SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q Quarterly Report Under Section 13 or 15(d) of Securities Exchange Act of 1934 FOR PERIOD ENDED DECEMBER 31, 2002 Commission File Number 0-28287 KNOWLEDGE FOUNDATIONS, INC. (formerly Calipso, Inc.) DELAWARE 88-0418749 (State of Incorporation) (I.R.S. Employer ID Number 7852 COLGATE AVENUE, WESTMINSTER, CA 92683 (Address of Principal Executive Offices) (Zip Code) (949) 857 1133 (Registrant's telephone number, including area code) 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 twelve 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 Indicate the number of shares outstanding of each of the issuer's classes of common stock at the latest practicable date. As of February 13, 2003 the registrant had 39,133,718 shares of common stock, $.001 par value, issued and outstanding. PART 1 FINANCIAL INFORMATION ITEM 1 FINANCIAL STATEMENTS KNOWLEDGE FOUNDATIONS, INC. (formerly Calipso, Inc.) (a Development Stage Company) CONDENSED BALANCE SHEETS Dec.31,2002 Mar.31, 2002 (unaudited) (audited) ASSETS Current assets Cash . . . . . . . . . . . . . . . . . . . . . . . . . . $ 23 $ 22 Other receivables. . . . . . . . . . . . . . . . . . . . 60 60 ------------- -------------- Total current assets. . . . . . . . . . . . . . . . . . . . 83 82 Property and equipment, net . . . . . . . . . . . . . . . . . 4,782 7,651 ------------- -------------- Total assets. . . . . . . . . . . . . . . . . . . . . . . . . 4,865 7,733 ============= ============== LIABILITIES AND STOCKHOLDERS' (DEFICIT) Current liabilities Accounts payable . . . . . . . . . . . . . . . . . . . . 19,148 97,964 Accrued liabilities. . . . . . . . . . . . . . . . . . . 444,649 296,140 Notes payable. . . . . . . . . . . . . . . . . . . . . . 281,000 281,000 Subordinated notes payable . . . . . . . . . . . . . . . 300,000 300,000 Due to related parties and shareholder advances. . . . . 120,632 57,632 ------------- -------------- Total current liabilities . . . . . . . . . . . . . . . . . 1,165,429 1,032,736 ------------- -------------- STOCKHOLDERS' (DEFICIT) Preferred stock - $0.001 par value; 20,000,000 authorized, no shares issued and outstanding . . . . . . . . . . . . - - Common stock - $0.001 par value; 50,000,000 authorized, 39,133,718 issued and outstanding. . . . . . . . . . . . 39,111 39,111 Additional paid-in capital. . . . . . . . . . . . . . . . . (16,491) (16,491) Deficit accumulated during the development stage. . . . . . (1,183,184) (1,047,623) ------------- -------------- Total stockholders' (deficit) . . . . . . . . . . . . . . . . (1,160,564) (1,025,003) ------------- -------------- Total liabilities and stockholders' (deficit) . . . . . . . . 4,865 7,733 ============= ============== See accompanying notes to condensed financial statements. KNOWLEDGE FOUNDATIONS, INC. (formerly Calipso, Inc.) (a Development Stage Company) CONDENSED STATEMENTS OF OPERATIONS FOR THE THREE MONTHS AND NINE MONTHS ENDED DECEMBER 31, 2002 AND 2001 UNAUDITED Three months ended Nine Months ended Inception thru 12/31/02 12/31/01 12/31/02 12/31/01 12/31/02 -------------------- ------------------- ------------ ------------ ------------ Revenue . . . . . . . . . . . . . $ - $ - $ - $ - $ - Total cost of goods sold. . . . . - - - - - Gross profit. . . . . . . . . . . - - - - - Operating expenses Depreciation . . . . . . . . 956 956 2,869 2,869 10,293 General and administrative. . 49,664 42,295 150,192 138,821 1,187,386 -------------------- ------------------- ------------ ------------ ------------ Total operating expenses. . . . . 50,620 43,251 153,061 141,690 1,197,679 -------------------- ------------------- ------------ ------------ ------------ Loss from operations. . . . . . . (50,620) (43,251) (153,061) (141,690) (1,197,679) Other income (expense) Interest expense . . . . . . (10,442) (10,475) (31,212) (31,346) (101,642) Interest income. . . . . . . - - - - 3,244 Other income . . . . . . . . - 64,180 48,713 64,180 112,893 -------------------- ------------------- ------------ ------------ ------------ (10,442) 53,705 17,501 32,834 14,495 -------------------- ------------------- ============ ------------ Net loss. . . . . . . . . . . . . $ (61,062) $ 10,454 $ (135,560) $ (108,856) $(1,183,184) ==================== =================== ============ ============ ============ Basic and diluted earnings (loss) per share (see Note 5) . . . . $ (0.01) $ 0.01 $ (0.01) $ (0.01) Weighed average number of common shares outstanding. . . 39,133,718 39,108,000 39,133,718 39,108,000 See accompanying notes to condensed financial statements. KNOWLEDGE FOUNDATIONS, INC. (formerly Calipso, Inc.) (a Development Stage Company) CONDENSED STATEMENTS OF CASH FLOWS FOR THE NINE MONTHS ENDED DEC 31, 2002 AND 2001 UNAUDITED . Nine months ended Inception thru 12/31/02 12/31/01 12/31/02 -------------------- ------------------- -------------------- Cash flows from operating activities: Net loss . . . . . . . . . . . . . . . . . . . . . . . $ (135,560) $ (108,855) $ (1,183,184) Adjustments to reconcile net loss to net cash provided by (used in) operating activities: Depreciation. . . . . . . . . . . . . . . . . . . . 2,869 2,869 10,293 Common stock issued for services. . . . . . . . . . - - 19,258 Gain on extinguishment of debt. . . . . . . . . . . (48,713) (64,180) (112,893) Changes in assets and liabilities: Increase in other current assets. . . . . . . . . . - - (60) Increase (decrease) in accounts payable . . . . . . (30,103) (8,172) 132,041 Increase in accrued liabilities . . . . . . . . . . 148,508 148,656 444,649 Increase in amounts due to related parties. . . . . 