ITEM 1. DESCRIPTION OF BUSINESS
I/Net, Inc. (The "Company" or "I/NET") was organized under the laws of the state of Delaware during 1986 under the name of a predecessor corporation. The Company had its initial public offering with the Securities and Exchange Commission during 1987.
BUSINESS DEVELOPMENT
I/NET was incorporated in 1983 as a contract research and development firm specializing in software development for digital imaging and voice recognition. Systems created by I/NET are currently in service in real estate, pharmaceutical research, government, newspapers, and information management.
During prior years, the Company sold and issued approximately 6,000,000 shares of its common stock for cash, trademark, and extinguishment of debt. In connection with the issuances, the Company issued warrants to the purchasers of the common stock to acquire up to 2,039,285 shares of common stock at prices ranging from $.25 to $2.40 per share. The warrants expire through 1999. During April 1997, a warrant exercised its option to purchase 200,000 shares of common stock at $.25 per share for cash. The remaining 1,839,285 warrants are exercisable at $2.40 per share and are not dilutive. Also, in connection with these sales, underwriters were issued warrants for 1,145,714 shares of common stock at a weighted average price of $.90 and are exercisable for five years, expiring in 1999. All remaining warrants were exercisable at December 31, 1997.
BUSINESS
I/NET, in prior years, was engaged in the business of providing a wide range of contract research systems planning, development, and implementation services on a fee basis to public and private sector clients. It was founded in 1982 in response to demand for high-quality information systems services on the part of government, commercial, and not-for-profit organizations, requiring digital imaging as part of their overall solution. Since its formation, I/NET has delivered and installed microcomputer-based decision support systems for systems sold worldwide, supporting hundreds of users and employing distributed databases, sophisticated telecommunications networks, and state-of-the-art development tools. Past projects which the Company has undertaken in multi-media applications have incorporated digital imaging and voice recognition.
The Company has performed development work under contract with IBM for many years, including developing multi-media software running on the IBM system AS/400, a mid-range computer system. I/NET also performs Websight Consulting Services for IBM.
During 1995, I/NET brought to the marketplace its own Web Server/400TM as the first commercially available product, which can connect the nearly 425,000 AS/400 midrange computers worldwide to the Internet. The "Web" lets Internet users around the world exchange information in the form of displayed text, images, sound, and video. Available since July, 1995, I/NET's Web Server/400 is currently used by businesses around the world, with installations in Hong Kong, Germany, England, the Netherlands, Italy, Korea, Japan, and Israel, in addition to Canada and the United States. Current installations include: IBM AS/400 Homepage (www.as400.ibm.com), Software 2000, Inc., Marcam Corporation, Dynamic Healthcare Technologies, Inc. (www.dht.com), Automated Training Systems (www.ibmuser.com), Mattel Toys, MCI, Eli Lilly, Builders Square, Toyota of America, Caesers Palace, United Technologies Automotive, and Anheuser-Busch.
I/NET's Commerce Server/400 TM was made available in August, 1996. This product provides AS/400 users with the ability to conduct secured, encrypted financial and other transactions over the Internet. Current customers include IBM, Enterprise Rent-A-Car, MCI, State Bar of California, and Dreyfus Brokerage Services, Inc. These companies have installed the product in various locations throughout the world. In February, 1997, IBM bestowed
upon I/NET the prestigious Partner in Development "Product of the Year Award" for Commerce Server/400TM. Six thousand international attendees to the IBM Business Partner Executive Conference were on hand to witness the presentation. This event spurred the signing of new distribution contracts to represent I/NET's products.
IBM AS/400 is the world's most popular multi-user business computing system, with nearly 425,000 units installed worldwide supporting from 1 to 7,000 users, IBM and its 8,000 Business Partners offer AS/400 customers 25,000 applications, including 3,000 for the client/server. Among AS/400 customers are 98 percent of the Fortune 100 Industrials.
The Company successfully negotiated a new contract with IBM in March 1997 in which it will provide Website consulting services for IBM. This contract, while cancelable, is for a period of twenty-four months.
I/NET has also signed an agreement with Netscape Communications Corp., a world leader in delivering Internet solutions to the marketplace. This agreement gives I/NET the right to port their entire suite of Internet servers to the AS/400, and also distribute these products for the next three years. IBM was instrumental in arranging this agreement, as they know it will benefit the entire AS/400 community.
All I/NET developed software is year 2000 compliant.
DISTRIBUTION METHODS OF THE PRODUCTS OR SERVICES
The Company has signed exclusive worldwide marketing and distribution agreements with International Marketing Strategies, (IMS) for the distribution of its Web Server/400 products. All marketing services are performed by IMS.
COMPETITIVE BUSINESS CONDITIONS AND THE SMALL BUSINESS ISSUER'S COMPETITIVE POSITIONS IN THE INDUSTRY AND METHODS OF COMPETITION
The Company's contract work performed for IBM has been competitively acquired, and usually the final selection is between I/NET and departments within IBM. I/NET and IBM are the only two companies with software available to connect the AS/400 to the Internet. Currently, I/NET's products are installed on over 90% of the AS/400's operating as Internet servers.
SOURCES AND AVAILABILITY OF RAW MATERIALS AND THE NAMES OF PRINCIPAL SUPPLIERS
Developing software requires few tangible raw materials. The most important element in this process is the personnel who plan, design, and develops the software code. I/NET has consistently hired the best talent available. It recruits top-of-the-class talent from two Kalamazoo-based colleges as well as candidates from the Detroit and Chicago metropolitan areas.
DEPENDENCE ON ONE OR A FEW MAJOR CUSTOMERS
The Company provided Internet products, facilities management services, and software development services to a few major customers during 1997 and 1996 as follows:
Year ended December 31, 1997 1996 - --------------------------------------------------------------------------------
Internet Products International Business Machines $ 200,000 $ - International Marketing Strategies (IMS) 405,000 346,000 SUPPORT NET, INC. (Included with IMS for 1997) - 158,000 LANSA, Inc. 300,000 - - -------------------------------------------------------------------------------- $905,000 $504,000 - -------------------------------------------------------------------------------- Facilities Management Services Greater Kalamazoo Association of Realtors $ - $108,000 - -------------------------------------------------------------------------------- Website Consulting Services International Business Machines (IBM) $702,000$ - - -------------------------------------------------------------------------------- IBM is also a minority stockholder in the Company.
PATENTS, TRADEMARKS, FRANCHISES, CONCESSIONS, ROYALTY AGREEMENTS OR LABOR CONTRACTS, INCLDUING DURATION
I/NET has various trademarks for its products, including WEB SERVER/400, COMMERCE SERVER/400, and CAREER/NET.
On September 30, 1997, the Company entered into a software license agreement with Netscape Communications Corporation (Netscape) wherein Netscape granted to the Company the right to port certain of its Internet Server products to the IBM AS/400 platform. This agreement is for a period of three years and allows the Company to market and distribute the ported products upon their modification to the AS/400 platform.
