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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
FORM 10-Q
(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2002
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NUMBER: 000-25269
VERTICALNET, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
PENNSYLVANIA 23-2815834
(STATE OR OTHER JURISDICTION (I.R.S. EMPLOYER
OF INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
300 CHESTER FIELD PARKWAY
MALVERN, PENNSYLVANIA 19355
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE:
(610) 240-0600
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports) and (2) has been subject to such
filing requirements for the past 90 days:
Yes [X] No [ ]
Indicate the number of shares outstanding of each of the Registrant's
classes of common stock, as of the latest practicable date:
As of April 30, 2002, 115,621,410 shares of the Registrant's common stock
were outstanding.
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VERTICALNET, INC.
FORM 10-Q
(FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2002)
TABLE OF CONTENTS
PAGE
----
Part I. FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements........................... 3
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................... 18
Item 3. Quantitative and Qualitative Disclosures About Market
Risk........................................................ 33
Part II. OTHER INFORMATION
Item 1. Legal Proceedings........................................... 35
Item 2. Changes in Securities and Use of Proceeds................... 36
Item 3. Defaults Upon Senior Securities............................. 36
Item 4. Submission of Matters to a Vote of Security Holders......... 36
Item 5. Other Information........................................... 36
Item 6. Exhibits and Reports on Form 8-K............................ 36
2
VERTICALNET, INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT FOR SHARE AND PER SHARE DATA)
MARCH 31, DECEMBER 31,
2002 2001
----------- ------------
(UNAUDITED)
ASSETS
Current assets:
Cash and cash equivalents................................. $ 33,983 $ 50,252
Short-term investments.................................... 33 36
Accounts receivable, net of allowance for doubtful
accounts of $67 in 2002 and $101 in 2001............... 2,306 692
Prepaid expenses and other assets......................... 3,816 5,922
Assets held for disposal.................................. 9,126 10,319
----------- -----------
Total current assets................................... 49,264 67,221
----------- -----------
Property and equipment, net................................. 5,983 6,896
Goodwill and other intangibles, net of accumulated
amortization of $24,618 in 2002 and $24,302 in 2001....... 30,094 30,410
Long-term investments....................................... 1,912 2,599
Other investments........................................... 14,131 10,831
Other assets................................................ 6,329 7,674
----------- -----------
Total assets........................................... $ 107,713 $ 125,631
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Accounts payable.......................................... $ 3,029 $ 3,563
Accrued expenses.......................................... 15,814 23,707
Deferred revenues......................................... 25,824 24,381
Other current liabilities................................. 12,937 14,949
Liabilities held for disposal............................. 10,392 22,279
----------- -----------
Total current liabilities.............................. 67,996 88,879
----------- -----------
Long-term debt.............................................. 416 550
Other long-term liabilities................................. 1,912 2,599
Convertible notes........................................... 21,705 21,705
----------- -----------
Total liabilities...................................... 92,029 113,733
----------- -----------
Commitments and contingencies (see Notes 9 and 10)
Series A 6.00% convertible redeemable preferred stock, $.01
par value issued 250,000 shares authorized, 110,930 shares
issued in 2002 and 109,290 shares in 2001 plus accrued
dividends of $1,664 in 2002 (liquidation value of
$110,930)................................................. 104,098 102,180
Put arrangement involving common stock...................... 1,057 1,057
Shareholders' equity (deficit):
Preferred stock $.01 par value, 9,750,000 shares
authorized, none issued in 2002 and 2001............... -- --
Common stock $.01 par value, 1,000,000,000 shares
authorized, 115,490,707 shares issued in 2002 and
113,006,208 shares issued in 2001...................... 1,155 1,130
Additional paid-in capital................................ 1,054,582 1,054,334
Deferred compensation..................................... (285) (98)
Accumulated other comprehensive loss...................... (895) (959)
Accumulated deficit....................................... (1,143,223) (1,144,941)
----------- -----------
(88,666) (90,534)
Treasury stock at cost, 656,356 shares in 2002 and 2001... (805) (805)
----------- -----------
Total shareholders' equity (deficit)................... (89,471) (91,339)
----------- -----------
Total liabilities and shareholders' equity (deficit)... $ 107,713 $ 125,631
=========== ===========
See accompanying notes to consolidated financial statements.
3
VERTICALNET, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT FOR PER SHARE DATA)
THREE MONTHS ENDED
MARCH 31,
--------------------
2002 2001
-------- --------
(UNAUDITED)
REVENUES:
Software license....................................... $ 6,258 $ 6,401
Services and maintenance............................... 1,747 2,892
-------- --------
Total Revenue............................................... 8,005 9,293
COST OF REVENUE:
Cost of license........................................ 266 357
Cost of acquired technology............................ 160 850
-------- --------
Cost of software............................................ 426 1,207
Cost of maintenance and services............................ 1,463 7,554
-------- --------
Total cost of revenue....................................... 1,889 8,761
Research and development.................................... 3,516 6,528
Sales and marketing......................................... 1,749 6,602
General and administrative.................................. 3,551 8,068
Restructuring and asset impairment charges.................. 1,355 1,490
Amortization and other intangible expenses.................. 1,056 39,286
-------- --------
13,116 70,735
-------- --------
Operating loss.............................................. (5,111) (61,442)
-------- --------
Net interest expense and other.............................. (652) (9,042)
-------- --------
Loss from continuing operations............................. (5,763) (70,484)
DISCONTINUED OPERATIONS:
Income (loss) from operations of the SMB business......... 7,481 (19,341)
Loss on disposal of NECX.................................. -- (522)
-------- --------
Net income (loss)........................................... 1,718 (90,347)
Preferred stock dividends and accretion..................... (1,917) (1,819)
-------- --------
Loss attributable to common shareholders.................... $ (199) $(92,166)
======== ========
BASIC AND DILUTED LOSS PER COMMON SHARE:
Continuing operations..................................... $ (0.07) $ (0.78)
Income (loss) from discontinued operations................ 0.07 (0.21)
-------- --------
Loss per common share..................................... $ (0.00) $ (0.99)
======== ========
Weighted average common shares outstanding used in basic and
diluted per share calculation............................. 111,384 92,650
======== ========
See accompanying notes to consolidated financial statements.
4
VERTICALNET, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
THREE MONTHS ENDED
MARCH 31,
--------------------
2002 2001
-------- --------
(UNAUDITED)
Net income (loss)........................................... $ 1,718 $(90,347)
Adjustments to reconcile net income (loss) to net cash used
in operating activities:
Depreciation and amortization............................. 3,185 48,772
Intangible asset impairment............................... -- 1,493
Write-down related to cost method investments............. -- 7,685
Other noncash charges..................................... (191) (141)
Gain on disposal of property and equipment................ (108) --
Loss from equity method investments....................... -- 1,073
Loss on disposal of discontinued operations............... -- 522
Net loss on investments................................... -- 2,188
Change in assets and liabilities, net of effect of
acquisitions:
Accounts receivable....................................... (1,636) (2,302)
Prepaid expenses and other assets......................... 2,204 3,180
Accounts payable.......................................... (666) 487
Accrued restructuring charge expenses..................... (604) 2,444
Other accrued expenses.................................... (2,638) (44,916)
Deferred revenues......................................... (9,970) 12,293
-------- --------
Net cash used in operating activities.................. (8,706) (57,569)
-------- --------
Investing activities:
Acquisitions, net of cash acquired........................ (4,993) (22,378)
Purchase of cost, equity method, and other investments,
net of liquidation proceeds............................ (3,195) (3,502)
Proceeds from sale and redemption of available-for-sale
investments............................................ -- 17,200
Restricted cash........................................... 1,488 --
Proceeds from sale of assets.............................. 239 --
Capital expenditures...................................... (323) (9,506)
-------- --------
Net cash used in investing activities.................. (6,784) (18,186)
-------- --------
Financing activities:
Principal payments on long-term debt and obligations under
capital leases......................................... (953) (574)
Proceeds from issuance of common stock.................... -- 15,000
Proceeds from exercise of stock options and employee stock
purchase plan.......................................... 174 485
-------- --------
Net cash provided by (used in) financing activities.... (779) 14,911
-------- --------
Net decrease in cash........................................ (16,269) (60,844)
Cash and cash equivalents -- beginning of period............ 50,252 123,803
-------- --------
Cash and cash equivalents -- end of period.................. $ 33,983 $ 62,959
======== ========
Supplemental disclosure of cash flow information:
Cash paid during the period for interest.................. $ 569 $ 622
======== ========
Supplemental schedule of noncash investing and financing
activities:
Issuance of common stock as consideration for
acquisitions........................................... $ -- $ 21,290
Preferred dividends....................................... 1,917 1,819
See accompanying notes to consolidated financial statements.
5
VERTICALNET, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (DEFICIT)
(IN THOUSANDS)
ACCUMULATED TOTAL
COMMON STOCK ADDITIONAL OTHER SHAREHOLDERS'
---------------- PAID-IN DEFERRED COMPREHENSIVE ACCUMULATED TREASURY EQUITY
SHARES AMOUNT CAPITAL COMPENSATION LOSS DEFICIT STOCK (DEFICIT)
------- ------ ---------- ------------ ------------- ----------- -------- -------------
Balance, December 31,
2001.................... 113,006 $1,130 $1,054,334 $ (98) $(959) $(1,144,941) $(805) $(91,339)
Series A 6.00% convertible
redeemable preferred
stock dividends accrued
and accretion........... -- -- (1,917) -- -- -- -- (1,917)
Exercise and acceleration
of options.............. 334 3 170 -- -- -- -- 173
Shares issued through
employee stock purchase
plan.................... 151 2 42 -- -- -- -- 44
Shares issued to reduce
Put/ Call liability (See
Note 5)................. 2,000 20 1,735 -- -- -- -- 1,755
Unearned compensation..... -- -- 218 (218) -- -- -- --
Amortization of unearned
compensation............ -- -- -- 31 -- -- -- 31
Net income................ -- -- -- -- -- 1,718 -- 1,718
Other comprehensive
income.................. -- -- -- -- 64 -- -- 64
------- ------ ---------- ----- ----- ----------- ----- --------
Balance, March 31, 2002
(unaudited)............. 115,491 $1,155 $1,054,582 $(285) $(895) $(1,143,223) $(805) $(89,471)
======= ====== ========== ===== ===== =========== ===== ========
See accompanying notes to consolidated financial statements.
6
VERTICALNET, INC.
CONSOLIDATED STATEMENTS OF OTHER COMPREHENSIVE INCOME (LOSS)
(IN THOUSANDS)
THREE MONTHS ENDED
MARCH 31,
------------------
2002 2001
------ --------
(UNAUDITED)
Net income (loss)........................................... $1,718 $(90,347)
Unrealized gain on forward sale............................. 724 19,293
Foreign currency translation adjustment..................... 68 (1,167)
Unrealized loss on investments.............................. (728) (17,277)
------ --------
Comprehensive income (loss)................................. $1,782 $(89,498)
====== ========
See accompanying notes to consolidated financial statements.
7
VERTICALNET, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(1) VERTICALNET, INC. AND BASIS OF PRESENTATION
Description of the Company
Verticalnet, Inc. was incorporated in Pennsylvania on July 28, 1995. We are
a leading provider of collaborative supply chain solutions that enable
companies, and their supply and demand chain partners to communicate,
collaborate, and conduct commerce more effectively. With a comprehensive set of
collaborative supply chain software applications including spend management,
strategic sourcing, collaborative planning, and order management, we offer a
broad integrated supply chain solution delivered through a multi-party platform.
Additionally, we have the Small/Medium Business ("SMB") group (formerly referred
to as Verticalnet Markets) that operates and manages the 59 industry-specific
on-line marketplaces. Our SMB business is a leading provider of internet
enabled, industry-specific supplier networks designed to allow small-to
medium-sized companies to conduct business with enterprise buyers over the Web.
On February 13, 2002, we announced our intention to sell the SMB group. Our
board of directors authorized this action to complete our strategic realignment
to an enterprise software business. The operating results of this unit have been
reflected as a discontinued operation in our consolidated financial statements.
The assets and liabilities of this unit are reflected as held for disposal on
our consolidated balance sheets.
On January 31, 2001, we completed the sale of our Verticalnet Exchanges
("NECX") business unit, which focused on trading electronic components and
hardware in open and spot markets. The operating results of this unit through
January 31, 2001, are reflected as a discontinued operation in our consolidated
financial statements.
Our consolidated financial statements as of and for the three months ended
March 31, 2002 and 2001 have been prepared without audit pursuant to the rules
and regulations of the United States Securities and Exchange Commission ("SEC").
In the opinion of management, the unaudited interim consolidated financial
statements that accompany these notes reflect all adjustments, consisting only
of normal recurring adjustments, necessary to present fairly our financial
position as of March 31, 2002 and December 31, 2001 and the results of
operations and cash flows for the three months ended March 31, 2002 and 2001.
Certain information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting principles
have been condensed or omitted pursuant to the SEC's rules and regulations
relating to interim financial statements. These consolidated financial
statements should be read in conjunction with the audited consolidated financial
statements and notes included in our Annual Report on Form 10-K for the year
ended December 31, 2001.
As we have completed our transformation to a software business, we have
reclassified the statement of operations to present our results on a basis
comparable with other software companies. Certain amounts previously reported
have been reclassified to conform to the current period presentation.
Reclassifications include the systematic allocation of certain overhead
expenses, such as facilities, infrastructure and depreciation, from general and
administrative to other expense categories in the statement of operations based
on the relative benefits provided to each applicable business function. All
prior period information has been reclassified to conform with the current
year's presentation.
