-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, W036LKzLzu2fnqxZaZ5Sowo9IQk3JfsjWbj7dAK79TnB0yrR+ufD+JXmGlGzDBQx ZRzDaFy7vFBZaLXzhSMD7A== 0000950133-99-001144.txt : 19990402 0000950133-99-001144.hdr.sgml : 19990402 ACCESSION NUMBER: 0000950133-99-001144 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 7 CONFORMED PERIOD OF REPORT: 19981231 FILED AS OF DATE: 19990331 FILER: COMPANY DATA: COMPANY CONFORMED NAME: SECURITY FIRST TECHNOLOGIES CORP CENTRAL INDEX KEY: 0001063254 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-COMPUTER PROGRAMMING, DATA PROCESSING, ETC. [7370] IRS NUMBER: 582395199 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-24931 FILM NUMBER: 99583446 BUSINESS ADDRESS: STREET 1: 3390 PEACHTREE ROAD NE STREET 2: SUITE 1700 CITY: ATLANTA STATE: GA ZIP: 30326 BUSINESS PHONE: 4048126300 MAIL ADDRESS: STREET 1: 3390 PEACHTREE ROAD NE STREET 2: SUITE 1700 CITY: ATLANTA STATE: GA ZIP: 30326 10-K 1 FORM 10-K DATED 12/31/98 1 - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------------ FORM 10-K [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998 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: 000-24931 SECURITY FIRST TECHNOLOGIES CORPORATION (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 58-2395199 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 3390 PEACHTREE ROAD, NE, SUITE 1700 ATLANTA, GEORGIA 30326 (Address of principal executive offices) (Zip Code)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (404) 812-6200 SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: Not Applicable SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: Common Stock, par value $0.01 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 __ . 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 24, 1999, the aggregate market value of the shares of common stock of the registrant issued and outstanding on such date, excluding 2,084,011 shares held by all affiliates of the registrant, was approximately $642,391,000. This figure is based on the closing sales price of $62.50 per share of the registrant's common stock on March 24, 1999, and excludes shares held by directors and executive officers because such persons may be deemed to be affiliates. This reference to affiliate status is not necessarily a conclusive determination for other purposes. Shares of common stock outstanding as of March 24, 1999: 12,362,267 DOCUMENTS INCORPORATED BY REFERENCE List hereunder the following documents if incorporated by reference and the Part of the Form 10-K into which the document is incorporated: Not applicable. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- 2 PART I ITEM 1. BUSINESS. Security First Technologies Corporation (S1(TM)) develops integrated, brandable internet applications that enable companies offering financial services to create their own financial portals on the internet. S1's Virtual Financial Manager, known in the marketplace as VFM, integrates banking, investment, loan and credit card accounts at an institution, with content such as news, weather and sports personalized by the end-user. S1 licenses its Virtual Financial Manager software, provides installation and integration services and offers outsourced internet transaction processing through its data center. S1's goal is to be the leading provider of internet solutions that enable companies offering financial services to extend and strengthen customer relationships. S1 targets organizations that view providing their products and services on the internet as a strategic competitive advantage and an integral component of their business. Prior to September 1998, S1 was a subsidiary of Security First Network Bank. Using Virtual Financial Manager, Security First Network Bank became the first internet bank in 1995. In September 1998, we reorganized in order to separate the banking and technology businesses and then sold the banking business to a subsidiary of Royal Bank of Canada. THE S1 SOLUTION S1's Virtual Financial Manager addresses the requirements of both its financial institution clients and end-users by integrating multiple financial applications in one comprehensive internet-based product suite that also can include extended personalized information. This combination creates a financial portal through which end-users are able to conduct many of their daily electronic financial, commerce and personal activities online. Virtual Financial Manager also enables clients to offer their customers a complete view of their personal finances with the institution in one consolidated financial statement. Through its solutions, S1 believes its clients can expand and strengthen their customer relationships and increase their revenue potential and customer retention. S1's Banking provides the foundation for establishing, retaining, and expanding the client's customer relationship. Most households have some form of transaction account that facilitates access to funds for consumer transactions. End-users typically access their transaction account information regularly, thus providing the financial institution with a continuous opportunity to market additional services to its customers. Advantages for Financial Services Companies - Portal Capabilities. S1's solution provides customizable content, including news, sports, weather and stock quotes along with the end-user's financial information. - One-Stop-Shop. The financial services company can maintain and enhance its role as primary financial services provider by offering multiple financial and non-financial products through a single distribution channel. - One-to-One Marketing. Companies can anticipate their customers' needs and market products to them based on account information and observational data gathered during the customers' use of Virtual Financial Manager. - Branding. S1's solution allows clients to provide internet financial services to their end-users under the clients' brand names. - Scalable Technology. S1's technology can support extensive growth in the number of end-users. Advantages for End-Users - Convenience. Financial information is available 24 hours a day, 7 days a week, and may be accessed anywhere the internet is available. 1 3 - Consolidated Financial Statement. End-users are able to see all of their financial accounts at the institution in one consolidated view, including an archive of historical data and check images. - Online Transactions. End-users are able to execute transactions on the internet, including bill payments, account transfers and investment transactions. - Ease of Use. It is easy for end-users to access their integrated financial data and execute transactions. There is no software for end-users to buy, load and update. - Personalization. Products and services offered to the end-user by the institution can be personalized based on the characteristics of the end-user. In addition, end-users can customize their transactional information based on their own criteria. S1'S STRATEGY S1's goal is to be the leading provider of internet solutions that enable the creation of financial portals that allow our clients to extend and strengthen their customer relationships. The following describes the key elements of S1's strategy. Develop leading-edge technology. S1 plans to continue to develop leading-edge technology to enable its clients to offer feature-rich and easy-to-use internet financial services in a secure environment. Additional products and enhancements to existing products will be developed based on client and market demands. S1's strategy includes developing internet solutions based on fat server technology. Fat server technology enables the end-user to store, manipulate and process account information from any internet-enabled device. This technology will become even more useful when alternative internet devices become prevalent. Expand client base. S1 intends to expand its client base by targeting large companies that have the largest number of end-users. These companies include traditional financial institutions, such as banks, brokerage firms and insurance companies, as well as non-traditional financial services companies such as major retailers and automotive manufacturers who are expanding their financial services activities. To aid this expansion, S1 plans to increase its number of sales and marketing personnel, continue partnering with third parties and expand internationally with its upcoming release of Virtual Financial Manager version 5.0. Partner with leading technology and implementation players. S1 intends to expand and leverage its relationships with key business partners. These relationships expand S1's distribution network and provide resources that contribute to effectively maximizing opportunities. Important strategic partnerships include those with Hewlett-Packard and Andersen Consulting. Expand infrastructure. S1 expects to expand its existing data center facilities to meet anticipated growth in demand for data center services. The data center is designed to host the Virtual Financial Manager software application suite and to ensure the security of data and communications. Data center transaction processing and support provide S1 with a recurring revenue stream. Pursue strategic acquisitions. S1 intends to pursue strategic acquisitions that would provide additional technology, product or service offerings, additional industry expertise, a broader client base or an expanded geographic presence. S1 PRODUCTS AND SERVICES S1's Virtual Financial Manager is a suite of applications that integrates multiple financial management applications with personalized content and marketing capabilities. Products Virtual Financial Manager Version 4.0. S1 continues to enhance the existing Virtual Financial Manager suite by developing new applications and more efficient software architecture. Virtual Financial Manager version 4.0 was released and implementations and upgrades to this version began in 1998. S1 is consolidating 2 4 all existing users of Virtual Financial Manager onto version 4.0 which will result in greater efficiency of back office operations and higher degrees of operational scalability. Other enhancements include: - increased customization capabilities for greater branding opportunities, - flexible delivery of transactions for both batch and real-time solutions, - internal funds transfers for loan payments which eliminate the need for third party involvement, and - faster integration of back-end host systems, which shortens the financial institution's time to market. Current applications within S1's Virtual Financial Manager product suite include: - Banking: The first application developed within the Virtual Financial Manager suite, Banking allows customers to perform secure banking transactions over the internet. S1's Banking application provides end-users with access to multiple accounts including checking, savings, CDs, money market, credit cards and loans. - Deposit Accounts -- Through S1's Banking application, end-users can transfer funds between accounts, pay bills electronically, view statements and registers, open checking, savings and money market accounts, and purchase certificates of deposit. Completed transactions are reflected daily in the end-users' online statements. In addition to viewing balance information and executing banking transactions, end-users can add personalization categories and obtain reports for enhanced personal financial management. - Credit Cards -- Unlike traditional credit card paper statements that give end-users only a monthly view of their account, S1's solution provides end-users daily access to any posted account activity. End-users can view current and historical credit card information the same way they view their online checking account statement. Built-in reporting capabilities and the ability to categorize expenses enable end-users to track their spending. - Loans -- Within the loan application, end-users can view current balances for lines of credit, mortgages, auto loans or any other consumer loan. Loan payments can be made from another online account with the same bank via funds-transfer, and money can be transferred out of lines of credit. The underlying architecture within the loan application provides the end-users with a consolidated view of loan balances along with their other accounts. - Investments: This full-featured online investment application gives the end-user the ability to manage brokerage accounts, buy and sell stocks and mutual funds, and view portfolio positions around the clock. End-users can effect trades in a cash and/or margin account, view IRA's and other investments, and experience real-time portfolio updating of balances and profit/loss report generation. - Relationship Management: The latest addition to S1's application suite, Relationship Management, lets institutions provide the benefits of the traditional "private banker" to its end-users. It gives institutions the ability to offer these end-users a personalized experience. Institutions can anticipate end-user needs and respond promptly with appropriate information and targeted product and service offerings. Four categories of information provide the basis for defining targeted end-user profiles: - historical account information through Virtual Financial Manager's data storage, - observational data of the end-user's on-line activity while within the Virtual Financial Manager application, - data warehouse information collected from and resident within host legacy systems, and - market research gathered through online surveys or questionnaires. Institutions can use this data to market specific products and services to targeted individual customers or segmented groups. The customer experience with the institution is also enhanced through a customiz- 3 5 able hub/portal environment that includes the integrated delivery of the customer's financial information, along with traditional portal information that has been personalized by the customer including news, sports, weather and stock quotes. Content can be delivered from a number of sources, including content authored by the institution dealing specifically with the products and services they offer to their customers. - Customer Care: S1's customer care technology allows its clients' customer service representatives to assist end-users by: - simultaneously viewing the same screen the end-user is viewing to help resolve any issues, - updating account information, and - offering special incentives such as reduced brokerage commissions. Upcoming Technology Enhancements and New Products: Virtual Financial Manager Version 5.0. With direct input from S1's Customer Advisory Council, S1 has completed the design phase of the next generation architecture and Virtual Financial Manager version 5.0, which is expected to be generally available in late 1999. Version 5.0 of Virtual Financial Manager will include advanced architectural modifications as well as significant technical and functional enhancements. Expected highlights of this release include: - Customization -- The graphical user interface can be branded and the level of the product's functionality can be tailored to end-user segments within an institution. - Internationalization -- The product will function in multiple languages and currencies. - Increased scalability -- Each server will support one million end-users. - Open architecture -- The product will be open to many company and third-party add-on applications. - Personal financial manager connectivity -- Users of third-party personal financial management software will be able to connect directly to the product. Insurance. S1's Insurance application will address the needs of insurance organizations that are looking to utilize the internet as an additional distribution channel. The initial application is expected to enable end-users to request and receive on-line insurance rate quotes for auto, term life, homeowners and health insurance. Additional functionality to be added to this application includes claims administration, online payment of policy premiums, policy administration and online interaction with an insurance agent or a customer support representative. Business. The target market for S1's Business application will be businesses that have outgrown the small or home office segment but are not large enough to warrant a sophisticated cash management system. These businesses typically need an electronic banking tool that can be used by designated employees to view business account activity, reconcile these accounts, and initiate transactions on behalf of the company but only within the limits and restrictions specified by a company administrator. The first release of S1's Business application is expected to provide multi-user capability and configurable authorization limits required by small business customers. Presentment and Payment. S1 is currently working on the initial version of Presentment and Payment to facilitate electronic data delivery to an end-user. The initial focus is on the electronic delivery of bills, or bill presentment. Presentment and Payment will also be extended to any kind of dynamically changing information, such as account disclosures, statements and other reports. S1's solution will aggregate billing and other information from any number of consolidators and bill publishers, which will enable an institution to deliver the maximum amount of electronically available bill and other personal data to the end-user. 4 6 Professional Services Through an experienced team of professionals and strategic partnerships, S1 surrounds its applications with flexible implementation, maintenance and support options. S1 provides professional services for the installation and integration of Virtual Financial Manager, including installation at third-party data processing centers and direct licensee sites and integration of the financial institution's data processing systems with the S1 data center. Our professional services organization consists of approximately 90 experienced professionals. In addition, S1 provides training, consulting and product enhancement services. Clients are charged for these services at hourly rates, plus the cost of materials. Data Center S1 offers its clients the option to outsource the processing of their internet financial transactions through its data center. This data center operates 24 hours a day, 7 days a week, and provides a physically secure environment as well as an encrypted virtual private network connection for communications between S1's data center and each specific institution's host systems. S1 believes that clients choose this option for their internet technology needs because of the expertise developed by S1 and the convenience of an outsourcing solution. In addition, the data center personnel provide technical support services to all Virtual Financial Manager clients. STRATEGIC RELATIONSHIPS S1 has established strategic relationships that play a key role in its development and distribution of technology and services. - Hewlett-Packard: In February 1999, S1 entered into an alliance with Hewlett-Packard to provide integrated financial services. As part of the alliance, S1 expects that Hewlett-Packard will promote S1 as its preferred provider of internet applications for the financial services industry. S1 intends to focus the partnership on North America initially and expand worldwide as additional S1 products become available. S1 anticipates that this alliance will expand its distribution capacity through Hewlett-Packard's global infrastructure. S1 has partnered with Hewlett-Packard to develop one of the industry's most secure networks, by integrating HP's VirtualVault technology into S1's open architecture. In addition, S1 will continue to run Virtual Financial Manager on HP's platforms on an exclusive basis, for an initial period of 18 months. - Andersen Consulting: In February 1999, S1 and Andersen Consulting formed a strategic alliance to jointly develop business strategies and implementation processes that increase an organization's ability to leverage new technology, increase speed to market and compete more effectively in delivery of internet-based services. This alliance will add significant resources to expand S1's capacity for distribution, delivery and implementation. As part of the alliance, Andersen Consulting LLP has been issued warrants to purchase our common stock that vest over time based on the number of new customers it brings to S1's solution. S1 expects to benefit from the extensive relationships Andersen Consulting has established with strategic financial services companies throughout the world. S1 also expects Jackson L. Wilson, Jr., Managing Partner -- Global Markets, of Andersen Consulting, to join the S1 board of directors in the near future. - BroadVision: S1 has established a relationship with BroadVision, Inc. to integrate the BroadVision "One-to-One" marketing product with Virtual Financial Manager. As part of this relationship, S1 obtained a license to use and resell BroadVision's "One-to-One" marketing suite of products and BroadVision made a $2.0 million investment in S1 common stock. In addition, the two companies exchanged stock with a value of $3 million. By integrating the "One-to-One" product into Virtual Financial Manager, financial services firms using S1's products are able to collect and organize data resulting from customers' transactions and use that data for specifically targeted cross selling of products. 5 7 ADVISORY RELATIONSHIPS S1 has formed a Customer Advisory Council to provide S1 with insights and experience related to the development of new products. This council reviews detailed product plans and provides technical guidance on product functionality. S1 has an Advisory Board which provides strategic direction as it relates to product development and direction. The Advisory Board includes representatives of Citibank, BankAmerica, The Principal Financial Group, Synovus Financial Corp., Wachovia Corporation, Huntington Bancshares, Inc., State Farm Mutual Automobile Insurance Company, and Royal Bank of Canada. SALES AND MARKETING S1's sales team is structured in four key groups. The new business sales team is focused on a list of target accounts generated from the target market of large financial services companies. The installed base sales team is responsible for managing the relationships of existing customers. The channel sales team focuses on building successful relationships with the third party data processors and our other technology partners to ensure we have the broadest coverage in the market. The sales support team provides the technical sales support necessary to maximize the output and productivity of the sales function. S1 promotes its products and services through conferences, seminars, direct marketing and trade publications, as well as through relationships with partners, including Hewlett-Packard and Andersen Consulting. S1 also maintains membership in key industry organizations such as the Bank Administration Institute and Global Concepts, a payment systems consulting firm. In addition, S1 participates in industry conferences such as internet Banking Conference, Banknet/Investnet Online '99 and Retail Delivery Systems. PRODUCT AND SOFTWARE DEVELOPMENT S1's product development group is structured into product management, development and quality assurance. S1 invested $4.0 million in 1996, $10.5 million in 1997, and $14.6 million in 1998 in product development efforts. The product management group is responsible for strategic product planning, managing customer and market demands, performing competitive analysis, and managing the entire development process for each product under development. The department consists of individuals with industry expertise related to the product they are managing. The product managers work closely with the development group to ensure that the functionality in the product exceeds industry standards. The development group creates the products following an iterative and incremental development life cycle. The software life cycle consists of six phases: planning, analysis-design, construction, testing, implementation and maintenance. The software developers have extensive experience in advanced software development techniques and work closely with the product managers to ensure that they are considering the complex processes involved in financial services systems. The quality assurance group has extensive knowledge of S1's products and expertise in software quality assurance techniques. The quality assurance group utilizes an incremental form of testing for all products. The benefit of this method is that developers focus on each module individually as it is developed and then integrated with other modules, which yields better test coverage. Testing is accomplished in three separate phases: unit testing, integration testing and system testing. These three phases or levels of testing accompany the product development cycle from initial coding through product pre-release for each developmental project. The goal of each testing phase is to detect errors at the earliest stage of the system/product development cycle. TECHNOLOGY S1's products incorporate business logic and a database running on a server. The combination of database and business logic, often referred to as fat server architecture, significantly raises the complexity of building 6 8 and operating the software as compared to other internet banking products which do not have integrated business logic and database, often referred to as thin server architecture. Having integrated business logic and database in front of the financial institution's mainframe systems provides greater functionality and performance for end-users. Additionally, the fat server provides for the capability to consolidate the end-user's financial data from disparate host systems. Virtual Financial Manager provides rigorous security by combining encryption technology, firewalls and filtering routers with a proven military-grade operating system. S1's product offerings were built using the C++ language, Informix database technology, the HP Virtual Vault platform for secure web application execution, HP-UX as the operating system platform, and Tuxedo for real-time software that accessed bank host systems. This technology uses large multi-processor HP Unix- based servers and allows scalability up to 250,000 customers. In early 1998, S1 decided to switch its platform focus from a C++/Unix based solution to a Forte application development and execution environment. S1 built its Investments product on a Forte base, and integrated the investment functionality with the existing Virtual Financial Manager 4.0 Banking. The Forte suite of application development tools allows database and platform independence, as well as capabilities far beyond the previous architecture in terms of scalability, application partitioning, application monitoring and performance. S1 is currently in development of a full suite of financial applications on the Forte-based platform, including a common technical and business architecture for all S1 applications in the Virtual Financial Manager 5.0 suite. S1 intends to publish Application Programming Interfaces for this new version to enable third parties to add functionality. S1's data center provides access to host computers for messaging, online updates and inquiry into systems operating Virtual Financial Manager. All communications between the Virtual Financial Manager application and the institution's host network are routed through a Virtual Private Network connection in order to enhance security. The data center is responsible for ensuring availability of all types of communications including online, email, frame relay circuit, and host communications. In addition, the data center provides production, change control, job scheduling, data storage management, storage of backups, and job performance analysis for systems operating Virtual Financial Manager. Our recovery plan provides the institution with a defined recovery site, data processing resources, and vital records required for restoration of all the institution's operations in the S1 data center. COMPETITION The internet technology, financial services and secure network communication industries all represent dynamic and competitive markets. S1 continues to expect competition to intensify in the future, especially with respect to internet financial service products. Because of the diverse and changing competitive marketplace in the financial services industry and for internet related products and services, there can be no assurance that S1 has identified or considered all possible present and future competitors or that the discussion set forth below represents a complete coverage of competition. The market for online banking and financial software is competitive, rapidly evolving and subject to technological change. With the continued development of the internet as an accepted avenue for providing financial services, S1 expects competition to intensify. Principal competitors currently include software companies that provide turn-key online banking and brokerage solutions and internet integration tools. While S1 believes no other organization delivers internet solutions that rival the depth and breadth of S1's solution, there are a number of companies in the market who have a similar offering. However, it is not so much these organizations that are competitive factors for S1, but more the approaches and standards that the market is currently struggling to define. Below is a discussion of these competitive factors: - Thin servers. The thin server model connects end-users directly to the financial institution's mainframe system and provides limited information access and customization. Typically financial institutions remove a customers' financial data that is over 60 days old from the mainframe system and store the information in a fashion that makes it unavailable to the end-user through their thin server internet application. 7 9 - Fat client. The fat client model refers to personal financial management programs, such as Quicken, which are installed on a personal computer. The ability to access the financial information under the fat client model is limited to the device containing the personal financial management software. S1's solution does not require software to be loaded on a client device, therefore financial information can be accessed from any internet enabled device. In addition, it allows the financial institution to maintain access to valuable customer information that it can use for marketing additional products and services, and frees the end-user from upgrades. - In-house development. Some financial services organizations have developed or are in the process of developing their own personal financial management software. The internal development includes both dial-up personal computer-based systems and internet systems. Many of these organizations are discovering that internal development is cost prohibitive, time consuming and requires new technical expertise, and therefore are looking to outside vendors to maintain competitive products. - Aggregator. The aggregator model is an internet service that consolidates information from multiple entities and presents the information to the end-user. Under this model, an end-user is not required to consolidate all of his financial relationships at one organization. We believe, however, that S1's solution can offer a client's end-users consistent experience across a wide range of products and meet their needs faster than the aggregator model, and that this will result in end-users consolidating their relationships at one financial institution. In addition, S1's solution enables a financial organization to maintain brand identity. INTELLECTUAL PROPERTY S1's success is heavily dependent on its proprietary technology and information. S1 relies on a combination of copyright, trademark and trade secret laws and confidentiality procedures to protect its proprietary technology and information. S1 generally enters into nondisclosure agreements with its employees, contractors, consultants, distributors and corporate partners and limits access to and distribution of its software, documentation and other proprietary information. Despite its efforts to protect its proprietary software, unauthorized parties may attempt to copy or otherwise obtain and use products or technology that S1 considers proprietary, and third parties may attempt to develop similar technology independently. In particular, S1 provides its existing and potential distribution partners with access to its product architecture and other proprietary information underlying its licensed software. Policing unauthorized use of S1's software is very difficult due to the nature of software, and, while S1 is unable to determine the extent to which piracy of its software products exists, software piracy can be expected to be a persistent problem. In addition, effective protection of intellectual property rights may be unavailable or limited in certain countries. Accordingly, there can be no assurance that the steps taken by S1 to protect its services and products are adequate to prevent misappropriation of its technology or that S1's competitors will not independently develop technologies that are substantially equivalent or superior to S1's technology. Despite the implementation of security measures, the core of S1's network infrastructure could be vulnerable to unforeseen computer problems. Although S1 believes it has taken steps to mitigate much of the risk, it 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. Unknown security risks may result in liability to S1 and also may deter financial institutions from licensing its software and services. Although S1 intends to continue to implement and establish security measures, there can be no assurance that measures implemented by S1 will not be circumvented in the future, which could have a material adverse effect on its business, financial condition or results of operations. GOVERNMENT REGULATION S1 is subject to being examined, and is indirectly regulated, by the Office of the Comptroller of the Currency, the Board of Governors of the Federal Reserve System ("FRB"), the Federal Deposit Insurance Corporation and the Office of Thrift Supervision, and the various state financial regulatory agencies which 8 10 supervise and regulate the banks and thrift institutions for which S1 provides data processing services. Matters subject to review and examination by federal and state financial institution regulatory agencies include S1's internal controls in connection with its performance of data processing services, and the agreements pursuant to which S1 provides such services. As the FRB has approved Area's, Huntington's and Wachovia's ownership interest in S1, we are subject to supervision, regulation and examination by the FRB as a company controlled by a bank holding company. EMPLOYEES As of December 31, 1998, S1 had 312 employees. S1's employees are not represented by a collective bargaining unit, and S1 believes that its relations with its employees are satisfactory. In addition to full-time employees, S1 has used the services of various independent contractors for professional services projects and product development. ITEM 2. PROPERTIES. S1's executive offices and data center are located at 3390 Peachtree Road, NE, Atlanta, Georgia. S1 also maintains a development office in Littleton, Massachusetts and Melbourne, Australia. The executive offices, data center and the development offices are leased facilities. S1 owns computer equipment with a net book value of approximately $2.3 million at December 31, 1998. ITEM 3. LEGAL PROCEEDINGS. There are no material pending legal proceedings to which S1 or its operating subsidiary is a party or of which any of their property is the subject, other than ordinary routine litigation incidental to the business. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. Not applicable. 9 11 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS. Our common stock has been quoted on the Nasdaq National Market under the symbol "SONE" since October 1998. Prior to that time, the common stock of our predecessor, Security First Network Bank, was quoted on the Nasdaq National Market under the symbol "SFNB" from its initial public offering on May 23, 1996 through September 1998. The following sets forth, for the quarters indicated, the high and low closing sales prices per share of the common stock as reported on the Nasdaq National Market.