In exchange for this license agreement, I/NET has agreed to pay minimum royalties to Netscape in the amount of $3,000,000 according to the following repayment schedule:
Paid by IBM on behalf of I/NET in October, 1997 $ 250,000 September 30, 1998 $ 750,000 September 30, 1999 $1,000,000 September 30, 2000 $1,000,000
International Business Machines Corporation has guaranteed to Netscape the above listed royalties in the event that product sales are insufficient to repay amounts due under this agreement.
In addition, IBM will provide advances against royalties in the amount of $600,000 as certain tasks are completed during the porting of the Netscape products to the IBM platform. These advances are treated as if under a research and development agreement whereby I/NET is not obligated to repay any of these funds advanced by IBM except from royalties of future sales, if any.
NEED FOR ANY GOVERNMENT APPROVAL OF PRINCIPAL PRODUCTIONS OR SERVICES
The performance of services and the supply of products by the Company are not subject to governmental approval.
EFFECT OF EXISITING OR PROBABLE GOVERNMENTAL REGULATIONS ON THE BUSINESS
No present governmental regulations have any adverse impact on the present or contemplated business operations of the Company, and no such probable governmental regulations are anticipated to have any adverse effect.
ESTIMATE OF THE AMOUNT SPENT DURING EACH OF THE LAST TWO FISCAL YEARS ON RESEARCH AND DEVELOPMENT ACTIVITIES, AND IF APPLICABLE, THE EXTENT TO WHICH THE COST OF SUCH ACTIVITIES ARE BORNE DIRECTLY BY CUSTOMERS
There was no research and development costs incurred by the Company during the calendar years ended December 31, 1997 and 1996.
COST AND EFFECTS OF COMPLIANCE WITH ENVIRONMENTAL LAWS(FEDERAL, STATE, AND LOCAL)
There are no foreseeable adverse effects on the present or contemplated business operations resulting from environmental laws, rules, or regulations.
NUMBER OF TOTAL EMPLOYEES AND NUMBER OF FULL-TIME EMPLOYEES
As of December 31, 1997, the Company had 14 full time employees.
ITEM 2.
ITEM 2. DESCRIPTION OF PROPERTY
The Company has its principal executive and operating offices at 643 West Crosstown Parkway, Kalamazoo, Michigan, which is comprised of 5,600 square feet.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
The Company is not the subject of any material legal proceeding, and to the knowledge of management, no proceedings are presently contemplated against the Company by any federal, state, or local governmental agency.
To the knowledge of management, no director or executive officer of the Company is party to any legal proceeding which may have an interest adverse to the Company.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted to a vote of the Company's stockholders during 1997.
PART II
ITEM 5.
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
MARKET INFORMATION
The Company's common stock is listed on the "Electronic Bulletin Board" of the NASD. The stock activity for the calendar years 1997 and 1996 is summarized by quarter below:
1997 1997 1997 1997 1996 1996 1996 1996 1st qtr 2nd qtr 3rd qtr 4th qtr 1st qtr 2nd qtr 3rd qtr 4th qtr
HIGH $0.75 $0.50 $0.41 $0.36 $1.13 $0.97 $0.81 $0.81 LOW $0.50 $0.34 $0.34 $0.21 $0.63 $0.60 $0.41 $0.56
These bid prices are quotations of broker-dealers that reflect inter-dealer prices, without retail mark-up, markdown or commission and may not represent actual transactions.
HOLDERS
The number of record holders of the Company's common stock as of December 31, 1997, were 292. This number does not include an indeterminate number of stockholders whose shares are held by brokers in street name.
DIVIDENDS
There are currently present material restrictions that limit the ability of the Company to pay dividends on its common stock as it has a deficit in its stockholders' equity. The company has not paid any dividends with respect to its common stock nor does it intend to do so in the foreseeable future.
ITEM 6.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
CALENDAR YEARS ENDED DECEMBER 31, 1997 AND 1996
RESULTS OF OPERATIONS
Revenues for the year ended December 31, 1997, were $1,692,170 as compared to $724,032 for the year ended December 31, 1996. When analyzed by product category, revenues of Website development services to IBM were $702,000 in 1997, as compared to $0 in 1996 as a contract with IBM was signed in March 1997 to provide these services. Revenues from facilities management services were $0 in 1997 and $120,000 in 1996 as the contract with the Greater Kalamazoo Association of Realtors expired in October 1996. Internet products accounted for revenues of $905,000 in 1997 and $504,000 in 1996 as new products were being introduced to the market. Revenue from the porting of Netscape products to the AS/400 operating system produced revenue of $200,000 in 1997 and $ 0 in 1996.
Cost of revenues increased by $10,000 as compared to 1997. The primary cause for this increase was the hiring of additional personnel for the Netscape and IBM projects.
General and administrative expenses decreased by $487,000 as compared to 1996. The primary cause for this decrease was a reduction in administrative personnel, negotiation of a new lease agreement for its facilities and a reduction of commission expense of $250,000 in 1997 as compared to 1996.
Interest expenses increased by $34,000 due to the increased borrowing in the first quarter of 1997.
During March 1997, the Company entered into an agreement with a note holder to form a joint venture. I/NET contributed previously written-off technology together with a trademark and web presence in exchange for the forgiveness of $97,946 of indebtedness. The noteholder is required to contribute cash and marketing expertise in this newly formed joint venture. There have been no operating activities on this joint venture to date. This $97,946 has been treated as an extraordinary item for financial statement purposes.
FINANCIAL CONDITION AND LIQUIDITY
The Company's primary need for capital has been to invest in computer software development. As of December 31,
1997, the Company's working capital deficit was $1,106,000, as compared to a deficit of $1,765,000 at December 31, 1996. The resulting decrease in working capital deficit is earnings in 1997 of $378,000 compared to a loss in 1996 of $1,132,000.
The Company believes that the additional sales provided by the above mentioned agreements, the continued development of new products, together with the renegotiations of its defaulted debt, should provide the Company with sufficient working capital to fund its needs for 1998. However, there can be no assurance these activities will be successful.
In June 1997, SFAS No. 130 "Reporting Comprehensive Income" and SFAS No. 131, "Disclosure about Segments of an Enterprise and Related Information" were issued. SFAS No. 130 addressed standards for reporting and display of comprehensive income and its components and SFAS NO. 131 requires disclosure of reportable operating segments. In October 1997, Statement of Position (SOP) 97-2 "Software Revenue Recognition" was issued by the AICPA Accounting Standards Executive Committee. This SOP provides guidance on when revenue should be recognized and in what amounts for licensing, selling, leasing or otherwise marketing computer software. All statements are effective for the Company for the year ended December 31, 1998. The Company will be reviewing these pronouncements to determine their applicability to the Company, if any.
