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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-K
[X] Annual Report under Section 13 or 15(d) of the Securities Exchange Act of
1934
For the fiscal Year Ended December 31, 2001
[ ] Transition Report under Section 13 or 15(d) of the Securities Exchange Act
of 1934
For the Transition Period from to
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Commission File Number: 33-13789LA
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YOUBET.COM, INC.
(Exact Name of Registrant as specified in its charter)
Delaware 95-4627253
(State or other jurisdiction of (I.R.S. Employer Identification Number)
incorporation or organization)
5901 De Soto Ave., Los Angeles, California 91367
(Address of principal executive offices, including zip code)
(818) 668-2100
(Registrant's telephone number, including area code)
Securities registered under Section 12(b) of the Act: None
Securities registered under Section 12(g) of the Act:
Common Stock, par value, $.001 per share
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Indicate by a check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Exchange Act 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 a check mark if disclosure of delinquent filers in response to
Item 405 of Regulation S-K is not contained in this form, and no disclosure will
be contained, to the best of 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. [X]
As of March 28, 2002 the issuer had 19,537,950 shares of common stock
issued and outstanding. The aggregate market value of the issuer's common stock
held by non-affiliates (assuming that the Registrant's only affiliates are its
officers, directors and 10% or greater stockholders) of the issuer as of March
28, 2002 was approximately $11,997,369, based upon the closing market price of
$0.65 on that date of a share of common stock as reported on the Nasdaq National
Market.
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Youbet.com, Inc.
Page
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PART I.
Item 1. Description of Business.................................................................... 3
Item 2. Description of Property.................................................................... 17
Item 3. Legal Proceedings.......................................................................... 17
Item 4. Submission of Matters to a Vote of Security Holders........................................ 18
PART II.
Item 5. Market for Common Equity and Related Stockholder Matters................................... 18
Item 6. Selected Financial Data.................................................................... 20
Item 7. Management's Discussion and Analysis....................................................... 20
Item 7A. Quantitative and Qualitative Disclosure About Market Risk.................................. 27
Item 8. Financial Statements....................................................................... 28
Item 9. Changes in and Disagreement with Accountants on Accounting and Financial Disclosure........ 28
PART III.
Item 10. Directors, Executive Officers, Promoters and Control Persons; Compliance with Section
16(a) of Exchange.......................................................................... 28
Item 11. Executive Compensation..................................................................... 30
Item 12. Security Ownership of Certain Beneficial Owners and Management............................. 35
Item 13. Certain Relationships and Related Transactions............................................. 37
PART IV.
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K............................ 39
(a) 1. Index to Financial Statements........................................................... 39
2. Exhibits................................................................................ 39
(b) Reports on Form 8-K........................................................................ 40
Signatures.............................................................................................. 41
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PART I.
ITEM 1. DESCRIPTION OF BUSINESS
Overview
Youbet.com, Inc. ("Youbet.com" or the "Company") has established itself as
one of the leading global brand name for online live event sports entertainment
and wagering. Wagering on live events, such as horse racing, car racing, soccer,
football, etc, is a large global industry which adapts well to the Internet
space. The Company has initially focused on the United States horse wagering
market and its principal product, the You Bet Network, a PC-based system which
allows a customer to transmit information and thereby process wagers. The
Company is working to expand the Youbet.com brand, product and services in the
United States and overseas market. The Company currently provides its United
States network members the ability to watch, access a comprehensive database of
handicapping information and, in most states, the ability to wager on a wide
selection of coast-to-coast thoroughbred, quarter horse, and harness horse
racing, via its exclusive virtual private network. The You Bet Network is
completely interactive and provides a real-time interactive audio video
environment.
The Company believes it is an innovator in the online live event wagering
industry and intends to exploit the opportunities available to it in the United
States and to pursue international markets aggressively. Future developments
include enhancement and improvement of its existing products and technologies,
development of new products and international expansion. To enhance and improve
the You Bet Network, the Company has developed a web-based application "Youbet
Express" which was launched in March 2001, and a state of the art phone wagering
system which was launched in September 2001. Additionally, the Company is
looking into improving its web content management and exploring other revenue
streams.
On August 2, 2001, the Company received a multi-jurisdictional license from
the State of Oregon horse racing authorities for the acceptance and placement of
wagers. The acceptance and placement of wagers is processed through Youbet
Oregon, Inc., a wholly owned subsidiary of the Company. The Company commenced
operations in Oregon during the third quarter of 2001.
On February 21, 2002, Youbet.com received a license from the California
Horse Racing Board authorizing the acceptance by the Company of online and
telephone horse racing pari-muteul wagering from California residents. The
acceptance and placement of wagers will be processed through Youbet Oregon, Inc.
The Company also accepts and process wagers through another licensed
account-wagering entity (see "Strategic Relationships - Magna").
The Company believes that wagering on most forms of live sporting events is
legal in many parts of Europe, Asia, Australia and Latin America. The amount
wagered on horse racing, which is the Company's initial target market, is
substantially larger overseas. For example, Youbet.com believes that, in Japan
and Hong Kong, per capita wagering levels are significantly higher than in the
United States.
Sports wagering includes not only horse wagering, but also sporting events
such as football, basketball, baseball, hockey, soccer, boxing, golf, car
racing, dog racing and jai alai. Aside from horse racing, dog racing and jai
alai ("pari-mutuel wagering") in the United States, other sports wagering is
currently legal only in a few states. Overseas sports event wagering is
estimated to be significantly greater than in the United States.
In 2001 approximately 84% of United States horse wagering came from
off-track betting. This movement to off-track betting began after off-track
betting was introduced in the 1970s. Off-track wagering currently includes
inter-track simulcasts, off-track betting facilities, telephone account wagering
and with the introduction of the You
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Bet Network and other similar companies, online wagering. This dramatic shift
from on-track to off-track betting was driven by the public's desire to have
convenient access to racing, the racing industry's ability to provide a service
that met this need and the development of a system called "account wagering."
Account wagering is accomplished by establishing an account with a state
licensed account wagering entity and depositing funds into that account for
purposes of wagering. Once these funds have cleared, the bettor is free to use
the funds and any resulting winnings for wagering. Many entities in the United
States and worldwide are in the business of establishing such accounts and
placing wagers at the request of bettors.
Growth Strategy
Youbet.com's strategy is to continue establishing itself as one of the
leading global brand name and technology for online live event entertainment,
sports, horse racing, and other forms of online gaming. The principal elements
of Youbet.com's strategy are as follows:
Make legal wagering convenient
The Company believes that legal wagering on live events is an exciting
activity which appeals to bettors of widely varying sophistication. The wagering
opportunity enhances the experience of a sporting event. By making wagering more
convenient for all types of bettors, Youbet.com hopes to increase the number of
participants. For example, in horse racing, the Company hopes to increase the
number and frequency of off-track bettors using the You Bet Network, and also
increase the overall number of racing fans. For example, the Company intends to
make wagering easier for sophisticated bettors by providing, in one
easy-to-access and highly flexible format, all the data and analytical tools
that existing bettors routinely assemble manually from a variety of sources.
Newcomers to the sport are assisted by tutorials and introductory tools,
together with a friendly and dedicated customer support staff. And, for all
bettors, convenience and immediacy is greatly enhanced by allowing these
activities to take place in familiar locations such as the home or office as
opposed to the horse track, off-track betting locations or other simulcast
venues. Additionally, the Company intends to enrich the experience by having
creative contests and games for prizes and points. The Company believes all
these activities will have a positive impact on the overall horse racing
industry.
Increase legal wagering opportunities
Live event wagering, like other forms of gaming, is most enjoyable when
there is a wide variety of wagering options available, and when the stream of
wagering decisions and wagering outcomes is as robust as possible. Online
communications technology allows players to make more wagers on more events in a
given time period than is possible through any other live event wagering
alternative. For example, patrons at a horse track are limited to the races
offered at that horse track only (or to the limited simulcast selection offered
in addition). This provides fewer wagering opportunities than the You Bet
Network, which offers racing content from more than 90 horse tracks (and
growing). The You Bet Network provides as many as 25 races per hour, thus
affording customers more opportunities than are available via other methods.
Online technology also allows the execution of wagers to happen much faster than
in person or over the phone (a very important advantage), and wins are instantly
credited to the bettor's account and available to be wagered again. Finally, in
addition to the number of races, online technology allows for a greater ease of
wagering (including exotic wagers such as exactas, trifectas and quinellas) than
can be accomplished by other means. Youbet.com intends to transport the
technological and participatory innovations that are developed to other legal
gaming venues.
Make legal wagering opportunities accessible to a broader audience
The convenience of in-home wagering has encouraged the new bettor to become
more active. In addition,
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the Company believes that its marketing activities have attracted consumers who
have rarely or never wagered and that its easy-to-use product will allow them to
realize the fun of wagering with a minimum of difficulty or intimidation. In
this way, the Company hopes to expand the total wagering activity in the events
it presents by lowering the challenges to participation by newcomers.
Pursue international markets aggressively
The Company intends to preserve a global brand name for Youbet.com,
operating worldwide in live event wagering and other forms of online gaming. The
Company intends to leverage its position as a leading online live event horse
racing and wagering company in the United States to expand internationally.
Youbet.com's overseas strategy envisions utilizing Youbet.com's technology and
experience to form business relationships with partners in Latin America,
Europe, Australia and Asia with the goal of creating robust sports information
and other types of legal gaming websites for gaming aficionados. The sports
websites will provide information, statistics and live event coverage of popular
sports throughout the targeted region. The initial international activities will
serve to develop a template for international operations which can be replicated
in other countries with significant sports wagering markets. Additionally, while
wagering on horse racing is the only service currently offered by the You Bet
Network, the Company expects its overseas networks will include other types of
sports wagering and online gaming.
Build strategic relationships
The Company believes that it can enter into mutually beneficial agreements
with other companies and organizations, and it will pursue relationships
selectively. Youbet.com will most likely pursue those relationships in areas
outside its core technical, regulatory or geographic competencies. The Company
also intends to develop relationships in international wagering markets as part
of its international expansion.
Exploit developments in technology
Youbet.com's strategy is based upon being the first to bring a new
technology in online communications to the horse racing market and other live
event markets. The Company will continue to enhance and improve its existing
products and technologies, and will carefully monitor developments in
technology, which will make online live event wagering easier, faster and more
entertaining. Youbet.com introduced a web-based product to simplify the process
in addition to improving its web content management. The web based application
"Youbet Express" was launched to the public in March 2001, and a state of the
art phone wagering system was launched in September 2001. In addition, the
Company continues to improve the quality and quantity of content provided to its
customers as bandwidth to individual Internet users increases.
Horse Racing
Industry Trends
The Company believes that horse racing fans enjoy the sport not only
because it is entertaining to watch but also because wagering adds significant
excitement to the experience. Online communication provides convenience and has
the opportunity to seamlessly integrate the viewing and transaction processing
aspects of wagering in one medium. Youbet.com believes this will significantly
enhance the entertainment value of online horse racing systems as compared to
the traditional on-track and off-track systems that are in use today. The
Company also believes that online solutions are likely to appeal to both new
fans and the more serious handicappers for a number of reasons including the
following:
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The Internet is an Entertainment and Commerce Medium-The Internet has
become an important medium for communication, news, entertainment and commerce.
The two fundamental growth drivers are the Internet's ability to deliver
information in ways that are not possible using traditional media sources such
as broadcast or print media and the Internet has become a powerful and credible
new commerce channel.
Many Handicappers are already heavy PC users-The Company believes that the
fact that handicappers use computers to access horse racing information is an
indicator of the high likelihood that handicappers will be interested in
utilizing advanced online wagering and information systems.
Off-track wagering is the norm-Since the introduction of simulcasting in
1978 and the passage of the Interstate Horse Wagering Act, horse wagering has
migrated away from the horse track. Handicappers prefer to place wagers at
either remote sites or by phone because it is more convenient. This trend is
expected to continue for the foreseeable future. Currently approximately 84% of
all horse racing wagers are from remote locations.
Handicappers value efficient execution-Fast execution of wagers as close to
race start times as possible is imperative because it allows handicappers to
place wagers based on the most up-to-date information. Consequently, systems
that facilitate fast execution are of significant value to handicappers.
Handicappers want entertainment and variety-The widespread popularity of
closed circuit television coverage of horse racing at both on-track and
off-track wagering facilities is a strong indicator of the high entertainment
value that handicappers associate with watching horse racing. It is also
important to note that one of the main benefits of multiple television coverage
is the ability to watch and wager on races from a wide variety of horse tracks
from a single location.
Handicappers need data-The ability to interpret a wide range of both
historical and current data about jockeys, horses, weather, the condition of the
horse tracks and many other factors improves the handicapper's chance of
winning. Consequently, handicappers, especially those with experience, will go
to great lengths to acquire the most up-to-date data and will routinely draw
from a wide variety of sources.
Worldwide online wagering laws-The Company believes many countries have or
are in the process of enacting laws and procedures for operating online wagering
systems. Youbet.com believes that many horse racing fans would be interested,
particularly if these online systems are perceived as reliable and legal, to
view and wager on international horse racing and sporting events using an
interactive online system.
Due to these primary factors, the Company believes that online
communication is an ideal medium for live event wagering offering significant
enhancements relative to traditional choices. Current off-track options
available to handicappers, while significantly more convenient than physically
going to a particular horse track, are still very inefficient and not well
integrated. For example, handicappers spend a significant amount of time
collecting and organizing handicapping information from a broad range of
sources. Once this step is accomplished, they must either travel to a horse
track or off-track wagering facility to watch races. Handicappers have the
option of placing wagers at the horse track, at off-track facilities or via
phone but must often wait in lines or on the telephone to actually place wagers.
The Company believes an online system that integrates the features of gathering
handicapping information, providing live event audio and video feeds and
automating the wagering process will be of great value to handicappers and could
significantly enhance their enjoyment and ultimately draw new fans to the sport
as well. Youbet.com also believes that the fans of many other live wagering
events will be attracted to online systems with the same basic features, but
customized in terms of content and performance.
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The Youbet.com Solution
Horse race wagering, as an industry, has evolved from predominantly
on-track based to off-track betting and telephone wagering. The Company believes
that its service is not only unique but also has the potential to revolutionize
how handicappers and enthusiasts wager and watch horse racing events by offering
significant advantages over traditional on-track and off-track options.
Moreover, the underlying technology of the You Bet Network has been designed to
be highly flexible and able to fully leverage the broad access and information
distribution capabilities of an online environment. The Company's technology
enables it to continue to add features to its network, to rapidly expand from
its current coverage of United States based horse racing to the much larger
international markets and into other live event wagering markets such as Europe,
Asia, Australia and Latin America. Key benefits of the You Bet Network include:
. Convenience, Ease of Use-Members can access the You Bet Network using
a standard modem or high speed connection from home, the office or
virtually any location where a computer has online access and it is
legal to wager.
. Efficient Execution-Handicappers can use the You Bet Network to
transmit wagering instructions and receive confirmation in as little
as three seconds and they will always know their account balance in
addition to having full access to their account balance when making
future wagers.
. The Information Edge-The You Bet Network provides real time
information from several leading companies and up to the minute odds
on all wagers (see "Strategic Relationships").
. Entertainment Value-Youbet.com believes its ability to seamlessly
combine broadcast-quality graphics, live audio and video feeds, a
broad range of tools to view handicapping information and analyze
wagering odds as well as extensive handicapping information in an easy
and flexible browser based interface is the key to providing this high
degree of entertainment value. The Company currently provides this
information on a real time basis from more than 90 horse tracks, and
is actively expanding its relationship with additional horse tracks.
. Benefits to Horse Tracks and Wagering Facilities-The Company believes
that the You Bet Network will increase the number of handicappers
involved in wagering on horse races and increase the frequency of play
of current fans, and therefore prove beneficial to and grow the horse
racing industry as a whole.
Since mid-1995, Youbet.com has been engaged in developing the You Bet
Network, its first service being offered to customers. The Company has incurred
substantial software development costs since inception, which have been charged
to operations as research and development costs.
The You Bet Network
In July 1998, the You Bet Network became fully operational and has
processed over $250 million in handle (wagering).
Availability of the You Bet Network
The You Bet Network is normally available to customers 23 hours a day,
seven days a week and offers customers support 15 hours a day, seven days a
week. Live horse racing is available on the You Bet Network approximately 15
hours per day, depending on which horse tracks are running on a particular day.
Access to handicapping information such as past performances, is available 23
hours a day and the availability to place
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wagers is subject, in most cases, to the actual horse tracks' time schedule of
accepting wagers. If for any reason the You Bet Network is unavailable for a
particular race or for any other reason whatsoever, Youbet.com customers can
place wagers over the telephone by calling directly via a toll free number.
Setting Up a You Bet Network Account
To subscribe to the You Bet Network, a potential customer contacts
Youbet.com, either on its website or its toll free number and opens an account.
This account is used for the monthly subscription fee, if any, and for the
purchasing of handicapping information. In order to access the You Bet Network,
a customer can install CD-ROM software which Youbet.com provides at no
additional charge. However, during March 2001, Youbet.com launched its web-based
application "Youbet Express" which does not require the use of a CD-Rom. Once
the customer installs the software and activates the service, the customer has
access to simulcasts from the horse tracks and handicapping information.
Wagering through the You Bet Network requires that a customer open a separate
wagering account with Youbet Oregon, Inc., or with Magna (see "Strategic
Relationships - Magna").
Setting Up a Wagering Account
In order to set up a wagering account, the Company requires that new
customers provide a driver's license number, social security number, proof of
age and state of residence. Once this information is verified, funds can be
transferred by the customer into his or her wagering account. Youbet.com
processes the opening of this account through a simple web interface. Several
fund transfer methods are available to fund a customer's account. From this
wagering account, the customer can have wagers processed by Youbet Oregon, Inc.,
the telephone or by Magna.
Features of the You Bet Network
The You Bet Network is provided through a secure, proprietary, closed-loop
private online network which a customer can access via his or her Internet
service provider. The high performance level of the You Bet Network in terms of
audio, video, transaction processing and information delivery, improved
reliability, and higher levels of security are made possible by the installation
of Youbet.com's proprietary software. Specific features of the You Bet Network
include:
. Wagering directly into horse track pools;
. Immediate access to wager results, payouts and account status;
. Over 90 horse tracks to choose from, many running simultaneously;
. Ability to play multiple horse tracks simultaneously;
. Up-to-the-minute odds, probable payouts and late changes on the horse
track;
. Access to a vast database of handicapping and past performance
information;
. Real time streaming handicapping information from track
correspondents;
. Live audio and video feed from the horse tracks;
. Official programs and data on past performances including races,
tracks, jockeys and horses;
. Simple graphical user interfaces which simulate wagering at the horse
track;
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. Summary of previous wagers placed by the customer and previous
wagering results; and
. Sophisticated encryption technology.
Youbet.com continues to negotiate contracts with numerous horse tracks and
content and information providers to allow additional features and content to be
added to the You Bet Network.
How a Wager is Processed by the You Bet Network
Customers can use the You Bet Network to process wagers, using the system's
icon-driven menus to fill out an electronic wagering information ticket similar
to a wagering ticket at a horse track. The wager is then transmitted
electronically to a licensed account wagering entity. The customer's account is
debited, the wager is placed at the host horse track and an electronic
confirmation is sent to the customer through the You Bet Network. This entire
process usually takes less than three seconds. The subsequent adjustment to the
customer's account for winnings also usually takes less than three seconds after
official winnings are posted at the horse track.
Customer Service for the You Bet Network
Youbet.com maintains and provides a high level of customer service and
support for its customers. Customer service representatives are available from
7:00 a.m. to 10:00 p.m. Pacific Time, seven days a week, to provide assistance
via email or toll free number. Customer service representatives handle all
questions relating to the You Bet Network, including how to install Youbet.com's
software, how to place a wager and how to find desired features or information
on the You Bet Network. Customer service will also process a customer's credit
card information over the telephone to initially set up an account. Customer
service hours have been set by the Company according to the hours when it is
likely that online activity will take place. The Company intends to continue to
devote the resources necessary to maintain this high level of customer service.
Pricing for the You Bet Network
Youbet.com charged a monthly service subscription fee of $5.95 for access
to the You Bet Network until September 1, 2001, when the Company eliminated its
$5.95 subscription fee and instead started charging a transaction fee of $0.25
per bet placed. Beginning November 2001, the transaction fee was waived. The
Company also charges for additional handicapping information such as past
performances, tip sheets and horse racing analysis, which are billed separately
on a monthly basis.
Revenue Sources from the You Bet Network
Pari-mutuel operators typically take a percentage as a commission prior to
distributing payoffs to the winners. Pari-mutuel operators also bring additional
wagers into a horse track pool from off-track sources. Youbet.com receives a
commission fee for wagers placed through Youbet Oregon, Inc., based on a
percentage of wagers placed. The Company also receives from Magna's Pennsylvania
hub a commission equal to fifty percent (50%) of the net commissions to Magna
derived from wagers placed by the Company's customers who have wagers placed
through Magna. This fee from Magna includes not only a percentage of net
commissions for wagers facilitated by the You Bet Network, but also each wager
by a Youbet.com customer which is placed by phone with Magna. These commissions
comprise Youbet.com's primary revenue stream. Additional revenues are generated
from monthly subscription fees (which have been waived since September 1, 2001),
transaction fees (which have been waived since November 2001), and the sale of
handicapping information and other value added services such as past
performances of various tracks, jockeys or horses.
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The Company expects to continue to derive a majority of its future revenues
through commissions from amounts wagered with licensed wagering facilities
through the You Bet Network. However, the Company anticipates that additional
revenue will be generated from sources such as, advertising on the You Bet
Network, including web banners, and advertising on the live simulcasts as well
as sales of other sports information and sports and logo merchandise.
Marketing
Existing bettors require less time to learn to use the You Bet Network and
provide a very profitable segment of players. The existing bettor is likely to
be targeted by competitors. New bettors will need more education regarding horse
racing, but represent a larger market and possible greater revenues.
The Company intends to attract the existing bettor with superior
information content and technology as well as value-added promotions such as
complimentary monthly service charges. The Company also believes that
significant wagering activity can be produced by existing and new bettors who
may be significant sports enthusiasts, but who have not traditionally been large
players due to a perceived lack of time and convenience regarding horse
wagering. The convenience and ease of use of the Youbet Network, as well as the
immediate excitement of online wagering and wagering results will be marketed to
attract these new players.
Youbet.com has been marketing to the horse racing enthusiast audience for
over three years through various media channels. Youbet.com takes an integrated
marketing approach to reach its audience through radio, direct mail, print and
online efforts. An integrated approach allows the company to capitalize on these
efforts to reach its target market. Horseracing radio programs provide a message
into the market that than can be re-enforced through Youbet.com's other media
efforts. Direct mail consists of various correspondences with prospective
customers who fit into Youbet.com's target audience. Print supports direct mail
efforts and provides Youbet.com the opportunity to rotate various messages to
it's target market, such as product benefits, contests and promotions. Print
efforts include horse racing enthusiast magazines and newspapers. Online efforts
(including email, banners, Youbet.com's website and promotional devises) provide
campaign support through the Internet to existing and potential customers. In
addition, strategic alliances with other horse racing related websites have
enabled Youbet.com to reach additional customers. The Youbet.com website has
been a key vehicle to promote various marketing efforts and campaigns.
Youbet.com's current marketing goal is to provide a strong focus on the
web-based product that was introduced in March 2001. The Company has positioned
itself as a leader in online horse racing entertainment by offering online
tournaments and contests for a variety of prizes (including everything from cash
to computers). Additionally, Youbet.com develops internal marketing programs to
increase its customer base. For example, the "Tell-A-Friend" program allows
current customers to earn cash by referring new customers. Research and customer
analysis has enabled Youbet.com to learn key information which leads to better
efforts in reaching and retaining its customers.
