SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-Q
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[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended December 31, 2001
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[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
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Commission File Number 0-20771
DIGITAL COURIER TECHNOLOGIES, INC.
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(exact name of registrant as specified in its charter)
Delaware 87-0461856
- ------------------------------- ------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
348 East 6400 South, Suite 220
Salt Lake City, Utah 84107
(Address of principal executive offices) (Zip Code)
(Registrant's telephone number, including area code)
(801) 266-5390
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Sections 13 and 15(d) of the Securities Exchange Act of
1934 during the preceding 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 No X
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APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date. The Registrant has
Common Stock with $.0001 par value, of which 43,614,448 shares were issued and
outstanding as of February 14, 2002.
PART I. FINANCIAL INFORMATION
ITEM 1. Condensed Consolidated Financial Statements (unaudited)
DIGITAL COURIER TECHNOLOGIES, INC.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
ASSETS
------
December 31,
2001 June 30,
(unaudited) 2001
------------ ------------
CURRENT ASSETS:
Cash $ 204,870 $ 712,264
Restricted cash 18,441,908 31,008,230
Deposit with payment processor -- 2,067,148
Receivable from payment processors 247,339 1,154,607
Current portion of prepaid software license 2,247,684 2,247,684
Prepaid expenses and other current assets 107,037 170,262
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Total current assets 21,248,838 37,360,195
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PROPERTY AND EQUIPMENT:
Computer and office equipment 8,365,139 8,353,347
Furniture, fixtures and leasehold improvements 593,416 593,416
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8,958,555 8,946,763
Less accumulated depreciation and amortization (7,031,465) (5,999,889)
------------ ------------
Net property and equipment 1,927,090 2,946,874
GOODWILL AND OTHER INTANGIBLE ASSETS, net of accumulated amortization of
$57,004,248 and $54,472,885 respectively
13,401,064 15,932,427
PREPAID SOFTWARE LICENSE, net of current portion 2,809,605 3,933,447
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$ 39,386,597 $ 60,172,943
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See accompanying notes to condensed consolidated financial statements.
2
DIGITIAL COURIER TECHNOLOGIES, INC.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS (Continued)
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
December 31, 2001 June 30,
(unaudited) 2001
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CURRENT LIABILITIES:
Notes payable $ 957,365 $ 1,656,655
Current portion of capital lease obligations 41,109 43,342
Accounts payable 1,107,184 723,067
Merchant reserves 17,616,999 28,074,138
Accrued merchant payable 1,026,889 2,920,085
Settlements due to merchants 202,101 741,057
Accrued chargebacks 1,950,684 1,727,637
Due to processor 17,000 2,484,107
Deferred revenue 324,776 486,776
Other accrued liabilities 2,222,903 2,689,339
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Total current liabilities 25,467,010 41,546,203
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CAPITAL LEASE OBLIGATIONS, net of current portion 28,471 49,839
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COMMITMENTS AND CONTINGENCIES:
Convertible Preferred Stock, 2,500,000 shares authorized, Series A - $10,000 par
value 360 shares outstanding (liquidation preference of $3,600,000)
Series B par value $0.0001- 4 and 0 shares outstanding respectively 3,600,000 3,600,000
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STOCKHOLDERS' EQUITY:
Common stock, $.0001 par value; 75,000,000 shares authorized, 43,614,444 and
40,044,444 shares issued and outstanding respectively
4,361 4,004
Additional paid-in capital 279,705,487 279,355,836
Warrants outstanding 1,363,100 1,363,100
Subscriptions receivable (12,000) (12,000)
Accumulated deficit (270,769,832) (265,734,039)
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Total stockholders' equity 10,291,116 14,976,901
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$ 39,386,597 $ 60,172,943
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See accompanying notes to condensed consolidated financial statements.
3
DIGITAL COURIER TECHNOLOGIES, INC.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE MONTHS ENDED DECEMBER 31, 2001 AND 2000
(Unaudited)
2001 2000
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REVENUE $ 4,668,676 $ 9,137,924
COST OF REVENUE 2,958,635 6,198,506
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Gross margin 1,710,041 2,939,418
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OPERATING EXPENSES:
Depreciation and amortization 2,323,146 13,489,448
Impairment writedown of goodwill -- 142,000,000
Selling, general and administrative 1,480,840 3,373,014
Research and development 119,491 513,257
Chargebacks -- 249,000
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Total operating expenses 3,923,477 159,624,719
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OPERATING LOSS (2,213,436) (156,685,301)
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OTHER INCOME (EXPENSE):
Gain on return of common shares -- 3,109,544
Interest and other income 1,387 91,726
Interest and other expense (44,492) (34,749)
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Net other income (expense) (43,105) 3,166,521
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LOSS BEFORE INCOME TAXES (2,256,541) (153,518,780)
INCOME TAX -- --
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NET LOSS $ (2,256,541) $(153,518,780)
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NET LOSS PER COMMON SHARE:
Basic and Diluted $ (0.05) $ (3.64)
============= =============
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING:
Basic and Diluted 42,993,574 42,164,840
============= =============
See accompanying notes to condensed consolidated financial statements.
4
DIGITAL COURIER TECHNOLOGIES, INC.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE SIX MONTHS ENDED DECEMBER 31, 2001 AND 2000
(Unaudited)
2001 2000
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REVENUE $ 9,311,571 $ 18,633,834
COST OF REVENUE 5,954,840 12,352,131
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Gross margin 3,356,731 6,281,703
OPERATING EXPENSES:
Depreciation and amortization 4,686,781 26,935,446
Impairment writedown of goodwill -- 142,000,000
Selling, general and administrative (includes $0 and ($285,346),
respectively of non-cash, stock-based expense) 3,089,465 5,742,239
Research and development (includes $0 and ($363,954), respectively of
non-cash, stock-based expense) 252,882 594,251
Chargebacks 250,000 249,000
Visa and Mastercard Fines 60,000 --
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Total operating expenses 8,339,128 175,520,936
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OPERATING LOSS (4,982,397) (169,239,233)
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OTHER INCOME (EXPENSE):
Gain on return of common shares -- 3,109,544
Interest and other income 42,984 174,188
Net loss on sale of assets -- (15,383)
Interest and other expense (96,380) (60,904)
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Net other income (expense) (53,396) 3,207,445
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LOSS BEFORE INCOME TAXES (5,035,793) (166,031,788)
INCOME TAX -- --
------------- -------------
NET LOSS $ (5,035,793) $(166,031,788)
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NET LOSS PER COMMON SHARE:
Basic and Diluted $ (0.12) $ (3.67)
============= =============
WEIGHTED AVERAGE COMMON SHARES OUTSTANDING:
Basic and Diluted 41,519,009 45,282,149
============= =============
See accompanying notes to condensed consolidated financial statements.
5
DIGITAL COURIER TECHNOLOGIES, INC.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED DECEMBER 31, 2001 AND 2000
(Unaudited)
Increase (Decrease) in Cash
2001 2000
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CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (5,035,793) $(166,031,788)
Adjustments to reconcile net loss to net cash provided by (used in)
operating activities:
Depreciation and amortization 4,686,781 26,935,446
Loss from impairment writedown of goodwill -- 142,000,000
Gain on return of common shares -- (3,109,544)
Compensation (income) related to cashless exercise feature of stock
options -- (649,300)
Loss on disposition of equipment -- 15,383
Changes in operating assets and liabilities
Restricted cash 12,566,322 (14,088,458)
Trade accounts receivable -- (1,150,998)
Deposit with payment processor 2,067,148 --
Receivable from payment services processor 907,268 3,892,717
Other receivables -- 477,935
Deferred revenue (162,000) 570,000
Prepaid expenses and other current assets 63,225 (531,695)
Other assets -- 329,356
Accounts payable 384,117 (1,665,621)
Settlements due to merchants (2,432,152) 2,462,489
Merchant reserves (10,457,139) 2,211,510
Due to payment processor (2,467,107) 1,322,798
Accrued chargebacks 223,047 (572,476)
Accrued liabilities (116,428) (2,887,684)
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Net cash provided by (used in) operating activities $ 227,289 $ (10,469,930)
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See accompanying notes to condensed consolidated financial statements.
6
DIGITAL COURIER TECHNOLOGIES, INC.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED DECEMBER 31, 2001 AND 2000 (Continued)
(Unaudited)
Increase (Decrease) in Cash
2001 2000
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CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property and equipment (11,792) (855,802)
Proceeds from sale of equipment -- 2,543
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Net cash provided by (used in) investing activities (11,792) (853,259)
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CASH FLOWS FROM FINANCING ACTIVITIES:
Net proceeds from issuance of common stock upon exercise of warrants
-- 5,200,000
Principal payments on capital lease obligations (23,601) (315,525)
Principal payments on borrowings (699,290) --
----------- -----------
Net cash provided by (used in) financing activities (722,891) 4,884,475
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NET DECREASE IN CASH (507,394) (6,438,714)
CASH AT BEGINNING OF PERIOD 712,264 7,382,773
----------- -----------
CASH AT END OF PERIOD $ 204,870 $ 944,059
----------- ===========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for interest $ 103,455 $ 76,287
NONCASH FINANCING AND INVESTING ACTIVITIES:
The company issued 3,570,000 shares of stock in October 2001 to settle a
legal obligation discussed in Note 4 to the financial statements.