63,000 42,017 120,632 -------------------- ------------------- -------------------- Net cash provided by (used in ) operating activities. . . 1 (9,941) (569,264) -------------------- ------------------- -------------------- Cash flows used in investing activities: Purchase of property, equipment, and software. . . . . - - (15,075) -------------------- ------------------- -------------------- Net cash used in investing activities . . . . . . . . . . - - (15,075) -------------------- ------------------- -------------------- Cash flows provided by financing activities: Proceeds from issuance of notes. . . . . . . . . . . . - - 581,000 Proceeds from the sale of common stock . . . . . . . . - 9,260 3,362 -------------------- ------------------- -------------------- Net cash provided by financing activities . . . . . . . . - 9,260 584,362 -------------------- ------------------- -------------------- Net increase (decrease_ in cash . . . . . . . . . . . . . 1 (681) 23 Cash at beginning of period . . . . . . . . . . . . . . . 22 1,408 - -------------------- ------------------- -------------------- Cash at end of period . . . . . . . . . . . . . . . . . . $ 23 $ 727 $ 23 ==================== =================== ==================== See accompanying notes to condensed financial statements. NOTES TO FINANCIAL STATEMENTS 1. MANAGEMENT'S OPINION In the opinion of management, the accompanying financial statements contain all adjustments necessary to present fairly the financial position of the company as of December 31, 2002 and 2001, and the results of operations for the three and nine months ended December 31, 2002 and 2001, and the changes in cash for the nine months ended December 30, 2002 and 2001. The accompanying financial statements have been adjusted as of December 31, 2002 as required by Item 310 (b) of Regulation S-B to include all adjustments, which in the opinion of management are necessary in order to make the financial statements not misleading. The results of operations for the nine months ended December 31, 2002 are not necessarily indicative of the results to be expected for the remainder of the year. 2. BASIS OF PRESENTATION Knowledge Foundations, Inc. (a development stage company) ("KFI"), a private Delaware corporation, was incorporated on April 6, 2000 according to the laws of Delaware. On September 18, 2000, KFI was merged into Calipso Inc. ("Calipso"). Under the terms of the merger agreement, all of KFI's outstanding common stock (33,618,500 shares of $0.0001 per value stock) was converted into 33,918,400 shares of $0.001 per value stock of Calipso, Inc. common stock. At the date of the transaction, Calipso had 4,179,600 shares of common stock outstanding. As part of the merger agreement, KFI ceased to exist as a separate legal entity, and Calipso changed its name to Knowledge Foundations, Inc. (the "Company"). The Company had treated the transaction as a reverse acquisition for accounting purposes since the KFI stockholders had control of the combined entity before and after the transaction. As Calipso had no substantive assets, liabilities, or operations as of or through September 18, 2000, the Company recorded the reverse acquisition as a reorganization of the Company's stockholders' equity, with the Company recording the issuance of 4,179,600 shares of the former Calipso stockholders for no consideration. Also the pro forma presentation of the Calipso merger as if it occurred in April 6, 2000 are not presented as the results would be immaterial to the Company's results. The Company has been in the development stage since its inception. During the development stage, the Company is primarily engaged in raising capital, obtaining financing, developing its knowledge-based computing technology, advertising and marketing, and administrative functions. The Company intends to produce a knowledge-based operating system, related tools and applications, and system integration services. The Company's primary target markets primarily are knowledge owners, publishers, large commercial corporations, government agencies and end-users. 3. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: RISKS AND UNCERTAINTIES While management believes that the Company can effectively compete because of its technical advances in the type of software created by Dr. Ballard, Chief Science Officer, the Company's ability to succeed will depend upon a number of factors, including its ability to secure funding. The Company's viability is substantially dependent upon the ability of current management to effectuate the infusion of capital either as equity or loans into the business. Commencing with the date of the merger, management has been unable to obtain any substantial funding source. As the result of the lack of capital, various personnel of the Company have been terminated, causing a slowdown of Company operations. However certain programming events have continued. A continued lack of capital may cause the Company to cease operations. Should the Company be unable to implement its current plan of operations, which requires an infusion of capital, management would investigate all options available to retain value for the shareholders. Among, but not limited to, the options that would be considered are: Acquisition of another product or technology, which would create an interest in a capital infusion; A merger or acquisition of another business entity that has revenue and/or long term growth potential; or Cease business operations until such time as funds are available. Following discussions with potential merger candidates, the