U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB/A
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(X) Quarterly Report under Section 13 or 15(d) of the Securities Exchange Act
of 1934
For the quarterly period ended June 30, 2000
( ) Transition report under Section 13 or 15(d) of the Securities Exchange Act
of 1934
For the transition period from _______ to _______
Commission file number 001-12637
VIRTUAL COMMUNITIES, INC.
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(Exact name of small business issuer in its charter)
DELAWARE 11-3383125
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(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
589 EIGHTH AVENUE 7th FLOOR, NEW YORK, NEW YORK 10018
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(Address of Principal Executive Offices) (Zip Code)
(212) 931-8600
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(Issuer's Telephone Number, Including Area Code)
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(Former name or former address, if changed since last report)
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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
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State the number of shares outstanding of each of the issuer's common equity as
of June 30, 2000: 16,985,443 shares of Common Stock, $.01 par value.
Explanatory Note
Registrant's 10-QSB is hereby amended and restated from the 10-QSB filed with
the Commission on August 15, 2000, which was not filed in its entirety due to an
error made by the Registrant's EDGAR filing agent. Specifically, this Amendment
sets forth the terms of the redemption prices with respect to warrants issued in
connection with the Company's private placement in April 2000, when the Company
sold 517,800 of its shares at $5.80 per share to four institutional investors in
a private placement arranged by Josephthal & Company and Intercostal Financial
Services Corp. ("Intercoastal") for an aggregate gross proceeds of approximately
$3,000,000 (the "IFSC Financing"). In connection with the private placement, the
Company issued a) 500,000 four-month warrants to the purchasers of the shares
exercisable at $14.875 per share, b) 129,450 three-year warrants to such
purchasers exercisable at $7.4375 per share which are redeemable at the price of
$0.75 per share decreasing to $0.50 in July 2000 and thereafter by $0.05 per
month until such redemption price reaches $0.25 per share, c) 36,246 warrants
exercisable for three years at $5.80 per share to Joesphthal & Company, d) and
2,000,000 callable warrants which were cancelled in July 2000.
INDEX
Part I. FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited).............................. 1
Condensed Balance Sheets - June 30, 2000...................... F-2
Condensed Statements of Operations - Six Months ended June 30,
2000 and 1999................................................. F-3
Condensed Statements of Cash Flows - Six Months ended June 30,
2000 and 1999................................................. F-5
Notes to Financial Statements................................. F-6-11
Item 2. Management's Discussion and Analysis
Of Financial Condition and Results of Operations.............. 1
Part II. OTHER INFORMATION
Item 2. Changes in Securities and Use of Proceeds..................... 6
Item 4. Submission of Matters to a Vote of Security Holders........... 6
Item 5. Other Information............................................. 7
Item 6. Exhibits and Reports.......................................... 7
SIGNATURES............................................................... 8
Part 1. FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
The following description of our financial condition and results of operations
should be read in conjunction with the financial information included in this
Form 10Q Quarterly Report. The description contains forward-looking statements
that involve risks and uncertainties. Our actual results could differ
significantly from the results discussed in the forward-looking statements.
Overview
Virtual Communities, Inc. (the "Company") is a developer and publisher of
online business-to-business and business-to-consumer communities. The Company
also licenses Cortext Web development and site management software. Through its
proprietary Community Management Solution (CMS), the Company designs and
develops web-based communities containing a comprehensive suite of products and
services that including the Cortext software, integrated e-commerce solutions
and best-of-breed interactive community features. CMS provides a one-stop
solution for creating an online community that contains all the web tools
required for managing content, conducting e-commerce and attracting and
retaining online visitors.
The Company, a Delaware corporation formerly known as Heuristic Development
Group, Inc. ("HDG"), consummated a merger (the "Merger") with Virtual
Communities, Inc. ("VCI"), also a Delaware corporation, in October 1999. Prior
to the Merger, HDG was a development stage company organized to develop, design
and market fitness-related products. In 1999, HDG decided to pursue a strategy
of acquisition of an existing company culminating in the merger with VCI. VCI
was organized in 1996 to develop and operate online communities on the Web
targeted to specific ethnic groups. After the Merger, we changed our name to
Virtual Communities, Inc., to reflect that our Company's business is now the
development and operation of online communities and related services for third
parties, the publishing of our own online communities and the licensing of
Cortext software. In March 2000, we merged this wholly owned subsidiary into the
parent company.
Based upon its experience in designing and developing online communities, in
Q3 1999 the Company began offering its Community Management Solution ("CMS") Web
site design and development services to third parties on a fee for services
basis. The Company has sold four CMS Systems to date, the most recent one in
April 2000, pursuant to design and development agreements and maintenance
agreements that commence upon the completion of CMS development.
VCI also publishes proprietary online communities: virtualjerusalem.com,
virtualholyland.com, virtualireland.com, www.virtualitaly.com and
virtualindia.com which were developed by the Company between 1996 and 1999 and
are designed to create a comprehensive Web environment targeted to specific
demographic profiles. In July 2000, the Company implemented a restructuring of
its business activities to focus primarily on developing and marketing software
for Web development and site management. In line with this new strategy, the
Company announced its intention to sell these communities. The Company is
currently seeking to enter into a transaction(s) that would transfer partial or
complete ownership of these communities. It has also restructured its Internet
technologies division to focus on further development of Cortext software. As a
result of this restructuring, the Company reduced its editorial staff located in
its New York and Jerusalem offices by 50%.