See accompanying notes to condensed consolidated financial statements.
7
DIGITAL COURIER TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1 - INTERIM CONDENSED FINANCIAL STATEMENTS
The accompanying interim condensed consolidated financial statements as of
December 31, 2001 and for the three and six months ended December 31, 2001 and
2000 are unaudited. In the opinion of management, all adjustments (consisting
only of normal recurring adjustments) necessary for a fair presentation have
been included. The financial statements are condensed and, therefore, do not
include all disclosures normally required by generally accepted accounting
principles. These financial statements should be read in conjunction with the
Company's annual financial statements included in the Company's Annual Report on
Form 10-K for the fiscal year ended June 30, 2001. The results of operations for
the three and six months ended December 31, 2001 are not necessarily indicative
of the results to be expected for the entire fiscal year ending June 30, 2002.
Certain previously reported amounts have been reclassified to conform to the
current period presentation. These reclassifications had no affect on the
previously reported net loss.
During the three months ended December 31, 2001 the Company's operations were
basically break even after excluding non-cash expenses for amortization and
depreciation. During the six months ended December 31, 2001 the Company's
operations generated a loss from operations of $295,616 (unaudited), after
excluding non-cash expenses for amortization and depreciation. Since its
inception, our business has incurred significant losses, and as of December 31,
2001 had negative working capital of $4,218,172. As a result, there is
uncertainty about the Company's ability to continue as a going concern, which
was stated in our auditor's report on the Company's financial statement for the
2001 fiscal year. While management projects improved cash flows from operating
activities, there can be no assurance that management's projections will be
achieved. Management may also be required to pursue sources of additional
funding to meet marketing and expansion objectives. There can be no assurance
that additional funding will be available or, if available, that it will be
available on acceptable terms or in required amounts.
NOTE 2 - ACQUISITIONS AND DISPOSITIONS
DataBank International, Ltd.
As approved by the shareholders of the Company at a Special Shareholders Meeting
on October 5, 1999, the Company acquired all of the outstanding stock of
DataBank, a credit card processing company organized under the laws of St.
Kitts. On that date the shareholders of DataBank were issued 16,600,000 shares
of the Company's common stock valued at $88,195,800 (based on the quoted market
price of the Company's common stock on the date the Company and DataBank entered
into the merger agreement). If DataBank met certain performance criteria, as
defined in the acquisition documents, the Company would be required to issue up
to an additional 13,060,000 shares of common stock to the former shareholders of
DataBank. The acquisition of DataBank has been accounted for as a purchase and
8
the results of operations of DataBank are included in the accompanying
consolidated financial statements since the date of acquisition. The tangible
assets acquired included $515,674 of cash, $411,313 of receivables, and $185,000
of equipment. Expenses incurred in connection with the acquisition were $87,577.
Liabilities assumed consisted of $1,820,096 of accounts payable and accrued
liabilities.
The excess of the purchase price over the estimated fair market value of the
acquired net assets on October 5, 1999 of $88,991,486 was recorded as goodwill
and was being amortized over a period of 5 years.
On January 13, 2000, the Board of Directors of the Company elected to issue the
13,060,000 contingent shares, in light of the achievement of performance
criteria, with an approximate 12.5% discount in the number of shares to the
former shareholders of DataBank. Therefore, the Company issued an additional
11,427,500 shares of the Company's common stock valued at $108,561,250 (based on
the quoted market price of the Company's common stock on the date of the Board
of Directors meeting). This additional amount was recorded as goodwill and was
being written off over 57 months beginning January 2000.
Subsequent to the acquisition of DataBank, the Company became aware of an
additional $581,000 of liabilities related to DataBank's operations prior to the
acquisition. This additional amount was recorded as an adjustment to goodwill
and was being amortized over the remainder of the five-year period.
During the quarter ended December 31, 2000, the Company assessed the
realizability of the recorded goodwill and $134,228,591 was written off as
impaired. At June 30,2001, the Company assessed the realizability of the
remaining goodwill under current business conditions and recorded an additional
writedown of $6,494,142.
MasterCoin
In April, 2000, the Company entered into agreements to purchase certain
software, a merchant portfolio, and certain equipment from various entities
referred to jointly as MasterCoin. The Company's Board of Directors approved a
total purchase price of $2.9 million for all of the assets to be acquired with
the assumption that Mr. James Egide, the then CEO and Chairman of the Company,
would negotiate the acquisition and allocate the total price among the assets
acquired.
The software, which will allow the Company to address the "Server Wallet" market
opportunity, was acquired through a Software Purchase and Sales Agreement with
MasterCoin, International, Inc. ("MCII") in exchange for $1,000,000 in cash. The
Company acquired all rights to MCII's e-commerce and e-cash software.
The owners of MCII included Don Marshall, who was then President and a Director
of the Company. Mr. Marshall did not accept any remuneration from the Company as
a result of the transaction.
Since the acquisition, the Company has invested an additional $165,000,
accounted for as research and development expense, to complete the development
of the software. Management believes the potential market for the software is
significant and intends to begin marketing the software during fiscal 2002. The
cost of the software and additional development costs will be amortized over the
life of the software that is estimated to be three years.
9
The merchant portfolio was acquired through a Portfolio Purchase and Sale
Agreement with the sellers who had developed and acquired the merchant portfolio
of MasterCoin of Nevis, Inc. and MasterCoin Inc. in exchange for $700,000 in
cash. The Company acquired all rights, title and interests in and to the
portfolio. The Company paid $400,000 at closing with the remaining $300,000
payable subject to the performance of the portfolio. The portfolio is currently
generating revenues for the Company.
The Sellers included Don Marshall, the then President and Director of DCTI, and
a person who was hired by the Company in July 2000. Mr. Marshall did not accept
any remuneration from the Company as a result of the transaction.
The cost of the portfolio was amortized over twelve months, the estimated
average service period for the merchants acquired.
The equipment was acquired through an Asset Purchase and Sale Agreement with
MasterCoin, Inc., a Nevada corporation (MC) in exchange for $1,200,000 in cash.
The Company acquired title to equipment located in St. Kitts, British West
Indies consisting of computers, a satellite system, phone systems and leasehold
improvements which the Company anticipated would be useful in exploiting the
Server Wallet market opportunity referred to above. At the date of the
transaction, Mr. James Egide, the former CEO and Chairman of the Company, was a
shareholder in MC.
In the course of closing fiscal 2000, the Company reviewed the value of the
equipment and determined that through age and non-use the book value of the
assets was impaired. Upon assessing a current realizable value of $300,000, the
Company wrote off the difference of $900,000 to expense. The remaining balance
is being depreciated over three years.
CaribCommerce, Ltd.
Effective January 1, 2000, the Company acquired all of the outstanding stock of
CaribCommerce, a sales and marketing organization. The shareholders of
CaribCommerce were issued 600,000 shares of the Company's common stock valued at
$4,837,800 (based on the quoted market price of the Company's common stock on
the date of the acquisition) and $150,000 in cash. The acquisition of
CaribCommerce has been accounted for as a purchase and the results of operations
of CaribCommerce are included in the accompanying financial statements since the
date of acquisition. The Company did not receive any tangible assets and assumed
no liabilities. The Company has employed two former shareholders of
CaribCommerce without employment agreements. The Company was assigned a service
agreement with a bank as a result of the acquisition. The term of the agreement
is four years dating from August 1999.
The purchase price of $4,987,800 was recorded as an intangible asset and was
being amortized over a period of 44 months, the remaining term of the service
agreement. The service agreement allows the Company to develop a processing
program with the bank. During the quarter ended March 31, 2001, the Company
evaluated the potential benefits associated with the service agreement and
concluded that it would not be in the best interests of the Company to pursue a
relationship with the bank. Upon this determination, the Company assessed the
10
realizability of the remaining unamortized goodwill associated with the
acquisition and having determined it to be impaired, wrote off the full amount
of $3,429,113.
Digital Courier International, Inc.
Effective March 17, 1998, the Company entered into a Stock Exchange Agreement
(the "Exchange Agreement") with DCII. Pursuant to the Exchange Agreement, the
Company agreed to issue 4,659,080 shares of its common stock valued at
$14,027,338 to the shareholders of DCII. The issuance of the common shares was
recorded at the quoted market price on the date of acquisition. The acquisition
was approved by the shareholders of the Company on September 16, 1998 and was
accounted for as a purchase.
During the quarter ended December 31, 2000, the Company assessed the
realizability of the goodwill associated with this and other acquisitions. As a
result of that analysis, unamortized goodwill of $6,539,338 associated with DCII
was written off as impaired.
Access Services, Inc.
