Proxy Statement Pursuant to Section 14(a) of the
Securities Exchange Act of 1934
Filed by the Registrant |X|
Filed by a Party other than the Registrant |_|
Check the appropriate box:
|_| Preliminary Proxy Statement |_| Confidential, For Use
of the Commission
Only (as permitted by
Rule 14a-6(e)(2)
|X| Definitive Proxy Statement
|_| Definitive Additional Materials
|_| Soliciting Material Pursuant to Rule 14a-(11(c) or Rule 14a-12
ADSTAR, INC.
(Name of Registrant as Specified in Its Charter)
Name of Person(s) Filing Proxy Statement, if other than the registrant)
Payment of Filing Fee (Check the appropriate box):
|X| No Fee required
|_| Fee computed on table below per Exchange Act Rules 14a-6(i)(4) and 011.
(1) Title of each class of securities to which transaction applies:
(2) Aggregate number of securities to which transaction applies
(3) Per unit price or other underlying value of transaction computed
pursuant to Exchange Act Rule 0-11 (Set forth the amount on which the
filing fee is calculated and state how it was determined):
(4) Proposed maximum aggregate value of transaction:
|_| Check box if any part of the fee is offset as provided by Exchange Act
Rule 0-11(a)(2) and identify the filing for which the offsetting fee was
paid previously. Identify the previous filing by registration statement
number, or the Form or Schedule and the date of its filing.
(1) Amount Previously Paid:
(2) Form, Schedule or Registration Statement No.:
(3) Filing Party:
(4) Date filed:
ADSTAR, INC.
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Notice of Special Meeting of Stockholders
To Be Held On December 27, 2002 at 10:00 A.M.
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TO THE STOCKHOLDERS OF ADSTAR, INC.:
NOTICE IS HEREBY GIVEN that the Special Meeting of Stockholders of AdStar,
Inc. ("AdStar") will be held at 4553 Glencoe Avenue, Marina del Rey, California
90292, on December 27, 2002 at 10:00 A.M., Pacific Standard Time, for the
following purposes:
1. To approve the proposed sale of shares of AdStar Series B-2
Convertible Preferred Stock, par value $.0001 per share, to
Tribune Company for $600,000.
2. To transact such other business as may properly be brought
before the meeting or any adjournment or postponements
thereof.
The Board of Directors has fixed the close of business on November 22,
2002 as the record date for the determination of the stockholders entitled to
notice of and to vote at this meeting and at any adjournment or postponements
thereof.
BY ORDER OF THE BOARD OF
DIRECTORS
Eli Rousso, Secretary
Dated: Marina del Rey, California
December 5, 2002
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IMPORTANT: Whether or not you expect to attend in person, please complete,
sign, date, and return the enclosed Proxy at your earliest
convenience. This will ensure the presence of a quorum at the
meeting. Promptly signing, dating, and returning the Proxy will save
AdStar the expense and extra work of additional solicitation. An
addressed envelope for which no postage is required has been
enclosed for that purpose. Sending in your Proxy will not prevent
you from voting your stock at the meeting if you desire to do so, as
your Proxy is revocable at your option.
--------------------------------------------------------------------
ADSTAR, INC.
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PROXY STATEMENT
----------
FOR SPECIAL MEETING OF STOCKHOLDERS
To Be Held December 27, 2002
This Proxy Statement is furnished to the stockholders of AdStar, Inc., a
Delaware corporation ("AdStar"), in connection with the solicitation by the
Board of Directors of proxies to be used at the Special Meeting of Stockholders
of AdStar to be held at 4553 Glencoe Avenue, Marina del Rey, California 90292,
on December 27, 2002 at 10:00 A.M., Pacific Standard Time, and at any
adjournments thereof (the "Special Meeting"). The approximate date on which this
Statement and the accompanying proxy will be mailed to stockholders is December
2, 2002.
THE VOTING AND VOTE REQUIRED
Only stockholders of record at the close of business on November 22, 2002
(the "Record Date"), are entitled to notice of and vote at the Special Meeting.
On the Record Date, there were 8,258,214 outstanding shares of common stock, par
value $.0001 per share ("Common Stock") and 1,443,457 outstanding shares of
Series A convertible preferred stock, par value $.0001 per share ("Series A
Preferred"). At the Special Meeting, each share of Common Stock is entitled to
one vote and each share of the Series A Preferred is entitled to one vote for
each share of Common Stock into which they can convert as of the Record Date. In
the aggregate, 9,701,671 votes may be cast at the Special Meeting. Shares
represented by each properly executed, unrevoked proxy received in time for the
meeting will be voted as specified.
Approval of the proposed sale of shares of AdStar Series B-2 Convertible
Preferred Stock, par value $.0001 per share ("B-2 Preferred"), to Tribune
Company for $600,000 (the "Proposal") is by the affirmative vote of a majority
of the votes cast at the Special Meeting.
All shares represented by valid proxies will be voted in accordance with
the instructions contained therein. In the absence of instructions, proxies will
be voted FOR the Proposal. A proxy may be revoked by the stockholder giving the
proxy at any time before it is voted, either by oral or written notice, and a
prior proxy is automatically revoked by a stockholder giving a subsequent proxy
or attending and voting at the meeting. Attendance at the meeting, however, in
and of itself does not revoke a prior proxy. Shares represented by proxies which
are marked "ABSTAIN" will not be counted in determining whether the requisite
vote has been received for the Proposal. In instances where brokers are
prohibited from exercising discretionary authority for beneficial owners who
have not returned proxies ("broker non-votes"), those shares will not be
included in the vote totals and, therefore, will have no effect on the outcome
of the vote.
Stockholders have no dissenters' rights of appraisal under Delaware law,
our certificate of incorporation or our by-laws with respect to the Proposal.
1
APPROVAL OF THE PROPOSED SALE OF SHARES OF ADSTAR B-2 PREFERRED STOCK TO TRIBUNE
COMPANY FOR $600,000
The Transaction
In December 2002, we expect to enter into a Series B Preferred Stock
Purchase Agreement and a series of ancillary agreements (the "Proposed
Transaction Documents") with Tribune Company. The Proposed Transaction Documents
provide for an aggregate potential investment by Tribune of $1.5 million.
Under the Proposed Transaction Documents we will be obligated to develop
additional features to enhance the capabilities of our Web software applications
("AdStar Service"), which we customized for Tribune to enable Tribune owned
newspapers and CareerBuilder, LLC. ("CareerBuilder"), and to jointly receive
recruitment advertising from agencies, corporate customers and the general
public. The enhancements to the AdStar Service will enable ad agencies,
employers and consumers to create, schedule and purchase ads to run in both the
help-wanted sections of CareerBuilder-branded participating newspapers and on
the CareerBuilder.com Web site (this functionality is marketed by Tribune as
"FlexAds"). We believe that the potential future revenues from the use of our
technology by Tribune and Careerbuilder justify the incremental expenditures
required to complete the enhancements.
Additionally, both Leslie Bernhard and Eli Rousso, in their capacity as
stockholders, will vote the shares under their control (an aggregate of
1,137,891 votes or approximately 12% of the total available votes at the special
meeting,) in favor of the Proposal. In addition, Tribune as the holder of
1,443,457 shares Series A Preferred, each entitled to one vote (approximately
15% of the total available votes at the special meeting) has indicated that it
will vote for the Proposal. As a result, an aggregate of 2,581,348 votes or
approximately 27% of the total available votes at the Special Meeting are
expected to be voted in favor of the Proposal.
The Proposed Series B Preferred Stock Purchase
Upon execution of the Proposed Transaction Documents, Tribune will
purchase for $900,000 that number of shares of our series B-1 Preferred Stock,
par value $.0001 per share ("B-1 Preferred"), determined by dividing $900,000 by
the B-1 Preferred Per Share Purchase Price. The B-1 Preferred Per Share Purchase
Price is the lower of $0.75 or the fair market value of Common Stock on the B-1
Preferred closing date. The proceeds from this sale will be used for working
capital. However, if stockholder approval is not obtained for the proposed sale
of the B-2 Preferred Stock within 120 days from the B-1 Preferred closing date,
Tribune will have the right to sell the B-1 Preferred back to AdStar at the
original purchase price plus all accrued and unpaid dividends. In that case,
AdStar's working capital would be negatively impacted. If the proposed sale of
the B-2 Preferred Stock is approved, then AdStar will issue shares of B-2
Preferred on a share-for-share basis in exchange for all the issued and
outstanding B-1 Preferred plus an additional number of B-2 Preferred shares
equal to the amount of all the accrued and unpaid dividends on the issued and
outstanding B-1 Preferred divided by the B-2 Preferred Per Share Purchase Price,
described below.
On December 2, 2002 we borrowed $300,000 from Tribune pursuant to a
$300,000 promissory note, due on December 9, 2002 and bearing interest at 7% per
annum. The $300,000
2
plus all accrued interest is expected to be deducted from the proceeds from the
closing of the sale of the B-1 Preferred.
Subject to the satisfaction of all the B-2 Preferred closing conditions
set forth in the Proposed Transaction Documents, Tribune is expected to invest
an additional $600,000 for the purchase of shares of B-2 Preferred at a price
per share equal to the lower of $0.75 or the fair market value of Common Stock
at the date of the closing of the B-2 Preferred ("B-2 Preferred Per Share
Purchase Price"). The proceeds from the sale of the B-2 Preferred will also be
used for working capital. The B-2 Preferred closing conditions include (i)
obtaining stockholder approval of the Proposal, (ii) there being no material
adverse change to AdStar since the execution of the Proposed Transaction
Documents and (iii) the placement by AdStar of certain software in an escrow
account for the benefit of Tribune. On the closing of the sale of B-2 Preferred,
AdStar will also be required to issue shares of B-2 Preferred in exchange for
the B-1 Preferred, as described above.
Additionally, under the Proposed Transaction Documents Tribune's prior
written approval will be needed to: (i) consummate any transaction or series of
transactions, prior to March 18, 2007, where the beneficial ownership of more
than 50% of AdStar's voting stock is sold, transferred, conveyed or assigned to
any third party that Tribune reasonably determines: (a) competes with
CareerBuilder, or (b) cannot or will not meet certain obligations under the
Proposed Transaction Documents to Tribune; and (ii) grant options to acquire
more than 30,000 shares of Common Stock to any person under any AdStar employee
stock option plan or other equity-based compensation plan.
Proposed Rights and Preferences of the B-2 Preferred
Under our certificate of incorporation, our Board of Directors is
authorized, subject to limitations prescribed by law, without further
stockholder approval, to issue from time to time, up to an aggregate of
5,000,000 shares of our preferred stock (1,443,457 shares of which have been
issued as of the date hereof). The preferred stock may be issued in one or more
series. Each series may have different rights, preferences and designations and
qualifications, limitations and restrictions that may be established by our
Board of Directors without approval from the stockholders.
B-2 Preferred
On December 2, 2002, our Board of Directors authorized the designation of
certain shares of our preferred stock as B-2 Preferred. The B-2 Preferred will
have the following general characteristics:
Ranking - Equal in rank to the AdStar Series A Preferred.
Voting Rights - Each holder of the B-2 Preferred will be entitled to
one vote per share. AdStar will not be able to amend or impair the
rights of the B-2 Preferred stockholders, issue any capital stock
with rights ranking the same as or senior to the rights of the B-2
Preferred, or liquidate without the approval of at least a majority
of the holders of the B-2 Preferred then outstanding.
Liquidation Preference - In the event of any liquidation,
dissolution or winding up of the affairs of AdStar, or any merger or
consolidation where the holders of AdStar
3
capital stock prior to such merger or consolidation no longer
possess more than 50% of voting power of the surviving corporation
(each a "Liquidation Event"), the holders of the B-2 Preferred will
be entitled to receive in preference to the holders of Common Stock
but equally with the Series A Preferred, an amount per share equal
to the B-2 Preferred Liquidation Value plus all accrued and unpaid
dividends. After such payment, the B-2 Preferred stockholders share
equally, on an as converted basis, with the holders of AdStar
capital stock in any remaining merger consideration, assets or funds
of AdStar.
As a result, if the B-2 Preferred is approved, it is unlikely that
the holders of Common Stock will receive any proceeds from a
Liquidation Event unless the proceeds from such event is in excess
of the combined liquidation values of the B-2 Preferred and the
Series A Preferred which amounts to $3.3 million plus all the
accrued and unpaid dividends on such stock.
Conversion - Each share of the B-2 Preferred will be convertible at
anytime at the option of the holder into shares of Common Stock at a
ratio of one share of Common Stock for each share of B-2 Preferred,
subject to certain stock split and stock dividend adjustments and
the antidilution adjustments described below. All B-2 Preferred will
automatically convert to Common Stock on the first day after the
24-month anniversary of the B-2 Preferred issuance date for which
the market price of a share of Common Stock exceeds 200% of the
average trading price per share of the Common Stock during the 30
consecutive days immediately preceding the B-2 Preferred issuance
date.
Antidilution Adjustment - Prior to February 28, 2004, the B-2
Preferred conversion ratio will be subject to adjustment, upon the
occurrence of the following events:
(i) Upon the issuance of Common Stock at a per share price less
than the B-2 Preferred Per Share Purchase Price;
(ii) Upon the issuance of Common Stock purchase options, outside
any board approved equity incentive plan, with an exercise
price less than the B-2 Preferred conversion price then in
effect;
(iii) Upon the issuance of any stock or securities, directly or
indirectly convertible into or exchangeable for Common Stock,
with a conversion or exchange price less than the B-2
Preferred conversion price then in effect; and
(iv) Upon the adjustment to the exercise price of options, or to
the conversion price or exchange rate of convertible
securities.
In the event that an antidilution adjustment occurs with respect to
the B-2 Preferred, upon conversion of the B-2 Preferred into Common
Stock, existing holders of Common Stock will be subject to
additional dilution of their economic and voting rights.
Dividends - Dividends on the B-2 Preferred will accrue at 7% per
year through the date of liquidation or conversion. Upon the
declaration of dividends, all accrued and unpaid dividends on the
B-2 Preferred will be paid in full prior to any payment of dividends
on Common Stock. In addition, the holders of the B-2 Preferred, on
an as converted basis, will share pro rata with the holders of
Common Stock on dividends or distributions paid on the Common Stock.
However, in the event of conversion all accrued and unpaid dividends
will be waived.
4
Preemptive Rights - Each holder of Series B-2 Preferred will be
entitled to elect, by giving notice to AdStar within 15 days after
receipt of a notice of proposed issuance or sale of securities from
AdStar, to purchase, at the same price and on the same terms and
conditions as the issuance or sale described in such notice, the
number of securities equal to the product of (i) the aggregate
number of securities issued or sold by AdStar multiplied by (ii) a
fraction with a numerator equal to the number of shares of Common
(on a Common Equivalent Basis) that such holder owns and a
denominator equal to the number of Common Deemed Outstanding prior
to the issuance of such securities.
A draft of the proposed certificate of designation for the B-2 Preferred
is attached as an Appendix to this Proxy Statement and certain other Proposed
Transaction Documents referred to herein, when in final form and executed, will
be included as exhibits to an Adstar Current Report on Form 8-K which is
expected to be filed within 5 business days after the issuance of the B-1
Preferred closing date and accordingly will be obtainable from the SEC's
Website, www.sec.gov.
We are seeking stockholder approval of the Proposal because the proposed
sale to Tribune of our B-2 Preferred, when combined with the B-1 Preferred which
will have been issued as of the date of the Special Meeting, could result upon
their conversion in the issuance of greater than 20% of our Common Stock
outstanding on the B-1 Preferred closing date at a price below the then market
value of our Common Stock. Nasdaq rules require stockholder approval for such
issuances. As a result, approval of the Proposal by our stockholders would be
necessary to be in compliance with Nasdaq's stockholder approval requirement for
such issuances. In addition, if stockholder approval is not obtained Tribune
will have the right to sell the B-1 Preferred to AdStar at the original price
plus all accrued and unpaid dividends. In that case, AdStar's working capital
will be negatively impacted.
At September 30, 2002, AdStar's cash balance was $560,000 (including
$175,000 restricted cash). In order to sustain operations at current levels
through September 2003, AdStar needs to raise additional working capital. To
raise this capital and to allow AdStar to develop the additional technology
required by Tribune, the Board of Directors has determined that the sale to
Tribune is in the best interest of AdStar and unanimously recommends stockholder
approval.
Under the Proposed Transaction Documents, if requested by Tribune, we will
be required to take all actions necessary to increase the size of our Board of
Directors to eight members and cause the newly created vacancies to be filled
with Tribune representatives (up to a maximum of two). We will also be required
to nominate the Tribune representatives as directors and recommend their
election to the Board of Directors at each subsequent annual meeting of
stockholders for as long as AdStar and Tribune agree that it is necessary. In
addition, any such member must be immediately included on our Board's
Compensation Committee.
The Board of Directors recommends a vote FOR the approval of the proposed sale
of shares of B-2 Preferred to Tribune for $600,000.
5
Security Ownership of Certain Beneficial Owners and Management
The following table, together with the accompanying footnotes, sets forth
information, as of November 30, 2002, regarding stock ownership of all persons
known by AdStar to own beneficially more than 5% of AdStar's outstanding Common
Stock, Named Executives, all directors, and all directors and officers of AdStar
as a group:
Percentage of
Beneficial
Shares of Percentage Ownership
Common Stock of upon Purchase
Beneficially Beneficial of B-2
Name of Beneficial Owner (1) Owned (2) Ownership Preferred Stock
- ----------------------------------------- -------------- ------------ -----------------
Leslie Bernhard (3) 785,054 9.2%
Eli Rousso (3) 812,976 9.5%
Jeffrey Baudo (4) 112,134 1.3%
Nancy Works 0 0
Stephen A. Zelnick (5) 128,636 1.6%
Anthony Fidaleo 0 0
Corey E. Shaker (6) 25,000 *
Chester L. F. Paulson (7) 2,251,574 24.7%
Tribune Company (8) 2,643,457 24.3% 29.4% (9)
All Directors and Officers (7 persons)
as a group 1,880,381 22.0%
- ----------
* less than 1%
(1) The addresses of the persons named in this table are as follows: Leslie
Bernhard, Eli Rousso, Jeffrey Baudo, Anthony Fidaleo, and Nancy Works c/o
AdStar, Inc., 4553 Glencoe Avenue, Suite 325, Marina del Rey, CA 90292;
Stephen A. Zelnick c/o Morse Zelnick, Rose & Lander, LLP, 405 Park Avenue,
Suite 1401, New York, NY 10022; Corey E. Shaker 774 Straits Turnpike,
Watertown Connecticut 06795; Chester L. F. Paulson, c/o Paulson Capital
Corp. 811 SW Naito Parkway, Suite 200, Portland, OR 97204, and Tribune
Company, 435 N. Michigan Ave. Chicago IL, Attn: General Counsel.
