10-K 1 doc1.txt SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 2001 COMMISSION FILE NO.: 0-25053 THEGLOBE.COM, INC. (Exact name of registrant as specified in its charter) DELAWARE 14-1782422 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number) 2 PENN PLAZA, SUITE 1500 NEW YORK, NEW YORK 10121 (Address of principal executive offices) (Zip Code) (212) 292-5667 (Registrant's telephone number, including area code) SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT: NONE SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT: Common Stock, par value $.001 per share Preferred Stock Purchase Rights ________________ Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days: Yes X No --- --- Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (Sec.229.405 of this chapter) 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 [X]. The number of shares outstanding of the Registrant's Common Stock, $.001 par value (the "Common Stock") as of March 20, 2002 was 31,081,574. Aggregate market value of the voting Common Stock held by non-affiliates of the registrant as of the close of business on March 20, 2002: $1,864,894. DOCUMENTS INCORPORATED BY REFERENCE ----------------------------------- The information required by Part III of this report, to the extent not set forth herein, is incorporated by reference from the registrant's definitive proxy statement relating to the annual meeting of stockholders to be held in 2002 which definitive proxy statement shall be filed with the Securities and Exchange Commission within 120 days after the end of the fiscal year to which this Report relates. Includes voting stock held by third parties, which may be deemed to be beneficially owned by affiliates, but for which such affiliates have disclaimed beneficial ownership.
THEGLOBE.COM, INC. 2001 ANNUAL REPORT ON FORM 10-K TABLE OF CONTENTS PART I Item 1. Business Item 2. Properties Item 3. Legal Proceedings Item 4. Submission of Matters to a Vote of Security Holders PART II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters Item 6. Selected Consolidated Financial Data Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations Item 7A. Quantitative and Qualitative Disclosures About Market Risk Item 8. Consolidated Financial Statements and Supplementary Data Item 9. Changes in and Disagreements with Accountants and Accounting and Financial Disclosure PART III Item 10. Directors and Executive Officers of the Registrant Item 11. Executive Compensation Item 12. Security Ownership of Certain Beneficial Owners and Management Item 13. Certain Relationships and Related Transactions PART IV Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K SIGNATURES
2 PART I ITEM 1. BUSINESS OVERVIEW theglobe.com, inc. (the "Company" or "theglobe") was incorporated on May 1, 1995 (inception) and commenced operations on that date. theglobe.com was an online property with registered members and users in the United States and abroad which allowed its users to personalize their online experience by publishing their own content and interacting with others having similar interests. However, due to the continuing decline in the advertising market, the Company was forced to take additional cost-reduction and restructuring initiatives, which included closing www.theglobe.com effective August 15, 2001. The Company then began to aggressively seek buyers for some or all of its remaining online and offline properties, which consisted primarily of games-related properties. In October 2001, the Company sold all of the assets used in connection with the Games Domain and Console Domain websites to British Telecommunications plc, and all of the assets used in connection with the Kids Domain website to Kaboose Inc. (See Note 4 of notes to consolidated financial statements - Dispositions). As of December 31, 2001, the Company continued to operate its Computer Games print magazine and the associated website Computer Games Online (www.cgonline.com), as well as the games distribution business of Chips & Bits, ------------------ Inc. (www.chipsbits.com). Also as of December 31, 2001, the Company continued to host its Happy Puppy website for game downloads only, but with no associated sales staff or editorial staff, for purposes of finding a buyer for the site and preserving the Happy Puppy brand. In February 2002, the Company sold all of the assets used in connection with the Happy Puppy website to Internet Game Distribution, LLC (See Note 16 of notes to consolidated financial statements - Subsequent Events). As of December 31, 2001, the Company continued to actively explore a number of strategic alternatives for its remaining online and offline game properties, including selling some or all of these properties and/or entering into new or different lines of business, which may include investments in real estate. As of December 31, 2001, the Company's revenue sources are principally from the sale of print advertising in its Computer Games magazine; the sale of video games and related products through Chips & Bits, Inc., its games distribution business; the sale of its Computer Games magazine through newsstands and subscriptions; and the limited sales of online advertising. The Company's December 31, 2001 consolidated financial statements have been prepared assuming the Company will continue as a going concern. The Company has suffered recurring losses from operations since inception that raise substantial doubt about its ability to continue as a going concern. Management and the Board of Directors are currently exploring a number of strategic alternatives regarding its remaining assets and the use of its cash on-hand, and is also continuing to identify and implement internal actions to improve the Company's liquidity and operations. These alternatives may include selling assets, which in any such case could result in significant changes in the Company's business, or entering into new or different lines of business, which may include investments in real estate. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty. BUSINESS STRATEGY Due to the continuing decline in the advertising market, in August 2001 the Company was forced to take significant additional cost-reduction and restructuring initiatives, which included closing its community (www.theglobe.com) and small-business Web-hosting (www.webjump.com) businesses - --------------- effective August 15, 2001. The Company also began to actively explore a number of strategic alternatives for its game properties and to identify and implement internal actions to improve the Company's liquidity and operations. These alternatives include selling assets or entering into new or different lines of business, which may include investments in real estate. In October 2001, the Company sold all of the assets used in connection with the Games Domain and Console Domain websites to British Telecommunications plc, and all of the assets used in connection with the Kids Domain website to Kaboose Inc. (See Note 4 of notes to consolidated financial statements - Dispositions). 3 As of December 31, 2001, the Company continued to actively explore a number of strategic alternatives for its remaining online and offline game properties, including selling some or all of these properties and/or entering into new or different lines of business, which may include investments in real estate. Computer Games print magazine and the associated website Computer Games Online (www.cgonline.com), the games distribution business of Chips & Bits, Inc. ----------------- (www.chipsbits.com), and the Happy Puppy website. In February 2002, the Company ----------------- sold all of the assets used in connection with the Happy Puppy website to Internet Game Distribution, LLC (See Note 16 of notes to consolidated financial statements - Subsequent Events). As of December 31, 2001 and while the Company seeks buyers for some or all of these remaining properties, Computer Games magazine and Chips & Bits, Inc. remain fully staffed and fully operational. The Company may determine to retain one or both businesses in connection with its future operations. Chips & Bits, Inc. is a games distribution business that covers all the major game platforms available and attracts customers in the United States and worldwide. Chips & Bits, Inc. continues to pursue a strategy of cost containment, affiliations, keyword search, and technology enhancements in order to grow the business in pursuit of profitability. Chips & Bits, Inc. continues to work with referring partners on the Internet as well as with Amazon.com and Yahoo, Inc. in order to increase its business and develop a growing customer base. Computer Games Magazine continues to pursue a strategy of increasing paid circulation while containing costs. As computer games become increasingly mainstream demand for games information has increased accordingly and Computer Games Magazine intends to participate in this increasing consumer demand by providing superior, broad-based editorial content and high-quality production. PRODUCTS AND SERVICES theglobe.com was an online property with registered members and users in the United States and abroad which allowed its users to personalize their online experience by publishing their own content and interacting with others having similar interests. However, due to the continuing decline in the advertising market, the Company was forced to take additional cost-reduction and restructuring initiatives, which included closing www.theglobe.com website ---------------- effective August 15, 2001. In October 2001, the Company sold all of the assets used in connection with the Games Domain and Console Domain websites to British Telecommunications plc, and all of the assets used in connection with the Kids Domain website to Kaboose Inc. As of December 31, 2001, the Company continued to operate its Computer Games print magazine and the associated website Computer Games Online (www.cgonline.com), as well as the games distribution business of Chips & Bits, -- Inc. (www.chipsbits.com). Also as of December 31, 2001, the Company continued to host its Happy Puppy website for game downloads only, but with no associated sales staff or editorial staff, for purposes of finding a buyer for the site and preserving the Happy Puppy brand. In February 2002, the Company sold all of the assets used in connection with the Happy Puppy website to Internet Game Distribution, LLC (See Note 16 of notes to consolidated financial statements - Subsequent Events). As of December 31, 2001, the Company continued to actively explore a number of strategic alternatives for its remaining online and offline game properties, including selling some or all of these properties and/or entering into new or different lines of business, which may include investments in real estate. COMPUTER GAMES MAGAZINE. Computer Games Magazine, which the Company acquired in February 2000, is one of the most widely respected consumer print magazines for gamers today. - As a leading consumer print publication for games, Computer Games magazine boasts: an average paid circulation of 374,000 for the year 2001 (Source: BPA International) and a reputation for being a reliable, trusted, and engaging games magazine; more editorial, tips and cheats than most other similar magazines; a highly-educated editorial staff providing increased editorial integrity and content; and, broad-based editorial coverage, appealing to the widest, largest audience of gamers. - One of the most popular features of Computer Games is a CD ROM containing game demos, which comes bundled monthly with the magazine in all newsstand editions and a portion of copies mailed to subscribers. 4 COMPUTER GAMES ONLINE. Computer Games Online (www.cdmag.com), which the Company ------------- acquired in February 2000, is the online counterpart to Computer Games magazine. Computer Games Online is a leading source of free games news and information for the sophisticated gamer, featuring news, reviews and previews, along with a powerful Web-wide search engine. - Features of Computer Games Online include: a constant stream of accurate game industry news; truthful, hard-hitting, concise reviews; insightful hands-on previews; first looks, tips and cheats; multiple content links; thousands of archived files; discussion forums supporting all genres of PCs; and, easy access to game buying. CHIPS & BITS. Chips & Bits (www.chipsbits.com), which the Company acquired in ----------------- February 2000, is a games distribution business that attracts customers in the United States and worldwide. Chips & Bits covers all the major game platforms available, including Macintosh, Window-based PCs, Sony PlayStation, Sony PlayStation2, Microsoft's Xbox, Nintendo 64, Game Boy, and Sega Dreamcast, among others. HAPPY PUPPY. Happy Puppy (www.happypuppy.com), which the Company acquired in ------------------ April 1999, and which was the first-ever commercial game site on the Web, delivers free, objective and edgy editorial content online, covering all games platforms. - Happy Puppy was updated daily until August 2001 when the Company was forced to layoff almost all remaining staff due to the continued decline in the online advertising market. Prior to August 2001, the site offered its users free downloads and information including: commercial software reviews, downloadable programs, game cheats, Web-based games, and feature articles. ADVERTISING CUSTOMERS We continue to attract leading advertisers to our Computer Games print magazine, which is a widely respected consumer print magazines for gamers. We believe our ability to continue to attract leading advertisers is a direct result of our average paid circulation of 374,000 for the year 2001 (Source: BPA International) and a reputation for being a reliable, trusted, and engaging games magazine; more editorial, tips and cheats than most other similar magazines; a highly-educated editorial staff providing increased editorial integrity and content; and, broad-based editorial coverage, appealing to the widest, largest audience of gamers. Prior to August 2001 when we were forced to layoff all national sales staff (who sold online space and began cross-selling print space) due to the continued decline in the advertising market, we had also attracted mass-market consumer product companies and technology-related businesses to advertise on our websites. We continue to employ a sales staff of two (2) people specializing in selling magazine space to games companies, while working at expanding to consumer and technology advertisers. In 2001, no single advertiser accounted for more than 10% of total revenues. For the twelve months ended December 31, 2001, over 200 clients advertised on our sites and in our Computer Games magazine. ADVERTISING SALES STAFF In August 2001, we were forced to layoff almost all remaining staff due to the continued decline in the advertising market. As a result, we have an internal advertising sales staff of two (2) professionals as of December 31, 2001, both of whom are dedicated to selling advertising space in our Computer Games print magazine, and to a lesser extent on our Computer Games Online website, which is the online counterpart to Computer Games magazine. These professionals focus on developing long-term strategic relationships with clients as they sell advertisements in our Computer Games print magazine and its online counterpart Computer Games Online. A significant portion of our sales personnel's compensation is commission based. 5 MARKETING AND PROMOTIONS In 2001, we committed approximately $5.1 million to offline and online media advertising. Substantially all of these dollars were committed prior to August 2001, when we closed our community business as part of aggressive cost-reduction and restructuring initiatives necessitated by the decline in the advertising market. Our marketing efforts were focused on: - Increasing awareness and interest in the Internet and advertising industries in support of our distribution/licensing and advertising sales efforts; - Attracting and retaining highly targeted traffic to our individual websites; and, - Promoting our games information network, games.theglobe.com, at E3 (Electronic Entertainment Expo), the largest interactive entertainment tradeshow of the year. TECHNOLOGY Through August 31, 2001, our data processing systems and servers were hosted at the New York Teleport in Staten Island, New York. In conjunction with our cost-reduction and restructuring initiatives implemented in August 2001, we discontinued the use of these servers on August 31, 2001 and we now use New Jersey based outsourced facilities to host our remaining live web sites. COMPETITION Competition among games print magazines is high and increasing as online and pc-based games continue to gain mainstream popularity, and new, cutting-edge games and console systems continue to come to the consumer market. The magazine publishing industry is highly competitive. We compete for advertising and circulation revenues principally with publishers of other technology and games magazines with similar editorial content as our magazine. The technology magazine industry has traditionally been dominated by a small number of large publishers. We believe that we compete with other technology and games publications based on our top-3 position within the games magazine sector, the nature and quality of our magazines' editorial content and the attractive demographics of our readers. In addition to other technology and games magazines, our magazine also competes for advertising revenues with general-interest magazines and other forms of media, including broadcast and cable television, radio, newspaper, direct marketing and electronic media. In competing with general-interest magazines and other forms of media, we rely on our ability to reach a targeted segment of the population in a cost-effective manner. We believe our Chips & Bits games distribution business faces competition from a variety of competitors, including: - Mall stores such as Gamestop and Electronics Boutique - Discount chains such as Wal-Mart and Target - Electronics Chains such as Best Buy and CompUSA - Office stores such as Staples - Online stores such as EBWorld - Direct online games, which bypass traditional sales venues The market situation continues to be a challenge for Chips & Bits due to recent advances in console and online games, which have lower margins and traditionally less sales loyalty to Chips & Bits. Chips & Bits depends on major releases in the Personal Computer (PC) market for the majority of sales and profits. The game industry's focus on X-Box, Playstation and GameCube has dramatically reduced the number of major PC releases. Because of the large installed base of personal computers, it is felt that this is a temporary phenomenon. However, Chips & Bits has no knowledge as to when there will be a turnaround in the PC game market. Competition among games-focused websites is also growing rapidly, as new companies continue to enter the market and existing companies continue to layer games applications onto their websites. We expect that the market will continue to evolve rapidly, and the rate of product innovations and new product introductions will remain high. We face competitive pressures from many companies, both in the United States and abroad. With the abundance of companies operating in the games market, consumers and advertisers have a wide selection of services to choose from. Our games information websites compete for users and advertisers with: - Games information sites such as Snowball's IGN, ZDnet's Gamespot, and CNET's GameCenter; and, - Online games centers, where users can play games such as Uproar, Pogo and Lycos' Gamesville. 6 In addition, many companies involved in the games market may be acquired by, receive investments from, or enter into commercial relationships with larger, well-established and well-financed companies. As a result of this highly fragmented and competitive market, consolidations and strategic ventures may continue in the future. INTELLECTUAL PROPERTY AND PROPRIETARY RIGHTS We regard substantial elements of our Websites and underlying technology as proprietary. We attempt to protect them by relying on intellectual property laws. We also generally enter into confidentiality agreements with our employees and consultants and in connection with our license agreements with third parties. We also seek to control access to and distribution of our technology, documentation and other proprietary information. Despite these precautions, it may be possible for a third party to copy or otherwise obtain and use our proprietary information without authorization or to develop similar technology independently. We pursue the registration of our trademarks in the United States and internationally. THEGLOBE.COM and THEGLOBE.COM logo are registered in the United States and many international jurisdictions. The HAPPY PUPPY mark and logo are registered in the United States, and enjoy international protection as well. Effective trademark, service mark, copyright, patent and trade secret protection may not be available in every country in which our services are made available through the Internet. Policing unauthorized use of our proprietary information is difficult. Existing or future trademarks or service marks applied for or registered by other parties and which are similar to ours may prevent us from expanding the use of our trademarks and service marks into other areas. See "Risk Factors-We rely on intellectual property and proprietary rights." GOVERNMENT REGULATION AND LEGAL UNCERTAINTIES We are subject to laws and regulations that are applicable to various Internet activities. There are many legislative and regulatory proposals under consideration by federal, state, local and foreign governments and agencies, including matters relating to: - online content; - privacy; - Internet taxation; - liability for information retrieved from or transmitted over the Internet; - domain names; and, - jurisdiction. New laws and regulations may increase our costs of compliance and doing business, decrease the growth in Internet use, decrease the demand for our services or otherwise have a material adverse effect on our business. ONLINE CONTENT General Restrictions on Transmitting Indecent and Obscene Content. Several federal and state statutes generally prohibit the transmission of indecent or obscene information and content, including sexually explicit information and content. The constitutionality of some of these statutes is unclear at this time. For example, in 1997 the Supreme Court of the United States held that selected parts of the federal Communications Decency Act of 1996 imposing criminal penalties for transmitting indecent and patently offensive content were unconstitutional. Many other provisions of the Communications Decency Act, however, including those relating to obscenity, remain in effect. For example, on April 19, 1999, the Supreme Court summarily affirmed a lower court decision holding that selected parts of the Communications Decency Act imposing criminal penalties for transmitting indecent comments or images with an intent to annoy was constitutional, as long as those comments or images were also obscene. 7 Restrictions on Transmitting Indecent and Obscene Content to Minors. Other federal and state statutes specifically prohibit transmission of certain content to minors. The Child Online Protection Act requires websites engaged in the business of the commercial distribution of material that is deemed to be obscene or harmful to minors to restrict minors' access to this material. However, the Child Online Protection Act exempts from liability telecommunications carriers, Internet service providers and companies involved in the transmission, storage, retrieval, hosting, formatting or translation of third-party communications where these companies do not select or alter the third-party material. In 1999, a federal district court in Pennsylvania entered a preliminary injunction preventing enforcement of the harmful-to-minors portion of the act. The provisions of the act relating to obscenity, however, remain in effect. On June 22, 2000, United States Court of Appeals for the Third Circuit affirmed the lower court ruling. The decision of the United States Supreme Court, which heard argument of the case on November 28, 2001, is pending. A similar state statute in New Mexico has been found unconstitutional by the Tenth Circuit Court of Appeals. Consumer Fraud and Advertising. Some states have enacted laws or adopted regulations that expressly or as a matter of judicial interpretation apply various consumer fraud and false advertising requirements to parties who conduct business over the Internet. The constitutionality and the enforceability of some of these statutes is unclear at this time. PRIVACY Various laws and regulations have been enacted or adopted in regard to the collection, use, and disclosure of personally identifiable information. Any additional legislation or regulations relating to consumer privacy or the application or interpretation of existing laws and regulations could affect the way in which we are allowed to conduct our business, especially those aspects that contemplate the collection or use of our website visitors' personal information. Federal Privacy Bills. Numerous bills relating to consumer privacy have been introduced in Congress. We cannot predict the exact form of any legislation that the Congress might enact. Accordingly, we cannot assure you that our current practices will comply with any legislative scheme that Congress ultimately adopts or that we will not have to make significant changes to comply with such laws. FTC Enforcement Activity. The Federal Trade Commission Act prohibits unfair and deceptive practices in and affecting commerce. The FTC Act authorizes the FTC to seek injunctive and other relief for violations of the FTC Act, and provides a basis for government enforcement of fair information practices. For instance, failure to comply with a stated privacy policy may constitute a deceptive practice in some circumstances and the FTC would have authority to pursue the remedies available under the Act for any violations. Furthermore, in some circumstances, the FTC may assert that information practices may be inherently deceptive or unfair, regardless of whether the entity has publicly adopted any privacy policies. The FTC has conducted investigations into the privacy practices of companies that collect information on the Internet. In several instances, the FTC has entered into consent orders with such companies in regard to their collection and use of personally identifiable information. On January 22, 2001, the FTC completed an investigation of the advertising and data collection practices of DoubleClick, Inc., a leading provider of Internet-based advertising services from whom we license our advertising management system. DoubleClick has advised the FTC that it would make a number of modifications intended to enhance the effectiveness of its privacy policy. DoubleClick has also disclosed that it is the subject of inquiries involving the attorneys general of several states relating to its collection, maintenance and sharing of information about Internet users and its disclosure about those practices to users. We cannot assure you that the FTC's activities, or the activities of other regulatory authorities, in this area will not adversely affect our ability to collect demographic and personal information from website visitors, which could have an adverse effect on our ability to attract advertisers. This could have a material adverse effect on us. Voluntary Self-Regulation. Some industry groups and other organizations have proposed, or are in the process of proposing, various voluntary standards regarding the treatment of data collected over the Internet. Our website privacy policies set forth, among other things, the personal information being collected, how it will be used, and with whom it may be shared. We cannot assure you that the adoption of voluntary standards will preclude any legislative or administrative body from taking governmental action regarding Internet privacy. 8 European Union Directive on Data Protection. At the international level, the European Union has adopted a directive that requires EU member countries to impose restrictions on the collection and use of personal data. Among other provisions, the directive generally requires member countries to prevent the transfer of personally identifiable data to countries that do not offer adequate privacy protections. The Directive could, among other things, affect United States companies that collect information over the Internet from individuals in EU member countries, and may impose restrictions that are more stringent than current Internet privacy standards in the United States. In response, the United States Department of Commerce, in coordination with the European Commission, developed safe harbor principles that address notice, choice, access, security, and compliance, among other matters. Organizations that come within the safe harbor are presumed by the EU to maintain an adequate level of privacy protection and may receive personal data transfers from EU member countries. A company that wishes to qualify under the safe harbor must notify the Department of Commerce, which began maintaining a list of companies that adhere to the safe harbor principles on November 1, 2000. Relatively few companies have made a decision to take such action, which is voluntary. We have not elected to qualify under the safe harbor. We continue to review our privacy policies and practices in light of the directive and the safe harbor. We cannot assure you that US and EU activities in this area will not adversely affect our ability to collect demographic and personal information from website visitors, which could have an adverse effect on our ability to attract advertisers. This could have a material adverse effect on us. INTERNET TAXATION Governments at the federal, state and local level, and some foreign governments, have made a number of proposals that would impose additional taxes on the sale of goods and services and various other Internet activities. In 1998, the federal Internet Tax Freedom Act (ITFA) was signed into law, placing a moratorium until October 2001, on state and local taxes on Internet access and on multiple or discriminatory taxes on electronic commerce. In November 2001 the moratorium established by the ITFA was extended until November 1, 2003. However, this moratorium does not apply to existing state or local laws. We cannot assure you that future laws imposing taxes or other impositions on Internet commerce would not substantially impair the growth of Internet commerce and as a result materially adversely affect our business. In addition, we cannot assure you that foreign countries will not seek to tax Internet transactions. LIABILITY FOR INFORMATION RETRIEVED FROM OR TRANSMITTED OVER THE INTERNET Liability issues relating to information retrieved or transmitted over the Internet include claims for copyright or trademark infringement, defamation, unsolicited electronic mail, negligence, or other claims based on the nature and content of these materials. Defamation. The Communications Decency Act of 1996 provides that no provider or user of an interactive computer service shall be treated as the publisher or speaker of any information provided by another information content provider. Revenue Sharing. We sell products directly to consumers and we also enter into agreements with commerce and service partners and sponsors under which we are entitled to receive a share of the revenue from the purchase of goods and services through direct links from our site. These arrangements may expose us to additional legal risks, including potential liabilities to consumers by virtue of our involvement in providing access to these products or services, even if we do not ourselves provide these products or services. Some of our agreements with these parties provide that these parties will indemnify us against liabilities. However, we cannot assure you that this indemnification will be enforceable or adequate. Although we carry general liability insurance, our insurance may not cover all potential claims or liabilities to which we are exposed. Any imposition of liability that is not covered by insurance could have a material adverse effect on our business. 9 Third-party Content. Materials may be downloaded and publicly distributed over the Internet by the Internet services operated or facilitated by us. Future legislation or regulations or court decisions may hold us liable for listings and other content accessible through our website, including through hyperlinks, or through content and materials posted in our chat rooms or bulletin boards. Liability might arise from claims alleging that, by directly or indirectly providing hyperlinks to websites operated by third parties, we are liable for copyright or trademark infringement or other wrongful actions by these third parties. If any material on our website contains informational errors, someone might sue us for losses incurred in reliance on the erroneous information. We attempt to reduce our exposure to potential liability through, among other things, provisions in member agreements, user policies, insurance and disclaimers. However, the enforceability and effectiveness of these measures are uncertain. Future legislation or regulation in the area of liability for information received from or transmitted over the Internet could decrease the growth of Internet use. These factors could decrease the demand for our services. We may also incur significant costs in investigating and defending against these claims. DOMAIN NAMES Domain names have been the subject of significant trademark litigation in the United States. The current system for registering, allocating and managing domain names has been the subject of litigation and is currently subject to regulatory reform. We have registered several domain names, including: "theglobe.com," "globeclubs.com," "azazz.com," "attitude.net," "cgonline.com," "tglo.com," "happypuppy.com" and "cdmag.com." We cannot assure you that third parties will not bring claims for infringement against us for the use of these names. Moreover, because domain names derive value from the individual's ability to remember the names, we cannot assure you that our domain names will not lose their value if, for example, users begin to rely on mechanisms other than domain names to access online resources. We cannot assure you that our domain names will not lose their value, or that we will not have to obtain entirely new domain names in addition to or in place of our current domain names. JURISDICTION Due to the global reach of the Internet the governments of various states and foreign countries have attempted to regulate Internet activity and may assert that their laws and regulations are applicable to our transmissions. Our facilities are located primarily in New York and Vermont. Until October 2001, we owned websites based in the United Kingdom. We cannot assure you that violations of these laws will not be alleged or charged by state or foreign governments and that these laws will not be modified, or new laws enacted, in the future. Any actions of this type could have a material adverse effect on our business. EMPLOYEES As of December 31, 2001, we had approximately 40 full-time employees. Our future success depends, in part, on our ability to continue to attract, retain and motivate highly qualified technical and management personnel. Competition for these persons is intense. From time to time, we also employ independent contractors to support our research and development, marketing, sales and support and administrative organizations. Our employees are not represented by any collective bargaining unit and we have never experienced a work stoppage. We believe that our relations with our employees are good. ITEM 2. PROPERTIES In August 2001, we terminated our lease for our 47,000 square foot headquarters facility located in New York City and relocated our headquarters to a significantly smaller temporary facility in New York City. As a result of terminating this lease, in October 2001 restricted cash of $1.5 million was released and became available. We maintain approximately 9,000 square feet of office space in two separate locations in Vermont in connection with our Computer Games magazine and Chips & Bits, Inc. operations. One of these leases is on a month-to-month basis and the other expires in September 2005. In May 2001, we terminated our lease for our sales office in San Francisco, California, in conjunction with the closure of that office. ITEM 3. LEGAL PROCEEDINGS On June 20, 2000, Infonent.com, Inc. filed a Complaint and a motion for a preliminary injunction to enjoin the Company from invoking its contractual right to terminate the registration statement for Infonent.com, Inc.'s shares in the Company. In an order entered July 18, 2000, the U.S. Bankruptcy Court for the Northern District of California (San Jose Division) granted Infonent.com, Inc.'s motion to the extent of barring the Company from terminating the registration statement for a period of 45 days, commencing on July 3, 2000. On October 26, 2000, the Securities and Exchange Commission declared effective the Company's amended registration statement, which terminated the registration statement relating to Infonent.com's shares in the Company. 10 On February 14, 2001, Mohammed Poonja, Chapter 11 Trustee for the estate of Infonent.com, Inc. (the "Trustee"), served an Amended Complaint on the Company and Jump Acquisition, LLC ("Jump"). The Amended Complaint asserts claims for violation of the automatic stay provision, 11 U.S.C. Sec. 362, as a result of the Company's exercise of its contractual right to terminate the registration statement for Infonent.com, Inc.'s shares in the Company pursuant to a November 30, 1999 Registration Rights Agreement between the Company and Infonent.com, Inc.; breach of contract for the Company's and Jump's alleged failure to make certain earn-out payments to Infonent.com, Inc. in connection with a November 30, 1999 purchase agreement (the "Agreement"); breach of the implied covenant of good faith and fair dealing in connection with the Agreement; fraud; negligence; breach of contract; and breach of the implied covenant of good faith and fair dealing for its alleged delay in registering newly-issued shares of the Company's common stock in connection with the Registration Rights Agreement. The Amended Complaint sought $9,524,859 in damages, plus interest, compensatory damages on the automatic stay cause of action, costs and disbursements of the action, and attorneys' fees. The Company filed an Answer on May 2, 2001 denying the allegations made in the Amended Complaint. The Trustee has withdrawn its claim for violation of the Automatic Stay by the Company. In August 2001, the Company executed a Settlement Agreement with the trustee for Infonent.com in which the trustee agreed to dismiss all claims in return for a payment of $175,000 by the Company. On and after August 3, 2001 and as of the date of this filing, the Company is aware that six putative shareholder class action lawsuits were filed against the Company, certain of its current and former officers and directors, and several investment banks that were the underwriters of the Company's initial public offering. The lawsuits were filed in the United States District Court for the Southern District of New York. The lawsuits purport to be class actions filed on behalf of purchasers of the stock of the Company during the period from November 12, 1998 through December 6, 2000. Plaintiffs allege that the underwriter defendants agreed to allocate stock in the Company's initial public offering to certain investors in exchange for excessive and undisclosed commissions and agreements by those investors to make additional purchases of stock in the aftermarket at pre-determined prices. Plaintiffs allege that the Prospectus for the Company's initial public offering was false and misleading and in violation of the securities laws because it did not disclose these arrangements. On December 5, 2001, an amended complaint was filed in one of the actions, alleging the same conduct described above in connection with both the Company's November 23, 1998 initial public offering and its May 19, 1999 secondary offering. The actions seek damages in an unspecified amount. The Company and its current and former officers and directors intend to vigorously defend the actions. The complaints have been consolidated into a single action, entitled Kofsky v. theglobe.com, inc. et al., Case No. 01 Civ. 7247. The Company is not required to respond to Plaintiffs' claims before a consolidated complaint is filed. However, due to the inherent uncertainties of litigation, we cannot accurately predict the ultimate outcome of the litigation. Any unfavorable outcome of this litigation could have a material adverse impact on our business, financial condition and results of operations. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matters were submitted to our stockholders' for a vote during the three months ended December 31, 2001. 11 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS MARKET INFORMATION The shares of our Common Stock were delisted from the Nasdaq national market in April 2001 and now trade in the over-the-counter market on what is commonly referred to as the electronic bulletin board, under the symbol "TGLO.OB" The following table sets forth the range of high and low closing sales prices of our common stock for the periods indicated as reported by the NASDAQ stock market (prior to April 2001) and the over-the-counter market (the electronic bulletin board) (after April 2001):
2001 2000 ------------ ------------ High Low High Low ----- ----- ----- ----- Fourth Quarter $0.08 $0.03 $0.94 $0.13 Third Quarter $0.23 $0.01 $2.66 $0.72 Second Quarter $0.34 $0.13 $6.44 $1.31 First Quarter $0.88 $0.05 $8.50 $5.75
The market price of our Common Stock is highly volatile and fluctuates in response to a wide variety of factors. See "Risk Factors-Our stock price is volatile." HOLDERS OF COMMON STOCK We had approximately 440 holders of record of Common Stock as of March 20, 2002. This does not reflect persons or entities that hold Common Stock in nominee or "street" name through various brokerage firms. DIVIDENDS We have not paid any cash dividends on our Common Stock since our inception and do not intend to pay dividends in the foreseeable future. Our board of directors will determine if we pay any future dividends. 12 ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA The selected consolidated financial data with respect to our consolidated balance sheets as of December 31, 2001 and 2000 and the related consolidated statements of operations for the years ended December 31, 2001, 2000, and 1999 have been derived from our audited consolidated financial statements which are included herein and have been prepared assuming that the Company will continue as a going concern. As discussed in Note 1 to the consolidated financial statements, the Company has suffered recurring losses from operations since inception that raise substantial doubt about its ability to continue as a going concern. Management's plans in regard to this matter are also described in Note 1. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty. The selected consolidated financial data with respect to our consolidated balance sheets as of December 31, 1999, 1998, and 1997 and the related consolidated statements of operations for the years ended December 31, 1998 and 1997 have been derived from our audited consolidated financial statements, which are not included herein. The following selected consolidated financial data should be read in conjunction with the consolidated financial statements and the notes thereto and the information contained in Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations."
