Filed with the Securities and Exchange Commission on January 28, 1997.
Securities Act Registration No. 333-_____
================================================================================
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM SB-2
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933,
AS AMENDED
PROTOSOURCE CORPORATION
-----------------------------------
(Exact Name of Small Business Issuer
As Specified In Its Charter)
California 7373 77-0190772
- ---------------------------- ----------------------- ---------------
(State or other jurisdiction (Primary Standard (IRS Employer
of incorporation or Industrial Identification
organization) Classification Code No.) Number)
2300 Tulare Street, Suite 210
Fresno, CA 93721
(209) 486-8638
----------------------------------------------------------
Address, including zip code, and telephone number, in-
cluding area code, of Registrant's principal executive offices)
Raymond J. Meyers, Chief Executive Officer
ProtoSource Corporation
2300 Tulare Street, Suite 210
Fresno, CA 93721
(209) 486-8638
------------------------------------------------
(Name, address, including zip code, and telephone
number, including area code, of agent for service)
Copies of all communications to:
Gary A. Agron, Esq.
5445 DTC Parkway, Suite 520
Englewood, CO 80111
(303) 770-7254
(303) 770-7257 (Fax)
Approximate date of commencement of the Offering: As soon as practicable
after the effective date of the Offering.
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following box
and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. [ ]
If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ]
If any of the securities registered on this form are to be offered on a
delayed or continuous basis pursuant to Rule 415 under the Securities Act, check
the following box: [ X ]
If delivery of the Prospectus is expected to be made pursuant to Rule 434,
check the following box: [ ]
CALCULATION OF REGISTRATION FEE
=====================================================================================================================
Title of Each Class Amount to Proposed Amount of
of Securities Be Maximum Price Offering Registration
to be Registered Registered Per Security Price Fee
=====================================================================================================================
Common Stock, no 6,400,000
par value Shares $.31(1) $1,984,000 $ 602
Common Stock 4,400,000 $.06(2) $ 264,000 $ 80
Purchase Warrants Warrants
Common Stock, no
par value, underlying
Common Stock 4,400,000
Purchase Warrants Shares $.25 $1,100,000 $ 334
Totals................................................................. $3,348,000 $1,016
=====================================================================================================================
(1) Represents the closing price per share of the Registrant's Common Stock on
the Electronic Bulletin Board of the NASD ("Bulletin Board") on January 24,
1997.
(2) Represents the highest estimated value of the common stock purchase
warrants based upon the closing price of the Registrant's Common Stock on
the Bulletin Board.
The Registrant hereby amends the Registration Statement on such date or
dates as may be necessary to delay its effective date until the Registrant shall
file a further amendment which specifically states that this Registration
Statement shall thereafter become effective in accordance with Section 8(a) of
the Securities Act of 1933, or until the Registration Statement shall become
effective on such date as the Commission, acting pursuant to said Section 8(a),
may determine.
(EXHIBIT INDEX LOCATED ON PAGE ------- OF THIS FILING)
PROTOSOURCE CORPORATION
Cross Reference Sheet
Item Caption Location or Caption in Prospectus
---- ------- ---------------------------------
1. Forepart of Registration Statement Outside Front Cover Page
and Outside Front Cover Page of
Prospectus
2. Inside Front and Outside Back Inside Front and Outside Back Cover Pages
Cover Page of Prospectus
3. Summary Information and Risk Prospectus Summary; Risk Factors
Factors
4. Use of Proceeds Use of Proceeds
5. Determination of Offering Price Cover Page; Risk Factors
6. Dilution Not Applicable
7. Selling Security Holders Selling Stockholders
8. Plan of Distribution Selling Stockholders; Plan of Distribution
9. Legal Proceedings Not Applicable
10. Directors, Executive Officers, Management; Principal Stockholders
Promoters and Control Persons
11. Security Ownership of Certain Principal Stockholders
Beneficial Owners and Management
12. Description of Securities Description of Securities
13. Interest of Named Experts and Not Applicable
Counsel
14. Disclosure of Commission Position Item 25 -- Undertakings
on Indemnification for Securities
15. Organization Within Last Five Prospectus Summary; Certain Transactions
Years
16. Description of Business Risk Factors; Business
17. Management's Discussion and Management's Discussion and Analysis of
Analysis or Plan of Operations Financial Condition and Results of
Operations
(ii)
18. Description of Property Business--Properties
19. Certain Relationships and Related Certain Transactions
Transactions
20. Market for Common Equity and Price Range of Common Stock;
Related Stockholder Matters Description of Securities
21. Executive Compensation Management--Executive Compensation
22. Financial Statements Financial Statements
23. Changes in and Disagreements with Not Applicable
Accountants on Accounting and
Financial Disclosure
(iii)
Subject to Completion Dated January 28, 1997
PROTOSOURCE CORPORATION
6,400,000 Shares of Common Stock
4,400,000 Common Stock Purchase Warrants
4,400,000 Shares of Common Stock
Underlying Common Stock Purchase Warrants
ProtoSource Corporation (the "Company") is registering hereby (i) 6,400,000
shares of its no par value Common Stock ("Common Stock"), (ii) 4,400,000 Common
Stock Purchase Warrants ("Warrants"), each Warrant exercisable to purchase one
share of Common Stock at $.25 per share at any time until October 2001, and
(iii) 4,400,000 shares of Common Stock underlying the Warrants (collectively the
"Registered Securities"), all of which are being registered on behalf of certain
stockholders of the Company (the "Selling Stockholders"), some of whom are
officers, directors and principal stockholders of the Company. The Registered
Securities will be offered and sold (the "Offering") from time to time by the
Selling Stockholders in public or private open market transactions at prevailing
market prices less customary selling commissions. The Selling Stockholders may
be deemed "underwriters" within the meaning of the Securities Act of 1933, as
amended (the "1933 Act"). See "Selling Stockholders." None of the proceeds from
the sale of the Registered Securities will be received by the Company, although
the Company may receive cash proceeds from the exercise of the Warrants. The
Company will bear the expenses of the Offering, expected not to exceed $125,000.
The Company's Common Stock trades on the Electronic Bulletin Board
("Bulletin Board") of the National Association of Securities Dealers, Inc.
("NASD") under the symbol "PSCO." On January 24, 1997, the closing price of the
Common Stock was $.31 per share. See "Price Range of Common Stock."
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED
BY THE SECURITIES AND EXCHANGE COMMISSION ("COMMISSION")
NOR HAS THE COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS.
ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
THE SECURITIES OFFERED HEREBY INVOLVE A HIGH DEGREE OF RISK
AND SHOULD BE CONSIDERED ONLY BY PERSONS ABLE TO SUSTAIN
A TOTAL LOSS OF THEIR INVESTMENT. SEE "RISK FACTORS."
The date of this Prospectus is __________1997.
AVAILABLE INFORMATION
The Company has filed with the Securities and Exchange Commission (the
"Commission"), Washington, D.C., a Registration Statement on Form SB-2 (the
"Registration Statement") under the 1933 Act with respect to the securities
offered hereby. This Prospectus does not contain all the information set forth
in the Registration Statement, certain items of which are omitted in accordance
with the rules and regulations of the Commission. For further information with
respect to the Company and the securities offered by this Prospectus, reference
is made to such Registration Statement and the exhibits thereto. Statements
contained in this Prospectus as to the contents of any contract or other
documents are not necessarily complete and in each instance reference is made to
the copy of such contract or other document filed as an exhibit to the
Registration Statement for a full statement of the provisions thereof; each such
statement contained herein is qualified in its entirety by such reference.
The Company is subject to the informational requirements of the Securities
Exchange Act of 1934, as amended (the "1934 Act") and, in accordance therewith,
files reports, proxy statements and other information with the Commission. Such
reports, proxy statements and other information may be inspected and copied at
public reference facilities of the Commission at 450 Fifth Street N.W.,
Washington, D.C. 20549; 500 West Madison Street, Suite 1400, Chicago, Illinois
60661; 7 World Trade Center, New York, New York 10048; and 5757 Wilshire
Boulevard, Los Angeles, California 90036. Copies of such material can be
obtained from the Public Reference Section of the Commission at 450 Fifth Street
N.W., Washington, D.C. 20549 at prescribed rates.
The Company furnishes annual reports which include audited financial
statements to its stockholders. The Company may also furnish quarterly financial
statements to its stockholders and such other reports as may be authorized by
its Board of Directors.
2
PROSPECTUS SUMMARY
The following is a summary of certain information contained in this
Prospectus and is qualified in its entirety by the detailed information and
financial statements that appear elsewhere herein. The share information
included herein does not reflect a one share for ten shares reverse stock split
expected to be approved by the Company's stockholders on or about February 28,
1997. Except for the historical information contained herein, the matters set
forth in this Prospectus include forward-looking statements within the meaning
of the "safe harbor" provisions of the Private Securities Litigation Reform Act
of 1995. These forward-looking statements are subject to risks and uncertainties
that may cause actual results to differ materially. These risks and
uncertainties are detailed throughout the Prospectus and will be further
discussed from time to time in the Company's periodic reports filed with the
Commission. The forward-looking statements included in the Prospectus speak only
as of the date hereof.
The Company
Operating through its ProtoSource Network ("PSNW") division, the Company
provides Internet access and related services to individuals, public agencies
and businesses in five small Central California cities. As of December 31, 1996,
the Company had 2,500 subscribers for whom it provided Internet access. The
Company intends to acquire other small Internet providers in markets with
populations of less than 500,000 that are located initially in various Central
California cities between Sacramento and Bakersfield. The Company believes that
certain of these local Internet providers currently doing business in the
Company's target markets will not be able to effectively manage the financial
and administrative burdens imposed by the continuing consumer demand for local
Internet services, unless these providers are integrated into larger, more
diversified Internet products and services companies. The Company's long-term
plan is to target a select number of such target markets and increase revenues
through acquisition in such markets. The Company is not negotiating to acquire
nor has it entered into any agreement to acquire any such Internet related
companies.
The Company's strategy is to provide low cost direct Internet access to
subscribers in target markets by acquiring small Internet providers in these
markets or by establishing its own marketing operations in the target markets.
Thereafter, the Company will seek to generate additional revenues by (i)
increasing monthly Internet access fees, (ii) offering monthly community access
services, (iii) providing Internet consulting services, and (iv) generating
marketing service fees charged to businesses seeking a Web site on the Internet.
The Company was incorporated in the State of California as SHR Corporation
on July 1, 1988. In October 1994, the Company changed its name to "ProtoSource
Corporation." The Company's principal executive officers are located at 2300
Tulare Street, Suite 210, Fresno, California 93721, telephone (209) 486-8638.
3
History
From July 1988 until August 1996, the Company's primary business was to
design, develop and market software programs (and related hardware) for the
agri-business industry including produce broker accounting programs, product
tracking programs, crop chemical usage reports, crop cost and billing systems
and fruit accounting programs. The programs were packaged under the Company's
"Classic" line of products and were divided by function, sophistication and the
size of the customer into "Classic" (appropriate for customers whose annual
sales are less than $10 million), "Classic Advantage" (appropriate for customers
whose annual sales are between $10 million and $100 million) and "Classic
Custom" (appropriate for customers whose annual sales exceed $100 million).
Prices ranged from $20,000 for a "Classic" program to $200,000 for a "Classic
Custom" program. The Company also sold customized computer system configurations
designed by it which integrated hardware and software. The Classic product line
together with the Company's design services and hardware and software sales is
collectively referred to as the "Classic Line."
In February 1995, the Company completed an initial public offering ("IPO")
of its securities, consisting of the sale of 690,000 Units to the public at
$5.50 per Unit. Each Unit consisted of one share of Common Stock and one common
stock purchase warrant (the "Public Warrants") to purchase an additional share
of Common Stock at $6.50 per share until February 1998. McClurg Capital
Corporation, the Representative of the Underwriters of the IPO (the "Prior
Representative") received warrants (the "Prior Representative's Unit Warrants")
to purchase 60,000 Units at $6.60 per Unit at any time until February 2000.
In December 1996, the Company sold the Classic Line to a Canadian company
for $300,000 in cash and an unsecured promissory note which the Company has not
valued on its financial statements. As a part of the transaction, the Company
received an exclusive worldwide license through December 2006 to market the
Classic Line based upon a royalty of 16% of gross sales. In January 1997, the
Company sold the remaining assets of the Classic Line (including the worldwide
license to market the Classic Line) to SSC Technologies, Inc. ("SSC"), a
privately-held company owned 25% by the Company and 75% by other stockholders
including four individuals who were previously officers and directors of the
Company. See "Certain Transactions."
In October 1996, the Company sold 6,000,000 shares of its Common Stock to a
group of investors for $.25 per share or a total of $1,500,000. Included in the
$1,500,000 was the conversion of $200,000 of debt to equity which was originally
represented by a bridge loan for which the Company issued 400,000 shares of its
Common Stock to the bridge lenders as additional consideration for the $200,000
loan. The Company also issued a total of 4,400,000 Warrants exercisable at $.25
per share in connection with the bridge loan and the private placement. The
6,400,000 shares, 4,400,000 Warrants and 4,400,000 shares underlying the
Warrants are being registered hereby. See "Selling Stockholders."
4
The Offering
Securities offered........................................ 6,400,000 shares of Common Stock,
4,400,000 Warrants and 4,400,000 shares
of Common Stock underlying the Warrants
(the "Registered Securities") held by the
Selling Stockholders
Offering price............................................ Market prices of the Registered Securities
on the Bulletin Board
Common Stock outstanding(1)............................... 7,730,001 shares
Use of Proceeds........................................... None of the proceeds from the sale of the
Registered Securities will be received by
the Company. See "Use of Proceeds."
Bulletin Board symbols.................................... PSCO - Common Stock
PSCOW - Public Warrants
Transfer Agent............................................ Corporate Stock Transfer, Inc.
- ----------
(1) Excludes shares of Common Stock issuable upon exercise of (i) the 4,400,000
Warrants, (ii) the 690,000 Public Warrants, (iii) warrants held by the
Prior Representative to purchase up to 60,000 Units (each Unit consisting
of one share of Common Stock and one Public Warrant) exercisable at $6.60
per Unit at any time until February 2000 (the "Prior Representative's Unit
Warrants"), and (iv) stock options to purchase up to 550,000 shares of
Common Stock at $.25 per share until October 2001 granted to the Company's
Chief Executive Officer. See "Dilution", "Capitalization", "Management
Executive Compensation", "Certain Transactions", "Description of
Securities" and "Underwriting."
5
Summary Financial Information
The following financial information has been derived from the financial statements of the
Company appearing elsewhere in this Prospectus and should be read in conjunction with such
financial statements. See "Financial Statements."
Nine Months Ended September 30, Year Ended December 31,
------------------------------- -----------------------
1996 1995 1995 1994
---- ---- ---- ----
Income Statement Data:
Revenues $ 1,072,435 1,511,308 $1,834,966 $1,831,390
Net loss (681,988) (538,910) (1,816,285) (373,096)
Net loss per share (.51) (.45) (1.47) (.62)
Weighted average number
of shares outstanding(1) 1,330,001 1,205,441 1,236,590 598,719
September 30,
1996
-------------
Balance Sheet Data:
Working capital (deficit) $ (819,737)
Total assets 3,427,359
Long-term debt 1,734,190
Total liabilities 2,831,616
Stockholders' equity 595,743
- ----------
(1) For a description of net income per share and the number of shares used in
computing per share amounts, see Note 1 of Notes to Financial Statements.
6
RISK FACTORS
In evaluating the Company's business, prospective investors should consider
carefully the following factors in addition to the other information presented
in this Prospectus.
Prospective purchasers of the Common Stock should carefully consider the
following risk factors and the other information contained in this Prospectus
before making an investment in the Common Stock. Information contained in this
Prospectus contains "forward-looking statements" which can be identified by the
use of forward-looking terminology such as "believes," "expects," "may,"
"should" or "anticipates" or the negative thereof or other variations thereon or
comparable terminology, or by discussions of strategy. See, e.g., "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
"Business - Strategy." No assurance can be given that the future results covered
by the forward- looking statements will be achieved. The following matters
constitute cautionary statements identifying important factors with respect to
such forward-looking statements, including certain risks and uncertainties, that
could cause actual results to vary materially from the future results covered in
such forward-looking statements. Other factors could also cause actual results
to vary materially from the future results covered in such forward-looking
statements.
Limited History of Operations; Significant Operating Losses; Deficit in
Working Capital. The Company was incorporated in July 1988 but has only provided
Internet access services since July 1995. Prior to August 1996, the Company was
engaged primarily in the agricultural software development business and incurred
significant operating losses of $373,096, $1,816,285 and $681,988 for the years
ended December 31, 1994 and 1995 and the nine months ended September 30, 1996
respectively. At September 30, 1996, the Company had a deficit in working
capital of $819,737 which could significantly limit its operations. See
"Financial Statements." There can be no assurance that the Company will achieve
profitability or positive cash flow from operations. The Company expects to
focus in the near term on building and increasing its Internet subscriber base,
which will require it to significantly increase its expenses for personnel,
marketing, network infrastructure and the development of new services. As a
result, the Company believes that it may incur further losses in the near term.