All I/NET developed software is year 2000 compliant.
The Company's financial statements have been presented on the basis that it is a going concern, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. The Company has suffered recurring losses from operations in prior years, has a significant working capital deficit, and requires additional capital to continue its product development. Management believes the Company will continue as a going concern and is actively marketing its new products which would enable the Company to meet its current obligations and provide additional funds for continued new product development. In addition, management is currently negotiating several additional contracts for its services and products. However, there can be no assurance these activities will be successful.
ITEM 7.
ITEM 7. FINANCIAL STATEMENTS
SECTION PAGE NUMBER
Report of Independent Certified Public Accountants............................20
Consolidated Balance Sheets as of December 31, 1997 and 1996..................21
Consolidated Statements of Operations for the years ended December 31, 1997 and 1996..................................................22
Consolidated Statements of Stockholders' Equity (Capital Deficit) for the years ended December 31, 1997 and 1996..............................23
Consolidated Statements of Cash Flows for the years ended December 31, 1997 and l996..................................................24
Summary of Accounting Policies.............................................25-26
Notes to Consolidated Financial Statements.................................27-33
ITEM 8.
ITEM 8. CHANGES IN AND DISAGREEMENT WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None
PART III
ITEM 9.
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT
IDENTIFICATION OF DIRECTORS AND EXECUTIVE OFFICER
The following table sets forth the names, nature of all positions, and offices held by all directors and executive officers of the Company for the calendar year ended December 31, 1997, and to the date hereof, and the period or periods during which each such director or executive officer has served in their respective positions.
Name Position Held Date of Election or Designation ------ --------------- ---------------------------------
James C. Knapp* Chairman of the Board of Directors 1986
Stephen J. Markee* President and CEO, 1985 Director, 1986 and CFO 1995
Paul A. Bertoldi* Vice President Systems Development 1989
*These individuals presently serve in the capacities indicated opposite their respective names.
TERM OF OFFICE
The terms of office of the current directors shall continue until the annual meeting of stockholders, which has been scheduled by the Board of Directors to be held on the third Friday in May of each year; the annual meeting of the Board of Directors immediately follows the annual meeting of stockholders, at which executive officers for the coming year are elected.
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BUSINESS EXPERIENCE
JAMES C, KNAPP, CHAIRMAN: Mr. Knapp, one of I/NET's initial founders, is 47 years of age, and received a BBA Degree from the University of Maryland in 1972. He began his computer education at the age of 15 in a special program sponsored by IBM, and served in the United States Air Force as a teacher for missile computer guidance systems. He has been listed in the ACR Directory of Top Computer Executives since 1981, and was inducted into the "Who's Who in the Computer Industry" in 1990. His efforts in digital imaging and voice recognition have been recognized internationally. Mr. Knapp has been a featured speaker at the Massachusetts Institute of Technology and the Harvard Business School. He is also an international speaker on Internet security.
STEPHEN J. MARKEE, PRESIDENT, CEO AND CFO: Mr. Markee is 52 years of age. He received a BS Degree from Ferris State University in 1970 and an MBA from Western Michigan University ("WMU") in 1971. He is a licensed certified public accountant in the state of Michigan. Mr. Markee served in the United State Army during the Viet Nam conflict, and was decorated and medically retired in 1968. After completing his education, he served as assistant Auditor General for the State of Michigan before joining WMU as Director of Internal Auditing in 1976. While at WMU, he also taught accounting classes in the MBA program. He then changed directions, from public to private sector, as Vice President of Planning and Control for a division of Standex International Corporation, where he was responsible for information systems, accounting, and human resources. He joined I/NET in 1986 as President and CEO. He has guided I/NET to a successful equity partnership with IBM, and engineered the sale of intellectual property rights to IBM in 1989, Mr. Markee has served on the Board of Directors of the Kalamazoo County Chamber of Commerce, Chairman of the Kalamazoo County Convention and Visitors Bureau, Past President of the local chapter of the Institute of Management Accountants, and President of the Parchment Schools Foundation. He is a frequent speaker to civic and business groups, and has appeared on the Financial News Network ("FNN").
PAUL A. BERTOLDI, VICE PRESIDENT, SYSTEMS DEVELOPMENT: Mr. Bertoldi is 35 years of age. He received a BBA Degree from Western Michigan University ("WMU") in 1984, and a MBA Degree from WMU in 1992. He graduated magna cum laude and was named a Presidential Scholar as one of the top undergraduates of WMU. Since becoming one of I/NET's first employees, Mr. Bertoldi has helped design the architecture of state-of-the-art imaging and voice recognition systems in the field of real estate, medical imaging, and document imaging. Mr. Bertoldi is currently involved in the development of application in multi-media and pen computing. He is an active member in both the Data Processing Management Association (`DPMA') and Association of Computer Machinery ("ACM"). In 1988, he was recognized as a Certified Data Processor by the Association for Certification for Computer Professionals.
FAMILY RELATIONSHIPS
With the exception that Mr. Knapp and Mr. Bertoldi are brothers-in-law, there are no family relationships between any directors or executive officers of the Company, either by blood or by happenstance of marriage.
INDEMNIFICATION OF DIRECTORS AND EXECUTIVE OFFICERS
Under the Delaware Corporation Law, a corporation has the power to indemnify any person who is made a party to any civil, criminal, administrative or investigative proceeding, other than action by or any right of the corporation, by reason of the fact that such person was a director, officer, employee or agent of the corporation, against expenses, including reasonable attorney's fees, judgments, fines and amounts paid in settlement of any such actions; provided however, in any criminal proceeding, the indemnified person shall have had no reason to believe the conduct committed was unlawful. Regardless, it is the position of the Securities and Exchange Commission that indemnification against liabilities for violation of the federal securities law, rules, and regulations is against public policy.
INVOLVEMENT IN CERTAIN LEGAL PROCEEDINGS
To the knowledge of management, during the past five years, no present or former director, executive officer or person nominated to become a director or an executive officer of the Company:
- - Filed a petition under the federal bankruptcy laws or any state insolvency law, nor had a receiver, fiscal agent or any partnership in which he or she was a general partner at or within two years before the time of such filing, or any corporation or association of which he or she was an executive officer at or within two years before the time of such filing;
- - Was convicted in a criminal proceeding or named subject of a pending criminal proceeding (excluding traffic violations and other minor offenses);
- - Was the subject of any order, judgment or decree, not subsequently reversed, suspended or vacated, of any court of competent jurisdiction, permanently or temporarily enjoining him from or otherwise limiting, the following activities:
Acting as a futures commission merchant, introducing broker, commodity trading advisor, commodity pool operator, floor broker, leverage transaction merchant, associated person of any of the foregoing, or as an investment advisor, underwriter, broker or dealer in securities, or as an affiliated person, director or employee of any investment company, bank, savings and loan association or insurance company, or engaging in or continuing any conduct or practice in connection with such activity;
- - Engaging in any activity in connection with the purchase or sale of any security or commodity or in connection with any violation of federal or state securities laws or federal commodities laws;
- - Was the subject of any order, judgment or decree, not subsequently reversed, suspended or vacated, of any federal or state authority barring, suspending or otherwise limiting for more than 60 days the right of such person to engage in any activity described above under this Item, or to be associated with person engaged in any such activity;
- - Was found by a court of competent jurisdiction a civil action or by the Securities and Exchange Commission to have violated any federal or state securities law, and the judgment in such civil action or finding by the Securities and Exchange Commission has not been subsequently reversed, suspended or vacated.