Company entered into a merger agreement with BSI2000, Inc. ("BSI2000") (See Note 9). The Company cannot assess the probability that the transaction will proceed, or that the transaction will actually close. The Company is a start-up company subject to the substantial business risks and uncertainties inherent to such an entity, including the potential risk of business failure. In January 2001 most of the programming staff was laid off due to the lack of investment capital. The accompanying financial statements have been prepared on the basis of a going concern, which contemplates the realization of assets and liquidation of liabilities in the normal course of business. Management is pursuing financing initiatives that would enhance the development of the Company's products and provide sufficient capital for marketing. However, there is no assurance the Company will be able to obtain the sufficient equity financing or generate sufficient revenues on terms satisfactory to the Company. BASIS OF ACCOUNTING The Company's policy is to use the accrual method of accounting and to prepare and present financial statements, which conform to accounting principles generally accepted in the United States of America. The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities disclosure of contingent assets and liabilities at the date of the financial statements and reported amounts of revenue and expenses during the reporting periods. Actual results could differ from those estimates. NEW ACCOUNTING STANDARD On April 30, 2002 the Financial Accounting Standards Board (FASB) issued Statement 145, Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections. FASB 145 rescinds Statement 4, which required all gains and losses from extinguishments of debt to be aggregated and, if material, classified as an extraordinary item, net of related income tax effect. Early application of the provisions of FASB 145 may be as of the beginning of the fiscal year or as of the beginning of the interim period in which FASB is issued. The Company has elected to adopt FASB 145 as of the beginning of the current fiscal year. For the quarter ended June 30, 2002, the Company made a payment of $40,395 for release of $89,108 in accounts payable. The settlement resulted in a gain on extinguishment of debt of $48,713. As a result of the adoption of FASB 145, the Company recorded the gain as other income during the quarter ended June 30, 2002 as it did not meet the criteria for treatment as an extraordinary item as provided for in APB Opinion 30. The impact on diluted earnings per share for the quarter ended June 30, 2002 was $.001 per share. 4. EARNINGS (LOSS) PER SHARE The Company has adopted Statement of Financial Accounting Standards No. 128 ("SFAS 128"), "Earnings Per Share." Under SFAS 128, basic earnings per share is computed by dividing income available to common stockholders by the weighted-average number of common shares assumed to be outstanding during the period of computation. Diluted earnings per share is computed similar to basic earnings per share except that the denominator is increased to include the number of additional common shares that would have been outstanding if the potential common shares had been issued and if the additional common shares were dilutive. Because the Company has incurred net losses, basic and diluted loss per share are the same as additional potential common shares would be anti-dilutive. 5. NOTES PAYABLE CONVERTIBLE SUBORDINATED NOTE PAYABLE The Company borrowed $300,000 from an unrelated third party in the form of a convertible subordinated note (the "Note") on April 19, 2000. The Note is subordinated to future borrowings from financial institutions. The Note is unsecured and bears interest at 8% per annum which is payable semi-annually beginning six months after the date of this Note, with the principal together with all accrued but unpaid interest due on April 18, 2003. If an equity financing event occurs where the Company issues common stock or preferred stock to one or more unrelated third parties in exchange for at least an aggregate of $3,000,000 or if the Company merges into a publicly traded company and the stockholders of the Company own eighty percent (80%) of the Company on a fully diluted basis after the merger, the holder of this note has the right to convert all or any portion of the outstanding principal amount of this Note into a stated number of shares computed by dividing such principal amount by the conversion price per share offered in the equity financing. In the event the equity financing involves a merger transaction, the conversion price shall be $1.00 per share. Since the Company completed a merger transaction (see Note 1), the note is currently convertible at $1.00 per share. The outstanding balance on this note payable totaled $300,000 at December 31, 2002. Due to the accrued interest not being paid as of December 31, 2002, the total accrued interest of $63,223 (included in accrued liabilities) and the Note principal of $300,000 is considered to be in default of the Note terms as of December 31, 2002 and thus, has been classified as a current liability on the balance sheet. NOTES PAYABLE The Company has borrowings from third parties totaling $75,000 under unsecured notes payable. These notes payable accrue interest at 6% per annum, and principal and accrued interest are due on or before January 1, 2002, or five days after receipt by the Company of additional debt or equity financing in a sum of $500,000 or more. These notes are verbally extended, pending until the proposed merger with BSI2000. Interest expense incurred during the period ended December 31, 2002 was $7,913; which is included in accrued liabilities in the accompanying balance sheet at December 31, 2002. NOTES PAYABLE TO STOCKHOLDERS The Company borrowed funds from one stockholder totaling $206,000 under unsecured notes payable. These notes payable accrue interest at 6% per annum, and are due on demand (see Note 8). 