YEAR ENDED DECEMBER 31, ----------------------------------------------------- 2001 2000 1999 1998 1997 --------- ---------- --------- --------- -------- (IN THOUSANDS, EXCEPT PER SHARE DATA) CONSOLIDATED STATEMENTS OF OPERATIONS DATA: Revenues. . . . . . . . . . . . . . . . $ 16,074 $ 29,862 $ 18,641 $ 5,510 $ 770 Cost of revenues. . . . . . . . . . . . 12,145 19,080 8,548 2,136 257 --------- ---------- --------- --------- -------- Gross profit. . . . . . . . . . . . . . 3,929 10,782 10,093 3,374 513 Operating expenses: Sales and marketing . . . . . . . . . 9,755 23,917 19,352 9,402 1,415 Product development . . . . . . . . . 3,811 10,242 10,488 2,633 154 General and administrative. . . . . . 6,596 13,173 12,165 6,828 2,828 Restructuring and impairment charges. . . . . . . . . . . . . . . 17,091 41,348 - - - Non-recurring charges . . . . . . . . - - - 1,370 - Amortization of goodwill and intangible assets 8,469 27,236 20,460 - - --------- ---------- --------- --------- -------- Total operating expenses. . . . . . . . 45,722 115,916 62,465 20,233 4,397 --------- ---------- --------- --------- -------- Loss from operations. . . . . . . . . . (41,793) (105,134) (52,372) (16,859) (3,884) Other income, net . . . . . . . . . . . 1,189 1,536 1,705 892 335 --------- ---------- --------- --------- -------- Loss before provision for income taxes and extraordinary item . . . . . . . (40,604) (103,598) (50,667) (15,967) (3,549) Provision for income taxes. . . . . . . 16 268 290 79 36 --------- ---------- --------- --------- -------- Loss before extraordinary item. . . . . (40,620) (103,866) (50,957) (16,046) (3,585) Extraordinary item-gain on early retirement of debt . . . . . . . . . - - 1,356 - - --------- ---------- --------- --------- -------- Net loss. . . . . . . . . . . . . . . . $(40,620) $(103,866) $(49,601) $(16,046) $(3,585) ========= ========== ========= ========= ======== Basic and diluted net loss per share (1): Loss before extraordinary item. . . . $ (1.31) $ (3.43) $ (2.06) $ (3.37) $ (1.56) Extraordinary item-gain on early retirement of debt. . . . . . . . . - - 0.06 - - --------- ---------- --------- --------- -------- Net loss. . . . . . . . . . . . . . . $ (1.31) $ (3.43) $ (2.00) $ (3.37) $ (1.56) ========= ========== ========= ========= ======== Weighted average shares outstanding used in basic and diluted per share calculation (1) . . . . . . . . . . . . 31,081 30,286 24,777 4,762 2,294 ========= ========== ========= ========= ======== (1) Weighted average shares outstanding do not include any common stock equivalents because the inclusion of those common stock equivalents would have been anti-dilutive. See the consolidated financial statements and the related notes appearing elsewhere in this Form 10-K for the determination of shares used in computing basic and diluted net loss per share.
13
DECEMBER 31, -------------------------------------------------- 2001 2000 1999 1998 1997 ------ ------- --------------- ------- ------- (in thousands) CONSOLIDATED BALANCE SHEETS DATA: Cash and cash equivalents and short- term investments . . . . . . . . . $2,614 $16,346 $ 55,875 $30,149 $18,874 Working capital. . . . . . . . . . . 3,012 13,568 52,965 27,009 17,117 Total assets . . . . . . . . . . . . 5,973 54,531 138,843 38,130 19,462 Capital lease obligations, excluding current installments . . . . . . . - 382 2,201 2,006 99 Total stockholders' equity . . . . . 3,262 43,946 126,909 30,301 17,352
14 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD LOOKING STATEMENTS ---------------------------- The following Management's Discussion and Analysis of Financial Condition and Results of Operations contains "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These forward-looking statements can be identified by the use of predictive, future-tense or forward-looking terminology, such as "believes," "anticipates," "expects," "estimates," "plans," "may," "intends," "will," or similar terms. Investors are cautioned that any forward-looking statements are not guarantees of future performance and involve significant risks and uncertainties, and that actual results may differ materially from those projected in the forward-looking statements as a result of various factors described under "Risk Factors" and elsewhere in this report. The following discussion should be read together with the consolidated financial statements and notes to those statements included elsewhere in this report. OVERVIEW As of December 31, 2001, we were a network of four wholly owned properties, each of which specializes in the games business by delivering games information and selling games in the United States and abroad. These properties are: our print publication Computer Games Magazine; our Computer Games Online website (www.cgonline.com), which is the online counterpart to Computer Games Magazine; ----------------- our Chips & Bits, Inc. (www.chipsbits.com) games distribution company; and, our ----------------- Happy Puppy website (www.happypuppy.com), which provides game reviews, cheats, and downloads for users. In February 2002, the Company sold all of the assets used in connection with the Happy Puppy website to Internet Game Distribution, LLC (See Note 16 of notes to consolidated financial statements - Subsequent Events). Our revenues are derived principally from the sale of print advertisements under short-term contracts in our games information magazine Computer Games, which we acquired in February 2000; through the sale of video games and related products through our games distribution business Chips & Bits, Inc.; through the sale of our games information magazine through newsstands and subscriptions; through electronic commerce revenue shares (representing our share of the proceeds from our e-commerce partners' sales); and through limited sale of online advertisements, which includes the development and sale of sponsorship placements within our web sites (we earn revenue on sponsorship contracts for fees relating to the design, coordination, and integration of the customer's content and links). In April 1999, we acquired Attitude Networks, Ltd., a provider of online games information content whose websites included Happy Puppy, Games Domain and Kids Domain, three leading websites serving game enthusiasts. The aggregate purchase price amounted to $46.8 million and was comprised, in part, of approximately 1.6 million shares of newly issued Common Stock. In May 1999, we completed a secondary public offering of 3.5 million shares of Common Stock at an offering price of $20.00 per share. Net proceeds amounted to $65.0 million, after underwriting discounts of $3.5 million and offering costs of $1.5 million. In December 1999, we acquired the web hosting assets of Webjump.com, a web hosting property that primarily focuses on small businesses. The total purchase price for this transaction was $13.0 million and was primarily comprised of 1.1 million shares of newly issued Common Stock. An additional $12.5 million, payable in newly issued shares of Common Stock, was contingent based upon the attainment of certain performance targets measured as of November 30, 2000. Management determined that such targets were not achieved as of the measurement date, however, on February 14, 2001 the former shareholder group filed a law suit against us claiming that they are entitled to $9.5 million related to the above mentioned targets. That lawsuit was settled by the Company for payment of $175,000 in August 2001. See Part I - Item 3 - "Legal Proceedings" and Note 5 (d) of our consolidated financial statements for additional information. 15 In February 2000, we acquired Chips & Bits, Inc. and Strategy Plus, Inc., providers of online and offline entertainment content focused towards game enthusiasts. The total purchase price for this transaction was approximately $15.3 million and was comprised, in part, of 1.9 million newly issued shares of Common Stock. An additional $1.25 million, payable in newly issued shares of Common Stock, was contingent on the attainment of certain performance targets by Chips & Bits, Inc. and Strategy Plus, Inc. During August 2001, the Company settled the contingency resulting in no additional consideration being paid to the former shareholders. RESULTS OF OPERATIONS YEAR ENDED DECEMBER 31, 2001 COMPARED TO YEAR ENDED DECEMBER 31, 2000 Revenues. Our revenues were derived principally from the sale of print advertisements under short-term contracts in our games information magazine Computer Games, which was acquired in February 2000; through the sale of video games and related products through games distribution business Chips & Bits, Inc.; through the sale of our games information magazine through newsstands and subscriptions; and through limited sale of online advertisements principally under short-term advertising arrangements, averaging one to three months. Revenues decreased to $16.1 million for the year ended December 31, 2001 as compared to $29.9 million for the year ended December 31, 2000. Advertising revenues for the year ended December 31, 2001 were $6.4 million, which represented 40% of total revenues. Advertising revenues for the year ended December 31, 2000 were $19.5 million, which represented 65% of total revenues. The decrease in advertising revenues was primarily attributable to a significant industry-wide decrease in the online advertising market, which is expected to continue through at least the second quarter of 2002, and possibly through the full-year 2002, and to a dramatic reduction in the Company's sales force as part of the August 2001 cost reduction and restructuring initiatives, which included closing of www.theglobe.com website business. Advertising revenue from our ---------------- online properties decreased to $2.9 million for the year ended December 31, 2001, compared to $15.0 million for the year ended December 31, 2000. Advertising revenue from our games magazine, which was acquired in February 2000, accounted for $3.5 million and $4.5 million, of the total advertising revenues for the years ended December 31, 2001 and December 31, 2000, respectively. Sales of merchandise through our online store accounted for 31% of total revenues for the year ended December 31, 2001, or $5.1 million, as compared to 24% for the year ended December 31, 2000, or $7.2 million. The decrease was partially attributable to recent advances in console and online games, which traditionally have less sales loyalty to our online store, and to a dramatic reduction in the number of major PC games releases, on which our online store relies for the majority of sales and profits. In order to realign our e-commerce operations to focus on video games and related products, the Company elected in April 2000 to shut down its electronic commerce operations in Seattle, Washington, which it acquired in February 1999 (see Notes 3 and 4 to the consolidated financial statements). Sales of our games information magazine through newsstands and subscriptions accounted for $4.7 million, or 29%, and $3.2 million, or 11%, of total revenues for the years ended December 31, 2001 and December 31, 2000, respectively. We acquired our games information magazine in February 2000. Price increases and significant increases in circulation account for the year-over-year increase. Barter advertising revenues represented 1% of total revenues for the year ended December 31, 2001 and 4% of total revenues for the year ended December 31, 2000. Cost of Revenues. Cost of revenues consists primarily of Internet connection charges, staff and related costs of operations personnel, depreciation and maintenance costs of website equipment, printing costs of our games magazine and the costs of merchandise sold and shipping fees in connection with our online store. Gross margins were 24% and 36% for the years ended December 31, 2001 and December 31, 2000, respectively. The year-to-year decrease in gross margins was primarily attributable to a higher concentration of electronic commerce and print advertising sales in our games information magazine, both of which traditionally result in lower gross margins than online advertising revenues. Sales and Marketing. Sales and marketing expenses consist primarily of salaries and related expenses of sales and marketing personnel, commissions, advertising and marketing costs, public relations expenses, promotional activities and barter expenses. Sales and marketing expenses were $9.8 million for the year ended December 31, 2001 as compared to $23.9 million for the year ended December 31, 2000. The year-to-year decrease in sales and marketing expense was attributable to reduced personnel costs and decreased advertising costs. As of December 31, 2001, we have an internal advertising sales staff of two (2) professionals as of December 31, 2001, both of whom are dedicated to selling advertising space in our Computer Games print magazine, and to a lesser extent on our Computer Games Online website, which is the online counterpart to Computer Games magazine. In August 2001 we were forced to lay off almost all our national sales staff due to the continue decline in the advertising market. As of December 31, 2001, we have 19 employees employed in our sales and marketing department. 16 Product Development. Product development expenses include salaries and related personnel costs, expenses incurred in connection with the development of, testing of and upgrades to our websites and community management tools, and editorial and content costs. Product development expenses decreased to $3.8 million for the year ended December 31, 2001, as compared to $10.5 million for the year ended December 31, 2000. The year-to-year decrease was related to our restructuring and cost containment initiatives. In August 2001 we were forced to lay off almost all our product development staff due to the continue decline in the business. As of December 31, 2001, we have 12 employees employed in our product development department. General and Administrative Expenses. General and administrative expenses consist primarily of salaries and related personnel costs for general corporate functions including finance, human resources, legal and facilities, outside legal and professional fees, directors and officers insurance, bad debt expenses and general corporate overhead costs. General and administrative expenses were $6.6 million for the year ended December 31, 2001 as compared to $13.2 million for the year ended December 31, 2000. The year-to-year decrease was primarily attributable to decreased salaries and personnel costs as a result of our restructuring and cost containment initiatives. In August 2001 we were forced to lay off almost all our general and administration staff due to the continue decline in the business. As of December 31, 2001, we have 8 employees employed in our general and administration department. Restructuring and Impairment Charges. For the years ended December 31, 2001, and December 31, 2000, the Company recorded restructuring and impairment charges of $17.1 million and $41.3 million, respectively. Year ended December 31, 2001 In the second quarter of 2001, we announced cost-reduction initiatives. These initiatives included the elimination of 59 positions, or 31% of our workforce. The severance benefits of $470,000 were paid in the second quarter of 2001. Additionally, we closed our San Francisco office in May 2001 and an additional $54,000 security deposit was relinquished as settlement to terminate the remaining lease obligation. In the second quarter of 2001, we recorded impairment charges of $4.5 million related to the servers and computers used for serving and hosting www.webjump.com and www.theglobe.com as a result of management's ongoing - ---------------- business review and impairment analysis performed under its existing policy regarding impairment of long-lived assets. In the third quarter of 2001, we continued our cost cutting measures. We eliminated 60 additional positions, or 58% of our workforce. As a result, severance benefits of $1.0 million were paid in the third quarter of 2001. Additionally, we terminated our lease at 120 Broadway in New York and relocated our operations to a significantly smaller temporary facility in New York, in September 2001. We also decided to shut down our www.theglobe.com and www.webjump.com websites effective August 15, 2001. The servers located in a facility in Staten Island, New York were in use through August 31, 2001. We discontinued the use of these servers on August 31, 2001 and we are now using outsourced hosted facilities for our live websites. As a result of these measures, we recorded net restructuring and impairment charges related to the fixed assets consisting of computer hardware and software, furniture and fixtures, communications equipment and leasehold improvements at the two locations totaling approximately $3.67 million, and miscellaneous net restructuring credit amounts related to the settlement of prepaid items, accruals and capital lease obligations totaling approximately $0.26 million. 17 Further, in the third quarter of 2001, we recorded additional impairment charges of $4.2 million, of which $3.6 million related to Chips & Bits and Strategy Plus and $0.6 million related to Attitude Network, Ltd. related to goodwill and other intangible assets, as a result of management's ongoing business review and impairment analysis performed under its existing policy regarding impairment of long-lived assets. In the fourth quarter of 2001, severance benefits of $0.1 million were paid out relating to the cost cutting measures initiated in the third quarter 2001. The company recorded an additional impairment charge of $3.3 million in goodwill related to Chips & Bits and Strategy Plus as result of as a result of management's ongoing business review and impairment analysis performed under its existing policy regarding impairment of long-lived assets. Where impairment indicators were identified, management determined the amount of the impairment charge by comparing the carrying values of goodwill and other long-lived assets to their fair values. Management determines fair value based on a market approach, which during 2001, mainly included proposals for sale of its business properties. As a result, during management's quarterly review of the value and periods of amortization of both goodwill and other long-lived assets, it was determined that the carrying value of goodwill and certain other tangible and intangible assets were not fully recoverable. During 2001, our revaluation of goodwill and intangible assets related to Attitude Network, Ltd., Strategy Plus, Inc. and Chips & Bits, Inc. and certain acquired tangible assets such as the servers and computers used for serving and hosting our various websites was triggered by the continued and prolonged decline in Internet advertising throughout 2000 and 2001, which significantly impacted current projected advertising revenue generated from these web-based properties and downturn in computer games e-commerce business and has resulted in declines in operating and financial metrics over the past several quarters, in comparison to the metrics forecasted at the time of their respective acquisitions. It was determined that the fair value of goodwill and intangible assets related to our web-based properties, other businesses and tangible assets were less than the recorded amount. The methodology used to test for and measure the amount of the impairment charge related to the intangible assets was based on the same methodology as used during the initial acquisition valuation of these web-based properties and other businesses. The impairment related to the tangible assets was based on the estimated net realizable value of these assets. The impairment factors evaluated by management may change in subsequent periods, given that our business operates in a highly volatile business environment. This could result in material impairment charges in the future. As of December 31, 2001, the amount remaining in the Company's restructuring accruals recorded in 2001 and 2000 was $200,000 and $0. As of December 31, 2001, after giving effect to the fourth quarter of 2000 and full-year 2001 impairment charges the total remaining amount of goodwill and other intangible assets, net, is $0 for Attitude Networks, which was acquired in April 1999, and $0 for Chips & Bits and Strategy Plus, which was acquired in February 2000. The impairment factors evaluated by management may change in subsequent periods, given that our business operates in a highly volatile business environment. Year ended December 31, 2000 In the second quarter of 2000, we recorded a $15.6 million restructuring charge as a result of a strategic decision made by management to shut down our electronic commerce operations in Seattle, Washington in order to realign our electronic commerce operations to focus on the direct sale of video games and related products as well as revenue share relationships with third parties who are interested in reaching our targeted audiences. The $15.6 million charge incurred primarily related to a $12.8 million write-off of the remaining goodwill and intangibles associated with our 1999 acquisition of Factorymall.com, costs associated with the closing of the Seattle operations of $0.5 million, write-offs related to the disposal of inventory, equipment and other assets of $1.7 million as well as $0.6 million of employee severance and related benefits incurred primarily related to the termination of 30 employees. In the fourth quarter of 2000, we incurred an additional $25.7 million in restructuring and impairment charges as follows: 18 - We recorded a restructuring charge of $1.8 million, including $398,000 of non-cash compensation, as a result of strategic decisions made by management to increase operational efficiencies, improve margins and further reduce expenses. The restructuring charge primarily related to a workplace reduction of 26 employees. - In addition, we recorded an impairment charge of $4.3 million in connection with our termination of a distribution agreement with Sportsline in November 2000. - We also recorded impairment charges of $19.6 million as a result of management's ongoing business review and impairment analysis performed under its existing policy regarding impairment of long-lived assets. In 1999, we completed acquisitions of Attitude Network, Ltd. and the web hosting assets of Webjump.com that were financed principally with shares of our common stock, and were valued based on the price of our common stock at that time. Our revaluation was triggered by the continued decline in Internet advertising throughout 2000, which significantly impacted current projected advertising revenue generated from these web based properties. In addition, each of these web based properties have experienced declines in operating and financial metrics over the past several quarters, primarily due to the continued weak overall demand of on-line advertising and marketing services, in comparison to the metrics forecasted at the time of their respective acquisitions. The impairment analysis considered that these web-based properties were acquired during 1999 and that the intangible assets recorded at the time of acquisition was being amortized over useful lives of 2-3 years (3 years for goodwill). As a result, it was determined that the fair value of Attitude's and Webjump's goodwill and other intangible assets were less than the recorded amount, therefore, an impairment charge of $13.6 million and $6.0 million, respectively, were recorded. The methodology used to test for and measure the amount of the impairment charge was based on the same methodology we used during our initial acquisition valuation of Attitude and Webjump in 1999. Amortization of Goodwill and Intangible Assets. Amortization expense was $8.5 million for the year ended December 31, 2001, compared to $27.2 million for the year ended December 31, 2000. The year-to-year decrease in amortization expense was primarily attributable to the write-down of goodwill and intangibles assets that occurred in the fourth quarter of 2000 and second quarter of 2001. See Recent Accounting Pronouncements of notes to consolidated financial statements, Note 1 (u). Interest and other income, net. Interest and other income, net primarily includes interest income from our cash and cash equivalents and short-term investments, interest expense related to our capital lease obligations and realized gains and losses from the sale of short-term investments. Interest and other income, net were $1.2 million and $1.5 million for the years ended December 31, 2001 and December 31, 2000, respectively. The year-over-year decrease was primary attributable to a decrease in income earned as a result of a lower cash and cash equivalent and short-term investment balance. Income Taxes. Income taxes were approximately $16,000 for the year ended December 31, 2001 compared with $268,000 for the year ended December 31, 2000. Income taxes were based solely on state and local taxes on business and investment capital. Our effective tax rate differs from the statutory federal income tax rate, primarily as a result of the uncertainty regarding our ability to utilize our net operating loss carryforwards. Due to the uncertainty surrounding the timing or realization of the benefits of our net operating loss carryforwards in future tax returns, we have placed a 100% valuation allowance against our otherwise recognizable deferred tax assets. At December 31, 2001, the Company had net operating loss carry forwards available for U.S. and foreign tax purposes of approximately $115 million. These carryforwards expire through 2021. The Tax Reform Act of 1986 imposes substantial restrictions on the utilization of net operating losses and tax credits in the event of an "ownership change" of a corporation. Due to the change in our ownership interests in the third quarter of 1997 and May 1999, as defined in the Internal Revenue Code of 1986, as amended (the "Code"), future utilization of our net operating loss carryforwards prior to the change of ownership will be subject to certain limitations or annual restrictions. YEAR ENDED DECEMBER 31, 2000 COMPARED TO YEAR ENDED DECEMBER 31, 1999 Revenues. Revenues increased to $29.9 million for the year ended December 31, 2000 as compared to $18.6 million for the year ended December 31, 1999. Advertising revenues for the year ended December 31, 2000 were $19.5 million, which represented 65% of total revenues. Advertising revenues for the year ended December 31, 1999 were $16.4 million, which represented 88% of total revenues. The growth in advertising revenues was attributable to the revenues from our games magazine, which was acquired in February 2000. Revenue from our games magazine accounted for $4.5 million of the total advertising revenues for the year ended December 31, 2000. The increase in advertising revenues attributable to our games magazine was partially offset by a decline in online advertising revenues due to an industry-wide decline in online advertising spending primarily in the second half of 2000, and which continued into 2001. Sales of merchandise through our online store accounted for 24% of total revenues for the year ended December 31, 2000, or $7.2 million, as compared with 12% of total revenues for the year ended December 31, 1999, or $2.2 million. The increase in electronic commerce revenue of $5.0 million was attributable to increased online sales from our acquisition of Chips & Bits, Inc. in February 2000. In order to realign our e-commerce operations to focus on video games and related products, the Company elected in April 2000 to shut down its electronic commerce operations in Seattle, Washington which we acquired in February 1999 (see Notes 3 and 4 to the consolidated financial statements). Other revenues of $3.2 million were comprised of newsstand sales and subscriptions of our games information magazine, which we acquired in February 2000. Barter advertising revenues represented 4% of total revenues for the year ended December 31, 2000 and 5% of total revenues for the year ended December 31, 1999. 19 Cost of Revenues. Gross margins were 36% and 54% for the years ended December 31, 2000 and 1999, respectively. The year-to-year decrease in the gross margins was primarily attributable to a higher mix of electronic commerce sales and print advertising sales in our games information magazine, both of which traditionally result in lower gross margins than online advertising revenues. The absolute dollar increase in cost of revenues was mainly due to printing costs related to our games magazine, which was acquired in February 2000, and additional costs of merchandise attributable to increased sales through our online store. Additional absolute dollar increases were due to an increase in Internet connection costs to support the increase in web site traffic, an increase in depreciation expense related to increased equipment costs and personnel costs required to support the expansion of our sites and services. Sales and Marketing. Sales and marketing expenses were $23.9 million for the year ended December 31, 2000 as compared to $19.4 million for the year ended December 31, 1999. The year-to-year increase in sales and marketing expense was mainly attributable to promotional expenses incurred in order to promote our games magazine and support our online store. Product Development. Product development expenses were $10.2 million for the year ended December 31, 2000 as compared to $10.5 million for the year ended December 31, 1999. Product development expenses have decreased slightly from prior year mainly as a result of our effort to consolidate duties and reduce headcount. General and Administrative Expenses. General and administrative expenses were $13.2 million for the year ended December 31, 2000 as compared to $12.2 million for the year ended December 31, 1999. The year-to-year increase was primarily attributable to increased costs associated with the operation of our games magazine and our games online store, which we acquired in February 2000, and higher than anticipated bad-debt expenses. Restructuring and Impairment Charges. For the year ended December 31, 2000, we recorded restructuring and impairment charges of $41.3 million. In the second quarter of 2000, we recorded a $15.6 million restructuring charge as a result of a strategic decision made by management to shut down our electronic commerce operations in Seattle, Washington in order to realign our electronic commerce operations to focus on the direct sale of video games and related products as well as revenue share relationships with third parties who are interested in reaching our targeted audiences. The $15.6 million charge incurred primarily related to a $12.8 million write-off of the remaining goodwill and intangibles associated with our 1999 acquisition of Factorymall.com, costs associated with the closing of the Seattle operations of $0.5 million, write-offs related to the disposal of inventory, equipment and other assets of $1.7 million as well as $0.6 million of employee severance and related benefits incurred primarily related to the termination of 30 employees. In the fourth quarter of 2000, we incurred an additional $25.7 million in restructuring and impairment charges as follows: 20 - We recorded a restructuring charge of $1.8 million, including $398,000 of non-cash compensation, as a result of strategic decisions made by management to increase operational efficiencies, improve margins and further reduce expenses. The restructuring charge primarily related to a workplace reduction of 26 employees. - In addition, we recorded an impairment charge of $4.3 million in connection with our termination of a distribution agreement with CBS Sportsline in November 2000. - As discussed above, we also recorded impairment charges of $19.6 million as a result of management's ongoing business review and impairment analysis performed under its existing policy regarding impairment of long-lived assets. Amortization of Goodwill and Intangible Assets. Amortization expense was $27.2 million for the year ended December 31, 2000 as compared to $20.5 million for the year ended December 31, 1999. The year-to-year increase in amortization expense was primarily attributable to the acquisitions of Chips & Bits, Inc. and Strategy Plus, Inc. in February 2000 and the purchase of the web hosting assets of Webjump.com in December 1999. The Company recorded goodwill and intangible assets of $28.7 million in connection with these transactions. The total gross amount of goodwill and purchased intangibles, after eliminating impairment charges discussed above, as of December 31, 2000 was $56.5 million and is being amortized over the expected periods of benefit ranging from two to three years (three years for goodwill). Interest and other income, net. Interest and other income, net were $1.3 million and $1.7 million for the years ended December 31, 2000 and December 31, 1999, respectively. The decrease was primarily attributable to a decrease in interest income earned as a result of a lower cash and cash equivalent and short-term investment balance. Income Taxes. Income taxes were approximately $268,000 for the year ended December 31, 2000 as compared with $290,000 for the year ended December 31, 1999. Income taxes were based solely on state and local taxes on business and investment capital. LIQUIDITY AND CAPITAL RESOURCES As of December 31, 2001, we had approximately $2.6 million in cash and cash equivalents and approximately $51,000 in short-term investments. Net cash used in operating activities was $16.4 million, $34.7 million, and $30.1 million for the years ended December 31, 2001, December 31, 2000, and December 31, 1999, respectively. The decrease in net cash used in operating activities from December 31, 2000 to December 31, 2001 resulted primarily from a decrease in our net operating losses, exclusive of depreciation expenses and amortization expenses related to our acquisitions and non-cash charges. This decrease was also attributable to a reduction in accounts receivable and prepaid expenses, offset by a reduction in accounts payable and accrued expenses. Net cash provided by (used in) investing activities was $7.2 million, $13.3 million, and ($25.4) million for the years ended December 31, 2001, December 31, 2000, and December 31, 1999, respectively. The decreases in net cash provided in investing activities was primarily attributable to decreases in the proceeds received from the sale of short-term investments, the receipt of security deposits which were partially used to buy out certain capital and operating lease obligations offset by lower purchases of property and equipment and increase in proceeds from sale of property. Net cash provided by (used in) by financing activities was approximately ($1.6) million, ($2.0) million, and $62.8 million for the years ended December 31, 2001, December 31, 2000, and December 31, 1999, respectively. The decrease from December 31, 2000 to December 31, 2001 in net cash used in financing activities was primarily attributable to less capital lease obligations in 2001. The cash provided by financing activities in 1999 was mainly attributable to net proceeds received from our secondary public offering of Common Stock and proceeds received from the exercise of stock options and warrants. As of December 31, 2001, there was $200,000 to be paid out as a result of restructuring activities during the years December 31, 2001 and 2000. The remaining amount will be expended through March 2002. 