
Contributed capital........... 125,198 1,771,492
Proceeds from notes payable... 135,000 135,000
Repayment of notes payable.... (85,000)
Principal payments under
capital leases.............. (26,245) (63,951) (26,255)
Proceeds from Shareholder Note
Receivable.................. 25,000 25,000
Issuance of common stock, net
of issuance costs........... 703,503 5,153,373 213,096 13,433
--------- ----------- ----------- ----------- --------- -----------
Net cash provided by
(used in) financing
activities........... 125,198 1,771,492 677,258 5,164,422 373,096 (12,822)
--------- ----------- ----------- ----------- --------- -----------
Net increase (decrease) in cash
and cash equivalents.......... -- 125 26,204 2,865,815 (12,841) (1,561,662)
Cash and cash equivalents at
beginning of period........... 125 26,329 26,329 2,892,144
--------- ----------- ----------- ----------- --------- -----------
Cash and cash equivalents at end
of period..................... $ -- $ 125 $ 26,329 $ 2,892,144 $ 13,488 $ 1,330,482
========= =========== =========== =========== ========= ===========
Cash paid during the period for
Interest...................... $ -- $ -- $ 6,226 $ 65,654 $ 12,152 $ 13,048
========= =========== =========== =========== ========= ===========
The accompanying notes are an integral part of these financial statements.
F-6
65
FREESHOP.COM, INC.
NOTES TO FINANCIAL STATEMENTS
1. ORGANIZATION AND BUSINESS
FreeShop began as a division of Online Interactive, Inc. (Online), a
Washington corporation, incorporated in July 1994. On June 30, 1997, Online
Interactive contributed the FreeShop Division, including certain net assets, to
its wholly-owned subsidiary, FreeShop International, Inc., a Washington
corporation incorporated on June 23, 1997, which then began operating as a
separate entity. In connection with the spin-off, Online issued FreeShop common
shares equal to the number of Online shares (both preferred and common)
outstanding as of June 30, 1997. Online then distributed the FreeShop common
shares to its shareholders. Each Online shareholder received a number of
FreeShop shares equal to the number of Online shares held as of the Distribution
Record Date. However, 1,300,000 shares of common stock were forfeited on July
18, 1997 in connection with agreements between Online and certain shareholders.
As a result of the distribution, FreeShop ceased to be a subsidiary of Online.
On February 19, 1999, FreeShop International, Inc. changed its name to
FreeShop.com, Inc. (FreeShop or the Company). FreeShop operates an online direct
marketing network from a Web site at http://www.freeshop.com. Essentially,
FreeShop is an online marketing service that generates sales leads, creates
product awareness, and initiates consumer purchases through multiple online
marketing vehicles, including free and trial offers, banner advertising, email
newsletter sponsorship, and others.
The financial statements for the two years ended June 30, 1997 reflect the
revenues, expenses and changes in division equity and cash flows of the FreeShop
Division of Online. Certain general and administrative costs incurred by Online
have been allocated to the Company on a basis which management believes
represents a reasonable allocation of such costs to present FreeShop as a
stand-alone company. These allocations consist primarily of corporate expenses
such as executive and other compensation, depreciation, rent and legal expenses.
The corporate expenses have been allocated based on an estimate of Online
personnel time dedicated to the operations and management of FreeShop for the
year ended June 30, 1996 and the nine months ended March 31, 1997. For the
three-month period ended June 30, 1997, these corporate expenses were generally
allocated based on a specific identification basis rather than on the basis of
personnel time. A summary of these allocations are as follows:
YEAR ENDED JUNE 30,
--------------------
1996 1997
-------- --------
Sales and marketing......................................... $ 97,564 $176,768
Research and development.................................... 77,147 110,230
General and administrative.................................. 282,694 362,810
-------- --------
$457,405 $649,808
======== ========
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
CASH AND CASH EQUIVALENTS
Cash equivalents consist of short-term highly liquid investments that
mature within three months of their acquisition. The Company deposits its cash
and cash equivalents in interest bearing demand deposit accounts with high
credit quality financial institutions. The Company has not experienced any
losses on its cash and cash equivalents.
F-7
66
FREESHOP.COM, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost less accumulated depreciation and
are depreciated using the straight-line method over their estimated useful
lives. The estimated useful lives are as follows:
Office furniture and equipment.............................. Five years
Computer hardware and software.............................. Three years
The cost of normal maintenance and repairs are charged to expense as
incurred and expenditures for major improvements are capitalized, at cost. Gains
or losses on the disposition of assets in the normal course of business are
reflected in the results of operations at the time of disposal.
IMPAIRMENT OF LONG-LIVED ASSETS
The Company evaluates its long-lived assets for financial impairment and
continues to evaluate them as events or changes in circumstances indicate that
the carrying amount of such assets may not be fully recoverable. The Company
evaluates the recoverability of long-lived assets by measuring the carrying
amount of the assets against the estimated undiscounted future cash flows
associated with these assets. At the time such evaluations indicate that the
future undiscounted cash flows of certain long-lived assets are not sufficient
to recover the carrying value of such assets, the assets are adjusted to their
fair values. No losses for impairment have been recognized.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts of the Company's financial instruments, including cash
and cash equivalents, accounts receivable, accounts payable and accrued
liabilities, approximate fair value because of their short maturities. The
carrying amount of the Company's capital leases and other equipment financing
obligations approximates the fair value of such instruments based upon
management's estimates of interest rates that would be available to the Company
for similar debt obligations at December 31, 1998.
DEFERRED REVENUES
Deferred revenues consist of advance billings and payments on marketing
contracts and is included in accrued and other liabilities in the accompanying
balance sheet.
REVENUE RECOGNITION
The Company has several revenue sources from its online marketing service
activities, including lead generation, advertising, list rental, barter and
transaction fees.
Lead generation revenue consists of fees received, generally on a per
inquiry basis, for delivery of leads to clients. Revenue is recognized in the
period the leads are provided to the client.
Advertising revenues consist of e-mail newsletter sponsorships, banner
advertising, and anchor positions. Newsletter sponsorship revenue is derived
from a fixed fee or a fee based on the circulation of the newsletter. Newsletter
sponsorship revenue is recognized in the period in which the newsletter is
delivered. Banner advertising and anchor positions can be based on impressions,
fixed fees, or per click through. Fixed fee contracts, which range from three
months to one year, are recognized ratably over the term of the agreement,
provided that no significant
F-8
67
FREESHOP.COM, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
Company obligations remain. Revenue from impressions or click through based
contracts is recognized in the period in which the services are provided.
List rental revenue is revenue received from the rental of customer names
to third parties through the use of list brokers. Revenue from list rental
activities is recognized in the period the names are delivered by the list
broker to the third party.
Transaction fees are recognized in the period the transaction occurred and
was reported to the Company by the online merchant.
Also included in revenues are barter revenues generated from exchanging
lead generation and advertising services for advertising services. Such
transactions are recorded at the lower of the estimated fair value of the
advertisements received or delivered, whichever is more reliably measurable.
Revenue from barter transactions is recognized when advertising or lead
generation is provided, and services received are charged to expense when used.
From July 1, 1995 through December 31, 1997 barter transactions were not
significant. For the year ended December 31, 1998 and the unaudited three months
ended March 31, 1999, the Company recognized approximately $83,000 and $90,000,
respectively, of revenue and advertising expense from barter transactions.
ADVERTISING COSTS
The Company expenses advertising costs as incurred. Total advertising
expense for the years ended June 30, 1996 and 1997, the six months ended
December 31, 1997, and the year ended December 31, 1998 and the unaudited three
months ended March 31, 1999, was $13,179, $148,543, $242,919, $1,190,811 and
$667,053, respectively.
RESEARCH AND DEVELOPMENT COSTS
Research and development costs are expensed as incurred.
INCOME TAXES
The Company accounts for income taxes under the asset and liability method,
which requires recognition of deferred tax assets and liabilities for the
expected future tax consequences of temporary differences between the carrying
amounts and the tax bases of assets and liabilities. If it is more likely than
not that some portion of a deferred tax asset will not be realized, a valuation
allowance is recorded.
NET LOSS PER SHARE
In 1997, the Financial Accounting Standards Board (FASB) issued Statement
of Financial Accounting Standards (SFAS) No. 128, "Earnings per Share". SFAS No.
128 replaced primary and fully diluted earnings per share with basic and diluted
earnings per share. Unlike primary earnings per share, basic earnings per share
excludes any dilutive effects of options, warrants and convertible securities.
Basic earnings per share is computed using the weighted-average number of common
shares outstanding during the period. Diluted earnings per share is computed
using the weighted-average number of common and common stock equivalent shares
outstanding during the period. Common stock equivalent shares are excluded from
the computation if their effect is antidilutive. Examples of common stock
equivalents, are warrants, stock options and convertible promissory notes.
F-9
68
FREESHOP.COM, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
Stock options to purchase 1,321,332, 2,507,109, 2,037,550 and 2,221,490
shares of common stock at an average exercise price of $0.06, $0.23, $0.45 and
$0.52 per share and warrants to purchase 0, 6,000, 6,909,508 and 6,909,508
shares of common stock at an average price of $0, $0.41, $1.92 and $1.92 per
share have not been included in the computation of diluted net loss per share
for the year ended June 30, 1997, the six months ended December 31, 1997, the
year ended December 31, 1998 and the three months ended March 31, 1999
(unaudited) respectively, as their effect would have been antidilutive.
CONCENTRATIONS OF CREDIT RISK
Concentrations of credit risk with respect to accounts receivable are
limited due to the wide variety of customers to which the Company provides
services, as well as their dispersion across many different geographic areas. As
such, no single customer accounted for greater than 10% of total revenues or
accounts receivable balances for either the period ended December 31, 1998 or
March 31, 1999 (unaudited). The Company maintains an allowance for doubtful
accounts receivable based upon its historical experience and the expected
collectibility of all accounts receivable. Credit losses to date have been
within management's estimates.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
RECLASSIFICATIONS
Certain prior year amounts have been reclassified to conform with the
current year's presentation.