(2) A person is deemed to be a beneficial owner of securities that can be
acquired by such person within 60 days from the filing of this report upon
the exercise of options and warrants or conversion of convertible
securities. Each beneficial owner's percentage ownership is determined by
assuming that options, warrants and convertible securities that are held
by such person (but not held by any other person) and that are exercisable
or convertible within 60 days from November 30, 2002 have been exercised
or converted. Except as otherwise indicated, and subject to applicable
community property and similar laws, each of the persons named has sole
voting and investment power with respect to the shares shown as
beneficially owned. On November 30, 2002, 8,258,214 shares of Common Stock
were outstanding which include 4,956 shares issuable to vendors under our
Vendor Compensation program.
(3) Includes an aggregate of 110,054 shares in respect of which Ms. Bernhard
and Mr. Rousso have voting power. Additionally, Ms. Bernhard and Mr.
Rousso each have options to purchase 100,000 and 75,000 shares of AdStar
common stock at $0.81 and $0.60 per share, respectively,
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exercisable within 60 days.
(4) Includes of options to purchase 33,333 and 75,000 shares of AdStar common
stock, at $1.25 and $0.60 per share, exercisable within 60 days.
(5) Includes: (i) options to purchase 25,000 shares of common stock of AdStar,
at $0.60 per share, and warrants to purchase 25,000 shares of AdStar
common stock, at $1.07 per share, exercisable within 60 days; and (ii)
28,636 shares of common stock of AdStar which represents Mr. Zelnick's
proportionate interest in 114,545 shares beneficially owned by a nominee
of Morse, Zelnick, Rose & Lander, LLP, of which Mr. Zelnick is a member.
The filing of this report shall not be construed as an admission that Mr.
Zelnick is the beneficial owner of any of the shares owned by the nominee
for the purposes of Section 13(d) or 13(g) of the Securities Exchange Act
of 1934, as amended.
(6) Consists of options to purchase 25,000 shares of AdStar common stock at
$.60 per share, exercisable within 60 days.
(7) Consists 1,408,458 shares of common stock of AdStar and the currently
exercisable common stock purchase warrants detailed below:
(i) 24,116 exercisable at $0.75;
(ii) 350,000 exercisable at $1.07;
(iii) 200,000 exercisable at $1.80;
(iv) 139,000 exercisable at $7.20; and
(v) 130,000 exercisable at $9.00.
(8) Assumes issuance of the B-1 Preferred at a purchase price of $0.75 per
share. Consists of (i) 1,443,457 shares of Series A Preferred Stock, which
currently convert into Common Stock on a 1 for 1 basis and (ii) 1,200,000
shares of B-1 Preferred which will convert into Common Stock on a 1 for 1
basis. The B-1 Preferred is expected to be issued subsequent to the Record
Date and is therefore not entitled to vote at the Special Meeting.
(9) Percentage assumes that Tribune beneficially owns 3,443,457 shares of
Common Stock upon the closing of the B-2 Preferred (which includes
1,443,457 shares of Series A Preferred Stock, plus 1,200,000 shares of B-1
Preferred, as described in note 8 above, plus 800,000 shares of B-2
Preferred (based on an investment of $600,000 and assumes a per share
purchase price of $0.75), and assumes that all such preferred stock is
convertible into Common Stock on a 1 for 1 basis).
7
Management's Discussion and Analysis of Financial Condition and Results of
Operation
The following discussion of our financial condition and results of operations
should be read in conjunction with the financial statements and related notes to
the financial statements included elsewhere in this proxy statement. Certain
statements in this discussion and elsewhere in this report constitute
forward-looking statements within the meaning of Section 21E of the Securities
and Exchange Act of 1934 and are subject to the "Risk Factors" included in our
Annual Report on Form 10-KSB/A for our fiscal year ended December 31, 2001 and
in our registration statement on Form S-3 filed with the Securities and Exchange
Commission on June 28, 2002. Because this discussion involves risk and
uncertainties, our actual results may differ materially from those anticipated
in these forward-looking statements.
Overview
During the first quarter 2002, we focused our efforts on raising equity
capital and the development and customization arrangements with Tribune Company.
In January 2002, we completed the private placement that had been in process at
the year ended December 31, 2002, raising an additional $150,000 in gross
proceeds. In February 2002, we raised an additional $50,000 in gross proceeds
from a subsequent private placement. Combined, these two transactions raised
approximately $157,000 in net proceeds.
In March 2002, we entered into a series of significant contracts with
Tribune Company. Under these agreements, we sold 1,443,457 shares of Series A
preferred stock to Tribune Company for net proceeds totaling approximately
$1,728,000. Additionally, we agreed to develop and customize a version of our
Web software applications to provide for Web-based technology for recruitment
classified advertising sales to all major market Tribune newspapers and on-line
services in exchange for earning volume-based ASP fees for ads placed through
the Web using our customized software. This customization will provide a
platform that allows Tribune-owned newspapers and CareerBuilder, L.L.C., to
receive recruitment advertising from agencies, corporate customers, and the
general public. The customization for this initial contract was substantially
completed during the third quarter 2002, with the first publication launched in
August 2002. The Company has began realizing the contracted minimum revenues in
August 2002 and will continue to incur expenditures to complete the deployment
effort, which is scheduled to be completed during the fourth quarter of 2002. We
believe that the potential future revenues from the use of our technology by
Tribune and Careerbuilder justify the up-front expenditures required to complete
the enhancements.
In November 2002 the Company signed a non-binding letter of intent with
Tribune Company for an additional investment by Tribune of $1,500,000. As part
of the proposed transaction, AdStar will develop additional features that expand
the capabilities of its generic service and the customized services that were
launched in August 2002. The proposed investment and related development is
expected to run concurrently with the deployment of the remainder of the
individual publications and it is anticipated that it will be fully deployed by
May 2003. While the funding is expected to be sufficient to continue and
complete the development of the customized services there are no new minimum
revenues contemplated in the agreement. We believe the additional features and
expanded capabilities of the new development combined with that of the initial
contract will ultimately attract more end users and provide Tribune as well as
other publishing companies a platform from which to launch other related web
based products, such as auto and real estate ads, which will ultimately be
realized in the form of increased transaction volume and related revenues.
Accordingly, we believe that the potential future revenues from the use of our
technology by Tribune and Careerbuilder justify the incremental expenditures
required to complete the enhancements.
8
Our ASP business is continuing to demonstrate approval in the marketplace.
During the last three quarters of 2002 we have experienced large increases in
Web-based transaction volumes on behalf of our existing customers, including
substantial increases in volume from the Knight-Ridder, Inc. publications set up
during the fourth quarter 2001. Revenue earned from our new ASP business
improved substantially quarter over quarter, increasing 19% for the third
quarter 2002 compared to the second quarter 2002 and 48% for the third quarter
2002 compared from the first quarter 2002. We expect this increase to continue
throughout the year. During the third quarter 2002, on behalf of our customers
we processed a total of 54,600 transactions through our web site generating
gross billings in excess of $4,735,000. We recognized revenues of $263,000 on
these transactions. For the same quarter in 2001 we processed a total of 25,700
transactions generating gross billings in excess of $2,145,000 for which we
recognized $78,000 of revenues. For the nine months ended September 30, 2002 we
processed a total of 134,900 transactions generating gross billings in excess of
$11,557,000 for which we recognized $663,000 of revenues. For the nine months
ended September 30, 2001 a total of 66,600 transactions were processed
generating gross billings of approximately $5,459,000 for which we recognized
$164,000 of revenues. We are delighted with the level of incremental revenue our
customers are able to generate using our software applications and we believe
that this success gives us the opportunity to enter into arrangements to provide
Web-based ad-taking technology for new customers. This success serves to confirm
that we have developed a viable foundation that exploits our proprietary
software products, extensive industry knowledge, and unique position within the
marketplace. As we are early in the life cycle of our ASP business, we are
continuing to critically evaluate all products, their profit contributions, and
potential line extensions that may be of benefit to our existing customers as
well as our potential customers. Customization services, which traditionally had
been a large percentage of our revenue, were significantly down for the first
nine months of 2002 from the same period in 2001. This reflects reduced capital
spending at newspapers resulting from lower advertising revenues caused by the
general economic downturn since the fourth quarter of 2001. As we continue to
add more newspapers as ASP customers and add increased services to existing
customers, we will be better positioned to weather economic downturns.
Description of Business
Under our ASP business model we developed a new e-business application
suite that is an enterprise class software solution allowing print and on-line
publications to electronically receive completed classified advertising copy
using the Internet as the communication channel. This new application suite was
developed in conjunction with our existing customers, and in response to their
need for a software solution supporting both business-to-business (B-to-B)
operations and business-to-customer (B-to-C) operations. These software
solutions enable our customers to expand the relationships with their customers
using a single integrated platform, while increasing sales volumes at reduced
costs. Our software allows newspapers to turn their on-line presence into an
e-commerce-enabled, revenue generating Web site. We believe that our ASP product
and services provide our customers an opportunity to generate incremental
revenue from their on-line business while increasing the number of visitors to
their Web site.
Our new e-business application suite includes two main products that can
be purchased separately or as a fully integrated software solution:
o Professional software ("Professional Product") - This technology is
designed for use by the professional marketplace. Specifically, our
software allows publishers to receive transmissions from classified
advertising agencies and corporations using advanced Web-based
technology. The software includes sophisticated pricing algorithms
to provide for maximum flexibility and intricate design resources to
provide unlimited creative capabilities. The recently released Web
9
version of this software has been favorably received. This software
solution utilizes the Internet as the communication method, which
significantly improves the intuitive nature of the application and
allows the advertiser to increase the speed of each transmission by
utilizing existing high-speed Internet connections. Should a
high-speed Internet connection not be available, the advertiser can
install a desktop version of this software that utilizes modem
communication.
o ASP Web site technology ("ASP Product") - This technology is a
publisher-specific ad-taking Web site service designed to enhance a
publication's Web site by allowing the general public to execute
transactions to purchase classified advertising. Specifically, it is
an integrated application suite that offers visitors to a
newspaper's Web page the opportunity to buy classified ads, for both
the print and/or on-line editions of the newspaper, in real-time, on
a 24/7 basis. This product allows a publication to completely
outsource the classified ad-taking power of their Web site whereby
the publication receives incremental revenue at a very low
incremental cost. We handle all functions associated with this
revenue source. We furnish and host the application suite, run the
technology, monitor the transactions throughout the session, handle
the payment authorization and settlement process, electronically
deliver the ad text to the newspaper, and provide customer service
support to the newspaper's customers. We provide all the technical
and application expertise, customer support, and security measures
that the publication needs to get an application up and running in a
short time. Typically, we are able to process many more ads and do
so much more quickly and affordably than the publisher could do
internally. In addition, this software solution provides tools to
evaluate performance, provide additional customer care, and increase
future revenue opportunities. We provide the means to deliver highly
personalized email communications to existing customers for the
purpose of creating additional revenues and creating a profitable,
long-term relationship.
Both software products allow transactions to be executed through the
Internet. Our application suite is designed to be quickly integrated into our
customer's existing publishing software and readily expands as our customer's
needs and business grows. Our products use a single platform to connect and
integrate transmissions between multiple browsers and multiple technology
standards. In continually ensuring that our AdStar software solution works with
all available technology standards, we solve the problems created for our
customers because advertisers create and deliver content using ever changing
technology with multiple standards, multiple browsers and evolving network
infrastructures. By bridging disparate technologies in a way that seamlessly
allows for communication and transmission of advertising copy, we alleviate this
obstacle for our customers, freeing them to focus on their business.
Both lines of business require fees to customize the AdStar software
solution to the technical specifications for each publication. In addition, we
charge ongoing monthly fees to manage the ad-taking process, provide technical
support, supply a customer service phone room, and manage the entire e-commerce
function. The monthly fees include a small hosting fee plus a fee based on
transaction volumes and structured in such a way that we are, in essence
partnering with our customers. Therefore, when our customer's revenue volume
increases, our revenue will also increase. With this structure, we are able to
offer superior service in a manner that is cost effective for publishers of all
sizes.
In developing our Web-based system we began to incur expenses in 1998 that
could not be offset by the revenues generated by our historical business. These
expenses caused us to incur losses in 1998, 1999, 2000, 2001 and first three
quarters of 2002. Our future success is dependent upon our ability to
substantially grow revenues to the point where we can fund the current level of
operations. To this end, our plans include expanding the products and services
offered to our customers by building on our (i) proprietary software processes,
(ii) established customer relationships, and (iii) unique position within the
industry. We feel that there is significant opportunity to increase revenues by
offering the Web
10
software and customer support services that we had initially developed for our
Web-based national portal, "Advertise123.com," to print publications under the
ASP business model.
In addition to the AdStar software solution, we have also developed
Advertise123.com, a one-stop marketplace on the Web for the general public to
buy classified ads. Through Advertise123.com, the general public can compose
professional looking classified ads using one of several pre-programmed
templates, schedule the ad to run in one or several of over 200 newspapers and
50 state newspaper associations, and purchase the ad using a credit card, all on
a 24/7 basis. We receive a small fee for this service.
Results of Operations
The following table sets forth the results of operations expressed as a
percentage of net revenues:
Three Months Nine Months Year
Ended Ended Ended
September 30, September 30, December 31,
---------------- ---------------- --------------------------
2001 2002 2001 2002 1999 2000 2001
---- ---- ---- ---- ---- ---- ----
Revenues 100% 100% 100% 100% 100% 100% 100%
Cost of revenues 32% 44% 36% 46% 61% 71% 39%
--- --- --- --- --- --- ---
Gross profit 68% 56% 64% 54% 39% 29% 61%
Selling expense 27% 20% 32% 26% 48% 104% 32%
Administrative expenses 64% 71% 89% 82% 91% 165% 90%
Development expenses 15% 17% 24% 25% 62% 101% 31%
Abandoned offering costs, net -- -- -- -- 12% -- --
--- --- --- --- --- --- ---
Loss from operations -39% -52% -81% -78% -174% -341% -91%
Other Income -- -- -- 3% -- -- --
Interest income (expense) 1% -- 2% 1% -23% 4% 1%
--- --- --- --- --- --- ---
Loss before taxes -38% -52% -79% -74% -197% -337% -90%
Provision for income taxes -- -- -- -- -- -- --
--- --- --- --- --- --- ---
Net loss -38% -52% -79% -74% -197% -337% -90%
11
Three and Nine Month Periods Ended September 30, 2002 and 2001
Revenues. - Net revenues for the third quarter 2002 increased 2% to
$655,000 compared to third quarter 2001 net revenues of $640,000. Fees from our
ASP Product increased 239% to $263,000 during the third quarter 2002 from
$78,000 in the third quarter 2001. Revenue from software customization services
decreased 53% during the third quarter 2002 to $94,000 from $201,000 in the
third quarter 2001. Revenues from miscellaneous and non-recurring items
decreased 53% during the third quarter 2002 to $28,000 from $60,000 in the third
quarter 2001. Fees from our Professional Product decreased 10% to $270,000
during the third quarter 2002 from $301,000 during the third quarter 2001.
Net revenues for the nine months ended September 30, 2002 increased 5% to
$1,697,000 compared to $1,612,000 for the nine months ended September 30, 2001.
ASP fees for the nine months ended September 30, 2002 increased 304% to $663,000
from $164,000 for the nine months ended September 30, 2001. Customization
revenue for the nine months ended September 30, 2002 decreased 67% to $133,000
from $407,000 for the nine months ended September 30, 2001. Revenue from
miscellaneous and non-recurring items for the nine months ended September 30,
2002 decreased 51% to $88,000 from $178,000 for the nine months ended September
30, 2001. Fees from our Professional Product decreased 6% to $813,000 for the
nine months ended September 30, 2002 from $863,000 during the nine months ended
September 30, 2001. The decrease in software customization is a by-product of
the trend to defer capital expenditures in the publishing industry due to the
general economic climate; we anticipate the deferral to continue through the
rest of the year. The decrease in Professional Product is primarily due to the
transition of existing customers from the Professional Product line to our ASP
Product; this trend is expected to continue. We expect that revenue from our ASP
Product will continue to increase as we increase both the number of customers
and the transaction volume we process on behalf of those customers.
Cost of Revenues - Cost of revenue consists primarily of the costs to
customize and install the AdStar software applications, configure end-user
software, install Web-based ad-taking software, provide customer training and
end-user support, amortization of internally developed application modules,
royalties, and co-location costs. These costs increased to approximately
$290,000 for the third quarter 2002 compared with $205,000 for the third quarter
2001. Our gross profit margin decreased to 56% during the third quarter 2002,
from 68% during the third quarter 2001. This increase in cost of revenues
primarily resulted from an increase in the amortization of software development
costs to $90,000 in the third quarter 2002 from $43,000 in the third quarter
2001.
Cost of revenues for the nine months ended September 30, 2002 increased to
$776,000 from $577,000 for the nine months ended September 30, 2001. Our gross
profit margin for the nine months ended September 30, 2002 decreased to 54% from
64% for the nine months ended September 30, 2001. The increase in cost of
revenues primarily resulted from an increase in the amortization of software
development costs to $264,000 for the nine months ended September 30, 2002 from
$110,000 for the nine months ended September 30, 2001. Given our current level
of Web automation, we will be able to manage significantly greater transaction
volumes with limited increases to our current staffing levels. Accordingly, we
expect a corresponding increase in cash to be generated from our gross profits.
Selling Expense. - Selling expense consists primarily of direct charges
for advertising, sales promotion, marketing, and trade shows, as well as the
cost for business development. Selling expense decreased 25% during the third
quarter 2002 to $131,000 from $174,000 during the third quarter 2001. This
decrease primarily resulted from the reduction of personnel-related expenses to
$116,000 during the third quarter 2002 from $163,000 for the third quarter 2001.
12
Selling expense for the nine months ended September 30, 2002 decreased 15%
to $435,000 from $512,000 for the nine months ended September 30, 2001.
Personnel-related expenses for the nine months ended September 30, 2002
decreased 10% to $399,000 from $443,000 for the nine months ended September 30,
2001. Non- personnel related expenses for trade shows, marketing and promotion
for the nine months ended September 30, 2002 decreased 48% to $36,000 from
$69,000 for the nine months ended September 30, 2001. In future quarters, we can
expect to see some incremental increase in selling expenses as compared to the
last three quarters as we continue the development of our strategic
relationships with Tribune Company, Knight-Ridder, Inc., CareerBuilder, L.L.C.,
and other potential strategic partners.
Administrative Expenses. - Administrative expense consists primarily of
the cost of executive, administrative, professional fees, accounting, finance,
and information technology personnel. Administrative expenses increased 13%
during the third quarter 2002 to $465,000 from $412,000 during the third quarter
2001. The increase was primarily related to professional fees and other
non-personnel related expenses.
Administrative expenses for the nine months ended September 30, 2002
decreased 3% to $1,396,000 from $1,434,000 for the nine months ended September
30, 2001. Personnel-related expenses for the nine months ended September 30,
2002 decreased to $821,000 from $1,139,000 for the nine months ended September
30, 2001, the decrease was primarily due to an overall reduction in personnel
during 2001; and the sustainment of the lower personnel counts through the first
quarter of 2002, until increased activity required an increase in staffing
levels. Legal fees for the nine months ended September 30, 2002 increased to
$182,000 from $40,000 for the nine months ended September 30, 2001. This is
primarily due to a significant increase in outside legal expenses during the
first quarter 2002 related to financing negotiations and general corporate
advice. Although we expect that quarterly administrative expenses overall will
be lower in comparison to the prior year, during the remainder of 2002,
personnel-related expenses may increase incrementally from the first nine
months, as we have added some additional administrative headcount, and are
incurring an approximate 10% increase in Directors & Officers insurance and
anticipate a similar increase in health care costs in the fourth quarter 2002 as
dictated by current market conditions.