Effective April 1, 1999, the Company acquired all of the outstanding stock of
Access Services, a credit card processing company. The shareholders of Access
Services were issued 300,000 shares of the Company's common stock valued at
$1,631,400 (based on the quoted market price of the Company's common stock on
the date of the acquisition), $75,000 in cash and warrants to purchase 100,000
shares of the Company's common stock at $5.50 per share valued at $440,000. The
acquisition of Access Services has been accounted for as a purchase and the
results of operations of Access Services are included in the accompanying
consolidated financial statements since the date of acquisition. The excess of
the purchase price over the estimated fair market value of the acquired net
assets of $2,327,866 was recorded as goodwill and was being amortized over a
period of 5 years. During the quarter ended December 31, 2000 the Company
assessed the realizability of the goodwill associated with this and other
acquisitions. As a result of that analysis, unamortized goodwill of $1,412,071
associated with Access Services was written off as impaired.
SB.com, Inc.
Effective June 1, 1999, the Company acquired all of the outstanding stock of
SB.com, a credit card transaction processing company. The shareholders of SB.com
were issued 2,840,000 shares of the Company's common stock valued at $17,838,040
(based on the quoted market price of the Company's common stock on the date of
the acquisition). The acquisition of SB.com has been accounted for as a purchase
and the results of operations of SB.com are included in the accompanying
consolidated financial statements since the date of acquisition. The former
shareholders of SB.com retained all tangible assets and liabilities existing at
the date of acquisition. Accordingly, the purchase price of $17,838,040 has been
recorded as goodwill and is being amortized over a period of 5 years. At June
30, 2001, the Company assessed the realizability of the remaining goodwill under
current business conditions and recorded an additional writedown of $4,199,858.
11
In connection with the acquisition of SB.com, the Company loaned $500,000 to
each of four of SB.com's prior shareholders. The notes receivable bear interest
at 6 percent, are unsecured, and were due at the earlier of June 30, 2001 or
from the proceeds from the sale of DCTI common stock held by the individuals.
Since the stated interest rate on the notes of 6 percent was less than the
current market interest rate at the inception of the notes, the notes have been
discounted using a 10 percent interest rate. The notes remain outstanding at
December 31, 2001 pending resolution of registration rights claims made by the
Noteholders as discussed further in Note 4. Management will aggressively pursue
collection of the notes, however, it was considered prudent to fully reserve the
amounts due in the quarter ended June 30, 2001. A reserve of $2,197,596 was
recorded at that time. In addition, the Company has stopped making payments on a
severance agreement with one of the prior SB.com shareholders pending resolution
of these matters.
Books Now, Inc.
In January 1998, the Company acquired all of the outstanding stock of Books Now,
a seller of books through advertisements in magazines and over the Internet. The
shareholders of Books Now received 100,000 shares of the Company's common stock
valued at $312,500 and an earn-out of up to 262,500 additional common shares.
The issuance of the common shares was recorded at the quoted market price on the
date of acquisition.
The acquisition was accounted for as a purchase and the results of operations of
Books Now are included in the accompanying consolidated financial statements
since the date of acquisition. The excess of the purchase price over the
estimated fair market value of the acquired assets of $616,764 was recorded as
goodwill and was being amortized over a period of 5 years.
Effective May 28, 1999, the Company entered into an Asset Purchase Agreement
with ClickSmart, a new corporation formed for the purpose of combining the
assets acquired from the Company with certain assets contributed by Video Direct
Inc. Pursuant to the agreement, the Company exchanged certain assets for 19.9 %
of the common stock of ClickSmart.com. The assets exchanged by the Company
primarily related to the operations of Books Now and Videos Now and consisted of
$57,183 of equipment, $52,204 of prepaid advertising and certain intangibles
represented by goodwill of $442,020. ClickSmart did not assume any existing
liabilities related to Books Now and Videos Now. The operations of Books Now and
Videos Now were not generating positive cash flows prior to the exchange and the
operations of Video Direct did not have any history of profitability. Due to
these uncertainties with respect to the future cash flows and profitability of
ClickSmart.com, at the time of the exchange management determined that the
Company's investment in ClickSmart.com of $551,407 should be written off. Prior
to the exchange, management was considering the termination of the Books Now and
Videos Now operations.
In connection with the exchange the Company loaned ClickSmart.com $300,000 under
a promissory note bearing interest at 8 percent and due in May of 2000.
In May 2000, Clicksmart.com was sold to Ubrandit.com ("UBI") for 300,000 shares
of UBI, of which the Company received 100,000 shares. The UBI shares are
available for resale as of May 2001. The Company has not recorded an asset
relative to the shares as their value remains uncertain. The Company sold 20,000
shares of the stock during the quarter ended September 30, 2001, recording a
gain of $1,286.
12
Sale of Certain Assets Related to WorldNow
On July 15, 1998, the Company signed an agreement to sell a portion of its
assets related to the Company's Internet-related business branded under the
"WorldNow" and "WorldNow Online Network" marks to Gannaway Web Holdings, LLC
("Gannaway"). The assets primarily related to the national Internet-based
network of local television stations. Pursuant to the asset purchase agreement,
Gannaway agreed to pay $487,172 (less certain amounts as defined) in
installments over a one-year period from the date of closing and agreed to pay
earn-out amounts of up to $500,000. The earn-out amounts are calculated as ten
percent of monthly revenues actually received by Gannaway in excess of $100,000
and are to be paid quarterly. Subsequent to the sale through December 31, 2001,
the Company has not received any earn-out payments.
NOTE 3 - NET LOSS PER COMMON SHARE
Basic net loss per common share ("Basic EPS") excludes dilution and is computed
by dividing net loss by the weighted average number of common shares outstanding
during the period. Diluted net loss per common share ("Diluted EPS") reflects
the potential dilution that could occur if stock options or other contracts to
issue common stock were exercised or converted into common stock. The
computation of Diluted EPS does not assume exercise or conversion of securities
that would have an antidilutive effect on net loss per common share.
Options to purchase 4,247,049 and 4,047,691 shares of common stock at weighted
average exercise prices of $0.82 and $5.75 per share as of December 31, 2001 and
2000, respectively, warrants to purchase 1,990,000 shares of common stock at
weighted average exercise prices of $7.20 per share as of December 31, 2001 and
2000, and 360 shares of Series A preferred stock convertible to 800,000 shares
of common stock at $4.50 per share at December 31, 2001 and 2000 were not
included in the computation of Diluted EPS. The inclusion of the options,
warrants and preferred stock would have been antidilutive, thereby decreasing
net loss per common share.
NOTE 4 - COMMITMENTS AND CONTINGENCIES
Purchase Commitment
On November 28, 1996, the Company entered into an agreement with Sprint
Communications Company L.P. ("Sprint") to establish special prices and minimum
purchase commitments in connection with the use of communication products and
services. This agreement was terminated and superceded by an agreement effective
July 15, 1997. This agreement was amended further on February 28, 2000, reducing
the commitment for the first two years of the agreement to actual expenditures
and establishing the Company's commitment for the third and final year to a
minimum usage of at least $240,000. The agreement expires in February 2003.
13
Bank Commitment
On June 6, 2000, the Company entered into an agreement with the St. Kitts Nevis
Anguilla National Bank Limited ("SKNANB") whereby the Company would provide
SKNANB with services relating to credit card processing. These services include
fraud screening, pre- and post- authorization, fraud and loss prevention,
technical services and the right to refer merchants to be considered by SKNANB
for inclusion in their processing program. The Company is required to maintain a
security deposit with SKNANB in the amount of $6,400,000. SKNANB collects 80
basis points for all credit card settlements processed through SKNANB. This
payment for basis points shall not be less than $100,000 per month.
Legal Matters
ePayment Solutions ("EPS") was a processing client of DataBank. Unbeknownst to
present management of the Company, various non-EPS owned merchants were sending
credit card payments to EPS, who in turn processed the transactions with the
Company under the EPS name. EPS in turn was supposed to take its settlement
funds and disburse them to its various merchants. When the present management
began reviewing its merchants for risk assessment purposes, it discovered that
EPS was indeed factoring, a violation of Visa/MasterCard regulations. It also
began seeing large chargebacks in EPS's account and therefore larger reserves
were withheld in the EPS account to cover expected chargebacks and in
preparation for merchant termination should EPS be unwilling to sign the
merchants directly with DCTI/SKNANB. As of December 31, 2001, funds held for EPS
totaled approximately $1.3 million. The Company believes that adequate reserves
are being held for all remaining chargebacks and fines.
The Company has been served with injunctions issued by the High Court of
Justice, Federation of St. Christopher and Nevis on behalf of several merchants
which were doing business with EPS prohibiting the Company from disbursing the
funds held for EPS's account until further court order. The Company is complying
with these injunctions.
During the quarter ended March 31, 2001 certain shareholders made claims against
the Company that the Company should have filed registration statement with the
Securities and Exchange Commission at various times during fiscal 2000 to allow
specific shareholders to market their otherwise restricted common shares in the
Company. The Company is continuing to work to resolve the various claims. In
addition, other shareholders have made claims against the Company alleging in
part that the delisting of the Company's stock from Nasdaq violated certain
provisions of their investment agreements with the Company. Also, the Company
has stopped making payments on a severance agreement with one of the prior
SB.com shareholders pending resolution of these matters.
