10-Q 1 g65057e10-q.txt INTERNET PICTURES CORPORATION 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarter ended September 30, 2000 Commission File No. 000-26363 INTERNET PICTURES CORPORATION (Exact name of registrant as specified in its charter) DELAWARE 52-2213841 (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 1009 COMMERCE PARK DRIVE OAK RIDGE, TENNESSEE 37830 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES, ZIP CODE) Registrant's telephone number, including area code: (865) 482-3000 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 [ ] 60,583,463 shares of $0.001 par value common stock outstanding as of October 31, 2000. Page 1 of 24 Exhibit Index on Page 24 Page 1 of 24 2 INTERNET PICTURES CORPORATION FORM 10-Q FOR THE QUARTER ENDED SEPTEMBER 30, 2000 INDEX PART I -- FINANCIAL INFORMATION............................................................................3 Item 1. Consolidated Financial Statements...........................................................3 Item 2. Management's Discussion and Analysis Of Financial Condition and Results Of Operations......11 PART II -- OTHER INFORMATION..............................................................................21 Item 1. Legal Proceedings..........................................................................21 Item 2. Changes In Securities And Use Of Proceeds..................................................21 Item 3. Defaults Upon Senior Securities............................................................21 Item 4. Submission Of Matters To A Vote Of Security Holders........................................21 Item 5. Other Information..........................................................................22 Item 6. Exhibits And Reports On Form 8-K...........................................................22 Signatures................................................................................................23 Exhibit Index.............................................................................................24
Page 2 of 24 3 PART I -- FINANCIAL INFORMATION ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS INTERNET PICTURES CORPORATION CONSOLIDATED BALANCE SHEETS
December 31, September 30, 1999 2000 ----------- ------------- (1) (unaudited) In thousands, except per share data ASSETS Current assets: Cash and cash equivalents $ 18,627 $ 1,668 Securities available-for-sale 42,739 30,025 Accounts receivable, less allowance for doubtful accounts of $198 at December 31, 1999 and $1,356 at September 30, 2000 (unaudited) 3,356 15,939 Inventory, less reserve for obsolescence of $55 at December 31, 1999 and $204 at September 30, 2000 (unaudited) 1,059 694 Prepaid expenses and other current assets 7,211 8,042 --------- --------- Total current assets 72,992 56,368 --------- --------- Long-term securities available-for-sale 12,000 -- Property and equipment, net 9,135 21,118 Other assets 1,676 1,289 Goodwill and other intangible assets -- 201,460 --------- --------- Total assets $ 95,803 $ 280,235 ========= ========= LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable $ 2,711 $ 3,017 Accrued liabilities 6,203 14,755 Deferred revenue 5,262 7,687 Current portion of promissory note and obligations under capital lease 199 1,320 --------- --------- Total current liabilities 14,375 26,779 --------- --------- Promissory note and obligations under capital lease, net of current portion 387 1,505 Commitments and contingencies (Note 6) Stockholders' equity: Class B common stock, $0.001 par value; 7,422 shares authorized at December 31, 1999 and September 30, 2000 (unaudited); 7,013 and 4,403 shares issued and outstanding at December 31, 1999 and September 30, 2000 (unaudited), respectively 1 1 Common stock, $0.001 par value; 150,000 shares authorized at December 31, 1999 and September 30, 2000 (unaudited); 38,231 and 56,152 shares issued and outstanding at December 31, 1999 and September 30, 2000 (unaudited), respectively 38 56 Additional paid-in capital 187,829 483,737 Notes receivable from stockholders (181) (2,367) Unearned stock-based compensation (2,955) (3,286) Accumulated deficit (103,701) (226,237) Accumulated other comprehensive income 10 47 --------- --------- Total stockholders' equity 81,041 251,951 --------- --------- Total liabilities and stockholders' equity $ 95,803 $ 280,235 ========= =========
(1) The December 31, 1999 balances were derived from the audited financial statements. See accompanying notes to the unaudited condensed consolidated financial statements Page 3 of 24 4 INTERNET PICTURES CORPORATION CONSOLIDATED STATEMENTS OF OPERATIONS
