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U. S. SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-QSB
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended June 30, 2003
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Commission file number 0-28008
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SmartServ Online, Inc.
- --------------------------------------------------------------------------------
(Exact Name of Small Business Issuer as Specified in Its Charter)
Delaware 13-3750708
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(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)
Metro Center, One Station Place, Stamford, Connecticut 06902
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(Address of Principal Executive Offices)
(203) 353-5950
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(Issuer's Telephone Number, Including Area Code)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes X No
--- ---
The number of shares of common stock, $.01 par value, outstanding as of August
20, 2003 was 12,297,199.
Transitional Small Business Disclosure Format (check one): Yes No X
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SMARTSERV ONLINE, INC.
FORM 10-QSB
INDEX
PART I. FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements
Consolidated Balance Sheets - June 30, 2003 (unaudited) and December 31, 2002.......................2
Consolidated Statements of Operations - three months ended June 30, 2003 and 2002
and six months ended June 30, 2003 and 2002 (unaudited).............................................4
Consolidated Statement of Changes in Stockholders' Equity (Deficiency) - six months
ended June 30, 2003 (unaudited).....................................................................6
Consolidated Statements of Cash Flows - three months ended June 30, 2003 and 2002
and six months ended June 30, 2003 and 2002 (unaudited).............................................7
Notes to Unaudited Consolidated Financial Statements................................................8
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations..........................................................................21
Item 3. Controls and Procedures............................................................................29
PART II. OTHER INFORMATION
Item 1. Legal Proceedings..................................................................................30
Item 2. Changes in Securities and Use of Proceeds..........................................................30
Item 6. Exhibits and Reports on Form 8-K...................................................................33
Signatures.........................................................................................34
1
SMARTSERV ONLINE, INC.
CONSOLIDATED BALANCE SHEETS
JUNE 30, DECEMBER 31,
2003 2002
---------- ----------
(UNAUDITED)
ASSETS
Current assets
Cash $ 410,973 $ 154,759
Accounts receivable 65,674 55,907
Accrued interest receivable -- 50,658
Prepaid compensation 428,125 117,500
Prepaid expenses 186,837 164,258
Deferred financing costs 962,902 --
---------- ----------
Total current assets 2,054,511 543,082
---------- ----------
Property and equipment, net -- 1,573,978
Other assets
Capitalized software development costs, net of
accumulated amortization of $1,097,148 at
June 30, 2003 and $208,681 at December 31, 2002 -- 888,467
Security deposits 200,731 238,690
Notes receivable from officer, net of an allowance for
uncollectibility of $664,640 -- --
Prepaid compensation 48,958 107,708
---------- ----------
249,689 1,234,865
---------- ----------
Total Assets $2,304,200 $3,351,925
========== ==========
2
SMARTSERV ONLINE, INC.
CONSOLIDATED BALANCE SHEETS
JUNE 30, DECEMBER 31,
2003 2002
------------ ------------
(UNAUDITED)
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIENCY)
Current liabilities
Accounts payable $ 1,649,696 $ 1,307,342
Accrued liabilities 556,466 476,346
Accrued salaries 545,635 295,437
Notes payable 1,329,810 500,000
------------ ------------
Total current liabilities 4,081,607 2,579,125
------------ ------------
Deferred revenues 77,033 193,294
Deferred lease costs 245,285 242,300
Accounts payable - noncurrent -- 163,907
COMMITMENTS AND CONTINGENCIES - NOTE 9
STOCKHOLDERS' EQUITY (DEFICIENCY)
Preferred stock - $0.01 par value
Authorized - 1,000,000 shares
Issued and outstanding - None -- --
Common stock - $.01 par value
Authorized - 40,000,000 shares
Issued and outstanding - 12,007,912 shares at June 30, 2003 and
11,436,240 shares at December 31, 2002 120,078 114,362
Additional paid-in capital 77,619,786 73,527,939
Notes receivable from officers, net of an allowance for
uncollectibility of $354,471 at June 30, 2003 and $-0- at December
31, 2002 (255,525) (609,996)
Accumulated deficit (79,584,064) (72,859,006)
------------ ------------
Total stockholders' equity (deficiency) (2,099,725) 173,299
------------ ------------
Total Liabilities and Stockholders' Equity (Deficiency) $ 2,304,200 $ 3,351,925
============ ============
See accompanying notes.
3
SMARTSERV ONLINE, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
THREE MONTHS SIX MONTHS
ENDED JUNE 30 ENDED JUNE 30
---------------------------- ----------------------------
2003 2002 2003 2002
------------ ------------ ------------ ------------
Revenues $ 238,028 $ 35,815 $ 469,015 $ 64,636
------------ ------------ ------------ ------------
Costs and expenses:
Costs of services (2,574,543) (1,419,946) (3,791,374) (2,951,626)
Sales and marketing expenses (103,496) (1,042,804) (380,030) (2,243,649)
General and administrative expenses (1,360,913) (1,176,235) (2,360,093) (2,240,140)
Stock-based compensation (73,750) 325,136 (101,944) 153,121
------------ ------------ ------------ ------------
Total costs and expenses (4,112,702) (3,313,849) (6,633,441) (7,282,294)
------------ ------------ ------------ ------------
Loss from operations (3,874,674) (3,278,034) (6,164,426) (7,217,658)
------------ ------------ ------------ ------------
Other income (expense):
Interest income 4,360 8,815 8,892 31,499
Interest expense and other financing costs (873,510) (187,504) (1,249,396) (369,745)
Gain from extinguishment of debt -- -- 305,822 --
Insurance recovery 374,000 -- 374,000 --
Foreign exchange gains (losses) (43) (5,290) 50 (15,456)
------------ ------------ ------------ ------------
(495,193) (183,979) (560,632) (353,702)
------------ ------------ ------------ ------------
Net loss $ (4,369,867) $ (3,462,013) $ (6,725,058) $ (7,571,360)
============ ============ ============ ============
Basic and diluted loss per share $ (0.36) $ (0.53) $ (0.57) $ (1.19)
============ ============ ============ ============
Weighted average shares outstanding - basic and
diluted 12,001,457 6,520,857 11,870,858 6,389,140
============ ============ ============ ============
The following table illustrates the amount of stock-based compensation charges
that would have been
4
recorded in the categories of the statement of operations had stock-based
compensation not been separately stated therein:
THREE MONTHS SIX MONTHS
ENDED JUNE 30 ENDED JUNE 30
---------------------- ----------------------
2003 2002 2003 2002
--------- --------- --------- ---------
Costs of services $ -- $ 168,573 $ 396 $ 195,308
Sales and marketing expenses -- (29,663) -- (29,663)
General and administrative expenses (73,750) 186,226 (102,340) (12,524)
--------- --------- --------- ---------
$ (73,750) $ 325,136 $(101,944) $ 153,121
========= ========= ========= =========
See accompanying notes.
5
SMARTSERV ONLINE, INC.
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIENCY)
SIX MONTHS ENDED JUNE 30, 2003
(UNAUDITED)
NOTES
COMMON STOCK RECEIVABLE ADDITIONAL
PAR FROM PAID-IN ACCUMULATED
SHARES VALUE OFFICERS CAPITAL DEFICIT
------------ ------------ ------------ ------------ ------------
Balances at December 31, 2002 11,436,240 $ 114,362 $ (609,996) $ 73,527,939 $(72,859,006)
Issuance of common stock upon
exercise of employee stock
options 5,749 57 -- 9,602 --
Issuance of common stock upon
exercise of warrants 442,386 4,424 -- 371,603 --
Issuance of common stock to
vendors to satisfy debt 123,537 1,235 -- 162,672 --
Change in market value of
employee stock options -- -- -- (1,323) --
Allowance for uncollectibility
of loans to officers -- -- 354,471 -- --
Issuance of warrants related
to debt financing -- -- -- 2,472,672 --
Beneficial conversion features
of notes -- -- -- 1,076,621
Net loss for the period -- -- -- -- (6,725,058)
------------ ------------ ------------ ------------ ------------
Balances at June 30, 2003 12,007,912 $ 120,078 $ (255,525) $ 77,619,786 $(79,584,064)
============ ============ ============ ============ ============
See accompanying notes.
6
SMARTSERV ONLINE, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
THREE MONTHS SIX MONTHS
ENDED JUNE 30 ENDED JUNE 30
-------------------------- --------------------------
2003 2002 2003 2002
----------- ----------- ----------- -----------
OPERATING ACTIVITIES
Net loss $(4,369,867) $(3,462,013) $(6,725,058) $(7,571,360)
Adjustments to reconcile net loss to net cash
used for operating activities:
Gain from extinguishment of debt -- -- (305,822) --
Depreciation and amortization 1,997,858 465,140 2,462,445 966,890
Noncash compensation costs 73,750 (325,137) 101,944 (153,121)
Amortization of deferred revenues (165,567) (5,294) (334,261) (5,294)
Amortization of deferred financing costs 745,987 -- 1,093,701 --
Provision for losses on loans to officers 399,022 -- 399,022 --
Changes in operating assets and liabilities
Accounts receivable 74,787 (63,334) (9,767) (126,057)
Accrued interest receivable (3,600) -- 6,107 --
Prepaid expenses (114,585) 67,722 (22,579) 217,323
Accounts payable and accrued liabilities 74,689 61,286 706,479 77,657
Deferred revenues 80,000 92,051 218,000 174,051
Security deposit 9,243 698 37,959 (16,295)
----------- ----------- ----------- -----------
Net cash used for operating activities (1,198,283) (3,168,881) (2,371,830) (6,436,206)
----------- ----------- ----------- -----------
INVESTING ACTIVITIES
Purchase of equipment -- -- -- (168,490)
Capitalization of software development costs -- (68,437) -- (140,235)
----------- ----------- ----------- -----------
Net cash used for investing activities -- (68,437) -- (308,725)
----------- ----------- ----------- -----------
FINANCING ACTIVITIES
Net proceeds from the issuance of notes 1,537,500 -- 2,537,500 --
Proceeds from the issuance of common stock 50,007 1,102,258 385,544 1,114,203
Repayment of notes -- -- (295,000) --
Costs of issuing common stock -- (260,000) -- (260,000)
----------- ----------- ----------- -----------
Net cash provided by financing activities 1,587,507 842,258 2,628,044 854,203
----------- ----------- ----------- -----------
Increase (decrease) in cash 389,224 (2,395,060) 256,214 (5,890,728)
Cash - beginning of period 21,749 3,036,655 154,759 6,532,323
----------- ----------- ----------- -----------
Cash - end of period $ 410,973 $ 641,595 $ 410,973 $ 641,595
=========== =========== =========== ===========
See accompanying notes.
7
SMARTSERV ONLINE, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2003
1. NATURE OF BUSINESS
SmartServ Online, Inc. ("SmartServ" or the "Company") commenced operations on
August 20, 1993 and had its initial public offering on March 21, 1996. The
Company offers wireless applications, development and hosting services that
allow wireless carriers, content providers and financial services firms to
deliver content to their work forces and customers. SmartServ's products can
deliver proprietary information, as well as delayed and real-time financial
market data, business and financial news, national and local weather reports and
other business and entertainment information in a user-friendly manner.