As part of the restructuring, the Company terminated most of its marketing
agreements related to the online communities and also eliminated several
technical, marketing and administrative staff positions that supported the
online communities and CMS operations in New York. It has also shifted certain
technical and administrative functions from its New York offices to VCIL, its
Israeli subsidiary, to achieve efficiencies. Following the restructuring, the
Company employs 105 persons worldwide compared to approximately 155 employees
prior to the restructuring.
In connection with the restructuring of its operations the Company
established a VCIX 2000 Corporate Reorganization Severance Plan (the "Plan"),
effective as of July 24, 2000. The Plan was established to offer eligible
employees of the Company who suffer an involuntary termination of employment as
a result of the restructuring, the option to elect to receive severance pay and
additional benefits. The Plan is intended to constitute an "employee welfare
benefit plan" under Section 3(1) of the Employee Retirement Income Security Act
of 1974, as amended.
1
In connection with the restructuring, the Company also enacted a Retention
Plan to retain members of the editorial staff of the communities for the purpose
of ensuring that the communities continue to be operated in an effective manner
until such time as the Company sells them or until such time as operations are
terminated.
We believe that continued enhancement of the Cortext Web development and site
management software and commencement of marketing efforts for Cortext software
are essential to achieving our financial goals. While we have significantly
reduced expenditures in operations such as online communities and CMS, we
anticipate increases in cost of Cortext related revenues, marketing and
administrative expenses as we focus on the continued development of the Cortext
software and commence marketing activities for the same. To the extent that such
expenses significantly precede or are not subsequently followed by revenues from
sales of the Cortext software, our business, financial condition and operating
results will be materially adversely affected.
Historical Results of Operations
Historical Comparison of Six Months Ended June 30, 2000 and 1999
Revenues
Total revenues for the six months ended June 30, 2000 were $627,000.
Revenues during the first half of 1999 were generated exclusively from our
Online Communities and are reflected in Discontinued Operations. CMS Services
revenues commenced in the third quarter of 1999. For the six months ended June
30, 2000, all revenues were generated from CMS Services. To date, VCI has
entered into four CMS agreements.
CMS Services are considered, for accounting purposes, software products and
technology, and therefore, revenue from the sale of CMS Services is recognized
in accordance with Statement of Position (SOP) 97-2, as amended by SOP 98-4 and
SOP 98-9. Therefore, revenue is recognized upon delivery, when collection is
probable, the fee is fixed and determinable, vendor-specific objective evidence
exists to allocate the total fee to the elements of the arrangement and
persuasive evidence of an arrangement exists. Revenue for maintenance and
support services are deferred and recognized ratably over the service period.
Cost of Revenues
Cost of revenues consists primarily of salaries of the CMS and Cortext
support teams and licensing fees for software licensed by the Company for use in
the CMS system. Costs of Revenues for the six months ended June 30, 2000 were
$1,316,000. No comparable Cost of Revenues were incurred during the six months
ended June 30, 1999 since we entered the CMS and Cortext business in the third
quarter of 1999.
Research and Development
During the six months ended June 30, 2000, the Company recorded $665,000 in
research and development expenses in conjunction with the Company's development
of compatible software for the Cortext Web development and site management
software licensed to the Company and used by it as the central component of its
CMS system and in licensing third parties for use of the Cortext software. No
2
Research and Development expenses were incurred during the six months ended June
30, 1999.
Selling and Marketing
Selling and marketing expenses consist of salaries, travel expenses for sales
and marketing staff and marketing expenses incurred in promoting CMS Services
and Cortext. Selling and Marketing expenses incurred during the six months
ended June 30, 2000 amounted to $727,000. No Selling and Marketing expenses were
incurred during the six months ended June 30, 1999 since CMS and Cortext sales
activities were not initiated until the third quarter of 1999.
General and Administrative
General and administrative expenses consist primarily of salaries and legal
and professional services. In addition, our rent, utilities and administrative
employee benefits are included in general and administrative expenses. General
and administrative expenses amounted to $1,800,000 and $891,000 for the six
months ended June 30, 2000 and 1999, respectively. This increase was primarily
due to increased hiring of personnel; expansion of office space; and, increased
use of support services related to the expansion of CMS operations and Cortext
development. In addition, legal fees increased significantly for work related to
special projects, new contract formation and the acquisition of the Cortext
subsidiary in February 2000.
Discontinued Operations
We recently announced our intention to sell the Online Communities. Thus,
second quarter 2000 financial results reflect the Online Communities as
Discontinued Operations. The financial results of all prior periods have been
restated accordingly. Losses from Discontinued Operations were $2,721,000 and
$649,000 for the six months ended June 30, 2000 and 1999, respectively. The
reported losses include revenues of $363,000 and $345,000 for the six months
ended June 30, 2000 and 1999, respectively. The overall increase in reported
losses reflects a significant expansion in the scope of the Online Communities.
Increased personnel costs were incurred as the sites added functionality and
features. Marketing expenses also expanded significantly during the first half
of 2000 compared to the first half of 1999, resulting in a significant increase
in registered users and traffic on the Online Communities sites. The loss from
Discontinued Operations for the six months ended June 30, 2000 also reflects the
severance and retention costs associated with the restructuring.