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30 SEPTEMBER 30 ------------------------- --------------------------- 1999 2000 1999 2000 -------- -------- -------- --------- (In thousands, except per share data) Revenues $ 3,663 $ 17,218 $ 7,205 $ 40,990 Cost of revenues 2,210 8,140 4,146 20,924 -------- -------- -------- --------- Gross profit 1,453 9,078 3,059 20,066 -------- -------- -------- --------- Operating expenses: Sales and marketing 11,768 22,279 23,477 60,778 Research and development 1,394 3,649 3,337 10,086 General and administrative 4,048 4,209 8,710 15,502 Stock-based compensation 6,624 (1,811) 15,273 5,769 Amortization of intangible assets -- 19,330 -- 38,040 Merger expenses -- -- -- 15,175 -------- -------- -------- --------- Total operating expenses 23,834 47,656 50,797 145,350 -------- -------- -------- --------- Loss from operations (22,381) (38,578) (47,738) (125,284) Interest expense (6,442) (9) (6,641) (216) Other income (expense), net 642 875 1,169 2,964 -------- -------- -------- --------- Net loss (28,181) (37,712) (53,210) (122,536) Beneficial conversion feature of Series B convertible preferred stock -- -- (1,000) -- -------- -------- -------- --------- Net loss attributable to common stockholders $(28,181) $(37,712) $(54,210) $(122,536) ======== ======== ======== ========= Basic and diluted net loss per common share $ (1.08) $ (0.62) $ (3.24) $ (2.24) ======== ======== ======== =========
See accompanying notes to the unaudited condensed consolidated financial statements Page 4 of 24 5 INTERNET PICTURES CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS
Nine months ended September 30, 1999 2000 --------- --------- In thousands (unaudited) Cash flows from operating activities: Net loss $ (53,210) $(122,536) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization 700 41,210 Provision for doubtful accounts receivable 75 1,158 Gain on disposal of fixed asset (6) -- Issuance of common stock in exchange for services 6,629 -- Issuance of preferred stock in settlement of interest payable 9 -- Issuance of options for common stock for services 2,916 -- Accretion of available-for-sale discounts (424) 140 Provision for inventory obsolescence 40 149 Stock-based compensation 12,378 5,769 Changes in operating assets and liabilities, net of acquisitions: Accounts receivable (1,442) (12,677) Inventory (855) 216 Prepaid expenses and other current assets (2,444) (448) Other assets (356) 504 Accounts payable 1,304 (3,278) Accrued expenses 1,720 6,891 Deferred revenue 1,962 2,012 --------- --------- Net cash used in operating activities (31,004) (80,890) --------- --------- Cash flows from investing activities: Purchases of furniture and equipment (3,230) (11,389) Purchases of securities available-for-sale (78,964) (44,522) Maturities of securities available-for-sale 13,992 69,058 Proceeds from disposal of equipment 42 -- Acquisitions, net of cash received -- (8,290) --------- --------- Net cash provided by (used in) investing activities (68,160) 4,857 --------- --------- Cash flow from financing activities: Proceeds from issuance of convertible notes payable 1,800 -- Net proceeds from issuance of common stock 97,029 69,590 Net proceeds from issuance of preferred stock 42,844 -- Proceeds from capital lease obligations 205 -- Repayment of Series C (11,000) -- Repayments of capital lease obligations and notes payable (72) (10,364) Repurchase of preferred and common stock (3,730) -- Proceeds from exercise of stock options and warrants 866 1,759 Issuance of notes receivable to stockholders (8) (1,986) --------- --------- Net cash provided by financing activities 127,934 58,999 --------- --------- Effect of exchange rate changes on cash 14 75 --------- --------- Net increase (decrease) in cash and cash equivalents 28,784 (16,959) Cash and cash equivalents, beginning of period 1,494 18,627 --------- --------- Cash and cash equivalents, end of period $ 30,278 $ 1,668 ========= =========