Revenue Recognition
Revenues from software licensing and related services are accounted for
under SOP 97-2, Software Revenue Recognition, and SOP 98-9, Modification of SOP
97-2, Software Revenue Recognition, With Respect to Certain Transactions, and
related guidance in the form of technical questions and answers published by the
American Institute of Certified Public Accountants' task force on software
revenue recognition. SOP 97-2, as amended, requires revenue earned on software
arrangements involving multiple elements to be allocated to each element based
on vendor specific objective evidence of fair values of the
8
VERTICALNET, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
elements. License revenue allocated to software products is recognized upon
delivery of the software products or ratably over a contractual period if
unspecified software products are to be delivered during that period. Revenue
allocated to hosting and maintenance services is recognized ratably over the
contract term and revenue allocated to professional services is recognized as
the services are performed. For certain agreements where the professional
services provided are essential to the functionality of the software or are for
significant production, modification or customization of the software products,
both the software product revenue and service revenue are recognized on a
straight-line basis or in accordance with the provisions of SOP 81-1, Accounting
for Performance of Construction-Type and Certain Production-Type Contracts.
Adoption of New Pronouncements
In July 2001, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 141, Business Combinations, and SFAS No. 142, Goodwill and Other Intangible
Assets. SFAS No. 141 requires that the purchase method of accounting be used for
all business combinations initiated or completed after June 30, 2001. SFAS No.
141 also specifies criteria that must be met for intangible assets acquired in a
purchase method business combination to be recognized and reported separately
from goodwill, noting that any purchase price allocable to an assembled
workforce may not be accounted for separately. SFAS No. 142, which became
effective January 1, 2002, requires that goodwill and intangible assets with
indefinite useful lives no longer be amortized, but instead be tested for
impairment at least annually in accordance with the provisions of SFAS No. 142.
SFAS No. 142 also requires that intangible assets with definite useful lives be
amortized over their respective estimated useful lives to their estimated
residual values, and reviewed for impairment in accordance with SFAS No. 121.
Accordingly, there has been no amortization of goodwill since December 31, 2001.
In August 2001, the FASB issued SFAS No. 144, Accounting for the Impairment
or Disposal of Long-Lived Assets, which supersedes both SFAS No. 121, and the
accounting and reporting provisions of APB No. 30, Reporting the Results of
Operations -- Reporting the Effects of Disposal of a Segment of a Business, and
Extraordinary, Unusual and Infrequently Occurring Events and Transactions, for
the disposal of a segment of a business. SFAS No. 144 retains the fundamental
provisions of SFAS No. 121 for recognizing and measuring impairment losses on
long-lived assets held for use and long-lived assets to be disposed of by sale,
while also resolving significant implementation issues associated with SFAS No.
121. For example, SFAS No. 144 provides guidance on how a long-lived asset that
is used as part of a group should be evaluated for impairment, establishes
criteria for when a long-lived asset is held for sale, and prescribes the
accounting for a long-lived asset that will be disposed of other than by sale.
SFAS No. 144 retains the basic provisions of APB No. 30 on how to present
discontinued operations in the income statement but broadens that presentation
to include a component of an entity (rather than a segment of a business).
Unlike SFAS No. 121, an impairment assessment under SFAS No. 144 will never
result in a write-down of goodwill. Rather, goodwill is evaluated for impairment
under SFAS No. 142. We adopted and implemented SFAS No. 144 as of January 1,
2002.
In November 2001, the FASB issued Topic D-103, Income Statement
Characterization of Reimbursements Received for "Out-of-Pocket" Expenses
Incurred. The FASB staff believes that reimbursements received for out-of-pocket
expenses incurred should be characterized as revenue in the statement of
operations. This guidance should be applied in financial reporting periods
beginning after December 15, 2001 and comparative financial statements for prior
periods should be reclassified to comply with the guidance. Accordingly, the
consolidated financial statements of operations have been reclassified pursuant
to this guidance.
9
VERTICALNET, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(2) DISCONTINUED OPERATIONS
On February 13, 2002, we announced our intention to sell the SMB group. Our
board of directors authorized this action to complete our strategic realignment
to an enterprise software business. We expect the sale to occur within one year
from the announcement date.
The SMB business generates revenue from e-enablement and e-commerce; as
well as advertising and services.
E-enablement and e-commerce revenues include storefront, marketplace
manager and e-commerce center fees and e-commerce fees. Storefront, marketplace
manager and e-commerce center fees are recognized ratably over the period of the
contract. E-commerce fees in the form of transaction fees and percentage of sale
fees are recognized upon provision of services and receipt of payment.
E-commerce fees from books and other product sales are recognized in the period
in which the products are shipped.
Advertising revenues, including buttons and banners, are recognized ratably
over the period of the applicable contract if time based or as delivered if
impression based. Newsletter sponsorship revenues are recognized when the
newsletters are e-mailed. Although advertising contracts generally do not extend
beyond one year, certain contracts are for multiple years. Previously we also
entered into strategic co-marketing agreements to develop co-branded Web sites.
Hosting and maintenance service revenues under these co-marketing arrangements
are recognized ratably over the term of the contract. In the normal course of
business, we enter into "multiple-element" arrangements. We allocate revenue
under such arrangements based on the fair value of each element, to the extent
objectively determinable, and recognize revenue upon delivery or consummation of
the separable earnings process attributable to each element. We apply the
residual method, prescribed by SOP 98-9, to multiple-element arrangements for
which we do not have objective and reliable evidence of fair value for delivered
element(s).
The results of the SMB group have been shown separately as a discontinued
operation, and prior periods have been restated. The assets and liabilities of
the discontinued operation have been classified separately on the March 31, 2002
and December 31, 2001 consolidated balance sheets.
Revenues and losses from the discontinued operation are as follows:
THREE MONTHS ENDED
MARCH 31,
-------------------
2002 2001
------- --------
(IN THOUSANDS)
E-enablement, e-commerce, advertising and other services.... $13,052 $ 27,551
Income (loss) from discontinued operations.................. 7,481 (19,341)
The assets and liabilities of the SMB group as of March 31, 2002 and
December 31, 2001 are as follows:
MARCH 31, DECEMBER 31,
2002 2001
--------- ------------
(IN THOUSANDS)
Current assets.............................................. $ 4,881 $ 5,368
Property and equipment, net................................. 3,860 4,525
Intangible assets........................................... 322 365
Other non-current assets.................................... 63 61
------- -------
Total assets................................................ 9,126 10,319
======= =======
Deferred revenue............................................ 8,689 20,102
Other liabilities........................................... 1,703 2,177
------- -------
Total liabilities........................................... $10,392 $22,279
======= =======
10
VERTICALNET, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The income (loss) from discontinued operations for the three months ended
March 31, 2002 and March 31, 2001 includes $0.3 million and $6.0 million in
restructuring charges, respectively.
Microsoft Relationship
On March 29, 2000, we entered into a commercial arrangement with Microsoft
(the "Original Microsoft Agreement"), which was terminated and replaced on April
26, 2001 (the "New Microsoft Agreement"). Collectively, under the Original and
New Microsoft Agreements, during the three months ended March 31, 2002 and 2001,
we recognized approximately $11.0 million and $14.8 million, respectively, in
e-enablement and advertising revenue and $0 and $4.4 million of expense for
advertising, software licensing and support. As of March 31, 2002, we have
approximately $6.1 million of deferred revenue related to our Microsoft
Agreements. Revenues and expenses recognized under these agreements are
presented in income (loss) from operations of the SMB business and deferred
revenue is included in liabilities held for disposal.
(3) INVESTMENTS
Available-For-Sale
As of March 31, 2002, we have short-term available-for-sale investments of
approximately $0.03 million. These are investments in publicly traded companies
for which we do not have the ability to exercise significant influence and are
stated at fair market value based on quoted market prices. Our investment in
Ariba, Inc. ("Ariba") common stock of approximately $1.9 million at March 31,
2002 is classified as long-term due to a forward sale of our shares.
In July 1999, we acquired 414,233 shares of the Series C preferred stock of
Tradex Technologies, Inc. ("Tradex") for $1.0 million. In December 1999, Tradex
entered into an Agreement and Plan of Reorganization with Ariba. On March 10,
2000, pursuant to the terms of the Agreement and Plan of Reorganization, our
investment in Tradex was exchanged for 566,306 shares of Ariba's common stock,
of which 64,310 shares were placed in escrow for one year subsequent to the
transaction's closing. Based on the fair market value of Ariba's common stock on
March 10, 2000, we recorded an $85.5 million gain on the disposition of the
Tradex investment. After selling 140,000 shares in March 2000 at a loss of $5.6
million, we recorded a net investment gain of $79.9 million for the three months
ended March 31, 2000. In March 2001, 49,982 of our escrowed Ariba shares were
released, with the remaining 14,328 shares being held in escrow pending the
resolution of a dispute under the Agreement and Plan of Reorganization. In light
of the continued uncertainty around whether the Ariba shares remaining in escrow
will eventually be released to us, we recorded a $2.2 million loss on investment
during the three months ended March 31, 2001 to adjust the original investment
gain we recorded when the transaction closed. To the extent the pending dispute
is resolved in whole or in part in Tradex's favor, we will subsequently record
an additional adjustment.
Cost Method Investments
At March 31, 2002 and December 31, 2001, cost method investments were
approximately $10.6 million. During the three months ended March 31, 2001, we
recorded impairment charges of approximately $7.7 million which are included in
other income (expense), for an other than temporary decline in the fair value of
several of our other cost method investments. There were no impairment charges
recorded for the three months ended March 31, 2002.
Other Investments
On February 15, 2002, we invested $3.5 million in Converge LLC, an indirect
subsidiary of Converge, and received a subordinated promissory note with a face
value of $8.75 million. The note is payable in four equal installments on
February 15th of 2006 through 2009. Repayment of the note is accelerated upon
certain
11
VERTICALNET, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
triggering events, including a change of control. In connection with the
investment, we also received a warrant to purchase 3,500,000 shares of preferred
stock in Converge Financial Corporation, a wholly owned subsidiary of Converge
and an indirect parent of Converge LLC, at an initial exercise price of $.01 per
share. The note is included in other investments on the consolidated balance
sheet.
(4) GOODWILL AND OTHER INTANGIBLES
We adopted SFAS No. 142, Goodwill and Other Intangible Assets effective
January 1, 2002. Under SFAS 142, goodwill is no longer amortized, but is
reviewed for impairment annually, or more frequently if certain indicators
arise. In addition, the statement requires reassessment of the useful lives of
previously recognized intangible assets.
With the adoption of the statement, we ceased amortization of goodwill as
of January 1, 2002. The following table provides a reconciliation of reported
net loss attributable to common shareholders for the three months ended March
31, 2001 to the adjusted net loss attributable to common shareholders excluding
amortization expense relating to goodwill and assembled workforce:
THREE MONTHS ENDED
MARCH 31,
----------------------
2002 2001
-------- -----------
(IN THOUSANDS, EXCEPT
PER SHARE DATA)
Reported loss attributable to common shareholders........... $(199) $(92,166)
Add back: Goodwill and assembled workforce amortization..... -- 38,660
----- --------
Adjusted loss attributable to common shareholders........... $(199) $(53,506)
===== ========
Basic and diluted loss per common share:
Reported loss attributable to common shareholders........... $ -- $ (0.99)
Goodwill and assembled workforce amortization............. -- 0.42
----- --------
Adjusted loss attributable to common shareholders......... $ -- $ (0.57)
===== ========
As of December 31, 2001, we completed a goodwill impairment test under SFAS
No. 121. This test involved the use of estimates related to the fair market
value of the reporting unit with which the goodwill was associated. An
impairment charge of $81.0 million was recorded as a result of this test during
the fourth quarter of 2001.
The following table reflects the components of amortizable intangible
assets, excluding goodwill:
MARCH 31, 2002 DECEMBER 31, 2001
----------------------- -----------------------
GROSS GROSS
CARRYING ACCUMULATED CARRYING ACCUMULATED
AMOUNT AMORTIZATION AMOUNT AMORTIZATION
-------- ------------ -------- ------------
(IN THOUSANDS)
Amortizable intangible assets:
Existing technology....................... $4,025 $2,260 $4,025 $2,100
Customer contracts........................ 890 155 890 --
------ ------ ------ ------
$4,915 $2,415 $4,915 $2,100
====== ====== ====== ======
The carrying amount of goodwill at March 31, 2002 is $27.6 million and
represents assets associated with the ongoing software operations of the
business.
Amortization expense on intangible assets, excluding goodwill, was $0.3
million and $0.8 million for the three months ended March 31, 2002 and 2001,
respectively.
12
VERTICALNET, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following sets forth the remaining estimated amortization expense on
intangible assets for the fiscal years ending December 31:
(IN THOUSANDS)
2002........................................................ $700
2003........................................................ 900
2004........................................................ 900
(5) OTHER CURRENT LIABILITIES
We have a put/call agreement with British Telecommunications plc. ("BT")
whereby we can purchase their remaining 10% interest in Verticalnet Europe B.V.
("Verticalnet Europe") at any time after March 13, 2001 and BT may sell its
investment to us at any time after March 13, 2002. The fair value of the
put/call price of approximately $12.3 million, including accrued interest, is
included in current liabilities on the consolidated balance sheet as of March
31, 2002. The amount is payable in Euros, therefore, we mark the liability to
market quarterly. The variable interest component of the price based on the
LIBOR rate is accrued quarterly through the date the put or call is exercised.
BT exercised their put option on April 19, 2002. As of May 15, 2002, the
liability has remained unpaid. See Note 11.
