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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO SECTIONS 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 For the fiscal year ended December 31, 2001.
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from __________ to __________
Commission file number 000-28871
SWITCHBOARD INCORPORATED
(Exact Name of Registrant as Specified in Its Charter)
Delaware 04-3321134
(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)
120 FLANDERS ROAD
WESTBORO, MASSACHUSETTS 01581
(Address and Zip Code of Principal Executive Offices)
Registrant's telephone number, including area code: 508-898-8000
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $0.01 par value per share
(Title of Class)
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [_]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of 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. [ ]
As of March 22, 2002, the aggregate market value of the voting common stock held
by non-affiliates of the Registrant was approximately $10,086,000 (reference is
made to Part II, Item 5 of this Annual Report on Form 10-K for the statement of
assumptions upon which this calculation is based).
On March 22, 2002, there were 18,334,276 shares of the Registrant's common stock
outstanding. The Registrant has no shares of non-voting common stock authorized
or outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant's Definitive Proxy Statement for its 2002 Annual
Meeting of Stockholders scheduled to be held on May 16, 2002 (the "2002 Proxy
Statement"), which will be filed with the Securities and Exchange Commission not
later than 120 days after December 31, 2001, are incorporated by reference into
Part III of this Annual Report on Form 10-K. With the exception of the portions
of the 2002 Proxy Statement expressly incorporated into this Annual Report on
Form 10-K by reference, such document shall not be deemed filed as part of this
Form 10-K.
FORWARD LOOKING STATEMENTS
This Annual Report on Form 10-K includes forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933 and Section 21E of the
Securities Exchange Act of 1934 that are subject to a number of risks and
uncertainties. All statements, other than statements of historical facts,
included in this Annual Report on Form 10-K regarding our strategy, future
operations, financial position, estimated revenues, projected costs, prospects,
plans, and objectives of management are forward-looking statements. When used in
this Annual Report on Form 10-K, the words "will", "believe", "anticipate",
"intend", "estimate", "expect", "project", and similar expressions are intended
to identify forward-looking statements, although not all forward-looking
statements contain these identifying words. We cannot guarantee future results,
levels of activity, performance or achievements and you should not place undue
reliance on our forward-looking statements. Our forward-looking statements do
not reflect the potential impact of any future acquisitions, mergers,
dispositions, joint ventures or strategic alliances. Our actual results could
differ materially from those anticipated in these forward-looking statements as
a result of various factors, including the risks described in "Management's
Discussion and Analysis of Financial Condition and Results of Operations -
Factors Affecting Our Operating Results, Business Prospects and the Market Price
of Our Stock" and elsewhere in this Annual Report on Form 10-K. We do not assume
any obligations to update any of the forward-looking statements we make.
WEB SITE ADDRESS
Our Web site address is www.switchboard.com. References in this Annual Report on
Form 10-K to www.switchboard.com, switchboard.com, any variations of the
foregoing or any other uniform resource locator, or URL, are inactive textual
references only. The information on our Web site or at any other URL is not
incorporated by reference into this Annual Report on Form 10-K and should not be
considered to be a part of this document.
TRADEMARKS
Switchboard, Ad Studio, MapsOnUs, My Corner, My Studio, SideClick, Think Outside
the Book and What's Nearby are registered service marks of Switchboard
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Incorporated. Deals Nearby, Envenue, It's the Yellow Pages. Electrified.,
Nearbuy, and Switchboard Matrix are service marks of Switchboard Incorporated.
Other product, company or organization names cited in this Annual Report on Form
10-K may be service marks, trademarks or trade names of their respective
companies or organizations.
2
SWITCHBAORD INCORPORATED
2001 ANNUAL REPORT ON FORM 10-K
TABLE OF CONTENTS
Part I
Item 1: Business......................................................................... 4
Item 2: Properties....................................................................... 10
Item 3: Legal Proceedings................................................................ 10
Item 4: Submission of Matters to a Vote of Security Holders.............................. 10
Executive Officers of the Registrant............................................. 10
Part II
Item 5: Market for the Registrant's Common Equity and Related Stockholder Matters........ 11
Item 6: Selected Consolidated Financial Data............................................. 12
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations.................................................................... 13
Item 7a. Quantitative and Qualitative Disclosures About Market Risks...................... 31
Item 8. Consolidated Financial Statements and Supplementary Data......................... 32
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial
Disclosure....................................................................... 58
Part III
Item 10. Directors and Executive Officers of the Registrant............................... 58
Item 11. Executive Compensation........................................................... 58
Item 12. Security Ownership of Certain Beneficial Owners and Management and
Related Stockholder Matters...................................................... 58
Item 13. Certain Relationships and Related Transactions................................... 58
Part IV.
Item 14. Exhibits, Consolidated Financial Statement Schedules and Reports on Form
8-K.............................................................................. 59
Signatures....................................................................... 63
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PART I
ITEM 1. BUSINESS
Our Company
Switchboard is a leading provider of Web hosted directory technologies and
customized yellow pages platforms to yellow pages publishers, newspaper
publishers and Internet portals that offer online local directory advertising
solutions to national retailers and "brick and mortar" merchants across a full
range of Internet and wireless platforms. Switchboard offers a broad range of
functions, content and services, including yellow and white pages, product
searching, location based searching, and interactive maps and driving
directions. Our Web site, Switchboard.com, is a showcase for our technology and
breadth of directory product offerings, and is a resource to consumers and
businesses alike.
Switchboard is a Delaware corporation, which commenced operations in
February 1996. From our inception in February 1996 until March 2000, we had been
a unit and later a subsidiary of ePresence, Inc. (formerly Banyan Worldwide). As
of December 31, 2001, ePresence beneficially owned approximately 53.7% of our
common stock. We operate in one business segment.
Our Market Opportunity
For decades, the yellow pages has been a primary source of local directory
information for individuals and businesses. The yellow pages are entrenched in
our daily lives and can be found in substantially every home and office.
According to the Kelsey Group ("Kelsey"), a global authority on local and
personalized commerce intelligence, the yellow pages industry today serves an
estimated $14 billion annual market. Kelsey reports that while most of that
market still purchases yellow pages advertising in traditional printed form, the
industry is experiencing a migration from paper to online. Approximately 10% of
yellow pages directory inquiries were conducted online in 2001 compared to
approximately 2% in 2000, according to Kelsey. Kelsey expects that the trend
will continue with projections of 25% growth in annual Internet yellow pages
traffic during the next several years. Kelsey further reports that the Internet
yellow pages market is forecasted to reach $6 billion by 2006. We believe that
as a leading provider of Web-based directory technology we are well positioned
to capitalize on this opportunity through our network of current and future
merchant network partners.
Our Solution
We believe we provide the only complete, end-to-end yellow pages platform
available today for companies strategically focused on developing a successful
online directory business under their own brands. Born out of the development of
highly scalable proprietary database and search technology, and rich customer
and advertising management tools, our comprehensive suite of products and
services are fully integrated to meet the needs of our merchant network alliance
partners, their merchant customers, and the millions of consumers across the
country who use the Switchboard platform, through Switchboard.com and the
Internet brands of our extensive network of partners, to locate business and
residential information locally and nationally.
Merchant Network Alliance Partners - With a focus on an alliance-oriented
- ----------------------------------
scalable business model, our entire platform can be highly tuned, quickly and
efficiently, to meet each alliance partner's unique business requirements,
allowing them to cost-effectively develop and grow their online directory
business.
Merchant Advertisers - With a focus on findability, we create a variety of
- --------------------
advertising products that provide merchants with a Web presence that is highly
targeted to ready-to-buy consumers looking for the products and services that
those merchants offer.
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Consumers - With a focus on user experience, we create simple user interfaces
- ---------
backed by sophisticated searching capabilities to deliver accurate results
quickly and easily.
Our Strategy
Our business model is primarily based on receiving a fee from our merchant
network alliance partners for businesses promoted in the directory platforms
that we develop and deploy for those alliance partners. We believe our future
growth is dependent upon our execution of the following strategies:
* First, we intend to continue to invest in improving our technology and
the functionality of our directory platform. Through the ongoing
evolution of the directory platform, our alliance partners will
continue to have access to products designed to allow them to deliver
increasing value to their merchant customers.
* Second, we intend to work with each of our alliance partners to grow
their online base of merchant customers, by providing solid support,
training and tools focused on permitting them to reliably sell and
support hundreds of thousands of merchant customers with our
technology.
* Third, we intend to focus on continued channel growth, increasing the
number of alliance partners using our platform and selling directory
advertising to merchants. We will target new independent yellow pages
publishers, Regional Bell Operating Companies, or RBOCs, newspaper
publishers and Internet portals to add to our extensive list of
existing merchant network alliances.
Our Products
Yellow Pages Platform - Our Web-hosted yellow pages platform is comprised of
- ---------------------
four fully integrated components that enable our alliance partners to develop
and manage their online directory business.
* Sophisticated Database and Search Engine - We believe we provide the
most scalable, reliable and high performance directory engine in the
market today. Through our proprietary database technology, we are able
to easily merge data from multiple sources, allowing us to provide
timely and comprehensive content to our platform customers. With the
release of our Switchboard Matrix technology expected in 2002, we
expect to be first-to-market with the introduction of searchable "copy
points", enhanced data typically found in paper yellow pages
advertising, enabling merchants to be found via a wide variety of
attributes, including product and service offerings, business hours,
specialties, etc., moving beyond the traditional category / location
searching of other paper-based or online yellow pages offerings.
* Customizable Advertising Product Suite and Business Rules - Within the
yellow pages platform we provide a complete suite of local and national
advertising products that can be fully customized to match the unique
packaging and pricing requirements of our merchant network alliance
partners. With the expected introduction of our searchable "copy point"
model, we will be able to align our online advertising products with
traditional yellow pages products offering similar enhanced data in a
printed medium, greatly improving our ability to streamline our
alliance partners' sales efforts.
* Comprehensive Merchant Management Tools - We have developed three
different tiers of merchant management software solutions to provide
our partners with the level of functionality that works most
efficiently in coordination with their existing in-house systems. For
alliance partners looking for a complete merchant management solution,
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we provide a rich customer relationship management (CRM) package that
tracks customer activity, performs billing functions and manages
merchant advertising. Our CRM package also can be easily integrated
with other third party applications to enable customer support
representatives to manage the fulfillment of a variety of products from
within a single interface. For alliance partners that already possess
CRM infrastructure, we provide a secure, Web-based merchant management
tool that allows alliance partners to easily manage advertising
campaigns and merchant collateral within the yellow pages system.
Lastly, for alliance partners who regularly inject large volumes of
merchant advertisements into the system, we provide a bulk load
interface that allows formatted files containing merchant information
and ad specifications to be programmatically processed.
* Cobrandable User Interface - Through ongoing usability testing and
close analysis of consumer use of online yellow pages, we continue to
evolve our user interface and searching capabilities to quickly connect
consumers with the most relevant results. Through the modular
organization of functional elements of our interface, we can customize
the look and feel so that it is consistent with the look and feel of
our alliance partners' Web sites and branding. These modules separate
the functional elements from the layout elements, such as site
appearance, thus facilitating rapid development. As we enhance or build
new functional elements, the underlying architecture enables us to
deploy these elements across all of the Web sites of our alliance
partners without making individual changes to each specific
implementation.
Switchboard.com - Our flagship Web site and the first site to deliver national
- ---------------
directory services on the Internet in 1996, Switchboard.com is a showcase for
our technology platform. Providing a free alternative to costly directory
assistance charges, over 80 million page views are generated on the site each
month by more than 3 million consumers performing business, people and product
lookups both at home and in the workplace. Yellow pages and general site
advertising on the Switchboard.com Web site can be purchased through our direct
sales force as well as through our alliance partners who sell to their local
merchant customers the additional distribution of their advertisement within the
Switchboard.com Web site (Switchboard Distribution) in conjunction with their
own online yellow pages products.
Product Directory - Our "Find a Product" directory service helps consumers find
- -----------------
the things they want from local brick and mortar businesses. By importing and
organizing high volumes of data from retail inventory databases, point-of-sale
systems, and other sources of structured product information, our product
directory platform lets consumers easily perform complex product searches by
inputting a wide array of criteria including product descriptions, brands, and
model numbers. Our Product Directory is deployed on Switchboard.com and our
alliance partner network as well as across wireless carriers Sprint PCS, AT&T
Wireless, Cingular and Nextel, who offer access to the directory to their
Web-enabled customers.
MapsOnUs.com - Maps and Directions - Our MapsOnUs technology integrates maps and
- ------------
driving directions into many areas of our directory platform, and is also
available through our MapsOnUs.com Web site. Utilizing our MapsOnUs
capabilities, we are able to provide businesses with Dealer Locators that can be
easily integrated into their Web sites to help visitors locate the closest
outlet, dealer or franchisee, such as the Post Office locator currently
implemented for the United States Postal Service on USPS.com. We also customize
the MapsOnUs maps and driving directions content for licensing to a number of
online destinations.
Principal Sources of Revenue
Merchant Network Revenue
- ------------------------
Directory Platform - Merchant alliance partners typically pay us an
engineering fee for the creation and modification of a Web-hosted
directory platform, a fee for the platform based upon the size and
complexity of the platform we create for them, plus a per-merchant fee
per month based upon the number of merchants they promote within the
platform. In 2001, our merchant network alliance partner America
Online Inc. represented a significant portion of our revenue. AOL
accounted for 25.4% of total revenue in 2001. We anticipate that AOL
will represent an even greater percentage of our revenue in 2002 and
will be a material component of our overall business.
Distribution of Merchant Network Partner Advertisements on
Switchboard.com - We offer our merchant network alliance partners,
including those within the Certified Marketing Representative (CMR)
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channel, the ability to sell Switchboard.com distribution to their
merchant advertisers. Our merchant network alliance partners typically
pay us a monthly fee based upon the number of merchant advertisements
placed into Switchboard.com.
Banner and Site Sponsorship Advertising Revenue
- -----------------------------------------------
We also derive advertising revenue through our Switchboard.com Web site in the
following ways:
Banner and Sponsorship Advertising - We offer both site-wide banner and
category-specific banner programs on the Switchboard.com Web site. We
provide standard run of site banner ad programs, which include full
banners across the top and bottom of Web pages and smaller banners on
the navigation bar on the Web site that allow advertisers to take
advantage of our high traffic volume on Switchboard.com. Additionally,
our patented banner ad serving technology enables us to place and
rotate category-specific banner ads of various sizes in targeted
locations throughout our site. We also sell sponsorship programs on a
site-wide basis or for various categories. Sponsorships are
advertisements consistently and prominently displayed on our Web site.
Customers typically pay us on a cost per thousand impressions (CPM) or
cost per action (CPA) basis for banner and sponsorship advertising.
During the year ended December 31, 2001, one advertising customer
accounted for 16.8% of our revenue.
E-Commerce Advertising - We offer advertisements on various pages on
our Web site for advertisers engaged in e-commerce. These
advertisements can be placed under specific headings near a white pages
search result. We also provide links to our shopping area near our
white pages search results. In our shopping area, we offer e-commerce
advertisers the opportunity to promote product specials and provide
links to e-commerce advertisers' Web sites. Customers typically pay us
for this service on a CPM or CPA basis.
Technology
We have developed sophisticated technologies that enable rapid
dissemination of information requested by consumers using our Web site. These
technologies were conceived and developed by a staff of senior engineers
experienced in designing large-scale, distributed computer systems, a form of
computer architecture that divides system functionality over numerous computers,
each known as a server, to enhance overall system performance and reliability.
We also have particular strengths in the areas of database technologies,
advertising management, and content customization.
Directory Technology
- --------------------
We have been affiliated with ePresence, a pioneer of directory technology,
since our founding in 1996. Directories played a key role in the large-scale,
multiple-site distributed systems deployed by Banyan Systems Incorporated (now
ePresence) since 1983. Our founder, Dean Polnerow, designed and originally
developed StreetTalkTM, Banyan's directory service. Building on this experience
to create our own proprietary directory technology, we created what we believe
to be the first national directory of United States residential information
available on the Internet, as well as our innovative and proprietary yellow
pages business directory.
Site Design
- -----------
Our directory technology was designed to provide high levels of
performance, scalability, and reliability. The directory is implemented as a set
of Windows NT servers that are organized into groups. Each group of servers
provides different parts of the overall site's functionality and each type of
functionality is provided by more than one group of servers. Individual servers
in a group can be added or removed without affecting the functional capabilities
of the site, and most changes required are managed automatically by proprietary
software that we developed. This distributed architecture is designed to be
highly scalable, which means that system capacity and functionality can be
7
easily and inexpensively increased, typically with minimal or no time-consuming
software changes required. It is also designed to be reliable, which means it is
resistant to service interruptions and the unavailability of one or more servers
does not affect the operation of other servers or the directory as a whole.
Database Search Technologies
- ----------------------------
We have developed technology designed to quickly exchange information
between the groups of servers that provide the interface consumers use to input
their requests for information with the groups of servers that store the
databases of information we use to respond to these requests. This technology
allows data from multiple databases to be accessed and combined, regardless of
its structure or content. This simplifies the development of new user interfaces
and facilitates database updates. Our database technology helps to maximize Web
site performance through sophisticated in-memory data structures that are
optimized for rapid searching of various combinations of data elements, and by
automatically balancing the tasks being performed by individual servers.
Our database technology includes sophisticated query management techniques,
which enable requests for large amounts of data to be retrieved in segments
while reducing the computer processing time typically associated with these
operations using conventional design techniques. This enables ready access to a
large amount of data stored in any of the databases and results in faster
responses to the user.
Advertising Management
- ----------------------
Our ad placement technology is used primarily to control the frequency and
positioning of advertisements displayed on our Web site. This technology rotates
merchant ad displays in and out of prime locations on our yellow pages screens
according to priorities specifically purchased by our merchant customers. We use
an automated chain of software programs to securely facilitate the addition and
removal of both individual ads and large, aggregated volumes of merchant
advertising into our yellow pages directory.
We have also developed a proprietary ad placement methodology which
provides a simple way to allow a merchant to focus its advertising to the
surrounding communities it desires to target. This technology uses the physical
location of a business and a distance measurement selected by the merchant to
automatically determine the appropriate location targets. These ad management
tools and processes enable our direct sales force and authorized ad resellers to
remotely manage and control national, regional, and local ad campaigns.
Competition
Our competition falls into four primary categories:
* traditional and online white and yellow pages publishers not utilizing
our platform, including regional telephone companies and major Web
portals;
* companies providing alternative Web-enabled white and yellow page
directories, including Verizon New Media Services, Inc.;
* companies providing alternative Web-enabled advertising solutions for
small businesses;
* traditional advertising media, including TV, radio and print.
We compete in the markets for Internet content, services, and advertising.
These markets are highly competitive, and we expect competition to increase in
the future with the entrance of new competitors. The online local advertising
market is rapidly developing. We believe that the sophistication and complexity
of our technology, and the depth and breadth of our offering to our partners,
creates a significant barrier to entry for new competitors.
8
We believe our ability to compete successfully depends on many factors,
several of which are outside of our control. These factors include the quality
of content we provide relative to our competitors, the cost-effectiveness and
reliability of our services relative to our competitors, and our ability to
generate value for local merchants and national retailers.
We also compete with traditional advertising media, including television,
radio, and print, for a share of advertisers' total advertising budgets. If
advertisers consider online advertising to be a limited or ineffective
advertising media, advertisers may be reluctant to devote a significant amount
of their advertising dollars to advertising on our platform.
Intellectual Property
We regard our patents, copyrights, service marks, trademarks, trade dress,
trade secrets, and other intellectual property as critical to our success. We
rely on a combination of patent, trademark and copyright law, trade secret
protection and confidentiality, and license agreements with our employees,
consultants, customers, alliance partners, and others to protect our proprietary
rights. All of our employees have executed confidentiality and assignment of
invention agreements. Prior to disclosing confidential information to third
parties, we generally require them to sign confidentiality or other agreements
restricting the use and disclosure of our confidential information.
As of December 31, 2001, we had six patents issued by the U.S. Patent and
Trademark Office, two patents issued by the Canadian Intellectual Property
Office, two patent applications pending before the U.S. Patent and Trademark
Office, two patent applications pending before the Canadian Intellectual
Property Office and two pending patent applications under the Patent Cooperation
Treaty, all of which relate to the operation, features or performance of our Web
site. We pursue registration of our key trademarks and service marks in the
United States and, in some cases, internationally. However, effective trademark,
service mark, copyright and trade secret protection may not be available or
sought by us in every country in which our services are made available online.
Our patents, trademarks, or other intellectual property rights may be
successfully challenged by others or invalidated through administrative process
or litigation. Further, the validity, enforceability and scope of protection of
proprietary rights in Internet-related industries is uncertain and still
evolving.
We license our proprietary rights, such as patents, trademarks, and
copyrighted material, to third parties. Despite our efforts to protect our
proprietary rights, third parties may infringe or misappropriate our rights or
diminish the quality or reputation associated with our brand, which could have a
long-term material adverse affect on our business, results of operations, or
financial condition.