QUARTER ENDED: HIGH LOW -------------- ---- --- SFNB: June 30, 1996............................................... $45 $31 3/4 September 30, 1996.......................................... 34 1/4 21 December 31, 1996........................................... 26 1/4 10 March 31, 1997.............................................. 13 1/2 8 June 30, 1997............................................... 9 3/8 5 1/2 September 30, 1997.......................................... 13 7/8 7 5/8 December 31, 1997........................................... 11 3/8 5 3/4 March 31, 1998.............................................. 13 5/8 8 1/4 June 30, 1998............................................... 14 15/16 7 1/2 September 30, 1998.......................................... 26 3/8 11 3/4 SONE: December 31, 1998........................................... 35 3/8 11
As of the close of business on March 24, 1999, there were 375 holders of record of our common stock. We have not paid or declared cash dividends on our common or preferred stock since our initial public offering in May 1996 and do not anticipate paying cash dividends on our capital stock in the foreseeable future. On October 1, 1998, we issued 129,702 shares of our common stock to BroadVision, Inc. in a private placement and BroadVision issued 123,001 shares of BroadVision common stock to us in a private placement pursuant to the Common Stock Purchase Agreement, made as of June 30, 1998, among BroadVision, S1 and Security First Network Bank. The offer and sale of the stock to BroadVision satisfied the requirements of Section 4(2) of the Securities Act of 1933, as amended (transactions by an issuer not involving any public offering). On December 17, 1998, we issued 210,438 shares of our common stock to Royal Bank of Canada in exchange for consideration of $2.5 million in a private placement upon exercise of an option granted pursuant to the Common Stock Purchase and Option Agreement dated March 9, 1998 between Security First Network Bank and Royal Bank of Canada. The sale of the stock to Royal Bank satisfied the requirements of Section 4(2) of the Securities Act of 1933, as amended (transactions by an issuer not involving any public offering). ITEM 6. SELECTED FINANCIAL DATA. The following table presents our selected statement of operations data and our selected balance sheet data on a consolidated basis. The selected historical consolidated financial data presented below is derived from the audited consolidated financial statements and notes of S1. You should read this data together with the audited 10 12 consolidated financial statements of S1 and Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations."
YEAR ENDED DECEMBER 31, ---------------------------------------- 1995 1996 1997 1998 ------- -------- -------- -------- (IN THOUSANDS, EXCEPT PER SHARE DATA) STATEMENTS OF OPERATIONS DATA: Revenues: Software licenses......................................... $ -- $ 512 $ 4,142 $ 4,781 Professional services..................................... -- 699 6,277 16,218 Data center............................................... -- 56 411 3,181 ------- -------- -------- -------- Total revenues.......................................... -- 1,267 10,830 24,180 ------- -------- -------- -------- Direct costs: Software licenses......................................... -- 796 1,605 503 Professional services..................................... -- 535 5,346 10,527 Data center............................................... -- 2,266 6,947 7,218 ------- -------- -------- -------- Total direct costs...................................... -- 3,597 13,898 18,248 ------- -------- -------- -------- Gross margin............................................ -- (2,330) (3,068) 5,932 ------- -------- -------- -------- Operating expenses: Selling and marketing..................................... -- 2,154 4,305 4,723 Product development....................................... -- 4,048 10,507 14,625 General and administrative................................ 46 3,635 4,637 5,994 Depreciation and amortization............................. -- 256 1,741 5,347 Amortization of goodwill and acquisition charges.......... -- 7,072 4,525 4,384 ------- -------- -------- -------- Total operating expenses................................ 46 17,165 25,715 35,073 ------- -------- -------- -------- Operating loss.......................................... (46) (19,495) (28,783) (29,141) Interest income............................................. 101 1,672 1,481 583 ------- -------- -------- -------- (Loss) income from continuing operations.................... 55 (17,823) (27,302) (28,558) Discontinued operations: Loss from operations...................................... (1,535) (4,236) (689) (3,059) Gain on sale.............................................. -- -- -- 812 ------- -------- -------- -------- Loss from discontinued operations........................... (1,535) (4,236) (689) (2,247) ------- -------- -------- -------- Net loss.................................................... $(1,480) $(22,059) $(27,991) $(30,805) ======= ======== ======== ======== Basic and diluted net loss per common share from continuing operations................................................ $ -- $ (3.03) $ (3.06) $ (2.59) Basic and diluted net loss per common share from discontinued operations................................... (0.16) (0.73) (0.08) (0.21) ------- -------- -------- -------- Basic and diluted net loss per common share................. $ (0.16) $ (3.76) $ (3.14) $ (2.80) ------- -------- -------- -------- Weighted average number of shares of common stock outstanding............................................... 9,451 5,874 8,923 11,018 ======= ======== ======== ========
DECEMBER 31, ---------------------------------------- 1995 1996 1997 1998 ------- -------- -------- -------- BALANCE SHEET DATA: Cash and cash equivalents................................. $ 3,710 $ 4,122 $ 3,137 $ 14,504 Total assets.............................................. 3,948 45,941 36,192 48,293 Capital lease obligation, excluding current portion....... -- -- -- 159 Stockholders' equity...................................... 3,367 40,859 25,140 17,229
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. This annual report contains forward-looking statements and information relating to us and our subsidiary. The words "believes," "expects," "may," "will," "should," "projects," "contemplates," "anticipates," "forecasts," "intends" or similar terminology identify forward-looking statements. These statements are based on the beliefs of management as well as assumptions made using information currently available to management. Because these statements reflect the current views of management concerning future events, they involve risks, uncertainties and assumptions. Therefore, actual results may differ significantly from the results 11 13 discussed in the forward-looking statements. We undertake no obligation to update publicly any forward-looking statement for any reason, even if new information becomes available. This section of this annual report should be read in conjunction with the audited consolidated financial statements and notes appearing elsewhere in this annual report. OVERVIEW Security First Technologies Corporation, commonly known as S1, develops integrated, brandable internet applications that enable companies offering financial services to create their own financial portals. Prior to September 30, 1998, we were the technology subsidiary of Security First Network Bank, which was the first internet bank. On September 30, 1998, we completed a reorganization to separate our banking and technology businesses, and then sold the banking business to a subsidiary of Royal Bank of Canada. S1 developed the technology which enabled Security First Network Bank to begin offering banking services over the internet. We released version 4.0 of our product in 1998 and intend to continue our product development efforts, which include the introduction of version 5.0 within the next 12 months. Revenues S1's revenues are derived primarily from three sources: Software licenses. S1 receives license fees from direct licensees of Virtual Financial Manager and third party data processors. Direct licensees install and operate Virtual Financial Manager in their own data center. S1 generally receives an initial license fee plus ongoing fees which are based on either the number of end-users or a percentage of the initial license fee. The initial software license fees are generally recognized as revenue on a straight-line basis over either the term of the agreement or, for contracts without a term, the estimated useful life of the software products. The ongoing fees are recognized as revenue in the month earned. Third party data processors install Virtual Financial Manager in their own data processing centers and license the product to their client institutions, typically smaller financial services entities like community banks and thrifts. S1 receives monthly fees from third party data processors based on the total number of end-users served by the processors' client institutions. These fees are recognized as revenue in the period earned. Professional Services. S1 provides professional services related to the installation and integration of Virtual Financial Manager. These services include: - installing the product at direct licensees and third party data processing centers, - integrating the financial institution's data processing systems with the S1 data center for data center clients, - product enhancements, - consulting, and - training. Customers are charged and revenues are recognized for these services primarily on a time and materials basis. These revenues are recognized as the services are performed. Data Center. S1 receives recurring monthly fees from financial institutions who have chosen to license S1's Virtual Financial Manager and outsource the processing of their financial transactions to the S1 data center. In addition, S1 receives monthly fees for technical support. These fees are based on the number of end-users of the client institution. These revenues are generally recognized as the services are performed. Expenses S1 expects to continue making significant investments in product development in order to enhance its existing products, develop new products and further advance its technology. For example, S1 plans to introduce version 5.0 of Virtual Financial Manager within the next 12 months, which will, among other things, increase the product's scalability and allow it to be customized for international use by S1's clients. Future 12 14 expenditures in product development will be primarily attributable to the addition of software development personnel with the technological and industry expertise relevant to S1's technology. S1 expects to increase its sales and marketing efforts to expand its customer base. The sales and marketing staff, which numbered 16 at December 31, 1998, is expected to grow significantly during 1999. S1 also will continue to promote its products and services through conferences, seminars, direct marketing and trade publications. S1 records software development costs in accordance with Financial Accounting Standards Board Statement No. 86. S1 currently does not have any capitalized software development costs. S1 has net operating loss carryforwards of approximately $49.3 million at December 31, 1998 with expiration dates beginning in the year 2010 and ending in the year 2018. Of this amount, $3.5 million related to stock option tax deductions which will be reflected as additional paid-in capital when realized. S1 has incurred annual and quarterly losses from operations since its inception. At December 31, 1998, S1 had an accumulated deficit of $82.8 million. Moreover, although S1's revenues have increased in recent periods, there can be no assurance that S1's revenues will grow in future periods, that they will grow at past rates, that S1 will achieve profitability in the future or that, if profitability is achieved, it will be sustained. Client Information The table below reflects information on the number of financial services entities that have either executed a letter of intent or contract to use the S1 software applications and technology segregated by distribution channel. The table also shows information on the number of financial services entities for which Virtual Financial Manager has been implemented by distribution channel. Data regarding third party data processors and direct software licensees are based on information provided by these companies since S1 does not have direct access to that data.
AS OF DECEMBER 31, --------------------------- 1996 1997 1998 ------ ------ ------- FINANCIAL INSTITUTION COMMITMENTS: Data center................................................. 7 17 15 Third party data processors................................. 4 43 65 Direct software licenses.................................... 2 6 6 ------ ------ ------- Total.................................................. 13 66 86 ====== ====== ======= COMPLETED IMPLEMENTATIONS: Data center................................................. 2 8 12 Third party data processors................................. -- 11 35 Direct software licenses.................................... -- 4 5 ------ ------ ------- Total.................................................. 2 23 52 ====== ====== ======= NUMBER OF END-USERS: Data center................................................. 9,500 32,700 93,000 Third party data processors................................. -- 400 16,000 Direct software licensees................................... -- 1,400 104,000 ------ ------ ------- Total.................................................. 9,500 34,500 213,000 ====== ====== ======= NUMBER OF END-USER ACCOUNTS: Data center................................................. 12,200 49,500 148,000 Third party data processors................................. -- 700 42,000 Direct software licensees................................... -- 2,000 352,000 ------ ------ ------- Total.................................................. 12,200 52,200 542,000 ====== ====== =======
13 15 RESULTS OF OPERATIONS The following discussion of our results of operations for the years ended December 31, 1996, 1997 and 1998 is based on data derived from the statements of operations data contained in our audited consolidated financial statements appearing elsewhere in this annual report. The following table sets forth this data as a percentage of total revenues:
YEAR ENDED DECEMBER 31, ------------------------------------ 1996 1997 1998 -------- ------ -------- Revenues: Software licenses........................................ 40.4% 38.2% 19.8% Professional services.................................... 55.2 58.0 67.1 Data center.............................................. 4.4 3.8 13.1 -------- ------ -------- Total revenues........................................ 100.0 100.0 100.0 -------- ------ -------- Direct costs: Software licenses........................................ 62.9 14.8 2.1 Professional services.................................... 42.2 49.4 43.5 Data center.............................................. 178.8 64.1 29.9 -------- ------ -------- Total direct costs.................................... 283.9 128.3 75.5 -------- ------ -------- Operating expenses: Selling and marketing.................................... 170.0 39.8 19.5 Product development...................................... 319.5 97.0 60.5 General and administrative............................... 286.9 42.8 24.8 Depreciation and amortization............................ 20.2 16.1 22.1 Amortization of goodwill and acquisition charges......... 558.2 41.8 18.1 -------- ------ -------- Total operating expenses.............................. 1,354.8 237.5 145.0 -------- ------ -------- Operating loss............................................. (1,538.7) (265.8) (120.5) Interest income............................................ 132.0 13.7 2.4 -------- ------ -------- Loss from continuing operations............................ (1,406.7)% (252.1)% (118.1)% ======== ====== ========
YEAR ENDED DECEMBER 31, 1998 COMPARED TO YEAR ENDED DECEMBER 31, 1997 Revenues S1's total revenues increased by $13.4 million to $24.2 million for the year ended December 31, 1998 from $10.8 million in the year ended December 31, 1997, an increase of 123%. The primary components of 1998 revenue were $4.8 million in software license fees, $16.2 million in professional service fees and $3.2 million in data center fees. As a result of the size of the companies S1 does business with, the magnitude of the implementations for companies of this size and our limited amount of capacity to perform implementations, in any given period a significant portion of our revenues may be attributed to a limited number of clients. Software Licenses. Software license fees increased by $639,000 to $4.8 million in the year ended December 31, 1998 from $4.1 million in the year ended December 31, 1997, an increase of 15%. Software license fees represented 20% of total revenues in the year ended December 31, 1998 compared to 38% of total revenues in the year ended December 31, 1997. This increase in software license fees relates primarily to the recognition of revenue from the license fees included in the technology and licensing agreements with Royal Bank of Canada. These license fees have been recorded as deferred revenue and are recognized as revenue over a three-year maintenance period. In addition, the increase in 1998 is also attributed to a license for S1's Relationship Management product. Professional Services. Professional services revenues increased by $9.9 million to $16.2 million in the year ended December 31, 1998 from $6.3 million in the year ended December 31, 1997, an increase of 158%. 14 16 Professional services revenues represented 67% of total revenues in the year ended December 31, 1998 compared to 58% of total revenues in the year ended December 31, 1997. This increase in professional services revenue in 1998 was driven by projects at a number of large financial services companies. Additionally, during 1998, S1 began performing professional services related to product enhancement projects, which include the initial development of an insurance product, incorporation of BroadVision's One-to-One marketing with Virtual Financial Manager and the integration of a new bill payment provider. Also, in 1997 S1 was limited in the amount it could bill for professional services because of fixed pricing for implementation services contained in initial contracts. The increase in revenue in 1998 is also attributable to increases in pass-through costs related to implementations. Data Center. Data center revenues increased by $2.8 million to $3.2 million in the year ended December 31, 1998 from $411,000 in the year ended December 31, 1997, an increase of 674%. Data center revenues represented 13% of total revenues in the year ended December 31, 1998 compared to 4% of total revenues in the year ended December 31, 1997. This increase can be attributed to increased end-user demand for S1's internet financial applications, the initiation of minimum fees based on capacity requirements and increased maintenance fees. The average quarterly revenue per billable end-user increased to $15.21 in the fourth quarter 1998 from $9.55 in the fourth quarter 1997. Management anticipates that the average quarterly revenue per billable end-user will decrease as financial services entities increase the number of their customers using the product. Revenues associated with the data center are directly influenced by the number of financial services entities that are using Virtual Financial Manager products through the S1 data center and the number of end-users of these financial services entities. During the month of December 1998, the data center processed in excess of 148,000 internet accounts, representing approximately 93,000 end-users. This represents an increase of 199% in the number of accounts processed from approximately 49,500 and an increase of 184% in the number of end-users from approximately 32,700 for the month of December 1997. Direct Costs Direct costs increased by $4.3 million to $18.2 million in the year ended December 31, 1998 from $13.9 million in the year ended December 31, 1997, an increase of 31%. Direct costs represented 76% of total revenues in the year ended December 31, 1998 compared to 128% of total revenues in the year ended December 31, 1997. Software License Costs. Direct software license costs consist primarily of the cost of third-party software used in the Virtual Financial Manager suite. Direct costs associated with software licenses decreased by $1.1 million to $503,000 in the year ended December 31, 1998 from $1.6 million in the year ended December 31, 1997, a decrease of 69%. Direct software license costs in 1998 consisted primarily of the cost of third-party software used in Relationship Management, whereas direct software license costs in 1997 consisted primarily of the amortization of purchased technology. This purchased technology included technology acquired in previous acquisitions and software development costs paid to a contractor in 1995 and 1996. These costs have been amortized using the straight line method over a period of three years, which is the amount representing the greater of the amortization using the straight-line method or the ratio of current revenues to total anticipated revenues. During the fourth quarter of 1997, S1 wrote off the remaining unamortized balance of goodwill and purchased technology associated with 1996 acquisitions after determining that there were minimal future cash flows expected to be derived from these intangible assets as discussed further below. Direct costs associated with software licenses represented 11% of software license fees in the year ended December 31, 1998 compared to 39% of software license fees in the year ended December 31, 1997. Professional Services Costs. Direct professional services costs consist of primarily personnel and related infrastructure costs. Direct costs associated with professional services increased by $5.2 million to $10.5 million in the year ended December 31, 1998 from $5.3 million in the year ended December 31, 1997, an increase of 97%. In addition to increases in personnel, S1 experienced delays in early implementations of Virtual Financial Manager, due to integration issues with clients' legacy mainframe systems which resulted in increased implementation costs and loss accruals for some fixed-fee contracts. Currently, S1 is in the process 15 17 of converting all financial services entities to Virtual Financial Manager version 4.0. These conversions will require a significant portion of S1's implementation resources, and consequently, management anticipates that professional services margins will decrease in the next few quarters, due both to the deployment of such resources and the potential discounting of services related to these implementations. Direct costs associated with professional services represented 65% of professional services revenues in the year ended December 31, 1998 compared to 85% of professional services revenues in the year ended December 31, 1997. Data Center Costs. Direct data center costs consist of personnel and computer equipment costs. Direct costs associated with data center services increased by $271,000 to $7.2 million in the year ended December 31, 1998 from $6.9 million in the year ended December 31, 1997, an increase of 4%. The increase in direct data center costs is primarily attributable to the establishment of the basic infrastructure of personnel and equipment needed to process accounts for the growing number of end-users of our financial services clients. In an effort to contain data center costs, S1 ended its data center facilities management agreement with a third party. S1 experienced cost savings of approximately $300,000 in the fourth quarter of 1998 from both the elimination of the cost-plus arrangement and the ability to use more efficiently the existing infrastructure. As a result of the termination of this agreement, two financial institutions, which had a limited number of end-users using the data center, elected not to enter into data center contracts with S1. Since these institutions were relatively inactive, management does not anticipate this to have a significant impact on revenues. Based on current costs, management anticipates that the data center will reach a break-even gross margin when approximately 200,000 end-users are processed on a monthly basis. Direct data center costs represented 227% of data center revenues in the year ended December 31, 1998 compared to 1,690% of data center revenues in the year ended December 31, 1997 (see note 5 to S1's consolidated financial statements). Operating Expenses Operating expenses increased by $9.4 million to $35.1 million in the year ended December 31, 1998 from $25.7 million in the year ended December 31, 1997, an increase of 36%. Selling and Marketing. Selling and marketing expenses increased by $418,000 to $4.7 million in the year ended December 31, 1998 from $4.3 million in the year ended December 31, 1997, an increase of 10%. Selling and marketing expenses were 20% of total revenues in the year ended December 31, 1998 compared to 40% of total revenues in the year ended December 31, 1997. The dollar increase was due primarily to an increase in the provision for uncollected receivables as a result of the increased revenues in 1998. The decrease in selling and marketing expenses as a percentage of sales was due to S1's ability to leverage its relatively fixed selling and marketing expenses over a larger revenue base. Product Development. Product development expenses increased by $4.1 million to $14.6 million in the year ended December 31, 1998 from $10.5 million in the year ended December 31, 1997, an increase of 39%. Product development expenses were 61% of total revenues in the year ended December 31, 1998 compared to 97% of total revenues in the year ended December 31, 1997. The dollar increase relates primarily to an increase in personnel expenses for additional product development initiatives. During 1998, S1 completed the development of Virtual Financial Manager version 4.0 which will provide operational efficiencies and improve the stability of the core product. S1 will be consolidating all existing clients on this version of the software by the third quarter 1999. S1 added loan functionality to the banking module with this release which will allow end users to view loan balances and make loan payments. In addition, during 1998 S1 released its Investments product and its Relationship Management product, which integrates BroadVision's "One-to-One" marketing suite of software products with Virtual Financial Manager. The increase in product development costs represents management's commitment to enhancing the current Virtual Financial Manager products by migrating the existing products to more efficient software architecture and to developing new Virtual Financial Manager applications. The decrease as a percentage of S1's total revenues in the year ended December 31, 1998 from the year ended December 31, 1997 resulted from its ability to leverage product development expenses over a larger revenue base. General and Administrative. General and administrative expenses increased by $1.4 million to $6.0 million in the year ended December 31, 1998 from $4.6 million in the year ended December 31, 1997, an increase 16 18 of 29%. General and administrative expenses were 25% of total revenues in the year ended December 31, 1998 compared to 43% of total revenues in the year ended December 31, 1997. A portion of the dollar increase is attributable to charges related to the termination of the facilities management agreement for the data center discussed in depreciation and amortization below. In addition, general and administrative expenses for 1998 include a charge of approximately $600,000 for professional fees related to an unsuccessful transaction. The remaining increase relates to the expanded personnel infrastructure to manage S1's growth. The decrease as a percentage of our total revenues in the year ended December 31, 1998 from the year ended December 31, 1997 resulted from our ability to leverage general and administrative expenses over a larger revenue base. Depreciation and Amortization. Depreciation and amortization expenses increased by $3.6 million to $5.3 million in the year ended December 31, 1998 from $1.7 million in the year ended December 31, 1997, an increase of 207%. Depreciation and amortization expenses were 22% of total revenues for the year ended December 31, 1998 compared to 16% of total revenues in the year ended December 31, 1997. The increase was due primarily to a one-time charge of approximately $1.2 million related