FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
(Mark One)
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1999
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ________ to ________
Commission file number: 000-26109
NETTAXI.COM
(Exact name of registrant as specified in its charter)
Nevada 82-0486102
(State or other jurisdiction (I.R.S. Employer Identification No.)
of incorporation or organization)
1696 Dell Avenue, Campbell, CA 95008
(Address of Principal Executive Offices)
(Zip Code)
Registrant's telephone number, including area code: (408) 879-9880
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
APPLICABLE ONLY TO CORPORATE ISSUERS:
As of October 31, 1999, the registrant had 21,260,000 shares of common
stock, $.001 par value per share, outstanding.
NETTAXI.COM
CONTENTS
Page No.
-------------
PART I FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Balance Sheets, September 30, 1999 (unaudited)
and December 31, 1998 3
Condensed Consolidated Statements of Operations, Three and Nine Months
Ended September 30, 1999 (unaudited) and
September 30, 1998 (unaudited) 4
Condensed Consolidated Statements of Shareholders' Equity (Deficiency),
December 31, 1998 and September 30, 1999 (unaudited) 5
Condensed Consolidated Statements of Cash Flows, Nine Months Ended
September 30, 1999 (unaudited) and September 30, 1998 (unaudited) 6
Notes to Condensed Consolidated Financial Statements (unaudited) 7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 9
Item 3. Quantitative and Qualitative Disclosures About Market Risk 28
PART II OTHER INFORMATION
Item 1. Legal Proceedings 29
Item 2. Changes in Securities and Use of Proceeds 30
Item 3. Defaults Upon Senior Securities 30
Item 4. Submission of Matters to a Vote of Security Holders 30
Item 5. Other Information 30
Item 6. Exhibits and Reports on Form 8-K 31
SIGNATURES 32
EXHIBIT INDEX 33
2
PART I. FINANCIAL INFORMATION
ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
NETTAXI.COM
Condensed Consolidated Balance Sheets
December 31, September 30,
1998 1999
-------------- ---------------
(unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 465,800 $ 1,440,500
Accounts receivable, net of allowance for doubtful accounts of $31,200 and 133,700 1,019,000
$50,500, respectively
Prepaid expenses and other assets 16,100 94,000
-------------- ---------------
TOTAL CURRENT ASSETS 615,600 2,553,500
Property and equipment, net 255,100 2,070,000
Intangibles, net 782,000 629,000
Deferred expenses 709,500
Deposits-long term - 40,400
-------------- ---------------
TOTAL ASSETS $ 1,652,700 $ 6,002,400
============== ===============
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIENCY)
CURRENT LIABILITIES
Accounts payable $ 186,900 $ 3,196,000
Accrued expenses 74,000 885,700
Income taxes payable - 100,000
Other current liabilities 59,700 40,700
-------------- ---------------
TOTAL CURRENT LIABILITIES 320,600 4,222,400
Long-term liabilities
-
Convertible notes payable 5,000,000
-------------- ---------------
TOTAL LIABILITIES 320,600 9,222,400
Commitments and contingencies
SHAREHOLDERS' EQUITY (DEFICIENCY)
Preferred stock, $.001 par value; 1,000,000 shares authorized; no shares issued
and outstanding
Common stock, $.001 par value; 50,000,000 shares authorized; 21,110,000 and
21,260,000 shares issued and outstanding, respectively 10,800 18,000
Additional paid-in capital 4,777,100 6,954,100
Accumulated deficit (3,455,800) (10,192,100)
-------------- ---------------
TOTAL SHAREHOLDERS' EQUITY (DEFICIENCY) 1,332,100 (3,220,000)
-------------- ---------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIENCY) $ 1,652,700 $ 6,002,400
============== ===============
<FN>
**The accompanying notes are an integral part of these financial statements
3
NETTAXI.COM
Condensed Consolidated Statement of Operations
(Unaudited)
Three Months ended Three Months ended Nine Months Nine months
9/30/98 9/30/99 ended 9/30/98 ended 9/30/99
-------------------- -------------------- --------------- ---------------
Net Revenues $ 66,400 $ 1,102,500 $ 112,800 $ 2,980,900
Operating Expenses:
Cost of operations 73,100 1,182,400 122,300 1,914,600
Sales and marketing 513,600 2,291,700 655,200 3,132,700
Research and development 286,500 855,500 517,800 1,585,200
General and administrative 461,100 748,100 655,200 2,756,700
Total Operating Expenses 1,334,300 5,077,700 1,950,500 9,389,200
Loss From Operations (1,267,900) (3,975,200) (1,837,700) (6,408,300)
-------------------- -------------------- --------------- ---------------
Interest Income 2,400 28,800 8,500 68,300
Interest Expense (17,800) (147,600) (68,800) (299,400)
Other Income 28,500
Loss before income taxes (1,283,300) (4,094,000) (1,869,500) (6,639,400)
-------------------- -------------------- --------------- ---------------
Income Tax (Expense) Benefit - 4,900 (800) (96,700)
Net Loss (1,283,300) (4,089,100) (1,870,300) (6,736,100)
Net Loss Available to Common $ (1,283,300) $ (4,089,100) $ (1,884,600) $ (6,736,100)
Shareholders
Basic and diluted loss per common share $ (0.09) $ (0.19) $ (0.14) $ (0.32)
Weighted average common shares 14,573,976 21,178,333 13,645,853 21,132,778
outstanding
<FN>
**The accompanying notes are an integral part of these financial statements
4
NETTAXI.COM
Condensed Consolidated Statement of Shareholders' Equity (Deficiency)
Common Stock
Additional Paid-in Accumulated
Shares Amount Capital Deficit Total
---------- ------- ------------------- ------------- ------------
Balances, December 31, 1998, (Audited) 14,110,000 $10,800 $ 4,777,100 $ (3,455,800) $ 1,332,100
Issuance of common stock in connection with pooling 7,000,000 7,000 (200) 6,800
Compensation expense related to options granted 634,700 634,700
Interest expense related to warrants granted 361,200 361,200
Warrants exercised for common stock 150,000 200 1,181,100 1,181,300
Net loss (6,736,100) (6,736,100)
---------- ------- ------------------- ------------- ------------
Balances, September 30, 1999 (unaudited) 21,260,000 $18,000 $ 6,954,100 $(10,192,100) $(3,220,000)
========== ======= =================== ============= ============
<FN>
**The accompanying notes are an integral part of these financial statements
5
NETTAXI.COM
Condensed Consolidated Statement of Cash Flows
(Unaudited)
Nine Months Ended Nine Months Ended
September 30, 1998 September 30, 1999
-------------------- --------------------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $ (1,870,300) $ (6,736,100)
Adjustments to reconcile net loss to net cash (used in) provided by
operating activities:
Gain on disposal of equipment (28,500)
Depreciation and amortization 308,600 382,000
Allowance for doubtful accounts 19,300
Issuance of common stock for interest on convertible notes 68,800
Issuance of common stock for services and salaries 142,800
Compensation expense related to options granted 855,000 114,900
Interest expense related to warrants granted 171,500
Changes in operating assets and liabilities:
Accounts receivable (500) (904,600)
Prepaid expenses and other assets 12,500 (77,900)
Accounts payable 66,900 3,009,100
Accrued expenses (7,200) 811,700
Income tax payable (600) 100,000
Note payable 20,000 -
Other current liabilities 20,000 (14,000)
-------------------- --------------------
NET CASH USED IN OPERATING ACTIVITIES (412,500) (3,124,100)
-------------------- --------------------
CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from disposal of equipment 34,600
Deposits (40,400)
Capital expenditures (21,600) (2,048,900)
-------------------- --------------------
NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES 13,000 (2,089,300)
-------------------- --------------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Convertible notes payable 5,000,000
Net proceeds from issuance of preferred stock 8,600
Net proceeds from issuance of common stock 1,200,100 1,188,100
-------------------- --------------------
NET CASH PROVIDED BY FINANCING ACTIVITIES 1,208,700 6,188,100
-------------------- --------------------
NET INCREASE IN CASH AND CASH EQUIVALENTS 809,200 974,700
CASH AND CASH EQUIVALENTS, beginning of period 49,500 465,800
-------------------- --------------------
CASH AND CASH EQUIVALENTS, end of period $ 858,700 $ 1,440,500
==================== ====================
<FN>
**The accompanying notes are an integral part of these financial statements
6
NETTAXI.COM
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. THE COMPANY
Nettaxi.com (formerly Nettaxi, Inc. and formerly Swan Valley Snowmobiles, Inc.)
(the "Company") is a Nevada corporation which was incorporated on October 26,
1995.
On September 29, 1998 the Company completed the acquisition of 100% of the
outstanding common stock of Nettaxi OnLine Communities, Inc., a Delaware
corporation, and changed its name to Nettaxi, Inc. (now Nettaxi.com). For
accounting purposes, the acquisition has been treated as the acquisition of the
Company by Nettaxi OnLine Communities, Inc. with Nettaxi OnLine Communities, Inc
as the acquiror. All shares and per share data prior to the acquisition have
been restated to reflect the stock issuance and related stock split.