The development of a comprehensive retention strategy is the key to a
successful marketing program. Youbet.com's contact strategies are both "Customer
Driven" and "Calendar Driven". These two communication channels travel down
parallel paths and are keys to strengthening the customer's relationship with
Youbet.com. Maintaining consistency in both the messages and the design of
company's brochures, welcome kits and all communications to it's customers allow
Youbet.com to maintain a certain "look and feel" that reflect the personality of
the Company to it's customers. The "Customer Driven" strategy is based on
tailoring communications to the customers throughout their experience with
Youbet.com. From the first communication with the customer at sign-up,
Youbet.com's efforts are to ensure a successful relationship with its customers
through ongoing benefits and perks. The "Calendar Driven" strategy is based on
utilizing key events throughout the year in the horse racing industry to promote
contests, tournaments and promotions designed to enhance the
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customer's experience.
Strategic Relationships
The Company has domestic agreements with ODS Technologies, L.P., a
subsidiary of Gemstar-TV Guide International, doing business as TVG ("TVG"),
Magna (who owns a wagering hub in Pennsylvania, owns and/or operates several
racetracks in the United States including Santa Anita Park and Gulfstream Park,
and owns a competitive service, XpressBet), Daily Racing Form, Equibase (the
industry's leading source of racing information), The United States Trotting
Association (the industry's leading source of standardbred racing information),
AT&T and Axcis Information Network, Inc. (the industry's leading provider of
harness racing handicapping information).
TVG
In May 2001, Youbet.com entered into a track content and patent license
agreement (the "License Agreement") and a warrant issuance agreement (the
"Warrant Agreement") with TVG. These agreements relate to the grant by TVG to
Youbet.com of a non-exclusive license to use telephones and certain simulcast
audio, video and data content for the purpose of streaming such content online
and the agreement of race tracks to accept wagers based on such content, and to
use TVG's patented systems for making pari-mutuel wagers on horse races online.
Among other things, the agreements call for Youbet.com, to issue to TVG two
warrants to purchase common stock of the Company as described below.
The License Agreement remains in effect until the later of (i) May 18,
2011, (ii) the date of expiration of the last to expire of the TVG patents
licensed to Youbet.com under the agreement, or (iii) the date on which the last
of TVG's agreements with the TVG Exclusive Tracks expires (unless extended,
TVG's agreements with the TVG Exclusive Tracks expire before May 18, 2011). The
License Agreement may be terminated before the expiration of its term (a) by
TVG, if Youbet.com ceases to operate its Oregon account wagering hub or another
account wagering facility approved by TVG at any time thereafter during the
term; (b) by TVG, in the event that Youbet.com brings any legal action against
TVG or any of TVG's affiliates, including Gemstar-TV Guide International, unless
it is finally determined in such action that TVG (or its affiliate) acted in bad
faith with respect to any claim that is the subject of the legal action; and (c)
by either Youbet.com or TVG, in the event that the other party materially
breaches the License Agreement without cure upon notice.
In consideration of the rights granted to Youbet.com under the License
Agreement, Youbet.com has agreed to pay to TVG fees based on the handle
generated by Youbet.com from wagering activity and to issue to TVG the warrants
to purchase Youbet.com common stock on the terms and conditions set forth in the
Warrant Issuance Agreement, as described below (see "Competition"). The TVG fees
are as follows:
. With respect to wagers processed through an account wagering facility
other than Magna, 5.5% of the total handle on races conducted at the
TVG Exclusive Tracks only. For purposes of determining these and other
fees payable under the License Agreement with respect to the TVG
Exclusive Tracks, tracks owned, controlled or operated by Magna will
be deemed to be TVG Exclusive Tracks to the extent that TVG enters
into any agreement with any such track which provides for TVG to have
simulcast and account wagering rights on races from such track. These
Magna tracks include nine tracks currently available on the Youbet.com
network.
. With respect to wagers processed through Magna on races conducted at
the TVG Exclusive Tracks, the entire commission or other consideration
paid to Youbet.com with respect to such wagers.
. With respect to wagers conducted at four designated non-TVG Exclusive
Tracks, 3.0% of the total
11
handle (including wagers processed through Magna).
The License Agreement also provides that Youbet.com will pay to TVG the
following fees:
. At such time as Youbet.com opens its own account wagering facility,
with respect to wagers accepted or processed through an account
wagering facility other than Magna, Youbet.com will charge customers a
transaction fee of 25 cents per wager, with the first $3.00 of such
fees per customer per month being retained by Youbet.com, the next
$3.00 per customer per month being paid to TVG, and any remaining
amounts per customer per month being split equally between the
parties.
. Commencing with the opening of Youbet.com's own account wagering
facility, with respect to account wagers processed through Magna,
Youbet.com will, at its election, charge customers either a
transaction fee per wager of 25 cents or a monthly subscription fee of
not less than $5.95 and will split such fees equally with TVG.
Youbet.com is permitted to defer payment of these fees until such time
as it achieves positive cash flow sufficient to pay the deferred fees.
Also, Youbet.com is permitted to modify or waive transaction fees for
certain customers, provided that it shares any such fees from such
customers equally with TVG.
. Commencing with the first calendar quarter in which Youbet.com
achieves positive cash flow, as defined in the License Agreement, and
then and thereafter only to the extent of positive cash flow, 50% of
gross advertising revenues and 50% of the amount by which gross
operating margin (revenues less direct costs) from monthly e-commerce
revenues exceeds the gross operating margin from e-commerce revenues
for the calendar month of April 2001.
. With respect to account wagers on races conducted at the TVG Exclusive
Tracks from Youbet.com customers in the states where the TVG exclusive
tracks are located, (i) pay source market fees and host track fees in
accordance with the agreements between TVG and the applicable racing
associations and other participants in the horse racing industry and
(ii) pay applicable state taxes and fees to the National Thoroughbred
Racing Association, subject to a cap of one percent of the total
handle.
. With respect to account wagers on races conducted at the TVG Exclusive
Tracks from Youbet.com customers in other states other, (i) pay host
track fees in accordance with the agreements between TVG and the
applicable racing associations and other participants in the horse
racing industry and (ii) pay applicable state taxes.
. With respect to account wagers on races conducted at non-TVG Exclusive
Tracks from Youbet.com customers with an account address within a
25-mile radius of any TVG Exclusive Track, Youbet.com will pay to TVG
10% of all such account wagers, and TVG will retain 50% of such amount
and divide the remaining 50% between the TVG Exclusive Tracks and
Youbet.com's partner tracks located within the 25-mile radius.
The Company issued to TVG an initial warrant (the "Initial TVG Warrant"),
on May 18, 2001 (the time the Warrant Agreement was executed) entitling TVG to
purchase an aggregate of up to 3,884,650 shares of Youbet.com common stock (the
"Initial Warrant Shares") at an exercise price of $0.001 per share exercisable
for a period of three years. The Company recorded the fair value of the Initial
TVG Warrant ($2,910,000), using the Black-Scholes method, as a deferred asset
captioned "Licensing Rights" and is being amortized over three years.
12
The Company issued to TVG the Additional TVG Warrant on September 20, 2001
(the time the Warrant Agreement was approved by the stockholders) entitling TVG
to purchase for an aggregate exercise price of $41,082,422 (subject to
adjustment as provided in the Additional TVG Warrant) a number of shares of
common stock which, when aggregated with the Initial Warrant Shares, is equal to
51% of the sum of (i) the total number of shares of Youbet.com common stock
outstanding on the date the Additional TVG Warrant is exercised, plus (ii) the
total number of shares of common stock issuable upon exercise of the Additional
TVG Warrant, plus (iii) the total number of Initial Warrant Shares then issuable
upon exercise of the Initial TVG Warrant. The Company recorded the fair value of
the Additional TVG Warrant ($7,054,000), using the Black-Scholes method, as a
deferred asset captioned "Licensing Rights" and is being amortized over three
years. The Company is obligated to issue additional warrants to TVG (in order to
maintain TVG's rights in acquiring 51% of the Company) upon the exercise of any
stock options or warrants, or if the Company issues any additional securities.
The number of warrants to be issued to TVG would be equivalent to the number of
stock options or warrants exercised or the number of additional securities
issued. In addition, the Additional TVG Warrant contains provisions for
adjusting the exercise price in the event that (i) Youbet.com makes certain
additional issuances of common stock or securities exercisable for or
convertible into common stock at a price less than the defined reference price
per share ($2.50 per share) on which the aggregate exercise price of the
Additional TVG Warrant is based, or (ii) engages in certain issuer tender offers
for the repurchase of shares of its common stock.
Magna
In June 1997, the Company entered into a Telecommunication Facilitation
Agreement with Mountain Laurel Racing, Inc. and Washington Trotting Association,
Inc., both of which were subsidiaries of Ladbroke USA (collectively,
"Ladbroke"), which expires in January 2003. During 2001, Ladbroke was acquired
by Magna Entertainment, Corp., ("Magna"). Under the agreement, the Company
provides Magna with an interactive graphics interface to the You Bet Network
through which Youbet.com's customers who have established accounts with Magna's
Call-A-Bet System in Pennsylvania are able to communicate interactively with
Magna using their PCs to transmit wagering information to Magna.
Magna provides simulcast signals and pari-mutuel wagering from more than 60
horse racing venues throughout the United States, including most major horse
tracks. Since 1983, Magna has offered telephone wagering through Magna's
Call-A-Bet System, one of the nation's largest account wagering systems.
Youbet.com's agreement with Magna enables the Company's customers to place
wagers through Magna's Call-A-Bet System. The agreement also provides for the
Company to receive a fee from Magna equal to fifty percent (50%) of the net
commissions to Magna derived from wagers placed by Youbet.com customers who use
the Call-A-Bet System either through the computer graphics interface provided by
Youbet.com or more traditional telephone communication.
Magna, one of the largest operators of premier horse racetracks in the
United States, acquires, develops and operates horse racetracks and related
pari-mutuel wagering operations. These racetrack, include Santa Anita Park,
Golden Gate Fields and Bay Meadows Racecourse in California, Gulfstream Park in
Florida, Remington Park in Oklahoma, Thistledown in Ohio and Great Lakes Downs
in Michigan (see "Competition").
Other Strategic Relationships
In March 1996, Equibase Company signed a five-year license agreement,
terminable upon 30 days written notice, with Youbet.com which allows the Company
to produce products and services from Equibase's data and sell programs, past
performances and a wide variety of horse racing information products to
Youbet.com's customers. Equibase is the official "thoroughbred industry owned"
database of racing information. Established in 1990, Equibase is a general
partnership between The Jockey Club and the Thoroughbred Racing Associations of
13
North America. The agreement provides that the Company will pay Equibase fees
for individual product sales subject to a minimum monthly fee. This agreement
has expired and is currently on month-to-month basis.
In March 1998, the United States Trotting Association, USTA, entered into
an agreement with the Company, terminable upon 30 days written notice, to
provide past performance information related to horse racing. Youbet.com pays a
monthly minimum fee as well as a separate fee for each downloaded horse track
program. The USTA is now in its sixty second year of operations promoting the
standardbred breed of horses.
In September 1999, Axcis Information Network, Inc. ("Axcis") entered into a
three-year agreement with the Company, terminable upon 90 days written notice.
The agreement allows the Company to provide its customers with racing
handicapping information. The agreement provides that the Company will pay Axcis
fees for individual product sales subject to a minimum monthly fee.
In May 2000, AT&T entered into an agreement with Youbet.com to provide
Internet service, ATM (Asynchronous Transfer Mode) service and local and long
distance telephone service. The Internet service delivers video, audio, data and
Web pages to customers of the Youbet Network. The ATM service provides
high-speed links to Youbet's information partners over AT&T private network. The
agreement provides that the Company will pay a monthly fee for use of the AT&T
services. The services are delivered on a fully redundant high speed fiber optic
ACCURING. AT&T functions as the primary network provider for the Company.
In January 2001, the Daily Racing Form ("DRF"), entered into a five-year
agreement with Youbet.com allowing Youbet.com to place propriety links (links in
non-traditional advertising space) to its website on DRF's website. The
agreement provides that the Company will pay DRF a marketing fee for customers
who are acquired from the DRF website. In return, DRF pays the Company a
percentage of information purchases made on the DRF website by Youbet.com
customers.
In April 2002, Churchill Downs, Inc., ("Churchill"), entered into a
one-year co-marketing agreement with Youbet.com whereby the Company will be the
official online wagering platform of Churchill and the Kentucky Derby.
Additional sponsorship benefits include the participation in direct mail
programs targeting Churchill customers with Kentucky addresses; graphic links on
Churchill's website(s) (which comprises Churchill Downs, Hollywood Park,
Arlington Park, and the Kentucky Derby); the Company's right to promote the
Youbet Network on the Churchill Downs race signal to approximately 1,000
nationwide outlets, and print advertising in official race programs at Churchill
Downs.
Competition
The online and interactive wagering market is new and rapidly changing. The
Company anticipates that competition will become more intense as new companies
will enter the market. Worldwide, many Internet and interactive ventures of
various kinds have been announced. The Company expects to compete with these
entities, as well as other established gaming companies, which may enter the
interactive pari-mutuel gaming market. Initially, the Company has focused its
efforts primarily on the United States horse racing industry.
Television Games Network ("TVG") is a competitor in the domestic
interactive pari-mutuel gaming market, which is owned by Gemstar-TV Guide
International, Inc. Television Games Network is a 24-hour national racing
channel for distribution over cable and Satellite TV, along with an in-home
pari-mutuel wagering system that requires a dedicated television set-top box. In
June 2000, TVG launched an Internet based wagering product and accepts wagers
from twelve states. The Television Games Network has announced that it has
formed exclusive relationships with a number of major United States horse tracks
(see "Strategic Relationships - TVG").
During January 2002, Magna announced the introduction of a new online
wagering platform, XpressBet,
14
which allows customers to place wagers online throughout North America, where
permitted by law (see "Strategic Relationships - Magna").
The Company is also aware of several other companies, such as Winticket,
that the Company considers domestic competitors which offers live video and
wagering services to U.S. residents. Winticket has formed non-exclusive
relationships with many of the same tracks that Youbet.com offers on the You Bet
Network, and allows wagering via the telephone and PC.
The Company believes that potential new competitors include large
interactive and online software companies, media companies and gaming companies,
which may increase their focus on the interactive wagering market. Competition
for the You Bet Network is influenced by the timing of competitive product
releases and the similarity of such products to those of Youbet.com, which may
result in significant price competition or reduced profit margins.
The Company also anticipates that significant overseas competition will
emerge. This may eventually result in additional competition as these overseas
competitors expand into the United States or as Youbet.com expands
internationally.
Government Regulation and Legislation
Gaming activities are subject to extensive statutory and regulatory control
by both state and federal authorities, and are likely to be significantly
affected by any changes in the political climate and economic and regulatory
policies. These changes may impact the operations of the Company in a materially
adverse way. To the extent that Youbet.com's facilities are used by customers to
place intrastate or interstate wagers or the Company receives commissions
derived from such wagers, various statutes and regulations could have a direct
and material effect on the business, and indirectly could have a material effect
on the public demand for the You Bet Network.
All 50 states currently have statutes or regulations restricting gaming
activities, and three states have no gaming at all. In most states it is illegal
for anyone either to accept or make a wager, with specific state-by-state
statutory exceptions. The Federal Interstate Wire Act contains provisions which
make it a crime for anyone in the business of gaming to use an interstate or
international telephone line to transmit information assisting in the placing of
wagers, unless the wagering is legal in the jurisdictions from which and into
which the transmission is made. Other federal laws impacting gaming activities
include The Interstate Horse Racing Act, the Interstate Wagering Paraphernalia
Act, the Travel Act and the Organized Crime Control Act. Certain legislation is
currently being considered in Congress and individual states in this regard. In
addition, the United States Justice Department is in the process of taking
action against selected companies that it deems to be operating without proper
licensing and regulatory approval.
The Company believes that its activities conform to those gaming laws and
regulations as currently applied which are applicable to its activities.
However, because there is very little clear statutory and case law authority,
this conclusion is not free from doubt. The Company faces the risk of either
civil or criminal proceedings brought by governmental or private litigants who
disagree with Youbet.com's interpretation of the applicable laws. Because there
is little guiding authority, there is a risk that the Company could lose such
lawsuits or actions and be subject to significant damages or civil or criminal
penalties.
In 1998, a bill sponsored by U.S. Senator Jon Kyl of Arizona and adopted by
a wide margin in the Senate (but ultimately not enacted) would have prohibited
on-line and Internet gaming with specified exceptions, including exceptions for
certain horse race wagering and certain "closed-loop" on-line systems. However,
the latter exceptions were narrow. Senator Kyl reintroduced a new version of his
on-line and Internet Gambling Prohibition Act of 1999. This 1999 Kyl bill (S.
692) contained more broadly drafted exceptions than the 1998 Kyl bill. If it
15
were enacted in the form in which it was approved by the Senate on November 11,
1999, the Company does not believe that the bill would have had a material
adverse effect on Youbet.com's business. Specifically, the bill provided for
federal prohibition on Internet gambling but permitted interstate wagering on
horse racing in a closed-loop, customer-based system. The bet or wager must be
(1) regulated by the state where the wager is received, (2) placed in a
closed-loop, customer based system, (3) initiated from a state allowing
pari-mutual wagers, (4) received in a state where such betting is lawful, (5) in
accordance with the Interstate Horse Racing Act, and (6) in accordance with
other regulations in the state where originated. On October 21, 1999,
Representative Goodlatte introduced a bill in the House of Representatives (H.R.
3125) with similar language as the Kyl bill. On April 6, 2000, the House
Judiciary Committee passed the Goodlatte bill. On July 18, 2000 the full House
of Representatives failed to pass a version of the Goodlatte bill under a
"suspension of rules" procedure. Although a majority of the members of the House
of Representatives voted in favor of the bill, it failed to receive the
two-thirds vote necessary to pass the bill using this procedure. The version of
the bill considered by the house would have allowed the states to regulate or
prohibit on-line pari-mutuel wagering. Other proposals similar to the Kyl bill
and the Goodlatte bill could emerge in Congress; many states have considered and
are considering interactive and Internet gaming legislations and regulations
which may not be worded so as to permit Youbet.com's business to continue in
such states; and anti-gaming conclusions and recommendations of other
governmental or quasi-governmental bodies could form the basis for new laws,
regulations, or enforcement policies that could have a material adverse effect
on Youbet.com's business.
In December 2000 the Interstate Horseracing Act was amended to make clear
that legal pari-mutuel wagers transmitted by an individual in one state via
telephone or another electronic media and accepted by an off-track betting
system in the same or another state are within the protections provided by the
Act where such wagers are lawful in each state.
As a result of an investigation that commenced in 1999, the Company reached
a civil resolution with the Los Angeles County District Attorney and the Los
Angeles Police Department. The Company entered into a stipulation with the
District Attorney resulting in the entry of a civil judgment and injunction in
which the Company admitted no wrongdoing and no factual or legal findings were
made. As part of the settlement, the Company agreed that until California law is
clarified, California customers would not be allowed to place wagers on the You
Bet Network. On February 21, 2002, Youbet.com received a license from the
California Horse Racing Board authorizing the Company to accept online and
telephone horse racing pari-muteul wagering from California residents.
From time to time the Company receives correspondence from various state
governmental agencies inquiring into the legality of the Company's activities.
During 2001, the Company recently received such an inquiry from the Attorney
General of the State of Michigan. The Company believes that its activities are
in full compliance with applicable law. Also, during October 2000, the Company
was notified by Magna that, at the request of the Attorney General of New
Jersey, Magna would no longer accept wagers from New Jersey residents.
International expansion of the You Bet Network may be subject to regulation
in those countries in which it is made available. The Company believes that it
can operate, or license technology, in numerous jurisdictions that allow
telephone and account wagering, such as South America, Australia, Asia and
Europe. However, the Company may not be able to obtain the approvals necessary
to market its services in such jurisdictions.
We May Face Interruption Of Production And Services Due To Increased Security
Measures In Response To Terrorism.
The Company's business depends on the free flow of products and services
through the channels of commerce. Recently, in response to terrorists'
activities and threats aimed at the United States, transportation, mail,
financial and other services have been slowed or stopped altogether. Further
delays or stoppages in transportation, mail, and financial or other services
could have a material adverse effect on our business, results
16
of operations and financial condition. Furthermore, we may experience an
increase in operating costs, such as costs for transportation, insurance and
security as a result of the activities and potential activities. We may also
experience delays in receiving payments from payers that have been affected by
the terrorist activities and potential activities. The U.S. economy in general
is being adversely affected by the terrorist activities and potential activities
and any economic downturn could adversely impact our results of operations,
impair our ability to raise capital or otherwise adversely affect our ability to
grow our business.
Employees
As of March 29, 2002, the Company had 76 employees. The Company has never
had a work stoppage, and no employees are represented by a union. Youbet.com
considers its relations with its employees to be good. The Company believes that
its future success will depend in part on its continued ability to attract,
integrate, retain and motivate highly qualified technical and managerial
personnel, and upon the continued service of its senior management and key
technical personnel.
ITEM 2. DESCRIPTION OF PROPERTY
Youbet.com's executive and operating offices occupy approximately 30,000
square feet and are located at 5901 De Soto Avenue, Los Angeles, California
under a lease that expires March 15, 2010. The base term of the lease is ten
years with an option to extend an additional five years. Base rent payments are
$60,078 per month with annual increases as specified in the lease agreement. In
conjunction with this lease agreement, the Company obtained a one-year
$1,029,000 letter of credit, which was secured by cash. The Company is obligated
for the next ten years to obtain a letter of credit equal to the original amount
of $1,029,000 less $107,867 per year for every year elapsed during the first
five years and less $97,867 per year for every year elapsed thereafter. As of
December 31, 2001, Youbet.com had obtained a letter of credit in the amount of
$920,805, which is classified as restricted cash in the Company's accompanying
audited consolidated financial statements. The Company did not renew the letter
of credit when it expired on March 28, 2002 and as such the landlord drew
$920,805 against the letter of credit and is holding the monies as a deposit.
Management intends to obtain a new letter of credit to replace the prior one.
Upon replacement of the letter of credit, the landlord will refund the
aforementioned deposit to the Company.
On July 1, 2001 the Company entered into a lease agreement for its Oregon
facility. The base term of the lease is three years. Base rent payments are
$2,103 per month with annual increases as specified in the lease agreement.
ITEM 3. LEGAL PROCEEDINGS
On June 4, 1999, a complaint was filed against the Company in the Court of
Chancery of the State of Delaware in and for New Castle County entitled George
Von Opel v. Youbet.com Inc. (C.A. No. 17200 NC). In the complaint Mr. Von Opel
alleges that the Company breached its contractual obligation pursuant to a
Private Placement Memorandum by failing to register the shares of common stock
underlying 400,000 warrants issued by the Company to an affiliate of Mr. Von
Opel. The complaint seeks specific performance of the alleged obligation to
register such shares and damages for alleged breach of contract in the amount of
$8.7 million. The Company has answered the complaint and intends to defend
itself vigorously in the action. On August 19, 1999, Mr. Von Opel moved for
summary judgment on the issue of liability, which on June 2, 2000, the court
denied. The Company is proceeding with discovery and has noticed the deposition
of Mr. Von Opel. As the litigation is at an initial stage, an outcome cannot be
predicted at this time.
The Company received correspondence from the Business Software Alliance
("BSA") alleging the Company had used or installed unauthorized copies of
software products on its computers. In their
17
correspondence, BSA proposed to settle their claims against the Company for a
settlement amount of $824,000, based on twice the alleged value of the
unauthorized software installed. Management believes that the BSA claims are
substantially overstated. Management cannot predict the outcome of this claim.
The Company was served with a lawsuit from a vendor claiming nonpayment of
services in the amount of approximately $300,000. The Company filed a counter
claim against the vendor. The Company has entered into negotiations with the
vendor, and management cannot predict the outcome of these negotiations
The Company is also a party to certain other claims, actions, and
proceedings incidental to its business, none of which is expected to have a
material adverse effect on the business, financial position or results of
operations of the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of Youbet.com's stockholders during the
fourth quarter of the fiscal year ended December 31, 2001.
PART II.
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Commencing June 18, 1999, the common stock of Youbet.com began trading on
the Nasdaq National Market under the symbol "UBET".
During February 2002, Youbet.com received notification from The Nasdaq
Stock Market that it is not in compliance with the National Market's listing
maintenance standard regarding minimum bid prices. This standard requires that
the Company's common stock maintain a minimum bid price of at least $1.00 per
share. In order to comply with this standard, the Company's common stock must
have a minimum bid price of at least $1.00 for 10 consecutive trading days prior
to May 15, 2002. If the Company is unable to demonstrate compliance with this
standard on or before May 15, 2002 the Nasdaq Stock Market will seek to delist
the company's common stock from the Nasdaq National Market. At that time the
company may appeal the delisting to the Listing Qualifications Panel of The
Nasdaq Stock Market.