The Company's mobile data solutions are designed to generate additional revenue,
increase operating efficiency, and extend brand awareness for wireless carriers,
enterprises and content providers and are delivered via J2ME, BREW, WAP and SMS,
as well as RIM Blackberry and Pocket PC devices.
SmartServ has established customer and distribution relationships with strategic
partners and wireless carriers, including Verizon Wireless, AT&T Wireless,
Nextel, ALLTEL Wireless, U.S. Cellular, QUALCOMM and Motorola, as well as
content providers, including BusinessWeek Online, S&P Comstock and The Wall
Street Journal Online (Dow Jones).
The economic downturn in general, and its impact on the telecommunications
industry in particular, have caused telecommunications service providers to
reduce capital spending, personnel and debt, as well as new service
introductions. This has resulted in delays in the build-out of high speed
carrier data networks and availability of data-enabled wireless devices, causing
the market for SmartServ's financial data and transaction services to be
lackluster. In addition, many financial services firms have curtailed new
product development to focus on data security and recovery. Consequently, the
potential demand for the Company's products and services has been significantly
delayed. Such delays have had a very detrimental effect on the Company's
operations and have resulted in the Company's inability to implement its
business plan and related marketing strategies. Consequently, in May 2002, the
Company commenced an effort to realign its infrastructure and related overhead
to correlate with reductions in projected revenue. As part of this effort,
management closed the Company's UK and Hong Kong sales offices and downsized its
domestic operations through staff reductions to a level sufficient to support
the Company's projected operations. During 2003, the Company has continued to
reduce its cost structure through the termination of additional personnel.
Personnel headcount has been reduced from 66 in May 2002 to the current level of
10. These efforts have reduced the Company's average monthly operating expenses
from approximately $1,090,000 in July 2002 to approximately $230,000 commencing
September 2003, excluding noncash stock compensation and depreciation and
amortization. The Company has also reviewed its revenue producing contracts as
of June 30, 2003 and reduced its projection of near term revenues as a result of
lower than anticipated demand for the Company's products and services. As a
result of the factors identified above, the Company is in need of additional
capital to enable it to continue as a going concern. The following table
provides an analysis of the Company's capital requirements for the 12 month
period ending June 30, 2004 based on projected
8
revenues of $550,000:
% OF
REVENUE GOAL CAPITAL
REQUIRED
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100 $ 4,100,000
0 $ 4,650,000
However, no assurance can be given that the Company will be able meet its
revenue projections, maintain its cost structure as presently configured, or
raise additional capital on satisfactory terms. Should the Company be unable to
raise additional debt or equity financing, it will be forced to seek a merger or
cease operations.
The Company's financial statements have been prepared on a going concern basis,
which contemplates the realization of assets and the settlement of liabilities
and commitments in the normal course of business. The Company has, since its
inception, earned limited revenues and incurred substantial recurring operating
losses, including net losses of $6,725,058 for the six month period ended June
30, 2003, net losses of $8,037,173 and $14,819,860 for the years ended December
31, 2002 and 2001, respectively, and net losses of $30,993,559 and $7,124,126
for the years ended June 30, 2000 and 1999, respectively. Additionally, it had
an accumulated deficit of $79,584,064 at June 30, 2003 and has debt service
requirements of $2,750,000 during the 12 month period ending June 30, 2004.
These conditions raise substantial doubt about the Company's ability to continue
as a going concern. The financial statements do not include any adjustments to
reflect the possible future effects on the recoverability and classification of
assets or the amounts and classification of liabilities that may result from the
outcome of these uncertainties.
SmartServ's plan of operation to eliminate the uncertainty surrounding its
ability to continue as a going concern focuses on licensing its applications and
related services to wireless carriers and financial services firms. For wireless
carriers, the Company delivers data and branded content that can increase
wireless data revenue and customer retention. For content providers, the Company
provides an added source of revenue by distributing their content and brand to
the wireless users. For financial services firms, the Company offers solutions
that can increase productivity and customer retention through the mobile
delivery of proprietary data, as well as market data and other useful content.
Management believes that SmartServ's primary source of revenues will be derived
from revenue-share licensing contracts with its technology partners, content
providers and wireless carrier and financial services customers.
As an example, SmartServ has launched several products on the Verizon Wireless
network. The Company's financial content products have been launched on
Verizon's BREW (Binary Runtime Environment for Wireless) network under the Wall
Street Journal Online brand name, while its SMS (Short Message Service)
financial alert product has been launched on Verizon's V-text portal.
Additionally, the Company has launched its Lottery, AreaWeather and AstroCom
Horoscope lifestyle products on Verizon's BREW network. Salomon Smith Barney, in
conjunction with SmartServ, has launched a wireless version of its GEO (Global
Equities Online) product. GEO combines Salomon's proprietary data, such as
morning call notes, with SmartServ's financial data products to form a fully
integrated financial tool. While management believes that these relationships
are important to the Company's success, no assurance can be given that these
customers will be successful in their marketing efforts or that the Company's
products and services will be well received in the marketplace.
9
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
- ---------------------
The accompanying unaudited consolidated financial statements have been prepared
in accordance with accounting principles generally accepted in the United States
for interim financial information, the instructions of Form 10-QSB and Rule 310
of Regulation SB and, therefore, do not include all information and notes
necessary for a presentation of results of operations, financial position and
cash flows in conformity with accounting principles generally accepted in the
United States. The balance sheet at December 31, 2002 has been derived from the
audited financial statements at that date, but does not include all of the
information and footnotes required by accounting principles generally accepted
in the United States for complete financial statements. The financial statements
should be read in conjunction with the Company's Annual Report on Form 10-KSB
for the period ended December 31, 2002. In the opinion of the Company, all
adjustments (consisting of normal recurring accruals) necessary for a fair
presentation have been made. Results of operations for the three and six months
ended June 30, 2003 are not necessarily indicative of those expected for the
year ending December 31, 2003.
PRINCIPLES OF CONSOLIDATION
- ---------------------------
The consolidated financial statements include the accounts of the Company and
its subsidiaries, all of which are wholly-owned. Significant intercompany
accounts and transactions have been eliminated in consolidation.
USE OF ESTIMATES
- ----------------
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates
and assumptions that affect the amounts reported in the financial statements and
accompanying notes. Actual results could differ from those estimates.
REVENUE RECOGNITION
- -------------------
The Company recognizes revenue from the use of its products and services in
accordance with American Institute of Certified Public Accountants' ("AICPA")
Statement of Position ("SOP") 97-2, "Software Revenue Recognition", SOP 98-9,
"Modification of SOP 97-2, Software Recognition, With Respect to Certain
Transactions", and the SEC Staff Accounting Bulletin No. 101, "Revenue
Recognition in Financial Statements". Specifically, there must be (1) evidence
of an arrangement, (2) delivery of our products and services, (3) fixed and
determinable fees and (4) probable collectibility of such fees. Revenues from
multi-element revenue agreements are recognized based on vendor specific
objective evidence of individual components or, if the elements in the
arrangement cannot be separated, as has been the situation to date, recognized
as one element ratably over the term of the agreement.
Subscription Revenue
- --------------------
Subscription revenue consists of fixed and variable charges for the usage of the
Company's products and services provided through its relationships with wireless
telecommunications carriers and a financial services company. Such revenue is
recognized as the services are provided on a monthly basis.
Development and Integration Revenue
- -----------------------------------
Development and integration fees are charged for the development of
private-labeled applications for customers that incorporate their proprietary
data into SmartServ's products and services. Such fees are recognized ratably
over the term of the agreement.
Service Revenue
- ---------------
Service revenue is derived from consulting or by providing other professional
services to customers. Revenue from the performance of such services is
recognized when the services are performed. Losses, if
10
any, from professional services contracts are recognized at the time such losses
are identified. Maintenance and support fees paid in advance are nonrefundable
and are recognized ratably over the term of the agreement, generally 12 months.
Hosting Services
- ----------------
Hosting service arrangements are based on a flat monthly fee or on the number of
users and may include a one-time setup fee. The one-time setup fee is recognized
over the term of the hosting arrangement, and the hosting services revenue is
recognized monthly as earned on a fixed fee or variable rate basis.
DEFERRED REVENUES
- -----------------
Deferred revenues, resulting from customer prepayments, are recognized as
services are provided throughout the term of the agreement with the respective
customer.
EARNINGS PER SHARE
- ------------------
Basic earnings per share is computed on the weighted average number of common
shares outstanding; however, it does not include the unvested portion of
restricted shares in accordance with Statement of Financial Accounting Standards
("SFAS") No. 128, "Earnings Per Share". Diluted earnings per share reflects the
increase in the weighted average common shares outstanding that would result
from the assumed exercise of outstanding stock options calculated using the
treasury stock method when dilutive.
CAPITALIZED SOFTWARE DEVELOPMENT COSTS
- --------------------------------------
In connection with certain contracts entered into between SmartServ and its
customers, as well as other development projects, the Company has capitalized
costs related to certain product enhancements and application development in
accordance with SFAS No. 86, "Accounting for the Costs of Computer Software to
be Sold, Leased or Otherwise Marketed" ("SFAS No. 86"). Specifically, all
software development costs are charged to expense as incurred until
technological feasibility has been established for the product. Thereafter,
additional costs incurred for development are capitalized. The Company ceased
capitalizing such costs in connection with its current product offering during
the quarter ended September 2002 when the products became available for general
release to customers. Amortization of capitalized software development costs
commences with the products' general release to customers and is provided on a
product-by-product basis over the economic life, not to exceed three years,
using the greater of the straight-line or a flow of revenue method.
On an ongoing basis, the Company reviews the future recoverability of its
capitalized software development costs for impairment whenever events or changes
in circumstances indicate that the carrying amounts may not be recoverable. When
such events or changes in circumstances do occur, an impairment loss is
recognized if the undiscounted future cash flows expected to be generated by the
asset are less than its carrying value. As a result of less than anticipated
demand for the Company's products and services, as well as its inability to
leverage certain relationships during the quarter ended June 30, 2003, the
Company has recorded in accordance with SFAS No. 86, an impairment loss of
$704,705 in such quarter to reduce the recorded value of the assets to their
estimated net realizable value.
FAIR VALUE OF FINANCIAL INSTRUMENTS
- -----------------------------------
The carrying amounts of our financial instruments approximate fair value due to
their terms and maturities.
SUPPLEMENTAL CASH FLOW DATA
- ---------------------------
The Company considers all highly liquid investments with a maturity date of
three months or less when purchased to be cash equivalents.
During the six months ended June 30, 2003, the Company issued 123,537 shares of
common stock to 5 vendors in settlement of the Company's obligations,
aggregating $164,000, to such vendors. These
11
transactions are considered non-cash transactions for the purposes of the
Statement of Cash Flows.
Interest, debt origination and other financing costs paid during the three month
periods ended June 30, 2003 and 2002 were $100 and $185,000, respectively, and
for the six month periods ended June 30, 2003 and 2002 were $70,100 and
$372,000, respectively.