21 Currently, the Company is in discussions with Mr. Charles M. Peck, Chief Executive Officer, regarding potential additional cash compensation of up to $1 million to be paid to Mr. Peck upon future achievement of certain incentives. Our capital requirements depend on numerous factors, including market acceptance of our services, the capital required to maintain our websites, the resources we devote to marketing and selling our services and our brand promotions and other factors. We have experienced a substantial decrease in our capital and marketing expenditures and lease arrangements since last year consistent with the reduction in our operations and staffing. We have received a report from our independent accountants, relating to our December 31, 2001 audited financial statements containing an explanatory paragraph stating that our recurring losses from operations since inception and requirement for additional financing raise substantial doubt about our ability to continue as a going concern. In addition to the revenue plan, management and the Board of Directors are currently exploring a number of strategic alternatives and are also continuing to identify and implement internal actions to improve the Company's liquidity or financial performance. These alternatives may include selling assets, which in any such case could result in significant changes in our business plan, or entering into new or different lines of business, which may include investments in real estate. As of December 31, 2001, our sole source of liquidity consisted of $2.6 million of cash and cash equivalents and short-term investments. We currently do not have access to any other sources of funding, including debt and equity financing facilities. As of December 31, 2001, our principal commitments consisted of amounts outstanding under operating leases. Due to our cost-reductions and restructuring initiatives, we believe that we have sufficient funds to continue operating at our present level of operations for a period of at least 6 months, and potentially, up to 12 months depending upon the economic conditions affecting the advertising, magazine subscription and e-commerce revenue generating activities for our remaining properties and amounts received, if any, if we sell any of our remaining assets. The Company has limited operating capital and no current access to credit facilities. The Company's continued operations therefore will depend on its ability to keep costs down, achieve revenue goals, and sell assets or raise additional funds through bank borrowings or equity or debt financing which financing is very unlikely. MARKET FOR COMPANY'S COMMON EQUITY The shares of our Common Stock were delisted from the Nasdaq national market in April 2001 and are now traded in the over-the-counter market on what is commonly referred to as the electronic bulletin board. As a result, an investor may find it more difficult to dispose of or obtain accurate quotations as to the market value of the securities. The trading volume of our shares has dramatically declined since the delisting. In addition, we are now subject to a Rule promulgated by the Securities and Exchange Commission that, if we fail to meet criteria set forth in such Rule, various practice requirements are imposed on broker-dealers who sell securities governed by the Rule to persons other than established customers and accredited investors. For these types of transactions, the broker-dealer must make a special suitability determination for the purchaser and have received the purchaser's written consent to the transactions prior to sale. Consequently, the Rule may have a materially adverse effect on the ability of broker-dealers to sell the securities, which may materially affect the ability of shareholders to sell the securities in the secondary market. The delisting has made trading our shares more difficult for investors, potentially leading to further declines in share price. It would also make it more difficult for us to raise additional capital, although we have no intentions to do so. We will also incur additional costs under state blue sky laws if we sell equity due to our delisting. EFFECTS OF INFLATION Due to relatively low levels of inflation in 2001, 2000 and 1999, inflation has not had a significant effect on our results of operations since inception. 22 MANAGEMENT'S DISCUSSION OF CRITICAL ACCOUNTING POLICIES AND ESTIMATES The preparation of our financial statements in conformity with accounting principles generally accepted in the United States of America requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Our estimates, judgments and assumptions are continually evaluated based on available information and experience. Because of the use of estimates inherent in the financial reporting process, actual results could differ from those estimates. Certain of our accounting policies require higher degrees of judgment than others in their application. These include revenue recognition, valuation of customer receivables, impairment of intangible assets, restructuring reserves and income tax recognition of deferred tax items. Our policy and related procedures for revenue recognition, valuation of customer receivables, impairment of intangible assets and restructuring reserves are summarized below. REVENUE RECOGNITION. The Company's revenues were derived principally from the sale of print advertisements under short-term contracts in our games information magazine Computer Games, through the sale of our games information magazine through newsstands and subscriptions; and through limited sale of online advertisements principally under short-term advertising arrangements, averaging one to three months. Online advertising revenues are recognized ratably in the period in which the advertisement is displayed, provided that no significant Company obligations remain and collection of the resulting receivable is probable. Company obligations typically include the guarantee of a minimum number of "impressions", defined as the number of times that an advertisement appears in pages viewed by the users of the Company's online properties, for a fixed fee. Payments received from advertisers prior to displaying their advertisements on the Company's sites are recorded as deferred revenues and are recognized as revenue ratably when the advertisement is displayed. To the extent minimum guaranteed impressions levels are not met, the Company defers recognition of the corresponding revenues until guaranteed levels are achieved. The Company's online advertising revenue includes the development and sale of sponsorship placements within its web sites. Development fees related to the sale of sponsorship placements on the Company's web sites are deferred and recognized ratably as revenue over the term of the contract. The Company also derives revenue through the sale of advertisements in its games information magazine, Advertising revenues for the games information magazine are recognized at the on-sale date of the magazine. The Company trades advertisements on its web properties in exchange for advertisements on the Internet sites of other companies. Barter revenues and expenses are recorded at the fair market value of services provided or received, whichever is more readily determinable in the circumstances. Revenue from barter transactions is recognized as income when advertisements are delivered on the Company's web properties. Barter expense is recognized when the Company's advertisements are run on other companies' web sites, which typically occurs in the same period in which barter revenue is recognized. The Company derives other revenues from the sale of video games and related products through its online store, the sale of its games information magazine through newsstands and subscriptions. Sales from the online store are recognized as revenue when the product is shipped to the customer. Freight out costs are included in net sales and have not been significant to date. The Company provides an allowance for merchandise sold through its online store. The allowance provided to date has not been significant. Newsstand sales of the games information magazine are recognized at the on-sale date of the magazine, net of provisions for estimated returns. Subscriptions are recorded as deferred revenue when initially received and recognized as income pro ratably over the subscription term. Revenues from the Company's share of the proceeds from its e-commerce partners' sales are recognized upon notification from its partners of sales attributable to the Company's sites. There is no certainty that events beyond anyone's control such as economic downturns or significant decreases in print advertisement could occur and accordingly, cause significant decreases in revenue. 23 VALUATION OF CUSTOMER RECEIVABLES Provisions for allowance for doubtful accounts are made based on historical loss experience adjusted for specific credit risks. Measurement of such losses requires consideration of the company's historical loss experience, judgments about customer credit risk, and the need to adjust for current economic conditions. IMPAIRMENT OF INTANGIBLE ASSETS Impairment of intangible assets result in a charge to operations whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of an asset to be held and used is measured by a comparison of the carrying amount of the asset to future net cash flows expected to be generated by the asset. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the asset exceeds the fair value of the asset. The measurement of the future net cash flows to be generated is subject to management's reasonable expectations with respect to the company's future operations and future economic conditions which may affect those cash flows. The measurement of fair value in lieu of a public market for such assets or a willing unrelated buyer relies on management's reasonable estimate of what a willing buyer would pay for such assets. Management's estimate is based on its knowledge of the industry, what similar assets have been valued in sales transactions and current market conditions. The Company will adopt SFAS 142 in 2002, which requires that goodwill and intangible assets with indefinite lives will no longer be amortized but will be subject to impairment review. Long-lived tangible assets and intangible assets with definite lives will be subject to impairment under SFAS No. 144. RESTRUCTURING RESERVES The Company has adopted restructuring plans, in relation to its business in recent years. In order to identify and calculate the associated costs to exit these businesses, management makes assumptions regarding estimates of future liabilities for operating leases and other contractual obligations, the net realizable value of assets held for disposal. Management believes its estimates, which are reviewed quarterly, to be reasonable and considers its knowledge of the industry, its previous experience in exiting activities and valuations from independent third parties, in calculation of such estimates. IMPACT OF RECENTLY ISSUED ACCOUNTING STANDARDS In June 2001, the Financial Accounting Standards Board issued SFAS No. 141, "Business Combinations," and SFAS No. 142, "Goodwill and Other Intangible Assets." SFAS No. 141 requires that the purchase method of accounting be used for all business combinations. SFAS No. 141 specifies criteria that intangible assets acquired in a business combination must meet to be recognized and reported separately from goodwill. SFAS No. 142 will require that goodwill and intangible assets with indefinite useful lives no longer be amortized, but instead tested for impairment at least annually in accordance with the provisions of SFAS No. 142. SFAS No. 142 also requires that intangible assets with estimable useful lives be amortized over their respective estimated useful lives to their estimated residual values, and reviewed for impairment in accordance with SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of," and subsequently SFAS No. 144 after its adoption. The Company adopted the provisions of SFAS No. 141 as of July 1 2001 and SFAS No. 142 is effective January 1, 2002. Goodwill and intangible assets determined to have an indefinite useful life acquired in a purchase business combination completed after June 30, 2001, but before SFAS No. 142 is adopted in full, are not amortized. Goodwill and intangible assets acquired in business combinations completed before July 1, 2001 will continue to be amortized and tested for impairment prior to the full adoption of SFAS No. 142. 24 Upon adoption of SFAS No. 142, the Company is required to evaluate its existing intangible assets and goodwill that were acquired in purchase business combinations, and to make any necessary reclassifications in order to conform with the new criteria in SFAS No. 141 for recognition separate from goodwill. The Company will be required to reassess the useful lives and residual values of all intangible assets acquired, and make any necessary amortization period adjustments by the end of the first interim period after adoption. If an intangible asset is identified as having an indefinite useful life, the Company will be required to test the intangible asset for impairment in accordance with the provisions of SFAS No. 142 within the first interim period. Impairment is measured as the excess of carrying value over the fair value of an intangible asset with an indefinite life. Any impairment loss will be measured as of the date of adoption and recognized as the cumulative effect of a change in accounting principle in the first interim period. In connection with SFAS No. 142's transitional goodwill impairment evaluation, the statement requires the Company to perform an assessment of whether there is an indication that goodwill is impaired as of the date of adoption. To accomplish this the Company must identify its reporting units and determine the carrying value of each reporting unit by assigning the assets and liabilities, including the existing goodwill and intangible assets, to those reporting units as of January 1, 2002. The Company will then have up to six months from the date of adoption to determine the fair value of each reporting unit and compare it to the reporting unit's carrying amount. To the extent a reporting unit's carrying amount exceeds its fair value, an indication exists that the reporting unit's goodwill may be impaired and the Company must perform the second step of the transitional impairment test. The second step is required to be completed as soon as possible, but no later than the end of the year of adoption. In the second step, the Company must compare the implied fair value of the reporting unit's goodwill, determined by allocating the reporting unit's fair value to all of it assets (recognized and unrecognized) and liabilities in a manner similar to a purchase price allocation in accordance with SFAS No. 141, to its carrying amount, both of which would be measured as of the date of adoption. In August 2001, the Financial Accounting Standards Board issued FASB Statement No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets (Statement 144), which supersedes both FASB Statement No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of (Statement 121) and the accounting and reporting provisions of APB Opinion No. 30, Reporting the Results of Operations-Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions (Opinion 30), for the disposal of a segment of a business (as previously defined in that Opinion). Statement 144 retains the fundamental provisions in Statement 121 for recognizing and measuring impairment losses on long-lived assets held for use and long-lived assets to be disposed of by sale, while also resolving significant implementation issues associated with Statement 121. For example, Statement 144 provides guidance on how a long-lived asset that is used as part of a group should be evaluated for impairment, establishes criteria for when a long-lived asset is held for sale, and prescribes the accounting for a long-lived asset that will be disposed of other than by sale. Statement 144 retains the basic provisions of Opinion 30 on how to present discontinued operations in the income statement but broadens that presentation to include a component of an entity (rather than a segment of a business). Unlike Statement 121, an impairment assessment under Statement 144 will never result in a write-down of goodwill. Rather, goodwill is evaluated for impairment under Statement No. 142, Goodwill and Other Intangible Assets. The Company is required to adopt Statement 144 no later than the year beginning after December 15, 2001, and plans to adopt its provisions for the quarter ending March 31, 2002. Management does not expect the adoption of Statement 144 for long-lived assets held for use to have a material impact on the Company's financial statements because the impairment assessment under Statement 144 is largely unchanged from Statement 121. The provisions of the Statement for assets held for sale or other disposal generally are required to be applied prospectively after the adoption date to newly initiated disposal activities. Management has determined that the adoption of Statement 144 will not have a material impact on the Company's financial statements. 25 RISK FACTORS In addition to the other information in this report, the following factors should be carefully considered in evaluating our business and prospects. WE HAVE CLOSED OUR COMMUNITY SITE, OUR SMALL BUSINESS WEB-HOSTING PROPERTY AND HAVE SOLD CERTAIN OF OUR GAMES PROPERTIES AND INTEND TO SELL THE REMAINDER OF OUR GAMES PROPERTIES. WE MAY NOT BE ABLE TO SELL THESE PROPERTIES FOR ANY SIGNIFICANT VALUE. Due to the significant and prolonged decline in the Internet advertising sector, the Company elected to close its community web site at www.theglobe.com and its ---------------- small business web-hosting property at www.webjump.com in August 2001. In --------------- addition, the Company is seeking buyers for its games properties in order to reduce its cash burn and preserve working capital. The Company has already sold substantially all the assets of (i) Kaleidoscope Networks Limited, the English subsidiary of Attitude Network Ltd. that operated GamesDomain.com and GamesDomain.co.uk, (ii) KidsDomain.com and KidsDomain.co.uk, and (iii) HappyPuppy.com and HappyPuppy.co.uk. In addition, the Company sold the URL of webjump.com. This strategy has resulted in the Company shifting its business strategy from operating as a going concern to trying to sell its game properties. The Company may shift its business strategy in the future. The Company may be unable to sell its remaining games properties quickly, if at all, which would result in continued depletion of its cash position since the games business currently operates at a cash loss. The games properties may also lose some of their value while we try to sell them as we do not have full corporate staff to support these businesses. In addition, the "theglobe.com" brand continues to lose significant value since the website www.theglobe.com was taken ---------------- offline August 15, 2001. The closing of our community site and our small business web-hosting site may also adversely affect our electronic commerce due to the inability of those web sites after their closure to refer traffic to the Chips & Bits web site. We cannot assure you that we will be able to sell all or any of the remaining games business quickly, if at all, or at any significant price, or that there will be any return to our equity holders. WE MAY NOT BE ABLE TO CONTINUE AS A GOING CONCERN IF WE ARE UNABLE TO SELL OUR REMAINING GAMES BUSINESSES. We may not be able to operate the remaining business in the event that we cannot sell the business or enter into another arrangement. We may determine to use our remaining capital in a different line of business. At this point there are minimal prospects for a meaningful return on investment. WE MAY DECIDE TO RETAIN OUR CHIPS & BITS INC. GAME DISTRIBUTION BUSINESS AND WE MAY ALSO ENTER NEW LINES OF BUSINESS WHICH MAY OR MAY NOT BE RELATED TO THE INTERNET. Our board of directors is reviewing various options for use of our remaining assets. While we continue to seek buyers for some or all of our remaining games related properties, including our Computer Games print magazine and the associated website Computer Games Online, our Board of Directors may decide to retain our Chips & Bits Inc. game distribution business. If and when we are able to sell our Computer Games print magazine business and the associated website Computer Games Online, our Board of Directors may consider entering into new or different lines of business, including non-Internet related lines of business and investments in real estate. Even if we are unable to sell our Computer Games print magazine and the associated website Computer Games Online, our Board of Directors may still decide to enter into new or different lines of business, including non-Internet related lines of business and investments in real estate. 26 WE MAY HAVE TO TAKE ACTIONS TO AVOID REGISTRATION UNDER THE INVESTMENT COMPANY ACT. Under the Investment Company Act of 1940 (the "1940 Act"), a company meeting the definition of an "investment company" is subject to various stringent legal requirements on its operations. A company can become subject to the 1940 Act if, among other reasons, it owns investment securities with a value exceeding 40 percent of the value of its total assets (excluding government securities and cash items) on an unconsolidated basis, unless a particular exemption of safe harbor applies. Although we are not currently subject to the 1940 Act, at some point in the future due to the ongoing sale of our assets, the percentage of the Company's assets which consist of investment securities may exceed 40 percent of the value of its total assets on an unconsolidated basis. Rule 3a-2 of the 1940 Act provides a temporary exemption from registration under the 1940 Act, for up to one year, for companies that have a bona fide intent to engage, as soon as reasonably possible, in business other than investing, reinvesting, owning, holding or trading in securities ("transient investment companies"). If, due to future sales of our assets, we become subject to the 1940 Act, we intend to take all actions that would allow reliance on the one-year exemption for "transient investment companies", including a resolution by the Board of Directors that the Company has bona fide intent to engage, as soon as reasonably possible, in business other than investing, reinvesting, owning, holding or trading in securities. DELISTING OF OUR COMMON STOCK MAKES IT MORE DIFFICULT FOR INVESTORS TO SELL SHARES. THIS MAY POTENTIALLY LEAD TO FUTURE MARKET DECLINES. The shares of our Common Stock were delisted from the Nasdaq national market in April 2001 and are now traded in the over-the-counter market on what is commonly referred to as the electronic bulletin board. As a result, an investor may find it more difficult to dispose of or obtain accurate quotations as to the market value of the securities. The trading volume of our shares has dramatically declined since the delisting. In addition, we are now subject to a Rule promulgated by the Securities and Exchange Commission that, if we fail to meet criteria set forth in such Rule, various practice requirements are imposed on broker-dealers who sell securities governed by the Rule to persons other than established customers and accredited investors. For these types of transactions, the broker-dealer must make a special suitability determination for the purchaser and have received the purchaser's written consent to the transactions prior to sale. Consequently, the Rule may have a materially adverse effect on the ability of broker-dealers to sell the securities, which may materially affect the ability of shareholders to sell the securities in the secondary market. The delisting has made trading our shares more difficult for investors, potentially leading to further declines in share price. It would also make it more difficult for us to raise additional capital, although we have no intentions to do so. We will also incur additional costs under state blue sky laws if we sell equity due to our delisting. REVENUE GROWTH IN PRIOR PERIODS IS NOT INDICATIVE OF FUTURE GROWTH Although we achieved significant total revenue growth during 1999 and 2000, our online advertising revenue decreased in 2001 due to the softness in the advertising market, which is expected to continue, and due to our cost-reduction and restructuring initiatives, which have resulted in a dramatic reduction in our sales force. Overall, our revenues decreased period to period in each of the first, second, third and fourth quarters of 2001. Commencing in the third quarter 2000, our online advertising revenues decreased by $2.5 million compared to second quarter 2000, and decreased an additional $0.2 million in the fourth quarter of 2000. Additionally, in April 2000, we elected to shut down our e-commerce operations in Seattle, Washington in an effort to realign our electronic commerce operations to focus on video games and related products. This negatively impacted our projected revenue growth from e-commerce. THE COMPANY HAS RESTRUCTURED AND PLANS TO SELL SOME OR ALL OF ITS REMAINING PROPERTIES WHICH WILL MATERIALLY NEGATIVELY AFFECT OUR REVENUES; OR ENTER INTO NEW LINES OF BUSINESS, WHICH MAY INCLUDE INVESTMENTS IN REAL ESTATE On August 3, 2001, we elected to shut down our community operations and small business web hosting. On October 17, 2001, we sold the Games Domain/Console Domain websites. On October 30, 2001, we sold the Kids Domain website. On February 27, 2002, we sold the Happy Puppy website. We also are seeking buyers for the remaining game properties, which may materially affect revenues for our games business since a number of advertisers could choose not to do business with us during the phase-down period. We also dramatically reduced the number of employees, including almost the entire sales staff, which will continue to have a dramatic negative impact on our revenues going forward. Accurate predictions of revenue are also difficult because we are seeking to sell our remaining assets and are exploring various future alternatives, which may include investment in real estate. 27 WE HAVE RECEIVED A REPORT FROM OUR INDEPENDENT AUDITORS THAT RAISE SUBSTANTIAL DOUBT ABOUT OUR ABILITY TO CONTINUE AS A GOING CONCERN. Investors should not rely on past revenues as a prediction of future revenues. In addition, we have received a report from our independent accountants containing an explanatory paragraph stating that we suffered recurring losses from operations since inception that raise substantial doubt about our ability to continue as a going concern. WE EXPECT TO CONTINUE TO INCUR LOSSES. We have incurred net losses in each quarter since our inception and we expect that we will continue to incur net losses for the foreseeable future. We had net losses of approximately $40.7 million, $103.9 million, $49.6 million, $16.0 million, and $3.6 million for the years ended December 31, 2001, 2000, 1999, 1998, and 1997, respectively. As of December 31, 2001, we had an accumulated deficit of approximately $214.5 million. The principal causes of our losses are likely to continue to be: - costs resulting from the operation of our services; - costs resulting from the write down of goodwill; - failure to generate sufficient revenue; and, - general and administrative expenses. Although we have restructured our business, we still expect to continue to incur losses while we seek to sell our remaining assets. THE MARKET SITUATION CONTINUES TO BE A CHALLENGE FOR CHIPS & BITS DUE TO RECENT ADVANCES IN CONSOLE AND ONLINE GAMES, WHICH HAVE LOWER MARGINS AND TRADITIONALLY LESS SALES LOYALTY TO CHIPS & BITS. Chips & Bits depends on major releases in the Personal Computer (PC) market for the majority of sales and profits. The game industry's focus on X-Box, Playstation and GameCube has dramatically reduced the number of major PC releases. Gross margins for Chips & Bits, Inc. were 22% and 26% for the years ended December 31, 2001 and December 31, 2000, respectively. Because of the large installed base of personal computers, this may be a temporary phenomenon. However, Chips & Bits has no knowledge as to when, if ever, there will be a turnaround in the PC game market. Competition among games-focused websites is also growing rapidly, as new companies continue to enter the market and existing companies continue to layer games applications onto their websites. We expect that the market will continue to evolve rapidly, and the rate of product innovations and new product introductions will remain high. We face competitive pressures from many companies, both in the United States and abroad. With the abundance of companies operating in the games market, consumers and advertisers have a wide selection of services to choose from. Our games information websites compete for users and advertisers with: - Games information sites such as Snowball's IGN, ZDnet's Gamespot, and CNET's GameCenter; and - Online games centers, where users can play games such as Uproar, Pogo and Lycos' Gamesville. In addition, many companies involved in the games market may be acquired by, receive investments from, or enter into commercial relationships with larger, well-established and well-financed companies. As a result of this highly fragmented and competitive market, consolidations and strategic ventures may continue in the future. 