As the former shareholders of Nettaxi OnLine Communities, Inc. received 85% of
the shares in the Company immediately after the acquisition, the financial
statements for the periods prior to the reorganization are those of Nettaxi
OnLine Communities, Inc.
Nettaxi OnLine Communities, Inc. was incorporated on October 23, 1997 to
capitalize on a significant opportunity that exists today through the
convergence of the media and entertainment industries with the vast
communications power of the Internet.
Effective May 7, 1999, the Company completed a merger with Plus Net, Inc., a
California corporation, by exchanging shares of its common stock for all of the
outstanding shares of common stock of Plus Net, Inc.
The Company's Web site, http://www.nettaxi.com, is an online community designed
to seamlessly integrate content with e-commerce services for our subscribers,
providing comprehensive information about news, sports, entertainment, health,
politics, finances, lifestyle, and areas of interest to the growing number of
Internet users. Our mission is to establish nettaxi.com as an entry point, or
portal, to the Internet by continuing to develop premium online communities,
which are both content-rich to our subscribers, the "citizens" of our
communities, and provide easy-to-use e-commerce services to businesses which
reside in these online communities.
The Company's principal executive offices are located at 1696 Dell Avenue,
Campbell, California 95008. The Company's telephone number at this address is
(408) 879-9880.
2. FINANCIAL STATEMENT PRESENTATION
The accompanying unaudited interim condensed consolidated financial statements
as of September 30, 1999 and for the three and nine months ended September 30,
1999 and 1998, include accounts of Nettaxi.com and its subsidiary. All material
intercompany balances and transactions have been eliminated. The unaudited
interim condensed consolidated financial statements reflect all adjustments,
consisting of normal recurring items, which are, in opinion of management,
necessary to present a fair statement of the results of the interim periods
presented. The results of operations for any interim period are not necessarily
indicative of the results for the full year.
7
These condensed consolidated financial statements have been prepared in
accordance with generally accepted accounting principles in the United States.
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date the financial statements, as well
as the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
The accompanying unaudited condensed consolidated financial statements do not
include all footnotes and certain financial statements normally required under
generally accepted accounting principles. Therefore, these financial statements
should be read in conjunction with the consolidated financial statements and
related notes included in Nettaxi.com's (formerly Nettaxi, Inc.) Registration
Statement on Form S-1 (Registration No. 333-78129) declared effective by the
Securities and Exchange Commission on August 13, 1999.
3. NET LOSS PER COMMON SHARE
The Company adopted SFAS No. 128, "Computation of Earnings Per Share," during
the year ended December 31, 1997. In accordance with SFAS 128 and the SEC Staff
Accounting Bulleting No. 98, basic earnings per share are computed using the
weighted average number of common shares outstanding during the period. Diluted
earnings per share reflect the potential dilution that could occur if the
weighted average number of common shares outstanding for the period included
common equivalent shares. Common equivalent shares consist of the incremental
common shares issuable upon the conversion of convertible preferred stock (using
the if-converted method) and shares issuable upon the exercise of stock options
and warrants (using the treasury stock method); common equivalent shares are
excluded from the calculation if their effect is anti-dilutive. Diluted loss
per share has not been presented separately, as the outstanding stock options,
warrants and contingent stock purchase warrants are anti-dilutive for each of
the periods presented.
4. CONVERTIBLE NOTES PAYABLE
On March 31, 1999, the Company entered into a $5,000,000 Convertible Debt
Financing Agreement for which proceeds were received in April 1999. The
convertible debenture bears interest at 5% and matures on March 31, 2004. The
debentures are convertible at the option of the holder into that number of
shares of common stock equal to the principal amount of the debentures to be
converted including all accrued interest, divided by the conversion price
specified in the debentures.
5. REVENUE RECOGNITION
The Company's revenues are derived principally from the sale of banner
advertisements, the sale of products from its online mall and the hosting of
websites for community content and e-commerce partners. Advertising revenues are
recognized ratably in the period in which the advertisement is displayed,
provided that we have no significant remaining obligations and that collection
of the resulting receivable is probable. Advertisers are charged on a per
impression or delivery basis up to a maximum as specified in the contract. To
date, the duration of the Company's advertising commitments has not exceeded one
year. When the Company guarantees a minimum number of impressions or deliveries,
revenue is recognized ratably in proportion to the number of impressions or
deliveries recorded to the minimum number of impressions and deliveries
guaranteed. Product revenue is recognized upon shipment. Hosting revenues are
recognized in the period the services are provided.
8
6. SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
The following is supplemental disclosure for the statements of cash flows.
Nine Months Ended September 30,
1998 1999
---------- ------
Cash Paid:
- ------------------------------------------------------
Income taxes $ 1,400 $1,600
Interest $ 100 $2,500
Noncash Investing and Financing Activities:
- ------------------------------------------------------
Issuance of common stock for convertible notes payable $1,020,000 $ -
plus accrued interest
Conversion of preferred stock to common stock $ 109,100 $ -
Promissory notes received for common stock subscribed $ 95,000 $ -
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
THIS REPORT CONTAINS FORWARD-LOOKING STATEMENTS WITHIN THE MEANING OF SECTION
21E OF THE SECURITIES EXCHANGE ACT OF 1934, INCLUDING, WITHOUT LIMITATION,
STATEMENTS REGARDING THE COMPANY'S EXPECTATIONS, BELIEFS, INTENTIONS OR FUTURE
STRATEGIES THAT ARE SIGNIFIED BY THE WORDS "EXPECTS", "ANTICIPATES", "INTENDS",
"BELIEVES", OR SIMILAR LANGUAGE. THESE FORWARD-LOOKING STATEMENTS INVOLVE
RISKS, UNCERTAINTIES AND OTHER FACTORS. ALL FORWARD-LOOKING STATEMENTS INCLUDED
IN THIS DOCUMENT ARE BASED ON INFORMATION AVAILABLE TO THE COMPANY ON THE DATE
HEREOF AND SPEAK ONLY AS OF THE DATE HEREOF. THE FACTORS DISCUSSED BELOW UNDER
"RISK FACTORS" AND ELSEWHERE IN THIS QUARTERLY REPORT ON FORM 10-Q ARE AMONG
THOSE FACTORS THAT IN SOME CASES HAVE AFFECTED THE COMPANY'S RESULTS AND COULD
CAUSE THE ACTUAL RESULTS TO DIFFER MATERIALLY FROM THOSE PROJECTED IN THE
FORWARD-LOOKING STATEMENTS.
The following discussion should be read in conjunction with the condensed
consolidated financial statements and notes thereto.
9
OVERVIEW
We were incorporated in October 1997 and launched our Web site in July 1998.
Located in Campbell, California, we are a developer of commerce-enabled and
content-rich communities which offer subscribers, or "citizens", a place to
build their home pages or businesses on the Internet.
The Nettaxi.com website, at http://www.nettaxi.com, is structured as a virtual
"urban" environment, populated by subscribers referred to as "citizens", that is
divided into thematic "communities," and from there into "streets" and "homes."
Nettaxi.com provides access to news, entertainment, sports, financial, and
travel information and services such as free e-mail, personal home pages, chat
and messages.
To date, our revenues have been derived principally from the sale of
advertisements. We sell a variety of advertising packages to clients, including
banner advertisements, event sponsorships, and targeted and direct response
advertisements. Currently, our advertising revenues are derived principally from
short-term advertising arrangements, averaging one to six months, in which we
guarantee a minimum number of impressions for a fixed fee. Advertising revenues
are recognized ratably in the period in which the advertisement is displayed,
provided that we have no significant remaining obligations and that collection
of the resulting receivable is probable. Payments received from advertisers
prior to displaying their advertisements on the site are recorded as deferred
revenues and are recognized as revenue ratably when the advertisement is
displayed. To the extent minimum guaranteed impression levels are not met, we
defer recognition of the corresponding revenues until guaranteed levels are
achieved. We expect to continue to derive the majority of our revenue for the
foreseeable future from the sale of advertising space on our Web site.
In the third quarter of 1999, the Company began providing website hosting and
internet connectivity services for corporate customers. Our services are
delivered through a state-of-the-art Internet data center located in Southern
California using a high-performance Internet backbone network. Customers pay
monthly fees for the professional services utilized, one-time installation fees,
and connectivity charges. These "hosting" revenues are recognized in the period
the services are provided.
In addition to advertising revenues, we derive other revenues from royalties
from the distribution of our CD-ROM tutorial product and our premium account
membership subscriptions. Royalty revenues result from relationships with
computer manufacturers that bundle and distribute our CD-ROM product with their
products. Our membership programs offer premium services for a monthly fee,
providing additional services such as unlimited personal e-mail accounts for
family or friends, unlimited Nettaxi Site Builder Web pages, themed Web page
templates, a personal event calendar, discussion groups, and options to
customize personal homepages with pictures, colors and content.