UNAUDITED INTERIM FINANCIAL STATEMENTS
The interim financial data as of March 31, 1999 and for the three months
ended March 31, 1998 and 1999 is unaudited; however, in the opinion of
management, the interim data includes all adjustments, consisting only of normal
recurring adjustments necessary to present fairly the Company's financial
position as of March 31, 1999 and the results of its operations and cash flows
for the three months ended March 31, 1998 and 1999.
STOCK COMPENSATION
The Company follows SFAS No. 123, "Accounting for Stock-Based
Compensation", which establishes financial accounting and reporting standards
for stock-based employee compensation plans and for the issuance of equity
instruments to acquire goods and services from nonemployees.
The Company has elected to apply the disclosure-only provision of SFAS No.
123 for employee stock-based compensation plans. Accordingly, the Company
accounts for stock-based compensation to employees using the intrinsic-value
method prescribed in Accounting Principles Board Opinion No. 25, "Accounting for
Stock Issued to Employees", and related interpretations. Compensation expense
for stock options is measured as the excess, if any, of the fair value of the
Company's common stock at the date of grant over the exercise price. The Company
records the
F-10
69
FREESHOP.COM, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
fair value of equity instruments issued to non-employees in accordance with the
provisions of SFAS No. 123.
COMPREHENSIVE INCOME
Effective January 1, 1998, the Company adopted the provisions of SFAS No.
130, "Reporting Comprehensive Income." SFAS No. 130 establishes standards for
reporting comprehensive income and its components in financial statements.
Comprehensive income, as defined, includes all changes in equity during a period
from non-owner sources. To date, the Company has not had any transactions that
are required to be reported in comprehensive income other than its net loss.
RECENT ACCOUNTING PRONOUNCEMENTS
In March 1998, the American Institute of Certified Public Accountants
(AICPA) issued Statement of Position (SOP) 98-1, "Accounting for the Cost of
Computer Software Developed or Obtained for Internal Use". SOP 98-1 is effective
for financial statements for years beginning after December 15, 1998. SOP 98-1
provides guidance over accounting for computer software developed for internal
use including the requirement to capitalize specified costs and amortization of
such costs. Adoption of this standard during the first quarter of 1999 did not
have a material effect on the Company's results of operations, financial
position or cash flows.
In April 1998, the AICPA issued SOP 98-5, "Reporting on the Costs of
Start-up Activities". SOP 98-5, which is effective for fiscal years beginning
after December 15, 1998, provides guidance on the financial reporting of
start-up costs and organization costs. It requires costs of start up activities
and organization costs to be expensed as incurred. As the Company has expensed
these costs historically, the adoption of this standard during the first quarter
of 1999 did not have a significant impact on results of operations, financial
position or cash flows.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivatives and
Hedging Activities", which establishes accounting and reporting standards for
derivative instruments, including certain derivative instruments embedded in
other contracts, (collectively referred to as derivatives) and for hedging
activities. SFAS No. 133 is effective for all fiscal quarters of fiscal years
beginning after June 15, 1999. The Company does not expect the adoption of this
statement to have a significant impact on results of operations, financial
position or cash flows.
3. ACCOUNTS RECEIVABLE
Accounts receivable consist of the following:
DECEMBER 31,
-------------------- MARCH 31,
1997 1998 1999
-------- -------- -----------
(UNAUDITED)
Accounts receivable..................................... $284,410 $381,830 $523,868
Less: Allowance for doubtful accounts................... (79,719) (42,651) (39,220)
-------- -------- --------
$204,691 $339,179 $484,648
======== ======== ========
F-11
70
FREESHOP.COM, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
4. PROPERTY AND EQUIPMENT
Property and equipment consist of the following:
DECEMBER 31,
--------------------- MARCH 31,
1997 1998 1999
-------- --------- -----------
(UNAUDITED)
Computer hardware and software........................ $310,595 $ 468,483 $ 655,480
Office furniture and equipment........................ 129,517 129,517 164,515
-------- --------- ---------
440,112 598,000 819,995
Less: Accumulated depreciation and amortization....... (85,616) (216,704) (261,025)
-------- --------- ---------
$354,496 $ 381,296 $ 558,970
======== ========= =========
5. ACCRUED AND OTHER LIABILITIES
Accrued and other liabilities consist of the following:
DECEMBER 31,
------------------ MARCH 31,
1997 1998 1999
------- -------- -----------
(UNAUDITED)
Deferred revenue............................................ $20,000 $ 1,129 $ 29,750
Accrued advertising expense................................. 488,451 552,913
List rental deposit......................................... 74,538 29,824
Accrued vacation............................................ 12,802 37,169 49,977
Accrued commissions......................................... 3,313 13,918 50,048
Accrued commerce expense.................................... 78,904
Other....................................................... 32,851 55,652 29,431
------- -------- --------
$68,966 $670,857 $820,847
======= ======== ========
6. BANK LINE-OF-CREDIT FACILITY
The Company has a line-of-credit facility with a bank. Pursuant to the
terms of the facility agreement, the Company may borrow up to $500,000 at the
bank's prime rate plus 1.5%, 9.25% at December 31, 1998. The line of credit is
collateralized by all assets of the Company and guaranteed up to $200,000 by the
Company's President and Chief Executive Officer. The credit facility matures
September 18, 1999, contains covenants not to encumber trade accounts receivable
and requires maintenance of certain financial ratios. At December 31, 1998, the
Company was in compliance with the loan covenants and no balance was outstanding
under the line.
7. RELATED PARTY TRANSACTIONS
In January and February 1998, the Company issued notes payable to
shareholders in the amount of $85,000. Such notes included interest at 10%. The
outstanding balance, including accrued interest of $5,745, was repaid in
September 1998.
During 1998, two of the Company's principal shareholders transferred
140,000 shares of common stock to certain employees of the Company as incentive
compensation. As a result, the Company recorded $84,000 of compensation expense
based on the fair market value of the Company's common stock on the date of
transfer.
F-12
71
FREESHOP.COM, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
8. LONG-TERM CONVERTIBLE DEBT
In March 1998, the Company issued an uncollateralized 10% convertible
promissory note totaling $50,000 to a third party. The note matures in March
2000. At any time prior to the maturity date, the third party may convert the
outstanding principal balance into shares of the Company's preferred stock at
the price at which such stock is being offered to other investors. During the
first quarter of 1999, the terms of the note were modified to allow conversion
into shares of common stock and the note was then converted. See Note 13 for
further discussion.
9. COMMITMENTS
In May 1998 a promotion agreement was entered into with CNET which provides
for CNET to invest in FreeShop an amount equal to 20% of the amount paid or
payable to CNET for promotion. The agreement called for an investment to be made
on September 30, 1998 on the same terms and conditions, including price, as
FreeShop was then closing the sale of such securities to other investors.
Subsequent investments are to be made on the scheduled closing date of each
subsequent equity financing on the same terms and conditions, including price,
as FreeShop is then closing the sale of such securities to other investors. If
no equity investments are closed within nine months of the previous investment
by CNET then one day after nine months CNET will make an equity investment using
the same terms and conditions as the previous investment made by CNET. No
investment was made by CNET during the year ended December 31, 1998.
The Company's office facilities are leased under operating leases that
provide for minimum rentals and require payment of property taxes and include
escalation clauses. In addition, the Company also rents certain equipment under
agreements treated for financial reporting purposes as capital leases. The
Company's property under capital leases which is included in property and
equipment on the balance sheet at December 31, 1997 and 1998 was $221,801 and
$246,299, respectively, which is net of accumulated amortization of $16,045 and
$92,150, respectively.
Future minimum lease payments under the noncancellable leases are as
follows.
CAPITAL OPERATING
YEAR ENDING DECEMBER 31, LEASES LEASES
------------------------ --------- ----------
1999...................................................... $ 149,397 $ 289,105
2000...................................................... 120,798 403,730
2001...................................................... 42,969 426,648
2002...................................................... 448,397
2003...................................................... 192,055
--------- ----------
Total minimum lease payments................................ 313,164 $1,759,935
==========
Less: Amount representing interest.......................... (56,110)
---------
Present value of capital lease obligations.................. 257,054
Less: Current portion....................................... (112,327)
---------
Capital lease obligations, non-current portion.............. $ 144,727
=========
Rent expense for the years ended June 30, 1996 and 1997, the six months
ended December 31, 1997 and year ended December 31, 1998, was $42,468, $49,003,
$60,594 and $199,136, respectively.
F-13
72
FREESHOP.COM, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
10. SHAREHOLDERS' EQUITY
MANDATORILY REDEEMABLE CONVERTIBLE PREFERRED STOCK
On June 30, 1997, the Company's Board of Directors approved the designation
and issuance of 1,935,484 shares of Series A redeemable convertible preferred
stock. The preferred Series A shares are convertible into one share of common
stock (subject to anti-dilution adjustments) at any time at the option of the
holder.
On July 18, 1997, subsequent to the spin-off of FreeShop from Online, all
outstanding shares of Series A redeemable convertible preferred stock were
converted into common stock on a one-for-one basis.
COMMON STOCK
On December 10, 1998, FreeShop issued 4,048,467 shares of the Company's
common stock to Fingerhut Companies Inc. (Fingerhut) at a price of $0.99 per
share. The shares were partially paid for by surrender and cancellation of the
$500,000 Convertible Promissory Note, which the Company had issued to Fingerhut
on December 4, 1998.
The Company and Fingerhut also entered into a Stockholders Agreement on
December 10, 1998 which grants Fingerhut a right of first refusal on shares
proposed for transfer by the Company's two principal shareholders, contains
certain agreements regarding composition of the Company's Board of Directors,
requires Board approval of certain specified actions by the Company, grants
Fingerhut preemptive rights to maintain its percentage ownership interest in
connection with proposed share issuances by the Company, grants certain demand
and piggyback registration rights to Fingerhut, and provides for certain
drag-along and tag-along rights among the parties with respect to proposed sales
of shares to third parties. The Stockholders Agreement terminates, on the
earlier of December 10, 2008 or the closing of a sale of the Company's assets or
the acquisition of the Company by merger or consolidation. Certain specific
provisions of the agreement terminate upon the consummation of an underwritten
public offering of the Company's securities in which the deemed market
capitalization of the Company is at least $75 million.
