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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2000 COMMISSION FILE NUMBER 0-26123
ONLINE RESOURCES CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 52-1623052
(State or other jurisdiction of incorporation (I.R.S. Employer Identification Number)
or organization)
7600 COLSHIRE DRIVE
MCLEAN, VIRGINIA 22102
(Address of principal executive offices) (Zip code)
(703) 394-5100
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
TITLE OF EACH CLASS
Common Stock, $0.0001 par value per share
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 by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
The aggregate market value of the common stock of the registrant held by
non-affiliates as of March 23, 2001 was $18,447,000. There were 11,679,788
shares of common stock outstanding as of March 23, 2001.
DOCUMENTS INCORPORATED BY REFERENCE
The registrant intends to file a definitive proxy statement for its 2001
Annual Meeting of Stockholders pursuant to Regulation 14A within 120 days of the
end of the fiscal year ended December 31, 2000. Portions of such proxy statement
are incorporated by reference into Part III of this Form 10-K.
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ONLINE RESOURCES CORPORATION
FORM 10-K
TABLE OF CONTENTS
PAGE
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PART I
Item 1: Business 1
Item 2: Properties 17
Item 3: Legal Proceedings 17
Item 4: Submission of Matters to a Vote of Security Holders 17
PART II
Item 5: Market for the Registrant's Common Equity and Related
Stockholder Matters 18
Item 6: Selected Financial Data 19
Item 7: Management's Discussion and Analysis of Financial Condition
and Results of Operations 21
Item 7A: Quantitative and Qualitative Disclosures About Market Risk 25
Item 8: Financial Statements and Supplementary Data 26
Item 9: Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure 44
PART III
Item 10: Directors and Executive Officers of the Company 44
Item 11: Executive Compensation 44
Item 12: Security Ownership of Certain Beneficial Owners and
Management 44
Item 13: Certain Relationships and Related transactions 44
Item 14: Exhibits, Financial Statement Schedules, and Reports on Form
8-K 44
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PART I
ITEM 1. BUSINESS
OVERVIEW
Online Resources Corporation is a Delaware corporation and was incorporated
in 1989. We are a leading Internet banking, bill payment and e-finance
application service provider to financial institutions. We provide our clients,
primarily regional and community banks, thrifts and credit unions, with an
end-to-end outsourced service, which is branded in their name. This enables
cost-effective delivery of Internet-based financial services to consumer, small
business and other retail customers of our clients. By packaging our transaction
services with our call center, database and support services, we offer an
integrated financial hub and a single-source solution for our clients and their
retail customers.
Although we serve 7 of the largest 100 banks, we primarily target regional
and community financial institutions with assets of $10 billion or less.
Regional and community financial institutions serve approximately two-thirds of
the nation's retail checking accounts, and often lack the internal resources to
build, operate, market and support new Internet-based delivery technology,
related products and services, and supporting infrastructure.
Through our Quotien(TM) product line and our integrated financial hub,
retail customers of our clients may access our proprietary banking service,
which allows them to view account statements and balances of accounts maintained
with our clients, and perform funds transfers and certain cash management
functions. Retail customers may also use our proprietary bill payment services,
allowing them to pay any bill automatically. Our transaction services are
complemented by our call center, database, consumer marketing, Web site design
and hosting, and other support services. In addition, we aggregate e-finance
services provided by third-party partners for Internet-based securities trading,
loan applications, insurance, investment analysis, and credit reports.
Our client financial institutions typically pay us a one-time
implementation fee to link our respective computer systems, allowing their
retail customers to connect to us through the Internet. In addition, we are
typically paid a recurring monthly fee based on the number of retail customers
of the client financial institution who use our services and in some cases on a
per transaction basis. As of December 31, 2000, we provide our services to
approximately 352,000 retail customers of our client financial institutions. Our
508 financial institution clients collectively serve an aggregate of
approximately 8.9 million retail checking accounts.
INDUSTRY BACKGROUND
The Internet has emerged as the fastest growing global communications
medium, enabling millions to connect to a world wide network to conduct business
and share information electronically and is changing the way individuals and
businesses communicate and conduct commerce.
GROWTH OF FINANCIAL ELECTRONIC COMMERCE
Consumer acceptance of easy-to-use electronic media has had a significant
impact on the financial services industry. Since most financial transactions
require transferring only information, rather than tangible goods, the financial
services industry is particularly well suited for electronic commerce. The
combination of the following trends is driving the adoption of financial
electronic commerce:
- Expanding PC Ownership. Declining prices for personal computers, or PCs
and rapid growth in the number of computer-literate consumers are driving
increased penetration of PCs in U.S. homes.
- Increasing Internet Accessibility. Reduced communications costs, improved
Web browsers, and faster connection speeds have made the Internet
increasingly accessible to consumers and to businesses offering products
and services online.
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- Increasing Acceptance of Electronic Commerce. Consumers have grown
increasingly comfortable with the security of electronic commerce and
many are willing to conduct large transactions online. According to
Forrester Research, by the end of 2001 more than one-half of US
households will be online, more than one-third will have purchased
online, and one in 10 will have banked or invested online.
EMERGENCE OF ONLINE FINANCIAL SERVICES
Financial institutions well recognize the advantages offered by online
delivery systems. Financial electronic commerce provides these institutions the
opportunity to offer their services to targeted audiences. Additionally, these
solutions provide financial institutions with the opportunity to reduce or
eliminate personnel, paper and other back office expenses associated with
traditional distribution channels.
Banks, thrifts and credit unions have responded by offering customers
convenient at-home or at-work access to a range of financial services. Retail
customers now have the capability to execute a wide array of online
transactions, including funds transfers, bill payment, and consumer and
residential loan processing. Jupiter Research estimates that 13.1 million US
households have used the Internet for banking transactions as of the end of
2000, with that number estimated to grow to 43.5 million by 2005. In addition,
Jupiter Research estimates that electronic bill payment and presentment will
grow more rapidly than either online banking or online shopping over the next
five years. According to Jupiter, electronic bill payment and presentment is
expected to surge in 2001 and double in volume over the next two years.
With the rapid growth of the Internet banking market, financial
institutions can no longer rely exclusively on traditional retail delivery
methods. Financial institutions that are unable to offer competitive electronic
banking as part of their overall services will find it increasingly difficult to
attract and retain customers.
A number of Web-based financial services specialists such as Charles
Schwab's E-Schwab, E*Trade, CSFBdirect, and Datek Online are taking advantage of
these trends in financial electronic commerce. Jupiter Research reports that the
U.S. market for online investments is expected to exceed $5 trillion by 2005,
which is estimated to be roughly one-third of all expected U.S. households'
investment assets with a majority of those assets attributable to households
earning more than $100,000 annually.
CHALLENGES FOR REGIONAL AND COMMUNITY FINANCIAL INSTITUTIONS
Thomson Financial estimates that of 21,200 depository financial
institutions in the U.S., all but approximately 77 are regional and community
institutions with assets of less than $10 billion. Approximately 66% of U.S.
retail deposits, which excludes deposit accounts of $100,000 or more, are held
in these institutions. While the online banking trend is being driven primarily
by very large financial institutions, regional and community financial
institutions are being compelled to offer comparable services to remain
competitive.
These financial institutions face many obstacles in making electronic
commerce services available to their customers. In particular, they often lack
the capital and human resources to:
- develop the substantial technology infrastructure necessary to provide
their customers with Internet and other online banking services;
- develop the operating and technical expertise to deliver online services
and manage rapidly changing technologies;
- design and execute consumer marketing campaigns necessary to promote the
use of online banking services; and
- provide integrated customer support for their online banking services.
We believe that these limitations and the resulting inability to offer
competitive Internet banking services present a significant impediment to
retaining and attracting customers and put these financial institutions at a
distinct disadvantage.
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THE ONLINE RESOURCES SOLUTION
We provide a single source, fully integrated solution through our
Quotien(TM) e-financial suite of services, which we believe, enables financial
institutions to offer the breadth of financial services needed to remain
competitive. We bring economies of scale and technical expertise to our clients,
who would otherwise lack the resources to compete in the rapidly changing,
complex financial services industry. We differentiate ourselves by internally
developing, integrating and controlling many critical services, such as bill
payment and call center support, rather than relying primarily on third-party
providers for these services. As a single source vendor, we believe our clients
benefit from having one point of accountability and control. We believe our
solution to the obstacles faced by our clients in connection with electronic
commerce provides them with a cost-effective means to retain and expand their
customer base, deliver their services more efficiently and strengthen their
customer relationships.
We provide our services through:
- our technology infrastructure,
- our operating and technical expertise,
- our marketing services, and
- our support services.
Our Technology Infrastructure. We provide our services through our
Quotien(TM) e-financial suite. We serve as a financial electronic commerce hub
by connecting our financial institution clients, their retail customers and
other financial service providers through our integrated communications,
systems, processing and support capabilities. Our middleware component enables
us to integrate customer and financial data gathered through our electronic
commerce hub. This unifying software coordinates customer authorization,
transactions, settlement, security, user profiles, data warehousing,
registration, fulfillment, administrative support and our customer call center
services. These functions operate substantially in real-time and provide an
integrated application for our clients and their retail customers.
In summary our propriety solution includes three Gateways and critical
unifying middleware:
The Access Gateway: A dynamic Web server platform that allows retail
customers of our client financial institutions to review and transact
their services.
The Services Gateway: A set of high quality, Internet-based financial
products, such as our proprietary banking and bill payment services, as
well as other e-finance services offered through our third-party
partners. These other services presently include cash management,
business banking solutions, loan approval, insurance, investment
information and securities trading.
The Electronic Funds Transfer (EFT) Gateway: Our patented EFT gateway
for real time electronic funds transfer between substantially all U.S.
depository financial institutions.
Middleware: An integrated support infrastructure, including middleware
to unify data and processes, a 24 hours a day, seven days a week
consumer and client support call center.
Our Operating and Technical Expertise. We provide regional and community
financial institutions with our operating and technical expertise. We believe
that our industry focus and outsourcing capabilities add value for our clients
by simplifying complex processes and technologies. After eight years of
operating experience, we have established the processes, procedures, controls
and staff necessary to keep our systems running reliably and securely. At the
same time, we have developed the organizational flexibility and inter-
disciplinary staff skills necessary to adjust to a rapidly changing environment.
Our Consumer Marketing Services. We actively conduct retail customer
marketing programs for our clients, and support marketing programs by our
clients. Marketing costs are shared by our clients and us. The marketing
programs include Web-based marketing, direct marketing, telemarketing, statement
stuffers and branch incentives. The marketing programs are privately branded by
the financial institutions so that they may take advantage of their existing
relationships.
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Our Support Services. We provide a comprehensive set of support services
to complement our banking and bill payment services. These support services
include our customer service center, Web site design and hosting and
administrative services. We provide each of these services on an optional basis
and have fully integrated them into our banking, bill payment and related
products.
STRATEGY
Our goal is to become the vendor of choice for regional and community
financial institutions that desire to outsource Internet banking and other
e-financial services. We are positioning ourselves to emerge as a leading
e-financial hub -- adding value to a vast network of relationships. Our strategy
is straightforward: develop a growing base of financial institution clients,
increase the number of their customers who bank online, and encourage these
customers to adopt our online bill payment service as well as other high-margin
e-financial products and services. As our business grows, we believe we can
lower costs through economies of scale and create new opportunities for
marketing and distribution. Our strategy includes the following key elements:
Focus on The Key Business Drivers. That Will Result in Profitability. To
accelerate our timeline to profitability, we are focusing on a five-point
initiative. This initiative focuses on achieving operating cost efficiencies and
expanding revenue from our base of 508 financial institution clients, which
represent a distribution channel for our services to approximately 16.5 million
consumers with approximately 8.9 million checking accounts. This initiative
involves bolstering efforts to cross-sell new products, increasing prices for
selected services where the company is below competitive pricing, and deploying
technical resources to automate processes and reduce operating costs.
Increase Retail Customer Usage. We will continue to design and test new
consumer marketing programs in order to increase our adoption rates, and to
cross-sell bill payment and other services to those who use banking features
only. We intend to do so in a matching fund environment, as opposed to fully
funding the programs ourselves as we have done in the past. This change in
strategy is based on market testing which demonstrated improved results when our
clients contributed marketing funds. As a result, we primarily expect to use
fewer, more efficiently spent dollars matched by our clients.
Enhance Our Services. We believe our large business base of 508 financial
institutions with its potential of approximately 16.5 million consumer
relationships represents an attractive distribution channel for the additional
financial services and content provided by us and by our third-party partners.
In bolstering efforts to cross-sell new products, such as commercial cash
management, to clients, we will shift some of our sales and marketing resources
towards existing customers, as opposed to focusing a higher proportion of
resources on acquiring new clients. We will still continue to aggressively seek
new clients, but we will be more selective in those we target. This means a
focus on cross-selling new products (e.g. cash management, bill presentment,
Quicken access, etc), service enhancements as well as continuing to increase
user adoption.
Leverage Our Database For Cultivation and Communication Services. We
believe that we provide unparalleled real-time financial transaction processing
on the Internet. By the end of 2000 we were processing over 40 million
transactions per year and our bill payment service was processing over $2.5
billion per year. The increased volume and efficiency of these transactions not
only is critical to our business, but also will generate potentially valuable
data using our patented method for confidential messaging without compromising
consumer privacy. This data can be extracted using various data mining and
aggregation tools and techniques, and packaged for new personalized products and
services.
Provide Superior Service Quality and Support Services. We believe that
providing superior quality service is important in attracting and retaining
financial institutions and their retail customers, particularly since our online
banking services and customer call center are branded in their names. We believe
our quality of service is currently among the highest in the industry. Our
system availability now exceeds 99.5%. Approximately 60% of our bill payments
are made electronically and our bill payment error rate is approximately .06%.
We also have expanded our customer call center from 94 to 109 employees during
2000 and we have invested substantially in specialized call center systems,
software and management. In addition, we have engaged a third-party contractor
to support our in-house call center.
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Strengthen Integration of Financial Data. We believe we help our clients
remain competitive in electronic banking and commerce by allowing them to
effectively integrate and offer multiple services and products to their
customers. These products and services are designed to allow our clients' retail
customers to conduct and control all of their financial affairs conveniently. We
expect that this will further strengthen the relationships between our clients
and their retail customers. We recently upgraded our proprietary middleware and
have made substantial investments in software tools and technical staff to
further enhance our integration capabilities.
OUR SERVICES AND PRODUCTS
We offer a single source solution to the electronic commerce challenges of
our financial institution clients. Typically, we contract with our clients to
provide a fully integrated set of Internet and other Internet banking and
e-financial services and related products.
SERVICE PRODUCTS
Our Quotien(TM) suite of e-financial services allow a financial institution
to offer to its retail customers and business customers account access and
transaction capabilities 24 hours a day, seven days a week. Customers are able
to access their accounts anytime and anywhere through the Internet.
Our Quotien(TM) Internet Banking and Bill Payment service offers retail
customers the following features:
- viewing transaction histories and real-time account balances;
- transferring funds within and between financial institutions either
immediately or in the future;
- initiating immediate and future bill payments or transfers; and
- viewing projected balances based upon bill payment and account
activities.
Using our bill payment service, Internet banking customers may pay any
merchant biller or individual. Approximately 60% of our bill payments are
currently made electronically to merchants. We guarantee electronic bill
payments will be received by the payee within two business days of initiation by
the retail customer. We guarantee paper check payments will be received by the
payee within five business days. Paper and electronic payments are drawn on our
escrow account. As of February 28, 2001, we had a bill payment database of
approximately 200,000 discrete merchant billers.
We believe our real-time debit process, described under "Systems and
Technology" below, offers substantial cost and quality advantages in our bill
payment services. Under alternative batch-oriented debit systems, the bill
payment processor cannot immediately verify the availability of sufficient funds
to cover the bill payment. This may result in potential collections issues, the
need to assess credit risk and increased use of paper versus electronic
payments. We therefore believe that real-time debit capability results in a
higher percentage of electronic payments, lower operating costs and a higher
quality of service.
Our Quotien(TM) Bill Payment Service is an unbundled version of the bill
payment service featured in our Internet banking service. It is unique in the
industry because it leverages our existing architecture to access real-time
balance information during a user's online bill payment session. The service
works through our EFT Gateway which links our systems to financial institutions
through ATM networks, data processors, and other financial technology companies
to take advantage of existing and trusted system, security, clearing,
settlement, regulations and procedures. Users of the Quotien(TM) Bill Payment
Service benefit from a secure, reliable real-time direct link to their accounts.
Users schedule transactions and view balances via our intuitive Web user
interface, which is branded for the financial institution. Account balance
inquiries and payment debits are accomplished via standard ISO 8583 transaction
processing codes, and we remit payments to designated merchants on the
appropriate date. We provide users of this service with complete user support
and payment inquiry processing through our Customer Care call center.
Our Quotien(TM) Remittance Service is an attractive add-on service for
financial institutions of all sizes that run their own in-house online banking
system and process their own bill payment debits. It provides their
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system with the extra functionality of bill payment processing, and is backed by
complete funds settlement, payment research, inquiry resolution, and merchant
services. Users provide bill payment instructions via the financial
institution's existing online banking interface, which validates the
availability of funds on the date bills are to be paid. If funds are available,
the user's account is debited and a designated clearing account is credited. On
a daily basis, financial institutions send us a file of all bill payment
requests and we respond immediately, processing bill payment requests and
remitting payments to designated merchants. We provide our financial
institutions with a return file of transaction confirmations, error
descriptions, and data updates, and financial institutions employees have
instant access to comprehensive payment processing and status information
through our Web-based Payment IQ feature.