(6) STRATEGIC RELATIONSHIP
Verticalnet and Converge entered into a first amendment to the amended and
restated subscription license agreement and a first amendment to the maintenance
and support agreement, both as of February 1, 2002. As a result of these
amendments, the term of each agreement was extended to December 31, 2003. The
amendment to the maintenance agreement reduced our required level of service,
accelerated the payment terms and reduced Converge's aggregate obligation by
$0.5 million. The expected contractual payments under the new agreements plus
the remaining deferred revenue under the original agreements will be recognized
on a straight-line basis through December 2003. From January 1, 2002 through
March 31, 2002, we have received approximately $6.0 million from Converge, with
the remaining aggregate payments of approximately $6.2 million expected over the
balance of fiscal year 2002 per the terms of the amended agreements.
Below are the contractual payments, including revisions, either made or
still expected from Converge under the revised terms of the agreements:
REMAINING REMAINING
CONTRACTUAL ADJUSTMENTS DUE TO CASH RECEIVED DURING CONTRACTUAL
PAYMENTS AS OF FEBRUARY 2002 THE THREE MONTHS ENDED PAYMENTS AS OF
DECEMBER 31, 2001 CONTRACTUAL REVISIONS MARCH 31, 2002 MARCH 31, 2002
----------------- --------------------- ---------------------- --------------
(IN THOUSANDS)
Subscription license....... $ 9,000 $ -- $(5,250) $3,750
Maintenance and support.... 3,750 (500) (795) 2,455
------- ----- ------- ------
$12,750 $(500) $(6,045) $6,205
======= ===== ======= ======
During the three months ended March 31, 2002 and 2001, we recognized
revenues of approximately $5.3 million and $5.9 million, respectively, under the
Converge agreements. Deferred revenue related to the Converge agreements is
approximately $24.0 million at March 31, 2002. As of May 1, 2002, the
subscription license amount due at March 31, 2002 has been collected.
(7) RESTRUCTURING CHARGES AND ASSET WRITE-DOWN
During the year ended December 31, 2001, we announced and implemented
several strategic and organizational initiatives designed to realign business
operations, eliminate acquisition related redundancies and reduce costs. As a
result of these restructuring initiatives we recorded a separate restructuring
and asset
13
VERTICALNET, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
impairment charge in each of the four quarters of 2001. The aggregate remaining
restructuring accrual at March 31, 2002 of approximately $6.5 million, included
in accrued expenses on the consolidated balance sheet, is expected to be
adequate to cover actual amounts to be paid. Differences, if any, between the
estimated amounts accrued and the actual amounts paid will be reflected in
operating expenses in future periods.
The following table provides a summary by category and a rollforward of the
changes in the restructuring accrual for the quarter ended March 31, 2002:
RESTRUCTURING RESTRUCTURING
ACCRUAL AT ACCRUAL AT
DECEMBER 31, CASH NON-CASH MARCH 31,
2001 PAYMENTS CHARGES 2002
------------- -------- -------- -------------
(IN THOUSANDS)
Lease termination costs.......................... $4,763 $ (721) $1,011 $5,053
Employee severance and related benefits.......... 2,294 (1,506) 637 1,425
Other exit costs................................. 25 (3) (22) --
------ ------- ------ ------
$7,082 $(2,230) $1,626 $6,478
====== ======= ====== ======
During the first quarter of 2002, we recorded adjustments of approximately
$1.0 million related to lease termination costs and $0.6 million related to
employee termination benefits and other exit costs, due to changes in estimates
from the original charges. These charges include $0.3 million of lease
termination costs reflected in the income from discontinued operations. The
remaining $1.3 million of expenses is recorded in restructuring and asset
impairment charges in the consolidated statements of operations. The total
accrual at March 31, 2002 remains in continuing operations as the company does
not expect to divest the lease liabilities as part of the sale of the SMB
business.
The amount accrued at March 31, 2002 for lease termination costs relates to
five leases for office facilities and one capital lease for equipment that have
not yet been terminated. The accrual represents the amount required to fulfill
our obligation under signed lease contracts, the net expense expected to be
incurred to sublet the facilities, or the estimated amount to be paid to
terminate the lease contracts before the end of their terms. The charges for the
quarter ended March 31, 2002 include $0.3 million allocated to discontinued
operations.
The amount accrued at March 31, 2002 for employee severance and related
benefits relates to severance payments which have not yet been made to employees
whose positions were eliminated as part of the reduction in workforce.
During the first quarter of 2001, we recorded a restructuring and asset
impairment charge of approximately $7.5 million, related to lease termination
costs, employee termination benefits, asset disposals, goodwill impairment, and
other exit costs. This charge included $1.5 million included in restructuring
and asset impairment charges in the consolidated statement of operations, and
$6.0 million allocated to loss from operations of the SMB business.
(8) LOSS PER SHARE
Basic loss per share is computed using the weighted average number of
common shares outstanding during the period. Diluted loss per share is computed
using the weighted average number of common and dilutive common equivalent
shares outstanding during the period, including incremental common shares
issuable upon the exercise of stock options and warrants (using the treasury
stock method) and the conversion of our 5 1/4% convertible subordinated
debentures and our Series A 6.00% convertible redeemable preferred stock (using
the if-converted method). Common equivalent shares are excluded from the
calculation if their effect is anti-dilutive.
14
VERTICALNET, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following table sets forth the computation of loss per common share:
THREE MONTHS ENDED
MARCH 31,
----------------------
2002 2001
--------- ----------
(IN THOUSANDS, EXCEPT
PER SHARE DATA)
Loss from continuing operations............................. $(5,763) $(70,484)
Less: Series A convertible redeemable preferred stock
dividends and accretion................................... (1,917) (1,819)
------- --------
Loss from continuing operations attributable to common
shareholders.............................................. (7,680) (72,303)
Income (loss) from discontinued operations.................. 7,481 (19,341)
Loss on disposal of discontinued operations................. -- (522)
------- --------
Net loss attributable to common shareholders................ $ (199) $(92,166)
======= ========
Basic and diluted loss per common share:
Continuing operations.................................. $ (0.07) $ (0.78)
Income (loss) from discontinued operations............. 0.07 (0.21)
------- --------
Loss per common share....................................... $ 0.00 $ (0.99)
======= ========
(9) COMMITMENTS AND CONTINGENCIES
We have entered into non-cancelable obligations with service providers.
Under these agreements, our commitments as of March 31, 2002 are as follows (in
thousands):
2002........................................................ $832
2003........................................................ 50
Future minimum lease payments as of March 31, 2002 for our buildings leases
are as follows (in thousands):
2002........................................................ $2,402
2003........................................................ 3,034
2004........................................................ 2,881
2005........................................................ 2,203
2006........................................................ 1,748
Thereafter.................................................. 3,613
These future minimum lease payments include all building leases for which
we are contractually committed to make payments. We are in the process of
negotiating sublease arrangements and/or terminations of various facility leases
which represent approximately $12.9 million of the payments in the above
amounts. We currently estimate the termination costs of these leases to be
approximately $5.5 million, which is included in accrued expenses.
In connection with our acquisition of Atlas Commerce, Inc., we filed a
registration statement on Form S-3 with the SEC registering shares of our common
stock issued to acquire Atlas Commerce. In connection with a routine review and
comment letter process related to this filing, we have received comments from
the SEC. The remaining open comments relate primarily to the classification of
certain previously reported revenue and expense items of our SMB business and,
therefore, we do not believe the ultimate resolution of such comments will
change our previously reported cumulative net loss. As previously announced on
February 13, 2002, we intend to sell our SMB business, and accordingly that
business is accounted for prospectively from January 1, 2002, as a discontinued
operation. Such presentation requires that all elements
15
VERTICALNET, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
of revenue and expense be netted as a single line item to report net results of
operations. As a result, revenues and expenses of our SMB business are not
separately presented in our financial statements. We are currently in the
process of resolving these matters with the SEC and believe the historical
classifications of revenue and expense for the SMB business are appropriate. As
of the date of this filing, we cannot provide assurance that the SEC will
declare the Form S-3 effective without us first amending the reports that are
incorporated into the S-3. The remaining open SEC comments do not relate in any
way to our ongoing collaborative supply chain software operations.
(10) LITIGATION
On June 12, 2001, a class action lawsuit was filed against us and several
of our officers and directors in U.S. Federal Court for the Southern District of
New York in an action captioned CJA Acquisition, Inc. v. Verticalnet, et al.,
C.A. No. 01-CV-5241 (the "CJA Action"). Also named as defendants were four
underwriters involved in the issuance and initial public offering (IPO) of
3,500,000 shares of Verticalnet common stock in February 1999 -- Lehman Brothers
Inc., Hambrecht & Quist LLC, Volpe Brown Whelan & Company LLC and WIT Capital
Corporation. The complaint in the CJA Action alleges violations of Sections 11
and 15 of the Securities Act of 1933 and Section 20(a) of the Securities
Exchange Act of 1934 and Rule 10b-5 promulgated thereunder, based on, among
other things, claims that the four underwriters awarded material portions of the
initial shares to certain favored customers in exchange for excessive
commissions. The plaintiff also asserts that the underwriters engaged in a
practice known as "laddering," whereby the clients or customers agreed that in
exchange for IPO shares they would purchase additional shares at progressively
higher prices after the IPO. With respect to Verticalnet, the complaint alleges
that the company and its officers and directors failed to disclose in the
prospectus and the registration statement the existence of these purported
excessive commissions and laddering agreements. After the CJA Action was filed,
several "copycat" complaints were filed in U.S. Federal Court for the Southern
District of New York. Those complaints, whose allegations mirror those found in
the CJA Action, include Ezra Charitable Trust v. Verticalnet, et al., C.A. No.
01-CV-5350; Kofsky v. Verticalnet, et al., C.A. No. 01-CV-5628; Reeberg v.
Verticalnet, C.A. No. 01-CV-5730; Lee v. Verticalnet, et al., C.A. No.
01-CV-7385; Hoang v. Verticalnet, et al., C.A. No. 01-CV-6864; Morris v.
Verticalnet, et al., C.A. No. 01-CV-9459, and Murphy v. Verticalnet, et al.,
C.A. No. 01-CV-8084. None of the complaints state the amount of any damages
being sought, but do ask the court to award "rescissory damages." All of the
foregoing suits were amended and consolidated into a single complaint that was
filed with the federal court on April 19, 2002. This amended complaint contains
additional factual allegations concerning the events discussed in the original
complaints, and asserts that, in addition to Sections 11 and 15 of the
Securities Act, the company and our officers and directors also violated
Sections 10(b), 20(a) and Rule 10b-5 of the Exchange Act in connection with the
IPO. In addition to this amended and consolidated complaint, the plaintiffs in
this lawsuit and in the hundreds of other similar suits filed against other
companies in connection with IPOs that occurred in the late 1990s have filed
"master allegations" that primarily focus on the conduct of the underwriters of
the IPOs, including our IPO. We have retained counsel and intend to vigorously
defend ourselves in connection with the allegations raised in the amended and
consolidated complaint. In addition, we intend to enforce our indemnity rights
with respect to the underwriters who are also named as defendants in the amended
and consolidated complaint.
On August 13, 2001, a lawsuit was filed against us in Massachusetts
Superior Court (Peter L. LeSaffre, Robert R. Benedict and R.W. Electronics, Inc.
v. NECX.com LLC and Verticalnet, Inc., C.A. No. 01-3724-B.L.S.). The suit
alleges that, in connection with our acquisition of R.W. Electronics in March
2000, certain Verticalnet and NECX officials made representations about certain
technologies that the companies would be using to make them more successful and
profitable. As a result of the alleged failure to use this technology,
plaintiffs claim they only received $43.0 million on the sale of R.W.
Electronics, rather
16
VERTICALNET, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
than the $78.0 million that they claim they were entitled to. On April 11, 2002,
the parties to the lawsuit entered a settlement agreement, and the lawsuit has
been dismissed. The terms of the settlement are confidential.
On December 4, 2001, a lawsuit was filed against us in the Montgomery
County (Pa.) Court of Common Pleas in an action captioned Belcher-Pregmon
Commercial Real Estate Co. v. Verticalnet, C.A. No. 01-22968. The suit alleges
that the plaintiff is entitled to a broker commission in excess of $0.4 million
in connection with our former lease of a building in Horsham, Pa. We have
retained counsel to defend against the lawsuit and have filed preliminary
objections asking that the suit be dismissed.
Atlas Commerce filed a lawsuit on June 14, 2001 against a former senior
vice president of Atlas Commerce in the Chester County (Pa.) Court of Common
Pleas in an action captioned Atlas Commerce U.S., Inc., C.A. No. 01-05017. The
lawsuit seeks to recover in excess of $0.6 million in principal and interest in
connection with a loan made to the executive. The former executive answered the
suit on July 30, 2001 and filed counterclaims against Atlas Commerce asserting
breach of an oral agreement. Atlas Commerce asked the Court to dismiss the
counterclaims and the Court recently granted our request to dismiss the
counterclaims. We have now asked the Court to rule in our favor on the loan
based simply on the papers that have already been filed. The Court first set
oral argument to rule on the plaintiff's motion for leave to amend to include a
defense that our claims are barred by the written employment agreement. In a
related action, the same executive filed a lawsuit on December 7, 2001, against
Atlas Commerce in federal district court for the Eastern District of
Pennsylvania in an action captioned Barr v. Atlas Commerce U.S., Inc., C.A. No.
01-CV-6129. The suit alleges violation of the federal Age Discrimination and
Employment Act, and seeks damages in an unspecified amount. We have retained
counsel and answered the complaint on February 11, 2002.