Liquidity and Capital Resources
Prior to 1999, we funded our operations, working capital needs and capital
expenditures primarily through private placements of our common stock, and the
issuance of short-term convertible loans and notes.
In February 1999, we received $815,000 in net proceeds from the sale of 9,550
shares of our series A preferred stock. At the same time we issued 5,000 shares
of our series A preferred stock upon the conversion of a $500,000 convertible
secured promissory note issued by us on December 31, 1998. Between June and
September 1999, we received net proceeds of $874,000 from the sale of 10,325
shares of our series B preferred stock.
On December 14, 1999, we received a total of $985,400 for the private
placement sale to accredited investors of 400,000 shares of restricted common
3
stock and a three-year warrant, exercisable for 40,000 shares of common stock at
a purchase price of $2.46 per share. We made the private placement offering
under Section 4(2) of the Securities Act of 1933, as amended (the "Securities
Act"). The terms of the offering provided for issuance of the restricted common
stock at a purchase price equal to 35% below the market valuation of our
publicly traded common stock and the issuance of a warrant exercisable for the
purchase of one share of common stock for each ten shares purchased. The
warrants become exercisable six months after the date of issuance.
During the first quarter of 2000, the Company issued 981,864 shares of
common stock at prices per share ranging from $2.11 to $3.42 to 12 individuals
and entities, including three existing non-U.S. shareholders of the Company, for
aggregate gross proceeds of $2,524,000. In connection with the issuance of
468,098 of such shares to three existing shareholders of the Company, the
Company issued three-year warrants to acquire a total of 46,808 shares of common
stock at exercise prices ranging from $2.11 to $2.75. The Company paid
consultant and finders fees related to this financing in the form of three-year
warrants exercisable into 108,762 shares of common stock at exercise prices
ranging between $2.11 and $3.42 per share.
In April 2000, the Company sold 517,800 of its shares at $5.80 per share to
four institutional investors in a private placement arranged by Josephthal &
Company and Intercoastal Financial Services Corp. ("Intercoastal") for an
aggregate gross proceeds of approximately $3,000,000 (the "IFSC Financing"). In
connection with the private placement, the Company issued a) 500,000 four-month
warrants to the purchasers of the shares exercisable at $14.875 per share, b)
129,450 three-year warrants to such purchasers exercisable at $7.4375 per share
which are redeemable at the price of $0.75 per share decreasing to $0.50 in July
2000 and thereafter by $0.05 per month until such redemption price reaches $0.25
per share, c) 36,246 warrants exercisable for three years at $5.80 per share to
Josephthal & Company d) and 2,000,000 callable warrants which were cancelled in
July 2000.
In June 2000, the Company borrowed $1,000,000 from an institutional
investor in the IFSC financing. The loan and interest thereon is due on July
27, 2000 or will be convertible, at the holder's option, into securities of the
Company pursuant to a proposed private placement financing. The loan was
converted into 1,010 shares of Series C Preferred Stock of the Company in July
2000 as part of such financing.
In July 2000, the Company entered into a $5,500,000 follow-on financing
agreement with several institutional investors in the IFSC Financing. Pursuant
to the financing agreement, the Company will sell up to 5,500 shares of Series C
preferred stock in several tranches through August 31, 2000. The first tranche,
consisting of the conversion of the $1,000,000 loan made in June 2000 by one of
the IFSC Financing investors, and $500,000 in cash from a second investor,
closed on July 28, 2000. A second tranche of $500,000 from a third investor
closed on August 8, 2000. The preferred stock is convertible for a period of
three years into shares of common stock at conversion prices as defined in the
agreement. The Company also issued to the IFSC investors three-year warrants
exercisable into common stock at $2.25 per share.
The Company entered into a Registration Rights agreement with the investors
and investment bankers pursuant to which it must file, within 30 days of the
closing date, and get effective, within 90 days, a registration statement with
the Securities and Exchange Commission registering the securities issued in
connection with the preferred stock financing. The investors can force the
Company to redeem the preferred stock at 130% of the purchase price in the event
4
the common stock convertible from the preferred stock is not registered within
90 days.
The Company maintains an operating line of credit with Israel General Bank in
the amount of $560,000. As of June 30, 2000, the amount outstanding on this line
of credit totaled $549,000. Israel General Bank has also provided us with a
$58,000 guarantee for three months rent on the leaseholds occupied by Virtual
Communities Israel, Ltd.
In July 1999, we entered into a five-year lease for approximately 5,000
square feet of office space in New York City for a rental fee of approximately
$22,500 per quarter. In October 1999, we exercised our option to lease an
additional 5,000 square feet of office space in the same building for a five-
year term at a monthly rental of approximately $8,250. In June 1999, Virtual
Communities Israel, Ltd., ("VCIL"), one of our Israeli subsidiaries, entered
into a three-year lease for approximately 10,000 square feet of office space in
Jerusalem for approximately $45,000 in quarterly leasehold costs which payments
commenced in December 1999. In January and March 2000, VCIL exercised options
for additional space that serves primarily as the Company's software
development, programming and communities design center. Total leasehold costs
for the new space are approximately $165,000 per year. In addition, the lessor
of the new Jerusalem premises is contributing $234,000 in build out costs that
VCIL is obligated to repay over the course of the lease term. In January 1999,
VCIL entered into a three-year lease for approximately 3,800 square feet of
office space in Jerusalem which it vacated upon our move to new premises in
August 1999 and which it intends to sublet upon vacancy of the current sub-
lessor in July 2000. Although VCIL believes that it will be able to continue to
sublet such space, our management cannot assure you that it will be successful
in doing so, and in the event such space cannot be sublet, we would be obligated
to pay approximately $15,000 in quarterly leasehold fees in addition to the
lease costs for our new premises until December 2001.