Development Expenses. - Development expenses consist of expenses to
identify functional requirements, to plan, identify and conceptually design the
required technical infrastructure, and to perform Web-site maintenance and other
general routine fixes. The costs consist primarily of personnel related expenses
for technical and design personnel and consultants. Development expense for the
third quarter 2002 increased 12% to $110,000 from $98,000 for the third quarter
2001. Personnel-related expenses decreased 4% to $87,000 in the third quarter
2002, as compared to $91,000 for the third quarter 2001.
Development expense for the nine months ended September 30, 2002 increased
6% to $417,000 from $392,000 for the nine months ended September 30, 2001. The
increase was due to approximately $44,000 in one-time costs for outside
consultants to create the conceptual design and feasibility study for Tribune
Company product prior to execution of our agreement with them during the first
quarter of 2002, offset by a decrease in personnel-related expenses for the nine
months ended September 30, 2002 to $359,000 from $371,000 for the nine months
ended September 30, 2001.
Other Income (Expense) - Other income expense has historically been
comprised of net interest income (expense). During the second quarter 2002
AdStar finalized a settlement with Kodak, Inc. whereby Kodak returned 67,796
shares of AdStar common stock resulting in a non-cash gain of approximately
$63,000. Net interest income decreased 61% during the third quarter 2002 to
$3,000 from $7,000 during the third quarter 2001. This decrease is attributable
to a reduction in cash held in interest
13
bearing accounts as we utilized cash to fund development projects and operating
deficits, a reduction in interest rates available in short-term time deposits
and money market accounts at commercial banks, as well as an increase in
interest expense during the quarter relating to the addition of capital leases.
Net interest income for the nine months ended September 30, 2002 decreased 50%
to $13,000 from $26,000 for the nine months ended September 30, 2001.
Years Ended December 31, 2001, 2000 and 1999
Revenues
Net revenues increased to $2,081,000 in 2001 from $1,375,000 in 2000 and
$1,454,000 in 1999. These levels represent a net increase of 51% for 2001 over
2000 and a net decline of 5% for 2000 over 1999. The dramatic increase in
revenue in 2001 is due to the introduction of our new publisher-specific
ad-taking Web site application service provider ("ASP") product. During 2001, we
received in excess of $286,000 in monthly hosting and processing fees, and
$215,000 in programming service fees. This increase is attributable primarily to
an agreement entered into in July 2001, with Knight-Ridder, Inc. to provide our
ASP services for five of their major newspapers, and to provide programming
services to integrate our software products into their legacy publishing
software. Software customization and modifications in connection with our core
Professional product, as well as the related license fees and end-user support
revenues increased in 2001 to $1,384,000 from $1,093,000 for 2000 and $1,286,000
for 1999. This growth is due to a January 1, 2001 price increase for the monthly
fees associated with our core Professional business products, and an increase in
the amount of additional customization work requested by our long-standing
customers, for which we charge on a time and materials basis.
Cost of Revenues
Cost of revenues consists primarily of the cost of running our Internet
software, including the cost to install and manage activity through our ASP
product, as well as the cost to configure and customize the AdStar software at
the publishing systems of newspapers, to configure end-user software for the
newspaper's advertiser clients, to provide customer training and end-user
support, and to pay costs of hardware sales and royalty fees. These costs
decreased by 17% to $806,000 in 2001 as compared with $973,000 for 2000 and 9%
as compared with $882,000 in 1999. Personnel costs associated with cost of
revenues decreased to $480,000 in 2001 compared to $792,000 in 2000 and
increased from $429,000 in 1999. As we increased revenues we were able to
achieve efficiencies from the computerization of certain functions previously
performed manually.
Selling Expense
Selling expense consists primarily of costs for advertising, sales
promotion, marketing, and trade shows ("direct charges"), as well as the cost
for personnel in business development, sales and marketing. Selling expenses
decreased to $656,000 in 2001 as compared with $1,429,000 in 2000 and $691,000
in 1999. The decrease was due to the implementation of a more targeted selling
effort aimed at media conglomerates, as we moved away from creating awareness
for our Web site. The personnel and work force related expenses decreased to
$384,000 in 2001 from $1,119,000 in 2000 and $533,000 in 1999, primarily due to
the elimination of the consumer/retail sales function. Direct charges decreased
to $272,000 in 2001 from $310,000 in 2000 and increased from $158,000 in 1999 as
we refocused our selling efforts towards the publishing industry.
14
Administrative Expense
Administrative expense consists primarily of the cost of executive,
administrative, technical operations and accounting and finance personnel as
well as general corporate expenses. Administrative expenses decreased to
$1,882,000 from $2,269,000 in 2000 and increased from $1,335,000 in 1999.
Personnel related costs decreased to $1,062,000 from $1,692,000 in 2000 and
$374,000 in 1999. Our personnel additions occurred in mid 1999 and were
primarily in technical operations, management and accounting/finance. We have
since curtailed these costs significantly through reductions in workforce
levels.
Development Costs
Development costs consist of expenses to identify functional requirements,
to create content and to populate databases for our Advertise123.com Web site
and the ASP private label sites, and to plan, identify and conceptually design
the required technical infrastructure. The costs began in 1999 and consist
primarily of technical and design consultants as well as personnel costs.
Development expense decreased to $640,000 in 2001 from $1,387,000 in 2000 and
$904,000 in 1999, as we had moved past the planning stages of our primary Web
product, and thus no longer incurred significant costs for these functions. The
personnel and consultant related expenses decreased to $537,000 in 2001 from
$777,000 in 2000 and $672,000 in 1999. We scaled back our use of design
consultants beginning in the third quarter of 2000.
Abandoned Offering Costs, net
In September 1999, a proposed public offering of our securities was
declared effective but did not close. In connection with that offering we
incurred expenses of approximately $672,000. We also received $500,000 in
reimbursement of expenses from the representative of the underwriters, which has
been recorded net of the actual expenses incurred.
Interest Income (Expense), net
Interest expense decreased to $19,000 in 2001 from $81,000 in 2000 and
$345,000 in 1999 as a result of our ability to reduce the debt that had been
outstanding prior to our initial public offering. Our 12% convertible notes were
converted into common stock in December 1999 when we closed our initial public
offering. In addition, we repaid the 14% and 10% notes with proceeds from that
offering in December 1999 and January 2000, respectively, and in February 2001,
converted a $1,100,000 short-term note outstanding to equity. Our interest
expense in 2001 relates primarily to our line of credit obtained in October 2001
and our capital leases. Interest income was $43,000 in 2001 compared to $140,000
in 2000 and $11,000 in 1999, due to less cash available for investment in 2001.
Liquidity and Capital Resources
As of September 30, 2002, we had cash and cash equivalents of
approximately $385,000 and restricted cash of $175,000. Net cash used in
operations was approximately $1,039,000 for the nine months ending September 30,
2002 compared with $1,018,000 for the comparable 2001 period. Net cash used in
investing activities increased to $804,000 for the nine months ended September
30, 2002 compared with $621,000 in the same period in 2001. The increase is
primarily a result of the $210,000 in loans to two officers. Net cash provided
by financing activities increased by $1,816,000 for the nine months ended
September 30, 2002 compared with $409,000 in the same period in 2001. The
increase is primarily due to the net proceeds of $1,723,000 from the issuance of
Series A preferred stock to Tribune
15
Company and a net increase of restricted cash of $129,000 as compared to the
comparable period in 2001.
As a result of the equity raised during the first quarter 2002 and the
anticipated $1,500,000 funding from Tribune during the fourth quarter 2002 and
first quarter 2003 under the terms of a non-binding letter of intent signed in
November 2002, we expect our available funds, combined with cash generated from
existing operations, new customers, and the flexibility to cut back our
work-force should anticipated significant customization projects be delayed or
terminated, will be sufficient to meet our anticipated working capital needs
through September 30, 2003. We have generated operating losses during the past
four years, and we cannot guarantee that the assumed financing from the Tribune
letter of intent will be funded, increases in revenue will occur in a timely
manner, that we will be able to contain our costs in accordance with our plans,
nor that we have accurately estimated the resources required to fulfill our
obligations to Tribune Company. Although we are optimistic that our new ASP
business will continue to be accepted in the marketplace and we will fulfill our
obligations to Tribune Company in a timely manner, the timing is not assured.
Our ability to sell ASP business products and service offerings during the
current year may be hampered by the current downturn in the advertising market
and state of the economy in general. These factors, coupled with the extended
time frame required for software sales, customization, and implementation, could
have a material adverse effect on our ability to achieve our intended business
objectives.
In August 2002, AdStar was informed by Chase Merchant Services, L.L.C
(Chase), a merchant bank that provides credit card processing services for
AdStar, that it required the Company to maintain a restricted cash balance of
$175,000. Chase indicated the primary reason for the reserve was the significant
increase in dollar volume of AdStar transactions during the second quarter 2002.
Under the terms of the agreement, AdStar can terminate the contract with 30 days
notice and Chase can retain a reserve for up to six months from the date of
termination.
The Company has entered into a new arrangement with another merchant
banker whereby the initial terms and conditions do not require AdStar to provide
a reserve. Preliminary testing for the changeover was completed in early
November 2002, and a final transition to the new banker is expected to be
completed before December 31, 2002.
As discussed above we have entered into a non-binding letter of intent
with Tribune to purchase preferred stock of the Company for $1,500,000. There is
no assurance that Tribune will fund the agreement. We currently have no
additional borrowings available to us under any credit arrangement, and we will
look for additional debt and equity financing's should the Tribune investment be
delayed or cancelled. Adequate funds may not be available or may not be
available on terms acceptable to us. If additional funds are raised through the
issuance of equity securities, dilution to existing stockholders may result. If
funding is insufficient at any time in the future, we may be unable to develop
or enhance our products or services, take advantage of business opportunities or
respond to competitive pressures, any of which could have a material adverse
effect on our financial position, results of operations and cash flows.
Critical Accounting Policies and Estimates
The discussion and analysis of our financial condition and results of
operations are based upon our financial statements, which have been prepared in
accordance with accounting principles generally accepted in the United States.
The preparation of these financial statements require that we make estimates and
judgments that affect the reported amounts of assets, liabilities, revenues,
expenses, and related disclosure. On an on-going basis, we re-evaluate our
estimates, including those relating to revenue recognition, uncollectible
accounts receivable and intangible assets and revise reported amounts
prospectively. We base our estimates on historical experiences, combined with
anticipated activity and various other assumptions that we believe to be
reasonable under the circumstances. When combined,
16
this body of knowledge forms the basis for making judgments about the carrying
value of assets and liabilities. Actual results may differ from these estimates
under different assumptions or conditions.
Financial Reporting Release No. 60, which was recently issued by the Securities
and Exchange Commission, requires all companies to include a discussion of
critical accounting policies or methods used in preparation of financial
statements. The following is a brief discussion of our most critical accounting
policies, including those methods affected by our more complex judgments and
estimates.
Revenue Recognition
AdStar derives revenue from several products and services as follows:
Technology services revenue - We receive revenue from technology service
contracts that generally contain multiple elements such as software
customization services, monthly fees and post-contract customer support
(PCS). Revenue from these arrangements is recognized in accordance with
Statement of Position ("SOP") 97-2, "Software Revenue Recognition", and
SOP 98-9, "Software Revenue Recognition with Respect to Certain
Transactions". Accordingly, revenue is allocated to each element within
the contract based on the relative fair values of those elements using
vendor specific objective evidence. Revenue from monthly fees and PCS
under software maintenance arrangements is based upon renewal rates and is
recognized ratably over the term of the arrangement. Revenue from software
customization services is recognized as the services are performed, using
a percentage of completion methodology based on labor hours. We also
provide customization services at the customers' request and recognize
revenue as the services are performed, using a percentage of completion
methodology based on labor hours
Areas requiring management's judgment includes revenue recognition and
cost estimation on the fixed fee software customization element of the
contracts. Revenue is recognized on these contracts using a
percentage-of-completion methodology, based upon labor input measures and
an estimate of time to completion. Monthly, technical management reviews
the estimate of labor hours required to complete the customization and the
effect of any change in estimate is reflected in the period in which the
change is first known. Such changes in estimate have not been material to
our quarterly results of operation. The corresponding cost of revenue
charge is derived based upon the same labor input measurements and our
existing cost structure. If we do not accurately estimate the resources
required under the contract or the scope of the work to be performed, or
if we do not manage our projects properly within the prescribed timeframe,
future margins may be significantly and adversely affected. If increases
in projected costs-to-complete are sufficient to create a loss contract,
the entire estimated loss is charged to operations in the period the loss
first becomes known. The complexity of the estimation process and
uncertainties inherent in software customization activities may affect the
percentages derived under the percentage-of-completion accounting method,
which in turn may affect the amounts reported in the financial statements.
Despite the complexities inherent in the estimating process, we believe
that this accounting policy most accurately presents the revenue
generating activities of AdStar.
ASP revenue - We receive revenue from providing an application service
provider ("ASP") product that allows companies to use the applications on
a "shared system" over the Internet. This technology is a
publisher-specific ad-taking Web site service that offers visitors to a
newspaper's Web page the opportunity to buy classified ads, for both the
print and/or on-line editions of the newspaper, in real-time, on a 24/7
basis. We receive monthly fees for hosting the transactions and providing
customer support, and recognize the fees ratably over the contract period.
17
Web site revenue - We receive revenue from fees charged to customers who
transact business on the Advertise123.com Web site. This site permits the
general public to plan, schedule, compose and purchase advertising from
many print and on-line publishers. Under the guidance provided by the
Securities Exchange Commission Staff Accounting Bulletin ("SAB) No. 101,
"Revenue Recognition" and the Emerging Issues Task Force ("EITF") Abstract
No. 99-19 "Reporting Revenue Gross as a Principal versus Net as an Agent"
("EITF 99-19"), we are, in substance, acting as an agent for the
publishers and therefore recognize as revenue only the net fees realized
on the transactions. We recognize revenues on a per-transaction basis when
the ad is placed through our system and collection from the customer is
probable.
Web Site Software Development Costs
In March 2000, the Financial Accounting Standards Board's Emerging Issue Task
Force ("EITF") issued EITF No. 00-2 "Accounting for Web Site Development Costs",
which provides guidance with respect to capitalization of certain costs incurred
in connection with Web development activities and references Statement of
Financial Accounting Standards ("SFAS") No. 86 "Accounting for the Cost of
Computer Software to be Sold, Leased or Otherwise Marketed". In accordance with
these pronouncements, costs to establish the technological feasibility of our
software applications are charged to expense as incurred. Certain costs incurred
subsequent to achieving technological feasibility are capitalized. Accordingly,
we capitalize a portion of the internal labor costs and external consultant
costs associated with essential Web site development and enhancement activities.
Costs associated with conceptual design and feasibility assessments as well as
maintenance and routine changes are expensed as incurred. Capitalized costs are
amortized on a straight-line basis over the estimated useful lives of the
applications. In accordance with this policy, we have capitalized expenditures
incurred to develop the new AdStar e-business application suite.
MISCELLANEOUS
Solicitation Of Proxies
The cost of this proxy solicitation and any additional material relating
to the meeting which may be furnished to the stockholders will be borne by
AdStar. In addition, solicitation by telephone, telegraph or other means may be
made personally, without additional compensation, by officers, directors and
regular employees of AdStar. AdStar also will request brokers, dealers, banks
and voting trustees and their nominees holding shares of record but not
beneficially to forward proxy soliciting material to beneficial owners of such
shares, and AdStar, upon request, will reimburse them for their expenses in so
doing.
Accounting Matters
PricewaterhouseCoopers LLP serves as our independent accountants for the
year ending December 31, 2002. Representatives of PricewaterhouseCoopers LLP are
expected to be present at the Special Meeting with an opportunity to make a
statement if they desire to do so, and will be available to respond to
appropriate questions. The PricewaterhouseCoopers LLP report included in this
Proxy Statement relates to our historical financial information for the year
ended December 31, 2001.
18
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
Certain statements made in this Proxy Statement are "forward-looking
statements" within the meaning of Section 21E of the Securities and Exchange Act
of 1934 regarding the plans and objectives of management for future operations
and market trends and expectations. Such statements involve known and unknown
risks, uncertainties and other factors that may cause our actual results,
performance or achievements to be materially different from any future results,
performance or achievements expressed or implied by such forward-looking
statements. The forward-looking statements included herein are based on current
expectations that involve numerous risks and uncertainties. Our plans and
objectives are based, in part, on assumptions involving the continued expansion
of our business. Assumptions relating to the foregoing involve judgments with
respect to, among other things, future economic, competitive and market
conditions and future business decisions, all of which are difficult or
impossible to predict accurately and many of which are beyond our control.
Although we believe that our assumptions underlying the forward-looking
statements are reasonable, any of the assumptions could prove inaccurate and,
therefore, there can be no assurance that the forward-looking statements
included in this report will prove to be accurate. In light of the significant
uncertainties inherent in the forward-looking statements included herein,
particularly in view of our early stage operations, the inclusion of such
information should not be regarded as a representation by us or any other person
that our objectives and plans will be achieved. The terms "we", "our", "us", or
any derivative thereof, as used herein shall mean AdStar, Inc., a Delaware
corporation.
EVERY STOCKHOLDER, WHETHER OR NOT HE OR SHE EXPECTS TO ATTEND THE ANNUAL
MEETING IN PERSON, IS URGED TO EXECUTE THE PROXY AND RETURN IT PROMPTLY IN THE
ENCLOSED BUSINESS REPLY ENVELOPE.
BY ORDER OF THE BOARD OF DIRECTORS
Eli Rousso, Secretary
Dated: Marina del Rey, California
December 5, 2002
19
FINANCIAL STATEMENTS
Index To Financial Statements
Financial Statements
Report of Independent Accountants F-2
Balance Sheets as of December 31, 2000 and 2001 F-3
Statements of Operations for each of the three years in the period ended December 31, 2001 F-4
Statements of Stockholders' Equity for each of the three years in the period ended
December 31, 2001 F-5
Statements of Cash Flows for each of the three years in the period ended December 31, 2001 F-6
Notes to Financial Statements F-7
Unaudited Interim Financial Statements
Balance Sheet as of September 30, 2002 F-21
Statements of Operations for the three month and nine month periods ended September 30, 2002 and 2001 F-22
Statements of Cash Flows for the nine month periods ended September 30, 2002 and 2001 F-23
Notes to Interim Financial Statements F-24
F-1
Report of Independent Accountants
To the Board of Directors and Stockholders of AdStar, Inc.:
In our opinion, the accompanying balance sheets and the related statements
of operations, stockholders' equity and cash flows present fairly, in all
material respects, the financial position of AdStar, Inc. at December 31, 2001
and 2000, and the results of its operations and its cash flows for each of the
three years in the period ended December 31, 2001 in conformity with accounting
principles generally accepted in the United States of America. 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 of these statements in accordance with
auditing standards generally accepted in the United States of America, which
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, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
/s/ PricewaterhouseCoopers LLP
Los Angeles, California
February 22, 2002 except for the subsequent events
described in Note 9, as to which the
date is March 15, 2002
F-2
AdStar, Inc.
