<PAGE>
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Property and Equipment - Property and equipment is stated at cost.
Expenditures for maintenance and repairs are charged to expense as incurred.
Depreciation and amortization are provided using the straight-line method over
the estimated useful lives of the related assets. Ranges of useful lives are as
follows:
Years
-----
Computer software................................ 3
Office and computer equipment.................... 3-5
Furniture and fixtures........................... 7
Leasehold improvements........................... 1-5
Vehicles......................................... 5
Intangible Assets - Intangible assets are recorded at cost and are
amortized on a straight-line basis over their estimated useful lives (generally
five years).
Impairment of Long-Lived Assets - Recoverability of intangible and other
long-lived assets is determined periodically by comparing the forecasted,
undiscounted net cash flows of the operations to which the assets relate to
their carrying amounts.
Adoption of New Accounting Pronouncements - In June 1998, the Financial
Accounting Standards Board ("FASB") issued SFAS No. 133, "Accounting for
Derivative Instruments and Hedging Activities." SFAS No. 133 establishes
accounting and reporting standards for derivative instruments, including certain
derivative instruments embedded in other contracts, and for hedging activities.
The Company adopted SFAS No. 133 on January 1, 2001 as required. The adoption of
this accounting standard did not have an effect on the Company's financial
position or the results of its operations.
On December 3, 1999, the SEC issued Staff Accounting Bulletin ("SAB") No.
101, "Revenue Recognition in Financial Statements." SAB No. 101 provides
guidance on the recognition, presentation and disclosure of revenues in
financial statements filed with the SEC. The Company adopted SAB No. 101 in the
fourth quarter of 2000. The adoption of this bulletin did not have an effect on
the Company's financial position and its results of operations.
Reclassifications - Certain reclassifications have been made to the 1999
amounts to conform to the 2000 presentation.
51
<PAGE>
3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Supplemental Cash Flow Information - The following table sets forth certain
supplemental cash flow information for the year ended December 31, 2000, the
five months ended December 31, 1999 and the year ended July 31, 1999:
<TABLE>
<CAPTION>
Five Months
Year Ended Ended Year Ended
December December July 31,
31, 2000 31, 1999 1999
----------- ---------- ----------
<S> <C> <C> <C>
Cash paid during the period for interest ................................... $ 37,591 $ 16,548 $ 53,721
Non-Cash Financing Activities
Conversion of related-party loans and accrued interest into preferred
stock ............................................................... $ 3,216,171 $ -- $ --
Acquisition of technology and related patent application through the
issuance of common stock ............................................ 993,103 -- --
Conversion of related party loans, notes payable, advances and related
accrued interest into common stock .................................. 2,024,537 500,000 --
Property and equipment acquired through the issuance of debt and trade
credit .............................................................. 2,696,004 488,393 --
Customer list acquired through the issuance of debt and common
stock ............................................................... 900,000 -- --
Dividends on convertible preferred stock, Series A payable in
shares of common stock .............................................. 195,736 -- --
Warrants granted in connection with the issuance of convertible notes
payable to related-parties .......................................... 83,317 -- --
Beneficial conversion feature of convertible notes payable to
related parties .................................................... 101,276 -- --
Liabilities to the former officers of Ebony & Gold Ventures, Inc.
forgiven in conjunction with the reverse merger ..................... 17,564 -- --
Conversion of accounts payable into long-term debt ...................... -- -- 406,514
</TABLE>
4. PROPERTY AND EQUIPMENT
Property and equipment consist of the following:
December 31,
-----------------------------
2000 1999
----------- -----------
Computer software .............................. $ 2,676,766 $ 314,491
Office and computer equipment .................. 1,272,830 263,241
Furniture and fixtures ......................... 229,642 149,934
Leasehold improvements ......................... 80,962 80,632
Vehicles ....................................... 66,916 --
----------- -----------
Total property and equipment .............. 4,327,116 808,298
Less accumulated depreciation .................. (613,621) (73,928)
----------- -----------
Property and equipment, net ................ $ 3,713,495 $ 734,370
=========== ===========
52
<PAGE>
4. PROPERTY AND EQUIPMENT (Continued)
The cost and related accumulated depreciation of leased office and computer
equipment which have been capitalized aggregate $1,041,000 and $144,000 at
December 31, 2000 and $109,000 and $1,000 at December 31, 1999,
respectively.