The Company's prospects must be considered in light of the risks, expenses and
difficulties frequently encountered by companies in their early stage of
development, particularly companies in new and rapidly evolving markets such as
the Internet. To address these risks, the Company must, among other things,
respond to competitive developments, continue to attract, retain and motivate
qualified persons, and continue to upgrade its technologies and commercialize
services incorporating such technologies. There can be no assurance that the
Company will be successful in addressing such risks.
Risks Associated With Acquisitions. Although the Company intends to
increase revenues in part through acquisition of other Internet access
providers, it has no experience in this regard and may acquire companies with
limited operating or negative operating history. Should the Company acquire
other companies that incur operating losses, the Company's operating results
will be further adversely affected. The Company is not negotiating to acquire
nor has it entered into any agreements to acquire any such Internet related
companies and there can be no assurance it will complete any such acquisitions
in the future.
7
Fluctuations in Operating Results. As a result of the Company's limited
Internet services operating history, the Company has limited historical
financial data on which to base future operating expenses. Moreover, the Company
may experience fluctuations in operating results in the future caused by various
factors, some of which are outside of the Company's control, including general
economic conditions, specific economic conditions in the Internet services
industry, user demand for the Internet, the amounts of capital expenditures and
other costs related to the expansion of operations, the timing of customer
subscriptions, the introduction of new Internet services by the Company or its
competitors, the mix of such services sold and the mix of channels through which
those services are sold. As a strategic response to a changing competitive
environment, the Company may elect from time to time to make certain pricing,
service or marketing decisions or acquisitions that could have a material
adverse effect on the Company's business, results of operations and cash flow
from quarter to quarter. See "Business" and "Financial Statements."
Competition. The market for Internet services is new, intensely
competitive, rapidly evolving and subject to rapid technological change. The
Company expects competition to persist and intensify in the future. Almost all
of the Company's current and potential competitors have longer operating
histories, greater name recognition, larger customer bases and significantly
greater financial, technical and marketing resources than the Company. Such
competition could materially adversely affect the Company's business, operating
results or financial condition. Moreover, because many of the Company's
competitors possess financial resources significantly greater than those of the
Company, such competitors could initiate and support prolonged price competition
to gain market share. If significant price competition were to develop, the
Company likely would be forced to lower its prices, possibly for a protracted
period, which would have a material adverse effect on its financial condition
and results of operations and could threaten its economic viability. In
addition, the Company believes that the Internet service and on-line services
business is likely to encounter consolidation in the near future, which could
result in increased price and other competition in the industry and consequently
have an adverse impact on the Company's business, financial condition and
results of operations. See "Business Competition."
New and Uncertain Market; New Entrants. The market for local Internet
service providers is in its early stages. Since this market is new and because
current and future competitors are likely to introduce new products, it is
difficult to predict the forms of competition or the competitors that may
develop. There can be no assurance that the Company's local Internet provider
business can compete against new or developing competitors or that any local
provider can maintain its customer base against formidable national or other new
local competitors, or that Internet access will remain attractive to
subscribers. See "Business Marketing."
8
Few Barriers to Entry. There are few significant barriers to entry in the
Internet access business. Accordingly, the Company expects substantial
competition in its markets from new local Internet service providers, as well as
existing local and national Internet providers. The Company's success will
depend on its ability to compete against these new and existing providers.
Importance of Entering New Markets and Identifying Acquisitions. The
Company's business plan calls for it to continue to enter new local markets in
order to grow. Entry into new local markets depends in part on acquiring small
access providers in secondary markets at favorable prices. Because there are a
limited number of small access providers in the Company's target markets, there
can be no assurance that the Company can acquire such companies on favorable
terms, or at all, or that it can obtain financing for such acquisitions. Should
the Company be unable to locate companies in suitable local markets for
acquisitions its growth would be adversely affected. See "Business - Strategy."
Technological Changes. The Internet is characterized by rapidly changing
technology, evolving industry standards, changes in customer needs and frequent
new service and product introductions. The Company's future success will depend,
in part, on its ability to effectively use new technologies, to continue to
enhance its current Internet access and other services, to develop new services
that meet changing customer needs, to advertise and market its services and to
influence and respond to emerging industry standards and other technological
changes on a timely and cost effective basis.
Government Regulation and Legal Uncertainties. The Company is not currently
subject to direct regulation by any government agency, other than regulations
applicable to businesses generally, and there are currently few laws or
regulations directly applicable to providing Internet access or other services
on the Internet. However, due to the increasing popularity and use of the
Internet, it is possible that laws and regulations may be adopted with respect
to the Internet which may decrease the demand for Internet access, increase the
Company's cost of doing business or otherwise have an adverse effect on the
Company's operating results or financial condition.
Dependence on the Internet. The Company's business will depend in large
part upon a robust industry and infrastructure for providing Internet access and
carrying Internet traffic. Notwithstanding current interest and worldwide
subscriber growth, the Internet may not prove to be a viable marketplace because
of inadequate development of the necessary infrastructure or timely development
of complementary products, such as high speed modems. Because global commerce
and on-line exchange of information on the Internet, Web and other open area
networks are new and evolving, it is difficult to predict with any assurance
whether the Internet will prove to be economically viable in the long term. If
the necessary infrastructure or complementary products are not developed, or if
the Internet does not become an economically viable marketplace, the Company's
business, operating results and financial condition will be materially adversely
affected. See "Business - The Internet and the World Wide Web."
9
Potential Liability for Information Disseminated On-Line. A pending action
against Prodigy alleging libel and negligence in connection with an electronic
message posted by a Prodigy subscriber through Prodigy's on-line access system
presents the potential, particularly if the plaintiff is successful, for
increased focus and attempts to impose liability upon Internet access and
service providers for information disseminated through their systems. The
Company does not carry any insurance against such liabilities.
Risk of System Failure; Limited Insurance. The success of the Company is
dependent upon its ability to offer high quality, uninterrupted access to the
Internet. Any system failure that causes interruptions in the Company's Internet
operations could have a material adverse effect on the Company. If the Company's
subscriber base expands, there will be increased stress placed upon the
Company's server hardware and traffic management systems. The Company's server
hardware is also vulnerable to damage from fire, earthquakes, power loss,
telecommunications failures and similar events. The Company carries property
damage and business interruption insurance with a basic policy limitation of
$500,000, subject to deductibles and exclusions. Such coverage, however, may not
be adequate to compensate the Company for all losses that may occur. Moreover,
significant or prolonged system failure could damage the reputation of the
Company and result in the loss of subscribers.
Possible Need for Additional Financing. The Company may be required to seek
debt or equity financing in the future. There can be no assurance that
additional financing will be available to the Company on acceptable terms, or at
all. Any future equity financing may involve substantial dilution to the
interests of the Company's stockholders. See "Financial Statements."
No Dividends. The Company does not intend to pay any cash dividends on its
Common Stock in the foreseeable future. Earnings, if any, will be used to
finance growth. See "Description of Securities - Dividends."
Possible Volatility of Securities Prices. The market price of the Common
Stock may be highly volatile, as has been the case with the securities of other
small capitalization companies. Factors such as the Company's operating results
or public announcements by the Company or its competitors may have a significant
effect on the market price of the Company's securities. In addition, market
prices for securities of many small capitalization companies have experienced
wide fluctuations in response to variations in quarterly operating results,
general economic indicators and other factors beyond the control of the Company.
The registration of the Registered Securities offered hereby coupled with
exercise of the Public Warrants could increase the volatility of the Common
Stock by increasing the number of shares of publicly traded Common Stock
outstanding.
Shares Eligible for Future Sale. Sales of substantial amounts of Common
Stock in the open market or the availability of such shares for sale could
adversely affect the market price for the Common Stock. As of the date hereof,
there are 7,730,001 shares of the Company's Common Stock outstanding, of which
690,000 shares were registered for sale in the Company's IPO, 6,400,000 are
10
being registered hereby and the remaining 640,001 shares may be sold under Rule
144 commencing in February 1997 subject to the agreement of the holders of
454,494 shares not to sell such shares until October 1999 without the prior
written consent of AAWC. Additionally, an aggregate of 4,400,000 Warrants and
the 4,400,000 shares underlying the Warrants are also being registered hereby
and may be sold at any time. See "Description of Securities - Common Stock
Eligible for Future Sale" and "Underwriting."
Control by Management; Authorization and issuance of Preferred Stock;
Prevention of Changes in Control. The Company's officers and directors own
approximately 32.7% of the issued and outstanding shares of Common Stock
(assuming exercise by them of outstanding stock options and common stock
purchase warrants), and can as a practical matter continue to elect all of the
Company's directors and control the affairs of the Company. The Company's
Articles of Incorporation authorizes the issuance of up to 5,000,000 shares of
Preferred Stock with such rights and preferences as may be determined from time
to time by the Board of Directors. Accordingly, under the Articles of
Incorporation, the Board of Directors may, without shareholder approval, issue
Preferred Stock with dividend, liquidation, conversion, voting, redemption or
other rights which could adversely affect the voting power or other rights of
the holders of the Common Stock. The issuance of any shares of Preferred Stock
having rights superior to those of the Common Stock may result in a decrease in
the value or market price of the Common Stock and could be used by the Board of
Directors as a device to prevent a change in control of the Company. The Company
has no other anti-takeover provisions in its Articles of Incorporation or
Bylaws. Holders of the Preferred Stock may have the right to receive dividends,
certain preferences in liquidation, and conversion rights. See "Description of
Securities - Use of Preferred Stock As Anti-Takeover Device" and "Principal
Stockholders."
Elimination of Director Liability. The Company's Articles of Incorporation
contains a provision eliminating a director's liability to the Company or its
stockholders for monetary damages for a breach of fiduciary duty, except in
circumstances involving a financial benefit to a director, the intentional
infliction of harm of the Company or certain wrongful acts, such as the breach
of a director's duty of loyalty or acts or omissions which involve intentional
misconduct or a knowing violation of criminal law. The Company's Bylaws contain
provisions obligating the Company to indemnify its directors and officers to the
fullest extent permitted under California law. These provisions could serve to
insulate officers and directors of the Company against liability for actions
which damage the Company or its stockholders. See "Description of Securities -
Limitation on Liability."
Risks Associated With Penny Stocks such as the Company's; Lack of
Liquidity. The Commission has adopted rules that define "penny stock" and such
definition currently includes the Common Stock of the Company. Accordingly,
broker-dealers dealing in the Company's securities are subject to specific
disclosure rules for transactions involving penny stocks which require the
broker-dealer among other things to (i) determine the suitability of purchasers
of the securities and obtain the written consent of purchasers to purchase such
securities and (ii) disclose the best (inside) bid and offer prices for such
securities and the price at which the broker-dealer last purchased or sold the
securities. The additional burdens imposed upon broker-
11
dealers discourage them from effecting transactions in the Company's Common
Stock, which reduces the liquidity of the Company's Common Stock making it more
difficult for stockholders to sell the Common Stock should they desire to do so.
12
CAPITALIZATION
The following table sets forth the capitalization of the Company at
September 30, 1996, without giving effect to the exercise of (i) the 4,400,000
Warrants, (ii) the 690,000 Public Warrants, (iii) warrants held by the Prior
Representative to purchase up to 60,000 Units (each Unit consisting of one share
of Common Stock and one Public Warrant) exercisable at $6.60 per Unit at any
time until February 2000 (the "Prior Representative's Unit Warrants"), and (iv)
stock options to purchase 550,000 shares at $.25 per share until October 2001
granted to the Company's Chief Executive Officer. See "Dilution", "Management -
Executive Compensation", "Certain Transactions", "Description of Securities" and
"Underwriting."
September 30, 1996
------------------
Short-term debt: $ 316,008
Long-term debt: 1,734,190
Stockholders' equity:
Preferred Stock, 5,000,000 no par value
shares authorized, 900,000 shares
issued and outstanding --
Common Stock, 10,000,000 no par value
shares authorized, 1,330,001 shares
issued and outstanding 3,464,286
Retained earnings (deficit) (2,868,543)
----------
Total stockholders' equity 595,743
----------
Total capitalization $ 2,645,941
===========
13
PRICE RANGE OF COMMON STOCK
The Company's Common Stock has traded on the NASDAQ Small Cap Market under
the symbol "PSCO" from February 9, 1995 until July 10, 1996 when it was delisted
from NASDAQ and commenced trading on the Electronic Bulletin Board under the
symbol "PSCO."
The following table sets forth for the quarters indicated the range of high
and low closing prices of the Company's Common Stock as reported by NASDAQ and
the Electronic Bulletin Board but does not include retail markup, markdown or
commissions.
Price
----------------
By Quarter Ended: High Low
- ----------------- ---- ---
March 31, 1997 (through January 24, 1997)............... $ .31 $ .21
December 31, 1996....................................... .75 .21
September 30, 1996...................................... 1.00 .56
June 30, 1996........................................... 1.75 .56
March 31, 1996.......................................... 2.13 .94
December 31, 1995....................................... 2.50 1.75
September 30, 1995...................................... 4.00 1.00
June 30, 1995........................................... 4.88 3.34
March 31, 1995.......................................... 5.00 4.25
As of January 24, 1997, the Company had approximately 355 record and
beneficial stockholders.
USE OF PROCEEDS
None of the proceeds of the Offering will be received by the Company. See
"Selling Stockholders."
14
SELECTED FINANCIAL DATA
The selected financial data set forth below for the years ended December
31, 1995 and 1994 has been derived from the Company's financial statements which
have been audited by Angell & Deering. The selected financial data is qualified
by, and should be read in conjunction with, the financial statements and the
notes thereto included elsewhere herein. See "Financial Statements."
Nine Months Ended September 30, Year Ended December 31,
------------------------------- -----------------------
1996 1995 1995 1994
---- ---- ---- ----
Income Statement Data:
Revenues $ 1,072,435 1,511,308 $1,834,966 $1,831,390
Net loss (681,988) (538,910) (1,816,285) (373,096)
Net loss per share (.51) (.45) (1.47) (.62)
Weighted average number
of shares outstanding(1) 1,330,001 1,205,441 1,236,590 598,719
September 30,
1996
------------
Balance Sheet Data:
Working capital (deficit) $ (819,737)
Total assets 3,427,359
Long-term debt 1,734,190
Total liabilities 2,831,616
Stockholders' equity 595,743
- ----------
(1) For a description of net income per share and the number of shares used in
computing per share amounts, see Note 1 of Notes to Financial Statements.
15
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Results of Operations
Nine Months Ended September 30, 1996 Compared to Nine Months Ended September 30,
1995
Net Sales. For the nine months ended September 30, 1996, net sales were
$1,072,435 versus $1,511,308 in 1995, representing a decrease of $438,873. The
decrease in net sales is primarily attributed to obstacles encountered in the
development of the Classic Line in the first half of 1996 and decreases in
hardware equipment sales. The decrease was somewhat offset by an increase in
services revenues.
Gross Profit. For the nine months ended September 30, 1996, gross profit
was $393,248 versus $441,661 in 1995, representing a decrease of $48,413. The
decrease in gross profit is attributed to the decreases in software package
sales and equipment sales. The decrease was somewhat offset by an increase in
services revenues.
Sales and Marketing. Sales and marketing expenses were $384,808 in the nine
months ended September 30, 1996 versus $443,528 in 1995. The decreases in sales
and marketing expenses were caused by decreases in marketing expense evidencing
reduced marketing efforts and decreases in the Company's sales force.
Research and Development. Research and development expense decreased
$102,558 for the nine months ended September 30, 1996. The decrease in research
and development is attributed to a decrease in the number of full time
programmers involved in product development following completion of the Classic
Line.
General and Administrative. For the nine months ended September 30, 1996,
general and administrative costs were $419,624 versus $401,424 in 1995. The
increase in general and administrative costs is the result of increases in bad
debt expenses.
Operating Income. For the nine months ended September 30, 1996, the
operating loss was $624,310 versus an operating loss of $718,975 in 1995. The
operating loss in 1996 is attributed to the decreases in sales but was somewhat
decreased by increases in services revenues and decreases in expenses.
Interest Income (Expense). Net interest expense increased to $135,867 for
the nine months ended September 30, 1996 versus $74,011 in 1995 due to interest
expense related to the Company's office building and other capital leases. The
interest expense was somewhat offset by interest earned on cash and short term
investments.
16
Other Income. Net other income was $78,189 for the nine months ended
September 30, 1996 generated by revenue from the Company's office building and
other miscellaneous sales.
Year Ended December 31, 1995 Compared to Year Ended December 31, 1994
Net Sales. For fiscal 1995, net sales were $1,835,000 versus $1,831,000 in
fiscal 1994. Software product sales increased by 95% from $145,000 in 1994 to
$283,000 in 1995. Hardware equipment sales decreased slightly from $984,000 in
1994 to $942,000 in 1995 due primarily to decreases in prices in the PC product
lines. Professional service fees decreased from $681,000 in 1994 to $610,000 in
1995 as a result of shifting programming resources from professional services to
packaged software development. The lower than expected sales were primarily the
results of development difficulties encountered in the Classic product lines.
The significant increases in software product sales can be attributed to the
acceptance of the new PC software products prior to the development obstacles
encountered. Management believes that focusing in PC product development will
increase the long-term profitability of the Company.