In May 1999, we completed the merger with Plus Net, Inc., a California
corporation, which has allowed us to provide our users with a web based e-mail
program and a robust meta search engine. Plus Net also has an e-commerce
processing engine which enables the acceptance and processing of online credit
card transactions. We believe this merger also enhances our electronic commerce
and advertising opportunities.
10
As a result of our merger with Plus Net, Inc. in May 1999, we received revenues
from credit card processing fees during the first half of 1999, with minimal
revenues being earned in the third quarter of 1999. The contract through which
these fees have been derived will terminate in December 1999 and we anticipate
that revenues of this type will be minimal in the foreseeable future.
We also receive revenues from e-commerce transactions. Our recent e-commerce
arrangements generally provide us with a share of any sales resulting from
direct links from our site. Revenues from these programs will be recognized in
the month that the service is provided. To date, revenues from e-commerce
arrangements have not been material. However, we expect e-commerce derived
revenues to become a more significant portion of our total revenues in the
foreseeable future, as we increase the number of contractual relationships with
parties offering e-commerce related products and services which can be made
available to our subscribers and parties seeking to make online sales to our
subscribers and other visitors to our site.
We believe that the popularity of our website continues to validate our strategy
and prove the viability of the technology that we have acquired and developed
since we launched our business in 1997. We are now poised to build on our early
success by implementing a growth strategy that, if successful, should make us a
major ready-to-use e-commerce storefront host, and allow us to meet our goal of
becoming one of the top community-based portals on the Internet. Our strategic
growth plan includes expansion of our products and services, widespread
distribution of our CD ROM product to educate computer users about the Internet
and introduce them to our site, and continued development of relationships with
content providers and parties capable of enhancing e-commerce opportunities for
our users.
We incurred net losses of $3,127,900 and $6,736,100 for the year ended December
31, 1998, and the first nine months of fiscal 1999, respectively. At September
30, 1999, we had an accumulated deficit of $10,192,100. The net losses and
accumulated deficit resulted from the significant operational, infrastructure
and other costs incurred in the development and marketing of our services and
the fact that revenues failed to keep pace with such costs. As a result of our
expansion plans and our expectation that our operating expenses, especially in
the areas of sales and marketing, will continue to increase significantly, we
expect to incur additional losses from operations for the foreseeable future. To
the extent that increases in our operating expenses precede or are not
subsequently followed by commensurate increases in revenues, or that we are
unable to adjust operating expense levels accordingly, our business, results of
operations and financial condition would be materially and adversely affected.
There can be no assurance that we will ever achieve or sustain profitability or
that our operating losses will not increase in the future.
To date, we have entered into business and technology license arrangements in
order to build our website community, provide community-specific content,
generate additional traffic, and provide our subscribers with additional
products and services, including e-commerce tools.
We intend to continue to investigate potential acquisitions and to seek
additional relationships with content providers that fall within the scope of
our business strategy, and will serve to increase our subscriber base and
overall site traffic. Acquisitions carry numerous risks and uncertainties and we
cannot guarantee that we will be able to successfully integrate any businesses,
products, technologies or personnel that might be acquired in the future.
11
RESULTS OF OPERATIONS
NET REVENUES. Revenues increased to approximately $1.10 million and $2.98
million for the three and nine months ended September 30, 1999, respectively, as
compared to approximately $66,000 and $113,000 for the three and nine months
ended September 30, 1998, respectively. The absolute dollar increases for both
for the three and nine month period in 1999 over the comparable periods in 1998
were the result of the increase in the number of advertisers and the average
contract duration and value (the result of higher web site traffic to
nettaxi.com web pages), an increase in revenues from the hosting of community
partners, transaction processing fee revenue, and to a lesser extent, increases
in our royalties and customization fees associated with the distribution of our
CD ROM product. Barter revenues accounted for less than 10% of total revenues
for all reporting periods.
ADVERTISING REVENUES. Advertising revenues were approximately $630,000 and
$1.16 million for the three and nine months ended September 30, 1999,
respectively, which represented 57% and 39%, respectively, of total net
revenues. Advertising revenues were approximately $54,000 for both the three and
nine months ended September 30, 1998, which represented 81% and 49%,
respectively, of total net revenue. The absolute dollar increases for both the
three and nine month periods in 1999 over the comparable periods in 1998
resulted from an increase in the number of advertisers as well as the increase
in average contract commitments of these advertisers as a result of increased
web traffic to our web site. In the third quarter of 1999, the Company hired
additional internal sales personnel to begin direct sales to advertisers. We
had deferred revenues of $30,000 at September 30, 1999 and $50,000 at December
31, 1998, attributable to prepaid advertising and prepaid CD ROM customization
fees.
TRANSACTION PROCESSING FEES. Transaction processing fees were approximately
$6,000 and $1.29 million for the three and nine months ended September 30, 1999,
respectively, which represented 0% and 43%, respectfully, of total net revenues.
There were no transaction processing fees in 1998. Transactions fees consist
of revenue derived from credit card evaluations and from the processing of
on-line credit card transactions. The 1999 revenue is attributable to the merger
with Plus Net, Inc. in May 1999. Revenues of this type were significantly
lower in the third quarter of 1999 and we do not expect revenues of this type
to be significant in future periods.
HOSTING REVENUES. Our hosting revenues were approximately $410,000 and $420,000
for the three and nine months ended September 30, 1999, respectively, which
represented 37% and 14%, respectively, of total net revenues. There were no
hosting revenues in 1998. In the third quarter of 1999, the Company began
providing internet hosting and connectivity services for corporate customers.
Our services are delivered through a state-of-the-art Internet data center
located in Southern California using a high-performance Internet backbone
network. Customers pay monthly fees for the professional services utilized,
one-time installation fees, and monthly connectivity charges. These "hosting"
revenues were recognized in the period the services were provided.
COST OF OPERATIONS. Cost of operations increased to approximately $1.18 million
and $1.91 million for the three and nine months ended September 30, 1999,
respectively, as compared to approximately $73,000 and $122,000 for the three
and nine months ended September 30, 1998, respectively. The substantial
absolute dollar increases in both the three and nine month periods in 1999 over
the comparable periods in 1998 is the result of increased costs for co-location
expenses (Internet connection charges), equipment costs and depreciation of
equipment, amortization of intangible assets, and expenses for third party
content and development. In the third quarter of 1999, the Company began
providing Internet connectivity services to corporate customers and required
purchases of additional bandwidth to service these customers. These costs are
expected to continue to increase as our web traffic increases and our corporate
customer require additional bandwidth for our "citizens".
12
SALES AND MARKETING EXPENSES. Sales and marketing expenses consisted primarily
of salaries of our sales and marketing personnel, marketing, promotion,
advertising and related costs. Sales and marketing expenses were approximately
$2.29 million and $3.13 million for the three and nine month periods ended
September 30, 1999, respectively, as compared to approximately $514,000 and
$655,000 for the three and nine month periods ended September 30, 1998. The
absolute dollar increases in both the three and nine month periods in 1999 over
the comparable periods in 1998 in sales and marketing expenses was primarily
attributable to expansion of our online and print advertising, public relations
and other promotional expenditures as well as increased sales and marketing
personnel and related expenses required to implement our marketing strategy. In
the third quarter of 1999, the Company began to implement aggressive marketing
campaigns online and in traditional media to promote the Nettaxi.com brand and
attract an increasing number of visitors to our Web site.
We expect sales and marketing expenses to increase significantly in future
periods. These increases will be principally related to hiring additional sales
and marketing personnel and increased spending on advertising in a variety of
media to increase brand awareness and attract additional visitors to our Web
site. There can be no assurance that these increased expenditures will result in
increased visitors to our Web site or additional revenues.
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses were
approximately $856,000 and $1.59 million for the three and nine month periods
ended September 30,1999, respectively, as compared to approximately $287,000 and
$518,000 for the three and nine month periods ended September 30, 1998. The
absolute dollar increases for both the three and nine month periods in 1999 over
the comparable periods in 1998 in research and development expenses were
primarily attributable to ongoing updating of the infrastructure and
technological development of our web site. The increase for the same period of
each year also includes increased salaries that are a result of the highly
competitive nature of hiring in the internet software marketplace. The Company
experienced substantial costs for engineer consultants during both the three and
nine month periods ended September 30, 1999 and expects these increased costs to
continue as we continue to recruit and retain personnel to meet the research and
development requirements of the Company.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
consisted primarily of salaries and related costs for our executive,
administrative, and finance personnel, as well as legal, accounting and other
professional service fees. General and administrative expenses were
approximately $748,000 and $2.76 million for the respective three and nine month
periods ended September 30, 1999, as compared to approximately $461,000 and
$655,000 for the respective three and nine month periods ended September 30,
1998. The increase in absolute dollars for both the three and nine month
periods in 1999 over the comparable periods in 1998 in general and
administrative expenses was primarily due to increases in the number of general
and administrative personnel and the increase in fees for professional services.
The increased salaries reflect the highly competitive nature of hiring in the
internet software marketplace. We expect general and administrative expenses to
grow as we hire additional personnel and incur additional expenses related to
the growth of our business and our operation as a public company.