- - Was found by a court of competent jurisdiction in a civil action or by the Commodity Futures Trading Commission to have violated any federal commodities law, and the judgment in such civil action or finding by the Commodity Futures Trading Commission has not been subsequently reversed, suspended or vacated.
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Item 10.
Item 10. Executive Compensation
Cash Compensation
The following table sets forth the aggregate compensation paid by the Company for Services rendered during the periods indicated.
- -------------------------------------------------------------------------------- SUMMARY COMPENSATION TABLE------------------------------------------------------ - -------------------------------------------------------------------------------- Annual Compensation - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- (a) (b) (c) (d) (e) - ---------------------- ----------------- ------------ ------------- ------------ - ---------------------- ----------------- ------------ ------------- ------------ Name and Year Ended $ Salary $ Bonus Other Annual Principal Position Dec. 31 Compensation $ - ---------------------- ----------------- ------------ ------------- ------------ James C. Knapp 1997 $125,000 Chairman 1996 $130,208 -0- -0- - ---------------------- ----------------- ------------ ------------- ------------ - ---------------------- ----------------- ------------ ------------- ------------ Stephen J. Markee 1997 $125,000 President, CEO, 1996 $130,208 -0- -0- CFO and Director - ---------------------- ----------------- ------------ ------------- ------------ - ---------------------- ----------------- ------------ ------------- ------------ Paul A. Bertoldi 1997 $ 77,703 Vice President, 1996 $ 72,917 -0- -0- Systems Development - ---------------------- ----------------- ------------ ------------- ------------ - --------------------------------------------------------------------------------
- -------------------------------------------------------------------------------- Long Term Compensation - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- Awards Payouts - --------------------------------------------------- ---------------------------- - ---------------- --------------- --------------- --------------- --------------- (f)* (g) (h) (i)** - ----------------- ---------- ------------ ------------ ---------- -------------- - ----------------- ---------- ------------ ------------ ---------- -------------- Name and Year Ended Restricted Option/SAR's LTIP All Other Principal Dec. 31 Stock Award (#) Payouts Compensation Position ($) ($) ($) - ----------------- ---------- ------------ ------------ ----------- ------------- - ----------------- ---------- ------------ ------------ ----------- ------------- James C. Knapp 1997 $7,876 Chairman 1996 -0- -0- -0- $8,104 - ------------------ --------- ------------ ------------ ------------ ------------ - ------------------ --------- ------------ ------------ ------------ ------------ Stephen J. Markee 1997 $4,932 President, CEO, 1996 -0- -0- -0- $6,420 CFO and Director - ------------------ --------- ------------ ------------ ------------ ------------ - ------------------ --------- ------------ ------------ ------------ ------------ Paul A. Bertoldi 1997 $4,745 Vice President, 1996 -0- -0- -0- $5,564 Systems Development - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- *See the caption "All Other Compensation" herein for restricted stock award **Approximate value of health, dental and life insurance paid by the Company - --------------------------------------------------------------------------------
BONUSES AND DEFERRED COMPENSATION
None
COMPENSATION PURSUANT TO PLANS
The Company maintains an incentive stock option plan that provides for the granting of options to officers and other key employees at an exercise price not less than 100% of the fair market value on the date of the grant. Twenty percent of the options become exercisable each year following the date they were granted, and can remain outstanding for five years following the day they become fully vested. Changes in options outstanding are summarized as follows:
Weighted Option Price Average Price Shares Per Share Per Share
January 1, 1996 139,436 $.18-2.50 $1.72 Lapsed ( 96,936) .18-2.50 1.39 - -------------------------------------------------------------------------------- December 31, 1996 42,500 2.50 2.50 Granted June 1997 100,000 .37 .37 Lapsed (27,500) 2.50 2.50 - -------------------------------------------------------------------------------- December 31, 1997 115,000 $.37-2.50 $ .65 - -------------------------------------------------------------------------------
Of the 139,936 options outstanding at January 1, 1996, all but 77,634 had an exercise price of $2.50. The 77,634 had been granted to one employee, had an exercise price of $.18 and lapsed in 1996.
At December 31, 1997, 582,255 shares of common stock are reserved for the incentive stock option plan and 9,000 options were vested and exercisable. The remaining contractual life of the 106,000 shares outstanding in ten years.
PENSION TABLE
The Company has a profit sharing and defined contribution pension plan covering substantially all employees. Under the plan, employees may make tax deferred voluntary contributions which, at the discretion of the Company's Board of Directors, may be matched within certain limits by the Company. In addition, the Company may make additional discretionary contributions to the plan as profit sharing contributions. All contributions to the plan are limited by applicable Internal Revenue Code regulations. There were no Company contributions charged against operations in 1997 or 1996.
COMPENSATION OF DIRECTORS
See Cash Compensation of this Item.
EMPLOYMENT CONTRACTS
There are no employment contracts for any employees or officers as of December 31, 1997.
TERMINATION OF EMPLOYMENT AND CHANGES OF CONTROL ARRANGEMENT
There are no compensatory plans or arrangements, including payments to be received from the Company, with respect to any person named in the Summary Compensation Table set out above which would in any way result in payments to any such person because of his or her resignation, retirement or other termination of such person's employment with the Company or its subsidiaries, or any change in control of the Company.
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ITEM 11.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth the share holdings of the Company's directors and executive officers and those persons or entities who own more than 5% of the Company's common stock.
Amount and Nature of Name Address Beneficial Ownership Percent of Class
EXECUTIVE OFFICERS AND DIRECTORS
Paul A. Bertoldi Kalamazoo, MI 410,699 1.32%
James C. Knapp Kalamazoo, MI 5,417,719 17.45%
Stephen J. Markee Richland, MI 6,196,743 19.97% --------------------- --------------- Total 12,025,161 38.74% ===================== =============== OWNERS OF 5%
Steven Wallace Beverly Hills, CA 2,244,000 7.23% ===================== ===============
CHANGES IN CONTROL
To the knowledge of management, there are no present arrangements or pledges of securities of the Company which may result in a change in control of the Company.
Item 12.