CONCENTRATION OF CREDIT RISK
- ----------------------------
Financial instruments that potentially subject SmartServ to concentrations of
credit risk consist solely of accounts receivable. At June 30, 2003 and December
31, 2002, accounts receivable consisted principally of amounts due from a
financial services company. The Company performs periodic credit evaluations of
its customers and, if applicable, provides for credit losses in the financial
statements.
PROPERTY AND EQUIPMENT
- ----------------------
Property and equipment are stated at cost, net of accumulated depreciation.
Depreciation is computed using the straight-line method over estimated useful
lives of three to ten years.
On an ongoing basis, the Company reviews the future recoverability of its
property and equipment for impairment whenever events or changes in
circumstances indicate that the carrying amounts may not be recoverable. When
such events or changes in circumstances do occur, an impairment loss is
recognized if the undiscounted future cash flows expected to be generated by the
asset are less than its carrying value. As a result of less than anticipated
demand for the Company's products and services, as well as its inability to
leverage certain relationships during the quarter ended June 30, 2003, the
Company has recorded an impairment loss of $843,768 in such quarter to reduce
the recorded value of its assets to their estimated net realizable value.
ADVERTISING COSTS
- -----------------
Advertising costs are expensed as incurred and were approximately $6,000 and
$236,900 during the six month periods ended June 30, 2003 and 2002,
respectively.
STOCK BASED COMPENSATION
- ------------------------
Employee Stock Option Plans
- ---------------------------
The Company maintains several stock option plans for employees and directors
that provide for the granting of stock options for a fixed number of common
shares with an exercise price equal to the fair value of the shares at the date
of grant. The Company accounts for such grants in accordance with Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees"
("APB No. 25"). Accordingly, compensation expense is recognized to the extent
that the fair value of the stock exceeds the exercise price of the option at the
measurement date. Certain options, which have been repriced, are subject to the
variable plan requirements of APB No. 25, which requires the Company to record
compensation expense for changes in the fair value of its common stock.
Non-Employee Compensation
- -------------------------
The Company has issued warrants to purchase common stock to non-employee
consultants as compensation for services rendered or to be rendered to the
Company. The warrants are recorded in accordance with the provisions of SFAS No.
123, "Accounting for Stock-Based Compensation" ("SFAS No. 123"), and are valued
in accordance with the Black-Scholes pricing methodology.
The Company adopted the disclosure provisions of SFAS No. 148, "Accounting for
Stock-Based Compensation - Transition and Disclosure", which amends SFAS No.
123. SFAS No. 148 provides alternative methods of transition for a voluntary
change to the fair value based method of accounting for stock-based employee
compensation, which was originally provided under SFAS No. 123. SFAS No. 148
also improves the timeliness of disclosures by requiring the information to be
included in interim, as well
12
as, annual financial statements.
SFAS No. 123 requires companies to recognize compensation expense based on the
respective fair values of the options at the date of grant. Companies that
choose not to adopt such rules will continue to apply the existing accounting
rules contained in APB No. 25, but are required to disclose the pro forma
effects on net loss and loss per share, as if the fair value based method of
accounting had been applied.
For purposes of pro forma disclosures, the estimated fair value of the options
is amortized to expense over the options' vesting period. As such, the pro forma
net loss and loss per share are not indicative of future years.
SmartServ's pro forma information is as follows:
THREE MONTHS SIX MONTHS
ENDED JUNE 30 ENDED JUNE 30
----------- ----------- ----------- -------------
2003 2002 2003 2002
----------- ----------- ----------- -------------
Net loss as reported $(4,369,867) $(3,462,013) $(6,725,058) $ (7,571,360)
Employee stock-based compensation
credits included in net loss
-- 603,896 1,323 723,121
Employee stock-based compensation
charges pursuant to SFAS 123
(670,659) (914,949) (1,588,153) (2,006,212)
----------- ----------- ----------- -------------
Pro forma net loss $(5,040,526) $(3,773,066) $(8,311,888) $ (8,854,451)
=========== =========== =========== =============
Basic and diluted loss per share $ (0.36) $ (0.53) $ (0.57) $ (1.19)
=========== =========== =========== =============
Pro forma basic and diluted loss per
share $ (0.42) $ (0.58) $ (0.70) $ (1.39)
=========== =========== =========== =============
FOREIGN CURRENCY TRANSLATION
- ----------------------------
The financial statements of the Company's foreign subsidiaries whose functional
currencies are other than the U.S. dollar, have been translated into U.S.
dollars in accordance with SFAS No. 52, Foreign Currency Translation. All
balance sheet accounts have been translated using the exchange rates in effect
at the balance sheet date. Income statement amounts have been translated using
the average rate for the year.
RECENT ACCOUNTING PRONOUNCEMENTS
- --------------------------------
In April 2002, the Financial Accounting Standards Board ("FASB") issued SFAS No.
145, "Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB
Statement No. 13, and Technical Corrections". The Company adopted SFAS No. 145
in 2002. Accordingly, the Company's gain on extinguishment of debt has been
recorded in "Other income" in the consolidated financial statements.
In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with an Exit or Disposal Activity". SFAS No. 146 revised the accounting for exit
and disposal activities under Emerging Issues Task Force Issue No. 94-3,
"Liability Recognition for Certain Employee Termination Benefits and Other Costs
to Exit an Activity (Including Certain Costs Incurred in a Restructuring)", by
potentially
13
spreading out the reporting of expenses related to restructuring activities.
SFAS No. 146 is effective prospectively for exit or disposal activities
initiated after December 31, 2002. The Company adopted SFAS No. 146 on January
1, 2003, as required, and does not believe that the adoption of this new
standard will have a material effect on its consolidated results of operations,
financial position or cash flows.
In 2002, the FASB issued Interpretation No. 45, "Guarantor's Accounting and
Disclosure Requirements for Guarantees, Including Indirect Guarantees of
Indebtedness of Others" ("Interpretation No. 45"). Interpretation No. 45
elaborates on the disclosures to be made by a guarantor in its interim and
annual financial statements about its obligations under certain guarantees that
it has issued. It also clarifies that a guarantor is required to recognize, at
the inception of a guarantee, a liability for the fair value of the obligation
undertaken in issuing the guarantee. Interpretation No. 45 does not prescribe a
specific approach for subsequently measuring the guarantor's recognized
liability over the term of the related guarantee. Interpretation No. 45 also
incorporates, without change, the guidance in FASB Interpretation No. 34,
"Disclosure of Indirect Guarantees of Indebtedness of Others", which is being
superseded. Interpretation No. 45 has no effect on the Company.
In January 2003, the FASB issued Interpretation No. 46, "Consolidation of
Variable Interest Entities, an Interpretation of Accounting Research Bulletin
(ARB) No. 51, Consolidated Financial Statements" ("Interpretation No. 46").
Interpretation No. 46 significantly alters the consolidation requirements
governing an entity's inclusion in the consolidated financial statements of its
sponsors, transferors, or investors. Interpretation No. 46 introduces a new
consolidation model--the variable interests model--which determines control (and
consolidation) based on potential variability in gains and losses of the entity
being evaluated for consolidation. Interpretation No. 46 provides guidance for
determining whether an entity lacks sufficient equity or its equity holders lack
adequate decision-making ability. These variable interest entities are covered
by the Interpretation No. 46 and are to be evaluated for consolidation based on
their variable interests. Interpretation No. 46 has no effect on the Company.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity". SFAS No. 150
establishes standards for classifying and measuring as liabilities certain
financial instruments that embody obligations of the issuer and have
characteristics of both liabilities and equity. SFAS No. 150 represents a
significant change in practice in the accounting for a number of financial
instruments, including mandatorily redeemable equity instruments and certain
equity derivatives that frequently are used in connection with share repurchase
programs. At this time SFAS No. 150 has no effect on the Company.
14
3. PROPERTY AND EQUIPMENT
Property and equipment consist of the following:
JUNE 30, DECEMBER 31,
2003 2002
----------- -----------
Data processing equipment $ 4,840,737 $ 4,842,941
Office furniture and equipment 151,263 151,263
Display equipment 71,335 71,335
Leasehold improvements 69,852 69,852
----------- -----------
5,133,187 5,135,391
Accumulated depreciation (5,133,187) (3,561,413)
----------- -----------
$ -- $ 1,573,978
=========== ===========
On an ongoing basis, the Company reviews the future recoverability of its
property and equipment for impairment whenever events or changes in
circumstances indicate that the carrying amounts may not be recoverable. When
such events or changes in circumstances do occur, an impairment loss is
recognized if the undiscounted future cash flows expected to be generated by the
asset are less than its carrying value. As a result of less than anticipated
demand for the Company's products and services, as well as its inability to
leverage certain relationships during the quarter ended June 30, 2003, the
Company has recorded an impairment loss of $843,768 in such quarter to reduce
the recorded value of its assets to their estimated net realizable value.
4. NOTES RECEIVABLE FROM OFFICERS
In December 2000, the Company's Board of Directors authorized the issuance of a
line of credit to Sebastian Cassetta, SmartServ's Chief Executive Officer, for
an amount not to exceed $500,000. Such amount bears interest at the prime rate
and matures on March 20, 2004. Pursuant to the terms of the note, interest for
the period January 2, 2001 to June 30, 2002 has been accrued and is payable at
maturity. Commencing July 1, 2002 until maturity, interest shall be payable
semi-annually in arrears on January 1st and July 1st. The financial statements
at June 30, 2003 contain a valuation allowance for a potential loss of $552,467,
relating to the collectibility of Mr. Cassetta's note and the interest accrued
thereon through June 30, 2002.
In January 2000, the Company issued Mr. Cassetta 618,239 shares of restricted
common stock in exchange for Mr. Cassetta's note in the amount of $457,500. Such
note is secured by the common stock issued to Mr. Cassetta. During the year
ended December 31, 2002, the Company recorded a charge of $112,173 relating to
the potential uncollectibilty of interest earned by the Company pursuant to the
note between the Company and Mr. Cassetta. During the quarter ended June 30,
2003, the Company recorded a charge to earnings in the amount of $270,000,
representing the potential uncollectibility of the note as a result of the
diminution of the value of the Company's collateral.
In January 2000, the Company issued Mr. Mario Rossi, SmartServ's Executive Vice
President and Chief Technology Officer, 206,080 shares of restricted common
stock in exchange for Mr. Rossi's note in the amount of $152,500. Such note is
secured by the common stock issued to Mr. Rossi. During the quarter ended June
30, 2003, the Company recorded a charge to earnings in the amount of $129,000,
representing the potential uncollectibility of the note and interest accrued
thereon as a result of the diminution of the value of the Company's collateral.