See accompanying notes to the unaudited condensed consolidated financial statements Page 5 of 24 6 NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS 1. UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS The accompanying unaudited condensed consolidated financial statements include the accounts of Internet Pictures Corporation and its wholly-owned subsidiaries, Interactive Pictures Corporation, Interactive Pictures UK Limited, Internet Pictures (Canada), PW Technology, Inc., TBI Imaging, Inc., and Opticom Imaging Corporation. The consolidation of these entities will collectively be referred to as the Company. All significant intercompany balances and transactions have been eliminated. These financial statements have been prepared by the Company, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been omitted. The unaudited condensed consolidated financial statements should be read in conjunction with the financial statements and notes thereto included in the 10-K of the Company as of and for the year ended December 31, 1999. The information furnished reflects all adjustments which management believes are necessary for a fair presentation of the Company's financial position as of September 30, 2000, and the results of its operations and its cash flows for the three month periods and nine month periods ended September 30, 1999 and 2000. All such adjustments are of a normal recurring nature. 2. RESULTS OF OPERATIONS The results of operations for the three month periods and nine month periods ended September 30, 1999 and 2000, are not necessarily indicative of the results to be expected for the respective full years. 3. EQUITY AND RELATED TRANSACTIONS During April 2000, we acquired all of the capital stock of TBI Imaging, Inc. and Opticom Corporation. We issued 222,232 shares to TBI and Opticom based on a 10-day average price of our common stock in addition to $2,130,000 in cash considerations. We accounted for these transactions under the purchase method of accounting. On April 3, 2000, the Company acquired all of the capital stock of PictureWorks Technology, Inc. The Company issued 4,644,334 shares to the current stockholders of PictureWorks, based on the average price of our common stock for the ten days ending the second business day prior to March 31, 2000. The Company accounted for this transaction under the purchase method of accounting and accordingly, allocated the purchase price to cash, accounts receivable, prepaid expenses, fixed assets and intangibles including goodwill. The Company will amortize the related goodwill over three years. The following pro forma information presents the results of operations of the Company as if the acquisition of PictureWorks had been completed as of January 1, 2000 and January 1, 1999, respectively:
Nine Months ended September 30, 2000 ------------------------------------ As Reported Pro Forma ----------- ---------- Revenue $ 40,990 $ 42,418 Net loss $(122,536) $(146,899) Basic and diluted loss per share $ (2.24) $ (2.64)
Page 6 of 24 7
Year ended December 31, 1999 ---------------------------- As Reported Pro Forma ----------- --------- Revenue $ 12,523 $ 16,346 Net loss $(76,603) $(153,819) Basic and diluted loss per share $ (3.01) $ (5.20)
4. LOSS PER SHARE NET LOSS PER SHARE. The Company computes net loss per share in accordance with SFAS No. 128, Earnings Per Share, and SEC Staff Accounting Bulletin No. 98 ("SAB 98"). Under the provisions of SFAS No. 128 and SAB 98, basic and diluted net loss per share is computed by dividing the net loss available to common stockholders for the period by the weighted average number of shares of common stock outstanding during the period. The calculation of diluted net loss per share excludes potential common shares if the effect is antidilutive. Potential common shares are composed of incremental shares of common stock issuable upon the exercise of potentially dilutive stock options and warrants and upon conversion of the Company's preferred stock and convertible debenture. The following table sets forth the computation of basic and dilutive net loss per share for the periods indicated:
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, In thousands, except per share data 1999 2000 1999 2000 (unaudited) (unaudited) NUMERATOR: Net loss attributable to common stockholders $(28,181) $(37,712) $(54,210) $(122,536) DENOMINATOR: Weighted average shares 26,065 60,403 16,753 54,748 NET LOSS PER SHARE: Basic and diluted $ (1.08) $ (0.62) $ (3.24) $ (2.24)
5. STOCK-BASED COMPENSATION Stock-based compensation expense consists of the amortization of deferred compensation related to stock options issued with an exercise price below the deemed fair market value of our common stock on the date of grant and to warrants issued to non-employees (Note 11). Following are the charges that have been excluded from the following captions for each of the periods: Page 7 of 24 8
FOR THE THREE MONTHS FOR THE NINE MONTHS ENDED SEPTEMBER 30, ENDED SEPTEMBER 30, ------------------------ --------------------- 1999 2000 1999 2000 ------- -------- ------- ------ Cost of revenues $ 87 $ 5 $ 286 $ 90 Sales and marketing 5,270 (1,920) 10,880 4,317 Research and development 917 59 3,007 964 General and administrative 350 45 1,100 398 ------- -------- ------- ------ $ 6,624 $ (1,811) $15,273 $5,769 ======= ======== ======= ======