Given our recently announced change in strategic direction to focus on the
licensing of Cortext technology, we anticipate that future capital expenditure
levels will be significantly less than previous expenditure levels.
In March 2000, the Company entered into a finance lease agreement with
Microtech Leasing Corp., a Princeton, New Jersey company for the lease of up to
$250,000 of computer equipment to the Company. The credit facility provides the
Company with the ability to obtain certain computer equipment financed by the
lease that is secured by such equipment.
In June 2000, the Company entered into a finance lease agreement with
Syscap Computer Rentals PLC, a U.K. entity, to obtain certain equipment required
by the Company in the U.K. The Company entered into a 24 month lease for
approximately $420,000 worth of computer and Internet equipment pursuant to the
agreement with Syscap and can acquire such equipment in consideration for an
additional monthly payment. The lease is secured by the equipment.
We anticipate that our existing cash balance combined with the net proceeds
that will be realized from the sale of additional shares of Preferred Stock
pursuant to our current private placement offering, anticipated revenue from
operations and proceeds from the sale of the Online Communities will be
sufficient to meet our working capital and capital expenditure needs through
December 31, 2000. If the cash that we generate from our operations and from the
sale of the Online Communities is insufficient to satisfy our liquidity
requirements after this period, then we may need to sell additional securities.
5
The sale of additional equity or convertible debt securities may result in
additional dilution to our shareholders. We may not be able to raise any
additional capital or obtain such capital on acceptable terms.
Legal Proceedings
On April 14, 2000, a Complaint was filed against VCI in the Supreme Court of
the State of New York, County of New York, by six investors in VCI who acquired
Series B Preferred Stock of VCI pursuant to a private placement of VCI's
securities in August 1999 prior to its merger with, and into a wholly-owned
subsidiary of Heuristic Development Group, Inc. on October 29, 1999 (the
"Merger"). The plaintiffs claim that they are entitled to additional shares of
VCI Common Stock as a result of a provision in the Private Placement Memorandum,
pursuant to which they acquired their securities in VCI, providing for a reset
of the conversion price of the plaintiffs' Series B Preferred Shares into Common
Stock of VCI. In the event the Plaintiffs are successful in this action they
would be entitled to approximately 52,320 shares of Common Stock and Series B
Preferred Shareholders as a group would be entitled to approximately 175,000
additional shares of Common Stock of the Company. The Company believes that the
complaint is without merit and intends to vigorously defend such action.
In July 2000, a complaint was filed in the Los Angeles Superior Court
against the Company and a placement agency retained by the Company by a former
employee of the Company claiming wrongful termination of employment and
reinstatement of his position with the Company as well as compensatory and
punitive damages. The Company believes that the complaint is without merit and
intends to vigorously defend such action.
Part II. OTHER INFORMATION
Item 2. Changes in Securities and Use of Proceeds
In April 2000, the Company sold 517,800 of its shares at $5.80 per share to
four institutional investors in a private placement arranged by Josephthal &
Company and Intercoastal Financial Services Corp. ("Intercoastal") for an
aggregate gross proceeds of approximately $3,000,000 (the "IFSC Financing"). In
connection with the private placement, the Company issued a) 500,000 four-month
warrants to the purchasers of the shares exercisable at $14.875 per share, b)
129,450 three-year warrants to such purchasers exercisable at $7.4375 per share
which are redeemable at the price of $0.75 per share decreasing to $0.50 in July
2000 and thereafter by $0.05 per month until such redemption price reaches $0.25
per share, c) 36,246 warrants exercisable for three years at $5.80 per share to
Josephthal & Company d) and 2,000,000 callable warrants which were cancelled in
July 2000.
In June 2000, the Company borrowed $1,000,000 from an institutional
investor in the IFSC financing. The loan and interest thereon is due on July
27, 2000 or will be convertible, at the holder's option, into securities of the
Company pursuant to a proposed private placement financing. The loan was
converted into 1,010 shares of Series C Preferred Stock of the Company in July
2000 as part of such financing.
Item 4. Submission of Matters to a Vote of Security Holders
a) The Company held its Annual Meeting of Stockholders at 10:30 AM on June
6, 2000 at the Company's New York City offices. Shares of Common Stock present
in person or proxy were 12,369,857 out of a total of 16,500,214 issued and
outstanding shares as of the record date of the Meeting, May 4, 2000.
6
b) At the meeting, the following individuals we re-elected to serve as
directors of the Company for the year 2000: Avi Moskowitz, Robert J. Levenson,
Fred S. Lafer, Allan Dalfen, Peter A. Jacobs, David Morris and Jonathan Seybold.
The vote for each such director was 12,354,157 in favor and 15,700 against. Mr.