15
5. NOTES PAYABLE
In May 2000, the Company entered into a Business Alliance Agreement with
Hewlett-Packard Company ("HP") whereby the companies agreed to jointly market
their respective products and services, and to work on the build-out of
SmartServ's domestic and international infrastructure. In furtherance of these
objectives, HP provided the Company with a line of credit of up to $20,000,000
for the acquisition of approved hardware, software and services. On September
10, 2002, the Company and HP amended the terms of the promissory note to provide
for the (i) reduction of SmartServ's aggregate outstanding principal and accrued
interest amount of $7,045,000 to $1,000,000, (ii) return of certain unused
hardware by SmartServ, (iii) issuance by SmartServ of a warrant for the purchase
of 50,000 shares of common stock and (iv) repayment of $500,000 of the amended
obligation on September 10, 2002. The remaining $500,000 obligation was
evidenced by a note, bearing an interest rate of 11%, secured by the Company's
assets exclusive of its internally developed software products, and was
satisfied through a partial repayment in February 2003. The Company recorded a
gain of $305,822 resulting from the Company's partial repayment of the note in
February 2003.
In February 2003, the Company issued a convertible note to Global Capital
Funding Group, LP ("Global") in consideration for the receipt of $1 million. The
note bears interest at the rate of 10% per annum, and is secured by the
Company's assets, exclusive of its internally developed software products. The
note matures on February 14, 2004, contains certain antidilution provisions, and
may be converted into shares of SmartServ common stock at $1.10 per share. As
additional consideration, the Company issued Global a warrant for the purchase
of 200,000 shares of its common stock at an exercise price of $1.61 per share.
The note and the warrant have been recorded in accordance with Accounting
Principles Board Opinion No. 14, "Accounting for Convertible Debt and Debt
Issued with Stock Purchase Warrants" ("APB No. 14"). The warrants have been
valued in accordance with the Black-Scholes pricing methodology and are netted
against the outstanding obligation in the financial statements. Such amount is
being amortized into operations as interest expense and other financing costs
over the life of the obligation. Alpine Capital Partners, Inc. ("Alpine")
received a finder's fee of $70,000, representing 7% of the aggregate purchase
price of the convertible note and a warrant to purchase 91,000 shares of common
stock exercisable at $1.61 per share, expiring on February 14, 2005, in
connection with this transaction. These warrants have been valued in accordance
with SFAS No. 123 and the Black-Scholes pricing methodology and recorded in the
financial statements as deferred financing costs. This amount is being amortized
into operations on a straight-line basis as interest expense and other financing
costs over the life of the obligation. Also in connection with the 10%
convertible notes, the Company has recorded a non-cash charge for other
financing costs of $406,400, representing a portion of the intrinsic value of
the beneficial conversion feature of the notes. Emerging Issues Task Force
("EITF") Issue No. 98-5, "Accounting for Convertible Securities with Beneficial
Conversion Features or Contingently Adjustable Conversion Ratios" ("Issue No.
98-5") as more fully described in EITF Issue No. 00-27 "Application of Issue No.
98-5 to Certain Convertible Instruments", defines the beneficial conversion
feature as the non-detachable conversion feature that is "in-the-money" at the
date of issuance. Issue No. 98-5 requires the recognition of the intrinsic value
of the conversion feature as the difference between the conversion price and the
fair value of the common stock into which the notes are convertible. In April
2003, the Company borrowed an additional $250,000 from Global and amended the
convertible note to include such amount. As additional consideration, the
Company issued Global a warrant for the purchase of 20,000 shares of its common
stock at an exercise price of $1.20 per share. The warrants issued to Global and
Alpine contain certain antidilution provisions and expire on February 14, 2006.
The Company is in default of its quarterly interest payment obligations, in an
aggregate amount of approximately $43,000, to Global under the amended note. The
Company is currently negotiating with Global to settle the default. There can be
no assurance, however, that the Company will be able to negotiate a settlement
with Global and cure the default. The failure to cure the default would require
the Company to repay the total principal amount of
16
the amended note and all accrued interest, approximately $1,293,000 in the
aggregate. Such requirement would have a material adverse effect on the
Company's cash flow, balance sheet and operations.
In May 2003, the Company in consideration of $358,000 issued 3.58 units
consisting of convertible notes and warrants to purchase common stock ("May
Units") to 8 accredited investors. Each May Unit consists of a $100,000
convertible note and a warrant to purchase 200,000 shares of the Company's
common stock. The convertible notes bear interest at 8% per annum, are
convertible into the Company's common stock at $0.744 (the average of the
closing bid prices of the Company's common stock for the 5 days prior to the
closing of the transaction) per share and mature on the earlier of November 19,
2003 or the closing of an equity placement of not less than $3 million. The
warrants are exercisable at $0.744 per share and expire on May 19, 2006. In June
2003, the Company in consideration of $1,142,000 issued 11.42 units ("June
Units") [each May or June Unit referred to individually as a "Unit"] to 20
accredited investors. Each June Unit also consists of a $100,000 convertible
note and a warrant to purchase 200,000 shares of the Company's common stock. The
convertible notes bear interest at 8% per annum, are convertible into the
Company's common stock at $0.794 (the average of the closing bid prices of the
Company's common stock for the 5 days prior to the closing of the transaction)
per share and mature on the earlier of December 13, 2003 or the closing of an
equity placement of not less than $3 million. The warrants are exercisable at
$0.794 per share and expire on June 13, 2006. The Units have been recorded in
accordance with APB No. 14. The warrants have been valued in accordance with the
Black-Scholes pricing methodology and are netted against the outstanding
obligation in the financial statements. Such amount is being amortized into
operations as interest expense and other financing costs over the life of the
obligation. Also in connection with the 8% convertible notes, the Company has
recorded a non-cash charge for other financing costs of $81,400, representing a
portion of the intrinsic value of the beneficial conversion feature of the
notes. EITF Issue No. 98-5, as more fully described in EITF Issue No. 00-27,
defines the beneficial conversion feature as the non-detachable conversion
feature that is "in-the-money" at the date of issuance. Issue No. 98-5 requires
the recognition of the intrinsic value of the conversion feature as the
difference between the conversion price and the fair value of the common stock
into which the notes are convertible. At June 30, 2003, the face amount of the
debt obligation is $2,750,000 and the unamortized discount amounted to
$1,420,190.
Spencer Trask Ventures, Inc. ("Spencer Trask"), Steven B. Rosner and Richard
Berland acted as finders for this transaction. As consideration therefor, the
finders received their proportionate share of a cash fee equal to 10% of the
aggregate purchase price of the Units sold and (i) Unit Purchase Warrants to
purchase an aggregate of three Units ("Unit Purchase Warrant") and (ii) 33,333
shares of unregistered common stock per Unit sold. Each Unit Purchase Warrant
entitles the holder to purchase one Unit, for the price of $100,000 per Unit
through June 13, 2008. In addition, Spencer Trask received a non-accountable
expense allowance equal to 3% of the aggregate proceeds of all Units sold in the
Bridge Offerings. The warrants have been valued in accordance SFAS No. 123 and
the Black-Scholes pricing methodology and recorded in the financial statements
as deferred financing costs. Such costs are being amortized into operations on a
straight-line basis as interest expense and other financing costs over the life
of the obligation.
6. EQUITY TRANSACTIONS
During the six months ended June 30, 2003, the Company issued 442,386 shares of
common stock to investors upon the exercise of warrants to purchase such shares.
Proceeds from the exercise of these warrants were $376,000.
In February 2003, the Company issued an aggregate of 123,537 shares of common
stock to 5 vendors in satisfaction of obligations for services rendered to the
Company aggregating $164,000.
17
In May 2003, the Company entered into a Corporate Finance Consulting Agreement
("Consulting Agreement") with Spencer Trask Ventures, Inc. ("Spencer Trask")
whereby Spencer Trask agreed to render services to the Company as its corporate
finance consultant, financial advisor and investment banker. As compensation for
such services, the Company has agreed to issue Spencer Trask 500,000 shares of
its common stock. The value of such compensation has been recorded in the
financial statements as prepaid compensation and is being amortized over the one
year term of the Consulting Agreement.
The Company's failure to timely file its Form 10-KSB for the year ended December
31, 2002 has affected the following registration rights held by some of its
stockholders and warrant holders. The Company has recorded various penalties for
its failure to keep the registration effective in the statement of operations
and is working expeditiously to cure these deficiencies:
Obligations to Maintain Effective Registration Statements:
- ----------------------------------------------------------
Vertical Ventures Investments, LLC holds a warrant to purchase up to 151,245
shares of common stock that have registration rights. The Registration Statement
covering the shares underlying this warrant is no longer effective. The Company
is required to pay a fee of $8,250 for the first month of the deficiency and a
fee of $16,500 for each month thereafter until the shares underlying the warrant
are registered.
Investors in the Company's September 2002 Equity Placement hold up to an
aggregate of 3,701,943 shares of common stock, and warrants to purchase up to an
aggregate of 1,499,723 shares of common stock, all with registration rights
requiring the Company to use its commercially reasonable best efforts to
maintain the effectiveness of the Registration Statement covering the shares of
common stock and the shares underlying the warrants.
Obligation to File a Registration Statement:
- --------------------------------------------
Global Capital Funding Group, L.P. holds warrants to purchase up to 220,000
shares of common stock, and a convertible note convertible into 1,136,364 shares
of common stock. The Company was required to file a Registration Statement
covering all such shares on April 14, 2003. The Company has not yet filed the
Registration Statement, and is subject to a penalty fee equal to $20,000 for
each month that this deficiency remains uncured.
7. STOCK-BASED COMPENSATION
In connection with the grant of certain stock options, warrants and other
compensation arrangements, the Company has recorded charges to earnings that are
noncash in nature. Certain of these stock option grants are subject to the
variable plan requirements of APB No. 25 that require the Company to record
compensation expense for changes in the fair value of its common stock.
Stock-based compensation for the three months ended June 30, 2003 and 2002
consisted of the impact of changes in the market value of the Company's common
stock on the value of options to purchase common stock issued to employees and
the amortization of deferred costs associated with the prior issuance of
warrants to purchase common stock to various consultants.
18
8. EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted loss per
share:
THREE MONTHS SIX MONTHS
ENDED JUNE 30 ENDED JUNE 30
------------------------------- -----------------------------
2003 2002 2003 2002
--------------- ------------- --------------- -----------
Numerator:
Net loss $ (4,369,867) $ (3,462,013) $ (6,725,058) $(7,571,360)
=============== ============= =============== ===========
Denominator:
Weighted average shares - basic and
diluted 12,001,457 6,520,857 11,870,858 6,389,140
=============== ============= =============== ===========
Basic and diluted loss per common share
$ (0.36) $ (0.53) $ (0.57) $ (1.19)
=============== ============= =============== ===========
Outstanding employee stock options and other warrants to purchase an aggregate
of 13,169,600 and 6,097,000 shares of common stock at June 30, 2003 and 2002,
respectively, were not included in the computations of diluted earnings per
share because the Company reported losses for the periods and, therefore their
inclusion would be antidilutive.