Balance Sheets
As of December 31, 2000 and 2001
- --------------------------------------------------------------------------------
2000 2001
----------- ------------
Assets
Current assets:
Cash and cash equivalents $ 1,606,999 $ 411,539
Restricted cash 100,000 45,457
Accounts receivable, net of allowance for doubtful
accounts of $73,000 and $15,000 227,144 210,370
Prepaid and other current assets 154,648 174,387
----------- ------------
Total current assets 2,088,791 841,753
Property and equipment, net 1,616,163 1,917,778
Intangible assets, net 124,383 86,835
Other assets 34,571 24,863
----------- ------------
Total assets $ 3,863,908 $ 2,871,229
=========== ============
Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable $ 298,547 $ 416,735
Accrued expenses 542,868 446,628
Deferred revenue 165,304 153,213
Notes payable 1,100,000 --
Capital lease obligations 15,009 5,162
----------- ------------
Total current liabilities 2,121,728 1,021,738
Capital lease obligations 45,594 8,473
----------- ------------
Total liabilities 2,167,322 1,030,211
----------- ------------
Commitments and contingencies (Note 8)
Stockholders' equity:
Preferred stock, par value $0.0001; authorized 5,000,000
shares; none issued and outstanding -- --
Common stock, par value $0.0001; authorized 20,000,000
shares; issued and outstanding 5,217,119 at December 31, 2000
and 7,729,851 at December 31, 2001 522 773
Additional paid-in capital 8,849,241 10,843,795
Deferred compensation (28,239) --
Shareholder receivable (49,006) (43,120)
Accumulated deficit (7,075,932) (8,960,430)
----------- ------------
Total stockholders' equity 1,696,586 1,841,018
----------- ------------
Total liabilities and stockholders' equity $ 3,863,908 $ 2,871,229
=========== ============
The accompanying notes are an integral part of these financial statements.
F-3
AdStar, Inc.
Statements of Operations
For Each of the Three Years
in the Period Ended December 31, 2001
- --------------------------------------------------------------------------------
1999 2000 2001
----------- ----------- -----------
Net revenues $ 1,453,821 $ 1,374,697 $ 2,080,612
Cost of revenues 881,803 972,679 805,964
----------- ----------- -----------
Gross profit 572,018 402,018 1,274,648
Selling expense 691,492 1,428,574 656,349
Administrative expense 1,335,121 2,269,331 1,881,957
Development costs 904,009 1,386,518 639,503
Abandoned offering expenses, net 171,854 -- --
----------- ----------- -----------
Loss from operations (2,530,458) (4,682,405) (1,903,161)
Interest income (expense), net (333,464) 58,763 23,871
----------- ----------- -----------
Loss before taxes (2,863,922) (4,623,642) (1,879,290)
Provision for income taxes (800) (5,167) (5,208)
----------- ----------- -----------
Net loss $(2,864,722) $(4,628,809) $(1,884,498)
=========== =========== ===========
Loss per share - basic and diluted $ (1.90) $ (1.34) $ (0.30)
Weighted average number of shares - basic and diluted 1,510,093 3,452,619 6,373,037
The accompanying notes are an integral part of these financial statements.
F-4
AdStar, Inc.
Statements of Stockholders' Equity
For Each of the Three Years
in the Period Ended December 31, 2001
- --------------------------------------------------------------------------------
Total
Common Stock Additional Stockholders'
----------------------- Paid-In Shareholder Deferred Accumulated Equity
Shares Amount Capital Receivable Compensation (Deficit) (Deficit)
----------- -------- ------------ ---------- ------------ ----------- -----------
Balance, December 31, 1998 1,479,664 $ 28,300 -- -- -- $ (224,304) $ (196,004)
Net loss -- -- -- -- -- (2,864,722) (2,864,722)
Repurchase of option -- -- -- -- -- (447,935) (447,935)
Reclassification of deficit due
to termination of S corporation
election -- -- $ (1,094,611) -- -- 1,094,611 --
Warrants issued for services -- -- 146,600 -- -- -- 146,600
Contribution of common stock (63,848) (6) 6 -- -- -- --
Net proceeds from initial public
offering 1,150,000 115 5,390,526 -- -- -- 5,390,641
Re-incorporation in Delaware
and change in par value -- (28,152) 28,152 -- -- -- --
Dividends -- -- -- -- -- (4,773) (4,773)
Conversion of redeemable
common stock 22,534 2 137,534 -- -- -- 137,536
Conversion of convertible
notes and accrued interest 231,914 23 1,104,944 -- -- -- 1,104,967
Receivable from shareholder -- -- -- $(35,056) -- -- (35,056)
----------- -------- ------------ -------- --------- ----------- -----------
Balance, December 31, 1999 2,820,264 282 5,713,151 (35,056) -- (2,447,123) 3,231,254
Net loss -- -- -- -- -- (4,628,809) (4,628,809)
Net proceeds from secondary
public offering 2,300,000 230 2,750,251 -- -- -- 2,750,481
Common stock issued for
license agreement 67,796 7 99,993 -- -- 100,000
Common stock issued for
services 29,059 3 128,439 -- $ (32,000) -- 96,442
Stock options issued for
service -- -- 157,407 -- (157,407) -- --
Amortization of deferred
compensation -- -- -- -- 161,168 -- 161,168
Loan to shareholder, net -- -- -- (13,950) -- -- (13,950)
----------- -------- ------------ -------- --------- ----------- -----------
Balance, December 31, 2000 5,217,119 522 8,849,241 (49,006) (28,239) (7,075,932) 1,696,586
Net loss -- -- -- -- -- (1,884,498) (1,884,498)
Net proceeds from private
offerings 1,800,000 180 693,414 -- -- -- 693,594
Common stock issued for
services 119,249 12 89,508 -- -- -- 89,520
Warrants issued for services -- -- 24,725 -- -- -- 24,725
Amortization of deferred
compensation -- -- -- -- 28,239 -- 28,239
Conversion of debt
to equity 593,483 59 1,186,907 -- -- -- 1,186,966
Shareholder payment, net -- -- -- 5,886 -- -- 5,886
----------- -------- ------------ -------- --------- ----------- -----------
Balance, December 31, 2001 7,729,851 $ 773 $ 10,843,795 ($43,120) $ -- ($8,960,430) $ 1,841,018
========= ======== ============ ======== ======= =========== ===========
The accompanying notes are an integral part of these financial statements.
F-5
AdStar, Inc.
Statements of Cash Flows
For Each of the Three Years
in the Period Ended December 31, 2001
- --------------------------------------------------------------------------------
1999 2000 2001
----------- ----------- -----------
Cash flows from operating activities:
Net loss $(2,864,722) $(4,628,809) $(1,884,498)
Adjustments to reconcile net loss to net cash
used in operating activities:
Depreciation and amortization 91,426 191,765 366,212
Amortization of debt discount 137,536 -- --
Amortization of license fees -- 16,666 --
Stock based charges 146,600 257,611 142,484
Interest on convertible notes and shareholder receivable 54,967 -- 5,320
Loss (gain) on disposal of equipment -- (1,882) 94,077
Changes in assets and liabilities:
Accounts receivable (335,164) 233,333 16,774
Prepaids and other assets (104,376) 18,456 (10,031)
Accounts payable 950,886 (830,268) 118,188
Accrued expenses 286,830 89,451 (17,708)
Deferred revenue 72,344 58,304 (12,091)
----------- ----------- -----------
Net cash used in operating activities (1,563,673) (4,595,373) (1,181,273)
----------- ----------- -----------
Cash flows from investing activities:
Purchase of property and equipment (406,126) (1,354,799) (751,017)
Proceeds from disposal of equipment -- 11,974 26,661
Shareholder note receivable (35,036) (13,950) 9,000
----------- ----------- -----------
Net cash used in investing activities (441,182) (1,356,775) (715,356)
----------- ----------- -----------
Cash flows from financing activities:
Proceeds from equipment lease -- 68,303 --
(Increase) decrease to restricted cash -- (100,000) 54,543
Proceeds from issuance of notes payable 3,000,000 -- --
Proceeds from sale of stock 26,300 -- 693,594
Net proceeds from initial and secondary public offerings 5,390,641 2,750,481 --
Proceeds from secured loan -- -- 185,300
Payments toward secured loan -- -- (185,300)
Repayment of note payable (867,244) (749,466) --
Principal repayments on capital leases (6,833) (12,664) (46,968)
Dividends paid (25,523) -- --
----------- ----------- -----------
Net cash from financing activities 7,517,341 1,956,654 701,169
----------- ----------- -----------
Net increase (decrease) in cash and cash equivalents 5,512,486 (3,995,494) (1,195,460)
Cash and cash equivalents at beginning of period 90,007 5,602,493 1,606,999
----------- ----------- -----------
Cash and cash equivalents at end of period $ 5,602,493 $ 1,606,999 $ 411,539
=========== =========== ===========
Supplemental cash flow disclosure:
Taxes paid $ 6,300 $ 12,300 $ 4,565
Interest paid $ 139,092 $ 80,860 $ 3,561
Noncash investing and financing activities:
Purchase of intangible assets, cancellation of an option and
repayment of accrued liability by issuance of note payable $ 751,710 $ -- $ --
Issuance of redeemable shares in connection with note payable 137,536 -- --
Conversion of notes payable and accrued interest to Common stock 1,104,967 -- 1,186,966
Purchase of license through issuance of Common stock -- 100,000 --
The accompanying notes are an integral part of these financial statements.
F-6
AdStar, Inc.
Notes To Financial Statements
1. Organization and Business
AdStar, Inc. (the "Company" or "AdStar") (formerly AdStar.com, Inc. and
AdStar-Services, Inc.) was incorporated in the State of New York on June
29, 1991 as an S-Corporation under the Internal Revenue Code. On August
31, 1999, the Company reincorporated in Delaware by merging the New York
predecessor corporation into the Delaware corporation and issuing to each
stockholder of the New York corporation, 25,303 common shares of the
Delaware corporation with a par value of $0.0001 per share for each issued
and outstanding share, no par value, of the New York corporation. On
December 13, 1999, the Company authorized and implemented a five-for-nine
reverse stock split. The share information in the accompanying financial
statements has been retroactively restated to reflect the effect of the
stock split. Effective July 1, 1999, the Company converted from an
S-Corporation to a C-Corporation. Had the accompanying statements of
operations reflected a pro forma tax provision for all periods presented,
based upon pre-tax income (loss), as if the Company had been subject to
C-Corporation federal and state income taxes, the net income or loss would
not have been materially different from that shown.
The Company's core business has been licensing proprietary software
systems and supplying the related support and maintenance. This
Professional software system allows large commercial advertising agencies
and corporations to directly enter classified advertisements into the
publishing systems at the Company's customers, through modems on a dial-up
basis. The Company's customers are principally located in the United
States. In June 1999, the Company commenced offering a one-stop
marketplace on the World Wide Web for advertisers to buy classified ads.
This service enables advertisers to plan, schedule, compose and purchase
classified advertising from many print and on-line publishers, using one
interface.
In 2001, the Company formally introduced its new AdStar e-business
application suite. This is an enterprise class, integrated software
solution that allows print and on-line publications to electronically
receive completed classified advertising copy using the Internet as the
communication channel. These software solutions enable customers to expand
the relationships with their customers using a single integrated platform,
while increasing sales volumes at reduced costs. This suite includes an
updated version of the Company's core Professional software product that
utilizes the Internet as the communication channel. In addition, the
Company has added an application service provider ("ASP") product that
provides their customers an opportunity to generate incremental revenue
from classified ad sale transactions completed on-line, while increasing
the number of visitors to the customer's Web site.
2. Basis of Presentation and Summary of Significant Accounting Policies
Basis of Presentation and Management's Plan
The accompanying financial statements have been prepared assuming the
Company will have liquidity to maintain its present level of operations.
The Company has incurred net losses of $2,865,000 in 1999, $4,629,000 in
2000, and $1,884,000 in 2001, and has used cash in operations of
$1,564,000 in 1999, $4,595,000 in 2000 and $1,181,000 in 2001. Although
the Company had cash and cash equivalents of $412,000 and an accumulated
deficit of $8,960,000 as of December 31, 2001, during the first quarter of
2002, it raised $2,000,000 in equity
F-7
financing arrangements, which the Company estimates will allow it to
maintain its present level of operations (see Note 9).
Based on the Company's current operating plans, management believes
existing cash resources, including the proceeds from the sale of the
preferred stock, and cash forecasted by management to be generated by
operations will be sufficient to meet working capital and capital
requirements through December 31, 2002. Also, management's plans to attain
profitability and generate additional cash flows include expansion of
services under existing and new contracts, while containing any increase
to operating expenditures necessary to accommodate this expansion. There
is no assurance that management will be successful with these plans.
However, if events and circumstances occur such that the Company does not
meet its current operating plan as expected, and the Company is unable to
raise additional financing, the Company may be required to further reduce
certain discretionary spending, which could have a material adverse effect
on the Company's ability to achieve its intended business objectives.
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
disclosure of contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those
estimates.
Cash and Cash Equivalents
The Company considers all highly liquid investments purchased with an
initial maturity of three months or less to be cash equivalents. Cash and
cash equivalents are carried at cost, which approximates fair value. At
times, cash balances held at financial institutions are in excess of FDIC
insurance limits.
Restricted Cash
Restricted cash is comprised of an interest bearing certificate of deposit
held by a financial institution as security against credit card
transactions used to purchase classified ads at non-partner publications
on behalf of our customers.
Concentration of Credit Risk and Major Customers
Financial instruments that potentially subject the Company to significant
concentrations of credit risk are principally comprised of trade accounts
receivable.
For the year ended December 31, 1999, two different customers accounted
for 6% and 9% of the Company's net revenues. As of December 31, 1999, four
customers, in the aggregate, accounted for 51% of the Company's accounts
receivable.
For the year ended December 31, 2000, two different customers accounted
for 10% and 11% of the Company's net revenues. As of December 31, 2000,
six customers, in the aggregate, accounted for 59% of the Company's
accounts receivable.
For the year ended December 31, 2001, three different customers accounted
for 9%, 6% and 6%
F-8
respectively of the Company's net revenues. As of December 31, 2001, six
customers, in the aggregate, accounted for 71% of the Company's accounts
receivable.
The majority of the Company's customers have historically consisted of
newspapers and publishers of classified advertisements. The Company's
customers on its Web site are the general public.
In October 2000, CareerBuilder.com ("CareerBuilder") acquired
CareerPath.com ("CareerPath"), then the Company's largest single source of
revenue generated from Internet advertiser traffic. The Company had
entered into an agreement with CareerPath in 1999, and for the years ended
1999 and 2000, 1% and 11%, respectively, of the Company's net revenues
were generated from ads posted by advertisers on CareerPath. In December
2000, CareerBuilder entered into an 18 month consulting arrangement with
the Company that replaced the transaction revenues on the Company's Web
site.
Property and Equipment
Property and equipment are stated at cost less accumulated depreciation
and amortization. When such items are retired or otherwise disposed of,
the cost and related accumulated depreciation and amortization are
relieved from the accounts and the resulting gain or loss is reflected in
operations. Depreciation and amortization are provided using the
straight-line method over the estimated useful lives of the assets. The
depreciation and amortization periods by asset category are as follows:
Furniture and fixtures 7 years
Computer equipment 5 years
Computer Software 3 to 5 years
Leasehold improvements Shorter of useful life or lease term
Maintenance and minor replacements are charged to expense as incurred
while renewals and improvements are capitalized. Leasehold improvements
are amortized over their estimated useful lives or the lives of the
related leases, whichever is shorter.
Web site Software Development Costs
In March 2000, the Financial Accounting Standards Board's Emerging Issue
Task Force ("EITF") issued EITF No. 00-2 "Accounting for Web Site
Development Costs", which provides guidance with respect to capitalization
of certain costs incurred in connection with Web development activities
and references Statement of Financial Accounting Standards ("SFAS") No. 86
"Accounting for the Cost of Computer Software to be Sold, Leased or
Otherwise Marketed". In accordance with these pronouncements, costs to
establish the technological feasibility of software applications developed
by the Company are charged to expense as incurred. Certain costs incurred
subsequent to achieving technological feasibility are capitalized.
Accordingly, the Company capitalizes a portion of the internal labor costs
and external consulting costs associated with essential Web site
development and enhancement activities. Costs associated with conceptual
design and feasibility assessments as well as maintenance and routine
changes are expensed as incurred. Capitalized costs are amortized on a
straight-line basis over the estimated useful lives of the applications.
In accordance with this policy, the Company has capitalized expenditures
incurred to develop the new AdStar e-business application suite. At
December 31, 2000 and 2001, the Company has capitalized software
development costs of $1,049,000 and
F-9
$1,709,000, respectively, with associated accumulated amortization of
$81,000 and $272,000, respectively.
Intangible Assets
Intangible assets comprise trademarks, license agreements and proprietary
technology and are carried at cost less accumulated amortization.
Amortization is calculated on a straight-line basis over the estimated
useful lives of the intangible assets of 5 years.
Long-Lived Assets
The carrying value of long-lived assets is periodically reviewed by
management and impairment losses, if any are recognized when the expected
non-discounted future operating cash flows derived from such assets are
less than their carrying value.
Fair Value of Financial Instruments
Cash and cash equivalents, accounts receivable, accounts payable, deferred
revenue, notes payable and accrued expenses are carried at cost which
approximates their fair value because of the short-term maturity of these
instruments.
Revenue Recognition
The Company derives revenue from several products and services as follows:
Technology services revenue - The Company receive revenue from technology
service contracts that generally contain multiple elements such as
software customization services, monthly fees and post-contract customer
support (PCS). Revenue from these arrangements is recognized in accordance
with Statement of Position ("SOP") 97-2, "Software Revenue Recognition",
and SOP 98-9, "Software Revenue Recognition with Respect to Certain
Transactions". Accordingly, revenue is allocated to each element within
the contract based on the relative fair values of those elements using
vendor specific objective evidence. Revenue from monthly fees and PCS
under software maintenance arrangements is based upon renewal rates and is
recognized ratably over the term of the arrangement. Revenue from software
customization services is recognized as the services are performed, using
a percentage of completion methodology based on labor hours. The Company
also provides customization services at the customers' request and
recognizes revenue as the services are performed, using a percentage of
completion methodology based on labor hours.