In addition, we license software, content and other intellectual property,
including trademarks, patents, and copyrighted material, from third parties. In
particular, we license residential and business listing data from infoUSA under
an agreement that expires in December 2002, and maps and driving directions data
and related software from Tele Atlas North America, Inc. under an agreement that
expires in November 2002. Further, the software code underlying Switchboard.com
contains software code which is licensed to us by third parties. If any of these
licenses are terminated or expire, it could have a material adverse effect on
our business, results of operations, or financial condition.
We currently own a number of Internet domain names, including
Switchboard.com and MapsOnUs.com. Domain names generally are regulated by
Internet regulatory bodies. The relationship between regulations governing
domain names and laws protecting trademarks and similar proprietary rights is
unclear. Therefore, we could be unable to prevent third parties from acquiring
domain names that infringe or otherwise decrease the value of our trademarks and
other proprietary rights.
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Employees
As of December 31, 2001, we had 80 full-time employees. None of our
employees are represented by a labor union. We believe our relations with our
employees are good.
ITEM 2. PROPERTIES
Our principal administrative, sales and marketing, and research and
development facilities are located in Westboro, Massachusetts and consist of
approximately 25,500 square feet under a sublease that expires on December 31,
2002, with an aggregate annual base rent of approximately $518,000. We sublease
this space from ePresence.
In addition, we lease sales offices in New York and Michigan.
ITEM 3. LEGAL PROCEEDINGS
On November 21, 2001, a class action lawsuit was filed in the United States
District Court for the Southern District of New York naming as defendants
Switchboard, the managing underwriters of Switchboard's initial public offering,
Douglas J. Greenlaw, Dean Polnerow, and John P. Jewett. Mr. Greenlaw and Mr.
Polnerow are officers of Switchboard, and Mr. Jewett is a former officer of
Switchboard. The complaint is captioned Kristina Ly v. Switchboard Incorporated,
et al., 01-CV-10595. The complaint alleges that the registration statement and
final prospectus relating to Switchboard's initial public offering contained
material misrepresentations and/or omissions related, in part, to excessive and
undisclosed commissions allegedly received by the underwriters from investors to
whom the underwriters allegedly allocated shares of the initial public offering.
The complaint seeks an unspecified amount of damages. This class action lawsuit
is similar to over 300 others filed recently against companies that went public
between 1998 to 2000. Switchboard believes the claims against it and its
officers, former officers and directors are without merit and intends to defend
them vigorously.
From time to time, we are involved in various legal proceedings incidental
to the conduct of our business.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
We refer you to the information set forth in Item 4 of our Quarterly Report
on Form 10-Q for the fiscal quarter ended September 30, 2001, as filed with the
Securities and Exchange Commission on November 14, 2001, for the information
called for by this Item 4.
EXECUTIVE OFFICERS OF THE REGISTRANT
Our executive officers and their respective ages and positions with
Switchboard as of March 22, 2002 are as follows:
Name Age Position
- ---- --- --------
Douglas J. Greenlaw 57 Chief Executive Officer and Director
Dean Polnerow 46 President and Director
Robert P. Orlando 44 Vice President, Chief Financial Officer,
Treasurer and Secretary
James M. Canon 50 Vice President, Business Development
Kevin P. Lawler 41 Vice President, Human Resources
Douglas J. Greenlaw has served as our Chief Executive Officer since October
1999 and as a director since January 2000. Prior to joining Switchboard, from
1997 to October 1999, Mr. Greenlaw served as an independent management
consultant. From 1994 to 1996, Mr. Greenlaw served as President and Chief
Operating Officer of Multimedia, Inc., a publisher of newspapers and operator of
television and radio stations.
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Dean Polnerow founded Switchboard and has served as our President since
March 1998 and as a director since September 1998. Prior to his appointment as
our President, from 1996 to March 1998, Mr. Polnerow served as our Vice
President, Product and Business Development. From 1983 to 1996, Mr. Polnerow
served in various capacities, including as Vice President, Advanced Development,
at Banyan Systems Incorporated, now ePresence.
Robert P. Orlando has served as our Vice President, Chief Financial
Officer, Treasurer and Secretary since October 2001. Prior to joining
Switchboard, Mr. Orlando was the Chief Financial Officer and Treasurer of
Virtual Ink Corporation, a designer of hardware and software collaboration
tools, from 2000 to 2001. From 1991 through 2000, Mr. Orlando was the Chief
Financial Officer and Treasurer of Mathsoft, Inc., a provider of math,
engineering and scientific software solutions. Mr. Orlando also held financial
management positions with Bitstream, Inc., Unicco Service Company, Orion
Research, Inc. and Arthur Andersen LLP.
James M. Canon has served as our Vice President, Business Development since
March 1998. Prior to his appointment as our Vice President, Business
Development, from 1997 to March 1998, Mr. Canon served in various capacities at
Switchboard, most recently as Director, Product Management. From 1991 to 1997,
Mr. Canon served in various capacities, including as Information Products
Architect at Banyan Systems Incorporated, now ePresence.
Kevin P. Lawler has served as our Vice President, Human Resources since May
2000. Prior to joining Switchboard, from 1999 to May 2000, Mr. Lawler served in
various capacities, most recently as Director of Human Resources, at EMC
Corporation, an information storage systems provider. From 1998 to 1999, Mr.
Lawler served as Vice President, Human Resources for Scriptgen Pharmaceuticals
Incorporated, a pharmaceuticals company. From 1990 to 1998, Mr. Lawler served as
Vice President, Human Resources for Immulogic Pharmaceutical Corporation, a
pharmaceuticals company.
Executive officers are elected annually and serve at the discretion of our
board of directors.
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
Our common stock began trading on the Nasdaq National Market under the
symbol "SWBD" on March 2, 2000. Prior to that date there was no established
public trading market for our common stock. The following table sets forth the
range of high and low closing sale prices of our common stock for the periods
indicated, as quoted on the Nasdaq National Market.
PERIOD HIGH LOW
- ------ ---- ---
FISCAL 2000
First Quarter of Fiscal 2000 (Commencing on March 2, 2000) $44.25 $20.50
Second Quarter of Fiscal 2000 $33.94 $ 6.69
Third Quarter of Fiscal 2000 $ 9.75 $ 5.59
Fourth Quarter of Fiscal 2000 $ 7.63 $ 2.88
FISCAL 2001
First Quarter of Fiscal 2001 $ 6.25 $ 2.94
Second Quarter of Fiscal 2001 $ 6.00 $ 2.63
Third Quarter of Fiscal 2001 $ 6.25 $ 2.72
Fourth Quarter of Fiscal 2001 $ 3.47 $ 2.27
FISCAL 2002
First Quarter of Fiscal 2002 (up to March 22, 2002) $ 5.00 $ 3.02
11
As of March 22, 2002, there were 118 holders of record of our common stock.
This number does not include stockholders who hold their shares in "street name"
or through broker or nominee accounts.
The closing per share sale price of our common stock on March 22, 2002 was
$5.00. For purposes of calculating the aggregate market value of the shares of
our common stock held by non-affiliates, as shown on the cover page of this
Annual Report, it has been assumed that all the outstanding shares were held by
non-affiliates, except for the outstanding shares known to us to be beneficially
held by our directors, executive officers, and each person or entity known to us
to own beneficially more than 5% of our outstanding shares of common stock.
However, this should not be deemed to be an admission that all these persons
are, in fact, affiliates of ours, or that there are not other persons who may be
deemed to be affiliates of ours.
We have never paid cash dividends on our common stock. We intend to retain
our earnings for use in our business and, therefore, do not anticipate paying
any cash dividends on our common stock in the foreseeable future.
USE OF PROCEEDS OF INITIAL PUBLIC OFFERING
On March 2, 2000, we made an initial public offering of up to 6,325,000
shares of common stock registered under a Registration Statement on Form S-1
(Registration No. 333-90013), which was declared effective by the Securities and
Exchange Commission on March 1, 2000.
Our total net proceeds from the offering were approximately $86.3 million,
of which $74.8 million was received in March 2000 and $11.5 million was received
in April 2000. All payments of the offering proceeds were to persons other than
directors, officers, general partners of Switchboard or their associates,
persons owning 10% or more of any class of equity securities of Switchboard or
affiliates of Switchboard. Through December 31, 2001, we used approximately
$18.7 million of the proceeds from the offering for working capital purposes, of
which approximately $3.9 million was for the purchase of fixed assets. In
addition, on December 11, 2000 we paid $13.0 million of the proceeds to America
Online, Inc. pursuant to the terms of our directory and local advertising
platform services agreement entered into with America Online on that date. As of
March 29, 2002, we have invested the remaining net proceeds in interest-bearing,
investment-grade securities.
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
The selected consolidated financial data should be read together with
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and our consolidated financial statements and related notes included
in this Annual Report on Form 10-K.
12
The selected consolidated financial data set forth below as of December 31,
2001 and 2000 and for the years ended December 31, 2001, 2000 and 1999 are
derived from the audited consolidated financial statements of Switchboard
included in this Annual Report on Form 10-K. All other selected consolidated
financial data set forth below is derived from audited financial statements of
Switchboard not included in this Annual Report on Form 10-K. Switchboard's
historical results are not necessarily indicative of its results of operations
to be expected in the future.
Selected Consolidated Financial Data
(In Thousands Except Per Share Data)
For the Years Ended December 31,
------------------------------------------------------------
2001 2000 1999 1998 1997
---- ---- ---- ---- ----
Statement of Operations
Revenue $16,026 $20,310 $8,304 $6,536 $650
Operating loss $(62,634) $(20,708) $(8,656) $(4,961) $(5,333)
Net loss attributable to common stockholders $(59,413) $(17,288) $(9,744) $(5,658) $(5,637)
Basic and diluted net loss per share $(2.44) $(0.75) $(0.89) $(0.81) $(0.81)
Balance Sheet Data
Total assets $74,308 $98,557 $12,195 $3,565 $1,491
Long term obligations $518 $2,000 $- $7,600 $2,984
Redeemable convertible preferred stock $- $- $16,320 $3,658 $3,366
Total stockholders' equity (deficit) $64,008 $90,730 $(9,588) $(11,419) $(5,774)
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
You should read the following discussion together with the consolidated
statements and related notes appearing elsewhere in this annual report on Form
10-K. This Item contains forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933 and Section 21E of the Securities and
Exchange Act of 1934 that involve risks and uncertainties. Actual results may
differ materially from those included in such forward-looking statements.
Factors which could cause actual results to differ materially include those set
forth under "Factors Affecting Our Operating Results, Business Prospects and the
Market Price of Our Stock", as well as those otherwise discussed in this section
and elsewhere in this Annual Report on Form 10-K. See "Forward Looking
Statements."
OVERVIEW
Beginning in February 1996 when we commenced operations, we derived our
revenue principally from the sale of banner and site sponsorship advertising. We
now primarily derive revenue from our merchant network, which includes revenue
previously classified as merchant services and syndication and licensing.
Merchant network revenue includes revenue from various licensing agreements
with our merchant network alliance partners. These agreements involve
engineering work to develop a Web-hosted platform for our alliance partners,
which looks and feels like the alliance partner's own Web site and includes our
searching functionality; a license fee based upon the size and complexity of the
platform we create for the alliance partner; and a per-merchant fee per month
based upon the number of merchants they promote in the platform. Merchant
network revenue also includes revenue from activities in which we run trademark
and display ads in the Switchboard.com yellow pages directory, build and host
Web sites for local merchants and send related direct electronic mail-based
promotions. During 2001, approximately 64% of our revenue was derived from our
local merchant network.
13
We also generate revenue from the sale of national advertising and site
sponsorship revenue, which is derived from banner advertisements, sponsorships,
direct electronic mail-based promotions and other forms of national advertising
that are sold on either a fixed fee, cost per thousand impressions or cost per
action basis. During 2001, approximately 36% of our revenue was derived from the
sale of national advertising and site sponsorships.
Our cost of revenue consists primarily of expenses paid to third parties
under data licensing and Web site creation and hosting agreements, as well as
other direct expenses incurred to maintain the operations of our Web site. These
direct expenses consist of data communications expenses related to Internet
connectivity charges, salaries and benefits for operations personnel, equipment
costs and related depreciation, costs of running our data centers, which include
rent and utilities, and a pro rata share of occupancy and information system
expenses. Cost of revenue as a percentage of revenue has varied in the past,
primarily as a result of fluctuations in our Web site traffic, resulting in
associated changes in variable costs and, to a lesser extent, the cost of
third-party content and technology, as well as the amount of revenue recognized
in the period.
Our sales and marketing expense consists primarily of costs associated with
promotional advertising, third-party commission costs, advertising and creative
production expenses, employee salaries and benefits, public relations, market
research, provision for bad debts and a pro rata share of occupancy and
information system expenses. A significant portion of our Web site promotion
costs have resulted from non-cash advertising expenses attributable to
advertising provided to us by Viacom Inc. under an advertising and promotion
agreement with Viacom. In October 2001, we restructured our relationship with
Viacom, under which, among other things, we terminated our right to the
placement of advertising on Viacom's CBS properties with a net present value of
approximately $44.5 million in exchange for, primarily, the reconveyance by
Viacom to us of approximately 7.5 million shares of our capital stock and the
cancellation of warrants held by Viacom to purchase 533,469 shares of our common
stock. As a result of that restructuring, we anticipate sales and marketing
expenses to decrease in both absolute dollars and as a percentage of revenue in
future periods.
Our research and development expense consists primarily of employee
salaries and benefits, fees for outside consultants, and related costs
associated with the development of new services and features on our Web site,
the enhancement of existing products, quality assurance, testing, documentation
and a portion of occupancy and information system expenses based on employee
headcount.
Our general and administrative expense consists primarily of employee
salaries and benefits and other personnel-related costs for executive and
financial personnel, as well as legal expenses, directors and officers insurance
and accounting costs, and a portion of occupancy and information system expenses
based on employee headcount.
Our amortization of intangibles and other assets consists primarily of the
amortization of the value of stock we issued and cash we paid to America Online,
Inc. ("AOL"), a subsidiary of AOL Time Warner Inc., in December 2000. In
addition, amortization of intangibles and other assets also includes the
amortization of goodwill resulting from our acquisition of Envenue, Inc. in
November 2000 and the amortization of other long-term assets.
We have experienced substantial net losses since our inception. As of
December 31, 2001, we had an accumulated deficit of $97.4 million. These net
losses and accumulated deficit resulted from our lack of substantial revenue and
the significant costs incurred in the development of our Web site and the
establishment of our corporate infrastructure and organization. To date, we have
made no provision for income taxes.
14
SIGNIFICANT RELATIONSHIP
In December 2000, we entered into a directory and local advertising
platform services agreement with AOL to develop a new directory and local
advertising platform and product set to be featured across specified AOL
properties. We share with AOL specified directory advertisement revenue during
the term of the directory agreement. In general, we will receive a majority of
the first $35.0 million of such directory advertisement revenue, and we will
receive a lesser share of any additional directory advertisement revenue. We
paid AOL $13.0 million at the signing of the directory agreement. The directory
agreement calls for a second payment of $13.0 million on or before March 11,
2002. Because we are currently in discussions with AOL regarding the timing of
this payment, we have not yet made payment of this amount. AOL has not asserted
a breach of the agreement based upon this nonpayment. Any such assertion would
fall within the resolution and arbitration provisions of the agreement. AOL is
continuing to participate in discussions with us. These amounts will be recorded
as amortization of intangibles expense over the estimated life of the agreement.
AOL has committed to pay us at least $2.0 million in consulting or service fees,
of which we had delivered $1.9 million in services to AOL through December 31,
2001. The directory agreement has an initial term of four years, which term is
subject to earlier termination upon the occurrence of specified events,
including, without limitation (a) after 24 months and again after 36 months if
specified revenue targets have not been achieved and neither party has made
additional payments to the other to prevent such termination, (b) if we are
acquired by one of certain third parties, or (c) if AOL acquires one of certain
third parties, and AOL pays us a termination fee of $25.0 million.
In connection with entering into the directory agreement, we issued to AOL
746,260 shares of our common stock, and agreed to issue to AOL an additional
746,260 shares of common stock if the directory agreement continues after two
years and a further 746,260 shares of common stock if the directory agreement
continues after three years. The value of the shares issued to AOL is being
amortized over a period of four years as amortization of goodwill and
intangibles. If we renew the directory agreement with AOL for at least an
additional four years after the initial term, we agreed to issue to AOL a
warrant to purchase up to 721,385 shares of common stock at a per share purchase
price of $4.32.
In 2001, AOL represented a significant portion of our revenue. AOL
accounted for 25.4% of total revenue in 2001. We anticipate that AOL will
represent an even greater percentage of our revenue in 2002 and will be a
material component of our overall business.
15
RESULTS OF OPERATIONS
The following table presents certain consolidated statement of operations
information stated as a percentage of total revenues:
Change
----------------------------
2001 2000 1999 2000 to 2001 1999 to 2000
---- ---- ---- ------------ ------------
Revenues:
Merchant network 64.0% 42.8% 54.9% 18.1% 90.6%
National advertising 36.0 57.2 45.1 (50.4) 210.3
----- ----- ----- ----- -------
Total revenue 100.0% 100.0% 100.0% (20.1)% 144.6%
===== ===== ===== ===== =======
Cost of revenue 22.0% 17.2% 19.3% 0.8% 118.1%
----- ----- ----- ----- -------
Gross profit 78.0 82.8 80.7 (25.6) 150.9
Sales and marketing 168.1 143.7 130.8 (7.7) 168.8
Research and development 41.8 17.1 23.2 92.9 80.6
General and administrative 27.0 16.3 20.6 31.1 92.9
Amortization of goodwill and
intangibles 50.0 7.7 10.4 411.2 81.1
Loss on Viacom transaction 138.5 0.0 0.0 n/a n/a
Restructuring and other charges 43.4 0.0 0.0 n/a n/a
----- ----- ----- ----- -------
Total operating expenses 468.9 184.8 185.0 100.2 144.3
----- ----- ----- ----- -------
Operating loss (390.8) (102.0) (104.2) 202.3 139.2
Other income (expense) 20.1 18.2 (1.8) (12.7) (2,576.4)
----- ----- ----- ----- -------
Net loss (370.7)% (83.8)% (106.0)% 249.1% 93.3%
===== ===== ===== ===== =======
REVENUE
Total revenue was $16.0 million, $20.3 million and $8.3 million in 2001,
2000 and 1999, respectively, representing a decrease of $4.3 million, or 21.1%,
from 2000 to 2001, and an increase of $12.0 million, or 144.6%, from 1999 to
2000. The decrease in revenue in 2001 consisted primarily of a decrease in
national advertising and site sponsorship revenue, offset in part by an increase
in merchant network revenue. The increase in revenue in 2000 when compared to
1999 consisted primarily of increases in national advertising revenue, merchant
services and licensing revenue.
National advertising and site sponsorship revenue was $5.8 million, $11.6
million and $3.7 million in 2001, 2000 and 1999, respectively, representing a
decrease of $5.9 million, or 50.4%, from 2000 to 2001, and an increase of $7.9
million, or 210.3%, from 1999 to 2000. The decrease in national advertising and
site sponsorship revenue in 2001 resulted from a decrease in both the number of
advertisers on the site, as well as the per impression fee charged to those
customers. We attribute these decreases to a decline in demand for Internet
advertising services as well as the overall state of the U.S. economy. The
increase in national advertising and site sponsorship revenue in 2000 was
primarily due to increases in both utilization of, and traffic to, our Web site.
Merchant network revenue was $10.3 million, $8.7 million and $4.6 million
in 2001, 2000 and 1999, respectively, representing increases of $1.6 million, or
18.1%, from 2000 to 2001, and $4.1 million, or 90.6%, from 1999 to 2000. The
16
increases in merchant services revenue in 2001 and 2000 were due primarily to
new licensing agreements with merchant network partners, increased membership in
our merchant network and revenue attributable to additional services offered to
existing local merchants.
We expect that merchant network revenue will increase as a percentage of
total revenue in 2002, while revenue from national advertising and site
sponsorship will decline as a percentage of total revenue. Revenue from
concurrent transactions, in which we received promotion or marketing assets in
exchange for promotion on our Web site and inclusion in e-mail distributions to
our user base, was 5.2% and 11.6% of total revenue in 2001 and 2000,
respectively. There was no revenue generated from concurrent transactions in
1999. In the year ended December 31, 2001, two customers accounted for 25.4% and
16.8% of revenue, respectively. In the year ended December 31, 2000, one
customer accounted for 15.8% of revenue. In the year ended December 31, 1999,
one customer accounted for 22.7% of revenue.
COST OF REVENUE
Cost of revenue was $3.5 million, $3.5 million and $1.6 million in 2001,
2000 and 1999, respectively. Cost of revenue remained relatively flat in 2001,
when compared to 2000, and increased $1.9 million, or 118.1%, from 1999 to 2000.
In 2001, we incurred additional salaries and benefits and data communication
fees, offset by decreases in Web site creation and hosting fees in connection
with our merchant services programs and amortization of deferred project costs.