Item 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
TRANSACTIONS WITH MANAGEMENT AND OTHERS
Except as stated below, during the last two calendar years ended December 31, 1997 and 1996, there were no material transactions or any currently proposed transaction, or series of similar transactions, to which the Company or any of its subsidiaries was or is to be a party, in which the amount involved exceeded $60,000 and in which any director or executive officer, or any security holder who is known to the Company to own of record beneficially more than 5% of any class of the Company's common stock, or any member of the immediate family of any of the foregoing persons, had an interest.
CERTAIN BUSINESS RELATIONSHIPS
Except as stated below, during the last two calendar years ended December 31, 1997 and 1996, there were no material transactions or any currently proposed transactions, or series of similar transactions, to which the Company or any of its subsidiaries was or is to be a party, in which the amount involved exceeded $60,000 and in which any director officer, or any security holder who is known to the Company to own of record of beneficially more than 5% of any class of the Company's common stock, or any member of the immediate family of any of the foregoing persons, had an interest.
INDEBTEDNESS OF MANAGEMENT AND STOCKHOLDERS
James C. Knapp, Chairman of the Board of Directors, Stephen J. Markee, President, CEO and CFO, and Steven Wallace, a stockholder, have loaned the Company funds for working capital. These funds are provided at an interest rate of prime plus 2%. The balance outstanding at December 31, 1997 was $455,500. At December 31, 1996, the Company owed $390,500 to Mr. Markee. These loans are secured by all of the Company's assets. With the exception of this transaction, there were no material transactions to which the Company or any of its subsidiaries was or is to be a party, in which the amount involved exceeded $60,000 and in which any director or executive officer, or any security holder who is known to the Company to own or record of beneficially more than 5% of any class of the Company's common stock, or any member of the immediate family of any of the foregoing persons, had an interest during the last two calendar years ended December 31, 1997 and 1996.
TRANSACTIONS WITH PROMOTERS
During the last two calendar years ended December 31, 1997 and 1996, there were no material transactions or any currently proposed transactions, or series of similar transactions, to which the Company or any of its subsidiaries was or is to be a party, in which the amount involved exceeded $60,000 and in which any promoter, founder, or member of their immediate family of any of the foregoing persons, had an interest.
Item 13.
Item 13. REPORTS ON FORM 8-K AND EXHIBITS
REPORTS ON FORM 8-K:
None
EXHIBITS:
None
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SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereto duly authorized.
I/NET, Inc.
Date: March 18, 1998 By: /s/ Stephen J. Markee Stephen J. Markee, Director President, CEO, and CFO
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, this Report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated:
Date: March 18, 1998 By: /s/ Stephen J. Markee Stephen J. Markee, Director President, CEO and CFO
Date: March 18, 1998 By: /s/ James C. Knapp James C. Knapp, Chairman of the Board of Directors
Date: March 18, 1998 By: /s/ Paul A. Bertoldi Paul A. Bertoldi, Vice President Systems Development
I/NET, Inc.
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Consolidated Financial Statements Years ended December 31, 1997 and 1996
I/NET, Inc.
Contents
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- --------------------------------------------------------------------------------
Report of Independent Certified Public Accountants 20
Financial Statements:
Consolidated Balance Sheets 21 and 22
Consolidated Statements of Operations 23
Consolidated Statements of Capital Deficit 24
Consolidated Statements of Cash Flows 25
Summary of Accounting Policies 26 & 27
Notes to Consolidated Financial Statements 28 - 34
Report of Independent Certified Public Accountants
Board of Directors I/NET, Inc. Kalamazoo, Michigan
We have audited the accompanying consolidated balance sheets of I/NET, Inc. as of December, 31, 1997 and 1996, and the related consolidated statements of operations, capital deficit and cash flows for the years then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of I/NET, Inc. at December 31, 1997, and 1996, and the results of its operations and its cash flows for the years then ended in conformity with generally accepted accounting principles.
The accompanying financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 12 to the financial statements, the Company has suffered recurring losses from operations in prior years, has a significant working capital deficit and requires additional capital to continue its product development. These factors raise substantial doubt about its ability to continue as a going concern. Management's plans in regard to these matters are also described in Note 12. The financial statements do not include any adjustments that might result from the outcome of this uncertainty.
Kalamazoo, Michigan /s/BDO SEIDMAN, LLP January 14, 1998 Certified Public Accountants
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- -------------------------------------------------------------------------------- December 31, 1997 1996
ASSETS ( NOTE 3)
CURRENT:
Cash and cash equivalents $ 135,939 $ 20,517
Trade Receivables 79,756 28,982
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TOTAL CURRENT ASSETS 215,695 49,499
OFFICE FURNITURE AND EQUIPMENT, less accumulated depreciation of $162,091 and $482,553 36,295 62,392
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$ 251,990 $111,891
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I/NET, Inc.
Consolidated Balance Sheets - --------------------------------------------------------------------------------
- -------------------------------------------------------------------------------- December 31, 1997 1996 - --------------------------------------------------------------------------------
LIABILITIES AND CAPITAL DEFICITS
CURRENT LIABILITIES: Accounts payable $141,145 $ 142,605 Accruals: Commissions (Note 1) 250,000 250,000 Other 146,699 179,698 Advances from stockholders (Note 2) 134,778 119,778 Current maturities of long-term debt (Note 3) 649,000 1,122,000 - --------------------------------------------------------------------------------
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TOTAL CURRENT LIABILITIES 1,321,622 1,814,081
LONG-TERM DEBT, less current maturities (Note 3) 699,479 494,642
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TOTAL LIABILITIES 2,021,101 2,308,723
- -------------------------------------------------------------------------------- COMMITMENTS AND CONTINGENCIES (NOTES 1, 8 AND 11)
CAPITAL DEFICIT (NOTES 4 AND 9): Common stock, $.001 par value - shares authorized 50,000,000 issued and outstanding 31,037,652 in 1997 and 30,837,652 in 1996 31,038 30,838 Additional paid-in capital 11,886,674 11,836,874 Deficit (13,686,823)(14,064,544) - -------------------------------------------------------------------------------- TOTAL CAPITAL DEFICIT ( 1,769,111) 2,196,832) - -------------------------------------------------------------------------------- $ 251,990 $ 111,891 - -------------------------------------------------------------------------------- See accompanying summary of accounting policies and notes to consolidated financial statements.
I/NET, Inc.