Gross Profit. For fiscal 1995, gross profit was $395,000 versus $557,000 in
1994, representing a decrease of $162,000 or 29.1%. As a percentage of sales,
gross profit declined to 21.5% in 1995 from 30.4% in 1994. The decrease in gross
profit is attributed to the increase in investment of software development which
increases cost of product sales and lower gross margin for PC hardware
equipment. Management believes that the gross margin will improve when the
software sales increase and software development costs decrease.
Sales and Marketing. Sales and marketing expenses were $641,000 in fiscal
1995 versus $275,000 in 1994. The increases in sales and marketing expenses were
caused by increases in sales personnel and increases in advertising and
marketing for the introduction of the Classic product lines. The Company
believes that the sales and marketing expenses will decrease to approximately
15% of total revenues when software sales increase.
Research and Development. Research and development increased from $232,000
in 1994, to $495,000 in 1996. The increase in research and development is
attributable to an increase in the number of full-time equivalent programmers
involved in product development activities from seven programmers in 1994 to
fifteen programmers in 1995. Management believes that the investment in research
and development will give the Company significant competitive advantages over
competitors and will increase long-term profitability of the Company. Management
expects that the Classic product will be completed in early 1996.
General and Administrative. General and administrative costs were
$1,080,000 in 1995 versus $257,000 in 1994. The increase in general and
administrative costs is the result of moving into a larger building, increases
in business transactions, increases of personnel and the significant increase in
the bad debts expenses resulted from the development difficulties that have been
resolved by the research and development team in the fall of 1995 which were
encountered in the development of the Classic product line in the second quarter
of 1995.
17
Operating Loss. For fiscal 1995, the operating loss was $1,820,000 compared
to an operating loss of $208,000 in 1994. The increase in operating loss in 1995
is attributed to the significant increases in research and development by
$263,000 to develop the Classic product lines for PC, increases in marketing
expenses for the introduction of the new PC product lines and increases in
general and administrative expenses resulting from the move to larger facilities
and the significant increase of bad debt expenses due to the development
obstacles encountered in the second quarter of 1995.
Liquidity and Capital Resources
The Company's 1995 IPO generated net proceeds of $3,415,500 to the Company.
The Company used net proceeds from the IPO to repay short-term debt, to finance
business acquisitions, purchase capital assets for product development and for
marketing.
For the year ended December 31, 1995, the Company acquired $404,000 of
property and equipment and capitalized software development costs of $593,000.
Included in these transactions were the purchase of computer and related
teaching equipment for the expansion of the Company's Computer Center facility
and the acquisition of PSNW.
In September 1994, the Company acquired, under a 20-year capital lease (see
Note 7 to Financial Statements), a 20,000 square foot office building. The
Company formerly occupied approximately half of the space as its corporate
offices and subleases the other half to unrelated third parties. The capitalized
costs for the land, building and improvements was $1,760,000. The capital lease
payments for the building will increase annual cash outflows by approximately
$60,000 through 2014, net of sublease income. SSC sublet office space from the
Company at a monthly rental of $12,000 through February 28, 1998.
In December 1995, the Company sold its ownership of the Classic Line to a
limited partnership for $300,000 in cash and an unsecured promissory note which
the Company has not valued on its financial statements because payment of the
promissory note is contingent upon the limited partnership selling limited
partnership investment units in Canada. The Company also entered into a
Distribution Agreement with the limited partnership whereby the Company was
appointed as the exclusive distributor of the Classic line worldwide for a term
of twenty years.
At September 30, 1996, the Company had a working capital deficiency of
$819,737. In September and October 1996, the Company sold 6,000,000 shares of
its Common Stock for $.25 per share, generating gross proceeds of $1,500,000
which eliminated its working capital deficiency. Included in the $1,500,000 was
the conversion of $200,000 of bridge loans to equity.
In January 1997, the Company sold the remaining assets of the Classic Line
to SSC Technologies, Inc. ("SSC") for $770,850 evidenced by a promissory note
bearing interest at 10% per annum payable in January 2007 and the assumption by
SSC of all of the liabilities of the Classic Line, aggregating approximately
$500,000. Under the terms of the asset sales agreement (the "Divestiture
18
Agreement"), the Company purchased 25% of the outstanding common stock of SSC
for $500,000 in cash and the remaining 75% of the outstanding common stock was
issued to other stockholders including Charles T. Howard, David L. Green, Ding
Yang and Steven L. Wilson who were previously officers and directors of the
Company (the "SSC Principals"). As a part of the Divestiture Agreement, the SSC
Principals also (i) cancelled 900,000 shares of Convertible Preferred Stock held
by them which were previously exercisable into an equal number of shares of
Common Stock, (ii) agreed not to sell an aggregate of 454,494 shares of Common
Stock owned by them until October 1999 except with the prior written consent of
Andrew, Alexander, Wise & Company, Incorporated ("AAWC"), (iii) agreed to
sublease office space from the Company at a monthly rental of $12,000 through
February 28, 1998, (iv) granted to Steven A. Kriegsman, a director of the
Company, an option to purchase up to 150,000 shares of Common Stock held by the
SSC principals at any time until October 2001, and (v) personally guaranteed on
a joint and several basis the $770,850 promissory note and all other obligations
of SSC to the Company.
Capital expenditures relating primarily to the purchase of computer
equipment, furniture and fixtures, acquisition, and software development
amounted to $448,210 for the nine months ended September 30, 1996. Capitalized
software development costs were $442,186 for the same period.
19
BUSINESS
Introduction
Operating through PSNW, the Company provides Internet access and related
services to individuals, public agencies and businesses in five small Central
California cities. As of December 31, 1996, the Company has 2,500 subscribers
for whom it provided Internet access. The Company intends to acquire other small
Internet providers in markets with populations of less than 500,000 that are
located initially in various Central California cities between Sacramento and
Bakersfield. The Company believes that certain of these local Internet providers
currently doing business in the Company's target markets will not be able to
effectively manage the financial and administrative burdens imposed by the
continuing consumer demand for local Internet services, unless these providers
are integrated into larger, more diversified Internet products and services
companies. The Company's long-term plan is to target a select number of such
target markets and increase revenues through acquisition in such markets. The
Company is not negotiating to acquire nor has it entered into any agreement to
acquire any such Internet related companies.
The Company's strategy is to provide low cost direct Internet access to
subscribers in target markets by acquiring small Internet providers in these
markets or by establishing its own marketing operations in the target markets.
Thereafter, the Company will seek to generate additional revenues by (i)
increasing monthly Internet access fees, (ii) offering monthly community access
services, (iii) providing Internet consulting services, and (iv) generating
marketing service fees charged to businesses seeking a Web site on the Internet.
The Internet and the World Wide Web
The Internet is a worldwide network that links thousands of public and
private computer networks. The Internet began in 1969 as a project of the
Advanced Research Projects Agency ("ARPA") of the U.S. Department of Defense to
connect different types of computers across geographically disparate areas. The
ARPA network was designed to allow any computer on the network to communicate
with any other computer on the network through an open communications protocol
known as TCP/IP.
Initially, use of the Internet was limited to governmental, educational and
commercial organizations with a working knowledge of the UNIX operating system
and commands, and the primary use made of the Internet was the communication of
information via electronic mail. However, there has been a rapid growth in the
use and popularity of the Internet in the past several years. According to
industry sources, users in more than 130 countries throughout the world are
connected to the Internet including 24 million users in North America, 17.6
million of whom use the Web.
The dramatic growth in the number of Internet users is attributable to a
number of developments and factors. The first was the introduction in 1992 of
the World Wide Web ("Web"), a client/server system of hyperlinked multimedia
20
databases which began to unlock the potential of the Internet as a mass medium.
The Web, developed by the European Laboratory for Research Physics ("CERN") in
Switzerland, advanced the potential of the Internet in several significant ways.
First, it enabled full multimedia presentation (including text, graphics, video
and audio) over the Internet. Second, through the Web's system of standardized
information protocols and a communications format called HyperText Transfer
Protocol ("HTTP"), users were allowed access to information ("navigate") on the
Web without entering complex alphanumeric commands. Third, using HyperText
Markup Language ("HTML"), document authors were able to link text or images in
one document to other documents anywhere else on the Web. When the user selected
or, if using a mouse, clicked on the hypertext in one document (often displayed
on the screen as highlighted words or images), the linked document was
automatically accessed and displayed.
The Web is based on a client/server system in which certain computers
("servers"), store information in files and respond to requests issued by remote
user computers to view or download files, thus allowing multiple, geographically
dispersed users to view and use the information stored on a single server. The
user must use software, known as a browser, that can read HTML documents and
follow their hypertext links to retrieve and display linked documents from
servers such as the Company.
An early limitation to growth of the Web was that the browser software
initially provided by CERN was text-based and contained limited retrieval and
display capabilities. In January 1993, the National Center for Supercomputing
Applications ("NCSA") at the University of Illinois at Urbana-Champaign
significantly advanced the use of Web technology with the introduction of NCSA
Mosaic for X Window on the UNIX platform, the first graphical user interface
browser for the Web. The NCSA Mosaic graphical user interface allows users to
access the diverse information archives, data protocols and data formats of the
Internet using point-and-click, mouse-driven commands. NCSA Mosaic, which is
offered to users on a free- with-copyright basis (making it available for use
without charge and without the right to distribute), served as a catalyst for
increased use of the Web. When NCSA released a version of NCSA Mosaic for
Windows in September 1993, the Web became accessible to personal computer users
for the first time.
The increased popularity of the Internet is also attributable to the
proliferation of information and services available on the Internet, as well as
the expanded use of home personal computers, which increasingly contain modems
as a standard feature. Among the types of publications and information available
to Internet users are newspapers, magazines, weather updates, government
documents and industry newsletters, as well as a variety of commercial products
and services such as the Internet Waterway.
In order to support the continued growth and popularity of the Internet,
certain infrastructure elements must expand to handle the resulting increases in
Internet demand and traffic. These elements include widespread, inexpensive
Internet access, either through Internet access providers such as the Company or
on-line services, and widely available high-speed communications channels to
accommodate the increasing number and size of files available for downloading.
21
As business organizations have begun to realize the potential of the
Internet as an inexpensive and effective means of offering products and services
directly to customers and potential customers, businesses are increasingly
advertising and selling such products and services on the Web. For example,
business organizations are now using the Web to provide product information and
support to existing customers, to advertise products and services and to offer
products and services for sale by means of on-line catalogs. It is this market,
as well as Internet access, that the Company seeks to address. Industry sources
have estimated, based on registered Internet addresses, that the number of
commercial organizations as a percentage of total Internet users has increased
from approximately 30% at the beginning of 1993 to approximately 60% at the end
of 1994.
Computer users wishing to access the vast array of information and services
available on the Web use a browser that can read HTML documents, follow
hypertext links and interface with the diverse information archives and data
formats of the Web. The basic needs of most individual computer users casually
browsing the Web can be fulfilled by a number of different browsers available
today, including certain browsers that are available for no charge.
Strategy
The Company's strategy is to provide low cost direct Internet access to
subscribers by acquiring small Internet providers in target markets or by
establishing its own marketing operations in such markets. Thereafter, the
Company will seek to generate additional revenues by (i) increasing monthly
Internet access fees, (ii) offering monthly community access services, (iii)
providing Internet consulting services, and (iv) generating marketing service
fees charged to businesses seeking a Web site on the Internet.
Increasing Monthly Internet Access Fees. The Web is the driving force
behind the growth in Internet subscribers who use the Web to access information
as well as commerce and communication. The Company intends to continue to
provide low-priced direct Internet access through the Company's
telecommunication network infrastructure which is comprised of two high speed
dedicated data lines that connect directly to the backbone of the Internet. The
Company plans to add additional high-speed dedicated data lines, enhance
system-wide access software, and expand the number of points of presence (POPs)
in local markets in order to attract and support additional subscribers. By
increasing the number of POPs, the Company will offer more users access to the
Internet through local phone calls and promote continued growth in its
subscriber base.
The Company also provides Integrated Services Digital Network (ISDN) and
high-speed Internet access using dedicated data lines to business customers. The
Company believes that the demand for high-speed Internet access and the ability
to integrate Internet access into a corporate-wide computer network is becoming
increasingly more important.
22
Offering Monthly Community Access Services. Local public agencies, (such as
city agencies, police departments and libraries), are seeking to provide
information resources directly to their citizens through Community Web sites.
Believing that its subscribers will be willing to pay a recurring fee for such
community information access, the Company intends to offer such access in 1997.
Providing Internet Consulting Services. The Company provides Internet
solutions to assist businesses and their employees, including consulting
services for network setup, Internet application implementation, Intranet
design, Internet security consulting and Web site implementation.
Generating Marketing Service Fees. The Company will continue to design and
develop Web sites for its clients with sophisticated graphics to attract user
attention. The Company also provides all necessary hardware and software and
stores its clients' Web pages on its dedicated servers, which are monitored and
maintained 24 hours a day, 365 days a year.
Acquisition Strategies
The Company will seek to acquire local Internet access providers in its
Central California target markets. The criteria for such acquisition candidates
calls for attracting companies that (i) are located in markets under 500,000
population; (ii) have been in business a minimum of one year; (iii) have at
least 300 subscribers; (iv) have current owners and staff with strong technical
backgrounds, (v) enjoy strong community contacts, and (vi) offer projected
annual growth rates in excess of 200%. The Company may also seek to acquire
other small companies that provide consulting and related Internet services. The
Company is not negotiating to acquire nor has it entered into any agreement to
acquire any such Internet related companies.
Marketing
The Company primarily markets to customers who are new to the Internet, and
who seek to access information using point-and-click graphical interface.
Marketing is conducted through a small sales force which contacts prospective
customers responding to advertisements in computer, professional and business
publications. The Company also seeks customers by participating in industry
trade shows and educational seminars and through referrals from existing
customers. In addition, the Company seeks strategic alliances with local
computer retailers who offer Internet access fee discounts to their customers
and through joint advertising efforts with television and radio stations. The
Company may also distribute Internet services through retail channels.
Direct mailings, telemarketing programs, co-marketing agreements and joint
promotional efforts among organizations and individual users are strategies that
the Company may employ in the future. Finally, the Company seeks to retain
business customers and individual users through what it perceives to be
responsive customer support and services programs.
23
Competition
The Internet services business is highly competitive and there are few
significant barriers to entry. Currently, the Company competes with a number of
national and local California Internet service providers. In addition, a number
of multinational corporations, including giant communications carriers such as
AT&T, Cable and Wireless, MCI, Sprint and the regional Bell operating companies,
are offering, or have announced plans to offer, Internet access or on-line
services. The Company also faces significant competition from the on-line
service firms such as America Online (AOL), CompuServe, Delphi, Genie, Microsoft
and Prodigy. The Company believes that new competitors which may include
computer software and services, telephone, media, publishing, cable television
and other companies, are likely to enter the on-line services market.
The ability of some of the Company's competitors to bundle Internet access
software with other popular products and services could give those competitors
an advantage over the Company. For example, NETCOM, MCI and PSI offer retail
software packages and AOL and Prodigy bundle their software with new PCs.
Many of the Company's competitors possess financial resources significantly
greater than those of the Company and, accordingly, could initiate and support
prolonged price competition to gain market share. If significant price
competition were to develop, the Company might be forced to lower its prices,
possibly for a protracted period, which would have a material adverse effect on
its financial condition and results of operations and could threaten its
economic viability. In addition, the Company believes that the Internet service
and on-line services business are likely to consolidate in the future, which
could result in increased price and other competition in the industry and
consequently adversely impact the Company. A number of on-line services have
recently lowered their monthly service fees, which may cause the Company to
lower its monthly fees in order to compete.
The Company believes that the primary competitive factors among Internet
access providers are price, customer support, technical expertise, local
presence in a market, ease of use, variety of value-added services and
reliability. The Company believes it is able to compete favorably in these
areas. The Company's success in its markets will depend heavily upon its ability
to provide high quality Internet connectivity and value-added Internet services
targeted in select target markets. Other factors that will affect the Company's
success in these markets include the Company's continued ability to attract
additional experienced marketing, sales and management talent, and the expansion
of support, training and field service capabilities.
Employees
As of January 24, 1997, the Company employed 15 full-time individuals. The
Company believes it maintains good relations with its employees. None of the
Company's employees are represented by a labor union or covered by a collective
bargaining agreement.
24
Properties
In September 1994, the Company acquired, under a 20-year non-cancelable
capital lease, an office building, including land and improvements at 2580 West
Shaw, Fresno, California 93711. The lease requires initial annual minimum lease
payments lease payments of $188,000, increasing every five years to a maximum
annual payment of $338,000 in 2009. Under the lease, the Company has an option
at any time to purchase the building and land for $1,800,000 through April 30,
1997. Such amount increases to $1,900,000 through April 30, 1998. After April
30, 1998, the option amount increases annually by the percentage increase in the
Consumers Price Index, as further described in the lease. Upon exercise of the
purchase option, the principal portion of the lease payments made by the Company
will be applied toward the down payment for the purchase price based upon an
amortized 20-year note with interest accrued at 9% per annum. The Company has
leased a portion of the building to the SSC Principals based upon monthly
payments to the Company of $12,000 through February 28, 1998. The Company also
receives lease payments from another tenant in the amount of $78,000 per year.
