EXHIBIT 99.1
INDEPENDENT AUDITORS' REPORT
The Board of Directors
netDialog, Inc.:
We have audited the accompanying balance sheets of netDialog, Inc. (the Company)
as of December 31, 1997 and 1998, and the related statements of operations,
redeemable preferred stock and shareholders' deficit, and cash flows for the
period from May 12, 1997 (inception) to December 31, 1997, and for the year
ended December 31, 1998. 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 netDialog, Inc. as of December
31, 1997 and 1998, and the results of its operations and its cash flows for the
period from May 12, 1997 (inception) to December 31, 1997, and for the year
ended December 31, 1998, in conformity with generally accepted accounting
principles.
/s/ KPMG LLP
Mountain View, California
December 30, 1999
NETDIALOG, INC.
Balance Sheets
DECEMBER 31,
---------------------------- SEPTEMBER 30,
ASSETS 1997 1998 1999
----------- ----------- ------------
(Unaudited)
Current assets:
Cash and cash equivalents $ 1,913,398 $ 915,904 $ 524,346
Restricted short-term investments -- -- 136,500
Accounts receivable -- -- 63,493
Prepaid expenses and other current assets -- -- 3,659
----------- ----------- -----------
Total current assets 1,913,398 915,904 727,998
Property and equipment, net 21,375 336,145 553,877
Other assets -- 75,000 56,250
----------- ----------- -----------
Total assets $ 1,934,773 $ 1,327,049 $ 1,338,125
=========== =========== ===========
LIABILITIES, REDEEMABLE PREFERRED STOCK,
AND SHAREHOLDERS' DEFICIT
Current liabilities:
Convertible debt $ -- $ -- $ 4,800,560
Notes payable, current -- 711,086 511,086
Accounts payable 126,692 124,623 330,794
Accrued liabilities -- 92,850 390,620
----------- ----------- -----------
Total current liabilities 126,692 928,559 6,033,060
Notes payable, less current portion -- 166,628 83,314
----------- ----------- -----------
Total liabilities 126,692 1,095,187 6,116,374
----------- ----------- -----------
Commitments
Redeemable preferred stock, no par value; 6,300,000, 6,300,000, and 6,500,000
shares authorized, respectively; 3,104,846, 6,164,694, and 6,464,694 shares
issued and outstanding, respectively; liquidation preference
of $4,140,002, $8,220,003, and $8,620,023, respectively 2,054,466 4,088,979 4,995,061
Shareholders' deficit:
Common stock, no par value; 20,000,000 shares
authorized; 4,830,000, 4,878,257, and 5,000,527
shares issued and outstanding, respectively 15,900 757,394 1,014,955
Deferred compensation -- (489,071) (374,549)
Accumulated deficit (262,285) (4,125,440) (10,413,716)
----------- ----------- -----------
Total shareholders' deficit (246,385) (3,857,117) (9,773,310)
----------- ----------- -----------
Total liabilities, redeemable preferred stock,
and shareholders' deficit $ 1,934,773 $ 1,327,049 $ 1,338,125
=========== =========== ===========
See accompanying notes to financial statements.
NETDIALOG, INC.
Statements of Operations
PERIOD FROM
MAY 12, 1997 NINE-MONTH PERIOD ENDED
(INCEPTION) TO YEAR ENDED SEPTEMBER 30,
DECEMBER 31, DECEMBER 31, -----------------------------
1997 1998 1998 1999
------------- ------------ ----------- -----------
(Unaudited)
Revenues $ -- $ -- $ -- $ 71,737
------------- ------------ ------------- ------------
Operating expenses:
Cost of revenues -- -- -- 332,839
Research and development 149,906 2,155,053 1,624,509 1,901,130
Sales and marketing -- 914,769 518,872 1,784,419
General and administrative 113,679 613,362 502,525 1,116,622
Amortization of employee
stock-based compensation -- 226,847 99,939 301,044
------------- ------------ ------------- -----------
Total operating expenses 263,585 3,910,031 2,745,845 5,436,054
------------- ------------ ------------- -----------
Loss from operations (263,585) (3,910,031) (2,745,845) (5,364,317)
Interest income (expense), net 1,300 46,876 38,052 (923,959)
------------- ------------ ------------- -----------
Net loss $ (262,285) $(3,863,155) $ (2,707,793) $(6,288,276)
============= ============ ============= ===========
Net loss per share of common stock:
Basic and diluted $ (0.06) $ (2.13) $ (1.63) $ (2.12)
============= ============ ============= ===========
Weighted-average shares 4,599,142 1,817,349 1,657,637 2,970,308
============= ============ ============= ===========
See accompanying notes to financial statements.