5. INTANGIBLE ASSETS
Intangible assets consist of the following at December 31, 2000:
Acquired technology and patent application............ $ 993,103
Acquired customer list................................ 1,029,969
-----------
2,023,072
Less accumulated amortization......................... (85,831)
-----------
Intangible assets, net............................. $ 1,937,241
===========
Acquired Technology and Patent Application - In conjunction with the
Merger, the Company purchased technology and a related patent application from
Virtuosity Press LLC in exchange for 1,379,310 shares of common stock. The U.S.
patent office has not awarded the patent to the Company at December 31, 2000.
Accordingly, no amortization of the asset has been recorded in the accompanying
consolidated financial statements as of December 31, 2000. When approval of the
patent is received, the Company will determine the useful life of the patent,
and begin amortization of the purchase cost on a straight-line basis over the
estimated useful life.
Acquired Customer List. - On August 2, 2000, the Company entered into an
Asset Purchase Agreement (the "Agreement") with Copytron, an unrelated entity,
to purchase a customer list for a maximum aggregate purchase price of up to
$1,300,000. The terms of the agreement required aggregate cash payments of
$300,000, $100,000 at closing and $200,000 payable in three installments with
the last $100,000 due on October 9, 2000, and the $1.0 million balance of the
purchase price to be paid through the issuance of three tranches of the
Company's common stock. The Company paid the $100,000 at closing and one
additional $100,000 installment during 2000. However, given the Company's
financial position, the Company only paid $50,000 as of December 31, 2000
against the last installment and the balance of $50,000 owing on the last
installment remains unpaid as of June 25, 2001. Accordingly, the Company is in
default under the terms of this promissory note. On August 2, 2000, the Company
issued 238,298 shares of common stock with an aggregate value of $700,000 as
payment of the first tranche under the Agreement. On the one year anniversary of
the Agreement, and in the event that the fair value of the Company's common
stock is less than the fair market value, as defined in the Agreement, the
Company is obligated to pay, either in cash or in common stock at the
discretion of the Company, an amount, which when combined with the value of the
original issuance of the Company common stock has an aggregate value of
$700,000. The Company intends to satisfy this requirement by issuing additional
shares of common stock. As calculated using the April 23, 2001 fair market value
of the Company's common stock, the Company would be obligated to issue an
additional 720,000 shares. In addition, the Company will issue additional shares
of common stock on August 2, 2001 and 2002, if annual sales from customers
previously served by Copytron exceed $700,000, with each issuance having a then
current fair market value of up to $150,000. The customer list is being
amortized on a straight-line basis over an estimated life of 5 years.
6. NOTES PAYABLE AND OTHER DEBT (INCLUDING RELATED-PARTY FINANCINGS)
Notes payable and other debt consist of the following:
December 31,
--------------------------
2000 1999
----------- -----------
Capital lease obligations ......................... $ 883,105 $ 108,051
Ford Motor Credit Company ......................... 17,067 --
Notes payable to Verus Investments Holdings, Ltd. . 1,139,261 500,000
Note payable to Copytron, Inc. .................... 50,000 --
Notes payable to stockholders ..................... -- 2,953,759
Equipment supplier promissory note ................ -- 231,254
Advance under line of credit ...................... -- 95,539
Small Business Administration loans ............... -- 94,818
----------- -----------
Sub-total ..................................... 2,089,433 3,983,421
Less: Unamortized debt discount ............... (176,161) --
----------- -----------
Total Debt .................................... 1,913,272 3,983,421
Less: Amounts due to related parties .......... (1,013,100) (2,953,759)
Current portion of long-term debt ....... (888,587) (437,838)
----------- -----------
Long-term debt ................................. $ 11,585 $ 591,824
=========== ===========
53
<PAGE>
6. NOTES PAYABLE AND OTHER DEBT (INCLUDING RELATED PARTY FINANCINGS)
(Continued)
Capital lease obligations - The Company leases computer hardware and
software and certain office equipment under noncancelable leases expiring at
various dates through 2004. The Company has not complied with the payment
provisions within these leases and accordingly is in default at December 31,
2000. The Company has classified these leases within the current portion of
long- term debt in the accompanying consolidated balance sheet at December 31,
2000.