9. COMMITMENTS AND CONTINGENCIES
On or about February 29, 2000, Commonwealth Associates, L.P. ("Commonwealth")
filed a complaint against us in the Supreme Court of the State of New York,
County of New York. The complaint alleged that in August of 1999, Commonwealth
and SmartServ entered into an engagement letter that provided for a
nonrefundable fee to Commonwealth of $15,000 payable in cash or common stock at
SmartServ's option. The complaint alleged that SmartServ elected to pay the fee
in stock and, as a result, Commonwealth sought 13,333 shares of common stock or
at least $1,770,000 together with interest and costs. In our defense, we denied
that we elected to pay in stock. On March 4, 2003, SmartServ received a
favorable decision in this matter after a trial held in the Supreme Court of the
State of New York. The decision holds that, consistent with SmartServ's defense,
SmartServ is required to pay Commonwealth a retainer fee of only $13,439, plus
interest and certain costs. Commonwealth's time to appeal has not yet expired.
While the Company intends to vigorously defend any appeal of the decision, the
unfavorable outcome of such an appeal could have a material adverse effect on
the Company's financial condition, results of operations and cash flows.
In August 2003, SmartServ entered into a Stipulation of Arbitration with
Brauning Inc., Mike Silva and Todd Peterson, former consultants to SmartServ
(collectively, the "Claimants") pursuant to which SmartServ and the Claimants
agreed to resolve, in a binding arbitration proceeding, the Claimants' demand
for damages resulting from the alleged failure by SmartServ to timely register
the shares of common stock underlying certain consulting warrants issued by
SmartServ to the Claimants. SmartServ believes that the shares underlying the
warrants were timely registered and that since the Claimants were not party to
any registration rights affecting such warrants, their demand is without merit.
Although we will vigorously defend this action, there can be no assurance that
we will be successful. The unfavorable outcome of such action could have a
material adverse effect on our consolidated results of operations, financial
condition and cash flows.
19
In August 2003, the Company was informed that Oracle Corporation ("Oracle") has
filed an action against it in Federal District Court in California seeking to
terminate its February 28, 2002 Oracle License and Services Agreement (the
"License") due to the Company's failure to pay certain license fees in
connection with its purchase of Oracle products. The Company has not yet
received service of process in any such action. The Company has been in the
process of raising the funds necessary to cure the default and maintain the
License. There can be no assurance, however, that the Company will be able to
raise such funds or maintain the License. The Company's failure to maintain the
License would require that the Company temporarily suspend operations, thereby
creating a material adverse effect on its cash flows and operations.
20
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
- ------- RESULTS OF OPERATIONS
SmartServ Online, Inc. commenced operations on August 20, 1993 and had its
initial public offering on March 21, 1996. We offer wireless applications,
development and hosting services that allow wireless carriers, content providers
and financial services firms to deliver content to their work forces and
customers. Our products can deliver proprietary information, as well as delayed
and real-time financial market data, business and financial news, national and
local weather reports and other business and entertainment information in a
user-friendly manner.
Our mobile data solutions are designed to generate additional revenue, increase
operating efficiency, and extend brand awareness for wireless carriers,
enterprises and content providers and are delivered via J2ME, BREW, WAP and SMS,
as well as RIM Blackberry and Pocket PC devices.
SmartServ has established customer and distribution relationships with strategic
partners and wireless carriers, including Verizon Wireless, AT&T Wireless,
Nextel, ALLTEL Wireless, U.S. Cellular, QUALCOMM and Motorola, as well as
content providers, including BusinessWeek Online, Forbes.com, S&P Comstock and
The Wall Street Journal Online (Dow Jones).
Due to the substantial expenses and negative cash flows from operations that we
have incurred, our auditors, in their report contained in our December 31, 2002
financial statements, have indicated that there is substantial doubt about our
ability to continue as a going concern. The Company has earned limited revenues
and has incurred net losses of $6,725,058 for the six month period ended June
30, 2003, net losses of $8,037,173 and $14,819,860 for the years ended December
31, 2002 and 2001, respectively, and net losses of $30,993,559 and $7,124,126
for the years ended June 30, 2000 and 1999, respectively. Additionally, the
Company had an accumulated deficit of $79,584,064 at June 30, 2003 and has debt
service requirements of $2,750,000 during the 12 month period ending June 30,
2004. Although the Company's financial statements have been prepared on a going
concern basis, which contemplates the realization of assets and the settlement
of liabilities and commitments in the normal course of business, unless we are
able to increase revenue and raise additional capital from investors, we will
not be able to support our operations.
Our plan of operation to eliminate the uncertainty surrounding the Company's
ability to continue as a going concern focuses on licensing our applications and
related services to wireless carriers and financial services firms. Such a
strategy provides access to a large number of potential subscribers and allows
SmartServ to leverage its market reach at minimal operating costs. For wireless
carriers, we deliver data and branded content that can increase wireless data
revenue and customer retention. For content providers, we provide an added
source of revenue by distributing their content and brand to the wireless users.
For financial services firms, we offer solutions that can increase productivity
and customer retention through the mobile delivery of proprietary data, as well
as market data and other useful content. SmartServ has the ability to customize
the information package to be offered to each customer by device. Management
believes that SmartServ's primary source of revenues will be derived from
revenue-share licensing contracts with its technology partners, content
providers and wireless carrier and financial services customers.
As an example, the Company has launched several products on the Verizon Wireless
network. Our financial content products have been launched on Verizon's BREW
(Binary Runtime Environment for Wireless) network under the Wall Street Journal
Online brand name, while our SMS (Short Message Service) financial alert product
has been launched on Verizon's V-text portal. Additionally, the Company has
launched its Lottery, AreaWeather and AstroCom Horoscope lifestyle products on
Verizon's BREW network. Salomon Smith Barney, in conjunction with SmartServ, has
launched a wireless version of its
21
GEO (Global Equities Online) product. GEO combines Salomon's proprietary data,
such as morning call notes, with SmartServ's financial data products to form a
fully integrated financial tool. While management believes that these
relationships are important to the Company's success, no assurance can be given
that these customers will be successful in their marketing efforts or that the
Company's products and services will be well received in the marketplace.
As of August 18, 2003, SmartServ employed 10 people, all of whom were employed
in the United States. SmartServ does not anticipate that staffing requirements
associated with the implementation of its plan of operation will require the
addition of any people during the year ending December 31, 2003.
RESULTS OF OPERATIONS
QUARTER ENDED JUNE 30, 2003 VERSUS QUARTER ENDED JUNE 30, 2002
During the quarter ended June 30, 2003, we recorded revenues of $238,028. Of
such 2003 revenues, $46,000 were earned through our licensing agreements with
wireless telecommunications carriers, $79,800 were earned through our licensing
agreement with Salomon Smith Barney and $108,000 were earned under a one-time
purchase order from Wireless Retail, Inc. During the quarter ended June 30,
2002, we recorded revenues of $35,815. Of such revenues, $31,700 were earned
through our licensing agreement with Salomon Smith Barney. During the quarters
ended June 30, 2003 and 2002, we recognized $53,400 and $5,300, respectively,
from the amortization of deferred revenues associated with this agreement.
During the quarter ended June 30, 2003, we incurred costs of services of
$2,574,543, an increase of 81% over the quarter ended June 30, 2002. Such costs
increased primarily due to a charge ($129,000) in connection with the potential
uncollectibility of a loan to an officer and an impairment loss ($1,440,600)
recorded to adjust the value of the Company's property and equipment and
capitalized software costs to net realizable value, offset by personnel
reductions and the reduction of computer hardware leases, depreciation and
maintenance costs. Other components of the costs of service category consist
primarily of information and communication costs ($119,900), personnel costs
($445,800), computer hardware leases, depreciation and maintenance costs
($270,200), facilities ($62,800) and amortization expenses relating to
capitalized software development costs ($91,900). During the quarter ended June
30, 2002, we incurred costs of services of $1,419,946. Components of these costs
consisted primarily of information and communication costs ($119,800), personnel
costs ($752,000), computer hardware leases, depreciation and maintenance costs
($449,500), facilities ($82,400) and amortization expenses relating to
capitalized software development costs ($29,900), partially offset by systems
consultants' credit ($35,600). During the quarters ended June 30, 2003 and 2002,
we capitalized $-0- and $68,400, respectively, of development costs in
accordance with Statement of Financial Accounting Standards ("SFAS") No. 86,
"Accounting for the Costs of Computer Software to be Sold, Leased or Otherwise
Marketed" ("Statement No. 86").
During the quarter ended June 30, 2003, we incurred sales and marketing expenses
of $103,496, a decrease of 90% over the quarter ended June 30, 2002. Such costs
decreased primarily due to travel and personnel reductions associated with the
closing of the Company's Hong Kong and London sales offices, U.S. personnel
reductions, reductions in advertising and trade shows and reductions in
professional fees. Components of the sales and marketing category consist
primarily of personnel costs ($96,400). During the quarter ended June 30, 2002,
we incurred sales and marketing expenses of $1,042,804. Components of these
costs consisted primarily of professional fees ($117,800), personnel ($583,000),
travel and lodging ($60,900), facilities ($41,000) and advertising and trade
shows ($196,200).
During the quarter ended June 30, 2003, we incurred general and administrative
expenses of $1,360,913, an increase of 16% over the quarter ended June 30, 2002.
Such costs increased primarily due to a charge
22
($270,000) in connection with the potential uncollectibility of a loan to an
officer and an impairment loss ($108,000) recorded to adjust the value of the
Company's property and equipment to net realizable value, offset by personnel
reductions and a reduction of insurance costs. Other components of the general
and administrative category consist primarily of personnel costs ($353,000),
professional fees ($302,200), facilities ($122,800), insurance ($33,000) and
computer hardware leases, depreciation and maintenance costs ($35,900). During
the quarter ended June 30, 2002, we incurred general and administrative expenses
of $1,176,235. Components of these costs consisted primarily of personnel costs
($407,000), facilities ($140,900), insurance ($180,900), computer hardware
leases, depreciation and maintenance costs ($54,700) and professional fees
($294,200).
During the quarter ended June 30, 2003, the net noncash charge for stock-based
compensation amounted to $73,750 compared to a net noncash credit of $325,136
during the quarter ended June 30, 2002. Of such amounts, noncash charges for
consulting services for the quarters ended June 30, 2003 and 2002 were $73,750
and $278,760, respectively, resulting primarily from the amortization of
deferred costs associated with the prior issuance of warrants to purchase common
stock to various financial, marketing and technical consultants. Stock-based
compensation is valued in accordance with Accounting Principles Board Opinion
No. 25, "Accounting for Stock Issued to Employees" ("APB No. 25") and SFAS No.
123, "Accounting for Stock-Based Compensation" ("Statement No. 123"). Certain
employee stock options are subject to the variable plan requirements of APB No.
25, as they were repriced, and therefore, compensation expense is recognized for
changes in the fair value of our common stock. The value of substantially all of
such common stock purchase warrants has been recorded in accordance with the
Black-Scholes pricing methodology.
Interest income for the quarters ended June 30, 2003 and 2002 amounted to $4,360
and $8,815, respectively. Such amounts were earned primarily from our
investments in money fund accounts and a note receivable from an officer. During
the quarters ended June 30, 2003 and 2002, interest and other financing costs
were $873,510 and $187,504, respectively. During the quarters ended June 30,
2003 and 2002, interest and other financing costs were incurred in connection
with the convertible notes issued in February, May and June 2003 and the $20
million line of credit facility with HP.