Our Quotien(TM) Cash Management service is a key component of our business
banking service offering. This sophisticated solution developed by Magnet
Communications, Inc. provides added value in a number of ways. Quotien(TM) Cash
Management's comprehensive application platform provides financial institutions
with additional leverage to attract a greater spectrum of business customers. In
doing so, it is capable of building their earnings potential, as online business
customers typically have larger demand deposits, higher loan balances, and more
accounts than offline customers. And, as it helps them build their business
base, Quotien(TM) Cash Management can help them retain that base with a highly
flexible selection of applications, compelling support features, 24 hours a day,
seven days a week online accessibility, and a secure environment. Just as
important, Quotien(TM) Cash Management provides additional revenue opportunities
through fee-based transactions such as ACH, balance reporting, wire transfers,
book transfers, and stop payments.
Our services generate revenues from recurring monthly fees charged to
financial institution clients, typically based on the number of enrolled retail
customers. Services are priced on a monthly per retail customer basis, and in
some cases, on a transaction basis. Pricing ranges from $1.66 to $8.45 per month
per retail customer depending upon the level of services we provide to the
financial institution. The pricing of these services to retail customers is at
the discretion of each financial institution. Because our clients generally
derive internal cost savings, account retention and other marketing benefits by
offering our services, the majority of our clients do not pass all of these
charges through to their retail customers, and most of our clients offer the
banking portion of our services free-of-charge. At the beginning of 2000, we
revised our pricing to offer Internet banking to financial institution clients
at a fixed fee. Internet banking relates to our services that allow consumers to
view statements and balances and transfer funds among accounts.
We complement our suite of Quotien(TM) banking, bill payment, and
e-financial services with the following comprehensive services:
- Quotien(TM) Customer Care. We maintain a customer service center for
financial institution clients that choose to outsource this service to
us. Retail customers can access the customer service operation by phone
or e-mail 24 hours a day, seven days a week. As of December 31, 2000, our
customer service center had 109 employees available to respond to retail
customers' questions relating to enrollment, transactions or technical
support. We also have engaged a third-party contractor to support our in-
house call center. Customer services generate revenues from recurring
monthly fees charged to financial institution clients, typically based on
the number of enrolled retail customers. For those clients that choose
not to use our customer service bureau, we license to them our
proprietary software for use in their in house customer service
operations.
- Quotien(TM) Web Design and Hosting. We offer Web site design and hosting
services to our financial institution clients. We charge an upfront fee
for design and a recurring monthly maintenance fee for hosting the Web
site.
- Consumer Marketing Support for Financial Institution Clients. Our
consumer marketing focus is to create cost-effective programs to increase
the percentage of our clients' retail customers using our services.
Building on a decade of remote banking experience, we create and produce
programs that are capable of operating successfully across a range of
integrated media, including:
- web-based marketing
- data mining
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- telemarketing
- solo direct mail
- statement inserts
- Internet Advertising
- e-mail
- in-branch employee programs
- statement envelop teasers
These programs are designed around the effective principles of
activation-based marketing, a two-step process that first attracts
customers to the financial institution's Internet banking services and then
converts them to bill payment usage. Our programs employ one of the two
following formats:
- Acquisition Campaigns, targeting our clients' customers who are not
signed up currently for Internet banking services to encourage them to
become new users.
- Conversion Campaigns, targeting current Internet banking customers to
encourage their adoption of bill payment services.
The marketing programs are privately branded by the financial
institutions so they may take advantage of their existing relationships. We
intend to conduct these programs in a matching fund environment, as opposed
to fully funding the programs ourselves as we have done in the past.
- Administrative Services. We provide administrative support services to
our financial institution clients including the compilation of customized
reports regarding their retail customers' account activity. We generally
charge our clients on an hourly basis for these services.
IMPLEMENTATION AND OTHER RELATED PRODUCTS
Initially, we contract with a financial institution to provide services and
products tailored to meet its specific needs. At the time of entering into a
contract, a financial institution client pays a one-time fee, which generally
ranges from $3,000 to $50,000 based on certain factors, including the size of
the financial institution and the scope of services rendered.
Implementation consists of systems integration and a pilot testing period.
A project management team is assembled to integrate our hub with a financial
institution client's legacy host system, typically via an ATM network or a
direct communications interface. A financial institution's legacy host system
houses its transaction accounts. Upon completion of systems integration, we
conduct a pilot testing period using selected customers and employees. Following
the pilot, the financial institution client is fully launched and services are
made available to its retail customers. Generally, at this point, the financial
institution client begins to pay at least the minimum service fees. For clients
who are linked to any one of approximately 60 core processors and ATM networks
with whom we are certified, implementation typically takes 90 to 180 days
between signing and launch.
Third-Party Services. We facilitate retail customers' linking to
additional Quotien(TM) e-financial services beyond our Quotien(TM) Internet
Banking, Bill Payment and Remittance Service. We provide our clients' retail
customers with a comprehensive suite of financial services through our Services
Gateway, which currently supports Internet-based delivery of:
- investment tools and access to major online investment brokerage services
(Trade.com and U.S. Clearing);
- loans (InfiLink(TM));
- insurance (InsWeb);
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- credit management (Consumerinfo.com); and
- financial planning tools for home buying, college education and
retirement.
In addition, we offer "small office/home office" capabilities and have
partnered with Intuit to support QuickBooks and other popular small business
services. We have also developed business arrangements and links to third
parties for expanded retail customer access. We currently have such arrangements
with third-party access providers, typically banking and credit union software
providers such as Ultradata (a service of John H. Harland Company), Aftech (a
subsidiary of Fiserv), Symitar, and Users Incorporated.
By aggregating the retail customers of our financial institution clients
into a large online community, we believe we have begun to assemble an
attractive audience for third parties to market their products and services. In
cooperation with our financial institution clients, we believe that over time
this aggregated community will generate significant buying power and could
attract many additional third-party providers.
Related Products. We also derive revenue from sales of related enabling
products and software at fixed prices, including customer service software.
These have not been a significant source of revenue. Effective January 1, 2001,
we discontinued support of our proprietary PC software and screen-based
telephone.
SALES AND MARKETING
We have adopted a multiple channel institutional sales strategy, covering
both direct and indirect sales.
Direct Marketing to Financial Institutions. We utilize a direct sales
force located throughout the United States. The sales force is responsible for
prospecting and acquiring new accounts. Our account management staff manages
current accounts and cross-sells additional products into those accounts. In
January 2001, we added two telesales staff to assist in prospecting new accounts
for the direct sales force. Sales representatives and account managers earn a
base salary plus commission.
Indirect Sales to Financial Institutions. We support an indirect sales
channel by partnering with third parties who sell complementary services or
products to financial institutions. These alliances leverage the established
vending relationships of our marketing partners and reduce marketing costs by
replacing the need for a larger direct sales force. Our marketing partners
include ATM networks such as MAC and Honor (now known as Star), software
providers such as Intuit, core banking processors such as Connecticut Online
Computer Center and Intrieve, Inc., and credit union processors such as
Ultradata and Symitar. Fee arrangements for our marketing partners vary and are
based on the value-added and scope of responsibilities assumed by the marketing
partner. Typically, marketing partners earn commission based on our
implementation fee. If the marketing partner performs additional on-going
account management and other support services, then the marketing partner may
earn a small portion of our on-going operating fees. Additionally, marketing
partners may benefit from the direct sales of their products and services, such
as transaction fees for ATM networks and processors.
Consumer Marketing Support for Financial Institution Clients. A key focus
of our marketing department is creating cost-effective programs to increase the
percentage of our clients' retail customers using our services. The marketing
programs include Web-based marketing, direct marketing, telemarketing, statement
stuffers and branch incentives.
SYSTEMS AND TECHNOLOGY
Overview. We designed our systems and technology around real-time
communications and processing, which optimizes quality, scalability and cost.
Our systems are based on a multi-tiered architecture consisting of:
- Enabling technology -- commercial software and hardware enabling retail
customers to easily access our hub;
- Front-end servers -- proprietary and commercial communications software
and hardware providing Internet and private communications access to our
hub for retail customers;
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- Middleware -- proprietary and commercial software and hardware used to
integrate customer and financial data and to process financial
transactions;
- Back-end systems -- databases and proprietary software which support our
banking and bill payment services; and
- Support systems -- proprietary and commercial systems supporting our
customer service and other support services.
Our systems architecture is designed to provide retail customer access into
a common database integrated with our banking and bill payment services and our
proprietary support services software. Third-party financial services are linked
to our systems through the Internet, which we plan to more fully integrate into
our retail customer application and transaction processing. Incorporating such
third-party capabilities into our system, enable us to focus our technical
resources on our proprietary middleware and integrating capabilities.
Real-Time ATM Network-Based Process. We typically link to financial
institution clients through an ATM network or core processor using ATM
specifications. By using an ATM network or processor to link into a financial
institution client's primary database for retail customer accounts, we take
advantage of established electronic funds transfer infrastructure. This includes
all telecommunications and software links, security, settlements and other
critical operating rules and processes. Using this ATM architecture, financial
institution clients avoid the substantial additional costs necessary to expand
their existing infrastructure. The net result of using this architecture is that
high quality remote financial electronic commerce services can be provided,
enabling retail customers to access their financial account information and pay
bills by debiting funds from their accounts.
In addition to quality and cost benefits associated with bill payment, we
believe that our real-time architecture is more scalable than traditional batch
systems, which warehouse and store duplicate data. Instead of duplicating each
financial institution's host system by daily batch transmittal of customer
balance information, we communicate in real-time through online ATM networks and
processors to retrieve account balances as needed. We are therefore working with
ATM networks and processors to expand their transaction support to include
retail customer account histories, access to additional information and
interest-related security standards.
Recently we have initiated an architecture called Direct Connect, whereby
we go directly to the clients host system for information retrieval, such as for
balances and other account information, using Internet protocols or other
specifications. However, for the authentication and payments portion of our
service, we will continue to use the established ATM network infrastructure,
with its established settlements, security and other payment capabilities.
Security and Systems Integrity. Our services and related products are
designed to provide security and system integrity, based on Internet and other
communications standards, ATM network transaction processing procedures and
banking industry standards for control and data processing. Prevailing security
standards for Internet-based transactions are incorporated into our Internet
services, including but not limited to, Secure Socket Layer 128K encryption,
using public-private key algorithms developed by RSA, along with firewall
technology for secure transactions. In the case of payment and transaction
processing, we meet security transaction processing and other operating
standards for each ATM network or core processor through which we route
transactions. Our interactive voice response system performs transactions only
if the retail customer is first verified through the financial institution
client's interactive voice response security system. Finally, in conformance
with industry standards promulgated by applicable financial institution
regulatory bodies, we adhere to SAS 70 types I and II requirements for control,
data processing and disaster recovery.
PROPRIETARY RIGHTS
Patents are important to our business; no particular patent is so
important, however, that its loss would significantly adversely affect our
operations as a whole.
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In June 1993, we were awarded U.S. patent number 5,220,501 covering our
real-time ATM network-based payments process. This patent covers bill payment
and other online payments made from the home using any enabling device where the
transaction is routed in real-time through an ATM network. We have licensed this
patent to other parties for limited use. In March 1995 we cross-licensed this
patent to Citibank for their internal use in settlement of litigation.
On February 9, 1999, we were awarded U.S. patent number 5,870,724 for
targeting advertising in a home retail banking delivery service. This patent
provides for the targeting of advertising or messaging to home banking users,
using their confidential bill payment and other financial information, while
preserving consumer privacy. Acting in cooperation and on behalf of a financial
institution client, we first analyze their bill payment and other financial data
to determine an advertising profile or purchasing power. The patent provides for
the targeted advertisement or other message to the selected person or group
based on their profile. No third parties gain access to the retail customers'
sensitive financial data. Through interactive messaging, selected retail
customers of our financial institutions receiving the advertisement or message
then have the choice of releasing their names to the advertiser or messenger.
The confidentiality of their sensitive financial information is thereby
preserved and released only with the approval of the financial institution
client and their retail customers.
On March 13, 2001, we were awarded U.S. patent number 6,202,054 which is a
continuation of U.S. patent number 5,220,501 and expands and clarified the
claims in that patent.
In addition to our patents we have registered trademarks. A significant
portion of our systems, software and processes are proprietary. Accordingly, as
a matter of policy, all management and technical employees execute
non-disclosure agreements as a condition of employment.
COMPETITION
We believe that the principal competitive factors in our market are
industry trust, technical capabilities, operating effectiveness, cost and
scalability, customer service, security, speed to market, and capital. Many of
our competitors have the financial, technical and marketing resources, plus
established industry relationships, to better compete based on these factors.
Competitive pressures we face may have a materially adverse effect on our
business, financial condition or operating results.
We are not aware of any other company that offers a similar financial
electronic commerce hub that in-sources banking and bill payment services, fully
integrates support services and links to other financial service providers.
However, many of our current and potential competitors have longer operating
histories, greater name recognition, larger installed customer bases and
significantly greater financial, technical and marketing resources. Further,
some of our competitors, namely CheckFree, while currently targeting bill
payment and presentment services to large financial institutions, do provide or
have the ability to provide the same range of services we offer and could
determine to direct their marketing initiatives towards our targeted smaller
financial institution client base.
Other competitors such as Metavante, EDS, Fiserv and other core banking
processors have broad distribution channels that bundle competing products
directly to financial institutions. These competitors also have developed or
acquired extensive Internet banking capabilities of their own, including a bill
payment service in the case of Metavante, which may be further expanded to
exceed or meet our capabilities.
In addition, a significant number of companies offer portions of the
services provided by us and compete directly with us to provide such services.
For example, the Web servers of companies such as Corillian, Digital Insight,
FundsXpress and Q-Up (a subsidiary of Security First Technologies), compete with
our front-end Internet access capabilities. These companies may in turn use bill
payment providers, such as CheckFree, Princeton TeleCom, Metavante, who often
team with access providers. There are also other software providers such as
Sanchez Computer, Intelidata, Security First Technologies, and Financial Fusion
that market their software to large financial institutions, that may seek to
penetrate our regional and community banking market. Finally, certain services
such as Intuit's Quicken.com, Yahoo! Finance and Yodlee may be available
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to retail customers independent of financial institutions through their own
offerings as aggregate or consumer accounts from various financial institutions.
GOVERNMENT REGULATION
We are not licensed by the Office of the Comptroller of the Currency, the
Federal Reserve Board, the Office of Thrift Supervision or other Federal or
state agencies that regulate or monitor banks or other types of providers of
financial electronic commerce services. Federal, state or foreign agencies may
attempt to regulate our activities. Congress could enact legislation that would
require us to comply with consumer privacy, data, record keeping, processing and
other requirements. We may be subject to additional regulation as the market for
our business continues to evolve. For example, Regulation E, promulgated by the
Federal Reserve Board, governs certain electronic funds transfers made by
regulated financial institutions and providers of access devices and electronic
fund transfer services, including many aspects of our services. Under Regulation
E, we are required, among other things, to provide certain disclosure to retail
customers, to comply with certain notification periods regarding changes in the
terms of service provided and to follow certain procedures for dispute
resolutions. The Federal Reserve Board may adopt new rules and regulations for
electronic funds transfers that could lead to increased operating costs and
could also reduce the convenience and functionality of our services, possibly
resulting in reduced market acceptance. Because of the growth in the electronic
commerce market, Congress has held hearings on whether to regulate providers of
services and transactions in the electronic commerce market, and Federal or
state authorities could enact laws, rules or regulations affecting our business
operations. We also may be subject to Federal, state and foreign money
transmitter laws, encryption and security export laws and regulations and state
and foreign sales and use tax laws. If enacted or deemed applicable to us, such
laws, rules or regulations could be imposed on our activities or our business
thereby rendering our business or operations more costly, burdensome, less
efficient or impossible, any of which could have a material adverse effect on
our business, financial condition and operating results.
The market we currently target, the financial services industry, is subject
to extensive and complex Federal and state regulation. Our current and
prospective clients, which consist of financial institutions such as commercial
banks, thrifts, credit unions, brokerage firms, credit card issuers, consumer
finance companies, other loan originators, insurers and other providers of
retail financial services, operate in markets that are subject to extensive and
complex Federal and state regulations and oversight. While we are not generally
subject to such regulations, our services and related products must be designed
to work within the extensive and evolving regulatory constraints in which our
clients operate. These constraints include Federal and state truth-in-lending
disclosure rules, state usury laws, the Equal Credit Opportunity Act, the
Electronic Funds Transfer Act, the Fair Credit Reporting Act, the Bank Secrecy
Act, the Community Reinvestment Act, the Financial Services Modernization Act,
the Bank Service Company Act and the Electronic Signatures in Global and
National Commerce Act. Because many of these regulations were promulgated before
the development of our system, the application of such regulations to our system
must be determined on a case-by-case basis. We do not make representations to
clients regarding the applicable regulatory requirements, but instead rely on
each such client making its own assessment of the applicable regulatory
provisions in deciding whether to become a client. Furthermore, some consumer
groups have expressed concern regarding the privacy, security and interchange
pricing of financial electronic commerce services. It is possible that one or
more states or the Federal government may adopt laws or regulations applicable
to the delivery of financial electronic commerce services in order to address
these or other privacy concerns. We cannot predict the impact that any such
regulations could have on our business.