WARRANTS
In connection with the sale of common stock to Fingerhut, the Company
issued to Fingerhut a series of warrants to purchase shares of the Company's
common stock as follows: a warrant to purchase 2,935,356 shares at $1.72 per
share; a warrant to purchase 1,790,724 shares at $1.99 per share; a warrant to
purchase 2,089,178 shares at $2.21 per share; warrants to purchase from time to
time at $2.21 per share a number of shares equal to specified percentages of
shares of common stock that are issued upon exercise of specified options and
warrants; and warrants to purchase at exercise prices ranging from $.99 per
share to $2.21 per share a number of shares of common stock equal to specified
percentages of shares of common stock that are issued to certain named third
parties pursuant to existing contractual arrangements. Unless sooner exercised,
all such warrants expire on the earlier of December 31, 2000, or the
consummation of an underwritten public offering of the Company's securities in
which the deemed market capitalization of the Company is at least $75 million.
In connection with the equipment acquired under capital lease as described
in Note 9, the Company issued warrants to purchase 41,000 shares of common
stock. The warrants are exercisable at a price equal to $0.41 per share and
expire from October 2002 to January 2003.
F-14
73
FREESHOP.COM, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
The Company determined the fair value of the warrants to be $12,019 using the
Black-Scholes option pricing model and recognized the entire expense during
1998.
In return for recruiting services, the Company issued warrants to purchase
28,250 shares of common stock in January 1998. The warrants are exercisable at a
price equal to $0.41 per share and expire in January 2003. The Company
determined the fair value of these warrants to be $8,277 using the Black-Scholes
option pricing model and recognized the entire expense during 1998.
A warrant to purchase 25,000 shares of the Company's common stock at an
exercise price of $0.60 per share was issued to the bank in connection with the
line of credit described in Note 6. The warrant expires in September 2003. The
Company determined the fair value of the warrants to be $10,625 using the
Black-Scholes option pricing model. The fair value was recorded as prepaid loan
fees during 1998 and will be amortized over the life of the credit facility.
STOCK OPTIONS
Effective June 30, 1997, the Company approved the 1997 Stock Option Plan
(the Plan) to provide for the granting of stock options to employees, directors
and consultants of the Company to acquire ownership in the Company and provide
them with incentives for their service. Under the terms of the Plan, 2,660,765
shares of common stock have been reserved for issuance to plan participants.
The Plan is administered by the Board of Directors of the Company, which
determines the terms and conditions of the options granted, including exercise
price, number of options granted and the vesting period of such options. The
maximum term of options is ten years from the date of grant. The options are
generally granted at the estimated fair value of the underlying stock, as
determined by the Board of Directors, on the date of grant. As of December 31,
1998, options to purchase 623,215 shares of common stock were available for
future grant under the Plan. No compensation expense has been recognized
relative to options issued to employees for the years ended June 30, 1996 and
1997, the six months ended December 31, 1997, nor the year ended December 31,
1998. For the year ended December 31, 1998, $3,177 of deferred compensation was
recorded and will be amortized over the vesting period of the related options.
During the three month period ended March 31, 1999 (unaudited), the Company
granted options to purchase 277,000 shares of common stock to employees and
service providers at an average exercise price of $1.00. The Company recorded
$740,447 of deferred compensation based upon the average deemed fair value of
$2.67 which will be amortized over the vesting period of the related options.
Had compensation expense for employee-related options been determined based
on the fair value at the grant dates consistent with the method of SFAS No. 123,
"Accounting for Stock Based Compensation", the Company's net loss and loss per
share for the six months ended
F-15
74
FREESHOP.COM, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
December 31, 1997 and the year ended December 31, 1998 would have been increased
to the pro forma amounts indicated below:
1997 1998
----------- -----------
Net loss
As reported.............................. $(1,148,874) $(3,199,025)
Pro forma................................ $(1,167,435) $(3,248,168)
Loss per share
As reported.............................. $ (0.09) $ (0.21)
Pro forma................................ $ (0.09) $ (0.21)
For SFAS No. 123 pro forma disclosure, the fair value of each option is
estimated on the date of grant using the minimum value method with the following
assumptions used for grants to employees in 1998 and 1997; weighted-average
risk-free interest rates of 4.78% and 5.70%, respectively, and expected lives of
four years.
The following table presents activity under the Plan:
JUNE 30, 1997 DECEMBER 31, 1997 DECEMBER 31, 1998
--------------------- --------------------- ---------------------
WEIGHTED- WEIGHTED- WEIGHTED-
AVERAGE AVERAGE AVERAGE
EXERCISE EXERCISE EXERCISE
SHARES PRICE SHARES PRICE SHARES PRICE
--------- --------- --------- --------- --------- ---------
Outstanding at beginning of
period.................... 1,321,332 $0.06 2,507,109 $0.23
Granted..................... 1,321,332 $0.06 1,185,777 0.41 1,613,550 0.52
Exercised................... 139,235 0.06
Forfeited................... 1,943,874 0.24
--------- --------- ---------
Outstanding at end of
period.................... 1,321,332 $0.06 2,507,109 $0.23 2,037,550 $0.45
========= ========= =========
Weighted-average fair value
of options granted during
the period................ $0.01 $0.14 $0.13
The following table summarizes information about stock options outstanding
under the Plan at December 31, 1998:
WEIGHTED-
NUMBER AVERAGE WEIGHTED- NUMBER WEIGHTED-
RANGE OF OUTSTANDING AT REMAINING AVERAGE EXERCISABLE AT AVERAGE
EXERCISE DECEMBER 31, CONTRACTUAL EXERCISE DECEMBER 31, EXERCISE
PRICES 1998 LIFE PRICE 1998 PRICE
- -------- -------------- ----------- --------- -------------- ---------
0$.06.. 252,333 8.5 $0.06 126,150 $0.60
0.41.. 919,167 6.0 0.41 605,983 0.41
0.60.. 856,050 9.0 0.60 148,264 0.60
1.00.. 10,000 10.0 1.00 1.00
--------- -------
2,037,550 7.6 $0.45 880,397 $0.45
========= =======
During the six months ended December 31, 1997, the Company granted options
to purchase 487,802 shares of common stock to certain investors. These grants
were made outside of the stock option plan. As of December 31, 1998 all of these
options had expired without exercise. During the year ended December 31, 1998,
the Company granted options to purchase 522,500 shares of common stock to
consultants, advisors and investment managers and as severance to certain
employees.
F-16
75
FREESHOP.COM, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
The Company follows SFAS No. 123 in accounting for options and warrants
issued to non-employees. As such, the Company recognized $62,968 of general and
administrative expense for the six months ended December 31, 1997 in connection
with options issued to third parties. During the year ended December 31, 1998,
the Company recognized $32,800 and $34,350 of sales and marketing and general
and administrative expense, respectively, in connection with options issued to
terminated employees and advisors. The remaining fair value of options issued to
advisors of $9,750 is recorded as deferred compensation in the shareholders'
equity section and will be amortized over the remaining vesting period of the
options. Additionally, in connection with the sale of common stock, the Company
issued options to certain investment managers. The fair value of those options
of $36,563 was netted against the proceeds recorded in the transaction. In
determining fair value of the options and warrants on the date of grant, the
Company used the Black-Scholes option-pricing model with the following
assumptions used for grants in 1997 and 1998; no dividend yield; expected
volatility of 100%; weighted-average risk-free interest rates of 5.17% and
5.14%, respectively, and weighted-average expected lives of .55 years and 1.3
years, respectively. The weighted-average fair value of warrants issued during
1998 was $0.33 per share.
11. INCOME TAXES
A current provision for income taxes was not recorded for the six months
ended December 31, 1997 or the year ended December 31, 1998 due to taxable
losses incurred during such periods. A valuation allowance has been recorded for
deferred tax assets because realization is primarily dependent on generating
sufficient taxable income prior to the expiration of net operating loss
carry-forwards. Net operating losses of the FreeShop division of Online did not
carry over to the Company.
Deferred tax assets at December 31, 1997 and 1998 are as follows:
DECEMBER 31,
------------------------
1997 1998
--------- -----------
Net operating loss carryforwards............................ $ 371,326 $ 1,412,566
Nondeductible allowances.................................... 23,779 39,544
Expense related to stock options and restricted stock
rights.................................................... 21,416 30,635
Other....................................................... 2,176
--------- -----------
418,697 1,482,745
Less: Valuation allowance................................... (418,697) (1,482,745)
--------- -----------
$ -- $ --
========= ===========
At December 31, 1997 and 1998, the Company has net operating loss
carry-forwards of approximately $1,092,000 and $4,155,000, respectively, for
federal income tax reporting purposes. The net operating losses will expire
beginning in 2012 if not previously utilized. As specified in Section 382 of the
Internal Revenue Code, a 50% or more ownership change by certain combinations of
the Company's shareholders during any three-year period would result in
limitations on the Company's ability to utilize its net operating loss
carry-forwards. Such an ownership change may have occurred as a result of the
equity issuances as described in Note 13.
F-17
76
FREESHOP.COM, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
12. SUPPLEMENTAL CASH FLOW INFORMATION
The following items are supplemental information of noncash investing and
financing activities:
THREE MONTHS
YEAR ENDED SIX MONTHS ENDED
JUNE 30, ENDED YEAR ENDED MARCH 31,
--------------- DECEMBER 31, DECEMBER 31, ----------------
1996 1997 1997 1998 1998 1999
------ ------ ------------ ------------ ------ -------
(UNAUDITED)
Property and equipment acquired
with capital leases........... $ -- $7,237 $237,846 $102,167 $ -- $ --
====== ====== ======== ======== ====== =======
Common stock issued in exchange
for note receivable from
shareholder................... $ -- $ -- $ 25,000 $ -- $ -- $ --
====== ====== ======== ======== ====== =======
Conversion of preferred stock... $ -- $ -- $279,196 $ -- $ -- $ --
====== ====== ======== ======== ====== =======
Conversion of note payable...... $ -- $ -- $ -- $ -- $ -- $50,000
====== ====== ======== ======== ====== =======
13. SUBSEQUENT EVENTS
On March 1, 1999, the terms of the convertible promissory note described in
Note 8 were modified to allow conversion into shares of common stock. The note
was then retired through conversion into 50,000 shares of common stock.