The Company leases 4,000 square feet of space for its corporate offices and
PSNW facilities at 2300 Tulare Street, Suite 210, Fresno, California 93721. The
lease is for five years, ending May 2001 and requires minimum annual payments of
$33,600 increasing every year to a maximum of $54,000 in 2001.
25
MANAGEMENT
Officers and Directors
The name, age and position of each of the Company's executive officers and
directors are set forth below:
Officer/Director
Name Age Position Since
---- --- -------- ----------------
Raymond J. Meyers 40 Chief Executive Officer 1997
and Director
Andrew Chu 25 President, Chief Financial Officer 1995
and Director
Steven A. Kriegsman 55 Director 1997
Howard P. Silverman 56 Director 1997
Directors hold office for a period of one year from their election at the
annual meeting of stockholders or until their successors are duly elected and
qualified. Officers of the Company are elected by, and serve at the discretion
of, the Board of Directors.
In January 1997 in connection with the sale of the Company's Classic Line,
the SSC Principals resigned as officers and directors and the above four
individuals were elected executive officers and directors of the Company. See
"Certain Transactions."
Background
The following is a summary of the business experience, for at least the
last five years, of each executive officer and director of the Company:
Raymond J. Meyers became the Company's Chief Executive Officer in January
1997. From 1985 to 1996, he was employed by Transamerica Corporation holding a
variety of positions, most recently (from 1991 to 1996) as Director of Business
Services for Transamerica Telecommunications. Mr. Meyers graduated from Rutgers
University in 1979 with a Bachelor of Arts degree in Economics.
Andrew Chu became the Company's Chief Financial Officer in April 1995 and
its President and a director in January 1997. From 1992 to 1994, he was employed
at IDS Financial Services as a Financial Planner. He was the managing partner of
The Pacific Group, a consulting firm engaged in equity financing for small firms
from January 1994 to April 1995. Mr. Chu holds a B.S. degree with emphasis in
Finance from California State University of Fresno.
26
Steven A. Kriegsman has been President of the Kriegsman Group, a
privately-held Los Angeles, California based investment banking firm since 1989.
He graduated from New York University in 1964 with a Bachelor of Science degree.
Howard P. Silverman has been an independent business consultant with
emphasis on the financing of public and private companies for more than five
years. He earned a Bachelor of Science degree from City College of New York and
an O.D. degree from the Illinois College of Optometry. He is a director of
Incomnet, Inc., a publicly-held reseller of long distance services.
Executive Compensation
None of the Company's executive officers or directors currently receive
compensation in excess of $100,000 per year except Mr. Meyers who receives a
salary of $130,000 per year. In connection with his employment, Mr. Meyers was
also granted options to purchase 550,000 shares of Common Stock at $.25 per
share at any time until October 2001. No executive officers or directors as a
group received compensation in excess of $100,000 for the calendar years ended
December 31, 1996, 1995 or 1994. Compensation for all officers and directors as
a group for the calendar year ended December 31, 1996 aggregated $64,000.
The following table discloses certain compensation paid to the Company's
executive officers for the calendar years ended December 31, 1996, 1995 and
1994.
Summary Compensation Table
Long Term Compensation
Annual Compensation Awards Payouts
------------------- -----------------------
(a) (b) (c) (d) (e) (f) (g) (h) (i)
Name
and
Prin- Other All
cipal Annual Restricted Other
Posi- Compen- Stock Options/ LTIP Compen-
tion Year Salary($) Bonus($) sation($) Award(s)($) SARS(#) Payouts($) sation($)
- ---- ---- --------- -------- --------- ----------- ------- ---------- ---------
James C. 1996 $61,925 $ 0 0 0 0 0 0
Robinson 1995 61,425 5,941 0 0 0 0 0
Chief Execu- 1994 57,226 25,000 0 0 0 0 0
tive Officer
1995 Stock Option Plan
In November 1994, the Company adopted a stock option plan (the "Plan")
which provides for the grant of options intended to qualify as "incentive stock
options" and "nonqualified stock options" within the meaning of Section 422 of
the United States Internal Revenue Code of 1986 (the "Code"). Incentive stock
options are issuable only to eligible officers, directors, key employees and
consultants of the Company.
27
The Plan is administered by the Board of Directors. At December 31, 1995,
the Company had reserved 150,000 shares of Common Stock for issuance under the
Plan. Under the Plan, the Board of Directors determines which individuals shall
receive options, the time period during which the options may be partially or
fully exercised, the number of shares of Common Stock that may be purchased
under each option and the option price.
The per share exercise price of the Common Stock may not be less than the
fair market value of the Common Stock on the date the option is granted. No
person who owns, directly or indirectly, at the time of the granting of an
incentive stock option, more than 10% of the total combined voting power of all
classes of stock of the Company is eligible to receive incentive stock options
under the Plan unless the option price is at least 110% of the fair market value
of the Common Stock subject to the option on the date of grant.
No options may be transferred by an optionee other than by will or the laws
of descent and distribution, and during the lifetime of an optionee, the option
may only be exercisable by the optionee. Options may be exercised only if the
option holder remains continuously associated with the Company from the date of
grant to the date of exercise. Options under the Plan must be granted within
five years from the effective date of the Plan and the exercise date of an
option cannot be later than ten years from the date of grant. Any options that
expire unexercised or that terminate upon an optionee's ceasing to be employed
by the Company become available once again for issuance. Shares issued upon
exercise of an option will rank equally with other shares then outstanding.
As of the date of this Prospectus, no options have been granted under the
Plan.
28
PRINCIPAL STOCKHOLDERS
The following table sets forth information concerning the holdings of
Common Stock (without giving effect to any shares issuable upon exercise of the
Public Warrants or the Prior Representative's Unit Warrants) by each person who,
as of the date of this Prospectus, holds of record or is known by the Company to
hold beneficially or of record, more than 5% of the Company's Common Stock, by
each director, and by all directors and executive officers as a group. All
shares are owned beneficially and of record and all share amounts include stock
options and common stock purchase warrants exercisable within 60 days from the
date hereof. The address of all persons is in care of the Company at 2300 Tulare
Street, Suite 210, Fresno, California 93721.
Amount of Percent of
Name Ownership Class
- ---- --------- -----
Raymond J. Meyers(1) 550,000 6.6%
Andrew Chu(2) 585,000 7.0%
Steven A. Kriegsman(3) 1,765,000 18.6%
Howard P. Silverman(4) 850,000 9.9%
Andrew, Alexander, Wise &
Company, Incorporated(5) 1,350,000 14.9%
Gloria Ippolito 600,000 7.8%
Anaka Parkash 700,000 9.1%
Isaac Paschaldis 900,000 11.6%
John Benedetto 700,000 9.1%
Matthew Mulhern 400,000 5.2%
All officers and directors as
a group (4 persons)(1)(2)(3)(4) 3,750,000 32.7%
- ----------
(1) Represents stock options to purchase 550,000 shares at $.25 per share at
any time until October 2001.
(2) Represents common stock purchase warrants to purchase 585,000 shares at
$.25 per share at any time until October 2001 including 535,000 Warrants
which are being registered hereby.
(3) Represents common stock purchase warrants to purchase 1,765,000 shares at
$.25 per share at any time until October 2001 including 1,665,000 Warrants
which are being registered hereby. All common stock purchase warrants are
held by the Kriegsman Group of which Mr. Kriegsman is the President and a
principal stockholder.
(4) Represents common stock purchase warrants to purchase 850,000 shares at
$.25 per share at any time until October 2001, all of which are being
registered hereby.
(5) Represents common stock purchase warrants to purchase 1,370,000 shares at
$.25 per share at any time until October 2001, all of which are being
registered hereby.
29
SELLING STOCKHOLDERS
By this Prospectus, the Company is registering (at its expense) the
Registered Securities consisting of 6,400,000 shares of Common Stock, 4,400,000
Warrants and 4,400,000 shares of Common Stock underlying the Warrants. Each
Warrant is exercisable to purchase one share of Common Stock at $.25 per share
at any time until October 2001. The Registered Securities may be sold from time
to time in public or private open market transactions at prevailing market
prices less customary selling commissions by the Selling Stockholders whose
names are listed in the table below. The Selling Stockholders may use the
Prospectus to offer the Registered Securities for sale in transactions in which
the Selling Stockholders may be deemed to be "underwriters" within the meaning
of the 1933 Act. The Selling Stockholders acquired the Registered Securities in
private transactions with the Company between September 1996 and October 1996.
See "Certain Transactions." Certain information concerning the Selling
Stockholders and the Registered Securities is set forth below.
Number of
Number of Warrants or
Warrants Shares
Number of Number of or Shares to be
Shares Warrants Offered Owned After
Name Owned Owned For Sale Offering
---- --------- --------- -------- -----------
Andrew Chu(1) -- 535,000 535,000 50,000
Steve A. Kriegsman(1) -- 1,665,000 1,665,000 100,000
Howard P. Silverman(1) -- 850,000 850,000 -0-
Andrew, Alexander, Wise &
Company, Incorporated(2) -- 1,350,000 1,350,000 -0-
John Benedetto(2) 700,000 -- 700,000 -0-
Brian A. Brewer 100,000 -- 100,000 -0-
James Ippolito 350,000 -- 350,000 -0-
Raymond King 100,000 -- 100,000 -0-
Jack Ko 200,000 -- 200,000 -0-
Anaka Parkash(2) 700,000 -- 700,000 -0-
Isaac Paschaldis(2) 900,000 -- 900,000 -0-
Larry Pensa 350,000 -- 350,000 -0-
Francis Sajeski 100,000 -- 100,000 -0-
Jerry Silberman 100,000 -- 100,000 -0-
Rao-Qi Zhang 100,000 -- 100,000 -0-
George P. Argerakis 200,000 -- 200,000 -0-
Robert Cavallaro 100,000 -- 100,000 -0-
Ding Chu Fuh Chen 100,000 -- 100,000 -0-
Murray Frank 100,000 -- 100,000 -0-
Donald Gross 200,000 -- 200,000 -0-
Gloria Ippolito(2) 600,000 -- 600,000 -0-
Chris Meshouris 100,000 -- 100,000 -0-
James Meshouris 100,000 -- 100,000 -0-
Matthew Mulhern(2) 400,000 -- 400,000 -0-
Michael Pizite 300,000 -- 300,000 -0-
Bernard Schwartz 100,000 -- 100,000 -0-
30
George Stripas 100,000 -- 100,000 -0-
Kuei-Chi Tsai 100,000 -- 100,000 -0-
Saul Unter 100,000 -- 100,000 -0-
Osweld Valenti 100,000 -- 100,000 -0-
- ----------
(1) Officer or director of the Company. Messrs. Chu and Kriegsman own 50,000
and 100,000 common stock purchase warrants, respectively, which are not
being registered hereby.
(2) Principal stockholder of the Company.
31
CERTAIN TRANSACTIONS
Management of the Company believes that the transactions described below
were no more or less fair than the terms of transactions which the Company might
otherwise have entered into with third party nonaffiliated entities. Any related
party transactions have been and will continue to be approved by a majority of
the disinterested members of the Company's Board of Directors.
In February 1995, the Company loaned $35,000 to Charles T. Howard, the
Company's then President. Interest on the loan is payable monthly at the rate of
9% per annum and the promissory note evidencing the indebtedness is due in April
1997. The promissory note is secured by 50,000 shares of the Company's Common
Stock owned by Mr. Howard.
In November 1994, the Company issued 857,140 shares of its Convertible
Preferred Stock to five of the Company's then officers and directors, each share
of which was convertible for no additional consideration into one share of
Common Stock under certain circumstances. The Convertible Preferred Stock was
cancelled and returned to the Company by the five holders in connection with the
Divestiture Agreement described below.
In January 1997, the Company sold the remaining assets of the Classic Line
to SSC Technologies, Inc. ("SSC") for $770,850 evidenced by a promissory note
bearing interest at 10% per annum payable in January 2007 and the assumption by
SSC of all of the liabilities of the Classic Line, aggregating approximately
$500,000. Under the terms of the asset sales agreement (the "Divestiture
Agreement"), the Company purchased 25% of the outstanding common stock of SSC
for $500,000 in cash and the remaining 75% of the outstanding common stock was
issued to other stockholders including Charles T. Howard, David L. Green, Ding
Yang and Steven L. Wilson who were previously officers and directors of the
Company (the "SSC Principals"). As a part of the Divestiture Agreement, the SSC
Principals also (i) cancelled 900,000 shares of Convertible Preferred Stock held
by them which were previously exercisable into an equal number of shares of
Common Stock, (ii) agreed not to sell an aggregate of 454,494 shares of Common
Stock owned by them until October 1999 except with the prior written consent of
Andrew, Alexander, Wise & Company, Incorporated ("AAWC"), (iii) agreed to
sublease office space from the Company at a monthly rental of $12,000 through
February 28, 1998, (iv) granted to Steven A. Kriegsman, a director of the
Company, an option to purchase up to 150,000 shares of Common Stock held by the
SSC principals at any time until October 2001, and (v) personally guaranteed on
a joint and several basis the $770,850 promissory note and all other obligations
of SSC to the Company.
In October 1996, the Company issued 2,200,000 Warrants to the Kriegsman
Group ("KG") for consulting services. Steven A. Kriegsman who subsequently
became a director of the Company is the President and controlling stockholder of
KG. KG subsequently assigned 535,000 of such Warrants to Andy Chu, the Company's
President and a director. The Warrants and underlying shares are being
registered hereby. KG also assigned 50,000 of the 150,000 stock options it
received from the SSC Principals to Mr. Chu. See "Selling Stockholders."
32
In October 1996, the Company issued 2,200,000 Warrants to AAWC as
additional compensation for AAWC assisting the Company in the private placement
of 6,000,000 shares of the Company's Common Stock to a group of investors for
$.25 per share. AAWC subsequently assigned 850,000 Warrants to Howard P.
Silverman, a director of the Company. The Warrants and underlying shares are
being registered hereby. See "Selling Stockholders." The Company also paid to
AAWC a cash commission of 10% of the gross proceeds raised ($150,000) and a
nonaccountable expense allowance of 3% of such gross proceeds ($45,000). In
September 1996, AAWC and KG entered into an agreement not to sell the 2,200,000
Warrants and underlying shares owned by each party for a period of three years
without the consent of the other party.
33
DESCRIPTION OF SECURITIES
Common Stock
The Company is authorized to issue 10,000,000 shares of common stock, no
par value (the "Common Stock"), of which 7,730,001 shares are currently
outstanding. Upon issuance, the shares of Common Stock are not subject to
further assessment or call. The holders of Common Stock are entitled to one vote
for each share held of record on each matter submitted to a vote of
stockholders. Cumulative voting for election of directors is permitted. Subject
to the prior rights of any series of Preferred Stock which may be issued by the
Company in the future, holders of Common Stock are entitled to receive ratably
such dividends that may be declared by the Board of Directors out of funds
legally available therefor, and, in the event of the liquidation, dissolution or
winding up of the Company, are entitled to share ratably in all assets remaining
after payment of liabilities. Holders of Common Stock have no preemptive rights
and have no rights to convert their Common Stock into any other securities. The
outstanding Common Stock is, and the Common Stock to be outstanding upon
completion of the Offering will be, validly issued, fully paid and
nonassessable.
Public Warrants
In connection with the Prior Offering, the Company issued 690,000 Public
Warrants. Each Public Warrant represents the right to purchase one share of
Common Stock at an exercise price of $6.50 per share at any time until February
9, 1998. The exercise price and the number of shares issuable upon exercise of
the Public Warrants are subject to adjustment in certain events including the
issuance of Common Stock as a dividend on shares of Common Stock, subdivisions
or combinations of the Common Stock or similar events. The Public Warrants do
not contain provisions protecting against dilution resulting from the sale of
additional shares of Common Stock for less than the exercise price of the Public
Warrants or the current market price of the Company's securities.
Public Warrants may be redeemed in whole or in part, at the option of the
Company upon 30 days' notice, at a redemption price equal to $.01 per Public
Warrant if the closing price of the Company's Common Stock is at least $7.50 per
share for 30 consecutive trading days.
Holders of Public Warrants may exercise their Public Warrants for the
purchase of shares of Common Stock only if a current prospectus relating to such
shares is then in effect and only if such shares are qualified for sale, or
deemed to be exempt from qualification under applicable state securities laws.
The Company is required to use its best efforts to maintain a current prospectus
relating to such shares of Common Stock at all times when the market price of
the Common Stock exceeds the exercise price of the Public Warrants until the
expiration date of the Public Warrants, although there can be no assurance that
the Company will be able to do so.
34
The shares of Common Stock issuable on exercise of the Public Warrants will
be, when issued in accordance with the Public Warrants, fully paid and
non-assessable. The holders of the Public Warrants have no rights as
stockholders until they exercise their Public Warrants.
For the life of the Public Warrants, the holders thereof are given the
opportunity to profit from a rise in the market for the Company's Common Stock,
with a resulting dilution in the interest of all other stockholders. So long as
the Public Warrants are outstanding, the terms on which the Company could obtain
additional capital may be adversely affected. The holders of the Public Warrants
might be expected to exercise them at a time when the Company would, in all
likelihood, be able to obtain any needed capital by a new offering of securities
on terms more favorable than those provided by the Public Warrants.