The increase in cost of revenue in 2000 was due primarily to increases in Web
site creation and hosting fees, amortization of deferred project costs, data
communication fees and data licensing fees.
GROSS PROFIT
Gross profit in 2001 was 78.0% of revenue, or $12.5 million, compared with
82.8%, or $16.8 million, in 2000 and 80.7%, or $6.7 million, in 1999. The
decrease in gross profit dollars and percentage in 2001 was primarily due to
relatively fixed costs of revenue being spread over decreased revenue. The
increase in gross profit dollars and percentage in 2000 was primarily due to
overall increases in revenue, offset in part by an increase in variable costs.
SALES AND MARKETING
Sales and marketing expenses were $26.9 million, $29.2 million and $10.9
million in 2001, 2000 and 1999, respectively, representing a decrease of $2.2
million, or 7.7%, from 2000 to 2001, and an increase of $18.3 million, or
168.8%, from 1999 to 2000. The decrease in 2001 was due primarily to a decrease
in merchant services program expenses and CBS advertising, offset in part by
increases in other advertising expenses, provision for doubtful accounts,
employee salaries and benefits and costs associated with additional leased
facilities. The increase in 2000 was primarily related to increases in CBS
advertising, merchant services program expenses, other advertising and employee
salaries and benefits.
RESEARCH AND DEVELOPMENT
Research and development expenses were $6.7 million, $3.5 million and $1.9
million in 2001, 2000 and 1999, respectively, representing increases of $3.2
million, or 92.3%, from 2000 to 2001, and $1.6 million, or 80.6%, from 1999 to
2000. The increases in both 2001 and 2000 were due primarily to increases in
salaries and benefits associated with new personnel resulting primarily from our
acquisition of Envenue, outside consulting expenses, depreciation and costs
associated with additional leased facilities, offset in part by the
capitalization of deferred project costs.
GENERAL AND ADMINISTRATIVE
General and administrative expenses were $4.3 million, $3.3 million and
$1.7 million in 2001, 2000 and 1999, respectively, representing an increase of
17
$1.0 million, or 31.1%, from 2000 to 2001, and an increase of $1.6 million, or
92.9%, from 1999 to 2000. The increase in 2001 was due primarily to increases in
professional services, insurance expenses, and salaries and benefits associated
with new personnel, offset in part by a decrease in franchise and excise taxes.
The increase in 2000 was due primarily to increases in salaries and benefits
associated with new personnel, franchise and excise taxes, costs associated with
additional leased facilities, professional services expenses and additional
travel expenses resulting from new personnel.
AMORTIZATION OF GOODWILL AND INTANGIBLES
Amortization of goodwill and intangibles expenses were $8.0 million, $1.6
million and $866,000 in 2001, 2000 and 1999, respectively, representing
increases of $6.4 million, or 411.2%, from 2000 to 2001, and $702,000, or 81.1%,
from 1999 to 2000. The increase in 2001 resulted primarily from amortization of
goodwill resulting from our purchase of Envenue in November 2000, as well as
amortization of the value of stock issued and cash paid to AOL related to the
directory services agreement we entered into with AOL in December 2000. The
increase in 2000 was due primarily to the amortization of the value of stock
issued and cash paid to AOL and the amortization of software licenses.
LOSS ON VIACOM TRANSACTION
As a result of our October 2001 restructuring of our relationship with
Viacom, we reported a one-time, non-cash accounting loss of $22.2 million in
2001 related to the termination of our advertising and promotion agreement with
Viacom. We agreed to terminate our right to the placement of advertising on
Viacom's CBS properties with an expected net present value of approximately
$44.5 million in exchange for, primarily, the reconveyance by Viacom to us of
approximately 7.5 million shares of our common stock, the cancellation of
warrants held by Viacom to purchase 533,469 shares of our common stock and the
reconveyance to us of the one outstanding share of our series E special voting
preferred stock. The non-cash accounting loss of $22.2 million results from the
difference between the net present value of our remaining advertising rights
with Viacom, which were terminated, and the value of the shares of our common
and preferred stock that were reconveyed and the warrants that were cancelled.
RESTRUCTURING AND OTHER CHARGES
In the three months ended December 31, 2001, we recorded net pre-tax
restructuring and other charges of $7.0 million, comprised primarily of $5.2
million for the impairment of certain assets, $1.1 million for costs related to
facility closures and $700,000 in severance costs related to the reduction of
approximately 21% of our workforce. The restructuring resulted in 21 employee
separations. The actions related to the restructuring were substantially
completed in 2001. We expect to spend approximately $1.3 million in 2002 related
to the restructuring.
OTHER INCOME (EXPENSE)
Other income (expense) was $3.2 million, $3.7 million and $(149,000) in
2001, 2000 and 1999, respectively, representing a decrease of $469,000, or
12.7%, from 2000 to 2001, and an increase of $3.8 million from 1999 to 2000. The
decrease in 2001 was primarily due to a decrease in interest income due to lower
available funds for investment, offset in part by a decrease in unrealized
losses on an investment. The increase in 2000 was primarily due to the interest
income earned on the net proceeds from our initial public offering completed on
March 7, 2000.
NET LOSS
Our net loss increased to $59.4 million in 2001, from $17.0 million in 2000
and $8.8 million in 1999. As of December 31, 2001, our accumulated deficit
totaled $97.4 million.
18
LIQUIDITY AND CAPITAL RESOURCES
As of December 31, 2001, we had total cash and marketable securities of
$60.0 million, consisting of $4.2 million of cash and cash equivalents, $874,000
of restricted cash, $8.7 million of short-term marketable securities and $46.2
million of long-term marketable securities. During 2001, cash decreased by $14.6
million, primarily due to net cash used for operating activities of $9.4 million
and cash used in investing activities of $6.2 million, offset in part by cash
provided by financing activities of $1.0 million.
Net cash used for operating activities for 2001 was $9.4 million, primarily
due to a net loss of $59.4 million and an increase in other current assets of
$2.3 million, offset in part by a $22.2 million non-cash accounting loss on our
Viacom transaction, non-cash CBS advertising of $9.7 million, an decrease in
other assets of $5.9 million, the non-cash portion of our restructuring and
other charges of $5.2 million, a decrease in accounts receivable of $3.9 million
and depreciation and amortization of $2.6 million, as well as various other cash
flows from operating activities.
Net cash used for investing activities for 2001 was $6.2 million. Investing
activities for the period were primarily related to net purchases of long-term
investments of $11.0 million, purchases of property and equipment of $2.9
million and $874,000 of restricted cash, offset in part by net proceeds from
short-term investments of $8.6 million. In the second quarter of 2002, we
anticipate making a payment of $2.0 million to the former shareholders of
Envenue Inc., under the terms of the purchase agreement we entered into in
November 2000.
Net cash provided by financing activities for 2001 was $1.0 million,
primarily due to the proceeds from capital leases of $1.1 million related to a
computer equipment sale-leaseback agreement, offset in part by payments made on
notes payable of $226,000.
In March 2001, we entered into a computer equipment sale-leaseback
agreement with Fleet Capital Corporation. Under the agreement, we will lease
$1.1 million of computer equipment over a three-year period ending on June 28,
2004. Upon the expiration of the lease, we have the option to purchase the
leased assets for one dollar. The agreement has an estimated effective annual
percentage rate of approximately 7.90%. Under the terms of the agreement, we are
required to maintain on deposit with Fleet National Bank a compensating balance,
restricted as to use. The compensating balance is adjusted on a quarterly basis
to an amount equal to the principal outstanding under the lease. As of December
31, 2001, we have recorded $874,000 as restricted cash. We anticipate total
payments under the lease in 2002 will be approximately $413,000.
Since our inception, we have significantly increased our operating
expenses. We anticipate that our operating expenses and capital expenditures
will constitute a material use of our cash resources. We previously relied on
our non-cash CBS-related advertising, which is no longer available to us. We
expect that we may need to incur advertising expense in future periods, which
will require us to spend cash in order to continue to brand our name and
increase traffic to our Web site. In addition, we may utilize cash resources to
fund acquisitions or investments in businesses, technologies, products or
services that are strategic or complementary to our business. We believe that
the cash and marketable securities currently available will be sufficient to
meet our anticipated cash requirements to fund operations for at least the next
12 months.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
We have identified the policies below as critical to the understanding of
our results of operations. Note that our preparation of this Annual Report on
Form 10-K requires us to make estimates and assumptions that affect the reported
amount of assets and liabilities, disclosure of contingent assets and
19
liabilities at the date of our financial statements, and the reported amounts of
revenue and expenses during the reporting period. On an on going basis,
management evaluates its estimates and judgments, including those related to
revenue recognition, bad debts, investments, intangible assets, compensation
expenses, third-party commissions, restructuring costs, contingencies and
litigation. Management bases its estimates and judgments on historical
experience and on various other factors that are believed to be reasonable under
the circumstances, the results of which form the basis for making judgments
about the carrying values of assets and liabilities that are not readily
apparent from other sources. There can be no assurance that actual results will
not differ from those estimates.
Critical accounting polices are those policies that are reflective of
significant judgments and uncertainties and potentially result in materially
different results under different assumptions and conditions. We believe our
most critical accounting policies are as follows:
REVENUE RECOGNITION
We generate our revenue primarily from our merchant network and banner and
site sponsorship advertising. Generally, revenue is recognized as services are
provided, so long as no significant obligations remain and collection of the
resulting receivable is probable. We believe that we are able to make reliable
judgments regarding the creditworthiness of our customers based upon historical
and current information available to us. There can be no assurances that our
payment experience with our customers will be consistent with past experience or
that the financial condition of these customers will not decline in future
periods, the result of which could be our failure to collect on invoiced
amounts. Some of these amounts could be material, resulting in an increase in
our provision for bad debts.
Our merchant network revenue includes revenue from various licensing
agreements with our merchant network alliance partners. These agreements involve
engineering work to develop a Web-hosted platform for our alliance partners, a
license fee based upon the size and complexity of the platform, and a per
merchant fee per month based upon the number of merchants they promote in the
platform. Engineering and license fees are recognized ratably over the life of
the contract. The per merchant fees are generally paid on a monthly basis, and
revenue is recognized as services are performed.
Merchant network revenue also includes revenue from activities in which we
run trademark and display ads in the Switchboard.com yellow pages directory,
build and host Web sites for local merchants, charge customer acquisition fees
to program partners for the initiation and set-up of new local merchant websites
and send related direct electronic mail-based promotions. For trademark, display
ads and the hosting of Web sites, we charge a subscription fee. Subscription
fees are recognized over the period that the trademark ad, display ad or local
merchant Web site is in place, which typically is between a month and a year.
Customer acquisition fees are recognized when the local merchant Web site
construction is complete. Revenue from direct electronic-based promotions are
recognized as services are performed.
Our banner and site sponsorship advertising revenue is derived principally
from short-term advertising contracts and sponsorship agreements in which we
receive a fixed fee or earn a fee based on a per thousand impressions or per
action basis. Banner and site sponsorship advertising revenue also includes
related direct electronic mail-based promotions. The duration of our advertising
commitments from customers typically range from two weeks to one year. Revenue
from banner and site sponsorship advertising is recognized as the services are
delivered.
Deferred revenue is principally comprised of billings in excess of
recognized revenue relating to advertising agreements and licensing fees
received pursuant to advertising or services agreements in advance of revenue
recognition. Unbilled receivables are principally comprised of revenues earned
and recognized in advance of invoicing customers, resulting from contractually
defined billing schedules.
20
CONCURRENT TRANSACTIONS
We had barter transactions totaling $836,000, or 5.2% of revenue, and
$1,630,000, or 8.0% of revenue, for the years ended December 31, 2001 and 2000,
respectively, in which we received promotion in exchange for promotion on our
Web site or through direct e-mail distributions. We also had other nonmonetary
transactions totaling $732,000, or 3.6% of revenue, for the year ended December
31, 2000, in which we received certain marketing assets in exchange for
promotion on our Web site or through direct e-mail distributions. Revenue from
advertising barter has been valued based on similar cash transactions which
occurred within six months prior to the date of the barter transaction. Revenues
from other nonmonetary transactions are recorded at the fair value of the goods
or services provided or received, whichever is more readily determinable.
Accounting rules applicable to concurrent transactions continue to evolve. Any
further changes to these accounting rules could affect the valuation of any
future concurrent transactions.
GOODWILL AND INTANGIBLES
We recorded amounts in excess of assets acquired pursuant to our
acquisition of Envenue in November 2000 as goodwill. Subsequently, in December
2001, we evaluated the net realizable value of our goodwill in Envenue, and
determined that it had been impaired based upon undiscounted future cash flows.
As a result, we recorded a loss on impairment of $1.9 million as a component of
our fourth quarter of 2001 restructuring and other charges one-time charge to
earnings. Pursuant to a distribution agreement we entered into with AOL, we
issued shares of our common stock to AOL. The value of these shares of common
stock have been recorded as an intangible, and are being amortized on a
straight-line basis over a period of four years.
We evaluate the net realizable value of our goodwill and intangibles on an
ongoing basis, relying on a number of factors including operating results,
business plans, budgets, economic projections and undiscounted cash flows. In
addition, our evaluation considers non-financial data such as market trends,
project development cycles and changes in management's market emphasis. While we
believe we can make reliable estimates of these matters, it is possible due to
changes in these factors that these estimates may change in the near future. A
change in estimates could negatively affect the carrying value of our
intangibles and result in a material expense charge to our earnings.
RISKS,CONCENTRATIONS AND UNCERTAINTIES
We invest our cash and cash equivalents primarily in deposits and money
market funds with financial institutions. We have not experienced any realized
losses to date on our invested cash. A potential exposure is a concentration of
credit risk in trade accounts receivable. We maintain reserves for credit losses
and, to date, such losses have been within our expectations. These expectations
are based on historical experience, analysis of information currently available
to us with respect to our customer's financial position, as well as various
other factors. While we believe we can make reliable estimates of these matters,
it is possible that these estimates may change in the near future. A change in
estimates could result negatively affect our results of operations
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In June 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 141, "Business
Combinations". SFAS 141 requires all business combinations initiated after June
30, 2001 to be accounted for using the purchase method. The Company does not
expect the adoption of this statement to have a material impact on its
operations.
In June 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible
Assets". With the adoption of SFAS No. 142, goodwill is no longer subject to
21
amortization over its estimated useful life, but instead goodwill is subject to
at least an annual assessment for impairment by applying a fair-value-based
test. The Company does not anticipate that the adoption of the statement will
have a material impact on its operations and financial position.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations". This statement addresses financial accounting and
reporting for obligations associated with the retirement of tangible long-lived
assets and the associated asset retirement costs. It applies to legal
obligations associated with the retirement of long-lived assets that result from
the acquisition, construction, development and/or the normal operation of a
long-lived asset, except for certain obligations of lessees. This statement
amends FASB Statement No. 19 and is effective for financial statements issued
for fiscal years beginning after June 15, 2002. The Company is currently
evaluating the ultimate impact of this statement on its results of operations or
financial position until such time as its provisions are applied.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets". This statement supersedes FASB
Statement No. 121, "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to Be Disposed Of", and the accounting and reporting
provisions of Accounting Principles Board Opinion No. 30, "Reporting the Results
of Operations - Reporting the Effects of Disposal of a Segment of a Business,
and Extraordinary, Unusual and Infrequently Occurring Events and Transactions".
This statement requires that one accounting model be used for long-lived assets
to be disposed of by sale, whether previously held and used or newly acquired,
and it broadens the presentation of discontinued operations to include more
disposal transactions. The provisions of this statement are effective for
financial statements issued for fiscal years beginning after December 15, 2001,
and interim periods within those fiscal years, with early adoption permitted.
The Company is currently evaluating the ultimate impact of this statement on its
results of operations or financial position until such time as its provisions
are applied.
FACTORS AFFECTING OUR OPERATING RESULTS, BUSINESS PROSPECTS AND THE MARKET PRICE
OF OUR STOCK
We caution you that the following important factors, among others, in the
future could cause our actual results to differ materially from those expressed
in forward-looking statements made by or on behalf of us in filings with the
Securities and Exchange Commission, press releases, communications with
investors and oral statements. Any or all of our forward-looking statements in
this Annual Report on Form 10-K, and in any other public statements we make, may
turn out to be wrong. They can be affected by inaccurate assumptions we might
make or by known or unknown risks and uncertainties. Many factors mentioned in
the discussion below are important in determining future results. We undertake
no obligation to publicly update any forward-looking statements, whether as a
result of new information, future events or otherwise. You are advised, however,
to consult any further disclosures we make in our reports filed with the
Securities and Exchange Commission.
RISKS RELATED TO OUR BUSINESS
WE HAVE A HISTORY OF INCURRING NET LOSSES, WE EXPECT OUR NET LOSSES TO
CONTINUE FOR THE NEXT SEVERAL QUARTERS AND WE MAY NEVER ACHIEVE PROFITABILITY
We have incurred significant net losses in each fiscal quarter since our
inception. From inception to December 31, 2001, we have incurred net losses
totaling $97.4 million. While we currently expect that we will turn profitable
on a quarterly basis by the end of 2002, there can be no guarantees that we will
be successful in achieving this quarterly profitability. As a result, we will
need to generate significant additional revenue to fund our operations. It is
possible that we may never achieve profitability and, even if we do achieve
profitability, we may not sustain or increase profitability on a quarterly or
annual basis in the future. If we do not achieve sustained profitability, we
will be unable to continue our operations.
22
IF THE DIRECTORY SERVICES AGREEMENT WE ENTERED INTO WITH AMERICA ONLINE, INC.
("AOL"), A SUBSIDIARY OF AOL TIME WARNER, INC., IS NOT SUCCESSFUL, IT COULD HAVE
A MATERIALLY NEGATIVE EFFECT ON OUR RESULTS OF OPERATIONS
The directory services agreement we entered into with AOL may not generate
anticipated revenues or other benefits, or may be prematurely terminated by
breach or otherwise fail to be successful. Local merchants may not view the
alliance as an effective advertising vehicle for their products and services.
Even if the directory services agreement is not successful, AOL may not have to
return any of the consideration, including cash and stock, which we have paid to
AOL, and we may have continuing contractual and other financial obligations to
AOL under the agreement.
We paid AOL $13.0 million at the signing of the directory agreement. The
directory agreement calls for a second payment of $13.0 million on or before
March 11, 2002. Because we are currently in discussions with AOL regarding the
timing of this payment, we have not yet made payment of this amount. AOL has not
asserted a breach of the agreement based upon this nonpayment. Any such
assertion would fall within the resolution and arbitration provisions of the
agreement. AOL is continuing to participate in discussions with us.
In 2001, AOL represented a significant portion of our revenue. AOL
accounted for 25.4% of total revenue in 2001. We anticipate that AOL will
represent an even greater percentage of our revenue in 2002 and will be a
material component of our overall business. The loss of AOL or the failure of
our agreement with AOL to generate these anticipated revenues, would have a
material adverse effect on our results of operations and financial condition.
OUR QUARTERLY RESULTS OF OPERATIONS ARE LIKELY TO FLUCTUATE AND, AS A RESULT,
WE MAY FAIL TO MEET THE EXPECTATIONS OF OUR INVESTORS AND SECURITIES ANALYSTS,
WHICH MAY CAUSE THE PRICE OF OUR COMMON STOCK TO DECLINE
Our quarterly revenue and results of operations are volatile and are
particularly difficult to predict. Our quarterly results of operations have
fluctuated significantly in the past and are likely to fluctuate significantly
from quarter to quarter in the future. We do not believe that period-to-period
comparisons of our results of operations are necessarily meaningful and you
should not rely upon these comparisons as indicators of our future performance.
Factors that may cause our results of operations to fluctuate include:
* the addition or loss of relationships with third parties that are our
source of new merchants or that license our services for use on their
own Web sites;
* the amount and timing of expenditures for expansion of our operations,
including the hiring of new employees, capital expenditures and related
costs;
* technical difficulties or failures affecting our systems or the
Internet in general;
* the cost of acquiring, and the availability of, content, including
directory information and maps; and
* the fact that our expenses are only partially based on our expectations
regarding future revenue and are largely fixed in nature, particularly
in the short term.
As a result of these factors, results in any future quarter may be below
the expectations of securities analysts or investors. If so, the market price of
our common stock may decline significantly.
WE DEPEND ON ALLIANCE PARTNERSHIPS WITH THIRD PARTIES TO GROW OUR BUSINESS AND
OUR BUSINESS MAY NOT GROW IF THE ALLIANCE PARTNERSHIPS UPON WHICH WE DEPEND FAIL
TO PRODUCE THE EXPECTED BENEFITS OR ARE TERMINATED
Our business depends upon our ability to maintain and benefit from our
existing alliance partnerships and to establish additional alliance
partnerships. For our business to be successful, we must expand our merchant
network and generate significant revenue from that initiative. The success of
our merchant network depends in substantial part upon our ability to access a
23
broad base of local merchants. The merchant base is highly fragmented. Local
merchants are difficult to contact efficiently and cost-effectively.