On October 16, 2001, the Company entered into a settlement with a shareholder
regarding the Company's alleged failure to register restricted shares of the
Company's common stock, as well as certain other alleged breaches of his
contract rights. The shareholder received the shares in the course of the
Company's acquisition of DataBank in October, 1999. The shareholder had claimed
that the Company was obligated to periodically register a portion of those
restricted shares with the SEC following the DataBank transaction and
subsequently failed to do so. In July 2001, the shareholder filed a lawsuit
against the Company in federal court in Salt Lake City, Utah. The shareholder's
complaint sought damages of $10,500,000. The Company negotiated a settlement
with the shareholder whereby the shareholder was issued 3,500,000 shares of the
14
Company's restricted common stock. As part of the settlement, the shareholder
granted the Company's current Chairman an irrevocable proxy to vote these shares
for a period of up to three years. In addition, the shareholder received a
promissory note from the Company for $800,000 to be paid in quarterly
installments, beginning with the quarter ending December 31, 2001.The Company's
quarterly payments will be based upon a percentage of the Company's earnings
before taxes, depreciation, and amortization, if any, during each quarter, but
the note will have a final maturity date in October 2004. Interest of 15% per
annum will not begin accruing on the note until 2003. To assure payment under
the note, the Company also executed a confession of judgment, which may not be
entered absent a default, in an amount substantially in excess of the principal
amount of the note. Finally, as part of the settlement, the Company and the
shareholder agreed to modify a prior severance agreement between them. The
shareholder has fully released the Company from all claims stated in the
complaint. The total amount of the settlement of $1,447,500 was recorded at June
30, 2001 as an expense and an accrued liability on the balance sheet. The value
of the shares issued was recorded at the price of the Company's common stock on
October 16, 2001. Additionally, as part of the settlement, the shareholder was
allowed to keep 70,000 shares previously promised to be returned to the Company.
The Company processed a limited number of transactions through the Bank of
Nevis, located in the British West Indies ("the Bank") during fiscal 2000.
DataBank, acquired by the Company in October 1999, processed through the Bank
prior to the acquisition. In February 2000, the Bank informed the Company that
unspecified amounts were due the Bank for periods before and after the DataBank
acquisition due to processing errors. The Company responded that, in fact, it
believes the Bank owes the Company certain amounts that were never settled after
the Company ceased processing. The Bank engaged an audit firm to analyze the
matter and the results of that audit are being discussed with the Bank today.
The Bank claims the Company owes it $581,000 for the period prior to the
DataBank acquisition and $500,000 for the period after the acquisition. The
Company believes that the $581,000 was incorrectly overpaid by the Bank to
various merchants and that it is the obligation of the Bank to recover these
amounts from those merchants. The Company is liable for any unrecovered
overpayments as DataBank's liabilities were assumed by the Company in the
acquisition. During fiscal 2000 the Company increased the liabilities assumed in
the DataBank transaction by $581,000 and increased acquired goodwill by the same
amount. The Company believes that the Bank's claim regarding the $500,000 amount
is erroneous as it includes one merchant that was never a client of DataBank or
the Company and another merchant whose payments to the Bank have not been
considered in the audit. The Company wrote off a receivable due from the Bank of
$255,531 in fiscal 2000. Management will continue to work with the Bank and
their auditors and believes the issues with the Bank will be settled during
fiscal 2002 and that no material adverse impact will result.
In November 2000 a plaintiff filed suit against the Company and a former
President and director of the Company alleging that the plaintiff is the
assignee of several persons and entities, which owned interests in DataBank
which the Company acquired in October 1999. The plaintiff alleges that its
assignors were not paid their alleged share of the purchase price by the former
15
President and director and is suing, therefore, for breach of contract. The
plaintiff has recently added as a defendant a former Chief Executive Officer and
Chairman of the Company. The Company has filed several motions to dismiss the
complaint, certain of which the court has granted, including one without leave
to amend. The Company anticipates moving to dismiss the recent amendment to the
complaint and anticipates that motion will be heard by the court in April 2002.
While the Company intends to vigorously defend this action, no assurance can be
given as to the ultimate outcome or resolution of this action.
During fiscal 2000, the Company received information indicating that its Chief
Executive Officer and Chairman at the time, Mr. James Egide, may have had a
conflicting, undisclosed, interest in DataBank at the time the Company acquired
it. Specifically, there were two general allegations. First, it was alleged that
he had been a part of a group that had acquired 75% of the stock of DataBank
(the "Group DataBank Transaction") approximately 2 months before the Company
entered into a letter of intent to acquire it. That earlier purchase was for 75%
of DataBank at a purchase price of $6.2 million, while the Company's subsequent
acquisition, deemed fair and equitable at the time, was priced at 28,027,500
shares of the Company's common stock. Second, it was alleged that Mr. Egide did
not adequately disclose to the Company his ownership position in DataBank at or
prior to the time of the Company's acquisition of DataBank. The Company's Board
of Directors formed a special committee of directors, each of whom had no
involvement in the transaction themselves, to investigate these allegations; as
finally constituted, that committee consisted of Mr. Ken Woolley and Mr. Greg
Duman (the "Special Committee"). The Special Committee, in turn, retained
Munger, Tolles & Olson LLP, as outside counsel to conduct an investigation into
this matter (the "Internal Investigation").
During this period, Mr. Egide resigned first as Chief Executive Officer and,
later, as a director and as Chairman of the Board of Directors. Additionally,
some DataBank shareholders who had received shares of the Company pursuant to
the DataBank acquisition returned some or all of the DCTI shares they had
received, although they did not present the Company with any signed agreement or
otherwise document any right of the Company to take action with respect to the
returned shares. (Approximately 7.7 million DCTI shares were received by the
Company in this fashion.) All of these facts were promptly disclosed by the
Company in press releases as they occurred.
The investigation was conducted between August and October of 2000. In the
process of conducting its investigation, the Special Committee's counsel
retained private investigators, reviewed all relevant documents in the Company's
possession and conducted interviews of some 11 individuals. On October 25, 2000,
they released the "Summary and Conclusions" of their final report. (The Summary
and Conclusions were released while the remainder of the report was in technical
preparation and review in order to facilitate certain corporate plans, including
consummation of settlement negotiations with certain individuals, and to permit
the preparation of annual financial statements for submission to the Company's
independent auditors, both of which were dependent to some degree upon the
results of the report.)
The results of the investigation were inconclusive. Conflicting testimony was
received as to the ownership of certain offshore entities, and dispositive
evidence was not found. As to certain other factual questions, more subtle
16
differences of interpretation were identified that could have had legal
significance. For example, there were conflicting views as to whether the
initial purchase of DataBank shares was made available to the Company. Moreover,
there were significant uncertainties as to the legal effect of the different
possible factual interpretations. In the view of counsel to the Special
Committee, it was not fairly predictable what version of the facts a court would
find credible. Also, it was not clear what legal conclusions a court would
reach, or what remedies it would find to be available and appropriate, even if
the factual questions were not in dispute.
At approximately the time that the investigation was being completed, Mr.
Woolley entered into discussions with certain of the stockholders who received
DCTI shares in the DataBank acquisition. Ultimately, 7 stockholders agreed to
return to the Company 8,637,622 DCTI shares in settlement of any claims by the
Company of impropriety against them in connection with the transaction. These
shares included the DCTI shares that had earlier been returned to the Company,
but this time the Company's right to accept and cancel the shares was made
clear. Also included in the returned shares were 1,120,000 shares returned by
Mr. Don Marshall, the Company's President, and a former controlling shareholder
of DataBank (before the Group DataBank Transaction). The Special Committee
agreed that Mr. Marshall had no responsibility or liability with respect to any
of the alleged improprieties, but he also agreed that, as the Company's
President, and a former DataBank stockholder, he should not benefit through an
increased percentage ownership in the Company from the return of stock by others
from the DataBank transaction. Accordingly, his return of shares was designed to
preserve, after the return of all the shares involved, his percentage interest
in the Company at a level equal to what it was immediately before any such share
returns. In the view of counsel to the Special Committee who had conducted the
investigation, the settlement of claims in exchange for the return of shares was
a favorable settlement for the Company in comparison to the certain expenses,
and uncertain recoveries, that would have attended any litigation of the matter.
After careful consideration of the final report of the Special Committee's
counsel, the Company's Board of Directors continues to believe that the Company
paid a fair price for DataBank.
The shares returned to the Company were accounted for as a settlement of claims
and credited to income at the time of settlement. Accordingly, during the
quarter ended December 31, 2000 the Company recorded a gain from settlement of
$3,109,544 based on the quoted market price of the Company's common stock at the
time trading was allowed to resume on the OTC.
In January 2002, the Company filed a lawsuit in Federal Court in San Francisco
in response to the "Consent Statement" which was earlier filed by a group of
shareholders led by Mr. James Egide (the Egide group), the Company's onetime
Chairman and CEO. The Company is asking the Court to rule that the Egide group's
Consent Statement is false and misleading and that it violates the SEC Act of
1934. The Company is requesting injunctive relief such that shareholders are not
allowed to vote until the Egide group files a truthful Proxy. The Company
believes that the Consent Statement filed by the Egide group contains numerous
false and misleading statements, that it omits important information the
shareholders should know about and that Mr. Egide and certain members of his
group were officers, employees and Board Members during the time that gave rise
to the losses which the Company has endured as it has written down the value of
various acquisitions and expensed the costs of uncollectible chargebacks and
credit card association fines.