28 OUR FINANCIAL PERFORMANCE AND SUBSEQUENT REDUCTIONS OF OUR WORKFORCE MAY AFFECT THE MORALE AND PERFORMANCE OF OUR REMAINING PERSONNEL AND OUR ABILITY TO ENTER INTO NEW BUSINESS RELATIONSHIPS OR SELL OUR ASSETS. We have incurred significant net losses since our inception. In an effort to reduce our cash expenses, we began to implement certain restructuring initiatives and cost reductions. In October 2000, we reduced our workforce by 26 employees. In April 2001, we further reduced our workforce by 59 employees. On August 3, 2001, we further reduced our workforce by 60 employees. We have also left positions unfilled when certain employees have left the Company. In addition, recent trading levels of our common stock have basically eliminated the value of the stock options granted to employees pursuant to our stock option plan. As a result of these factors, our remaining personnel may seek employment with larger, more stable companies or companies they perceive to have better prospects. Our failure to retain qualified employees to fulfill our needs could halt our ability to operate our games business and have a material adverse affect on our business. In addition, the publicity we receive in connection with our financial performance and measures to remedy it may negatively affect our reputation and our business partners and other market participants' perception of the Company. If we are unable to maintain our existing, and develop new, business relationships, our revenues and collections could suffer materially. In addition, the announcement that we have closed our community web sites and are looking for buyers for our games properties could have a material adverse effect on our ability to retain the employees necessary to operate the games business and generate revenues and subsequently collect them, and to retain the games business value prior to a sale. WE HAVE HISTORICALLY RELIED SUBSTANTIALLY ON ONLINE ADVERTISING REVENUES. THE ONLINE ADVERTISING MARKET HAS SIGNIFICANTLY DECLINED OVER THE PAST SEVERAL QUARTERS. IN ADDITION, WE HAVE DRAMATICALLY REDUCED OUR SALES FORCE DOWN TO ONLY TWO (2) SALES PEOPLE NATIONWIDE. We historically derived a substantial portion of our revenues from the sale of advertisements on our web sites and in our magazine Computer Games Magazine. Our business model and revenues were highly dependent on the amount of traffic on our sites and our ability to properly monetize this traffic. Due to the August 3, 2001, restructuring, we now have only two sales people and will have tremendous difficulty maintaining revenues and monetizing traffic to our games properties. In addition, the editorial content on certain of the game properties is only being updated periodically, if at all, which may lead to a further decrease in the number of viewers and which could adversely effect our efforts to sell these properties. The level of traffic on our sites determines the amount of online advertising inventory we can sell and the price for which we can sell our games business. Our ability to generate online advertising revenues depends, in part, on our ability to create new advertising programs without diluting the perceived value of our existing programs. Due to the reduction in headcount, we are unable to create new advertising programs going forward. Online advertising has dramatically decreased since the middle of 2000 and continued to decline throughout 2001 and may continue to decline, which could continue to have a material effect on the Company. Many online advertisers have been experiencing financial difficulties which could materially impact our revenues and our ability to collect our receivables. Due to our announcement regarding our closing of our community business and our other asset sales, it may become even more difficult to collect receivables. The development of the Internet advertising market has slowed dramatically during the last year and if it continues to slow down, our business performance would continue to be materially adversely affected. To date, substantially all our online advertising contracts have been for terms averaging one to three months in length, with relatively few longer-term advertising contracts. Moreover, measurements of site visitors may not be accurate or trusted by our advertising customers. There are no uniformly accepted standards for the measurement of visitors to a web site, and there exists no one accurate measurement for any given Internet visitor metric. Indeed, different website traffic measurement firms will tend to arrive at different numbers for the same metric. For any of the foregoing reasons, we cannot assure you that our current advertisers will continue to purchase advertisements on our sites. WE NOW RELY SUBSTANTIALLY ON PRINT ADVERTISING REVENUES. THE PRINT ADVERTISING MARKET HAS SIGNIFICANTLY DECLINED OVER THE PAST SEVERAL QUARTERS. IN ADDITION, WE HAVE DRAMATICALLY REDUCED OUR SALES FORCE DOWN TO ONLY TWO (2) SALES PEOPLE NATIONWIDE. 29 We now derive a substantial portion of our revenues from the sale of advertisements in our Computer Games print magazine. Our business model and revenues are highly dependent on the print circulation of our Computer Games magazine. Due to the August 3, 2001 restructuring, we now have only two sales people and will have tremendous difficulty maintaining print advertising revenues within our Computer Games magazine. Print advertising has dramatically decreased since the middle of 2000 and continued to decline throughout 2001 and may continue to decline, which could continue to have a material effect on the Company. Many print advertisers have been experiencing financial difficulties which could materially impact our revenues and our ability to collect our receivables. For these reasons, we cannot assure you that our current advertisers will continue to purchase advertisements on our sites. COMPETITION FOR USERS AND ADVERTISERS, AS WELL AS COMPETITION IN THE ELECTRONIC COMMERCE MARKET IS INTENSE AND IS EXPECTED TO INCREASE SIGNIFICANTLY. The market for users and Internet advertising among web sites is relatively new and rapidly evolving. Competition for users and advertisers, as well as competition in the electronic commerce market, is intense and is expected to increase significantly. Barriers to entry are relatively insubstantial and we believe we will face competitive pressures from many additional companies both in the United States and abroad. Accordingly, pricing pressure on advertising rates will continue to increase in the future, which could have a material adverse effect on us to the extent that any remaining businesses rely on advertising. All types of web sites compete for users. Competitor web sites include other games information networks and various other types of web sites. We believe that the principal competitive factors in attracting users to a site are: - functionality of the web site; - brand recognition; - affinity and loyalty; - broad demographic focus; - open access for visitors; - critical mass of users; - attractiveness of content and services to users; and - pricing and customer service for electronic commerce sales. We compete for users, advertisers and electronic commerce marketers with the following types of companies: - publishers and distributors of television, radio and print, such as CBS, NBC and AOL Time Warner; - electronic commerce web sites, such as Amazon.com; and - other web sites serving game enthusiasts, including Ziff Davis' Gamespot and CNET's Gamecenter. Many of our existing and potential competitors and traditional media companies, have the following advantages: - longer operating histories in the Internet market, - greater name recognition; - larger customer bases; - significantly greater financial, technical and marketing resources; and, - not seeking to sell their businesses. In addition, there has been significant consolidation in the industry. This consolidation may continue in the future. We could face increased competition in the future from traditional media companies, including cable, newspaper, magazine, television and radio companies. A number of these large traditional media companies have been active in Internet related activities including the games space. Those competitors may be able to undertake more extensive marketing campaigns for their brands and services, adopt more aggressive advertising pricing policies and make more attractive offers to potential employees, distribution partners, electronic commerce companies, advertisers, third-party content providers and acquisition targets. Furthermore, our existing and potential competitors may develop sites that are equal or superior in quality to, or that achieve greater market acceptance than, our sites. We cannot assure you that advertisers may not perceive our competitors' sites as more desirable than ours. 30 Web browsers offered by Netscape and Microsoft also increasingly incorporate prominent search buttons that direct traffic to services that compete with ours. These features could make it more difficult for Internet users to find and use our products and services. In the future, Netscape, Microsoft and other browser suppliers may also more tightly integrate products and services similar to ours into their browsers or their browsers' pre-set home page. Additionally, entities that sponsor or maintain high-traffic web sites or that provide an initial point of entry for Internet viewers, such as the Regional Bell Operating Companies, cable companies or Internet service providers, such as Microsoft and America Online, offer and can be expected to consider further development, acquisition or licensing of Internet search and navigation functions that compete with us. These competitors could also take actions that make it more difficult for viewers to find and use our products and services. Additionally, the electronic commerce market is rapidly evolving, and we expect competition among electronic commerce merchants to continue to increase significantly. Because the Internet allows consumers to easily compare prices of similar products or services on competing web sites and there are low barriers to entry for potential competitors, gross margins for electronic commerce transactions may continue to be narrow in the future. Many of the products that we sell on our web site may be sold by the maker of the product directly or by other web sites. Competition among Internet retailers, our electronic commerce partners and product makers may have a material adverse effect on our ability to generate revenues through electronic commerce transactions or from these electronic commerce partners. OUR QUARTERLY OPERATING RESULTS FLUCTUATE AND VARY BY SEASON. Due to our significant change in operations, our historical quarterly operating results are not reflective of future results. We have not achieved past expectations and it is likely that in one or more future quarters, our operating results will fall below the expectation of investors. If this occurs, the trading price of our Common Stock would almost certainly be materially and adversely affected. The factors which will cause our quarterly operating results to fluctuate in the future include: - sales of our assets; - the drastic decline in the number of sales employees; - the level of traffic on our web sites; - the overall demand for Internet advertising and electronic commerce; - the addition or loss of advertisers and electronic commerce partners on our web sites; - overall usage and acceptance of the Internet; - seasonal trends in advertising and electronic commerce sales and member usage; - other costs relating to the maintenance of our operations; - the restructuring of our business; - failure to generate significant revenues and profit margins from new products and services; - financial performance of other internet companies who advertise on our site; and, - competition from others providing services similar to those of ours. We have historically derived a substantial portion of our revenues from the sale of advertising under short-term contracts. These contracts average one to three months in length. As a result, our quarterly revenues and operating results have been, to a significant extent, dependent on advertising revenues from contracts entered into within the quarter, and on our ability to adjust spending in a timely manner to compensate for any unexpected revenue shortfall. A slowdown in the advertising market can happen quickly and lasts an unknown amount of time. The advertising market has not yet recovered from the current slowdown. We believe that advertising sales in traditional media, such as television and radio, generally are lower in the first and third calendar quarters. If the Internet transitions from an emerging to a more developed form of media, these same patterns may develop in Internet advertising sales. Internet advertising expenditures may also develop a different seasonality pattern. We now have only two (2) salespersons. Traffic levels on our sites and the Internet have typically declined during the summer and year-end vacation and holiday periods. Revenues from our games magazine are subject to the same seasonal trends as traditional media. 31 In addition to selling advertising, a substantial and increasing portion of our revenues may be generated from electronic commerce through our Chips & Bits, Inc. subsidiary. We also have existing electronic commerce arrangements with third parties for the sale of merchandise on our electronic commerce site, which are terminable upon short notice. We have cut down to only two (2) salespersons, resulting in very little revenue from advertising. We now have a substantial portion of revenue from e-commerce. Our revenues from electronic commerce may fluctuate significantly from period to period depending on the level of demand for products featured on our site and overall competition in the marketplace. OUR BUSINESS MODEL IS UNPROVEN AND WILL CHANGE. Our revised business model is unproven. This model depends upon our ability to obtain revenues by using our games information properties without any other source of revenue. To be successful, we must, among other things, develop and market products and services that achieve broad market acceptance by our users, advertisers and electronic commerce vendors. We must continue to develop electronic commerce revenue streams by marketing products directly to users and having users purchase products through our electronic commerce site. We cannot assure you that any e-commerce business will achieve broad market acceptance and will be able to generate significant electronic commerce revenues. We also cannot assure you that our business model will be successful, that it will sustain revenue growth or that it will be profitable. Furthermore, our board of directors and management are exploring alternatives for our business and our business model may change significantly. OUR LIMITED OPERATING HISTORY MAKES FINANCIAL FORECASTING DIFFICULT. We have never operated solely as a games business. Accordingly, we have a limited operating history for you to use in evaluating our prospects and us. Our prospects should be considered in light of the risks encountered by companies operating in new and rapidly evolving markets like ours. We may not successfully address these risks. For example, we may not be able to: - maintain levels of user traffic on our web sites; - maintain or increase the percentage of our advertising inventory sold; - maintain or increase both CPM levels and sponsorship revenues; - adapt to meet changes in our markets and competitive developments; - develop or acquire content for our services; and - identify, attract, retain and motivate qualified personnel. Moreover, we are exploring other alternatives, which may make financial forecasting even more difficult. OUR ACQUISITIONS, JOINT VENTURES OR STRATEGIC TRANSACTIONS ENTAIL NUMEROUS RISKS AND UNCERTAINTIES. WE MAY ENTER NEW LINES OF BUSINESS. On February 24, 2000, we acquired Chips & Bits, Inc., an electronic commerce retailer that focuses primarily on game enthusiasts' and Strategy Plus, Inc., media property that publishes a monthly games magazine and a game enthusiast web site. Due to the significant and prolonged decline in the Internet advertising sector, we closed our community web site at www.theglobe.com and our small ---------------- business web-hosting property at www.webjump.com in August 2001. On October 17, --------------- 2001, we sold the Games Domain/Console Domain websites. On October 30, 2001, we sold the Kids Domain web site. On February 27, 2002, we sold the Happy Puppy website. We also are seeking buyers for the remaining game properties. In conjunction with our efforts to sell our remaining games properties, we are considering and evaluating potential business combinations or sales of these remaining assets. If consummated, any such transaction could result in a change of control of our company or could otherwise be material to our business or to your investment in our Common Stock. In addition, as part of the sale of our games business, we could obtain stock of another company or be the surviving company in a merger. These transactions may or may not be consummated. If such a transaction is not consummated, it is unclear how long we will continue to be able to operate. We may also enter into new or different lines of business, which may include investments in real estate, as determined by management and our Board of Directors. Our future acquisitions or joint ventures could result in numerous risks and uncertainties, including: 32 - potentially dilutive issuances of equity securities, which may be issued at the time of the transaction or in the future if certain tests are met or not met, as the case may be. These securities may be freely tradable in the public market or subject to registration rights which could require us to publicly register a large amount of Common Stock, which could have a material adverse effect on our stock price; - large and immediate write-offs; - significant write-offs if we determine that the business acquisition does not fit or perform up to expectations; - the incurrence of debt and contingent liabilities or amortization expenses related to goodwill and other intangible assets; - difficulties in the assimilation of operations, personnel, technologies, products and information systems of the acquired companies; - the risks of entering a new or different line of business which may include real estate; - the risks of entering geographic and business markets in which we have no or limited prior experience; and - the risk that the acquired business will not perform as expected. WE MAY BE UNSUCCESSFUL IN ESTABLISHING AND MAINTAINING BRAND AWARENESS; BRAND IDENTITY IS CRITICAL TO US AND OUR ABILITY TO SELL OUR REMAINING ASSETS. We believe that establishing and maintaining awareness of the brand name of our wholly owned subsidiaries, including the brand names of all our games properties ("Chips & Bits", "Strategy Plus" and "CGonline.com") is critical to attracting buyers for these properties and to expanding our member base, the traffic on our web sites and our advertising and electronic commerce relationships. The closure of the community web site at www.theglobe.com, the Company's flagship web site, ---------------- will adversely affect the public's perception of the Company. If we fail to promote and maintain our brand or our brand value is diluted, our continuing games business, operating results, financial condition, and our ability to attract buyers for these properties could be materially adversely affected. The importance of brand recognition will increase because low barriers to entry may result in an increased number of web sites. To promote our brand, we may be required to continue to increase our financial commitment to creating and maintaining brand awareness. We may not generate a corresponding increase in revenues to justify these costs. Additionally, if Internet users, advertisers and customers do not perceive our games properties to be of high quality, the value of our brand could be materially diluted. WE HAVE DRAMATICALLY REDUCED OUR PERSONNEL, INCLUDING PERSONNEL THAT WE HAVE HISTORICALLY PLACED SUBSTANTIAL DEPENDENCE ON. Our performance is substantially dependent on the continued service of our senior management and key technical personnel, as well as on our sales force. In particular, our success has depended on the continued efforts of our senior management team, especially our Chief Executive Officer, our President and Chief Operating Officer, our Chief Financial Officer, our Vice President of Legal & Business Affairs and our Chief Technology Officer. Our President and Chief Operating Officer, Chief Financial Officer, and Chief Technology Officer were no longer with the Company after August 2001, and our Vice President of Legal & Business Affairs was no longer with the Company after October 2001, which has made operation of the Company significantly more difficult. In addition, the dramatic reduction in the number of personnel, particularly sales personnel, in August 2001 has made operating the Company significantly more difficult. We do not carry key person life insurance on any of our personnel. In the fourth quarter of 2000, we announced the reduction of our workforce by 26 employees. In the second quarter of 2001, we announced the reduction of our workforce by 59 employees. On August 3, 2001, we announced the reduction of our workforce by 60 employees. These reductions included substantially all employees at the management level, with the exception of our Chief Executive Officer. As a result of this reduction, we may experience inefficiencies and a decrease in productivity throughout our business. This may have a material effect on our operating results. 33 WE DEPEND ON HIGHLY QUALIFIED TECHNICAL AND MANAGERIAL PERSONNEL. Our future success also depends on our continuing ability to attract, retain and motivate highly qualified technical expertise and managerial personnel necessary to operate our remaining business. Our seeking to sell our remaining games properties may also encourage existing employees to seek employment at another company. If this were to occur, it could have a material effect on our efforts to sell these remaining games properties. We may need to give retention bonuses to certain employees to keep them, which can be costly to the Company. We may be unable to attract, assimilate or retain highly qualified technical and managerial personnel in the future. Wages for managerial and technical employees are increasing and are expected to continue to increase in the future. We have from time to time in the past experienced, and could continue to experience in the future if we need to hire any additional personnel, difficulty in hiring and retaining highly skilled employees with appropriate qualifications. Furthermore, we will not be able to effectively offer stock options due to the delisting of the common stock, low trading volume and cash position of the Company. In addition, we may have difficulty attracting qualified employees due to the Company's restructuring, financial position and scaling down of operations. Also, we may have difficulty attracting qualified employees to work in the geographically remote location in Vermont of Chips & Bits, Inc. and Strategy Plus, Inc., the Company's two subsidiaries that contains most of the employees after August 2001. If we are unable to attract and retain the technical and managerial personnel necessary to support our business, our business would likely be materially and adversely affected. OUR MANAGEMENT TEAM IS INEXPERIENCED IN THE MANAGEMENT OF A PUBLIC COMPANY AND IS SMALL FOR AN OPERATING COMPANY. We hired a new Chief Executive Officer in August 2000, who has not had previous experience managing a public company. Furthermore, the remaining members of our senior management, other than the Chairman, have not had any previous experience managing a public company or a large operating company. Accordingly, we cannot assure you that: - our key employees will be able to work together effectively as a team; - we will be able to retain the remaining members of our management team; - we will be able to hire, train and manage our employee base; - our systems, procedures or controls will be adequate to support our operations; and - our management will be able to achieve the rapid execution necessary to fully exploit the market opportunity for our products and services. In addition, after August 2001, the Chief Executive Officer is the only member of executive management with significant financial experience. OUR CHAIRMAN HAS OTHER INTERESTS AND TIME COMMITMENTS; WE HAVE CONFLICTS OF INTEREST WITH SOME OF OUR DIRECTORS; OUR BOARD HAS DECREASED FROM NINE TO SIX MEMBERS. Because our Chairman, Mr. Michael Egan, is an officer of other companies, we have to compete for his time. Mr. Egan serves as the Chairman of our board of directors and as an executive officer of other entities with primary responsibility for day-to-day strategic planning and financing arrangements. Mr. Egan is also the controlling investor of Dancing Bear Investments, Inc., an entity controlled by Mr. Egan, which is our largest stockholder. Mr. Egan has not committed to devote any specific percentage of his business time with us. Accordingly, we compete with Dancing Bear Investments, Inc. and Mr. Egan's other related entities for his time. Mr. Egan is also Chairman and Chief Executive Officer of ANC Rental Corporation, a spin-off of the car rental business of AutoNation, Inc. We have had revenue agreements with entities controlled by Mr. Egan and by H. Wayne Huizenga, one of our former directors. These agreements were not the result of arm's-length negotiations, but we believe that the terms of these agreements were on comparable terms as if they were entered into with unaffiliated third parties. The revenues recognized from such agreements represented less than 1%, 1% and 4% of total revenues for the years ended December 31, 2001, 2000, and 1999, respectively. Due to their relationships with his related entities, Mr. Egan will have an inherent conflict of interest in making any decision related to transactions between their related entities and us. We intend to review related party transactions in the future on a case-by-case basis. 34 Due to certain time constraints, two (2) members of our Board resigned during 2001 due to other commitments, and were replaced with two (2) new Directors. The charter of the Company was amended at the annual meeting of shareholders in June 2001 to allow between 5 and 9 directors to serve on the Board of Directors. Only two (2) of our directors, Mr. Robert M. Halperin and Ms. Robin M. Segaul, are neither significant holders of theglobe.com stock nor have they at any time during 2001, or at any other time, been officers or employees of theglobe.com. However, Ms. Segaul is an employee of Dancing Bear Investments, Inc., which is controlled by Mr. Egan. We may determine to further reduce the size of the Board due to the change in the operations of the business. As a result, the charter may be further amended to reduce the minimum number of Directors. WE RELY ON A THIRD PARTY OUTSOURCED HOSTING FACILITY OVER WHICH WE HAVE LIMITED CONTROL. Our principal servers are located in New Jersey at a third party outsourced hosting facility operated by AT&T. Our operations depend on the ability to protect our systems against damage from unexpected events, including fire, power loss, water damage, telecommunications failures and vandalism. Any disruption in our Internet access due to the transition or otherwise could have a material adverse effect on us. In addition, computer viruses, electronic break-ins or other similar disruptive problems could also materially adversely affect our web sites. Our reputation, theglobe.com brand and the brands of our subsidiaries and game properties could be materially and adversely affected by any problems to our sites. Our insurance policies may not adequately compensate us for any losses that may occur due to any failures or interruptions in our systems. We do not presently have any secondary off-site systems or a formal disaster recovery plan. HACKERS MAY ATTEMPT TO PENETRATE OUR SECURITY SYSTEM; ONLINE SECURITY BREACHES COULD HARM OUR BUSINESS. Consumer and supplier confidence in our web sites depends on maintaining relevant security features. Substantial or ongoing security breaches on our systems or other Internet-based systems could significantly harm our business. We incur substantial expenses protecting against and remedying security breaches. Security breaches also could damage our reputation and expose us to a risk of loss or litigation. Experienced programmers or "hackers" have successfully penetrated our systems and we expect that these attempts will continue to occur from time to time. Because a hacker who is able to penetrate our network security could misappropriate proprietary information or cause interruptions in our products and services, we may have to expend significant capital and resources to protect against or to alleviate problems caused by these hackers. Additionally, we may not have a timely remedy against a hacker who is able to penetrate our network security. Such security breaches could materially adversely affect our company. In addition, the transmission of computer viruses resulting from hackers or otherwise could expose us to significant liability. Our insurance policies carry low coverage limits, which may not be adequate to reimburse us for losses caused by security breaches. We also face risks associated with security breaches affecting third parties with whom we have relationships. WE DEPEND ON THE CONTINUED GROWTH IN THE USE AND COMMERCIAL VIABILITY OF THE WEB. Our market is rapidly evolving. Our remaining business is substantially dependent upon the continued growth in the use of the Internet, PC and console games and electronic commerce on the Internet becoming more widespread. Web usage and electronic commerce growth may be inhibited for a number of reasons, including: - inadequate network infrastructure; - security and authentication concerns with respect to transmission over the Internet of confidential information, including credit card numbers, or other personal information; - ease of access; - inconsistent quality of service; - availability of cost-effective, high-speed service; and - bandwidth availability. 35 If web usage grows, the Internet infrastructure may not be able to support the demands placed on it by this growth or its performance and reliability may decline. Web sites have experienced interruptions in their service as a result of outages and other delays occurring throughout the Internet network infrastructure. If these outages or delays frequently occur in the future, web usage, as well as usage of our web sites, could grow more slowly or decline. Also, the Internet's commercial viability may be significantly hampered due to: - delays in the development or adoption of new operating and technical standards and performance improvements required to handle increased levels of activity; - increased government regulation; and - insufficient availability of telecommunications services which could result in slower response times and adversely affect usage of the Internet. WE MAY BE MATERIALLY ADVERSELY AFFECTED IF ELECTRONIC COMMERCE DOES NOT BECOME A VIABLE SOURCE OF SIGNIFICANT REVENUES OR PROFITS FOR THE COMPANY. IN ADDITION, OUR ELECTRONIC COMMERCE BUSINESS MAY RESULT IN SIGNIFICANT LIABILITY CLAIMS AGAINST US. In February 2000, we acquired Chips & Bits, Inc., a direct marketer of video games and related products over the Internet. However, we have limited experience in the sale of products online as compared to many of our competitors and the development of relationships with manufacturers and suppliers of these products. In addition, the closing of our community site and our small business web-hosting site may adversely affect our electronic commerce due to the inability of those web sites after their closure to refer traffic to the Chips & Bits web site. We also face many uncertainties, which may affect our ability to generate electronic commerce revenues and profits, including: - our ability to obtain new customers at a reasonable cost, retain existing customers and encourage repeat purchases; - the likelihood that both online and retail purchasing trends may rapidly change; - the level of product returns; - merchandise shipping costs and delivery times; - our ability to manage inventory levels; - our ability to secure and maintain relationships with vendors; - the possibility that our vendors may sell their products through other sites; and - intense competition for electronic commerce revenues, resulting in downward pressure on gross margins. In April 2000, we elected to shut down our e-commerce operations in Seattle, Washington in order to focus our e-commerce operations on video games and related products (see Note 3 to the condensed consolidated financial statements and Management's Discussion and Analysis of Financial Condition and Results of Operations). Accordingly, we cannot assure you that electronic commerce transactions will provide a significant or sustainable source of revenues or profits. Additionally, due to the ability of consumers to easily compare prices of similar products or services on competing web sites and consumers' potential preference for competing web site's user interface, gross margins for electronic commerce transactions which are narrower than for advertising businesses may further narrow in the future and, accordingly, our revenues and profits from electronic commerce arrangements may be materially and adversely affected. If use of the Internet for electronic commerce does not continue to grow, our business and financial condition would be materially and adversely affected. Additionally, consumers may sue us if any of the products that we sell are defective, fail to perform properly or injure the user. Some of our agreements with manufacturers contain provisions intended to limit our exposure to liability claims. However, these limitations may not prevent all potential claims. Liability claims could require us to spend significant time and money in litigation or to pay significant damages. As a result, any claims, whether or not successful, could seriously damage our reputation and our business. 