Areas requiring management's judgment includes revenue recognition and
cost estimation on the fixed fee software customization element of the
contracts. Revenue is recognized on these contracts using a
percentage-of-completion methodology, based upon labor input measures and
an estimate of time to completion. Monthly, technical management reviews
the estimate of labor hours required to complete the customization and the
effect of any change in estimate is reflected in the period in which the
change is first known. Such changes in estimates have not been material to
our quarterly results of operation. The corresponding cost of revenue
charge is derived based upon the same labor input measurements and our
existing cost structure. If the Company does not accurately estimate the
resources required under the contract or the scope of the work to be
performed, or if the Company does not manage its projects properly within
the prescribed timeframe, future margins may be significantly and
adversely affected. If increases in
F-10
projected costs-to-complete are sufficient to create a loss contract, the
entire estimated loss is charged to operations in the period the loss
first becomes known. The complexity of the estimation process and
uncertainties inherent in software customization activities may affect the
percentages derived under the percentage-of-completion accounting method,
which in turn may affect the amounts reported in the financial statements.
ASP revenue - The Company receives revenue from providing an application
service provider ("ASP") product that allows customers to use the
Company's software applications on a "shared system" over the Internet.
This technology is a publisher-specific ad-taking Web site service that
offers visitors to a newspaper's Web page the opportunity to buy
classified ads, for both the print and/or on-line editions of the
newspaper, in real-time, on a 24/7 basis. The Company receives monthly
fees for hosting the transactions and providing customer support, and
recognizes the fees ratably over the contract period.
Web site revenue - The Company receives revenue from fees charged to
customers who transact business on the Advertise123.com Web site. This
site permits the general public to plan, schedule, compose and purchase
advertising from many print and on-line publishers. Under the guidance
provided by the Securities Exchange Commission Staff Accounting Bulletin
("SAB") No. 101, "Revenue Recognition" and the Emerging Issues Task Force
("EITF") Abstract No. 99-19 "Reporting Revenue Gross as a Principal versus
Net as an Agent" ("EITF 99-19"), the Company is, in substance, acting as
an agent for the publishers and therefore recognizes as revenue only the
net fees realized on the transactions. The Company recognizes revenues on
a per-transaction basis when the ad is placed through their system and
collection from the customer is probable.
Income Taxes
The Company utilizes the liability method of accounting for income taxes.
Under this method, deferred tax liabilities and assets are determined
based on the difference between the financial statement and tax bases of
assets and liabilities using enacted tax rates in effect for the period in
which the differences are expected to reverse. Valuation allowances are
established, when necessary, to reduce the deferred tax assets to the
amounts expected to be realized.
Advertising Costs
The Company expenses the costs of advertising in the periods in which
those costs are incurred. Advertising expense was approximately $73,000,
$310,000 and $76,000 for the years ended December 31, 1999, 2000 and 2001,
respectively.
Earnings (Loss) Per Share
Basic earnings (loss) per share is computed by dividing the net income
(loss) by the weighted average number of shares of common stock
outstanding during the period. Diluted earnings (loss) per share is
computed by dividing the net income (loss) by the weighted average number
of common shares outstanding plus the number of additional common shares
that would have been outstanding if all dilutive potential common shares
had been issued, using the treasury stock method. Potential common shares
are excluded from the computation when their effect is antidilutive.
For the years ended December 31, 1999, 2000 and 2001, diluted earnings
(loss) per share does
F-11
not include 1,727,769, 2,053,505 and 2,643,461, respectively, of options
and warrants to purchase common stock, as their inclusion is antidilutive.
Comprehensive Income
The Company discloses comprehensive income in accordance with the
provisions of Statement of Financial Accounting Standards ("SFAS") No.
130, "Reporting Comprehensive Income". This statement establishes
standards for reporting and disclosing comprehensive income and its
components in a full set of general purpose financial statements.
Comprehensive income generally represents all changes in stockholders'
equity (deficit) during the period except those resulting from investments
by, or distributions to, stockholders. The Company has no other
comprehensive income items and, accordingly, net income (loss) equals
comprehensive income (loss) for all periods presented.
Segment Reporting
The Company determines and discloses its segments in accordance with SFAS
No. 131, "Disclosures about Segments of an Enterprise and Related
Information," which uses a "management" approach for determining segments.
The management approach designates the internal organization that is used
by management for making operating decisions and assessing performance as
the source of a company's reportable segments. SFAS No. 131 also requires
disclosures about products or services, geographic areas and major
customers. The Company's management reporting structure provides for only
one reportable segment and accordingly, no separate segment information is
presented.
Accounting for Stock-Based Compensation
The Company accounts for stock-based employee compensation arrangements in
accordance with the provisions of Accounting Principles Board ("APB")
Opinion No. 25, "Accounting for Stock Issued to Employees," and has
elected the disclosure-only provisions of SFAS No. 123, "Accounting for
Stock-Based Compensation." Under APB No. 25, compensation expense is based
on the difference, if any, on the date of grant, between the fair value of
the Company's stock for financial reporting purposes and the exercise
price of the option. The Company accounts for equity instruments issued to
non-employees in accordance with the provisions of SFAS No. 123 and
Emerging Issues Task Force ("EITF") 96-18.
Reclassifications
Certain reclassifications have been made to prior year balances in order
to conform to the current year presentation.
3. Property and Equipment
Property and equipment consisted of the following at December 31:
2000 2001
---------- ----------
Computer equipment and software development $1,798,788 $2,469,404
Furniture and fixtures 108,574 56,106
Leasehold improvements 27,848 30,187
---------- ----------
1,935,210 2,555,697
Less: Accumulated depreciation and amortization (319,047) (637,919)
---------- ----------
Net property and equipment $1,616,163 $1,917,778
========== ==========
F-12
Computer equipment and Furniture and Fixtures include equipment held under
capital leases of $18,000 and $3,000, respectively. Furniture held under a
capital lease with an original value of $47,000 was sold in March 2001,
with proceeds paid toward the lease principal. Accumulated depreciation
and amortization includes amortization of computer equipment and furniture
and fixtures held under capital leases of approximately $10,000, $7,400,
and $4,200 for the years ended December 31, 1999, 2000 and 2001,
respectively. Depreciation and amortization expense for the years ended
December 31, 1999, 2000 and 2001 was approximately $59,000, $153,000 and
$327,000, respectively.
4. Intangible Assets
Intangible assets are comprised of the following at December 31:
2000 2001
--------- ---------
Cost $ 196,032 $ 197,858
Less: Accumulated amortization (71,649) (111,023)
--------- ---------
$ 124,383 $ 86,835
========= =========
In March 1999, the Company repurchased the technology, related
intellectual property and software rights related to the AdStar technology
for $752,000. The Company formerly licensed these assets from the seller.
As part of the transaction, the seller also sold its option to purchase
15% of the Company's common stock back to the Company. The net purchase
price of approximately $643,000 has been allocated to the technology,
related intellectual property and software rights and the option based on
their relative fair values. The amount ascribed to the option of
approximately $447,000 has been recorded as an increase to stockholders'
deficit. The amount ascribed to the technology, related intellectual
property and software rights of approximately $196,000 is being amortized
over the estimated useful economic life of 5 years.
5. Notes Payable and Bank Debt
On October 21, 1999, the parent company of Paulson Investment Company, the
underwriter in the Company's initial public offering, Paulson Capital
Corporation, lent the Company $1,100,000 evidenced by a promissory note
due on October 21, 2001 bearing interest at 6% per annum payable at
maturity. On February 16, 2001, the note and related accrued interest was
converted to 593,483 shares of common stock.
In September 1999, a proposed public offering of the Company's securities
was declared effective but did not close. On October 21, 1999, in full
settlement of the Company's claims, if any, against Paulson Investment
Company, the representative of the underwriters in that offering, the
Company received $500,000 for the reimbursement of expenses incurred in
connection with the offering. During the year ended December 31, 1999, the
Company incurred approximately $672,000 of expenses related to the
abandoned offering. The actual expenses incurred have been
F-13
recorded net of the reimbursement in the statement of operations for the
year ended December 31, 1999.
On October 23, 2001, the Company entered into a loan and security
agreement with a financial institution to establish a line of credit. The
maximum revolving credit line is $500,000 and is secured by the Company's
accounts receivable. The Company was able to borrow up to 80% of the
eligible accounts receivable as defined in the terms of the agreement.
Interest was payable on the balance at a rate of 3 percentage points above
the Prime Rate. As of December 31, 2001, there were no amounts outstanding
under the line of credit, and this line of credit agreement was terminated
effective February 27, 2002.
6. Income Taxes
Prior to June 30, 1999, the Company was taxed as an S-Corporation.
Deferred taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial
reporting purposes and the amounts used for income tax purposes.
Significant components for the Company's deferred taxes at December 31,
consisted of the following:
2000 2001
---- ----
Deferred tax assets:
Net operating loss carryforwards $ 2,385,000 $ 3,160,000
Depreciation and amortization 19,000 --
Deferred revenue 34,000 58,000
Other 87,000 35,000
Less: Valuation allowance (2,525,000) (3,148,000)
----------- -----------
Net deferred tax asset $ -- $ 105,000
Deferred tax liability
Depreciation and amortization -- (105,000)
----------- -----------
Net deferred tax $ -- $ --
=========== ===========
In assessing the realizability of deferred tax assets, management
considers whether it is more likely than not that some portion or all of
the deferred tax assets will be realized. Based upon the level of
historical losses and projections of future taxable income over the
periods in which the deferred tax assets are deductible, a full valuation
allowance has been provided as management believes that it is more likely
than not, based upon available evidence, that the deferred tax assets will
not be realized.
As of December 31, 2000 and 2001, the Company has federal net operating
loss carryforwards of approximately $6,212,000 and $8,225,000,
respectively. As of December 31, 2000 and 2001, the Company has state net
operating loss carryforwards of approximately $3,106,000 and $4,109,000,
respectively. The federal and state net operating loss carryforwards will
begin to expire in 2019 and 2004, respectively. The Company's ability to
utilize net operating loss carryforwards may be limited in the event that
a change in ownership, as defined in the Internal Revenue Code, occurs in
the future.
F-14
The provision for income taxes for the years ended December 31, 2000 and
2001 differs from the amount that would result from applying the federal
statutory rate as follows:
2000 2001
---- ----
Statutory regular federal income tax rate (34.0%) (34.0%)
Change in valuation allowance 34.6% 33.1%
State taxes, net of federal benefit (3.3%) (3.0%)
Other 2.6% 4.2%
---- ----
(0.1%) (0.3%)
==== ====
7. Capitalization
Preferred Stock
Under the Company's certificate of incorporation, the Board of Directors
is authorized, subject to certain limitations, to issue up to an aggregate
of 5,000,000 shares of preferred stock. The preferred stock may be issued
in one or more series, with each series having different rights,
preferences and designations relating to dividends, conversion, voting,
redemption and other features. No shares of preferred stock had been
issued at December 31, 2000 and 2001.
Common Stock
In June 2001, the shareholders approved an increase to the number of
authorized shares of the Company's common stock from 10,000,000 to
20,000,000.
In December 1999, the Company established a vendor compensation plan
whereby it may compensate vendors who are accredited investors, as defined
under Rule 215 of the Securities Act of 1933, in shares of its common
stock in lieu of cash. Under the plan, 400,000 shares are available for
issuance. During 2000 and 2001, 97,000 and 119,000 shares, respectively,
were issued to vendors under the plan relying upon the exemptions under
Sections 4(2) and 4(6) of the Securities Act of 1933 and which represented
compensation of $192,000 and $90,000, respectively. In addition, warrants
to purchase 50,000 shares at $1.50 per share and 50,000 shares at $2.00
per share were issued to a vendor. The Black-Scholes value of these
warrants was $25,000. The vendors have taken the shares for investment.
The Company completed its initial public offering in December 1999 and
raised net proceeds of $5,391,000, through the issuance of 1,150,000
units, consisting of one share and one warrant to purchase one share of
the Company's common stock. The units traded for 30 days, after which the
shares and warrants traded separately. In September 2000, the Company
completed a secondary public offering and raised net proceeds of
approximately $2,750,000, through the issuance of 2,300,000 shares of
common stock.
In February 2001 the Company issued 593,483 common shares to satisfy a
note, dated October 21, 1999, in full payment of principal and accrued
interest totaling $1,186,966. In April 2001, the Company completed a
private offering and raised net proceeds of approximately $328,000 through
the issuance of 400,000 units comprising two shares of the Company's
authorized but unregistered common stock and one warrant to purchase an
additional share of common stock at a per share price of $1.07. In October
2001, the Company initiated a private placement offering
F-15
of up to 1,300,000 shares of the Company's authorized but unregistered
common stock at $0.50 per share. Through December 31, 2001, the Company
had raised gross proceeds of $500,000, of the planned $650,000, with the
remaining investment raised in January 2002.
Stock Options
In 1999, the Board of Directors adopted the 1999 Stock Option Plan (the
"Plan") in order to attract and retain officers, other key employees,
consultants and non-employee directors of the Company. An aggregate of
500,000 shares of common stock has been authorized for issuance under the
Plan.
The Plan provides for issuance of nonqualified and incentive stock options
to officers, key employees, consultants and non-employee directors to the
Company. Each nonqualified stock option shall have an exercise price not
less than 100% of the fair value of the common stock on the date of grant,
unless as otherwise determined by the committee that administers the Plan.
Incentive stock options shall have an exercise price equal to or greater
than the fair value of the common stock on the date of grant provided that
incentive stock options granted to a 10% holder of the Company's voting
stock shall have an exercise price equal to or greater than 110% of the
fair market value of the common stock on the date of grant. Each option
generally has a term of five to ten years from the date of grant unless
otherwise determined by the committee that administers the Plan. All
options granted in 1999, 2000 and 2001 have a five-year term.
Upon the occurrence of a change in control, as defined in the Plan, each
option granted under the Plan shall thereupon become fully vested and
exercisable.
The following table summarizes activity under the Plan for the years ended
December 31, 1999, 2000 and 2001:
Weighted
Average
Exercise
Shares Price
------ --------
Outstanding at December 31, 1998 -- --
Granted 327,768 $ 5.73
-------
Outstanding at December 31, 1999 327,768 $ 5.73
Granted 83,044 $ 3.56
Exercised -- --
Forfeited (30,642) $ 6.28
-------
Outstanding at December 31, 2000 380,170 $ 5.21
Granted 388,026 $ 0.94
Exercised -- --
Forfeited (299,737) $ 5.35
Outstanding at December 31, 2001 468,459 $ 1.58
=======
Options exercisable at December 31, 2001 287,586 $ 1.60
Options available for future grant 31,541
Weighted average fair value of options granted in 2001 $ 0.87
Weighted average fair value of options granted in 2000 $ 2.01
F-16
The following table summarizes information about stock options outstanding at
December 31, 2001:
Options Outstanding at Options Exercisable at
December 31, 2001 December 31, 2001
----------------- -----------------
Weighted
Average Weighted Weighted
Number of Remaining Average Number of Average
Range of Shares Contractual Exercise Shares Exercise
Exercise Price Outstanding Life (years) Price Exercisable Price
-------------- ----------- ------------ ----- ----------- -----
$0.00 - $0.99 276,288 4.41 $0.82 234,523 $0.82
$1.00 - $2.99 141,500 3.99 $1.36 13,835 $1.53
$3.00 - $5.99 12,075 2.59 $5.07 10,075 $4.91
$6.00 - $7.20 38,596 2.76 $6.73 29,153 $6.75
------- -------
468,459 287,586
======= =======
In January 2002, options to purchase 450,000 shares of common stock,
vesting 1/2 immediately and 1/2 vesting in January 2003, were granted
outside the Plan to four employees. In March 2002, options to purchase
5,000 shares of common stock included in the Plan were granted to one
employee. In January 2002, options to purchase 20,931 shares of common
stock were forfeited due to employment terminations.
Fair Value Disclosures
Prior to the Company's initial public offering, the fair value of each
option grant was determined on the date of grant using the minimum value
method. Subsequent to the Company's initial public offering, the fair
value of each option grant was determined using the Black-Scholes
option-pricing model. The Company calculated the fair value of each option
granted on the date of grant using the minimum value method or
Black-Scholes model as prescribed by SFAS No. 123 using the following
assumptions:
Year Ended December 31,
2000 2001
------ ------
Risk-free interest rate 5.87% 1.75%
Expected lives (years) 3.5 3.5
Dividend yield 0.0% 0.0%
Expected volatility 75.0% 190.0%
F-17
The Company has adopted the disclosure only provisions of SFAS No. 123. If
compensation cost associated with the Company's stock-based compensation
plan had been determined using the fair value prescribed by SFAS No. 123,
the Company's net loss for 2000 and 2001 would have increased to the pro
forma amounts indicated below:
Year Ended December 31,
1999 2000 2001
------------- ------------- -------------
Net loss - as reported $ (2,864,722) $ (4,628,809) $ (1,999,507)
pro forma $ (2,942,893) (4,751,684) (2,056,804)
Loss per share - as reported $ (1.90) $ (1.34) $ (0.30)
pro forma $ (1.95) $ (1.38) $ (0.31)
Because additional stock options are expected to be granted each year, the
above pro forma disclosures are not representative of pro forma effects on
reported financial results for future years.
Warrants
The following table summarizes the outstanding warrants to purchase common
stock at December 31, 2001:
Number Exercise Price Expiration Date
-------- -------------- ---------------
50,001 $6.00 June 2002 - December 2002
50,000 $1.50 October 2004
50,000 $2.00 October 2004
1,150,000 $9.00 December 2004
200,000 $7.20 December 2004
25,000 $10.00 March 2005
33,334 $1.66 September 2005
200,000 $1.80 September 2005
16,667 $0.87 March 2006
400,000 $1.07 April 2006
Shareholder receivable
The Company has a loan outstanding to the President and Chief Executive
Officer in the amount of $49,006, and $43,120 at December 31, 2000 and
2001, respectively. The loan bears interest at the prime rate and is
secured by shares of the Company's common stock.
8. Commitments and Contingencies
Operating and Capital Lease Commitments
The Company has certain noncancelable operating lease obligations for
office space and equipment, and capital lease obligations for computer
equipment and office furniture. The operating leases are for office space
located in New York, California, and New Jersey and expire through
November 2005. The leases contain certain escalation clauses based on
certain charges that the landlords of the properties may incur over the
base year, as defined in the lease agreements.
F-18
In June 2001, the Company assigned the lease for its New Jersey office to
a third party, whereby that party would be primarily responsible and the
Company would be secondarily liable for lease payments through the end of
the lease agreement.
Future minimum lease payments under the noncancelable operating and
capital leases as of December 31, 2001 are as follows:
Years Ending Operating Capital
December 31, Leases Leases
------------ --------- -------
2002 $176,850 $ 6,543
2003 253,088 6,543
2004 250,696 2,726
2005 73,828 --
-------- -------
Total minimum obligations $754,462 15,812
========
Less: Amounts representing interest (2,177)
-------
Present value of minimum obligations 13,635
Less: Current portion (5,162)
-------
Non-current portion $ 8,473
=======
Rent expense for the years ended December 31, 1999, 2000 and 2001 was
approximately $78,100, $223,700 and $181,100, respectively, including
month-to-month rentals. Through June 1999, the Company subleased a portion
of its office space to a third party on a month-to-month basis. Beginning
in March 2001, the Company entered in an agreement to sub-lease a portion
of its office space to a third party for $10,750 per month for an 18-month
period. For the years ended December 31, 1999, 2000 and 2001, the Company
received approximately $7,600, $0 and $107,500, respectively, of sublease
income.