If the Company is not in compliance by May 15, 2002, the Company may apply
to transfer its securities to the Nasdaq SmallCap Market. If the transfer
application is approved, the Company will have until August 13, 2002, to comply
with the minimum bid requirement. In addition, the Company may be eligible to
transfer back to the Nasdaq National Market, if it achieves compliance with the
minimum bid price and other continued listing requirements of the Nasdaq
National Market. There can be no assurance that the Company will be able to
maintain its listing on the Nasdaq National Market or on the Nasdaq SmallCap
Market.
High Low
----- -----
Year Ended December 31, 2001:
Three months ended-
March 31, 2001 ............................................. $1.06 $ .41
June 30, 2001 .............................................. 1.36 .38
September 30, 2001 ......................................... 1.69 .87
December 31, 2001 .......................................... 1.12 .45
Year Ended December 31, 2000:
Three months ended-
March 31, 2000 ............................................. $7.38 $3.75
18
June 30, 2000 .............................................. 4.69 1.69
September 30, 2000 ......................................... 4.62 1.44
December 31, 2000 .......................................... 2.00 .38
As of February 27, 2002, the Company had 333 stockholders of record,
excluding shares held in street name by brokerage firms and other nominees who
hold shares for multiple investors.
Holders of common stock are entitled to receive dividends if, as and when
declared by the Board of Directors out of funds legally available therefore,
subject to the dividend and liquidation rights of any preferred stock that may
be issued and outstanding. Presently no preferred outstanding. The Company has
never declared or paid any dividends on its common stock. The Company intends to
retain any future earnings for use in the operation and expansion of its
business. Consequently, the Company does not anticipate paying any cash
dividends on its common stock to its stockholders for the foreseeable future.
The Company's ability to declare or pay dividends in the future may be further
limited by the terms of any then-existing credit facilities which may contain
covenants restricting the payment of cash dividends.
Recent Sales of Unregistered Securities
The Company issued TVG an initial warrant (the "Initial TVG Warrant"), on
May 18, 2001 (the time the Warrant Agreement was executed) entitling TVG to
purchase an aggregate of up to 3,884,650 shares of Youbet.com common stock (the
"Initial Warrant Shares") at an exercise price of $0.001 per share expiring on
May 18, 2004. The Company recorded the fair value of the Initial TVG Warrant
($2,910,000), using the Black-Scholes method, as a deferred asset captioned
"Licensing Rights" and it is being amortized over three years.
The Company issued TVG the additional warrant on September 20, 2001 (the
time the Warrant Agreement was approved by the stockholders) entitling TVG to
purchase for an aggregate exercise price of $41,082,422 (subject to adjustment
as provided in the Additional TVG Warrant) a number of shares of common stock
which, when aggregated with the Initial Warrant Shares, is equal to 51% of the
sum of (i) the total number of shares of Youbet.com common stock outstanding on
the date the Additional TVG Warrant is exercised, plus (ii) the total number of
shares of common stock issuable upon exercise of the Additional TVG Warrant,
plus (iii) the total number of Initial Warrant Shares then issuable upon
exercise of the Initial TVG Warrant. The Company recorded the fair value of the
Additional TVG Warrant ($7,054,000), using the Black-Scholes method, as a
deferred asset captioned "Licensing Rights" and it is being amortized over three
years. The Company is obligated to issue additional warrants to TVG (in order to
maintain TVG's rights in acquiring 51% of the Company) upon the exercise of any
stock options or warrants, or if the Company issues any additional securities.
The number of warrants to be issued to TVG would be equivalent to the number of
stock options or warrants exercised or the number of additional securities
issued. In addition, the Additional TVG Warrant contains provisions for
adjusting the exercise price in the event that (i) Youbet.com makes certain
additional issuances of common stock or securities exercisable for or
convertible into common stock at a price less than the defined reference price
per share ($2.50 per share) on which the aggregate exercise price of the
Additional TVG Warrant is based, or (ii) engages in certain issuer tender offers
for the repurchase of shares of its common stock.
During 2001, the Company issued 17,100 shares of common stock on the
exercise of stock options with an exercise price of $0.69, generating proceeds
to the Company of $11,799.
On March 21, 2002, and in connection with the Company's Security Purchase
Agreement (see "Liquidity and Capital Resources"), the Company issued 750,000
warrants to eight investors to purchase up to 750,000 shares of the Company's
common stock at $0.50 per share. The warrants expire five years from the
issuance date and contain certain registration rights and cashless exercise
feature.
19
ITEM 6. SELECTED FINANCIAL DATA
Fiscal Years Ended December 31,
----------------------------------------------------------------------
1997 1998 1999 2000 2001
---------- ----------- ----------- ----------- -----------
(in thousands, except per share data)
Income Statement Data:
Revenue ............................ $ 0 $ 264 $ 3,774 $ 5,992 $ 6,324
Operating Loss ..................... (6,918) (11,096) (23,027) (16,210) (15,144)
Interest income (expense), net ..... (389) (261) (686) (435) 348
Other .............................. (12,100) (2,502) (771) (92) (3)
---------- ----------- ----------- ----------- -----------
Loss before income taxes and
extraordinary item .............. (19,407) (13,859) (24,484) (16,737) (14,798)
Income taxes ....................... (10) (2) (2) (1) (1)
---------- ----------- ----------- ----------- -----------
Loss before extraordinary item ..... (19,417) (13,862) (24,486) (16,737) (14,799)
Extraordinary item ................. 0 0 0 14,996 0
---------- ----------- ----------- ----------- -----------
Net loss ........................... $ (19,417) $ (13,862) $ (24,486) $ (1,741) $ (14,799)
========== =========== =========== =========== ===========
Per Share Data:
Loss before extraordinary item ..... $ (3.06) $ (1.32) $ (1.45) $ (0.86) $ (0.76)
Extraordinary item ................. 0 0 0 $ 0.77 0
---------- ----------- ----------- ----------- -----------
Net loss ........................... $ (3.06) $ (1.32) $ (1.45) $ (0.09) $ (0.76)
========== =========== =========== =========== ===========
Weighted average shares
outstanding ..................... 6,355,352 10,534,905 16,937,700 19,471,175 19,525,582
Balance Sheet Data:
Working capital .................... $ (2,739) $ 1,925 $ 56,848 $ 9,743 $ 806
Total assets ....................... 1,004 4,653 66,858 24,271 19,886
Long-term debt ..................... 0 60 39,822 0 0
Shareholders equity ................ (1,848) 2,793 20,915 20,660 16,251
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Forward Looking Statements
The following discussion and analysis of Youbet.com's financial condition
and results of operations should be read in conjunction with Youbet.com's
Consolidated Financial Statements and other financial information included
herein. This Management's Discussion and Analysis of Financial Condition and
Result of Operations and other sections of this report contain forward-looking
statements that are based on the current beliefs and expectations of the
Company's management, as well as assumptions made by, and information currently
available to, the Company's management. Such statements include those regarding
general economic and e-gaming industry trends. Because such statements involve
risks and uncertainties, actual actions and strategies and the timing and
expected results thereof may differ materially from those expressed or implied
by such forward-looking statements, and the Company's future results,
performance or achievements could differ materially from those expressed in, or
implied by, any such forward-looking statements. Future events and actual
results could differ materially from those set forth in or underlying the
forward-looking statements.
This Annual Report on Form 10-K for the year ended December 31, 2001
contains "forward-looking" statements within the meaning of the Federal
securities laws. These forward-looking statements involve a number of risks and
uncertainties, including the timely development and market acceptance of
products and technologies,
20
successful integration of acquisitions, the ability to secure additional sources
of financing, the ability to reduce operating expense and other factors
described in the Company's filing with the Securities and Exchange Commission.
The actual results that the Company achieves may differ materially from any
forward-looking statements due to such risks and uncertainties. The
forward-looking statements in this Annual Report on Form 10-K for the fiscal
year ended December 31, 2001 are subject to risks and uncertainties that could
cause actual results to differ materially from those results expressed in or
implied by the statements contained herein.
Going Concern
The accompanying consolidated financial statements for the year ended
December 31, 2001 have been prepared assuming that the Company will continue as
a going concern, which contemplates the realization of assets and the
satisfaction of liabilities in the normal course of business. The Company's
certified public accountants have included an explanatory paragraph in their
report which indicates there is substantial doubt about the Company's ability to
continue as a going concern (see Note 1 to the consolidated financial statements
for additional information). The Company has suffered significant recurring
operating losses and needs to raise additional funds to accomplish its
objectives. The Company believes that its previous efforts to reduce costs and
operate more efficiently, combined with the opening of the Oregon wagering hub
in September 2001, and the Company receipt of licensing from California in
February 2002, will improve cash flows. However, the Company will require
additional capital to fund operations and pay down its liabilities, as well as
to fund its expansion plans consistent with Youbet.com's anticipated changes in
operations and infrastructure. During March 2002, the Company successfully
raised $750,000 in debt financing. The Company is exploring various alternatives
to raise this additional capital, but there can be no assurances that the
Company will be successful in this regard. To the extent that the Company is
unable to secure the capital necessary to fund its future cash requirements on a
timely basis and/or under acceptable terms and conditions, the Company may not
have sufficient cash resources to maintain operations. In such event, the
Company may be required to consider a formal or informal restructuring or
reorganization. No adjustments have been made to the consolidated financial
statements that might result from the outcome of this uncertainty.
Overview
Youbet.com intends to establish itself as one of the leading global brand
name for online live event sports entertainment wagering and other forms of
online gaming. The Company has initially focused its efforts primarily on the
United States horse racing industry. Youbet.com believes that online
communication is an ideal medium for live event wagering. First, online
communication allows bettors instant access to vast amounts of historical
performance data used in assessing potential wagers. Second, online
communication offers the ability to sort and analyze such data in ways and at
speeds that are unachievable manually. Third, online communication technology
allows wagers to be placed from virtually any location within a jurisdiction
where wagering is legal, thus freeing bettors from traditional site-specific
wagering locations. In addition, the speed of electronic communication allows
wagers to be placed and acknowledged in seconds.
Youbet.com's initial product, the You Bet Network, is a PC-based system,
which utilizes the infrastructure of the Internet and a virtual private network
with Internet access to provide up-to-the minute detailed information on races
taking place at horse tracks nationwide. The Company also delivers a live
simulcast of most of these races directly to the customer's computer. In
addition, customers can use the You Bet Network to process wagers, using the
system's icon-driven menus to fill out an electronic betting ticket with a brief
series of mouse-clicks. The wager is then transmitted electronically to a
licensed account wagering entity. The customer's account is debited, the wager
is placed at the host horse track and an electronic confirmation is sent to the
customer through the You Bet Network. This entire process usually takes less
than three seconds. The subsequent adjustment to the customer's account for
winnings also usually takes less than three seconds after official winnings are
posted at the race track.
21
Youbet.com derives revenue from the You Bet Network in three ways. First,
it charged a monthly subscription fee of $5.95 per month until September 1, 2001
when the Company eliminated its $5.95 subscription fee and instead started
charging a transaction fee of $0.25 per bet placed. Beginning November 2001, the
transaction fee was waived. Second, it receives commissions derived from wagers
placed by Youbet.com customers. Third, it receives revenue from the sale of
handicapping information.
The Company had 75 employees as of December 31, 2001. Management also
implemented a cost reduction program throughout the Company in 2001 which
management believes will continue to reduce operating expenses in fiscal 2002 as
compared to fiscal 2001.
The Company also receives commission revenues from its subsidiary Youbet
Oregon, Inc. The Company records gross commission proceeds as revenues and
records the related costs to the tracks, TVG, taxes and fees as Sales and
Marketing expenses.
Youbet.com has incurred significant losses since inception, and as of
December 31, 2001 had an accumulated deficit of $78,853,000. Included in this
accumulated deficit is $24,713,000 in non-cash expenses related to the recording
of the fair value of warrants and stock options charged to operations, discount
on conversion of bridge loans, accounts payable and employee deferred salaries
into common stock and warrants, and the release of forfeiture provisions on
certain shares of common stock. The recognition of these non-cash expenses did
not affect working capital, net stockholders' equity (deficiency) or cash flows.
The Company does not expect that these types of costs will continue at the
previous levels.
In June 1997, the Company and Magna (formerly Ladbroke - see "Strategic
Relationships") entered into a Telecommunication Facilitation Agreement which
expires in January 2003. Under the agreement, Youbet.com provides Magna with an
interactive graphics interface to the You Bet Network whereby Youbet.com's
customers who have established accounts with Magna's Call-A-Bet System in
Pennsylvania are able to communicate interactively with Magna using their PCs to
transmit wagering information to Magna. The agreement provides for the Company
to receive a fee from Magna equal to fifty percent (50%) of the net commissions
to Magna derived from wagers placed by Youbet.com customers who use the
Call-A-Bet System either through the computer graphics interface provided by the
Company or more traditional telephone communication.
On August 2, 2001, the Company received a multi-jurisdictional license from
the State of Oregon horse racing authorities for the acceptance and placement of
wagers. The acceptance and placement of wagers will be processed through Youbet
Oregon, Inc., a wholly owned subsidiary of the Company. The Company commenced
operations in Oregon during the third quarter of 2001. All of Youbet Oregon,
Inc.'s operations are presented on consolidated basis. All intercompany
transactions have been eliminated.
On February 21, 2002, Youbet.com received a license from the California
Horse Racing Board authorizing the Company to accept online and telephone horse
racing pari-mutuel wagering from California residents. The acceptance and
placement of wagers will be processed through Youbet Oregon, Inc.
Critical Accounting Policies
Revenues
The Company receives commission revenues through its subsidiary Youbet
Oregon, Inc. The Company records gross commission proceeds as revenues and
records the related costs as Sales and Marketing expenses. In addition, the
Company recognizes net commissions earned on wagers as revenue as wagers are
placed at third party wagering facilities. The Company also recognizes revenue
from subscription fees as earned on a monthly
22
basis, transaction fees as incurred, and from the sale of handicapping
information as purchased by customers.
Licensing Rights
The company recorded deferred licensing rights based on the fair value of
the warrants issued, using the Black-Scholes option pricing model (see Note-3).
The licensing rights are being amortized over a three year period. At December
31, 2001, the accumulated amortization of the warrants totaled $1,326,144. We
periodically review the carrying value of these rights based upon our estimates
of future cash flows. While we believe that our estimates of future cash flows
are reasonable, different assumptions regarding such cash flows could materially
affect our evaluation.
Consolidated Results of Operations-Years Ended December 31, 2001, 2000, and
1999.
Revenues
Revenues for the year ended December 31, 2001 were $6,324,000, an increase
of $332,000 from $5,992,000 in 2000. Revenues increased in 2000 by 59% from
$3,774,000 during 1999. Commission revenue, which represents the Company's share
of the commission on the gross amount of each wager placed by its customers for
2001, 2000 and 1999 were $5,493,000, $4,934,000, and $3,239,000, respectively.
The increase in commission revenue in 2001 was partially offset by decreases in
subscription fees due to the Company's waiver of such fees since September 1,
2001.
Operating Expenses
Network Operations-Network operations costs consist primarily of salaries,
data center management and telecommunications costs. Network operations costs
decreased by $896,000 or 27% to $2,371,000 in 2001 from $3,267,000 in 2000, and
increased by $1,162,000 or 55% in 2000 from $2,105,000 in 1999 reflecting the
development and expansion of the You Bet Network during 2000.
Research and Development-Research and development costs consist primarily
of salaries. Research and development costs decreased by $1,252,000 or 33% to
$2,525,000 in 2001 from $3,777,000 in 2000, and increased by $1,404,000 or 59%
in 2000 from $2,373,000 in 1999. The decrease in 2001 resulted from lower costs
of developers and consultants. The increase in 2000 resulted mainly from
increased costs of developers and consultants, the continued development of the
You Bet Network, and the development of Youbet Express which was launched in
March 2001. The Company will continue to invest in the development of the You
Bet Network and other projects, which it believes are of value and critical to
achieving its strategic objectives.
Sales and Marketing-Sales and marketing expenses consist primarily of
marketing program expense, commissions, and salaries. Sales and marketing
expenses decreased by $1,302,000 or 21% to $4,925,000 in 2001 from $6,227,000 in
2000, and decreased by $8,235,000 or 57% in 2000 from $14,462,000 in 1999. The
decrease in sales and marketing reflects a reduction in marketing programs. The
decrease in 2001 was partially offset by increased costs relating to the Oregon
hub, track related commissions, and commissions paid to TVG. Marketing
activities during 1999 included the rollout of direct marketing, television and
radio advertising campaigns. In addition, Youbet.com incurred greater direct
mailing costs and media advertising during 1999. Sales and marketing expenses
include non-cash compensation of $256,000, $446,000 and $401,000 in 2001, 2000
and 1999, respectively, the result of issuance of warrants and options to
third-party consultants or the repricing of stock options to employees.
General and Administrative-General and administrative expenses consist
principally of salaries, facilities expenses, legal and accounting, investor
relations and the write-off of capitalized software. General and
23
administrative expenses increased by $529,000 or 7% to $8,317,000 in 2001 from
$7,788,000 in 2000, and increased by $407,000 or 6% in 2000 from $7,381,000 in
1999. The increase in 2001 resulted primarily from the write-off of $2,543,000
in capitalized software costs and severance costs which were partially offset by
lower legal and professional fees. The Company developed an on-line sports event
wagering platform and has been seeking a strategic partner. During the forth
quarter of 2001, management decided to focus the Company's resources on the
horse wagering market and its principal product, the Youbet Network.
Accordingly, management cannot determine the future economic value of the
capitalized software and has written-off previously capitalized costs of
$2,543,000 as of December 31, 2001. The increase in 2000 resulted primarily from
the write-off of expenditures relating to the Argentina agreement with Ladbroke
which was not consummated, higher compensation, legal and professional fees.
General and administrative expenses include non-cash compensation of $121,000,
$221,000 and $1,567,000 in 2001, 2000 and 1999, respectively, the result of
issuance of warrants and options to third-party consultants or the repricing of
stock options to employees.
Depreciation and Amortization-Depreciation and amortization increased by
$2,187,000 or 191% to $3,330,000 in 2001 from $1,143,000 in 2000, and increased
by $664,000 or 138% in 2000 from $480,000 in 1999. The increase in depreciation
and amortization was due to additional assets being placed in service relating
to the You Bet Network in, the amortization of leasehold improvement relating to
the Los Angeles facility in 2001, and the amortization of licensing rights in
2001.
Loss from Operations
As described above, Youbet.com has made a significant investment in
developing The You Bet Network to maintain its technological advantage and to
brand and market the service. The loss from operations for the year ended
December 31, 2001 decreased by $1,066,000 or 7% to $15,144,000 in 2001 from
$16,210,000 in 2000, and decreased by $6,817,000 or 30% in 2000 from $23,027,000
in 1999. The decrease in 2001 is mainly due to higher revenues and decrease in
sales and marketing, research and development, and network operations. These
decreases were partially offset by the write-off of $2,543,000 in capitalized
software costs. The decrease in 2000 is mainly due to higher revenues and
decrease in sales and marketing which was partially offset by increases in
network operations and research and development. The Company expects to incur
significant losses at least through 2002. However, management implemented a cost
reduction program throughout the Company in 2001 which management believes will
continue to reduce operating expenses in fiscal 2002 as compared to fiscal 2001
(see "Going Concern"above).
Other Income (Expense)
Non-Cash Equity Transactions-Non-cash equity transactions consist of the
recording of the discount on conversion of bridge loans, accounts payable and
employee deferred salaries into common stock and warrants, and release of
forfeiture provisions on common stock. Non-cash equity transactions decreased to
$0 in 2001 from $46,000 in 2000, and decreased by $445,000 or 91% in 2000 from
$491,000 in 1999. During the year ended December 31, 1999, these costs consisted
solely of $491,000 for financing costs.
Net Interest Income (Expense)-Net interest income in 2001 was $348,000 as
compared to net interest expense of $435,000 in 2000. Interest expense decreased
by $251,000 or 37% to $435,000 in 2000 from $686,000 in 1999. The decrease in
interest expense is the result of the repurchase of the 11% Senior Convertible
Discount Notes in 2000 which was partially offset by lower cash available due to
the utilization of cash to support the Company's operations.
Extraordinary Item
During the year ended December 31, 2000, Youbet.com repurchased all of its
$45,500,000 notes for
24
$26,409,000 which represented a discount to the accreted value of the notes at
the date of repurchase, therefore, a gain was realized on the difference between
the amount paid and the accreted value of the notes on the date of repurchase.
The amount of the gain, net of the proportionate write-off of unamortized
deferred financing costs of $1,237,000, was approximately $14,996,000.
Income Taxes
At December 31, 2001, Youbet.com has available federal and state net
operating loss carryforwards of $56,077,000 and $35,818,000, respectively, for
income tax purposes, which expire in varying amounts through 2021 for federal
and 2006 for state purposes. The net operating loss carryforwards generated a
deferred tax asset of approximately $22,232,000 as of December 31, 2001. The
deferred tax asset has not been recognized since management is unable to
determine it is more likely than not that it will be realized. Accordingly, a
100% valuation allowance has been provided. Under the Federal Tax Law Internal
Revenue Code Section 382, the exercise of warrants issued in 2001 may create
certain significant changes in ownership that may restrict the future
utilization of these tax loss carryforwards.
Selected Unaudited Quarterly Results of Operations
In the opinion of management, the accompanying unaudited quarterly
financial statements presented below include all adjustments (consisting of
normal recurring accruals) which management considers necessary to present
fairly the results of its operations for the periods presented below in
conformity with generally accepted accounting principles. These quarterly
financial statements have been prepared consistently with the accounting
policies described in the Company's Annual Report for Form 10-K for the year
ended December 31, 2001. The results of operations for the periods presented
below are not necessarily indicative of the results of operations to be expected
in the future.
Fiscal Quarters Ended,
-------------------------------------------------------------------------------
2000 2001
-------------------------------------- --------------------------------------
Mar. 31 June 30 Sept. 30 Dec. 31 Mar. 31 June 30 Sept. 30 Dec. 31
------- ------- -------- ------- ------- ------- -------- -------
(in thousands)
Revenues............................... $ 1,705 $ 1,504 $ 1,387 $ 1,396 $ 1,648 $ 1,717 $ 1,130 $ 1,829
Operating expenses:
Network operations.................. 737 808 892 830 714 665 633 359
Research and Development............ 620 732 949 1,476 714 709 710 393
Sales and marketing................. 1,634 1,696 1,260 1,637 1,064 1,558 1,112 1,191
General and administrative.......... 1,564 1,506 1,852 2,866 1,186 1,505 1,640 3,986
Depreciation and amortization....... 209 265 301 368 493 624 816 1,396
------- ------- ------- ------- ------- ------- ------- -------
Total operating expenses............... 4,764 5,007 5,254 7,177 4,171 5,061 4,911 7,325
------- ------- ------- ------- ------- ------- ------- -------
Loss from operations................... (3,059) (3,503) (3,867) (5,781) (2,523) (3,344) (3,781) (5,496)
Net interest income (expense).......... (233) (53) 34 (183) 172 98 53 24
Other income (expense)................. (126) 219 (145) (40) (2) -- -- --
------- ------- ------- ------- ------- ------- ------- -------
Loss before extraordinary item......... (3,418) (3,337) (3,978) (6,004) (2,353) (3,246) (3,728) (5,472)
Extraordinary item..................... 430 6,858 -- 7,708 -- -- -- --
------- ------- ------- ------- ------- ------- ------- -------
Net income (loss)...................... $(2,988) $ 3,521 $(3,978) $ 1,704 $(2,353) $(3,246) $(3,728) $(5,472)
======= ======= ======= ======= ======= ======= ======= =======
Loss per common share-basic and
diluted before extraordinary item... $ (0.18) $ (0.17) $ (0.20) $ (0.31) $ (0.12) $ (0.17) $ (0.19) $ (0.28)
Extraordinary item..................... 0.03 0.35 -- 0.40 -- -- -- --
------- ------- ------- ------- ------- ------- ------- -------
Net income (loss) per common
Share-basic and diluted............. $ (0.15) $ 0.18 $ (0.20) $ 0.09 $ (0.12) $ (0.17) $ (0.19) $ (0.28)
======= ======= ======= ======= ======= ======= ======= =======
During the quarter ended December 31, 2001, management decided to focus the
Company's resources on the horse wagering market and its principal product, the
Youbet Network. Accordingly, management cannot
25
determine the future economic value of the capitalized software and has
written-off previously capitalized costs of $2,543,000 as of December 31, 2001.