Consequently, we depend on relationships with merchant network partners to
provide us with local merchant contacts and to provide billing and other
administrative services relating to our merchant services. The termination of
any strategic relationship with a channel partner would significantly impair our
ability to attract potential local merchant customers and deliver our merchant
services to our current customers. Furthermore, we cannot be certain that we
will be able to develop or maintain relationships with new channel partners on
terms acceptable to us or at all.
In addition to our relationship with AOL and our existing relationships
with merchant aggregators, we have entered into relationships with merchant
network partners and third-party content providers. These parties may not
perform their contractual obligations to us and, if they do not, we may not be
able to require them to do so. Some of our strategic relationships may be
terminated by either party on short notice.
Our strategic relationships are in early stages of development. These
relationships may not provide us benefits that outweigh the costs of the
relationships. If any strategic partner demands a greater portion of revenue or
requires us to make payments for access to its Web site, we may need to
terminate or refuse to renew that relationship, even if it had been previously
profitable or otherwise beneficial. In addition, if we lose a significant
strategic partner, we may be unable to replace that relationship with other
strategic relationships with comparable revenue potential, content or user
demographics.
OUR LIMITED OPERATING HISTORY AS A STAND-ALONE COMPANY MAKES IT DIFFICULT TO
EVALUATE OUR BUSINESS AND OUR ABILITY TO ADDRESS THE RISKS AND UNCERTAINTIES
THAT WE FACE
We have only a limited operating history on which you can evaluate our
business and prospects. Since commencing operations in 1996 and prior to our
initial public offering in 2000, we had been a subsidiary of ePresence, formerly
known as Banyan Worldwide. As of the October 2001 restructuring of our
relationship with Viacom, we are again a majority-owned subsidiary of ePresence;
however, we do not anticipate that the change in ePresence's ownership interest
in us will lead ePresence to increase its support, financial or otherwise, of
us. Consequently, we have a limited operating history as a stand-alone company
and limited experience in addressing various business challenges without the
support of a corporate parent. We may not successfully address the risks and
uncertainties which confront stand-alone companies, particularly companies in
new and rapidly evolving markets such as ours.
IF WE CANNOT DEMONSTRATE THE VALUE OF OUR MERCHANT SERVICES, LOCAL MERCHANT
CUSTOMERS MAY STOP USING OUR SERVICES, WHICH COULD REDUCE OUR REVENUE
We may be unable to demonstrate to our local merchant customers the value
of our merchant services. If local merchants cancel our various services, which
are generally provided on a month-to-month basis, our revenue could decline and
we may need to incur additional expenditures to obtain new local merchant
customers. We do not presently provide our local merchant customers with data
demonstrating the number of leads generated by our merchant services. Regardless
of whether our merchant services effectively produce leads, our local merchant
customers may not know the source of the leads and may cancel our merchant
services.
24
THE ATTRACTIVENESS OF OUR SERVICES WOULD DIMINISH IF WE ARE NOT ABLE TO
LICENSE ACCURATE DATABASE INFORMATION FROM THIRD-PARTY CONTENT PROVIDERS
We principally rely upon single third-party sources to provide us with our
business and residential listings data, e-mail data, and mapping data. The loss
of any one of these sources or the inability of any of these sources to collect
their data could significantly and adversely affect our ability to provide
information to consumers. Although other sources of database information exist,
we may not be able to integrate data from these sources into our database
systems in a timely, cost-effective manner, or without an inordinate disruption
of internal engineering resources. Other sources of data may not be offered on
terms acceptable to us. Moreover, the rapid consolidation being experienced by
Internet-related businesses could reduce the number of content providers with
which we could form relationships.
We typically license information under arrangements that require us to pay
royalties or other fees for the use of the content. In the future, some of our
content providers may demand a greater portion of advertising revenue or
increase the fees that they charge us for their content. If we fail to enter
into and maintain satisfactory arrangements with existing or substitute content
providers, we may be unable to continue to provide our services.
The success of our business depends on the quality of our services and the
quality is substantially dependent on the accuracy of data we license from third
parties. Any failure to maintain accurate data could impair the reputation of
our brand and our services, reduce the volume of users attracted to our Web
site, and diminish the attractiveness of our service offerings to our strategic
partners, advertisers and content providers.
ePRESENCE'S MAJORITY OWNERSHIP INTEREST IN US WILL PERMIT ePRESENCE TO CONTROL
MATTERS SUBMITTED FOR APPROVAL OF OUR STOCKHOLDERS, WHICH COULD DELAY OR PREVENT
A CHANGE IN CONTROL OR DEPRESS OUR STOCK PRICE
As of December 31, 2001, ePresence beneficially owned approximately 54% of
our common stock. Based upon this majority interest in us, ePresence is
generally able to control all matters submitted to our stockholders for approval
and our management and affairs, including the election and removal of directors
and any merger, consolidation or sale of all or substantially all of our assets.
Presently, three of the six members of our Board of Directors are officers or
directors of ePresence. ePresence's control over us could have the effect of
delaying or preventing a change of control of Switchboard that other
stockholders may believe would result in a more optimal return on investment. In
addition, this control could depress our stock price because purchasers will not
be able to acquire a controlling interest in us.
ePresence may elect to sell all or a substantial portion of its capital
stock to one or more third parties, in which case a third party with whom we
have no prior relationship could exercise the same degree of control over us as
ePresence presently does.
OUR RELIANCE UPON ADVERTISING REVENUE EXPOSES US TO COMPETITIVE PRICING
PRESSURES
We previously derived a majority of our revenue from the sale of banner and
site sponsorship advertisements. Although we are less reliant on this banner and
site sponsorship revenue, as a percentage of revenue, it is still an important
component of our total revenue. We typically sell advertisements under
agreements with terms of less than six months. These short-term agreements
expose us to competitive pricing pressures and potentially severe fluctuations
in our results of operations. As the Internet advertising market evolves,
advertisers are becoming increasingly demanding in terms of their expectations
for results and returns from their advertising expenditures. These increasing
demands exacerbate the other competitive pressures we experience.
25
Additionally, if we are unable to remain an attractive medium for
advertising, our revenue will substantially decline. Our ability to remain an
attractive medium for advertising will depend upon a number of factors,
including the acceptance of our services by a large number of users who have
demographic characteristics that are attractive to advertisers.
WE RELY ON A SMALL NUMBER OF CUSTOMERS, THE LOSS OF WHOM MAY SUBSTANTIALLY
REDUCE OUR REVENUE
We derive a substantial portion of our revenue from a small number
customers. During 2001, revenue derived from our top ten customers accounted for
approximately 68.4% of our total revenue. Additionally, revenue derived from two
customers accounted for 25.4% and 16.8% of our total revenue in 2001,
respectively. Consequently, our revenue may substantially decline if we lose any
of these customers. We anticipate that our future results of operations will
continue to depend to a significant extent upon revenue from a small number of
customers. In addition, we anticipate that the identity of those customers will
change over time.
IF WE DO NOT INTRODUCE NEW OR ENHANCED OFFERINGS TO OUR MERCHANT NETWORK
ALLIANCE PARTNERS, WE MAY BE UNABLE TO ATTRACT AND RETAIN THOSE MERCHANT NETWORK
ALLIANCE PARTNERS, WHICH WOULD SIGNIFICANTLY IMPEDE OUR ABILITY TO GENERATE
REVENUE
We need to introduce new or enhanced services to attract and retain
merchant network alliance partners, and remain competitive. Our industry has
been characterized by rapid technological change, changes in user and customer
requirements and preferences and frequent new product and service introductions
embodying new technologies. These changes could render our technology, systems
and Web site obsolete. If we do not periodically enhance our existing services,
develop new services and technologies that address sophisticated and varied
consumer needs, respond to technological advances and emerging industry
standards and practices on a timely and cost-effective basis and address
evolving customer preferences, our services may not be attractive to merchant
network alliance partners, which would significantly impede our revenue growth.
Any new product or service introduction, such as the expected Switchboard Matrix
system with enhanced search capabilities, that is not favorably received could
damage our reputation and our brand. We may also experience difficulties that
could delay or prevent us from introducing new services.
WE HAVE LIMITED EXPERIENCE ACQUIRING COMPANIES, AND ANY ACQUISITIONS WE
UNDERTAKE COULD LIMIT OUR ABILITY TO MANAGE AND MAINTAIN OUR BUSINESS, RESULT IN
ADVERSE ACCOUNTING TREATMENT AND BE DIFFICULT TO INTEGRATE INTO OUR BUSINESS
We have limited experience in acquiring businesses and have very limited
experience in acquiring complementary technologies. In May 1998, we acquired
MapsOnUs, and in November 2000, we acquired Envenue. In the future we may
undertake additional acquisitions. Acquisitions, in general, involve numerous
risks, including:
* diversion of our management's attention;
* future impairment of substantial goodwill, adversely affecting our
reported results of operations;
* inability to retain the management, key personnel and other employees
of the acquired business;
* inability to assimilate the operations, product, technologies and
information systems of the acquired business with our business; and
* inability to retain the acquired company's customers, affiliates,
content providers and advertisers.
26
OUR BUSINESS MAY SUFFER IF WE LOSE THE SERVICES OF OUR CHIEF EXECUTIVE OFFICER
OR FOUNDER
Our future success depends to a significant extent on the continued
services and effective working relationships of our senior management and other
key personnel, including Douglas Greenlaw, our Chief Executive Officer, and Dean
Polnerow, our founder and President. Our business may suffer if we lose the
services of Mr. Greenlaw, Mr. Polnerow or other key personnel.
IF WE ARE NOT ABLE TO ATTRACT AND RETAIN HIGHLY SKILLED MANAGERIAL AND
TECHNICAL PERSONNEL WITH INTERNET EXPERIENCE, WE MAY NOT BE ABLE TO IMPLEMENT
SUCCESSFULLY OUR BUSINESS MODEL
We believe that our management must be able to act decisively to apply and
adapt our business model in the rapidly changing Internet markets in which we
compete. In addition, we rely upon our technical employees to develop and
maintain much of the technology used to provide our services. Consequently, we
believe that our success depends largely on our ability to attract and retain
highly skilled managerial and technical personnel. We may not be able to hire or
retain the necessary personnel to implement our business strategy. In addition,
we may need to pay higher compensation for employees than we currently expect.
THE MARKETS FOR INTERNET CONTENT, SERVICES AND ADVERTISING ARE HIGHLY
COMPETITIVE, AND OUR FAILURE TO COMPETE SUCCESSFULLY WILL LIMIT OUR ABILITY TO
INCREASE OR RETAIN OUR MARKET SHARE
Our failure to maintain and enhance our competitive position would limit
our ability to increase or maintain our market share, which would seriously harm
our business. We compete in the markets for Internet content, services and
advertising. These markets are new, rapidly evolving and highly competitive. We
expect this competition to intensify in the future. We compete, or expect to
compete, with many providers of Internet content, information services and
products, as well as with traditional media, for audience attention and
advertising and sponsorship revenue. We license much of our database content
under non-exclusive agreements with third-party providers which are in the
business of licensing their content to many businesses, including our current
and potential competitors. Many of our competitors are substantially larger than
we are and have substantially greater financial, infrastructure and personnel
resources than we have. In addition, many of our competitors have
well-established, large, and experienced sales and marketing capabilities and
greater name recognition than we have. As a result, our competitors may be in a
stronger position to respond quickly to new or emerging technologies and changes
in customer requirements. They may also develop and promote their services more
effectively than we do. Moreover, barriers to entry are not significant, and
current and new competitors may be able to launch new Web sites at a relatively
low cost. We therefore expect additional competitors to enter these markets.
Many of our current customers have established relationships with our
current and potential competitors. If our competitors develop content that is
superior to ours or that achieves greater market acceptance than ours, we may
not be able to develop alternative content in a timely, cost-effective manner,
or at all, and we may lose market share.
WE MAY NOT BE ABLE TO DEDICATE THE SUBSTANTIAL RESOURCES REQUIRED TO EXPAND,
MONITOR AND MAINTAIN OUR INTERNALLY DEVELOPED SYSTEMS WITHOUT CONTRACTING WITH
AN OUTSIDE SUPPLIER AT SUBSTANTIAL EXPENSE
We will have to expand and upgrade our technology, transaction-processing
systems and network infrastructure if the volume of traffic on our Web site or
our merchant network partners' Web sites increases substantially. We could
experience temporary capacity constraints that may cause unanticipated system
27
disruptions, slower response times and lower levels of customer service. We may
not be able to project accurately the rate or timing of increases, if any, in
the use of our services or expand and upgrade our systems and infrastructure to
accommodate these increases in a timely manner. Our inability to upgrade and
expand as required could impair the reputation of our brand and our services,
reduce the volume of users able to access our Web site, and diminish the
attractiveness of our service offerings to our strategic partners, advertisers
and content providers. Because we developed these systems internally, we must
either dedicate substantial internal resources to monitor, maintain and upgrade
these systems or contract with an outside supplier for these services at
substantial expense.
OUR INTERNALLY DEVELOPED SOFTWARE MAY CONTAIN UNDETECTED ERRORS, WHICH COULD
LIMIT OUR ABILITY TO PROVIDE OUR SERVICES AND DIMINISH THE ATTRACTIVENESS OF OUR
SERVICE OFFERINGS
We use internally developed, custom software to provide our services. This
software may contain undetected errors, defects or bugs. Although we have not
suffered significant harm from any errors or defects to date, we may discover
significant errors or defects in the future that we may not be able to fix. Our
inability to fix any of those errors could limit our ability to provide our
services, impair the reputation of our brand and our services, reduce the volume
of users who visit our Web site and diminish the attractiveness of our service
offerings to our strategic partners, advertisers and content providers.
IF WE ARE UNABLE TO ADEQUATELY PROTECT OUR INTELLECTUAL PROPERTY RIGHTS, OUR
TECHNOLOGY AND INFORMATION MAY BE USED BY OTHERS TO COMPETE AGAINST US
We depend upon our internally developed and other proprietary technology.
If we do not effectively protect our proprietary technology, others may become
able to use it to compete against us. To protect our proprietary rights, we rely
on a combination of copyright and trademark laws, patents, trade secrets,
confidentiality agreements with employees and third parties and protective
contractual provisions. Despite our efforts to protect our proprietary rights,
unauthorized parties may misappropriate our proprietary technology or obtain and
use information that we regard as proprietary. We may not be able to detect
these or any other unauthorized uses of our intellectual property or take
appropriate steps to enforce our proprietary rights. In addition, others could
independently develop substantially equivalent intellectual property.
IF OUR SERVICES INFRINGE ON INTELLECTUAL PROPERTY RIGHTS OF OTHERS, WE MAY BE
REQUIRED TO EXPEND SUBSTANTIAL RESOURCES TO REENGINEER OUR SERVICES AND TO INCUR
SUBSTANTIAL COSTS AND DAMAGES RELATED TO INFRINGEMENT CLAIMS
We are subject to the risk of claims alleging infringement of third-party
proprietary rights. If we are subject to claims of infringement of, or are
infringing on, the rights of third parties, we may not be able to obtain
licenses to use those rights on commercially reasonable terms. In that event, we
may need to undertake substantial reengineering to continue our service
offerings. Any effort to undertake such reengineering might not be successful.
In addition, any claim of infringement could cause us to incur substantial costs
defending against the claim, even if the claim is invalid, and could distract
our management. Furthermore, a party making such a claim could secure a judgment
that requires us to pay substantial damages. A judgment could also include an
injunction or other court order that could prevent us from providing our
services.
WE MAY EXPERIENCE DIFFICULTY ESTABLISHING THE SWITCHBOARD BRAND WITHOUT THE
ABILITY TO USE VIACOM'S CBS TRADEMARKS
We have used CBS trademarks in association with our own trademarks in our
brand-building efforts since June 1999. Our use of those CBS trademarks may have
28
been a significant contributing factor in establishing our brand. Our license to
use the CBS trademarks terminated on January 26, 2002. Our efforts to maintain
and further develop our brand may not be as effective since our trademarks are
no longer associated with the CBS trademarks. Any harm to these efforts could
have a material adverse effect on our business.
TERMINATION OF OUR AGREEMENTS WITH VIACOM MAY NEGATIVELY AFFECT OUR
ADVERTISING INITIATIVES
Upon the termination of the advertising and promotion agreement pursuant to
the terms of our restructuring agreement with Viacom, our advertising rights
under our former advertising and promotion agreement with Viacom have
terminated, including our right to order from Viacom advertising and promotion
through June 2006 with an estimated net present value of $44.5 million.
Therefore, we will no longer benefit from the large advertising resources
previously available to us from Viacom at no cash cost, and will have to expend
other resources to obtain advertising. We have limited experience in obtaining
advertising outside the scope of our advertising and promotion agreement with
Viacom. Advertising from third parties may be more costly, difficult to obtain
or less effective than we anticipate.
RISKS RELATED TO THE INTERNET
IF THE ACCEPTANCE AND EFFECTIVENESS OF INTERNET ADVERTISING DOES NOT BECOME
FULLY ESTABLISHED, THE GROWTH OF OUR BANNER AND SITE SPONSORSHIP ADVERTISING
REVENUE WILL SUFFER
Even though we anticipate that revenue from banner and site sponsorship
advertisements will decline as a percentage of our future revenue, our future
success still depends, in part, on an increase in the use of the Internet as an
advertising medium. We generated 36.0%, 57.2% and 45.1% of our revenue from the
sale of banner and site sponsorship advertisements during the years ended
December 31, 2001, 2000 and 1999, respectively. The Internet advertising market
is new and rapidly evolving, and cannot yet be compared with traditional
advertising media to gauge its effectiveness. As a result, demand for and market
acceptance of Internet advertising is uncertain. Many of our current and
potential local merchant customers have little or no experience with Internet
advertising and have allocated only a limited portion of their advertising and
marketing budgets to Internet activities. The adoption of Internet advertising,
particularly by entities that have historically relied upon traditional methods
of advertising and marketing, requires the acceptance of a new way of
advertising and marketing.
These customers may find Internet advertising to be less effective for
meeting their business needs than traditional methods of advertising and
marketing. In addition, there are some software programs that limit or prevent
advertising from being delivered to a user's computer. Widespread adoption of
this software could significantly undermine the commercial viability of Internet
advertising. If the market for Internet advertising fails to develop or develops
more slowly than we expect, our advertising revenue will suffer.
There are currently no generally accepted standards for the measurement of
the effectiveness of Internet advertising. Standard measurements may need to be
developed to support and promote Internet advertising as a significant
advertising medium. Our advertising customers may challenge or refuse to accept
either our or third-party measurements of advertisement delivery.
IF WE ARE SUED FOR CONTENT DISTRIBUTED THROUGH, OR LINKED TO BY, OUR WEB SITE,
WE MAY BE REQUIRED TO SPEND SUBSTANTIAL RESOURCES TO DEFEND OURSELVES AND COULD
BE REQUIRED TO PAY MONETARY DAMAGES
We aggregate and distribute third party data over the Internet. In
addition, third-party Web sites are accessible through our Web site. As a
result, we could be subject to legal claims for defamation, negligence,
29
intellectual property infringement and product or service liability. Other
claims may be based on errors or false or misleading information provided on our
Web site. Other claims may be based on links to sexually explicit Web sites and
sexually explicit advertisements. We may need to expend substantial resources to
investigate and defend these claims, regardless of whether we successfully
defend against them. While we carry general business insurance, the amount of
coverage we maintain may not be adequate. In addition, implementing measures to
reduce our exposure to this liability may require us to spend substantial
resources and limit the attractiveness of our content to users.
WE MAY NEED TO EXPEND SIGNIFICANT RESOURCES TO PROTECT AGAINST ONLINE SECURITY
RISKS THAT COULD RESULT IN MISAPPROPRIATION OF OUR PROPRIETARY INFORMATION OR
CAUSE INTERRUPTION IN OUR OPERATIONS
Our networks may be vulnerable to unauthorized access, computer viruses and
other disruptive problems. Someone who is able to circumvent security measures
could misappropriate our proprietary information or cause interruptions in our
operations. Internet and online service providers have experienced, and may in
the future experience, interruptions in service as a result of the accidental or
intentional actions of Internet users, current and former employees or others.
We may need to expend significant resources protecting against the threat of
security breaches or alleviating problems caused by breaches. Eliminating
computer viruses and alleviating other security problems may require
interruptions, delays or cessation of service.
WE MAY BE SUED FOR DISCLOSING TO THIRD PARTIES PERSONAL IDENTIFYING
INFORMATION WITHOUT CONSENT
Individuals whose names, addresses and telephone numbers appear in our
yellow pages and white pages directories have occasionally contacted us because
their phone numbers and addresses were unlisted with the telephone company.
While we have not received any formal legal claims from these individuals, we
may receive claims in the future for which we may be liable. In addition, if we
begin disclosing to third parties personal identifying information about our
users without consent or in violation of our privacy policy, we may face
potential liability for invasion of privacy.