NETDIALOG, INC.
Statements of Redeemable Preferred Stock and Shareholders' Deficit
REDEEMABLE PREFERRED STOCK COMMON STOCK
SHARES AMOUNT SHARES AMOUNT
---------- --------- ----------- ------------
Issuance of common stock to founders,
May 12, 1997 -- $ -- 4,800,000 $ --
Issuance of Series A redeemable preferred
stock, net 3,104,846 2,054,466 -- --
Issuance of common stock in exchange
for services rendered -- -- 30,000 15,900
Net loss -- -- -- --
---------- --------- ----------- -----------
Balances as of December 31, 1997 3,104,846 2,054,466 4,830,000 15,900
Issuance of common stock in exchange
for services rendered -- -- 48,257 25,576
Issuance of Series A redeemable preferred
stock, net 3,059,848 2,034,513 -- --
Deferred stock-based compensation -- -- -- 715,918
Amortization of deferred stock-based
compensation -- -- -- --
Net loss -- -- -- --
---------- --------- ----------- -----------
Balances as of December 31, 1998 6,164,694 4,088,979 4,878,257 757,394
Issuance of common stock upon exercise
of options (unaudited) -- -- 26,249 2,625
Issuance of Series A redeemable preferred stock
(unaudited) 300,000 200,010 -- --
Deferred stock-based compensation,
net (unaudited) -- -- -- 186,522
Amortization of deferred stock-based
compensation (unaudited) -- -- -- --
Issuance of common stock in exchange
for services rendered (unaudited) -- -- 96,021 68,414
Issuance of redeemable preferred stock warrants
in connection with convertible debt (unaudited) -- 706,072 -- --
Net loss (unaudited) -- -- -- --
---------- --------- ----------- -----------
Balances as of September 30, 1999 (unaudited) 6,464,694 $ 4,995,061 5,000,527 $ 1,014,955
========== =========== =========== ===========
TOTAL
DEFERRED ACCUMULATED SHAREHOLDERS'
COMPENSATION DEFICIT DEFICIT
------------ ----------- -------------
Issuance of common stock to founders,
May 12, 1997 $ -- $ -- $ --
Issuance of Series A redeemable preferred
stock, net -- -- --
Issuance of common stock in exchange
for services rendered -- -- 15,900
Net loss -- (262,285) (262,285)
----------- ----------- -----------
Balances as of December 31, 1997 -- (262,285) (246,385)
Issuance of common stock in exchange
for services rendered -- -- 25,576
Issuance of Series A redeemable preferred
stock, net -- -- --
Deferred stock-based compensation (715,918) -- --
Amortization of deferred stock-based
compensation 226,847 -- 226,847
Net loss -- (3,863,155) (3,863,155)
----------- ----------- -----------
Balances as of December 31, 1998 (489,071) (4,125,440) (3,857,117)
Issuance of common stock upon exercise
of options (unaudited) -- -- 2,625
Issuance of Series A redeemable preferred stock
(unaudited) -- -- --
Deferred stock-based compensation,
net (unaudited) (186,522) -- --
Amortization of deferred stock-based
compensation (unaudited) 301,044 -- 301,044
Issuance of common stock in exchange
for services rendered (unaudited) -- -- 68,414
Issuance of redeemable preferred stock warrants
in connection with convertible debt (unaudited) -- -- --
Net loss (unaudited) -- (6,288,276) (6,288,276)
----------- ----------- -----------
Balances as of September 30, 1999 (unaudited) $ (374,549) $(10,413,716) $(9,773,310)
=========== =========== ===========
See accompanying notes to financial statements.
NETDIALOG, INC.