During the quarter ended December 31, 2000, the Company wrote-off capitalized
expenditures relating to the Argentina agreement with Ladbroke which was not
consummated. During the quarters ended December 31, 2000, June 30, 2000, and
March 31, 2000, the Company's quarterly results presented above include
extraordinary gain from the Company's re-purchase of its 11% Senior Convertible
Discount Notes.
Liquidity and Capital Resources
The Company has financed its operations primarily through the sale of its
securities and convertible debt as Youbet.com has generated only negative cash
flow from operations since inception. At December 31, 2001 Youbet.com had
$3,561,000 in cash and cash equivalents. Youbet.com's principal commitments
consist of obligations under operating leases.
At December 31, 2001, the Company had net working capital of $806,000
compared to net working capital of $9,743,000 at December 31, 2000. The Company
incurred net losses from operations for the years ended December 31, 2001, 2000
and 1999, and needs to raise additional funds to accomplish its objectives. The
Company's independent certified public accountants have included an explanatory
paragraph in their report, which indicates there is substantial doubt about the
Company's ability to continue as a going concern. (See Going Concern and Note 1
to the Consolidated Financial Statements for additional information). The
Company is attempting to raise additional capital to meet future working capital
requirements, but may not be able to do so. Should the Company not be able to
raise additional capital, it may have to severely curtail operations.
The Company entered into a Securities Purchase Agreement on March 21, 2002,
whereby the Company issued a series of one-year secured notes (the "Notes") in
the aggregate principal amount of $750,000 at an interest rate of 12% to the
Company's Chairman of the Board and Chief Executive Officer and seven other
investors. Both principal and all interest accrued on these Notes will be
payable at the earlier of a) one-year from the date of issuance, or b) upon the
Company's completion of funding in an amount greater than two million dollars
($2,000,000), excluding the Notes, in any ninety-day period prior to the
maturity of the Note. In connection with issuance of the Notes, the Company
issued five-year warrants to purchase 750,000 shares of the Company's common
stock at an exercise price of $0.50 per share.
Net cash used in operating activities was $8,027,000, $14,389,000, and
$14,077,000 for the years ended December 31, 2001, 2000, and 1999, respectively.
The principal use of cash for all periods was to fund losses from operations.
The decreases in the net cash used in operating activities in 2001 reflected a
general decrease in all levels of expenses as Youbet.com completed the majority
of the developments of the You Bet Network and Youbet Express, the web based
application, mainly during 2000 and prior.
Net cash used in investing activities was $510,000, $9,710,000, and
$1,978,000, for the years ended December 31, 2001, 2000, and 1999, respectively,
mainly for purchases of property and equipment, and for leasehold improvements
for its Los Angeles facility in 2000 and 2001. During 2000 the Company incurred
$2,543,000 in capitalized software costs relating to the Company's sports'
platform, which was subsequently written off during the quarter ended December
31, 2001.
Net cash provided by financing activities for the year ended December 31,
2001 was $3,000 as compared to cash used in financing activities of $26,081,000
in 2000 and to net cash provided by financing activities of $76,789,000 in 1999.
Net cash provided by financing activities in 2001 was mainly due to the exercise
of stock options. Net cash used in financing activities in 2000 is due to
Youbet.com's repurchase of its notes during the year ended December 31, 2000.
Net cash provided by financing activities in 1999 consisted principally of
proceeds from the June, 1999 secondary offering, the 11% Senior Convertible
notes, and the exercise of stock options and
26
warrants. During 1999, Youbet.com received net proceeds from the issuance of 11%
Senior Convertible notes of $36,729,000, net proceeds from the June secondary
offering of $38,332,000, proceeds from exercises of options and warrants of
$3,641,000 and $2,100,000 from a stock subscription receivable.
Recent Accounting Pronouncements:
In June 2001, the Financial Accounting Standards Board finalized FASB
Statements No. 141, Business Combinations (SFAS 141), and No. 142, Goodwill and
Other Intangible Assets (SFAS 142). SFAS 141 requires the use of the purchase
method of accounting and prohibits the use of the pooling-of-interests method of
accounting for business combinations initiated after June 30, 2001. SFAS 141
also requires that the Company recognize acquired intangible assets apart from
goodwill if the acquired intangible assets meet certain criteria. SFAS 141
applies to all business combinations initiated after June 30, 2001 and for
purchase business combinations completed on or after July 1, 2001. It also
requires, upon adoption of SFAS 142, that the Company reclassify the carrying
amounts of intangible assets and goodwill based on the criteria in SFAS 141.
SFAS 142 requires, among other things, that companies no longer amortize
goodwill, but instead test goodwill for impairment at least annually. In
addition, SFAS 142 requires that the Company identify reporting units for the
purposes of assessing potential future impairments of goodwill, reassess the
useful lives of other existing recognized intangible assets, and cease
amortization of intangible assets with an indefinite useful life. An intangible
asset with an indefinite useful life should be tested for impairment in
accordance with the guidance in SFAS 142. SFAS 142 is required to be applied in
fiscal years beginning after December 15, 2001 to all goodwill and other
intangible assets recognized at that date, regardless of when those assets were
initially recognized. SFAS 142 requires the Company to complete a transitional
goodwill impairment test six months from the date of adoption. The Company is
also required to reassess the useful lives of other intangible assets within the
first interim quarter after adoption of SFAS 142. The Company is assessing but
has not yet determined how the adoption of SFAS 141 and SFAS 142 will impact its
financial position and results of operations.
In August 2001, the FASB issued SFAS No. 143, Accounting for Asset
Retirement Obligations. SFAS No. 143 requires the fair value of a liability for
an asset retirement obligation to be recognized in the period in which it is
incurred if a reasonable estimate of fair value can be made. The associated
asset retirement costs are capitalized as part of the carrying amount of the
long-lived asset. SFAS No. 143 is effective for fiscal years beginning after
June 15, 2002. The Company believes the adoption of this Statement will have no
material impact on its financial statements.
In October 2001, the FASB issued SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets. SFASB 144 requires that those
long-lived assets be measured at the lower of carrying amount or fair value less
cost to sell, whether reported in continuing operations or in discontinued
operations. Therefore, discontinued operations will no longer be measured at net
realizable value or include amounts for operating losses that have not yet
occurred. SFASB 144 is effective for financial statements issued for fiscal
years beginning after December 15, 2001 and, generally, are to be applied
prospectively. The Company believes the adoption of this Statement will have no
material impact on its financial statements.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The majority of the Company's cash equivalents are bank accounts and money
markets, and the Company does not believe it has significant market risk
exposure with regard to its investments.
27
ITEM 8. FINANCIAL STATEMENTS
The consolidated financial statements are listed at the "Index to Financial
Statements" found at Page F-1 below.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III.
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT
The Board of Directors is comprised of only one class. All of the directors
will serve until the next annual meeting of stockholders and until their
successors are elected and qualified, or until their earlier death, retirement,
resignation or removal. There are no family relationships among directors and
executive officers.
Executive Officers and Directors
The following tables set forth certain information regarding the directors
and executive officers of Youbet.com:
Name Age Position
- ---- --- -------------------------------------------------
David M. Marshall .............................. 39 Chairman of the Board and Chief Executive Officer
Charles F. Champion ............................ 48 Director, President and Chief Operating Officer
Phillip C. Hermann ............................. 52 Chief Financial Officer.
Lawrence R. Lucas .............................. 47 Director
Biographies of Directors and Executive Officers:
DAVID M. MARSHALL
Mr. Marshall has served as Chairman of the Board and Chief Executive
Officer of Youbet.com since March 21, 2002. Mr. Marshall has served as Vice
Chairman of the Board of Youbet.com from June 1998 through December 1999, and as
President of Youbet.com from June 1998 through January 1999. Subsequent to
resigning as Vice Chairman of the Board during December 1999 and through March
2002, Mr. Marshall has been a consultant to a number of companies including
Youbet.com. Mr. Marshall has been a senior executive and director of Youbet.com
or its predecessors since its founding in 1987 and served as Chairman of the
Board and Chief Executive Officer of Youbet.com or its predecessors from 1989 to
June 1998. Mr. Marshall was also the co-founder of Middle Ware Telecom
Corporation and PC-Totes, Inc. Both entities were merged into Youbet.com.
CHARLES F. CHAMPION
Mr. Champion has served as Director, President and Chief Operating Officer
of Youbet.com since March 21, 2002. From January 1999 to June 2001 Mr. Champion
occupied the position of President and
28
Publisher of Access Magazine. From 1995 through 1999 Mr. Champion served as
Senior Vice President of Circulation and Marketing for Philadelphia Newspapers
Inc., a Knight Ridder Company, which includes The Philadelphia Inquirer and
Daily News. From October 1990 to June 1995 Mr. Champion held various executive
positions including Executive Vice-President of Sun-Times Company in Chicago and
served as the President of the Chicago Sun-Times Charity Trust. Mr. Champion
held a number of management and executive positions from 1973 to 1990 with both
the Daily News of Los Angeles and Freedom Newspapers the publisher of the Orange
County Register.
PHILLIP C. HERMANN
Mr. Hermann has served as a director since November 8, 2001, and as
Executive Vice President and Chief Financial Officer of Youbet.com since May
1998. Mr. Hermann also served as Co-Chief Executive Officer from November 8,
2001 through March 21, 2002. From August 1997 to April 1998, Mr. Hermann was
Chief Operating Officer and Chief Financial Officer of Cloud 9 Interactive, a
diversified entertainment company. Previously, from 1992 to August 1997, Mr.
Hermann was Executive Vice President and Chief Financial Officer of Strawberry
Industries, a consumer products company. From 1982 to 1986 Mr. Hermann was Vice
President and Chief Financial Officer of the Walt Disney Telecommunications
Group. On April 11, 2002, Mr. Hermann resigned as an Executive Officer and as a
Director.
LAWRENCE R. LUCAS
Mr. Lucas joined the Board of Directors on January 11, 2002. Mr. Lucas is a
seasoned executive with an extensive and diverse background in the fields of
gaming and public safety as well as political affairs and social services.
Presently, Mr. Lucas serves as president of Conor Communications Company, the
nation's largest provider of emergency services support to the cellular and
wireless communications industry. Mr. Lucas also counsels development stage
companies in the telecommunications, Internet commerce and wireless industries
on strategic planning, financing and governmental affairs issues. Mr. Lucas is
an investor in Ark Capital Management, a Chicago-based venture capital fund
active in new venture and capital development primarily focused on African
American enterprises. Mr. Lucas played an integral role in obtaining gaming
licenses and building casinos for some of the world's most successful gaming
enterprises including one of the first U.S. casino riverboats and the most
profitable casino in Europe. Additionally, Mr. Lucas played a pivotal role in
Youbet's legislative efforts including the amendment to the Interstate
Horseracing Act that became law in December 2000.
Section 16(a) Beneficial Ownership Reporting Compliance
Section 16(a) of the Securities Exchange Act of 1934, as amended (the
"Exchange Act"), requires the Company's officers and directors, and persons who
own more than ten percent of a registered class of the Company's equity
securities, to file reports of ownership and changes in ownership (Forms 3,4 and
5) of Common Stock with the Securities and Exchange Commission and the National
Association of Securities Dealers. Officers, directors and greater-than-ten
percent holders are required to furnish the Company with copies of all such
forms, which they file.
To the Company's knowledge, based solely on the Company's review of copies
of such reports or written representations from certain reporting persons that
no Forms 5 were required to be filed by those persons, the Company believes that
for fiscal 2001 all filing requirements applicable to its officers, directors,
greater-than-ten-percent beneficial owners and other persons subject to Section
16(a) of the Exchange Act were complied with.
29
ITEM 11. EXECUTIVE COMPENSATION
The following table sets forth all compensation paid by Youbet.com for the
years ended December 31, 2001, 2000 and 1999 to the Chief Executive Officer and
other executive officers of Youbet.com whose total salary and bonus for 2001
exceeded $100,000.
Long Term
Annual Compensation Compensation
------------------------------------------------- Awards
Securities
Other Underlying
Annual Options
Name and Principal Position Year Salary Bonus Compensation SARs
- --------------------------- ---- ---------- -------- ------------ ------------
Robert M. Fell................................. 2001 $1,286,047(2) $ -- $187,895(3) --
Chairman of the Board (1) 2000 234,436 -- 80,626(4) 300,000
1999 217,033 420,000(5) * --
Ron W. Luniewski............................... 2001 162,125 80,000 * 206,300
Co-Chief Executive Officer and Chief 2000 168,899 -- * 245,100(6)
Operating Officer (9) 1999 153,125 12,500 281,600(7) 100,000
Phillip C. Hermann............................. 2001 162,897 80,000 89,812(8) 206,300
Co-Chief Executive Officer and Chief 2000 162,947 -- 87,832(8) 230,100(10)
Financial Officer (11) 1999 153,125 12,500 87,247(8) 50,000
- ----------
* Amounts in aggregate do not exceed the lesser of $50,000 or 10% of the
total annual salary and bonus reported for the named executive.
(1) Represents compensation paid to Fell & Company, Inc. for the services of
Robert M. Fell (see "Employment and Service Agreements" below.) Mr. Fell
served as Chief Executive Officer until November 8, 2001, when he resigned.
Mr. Fell resigned as a Director on March 21, 2002.
(2) Includes a lump sum payment of two times the base fee per the Fell Service
Agreement due to Mr. Fell upon his termination of the service agreement in
November 2001, and includes $113,745 paid in 2001 representing retroactive
increase in pay relating to services in 2000.
(3) Represents $177,279 in disability and life insurance reimbursements, and
$10,616 in auto expenses.
(4) Represents $69,457 in disability and life insurance reimbursements, and
$11,169 in auto expenses.
(5) Represents a bonus which was applied against amounts owned to the Company
by Mr. Fell. (See "Certain Relationships and Related Transactions" below.)
(6) Represents 245,100 stock options repriced from various prices to $0.69 in
December 2000.
(7) Represents automobile allowance of $6,600 and income of $275,000 resulting
from the exercise of options.
(8) Represents automobile allowance of $9,000 in 2001, $7,020 in 2000 and
$6,435 in 1999 and income of $80,812 for all years shown relating to a
stock option awarded in 1998.
(9) Mr. Luniewski was appointed Chief Operating Officer in November 2000, and
Director and Co-Chief Executive Officer in November 2001 through March 14,
2002, when he resigned as a Director and Co-Chief Executive Officer. Mr.
Luniewski served as a non-officer employee until April 5, 2002.
(10) Represents 50,000 stock options issued in March 2000, and 180,100 stock
options (including the 50,000
30
stock options issued to Mr. Hermann in March 2000) repriced from various
prices to $0.69 in December 2000.
(11) Mr. Hermann was appointed Director and Co-Chief Executive Officer in
November 2001. Mr. Hermann relinquished his Co-Chief Executive Officer
position on March 21, 2002 and became President and Chief Operating Officer
through March 28, 2002. Mr. Hermann has been the Company's Chief Financial
Officer and Executive Vice President since May 1998. On April 11, 2002, Mr.
Hermann resigned as an Executive Officer and as a Director.
Board of Directors
Non-employee directors receive no annual retainer or meeting fees, but are
reimbursed for travel costs and other out-of-pocket expenses incurred in
attending board of directors and committee meetings. As additional compensation
for the non-employee members of the board of directors, Youbet.com issued the
following stock options:
. In April 2001, Youbet.com granted to Caesar Kimmel, Chris McCarron, and
William Roedy options to acquire 40,000 shares of common stock each, pursuant to
the 1998 Stock Plan at an exercise price of $0.44. The shares vest monthly over
one year and are exercisable for a period of ten years.
Employment and Services Agreements
Effective March 11, 2002 Charles Champion and Youbet.com entered into an
employment agreement pursuant to which Mr. Champion serves as a Director,
President and Chief Operating Officer of Youbet.com through March 2005. This
employment agreement provides for Mr. Champion to receive an annual salary of
$200,000 during the first year and subject to annual increases. Mr. Champion
received $25,000 as a signing bonus and is also eligible to receive an annual
bonus during the first year to be determined by the Board in its discretion and
based on attaining certain profitability goals thereafter. Mr. Champion was
issued 400,000 in stock options at $0.50 per share.
The Company entered into a Services Agreement with Fell & Company, Inc.,
which expired on June 30, 2001. This agreement called for Robert Fell to be
compensated at $237,000 per annum. In May 2001, subject to the execution of the
agreements with TVG referred to under "Issuance of Warrants to TVG," the Fell
Services Agreement and related option and warrant agreements were amended as
follows: (a) the base fee was increased by $150,000 retroactive to March 8,
2000; (b) the exercise price for 750,000 of the Fell Warrants was reduced from
$2.50 per share to $0.45 per share, the exercise price of the remaining Fell
Warrants was reduced to $0.97 per share, based upon the price of Youbet.com's
common stock after the announcement of the TVG transaction, and the exercise
price of the 300,000 stock options held by Mr. Fell was reduced from $4.88 per
share to $0.97 per share; (c) for a 90-day period after the Company's
stockholders meeting on September 20, 2001, Fell & Company, Inc. could terminate
the Fell Services Agreement; and (d) if the Fell Services Agreement was so
terminated, (i) Fell & Company, Inc. would receive a lump sum payment of two
times the base fee (increased as provided above), (ii) Youbet.com must continue
to provide the nonsalary benefits provided for in the Fell Services Agreement
for two years, including premium payments on a life insurance policy, (iii) the
150,000 unvested stock options held by Mr. Fell would vest, (iv) if Mr. Fell is
not then serving as a director, he would render consulting services (up to ten
hours per month) through May 9, 2003 without any additional compensation and (v)
if so requested by the Board, Mr. Fell would serve as Chairman of the Board
through May 9, 2002. In June 2001 the Board approved further amendments to the
Fell Services Agreement extending the period of time during which Mr. Fell could
terminate the Fell Services Agreement to one year after the Company's
stockholders meeting on September 20, 2001. Also, in June 2001, in recognition
of Youbet.com's strategic initiatives with respect to the agreements with TVG
and the opening of Youbet.com's Oregon wagering facility, Mr. Fell agreed to
increase the
31
exercise price of the Fell Warrants and the 300,000 stock options held by Mr.
Fell to $1.09 per share, the closing trading price of Youbet.com's common stock
on June 29, 2001.
Effective November 8, 2001, Mr. Fell resigned as the Company's Chief
Executive Officer. In accordance with the Fell Services Agreement described
above, Mr. Fell received a lump sum payment of two times the base fee, net of
amounts due to Youbet.com (consisting principally of the $140,000 note
receivable plus accrued interest). Mr. Fell continued to render services to
Youbet.com receiving compensation under the Fell Services Agreement through
February 8, 2002. Pursuant to Mr. Fell's resignation agreement on March 21,
2002, the Company agreed to pay Fell & Company, Inc., $55,000 (which included
$38,000 in accrued vacation) in lieu of any future benefits (including whole
life insurance, health/dental/vision/disability insurance, auto allowance and
related auto expenses) that Mr. Fell would have been entitled to under the
amended Services Agreement. Mr. Fell continued as Chairman of the Board of
Directors through March 21, 2002 when he resigned as Chairman of the Board.
In March 2001 Ron Luniewski and Youbet.com entered into an employment
agreement pursuant to which Mr. Luniewski would serve as Executive Vice
President and Chief Operating Officer of Youbet.com through April 2002. This
employment agreement provided for Mr. Luniewski to receive an annual salary of
$157,500, however, effective May 1, 2001, the salary was increased to $175,000.
Mr. Luniewski was also eligible to receive an annual bonus determined by the
Board in its discretion. This employment agreement replaced an employment
agreement entered into between Mr. Luniewski and Youbet.com in February 2000,
expiring on April 2001 which had substantially the same terms. Mr. Luniewski
resigned as Co-Chief Executive Officer and Director effective March 14, 2002.
Mr. Luniewski served as a non-officer employee until April 5, 2002. On April 5,
2002, the Company entered into a Mutual Release agreement ("Release") with Ron
Luniewski whereby the Company agreed to extend the term of the employee stock
options granted to Mr. Luniewski and which were vested as of the date of the
Release until April 8, 2005. Under the terms of the Release, Mr. Luniewski may
only sell or transfer up to half of the shares acquired upon the exercise of
these stock options during the next twelve-month period commencing as of the
date of the Release. The remaining half of Mr. Luniewski's shares can be sold
after one year.
Effective November 8, 2001 Phillip Hermann and Youbet.com entered into an
employment agreement pursuant to which Mr. Hermann would serve as Co-Chief
Executive Officer and Chief Financial Officer of Youbet.com through April 2003.
This employment agreement provided for Mr. Hermann to receive an annual salary
of $175,000. Mr. Hermann was also eligible to receive an annual bonus determined
by the Board in its discretion. Mr. Hermann was issued 100,000 in stock options
at $1.00, the fair market value at the date of the grant. This employment
agreement replaced an employment agreement entered into between Mr. Hermann and
Youbet.com in March 2001 expiring in April 2002 which had substantially the same
terms. On March 21, 2002, Mr. Hermann and Youbet.com entered into an employment
agreement pursuant to which Mr. Hermann serves as President, Chief Operating
Officer, and Chief Financial Officer of Youbet.com through April 2004. This
employment agreement provides for Mr. Hermann to receive an annual salary of
$225,000. Mr. Hermann is also eligible to receive an annual bonus determined by
the Board in its discretion. Mr. Hermann was issued 200,000 in stock options at
$0.64, the fair market value at the date of the grant. In addition, on October
27, 2001, Mr. Hermann and Youbet.com entered into a one year severance agreement
pursuant to which upon a change of control as defined in the severance
agreement, and at Mr. Hermann's election, Mr. Hermann can terminate his
employment agreement and receive a lump sum payment equal to one year salary
plus benefits. In addition, if Mr. Hermann elects to terminate his employment
agreement, all options held by Mr. Hermann become vested immediately and Mr.
Hermann will have three years to exercise his options from the date of
termination. On March 28, 2002, Mr. Hermann resigned as President and Chief
Operations Officer. On April 11, 2002, the Company entered into a Separation
Agreement (the "Agreement") with Mr. Hermann whereby, effective immediately, Mr.
Hermann resigned as an executive officer of the Company and as a member of the
Board of Directors. Mr. Hermann will continue to serve as Chief Financial
Officer for up to 90 days or until he is replaced. Under the terms of the
32
Agreement, Mr. Hermann will provide services to Youbet.com until December 31,
2003. For making his services available, Mr. Hermann will receive his annual
salary and other benefits. As part of the Agreement, Mr. Hermann's stock options
became fully vested and as consideration, Mr. Hermann agreed to certain
restrictions on the sale of shares underlying his stock options and to
relinquish 130,000 of his stock options.
In June 1998 Russell Fine and Youbet.com entered into an employment
agreement pursuant to which Mr. Fine served as Executive Vice President and
Chief Technology Officer. Mr. Fine received a base salary of $150,000 in 1999,
and other miscellaneous benefits. Effective December 31, 1999 Mr. Fine's base
salary was increased to $165,000. Mr. Fine was also entitled to receive an
annual bonus determined by the Board of Directors. The employment agreement
permitted Mr. Fine to terminate the agreement after December 31, 1999 and
receive the compensation and benefits provided under the agreement for the
lesser of two years or the remaining portion of the term, but at least one year.
Mr. Fine's agreement was terminated on May 3, 2000 and he resigned as a member
of the Board of Directors and as Executive Vice President and Chief Technology
Officer. Effective May 3, 2000 Mr. Fine and Youbet.com entered into a consulting
agreement pursuant to which Mr. Fine will provide consulting services to
Youbet.com for a period of three years. For making his services available, Mr.