6. COMMITMENT ROYALTY AGREEMENT The Company has entered into an agreement with regard to royalty fees between the Company and one of its officers. In this agreement rights relative to certain software designs have been assigned to the Company. The officer will receive royalties ranging from 2% to 5% on net sales of such software designs sold to others or deployed by the Company in a project for third parties. On December 31, 2002, no amounts are owed under the agreement. 7. CONTINGENCY The Company has a potential claim threatened against them by a consultant over consideration with regard to a finder's fee for potential equity financing. The Company believes that neither the merit or future outcome of such a claim nor potential damages is readily determinable as of December 31, 2002 and therefore has not accrued any liability in the accompanying financial statements. 8. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS NOTES PAYABLE TO SHAREHOLDERS The Company borrowed $206,000 from a shareholder, which obligation is a demand note with a principal balance as of December 31, 2002 of $206,000 plus $31,396 of accrued interest at 6% per annum (included in accrued liabilities), payable upon demand. Interest expense incurred during the quarter ended December 31, 2002 was $3,090. Additionally shareholders have advanced $89,632 to the Company as of December 31, 2002. Such amounts are non-interest bearing and due on demand. These amounts are included on the balance sheet as "Due from related parties and shareholder advances". OFFICE RENT EXPENSE As of December 31, 2002, the Company had a liability of $31,000 due to one of the principal stockholders for renting a portion of his residence (on a month-to-month basis) used as the Company's office for the period of April 6, 2000 through December 31, 2002. This amount is non-interest bearing. The total office rent expense was $3,000 for the three month period ended December 31, 2002. These amounts are included on the balance sheet as "Due from related parties and shareholder advances". 9. SUBSEQUENT EVENTS The Company and BSI2000, Inc. announced on May 2, 2002 the signing of an agreement to effectuate a reverse triangular merger whereby BSI2000, Inc. will become a wholly-owned subsidiary of the Company. The merger is subject to numerous terms and conditions including the approval of BSI2000, Inc. shareholders, the effectiveness of a Form S-4 Registration Statement registering shares of Knowledge Foundations, Inc. to be received by the shareholders of BSI2000, Inc., the receipt of not less than $500,000 by BSI2000, Inc. of working capital on or before July 2, 2002 (which has been received), and the ongoing accuracy and completeness of various representations and warranties being given by the parties, among other conditions. In addition the Company must seek shareholder approval for the distribution of its knowledge engineering software and related software and intellectual properties to the original developers and founders of Knowledge Foundations, Inc. in exchange for the cancellation of approximately 35 million shares owned by certain shareholders. This reorganization and distribution of the intellectual property of Knowledge Foundations, Inc. is also a condition to the completion of the merger and will be subject to the effectiveness of the merger. BSI2000, Inc., based in Lakewood, CO, is a marketer in the optical card access, tracking and transaction control industry. BSI2000 markets a proprietary family of integrated optical card devices designed to run control software. The card provides secure storage of data such as name, address, social security and taxpayer information; digitized identity photographs, signatures, fingerprints and medical images; updateable account balances and transaction audit trails. BSI2000 systems integrate into existing security, tracking and transaction control systems. On August 14, 2002 the Company filed a Form S-4 with the Securities and Exchange Commission. With completion of the SEC's review, the S-4 became effective on February 13, 2003. KFI and BSI2000 will send proxy materials to shareholders, who will vote on the merger and on the authorization to spin off the knowledge engineering business. If approved by shareholders, it is anticipated that the merger will not occur before March 12, 2003. ITEM 2. MANAGEMENT'S PLAN OF OPERATIONS - -------------------------------------------- RISK FACTORS AND CAUTIONARY STATEMENTS Cautionary Statement Regarding Forward-Looking Statements The Company's Form 10-KSB, the Company's Annual Report to Shareholders, any Form 10-QSB or any Form 8-K of the Company or any other written or oral statements made by or on behalf of the Company may contain forward-looking statements which reflect the Company's current views with respect to future events and financial performance. The words "believe," "expect," "anticipate," "intends," "estimate," "forecast," "project," and similar expressions identify forward-looking statements. All statements other than statements of historical fact are statements that could be deemed forward-looking statements, including any statements of the plans, strategies and objectives of management for