Employment Agreements
The Company entered into employment agreements with three officers of the
Company. Under each agreement, employment may be terminated by the Company
with cause or by the executive with good reason. Termination by the
Company without cause, or by the executive for good reason, would subject
the Company to liability for liquidated damages in an amount equal to the
terminated executive's base salary for the remaining term of his or her
employment agreement or 12 months, whichever is greater.
License Agreement
In April 1996, the Company entered into an exclusive license agreement
with a software company that developed the facsimile technology available
as a feature within the Company's historical software product. This
agreement provides that the Company pays royalties of up to 50% of net
revenues generated by the Company on license fees, implementation fees and
maintenance fees. This agreement is for an initial term of 20 years,
though it can be terminated by the Company upon six months' notice or by
the software company in certain circumstances. For the year ended December
31, 1999, 2000 and 2001, the Company paid royalties of
F-19
approximately $17,000, $57,000 and $31,000, respectively.
9. Subsequent Events
In January 2002, AdStar issued to Morse, Zelnick, Rose and Lander LLP,
AdStar's legal counsel, 114,545 shares of restricted common stock, at fair
market value in full settlement of a $62,500 liability included in the
year-end financial statements. In January 2002, the Company sold an
additional 300,000 shares of common stock at a price of $0.50 per share.
These shares were sold as part of a 1,300,000 share private placement made
pursuant to Sections 4(2) and 4(6) of the Act, of which 1,000,000 were
sold prior to December 31, 2001. In connection with this offering the
Company issued warrants to purchase 130,000 shares of its common stock, at
a per share price equal to 110% of the closing price of the stock on
January 17, 2002, as part of the placement agent fees. The warrants expire
on January 16, 2007.
On February 1, 2002, AdStar sold to an accredited investor 100,000 shares
of its common stock at a price per share equal to 85% of its per share
closing price on January 31, 2002 ($0.50). In connection with this sale
the Company issued warrants to purchase 10,000 shares of its common stock,
at a per share price equal to 110% of the closing price of the stock on
January 17, 2002, as part of the placement agent fees. The warrants expire
on January 31, 2007.
In March 2002, the Board of Directors approved the sale of 1,443,457
shares of Series A Preferred Stock to the Tribune Company for an aggregate
purchase price of $1.795 million. These shares carry a liquidation
preference that includes a dividend of 7% per year available only upon
liquidation and currently convert on a 1:1 basis. Shareholders of Series A
preferred stock are entitled to vote on all matters submitted to the
stockholders for vote, voting as a single class with the Common. The
holders of Series A preferred stock are entitled to one vote for each
share of common issuable upon conversion. Simultaneously with the sale of
Series A Preferred shares, the Company entered into a service agreement
with CareerBuilder, Inc. (an affiliate of Tribune). Under this agreement,
AdStar will customize its ASP software applications specifically to work
in conjunction with Tribune owned and operated newspapers and the
CareerBuilder.com Web site network, in exchange for future monthly hosting
revenue and processing fees. Management is currently assessing the impact
this transaction will have on the Company's financial statements.
F-20
AdStar, Inc.
Balance Sheet
September 30, 2002 (unaudited)
Assets
Current assets:
Cash and cash equivalents $ 385,032
Restricted cash 174,918
Accounts receivable, net of allowance of $42,547 222,052
Notes receivable from officers - current portion 7,081
Prepaid and other current assets 152,187
------------
Total current assets 941,270
Notes receivable from officers, net of current portion 241,777
Property and equipment, net 2,126,202
Deferred contract costs, net 439,648
Intangible assets, net 57,243
Other assets 31,196
------------
Total assets $ 3,837,336
============
Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable $ 810,654
Accrued expenses 254,573
Deferred revenue 161,481
Capital lease obligations - current portion 28,904
------------
Total current liabilities 1,255,612
Capital lease obligations, net of current portion 56,103
------------
Total liabilities 1,311,715
Commitments and contingencies
Stockholders' equity:
Preferred stock, par value $0.0001; authorized 5,000,000 shares; 1,443,457
shares issued and outstanding; liquidation preference of $1,894,000 144
Common stock, par value $0.0001; authorized 20,000,000 shares;
8,187,074 shares issued and outstanding 826
Additional paid-in capital 12,741,232
Treasury stock, par value $0.0001; 67,796 shares (7)
Accumulated deficit (10,216,574)
------------
Total stockholders' equity 2,525,621
------------
Total liabilities and stockholders' equity $ 3,837,336
============
The accompanying notes are an integral part of these
interim financial statements.
F-21
AdStar, Inc.
Statements of Operations
For the three month and nine month periods
ended September 30, 2001 and 2002 (unaudited)
Three months ended Nine months ended
September 30, September 30,
-------------------------- --------------------------
2001 2002 2001 2002
----------- ----------- ----------- -----------
Revenues $ 640,462 $ 654,769 $ 1,612,257 $ 1,696,614
Cost of revenues 205,113 290,034 576,761 776,156
----------- ----------- ----------- -----------
Gross profit 435,349 364,735 1,035,496 920,458
Selling expenses 174,056 130,540 511,984 435,031
Administrative expenses 411,991 465,314 1,433,661 1,395,793
Development expenses 98,175 110,192 392,025 416,627
----------- ----------- ----------- -----------
Loss from operations (248,873) (341,311) (1,302,174) (1,326,993)
Other income -- -- -- 62,796
Interest income, net 7,173 2,762 26,138 13,248
----------- ----------- ----------- -----------
Loss before taxes (241,700) (338,549) (1,276,036) (1,250,949)
Provision for income taxes 1,489 1,566 3,539 5,195
----------- ----------- ----------- -----------
Net loss $ (243,189) $ (340,115) $(1,279,575) $(1,256,144)
=========== =========== =========== ===========
Loss per share - basic and diluted $ (0.04) $ (0.04) $ (0.20) $ (0.15)
Weighted average number of shares -
basic and diluted 6,654,985 8,186,778 6,254,378 8,176,097
The accompanying notes are an integral part of these
interim financial statements.
F-22
AdStar, Inc.
Statements of Cash Flows
For the nine month periods
Ended September 30, 2001 and 2002 (unaudited)
2001 2002
----------- -----------
Cash flows from operating activities:
Net loss $(1,279,575) $(1,256,144)
Adjustments to reconcile net loss to net cash used in
operating activities
Depreciation and amortization 237,238 434,283
Stock returned from settlement -- (67,789)
Stock based charges 66,909 28,552
Allowance for doubtful accounts -- 27,547
Loss on disposal of fixed assets 20,814 --
Changes in assets and liabilities:
Accounts receivable (142,083) (39,229)
Prepaid and other assets 93,483 15,869
Deferred contract costs -- (454,648)
Accounts payable 65,264 456,388
Accrued expenses (227,073) (192,055)
Deferred revenue 147,164 8,268
----------- -----------
Net cash used in operating activities (1,017,859) (1,038,958)
----------- -----------
Cash flows from investing activities:
Purchase of property and equipment (653,935) (598,114)
Proceeds from disposal of fixed assets 26,661 --
Notes from officers -- (210,434)
Repayment of officers receivable 6,750 4,696
----------- -----------
Net cash used in investing activities (620,524) (803,852)
----------- -----------
Cash flows from financing activities:
Restricted cash 89,480 (129,461)
Proceeds from leasing of property and equipment -- 79,751
Net proceeds from sale of common stock 365,214 151,552
Net proceeds from sale of preferred stock -- 1,722,840
Principal repayments on capital leases (45,773) (8,379)
----------- -----------
Net cash provided by financing activities 408,921 1,816,303
----------- -----------
Net decrease in cash and cash equivalents (1,229,462) (26,507)
Cash and cash equivalents at beginning of period 1,606,999 411,539
----------- -----------
Cash and cash equivalents at end of period $ 377,537 $ 385,032
=========== ===========
Supplemental cash flow disclosure:
Taxes paid $ 4,565 $ 9,682
Interest paid $ 2,645 $ 4,825
Non cash investing and financing activities
Conversion of note payable and accrued interest to
common stock $ 1,186,966 $ --
Conversion of accounts payable to common stock $ -- $ 62,469
The accompanying notes are an integral part of these
interim financial statements.
F-23
AdStar, Inc.
Notes To Interim Financial Statements
(Unaudited)
1. General
The interim financial statements for AdStar, Inc. (the "Company") have
been prepared in accordance with generally accepted accounting principles
for interim financial information and with instructions to Form 10-QSB and
Item 10 of Regulation S-B. Accordingly they do not include all of the
information and footnotes required by generally accepted accounting
principles for complete financial statements. In the opinion of
management, all adjustments (consisting of normal recurring accruals)
considered necessary for a fair presentation have been included. Operating
results for the three-month period ended September 30, 2002 are not
necessarily indicative of the results that may be expected for the year
ending December 31, 2002. These financial statements should be read in
conjunction with the financial statements and notes thereto included in
the Company's Annual Report on Form 10-KSB/A for the year ended December
31, 2001.
For the nine-month period ended September 30, 2002, the Company had
incurred a cash outflow from operations of approximately $1,039,000 and as
of September 30, 2002, the Company had negative working capital of
$(314,342). Based on the Company's current operating plans, management
believes existing cash resources, cash forecasted by management to be
generated by future operations and anticipated gross proceeds of
$1,500,000 from the contemplated sale of preferred stock during the fourth
quarter 2002 and first quarter 2003 (see Note 9 of the notes to interim
financial statements), will be sufficient to meet working capital and
capital requirements through September 30, 2003 (see Note 9 of the notes
to interim financial statements). Also, management's plans to attain
profitability and generate additional cash flows include expansion of
services under existing and new contracts, while containing any increase
to operating expenditures necessary to accommodate this expansion. In
addition, management will contemplate a reduction in staffing levels after
completion of existing and contemplated development contracts entered into
or expected to be entered into in association with the contemplated sale
of preferred stock, expected to be substantially completed by May 2003.
There is no assurance that management will be successful with these plans,
including the completion of the sale of the preferred stock. However, if
events and circumstances occur such that the Company does not meet its
current operating plan as expected, and the Company is unable to raise
additional financing, the Company may be required to further reduce
certain discretionary spending, which could have a material adverse effect
on the Company's ability to achieve its intended business objectives.
2. Summary of Significant Accounting Policies
Concentration of Credit Risk and Major Customers
Financial instruments that potentially subject the Company to significant
concentrations of credit risk consist principally of trade accounts
receivable. Also, at times, cash balances held in financial institutions
are in excess of FDIC insurance limits.
F-24
For the three months ended September 30, 2002 and 2001, no customer
accounted for 10% of the Company's revenues. At September 30, 2002, eight
customers in the aggregate accounted for 73% of the Company's accounts
receivable. The majority of the Company's customers have historically
consisted of newspapers and publishers of classified advertisements.
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
disclosure of contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those
estimates.
Revenue Recognition
The Company derives revenue from several products and services as follows:
Technology services revenue - The Company receives revenue from technology
service contracts that generally contain multiple elements such as
software customization services, monthly fees and post-contract customer
support (PCS). Revenue from these arrangements is recognized in accordance
with Statement of Position ("SOP") 97-2, "Software Revenue Recognition",
and SOP 98-9, "Software Revenue Recognition with Respect to Certain
Transactions". Accordingly, revenue is allocated to each element within
the contract based on the relative fair values of those elements using
vendor specific objective evidence. Revenue from monthly fees and PCS
under software maintenance arrangements is based upon renewal rates and is
recognized ratably over the term of the arrangement. Revenue from software
customization services is recognized as the services are performed, using
a percentage of completion methodology based on labor hours. The Company
also provides customization services at the customers' request and
recognizes revenue as the services are performed, using a percentage of
completion methodology based on labor hours.
Areas requiring management's judgment include revenue recognition and cost
estimation on the fixed fee software customization element of the
contracts. Revenue is recognized on these contracts using a
percentage-of-completion methodology, based upon labor input measures and
an estimate of time to completion. Monthly, technical management reviews
the estimate of labor hours required to complete the customization and the
effect of any change in estimate is reflected in the period in which the
change is first known. Such changes in estimates have not been material to
our quarterly results of operations. The corresponding cost of revenue
charge is derived based upon the same labor input measurements and our
existing cost structure. If the Company does not accurately estimate the
resources required under the contract or the scope of the work to be
performed, or if the Company does not manage its projects properly within
the prescribed timeframe, future margins may be significantly and
adversely affected. If increases in projected costs-to-complete are
sufficient to create a loss contract, the entire estimated loss is charged
to operations in the period the loss first becomes known. The complexity
of the estimation process and uncertainties inherent in software
customization activities may affect the percentages derived under the
percentage-of-completion accounting method, which in turn
F-25
may affect the amounts reported in the financial statements.
ASP revenue - The Company receives revenue from providing an application
service provider ("ASP") product that allows customers to use the
Company's software applications on a "shared system" over the Internet.
This technology is a publisher-specific ad-taking Web site service that
offers visitors to a newspaper's Web page the opportunity to buy
classified ads, for both the print and/or on-line editions of the
newspaper, in real-time, on a 24/7 basis. The Company receives monthly
fees for hosting the transactions and providing customer support, and
recognizes the fees ratably over the contract period.
Web site revenue - The Company receives revenue from fees charged to
customers who transact business on the Advertise123.com Web site. This
site permits the general public to plan, schedule, compose and purchase
advertising from many print and on-line publishers. Under the guidance
provided by the Securities Exchange Commission Staff Accounting Bulletin
("SAB") No. 101, "Revenue Recognition" and the Emerging Issues Task Force
("EITF") Abstract No. 99-19 "Reporting Revenue Gross as a Principal versus
Net as an Agent" ("EITF 99-19"), the Company is, in substance, acting as
an agent for the publishers and therefore recognizes, as revenue, only the
net fees realized on the transactions. The Company recognizes revenues on
a per-transaction basis when the ad is placed through their system and
collection from the customer is probable.
Development Costs
Costs incurred in the development of products are expensed as incurred,
except for certain software development costs, which are capitalized.
Computation of Earnings Per Share
Basic earnings (loss) per share is computed by dividing the net income
(loss) by the weighted average number of shares of common stock
outstanding during the period. Diluted earnings (loss) per share is
computed by dividing the net income (loss) by the weighted average number
of common shares outstanding plus the number of additional common shares
that would have been outstanding if all dilutive potential common shares
had been issued. Potential common shares are excluded from the computation
when their effect is antidilutive. For the three months ended September
30, 2001 and 2002, diluted loss per share does not include 2,472,453 and
3,434,976, respectively, of options and warrants to purchase common stock
and 0 and 1,443,457, respectively, of shares issuable upon the conversion
of Series A preferred stock to common stock, as their inclusion would be
antidilutive.
3. Significant Contracts
On March 18, 2002, the Company entered into a series of agreements with
Tribune Company ("Tribune"). In accordance with these agreements, the
Company sold 1,443,457 shares of Series A convertible preferred stock to
Tribune Company for approximately $1.8 million. The Company has recorded
the $1.8 million investment in the Series A convertible preferred stock at
cost which approximated fair value. The rights and preferences of the
Series A preferred stock are described in Note 4 below. Additionally, the
Company agreed to develop and customize a version of its Web software
applications to Tribune specifications in exchange for earning
volume-based transaction fees in the future by providing Web-based
F-26
recruitment ad sales technology to all major market Tribune newspapers and
on-line services. This customization will provide a platform that allows
Tribune owned newspapers, together with CareerBuilder, L.L.C.
(www.careerbuilder.com), to receive recruitment advertising from agencies,
corporate customers, and the general public. On completion of the
development and customization effort, the Company will manage the related
transactions and receive a volume-based ASP fee with a guaranteed monthly
minimum. Costs incurred in the customization effort, are reflected as
deferred contract costs in the balance sheet.
Through September 30, 2002, $454,648 in development and customization
costs have been deferred. During August 2002 the Company launched the
FlexAds(R) service on two Tribune newspapers and commenced amortization of
the cost of the development and customization effort over the expected 5
year period of the agreement. Under the agreement the Company will receive
minimum monthly payments totaling $450,000. The Company commenced
recognition of revenue from the $7,500 minimum monthly fee under the
agreement on a straight-line basis during August 2002. To the extent that
transaction based fees exceed the monthly minimum payments, the Company
will record the excess in revenue when earned. The transactions did not
exceed the contracted minimums for the three months ended September 30,
2002.
4. Series A Convertible Preferred Stock
The Company has authorized 5,000,000 shares of preferred stock, par value
$0.0001 per share, of which 1,443,457 shares have been designated as
Series A convertible preferred stock ("Series A preferred stock"). The
remaining authorized shares have not been designated. At September 30,
2002, the Company has reserved 1,443,457 shares of common stock for
issuance upon the conversion of the Series A preferred stock. The Series A
preferred stock has the following characteristics:
Voting Rights - Each holder of the Series A preferred stock is entitled to
the number of votes equal to the number of shares of common stock into
which such holder's shares are convertible. The Company cannot amend its
certificate of incorporation amending the rights of the Series A preferred
stockholders, enter into any capital stock or equity agreements with
rights ranking the same or above the rights of the Series A preferred
stock or liquidate the Company without the approval of at least a majority
of the holders of the Series A preferred stock then outstanding.
Liquidation Preference - In the event of any liquidation, dissolution or
winding up of the affairs of the Company, the holders of the Series A
preferred stock will be entitled to receive in preference to the holders
of the common stock, an amount per share equal to $1.244 plus accrued and
unpaid dividends. After such payment, the Series A preferred stockholders
share equally with the common stockholders in any remaining assets or
funds of the Company.
Conversion - Each share of the Series A preferred stock is convertible at
anytime at the option of the holder into shares of common stock pursuant
to a ratio of one share of common stock for each share of Series A
preferred stock, subject to certain stock split and stock dividend
adjustments. In addition, the conversion ratio is subject to adjustment,
as defined in the agreement, in the event that the Company issues common
stock at a per share price less than $1.244 per share. All Series A
preferred stock will automatically convert to common stock on the first
day after March 18, 2004 for which the market price of the Company's
common stock exceeds $2.25 per share.
F-27
Dividends - Dividends on the Series A preferred stock shall accrue at 7%
per annum through the date of liquidation or conversion. In the event of
conversion all accrued and unpaid dividends will be waived.
5. Issuance of Common Stock
In January 2002, the Company sold an additional 300,000 shares of common
stock at a price of $0.50 per share. These shares were sold as part of a
1,300,000 share private placement made pursuant to Sections 4(2) and 4(6)
of the Act, of which 1,000,000 shares were sold prior to December 31,
2001. In connection with this offering the Company issued warrants to
purchase 130,000 shares of its common stock, at a per share price of
$0.75, as part of the placement agent fees. The warrants expire on January
16, 2007.