Fine receives a base fee of $182,500 per year and other miscellaneous benefits.
1995 Stock Option Plans
In November 1995, Youbet.com's board of directors approved the 1995 Stock
Option Plan and the 1995 Stock Option Plan for Non-Employee Directors
(collectively, the "1995 Stock Plans"). The 1995 Stock Plans provide for the
granting of awards of incentive stock options, non-qualified stock options, and
stock appreciation rights. The aggregate number of shares of common stock
available for issuance under the 1995 Stock Plans as amended were 15% of the
total number of shares of common stock outstanding. The 1995 Stock Plans are
closed and no additional options will be granted under these Plans.
1998 Stock Option Plan
In February 1998, Youbet.com's board of directors approved the 1998 Stock
Option Plan and reserved 1,000,000 shares of common stock for options granted
thereunder. Effective September 23, 1999, shareholders approved an increase of
1,500,000 shares for a total of 2,500,000 shares. Effective September 21, 2000,
shareholders approved an additional increase of 1,000,000 shares for a total of
3,500,000 shares. The 1998 Stock Plan provides for the granting of incentive
stock options within the meaning of Section 422A of the Internal Revenue Code of
1986 and non-qualified stock options. Non-qualified stock options may be granted
to employees, directors, officers and consultants of Youbet.com, while incentive
stock options may be granted only to employees and its affiliates. The 1998
Stock Plan is currently administered by the board of directors, which determines
the terms and conditions of the options granted under the 1998 Stock Plan,
including the exercise price, number of shares subject to options and the
vesting and exercisability of options granted under the 1998 Plan. The exercise
price of the incentive stock options granted under the 1998 Stock Plan must be
at least equal to the fair market value of the common stock of Youbet.com on the
date of grant, and must be 110% of fair market value when granted to a 10% or
more stockholder. The exercise price of non-qualified stock options will be
determined by the board of directors. The term of all options granted under the
1998 Stock Plan may not exceed ten years, except the term of incentive options
granted to a 10% or more stockholder may not exceed five years. The board of
directors may suspend or terminate and may amend the 1998 Plan from time to
time, except that certain types of amendments will require approval of the
stockholders. Upon termination of a participant's employment or consulting
relationship with Youbet.com, all unvested options terminate and are no longer
exercisable unless extended by the Board of Directors. Vested qualified options
remain exercisable for a period not to exceed three months following the
termination date, unless the participant was terminated for cause or voluntarily
resigned in which all vested options will also terminate. The 1998 Plan also
permits Youbet.com to assist a participant to exercise options granted under the
1998 Plan, including paying any tax obligations arising therefrom by making a
33
loan to the participant, permitting the participant to pay the exercise price of
the stock option over a term of years or guaranteeing a loan.
In a registration statement filed with the SEC effective September 29,
1999, the underlying shares of common stock the 1995 and 1998 Stock Option Plans
were registered.
Option Grants in 2001
The following table sets forth certain information regarding option grants
to each of Youbet.com's named executive officers during the year ended December
31, 2001.
Rates of Stock Price
Appreciation
Individual Grants (1) for Option Term
------------------------------------------- -------------------------
Number of Percent of
Securities Total
Underlying Options
Options Granted to Exercise
Name Granted (1) Employees Price Expiration 5% 10%
---- in 2001 Per Share Date
----------- ---------- --------- ---------- -------------------
Robert M. Fell (2)............................ 300,000 20.09% $1.09 3/14/2010 $205,649 $521,154
Phillip C. Hermann............................ 106,300 7.12% $0.97 5/21/2011 64,846 164,332
Phillip C. Hermann............................ 100,000 6.70% $1.00 11/18/11 62,889 159,374
Ron W. Luniewski.............................. 106,300 7.12% $0.97 5/21/2011 64,846 164,332
Ron W. Luniewski.............................. 100,000 6.70% $1.00 11/18/11 62,889 159,374
- ----------
(1) Options were granted under the 1998 Stock Option Plan and are exercisable
for common stock.
(2) Represents options issued in 2000 repriced to $1.09 on June 29, 2001, the
current market price on the date of the repricing.
Option Exercises and Fiscal Year-End Values
The following table sets forth the number of shares acquired upon the
exercise of stock options during the year ended December 31, 2001 and the number
of shares covered by both exercisable and unexercisable stock options held by
each of the named executive officers at December 31, 2001.
Number of Securities Value of
Underlying Unexercised Unexercised In-the-Money
Options at Year-End (1) Options at Year-End (2)
--------------------------- ---------------------------
Shares
Acquired Value
Name on Exercise Realized Exercisable Unexercisable Exercisable Unexercisable
- ---- ----------- -------- ----------- ------------- ----------- -------------
Robert M. Fell............... -- $-- 300,100 -- $-- $--
Ron W. Luniewski............. -- -- 273,250 178,150 -- --
Phillip C. Hermann........... -- -- 248,900 137,500 -- --
-- --- ------- ------- --- ---
Total........................ -- $-- 822,250 315,650 $-- $--
== === ======= ======= === ===
- ----------
(1) Options shown were granted under the 1995 and 1998 Stock Option Plans and
are exercisable for common stock. See "1995 Stock Option Plans" and "1998
Stock Option Plans" for a description of the material terms of these
options.
(2) The dollar values are calculated by determining the difference between the
weighted average exercise price of the options and the closing market price
for the common stock of $0.51 on December 31, 2001.
34
Option Repricing
Ten-Year Option/SAR Repricing
--------------------------------------------------------------------
Length of
Original
Number of Option Term
Securities Market Price Exercise Remaining at
Underlying of Stock at Price at Date of
Options/SARs Time of Time of New Repricing or
Repriced or Repricing or Repricing or Exercise Amendment
Name Date Amended Amendment Amendment Price (Months)
- ---- --------- ------------ ------------ ------------ -------- ------------
Robert M. Fell............... June 2001 300,000 $1.09 $4.88 $1.09 98
Chairman of the Board
Report on Option Repricing
In May 2001, subject to the execution of the agreements with TVG referred
to under "Issuance of Warrants to TVG," the Fell Services Agreement and related
option and warrant agreements were amended such that the exercise price of the
300,000 stock options held by Mr. Fell was reduced from $4.88 per share to $0.97
per share. In June 2001, in recognition of Youbet.com's strategic initiatives
with respect to the agreements with TVG and the opening of Youbet.com's Oregon
wagering facility, Mr. Fell agreed to increase the exercise price of the Fell
Warrants and the 300,000 stock options held by Mr. Fell to $1.09 per share, the
closing trading price of Youbet.com's common stock on June 29, 2001.
On August 1, 2001, the Board of Directors approved an option repricing plan
whereby each current non-executive employees' previously issued stock options at
a strike price above $1.00, were repriced to the then current market price of
the common stock ($1.00). The Board believed that many of the stock options
previously granted by the Company no longer provided the performance incentive
intended by the option because the exercise price of many of the Company's
outstanding stock options was well in excess of the market price of the common
stock. Pursuant to the repricing plan, 378,774 options were repriced to $1.00.
Each repriced option retained its expiration date and vesting schedule.
Robert M. Fell
Caesar P. Kimmel
Chris J. McCarron
William H. Roedy
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth, as of March 27, 2002 (1) the names and
addresses of each beneficial owner of more than five (5%) of Youbet.com's common
stock known to Youbet.com, the number of shares of common stock beneficially
owned by each such person, and the percent of Youbet.com's common stock so
owned; and (2) the number of shares of common stock beneficially owned, and the
percent of Youbet.com's common stock so owned, by each director, and by all
directors and officers of Youbet.com as a group. Each person has sole voting and
investment power with respect to such shares of common stock, except as
otherwise indicated. Beneficial ownership consists of a direct interest in the
shares of common stock, except as otherwise indicated.
35
Amount and Nature
Name of Beneficial Owner (1) (2) Of Beneficial Owner Percent of Class
- -------------------------------- ------------------- ----------------
David M. Marshall.............................................. 973,826(3) 4.95
Robert M. Fell................................................. 1,704,600(4) 8.10
Sid Marshal Enterprises 773,490(5) 3.89
1170-M Pacific Coast Highway
Malibu, CA 90265l...........................................
Memorial Gift Trust 1,178,917(6) 6.02
1700 Bank of America Plaza
300 South Fourth Street
Las Vegas, NV 80101.........................................
Russell M. Fine 1,247,942(7) 6.37
1953 Fairburn Avenue
Los Angeles, CA 90025......................................
Charles. F Champion............................................ 25,000(8) *
Phillip C. Hermann............................................. 248,900(9) 1.26
Lawrence R. Lucas ............................................. 173,605(10) *
Ron W. Luniewski............................................... 273,250(11) 1.38
ODS Technologies, LP........................................... 20,334,719(12) 51.00
All directors and executive officers as a group (4 persons).... 1,421,331(13) 7.08
- ----------
* Less than one percent
(1) The address of the above beneficial owners is Youbet.com, Inc., 5901 De
Soto Avenue, Los Angeles, California 91367 unless otherwise noted.
(2) Beneficial ownership is determined according to the rules of the Securities
and Exchange Commission, and generally includes all voting or investment
power with respect to securities. Except as noted, and subject to community
property laws, the persons named in the table above have sole voting power
of their Youbet.com common stock.
(3) Includes 100 shares of common stock represented by a fully vested stock
option and 127,939 shares of common stock represented by currently
exercisable common stock purchase warrants. Excludes shares of common stock
and common stock purchase warrants owned by Sid Marshall and the Sid
Marshall Trust. David M. Marshall is the son of Sid Marshall.
(4) Includes 300,100 shares of common stock represented by a fully vested stock
option and 1,200,000 shares of common stock represented by the Fell Warrant
which are exercisable. Includes 204,450 shares of common stock owned by
Robert M. Fell Living Trust.
(5) Includes 356,668 shares of common stock represented by currently
exercisable common stock purchase warrants. Does not include shares of
common stock and common stock purchase warrants owned by the Memorial Gift
Trust, of which Sid Marshall is the trustee. Sid Marshall is the father of
David M. Marshall.
(6) Includes 30,000 shares of common stock subject to currently exercisable
common stock purchase warrants. Sid Marshall is the trustee.
36
(7) Includes 100 shares of common stock represented by a fully vested stock
option and 40,342 shares of common stock subject to currently exercisable
common stock purchase warrants. Also includes 7,500 held by Mrs. Debra
Fine, the wife of Mr. Fine.
(8) Consists solely of 25,000 shares of common stock represented by stock
options exercisable within 60 days of March 28, 2002.
(9) Consists solely of 248,900 shares of common stock represented by stock
options exercisable within 60 days of March 28, 2002. On April 11, 2002,
Mr. Hermann resigned as an Executive Officer of the Company and as a
Director.
(10) Includes 43,433 shares of common stock represented by a stock option
exercisable within 60 days of March 28, 2002 and 100,000 shares of common
stock represented by currently exercisable common stock purchase warrants.
(11) Consists solely of 273,250 shares of common stock represented by stock
options exercisable within 60 days of March 28, 2002. Mr. Luniewski left
the Company on April 5, 2002.
(12) Represents warrants issued to TVG (see Strategic Relationships) computed
based on the outstanding common stock as of March 28, 2002.
(13) Includes 317,433 shares of common stock represented by fully vested stock
options and stock options exercisable within 60 days of March 28, 2002, and
227,939 shares of common stock represented by warrants.
Changes in Control:
Youbet.com is unaware of any contract or other arrangement, other than the
TVG warrants (see "Strategic Relationships"), the operation of which may at a
subsequent date result in a change in control of Youbet.com.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
In June 1998, Youbet.com entered into a Securities Purchase Agreement with
the Robert M. Fell Living Trust (the "Fell Trust"). Pursuant to the Securities
Purchase Agreement, the Fell Trust acquired 20,000 shares of Series A
Convertible Preferred Stock and a warrant to purchase 1,200,000 shares of
Youbet.com's common stock (the "Fell Warrant"). The purchase price for the
Series A Convertible Preferred Stock acquired by the Fell Trust was $25.00 per
share, of which $10,000 was paid in cash and $490,000 was paid in the form of a
promissory note (the "$490,000 Note"). The purchase price for the Fell Warrant
was $75,000, of which $5,000 was paid in cash and $70,000 was paid in the form
of a promissory note (the "$70,000 Note"). The Fell Warrant expires on June 29,
2008, and entitles the Fell Trust to purchase 1,200,000 shares of common stock
at $2.50 per share. The Fell Warrant is exercisable one-sixth commencing on June
29, 1998, and one-sixth thereafter on each six-month anniversary date. The Fell
Warrant also provides that, with certain exceptions, the common stock received
upon the exercise of the Fell Warrant may not be sold until one year following
the date the shares were first able to be purchased. The $490,000 Note bears
interest at the rate of 8% per annum, which may, at the option of the Fell
Trust, be paid currently or added to the principal amount of the note. The
$490,000 Note is due June 29, 2002, provided that the Fell Trust is required to
prepay the note, without penalty, as soon as possible consistent with its other
cash requirements. The $70,000 Note bears interest at the rate of 6% per annum,
which may, at the option of the Fell Trust, be paid currently or added to the
principal amount of the note. The $70,000 Note is due on June 29, 2008. The Fell
Trust has pledged the Fell Warrant and the Series A Convertible Preferred Stock
acquired pursuant to the Securities Purchase Agreement to secure its obligations
under the $490,000 Note and the $70,000 Note. In
37
December 1998 the Fell Trust converted the Series A Preferred Stock into common
stock. On July 8, 1999, the Board approved the recommendation of the
Compensation Committee to grant Fell & Company, Inc. a performance-based bonus
as a result of the services of Robert M. Fell which has been credited against
the Notes, consisting of a $280,000 (plus accrued interest), credited in
recognition of the completion of the placement of 11% Senior Convertible
Discounts Notes, $140,000 (plus accrued interest) credited in recognition of the
completion of Youbet.com's secondary offering, $70,000 (plus accrued interest)
to be credited at such time as Youbet.com achieves 15,000 customers and $70,000
(plus accrued interest) to be credited at such time as Youbet.com achieves
25,000 customers. As result of the bonuses described above, the $70,000 Note has
been satisfied and the outstanding principal balance on the $490,000 Note has
been reduced to $140,000. The Fell Trust has agreed that the $140,000 Note will
be with full recourse to the Fell Trust and Youbet.com has released to the Fell
Trust all of the collateral pledged in connection with the Note. The $140,000
note plus accrued interest was netted against amounts owed to Mr. Fell due to
his cancellation of the Service Agreement in November 2001.
In January 1999 David Marshall, Inc. and Youbet.com entered into a services
agreement pursuant to which David M. Marshall served as Vice-Chairman of the
Board of Youbet.com until December 31, 1999. For making Mr. Marshall's services
available, David Marshall, Inc. received a base fee of $150,000 per year plus
the amount of payroll taxes Youbet.com would have paid if Mr. Marshall were an
employee of Youbet.com and other miscellaneous benefits. David Marshall, Inc.
was also entitled to receive an annual bonus determined by the Board in its
discretion. David Marshall, Inc. terminated the agreement pursuant to a
provision which permitted David Marshall, Inc. to terminate the agreement at
anytime after December 31, 1999 and receive the compensation and benefits
provided under the agreement for two years. The services agreement replaced an
employment agreement entered into between Mr. Marshall and Youbet.com in June
1998, which had substantially the same terms. Mr. Marshall resigned his position
as Vice Chairman and officer effective December 31, 1999. Mr. Marshall was
re-appointed Chairman of the Board and Chief Executive Officer on March 21,
2002.
In June 1998 Russell Fine and Youbet.com entered into an employment
agreement pursuant to which Mr. Fine served as Executive Vice President and
Chief Technology Officer. Mr. Fine received a base salary of $150,000 in 1999,
and other miscellaneous benefits. Effective December 31, 1999 Mr. Fine's base
salary was increased to $165,000. Mr. Fine was also entitled to receive an
annual bonus determined by the Board of Directors. The employment agreement
permitted Mr. Fine to terminate the agreement after December 31, 1999 and
receive the compensation and benefits provided under the agreement for the
lesser of two years or the remaining portion of the term, but at least one year.
Mr. Fine's agreement was terminated on May 3, 2000 and he resigned as a member
of the Board of Directors and as Executive Vice President and Chief Technology
Officer. Effective May 3, 2000 Mr. Fine and Youbet.com entered into a consulting
agreement pursuant to which Mr. Fine will provide consulting services to
Youbet.com for a period of three years. For making his services available, Mr.
Fine will receive a base fee of $182,500 per year and other miscellaneous
benefits.
The Company entered into a Securities Purchase Agreement on March 21, 2002,
whereby the Company issued two one-year secured note in the principal amount of
$100,000 each at an interest rate of 12% to a corporation owned by David
Marshall, the Company's Chairman of the Board and Chief Executive Officer, and
to a Director of the Company. In consideration of the purchase note, each of Mr.
Marshall's corporation and the Director also received five-year warrants to
purchase 100,000 share of the Company's common stock at an exercise price of
$0.50 per share. The sale of the note and the issuance of the warrants was part
of a financing in the aggregate amount of $750,000. Both principal and all
interest accrued on this note will be payable at the earlier of a) one-year from
the date of issuance, or b) upon the Company's completion of funding in an
amount greater than two million dollars ($2,000,000), excluding the Note, in any
ninety-day period prior to the maturity of this note.
See Employment and Services Agreements
38
PART IV.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) The following documents are filed as a part of this report.
Page
1. Index to Financial Statements:
See Consolidated Financial Statements included as part of this Form 10-K......... F-1
2. Exhibits:
Exhibit
Number Description of Exhibit
- ------ ----------------------
3.1 Restated Certificate of Incorporation (Incorporated herein by
reference to Youbet.com's Form 10-K for the year ended December 31,
1995).
3.1(a) Amended and restated Certificate of Incorporation (Incorporated herein
by reference to Youbet.com's Form 10-Q for the quarter ended September
30, 2001).
3.2 By-Laws of Youbet.com (Incorporated herein by reference to
Youbet.com's Form 10-K for the year December 31, 1995).
3.3 Certificate of Designation for Series A Convertible Preferred dated
June 18, 1998 (Incorporated herein by reference to Youbet.com's Form
10-KSB for the year ended December 31, 1998).
4.1 Form of Note Purchase Agreement by and among Youbet.com and the
Purchasers as defined therein, dated April 5, 1999 (Incorporated
herein by reference to Youbet.com's Registration Statement on Form S-3
(No. 333-85675) dated September 29, 1999).
4.1A Form of First Amendment of Note Purchase Agreement dated February 29,
2000.
4.2 Form of Warrant to purchase Youbet.com common stock, issued in
connection with the Note Purchase Agreement dated April 5, 1999
(Incorporated herein by reference to Youbet.com's Prospectus Filed
Pursuant to Rule 424 dated October 4, 1999).
4.3 Registration Rights Agreement by and among Youbet.com (formerly You
Bet International, Inc.) and the other parties listed therein, dated
June 29, 1998 (Incorporated herein by reference by reference to
Youbet.com's Form 8-K dated June 29, 1998).
4.4 Form of Series A Warrant to purchase Youbet.com common stock
(Incorporated herein by reference to Youbet.com's Prospectus Filed
Pursuant to Rule 424 dated October 4, 1999).
4.5 Form of Series B Warrant to purchase Youbet.com common stock
(Incorporated herein by reference to Youbet.com's Prospectus Filed
Pursuant to Rule 424 dated October 4, 1999).
4.6 Form of Series C Warrant to purchase Youbet.com common stock
(Incorporated herein by reference to Youbet.com's Prospectus Filed
Pursuant to Rule 424 dated October 4, 1999).
4.7 Form of Series D Warrant to purchase Youbet.com common stock
(Incorporated herein by reference to Youbet.com's Prospectus Filed
Pursuant to Rule 424 dated October 4, 1999).
4.8 Form of Series E Warrant to purchase Youbet.com common stock
(Incorporated herein by reference to Youbet.com's Prospectus Filed
Pursuant to Rule 424 dated October 4, 1999).
4.9 Form of Series M Warrant to purchase Youbet.com common stock at $3.125
per share (Incorporated herein by reference to Youbet.com's Prospectus
Filed Pursuant to Rule 424 dated October 4, 1999).
4.10 Form of Series M Warrant to purchase Youbet.com common stock at $5.25
per share (Incorporated herein by reference to Youbet.com's Prospectus
Filed Pursuant to Rule 424 dated October 4, 1999).
4.11 Warrant to purchase Youbet.com common stock issued to Robert M. Fell,
dated June 29, 1998 (Incorporated herein by reference by reference to
Youbet.com's Form 8-K dated June 29, 1998).
39
4.12 Form of warrant to purchase Youbet.com common stock at $2.50 per
share, issued to Lorne Goldberg and Elizabeth Edlich dated August 12,
1999 (Incorporated herein by reference to Youbet.com's Registration
Statement on Form S-3 (No. 333-85675) dated September 29, 1999).
10.1 1995 Stock Option Plan (Incorporated herein by reference to
Youbet.com's Form 10-K dated December 31, 1996).
10.2 1995 Stock Option Plan for Non-Employee Directors (Incorporated herein
by reference to Youbet.com's Form 10-K dated December 31, 1996).
10.10 1998 Stock Option Plan (Incorporated herein by reference to
Youbet.com's Form 10-KSB for the year ended December 31, 1998).
10.12 Services Agreement between Youbet.com and Fell & Company, Inc. dated
June 29, 1998, amended and restated as of March 1, 1999 (Incorporated
herein by reference to Youbet.com's Form 10-KSB for the year ended
December 31, 1998).
10.13 Employment Agreement between Youbet.com and Ronald W. Luniewski dated
May 1 1998, superceded by an Employment Agreement dated February 23,
1999 (Incorporated herein by reference to Youbet.com's Form 10-KSB for
the year ended December 31, 1998).
10.14 Employment Agreement between Youbet.com and Phillip C. Hermann dated
May 1, 1998, superceded by an Employment Agreement dated February 23,
1999 (Incorporated herein by reference to Youbet.com's Form 10-KSB for
the year ended December 31, 1998).
10.15 Telecommunications Facilitation System Agreement between Youbet.com
and Mountain Laurel Racing, Inc. and Washington Trotting Association,
Inc. dated June 23, 1997(Incorporated herein by reference to
Youbet.com's Form 10-KSB for the year ended December 31, 1998).
10.16 Agreement between Youbet.com and Netixs Communications dated March 3,
1999 (Incorporated herein by reference to Youbet.com's Form 10-KSB for
the year ended December 31, 1998).
10.21 Form of 11% Senior Convertible Discount Note (Incorporated herein by
reference to Youbet.com's Form 10-KSB for the year ended December 31,
1998).
10.22 Civil Resolution with the Los Angeles County District Attorney and Los
Angeles Police Department (Incorporated herein by reference to
Youbet.com's Form 8-K dated January 19, 2000).
10.23 Agreement between Youbet.com and Axcis dated September 1, 1999
(Incorporated herein by reference to Youbet.com's Form 10-KSB for the
year ended December 31, 1999).
10.24 Employment Agreement between Youbet.com and Ron Luniewski dated March
22, 2001.
10.25 Employment Agreement between Youbet.com and Phillip C. Hermann dated
March 22, 2001.
10.26 Form of lease agreement for the Los Angeles Facility dated March 11,
2000.
10.27 License and Content Agreement, dated May 18, 2001, by and between the
TVG Parties and Youbet.com, Inc., (Incorporated herein by reference to
Youbet.com's Form 10-Q for the quarter ended June 30, 2001).
10.28 Warrant Issuance Agreement, dated May 18, 2001, by and between
Youbet.com and TVG (Incorporated herein by reference to Youbet.com's
Form 10-Q for the quarter ended June 30, 2001).
10.29 Letter agreements between Youbet.com and Fell & Company, Inc., dated
May 9, 2001 and June 29, 2001 (Incorporated herein by reference to
Youbet.com's Form 10-Q for the quarter ended June 30, 2001).
10.30 Employment Agreement between Youbet.com and Phillip C. Hermann dated
March 21, 2002.
10.31 Securities Purchase Agreement between Youbet.com and David Marshall,
Inc., dated March 21, 2002.
10.32 Employment Agreement between Youbet.com and Charles F. Champion dated
March 11, 2002.