Preferred Stock
The Company is authorized to issue 5,000,000 shares of preferred stock, no
par value (the "Preferred Stock"), none of which is currently outstanding. In
December 1994, the Company issued 900,000 shares of Preferred Stock to five of
the Company's then executive officers. All such shares were subsequently
cancelled with the agreement of the holders. The Preferred Stock may, without
action by the stockholders of the Company, be issued by the Board of Directors
from time to time in one or more series for such consideration and with such
relative rights, privileges and preferences as the Board may determine.
Accordingly, the Board has the power to fix the dividend rate and to establish
the provisions, if any, relating to voting rights, redemption rates, sinking
fund provisions, liquidation preferences and conversion rights for any series of
Preferred Stock issued in the future.
The Warrants
The Company has issued an aggregate of 4,400,000 Warrants, which, along
with the underlying 4,400,000 shares of Common Stock, are being registered
hereby. See "Selling Stockholders." Each Warrant entitles the holder to purchase
one share of Common Stock for $.25 per share at any time until October 2001.
Use of Preferred Stock As Anti-Takeover Device
It is not possible to state the actual effect of any other authorization of
Preferred Stock upon the rights of holders of Common Stock until the Board
determines the specific rights of the holders of any other series of Preferred
Stock. The Board's authority to issue Preferred Stock also provides a convenient
vehicle in connection with possible acquisitions and other corporate purposes,
but could have the effect of making it more difficult for a third party to
acquire a majority of the outstanding voting stock. Accordingly, the future
issuance of Preferred Stock may have the effect of delaying, deferring or
preventing a change in control of the Company without further action by the
stockholders and therefore, may be used as an "anti-takeover" device adversely
affecting the holders of the Common Stock and depressing the value of the Common
Stock. The Company has no current plans to issue any other Preferred Stock.
35
See "Risk Factors - Control by Management; Authorization and Issuance of
Preferred Stock; Prevention of Changes in Control."
Common Stock Eligible For Future Sale
There are currently 7,730,001 shares of Common Stock outstanding of which
690,000 shares were registered in the Company's IPO, 6,400,000 shares are being
registered hereby and the remaining 640,001 shares may be sold pursuant to Rule
144 commencing in February 1997 subject to the agreement of the holders of
454,494 shares not to sell such shares until October 1999 without the written
consent of AAWC. Any future sales may adversely affect prevailing market prices
for the Common Stock and could impair the Company's ability to raise capital
through the sale of its equity securities. The Company has also granted certain
demand and piggyback registration rights with respect to the Prior
Representative's Unit Warrants and the Common Stock underlying the Prior
Representative's Unit Warrants.
Transfer Agent and Warrant Agent
Corporate Stock Transfer, Inc., 370 Seventeenth Street, Suite 2350, Denver,
Colorado 80202, is the Company's transfer agent and warrant agent.
Dividends
The Company has not paid cash dividends on its Common Stock and does not
intend to pay any cash dividends on its Common Stock in the foreseeable future.
Earnings, if any, will be retained to finance growth. The Company has no
financing or other agreements which prohibit payment of dividends.
Limitation on Liability
The Company's Articles of Incorporation provides that liability of
directors to the Company for monetary damages is eliminated to the full extent
provided by Colorado law. Under Colorado law, a director is not personally
liable to the Company or its stockholders for monetary damages for breach of
fiduciary duty as a director except for liability arising from (i) any breach of
the director's duty of loyalty to the Company or its shareholders; (ii) acts or
omissions not in good faith or that involve intentional misconduct or a knowing
violation of law; (iii) authorizing the unlawful payment of a dividend or other
distribution on the Company's capital stock or the unlawful purchases of its
capital stock, or (iv) any transaction from which the director derived any
improper personal benefit.
The effect of this provision in the Articles of Incorporation is to
eliminate the rights of the Company and its stockholders (through stockholders'
derivative suits on behalf of the Company) to recover monetary damages from a
director for breach of the fiduciary duty of care as a director (including
breaches resulting from negligent or grossly negligent behavior) except in the
situations described above. This provision does not limit or eliminate the
rights of the
36
Company or any stockholder to seek non-monetary relief such as an injunction or
rescission in the event of a breach of a director's duty of care or any
liability for violation of the federal securities laws.
PLAN OF DISTRIBUTION
By this Prospectus, the company is registering (at its expense) the
Registered Securities consisting of 6,400,000 shares of Common Stock, 4,400,000
Warrants and 4,400,000 shares of Common Stock underlying the Warrants. Each
Warrant is exercisable to purchase one share of Common Stock at $.25 per share
at any time until October 2001. The Registered Securities may be sold from time
to time in public or private open market transactions at prevailing market
prices less customary selling commissions by the Selling Stockholders whose
names are listed in the table below. The Selling Stockholders may use the
Prospectus to offer the Registered Securities for sale in transactions in which
the Selling Stockholders may be deemed to be "underwriters" within the meaning
of the 1933 Act. The Selling Stockholders acquired the Registered Securities in
private transactions with the Company between September and October 1996. See
"Selling Stockholders" and "Certain Transactions."
LEGAL MATTERS
Certain legal matters in connection with the Offering will be passed upon
for the Company by the Law Office of Gary A. Agron, Englewood, Colorado.
EXPERTS
The financial statements of the Company for the years ended December 31,
1994 and 1995, appearing in this Prospeftus and Registration Statement, have
been audited by Angell & Deering, independent auditors, as set forth in their
report thereon appearing elsewhere herein and in the Registration Statement, and
are included in reliance upon such report given upon the authority of such firm
as experts in accounting and auditing.
37
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
INDEX TO FINANCIAL STATEMENTS
Financial Statements Page
- -------------------- ----
Proforma Unaudited Condensed Balance Sheet as of
September 30, 1996 and Statements of Operations for
the nine months ended September 30, 1996 and 1995 F-2
Independent Auditors' Report F-9
Balance Sheets as of September 30, 1996 (Unaudited)
and December 31, 1995 F-10
Statements of Operations for the nine months ended
September 30, 1996 and 1995 (Unaudited) and for
the Years Ended December 31, 1995 and 1994 F-12
Statements Of Changes in Shareholders' Equity
for the Years Ended December 31, 1995 and 1994 and
for the nine months ended September 30, 1996
(Unaudited) F-13
Statements Of Cash Flows for the nine months ended
September 30, 1996 and 1995 (Unaudited) and for
the Years Ended December 31, 1995 and 1994 F-14
Notes To Financial Statements F-16
F-1
PROTOSOURCE CORPORATION
PROFORMA CONDENSED FINANCIAL STATEMENTS
The following unaudited proforma condensed financial statements gives effect to
the divestiture of ProtoSource Corporation's (the "Company's") software
development, MarketStreet and computer training center divisions (the
"divisions") to the former management of the Company. The proforma condensed
financial statements are based on the Company's historical financial statements
and estimates and assumptions set forth below.
The proforma condensed balance sheet as of September 30, 1996 gives effect to
the divestiture of the divisions to the former management of the Company as if
the sale took place on September 30, 1996.
The proforma condensed statement of operations for the nine months ended
September 30, 1996 includes the divestiture of the divisions as if the
transaction was completed at the beginning of the year. The proforma condensed
statement of operations for the nine months ended September 30, 1995 includes
the divestiture of the divisions as if the transaction was completed at the
beginning of the year.
Proforma adjustments are based upon preliminary estimates, available information
and certain assumptions that management deems appropriate. The unaudited
proforma financial information presented herein is not necessarily indicative of
the results of operations or financial position that the Company would have
obtained had such events occurred at the beginning of the period, as assumed, or
of the future results of the Company. The proforma financial statements should
be read in conjunction with the historical financial statements and notes
thereto included in the Company's Annual Report on Form 10-KSB for the year
ended December 31, 1995 and the Company's Quarterly Report on Form 10-QSB for
the nine months ended September 30, 1996.
F-2
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
PROFORMA CONDENSED BALANCE SHEET
SEPTEMBER 30, 1996
(UNAUDITED)
ASSETS
------
Proforma Proforma
ProtoSource Adjustments Combined
----------- ----------- --------
Current Assets:
Cash and cash equivalents $ 2,370 $1,070,000 (1) $1,072,370
250,000 (2)
(250,000)(3)
Accounts receivable, net of allowance
for doubtful accounts of $199,848 and $-0-,
as adjusted 178,256 (129,438)(3) 48,818
Inventories 50,288 (50,288)(3) --
Deposits and other current assets 46,775 (20,000)(1) 14,275
(12,500)(3)
---------- ---------- ----------
Total Current Assets 277,689 857,774 1,135,463
---------- ---------- ----------
Property and Equipment, at cost:
Land 411,176 -- 411,176
Building and improvements 1,389,590 -- 1,389,590
Equipment 738,947 (67,806)(3) 671,141
Furniture 132,750 (38,375)(3) 94,375
Vehicles 10,090 -- 10,090
---------- ---------- ----------
2,682,553 (106,181) 2,576,372
Less accumulated depreciation and
amortization 423,789 (31,732)(3) 392,057
---------- ---------- ----------
Net Property and Equipment 2,258,764 (74,449) 2,184,315
---------- ---------- ----------
Other Assets:
Software development costs, net of (250,000)(2)
accumulated amortization of $895,868 710,215 (460,215)(3) --
Deferred tax assets 71,550 -- 71,550
Note receivable 35,000 (35,000)(3) 770,850
770,850 (3)
Deposits and other assets 74,141 -- 74,141
---------- ---------- ----------
Total Other Assets 890,906 25,635 916,541
---------- ---------- ----------
Total Assets $3,427,359 $ 808,960 $4,236,319
========== ========== ==========
The accompanying notes are an integral
part of these unaudited proforma condensed financial statements.
F-3
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
PROFORMA CONDENSED BALANCE SHEET
SEPTEMBER 30, 1996
(UNAUDITED)
LIABILITIES AND SHAREHOLDERS' EQUITY
------------------------------------
Proforma Proforma
ProtoSource Adjustments Combined
----------- ----------- --------
Current Liabilities:
Accounts payable $ 417,194 $(275,438)(3) $ 141,756
Accrued liabilities 294,710 (81,611)(3) 213,099
Customer deposits 44,415 -- 44,415
Notes payable 200,000 (200,000)(1) --
Current portion of long-term debt 116,008 -- 116,008
Unearned customer support revenue 25,099 (25,099)(3) --
----------- --------- ----------
Total Current Liabilities 1,097,426 (582,148) 515,278
----------- --------- ----------
Long-Term Debt, net of current portion above:
Bank 3,130 -- 3,130
Individuals 45,907 (45,907)(3) --
Obligations under capital leases 1,801,161 -- 1,801,161
Less current portion above (116,008) -- (116,008)
----------- --------- ----------
Total Long-Term Debt 1,734,190 (45,907) 1,688,283
----------- --------- ----------
Commitments and contingencies -- -- --
Shareholders' Equity:
Preferred stock, no par value;
5,000,000 shares authorized, 900,000
shares issued and outstanding, -0- adjusted -- -- (4) --
Common stock, no par value; 10,000,000
shares authorized, 1,330,001 shares
issued and outstanding, 7,730,001 as adjusted 3,464,286 1,350,000 (1) 4,814,286
Retained earnings (deficit) (2,868,543) 187,015 (3) (2,781,528)
(100,000)(1)
----------- --------- ----------
Total Shareholders' Equity 595,743 1,437,015 2,032,758
----------- --------- ----------
Total Liabilities and Shareholders'
Equity $ 3,427,359 $ 808,960 $4,236,319
=========== ========= ==========
The accompanying notes are an integral
part of these unaudited proforma condensed financial statements.
F-4
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
PROFORMA CONDENSED STATEMENT OF OPERATIONS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1996
(UNAUDITED)
Proforma Proforma
ProtoSource Adjustments Combined
----------- ----------- --------
Net Revenues:
Product sales $ 19,120 $ (19,120) (5) $ --
Hardware equipment sales 244,366 (244,366) (5) --
Professional service fees 808,949 (265,993) (5) 542,956
Other -- -- --
---------- --------- ---------
Total Revenues 1,072,435 (529,479) 542,956
---------- --------- ---------
Operating Expenses:
Cost of product sales 132,339 (132,339) (5) --
Cost of hardware equipment sales 204,236 (204,236) (5) --
Cost of professional services 342,612 113,648 (5) 456,260
Sales and marketing 384,808 (384,808) (5) --
Research and development 213,126 (213,126) (5) --
General and administrative 419,624 (113,648) (5) 305,976
---------- --------- ---------
Total Operating Expenses 1,696,745 (934,509) 762,236
---------- --------- ---------
Operating Loss (624,310) 405,030 (219,280)
---------- --------- ---------
Other Income (Expense):
Interest income 1,140 -- 1,140
Interest expense (137,007) -- (137,007)
Financing costs -- -- --
Rent income -- 108,000 (6) 108,000
Other, net 78,189 -- 78,189
---------- --------- ---------
Total Other Income (Expense) (57,678) 108,000 50,322
---------- --------- ---------
Loss Before Provision
(Benefit) For Income Taxes (681,988) 513,030 (168,958)
Provision (benefit) for income taxes -- -- --
---------- --------- ---------
Net Loss $ (681,988) $ 513,030 $(168,958)
========== ========= =========
Net Loss Per Share of Common
Stock $ (.51) $ (.02)
========== =========
Weighted Average Number of
Common Shares Outstanding 1,330,001 7,730,001
========== =========
The accompanying notes are an integral
part of these unaudited proforma condensed financial statements.
F-5
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
PROFORMA CONDENSED STATEMENT OF OPERATIONS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1995
(UNAUDITED)
Proforma Proforma
ProtoSource Adjustments Combined
----------- ----------- --------
Net Revenues:
Product sales $ 283,029 $ (283,029) (5) $ --
Hardware equipment sales 801,316 (801,316) (5) --
Professional service fees 426,963 (404,493) (5) 22,470
Other -- -- --
---------- ----------- ---------
Total Revenues 1,511,308 (1,488,838) 22,470
---------- ----------- ---------
Operating Expenses:
Cost of product sales 227,250 (227,250) (5) --
Cost of hardware equipment sales 632,904 (632,904) (5) --
Cost of professional services 209,493 (133,947) (5) 75,546
Sales and marketing 443,528 (443,528) (5) --
Research and development 315,684 (315,684) (5) --
General and administrative 401,424 -- 401,424
---------- ----------- ---------
Total Operating Expenses 2,230,283 (1,753,313) 476,970
---------- ----------- ---------
Operating Loss (718,975) 264,475 (454,500)
---------- ----------- ---------
Other Income (Expense):
Interest income 48,255 -- 48,255
Interest expense (122,266) -- (122,266)
Financing costs -- -- --
Rent income -- 108,000 (6) 108,000
Other, net 83,893 -- 83,893
---------- ----------- ---------
Total Other Income (Expense) 9,882 108,000 117,882
---------- ----------- ---------
Loss Before Provision
(Benefit) For Income Taxes (709,093) 372,475 (336,618)
Provision (benefit) for income taxes (170,183) -- (170,183)
---------- ----------- ---------
Net Loss $ (538,910) $ 372,475 $(166,435)
========== =========== =========
Net Loss Per Share of Common
Stock $ (.45) $ (.02)
========== =========
Weighted Average Number of
Common Shares Outstanding 1,205,441 7,605,441
========== =========
The accompanying notes are an integral
part of these unaudited proforma condensed financial statements.
F-6
PROTOSOURCE CORPORATION
NOTES TO PROFORMA CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
1. Basis of Presentation
---------------------
In 1996, the Company retained the Kriegsman Group ("Kriegsman"), a
financial consulting firm, to assist it with a financial restructuring of
its operations. Kriegsman was to use its best efforts to provide a minimum
of $1,500,000 of financing for the Company through bridge loans or equity
financing. In August 1996, a bridge loan of $200,000 was obtained by the
Company for which the Company issued 400,000 shares of common stock to the
bridge lenders as additional consideration for the $200,000 loan. In
October and November 1996 the Company sold 6,000,000 shares of its common
stock at $.25 per share through an Underwriter, which included the
conversion of the $200,000 bridge loan into common stock. The Company paid
the Underwriter a 10% sales commission and a 3% nonaccountable expense
allowance on the bridge loan and sale of common stock. The Company also
entered into a two year financial consulting agreement with the Underwriter
which provides for a monthly consulting fee of $5,000 for the two year
period.
As a part of the financing transaction, the Company granted both the
Underwriter and Kriegsman warrants to purchase common stock. The Company
granted 2,200,000 warrants to each which are exercisable at $.25 per share
for a four year period through October 31, 2001. The Company also agreed to
use its best efforts to file a Registration Statement within 90 days of the
closing of the Private Placement to register the shares issued in the
Private Placement and the shares underlying the warrants issued to the
Underwriter and Kriegsman.
In connection with the financial restructuring the Company agreed to divest
the software development, MarketStreet and the computer training center
divisions. The divisions were spun-off to a new Company owned by the former
management of the Company on December 31, 1996. All of the assets of the
three divisions and the related liabilities and facilities leases were
assumed by the former management. Also included in the assets of the
divested divisions will be $500,000 in cash less expenses of the divested
divisions paid prior to closing. The management of the divested divisions
will also assume all litigation and claims related to the divisions which
includes one law suit in the amount of approximately $70,000. The Kriegsman
Group will also nominate new members for the Board of Directors upon
completion of the divestiture of the three divisions. The Company will
receive a 25% ownership interest in the common stock of the new company
formed to acquire the divested divisions and the divested divisions will
lease the principal office from the Company for a period of eighteen months
at the current market rate.