WE MAY BECOME SUBJECT TO BURDENSOME GOVERNMENT REGULATION AND LEGAL
UNCERTAINTIES, WHICH COULD LIMIT OUR GROWTH
Laws and regulations directly applicable to Internet communications,
commerce and advertising are becoming more prevalent. Laws and regulations may
be adopted covering issues such as user privacy, pricing, content, taxation and
quality of products and services. Any new legislation could hinder the growth in
use of the Internet and other online services generally and decrease the
acceptance of the Internet and other online services as media of communications,
commerce and advertising. Various U.S. and foreign governments might attempt to
regulate our transmissions or levy sales or other taxes relating to our
activities. The laws governing the Internet remain largely unsettled, even in
areas where legislation has been enacted. It may take years to determine whether
and how existing laws such as those governing intellectual property, privacy,
libel and taxation apply to the Internet and Internet advertising and directory
services. In addition, the growth and development of the market for electronic
commerce may prompt calls for more stringent consumer protection laws, both in
the United States and abroad, that may impose additional burdens on companies
conducting business over the Internet.
IF WE CANNOT PROTECT OUR DOMAIN NAMES, OUR ABILITY TO SUCCESSFULLY BRAND
SWITCHBOARD WILL BE IMPAIRED
We currently hold various Web domain names, including Switchboard.com and
MapsOnUs.com. The acquisition and maintenance of domain names generally is
regulated by Internet regulatory bodies. The regulation of domain names in the
United States and in foreign countries is subject to change. Governing bodies
30
may establish additional top-level domains, appoint additional domain name
registrars or modify the requirements for holding domain names. As a result, we
may be unable to acquire or maintain relevant domain names in all countries in
which we conduct business. This problem may be exacerbated by the length of time
required to expand into any other country and the corresponding opportunity for
others to acquire rights in relevant domain names. Furthermore, it is unclear
whether laws protecting trademarks and similar proprietary rights will be
extended to protect domain names. Therefore, we may be unable to prevent third
parties from acquiring domain names that are similar to, infringe upon or
otherwise decrease the value of our trademarks and other proprietary rights. We
may not be able to successfully carry out our business strategy of establishing
a strong brand for Switchboard if we cannot prevent others from using similar
domain names or trademarks.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to financial market risks, including changes in interest rates.
We typically do not attempt to reduce or eliminate our market exposures on our
investment securities because the majority of our investments are short-term. We
do not have any derivative instruments.
The fair value of our investment portfolio or related income would not be
significantly impacted by either a 100 basis point increase or decrease in
interest rates due mainly to the short-term nature of our investment portfolio.
All the potential changes noted above are based on sensitivity analysis
performed on our balances as of December 31, 2001.
31
ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Index to Consolidated Financial Statements
Report of Arthur Andersen LLP, Independent Accountants......................................................... 33
Report of PricewaterhouseCoopers LLP, Independent Accountants.................................................. 34
Consolidated Balance Sheets as of December 31, 2001 and 2000................................................... 35
Consolidated Statements of Operations for each of the years in the three-year period ended December
31, 2001, 2000 and 1999........................................................................................ 36
Consolidated Statements of Stockholders' Equity (Deficit) for each of the years in the three-year
period ended December 31, 2001, 2000 and 1999.................................................................. 37
Consolidated Statements of Cash Flows for each of the years in the three-year period ended December
31, 2001, 2000 and 1999........................................................................................ 39
Notes to Consolidated Financial Statements..................................................................... 40
32
REPORT OF PUBLIC INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders of Switchboard Incorporated:
We have audited the accompanying consolidated balance sheet of Switchboard
Incorporated and subsidiaries (a Delaware corporation) as of December 31, 2001,
and the related consolidated statements of operations, stockholders' equity and
cash flows for the year then ended. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audit.
We conducted our audit in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audit provides a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Switchboard Incorporated and
subsidiaries as of December 31, 2001, and the results of their operations and
their cash flows for the year then ended in conformity with accounting
principles generally accepted in the United States.
/s/ Arthur Andersen LLP
Boston, Massachusetts
January 23, 2002
(except for note L, as for which the date is March 12, 2002)
33
Report of Independent Accountants
To the Board of Directors and
Stockholders of Switchboard, Incorporated:
In our opinion, the consolidated balance sheet as of December 31, 2000 and
the related consolidated statements of operations, stockholders' equity and cash
flows for each of the two years in the period ended December 31, 2000 present
fairly, in all material respects, the financial position, results of operations
and cash flows of Switchboard, Inc. and its subsidiary at December 31, 2000 and
for each of the two years in the period ended December 31, 2000, in conformity
with accounting principles generally accepted in the United States of America.
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 of these statements in accordance with
auditing standards generally accepted in the United States of America, which
require that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
/s/ PricewaterhouseCoopers LLP
Boston, Massachusetts
February 1, 2001
34
SWITCHBOARD INCORPORATED
CONSOLIDATED BALANCE SHEETS
December 31,
----------------------------------
2001 2000
----------- -----------
Assets:
Cash and cash equivalents $ 4,211,911 $18,772,468
Restricted cash - compensating balance 874,495 -
Short-term investments 8,696,280 17,363,104
Accounts receivable, net of allowance of $1,200,311 and $401,878, respectively 1,634,633 5,571,655
Unbilled receivables 623,305 1,577,101
Prepaid royalties 6,133,065 6,500,000
Other current assets 630,901 699,715
----------- -----------
Total current assets 22,804,590 50,484,043
Long-term investments 46,183,243 34,634,236
Property and equipment, net 2,884,899 1,428,893
Other assets, net 2,435,242 12,010,111
----------- -----------
Total assets $74,307,974 $98,557,283
=========== ===========
Liabilities and stockholders' equity:
Accounts payable $2,279,154 $1,287,939
Accrued expenses 4,385,447 3,027,188
Deferred revenue 760,785 1,512,182
Note payable, current portion 2,000,000 -
Capital lease obligation, current portion 356,957 -
----------- -----------
Total current liabilities 9,782,343 5,827,309
Note payable, net of current portion - 2,000,000
Capital lease obligation, net of current portion 517,783 -
----------- -----------
Total liabilities 10,300,126 7,827,309
Commitments and contingencies (Note M)
Stockholders' equity:
Preferred Stock, $0.01 par value per share; 4,999,999 shares authorized
and undesignated at December 31, 2001 and 2000, none issued and outstanding - -
Series E special voting preferred stock, $0.01 par value per share; one
share authorized and designated. No shares issued and outstanding as
of December 31, 2001. One share issued and outstanding as of December 31,
2000. - -
Common stock, $0.01 par value per share; authorized 85,000,000
shares, issued and outstanding 18,265,065 shares as of December 31,
2001 and 25,633,614 shares as of December 31, 2000. 182,651 256,336
Additional paid-in capital 160,681,247 182,341,816
Contribution receivable - (54,204,319)
Unearned compensation (334,071) -
Accumulated other comprehensive income 922,791 368,384
Accumulated deficit (97,444,770) (38,032,243)
----------- -----------
Total stockholders' equity 64,007,848 90,729,974
----------- -----------
Total liabilities and stockholders' equity $74,307,974 $98,557,283
=========== ===========
The accompanying notes are an integral part of these consolidated financial
statements.
35
SWITCHBOARD INCORPORATED
CONSOLIDATED STATEMENTS OF OPERATIONS
Years Ended December 31,
-------------------------------------------------------
2001 2000 1999
----------- ----------- -----------
Revenue $16,025,952 $20,310,399 $8,303,610
Cost of revenue 3,518,006 3,490,811 1,600,877
----------- ----------- -----------
Gross profit 12,507,946 16,819,588 6,702,733
Operating expenses:
Sales and marketing 26,937,759 29,182,385 10,857,390
Research and development 6,701,543 3,473,504 1,922,915
General and administrative 4,331,241 3,303,245 1,712,298
Amortization of goodwill and intangibles 8,016,806 1,568,308 866,013
Loss on Viacom transaction 22,203,422 - -
Restructuring and other charges 6,950,850 - -
----------- ----------- -----------
Total operating expenses 75,141,621 37,527,442 15,358,616
----------- ----------- -----------
Loss from operations (62,633,675) (20,707,854) (8,655,883)
Other income (expense):
Interest income 3,583,562 4,547,190 136,162
Interest expense (65,738) (14,533) (287,234)
Other-than-temporary unrealized loss on investment (55,110) (713,971) -
Other (expense) income (241,566) (128,485) 2,059
----------- ----------- -----------
Total other income (expense) 3,221,148 3,690,201 (149,013)
----------- ----------- -----------
Net loss (59,412,527) (17,017,653) (8,804,896)
Accrued dividends for preferred stockholders - 270,615 938,732
----------- ----------- -----------
Net loss attributable to common stockholders $(59,412,527) $(17,288,268) $(9,743,628)
============ ============ ===========
Basic and diluted net loss per share attributable
to common stockholders $(2.44) $(0.75) $(0.89)
====== ======= ======
Shares used in computing basic and diluted
net loss per share attributable to common
stockholders 24,336,641 22,973,993 10,914,944
Unaudited pro forma basic and diluted net loss per
share (Note B) $(0.72)
======
Shares used in computing unaudited pro forma basic
and diluted net loss per share 23,606,616
The accompanying notes are an integral part of these consolidated financial
statements.
36
SWITCHBOARD INCORPORATED
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
Series E Special
Voting Preferred
Stock Common Stock
------------------ -----------------------
Number Number Additional
of of Paid in Contribution
Shares Value Shares Value Capital Receivable
-------- ------- ------------ ---------- ------------- -------------
Balance, December 31, 1998 - $ - 7,013,250 $ 70,133 $ 720,902 $ -
Issuance of common stock under stock option
plans - - 42,124 421 78,515 -
Issuance of common stock and common stock
warrants to Viacom Inc., net of issuance
costs of $977,120 - - 7,468,560 74,686 74,260,278 (70,312,084)
Issuance of common stock and warrants
related to third party agreements - - 140,000 1,400 1,545,671 -
Accrued dividends for preferred stockholders - - - - (938,732) -
Issuance of preferred stock to Viacom Inc. 1 - - - - -
Non-cash advertising and promotion expenses - - - - - 4,069,246
Change in net unrealized gain on investment - - - - - -
Net loss - - - - - -
Comprehensive loss - - - - - -
-------- ------- ------------ ---------- ------------- -------------
Balance, December 31, 1999 1 - 14,663,934 146,640 75,666,634 (66,242,838)
Issuance of common stock under stock option
and stock purchase plans - - 157,627 1,576 630,814 -
Issuance of stock options to non-employees - - - - 37,573 -
Issuance of common stock pursuant to the
Company's initial public offering - - 6,325,000 63,250 86,240,697 -
Conversion of preferred to common stock in
connection with the Company's initial
public offering - - 3,552,421 35,524 16,554,661 -
Issuance of common stock and warrants
related to third party agreements - - 934,632 9,346 3,482,052 214,325
Non-cash advertising and promotion expenses - - - - - 11,824,194
Accrued dividends for preferred stockholders - - - - (270,615) -
Change in net unrealized gain on investments - - - - - -
Net loss - - - - - -
Comprehensive loss - - - - - -
-------- ------- ------------ ---------- ------------- -------------
Balance, December 31, 2000 1 - 25,633,614 256,336 182,341,816 (54,204,319)
Issuance of common stock under stock option
and stock purchase plans - - 120,011 1,200 259,057 -
Expenses resulting from issuance of common
stock and warrants related to third party
agreements - - - - (110,456) -
Unearned compensation associated with grant
of below market stock options to an employee - - - - 436,460 -
Amortization of unearned compensation - - - - - -
Restructuring of Viacom Inc. relationship (1) - (7,488,560) (74,885) (22,245,630) 44,523,937
Non-cash advertising and promotion expenses - - - - - 9,680,382
Change in net unrealized gain on investments - - - - - -
Net loss - - - - - -
Comprehensive loss - - - - - -
-------- ------- ------------ ---------- ------------- -------------
Balance, December 31, 2001 - $ - 18,265,065 $182,651 $160,681,247 $ -
======== ======= ============ ========== ============= =============
37
SWITCHBOARD INCORPORATED
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
(CONTINUED)
Accumulated Total
Other Stockholders'
Unearned Comprehensive Accumulated Equity
Compensation Income Deficit (Deficit)
--------------- ---------------- -------------- ----------------
Balance, December 31, 1998 $ - $ - $(12,209,694) $(11,418,659)
Issuance of common stock under stock option
plans - - 78,936
Issuance of common stock and common stock
warrants to Viacom Inc., net of issuance
costs of $977,120 - - 4,022,880
Issuance of common stock and warrants
related to third party agreements - - 1,547,071
Accrued dividends for preferred stockholders - - - (938,732)
Issuance of preferred stock to Viacom Inc. - - - -
Non-cash advertising and promotion expenses - - - 4,069,246
Change in net unrealized gain on investment - 1,855,950 - 1,855,950
Net loss - - (8,804,896) (8,804,896)
----------------
Comprehensive loss - - - (6,948,946)
--------------- ---------------- -------------- ----------------
Balance, December 31, 1999 - 1,855,950 (21,014,590) (9,588,204)
Issuance of common stock under stock option
and stock purchase plans - - - 632,390
Issuance of stock options to non-employees - - - 37,573
Issuance of common stock pursuant to the
Company's initial public offering - - - 86,303,947
Conversion of preferred to common stock in
connection with the Company's initial
public offering - - - 16,590,185
Issuance of common stock and warrants
related to third party agreements - - - 3,705,723
Non-cash advertising and promotion expenses - - - 11,824,194
Accrued dividends for preferred stockholders - - - (270,615)
Change in net unrealized gain on investments - (1,487,566) - (1,487,566)
Net loss - - (17,017,653) (17,017,653)
----------------
Comprehensive loss - - - (18,505,219)
--------------- ---------------- -------------- ----------------
Balance, December 31, 2000 - 368,384 (38,032,243) 90,729,974
Issuance of common stock under stock option
and stock purchase plans - - - 260,257
Expenses resulting from issuance of common
stock and warrants related to third party
agreements - - - (110,456)
Unearned compensation associated with grant
of below market stock options to an employee (436,460) - - -
Amortization of unearned compensation 102,389 - - 102,389
Restructuring of Viacom Inc. relationship - - - 22,203,422
Non-cash advertising and promotion expenses - - - 9,680,382
Change in net unrealized gain on investments - 554,407 - 554,407
Net loss - - (59,412,527) (59,412,527)
----------------
Comprehensive loss - - - (58,858,120)
--------------- ---------------- -------------- ----------------
Balance, December 31, 2001 $(334,071) $ 922,791 $(97,444,770) $ 64,007,848
=============== ================ ============== ================
The accompanying notes are an integral part of these consolidated financial
statements.
38
SWITCHBOARD INCORPORATED
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year Ended December 31,
------------------------------------------
2001 2000 1999
------------ ------------ -----------
Cash flows from operating activities:
Net loss $(59,412,527) $(17,017,653) $(8,804,896)
Adjustments to reconcile net loss to net cash used in operating
activities:
Depreciation and amortization 2,649,253 1,311,536 790,574
Amortization of unearned compensation 102,389 - -
Loss on disposal of property and equipment 175,861 124,000 -
Expense related to warrant grants - 552,306 497,071
Write-off of technology - - -
Non-cash advertising and promotion expense 9,680,382 11,824,194 4,069,246
Loss on Viacom Inc. transaction 22,203,422 - -
Restructuring and other charges, non-cash portion 5,231,877 - -
Other-than-temporary unrealized loss on available for sale
investments 55,110 713,971 -
Changes in operating assets and liabilities:
Accounts receivable 3,937,021 (5,479,181) (176,055)
Unbilled receivables 953,796 1,390,675 (494,149)
Other current assets (2,357,889) (219,639) (467,516)
Other assets 5,881,408 (5,971,622) (442,191)
Directory services agreement - (6,500,000) -
Accounts payable 991,214 500,754 750,195
Accrued expenses (235,451) 158,683 600,805
Accrued restructuring 1,509,534 - -
Deferred revenue (751,397) 163,037 899,909
------------ ------------ -----------
Net cash used in operating activities (9,385,997) (18,448,939) (2,777,007)
Cash flows from investing activities:
Purchases of property and equipment (2,941,701) (1,016,743) (942,155)
Acquisition of business - (77,369) -
Restricted cash (874,495) - -
Proceeds from short-term investments 8,589,810 (17,276,143) -
Purchases of long-term investments (10,972,695) (34,291,885) -
------------ ------------ -----------
Net cash used in investing activities (6,199,081) (52,662,140) (942,155)
Cash flows from financing activities:
Proceeds from convertible promissory notes - related party - - 3,335,307
Proceeds from issuance of common stock, net 149,781 86,906,954 4,101,816
Proceeds from capital leases 1,100,652 - -
Payments on capital leases and notes payable (225,912) (627,958) (500,000)
------------ ------------ -----------
Net cash provided by financing activities 1,024,521 86,278,996 6,937,123
Net (decrease) increase in cash and cash equivalents (14,560,557) 15,167,917 3,217,961
Cash and cash equivalents at beginning of year 18,772,468 3,604,551 386,590
------------ ------------ -----------
Cash and cash equivalents at end of year $4,211,911 $18,772,468 $3,604,551
============ ============ ===========
Supplemental schedule of cash flow information:
Interest paid $65,738 $42,491 $117,084
======= ======= ========
Supplemental statement of non-cash financing activity:
Conversion of redeemable preferred stock into common stock - $16,590,185 -
Issuance of common stock for distribution agreement - $2,968,475 -
Issuance of payable and stock options related to acquisition - $2,037,573 -
Unrealized (gain) loss on investments $(499,297) $1,487,566 -
Settlement of convertible promissory notes through issuance of
preferred stock - - $11,722,452
Issuance of common stock for technology - - $1,050,000
Non-cash issuance cost - - $375,000
Warrants received in connection with a Development, Access and License
agreement - - $774,900
The accompanying notes are an integral part of these consolidated financial
statements.
39
SWITCHBOARD INCORPORATED
NOTES TO THE FINANCIAL STATEMENTS
DECEMBER 31, 2001
A. Nature of Business
Switchboard Incorporated, a Delaware corporation (the "Company"), commenced
operations in February 1996. From the Company's inception (February 19, 1996)
until March 7, 2000, the Company was a unit and later a subsidiary of ePresence
Inc. (formerly Banyan Worldwide, "ePresence"). As of December 31, 2001,
ePresence beneficially owned approximately 53.7% of the Company's common stock.
The Company is a provider of Web-hosted directory technologies and customized
yellow pages platforms to yellow pages publishers, newspaper publishers and
Internet portals that offer online local directory advertising solutions to
national retailers and brick and mortar merchants across a full range of
Internet and wireless platforms. The Company offers a broad range of functions,
content and services, including yellow and white pages, product searching,
location based searching and interactive maps and driving directions. The
Company's Web site, Switchboard.com, is a showcase for the Company's technology
and breadth of directory product offerings, and is a resource for consumers and
businesses alike. The Company offers its users local information about people
and businesses across the United States and Canada. The Company operates in one
business segment as a provider of Web-hosted directory technologies and
customized yellow pages platforms.
The Company is subject to risks and uncertainties common to growing
technology-based companies, including rapid technological change, growth and
commercial acceptance of the Internet, acceptance and effectiveness of Internet
advertising, dependence on principal products and third-party technology, new
product development, new product introductions and other activities of
competitors, dependence on key personnel, security and privacy issues,
dependence on strategic relationships and limited operating history.
The Company has also experienced substantial net losses since its inception
and, as of December 31, 2001, had an accumulated deficit of $97.4 million. Such
losses and accumulated deficit resulted from the Company's lack of substantial
revenue and significantly increased costs incurred in the development of the
Company's products and services and in the preliminary establishment of the
Company's infrastructure. The Company expects to continue to incur significant
operating expenses in order to execute its current business plan, particularly
sales and marketing and product development expenses. The Company believes that
the funds currently available would be sufficient to fund operations through at
least the next 12 months.
B. Summary of Significant Accounting Policies
Principles of Consolidation
---------------------------
The accompanying financial statements, which are derived from both the
independent books and records of the Company and its subsidiaries and the
historical books and records of ePresence, include the assets, liabilities,
revenues and expenses of the Company at historical cost. Intercompany accounts
and transactions have been eliminated. Certain previously reported amounts have
been reclassified to conform to the current method of presentation.
These financial statements are intended to present management's estimates
of the results of operations and financial condition of the Company as if it had
operated as a stand-alone company since inception. Certain of the costs and
expenses are management estimates of the cost of services provided by ePresence
and its subsidiaries. As a result, the financial statements presented may not be
indicative of the results that would have been achieved had the Company operated
as a nonaffiliated entity.
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 the
disclosures of contingent liabilities at the period end, and the reported
amounts of revenues and expenses during the reporting period. Actual results
could differ from those estimates.
40
Cash Equivalents and Marketable Securities
------------------------------------------
The Company considers all highly liquid investments with an original
maturity of three months or less to be cash equivalents. Those instruments with
original maturities between three and twelve months are considered to be
short-term marketable securities, and investments with maturities of greater
than one year are classified as long-term marketable securities. Cash
equivalents and marketable securities are carried at market, and consist
primarily of interest bearing deposits with major financial institutions.