23 Consent of BDO Seidman, LLP.
- --------------------------------------------------------------------------------
- -------------------------
(b) Reports on Form 8-K:
There were no reports filed on Form 8-K for the quarter ended December 31, 2001.
40
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
YOUBET.COM, INC.
Date: April 11, 2002 /s/ David M. Marshall
Chairman of the Board and Chief Executive Officer
In accordance with the Exchange Act, this report has been signed by the
following persons on behalf of the registrant and in the capacities and on the
dates indicated.
David M. Marshall Chairman of the Board and Chief Executive Officer Date: April 11, 2002
Charles F. Champion Director, President and Chief Operating Officer Date: April 11, 2002
Phillip C. Hermann Chief Financial Officer Date: April 11, 2002
Lawrence R. Lucas Director Date: April 11, 2002
41
Index to Financial Statements
Page
----
Report of Independent Certified Public Accountants............................................ F-2
Consolidated Balance Sheets as of December 31, 2001 and 2000.................................. F-3
Consolidated Statements of Operations for the three years ended December 31, 2001............. F-4
Consolidated Statements of Stockholders' Equity for the three years ended December 31, 2001... F-5
Consolidated Statements of Cash Flows for the three years ended December 31, 2001............. F-6
Notes to Consolidated Financial Statements.................................................... F-7
F-1
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
To the Board of Directors and
Stockholders of Youbet.com, Inc.:
We have audited the accompanying consolidated balance sheets of Youbet.com,
Inc. as of December 31, 2001 and 2000, and the related consolidated statements
of operations, stockholders' equity and cash flows for each of the three years
in the period ended December 31, 2001. 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 Unites States of America. Those standards require that we plan
and perform the audits 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 presentation of the financial statements. We believe that
our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Youbet.com,
Inc. and subsidiaries as of December 2001 and 2000, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 2001 in conformity with accounting principles generally accepted in
the United States of America.
The accompanying consolidated financial statements have been prepared
assuming that the Company will continue as a going concern. As discussed in Note
1 to the consolidated financial statements, the Company has suffered significant
recurring operating losses and needs to raise additional funds to accomplish its
objectives. Management's plans are included in Note 1 to the consolidated
financial statements. These matters raise substantial doubt about the Company's
ability to continue as a going concern. The consolidated financial statements do
not include any adjustments that might result from the outcome of this
uncertainty.
/s/ BDO Seidman, LLP
- --------------------
Los Angeles, California
February 21, 2002,
except for Note 13 which is as of March 21, 2002
F-2
Youbet.com, Inc.
Consolidated Balance Sheets
December 31,
---------------------------
2001 2000
------------ ------------
ASSETS
Current assets:
Cash and cash equivalents ............................................................ $ 3,560,740 $ 12,094,172
Restricted cash, current portion (Note 9) ............................................ 107,867 107,867
Receivables .......................................................................... 278,235 322,460
Interest and other receivables ....................................................... 59,468 490,692
Prepaid expenses ..................................................................... 433,636 338,886
------------ ------------
Total current assets .............................................................. 4,439,946 13,354,077
------------ ------------
Property and equipment (Notes 5 and 9) ............................................... 9,846,011 9,349,774
Less: Accumulated depreciation and amortization ...................................... (3,966,710) (2,077,275)
------------ ------------
Property and equipment, net ....................................................... 5,879,301 7,272,499
------------ ------------
Licensing rights (net) (Note 3) ...................................................... 8,638,213 --
Capitalized software (Note 1) ........................................................ -- 2,542,506
Restricted cash, net of current portion (Note 9) ..................................... 812,938 920,805
Deposits and other ................................................................... 115,175 181,290
------------ ------------
Total assets ...................................................................... $ 19,885,573 $ 24,271,177
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable ..................................................................... $ 1,627,588 $ 1,604,137
Accrued expenses (Note 6) ............................................................ 1,302,106 1,587,042
Customer deposits .................................................................... 361,500 --
Accrued compensation and related items ............................................... 335,113 403,588
Deferred revenues .................................................................... 8,097 7,113
Capitalized lease obligation ......................................................... -- 8,909
------------ ------------
Total current liabilities ......................................................... 3,634,404 3,610,789
------------ ------------
Total liabilities ................................................................. 3,634,404 3,610,789
Commitments and contingencies (Notes 4, 9, 10 and 11)
Stockholders' equity (Note 8):
Preferred stock, $.001 par value-
Authorized 1,000,000 shares, none outstanding ..................................... -- --
Common stock, $.001 par value-Authorized 100,000,000 shares, 19,537,950 and 19,520,850
shares outstanding as of December 31, 2001 and 2000,
respectively ...................................................................... 19,538 19,521
Additional paid-in capital ........................................................... 95,084,423 84,834,477
Accumulated deficit .................................................................. (78,852,792) (64,053,610)
Note receivable from stockholder ..................................................... -- (140,000)
------------ ------------
Total stockholders' equity ........................................................ 16,251,169 20,660,388
------------ ------------
Total liabilities and stockholders' equity ........................................ $ 19,885,573 $ 24,271,177
============ ============
See accompanying notes to consolidated financial statements.
F-3
Youbet.com, Inc.
Consolidated Statements of Operations
Year Ended December 31,
--------------------------------------------
2001 2000 1999
------------ ------------ ------------
Revenues (Note 3 and 4) ............................... $ 6,324,286 $ 5,992,311 $ 3,773,577
Operating expenses:
Network operations ................................. 2,371,152 3,267,371 2,105,312
Research and development ........................... 2,525,216 3,776,752 2,372,872
Sales and marketing ................................ 4,925,346 6,227,145 14,461,694
General and administrative ......................... 8,316,591 7,787,906 7,381,177
Depreciation and amortization ...................... 3,330,104 1,143,408 479,616
------------ ------------ ------------
Total operating expenses ........................ 21,468,409 22,202,582 26,800,671
------------ ------------ ------------
Loss from operations .................................. (15,144,123) (16,210,271) (23,027,094)
Other income (expense):
Interest income .................................... 375,356 2,679,001 2,419,896
Interest expense ................................... (26,865) (3,113,595) (3,106,111)
Amortization of deferred financing costs ........... -- (203,915) (285,567)
Fair value of warrants issued for financing costs
(Note 8c) ............................................. -- (46,090) (490,791)
Other .............................................. (2,750) 158,305 5,799
------------ ------------ ------------
Total other expense ............................. 345,741 (526,294) (1,456,774)
------------ ------------ ------------
Loss before extraordinary item and state taxes ........ (14,798,382) (16,736,565) (24,483,868)
State taxes (Note 12) ................................. (800) (800) (2,400)
------------ ------------ ------------
Loss before extraordinary item ........................ (14,799,182) (16,737,365) (24,486,268)
Extraordinary item (Note 7) ........................ -- 14,995,964 --
------------ ------------ ------------
Net loss .............................................. $(14,799,182) $ (1,741,401) $(24,486,268)
============ ============ ============
Basic and diluted:
Loss before extraordinary item per common
share ........................................... $ (0.76) $ (0.86) $ (1.45)
Extraordinary item (Note 7) ........................ -- 0.77 --
------------ ------------ ------------
Net loss per common share .......................... $ (0.76) $ (0.09) $ (1.45)
============ ============ ============
Weighted average number of common shares
outstanding ..................................... 19,525,582 19,471,175 16,937,700
============ ============ ============
See accompanying notes to consolidated financial statements.
F-4
Youbet.com, Inc.
Consolidated Statements of Stockholders' Equity
Years Ended December 31, 1999, 2000 and 2001
Preferred Stock Common Stock
------------------ --------------------
Additional Stock
Paid-in Accumulated Notes
Shares Amount Shares Amount Capital Deficit Receivable Total
- --------------------------------------- ------- ---------- ------- ----------- ------------ ---------- ------------
Balance, January 1, 1999 ... 107,110 $ 107 13,970,268 $13,970 $41,165,025 $(37,825,941) $(560,000) $ 2,793,161
Warrants exercised and
converted to stock
(Note 8a) ............... -- -- 412,832 413 965,853 -- -- 966,266
Warrants exercised in
conjunction with
secondary public
offering (Note 8a) ...... -- -- 654,275 654 2,162,899 -- -- 2,163,553
Stock options exercised and
converted to stock
(Note 8a) ............... -- -- 275,372 275 537,979 -- -- 538,254
Preferred stock converted
to common shares
(Note 8a) ............... (107,110) (107) 1,071,100 1,071 (964) -- -- 0
Shares issued in secondary
public offering
(Note 8a) ............... -- -- 2,863,582 2,864 37,280,974 -- -- 37,283,838
Secondary public offering
related costs (Note 8a).. -- -- -- -- (1,660,142) -- -- (1,660,142)
Shares issued as payment
for amounts due to
vendors (Note 8a) ....... -- -- 13,505 14 33,749 -- -- 33,763
Shares issued in a private
placement (Note 8a) ..... -- -- 100,000 100 249,900 -- -- 250,000
Offset of notes receivable
with bonus to officer
(Note 8b) ............... -- -- -- -- -- -- 420,000 420,000
Fair value of stock options
and warrants issued
(Note 8c) ............... -- -- -- -- 1,031,593 -- -- 1,031,593
Non-cash compensation
(Notes 8c and 8d) ....... -- -- -- -- 1,580,704 -- -- 1,580,704
Net loss for the year ...... -- -- -- -- -- (24,486,268) -- (24,486,268)
-------- ----- ---------- ------- ----------- ------------ --------- ------------
Balance, December 31, 1999 -- -- 19,360,934 19,361 83,347,570 (62,312,209) (140,000) 20,914,722
Warrants exercised and
converted to stock
(Note 8a) ............... -- -- 12,191 13 4,676 -- -- 4,689
Stock options exercised and
converted to stock
(Note 8a) ............... -- -- 147,725 147 374,779 -- -- 374,926
Fair value of stock options
and warrants issued
(Note 8c) ............... -- -- -- -- 314,709 -- -- 314,709
Non-cash compensation
(Notes 8c and 8d) ....... -- -- -- -- 792,743 -- -- 792,743
Net loss for the year ...... -- -- -- -- -- (1,741,401) -- (1,741,401)
-------- ----- ---------- ------- ----------- ------------ --------- ------------
Balance, December 31, 2000.. -- -- 19,520,850 19,521 84,834,477 (64,053,610) (140,000) 20,660,388
Stock options exercised and
converted to stock
(Note 8a) ............... -- -- 17,100 17 11,782 -- -- 11,799
Fair value of stock options
and warrants issued
(Note 8c) ............... -- -- -- -- 9,964,357 -- -- 9,964,357
Non-cash compensation
(Notes 8c and 8d) ....... -- -- -- -- 273,807 -- -- 273,807
Payment of notes receivable
from officer ............ -- -- -- -- -- -- 140,000 140,000
Net loss for the year ...... -- -- -- -- -- (14,799,182) (14,799,182)
-------- ----- ---------- ------- ----------- ------------ --------- ------------
Balance, December 31, 2001.. -- $ -- 19,537,950 $19,538 $95,084,423 $(78,852,792) $ -- $ 16,251,169
======== ===== ========== ======= =========== ============ ========= ============
See accompanying notes to consolidated financial statements.
F-5
Youbet.com, Inc.
Consolidated Statements of Cash Flows
Year Ended December 31,
------------------------------------------
2001 2000 1999
------------ ------------ ------------
Increase (Decrease) in Cash and Cash Equivalents
Cash flows from operating activities:
Net loss .................................................... $(14,799,182) $ (1,741,401) $(24,486,268)
Adjustments to reconcile net loss to net cash used in operating
activities:
Depreciation and amortization ............................... 3,330,104 1,143,408 479,616
Write-off of capitalized software ........................... 2,542,506 -- --
Amortization of deferred financing .......................... -- 203,915 285,567
Extraordinary gain on repurchase of convertible notes ....... -- (14,995,964) --
Other losses ................................................ -- -- 1,237
Interest accreted on note payable ........................... -- 2,827,605 3,085,653
Settlement of accounts payable and accrued liabilities ...... -- 140,089 --
Non-cash compensation ....................................... 273,807 792,743 2,698,557
Repayment of note receivable ............................... 140,000 -- --
Fair value of warrants issued for financing costs ........... -- 46,090 --
Write-off of warrants upon repurchase of convertible notes... -- 268,619 --
Proceeds from sale of assets ................................ 3,281 -- --
Loss on disposal of assets .................................. 3,425 99,991 --
Change in operating assets and liabilities:
Receivables ................................................. 44,225 (222,191) (247,359)
Prepaid expenses ............................................ (94,750) (173,996) (142,545)
Other current assets ........................................ 431,225 (60,321) (82,305)
Deposits .................................................... 66,116 (110,201) (193,094)
Accounts payable ............................................ 23,451 (1,664,339) 2,144,126
Accrued compensation and related items ...................... (68,475) 185,117 170,220
Customer deposits ........................................... 361,500 -- --
Other accrued expenses ...................................... (284,936) (607,467) 1,681,141
Deferred revenues ........................................... 984 (520,874) 527,986
------------ ------------ ------------
Net cash used in operating activities .................... (8,026,719) (14,389,177) (14,077,468)
------------ ------------ ------------
Cash flows from investing activities:
Restricted cash ............................................. 107,867 (1,028,672) --
Expenditures on capitalized software ........................ -- (2,542,506) --
Purchases of property and equipment ......................... (617,470) (6,139,124) (1,977,954)
------------ ------------ ------------
Net cash used in investing activities .................... (509,603) (9,710,302) (1,977,954)
------------ ------------ ------------
Cash flows from financing activities:
Proceeds from (repurchase of) convertible note .............. -- (26,408,975) 36,728,510
Proceeds from exercise of stock options and warrants ........ 11,799 379,615 3,640,734
Increase in deferred financing costs ........................ -- (167) (1,694,500)
Proceeds from warrant purchase .............................. -- -- 2,438
Proceeds from sales of securities, net of offering costs .... -- -- 38,332,344
Payments on capitalized lease obligations ................... (8,909) (51,225) (220,317)
------------ ------------ ------------
Net cash provided by (used in) financing activities ...... 2,890 (26,080,752) 76,789,209
------------ ------------ ------------
Net increase (decrease) in cash and cash equivalents ........... (8,533,432) (50,180,231) 60,733,787
Cash and cash equivalents at the beginning of the period ....... 12,094,172 62,274,403 1,540,616
------------ ------------ ------------
Cash and cash equivalents at the end of the period ............. $ 3,560,740 $ 12,094,172 $ 62,274,403
============ ============ ============
Supplemental disclosure of cash flow information Cash paid for:
Interest .................................................... $ 26,865 $ 17,371 $ 22,624
State franchise tax ......................................... 800 800 3,757
============ ============ ============
Non-cash investing and financing activities:
Warrants issued for licensing rights ........................ $ 9,964,357 $ -- $ --
Conversion of accounts payable and accrued compensation into
common stock ............................................. -- -- 33,763
============ ============ ============
See accompanying notes to consolidated financial statements.
F-6
Youbet.com, Inc
Notes to Consolidated Financial Statements
NOTE 1-ORGANIZATION AND BASIS OF PRESENTATION
Basis of Presentation
Youbet.com, Inc., a Delaware corporation, and its wholly owned subsidiary,
Youbet Oregon, Inc., are collectively referred to herein as the "Company". All
intercompany accounts and transactions have been eliminated in consolidation.
Business
Since mid-1995, the Company has been engaged in developing PC-based
proprietary communications software technology to be utilized by consumers for
online live event wagering. The Company's first service being offered to
customers is the You Bet Network, an interactive online horseracing network that
is broadcast over the Company's virtual private network via the Internet.
During the quarter ended June 30, 2001, the Company received a
multi-jurisdictional license from the State of Oregon horse racing authorities
for the acceptance and placement of wagers. The acceptance and placement of
wagers is processed through Youbet Oregon, Inc. The Company commenced operations
in Oregon during the third quarter of 2001.
Going Concern
The accompanying consolidated financial statements for the year ended
December 31, 2001 have been prepared assuming that the Company will continue as
a going concern, which contemplates the realization of assets and the
satisfaction of liabilities in the normal course of business. The Company has
suffered significant recurring operating losses and needs to raise additional
funds to accomplish its objectives. These matters raise substantial doubt about
the Company's ability to continue as a going concern. The Company believes that
its previous efforts to reduce costs and operate more efficiently, combined with
the opening of the Oregon wagering hub in September 2001, and the Company
receipt of licensing from California in February 2002, will improve cash flows.
However, the Company will require additional capital to fund operations and pay
down its liabilities, as well as to fund its expansion plans consistent with
Youbet.com's anticipated changes in operations and infrastructure. During March
2002, the Company successfully raised $750,000 in debt financing (see Note 13).
The Company is exploring various alternatives to raise this additional capital,
but there can be no assurances that the Company will be successful in this
regard. To the extent that the Company is unable to secure the capital necessary
to fund its future cash requirements on a timely basis and/or under acceptable
terms and conditions, the Company may not have sufficient cash resources to
maintain operations. In such event, the Company may be required to consider a
formal or informal restructuring or reorganization. No adjustments have been
made to the consolidated financial statements that might result from the outcome
of this uncertainty.
NOTE 2-SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of
F-7
revenues and expenses during the reporting period. Actual results could
materially differ from these estimates.
Revenue Recognition
The Company recognizes net commissions earned on wagers as revenue as
wagers are placed at third party wagering facilities. The Company also
recognizes revenue from subscription fees as earned on a monthly basis and from
the sale of handicapping information as purchased by customers. The Company's
revenue recognition policies are in conformance with SAB 101.
The Company also receives commission revenues through its subsidiary Youbet
Oregon, Inc. The Company records gross commission proceeds as revenues and
records the related costs to the tracks, TVG, taxes and fees as Sales and
Marketing expenses.
Licensing Rights
The company recorded deferred licensing rights based on the fair value of
the warrants issued, using the Black-Scholes option pricing model (see Note-3).
The licensing rights are being amortized over a three year period. At December
31, 2001, the accumulated amortization of the warrants totaled $1,326,144.
Software Development Costs
The Company capitalizes internally generated software development costs in
accordance with SFAS No. 86, "Accounting for the Costs of Computer Software to
be Sold, Leased or Otherwise Marketed." The Company adopted EITF 00-2
"Accounting for Web Site Development Costs" during the year ending December 31,
2000. Capitalization of computer software development costs begins upon the
establishment of technological feasibility for the product and continues until
the product is available for sale or use. The Company's software includes the
You Bet Network and CD Rom software product which customers install on their
personal computers in order to access the You Bet Network, and a web-based
application "Youbet Express" which does not require the use of a CD-Rom.
Capitalized software costs are amortized on product-by-product basis based on
the greater of a) the ratio of current gross revenues for a specific product
bears to the total of current and anticipated future gross revenues for that
product or b) over the expected economic life of that product. Amortization is
recognized when the product is available for general release to the public.
The Company developed an on-line sports event wagering platform and has
been seeking a strategic partner. During the forth quarter of 2001, management
decided to focus the Company's resources on the horse wagering market and its
principal product. Accordingly, management cannot determine the future economic
value of the capitalized software and has written-off previously capitalized
costs of $2,543,000 as of December 31, 2001.
Cash and Cash Equivalents
Cash equivalents consist of highly liquid investments with maturities of
three months or less at the date of purchase.
Concentration of credit risk
The Company maintains cash balances at various financial institutions.
Deposits not to exceed $100,000 for each institution are insured by the Federal
Deposit Insurance Corporation. At December 31, 2001, and December 31, 2000, the
Company had uninsured cash and cash equivalents, and restricted cash of
$4,228,757 and $12,708,905 respectively.
F-8
Fair Value of Financial Instruments
The carrying value of the Company's financial instruments, consisting
primarily of receivables, accounts payable and notes payable, approximates fair
value due to the maturity of these financial instruments and the borrowing costs
to the Company.
Reclassifications
Certain prior years amounts have been reclassified to conform to the
current year presentation.
Property and Equipment
Property and equipment are stated at cost. Equipment and furniture are
depreciated using the straight-line method over their estimated useful life of
three to five years. Leasehold improvements are amortized over the term of the
lease.
Property and equipment are reviewed for impairment whenever events or
circumstances indicate that the asset's undiscounted expected cash flows are not
sufficient to recover its carrying amount. The Company measures impairment loss
by comparing the fair value of the asset to its carrying amount. Fair value of
an asset is calculated as the present value of expected future cash flows.
Impairment losses, if any, are recorded currently.
Income Taxes
The Company accounts for income taxes utilizing the asset and liability
approach, which requires the recognition of deferred tax assets and liabilities
for the expected future tax consequences of temporary differences between the
basis of assets and liabilities for financial reporting purposes and tax
purposes. Deferred tax assets and liabilities are measured using enacted tax
rates expected to apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled. A valuation allowance is
provided when management cannot determine that it is more likely than not that
the net deferred tax asset will be realized.
Basic and Diluted Loss Per Share
Basic loss per share is calculated by dividing net loss by the weighted
average number of common shares outstanding during the period. Diluted loss per
share is calculated by dividing net loss by the basic shares outstanding and all
dilutive securities, including stock options, warrants, convertible notes and
preferred stock, but does not include the impact of potential common shares
which would be antidilutive.
As of December 31, 2001, potential dilutive securities representing
28,569,417 shares of common stock were not included in the earnings per share
calculation since their effect would be anti-dilutive. Potential dilutive
securities consisted of 3,151,135 outstanding stock options, and 25,418,282
outstanding common stock purchase warrants.
As of December 31, 2000, potential dilutive securities representing
9,457,658 shares of common stock were not included in the earnings per share
calculation since their effect would be anti-dilutive. Potential dilutive
securities consisted of 2,602,321 outstanding stock options, and 6,855,337
outstanding common stock purchase warrants.
As of December 31, 1999, potential dilutive securities representing
13,842,795 shares of common stock were not included in the earnings per share
calculation since their effect would be anti-dilutive. Potential dilutive
F-9
securities consisted of 2,435,231 outstanding stock options, 6,857,564
outstanding common stock purchase warrants, and $45,500,000 of 11% Senior
Convertible Discount Notes convertible into 4,550,000 shares of common stock.
Stock-Based Compensation
Statement of Financial Accounting Standards No. 123, "Accounting for
Stock-Based Compensation" ("SFAS 123"), which establishes a fair value method of
accounting for stock-based compensation plans, allow companies to either expense
the estimated fair value of stock options or to continue to follow the intrinsic
value method set forth in Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" ("APB 25"), but to disclose the pro
forma effect on net loss and diluted loss per share had the fair value of the
stock options been expensed. The Company has elected to continue to account for
stock-based compensation plans utilizing the intrinsic value method.
Accordingly, compensation cost for stock options is measured as the excess, if
any, of the fair market price of the Company's stock at the date of grant above
the amount an employee must pay to acquire the stock. The pro forma effect on
net loss and per share data using the fair value method are disclosed.
The Company has adopted FIN 44 and as a result recognized $129,527 in
expense during the year ended December 31, 2000 due to variable accounting
applied to stock option repricing. Due to the decline in the Company's stock
price during 2001, the Company reversed the $129,527 in non-compensation during
the year ended December 31, 2001.
Recent Accounting Pronouncements
In June 2001, the Financial Accounting Standards Board finalized FASB
Statements No. 141, Business Combinations (SFAS 141), and No. 142, Goodwill and
Other Intangible Assets (SFAS 142). SFAS 141 requires the use of the purchase
method of accounting and prohibits the use of the pooling-of-interests method of
accounting for business combinations initiated after June 30, 2001. SFAS 141
also requires that the Company recognize acquired intangible assets apart from
goodwill if the acquired intangible assets meet certain criteria. SFAS 141
applies to all business combinations initiated after June 30, 2001 and for
purchase business combinations completed on or after July 1, 2001. It also
requires, upon adoption of SFAS 142, that the Company reclassify the carrying
amounts of intangible assets and goodwill based on the criteria in SFAS 141.