We currently offer services on the Internet. Due to the increasing
popularity of the Internet, it is possible that laws and regulations may be
enacted with respect to the Internet, covering issues such as user privacy,
pricing, content, characteristics and quality of services and products. The
adoption of any such laws or regulations may limit the growth of the Internet,
which could affect our ability to utilize the Internet to deliver financial
electronic commerce services.
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DEPENDENCY ON A SINGLE CUSTOMER
One of our financial institution clients, California Federal Bank,
accounted for 14% of our revenue for the years ended December 31, 2000 and 1999.
Another financial institution client, Riggs National Bank, accounted for 11% of
our revenue for the year ended December 31, 1998.
FINANCIAL INFORMATION ABOUT SEGMENTS
We operate in one business segment. Financial information about the segment
in which we operate is contained in our financial statements and related notes
thereto.
NEW PRODUCTS: RESEARCH AND DEVELOPMENT
Our business includes the maintenance of existing technology and products
and the development and introduction of new products and may include entry into
new business sectors. During the years ended December 31, 2000, 1999 and 1998,
we spent $6,246,174, $3,998,936 and $2,444,615, respectively, on systems and
development, which includes amounts relating to research and development
activities.
SEASONAL INFLUENCES
There are no material seasonal influences on sales of our products and
services.
WORKING CAPITAL REQUIREMENTS
There are no special inventory requirements or credit terms extended to our
customers that would have a material adverse effect on our working capital.
EMPLOYEES
At December 31, 2000, we had 367 employees. None of our employees are
represented by a collective bargaining arrangement. We believe our relationship
with our employees is good.
RISK FACTORS
We may make forward-looking statements, as defined in Section 21E of the
Securities Exchange Act of 1934, throughout this Annual Report on Form 10-K. Any
statements in this document that are not statements of historical fact may be
considered forward-looking. As you read this document, the words "believes,"
"anticipates," "plans," "expects," "seeks," "estimates," and other similar
expressions are intended to identify forward-looking statements. A number of
important factors could cause the company's results to differ materially from
those indicated by such forward-looking statements, including those detailed
below. In addition to the other information provided in this report, the
following risk factors should be considered carefully in evaluating our
business.
WE HAVE A HISTORY OF LOSSES AND COULD CONTINUE TO LOSE MONEY.
We have not yet had an operating profit for any quarterly or annual period
and are unsure when we will become profitable, if ever. We may not be able to
attract and retain enough financial institutions and retail customers to reach
profitable levels. We were established in 1989 and a significant portion of our
existence has been devoted to developing the proprietary systems and
infrastructure needed to implement our business. Profitability in the future
will depend upon a number of factors, including our ability to continue to
contract with new financial institution clients and to develop and retain a
larger retail customer base that uses our services on a regular basis.
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OUR QUARTERLY FINANCIAL RESULTS ARE SUBJECT TO SIGNIFICANT FLUCTUATIONS.
Our quarterly revenues, expenses and operating results may vary
significantly from quarter to quarter in the future. As a result, our operating
results may fall below market analysts' expectations in some future quarters,
which could have a material adverse effect on the market price of our stock.
WE MAY NEED TO RAISE CAPITAL TO STAY IN BUSINESS.
We may not achieve cash flow break-even and may require additional
infusions of capital to sustain operations. This capital may not be available on
favorable terms, or at all. We may need to raise additional funds sooner than we
expect if we incur unforeseen required capital expenditures or substantial
operating losses. If adequate funds are not available or are not available on
acceptable terms, we may not be able to develop or enhance our services, take
advantage of future opportunities or respond to competitive pressures, which
could have a material adverse effect on our business.
WE RELY ON THIRD PARTIES FOR THE SUCCESS OF OUR MARKETING EFFORTS.
We depend in part upon the assistance of marketing partners who include
some or all of our services and related products as a part of their offerings to
financial institutions. Failure by these marketing partners to continue to offer
our services and related products could have a material adverse effect on our
business.
WE DEPEND UPON OUR FINANCIAL INSTITUTION CLIENTS TO MARKET OUR SERVICES.
To market our services to retail customers, we depend upon our financial
institution clients. We generally charge our clients fees based on the number of
their retail customers who have enrolled with our clients for online bill
payment services and, in some cases, online banking services. Therefore, retail
customer enrollment affects our revenue and is important to us. Because our
clients offer our services under their name, we must depend on those clients to
get their customers to use our services. Although we conduct extensive marketing
programs for our clients, our clients may decide not to participate in our
programs or our financial institution clients may not effectively market our
services to their retail customers. Any failure of our clients to effectively
market our services could have a material adverse effect on our business.
OUR CO-MARKETING EFFORTS MAY NOT BE SUCCESSFUL.
We have recently spent substantial financial and human resources to
co-market our services and related products with our financial institution
clients to their retail customers. These marketing efforts may not result in an
increase in acceptance by retail customers necessary for the development of our
business.
WE MAY NOT BE ABLE TO EXPAND TO MEET INCREASED DEMAND.
We may not be able to expand or adapt our services and related products to
meet the demands of our financial institution clients and their retail customers
quickly or at a reasonable cost. The type and volume of transactions processed
through our system and the number of financial institution clients connected to
it have been relatively limited to date. We will need to continue to expand and
adapt our infrastructure, services and related products to accommodate
additional financial institution clients and their retail customers, increased
transaction volumes and changing customer requirements. This will require
substantial financial, operational and management resources. In the past as we
have developed our infrastructure, clients have experienced periods when they
were unable to utilize our services. If we are unable to scale our system and
processes to support the variety and number of transactions and retail customers
who ultimately use our services, our business may be materially adversely
affected.
IF WE LOSE A MATERIAL CLIENT, OUR BUSINESS MAY BE ADVERSELY IMPACTED.
One of our financial institution clients, California Federal Bank,
accounted for 14% of our revenue for the years ended December 31, 2000 and 1999.
The loss of this contract in the near term, or the loss of any other material
contracts in the future, either directly to a competitor, or indirectly in the
event that a financial
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institution client is acquired by an institution that does not use our services,
or decides to provide these services in-house, would have a material adverse
effect on revenues. Loss of any other material financial institution contract in
the future could also negatively impact our ability to attract and retain other
financial institution clients.
WE MAY NOT BE ABLE TO COMPETE WITH LARGER, MORE ESTABLISHED BUSINESSES OFFERING
SIMILAR PRODUCTS OR SERVICES.
We may not be able to compete with current and potential competitors, many
of whom have longer operating histories, greater name recognition, larger, more
established customer bases and significantly greater financial, technical and
marketing resources. Further, some of our competitors provide or have the
ability to provide the same range of services we offer. They could market to our
targeted regional and community financial institution client base. Other
competitors, such as core banking processors, have broad distribution channels
that bundle competing products directly to financial institutions. Also,
competitors may compete directly with us by adopting a similar business model or
through the acquisition of companies, such as resellers, who provide
complimentary products or services.
A significant number of companies offer portions of the services we provide
and compete directly with us. For example, the Web servers of some companies
compete with our front-end Internet access capabilities. Other software
providers have created units to provide on an outsource basis a portion of
services like ours. These companies may use bill payers who team with access
providers. Also, certain services may be available to retail customers
independent of financial institutions such as Intuit's Quicken.com and Yahoo!
Finance. Finally, there are some ATM and other networks that provide similar
services in addition to connecting to financial institutions.
Many of our competitors may be able to afford more extensive marketing
campaigns and more aggressive pricing policies in order to attract financial
institutions. Our failure to compete effectively in our markets would have a
material adverse effect on our business.
FAILURE TO SUCCESSFULLY IMPLEMENT A SYSTEMS UPGRADE OR CONVERSION MAY ADVERSELY
AFFECT OUR REPUTATION AND OUR BUSINESS.
A failure to implement a systems upgrade or conversion would delay
implementation of some of our financial institution clients, could cause us to
divert significant resources and could negatively impact our reputation in the
banking industry. We may be unable to successfully complete any future systems
upgrades or conversions.
WE DEPEND ON OUR OFFICERS AND SKILLED EMPLOYEES DUE TO OUR COMPLEX BUSINESS.
If we fail to attract, assimilate or retain highly qualified managerial and
technical personnel and, in particular, software developers for whom demand is
high in all industry markets, our business could be materially adversely
affected. Our performance is substantially dependent on the performance of our
executive officers and key employees who must be knowledgeable and experienced
in both banking and technology. We are also dependent on our ability to retain
and motivate high quality personnel, especially management and highly skilled
technical teams. The loss of the services of any executive officers or key
employees could have a material adverse effect on our business. Our future
success also depends on the continuing ability to identify, hire, train and
retain other highly qualified managerial and technical personnel. Competition
for such personnel is intense.
SYSTEM FAILURES COULD HURT OUR BUSINESS AND WE COULD BE LIABLE FOR SOME TYPES OF
FAILURES.
Like other system operators, our operations are dependent on our ability to
protect our system from interruption caused by damage from fire, earthquake,
power loss, telecommunications failure, unauthorized entry or other events
beyond our control. Our back-up site is located approximately one mile from our
headquarters, where most of our computer systems, including processing
equipment, are currently operated and maintained. In the event of major
disasters, both locations could be equally impacted. We could also experience
system interruptions due to the failure of our systems to function as intended
or the failure of the
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systems we rely upon to deliver our services such as ATM networks or the systems
of financial institutions and processors that integrate with our systems. Loss
of all or part of our systems for a period of time could have a material adverse
effect on our business. We may be liable to our clients for breach of contract
for interruptions in service. Due to the numerous variables surrounding system
disruptions, we cannot predict the extent or amount of any potential liability.
SECURITY BREACHES COULD DISRUPT OUR BUSINESS.
Like other system operators, our computer systems may also be vulnerable to
computer viruses, hackers, and other disruptive problems caused by unauthorized
parties entering our system. Computer attacks or disruptions may jeopardize the
security of information stored in and transmitted through the computer systems
of our financial institution clients and their retail customers using our
services, which may result in significant losses or liability. This, or the
perception that our systems may be vulnerable to such attacks or disruptions,
also may deter retail customers from using our services.
Data networks are also vulnerable to attacks and disruptions. For example,
in a number of public networks, hackers have bypassed firewalls and
misappropriated confidential information. It is possible, that despite existing
safeguards, an employee could divert retail customer funds while these funds are
in our control, exposing us to a risk of loss or litigation and possible
liability. In dealing with numerous consumers, it is possible that some level of
fraud or error will occur, which may result in erroneous external payments.
Losses or liabilities that we incur as a result of any of the foregoing could
have a material adverse effect on our business.
WE RELY ON OUR INTELLECTUAL PROPERTY RIGHTS AND PROPRIETARY INFORMATION.
We rely on patent and trade secret laws to protect our intellectual
property, such as the software and processes that we have developed in
connection with our business. If we fail to adequately protect our intellectual
property rights and proprietary information or if we become involved in
litigation relating to our intellectual property rights, our business could be
harmed. Any actions we take may not be adequate to protect our intellectual
property rights and other companies may develop technologies that are similar or
superior to our intellectual property. Although we believe that our services do
not infringe on the intellectual property rights of others and that we have all
rights needed to use the intellectual property employed in our business, it is
possible that we could become subject to claims alleging infringement of
third-party intellectual property rights. Any claims could subject us to
litigation, and could require us to pay damages or develop non-infringing
intellectual property, any of which could be expensive, or require us to acquire
licenses to the intellectual property that is the subject of the alleged
infringement.
OUR CERTIFICATE OF INCORPORATION AND BYLAW PROVISIONS MAY PREVENT OR DELAY THIRD
PARTIES FROM BUYING YOUR STOCK.
Our Restated Certificate of Incorporation authorizes the Board of Directors
to issue up to 3,000,000 shares of preferred stock and to determine the price,
rights, preferences and privileges, including voting rights, of those shares
without any further vote or action by the stockholders. The rights of the
holders of common stock will be subject to, and may be adversely affected by,
the rights of the holders of any preferred stock that may be issued in the
future. The Certificate of Incorporation provides for staggered terms for the
members of the Board of Directors. In addition, the Certificate of Incorporation
provides that directors can be removed only for cause and only by a majority of
the other directors or by vote of stockholders owning 80% or more of the voting
power. Some provisions of our Certificate of Incorporation and Bylaws could have
a depressive effect on our stock price or make it more difficult for a third
party to acquire a majority of our outstanding voting stock or delay, prevent or
deter a merger, acquisition, tender offer or proxy contest.
OUR SERVICES MAY NOT BE BROADLY USED AND ACCEPTED BY CONSUMERS.
There is no established history of broad acceptance by retail customers of
services like ours and those services may not be accepted in the future. Because
our fee structure is designed to establish recurring
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revenues through monthly usage by retail customers of our financial institution
clients, our recurring revenues are dependent on the acceptance of our services
by retail customers and their continued use of online banking, bill payment and
other financial services.
CONSUMER DEMAND FOR LOW-COST OR FREE ONLINE FINANCIAL SERVICES MAY FORCE US TO
REDUCE OR ELIMINATE THE FEES WE CHARGE FOR SOME SERVICES.
Consumers of many of the online services we offer, including home-banking,
bill payment and bill presentment, may demand that these services be offered for
lower cost or even for free. Consumers may therefore reject our services in
favor of companies that can offer more competitive prices. Thus, consumer demand
and competition may place significant pressure on our pricing structure and
revenues, and may have an adverse effect on our financial condition.
CONSOLIDATION OF THE BANKING AND FINANCIAL SERVICES INDUSTRY COULD NEGATIVELY
IMPACT OUR BUSINESS.
The continuing consolidation of the banking and financial services industry
could result in a smaller market for our services. Consolidation frequently
results in a complete change in the electronic infrastructure of the combined
entity. This could result in the termination of our services and related
products if the acquiring institution has its own in-house system or outsources
to competitive vendors. This would also result in the loss of revenue from
actual or potential retail customers of the acquired financial institution.
GOVERNMENT REGULATION COULD INTERFERE WITH OUR BUSINESS.
Federal or state agencies may attempt to regulate our activities. In
addition, Congress could enact legislation that would require us to comply with
data, record keeping, processing and other requirements. We may be subject to
additional regulation as the market for our business continues to evolve. The
Federal Reserve Board or other Federal or state agencies may adopt new rules and
regulations for electronic funds transfers that could lead to increased
operating costs and could also reduce the convenience and functionality of our
services, possibly resulting in reduced market acceptance.
MANAGEMENT AND DIRECTORS MAY CONTROL OUR MANAGEMENT AND AFFAIRS.
As of March 23, 2001, management and directors beneficially owned
approximately 24% of our outstanding common stock. As a result, they may have
the ability to effectively control us and direct our affairs and business,
including the election of directors and approval of significant corporate
transactions. Such concentration of ownership may also have the effect of
delaying, deferring or preventing a change in control, and make some
transactions more difficult or impossible without the support of such
stockholders, including proxy contests, mergers, tender offers, open-market
purchase programs or other purchases of common stock that could give our
stockholders the opportunity to realize a premium over the then-prevailing
market price for shares of common stock.
OUR STOCK PRICE IS VOLATILE.
The trading price of our common stock has been subject to significant
fluctuations and may continue to be volatile in response to:
- actual or anticipated variations in quarterly operating results;
- announcements of technological innovations;
- new products or services offered by us or our competitors;
- changes in financial estimates by securities analysts;
- conditions or trends in the Internet and online commerce industries;
- changes in the economic performance and/or market valuations of other
Internet, online service industries;
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- announcements by us of significant acquisitions, strategic partnerships,
joint ventures or capital commitments;
- additions or departures of key personnel;
- sales of common stock; and
- other events or factors, many of which are beyond our control.
The stock market has experienced extreme price and volume fluctuations and
volatility that has particularly affected the market prices of many technology,
emerging growth and developmental stage companies. Such fluctuations and
volatility have often been unrelated or disproportionate to the operating
performance of such companies. In the past, following periods of volatility in
the market price of a company's securities, securities class action litigation
has often been instituted against a company. Litigation, if instituted, whether
or not successful, could result in substantial costs and a diversion of
management's attention and resources, which would have a material adverse effect
on our business.
WE HAVE A SUBSTANTIAL NUMBER OF SHARES OF COMMON STOCK THAT MAY BE SOLD, WHICH
COULD AFFECT THE TRADING PRICES OF OUR COMMON STOCK AND THE CONVERTIBLE NOTES.
We have a substantial number of shares of common stock subject to stock
options and warrants and the convertible notes may be converted into shares of
common stock. We cannot predict the effect, if any, that future sales of shares
of common stock or convertible notes, or the availability of shares of common
stock or convertible notes for future sale, will have on the market price of our
common stock or convertible notes. Sales of substantial amounts of common stock
(including shares issued upon the exercise of stock options or warrants or the
conversion of the convertible notes), or the perception that such sales could
occur, may adversely affect prevailing market prices for our common stock and
convertible notes.