13
INTEREST EXPENSE. Net interest expense was approximately $119,000 and $231,000
for the respective three and nine month periods ended September 30, 1999, as
compared to approximately $15,000 and $60,000 for the respective three and nine
month periods ended September 30, 1998. The net interest expense for the
respective three and nine month periods ended September 30, 1998 was primarily
due to a convertible promissory note which, in September 1998, was converted in
shares of common stock. The net interest expense for the respective three and
nine month periods ended September 30, 1999 related to the convertible
promissory note that was issued on March 31, 1999 and to amortization of
deferred interest related to warrants issued in conjunction with the convertible
promissory note.
OTHER INCOME. In the nine months ended September 30, 1999 and 1998 we realized
a gain of $0 and $28,500, respectively, from the disposal of capital equipment.
INCOME TAXES. At December 31, 1998, we had net operating loss carryforwards
available to reduce future taxable income that aggregate approximately
$1,227,000 for Federal income tax purposes. These benefits expire through 2018.
Pursuant to a "change in ownership" as defined by the provisions of the Tax
Reform Act of 1986, utilization of our net operating loss carryforwards may be
limited if a cumulative change of ownership of more than 50% occurs over a
three-year period. We have not determined if an ownership change has occurred.
In the nine months ended September 30, 1999 we have recorded a tax provision
which relates to earnings made by Plus Net, Inc. during its fiscal period before
our merger.
LIQUIDITY AND CAPITAL RESOURCES
As of September 30, 1999, the Company had cash and cash equivalents of
approximately $1.44 million, compared to approximately $466,000 at December 31,
1998.
Net cash used in operating activities equaled approximately $3.12 million and
$413,000 for the nine-month periods ended September 30, 1999 and 1998,
respectively. We had significant negative cash flows from operating activities
for both of the nine month periods primarily from our net operating losses,
adjusted for non-cash items, and increases in accounts receivable balances due
to the time lag between revenue recognition and the receipt of payments from
advertisers. These factors were offset by increases in accounts payable and
accrued expenses.
Net cash used in investing activities was approximately $2.09 million for the
nine month period ended September 30, 1999, as compared to net cash provided by
investing activities of approximately $13,000 for the nine month period ended
September 30, 1998. For the nine month period ended September 30, 1999,
substantially all of the cash used in investing activities was primarily related
to the purchase of capital equipment in connection with the build out of our Web
site and infrastructure.
Net cash provided by financing activities was approximately $6.19 million and
$1.21 million for the nine month periods ended September 30, 1999 and 1998,
respectively. Net cash provided by financing activities in 1998 consisted
primarily of net proceeds from the issuance of our common stock. Net cash
provided by financing activities in 1999 consisted of both net proceeds from
issuance of common stock and issuance of a convertible promissory note.
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Our capital requirements depend on numerous factors, including market acceptance
of our products and services, the resources we devote to investments in our web
site, the resources we devote to marketing and selling our services and our
brand promotions and other factors. We have experienced a substantial increase
in our capital expenditures in relation to growth in our operations and
staffing, and we anticipate that this will continue for the foreseeable future.
Additionally, we will continue to evaluate possible investments in businesses,
products and technologies, and plan to expand our sales and marketing programs
and conduct more aggressive brand promotions.
We expect to generate the necessary resources for these business objectives
through a combination of operating revenues, the sale of equity securities in
private placements, and debt financing. No assurances can be given, however,
that we will be able to obtain such additional resources. If we are
unsuccessful in generating anticipated resources from one or more of the
anticipated sources, and unable to replace the shortfall with resources from
another source, we may be able to extend the period for which available
resources would be adequate by deferring the creation or satisfaction of various
commitments, deferring the introduction of various services or entry into
various markets, and otherwise scaling back operations. If we are unable to
generate the required resources, our ability to meet our obligations and to
continue our operations would be adversely affected.
IMPACT OF THE YEAR 2000
Many currently installed computer systems and software products are coded to
accept or recognize only two digit entries in the date code field. These
systems may therefore recognize a date using "00" as the year 1900 rather than
the year 2000. As a result, computer systems and/or software used by many
companies and governmental agencies may need to be upgraded to comply with Year
2000 requirements or risk system failure or miscalculations causing disruptions
of normal business activities.
STATE OF READINESS. The third party vendors upon which we materially rely are
Exodus Communications and Alchemy Communications, Inc., which house and service
our Web equipment and provide our connection to the Internet. Both Exodus and
Alchemy have informed us that they believe their systems to be Year 2000
compliant.
In addition, we have sought verification from other key vendors, distributors
and suppliers that they are Year 2000 compliant or, if they are not presently
compliant, to provide a description of their plans to become so. To the extent
that vendors failed to provide certification that they are Year 2000 compliant,
we have terminated and replaced these relationships with those who are Year 2000
compliant.
We have conducted an internal assessment of all material information technology
and non-information technology systems at our headquarters for Year 2000
compliance. We believe that these material systems are or will be Year 2000
compliant before December 31, 1999.
COSTS. To date, we have not yet incurred any material costs in identifying or
evaluating Year 2000 compliance issues. Most of our costs have related to, and
are expected to continue to relate to, the upgrades or replacements, when
necessary, of software or hardware, as well as costs associated with time spent
by employees in the evaluation process and Year 2000 compliance matters
generally. These expenses are included in our operating and capital
expenditures budget and are not expected to exceed $100,000. However, if these
costs are significantly higher than expected, they could have a material and
adverse effect on our business, results of operations and financial condition.
15
RISKS. There can be no assurance that we will not discover Year 2000 compliance
problems in our systems that will require substantial revisions or replacements.
In the event that the operational facilities that support our business, or our
Web-hosting facilities, are not Year 2000 compliant, we may be unable to deliver
goods or services to our customers and portions of our Website may become
unavailable. In addition, there can be no assurance that third party software,
hardware or services incorporated into our material systems will not need to be
revised or replaced, which could be time-consuming and expensive. Our inability
to fix or replace third party software, hardware or services on a timely basis
could result in lost revenues, increased operating costs and other business
interruptions, any of which could have a material and adverse effect on our
business, results of operations and financial condition. Moreover, the failure
to adequately address Year 2000 compliance issues in our software, hardware or
systems could result in claims of mismanagement, misrepresentation or breach of
contract and related litigation, which could be costly and time-consuming to
defend.
In addition, there can be no assurance that governmental agencies, utility
companies, Internet access companies and others outside our control will be Year
2000-compliant. The failure by these entities to be Year 2000-compliant could
result in a systemic failure beyond our control, including, for example, a
prolonged Internet, telecommunications or electrical failure, which could also
prevent us from delivering our services to our users, decrease the use of the
Internet or prevent users from accessing our services, any of which would have a
material and adverse effect on our business, results of operations and financial
condition.
CONTINGENCY PLAN. We do not currently have a contingency plan to deal with the
worst case scenario that might occur if technologies on which we depend are not
Year 2000-compliant and fail to operate effectively after the Year 2000. We have
taken into consideration the results of our Year 2000 compliance evaluation and
the responses received from distributors, suppliers and other third parties with
which we conduct business in determining the need for and nature and extent of
any contingency plans.
If our present efforts to address the Year 2000 compliance issues discussed
above are not successful, or if distributors, suppliers and other third parties
with which we conduct business do not successfully address such issues, our
users could seek alternate suppliers of our products and services. Any material
Year 2000 problem could require us to incur significant unanticipated expenses
to remedy and could divert our management's time and attention, either of which
could have a material and adverse effect on our business, operating results and
financial condition.
This is a Year 2000 readiness disclosure statement within the meaning of the
Year 2000 Information and Readiness Disclosure Act P.L. 105-271; however, the
disclosures made herein do not affect our liabilities under the federal
securities laws.
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RISK FACTORS
WE HAVE A LIMITED OPERATING HISTORY, HAVE INCURRED LOSSES SINCE INCEPTION, AND
EXPECT LOSSES FOR THE FORESEEABLE FUTURE
We were incorporated in October 1997. Accordingly, we have only a limited
operating history upon which you can evaluate our business and prospects. Since
our inception, we have incurred net losses, resulting primarily from costs
related to developing our Web site, attracting users to our Web site and
establishing the Nettaxi.com brand. At September 30, 1999, we had an accumulated
deficit of $10,192,100. Losses have continued to grow faster than our revenues
during our limited operating history over the last year and a half. This trend
is reflective of our continued investments in technology and sales and marketing
efforts to grow the business. Because of our plans to continue to invest
heavily in marketing and promotion, to hire additional employees, and to enhance
our Web site and operating infrastructure, we expect to incur significant net
losses for the foreseeable future. We believe these expenditures are necessary
to strengthen our brand recognition, attract more users to our Web site and
generate greater online revenues. If our revenue growth is slower than we
anticipate or our operating expenses exceed our expectations, our losses will be
significantly greater. We may never achieve profitability.