Statements of Cash Flows
PERIOD FROM
MAY 12, 1997 NINE-MONTH PERIOD ENDED
(INCEPTION) TO YEAR ENDED SEPTEMBER 30,
DECEMBER 31, DECEMBER 31, -------------------------------
1997 1998 1998 1999
-------------- ------------ ----------- ------------
(Unaudited)
Cash flows from operating activities:
Net loss $ (262,285) $(3,863,155) $(2,707,793) $(6,288,276)
Adjustments to reconcile net loss to net
cash used in operating activities:
Depreciation 333 66,137 50,334 128,649
Amortization of redeemable preferred
stock warrants -- -- -- 706,072
Employee stock compensation expense -- 226,847 99,939 301,044
Issuance of common sock in exchange for
services rendered 15,900 25,576 -- 68,414
Changes in operating assets and liabilities:
Accounts receivable -- -- -- (63,493)
Prepaid expenses and other assets -- (75,000) (75,000) 15,091
Accounts payable and accrued liabilities 126,692 90,781 226,780 503,941
----------- ----------- ----------- -----------
Net cash used in operating activities (119,360) (3,528,814) (2,405,740) (4,628,558)
----------- ----------- ----------- -----------
Cash flows from investing activities:
Property and equipment purchases (21,708) (380,907) (345,171) (346,381)
Purchases of short-term investments -- -- -- (136,500)
----------- ----------- ----------- -----------
Net cash used in investing activities (21,708) (380,907) (345,171) (482,881)
----------- ----------- ----------- -----------
Cash flows from financing activities:
Proceeds from issuance of redeemable
preferred stock, net of issuance costs 1,954,466 2,034,513 2,034,513 200,010
Proceeds from issuance of common stock -- -- -- 2,625
Proceeds from convertible debt 100,000 -- -- 4,800,560
Proceeds from notes payable -- 877,714 117,273 --
Payments of notes payable -- -- -- (283,314)
----------- ----------- ----------- -----------
Net cash provided by financing activities 2,054,466 2,912,227 2,151,786 4,719,881
----------- ----------- ----------- -----------
Net increase (decrease) in cash and cash equivalents 1,913,398 (997,494) (599,125) (391,558)
Cash and cash equivalents at beginning of period -- 1,913,398 1,913,398 915,904
----------- ----------- ----------- -----------
Cash and cash equivalents at end of period $ 1,913,398 $ 915,904 $ 1,314,273 $ 524,346
=========== =========== =========== ===========
Supplemental disclosures of cash flow information:
Cash paid during period for interest $ -- $ 6,200 $ -- $ 21,700
=========== =========== =========== ===========
Noncash investing and financing activities:
Issuance of Series A convertible preferred
stock upon conversion of convertible debt $ 100,000 $ -- $ -- $ --
=========== =========== =========== ===========
Grant of options to purchase common stock
with an exercise price below fair value $ -- $ 715,918 $ 440,734 $ 186,522
=========== =========== =========== ===========
See accompanying notes to financial statements.
NETDIALOG, INC.
Notes to Financial Statements
December 31, 1997 and 1998
(Information with respect to September 30, 1998 and 1999 is unaudited.)
(1) THE COMPANY
netDialog, Inc. (the Company) was incorporated in California on May 12,
1997. The Company develops and markets of on-line customer management (OCM)
solutions. The Company's OCM system is an on-line customer service
application suite that delivers predictive and proactive answers to
customers' questions directly on the Web site. The Company began selling
the OCM solution in the third quarter of 1999.
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a) INTERIM FINANCIAL STATEMENTS
The interim financial statements of the Company for the nine-month
periods ended September 30, 1998 and 1999, included herein have been
prepared by the Company, without audit, pursuant to the rules and
regulations of the Securities and Exchange Commission. Certain
information and note disclosures normally included in financial
statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted pursuant to such rules and
regulations relating to interim financial statements.
In the opinion of management, the accompanying unaudited interim
financial statements reflect all adjustments, consisting only of
normal recurring adjustments, necessary to present fairly the
financial position of the Company as of September 30, 1999, and the
results of its operations and its cash flows for the nine-month
periods ended September 30, 1998 and 1999. Results for the nine-month
period ended September 30, 1999, are not necessarily indicative of the
results to be expected for the entire year.
(b) USE OF ESTIMATES
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 the disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of
revenue and expense during the reporting period. Actual results could
differ from those estimates.