Seybold subsequently resigned from the Board of Directors for personal reasons
and has not been replaced as of the date of this Report.
c) Additional matters voted at the meeting included (i) the ratification of
the appointment of Arthur Andersen LLC as auditors of the Company and (ii) the
ratification and approval of amendments to the 1999 Incentive Stock Plan of the
Company. The stockholders ratified the Director's adoption of amendments to the
Company's Post-Merger Incentive Stock Plan to increase the number of reserved
shares of Common Stock for issuance under the Plan by another 1,000,000 shares
from 1,000,000 to 2,000,000 and to increase the amount of securities issuable
under the Post-Merger Plan each year so that the maximum annual replenishment in
2001 and thereafter shall increase to 5% of outstanding shares in lieu of 2%
limitation originally set forth in the Plan.
The vote for ratification of Arthur Andersen was 7,056,649 in favor,
247,320 against and 9,100 abstentions.
The vote for ratification of amendments to the Incentive Stock Plan was
12,364,632 in favor, 3,223 against with no abstentions.
Item 5. Other Information
In July 2000, Safety Director.com, Inc., a CMS client of the Company
("SD"), accepted certain deliverables delivered by the Company in June 2000
pursuant to a Site Design & Development Agreement dated April 13, 2000 and a
subsequent Site Specification. It made a payment to the Company for such
deliverables as specified in the Development Agreement. At the same time, the
Company and SD entered into a Termination Agreement whereby they agreed to
terminate the Development Agreement in consideration for additional future
payments to the Company subject to the Company forgoing certain options
exercisable into equity of SD as originally contemplated by the Development
Agreement, and further provided, that the Company comply with the terms of a
Maintenance Agreement entered into by the parties in April 2000 for which SD
shall pay a monthly fee for as long as SD requests VCI to provide certain
hosting and maintenance services.
Item 6. Exhibits and Reports on Form 8-K
EXHIBITS
Exhibit No. Description of document
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10(49) Bridge Loan Note by Virtual Communities, Inc. in favor of Aspen
International dated June 26, 2000, as filed with the Commission
as Exhibit 10(49) to Virtual Communities, Inc.'s Form 10-QSB
filed on August 15, 2000, is incorporated by reference.
10(50) Conversion of Promissory Note Letter by Aspen International, Ltd.
dated August 2, 2000, as filed with the Commission as Exhibit
10(50) to Virtual Communities, Inc.'s Form 10-QSB filed on August
15, 2000, is incorporated by reference.
10(51) Termination Agreement and Mutual Release by and between
Intercoastal Financial Services Corp. and Virtual Communities,
Inc. dated July 28, 2000, as filed with the Commission as Exhibit
10(51) to Virtual Communities, Inc.'s Form 10-QSB filed on August
15, 2000, is incorporated by reference.
27 Financial Data Schedule, as filed with the Commission as Exhibit
27 to Virtual Communities, Inc.'s Form 10-QSB filed on August 15,
2000, is incorporated by reference.
7
REPORTS ON FORM 8-K
On April 6, 2000, the Registrant ("VCI") filed a Current Report on Form 8-K (and
amended the same on April 10, 2000 by filing a Form 8-KA related thereto)
containing pro forma financial information relating to Registrant's acquisition
of a majority interest in Cortext Ltd. ("Cortext"), a corporation registered
under the laws of the State of Israel, and the principal shareholders of
Cortext, pursuant to its February 1999 Share Purchase Agreement ("SPA").
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto
duly authorized.
VIRTUAL COMMUNITIES, INC.
Date: August 18, 2000 by: /s/ Avi Moskowitz
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Avi Moskowitz, President
(Principal Executive Officer)
Date: August 18, 2000 by: /s/ Arthur Dubroff
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Arthur Dubroff, CFO
(Principal Financial Officer)
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VIRTUAL COMMUNITIES, INC.
CONDENSED INTERIM CONSOLIDATED
FINANCIAL STATEMENTS
as of June 30, 2000
-------------------
(In U.S. dollars)
(Unaudited)
VIRTUAL COMMUNITIES, INC.
CONDENSED INTERIM CONSOLIDATED FINANCIAL STATEMENTS
AS OF JUNE 30, 2000
Contents
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Page
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CONSOLIDATED FINANCIAL STATEMENTS
Consolidated Balance Sheet F-2
Consolidated Statements of Operations F-3
Consolidated Statements of Shareholders' Deficiency F-4
Consolidated Statements of Cash Flows F-5
Notes to the Consolidated Financial Statements F-6-11
VIRTUAL COMMUNITIES, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(U.S. Dollars in thousands except per share data)
June 30
2000
-----------
(Unaudited)
-----------
ASSETS
Current Assets
Cash and cash equivalents $ 365
Trade receivables, net of allowance for doubtful debts of $28
237
Other receivables 143
Assets of discontinued operations 422
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Total current assets 1,167
Property and Equipment, net of depreciation and amortization of $ 578 1,981
Severance Pay Deposits 138
Other assets 1,179
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Total assets $ 4,465
=======
LIABILITIES AND SHAREHOLDERS' DEFICIENCY
Current Liabilities
Short-term bank borrowings and current maturities of long-term loan $ 664
Shareholders' loans 24
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Payables and accrued expenses 3,325
-------
Total current liabilities 4,013
Long-Term Liabilities
Convertible Loan 1,000
Long-term loan 339
Accrued severance pay 471
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Total long-term liabilities 1,810
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Total liabilities 5,823
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Minority Interest 143
Shareholders' Deficiency
Share capital
Shares of $0.0001 par value
Preferred stock of $0.01 par value
Authorized - 5,000,000 shares; none issued and outstanding
Common stock of $0.01 par value
Authorized - 45,000,000 shares; issued and outstanding -
16,985,443 shares 169
Additional paid-in capital 13,903
Accumulated deficit (15,423)
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(1,351)
Treasury stock 149,900 shares at cost (150)
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Total shareholders' deficiency (1,501)
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Total liabilities and shareholders' deficiency $ 4,465
=======
The accompanying notes form an integral part of the financial statements.