to the termination of an outsourcing contract for the data center. In addition, S1 wrote-off computer equipment totaling approximately $500,000 as the result of a physical inventory performed in 1998. The remaining increase in depreciation and amortization related to increased technology purchases in 1998 as a result of S1's growth. Amortization of Goodwill. Amortization of goodwill and acquisition charges decreased $141,000 to $4.4 million in the year ended December 31, 1998 from $4.5 million in the year ended December 31, 1997, a decrease of 3%. Amortization of goodwill and acquisition charges were 18% of total revenues in the year ended December 31, 1998 compared to 42% of total revenues in the year ended December 31, 1997. Included in the 1997 amortization of goodwill and acquisition charges are one-time charges of $1.4 million for the write-off of goodwill and purchased technology from previous acquisitions discussed further below. Excluding this charge in 1997, amortization of goodwill increased $1.3 million to $4.4 million in the year ended December 31, 1998 from $3.1 million in the year ended December 31, 1997, an increase of 40%. The increase related to the amortization of goodwill and other identifiable intangible assets resulting from the acquisition of Solutions by Design, Inc. in November 1997. YEAR ENDED DECEMBER 31, 1997 COMPARED TO YEAR ENDED DECEMBER 31, 1996 During 1996, S1 acquired Five Paces, Inc. and SecureWare, Inc. Both acquisitions were accounted for using the purchase method and, accordingly, results of operations for the period from the date of acquisition through December 31, 1996 are included in the 1996 results. Revenues S1's total revenues increased by $9.5 million to $10.8 million for the year ended December 31, 1997 from $1.3 million in the year ended December 31, 1996. The primary components of 1997 revenue were $4.1 million in software license fees, $6.3 million in professional service fees and $411,000 in data center fees. Software Licenses. Software license fees increased by $3.6 million to $4.1 million in the year ended December 31, 1997 from $512,000 in the year ended December 31, 1996, an increase of 709%. Software license fees represented 38% of total revenues in the year ended December 31, 1997 compared to 40% of total revenues in the year ended December 31, 1996. This increase in software license fees is attributable to the increase in in-house installations during 1997 as compared to 1996. At the end of 1997, four in-house installations of Virtual Financial Manager were substantially complete. In addition, in August 1997, S1 licensed Virtual Financial Manager to four institutions for $8.2 million. These license fees have been recorded as deferred revenue and are recognized using the subscription method over a period of three years. Professional Services. Professional services revenues increased by $5.6 million to $6.3 million in the year ended December 31, 1997 from $699,000 in the year ended December 31, 1996, an increase of 798%. Professional services revenues represented 58% of total revenues in the year ended December 31, 1997 compared to 55% of total revenues in the year ended December 31, 1996. During 1997, S1 completed the 17 19 installation of Virtual Financial Manager for six financial institutions in the S1 data center, one third party data processing center and four financial institutions operating their own data centers. This compares to a total of two implementations completed during 1996, both using the S1 data center. Data Center. Data center revenues increased by $355,000 to $411,000 in the year ended December 31, 1997 from $56,000 in the year ended December 31, 1996, an increase of 634%. Data center revenues represented 4% of total revenues in the year ended December 31, 1997 compared to 4% of total revenues in the year ended December 31, 1996. At the end of 1997, eight financial institutions were implemented in the S1 data center. This compares to a total of two institutions implemented in the S1 data center at the end of 1996. During the month of December 1997, the S1 data center processed in excess of 49,000 accounts representing approximately 32,700 end-users. Typically there is a time lag between the completion of an implementation and the ramp-up of end-users by the financial institution. As a result, over 98% of the accounts processed during December 1997 were attributable to four of the eight institutions implemented at the end of 1997. Direct Costs Direct costs increased by $10.3 million to $13.9 million in the year ended December 31, 1997 from $3.6 million in the year ended December 31, 1996, an increase of 286%. Direct costs represented 128% of total revenues in the year ended December 31, 1997 compared to 284% of total revenues in the year ended December 31, 1996. Software License Costs. Direct costs associated with software licenses increased by approximately $809,000 to $1.6 million in the year ended December 31, 1997 from $796,000 in the year ended December 31, 1996, an increase of 102%. Direct software license costs in 1997 and in 1996 consisted mainly of the amortization of purchased technology. This purchased technology included technology acquired in previous acquisitions and software development costs paid to a contractor in 1995 and 1996. These costs have been amortized using the straight line method over a period of three years, which is the amount representing the greater of the amortization using the straight-line method or the ratio of current revenues to total anticipated revenues. During the fourth quarter of 1997, S1 wrote off the remaining unamortized balance of goodwill and purchased technology associated with acquisitions in 1996 after determining that there were minimal future cash flows expected to be derived from these intangible assets as discussed further below. Direct costs associated with software licenses represented 39% of software license fees in the year ended December 31, 1997 compared to 155% of software license fees in the year ended December 31, 1996. Professional Services Costs. Direct costs associated with professional services increased by $4.8 million to $5.3 million in the year ended December 31, 1997 from $535,000 in the year ended December 31, 1996, an increase of 899%. Direct costs associated with professional services represented 85% of professional service revenues in the year ended December 31, 1997 compared to 77% of professional services revenues in the year ended December 31, 1996. The increase in direct costs in the year ended December 31, 1997 related to delays in implementations of Virtual Financial Manager due to integration issues with institutions' legacy mainframe systems which resulted in increased implementation costs and loss accruals for some fixed-fee contracts. In addition, the impact of the delays and contract provisions discussed above was experienced mostly during 1997, as there were a greater number of implementations in 1997 than there were in 1996. Data Center Costs. Direct costs associated with data center services increased by $4.6 million to $6.9 million in the year ended December 31, 1997 from $2.3 million in the year ended December 31, 1996, an increase of 207%. The increase in direct data center costs is primarily attributable to the establishment of the basic infrastructure of personnel and equipment needed to process accounts for the growing number of our financial services clients. Direct data center costs represented 1,690% of data center revenues in the year ended December 31, 1997 compared to 4,046% of data center revenues in the year ended December 31, 1996. Operating Expenses Operating expenses increased by $8.5 million to $25.7 million in the year ended December 31, 1997 from $17.2 million in the year ended December 31, 1996, an increase of 50%. 18 20 Selling and Marketing. Selling and marketing expenses increased by $2.1 million to $4.3 million in the year ended December 31, 1997 from $2.2 million in the year ended December 31, 1996, an increase of 100%. Selling and marketing expenses were 40% of total revenues in the year ended December 31, 1997 compared to 170% of total revenues in the year ended December 31, 1996. The dollar increase was due primarily to an increase in sales and marketing personnel costs and an increase in general marketing and advertising expenditures to increase awareness of Virtual Financial Manager products in the financial services community. The decrease in selling and marketing expenses as a percentage of sales was due to S1's rapid revenue growth from 1996 to 1997. Product Development. Product development expenses increased by $6.5 million to $10.5 million in the year ended December 31, 1997 from $4.0 million in the year ended December 31, 1996, an increase of 160%. Product development expenses were 97% of total revenues in the year ended December 31, 1997 compared to 320% of total revenues in the year ended December 31, 1996. The 1996 acquisitions of Five Paces, Inc. and SecureWare, Inc. resulted in an increase in product development expenses with the increase in personnel costs from the addition of these employees. The increase in personnel costs was necessary as S1 was increasing its software development activities. Also during the fourth quarter of 1997, S1 abandoned research and development efforts known as Webtone after expending approximately $300,000 on this project in the year ended December 31, 1997. General and Administrative. General and administrative expenses increased by $1.0 million to $4.6 million in the year ended December 31, 1997 from $3.6 million in the year ended December 31, 1996, an increase of 28%. General and administrative expenses were 43% of total revenues in the year ended December 31, 1997 compared to 287% of total revenues in the year ended December 31, 1996. S1 experienced significant growth since May 1996. The increase in general and administrative expenses is the result of the combination of having a full year of expense reflected in 1997 compared to approximately eight months in 1996 and increased personnel costs and staffing associated with supporting the increased staffing levels of S1. Depreciation and Amortization. Depreciation and amortization expenses increased by $1.5 million to $1.7 million in the year ended December 31, 1997 from $256,000 in the year ended December 31, 1996, an increase of 580%. Depreciation and amortization expenses were 16% of total revenues for the year ended December 31, 1997 compared to 20% of total revenues in the year ended December 31, 1996. The dollar increase was due to the increase in computer equipment from expansion of S1's operations. Amortization of Goodwill. Amortization of goodwill and acquisition charges decreased $2.6 million to $4.5 million in the year ended December 31, 1997 from $7.1 million in the year ended December 31, 1996, a decrease of 36%. Amortization of goodwill and acquisition charges were 42% of total revenues in the year ended December 31, 1997 compared to 558% of total revenues in the year ended December 31, 1996. Included in the 1997 amortization of goodwill and acquisition charges are one-time charges of $1.4 million for the write-off of goodwill and purchased technology from previous acquisitions discussed further below. In addition, S1 recorded intangible assets and goodwill of approximately $6.2 million from the acquisition of Solutions by Design, Inc. during 1997, of which $1.4 million was amortized during the fourth quarter of 1997. Additionally, S1 has included $489,000 of nonrecurring charges associated with the Solutions by Design acquisition in amortization of goodwill and acquisition charges for 1997. These amounts represent the premium paid to Solutions by Design by S1 for services rendered during the fourth quarter of 1997 prior to the consummation of the acquisition. Included in the 1996 amortization of goodwill and acquisition charges are one-time charges of $6.8 million for acquired in-process research and development related to 1996 acquisitions. During the fourth quarter of 1997, S1 made the strategic decision to refocus the resources which had been involved in the development and marketing of the network security products acquired from SecureWare towards the Virtual Financial Manager suite of products and related services. In addition, as a result of a significant re-write of S1's Banking product, management did not anticipate that there would be significant future sales of the version acquired from Five Paces. As a result, S1 wrote off the balance of the intangible assets from the SecureWare and Five Paces acquisitions. 19 21 IN-PROCESS RESEARCH AND DEVELOPMENT In connection with the 1996 acquisitions discussed above, $2.8 million in goodwill and other intangible assets was recorded. Based on an evaluation of the intangibles acquired, a total of $6.8 million was charged to the consolidated statement of operations immediately following the acquisitions as in-process research and development. Management estimated that $3.5 million of the purchase price of Five Paces and $3.3 million of the purchase price for SecureWare represented purchased in-process technology that had not reached technological feasibility and had no alternative future use at the dates of acquisition. These amounts were expensed as non-recurring charges in 1996. The value assigned to purchased in-process research and development was determined by identifying on-going research and development projects in areas for which technological feasibility had not been established. For Five Paces, these projects included Virtual Brokerage Manager, currently referred to as Investments, a new software product that assists with investments via the internet; Virtual Credit Card Manager, now referred to as Credit Card; an add-on to Virtual Bank Manager, now referred to as Banking, which allows online monitoring of credit card balances; and Banking 3.0, which represents an updated version of the existing software and features additional functionality. SecureWare's projects in-process included new releases of its existing products, HannaH, a network security product designed to provide secure network communications through cryptography; Troy, which is designed to provide virus prevention and software configuration control through cryptography; and SecureMail, a secure electronic e-mail package which uses cryptography to encrypt e-mail. The value was determined by estimating the costs to develop the purchased in-process technologies into commercially viable products; estimating the resulting net cash flows from such projects; and discounting the net cash flows back to their present value using a rate of return commensurate with the risks associated with the incomplete technologies. The nature of the efforts to develop the purchased in-process technologies into commercially viable products principally relate to the design, programming, testing, debugging, and documentation efforts typically required in order to produce commercially viable software programs with the intended functions, features, and technical performance requirements. At the time of the acquisition, the estimated costs required to complete the in-process technologies acquired from Five Paces were $161,000 in fiscal year 1996 and $29,000 in fiscal year 1997. The estimated costs required to complete the in-process technologies acquired from SecureWare, as of the date of its acquisition, were $78,000 in fiscal year 1996. The resulting net cash flows from the in-process projects are based on S1 management's estimates of revenues, cost of sales, operating expenses, and income taxes. Additionally, net cash flows were adjusted to allow for a return on other assets employed by S1, including net working capital, fixed assets, other intangible assets, and the current technology. These estimates are based on the following assumptions. - The estimated revenues for the in-process technology acquired from Five Paces were projected to grow from $266,000 in fiscal year 1996 to $32.3 million in fiscal year 1999. The estimated revenues for the in-process technology acquired from SecureWare were projected to grow from $3.5 million in fiscal year 1997 to $13.3 million in fiscal year 1999. These projections are based upon management's experience with predecessor projects and industry expectations for similar, successor projects. The gross margins anticipated in the appraisal reflected a sales mix that primarily consisted of direct license revenues. Since the appraisal was completed, a significant number of customers have decided to use the product through the S1 data center rather than license the product directly and use their own data processing environment. Accordingly, the weighted average gross margin for S1 has been less than originally anticipated due to the revenue streams being weighted toward lower margin data center revenues. Although the sales mix has shifted from the higher margin direct license revenues, the data center revenues are anticipated to be realized over a longer term. Therefore, management believes that the value of this revenue stream would support a similar value for the in-process projects acquired from 20 22 Five Paces. For SecureWare, the projected revenues also included payment for consulting services associated with the installation, customization, and training for the in-process products. - Cost of sales and operating expenses were similarly based on management's experience with similar projects and consistent with historical financial results. For Five Paces, management's expectations of rapid revenue growth (100% in fiscal year 1998 and 55% in fiscal year 1999), along with projected cost stability once the in-process products gained market acceptance, led to expectations of significant increases in profit margins in those years. For SecureWare, management anticipated a relatively constant cost structure and profit margin over the expected life of the in-process technology. - As of the acquisition dates, the acquired in-process projects had not demonstrated technological or economic feasibility. As a result, the attainability of the income projections provided by management is subject to three additional risk components which were factored into the value of each project. The three risk factors considered were project risk, product risk, and market risk. To assess risk, management rated each type of risk on a scale from very low to very high. The ratings were then translated into probability percentages associated with each indicated level of uncertainty for each project. The combination of the risk factors resulted in a downward adjustment to the value derived from an unadjusted discounted cash flow approach. - Since the cash flows associated with the acquired in-process research and development are due in part to the deployment of both tangible and intangible assets, a charge was applied to the projected cash flows to allow for a return on these other assets. The returns charged on these other assets employed ranged from six to ten percent of their estimated fair values. Other assets employed include working capital, fixed assets, current software technology, and a work force-in-place. - As part of the acquisitions, S1 acquired existing products currently in use and marketed by the two acquired companies. The core product for Five Paces was Virtual Financial Manager, a suite of software products being designed to allow customers remote access to all aspects of their balance sheet via the internet or a dial-up connection through their financial institution. Existing SecureWare products included the current versions of HannaH, Troy, and SecureMail. The value of the acquired software technology was estimated through the income approach. Under this approach, the fair value is based on the present value of the expected income to be derived from the existing technology. To determine the value under this approach, S1 developed an estimate of future revenues and costs applicable to the commercial exploitation of the current technology. Since the cash flows associated with the current technology are due in part to the deployment of other assets, a charge was applied to the projected cash flows to allow for a return on those assets. The cash flows associated with the current products were then discounted to present value at a discount rate commensurate with the current product portfolio's level of risk. Once the value of the current technologies was determined, a capital charge for the use of these technologies was applied to the cash flows of the in-process technologies. This charge includes both a return on capital of 10%, as well as a return of capital invested in the current technologies. - For SecureWare in-process research and development, the discount rate used was 28%. For Five Paces, the discount rate applied to the in-process technologies was 38%. Several methods were considered for estimating the discount rate applicable to the in-process technologies. First, the overall discount rate in each transaction was determined by comparing the expected future cash flows from each business with the purchase price paid. The implied discount rate is the rate necessary to discount the projected free cash flows back to a present value equal to the purchase price. A market-derived rate was also estimated for each company. The market-derived rate is based on the estimated weighted average cost of capital for Five Paces and SecureWare. The weighted average cost of capital is the implied rate of return an investor would require for an investment in a company with similar risk and business characteristics to each of the two acquisitions. It is determined by examining market information for several comparable companies, using this information to estimate an equity cost of capital (using the capital asset pricing model), determining the applicable cost of debt and calculating a weighted average of the two rates. As a third approach, rates of return demanded by venture capital investors for 21 23 investments in start-up companies with similar risks to those of the in-process products, were researched and reviewed. - The higher rate of return for Five Paces is consistent with the higher risks and higher anticipated returns associated with those in-process technologies. SecureWare's in-process technologies represented new versions of existing products. Once completed, these standardized products could provide security to a wide range of network and internet applications. SecureWare's historical commercial relationships included such lower risk customers such as the U.S. Government and Hewlett-Packard. In contrast, the Five Paces in-process technologies were applications for an entirely new industry: internet banking. Security First Network Bank was the first internet bank and the long-term success and viability of this industry is not yet proven or certain. There is a significantly greater risk associated with an investment in this type of application. - For both Five Paces and SecureWare, the discount rate applied to the in-process technologies was greater than the anticipated overall return expected on each company as a whole. The overall rate of return does not reflect the risk specific to a particular project or product. The in-process research and development is similar to a venture capital investment because there are no current revenues and the technical and commercial viability of the products under development is unproven and risky. The rates applied to the in-process research and development of SecureWare and Five Paces are similar to the rates demanded by venture capital investors for investments in start-up companies with similar risks to those of the in-process products. The following is a status update on the three in-house projects and technologies acquired from Five Paces and a comparison of actual results to the assumptions underlying the valuations: Banking. At the time the appraisal was completed, Banking version 3.0, which is built on a two-tier architecture, was anticipated to be completed in the fourth quarter of 1996 and installed in the S1 data center in the early part of 1997. Further, management anticipated that a three-tier version of Banking would be completed and implemented in 1997 and thereby limit the revenues associated with the Banking 3.0 product. The Banking 3.0 product was completed in the latter part of 1996 and installed at both customer locations and the S1 data center in early 1997. However, based on additional customer requirements for the Banking 3.0 version, management deferred the Banking three-tier development effort and continue developing additional functionality for the Banking 3.0 version. During 1997, S1 released additional versions of the Banking 3.X product to its existing customer base. Additionally, S1 determined that an intermediate release of the Banking product, Banking 4.0, which had extensive additional new functionality, would be required prior to the development and release of a three-tier Banking product. Installations of Banking 4.0 began in the fourth quarter 1998. The licensing and data center revenues actually realized from the Banking 3.0 product release have been greater than the amounts anticipated within the appraisal due to the longer than expected life of the product. The costs associated with the completion of the initial version of Banking 3.0 were consistent with the anticipated costs reflected in the valuation. Credit Card. The credit card product was completed and delivered into production in August 1996, both on schedule and within the costs anticipated in the valuation. The revenues for the credit card product have been lower than originally anticipated in the appraisal due to lower than expected near-term demand for the product in the marketplace. However, in the latter part of 1997 and 1998, a number of licenses have been sold for the credit card product and management anticipates that the revenues projected in the valuation will be realized from the new license sales. Investments. As noted in the appraisal, the project development effort on this product began in January 1996 with an estimated completion date of February 1997. In February 1997, a two-tier architecture beta version of the Investments product was tested on schedule and at a cost consistent with the projected costs contained within the appraisal. Based upon the completed testing and discussions with major customers regarding the scalability of the product, it was determined that the Investments product would have to be redesigned on a three-tier architecture to meet the requirements of the market. Further, S1 determined that 22 24 the majority of its resources would have to be allocated to the continued upgrading of the Banking product. This decision resulted in limiting the further development of Investments until such time as potential customers for the Investments product agreed to fund the development effort for a three-tier Investments product. In the latter part of the third quarter of 1997, S1 sold, on a pre-paid basis, four licenses for a three-tier Investments product totaling $4.0 million, with a commitment to deliver a fully functional product sometime in the future. The Investments development effort was restarted in the fourth quarter of 1997 and testing of a three-tier beta version 1.0 of the software began in the second quarter of 1998. Management anticipates that Investments version 2.0 will be completed and tested and become generally available for installation in 1999. Due to the $8.2 million in license sales made in the third quarter 1997, the cash flows for direct licenses are greater than the amounts projected in the appraisal. However, since it was determined that the Investments product required a further development effort to upgrade the product to a three-tier architecture prior to general release to customers, the data center processing revenues anticipated in the appraisal have not been realized at this time. Management anticipates that the projected data center revenues will be realized in 1999 after the introduction of the Investments product which occurred in 1998. CONSOLIDATED QUARTERLY OPERATING RESULTS The following table sets forth certain unaudited consolidated quarterly statement of operations data and such data as a percentage of total revenues for the years ended December 31, 1997 and 1998. In the opinion of management, this unaudited information has been prepared on substantially the same basis as the consolidated financial statements appearing elsewhere in this annual report and includes all adjustments (consisting of normal recurring adjustments) necessary to present fairly the unaudited consolidated quarterly data. The unaudited consolidated quarterly data should be read in conjunction with the audited consolidated financial statements and notes thereto appearing elsewhere in this annual report. The results for any quarter are not necessarily indicative of results for any future period.