(c) CASH EQUIVALENTS AND SHORT-TERM INVESTMENTS
Cash equivalents consist of instruments with maturities of three
months or less at the time of purchase. As of December 31, 1997 and
1998, and September 30, 1999, cash equivalents of $1,901,694,
$889,871, and $532,579, respectively, are comprised of money market
accounts that are maintained with a highly rated financial
institution. The Company's short-term investments consisted of
certificates of deposit with maturities of less than one year.
NETDIALOG, INC.
Notes to Financial Statements
December 31, 1997 and 1998
(Information with respect to September 30, 1998 and 1999 is unaudited.)
The Company has classified its cash equivalents and short-term
investments as "available for sale." Such investments are carried at
fair value based on the quoted market prices, and unrealized gains and
losses, if material, are reported as a separate component of
accumulated other comprehensive income (loss) in shareholders' equity.
The cost of securities sold is based on the specific identification
method. Realized and unrealized gains and losses were not material
during all periods presented.
(d) PROPERTY AND EQUIPMENT
Property and equipment are stated at cost, less accumulated
depreciation. Depreciation is computed using the straight-line method
over the estimated useful lives of the respective assets, generally
three to five years.
The Company evaluates long-lived assets for impairment whenever
changes in circumstances indicate that the carrying amount of the
asset may not be recoverable. Recoverability of assets to be held and
used is measured by a comparison of the carrying amount of an asset to
future undiscounted net cash flows expected to be generated by the
asset. If such assets are considered to be impaired, the impairment to
be recognized is measured by the amount by which the carrying amount
exceeds the fair value of the assets. Assets to be disposed of are
reported at the lower of carrying values or fair values, less costs of
disposal.
(e) FAIR VALUE OF FINANCIAL INSTRUMENTS
The fair values of the Company's cash, cash equivalents, short-term
investments, accounts receivable, accounts payable, and notes payable
approximate their carrying values due to the short maturity or
variable rate structure of those instruments.
(f) CONCENTRATION OF CREDIT RISK
Financial instruments, which subject the Company to concentrations of
credit risk, consist primarily of cash and cash equivalents,
short-term investments, and trade accounts receivable. The Company
maintains cash and cash equivalents with one domestic financial
institution. From time to time, the Company's cash balances with its
financial institution may exceed Federal Deposit Insurance Corporation
insurance limits.
The Company's customers are concentrated in the United States. The
Company performs ongoing credit evaluations, generally does not
require collateral and will establish an allowance for doubtful
accounts based upon factors surrounding the credit risk of customers,
historical trends, and other information. As of September 30, 1999,
the Company has incurred no losses related to bad debts.
NETDIALOG, INC.
Notes to Financial Statements
December 31, 1997 and 1998
(Information with respect to September 30, 1998 and 1999 is unaudited.)
(g) REVENUE RECOGNITION
The Company recognizes revenue in accordance with Statement of
Position (SOP) 97-2, SOFTWARE REVENUE RECOGNITION. SOP 97-2 requires
that revenue recognized from software arrangements be allocated to
each element of the arrangement based on the relative fair values of
the elements, such as software products, upgrades, enhancements,
postcontract customer support, installation, or training. The
determination of fair value is based on objective evidence that is
specific to the Company. If evidence of fair value for each element of
the arrangement does not exist, all revenue from the arrangement is
deferred until such time as evidence of fair value does exist or until
all elements of the arrangement are delivered.
License revenues are recognized upon the receipt of persuasive
evidence of an arrangement, delivery to the customer, and
determination that collection of a fixed or determinable fee is
probable. Maintenance contracts generally call for the Company to
provide technical support and software updates and upgrades to
customers. The Company also provides hosting services whereby the
Company manages and maintains the OCM software on behalf of the
customer. Maintenance and hosting revenue is recognized ratably over
the term of the contract, generally on a straight-line basis.
(h) CAPITALIZED SOFTWARE DEVELOPMENT COSTS
Software development costs are included in research and development
expenses and are expensed as incurred. After technological feasibility
is achieved, software development costs are capitalized. The
capitalized costs are then amortized on a straight-line basis over the
estimated product life, or on the ratio of current revenue to total
projected product revenue, whichever is greater. To date, the
achievement of technological feasibility and general availability of
such software has been contemporaneous and software development costs
qualifying for capitalization have been insignificant. Accordingly,
the Company has not capitalized any software development costs.