- F-2 -
VIRTUAL COMMUNITIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(U.S. Dollars in thousands except share and per share data )
For the three For the six
months ended months ended
June 30 June 30
--------------------- -------------------
2000 1999 2000 1999
---- ---- ---- ----
(Unaudited) (Unaudited)
--------------------- -------------------
REVENUES $ 321 $ -- $ 627 $ --
COST AND EXPENSES
Cost of revenues 748 -- 1,316 --
Research and development 392 -- 665 --
Selling and marketing expenses 475 -- 727 --
General and administrative expenses 1,013 532 1,800 891
Expenses of merger -- 241 -- 241
------------ ------------ ------------ ------------
Total operating costs and
expenses 2,628 773 4,508 1,132
------------ ------------ ------------ ------------
Operating loss (2,307) (773) (3,881) (1,132)
Financing expenses, net (63) (12) (84) (58)
Minority interest in loss of subsidiary 63 -- 119 --
------------ ------------ ------------ ------------
Loss from continuing operations (2,307) (785) (3,846) (1,190)
Discontinued operations (1,590) (382) (2,721) (649)
------------ ------------ ------------ ------------
Net loss $ (3,897) $ (1,167) $ (6,567) $ (1,839)
============ ============ ============ ============
NET LOSS PER SHARE, BASIC
AND DILUTED:
Continuing operations $ (0.14) $ (0.08) $ (0.24) $ (0.12)
Discontinued operations $ (0.09) $ (0.04) $ (0.17) $ (0.07)
------------ ------------ ------------ ------------
Net loss per share $ (0.23) $ (0.12) $ (0.41) $ (0.19)
============ ============ ============ ============
WEIGHTED AVERAGE NUMBER
OF COMMON SHARES
OUTSTANDING, BASIC AND
DILUTED 16,821,625 9,827,556 16,006,451 9,801,887
============ ============ ============ ============
The accompanying notes form an integral part of the financial statements
- F-3 -
VIRTUAL COMMUNITIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CHANGES
IN SHAREHOLDERS' DEFICIENCY
(U.S. Dollars in thousands except share data)
(Unaudited)
Common stock Additional
------------ paid-in Accumulated Treasury
Shares Amount capital deficit stock Total
------ ------ ---------- ----------- -------- -----
Balance as of
January 1, 2000 14,630,224 $146 $ 8,336 $ (8,856) $(150) $ (524)
Common stock issued 1,499,664 14 5,120 -- -- 5,134
Common stock issued
Upon exercise of
Warrants and options 557,883 6 300 -- -- 306
Common stock issued
Upon conversion of
Loans 297,672 3 147 -- -- 150
Net loss -- -- -- (6,567) -- (6,567)
---------- ---- ------- -------- ----- -------
16,985,443 $169 $13,903 $(15,423) $(150) $(1,501)
========== ==== ======= ======== ===== =======
The accompanying notes form an integral part of the financial statements
- F-4 -
VIRTUAL COMMUNITIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(U.S. Dollars in thousands)
For the six months ended
June 30
-------------------------
2000 1999
---- ----
(Unaudited)
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $(6,567) $(1,839)
Adjustments to reconcile net loss to net cash used in
operating activities (see below) 1,686 361
------- -------
Net cash used in operating activities (4,881) (1,478)
------- -------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of fixed assets (1,279) (281)
Investment in other assets (511) --
Investment in subsidiary 23 --
------- -------
Net cash used in investing activities (1,767) (281)
------- -------
CASH FLOWS FROM FINANCING ACTIVITIES
Short-term bank borrowing, net (68) (42)
Receipt of shareholders' loans -- 150
Repayment of shareholders' loans -- (200)
Receipt of long-term loan 172 --
Receipt (repayment) of convertible loans 1,000 (75)
Issuance of common stock 5,440 148
Issuance of preferred stock, Series A and B -- 1,572
------- -------
Net cash provided by financing activities 6,544 1,553
------- -------
DECREASE IN CASH AND CASH EQUIVALENTS (104) (206)
CASH AND CASH EQUIVALENTS AT
BEGINNING OF PERIOD 469 574
------- -------
CASH AND CASH EQUIVALENTS AT
END OF PERIOD $ 365 $ 368
======= =======
ADJUSTMENT TO RECONCILE NET LOSS TO NET
CASH USED IN OPERATING ACTIVITIES:
Items not involving operating cash flows:
Depreciation $ 401 $ 64
Accrued severance pay, net 41 3
Minority interest in loss of subsidiary (119) --
Changes in operating assets and liabilities
Increase in receivables (280) (156)
Decrease in other receivables ( 26) --
Increase in payable and accrued expenses 1,669 450
------- -------
$ 1,686 $ 361
======= =======
PURCHASE OF SUBSIDIARY
Fair value of assets acquired $ (318) $ --
Liabilities assumed and minority interest 341 --
------- -------
$ 23 $ --
NONCASH TRANSACTIONS
Issuance of preferred stock, Series A upon conversion of loans $ -- $ 500
======= =======
Investment in other assets on credit $ 113 $ --
======= =======
Issuance of common stock upon conversion of loans $ 150 $ --
======= =======
The accompanying notes form an integral part of the financial statements
- F-5 -
VIRTUAL COMMUNITIES, INC.