In May 1999, the warrants issued to Fingerhut as described in Note 10 were
modified to provide for issuance of series B convertible preferred stock. Each
share of series B convertible preferred stock is convertible into ten shares of
common stock. Each share of series B convertible preferred stock has similar
rights and obligations as 10 shares of common stock, except it has no voting
rights. Fingerhut then exercised one warrant to purchase 293,536 shares of
series B convertible preferred stock at a purchase price of $17.18 per share and
one warrant to purchase 179,072 shares of series B convertible preferred stock
at a purchase price of $19.94 per share on May 24, 1999 and June 18, 1999,
respectively.
In May 1999, the Board of Directors of the Company, authorized the
Company's management to file a registration statement for an initial public
offering of the Company's common stock.
In May 1999, FreeShop entered into purchase and sale agreements to acquire
substantially all of the assets of Commonsite LLC (Commonsite) and Travel
Companions International, Inc. (Travel). Total consideration for the acquired
assets of the two companies is $2,577,000, which is comprised of $1,841,000 in
cash and 132,300 shares of common stock. The aggregate purchase price will be
allocated to the net assets acquired, based upon their respective fair market
values. The excess of the purchase price over the fair market value of the
assets acquired and liabilities assumed of $1,383,000 has been allocated to cost
in excess of net assets acquired and will be amortized over three years.
In connection with the acquisition, liabilities were assumed as follows:
Fair value of assets acquired............................... $ 1,331,660
Cash paid................................................... (1,841,000)
Common stock issued......................................... (736,000)
Cost in excess of net assets acquired....................... 1,383,000
-----------
Liabilities assumed......................................... $ 137,660
===========
F-18
77
FREESHOP.COM, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
The following summarizes the unaudited pro forma results of operations, on
a combined basis, as if the Company's acquisition of Commonsite and Travel
occurred as of the beginning of each of the periods presented, after including
the impact of certain adjustments such as amortization of cost in excess of net
assets acquired:
THREE MONTHS
YEAR ENDED ENDED
DECEMBER 31, MARCH 31,
1998 1999
------------ ------------
(UNAUDITED)
Revenues.................................................... $ 1,893,267 $ 837,901
Pro forma net loss.......................................... (4,295,661) (1,571,027)
Pro forma basic and diluted net loss per share.............. $ (0.27) $ (0.08)
The unaudited pro forma results are not necessarily indicative of the
results of operations which would actually have been reported had the
acquisition occurred prior to the beginning of the periods presented. In
addition, they are not intended to be indicative of future results.
F-19
78
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Shareholders
of FreeShop.com, Inc.
In our opinion, the accompanying statement of financial position and the
related statements of operations and members' deficit and of cash flows present
fairly, in all material respects, the financial position of Commonsite, LLC.
(the "Company") at December 31, 1998, and the results of its operations and its
cash flows for the year ended December 31, 1998, in conformity with generally
accepted accounting principles. 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 audit. We conducted our audit
of these statements in accordance with generally accepted auditing standards
which require that we plan and perform the audit to obtain reasonable assurance
about whether the financial statements are free of material misstatement. An
audit includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for the opinion expressed above.
As described in Note 6, subsequent to year-end the members approved and
authorized the sale of substantially all of the Company's assets.
PricewaterhouseCoopers LLP
Seattle, Washington
May 6, 1999
F-20
79
COMMONSITE, LLC
STATEMENT OF FINANCIAL POSITION
DECEMBER 31,
1998
------------
ASSETS
Cash........................................................ $ 12,811
Accounts receivable, net.................................... 42,358
--------
Total current assets................................... 55,169
Property and equipment, net................................. 9,728
--------
Total assets........................................... $ 64,897
========
LIABILITIES AND MEMBERS' DEFICIT
Accounts payable............................................ $ 6,536
Related party payable....................................... 16,245
Accrued liabilities......................................... 6,609
Deferred revenue............................................ 109,337
--------
Total current liabilities.............................. 138,727
--------
Members' deficit............................................ (73,830)
--------
Total liabilities and members' deficit................. $ 64,897
========
The accompanying notes are an integral part of these financial statements.
F-21
80
COMMONSITE, LLC
STATEMENT OF OPERATIONS AND MEMBERS' DEFICIT
DECEMBER 31,
1998
------------
Revenues.................................................... $540,114
Cost of revenues............................................ 180,244
--------
Gross profit................................................ 359,870
--------
Operating expenses
Sales and marketing....................................... 276,378
General and administrative................................ 72,290
--------
Total operating expenses.......................... 348,668
--------
Net income.................................................. 11,202
Members' deficit, December 31, 1997......................... (85,032)
--------
Members' deficit, December 31, 1998......................... $(73,830)
========
The accompanying notes are an integral part of these financial statements.
F-22
81
COMMONSITE, LLC
STATEMENT OF CASH FLOWS
DECEMBER 31,
1998
------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income................................................ $ 11,202
Adjustments to reconcile net income to net cash used in
operating activities
Depreciation........................................... 6,525
Bad debt expense....................................... 9,999
Increase in accounts receivable........................ (35,846)
Decrease in accounts payable........................... (9,005)
Increase in related party payable...................... 16,245
Decrease in accrued liabilities........................ (6,449)
Increase in unearned revenue........................... 2,272
--------
Net cash used in operating activities............. (5,057)
--------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from member contributions........................ 5,000
--------
Net cash provided by financing activities......... 5,000
--------
Net decrease in cash and cash equivalents................... (57)
Cash and cash equivalents, beginning of year................ 12,868
--------
Cash and cash equivalents, end of year...................... $ 12,811
========
The accompanying notes are an integral part of these financial statements.
F-23
82
COMMONSITE, LLC
NOTES TO FINANCIAL STATEMENTS
1. ORGANIZATION AND BUSINESS
Commonsite, LLC ("Commonsite" or "the Company") is a limited liability
company in which there are seven limited partners. The Company was formed in
September 1995 to develop and operate a shopping portal focusing on catalog
companies. Essentially, the Company provides catalog companies with consumer
requests for their catalogs. In addition, the Company provides catalog companies
the development and hosting of online stores, links directly to their existing
Web sites and a software solution for tracking online sales back to the traffic
source.
Profits and losses of the Company are allocated based upon the ownership
percentages of the members.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
CASH AND CASH EQUIVALENTS
Cash equivalents consist of highly liquid investments purchased within 90
days or less of maturity. They are recorded at cost which approximates fair
value. The Company deposits its cash and cash equivalents with high credit
quality financial institutions. The Company has not experienced any losses on
its cash and cash equivalents.
PROPERTY AND EQUIPMENT
Property and equipment consisting of computer hardware and software, are
stated at cost less accumulated depreciation and are depreciated using the
straight-line method over their estimated useful lives of three years. The cost
of normal maintenance and repairs are charged to expense as incurred.
IMPAIRMENT OF LONG-LIVED ASSETS
The Company evaluates its long-lived assets for financial impairment and
continues to evaluate them as events or changes in circumstances indicate that
the carrying amount of such assets may not be fully recoverable. The Company
evaluates the recoverability of long-lived assets by measuring the carrying
amount of the assets against the estimated undiscounted future cash flows
associated with these assets. At the time such evaluations indicate that the
future undiscounted cash flows of certain long-lived assets are not sufficient
to recover the carrying value of such assets, the assets are adjusted to their
fair values. No losses from impairment have been recognized.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts of the Company's financial instruments, including cash
and cash equivalents, accounts receivable, accounts payable and accrued
liabilities, approximate fair value because of their short maturities.
DEFERRED REVENUE
Deferred revenue consists of advance billings and payments on marketing
contracts.
REVENUE RECOGNITION
Revenue is recognized based on the type of contract. Fixed fee contracts,
which range from three months to one year, are recognized ratably over the term
of the agreement, provided that no significant Company obligations remain.
Revenue from impressions or click through based
F-24
83
COMMONSITE, LLC
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
contracts is recognized in the period in which the services are provided.
Revenue from catalog development is recognized under the percentage of
completion method, whereby revenue is recognized upon completion of agreed upon
milestones.
CONCENTRATIONS OF CREDIT RISK
Concentrations of credit risk with respect to accounts receivable are
limited due to the wide variety of customers to which the Company provides
services, as well as their dispersion across many different geographic areas. As
such, no single customer accounted for greater than 10% of total revenues or
accounts receivable balances for the year ended December 31, 1998. The Company
maintains an allowance for doubtful accounts receivable based upon its
historical experience and the expected collectibility of all accounts
receivable. Credit losses to date have been within management's estimates.
INCOME TAXES
The Company is not subject to Federal income tax. The pro-rata income or
loss is included in the tax returns of the individual members.
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 reporting amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses. Actual results
could differ from those estimates.
RECENT ACCOUNTING PRONOUNCEMENTS
In March 1998, the American Institute of Certified Public Accountants
(AICPA) issued Statement of Position (SOP) 98-1, "Accounting for the Cost of
Computer Software Developed or Obtained for Internal Use". SOP 98-1 is effective
for financial statements for years beginning after December 15, 1998. SOP 98-1
provides guidance over accounting for computer software developed for internal
use including the requirement to capitalize specified costs and amortization of
such costs. The Company does not expect the adoption of this standard to have a
material effect on it's results of operations, financial position or cash flows.
In April 1998, the AICPA issued SOP 98-5, "Reporting on the Costs of
Start-up Activities". SOP 98-5, which is effective for fiscal years beginning
after December 15, 1998, provides guidance on the financial reporting of
start-up costs and organization costs. It requires costs of start up activities
and organization costs to be expensed as incurred. As the Company has expensed
these costs historically, the adoption of this standard is not expected to have
a significant impact on it's results of operations, financial position or cash
flows.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivatives and
Hedging Activities", which establishes accounting and reporting standards for
derivative instruments, including certain derivative instruments embedded in
other contracts, (collectively referred to as derivatives) and for hedging
activities. SFAS No. 133 is effective for all fiscal quarters of fiscal years
beginning after June 15, 1999. The Company does not expect the adoption of this
statement to have a significant impact on it's results of operations, financial
position or cash flows.