36 INTERNET ADVERTISING HAS NOT PROVEN AS EFFECTIVE AS TRADITIONAL MEDIA. The Internet advertising market is relatively new and rapidly evolving. We cannot yet gauge its effectiveness as compared to traditional advertising media. Many of our current or potential advertising partners have limited or no experience using the Internet for advertising purposes and they have allocated only a limited portion of their advertising budgets to Internet advertising. The adoption of Internet advertising, particularly by those entities that have historically relied upon traditional media, requires the acceptance of a new way of conducting business, exchanging information and advertising products and services. Advertisers that have traditionally relied upon other advertising media may be reluctant to advertise on the Internet or find it less effective. No standards have been widely accepted to measure the effectiveness of Internet advertising or to measure the demographics of our user base. Additionally, no standards have been widely accepted to measure the number of members, unique users, page views or impressions related to a particular site. We cannot assure you that any standards will become available in the future, that standards will accurately measure our users or the full range of user activity on our sites or that measurement services will accurately report our user activity based on their standards. If standards do not develop, advertisers may not advertise on the Internet. In addition, we depend on third parties to provide these measurement services. These measurements are often based on sampling techniques or other imprecise measures and may materially differ from each other and from our estimates. We cannot assure you that advertisers will accept our or other parties' measurements. The rejection by advertisers of these measurements could have a material adverse effect on our business and financial condition. The sale of Internet advertising is subject to intense competition that has resulted in a wide variety of pricing models, rate quotes and advertising services. For example, advertising rates may be based on the number of user requests for additional information made by clicking on the advertisement, known as "click throughs," on the number of times an advertisement is displayed to a user, known as "impressions," or on the number of times a user completes an action at an advertiser's web site after clicking through, known as "cost per action." Our contracts with advertisers typically guarantee the advertiser a minimum number of impressions. To the extent that minimum impression levels are not achieved for any reason, including the failure to obtain the expected traffic, our contracts with advertisers may require us to provide additional impressions after the contract term, which may adversely affect the availability of our advertising inventory. In addition, certain long-term contracts with advertisers may be canceled if response rates or sales generated from our site are less than advertisers' expectations. This could have a material adverse effect on us. Online advertisers are increasingly demanding "cost per click" and "cost per action" advertising campaigns, which require many more page views to achieve equal revenue, which significantly affects our revenues. If online advertisers continue to demand those "cost per action" deals, it could negatively impact our business. Our revenues and the value of the assets we are seeking to sell could be materially adversely affected if we are unable to adapt to other pricing models for Internet advertising if they are adopted. It is difficult to predict which, if any, pricing models for Internet advertising will emerge as the industry standard. This makes it difficult to project our future advertising rates and revenues. Online advertising pricing has been declining. Additionally, it is possible that Internet access providers may, in the future, act to block or limit various types of advertising or direct solicitations, whether at their own behest or at the request of users. Moreover, "filter" software programs that limit or prevent advertising from being delivered to an Internet user's computer are available. Widespread adoption of this software could adversely affect the commercial viability of Internet advertising. In addition, concerns regarding the privacy of user data on the Web may reduce the amount of user data collected in the future, thus reducing our ability to provide targeted advertisements. This may, in turn, put downward pressure on cost per thousand impressions ("CPM"). WE RELY ON INTELLECTUAL PROPERTY AND PROPRIETARY RIGHTS. We regard substantial elements of our web sites and underlying technology as proprietary and attempt to protect them by relying on intellectual property laws and restrictions on disclosure. We also generally enter into confidentiality agreements with our employees and consultants. In connection with our license agreements with third parties, we generally seek to control access to and distribution of our technology and other proprietary information. Despite these precautions, it may be possible for a third party to copy or otherwise obtain and use our proprietary information without authorization or to develop similar technology independently. Thus, we cannot assure you that the steps taken by us will prevent misappropriation or infringement of our proprietary information, which could have an adverse effect on our business. In addition, our competitors may independently develop similar technology, duplicate our products, or design around our intellectual property rights. 37 We pursue the registration of our trademarks in the United States and internationally. However, effective intellectual property protection may not be available in every country in which our services are distributed or made available through the Internet. Policing unauthorized use of our proprietary information is difficult. Legal standards relating to the validity, enforceability and scope of protection of proprietary rights in Internet-related businesses are also uncertain and still evolving. We cannot assure you about the future viability or value of any of our proprietary rights. Litigation may be necessary in the future to enforce our intellectual property rights or to determine the validity and scope of the proprietary rights of others. However, we may not have sufficient funds or personnel to adequately litigate or otherwise protect our rights. Furthermore, we cannot assure you that our business activities will not infringe upon the proprietary rights of others, or that other parties will not assert infringement claims against us, including claims related to providing hyperlinks to web sites operated by third parties or providing advertising on a keyword basis that links a specific search term entered by a user to the appearance of a particular advertisement. Moreover, from time to time, third parties may assert claims of alleged infringement, by us or our members, of their intellectual property rights. Any litigation claims or counterclaims could impair our business because they could: - be time-consuming; - result in costly litigation; - subject us to significant liability for damages; - result in invalidation of our proprietary rights; - divert management's attention; - cause product release delays; or - require us to redesign our products or require us to enter into royalty or licensing agreements that may not be available on terms acceptable to us, or at all. We license from third parties various technologies incorporated into our sites. We cannot assure you that these third-party technology licenses will continue to be available to us on commercially reasonable terms. Additionally, we cannot assure you that the third parties from which we license our technology will be able to defend our proprietary rights successfully against claims of infringement. As a result, our inability to obtain any of these technology licenses could result in delays or reductions in the introduction of new services or could adversely affect the performance of our existing services until equivalent technology can be identified, licensed and integrated. We have registered several Internet domain names including "theglobe.com", "globeclubs.com", "tglo.com," "happypuppy.com," "azazz.com," "attitude.net, " "cgonline" and "cdmag.com." The regulation of domain names in the United States and in foreign countries may change. Regulatory bodies could establish additional top-level domains, appoint additional domain name registrars or modify the requirements for holding domain names, any or all of which may dilute the strength of our names. We may not acquire or maintain our domain names in all of the countries in which our web sites may be accessed, or for any or all of the top-level domain names that may be introduced. The relationship between regulations governing domain names and laws protecting proprietary rights is unclear. Therefore, we may not be able to prevent third parties from acquiring domain names that infringe or otherwise decrease the value of our trademarks and other proprietary rights. WE MAY FACE INCREASED GOVERNMENT REGULATION AND LEGAL UNCERTAINTIES IN OUR INDUSTRY. There are an increasing number of federal, state, local and foreign laws and regulations pertaining to the Internet. In addition, a number of federal, state, local and foreign legislative and regulatory proposals are under consideration. Laws or regulations may be adopted with respect to the Internet relating to liability for information retrieved from or transmitted over the Internet, online content regulation, user privacy and quality of products and services. Changes in tax laws relating to electronic commerce could materially affect our business and financial condition. Moreover, the applicability to the Internet of existing laws governing issues such as intellectual property ownership and infringement, copyright, trademark, trade secret, obscenity, libel, employment and personal privacy is uncertain and developing. Any new legislation or regulation, or the application or interpretation of existing laws or regulations, may decrease the growth in the use of the Internet, may impose additional burdens on electronic commerce or may alter how we do business. This could decrease the demand for our services, increase our cost of doing business, increase the costs of products sold through the Internet or otherwise have a material adverse effect on our business, results of operations and financial condition. 38 WE ARE INVOLVED IN SECURITIES CLASS ACTION LITIGATION. We are a party to the securities class action litigation described in Part I, Item 3 - "Legal Proceedings" of this report. The defense of the litigation described in Part I, Item 3 may increase our expenses and will occupy management's attention and resources, and an adverse outcome in this litigation could materially adversely affect us. WE MAY BE EXPOSED TO LIABILITY FOR INFORMATION RETRIEVED FROM OR TRANSMITTED OVER THE INTERNET OR FOR PRODUCTS SOLD OVER THE INTERNET. Users may access content on our web sites or the web sites of our distribution partners or other third parties through web site links or other means, and they may download content and subsequently transmit this content to others over the Internet. This could result in claims against us based on a variety of theories, including defamation, obscenity, negligence, copyright infringement, trademark infringement or the wrongful actions of third parties. Other theories may be brought based on the nature, publication and distribution of our content or based on errors or false or misleading information provided on our web sites. Claims have been brought against online services in the past and we have received inquiries from third parties regarding these matters. The claims could be material in the future. We could also be exposed to liability for third party content posted by users in our chat rooms or on our bulletin boards. We also enter into agreements with commerce partners and sponsors under which we are entitled to receive a share of any revenue from the purchase of goods and services through direct links from our sites. We sell products directly to consumers which may expose us to additional legal risks, regulations by local, state, federal and foreign authorities and potential liabilities to consumers of these products and services, even if we do not ourselves provide these products or services. We cannot assure you that any indemnification that may be provided to us in some of these agreements with these parties will be adequate. Even if these claims do not result in our liability, we could incur significant costs in investigating and defending against these claims. The imposition of potential liability for information carried on or disseminated through our systems could require us to implement measures to reduce our exposure to liability. Those measures may require the expenditure of substantial resources and limit the attractiveness of our services. Additionally, our insurance policies may not cover all potential liabilities to which we are exposed. VARIOUS STOCKHOLDERS, INDIVIDUALLY OR IN THE AGGREGATE, MAY CONTROL US. Michael S. Egan, our Chairman, beneficially owns or controls, directly or indirectly, 9,877,106 shares of our Common Stock, which in the aggregate represents approximately 26.3% of the outstanding shares of our Common Stock. Todd V. Krizelman and Stephan J. Paternot, together, beneficially own 8.4% of the outstanding shares of Common Stock. Accordingly, Mr. Egan would likely be able to exercise significant influence in any stockholder vote, particularly if Messrs. Krizelman and Paternot support his position. Messrs. Egan, Krizelman, and Edward A. Cespedes, all of whom are current Directors of our company, and Mr. Paternot and Rosalie V. Arthur, both of whom are former directors of our company, have entered into a stockholders' agreement with us. As a result of the stockholders' agreement, Mr. Egan has agreed to vote for up to two nominees of Messrs. Krizelman and Paternot to the board of directors and Messrs. Krizelman and Paternot have agreed to vote for the nominees of Mr. Egan to the board, which will be up to five directors. Consequently, Messrs. Egan, Krizelman and Paternot will likely be able to elect a majority of our directors. Additionally, each party other than Mr. Egan has granted an irrevocable proxy with respect to all matters subject to a stockholder vote to Dancing Bear Investments, Inc., an entity controlled by Mr. Egan, for any shares held by that party received upon the exercise of outstanding warrants for 400,000 shares of our Common Stock. The stockholders' agreement also provides for tag-along and drag-along rights in connection with any private sale of these securities. 39 OUR STOCK PRICE IS VOLATILE. The trading price of our Common Stock has been volatile and may continue to be volatile in response to various factors, including: - delisting of our Common Stock from Nasdaq national market; - sales of any of our games properties; - shut down of our community web site and small business web-hosting web site; - the loss of a significant number of our employees; - quarterly variations in our operating results; - decreased trading volume; - competitive announcements; - the operating and stock price performance of other companies that investors may deem comparable to us; and - news relating to trends in our markets. The stock market has experienced significant price and volume fluctuations, and the market prices of technology companies, particularly Internet-related companies, have been highly volatile. THE SALE OF SHARES ELIGIBLE FOR FUTURE SALE IN THE OPEN MARKET COULD KEEP OUR STOCK PRICE FROM IMPROVING. Sales of significant amounts of Common Stock in the public market in the future, the perception that sales will occur or the registration of such shares could materially and adversely affect the ability of the market price of the Common Stock to increase even if our business prospects were to improve. We currently have approximately 22 million shares of Common Stock that are freely tradable. Approximately 8,158,450 shares of Common Stock are held by our "affiliates," within the meaning of the Securities Act of 1933, and are currently eligible for sale in the public market subject to volume limitation. Additionally, we may issue additional shares of our common stock, which could further adversely affect our stock price. There are outstanding options to purchase 3,104,349 shares of Common Stock, which become eligible for sale in the public market from time to time depending on vesting and the expiration of lock-up agreements. The issuance of these securities is registered under the Securities Act. In addition, there are outstanding warrants to purchase up to 4,011,534 shares of our Common Stock upon exercise. Substantially all of our stockholders holding restricted securities, including shares issuable upon the exercise of warrants to purchase our Common Stock, are entitled to registration rights under various conditions. ANTI-TAKEOVER PROVISIONS AFFECTING US COULD PREVENT OR DELAY A CHANGE OF CONTROL. Provisions of our charter, by-laws and stockholder rights plan and provisions of applicable Delaware law may: - have the effect of delaying, deferring or preventing a change in control of our company; - discourage bids of our Common Stock at a premium over the market price; or - adversely affect the market price of, and the voting and other rights of the holders of, our Common Stock. 40 We must follow Delaware laws that could have the effect of delaying, deterring or preventing a change in control of our company. One of these laws prohibits us from engaging in a business combination with any interested stockholder for a period of three years from the date the person became an interested stockholder, unless various conditions are met. In addition, provisions of our charter and by-laws, and the significant amount of Common Stock held by our current and former executive officers, directors and affiliates, could together have the effect of discouraging potential takeover attempts or making it more difficult for stockholders to change management. WE DO NOT EXPECT TO PAY CASH DIVIDENDS. We do not anticipate paying any cash dividends in the foreseeable future. 41 ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Collection Risks. Our accounts receivables are subject, in the normal course of business, to collection risks. Although the Company regularly assesses these risks and has policies and business practices to mitigate the adverse effects of collection risks, significant losses may result due to the non-payment of receivables by our advertisers. Interest Rate Risk. Our return on its investments in cash and cash equivalents and short-term investments is subject to interest rate risks. We regularly assess these risks and have established policies and business practices to manage the market risk of its short-term securities. Foreign Currency Risk. We transact business in the United Kingdom. Accordingly, we are subject to exposure from adverse movements in foreign currency exchange rates. The effect of foreign currency exchange rate fluctuations for 2001 was not material. We do not use derivative financial instruments to limit our foreign currency risk exposure. 42 ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA INDEX TO CONSOLIDATED FINANCIAL STATEMENTS PAGE Independent Auditors' Report. . . . . . . . . . . . . . . . . . . . . . . 44 Consolidated Balance Sheets as of December 31, 2001 and 2000. . . . . . . 45 Consolidated Statements of Operations for each of the years in the three-year period ended December 31, 2001. . . . . . . . . . . . 46 Consolidated Statements of Stockholders' Equity and Comprehensive Loss for each of the years in the three-year period ended December 31, 2001. 47 Consolidated Statements of Cash Flows for each of the years in the three-year period ended December 31, 2001. . . . . . . . . . . . 49 Notes to Consolidated Financial Statements. . . . . . . . . . . . . . . . 51 All schedules are omitted because they are not applicable or the required information is shown in the Consolidated Financial Statements or Notes thereto. 43 INDEPENDENT AUDITORS' REPORT The Board of Directors and Stockholders theglobe.com, inc.: We have audited the accompanying consolidated balance sheets of theglobe.com, inc. and subsidiaries as of December 31, 2001 and 2000, and the related consolidated statements of operations, stockholders' equity and comprehensive loss, and cash flows for each of the years in the three-year period ended December 31, 2001. 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 auditing standards generally accepted in the United States of America. 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 theglobe.com, inc. and subsidiaries as of December 31, 2001 and 2000, and the results of their operations and cash flows for each of the years in the three-year period ended December 31, 2001, in conformity with accounting principles generally accepted in the United States of America. The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 1 to the consolidated financial statements, the Company has suffered recurring losses from operations since inception that raise substantial doubt about its ability to continue as a going concern. Management's plans in regard to this matter are also described in Note 1. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty. /s/ KPMG LLP New York, New York March 25, 2002 44
THEGLOBE.COM, INC. CONSOLIDATED BALANCE SHEETS DECEMBER 31, ------------------------------ 2001 2000 -------------- -------------- ASSETS Current assets: Cash and cash equivalents $ 2,563,828 $ 13,349,554 Short-term investments 50,650 2,996,250 Accounts receivable, less allowance for doubtful accounts of $3,203,295 and $2,260,324 in 2001 and 2000, respectively. 1,537,892 4,316,973 Inventory, less reserve for obsolescence of $64,311 and $39,955 in 2001 and 2000, respectively 532,565 694,474 Prepaid and other current assets 1,037,970 1,744,908 -------------- -------------- Total current assets 5,722,905 23,102,159 Property and equipment, net 242,802 7,975,967 Restricted investments 7,000 3,485,007 Goodwill and intangible assets, net - 19,967,910 -------------- -------------- Total assets . $ 5,972,707 $ 54,531,043 ============== ============== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable $ 1,340,628 $ 2,677,679 Accrued expenses 1,035,271 2,540,289 Accrued compensation 3,965 1,670,088 Deferred revenue 229,476 729,027 Current portion of long-term debt 101,659 11,986 Current installments of obligations under capital leases - 1,905,091 -------------- -------------- Total current liabilities 2,710,999 9,534,160 Long-term debt - 116,002 Obligations under capital leases, excluding current installments - 382,335 Deferred rent - 552,227 -------------- -------------- Total liabilities 2,710,999 10,584,724 Stockholders' equity: Preferred stock, $0.001 par value; 3,000,000 shares authorized; no shares issued and outstanding at December 31, 2001 and 2000, respectively - - Common stock, $0.001 par value; 100,000,000 shares authorized; 31,081,574 and 31,079,574 shares issued at December 31, 2001 and 2000, respectively 31,082 31,080 Additional paid-in capital 218,255,565 218,254,968 Common stock, 699,281 common shares, held in treasury, at cost (371,458) (371,458) Accumulated other comprehensive loss (120,866) (55,682) Accumulated deficit (214,532,615) (173,912,589) -------------- -------------- Total stockholders' equity 3,261,708 43,946,319 -------------- -------------- Commitments and contingencies Total liabilities and stockholders' equity $ 5,972,707 $ 54,531,043 ============== ==============
See accompanying notes to consolidated financial statements. 45
THEGLOBE.COM, INC. CONSOLIDATED STATEMENTS OF OPERATIONS YEAR ENDED DECEMBER 31, -------------------------------------------- 2001 2000 1999 ------------- -------------- ------------- Revenues: Advertising $ 6,381,072 $ 19,500,170 $ 16,398,914 Electronic commerce and other 9,693,321 10,361,799 2,242,046 ------------- -------------- ------------- Total revenues 16,074,393 29,861,969 18,640,960 Cost of revenues 12,144,915 19,079,693 8,547,514 ------------- -------------- ------------- Gross profit 3,929,478 10,782,276 10,093,446 Operating expenses: Sales and marketing 9,755,315 23,917,228 19,352,022 Product development 3,810,876 10,241,792 10,488,190 General and administrative 6,596,500 13,173,344 12,164,650 Restructuring and impairment charges 17,091,343 41,347,738 - Amortization of goodwill and intangible assets 8,468,620 27,236,506 20,459,526 ------------- -------------- ------------- Total operating expenses 45,722,654 115,916,608 62,464,388 ------------- -------------- ------------- Loss from operations (41,793,176) (105,134,332) (52,370,942) Other income (expense): Interest and other income 1,250,500 2,089,743 2,485,293 Interest and other expense (61,246) (553,332) (780,654) ------------- -------------- ------------- Total other income, net 1,189,254 1,536,411 1,704,639 ------------- -------------- ------------- Loss before provision for income taxes and extraordinary item (40,603,922) (103,597,921) (50,666,303) Provision for income taxes 16,104 267,800 290,337 ------------- -------------- ------------- Loss before extraordinary item (40,620,026) (103,865,721) (50,956,640) Extraordinary item-gain on early retirement of debt - - 1,355,698 ------------- -------------- ------------- Net loss $(40,620,026) $(103,865,721) $(49,600,942) ============= ============== ============= Basic and diluted net loss per share: Loss before extraordinary item $ (1.31) $ (3.43) $ (2.06) Extraordinary item-gain on early retirement of debt - - 0.06 ------------- -------------- ------------- Net loss $ (1.31) $ (3.43) $ (2.00) ============= ============== ============= Weighted average basic and diluted shares outstanding 31,081,324 30,286,102 24,777,444 ============= ============== =============
See accompanying notes to consolidated financial statements. 46
THEGLOBE.COM, INC. CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY AND COMPREHENSIVE LOSS ACCUMUL ATED OTHER ADDITIONAL DEFERRED COMPREH TOTAL PAID-IN TREASURY COMPEN ENSIVE ACCUMULATED STOCKHOLDERS' COMMON STOCK CAPITAL STOCK SATION LOSS DEFICIT EQUITY ------------------- ------------ ---------- ---------- ---------- -------------- --------------- SHARES AMOUNT ---------- ------- Balance at December 31, 1998 . . . . . . . . . . 20,624,512 $20,625 $ 50,904,181 $ - $(128,251) $ (50,006) $ (20,445,926) $ 30,300,623 Net loss . . . . . . . . . - - - - - - (49,600,942) (49,600,942) Changes in net unrealized loss on securities . . . . - - - - - (58,923) - (58,923) Foreign currency translation Adjustment . . . . . . . - - - - - (533) - (533) --------------- Comprehensive loss . . . - - - - - - - (49,660,398) Deferred compensation. . . - - 251,622 - (251,622) - - - Amortization of deferred Compensation . . . . . . - - - - 110,566 - - 110,566 Issuance of common stock in connection with exercise of stock options. . . . . . . . . 175,480 175 417,286 - - - - 417,461 Issuance of common stock in connection with Employee Stock Purchase Plan. . . . . . 7,200 7 75,042 - - - - 75,049 Issuance of common stock in connection with exercise of warrants . . 100,000 100 145,286 - - - - 145,386 Issuance of common stock and options in connection with acquisitions . . . . . . 3,363,726 3,364 80,472,172 - - - - 80,475,536 Issuance of common stock in connection with Secondary Public Offering, net of offering costs . . . . . 3,500,000 3,500 65,009,935 - - - - 65,013,435 Non-cash compensation. . . - - 31,769 - - - - 31,769 ---------- ------- ------------ ---------- ---------- ---------- -------------- --------------- Balance at December 31, 1999 . . . . . . . . . . . 27,770,918 27,771 197,307,293 - (269,307) (109,462) (70,046,868) 126,909,427 Net loss . . . . . . . . . - - - - - - (103,865,721) (103,865,721) Changes in net unrealized loss on securities . . . . - - - - - 108,929 - 108,929 Foreign currency translation adjustment . . - - - - - (55,149) - (55,149) --------------- Comprehensive loss. . - - - - - - - (103,811,941) Amortization of deferred compensation . . . . . . . - - - - (269,307) - - (269,307) Issuance of common stock in connection with - - exercise of stock options. 663,799 664 365,556 - - 366,220 Issuance of common stock in connection with Employee Stock Purchase Plan . . . . . . . . . . . 41,603 42 64,768 - - - - 64,810 Issuance of common stock and options in connection with acquisitions. . . . . 1,903,973 1,904 15,063,314 - - - - 15,065,218 Common stock issued in connection with Sportsline distribution agreement. . . . . . . . . 699,281 699 4,999,301 - - - - 5,000,000 47 Common stock repurchased for treasury, 699,281 common shares. . . - - - (371,458) - - - (371,458) Common stock options issued in lieu of services rendered . . . . . . . . . - - 57,024 - - - - 57,024 Acceleration of stock options in connection with severance arrangements - - 397,712 - - - - 397,712 ---------- ------- ------------ ---------- ---------- ---------- -------------- --------------- Balance at December 31, 2000 . . . . . . . . . . . 31,079,574 31,080 218,254,968 (371,458) - (55,682) (173,912,589) 43,946,319 Net loss . . . . . . . . . - - - - - - (40,620,026) (40,620,026) Foreign currency translation adjustment . - - - - - (65,834) - (65,834) Net unrealized loss on securities . . . . . . . - - - - - 650 - 650 --------------- Comprehensive loss . . . - - - - - - - (40,685,210) Issuance of common stock in connection with exercise of stock options. . . . . . . . . 2,000 2 597 - - - - 599 ---------- ------- ------------ ---------- ---------- ---------- -------------- --------------- Balance at December 31, 2001 . . . . . . . . . . 31,081,574 $31,082 $218,255,565 $(371,458) $ - $(120,866) $(214,532,615) $ 3,261,708 ========== ======= ============ ========== ========== ========== ============== ===============
See accompanying notes to consolidated financial statements. 48