(i) INCOME TAXES
The Company uses the asset and liability method of accounting for
income taxes. Under the asset and liability method, deferred tax
assets and liabilities are recognized for the estimated future tax
consequences attributable to differences between the financial
statement carrying amounts of existing assets and liabilities and
their respective tax bases. Deferred tax assets and liabilities are
measured using enacted tax rates expected to apply to taxable income
in the years in which those temporary differences are expected to be
recovered or settled. The effect on deferred tax assets and
liabilities of a change in tax rates is recognized in the statement of
operations in the period that includes the enactment date. A valuation
allowance is established to reduce deferred tax assets when it is more
likely than not that all or a portion of the deferred tax assets will
not be realized.
NETDIALOG, INC.
Notes to Financial Statements
December 31, 1997 and 1998
(Information with respect to September 30, 1998 and 1999 is unaudited.)
(j) STOCK-BASED COMPENSATION
The Company accounts for its stock-based compensation arrangements
with employees using the intrinsic-value method pursuant to Accounting
Principles Board (APB) Opinion No. 25. As such, compensation expense
is recorded on the date of grant when the fair value of the underlying
common stock exceeds the exercise price for stock options or the
purchase price for the issuance or sales of common stock.
The Company accounts for stock-based compensation arrangements with
nonemployees in accordance with SFAS No. 123 and Emerging Issues Task
Force (EITF) Issue No. 96-18, ACCOUNTING FOR EQUITY INSTRUMENTS THAT
ARE ISSUED TO OTHER THAN EMPLOYEES FOR ACQUIRING, OR IN CONJUNCTION
WITH SELLING, GOODS OR SERVICES. Accordingly, unvested options held by
nonemployees are subject to revaluation at each balance sheet date
based on the then current fair market value.
Unearned deferred compensation resulting from employee and nonemployee
option grants is amortized on an accelerated basis over the vesting
period of the individual options, generally four years, in accordance
with Financial Accounting Standards Board (FASB) Interpretation No.
28.
(k) COMPREHENSIVE LOSS
The Company has no significant components of other comprehensive loss,
and, accordingly, comprehensive loss is the same as net loss for all
periods.
(l) NET LOSS PER SHARE
Basic net loss per share is computed using the weighted-average number
of outstanding shares of common stock. Diluted net loss per share is
computed using the weighted-average number of shares of common stock
outstanding and, when dilutive, potential common shares from options
and warrants to purchase common stock or convertible preferred stock
using the treasury stock method and from convertible securities using
the "as if converted" basis. All potential shares of common stock have
been excluded from the computation of diluted net loss per share for
all periods presented because the effect would have been antidilutive.
NETDIALOG, INC.
Notes to Financial Statements
December 31, 1997 and 1998
(Information with respect to September 30, 1998 and 1999 is unaudited.)
Diluted net loss per share does not include the effect of the
following antidilutive common equivalent shares:
DECEMBER 31, SEPTEMBER 30,
--------------------------------------- ---------------------------------------
1997 1998 1998 1999
------------------- ------------------ ------------------ ------------------
Common stock options $ -- $ 1,495,000 $ 1,420,000 $ 2,177,084
Unvested common stock
subject to repurchase 3,600,000 2,700,000 2,925,000 2,025,000
Redeemable preferred stock
(as if converted) 3,104,846 6,164,694 6,164,694 6,464,694
Preferred stock warrants -- -- -- 1,100,143
------------------- ------------------ ------------------ ------------------
$6,704,846 $10,359,694 $10,509,694 $11,766,921
=================== ================== ================== ==================
(m) SEGMENT REPORTING
The Company has one operating segment because it is not organized
by multiple segments for purposes of the chief operating decision
to make operating decisions or assess performance. The chief
operating decision maker evaluates performance, makes operating
decisions, and allocates resources based on financial data
consistent with the presentation in the accompanying financial
statements.
The Company's revenues have all been earned from customers in the
United States. In addition, all operations and assets are based in
the United States. During the nine-month period ended September
30, 1999, the Company's revenues were generated from five
customers, each representing 10% or more of total revenues.