Scheduled future minimum lease payments, without giving effect to the event
of default, at December 31, 2000 are as follows:
Year Ending December 31,
-----------------------
2001 $ 748,606(1)
2002 183,212
2003 38,546
2004 19,249
----------
Total 989,613
Less amounts representing interest 106,508
----------
Present value of minimum lease payments $ 883,105
----------
(1) Includes $218,900 of payments in arrears
Ford Motor Credit Company - On March 2, 2000, the Company financed the
purchase of a motor vehicle. The loan is due in 48 monthly installments of $435,
including interest at an annual rate of 0.9%, with a final maturity on April 15,
2004. Approximately $5,482 is due within the next twelve (12) months and
included within the current portion of long-term debt in the accompanying
consolidated balance sheet at December 31, 2000. The balance of $11,585 is
included in long-term-debt.
Notes Payable to Verus Investments Holdings, Inc. - Subsequent to the
Merger, Verus Investments Holdings, Inc. ("Verus"), a stockholder and a British
Virgin Islands corporation controlled by a director of the Company, provided
$939,261 through a promissory note and $200,000 through convertible notes to
fund the Company's working capital needs. The notes are unsecured, carry
interest at a rate of 8% and 10%, respectively, per annum and mature December
31, 2001 and November 22, 2001, respectively. The $200,000 convertible notes are
convertible, at the option of the holder, into shares of common stock on the
earlier of 1) November 22, 2001 at a conversion rate of $2.35 per share or 2) at
anytime at a conversion rate of $2.94 per share when the average price, as
defined in the convertible note agreement, exceeds $3.675.
Since the fair market value of the Company's common stock was $2.56 on the
date the $200,000 convertible notes payable were issued and the notes could
ultimately be converted at a lower per share value, the convertible notes
contained a beneficial conversion feature. In accordance with Emerging Issues
Task Force Issue No. 00-27 "Application of Issue No. 98-5 to Certain Convertible
Instruments", the Company allocated $101,276 of the proceeds received to the
beneficial conversion feature which was recorded as a discount on the issuance
of the convertible notes and an increase to additional paid-in capital. The
discount will be amortized and recognized through a charge to interest expense
over the twelve month period ended November 22, 2001. None of the convertible
notes have been converted through December 31, 2000.
In addition, Verus was granted warrants to purchase 50,000 shares of common
stock at $2.94 per share in connection with the financing transactions. The fair
value of the warrants of $83,317 was recorded as a discount on the issuance of
the convertible notes and an increase in additional paid-in capital. The
discount will be amortized and recognized through a charge to interest expense
using the effective interest method through the convertible notes' maturity
date. The fair value of the warrants was determined using the Black-Scholes
option pricing model
54
<PAGE>
6. NOTES PAYABLE AND OTHER DEBT (INCLUDING RELATED PARTY FINANCINGS)
(continued)
based on a quoted market price of the common stock of $2.56 on the issuance
date; a risk-free interest rate of 6.5%; an expected warrant life of 3 years; no
dividends; and a volatility of 106%.
During 1999, the Company obtained two promissory notes from Verus in the
amount of $250,000 each, bearing an annual interest rate of 8%. The notes
payable, advances and accrued interest were converted into the Company's common
stock on March 31, 2000 in conjunction with the Merger.