THEGLOBE.COM, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS YEAR ENDED DECEMBER 31, -------------------------------------------- 2001 2000 1999 ------------- -------------- ------------- Cash flows from operating activities: Net loss $(40,620,026) $(103,865,721) $(49,600,942) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization 11,164,527 31,372,656 23,004,644 Non-cash restructuring and impairment charges 14,861,821 36,914,147 - Non-cash marketing expenses - 2,313,276 - Loss on sale of Games Domain and Console Domain 32,398 - - Gain on sale of Kids Domain (4,839) - - Non-cash compensation - 454,736 31,769 Amortization of deferred compensation - 269,307 110,566 Loss on disposal of equipment 62,198 - 99,179 Amortization of debt discount - - 147,012 (Gain) loss on sale of short-term securities (70,144) 108,929 - Gain on early retirement of debt - - (1,355,698) Deferred rent 56,982 113,964 438,263 Changes in operating assets and liabilities, net of acquisitions and dispositions: Inventory, net 161,909 (121,048) 48,312 Accounts receivable, net 2,779,081 915,062 (1,896,755) Prepaid and other current assets 426,938 (584,307) (1,405,132) Accounts payable (1,337,051) (2,583,741) (502,479) Accrued expenses (3,418,339) (102,713) 1,444,820 Deferred revenue (499,551) 132,980 (654,472) ------------- -------------- ------------- Net cash used in operating activities (16,404,096) (34,662,473) (30,090,913) ------------- -------------- ------------- Cash flows from investing activities: Purchase of securities (58,638) (35,076,829) (30,135,867) Proceeds from sale of securities 3,074,386 51,369,206 11,686,864 Proceeds from sale of property and equipment 382,944 - - Purchases of property and equipment (440,689) (2,871,235) (5,556,647) ------------- Release (payment of) security deposits, net 3,478,007 172,490 (1,898,897) Proceeds from sale of properties 790,000 - - (Cash paid for) acquired from acquisitions - (274,973) 552,159 ------------- -------------- ------------- Net cash provided by (used in) investing activities 7,226,010 13,318,659 (25,352,388) ------------- -------------- ------------- Cash flows from financing activities: Payments of long-term debt (116,002) (8,145) (1,379,738) Payments under capital lease obligations (1,447,302) (2,003,389) (1,492,333) Proceeds from exercise of common stock options and warrants - 366,220 562,847 Net proceeds from issuance of common stock 599 64,810 65,088,484 Payments for treasury stock - (371,458) - ------------- -------------- ------------- Net cash (used in) / provided by financing activities (1,562,705) (1,951,962) 62,779,260 ------------- -------------- ------------- Net change in cash and cash equivalents (10,740,791) (23,295,776) 7,335,958 Effect of exchange rate changes on cash and cash equivalents (44,935) 59,332 (533) Cash and cash equivalents at beginning of period 13,349,554 36,585,998 29,250,572 ------------- -------------- ------------- Cash and cash equivalents at end of period $ 2,563,828 $ 13,349,554 $ 36,585,998 ============= ============== ============= Supplemental disclosure of cash flow information: Cash paid during the period for: Interest $ 174,111 $ 364,316 $ 534,458 ============= ============== ============= Income taxes $ 100,206 $ 156,313 $ 209,723 ============= ============== ============= Supplemental disclosure of non-cash transactions: Common stock and options issued in connection with business acquired $ - $ 15,065,218 $ 80,475,536 ============= ============== ============= Equipment acquired under capital leases $ - $ 132,431 $ 2,545,134 ============= ============== =============
See accompanying notes to consolidated financial statements. 49 THEGLOBE.COM, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 2001 AND 2000 (1) ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (a) Description of the Company theglobe.com, inc. was incorporated on May 1, 1995 (inception) and commenced operations on that date. theglobe.com was an online property with registered members and users in the United States and abroad which allowed its users to personalize their online experience by publishing their own content and interacting with others having similar interests. However, due to the continuing decline in the advertising market, the Company was forced to take additional cost-reduction and restructuring initiatives, which included closing www.theglobe.com business effective August 15, 2001. The Company then began to ---------------- aggressively seek buyers for some or all of its remaining online and offline properties, which consisted primarily of games-related properties. In October 2001, the Company sold all of the assets used in connection with the Games Domain and Console Domain websites to British Telecommunications plc, and all of the assets used in connection with the Kids Domain website to Kaboose Inc. (See Note 4 of notes to consolidated financial statements - Dispositions). As of December 31, 2001, the Company continues to operate its Computer Games print magazine and the associated website Computer Games Online (www.cgonline.com), as well as the games distribution business of Chips & Bits, -- Inc. (www.chipsbits.com). Also as of December 31, 2001, the Company continued to host its Happy Puppy.com website for game downloads only, but with no associated sales staff or editorial staff, for purposes of finding a buyer for the site and preserving the Happy Puppy brand. In February 2002, the Company sold all of the assets used in connection with the Happy Puppy website to Internet Game Distribution, LLC (See Note 16 of notes for consolidated financial statements - Subsequent Events). As of December 31, 2001, the Company continued to actively explore a number of strategic alternatives for its remaining online and offline game properties, including selling some or all of these properties and/or entering into new or different lines of business, which may include investments in real estate. Currently, the Company's revenue sources are principally from the sale of print advertising in its Computer Games magazine; the sale of video games and related products through Chips & Bits, Inc., its games distribution business; the sale of its Computer Games magazine through newsstands and subscriptions; and the limited sales of online advertising. The Company's common Stock was delisted from the Nasdaq national market in April 2001 and are now traded in the over-the-counter market on what is commonly referred to as the electronic bulletin board. As a result, an investor may find it more difficult to dispose of or obtain accurate quotations as to the market value of the securities. The trading volume the Company's shares has dramatically declined since the delisting. In addition, the company is now subject to a Rule promulgated by the Securities and Exchange Commission that, if the company fails to meet criteria set forth in such Rule, various practice requirements are imposed on broker-dealers who sell securities governed by the Rule to persons other than established customers and accredited investors. For these types of transactions, the broker-dealer must make a special suitability determination for the purchaser and have received the purchaser's written consent to the transactions prior to sale. Consequently, the Rule may have a materially adverse effect on the ability of broker-dealers to sell the securities, which may materially affect the ability of shareholders to sell the securities in the secondary market. The delisting has made trading the Company's shares more difficult for investors, potentially leading to further declines in share price. It would also make it more difficult for the Company to raise additional capital, although the Company has no intentions to do so. We will also incur additional costs under state blue sky laws if we sell equity due to our delisting. 50 The Company's December 31, 2001 consolidated financial statements have been prepared assuming the Company will continue as a going concern. The Company has suffered recurring losses from operations since inception that raise substantial doubt about its ability to continue as a going concern. Management and the Board of Directors are currently exploring a number of strategic alternatives and also continuing to identify and implement internal actions to improve the Company's liquidity and operations. These alternatives may include selling assets, which could result in significant changes in the Company's business plan, or entering into new or different lines of business, which may include investments in real estate. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty. (b) Principles of Consolidation The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries from their respective dates of acquisition (see Note 5 of notes for consolidated financial statements). All significant inter-company balances and transactions have been eliminated in consolidation. (c) Cash and Cash Equivalents The Company considers all highly liquid securities with maturities of three months or less to be cash equivalents. Cash equivalents were $0 and $13.3 million at December 31, 2001 and 2000, respectively, and consisted of government securities. (d) Short-term Investments The Company accounts for its short-term investments in accordance with Statement of Financial Accounting Standards No. 115, "Accounting for Certain Investments in Debt and Equity Securities" ("SFAS 115"). SFAS 115 establishes the accounting and reporting requirements for all debt securities and for investments in equity securities that have readily determinable fair market value. All short-term marketable securities must be classified as one of the following: held-to-maturity, available-for-sale or trading securities. The Company's short-term investments consist of held-to-maturity securities. The Company's held-to-maturity securities are carried at amortized cost in the statement of financial position. The amortization of the discount or premium that arises at acquisition is included in earnings. The Company's available-for-sale securities are carried at fair value, with unrealized gains and losses reported as Accumulated Other Comprehensive Loss in stockholders' equity. Realized gains, realized losses and declines in value judged to be other-than-temporary, are included in interest income (expense). All such gains and losses are calculated on basis of specific-identification method. Interest earned is included in earnings. For the years ended December 31, 2001, 2000, and 1999, realized gains or losses upon the sale of securities were not material. At December 31, 2001 and 2000, the fair value of the Company's available-for-sale securities approximated cost and unrealized gains and losses were not material. The Company's short-term investments were comprised of the following at December 31, 2001 and 2000:
DECEM BER 31, 2001 2000 -------- --------- (IN THO USANDS) -------- --------- Available-for-sale securities $ 51 $ - Held-to-maturity securities . - 2,996 -------- --------- Short-term investments. . . $ 51 $ 2,996 ======== =========
(e) Inventory Inventories, consisting of products available for sale, are recorded using the specific-identification method and valued at the lower of cost or market value. The Company's provision for obsolescent inventory as of December 31, 2001 and December 30, 2000 was $64,311 and $39,955, respectively. 51 (f) Property and Equipment Property and equipment is stated at cost, net of accumulated depreciation and amortization. Property and equipment is depreciated using the straight-line method over the estimated useful lives of the related assets, generally three to five years for equipment, three years for software and five to seven years for furniture and fixtures. (g) Restricted Investments and Letter of Credit At December 31, 2001 restricted investments consisted of $7,000 in security deposits related to office space. At December 31, 2000, restricted investments included security deposits held in certificates of deposit and other interest bearing accounts as collateral for certain capital lease equipment and office space leases of $3.5 million. The Company was contingently liable under a standby letter of credit of $1.4 million at December 31, 2000. The letter of credit related to the Company's office-space lease, which was fully secured by a restricted certificate of deposit held by the Company. At December 31, 2001, the Company had no letters of credit outstanding. The remaining $2.1 million of restricted cash was various security deposits, which were held as collateral against various operating and capital leases. These security deposits were all liquidated, as substantially all of the Company's operating and capital leases were terminated or settled in 2001. (h) Goodwill and Intangible Assets Goodwill and intangible assets primarily relate to the Company's acquisitions accounted for under the purchase method of accounting, or its purchase of intangible assets. Under the purchase method of accounting, the excess of the purchase price over the identifiable net tangible assets of the acquired entity is recorded as identified intangible assets and goodwill. Goodwill and intangible assets are stated at cost, net of accumulated amortization, and are being amortized using the straight-line method over the expected period of benefit ranging from 2 to 3 years (3 years for goodwill). See note 3. (i) Impairment of Long-Lived Assets Long-lived assets, including fixed assets, goodwill and other intangible assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. If events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable, the Company estimates the undiscounted future cash flows to result from the use of the asset and its ultimate disposition. If the sum of the undiscounted cash flows is less than the carrying value, the Company recognizes an impairment loss, measured as the amount by which the carrying value exceeds the fair value of the asset. Fair value would generally be determined by market value. Assets to be disposed of are the lower of the carrying value or fair value less costs to sell. In 2000, the Company wrote off $32.4 million in net book value of goodwill and intangible assets. In 2001, the Company wrote off $10.7 million in net book value of goodwill and intangible assets and $5.2 million in net book value of fixed assets. (j) Fair Value of Financial Instruments The carrying amount of certain of the Company's financial instruments, including cash, cash equivalents, short-term investments, accounts receivable, accounts payable, accrued expenses and deferred revenue, approximate their fair value at December 31, 2001 and 2000 because of their short maturities. (k) Income Taxes The Company accounts for income taxes using the asset and liability method. Under this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the consolidated financial statement carrying amounts of existing assets and liabilities and their respective tax bases for operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in the consolidated results of operations in the period that the tax change occurs. Valuation allowances are established, when necessary, to reduce deferred tax assets to the amount expected to be realized. 52 (l) Revenue Recognition The Company's revenues were derived principally from the sale of print advertisements under short-term contracts in our games information magazine Computer Games, which was acquired in February 2000; through the sale of video games and related products through our games distribution business Chips & Bits, Inc.; through the sale of our games information magazine through newsstands and subscriptions; and through limited sale of online advertisements principally under short-term advertising arrangements, averaging one to three months. ADVERTISING Online advertising revenues are recognized ratably in the period in which the advertisement is displayed, provided that no significant Company obligations remain and collection of the resulting receivable is probable. Company obligations typically include the guarantee of a minimum number of "impressions", defined as the number of times that an advertisement appears in pages viewed by the users of the Company's online properties, for a fixed fee. Payments received from advertisers prior to displaying their advertisements on the Company's sites are recorded as deferred revenues and are recognized as revenue ratably when the advertisement is displayed. To the extent minimum guaranteed impressions levels are not met, the Company defers recognition of the corresponding revenues until guaranteed levels are achieved. The Company's online advertising revenue includes the development and sale of sponsorship placements within its web sites. Development fees related to the sale of sponsorship placements on the Company's web sites are deferred and recognized ratably as revenue over the term of the contract. The Company also derives revenue through the sale of advertisements in its games information magazine, which was acquired in February 2000. Advertising revenues for the games information magazine are recognized at the on-sale date of the magazine. Advertising revenue from the Company's online properties for the years ended December 31, 2001, 2000 and 1999 was $2.9 million, $15.0 million, and 16.4 million, respectively. Advertising revenue from the Company's games magazine, which was acquired in February 2000, for the years ended December 31, 2001 and 2000 was $3.5 million and $4.5 million, respectively. Advertising revenue accounted for 40%, 65% and 5% of total revenues for the years ended December 31, 2001, 2000, and 1999, respectively. The Company traded advertisements on its web properties in exchange for advertisements on the Internet sites of other companies. Barter revenues and expenses are recorded at the fair market value of services provided or received, whichever is more readily determinable in the circumstances. Revenue from barter transactions is recognized as income when advertisements are delivered on the Company's web properties. Barter expense is recognized when the Company's advertisements are run on other companies' web sites, which typically occurs in the same period in which barter revenue is recognized. Barter revenues were 1%, 4% and 4% of total revenues for the years ended December 31, 2001, 2000 and 1999, respectively. ELECTRONIC COMMERCE AND OTHER The Company derives other revenues from the sale of video games and related products through its online store and the sale of its games information magazine through newsstands and subscriptions. Sales from the online store are recognized as revenue when the product is shipped to the customer. Freight out costs are included in net sales and have not been significant to date. The Company provides an allowance for merchandise sold through its online store. The allowance provided to date has not been significant. Newsstand sales of the games information magazine are recognized at the on-sale date of the magazine, net of provisions for estimated returns. Subscriptions are recorded as deferred revenue when initially received and recognized as income pro ratably over the subscription term. 53 Revenues from the Company's share of the proceeds from its e-commerce partners' sales are recognized upon notification from its partners of sales attributable to the Company's sites. To date revenues from e-commerce revenue shares have been immaterial. Sales through the online store accounted for 31% or $5.1 million, 24% or $7.2 million, and 12% or $2.2 million of total revenues for the years ended December 31, 2001, 2000, and 1999, respectively. Sales of the Company's games information magazine, which was acquired in February 2000, through newsstands and subscriptions accounted for 29% or $4.9 million and 11% or $3.2 million of total revenue for the years ended December 31, 2001 and 2000, respectively. The Company acquired its games information magazine in February 2000. (m) Advertising Costs Advertising costs are expensed as incurred and are included in sales and marketing expense. Advertising costs were $5.1 million, $7.9 million and $8.7 million for the years ended December 31, 2001, 2000, and 1999, respectively. Barter advertising costs were 1%, 4% and 4% of total revenues for the years ended December 31, 2001, 2000 and 1999, respectively. (n) Product Development Product development expenses include professional fees, staff costs and related expenses associated with the development, testing and upgrades to the Company's website as well as expenses related to its editorial content and community management and support. Product development costs and enhancements to existing products are charged to operations as incurred. The Company accounts for development costs in accordance with the American Institute of Certified Public Accountants' Statement of Position 98-1, "Accounting for the Cost of Computer Software Developed or Obtained for Internal Use" ("SOP 98-1"). SOP 98-1 requires all costs related to the development of internal use software other than those incurred during the application development stage to be expensed as incurred. Its also provides guidance on the capitalization of costs incurred during the application development stage for computer software developed or obtained for internal use. As of December 31, 2001 there were no amounts capitalized. (o) Stock-Based Compensation The Company has adopted Statement of Financial Accounting Standard No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123"), which permits entities to recognize as expense over the vesting period the fair value of all stock-based awards on the date of grant. Alternatively, SFAS 123 allows entities to continue to apply the provisions of Accounting Principle Board Opinion No. 25 ("APB 25") and provide pro forma net earnings disclosures for employee stock option grants if the fair-value-based method defined in SFAS 123 had been applied. The Company has elected to continue to apply the provisions of APB Opinion 25 and provide the pro forma disclosure provisions of SFAS 123. The Company has adopted FASB Interpretation No 44, Accounting for Certain Transactions Involving Stock Compensation" ("FIN No. 44") which provides guidance for applying APB Opinion No 25. "Accounting for Stock Issued to Employees. With certain exceptions, FIN No. 44 applies prospectively to new awards, exchanges of awards in a business combination, modifications to outstanding awards and changes in grantee status on or after July 1, 2000. The Company applied FIN No. 44 to account for its cancellation and reissuance of options and there has been no impact on its results of operations for the years ended December 31, 2001 and 2000. (See note 2 of notes for consolidated financial statements) The Company cannot estimate the impact of FIN No. 44 on its future results of operations as the charge is dependent on the future market price of the Company's common stock, which cannot be predicted with any degree of certainty. Depending upon movements in the market value of the Company's common stock, this accounting treatment may result in significant non-cash compensation charges in future periods. (p) Net Loss Per Common Share The Company reports net loss per common share in accordance with Statement of Financial Accounting Standard No. 128, "Computation of Earnings Per Share," ("SFAS 128"). In accordance with SFAS 128 and the SEC Staff Accounting Bulletin No. 98, basic earnings-per-share is computed using the weighted average number of common shares outstanding during the period. Common equivalent shares consist of the incremental common shares issuable upon the conversion of the Convertible Preferred Stock (using the if-converted method) and shares issuable upon the exercise of stock options and warrants (using the Treasury Stock method); common equivalent shares are excluded from the calculation if their effect is anti-dilutive. 54 Diluted loss per share has not been presented separately, as the outstanding stock options, warrants and contingent stock purchase warrants are anti-dilutive for each of the periods presented. Diluted net loss per common share for the years ended December 31, 2001, 2000 and 1999 does not include the effects of options to purchase 3,104,349, 3,891,317, and 4,301,887 shares of Common Stock, respectively nor warrants to purchase 4,011,534, for each of the years then ended. (q) Comprehensive Income (Loss) The Company reports comprehensive income (loss) in accordance with the Statement of Financial Accounting Standard No. 130, "Reporting Comprehensive Income" ("SFAS 130"). This statement establishes standards for the reporting and display of comprehensive income (loss) and its components in a full set of general-purpose financial statements. Comprehensive income (loss) generally represents all changes in shareholders' equity during the year except those resulting from investments by, or distributions to, shareholders. (r) Use of Estimates The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. These estimates and assumptions relate to estimates of collectibility of accounts receivable, the valuation of inventory, the realization of goodwill and other intangible assets, accruals and other factors. Actual results could differ from those estimates. (s) Concentration of Credit Risk Financial instruments which subject the Company to concentrations of credit risk consist primarily of cash and cash equivalents, short-term investments, trade accounts receivable and restricted investments. The Company invests its cash and cash equivalents and short-term investments among a diverse group of issuers and instruments. The Company performs periodic evaluations of these investments and the relative credit standings of the institutions with which it invests. The Company's customers are primarily concentrated in the United States. The Company performs ongoing credit evaluations of its customers' financial condition and establishes an allowance for doubtful accounts based upon factors surrounding the credit risk of customers, historical trends and other information. Concentration of credit risk is limited due to the Company's large number of customers, however the Company's online advertising client base has been until recently concentrated among dedicated internet companies. For the years ended December 31, 2001, 2000, and 1999 there were no customers that accounted for over 10% of revenues generated by the Company. The Company had no customers that represented more than 10% of accounts receivable as of December 31, 2001 and 2000. (t) Segment Reporting The Company applies the provisions of Statement of Financial Accounting Standards No. 131, "Disclosures About Segments of an Enterprise and Related Information" ("SFAS 131"), which establishes annual and interim reporting standards for operating segments of a company. SFAS 131 requires disclosures of selected segment-related financial information about products, major customers and geographic areas. The Company is organized in a single operating segment for purposes of making operating decisions and assessing performance. The chief operating decision maker evaluates performance, makes operating decisions and allocates resources based on financial data consistent with the presentation in the accompanying condensed consolidated financial statements. 55 The Company's revenues have been earned primarily from customers in the United States. In addition, all significant operations and assets are based in the United States. (u) Recent Accounting Pronouncements In June 2001, the Financial Accounting Standards Board issued SFAS No. 141, "Business Combinations," and SFAS No. 142, "Goodwill and Other Intangible Assets." SFAS No. 141 requires that the purchase method of accounting be used for all business combinations. SFAS No. 141 specifies criteria that intangible assets acquired in a business combination must meet to be recognized and reported separately from goodwill. SFAS No. 142 will require that goodwill and intangible assets with indefinite useful lives no longer be amortized, but instead tested for impairment at least annually in accordance with the provisions of SFAS No. 142. SFAS No. 142 also requires that intangible assets with estimable useful lives be amortized over their respective estimated useful lives to their estimated residual values, and reviewed for impairment in accordance with SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of," and subsequently SFAS No. 144 after its adoption. The Company adopted the provisions of SFAS No. 141 as of July 1, 2001 and SFAS No. 142 is effective January 1, 2002. Goodwill and intangible assets determined to have an indefinite useful life acquired in purchase business combinations completed after June 30, 2001, but before SFAS No. 142 is adopted in full, are not amortized. Goodwill and intangible assets acquired in business combinations completed before July 1, 2001 will continue to be amortized and tested for impairment prior to the full adoption of SFAS No. 142. Upon adoption of SFAS No. 142, the Company is required to evaluate its existing intangible assets and goodwill that were acquired in a purchase business combination, and to make any necessary reclassifications in order to conform with the new criteria in SFAS No. 141 for recognition separate from goodwill. The Company will be required to reassess the useful lives and residual values of all intangible assets acquired, and make any necessary amortization period adjustments by the end of the first interim period after adoption. If an intangible asset is identified as having an indefinite useful life, the Company will be required to test the intangible asset for impairment in accordance with the provisions of SFAS No. 142 within the first interim period. Impairment is measured as the excess of carrying value over the fair value of an intangible asset with an indefinite life. Any impairment loss will be measured as of the date of adoption and recognized as the cumulative effect of a change in accounting principle in the first interim period. In connection with SFAS No. 142's transitional goodwill impairment evaluation, the statement requires the Company to perform an assessment of whether there is an indication that goodwill is impaired as of the date of adoption. To accomplish this the Company must identify its reporting units and determine the carrying value of each reporting unit by assigning the assets and liabilities, including the existing goodwill and intangible assets, to those reporting units as of January 1, 2002. The Company will then have up to six months from the date of adoption to determine the fair value of each reporting unit and compare it to the reporting unit's carrying amount. To the extent a reporting unit's carrying amount exceeds its fair value, an indication exists that the reporting unit's goodwill may be impaired and the Company must perform the second step of the transitional impairment test. The second step is required to be completed as soon as possible, but no later than the end of the year of adoption. In the second step, the Company must compare the implied fair value of the reporting unit's goodwill, determined by allocating the reporting unit's fair value to all of it assets (recognized and unrecognized) and liabilities in a manner similar to a purchase price allocation in accordance with SFAS No. 141, to its carrying amount, both of which would be measured as of the date of adoption. In August 2001, the Financial Accounting Standards Board issued FASB Statement No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets (Statement 144), which supersedes both FASB Statement No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of (Statement 121) and the accounting and reporting provisions of APB Opinion No. 30, Reporting the Results of Operations-Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions (Opinion 30), for the disposal of a segment of a business (as previously defined in that Opinion). Statement 144 retains the fundamental provisions in Statement 121 for recognizing and measuring impairment losses on long-lived assets held for use and long-lived assets to be disposed of by sale, while also resolving significant implementation issues associated with Statement 121. For example, Statement 144 provides guidance on how a long-lived asset that is used as part of a group should be evaluated for impairment, establishes criteria for when a long-lived asset is held for sale, and prescribes the accounting for a long-lived asset that will be disposed of other than by sale. Statement 144 retains the basic provisions of Opinion 30 on how to present discontinued operations in the income statement but broadens that presentation to include a component of an entity (rather than a segment of a business). Unlike Statement 121, an impairment assessment under Statement 144 will never result in a write-down of goodwill. Rather, goodwill is evaluated for impairment under Statement No. 142, Goodwill and Other Intangible Assets. 