(n) RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board issued SFAS
No. 133, ACCOUNTING FOR DERIVATIVE INSTRUMENTS AND HEDGING
ACTIVITIES, effective for fiscal years beginning after June 15,
2000. This standard requires that an entity recognize all
derivatives as either assets or liabilities in the balance sheet
and measure those instruments at fair value. The type and use of
the derivative, and whether it qualifies for hedge accounting,
will determine the treatment of gains or losses resulting from
changes in the fair value of the derivative. The Company believes
the adoption of SFAS No. 133 will not have a material effect on
its results of operations, financial position, or cash flows. SFAS
No. 133 will be effective for the Company beginning January 1,
2001.
NETDIALOG, INC.
Notes to Financial Statements
December 31, 1997 and 1998
(Information with respect to September 30, 1998 and 1999 is unaudited.)
In December 1998, the American Institute of Certified Public
Accountants (AICPA) issued SOP 98-9, MODIFICATION OF SOP 97-2,
"SOFTWARE REVENUE RECOGNITION," WITH RESPECT TO CERTAIN
TRANSACTIONS. SOP 98-9 amends SOP 97-2 to require the entity to
recognize revenue for multiple element arrangement by means of the
"residual method" when: (1) there is vendor-specific evidence of
the fair values of all of the undelivered elements of an
arrangement; (2) vendor-specific evidence of fair value does not
exist for one or more of the delivered elements; and (3) all other
revenue recognition criteria of SOP 97-2 have been satisfied. SOP
98-9 will be effective for transactions entered into after January
1, 2000. The Company believes the adoption of SOP 98-9 will not
have a material effect on its results of operations, financial
position or cash flows.
(2) PROPERTY AND EQUIPMENT
Property and equipment consisted of the following:
DECEMBER 31,
----------------------------------------- SEPTEMBER 30,
1997 1998 1999
------------------- ------------------- ------------------
Computer equipment and
purchased software $ 21,708 $ 333,645 $ 629,968
Furniture and fixtures -- 68,970 119,028
------------------- ------------------- ------------------
21,708 402,615 748,996
Less accumulated depreciation 333 66,470 195,119
------------------- ------------------- ------------------
$ 21,375 $ 336,145 $ 553,877
=================== =================== ==================
(3) CONVERTIBLE DEBT
The Company borrowed approximately $4,800,000 under a series of
convertible loan arrangements consummated on March 5, 1999 and July 19,
1999. As of September 30, 1999, approximately $2,800,000 is immediately
due and payable upon demand by the holders of the notes and $2,000,000
will be due and payable upon demand by the holders of the notes at any
time after January 19, 2000. The entire principal and accrued interest
shall be automatically converted into shares of the Company's equity
securities issued and sold at the closing of a subsequent equity
financing as defined by the terms of the loans or into Series A
redeemable preferred stock if the Company is acquired prior to the next
equity financing (see Note 8 - subsequent events). The conversion price
will be equal to the price per share of the equity securities into which
the loans are converted. The loans accrue interest at a fixed rate of 8%
per annum.
In connection with the March 5, 1999 convertible debt offering, the
Company issued warrants to purchase Series A redeemable preferred stock
with an exercise price of $0.67 per share. On March 5, 1999, the warrants
were initially exercisable into 419,979 shares of Series A redeemable
preferred stock (the Warrant Amount). As long as the convertible debt
remains outstanding, the Warrant Amount will increase in three equal
installments of 139,853 shares every three months after the original
issuance date up to a maximum of 839,957 shares. The warrants can be
exercised at any time prior to March 31, 2004.
In connection with July 19, 1999 convertible debt offering, the Company
issued warrants to purchase (i) shares of the Company's stock sold in a
subsequent equity financing, defined by the terms of the warrants,
NETDIALOG, INC.
Notes to Financial Statements
December 31, 1997 and 1998
(Information with respect to September 30, 1998 and 1999 is unaudited.)
or (ii) shares of Series A redeemable preferred stock if a subsequent
equity financing is not closed by January 15, 2000. The exercise price
shall be either (i) the price per share of the subsequent equity
financing or (ii) $0.67 per share if the subsequent equity financing is
not closed prior to January 15, 2000. The warrants were initially
exercisable into the number of shares of the Company's stock equal to 10%
of the outstanding principle amount of the related convertible debt
divided by the exercise price (the Warrant Percentage). The Warrant
Percentage increases in three equal installments of 3.33% every two
months after the original issuance up to a maximum of 20%. The warrants
can be exercised at any time prior to July 15, 2004.