We are also party to various other litigation and claims that arise in the
ordinary course of business. In the opinion of management, the ultimate
resolutions with respect to these actions will not have a material adverse
effect on our financial position or results of operations.
(11) SUBSEQUENT EVENT
On April 19, 2002, British Telecommunications, plc ("BT") exercised their
option to put their remaining 10% interest in Verticalnet Europe back to
Verticalnet in exchange for Euros with a fair value of approximately $12.3
million, including interest. Under the terms of the put/call agreement between
BT and Verticalnet, the closing was to occur within 20 days after Verticalnet's
receipt of the put notice from BT. As of May 15, 2002, Verticalnet has not made
payment to BT and thus is in technical breach of the put/call agreement. The
company has been in discussions with BT and is attempting to negotiate extended
payment terms under the agreement.
17
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
FORWARD-LOOKING STATEMENTS
The information in this report contains forward-looking statements within
the meaning of the Private Securities Litigation Reform Act of 1995. Any
statements contained in this report that are not statements of historical fact
may be deemed forward-looking statements. Words such as "may," "might," "will,"
"would," "should," "could," "project," "estimate," "pro forma," "predict,"
"potential," "strategy," "anticipate," "plan to," "believe," "continue,"
"intend," "expect" and words of similar expression (including the negative of
any of the foregoing) are intended to identify forward-looking statements.
Additionally, forward-looking statements in this report include statements
relating to the design, development and implementation of our products; the
strategies underlying our business objectives; the benefits to our customers and
their trading partners of our products; our liquidity and capital resources; and
the impact of our acquisitions and investments on our business, financial
condition and operating results.
Our forward-looking statements are not meant to predict future events or
circumstances and may not be realized because they are based upon current
expectations that involve risks and uncertainties. Actual results and the timing
of certain events may differ materially from those currently expected as a
result of these risks and uncertainties. Factors that may cause or contribute to
a difference between the expected or desired results and actual results include,
but are not limited to, the availability of and terms of equity and debt
financing to fund our business; our reliance on the development of our
enterprise software business; the timing and terms of any sale of our SMB unit;
competition in our target markets; economic conditions in general and in our
specific target markets; our ability to use and protect our intellectual
property; and our ability to attract and retain qualified personnel, as well as
the risks discussed in the section of this report entitled "Factors Affecting
our Business Condition." Given these uncertainties, investors are cautioned not
to place undue reliance on our forward-looking statements. We disclaim any
obligation to update these factors or to announce publicly the results of any
revisions to any of the forward-looking statements contained in this report to
reflect future events or developments.
OVERVIEW
Verticalnet, through its subsidiaries, is a leading provider of
collaborative supply chain solutions that enable companies, and their supply and
demand chain partners to communicate, collaborate, and conduct commerce more
effectively. With a comprehensive set of collaborative supply chain software
applications including spend management, strategic sourcing, collaborative
planning, and order management, we offer a broad integrated supply chain
solution delivered through a multi-party platform. With our completion of the
acquisition of Atlas Commerce in December 2001 and the February 2002
announcement of our decision to sell our Small/Medium Business ("SMB") unit that
operates and manages 59 industry-specific on-line marketplaces, we have
completed a business transformation from our origins as an operator of online
public vertical communities to a business solely focused on delivering supply
chain solutions to enterprise customers.
With this transformation, we have modified the presentation of our
consolidated statements of operations beginning with the period ended March 31,
2002. Most significantly, the operations of the SMB unit have been classified as
discontinued operations in all periods presented. Also, the classification of
our revenues and costs of revenues and expenses have changed, and certain
overhead expenses previously categorized as general and administrative expenses
have been allocated to the business functions receiving the benefits
attributable to such expenses. These changes to the presentation of the
statement of operations were made for all periods presented. We believe these
changes will provide more clarity into the ongoing operations, and present a
more traditional view of software companies' statements of operations.
Verticalnet was founded in 1995 as a provider of industry-specific on-line
marketplaces, starting with WaterOnline.com. We completed our initial public
offering in February 1999. During 1999 and 2000, we acquired companies of three
types to enhance the development of our industry marketplace business:
additional on-line marketplaces to complement our portfolio; transactional and
services businesses and exchanges that we could offer across multiple on-line
marketplaces; and two software companies, Isadra in 1999 to accelerate our
research and development efforts and Tradeum in 2000 to launch a stand-alone
18
software unit targeting exchanges and on-line marketplaces. In September 2000,
we established three divisions: Verticalnet Markets, our portfolio of on-line
industry marketplaces; Verticalnet Solutions, our software unit built on the
combination of Isadra and Tradeum technology; and Verticalnet Exchanges, an
exchange for trading electronic components and hardware, also known as NECX.
Significant management actions were taken since the beginning of 2001 to
complete the transformation from an operator of online public vertical
communities to an enterprise software company. These actions are itemized below:
- On January 7, 2001, we appointed Michael J. Hagan, our co-founder and
chief operating officer at the time, to become our president and chief
executive officer. With an effort to focus the business on its software
offerings already underway through our December 2000 license and services
agreements with Converge, Mr. Hagan led a thorough re-evaluation of the
SMB and Enterprise units (formerly referred to as the Verticalnet Markets
and Verticalnet Solutions businesses) in the first quarter of 2001, with
a focus on core elements needed to develop a profitable software business
in a difficult economic environment. As a result of this scrutiny, we
began implementing significant changes in our business. The steps that we
took in each quarter during 2001 resulted in significantly reduced
staffing requirements in stages. During 2001, we completed four major
restructuring efforts to reduce costs and streamline operations;
- On January 31, 2001, we completed the sale of Verticalnet Exchanges to
Converge, allowing management to focus solely on the two remaining
business units, SMB and Enterprise and eliminate redundancies between
them;
- On April 26, 2001, we restructured the Microsoft agreement to focus on
supplier enablement solutions;
- On July 26, 2001, we announced changes in the SMB business;
- On October 9, 2001, we restructured the Converge license and services
agreements as Converge restructured its strategic direction;
- On December 28, 2001, we acquired Atlas Commerce in an effort to expand
our product and customer base in the software business;
- On February 13, 2002, we announced our intention to sell the SMB unit.
Our board of directors authorized this action to complete our strategic
realignment to an enterprise software business. Beginning in the first
quarter of 2002, we have reported the SMB unit as a discontinued
operation; and
- On February 19, 2002, Kevin S. McKay, a member of our board of directors,
was appointed president and chief executive officer of Verticalnet. Mr.
McKay, a former chief executive officer of SAP America, succeeded Michael
J. Hagan, who was appointed chairman of Verticalnet. On February 13,
2002, John A. Milana, former chief financial officer of Atlas Commerce,
and a former chief financial officer of SAP America, was appointed as
Verticalnet's chief financial officer.
RECENT EVENTS
On May 10, 2002, we announced that our request to transfer from the Nasdaq
National Market to the Nasdaq SmallCap Market had been approved effective May
10, 2002. Our common stock continues to trade under the same ticker symbol:
VERT. We also announced that transferring to the Nasdaq SmallCap Market provides
us with a 180-day grace period to regain compliance with the minimum $1.00 bid
price requirement, and that a further 180-day period is available if we meet the
Nasdaq SmallCap initial listing standards.
REVENUE RECOGNITION
Through December 31, 2001, our software licensing and related services
revenues have been principally derived from one customer, Converge. The original
arrangement with Converge entailed a right to use our existing software as well
as any future software that we developed, the provision of professional
services, and maintenance and support services over the life of the agreements.
Due to the type of professional services that
19
we were providing to Converge, as well as the fact that Converge is entitled to
use free of charge any of our future software products, revenue related to
Converge is being recognized using subscription accounting on a straight-line
basis over the term of the arrangement.
Software licensing and related services revenues other than from Converge
have been principally derived from the licensing of our products, from
maintenance and support contracts and from the delivery of professional
services. Customers who license our products also generally purchase maintenance
contracts that provide software updates and technical support over a stated
term, which is usually a twelve-month period. Customers may also purchase
implementation services from us.
We license our products through our direct sales force. The license
agreements for our products do not provide for a right of return other than
during the warranty period, and historically product returns have not been
significant. We do not recognize revenue for refundable fees or agreements with
cancellation rights until such rights to refund or cancellation have expired.
Our products are either purchased under a perpetual license model or under a
time-based license model.
We recognize revenue in accordance with Statement of Position ("SOP") 97-2,
Software Revenue Recognition, as amended by SOP 98-9. We recognize revenue when
all of the following criteria are met: persuasive evidence of an arrangement
exists; delivery of the product has occurred; the fee is fixed and determinable;
and collectibility is probable. We consider all arrangements with payment terms
extending beyond one year to not be fixed and determinable, and revenue under
these agreements is recognized as payments become due from the customer. If
collectibility is not considered probable, revenue is recognized when the fee is
collected.
SOP 97-2, as amended, generally requires revenue earned on software
arrangements involving multiple elements to be allocated to each element based
on the relative fair values of the elements. Revenue from multiple-element
arrangements is allocated to undelivered elements of the arrangement, such as
maintenance and support services and professional services, based on the
relative fair values of the elements specific to us. Our determination of fair
value of each element in multi-element arrangements is based on vendor-specific
objective evidence ("VSOE"). We limit our assessment of VSOE for each element to
either the price charged when the same element is sold separately or the price
established by management, having the relevant authority to do so, for an
element not yet sold separately.
If evidence of fair value of all undelivered elements exists but evidence
does not exist for one or more delivered elements, then revenue is recognized
using the residual method. Under the residual method, VSOE of the undelivered
elements is deferred and the remaining portion of the arrangement fee is
recognized as revenue. Revenue allocated to maintenance and support is
recognized ratably over the maintenance term and revenue allocated to training
and other service elements is recognized as the services are performed. The
proportion of revenue recognized upon delivery may vary from quarter to quarter
depending upon the relative mix of licensing arrangements and the availability
of VSOE of fair value for undelivered elements.
Arrangements that include professional services are evaluated to determine
whether those services are essential to the functionality of other elements of
the arrangement. When services are not considered essential, the revenue
allocable to the professional services is recognized as the services are
performed. If we provide professional services that are considered essential to
the functionality of the software products, both the software product revenue
and professional service revenue are recognized in accordance with the
provisions of SOP 81-1, Accounting for Performance of Construction-Type and
Certain Production-Type Contracts. To date most of our professional services
have been considered essential to the functionality and therefore, the majority
of our contracts that involved licenses and professional services were
recognized on a percentage of completion basis.
Deferred revenue includes amounts received from customers for which revenue
has not been recognized, which in most cases relates to maintenance or license
fees that are deferred until they can be recognized. The majority of our
deferred revenue at December 31, 2001 and at March 31, 2002 is related to
payments received from Converge. Such amounts will be recognized as revenue on a
straight-line basis over the contract term.
20
RESULTS OF CONTINUING OPERATIONS FOR THE THREE MONTHS ENDED MARCH 31, 2002 AND
MARCH 31, 2001
The following discussion and comparison regarding results of continuing
operations do not reflect the results of the SMB unit or the Verticalnet
Exchanges unit. The discussion also follows the new presentation of the
consolidated statements of operations.
Total revenues for the quarter ended March 31, 2002 were $8.0 million as
compared to $9.3 million for the quarter ended March 31, 2001.
Revenues in the ongoing business are comprised of software license revenue
and service and maintenance revenues. For the period ended March 31, 2002,
software license revenue was $6.3 million versus $6.4 million in the same period
last year. The decline relates primarily to a more difficult macro economic
market for software. Services and maintenance revenues were $1.7 million in the
first quarter of 2002 as compared to $2.9 million in the same period last year.
The significant decline in service and maintenance revenues is due primarily to
the restructured Converge agreement. Revenues derived from the Converge
arrangement, as a percentage of total revenues for the quarters ended March 31,
2002 and 2001 were 66% and 64%, respectively.
The cost of revenue is comprised of the cost of software and the cost of
services and maintenance. The cost of software itself is comprised of the cost
of license, which primarily represents royalties, and the cost of acquired
technology, which is the non-cash amortization of currently used technologies
acquired through acquisitions. The cost of software was $0.4 million for the
quarter ended March 31, 2002 as compared to $1.2 million for the same period
last year. The decrease of approximately $0.8 million from the first quarter of
2001 to the first quarter of 2002 is due primarily to the decrease in the
amortization of the technology acquired in the Isadra and Tradeum acquisitions,
which, as of December 31, 2001 had been fully amortized. The cost of acquired
technology for the first quarter of 2002 relates primarily to the Atlas Commerce
acquisition which occurred in December 2001.
The cost of services and maintenance includes the cost of the company's
consultants who are primarily responsible for the software implementations and
configurations. Also included is the cost of the company's customer support
function, which is provided to customers as part of the recurring maintenance
fees. These costs decreased from approximately $7.6 million to $1.5 million in
the quarters ended March 31, 2001 and 2002, respectively. The decrease relates
substantially to reduced third party consulting costs and a significant
reduction in headcount as a result of the restructuring actions that occurred
during 2001. The combination of these costs accounted for approximately $4.0
million of the decrease. In addition, the facilities and infrastructure costs
attributable to the consulting and support group functions decreased
approximately $1.6 million, largely due to the restructuring actions taken
throughout 2001.
Research and development costs consist primarily of salaries and fringe
benefits costs of our product strategy, development, and testing employees. The
research and development costs decreased from approximately $6.5 million in the
first quarter of 2001 to approximately $3.5 million in the current quarter
primarily due to headcount reductions associated with the restructuring actions
that occurred during 2001. Salary and fringe related costs accounted for
approximately $1.7 million of the decrease. In addition, third-party consulting
costs decreased approximately $0.5 million. Facilities and infrastructure costs
attributable to the research and development group contributed approximately
$0.6 million to the overall decrease.