56 The Company is required to adopt Statement 144 no later than the year beginning after December 15, 2001, and plans to adopt its provisions for the quarter ending March 31, 2002. Management does not expect the adoption of Statement 144 for long-lived assets held for use to have a material impact on the Company's financial statements because the impairment assessment under Statement 144 is largely unchanged from Statement 121. The provisions of the Statement for assets held for sale or other disposal generally are required to be applied prospectively after the adoption date to newly initiated disposal activities. Management has determined that the adoption of Statement 144 will not have a material impact on the Company's financial statements. (2) STOCK OPTION REPRICING On May 31, 2000, the Company offered to substantially all of its employees, excluding executive officers and the Board of Directors, the right to cancel certain outstanding stock options and receive new options with an exercise price equal to the then current fair market value of the stock. Options to purchase a total of approximately 1.1 million shares, approximately 20% of outstanding options, were canceled and approximately 856,000 new options were granted at an exercise price of $1.594 per share, which was based on the closing price of the Company's common stock on May 31, 2000. The new options vest at the same rate that they would have vested under previous option plans. As described above in note 1(o), the Company is accounting for these re-priced stock options using variable accounting in accordance with FIN No. 44. In addition, as a result of options, which were granted within six months of the cancellations, an additional 244,000 options also require variable accounting in accordance with FIN No. 44. For the years ended December 31, 2001 and 2000, there has been no compensation charge relating to the re-pricing due to the decrease in value of the common stock price. Depending upon movements in the market value of the Company's common stock, this accounting treatment may result in significant non-cash compensation charges in future periods. (3) RESTRUCTURING AND IMPAIRMENT CHARGES For the years ended December 31, 2001, and December 31, 2000, the Company recorded restructuring and impairment charges of $17.1 million and $41.3 million, respectively. In the second quarter of 2001, the Company announced cost-reduction initiatives. These initiatives included the elimination of 59 positions, or 31% of the Company's workforce at that time. The severance benefits of $470,000 were paid in the second quarter of 2001. Additionally, the Company closed its San Francisco office in May 2001 and an additional $54,000 security deposit was relinquished as settlement to terminate the remaining lease obligation. In the second quarter of 2001, the Company recorded impairment charges of $4.5 million related to the servers and computers used for serving and hosting www.webjump.com and www.theglobe.com as a result of management's ongoing --------------- ---------------- business review and impairment analysis performed under its existing policy regarding impairment of long-lived assets. In the third quarter of 2001, the Company continued its cost cutting measures. The Company eliminated 60 additional positions, or 58% of the Company's workforce. As a result, severance benefits of $1.0 million were paid in the third quarter of 2001. Additionally, the Company terminated its lease at 120 Broadway in New York and its operations relocated to a significantly smaller facility in New York, in September 2001. The Company also decided to shut down its www.theglobe.com and ---------------- www.webjump.com websites effective August 15, 2001. The servers located in a --------------- facility in Staten Island, New York were in use through August 31, 2001. The Company discontinued the use of these servers on August 31, 2001 and is now using hosted facilities for its live websites. As a result of these measures, the Company recorded net restructuring and impairment charges related to the fixed assets consisting of computer hardware and software, furniture and fixtures, communications equipment and leasehold improvements at the two locations totaling approximately $3.67 million, and miscellaneous net restructuring credit amounts related to the settlement of prepaid items, accruals and capital lease obligations totaling approximately $0.26 million. 57 Further, in the third quarter of 2001, the Company recorded additional impairment charges of $4.2 million, of which $3.6 million related to Chips & Bits and Strategy Plus and $0.6 million related to Attitude Network, Ltd. related to goodwill and other intangible assets, as a result of management's ongoing business review and impairment analysis performed under its existing policy regarding impairment of long-lived assets. In the fourth quarter of 2001, severance benefits of $0.1 million were paid relating to the cost cutting measures initiated in the third quarter 2001. The company also wrote off $3.3 million in goodwill as result of comparing the carrying values of goodwill to their fair values. Where impairment indicators were identified, management determined the amount of the impairment charge by comparing the carrying values of goodwill and other long-lived assets to their fair values. Management determines fair value based on a market approach, which during 2001 and 2000 mainly included proposals for sale of its business properties. As a result, during management's quarterly review of the value and periods of amortization of both goodwill and other long-lived assets, it was determined that the carrying value of goodwill and certain other tangible and intangible assets were not fully recoverable. The Company acquired certain tangible assets such as server and computer equipment used for serving and hosting the various websites of the Company during 1999 and 2000. These tangible assets were used for serving and hosting the various websites of the Company. The Company's revaluation of goodwill and intangible assets related to Attitude Network, Ltd., Strategy Plus, Inc. and Chips & Bits, Inc. and the tangible assets was triggered by the continued and prolonged decline in Internet advertising throughout 2000 and 2001, which significantly impacted current projected advertising revenue generated from these web-based properties and the downturn in computer games e-commerce business and has resulted in declines in operating and financial metrics over the past several quarters, in comparison to the metrics forecasted at the time of their respective acquisitions. It was determined that the fair value of goodwill and intangible assets related to its web-based properties, other businesses and tangible assets were less than the recorded amount. The methodology used to test for and measure the amount of the impairment charge related to the intangible assets was based on the same methodology as used during the initial acquisition valuation of these web-based properties and other businesses. The impairment related to the tangible assets was based on the estimated net realizable value of these assets. The impairment factors evaluated by management may change in subsequent periods, given that the Company's business operates in a highly volatile business environment. This could result in material impairment charges in the future. As of December 31, 2001, the amount remaining in the Company's restructuring accruals recorded in 2001 and 2000 were $200,000 and $0, respectively. As of December 31, 2001, after giving effect to the fourth quarter of 2000 and full-year 2001 impairment charges, the total remaining amount of goodwill and other intangible assets, net, is $0 for Attitude Networks, which was acquired in April 1999, and $0 for Chips & Bits and Strategy Plus which were acquired in February 2000. The impairment factors evaluated by management may change in subsequent periods, given that our business operates in a highly volatile business environment. In the second quarter of 2000, we recorded a $15.6 million restructuring charge as a result of a strategic decision made by management to shut down our electronic commerce operations in Seattle, Washington in order to realign our electronic commerce operations to focus on the direct sale of video games and related products as well as revenue share relationships with third parties who are interested in reaching our targeted audiences. The $15.6 million charge incurred primarily related to a $12.8 million write-off of the remaining goodwill and intangibles associated with our 1999 acquisition of Factorymall.com, costs associated with the closing of the Seattle operations of $0.5 million, write-offs related to the disposal of inventory, equipment and other assets of $1.7 million as well as $0.6 million of employee severance and related benefits incurred primarily related to the termination of 30 employees. 58 In the fourth quarter of 2000, we incurred an additional $25.7 million in restructuring and impairment charges as follows: - We recorded a restructuring charge of $1.8 million, including $398,000 of non-cash compensation, as a result of strategic decisions made by management to increase operational efficiencies, improve margins and further reduce expenses. The restructuring charge primarily related to a workplace reduction of 26 employees. - In addition, we recorded an impairment charge of $4.3 million in connection with our termination of a distribution agreement with Sportsline in November 2000. - As discussed below, we also recorded impairment charges of $19.6 million as a result of management's ongoing business review and impairment analysis performed under its existing policy regarding impairment of long-lived assets. In 1999, the Company completed acquisitions of Attitude Network, Ltd. and the web hosting assets of Webjump.com that were financed principally with shares of the Company's common stock, and were valued based on the price of the Company's common stock at that time. The revaluation was triggered by the continued decline in Internet advertising throughout 2000, which significantly impacted current projected advertising revenue generated from these web based properties. In addition, each of these web based properties have experienced declines in operating and financial metrics over the past several quarters, primarily due to the continued weak overall demand of on-line advertising and marketing services, in comparison to the metrics forecasted at the time of their respective acquisitions. The impairment analysis considered that these web-based properties were acquired during 1999 and that the intangible assets recorded at the time of acquisition was being amortized over useful lives of 2 - 3 years (3 years for goodwill). As a result, it was determined that the fair value of Attitude's and Webjump's goodwill and other intangible assets were less than the recorded amount, therefore, an impairment charge of $13.6 million and $6.0 million, respectively, were recorded. The methodology used to test for and measure the amount of the impairment charge was based on the same methodology the Company used during its initial acquisition valuation of Attitude and Webjump in 1999. The Company's management performs on-going business reviews and, based on quantitative and qualitative measures, assesses the need to record impairment losses on long-lived assets used in operations when impairment indicators are present. Where impairment indicators were identified, management determined the amount of the impairment charge by comparing the carrying values of goodwill and other long-lived assets to their fair values. These evaluations of impairment are based on achievement of business plan objectives and milestones of each web based property, the fair value of each ownership interest relative to its carrying value, the financial condition and prospects of the web based property, and other relevant factors. The business plan objectives and milestones that are considered include, among others, those related to financial performance, such as achievement of planned financial results and completion of capital raising activities, if any, and those that are not primarily financial in nature, such as the launching or enhancements of a web site, the hiring of key employees, the number of people who have registered to be part of the associated properties' web community, and the number of visitors to the associated properties' web site per month. Management determines fair value based on a market approach, which includes analysis of market price multiples of companies engaged in lines of business similar to the company. The market price multiples are selected and applied to the company based on the relative performance, future prospects and risk profile of the company in comparison to the guideline companies. As a result, during management's quarterly review of the value and periods of amortization of both goodwill and other long-lived assets, it was determined that the carrying value of goodwill and certain other intangible assets were not fully recoverable. (4) DISPOSITIONS In August 2001, the Company sold the www.webjump.com URL to USGO Inc. for --------------- $20,000, of which the entire amount represents gain on sale of other assets. On October 30, 2001, the Company sold to the management of Kaboose.com, Inc. all of the assets used in connection with the KidsDomain.com web site for $75,000. As a result, the Company recognized a gain on the sale of Kids Domain assets of approximately $5,000. 59 On October 17, 2001, the Company sold to British Telecommunications, plc all of the assets used in connection with the Games Domain and Console Domain web sites. The total consideration for the purchase is the sum of: $420,000 upon contract completion; a first installment payment of a minimum of $147,500, which was received in 2002 and up to a maximum of $220,500, based on the percentage achievement of a predetermined revenue target for the fourth quarter of 2001, ending December 31, 2001; and, a second installment of a minimum of $147,500 and up to a maximum of $220,500, based on the percentage achievement of a predetermined revenue target for the first quarter of 2002, ending March 31, 2002. The minimum consideration is $715,000 and the maximum potential consideration is $861,000. Accordingly, as of December 31, 2001, the Company recognized a loss on the sale of the Games Domain and Console Domain assets of approximately $32,000 based on the minimum potential consideration as of December 31, 2001. The Company has a receivable from British Telecommunications plc in the amount of $358,293 as of December 31, 2001, which is included in prepaid expenses and other current assets in the consolidated balance sheet. (5) ACQUISITIONS a) factorymall.com, inc. On February 1, 1999, theglobe formed Nirvana Acquisition Corp. ("Nirvana"), a Washington corporation and a wholly owned subsidiary of theglobe. Nirvana was merged with and into factorymall.com, inc., a Washington corporation d/b/a Azazz ("factorymall"), with factorymall as the surviving corporation. The merger was effected pursuant to the Agreement and Plan of Merger, dated February 1, 1999, by and among theglobe.com, Nirvana, and factorymall and certain shareholders thereof. As a result of the merger, factorymall became a wholly owned subsidiary of theglobe. factorymall operated Azazz, a leading interactive department store. This transaction was accounted for under the purchase method of accounting. The consideration paid by theglobe in connection with the merger consisted of approximately 614,104 newly issued shares of Common Stock, valued at $17.5 million. In addition, options to purchase shares of factorymall's common stock, without par value, were exchanged for options to purchase approximately 82,034 shares of theglobe's Common Stock, valued at $1.7 million. Warrants to purchase shares of factorymall common stock were exchanged for warrants to purchase approximately 18,810 shares of theglobe's Common Stock, valued at $0.4 million. theglobe also assumed certain bonus obligations of factorymall triggered in connection with the merger that resulted in the issuance by theglobe of approximately 73,728 shares of Common Stock, valued at $2.0 million, and payment by theglobe of approximately $0.5 million in cash, which has been included as part of the total purchase price consideration. The Company also incurred expenses of approximately $0.7 million related to the merger. The total purchase price for this transaction was approximately $22.8 million. Of this amount, approximately $0.1 million of the purchase price was allocated to net tangible assets. The historical carrying amounts of such net tangible assets approximated their fair values. The purchase price in excess of the fair value of the net tangible assets assumed, in the amount of $22.7 million was allocated to goodwill and certain identifiable intangible assets and is being amortized using the straight-line method over its estimated useful life of 2 to 3 years (3 years for goodwill), the expected period of benefit. Factorymall's results of operations are included in the consolidated statement of operations from February 1, 1999. In April 2000, the Company decided to close Factorymall's operations and recorded an impairment and restructuring charge (see Note 3 for additional information). b) Attitude Network, Ltd. On April 5, 1999, theglobe formed Bucky Acquisition Corp. ("Bucky"), a Delaware corporation and a wholly owned subsidiary of theglobe. Bucky was merged with and into Attitude Network, Ltd., a Delaware corporation ("Attitude"), with Attitude as the surviving corporation. The merger was effective pursuant to the Agreement and Plan of Merger, dated April 5, 1999, which closed on April 9, 1999, by and among theglobe.com, Bucky, Attitude and certain shareholders thereof. As a result of the merger, Attitude became a wholly owned subsidiary of theglobe.com. Attitude's properties publish games information content and include HappyPuppy, Kids Domain, Console Domain and Games Domain. This transaction was accounted for under the purchase method of accounting. 60 The consideration paid by theglobe.com in connection with the merger consisted of 1,570,922 newly issued shares of Common Stock, valued at $43.1 million. In addition, options to purchase shares of Attitude's common stock were exchanged for options to purchase approximately 84,760 shares of Common Stock, valued at $1.9 million. Warrants to purchase shares of Attitude common stock were exchanged for warrants to purchase approximately 46,706 shares of theglobe Common Stock, valued at $1.0 million. The Company also incurred expenses of approximately $0.8 million related to the merger. The total purchase price for this transaction was approximately $46.8 million. Of this amount, approximately $0.2 million of the purchase price was allocated to net tangible liabilities. The historical carrying amounts of such net tangible liabilities approximated their fair values. The purchase price in excess of the fair value of the net tangible liabilities assumed in the amount of $47.0 million was allocated to goodwill and certain identifiable intangible assets and is being amortized using the straight-line method over a its estimated useful life of 3 years, the expected period of benefit. Attitude's results of operations are included in the consolidated statement of operations from April 9, 1999. See Note 3 of notes for consolidated financial statements for additional information regarding impairment charge. See Note 4 of notes for consolidated financial statements for additional information regarding the disposition of Attitude's assets. (c) Chips & Bits and Strategy Plus On February 24, 2000, CB Acquisition Corp. ("CB Merger Sub"), a Vermont corporation and a wholly owned subsidiary of theglobe.com was merged with and into Chips & Bits, Inc., a Vermont corporation ("Chips & Bits"), with Chips & Bits as the surviving corporation (the "CB Merger"). Also on February 24, 2000, SP Acquisition Corp. ("SP Merger Sub"), a Vermont corporation and a wholly owned subsidiary of theglobe.com, was merged with and into Strategy Plus, Inc., a Vermont corporation ("Strategy Plus"), with Strategy Plus as the surviving corporation (together with the CB Merger, the "Mergers"). The Mergers were effected pursuant to an Agreement and Plan of Merger dated as of January 13, 2000 by and among theglobe.com, CB Merger Sub, SP Merger Sub, Chips & Bits, Strategy Plus, Yale Brozen and Christina Brozen (the "Merger Agreement"). As a result of the Mergers, both Chips & Bits and Strategy Plus became wholly owned subsidiaries of theglobe.com. The consideration paid by the Company consisted of 1,903,977 shares of the Company's Common Stock, valued at $14.9 million. The Company also incurred acquisition costs of approximately $0.6 million. An additional payment of $1.3 million in newly issued shares of Common Stock was contingent upon the attainment of certain performance targets by Chips & Bits and Strategy Plus during the 2000 fiscal year. During August 2001, the Company settled this contingency resulting in no additional consideration being paid to the former shareholders. This transaction was accounted for under the purchase method of accounting. The aggregate purchase price of these transactions was $15.5 million. The Company has allocated $1.1 million to the net tangible assets of Chips & Bits and $1.6 million to the net tangible liabilities of Strategy Plus. The historical carrying amounts of the net tangible assets acquired and liabilities assumed by the Company approximated their fair market value on the date of acquisition. The purchase price in excess of the fair market value of the net tangible assets acquired and liabilities assumed by the Company amounted to $16.0 million and was allocated to goodwill. The goodwill amount is being amortized under the straight-line method over an estimated useful life of 3 years, the expected period of benefit. Chips & Bits and Strategy Plus's results of operations are included in the condensed consolidated statement of operations from February 24, 2000. See Note 3 of notes for consolidated financial statements for additional information regarding impairment charge. The following unaudited pro forma consolidated financial information gives effect to the Chip & Bits and Strategy Plus acquisitions, as if the acquisition had occurred at January 1, 2000 by consolidating the results of operations of the Company, Chips & Bits and Strategy Plus for the year ended December 31, 2000. 61
DECEMBER 31, 2000 DECEMBER 31, 1999 ------------------- ------------------- Revenues. . . . . . . . . . . . . . . . . . . . . . . . . $ 31,560 $ 31,376 Net loss. . . . . . . . . . . . . . . . . . . . . . . . . (105,187) (62,406) Net loss per share-basic and diluted. . . . . . . . . . . $ (3.44) $ (2.30) Weighted average basic and diluted shares outstanding (1) 30,568 27,165 (1) The weighted average common shares used to compute pro forma basic net loss per share includes the actual weighted average common shares outstanding for the historical year ended December 31, 2000, plus the common shares issued in connection with the Chips & Bits and Strategy Plus acquisition as if it occurred on January 1, 2000.
(d) Web Hosting Assets of Webjump.com On November 30, 1999, Jump Acquisition LLC ("Jump LLC"), a Delaware limited liability company and a wholly owned subsidiary of theglobe, acquired all of the assets of Webjump.com ("Webjump"), a web hosting property. The purchase of the Webjump assets was affected pursuant to an Agreement of Purchase and Sale, dated November 30, 1999, by and among theglobe, Jump LLC, Infonent.com and certain stockholders of Infonent.com. The assets acquired in connection with this transaction consisted of data, intellectual property and other physical property used in connection with the operation of Webjump's web hosting property. The Company issued 1,104,972 shares of newly issued Common Stock, valued at $12.9 million, in connection with this transaction. An additional $12.5 million, payable in newly issued shares of Common Stock, was contingent based upon the attainment by the Webjump property of certain performance targets on or prior to November 30, 2000. Management determined that such targets were not achieved as of the measurement date, however, on February 14, 2001 the former shareholder group filed a lawsuit against us claiming that they are entitled to $9.5 million related to the above mentioned targets. In August 2001, the Company executed a settlement agreement with the trustee for Infonent.com in which the trustee agreed to dismiss all claims in return for a payment of $175,000 by the Company. See Note 13 (d) of notes for consolidated financial statements for additional information. In addition to the issuance of Common Stock, the Company incurred acquisition costs of $0.1 million. The aggregate purchase price of $13.0 million has been accounted for as purchased intangible assets and will be amortized using the straight-line method over an estimated useful life of 3 years, the expected period of benefit. See Note 3 of notes for consolidated financial statements for additional information regarding impairment charge. (6) PROPERTY AND EQUIPMENT Property and equipment consist of the following:
DECEMBER 31, DECEMBER 31, 2001 2000 ------------- -------------- (in thousands) Computer equipment and software, including assets under capital leases of $0 and $5,666, respectively . . . . . . . . . . . . . . . . . . . . . . . . . $ 588 $ 11,948 Furniture and fixtures, including assets under capital leases of $0 and $42, respectively . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 311 1,632 Leasehold improvements . . . . . . . . . . . . . . . . . . . . . . . . . . . - 2,112 ------------- -------------- 899 15,692 Less accumulated depreciation and amortization, including amounts related to assets under capital leases of $0 and $3,672 respectively. . . . . . . . . 656 7,716 ------------- -------------- Total. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 243 $ 7,976 ============= ==============
62 (7) INCOME TAXES Income taxes for the years ended December 31, 2001 and 2000 are based solely on state and local taxes on business and investment capital. The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities at December 31, 2001, 2000 and 1999 are presented below.
2001 2000 ---------- --------- (in thousands) Deferred tax assets: Net operating loss carryforwards $ 52,974 $ 49,473 Allowance for doubtful accounts 1,069 728 Depreciation - (447) Issuance of warrants 813 630 Deferred compensation - 580 Start-up costs - 105 Deferred revenue - 19 ---------- --------- Total gross deferred tax assets 54,856 51,088 Less valuation allowance (54,856) (50,632) ---------- --------- Total net deferred tax assets 456 Deferred tax liabilities: Intangible assets other than goodwill - (456) ---------- --------- Total gross deferred tax liabilities - - ---------- --------- $ - $ - ---------- ---------
Because of the Company's lack of earnings history, the deferred tax assets have been fully offset by a 100% valuation allowance. The valuation allowance for deferred tax assets was $54.9 million and $50.6 million as of December 31, 2001 and 2000, respectively. The net change in the total valuation allowance was $4.3 million and $18.7 million for the years ended December 31, 2001 and 2000, respectively. In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Management considers the scheduled reversal of deferred tax liabilities, projected future taxable income and tax planning strategies in making this assessment. Of the total valuation allowance of $54.9 million, subsequently recognized tax benefits, if any, in the amount of $5.8 million will be applied directly to contributed capital. At December 31, 2001 and December 31, 2000, the Company had net operating loss carryforwards available for US and foreign tax purposes of approximately $115 million and $105.2 million respectively. These carryforwards expire through 2021. Under Section 382 of the Internal Revenue Code of 1986, as amended (the "Code"), the utilization of net operating loss carryforwards may be limited under the change in stock ownership rules of the Code. As a result of ownership changes, which occurred in August 1997 and May 1999, the Company's operating tax loss carryforwards and tax credit carryforwards are subject to these limitations. (8) SPORTSLINE.COM, INC. DISTRIBUTION AGREEMENT In February 2000, the Company entered into a strategic two-year partnership with Sportsline.com, Inc. ("Sportsline"), whereby the Company became the exclusively developer and operator of community solutions on the Sportsline web site ("Sportsline Agreement"). In accordance with the Sportsline Agreement, Sportsline received $5.0 million, paid in the Company's Common Stock and the Company received the exclusive right to sell advertising, sponsorships and non-sports related e-commerce within the Sportsline community area. The total shares of Common Stock issued in connection with the Sportsline Agreement were 699,281 valued at $7.15 per share. The Company recorded the initial $5.0 million payment in connection with this firmly committed executory contract in other assets and began amortizing the amount under the straight-line method over the two year contractual term of the Sportsline Agreement which commenced upon Sportsline's launch of the Company's community solutions on its web site in April 2000. 63 In connection with the $5 million payment, the Company guaranteed that if Sportsline elected to sell any of its 699,281 shares during defined selling periods and Sportsline's net proceeds from the sale of these shares was less than the original issue price of $7.15 per share, the Company would be required to pay Sportsline the difference, however, the total guarantee was limited to $2,450,000 payable in cash and/or the Company's Common Stock at the Company's option. The Company was required to provide a $1.5 million security deposit for its obligation to pay the guarantee. As of June 30, 2000, the Company recorded an additional $2.45 million in other assets and additional paid-in-capital in connection with this guarantee payment based upon the fair market value of the Company's Common Stock at June 30, 2000. This amount was being amortized over the remaining contractual terms of the agreement and was being adjusted accordingly at each interim balance sheet date for fluctuations in the fair market value of the Company's Common Stock. On November 1, 2000, theglobe.com and Sportsline terminated this agreement, whereby theglobe.com agreed to settle its guarantee payment by releasing the $1.5 million security deposit held in escrow. As a result of the termination, the Company recorded an impairment charge in the fourth quarter of 2000 of $4,311,724, representing the write-off of the remaining unamortized initial and guarantee payments of $5,261,724 in the aggregate, the relinquishment of the security deposit of $1,500,000 offset by the $2,450,000 guarantee liability originally recorded as additional paid-in capital, as the Company originally intended to satisfy any potential guarantee payments under this agreement through the issuance of Common Stock. The total amount of amortization costs recorded during 2000 in connection with the Sportsline Agreement, excluding the $4,311,724 impairment charge was $2,188,276. These costs are included within sales and marketing. In addition, the Company also agreed to purchase the 699,281 shares of common stock held by Sportsline for $371,458 based upon the closing trading price on that date, or $0.531 per share. This transaction was accounted for as treasury stock within stockholders' equity. (9) STOCKHOLDERS' EQUITY Common Stock In May 1999, the Company completed a secondary public offering of 3,500,000 shares of its Common Stock at an offering price of $20.00 per share. Net proceeds to the Company amounted to $65.0 million, after underwriting discounts and offering costs of $3.5 million and $1.5 million, respectively. In 1999, the Company issued shares of Common Stock in connection with the acquisitions of factorymall, Attitude and the web hosting assets of Webjump. The shares issued in connection with these transactions amounted to 687,832, 1,570,922 and 1,104,972, respectively. In 2000, the Company issued 1,903,973 shares of Common Stock in connection with the acquisitions of Chips & Bits and Strategy Plus. Certain holders of Common Stock are subject to substantial restrictions on the transfer or sale of shares and also have certain 'piggyback' and demand registration rights which, with certain exceptions, require the Company to make all reasonable efforts to include within any of the Company's registration statements to sell such securities any shares that have been requested to be so included. 