Note Payable to Copytron, Inc. - In connection with the customer list
acquired from Copytron, the Company issued a $200,000 in promissory note payable
in three monthly installments through October 9, 2000. The Company did not pay
$50,000 against the last $100,000 installment of the promissory note as of
December 31, 2000 and, accordingly, the Company is in default under the terms of
the promissory note.
Note payable to Stockholders - The Company has been financed principally by
loans from its stockholders. At December 31, 1999, the outstanding notes payable
to stockholders aggregated $2,953,759, at an annual interest rate ranging from
8% to 8.25%, and were due at various dates through June 2000. In connection with
the Merger, the $2,953,759 in principal plus accrued interest was converted into
2,135,301 shares of the Company's Series A Preferred Stock.
Equipment Supplier Promissory Note - On April 15, 1999, the Company
converted $406,514 of amounts due to an equipment supplier into a promissory
note due December 15, 1999. At December 31, 1999, the Company was in default of
the promissory note. Accordingly, the note was classified and included within
current long-term debt at December 31, 1999. In April 2000, the Company repaid
the note, including the related accrued interest, with the proceeds from the
sale of common stock issued in conjunction with the Merger.
Line of Credit - The Company had a line of credit which allowed borrowings
up to $100,000. In April 2000, the Company repaid the line in full, including
the related accrued interest, with the proceeds from the sale of the common
stock issued in conjunction with the Merger, and the line of credit was
cancelled.
Small Business Administration Loans - In April 2000, the Company repaid the
loans in full, including the related accrued interest, with the proceeds from
the sale of common stock issued in conjunction with the Merger.
7. EQUITY
Stock Option and Restricted Stock Grants Under 2000 Stock Option Plan
The Company has a 2000 Stock Option Plan (the "Plan") pursuant to which
employees, officers, directors, consultants and advisors of the Company are
eligible to receive stock options, restricted stock, and other stock-based
awards, including stock appreciation rights. The maximum number of shares of
common stock that may be issued under the Plan is 5,000,000. The Plan is
administered by the Board of Directors, which has the authority to designate the
nature of the award, the number of shares and the vesting period, among other
terms. The stock options expire no later than ten years from the date of grant.
As of December 31, 2000, there were 2,883,853 shares of common stock available
for future issuance under the Plan.
During the year ended December 31, 2000, the Company granted options to
purchase 1,429,738 shares of its common stock at a weighted average exercise
price of $.66 to its employees. In addition, in connection with the Merger, the
Company adjusted the number and exercise price of certain unexercised options.
These adjustments were accounted for in accordance EIFT Issue No. 90-9, "Changes
to Fixed Employee Stock Option Plans as a Result of Equity Restructuring".
Certain options granted during 2000 include a cashless exercise feature allowing
the grantee to exercise the option and to utilize the appreciation in the value
of the common stock as payment for the shares received.
55
<PAGE>
7. EQUITY (Continued)
The Company accounts for stock options granted to employees and
non-employee directors in accordance with APB No. 25. Under APB No. 25,
compensation expense is recorded when fixed award options are granted with
exercise prices at less than the fair value of the common stock on the date of
grant. Options with a cashless exercise feature are accounted for as variable
award options. Variable award options are subject to remeasurement criteria and
could result in additional future compensation expense until such time as the
options are either exercised, forfeited or expire without exercise. For unvested
options, deferred compensation is recorded and amortized as stock-based
compensation expense over the future vesting period.
The Company recorded stock-based compensation expense of $390,602 relating
to the employee stock option grants in 2000. Additional stock-based compensation
expense will be recorded in the future as the deferred compensation of $16,115
at December 31, 2000 is amortized over the remaining three-year vesting period.
In 2000, the Company also awarded 341,581 shares of common stock under the
Plan at a weighted average exercise price of $.89 to certain employees and a
former employee. The Company recorded stock-based compensation expense of
$172,200 during the year ended December 31, 2000 in connection with these awards
based on the fair value of the shares at the dates of grant.