NOTES TO THE CONDENSED INTERIM CONSOLIDATED
FINANCIAL STATEMENTS
(U.S. dollars in thousands)
(Unaudited)
Note 1 - BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial
statements have been prepared in accordance with generally
accepted accounting principles relating to the provision of
interim financial information. Accordingly, they do not include
all of the information and notes required by generally accepted
accounting principles for complete financial statements. In the
opinion of management, all adjustments considered necessary for a
fair presentation have been included. Operating results for the
three and the six month period ended June 30, 2000, are not
necessarily indicative of the results that may be expected for the
year ending December 31, 2000. For further information, refer to
the financial statements and notes for the year ended December 31,
1999.
Note 2 - ACQUISITION OF CORTEXT LTD.
In February 2000, VCI entered into a Share Purchase Agreement
("SPA") with Cortext Ltd. ("Cortext"), a corporation registered
under the laws of the State of Israel, and the principal
shareholders of Cortext, to acquire approximately 60% interest in
the equity of Cortext. Cortext is engaged in the development and
licensing of content management software for web developers.
Simultaneously with execution of the SPA, VCI and Cortext entered
into an Assignment Agreement with Planet Communications Ltd.
("Planet"), an Israel-based unaffiliated third party holder of 50%
of the rights in Cortext's Magazine Software whereby Planet agreed
to irrevocably assign all of its rights, title and interest in the
Magazine Software to Cortext in consideration of approximately
$425.
The transaction was accounted for as a purchase. The purchase
method of accounting allocates the aggregate purchase price to the
assets acquired and liabilities assumed based upon their
respective fair values. The excess of the purchase price over the
fair value of assets and liabilities acquired of approximately
$423 was allocated to intellectual property, of which the
unamortized portion of $386 is included in other assets.
- F-6 -
VIRTUAL COMMUNITIES, INC.
NOTES TO THE CONDENSED INTERIM CONSOLIDATED
FINANCIAL STATEMENTS (Cont.)
(U.S. dollars in thousands)
(Unaudited)
Note 2 - ACQUISITION OF CORTEXT LTD. (Cont.)
Subsequent to balance sheet date, the Company entered into a Share
Transfer Agreement with the principal shareholders of Cortext Ltd.
Pursuant to the Share Transfer Agreement, VCIX will acquire 20% of
Cortext's outstanding equity from Cortext's principal shareholders
in stages over a five-month period ending December 2000 in
consideration for an aggregate $900.
Note 3 - CONVERTIBLE LOAN
In June 2000, the Company borrowed $1,000 from an institutional
investor in the IFSC Financing. The loan bears interest at the
rate of 12% per annum. The loan and interest thereon is due on
July 27, 2000 or will be convertible, at the holder's option, into
securities of the Company pursuant to a proposed private placement
financing. The loan was converted into 1,010 shares of Series C
Preferred Stock of the Company in July 2000 as part of such
financing.
Note 4 - COMMITMENTS
A. In March 2000, the Company entered into a finance lease
agreement with Microtech Leasing Corp., a Princeton, New
Jersey company for the lease of up to $250 of computer
equipment to the Company. The credit facility provides the
Company with the ability to obtain certain computer
equipment financed by the lease that is secured by such
equipment. The Company also agreed to provide Microtech
with a UCC financing statement covering the equipment
leased pursuant to the agreement. The lease cannot be
canceled by the Company during the term of the lease of the
equipment which term is set forth on a lease schedule.
In June 2000, the Company entered into a finance lease
agreement with Syscap Computer Rentals PLC, a U.K. entity
to obtain certain equipment required by the Company in the
U.K. The Company entered into a 24 month lease for
approximately $420 of computer and Internet equipment and
can acquire such equipment in consideration for an
additional monthly payment. The lease is secured by the
equipment.
- F-7 -
VIRTUAL COMMUNITIES, INC.
NOTES TO THE CONDENSED INTERIM CONSOLIDATED
FINANCIAL STATEMENTS (Cont.)
(U.S. dollars in thousands)
(Unaudited)
Note 4 - COMMITMENTS (Cont.)
B. In January and March 2000, the Company's Israel subsidiary,
Virtual Communities Israel Ltd. ("VCIL") exercised options
for additional space in the Jerusalem Technology Park,
Israel, which serves primarily as the Company's software
development, programming and communities design center.
Total leasehold costs for the new space are approximately
$165 per year.
Note 5 - SHARE CAPITAL
A. During the first quarter of 2000, the Company issued
981,864 shares of common stock at prices per share ranging
from $2.11 to $3.42 to 12 individuals and entities,
including three existing non-U.S. shareholders of the
Company, for aggregate gross proceeds of $2,524. In
connection with the issuance of 468,098 of such shares to
three existing shareholders of the Company, the Company
issued three-year warrants to acquire a total of 46,808
shares of common stock at exercise prices ranging from
$2.11 to $2.75. The Company paid consultant and finders
fees related to this financing in the form of three-year
warrants exercisable into 108,762 shares of common stock at
exercise prices ranging between $2.11 and $3.42 per share.