6. COMMITMENTS AND CONTINGENCIES On October 28, 1998, Minds-Eye-View, Inc. and Mr. Ford Oxaal filed a lawsuit against the Company in the United States District Court for the Northern District of New York. Minds-Eye alleged in its lawsuit that the Company breached a duty of confidence to them, made misrepresentations and misappropriated trade secrets. The plaintiffs alleged that the Company's technology wrongfully incorporated trade secrets and other know-how gained from them in breach of various duties. The court removed this action to arbitration upon the Company's motion, and the Company cross-claimed alleging various affirmative claims, including trade secret theft. Minds-Eye and Mr. Oxaal filed a motion to dismiss the suit, and the court dismissed the lawsuit on May 19, 1999. The Company is pursuing its affirmative claims against Oxaal, however, there has been no activity in the arbitration since August 2000, when a request was submitted to stay the arbitration pending resolution of the patent litigation. On May 20, 1999, Mr. Oxaal filed a lawsuit against the Company, Kodak, Nikon and Cendant in the same court alleging that the Company's technology infringes upon patent no. 5,903,782 held by him. Mr. Oxaal claims that this alleged infringement is deliberate and willful and is seeking treble damages against the Company in an unspecified amount plus interest, an accounting by us, costs and attorney's fees, in addition to a permanent injunction prohibiting the alleged infringement of his patent by the Company. The Company has asserted defenses to Mr. Oxaal's claims as the Company believes it did not infringe any valid claims of his patent and that Mr. Oxaal's patent is invalid. The Company believes that Mr. Oxaal's claims are without merit, and the Company intends to vigorously defend against his claims. However, if Mr. Oxaal were to prevail in this lawsuit, the Company's financial condition, results of operations and cash flows could be materially adversely affected. The Company is subject to claims in the ordinary course of business. Management believes the ultimate resolution of these matters will have no material impact on the financial condition, results of operations or cash flows of the Company. 7. SEGMENTS The Company has two reportable segments: 1) iPIX products, and 2) research and development services for others. The accounting policies of the segments are the same as those of the Company. The Company evaluates the performance of its segments and allocates resources to them based solely on evaluation of gross profit. There are no inter-segment revenues. The Company does not make allocations of corporate costs to the individual segments and does not identify separate assets of the segments in making decisions regarding performance or allocation of resources to them. Management believes the Company's future growth will occur in the iPIX products segment. We did not have research and development services revenues in the first nine months of 1999 or 2000. 8. EFFECT OF NEW ACCOUNTING PRONOUNCEMENTS RECENT ACCOUNTING PRONOUNCEMENTS. In June 1998, the FASB issued Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities." SFAS 133 is effective for fiscal years beginning after June 15, 2000. SFAS 133 requires that all derivative instruments be recorded on the balance sheet at their fair value. Changes in the fair value of derivatives are recorded each period in current earnings or other Page 8 of 24 9 comprehensive income, depending on whether a derivative is designed as part of a hedge transaction and, if so, the type of hedge transaction. We do not expect that the adoption of SFAS No. 133 will have a material effect on our financial statements. In December 1999, the Commission issued Staff Accounting Bulletin No. 101 or SAB 101, "Revenue Recognition in Financial Statements," which provides guidance on the recognition, presentation and disclosure of revenue in financial statements filed with the Commission. SAB 101 outlines the basic criteria that must be met to recognize revenue and provides guidance for disclosure related to revenue recognition policies. We believe that the impact of SAB 101 will not have a material effect on our financial position, results of operations or cash flows. In April 2000, the Financial Accounting Standards Board issued FASB Interpretation No. 44 (FIN 44), which clarifies the application of Accounting Principles Board Opinion 25 for certain transactions. The interpretation addresses many issues related to granting or modifying stock options including changes in accounting for modifications of awards (increased life, reduction of exercise price, etc.). It became effective July 1, 2000 but certain conclusions cover specific events that occurred after either December 15, 1998 or January 12, 2000. The effects of applying the interpretation are to be recognized on a prospective basis from July 1, 2000. The adoption of FIN 44 has not had a material impact on the Company. 