SFAS 142 requires, among other things, that companies no longer amortize
goodwill, but instead test goodwill for impairment at least annually. In
addition, SFAS 142 requires that the Company identify reporting units for the
purposes of assessing potential future impairments of goodwill, reassess the
useful lives of other existing recognized intangible assets, and cease
amortization of intangible assets with an indefinite useful life. An intangible
asset with an indefinite useful life should be tested for impairment in
accordance with the guidance in SFAS 142. SFAS 142 is required to be applied in
fiscal years beginning after December 15, 2001 to all goodwill and other
intangible assets recognized at that date, regardless of when those assets were
initially recognized. SFAS 142 requires the Company to complete a transitional
goodwill impairment test six months from the date of adoption. The Company is
also required to reassess the useful lives of other intangible assets within the
first interim quarter after adoption of SFAS 142. The Company is assessing but
has not yet determined how the adoption of SFAS 141 and SFAS 142 will impact its
financial position and results of operations.
In August 2001, the FASB issued SFAS No. 143, Accounting for Asset
Retirement Obligations. SFAS No. 143 requires the fair value of a liability for
an asset retirement obligation to be recognized in the period in which it is
incurred if a reasonable estimate of fair value can be made. The associated
asset retirement costs are capitalized as part of the carrying amount of the
long-lived asset. SFAS No. 143 is effective for fiscal years beginning after
June 15, 2002. The Company believes the adoption of this Statement will have no
material impact on its financial statements.
F-10
In October 2001, the FASB issued SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets. SFASB 144 requires that those
long-lived assets be measured at the lower of carrying amount or fair value less
cost to sell, whether reported in continuing operations or in discontinued
operations. Therefore, discontinued operations will no longer be measured at net
realizable value or include amounts for operating losses that have not yet
occurred. SFASB 144 is effective for financial statements issued for fiscal
years beginning after December 15, 2001 and, generally, are to be applied
prospectively. The Company believes the adoption of this Statement will have no
material impact on its financial statements.
NOTE 3 - AGREEMENT WITH TVG
In May 2001, Youbet.com entered into a warrant issuance agreement (the
"Warrant Agreement") and a track content and patent license agreement (the
"License Agreement") with ODS Technologies, L.P., a subsidiary of Gemstar-TV
Guide International, doing business as TVG ("TVG"). These agreements relate to
the grant by TVG to Youbet.com of a non-exclusive license to use telephones and
certain simulcast audio, video and data content for the purpose of streaming
such content online and the agreement of race tracks to accept wagers based on
such content, and to use TVG's patented systems for making pari-mutuel wagers on
horse races online. Among other things, the agreements call for Youbet.com, to
issue to TVG two warrants to purchase up to 51% of the Company's outstanding
common stock.
The License Agreement remains in effect until the later of (i) May 18,
2011, (ii) the date of expiration of the last to expire of the TVG patents
licensed to Youbet.com under the agreement, or (iii) the date on which the last
of TVG's agreements with the TVG Exclusive Tracks expires (unless extended,
TVG's agreements with the TVG Exclusive Tracks expire before May 18, 2011). The
License Agreement may be terminated before the expiration of its term (a) by
TVG, if Youbet.com ceases to operate its Oregon account wagering hub or another
account wagering facility approved by TVG at any time thereafter during the
term; (b) by TVG, in the event that Youbet.com brings any legal action against
TVG or any of TVG's affiliates, including Gemstar-TV Guide International, unless
it is finally determined in such action that TVG (or its affiliate) acted in bad
faith with respect to any claim that is the subject of the legal action; and (c)
by either Youbet.com or TVG, in the event that the other party materially
breaches the License Agreement without cure upon notice.
The Company issued TVG an initial warrant (the "Initial TVG Warrant"), on
May 18, 2001 (the time the Warrant Agreement was executed) entitling TVG to
purchase an aggregate of up to 3,884,650 shares of Youbet.com common stock (the
"Initial Warrant Shares") at an exercise price of $0.001 per share exercisable
for a period of three years. The Company recorded the fair value of the Initial
TVG Warrant ($2,910,000), using the Black-Scholes option pricing model as
additional paid in capital and the license agreement as a deferred asset
captioned "Licensing Rights" and is being amortized over three years.
The Company issued TVG the additional warrant on September 20, 2001 (the
date the Warrant Agreement was approved by the stockholders) entitling TVG to
purchase for an aggregate exercise price of $41,082,422 (subject to adjustment
as provided in the Additional TVG Warrant) a number of shares of common stock
which, when aggregated with the Initial Warrant Shares, is equal to 51% of the
sum of (i) the total number of shares of Youbet.com common stock outstanding on
the date the Additional TVG Warrant is exercised, plus (ii) the total number of
shares of common stock issuable upon exercise of the Additional TVG Warrant,
plus (iii) the total number of Initial Warrant Shares then issuable upon
exercise of the Initial TVG Warrant. The Company recorded the fair value of the
Additional TVG Warrant ($7,054,000), using Black-Scholes, as a deferred asset
captioned "Licensing Rights" and it is being amortized over three years. The
Company is obligated to issue additional warrants to TVG (in order to maintain
TVG's rights in acquiring 51% of the Company) upon the exercise of any stock
options or warrants, or if the Company issues any additional securities. The
number of warrants to be issued to TVG would be equivalent to the number of
stock options or warrants exercised or the number of additional
F-11
securities issued. In addition, the Additional TVG Warrant contains provisions
for adjusting the exercise price in the event that (i) Youbet.com makes certain
additional issuances of common stock or securities exercisable for or
convertible into common stock at a price less than the defined reference price
per share on which the aggregate exercise price of the Additional TVG Warrant is
based, or (ii) engages in certain issuer tender offers for the repurchase of
shares of its common stock.
In consideration of the rights granted to Youbet.com under the License
Agreement, Youbet.com has agreed to pay to TVG fees based on the handle
generated by Youbet.com from wagering activity and to issue to TVG the warrants
to purchase Youbet.com common stock on the terms and conditions set forth in the
Warrant Issuance Agreement, as described above.
NOTE 4-AGREEMENT WITH MAGNA
Mountain Laurel Racing, Inc. and Washington Trotting Association, Inc.
(collectively, "Ladbroke"), operate horseracing operations within the State of
Pennsylvania. Effective June 23, 1997, the Company and Ladbroke entered into a
Telecommunications Facilitation System Agreement which provides that the Company
will facilitate interactive telecommunications between customers to the You Bet
Network and Ladbroke's horseracing activities. During 2001, Ladbroke was
acquired by Magna Entertainment, Corp., ("Magna"). The Magna Agreement contains
certain exclusivity provisions during the first two years of the agreement, and
also provides Magna with the right to receive the benefit of any more favorable
terms should the Company enter into a subsequent agreement with another
horseracing facility. The Magna Agreement provides for a term of five years
subsequent to the first transmission of live wagering information over the You
Bet Network to an end user. The initial transmissions of live wagering
information over the You Bet Network commenced during January 1998. As a result,
the term of the Magna Agreement is through January 2003.
The Company is entitled to receive on a weekly basis one-half of the net
commissions to Magna derived from wagers placed by Youbet.com customers. Net
commissions are calculated as gross commissions generated from wagers, less
state taxes and certain direct costs. The Magna Agreement contains provisions
allowing the termination of the agreement by either party at any time prior to
January 2003, in the event that net commissions are, or are projected in good
faith by either party to the agreement, to be less than $1,000,000 for any full
twelve month period during the term of the agreement subsequent to the initial
eighteen month period.
For the year ended December 31, 2001, 2000 and 1999, $4,481,461, $4,933,794
and $3,239,332 of the Company's revenues were generated from the Magna
Agreement, respectively. The Company currently estimates that net commissions
will exceed $1,000,000 for all twelve-month periods during the term of the
agreement. However, should net commissions be less than $1,000,000 during such
twelve month period, Magna could elect to terminate the agreement, which could
have a material adverse effect on the Company's business.
NOTE 5-PROPERTY AND EQUIPMENT
Property and equipment consisted of the following as of December 31, 2001
and 2000:
2001 2000
----------- -----------
Computer equipment ............................... $ 5,213,737 $ 5,000,661
Software ......................................... 1,247,761 1,244,510
Office furniture and equipment ................... 531,458 237,225
Leasehold improvements ........................... 2,853,055 2,867,378
----------- -----------
9,846,011 9,349,774
F-12
Less: Accumulated depreciation and amortization .. (3,966,710) (2,077,275)
----------- -----------
Property and equipment, net ...................... $ 5,879,301 $ 7,272,499
=========== ===========
NOTE 6-ACCRUED EXPENSES
Accrued expenses consisted of the following as of December 31, 2001 and
2000:
2001 2000
---------- ----------
Track commission ................................... $ 302,261 $ 50,216
Marketing expenses ................................. 291,395 221,331
Severance costs .................................... 274,093 720,613
Software licensing fee ............................. 203,859 203,859
Professional fees .................................. 26,884 201,640
Legislative fees ................................... -- 50,000
Other .............................................. 203,614 139,383
---------- ----------
Total .............................................. $1,302,106 $1,587,042
========== ==========
NOTE 7-NOTES PAYABLE
On April 5, 1999, the Company issued $45,500,000 principal amount of 11%
Senior Convertible Discount Notes ("Notes") for cash proceeds of $36,728,510,
which represents a discount of 11% per year, compounded semi-annually, to April
5, 2001. The Company incurred approximately $1,625,000 of costs related to this
offering and issued 50,000 warrants exercisable at $10.00 per share as a
finder's fee. These warrants had an aggregate fair value of $352,000. The notes
began accruing interest on April 5, 2001 at 11% per year, payable semi-annually.
Principal and unpaid interest were due and payable on April 5, 2004. The Notes
plus accrued, unpaid interest were convertible at any time at the rate of $10
per common share. Based on a valuation report prepared by an investment and
merchant banking firm dated April 28, 1999, the Company has determined that the
Notes conversion price at $10.00 per share was at fair market value.
Accordingly, the Company was expected to recognize a charge to operations of
$352,000 over the five-year maturity period, with a corresponding credit to
paid-in capital. The notes also contain covenants and restrictions limiting the
ability of the Company to engage in certain financings, other transactions and
dividend distributions.
During the year ended December 31, 2000, the Company repurchased all of its
$45,500,000 notes for $26,409,000 which represented a discount to the accreted
value of the notes at the date of purchase, therefore, a gain was realized on
the difference between the amount paid and the accreted value of the notes on
the date of repurchase. The amount of the gain, net of the proportionate
write-off of unamortized discount of $1,237,000, was approximately $14,996,000.
NOTE 8-STOCKHOLDERS' EQUITY
a. Issuance of Common Stock and Related Warrants
During 1999, the Company issued 74,833 shares of common stock in
conjunction with the exercise of stock options by certain employees. In order to
affect a cashless exercise of such options, an additional 37,417 stock options
were forfeited. This cashless exercise resulted in a charge to non-cash
compensation of $300,000.
During 1999, the Company issued 100,000 shares of common stock at a price
of $2.50 per share, generating gross proceeds to the Company of $250,000.
F-13
During 1999, the Company issued 13,505 shares of common stock in
conjunction with the conversion of vendor debt of $33,763.
During 1999, the Company issued 688,204 shares of common stock, in
conjunction with the exercise of warrants and stock options with exercise prices
ranging from $2.50 to $5.25 per share, generating gross proceeds to the Company
of $1,504,520.
During 1999, 107,110 shares of convertible preferred stock were converted
into 1,071,100 shares of common stock.
As final settlement for the finder's fee related to the preferred stock
financing in June 1998, additional fees of $122,500 were paid to the finder. The
fees are charged to additional paid-in capital at June 30, 1999. In addition,
13,000 warrants with an exercise price of $.01 and 26,000 warrants with an
exercise price of $2.50 were issued to the finder. These warrants are
exercisable through March 2004.
In June 1999, the Company completed a public offering and issued 2,863,582
common stock shares at a price of $14.00 per share, generating gross proceeds of
$37,283,838. The Company also issued 654,275 shares of common stock, in
conjunction with the exercise of warrants, generating net proceeds to the
Company of $2,153,553. The Company incurred $1,660,142 of fees and expenses in
conjunction with the above transactions.
During 1999, the company issued 3,500 warrants to a consultant. The fair
value of the warrants of $25,685 is being charged to operations over a one-year
period. The warrants have an exercise price of $2.50. The warrants expire in
three years.
During 1999, the Company issued 100,000 warrants to its joint venture
partner which concurrently agreed to purchase 142,857 shares at an aggregate
cost of $2,000,000 of the Company's common stock in the secondary public
offering and agreed to contribute funds to the joint venture project. The total
fair value of these warrants was $907,000 of which 50% was charged as financing
costs and the remaining 50% was charged against paid-in capital. The warrants
have an exercise price of $19.50 and a term of five years.
During 1999, the Company issued 50,000 warrants in exchange for services.
The fair value of these warrants of $405,000 is being charged to operations over
the vesting period. The warrants have an exercise price of $11.50 and a term of
five years. The warrants vest over three years.
During 1999, the Company issued 25,000 warrants in exchange for services.
The fair value of the warrants of $142,000 is being charged to operations over
the vesting period. The warrants have an exercise price of $7.93 and a term of
five years. The warrants vest over three years.
During 1999, the Company issued 50,000 warrants to various finders in
connection with the issuance of the 11% Senior Convertible Discount Notes. The
warrants are exercisable at $10.00 per share and expire on April 5, 2004. The
fair value of the warrants is $352,000.
During 2000, the Company issued 159,916 shares of common stock, in
conjunction with the exercise of warrants and stock options with exercise prices
ranging from $0.01 to $4.00 per share, generating proceeds to the Company of
$379,615.
During 2001, the Company issued 17,100 shares of common stock, in
conjunction with the exercise of stock options with an exercise price of $0.69
per share, generating proceeds to the Company of $11,799.
F-14
b. Preferred Stock Financing
On June 29, 1998, the Company entered into a Stock Purchase Agreement with
certain private and institutional investors. Pursuant to the Stock Purchase
Agreement, the Company sold 200,000 shares of Series A Convertible Preferred
Stock (the "Preferred Stock") for a cash purchase price of $25.00 per share,
resulting in gross proceeds to the Company of $5,000,000. Officers and directors
purchased 15,890 shares of Preferred Stock.
On July 31, 1998 and during December 1998, the Company sold an additional
20,000 shares and 22,500 shares, respectively, of Preferred Stock under the same
terms for aggregate gross proceeds of $1,062,500 of which $100,000 was received
in January 1999. During December 1998, 155,390 shares of Preferred Stock were
converted into 1,553,900 shares of common stock.
In conjunction with the Preferred Stock financing, the Company incurred
direct costs related to such financing of $360,909. In addition, this firm
purchased warrants for $.0625 per warrant to acquire 72,498 shares of common
stock, consisting of 24,166 warrants exercisable at $.01 per share and 48,332
warrants exercisable at $2.50 per share. The warrants are exercisable through
June 2003. The aggregate fair value of such warrants was $401,639. The Company
also paid cash finder's fees to other parties aggregating $28,500.
The Preferred Stock had a liquidation preference of $25.00 per share and
ranked senior to all other series of preferred stock that could have been issued
in the future. Each share of Preferred Stock was convertible into ten shares of
common stock of the Company, and provided for the automatic conversion into
common stock at the then prevailing conversion rate at such time as the Company
completed a public offering which raised not less than $15,000,000 in gross
proceeds and had its common stock listed on a major exchange or the NASDAQ
National Market System. Based on a valuation report prepared by an investment
and merchant banking firm dated July 31, 1998, the Company has determined that
the Preferred Stock was sold at fair market value. In connection with the
secondary public offering in June 1999, the remaining 107,110 shares of
convertible preferred stock were converted into 1,071,110 shares of common
stock.
Robert M. Fell assisted the Company in its Preferred Stock financing during
1998 prior to his appointment as an officer and director of the Company. As a
result of the completion of such financing on June 29, 1998, Mr. Fell acquired
the right to designate four directors of the Company (which right has expired)
and may therefore be deemed to have acquired control of the Company. In
conjunction therewith, on June 29, 1998, the Company entered into a Securities
Purchase Agreement with the Robert M. Fell Living Trust (the "Fell Trust").
Pursuant to the Securities Purchase Agreement, the Fell Trust acquired 20,000
shares of Preferred Stock and a warrant to purchase 1,200,000 shares of the
Company's common stock (the "Fell Warrant"). The purchase price of the Preferred
Stock acquired by the Fell Trust was $25.00 per share, or an aggregate of
$500,000, of which $10,000 was paid in cash and $490,000 was paid in the form of
a promissory note (the "$490,000 Note"). The purchase price of the Fell Warrant
was $75,000, of which $5,000 was paid in cash and $70,000 was paid in the form
of a promissory note (the "$70,000 Note"). Based on a valuation report prepared
by an investment and merchant banking firm dated July 31, 1998, the Company has
determined that the exercise price of the Fell Warrant was at not less than fair
market value. The Fell Warrant had an aggregate fair value of $2,112,000. The
Fell Warrant expires on June 29, 2008, and entitles the Fell Trust to purchase
1,200,000 shares of common stock at $2.50 per share. The Fell Warrant is
exercisable one-sixth on June 29, 1998, and one-sixth thereafter on each six
month anniversary date. The $490,000 Note bears interest at the rate of 8% per
annum, which may, at the option of the Fell Trust, be paid currently or added to
the principal amount of the note. The $490,000 Note is due June 29, 2002,
provided that the Fell Trust is required to prepay the note, without penalty, as
soon as possible consistent with its other cash requirements. The $70,000 Note
bears interest at the rate of 6% per annum, which may, at the option of the Fell
Trust, be paid currently or added to the principal amount of the note. The
$70,000 Note is due on June 29, 2008. The Fell Trust has pledged the Fell
Warrant and the Preferred Stock acquired pursuant to the Securities Purchase
Agreement to secure its obligations under the $490,000 Note and the $70,000
Note. In December 1998,
F-15
the Preferred Stock held by the Fell Trust was converted into common stock,
which remained subject to the pledge to secure the Notes.
On July 8, 1999, the board approved the recommendation of the Compensation
Committee to grant Fell & Company, Inc. a performance-based bonus as a result of
the services of Robert M. Fell which has been credited against the Notes,
consisting of a $280,000 (plus accrued interest), credited in recognition of the
completion of the placement of 11% Senior Convertible Discount Notes, $140,000
(plus accrued interest) credited in recognition of the completion of
Youbet.com's secondary offering, $70,000 (plus accrued interest) credited at
such time as Youbet.com achieves 15,000 customers and $70,000 (plus accrued
interest) to be credited at such time as Youbet.com achieves 25,000 customers.
As a result of the bonuses described above, the $70,000 Note has been satisfied
and the outstanding principal balance on the $490,000 Note has been reduced to
$140,000. The Fell Trust has agreed that the $140,000 Note will be with full
recourse to the Fell Trust and Youbet.com has released to the Fell Trust all of
the collateral pledged in connection with the Note. The $140,000 Note has been
recorded as a reduction to stockholders' equity at December 31, 2000. The
$140,000 Note was fully paid in November 2001.
Effective June 29, 1998, in connection with the Preferred Stock financing,
the Company entered into a Services Agreement with Fell & Company, Inc.,
pursuant to which Mr. Fell would serve as Chairman of the Board of Directors for
a period of three years. The Services Agreement also provided that Mr. Fell
would serve as interim Chief Executive Officer until a new Chief Executive
Officer is appointed, provided that if an employment agreement is not entered
into with a new Chief Executive Officer within six months from June 29, 1998, or
such person does not commence employment within eight months of June 29, 1998,
the position of Chief Executive Officer will become the Office of the Chief
Executive and will consist of Mr. Fell, Mr. Marshall and Mr. Fine. For making
Mr. Fell's services available to the Company, Fell & Company, Inc. would receive
$150,000 per annum, subject to cost of living increases, plus the amount of
payroll taxes the Company would pay if Mr. Fell were an employee of the Company,
and standard benefits. Effective February 23, 1999, the Board of Directors
approved the appointment of Mr. Fell as full-time Chief Executive Officer, and
Mr. Marshall and Mr. Fine agreed to waive the requirement for formation of the
Office of the Chief Executive. The Board of Directors also approved an increase
in the amount payable to Fell & Company, Inc. for making Mr. Fell's services
available to the Company, to $225,000 per annum effective March 1, 1999, subject
to cost of living increases, plus the amount of payroll taxes the Company would
pay if Mr. Fell were an employee of the Company, and standard benefits. The
increase reflects the increase in Mr. Fell's involvement with the Company from
70% to 100% of his available time. During 2000, Robert M. Fell was granted an
option to purchase 300,000 shares of common stock, pursuant to the 1998 Stock
Plan at an exercise price of $4.875. The options have a ten-year term and vest
in two annual installments beginning July 2001.
In May 2001, subject to the execution of the agreements with TVG referred
to under "Issuance of Warrants to TVG," the Fell Services Agreement and related
option and warrant agreements were amended as follows: (a) the base fee was
increased by $150,000 retroactive to March 8, 2000; (b) the exercise price for
750,000 of the Fell Warrants was reduced from $2.50 per share to $0.45 per
share, the exercise price of the remaining Fell Warrants was reduced to $0.97
per share, based upon the price of Youbet.com's common stock after the
announcement of the TVG transaction, and the exercise price of the 300,000 stock
options held by Mr. Fell was reduced from $4.88 per share to $0.97 per share;
(c) for a 90-day period after this stockholders meeting, Fell & Company, Inc.
could terminate the Fell Services Agreement; and (d) if the Fell Services
Agreement was so terminated, (i) Fell & Company, Inc. would receive a lump sum
payment of two times the base fee (increased as provided above), (ii) Youbet.com
must continue to provide the nonsalary benefits provided for in the Fell
Services Agreement for two years, including premium payments on a life insurance
policy, (iii) the 150,000 unvested stock options held by Mr. Fell would vest,
(iv) if Mr. Fell is not then serving as a director, he would render consulting
services (up to ten hours per month) through May 9, 2003 without any additional
compensation and (v) if so requested by the Board, Mr. Fell would serve as
Chairman of the Board through May 9, 2002.
F-16
In June 2001 the Board approved further amendments to the Fell Services
Agreement extending the period of time during which Mr. Fell could terminate the
Fell Services Agreement to one year after this stockholders meeting. Also, in
June 2001, in recognition of Youbet.com's strategic initiatives with respect to
the agreements with TVG and the opening of Youbet.com's Oregon wagering
facility, Mr. Fell agreed to increase the exercise price of all the Fell
Warrants and the 300,000 stock options held by Mr. Fell to $1.09 per share, the
closing trading price of Youbet.com's common stock on June 29, 2001.
Effective November 8, 2001, Mr. Fell resigned as the Company's Chief
Executive Officer. In accordance with the Fell Services Agreement described
above, Mr. Fell received a lump sum payment of two times the base fee, net of
amounts due to Youbet.com (consisting principally of the $140,000 note
receivable plus accrued interest). Mr. Fell continued to render services to
Youbet.com receiving compensation under the Fell Services Agreement through
February 8, 2002. Pursuant to Mr. Fell's resignation agreement on March 21,
2002, the Company agreed to pay Fell and Company $55,000 (which included $38,000
in accrued vacation) in lieu of any future benefits (including whole life
insurance, health/dental/vision/disability insurance, auto allowance and related
auto expenses) that Mr. Fell would have been entitled to under the amended
Services Agreement. Mr. Fell continued as Chairman of the Board of Directors
through March 21, 2002 when he resigned as Chairman of the Board.
c. Other Warrants
The Company has issued various stock options and warrants in non-capital
raising transactions for services rendered and to be rendered, and as financing
costs. The Company accounts for stock options and warrants granted to
non-employees in accordance with Statement of Financial Accounting Standards No.
123, which requires non-cash compensation expense be recognized over the
expected period of benefit. The Company has calculated the fair value of such
warrants and stock options according to the Black-Scholes pricing model. The
resulting amount has been recorded as a charge to deferred compensation, with a
corresponding credit to additional paid-in capital.
In February 1999, the Company issued 3,500 warrants to a consultant. The
fair value of the warrants of $25,685 is being charged to operations over a
one-year period. The warrants have an exercise price of $2.50. The warrants
expire in three years.
In April 1999, the Company issued 50,000 warrants to various finders in
connection with the issuance of the 11% Senior Convertible Discount Notes. The
warrants are exercisable at $10.00 per share and expire on April 5, 2004. The
fair value of the warrants of $352,000 is being charged to operations.