For purposes of determining the fair value of the warrants issued in
connection with the convertible debt, the warrants were broken down into
four tranches, with the first tranche representing the initial Warrant
Amount or Warrant Percentage and the remaining three tranches
representing the incremental increase in Warrant Amount or Warrant
Percentage. The fair value of each tranche was determined on the date on
which the convertible debt holders became entitled to that tranche. The
fair value of each tranche is deemed to be additional interest expense
and is charged to Interest Income (Expense), Net on the respective
valuation date. During the nine month period ended September 30, 1999,
the Company recorded interest expense of $659,972 in connection with
these warrants. The following weighted-average assumptions were used in
estimating the fair value of the warrants: (i) dividend yield of 0%; (ii)
expected volatility of 100%; (iii) weighted average risk-free interest
rate of 5%; and (iv) contractual life of 5 years.
In connection with the acquisition of the Company (See Note 8-Subsequent
Event), the warrants were exercised into 1,150,347 shares of Series A
preferred stock, net of 189,684 shares surrendered back to the Company in
lieu of paying cash for the exercise of the warrants.
(4) NOTES PAYABLE
In 1998, the Company obtained a $1,000,000 equipment and revolving credit
facility, which is collateralized by primarily all of the Company's
assets and bears interest at the bank's prime rate (8% as of December
1998) plus 0.25%. As of December 31, 1998, $277,714 was outstanding under
the equipment facility with the principal amounts due in 30 equal monthly
installments commencing in January 1999. The Company is not entitled to
any further advances under the equipment facility subsequent to December
26, 1998. As of December 31, 1998, $600,000 was outstanding under the
revolving facility, which expired on June 25, 1999.
The aggregate principal payments due under the equipment facility
subsequent to December 31, 1998, are as follows: 1999, $111,000; and
2000, $166,714.
The maturity date of the revolving facility was extended to October 31,
1999. In consideration for extending the facility, the Company granted
warrants to purchase 71,640 shares of Series A redeemable preferred stock
with an exercise price of $0.67 per share. The warrants were issued in
two equal tranches on July 15, 1999, and September 1, 1999, and may be
exercised at any time prior to the fifth anniversary of their respective
issuance date. The warrants were valued at approximately $46,100 using
the Black-Scholes option pricing model and were expensed on the date of
issuance.
(5) CAPITAL STOCK
NETDIALOG, INC.
Notes to Financial Statements
December 31, 1997 and 1998
(Information with respect to September 30, 1998 and 1999 is unaudited.)
(a) REDEEMABLE PREFERRED STOCK
Each share of Series A redeemable preferred stock includes a
noncumulative dividend right and liquidation preference of $0.05
and $1.33 per share, respectively, and is convertible at the
option of the holder into one share of common stock at any time,
subject to adjustment for antidilution. Each share will be
automatically converted upon written consent or agreement of the
holders of a majority of the outstanding shares of preferred stock
or upon an initial public offering of the Company's common stock.
Each share has voting rights equal to one share of common stock on
an "as if converted" basis.
The Series A redeemable preferred stock can be redeemed at any
time after December 31, 2002, upon written notice from
three-fourths of the holders of the Series A redeemable preferred
stock. Upon receipt of such written note, the shares shall be
redeemable at $0.67 per share in three equal annual installments.
No dividends have been declared or paid on either the preferred
stock or common stock since inception of the Company.
(b) COMMON STOCK
The Company has issued to its founders 4,800,000 shares of common
stock, of which 3,600,000 shares were subject to repurchase on
termination of employment as a condition to the closing of the
Series A redeemable preferred stock financing in December 1997.
Such repurchase rights lapse ratably on a monthly basis over four
years through December 2001. As of December 31, 1998, 2,700,000
shares were subject to repurchase.
(c) STOCK OPTION PLAN
The Company's 1997 Stock Option Plan (the 1997 Plan) provides for
stock options to be granted to employees, independent contractors,
officers, and directors. Options are generally granted at an
exercise price equivalent to the estimated fair market value per
share at the date of grant, as determined by the Company's Board
of Directors. All options are granted at the discretion of the
Company's Board of Directors and have a term not greater than 10
years from the date of grant. Options issued generally vest over 4
years, 25% one year after the grant date, and the remainder at a
rate of 1/36 each month thereafter.
A summary of stock option activity follows (no options were
granted in 1997):
NETDIALOG, INC.