64 Stock Dividend On May 14, 1999, the Company affected a 2-for-1 stock dividend to all shareholders of record as of May 3, 1999. All share and per share information in the accompanying consolidated financial statements has been retroactively restated to reflect the effect of the stock dividend. Convertible Preferred Stock In August 1997, the Company authorized and issued 51 shares of Series D Preferred Stock for an aggregate cash amount of $20,000,000 in connection with the investment by Dancing Bear Investments, Inc., an entity controlled by the Chairman, which holds a majority interest in the Company. These shares constituted 51% of the fully diluted capital stock of the Company at the time of exercise, as defined. In addition to the Series D Preferred Stock, Dancing Bear Investments, Inc. also received warrants which provided the right to purchase up to 10 shares of Series E Preferred Stock ("Series E Warrants") representing 10% of the fully diluted capital stock of the Company at the time of exercise for an aggregate purchase price of $5,882,353, if exercised in total. Upon consummation of the Company's initial public offering in November 1998, all of the Company's outstanding Preferred Stock was converted into 10,947,470 shares of Common Stock. The number of common shares that the outstanding Series E Warrants are convertible into upon exercise became fixed as a result of the consummation of the initial public offering at 4,046,018 shares. These warrants are immediately exercisable at approximately $1.45 per share. In May 1999, 100,000 shares of the Series E Warrants were exercised. (10) STOCK OPTION PLAN During 1995, the Company established the 1995 Stock Option Plan, which was amended (the "Amended Plan") by the Board of Directors in December 1996 and August 1997. Under the Amended Plan, the Board of Directors may issue incentive stock options or nonqualified stock options to purchase up to 1,582,000 common shares, as amended. Incentive stock options must be granted at the fair market value of the Company's Common Stock at the date the option is issued. In accordance with the provisions of the Company's stock option plans, nonqualified stock options may be granted to officers, directors, other employees, consultants and advisors of the Company. The option price for nonqualified stock options shall be at least 85% of the fair market value of the Company's Common Stock. In general, options granted under the Company's stock option plans expire after a ten-year period and in certain circumstances options, under the 1995 and 1998 plans, are subject to the acceleration of vesting. Incentive options granted to stockholders who own greater than 10% of the total combined voting power of all classes of stock of the Company must be issued at 110% of the fair market value of the stock on the date the options are granted. A committee selected by the Company's Board of Directors has the authority to approve optionees and the terms of the stock options granted, including the option price and the vesting terms. In July 1998, the Company's 1998 Stock Option Plan (the "1998 Plan") was adopted by the Board of Directors and approved by the stockholders of the Company. The 1998 Plan authorized the issuance of 2,400,000 shares of Common Stock, subject to adjustment as provided in the 1998 Plan. In March 1999, the Board of Directors authorized an increase in the number of shares reserved for issuance under the 1998 Plan from 2,400,000 to 3,400,000. This increase was subsequently approved by the Company's stockholders in June 1999. The 1998 Plan provides for the grant of "incentive stock options" intended to qualify under Section 422 of the Code and stock options which do not so qualify. The granting of incentive stock options is subject to limitation as set forth in the 1998 Plan. Directors, officers, employees and consultants of the Company and its subsidiaries are eligible to receive grants under the 1998 Plan. In January 2000, the Board adopted the 2000 Broad Based Employee Stock Option Plan (the "Broad Based Plan"). Under the Broad Based Plan, 850,000 shares of Common Stock were reserved for issuance. The intention of the Broad Based Plan is that at least 50% of the options granted will be to individuals who are not managers or officers of theglobe. In April 2000, the Company's 2000 Stock Option Plan (the "2000 Plan") was adopted by the Board of Directors and approved by the stockholders of the Company. The 2000 Plan authorized the issuance of 500,000 shares of Common Stock, subject to adjustment as provided in the 2000 Plan. The Broad Based Plan and the 2000 Plan provide for the grant of "incentive stock options" intended to qualify under Section 422 of the Code and stock options which do not so qualify. The granting of incentive stock options is subject to limitation as set forth in the Broad Based Plan and the 2000 Plan. Directors, officers, employees and consultants of the Company and its subsidiaries are eligible to receive grants under the Broad Based Plan and the 2000 Plan. A committee selected by the Company's Board of Directors has the authority to approve optionees and the terms of the stock options granted, including the option price and the vesting terms. Options granted under the Broad Based Plan and the 2000 Plan expire after a ten year period. In July 2000, the Company granted options to purchase 1,250,000 shares of Common Stock to Charles Peck in connection with his becoming the Company's new Chief Executive Officer. These options have an exercise price of $1.94 per share and have various vesting terms ranging from immediate to ten years. Certain options have automatic accelerated vesting provisions in which the options vest if the Company's common stock share price reaches certain thresholds. These options were granted pursuant to individual nonqualified stock option agreements between Mr. Peck and the Company and not pursuant to any of the plans described above. During 2000, the Company recorded approximately $398,000 of non-cash compensation expense in connection with the acceleration of vesting of options to purchase 210,000 shares of common stock pursuant to a severance agreement with a former executive officer of the Company. The charge represents the difference between the original exercise price of the option grants and the fair value of the Company's common stock on the date of termination. This non-cash compensation charge was included as part of severance costs in connection with the fourth quarter of 2000 restructuring charges. The Company applies APB Opinion No. 25 in accounting for its stock option plans and, accordingly, compensation cost of $0, $62,570, and $66,000 has been recognized for stock options granted to employees below fair market value in 2001, 2000 and 1999, respectively, in the accompanying consolidated financial statements. Compensation cost recognized in connection with stock options granted in lieu of services rendered to non-employees was $0, $263,761 and $55,000 for the years ended December 31, 2001, 2000, and 1999, respectively. There were no stock options granted to non-employees, other than directors, during 2001. The Company applies APB No. 25 in accounting for its stock options granted to employees and accordingly, no compensation expense has been recognized in the consolidated financial statements (except for those options issued with exercise prices less than fair market value at date of grant). Had the Company determined compensation expense based on the fair value at the grant date for its stock options issued to employees under SFAS No. 123, the Company's net loss would have been adjusted to the pro forma amounts indicated below:
2001 2000 1999 --------------- -------------- ------------ (IN THOUSANDS, EXCEPT PER SHARE DATA) Net loss-as reported. . . . . . . . . . . . $ 40,620 $ 103,866 $ 49,601 =============== ============== ============ Net loss-pro forma. . . . . . . . . . . . . $ 40,537 $ 107,876 $ 61,071 =============== ============== ============ Basic net loss per common share-as reported $ (1.31) $ (3.43) $ (2.00) =============== ============== ============ Basic net loss per common share-pro forma . $ (1.31) $ (3.56) $ (2.46) =============== ============== ============
The per share weighted-average fair value of stock options granted during 2001, 2000, and 1999 was $0.32, $1.64, and $13.85, respectively, on the date of grant using the option-pricing method with the following weighted-average assumptions: 2001-risk free interest rate 3.75%, an expected life of four years and a volatility of 130%, 2000-risk-free interest rate 6.22%, and an expected life of four years, and a volatility of 130%; 1999-risk-free interest rate 5.14%, and an expected life of four years, and a volatility of 111%. Stock option activity during the periods indicated is as follows: 65
WEIGHTED OPTIONS AVERAGE GRANTED EXERCISE PRICE ----------- --------------- Outstanding at December 31, 1998. . . . 2,830,242 $ 2.93 Granted . . . . . . . . . . . . . . . . 1,823,300 $ 16.32 Assumed in connection with acquisitions 522,885 $ 24.80 Exercised . . . . . . . . . . . . . . . (175,480) $ 2.38 Canceled. . . . . . . . . . . . . . . . (699,060) $ 22.83 ----------- Outstanding at December 31, 1999. . . . 4,301,887 $ 8.06 Granted . . . . . . . . . . . . . . . . 4,143,182 $ 2.21 Exercised . . . . . . . . . . . . . . . (663,799) $ 0.53 Canceled. . . . . . . . . . . . . . . . (2,666,467) $ 9.42 ----------- Outstanding at December 31, 2000. . . . 5,114,803 $ 3.59 Granted . . . . . . . . . . . . . . . . 340,400 $ 0.32 Exercised . . . . . . . . . . . . . . . (2,000) $ 0.20 Canceled. . . . . . . . . . . . . . . . (2,348,854) $ 2.18 ----------- --------------- Outstanding at December 31, 2001. . . . 3,104,349 $ 5.77 =========== =============== Vested at December 31, 2000 . . . . . . 2,352,574 =========== Vested at December 31, 2001 . . . . . . 2,073,874 =========== Options available at December 31, 2001. 278,700 ===========
The following table summarizes information about stock options outstanding at December 31, 2001:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE ----------------------------------------------- ------------------------------- WEIGHTED- AVERAGE ACTUAL RANGE OF NUMBER REMAINING WEIGHTED- NUMBER WEIGHTED- EXERCISE PRICES OUTSTANDING CONTRACTUAL LIFE AVERAGE EXERCISABLE AT AVERAGE AT 12/31/01 (YEARS) EXERCISE PRICE 12/31/01 EXERCISE PRICE ---------------- ----------- ----------------- --------------- -------------- --------------- 0.05 - $0.05 39,584 4.0 $ 0.05 39,584 $ 0.05 0.20 - $0.23 42,500 6.8 $ 0.21 26,248 $ 0.20 0.35 - $0.41 210,952 0.6 $ 0.36 210,139 $ 0.36 0.53 - $0.78 99,462 7.8 $ 0.54 34,287 $ 0.53 1.59 - $2.38 1,347,475 7.8 $ 1.67 411,106 $ 1.63 3.85 - $4.95 910,526 2.6 $ 4.50 908,650 $ 4.50 6.69 - $6.69 55,000 1.9 $ 6.69 55,000 $ 6.69 10.65 - $15.88 398,450 2.0 $ 14.88 388,700 $ 14.88 25.38 - $25.38 400 7.2 $ 25.38 160 $ 25.38 ---------------- ----------- ----------------- --------------- -------------- --------------- 0.05 - $25.38 3,104,349 2.9 $ 5.77 2,073,874 $ 6.04 ================ =========== ================= =============== ============== ===============
See notes 1 (o) and 2 for stock option repricing. (11) EMPLOYEE STOCK PURCHASE PLAN The Company's Employee Stock Purchase Plan ("ESPP") was adopted by the Board of Directors in February 1999 and subsequently approved by the Company's stockholders in June 1999. The ESPP provides eligible employees of the Company the opportunity to apply a portion of their compensation to the purchase of shares of the Company at a 15% discount. The Company has reserved 400,000 authorized shares of Common Stock for issuance under the ESPP. As of and for the year ended December 31, 2001, the Company no longer offers an ESPP. 66 (12) EXTRAORDINARY ITEM-GAIN ON EARLY RETIREMENT OF DEBT In connection with the acquisition of Attitude, the Company assumed a non-interest bearing obligation, payable over 17 years, ("happypuppy note") to the former owner of the happypuppy.com website ("happypuppy"), an online property acquired by Attitude prior to its acquisition by the Company. The net present value of the happypuppy note as of the date of acquisition was approximately $2.7 million. In October 1999, in connection with the settlement of certain litigation between the Company and the former owner of happypuppy, the Company made a lump sum payment of approximately $1.4 million to the former owner of happypuppy. The $1.4 million represented full repayment of the happypuppy note. At the time of repayment, the net present value of the happypuppy note was approximately $2.8 million. Accordingly, the Company recognized an extraordinary gain of $1.4 million on the early retirement of long-term debt. (13) COMMITMENTS & CONTINGENCIES (a) Operating Leases The Company does not have any material non-cancelable operating leases as of December 31, 2001. (b) Capital Leases The Company does not have any material non-cancelable capital leases as of December 31, 2001. (c) Employment Agreements The Company maintains several employment agreements, with employees of the Company. The employment agreements provide for minimum salary levels, incentive compensation and severance benefits, among other items. (d) Litigation On June 20, 2000, Infonent.com, Inc. filed a Complaint and a motion for a preliminary injunction to enjoin the Company from invoking its contractual right to terminate the registration statement for Infonent.com, Inc.'s shares in the Company. In an order entered July 18, 2000, the U.S. Bankruptcy Court for the Northern District of California (San Jose Division) granted Infonent.com, Inc.'s motion to the extent of barring the Company from terminating the registration statement for a period of 45 days, commencing on July 3, 2000. On October 26, 2000, the Securities and Exchange Commission declared effective the Company's amended registration statement, which terminated the registration statement relating to Infonent.com's shares in the Company. On February 14, 2001, Mohammed Poonja, Chapter 11 Trustee for the estate of Infonent.com, Inc. (the "Trustee"), served an Amended Complaint on the Company and Jump Acquisition, LLC ("Jump"). The Amended Complaint asserts claims for violation of the automatic stay provision, 11 U.S.C. Sec. 362, as a result of the Company's exercise of its contractual right to terminate the registration statement for Infonent.com, Inc.'s shares in the Company pursuant to a November 30, 1999 Registration Rights Agreement between the Company and Infonent.com, Inc.; breach of contract for the Company's and Jump's alleged failure to make certain earn-out payments to Infonent.com, Inc. in connection with a November 30, 1999 purchase agreement (the "Agreement"); breach of the implied covenant of good faith and fair dealing in connection with the Agreement; fraud; negligence; breach of contract and breach of the implied covenant of good faith and fair dealing for its alleged delay in registering newly-issued shares of the Company's common stock in connection with the Registration Rights Agreement. The Amended Complaint sought $9,524,859 in damages, plus interest, compensatory damages on the automatic stay cause of action, costs and disbursements of the action, and attorneys' fees. The Company filed an Answer on May 2, 2001 denying the allegations made in the Amended Complaint. The Trustee has withdrawn its claim for violation of the Automatic Stay by the Company. In August 2001, the Company executed a Settlement Agreement with the trustee for Infonent.com in which the trustee agreed to dismiss all claims in return for a payment of $175,000 by the Company. 67 On and after August 3, 2001 and as of the date of this filing, the Company is aware that six putative shareholder class action lawsuits were filed against the Company, certain of its current and former officers and directors, and several investment banks that were the underwriters of the Company's initial public offering. The lawsuits were filed in the United States District Court for the Southern District of New York. The lawsuits purport to be class actions filed on behalf of purchasers of the stock of the Company during the period from November 12, 1998 through December 6, 2000. Plaintiffs allege that the underwriter defendants agreed to allocate stock in the Company's initial public offering to certain investors in exchange for excessive and undisclosed commissions and agreements by those investors to make additional purchases of stock in the aftermarket at pre-determined prices. Plaintiffs allege that the Prospectus for the Company's initial public offering was false and misleading in violation of the securities laws because it did not disclose these arrangements. On December 5, 2001, an amended complaint was filed in one of the actions, alleging the same conduct described above in connection with both the Company's November 23, 1998 initial public offering and its May 19, 1999 secondary offering. The actions seek damages in an unspecified amount. The Company and its current and former officers and directors intend to vigorously defend the actions. The complaints have been consolidated into a single action, entitled Kofsky v. theglobe.com, inc. et al., Case No. 01 Civ. 7247. The Company is not required to respond to Plaintiffs' claims before a consolidated complaint is filed. However, due to the inherent uncertainties of litigation, we cannot accurately predict the ultimate outcome of the litigation. Any unfavorable outcome of this litigation could have a material adverse impact on our business, financial condition and results of operations. (14) RELATED PARTY TRANSACTIONS Certain directors of the Company also serve as officers and directors of Dancing Bear Investments, Inc. Dancing Bear is a shareholder of the company and an entity controlled by our Chairman. In 1998, the Company entered into an electronic commerce contract with AutoNation, Inc. ("AutoNation"), (formerly doing business as Republic Industries), an entity affiliated with a Director of the Company, pursuant to which the Company granted a right of first negotiation with respect to the exclusive right to engage in or conduct an automotive "clubsite" on theglobe website through AutoNation. Additionally, AutoNation agreed to purchase advertising from the Company for a three-year period at a price, which adjusted to match any more favorable advertising price quoted to a third party by the Company, excluding certain short-term advertising rates. For the years ended December 31, 2001, 2000 and 1999, the Company recognized revenue of $0.2 million $0.3 million and $0.3 million, respectively, in connection with the AutoNation agreement. Additionally in 1998, the Company entered into an electronic commerce arrangement with InteleTravel, an entity controlled by the Chairman of the Company, whereby the Company agreed to develop a web community for InteleTravel in order for its travel agents to conduct business through theglobe in exchange for access to InteleTravel customers for distribution of the Company's products and services. For the year ended December 31, 1999, the Company recognized revenue of $0.3 million in connection with the InteleTravel agreement. There was no revenue recognized for the year ended December 31, 2001 and 2000. In 1999, the Company entered into a community agreement with ClikVacations.com Inc., an entity controlled by the Chairman of the Company, whereby the Company agreed to co-brand certain products and services of theglobe for use on the Clik.com website. Additionally, the Company agreed to sell all advertising inventory related to these co-branded products and services in exchange for a portion of the net advertising sales. The Company recognized revenue of $0.1 million in connection with the ClikVacations.com agreement for the year ended December 31, 1999. There was no revenue recognized for the years ended December 31, 2001 and 2000. The Company believes that the terms of the foregoing arrangements are on comparable terms as if they were entered into with unaffiliated third parties. STOCKHOLDERS' AGREEMENT In 1997, the Chairman, the former Co-Chief Executive Officers, two Directors of the Company and Dancing Bear Investments, Inc. (an entity controlled by the Chairman) entered into a Stockholders' Agreement (the "Stockholders' Agreement") pursuant to which the Chairman and Dancing Bear Investments, Inc. or certain entities controlled by the Chairman and certain permitted transferees (the "Chairman Group") will agree to vote for certain nominees of the former Co-Chief Executive Officers or certain entities controlled by the former Co-Chief Executive Officers and certain permitted transferees (the "Former Co-Chief Executive Officer Groups") to the Board of Directors and the Former Co-Chief Executive Officer Groups will agree to vote for the Chairman Group's nominees to the Board, who will represent up to five members of the Board. Additionally, pursuant to the terms of the Stockholders' Agreement, the former Co-Chief Executive Officer and the two Directors have granted an irrevocable proxy to Dancing Bear Investments, Inc. with respect to any shares that may be acquired by them pursuant to the exercise of outstanding Warrants transferred to each of them by Dancing Bear Investments, Inc. Such shares will be voted by Dancing Bear Investments, Inc., which is controlled by the Chairman, and will be subject to a right of first refusal in favor of Dancing Bear Investments, Inc. upon certain private transfers. The Stockholders' Agreement also provides that if the Chairman Group sells shares of Common Stock and Warrants representing 25% or more of the Company's outstanding Common Stock (including the Warrants) in any private sale after the Offerings, the Former Co-Chief Executive Officer Groups and the two Directors of the Company will be required to sell up to the same percentage of their shares as the Chairman Group sells. If either the Chairman Group sells shares of Common Stock or Warrants representing 25% or more of the Company's outstanding Common Stock (including the Warrants) or the Former Co-Chief Executive Officer Groups sell shares or Warrants representing 7% or more of the shares and Warrants of the Company in any private sale after the Offerings, each other party to the Stockholders' Agreement, including entities controlled by them and their permitted transferees, may, at their option, sell up to the same percentage of their shares. 68 (15) VALUATION AND QUALIFYING ACCOUNTS - ALLOWANCE FOR DOUBTFUL ACCOUNTS
BALANCE AT ADDITIONS ADDITIONS BALANCE BEGINNING DUE TO CHARGED TO AT END OF YEAR ENDED, OF PERIOD ACQUISITONS EXPENSE DEDUCTIONS PERIOD ----------------- ---------- ------------ ----------- ----------- ---------- December 31, 2001 $2,260,324 $ - $ 1,373,521 $ 430,550 $3,203,295 December 31, 2000 $1,408,092 $ 262,426 $ 3,005,746 $ 2,415,940 $2,260,324 December 31, 1999 $ 300,136 $ 1,881,473 $ 1,881,473 $ 773,517 $1,408,092
(16) SUBSEQUENT EVENTS On February 27, 2002, the Company sold to Internet Game Distribution, LLC all of the assets used in connection with the Happy Puppy website for $135,000, of which the entire amount was a gain. (17) QUARTERLY FINANCIAL INFORMATION - UNAUDITED
CONDENSED QUARTERLY CONSOLIDATED STATEMENTS OF OPERATIONS (IN THOUSANDS, EXCEPT PER SHARE DATA) 2001 2000 ------------------------------------------ ------------------------------------------ Fourth Third Second First Fourth Third Second First Quarter Quarter Quarter Quarter Quarter Quarter Quarter Quarter --------- --------- --------- --------- --------- --------- --------- --------- Revenue $ 3,410 $ 3,369 $ 4,548 $ 4,747 $ 7,756 $ 6,749 $ 8,377 $ 6,979 Cost of revenues 2,241 2,512 3,713 3,679 5,143 4,845 4,683 4,408 --------- --------- --------- --------- --------- --------- --------- --------- Gross profit 1,169 857 834 1,068 2,613 1,904 3,694 2,571 Sales & Marketing 960 1,768 3,233 3,794 4,346 6,056 7,918 5,597 Product Development 254 643 1,114 1,800 1,888 2,562 2,824 2,968 General & administrative 871 1,706 1,934 2,083 2,569 3,866 3,527 3,211 Restructuring and impairment charges 3,405 8,625 5,061 - 25,765 - 15,583 - Amortization of goodwill and intangible assets 746 2,040 2,840 2,843 6,316 6,316 6,981 7,624 --------- --------- --------- --------- --------- --------- --------- --------- Operating expenses 6,236 14,782 14,182 10,520 40,884 18,800 36,833 19,400 --------- --------- --------- --------- --------- --------- --------- --------- Loss from operations (5,067) (13,925) (13,349) (9,453) (38,270) (16,896) (33,139) (16,829) Other income, net 291 79 723 96 299 361 456 420 --------- --------- --------- --------- --------- --------- --------- --------- Loss before provision for income taxes (4,776) (13,847) (12,625) (9,356) (37,971) (16,535) (32,683) (16,409) Provision for income taxes - (6) (79) 101 94 54 50 70 --------- --------- --------- --------- --------- --------- --------- --------- Net (loss) (4,776) (13,841) (12,546) (9,457) (38,065) (16,589) (32,733) (16,479) --------- --------- --------- --------- --------- --------- --------- --------- Basic and diluted net loss per Common share $ (0.15) $ (0.46) $ (0.41) $ (0.31) $ (1.24) $ (0.53) $ (1.07) $ (0.57) ========= ========= ========= ========= ========= ========= ========= =========
Due to changes in the number of shares outstanding, quarterly loss per share amounts do not necessarily add to the totals for the years. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS AND ACCOUNTING AND FINANCIAL DISCLOSURE None. 69 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT Information called for by Part III, Item 10, regarding the Registrant's directors is included in the our Proxy Statement relating to our annual meeting of stockholders to be held in June 2002, and is incorporated herein by reference. The information appears in the Proxy Statement under the caption "Election of Directors." The Proxy Statement will be filed within 120 days of December 31, 2001, the Company's year-end. ITEM 11. EXECUTIVE COMPENSATION Information called for by Part III, Item 11, is included in the our Proxy Statement relating to the our annual meeting of stockholders to be held in June 2002, and is incorporated herein by reference. The information appears in the Proxy Statement under the caption "Executive Compensation." The Proxy Statement will be filed within 120 days of December 31, 2001, the Company's year-end. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT Information called for by Part III, Item 12, is included in the our Proxy Statement relating to the our annual meeting of stockholders to be held in June 2002, and is incorporated herein by reference. The information appears in the Proxy Statement under the caption "Beneficial Ownership of Shares." The Proxy Statement will be filed within 120 days of December 31, 2001, the Company's year-end. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Information regarding our relationships and related transactions is available under "Certain Transactions" in our Proxy Statement relating to our annual meeting of stockholders to be held in June 2002, and is incorporated herein by reference. The Proxy Statement will be filed within 120 days of December 31, 2001, the Company's year-end. 70 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a) The following documents are filed as part of this report: (1) Financial Statements: See Index to Consolidated Financial Statements at Item 8 on page 45 of this report. (2) Financial Statement Schedule: See Notes to Consolidated Financial Statements at Item 8 on page 45 of this report. (3) EXHIBITS The following Exhibits are attached hereto and incorporated herein by reference: 2.1 Agreement and Plan of Merger dated as of February 1, 1999 by and among theglobe.com, inc., Nirvana Acquisition Corp., factorymall.com, inc. d/b/a Azazz, and certain selling stockholders thereof** 2.2 Agreement and Plan or Merger dated as of April 5, 1999 by and among theglobe.com, inc., Bucky Acquisition Corp., Attitude Network, Ltd. and certain shareholders thereof*** 2.3 Agreement of Purchase and Sale as dated November 30, 1999 by and among theglobe.com, inc., Jump Acquisition LLC, Infonent.com, Inc. and certain stockholders thereof**** 2.4 Agreement and Plan of Merger dated as of January 13, 2000 by and among theglobe.com, inc., Chips & Bits, Inc., Strategy Plus, Inc., CB Acquisition Corp., SP Acquisition Corp., Yale Brozen and Tina Brozen***** 3.1 Form of Fourth Amended and Restated Certificate of Incorporation of the Company* 3.2 Form of By-Laws of the Company* 4.1 Second Amended and Restated Investor Rights Agreement among the Company and certain equity holders of the Company, dated as of August 13, 1997* 4.2 Amendment No.1 to Second Amended and Restated Investor Rights Agreement among the Company and certain equity holders of the Company, dated as of August 31, 1998******** 4.3 Amendment No.2 to Second Amended and Restated Investor Rights Agreement among the Company and certain equity holders of the Company, dated April 9, 1999******* 4.4 Form of Amendment No.3 to the Second Amended and Restated Investor Rights Agreement among the Company and certain equity holders of the Company******* 4.5 Registration Rights Agreement, dated as of September 1, 1998******** 4.6 Amendment No.1 to Registration Rights Agreement, dated as of April 9, 1999******* 4.7 Specimen certificate representing shares of Common Stock of the Company* 4.8 Amended and Restated Warrant to Acquire Shares of Common Stock* 4.9 Form of Rights Agreement, by and between the Company and American Stock Transfer & Trust Company as Rights Agent* 4.10 Registration Rights Agreement among the Company and certain equity holders of the Company, dated February 1, 1999, in connection with the acquisition of factorymall.com******** 4.11 Form of Amended and Restated Registration Rights Agreement among the Company and certain equity holders of the Company in connection with the acquisition of factorymall.com******* 4.12 Registration Rights Agreement among the Company and certain shareholders of the Company, dated April 9, 1999, in connection with the acquisition of Attitude Network, Ltd******* 4.13 Registration Rights Agreement among the Company and certain shareholders of the Company, dated November 30, 1999, in connection with the acquisition of Webjump.com from Infonent.com, Inc. 4.14 Registration Rights Agreement among the Company and certain shareholders of the Company, dated February 24, 1999, in connection with the acquisition of Chips & Bits, Inc. and Strategy Plus, Inc. 9.1 Stockholders' Agreement by and among Dancing Bear Investments, Inc., Michael Egan, Todd V. Krizelman, Stephan J. Paternot, Edward A. Cespedes and Rosalie V. Arthur, dated as of February 14, 1999*** 10.1 Employment Agreement dated June 6, 2000, by and between the Company and Todd V. Krizelman* 10.2 Employment Agreement dated June 6, 2000, by and between the Company and Stephan J. Paternot* 10.3 Employment Agreement dated July 14, 2000, by and between the Company and Charles Peck* 10.4 Form of Indemnification Agreement between the Company and each of its Directors and Executive Officers* 10.5 Lease Agreement dated January 12, 1999 between the Company and Broadpine Realty Holding Company, Inc.******** 10.6 2000 Broad Based Stock Option Plan (filed with Form 10K filed for 2000) 10.7 1998 Stock Option Plan, as amended******* 10.8 1995 Stock Option Plan* 10.9 factorymall.com, inc. 1998 Stock Option Plan****** 10.10 Form of Nonqualified Stock Option Agreement with James McGoodwin, Kevin McKeown and Mark Tucker****** 10.11 Attitude Network, Ltd. Stock Option Plan******* 10.12 Employee Stock Purchase Plan******** 23.1 Consent of KPMG LLP (b) Reports on Form 8-K None filed during the three-month period ended December 31, 2001. 71 * Incorporated by reference from our registration statement on Form S-1 (Registration No. 333-59751). ** Incorporated by reference from our report on Form 8-K filed on February 16, 1999. *** Incorporated by reference from our report on Form 8-K filed on April 9, 1999. **** Incorporated by reference from our report on Form 8-K filed on November 30, 1999. ***** Incorporated by reference from our report on Form 8-K filed on February 24, 2000. ****** Incorporated by reference from our Registration of Form S-8 (No.333-75503), filed on April 1, 1999 ******* Incorporated by reference from our registration statement on Form S-1 (Registration No. 333-76153). 72 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Dated: April 16, 2002 theglobe.com, inc. By /S/ CHARLES M. PECK ---------------------------- CHARLES M. PECK CHIEF EXECUTIVE OFFICER Pursuant to the requirements of the Securities and Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities indicated this 16th day of April 2002.
/s/MICHAEL S. EGAN ---------------------------------------- MICHAEL S. EGAN Chairman /s/CHARLES M. PECK ---------------------------------------- CHARLES M. PECK Director /s/TODD V. KRIZELMAN ---------------------------------------- TODD V. KRIZELMAN Director /s/EDWARD A. CESPEDES ---------------------------------------- EDWARD A. CESPEDES Director /s/ROBIN M. SEGAUL ---------------------------------------- ROBIN M. SEGAUL Director /s/ROBERT M. HALPERIN ---------------------------------------- ROBERT M. HALPERIN Director
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