F-25
84
COMMONSITE, LLC
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
3. RELATED PARTY TRANSACTIONS
The Company pays Bennett Company (Bennett) for services provided in
relation to the operations and management of the Company. A member of Commonsite
owns Bennett. Costs incurred by Bennett were billed to the Company based on an
estimate of Bennett personnel time dedicated to the operations and management of
Commonsite. A summary of these expenses for the year ended December 31, 1998 is
as follows:
Salaries.................................................... $230,979
Equipment................................................... 16,236
Connectivity................................................ 22,957
Rent........................................................ 12,637
Internet marketing.......................................... 26,134
Other....................................................... 5,848
--------
$314,791
========
4. ACCOUNTS RECEIVABLE
Accounts receivable consist of the following:
DECEMBER 31,
1998
------------
Accounts receivable......................................... $ 66,866
Less: Allowance for doubtful accounts....................... (24,508)
--------
$ 42,358
========
5. PROPERTY AND EQUIPMENT
Property and equipment consist of the following:
DECEMBER 31,
1998
------------
Computer hardware and software.............................. $19,578
Less: Accumulated depreciation.............................. (9,850)
-------
$ 9,728
=======
6. SUBSEQUENT EVENT
In May 1999, Commonsite entered into a purchase and sale agreement to sell
substantially all of its assets to FreeShop.com, Inc. Total consideration for
the assets is approximately $1,200,000 which is comprised of $441,000 in cash
and 132,300 shares of common stock.
F-26
85
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Shareholders
of FreeShop.com, Inc.
In our opinion, the accompanying balance sheet and the related statements
of income, stockholders' equity and cash flows present fairly, in all material
respects, the financial position of Travel Companions International, Inc. (the
Company) at December 31, 1998, in conformity with generally accepted accounting
principles. 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 audit. We conducted our audit of these statements in
accordance with generally accepted auditing standards which require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for the opinion expressed
above.
As described in Note 6, subsequent to year-end, the stockholders of the
Company approved and authorized the sale of substantially all of the Company's
assets.
PricewaterhouseCoopers LLP
Minneapolis, Minnesota
May 24, 1999
F-27
86
TRAVEL COMPANIONS INTERNATIONAL, INC.
BALANCE SHEET
AS OF DECEMBER 31, 1998
ASSETS
Current assets:
Cash...................................................... $ 5,091
Accounts receivable....................................... 8,772
Prepaid expenses.......................................... 700
---------
Total current assets................................... 14,563
Property and equipment, net................................. 3,050
---------
Total assets........................................... $ 17,613
=========
LIABILITIES AND STOCKHOLDERS' DEFICIT
Liabilities:
Current liabilities:
Debt................................................... $ 52,603
Accounts payable....................................... 4,600
Accrued expenses....................................... 3,038
Deferred revenue....................................... 11,299
---------
Total current liabilities.............................. 71,540
Notes payable to stockholders............................. 459,678
---------
Total liabilities...................................... 531,218
---------
Stockholders' deficit:
Common stock, no par value; 5,000 shares authorized, 5,000
shares issued and outstanding.......................... 5,000
Accumulated deficit....................................... (518,605)
---------
Total stockholders' deficit............................ (513,605)
---------
Total liabilities and stockholders' deficit............ $ 17,613
=========
The accompanying notes are an integral part of these financial statements.
F-28
87
TRAVEL COMPANIONS INTERNATIONAL, INC.
STATEMENT OF INCOME
FOR THE YEAR ENDED DECEMBER 31, 1998
Revenues.................................................... $219,813
Cost of revenues............................................ 94,875
--------
124,938
--------
Operating expenses:
Sales and marketing....................................... 9,393
General and administrative................................ 92,645
--------
Total operating expenses............................... 102,038
--------
Operating income............................................ 22,900
--------
Interest expense............................................ 4,287
--------
Net income.................................................. $ 18,613
========
The accompanying notes are an integral part of these financial statements.
F-29
88
TRAVEL COMPANIONS INTERNATIONAL, INC.
STATEMENT OF STOCKHOLDERS' DEFICIT
FOR THE YEAR ENDED DECEMBER 31, 1998
COMMON
STOCK ACCUMULATED
SHARES AMOUNT DEFICIT TOTAL
------ ------ ----------- ---------
Balances, December 31, 1997................. 5,000 $5,000 $(537,218) $(532,218)
Net income.................................. 18,613 18,613
----- ------ --------- ---------
Balances, December 31, 1998................. 5,000 $5,000 $(518,605) $(513,605)
===== ====== ========= =========
The accompanying notes are an integral part of these financial statements.
F-30
89
TRAVEL COMPANIONS INTERNATIONAL, INC.
STATEMENT OF CASH FLOWS
FOR THE YEAR ENDED DECEMBER 31, 1998
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income................................................ $ 18,613
Adjustments to reconcile net income to net cash provided
by operations:
Depreciation and amortization.......................... 2,790
Changes in assets and liabilities:
Accounts receivable.................................. 4,159
Prepaid expenses..................................... 78
Inventory............................................ 300
Deferred revenue..................................... (40)
Accrued and other liabilities........................ 1,230
--------
Net cash provided by operating activities......... 27,130
--------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of furniture and equipment....................... (1,139)
--------
CASH FLOWS FROM FINANCING ACTIVITIES:
Principal payments of debt................................ (3,209)
Principal payments of notes payable to stockholders....... (19,700)
--------
Net cash provided by financing activities......... (22,909)
--------
Net increase in cash........................................ 3,082
Cash at beginning of period................................. 2,009
--------
Cash at end of period....................................... $ 5,091
========
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid during the period for:
Interest............................................... $ 4,323
Significant non-cash financing activities:
Refinancing of accrued interest to debt................ 5,000
The accompanying notes are an integral part of these financial statements.
F-31
90
TRAVEL COMPANIONS INTERNATIONAL, INC.
NOTES TO FINANCIAL STATEMENTS
1. NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BUSINESS DESCRIPTION
Travel Companions International (the Company), an S Corporation, was
incorporated in the State of Minnesota in October 1988. The Company is in the
business of distributing travel literature in conjunction with various travel
programs offered through American Express for its cardholders, as well as
programs implemented by Norvista, the global group of travel agencies and tour
operators belonging to the Finnair Group. The Company also publishes Worldwide
Brochures, a listing of over 15,000 free travel maps, guides, and brochures from
over 10,000 companies.
USE OF ESTIMATES
The preparation of the Company's financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
CASH EQUIVALENTS
The Company considers all highly liquid investments purchased with an
original maturity of three months or less to be cash equivalents.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Depreciation and amortization
are determined using the straight line method over the estimated useful lives of
the assets of three to seven years. The cost and related accumulated
depreciation or amortization on asset disposals are removed from the accounts
and any gain or loss thereon is included in operations in the year of disposal.
Maintenance, repairs and minor renewals are charged to expense as incurred,
while additions and betterments are capitalized.
REVENUE RECOGNITION
Literature distribution revenue, which comprises over 80% of total revenue,
consists of fees received for delivery of travel literature to both American
Express cardholders and Norvista customers. Revenue is recognized in the period
the literature is sent to the customer.
Advertising revenue consists of banner advertising and priority listings
placed on the Company's website. Both banner advertising and priority listing
revenue are derived from fixed fee contracts. Fixed fee contracts are recognized
ratably over the term of the agreement, provided that no significant Company
obligations remain. Deferred revenue consists of payments received from
customers for future advertising services to be performed by the Company under
contract.
CONCENTRATIONS OF CREDIT RISK AND SIGNIFICANT CUSTOMERS
Financial instruments that potentially subject the Company to credit risk
consist primarily of accounts receivable. The Company grants credit to customers
in the ordinary course of business. Two customers accounted for approximately
59% and 21% of total revenues during 1998. Receivables from these same two
customers accounted for approximately 68% and 32% of total receivables at
December 31, 1998, respectively.
F-32
91
TRAVEL COMPANIONS INTERNATIONAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
INCOME TAXES
The Company has elected to be taxed as an S corporation under the
provisions of the Internal Revenue Code (the Code) and comparable state income
tax law. Under those provisions, the Company's income is reported on the
individual tax returns of the Company's stockholders. As such, the Company is
generally not subject to corporate income taxes. Therefore, no provision or
liability for income taxes is reflected in the financial statements of the
Company.
2. PROPERTY AND EQUIPMENT
Property and equipment:
Computer equipment........................................ $23,488
Furniture and office equipment............................ 23,881
Leasehold improvements.................................... 878
-------
48,247
Less accumulated depreciation and amortization.............. 45,197
-------
$ 3,050
=======
3. BORROWING ARRANGEMENTS
DEBT
The Company has a note with a local development authority. The loan bears
simple interest at a rate of 8.5% and calls for monthly principal and interest
payments of $682 per month for five years with the remaining principal and
accrued interest due in April 2003. As of December 31, 1998, the balance
outstanding under this loan agreement was $52,603. The outstanding balance has
been classified as current in accordance with the terms of the agreement due to
the pending acquisition of the majority of the Company's assets as described in
Note 6. In the event that the acquisition is not consummated, approximately
$48,700 of the outstanding debt balance would be reclassified to long term.
Borrowings outstanding under the agreement are collateralized by all
inventory and equipment of the Company and are personally guaranteed by the
stockholders. In addition, the borrowings are collateralized by the proceeds
from life insurance policies maintained by the Company on all of its
stockholders with a face value of $300,000.
NOTES PAYABLE TO STOCKHOLDERS
The Company has entered into subordinated note agreements with its
stockholders. The amounts outstanding under the note agreements totaled $459,678
as of December 31, 1998. These amounts do not bear interest and are due on
demand subsequent to May 31, 2000.