WE MAY NOT BE ABLE TO OBTAIN FURTHER CAPITAL TO PURSUE OUR BUSINESS OBJECTIVES
Given our limited resources and our history of losses from operations, we will
need to raise additional funds in order to fund expansion of our business, to
develop new or enhanced services or products, to respond to competitive
pressures or to acquire complementary products, businesses or technologies. No
assurances can be given, however, that we will be able to obtain such additional
resources. If we are unsuccessful in generating anticipated resources from one
or more of the anticipated sources, and unable to replace the shortfall with
resources from another source, we may be able to extend the period for which
available resources would be adequate by deferring the creation or satisfaction
of various commitments, deferring the introduction of various services or entry
into various markets, and otherwise scaling back operations. If we are unable
to generate the required resources, our ability to meet our obligations and to
continue our operations would be adversely affected.
WE ARE SUBJECT TO THE RISKS AND UNCERTAINTIES FREQUENTLY ENCOUNTERED BY EARLY
STAGE COMPANIES IN NEW AND RAPIDLY EVOLVING MARKETS
Due to our limited operating history, we are subject to many of the risks and
uncertainties frequently encountered by early stage companies in new and rapidly
evolving markets, such as e-commerce. Among other things, we are faced with the
need to establish our credibility with customers, advertising, content
providers, and companies offering e-commerce products and services, and such
parties are often understandably reluctant to do business with companies that
have not had an opportunity to establish a track record of performance and
accountability. For example, our ability to enter into exclusive relationships
to provide content over the Internet will be dependent on our ability to
demonstrate that we can handle high volumes of traffic through our site.
Similarly, early stage companies must devote substantial time and resources to
recruiting qualified senior management and employees at all levels, and must
also make significant investments to establish brand recognition. If we are
unable to overcome some of these obstacles, we may be unable to achieve our
business goals and raise sufficient capital to expand our business.
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OUR REVENUE GROWTH IN PRIOR PERIODS IS NOT INDICATIVE OF FUTURE GROWTH AND WE
CANNOT ACCURATELY PREDICT OUR FUTURE REVENUES
We had revenues of approximately $2,980,900 and $112,800 for the first nine
months of calendar year 1999 and 1998, respectively. While our growth rate has
been strong, it is unlikely that revenue will continue to grow at this rate in
the future and our performance during these periods should not be taken as being
indicative of future trends. In addition, a portion of the revenues for the
first nine months of 1999 were derived from credit card transaction processing
fees that will decline significantly over the balance of 1999. Accurate
predictions regarding our revenues in the future are difficult and should be
considered in light of our limited operating history and rapid changes in the
ever evolving Internet market. For example, our ability to generate revenues in
the future is dependent in part on the success of our capital-raising efforts
and the investments that we intend to make in sales and marketing,
infrastructure, and content development. Our revenues for the foreseeable
future will remain primarily dependent on the number of customers that we are
able to attract to our Web site, and secondarily on sponsorship and advertising
revenues. We cannot forecast with any degree of certainty the number of
visitors to our Web site, the number of visitors who will become customers, or
the amount of sponsorship and advertising revenues. Similarly, we cannot
provide any guarantees regarding the revenues that will be generated from
e-commerce products and services that we intend to make available on our site.
OUR QUARTERLY OPERATING RESULTS MAY FLUCTUATE SIGNIFICANTLY, THEREBY INCREASING
THE VOLATILITY OF OUR STOCK PRICE
In addition to the uncertainties regarding the rate of growth of our future
revenues, we anticipate that our operating results will fluctuate significantly
from quarter to quarter. These fluctuations may be due to seasonal and cyclical
patterns that may emerge in Internet e-commerce and advertising spending. For
example, we believe that the use of our Web site will be somewhat lower during
periods of the year if the patterns that currently effect traditional media,
such as television and radio where advertising sales are lower during the first
and third calendar quarters because of the summer vacation period and post
winter holiday season slowdown, develop in the Internet industry. It is likely
that similar seasonal patterns will develop in the Internet industry and thus
result in decreasing revenues for us during periods of the year. Quarterly
results may also vary for some of the same reasons and because it is difficult
to predict the long-term revenue growth of our business. If investments in
marketing and content development are delayed, we may experience corresponding
delays in anticipated revenues from such investments, thereby leading to uneven
quarterly results. Because of these factors, we believe that quarter-to-quarter
comparisons of our results of operations are not good indicators of our future
performance. If our operating results fall below the expectations of investors
in future periods, then our stock price may decline.
OUR NEED TO RAISE ADDITIONAL CAPITAL MAY CAUSE OUR STOCKHOLDERS TO EXPERIENCE
SIGNIFICANT DILUTION IN THE FUTURE
It is likely that we will need to raise additional funds in the future in order
to pursue our business objectives. If additional funds are raised through the
issuance of equity or convertible debt securities, the percentage ownership of
our stockholders will be reduced, stockholders may experience additional
dilution and such securities may have rights, preferences and privileges senior
to those of our common stock. This may make an investment in our common stock
less attractive to other investors, thereby weakening the trading market for our
common stock.
OUR PLANNED ONLINE AND TRADITIONAL MARKETING CAMPAIGNS MAY NOT ATTRACT
SUFFICIENT ADDITIONAL VISITORS TO OUR WEB SITE
We plan to pursue aggressive marketing campaigns online and in traditional media
to promote the Nettaxi.com brand and attract an increasing number of visitors to
our Web site. We believe that maintaining and strengthening the Nettaxi.com
brand will be critical to the success of our business. This investment in
increased marketing carries with it significant risks, including the following:
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- - Our advertisements may not properly convey the Nettaxi.com brand image, or
may even detract from our image. Advertising in print and broadcast media is
expensive and is often typically difficult to modify quickly in order to take
into account feedback that may indicate that we have failed to convey the
optimal message. If our advertisements fail to positively promote our brand and
image, the damage to our business may be long-lasting and costly to repair.
- - Even if we succeed in creating the right messages for our promotional
campaigns, these advertisements may fail to attract new visitors to our Web site
at levels commensurate with their costs. We may fail to choose the optimal mix
of television, radio, print and other media to cost effectively deliver our
message. Moreover, if these efforts are unsuccessful, we will face difficult and
costly choices in deciding whether and how to redirect our marketing dollars.
WE MAY FAIL TO ESTABLISH AN EFFECTIVE INTERNAL SALES ORGANIZATION TO ATTRACT
SPONSORSHIP AND ADVERTISING REVENUES
To date, we have relied principally on outside advertising agencies to develop
sponsorship and advertising opportunities. We believe that the growth of
sponsorship and advertising revenues will depend on our ability to establish an
aggressive and effective internal sales organization. Our internal sales team
currently has nine members. We will need to substantially increase this sales
force in the coming year in order to execute our business plan. Our ability to
increase our sales force involves a number of risks and uncertainties, including
competition and the length of time for new sales employees to become productive.
If we do not develop an effective internal sales force, our business will be
materially and adversely affected by our inability to attract sponsorship and
advertising revenues.
WE RELY HEAVILY ON THIRD PARTIES FOR DEVELOPMENT OF SOFTWARE AND CONTENT AND FOR
ESSENTIAL BUSINESS OPERATIONS AND MAY BE ADVERSELY AFFECTED BY OUR FAILURE TO
MAINTAIN SATISFACTORY RELATIONSHIPS WITH SUCH PARTIES
We depend on third parties for important aspects of our business, including:
- - Internet access;
- - development of software for new Web site features;
- - content; and
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- - telecommunications.
We have limited control over these third parties, and we are not their only
client. We may not be able to maintain satisfactory relationships with any of
them on acceptable commercial terms, and there is no guarantee that we will be
able to renew these agreements at all. Further, we cannot be sure that the
quality of products and services that they provide may remain at the levels
needed to enable us to conduct our business effectively.
WE ARE HEAVILY RELIANT ON THIRD PARTIES TO HOUSE AND SERVICE OUR WEB SITE AND
ARE VULNERABLE TO POSSIBLE DAMAGE TO OUR OPERATING SYSTEMS
We maintain substantially all of our computer systems at our Campbell,
California site and the Santa Clara, California site of Exodus Communications.
We are heavily reliant on the ability of Exodus to house and service our Web
site. This system's continuing and uninterrupted performance is critical to our
success. Growth in the number of users accessing our Web site may strain its
capacity, and we rely on Exodus to upgrade our system's capacity in the face of
this growth. Exodus also provides our connection to the Internet. Sustained or
repeated system failures or interruptions of our Web site connection services
would reduce the attractiveness of our Web site to customers and advertisers,
and could therefore have a material and adverse effect on our business due to
loss of membership and advertising revenues.
In 1999 and 1998, we experienced several interruptions and degradations of
service as a result of our third party service provider's inability to deliver
the contractual bandwidth required to handle our traffic volume. These
interruptions result in decreased Web usage volume and therefore impact our
ability to serve advertising impressions for our customers. These interruptions
can materially impact our revenues. We estimate that during 1998 we lost
approximately $35,000 in revenue because of this and through September 1999, we
lost an additional $35,000 in revenues.
In addition, our operations are dependent in part on our ability to protect our
operating systems against physical damage from fire, floods, earthquakes, power
loss, telecommunications failures, break-ins or other similar events.