ITEM 2. PROPERTIES
We are headquartered in McLean, Virginia where we lease approximately
54,000 square feet of office space. The lease has a five-year term and expires
July 31, 2002. We also lease approximately 3,000 square feet of office space in
McLean, Virginia for our back-up site. We believe that all of our facilities are
in good condition and are suitable and adequate to meet our current needs. If we
are unable to renew the lease that is due to expire in 2002, we believe that
suitable replacement properties are available on commercially reasonable terms.
ITEM 3. LEGAL PROCEEDINGS
From time to time we may be involved in litigation arising in the normal
course of our business. We are not a party to any litigation, individually or in
the aggregate, that we believe would have a material adverse effect on our
financial condition or results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders, through the
solicitation of proxies or otherwise, during the fourth quarter of the fiscal
year covered by this report.
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PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
MARKET INFORMATION
Our common stock began trading on the Nasdaq National Market on June 4,
1999 under the symbol "ORCC". The following table sets forth the range of high
and low closing sales prices of our common stock for the periods indicated:
2000 1999
----------------- -----------------
FISCAL QUARTER ENDED HIGH LOW HIGH LOW
-------------------- ------- ------- ------- -------
First Quarter................................... $22.625 $10.375 $ -- $ --
Second Quarter.................................. 18.500 6.000 14.063 10.875
Third Quarter................................... 7.438 3.563 20.750 13.125
Fourth Quarter.................................. 4.500 2.000 16.625 8.000
The market price of our common stock is highly volatile and fluctuates in
response to a wide variety of factors. See "Business -- Risk Factors -- Our
Stock Price is Volatile."
HOLDERS
On March 23, 2001, we had approximately 200 holders of record of common
stock. This does not reflect persons or entities that hold their stock in
nominee or "street" name through various brokerage firms.
DIVIDENDS
We have not paid any cash dividends on our common stock. We expect to
invest any future earnings to finance growth, and therefore do not intend to pay
dividends in the foreseeable future. Our board of directors will determine if we
pay any future dividends.
RECENT SALES OF UNREGISTERED SECURITIES
On September 28, 2000, we completed the private placement of $20 million in
convertible subordinated notes to a group of accredited investors. We received
proceeds of $18.7 million, net of costs of $1.3 million, including an
underwriting commission of $917,200. The proceeds will be used for working
capital. The notes mature on September 30, 2005, unless previously converted,
and bear interest at 8%. Interest payment dates are April 1 and October 1,
commencing April 1, 2001. The notes are convertible into shares of common stock
at a price of $4.75 per share, subject to an annual reset under certain
circumstances, but in no event will the conversion price be less than $4.00 per
share. Jefferies & Company, Inc., the placement agent for the sale of these
notes, also obtained 200,000 warrants for common stock that expire on September
30, 2005 that are exercisable at the same price as the conversion price under
the notes.
We filed a shelf registration statement on Form S-3 (Registration No.
333-52820), with the Securities and Exchange Commission to register the shares
of common stock issuable upon conversion of the convertible subordinated notes.
The registration statement was declared effective by the Commission on February
5, 2001.
USE OF PROCEEDS
Proceeds from our initial public offering on June 4, 1999, net of offering
costs from the offering, totaled approximately $39 million. As of December 31,
2000, we had used $9.4 million of the proceeds for the repayment of debt and
$29.6 million for working capital.
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ITEM 6. SELECTED FINANCIAL DATA
You should read the following selected financial information in conjunction
with our financial statements and related notes thereto and "Management's
Discussion and Analysis of Financial Condition and Results of Operations"
included elsewhere in this report.
YEAR ENDED DECEMBER 31
-----------------------------------------------------------------------
2000 1999 1998 1997 1996
------------ ------------ ------------ ------------ -----------
Statement of Operations
Data:
Revenues:
Service fees.............. $ 13,311,370 $ 6,378,175 $ 2,866,048 $ 1,218,858 $ 594,243
Implementation and other
revenues................ 2,332,940 2,067,360 1,460,056 1,635,686 536,266
------------ ------------ ------------ ------------ -----------
Total revenues..... 15,644,310 8,445,535 4,326,104 2,854,544 1,130,509
Cost of revenues.......... 13,170,656 9,081,269 6,289,462 5,128,584 1,864,991
------------ ------------ ------------ ------------ -----------
2,473,654 (635,734) (1,963,358) (2,274,040) (734,482)
General and
administration.......... 6,370,848 3,894,475 2,705,029 2,508,058 2,208,218
Sales and marketing....... 8,972,094 5,266,044 3,377,728 3,257,725 2,249,405
Systems and development... 6,246,174 3,998,936 2,444,615 2,682,261 1,469,272
------------ ------------ ------------ ------------ -----------
Total expenses..... 21,589,116 13,159,455 8,527,372 8,448,044 5,926,895
------------ ------------ ------------ ------------ -----------
Loss from operations........ (19,115,462) (13,795,189) (10,490,730) (10,722,084) (6,661,377)
Other income (expense)...... 501,680 (34,045) (1,067,739) (323,727) (315,014)
------------ ------------ ------------ ------------ -----------
Loss before extraordinary
loss and change in
accounting principle...... (18,613,782) (13,829,234) (11,558,469) (11,045,811) (6,976,391)
Extraordinary loss from
extinguishment of debt
(1)....................... -- (885,407) -- -- --
Change in accounting
principle (2)............. (216,818) -- -- -- --
------------ ------------ ------------ ------------ -----------
Net loss.................... (18,830,600) (14,714,641) (11,558,469) (11,045,811) (6,976,391)
Preferred stock accretion... -- (2,236,716) (3,779,169) (1,998,665) --
Beneficial return on
preferred shares (3)...... -- (2,668,109) -- -- --
------------ ------------ ------------ ------------ -----------
Net loss available for
common.................... $(18,830,600) $(19,619,466) $(15,337,638) $(13,044,476) $(6,976,391)
============ ============ ============ ============ ===========
Net loss per share basic and
diluted................... $ (1.64) $ (2.45) $ (3.83) $ (3.38) $ (1.86)
============ ============ ============ ============ ===========
Shares used in calculation
of basic and diluted loss
per share................. 11,487,192 8,010,331 4,009,713 3,858,366 3,742,648
Pro forma, assuming the
change in accounting
principle is accounted for
retroactively: (4)
Net loss available for
common.................... $(18,613,782) $(19,482,536) $(15,349,480) $(13,387,634) $(7,028,507)
============ ============ ============ ============ ===========
Net loss per share basic and
diluted................... $ (1.62) $ (2.43) $ (3.83) $ (3.47) $ (1.88)
============ ============ ============ ============ ===========
- ---------------
(1) On June 10, 1999, we used $9.4 million of the net proceeds from our initial
public offering to pay off corporate debt, which payment resulted in a one
time charge.
(2) In the fourth quarter of 2000, we adopted a change in accounting principle
for implementation fees, retroactive to January 1, 2000, as newly pronounced
by Staff Accounting Bulletin 101 ("SAB 101"), Revenue Recognition in
Financial Statements, on a cumulative effect basis.
(3) We recorded a deemed beneficial return on the Series C preferred stock
issued during the first three months of 1999, due to these shares being
convertible into common stock at a discount from fair value at the date of
issuance.
(4) Pro forma (as if) amounts, assuming retroactive application of SAB 101 for
period of change and all prior periods presented.
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22
YEAR ENDED DECEMBER 31
---------------------------------------------------------------------
2000 1999 1998 1997 1996
----------- ----------- ------------ ------------ -----------
Balance Sheet Data:
Cash and equivalents........ $ 1,771,477 $ 1,588,187 $ 3,471,620 $ 1,855,161 $ 41,142
Working capital............. 21,338,693 20,895,369 580,376 (144,592) (1,399,022)
Total assets................ 35,128,428 29,217,175 9,421,428 4,681,995 2,082,436
Notes payable, less current
portion................... 20,000,000 -- 8,525,467 1,199,225 4,555,808
Capital lease obligations,
less current portion...... 232,125 329,480 605,322 352,956 --
Put option liability........ -- -- 362,700 -- --
Other non-current
liabilities............... 1,193,404 -- 193,400 -- --
Total liabilities........... 25,923,458 3,750,141 14,833,950 4,217,590 6,927,011
Redeemable convertible
preferred stock........... -- -- 25,776,254 16,836,016 645,000
Series A convertible
preferred stock........... -- -- 7,950 7,950 7,950
Stockholders' equity
(deficit)................. 9,204,970 25,467,034 (31,188,776) (16,371,611) (5,489,575)
SUPPLEMENTARY FINANCIAL INFORMATION
The following is a summary of unaudited quarterly results of operations for
the year ended December 31, 2000 and 1999.
QUARTER ENDED
--------------------------------------------------------
MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31,
2000 (1) 2000 (1) 2000 (1) 2000 (1)
----------- ----------- ------------- ------------
Total revenues............................ $ 2,998,836 $ 3,479,265 $ 4,203,813 $ 4,962,396
Gross profit.............................. 3,651 323,202 850,135 1,296,666
Loss before extraordinary loss and
cumulative effect of a change in
accounting principle.................... (5,080,129) (4,808,239) (4,425,265) (4,300,149)
----------- ----------- ----------- -----------
Net loss available to common shareholders
(2)..................................... $(5,296,947) $(4,808,239) $(4,425,265) $(4,300,149)
=========== =========== =========== ===========
Net loss per share for common
shareholders............................ $ (0.48) $ (0.42) $ (0.38) $ (0.37)
QUARTER ENDED
--------------------------------------------------------
MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31,
1999 1999 1999 1999
----------- ----------- ------------- ------------
Total revenues............................ $ 1,503,696 $ 1,979,581 $ 2,292,438 $ 2,669,820
Gross loss................................ (402,220) (119,691) (64,610) (49,213)
Loss before extraordinary loss and
cumulative effect of a change in
accounting principle.................... (7,419,315) (4,318,868) (3,190,596) (3,805,280)
----------- ----------- ----------- -----------
Net loss available to common
shareholders............................ $(7,419,315) $(5,204,275) $(3,190,596) $(3,805,280)
=========== =========== =========== ===========
Net loss per share for common
shareholders............................ $ (1.81) $ (0.86) $ (0.29) $ (0.35)
- ---------------
(1) During the quarter ended December 31, 2000, effective January 1, 2000, we
adopted SAB 101 and changed our method of accounting for implementation fees
for all contracts to recognize such fees over the contract term. We have
restated the results of the first three quarters of 2000 filed in Form 10-Q
for the cumulative effect of the change in accounting principle. The effect
of the restatement was to increase net loss by $44,000 ($0.00 per share),
$119,000 ($0.01 per share), $9,000 ($0.00 per share) for the first, second,
and third quarters of 2000, respectively, and to increase fourth quarter net
loss by $128,000 ($0.01 per share).
(2) The cumulative effect of the change in accounting principle of $217,000
($0.02 per share) was reported as a cumulative effect of a change in
accounting principle, retroactively to January 1, 2000. Prior period amounts
have not been restated.
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion should be read in conjunction with the financial
statements and related notes included elsewhere in this report. This discussion
contains forward-looking statements that involve risks and uncertainties. Our
actual results could differ materially from the results anticipated in these
forward-looking statements as a result of factors including, but not limited to,
those under "Business--Risk Factors" and elsewhere in this report.
OVERVIEW
We are a leading application service provider for Internet banking, bill
payment and e-financial services to financial institutions. We provide our
clients a cost-effective outsourced service, branded in their name, by
seamlessly integrating Internet banking, electronic bill payment, and other
e-financial services into a single-vendor, end-to-end solution. As part of our
services, we provide customer support through our call center, marketing
services, web site design, implementation and other services.
We derive revenue from long-term service contracts with our financial
institution clients, who pay us recurring fees based primarily on the number of
their retail customers enrolled and transaction volumes, as well as an up-front
implementation fee. Our financial institution clients typically subsidize some
or all of our fees when reselling our services to their retail customers, as
they derive significant potential benefits including account retention, delivery
and paper cost savings, account consolidation and cross-selling of other
products. As a network-based service provider, we have made substantial up-front
investments in infrastructure. We believe our financial performance and
operating leverage will be based primarily on increasing retail customer
subscriptions and transaction volumes over a relatively fixed cost base.
Our current sources of revenue are from service fees, implementation and
other revenues. We expect that our primary source of revenue growth will come
from service fees as a result of continued growth of retail customers.
- Service fees. Our primary source of revenues is derived from recurring
monthly fees by providing services which include banking and bill
payment, customer service, consumer marketing, information reporting, and
administrative services, to financial institution clients, typically
based on the number of enrolled retail customers. These services are
priced on a monthly per retail customer basis, and in some cases, on a
transaction basis. We recognize these revenues from services as provided.
- Implementation and other revenues. We generate revenue from
implementation of our fully integrated services to our financial
institution clients. Implementation fees are paid on a one-time basis at
signing. We previously recognized nonrefundable implementation fees as
revenue under the percentage of completion method as certain milestone
output measures were completed. During the year ended December 31, 2000,
effective January 1, 2000, we adopted SEC Staff Accounting Bulletin No.
101--Revenue Recognition in Financial Statements ("SAB 101") and changed
our method of accounting for nonrefundable implementation fees for all
contracts to recognize such fees over the contract term as the services
are provided, which typically range from one to five years. We also
derive revenue from sales of related enabling products and software at
fixed prices, including our PC software and customer service software.
These have not been a significant source of revenue and continue to
decline as retail customers migrate to the web service. Effective January
1, 2001, we discontinued support of our proprietary PC software.
Historically, the majority of our resources have been directed to creating
our proprietary system. Our proprietary system enables us to provide a broad
range of services to our financial institution clients including online banking,
bill paying, and access to complementary financial services supported by our
customer call center, marketing services and other support services. While
investment to date has been significant, we believe the infrastructure we have
built will enable us to support our anticipated growth over the next several
years with only nominal incremental cost for additional retail customers.
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FINANCIAL CONDITION
Since our founding, we have incurred high costs to create our
infrastructure, while generating low revenues. As a result we have historically
experienced large operating losses and negative cash flow. At December 31, 2000
we had accumulated deficits of $75.5 million, cash and investments of $21.5
million and net property and equipment of $6.5 million. We have funded our
operations primarily through the issuance of equity and debt securities. Ongoing
working capital requirements will primarily consist of personnel costs related
to enhancing and maintaining our system. We expect to continue to incur losses
in the near future.
Cash and investments in available for sale securities were $21.5 million as
of December 31, 1999 and 2000. Proceeds from our initial public offering on June
4, 1999, net of offering costs from the offering, totaled approximately $39
million. As of December 31, 2000, we had used $9.4 million of the proceeds for
the repayment of debt and $29.6 million for working capital. As of December 31,
2000, notes payable increased to $20.0 million as a result of the issuance of 8%
convertible subordinated notes on September 28, 2000. Net of debt issuance
costs, we received proceeds of $18.7 million which is held in cash and
investments. Interest payment dates are April 1 and October 1, commencing April
1, 2001.
Our limited operating history makes it difficult to evaluate our prospects
for success and our revenue and profitability potential is unproven.
RESULTS OF OPERATIONS
The following table presents certain items derived from our statements of
operations expressed as a percentage of revenue.
YEAR ENDED DECEMBER 31
--------------------------------
2000 1999 1998
------ ------ ------
Statement of Operations Data:
Revenues:
Service fees.............................................. 85.1% 75.5% 66.3%
Implementation and other revenues......................... 14.9 24.5 33.7
Total revenues.................................... 100.0 100.0 100.0
Expenses:
Cost of revenues.......................................... 84.2 107.5 145.4
Gross margin (loss)......................................... 15.8 (7.5) (45.4)
General and administrative................................ 40.7 46.1 62.5
Sales and marketing....................................... 57.4 62.4 78.1
Systems and development................................... 39.9 47.3 56.5
Total expenses.................................... 138.0 155.8 197.1
Loss from operations........................................ (122.2) (163.3) (242.5)
Total other income (expense)................................ 3.2 (0.4) (24.7)
Extraordinary loss from the extinguishment of debt.......... -- (10.5) --
Cumulative effect of change in accounting principle......... (1.4) -- --
Net loss.................................................... (120.4)% (174.2)% (267.2)%
YEAR ENDED DECEMBER 31, 2000 COMPARED TO THE YEAR ENDED DECEMBER 31, 1999
Revenues. We derive revenues from service fees, implementation and other
revenues. Revenues increased $7.2 million, or 85.2%, to $15.6 million for the
twelve months ended December 31, 2000 as compared to $8.4 million for the same
period in 1999. This increase was primarily attributable to a 108.7% increase in
service fees which were largely recurring and driven by an increase of 160.7% in
the number of retail customers and an increase of 155.5% in the number of
transactions offset by lower service fees per user measured at December 31, 2000
and December 31, 1999. Additionally, implementation and other revenues increased
12.8% to $2.3 million as a result of increases in the number of financial
institutions with whom we have contracted and enabled on our services. We signed
and enabled 169 financial institutions for the twelve
22
25
months ended December 31, 2000, increasing the total number of financial
institutions under contract to 508 as of December 31, 2000.
Cost of Revenues. Cost of revenues primarily includes telecommunications,
payment processing, systems operations, customer service, implementation and
related products. Cost of revenues increased $4.1 million, or 45%, to $13.2
million for the twelve months ended December 31, 2000 as compared to $9.1
million for the same period in 1999. This increase was primarily attributable to
a $2.0 million increase in customer service costs and a $1.8 million increase in
bill payment processing costs. These increases resulted from the increased
number of retail customers, increased number of transactions and an increase in
staff to support the growth of our operations.