4. RELATED PARTY TRANSACTIONS
The Company leases office space on a month-to-month basis from one of its
stockholders. The Company recognized $18,000 of rent expense related to this
arrangement during the year ended December 31, 1998.
5. RECENT ACCOUNTING PRONOUNCEMENTS
In March 1998, the American Institute of Certified Public Accountants
(AICPA) issued Statement of Position (SOP) 98-1, "Accounting for the Cost of
Computer Software Developed or Obtained for Internal Use." SOP 98-1 is effective
for financial statements for years beginning after
F-33
92
TRAVEL COMPANIONS INTERNATIONAL, INC.
NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
December 15, 1998. SOP 98-1 provides guidance over accounting for computer
software developed for internal use including the requirement to capitalize
specified costs and amortization of such costs.
The Company does not expect the adoption of this standard to have a
material effect on the results of its operations, financial position or cash
flows.
6. SUBSEQUENT EVENTS
In May 1999, the Company entered into an asset purchase agreement to sell
substantially all of its assets to FreeShop.com, Inc. for a purchase price of
$1,400,000 in cash.
F-34
93
UNAUDITED PRO FORMA COMBINED FINANCIAL INFORMATION
In May 1999, FreeShop.com, Inc. (FreeShop) entered into purchase and sale
agreements to acquire substantially all of the assets of Commonsite, LLC
(Commonsite) and Travel Companions International, Inc. (Travel). Total
consideration for the two companies is $2,576,000, which is comprised of
$1,841,000 in cash and 132,300 shares of common stock. The unaudited pro forma
condensed combined balance sheet is based on the individual unaudited balance
sheets of FreeShop, Commonsite and Travel appearing elsewhere in this prospectus
and has been prepared to reflect the acquisitions by FreeShop of the assets of
Commonsite and Travel as of March 31, 1999. The unaudited pro forma condensed
combined statements of operations are based on individual historical results of
operations of FreeShop, Commonsite and Travel for the year ended December 31,
1998 and for the three months ended March 31, 1999 after giving effect to the
acquisitions of Commonsite and Travel as if they had occurred at the beginning
of each of the periods presented.
The unaudited pro forma combined financial statements should be read in
conjunction with the historical financial statements and notes thereto of
FreeShop, Commonsite and Travel. The pro forma condensed financial statements
are presented for illustrative purposes only and are not necessarily indicative
of results of operations that would have actually occurred had the acquisitions
of Commonsite and Travel been effected on the dates assumed.
F-35
94
UNAUDITED PRO FORMA COMBINED BALANCE SHEET
AS OF MARCH 31, 1999
PRO FORMA
FREESHOP COMMONSITE TRAVEL COMBINED ADJUSTMENTS PRO FORMA
----------- ---------- --------- ----------- ----------- -----------
ASSETS
Current assets:
Cash and cash equivalents............ $ 1,330,482 $ 23,652 $ 3,545 $ 1,357,679 $ (27,197)(4) $ (510,518)
(1,841,000)(1)
Accounts receivable, net............. 484,648 29,151 5,200 518,999 (5,200)(4) 513,799
Prepaid expenses and other current
assets............................. 163,686 820 164,506 (820)(4) 163,686
----------- --------- --------- ----------- ----------- -----------
Total current assets............... 1,978,816 52,803 9,565 2,041,184 (1,874,217) 166,967
Property and equipment, net............ 558,970 8,097 2,265 569,332 3,638(4) 572,970
Other assets and deposits.............. 43,454 43,454 43,454
Goodwill and other..................... -- 2,657,503(1) 2,657,503
----------- --------- --------- ----------- ----------- -----------
Total assets....................... $ 2,581,240 $ 60,900 $ 11,830 $ 2,653,970 $ 786,924 $ 3,440,894
=========== ========= ========= =========== =========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT)
Current liabilities
Debt obligation, current portion..... $ 51,668 $ 51,668 $ (51,668)(4)
Accounts payable..................... $ 510,132 $ 567 4,600 515,299 (5,167)(4) $ 510,132
Current portion of capital lease
obligations........................ 117,386 117,386 117,386
Accrued liabilities.................. 791,097 17,992 3,296 812,385 (21,288)(4) 791,097
Deferred revenue..................... 29,750 120,422 3,232 153,404 153,404
----------- --------- --------- ----------- ----------- -----------
Total current liabilities...... 1,448,365 138,981 62,796 1,650,142 (78,123) 1,572,019
Capital lease obligations, net of
current portion...................... 113,413 113,413 113,413
Notes payable to shareholders.......... 454,678 454,678 (454,678)(4) --
Shareholders' equity (deficit) Common
stock................................ 7,879,761 5,000 7,884,761 736,000(2) 8,615,761
(5,000)(10)
Additional paid-in capital........... 1,034,976 153,432 1,188,408 (153,432)(10) 1,034,976
Deferred stock compensation.......... (675,054) (675,054) (675,054)
Accumulated deficit.................. (7,220,221) (231,513) (510,644) (7,962,378) 742,157(10) (7,220,221)
----------- --------- --------- ----------- ----------- -----------
Total shareholders' equity
(deficit)........................ 1,019,462 (78,081) (505,644) 435,737 1,319,725 1,755,462
----------- --------- --------- ----------- ----------- -----------
Total liabilities and shareholders'
equity (deficit)................. $ 2,581,240 $ 60,900 $ 11,830 $ 2,653,970 $ 786,924 $ 3,440,894
=========== ========= ========= =========== =========== ===========
F-36
95
UNAUDITED PRO FORMA COMBINED STATEMENTS OF OPERATIONS
FOR THE YEAR ENDED DECEMBER 31, 1998
--------------------------------------------------------------------------------
PRO FORMA
FREESHOP COMMONSITE TRAVEL COMBINED ADJUSTMENTS PRO FORMA
----------- ---------- -------- ----------- ----------- -----------
Net revenues.................... $ 1,250,940 $540,114 $219,813 $ 2,010,867 $ (117,600)(5) $ 1,893,267
Cost of revenues................ 216,557 180,244 61,872 458,673 (20,547)(6) 438,126
----------- -------- -------- ----------- ----------- -----------
Gross profit.................... 1,034,383 359,870 157,941 1,552,194 (97,053) 1,455,141
Operating expenses
Sales and marketing........... 3,248,429 276,378 9,393 3,534,200 (105,000)(6) 3,429,200
Research and development...... 407,053 407,053 407,053
General and administrative.... 514,854 72,290 125,648 712,792 (2,315)(8) 710,477
Amortization.................. 1,141,000(3) 1,141,000
----------- -------- -------- ----------- ----------- -----------
Total operating expenses........ 4,170,336 348,668 135,041 4,654,045 1,033,685 5,687,730
----------- -------- -------- ----------- ----------- -----------
Loss from operations............ (3,135,953) 11,202 22,900 (3,101,851) (1,130,738) (4,232,589)
Interest expense................ 65,654 65,654 65,654
Other (income) expense.......... (2,582) 4,287 1,705 (4,287)(7) (2,582)
----------- -------- -------- ----------- ----------- -----------
Net (loss) income............... $(3,199,025) $ 11,202 $ 18,613 $(3,169,210) $(1,126,451) $(4,295,661)
=========== ======== ======== =========== =========== ===========
Basic and diluted net loss per
share......................... $ (0.21) $ (0.27)(9)
=========== ===========
Weighted average shares of
common stock outstanding used
in computing basic and diluted
net loss per share............ 15,559,315 132,300(2) 15,691,615(9)
=========== =========== ===========
THREE MONTHS ENDED MARCH 31, 1999
--------------------------------------------------------------------------------
PRO FORMA
FREESHOP COMMONSITE TRAVEL COMBINED ADJUSTMENTS PRO FORMA
----------- ---------- -------- ----------- ----------- -----------
Net revenues.................... $ 666,579 $106,435 $ 64,887 $ 837,901 $ 837,901
Cost of revenues................ 83,106 21,492 25,866 130,464 130,464
----------- -------- -------- ----------- -----------
Gross profit.................... 583,473 84,943 39,021 707,437 707,437
Operating expenses
Sales and marketing........... 1,553,810 36,463 1,950 1,592,223 1,592,223
Research and development...... 151,783 151,783 151,783
General and administrative.... 256,368 52,731 28,000 337,099 $ (481)(8) 336,618
Amortization.................. 210,250(3) 210,250
----------- -------- -------- ----------- ----------- -----------
Total operating expenses........ 1,961,961 89,194 29,950 2,081,105 209,769 2,290,874
----------- -------- -------- ----------- ----------- -----------
Loss from operations............ (1,378,488) (4,251) 9,071 (1,373,668) (209,769) (1,583,437)
Interest expense................ 13,048 1,110 14,158 (1,110)(7) 13,048
Other (income) expense.......... (25,458) (25,458) (25,458)
----------- -------- -------- ----------- ----------- -----------
Net (loss) income............... $(1,366,078) $ (4,251) $ 7,961 $(1,362,368) $ (208,659) $(1,571,027)
=========== ======== ======== =========== =========== ===========
Basic and diluted net loss per
share......................... $ (0.07) $ (0.08)(9)
=========== ===========
Weighted average shares of
common stock outstanding used
in computing basic and diluted
net loss per share............ 20,376,622 132,300(2) 20,508,922(9)
=========== =========== ===========
F-37
96
NOTES TO UNAUDITED PRO FORMA
COMBINED FINANCIAL STATEMENTS
1. Reflects the preliminary allocation of the purchase price and the
amortization of the cost of intangible assets and goodwill acquired in
the Commonsite and Travel acquisitions. The preliminary allocation has
resulted in intangible assets, including client and customer lists,
database content, and covenants not to compete, estimated at
approximately $1,285,000 and estimated goodwill of approximately
$1,383,000, which is being amortized over periods of one to five years.
The total estimated purchase price for the Commonsite and Travel
acquisitions has been allocated on a preliminary basis to assets and
liabilities based on management's best estimates of their fair value
with the excess costs over the net assets acquired allocated to
intangible assets and goodwill. This allocation is subject to change
pending a final analysis of the value of the assets acquired and,
liabilities assumed, upon closure of the acquisition. The impact of
such changes could be material.