Furthermore, our servers are vulnerable to computer viruses, break-ins and
similar disruptive problems. The occurrence of any of these events could result
in interruptions, delays or cessations in service to our users and result in a
decrease in the number of visitors to our site.
WE ARE GROWING RAPIDLY, AND EFFECTIVELY MANAGING OUR GROWTH MAY BE DIFFICULT
We are currently experiencing a period of significant expansion. In order to
execute our business plan, we must continue to grow significantly. This growth
will strain our personnel, management systems and resources. To manage our
growth, we must implement operational and financial systems and controls and
recruit, train and manage new employees. Some key members of our management have
only recently been hired, including our chief financial officer and controller.
These individuals have had little experience working with our management team.
We cannot be sure that we will be able to integrate new executives and other
employees into our organization effectively. In addition, there will be
significant administrative burdens placed on our management team as a result of
our status as a public company. If we do not manage growth effectively, we will
not be able to achieve our financial and business goals.
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WE DEPEND ON OUR KEY PERSONNEL TO OPERATE OUR BUSINESS, AND WE MAY NOT BE ABLE
TO HIRE ENOUGH ADDITIONAL MANAGEMENT AND OTHER PERSONNEL AS OUR BUSINESS GROWS
Our performance is substantially dependent on the continued services and on the
performance of our executive officers and other key employees, particularly
Robert A. Rositano, Jr., our Chief Executive Officer, and Dean Rositano, our
Chief Operating Officer. The loss of the services of any of our executive
officers could materially and adversely affect our business due to their
experience with our business plan and the disruption in the conduct of our
day-to-day operations. Additionally, we believe we will need to attract, retain
and motivate talented management and other highly skilled employees to be
successful. Competition for employees that possess knowledge of both the
Internet industry and our target market is intense. We may be unable to retain
our key employees or attract, assimilate and retain other highly qualified
employees in the future.
INTENSE COMPETITION FROM OTHER INTERNET-BASED BUSINESSES MAY REDUCE OUR MARGINS
AND MARKET SHARE AND CAUSE OUR STOCK PRICE TO DECLINE
The markets in which we are engaged are new, rapidly evolving and intensely
competitive, and we expect competition to intensify further in the future.
Barriers to entry are relatively low, and current and new competitors can launch
new sites at a relatively low cost using commercially-available software.
Competition could result in price reductions for our products and services,
reduced margins or loss of market share. Consolidation within the online
commerce industry may also increase competition.
We currently or potentially compete with a number of other companies, including
a number of large online communities and services that have expertise in
developing online commerce, and a number of other small services, including
those that serve specialty markets. Many of our potential competitors have
longer operating histories, larger customer bases, greater brand recognition in
other business and Internet markets and significantly greater financial,
marketing, technical and other resources than us.
WE MAY FAIL TO ESTABLISH AND MAINTAIN STRATEGIC RELATIONSHIPS WITH OTHER WEB
SITES TO INCREASE NUMBERS OF WEB SITE USERS AND INCREASE OUR REVENUES
We intend to establish numerous strategic relationships with popular Web sites
to increase the number of visitors to our Web site. There is intense competition
for placements on these sites, and we may not be able to enter into these
relationships on commercially reasonable terms or at all. Even if we enter into
relationships with other Web sites, they themselves may not attract significant
numbers of users. Therefore, our site may not receive additional users from
these relationships. Moreover, we may have to pay significant fees to establish
these relationships. Our inability to enter into new distribution relationships
and expand our existing ones could have a material and adverse effect on our
business due to our inability to increase the number of users of our site.
WE MAY NOT BE ABLE TO ADAPT AS INTERNET TECHNOLOGIES AND CUSTOMER DEMANDS
CONTINUE TO EVOLVE
To be successful, we must adapt to rapidly changing Internet technologies and
continually enhance the features and services provided on our Web site. We could
incur substantial, unanticipated costs if we need to modify our Web site,
software and infrastructure to incorporate new technologies demanded by our
audience. We may use new technologies ineffectively or we may fail to adapt our
Web site, transaction-processing systems and network infrastructure to user
requirements or emerging industry standards. If we fail to keep pace with the
technological demands of our Web-savvy audience for new services, products and
enhancements, our users may not use our Web site and instead use those of our
competitors.
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WE MAY NOT BE ABLE TO PROTECT AND ENFORCE OUR TRADEMARKS, WEB ADDRESSES AND
PROPRIETARY RIGHTS
Our Nettaxi.com brand and our Web address, www.nettaxi.com, are critical to our
success. We have filed a trademark application for "Nettaxi", among other
trademark applications. We cannot guarantee that any of these trademark
applications will be granted. In addition, we may not be able to prevent third
parties from acquiring Web addresses that are confusingly similar to our
addresses, which could harm our business. Also, while we have entered into
confidentiality agreements with our employees, contractors and suppliers in
order to safeguard our trade secrets and other proprietary information, there
can be no assurance that technology will not be misappropriated or that others
may lawfully develop similar technologies.
WE WOULD LOSE REVENUES AND INCUR SIGNIFICANT COSTS IF OUR SYSTEMS OR MATERIAL
THIRD PARTY SYSTEMS ARE NOT YEAR 2000-COMPLIANT
We have not devised a Year 2000 contingency plan. The failure of our internal
systems, or any material third party systems, to be Year 2000-compliant could
have a material and adverse effect on our business, results of operations and
financial condition if the compliance problems significantly impair access to
and use of our Web site.
To date, we have not incurred any material costs in identifying or evaluating
Year 2000 compliance issues. Most of our costs have related to, and are expected
to continue to relate to, the upgrades or replacements, when necessary, of
software or hardware, as well as costs associated with time spent by employees
in the evaluation process and Year 2000 compliance matters generally. These
expenses are included in our operating and capital expenditures budget and are
not expected to exceed $100,000. However, if these costs are significantly
higher than expected, they could have a material and adverse effect on our
business, results of operations and financial condition due to the need to spend
substantial amounts on compliance.
We may fail to discover Year 2000 compliance problems in our systems that will
require substantial revisions or replacements. In the event that the
operational facilities that support our business, or our Web-hosting facilities,
are not Year 2000 compliant, portions of our Web site may become unavailable and
we would be unable to deliver services to our users. In addition, there can be
no assurance that third party software, hardware or services incorporated into
our material systems will not need to be revised or replaced, which could be
time-consuming and expensive. Our inability to fix or replace third party
software, hardware or services on a timely basis could result in lost revenues,
increased operating costs and other business interruptions. Moreover, the
failure to adequately address Year 2000 compliance issues in our software,
hardware or systems could result in claims of mismanagement, misrepresentation
or breach of contract and related litigation, which could be costly and
time-consuming to defend.
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In addition, there can be no assurance that governmental agencies, utility
companies, Internet access companies, third party service providers and others
outside our control will be Year 2000 compliant. The failure by these entities
to be Year 2000 compliant could result in a systemic failure beyond our control,
including, for example, a prolonged Internet, telecommunications or electrical
failure, which could also prevent us from delivering our services to our users,
decrease the use of the Internet or prevent users from accessing our services.
ACQUISITIONS MAY DISRUPT OR OTHERWISE HAVE A NEGATIVE IMPACT ON OUR BUSINESS
We may acquire or make investments in complementary businesses, products,
services or technologies on an opportunistic basis when we believe they will
assist us in carrying out our business strategy. Growth through acquisitions has
been a successful strategy used by other Internet companies. We do not have any
present understanding relating to any such acquisition or investment. If we were
to buy a content, service or technology company, the amount of time and level of
resources required to successfully integrate their business operation could be
substantial. The challenges in assimilating their people and organizational
structure, and in encountering potential unforeseen technical issues in
integrating their content, service or technology into ours, could cause
significant delays in executing other key areas of our business plan. This
could include delays in integrating other content, services or technology into
our communities, or moving forward on other business development relationships,
as management and employees, both of which are time constrained, may be
distracted. In addition, the key personnel of the acquired company may decide
not to work for us, which could result in the loss of key technical or business
knowledge to us. Furthermore, in making an acquisition, we may have to incur
debt or issue equity securities to finance the acquisition, the issuance of
which could be dilutive to our existing shareholders.
WE ARE VULNERABLE TO ADDITIONAL TAX OBLIGATIONS THAT COULD BE IMPOSED ON ONLINE
COMMERCE TRANSACTIONS
We do not expect to collect sales or other similar taxes in respect of
transactions engaged in by customers on our Web site. However, various states
or foreign countries may seek to impose sales tax obligations on us and other
e-commerce and direct marketing companies. A number of proposals have been made
at the state and local levels that would impose additional taxes on the sale of
goods and services through the Internet. These proposals, if adopted, could
substantially impair the growth of e-commerce and cause purchasing through our
Web site to be less attractive to customers as compared to traditional retail
purchasing. The United States Congress has passed legislation limiting for three
years the ability of the states to impose taxes on Internet-based transactions.