future operations; any statements concerning proposed new products, services, developments or industry rankings; any statements regarding future economic conditions or performance; any statements of belief; and any statements of assumptions underlying any of the foregoing. The Company wishes to caution investors that any forward-looking statements made by or on behalf of the Company are subject to uncertainties and other factors that could cause actual results to differ materially from such statements. These uncertainties and other factors include, but are not limited to the Risk Factors listed below (many of which have been discussed in prior SEC filings by the Company). Though the Company has attempted to list comprehensively these important factors, the Company wishes to caution investors that other factors could in the future prove to be important in affecting the Company's results of operations. New factors emerge from time to time and it is not possible for management to predict all of such factors, nor can it assess the impact of each such factor on the business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements. Readers are further cautioned not to place undue reliance on such forward-looking statements as they speak only of the Company's views as of the date the statement was made. The Company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. RISK FACTORS IF WE FAIL TO CONSUMMATE OUR PENDING MERGER WITH BSI2000, OUR COMPANY MAY BE DISSOLVED. As a result of our belief that we could not raise the financing necessary to complete the research and development necessary to bring our licensed software to market or if completed, to properly market and distribute the licensed software, we entered into a definitive merger agreement on April 23, 2002 to merge a newly-formed wholly-owned subsidiary of ours, KFI, Inc., with and into BSI2000, Inc., a Colorado corporation ("BSI2000"). BSI2000 is a marketer of a proprietary family of integrated optical card devices designed to run control software. One of the conditions to completing this merger is the spin-out to certain shareholders of ours of all our existing technology and related licenses. Failure to consummate the merger could result in the cessation of our operations and the termination of our Company. On April 1, 2003, our definitive merger agreement with BSI2000 will become subject to termination. As of April 1, 2003, if the merger has not been consummated, either BSI or KFI may terminate the merger agreement at any time by giving notice to the other party. However the Form S-4 with the Securities and Exchange Commission became effective on February 13, 2003, and meetings to approve the merger and spin-off are anticipated to occur on or before March 12, 2003. KFI and BSI2000 have agreed to send proxy materials to shareholders, who will vote on the merger and on the authorization to spin off the knowledge engineering business. OUR SOLE ASSET WILL BE RELINQUISHED IF THE MERGER IS NOT CONSUMMATED BY MARCH 31, 2003. Our sole asset is our software, which is in the alpha stage of development. Under the licensing agreement with Dr. Ballard, Dr. Ballard has the right to terminate the licensing agreement after giving notice to KFI. Termination of the licensing agreement would result in the loss of KFI's sole asset. KFI is currently in default on the licensing agreement due to KFI's failure to raise sufficient capital. On December 27, 2002, Dr. Ballard gave notice to KFI of KFI's default on the licensing agreement. Dr. Ballard has given KFI ninety days to cure the default, which may be done by completing the spin off. Therefore, if the merger is not closed by March 31, 2003, we will no longer own any assets. WE PROBABLY WILL NOT BE ABLE TO RAISE FURTHER FINANCING OR IT MAY ONLY BE AVAILABLE ON TERMS UNFAVORABLE TO OUR STOCKHOLDERS OR US. Our available cash resources are insufficient to meet our anticipated working capital and capital expenditure requirements. If we raise additional funds through the issuance of equity or convertible debt securities, the percentage ownership of our stockholders would be reduced, and these newly issued securities might have rights, preferences or privileges senior to those of existing stockholders. Additional financing might not be available on terms favorable to us, or at all. If adequate funds were not available or were not available on acceptable terms, our ability to fund our operations, take advantage of unanticipated opportunities, develop or enhance our products or otherwise respond to competitive pressures would be significantly limited. OUR OPERATING RESULTS ARE DIFFICULT TO PREDICT IN ADVANCE AND MAY FLUCTUATE SIGNIFICANTLY, AND A FAILURE TO MEET THE EXPECTATIONS OF ANALYSTS OR OUR STOCKHOLDERS WOULD LIKELY RESULT IN A SUBSTANTIAL DECLINE IN OUR STOCK PRICE. There is little historical financial information that is useful in evaluating our business, prospects and future operating results. You should not rely on quarter-to-quarter comparisons of our results of operations as an indication of our future performance. We expect our future operating results to fluctuate significantly from quarter to quarter. If our operating results fail to meet or exceed the expectations of analysts or investors, our stock price would likely decline substantially. Factors that are likely to cause our results to fluctuate include the following: the gain or loss of significant customers or significant changes in purchasing volume; the amount and timing of our operating expenses and capital expenditures; changes in the volume of our licensing revenue