Sales and marketing expenses consist primarily of salaries and fringe
benefits costs, as well as commissions, for sales and marketing employees. Also,
the travel costs associated with business development are included in sales and
marketing expenses. The sales and marketing expenses for the periods ended March
31, 2002 and 2001 were approximately $1.8 million and $6.6 million,
respectively. The significant decrease in sales and marketing expenses is
primarily headcount related, as salary and fringe reductions amounted to
approximately $2.1 million. In addition, travel related expenses declined $0.8
million. Direct marketing expenses such as advertising, public relations and
trade shows declined approximately $0.7 million.
General and administrative expenses consist primarily of salaries and
related costs for our executive, administrative, finance, legal and human
resources personnel. General and administrative expenses were approximately $3.6
million in the current quarter as compared to $8.1 million in first quarter of
2001. These expenses declined primarily as a result of the restructuring actions
undertaken in 2001. Headcount related cost
21
reductions accounted for approximately $2.8 million. General and administrative
facilities and infrastructure related reductions accounted for approximately
$1.1 million. Professional services expenses declined an additional $1.0
million.
Restructuring and impairment charges for the first quarter of 2002 include
adjustments to the charges taken during 2001. These adjustments relate to
severance benefits and facility leases. The severance benefits relate to
positions that were redundant as a result of the December 28, 2001 acquisition
and subsequent integration of Atlas Commerce, Inc. and amount to approximately
$0.7 million. The facility leases were adjusted approximately $0.7 million to
reflect the difficult sublet market that exists for office space in certain
markets where the company currently leases office space. The company is actively
engaged in marketing the excess office space. Restructuring and impairment
charges for the quarter ended March 31, 2001 were approximately $1.5 million,
and included severance and lease termination costs and a write-down of assets.
Amortization and other intangible expenses for the first quarter of 2002
totaled approximately $1.1 million, which represents the non-cash amortization
of deferred costs related to the warrants and Series A preferred stock issued to
Microsoft. Pursuant to the company's adoption of SFAS No. 142, Goodwill and
Other Intangible Assets, the company discontinued its amortization of goodwill
beginning January 1, 2002. For the same period last year, amortization and other
intangible expenses totaled approximately $39.3 million, which is primarily
goodwill amortization.
Net interest expense and other for the period ended March 31, 2002 was
approximately $0.7 million and consisted primarily of interest expense related
to the convertible debt, offset in part by interest and other income. Net
interest expense and other for the period ended March 31, 2001 was approximately
$9.0 million and consisted primarily of a $7.7 million write-down of the
company's cost method investments as well as a $2.2 million loss on a marketable
security, offset in part by interest income and other.
Preferred stock dividends and accretion for the three months ended March
31, 2002 totaled approximately $1.9 million. As of March 31, 2002, cumulative
dividends of approximately $12.6 million have been earned by the holder of our
Series A preferred stock. The balance of dividends payable at March 31, 2002 is
approximately $1.7 million. The dividends may be paid in cash, additional shares
of Series A preferred stock, or common stock, at the company's option. For the
period ended March 31, 2001, preferred stock dividends and accretion were
approximately $1.8 million. As of March 31, 2001, cumulative dividends of
approximately $6.1 million were earned, with approximately $4.6 million payable.
Income from discontinued operations for the period ended March 31, 2002 was
$7.5 million as compared to a loss from discontinued operations of $19.3 million
for the same period last year. The favorable variance relates to expense
reductions of approximately $31.4 million offset in part by a reduction in
revenue of approximately $14.5 million. In addition, the prior year period
included approximately $10.1 million in restructuring and goodwill impairment
charges related to the SMB businesses.
LIQUIDITY AND CAPITAL RESOURCES
As of March 31, 2002, our primary source of liquidity consisted of cash and
short-term investments. At March 31, 2002, we had cash and short-term
investments totaling approximately $34.0 million, compared to $50.3 million at
December 31, 2001. At March 31, 2002, we had negative working capital of
approximately $18.7 million. Excluding deferred revenue of continuing
operations, which represents non-cash obligations to provide products or
services to customers, working capital at March 31, 2002 and 2001 was $7.1
million and $2.7 million, respectively.
Net cash used in operating activities was approximately $8.7 million for
the three months ended March 31, 2002. Net cash used in operating activities
consisted primarily of losses from continuing operations, changes in accrued
expenses, discontinued operations, and accounts payable, offset by decreases in
accounts receivable and prepaid expenses and other assets and an increase in
deferred revenue.
Net cash used in investing activities was $6.8 million for the three months
ended March 31, 2002. Cash provided by investing activities includes $0.5
million from the sale of assets and $1.5 million from the release of previously
restricted funds. Cash used in investing activities included approximately $5.0
million of
22
acquisition costs and cash consideration to shareholders for the December 28,
2001 acquisition of Atlas Commerce, Inc. In addition, we made an additional
investment of $3.5 million in Converge during the first quarter of 2002. Capital
expenditures and capitalized software costs were approximately $0.3 million,
consisting primarily of capitalized software related to the development of the
product.
Net cash used in financing activities was approximately $0.8 million for
the three months ended March 31, 2002. Net cash used in financing activities for
the first quarter of 2002 consists primarily of principal payments on capital
leases.
As of March 31, 2002, we have approximately $5.8 million of accrued
restructuring costs related to facility leases, $1.0 million of which was
assumed as part of the Atlas Commerce acquisition. We have made significant
efforts to estimate the expected costs to early terminate the leases or sublease
facilities. If these facilities can not be sublet or the leases early
terminated, our contractual lease payments of approximately $12.9 million
related to these leases will be due over the respective lease terms in addition
to aggregate contractual lease payments of approximately $3.0 million related to
facilities we continue to use.
We are a party to a put/call agreement with British Telecommunications, plc
("BT") whereby we can purchase their remaining 10% interest in Verticalnet
Europe at any time after March 13, 2001 and BT may sell its investment to us at
any time after March 13, 2002. In the first quarter of 2002, we issued 2,000,000
shares of our common stock to BT with an aggregate value of approximately $1.8
million as a prepayment towards the put/call obligation. BT exercised their put
option on April 19, 2002. The fair value of the put/call price of approximately
$12.3 million, including interest, is included in current liabilities on the
consolidated balance sheet as of March 31, 2002. As of May 15, 2002, the
liability has remained unpaid. See Note 11 to the Consolidated Financial
Statements.
Our capital lease obligations as of March 31, 2002 of approximately $1.7
million are payable in the following amounts: $1.2 million, $0.4 million, and
$0.1 million during the years ended December 31, 2002, 2003 and 2004,
respectively.
In September and October of 1999, we completed the sale of an aggregate of
$115.0 million of 5 1/4% convertible subordinated debentures in a private
placement transaction pursuant to Section 4(2) of the Securities Act of 1933, as
amended, resulting in net proceeds of $110.9 million. The debentures have a
maturity date of September 27, 2004, with semi-annual interest payments due on
March 27 and September 27 of each year beginning on March 27, 2000. The
debentures are convertible into shares of our common stock at an initial
conversion price of $20 per share, subject to adjustment under certain
circumstances. Approximately $93.3 million of the debentures were converted into
shares of our common stock in April 2000. Our outstanding convertible debt as of
March 31, 2002 is approximately $21.7 million
As of March 31, 2002, approximately $6.2 million remains due from Converge
under the amended and restated agreements during the year ended December 31,
2002. As of May 2, 2002, we have received $3.75 million of this amount. The
remaining amounts are expected to be collected as they become due throughout the
year.
During the first quarter of 2002, our available cash, cash equivalent and
short-term investments resources declined by approximately $16.3 million,
principally as a result of continued operating losses, payments related to the
acquisition of Atlas Commerce, Inc. and the additional investment in Converge.
Cash flows from two significant customers, Microsoft and Converge, were
instrumental in financing our business during 2001. As of December 31, 2001, the
Microsoft contractual arrangements have been terminated and anticipated cash
flows under the Converge contractual arrangements have been significantly
curtailed (see Note 6 to the Consolidated Financial Statements). As a result, we
will become increasingly dependent on generating revenues and operating cash
flows from new customers in 2002.
We believe that our current level of liquid assets and the expected cash
flows from contractual arrangements will be sufficient to finance our capital
requirements and anticipated operating losses for at least the next 12 months.
However, to the extent our current level of liquid assets proves to be
insufficient, we may need to obtain additional debt or equity financing.
Additionally, we may, if the capital markets present attractive opportunities,
raise cash through the sale of debt or equity. We can provide no assurance that
our
23
liquid assets will be sufficient to fund our operations or that we will be
successful in obtaining any required or desired financing either on acceptable
terms or at all.
Should funding not be available on acceptable terms, we may implement
additional cost reduction initiatives, including headcount reduction. While such
initiatives may enable us to continue to satisfy our short-term obligations and
working capital requirements, they may negatively impact our ability to
successfully execute our business plan over the longer term.
RECENT ACCOUNTING PRONOUNCEMENTS
In July 2001, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 141, Business Combinations, and SFAS No. 142, Goodwill and Other Intangible
Assets. SFAS No. 141 requires that the purchase method of accounting be used for
all business combinations initiated or completed after June 30, 2001. SFAS No.
141 also specifies criteria that must be met for intangible assets acquired in a
purchase method business combination to be recognized and reported separately
from goodwill, noting that any purchase price allocable to an assembled
workforce may not be accounted for separately. SFAS No. 142, which became
effective January 1, 2002, requires that goodwill and intangible assets with
indefinite useful lives no longer be amortized, but instead be tested for
impairment at least annually in accordance with the provisions of SFAS No. 142.
SFAS No. 142 also requires that intangible assets with definite useful lives be
amortized over their respective estimated useful lives to their estimated
residual values, and reviewed for impairment in accordance with SFAS No. 121.
Accordingly, there has been no amortization of existing goodwill since December
31, 2001.
In August 2001, the FASB issued SFAS No. 144, Accounting for the Impairment
or Disposal of Long-Lived Assets, which supersedes both SFAS No. 121, and the
accounting and reporting provisions of APB No. 30, Reporting the Results of
Operations -- Reporting the Effects of Disposal of a Segment of a Business, and
Extraordinary, Unusual and Infrequently Occurring Events and Transactions, for
the disposal of a segment of a business. SFAS No. 144 retains the fundamental
provisions of SFAS No. 121 for recognizing and measuring impairment losses on
long-lived assets held for use and long-lived assets to be disposed of by sale,
while also resolving significant implementation issues associated with SFAS No.
121. For example, SFAS No. 144 provides guidance on how a long-lived asset that
is used as part of a group should be evaluated for impairment, establishes
criteria for when a long-lived asset is held for sale, and prescribes the
accounting for a long-lived asset that will be disposed of other than by sale.
SFAS No. 144 retains the basic provisions of APB No. 30 on how to present
discontinued operations in the income statement but broadens that presentation
to include a component of an entity (rather than a segment of a business).
Unlike SFAS No. 121, an impairment assessment under SFAS No. 144 will never
result in a write-down of goodwill. Rather, goodwill is evaluated for impairment
under SFAS No. 142. We adopted and implemented SFAS No. 144 as of January 1,
2002.
In November 2001, the FASB issued Topic D-103, Income Statement
Characterization of Reimbursements Received for "Out-of-Pocket" Expenses
Incurred. The FASB staff believes that reimbursements received for out-of-pocket
expenses incurred should be characterized as revenue in the income statement.
This guidance should be applied in financial reporting periods beginning after
December 15, 2001 and comparative financial statements for prior periods should
be reclassified to comply with the guidance. Accordingly, the consolidated
financial statements of operations have been reclassified pursuant to this
guidance.
FACTORS AFFECTING OUR BUSINESS CONDITION
RISKS RELATED TO OUR CONTINUING OPERATIONS
WE MAY REQUIRE ADDITIONAL CAPITAL FOR OUR OPERATIONS AND OBLIGATIONS, WHICH WE
MAY NOT BE ABLE TO RAISE OR, EVEN IF WE DO, COULD BE DILUTIVE TO OUR
SHAREHOLDERS.
Although, based on our most recent projections, we believe our current
level of liquid assets and the expected cash flows from contractual arrangements
will be sufficient to finance our capital requirements and
24
anticipated operating losses for at least the next 12 months, any projection of
future long-term cash needs and cash flows are inherently subject to
uncertainty. There is no assurance that our resources will be sufficient for
anticipated or unanticipated working capital and capital expenditure
requirements during this period. We may need, or find it advantageous, to raise
additional funds in the future to fund our growth, pursue sales and licensing
opportunities, develop new or enhanced products and services, respond to
competitive pressures or acquire complementary businesses, technologies or
services.
If we are ultimately unable, for any reason, to receive cash payments
expected from our customers, in particular scheduled payments under our
maintenance agreement with Converge, our business, financial condition and
results of operations will be materially and adversely affected. We also have a
13.4 million Euro (approximately $11.6 million, excluding accrued interest, as
of March 31, 2002) put and call agreement with British Telecommunications
whereby BT has the right to sell its remaining investment in Verticalnet Europe
to us beginning in March 2002. BT exercised their put option on April 19, 2002.
As of May 15, 2002, the liability has remained unpaid. Our ability to use our
stock to pay this obligation may be limited by our stock price and trading
volume, so we may have to use cash to satisfy some or substantially all of this
obligation, which could increase our need to obtain additional financing.