Gross Profit. Gross profit increased from a gross loss of $0.6 million to
a gross profit of $2.5 million for the twelve months ended December 31, 1999 and
2000, respectively. Gross margin improved from a loss of 7.5% to a positive
margin of 15.8% primarily due to increased service fees and implementation
revenue leveraged over our relatively fixed cost of revenue. Gross margin for
service fees improved as a result of increased end user growth without a
corresponding incremental increase in costs.
General and Administrative. General and administrative expenses primarily
consist of salaries for executive, administrative and financial control
personnel and facilities costs such as office leases, insurance, and
depreciation. General and administrative expenses increased $2.5 million, or
63.6%, to $6.4 million in 2000 as compared to $3.9 million in 1999. The increase
in general and administrative expenses is attributable to the increase in
staffing for finance and accounting, required after our company went public in
June 1999 and increased rent and depreciation expenses associated with the
expansion of the corporate facilities.
Sales and Marketing. Sales and marketing expenses include salaries and
commissions paid to sales and marketing personnel, consumer marketing costs,
public relations costs, and other costs incurred in marketing our services and
products. We have 37 marketing partners who act as resellers of our services. We
have no obligation to these marketing partners other than to provide services
sold to financial institutions by the marketing partners and to pay commissions
to them on the sales. The marketing partners have no obligations to us other
than to re-sell our services. We do not expect to incur materially less sales
commissions when financial institutions sign with our marketing partners versus
when financial institutions sign through our own sales force. Sales and
marketing expenses increased $3.7 million, or 70.4%, to $9.0 million in 2000 as
compared to $5.3 million in 1999. The principal reasons for the escalation in
sales and marketing expenses were increased personnel costs, increased consumer
marketing expenditures, increases in commissions as a result of higher revenue
levels, and increases in related travel costs. The increase in consumer
marketing expenses is attributable to promoting the adoption of our services by
the retail customers of the growing number of launched financial institution
clients.
Systems and Development. Systems and development expenses include salaries
of personnel in the systems and development department, consulting fees and all
other expenses incurred in supporting the research and development of new
services and products, and new technology to enhance existing products. Systems
and development expenses increased $2.2 million, or 56.2%, to $6.2 million in
2000 as compared to $4.0 million in 1999. This was primarily attributable to
costs associated with a technical staff expansion and the use of third party
consultants to support the enhancement of our system. The costs of third party
consultants are generally higher than the cost of internal resources. Headcount
in the systems and development groups increased 45% from December 31, 1999 to
December 31, 2000.
Other Income and Expense. Interest income increased $95,000, or 9.6%, to
$1.1 million in 2000 as compared to $990,000 in 1999. The increase was due to
the higher average cash and investment balances for the twelve months ended
December 31, 2000. We expect less interest income in 2001 as a result of lower
cash and investment balances. Interest and other expense decreased $441,000, or
43.1%, to $583,000 in 2000 as compared to $1.0 million in 1999 as the result of
the higher interest rates on debts extinguished in June 1999. Going forward, we
will incur higher interest expenses as a result of the issuance of 8%
convertible subordinated notes on September 28, 2000.
23
26
Loss Per Share. For the twelve months ended December 31, 2000 and 1999 the
basic and diluted loss per share were $(1.64) and $(2.45), respectively, as a
result of the various factors noted above.
YEAR ENDED DECEMBER 31, 1999 COMPARED TO THE YEAR ENDED DECEMBER 31, 1998
Revenues. Revenues increased $4.1 million, or 95.2%, to $8.4 million in
1999 as compared to $4.3 million in 1998. This increase was attributable to
service fees increasing 122.5% to $6.4 million due to a 273.7% increase in the
number of retail customers. Additionally, implementation and other revenues
increased 41.6% to $2.1 million as a result of clients launched onto our system.
Cost of Revenues. Cost of revenues increased $2.8 million, or 44.4%, to
$9.1 million in 1999 as compared to $6.3 million in 1998. This increase was
primarily attributable to a $1.5 million increase in customer service costs and
a $800,000 increase in billpaying processing costs. These increases resulted
from the increased number of retail customers and an increase in staff to
support the growth of our operations.
Gross Loss. Gross loss decreased from $2.0 million to $0.6 million for the
twelve months ended December 31, 1998 and 1999, respectively. Gross loss
improved from 45.4% to 7.5% primarily due to increased service fees and
implementation revenue leveraged over our relatively fixed cost of revenue.
Service fees increased as a result of increased end user growth without a
corresponding incremental increase in costs.
General and Administrative. General and administrative expenses increased
$1.2 million, or 44.0%, to $3.9 million in 1999 as compared to $2.7 million in
1998. The increase in general and administrative expenses is attributable to
increased headcount and increased rent and depreciation expenses associated with
the expansion of the corporate facilities. General and administrative headcount
increased 33% from December 31, 1998 to December 31, 1999.
Sales and Marketing. Sales and marketing expenses increased $1.9 million,
or 55.9%, to $5.3 million in 1999 as compared to $3.4 million in 1998. The
principal reasons for the increase in sales and marketing expenses were
increased headcount, increased consumer marketing expenditures, increases in
commissions as a result of higher revenue levels, and increases in related
travel costs. The increase in consumer marketing expenditures is attributable to
promoting the adoption of our services by the retail customers of the growing
number of launched financial institution clients.
Systems and Development. Systems and development expenses increased $1.6
million, or 63.6%, to $4.0 million in 1999 as compared to $2.4 million in 1998.
This was primarily attributable to costs associated with a technical staff
expansion and the use of third party consultants to support the enhancement of
our system. The costs of third party consultants are generally higher than the
cost of internal resources. Headcount in the systems and development groups
increased 18% from December 31, 1998 to December 31, 1999.
Other Income and Expense. Interest income increased $0.9 million, or
949.2%, to $990,000 in 1999 as compared to $94,000 in 1998. The increase was due
to the investment of the initial public offering proceeds in available for sale
securities over the second half of the fiscal year. Additionally interest
expense decreased $188,000, or 16.4%, to $959,000 in 1999 as compared to $1.1
million in 1998 as the result of the extinguishment of $9.4 million of corporate
debt on June 10, 1999. We recognized an extraordinary loss of $885,000 on the
early extinguishment of the $9.4 million of corporate debt related to
unamortized debt discounts and loan fees.
Loss Per Share. For the year ended December 31, 1999 and 1998 the basic
and diluted loss per share were $(2.45) and $(3.83), respectively, as a result
of the various factors noted above.
LIQUIDITY AND CAPITAL RESOURCES
Since inception, we have primarily financed our operations through private
placements of our common and preferred stock and the issuance of debts. We have
also entered into various capital lease financing agreements. In June 1999, we
closed our initial public offering of 3.1 million shares of common stock at an
initial public offering price of $14.00 per share. Net of underwriting
commissions, we received cash proceeds of approximately $40 million in cash,
which was reduced further by an additional $1 million of other related
24
27
offering costs. As of December 31, 2000, we had used $9.4 million of the
proceeds for the repayment of debt and $29.6 million for working capital. On
September 28, 2000, we issued convertible subordinated notes in the amount of
$20 million. Net of debt issuance costs, we received proceeds of $18.7 million
which is held in cash and investments. At December 31, 2000, we had $1.8 million
in cash and cash equivalents and $19.7 million in investments in available for
sale securities.
Net cash used in operating activities was $16.7 million for the year ended
December 31, 2000 as compared to $14.2 million in the year ended December 31,
1999. Cash used in operating activities in the year ended December 31, 2000 and
1999 resulted primarily from net loss of $18.8 million and $14.7 million,
respectively.
Net cash used in investing activities for the year ended December 31, 2000
was $3.0 million, of which $3.5 million was used to purchase fixed assets and
approximately $500,000 was provided from the sale of available for sale
securities net of the purchase. For the same period ended December 31, 1999, net
cash used in investing activities was $22.4 million, of which $2.0 was used for
capital expenditures and approximately $20.3 million was used to purchase
available for sale securities net of the sale.
Net cash provided by financing activities was $19.8 million in the year
ended December 31, 2000 as compared to $34.6 million in the year ended December
31, 1999. Cash provided by financing activities for the year ended December 31,
2000 resulted primarily from the net proceeds of $18.7 million from the issuance
of convertible subordinated notes in September 2000 and $1.7 million from the
issuance of common stock attributable to the exercise of stock options, warrants
and employee stock purchase plan. For the year ended December 31, 1999, cash
provided by financing activities was primarily the result of the net proceeds of
$39.0 million from the initial public offering and $5.3 million from the
issuance of Series C redeemable convertible preferred stock net of the repayment
of long-term debt in the amount of $9.7 million.
We currently believe that cash on hand and investments will be sufficient
to fund continuing operations through 2001. However, there can be no assurance
that additional capital beyond the amounts currently forecasted by Online
Resources will not be required or that any such required additional capital will
be available on reasonable terms, if at all, at such time as required.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We invest primarily in marketable government, corporate, and
mortgage-backed debt securities. We do not have operations subject to risks of
foreign currency fluctuations, nor do we use derivative financial instruments in
our operations or investment portfolio. We have classified all of our
investments as available-for-sale financial instruments. The following table
provides information about our available-for-sale investments that are sensitive
to changes in interest rates.
DECEMBER 31, 2000
-----------------------------------------------
BOOK VALUE FAIR VALUE INTEREST RATE
----------- ----------------- -------------
U.S. government treasury obligations................ $ 3,198,284 $ 3,201,153 5.85%
Commercial bonds.................................... 16,434,095 16,487,301 6.23%
----------- -----------
Total investments......................... $19,632,379 $19,688,454
=========== ===========
The long-term debts on December 31, 2000 are comprised of convertible
subordinated notes with an 8% interest rate and capital lease obligations with
interest rates ranging from 9% to 13%. The cost of the convertible subordinated
notes is approximately fair market value at December 31, 2000. A fluctuation of
100 basis points in the prime rate would not have a material adverse effect on
us.
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28
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO FINANCIAL STATEMENTS
Report of Ernst & Young LLP, Independent Auditors........... 27
Balance Sheets.............................................. 28
Statements of Operations.................................... 29
Statements of Stockholders' Equity.......................... 30
Statements of Cash Flows.................................... 31
Notes to Financial Statements............................... 32
26
29
REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
The Shareholders and Board of Directors
Online Resources Corporation
We have audited the accompanying balance sheets of Online Resources
Corporation as of December 31, 2000 and 1999, and the related statements of
operations, stockholders' equity, and cash flows for each of the three years in
the period ended December 31, 2000. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Online Resources Corporation
at December 31, 2000 and 1999, and the results of its operations and its cash
flows for each of the three years in the period ended December 31, 2000, in
conformity with accounting principles generally accepted in the United States.
As discussed in Note 3 to the financial statements, in 2000 the Company
changed its method of revenue recognition for implementation revenue.
/s/ ERNST & YOUNG, LLP
McLean, Virginia
February 14, 2001
27
30
ONLINE RESOURCES CORPORATION
BALANCE SHEETS
DECEMBER 31,
-------------------------
2000 1999
----------- -----------
ASSETS
Current assets:
Cash and cash equivalents................................. $ 1,771,477 $ 1,588,187
Investments............................................... 19,688,454 19,905,929
Accounts receivable (net of allowance of $117,000 and
$152,000 at December 31, 2000 and 1999,
respectively).......................................... 3,026,010 1,875,707
Deferred implementation costs............................. 809,901 --
Prepaid expenses and other current assets................. 540,780 946,207
----------- -----------
Total current assets.............................. 25,836,622 24,316,030
Property and equipment, net................................. 6,524,904 4,616,672
Deferred implementation costs, less current portion......... 712,828 --
Debt issuance costs......................................... 1,750,096 --
Other assets................................................ 303,978 284,473
----------- -----------
Total assets...................................... $35,128,428 $29,217,175
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable.......................................... $ 858,980 $ 812,082
Accrued expenses and other current liabilities............ 1,309,211 565,384
Accrued compensation expenses............................. 947,136 916,193
Deferred revenues......................................... 1,103,964 417,926
Current portion of capital lease obligation............... 278,638 709,076
----------- -----------
Total current liabilities......................... 4,497,929 3,420,661
Capital lease obligation, less current maturities......... 232,125 329,480
Deferred revenues, less current portion................... 1,193,404 --
Notes payable............................................. 20,000,000 --
----------- -----------
Total Liabilities................................. 25,923,458 3,750,141
Commitments
Series B redeemable convertible preferred stock; 100,000
shares designated, non issued at December 31, 2000 and
1999................................................... -- --
Series C redeemable convertible preferred stock, 287,000
shares designated, non issued at December 31, 2000 and
1999................................................... -- --
Stockholders' equity
Series A convertible preferred stock, $.01 par value;
1,000,000 shares authorized, non issued at December 31,
2000 and 1999.......................................... -- --
Common stock, $.0001 par value; 35,000,000 shares
authorized, 11,616,649 and 11,050,456 issued and
outstanding at December 31, 2000 and 1999,
respectively........................................... 1,162 1,105
Additional paid-in capital................................ 85,238,538 83,035,825
Accumulated deficit....................................... (75,482,307) (56,651,707)
Deferred stock compensation............................... (185,894) (267,949)
Accumulated other comprehensive income.................... 56,075 --
Receivable from the sale of common stock.................. (422,604) (650,240)
----------- -----------
Total stockholders' equity........................ 9,204,970 25,467,034
----------- -----------
Total liabilities and stockholders' equity........ $35,128,428 $29,217,175
=========== ===========
See notes to financial statements.
28
31
ONLINE RESOURCES CORPORATION
STATEMENTS OF OPERATIONS
YEAR ENDED DECEMBER 31,
------------------------------------------
2000 1999 1998
------------ ------------ ------------
Revenues:
Service fees..................................... $ 13,311,370 $ 6,378,175 $ 2,866,048
Implementation and other revenues................ 2,332,940 2,067,360 1,460,056
------------ ------------ ------------
Total revenues........................... 15,644,310 8,445,535 4,326,104
Costs and expenses:
Service costs.................................... 11,989,766 7,715,149 5,384,320
Implementation and other costs................... 1,180,890 1,366,120 905,142
------------ ------------ ------------
Costs of revenues........................... 13,170,656 9,081,269 6,289,462
------------ ------------ ------------
Gross profit (loss)......................... 2,473,654 (635,734) (1,963,358)
General and administrative....................... 6,370,848 3,894,475 2,705,029
Selling and marketing............................ 8,972,094 5,266,044 3,377,728
Systems and development.......................... 6,246,174 3,998,936 2,444,615
------------ ------------ ------------
Total expenses........................... 21,589,116 13,159,455 8,527,372
Loss from operations............................... (19,115,462) (13,795,189) (10,490,730)
Other income (expense):
Interest income.................................. 1,084,196 989,520 94,312
Interest expense................................. (487,480) (958,852) (1,146,614)
Other............................................ (95,036) (64,713) (15,437)
------------ ------------ ------------
Total other income (expense)............. 501,680 (34,045) (1,067,739)
Loss before extraordinary loss and cumulative
effect of change in accounting principle......... (18,613,782) (13,829,234) (11,558,469)
Extraordinary loss from the extinguishment of
debt............................................. -- (885,407) --
------------ ------------ ------------
Loss before cumulative effect of change in
accounting principle............................. (18,613,782) (14,714,641) (11,558,469)
Cumulative effect of change in accounting
principle........................................ (216,818) -- --
------------ ------------ ------------
Net loss........................................... (18,830,600) (14,714,641) (11,558,469)
Preferred stock accretion.......................... -- (2,236,716) (3,779,169)
Beneficial return on preferred shares.............. -- (2,668,109) --
------------ ------------ ------------
Net loss available to common shareholders.......... $(18,830,600) $(19,619,466) $(15,337,638)
============ ============ ============
Loss per share:
Net loss per share from continuing operations
(including accretion and beneficial return on
preferred shares)............................. $ (1.62) $ (2.34) $ (3.83)
Net loss per share -- extraordinary loss......... -- (0.11) --
Net loss per share -- change in accounting
principle..................................... (0.02) -- --
Net loss per share attributable to common
shareholders.................................. $ (1.64) $ (2.45) $ (3.83)
Pro forma amounts assuming the accounting change is
applied retroactively:
Net loss available to common shareholders........ $(18,613,782) $(19,482,536) $(15,349,480)
Net loss per share attributable to common
shareholders.................................. $ (1.62) $ (2.43) $ (3.83)
Shares used in calculation of loss per share:
Basic and diluted................................ 11,487,192 8,010,331 4,009,713
See notes to financial statements.