In accordance with Statement of Financial Accounting Standards ("SFAS") No.
115, the Company classifies all of its marketable equity securities as available
for sale securities. These securities are valued at fair value and consist
primarily of U.S government securities, corporate and municipal issues and
interest bearing deposits with major banks. Unrealized holdings gains and losses
are reported as a component of accumulated other comprehensive income, a
separate component of Stockholders' Equity. Other-than-temporary unrealized
losses are reported as a component of other income (expense) within the
Statement of Operations.
Property and Equipment
----------------------
Property and equipment are stated at cost. Depreciation is computed using
the straight-line method over the following estimated asset lives:
Computers, peripherals and servers 3 years
Office equipment 3-5 years
Software 3 years
Furniture and fixtures 5 years
Leasehold improvements are depreciated over the asset's estimated useful
life or the remaining life of the lease, whichever is shorter. Maintenance and
repairs are charged to expense when incurred, while betterments are capitalized.
When property is retired or otherwise disposed of, the related cost and
accumulated depreciation are removed from the respective amounts and any gain or
loss is reflected in operations.
Goodwill and Intangibles
------------------------
The Company recorded amounts in excess of assets acquired pursuant to its
acquisition of Envenue Inc. ("Envenue") in November 2000 as goodwill.
Subsequently, in December 2001, the Company evaluated the net realizable value
of its goodwill in Envenue, and determined that it had been impaired based upon
undiscounted future cash flows. As a result, the Company recorded a loss on
impairment as a component of its fourth quarter of 2001 restructuring and other
charges as a one-time charge to earnings (Note S). Pursuant to a distribution
agreement the Company entered into with America Online, Inc. ("AOL"), the
Company issued shares of its common stock to AOL. The value of these shares of
common stock have been recorded as an intangible asset, and is being amortized
on a straight-line basis over the distribution agreement (Note E).
The Company evaluates the net realizable value of its goodwill and
intangibles on an ongoing basis, relying on a number of factors including
operating results, business plans, budgets, economic projections and
undiscounted cash flows. In addition, the Company's evaluation considers
non-financial data such as market trends, project development cycles and changes
in management's market emphasis.
Advertising Expense
-------------------
Advertising costs are expensed as incurred and totaled $22,061,040,
$16,719,299 and $6,114,543 in the years ended December 31, 2001, 2000 and 1999,
respectively. In 2001, 2000 and 1999, the costs included $9,680,382, $11,824,194
and $4,069,246 of non-cash advertising received from Viacom Inc. (formerly CBS
Corporation, Note L), respectively.
41
Revenue Recognition
-------------------
The Company generates its revenue primarily from its merchant network and
banner and site sponsorship advertising. Generally, revenue is recognized as
services are provided, so long as no significant obligations remain and
collection of the resulting receivable is probable.
The Company's merchant network revenue includes revenue from various
licensing agreements with its merchant network alliance partners. These
agreements involve engineering work to develop a Web-hosted platform for the
Company's alliance partners, a license fee based upon the size and complexity of
the platform; and a per merchant fee per month based upon the number of
merchants they promote in the platform. Engineering and license fees are
recognized ratably over the life of the contract. The per merchant fees are
generally paid on a monthly basis, and revenue is recognized as services are
performed.
Merchant network revenue also includes revenue from activities in which the
Company runs trademark and display ads in the Switchboard.com yellow pages
directory, builds and hosts Web sites for local merchants, charges customer
acquisition fees to program partners for the initiation and set-up of new local
merchant Web sites and sends related direct electronic mail-based promotions.
For trademark, display ads and the hosting of Web sites, the Company charges a
subscription fee. Subscription fees are recognized over the period that the
trademark ad, display ad or local merchant Web site is in place, which typically
is between a month and a year. Customer acquisition fees are recognized when the
local merchant Web site construction is complete. Revenue from direct
electronic-based promotions is recognized as services are performed.
The Company's banner and site sponsorship advertising revenue is derived
principally from short-term advertising contracts and sponsorship agreements in
which the Company receives a fixed fee or earns a fee based on a per thousand
impressions or per action basis. Banner and site sponsorship advertising revenue
also includes related direct electronic mail-based promotions. The duration of
the Company's advertising commitments from customers typically range from two
weeks to one year. Revenue from banner and site sponsorship advertising is
recognized as the services are delivered.
Deferred revenue is principally comprised of billings in excess of
recognized revenue relating to advertising agreements and licensing fees
received pursuant to advertising or services agreements in advance of revenue
recognition. Unbilled receivables are principally comprised of revenues earned
and recognized in advance of invoicing customers, resulting from contractually
defined billing schedules.
Risks, Concentrations and Uncertainties
---------------------------------------
The Company invests its cash and cash equivalents primarily in deposits and
money market funds with financial institutions. The Company has not experienced
any realized losses to date on its invested cash.
A potential exposure to the Company is a concentration of credit risk in
trade accounts receivable. The Company maintains reserves for credit losses and,
to date, such losses have been within management's expectations. As of December
31, 2001, two customers accounted for 26.7% and 21.9% of accounts receivable. As
of December 31, 2000, one customer accounted for 18.5% of accounts receivable.
One customer accounted for 16.8% of revenue and AOL accounted for 25.4% of
revenue for the year ended December 31, 2001. One customer accounted for 15.8%
of revenue for the year ended December 31, 2000, while one customer accounted
for 22.7% of revenue for the year ended December 31, 1999.
Income Taxes
------------
The Company accounts for income taxes under the asset and liability method.
Under this method, deferred tax assets and liabilities are recognized for the
estimated future tax consequences attributable to differences between the
financial statement carrying amounts of existing assets and liabilities and
their respective tax bases. Deferred tax assets and liabilities are measured
using enacted rates in effect for the year in which those temporary differences
are expected to be recovered or settled. A deferred tax asset is established for
the expected future benefit of net operating loss and tax credit carry-forwards.
A valuation reserve against net deferred tax assets is required if, based upon
42
available evidence, it is more likely than not that some or all of the deferred
tax assets will not be realized.
Fair Value of Financial Instruments
-----------------------------------
The carrying amounts of the Company's financial instruments, which include
cash equivalents, accounts receivable, accounts payable, accrued expenses and a
note payable, approximate their fair values.
Accounting for Stock-Based Compensation
---------------------------------------
The Company accounts for stock-based awards to employees using the
intrinsic value method as prescribed by Accounting Principles Board ("APB") No.
25, "Accounting for Stock Issued to Employees," and related interpretations.
Accordingly, no compensation expense is recorded for options issued to employees
in fixed amounts and with fixed exercise prices at least equal to the fair
market value of the Company's common stock at the date of grant. The Company has
adopted the provisions of SFAS No. 123, "Accounting for Stock-Based
Compensation," through disclosure only (Note Q). All stock-based awards to
non-employees are accounted for at their fair value in accordance with SFAS No.
123.
Net Loss per Share and Pro Forma Net Loss per Share
---------------------------------------------------
Basic net loss per share is computed using the weighted average number of
shares of common stock outstanding. In 1999 and 2000, the net loss used in the
calculation of basic net loss per share attributable to common stockholders is
increased by the accrued dividends for the preferred stock outstanding in each
period. Diluted net loss per share does not differ from basic net loss per share
since potential common shares from conversion of preferred stock, stock options
and warrants are antidilutive for all periods presented and are therefore
excluded from the calculation. During the years ended December 31, 2001, 2000
and 1999, options to purchase 4,206,080, 3,526,080 and 2,951,600 shares of
common stock, respectively, preferred stock convertible into none, one and
3,552,422 shares of common stock, respectively, and warrants for 918,468,
1,451,937 and 1,751,937 shares of common stock, respectively, were not included
in the computation of diluted net loss per share since their inclusion would be
antidilutive. Pro forma basic and diluted net loss per share have been
calculated in 2000 assuming the conversion of all outstanding shares of
preferred stock into common stock, as if the shares had converted immediately
upon their issuance.
Comprehensive Income (Loss)
---------------------------
As of January 1, 1998, the Company adopted SFAS No. 130, "Reporting
Comprehensive Income", which establishes new rules for the reporting and display
of comprehensive income and its components. SFAS No. 130 requires companies to
report all changes in stockholders' equity during a period, except those
resulting from investment by owners and distribution to owners, in comprehensive
income in the period in which they are recognized.
Derivative Instruments and Hedging
----------------------------------
During 2001, the Company had no derivative investments or accounting hedges
in place.
C. Concurrent Transactions
The Company had barter transactions totaling $836,000, or 5.2% of revenue,
and $1,630,000, or 8.0% of revenue, for the years ended December 31, 2001 and
2000, respectively, in which the Company received promotion in exchange for
promotion on the Company's Web site or through direct e-mail distributions. The
Company also had other nonmonetary transactions totaling $732,000, or 3.6% of
revenue, for the year ended December 31, 2000, in which the Company received
certain marketing assets in exchange for promotion on the Company's Web site or
through direct e-mail distributions. Revenue from advertising barter has been
valued based on similar cash transactions which occurred within six months prior
to the date of the barter transaction. Revenues from other nonmonetary
transactions are recorded at the fair value of the goods or services provided or
43
received, whichever is more readily determinable. The Company recorded no
concurrent transactions in the year ended December 31, 1999.
D. Property and Equipment
Property and equipment consisted of the following at:
December 31,
2001 2000
---- ----
Computers, peripherals and servers $4,119,639 $2,152,930
Office equipment 268,838 257,829
Software 593,245 483,904
Furniture and fixtures 144,467 72,968
Leasehold improvements 341,850 27,255
------- ------
5,468,039 2,994,886
Accumulated depreciation (2,583,140) (1,565,993)
----------- -----------
Total $2,884,899 $1,428,893
========== ==========
Depreciation expense for the years ended December 31, 2001, 2000 and 1999
was $1,234,824, $662,469 and $377,878, respectively.
E. AOL
In December 2000, the Company entered into a Directory and Local
Advertising Platform Services Agreement (the "Directory Agreement") with AOL, to
develop a new directory and local advertising platform and product set to be
featured across specified AOL properties.
The Company and AOL share specified directory advertisement revenues during
the term of the Directory Agreement. In general (i) the Company will receive a
majority of the first $35.0 million of such directory advertisement revenues and
(ii) the Company will receive a lesser share of any additional such directory
advertisement revenues. The Company paid AOL $13.0 million at the signing of the
directory agreement. The directory agreement calls for a second payment of $13.0
million on or before March 11, 2002. The Company has had discussions with AOL
regarding the timing of this payment, and has not yet made payment of this
amount. AOL has not asserted a breach of the agreement based upon this
nonpayment. Any such assertion would fall within the resolution and arbitration
provisions of the agreement. AOL has participated in discussions with the
Company. AOL has committed to pay at least $2.0 million to the Company in
consulting or service fees, of which we had delivered $1.9 million in services
to AOL through December 31, 2001. The Directory Agreement has an initial term of
four years, which term is subject to earlier termination upon the occurrence of
specified events, including, without limitation (a) after 24 months and again
after 36 months if specified revenue targets have not been achieved and neither
party has made additional payments to the other to prevent such termination, (b)
if the Company is acquired by one of certain third parties or (c) if AOL
acquires one of certain third parties and AOL pays to the Company a termination
fee of $25.0 million.
In connection with entering into the Directory Agreement, the Company
issued to AOL 746,260 shares of its common stock, and agreed to issue to AOL
746,260 shares of common stock if the Directory Agreement continues after two
years and an additional 746,260 shares of common stock if the Directory
Agreement continues after three years. If the Company and AOL renew the
Directory Agreement for at least an additional four years after the initial
term, the Company agreed to issue to AOL a warrant to purchase up to 721,385
shares of common stock at a per share purchase price of $4.32. The Company
granted AOL "piggy-back" registration rights and up to two Form S-3 demand
registration rights with respect to the foregoing shares of common stock.
44
The Company recorded expense related to the amortization of $13.0 million
paid and the value of the 746,260 shares issued of $7,297,566 and $411,959
during the years ended December 31, 2001 and 2000, respectively. As of December
31, 2001, the Company had $6.1 million, of the $13.0 million paid, recorded as
prepaid royalties.
Net revenue recognized from AOL was $4,074,129, or 25.4% of revenue, for
2001. The Company anticipates that revenue from AOL will represent an even
greater percentage of its revenue in 2002 and will be a material component of
its overall business. Amounts due from AOL included in accounts receivable at
December 31, 2001 and 2000 were $573,863 and $200,000, respectively, and
unbilled receivables as of December 31, 2001 were $618,357.
F. Envenue Acquisition
On November 24, 2000, the Company acquired Envenue, a wireless provider of
advanced product searching technologies designed to drive leads to traditional
retailers. The transaction was accounted for as a purchase. The total purchase
price included consideration of $2.0 million in cash to be paid on or before May
24, 2002, and $37,573 in recorded value of stock options to purchase 10,200
shares of the Company's common stock issued to non-employees. The Company used a
0% dividend yield, 100% expected volatility, 6.297% risk free interest rate, 5.0
year life and fair value of $4.750 per share as inputs to the Black-Scholes
option pricing model to determine the value attributable to these options. There
is also an 18-month earn-out of up to $2.0 million contingent on performance to
be paid on or before July 8, 2002.
The estimated total purchase price of the Envenue acquisition, excluding
any earn-out payment, is as follows:
Payable related to acquisition $2,000,000
Options issued to non-employees 37,573
Estimated expenses of transaction 79,523
----------
$2,117,096
The purchase price allocation is as follows:
Net liabilities acquired $(168,386)
Goodwill 2,285,482
----------
$2,117,096
The Company recorded $2,285,482 of goodwill from the acquisition in 2000.
Goodwill represents the excess of the purchase price of an investment in an
acquired business over the fair value of the underlying net identifiable assets.
The Company was amortizing this goodwill on a straight-line basis using an
estimated useful life of 5 years. The Company has determined that the pro forma
results of operations for the year ended December 31, 2000, assuming Envenue and
the Company had been combined as of the beginning of 2000, were not materially
different from the results of operations presented.
In December 2001, the Company exercised its rights under the acquisition
agreement to substantially reduce the funding of its Envenue acquisition.
Additionally, the Company evaluated the carrying value of its goodwill in
Envenue, and determined it would not be fully recovered through estimated
undiscounted future operating cash flows. As a result, the Company recorded
during the three months ending December 31, 2001 as a component of restructuring
and other charges $1,858,858 for the impairment of goodwill. (Note S)
45
G. Other Assets
Other assets consist of the following at:
December 31,
--------------------------
2001 2000
---------- -----------
Value of stock issued under AOL Directory Agreement $3,182,800 $3,182,800
Prepayment related to AOL Directory Agreement - 6,133,065
Deferred project costs 95,032 280,748
Goodwill - 2,285,482
Software licenses - 1,050,000
---------- -----------
3,277,832 12,932,095
Accumulated amortization (842,590) (921,984)
---------- -----------
Total $2,435,242 $12,010,111
========== ===========
Amortization expense for other assets, excluding deferred project costs,
was $1,414,418, $649,067 and $412,696 for the years ended December 31, 2001,
2000 and 1999, respectively, and are included in operating expenses.
Deferred project costs represent costs incurred that are directly
associated with customer contracts for which the Company has not yet started
recognizing revenue. These costs, which consist mainly of salary and benefits
costs, are deferred until revenue on the related project is recognized in order
to properly match revenue and associated expenses. Deferred costs are amortized
over the same period as the related revenue, and are included in cost of
revenue. The Company recognized expense of $202,047, $246,292 and $222,663
related to these deferred project costs in the years ended December 31, 2001,
2000 and 1999, respectively.
On May 18, 1998, the Company acquired the Maps On Us Internet mapping
technology from Lucent Technologies Inc. ("Lucent"). The technology was acquired
to integrate into the Company's directory Web site. The Company paid Lucent
$500,000 in cash and executed a note payable of $1,100,000 to be paid over a
two-year period. During the year ended December 31, 2000, the Company completed
payment of the final principal and interest payable under the note. A
significant portion of the technology acquired was deemed incomplete as it did
not meet the criteria for capitalization. Therefore, the Company recorded a
charge to product development of $1,400,000 for the purchase of incomplete
technology in 1998. The Company amortized the remaining $200,000 of value on a
straight-line basis over a period of two years, which ended in May 2000.
In May 1999, the Company issued 140,000 shares of its common stock to a
software provider. The Company capitalized $1,050,000, the fair value of its
common stock issued, and amortized that amount over a two-year period which
ended in May 2001. (Note O)
46
H. Marketable Securities
The following is a summary of investments at December 31, 2001 and 2000:
Unrealized
-----------------
Amortized Cost Gains Losses Estimated Fair Value
2001 -------------- ----- ------ --------------------
- ----
Short Term
U.S. corporate debt securities $3,624,191 $310 $1,614 $3,622,887
U.S. Government obligations 3,061,320 5,432 - 3,066,752
Marketable CDs 2,000,823 - - 2,000,823
Warrant 5,818 - - 5,818
----------- -------- ------- -----------
Total short term investments 8,692,152 5,742 1,614 8,696,280
Long Term
U.S. corporate debt securities 26,970,359 531,097 9,621 27,491,835
U.S. Government obligations 12,783,377 337,089 - 13,120,466
Municipal obligations 5,510,844 60,098 - 5,570,942
----------- -------- ------- -----------
Total long term investments 45,264,580 928,284 9,621 46,183,243
----------- -------- ------- -----------
Total investments $53,956,732 $934,026 $11,235 $54,879,523
=========== ======== ======= ===========
Unrealized
-----------------
Amortized Cost Gains Losses Estimated Fair Value
2000 -------------- ----- ------ --------------------
- ----
Short Term
U.S. corporate debt securities $9,547,540 $14,911 $ - $9,562,451
U.S. Government obligations 2,040,730 6,646 - 2,047,376
Municipal obligations 1,502,068 7,032 - 1,509,100
Marketable CDs 4,185,806 176 2,733 4,183,249
Warrant 60,928 - - 60,928
----------- -------- ------ -----------
Total short term investments 17,337,072 28,765 2,733 17,363,104
Long Term
U.S. corporate debt securities 20,605,630 183,305 5,057 20,783,878
U.S. Government obligations 8,171,781 144,507 - 8,316,288
Municipal obligations 5,514,473 19,597 - 5,534,070
----------- -------- ------ -----------
Total long term investments 34,291,884 347,409 5,057 34,634,236
----------- -------- ------ -----------
Total investments $51,628,956 $376,174 $7,790 51,997,340
=========== ======== ====== ===========
The Company had short and long-term marketable securities of $19,884,282
and $34,995,241 maturing within the one-year and one to five-year periods
beginning December 31, 2001, respectively.
In August 1999, in connection with a Development, Access and License
agreement with a third party, the Company was issued a warrant for 150,000
shares of common stock, with an exercise price of $9.19 per share. In December
2000 and again in September 2001, the Company assessed a decline in market value
of the third party's publicly traded common stock and determined that the
decline in value was other-than-temporary. As a result, the Company recorded as
a component of other income and expense unrealized losses on investments of
$55,110 and $713,971 in the years ended December 31, 2001 and 2000,
respectively. As of December 31, 2001, approximately $6,000 in value remains
recorded as a component of short-term investments. The underlying common stock
of the third party is publicly traded and can be registered at the demand of the
Company any time after June 16, 2000. The warrant expires on June 30, 2002.
47
I. Accrued Expenses
Accrued expenses consist of the following at:
December 31,
-----------------------------
2001 2000
---------- -----------
Compensation $834,914 $782,482
Restructuring 1,640,908 -
Royalties 77,398 106,634
Professional services 162,329 156,854
Deferred cost benefit - 516,600
Franchise and excise tax 163,181 301,801
Merchant services marketing 12,179 371,321
Advertising - 329,945
Other 1,494,538 461,551
---------- -----------
Total $4,385,447 $ 3,027,188
========== ===========
J. Convertible Promissory Notes
On August 29, 1997, the Company entered into a collateralized convertible
note facility with ePresence. The facility was initially for $3,000,000, and was
increased on February 20, 1998 to $7,000,000 and on May 3, 1999 to $10,000,000.
Outstanding amounts under the facility bore interest at a rate equal to the
applicable federal rate under Section 1274 of the Internal Revenue Code of 1986,
as amended, for short-term loans with annual compounding interest for the month
in which such loan was made and were due and payable on June 30, 2000. At
December 31, 1998 and 1999 the interest rate in effect was 4.33%, and 5.74%,
respectively. The outstanding amount of principal and interest was convertible
at the option of ePresence into shares of Series C Convertible Preferred Stock
at a rate of $4.00 per share, subject to adjustment, at any time. The entire
outstanding amount of principal and interest was converted on June 30, 1999
(Note P). The Company may not borrow any additional amounts under this facility.