If we raise additional funds through the issuance of equity or convertible
debt securities, the percentage ownership of our shareholders will be reduced
and shareholders will experience additional dilution. These new securities may
also have powers, preferences and rights that are senior to those of the rights
of our common stock. We cannot be certain that additional financing will be
available on terms favorable to us, if at all. If adequate funds are not
available or not available on acceptable terms, we may be unable to fund our
operations adequately, promote our brand identity, take advantage of acquisition
opportunities, develop or enhance products or services or respond to competitive
pressures. Any inability to do so could have a negative effect on our business,
financial condition and results of operations.
WE MAY NEVER GENERATE AN OPERATING PROFIT.
As of March 31, 2002, our accumulated deficit was approximately $1.1
billion. For the quarter ended March 31, 2002, we sustained a $7.7 million loss
attributable to our continuing operations (including preferred stock dividends).
We expect to incur operating losses for the foreseeable future. We may never
generate an operating profit or, even if we do become profitable from operations
at some point, we may be unable to sustain that profitability.
THE REVENUES AND OPERATING RESULTS OF OUR SMB UNIT IS NO LONGER REPORTED IN THE
RESULTS FROM CONTINUING OPERATIONS BEGINNING IN THE FIRST QUARTER OF 2002.
Our SMB unit is the successor to the Company's original on-line public
marketplace business, and at March 31, 2002 employed 64 individuals compared to
164 employed at that date in our enterprise software business. Revenues for the
SMB unit for the periods ended March 31, 2002 and March 31, 2001 were $13.1
million and $27.6 million, respectively. The income from SMB for the quarter
ended March 31, 2002 was $7.5 million, or $0.07 per share. Excluding the results
of the SMB unit, the company incurred a loss from operations of $0.07 per share.
For the year ended December 31, 2001, $90.0 million, or approximately 72%
of our overall revenues were generated primarily from sales of storefronts,
marketplace managers and advertising on our SMB unit's industry marketplaces.
Because the SMB unit will be treated as a discontinued operation, we will not
report future revenues from the SMB unit as part of our continuing operations.
As a result of our decision to sell the SMB unit, we anticipate that the
composition of our reported revenues will change substantially in future
periods. Beginning in 2002, we will be increasingly dependent on generating
revenues from enterprise software licensing and professional services. In the
foreseeable future, we may not be able to generate revenues from our continuing
operations at the levels we did when we included the revenues of the SMB unit in
our continuing operations.
25
IF THE BUSINESS, REVENUES AND OPERATING RESULTS OF OUR SMB UNIT DECLINE PRIOR TO
A SALE OF THAT BUSINESS, IT COULD DELAY OR IMPEDE OUR ABILITY TO SELL THE SMB
UNIT, WHICH WOULD NEGATIVELY IMPACT OUR CASH FLOW AND INCREASE OUR NET LOSS.
We announced on February 13, 2002, that we intend to sell the SMB unit and
will treat it for accounting purposes as a discontinued operation in the first
quarter of 2002, based on our expectation that we will sell that business within
one year. Although the results of operations of the SMB unit will not be
included in our results from continuing operations after 2001, we will report
the net income (loss) from the SMB unit as discontinued operations on a
quarterly basis in determining our total net income (loss), and we will continue
to fund any net cash used in the SMB unit. If the financial performance of the
SMB unit declines, then it could be more difficult for us to sell the SMB unit
at an acceptable purchase price, or it could significantly delay our ability to
complete a sale. If we continue to own the SMB unit for an extended time period
during which its financial performance declines significantly or it has
significant unexpected cash needs, then our total net loss and cash flows could
be negatively impacted.
WE MAY NOT DEVELOP SIGNIFICANT REVENUES FROM ENTERPRISE SOFTWARE LICENSING AND
PROFESSIONAL SERVICES, WHICH COULD ADVERSELY AFFECT OUR FUTURE REVENUE GROWTH
AND ABILITY TO ACHIEVE PROFITABILITY.
If we do not develop and consistently generate significant revenues from
enterprise software licensing and professional services, our business, financial
condition and operating results will be impaired. Our ability to generate
software revenues depends on the overall demand for enterprise software
solutions and professional services, as well as general economic and business
conditions. Suppressed demand for software solutions and services caused by a
weakening economy and reduced levels of spending on technology solutions may
result in less revenue growth than expected or even a decline in revenues. We
cannot offer any assurances that we will be able to develop, enhance or promote
our enterprise software solutions and professional services effectively, whether
as a result of general economic conditions or otherwise.
IF WE CANNOT FURTHER REDUCE OUR EXPENSES, OUR OPERATING RESULTS WILL SUFFER.
Our expense reductions and layoffs throughout 2001 may not have
sufficiently reduced our ongoing operating expenses to a level necessary to
achieve operating profits. If we cannot further reduce our expenses, some of
which are fixed, including those related to non-cancelable agreements, equipment
leases and real estate leases, then our operating results will suffer. In
addition, we may not be successful in further identifying and eliminating
redundancies within our business, or in streamlining our overall operations as
necessary to reduce our expenses.
FLUCTUATIONS IN OUR QUARTERLY OPERATING RESULTS MAY CAUSE OUR STOCK PRICE TO
DECLINE.
Our quarterly operating results are difficult to forecast and could vary
significantly. We believe that period-to-period comparisons of our operating
results are not meaningful and should not be relied on as indicators of future
performance. If our operating results in a future quarter or quarters do not
meet the expectations of securities analysts or investors, the price of our
common stock may fall. Our quarterly operating results will be substantially
dependent on software licenses booked and delivered in that quarter. Any delay
in the recognition of revenue for any of our license transactions could cause
significant variations in our quarterly operating results and could cause our
revenues to fall significantly short of anticipated levels. We also expect that
our quarterly operating results will fluctuate significantly due to other
factors, many of which are beyond our control, including:
- anticipated lengthy sales cycles for our products;
- the size and timing of individual license transactions;
- intense and increased competition in our target markets;
26
- our ability to develop, introduce and bring to market new products and
services, or enhancements to our existing products and services, on a
timely basis; and
- risks associated with past and future acquisitions.
WE MAY BE UNABLE TO MAINTAIN OUR LISTING ON THE NASDAQ STOCK MARKET, WHICH COULD
CAUSE OUR STOCK PRICE TO FALL AND DECREASE THE LIQUIDITY OF OUR COMMON STOCK.
Our common stock is currently listed on the Nasdaq SmallCap Market of the
Nasdaq Stock Market, which has requirements for the continued listing of stock.
Continued listing requires us to maintain a minimum bid price of $1.00 per
share. Since August 2001, the bid price for our common stock has dropped below
$1.00 during extended periods. As of April 1, 2002, our common stock had traded
below $1.00 for 30 consecutive trading days. On May 10, 2002, we transferred our
listing to the Nasdaq SmallCap Market from the Nasdaq National Market under a
bid price grace period program that allows us a 180-day period to regain
compliance with the $1.00 bid price requirement. If we do not maintain our
listing on the Nasdaq SmallCap Market or regain compliance with the Nasdaq
National Market continued listing standards, then our common stock may be
delisted from the Nasdaq Stock Market and the trading market for our common
stock could decline, which could depress our stock price and adversely affect
the liquidity of our common stock.
IF OUR STOCK IS DELISTED FROM THE NASDAQ STOCK MARKET AND OUR SHARE PRICE
DECLINES SIGNIFICANTLY, THEN OUR STOCK MAY BE DEEMED TO BE PENNY STOCK.
If our common stock is considered penny stock, it would be subject to rules
that impose additional sales practices in broker-dealers who sell our
securities. Because of these additional obligations, some brokers may be
unwilling to effect transactions in our stock. This could have an adverse effect
on the liquidity of our common stock and the ability of investors to sell the
common stock. For example, broker-dealers must make a special suitability
determination for the purchaser and have received the purchaser's written
consent to the transaction prior to sale. Also, a disclosure schedule must be
prepared prior to any transaction involving a penny stock and disclosure is
required about sales commissions payable to both the broker-dealer and the
registered representative and current quotations for the securities. Monthly
statements are required to be sent disclosing recent price information for the
penny stock held in the account and information on the limited market in penny
stock.
WE ANTICIPATE LENGTHY SALES AND IMPLEMENTATION CYCLES FOR OUR SOFTWARE PRODUCTS.
We anticipate the sales cycles for our enterprise software products to
average approximately six to nine months. In selling our products, we may be
asking potential customers in many cases to change their established business
practices and conduct business in new ways. In addition, potential customers
must generally consider additional issues, such as product benefits, ease of
installation, ability to work with existing technology, functionality and
reliability, before committing to purchase our products. Additionally, we
believe that the purchase of our products is often discretionary and generally
involves a significant commitment of capital and other resources by a customer,
which frequently requires approval at a number of management levels within the
customer organization. Likewise, the implementation and deployment of our
enterprise software products requires a significant commitment of resources by
our customers and our professional services organization. The challenges we face
in attempting to obtain commitments and approvals from our customers may be
exacerbated by worsening economic conditions in general and in our target
markets, as well as by competition from other software solution providers whose
brands, products and services may be better known to, and more widely accepted
by, potential customers than ours.
WE EXPECT TO RELY ON THIRD PARTIES TO IMPLEMENT OUR PRODUCTS.
We expect to rely increasingly on third parties to implement our software
products at customer sites. If we are unable to establish and maintain
effective, long-term relationships with implementation providers, or if these
providers do not meet the needs or expectations of our customers, our business
could be seriously
27
harmed. As a result of the limited resources and capacities of many third-party
implementation providers, we may be unable to establish or maintain
relationships with third parties having sufficient resources to provide the
necessary implementation services to support our needs. If these resources are
unavailable, we will be required to provide these services internally, which
could significantly limit our ability to meet our customers' implementation
needs. A number of our competitors have significantly more well-established
relationships with third parties that we may potentially partner with. As a
result, these third parties may be more likely to recommend competitors products
and services rather than our own. In addition, we would not be able to control
the level and quality of service provided by our implementation partners.
NEW VERSIONS AND RELEASES OF OUR PRODUCTS MAY CONTAIN ERRORS OR DEFECTS.
Our enterprise software products may contain undetected errors or failures
when first introduced or as new versions are released. This may result in loss
of, or delay in, market acceptance of our products. Errors in new releases and
new products after their introduction could result in delays in release, lost
revenues and customer frustration during the period required to correct these
errors. We may in the future discover errors and defects in new releases or new
products after they are shipped or released.
OUR TARGET MARKETS ARE EVOLVING AND CHARACTERIZED BY RAPID TECHNOLOGICAL CHANGE,
WITH WHICH WE MAY NOT BE ABLE TO KEEP PACE.
The markets for our products and services are evolving and characterized by
rapid technological change, changing customer needs, evolving industry standards
and frequent new product and service announcements. The introduction of products
employing new technologies and emerging industry standards could render our
existing products or services obsolete or unmarketable. If we are unable to
respond to these developments successfully or do not respond in a cost-effective
way, our business, financial condition and operating results will suffer. To be
successful, we must continually improve and enhance the responsiveness, services
and features of our enterprise software products and introduce and deliver new
product and service offerings and new releases of existing products. We may fail
to improve or enhance our software products or introduce and deliver new
releases or new offerings on a timely and cost-effective basis or at all. If we
experience delays in the future with respect to our software products, or if our
improvements, enhancements, offerings or releases to these products do not
achieve market acceptance, we could experience a delay or loss of revenues and
customer dissatisfaction. Our success will also depend in part on our ability to
acquire or license third party technologies that are useful in our business,
which we may not be able to do.
WE MAY ULTIMATELY BE UNABLE TO COMPETE IN THE MARKETS FOR THE PRODUCTS AND
SERVICES WE OFFER.
The markets for our software products and services are intensely
competitive, which may result in low or negative profit margins and difficulty
in achieving market share, either of which could seriously harm our business. We
expect the competitive landscape to remain intense and to increase. Our
enterprise software products and services face competition from software
companies whose products or services compete with a particular aspect of the
solution we provide, as well as several major enterprise software developers.
Many of our competitors have longer operating histories, greater brand
recognition and greater financial, technical, marketing and other resources than
we do, and may have well-established relationships with our existing and
prospective customers. This may place us at a disadvantage in responding to our
competitors' pricing strategies, technological advances, advertising campaigns,
strategic partnerships and other initiatives. Our competitors may also develop
products or services that are superior to or have greater market acceptance than
ours. If we are unable to compete successfully against our competitors, our
business, financial condition and operating results would be negatively
impacted.
WE ARE EXPOSED TO RISKS ASSOCIATED WITH DECREASES IN THE FAIR VALUE, OR A
COMPLETE LOSS, OF OUR EQUITY INVESTMENTS.
We may invest in equity instruments of privately-held companies for
business and strategic purposes. Such items are included in other investments on
our balance sheet. As of March 31, 2002, we held cost method investments of
$10.6 million, of which our Converge investment was $7.8 million. We may never
28
realize any return on our equity interests in Converge or these other entities,
or we may suffer a complete loss of these equity interests, which could
materially and adversely affect our business, financial condition and operating
results. In addition, our quarterly results may be materially reduced if we
determine that an impairment in the fair value of one of our equity positions is
other than temporary, which would require us to write down or write off the
carrying value of those securities.
During the year ended December 31, 2001, we recorded an aggregate of $231.3
million in impairment charges for other than temporary declines in the fair
value of several of our cost method, equity method and available-for-sale
investments, $207.2 million of which was a write-down of the fair value of our
investment in Converge.
ACQUISITIONS MAY NEGATIVELY IMPACT OUR BUSINESS.