and pricing concessions; the timing, rescheduling or cancellation of customer orders; the varying length of our licensing cycles; the availability and pricing of competing products and technologies and the resulting effect on licensing of our products; our ability to specify, develop, complete, introduce and market new licenses and technologies; the rate of adoption and acceptance of new industry standards in our target markets; changes in the mix of technology we license; and changes in the average licensing rate of our products. THERE IS A LIMITED CURRENT PUBLIC MARKET FOR OUR COMMON STOCK. There is a limited public market for our common stock. Although our common stock is listed on the OTC Bulletin Board, there is a limited volume of sales, thus providing a limited liquidity into the market for our shares. As a result of the foregoing, stockholders may be unable to liquidate their shares for any reason. Our common stock trades on the OTC Bulletin Board under the symbol "KNFD.OB." The Bulletin Board is a limited market and subject to substantial restrictions and limitations in comparison to the NASDAQ system. Any broker/dealer that makes a market in our stock or other person that buys or sells our stock could have a significant influence over its price at any given time. Effective sometime in 2003 or early 2004, the OTC Bulletin Board will no longer offer companies a market on which to trade. The new BBX Exchange, which is intended to replace the OTC Bulletin Board, will have stricter listing standards. Management intends to apply to be listed on the BBX Exchange as soon as applications become available but there is no assurance that we will meet the minimum criteria required. If we fail to meet the BBX Exchange listing requirements, then we will be forced to trade solely on the pink sheets, a market with very limited liquidity and minimal listing standards. We cannot assure our shareholders that a market for our stock will be sustained. There is no assurance that our shares will have any greater liquidity than shares that do not trade on a public market. OUR COMMON STOCK IS SUBJECT TO PENNY STOCK REGULATION. Our shares are subject to the provisions of Section 15(g) and Rule 15g-9 of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), commonly referred to as the "penny stock" rule. Section 15(g) sets forth certain requirements for transactions in penny stocks and Rule 15g-9(d)(1) incorporates the definition of penny stock as that used in Rule 3a51-1 of the Exchange Act. The Commission generally defines penny stock to be any equity security that has a market price less than $5.00 per share, subject to certain exceptions. Rule 3a51-1 provides that any equity security is considered to be penny stock unless that security is: registered and traded on a national securities exchange meeting specified criteria set by the Commission; authorized for quotation on The NASDAQ Stock Market; issued by a registered investment company; excluded from the definition on the basis of price (at least $5.00 per share) or the registrant's net tangible assets; or exempted from the definition by the Commission. Since our shares are deemed to be "penny stocks", trading in the shares will be subject to additional sales practice requirements on broker-dealers who sell penny stocks to persons other than established customers and accredited investors. WE ARE HIGHLY DEPENDENT ON RICHARD BALLARD. THE LOSS OF RICHARD BALLARD, WHOSE KNOWLEDGE, LEADERSHIP AND TECHNICAL EXPERTISE WE RELY UPON, WOULD HARM OUR ABILITY TO EXECUTE OUR BUSINESS PLAN. Our success depends heavily upon the continued contributions of RICHARD BALLARD whose knowledge, leadership and technical expertise would be difficult to replace. If we were to lose his services, our ability to execute our business plan would be harmed. IF WE ARE UNABLE TO RECRUIT, HIRE, TRAIN AND RETAIN ADDITIONAL SALES, MARKETING, OPERATIONS, SOFTWARE ENGINEERING AND FINANCE PERSONNEL, OUR GROWTH WILL BE IMPAIRED. To grow our business successfully and maintain a high level of quality, we will need to recruit, retain and motivate additional highly skilled sales, marketing, software engineering and finance personnel. If we are not able to hire, train and retain a sufficient number of qualified employees, our growth will be impaired. In particular, we will need to expand our sales and marketing organizations in order to increase market awareness of our products and to increase revenue. In addition, as a company focused on the development of complex products, we will need to hire additional software engineering staff of various experience levels in order to meet our product road map. The market for skilled employees is extremely limited. We may have even greater difficulty recruiting potential employees if prospective employees perceive the equity component of our compensation package to be less valuable. WE ARE SUBJECT TO VARIOUS RISKS ASSOCIATED WITH TECHNOLOGICAL CHANGE AND IF WE DO NOT ADAPT OUR PRODUCTS TO THE CHANGES OUR BUSINESS WILL BE ADVERSELY AFFECTED. The technology products market involves certain characteristics that expose our existing and future technologies, and methodologies to the risk of obsolescence. These characteristics included the following: rapid changes in technology; rapid changes in user and customer requirements; frequent new service or product introductions embodying new technologies; and the emergence of new industry standards and practices. Our performance will partially depend on our ability to license leading technologies, enhance our existing services, and respond to