Consolidated Statements of Operations - --------------------------------------------------------------------------------
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Year ended December 31, 1997 1996 - -------------------------------------------------------------------------------- REVENUES (NOTE 5) $1,692,170 $ 724,032
COST OF REVENUES 739,093 729,070 - -------------------------------------------------------------------------------- Gross Profits 953,077 (5,038) SELLING, GENERAL, and ADMINISTRATIVE EXPENSES 573,003 1,060,402 - -------------------------------------------------------------------------------- Earnings (Loss) from operations 380,074 ( 1,065,440)
INTEREST EXPENSE- net of interest income $1,843 in 1997 and $12,088 in 1996 100,299 66,612 - -------------------------------------------------------------------------------- EARNINGS (LOSS) BEFORE EXTRAORDINARY ITEM 279,775 (1,132,052)
EXTRSORDINARY ITEM: GAIN ON EXTINGUISHMENT of debt (Note 3) 97,946 - - -------------------------------------------------------------------------------- NET EARNINGS (LOSS) 377,721 $ (1,132,052) - -------------------------------------------------------------------------------- NET EARNINGS (LOSS) PER SHARE Basic and Diluted Earnings (loss) before extraordinary item $ .01 $ (.04) Extraordinary item - - ---------- ------------ Net Earnings (loss) per share .01 (.04) ========== ============ BASIC AND DILUTED WEIGHTED AVERAGE NUMBER OF COMMON SHARES OUTSTANDING 30,987,652 30,837,652 - --------------------------------------------------------------------------------
See accompanying summary of accounting policies and notes to consolidated financial statements.
I/NET, Inc.
Consolidated Statements of Capital Deficit - --------------------------------------------------------------------------------
- -------------------------------------------------------------------------------- Common Stock Additional Paid Shares Amount Capital Deficit Total
BALANCE, January 1, 1996 30,837,652 $30,838 $11,836,874 $(12,932,492)$(1,064,780)
NET LOSS FOR THE YEAR - - - ( 1,132,052) (1,132,052) - --------------------------------------------------------------------------------
BALANCE, December 31, 1996 30,837,652 $30,838 $11,836,874 $(14,064,544)$(2,196,832)
Issuance of stock for cash 200,000 200 49,800 - 50,000
Net earnings for the year 377,721 377,721 - -------------------------------------------------------------------------------- BALANCE, December 31, 1997 31,037,652 $31,038 $11,886,674 $(13,686,823)$(1,769,111) - --------------------------------------------------------------------------------
See accompanying summary of accounting policies and notes to consolidated financial statements.
I/NET, Inc.
Consolidated Statements of Cash Flows - --------------------------------------------------------------------------------
- -------------------------------------------------------------------------------- Year ended December 31, 1997 1996 - -------------------------------------------------------------------------------- OPERATING ACTIVITIES (NOTE 10): Earnings (Loss) $ 377,721 $(1,132,052) Depreciation and amortization 26,097 36,458 Extraordinary Item: Gain on extinquishment of debt(Note 3) ( 97,946) - Changes in assets and liabilities: Receivables ( 50,774) 23,318 Accounts payable ( 1,460) 7,140 Accruals ( 8,214) 207,220 - -------------------------------------------------------------------------------- CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES 245,424 (857,916) - -------------------------------------------------------------------------------- INVESTING ACTIVITIES (NOTE 10): Proceeds from note receivable - 30,000 Capital expenditures - (13,708) - -------------------------------------------------------------------------------- CASH PROVIDED BY INVESTING ACTIVITIES - 16,292 - -------------------------------------------------------------------------------- FINANCING ACTIVITIES (NOTE 10): Proceeds from issuance of notes to stockholders 100,000 300,000 Proceeds from issuance of common stock 50,000 - Principal payments on long-term debt (245,002) (120,687) Principal payments on notes to stockholders ( 35,000) - - -------------------------------------------------------------------------------- CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES (130,002) 179,313 - -------------------------------------------------------------------------------- Increase (Decrease) in Cash and Cash Equivalents 115,422 (662,311) Cash & Cash Equivalents, beginning of year 20,517 682,828 - -------------------------------------------------------------------------------- CASH AND CASH EQUIVALENTS, END OF YEAR $ 135,939 $20,517 - --------------------------------------------------------------------------------
See accompanying summary of accounting policies and notes to consolidated financial statements.
I/NET, Inc.
Summary of Accounting Policies - --------------------------------------------------------------------------------
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BASIS OF PRESENTATION
The consolidated financial statements include the accounts of the Company, I/NET, Inc., (a Delaware Corporation)and its wholly-owned subsidiary I/NET,Inc. a Michigan Corporation). Only the subsidiary remains an active Company and therefore the consolidated financial statements presented within are those of the subsidiary.
DESCRIPTION OF THE BUSINESS
The Company is engaged in the business of providing Website consulting services on a contract basis to private sector clients. In addition, the Company during 1996 further developed and began to market Internet computer software products. Its major customers were International Marketing Strategies (IMS) and International Business Machines (IBM) in 1997 and IMS in 1996. (See Note 5)
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
For purposes of the statement of cash flows, the Company considers all highly liquid investments with maturity of three months or less when purchased to be cash equivalents.
OFFICE FURNITURE, EQUIPMENT, AND DEPRECIATION
Office furniture and equipment are stated at cost. Depreciation is computed and Depreciation principally by the straight-line method for financial reporting purposes over the estimated useful lives of the assets and by accelerated methods for tax purposes.
TAXES ON INCOME
Deferred income taxes are recorded to reflect the future tax consequences of temporary differences between the tax bases of assets and liabilities and their financial reporting amounts at year-end.
STOCK BASED COMPENSATION
Effective January 1, 1996, the Company adopted Statement of Financial Accounting Standard: (SFAS) No. 123, "Accounting For Stock Based Compensation." The Company chose to apply Accounting Pronouncement Board (APB) Opinion 25 and related interpretations in accounting for its stock options. As a result, this statement did not have an effect on the financial position or results of operations of the Company.
DEVEOLPED COMPUTER SOFTWARE
Software development costs are accounted for in accordance with the provisions of Statement of Financial Accounting Standards (SFAS) No. 86, "Accounting for the Cost of Computer Software To Be Sold, Leased or Otherwise Marketed." Software development costs and certain product enhancements, when significant, are capitalized subsequent to the establishment of technological feasibility for the product and prior to the products general release to customers.
See accompanying notes to consolidated financial statements.
I/NET, Inc.
Summary of Accounting Policies - --------------------------------------------------------------------------------
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Costs incurred prior to technological feasibility or subsequent to the product's general release to customers, as well as selling, general, and administrative costs associated with the products, are expensed as incurred.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The Company's financial instruments consist of cash, receivables, notes payable, accounts payable and long-term debt. Due to the short-term nature of the items, other than long-term debt and the variable interest rates on a substantial portion of the long-term debt, management estimates that carrying amounts of the Company's financial instruments approximate their fair values at December 31, 1997.
REVENUE RECOGNITION
Revenues for the sale of the Company's Internet products are recognized when the product has been accepted by the customer. The Company records revenue for its long-term contracts on the percentage-of-completion basis. Under this method, revenues are determined by comparing costs incurred to date to the estimated total costs for the contract. The proportionate amounts of contract revenue are then recorded based on this percentage of completion of costs.
ADVERTISING COSTS
The Company expenses the cost of advertising as incurred. There were no advertising expenses in 1997, and advertising expenses were approximately $12,000 in 1996.