THREE MONTHS ENDED --------------------------------------------------------------------------------------- MAR. 31, JUNE 30, SEPT. 30, DEC. 31, MAR. 31, JUNE 30, SEPT. 30, DEC. 31, 1997 1997 1997 1997 1998 1998 1998 1998 -------- -------- --------- -------- -------- -------- --------- -------- (IN THOUSANDS EXCEPT PER SHARE DATA) Revenues: Software licenses................... $ 673 $ 1,187 $ 1,094 $ 1,188 $ 669 $ 770 $ 1,069 $ 2,273 Professional services............... 973 1,605 1,661 2,038 2,449 3,185 4,549 6,035 Data center......................... 24 90 122 175 310 594 927 1,350 ------- ------- ------- ------- ------- ------- ------- ------- Total revenues................ 1,670 2,882 2,877 3,401 3,428 4,549 6,545 9,658 ------- ------- ------- ------- ------- ------- ------- ------- Direct costs: Software licenses................... 490 484 391 240 20 20 20 443 Professional services............... 1,237 1,433 1,157 1,519 1,570 2,230 2,806 3,921 Data center......................... 1,507 1,717 1,854 1,869 1,823 1,825 1,937 1,633 ------- ------- ------- ------- ------- ------- ------- ------- Total direct costs............ 3,234 3,634 3,402 3,628 3,413 4,075 4,763 5,997 ------- ------- ------- ------- ------- ------- ------- ------- Operating expenses: Selling and marketing............... 1,083 1,088 992 1,142 1,071 1,137 955 1,560 Product development................. 2,375 2,524 2,696 2,912 3,383 3,607 3,717 3,918 General and administrative.......... 1,369 1,098 991 1,179 1,204 1,236 1,370 2,184 Depreciation and amortization....... 310 370 401 660 637 652 761 3,297 Amortization of goodwill and acquisition charges............... 341 346 346 3,492 2,088 2,083 110 103 ------- ------- ------- ------- ------- ------- ------- ------- Total operating expenses...... 5,478 5,426 5,426 9,385 8,383 8,715 6,913 11,062 ------- ------- ------- ------- ------- ------- ------- -------
23 25
THREE MONTHS ENDED --------------------------------------------------------------------------------------- MAR. 31, JUNE 30, SEPT. 30, DEC. 31, MAR. 31, JUNE 30, SEPT. 30, DEC. 31, 1997 1997 1997 1997 1998 1998 1998 1998 -------- -------- --------- -------- -------- -------- --------- -------- (IN THOUSANDS EXCEPT PER SHARE DATA) Operating loss........................ (7,042) (6,178) (5,951) (9,612) (8,368) (8,241) (5,131) (7,401) Interest income....................... 419 351 346 365 255 135 52 141 ------- ------- ------- ------- ------- ------- ------- ------- Loss from continuing operations....... $(6,623) $(5,827) $(5,605) $(9,247) $(8,113) $(8,106) $(5,079) $(7,260) ======= ======= ======= ======= ======= ======= ======= ======= Basic and diluted net loss per common share from continuing operations.... $ (0.80) $ (0.69) $ (0.62) $ (0.93) $ (0.77) $ (0.75) $ (0.45) $ (0.63) ======= ======= ======= ======= ======= ======= ======= ======= Weighted average number of shares of common stock outstanding............ 8,276 8,444 9,061 9,892 10,524 10,763 11,176 11,597 ======= ======= ======= ======= ======= ======= ======= ======= AS A PERCENTAGE OF TOTAL REVENUES: Revenues: Software licenses................... 41% 41% 38% 35% 20% 17% 16% 24% Professional services............... 58 56 58 60 71 70 70 62 Data center......................... 1 3 4 5 9 13 14 14 ------- ------- ------- ------- ------- ------- ------- ------- Total revenues................ 100 100 100 100 100 100 100 100 ------- ------- ------- ------- ------- ------- ------- ------- Direct costs: Software licenses................... 30 17 14 7 1 1 -- 4 Professional services............... 74 50 40 45 46 49 43 41 Data center......................... 90 59 64 55 53 40 30 17 ------- ------- ------- ------- ------- ------- ------- ------- Total direct costs............ 194 126 118 107 100 90 73 62 ------- ------- ------- ------- ------- ------- ------- ------- Operating Expenses: Selling and marketing............... 65 38 35 33 31 25 14 16 Product development................. 142 87 94 86 99 79 57 41 General and administrative.......... 82 38 34 35 35 27 21 23 Depreciation and amortization....... 19 13 14 19 18 14 11 34 Amortization of goodwill and acquisition charges............... 20 12 12 103 61 46 2 1 ------- ------- ------- ------- ------- ------- ------- ------- Total operating expenses...... 328 188 189 276 244 191 105 115 ------- ------- ------- ------- ------- ------- ------- ------- Operating loss........................ (422) (214) (207) (283) (244) (181) (78) (77) Interest income....................... 25 12 12 11 7 3 -- 2 ------- ------- ------- ------- ------- ------- ------- ------- Loss from continuing operations....... (397)% (202)% (195)% (272)% (237)% (178)% (78)% (75)% ======= ======= ======= ======= ======= ======= ======= =======
During the first quarter of 1998, our software licenses revenue decreased sequentially because we completed several installations of direct licenses in late 1997 that we were recognizing on a percentage of completion basis. During the fourth quarter of 1998, our software license direct costs increased as a result of sales of our Relationship Management product which has third-party royalty payments. In an effort to reduce data center costs, S1, which had previously outsourced the operations of the data center, ended its data center facilities management agreement. As a result, data center direct costs decreased during the fourth quarter of 1998, but depreciation and amortization expenses rose. As a result of the termination of the data center facilities management agreement, S1 purchased approximately $1.8 million of computer equipment. Immediately thereafter, S1 entered into a sale-leaseback arrangement for this computer equipment with a third party which is accounted for as a capital lease. S1 recorded a charge which has been included in depreciation and amortization of approximately $1.2 million to adjust the carrying value of the leased computer equipment to its fair market value. Depreciation and amortization expenses were additionally impacted by a $500,000 write-off of computer equipment to reflect results of a physical inventory and increased technology purchases as a result of S1's growth. Also, during the fourth quarter of 1998, our selling and marketing costs increased due to increased participation in trade shows and growth in sales and marketing personnel. In addition, general and administrative expenses rose due mostly to a $600,000 charge for professional fees related to negotiation of a transaction as to which we did not ultimately enter into an agreement. Due to the limited operating history of our company, we cannot forecast operating expenses based on our historical operating results. As a result, we establish expense levels based in part on future projections of revenues. Revenues currently depend heavily on our ability to sell software licenses and implementation and outsourcing services for internet banking solutions. Future revenues will likely include more data center 24 26 revenues, which will depend on our customers' ability to attract and retain end-users. If actual revenues are less than projected revenues, we may be unable to reduce expenses proportionately, which could adversely affect our operating results, cash flows and liquidity. RESULTS OF DISCONTINUED OPERATIONS On September 30, 1998, S1 completed the sale of its banking operations to a U.S. based subsidiary of the Royal Bank of Canada. The Royal Bank subsidiary agreed to pay $3.0 million in excess of the net assets sold. Also, there is a $1.5 million holdback for indemnification which will be received by S1 18 months from the closing date if there are no indemnifiable claims. The banking operations included substantially all of the loans and investment securities as well as its deposit relationships and were legally separated from the technology operations through the formation of a holding company and the contribution of $10.0 million in capital in connection with the sale of the banking operations. S1 recorded a gain of $812,000 on the sale of its banking operations. The gain on sale includes a $1.3 million charge related to the estimated fair value of options to purchase S1's capital stock issued to Royal Bank in March 1998 in connection with the sale by Security First Network Bank of the banking operations. The options give Royal Bank the right to purchase 733,818 shares of common and preferred stock for an aggregate of $10.0 million at prices ranging from $11.88 to $15.81 per share at specified periods through June 2000. The first option for 210,438 shares at $11.88 per share was exercised upon vesting in December 1998. The losses from the banking operations are reflected in the accompanying consolidated statements of operations as discontinued operations. Net interest income for the nine month period ended September 30, 1998 was $1.3 million and the net loss, excluding the gain on disposal, was $3.1 million. The increase in the loss from discontinued operations for the three months ended September 30, 1998 is the result of one time charges related to the sale of the banking operations. Royal Bank has continued as a customer of S1 through a data center arrangement. In addition, Royal Bank has entered into technology licensing and consulting arrangements with S1 for $6.0 million, which were effective upon closing of the sale of the banking operations. LIQUIDITY AND CAPITAL RESOURCES Total stockholders' equity decreased to $17.2 million as of December 31, 1998 from $25.1 million at December 31, 1997. The decrease in stockholders' equity is primarily attributable to the $30.8 million net loss incurred during 1998. This decrease was partially offset by the issuance of 92,593 shares of common stock to Royal Bank for $1.0 million in March 1998, the issuance of 749,064 shares of preferred stock to a subsidiary of State Farm for $10.0 million on September 30, 1998, the issuance of 181,610 shares of common stock to BroadVision in connection with licensing BroadVision's "One-to-One" product, the issuance of 129,702 shares of common stock to BroadVision in exchange for 123,001 shares of BroadVision common stock, and the issuance of 210,438 shares to Royal Bank's subsidiary for $2.5 million upon exercise of an option. As part of the Royal Bank agreements signed in March 1998, S1 issued to Royal Bank's subsidiary four separate options to purchase up to an aggregate $10.0 million in capital stock of S1. The first option, which was exercised in December 1998 for 210,438 shares, had a per share exercise price of $11.88. The second option has a per share exercise price of $13.07 and expires at the end of June 1999. The third option has a per share exercise price of $14.38 and expires at the end of December 1999. The fourth option has a per share exercise price of $15.81 and expires at the end of June 2000. If the second, third and fourth options are exercised in full, S1 will issue an additional 523,380 shares of stock over the remaining option period. At December 31, 1998, S1 had $14.5 million in cash to fund future operations and $17.5 million in accounts receivable. In January 1999, S1 received $12.0 million in cash for a license agreement, which was included in accounts receivable at December 31, 1998. For the year ended December 31, 1998, S1 used $11.9 million in continuing operations compared to $18.6 million in comparable period in 1997. Management believes that S1 has adequate cash resources available to fund operations through the next twelve months. 25 27 YEAR 2000 READINESS DISCLOSURE STATEMENT The year 2000 issue relates to the use by many existing computer programs of only two digits to identify a year in the date field. If not corrected, many computer applications could fail or create erroneous results by or at the year 2000. S1 recognizes the need to ensure that potential year 2000 software failures will not adversely impact its operations. The year 2000 issues impact S1 both on an external basis in connection with the products and services S1 offers to clients, as well as on an internal basis as to its own operations and systems. As to external year 2000 issues related to the products and services S1 offers to clients, a company-wide task force, with representation from all major business units, was established by S1 in 1997 to evaluate and manage the risks, solutions and cost associated with addressing this issue. The Task Force has identified all business systems, products and services, including third party software used by S1 and in conjunction with Virtual Financial Manager, has made an initial assessment as to whether they are year 2000 compliant, and is implementing actions for the systems, products and services which are not year 2000 compliant. S1 believes that based on the assessments completed to date, that material year 2000 issues can be corrected. The failure of S1 or third-party software which is used by S1 or in conjunction with Virtual Financial Manager to be year 2000 compliant could have a material adverse impact on S1's financial position and results of operations. S1 developed its newest version of the Virtual Financial Manager software, version 4.0, which was released in 1998, to be year 2000 compliant. Extensive "time machine" testing has been conducted on Virtual Financial Manager and all of the underlying software products that it utilizes. As we implement this new version of Virtual Financial Manager for each of our clients, we also will conduct complete "end to end" testing. Of 13 systems requiring upgrades to version 4.0, one was completed by December 31, 1998. Management anticipates that all clients will be converted to the new version, with testing completed, by third quarter 1999. Any failure to complete the conversions in a timely manner could have a material adverse effect on S1's business. These conversions will require a significant portion of S1's implementation resources. Management anticipates a reduction in professional services margins for 1999 due to the deployment of resources and negotiated discounts of services related to these implementations. Because S1 is a relatively new enterprise, without old legacy and other computer systems, the year 2000 issues with respect to S1's internal operations and systems are not as complex as might otherwise be the case. S1's Task Force has developed and implemented a strategy to minimize the impact of year 2000 technology problems. S1's strategic plan includes regular reporting of progress to S1's management and board of directors. Under the direction of its Task Force, S1 believes it has identified all hardware, software, networks and other processing platforms, and customer and vendor dependencies affected by the year 2000 date change. The assessment included information systems as well as environment systems that are dependent on embedded microchips, such as security systems, elevators, and telephone systems. S1 has completed activities related to the assessment phase. While the assessment phase is essentially complete, S1 will continue to revisit all third party suppliers throughout 1999 to insure that previously acquired compliance statements have not changed. The next phase of the Task Force's plan is a renovation phase which has been underway since early in 1998. The majority of S1's internal and vendor systems were year 2000 ready by December 31, 1998, with the remainder targeted for completion by the second quarter of 1999. All desktop systems have been tested with failing systems scheduled for replacement. Upgrades for critical financial and other infrastructure systems have been completed. As to S1's systems which are vendor supplied, S1 has either had the vendor confirm year 2000 readiness, or has made plans to replace the system. The Task Force has commenced a testing phase of S1's internal systems, including testing of incremental changes to hardware and software components. The testing phase is expected to be completed by June 30, 1999, but will continue as needed on newly acquired applications and new vendor upgrades. The costs incurred in addressing the year 2000 problem are being expensed as incurred in compliance with generally accepted accounting principles. None of these costs are expected to materially impact the results of operations in any one period. Significant portions of the costs to be incurred are not expected to be incremental but rather are related to current development efforts. 26 28 S1 has identified and evaluated potential year 2000 related worst case scenarios that could result from the failure to identify, test, and validate all critical date dependent applications and embedded microchips that affect core business processes and the failure of external forces, such as third party vendors and utilities, to have properly remedied their systems. Potential worst case scenarios being addressed include the inability to service customers through S1's data center, the failure of Virtual Financial Manager, extended electrical power outages, extended telephone communication outages, ACH and payroll deposit file transmission difficulties and excessive negative media coverage. A contingency plan is being drafted by S1 to address identified potential worst case scenarios. Alternative solutions for business resumption and approaches to minimize the impact of each scenario are being formulated. Any unaddressed year 2000 issue could adversely affect S1's business, financial condition and results of operations. ITEM 7A. QUALITATIVE AND QUANTITATIVE DISCLOSURE ABOUT MARKET RISK. The foreign currency financial statements of S1's Australian operations are translated into U.S. dollars at current exchange rates, except revenues, costs and expenses, which are translated at average exchange rates during each reporting period. Net exchange gains or losses resulting from the translation of assets and liabilities are accumulated in a separate section of stockholders' equity titled accumulated other comprehensive income. Therefore, S1's exposure to foreign currency exchange rate risk occurs when translating the financial results of S1's Australian operations to U.S. dollars in consolidation. At this time, S1 does not use instruments to hedge its foreign exposure in Australia because the effect of foreign exchange rate fluctuations is not material. Net assets of S1's foreign operations at December 31, 1998 were approximately $435,000 (U.S.). S1 is exposed to market risk from changes in its investment securities available for sale which consists entirely of S1's investments in BroadVision, Inc. common stock. At December 31, 1998, marketable securities of S1 were recorded at fair value of approximately $4.0 million. The investment in BroadVision, Inc. common stock held by S1 has exposure to price risk, which is estimated as the potential loss in fair value due to a hypothetical change of 10% in quoted market prices. This hypothetical change would reduce S1's investments as well as S1's unrealized gains on investment securities available for sale which are included as a component of stockholders' equity. This hypothetical change would have an immaterial effect on the recorded value of S1's investment securities available for sale. S1's only long term liabilities are capital lease obligations at a fixed rate. Therefore, S1 does not believe there is any material exposure to market risk changes in interest rates relating to the current or long term liabilities. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. See Exhibit 13.1. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. Not applicable. 27 29 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT. INFORMATION AS TO DIRECTORS AND EXECUTIVE OFFICERS The following table sets forth the names of our current directors and executive officers. Also provided is information as to each person's age at December 31, 1998, the periods during which he has served as a director of S1 and its predecessor, Security First Network Bank, and positions currently held with S1.