We have grown, and may continue to grow, our business through acquisitions
that complement our existing products and services. If we are unable to complete
future acquisitions, our business, financial condition and operating results
could be negatively impacted. We may not be able to identify additional suitable
businesses that are available for sale at reasonable prices or on reasonable
terms. Even if we are able to identify appropriate acquisition candidates, we
may not be able to negotiate the terms of any acquisition successfully, finance
the acquisition or integrate the acquired business (including its products,
services, technologies or personnel) into our existing business operations. Our
acquisition strategy is also subject to numerous other risks including, without
limitation, the following:
- acquisitions may cause a disruption in our ongoing business, distract our
management and other resources and make it difficult to maintain our
standards, controls and procedures;
- we may acquire companies in markets in which we have little experience;
- we may not be able to retain key employees from acquired companies or
from our own company after the acquisition, and may face competition from
employees that leave before or after an acquisition is complete;
- to pay for acquisitions, we may be required to issue equity securities,
which may be dilutive to existing shareholders, or we may be required to
incur debt or spend cash, which would negatively impact our liquidity and
could impair our ability to fund our operations;
- we may not realize any return on our investment in the acquired companies
and may even lose our entire investment and incur significant additional
losses;
- our share price could decline following market reaction to our
acquisitions; and
- our interest deductions may be disallowed for federal income tax
purposes.
IF WE DO NOT DEVELOP THE "VERTICALNET" BRAND IN THE ENTERPRISE SOFTWARE
INDUSTRY, OUR REVENUES MIGHT NOT INCREASE.
To be successful, we must establish and continuously strengthen the
awareness of the "Verticalnet" brand in the enterprise software industry. If our
brand awareness as a maker of enterprise software does not develop, or if
developed, is not sustained as a respected brand, it could decrease the
attractiveness of our products and services to potential customers, which could
result in decreased revenues.
OUR INTERESTS MAY CONFLICT WITH THOSE OF INTERNET CAPITAL GROUP, OUR LARGEST
SHAREHOLDER, WHICH MAY AFFECT OUR BUSINESS STRATEGY AND OPERATIONS NEGATIVELY.
As a result of its stock ownership and board representation, Internet
Capital Group is in a position to affect our business strategy and operations,
including corporate actions such as mergers or takeover attempts, in a manner
that could conflict with the interests of our public shareholders. At December
31, 2001, Internet Capital Group beneficially owned 25,318,644 shares, or
approximately 22.3%, of our common stock, which includes 250,000 shares of our
common stock underlying $5.0 million of our 5 1/4% convertible subordinated
29
debt, and 478,624 shares of our common stock underlying warrants issued to
Internet Capital Group prior to our initial public offering. One representative
of Internet Capital Group is a member of our board of directors. We may compete
with Internet Capital Group for Internet-related opportunities as it seeks to
expand its number of business-to-business assets, in part through acquisitions
and investments. Internet Capital Group, therefore, may seek to acquire or
invest in companies that we would find attractive. While we may partner with
Internet Capital Group on future acquisitions or investments, we have no current
contractual obligations to do so. We do not have any contracts or other
understandings that would govern resolution of this potential conflict. This
competition, and the potential conflict posed by the designated director, may
deter companies from partnering with us and may limit our business
opportunities.
INTERNET CAPITAL GROUP MAY HAVE TO BUY OR SELL OUR STOCK TO AVOID REGISTRATION
UNDER THE INVESTMENT COMPANY ACT OF 1940, WHICH MAY NEGATIVELY AFFECT OUR STOCK
PRICE.
To avoid registration under the Investment Company Act of 1940, Internet
Capital Group may need to continue to own more than 25% of our voting securities
and to continue to have a representative on our board of directors. Under the
Investment Company Act, a company is considered to control another company if it
owns more than 25% of that company's voting securities and is the largest
stockholder of such company. A company may be required to register as an
investment company if more than 45% of its total assets consist of, and more
than 45% of its income/loss and revenue attributable to it over the last four
quarters is derived from, ownership interests in companies it does not control.
Internet Capital Group has publicly stated that it is not feasible to be
regulated as an investment company because the Investment Company Act rules are
inconsistent with their corporate strategy. As of December 31, 2001, Internet
Capital Group's ownership interest in us was 22.3%. On March 25, 2002, Internet
Capital Group filed a Schedule 13D stating that it had increased its beneficial
ownership in us to 35,841,747, or 31.6% of our common stock, because it had
reached an agreement with Safeguard Scientifics that provides it with the right
of first refusal to purchase the 10,523,103 shares of our stock that Safeguard
owns. If its ownership interest falls below 25%, Internet Capital Group may need
to purchase additional voting securities to return to an ownership interest of
at least 25% to avoid having to register as an investment company. The possible
need of Internet Capital Group to maintain a 25% ownership position could
adversely influence its decisions regarding actions that may otherwise be in the
best interests of our public shareholders. If Internet Capital Group sells all
or part of its investment in us, whether to comply with the Investment Company
Act of 1940, to raise additional capital or otherwise, it could adversely affect
our common stock's market price.
OUR SUCCESS DEPENDS ON OUR KEY MANAGEMENT AND EXPERIENCED SOFTWARE PERSONNEL,
WHOM WE MAY NOT BE ABLE TO RETAIN OR HIRE.
We believe that our success depends on continued employment of our senior
management team and on having a highly trained product development staff, sales
force and professional service organization. If one or more members of our
senior management team were unable or unwilling to continue in their present
positions, our business, financial condition and operating results could be
materially adversely affected. If we are unable to retain or hire trained
technical personnel and experienced software sales and service professionals, it
could limit our ability to design, develop and implement our products, or
increase sales of our products and services. Ultimately, our business, financial
condition and operating results will be impaired if we cannot hire and retain
suitable personnel.
WE MAY NOT BE ABLE TO PROTECT OUR PROPRIETARY RIGHTS AND MAY INFRINGE THE
PROPRIETARY RIGHTS OF OTHERS.
Proprietary rights are important to our success and our competitive
position. We may be unable to register, maintain and protect our proprietary
rights adequately or to prevent others from claiming violations of their
proprietary rights. Although we file copyright registrations for the source code
underlying our software, enforcement of our rights might be too difficult and
costly for us to pursue effectively. We have filed patent applications for the
proprietary technology underlying our software, but our ability to fully protect
this technology is contingent upon the ultimate issuance of the corresponding
patents. Effective patent, copyright and trade secret protection of our software
may be unavailable or limited in certain countries.
30
SEVERAL LAWSUITS HAVE BEEN BROUGHT AGAINST US AND THE OUTCOME OF THESE LAWSUITS
IS UNCERTAIN.
Several lawsuits have been brought against us and the underwriters of our
stock in our initial public offering. These lawsuits allege, among other things,
that the underwriters engaged in sales practices that had the effect of
inflating our stock price, and that our prospectus for that offering was
materially misleading because it did not disclose these sales practices. We
intend to vigorously defend against these lawsuits. No assurance can be given as
to the outcome of these lawsuits.
WE MAY NOT HAVE SUFFICIENT CASH FLOW FROM OPERATIONS TO SERVICE OUR DEBT.
As of March 31, 2002, we had approximately $24.0 million in long-term debt
(including $21.7 million of our outstanding 5 1/4% convertible subordinated
debentures due 2004). Currently, we are not generating sufficient cash flow from
our operations to satisfy our annual debt service payment obligations. If we are
unable to satisfy our debt service requirements, substantial liquidity problems
could result, which would negatively impact our future prospects.
SHARES ELIGIBLE FOR FUTURE SALE BY OUR CURRENT OR FUTURE SHAREHOLDERS MAY CAUSE
OUR STOCK PRICE TO DECLINE.
If our shareholders or optionholders sell substantial amounts of our common
stock in the public market, including shares issued in completed or future
acquisitions or upon the exercise of outstanding options and warrants, then the
market price of our common stock could fall. As of March 31, 2002, the holders
of 42,170,731 shares of common stock (which includes the 14,157,630 shares
issued in the acquisition of Atlas Commerce), warrants to purchase 2,127,038
shares of common stock and 112,594 shares of Series A preferred stock, which are
convertible into approximately 1,296,043 shares of common stock, have demand
and/or piggyback registration rights. The exercise of such rights could
adversely affect the market price of our common stock. We also have filed a
shelf registration statement to facilitate our acquisition strategy, as well as
registration statements to register shares of common stock under our stock
option and employee stock purchase plans. Shares issued pursuant to existing or
future shelf registration statements, upon exercise of stock options and in
connection with our employee stock purchase plan will be eligible for resale in
the public market without restriction.
ANTI-TAKEOVER PROVISIONS AND OUR RIGHT TO ISSUE PREFERRED STOCK COULD MAKE A
THIRD-PARTY ACQUISITION OF US DIFFICULT.
Verticalnet is a Pennsylvania corporation. Anti-takeover provisions of
Pennsylvania law could make it more difficult for a third party to acquire
control of us, even if such change in control would be beneficial to our
shareholders. Our articles of incorporation provide that our board of directors
may issue preferred stock without shareholder approval. In addition, our bylaws
provide for a classified board, with each board member serving a staggered
three-year term. The issuance of preferred stock and the existence of a
classified board could make it more difficult for a third party to acquire us.
OUR COMMON STOCK PRICE IS LIKELY TO REMAIN HIGHLY VOLATILE.
The market for stocks of technology companies has been highly volatile
since our initial public offering in 1999. Throughout this period, the market
price of our common stock has reached extreme highs and lows, and our daily
trading volume has been, and will likely continue to be, highly volatile.
Investors may not be able to resell their shares of our common stock following
periods of price or trading volume volatility because of the market's adverse
reaction to such volatility. Factors that could cause volatility in our stock,
in some cases regardless of our operating performance, include, among other
things:
- general economic conditions, including suppressed demand for technology
products and services;
- actual or anticipated variations in quarterly operating results;
- announcements of technological innovations;
- new products or services;
31
- changes in financial estimates by securities analysts;
- conditions or trends in business-to-business usage of software and
related technology;
- changes in the market valuations of other Internet, software or
technology companies;
- failure to meet analysts' or investors' expectations;
- announcements by us or our competitors of significant acquisitions,
strategic partnerships or joint ventures;
- capital commitments;
- additions or departures of key personnel; and
- sales of common stock or instruments convertible into common stock.
RISKS RELATED TO OUR SMALL/MEDIUM BUSINESS UNIT THAT WE INTEND TO SELL, WHICH
THEREFORE WILL BE TREATED FOR ACCOUNTING PURPOSES AS DISCONTINUED OPERATIONS
BEGINNING IN 2002
IF WE ARE UNABLE TO PROVIDE NEW CUSTOMER LEADS TO THE SUPPLIERS, BUYERS AND
OTHER USERS OF OUR INDUSTRY MARKETPLACES, IT MAY NEGATIVELY IMPACT THE OPERATING
RESULTS OF OUR SMB UNIT.
The success of our SMB unit depends on our ability to provide sales leads
to the suppliers, buyers and other users of our industry marketplaces. If we are
unable to attract buyers to visit our industry marketplaces then they will be
unlikely to leave sales leads for our suppliers. If we are unable to
consistently provide sales leads to suppliers, they will be unlikely to purchase
or renew our marketplace manager tools. If suppliers have an unsatisfactory
experience receiving sales leads, we would have difficulty in cross-marketing to
them to leave sales leads in buying for their own businesses from other
suppliers. If the sales leads that suppliers do receive are of such poor quality
that they consistently fail to result in sales, then they will be unlikely to
purchase or renew our marketplace manager tools.
THE SUCCESS OF OUR SMB UNIT DEPENDS ON THE DEVELOPMENT OF ALLIANCES WITH
THIRD-PARTY MARKETPLACES TO DRIVE ADDITIONAL LEADS TO OUR SUPPLIERS, WHICH IS
UNCERTAIN.
The success of the SMB unit depends in part upon our ability to drive more
leads to our suppliers by syndicating our suppliers' content into industry
marketplaces maintained by other parties. We expect to rely increasingly on
alliances with third-party marketplaces to syndicate our suppliers' content into
other industry marketplaces. Our failure to maintain relationships and build new
ones with third-party industry marketplaces. could result in our failure to
provide leads to our suppliers.
IF WE CANNOT GENERATE NEW REVENUES FROM THE SALE OF MARKETPLACE MANAGER
PRODUCTS, THEN OUR SMB BUSINESS WOULD SUFFER.
Our SMB unit currently relies for a material part of its revenues on the
sale of our marketplace manager tool, which helps customers generate sales leads
on our industry marketplaces. If we are not able to increase our level of new
revenues from marketplace manager sales, our SMB business may suffer. Our
ability to increase our new sales or renewals of our marketplace manager tools
depends on many factors, including, without limitation:
- general economic conditions and their impact on demand for online sales
tools;
- acceptance of the Internet as a legitimate, effective and measurable
medium for business-to-business activity;
- the development of a large base of users on our industry marketplaces who
possess demographic characteristics attractive to suppliers; and
- our ability to develop effective marketing programs and build
relationships with third-party providers to help generate sales leads.
32
THE CONTENT ON OUR SMB UNIT INDUSTRY MARKETPLACES MAY NOT ATTRACT A SIGNIFICANT
NUMBER OF USERS WITH DEMOGRAPHIC CHARACTERISTICS VALUABLE TO SUPPLIERS.