During the quarter ended June 30, 2003, the Company recorded an insurance
recovery of $374,000 for legal costs incurred in connection with a favorable
trial decision in the matter of Michael Fishman v. SmartServ Online, Inc., et
al.
Basic and diluted loss per share was $0.36 for the quarter ended June 30, 2003
compared to $0.53 per share for the quarter ended June 30, 2002. The weighted
average shares outstanding increased to 12,001,457 at June 30, 2003 from
6,520,857 at June 30, 2002.
SIX MONTHS ENDED JUNE 30, 2003 VERSUS SIX MONTHS ENDED JUNE 30, 2002
During the six months ended June 30, 2003 and 2002, we recorded revenues of
$469,015 and $64,636, respectively. Of such 2003 revenues, $65,300 were earned
through our licensing agreements with wireless telecommunications carriers,
$288,500 were earned through our licensing agreement with Salomon Smith Barney
and $108,000 were earned under a one-time purchase order from Wireless Retail,
Inc. During the six months ended June 30, 2002, we recorded revenues of $64,636.
Of such revenues, $58,100 were earned through our licensing agreement with
Salomon Smith Barney. During the six months ended June 30, 2003 and 2002, we
recognized $222,100 and $5,300, respectively, from the amortization of deferred
revenues associated with this agreement.
23
During the six months ended June 30, 2003, we incurred costs of services of
$3,791,374 an increase of 28% over the six months ended June 30, 2002. Such
costs increased primarily due to a charge ($129,000) in connection with the
potential uncollectibility of a loan to an officer and an impairment loss
($1,440,600) recorded to adjust the value of the Company's property and
equipment and capitalized software costs to net realizable value, offset by
personnel reductions and the reduction of computer hardware leases, depreciation
and maintenance costs. Other components of the costs of service category consist
primarily of information and communication costs ($268,900), personnel costs
($1,022,300), computer hardware leases, depreciation and maintenance costs
($593,300), facilities ($124,800) and amortization expenses relating to
capitalized software development costs ($183,800). During the six months ended
June 30, 2002, we incurred costs of services of $2,951,626. Components of these
costs consisted primarily of information and communication costs ($231,500),
personnel costs ($1,458,700), computer hardware leases, depreciation and
maintenance costs ($959,600), facilities ($164,700) and amortization expenses
relating to capitalized software development costs ($92,200). During the six
months ended June 30, 2003 and 2002, we capitalized $-0- and $140,200,
respectively, of development costs in accordance with Statement No. 86.
During the six months ended June 30, 2003, we incurred sales and marketing
expenses of $380,030, a decrease of 83% over the six months ended June 30, 2002.
Such costs decreased primarily due to travel and personnel reductions associated
with the closing of the Company's Hong Kong and London sales offices, U.S.
personnel reductions, reductions in advertising and trade shows and reductions
in professional fees. Components of the costs of the sales and marketing
category consist primarily for personnel costs ($301,600), advertising and trade
shows ($9,200), consulting fees ($17,800) and travel and lodging ($33,300).
During the six months ended June 30, 2002, we incurred sales and marketing
expenses of $2,243,649. Components of these costs consisted primarily of
personnel costs ($1,179,100), advertising and trade shows ($563,000), facilities
($80,900), consulting fees ($157,900) and travel and lodging ($182,500).
During the six months ended June 30, 2003, we incurred general and
administrative expenses of $2,360,093, an increase of 5% over the six months
ended June 30, 2002. Such costs increased primarily due to a charge ($270,000)
in connection with the potential uncollectibility of a loan to an officer and an
impairment loss ($108,000) recorded to adjust the value of the Company's
property and equipment to net realizable value, offset by personnel reductions
and a reduction of insurance costs. Other components of the costs of the general
and administrative category consist primarily for personnel costs ($672,200),
professional fees ($613,300), facilities ($244,200), insurance ($129,000),
computer hardware leases, depreciation and maintenance costs ($76,200), and
communications costs ($25,900). During the six months ended June 30, 2002, we
incurred general and administrative expenses of $2,240,140. Components of these
costs consisted primarily of personnel costs ($734,700), professional fees
($602,700), facilities ($271,600), insurance ($326,200), computer hardware
leases, depreciation and maintenance costs ($108,900), and communications costs
($40,900).
During the six months ended June 30, 2003, net noncash charge for stock-based
compensation amounted to $101,944 compared to net noncash credits of $153,121
during the six months ended June 30, 2002. Of such amounts, noncash charges for
professional fees for the six months ended June 30, 2003 and 2002, were
approximately $103,000 and $570,000, respectively, resulting primarily from the
amortization of deferred costs associated with the issuance of warrants to
purchase common stock to various financial, marketing and technical consultants.
Stock-based compensation is valued in accordance with APB No. 25 and Statement
No. 123. Certain employee stock options are subject to the variable plan
requirements of APB No. 25, as they were repriced, and therefore, compensation
expense is recognized for changes in the fair value of our common stock. The
value of such common stock purchase warrants has been recorded in accordance
with the Black-Scholes pricing methodology.
24
Interest income for the six months ended June 30, 2003 and 2002 amounted to
$8,892 and $31,499, respectively. Such amounts were earned primarily from our
investments in highly liquid commercial paper and money fund accounts. During
the six months ended June 30, 2003 and 2002, interest and other financing costs
were $1,249,396 and $369,745, respectively. Interest and other financing costs
were incurred in connection with the convertible notes issued in February, May
and June 2003 and the $20 million line of credit facility with HP.
During the six months ended June 30, 2003, the Company recorded a gain of
$305,822 resulting from the partial repayment, in full settlement, of the
amended promissory note issued to Hewlett-Packard Company. Also during the six
months ended June 30, 2003, the Company recorded an insurance recovery of
$374,000 for legal costs incurred in connection with a favorable trial decision
in the matter of Michael Fishman v. SmartServ Online, Inc., et al.
Basic and diluted loss per share was $0.57 for the six months ended June 30,
2003 compared to $1.19 per share for the six months ended June 30, 2002. The
weighted average shares outstanding increased to 11,870,858 at June 30, 2003
from 6,389,140 at June 30, 2002.
CAPITAL RESOURCES AND LIQUIDITY
At June 30, 2003 and December 31, 2002, the Company had cash of $411,000 and
$154,800, respectively. Net cash used in operations was $2,371,830 for the six
months ended June 30, 2003 compared to $6,436,206 during the six months ended
June 30, 2002. The primary reasons for this reduction were the Company's
initiative to close the Hong Kong and United Kingdom sales offices, reduce its
U.S. personnel and trim its operations. Other uses of cash during the six months
ended June 30, 2003 were primarily for the partial repayment of our obligation
to HP in the amount of $225,000 and the repayment of a $70,000 note issued in
January 2003.
During the six months ended June 30, 2003, the Company issued convertible notes
in the amount of $2,750,000 and a note in the amount of $70,000 to provide
liquidity. Additionally, warrant holders provided funds aggregating
approximately $376,000 through the exercise of warrants. During the six months
ended June 30, 2002, warrant holders provided the Company with funds aggregating
$15,000 upon the exercise of warrants.
In May 2000, we entered into a Business Alliance Agreement with HP whereby the
companies agreed to jointly market their respective products and services and to
work on the build-out of SmartServ's domestic and international infrastructure.
In furtherance of these objectives HP provided us with a line of credit of up to
$20,000,000 for the acquisition of approved hardware, software and services. As
of September 28, 2001, the expiration date of the facility, HP had advanced us
$6,723,156 thereunder. In September 2002, the Company and HP amended the terms
of the promissory note to provide for the (i) reduction of SmartServ's aggregate
outstanding principal and accrued interest amount of $7,045,000 to $1,000,000,
(ii) return of certain unused hardware by SmartServ, (iii) issuance by SmartServ
of a warrant for the purchase of 50,000 shares of common stock and (iv)
repayment of $500,000 of the amended obligation on September 10, 2002. The
remaining obligation was evidenced by a note, bearing an interest rate of 11%,
to be repaid as follows: $200,000 on December 31, 2002, $200,000 on January 28,
2003 and $100,000 on February 27, 2003. The warrant expires on September 9, 2005
and has an exercise price of $1.166 per share. In connection therewith, the
Company recorded a charge to earnings of $38,000 representing the fair value of
the warrant as determined in accordance with the Black-Scholes model.
Additionally, the Company recognized a net gain of $5,679,261 resulting from the
extinguishment of this obligation. In February 2003, the Company and HP amended
the terms of their amended promissory note to provide for the settlement of
SmartServ's outstanding obligation of $530,800, inclusive of accrued interest of
$30,800,
25
in consideration of the payment by SmartServ of $225,000. As a result, during
the quarter ended March 31, 2003, the Company recognized an additional gain of
$305,800, resulting from the extinguishment of this obligation.
In June 2002, First Albany Corporation, acting as placement agent for SmartServ,
completed a private placement of units consisting of 785,714 shares of common
stock and warrants to purchase common stock in consideration of $1.40 per unit
to two accredited investors. The net proceeds of $823,500 from the issuance of
these units were used for general working capital requirements. The investors
received warrants, callable under certain conditions, for the purchase of an
aggregate of 1,428,571 shares of common stock at an exercise price of $1.40 per
share through the expiration date on June 5, 2007, as well as non-callable
warrants for the purchase of an aggregate of 196,429 shares of common stock,
subject to antidilution adjustments, upon the occurrence of certain events, at
an exercise price of $1.47 per share through June 5, 2007. In August 2002,
pursuant to the terms of the callable warrants, the Company provided the
investors with a notice calling the callable warrants. In September 2002, the
callable warrants expired unexercised. Subsequent to June 2002, non-callable
warrants for the purchase of 204,853 shares of common stock were exercised.
Proceeds from such exercises were $176,500.
In September 2002, SmartServ issued units consisting of 3,884,209 shares of its
common stock and warrants to purchase 1,942,109 shares of common stock,
exercisable at $0.85 per share through September 8, 2007, to 22 accredited
investors at a purchase price of $0.9125 per unit. Gross proceeds from this
transaction amounted to $3,544,346. SmartServ agreed to pay fees consisting of
$249,050, an expense allowance of $25,000, and issued warrants to purchase
438,046 shares of common stock at an exercise price of $0.85 per share, expiring
on September 8, 2007, as compensation to certain individuals and entities that
acted as finders. Additionally, the Company incurred costs and other fees of
$28,000 in connection with this transaction. While the warrants to purchase
common stock represent an additional source of capital, they expire in September
2007 and are not callable by the Company. Therefore, they cannot be relied upon
by the Company as a definite source of capital. The warrantholders may choose to
exercise their warrants if the market price of the Company's common stock
exceeds the exercise price of the warrant. Subsequent to December 31, 2002,
warrants for the purchase of 442,386 shares of common stock were exercised.
Proceeds from such exercises were $376,000.