AGE AT DECEMBER 31, DIRECTOR EXPIRATION NAME 1998 SINCE OF TERM POSITIONS HELD WITH S1 ---- ------------ -------- ---------- ---------------------- Robert W. Copelan, D.V.M...... 72 1995 1999 Director Dorsey R. Gardner............. 56 1998 2001 Director James S. Mahan, III........... 47 1995 2000 Chairman, Chief Executive Officer, President and Director Joseph S. McCall.............. 49 1998 2001 Director Howard J. Runnion, Jr......... 69 1995 2000 Director Robert F. Stockwell........... 44 -- -- Chief Financial Officer and Treasurer Daniel H. Drechsel............ 38 -- -- President and Chief Operating Officer of S1's operating subsidiary
The following information concerns the principal occupation of each of our directors and executive officers for the past five years. The executive officers are elected by the board to serve a one-year term. Robert W. Copelan, D.V.M. has been President of Copelan & Thornbury, Inc. in Paris, Kentucky since 1959 and President of R.W. Copelan, PSC in Paris, Kentucky since 1979. Dr. Copelan is a veterinarian in private practice. From 1987 through September 1996, Dr. Copelan served on the board of directors of Cardinal Bancshares, Inc. and some of its subsidiaries. He served on the board of Security First Network Bank from 1995 until its sale in 1998. He has served as a director of S1 since May 1998. Dr. Copelan is the stepfather of James S. Mahan, III, S1's Chairman, President and Chief Executive Officer. Dorsey R. Gardner has served as a director of S1 since his appointment in June 1998. Mr. Gardner has served as general partner of Hollybank Investments, LP from 1993 to the present. Since 1980, he has served as President of Kelso Management Co., Inc., advisor to Fidelity International Limited, Integrity Fund-FM&R private capital, American Values I-IV, Fidelity American Situations Trust, Fidelity Discovery Fund, Johnson family accounts, Johnson Foundation, and Fidelity Foundation from 1980 to 1993 and adviser to Hollybank Investments, LP from 1993 to the present. Mr. Gardner has served on the board of directors of several corporations, and is currently a member of the boards of Crane Company and Filene's Basement. James S. Mahan, III served as the Chief Executive Officer and a director of Security First Network Bank from 1995 until its sale in 1998. He has served as a director of S1 since May 1998, as Chief Executive Officer and President since June 1998 and as Chairman of the Board since February 1999. He also has served as Chairman of the Board of S1's operating subsidiary since May 1996. Mr. Mahan was the Chairman of the Board and Chief Executive Officer of Cardinal Bancshares, Inc., as well as some of its subsidiaries from November 1987 until September 1996. Mr. Mahan is the stepson of director Robert W. Copelan. Joseph S. McCall has served as a director of S1 since his appointment in October 1998. In 1986, Mr. McCall founded and remains the President of McCall Consulting Group, a company that provides consulting primarily to software companies that are building software products with new technology or transitioning old products to new technology. McCall Consulting also provides direct sales and training support to enabling technology software companies that are launching products with leading edge technologies. Since 1991, Mr. McCall also has served as a director of Clarus Corp. (formerly known as SQL Financials International, Inc.), a publicly traded software company that sells web-enabled financial and 28 30 human resource application software. Mr. McCall founded SQL in 1991 and served as Chief Executive Officer until early 1998. In 1994, Mr. McCall founded Technology Ventures, LLC, which is an investment company that owns all of McCall Consulting and is the largest single shareholder of Clarus Corp. Technology Ventures serves as Mr. McCall's vehicle for investing in new companies and providing equity incentives to employees of the companies in which Technology Ventures has invested. Mr. McCall currently is a member of the boards of directors of McCall Consulting and Technology Ventures. Howard J. Runnion, Jr. was Vice Chairman of the Board and Chief Financial Officer of The Wachovia Corporation in Winston-Salem, North Carolina from December 1985 to June 1990. Since 1992, Mr. Runnion has served as a consultant and an insurance broker. Mr. Runnion was a director of Cardinal Bancshares, Inc. and some of its subsidiaries until September 1996 and a director of Security First Network Bank from 1995 until its sale in 1998. He has served as a director of S1 since May 1998. Robert F. Stockwell served as the Treasurer and Chief Financial Officer of Security First Network Bank from 1995 until its sale in 1998, and has served as Treasurer and Chief Financial Officer of S1's operating subsidiary since May 1996. He has served as Chief Financial Officer and Treasurer of S1 since June 1998. From June 1998 to November 1998, he also served as Secretary of S1. From October 1996 through September 1998, he served as Acting President of Security First Network Bank. Mr. Stockwell served as Treasurer of Cardinal Bancshares, Inc. from January 1994 to September 1996 and as a director of Jefferson Banking Company during 1994. From 1987 to 1993, Mr. Stockwell was Executive Vice President and Chief Financial Officer of Security Financial Holding Company, a thrift holding company located in Durham, North Carolina. Daniel H. Drechsel has served as President and Chief Operating Officer of Security First Technologies, Inc., S1's operating subsidiary, since June 1998. In his position as our Chief Operating Officer, Mr. Drechsel oversees the day-to-day operations of S1's operating subsidiary. Prior to joining our operating subsidiary, Mr. Drechsel served as Vice President of Marketing with Meta4 Software, S.A., a Madrid-based enterprise software company from September 1997 to June 1998. Mr. Drechsel served as General Manager of ECPartners, a joint venture between Checkfree Corporation and Automatic Data Processing, Inc.'s Electronic Services Division from 1995 to 1997. Mr. Drechsel served on the Board of Directors of InfoWave Technologies, Inc. from 1997 to 1999. Mr. Drechsel's previous experience included a variety of management positions in sales, marketing and software development at both Automatic Data Processing and Dun & Bradstreet Corporation. SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE Section 16(a) of the Securities Exchange Act of 1934 requires our directors and officers, and persons who own more than 10% of our common stock, to file with the Securities and Exchange Commission initial reports of ownership of our equity securities and to file subsequent reports when there are changes in their ownership. Based on a review of reports submitted to us, we believe that during the fiscal year ended December 31, 1998, all Section 16(a) filing requirements applicable to our directors, officers and more than 10% owners were complied with on a timely basis, other than a Form 4 that was not timely filed by Mr. Stockwell for one transaction which was reflected in a Form 5 filing. ITEM 11. EXECUTIVE COMPENSATION. EXECUTIVE AND DIRECTOR COMPENSATION The following table shows the cash compensation paid by S1 for the last three fiscal years, as well as compensation paid or accrued for those years, to the Chief Executive Officer and the one other highest paid executive officer serving at December 31, 1998, whose total annual salary and bonus for the fiscal year ended December 31, 1998, exceeded $100,000. We refer to these two officers as our named executive officers. No stock appreciation rights have been granted by S1 or its predecessor, Security First Network Bank. 29 31 SUMMARY COMPENSATION TABLE
LONG-TERM COMPENSATION AWARDS ANNUAL COMPENSATION ------------ ----------------------------------- SECURITIES NAME AND OTHER ANNUAL UNDERLYING ALL OTHER PRINCIPAL POSITION YEAR SALARY BONUS COMPENSATION(B) OPTIONS COMPENSATION(C) ------------------ ---- ------- ----- --------------- ------------ --------------- ($) ($) ($) (#) ($) James S. Mahan, III.................. 1998 200,000 -- -- -- 7,872 Chairman, Chief Executive Officer, 1997 200,000 -- 9,861 -- 9,756 President and Director 1996 87,535(a) -- 68,080 -- 3,131 Robert F. Stockwell.................. 1998 150,000 -- -- 50,000 5,950 Chief Financial Officer 1997 119,141 -- -- 20,000 6,392 and Treasurer 1996 104,962 -- 70,009 -- 2,272
- --------------- (a) During the first nine months of 1996, Mr. Mahan's annual rate of salary was $50,000. During that time, he also served as the Chairman and Chief Executive Officer of Cardinal Bancshares, Inc., which was then the parent of Security First Network Bank. (b) Other annual compensation includes car allowance and club membership for Mr. Mahan. For 1996, other annual compensation includes reimbursement of moving expenses of $56,880 for Mr. Mahan and $70,009 for Mr. Stockwell, including applicable taxes associated with these reimbursements. (c) All other compensation includes contributions to S1's 401(k) plan and insurance premiums. 401(k) contributions for 1996, 1997 and 1998 were $2,501, $2,667 and $2,666 for Mr. Mahan; and $2,002, $3,292 and $2,750 for Mr. Stockwell. Insurance premiums for 1996, 1997 and 1998 were $630, $7,089 and $5,206 for Mr. Mahan; and $270, $3,100 and $3,200 for Mr. Stockwell. Our directors do not receive any fees or other compensation for their service as directors. Directors, however, are reimbursed for travel and other expenses incurred in connection with attending meetings of our board of directors. Upon joining the board of directors in 1998, Mr. Gardner and Mr. McCall were awarded options to acquire 30,000 shares of our common stock under our 1998 Directors' Stock Option Plan. EMPLOYMENT CONTRACTS We currently do not have any employment contracts or other compensatory plans or arrangements relating to resignation, retirement or any other termination of a named executive officers' employment with S1 or our operating subsidiary or from a change in control of S1 or a change of the named executive officer's responsibilities following a change in control of S1. Unvested stock options, however, generally do vest upon a change in control, as defined. OPTION GRANTS The following table contains information concerning the grant of stock options to the named executive officers during fiscal year 1998. OPTION GRANTS IN LAST FISCAL YEAR
INDIVIDUAL GRANTS ------------------------ POTENTIAL REALIZABLE VALUE % OF TOTAL AT ASSUMED ANNUAL RATES NUMBER OPTIONS OF STOCK PRICE OF SECURITIES GRANTED TO APPRECIATION UNDERLYING EMPLOYEES EXERCISE FOR OPTION TERM OPTIONS IN FISCAL OR BASE EXPIRATION --------------------------- NAME GRANTED YEAR PRICE DATE 5% 10% ---- ------------- ------------- -------- ---------- ------------ ------------ (#) (%) ($/SHARE) Robert F. Stockwell.............. 50,000 5 6.625 1/9/09 $ 208,321 $ 527,927 Chief Financial Officer and Treasurer
30 32 1998 OPTION EXERCISES AND VALUES The following table provides information on exercises of stock options during fiscal year 1998 by the named executive officers and the value of unexercised options at the end of the year. AGGREGATED OPTION EXERCISES IN 1998 AND FISCAL YEAR-END OPTION VALUES
NUMBER OF SECURITIES UNDERLYING UNEXERCISED VALUE OF UNEXERCISED IN-THE SHARES OPTIONS AT FY-END MONEY OPTIONS AT FY-END(b) ACQUIRED ON VALUE ------------------------- --------------------------- NAME EXERCISE REALIZED(a) EXERCISABLE/UNEXERCISABLE EXERCISABLE/UNEXERCISABLE ---- ----------- ----------- ------------------------- --------------------------- (#) ($) (#) ($) James S. Mahan, III........... -- -- 696,900/232,300 $20,819,888/$6,939,963 Robert F. Stockwell........... 25,000 $253,125 34,690/88,230 $ 1,009,174/$2,254,301
- --------------- (a) Based on the market value of our common stock at date of exercise, less the exercise price. (b) Based on the closing price per share of our common stock on December 31, 1998 of $30.50 on the Nasdaq National Market, less the exercise price, of all unexercised stock options having an exercise price less than that market value. COMPENSATION COMMITTEE REPORT ON EXECUTIVE COMPENSATION Since 1996 through the corporate reorganization of Security First Network Bank in September 1998, the full board of directors of SFNB served as a compensation committee. In the fourth quarter of 1998, a separate compensation committee of the S1 board was established. The Chairman of the compensation committee is Mr. McCall and the other members are Mr. Gardner and Mr. Runnion. The compensation committee recommends to the full board of directors, which has ultimate responsibility over compensation matters. Set forth below is a report of the compensation committee addressing S1's compensation policies for fiscal year 1998 as they affected our executive officers. Compensation Policies for Executive Officers. S1's executive compensation policies are designed to provide competitive levels of compensation, to assist S1 in attracting and retaining qualified executives and to encourage superior performance. In determining levels of executive officers' overall compensation, the qualifications and experience of the persons concerned, the size of the company and the complexity of its operation, the financial condition, including revenues, the compensation paid to other persons employed by the company and the compensation paid to persons having similar duties and responsibilities in the technology industry were considered. Compensation paid to our executive officers in 1998 consisted of the following components: base salary, long-term incentives (awards of stock options) and participation in S1's other employee benefit plans. No bonuses were paid to executive officers for 1998. While each of these components has a separate purpose and may have a different relative value to the total, a significant portion of the total compensation package for 1998 for the executive officers other than the CEO is highly dependent on the public market value of S1 and total return to shareholders. S1 believes that the total cash compensation for our executive officers for 1998 was below the average for similar positions at comparable companies. Such persons, however, have significant equity interests in S1's success by virtue of stock based compensation. The compensation committee currently is re-evaluating S1's executive compensation structure, and is likely to propose significant revisions to bring our compensation closer to the compensation received by executive officers of comparable companies. No determination has been made regarding this matter and no date has been set for making this determination. Base Salary. Base salary is intended to signal the internal value of the position. In establishing the 1998 salary for each executive officer, the officer's responsibilities, qualifications and experience were considered. The base salary for one of our executive officers increased in 1998 in recognition of the responsibilities of that officer. Long-Term Incentive Compensation. S1 uses stock options to provide long-term incentive compensation. The compensation committee endorses the position that stock ownership by management is beneficial in 31 33 aligning management's and shareholders' interests in the enhancement of shareholder value. The purpose of stock option awards is to provide an opportunity for the recipients to acquire or increase a proprietary interest in S1, thereby creating a stronger incentive to expend maximum effort for the long-term growth and success of S1 and encouraging recipients to remain in the employ of S1. Officers and other full-time employees of S1 and its subsidiaries are eligible for grants under our 1995 and 1997 stock option plans. Stock options are normally granted each year with the size of the grants generally tied to and weighted approximately equally based on an officer's responsibility level and performance. During 1998, 200,000 stock options were granted to our executive officers. Other. In addition to the compensation paid to executive officers described above, executive officers received, along with and on the same terms as other employees, certain benefits such as health insurance and participation in S1's 401(k) Plan. CEO Compensation. Since the beginning of the company in 1996, the cash compensation for the Chief Executive Officer has been primarily stock based in the form of options. In 1998, the Chief Executive Officer's 1998 base salary was $200,000, which was the same as his 1997 base salary. The CEO did not receive a bonus or an award of stock options in 1998. S1 believes that total compensation for the Chief Executive Officer for 1998 was below the average for comparable companies. As noted above, the compensation committee is re-evaluating the compensation structure for all the executive officers, including the Chief Executive Officer. Internal Revenue Code Section 162(m). In 1993, the Internal Revenue Code of 1986, as amended, was amended to disallow publicly traded companies from receiving a tax deduction on compensation paid to executive officers in excess of $1 million (section 162(m) of the Code), unless, among other things, the compensation meets the requirements for performance-based compensation. Although S1 has not taken this limitation into account in the past in structuring its compensation programs and in determining executive compensation, the compensation committee expects to take the deductibility limit for compensation into consideration beginning in fiscal 1999. COMPENSATION COMMITTEE Dorsey R. Gardner Joseph S. McCall (Chairman) Howard J. Runnion, Jr. PERFORMANCE OF OUR COMMON STOCK The following table sets forth comparative information regarding the cumulative shareholder return on our common stock since May 26, 1996. Share information from May 26, 1996 to September 30, 1998 is based on the common stock of our predecessor, Security First Network Bank. Total shareholder return is measured by dividing cumulative dividends for the measurement period (assuming dividend reinvestment) plus share price change for the period by the share price at the beginning of the measurement period. Neither S1 nor Security First Network Bank has paid dividends on its common stock from May 26, 1996 to December 31, 1998. Our cumulative shareholder return over this period is based on an investment of $100 on May 26, 1996 and is compared to the cumulative total return of the Interactive Week Internet Index and the Nasdaq Composite Index. COMPARISON OF CUMULATIVE TOTAL RETURN AMONG S1, INTERACTIVE WEEK INTERNET INDEX AND NASDAQ COMPOSITE INDEX FROM MAY 26, 1996 TO DECEMBER 31, 1998
PERIOD ENDING ---------------------------------------- INDEX 5/26/96 12/31/96 12/31/97 12/31/98 ----- ------- -------- -------- -------- Security First Technologies Corporation.......... 100.00 25.00 17.68 74.39 Interactive Week Internet Index.................. 100.00 92.89 100.10 238.53 Nasdaq Composite Index........................... 100.00 106.02 128.94 177.36
32 34 COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION The Chairman of our compensation committee is Mr. McCall and the other members of the committee are Mr. Gardner and Mr. Runnion. None of the members of this committee have served as an officer or employee of S1 or its operating subsidiary. During 1998, S1 used technology consulting services from McCall Consulting Group. Mr. McCall is the president of McCall Consulting. During 1998, the total amount paid to McCall Consulting was $1.1 million. At December 31, 1998 S1 had outstanding payables to McCall Consulting Group of $282,000. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT. STOCK OWNED BY DIRECTORS AND MANAGEMENT The following table sets forth information known to us regarding the beneficial ownership of our common stock as of March 24, 1999 by each of our directors and the named executive officers and by all of our directors and executive officers as a group. Information for Mr. Michael M. McChesney, who resigned as Chairman of the Board of S1 in February 1999, is not included in this table and is set forth in the table under the caption "Principal Shareholders." At March 24, 1999, there were 12,362,267 shares of our common stock outstanding. All information as to beneficial ownership has been provided to us by the directors and executive officers, and unless otherwise indicated, each of the directors and executive officers has sole voting and investment power over all of shares that they beneficially own.
NUMBER OF SHARES PERCENT OF AND NATURE OF COMMON STOCK NAME AND POSITION(S) WITH S1 BENEFICIAL OWNERSHIP(a) OUTSTANDING ---------------------------- ----------------------- ------------ James S. Mahan, III......................................... 1,009,721(b) 7.60% Chairman, Chief Executive Officer, President and a Director Robert F. Stockwell......................................... 121,694(c) * Chief Financial Officer and Treasurer Daniel H. Drechsel.......................................... 40(d) * President and Chief Operating Officer of S1's operating subsidiary Robert W. Copelan, D.V.M.................................... 143,532(e) 1.15% Director Dorsey R. Gardner........................................... 685,100(f) 5.54% Director Joseph S. McCall............................................ 13,500(g) * Director Howard J. Runnion, Jr....................................... 110,424(h) * Director All directors and executive officers of S1 as a group (7 persons).................................... 2,084,011 15.48%
- --------------- * Less than one percent. (a) In accordance with Rule 13d-3 under the Securities Exchange Act of 1934, a person is deemed to be the beneficial owner, for purposes of this table, of any shares of common stock if that person has or shares voting power or investment power over the security, or has the right to acquire beneficial ownership at any time within 60 days from March 24, 1999. For this table, voting power includes the power to vote or direct the voting of shares and investment power includes the power to dispose or direct the disposition of shares. (b) The share ownership of Mr. Mahan includes 929,200 shares of common stock that would be issued upon the exercise of options exercisable within 60 days of March 24, 1999, 612 shares that are held directly by Mr. Mahan, 4,785 shares held in S1's 401(k) plan and 75,124 shares held by his wife. 33 35 (c) The share ownership of Mr. Stockwell includes 70,420 shares of common stock that would be issued upon the exercise of options exercisable within 60 days of March 24, 1999, 45,288 shares held jointly with his wife, 3,205 shares held in S1's 401(k) plan, 1,864 shares held in an IRA and 917 shares held by his mother in an IRA. (d) The share ownership of Mr. Drechsel includes 40 shares held in S1's 401(k) plan. (e) The share ownership of Dr. Copelan includes 92,920 shares of common stock that would be issued upon the exercise of options exercisable within 60 days of March 24, 1999, 41,936 shares that are held directly by Dr. Copelan, 7,452 shares that are held by the Robert W. Copelan D.V.M. Retirement Plan and 1,224 shares that are held by his wife. (f) The share ownership of Mr. Gardner includes 76,500 shares held directly by Mr. Gardner and 608,600 shares held by Hollybank Investments, LP, a limited partnership of which Mr. Gardner is the general partner. (g) The share ownership of Mr. McCall includes 12,500 shares held directly by Mr. McCall and 1,000 shares held by Mr. McCall in an IRA. (h) The share ownership of Mr. Runnion includes 10,424 shares of common stock that would be issued upon the exercise of options exercisable within 60 days of March 24, 1999 and 100,000 shares owned directly by Mr. Runnion. PRINCIPAL SHAREHOLDERS The following table sets forth information known to us regarding beneficial ownership of our common stock as of March 24, 1999 by each person believed by management to be the beneficial owner of more than 5% of our outstanding common stock.
NUMBER OF SHARES PERCENT OF AND NATURE OF COMMON STOCK NAME AND ADDRESS OF BENEFICIAL OWNER BENEFICIAL OWNERSHIP(a) OUTSTANDING ------------------------------------ ----------------------- ------------ Michael C. McChesney............................... 1,192,016(b) 9.29% 37 Muscogee Avenue Atlanta, GA 30305 Lord, Abbett & Co.................................. 1,018,695(c) 8.24% 767 Fifth Avenue New York, NY 10153 James S. Mahan, III................................ 1,009,721(d) 7.60% 3390 Peachtree Road, NE Suite 1700 Atlanta, GA 30326
- --------------- (a) In accordance with Rule 13d-3 under the Securities Exchange Act of 1934, a person is deemed to be the beneficial owner, for purposes of this table, of any shares of common stock if that person has or shares voting power or investment power over the security, or has the right to acquire beneficial ownership at any time within 60 days from March 24, 1999. For this table, voting power includes the power to vote or direct the voting of shares and investment power includes the power to dispose or direct the disposition of shares. (b) The share ownership of Mr. McChesney includes 464,400 shares of common stock that would be issuable upon the exercise of options exercisable within 60 days of March 24, 1999, 719,346 shares owned directly by Mr. McChesney, 590 shares held in S1's 401(k) plan and 7,680 shares held by two members of his family. Mr. McChesney served as Chairman of the Board of S1 until his resignation in February 1999. 34 36 (c) Lord, Abbett & Co. filed a Schedule 13G with the Securities and Exchange Commission dated February 12, 1999 reporting sole voting and dispositive power over the shares listed above. (d) The share ownership of Mr. Mahan includes 929,200 shares of common stock that would be issued upon the exercise of options exercisable within 60 days of March 24, 1999, 612 shares that are held directly by Mr. Mahan, 4,785 shares held in S1's 401(k) plan and 75,124 shares held by his wife. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. Prior to our 1998 sale of Security First Network Bank, the bank made loans to its directors and executive officers for the financing of their homes, as well as home improvement and consumer loans. It is the belief of management that these loans were made in the ordinary course of business, were made on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with other persons, and neither involved more than normal risk of collectability nor presented other unfavorable features. During the latter part of 1996, among its ordinary course research and development activities, the company that is now S1's operating subsidiary started a project known as "Webtone." The Webtone project was established to assess the customer care issues raised as a result of interacting with retail customers over new delivery channels and subsequently to develop software solutions to resolve these issues more efficiently. In November 1997, after the assessment phase of the project was completed at a cost of approximately $300,000, the board of directors determined not to proceed with Webtone, primarily because of the board's uncertainty about the potential profitability of the project and because of the limited resources, both capital and personnel, of the operating subsidiary. The board believes this decision is consistent with the determination to discontinue the banking business of Security First Network Bank and focus resources on the Virtual Financial Manager suite of products and related services. With the board's full knowledge and agreement, Michael M. McChesney created and funded his own company to develop Webtone. Michael McChesney resigned as the Chairman of the Board of S1 in February 1999. In undertaking these activities, Mr. McChesney and the board of directors have acknowledged that Webtone and Mr. McChesney should enter into some form of arrangement for a future business relationship. However, the parties have not determined what that arrangement should be. Since abandoning the Webtone project, S1's operating subsidiary has provided Webtone with administrative and technical services on a time and materials basis amounting to approximately $192,000 in 1998 and $80,000 in 1997. As of December 31, 1998, the operating subsidiary had a receivable from Webtone related to these services of $173,000. During 1998, S1 used technology consulting services from McCall Consulting Group. The president of McCall Consulting, Mr. Joseph S. McCall, is one of our directors. During 1998, the total amount paid to McCall Consulting was approximately $1.1 million. At December 31, 1998 S1 had outstanding payables to McCall Consulting Group of $282,000. ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K. (a) The following financial statements are filed as a part of this report and incorporated herein by reference: Security First Technologies Corporation and Subsidiary Independent Auditors' Report Consolidated Balance Sheets as of December 31, 1997 and 1998 Consolidated Statements of Operations for the years ended December 31, 1996, 1997 and 1998 Consolidated Statements of Stockholders' Equity and Comprehensive Income (Loss) for the years ended December 31, 1996, 1997 and 1998 Consolidated Statements of Cash Flows for the years ended December 31, 1996, 1997 and 1998 35 37 Notes to Consolidated Financial Statements for the years ended December 31, 1996, 1997 and 1998 Financial Statement Schedule: Schedule II -- Valuation and Qualifying Accounts and related Independent Auditors' Report The exhibits listed are filed as part of this report and incorporated herein by reference:
EXHIBIT NO. EXHIBIT DESCRIPTION - ------- ------------------- 3.1 Amended and Restated Certificate of Incorporation of Security First Technologies Corporation ("S1") (filed as Exhibit 1 to S1's Registration Statement on Form 8-A filed with the Securities and Exchange Commission (the "SEC") on September 30, 1998 and incorporated herein by reference). 3.2 Certificate of Designation for S1's Series B Redeemable Convertible Preferred Stock (filed as Exhibit 2 to S1's Registration Statement on Form 8-A filed with the SEC on September 30, 1998 and incorporated herein by reference). 3.3 Amended and Restated Bylaws of S1 (filed as Exhibit 3 to S1's Registration Statement on Form 8-A filed with the SEC on September 30, 1998 and incorporated herein by reference). 4.1 Specimen certificate for S1's common stock (filed as Exhibit 4 to S1's Registration Statement on Form 8-A filed with the SEC on September 30, 1998 and incorporated herein by reference). 4.2 Specimen certificate for S1's Series A Convertible Preferred Stock. 4.3 Specimen certificate for S1's Series B Convertible Redeemable Preferred Stock. 10.1 Second Amended and Restated Plan of Reorganization, dated as of March 9, 1998, by and among Security First Network Bank ("SFNB"), S1 and New Security First Network Bank, as amended on June 4, 1998 and September 25, 1998 (filed as Exhibit 10.2 to S1's Current Report on Form 8-K filed with the SEC on October 14, 1998 and incorporated herein by reference). 10.2 Stock Purchase Agreement, dated as of March 9, 1998, by and among Royal Bank of Canada, RBC Holdings (Delaware) Inc., SFNB and S1, as amended on June 5, 1998 (attached as Appendix C to the Proxy Statement/Prospectus that formed a part of S1's Registration Statement on Form S-4 (File No. 333-56181) filed with the SEC on June 5, 1998 and incorporated herein by reference). 10.3 Common Stock Purchase and Option Agreement, dated as of March 9, 1998, by and among SFNB, RBC Holdings (Delaware) Inc. and S1, as amended on June 5, 1998 (filed as Exhibit 2.3 to S1's Registration Statement on Form S-4 (File No. 333-56181) filed with the SEC on June 5, 1998 and incorporated herein by reference). 10.4 Stock Purchase Agreement, dated as of June 29, 1998, by and among SFNB, S1 and State Farm Mutual Automobile Insurance Company (filed as Exhibit 10.4 to Pre-Effective Amendment No. 2 to the S1's Registration Statement on Form S-4 (File No. 333-56181) filed with the SEC on August 21, 1998 and incorporated herein by reference). 10.5 Security First Network Bank, FSB Employee Stock Option Plan (filed as Exhibit 10.1 to Pre-Effective Amendment No. 2 to S1's Registration Statement on Form S-4 (File No. 333-56181) filed with the SEC on August 21, 1998 and incorporated herein by reference). 10.6 Security First Network Bank Amended and Restated Directors' Stock Option Plan (filed as Exhibit 10.2 to Pre-Effective Amendment No. 2 to S1's Registration Statement on Form S-4 (File No. 333-56181) filed with the SEC on August 21, 1998 and incorporated herein by reference). 10.7 Security First Technologies Corporation 1998 Directors' Stock Option Plan (filed as Exhibit 10.3 to Pre-Effective Amendment No. 1 to S1's Registration Statement on Form S-4 (File No. 333-56181) filed with the SEC on July 30, 1998 and incorporated herein by reference). 13.1 Financial Statements.