17
In addition to the above, the Company is the subject of certain legal matters,
which it considers incidental to its business activities. It is the opinion of
management, after consultation with independent legal counsel, that the ultimate
disposition of these legal matters will not individually or in the aggregate
have a material adverse effect on the consolidated financial position, liquidity
or results of operations of the Company. These claims, if determined adversely
to the Company, could have a material adverse effect on the Company's financial
position, liquidity and results of operations.
NOTE 5 - CAPITAL TRANSACTIONS.
Preferred Stock
The Company is authorized to issue up to 2,500,000 shares of its $10,000 par
value preferred stock. The Company's Board of Directors is authorized, without
shareholder approval, to fix the rights, preferences, privileges and
restrictions of one or more series of the authorized shares of preferred stock.
As of September 30, 2001 and 2000, 360 shares were designated as Series A
convertible preferred stock and 720 shares were designated as Series B
convertible preferred stock. The Company issued the 360 shares of Series A
during the year ended June 30, 1999. The Series A and Series B preferred shares
are identical and rank pari passu with regard to liquidation, and other
preferential rights, except that the conversion price for the Series A is $4.50
per share of common stock and the conversion price for the Series B is $7.00 per
share of common stock. The Series A and B preferred shares are senior in right
of payment, whether upon liquidation, dissolution, change of control or
otherwise, to any other class of equity securities of the Company.
On December 31, 2001, the Company issued one share of Series B Preferred Stock
to each current member of the Board of Directors. The issuance of the Series B
Preferred Stock was intended to create a mechanism whereby the Company's
shareholders are assured a fair process for electing members to the Company's
Board, including an opportunity to review accurate and fair proxy solicitations.
The terms of the Series B Preferred Stock allow the holders, voting as one
class, to elect 4 directors at each annual or special meeting at which directors
are elected, or pursuant to any election of directors by written consent of the
shareholders. A Series B director may be removed by a majority of the then
serving directors with or without cause. The Series B Preferred Stock rights may
be amended or repealed by any of the following: a vote of at least 70% of the
Company's shareholders voting at a meeting with a record date on or prior to
February 15, 2002, a vote of at least 60% of the Company's shareholders voting
at a meeting with a record date after February 15, 2002, approval of at least
80% of shareholders of the Company acting by written consent, or unanimous
approval (by vote or written consent) of the Series B Preferred shareholders
voting as one class. The voting rights of the Series B Preferred Stock terminate
automatically on June 30, 2003. On January 15, 2002 the Series B Preferred
shares outstanding were converted to common stock, see discussion in Note 7,
subsequent events.
18
Common Stock Issuances and Other Transactions
During the year ended June 30, 2000, the Company issued 28,027,500 and 600,000
shares of common stock to acquire DataBank and CaribCommerce, respectively.
During the year ended June 30, 2001, the Company issued 1,000,000 shares to
Transaction Systems Architect, Inc. in connection with the exercise of warrants.
Also, 8,637,622 shares were returned to the Company in connection with the
settlement of the investigation into the DataBank acquisition as described in
Note 4.
On October 16, 2001 the Company issued 3,500,000 shares to a shareholder in
settlement claims of regarding the Company's alleged failure to register
restricted shares of the Company's common stock, as well as certain other
alleged breaches of his contract rights as described in Note 4. Additionally, as
part of the settlement, the shareholder was allowed to keep 70,000 shares
previously promised to be returned to the Company.
Stock Purchase Agreements with the Brown Simpson Strategic Growth Funds
On November 24, 1998, the Company raised $1,800,000 by selling its common stock
and warrants to purchase common stock to The Brown Simpson Strategic Growth
Funds (the "Purchasers") pursuant to a Securities Purchase Agreement between the
Company and the Purchasers (the "Purchase Agreement"). On December 2, 1998, the
Company sold an additional $1,800,000 of common stock to the Purchasers and
amended the Purchase Agreement and related documents (the "Amended Agreements").
Pursuant to the Purchase Agreement and Amended Agreements, the Purchasers
acquired 800,000 shares of the Company's common stock and five-year warrants to
purchase 800,000 additional shares ("Tranche A"). The exercise price for 400,000
of the warrants is $5.53 per share and the exercise price of the remaining
400,000 warrants is $9.49 per share. The exercise price of the warrants is
subject by the Company if for 15 consecutive trading days, the closing bid price
of the Company's stock is at least two times the then-current exercise price.
Because the shares acquired by the purchasers were priced at a 10% discount from
the quoted market price no value has been allocated to the warrants.
The Amended Agreements also required the Company to sell to the Purchasers, and
the Purchasers to purchase from the Company, an additional tranche of 800,000
units, each unit consisting of one share of the Company's common stock and a
warrant to purchase one share of common stock (the "Tranche B Units"), if
certain conditions are met. A condition to the sale of the Tranche B Units,
among others, is that the closing bid price of the Company's common stock be
more than $7 per share for 15 consecutive trading days. The price for the
Tranche B Units is $7 per Unit and the exercise price of the warrants contained
in the Tranche B Unit will be equal to 110% of the closing bid price of the
Company's stock on the day of the sale of the Tranche B Units. The commitment to
purchase the Tranche B Units was subsequently terminated (see discussion below).
On March 3, 1999, the Company raised an additional $3,600,000 through the sale
of Series A Convertible Preferred Stock (the "Preferred Stock") and warrants to
purchase common stock to the Purchasers pursuant to a Securities Purchase
Agreement between the Company and the Purchasers (the "March Purchase
Agreement").
Pursuant to the March Purchase Agreement, the Purchasers acquired 360 shares of
Series A Preferred Stock convertible into 800,000 shares of common stock and
five-year warrants to purchase an additional 800,000 shares of common stock. The
19
Preferred Stock is convertible into common stock at a price of $4.50 per share
of common stock. The initial exercise price for the warrants is $5.23 per share,
subject to adjustment on the six month anniversary of the closing, to the lesser
of the initial exercise price and the average price of the Company's common
stock during any five consecutive business days during the 22 business days
ending on such anniversary of the closing. The warrants are callable by the
Company if for 30 consecutive trading days, the closing bid price of the
Company's common stock is at least two times the then-current exercise price.
The quoted market price of the Company's common stock on March 3, 1999 was $4.75
per share, which is greater than the $4.50 per share conversion price. The
intrinsic value of the beneficial conversion feature of $200,000 was reflected
in the accompanying consolidated financial statements as a preferred stock
dividend.
The March Purchase Agreement also requires the Company to sell to the
Purchasers, and the Purchasers to purchase from the Company, an additional
tranche of 1,600,000 units, each unit consisting of Series B Convertible
Preferred Stock convertible into one share of the Company's common stock and a
five-year warrant to purchase one share of common stock (the "Tranche D Units"),
if certain conditions are met. A condition to the sale of the Tranche D Units,
among others, is that the closing bid price of the Company's common stock be
more than $7 per share for 130 consecutive trading days. The price for the
Tranche D Units is $7 per Unit and the exercise price of the warrants contained
in the Tranche D Unit will be $7.70. The March Purchase Agreement terminates the
commitment for Tranche B Units previously disclosed.
Subsequent to the end of the period, the Company reached a settlement with Brown
Simpson. See Note 7 - Subsequent Events.
Issuance of Common Stock to Transaction Systems Architects, Inc.
On June 14, 1999, TSAI purchased 1,250,000 shares of the Company common stock
and five- year warrants to purchase an additional 1,000,000 shares of the
Company's common stock in exchange for $6,500,000. The exercise price of the
warrants is the lower of $5.20 per share or the average per share market value
for the five consecutive trading days with the lowest per share market value
during the 22 trading days prior to December 14, 1999. On July 7, 2000 TSAI
exercised their warrants and purchased 1,000,000 shares of the Company's common
stock for $5.20 per share.
In May 2001, the various agreements with ACI were amended. The distribution
agreement was modified such that an exclusivity clause granted ACI was
cancelled, the rate at which the Company earns fees was reduced to 10% of the
amounts received by ACI and the remaining future payments of $4,800,000 were
cancelled. Additionally, a consulting agreement requiring payment of $2,000,000
to ACI was cancelled, a service agreement with various guaranteed payments due
ACI was cancelled and other amounts due ACI were consolidated into a Note for
$667,406. The Note is payable in monthly installments over twelve months from
April 1, 2001 and earns interest at Prime. No payments have been made since June
2001.
NOTE 6 - STOCK-BASED COMPENSATION
The Company has elected to continue to apply Accounting Principles Board Opinion
No. 25 and related interpretations in accounting for its stock-based
compensation plans as they relate to employees and directors. Historically, the
20
Company's stock options have been accounted for using fixed plan accounting. The
option grants permit various exercise alternatives, including certain cashless
exercise provisions. Through fiscal 1999, the Company's experience indicated
that substantially all cashless exercises could have been effected through the
use of mature shares and therefore fixed plan accounting was appropriate. Due to
the Company's recent acquisitions and growth, options have been granted to more
employees who do not hold mature shares of the Company's common stock and
therefore the Company has determined that these options should be accounted for
using variable plan accounting. Under variable plan accounting, changes, either
increases or decreases, in the market price of the Company's common stock
results in a change in the measurement of compensation. Compensation is measured
as the difference between the market price and the option exercise price and is
amortized to expense over the vesting period. During the year ended June 30,
2000, the Company recorded $649,300 of compensation expense related to these
variable awards. During the year ended June 30, 2001, as a result of a decrease
in the Company's stock price, the $649,300 recorded during the year ended June
30, 2000 was reversed.