During the period January 1, 2000 through December 31, 2002, the Company issued
2,065,000 shares of common stock to investors upon the exercise of warrants to
purchase such shares. Proceeds from the exercise of these warrants were
$6,014,600. Substantially all of these warrants were exercised during the 12
months ended December 31, 2000 when the market value of the Company's common
stock was significantly greater than it is currently.
During the quarter ended December 2002, the Company recorded a valuation
allowance of $664,640 in connection with the potential uncollectibility of loans
made to Mr. Sebastian Cassetta, the Company's Chairman and Chief Executive
Officer. Additionally, during the quarter ended June 30, 2003, the Company
recorded a valuation allowance of $270,000 in connection with the potential
uncollectibility of a loan made to Mr. Sebastian Cassetta for the purchase of
SmartServ restricted stock. While these loans do not mature until December 2003
and January 2004, Mr. Cassetta's ability to repay these loans and interest
thereon is highly contingent on the market value of his investment in the
Company.
During the quarter ended June 30, 2003, the Company recorded a valuation
allowance of $129,000 in connection with the potential uncollectibility of a
loan made to Mr. Mario Rossi, the Company's Executive Vice President and Chief
Technology Officer, for the purchase of SmartServ restricted stock. While this
loan does not mature until December 2003, Mr. Rossi's ability to repay this loan
and interest thereon is highly contingent on the market value of his investment
in the Company.
26
At December 31, 2002, the Company had outstanding 1,725,000 public warrants
(SSOLW) and 300,000 warrants with terms identical to the public warrants. These
warrants were convertible into our common stock at the ratio of 2.5 warrants per
share of common stock at an exercise price of $10.50 per share. These warrants
were redeemable by SmartServ on not less than 30 days written notice at the
redemption price of $0.10 per warrant, provided the average closing bid
quotation of the common stock as reported on the Nasdaq Stock Market had been at
least 187.5% of the current exercise price of the warrants for a period of 20
consecutive trading days ending on the third day prior to the date on which we
give notice of redemption. These warrants expired on March 20, 2003.
In January 2003, the Company borrowed $70,000 from Steven B. Rosner which was
used for working capital. The debt was evidenced by an unsecured note bearing an
interest rate of 12% per annum and was repaid in February 2003.
In February 2003, the Company issued a convertible note to Global Capital
Funding Group, LP ("Global") in consideration for the receipt of $1 million. The
note bears interest at the rate of 10% per annum, and is secured by the
Company's assets, exclusive of its internally developed software products. The
note matures on February 14, 2004, contains certain antidilution provisions, and
may be converted into shares of SmartServ common stock at $1.10 per share. As
additional consideration, the Company issued Global a warrant for the purchase
of 200,000 shares of its common stock at an exercise price of $1.61 per share.
In April 2003, the Company borrowed an additional $250,000 from Global and
amended the convertible note to include such amount. As additional
consideration, the Company issued Global a warrant for the purchase of 20,000
shares of its common stock at an exercise price of $1.20 per share. The warrant
issued to Global contains certain antidilution provisions and expires on
February 14, 2006. Proceeds from the notes were used for working capital
purposes. The Company is in default of its quarterly interest payment
obligations, in an aggregate amount of approximately $43,000, to Global under
the amended note. The Company is currently negotiating with Global to settle the
default. There can be no assurance, however, that the Company will be able to
negotiate a settlement with Global and cure the default. The failure to cure the
default would require the Company to repay the total principal amount of the
amended note and all accrued interest, approximately $1,293,000 in the
aggregate. Such requirement would have a material adverse effect on the
Company's cash flow, balance sheet and operations.
In February 2003, the Company issued 123,537 shares of common stock to 5 vendors
in settlement of the Company's obligations, aggregating $164,000, to such
vendors.
In May 2003, the Company in consideration of $358,000 issued 3.58 units
consisting of convertible notes and warrants to purchase common stock ("May
Units") to 8 accredited investors. Each May Unit consists of a $100,000
convertible note and a warrant to purchase 200,000 shares of the Company's
common stock. The convertible notes bear interest at 8% per annum, are
convertible into the Company's common stock at $0.744 (the average of the
closing bid prices of the Company's common stock for the 5 days prior to the
closing of the transaction) per share and mature on the earlier of November 19,
2003 or the closing of an equity placement of not less than $3 million. The
warrants are exercisable at $0.744 per share and expire on May 19, 2006. In June
2003, the Company in consideration of $1,142,000 issued 11.42 units ("June
Units") to 20 accredited investors. Each June Unit also consists of a $100,000
convertible note and a warrant to purchase 200,000 shares of the Company's
common stock. The convertible notes bear interest at 8% per annum, are
convertible into the Company's common stock at $0.794 (the average of the
closing bid prices of the Company's common stock for the 5 days prior to the
closing of the transaction) per share and mature on the earlier of December 13,
2003 or the closing of an equity placement of not less than $3 million. The
warrants are exercisable at $0.794 per share and expire on June 13, 2006.
Proceeds from the sale of the Units were used for working capital purposes.
While the warrants to purchase common stock represent an additional source of
capital, they expire in June 2006 and are not callable by the Company.
Therefore, they cannot be relied upon by the Company as a definite source of
capital. The warrantholders
27
may choose to exercise their warrants if the market price of the Company's
common stock exceeds the exercise price of the warrant.
The Company's financial statements have been prepared on a going concern basis,
which contemplates the realization of assets and the settlement of liabilities
and commitments in the normal course of business. The Company has, since its
inception, earned limited revenues and incurred substantial recurring operating
losses, including net losses of $6,725,058 for the six months ended June 30,
2003, net losses of $8,037,173 and $14,819,860 for the years ended December 31,
2002 and 2001, respectively, and net losses of $30,993,559 and $7,124,126 for
the years ended June 30, 2000 and 1999, respectively. Additionally, it had an
accumulated deficit of $79,584,064 at June 30, 2003 and has debt service
requirements of $2,750,000 during the 12 month period ending June 30, 2004.
These conditions raise substantial doubt about the Company's ability to continue
as a going concern. Such concern was expressed by our auditors, Ernst & Young
LLP, in their audit report regarding the financial statements included in our
Form 10-KSB for the year ended December 31, 2002. The financial statements do
not include any adjustments to reflect the possible future effects on the
recoverability and classification of assets or the amounts and classification of
liabilities that may result from the outcome of these uncertainties.
The economic downturn in general, and its impact on the telecommunications
industry in particular, have caused telecommunications service providers to
reduce capital spending, personnel and debt, as well as new service
introductions. This has resulted in delays in the build-out of high speed
carrier data networks and availability of data-enabled wireless devices, causing
the market for SmartServ's financial data and transaction services to be
lackluster. In addition, many financial services firms have curtailed new
product development to focus on data security and recovery. Consequently, the
potential demand for the Company's products and services has been significantly
delayed. Such delays have had a very detrimental effect on the Company's
operations and have resulted in the Company's inability to implement its
business plan and related marketing strategies. Consequently, in May 2002, the
Company commenced an effort to realign its infrastructure and related overhead
to correlate with reductions in projected revenue. As part of this effort,
management closed the Company's UK and Hong Kong sales offices and downsized its
domestic operations through staff reductions to a level sufficient to support
the Company's projected operations. In both March and May 2003, the Company
again reduced its cost structure through the termination of additional
personnel. Personnel headcount has been reduced from 66 in May 2002 to the
current level of 10. These efforts have reduced the Company's average monthly
operating expenses from approximately $1,090,000 in July 2002 to approximately
$230,000 commencing September 2003, excluding noncash stock compensation and
depreciation and amortization. The Company has also reviewed its revenue
producing contracts as of June 30, 2003 and reduced its projection of near term
revenues as a result of lower than anticipated demand for the Company's products
and services. As a result of the factors identified above, the Company is in
need of additional capital to enable it continue as a going concern. The
following chart provides an analysis of the Company's capital requirements for
the 12 month period ending June 30, 2004 based on projected revenues of
$550,000:
% OF
REVENUE CAPITAL
GOAL REQUIRED
--------------------------------
100 $ 4,100,000
0 $ 4,650,000
However, no assurance can be given that the Company will be able meet its
revenue projections, maintain its cost structure as presently configured, or
raise additional capital on satisfactory terms. Should the
28
Company be unable to raise additional debt or equity financing, it will be
forced to seek a merger or cease operations.
CERTAIN FACTORS THAT MAY AFFECT FUTURE RESULTS
- ----------------------------------------------
Forward-looking statements in this document and those made from time-to-time by
our employees are made under the safe harbor provisions of the Private
Securities Litigation Reform Act of 1995. Forward-looking statements concerning
future plans or results are necessarily only estimates and actual results could
differ materially from expectations. Certain factors that could cause or
contribute to such differences include, and are not limited to, potential
fluctuations in quarterly results, the size and timing of awards and performance
on contracts, dependence on large contracts and a limited number of customers,
dependence on wireless and/or internet networks of third-parties for certain
products and services, lengthy sales and implementation cycles, availability and
cost of key components, market acceptance of new or enhanced products and
services, proprietary technology and changing technology, competitive
conditions, system performance, management of growth, the risk that our current
and future products and services may contain errors or be affected by technical
problems that would be difficult and costly to detect and correct, dependence on
key personnel and general economic and political conditions and other factors
affecting spending by customers, and other risks described in this Quarterly
Report on Form 10-QSB and our other filings with the Securities and Exchange
Commission.
ITEM 3. CONTROLS AND PROCEDURES
As of June 30, 2003, the Company carried out an evaluation, under the
supervision and with the participation of the Company's management, including
the Company's Chief Executive Officer and Chief Financial Officer, of the
effectiveness of the design and operation of its disclosure controls and
procedures pursuant to the Exchange Act Rule 13a-14. Based upon that evaluation,
the Company's Chief Executive Officer and Chief Financial Officer concluded that
the Company's disclosure controls and procedures that are designed to ensure
that information required to be disclosed in Company reports filed or submitted
under the Exchange Act is recorded, processed, summarized and properly reported.
29
PART 2. OTHER INFORMATION
SMARTSERV ONLINE, INC.
ITEM 1. LEGAL PROCEEDINGS
On or about February 29, 2000, Commonwealth Associates, L.P. ("Commonwealth")
filed a complaint against us in the Supreme Court of the State of New York,
County of New York. The complaint alleged that in August of 1999, Commonwealth
and SmartServ entered into an engagement letter that provided for a
nonrefundable fee to Commonwealth of $15,000 payable in cash or common stock at
SmartServ's option. The complaint alleged that SmartServ elected to pay the fee
in stock and, as a result, Commonwealth sought 13,333 shares of common stock or
at least $1,770,000 together with interest and costs. In our defense, we denied
that we elected to pay in stock. On March 4, 2003, SmartServ received a
favorable decision in this matter after a trial held in the Supreme Court of the
State of New York. The decision holds that, consistent with SmartServ's defense,
SmartServ is required to pay Commonwealth a retainer fee of only $13,439, plus
interest and certain costs. Commonwealth's time to appeal has not yet expired.
While we intend to vigorously defend any appeal of the decision in the
Commonwealth matter, the unfavorable outcome of such an appeal could have a
material adverse effect on our financial condition, results of operations and
cash flows.