On May 3, 1999, the Company entered into a second collateralized
convertible note facility with ePresence. This facility was subsequently amended
and restated in its entirety on January 26, 2000. The facility was originally
for $5,000,000. Outstanding amounts bear interest at a rate equal to the
applicable federal rate under Section 1274 of the Internal Revenue Code of 1986,
as amended, for short-term loans with annual compounding interest for the month
in which such loan was made and are due and payable on January 1, 2001. At
December 31, 1999, the interest rate in effect was 5.74%. The outstanding amount
of principal and interest was convertible at the option of ePresence into shares
of Series D Convertible Preferred Stock at $7.50 per share, subject to
adjustment, at any time. Subsequent to December 31, 1999, the Company may not
borrow any additional amounts under this facility. As of December 31, 2001 and
2000, there were no amounts due under this facility.
On June 30, 1999, the Company issued 87,345 shares of Series D Convertible
Preferred Stock to ePresence upon the conversion by ePresence of principal and
interest of $655,089 under this facility. The dollar amount converted
represented an estimate of all of the principal and interest outstanding as of
June 30, 1999. As of July 1, 1999, the Company issued 59,160 additional shares
of Series D Convertible Preferred Stock to ePresence upon the conversion by
ePresence of principal and interest of $443,699 under this facility. The
additional dollar amount converted represented the actual amount of all of the
principal and interest outstanding as of June 30, 1999, after giving effect to
the estimate the Company made on June 30, 1999. This conversion was made by
ePresence to put ePresence and CBS Corporation in the equity ownership position
they would have been in had the actual amount of outstanding principal and
interest at June 30, 1999 been known on June 30, 1999. Subsequent to December
31, 1999, the Company may not borrow any additional amounts under this facility.
As of December 31, 2001 and 2000, there were no amounts due under this facility.
K. Related Parties
The Company and ePresence entered into a corporate services agreement dated
November 1, 1996 under which ePresence's corporate staff provided certain
48
administrative services, including financial and accounting and payroll advice,
treasury, tax and insurance services for which the Company paid ePresence a
monthly fee based on the Company's headcount and the level of services provided
by ePresence. Under a revised agreement dated March 7, 2000, ePresence continued
to provide certain administrative, technical support and equipment maintenance
services for the Company. On March 7, 2001, the agreement expired.
The Company and ePresence entered into a new corporate services agreement
dated March 7, 2002, under which ePresence will provide the Company with
telephone service and support for an amount of $75,000 per year. The new
agreement includes past services incurred since the March 7, 2001 expiration of
the previous agreement, as well as future telephone services through February
28, 2003. As of December 31, 2001, the Company had accrued expenses of $62,500
related to these unbilled services. For services provided prior to the
expiration of the agreements, Switchboard was charged $29,166, $195,128 and
$295,788 in 2001, 2000 and 1999, respectively. Management believes that the
service fees charged by ePresence are reasonable and that such fees are
representative of the expenses the Company would have incurred on a stand-alone
basis.
For additional items such as legal support and support in financing and
acquisition transactions, the Company is charged based on ePresence's labor
costs for the employee performing the services. Further, the Company reimburses
ePresence for its pro rata share of employee benefit plan expenses.
The Company leases the space it occupies under a sublease entered into in
January 2001. Under the sublease, the Company paid approximately $488,069 to
ePresence during 2001. Previous to this sublease agreement, the Company paid
ePresence rent in an amount that was approximately equal to its pro rata share
of ePresence's rent and occupancy costs. The Company's share of ePresence's rent
and occupancy costs was $51,102, $288,038 and $195,156 in 2001, 2000 and 1999,
respectively.
Certain directors of the Company hold positions as officers or directors of
ePresence. The Chairman of the Board of Directors of the Company is also
Chairman of the Board of Directors, President and Chief Executive Officer of
ePresence. One director of the Company is Senior Vice President and Chief
Financial Officer of ePresence. Another director of the Company is also a
director of ePresence. In 2001, 2000 and 1999, no compensation was paid to these
directors by the Company for their services other than option grants under the
Company's equity incentive plans.
L. Restructuring of Viacom Relationship
In 1999, the Company and Viacom Inc. ("Viacom", formerly CBS Corporation)
consummated a number of agreements under which Viacom acquired a 35% equity
stake in Switchboard, through the issuance of 7,468,560 shares of the Company's
common stock and one share of Series E Special Voting Preferred Stock (Note P).
In exchange, the Company received $5,000,000 in cash and the right to receive
advertising and promotional value over a term of seven years, across the full
range of CBS media properties, as well as those of its radio and outdoor
subsidiary, Infinity Broadcasting Corporation. As part of the transactions,
Viacom was also issued warrants to purchase up to an additional 1,066,937 shares
of the Company's common stock at a per share exercise price of $1.00, which
would have increased its ownership position in the Company to 40% at the time of
the transaction. The number of shares of common stock and warrants issued to
Viacom were subject to adjustment in the event of certain future issuances of
securities by the Company.
The Advertising and Promotion Agreement dated as of June 30, 1999 among the
Company, ePresence and Viacom provided advertising with a future value of $95
million to the Company over a seven-year period, subject to one year renewals
upon the mutual written agreement of the Company, ePresence and Viacom. The net
present value of the advertising was recorded as a contribution receivable for
the common stock issued. The contribution receivable was reduced as the Company
utilized advertising based on the proportion of advertising provided to the
total amount to be provided over the seven-year term.
The Company was required to pay Viacom a 25% commission on the net
advertising revenues derived from the sale of advertising displayed to Viacom
users through the co-branded interfaces or vertical guides during the term of
the agreement. Additionally, the Company was required to pay a 12% sales
commission for advertising sold by Viacom on the Company's Web site, or on
advertisements displayed to Viacom users through co-branded interfaces or
vertical guides.
49
Viacom and the Company also entered into a License Agreement dated as of
June 30, 1999 which provided a ten-year license, subject to extension, to the
Company for the utilization of the CBS trademarks in identifying, marketing and
promoting the Company's Web site.
Additionally, ePresence issued a common stock purchase warrant to Viacom on
June 30, 1999, whereby Viacom received warrants to purchase 250,000 shares of
ePresence's common stock at $11.27 per share. The Company recorded the fair
value of the ePresence warrants based on the Black-Scholes option pricing model
as a common stock issuance cost of $375,000.
In August 2001, the Company entered into a restructuring agreement with
Viacom and ePresence, under which, among other things, the Company agreed to
terminate its right to the placement of advertising on Viacom's CBS properties
with an expected net present value of approximately $44,523,937 in exchange for,
primarily, the reconveyance by Viacom to the Company of 7,488,560 shares of the
Company's common stock, the cancellation of warrants held by Viacom to purchase
533,469 shares of the Company's common stock and the reconveyance to the Company
of the one outstanding share of the Company's series E special voting preferred
stock. In addition, as part of the restructuring of the Company's relationship
with Viacom, its license to use specified CBS trademarks terminated on January
26, 2002.
On October 26, 2001, the Company obtained approval for the restructuring
agreement by its stockholders and closed the transactions contemplated by the
restructuring agreement. At the closing, the two individuals who had been
elected directors by Viacom pursuant to Viacom's rights as the holder of the
Company's special voting preferred stock resigned as directors of the Company.
Due to the reduction in the number of outstanding shares of the Company's stock
associated with the closing, ePresence became the Company's majority
stockholder, beneficially owning approximately 54% of the Company's outstanding
stock.
In connection with the termination of its advertising and promotion
agreement with Viacom, the Company recorded a one-time, non-cash accounting loss
of $22,203,422 in the Company's 2001 statement of operations. The non-cash
accounting loss resulted from the difference between the net present value of
the Company's remaining advertising rights with Viacom, which were terminated,
and the value of the shares of the Company's common and preferred stock that
were reconveyed and the warrants that were cancelled. The Company determined the
value of the 7,488,560 shares of common stock reconveyed and one share of
preferred stock cancelled to be $20,967,971 using the closing market price of
the Company's common stock of $2.80 per share on October 26, 2001. The Company
used the Black-Scholes warrant pricing model to determine a value of $1,352,544
attributable to the canceled warrants.
Subsequently, on February 27, 2002, Viacom exercised its warrant pursuant
to a cashless exercise provision in the warrant, resulting in the net issuance
of 386,302 shares of common stock. Additionally, on March 12, 2002, the Company
repurchased such 386,302 shares of common stock from Viacom at a price of $3.25
per share. The Company will account for these shares as treasury stock.
M. Commitments and Contingencies
The Company leases facilities and certain equipment under non-cancelable
lease agreements which expire at various dates through March of 2005. Under
these agreements, the Company is obligated to pay for utilities, taxes,
insurance and maintenance. Excluding rent paid to ePresence (Note K), the
Company recorded rent expense of $356,958 and $100,437 in the years ended
December 31, 2001 and 2000, respectively. In addition, the Company has entered
into certain license agreements, under which the Company is required to pay
minimum royalty payments through December 2002.
50
At December 31, 2001, future minimum lease payments under operating leases
and license agreements with minimum terms exceeding one year are as follows:
2002 $1,220,149
2003 185,964
2004 156,825
2005 38,809
---------------------------------------- -------------------
Total future minimum payments $1,601,747
==========
On November 21, 2001, a class action lawsuit was filed in the United States
District Court for the Southern District of New York naming as defendants
Switchboard, the managing underwriters of Switchboard's initial public offering,
Douglas J. Greenlaw, Dean Polnerow, and John P. Jewett. Mr. Greenlaw and Mr.
Polnerow are officers of Switchboard, and Mr. Jewett is a former officer of
Switchboard. The complaint is captioned Kristina Ly v. Switchboard Incorporated,
et al., 01-CV-10595. The complaint alleges that the registration statement and
final prospectus relating to Switchboard's initial public offering contained
material misrepresentations and/or omissions related, in part, to excessive and
undisclosed commissions allegedly received by the underwriters from investors to
whom the underwriters allegedly allocated shares of the initial public offering.
The complaint seeks an unspecified amount of damages. This class action lawsuit
is similar to over 300 others filed recently against companies that went public
between 1998 to 2000. Switchboard believes the claims against it and its
officers, former officers and directors are without merit and intends to defend
them vigorously.
The Company is currently involved in other legal proceedings that are
incidental to the conduct of its business, none of which it believes could
reasonably be expected to have a materially adverse effect on the Company's
financial condition.
N. Income Taxes
The provision for income taxes consists of the following:
Years Ended December 31,
----------------------------------------------------------------
2001 2000 1999
------------ ----------- -----------
Deferred tax benefit $(24,167,130) $(7,599,000) $(2,926,000)
Valuation allowance 24,167,130 7,599,000 2,926,000
------------ ----------- -----------
$ - $ - $ -
============ =========== ===========
The Company's effective tax rate varied from the statutory rate as follows:
Years Ended December 31,
----------------------------------------------------------
2001 2000 1999
-------- -------- --------
Federal income tax rate (35.0)% (34.0)% (34.0)%
State taxes (6.0)% (6.5)% (5.0)%
Non-deductible goodwill 1.1 % - % - %
amortization
Use of net operating losses by
ePresence - % - % 5.8 %
Valuation allowance 40.7 % 40.2 % 33.2 %
Other (0.8)% 0.3 % - %
-------- -------- --------
Effective rate 0.0 % 0.0 % 0.0 %
======== ======== ========
In assessing the realizability of deferred tax assets, the Company
considers whether it is more likely than not that some or all of the deferred
tax assets will not be realized. The Company believes that sufficient
uncertainty exists regarding the realizability of the deferred tax assets such
that a valuation of $38,368,130 and $14,201,000 for December 31, 2001 and 2000,
respectively, has been established for deferred tax assets. The components of
the net deferred tax assets (liabilities) and the related valuation allowance
are as follows:
51
December 31,
----------------------------------
2001 2000
------------ ------------
Deferred tax assets:
Net operating loss carryforwards $35,265,000 $11,502,000
Goodwill and other intangibles 2,184,000 -
Allowance for doubtful accounts 494,000 162,000
Contribution receivable - 1,068,000
Writeoff of technology - 852,000
Deferred revenue - 324,000
Research and development credits - 235,000
Other 425,000 92,000
------------ ------------
38,368,000 14,235,000
Deferred tax liability:
Depreciation - (34,000)
------------ ------------
Less valuation allowance (38,368,000) (14,201,000)
------------ ------------
Net deferred tax assets $ - $ -
============ ============
As of December 31, 2001, the Company has net operating loss carryforwards
for federal and state tax purposes of approximately $84,591,000. The federal and
state net operating loss carryforwards will begin to expire in 2012 and 2002,
respectively. Ownership changes resulting from the Company's issuance of capital
stock may limit the amount of net operating loss carryforwards that can be
utilized annually to offset future taxable income.
O. Common Stock and Common Stock Warrants
In November 1997, the Company entered into a technology development and
marketing agreement with a software provider. Under the terms of the agreement,
the Company received certain rights in the technology of the software provider
and certain services from the software provider to further develop the
technology. Upon the initial delivery of the technology, the Company issued a
warrant to purchase 300,000 shares of common stock at $2.00 per share. The
warrants were fully vested at the issue date. The fair value of the warrant at
the time of issuance was estimated to be $192,600 using the Black-Scholes option
pricing model. The fair value was recorded as product development expense at the
date of issuance, because the technology had not reached technological
feasibility. In October 2000, the software provider exercised its warrant
pursuant to a "cashless" exercise resulting in the issuance of 188,372 shares to
the software provider.
The agreement with the software provider provided for an additional
issuance of equity in the Company upon delivery of the next release of the
technology in accordance with jointly developed specifications, either in the
form of a warrant or shares of common stock. In May 1999, Switchboard issued
140,000 shares of common stock to the software provider upon acceptance of the
technology by the Company. The Company capitalized $1,050,000, the fair value of
its common stock on the date of issuance, as the technology had reached
technological feasibility, and amortized that value over a two-year period,
which ended in May 2001.
In March 1999, in connection with a co-branded Web site and linking
agreement ("Web site Agreement") with a joint venture customer, the Company
issued a series of warrants for 385,000 shares of common stock at $8.00 per
share. At the execution of the Web site Agreement, warrants to purchase up to an
aggregate of 233,750 shares of common stock vested immediately ("Initial
Warrants"). The warrants for the remaining shares ("Additional Warrants") vested
on December 31, 1999. The value of the Initial Warrants was estimated to be
$200,558 on the date of issuance using the Black-Scholes option pricing model
and was amortized as sales and marketing expense over the nineteen-month term of
the Web site Agreement. The value of the Additional Warrants was estimated to be
$129,773 on the date of issuance using the Black-Scholes option pricing model.
The value of the Additional Warrants was adjusted to market at each balance
sheet date until December 31, 1999 and was amortized as sales and marketing
52
expense over the 19 month term of the Web site Agreement. The Web site Agreement
expired in October 2000. As of December 31, 2001, 385,000 warrants remained
outstanding, and the value of the Additional Warrants was fully amortized. On
March 31, 2002, the Initial Warrants and Additional Warrants all expired without
having been exercised in whole or in part.
53
P. Preferred Stock and Preferred Stock Warrants
A summary of redeemable convertible preferred stock activity for the year
ended December 31, 2000 is as follows:
Series A Redeemable Series C Redeemable Convertible Series D Redeemable
Convertible Preferred Stock Preferred Stock Convertible Preferred Stock
--------------------------- ------------------------------- ---------------------------
Shares Amount Shares Amount Shares Amount Total
--------- ---------- --------- ----------- -------- ---------- -----------
Balance at December 750,000 $3,973,386 2,655,916 $11,189,047 146,505 $1,157,137 $16,319,570
31, 1999
Accrued dividends for
preferred stockholders 55,151 195,264 20,200 270,615
Conversion of
preferred stock into
common stock (750,000) (4,028,537) (2,655,916) (11,384,311) (146,505) (1,177,337) (16,590,185)
--------- ---------- ---------- ----------- -------- ---------- ------------
Balance at December - $ - - $ - - $ - $ -
========= ========== ========== =========== ======== ========== ============
31, 2000
54
In 1996, the Company issued 750,000 shares of Series A Convertible
Preferred Stock, $0.01 par value per share ("Series A Preferred Stock"), at
$4.00 per share for total consideration of $3,000,000. In 1999, the Company
issued an aggregate of 2,655,916 shares of Series C Convertible Preferred Stock,
$0.01 par value per share ("Series C Preferred Stock"), and an aggregate of
146,505 shares of Series D Convertible Preferred Stock, $0.01 par value per
share ("Series D Preferred Stock"), upon the conversion of outstanding
convertible promissory notes outstanding (Note J). Also in 1999, the Company
issued one share of Series E Special Voting Preferred Stock, $0.01 par value per
share ("Series E Preferred Stock"), to Viacom in connection with the Advertising
and Promotion and License Agreements entered into between the Company and Viacom
in June 1999. (Note L). The Company has never issued shares of Series B
Convertible Preferred Stock, $0.01 par value per share.
Effective as of the closing on March 7, 2000 of the Company's initial
public offering of shares of its common stock, the outstanding shares of the
Company's Series A Preferred Stock, Series C Preferred Stock and Series D
Preferred Stock automatically converted into an aggregate of 3,552,421 shares of
common stock. Also effective as of the closing of the Company's initial public
offering of shares of its common stock, the Company amended and restated its
Certificate of Incorporation. Under that Amended and Restated Certificate of
Incorporation, the Company is authorized to issue 5,000,000 shares of Preferred
Stock, $0.01 par value, of which one share is designated as Series E Preferred
Stock. Upon the closing of the transactions contemplated by the restructuring
agreement between the Company, Viacom and ePresence, the share of Series E
Preferred Stock automatically converted into one share of the Company's common
stock, which was reconveyed to the Company. The converted share of Series E
Preferred Stock was restored to the status of authorized and unissued preferred
stock in January 2002.
Other than the special voting rights described in the next paragraph, the
share of Series E Preferred Stock had the rights, preferences, powers,
privileges and restrictions of one share of the Company's common stock, $0.01
par value per share.
The share of Series E Preferred Stock entitled Viacom to elect that number
of directors to the Company's board of directors, rounded down, which equaled
Viacom's fully diluted percentage ownership of the Company, up to a maximum of
the number of directors which would constitute a minority of the authorized
number of members of the board.
Viacom's right to elect directors terminated upon the closing of the
agreements contemplated by the restructuring agreement between the Company,
Viacom Inc. and ePresence, Inc. At the closing, the two individuals who had been
elected directors by Viacom pursuant to Viacom's rights as the holder of the
Company's special voting preferred stock resigned as directors of the Company.
Q. Stock Option Plans
In November 2000, with its acquisition of Envenue, the Company adopted the
2000 Non-Statutory Stock Option Plan ("2000 Non-Statutory Plan"). A total of
446,000 shares of common stock have been reserved for issuance under the 2000
Non-Statutory Plan. As of December 31, 2001, options to purchase 108,665 shares
were issued and outstanding under the 2000 Non-Statutory Plan.
In October 1999, the Company adopted the 1999 Stock Incentive Plan (the
"1999 Option Plan"). A total of 3,043,605 shares of common stock have been
reserved for issuance under the 1999 Option Plan. As of December 31, 2001,
options to purchase 1,642,130 shares were issued and outstanding under the 1999
Option Plan.
Switchboard also has the 1996 Stock Incentive Plan (the "1996 Option
Plan"), which provides for the issuance of options to purchase 2,731,395 shares
of Switchboard's common stock. As of December 31, 2001, options to purchase
2,455,285 shares were issued and outstanding under the 1996 Option Plan.
Generally, options under the 1996, 1999 and 2000 Non-Statutory Option Plans
vest over four years and have a maximum term of ten years.
55
Weighted Average
Shares Exercise Price
--------- ----------------
Outstanding and exercisable at December 31, 1998 1,162,875 $1.49
Granted 1,972,950 8.67
Exercised (42,124) 1.87
Canceled (142,101) 2.66
--------- -----
Outstanding and exercisable at December 31, 1999 2,951,600 6.23
Granted 1,005,730 7.31
Exercised (147,036) 3.80
Canceled (284,214) 7.99
--------- -----
Outstanding and exercisable at December 31, 2000 3,526,080 6.50
Granted 1,359,000 4.16
Exercised (73,700) 1.00
Canceled (605,300) 5.76
--------- -----
Outstanding and exercisable at December 31, 2001 4,206,080 $5.95
========= =====
As of December 31, 2001, 1,401,475 shares and 337,335 shares were available
for grant under the 1999 Option Plan and the 2000 Non-Statutory Plan,
respectively. There were no shares available for grant under the 1996 Option
Plan.