In February 2001, the Company repriced approximately 1,069,000 employee options
from an exercise price of $2.91 to $0.49. These options were already accounted
for using variable plan accounting.
During fiscal 2001 the Company granted the then Chairman of the Board of
Directors 300,000 options with an exercise price of $4.50, which was the market
price of the stock on the date of the grant. Since this grant exceeded the
typical grant for other Board members, the Company has recorded compensation
expense determined using the Black Scholes Method. Accordingly a non-cash
expense in the amount of $895,776 was recorded during fiscal 2001.
On October 16, 2001, the Company's board of directors agreed to reprice all
outstanding stock options for current employees and directors at the closing
market price on that date of $0.096 cents per share. The total number of options
affected was 2,724,952.
NOTE 7 - SUBSEQUENT EVENTS - BROWN SIMPSON SETTLEMENT, CONVERSION OF SERIES B
PREFERRED
On January 22, 2002, the Company entered into an agreement with Brown Simpson
Partners I, Ltd. whereby, in exchange for 360 shares of Series D Preferred
Stock, Brown Simpson agreed to surrender all Series A Preferred Stock of the
Company, all warrants to purchase shares of capital stock of the Company, and
all registration, anti-dilution or participation rights Brown Simpson may have
with respect to the Company's capital stock previously issued to Brown Simpson.
In addition, Brown Simpson agreed to release the Company from any liability
arising from claims it has asserted against the Company in connection with the
acquisition of DataBank International Ltd. and the delisting of the Company's
stock by Nasdaq. Each share of Series D Preferred Stock issued to Brown Simpson
has a stated value of $10,000, and is presently convertible into 33,333 shares
of common stock of the Company, although Brown Simpson cannot exercise any
conversion right until May 31, 2002.
On January 15, 2002, the Company converted all outstanding shares of Series B
Preferred Stock, issued on December 31, 2001 to each current member of the Board
of Directors, to a total of 4 shares of common stock. The Company had authorized
21
the issuance of the Series B Preferred Stock as a short-term mechanism to
protect the shareholders against the Egide Group's Consent Statement (which the
Company believes is false), referred to under legal matters in Note 4, in the
event the Egide Group was permitted, over the Holidays, to commence soliciting
shareholders before the Company had an opportunity to respond. Since December
31, 2001, the Company has taken several actions to ensure a fair election
process. The Company has filed a letter to shareholders with the SEC and has
taken other steps to inform the shareholders of key facts, including the fact
that Egide was Chairman of the Board and CEO when certain acquisitions were
consummated for which the Company has had to report more than $188 million in
write downs and that Egide was Chairman and CEO when various merchants were
allowed to process with the Company without proper authorization, which has cost
the Company over $7 million in uncollectible chargebacks and fines.
NOTE 8 - NEW ACCOUNTING PRONOUNCEMENTS
In June 2001, the Financial Accounting Standards Board finalized FASB Statements
No. 141, Business Combinations (SFAS 141), and No. 142, Goodwill and Other
Intangible Assets (SFAS 142). SFAS 141 requires the use of the purchase method
of accounting and prohibits the use of the pooling-of-interests method of
accounting for business combinations initiated after June 30, 2001. SFAS 141
also requires that the Company recognize acquired intangible assets apart from
goodwill if the acquired intangible assets meet certain criteria. SFAS 141
applies to all business combinations initiated after June 30, 2001 and for
purchase business combinations completed on or after July 1, 2001. It also
requires, upon adoption of SFAS 142, that the Company reclassify the carrying
amounts of intangible assets and goodwill based on the criteria in SFAS 141.
SFAS 142 requires, among other things, that companies no longer amortize
goodwill, but instead test goodwill for impairment at least annually. In
addition, SFAS 142 requires that the Company identify reporting units for the
purposes of assessing potential future impairments of goodwill, reassess the
useful lives of other existing recognized intangible assets, and cease
amortization of intangible assets with an indefinite useful life. An intangible
asset with an indefinite useful life should be tested for impairment in
accordance with the guidance in SFAS 142. SFAS 142 is required to be applied in
fiscal years beginning after December 15, 2001 to all goodwill and other
intangible assets recognized at that date, regardless of when those assets were
initially recognized. SFAS 142 requires the Company to complete a transitional
goodwill impairment test six months from the date of adoption. The Company is
also required to reassess the useful lives of other intangible assets within the
first interim quarter after adoption of SFAS 142.
The Company's previous business combinations were accounted for using the
purchase method. As of December 31, 2001, the net carrying amount of goodwill is
$13,401,064 and other intangible assets is $5,057,289. Amortization expense
during the three and six months ended December 31, 2001 was $1,827,602 and
$3,655,204 respectively. Currently, the Company is assessing but has not yet
determined how the adoption of SFAS 141 and SFAS 142 will impact its financial
position and results of operations.
SFAS 143, Accounting for Asset Retirement Obligations, was issued in June 2001
and is effective for fiscal years beginning after June 15, 2002. SFAS 143
requires that any legal obligation related to the retirement of long-lived
assets be quantified and recorded as a liability with the associated asset
retirement cost capitalized on the balance sheet in the period it is incurred
when a reasonable estimate of the fair value of the liability can be made.
22
SFAS 144, Accounting for the Impairment or Disposal of Long-Lived Assets, was
issued in August 2001 and is effective for fiscal years beginning after
December 15, 2001. SFAS 144 provides a single, comprehensive accounting model
for impairment and disposal of long-lived assets and discontinued operations.
SFAS 143 and SFAS 144 will be adopted on their effective dates, Currently, the
Company is assessing but has not yet determined how the adoption will impact
its financial position and results of operations.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Overview
Digital Courier Technologies, Inc. (referred to herein as "DCTI" or the
"Company"; the Company is also referred to in the first person, using terms like
"we", "our" and "us") is a leading provider of advanced e-payment services for
businesses, merchants, and financial institutions. In fiscal 2001, our revenues
were primarily derived from processing payments for the internet gaming and
e-tailing industries. Over 90% of our revenues are earned from customers located
outside the U.S. The Company's services have introduced to the marketplace a
secure and cost-effective system for credit card processing and merchant account
management. By integrating services under one provider, DCTI can offer to
customers an outsource solution for merchant account set-up, an Internet Payment
Gateway, payment processing, fraud control technology, and Web-based reporting.
The Company, a Delaware corporation, was originally incorporated May 16, 1985.
DCTI and its predecessor have acquired and sold several companies during the
last four fiscal years. On January 8, 1997, the Company acquired the stock of
Sisna, Inc. ("Sisna"). During fiscal 1998, the Company acquired the stock of
DCTI, Books Now, Inc. ("Books Now") and the stock of WeatherLabs Technologies,
Inc. ("WeatherLabs"). During fiscal 1999, the Company acquired the stock of
Access Services, Inc. ("Access Services"), the stock of SB.com, Inc. ("SB.com")
and acquired the stock of Digital Courier International, Inc. ("DCII"). During
fiscal 2000, the Company acquired the stock of DataBank International, Ltd.
("DataBank"), the stock of CaribCommerce, Ltd. ("CaribCommerce") and the assets
of various entities referred to jointly as "MasterCoin". These acquisitions have
been accounted for as purchases with the results of operations of the acquired
entities being included in the accompanying consolidated financial statements
from the dates of the acquisitions. In fiscal 1998, the Company sold its direct
mail advertising operations to Focus Direct, Inc. ("Focus Direct") and sold the
stock of Sisna acquired in January 1997 back to Sisna's former major
shareholder. In fiscal 2000, the Company sold its WeatherLabs operations to
Landmark Communications, Inc.
DCTI, DCII, Access Services, SB.com, DataBank and CaribCommerce are collectively
referred to herein as the "Company". All significant intercompany accounts and
transactions have been eliminated in consolidation.
Results of Operations
Three months ended December 31, 2001 compared with three months ended December
31, 2000, and six months ended December 31, 2001 compared with six months ended
December 31, 2000
Revenue
Revenue for the three months ended December 31, 2001 was $4,668,676 as compared
to $9,137,924 for the three months ended December 31, 2000. During the three
months ended December 31, 2001, revenues were primarily derived from payment
24
processing activities, including $222,685 of revenues related to fees earned on
the processing of chargebacks. In addition, $162,000 of revenues were earned
under a software distribution agreement. During the three months ended December
31, 2000, payment processing revenues were $8,822,924 and revenues earned under
a software distribution agreement were $315,000. Additionally, during the three
months ended December 31, 2000, the Company recorded $643,410 of revenues
related to fees earned on the processing of chargebacks. The decrease in
revenues is primarily due to the loss of a significant merchant, which provided
18% of revenues during fiscal 2001, as well as, the decrease in the volume of
transaction from merchants utilizing the Company's processing services.