Failure to renew this legislation could result in the imposition by various
states of taxes on e-commerce. Further, states have attempted to impose sales
taxes on catalog sales from businesses such as ours. A successful assertion by
one or more states that we should have collected or be collecting sales taxes on
the sale of products could have a material and adverse effect on our business
due to the imposition of fines or penalties or the requirement that we pay for
the uncollected taxes.
WE MAY NOT BE ABLE TO TAKE FULL ADVANTAGE OF POTENTIAL TAX BENEFITS FROM OUR NET
OPERATING LOSS CARRYFORWARDS
At December 31, 1998 we had net operating loss carryforwards available to reduce
future taxable income that aggregated approximately $1,227,000 for Federal
income tax purposes. These benefits expire through 2018. Pursuant to a "change
in ownership" as defined by the provisions of the Tax Reform Act of 1986,
utilization of our net operating loss carryforwards may be limited, if a
cumulative change of ownership of more than 50% occurs over a three-year period.
We have not determined if an ownership change has occurred. If it has, we may
not be able to take full advantage of potential tax benefits from our net
operating loss carry forwards.
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WE ARE DEPENDENT ON THE CONTINUED DEVELOPMENT OF THE INTERNET INFRASTRUCTURE
Our industry is new and rapidly evolving. Our business is highly dependant on
the growth of the internet industry and would be adversely affected if Web usage
and e-commerce does not continue to grow. Web usage may be inhibited for a
number of reasons, including:
- - inadequate Internet infrastructure;
- - security concerns;
- - inconsistent quality of service;
- - unavailability of cost-effective, high-speed service;
- - imposition of transactional taxes; or
- - limitation of third party service provider's ability and willingness to
invest in new or updated equipment to handle traffic volume.
If Web usage grows, the Internet infrastructure may not be able to support the
demands placed on it by this growth, or its performance and reliability may
decline. We are highly dependant on third party service providers. Any
interruption experienced by these service providers may have a material impact
on our business due to our inability to serve our advertising customers or end
users. In addition, Web sites, including ours, have experienced a variety of
interruptions in their service as a result of outages and other delays occurring
throughout the Internet network infrastructure. If these outages or delays
frequently occur in the future, Web usage, including usage of our Web site,
could grow slowly or decline. This may have a material impact on future
revenues.
OUR LONG-TERM SUCCESS DEPENDS ON THE DEVELOPMENT OF THE E-COMMERCE MARKET, WHICH
IS UNCERTAIN
Our future revenues and profits substantially depend upon the widespread
acceptance and use of the Web as an effective medium of commerce by consumers.
Rapid growth in the use of the Web and commercial online services is a recent
phenomenon. Demand for recently introduced services and products over the Web
and online services is subject to a high level of uncertainty. The development
of the Web and online services as a viable commercial marketplace is subject to
a number of factors, including the following:
- - e-commerce is at an early stage and buyers may be unwilling to shift their
purchasing from traditional vendors to online vendors;
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- - insufficient availability of telecommunication services or changes in
telecommunication services could result in slower response times; and
- - adverse publicity and consumer concerns about the security of commerce
transactions on the Internet could discourage its acceptance and growth.
ADOPTION OF THE INTERNET AS AN ADVERTISING MEDIUM IS UNCERTAIN
The growth of Internet sponsorships and advertising requires validation of the
Internet as an effective advertising medium. This validation has yet to fully
occur. In order for us to generate sponsorship and advertising revenues,
marketers must direct a significant portion of their budgets to the Internet
and, specifically, to our Web site. To date, sales of Internet sponsorships and
advertising represent only a small percentage of total advertising sales. Also,
technological developments could slow the growth of sponsorships and advertising
on the Internet. For example, widespread use of filter software programs that
limit access to advertising on our Web site from the Internet user's browser
could reduce advertising on the Internet. Our business, financial condition and
operating results would be adversely affected if the market for Internet
advertising fails to further develop due to the loss of anticipated revenues.
BREACHES OF SECURITY ON THE INTERNET MAY SLOW THE GROWTH OF E-COMMERCE AND WEB
ADVERTISING AND SUBJECT US TO LIABILITY
The need to securely transmit confidential information, such as credit card and
other personal information, over the Internet has been a significant barrier to
e-commerce and communications over the Web. Any well-publicized compromise of
security could deter more people from using the Web or from using it to conduct
transactions that involve transmitting confidential information, such as
purchases of goods or services. Furthermore, decreased traffic and e-commerce
sales as a result of general security concerns could cause advertisers to reduce
their amount of online spending. To the extent that our activities or the
activities of third party contractors involve the storage and transmission of
proprietary information, such as credit card numbers, security breaches could
disrupt our business, damage our reputation and expose us to a risk of loss or
litigation and possible liability. We could be liable for claims based on
unauthorized purchases with credit card information, impersonation or other
similar fraud claims. Claims could also be based on other misuses of personal
information, such as for unauthorized marketing purposes. We may need to spend a
great deal of money and use other resources to protect against the threat of
security breaches or to alleviate problems caused by security breaches.
WE COULD FACE LIABILITY FOR INFORMATION DISPLAYED ON AND COMMUNICATIONS THROUGH
OUR WEB SITE
We may be subjected to claims for defamation, negligence, copyright or trademark
infringement or based on other theories relating to the information we publish
on our Web site. These types of claims have been brought, sometimes
successfully, against Internet companies as well as print publications in the
past. Based on links we provide to other Web sites, we could also be subjected
to claims based upon online content we do not control that is accessible from
our Web site. Claims may also be based on statements made and actions taken as a
result of participation in our chat rooms or as a result of materials posted by
members on bulletin boards at our Web site. We also offer e-mail services, which
may subject us to potential risks, such as:
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- - liabilities or claims resulting from unsolicited e-mail;
- - lost or misdirected messages;
- - illegal or fraudulent use of e-mail; or
- - interruptions or delays in e-mail service.
- - These claims could result in substantial costs and a diversion of our
management's attention and resources.
EFFORTS TO REGULATE OR ELIMINATE THE USE OF MECHANISMS WHICH AUTOMATICALLY
COLLECT INFORMATION ON USERS OF OUR WEB SITE MAY INTERFERE WITH OUR ABILITY TO
TARGET OUR MARKETING EFFORTS AND TAILOR OUR WEB SITE OFFERINGS TO THE TASTES OF
OUR USERS
Web sites typically place a tracking program on a user's hard drive without the
user's knowledge or consent. These programs automatically collect data on anyone
visiting a Web site. Web site operators use these mechanisms for a variety of
purposes, including the collection of data derived from users' Internet
activity. Most currently available Web browsers allow users to elect to remove
these mechanisms at any time or to prevent such information from being stored on
their hard drive. In addition, some commentators, privacy advocates and
governmental bodies have suggested limiting or eliminating the use of these
tracking mechanisms. Any reduction or limitation in the use of this software
could limit the effectiveness of our sales and marketing efforts.
WE COULD FACE ADDITIONAL BURDENS ASSOCIATED WITH GOVERNMENT REGULATION OF AND
LEGAL UNCERTAINTIES SURROUNDING THE INTERNET
Any new law or regulation pertaining to the Internet, or the application or
interpretation of existing laws, could have a material and adverse effect on our
business, results of operations and financial condition due to increased costs
of doing business. Laws and regulations directly applicable to Internet
communications, commerce and advertising are becoming more prevalent. The law
governing the Internet, however, remains largely unsettled, even in areas where
there has been some legislative action. It may take years to determine whether
and how existing laws governing intellectual property, copyright, privacy,
obscenity, libel and taxation apply to the Internet. In addition, the growth and
development of e-commerce may prompt calls for more stringent consumer
protection laws, both in the United States and abroad. We also may be subject
to future regulation not specifically related to the Internet, including laws
affecting direct marketers.
WE COULD INCUR MONETARY DAMAGES FROM LITIGATION ARISING OUT OF OUR BUSINESS
ACTIVITIES
On July 9, 1999, we were named as one of several defendants in a lawsuit filed
by four disaffected shareholders in Simply Interactive, Inc. The lawsuit arises
out of a series of events relating to certain assets our operating company,
Nettaxi Online Communities, purchased from SSN Properties in October 1997. The
complaint alleges that we owed, and either intentionally or negligently
breached, fiduciary duties to the plaintiffs. The suit also claims that we
either intentionally or negligently interfered with the plaintiffs' contract or
prospective advantage. While our officers and directors believe that the suit
is without merit, we cannot provide you with any assurances that we will prevail
in this dispute. If the plaintiffs successfully prosecute any of their claims
against us, the resulting monetary damages and reduction in our working capital
could significantly harm our business. See Part II, Item 1, "Legal
Proceedings".