36 38
EXHIBIT NO. EXHIBIT DESCRIPTION - ------- ------------------- 13.2 Financial Statement Schedule and related Independent Auditors' Report. 21 Subsidiaries of S1. 27 Financial Data Schedule.
(b) A Current Report on Form 8-K (date of report September 30, 1998) was filed on October 14, 1998 reporting the sale of the banking business of Security First Network Bank, the consummation of the holding company reorganization, the sale of Series B Redeemable Convertible Preferred Stock to State Farm Mutual Automobile Insurance Company and the sale of common stock to BroadVision, Inc. 37 39 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, as of March 30, 1999. SECURITY FIRST TECHNOLOGIES CORPORATION By: /s/ JAMES S. MAHAN, III ------------------------------------ James S. Mahan, III Chief Executive Officer and President 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 indicated as of March 30, 1999.
NAME TITLE ---- ----- /s/ JAMES S. MAHAN, III Chief Executive Officer, President and - --------------------------------------------- Director (Principal Executive Officer) James S. Mahan, III /s/ ROBERT F. STOCKWELL Chief Financial Officer and Treasurer - --------------------------------------------- (Principal Financial Officer and Principal Robert F. Stockwell Accounting Officer) /s/ ROBERT W. COPELAN, D.V.M. Director - --------------------------------------------- Robert W. Copelan, D.V.M. /s/ DORSEY R. GARDNER Director - --------------------------------------------- Dorsey R. Gardner /s/ JOSEPH S. MCCALL Director - --------------------------------------------- Joseph S. McCall /s/ HOWARD J. RUNNION, JR. Director - --------------------------------------------- Howard J. Runnion, Jr.
38 40 EXHIBIT INDEX
EXHIBIT NO. EXHIBIT DESCRIPTION - ------- ------------------- 3.1 Amended and Restated Certificate of Incorporation of Security First Technologies Corporation ("S1") (filed as Exhibit 1 to S1's Registration Statement on Form 8-A filed with the Securities and Exchange Commission (the "SEC") on September 30, 1998 and incorporated herein by reference). 3.2 Certificate of Designation for S1's Series B Redeemable Convertible Preferred Stock (filed as Exhibit 2 to S1's Registration Statement on Form 8-A filed with the SEC on September 30, 1998 and incorporated herein by reference). 3.3 Amended and Restated Bylaws of S1 (filed as Exhibit 3 to S1's Registration Statement on Form 8-A filed with the SEC on September 30, 1998 and incorporated herein by reference). 4.1 Specimen certificate for S1's common stock (filed as Exhibit 4 to S1's Registration Statement on Form 8-A filed with the SEC on September 30, 1998 and incorporated herein by reference). 4.2 Specimen certificate for S1's Series A Convertible Preferred Stock. 4.3 Specimen certificate for S1's Series B Convertible Redeemable Preferred Stock. 10.1 Second Amended and Restated Plan of Reorganization, dated as of March 9, 1998, by and among Security First Network Bank ("SFNB"), S1 and New Security First Network Bank, as amended on June 4, 1998 and September 25, 1998 (filed as Exhibit 10.2 to S1's Current Report on Form 8-K filed with the SEC on October 14, 1998 and incorporated herein by reference). 10.2 Stock Purchase Agreement, dated as of March 9, 1998, by and among Royal Bank of Canada, RBC Holdings (Delaware) Inc., SFNB and S1, as amended on June 5, 1998 (attached as Appendix C to the Proxy Statement/Prospectus that formed a part of S1's Registration Statement on Form S-4 (File No. 333-56181) filed with the SEC on June 5, 1998 and incorporated herein by reference). 10.3 Common Stock Purchase and Option Agreement, dated as of March 9, 1998, by and among SFNB, RBC Holdings (Delaware) Inc. and S1, as amended on June 5, 1998 (filed as Exhibit 2.3 to S1's Registration Statement on Form S-4 (File No. 333-56181) filed with the SEC on June 5, 1998 and incorporated herein by reference). 10.4 Stock Purchase Agreement, dated as of June 29, 1998, by and among SFNB, S1 and State Farm Mutual Automobile Insurance Company (filed as Exhibit 10.4 to Pre-Effective Amendment No. 2 to the S1's Registration Statement on Form S-4 (File No. 333-56181) filed with the SEC on August 21, 1998 and incorporated herein by reference). 10.5 Security First Network Bank, FSB Employee Stock Option Plan (filed as Exhibit 10.1 to Pre-Effective Amendment No. 2 to S1's Registration Statement on Form S-4 (File No. 333-56181) filed with the SEC on August 21, 1998 and incorporated herein by reference). 10.6 Security First Network Bank Amended and Restated Directors' Stock Option Plan (filed as Exhibit 10.2 to Pre-Effective Amendment No. 2 to S1's Registration Statement on Form S-4 (File No. 333-56181) filed with the SEC on August 21, 1998 and incorporated herein by reference). 10.7 Security First Technologies Corporation 1998 Directors' Stock Option Plan (filed as Exhibit 10.3 to Pre-Effective Amendment No. 1 to S1's Registration Statement on Form S-4 (File No. 333-56181) filed with the SEC on July 30, 1998 and incorporated herein by reference). 13.1 Financial Statements. 13.2 Financial Statement Schedule and related Independent Auditors' Report. 21 Subsidiaries of S1. 27 Financial Data Schedule.
EX-4.2 2 SPECIMEN CERTIFICATE FOR S1'S SERIES A 1 EXHIBIT 4.2 SERIES A PREFERRED SERIES A PREFERRED NUMBER [LOGO APPEARS HERE] SHARES ------------------ ------------------ SFPA-
SECURITY FIRST TECHNOLOGIES CORPORATION SEE REVERSE SIDE FOR CERTAIN LEGENDS INCORPORATED UNDER THE LAWS OF THE STATE OF DELAWARE
This Certifies that is the owner of FULLY PAID AND NONASSESSABLE SHARES OF SERIES A CONVERTIBLE PREFERRED STOCK, PAR VALUE $0.01 PER SHARE, OF Security First Technologies Corporation (the "Corporation"), a Delaware corporation with its principal executive office located in Atlanta, Georgia. The shares represented by this certificate are transferable only on the stock transfer books of the Corporation by the holder of record hereof, or by his or her duly authorized attorney or legal representative, upon the surrender of this certificate properly endorsed. This certificate is not valid unless countersigned and registered by the Transfer Agent and Registrar. IN WITNESS WHEREOF, the Corporation has caused this certificate to be executed by the signature of its duly authorized officers and has caused its corporate seal to be hereunto affixed. Dated: SECURITY FIRST TECHNOLOGIES CORPORATION [SEAL APPEARS HERE] By: - ------------------------------ ------------------------------ SECRETARY PRESIDENT COUNTERSIGNED AND REGISTERED: TRANSFER AGENT AND REGISTRAR AUTHORIZED SIGNATURE 2 SECURITY FIRST TECHNOLOGIES CORPORATION The shares represented by this certificate are issued subject to all the provisions of the certificate of incorporation and bylaws of Security First Technologies Corporation (the "Corporation") as from time to time amended (copies of which are on file at the principal executive office of the Corporation), to all of which the holder by acceptance hereof assents. The Corporation is authorized to issue more than one class or series of stock. The Corporation will furnish to any shareholder, upon request and without charge, a full statement of the powers, designations, preferences and relative, participating, optional, or other special rights of each authorized class of stock or series thereof and the qualifications, limitations or restrictions of such preferences and/or rights, to the extent that the same have been fixed, and of the authority of the board of directors to designate the same with respect to other series. Such request may be made to the Corporation at its principal executive office. The following abbreviations, when used in the inscription on the face of this certificate, shall be construed as though they were written out in full according to applicable laws or regulations: TEN COM - as tenants in common UNIF GIFT MIN ACT- ---------Custodian --------- TEN ENT - as tenants by the entireties (Cust) (Minor) JT TEN - as joint tenants with right under Uniform Gifts to Minors of survivorship and not as Act ------------------ tenants in common (State)
Additional abbreviations may also be used though not in the above list. For value received, --------------------- hereby sell, assign and transfer unto PLEASE INSERT SOCIAL SECURITY OR OTHER IDENTIFYING NUMBER OF ASSIGNEE ------------------------------------ - -------------------------------------------------------------------------------- (PLEASE PRINT OR TYPE NAME AND ADDRESS, INCLUDING POSTAL CODE, OF ASSIGNEE) - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - ------------------------------------ shares represented by the within certificate, and do hereby irrevocably constitute and appoint - ------------------------------------ Attorney to transfer the said shares on the books of the Corporation with full power of substitution in the premises. Dated - ------------------------------------ --------------------------------------------------- NOTICE: THE SIGNATURE TO THIS ASSIGNMENT MUST CORRESPOND WITH THE NAME AS WRITTEN UPON THE FACE OF THE CERTIFICATE IN EVERY PARTICULAR, WITHOUT ALTERATION OR ENLARGEMENT OR ANY CHANGE WHATEVER. SIGNATURE(S) GUARANTEED: THE SIGNATURE(S) SHOULD BE GUARANTEED BY AN ELIGIBLE GUARANTOR INSTITUTION (BANKS, STOCKBROKERS, SAVINGS AND LOAN ASSOCIATIONS AND CREDIT UNIONS WITH MEMBERSHIP IN AN APPROVED SIGNATURE GUARANTEE MEDALLION PROGRAM), PURSUANT TO S.E.C. RULE 17Ad-15.
EX-4.3 3 SPECIMEN CERTIFICATE FOR S1'S SERIES B 1 EXHIBIT 4.3 SERIES B PREFERRED SERIES B PREFERRED NUMBER [LOGO APPEARS HERE] SHARES --------------------- --------------------- SFPB-
SECURITY FIRST TECHNOLOGIES CORPORATION SEE REVERSE SIDE FOR CERTAIN LEGENDS INCORPORATED UNDER THE LAWS OF THE STATE OF DELAWARE
This Certifies that is the owner of FULLY PAID AND NONASSESSABLE SHARES OF SERIES B REDEEMABLE CONVERTIBLE PREFERRED STOCK, PAR VALUE $0.01 PER SHARE, OF Security First Technologies Corporation (the "Corporation"), a Delaware corporation with its principal executive office located in Atlanta, Georgia. The shares represented by this certificate are transferable only on the stock transfer books of the Corporation by the holder of record hereof, or by his or her duly authorized attorney or legal representative, upon the surrender of this certificate properly endorsed. This certificate is not valid unless countersigned and registered by the Transfer Agent and Registrar. IN WITNESS WHEREOF, the Corporation has caused this certificate to be executed by the signature of its duly authorized officers and has caused its corporate seal to be hereunto affixed. Dated: SECURITY FIRST TECHNOLOGIES CORPORATION [SEAL APPEARS HERE] By: - ------------------------------ ------------------------------ SECRETARY PRESIDENT COUNTERSIGNED AND REGISTERED: TRANSFER AGENT AND REGISTRAR AUTHORIZED SIGNATURE 2 SECURITY FIRST TECHNOLOGIES CORPORATION The shares represented by this certificate are issued subject to all the provisions of the certificate of incorporation and bylaws of Security First Technologies Corporation (the "Corporation") as from time to time amended (copies of which are on file at the principal executive office of the Corporation), to all of which the holder by acceptance hereof assents. The Corporation is authorized to issue more than one class or series of stock. The Corporation will furnish to any shareholder, upon request and without charge, a full statement of the powers, designations, preferences and relative, participating, optional, or other special rights of each authorized class of stock or series thereof and the qualifications, limitations or restrictions of such preferences and/or rights, to the extent that the same have been fixed, and of the authority of the board of directors to designate the same with respect to other series. Such request may be made to the Corporation at its principal executive office. The following abbreviations, when used in the inscription on the face of this certificate, shall be construed as though they were written out in full according to applicable laws or regulations: TEN COM - as tenants in common UNIF GIFT MIN ACT- ---------Custodian --------- TEN ENT - as tenants by the entireties (Cust) (Minor) JT TEN - as joint tenants with right under Uniform Gifts to Minors of survivorship and not as Act ------------------ tenants in common (State)
Additional abbreviations may also be used though not in the above list. For value received, -------------------- hereby sell, assign and transfer unto PLEASE INSERT SOCIAL SECURITY OR OTHER IDENTIFYING NUMBER OF ASSIGNEE ------------------------------------ - -------------------------------------------------------------------------------- (PLEASE PRINT OR TYPE NAME AND ADDRESS, INCLUDING POSTAL CODE, OF ASSIGNEE) - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - ------------------------------------ shares represented by the within certificate, and do hereby irrevocably constitute and appoint - ------------------------------------ Attorney to transfer the said shares on the books of the Corporation with full power of substitution in the premises. Dated - ------------------------------------ --------------------------------------------------- NOTICE: THE SIGNATURE TO THIS ASSIGNMENT MUST CORRESPOND WITH THE NAME AS WRITTEN UPON THE FACE OF THE CERTIFICATE IN EVERY PARTICULAR, WITHOUT ALTERATION OR ENLARGEMENT OR ANY CHANGE WHATEVER. SIGNATURE(S) GUARANTEED: THE SIGNATURE(S) SHOULD BE GUARANTEED BY AN ELIGIBLE GUARANTOR INSTITUTION (BANKS, STOCKBROKERS, SAVINGS AND LOAN ASSOCIATIONS AND CREDIT UNIONS WITH MEMBERSHIP IN AN APPROVED SIGNATURE GUARANTEE MEDALLION PROGRAM), PURSUANT TO S.E.C. RULE 17Ad-15.
EX-13.1 4 FINANCIAL STATEMENTS 1 EXHIBIT 13.1 SECURITY FIRST TECHNOLOGIES CORPORATION INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
PAGE ---- SECURITY FIRST TECHNOLOGIES CORPORATION Independent Auditors' Report................................ F-2 Consolidated Balance Sheets as of December 31, 1997 and 1998...................................................... F-3 Consolidated Statements of Operations for the years ended December 31, 1996, 1997 and 1998.......................... F-4 Consolidated Statements of Stockholders' Equity and Comprehensive Income (Loss) for the years ended December 31, 1996, 1997 and 1998................................... F-5 Consolidated Statements of Cash Flows for the years ended December 31, 1996, 1997 and 1998.......................... F-7 Notes to Consolidated Financial Statements for the years ended December 31, 1996, 1997 and 1998.................................................. F-8
F-1 2 INDEPENDENT AUDITORS' REPORT The Board of Directors Security First Technologies Corporation: We have audited the accompanying consolidated balance sheets of Security First Technologies Corporation and subsidiary as of December 31, 1997 and 1998, and the related consolidated statements of operations, stockholders' equity and comprehensive income (loss), and cash flows for each of the years in the three year period ended December 31, 1998. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Security First Technologies Corporation and subsidiary as of December 31, 1997 and 1998, and the results of their operations and their cash flows for each of the years in the three year period ended December 31, 1998 in conformity with generally accepted accounting principles. KPMG LLP Atlanta, Georgia February 4, 1999 F-2 3 SECURITY FIRST TECHNOLOGIES CORPORATION AND SUBSIDIARY CONSOLIDATED BALANCE SHEETS
DECEMBER 31, ------------------- 1997 1998 -------- -------- (IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) ASSETS Current assets: Cash and cash equivalents................................... $ 3,137 $ 14,504 Investment securities available for sale (cost of $16,759 at December 31, 1997 and $1,800 at December 31, 1998, respectively) (note 4).................................... 16,814 3,936 Accounts receivable, net of allowance for doubtful accounts of $257 at December 31, 1997 and $415 at December 31, 1998...................................................... 4,633 17,520 Other current assets........................................ 531 1,310 -------- -------- Total current assets...................................... 25,115 37,270 Premises and equipment, net (note 5)........................ 5,797 5,355 Intangible assets, net (note 1)............................. 4,622 2,914 Other assets.............................................. 658 2,754 -------- -------- Total assets.............................................. $ 36,192 $ 48,293 ======== ======== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable............................................ $ 486 $ 3,232 Accrued expenses............................................ 1,550 4,386 Deferred revenues........................................... 6,659 10,378 Current portion of capital lease obligation (note 8)........ -- 875 -------- -------- Total current liabilities................................. 8,695 18,871 Deferred revenues........................................... 2,357 12,034 Capital lease obligation, excluding current portion (note 8)........................................................ -- 159 -------- -------- Total liabilities......................................... 11,052 31,064 -------- -------- Stockholders' equity (notes 6 and 9): Preferred stock, $0.01 par value. Authorized 5,000,000 shares.................................................... 2,679 11,911 Common stock, $0.01 par value. Authorized 60,000,000 shares. Issued and outstanding 10,487,245 and 12,263,502 shares at December 31, 1997 and 1998, respectively.................. 105 123 Additional paid-in capital.................................. 74,487 86,933 Accumulated deficit......................................... (52,035) (82,840) Accumulated other comprehensive income: Net unrealized gains on investment securities available for sale, net of taxes................................. 55 1,325 Cumulative foreign currency translation adjustment........ (151) (223) -------- -------- Total stockholders' equity................................ 25,140 17,229 -------- -------- Commitments (notes 8 and 10) Total liabilities and stockholders' equity................ $ 36,192 $ 48,293 ======== ========
See accompanying notes to consolidated financial statements. F-3 4 SECURITY FIRST TECHNOLOGIES CORPORATION AND SUBSIDIARY CONSOLIDATED STATEMENTS OF OPERATIONS
YEAR ENDED DECEMBER 31, ------------------------------------------------- 1996 1997 1998 -------------- -------------- --------------- (IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) Revenues (note 11): Software licenses......................................... $ 512 $ 4,142 $ 4,781 Professional services..................................... 699 6,277 16,218 Data center............................................... 56 411 3,181 ---------- ---------- ----------- Total revenues.......................................... 1,267 10,830 24,180 ---------- ---------- ----------- Direct costs: Software licenses......................................... 796 1,605 503 Professional services..................................... 535 5,346 10,527 Data center............................................... 2,266 6,947 7,218 ---------- ---------- ----------- Total direct costs...................................... 3,597 13,898 18,248 ---------- ---------- ----------- Gross margin.............................................. (2,330) (3,068) 5,932 Operating expenses: Selling and marketing..................................... 2,154 4,305 4,723 Product development....................................... 4,048 10,507 14,625 General and administrative................................ 3,635 4,637 5,994 Depreciation and amortization............................. 256 1,741 5,347 Amortization of goodwill and acquisition charges.......... 7,072 4,525 4,384 ---------- ---------- ----------- Total operating expenses................................ 17,165 25,715 35,073 ---------- ---------- ----------- Operating loss............................................ (19,495) (28,783) (29,141) Interest income........................................... 1,672 1,481 583 ---------- ---------- ----------- Loss from continuing operations........................... (17,823) (27,302) (28,558) Discontinued operations (note 2): Loss from operations...................................... (4,236) (689) (3,059) Gain on sale.............................................. -- -- 812 ---------- ---------- ----------- Loss from discontinued operations......................... (4,236) (689) (2,247) ---------- ---------- ----------- Net loss................................................ $ (22,059) $ (27,991) $ (30,805) ========== ========== =========== Basic and diluted net loss per common share from continuing operations................................... $ (3.03) $ (3.06) $ (2.59) Basic and diluted net loss per common share from discontinued operations................................. $ (0.73) $ (0.08) $ (0.21) ---------- ---------- ----------- Basic and diluted net loss per common share............... $ (3.76) $ (3.14) $ (2.80) ========== ========== =========== Weighted average number of shares of common stock outstanding............................................. 5,874,000 8,922,762 11,018,326 ========== ========== ===========
See accompanying notes to consolidated financial statements. F-4 5 SECURITY FIRST TECHNOLOGIES CORPORATION AND SUBSIDIARY CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY AND COMPREHENSIVE INCOME (LOSS) FOR THE YEARS ENDED DECEMBER 31, 1996, 1997, AND 1998 (IN THOUSANDS, EXCEPT SHARE DATA)
CONVERTIBLE PREFERRED STOCK -------------------------------------- RETAINED SERIES A SERIES B COMMON STOCK ADDITIONAL EARNINGS/ ------------------ ----------------- ------------------- PAID-IN (ACCUMULATED SHARES AMOUNT SHARES AMOUNT SHARES AMOUNT CAPITAL DEFICIT) --------- ------ ------- ------- ---------- ------ ---------- ------------ Balance at December 31, 1995..... -- $ -- -- $ -- 2,400,000 $ 24 $ 2,328 $ 1,015 Net loss....................... -- -- -- -- -- -- -- (22,059) Cash dividend declared......... -- -- -- -- -- -- -- (3,000) Change in net unrealized gains on investment securities available for sale........... -- -- -- -- -- -- -- -- Proceeds from preferred and common stock offering, net of expenses..................... 1,637,832 2,047 -- -- 3,772,792 38 56,783 -- Issuance of common stock in acquisition.................. -- -- -- -- 1,920,000 19 2,381 -- Common stock issued upon exercise of stock options.... -- -- -- -- 167,231 2 206 -- Stock option compensation...... -- -- -- -- -- -- 946 -- Comprehensive income (loss).... --------- ------ ------- ------- ---------- ---- ------- -------- Balance at December 31, 1996..... 1,637,832 $2,047 -- $ -- 8,260,023 $ 83 $62,644 $(24,044) Net loss....................... -- -- -- -- -- -- -- (27,991) Change in net unrealized gains on investment securities available for sale........... -- -- -- -- -- -- -- -- Conversion of preferred stock to common stock.............. (546,700) (683) -- -- 546,700 5 678 -- Proceeds from issuance of preferred and common stock, net of expenses.............. 159,952 1,315 -- -- 569,978 6 4,670 -- Issuance of common stock in acquisition.................. -- -- -- -- 1,000,000 10 5,691 -- Common stock issued upon the exercise of stock options.... -- -- -- -- 110,544 1 148 -- Stock option compensation...... -- -- -- -- -- -- 656 -- Cumulative foreign currency translation adjustment....... -- -- -- -- -- -- -- -- Comprehensive income (loss).... --------- ------ ------- ------- ---------- ---- ------- -------- Balance at December 31, 1997..... 1,251,084 $2,679 -- $ -- 10,487,245 $105 $74,487 $(52,035) ACCUMULATED OTHER TOTAL COMPREHENSIVE STOCKHOLDERS' COMPREHENSIVE INCOME EQUITY INCOME ------------- ------------- ------------- Balance at December 31, 1995..... $ 30 $ 3,397 Net loss....................... -- (22,059) $(22,059) Cash dividend declared......... -- (3,000) Change in net unrealized gains on investment securities available for sale........... 99 99 99 Proceeds from preferred and common stock offering, net of expenses..................... -- 58,868 Issuance of common stock in acquisition.................. -- 2,400 Common stock issued upon exercise of stock options.... -- 208 Stock option compensation...... -- 946 -------- Comprehensive income (loss).... $(21,960) ------ -------- -------- Balance at December 31, 1996..... $ 129 $ 40,859 Net loss....................... -- (27,991) (27,991) Change in net unrealized gains on investment securities available for sale........... (74) (74) (74) Conversion of preferred stock to common stock.............. -- -- Proceeds from issuance of preferred and common stock, net of expenses.............. -- 5,991 Issuance of common stock in acquisition.................. -- 5,701 Common stock issued upon the exercise of stock options.... -- 149 Stock option compensation...... -- 656 Cumulative foreign currency translation adjustment....... (151) (151) (151) -------- Comprehensive income (loss).... $(28,216) ------ -------- -------- Balance at December 31, 1997..... $ (96) $ 25,140
F-5 6 SECURITY FIRST TECHNOLOGIES CORPORATION AND SUBSIDIARY CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY AND COMPREHENSIVE INCOME (LOSS) -- (CONTINUED)
CONVERTIBLE PREFERRED STOCK -------------------------------------- RETAINED SERIES A SERIES B COMMON STOCK ADDITIONAL EARNINGS/ ------------------ ----------------- ------------------- PAID-IN (ACCUMULATED SHARES AMOUNT SHARES AMOUNT SHARES AMOUNT CAPITAL DEFICIT) --------- ------ ------- ------- ---------- ------ ---------- ------------ Net loss......................... -- -- -- -- -- -- -- (30,805) Change in net unrealized gains on investment securities available for sale....................... -- -- -- -- -- -- -- -- Conversion of preferred stock to common stock................... (614,620) (768) -- -- 614,620 6 762 -- Sale of common stock, net of expenses....................... -- -- -- -- 92,593 1 969 -- Sale of preferred stock.......... -- -- 749,064 10,000 -- -- -- -- Common stock issued upon the exercise of stock options...... -- -- -- -- 757,732 8 4,831 -- Stock option compensation........ -- -- -- -- -- -- 787 -- Issuance of options to acquire common and preferred stock..... -- -- -- -- -- -- 1,300 -- Issuance of common stock in exchange for purchased technology..................... -- -- -- -- 181,610 2 1,998 -- Issuance of common stock in exchange for marketable equity securities..................... -- -- -- -- 129,702 1 1,799 -- Cumulative foreign currency translation adjustment......... -- -- -- -- -- -- -- -- Comprehensive income (loss)...... --------- ------ ------- ------- ---------- ---- ------- -------- Balance at December 31, 1998..... 636,464 $1,911 749,064 $10,000 12,263,502 $123 $86,933 $(82,840) ========= ====== ======= ======= ========== ==== ======= ======== ACCUMULATED OTHER TOTAL COMPREHENSIVE STOCKHOLDERS' COMPREHENSIVE INCOME EQUITY INCOME ------------- ------------- ------------- Net loss......................... -- (30,805) (30,805) Change in net unrealized gains on investment securities available for sale....................... 1,270 1,270 1,270 Conversion of preferred stock to common stock................... -- -- Sale of common stock, net of expenses....................... -- 970 Sale of preferred stock.......... -- 10,000 Common stock issued upon the exercise of stock options...... -- 4,839 Stock option compensation........ -- 787 Issuance of options to acquire common and preferred stock..... -- 1,300 Issuance of common stock in exchange for purchased technology..................... -- 2,000 Issuance of common stock in exchange for marketable equity securities..................... -- 1,800 Cumulative foreign currency translation adjustment......... (72) (72) (72) -------- Comprehensive income (loss)...... $(29,607) ------ -------- ======== Balance at December 31, 1998..... $1,102 $ 17,229 ====== ========