In April 1999, the Company issued 50,000 warrants to a horseracing track
for services rendered. The warrants are exercisable at $11.50 per share and
expire on March 25, 2004. The fair value of the warrants is $405,000 and is
being charged to operations over the service period of three years.
In May 1999, the Company issued warrants as final settlement to a finder in
connection with the issuance of Series A Convertible Preferred Stock in June
1998. The Company issued 13,000 warrants with an exercise price of $.01 and
26,000 warrants with an exercise price of $2.50. The warrants are exercisable
through March 2004. The fair value of the warrants is $216,060 and was charged
to operations as financing costs.
In June 1999, the Company issued 100,000 warrants to its joint venture
partner in connection with the sale of common stock at a total price of
$2,000,000 and the formation of a joint venture project. The warrants are
exercisable at $19.50 per share and expire on June 8, 2004. The fair value of
the warrants is $907,000 of which 50% was charged as financing costs and the
remaining 50% charged against paid-in-capital.
In August 1999, the Company issued 25,000 warrants to a horse racing track
for services rendered. The
F-17
warrants are exercisable at $7.93 per share and expire on August 3, 2002. The
fair value of the warrants is $141,861 and is being charged to operations over
the service period of three years.
In January 2000, the Company issued 10,000 warrants to a horse racing track
for services to be rendered. The warrants are exercisable at $4.28 per share and
expire on December 31, 2005. The warrants vest on the first anniversary of
issuance. The fair value of the warrants is $43,100 and is being charged to
operations over the service period of five years.
During the year ended December 31, 2001, in connection with the TVG
transaction, the Company issued two warrants to TVG to purchase up to 51% of the
outstanding common stock. See Note-3 to the accompanying notes to the
consolidated financial statements.
Information with respect to common stock purchase warrants issued is
summarized as follows:
Weighted
Warrants Exercise Price
---------- --------------
Balance, December 31, 1999........................ 6,857,564 $ 3.76
Warrants issued................................... 10,000 $ 4.28
Exercised......................................... (12,227) $ 0.39
----------
Balance, December 31, 2000........................ 6,855,337 $ 3.76
Warrants issued................................... 3,884,650 $0.001
Warrants issued................................... 16,432,969 $ 2.50
Warrants expired.................................. (1,754,674) $ 4.05
----------
Balance, December 31, 2001........................ 25,418,282 $ 2.29
==========
Warrants exercisable at December 31, 2001......... 25,418,282 $ 2.29
==========
The Company is obligated to issue additional warrants to TVG (in order to
maintain TVG's rights in acquiring 51% of the Company) upon the exercise of any
stock options or warrants, or if the Company issues any additional securities.
The number of warrants to be issued to TVG would be equivalent to the number of
stock options or warrants exercised or the number of additional securities
issued.
Additional information about outstanding warrants to purchase the Company's
common stock at December 31, 2001 is as follows:
Warrants Outstanding and Exercisable
------------------------------------------
Weighted Avg. Weighted
Remaining Avg.
Number Contractual Life Exercise
of Shares (in years) Price
----------- ---------------- ---------
Range of Exercise Prices:
$0.001 - $0.01..................... 3,891,149 2.50 $0.001
$1.09.............................. 1,200,000 6.50 $ 1.09
$2.50.............................. 440,000 Not determinable $ 2.50
$2.50.............................. 17,781,789 2.38 $ 2.50
$2.51 - 5.51....................... 148,844 Not determinable $ 4.55
$2.51 - 5.51....................... 1,731,500 1.03 $ 4.15
$5.51 and over..................... 225,000 2.41 $14.33
----------- ------
Total.............................. 25,418,2821 $2.29
=========== ======
F-18
d. Stock Options
During 1999, the Company granted various stock options, as follows:
(1) The Company issued stock options to four executives under the 1998 Stock
Option Plan to purchase a total of 350,000 shares of common stock at an
exercise price of $10.50 per share, the fair market price at the date of
grant. The stock options vest at specified dates during a period of four
years and are exercisable for a period of ten years. Subsequently, 156,250
of these options were canceled and 150,000 repriced to an exercise price of
$5.31.
(2) The Company issued stock options to employees to purchase 595,050 shares of
common stock at exercise prices ranging from $3.72 to $12.59. Of these
stock options issued, options representing 36,150 shares of common stock
were issued below the fair market value on the date of grant. The aggregate
difference between the exercise price and the fair market value at the date
of grant was $171,629, which is being charged to operations over the
options' vesting period. These options vest over four years and are
exercisable for a period of five years. Subsequently, 19,600 options were
repriced to an exercise price of $5.31.
(3) Stock options were granted to a consultant to purchase 25,000 shares of
common stock at an exercise price of $10.50. The fair value of these
options was $257,750, and is being expensed over the vesting period. These
options vest ratably over two years commencing on the grant date. These
options are exercisable for a period of ten years.
(4) Stock options were granted to a consultant to purchase 30,000 shares of
common stock at an exercise price of $11.13. The fair value of these
options was $238,927, and is being expensed over the vesting period. These
options vest ratably over six months commencing on the grant date. These
options are exercisable for a period of five years. Subsequently, the
options were repriced to an exercise price of $5.31.
(5) Stock options were granted to a Director to purchase 40,000 shares of
common stock at an exercise price of $7.00, the fair market value on the
date of grant. These options vest ratably over a 12 month period and are
exercisable for a period of ten years.
(6) Stock options were granted to a consultant to purchase 10,000 shares of
common stock at an exercise price of $5.00, the fair market value on the
date of grant. The fair value of these options was $47,287 which is being
expensed over the vesting period. These options vest ratably over a ten
month period are exercisable for a period of five years.
(7) Stock options were granted to a consultant to purchase 2,500 shares of
common stock at an exercise price of $6.13, the fair market value on the
date of grant. The fair value of these options was $14,808 which is being
expensed over the vesting period. These options vest ratably over a
six-month period are exercisable for a period of five years.
In December 2000, the Company offered all of its employees, except for the
Chief Executive Officer, the opportunity to reprice their current stock options
to the then current market price in exchange for a 10% reduction in their base
pay. Employees holding 744,417 stock options (including two of the Company's
executive officers holding 425,200 stock options) accepted the Company's offer,
and as such the options are subject to variable plan accounting and the Company
recognized $129,527 in non-cash compensation during the year ended December 31,
2000 (including $62,786 relating to stock options repriced by two executives).
Due to the decline in the
F-19
Company's stock price during 2001, the Company reversed the $129,527 in
non-compensation during the year ended December 31, 2001.
During 2000, the Company granted various stock options, as follows:
(1) The Company issued stock options to three executives to purchase a total of
600,000 shares of common stock at an exercise price ranging from $4.88 to
$4.94 per share, the fair market price at the date of grant. The stock
options vest at specified dates during a period of four years and are
exercisable for a period ranging from five of ten years. Subsequently,
200,000 of these options were canceled and 50,000 of these options were
repriced to an exercise price of $0.69. As such, the repriced options are
subject to variable plan accounting.
(2) The Company issued stock options to employees to purchase 733,349 shares of
common stock at exercise prices ranging from $0.63 to $5.88 per share, the
fair market price at the date of grant. These options vest over four years
and are exercisable for a period of five years. Subsequently, 68,203 of
these options were repriced to an exercise price of $0.69. As such, the
repriced options are subject to variable plan accounting.
(3) Stock options were granted to various consultants to purchase 94,919 shares
of common stock at an exercise price ranging from $0.63 to $5.88 per share,
the fair market price at the date of grant. The fair value of these options
was $272,829, and is being expensed over the vesting period. These options
vest over various periods ranging from one month to four years. These
options are exercisable for a period ranging from five to ten years.
(4) Stock options were granted to five Directors to purchase 200,000 shares of
common stock at an exercise price ranging from $4.78 to $4.94, the fair
market value on the date of grant. These options vest ratably over a 12
month period and are exercisable for a period of ten years. Subsequently,
82,250 of these options were canceled.
During 2001, the Company granted various stock options, as follows:
(1) The Company issued stock options to two executives to purchase a total of
412,600 shares of common stock at an exercise price ranging from $0.97 to
$1.00 per share, the fair market price at the date of grant. The stock
options vest at specified dates during a period of four years and are
exercisable for a period of ten years. In May 2001, the company repriced
300,000 options previously granted to an executive at an exercise price of
$1.09, the fair market price at the date of repricing
(2) The Company issued stock options to non-executive employees to purchase
645,307 shares of common stock at exercise prices ranging from $0.38 to
$1.38 per share, the fair market price at the date of grant. These options
vest over four years and are exercisable for a period of five years. On
August 1, 2001, the company repriced 373,355 options previously granted to
non-executive employees to an exercise price of $1.00, the fair market
price at the date of repricing.
(3) Stock options were granted to various consultants to purchase 15,629 shares
of common stock at an exercise price ranging from $0.38 to $1.27 per share,
the fair market price at the date of grant. The fair value of these options
was $14,457, and is being expensed over the vesting period. These options
vest over various periods ranging from one month to four years. These
options are exercisable for five years. On August 1, 2001, the Company
repriced 5,419 options previously granted to consultants to an exercise
price of $1.00, the fair market price at the date of repricing.
(4) Stock options were granted to three non-employee Directors to purchase
120,000 shares of common stock
F-20
at an exercise price $0.44, the fair market value on the date of
grant. These options vest ratably over a 12 month period and are
exercisable for a period of ten years. On April 3, 2001, the Company
repriced 130,000 options previously granted to two directors to an exercise
price of $0.44, the fair market price at the date of repricing.
Information with respect to activity under the Stock Option Plans is
summarized as follows:
Weighted
Stock Exercise
Options Price
---------- --------
Balance December 31, 1998............................... 1,914,212 $2.64
Options granted......................................... 1,057,550 $7.50
Options exercised....................................... (275,372) $2.53
Options terminated...................................... (261,159) $8.29
---------
Balance December 31, 1999............................... 2,435,231 $4.22
Options granted......................................... 1,648,268 $3.79
Options exercised....................................... (147,725) $2.52
Options terminated...................................... (1,333,453) $5.16
----------
Balance December 31, 2000............................... 2,602,321 $2.75
Options granted......................................... 1,193,536 $1.03
Options exercised....................................... (17,100) $0.69
Options terminated...................................... (627,622) $2.74
----------
Balance December 31, 2001............................... 3,151,135 $1.26
==========
Options exercisable (vested) at December 31, 2001....... 1,852,217 $1.49
==========
Additional information about outstanding options to purchase the Company's
common stock at December 31, 2001 is as follows:
Options Outstanding Options Exercisable
-------------------------------------------- --------------------------
Weighted Avg.
Remaining
Number Contractual Weighted Avg. Number Weighted Avg.
of Shares Life (In Years) Exercise Price of Shares Exercise Price
--------- --------------- -------------- --------- --------------
Range of Exercise Prices:
$0.01 - 0.99.............. 1,754,962 5.04 $0.74 988,050 $0.70
$1.00 - 1.99.............. 900,484 4.78 $1.04 375,978 $1.04
$2.50..................... 334,200 3.73 $2.50 334,200 $2.50
$3.01 - $4.94............. 66,489 5.34 $3.75 66,489 $3.75
$5.51 - $10.50............ 95,000 5.45 $6.73 87,500 $6.81
--------- ---- ----- --------- -----
Total..................... 3,151,135 4.85 $1.26 1,852,217 $1.49
========= ==== ===== ========= =====
On August 1, 2001, the Board of Directors approved an option repricing plan
whereby each current non-executive employees' previously issued stock options at
a strike price above $1.00, were repriced to the then current market price of
the common stock ($1.00). The Board believed that many of the stock options
F-21
previously granted by the Company no longer provided the performance incentive
intended by the option because the exercise price of many of the Company's
outstanding stock options was well in excess of the market price of the common
stock. Pursuant to the repricing plan, 378,774 options were repriced to $1.00.
Each repriced option retained its expiration date and vesting schedule.
The Company accounts for stock options issued to officers and employees
under Accounting Principles Board Opinion No. 25, under which no compensation
cost is recognized. Options granted to outside directors are accounted for in
accordance with Statement of Financial Accounting Standards No. 123. If
compensation expense for stock options issued to officers and employees had been
determined based upon the fair value at the grant date consistent with the
methodology prescribed under Statement of Financial Accounting Standards No.
123, the net loss and basic loss per share would have been as shown below. The
fair value of stock options granted under the Company's Plans was estimated on
the date of grant using the Black-Scholes option pricing model using the
following weighted average assumptions:
2001 2000 1999
----- ----- -----
Expected life in years................................ 6.33 7.74 5
Risk free interest rate............................... 5.17% 6.00% 6.75%
Dividend yield........................................ 0% 0% 0%
Expected volatility................................... 135.8% 113.7% 101.7%
The weighted average fair value at the date of grant for stock options and
warrants granted during 2001, 2000, and 1999 was $1.03 per option and $2.02 per
warrant in 2001, $3.79 per option and $4.28 per warrant in 2000, and $6.11 per
option and $7.65 per warrant, respectively.
Year Ended December 31,
-----------------------------------------
2001 2000 1999
------------ ----------- ------------
Net loss
As reported..................... $(14,799,182) $(1,741,401) $(24,486,268)
Pro forma....................... $(17,324,216) $(4,309,989) $(25,825,592)
Net loss per share
As reported..................... $ (0.76) $ (0.09) $ (1.45)
Pro forma....................... $ (0.89) $ (0.22) $ (1.52)
NOTE 9-CAPITAL AND OPERATING LEASES
On March 11, 2000, the Company entered into a lease agreement on an
approximately 30,000 square foot facility in Los Angeles, California. The base
term of the lease is ten years with an option to extend an additional five
years. Base rent payments are $60,078 per month with annual increases as
specified in the lease agreement. Lease payments commenced July 13, 2000. Rent
expense under this lease was $720,936 and $300,390 for the years ended December
31, 2001, and 2000 respectively. In conjunction with this lease agreement,
Youbet.com obtained a one-year $1,029,000 letter of credit, which was secured by
cash. Youbet.com is obligated for the next ten years to obtain a letter of
credit equal to the original amount of $1,029,000 less $107,867 per year for
every year elapsed during the first five years and less $97,867 per year for
every year elapsed thereafter. As of December 31, 2001, Youbet.com had obtained
a letter of credit in the amount of $920,805, which is classified as restricted
cash in the Company's accompanying audited consolidated financial statements.
The Company did not renew the letter of credit when it expired on March 28, 2002
and as such the landlord drew $920,805 against the letter of credit and is
holding the monies as a deposit. Management intends
F-22
to obtain a new letter of credit to replace the prior one. Upon replacement of
the letter of credit, the landlord will refund the aforementioned deposit to the
Company.
On July 1, 2001 the Company entered into a lease agreement for its Oregon
facility. The base term of the lease is three years. Base rent payments are
$2,103 per month with annual increases as specified in the lease agreement. Rent
expense for 2001 was $12,618.
Future obligations under these lease agreements are as follows:
Year ending December 31, Amount
- ------------------------ ----------
2002.............................................................. $ 757,365
2003.............................................................. 780,085
2004.............................................................. 789,699
2005.............................................................. 799,603
2006.............................................................. 823,591
2007 and thereafter............................................... 3,078,637
----------
$7,028,980
==========
NOTE 10-COMMITMENTS AND CONTINGENCIES
Effective March 11, 2002 Charles Champion and Youbet.com entered into an
employment agreement pursuant to which Mr. Champion serves as a Director,
President and Chief Operating Officer of Youbet.com through March 2005. This
employment agreement provides for Mr. Champion to receive an annual salary of
$200,000 during the first year and subject to annual increases. Mr. Champion
received $25,000 as a signing bonus and is also eligible to receive an annual
bonus during the first year to be determined by the Board in its discretion and
based on attaining certain profitability goals thereafter. Mr. Champion was
issued 400,000 in stock options at $0.50 per share.
The Company entered into employment agreements with Russell M. Fine which
provided for a term of five years and compensation of $150,000 per annum,
subject to cost of living increases. Mr. Fine's agreement was terminated on May
3, 2000 and he resigned as a member of the Board of Directors and as the Chief
Technology Officer. Effective May 3, 2000 Mr. Fine and Youbet.com entered into a
consulting agreement pursuant to which Mr. Fine will provide consulting services
to Youbet.com for a period of three years. For making his services available,
Mr. Fine receives a base fee of $182,500 per year and other miscellaneous
benefits.
In March 2001 Ron Luniewski and Youbet.com entered into an employment
agreement pursuant to which Mr. Luniewski serves as Executive Vice President and
Chief Operating Officer of Youbet.com through April 2002. This employment
agreement provides for Mr. Luniewski to receive an annual salary of $157,500,
however, effective May 1, 2001, the salary was increased to $175,000. Mr.
Luniewski was also eligible to receive an annual bonus determined by the Board
in its discretion. This employment agreement replaced an employment agreement
entered into between Mr. Luniewski and Youbet.com in February 2000, expiring on
April 2001 which had substantially the same terms. Mr. Luniewski resigned as
Co-Chief Executive Officer and Director effective March 14, 2002. Mr. Luniewski
served as a non-officer employee until April 5, 2002.
Effective November 8, 2001 Phillip Hermann and Youbet.com entered into an
employment agreement pursuant to which Mr. Hermann would serve as Co-Chief
Executive Officer and Chief Financial Officer of Youbet.com through April 2003.
This employment agreement provided for Mr. Hermann to receive an annual salary
of $175,000. Mr. Hermann was also eligible to receive an annual bonus determined
by the Board in its discretion. Mr. Hermann was
F-23
issued 100,000 in stock options at $1.00, the fair market value at the date of
the grant. This employment agreement replaced an employment agreement entered
into between Mr. Hermann and Youbet.com in March 2001 expiring in April 2002
which had substantially the same terms. On March 21, 2002, Mr. Hermann and
Youbet.com entered into an employment agreement pursuant to which Mr. Hermann
serves as President, Chief Operating Officer, and Chief Financial Officer of
Youbet.com through April 2004. This employment agreement provides for Mr.
Hermann to receive an annual salary of $225,000. Mr. Hermann is also eligible to
receive an annual bonus determined by the Board in its discretion. Mr. Hermann
was issued 200,000 in stock options at $0.64, the fair market value at the date
of the grant. In addition, on October 27, 2001, Mr. Hermann and Youbet.com
entered into a one year severance agreement pursuant to which upon a change of
control as defined in the severance agreement, and at Mr. Hermann's election,
Mr. Hermann can terminate his employment agreement and receive a lump sum
payment equal to one year salary plus benefits. In addition, if Mr. Hermann
elects to terminate his employment agreement, all options held by Mr. Hermann
become vested immediately and Mr. Hermann will have three years to exercise his
options from the date of termination. On March 28, 2002, Mr. Hermann resigned as
President and Chief Operating Officer. On April 11, 2002, the Company entered
into a Seperation Agreement (the "Agreement") with Mr. Hermann whereby,
effective immediately, Mr. Hermann resigned as an executive officer of the
Company and as a member of the Board of Directors. Mr. Hermann will continue to
serve as Chief Financial Officer for up to 90 days or until he is replaced.
Under the terms of the Agreement, Mr. Hermann will provide services to
Youbet.com until December 31, 2003. For making his services available, Mr.
Hermann will receive his annual salary and other benefits. As part of the
Agreement, Mr. Hermann's stock options became fully vested and as consideration,
Mr. Hermann agreed to certain restrictions on the sale of shares underlying his
stock options and to relinquish 130,000 of his stock options.
NOTE 11-LEGAL PROCEEDINGS
On June 4, 1999, a complaint was filed against Youbet.com in the Court of
Chancery of the State of Delaware in and for New Castle County entitled George
Von Opel v. Youbet.com Inc. (C.A. No. 17200 NC). In the complaint Mr. Von Opel
alleges that Youbet.com breached its contractual obligation pursuant to a
Private Placement Memorandum by failing to register the shares of common stock
underlying 400,000 warrants issued by Youbet.com to an affiliate of Mr. Von
Opel. The complaint seeks specific performance of the alleged obligation to
register such shares and damages for alleged breach of contract in the amount of
$8.7 million. The Company has answered the complaint and intends to defend
itself vigorously in the action. On August 19, 1999, Mr. Von Opel moved for
summary judgment on the issue of liability, which on June 2, 2000, the court
denied. The Company is proceeding with discovery and has noticed the deposition
of Mr. Von Opel. As the litigation is at an initial stage, an outcome cannot be
predicted at this time.
On October 13, 1999, a search warrant was served on the Company by the Los
Angeles Police Department in connection with an investigation by the Los Angeles
Police Department and the Los Angeles County District Attorney's Office. In
cooperation with the investigation, effective November 10, 1999, the Company
voluntarily suspended reception and transmission of wagering information from
California residents and accelerated its implementation of a new data center
outside the state of California. On January 14, 2000, the Company reached a
civil resolution with the Los Angeles County District Attorney and the Los
Angeles Police Department. The Company entered into a stipulation with the
District Attorney resulting in the entry of a civil judgment and injunction in
which the Company admitted no wrongdoing and no factual or legal findings were
made. In connection with the settlement, the Company disbursed a total of
$1,308,250, consisting of $208,250 in cost reimbursements, $600,000 in civil
payments, $300,000 in contributions to the Los Angeles County Education
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Foundation in support of computer education and $200,000 to the California
Council on Problem Gambling. The Company incurred approximately $150,000 of
legal fees in connection with this investigation. As part of the settlement, the
Company agreed that until California law is clarified, California customers
would not be allowed to place wagers on the You Bet Network. As of December 31,
2001, approximately 16% of Youbet.com's customers were from California. On
February 21, 2002, Youbet.com received a license from the California Horse
Racing Board authorizing the Company to accept online and telephone horse racing
pari-mutuel wagering from California residents. The acceptance and placement of
wagers will be processed through Youbet Oregon, Inc.
The Company received correspondence from the Business Software Alliance
("BSA") alleging the Company had used or installed unauthorized copies of
software products on its computers. In their correspondence, BSA proposed to
settle their claims against the Company for a settlement amount of $824,000,
based on twice the alleged value of the unauthorized software installed.
Management believes that the BSA claims are substantially overstated. Management
cannot predict the outcome of this claim.
The Company was served with a lawsuit from a vendor claiming nonpayment of
services in the amount of approximately $300,000. The Company filed a counter
claim against the vendor. The Company has entered into negotiations with the
vendor, and management cannot predict the outcome of these negotiations.
The Company is also a party to certain other claims, actions, and
proceedings incidental to its business, none of which is expected to have a
material adverse effect on the business, financial position or results of
operations of the Company.
NOTE 12-INCOME TAXES
The Company has recorded a provision for current minimum state income taxes
in the accompanying consolidated financial statements. At December 31, 2001, the
Company has available Federal and State net operating loss carryforwards of
approximately $56,077,000 and $35,818,000, respectively, for income tax
purposes, which expire in varying amounts through 2021 for federal and 2006 for
state purposes.
The provision differs from the expense that would result from applying the
Federal statutory rate of 34% to income before taxes primarily because of state
income taxes and the valuation allowance on deferred tax assets.
The net operating loss carryforward generated a deferred tax asset of
approximately $22,232,000 as of December 31, 2001. The deferred tax asset has
not been recognized since management is unable to determine it is more likely
than not that it will be realized. Accordingly, a 100% valuation allowance has
been provided. Under the Federal Tax Law Internal Revenue Code Section 382, the
exercise of warrants issued in 2001 may create certain significant changes in
ownership that may restrict the future utilization of these tax loss
carryforwards.
NOTE 13-SUBSEQUENT EVENT
The Company entered into a Securities Purchase Agreement on March 21, 2002,
whereby the Company issued a series of one-year secured notes (the "Notes") in
the aggregate principal amount of $750,000 at an interest rate of 12% to the
Company's Chairman of the Board and Chief Executive Officer and seven other
investors. Both principal and all interest accrued on these Notes will be
payable at the earlier of a) one-year from the date of issuance, or b) upon the
Company's completion of funding in an amount greater than two million dollars
($2,000,000), excluding the Notes, in any ninety-day period prior to the
maturity of the Note. In connection with issuance of the Notes, the Company
issued five-year warrants to purchase 750,000 shares of the Company's common
stock at an exercise price of $0.50 per share.
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