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SHARES ELIGIBLE FOR FUTURE SALE BY OUR CURRENT STOCKHOLDERS MAY ADVERSELY AFFECT
OUR STOCK PRICE
To date, we have had a very limited trading volume in our common stock. As of
September 30, 1999, 2,060,000 shares of our common stock were immediately
eligible for sale in the public market without restriction or further
restriction under the Securities Act of 1933, unless purchased by or issued to
any "affiliate" of ours, as that term is defined in Rule 144 promulgated under
that act. However, an additional 11,950,337 shares of our common stock became
eligible for sale under Rule 144 on November 11, 1999. We may also shortly file
a registration statement to register all shares of common stock under our stock
option plan. After that registration statement is effective, shares issued upon
exercise of stock options, including options for 366,471 shares that were
exercisable as of September 30, 1999, will be eligible for resale in the public
market without restriction. If our stockholders sell substantial amounts of our
common stock under Rule 144 or pursuant to the aforementioned registration
statement, the market price of our common stock could be adversely affected and
our ability to raise additional capital at that time through the sale of our
securities could be impaired.
ANTI-TAKEOVER PROVISIONS AND OUR RIGHT TO ISSUE PREFERRED STOCK COULD MAKE A
THIRD PARTY ACQUISITION OF US DIFFICULT
We are a Nevada corporation. Anti-takeover provisions of Nevada law could make
it more difficult for a third party to acquire control of us, even if such
change in control would be beneficial to stockholders. Our articles of
incorporation provide that our board of directors may issue preferred stock
without stockholder approval. The issuance of preferred stock could make it
more difficult for a third party to acquire us. All of the foregoing could
adversely affect prevailing market prices for our common stock.
OUR COMMON STOCK PRICE IS LIKELY TO BE HIGHLY VOLATILE AS IS TYPICAL OF INTERNET
COMPANIES
The market price of our common stock has been, and is likely to continue to be,
highly volatile as the stock market in general, and the market for
Internet-related and technology companies in particular, has been highly
volatile. Investors may not be able to resell their shares of our common stock
following periods of volatility because of the market's adverse reaction to
volatility. The trading prices of many technology and Internet-related
companies' stocks have reached historical highs within the last 52 weeks and
have reflected valuations substantially above historical levels. During the
same period, these companies' stocks have also been highly volatile and have
recorded lows well below historical highs. We cannot assure you that our stock
will trade at the same levels of other Internet stocks or that Internet stocks
in general will sustain their current market prices.
Factors that could cause such volatility may include, among other things:
- - actual or anticipated fluctuations in our quarterly operating results;
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- - announcements of technological innovations;
- - conditions or trends in the Internet industry; and
- - changes in the market valuations of other Internet companies.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
We could be exposed to market risk related to any and all of our debt
obligations for financing working capital and capital equipment requirements in
the future. Historically we have financed such requirements from the issuance
of both preferred and common stock. In addition, we have augmented our equity
financing activities via the issuance of convertible debt financing. We
continue to consider financing alternatives, which may include the incurrence of
long-term indebtedness. Actual capital requirements may vary based upon the
timing and success of the expansion of our operations. We believe that based on
the terms and maturities of any future debt obligations that the market risk
would be minimal. We currently do not have any material market rate risks.
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
On July 9, 1999, four disaffected shareholders in Simply Interactive, Inc., led
by Ronald Ventre, filed an action in the Santa Clara County Superior Court (Case
No. CV 783127) against Nettaxi.com, Nettaxi Online Communities, Inc., SSN
Properties, LLC and certain of our officers, directors and shareholders. This
action, which has been consolidated with another action in the Santa Clara
County Superior Court (Case No. CV 776736), seeks recovery against the
defendants for conduct which occurred prior to the existence of Nettaxi.
Distinctions can be made between the claims that the Ventre group is pursuing
against us and the other defendants. As to us, the suit claims that we owed,
and either intentionally or negligently breached, fiduciary duties to the Ventre
group. The suit also claims that we either intentionally or negligently
interfered with the Ventre group's contract or prospective advantage. The Ventre
group is seeking the following relief against us:
- - an unstated amount of compensatory and special damages in the sum of their
investments in Simply Interactive, plus prejudgment interest;
- - an accounting of profits;
- - punitive damages; and
- - costs of suit, including attorney fees as permitted by law.
The Ventre group's claims against the other defendants, while not clear, include
all of the claims described above with respect to us as well as other claims of
ineffective management, waste of assets and similar claims. In addition to the
relief described above with respect to us, the Ventre group seeks the following
from the other defendants:
- - declaratory relief concerning the validity of the election of the board of
directors of Simply Interactive; and
- - orders for the inspection of corporate records in, and the holding of
shareholder meetings for, Simply Interactive.
Since the action was filed, discussions regarding a possible settlement have
taken place. However, Ventre's group has demanded that Robert A. Rositano, Sr.,
Dean Rositano and Robert A. Rositano, Jr. give them shares of our common stock
which had an approximate value of $2.08 million. Given that the Ventre group's
original investment in Simply Interactive was approximately $675,000, and that
the officers and directors of Nettaxi.com believe that the Ventre group's claims
are without merit, the demand was rejected and the defendants intend to
vigorously defend the litigation. In its agreement with us for the original
sale and purchase of the assets, SSN Properties agreed to indemnify us against
claims that might be brought by Simply Interactive with respect to rights that
Simply Interactive might have in the transferred assets. We are currently
seeking confirmation of the indemnity obligation from SSN Properties.
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By stipulation, all defendants will file responsive pleadings on or before
November 15, 1999.
GeoCities has made a written demand that we cease and desist in our use of the
marks WALLSTREET and CAPITOL HILL in connection with our services, claiming that
our use infringes upon GeoCities' trademark rights. GeoCities has applied for
Federal registration of the marks. To resolve this matter, we filed a complaint
against GeoCities in April 1999 in the United States District Court for the
Northern District of California seeking declaratory relief that our use of the
marks does not infringe upon the rights of GeoCities. That action has been
dismissed without prejudice. We believe that we have rights to use the marks
and intend to protect our rights to do so. We cannot assure you, however, that
the results of the litigation will be favorable to us. There has been no
activity on this matter since April 1999.
From time to time, we are involved in legal proceedings incidental to our
business. We believe that these pending actions, individually and in the
aggregate, will not have a material adverse effect on our financial condition,
and that adequate provision has been made for the resolution of such actions and
proceedings.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.
In the three months ended September 30, 1999, we granted options to purchase an
aggregate of 1,711,000 shares of our common stock to a total of 19 employees.
In August, 1999 we entered into an agreement with RGC International Investors,
LDC pursuant to which they exercised 150,000 warrants that were issued to them
in connection with the issuance of convertible debentures to them on March 31,
1999 and registered by us upon the effectiveness of our S-1 Registration
Statement on August 13, 1999. In consideration for the early exercise of their
warrants, the exercise prices for the warrants was decreased from $12.375 to
$7.857 and we issued RGC International Investors warrants to purchase an
additional 150,000 shares of common stock.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES.
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Effective June 30, 1999, the Company, by written consent of holders of a
majority of its outstanding common stock, approved an amendment to the Company's
Articles of Incorporation to change the Company's name to "Nettaxi.com".
ITEM 5. OTHER INFORMATION.
Not applicable.
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ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits
Exhibit Number Description of Exhibit
3.4 Certificate of Amendment of Articles of Incorporation
10.57 Master Services Agreement dated September 15, 1997 by and between
Exodus Communications, Inc. and the Company.
10.58 Gigabit Data Center Services Agreement dated July 1, 1999 by and
between Alchemy Communications, Inc. and the Company.
10.59 Advertising Impression Network Contract dated July 1, 1999 by and
between White Sand Communications, Inc. and the Company.
10.60 Advertising Impression Network Contract dated July 1, 1999 by and
between Multinet Communications Worldwide Limited and the Company.
10.61 Data Center Service Agreement dated July 15, 1999 by and between
Babenet, LTD and the Company.
10.62 Data Center Service Agreement dated July 15, 1999 by and between
Whitehorn Ventures Limited and the Company
10.63 Data Center Service Agreement dated August 15, 1999 by and between
White Sand Communications, Inc. and the Company.
27 Financial Data Schedule
(b) Reports on Form 8-K.
No reports on Form 8-K were filed during the quarter ended September 30, 1999.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
NETTAXI.COM
Date: November 14, 1999 By: /s/ Glenn Goelz
-----------------
Glenn Goelz,
Chief Financial Officer
(Principal Accounting and
Financial Officer)
32
(a) Exhibit Index
Exhibit Number Description of Exhibit
3.4 Certificate of Amendment of Articles of Incorporation
10.57 Master Services Agreement dated September 15, 1997 by and between
Exodus Communications, Inc. and the Company.
10.58 Gigabit Data Center Services Agreement dated July 1, 1999 by and
between Alchemy Communications, Inc. and the Company.
10.59 Advertising Impression Network Contract dated July 1, 1999 by and
between White Sand Communications, Inc. and the Company.
10.60 Advertising Impression Network Contract dated July 1, 1999 by and
between Multinet Communications Worldwide Limited and the Company.
10.61 Data Center Service Agreement dated July 15, 1999 by and between
Babenet, LTD and the Company.
10.62 Data Center Service Agreement dated July 15, 1999 by and between
Whitehorn Ventures Limited and the Company
10.63 Data Center Service Agreement dated August 15, 1999 by and between
White Sand Communications, Inc. and the Company.
27 Financial Data Schedule
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