F-7
PROTOSOURCE CORPORATION
NOTES TO PROFORMA CONDENSED FINANCIAL STATEMENTS
(UNAUDITED)
2. Proforma Net Income (Loss) Per Share of Common Stock
------------------------------------------------------
The proforma net income (loss) per share of common stock is based on the
weighted average number of common shares outstanding during the period. The
shares issued in the Private Placement described above are given effect to
as if they were issued at the beginning of the period for each period
presented in the proforma combined calculations.
3. Proforma Adjustments
--------------------
Adjustments to present the proforma combined condensed financial statements
are as follows:
1. Adjustment to record the sale of 6,000,000 shares of common stock at
$.25 per share, which includes conversion of the $200,000 Bridge Loan
into common stock, net of offering expenses of approximately $250,000.
Also includes issuance of 400,000 shares of common stock as additional
consideration to the bridge lenders.
2. Adjustment to record the receipt of approximately $250,000 from the
sale of additional interest in the Software, net of expenses.
3. Adjustment to record the divestiture of the assets and liabilities of
the divested divisions.
4. Adjustment to record cancellation of all of the outstanding Preferred
Stock of the Company in accordance with the terms of the Divestiture
Agreement.
5. Adjustment to remove the operations of the divested divisions for the
period.
6. Adjustment to record rent income for the sublease of office space to
the divested divisions of $12,000 per month.
F-8
INDEPENDENT AUDITORS' REPORT
To the Board of Directors
ProtoSource Corporation
We have audited the accompanying balance sheet of ProtoSource Corporation
(formerly SHR Corporation dba Software Solutions Company) as of December 31,
1995 and the related statements of operations, changes in shareholders' equity
and cash flows for the years ended December 31, 1995 and 1994. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of ProtoSource Corporation as of
December 31, 1995 and the results of its operations and its cash flows for the
years ended December 31, 1995 and 1994 in conformity with generally accepted
accounting principles.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As shown in the financial statements,
the Company incurred a net loss of $1,816,285 during the year ended December 31,
1995. As discussed in Note 1 to the financial statements, the Company's
significant operating losses raise substantial doubt about its ability to
continue as a going concern. The financial statements do not include any
adjustments that might result from the outcome of this uncertainty.
Angell & Deering
Certified Public Accountants
Denver, Colorado
February 23, 1996
F-9
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
BALANCE SHEETS
ASSETS
------
September 30, December 31,
1996 1995
------------ ------------
(Unaudited)
Current Assets:
Cash and cash equivalents $ 2,370 $ 138,646
Accounts receivable, net of allowance
for doubtful accounts of $199,848 178,256 214,109
Inventories 50,288 16,059
Deposits and other current assets 46,775 21,252
---------- ----------
Total Current Assets 277,689 390,066
---------- ----------
Property and Equipment, at cost:
Land 411,176 411,176
Building and improvements 1,389,590 1,389,590
Equipment 738,947 633,224
Furniture 132,750 131,895
Vehicles 10,090 18,628
---------- ----------
2,682,553 2,584,513
Less accumulated depreciation and
amortization 423,789 287,441
---------- ----------
Net Property and Equipment 2,258,764 2,297,072
---------- ----------
Other Assets:
Software development costs, net of
accumulated amortization of $895,868
and $763,614, respectively 710,215 400,368
Deferred tax assets 71,550 71,550
Note receivable 35,000 35,000
Deposits and other assets 74,141 75,355
---------- ----------
Total Other Assets 890,906 582,273
---------- ----------
Total Assets $3,427,359 $3,269,411
========== ==========
The accompanying notes are an integral
part of these financial statements.
F-10
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
BALANCE SHEETS
LIABILITIES AND SHAREHOLDERS' EQUITY
------------------------------------
September 30, December 31,
1996 1995
------------- ------------
(Unaudited)
Current Liabilities:
Accounts payable $ 417,194 $ 195,158
Accrued liabilities 294,710 77,736
Customer deposits 44,415 5,500
Notes payable 200,000 5,000
Current portion of long-term debt 116,008 101,551
Unearned customer support revenue 25,099 34,542
----------- -----------
Total Current Liabilities 1,097,426 419,487
----------- -----------
Long-Term Debt, net of current portion above:
Bank 3,130 5,723
Individuals 45,907 29,843
Obligations under capital leases 1,801,161 1,792,970
Less current portion above (116,008) (101,551)
----------- -----------
Total Long-Term Debt 1,734,190 1,726,985
----------- -----------
Commitments and contingencies -- --
Shareholders' Equity:
Preferred stock, no par value;
5,000,000 shares authorized, 900,000
shares issued and outstanding -- --
Common stock, no par value; 10,000,000
shares authorized, 1,330,001 shares
issued and outstanding 3,464,286 3,309,494
Retained earnings (deficit) (2,868,543) (2,186,555)
----------- -----------
Total Shareholders' Equity 595,743 1,122,939
----------- -----------
Total Liabilities and Shareholders'
Equity $ 3,427,359 $ 3,269,411
=========== ===========
The accompanying notes are an integral
part of these financial statements.
F-11
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
STATEMENTS OF OPERATIONS
Nine Months Ended September 30, Years Ended December 31,
------------------------------- ------------------------
1996 1995 1995 1994
---- ---- ---- ----
(Unaudited)
Net Revenues:
Product sales $ 19,120 $ 283,029 $ 283,029 $ 144,736
Hardware equipment sales 244,366 801,316 942,101 983,690
Professional service fees 808,949 426,963 609,836 680,528
Other -- -- -- 22,436
----------- ---------- ----------- ----------
Total Revenues 1,072,435 1,511,308 1,834,966 1,831,390
----------- ---------- ----------- ----------
Operating Expenses:
Cost of product sales 132,339 227,250 412,258 180,830
Cost of hardware equipment sales 204,236 632,904 719,698 743,528
Cost of professional services 342,612 209,493 307,743 350,454
Sales and marketing 384,808 443,528 640,819 275,267
Research and development 213,126 315,684 495,254 231,625
General and administrative 419,624 401,424 1,079,503 257,250
----------- ---------- ----------- ----------
Total Operating Expenses 1,696,745 2,230,283 3,655,275 2,038,954
----------- ---------- ----------- ----------
Operating Loss (624,310) (718,975) (1,820,309) (207,564)
----------- ---------- ----------- ----------
Other Income (Expense):
Interest income 1,140 48,255 50,891 742
Interest expense (137,007) (122,266) (160,192) (64,167)
Financing costs -- -- -- (260,000)
Rent income -- -- 124,356 62,645
Other, net 78,189 83,893 (10,231) 13,919
----------- ---------- ----------- ----------
Total Other Income (Expense) (57,678) 9,882 4,824 (246,861)
----------- ---------- ----------- ----------
Loss Before Provision
(Benefit) For Income Taxes (681,988) (709,093) (1,815,485) (454,425)
Provision (benefit) for income taxes -- (170,183) 800 (81,329)
---------- ---------- ----------- ----------
Net Loss $ (681,988) $ (538,910) $(1,816,285) $ (373,096)
========== ========== =========== ==========
Net Loss Per Share of Common
Stock $ (.51) $ (.45) $ (1.47) $ (.62)
========== ========== =========== ==========
Weighted Average Number of
Common Shares Outstanding 1,330,001 1,205,441 1,236,590 598,719
========== ========== =========== ==========
The accompanying notes are an integral
part of these financial statements.
F-12
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
STATEMENTS OF SHAREHOLDERS' EQUITY
Series A
Preferred Stock Common Stock Retained
--------------- ------------ Earnings
Shares Amount Shares Amount (Deficit)
------ ------ ------ ------ ---------
Balance at December 31, 1993 -- $ -- 571,430 $ 52,195 $ 2,826
Issuance of common stock -- -- 28,571 31,400 --
Issuance of common stock -- -- 40,000 220,000 --
Issuance of preferred stock 900,000 -- -- -- --
Net loss -- -- -- -- (373,096)
------- ---- --------- ---------- ---------
Balance at December 31, 1994 900,000 -- 640,001 303,595 (370,270)
Issuance of common stock and warrants
in public offering (net of offering
costs of $808,476) -- -- 690,000 2,986,524 --
Contribution of shares to the Company
by officers and directors for issuance
in connection with an acquisition -- -- -- 19,375 --
Net loss -- -- -- -- (1,816,285)
------- ---- --------- ----------- ---------
Balance at December 31, 1995 900,000 -- 1,330,001 3,309,494 (2,186,555)
Contribution of capital by officers
through forgiveness of previously
accrued salaries (unaudited) -- -- -- 154,792 --
Net loss (unaudited) -- -- -- -- (681,988)
------- ---- --------- ---------- -----------
Balance at September 30, 1996
(unaudited) 900,000 $ -- 1,330,001 $3,464,286 $(2,868,543)
======= ==== ========= ========== ===========
The accompanying notes are an integral
part of these financial statements.
F-13
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
STATEMENTS OF CASH FLOWS
Nine Months Ended September 30, Years Ended December 31,
------------------------------- ------------------------
1996 1995 1995 1994
---- ---- ---- ----
(Unaudited)
Cash Flows From Operating Activities:
Net loss $(681,988) $ (538,910) $(1,816,285) $(373,096)
Adjustments to reconcile net
loss to net cash provided
by operating activities:
Depreciation and amortization 268,687 337,933 584,810 234,164
Provision for bad debts -- -- 508,187 67,354
Deferred income taxes -- (164,987) -- (83,971)
Compensation from issuance
of common stock -- -- -- 24,350
Issuance of common stock for
costs of financing -- -- -- 220,000
Changes in operating assets
and liabilities:
Accounts receivable 35,853 (537,852) (499,436) (223,467)
Inventories (34,229) (95,083) (4,625) (5,204)
Deposits and other assets (5,523) (55,585) (18,814) (42,852)
Accounts payable 222,036 (200,303) (150,623) 295,956
Accrued liabilities 371,766 23,760 (10,618) 53,772
Customer deposits 38,915 24,254 (12,213) (79,154)
Unearned customer support revenue (9,443) (3,867) (5,286) 100
--------- ----------- ----------- ---------
Net Cash Provided (Used) By
Operating Activities 206,074 (1,210,640) (1,424,903) 87,952
--------- ----------- ----------- ---------
Cash Flows From Investing Activities:
Purchases of property and equipment (7,238) (454,939) (403,591) (89,151)
Software development costs capitalized (442,186) (500,781) (592,754) (250,702)
Receivable from shareholders -- -- (35,000) 17,966
Other 1,214 (11,778) -- (4,000)
--------- ----------- ----------- ---------
Net Cash (Used) By Investing
Activities (448,210) (967,498) (1,031,345) (325,887)
--------- ----------- ----------- ---------
Cash Flows From Financing Activities:
Proceeds from line of credit, net -- -- -- 35,000
Payments on notes payable (106,140) (564,753) (625,998) (34,408)
Proceeds from borrowing 232,000 -- 20,000 400,010
Issuance of common stock -- 3,795,000 3,795,000 7,050
Deferred offering costs (20,000) (619,990) (619,990) (188,487)
---------- ----------- ----------- ---------
Net Cash Provided By Financing
Activities 105,860 2,610,257 2,569,012 219,165
--------- ----------- ----------- ---------
Net Increase (Decrease) in Cash
and Cash Equivalents (136,276) 432,119 112,764 (18,770)
Cash and Cash Equivalents at
Beginning of Period 138,646 25,882 25,882 44,652
--------- ----------- ----------- ----------
Cash and Cash Equivalents at
End of Period $ 2,370 $ 458,001 $ 138,646 $ 25,882
========= =========== =========== ==========
The accompanying notes are an integral
part of these financial statements.
F-14
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
STATEMENTS OF CASH FLOWS
Nine Months Ended September 30, Years Ended December 31,
------------------------------- ------------------------
1996 1995 1995 1994
---- ---- ---- ----
(Unaudited)
Supplemental Disclosure of
Cash Flow Information:
Cash paid during the period for:
Interest $ 137,007 $ 122,266 $ 174,251 $ 50,108
Income taxes -- -- 800 2,800
Supplemental Disclosure of Noncash
Investing and Financing Activities:
Acquisition of equipment
under capital leases $ 90,802 $ -- $ 118,701 $ 32,064
Acquisition of land and building and
improvements under capital lease -- -- -- 1,760,000
Purchase of assets for notes payable -- -- -- 49,090
Common stock contributed by stockholders
for issuance in acquisition by the
Company -- -- 19,375 --
Capital contribution by officers through
forgiveness of previously accrued salaries 154,792 -- -- --
The accompanying notes arean integral
part of these financial statements.
F-15
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
NOTES TO FINANCIAL STATEMENTS
1. Summary of Significant Accounting Policies
------------------------------------------
Description of Business
-----------------------
ProtoSource Corporation, formerly SHR Corporation, doing business as
Software Solutions Company (the "Company"), was incorporated on July 1,
1988, under the laws of the state of California. The Company is a software
developer and computer systems integrator in the agriculture and general
business application market and is an Internet services provider.
Basis of Presentation
---------------------
The accompanying financial statements have been prepared on a going concern
basis, which contemplates the realization of assets and the satisfaction of
liabilities in the normal course of business. The financial statements do
not include any adjustments relating to the recoverability and
classification of recorded asset amounts or the amount and classification
of liabilities that might be necessary should the Company be unable to
continue as a going concern. The Company's continuation as a going concern
is dependent upon its ability to generate sufficient cash flow to meet its
obligations on a timely basis, to obtain additional financing as may be
required, and to increase sales to a level where the Company becomes
profitable. Additionally, the Company has experienced significant cash
liquidity shortfalls from operations.
The Company's continued existence is dependent upon its ability to achieve
its operating plan. Management's plan consists of the following:
1. Sale of certain assets of the Company.
2. Reduction of cash shortfalls as a result of downsizing
in general and administrative and research and
development expenditures.
3. Potential exercise of outstanding common stock
purchase warrants.
4. Obtaining additional equity capital through the sale
of common stock.
If management cannot achieve its operating plan because of sales shortfalls
or other unfavorable events, the Company may find it necessary to dispose
of assets, or undertake other actions as may be appropriate.
Unaudited Interim Financial Statements
--------------------------------------
The financial statements as of September 30, 1996 and for the nine months
ended September 30, 1996 and 1995 are unaudited, however, in the opinion of
management of the Company, all adjustments (consisting solely of normal
recurring adjustments) necessary to a fair presentation of the financial
statements for the interim periods have been made.
F-16
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
NOTES TO FINANCIAL STATEMENTS
1. Summary of Significant Accounting Policies (Continued)
------------------------------------------------------
Amendment to Authorized Common and Preferred Shares and Stock Split
-------------------------------------------------------------------
On June 20, 1994, the Company's shareholders adopted a resolution approving
a 101.3171 for one stock split of the issued and outstanding common shares,
effective July 1, 1994. In October 1994, the company's Board of Directors
authorized and the shareholders approved, an amendment and restatement of
the Company's Articles of Incorporation, to increase the number of
authorized shares of common stock to 10,000,000 shares and to authorize the
issuance of up to 5,000,000 shares of preferred stock. All share
information and per share data have been restated for all periods presented
to reflect the stock split and increase in authorized shares.
Revenue Recognition
-------------------
Product sales represent sales of application software to end users.
Equipment sales represent sales of computer and peripheral equipment
bundled with the Company's software. Professional service fees represent
revenue from custom programming, post contract customer support (PCS)
agreements and training and installation related services. Fees associated
with insignificant vendor obligations related to installation of systems
are deferred and recognized upon completion of performance. Other income
represents primarily sales of promotional brochures, marketing materials
and sales of miscellaneous equipment and supplies.
Revenue from product sales is recognized upon delivery to the customer,
provided that no significant vendor or PCS obligations remain, and
collection of the related receivable is deemed probable. Revenue from PCS
agreements is recognized on a straight-line basis over the period of the
PCS agreement.
Net revenues consist of sales, less discounts. Through December 31, 1995,
the Company has not had significant sales returns or experienced
significant warranty costs.
Cash and Cash Equivalents
-------------------------
For purposes of the statements of cash flows, the Company considers all
highly liquid investments with a maturity of three months or less to be
cash equivalents.
Inventories
-----------
Inventories, consisting of computer equipment and supplies held for resale,
are stated at the lower of cost (determined on the first in, first out
method) or market.
F-17
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
NOTES TO FINANCIAL STATEMENTS
1. Summary of Significant Accounting Policies (Continued)
------------------------------------------------------
Property and Equipment
----------------------
Depreciation and amortization of equipment, furniture and vehicles are
computed using the straight-line method over estimated useful lives of
three to seven years. Assets held under capital lease obligations,
exclusive of land, are amortized using the straight-line method over the
shorter of the useful lives of the assets or the term of the lease.
Depreciation of property and equipment charged to operations was $171,695
and $50,845 for the years ended December 31, 1995 and 1994, respectively.