29
32
ONLINE RESOURCES CORPORATION
STATEMENTS OF STOCKHOLDERS' EQUITY
SERIES A
PREFERRED STOCK COMMON STOCK ADDITIONAL DEFERRED
------------------ ------------------- PAID-IN ACCUMULATED STOCK
SHARES AMOUNT SHARES AMOUNT CAPITAL DEFICIT COMPENSATION
-------- ------- ---------- ------ ----------- ------------ ------------
Balance at December 31, 1997........ 795,000 $7,950 3,891,656 $ 389 $14,218,145 $(30,378,597) $ --
Net loss........................... -- -- -- -- -- (11,558,469) --
Issuance of common stock........... -- -- 694 -- 5,400 -- --
Exercise of common stock options... -- -- 208,587 20 674,041 -- --
Purchase of treasury stock......... -- -- (64,392) (6) (517,997) -- --
Issuance of common stock options... -- -- -- -- 333,890 -- --
Conversion of Series C preferred
stock to common stock............ -- -- 17,108 2 143,998 -- --
Series B preferred stock
accretion........................ -- -- -- -- (10,523) -- --
Series C preferred stock
accretion........................ -- -- -- -- (3,768,646) -- --
-------- ------- ---------- ------ ----------- ------------ ---------
Balance at December 31, 1998........ 795,000 7,950 4,053,653 405 11,078,308 (41,937,066) --
Net loss........................... -- -- -- -- -- (14,714,641) --
Issuance of common stock........... -- -- 3,100,072 310 38,645,647 -- --
Conversion of preferred stock...... (795,000) (7,950) 3,571,559 357 35,751,430 -- --
Exercise of common stock options... -- -- 296,382 29 1,324,995 -- --
Exercise of common stock
warrants......................... -- -- 36,066 4 165,191 -- --
Issuance of common stock options... -- -- -- -- 448,661 -- (448,661)
Issuance of common stock
warrants......................... -- -- -- -- 3,191 -- --
Amortization of deferred stock
compensation..................... -- -- -- -- -- -- 180,712
Extinguishment of put option....... -- -- -- -- 584,477 -- --
Purchase of treasury stock......... -- -- (7,276) -- (61,250) -- --
Repayment of stock subscription.... -- -- -- -- -- -- --
Beneficial return on preferred
shares........................... -- -- -- -- (2,668,109) -- --
Series B preferred stock
accretion........................ -- -- -- -- (4,689) -- --
Series C preferred stock
accretion........................ -- -- -- -- (2,232,027) -- --
-------- ------- ---------- ------ ----------- ------------ ---------
Balance at December 31, 1999........ -- -- 11,050,456 1,105 83,035,825 (56,651,707) (267,949)
Comprehensive income (loss)
Net loss........................... -- -- -- -- -- (18,830,600) --
Unrealized gain on available for
sale securities.................. -- -- -- -- -- -- --
Comprehensive loss.................
Exercise of common stock options... -- -- 169,200 17 879,992 -- --
Exercise of common stock
warrants......................... -- -- 389,378 39 594,501 -- --
Issuance of common stock
warrants......................... -- -- -- -- 589,900 -- --
Issuance of common stock options... -- -- -- -- 11,732 -- --
Issuance of common stock........... -- -- 7,615 1 41,667 -- --
Amortization of deferred stock
compensation..................... -- -- -- -- 84,921 -- 82,055
Repayment of stock subscription.... -- -- -- -- -- -- --
-------- ------- ---------- ------ ----------- ------------ ---------
Balance at December 31, 2000........ -- $ -- 11,616,649 $1,162 $85,238,538 $(75,482,307) $(185,894)
======== ======= ========== ====== =========== ============ =========
ACCUMULATED EMPLOYEE
OTHER STOCK TOTAL
COMPREHENSIVE SUBSCRIPTION STOCKHOLDERS'
INCOME RECEIVABLE EQUITY
------------- ------------ -------------
Balance at December 31, 1997........ $ -- $(219,498) $(16,371,611)
Net loss........................... -- -- (11,558,469)
Issuance of common stock........... -- -- 5,400
Exercise of common stock options... -- (118,875) 555,186
Purchase of treasury stock......... -- -- (518,003)
Issuance of common stock options... -- -- 333,890
Conversion of Series C preferred
stock to common stock............ -- -- 144,000
Series B preferred stock
accretion........................ -- -- (10,523)
Series C preferred stock
accretion........................ -- -- (3,768,646)
------- --------- ------------
Balance at December 31, 1998........ -- (338,373) (31,188,776)
Net loss........................... -- -- (14,714,641)
Issuance of common stock........... -- -- 38,645,957
Conversion of preferred stock...... -- -- 35,743,837
Exercise of common stock options... -- (321,250) 1,003,774
Exercise of common stock
warrants......................... -- -- 165,195
Issuance of common stock options... -- -- --
Issuance of common stock
warrants......................... -- -- 3,191
Amortization of deferred stock
compensation..................... -- -- 180,712
Extinguishment of put option....... -- -- 584,477
Purchase of treasury stock......... -- -- (61,250)
Repayment of stock subscription.... -- 9,383 9,383
Beneficial return on preferred
shares........................... -- -- (2,668,109)
Series B preferred stock
accretion........................ -- -- (4,689)
Series C preferred stock
accretion........................ -- -- (2,232,027)
------- --------- ------------
Balance at December 31, 1999........ -- (650,240) 25,467,034
Comprehensive income (loss)
Net loss........................... -- -- (18,830,600)
Unrealized gain on available for
sale securities.................. 56,075 -- 56,075
------------
Comprehensive loss................. (18,774,525)
Exercise of common stock options... -- (87,000) 793,009
Exercise of common stock
warrants......................... -- -- 594,540
Issuance of common stock
warrants......................... -- -- 589,900
Issuance of common stock options... -- -- 11,732
Issuance of common stock........... -- -- 41,668
Amortization of deferred stock
compensation..................... -- -- 166,976
Repayment of stock subscription.... -- 314,636 314,636
------- --------- ------------
Balance at December 31, 2000........ $56,075 $(422,604) $ 9,204,970
======= ========= ============
See notes to financial statements.
30
33
ONLINE RESOURCES CORPORATION
STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31,
-------------------------------------------
2000 1999 1998
------------ ------------- ------------
OPERATING ACTIVITIES
Net loss.......................................... $(18,830,600) $ (14,714,641) $(11,558,469)
Adjustments to reconcile net loss to net cash used
in operating activities:
Depreciation................................. 1,736,261 1,095,228 813,988
Amortization................................. 95,036 199,488 166,009
Compensation expense related to issuance of
common stock options....................... 166,976 180,712 333,890
Stock compensation........................... 11,732 -- --
Cumulative effect of change in accounting
principle.................................. 216,818 -- --
Provision for losses on accounts
receivable................................. (34,125) 100,000 (28,118)
Realized/unrealized gain on investments...... (23,251) -- --
Amortization of bond discount................ (230,273) -- --
Extraordinary loss on debt extinguishment.... -- 885,407 --
Changes in assets and liabilities:
Accounts receivable........................ (1,116,178) (1,042,122) (389,411)
Prepaid expenses and other current
assets.................................. 405,427 (474,960) (322,294)
Escrow deposit............................. -- 400,985 (400,985)
Deferred implementation costs.............. (368,592) -- --
Other assets............................... (19,505) 104,114 (352,009)
Accounts payable........................... 46,898 (895,593) 718,273
Accrued expenses........................... 774,770 246,854 339,687
Deferred revenues.......................... 508,487 (260,191) 295,917
------------ ------------- ------------
Net cash used in operating activities............. (16,660,119) (14,174,719) (10,383,522)
INVESTING ACTIVITIES
Purchase of property and equipment................ (3,488,731) (2,004,993) (559,787)
Purchases of available for sale securities........ (46,216,917) (195,468,564) --
Sales of available for sale securities............ 46,743,991 175,119,313 --
------------ ------------- ------------
Net cash used in investing activities............. (2,961,657) (22,354,244) (559,787)
FINANCING ACTIVITIES
Net proceeds from issuance of common stock........ 1,429,217 39,753,676 43,065
Net proceeds from repayment of stock
subscription.................................... 314,636 9,383 --
Net proceeds from issuance of Series C Preferred
Stock........................................... -- 5,349,000 4,589,791
Net proceeds from issuance of long-term debt...... 18,744,768 -- 8,434,000
Proceeds from issuance of long-term debt to
related parties................................. -- -- 450,000
Repayment of capital lease obligations............ (683,555) (722,239) (568,026)
Repayment of long-term debt....................... -- (9,744,290) (189,710)
Repayment of long-term debt to related parties.... -- -- (200,000)
------------ ------------- ------------
Net cash provided by financing activities......... 19,805,066 34,645,530 12,559,120
------------ ------------- ------------
Net increase (decrease) in cash and cash
equivalents..................................... 183,290 (1,883,433) 1,615,811
Cash and cash equivalents at beginning of
period.......................................... 1,588,187 3,471,620 1,855,809
------------ ------------- ------------
Cash and cash equivalents at end of period........ $ 1,771,477 $ 1,588,187 $ 3,471,620
============ ============= ============
SUPPLEMENTAL INFORMATION TO STATEMENT OF CASH
FLOWS:
Cash paid for interest..................... $ 84,000 $ 1,016,000 $ 953,000
Issuance of warrants....................... 589,900 -- --
Issuance of stock subscriptions
receivable.............................. 87,000 321,250 118,875
Unrealized gain on investment.............. 56,075 -- --
See notes to financial statements.
31
34
ONLINE RESOURCES CORPORATION
NOTES TO FINANCIAL STATEMENTS
1. ORGANIZATION
Online Resources Corporation (the "Company") is a leading application
service provider for Internet banking, bill payment and other e-financial
services to financial institutions. The Company offers its clients a
cost-effective outsourced service, branded in their name, by seamlessly
integrating Internet banking, electronic bill payment, and other e-financial
services into a single-vendor, end-to-end solution. As part of its services, the
Company provides customer support through its call center, marketing services,
web site design, implementation and other services. The Company operates in one
business segment.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
USE OF ESTIMATES
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
CASH AND CASH EQUIVALENTS
The Company considers all highly liquid instruments purchased with an
original maturity of three months or less to be cash equivalents. Cash held for
bill payments in process is immediately disbursed on behalf of users and no net
cash balance is reflected on the Company's financial statements.
REVENUE RECOGNITION
The Company generates revenues from service fees, implementation fees, and
other revenues. Revenues from service fees include account access fees,
transaction fees, customer service, new user setup, communications and other
services. Implementation and other revenues are generated from the linking of
the Company's financial institution client's to the Company's Quotien(TM)
e-financial suite through various networks and the Company's gateways and the
sale of software used to access the e-financial suite. Service fees are
recognized over the term of the contract as the services are provided. During
the year ended December 31, 2000, the Company adopted SEC Staff Accounting
Bulletin No. 101 -- Revenue Recognition in Financial Statements ("SAB 101"),
effective January 1, 2000, see note 3 for further discussion.
SYSTEMS AND DEVELOPMENT
Systems and development costs are charged to expense as incurred.
PROPERTY AND EQUIPMENT
Property and equipment, including leasehold improvements, are recorded at
cost. Depreciation is calculated using the straight-line method over the
estimated useful lives of the related assets, which range from five to seven
years. Equipment recorded under capital leases is amortized over the shorter of
the estimated useful life of the asset or the lease term.
FAIR VALUE OF FINANCIAL INSTRUMENTS
At December 31, 2000, the carrying value of the following financial
instruments: cash and cash equivalents, investments in available for sale
securities, accounts receivable, accounts payable and accrued liabilities
approximates their fair value based on the liquidity of these financial
instruments or based on their short term nature. The carrying value of capital
lease obligations and notes payable approximates fair value based on the market
interest rates available to the Company for debt of similar risk and maturities.
32
35
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
EARNINGS (LOSS) PER SHARE
Net loss per share is computed by dividing the net loss applicable to
common shareholders for the period by the weighted average number of common
shares outstanding. Shares associated with stock options, warrants and
convertible securities are not included to the extent they are anti-dilutive.
ADVERTISING COSTS
The Company expenses advertising costs as incurred. The Company incurred
$385,400, $204,800 and $23,900 in advertising costs for the year ended December
31, 2000, 1999 and 1998, respectively.
STOCK BASED COMPENSATION
The Company has elected to continue to apply APB Opinion 25, Accounting for
Stock Issued to Employees, in accounting for its stock option incentive plans
and, accordingly, recognizes compensation expense for the difference between the
fair value of the underlying common stock and the grant price of the option at
the date of grant.
IMPAIRMENT OF LONG-LIVED ASSETS
The Company assesses the impairment of long-lived assets in accordance with
Statement of Financial Accounting Standards No. 121, Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of
("SFAS 121"). SFAS 121 requires impairment losses to be recognized for
long-lived assets when indicators of impairment are present and the undiscounted
cash flows are not sufficient to recover the assets' carrying amount. The
impairment loss of these assets is measured by comparing the carrying amount of
the asset to its fair value, with any excess of carrying value over fair value
written off. Fair value is based on market prices where available, an estimate
of market value, or determined by various valuation techniques including
discounted cash flow.
MAJOR CUSTOMER
One of the Company's financial institution clients, California Federal
Bank, accounted for approximately $2.2 and $1.2 million of the Company's
revenue, 14% of the total revenue, for the year ended December 31, 2000 and
1999, respectively. Another financial institution client of the Company, Riggs
National Bank, accounted for approximately $467,000 of the Company's revenue,
11% of the total revenue, for the year ended December 31, 1998.
RECLASSIFICATION
Certain 1999 and 1998 amounts have been reclassified to conform to the 2000
presentation.
RECENT PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board issued Statement No.
133 ("FAS 133"), Accounting for Derivative Instruments and Hedging Activities,
as amended, which is required to be adopted in years beginning after June 15,
2000. The Company does not invest in financial instruments of a hedging or
derivative nature. FAS 133 will not have a significant effect on the earnings or
the financial position of the Company upon adoption.
3. CHANGE IN REVENUE RECOGNITION FOR IMPLEMENTATION REVENUE
The Company previously recognized nonrefundable implementation fees as
revenue under the percentage of completion method as certain milestone output
measures were completed. During the year ended December 31, 2000, the Company
adopted SEC Staff Accounting Bulletin No. 101 -- Revenue Recognition in
Financial Statements ("SAB 101"), effective January 1, 2000, and changed its
method of accounting for
33
36
3. CHANGE IN REVENUE RECOGNITION FOR IMPLEMENTATION REVENUE (CONTINUED)
nonrefundable implementation fees for all contracts to recognize such fees and
the related incremental direct costs of implementation activities over the
contract term as the services are provided, which typically range from one to
five years (generally three years). The Company believes the change in
accounting principle is preferable based on guidance provided in SAB 101. The
cumulative effect of the accounting change as of January 1, 2000 was $217,000
($1,371,000 of revenue less direct incremental costs of $1,154,000) and is
recognized in the 2000 statement of operations. The effect of the accounting
change on the year ended December 31, 2000 was to increase the net loss before
the cumulative effect of the accounting change by $301,000. Prior years have not
been restated. Due to the adoption of SAB 101, $1,371,000 of revenue that was
previously recognized under the Company's prior revenue recognition policy will
be recognized under the Company's revised revenue recognition policy through
periods up to 2004 because some contract periods extend through 2004. During the
year ended December 31, 2000, the Company recognized revenue of $512,000 and
related direct incremental costs that were included in the cumulative effect
adjustment at January 1, 2000. The pro forma amounts included in the statement
of operations have been adjusted to reflect the retroactive application of SAB
101 in the prior period.
4. INVESTMENTS
The Company classifies its investments as available-for-sale. Investments
in securities that are classified as available-for-sale and have readily
determinable fair values are measured at fair market value in the balance
sheets. Any unrealized gains or losses, net of taxes, are reported as a separate
component of stockholders' equity. Realized gains and losses and declines in
market value judged to be other than temporary are included in investment
income. Interest and dividends are included in investment income. For purposes
of determining gross realized gains and losses, the cost of securities sold is
based on the average cost method. As of December 31, 2000 and 1999, the
unrealized gains on investments were $56,075 and $0, respectively. The
contractual maturities on the investments are generally greater than twelve
months.
The following is a summary of the estimated fair value of
available-for-sale securities:
DECEMBER 31,
-------------------------
2000 1999
----------- -----------
US Government Treasury Obligations......................... $ 3,201,153 $ 8,343,786
Commercial Bonds........................................... 16,487,301 11,562,143
----------- -----------
$19,688,454 $19,905,929
=========== ===========
5. PROPERTY AND EQUIPMENT
Property and equipment consists of the following:
DECEMBER 31,
-----------------------
2000 1999
---------- ----------
Central processing systems and terminals.................... $6,767,377 $3,288,897
Office furniture and equipment.............................. 1,154,361 1,145,575
Central processing systems and terminals under capital
leases.................................................... 1,746,714 1,737,242
Office furniture and equipment under capital leases......... 928,446 803,156
Leasehold improvements...................................... 1,063,324 1,040,859
---------- ----------
11,660,222 8,015,729
Less accumulated depreciation............................... 3,693,235 2,437,235
Less accumulated depreciation under capital leases.......... 1,442,083 961,822
---------- ----------
$6,524,904 $4,616,672
========== ==========
34
37
6. LONG TERM DEBT AND NOTES PAYABLE
In June 1997, the Company entered into a $2,000,000 four year note secured
by inventory and equipment (the "Equipment Note"). The Equipment Note called for
interest at 9% per annum with interest only to be paid in the first twelve
months and with principal and interest starting in month thirteen. The Company
drew $1,500,000 of proceeds under the agreement in June 1997 and $434,000 in
April 1998. In connection with this note, the Company issued warrants to
purchase 10,500 shares of Series C Preferred Stock at $100.00 per share (Note
10). The Company allocated $325,000 of the Equipment Note proceeds to the fair
value of the warrants issued using the Black-Scholes method and recorded a
corresponding debt discount that was amortized using the effective interest
method over the term of the debt. The discount to the debt resulted in an
effective interest rate of 14%, which is consistent with debt instruments having
similar risks had no warrants been attached. During the years ended December 31,
1999 and 1998, the Company recognized additional interest expense of $41,000 and
$82,000, respectively, related to this allocation. The Company repaid the entire
outstanding balance of this note in June 1999. Accordingly, the Company recorded
an extraordinary loss of $287,000 from the extinguishment of debt related to the
unamortized discounts and loan fees.