In January 2002, the Company issued 114,545 shares of common stock in full
settlement of a $62,500 liability, payable to Morse, Zelnick, Rose &
Lander, LLP.
In February 2002, AdStar sold 100,000 shares of its common stock at $0.50
per share. In connection with this sale, the Company issued warrants to
purchase 10,000 shares of its common stock, at a per share price of $0.75,
as part of the placement agent fees. The warrants expire on January 31,
2007.
6. Settlement and return of Common Stock
In November 2000, AdStar entered in a one-year strategic alliance
agreement with Eastman Kodak Company (Kodak) whereby AdStar issued 67,796
shares of its common stock valued at $100,000. As of December 2001 the
parties had not been able to complete the provisions of the agreement to
both parties' satisfaction, whereby Kodak notified AdStar of its intention
to terminate the agreement as of February 28, 2002. After protracted
settlement discussions the parties agreed to a mutual termination and
release agreement entered into during May 2002. As part of the agreement
Kodak returned AdStar's common stock, valued at $67,789 and AdStar agreed
not to pursue any further actions for performance against Kodak.
7. Officers employment agreements and notes receivable
In July 2002, AdStar entered into four-year employment agreements with
each of Leslie Bernhard and Eli Rousso. Their prior agreements expired on
September 30, 2002. Pursuant to her employment agreement, Leslie Bernhard
was retained as President and Chief Executive Officer, and her total
annual compensation was reduced to $212,800. Pursuant to his employment
agreement, Eli Rousso was retained as Executive Vice President Chief
Technology Officer, and his total annual compensation was reduced to
$212,800. Each agreement provides, among other things, for participation
in an equitable manner in any profit sharing or retirement, separation and
disability plans for employees or executives and for participation in
other employee benefits applicable to employees and executives of AdStar.
Each agreement further provides for fringe benefits which are commensurate
with the executive's duties and responsibilities. Under each agreement,
employment may be terminated by AdStar with cause or by the executive with
good reason. Termination without cause, or by the executive for good
reason, would subject AdStar to liability for liquidated damages in an
amount equal to the terminated executive's base salary for the remaining
term
F-28
of his or her employment agreement or 12 months, whichever is greater.
On July 1, 2002, AdStar entered into a loan transaction with Leslie,
President and CEO, and Eli, EVP and CTO, for $110,434 and $100,000,
respectively. As part of the transaction, Ms. Bernhard and Mr. Rousso each
issued to AdStar an unsecured, non-negotiable promissory note bearing
interest at 5.56% with monthly principal and interest payments of $763 and
$691, respectively, payable on a monthly basis, with all remaining
outstanding principal and interest amounts due on July 31, 2022.
Concurrently, an outstanding note from Ms. Bernhard in the amount of
$39,566 was restructured under the same terms and conditions as the
aforementioned new note. The loans are forgiven if there is a change in
control in AdStar or if the loan holder is dismissed for other than cause
as defined by the loan and employment agreements.
8. Restricted cash
In August 2002, AdStar was informed by Chase Merchant Services, L.L.C
(Chase), a merchant bank that provides credit card processing services for
AdStar, that it required the Company to maintain a restricted cash balance
of $175,000. Chase indicated the primary reason for the reserve was the
significant increase in dollar volume of AdStar transactions during the
second quarter 2002. Under the terms of the agreement the Company can
terminate the contract with 30 days notice and Chase can retain a reserve
for up to six months from the date of termination.
9. Subsequent events
In November 2002 the Company signed a non-binding letter of intent with
Tribune Company for an additional investment by Tribune of $1,500,000. As
part of the proposed transaction, AdStar will develop additional features
that expand the capabilities of its generic service and the customized
services that were launched in August 2002. The proposed investment will
be in the form of an initial purchase by Tribune of $900,000 of new Series
B-1 preferred stock and a subsequent purchase, subject to the conditions
described below, of $600,000 of new Series B-2 preferred stock. The
purchase price for each share of the Series B-1 and Series B-2 preferred
stock will be the lower of $0.75 or the fair market value of AdStar common
stock at the time of the respective closing. The subsequent purchase of
Series B-2 preferred stock by Tribune is subject to AdStar stockholder
approval and the fulfillment by AdStar of certain obligations under its
agreement with Tribune. If the conditions are not satisfied, Tribune will
have the right to sell its shares of Series B-1 preferred stock to AdStar.
The transaction is subject to customary corporate approvals, and also
conditioned upon AdStar and Tribune's agreeing to and signing definitive
agreements and satisfying the various customary closing conditions that
may be contained in those agreements. The definitive agreement and share
price are subject to change, and accordingly, the Company is still
examining any potential impact the transaction may have on its financial
statements when completed.
F-29
APPENDIX I (FORM OF PROXY)
ADSTAR, INC.
P R O X Y
FOR SPECIAL MEETING OF THE STOCKHOLDERS
December 27, 2002
THIS PROXY IS SOLICITED ON BEHALF OF THE BOARD OF DIRECTORS
The undersigned hereby appoints Leslie Bernhard and Eli Rousso, and each
of them, with full power of substitution, as proxies to vote the shares which
the undersigned is entitled to vote at the Special Meeting of the Stockholders
of AdStar, Inc. ("AdStar") to be held at 4553 Glencoe Avenue, Marina del Rey,
California 90292, on Friday, December 27, 2002 at 10:00 A.M., Pacific Standard
Time and at any adjournments thereof, hereby revoking any proxies heretofore
given, to vote all shares of common stock of AdStar held or owned by the
undersigned as indicated on the proposals as more fully set forth in the Proxy
Statement, and in their discretion upon such other matters as may come before
the meeting.
Please mark "X" your votes as indicated :
1. Approval of the Transaction with Tribune Company.
FOR |_| AGAINST |_| ABSTAIN |_|
(Continued, and to be signed, on the Reverse Side)
- --------------------------------------------------------------------------------
FOLD HERE
- --------------------------------------------------------------------------------
THIS PROXY WHEN PROPERLY SIGNED WILL BE VOTED IN THE MANNER DIRECTED HEREIN BY
THE UNDERSIGNED STOCKHOLDER. IF NO DIRECTION IS MADE, THIS PROXY WILL BE VOTED
FOR THE PROPOSAL.
The undersigned hereby acknowledges receipt of the Notice of, and Proxy
Statement for, the aforesaid Special Meeting.
Dated: _____________________, 2002
__________________________________
Signature of Stockholder
__________________________________
Signature of Stockholder
NOTE: When shares are held by joint tenants, both should sign. When signing as
attorney, executor, administrator, trustee, or guardian, please give full title
as such. If a corporation, please sign in full corporate name by President or
other authorized officer. If a partnership, please sign in partnership name by
an authorized person.
IMPORTANT - PLEASE FILL IN, SIGN AND RETURN PROMPTLY USING THE ENCLOSED
ENVELOPE.
APPENDIX II
(DRAFT OF THE PROPOSED B-2 PREFERRED CERTIFICATE OF DESIGNATION)
TERMS OF SERIES B-2 CONVERTIBLE
PREFERRED STOCK OF ADSTAR, INC.
1. Designation, Par Value and Number. _____________ shares of authorized
Series B-2 Preferred of the Corporation are hereby constituted as a series
of preferred stock, having a par value of $0.0001 per share. In accordance
with the terms hereof, each share of Series B-2 Preferred shall have the
same relative rights as and be identical in all respects with each other
share of Series B-2 Preferred.
2. Dividends.
a. General. Upon the occurrence of a Liquidation Event and to the
extent permitted under the Delaware General Corporation Law, the
Corporation shall pay preferential cumulative dividends in cash to
the holders of the Series B-2 Preferred as provided in this Section
2.a. Dividends on each issued and outstanding share of the Series
B-2 Preferred shall accrue on a daily basis at a rate of 7% per
annum of the Series B-2 Liquidation Value thereof from and including
the Series B-2 Original Issuance Date to and including the first to
occur of (i) the date on which the Series B Liquidation Value of
such share (plus all accrued and unpaid dividends thereon) is paid
to the holder thereof in connection with a Liquidation Event or (ii)
the date on which such share of Series B-2 Preferred is converted
into shares of Common hereunder. Such dividends shall accrue whether
or not they have been declared and whether or not there are profits,
surplus or other funds of the Corporation legally available for the
payment of dividends, and such dividends shall be cumulative such
that all accrued and unpaid dividends shall be fully paid or
declared with funds irrevocably set apart for payment before any
dividends, distributions, redemptions or other payments may be made
with respect to any Series B-2 Junior Securities.
b. Distribution of Partial Dividend Payments. Except as otherwise
provided herein, if at any time the Corporation pays less than the
total amount of dividends then accrued with respect to the Series
B-2 Preferred, such payment shall be distributed pro rata among the
holders thereof based upon the aggregate accrued but unpaid
dividends on the Series B-2 Preferred held by each such holder.
c. Participation in Common Dividends. In the event that the Corporation
declares or pays a dividend or makes any distribution on the Common,
then the holders of the outstanding shares of Series B-2 Preferred
(on a Common Equivalent Basis as of the record date for such
dividend or distribution) and the holders of the Common shall share
pro rata in such dividend or distribution.
d. Treatment of Accrued and Unpaid Dividends Upon Conversion. Upon any
conversion of shares of Series B-2 Preferred into Common in
accordance with Section 5, all accrued and unpaid dividends on the
Series B-2 Preferred shall be waived.
3. Voting Rights.
a. General. The holders of the Series B-2 Preferred shall be entitled
to notice of all stockholders meetings in accordance with the
By-laws and, except as otherwise provided herein or required by
applicable law, the holders of the Series B-2 Preferred shall be
entitled to vote on all matters submitted to the stockholders for a
vote, voting as a single class with the Common and other securities
that vote with the Common, with the holders of Series B-2 Preferred
entitled to one vote for each share of Series B-2 Preferred held as
of the record date for such vote or, if no record date is specified,
as of the date of such vote.
b. Actions Requiring the Consent of the Holders of Series B-2 Preferred
. So long as any shares of Series B-2 Preferred remains outstanding,
the Corporation shall not, unless it has received the prior approval
from the holders of at least a majority of the shares of Series B-2
Preferred then outstanding:
(i) make any amendment to the Certificate of Incorporation, this
Certificate of Designation or the By-laws, or file any
resolution of the Board with the Delaware Secretary of State
containing any provisions or take any other action, that would
amend the terms of the Series B-2 Preferred, increase or
decrease the number of authorized Series B-2 Preferred,
approve a reverse stock split with respect to the
Series B-2 Preferred or adversely affect or otherwise impair
the rights or the relative preferences or priorities of the
holders of the Series B-2 Preferred under the Certificate of
Incorporation, this Certificate of Designation or the By-laws;
(ii) make any amendment to the Certificate of Incorporation, this
Certificate of Designation or the By-laws, or file any
resolution of the Board with the Delaware Secretary of State
containing any provisions, or cause the approval and
authorization of or amend, replace or modify the Governance
Agreement, or take any other action, that would affect the
rights of the Investor to nominate a member or members to the
Board;
(iii) except for the issuance and sale of the Series B-2 Preferred,
authorize, issue or enter into any agreement providing for the
issuance (contingent or otherwise) of any capital stock or
other equity securities of the Corporation (or any securities
convertible into or exchangeable for any capital stock or
other equity securities of the Corporation) having rights,
preferences, privileges or priorities pari passu with or
senior to the Series B-2 Preferred [Note: since the Series A
also has this provision, we will have draft a consent for this
transaction];
(iv) directly or indirectly (x) declare or pay any cash or property
dividends or make any cash or property distributions upon any
of its capital stock or other equity securities or (y) redeem,
purchase or otherwise acquire any of the Corporation's capital
stock or other equity securities (including warrants, options
and other rights to acquire such capital stock or other equity
securities), in each case, except out of the Corporation's
earned surplus; or
(v) liquidate, dissolve or wind-up the Corporation, whether
pursuant to a Federal bankruptcy proceeding, state law or
otherwise.
4. Liquidation, Dissolution, etc.
a. Liquidation Event. Upon any (i) liquidation (whether in connection
with a sale of all or substantially all of the assets of the
Corporation or otherwise), dissolution or winding up of the
Corporation (whether voluntary or involuntary) or (ii) any merger or
consolidation to which the Corporation is a party pursuant to which
the holders of Common are entitled to receive securities or cash in
exchange for such Common (except where, after giving effect to such
merger, the holders of the Corporation's outstanding capital stock
immediately prior to such merger or consolidation shall continue to
own the Corporation's outstanding capital stock possessing more than
50% of the voting power of the surviving entity) (each, a
"Liquidation Event"):
(i) Each holder of Series B-2 Preferred shall be entitled to
receive, prior and in preference to any distribution or
payment made upon, or in exchange for, any Series B-2 Junior
Securities, an amount equal to (payable in the same form as
the merger consideration paid to the holders of Common, if
applicable (and in the same ratio if more than one form of
consideration is used)) (i) the aggregate Series B-2
Liquidation Value of all shares of Series B-2 Preferred held
by such holder plus (ii) all accrued and unpaid dividends on
such shares of Series B-2 Preferred. If upon any Liquidation
Event the Corporation's assets or merger consideration to be
distributed among the holders of the Series B-2 Preferred and
any Pari Passu Securities are insufficient to permit payment
to such holders of the aggregate amount that they are entitled
to be paid pursuant to the terms of such securities, then the
entire assets or merger consideration available to be
distributed to the Corporation's stockholders shall be
distributed pro rata among such holders of the Series B-2
Preferred and any Pari Passu Securities based upon the
aggregate liquidation value (plus all accrued and unpaid
dividends) of the shares of such securities held by each such
holder.
(ii) After payment to the holders of the Series B-2 Preferred and
any Pari Passu Securities of the amounts set forth in Section
4.a(i), the entire remaining assets and funds of the
Corporation or merger consideration legally available for
distribution, if any, shall be distributed pro rata among the
holders of the Common and the holders of the Series B-2
Preferred and any Pari Passu Securities (on a Common
Equivalent Basis).
b. Form of Consideration. Whenever the distribution provided for in
this Section 4 shall be payable in securities or property other than
cash, the value of such securities or property shall be the fair
market value thereof as determined by the Board in its reasonable
and good faith determination.
5. Conversion.
a. Conversion Procedure.
(i) At any time and from time to time, a holder of Series B-2
Preferred shall have the right to convert all or any portion
of its shares of Series B-2 Preferred into the number of
shares of Common computed by dividing (x) the aggregate Series
B-2 Liquidation Value of the shares of Series B-2 Preferred to
be converted by (y) the Series B-2 Conversion Price then in
effect.
(ii) All shares of Series B-2 Preferred shall automatically convert
into Common (pursuant to the computation set forth in Section
5.a(i)) on the first day after the 24-month anniversary of the
Series B-2 Original Issuance Date for which the Market Price
of a share of Common exceeds 200% of the average trading price
per share of Common during the 30 consecutive days immediately
preceding the Series B-2 Original Issuance Date.
(iii) Each conversion of Series B-2 Preferred shall be deemed to
have been effected as of the close of business on the date on
which the certificate or certificates representing the Series
B-2 Preferred to be converted have been surrendered for
conversion at the principal office of the Corporation (any
such date being referred to as a "Conversion Date"). At the
time any such conversion has been effected, the rights of the
holder of the shares of Series B-2 Preferred converted as a
holder of Series B-2 Preferred shall cease and the Person or
Persons in whose name or names any certificate or certificates
for shares of Common are to be issued upon such conversion
shall be deemed to have become the holder or holders of record
of the shares of Common represented thereby.
(iv) As soon as possible after a conversion has been effected the
Corporation shall, or (if applicable) use its best efforts to
cause its transfer agent to, deliver to the converting holder:
(1) certificates representing the number of shares of Common
issuable by reason of such conversion in such name or
names and such denomination or denominations as the
converting holder has specified; and
(2) a certificate representing any shares of Series B-2
Preferred which were represented by the certificate or
certificates delivered to the Corporation in connection
with such conversion but which were not converted.
(v) The issuance of certificates for shares of Common upon
conversion of Series B-2 Preferred shall be made without
charge to the holders of such Series B-2 Preferred or Common
for any issuance tax in respect thereof or other cost incurred
by the Corporation in connection with such conversion and the
related issuance of shares of Common. Upon conversion of each
share of Series B-2 Preferred, the Corporation shall take all
such actions as are necessary in order to insure that the
Common issuable with respect to such conversion shall be
validly issued, fully paid and nonassessable, free and clear
of all taxes, liens, charges and encumbrances with respect to
the issuance thereof.
(vi) The Corporation shall not close its books against the transfer
of Series B-2 Preferred or of Common issued or issuable upon
conversion of Series B-2 Preferred in any manner that
interferes with the timely conversion of Series B-2 Preferred.
The Corporation shall assist and cooperate with any holder of
shares of Series B-2 Preferred required to make any
governmental filings or obtain any governmental approval prior
to or in connection with any conversion of shares hereunder
(including, without limitation, making any filings required to
be made by the Corporation).
(vii) The Corporation shall at all times reserve and keep available
out of its authorized but unissued shares of Common, solely
for the purpose of issuance upon the conversion of shares of
the Series B-2 Preferred, such number of shares of Common as
are issuable upon the conversion of all outstanding Series B-2
Preferred. All shares of Common that are so issuable shall,
when issued, be duly and validly issued, fully paid and
nonassessable and free from all taxes, liens, charges and
encumbrances. The Corporation shall take all such actions as
may be necessary to insure that all such shares of Common may
be so issued without violation of any applicable law or
governmental regulation or any requirements of any domestic
securities exchange upon which shares of Common may be listed
(except for official notice of issuance which shall be
delivered immediately by the Corporation upon each such
issuance). The Corporation shall not take any action that
would cause the number of authorized but unissued shares of
Common to be less than the number of such shares required to
be reserved hereunder for issuance upon conversion of the
Series B-2 Preferred.
(viii) If any fractional interest in a share of Common would, except
for the provisions of this subparagraph, be delivered upon any
conversion of the Series B-2 Preferred, the Corporation, in
lieu of delivering the fractional share therefor, may pay an
amount to the holder thereof equal to the Market Price of such
fractional interest as of the date of conversion. The
determination as to whether or not to make any cash payment in
lieu of the issuance of fractional shares shall be based upon
the total number of shares of Series B-2 Preferred being
converted at any one time by the holder thereof, not upon each
share of Series B-2 Preferred being converted.
b. Conversion Price.
(i) The initial Series B-2 Conversion Price shall be $_____ per
share of Common. In order to prevent dilution of the
conversion rights granted under this Section 5, the Series B-2
Conversion Price shall be subject to adjustment from time to
time pursuant to this Section 5.b.
(ii) If and whenever on or after the Original Series B-2 Issuance
Date, but prior to February 28, 2004, the Corporation issues
or sells or, in accordance with this Section 5, is deemed to
have issued or sold, any shares of its Common for a
consideration per share less than the Series B-2 Conversion
Price in effect immediately prior to the time of such
issuance, then immediately upon such issuance or sale or
deemed issuance or sale the Series B-2 Conversion Price shall
be reduced to the conversion price determined by dividing (A)
the sum of (1) the product derived by multiplying the Series
B-2 Conversion Price in effect immediately prior to such
issuance or sale by the number of shares of Common Deemed
Outstanding immediately prior to such issuance or sale, plus
(2) the consideration, if any, received by the Corporation
upon such issuance or sale, by (B) the number of shares of
Common Deemed Outstanding immediately after such issue or
sale.