technological advances and emerging industry standards and practices on a timely and cost-effective basis. The development of new technology entails significant technical and business risks. We cannot predict if we will use new technologies effectively or adapt our products to consumer, vendor, advertising or emerging industry standards. If we were unable, for technical, legal, financial or other reasons, to adapt in a timely manner in response to changing market conditions or customer requirements, our business, results of operations and financial condition could be materially adversely affected. FINANCIAL INFORMATION - ---------------------- Pursuant to an Acquisition Agreement and Plan of Merger dated as of August 7, 2000 between Calipso, Inc., a Delaware corporation, and Knowledge Foundations, Inc. ("KF"), a Delaware corporation, all the outstanding shares of common stock of KF were exchanged for 33,918,400 shares of 144 restricted common stock of Calipso in a transaction in which Calipso was the surviving corporation. Prior to the Merger, on May 4, 2000 there were 9,039,600 common shares issued and outstanding. As a result of the Merger, on September 18, 2000, 4,860,000 shares were cancelled leaving 4,179,600 issued and outstanding. On September 18, 2000 35,918,400 shares were issued pursuant to the terms and conditions of the Merger; providing for 40,098,000 issued and outstanding post Merger. Of the 35,918,400 shares issued in the Merger, 2 million shares were issued collectively to Wright & Bleers and Oceanway Investments, 1 million of which shares are subject to a lock up agreement in addition to other conditions. During March 2001 the certain provisions of the lock up agreement lapsed and 1 million common shares were cancelled as a result. The number of shares issued to KF stockholders in the merger represented 84.58% of the shares outstanding of 40,098,000 post merger common shares. The Merger between Calipso and KF was effective with the concurrent filing of a Certificate of Merger with the Secretary of State in Delaware on September 18, 2000. At the effective time of the merger the name of Calipso was changed to Knowledge Foundations, Inc. As a result of the merger, the 33,918,400 shares that were issued to the Knowledge Foundations, Inc. stockholders resulted in a change in control of the Company. Additionally new officers and directors were appointed and elected. As the result of the merger in which the shareholders of KF represent more than 80% of the outstanding common shares and Calipso has had no prior operating history, the financial statements presented reflect the operations of Knowledge Foundations since its inception in April 2000. During 2000, the Company issued promissory notes totaling $275,000 to sustain operations. Funding for the Company has been accomplished in the form of a $300,000 convertible debenture prior to the merger and by additional advances since the merger. Management is seeking up to $3 million in equity financing necessary to advance its business plan briefly described below and in further detail in its post-merger Form 8K filing filed with the Securities and Exchange Commission in October 2000. There can be no assurance that the Company will be successful in completing any or all of the proposed financing, nor can there be any assurance that the Company will continue to find investors for its promissory notes. Since its inception in April 2000, KF has been in a development mode, has been seeking the completion of the merger with Calipso, has begun the process of commercializing the software and knowledge base engineering process under license, and hired senior software engineers, who were scheduled to produce new releases of the software scheduled for the last half of 2001, and begun initial sales and marketing programs. The programmers were laid off in January 2001 as planned capital investment did not materialize at that time. KF has incurred $50,620 in operating expenses during the quarter ended December 31, 2002 and $1,197,679 during the period from inception (April 6, 2000) through December 31, 2002. KFI is a developer and promoter of knowledge-based engineering and development software tools. These tools are designed to allow users to build knowledge bases that will capture and code knowledge for increased processing speed, storage capacity and intuitive access. KFI has an exclusive license to market and distribute two generations of knowledge engineering software tools developed by KFI's Chairman and Chief Science Officer, Dr. Richard L. Ballard. Dr. Ballard developed Mark I and II versions of the software for specific government applications, which were purchased by government agencies with a one-time license fee payment in addition to consulting fees. The Mark I and Mark II versions required extensive consulting by trained knowledge engineers (modelers, outliners and programmers) to utilize the software tools. Dr. Ballard is currently working on the Mark III version of the software, which should operate transparently within the MS Windows environment and with extensively more user interface features. KFI acquired the rights to its technology through a License and Royalty Agreement entered into on April 6, 2000 by and between Richard L. Ballard and Janet J. Pettitt (Ballard), husband and wife, and KFI. The License and Royalty Agreement provides KFI with exclusive and transferable rights to Dr. Ballard's software. Future inventions and software developments using this software technology developed by Dr. Ballard will be the exclusive property of KFI. KFI is currently in