Revenue for the six months ended December 31, 2001 was $9,311,571 as compared to
$18,633,834 for the six months ended December 31, 2000. During the six months
ended December 31, 2001, revenues were primarily derived from payment processing
activities, including $700,578 of revenues related to fees earned on the
processing of chargebacks. In addition, $162,000 of revenues were earned under a
software distribution agreement. During the six months ended December 31, 2000,
payment processing revenues were $18,003,924 and revenues earned under a
software distribution agreement were $630,000. Additionally, during the six
months ended December 31, 2000, the Company recorded $1,353,030 of revenues
related to fees earned on the processing of chargebacks. The decrease in
revenues is primarily due to the loss of a significant merchant, which provided
18% of revenues during fiscal 2001, as well as, the decrease in the volume of
transaction from merchants utilizing the Company's processing services.
Cost of Revenue
Cost of revenue includes amounts paid to banks and processors. For the three
months ended December 31, 2001 cost of revenue was $2,958,635 or 63.4% of
revenue. Cost of revenue for the three months ended December 31, 2000 were
$6,198,506 or 67.8% of revenue. The decrease in cost of revenues as a percentage
of sales is primarily due to the decrease in lower margin, domestic processing
as a percentage of total revenues.
For the six months ended December 31, 2001 cost of revenue was $5,954,840 or
63.9% of revenue. Cost of revenue for the six months ended December 31, 2000
were $12,352,131 or 66.3% of revenue. The decrease in cost of revenues as a
percentage of sales is primarily due to the decrease in lower margin, domestic
processing as a percentage of total revenues.
Operating Expenses
Depreciation and amortization expense decreased 82.8% to $2,323,146 during the
three months ended December 31, 2001 from $13,489,448 during the three months
ended December 31, 2000. The decrease in depreciation and amortization expense
was due to the decrease in amortization of goodwill as a result of the
$156,123,113 of goodwill impairment write-down during fiscal 2001.
Depreciation and amortization expense decreased 82.6% to $4,686,781 during the
six months ended December 31, 2001 from $26,935,446 during the six months ended
December 31, 2000. The decrease in depreciation and amortization expense was due
to the decrease in amortization of goodwill as a result of the $156,123,113 of
goodwill impairment write-down during fiscal 2001.
25
Selling, general and administrative expense decreased 56.1% to $1,480,840 during
the three months ended December 31, 2001 from $3,373,014 during the three months
ended December 31, 2000. The decrease in selling, general and administrative
expense was due to the reductions in work force and closing of offices during
fiscal 2001.
Selling, general and administrative expense net of non-cash, stock based expense
decreased 48.7% to $3,089,465 during the six months ended December 31, 2001 from
$6,027,585 during the six months ended December 31, 2000. The decrease in
selling, general and administrative expense was due to the reductions in work
force and closing of offices during fiscal 2001.
Research and development decreased 76.7% to $119,491 during the three months
ended December 31, 2001 from $513,257 during the three months ended December 31,
2000. The decrease in research and development expense was due to the reductions
in work force and closing of offices during fiscal 2001.
Research and development expense net of non-cash, stock based expense decreased
73.6% to $252,882 during the six months ended December 31, 2001 from $958,205
during the six months ended December 31, 2000. The decrease in research and
development expense was due to the reductions in work force and closing of
offices during fiscal 2001.
The Company's variable option plan did not create any non-cash compensation
adjustments during the three or six month periods ended December 31, 2001 as all
outstanding options were priced in excess of the quoted stock price as of the
end of these periods. During the six months ended December 31, 2000 the non-cash
compensation adjustment associated with the Company's variable option plan
generated a credit of $649,300 as all outstanding options had exercise prices
greater than the quoted stock price on December 31, 2000.
Our income tax benefit is zero as we fully provide for our deferred tax assets
as realization of these benefits is not deemed to be more likely than not.
Liquidity and Capital Resources
In October 1997, the Company entered into a sale and three-year capital
leaseback agreement related to $3,000,000 of the Company's computer equipment.
The agreement provided that $250,000 of the proceeds be placed in escrow upon
signing the agreement. The Company sold its equipment at book value resulting in
no deferred gain or loss on the transaction. This capital lease obligation was
settled in full in July 2000.
On November 24, 1998, the Company raised $1.8 million by selling its common
stock and warrants to purchase common stock to The Brown Simpson Strategic
Growth Funds (the "Purchasers") pursuant to a Securities Purchase Agreement
between the Company and the Purchasers (the "Purchase Agreement"). On December
2, 1998, the Company sold an additional $1.8 million of common stock to the
26
Purchasers and amended the Purchase Agreement and related documents (the
"Amended Agreements").
Pursuant to the Purchase Agreement and Amended Agreements, the Purchasers
acquired 800,000 shares of the Company's common stock and five-year warrants to
purchase 800,000 additional shares ("Tranche A"). The exercise price for 400,000
of the warrants is $5.53 per share and the exercise price of the remaining
400,000 warrants is $9.49 per share. The warrants are callable by the Company if
for 130 consecutive trading days, the closing bid price of the Company's stock
is at least two times the then-current exercise price. Because the shares
acquired by the purchasers were priced at a 10% discount from the quoted market
price no value was allocated to the warrants.
On March 3, 1999, the Company raised an additional $3.6 million through the sale
of Series A Convertible Preferred Stock (the "Preferred Stock") and warrants to
purchase common stock to the Purchasers pursuant to a Securities Purchase
Agreement between the Company and the Purchasers (the "March Purchase
Agreement").
Pursuant to the March Purchase Agreement, the Purchasers acquired 360 shares of
Preferred Stock convertible into 800,000 shares of common stock and five-year
warrants to purchase an additional 800,000 shares of common stock. The Preferred
Stock is convertible into common stock at a price of $4.50 per share of common
stock. The exercise price for the warrants is $5.23 per share. The warrants are
callable by the Company if for 130 consecutive trading days, the closing bid
price of the Company's common stock is at least two times the then-current
exercise price.
The March Purchase Agreement also requires the Company to sell to the
Purchasers, and the Purchasers to purchase from the Company, an additional
tranche of 1,600,000 units, each unit consisting of Series B Convertible
Preferred Stock convertible into one share of the Company's common stock and a
five-year warrant to purchase one share of common stock (the "Tranche D Units"),
if certain conditions are met. A condition to the sale of the Tranche D Units,
among others, is that the closing bid price of the Company's common stock be
more than $7 per share for 130 consecutive trading days. The price for the
Tranche D Units is $7 per Unit and the exercise price of the warrants contained
in the Tranche D Unit will be $7.70.
On March 25, 1999, the Company entered into a 60 month software license
agreement with ACI Worldwide, Inc. ("ACI") for ACI's BASE24(R) software which is
being used to enhance the Company's Internet-based platforms that offer secure
payments processing for business-to-consumer electronic commerce. Pursuant to
the agreement, the Company agreed to pay ACI $5,941,218 during the life of the
contract. The Company made a payment upon signing the contract of $591,218 and
was scheduled to make equal payments at the beginning of each quarter totaling
$1,000,000 for calendar year 2000, $1,200,000 for calendar year 2001, $1,400,000
for calendar year 2002, $1,400,000 for calendar year 2003 and a final payment of
$350,000 on January 1, 2004.
On June 14, 1999, Transactions Systems Architects, Inc. ("TSAI"), the parent of
ACI, purchased 1,250,000 shares of the Company's common stock and warrants to
purchase an additional 1,000,000 shares of the Company's common stock in
exchange for $6,500,000. As part of the securities purchase agreement, the
Company agreed to immediately pay ACI the discounted future payments under the
original agreement, which amounted to $3,888,453. The amounts paid under the
agreement have been recorded as prepaid software license in the accompanying
27
condensed consolidated financial statements and are being expensed ratably over
the term of the agreement. In July, 2000, TSAI exercised all of its warrants for
a total exercise price of $5,200,000.
On March 31, 2000, the software license agreement was modified to grant the
Company a non-transferable and non-exclusive license to use ACI's Base24(R)
software in all international markets, as well as the United States, which was
granted in the original contract. In exchange for this agreement the Company
paid ACI $2,500,000 on April 15, 2000 and made a final payment of $2,500,000 on
September 30, 2000.
On June 3, 1999, the Company entered into a three-year agreement with ACI to
distribute the Company's e-commerce products. As consideration for this
agreement, ACI paid the Company a non-refundable deposit of $700,000. ACI will
pay the Company license fees of 40% of the fee paid ACI until the Company
receives $800,000, 35% of the fees paid ACI until; the Company receives
$1,500,000 and 30% of the fees paid ACI thereafter. On April 1, 2000 the
distribution agreement was amended extending the term to six years and providing
a guarantee to the Company of an additional $6,000,000 payable in installments
of $1,200,000 on September 1, 2000 through September 1, 2004.