(iii) Notwithstanding the foregoing, there shall be no adjustment in
the Series B-2 Conversion Price as a result of any issuance or
sale (or deemed issuance or sale) of shares of Common (a)
issued upon conversion of the Series B-2 Preferred, (b) issued
as a dividend or distribution on the Series B-2 Preferred for
which adjustment is made pursuant to Section 5.c(ix), (c)
issued upon conversion of the Series A Preferred, (d) issued
or issuable pursuant to any equity incentive plan approved by
the Board or (e) issued or issuable pursuant to any merger,
acquisition or consolidation (including shares of Common
issued or issuable for cash if such cash is to be used for any
such merger, acquisition or consolidation) pursuant to which
the Corporation is a party (collectively, the "Excepted
Shares").
c. Effect on Conversion Price of Certain Events. For purposes of
determining the Series B-2 Conversion Price under Section 5, the
following shall be applicable:
(i) Issuance of Options. If the Corporation in any manner grants,
issues or sells any Options (other than Options that are
convertible into Excepted Shares) and the price per share for
which Common is issuable upon the exercise of such Options, or
upon conversion or exchange of any Convertible Securities
issuable upon exercise of such Options, is less than the
Series B-2 Conversion Price in effect immediately prior to the
time of the granting, issuance or sale of such Options, then
the total maximum number of shares of Common issuable upon the
exercise of such Options or upon conversion or exchange of the
total maximum amount of such Convertible Securities issuable
upon the exercise of such Options shall be deemed to be
outstanding and to have been issued and sold by the
Corporation at the time of the granting, issuance or sale of
such Options for such price per share. For purposes of this
paragraph, the "price per share for which Common is issuable"
shall be determined by dividing (A) the sum of (1) the total
amount, if any, received or receivable by the Corporation as
consideration for the granting, issuance or sale of such
Options, plus (2) the minimum aggregate amount of additional
consideration payable to the Corporation upon exercise of all
such Options, plus (3) in the case of such Options which
relate to Convertible Securities, the minimum aggregate amount
of additional consideration, if any, payable to the
Corporation upon the issuance or sale of such Convertible
Securities and the conversion or exchange thereof, by (B) the
total maximum number of shares of Common issuable upon the
exercise of such Options or upon the conversion or exchange of
all such Convertible Securities issuable upon the
exercise of such Options. No further adjustment of the
Conversion Price shall be made when Convertible Securities are
actually issued upon the exercise of such Options or when
Common is actually issued upon the exercise of such Options or
the conversion or exchange of such Convertible Securities.
(ii) Issuance of Convertible Securities. If the Corporation in any
manner issues or sells any Convertible Securities (other than
Convertible Securities that are convertible into Excepted
Shares) and the price per share for which Common is issuable
upon conversion or exchange thereof is less than the Series
B-2 Conversion Price in effect immediately prior to the time
of such issuance or sale, then the maximum number of shares of
Common issuable upon conversion or exchange of such
Convertible Securities shall be deemed to be outstanding and
to have been issued and sold by the Corporation at the time of
the issuance or sale of such Convertible Securities for such
price per share. For the purposes of this paragraph, the
"price per share for which Common is issuable" shall be
determined by dividing (A) the sum of (1) the total amount
received or receivable by the Corporation as consideration for
the issue or sale of such Convertible Securities, plus (2) the
minimum aggregate amount of additional consideration, if any,
payable to the Corporation upon the conversion or exchange
thereof, by (B) the total maximum number of shares of Common
issuable upon the conversion or exchange of all such
Convertible Securities. No further adjustment of the Series
B-2 Conversion Price shall be made when Common is actually
issued upon the conversion or exchange of such Convertible
Securities, and if any such issuance or sale of such
Convertible Securities is made upon exercise of any Options
for which adjustments of the Series B-2 Conversion Price had
been or are to be made pursuant to other provisions of this
Section 5, no further adjustment of the conversion price shall
be made by reason of such issue or sale.
(iii) Change in Option Price or Conversion Rate. If the purchase
price provided for in any Options (other than Options that are
convertible into Excepted Shares), the additional
consideration, if any, payable upon the conversion or exchange
of any Convertible Securities (other than Convertible
Securities that are convertible into Excepted Shares) or the
rate at which any Convertible Securities (other than
Convertible Securities that are convertible into Excepted
Shares) are convertible into or exchangeable for Common
changes at any time, the Series B-2 Conversion Price in effect
at the time of such change shall be immediately adjusted to
the Series B-2 Conversion Price that would have been in effect
at such time had such Options or Convertible Securities still
outstanding provided for such changed purchase price,
additional consideration or conversion rate, as the case may
be, at the time initially granted, issued or sold; provided,
that, if such adjustment of the Series B-2 Conversion Price
would result in an increase in the Series B-2 Conversion Price
then in effect, the Corporation will promptly give all holders
of Series B-2 Preferred written notice of such increase. For
purposes of this Section 5.c(iii), if the terms of any Option
or Convertible Security (other than Options or Convertible
Securities that are convertible into Excepted Shares) that was
outstanding as of the Original Series B-2 Issuance Date are
changed in the manner described in the immediately preceding
sentence, then such Option or Convertible Security and the
Common deemed issuable upon exercise, conversion or exchange
thereof shall be deemed to have been issued as of the date of
such change; provided, that, no such change shall at any time
cause the Series B-2 Conversion Price hereunder to be
increased.
(iv) Treatment of Expired Options and Unexercised Convertible
Securities. Upon the expiration of any Option or the
termination of any right to convert or exchange any
Convertible Security without the exercise of any such Option
or right, the Series B-2 Conversion Price then in effect
hereunder shall be adjusted immediately to the Series B-2
Conversion Price that would have been in effect at the time of
such expiration or termination had such Option or Convertible
Security, to the extent outstanding immediately prior to such
expiration or termination, never been issued; provided, that,
if such expiration or termination would result in an increase
in the Series B-2 Conversion Price then in effect, the
Corporation will promptly give all holders of Series B-2
Preferred written notice of such increase. For purposes of
this Section 5.c(iv), the expiration or termination of any
Option or Convertible Security that was outstanding as of the
Original Series B-2 Issuance Date shall not cause the Series
B-2 Conversion Price hereunder to be adjusted unless, and only
to the extent that, a change in the terms of such Option or
Convertible Security caused it to be deemed to have been
issued after the Original Series B-2 Issuance Date.
(v) Calculation of Consideration Received. If any Common, Option
or Convertible Security is issued or sold or deemed to have
been issued or sold for cash, the consideration received
therefor shall be deemed to be the amount received by the
Corporation therefor (net of discounts, commissions and
related expenses). If any Common, Option or Convertible
Security is issued or sold for a consideration other than
cash, the amount of the consideration other than cash received
by the Corporation shall be the fair value of such
consideration, except where such consideration consists of
securities, in which case the amount of consideration received
by the Corporation shall be the Market Price thereof as of the
date of receipt. If any Common, Option or Convertible Security
is issued to the owners of the non-surviving entity in
connection with any merger in which the Corporation is the
surviving corporation, the amount of consideration therefor
shall be deemed to be the fair value of such portion of the
net assets and business of the non-surviving entity as is
attributable to such Common, Option or Convertible Security,
as the case may be. The fair value of any consideration other
than cash and securities shall be determined by the Board in
its reasonable and good faith determination.
(vi) Integrated Transactions. In case any Option is issued in
connection with the issuance or sale of other securities of
the Corporation, together comprising one integrated
transaction in which no specific exercise price is allocated
to such Option by the parties thereto, the Option shall be
deemed to have been issued at an exercise price of $0.01.
(vii) Treasury Shares. The number of shares of Common outstanding at
any given time shall not include shares owned or held by or
for the account of the Corporation, and the disposition of any
shares so owned or held shall be considered an issuance or
sale of such shares.
(viii) Record Date. If the Corporation takes a record of the holders
of Common for the purpose of entitling them (A) to receive a
dividend or other distribution payable in Common, Options or
in Convertible Securities or (B) to subscribe for or purchase
Common, Options or Convertible Securities, then such record
date shall be deemed to be the date of the issue or sale of
the shares of Common deemed to have been issued or sold upon
the declaration of such dividend or upon the making of such
other distribution or the date of the granting of such right
of subscription or purchase, as the case may be.
(ix) Subdivisions or Combinations of Common. If the Corporation at
any time subdivides (by any stock split, stock dividend,
recapitalization or otherwise) one or more classes of its
outstanding shares of Common into a greater number of shares,
the Series B-2 Conversion Price in effect immediately prior to
such subdivision shall be reduced proportionately, and if the
Corporation at any time combines (by reverse stock split or
otherwise) one or more classes of its outstanding shares of
Common into a smaller number of shares, the Series B-2
Conversion Price in effect immediately prior to such
combination shall be increased proportionately.
(x) Recapitalization, Reorganization, Reclassification,
Consolidation, Merger or Sale. Any recapitalization,
reorganization, reclassification, consolidation, merger, sale
of all or substantially all of the Corporation's assets or
other transaction, in each case which is effected in such a
manner that the holders of Common are entitled to receive
(either directly or upon subsequent liquidation) stock,
securities or assets with respect to or in exchange for
Common, and which does not otherwise qualify as a Liquidation
Event, is referred to herein as an "Organic Change." Prior to
the consummation of any Organic Change, the Corporation shall
make appropriate provisions (in form and substance reasonably
satisfactory to the holders of a majority of the Series B-2
Preferred then outstanding) to insure that each of the holders
of Series B-2 Preferred shall thereafter have the right to
acquire and receive, in lieu of or in addition to (as the case
may be) the shares of Common immediately theretofore
acquirable and receivable upon the conversion of such holder's
Series B-2 Preferred, such shares of stock, securities or
assets as such holder would have received in connection with
such Organic Change if such holder had converted its Series
B-2 Preferred immediately prior to such Organic Change. In
each such case, the Corporation shall also make appropriate
provisions (in form and substance reasonably satisfactory to
the holders of a majority of the Series B-2 Preferred then
outstanding) to insure that the provisions of this Section 5.c
shall thereafter be applicable to the securities issued in
exchange for the Series B-2 Preferred (including, in the case
of any such consolidation, merger or sale in which the
successor entity or purchasing entity is other than the
Corporation and the value for the Common reflected by the
terms of such consolidation, merger or sale is less than the
Series B-2 Conversion Price
in effect immediately prior to such consolidation, merger or
sale, an immediate adjustment of the Series B-2 Conversion
Price to the value for the Common so reflected and a
corresponding immediate adjustment in the number of shares of
Common acquirable and receivable upon conversion of Series B-2
Preferred). The Corporation shall not effect any such
consolidation, merger or sale, unless prior to the
consummation thereof, the successor entity (if other than the
Corporation) resulting from consolidation or merger or the
entity purchasing such assets assumes by written instrument
(in form and substance satisfactory to the holders of a
majority of the Series B-2 Preferred then outstanding) the
obligation to deliver to each such holder such shares of
stock, securities or assets as, in accordance with the
foregoing provisions, such holder may be entitled to acquire.
(xi) Certain Other Events. If any event occurs of the type
contemplated by the provisions of this Section 5 but not
expressly provided for by such provisions (including, without
limitation, the granting of stock appreciation rights, phantom
stock rights or other rights with equity features), then the
Board shall make an appropriate adjustment in the Series B-2
Conversion Price so as to protect the rights of the holders of
Series B-2 Preferred; provided, that, no such adjustment shall
increase the Series B-2 Conversion Price as otherwise
determined pursuant to this Section 5 or decrease the number
of shares of Common issuable upon conversion of each share of
Series B-2 Preferred.
d. Notices.
(i) Immediately upon any adjustment of the Series B-2 Conversion
Price, the Corporation shall give written notice thereof to
all holders of Series B-2 Preferred, setting forth in
reasonable detail and certifying the calculation of such
adjustment.
(ii) The Corporation shall give written notice to all holders of
Series B-2 Preferred at least ten (10) days prior to the date
on which the Corporation closes its books or takes a record
(A) with respect to any dividend or distribution upon Common,
(B) with respect to any pro rata subscription offer to holders
of Common or (C) for determining rights to vote with respect
to any Liquidation Event, Organic Change, dissolution or
liquidation.
(iii) The Corporation shall also give written notice to the holders
of Series B-2 Preferred at least ten (10) days prior to the
date on which any Organic Change or Liquidation Event shall
take place.
6. Preemptive Right.
a. If the Corporation proposes to issue or sell any securities, the
Corporation shall, as soon as practicable and in any event no later
than 10 days before the consummation of such transaction, deliver a
notice to each of the holders of the Series B-2 Preferred stating
(i) a description of the transaction pursuant to which it proposes
to issue such securities; (ii) the number of such securities; (iii)
the price, if any, for which it proposes to sell such securities;
and (iv) the identity of the proposed purchaser(s).
b. Each holder of Series B-2 Preferred may elect, by giving notice to
the Corporation within 15 days after receipt of the notice
referenced above, to purchase, at the same price and on the same
terms and conditions as the issuance or sale described in such
notice, the number of securities equal to the product of (i) the
aggregate number of securities issued or sold by the Corporation
multiplied by (ii) a fraction with a numerator equal to the number
of shares of Common (on a Common Equivalent Basis) that such holder
owns and a denominator equal to the number of Common Deemed
Outstanding prior to the issuance of such securities.
c. The preemptive right set forth in this Section 6 shall not apply to
Excepted Shares.
7. General.
a. Upon receipt of evidence reasonably satisfactory to the Corporation
(an affidavit of the registered holder shall be satisfactory) of the
ownership and the loss, theft, destruction or mutilation of any
certificate evidencing shares of Common or Series B-2 Preferred, and
in the case of any such loss, theft or destruction, upon receipt of
indemnity reasonably satisfactory to the Corporation (provided that
if the holder is a financial institution or other institutional
investor its own agreement
shall be satisfactory), or, in the case of any such mutilation upon
surrender of such certificate, the Corporation shall (at its
expense) execute and deliver in lieu of such certificate a new
certificate of like kind representing the number of shares of such
class represented by such lost, stolen, destroyed or mutilated
certificate and dated the date of such lost, stolen, destroyed or
mutilated certificate, and dividends shall accrue on the Common or
Series B-2 Preferred represented by such new certificate from the
date to which dividends have been fully paid on such lost, stolen,
destroyed or mutilated certificate.
b. Except as otherwise expressly provided hereunder, all notices
referred to herein shall be in writing and shall be delivered by
registered or certified mail, return receipt requested and postage
prepaid, by reputable overnight courier service, charges prepaid or
by personal delivery, and shall be deemed to have been given (i)
three (3) business days after being sent by registered or certified
mail, (ii) one (1) business day after being deposited with such an
overnight courier service, and (iii) upon delivery, if by personal
delivery, if mailed or delivered (A) to the Corporation, at its
principal executive offices, or (B) to any stockholder, at such
holder's address as it appears in the stock records of the
Corporation (unless otherwise indicated by any such holder).
8. Definitions.
"Board" means the Board of Directors of the Corporation.
"By-laws" means the By-laws of the Corporation, as they may be amended
from time to time.
"Certificate of Designation" means this Series B-2 Preferred Certificate
of Designation.
"Certificate of Incorporation" means the Certificate of Incorporation of
the Corporation, as it may be amended from time to time.
"Common" means the Corporation's Common Stock, $.0001 par value per share.
"Common Deemed Outstanding" means, at any given time, the number of shares
of Common actually outstanding at such time, plus the number of shares of Common
deemed to be outstanding pursuant to Sections 5.c(i) and 5.c(ii) whether or not
the Options or Convertible Securities are actually convertible or exercisable at
such time.
"Common Equivalent Basis" means, as of the date of such determination, the
number of shares of Common that each holder of Series B-2 Preferred would be
entitled to receive upon conversion of its Series B-2 Preferred into Common.
"Conversion Date" is defined in Section 5.a(iii).
"Convertible Securities" means any stock or securities directly or
indirectly convertible into or exchangeable for Common.
"Corporation" means AdStar, Inc., a Delaware corporation.
"Excepted Shares" is defined in Section 5.b(iii).
"Governance Agreement" means the Amended and Restated Governance
Agreement, dated as of ____________, 2002, among the Corporation, the Investor
and the stockholders of the Corporation named therein.
"Investor" means Tribune Company, a Delaware corporation.
"Liquidation Event" has the meaning given such term in Section 4.a above.
"Market Price" of any security means the average of the closing prices of
such security's sales on all securities exchanges on which such security may at
the time be listed, or, if there have been no sales on any such exchange on any
day, the average of the highest bid and lowest asked prices on all such
exchanges at the end of such day, or, if on any day such security is not so
listed, the average of the representative bid and asked prices quoted in the
Nasdaq Stock Market as of 4:00 P.M., New York time, or, if on any day such
security is not quoted in the Nasdaq Stock Market, the average of the highest
bid
and lowest asked prices on such day in the domestic over-the-counter market as
reported by the National Quotation Bureau, Incorporated, or any similar
successor organization, in each such case averaged over a period of 30 days
consisting of the day as of which "Market Price" is being determined and the 29
consecutive business days prior to such day. If at any time such security is not
listed on any securities exchange or quoted in the Nasdaq Stock Market or the
over-the-counter market, the "Market Price" shall be the fair value thereof
determined jointly by the Corporation and the holders of a majority of the
Series B-2 Preferred.
"Options" means any rights, warrants or options to subscribe for or
purchase Common or Convertible Securities.
"Organic Change" is defined in Section 5.c(x).
"Pari Passu Securities" means any of the Corporation's equity securities
(whether or not currently authorized or outstanding) that by its terms is pari
passu with the Series B-2 Preferred, including, but not limited to, the Series A
Preferred, and the Series B-1 Preferred Stock, $.0001 par value, of the
Corporation.
"Person" means an individual, a partnership, a corporation, a limited
liability company, an association, a joint stock company, a trust, a joint
venture, an unincorporated organization and a governmental entity or any
department, agency or political subdivision thereof.
"Series A Preferred" means the Series A Preferred Stock of the
Corporation, $.0001 par value.
"Series B-2 Conversion Price" has the meaning given such term in Section
5.b.
"Series B-2 Junior Securities" means any of the Corporation's equity
securities (whether or not currently authorized or outstanding) other than the
Series B-2 Preferred that by its terms is junior to the Series B-2 Preferred.
"Series B-2 Liquidation Value" means $_________ per share of Series B-2
Preferred (subject to equitable adjustments to reflect stock splits, stock
dividends, stock combinations, recapitalizations and like occurrences).
"Series B-2 Original Issuance Date" means the date of the original
issuance of Series B-2 Preferred.
"Series B-2 Preferred" means the Series B-2 Convertible Preferred Stock of
the Corporation, $0.0001 par value per share.