In March 1998, the Company issued $250,000 of promissory notes to certain
stockholders, which bear interest at 8% per annum. The principal and accrued
interest was converted into 2,653 shares of Series C Preferred Stock in December
1998.
In March 1998, the Company entered into a $6,000,000 Loan Agreement with
Sirrom Capital Corporation ("Sirrom"). In June 1998, the Company entered into an
additional $2,000,000 Loan Agreement with Sirrom, collectively the "Sirrom
Loan". The Sirrom Loan was secured by a second lien on the Company's existing
secured assets and a first lien on the balance of the Company's assets. The
Sirrom Loan called for interest at a stated annual rate of 12.75% payable
monthly through February 2003, with principal and any remaining interest due in
March 2003. In connection with the Sirrom Loan, the Company issued stock
purchase warrants expiring in May 2003, granting Sirrom the right to purchase a
total of 165,736 shares of the Company's common stock at $8.42 per share. The
Sirrom Loan required the Company to maintain cash in an escrow account to be
used by the lender for the first year of interest payments.
The stock purchase warrants were subject to a put option whereby Sirrom can
sell the warrants to the Company in the 30-day period prior to the warrants
expiration date. The put option is terminated in the event of an initial public
offering. The put option price was equal to the fair market value of the common
stock issuable under the warrants less the exercise price of $8.42 per share.
The Company allocated $584,477 of the proceeds to the fair value of the 165,736
warrants issued using the Black-Scholes method. The discount to the debt
resulted in an effective interest rate of 14%, which is consistent with debt
instruments having similar risks had no warrants been attached. The allocation
of value to the warrants resulted in a corresponding debt discount and put
option liability. The $584,477 debt discount was being amortized to interest
expense using the effective interest method over the term of the loan. During
the years ended December 31, 1999 and 1998, the Company recognized additional
interest expense of approximately $49,000 and $52,000 related to this
allocation, respectively.
In June 1999, the Company repaid the entire $8,000,000 face amount of the
Sirrom Loan. Accordingly, the Company recognized an extraordinary loss on the
extinguishment of debt of $598,000 related to the unamortized debt discount and
loan fees.
On September 28, 2000, the Company completed the private placement of $20
million in convertible subordinated notes (the "2000 Convertible Notes") to a
group of accredited investors. The Company received proceeds of $18.7 million
net of debt issuance costs of $1.3 million including commission of $917,200. The
proceeds will be used for working capital. The 2000 Convertible Notes mature on
September 30, 2005, unless previously converted, and carry an 8% coupon.
Interest payment dates are April 1 and October 1, commencing April 1, 2001. The
2000 Convertible Notes are convertible at a price of $4.75 per share subject to
an annual reset under certain circumstances but in no event will the price be
less than $4.00 per share. Subject to certain conditions, the Company may redeem
all or part of the 2000 Convertible Notes prior to maturity. As of December 31,
2000, 4,210,526 shares were authorized and issuable upon conversion of the 2000
Convertible Notes. Jefferies & Company, Inc., one of the underwriters of the
placement, also obtained 200,000 warrants
35
38
6. LONG TERM DEBT AND NOTES PAYABLE (CONTINUED)
that expire on September 30, 2005 that are exercisable at the same price as the
conversion price under the notes (Note 10).
As of December 31, 2000 and 1999, accrued interest on notes payable totaled
approximately $403,000 and $0, respectively.
7. COMMITMENTS
OFFICE SPACE
The Company leases office space and equipment under operating leases. Rent
expense under the operating leases was approximately $1,031,000, $921,000 and
$676,000 for the years ended December 31, 2000, 1999 and 1998, respectively. The
office leases provide for escalating rent over the respective lease term.
EQUIPMENT
The Company also leases equipment under capital leases. In 2000 and 1999,
the Company incurred capital lease obligations of $156,000 and $541,000,
respectively, for the purchase of equipment. Amortization of assets held under
capital leases is included in depreciation and amortization in the statements of
cash flows.
Future minimum lease payments on operating and capital leases are as
follows:
OPERATING CAPITAL
---------- ------------
DECEMBER DECEMBER 31,
31, 2000 2000
---------- ------------
2001........................................................ $1,108,395 $327,486
2002........................................................ 662,226 157,007
2003........................................................ -- 39,608
2004........................................................ -- 23,531
---------- --------
Total minimum lease payments...................... $1,770,621 547,632
==========
Less amount representing interest........................... (36,869)
--------
Present value of minimum lease payments..................... 510,763
Less current portion........................................ 278,638
--------
Long-term portion of minimum lease payments................. $232,125
========
8. INCOME TAXES
At December 31, 2000, the Company has net operating loss carryforwards of
approximately $77.7 million that expire at varying dates from 2010 to 2020. Of
that $77.7 million, approximately $3.5 million relates to the exercise of stock
options, an equity item. The timing and manner in which the operating loss
carryforwards may be utilized by the Company will be limited to the Company's
ability to generate future taxable income. The use of these losses may also be
subject to significant limitations due to ownership changes pursuant to Section
382 of the Internal Revenue Code resulting from the issuances of Preferred and
Common Stock. As the Company has not generated earnings and no assurance can be
made of future earnings needed to utilize these net operating losses, valuation
allowance in the amount of the deferred tax asset has been recorded.
36
39
8. INCOME TAXES (CONTINUED)
Significant components of the Company's net deferred tax assets are as
follows:
DECEMBER 31,
---------------------------
2000 1999
------------ ------------
Deferred tax assets:
Inventory allowance.................................... $ 290,000 $ 290,000
Net operating loss carryforwards....................... 31,108,000 22,877,000
Deferred wages......................................... 311,000 235,000
Other deferred tax assets.............................. 52,000 91,000
------------ ------------
Total deferred tax assets...................... 31,761,000 23,493,000
Deferred liabilities:
Depreciation........................................... (426,000) (265,000)
Other deferred tax liabilities......................... -- --
------------ ------------
Total deferred tax liabilities................. (426,000) (265,000)
Valuation allowance for net deferred tax assets.......... (31,335,000) (23,228,000)
------------ ------------
Net deferred tax assets.................................. $ -- $ --
============ ============
The Company had not paid income taxes during 2000, 1999 or 1998 due to its
net operating loss position.
The following is a summary of the items that caused recorded income taxes
to differ from taxes computed using the statutory federal income tax rate for
the years ended December 31, 2000, 1999 and 1998:
DECEMBER 31,
---------------------------------------
2000 1999 1998
----------- ----------- -----------
Tax expense (benefit) at statutory Federal
rate........................................ $(6,402,000) $(5,003,000) $(3,930,000)
Effect of:
State income tax, net....................... -- -- (693,000)
Non-statutory stock options exercise........ (264,000) (421,000) (16,000)
Other....................................... 21,000 18,000 10,000
Increase in valuation allowance............. 6,645,000 5,406,000 4,629,000
----------- ----------- -----------
Income tax expense............................ $ -- $ -- $ --
=========== =========== ===========
9. PREFERRED STOCK
Of the 3,000,000 authorized preferred shares of the Company, 100,000 shares
have been designated as Series B redeemable convertible Preferred Stock ("Series
B Preferred Stock") and 287,000 shares have been designated as Series C
Preferred Stock. In addition, 1,000,000 shares have been designated as Series A
convertible Preferred Stock ("Series A Preferred Stock"). Upon liquidation of
the Company, the following represents the order of preference given to holders
of the Company's Preferred Stock: Series C Preferred Stock, Series B Preferred
Stock and Series A Preferred Stock. The Company has not designated for any
series the remaining 1,613,000 preferred shares.
SERIES A PREFERRED STOCK
Each share of Series A Preferred Stock is convertible into .35642 of one
share of common stock. Holders of Series A Preferred Stock shares are entitled
to receive dividends at the same rate as holders of common stock and have voting
rights equal to their common stock equivalent on an as if converted basis.
Additionally, each Series A Preferred Stock holder is entitled to a liquidation
preference equal to $1.00 plus declared but unpaid dividends. Concurrent with
the closing of the Company's initial public offering in June 1999, all shares of
Series A Preferred Stock converted automatically into 283,343 shares of common
stock.
37
40
9. PREFERRED STOCK (CONTINUED)
SERIES B PREFERRED STOCK
During 1997 and 1996, the Company issued 3,350 and 6,700 shares of Series B
Preferred Stock at $100 per share for total proceeds of $335,000 and $670,000,
respectively. During 1997, Series B Preferred Stock stockholders converted 9,050
shares of Series B Preferred Stock into an equivalent number of shares of Series
C Preferred Stock. Additionally, as an incentive to convert to Series C
Preferred Stock, the Series B Preferred Stock stockholders received in aggregate
an additional consideration of 322 shares of Series C Preferred Stock which was
included in the calculation of the discount for purposes of accretion. At
December 31, 1998 holders of 1,000 shares of Series B Preferred Stock had the
option of converting their investment into an equivalent number of shares of
Series C Preferred Stock. During the first quarter of 1999, a stockholder
converted 250 shares of Series B Preferred Stock into an equivalent number of
shares of Series C Preferred Stock. The stockholder received an additional seven
shares of Series C Preferred Stock and 1,222 warrants to purchase common stock
at $8.42 per share expiring on June 1, 2002 (Note 10). Each share of the Series
B Preferred Stock was convertible at the holder's option and automatically in an
IPO, as defined into 11.880 shares of common stock. The Series B Preferred Stock
holders were also entitled to vote and receive dividends and distributions on an
as if converted basis and were entitled to a liquidation preference of $175 per
share plus declared but unpaid dividends. Additionally, the holders of the
Series B Preferred Stock could demand redemption of their shares at the greater
of $175 per share or the fair market value of the preferred stock. The excess of
the redemption value over the carrying value was being accreted using the
interest method so that the carrying value will equal the redemption value of
$175 per share plus cumulative unpaid dividends on the scheduled redemption date
of December 31, 2003. The Company recorded accretion on the Series B Preferred
Stock of $4,689 and $10,523 during the years ended December 31, 1999 and 1998,
respectively. Concurrent with the closing of the Company's initial public
offering in June 1999, the remaining 750 shares of Series B Preferred Stock
converted into 8,910 shares of common stock.
SERIES C PREFERRED STOCK
During 1997, the Company issued 173,036 shares of Series C Preferred Stock
at $100 per share related to the conversion of Series B Preferred Stock, the
conversion of long-term debts, and partially for the cash proceeds. During 1998,
1,440 shares of Series C were converted into 17,108 shares of common stock. In
conjunction with the 1997 Series C financings and conversions, each stockholder
received a warrant with a five-year term to purchase common stock equal to 40%
of the stockholder's investment at $8.42 per share. Total warrants issued in
connection with the Series C Preferred Stock were 664,133. The Company allocated
$1,732,977 to the value of the warrants based on their estimated fair value at
the date of issuance.
During December 1998, the Company issued 50,451 shares of Series C
Preferred Stock for total proceeds of $5,039,791. In addition to the Series C
shares, the shareholders received warrants to purchase a total of 126,056 shares
of common stock at $8.42 per share (Note 10). These warrants have a five-year
life.
From January through March 1999, the Company sold 49,034 shares of Series C
Preferred Stock resulting in net proceeds of $4,899,000. The Company also
converted the $200,000 related party note outstanding at December 31, 1998 plus
accrued interest of $3,800 into 2,038 shares of Series C Preferred Stock. In
addition to the Series C shares, the shareholders received warrants to purchase
a total of 121,420 shares of the Company's common stock at $8.42 per share (Note
10). These warrants have a five-year life. The Company recorded a deemed
beneficial return on these shareholders of approximately $2.7 million due to the
Series C Preferred Stock being convertible into common stock at a discount from
fair value at the date of issuance.
Each share of Series C Preferred Stock was convertible at the holder's
option and automatically in an IPO, as defined into 11.880 shares of common
stock. The Series C Preferred Stock holders were also entitled to vote and
receive dividends and distributions on an as if converted basis and were
entitled to a liquidation preference of $100 per share plus $17,500,000
allocated based on the percentage of shares owned, and declared but unpaid
dividends. Additionally, the holders of the Series B Preferred Stock could
demand redemption of their shares at the greater of $200 per share or the fair
market value of the preferred stock. The excess of the
38
41
9. PREFERRED STOCK (CONTINUED)
redemption value over the carrying value was being accreted using the interest
method so that the carrying value will equal the redemption value of $200 per
share plus cumulative unpaid dividends on the scheduled redemption date of
January 1, 2004. The Company recorded accretion on the Series C Preferred Stock
of $2,232,027 and $3,768,646 during the years ended December 31, 1999 and 1998
respectively.
Concurrent with the consummation of the initial public offering in June
1999, all outstanding shares of Series C Preferred Stock converted into
3,279,306 shares of common stock.
10. COMMON STOCK AND WARRANTS
COMMON STOCK
Effective May 2, 1999, the Board of Directors and stockholders of the
Company approved a 1 for 2.8056787 reverse stock split of the Company's $0.0001
par value common stock. All references in the accompanying financial statements
to the number of shares of common stock and per share amounts have been restated
to reflect the split.
On June 4, 1999, the Company completed an initial public offering of
3,100,000 shares of its common stock. The offered shares generated proceeds, net
of underwriting commissions, to the Company of approximately $40 million and
this was further reduced by an additional $1 million of other related offering
costs.
WARRANTS
The Company's common stock warrant activity is as follows:
EXERCISE EXPIRATION
WARRANTS PRICE DATE
--------- -------- -------------
Outstanding at January 1, 1998..................... 1,608,262
Warrants issued in connection with issuance of
the Sirrom Loan............................. 139,004 8.42 May 31, 2003
---------
Balance at December 31, 1998....................... 1,747,266
Warrants issued in connection with Sirrom
Loan........................................ 26,732 8.42 May 31, 2003
Warrants issued in connection with conversion
of Series B Preferred Stock................. 1,222 8.42 June 1, 2002
Warrants issued in connection with issuance of
Series C Preferred Stock.................... 247,476 8.42 Dec. 31, 2003
Conversion of Series C Preferred Stock
Warrants issued in connection with the
Equipment Note into Common Stock Warrants... 124,717 8.42 June 3, 2002
Exercise of warrants during 1999.............. (50,714)
---------
Balance at December 31, 1999....................... 2,096,699
Exercise of warrants during 2000.............. (549,579)
Cancellation of warrants during 2000.......... (10,723)
Warrants issued in connection with convertible
subordinated notes.......................... 200,000 4.75 Sep. 30, 2005
---------
Balance at December 31, 2000....................... 1,736,397
=========
During 1999, warrants to purchase 19,621 shares of common stock were
exercised for net proceeds of approximately $165,000 and, additionally, certain
holders exercised warrants to purchase 31,093 shares of common stock by electing
to receive 16,445 shares. During 2000, warrants to purchase 77,123 shares of
common stock were exercised for net proceeds of approximately $594,540 and
additionally, certain holders exercised warrants to purchase 472,456 shares of
common stock by electing to receive 312,255 shares.
39
42
11. NET LOSS PER SHARE
The following table sets forth the computation of basic and diluted net
loss per share:
YEARS ENDED DECEMBER 31,
------------------------------------------
2000 1999 1998
------------ ------------ ------------
Net loss................................... $(18,830,600) $(14,714,641) $(11,558,469)
Beneficial return on preferred shares...... -- (2,668,109) --
Preferred stock accretion.................. -- (2,236,716) (3,779,169)
------------ ------------ ------------
Net loss available for common
shareholders............................. $(18,830,600) $(19,619,466) $(15,337,638)
============ ============ ============
Weighted average number of common shares... 11,487,192 8,010,331 4,009,713
Effect of dilutive securities:
Stock options.............................. -- -- --
Warrants................................... -- -- --
Redeemable convertible preferred stock..... -- -- --
------------ ------------ ------------
Adjusted weighted average shares and
assumed conversions...................... 11,487,192 8,010,331 4,009,713
============ ============ ============
Loss per share:
Basic and diluted........................ $ (1.64) $ (2.45) $ (3.83)
Due to their antidilutive effects, outstanding shares of preferred stock,
convertible notes, stock options and warrants to purchase 8,849,973, 4,552,259
and 6,616,096 shares of common stock at December 31, 2000, 1999 and 1998,
respectively, were excluded from the computation of diluted earnings per share.
12. EMPLOYEE BENEFIT PLANS
EMPLOYEE SAVINGS AND RETIREMENT PLAN
The Company has a 401(k) plan that allows eligible employees to contribute
up to 15% of their salary. The Company has total discretion about whether to
make an employer contribution to the plan and the amount of the employer
contribution. As of December 31, 2000, the Company has not chosen to match the
employee contributions and, therefore, has not incurred any contribution
expense.