In May 2001, the various agreements with ACI were amended. The distribution
agreement was modified such that an exclusivity clause granted ACI was
cancelled; the rate at which the Company earns fees was reduced to 10% of the
amounts received by ACI and the remaining future payments of $4,800,000 were
cancelled. Additionally, a consulting agreement requiring payment of $2,000,000
to ACI was cancelled, a service agreement with various guaranteed payments due
ACI was cancelled and other amounts due ACI were consolidated into a Note for
$667,406. The Note is payable in monthly installments over twelve months from
April 1, 2001 and earns interest at Prime. No payments have been made since June
2001. Additionally the extension of the agreement to six years was cancelled.
Accordingly the agreement terminates in June 2002. During the quarter ended
December 31, 2001 management determined that the remaining deferred revenue from
the Agreement should be recognized ratably over 9 months beginning October 2001.
As a result, $162,000 has been recognized during the quarter.
During the six months ended December 31, 2001, operating activities provided
cash of $227,289. The net loss of $5,035,793 was mostly offset by non-cash
depreciation and amortization expense of $4,686,781. Additionally, cash provided
by a decrease in restricted cash was offset by a decrease in merchant reserve
and merchant settlement liabilities. These decreases are consistent with the
decrease in revenues. Also, reducing the liability to payment processor offset
cash provided by the liquidation of our deposit with payment processor. Other
changes in current asset and liabilities accounts accounted for the remaining
net cash used in operating activities during the period.
During the six months ended December 31, 2000, operating activities used cash of
$10,469,930. The net loss of $166,031,788 was more than offset by non-cash
depreciation and amortization expense and impairment write-down of goodwill of
$168,935,446. The decrease in cash was due to an increase in restricted cash of
approximately $14.1 million along with decreases of accruals and accounts
28
payable. These uses of cash were partially offset by the conversion of a
receivable from payment processor to cash and increases to cash balances from
increased amounts payable to merchants and payment processors.
The Company used $11,792 of cash for investing activities during the six months
ended December 31, 2001 related to the purchase of computer equipment. During
the six months ended December 31, 2000 net cash used in investing activities was
$853,259 as the Company upgraded and built redundancy in its computer
facilities.
The Company used $772,891 of cash during for financing activities during the six
months ended December 31, 2001. The cash was used to make repayments of
principal amounts owed on borrowings and under capital lease agreements. The
Company generated $4,884,475 in cash from financing activities in the six months
ended December 31, 2000, as TSAI exercised its option to purchase 1,000,000
shares of the Company's common stock at $5.20 and the Company paid $315,525
under capital lease obligations.
During the three months ended December 31, 2001 the Company's operations were
basically break even after excluding non-cash expenses for amortization and
depreciation. During the six months ended December 31, 2001 the Company's
operations generated a loss from operations of $295,616 (unaudited), after
excluding non-cash expenses for amortization and depreciation. Since its
inception, our business has incurred significant losses, and as of December 31,
2001 had negative working capital of $4,218,172. As a result, there is
uncertainty about the Company's ability to continue as a going concern, which
was stated in our auditor's report on the Company's financial statement for the
2001 fiscal year. While management projects improved cash flows from operating
activities, there can be no assurance that management's projections will be
achieved. Management may also be required to pursue sources of additional
funding to meet marketing and expansion objectives. There can be no assurance
that additional funding will be available or, if available, that it will be
available on acceptable terms or in required amounts.
Forward-Looking Information
Statements regarding the Company's expectations as to future revenue from its
business strategy, and certain other statements presented herein, constitute
forward-looking information within the meaning of the Private Securities
Litigation Reform Act of 1995. Although the Company believes that its
expectations are based on reasonable assumptions within the bounds of its
knowledge of its business and operations, there can be no assurance that actual
results will not differ materially from expectations. In addition to matters
affecting the Company's industry generally, factors which could cause actual
results to differ from expectations include, but are not limited to risks
relating to the Company's continued ability to create or acquire products and
services that customers will find attractive and the potential for increased
competition which could affect pricing and profitability. Additional information
on factors that may affect the business and financial results of the Company can
29
be found in filings of the Company with the Securities and Exchange Commission,
including the Company's annual report on form 10K. The Company does not
undertake, and specifically disclaims any obligation, to update any forward
looking statements to reflect occurrences or unanticipated events or
circumstances after the date of such statements.
PART II
Item 1 LEGAL PROCEEDINGS
On October 16, 2001, the Company entered into a settlement with a shareholder
regarding the Company's alleged failure to register restricted shares of the
Company's common stock, as well as certain other alleged breaches of his
contract rights. The shareholder received the shares in the course of the
Company's acquisition of DataBank in October, 1999. The shareholder had claimed
that the Company was obligated to periodically register a portion of those
restricted shares with the SEC following the DataBank transaction and
subsequently failed to do so. In July 2001, the shareholder filed a lawsuit
against the Company in federal court in Salt Lake City, Utah. The shareholder's
complaint sought damages of $10,500,000. The Company negotiated a settlement
with the shareholder whereby the shareholder was issued 3,500,000 shares of the
Company's restricted common stock. As part of the settlement, the shareholder
granted the Company's current Chairman an irrevocable proxy to vote these shares
for a period of up to three years. In addition, the shareholder received a
promissory note from the Company for $800,000 to be paid in quarterly
installments, beginning with the quarter ending December 31, 2001.The Company's
quarterly payments will be based upon a percentage of the Company's earnings
before taxes, depreciation, and amortization, if any, during each quarter, but
the note will have a final maturity date in October 2004. Interest of 15% per
annum will not begin accruing on the note until 2003. To assure payment under
the note, the Company also executed a confession of judgment, which may not be
entered absent a default, in an amount substantially in excess of the principal
amount of the note. Finally, as part of the settlement, the Company and the
shareholder agreed to modify a prior severance agreement between them. The
shareholder has fully released the Company from all claims stated in the
complaint. The total amount of the settlement of $1,447,500 was recorded at June
30, 2001 as an expense and an accrued liability on the balance sheet. The value
of the shares issued was recorded at the price of the Company's common stock on
October 16, 2001. Additionally, as part of the settlement, the shareholder was
allowed to keep 70,000 shares previously promised to be returned to the Company.
In November 2000 a plaintiff filed suit against the Company and a former
President and director of the Company alleging that the plaintiff is the
assignee of several persons and entities, which owned interests in DataBank
which the Company acquired in October 1999. The plaintiff alleges that its
assignors were not paid their alleged share of the purchase price by the former
President and director and is suing, therefore, for breach of contract. The
plaintiff has recently added as a defendant a former Chief Executive Officer and
Chairman of the Company. The Company has filed several motions to dismiss the
complaint, certain of which the court has granted, including one without leave
to amend. The Company anticipates moving to dismiss the recent amendment to the
complaint and anticipates that motion will be heard by the court in April 2002.
While the Company intends to vigorously defend this action, no assurance can be
given as to the ultimate outcome or resolution of this action.
30
In January 2002, the Company filed a lawsuit in Federal Court in San Francisco
in response to the "Consent Statement" which was earlier filed by a group of
shareholders led by Mr. James Egide (the Egide group), the Company's onetime
Chairman and CEO. The Company is asking the Court to rule that the Egide group's
Consent Statement is false and misleading and that it violates the SEC Act of
1934. The Company is requesting injunctive relief such that shareholders are not
allowed to vote until the Egide group files a truthful Proxy. The Company
believes that the Consent Statement filed by the Egide group contains numerous
false and misleading statements, that it omits important information the
shareholders should know about and that Mr. Egide and certain members of his
group were officers, employees and Board Members during the time that gave rise
to the losses which the Company has endured as it has written down the value of
various acquisitions and expensed the costs of uncollectible chargebacks and
credit card association fines.
Item 2 CHANGES IN SECURITIES AND USE OF PROCEEDS
On January 15, 2002, the Company converted all outstanding shares of Series B
Preferred Stock, issued on December 31, 2001 to each current member of the Board
of Directors, to a total of 4 shares of common stock. The Company had authorized
the issuance of the Series B Preferred Stock as a short-term mechanism to
protect the shareholders against the Egide Group's Consent Statement (which the
Company believes is false), referred to under legal matters in Note 4, in the
event the Egide Group was permitted, over the Holidays, to commence soliciting
shareholders before the Company had an opportunity to respond. Since December
31, 2001, the Company has taken several actions to ensure a fair election
process. The Company has filed a letter to shareholders with the SEC and has
taken other steps to inform the shareholders of key facts, including the fact
that Egide was Chairman of the Board and CEO when certain acquisitions were
consummated for which the Company has had to report more than $188 million in
write downs and that Egide was Chairman and CEO when various merchants were
allowed to process with the Company without proper authorization, which has cost
the Company over $7 million in uncollectible chargebacks and fines.
Item 3 DEFAULTS UPON SENIOR SECURITIES
None
Item 4 SUBMISSION OF MATTER TO A VOTE OF SECURITY HOLDERS
None
31
Item 5 OTHER INFORMATION
None
Item 6 EXHIBITS AND REPORTS ON FORM 8-K
None
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.
DIGITAL COURIER TECHNOLOGIES, INC.
Date: February 14, 2002 By /s/ John J. Hanlon
-------------------------------------
John J. Hanlon
President and Chief Financial Officer
32