The future success of the SMB unit depends in part upon our ability to
deliver compelling business content on our industry marketplaces that will
attract a significant number of buyers and other users with demographic
characteristics valuable to business suppliers. Our inability to deliver
business content that attracts a loyal buyer base with demographic
characteristics attractive to suppliers could impair the business, financial
condition and operating results of the SMB unit. We face the challenge of
delivering content that is attractive to users in an environment characterized
by rapidly changing user preferences, as well as the ease with which users can
freely navigate and instantly switch among a large number of Internet sites,
many of which offer business content that may be more attractive than ours. If
we cannot consistently anticipate or respond quickly to changes in user
preferences or distinguish our content from that offered on other Web sites, our
SMB unit industry marketplaces may not attract a significant number of users
with demographic characteristics that buyers and suppliers are seeking.
WE MAY NOT BE ABLE TO PROTECT THE PROPRIETARY RIGHTS OF OUR SMB UNIT AND MAY
INFRINGE THE PROPRIETARY RIGHTS OF OTHERS.
Generally, our domain names for our SMB unit industry marketplaces cannot
be protected as trademarks because they are considered "generic" under
applicable law. In addition, effective copyright, trademark, patent and trade
secret protection may be unavailable or limited in certain countries, and the
global nature of the Internet makes it impossible to control the ultimate
destination of our work. We also license content from third parties for our
industry marketplaces, which makes it possible that we could become subject to
infringement actions based upon the content licensed from those third parties.
OUR FAILURE TO MAINTAIN RELATIONSHIPS WITH THIRD-PARTY CONTENT PROVIDERS MAY
IMPAIR THE OPERATING RESULTS OF OUR SMB UNIT.
We have relied on, and expect to rely increasingly on, third parties such
as news wires to provide content for our industry marketplaces. If we are unable
to maintain our relationships with third-party content providers, or replace
them with other content providers on comparable terms, then we could suffer
decreased traffic on, and customer leads through, our industry marketplaces.
WE MAY BE SUBJECT TO LEGAL LIABILITY FOR PUBLISHING OR DISTRIBUTING CONTENT ON
OUR INDUSTRY MARKETPLACES OVER THE INTERNET.
Providers of Internet products and services have been sued in the past,
sometimes successfully, based on the content they offer. We may be subject to
legal claims relating to the content on our industry marketplaces, or the
downloading and distribution of such content. Claims could also involve matters
such as defamation, invasion of privacy and copyright infringement. In addition,
some of the content provided on our industry marketplaces is drawn from data
compiled by other parties, including governmental and commercial sources, and we
re-key the data. This data may have errors. If our content is improperly used or
if we supply incorrect information, it could result in unexpected liability. Our
insurance may not cover claims of this type, or may not provide sufficient
coverage. Our SMB unit's business, financial condition and operating results
could suffer materially if costs resulting from these claims are not covered by
our insurance or exceed our coverage.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our exposure to market risk related changes in interest rates relates
primarily to our investment portfolio. We invest in instruments that meet high
quality credit standards, as specified in our investment policy. The policy also
limits the amount of credit exposure we may have to any one issue, issuer or
type of investment. As of March 31, 2002, our portfolio of investments included
$34.0 million in cash and cash equivalents. Due to the conservative nature of
our investment portfolio, we believe that a sudden change in interest rates
would not have a material effect on the value of the portfolio. We estimate that
if the average yield of our investments had decreased by 100 basis points, our
interest income for the three months ended March 31, 2002 would have
33
decreased by less than $93,000. This estimate assumes that the decrease occurred
on the first day of the year and reduced the yield of each investment instrument
by 100 basis points. The impact on our future interest income and future changes
in investment yields will depend largely on the gross amount of our investment
portfolio.
We invest in equity instruments of privately-held companies for business
and strategic purposes. These investments are included in other investments and
are accounted for under the cost method when ownership is less than 20% and we
do not have the ability to exercise significant influence over operations. As of
March 31, 2002 we hold cost method investments of approximately $10.6 million,
of which our Converge investment is $7.8 million. For these investments in
privately-held companies, our policy is to regularly review the assumptions
underlying the operating performance and cash flow forecasts in assessing the
recoverability of the carrying values. We identify and record impairment losses
when events and circumstances indicate that such assets might be impaired. Since
our initial investments, certain of these investments in privately-held
companies have become marketable equity securities upon the investees'
completion of initial public offerings or the acquisition of the investee by a
public company. Such investments, most of which are in the Internet industry,
are subject to significant fluctuations in fair market value due to the
volatility of the stock market. As of March 31, 2002, the fair market value of
these marketable equity securities included in short-term and long-term
investments was $1.9 million.
In connection with Ariba's acquisition of Tradex Technologies, Inc., we
received Ariba common stock. In July 2000, we entered into forward sale
contracts relating to our investment in Ariba. Under these contracts, we pledged
our shares of Ariba's common stock to the counterparty for a three-year period
in return for approximately $47.4 million of cash. At the conclusion of the
three-year period, we have the option of delivering either cash or the pledged
Ariba shares to satisfy the forward sale. However, we will not be required to
deliver shares in excess of those we pledged. If we choose to deliver Ariba
shares to satisfy the forward sale, the number of Ariba shares to be delivered
at maturity may vary depending on the then market price of Ariba's common stock.
We have only limited involvement with derivative financial instruments and do
not use them for trading purposes. Our risk of loss in the event of
nonperformance by the counterparty under the forward sales contract is not
considered to be significant. Although the forward sales contract exposes us to
market risk, fluctuations in the fair value of these contracts are mitigated by
expected offsetting fluctuations in the value of the pledged securities.
34
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
On June 12, 2001, a class action lawsuit was filed against us and several
of our officers and directors in U.S. Federal Court for the Southern District of
New York in an action captioned CJA Acquisition, Inc. v. Verticalnet, et al.,
C.A. No. 01-CV-5241 (the "CJA Action"). Also named as defendants were four
underwriters involved in the issuance and initial public offering ("IPO") of
3,500,000 shares of Verticalnet common stock in February 1999 -- Lehman Brothers
Inc., Hambrecht & Quist LLC, Volpe Brown Whelan & Company LLC and WIT Capital
Corporation. The complaint in the CJA Action alleges violations of Sections 11
and 15 of the Securities Act of 1933 and Section 20(a) of the Securities
Exchange Act of 1934 and Rule 10b-5 promulgated thereunder, based on, among
other things, claims that the four underwriters awarded material portions of the
initial shares to certain favored customers in exchange for excessive
commissions. The plaintiff also asserts that the underwriters engaged in a
practice known as "laddering," whereby the clients or customers agreed that in
exchange for IPO shares they would purchase additional shares at progressively
higher prices after the IPO. With respect to Verticalnet, the complaint alleges
that the company and its officers and directors failed to disclose in the
prospectus and the registration statement the existence of these purported
excessive commissions and laddering agreements. After the CJA Action was filed,
several "copycat" complaints were filed in U.S. Federal Court for the Southern
District of New York. Those complaints, whose allegations mirror those found in
the CJA Action, include Ezra Charitable Trust v. Verticalnet, et al., C.A. No.
01-CV-5350; Kofsky v. Verticalnet, et al., C.A. No. 01-CV-5628; Reeberg v.
Verticalnet, C.A. No. 01-CV-5730; Lee v. Verticalnet, et al., C.A. No.
01-CV-7385; Hoang v. Verticalnet, et al., C.A. No. 01-CV-6864; Morris v.
Verticalnet, et al., C.A. No. 01-CV-9459, and Murphy v. Verticalnet, et al.,
C.A. No. 01-CV-8084. None of the complaints state the amount of any damages
being sought, but do ask the court to award "rescissory damages." All of the
foregoing suits were amended and consolidated into a single complaint that was
filed with the federal court on April 19, 2002. This amended complaint contains
additional factual allegations concerning the events discussed in the original
complaints, and asserts that, in addition to Sections 11 and 15 of the
Securities Act, the company and our officers and directors also violated
Sections 10(b), 20(a) and Rule 10b-5 of the Exchange Act in connection with the
IPO. In addition to this amended and consolidated complaint, the plaintiffs in
this lawsuit and in the hundreds of other similar suits filed against other
companies in connection with IPOs that occurred in the late 1990s have filed
"master allegations" that primarily focus on the conduct of the underwriters of
the IPOs, including our IPO. We have retained counsel and intend to vigorously
defend ourselves in connection with the allegations raised in the amended and
consolidated complaint. In addition, we intend to enforce our indemnity rights
with respect to the underwriters who are also named as defendants in the amended
and consolidated complaint.
On August 13, 2001, a lawsuit was filed against us in Massachusetts
Superior Court (Peter L. LeSaffre, Robert R. Benedict and R.W. Electronics, Inc.
v. NECX.com LLC and Verticalnet, Inc., C.A. No. 01-3724-B.L.S.). The suit
alleges that, in connection with our acquisition of R.W. Electronics in March
2000, certain Verticalnet and NECX officials made representations about certain
technologies that the companies would be using to make them more successful and
profitable. As a result of the alleged failure to use this technology,
plaintiffs claim they only received $43.0 million on the sale of R.W.
Electronics, rather than the $78.0 million that they claim they were entitled
to. On April 11, 2002, the parties to the lawsuit entered a settlement
agreement, and the lawsuit has been dismissed. The terms of the settlement are
confidential.
On December 4, 2001, a lawsuit was filed against us in the Montgomery
County (Pa.) Court of Common Pleas in an action captioned Belcher-Pregmon
Commercial Real Estate Co. v. Verticalnet, C.A. No. 01-22968. The suit alleges
that the plaintiff is entitled to a broker commission in excess of $0.4 million
in connection with our former lease of a building in Horsham, Pa. We have
retained counsel to defend against the lawsuit and have filed preliminary
objections asking that the suit be dismissed.
Atlas Commerce filed a lawsuit on June 14, 2001 against a former senior
vice president of Atlas Commerce in the Chester County (Pa.) Court of Common
Pleas in an action captioned Atlas Commerce U.S., Inc., C.A. No. 01-05017. The
lawsuit seeks to recover in excess of $0.6 million in principal and interest in
35
connection with a loan made to the executive. The former executive answered the
suit on July 30, 2001 and filed counterclaims against Atlas Commerce asserting
breach of an oral agreement. Atlas Commerce asked the Court to dismiss the
counterclaims and the Court recently granted our request to dismiss the
counterclaims. We have now asked the Court to rule in our favor on the loan
based simply on the papers that have already been filed. The Court first set
oral argument to rule on the plaintiff's motion for leave to amend to include a
defense that our claims are barred by the written employment agreement. In a
related action, the same executive filed a lawsuit on December 7, 2001, against
Atlas Commerce in federal district court for the Eastern District of
Pennsylvania in an action captioned Barr v. Atlas Commerce U.S., Inc., C.A. No.
01-CV-6129. The suit alleges violation of the federal Age Discrimination and
Employment Act, and seeks damages in an unspecified amount. We have retained
counsel and answered the complaint on February 11, 2002.
We are also party to various other litigation and claims that arise in the
ordinary course of business. In the opinion of management, the ultimate
resolutions with respect to these actions will not have a material adverse
effect on our financial position or results of operations.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
(a) None.
(b) None.
(c) During the quarter ended March 31, 2002, we issued the following
unregistered securities pursuant to the following transaction:
(i) On January 7, 2002 we paid quarterly dividend payments totaling
$1.6 million to the holder of our Series A preferred stock in the form of
1,639 shares of our Series A preferred stock.
This transaction was exempt from registration under Section 4(2) of the
Securities Act of 1933, as amended. The transaction was privately negotiated and
did not include any general solicitation or advertising. The purchaser
represented that it was acquiring the shares without a view to distribution and
was afforded an opportunity to review all publicly filed documents and to ask
questions and receive answers from our officers.
(d) Not applicable.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
(a) None.
(b) As of March 31, 2002, cumulative dividends of $1.7 million had been
earned by, but not yet paid to, the holder of our Series A preferred stock.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders during the quarter
ended March 31, 2002.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits.
36
The following exhibits are filed as part of this Form 10-Q:
EXHIBIT
NUMBER DESCRIPTION
------- -----------
10.1 First Amendment to the Amended and Restated Subscription
License Agreement, dated as of February 1, 2002, between
Verticalnet, Inc., Verticalnet Enterprises LLC and Converge,
Inc.(1)
10.2 First Amendment to Maintenance and Support Agreement, dated
February 1, 2002, between Verticalnet, Inc., Verticalnet
Enterprises LLC and Converge, Inc.(1)
10.3 Employment Agreement, dated February 19, 2002, between
Verticalnet, Inc. and Kevin S. McKay*
10.4 Restricted Stock Unit Agreement, dated February 19, 2002
between Verticalnet, Inc. and Kevin S. McKay*
10.5 Employment Agreement, dated February 7, 2002, between
Verticalnet, Inc. and John A. Milana*
---------------
* Filed herewith.
(1) Filed as an exhibit to the registrant's report on Form 10-K dated December
31, 2001.
(b) Reports on Form 8-K.
On January 4, 2002, we filed a Current Report on Form 8-K, dated December
30, 2001, regarding our acquisition of Atlas Commerce, Inc. (Item 5)
On February 25, 2002, we filed a Current Report on Form 8-K, dated February
13, 2002, regarding (a) the appointment of John A. Milana to the position of
Chief Financial Officer on February 13, 2002; (b) the appointment of Kevin S.
McKay to the position of President and Chief Executive Officer on February 19,
2002; and (c) the announcement that Michael J. Hagan, former President and Chief
Executive Officer, would replace Mark L. Walsh as Chairman of the Board. (Item
5)
37
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, thereunto duly authorized, in Malvern,
Pennsylvania, on May 15, 2002.
VERTICALNET, INC.
By: /s/ KEVIN S. MCKAY
------------------------------------
Kevin S. McKay
President and Chief Executive
Officer
By: /s/ JOHN A. MILANA
------------------------------------
John A. Milana
Chief Financial Officer
38