Stock option activity for the year ended December 31, 2000, the five months
ended December 31, 1999 and the year ended July 31, 1999 was as follows:
Weighted
Number of Average
Shares Exercise Price
--------- --------------
Outstanding at August 1, 1998 .................. -- $ --
Granted ..................................... 344,828 .29
Exercised ................................... -- --
Cancelled ................................... -- --
---------
Outstanding at July 31, 1999 ................... 344,828 .29
Granted ..................................... 517,242 .58
Exercised ................................... -- --
Cancelled ................................... -- --
---------
Outstanding at December 31, 1999 ............... 862,070 .46
Granted ..................................... 1,429,738 .66
Exercised ................................... -- --
Cancelled ................................... (517,242) (.39)
---------
Outstanding at December 31, 2000 ............... 1,774,566 .64
=========
Exercisable at December 31, 2000 ............... 1,273,565
Exercisable at December 31, 1999 ............... 344,828
Exercisable at July 31, 1999 ................... --
The weighted average fair value of options granted during the year ended
December 31, 2000, the five months ended December 31, 1999 and the year ended
July 31, 1999 was $.47, $.12, and $.16 respectively.
56
<PAGE>
7. EQUITY (continued)
The following table sets forth additional information regarding options
outstanding at December 31, 2000:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
------------------------------- --------------------------------
Exercise Number of Weighted Average Weighted Average Number of Weighted Average
Prices Shares Exercise Price Remaining Life - Years Shares Exercise Price
-------- --------- ---------------- ---------------------- -------- ----------------
<S> <C> <C> <C> <C> <C>
$ .29 344,828 $ .29 8.50 344,828 $ .29
$ .58 862,070 $ .58 9.28 862,070 $ .58
$ .66 330,334 $ .66 9.17
$ 1.25 166,667 $ 1.25 9.00 -- --
$ 1.50 66,667 $ 1.50 9.25 66,667 $ 1.50
$ 2.88 4,000 $ 2.88 9.41 -- --
</TABLE>
Pro Forma Disclosure - The Company uses the intrinsic value method to
measure compensation expense associated with grants of employee stock options.
SFAS No. 123 requires the disclosure of pro forma information as if the Company
adopted the fair value method of accounting for grants to employees. For
purposes of the pro forma disclosures, the fair value of the options on their
grant date was measured using the Black-Scholes option pricing model.
Forfeitures are recognized as they occur.
Had compensation expense on the employee options been determined based on
the fair value method of accounting in accordance SFAS No. 123, the Company's
net loss and net loss per common share would have been as follows:
<TABLE>
<CAPTION>
Year Ended Five Months Ended Year Ended
December 31, 2000 December 31, 1999 July 31, 1999
----------------- ----------------- -------------
<S> <C> <C> <C>
As Reported:
-------------
Net loss attributable to common stockholders ... $ (8,194,279) $ (1,060,646) $ (2,182,431)
------------ ------------ ------------
Net loss per common share - basic and
diluted .................................... (.51) (.15) (.36)
------------ ------------ ------------
Pro Forma:
-------------
Net loss attributable to common stockholders ... $ (8,564,388) $ (1,102,717) $ (2,190,833)
------------ ------------ ------------
Net loss per common share - basic and
diluted .................................... (.53) (.16) (.36)
------------ ------------ ------------
</TABLE>
Key assumptions used to apply the Black-Scholes option-pricing model are as
follows:
<TABLE>
<CAPTION>
Year Ended Five Months Ended Year Ended
December 31, 2000 December 31, 1999 July 31, 1999
----------------- ----------------- -------------
<S> <C> <C> <C>
Risk-free interest rate............................ 6.0% 5.5% 5.5%
Expected life of the options....................... 1-3 Years 3 Years 3 Years
Expected volatility of underlying stock............ 100% 40.7% 40.7%
Dividends.......................................... None None None
</TABLE>
57 |