Notes to Financial Statements
December 31, 1997 and 1998
(Information with respect to September 30, 1998 and 1999 is unaudited.)
NINE-MONTH
YEAR ENDED PERIOD ENDED
DECEMBER 31, SEPTEMBER 30,
1998 1999
------------ -------------
Outstanding at beginning of period -- 1,495,000
Options granted 1,655,000 1,507,500
Options exercised -- (26,249)
Options canceled (160,000) (799,167)
---------- ----------
Outstanding at the end of period 1,495,000 2,177,084
========== ==========
Shares available for future grant 1,105,000 396,667
========== ==========
All options granted in 1998 and 1999 have an exercise price of
$0.10 per share. As of December 31, 1998, the weighted-average
remaining contractual life of outstanding options was
approximately 9.5 years and approximately 81,000 options were
vested.
In connection with its grants of options, the Company has
recognized unearned deferred compensation expense of $715,918 for
the year ended December 31, 1998. Of this amount, $695,023 related
to 1,655,000 options granted to employees with exercise prices
below the deemed fair market value of the common stock. The
weighted-average fair value for these options was $0.47 per share.
The remaining $20,895 relates to the value of options granted to
nonemployees determined using the Black-Scholes option pricing
model.
The Company uses the intrinsic-value method in accounting for its
stock-based compensation plans. Accordingly, no compensation cost
has been recognized in the accompanying financial statements,
except for those options issued with exercise prices at less than
fair market value at date of grant. Had compensation costs been
determined in accordance with SFAS No. 123 for the Company's
employee stock option grants, net loss, and basic and diluted net
loss per share would not have been materially impacted.
The Company calculated the fair value of each option grant on the
measurement date using the following assumptions: dividend yield
at 0%; weighted-average expected option term of 4 years for
employees and a contractual term of 10 years for nonemployees;
risk-free interest rate of 5.5%; and expected volatility of 0% for
employees and 100% for nonemployees. The weighted-average fair
value of options granted during 1998 was approximately $0.48.
(6) COMMITMENTS
The Company leases its facility under a noncancelable operating lease
with an expiration date of April 2000. In connection with this lease, the
Company entered into a letter of credit for approximately $136,000. The
letter of credit is secured by a certificate of deposit. Rent expense was
$13,600 and $145,000 for the period from May 12, 1997 (inception) to
December 31, 1997, and for the year ended December 31, 1998,
respectively.
NETDIALOG, INC.
Notes to Financial Statements
December 31, 1997 and 1998
(Information with respect to September 30, 1998 and 1999 is unaudited.)
Future minimum lease payments under noncancelable operating leases as of
December 31, 1998, are as follows: 1999, $540,000; and 2000, $150,000.
(7) INCOME TAXES
As of December 31, 1997 and 1998, the Company had gross deferred tax
assets of $69,000 and $1,168,000 respectively, which consist primarily of
the net operating loss carryforwards. Management has established a full
valuation allowance against its gross deferred tax assets because it is
more likely than not that sufficient taxable income will not be generated
during the carryforward periods to realize the deferred tax assets.
As of December 31, 1998, the Company had net operating loss carryforwards
for federal and California income tax purposes of $2,318,000. The federal
net operating loss carryforwards, if not offset against future taxable
income, will expire from 2012 through 2018. The California net operating
loss carryforwards, if not offset against future taxable income, expire
in 2005. The Company also has research and experimental credits for
federal and state income tax purposes of approximately $83,000 and
$64,000, respectively. The federal credits will expire from 2012 and
2018, and the state credits can be carried forward indefinitely.
Due to the acquisition of the Company (see Note 8 - subsequent event),
its ability to utilize its carryforwards could be reduced.
NETDIALOG, INC.
Notes to Financial Statements
December 31, 1997 and 1998
(Information with respect to September 30, 1998 and 1999 is unaudited.)
(8) SUBSEQUENT EVENTS
On December 3, 1999, the Company consummated a merger agreement with Kana
Communications Inc. (Kana). Under the terms of the agreement,
approximately 622,031 shares of Kana common stock were issued or reserved
for issuance in exchange for all of the Company's outstanding capital
stock, options, and warrants. Each share of the Series A redeemable
preferred stock and the convertible debt were converted into the
Company's common stock immediately prior to the closing of the merger.