2. Reflects the issuance of 132,300 shares of FreeShop Common Stock in
connection with the Commonsite acquisition.
3. Reflects the amortization of the intangible assets and goodwill
referred to in note 1 above.
4. Reflects elimination of assets and liabilities not purchased in the
Commonsite and Travel acquisitions and the increase in value of the
property and equipment acquired in the Travel acquisition.
5. Represents a revenue stream discontinued after December 31, 1998.
6. Represents additional programming and management service fees of
Commonsite that FreeShop would not have required due to the similarity
in business operations.
7. Represents elimination of interest expense for debt not assumed in the
acquisitions.
8. Represents elimination of depreciation expense related to property and
equipment not purchased in the Commonsite acquisition offset by the
additional depreciation expense recorded for the increase in the value
of the property and equipment acquired in the Travel acquisition.
9. Pro forma net loss reflects the impact of the adjustments above. Basic
and diluted net loss per share (pro forma) is computed using the
weighted-average number of shares of common stock outstanding after the
issuance of FreeShop Common Stock in connection with the Commonsite
acquisition.
10. Reflects elimination of Commonsite and Travel members' and
stockholders' equity.
F-38
97
YOU MAY RELY ONLY ON THE INFORMATION CONTAINED IN THIS PROSPECTUS. WE HAVE NOT
AUTHORIZED ANYONE TO PROVIDE INFORMATION DIFFERENT FROM THAT CONTAINED IN THIS
PROSPECTUS. NEITHER THE DELIVERY OF THIS PROSPECTUS NOR SALE OF COMMON STOCK
MEANS THAT INFORMATION CONTAINED IN THIS PROSPECTUS IS CORRECT AFTER THE DATE OF
THIS PROSPECTUS. THIS PROSPECTUS IS NOT AN OFFER TO SELL OR SOLICITATION OF AN
OFFER TO BUY THESE SHARES OF COMMON STOCK IN ANY CIRCUMSTANCES UNDER WHICH THE
OFFER OR SOLICITATION IS UNLAWFUL.
TABLE OF CONTENTS
Prospectus Summary....................... 3
Risk Factors............................. 7
Forward-Looking Statements............... 15
Use of Proceeds.......................... 16
Dividend Policy.......................... 16
The Company.............................. 16
Capitalization........................... 17
Dilution................................. 18
Selected Unaudited Pro Forma Financial
Data................................... 19
Selected Actual Financial Data........... 20
Management's Discussion And Analysis of
Financial Condition and Results of
Operations............................. 21
Business................................. 30
Management............................... 40
Related Party Transactions............... 47
Principal Shareholders................... 49
Description of Capital Stock............. 51
Shares Eligible for Future Sale.......... 53
Underwriting............................. 55
Legal Matters............................ 56
Experts.................................. 56
Where You Can Find More Information...... 57
Index to Financial Statements............ F-1
DEALER PROSPECTUS DELIVERY OBLIGATION:
UNTIL , 1999 (25 DAYS AFTER THE DATE OF THIS PROSPECTUS), ALL DEALERS
THAT BUY, SELL OR TRADE THESE SHARES OF COMMON STOCK, WHETHER OR NOT
PARTICIPATING IN THIS OFFERING, MAY BE REQUIRED TO DELIVER A PROSPECTUS. THIS IS
IN ADDITION TO THE DEALERS' OBLIGATION TO DELIVER A PROSPECTUS WHEN ACTING AS
UNDERWRITERS AND WITH RESPECT TO THEIR UNSOLD ALLOTMENTS OR SUBSCRIPTIONS.
FREESHOP LOGO
SHARES
COMMON STOCK
DEUTSCHE BANC ALEX. BROWN
DAIN RAUSCHER WESSELS
a division of Dain Rauscher Incorporated
VOLPE BROWN WHELAN
& COMPANY
Prospectus
, 1999
98
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION.
The following table states the costs and expenses, other than the
underwriting discounts and commissions, payable by the registrant in connection
with the sale of common stock being registered by this registration statement.
All amounts shown are estimates, except the Securities and Exchange Commission
registration fee, the NASD Filing Fee and the Nasdaq National Market listing
Fee.
AMOUNT
--------
Securities and Exchange Commission Registration Fee......... $ 12,788
NASD Filing Fee............................................. 5,100
Nasdaq National Market Listing Fee..........................
Legal Fees and Expenses.....................................
Accountants' Fees and Expenses..............................
Blue Sky Filing and Counsel Fees and Expenses...............
Printing and Engraving Expenses.............................
Transfer Agent and Registrar Fees...........................
Miscellaneous Expenses......................................
Total.............................................
ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS.
Sections 23B.08.500 through 23B.08.600 of the Washington Business
Corporation Act (the "Washington Act") authorize a court to award, or a
corporation's board of directors to grant, indemnification to directors and
officers on terms sufficiently broad to permit indemnification under certain
circumstances for liabilities arising under the Securities Act of 1933, as
amended (the "Securities Act"). Article IX of the registrant's Bylaws provide
for indemnification of the registrant's directors, officers, employees and
agents to the maximum extent permitted by Washington law. The registrant has
entered into agreements with its directors and officers arising out of their
service as officers and director, as applicable, and has agreed to advance
expenses to defend claims subject to indemnification. The directors and officers
of the registrant also may be indemnified against liability they may incur for
serving in that capacity pursuant to a liability insurance policy maintained by
the registrant for such purpose.
Section 23B.08.320 of the Washington Act authorizes a corporation to limit
a director's liability to the corporation or its shareholders for monetary
damages for acts or omissions as a director, except in certain circumstances
involving intentional misconduct, self-dealing or illegal corporate loans or
distributions, or any transaction from which the director personally receives a
benefit in money, property or services to which the director is not legally
entitled. Article 6 of the registrant's Articles of Incorporation contains
provisions implementing, to the fullest extent permitted by Washington law, such
limitations on a director's liability to the registrant and its shareholders.
Reference is also made to the Form of Underwriting Agreement to be filed as
Exhibit 1.1 to this Registration Statement for certain provisions regarding the
indemnification of officers and directors of the registrant by the underwriters
in connection with matters specifically provided in writing by the underwriters
for inclusion in the Registration Statement.
II-1
99
ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES.
Since the registrant's inception in June 1997, the registrant has issued
and sold the following unregistered securities:
1. On June 30, 1997, the registrant issued 11,502,050 shares of Common
Stock and 1,935,484 shares of Series A Preferred Stock to Online Interactive,
Inc. for aggregate consideration consisting of the contribution to the Company
of the operating assets and liabilities of the FreeShop Division of Online
Interactive, Inc. The 1,935,484 shares of Series A Preferred Stock were
convertible into the same number of shares of Common Stock.
2. On July 18, 1997, the registrant issued 967,742 shares of Common Stock
to Timothy C. Choate and 967,742 shares of Common Stock to John Ballantine upon
conversion of Series A Preferred Stock held by each of them.
3. During the period July 1997 through June 1998, the registrant issued an
aggregate of 2,168,301 shares of Common Stock to twenty-one investors for a
consideration of $0.41 per share, or an aggregate of $889,003.
4. On October 15, 1997, the registrant issued Warrants for 6,000 shares of
Common Stock exercisable at a price of $0.41 per share, expiring October 23,
2002, to HALLCO in partial consideration of an equipment lease.
5. During the period October 1997 through December 1997, the registrant
issued a total of 79,602 shares of Common Stock to its landlord Merrill Place
LLC in lieu of rent payments in the aggregate amount of $32,637.
6. On January 16, 1998, the registrant issued Warrants for 3,250 shares of
Common Stock exercisable at a price of $0.41 per share, expiring January 16,
2002, to Karrie Lee for consulting services.
7. On January 19, 1998, the registrant issued Warrants for 35,000 shares of
Common Stock exercisable at a price of $0.41 per share, expiring January 23,
2003, to HALLCO in partial consideration of an equipment lease.
8. On January 23, 1998, the registrant issued Warrants for 1,000 shares of
Common Stock exercisable at a price of $0.41 per share, expiring December 31,
2002, to Dennis Green for consulting services.
9. On January 23, 1998, the registrant issued Warrants for 25,000 shares of
Common Stock exercisable at a price of $0.41 per share, expiring January 23,
2002, to EMPLOYCO for consulting services.
10. On March 17, 1998, the registrant issued a $50,000 convertible
promissory note to Oki Enterprises, LLC, with a maturity date March 1, 2000. The
principal balance of the note was convertible in the discretion of the holder at
any time prior to the maturity date into shares of the Company's Preferred Stock
on the same terms at which the Company may then be offering Preferred Stock to
other investors.
11. On June 30, 1998, the registrant issued 3,639 shares of Common Stock to
Anthony Lee Simonelli in consideration of consulting services valued at $1,492
rendered to the Company.
12. During the period June 1998 through September 1998, the registrant
issued an aggregate of 1,531,673 shares of Common Stock to twenty-two investors
at $0.60 per share for aggregate consideration of $919,004.
13. On September 18, 1998, the registrant issued Warrants for 25,000 shares
of Common Stock exercisable at a price of $0.60 per share, expiring September
18, 2003, to Imperial Bank in partial consideration of a credit facility.
II-2
100
14. On December 11, 1998, the registrant issued 4,048,467 shares of Common
Stock, and Warrants to purchase 2,935,356 shares of Common Stock at $1.71826 per
share, 1,790,724 shares at $1.99440 per share and 3,932,055 shares at $2.20919
per share, to Fingerhut for an aggregate consideration of $4,000,000.
15. In February 1999, the registrant issued an aggregate of 400,000 shares
of Common Stock to a total of ten investors at $1.00 per share for aggregate
consideration of $400,000.
16. On April 5, 1999, the registrant issued 50,000 shares of Common Stock
to Oki Enterprises, LLC, in exchange for the $50,000 convertible promissory note
referenced in item 10 above.
17. On April 8, 1999, the registrant issued 243,903 shares of Common Stock
to Techwave, Inc. at $0.41 per share for aggregate consideration of $100,000.