STOCK OPTIONS
In February 1989, the Company adopted an Incentive Stock Option Plan (the
Plan). During June 1997, the Company's Board of Directors authorized an increase
of 124,747 shares of common stock that can be issued under the Plan. During
1998, the Company's Board of Directors increased the number of shares of common
stock that can be issued under the plan to 2,316,730. The option price under the
Plan will not be less than fair market value on the date of grant. The vesting
period of the options is determined by the Board of Directors and is generally
four years. Outstanding options expire after ten years.
During 1999, the Company adopted the 1999 Stock Option Plan (the "1999
Plan"). The 1999 Plan permits the granting of both incentive stock options and
nonqualified stock options to employees, directors and consultants. The
aggregate number of shares that can be granted under the 1999 Plan is 757,708.
During 2000, the Company's Board of Directors increased the number of shares of
common stock that can be issued under the plan to 1,457,708. The option price
under the 1999 Plan will not be less than fair market value on the date of
grant. The vesting period of the options is determined by the Board of Directors
and is generally four years. Outstanding options expire after seven to ten
years.
During 1998, three employees tendered a total of 64,392 shares of common
stock to the Company at prices ranging from $7.01 to $8.42 per share. The
proceeds were used to exercise 156,109 options to purchase shares of common
stock. During 1999, an employee tendered 1,336 shares of common stock to the
Company for $8.42 per share. The proceeds were used to exercise options to
purchase 2,673 shares of common stock.
40
43
12. EMPLOYEE BENEFIT PLANS (CONTINUED)
Additional information with respect to incentive stock option activity
under the stock option plans is summarized as follows:
YEARS ENDED DECEMBER 31,
---------------------------------------------------------------------
2000 1999 1998
--------------------- --------------------- ---------------------
WEIGHTED- WEIGHTED- WEIGHTED-
AVERAGE AVERAGE AVERAGE
EXERCISE EXERCISE EXERCISE
SHARES PRICE SHARES PRICE SHARES PRICE
--------- --------- --------- --------- --------- ---------
Outstanding at beginning
of period............. 2,440,912 $9.68 1,779,382 $ 6.77 1,532,993 $5.20
Options granted......... 926,465 8.98 1,068,491 13.14 551,787 8.42
Options exercised....... (169,200) 5.30 (296,670) 4.60 (208,588) 3.23
Options canceled or
expired............... (295,127) 9.55 (110,291) 9.28 (96,810) 6.55
--------- ----- --------- ------ --------- -----
Outstanding at end of
period................ 2,903,050 $9.71 2,440,912 $ 9.68 1,779,382 $6.77
========= ===== ========= ====== ========= =====
Options exercisable at
end of period......... 1,442,911 $8.55 1,355,198 $ 7.30 1,487,480 $6.48
========= ===== ========= ====== ========= =====
The following table summarizes information about stock options outstanding
at December 31, 2000.
DECEMBER 31, 2000
OPTIONS OUTSTANDING DECEMBER 31, 2000
------------------------------------------ OPTIONS EXERCISABLE
WEIGHTED- -----------------------
AVERAGE WEIGHTED- WEIGHTED-
REMAINING AVERAGE AVERAGE
NUMBER CONTRACTUAL LIFE EXERCISE NUMBER EXERCISE
OUTSTANDING (IN YEARS) PRICE EXERCISABLE PRICE
----------- ---------------- --------- ----------- ---------
$0.06 to $4.62................ 364,078 6.08 $ 3.32 86,668 $ 2.14
$4.75 to $6.81................ 260,177 5.07 6.40 104,887 6.20
$6.88 to $8.19................ 429,741 2.93 7.14 362,948 7.09
$8.40 to $8.40................ 572,925 5.27 8.40 515,391 8.40
$8.42 to $13.94............... 458,972 5.77 11.33 222,050 10.96
$14.06 to $21.50.............. 817,157 6.43 14.98 150,967 14.35
--------- ---- ------ --------- ------
2,903,050 5.41 $ 9.71 1,442,911 $ 8.55
========= ==== ====== ========= ======
In 1996, the Company adopted the disclosure-only provisions of SFAS No.
123. Had compensation cost for the Company's stock option plan been determined
based on the fair value at the grant date for awards under the plan consistent
with the methodology prescribed under SFAS No. 123, the Company would have
incurred an additional expense of approximately $2,050,000, $2,412,000 and
$933,000 resulting in a net loss in 2000, 1999 and 1998, of approximately
$20,880,600, $17,126,000 and $12,491,500, respectively. The resulting basic and
diluted pro forma net loss per share would be $(1.82), $(1.84) and $(3.12), for
the years ended December 31, 2000, 1999 and 1998, respectively. The effect of
applying SFAS No. 123 on 2000, 1999 and 1998 pro forma net loss as stated above
is not necessarily representative of the effects on reported net loss for future
years due to, among other things, (1) the vesting period of the stock options
and (2) the fair value of
41
44
12. EMPLOYEE BENEFIT PLANS (CONTINUED)
additional stock options in future years. The fair value of each option grant is
estimated on the date of grant using the Black-Scholes option-pricing model with
the following assumptions:
2000 1999 1998
----- ----- -----
Dividend yield.............................................. -- -- --
Expected volatility......................................... 107% 108% 25%
Risk-free interest rate..................................... 5.870% 6.625% 6.625%
Expected life............................................... 5 4 4
The weighted average fair values of the options granted during 2000, 1999
and 1998 with a stock price equal to the exercise price are estimated as $7.34,
$10.56 and $2.61 per share, respectively, on the date of grant.
EMPLOYEE STOCK PURCHASE PLAN
The Company has an employee stock purchase plan for all eligible employees
to purchase shares of common stock at 85% of the lower of the fair market value
on the first or the last day of each six-month offering period. Employees may
authorize the Company to withhold up to 10% of their compensation during any
offering period, subject to certain limitations. The employee stock purchase
plan authorizes up to 400,000 shares to be granted. During the year ended
December 31, 2000, shares totaling 7,615 were issued under the plan at an
average price of $5.47 per share. At December 31, 2000, 392,385 shares were
reserved for future issuance.
13. RELATED PARTY TRANSACTIONS
During 1998, four employees exercised 40,451 options in exchange for
$118,875 of notes receivable. During 1999, five employees exercised 79,302
options in exchange for notes receivable totaling $321,250. During 2000, an
employee exercised 15,529 options in exchange for notes receivable totaling
$87,000 and another employee repaid $314,636 of the notes receivable for 156,000
shares of common stock held by the Company. The following table summarizes
information about the common stock held by the Company as collateral, the notes
receivable and interest associated with the notes receivable as of December 31,
2000 and 1999.
DECEMBER 31,
---------------------------------
2000 1999
-------- -------------------
Shares held by the Company.................................. 260,918 244,168
Notes receivable............................................ $422,604 $650,240
Interest receivable......................................... $ 67,225 $ 34,634
Market interest rate........................................ 8% Ranged from 6 to 8%
42
45
14. SUMMARIZED QUARTERLY DATA (UNAUDITED)
The following financial information reflects all normal recurring
adjustments that are, in the opinion of management, necessary for a fair
statement of the results of the interim periods. Summarized quarterly data for
the year ended 2000 and 1999 is as follows:
QUARTER ENDED (AS RESTATED)
--------------------------------------------------------
MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31,
2000(1) 2000(1) 2000(1) 2000(1)
----------- ----------- ------------- ------------
Total revenues.................... $ 2,998,836 $ 3,479,265 $ 4,203,813 $ 4,962,396
Gross profit...................... 3,651 323,202 850,135 1,296,666
Loss before extraordinary loss and
cumulative effect of a change in
accounting principle............ (5,080,129) (4,808,239) (4,425,265) (4,300,149)
----------- ----------- ----------- -----------
Net loss available to common
shareholders(2)................. $(5,296,947) $(4,808,239) $(4,425,265) $(4,300,149)
=========== =========== =========== ===========
Loss per share before cumulative
effect of change in accounting
principle....................... $ (0.46) $ (0.42) $ (0.38) $ (0.37)
Net loss per share for common
shareholders.................... $ (0.48) $ (0.42) $ (0.38) $ (0.37)
QUARTER ENDED
--------------------------------------------------------
MARCH 31, JUNE 30, SEPTEMBER 30, DECEMBER 31,
1999 1999 1999 1999
----------- ----------- ------------- ------------
Total revenues.................... $ 1,503,696 $ 1,979,581 $ 2,292,438 $ 2,669,820
Gross loss........................ (402,220) (119,691) (64,610) (49,213)
Loss before extraordinary loss and
cumulative effect of a change in
accounting principle............ (7,419,315) (4,318,868) (3,190,596) (3,805,280)
----------- ----------- ----------- -----------
Net loss available to common
shareholders.................... $(7,419,315) $(5,204,275) $(3,190,596) $(3,805,280)
=========== =========== =========== ===========
Net loss per share for common
shareholders.................... $ (1.81) $ (0.86) $ (0.29) $ (0.35)
(1) During the quarter ended December 31, 2000, effective January 1, 2000,
we adopted SAB 101 and changed our method of accounting for
implementation fees for all contracts to recognize such fees over the
contract term. We have restated the results of the first three quarters
of 2000 filed in Form 10-Q for the cumulative effect of the change in
accounting principle. The effect of the restatement was to increase net
loss by $44,000 ($0.00 per share), $119,000 ($0.01 per share), $9,000
($0.00 per share) for the first, second, and third quarters of 2000,
respectively, and to increase fourth quarter net loss by $128,000
($0.01 per share).
(2) The cumulative effect of the change in accounting principle of $217,000
($0.02 per share) was reported as a cumulative effect of a change in
accounting principle, retroactively to January 1, 2000. Prior period
amounts have not been restated.
43
46
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY
Information regarding directors and executive officers of the Company
appearing under the caption "Election of Directors" in the Company's Proxy
Statement for the 2001 Annual Meeting of Stockholders to be filed with the
Securities and Exchange Commission (the "2001 Proxy Statement") is incorporated
herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
Information appearing under the caption "Executive Compensation" in the
2001 Proxy Statement is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information setting forth the security ownership of certain beneficial
owners and management appearing under the captions "Security Ownership of
Certain Beneficial Owners" and "Security Ownership of Management" in the 2001
Proxy Statement is incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information setting forth certain relationships and related transactions
appearing under the caption "Certain Related Party Transactions" in the 2001
Proxy Statement is incorporated herein by reference.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(A) EXHIBITS AND FINANCIAL STATEMENTS AND SCHEDULES.
(1) Financial Statements. The Company's financial statements are included
in Part II, Item 8 of this report on Form 10-K.
(2) Schedule II -- Valuation and Qualifying Accounts.
44
47
REPORT OF INDEPENDENT AUDITORS ON FINANCIAL STATEMENT SCHEDULE
We have audited the financial statements of Online Resources Corporation as
of December 31, 2000 and 1999, and for each of the three years in the period
ended December 31, 2000, and have issued our report thereon dated February 14,
2001 (included elsewhere in the Annual Report on Form 10-K). Our audits also
included the financial statement schedule listed in Item 14(a)(2) of the Form
10-K. This schedule is the responsibility of the Company's management. Our
responsibility is to express an opinion based on our audits.
In our opinion, the financial statement schedule referred to above, when
considered in relation to the basic financial statements taken as a whole,
presents fairly in all material respects the information set forth therein.
/s/ ERNST & YOUNG LLP
McLean, Virginia
February 14, 2001
45
48
SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNT AND RESERVE
BALANCE AT BALANCE AT
BEGINNING OF END OF
CLASSIFICATION PERIOD ADDITIONS DEDUCTIONS PERIOD
-------------- ------------ --------- ---------- ----------
Allowance for doubtful accounts:
Year ended December 31, 1998..................... $ 79,553 -- $28,118 $ 51,435
Year ended December 31, 1999..................... $ 51,435 $100,000 -- $151,435
Year ended December 31, 2000..................... $151,435 -- $34,125 $117,310
All other schedules set forth in the applicable accounting regulations of
the Securities and Exchange Commission either are not required under the related
instructions or are not applicable and, therefore, have been omitted.
(3) List of Exhibits.
3.1 Form of Amended and Restated Certificate of Incorporation of
the Company (Incorporated by reference from our registration
statement on Form S-1; Registration No. 333-74777)
3.2 Form of Amended and Restated Bylaws of the Company
(Incorporated by reference from our registration statement
on Form S-1; Registration No. 333-74777)
4.1 Specimen of Common Stock Certificate of the Company
(Incorporated by reference from our registration statement
on Form S-1; Registration No. 333-74777)
4.2 Form of warrants issued in 1995 in conjunction with bridge
notes (Incorporated by reference from our registration
statement on Form S-1; Registration No. 333-74777)
4.3 Form of warrants issued in 1995 and 1996 to purchasers of
notes due December 31, 1997 (Incorporated by reference from
our registration statement on Form S-1; Registration No.
333-74777)
4.4 Form of warrants issued to purchasers of senior notes due
June 30, 1999 (Incorporated by reference from our
registration statement on Form S-1; Registration No.
333-74777)
4.5 Form of warrants issued to purchasers of Series C preferred
stock in 1997 (Incorporated by reference from our
registration statement on Form S-1; Registration No.
333-74777)
4.6 Form of warrants issued to Dominion Fund IV (Incorporated by
reference from our registration statement on Form S-1;
Registration No. 333-74777)
4.7 Form of warrants issued in 1998 to Sirrom Capital
Corporation (Incorporated by reference from our registration
statement on Form S-1; Registration No. 333-74777)
4.8 Form of warrants issued to purchasers of Series C preferred
stock in 1998 and 1999 (Incorporated by reference from our
registration statement on Form S-1; Registration No.
333-74777)
4.9 Form of warrants issued to placement agents (Incorporated by
reference from our registration statement on Form S-1;
Registration No. 333-74777)
4.10 Registration Rights Agreement for purchasers of common stock
in 1995 (Incorporated by reference from our registration
statement on Form S-1; Registration No. 333-74777
4.11 Registration Rights Agreement for purchasers of Series C
preferred stock and Sirrom Capital Corporation (Incorporated
by reference from our registration statement on Form S-1;
Registration No. 333-74777)
4.12 Indenture dated September 28, 2000 between Online Resources
Corporation and Bankers Trust Company, as trustee. (Filed as
Exhibit 4.1 to our Form 10-Q for the quarter ended September
30, 2000 filed on November 14, 2000 and incorporated herein
by reference)
4.13 Form of warrants issued to placement agent (Filed as Exhibit
4.3 to our Form 10-Q for the quarter ended September 30,
2000 filed on November 14, 2000 and incorporated herein by
reference)
4.14 Registration Rights Agreement dated September 28, 2000 among
the Registrant and Jefferies & Company, Inc. as the
placement agent (Filed as Exhibit 4.2 to our Form 10-Q for
the quarter ended September 30, 2000 filed on November 14,
2000 and incorporated herein by reference)
46
49
10.1 Lease Agreement for premises at 7600 Colshire Drive, McLean,
Virginia (Incorporated by reference from our registration
statement on Form S-1; Registration No. 333-74777)
10.2 Online Resources & Communications Corporation 1989 Stock
Option Plan (Incorporated by reference from our registration
statement on Form S-1; Registration No. 333-74777)
10.3 Form of Stock Option Plan (Incorporated by reference from
our registration statement on Form S-1; Registration No.
333-74777)
10.4 Employee Stock Purchase Plan (Incorporated by reference from
our registration statement on Form S-8; Registration No.
333-40674)
23.1 Consent of Ernst & Young LLP (See Exhibit attached to this
Report)
(B) REPORTS ON FORM 8-K.
The registrant has filed no Forms 8-K during the quarter ended December 31,
2000.
47
50
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, as amended, the registrant has duly caused this report to
be signed on its behalf by the undersigned, thereunto duly authorized.
ONLINE RESOURCES CORPORATION
Date: March 30, 2001 By: /s/ MATTHEW P. LAWLOR
------------------------------------
Matthew P. Lawlor
Chairman and
Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended,
this report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the date indicated.
SIGNATURE TITLE DATE
--------- ----- ----
/s/ MATTHEW P. LAWLOR Chairman and Chief Executive March 30, 2001
- ------------------------------------------------ Officer
Matthew P. Lawlor
/s/ CARL D. BLANDINO Executive Vice President and Chief March 30, 2001
- ------------------------------------------------ Financial Officer (Principal
Carl D. Blandino Financial and Accounting Officer)
/s/ THOMAS S. JOHNSON Director March 30, 2001
- ------------------------------------------------
Thomas S. Johnson
/s/ JOSEPH J. SPALLUTO Director March 30, 2001
- ------------------------------------------------
Joseph J. Spalluto
/s/ DAVID A. O'CONNOR Director March 30, 2001
- ------------------------------------------------
David A. O'Connor
/s/ ERVIN R. SHAMES Director March 30, 2001
- ------------------------------------------------
Ervin R. Shames
/s/ GEORGE M. MIDDLEMAS Director March 30, 2001
- ------------------------------------------------
George M. Middlemas
/s/ BARRY D. WESSLER Director March 30, 2001
- ------------------------------------------------
Barry D. Wessler
/s/ MICHAEL H. HEATH Director March 30, 2001
- ------------------------------------------------
Michael H. Heath