The following table summarizes information about the stock options at
December 31, 2001:
Options Outstanding Options Vested and Exercisable
----------------------------- ---------------------------------
Weighted
Average
Remaining Weighted Weighted
Range of Number Contractual Average Number Vested Average
Exercise Prices Outstanding Life Exercise Price and Exercisable Exercise Price
--------------- ----------- ---- -------------- --------------- --------------
$1.00 - $2.53 1,094,200 6.62 $1.49 729,300 $1.32
$2.63 - $5.19 1,066,665 9.11 $4.82 86,875 $3.32
$5.34 - $8.94 517,550 7.78 $7.75 172,916 $7.83
$9.00 - $11.00 1,527,665 7.84 $9.31 719,391 $9.29
Had compensation cost for the Company's stock option plans been determined
based on the fair value at the grant date for awards in 2001, 2000 and 1999,
consistent with the provisions of SFAS No. 123, the Company's net loss and basic
and diluted net loss per share would have been increased to the pro forma
amounts indicated below:
Year Ended December 31,
-------------------------------------------------------------------------------------
2001 2000 1999
-------------------------- --------------------------- --------------------------
As Reported Pro Forma As Reported Pro Forma As Reported Pro Forma
------------ ------------ ------------ ------------ ----------- ------------
Net loss attributed to common
stockholders $(59,412,527) $(64,980,253) $(17,288,268) $(23,129,949) $(9,743,628) $(11,775,751)
Basic and diluted loss per share $(2.44) $(2.67) $(0.75) $(1.01) $(0.89) $(1.08)
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes option pricing model with the following weighted average
assumptions used for grants in each of the following periods:
56
Year Ended December 31,
------------------------------------
2001 2000 1999
------- ------- -------
Dividend yield 0% 0% 0%
Expected volatility 130% 100% 90%
Risk free interest rate 4.3% 6.2% 5.7%
Expected lives 4 years 4 years 5 years
The weighted average grant date fair values using the Black-Scholes option
pricing model were $3.99, $5.85 and $6.87 during the years ended December 31,
2001, 2000 and 1999, respectively. The effects of applying SFAS No. 123 in this
disclosure were not indicative of future amounts. Additional grants in future
years are anticipated.
In June 2001, the Company issued a director and officer of the Company
options to purchase 150,000 shares of its common stock under the 1999 Option
Plan at a price below market value. The Company recorded $437,000 in value
resulting from the difference between the market value on the date of grant of
$3.91 per share and the $1.00 per share exercise price as unearned compensation
as a component of Stockholders' Equity. The Company is amortizing this amount
over the two-year and nine-month vesting period. In 2001, the Company recognized
$102,000 of amortization expense.
In 1999, the Board of Directors adopted the 1999 Employee Stock Purchase
Plan (the "Purchase Plan"). A total of 300,000 shares of the Company's common
stock have been reserved for issuance to eligible employees under the Purchase
Plan. Under the Purchase Plan, the Company is authorized to make a series of
offerings during which employees may purchase shares of common stock through
payroll deductions made over the term of the offering. The per-share purchase
price at the end of each offering is equal to 85% of the fair market value of
the common stock at the beginning or end of the offering period (as defined by
the Purchase Plan), whichever is lower. As of December 31, 2001, 56,902 shares
of common stock were issued under the Purchase Plan.
R. Capital Lease
In March 2001, the Company entered into a computer equipment sale-leaseback
agreement with Fleet Capital Corporation under which the Company was able to
lease up to $3.0 million of equipment. Under the agreement, the Company will
lease computer equipment over a three-year period ending on June 28, 2004. As of
December 31, 2001, the Company has utilized $1,100,652 of this lease facility.
The period in which the Company was able to draw down additional amounts against
the lease has expired, and thus the remaining lease facility is no longer
available to the Company. Upon the expiration of the lease, the Company has the
option to purchase the leased assets for one dollar. The agreement has an
estimated effective annual percentage rate of approximately 7.90%. Under the
terms of the agreement, the Company is required to maintain on deposit with
Fleet National Bank a compensating balance, restricted as to use. The
compensating balance is adjusted on a quarterly basis to an amount equal to the
principal outstanding under the lease. As of December 31, 2001, the Company
recorded $874,495 as restricted cash. The Company has accounted for the
transaction as a capital lease. The Company anticipates total payments under the
lease will be $413,119, $413,119 and $134,002, of which $56,162, $27,017 and
$2,321 is for interest, during the years ended December 31, 2002, 2003 and 2004,
respectively.
S. Restructuring and Other Charges
In the three months ended December 31, 2001, the Company recorded net
pre-tax restructuring and other charges of approximately $7.0 million, comprised
primarily of $5.2 million for the impairment of certain assets, $1.1 million for
costs related to facility closures and $700,000 in severance costs related to
the reduction of approximately 21% of the Company's workforce. The restructuring
resulted in 21 employee separations.
Of the total $7.0 million charge, $1.7 million is cash related, of which
approximately $200,000 was expended in the year ended December 31, 2001. The
Company has recorded a remaining liability of $1.6 million on its balance sheet
as of December 31, 2001, of which $1.5 million is cash related. Of the remaining
$1.5 million in cash related liabilities, the Company expects to spend
approximately $1.3 million in 2002, with the remainder to be paid through
December of 2005.
57
T. Quarterly Results of Operations (unaudited)
In thousands except per share data:
2001 Quarters Ended Mar 31, Jun 30, Sep 30, Dec 31,
- ------------------- ------- ------- -------- --------
Revenue $4,270 $4,798 $3,171 $3,787
Gross profit $3,377 $4,001 $2,318 $2,812
Operating loss $(8,154) $(6,659) $(13,134) $(34,687)
Net loss attributable to common stockholders $(7,245) $(5,782) $(12,349) $(34,037)
Basic and diluted net loss per share $(0.28) $(0.22) $(0.48) $(1.68)
2000 Quarters Ended Mar 31, Jun 30, Sep 30, Dec 31,
- ------------------- ------- ------- -------- --------
Revenue $3,818 $4,766 $5,700 $6,026
Gross profit $3,058 $3,856 $4,849 $5,057
Operating loss $(7,181) $(3,607) $(3,994) $(5,926)
Net loss attributable to common stockholders $(7,157) $(2,219) $(2,504) $(5,408)
Basic and diluted net loss per share $(0.41) $(0.09) $(0.10) $(0.22)
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
On December 3, 2001, Switchboard filed a Current Report on Form 8-K dated
November 27, 2001 reporting under Item 4 that Switchboard had dismissed
PricewaterhouseCoopers LLP and had engaged Arthur Andersen LLP as its
independent accountants.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
See "Executive Officers of the Registrant" in Part I of this Annual Report
on Form 10-K. The information required by Items 401 and 405 of Regulation S-K
and appearing in our definitive Proxy Statement for the Annual Meeting of
Stockholders to be held on May 16, 2002, which will be filed with the Securities
and Exchange Commission not later than 120 days after December 31, 2001, is
incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
The information required by Item 402 of Regulation S-K and appearing in our
definitive Proxy Statement for the Annual Meeting of Stockholders to be held on
May 16, 2002, which will be filed with the Securities and Exchange Commission
not later than 120 days after December 31, 2001, is incorporated herein by
reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
The information required by Item 403 of Regulation S-K and appearing in our
definitive Proxy Statement for the Annual Meeting of Stockholders to be held on
May 16, 2002, which will be filed with the Securities and Exchange Commission
not later than 120 days after December 31, 2001, is incorporated herein by
reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by Item 404 of Regulation S-K and appearing in our
definitive Proxy Statement for the Annual Meeting of Stockholders to be held on
58
May 16, 2002, which will be filed with the Securities and Exchange Commission
not later than 120 days after December 31, 2001, is incorporated herein by
reference.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) The following documents are filed as part of or are included in this Annual
Report on Form 10-K:
1. Financial Statements:
* Consolidated Balance Sheets as of December 31, 2001 and 2000.
* Consolidated Statements of Operations for the years ended December 31,
2001, 2000 and 1999.
* Consolidated Statements of Stockholders' (Deficit) Equity for the years
ended December 31, 2001, 2000 and 1999.
* Consolidated Statements of Cash Flows for the years ended December 31,
2001, 2000 and 1999.
* Notes to Consolidated Financial Statements.
* Report of Independent Accountants for the years ended December 31,
2001, 2000 and 1999.
* Selected Financial Data for the years ended December 31, 2001, 2000
and 1999.
2. Financial Statement Schedules:
* Report of Arthur Andersen LLP, Independent Accountants, for the year
ended December 31, 2001.
* Report of PricewaterhouseCoopers LLP, Independent Accountants,
for the years ended December 31, 2000 and 1999.
* Schedule II--Valuation and Qualifying Accounts.
* Schedules other than the one listed above have been omitted since they
are either not required, not applicable or the information is otherwise
included.
3. Listing of Exhibits:
The Exhibits filed as part of this Annual Report on Form 10-K are listed on
the Exhibit Index immediately preceding such Exhibits, which Exhibit Index is
incorporated herein by reference. Documents listed on such Exhibit Index, except
for documents identified by footnotes, are being filed as exhibits herewith.
Documents identified by footnotes are not being filed herewith and, pursuant to
Rule 12b-32 under the Securities Exchange Act of 1934, reference is made to such
documents as previously filed as exhibits with the Securities and Exchange
Commission. Switchboard's file number under the Securities Exchange Act of 1934
is 000-28871.
(b) Reports on Form 8-K.
On November 5, 2001, Switchboard filed a Current Report on Form 8-K dated
October 26, 2001 reporting under Item 1 (Changes in Control of Registrant) that
a change in control of Switchboard occurred as a result of the October 26, 2001
closing of transactions contemplated by the restructuring agreement dated as of
August 22, 2001 among Switchboard, Viacom Inc. and ePresence, Inc.
On December 3, 2001, Switchboard filed a Current Report on Form 8-K dated
November 27, 2001 reporting under Item 4 (Changes in Registrant's Certifying
Accountants) that on November 27, 2001 Switchboard had dismissed
PricewaterhouseCoopers LLP and had engaged Arthur Andersen LLP, as its
independent accountants.
59
SCHEDULE II
SWITCHBOARD INCORPORATED
VALUATION AND QUALIFYING ACCOUNTS
FOR THE YEARS ENDED DECEMBER 31, 2001, 2000 AND 1999
Balance at Additions Charged
Beginning of to Costs and Balance at End
Description Period Expenses Deductions of Period
- ------------------------------- -------- ---------- ---------- ----------
Year Ended December 31, 2001
Reserve for doubtful accounts $401,878 $1,623,915 $825,482 $1,200,311
Year Ended December 31, 2000:
Reserve for doubtful accounts $162,183 $509,394 $269,699 $401,878
Year Ended December 31, 1999:
Reserve for doubtful accounts $300,000 $117,702 $255,519 $162,183
60
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors and
Stockholders of Switchboard Incorporated:
We have audited, in accordance with generally accepted auditing standards,
the consolidated financial statements of Switchboard Incorporated and
subsidiaries included in the Form 10-K and have issued our report thereon dated
January 23, 2002. Our audits were made for the purpose of forming an opinion on
the basic financial statements taken as a whole. The schedule listed in Item 14
is the responsibility of the Company's management and is presented for purposes
of complying with the Securities and Exchange Commission's rules and is not part
of the basic financial statements. The schedule has been subjected to the
auditing procedures applied in the audits of the basic financial statements and,
in our opinion, fairly states, in all material respects, the financial data as
of December 31, 2001 and for the year then ended required to be set forth
therein in relation to the basic financial statements taken as a whole.
/s/ Arthur Andersen LLP
Boston, Massachusetts
January 23, 2002
(except for note L, as for which the date is March 12, 2002)
61
Report of Independent Accountants on
Financial Statement Schedules
To the Board of Directors and Stockholders
of Switchboard Incorporated:
Our audits of the consolidated financial statements referred to in our report
dated February 1, 2002 appearing in the Switchboard, Inc. Form 10-K also
included an audit of the financial statement schedules listed in Item 14(a)(2)
of this Form 10-K for each of the two years in the period ended December 31,
2000. In our opinion, these financial statement schedules present fairly, in all
material respects, the information set forth therein when read in conjunction
with the related consolidated financial statements.
/s/PricewaterhouseCoopers LLP
Boston, Massachusetts
February 1, 2001
62
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
Dated: March 29, 2002 SWITCHBOARD INCORPORATED
By:/s/ Robert P. Orlando
---------------------
Robert P. Orlando
Vice President and Chief Financial Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the Registrant and
in the capacities and on the dates indicated.
Name Title Date
---- ----- ----
/s/Douglas Greenlaw Chief Executive Officer and Director March 29, 2002
- ----------------------- (Principal Executive Officer)
Douglas Greenlaw
/s/Dean Polnerow President and Director March 29, 2002
- -----------------------
Dean Polnerow
/s/Robert P. Orlando Vice President and Chief Financial March 29, 2002
- ----------------------- Officer (Principal Financial Officer and
Robert P. Orlando Principal Accounting Officer)
/s/William P. Ferry Chairman of the Board of Directors March 29, 2002
- -----------------------
William P. Ferry
/s/Richard M. Spaulding Director March 29, 2002
- -----------------------
Richard M. Spaulding
/s/David N. Strohm Director March 29, 2002
- -----------------------
David N. Strohm
/s/Robert M. Wadsworth Director March 29, 2002
- -----------------------
Robert M. Wadsworth
63
EXHIBIT INDEX
Exhibit Number Title of Document
- -------------- -----------------
3.3 Restated Certificate of Incorporation.
3.5(1) Amended and Restated By-Laws.
4.1(1) Specimen certificate for shares of Common Stock, $0.01 par
value per share.
10.1(1)* 1996 Stock Incentive Plan, as amended, including forms of stock
option agreement for incentive and nonstatutory stock options.
10.2* 1999 Stock Incentive Plan, as amended, including forms of stock
option agreement for incentive and nonstatutory stock options.
10.3(1)* 1999 Employee Stock Purchase Plan.
10.4(1) Registration Rights Agreement by and between Switchboard
Incorporated and CBS Corporation, dated June 30, 1999.
10.5(1) Financial Reporting Agreement among Switchboard Incorporated,
Banyan Worldwide and CBS Corporation, dated as of January 28,
2000.
10.6(2) Termination of Stockholders' Voting Agreement dated as of
January 1, 2001 among Viacom Inc., ePresence, Inc. and
Switchboard Incorporated.
10.7(2)+ Letter dated December 6, 2000 from Switchboard Incorporated
to Viacom Inc.
10.8(1) Common Stock Purchase Warrant issued by Switchboard
Incorporated to US WEST Dex, Inc., dated March 31, 1999.
10.9(1) Common Stock Purchase Warrant issued by Switchboard
Incorporated to Ameritech Interactive Media, Inc., dated
March 31, 1999.
10.10(1) Common Stock Purchase Warrant issued by Switchboard
Incorporated to Intelligent Media Ventures, Inc., dated
March 31, 1999.
10.11(1) Common Stock Purchase Warrant issued by Switchboard
Incorporated to SBC Communications Inc., dated April 13, 1999.
10.12(1) Amended and Restated Registration Rights Agreement, as amended,
by and among Switchboard Incorporated, America Online, Inc.,
Digital City Inc. and Banyan Worldwide, dated February 20,
1998.
10.13(1) Amended and Restated Registration Rights Agreement by and
between Switchboard Incorporated and Banyan Worldwide, dated
May 3, 1999.
10.14(1)+ Database License Agreement, as amended, by and between
Switchboard Incorporated and infoUSA Inc., dated December 31,
1997.
10.15(1)+ Internet Provider Agreement, as amended, by and between
Switchboard Incorporated and Etak, Inc., dated November 25,
1996.
10.16(3) Registration Rights Agreement dated March 7, 2000 between
Switchboard Incorporated and Banyan Worldwide.
10.17(3) Services Agreement dated March 7, 2000 between Switchboard
Incorporated and Banyan Worldwide.
10.18(2) Sublease between ePresence, Inc. and Switchboard Incorporated,
dated as of November 28, 2000.
10.19(1)* Employment Agreement between Switchboard Incorporated and
Douglas J. Greenlaw, dated October 8, 1999.
10.20(1)* Employment Agreement between Switchboard Incorporated and Dean
Polnerow, dated December 1, 1999.
10.21(1)* Employment Agreement between Switchboard Incorporated and
John P. Jewett, dated January 25, 2000.
64
10.22(1)* Employment Agreement between Switchboard Incorporated and
James M. Canon, dated December 31, 1999.
10.23(1)+ Internet Data Center Services Agreement between Switchboard
Incorporated and Exodus Communications, Inc., effective
June 30, 1998.
10.24(1)* Nonstatutory Stock Option Agreement Granted Under 1999 Stock
Incentive Plan between Switchboard Incorporated and Douglas J.
Greenlaw, dated October 13, 1999.
10.25(1)* Non-statutory Stock Option Agreement between Switchboard
Incorporated and Douglas J. Greenlaw, dated October 13, 1999.
10.26(1) Incentive Stock Option Agreement between Switchboard
Incorporated and Dean Polnerow, dated October 13, 1999.
10.27(1)* Incentive Stock Option Agreement between Switchboard
Incorporated and John P. Jewett, dated October 13, 1999.
10.28(1)* Incentive Stock Option Agreement between Switchboard
Incorporated and James M. Canon, dated October 13, 1999.
10.29(1)* Non-Statutory Stock Option Agreement between Switchboard
Incorporated and William P. Ferry, dated September 14, 1999.
10.30(1)* Non-Statutory Stock Option Agreement between Switchboard
Incorporated and William P. Ferry, dated October 18, 1999.
10.31(1)* Non-Statutory Stock Option Agreement between Switchboard
Incorporated and Daniel R. Mason, dated September 14, 1999.
10.32(1)* Non-Statutory Stock Option Agreement between Switchboard
Incorporated and Richard M. Spaulding, dated September 14,
1999.
10.33(1)* Non-Statutory Stock Option Agreement between Switchboard
Incorporated and David N. Strohm, dated September 14, 1999.
10.34(1)* Non-Statutory Stock Option Agreement between Switchboard
Incorporated and Robert M. Wadsworth, dated September 14, 1999.
10.35(2)* Incentive Stock Option Agreement between Switchboard
Incorporated and Kevin Lawler, dated May 24, 2000.
10.36(4) Stock Purchase Agreement dated as of November 24, 2000, among
Switchboard Incorporated, Envenue, Inc. and the Stockholders of
Envenue, Inc.
10.37(2)* Employment Agreement between Switchboard Incorporated and
Kevin P. Lawler, dated May 9, 2000.
10.38(2)+ Directory and Local Advertising Platform Services Agreement
dated as of December 11, 2000 between Switchboard Incorporated
and America Online, Inc.
10.39(2)+ Common Stock and Warrant Purchase Agreement dated as of
December 11, 2000 between Switchboard Incorporated and America
Online, Inc.
10.40(2) Form of Common Stock Purchase Warrant which may be issued to
America Online, Inc. pursuant to the Common Stock and Warrant
Agreement dated as of December 11, 2000 between Switchboard
Incorporated and America Online, Inc.
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10.41(2) Registration Rights Agreement dated as of December 11, 2000
between Switchboard Incorporated and America Online, Inc.
10.42(5) Master Equipment Lease Agreement between Fleet Capital
Corporation and Switchboard Incorporated dated March 28, 2001.
10.43(6) Employment Agreement between Robert Orlando and Switchboard
Incorporated, dated September 20, 2001.
10.44(7) Amended and Restated Common Stock Purchase Warrant issued by
Switchboard Incorporated to Viacom Inc., dated June 30, 1999.
10.45(7) Restructuring Agreement dated as of August 22, 2001 among
Switchboard Incorporated, Viacom Inc. and ePresence Inc.
10.46+ Internet Provider Agreement dated as of June 7, 2001 among
Switchboard Incorporated and Tele Atlas North America, Inc.
13.1(2) Annual Report to Shareholders for the fiscal year ended
December 31, 2000.
21.1 Subsidiaries of Switchboard Incorporated.
23.1 Consent of PricewaterhouseCoopers LLP.
23.2 Consent of Arthur Andersen LLP.
99.1 Management letter to the Securities and Exchange Commission
regarding engagement of Arthur Andersen, LLP.
(1) Incorporated by reference to the Registration Statement on Form S-1
(File No. 333-90013) as declared effective by the Securities and
Exchange Commission on March 1, 2000.
(2) Incorporated by reference to the Registrant's Annual Report on
Form 10- K (File No. 000-28871) filed with the Securities and Exchange
Commission on April 2, 2001.
(3) Incorporated by reference to the Registrant's Quarterly Report on
Form 10-Q (File No. 000-28871) filed with the Securities and Exchange
Commission on May 15, 2000.
(4) Incorporated by reference to the Registrant's Current Report on
Form 8-K (File No. 000-28871) filed with the Securities and Exchange
Commission on February 7, 2001.
(5) Incorporated by reference to the Registrant's Quarterly Report on
Form 10-Q (File No. 000-28871) filed with the Securities and Exchange
Commission on May 15, 2001.
(6) Incorporated by reference to the Registrant's Quarterly Report on
Form 10-Q (File No. 000-28871) filed with the Securities and Exchange
Commission on November 14, 2001.
(7) Incorporated by reference to the Registrant's Current Report on
Form 8-K dated October 26, 2001 and filed with the Securities and
Exchange Commission on November 5, 2001.
+ Confidential treatment requested as to certain portions, which
portions are omitted and filed separately with the Securities and
Exchange Commission pursuant to a Confidential Treatment Request.
* Management contract or compensation plan or arrangement required to be
filed as an exhibit pursuant to Item 14(c) of Form 10-K.
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