Software Development Costs
--------------------------
Software development costs are capitalized with respect to those products
for which technological feasibility (as defined in Statement of Financial
Accounting Standards No. 86) has been established. Capitalized amounts are
reported at the lower of unamortized cost or net realizable value. These
costs are amortized into cost of goods sold on a product-by-product basis.
The annual amortization expense is the greater of the amount computed using
the ratio of current revenue to the total anticipated revenue for the
product or the straight-line method over the estimated life of the product
starting when the product is available for general release to customers.
Generally, the Company amortizes these costs over three years. Software
development costs capitalized relate primarily to product enhancements.
Amortization expense for capitalized software was $412,258 and $183,163 for
the years ended December 31, 1995 and 1994, respectively.
Deferred Offering Costs
-----------------------
In connection with the Company's public offering (Note 6), costs incurred
to complete the offering have been deferred and were offset against the
proceeds of the offering.
Income Taxes
------------
The Company adopted Statement of Financial Accounting Standards No. 109,
"Accounting for Income Taxes," in 1992. Under the statement, deferred
income taxes are provided for temporary differences between the financial
reporting and tax bases of assets and liabilities using enacted tax laws
and rates for the years when the differences are expected to reverse.
The Company had a fiscal year-end of June 30 for income tax reporting
purposes. The Company changed its fiscal year-end for income tax reporting
to December 31 to conform with its fiscal year for financial reporting
purposes.
F-18
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
NOTES TO FINANCIAL STATEMENTS
1. Summary of Significant Accounting Policies (Continued)
------------------------------------------------------
Net Income (Loss) Per Share of Common Stock
-------------------------------------------
Net income (loss) per share of common stock is based upon the weighted
average number of shares of common stock and common stock equivalents
outstanding during the year. Common stock equivalents represent the
dilutive effect of the assumed exercise of certain outstanding stock
options and warrants.
Estimates
---------
The preparation of the Company's financial statements in conformity with
generally accepted accounting principles requires the Company's management
to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities
at the date of the financial statements and the reported amount of revenues
and expenses during the reporting period. Actual results could differ from
those estimates.
2. Current Notes Payable
---------------------
Bank
----
Installment note due October 1996, monthly
principal payments of $500 plus interest at
the Bank's base rate plus 1.5% (10.0% at
December 31, 1995), collateralized by
substantially all assets of the Company. $ 5,000
========
3. Long-Term Debt
--------------
Long-term debt consists of the following:
Bank
----
10.5% installment note due in 1997 with monthly
principal and interest payments of $328,
collateralized by an automobile. $ 5,723
Individuals
-----------
10% unsecured installment note due in 1996 with
monthly principal and interest payments of $829
with a balloon payment due in 1996. 29,843
Obligations Under Capital Leases
--------------------------------
5.7% to 20.1% installment notes due in 1997 to
2000, collateralized by equipment. 156,392
9% capital lease for building and land with
a 20 year lease term, with monthly principal
and interest payments of $15,634 for the
first five years, $19,021 for the next five
years, $23,142 for the next five years and
$28,156 for the next five years with an
escalating purchase option (Note 7). 1,636,578
---------
F-19
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
NOTES TO FINANCIAL STATEMENTS
3. Long-Term Debt (Continued)
--------------------------
Total Long-Term Debt $1,828,536
Less current portion of long-term debt (101,551)
----------
Long-Term Debt $1,726,985
==========
Installments due on debt principal, including the capital leases, at
December 31, 1995 are as follows:
Year Ending
December 31,
1996 $ 101,551
1997 98,600
1998 83,061
1999 75,827
2000 99,547
Later years 1,369,950
---------
Total $1,828,536
==========
4. Income Taxes
------------
The components of the provision (benefit) for income taxes are as follows:
1995 1994
---- ----
Current:
Federal $ -- $ 654
State 800 1,988
-------- ---------
Total 800 2,642
-------- ---------
Deferred:
Federal -- (64,109)
State -- (19,862)
-------- ---------
Total -- (83,971)
-------- ---------
Total Provision For Income Taxes $ 800 $ (81,329)
======== =========
The provision (benefit) for income taxes reconciles to the amount computed
by applying the federal statutory rate to income before the provision
(benefit) for income taxes as follows:
1995 1994
---- ----
Federal statutory rate (25)% (15)%
State franchise taxes,
net of federal benefits (4) (4)
Valuation allowance 29 --
Other -- 1
------ -----
Total -- % (18)%
====== =====
Significant components of deferred income taxes as of December 31, 1995 are
as follows:
F-20
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
NOTES TO FINANCIAL STATEMENTS
4. Income Taxes (Continued)
------------------------
Net operating loss carryforward $ 682,110
Vacation accrual 2,070
Allowance for bad debts 61,560
---------
Total deferred tax asset 745,740
---------
Software development costs (115,340)
Accelerated depreciation (27,390)
State income taxes (1,520)
---------
Total deferred tax liability (144,250)
Less valuation allowance (529,940)
---------
Net Deferred Tax Asset $ 71,550
=========
The Company has assessed its past earnings history and trends, sales
backlog, budgeted sales, and expiration dates of carryforwards and has
determined that it is more likely than not that $71,550 of deferred tax
assets will be realized. The remaining valuation allowance of $529,940 is
maintained on deferred tax assets which the Company has not determined to
be more likely than not realizable at this time. The Company will continue
to review this valuation on a quarterly basis and make adjustments as
appropriate.
At December 31, 1995, the Company had federal and California net operating
loss carryforwards of approximately $2,500,000 and $1,200,000,
respectively. Such carryforwards expire in the years 2007 through 2010 and
1997 through 2000 for federal and California purposes, respectively.
5. Acquisitions
------------
In June 1994, the Company purchased, from an unrelated individual, certain
assets of a computer education and training business, consisting primarily
of equipment and supplies, for $5,000 in cash and a note payable in the
amount of $39,000. The note bears interest at 10% and is payable in monthly
installments, including interest, of $829 through July 1996, when the
remaining balance becomes due and payable.
In July 1995, the Company purchased, from an unrelated individual certain
assets of ValleyNet Communications, an Internet services provider. The
purchase price was $50,000 in cash and 5,000 shares of the Company's common
stock. The common stock was issued by the Company's shareholders in
accordance with their agreement to use certain of their shares owned
individually in connection with future acquisitions of the Company (Note
8). The assets acquired consists of computer hardware and software, and
goodwill of $21,245 was recorded in connection with the acquisition. The
goodwill will be amortized over a fifteen year useful life.
F-21
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
NOTES TO FINANCIAL STATEMENTS
6. Shareholders' Equity
--------------------
Incentive Stock Option Plan
---------------------------
In November 1994, the Company's Board of Directors authorized and the
shareholders approved, a stock option plan which provides for the grant of
incentive and nonqualified options to eligible officers and key employees
of the Company to purchase up to 150,000 shares of the Company's common
stock. The purchase price of such shares shall be at least equal to the
fair market value at the date of grant. Such options vest at the discretion
of the Board of Directors, generally over a four-year period. The stock
option plan expires in 2004. As of December 31, 1995, no options have been
granted under the Plan.
Preferred Stock
---------------
In December 1994, the Company issued to six individuals, including the
Company's five executive officers, for no consideration, a total of 900,000
shares of Series A Convertible Preferred Stock, no par value. Such shares
are automatically convertible, in varying amounts per year, into an
equivalent number of shares of common stock through 2003 if certain revenue
and net income milestones are met as follows:
(i) an aggregate of 9,375 shares of Series A Preferred Stock will
convert to common stock if the Company reports gross annual revenues
of at least $9,600,000 and annual after tax earnings of at least
$1,550,000 for the calendar year ended December 31, 1996, an
additional 9,375 shares per year will convert to common stock from
1997 to 2002, and 121,875 shares in 2003 if the company reports gross
annual revenues of at least $9,600,000, and annual after tax earnings
of at least $1,550,000 for calendar years 1997 through 2003.
(ii) an aggregate of 9,375 shares of Series A Preferred Stock will
convert to common stock if the Company reports gross annual revenues
of at least $15,500,000 and annual after tax earnings of at least
$3,000,000 for the calendar year ending December 31, 1997, an
additional 9,375 shares per year will convert to common stock from
1998 to 2002, and 131,250 shares in 2003 if the Company reports gross
annual revenues of at least $15,500,000, and annual after tax earnings
of at least $3,000,000 for calendar years 1998 through 2003.
(iii) An aggregate of 15,000 shares of Series A Preferred Stock will
convert to common stock if the Company reports gross annual revenues
of at least $23,800,000 and annual after tax earnings of at least
$5,100,000 for the calendar year ending December 31, 1998, an
additional 5,000 shares per year will convert to common stock from
F-22
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
NOTES TO FINANCIAL STATEMENTS
6. Shareholders' Equity (Continued)
--------------------------------
Preferred Stock (Continued)
---------------------------
1999 to 2002, and 225,000 shares in 2003 if the Company reports gross
annual revenues of at least $23,800,000, and annual after tax earnings
of at least $5,100,000 for calendar years 1999 through 2003.
The fair market value of the common stock issued upon conversion will be
charged to operations at that time. Any preferred shares not converted
during such period will be canceled. If, prior to January 1, 1999 (i) the
Company consolidates with or merges into another corporation or entity (and
the Company is not the survivor) or if the Company sells or leases
substantially all of its assets and the Company's common stock has
appreciated an average of 10% per annum for each 12 month period following
the date of the Company's Prospectus (February 9, 1995) or (ii) any person,
entity or affiliated group or entities acquires 40% or more of the
Company's common stock in any 12 month period, then all preferred stock
will be automatically converted into common stock. While outstanding, the
preferred stock does not carry voting rights or dividend rights and has a
liquidation preference of $.01 per share.
Common Stock and Warrants
-------------------------
The closing for the Company's IPO occurred on February 17, 1995. The
Company sold 690,000 units at $5.50 per unit and paid the Underwriter a 10%
commission and a 3% nonaccountable expense allowance which resulted in net
proceeds to the Company of $2,986,524. Each unit consists of one share of
the Company's common stock and one warrant to purchase an additional share
of common stock at $6.50 per share until February 9, 1998. The warrants may
be redeemed by the Company at any time, upon 30 days written notice to the
holders at a price of $.01 per warrant if the closing price of the common
stock is $7.50 or more for 30 consecutive days. The Company also entered
into a one year financial consulting contract with the Underwriter for
$36,000 which was paid in full in advance. In connection with the offering,
the Company issued the Underwriter, for $100, a warrant to purchase 10% of
the number of Units sold in the offering. The Warrant is exercisable for a
period of four years beginning February 9, 1996. The Underwriter's Warrant
is exercisable at a price of $6.60 per Unit. The Units subject to the
Underwriter's Warrant are identical to the Units sold to the public.
On May 15, 1994, the company issued 28,571 shares of common stock to an
employee in return for $7,050 cash and services rendered. In connection
with the issuance of common stock, the Company recognized $24,350 of
compensation expense.
F-23
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
NOTES TO FINANCIAL STATEMENTS
6. Shareholders' Equity (Continued)
--------------------------------
Common Stock and Warrants (Continued)
-------------------------------------
In connection with the Company's bridge loan financing in 1994, the Company
agreed to issue 40,000 restricted shares of common stock to the individuals
on the basis of one share for each $10 loaned. The shares were issued upon
closing of the Company's IPO on February 17, 1995. The fair market value of
the common stock issued ($220,000) was charged to operations in 1994 as
additional financing costs.
7. Commitments and Contingencies
-----------------------------
In September 1994, the Company acquired, under a 20 year noncancellable
capital lease, an office building, including land and improvements. The
Company occupies approximately half of the space as its corporate office
facility and has sublet the remaining space to unrelated parties. The lease
requires initial annual minimum lease payments of $187,608, increasing
every five years to a maximum annual payment of $337,872 in 2009. Under the
lease, the Company has an option at any time through April 30, 1996, to
purchase the building and land for $1,700,000. Such amount increases to
$1,800,000 through April 30, 1997 and $1,900,000 through April 30, 1998.
After April 30, 1998, the option amount increases annually by the
percentage increase in the Consumer Price Index, as further described in
the lease. Upon exercise of the purchase option, all lease payments made by
the Company will be applied toward the down payment for the purchase price
based upon an amortized 20 year note with interest accrued at 9% per annum.
The Company also leases certain computer equipment and furniture and
fixtures under noncancellable capital leases.
The Company leases its education and training and other facilities, certain
vehicles and computer equipment under noncancellable operating leases. The
Company entered into subleases for its education and training facilities
subsequent to entering into the capital lease for the Company's office
building described above. The sublease rentals to be received in the future
are approximately $51,570 and have been deducted from the future minimum
operating lease payments in the table below.
The following is a schedule of future minimum lease payments at December
31, 1995 under the Company's capital leases (together with the present
value of minimum lease payments) and operating leases that have initial or
remaining noncancellable lease terms in excess of one year:
F-24
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
NOTES TO FINANCIAL STATEMENTS
7. Commitments and Contingencies (Continued)
-----------------------------------------
Year Ending Capital Operating
December 31, Leases Leases Total
------------ ------ ------ -----
1996 $ 248,964 $ 78,070 $ 327,034
1997 245,306 65,968 311,274
1998 228,310 55,569 283,879
1999 225,947 42,168 268,115
2000 248,462 21,468 269,930
Later years 3,933,825 -- 3,933,825
----------- -------- ----------
Total Minimum Lease
Payments 5,130,814 $263,243 $5,394,057
======== ==========
Less amount representing
interest (3,337,844)
-----------
Present Value of Net
Minimum Lease Payments $ 1,792,970
===========
Rent expense amounted to approximately $133,555 and $82,589 for the years
ended December 31, 1995 and 1994, respectively.
Leased equipment under capital leases as of December 31, 1995 is as
follows:
Building $1,348,824
Land 411,176
Equipment 190,196
Less accumulated amortization (133,103)
----------
Net Property and Equipment Under
Capital Leases $1,817,093
==========
8. Related Party Transactions
--------------------------
The Company has entered into transactions with its officers and directors,
as follows.
The Company loaned $17,966 to two officers of the Company. The advances
were non-interest bearing and were repaid in 1994.
The Company has a note receivable from its President of $35,000 at December
31, 1995. Interest is payable monthly at 9% per annum and the note is due
in April 1997. The note is secured by 50,000 shares of the Company's common
stock which are owned by the Company's President.
F-25
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
NOTES TO FINANCIAL STATEMENTS
8. Related Party Transactions (Continued)
--------------------------------------
On November 1, 1994, all of the Company's shareholders agreed in writing
with each other and with the Company to contribute pro rata from their
shareholdings up to a total of 200,000 shares of common stock to be used by
the Company (at any time until December 31, 1999) for acquisitions of other
companies or lines of business. The Company in its sole discretion may call
for such contributions at any time and from time to time for these
purposes. The Company will not issue any additional equity securities for
purposes of acquisition of other companies or product lines until all
200,000 shares have been contributed. The shareholders did not receive any
compensation or other form of remuneration for their agreement to
contribute the shares and will have no interest in any of the companies or
product lines which may be acquired. The shareholders agreed to provide the
200,000 shares at the request of the Underwriter of the Company's IPO, in
order to reduce any dilution to existing shareholders if the Company
elected to use common stock for acquisition purposes. In 1995, the
Company's shareholders contributed 5,000 shares in connection with the
acquisition of ValleyNet Communications (Note 5).
The Company incurred expenses in connection with desktop publishing
services provided by a Corporation controlled by the wife of the Company's
Chief Executive Officer of $7,800 and $7,725 for the years ended December
31, 1995 and 1994, respectively.
9. Concentration of Credit Risk and Major Customers
------------------------------------------------
The Company provides credit, in the normal course of business, to a large
number of companies in the agricultural industry. The Company's accounts
receivable are due from customers located primarily in central California.
The Company performs periodic credit evaluations of its customers'
financial condition and generally requires no collateral. The Company
maintains reserves for potential credit losses, and such losses have not
exceeded management's expectations.