See accompanying notes to consolidated financial statements. F-6 7 SECURITY FIRST TECHNOLOGIES CORPORATION AND SUBSIDIARY CONSOLIDATED STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31, ------------------------------ 1996 1997 1998 -------- -------- -------- (IN THOUSANDS) Cash flows from operating activities: Net loss.................................................... $(22,059) $(27,991) $(30,805) Adjustments to reconcile net loss to net cash used in operating activities: Loss from discontinued operations........................... 4,236 689 3,059 Gain on sale of discontinued operations..................... -- -- (812) Depreciation and amortization including acquisition charges................................................... 1,471 4,996 9,958 Write-down of purchased technology.......................... -- 1,400 -- Charge for in-process research and development.............. 6,800 -- -- Compensation expense for stock options...................... 946 656 1,592 Provision for doubtful accounts receivable.................. -- 257 871 Increase in accounts receivable............................. (1,216) (3,252) (14,213) Decrease (increase) in other assets......................... 880 (807) 110 (Decrease) increase in accounts payable..................... (2,423) (1,920) 2,746 Increase (decrease) in accrued expenses..................... 674 (6) 2,194 Increase in deferred revenue................................ 1,607 7,409 13,396 -------- -------- -------- Net cash used in continuing operations.................... (9,084) (18,569) (11,904) Net cash (used in) provided by discontinued operations...... (5,895) 3,213 3,310 -------- -------- -------- (14,979) (15,356) (8,594) -------- -------- -------- Cash flows from investing activities: Sale of banking operations.................................. -- -- 1,500 Business acquisitions, net of cash and cash equivalents acquired.................................................. (4,876) -- -- Purchases of investment securities available for sale....... (58,330) (8,736) -- Sales of investment securities available for sale........... 8,956 14,979 1,983 Maturities of investment securities available for sale...... 19,000 5,000 8,000 Purchases of premises and equipment......................... (5,435) (2,861) (4,097) -------- -------- -------- Net cash (used in) provided by investing activities....... (40,685) 8,382 7,386 -------- -------- -------- Cash flows from financing activities: Sale of preferred stock..................................... 2,047 1,315 10,000 Sale of common stock, net of expenses....................... 56,821 4,676 970 Proceeds from exercise of stock options..................... 208 149 3,634 Dividends paid.............................................. (3,000) -- -- Payments on capital lease obligations....................... -- -- (1,070) -------- -------- -------- Net cash provided by financing activities................. 56,076 6,140 13,534 -------- -------- -------- Effect of exchange rate changes on cash and cash equivalents............................................... -- (151) (208) Cash held in escrow, included in other assets............... -- -- (751) -------- -------- -------- Net increase (decrease) in cash and cash equivalents........ 412 (985) 11,367 Cash and cash equivalents at beginning of period............ 3,710 4,122 3,137 -------- -------- -------- Cash and cash equivalents at end of period.................. $ 4,122 $ 3,137 $ 14,504 ======== ======== ======== Noncash financing and investing activities: Issuance of common stock for purchased technology........... -- -- 2,000 Issuance of common stock in exchange for marketable equity securities................................................ -- -- 1,800 Capital lease obligations................................... -- -- 2,026 Conversion of preferred stock to common stock............... -- 683 768 Acquisition of businesses through issuance of common stock..................................................... 2,400 5,701 -- Investment securities transferred (from) to banking operations................................................ (1,659) 3,902 5,557
See accompanying notes to consolidated financial statements. F-7 8 SECURITY FIRST TECHNOLOGIES CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1996, 1997 AND 1998 1. BUSINESS, PRESENTATION, AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Business and Presentation Security First Technologies Corporation, through its wholly-owned subsidiary Security First Technologies, Inc. (collectively, "S1" or the "Company"), develops integrated internet software applications that enable financial service companies to offer products, services and transactions over the internet in a secure environment. S1 also offers product integration, training and data center processing services. S1 operates in three business segments, Professional Services, Data Center and Product Development. The Professional Services segment provides integration, training, consulting and product enhancement services related to S1's software products. The Product Development segment creates new products to supplement the existing product suite. The Data Center segment provides processing and support services to the customers using S1's software products in the S1 data center. S1 manages the business based on these operating segments. The information presented in the consolidated statements of operations reflects the revenues and costs associated with these segments that management uses to make operating decisions and assess performance. The consolidated financial statements include the accounts of Security First Technologies Corporation and its wholly owned subsidiary, Security First Technologies, Inc. Significant intercompany accounts and transactions have been eliminated in consolidation. In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent liabilities as of the date of the consolidated balance sheets and revenues and expenses during the reporting periods. Actual results could differ from those estimates. Security First Technologies Corporation is the successor company to Security First Network Bank ("SFNB") as a result of the reorganization completed on September 30, 1998. The reorganization has been accounted for in a manner similar to a pooling of interests and, as a result, the historical financial statements of SFNB have become the historical financial statements of the Company. As more fully discussed in note 2, the Company sold its banking operations, which have been presented as discontinued operations in the accompanying consolidated financial statements. The technology market for internet related financial services is characterized by significant risk as a result of rapid, evolving industry standards, emerging competition and frequent new product and service introductions. To a great extent, the Company's success is dependent on the evolution of the technology markets for internet related banking services and on its successful implementation of technology for internet related banking services for certain large customers. Negative developments related to technology for internet related banking services or problems in implementations for large customers could have an adverse impact on the Company's financial position and results of operations. Revenue Recognition and Deferred Revenues The Company derives revenues from licensing software to customers, providing professional services to customers, and providing data center processing services to customers. The Company recognizes revenue from software licensing agreements in accordance with Statement of Position No. 97-2, "Software Revenue Recognition." A substantial portion of the Company's software license revenue is being recognized on a straight-line basis over either the term of the agreement or, for contracts without a term, the estimated useful life of the Company's software products, because of the Company's practice of bundling post-contract support with its license agreements. If the software license fees are included with other services which are essential to the functionality of the software, the Company uses the percentage of completion method to recognize software license revenue. F-8 9 SECURITY FIRST TECHNOLOGIES CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Revenues derived from contracts to provide services on a time and materials basis are recognized as the related services are performed. Revenues from professional services, provided on a fixed fee basis, are recognized using the percentage of completion method, measured by the percentage of contract costs incurred to date to estimated total contract costs for each contract. Provisions for estimated losses on uncompleted contracts are made in the period in which such losses are determined. Professional services revenues also include reimbursable expenses and computer equipment sales. Data center processing revenues are recognized as the services are performed, and are determined based on the number of billable customer accounts processed during the period or based upon certain agreed upon contractual minimum fees. Deferred revenues represent payments received from customers for software licenses or services in advance of revenue recognition. Cash and Cash Equivalents For purposes of reporting cash flows, cash and cash equivalents include deposits with commercial banks with original maturities of 90 days or less. Investment Securities The Company accounts for investment securities in accordance with Statement of Financial Accounting Standards ("SFAS") No. 115, "Accounting for Certain Investments in Debt and Equity Securities". Under SFAS No. 115, investments in equity and debt securities are classified as held to maturity, trading or available for sale. Trading securities are reported at fair value, with changes in fair value included in the statement of operations, while available-for-sale securities are reported at fair value, with net unrealized gains or losses included as a component of stockholders' equity. Held to maturity securities are reported at amortized cost. Unrealized losses on all securities that are other than temporary are reported in the statement of operations upon determination that the loss is other than temporary. Amortization of premiums and accretion of discounts are computed using the effective interest method and assumed prepayment speeds. The specific identification method is used in determining gains and losses on the sale of securities. Investment securities include marketable equity securities, U.S. Treasury bills and debt securities of certain other U.S. government agencies with original maturities of greater than 90 days and ranging up to five years. Premises and Equipment Premises and equipment are carried at cost, less accumulated depreciation and amortization. Depreciation and amortization are computed using straight-line and accelerated methods over the estimated useful lives of the related assets ranging from 2 to 5 years. Leasehold improvements are amortized using the straight-line method over the estimated useful life of the improvement or the lease term, whichever is shorter. Amortization of assets held under capital lease arrangements is included in depreciation and amortization. Product Development Product development includes all research and development expenses and software development costs. All research and development expenses are expensed as incurred. The Company's policy is to expense all software development costs associated with establishing technological feasibility, which the Company defines as completion of beta testing. Because of the insignificant amount of costs incurred by the Company between completion of beta testing and customer release, the Company has not capitalized any such software development costs in the accompanying consolidated financial statements. F-9 10 SECURITY FIRST TECHNOLOGIES CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Intangible Assets Intangible assets includes purchased technology of $3.1 million at December 31, 1998 and goodwill and other identifiable intangible assets of $6.0 million at December 31, 1997 and 1998. Goodwill and other identifiable intangible assets relate to the Company's acquisitions and are amortized over their estimated useful lives (ranging from eight months to three years) using the straight-line method. Purchased technology represents technology incorporated in the Company's products and is amortized over the greater of the useful life of the purchased technology (ranging from two to three years) or the ratio of current revenues to anticipated total revenues. Accumulated amortization of intangible assets was $1.4 million and $6.2 million at December 31, 1997 and 1998, respectively. The Company evaluates the recoverability of intangible assets at the end of each period by comparing their carrying value to the undiscounted estimated future net operating cash flows expected to be derived from such assets. If such evaluation indicates a potential impairment, the Company uses fair value in determining the amount of these intangible assets that should be written off. Stock Option Plans The Company accounts for its stock option plans in accordance with the provisions of Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued to Employees", and related interpretations. As such, compensation expense is recorded on the date of grant only if the current market price of the underlying stock exceeded the exercise price. In 1996, the Company adopted SFAS No. 123, "Accounting for Stock-Based Compensation", which encourages entities to recognize as expense over the vesting period the fair value of all stock-based awards on the date of grant. Alternatively, SFAS No. 123 also allows entities to continue to apply the provisions of APB Opinion No. 25 and provide pro forma disclosures for employee stock option grants made in 1995 and future years as if the fair-value-based method defined in SFAS No. 123 had been applied. The Company has elected to continue to apply the provisions of APB Opinion No. 25 and provide the pro forma disclosures required by SFAS No. 123. Earnings Per Common Share Basic earnings per share is calculated as income available to common stockholders divided by the weighted average number of common shares outstanding during the period. Diluted earnings per share is calculated to reflect the potential dilution that would occur if stock options or other contracts to issue common stock were exercised and resulted in additional common stock that would share in the earnings of the Company. Because of the Company's net losses, the issuance of additional shares of common stock under stock options or upon the conversion of preferred stock would be antidilutive. The total number of common shares that would have been included in the Company's computation of diluted earnings per share if they had been dilutive was 10,159,355 in 1996, 12,468,278 in 1997 and 15,718,256 in 1998. Income Taxes The Company accounts for income taxes in accordance with the asset and liability method of accounting for income taxes. Under the asset and liability method, deferred income tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and net operating loss and tax credit carryforwards. Deferred income tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred income tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. F-10 11 SECURITY FIRST TECHNOLOGIES CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Fair Values of Financial Instruments The Company uses financial instruments in the normal course of its business. The carrying values of accounts receivable, accounts payable, accrued expenses, and deferred revenues approximate fair value due to the short-term maturities of these assets and liabilities. The fair values of the Company's investment securities available for sale are included in Note 4 and are based on quoted market prices. In addition, the carrying amount of the capital lease obligation approximates fair value. Foreign Currency Translation Foreign currency financial statements of the Company's Australian operations are translated into U.S. dollars at current exchange rates, except for revenues, costs and expenses, which are translated at average exchange rates during each reporting period. Net exchange gains or losses resulting from the translation of assets and liabilities are accumulated in a separate section of stockholders' equity titled accumulated other comprehensive income. Reclassifications Certain reclassifications have been made to the 1996 and 1997 consolidated financial statements to conform to the presentation adopted in 1998. New Accounting Pronouncements In June 1997, the Financial Accounting Standards Board issued SFAS No. 130, "Reporting Comprehensive Income". This statement establishes standards for reporting and display of comprehensive income and its components in a full set of general purpose financial statements. SFAS No. 130 requires all items that are recognized under accounting standards as components of comprehensive income be reported in a financial statement that is displayed in equal prominence with the other annual financial statements. Currently, other comprehensive income for the Company consists of items previously recorded as a component of stockholders' equity under SFAS No. 52, "Foreign Currency Translation", and SFAS No. 115, "Accounting for Certain Investments in Debt and Equity Securities." The Company adopted the financial statement reporting disclosure requirements of SFAS No. 130 during 1998 and has restated all periods presented to provide the presentation required under SFAS No. 130. The Company did not have any significant realized gains for the years ended December 31, 1996, 1997 and 1998, therefore, no reclassification adjustments are presented for gains realized in income. 2. DISCONTINUED OPERATIONS On September 30, 1998, the Company completed the sale of its banking operations to the Royal Bank of Canada, through one of its U.S. based subsidiaries ("Royal Bank"). Royal Bank paid $3 million in excess of the net assets sold less a $1.5 million holdback for indemnification which will be received eighteen months from the closing date and is included in other assets in the 1998 consolidated balance sheet. The banking operations included substantially all of the loans and investment securities and deposit relationships of SFNB and were legally separated from the technology operations through the formation of a holding company. The Company recorded a gain of $812,000 on the sale of the banking operations which included a $1.3 million charge related to the estimated fair value of options to purchase the Company's capital stock issued to Royal Bank in connection with the sale of the banking operations. The options give Royal Bank the right to purchase 733,818 shares of common and preferred stock for an aggregate of $10.0 million at prices ranging from $11.88 to $15.81 per share at specified periods through June 2000. The first option for 210,438 shares of common stock with a per share exercise price of $11.88 was exercised in December 1998. F-11 12 SECURITY FIRST TECHNOLOGIES CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The losses from the banking operations are reflected in the accompanying consolidated statements of operations as discontinued operations. Net interest income for the nine month period ended September 30, 1998 was $1.3 million and the net loss, excluding the gain on disposal, was $3.1 million. In addition to the sale of the banking operations, the Company has entered into technology licensing and consulting arrangements with Royal Bank for $6 million, which were effective September 30, 1998. 3. BUSINESS ACQUISITIONS On November 24, 1997, the Company completed the acquisition of Solutions By Design, Inc. ("SBD"), a technology consulting firm. The Company exchanged 999,999 shares of restricted common stock with a value of approximately $5.7 million for all of the outstanding shares of SBD. The recipients of the shares issued in the transaction were contractually restricted from selling any of the common stock received for six months after issuance after which time they were able to sell up to 25% of the total shares received annually thereafter. The value of the common stock issued was discounted to reflect such restrictions. Of the $6.2 million total purchase price, which included common stock valued at $5.7 million and transaction costs and liabilities assumed of $500,000, $4.2 million was assigned to identifiable intangible assets and $2.0 million was assigned to goodwill. The identifiable intangible assets include employment contracts, which are amortized over the contract life of eight months, exclusivity and non-solicitation agreements, which are amortized over the term of the contract of 18 months, and assembled workforce, which is being amortized over three years. The Company is amortizing goodwill over a period of two years, which is the period that it will receive benefit from the projects that were developed by the former SBD employees. Additionally, the Company has included $489,000 of nonrecurring charges associated with the SBD acquisition in amortization of goodwill and acquisition charges in the accompanying 1997 consolidated statement of operations. These amounts represent the premium paid to SBD by the Company for services rendered during the fourth quarter of 1997 prior to consummation of the SBD acquisition. The acquisition was accounted for using the purchase method of accounting and, accordingly, the results of operations of SBD have been included in the results of operations of the Company since the effective date of the acquisition. On November 4, 1996, the Company completed the acquisition of SecureWare, Inc. ("SecureWare"), a computer software company which developed security and encryption technology allowing users to conduct safe transactions over the internet. SecureWare was merged into Five Paces, Inc. ("FPI") after the acquisition. The Company exchanged cash consideration in the amount of $5.0 million and stock options for all of the outstanding common stock and stock options of SecureWare. Of the total purchase price, which included $5.0 million in cash and liabilities assumed of approximately $477,000, $3.3 million was allocated to in-process research and development and charged to the consolidated statement of operations at the acquisition date; $1.4 million was allocated to purchased technology; and $777,000 was allocated to goodwill. Prior to the acquisition, SecureWare was substantially owned by Michael F. McChesney, who resigned as the Chairman of the Board of the Company in February 1999. The acquisition was accounted for using the purchase method of accounting and, accordingly, the results of operations of SecureWare have been included in the results of operations of the Company since the effective date of the acquisition. On May 23, 1996, the Company completed the acquisition of FPI, a computer software company which developed computer banking technology. The Company exchanged 1,920,000 shares of common stock with a value of $2.4 million for all of the outstanding common stock of FPI. Of the total purchase price, which included common stock valued at $2.4 million and liabilities assumed of approximately $1.8 million, $3.5 million was allocated to in-process research and development and charged to the consolidated statement of operations at the acquisition date; $420,000 was allocated to purchased technology; and $234,000 was allocated to goodwill. Prior to the acquisition, FPI was substantially owned by Mr. McChesney, who was appointed Chairman of the Company subsequent to the acquisition. The acquisition was accounted for using F-12 13 SECURITY FIRST TECHNOLOGIES CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) the purchase method of accounting and, accordingly, the results of operations of FPI have been included in the results of operations of the Company since the effective date of the acquisition. During 1997, the Company expensed the unamortized balance of goodwill and purchased technology resulting from the FPI and SecureWare acquisitions of approximately $1.4 million which has been included in amortization of goodwill and acquisition charges in the accompanying 1997 consolidated statement of operations. The Company made this assessment after determining that there was limited future cash flows associated with the intangible assets acquired. Fair value was determined as the present value of the future cash flows. S1 made the strategic decision to refocus the resources which had been involved in the development and marketing of the network security products acquired from SecureWare towards the Virtual Financial Manager suite of products and related services and, therefore, it did not believe there would be significant future revenues from the acquired products. As a result, the unamortized balances for purchased technology and goodwill related to the SecureWare acquisition of $0.6 million and $0.4 million, respectively, were charged off in the 1997 Statement of Operations. Because of a significant rewrite of S1's Virtual Bank Manager product, management did not anticipate that there would be any future sales of the version of Virtual Bank Manager which was acquired from FPI. As a result, the Company wrote off the balance of $0.2 million of purchased technology and $0.2 million of goodwill related to the FPI acquisition. The following unaudited pro forma financial information presents the combined results of operations of the Company, SBD, SecureWare, and FPI as if the acquisitions had occurred as of January 1, 1996 with respect to the 1996 amounts and January 1, 1997 with respect to the 1997 amounts. The unaudited pro forma results do not necessarily represent results of operations which would have occurred if the acquisitions had occurred on the dates indicated nor are they necessarily indicative of the results of future operations.