EARNINGS (LOSS) PER SHARE
Earnings (Loss) per share amounts have been calculated using the weighted average number of common shares outstanding, for the respective periods. Effective December 31, 1997, the Company adopted SFAS No. 128, "Earnings per Share". This pronouncement requires dual presentation of basic and diluted earning per share. All outstanding warrants and options are anti-dilutive at December 31, 1997.
NEW ACCOUNTING PRONOUNCEMENTS
In June 1997, SFAS No.130, "Reporting Comprehensive Income" and SFAS No. 131, "Disclosure about Segments of an Enterprise and Related Information" were issued. SFAS No. 130 addressed standards for reporting and display of comprehensive income and its components and SFAS No. 131 requires disclosure of reportable operating segments. In October 1997, Statement of Position (SOP) 97-2 "Software Revenue Recognition" was issued by the AICPA Accounting Standards Executive Committee. This SOP provides guidance on when revenue should be recognized and in what amounts for licensing, selling, leasing or otherwise marketing computer software. All statements are effective for the Company for the year ended December 31, 1998. The Company will be reviewing these pronouncements to determine their applicability to the Company if any.
See accompanying notes to consolidated financial statements.
I/NET, Inc.
Notes to Consolidated Financial Statements - --------------------------------------------------------------------------------
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1. COMMISSIONS
During 1996, the Company agreed to release a distributor from its exclusive contract to distribute certain I/NET products. In exchange for this release I/NET agreed to pay a 7.5% commission to the distributor of I/NET's sales of certain products sold through September 30, 1999 but at a minimum of $250,000 and a maximum amount of $500,000.
2. SHORT-TERM ADVANCES FROM STOCKHOLDERS Advances from stockholders consist of:
December 31, 1997 1996 Non-interest bearing notes payable to stockholders, due on demand $ 29,278 $ 29,278
Secured stockholder's advances bearing interest at 8%, and are due on demand 105,500 90,500
$ 134,778 $119,778
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3. LONG-TERM DEBT CONSISTS OF: December 31, 1997 1996
Notes payable to vendors (see below) $ 998,479 $1,134,304
Notes payable to bank, paid during 1997 - 50,375
Notes payable for a trademark, paid during 1997 - 131,963
Notes payable to stockholders bearing interest at 8% and due in December, 2001, secured by all the company's assets 350,000 300,000 - -------------------------------------------------------------------------------- 1,348,479 1,616,642 Less current maturities 649,000 1,122,000 - --------------------------------------------------------------------------------
TOTAL LONG-TERM DEBT $ 699,479 $ 494,642 - --------------------------------------------------------------------------------
I/NET, Inc.
Notes to Consolidated Financial Statements - --------------------------------------------------------------------------------
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NOTES PAYABLE TO VENDORS
Unsecured notes payable to various vendors totaling $998,479 are due in various installments and at varying interest rates.
Two notes totaling $440,655 are due on demand. These notes bear interest at the prime rate plus 2% (effectively 10.5% at December 31, 1997).
Another note in the amount of $129,108 is due in monthly installments at the rate of 5% of the previous months cash receipts (as defined) but at a minimum of $2,000 bi-monthly. The principle balance of this note was due in September, 1996. The Company is in default on repayment on this note but continues to make repayments as required by the original note. This note bears interest at 8% and is classified as current.
During March 1997, the Company reached agreement with a vendor on a previously defaulted note in the amount of $279,158 together with accrued interest in the amount of $24,784. The new agreement in the then amount of $303,942 calls for monthly installments of 5% of the previous months cash receipts (as defined) but at a minimum rate of $10,000 bi-monthly and bears interest at the prime rate plus 2%. This note has an outstanding balance of $274,000 as of December 31 1997. Final payment, assuming minimum payments only, is January 2004.
Another vendor note in the amount of $26, 616 is due in monthly installments of 5% of the previous month's cash receipts (as defined) but at a minimum rate of $2,000 bi-monthly and bears interest at the prime rate plus 2%. Final payment, assuming minimum payments only, is July 2000.
Another vendor note in the amount of $9,143 is due in monthly installments of $2,998 including interest at 11%. Final payment is March 1998.
During March 1997, the Company entered into an agreement with a note holder to form a joint venture. I/NET contributed previously written-off technology together with a trademark and web presence in exchange for the forgiveness of $97,946 of indebtedness. The noteholder is required to contribute cash and marketing expertise to this newly formed joint venture. There have been no operating activities on this joint venture to date. This $97,946 has been treated as an extraordinary item for financial statement purposes.
Another vendor note in the amount of $118,957 is due in monthly installments of 5% of the previous month's cash receipts (as defined) but at a minimum rate of $3,000 monthly and bears interest at 10%. Final payment, assuming minimum payments only, is January 2002.
I/NET, Inc.
Notes to Consolidated Financial Statements - --------------------------------------------------------------------------------
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Aggregate maturities of long-term debt over the next five years assuming repayment of stockholders' advances (Note 2) and notes are as follows:
1998 $ 784,000 1999 $ 76,000 2000 $ 78,000 2001 $ 430,000 Subsequent to 2001 $ 116,000
4. STOCK WARRANTS
During prior years, the Company sold and issued approximately 6,000,000 shares of its common stock for cash, trademark, and extinguishment of debt. In connection with the issuances, the Company issued warrants to the purchasers of the common stock to acquire up to 2,039,285 shares of common stock at prices ranging from $.25 to $2.40 per share. The warrants expire through 1999. During April 1997, a warrant holder exercised its option to purchase 200,000 shares of common stock at $.25 per share for cash. The remaining 1,839,285 warrants are exercisable at $2.40 per share and are not dilutive. Also, in connection with these sales, underwriters were issued warrants for 1,145,714 shares of common stock at a weighted average price of $.90 and are exercisable for five years, expiring in 1999. All remaining warrants were exercisable at December 31, 1997.
5. RELATED PARTY TRANSACTIONS/MAJOR CUSTOMERS
The Company provided Internet products, facilities management services and websight consulting services to a few majorcustomers as follows:
Year ended December 31, 1997 1996 - --------------------------------------------------------------------------------
Internet Products: International Business Machines $ 200,000 $ -
International Marketing Strategies(IMS) 405,000 346,000
SUPPORT NET, INC. (included with IMS for 1997) - 158,000
LANSA, INC. 300,000 - - -------------------------------------------------------------------------------- $905,000 $504,000
- -------------------------------------------------------------------------------- Facilities Management Services: Greater Kalamazoo Association of Realtors $ - $108,000
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Websight Consulting Services: International Business Machines (IBM) $702,000 -
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IBM is also a minority stockholder in the Company.
I/NET, Inc.
Notes to Consolidated Financial Statements - --------------------------------------------------------------------------------
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6. TAXES ON INCOME
Income taxes are calculated using the liability method specified by Statement of Financial Accounting Standards (SFAS) No. 109, "Accounting for Income Taxes."