Sales to major customers, as a percentage of total net revenues, for the
years ended December 31, 1995 and 1994 were as follows:
1995 1994
---- ----
Customer A --% 13%
Customer B -- 15
Customer C -- 11
Customer D 10 --
--- --
Total 10% 39%
=== ===
F-26
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
NOTES TO FINANCIAL STATEMENTS
10. Sale of Software
- --- ----------------
In December 1995, the Company entered into an agreement to sell its
"Classic" Software to a Canadian Limited Partnership (the "Partnership")
for a promissory note in the amount of $8,080,000. The Partnership acquired
all of the Company's interest in the Classic Software defined as follows;
all existing and future updates, upgrades additions, improvements and
enhancements and any new versions of the software. The Partnership is
selling limited partnership units in Canada and the promissory note will be
replaced by cash and promissory notes as the units are sold. If all units
are sold, the Company would receive $1,333,200 cash at closing (less
expenses), $1,333,200 cash on March 21, 1996 (less expenses) and notes
receivable from the limited partners of $5,413,600. The notes bear interest
at 8.5% per annum and are due December 27, 2005 with interest payable
annually. The Partnership closed on December 28, 1995 selling units
representing 18.81% of the purchase price of the software and the Company
received $188,000, net of expenses, and received the second payment of
$188,000 in March 1996. A second partnership was formed in 1996 in Canada
to sell units to acquire the remaining 81.19% of the Software. The Company
also entered into a Distribution Agreement with the Partnership, whereby
the Company was appointed as the exclusive distributor of the Classic
Software throughout the world for a term of twenty years. Under the terms
of the Distribution Agreement the Company will purchase copies of the
Classic Software for resale to third parties. Until December 31, 2000, the
Company shall pay the following prices for each copy of the Software
purchased from the Partnership:
(a) until the Company has purchased $475,000 of copies in each year, 100%
of the price the Company invoices to its customers for each copy of the
Software; plus
Percentage of Sales
-------------------
Until Below Over
December 31, Sales Benchmark Benchmark Benchmark
------------ --------------- --------- ---------
1996 $ 3,670,000 2% .1%
1997 8,850,000 5 .1
1998 10,275,000 4 .1
1999 15,150,000 3 .1
2000 34,000,000 5 .1
Later Years -0- 6 6
Prior to the repayment of the Promissory Notes, payments to the Partnership
for Software will be applied by the Partnership as follows:
F-27
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
NOTES TO FINANCIAL STATEMENTS
10. Sale of Software (Continued)
- --------------------------------
i) first, the Partnership shall pay to the Company on behalf of each
Limited Partner, an amount equal to the interest then payable in
respect of the Promissory Note issued by such Limited Partner;
ii) second, the balance remaining allocable to each Limited Partner
will be paid (A) 55% to the Limited Partner and (B) 45% to the Company
for repayment of the principal amount then outstanding on the Limited
Partner's Promissory Note.
The Partnership has also entered into an Option Agreement with the Company
whereby the Company may purchase the Software from the Partnership upon
certain triggering events. Upon the occurrence of such triggering events
the Company, at its sole option, may purchase the software from the
Partnership for a purchase price based upon the following.
The purchase price payable by the Company for the Software shall be equal
to the fair market value of the Software on the Exercise Date as determined
by a qualified arm's length appraiser agreed to by the parties, provided
that, if as a result of a Triggering Event, securities are issued by the
Company, or to the Company or its shareholders, the purchase price shall be
satisfied by the transfer by the Company to the Partnership of that number
of securities having a fair market value equal to the lesser of the
purchase price and 22.0% of the securities issued or received, as the case
may be, on a fully diluted basis. The Company agrees to jointly elect under
applicable taxing statutes, with the Partnership to complete the
transaction on a tax deferred basis, with respect to the issuance of
securities to the Partnership by allowing the Partnership to transfer the
Software to a Canadian subsidiary of the Company on a tax deferred basis.
In the event that sales revenue earned by the Partnership in any year under
the terms of the Distribution Agreement are less than $475,000 in any
calendar year prior to the Exercise Date, the percentage of the securities
to be transferred by the Company to the Partnership shall be increased by
1% for each 10% shortfall to a maximum of 5% in any calendar year, provided
that the option of the Partnership to acquire such additional shares shall
not be exercisable by the Partnership until the promissory notes issued by
limited partners to the Company have been paid in full and until such time,
such additional options may be repurchased by the Company for a price equal
to 150% of the cash shortfalls for which the options were issued.
F-28
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
NOTES TO FINANCIAL STATEMENTS
10. Sale of Software (Continued)
---------------------------
Since the Company is responsible for maintaining, upgrading and developing
future revisions of the Software, the transaction has not been accounted
for as a sale by the Company. In addition, the notes receivable have not
been recorded by the Company as a result of their long-term nature and they
are primarily expected to be repaid as the Company sells software to third
parties and makes payments to the Partnership pursuant to terms of the
Distribution Agreement. Therefore, repayment prior to 2005 will only occur
out of revenue generated by the Company. This transaction has been
accounted for by the Company on a cost recovery basis and the cash received
from the Partnership will reduce the capitalized software costs and revenue
will be recognized when the capitalized software costs have been reduced to
zero since the Company has, in essence, retained substantially all rights
of ownership.
11. Subsequent Events (Unaudited)
-----------------------------
Corporate Restructuring and Private Placement of Common Stock
-------------------------------------------------------------
In 1996, the Company retained the Kriegsman Group ("Kriegsman"), a
financial consulting firm, to assist it with a financial restructuring of
its operations. Kriegsman was to use its best efforts to provide a minimum
of $1,500,000 of financing for the Company through bridge loans or equity
financing. In August 1996, a bridge loan of $200,000 was obtained by the
Company for which the Company issued 400,000 shares of common stock to the
bridge lenders as additional consideration for the $200,000 loan. In
October and November 1996 the Company sold 6,000,000 shares of its common
stock at $.25 per share through an Underwriter, which included the
conversion of the $200,000 bridge loan into common stock. The Company paid
the Underwriter a 10% sales commission and a 3% nonaccountable expense
allowance on the bridge loan and sale of common stock. The Company also
entered into a two year financial consulting agreement with the Underwriter
which provides for a monthly consulting fee of $5,000 for the two year
period.
As a part of the financing transaction, the Company granted both the
Underwriter and Kriegsman warrants to purchase common stock. The Company
granted 2,200,000 warrants to each which are exercisable at $.25 per share
for a four year period through October 31, 2001. The Company also agreed to
use its best efforts to file a Registration Statement within 90 days of the
closing of the Private Placement to register the shares issued in the
Private Placement and the shares underlying the warrants issued to the
Underwriter and Kriegsman.
In connection with the financial restructuring the Company agreed to divest
the software development, MarketStreet and the computer training center
divisions. The divisions were spun-off to a new Company owned by the former
management of
F-29
PROTOSOURCE CORPORATION
(Formerly SHR Corporation
dba Software Solutions Company)
NOTES TO FINANCIAL STATEMENTS
11. Subsequent Events (Unaudited) (Continued)
-----------------------------------------
Corporate Restructuring and Private Placement of Common Stock (Continued)
-------------------------------------------------------------------------
the Company on December 31, 1996. All of the assets of the three divisions
and the related liabilities and facilities leases were assumed by the
former management. Also included in the assets of the divested divisions
will be $500,000 in cash. The management of the divested divisions will
also assume all litigation and claims related to the divisions which
includes one law suit in the amount of approximately $70,000. The Kriegsman
Group will also nominate new members for the Board of Directors upon
completion of the divestiture of the three divisions. The Company will
receive a 25% ownership interest in the common stock of the new company
formed to acquire the divested divisions and the divested divisions will
lease the principal office from the Company for a period of eighteen months
at the current market rate.
F-30
================================================== =================================================
No dealer, salesman or other person has been
authorized to give any information or to make any
representations other than contained in this
Prospectus in connection with the Offering
described herein, and if given or made, such
information or representations must not be relied 6,400,000 Shares of Common Stock
upon as having been authorized by the Company.
This Prospectus does not constitute an offer to 4,400,000 Common Stock
sell, or the solicitation of an offer to buy, the Purchase Warrants
securities offered hereby to any person in any
state or other jurisdiction in which such offer or
solicitation is unlawful. Neither the delivery of 4,400,000 Shares of Common Stock
this Prospectus nor any sale hereunder shall, underlying Common Stock
under any circumstances, create any implication Purchase Warrants
that there has been no change in the affairs of
the Company since the date hereof.
------------
TABLE OF CONTENTS PROTOSOURCE CORPORATION
Page
----
Available Information.......................... 2
Prospectus Summary............................. 3
Risk Factors................................... 7
Capitalization................................. 13
Price Range of Common Stock.................... 14
Use of Proceeds................................ 14
Selected Financial Data........................ 15 -------------------------
Management's Discussion and
Analysis of Financial Condition PROSPECTUS
and Results of Operations.................... 16
Business....................................... 20 -------------------------
Management..................................... 26
Principal Stockholders......................... 29
Selling Stockholders........................... 30
Certain Transactions........................... 32
Description of Securities...................... 34
Plan of Distribution........................... 37
Legal Matters.................................. 37
Experts........................................ 37
Financial Statements...........................F-1
Until __________, 1997 (25 days after the date of
this Prospectus), all dealers effecting
transactions in the registered securities, whether
or not participating in this distribution, may be
required to deliver a Prospectus. This is in ---------------, 1997
addition to the obligation of dealers to deliver a
Prospectus when acting as underwriters and with
respect to their unsold allotments or
subscriptions.
================================================== ======================================================
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 24. Indemnification of Directors and Officers.
Section 5 of the Registrant's Restated Articles of Incorporation provide
that liability of directors for monetary damage is eliminated to the fullest
extent possible with California law. Section 6 provides for indemnification of
all of the Registrant's agents (including officers and directors) subject only
to limits imposed by California law.
Insofar as indemnification for liabilities arising under the Securities Act
of 1933, as amended, may be permitted to officers, directors or persons
controlling the Company, the Company has been advised that, in the opinion of
the Securities and Exchange Commission, Washington, D.C. 20549, such
indemnification is against public policy as expressed in such Act and is,
therefore, unenforceable. In the event that a claim for indemnification against
such liabilities (other than the payment by the Company of expenses incurred or
paid by an officer, director or controlling person of the Company in the
successful defense of any action, suit or proceeding) is asserted by such
officer, director or controlling person in connection with the securities being
registered, the Company will, unless in the opinion of its counsel the matter
has been settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against public
policy as expressed in such Act and will be governed by the final adjudication
of such issue.
ITEM 25. Other Expenses of Issuance and Distribution.(1)
SEC Registration Fee........................ $ 1,016
NASD Filing Fee............................. 0
Blue Sky Legal and Filing Fees.............. 10,000
Printing Expenses........................... 5,000
Legal Fees and Expenses..................... 60,000
Accounting Fees............................. 40,000
Miscellaneous Expenses...................... 8,984
--------
TOTAL....................................... $125,000 (1)
(1) All expenses, except the SEC registration fee, are estimated.
ITEM 26. Recent Sales of Unregistered Securities
---------------------------------------
During the last three years, the Registrant sold the following shares of
its Common Stock which were not registered under the Securities Act of 1933, as
amended.
(i) In June 1994, the Registrant sold to Christopher Howard, 28,571 shares
of Common Stock for $7,050 in cash and services rendered valued at $24,350. Such
services consisted of assisting the Registrant in designing and developing two
of its proprietary products.
(ii) Between July and November 1994, the Registrant issued an aggregate of
40,000 shares of its Common Stock to Alan T. Bates, Kwok Fu Chu, Liwen Tsai,
Alan Tsang, Capital Planning Specialists, Mitchell Levitts and Margaret Stevens,
who had loaned the Company a total of $400,000, as additional compensation for
the loans.
(iii) In September 1996, the Company issued 400,000 shares of its Common
Stock to the following individuals as additional consideration for a loan to the
Company in the amount of $200,000.
Name Number of Shares
---- ----------------
John Benedetto 100,000
James Ippolito 50,000
Anaka Parkash 100,000
Larry Pensa 50,000
Isaac Paschaldis 100,000
(iv) In October 1996, the Company sold an aggregate of 6,000,000 shares of
its Common Stock to the following individuals for $.25 per share.
Name Number of Share
---- ---------------
John Benedetto 600,000
Brian A. Brewer 100,000
James Ippolito 300,000
Raymond King 100,000
Jack Ko 200,000
Anaka Parkash 600,000
Isaac Paschaldis 800,000
Larry Pensa 300,000
Francis Sajeski 100,000
Jerry Silberman 100,000
Rao-Qi Zhang 100,000
George P. Argerakis 200,000
Robert Cavallaro 100,000
Ding Chu Fuh Chen 100,000
Murray Frank 100,000
Donald Gross 200,000
Gloria Ippolito 600,000
Chris Meshouris 100,000
James Meshouris 100,000
Matthew Mulhern 400,000
Michael Pizite 300,000
Bernard Schwartz 100,000
II-2
George Stripas 100,000
Kuei-Chi Tsai 100,000
Saul Unter 100,000
Osweld Valenti 100,000
With respect to the sales made, the Registrant relied on Section 4(2) of
the Securities Act of 1933, as amended (the "1933 Act"), and/or Regulation D,
Rule 506. No advertising or general solicitation was employed in offering the
securities. The securities were offered to a limited number of individuals and
the transfer thereof was appropriately restricted by the Registrant. All
shareholders were accredited investors as that term is defined under Regulation
D under the 1933 Act who were capable of analyzing the merits and risks of their
investment and who acknowledged in writing that they were acquiring the
securities for investment and not with a view toward distribution or resale and
that they understood the speculative nature of their investment.
ITEM 27. Exhibits.
---------
Exhibit No. Title
----------- -----
2.01 Restated Articles of Incorporation of the Registrant(1)
2.02 Bylaws of the Registrant(1)
5.04 Opinion of Gary A. Agron, regarding legality of the Common Stock and
Warrants (includes Consent)
10.01 1995 Incentive Stock Option Plan(1)
10.02 Capitalized Lease Agreement(1)
10.12 Divestiture Agreement
10.13 Selling Agreement with AAWC
10.14 Warrant Agreement with AAWC
10.15 Lock-up Agreement
10.16 Registration Rights Agreement
23.06 Consent of Angell & Deering
II-3
Exhibit No. Title
- ----------- -----
23.07 Consent of Gary A. Agron (See 5.04, above)
- ----------
(1) Incorporated by reference to the Registrant's Registration Statement on
Form SB-2 declared effective by the Commission on February 9, 1995, file
number 33-86242.
ITEM 28. Undertakings.
------------
The Registrant hereby undertakes:
(a) That insofar as indemnification for liabilities arising under the
Securities Act of 1933 may be permitted to directors, officers and controlling
persons of the Registrant, the Registrant has been advised that in the opinion
of the Securities and Exchange Commission, such indemnification is against
public policy as expressed in the Act and is, therefore, unenforceable. In the
event that a claim for indemnification against such liabilities (other than the
payment by the Registrant of expenses incurred or paid by a director, officer or
controlling person of the Registrant in the successful defense of any action,
suit or proceeding) is asserted by such director, officer or controlling person
in connection with the securities being registered, the Registrant will, unless
in the opinion of its counsel the matter has been settled by controlling
precedent, submit to a court of appropriate jurisdiction the question of whether
such indemnification by it is against public policy as expressed in the Act and
will be governed by the final adjudication of such issue.
(b) That subject to the terms and conditions of Section 13(a) of the
Securities Exchange Act of 1934, it will file with the Securities and Exchange
Commission such supplementary and periodic information, documents and reports as
may be prescribed by any rule or regulation of the Commission heretofore or
hereafter duly adopted pursuant to authority conferred in that section.
(c) That any post-effective amendment filed will comply with the applicable
forms, rules and regulations of the Commission in effect at the time such
post-effective amendment is filed.
(d) To file, during any period in which offers or sales are being made, a
post-effective amendment to this registration statement:
(i) To include any prospectus required by section 10(a)(3) of the
Securities Act of 1933;
II-4
(ii) To reflect in the prospectus any facts or events arising after the
effective date of the registration statement (or the most recent
post-effective amendment thereof) which, individually or in the
aggregate, represent a fundamental change in the information set forth
in the registration statement;
(iii)To include any material information with respect to the plan of
distribution not previously disclosed in the registration statement or
any material change to such information in the registration statement;
(e) That, for the purpose of determining any liability under the Securities
Act of 1933, each such post-effective amendment shall be deemed to be a new
registration statement relating to the securities offered therein, and the
offering of such securities at that time shall be deemed to be the initial bona
fide offering thereof.
(f) To remove from registration by means of a post-effective amendment any
of the securities being registered which remain unsold at the termination of the
Offering.
(g) To provide to the Underwriter at the closing specified in the
Underwriting Agreement certificates in such denominations and registered in such
names as required by the Underwriter to permit prompt delivery to each
purchaser.
II-5
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, as amended, the
Registrant certifies that it has reasonable grounds to believe that it meets all
of the requirements of filing on Form SB-2 and has caused this Registration
Statement to be signed on its behalf by the undersigned, thereunto duly
authorized, in Fremont, California, on January 24, 1997.
PROTOSOURCE CORPORATION
By: /s/ Raymond J. Meyers
--------------------------------
Raymond J. Meyers
Chief Executive Officer
Pursuant to the requirements of the Securities Act of 1933, as amended,
this Registration Statement has been signed below by the following persons on
the dates indicated.
Signature Title Date
--------- ----- ----
/s/ Raymond J. Meyers Chief Executive Officer January 24, 1997
- ----------------------------- and Director
Raymond J. Meyers
/s/ Andrew Chu President, Chief Financial January 24, 1997
- ----------------------------- Officer, (Principal
Andrew Chu Accounting Officer)
and Director
/s/ Steven A. Kriegsman Director January 24, 1997
- -----------------------------
Steven A. Kriegsman
Director , 1997
- -----------------------------
Howard P. Silverman
EXHIBIT INDEX
Exhibit No. Title
----------- -----
5.04 Opinion of Gary A. Agron, regarding legality of the
Common Stock and Warrants (includes Consent)
10.12 Divestiture Agreement
10.13 Selling Agreement with AAWC
10.14 Warrant Agreement with AAWC
10.15 Lock-up Agreement
10.16 Registration Rights Agreement
23.06 Consent of Angell & Deering
23.07 Consent of Gary A. Agron (See 5.04, above)