YEAR ENDED DECEMBER 31, ------------------- 1996 1997 -------- -------- (IN THOUSANDS) Revenues.................................................... $ 5,118 $ 13,838 Net loss.................................................... (25,100) (28,602) Basic net loss per common share............................. (3.59) (2.93)
4. INVESTMENT SECURITIES AVAILABLE FOR SALE The amortized cost and fair value of investment securities available for sale and gross unrealized gains and losses at December 31, 1997 are summarized as follows:
DECEMBER 31, 1997 ------------------------------------ UNREALIZED AMORTIZED -------------- FAIR COST GAINS LOSSES VALUE --------- ----- ------ ------- (IN THOUSANDS) U.S. Treasury and U.S. Government agencies.............. $22,802 $ 97 $ 22 $22,877 Less investment securities allocated to discontinued banking operations.................................... (6,043) (30) (10) (6,063) ------- ---- ---- ------- U.S. Treasury and U.S. government agencies allocated to continuing operations................................. $16,759 $ 67 $ 12 $16,814 ======= ==== ==== =======
At December 31, 1998, investment securities available for sale consisted entirely of marketable equity securities (123,001 shares of BroadVision, Inc.) with a cost of $1.8 million, fair value of $3,936,000, and an unrealized gain of $2,136,000. The Company is restricted from selling these securities through December 1999. F-13 14 SECURITY FIRST TECHNOLOGIES CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Proceeds from the sales of investment securities were $8,956,000, $14,979,000 and $1,983,000 in 1996, 1997 and 1998, respectively. Gross gains of approximately $6,000 in 1996, $5,000 in 1997 and $4,000 in 1998 and gross losses of approximately $14,000 in 1996 and $4,000 in 1997 were realized on sales of investment securities. 5. PREMISES AND EQUIPMENT A summary of premises and equipment at December 31, 1997 and 1998 follows:
1997 1998 ------- ------- (IN THOUSANDS) Leasehold improvements...................................... $ 1,758 $ 2,215 Furniture and fixtures...................................... 1,572 1,720 Computer equipment.......................................... 4,113 5,739 Software.................................................... 1,250 1,663 ------- ------- 8,693 11,337 Accumulated depreciation and amortization................... (2,896) (5,982) ------- ------- $ 5,797 $ 5,355 ======= =======
During 1998, the Company terminated a data center facilities management agreement and, as a result, purchased approximately $1.8 million of computer equipment. Immediately thereafter, the Company entered into a sale-leaseback arrangement for this computer equipment with a third party which is accounted for as a capital lease. The Company recorded a charge which has been included in depreciation and amortization of approximately $1.2 million to adjust the carrying value of the leased computer equipment to its fair market value. Additionally, the Company recorded a write-down of computer equipment of $500,000 in 1998 to reflect the results of a physical inventory of computer equipment. 6. STOCKHOLDERS' EQUITY Spin-Off from Cardinal Bancshares, Inc. A spin-off of the Company from Cardinal Bancshares, Inc. ("Cardinal") occurred on May 23, 1996. The spin-off was effected pursuant to the Cardinal Bancshares, Inc. Amended and Restated Plan of Distribution ("Plan of Distribution"). Under the Plan of Distribution, following a payment of a $3.0 million cash dividend from the Company to Cardinal, Cardinal distributed pro rata to each Cardinal stockholder of record on the record date 2,398,908 shares of the Company's common stock and paid cash in lieu of fractional shares. Initial Public Offering On May 23, 1996, the Company sold 2,806,000 shares of common stock for $52.8 million, net of offering expenses, in an underwritten initial public offering. Sales of Common and Preferred Stock During 1996, immediately following the spin-off and distribution described above, the Company sold 967,884 shares of common stock and 1,637,832 shares of Class A convertible preferred for approximately $6 million. During 1997, the Company sold 569,978 shares of common stock and 159,952 shares of Class A convertible preferred stock for approximately $6 million. During 1998, the Company sold 92,593 shares of common stock for approximately $1 million and 749,064 shares of Series B convertible redeemable preferred stock for approximately $10 million. F-14 15 SECURITY FIRST TECHNOLOGIES CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) In 1998, the Company entered into a relationship with BroadVision, Inc. ("BroadVision") where BroadVision purchased 181,610 shares of the Company's common stock for $2.0 million by granting to the Company a software license and prepaid royalty agreement which gives the Company the right to resell the software by integrating the software with S1's software products. In addition, the Company exchanged 129,702 shares of common stock valued at $1.8 million for 123,001 shares of BroadVision, based upon the average closing price of the respective shares for the ten business days preceding July 31, 1998. Preferred Stock The Company has authorized 5,000,000 shares of $0.01 par value preferred stock, of which 1,637,832 shares have been designated as Series A Convertible Preferred Stock and 749,064 shares have been designated as Series B Redeemable Convertible Preferred Stock. There were 1,251,084 and 636,464 shares of Series A preferred outstanding at December 31, 1997 and 1998, respectively. There were 749,064 shares of Series B preferred outstanding at December 31, 1998. The terms of the Series A and Series B preferred (the "Preferred Stock") provide the holders with identical rights to common stockholders with respect to dividends and distributions in the event of liquidation, dissolution, or winding up of the Company. Except as described below, the Series A and Series B preferred is nonvoting. Each series is entitled to vote as a single class on the following matters: (i) any amendment to any charter provision that would change the specific terms of that series which would adversely affect the rights of the holders of that series and (ii) the merger or consolidation of the Company with another corporation or the sale, lease, or conveyance (other than by mortgage or pledge) of the properties or business of the Company in exchange for securities of another corporation if that series of Preferred Stock is to be exchanged for securities of such other corporation and if the terms of such securities are less favorable in any respect. Action requiring the separate approval of the preferred stockholders requires the approval of two-thirds of the shares of Preferred Stock then outstanding voting as a separate class. In addition, holders of the Series A and Series B preferred are entitled to vote with the holders of common stock as if a single class, on any voluntary dissolution or liquidation of the Company. Holders of Series B preferred also are entitled to vote with the holders of the common stock on any merger, acquisition, consolidation or other business combination involving the Company and the sale, lease or conveyance other than by mortgage or pledge of all or substantially all of the Company's assets or properties. When the Series A preferred votes with the common stock on a dissolution or liquidation, each share of Series A preferred is entitled to one vote. When the Series B preferred is entitled to vote with the common stock, the holders of Series B preferred are entitled to the number of votes equal to the number of shares of common stock into which the Series B preferred could be converted. Subject to certain limitations related to ownership, each share of Series A preferred is convertible into one share of common stock at the option of the holder. The 749,064 shares of Series B preferred are convertible at the option of the holder after October 1, 2000 into 535,045 shares of common stock based on a conversion price of $18.69. The number of shares of common stock into which the Series A preferred and Series B preferred are convertible is subject to adjustment. The Series B preferred is redeemable at the option of the Company through September 2000 by paying the holder $10,000,000 plus interest. Capital Stock Option As part of the sale of the banking operations to Royal Bank, the Company has issued to Royal Bank four separate options to purchase up to an aggregate $10 million in capital stock of the Company. The first option for 210,438 shares of common stock has a per share exercise price of $11.88 and was exercised by Royal Bank in December 1998. The second option for 191,278 shares has a per share exercise price of $13.07 and expires at the end of June 1999. The third option for 173,974 shares has a per share exercise price of $14.38 and expires at the end of December 1999. The fourth option for 158,128 shares has a per share exercise price of $15.81 and expires at the end of June 2000. As of December 31, 1998, options to acquire 523,380 shares of the Company's capital stock remain outstanding. F-15 16 SECURITY FIRST TECHNOLOGIES CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 7. INCOME TAXES The Company was included in the consolidated Federal income tax returns filed by Cardinal Bancshares, Inc. through the effective date of the spin-off of May 23, 1996. The Company has filed its own separate consolidated Federal income tax returns since that time. Income tax benefits applicable to the Company through the date of the spin-off were paid to the Company by Cardinal. The Company has provided for income taxes for all periods included herein as if it were filing separate income tax returns. The Company has not recorded an income tax benefit for 1996, 1997 or 1998 because operating losses were incurred and a valuation allowance has been recorded against substantially all deferred income tax assets, primarily comprised of the net operating loss carryforwards. The components of income tax benefit for 1996, all of which relates to the discontinued operations, are as follows:
(IN THOUSANDS) Current income tax benefit.................................. $ (87) Deferred income tax benefit................................. (289) ----- Total income tax benefit.......................... $(376) =====
The income tax effects of the temporary differences that give rise to the Company's deferred income tax assets and liabilities as of December 31, 1997 and 1998 are as follows:
1997 1998 ------- ------- (IN THOUSANDS) Deferred income tax assets: Net operating loss carryforwards....................... $13,577 $17,403 Deferred compensation.................................. 742 1,063 Deferred revenue....................................... 3,426 8,516 Other.................................................. 96 1,249 ------- ------- Total gross deferred income tax assets............ 17,841 28,231 ------- ------- Valuation allowance for deferred income tax assets..... (16,932) (27,808) ------- ------- Total deferred income tax assets.................. 909 423 ------- ------- Deferred income tax liabilities: Unrealized gains on investment securities available for sale.................................................. -- 812 Other.................................................. 909 286 ------- ------- Total gross deferred income tax liabilities....... 909 1,098 ------- ------- Net deferred income tax liability, included in accrued expenses.................................................. -- $675 ======= =======
The valuation allowance increased $7,077,000, $9,855,000, and $10,876,000 during the years ended December 31, 1996, 1997 and 1998, respectively. Deferred income tax assets and liabilities are recognized for differences between the financial statement carrying amounts and the tax bases of assets and liabilities which will result in future deductible or taxable amounts and for net operating loss and tax credit carryforwards. A valuation allowance is then established to reduce the deferred income tax assets to the level at which it is "more likely than not" that the tax benefits will be realized. Realization of tax benefits of deductible temporary differences and operating loss and tax credit carryforwards depends on having sufficient taxable income within the carryback and carryforward periods. Sources of taxable income that may allow for the realization of tax benefits include (1) taxable income in the current year or prior years that is available through carryback, (2) future taxable income that will result from the reversal of existing taxable temporary differences, and (3) future taxable income generated by future operations. Because of the uncertainties with F-16 17 SECURITY FIRST TECHNOLOGIES CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) respect to the Company's ability to achieve and sustain profitable operations in the future, the Company has recorded a valuation allowance to offset substantially all of its net deferred income tax assets. At December 31, 1998, the Company has net operating loss carryforwards of approximately $49.3 million which begin to expire as indicated below, unless utilized. Of this amount, $3.5 million related to stock option tax deductions will be reflected as additional paid-in capital when realized.
YEAR CARRYFORWARD AMOUNT EXPIRATION DATE - ---- ------------------- --------------- 1995.................................. $ 47,000 2010 1996.................................. 13,402,000 2011 1997.................................. 21,965,000 2012 1998.................................. 13,836,000 2018 ----------- $49,250,000 ===========
8. COMMITMENTS Lease Commitment The Company leases office facilities and computer equipment under noncancelable operating lease agreements which expire in 2002. Future minimum annual payments under all operating lease agreements with remaining terms greater then one year for the next four years as of December 31, 1998 are as follows: 1999........................................................ $1,888,000 2000........................................................ 1,545,000 2001........................................................ 1,080,000 2002........................................................ 19,000 ---------- $4,532,000 ==========
Included in premises and equipment is computer equipment under a capital lease with original cost and accumulated amortization of approximately $1.8 million and $1.2 million, respectively. Future minimum annual lease payments for the capital lease as of December 31, 1998 are as follows: 1999........................................................ $ 911,000 2000........................................................ 165,000 ---------- $1,076,000 Less amount representing interest........................... 42,000 ---------- Present value of minimum lease payments including current portion of $875,000....................................... $1,034,000 ==========
Rent expense under all noncancelable operating lease agreements for the years ended December 31, 1996, 1997 and 1998 was approximately $250,000, $1,004,000 and $1,638,000, respectively. Cash Held in Escrow At December 31, 1998, the Company had $751,000 in cash in an escrow account which was established as a result of the termination of a data center facilities management agreement. The amount required to be held in escrow will be reduced by $250,000 each year following the termination, provided there have been no indemnification claims. F-17 18 SECURITY FIRST TECHNOLOGIES CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Contractual Commitments In the normal course of its business, the Company enters into contracts with customers. These contracts contain commitments including, but not limited to, minimum standards and time frames against which the Company's performance is measured. In the event the Company does not meet its contractual commitments with its customers, the Company may incur penalties and/or certain customers may have the right to terminate their contracts with the Company. The Company does not believe that it will fail to meet its contractual commitments to an extent that will result in a material adverse effect on its financial position or results of operations. 9. STOCK OPTION PLANS The Company maintains certain stock option plans providing for the grant of stock options to officers, directors and employees. The plans provide for 5,340,000 shares of the Company's common stock to be reserved for issuance under the plans. All stock options granted under the plans have ten-year terms and generally vest and become exercisable ratably over four years from the date of grant. At December 31, 1998, there were 807,000 shares available for future grants under the plans. In addition to stock options issued to officers, directors and employees, the Company issued approximately 630,400 stock options in conjunction with the SecureWare acquisition. Upon the acquisition of SBD, the Company granted 275,000 stock options to the former SBD employees which are exercisable upon the achievement of certain performance and software development goals. In the event that the performance and software development goals are not achieved, the options will vest at the end of a five year period. For stock options granted where the exercise price was less than the market price of the stock on the date of grant, the per share weighted-average exercise price was $7.15 and $1.04 and the per share weighted average grant date fair value was $13.51 and $6.60 for stock options granted during 1996 and 1997, respectively. For stock options granted where the exercise price equaled the market price of the stock on the date of grant, the per share weighted-average exercise price was $12.16, $6.55 and $8.42 and the per share weighted-average grant date fair value was $12.28, $4.33 and $8.08 for stock options granted during 1996, 1997 and 1998, respectively. The fair values were determined using the Black Scholes option-pricing model with the following weighted-average assumptions: expected dividend yield -0-%, risk-free interest rate of 6.5% in 1996 and 5.2% in 1997 and 1998, expected volatility of 70.4% in 1996, 79.2% in 1997 and 94.2% in 1998, and an expected life of 10 years. The Company applies APB Opinion No. 25 in accounting for its stock option plans and, accordingly, compensation cost in the amount of approximately $946,000, $656,000 and $1,992,000 (including approximately $448,000 included in discontinued operations) has been recognized in 1996, 1997 and 1998, respectively, relating to stock options granted with exercise prices less than the market price. Had the Company determined compensation cost based on the fair value at the grant date for its stock options under SFAS No. 123, the Company's net loss would have been increased to the pro forma amounts indicated below:
1996 1997 1998 -------- -------- -------- Net loss: As reported............................................. $(22,059) $(27,991) $(30,805) Pro forma............................................... (22,366) (29,749) (33,118) Basic and diluted net loss per common share: As reported............................................. $ (3.76) $ (3.14) $ (2.80) Pro forma............................................... (3.81) (3.33) (3.01)
F-18 19 SECURITY FIRST TECHNOLOGIES CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) A summary of the Company's stock options as of December 31, 1996, 1997 and 1998, and changes during the years ended on those dates is presented below:
1996 1997 1998 ------------------ ------------------ ------------------ WEIGHTED- WEIGHTED- WEIGHTED- AVERAGE AVERAGE AVERAGE SHARES EXERCISE SHARES EXERCISE SHARES EXERCISE (000) PRICE (000) PRICE (000) PRICE ------ --------- ------ --------- ------ --------- Outstanding at Beginning of Year...... 2,690 $0.83 3,334 $ 3.59 3,877 $ 2.78 Granted............................... 816 12.16 1,397 5.64 1,004 8.42 Exercised............................. (167) 1.21 (111) 1.27 (547) 2.17 Forfeit/Canceled...................... (5) 1.25 (743) 12.26 (458) 4.27 ----- ----- ----- ------ ----- ------ Outstanding at End of Year............ 3,334 $3.59 3,877 $ 2.78 3,876 $ 4.15 ----- ----- ----- ------ ----- ------ Exercisable at End of Year............ 712 $0.86 1,444 $ 2.18 1,999 $ 2.46 ===== ===== ===== ====== ===== ======
The following table summarizes information about stock options outstanding at December 31, 1998:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE ------------------------------------- ----------------------- WEIGHTED- AVERAGE WEIGHTED- WEIGHTED- NUMBER OF REMAINING AVERAGE NUMBER AVERAGE OUTSTANDING CONTRACTUAL EXERCISE EXCISABLE EXERCISE RANGE OF EXERCISE PRICE (000) LIFE PRICE (000) PRICE ----------------------- ----------- ----------- --------- ----------- --------- $0.01-1.89............................ 2,184 6.58 $ 0.81 1,565 $ 0.80 4.46-6.67............................ 463 8.39 5.95 158 5.83 7.00-10.50........................... 860 7.12 8.20 186 8.49 10.875-14.25......................... 327 9.09 11.62 90 12.91 16.735-25.875........................ 42 9.88 17.40 -- -- ----- ----- ------ ----- ------ $0.01-25.875.......................... 3,876 7.17 $ 4.15 1,999 $ 2.46 ===== ===== ====== ===== ======
10. EMPLOYEE BENEFIT PLAN The Company provides a 401(k) Retirement Savings Plan (the "Plan") for substantially all of its full-time employees. Each participant in the Plan may elect to contribute from 1% to 15% of his or her annual compensation to the Plan. The Company, at its discretion, may make matching contributions to the Plan. The Company is currently matching up to 4% of the employees compensation first to the Company's stock fund $1 for each dollar contributed by the employee and second to the remaining investment funds $.25 for each dollar contributed by the employee. The Company's contributions to the Plan charged to expense for 1996, 1997 and 1998 were $83,000, $171,000 and $286,000, respectively. 11. MAJOR CUSTOMERS AND INTERNATIONAL REVENUES Major Customers For the year ended December 31, 1996, three customers represented 16%, 16%, and 13% of total revenues, respectively. For the year ended December 31, 1997, two customers represented 18% and 10% of total revenues, respectively. For the year ended December 31, 1998, two customers represented 39% and 12% of total revenues, respectively. International Revenues Revenues from international customers represented 6% and 19% of total revenues and are serviced primarily from the United States for the years ended December 31, 1996 and 1997, respectively. F-19 20 SECURITY FIRST TECHNOLOGIES CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 12. RELATED PARTY TRANSACTIONS The Company performed certain administrative and technical services for a company known as Webtone amounting to approximately $80,000 in 1997 and $192,000 in 1998. The Company's former Chairman of the Board (who resigned in February 1999) who is also a principal shareholder owns Webtone. As of December 31, 1998 the Company had a receivable from Webtone related to these services of $173,000. During 1998, the Company paid a technology consulting company, called McCall Consulting Group, approximately $1.1 million and as of December 31, 1998, S1 has a payable to McCall Consulting Group of $282,000. The president of McCall Consulting Group is a director of the Company. 13. SUBSEQUENT EVENTS On February 19, 1999, S1 entered into alliances with Hewlett-Packard and Andersen Consulting. As part of the alliances, Hewlett-Packard has agreed to make a $10.0 million equity investment and Andersen Consulting has agreed to make a $4.0 million equity investment in common stock of the Company and has received warrants to acquire 100,000 shares of the Company's common stock. On February 25, 1999, S1 entered into an agreement with Royal Bank of Canada that includes an equity instrument that enables the holder to acquire up to 615,000 shares of the Company's common stock. * * * F-20 EX-13.2 5 FINANCIAL STATEMENT SCHEDULE AND AUDITORS' REPORT 1 EXHIBIT 13.2 SCHEDULE II VALUATION AND QUALIFYING ACCOUNTS - -------------------------------------------------------------------------------- - --------------------------------------------------------------------------------
ADDITIONS ----------------------- CHARGED TO BALANCE AT CHARGED TO OTHER BALANCE AT BEGINNING COSTS AND ACCOUNTS- DEDUCTIONS END OF DESCRIPTION OF PERIOD EXPENSES DESCRIBE DESCRIBE PERIOD - ---------------------------------------------------------------------------------------------------------- (IN THOUSANDS) Year ended December 31, 1996: Allowance for Doubtful Accounts......... -$- -- -- -- -$- Year ended December 31, 1997: Allowance for Doubtful Accounts......... -$- 257 -- -- $257 Year ended December 31, 1998: Allowance for Doubtful Accounts......... $257 871 713(1) $415
- --------------- (1) Accounts deemed to be uncollectible and written off during the year. 2 INDEPENDENT AUDITORS' REPORT The Board of Directors Security First Technologies Corporation: Under date of February 4, 1999, we reported on the consolidated balance sheets of Security First Technologies Corporation and subsidiary as of December 31, 1997 and 1998, and the related consolidated statements of operations, stockholders' equity and comprehensive income (loss), and cash flows for each of the years in the three-year period ended December 31, 1998, which are included in the December 31, 1998 annual report on Form 10-K. In connection with our audits of the aforementioned consolidated financial statements, we also audited the related financial statement schedule listed under Item 14(a) in the December 31, 1998 annual report on Form 10-K. This financial statement schedule is the responsibility of the Company's management. Our responsibility is to express an opinion on the financial statement schedule based on our audits. In our opinion, such financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein. KPMG LLP Atlanta, Georgia February 4, 1999 EX-21 6 SUBSIDIARIES OF S1 1 EXHIBIT 21 SUBSIDIARIES
NAME STATE OF INCORPORATION NAMES UNDER WHICH IT DOES BUSINESS ---- ---------------------- ---------------------------------- Security First Technologies, Inc. Kentucky S1
EX-27 7 FINANCIAL DATA SCHEDULE
5 1,000 YEAR DEC-31-1998 JAN-01-1998 DEC-31-1998 14,504 3,936 17,520 415 0 37,270 11,337 5,982 48,293 18,871 0 0 11,911 87,056 (81,738) 48,293 0 24,180 0 18,248 35,073 871 0 (28,558) 0 (28,558) (2,247) 0 0 (30,805) (2.80) (2.80)
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