Deferred income taxes reflect the net 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 of the Company's deferred tax assets are as follows:
- -------------------------------------------------------------------------------- December 31, 1997 1996 Deferred Tax Assets: Accruals $ 97,000 $ 99,000 Depreciation and amortization - 12,000 Trademark 61,000 66,000 Net operating loss carryforward 3,594,000 3,624,000 Tax credit carryforwards 42,000 42,000 Capital loss carryforwards 24,000 24,000 Deferred Revenue 17,000 17,000 - -------------------------------------------------------------------------------- Total Deferred Tax Assets 3,835,000 3,884,000
Valuation Allowance (3,835,000) (3,884,000) - -------------------------------------------------------------------------------- $ - $ -
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As of December 31, 1997, the Compan had a net operating loss carryforward approximately $10,257,000 and investment tax credit carryforwards of approximately $42,000 available to reduce future taxable income and taxes, respectively. These carryforwards expire from 1998 through 2011.
7. EMPLOYEE BENEFIT PLAN
The Company has a profit sharing and defined contribution pension plan covering substantially all employees. Under the plan, employees may make tax deferred voluntary contributions which, at the discretion of the Company Board of Directors, may be matched within certain limits by the Company. Inaddition, the Company may make additional discretionary contributions to the plan as profit sharing contributions. All contributions to the plan are limited by applicable Internal Revenue Code regulations. There were no Company contributions charged against operations in 1997 or 1996.
I/NET Inc.
Notes to Consolidated Financial Statements - --------------------------------------------------------------------------------
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8. OPERATING LEASE
The Company leases its facilities and certain equipment under non-cancelable operating leases.Rental expense under these leases was approximately $80,000 and $138,000 for the year ended December 31, 1997 and 1997 respectively. Future minimum annual lease payments subsequent to December 31, 1997 are as follows:
1998 $106,000 1999 $104,000 2000 $ 90,000 2001 $ 60,000
9. INCENTIVE STOCK OPTION PLAN
The Company maintains an incentive stock option plan that provides for the granting of options to officers and other key employees at an exercise price not less than 100% of the fair market value on the date of the grant. Twenty percent of the options become exercisable each year following the date they were granted, and can remain outstanding for five years following the day they become fully vested. Changes in options outstanding are summarized as follows: Option Price Weighted Average Shares PerShare Price Per Share - -------------------------------------------------------------------------------- January 1, 1996 139,436 $.18-2.50 $1.72 Lapsed ( 96,936) .18-2.50 1.39 - -------------------------------------------------------------------------------- December 31, 1996 42,500 2.50 2.50 Granted June 1997 100,000 .37 .37 Lapsed (27,500) 2.50 2.50 - -------------------------------------------------------------------------------- December 31, 1997 115,000 $.37-2.50 $ .65 - --------------------------------------------------------------------------------
Of the 139,936 options outstanding at January 1, 1996, all but 77,634 had an exercise price of $2.50. The 77,634 had been granted to one employee, had an exercise price of $.18 and lapsed in 1996.
At December 31, 1997, 582,255 shares of common stock are reserved for the incentive stock option plan and 9,000 options were vested and exercisable. The remaining contractual life on these options is seven years. The remaining contractual life of the 106,000 shares outstanding is ten years.
Under SFAS No. 123, "Accounting for Stock Based Compensation", the Company is required to provide pro forma information regarding net income and earnings per share as if compensation cost for the Company's stock option plan had been determined in accordance with the fair value based method prescribed in SFAS No. 123. The Company estimates the fair value of each stock option at the grant date
I/NET, Inc.
Notes to Consolidated Financial Statements - --------------------------------------------------------------------------------
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by using the Black-Scholes option-pricing model with the following assumptions used for the grant in 1997: expected volatility of 93 percent; risk-free interest rate of 6.4 percent; and an expected option life at 10 years.
Under the accounting provisions of SFAS #123, the Company's net income for 1997 would have been reduced from $377,721 to the pro forma amount of $344,721. Earnings per share were not affected.
10. SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Noncash investing and financing activities are summarized as follow
Year ended December 31, 1997 1996
Extinquishment of indebtedness $ 98,000 - - -------------------------------------------------------------------------------- Conversion of accounts payable into vendor notes payable $ - $223,000 - --------------------------------------------------------------------------------
Conversion of accrued interest payable into vendor notes payable $ 25,000 $ 36,000 - --------------------------------------------------------------------------------
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Interest paid for the years ended December 31, 1997 and 1996, was $57,000 and $78,000, respectively. The Company paid no income taxes during 1997 and 1996.
11. CONTINGENCIES Royalties On September 30,1997, the Company entered into a software license agreement with Netscape Communications Corporation (Netscape)wherein Netscape granted to the Company the right to port certain of its Internet Server products to the IBM AS/400 platform. This agreement is for a period of three years and allows the Company to market and distribute the ported products upon their modification to the AS/400 platform.
In exchange for this license agreement, I/NET has agreed to pay minimum royalties to Netscape in the amount of $3,000,000 according to the following repayment schedule.
Paid by IBM on behalf of I/NET in October, 1997 $ 250,000 September 30, 1998 $ 750,000 September 30, 1999 $1,000,000 September 30, 2000 $1,000,000
I/NET, Inc.
Notes to Consolidated Financial Statements - --------------------------------------------------------------------------------
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In addition, I/NET has agreed to pay to Netscape annual development support fees in the amount of $250,000 for a period of three years. International Business Machines Corporation has guaranteed to Netscape the above listed royalties in the event that product sales are insufficient to repay amounts due under this agreement.
In addition, IBM will provide advances against royalties in the amount of $600,000 as certain tasks are completed during the porting of the Netscape products to the IBM platform. These amounts will be reimbursed to IBM after deduction of Netscape royalties, in the amount of 10% of total revenue received from the sale of the ported products with the first reimbursement due in March 1998. The Company recognized $200,000 of revenue from these advances in 1997 as certain milestone events were met. These advances are treated as if under a research and development agreement whereby I/NET is not obligated to repay any of these funds advanced by IBM except from royalties of future sales, if any. It anticipates recording the remaining $400,000 as revenue as other milestones are met in 1998.
LITIGATION The Company is involved in various legal actions arising from the normal course of business. Management does not anticipate any material losses as a result of these proceedings.
12. CONINUED EXISTENCE
The Company's financial statements have been presented on the basis that it is a going concern, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. The Company has suffered recurring losses from operations in prior years, has a significant working capital deficit, and requires additional capital to continue its product development. Management believes the Company will continue as a going concern and is actively marketing its products which would enable the Company to meet its current obligations and provide additional funds for continued new product development. In addition, management is currently negotiating several additional contracts for its services and products. However, there can be no assurance these activities will be successful.