In August of 2003, SmartServ entered into a Stipulation of Arbitration with
Brauning Inc., Mike Silva and Todd Peterson, former consultants to SmartServ
(collectively, the "Claimants") pursuant to which SmartServ and the Claimants
agreed to resolve, in a binding arbitration proceeding, the Claimants' demand
for damages resulting from the alleged failure by SmartServ to timely register
the shares of common stock underlying certain consulting warrants issued by
SmartServ to the Claimants. SmartServ believes that the shares underlying the
warrants were timely registered and that since the Claimants were not party to
any registration rights affecting such warrants, their demand is without merit.
Although we will vigorously defend this action, there can be no assurance that
we will be successful. The unfavorable outcome of such action could have a
material adverse effect on our consolidated results of operations, financial
condition and cash flows.
In August 2003, the Company was informed that Oracle Corporation ("Oracle") has
filed an action against it in Federal District Court in California seeking to
terminate its February 28, 2002 Oracle License and Services Agreement (the
"License") due to the Company's failure to pay certain license fees. The Company
has not yet received service of process in any such action. The Company has been
in the process of raising the funds necessary to cure the default and maintain
the License. There can be no assurance, however, that the Company will be able
to raise such funds or maintain the License. The Company's failure to maintain
the License would require that the Company temporarily suspend operations,
thereby creating a material adverse effect on its cash flows and operations.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
At the time of issuance, each investor or recipient of unregistered securities
was either an accredited investor or a sophisticated investor. Each investor had
access to SmartServ's most recent Form 10-KSB, all quarterly and periodic
reports filed subsequent to such Form 10-KSB and the Company's most recent proxy
materials.
30
In January 2003, the Company issued 219,178 shares of common stock to Robert
Gorman, an accredited investor in the September 2002 financing, upon the
exercise of warrants to purchase such shares. Proceeds from the exercise of
these warrants were $186,301. In February 2003, the Company issued 35,295 shares
of common stock to Frazier Investments, an accredited investor in the September
2002 financing, upon the exercise of warrants to purchase such shares. Proceeds
from the exercise of these warrants were $30,000. In March 2003, the Company
issued 129,089 shares of common stock to Frazier Investments, an accredited
investor in the September 2002 financing, upon the exercise of warrants to
purchase such shares. Proceeds from the exercise of these warrants were
$109,726. In April 2003, the Company issued 58,824 shares of common stock to
Joel Rotter, an accredited investor in the September 2002 financing, upon the
exercise of warrants to purchase such shares. Proceeds from the exercise of
these warrants were $50,000. No sales commissions were paid in connection with
the above transactions. These shares and warrants were issued in reliance upon
the exemption from registration provided by Section 4 (2) of the Securities Act.
In February 2003, the Company issued a convertible note to Global Capital
Funding Group, LP ("Global"), an accredited investor, in consideration for the
receipt of $1 million. The note bears interest at the rate of 10% per annum and
is secured by the Company's assets, exclusive of its internally developed
software products. The note matures on February 14, 2004, contains certain
antidilution provisions, and may be converted into shares of SmartServ common
stock at $1.10 per share. As additional consideration, the Company issued Global
a warrant for the purchase of 200,000 shares of its common stock at an exercise
price of $1.61 per share. The warrant contains certain antidilution provisions
and expires on February 14, 2006. Alpine Capital Partners, Inc., an accredited
investor, received a finder's fee of $70,000, representing 7% of the aggregate
purchase price of the convertible note and warrants to purchase 91,000 shares of
common stock at $1.61 per share expiring on February 14, 2006 in connection with
this transaction. In April 2003, the Company borrowed an additional $250,000
from Global and amended the convertible note to include such amount. As
additional consideration, the Company issued Global a warrant for the purchase
of 20,000 shares of its common stock at an exercise price of $1.20 per share.
The warrant contains certain antidilution provisions and expires on February 14,
2006. The note, amended note and the warrants were issued in reliance upon the
exemption from registration provided by Section 4 (2) of the Securities Act.
In February 2003, the Company issued 25,647 shares of common stock to G. S.
Schwartz & Company, a sophisticated investor, in full satisfaction of a $33,854
obligation to G. S. Schwartz & Company for services rendered to the Company. No
sales commissions were paid in connection with such transaction. The shares were
issued in reliance upon the exemption from registration provided by Section 4
(2) of the Securities Act.
In February 2003, the Company issued 62,500 shares of common stock to Vox, Inc.,
an accredited investor, in full satisfaction of an $82,500 obligation to Vox,
Inc. for services rendered to the Company. No sales commissions were paid in
connection with such transaction. The shares were issued in reliance upon the
exemption from registration provided by Section 4 (2) of the Securities Act.
In February 2003, the Company issued 12,576 shares of common stock to Creative
Management Services dba MC2, an accredited investor, in full satisfaction of a
$16,600 obligation to MC2 for services rendered to the Company. No sales
commissions were paid in connection with such transaction. The shares were
issued in reliance upon the exemption from registration provided by Section 4
(2) of the Securities Act.
In February 2003, the Company issued 12,100 shares of common stock to NexVue
Information Systems, a sophisticated investor, in satisfaction of a $15,953
obligation to NexVue Information Systems for services rendered to the Company.
No sales commissions were paid in connection with such transaction. The
31
shares were issued in reliance upon the exemption from registration provided by
Section 4 (2) of the Securities Act.
In May 2003, the Company in consideration of $358,000 issued 3.58 units
consisting of convertible notes and warrants to purchase common stock ("May
Units") to 8 accredited investors. Each May Unit consists of a $100,000
convertible note and a warrant to purchase 200,000 shares of the Company's
common stock. The convertible notes bear interest at 8% per annum, are
convertible into the Company's common stock at $0.744 (the average of the
closing bid prices of the Company's common stock for the 5 days prior to the
closing of the transaction) per share and mature on the earlier of November 19,
2003 or the closing of an equity placement of not less than $3 million. The
warrants are exercisable at $0.744 per share and expire on May 19, 2006. In June
2003, the Company in consideration of $1,142,000 issued 11.42 units ("June
Units") [each May or June Unit referred individually as a "Unit"] to 20
accredited investors. Each June Unit also consists of a $100,000 convertible
note and a warrant to purchase 200,000 shares of the Company's common stock. The
convertible notes bear interest at 8% per annum, are convertible into the
Company's common stock at $0.794 (the average of the closing bid prices of the
Company's common stock for the 5 days prior to the closing of the transaction)
per share and mature on the earlier of December 13, 2003 or the closing of an
equity placement of not less than $3 million. The warrants are exercisable at
$0.794 per share and expire on June 13, 2006. Spencer Trask Ventures, Inc.
("Spencer Trask"), Steven B. Rosner and Richard Berland, each an accredited
investor, acted as finders for this transaction. As consideration therefor, the
finders received their proportionate share of a cash fee equal to 10% of the
aggregate purchase price of the Units sold and (i) Unit Purchase Warrants to
purchase an aggregate of three Units ("Unit Purchase Warrant") and (ii) 33,333
shares of unregistered common stock per Unit sold. Each Unit Purchase Warrant
entitles the holder to purchase one Unit, for the price of $100,000 per Unit
through June 13, 2008. In addition, Spencer Trask received a non-accountable
expense allowance equal to 3% of the aggregate proceeds of all Units sold in the
offerings. These convertible notes, shares and warrants were issued in reliance
upon the exemption from registration provided by Section 4 (2) of the Securities
Act.
In May 2003, the Company entered into a consulting agreement with Spencer Trask
whereby Spencer Trask will render services to the Company as its corporate
finance consultant, financial advisor and investment banker. As compensation for
such services, the Company agreed to issue 500,000 shares of common stock to
Spencer Trask. These shares will be issued in reliance upon the exemption from
registration provided by Section 4 (2) of the Securities Act.
32
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
4.1 Form of Warrant for the Investors in the May 2003 Placement (the "May
Investors")
4.2 Form of Registration Rights Agreement, dated May 19, 2003, between
SmartServ and the May Investors
4.3 Form of Warrant for the Investors in the June 2003 Placement (the "June
Investors")
4.4 Form of Registration Rights Agreement, dated June 13, 2003, between
SmartServ and the June Investors
10.1 Form of Securities Purchase Agreement, dated May 19, 2003, between
SmartServ and the May Investors
10.2 Form of Convertible Debenture for the May Investors
10.3 Form of Securities Purchase Agreement, dated June 13, 2003, between
SmartServ and the June Investors
10.4 Form of Convertible Debenture for the June Investors
10.5 Consulting Agreement, dated May 15, 2003, between the Company and
Spencer Trask Ventures, Inc.
10.6 Severance Agreement, dated June 20, 2003, between SmartServ and Richard
Kerschner
10.7 Severance Agreement, dated June 20, 2003, between SmartServ and Thomas
Haller
10.8 Form of Amendment to the May 19, 2003 Security Purchase Agreement
between SmartServ and the May Investors
31.1 Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2 Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1 Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
(b) REPORTS ON FORM 8-K
On May 2, 2003, the Company filed a report on Form 8-K under Items 5,
7 and 12 thereof referencing a press release, dated April 30, 2003,
relating to its continued listing on the Nasdaq SmallCap Market and a
press release on April 25, 2003, announcing the Company's financial
results for the year ended December 31, 2002.
33
SMARTSERV ONLINE, INC.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
SmartServ Online, Inc.
(Registrant)
By:
Date: August 26, 2003 /S/ SEBASTIAN E. CASSETTA
---------------------------
Sebastian E. Cassetta
Chief Executive Officer
Date: August 26, 2003 /S/ THOMAS W. HALLER
---------------------------
Thomas W. Haller
Sr. Vice President, Chief Financial
Officer, Treasurer
34
EXHIBIT INDEX
-------------
EXHIBIT
NO. DESCRIPTION
- ------- -----------
4.1 Form of Warrant for the Investors in the May 2003 Placement (the "May
Investors")
4.2 Form of Registration Rights Agreement, dated May 19, 2003, between
SmartServ and the May Investors
4.3 Form of Warrant for the Investors in the June 2003 Placement (the "June
Investors")
4.4 Form of Registration Rights Agreement, dated June 13, 2003, between
SmartServ and the June Investors
10.1 Form of Securities Purchase Agreement, dated May 19, 2003, between
SmartServ and the May Investors
10.2 Form of Convertible Debenture for the May Investors
10.3 Form of Securities Purchase Agreement, dated June 13, 2003, between
SmartServ and the June Investors
10.4 Form of Convertible Debenture for the June Investors
10.5 Consulting Agreement, dated May 15, 2003, between the Company and
Spencer Trask Ventures, Inc.
10.6 Severance Agreement, dated June 20, 2003, between SmartServ and Richard
Kerschner
10.7 Severance Agreement, dated June 20, 2003, between SmartServ and Thomas
Haller
10.8 Form of Amendment Agreement, dated June 13, 2003, to the May 19, 2003
Securities Purchase Agreement between SmartServ and the May Investors.
35