technical default of the License and Royalty Agreement due to its inability to obtain capital to fund the development of the software. KFI's original business plan was to develop the Mark III version of the software, to obtain appropriate intellectual property protection, to provide knowledge engineering services to clients and to resellers and to market its software tools to software application developers under license agreements. KFI's ability to develop the software and provide service to clients was dependent upon KFI successfully obtaining sufficient capital, which the Company has not been able to do. KFI estimates that approximately $1 million in additional capital is needed to complete version 1 of Mark III software tools. KFI was unsuccessful in raising capital for its development and marketing activities during the fiscal year ended March 31, 2002. However, Dr. Ballard has continued to develop certain segments of the Mark III version of KFI's software in spite of the lack of capital to pay him. In contrast with software tools on the market today, KFI's proprietary machine coding language should be capable of remembering the processes the person operating the computer has used in the past and recording the resultant knowledge recorded as the result of applying the process. KFI's technology will allow organizations to permanently store contracted work products and intellectual capital as knowledge bases. KFI's technology captures, codifies and integrates most forms of knowledge into easily accessed and marketable formats. The application of KFI's software tools will provide a production process for building small to large knowledge bases. ITEM 3 CONTROLS AND PROCEDURES (a) Evaluation of Disclosure Controls and Procedures. The Company's Chief Executive Officer and Chief Financial Officer, after evaluating the effectiveness of the Company's disclosure controls and procedures (as defined in Rules 13a-14(c) and 15d-14(c) under the Securities Exchange Act of 1934, as amended (the "Exchange Act")) as of a date within 90 days of the filing of this quarterly report (the "Evaluation Date"), have concluded that, as of the Evaluation Date, the Company's disclosure controls and procedures were effective to ensure the timely collection, evaluation and disclosure of information relating to the Company that would potentially be subject to disclosure under the Exchange Act and the rules and regulations promulgated thereunder. (b) Changes in Internal Controls. There were no significant changes in the Company's internal controls or in other factors that could significantly affect the internal controls subsequent to the Evaluation Date. PART II OTHER INFORMATION - ----------------------------- ITEM 1 LEGAL PROCEEDINGS. The Company currently has a claim against it by a consultant over consideration with regard to a finders fee for potential equity financing. The Company believes that neither the merit or future outcome of such a claim nor potential damages is readily determinable as of December 31, 2002 and therefore has not accrued any liability in the accompanying financial statements. ITEM 2 CHANGES IN SECURITIES. None. ITEM 3 DEFAULTS UPON SENIOR SECURITIES. Due to the accrued interest not being paid as of March 31, 2001, the total accrued interest of $63,223 and the Note principal of $300,000 is considered to be in default of the Note terms as of June 30, 2002. The Company has borrowings from third parties totaling $75,000 under unsecured notes payable. These notes payable accrue interest at 6% per annum, and principal and accrued interest are due on or before January 1, 2002, or five days after receipt by the Company of additional debt or equity financing in a sum of $500,000 or more. The note remains unpaid and is in default on the date provision; additional financing exceeding $500,000 has not occurred. ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITIES HOLDERS. None during the quarter. ITEM 5: EXHIBITS AND REPORTS ON 8-K: Exhibits. - --------- Exhibit 99.1 - CEO & CFO Certifications Reports on Form 8-K. - ----------------------- None SIGNATURES In accordance with the requirements of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Dated: February 19, 2003 By: /s/ Michael W. Dochterman President and Chief Executive Officer CERTIFICATION ------------- I, Michael W. Dochterman, Chief Executive Officer, certify that: 1. I have reviewed this quarterly report on Form 10-QSB of Knowledge Foundations, Inc.; 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: (a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; (b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and (c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): (a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and (b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; 6. The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date February 19, 2003 By: /s/ Michael W. Dochterman Chief Executive Officer CERTIFICATION ------------- I, Robert A. Dietrich, Chief Financial Officer, certify that: 1. I have reviewed this quarterly report on Form 10-QSB of Knowledge Foundations, Inc.; 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: (a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; (b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and (c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): (a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and (b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; 6. The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: February 19, 2003 By: /s/ Robert A. Dietrich Chief Financial Officer