B. During the period, warrants exercisable into 442,446 shares
of common stock were converted.
C. In April 2000, the Company sold 517,800 of its shares at
$5.80 per share to four institutional investors in a
private placement arranged by Josephthal & Company and
Intercoastal Financial Services Corp. ("Intercoastal") for
an aggregate gross proceeds of approximately $3,000 (the
"IFSC Financing"). In connection with the private
placement, the Company issued a) 500,000 four-month
warrants to the purchasers of the shares exercisable at
$14.875 per share, b) 129,450 three-year warrants to such
purchasers exercisable at $7.4375 per share c) 36,246
warrants exercisable for three years at $5.80 per share to
Josephthal & Company and d) 2,000,000 one year callable
warrants exercisable at a price ranging from $18.00 to
$27.00 per share which were cancelled in July 2000.
D. During the period, a short-term loan in the amount of $150
was converted into 297,672 shares of common stock.
- F-8-
VIRTUAL COMMUNITIES, INC.
NOTES TO THE CONDENSED INTERIM CONSOLIDATED
FINANCIAL STATEMENTS (Cont.)
(U.S. dollars in thousands)
(Unaudited)
Note 5 - SHARE CAPITAL (Cont.)
E. During the period, 821,500 stock options were granted under
VCI Stock Option Plans, 115,437 options were exercised into
shares of common stock and 193,600 options were forfeited.
F. Increase in the Number of Authorized ISOP Shares.
In March 2000, the Board of Directors approved the increase
in the authorized number of shares under the HDG 1999 Stock
Option Plan by 500,000 for a total of 1,500,000 shares. In
June 2000 the shareholders of the Company ratified an
increase of 1,000,000 authorized shares under the plan for
a total of 2,000,000 shares, including the 500,000 approved
by the Directors in March 2000.
Note 6 - SUBSEQUENT EVENTS
A. In July 2000, the Company entered into a $5,500 follow-on
financing agreement with several institutional investors in
the IFSC Financing. Pursuant to the financing agreement,
the Company will sell up to 5,500 shares of Series C
preferred stock in several tranches through August 31,
2000. The first tranche, consisting of the conversion of
the $1,000 loan made in June 2000 by one of the IFSC
Financing investors and $500 in cash from a second
investor, closed on July 28, 2000. A second tranche of $500
from a third investor closed on August 8, 2000. The
preferred stock is convertible for a period of three years
into shares of common stock at conversion prices as defined
in the agreement. The Company also issued to the IFSC
investors up to 977,777 three-year warrants exercisable
into common stock at $2.25 per share.
In connection with the follow-on financing, the Company and
Intercoastal entered into an agreement canceling the
2,000,000 warrants issued as part of IFSC Financing.
- F-9 -
VIRTUAL COMMUNITIES, INC.
NOTES TO THE CONDENSED INTERIM CONSOLIDATED
FINANCIAL STATEMENTS (Cont.)
(U.S. dollars in thousands)
(Unaudited)
Note 6 - SUBSEQUENT EVENTS (Cont.)
B. In July 2000, the Company implemented a restructuring of
its business activities to focus primarily on developing
and marketing software for Web development and site
management. In line with this new strategy, the Company
announced its intention to sell its portfolio of online
communities. The Company is currently seeking to enter into
a transaction that would transfer partial or complete
ownership of its online communities. It has also
restructured its Internet technologies division to focus on
further development of Cortext software. As a result of
this restructuring, the Company reduced its editorial staff
located in the Company's New York and Jerusalem offices by
approximately 50%. The Company also terminated most of its
marketing agreements related to the communities and
eliminated several technical, marketing and administrative
staff positions that supported the communities and other
operations in New York and Israel and shifted certain
technical and administrative functions to its Israeli
subsidiary to achieve efficiencies.
Accordingly, the online communities division has been
accounted for as a discontinued operation. The accompanying
financial statements have been restated to separately
report the assets and operating results of these
discontinued operations. The loss from discontinued
operations includes estimated termination costs of
approximately $365.
In connection with the restructuring and the
discontinuation of the online communities division, the
Company established a VCIX 2000 Corporate Reorganization
Severance Plan (the "Severance Plan"), effective as of July
24, 2000. The Plan was established to offer eligible
employees of the Company who suffer an involuntary
termination of employment as a result of the restructuring,
the option to elect to receive severance pay and additional
benefits. The Plan is intended to constitute an "employee
welfare benefit plan" under Section 3(1) of the Employee
Retirement Income Security Act of 1974, as amended.
- F-10 -
VIRTUAL COMMUNITIES, INC.
NOTES TO THE CONDENSED INTERIM CONSOLIDATED
FINANCIAL STATEMENTS (Cont.)
(U.S. dollars in thousands)
(Unaudited)
Note 6 - SUBSEQUENT EVENTS (Cont.)
B. (Cont.)
In addition, the Company enacted a Retention Plan to retain
members of the editorial staff of the communities for the
purpose of ensuring that the communities continue to be
operated in an effective manner until such time as the Company
sells them or until operations are terminated. Employees who
receive the bonus are not eligible to receive severance
payments under the Severance Plan.
As a result of the restructuring and the discontinuation of
the online communities division, the Company will operate
under one business segment.
- F-11 -