18. On May 6, 1999, in accordance with an Asset Purchase Agreement among
the registrant, Commonsite, LLC and a shareholder of Commonsite, the registrant
issued 132,300 shares of Common Stock to Commonsite in connection with the
registrant's purchase of certain of Commonsite's assets.
19. On May 24, 1999, the registrant issued 293,536 shares of Series B
Preferred Stock in lieu of Common Stock to Fingerhut for aggregate consideration
of $5,043,704 upon the exercise by Fingerhut of Warrants identified in item 14
above. Each share of Series B Preferred Stock is convertible into ten shares of
Common Stock.
20. On May 25, 1999, the registrant issued 25,000 shares of Common Stock to
EMPLOYCO for aggregate consideration of $15,000 upon the exercise by EMPLOYCO of
Warrants identified in item 9 above.
21. Since inception, the registrant has issued an aggregate of 5,190,641
options to purchase Common Stock, with exercise prices ranging from $0.06 to
$1.71 per share, to employees under the registrant's 1997 Stock Option Plan. Of
these options, options for 2,599,446 shares have been canceled without being
exercised, options for 187,975 shares have been exercised and options for
2,403,220 shares remain outstanding.
The sales and issuances of securities described in paragraphs 1 through 14
above were exempt from Securities Act registration under Section 4(2) of the
Securities Act, on the basis that the transactions did not involve a public
offering. The sales and issuances of securities described in paragraph 15 above
were exempt from Securities Act registration under Rule 701 under the Securities
Act, on the basis that these option were offered and sold in accordance with a
written compensatory benefit plan.
No underwriters were used in connection with these sales and issuances.
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ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.
A. Exhibits
EXHIBIT NO. DESCRIPTION
----------- -----------
1.1* Form of Underwriting Agreement.
3.1* Second Amended and Restated Articles of Incorporation of
registrant.
3.2* First Amended and Restated Bylaws of registrant.
4.1* Specimen Stock Certificate.
4.2 Form of Common Stock Warrant.
5.1* Opinion of Dorsey & Whitney LLP.
10.1 Form of Indemnification Agreement between the registrant and
each of its directors.
10.2 1997 Stock Option Plan, as amended.
10.3 Form of Stock Option Agreement.
10.4 Investor Subscription Agreement, dated December 10, 1998,
between registrant and Fingerhut Companies, Inc.
10.5 Warrant Agreement, dated December 10, 1998, between
registrant and Fingerhut Companies, Inc.
10.6 Stockholders Agreement, dated December 10, 1998, among
registrant, Timothy C. Choate, John Ballantine and Fingerhut
Companies, Inc.
10.7 Asset Purchase Agreement, dated May 5, 1999, among
registrant, Travel Companions International, Inc., Jeff Mohr
and Janet Mohr.
10.8 Asset Purchase Agreement, dated May 6, 1999, among
registrant, Commonsite, LLC and Alan Bennett.
10.9 Registration Rights Agreement, dated May 6, 1999, between
registrant and Commonsite, LLC.
10.10 Loan and Security Agreement, dated September 18, 1998,
between registrant and Imperial Bank.
10.11 Lease Agreement, dated September 23, 1997 and amended as of
February 16, 1999, between registrant and Merrill Place LLC.
10.12+ Promotion Agreement, dated May 18, 1998 and amended as of
June 30, 1998 and September 30, 1998, between registrant and
CNET, Inc.
10.13+ Linkshare Network Membership Agreement, dated September 23,
1998, between registrant and Linkshare Corporation.
10.14 Escrow Agreement dated June 18, 1999 between registrant and
Fingerhut.
23.1 Consent of PricewaterhouseCoopers LLP, independent auditors.
23.2* Consent of Dorsey & Whitney LLP (included in Exhibit 5.1).
24.1 Power of Attorney (included on the signature page).
27.1 Financial Data Schedule
- -------------------------
* To be filed by amendment.
+ Confidential treatment has been requested as to certain portions of this
exhibit. Omitted portions will be filed separately with the Securities and
Exchange Commission.
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102
B. Financial Statement Schedules.
All schedules for which provision is made in the applicable accounting
regulations of the Securities and Exchange Commission are not required under the
related instructions, are inapplicable or not material, or the information
called for thereby is otherwise included in the financial statements and
therefore has been omitted.
ITEM 17. UNDERTAKINGS.
Insofar as indemnification for liabilities arising under the Securities Act
may be permitted to directors, officers and controlling persons of the
registrant pursuant to the foregoing provisions, or otherwise, the registrant
has been advised that in the opinion of the Securities and Exchange Commission
such indemnification is against public policy as expressed in the Securities Act
and is, therefore, unenforceable. In the event that a claim for indemnification
against such liabilities (other than the payment by the registrant of expenses
incurred or paid by a director, officer or controlling person of the registrant
in the successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the securities being
registered, the registrant will, unless in the opinion of its counsel the matter
has been settled by controlling precedent, submit to a court of appropriate
jurisdiction the question of whether such indemnification by it is against
public policy as expressed in the Securities Act and will be governed by the
final adjudication of such issue.
The undersigned registrant hereby undertakes to provide to the underwriter
at the closing specified in the underwriting agreements, certificates in such
denominations and registered in such names by the underwriter to permit prompt
delivery to each purchaser.
The undersigned registrant hereby undertakes that:
(1) For purposes of determining any liability under the Securities
Act, the information omitted from the form of prospectus filed as part of
this registration statement in reliance upon Rule 430A and contained in a
form of prospectus filed by the registrant pursuant to Rule 424(b)(1) or
(4) or 497(h) under the Securities Act shall be deemed to be a part of this
Registration Statement as of the time it was declared effective.
(2) For the purposes of determining any liability under the Securities
Act, each post-effective amendment that contains a form of prospectus shall
be deemed to be a new registration statement relating to the securities
offered therein, and the offering of such securities at that time shall be
deemed to be the initial bona fide offering thereof.
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103
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, as amended, the
registrant has duly caused this registration statement to be signed on its
behalf by the undersigned, thereunto duly authorized, in the city of Seattle,
state of Washington, on June 18, 1999.
FREESHOP.COM, INC.
By: /s/ TIMOTHY C. CHOATE
------------------------------------
Timothy C. Choate
Chairman, President and
Chief Executive Officer
POWER OF ATTORNEY
Each person whose signature appears below constitutes and appoints each of
Timothy C. Choate and John A. Wade his or her attorney-in-fact and agent, with
the full power of substitution and resubstitution and full power to act without
the other, for them in any and all capacities, to sign any and all amendments,
including post-effective amendments, and any registration statement relating to
the same offering as this registration that is to be effective upon filing
pursuant to Rule 462(b) under the Securities Act of 1933, as amended, to this
registration statement, and to file the same, with exhibits thereto and other
documents in connection therewith, with the Securities and Exchange Commission,
hereby ratifying and confirming all that said attorneys-in-fact, or their
substitute or substitutes, may do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Act of 1933, as amended,
this registration statement has been signed by the following persons in the
capacities and on the dates indicated.
SIGNATURE TITLE DATE
--------- ----- ----
/s/ TIMOTHY C. CHOATE Chairman, President and June 18, 1999
- ----------------------------------------------------- Chief Executive Officer
Timothy C. Choate (principal executive officer)
/s/ JOHN A. WADE Secretary, Vice President, June 18, 1999
- ----------------------------------------------------- Finance and Chief Financial
John A. Wade Officer (principal finance and
accounting officer)
/s/ JOHN P. BALLANTINE Director June 18, 1999
- -----------------------------------------------------
John P. Ballantine
/s/ KIRK M. LOEVNER Director June 18, 1999
- -----------------------------------------------------
Kirk M. Loevner
/s/ JOHN B. BALOUSEK Director June 18, 1999
- -----------------------------------------------------
John B. Balousek
Director
- -----------------------------------------------------
William J. Lansing
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EXHIBIT INDEX
EXHIBIT NO. DESCRIPTION
- ----------- -----------
1.1* Form of Underwriting Agreement.
3.1* Second Amended and Restated Articles of Incorporation of
registrant.
3.2* First Amended and Restated Bylaws of registrant.
4.1* Specimen Stock Certificate.
4.2 Form of Common Stock Warrant.
5.1* Opinion of Dorsey & Whitney LLP.
10.1 Form of Indemnification Agreement between the registrant and
each of its directors.
10.2 1997 Stock Option Plan, as amended.
10.3 Form of Stock Option Agreement.
10.4 Investor Subscription Agreement, dated December 10, 1998,
between registrant and Fingerhut Companies, Inc.
10.5 Warrant Agreement, dated December 10, 1998, between
registrant and Fingerhut Companies, Inc.
10.6 Stockholders Agreement, dated December 10, 1998, among
registrant, Timothy C. Choate, John Ballantine and Fingerhut
Companies, Inc.
10.7 Asset Purchase Agreement, dated May 5, 1999, among
registrant, Travel Companions International, Inc., Jeff Mohr
and Janet Mohr.
10.8 Asset Purchase Agreement, dated May 6, 1999, among
registrant, Commonsite, LLC and Alan Bennett.
10.9 Registration Rights Agreement, dated May 6, 1999, between
registrant and Commonsite, LLC.
10.10 Loan and Security Agreement, dated September 18, 1998,
between registrant and Imperial Bank.
10.11 Lease Agreement, dated September 23, 1997 and amended as of
February 16, 1999, between registrant and Merrill Place LLC.
10.12+ Promotion Agreement, dated May 18, 1998 and amended as of
June 30, 1998 and September 30, 1998, between registrant and
CNET, Inc.
10.13+ Linkshare Network Membership Agreement, dated September 23,
1998, between registrant and Linkshare Corporation.
10.14 Escrow Agreement dated June 18, 1999 between registrant and
Fingerhut.
23.1 Consent of PricewaterhouseCoopers LLP, independent auditors
23.2* Consent of Dorsey & Whitney LLP (included in Exhibit 5.1).
24.1 Power of Attorney (included on the signature page).
27.1 Financial Data Schedule
- -------------------------
* To be filed by amendment.
+ Confidential treatment has been requested as to certain portions of this
Exhibit. Omitted portions will be filed separately with the Securities and
Exchange Commission.