9. INCOME TAXES Internal Revenue Code Section 382 stipulates an annual limitation on the amount of Federal and State net operating losses incurred prior to a change in ownership which can be utilized to offset the Company's future taxable income. An ownership change occurred as a result of the consummation of the initial public offering in August 1999, and as a result of the merger between Interactive Pictures Corporation and bamboo.com, Inc. 10. BARTER REVENUES Page 9 of 24 10 Barter revenues. Barter revenues come from barter sales of the Company's products that are similar in nature to the Company's cash sales for the same products. Barter revenues have resulted from the exchange by the Company of certain products for advertising. Barter revenues are recognized in accordance with APB 29, "Accounting for Nonmonetary Transactions." The Company records barter revenue at fair value of the products exchanged for advertising. Revenues and sales and marketing expenses arising from those transactions are recorded at fair value as the Company has an established historical practice of receiving cash for similar sales. In the third quarter of 1999 and 2000, the Company recorded barter revenues of $0 and $714, respectively, which represented approximately 0% and 4.1%, respectively of total revenues for those periods. In the first nine months of 1999 and 2000, the Company recorded barter revenues of $0 and $3,060, respectively, which represented approximately 0% and 7.5%, respectively of total revenues for those periods. Sales and marketing expense arising from these barter transactions is recognized when the advertising takes place, which is typically the same period in which the products are delivered. 11. WARRANTS On January 6, 2000, the Company issued warrants to purchase a total of 200,000 shares of common stock at an exercise price of $15.47. The warrants vest as follows: 100,000 six months after the incorporation of immoeuro B.V., 50,000 on September 30, 2000 and 50,000 on December 31, 2000. The fair value of warrants was calculated to be approximately $2,700,000, which is being recognized as expense over the two year term of the related agreement. The non-cash charge for these warrants totaled approximately $(1,036,000) for the three month period ended September 30, 2000, and $611,000 for the nine month period ended September 30, 2000. On April 17, 2000, the Company granted a warrant to purchase 3,397 shares of common stock at an exercise price of $4.00. The warrant is fully vested and exercisable. The non-cash charge for the warrant totaled approximately $96,000, which is being recognized as expense over the 15 month term of the related agreement. The non-cash charge for the warrant totaled $0 for the three months ended September 30, 2000, and approximately $50,000 for the nine month period ended September 30, 2000. On April 19, 2000, the Company issued a warrant to purchase 600,000 shares of common stock at an exercise price of $20.38. The warrant vests and becomes exercisable at a rate of 66,667 at the end of each of the following nine quarters. The fair value of the warrant was calculated to be approximately $9,700,000, which is being recognized as expense over the 3.5 year term of the related agreement. The non-cash charge for the warrant totaled approximately $(961,000) for the three months ended September 30, 2000, and $796,000 for the nine months ended September 30, 2000. On May 26, 2000, the Company issued a warrant to purchase 200,000 shares of common stock at an exercise price of $12.06. The warrant vests as follows: 25,000 on June 30, 2000, 25,000 on September 30, 2000, 25,000 on December 31, 2000, 25,000 on March Page 10 of 24 11 31, 2001 and 100,000 on the date the warrant holder is a publicly traded company. The fair value of the warrant was calculated to be approximately $1,500,000, which is being recognized as expense over the 25 month term of the related agreement. The non-cash charge for the warrant totaled approximately $(8,000) for the three months ended September 30, 2000, and $384,000 for the nine months ended September 30, 2000. On May 26, 2000, the Company issued a warrant to purchase 200,000 shares of common stock at an exercise price of $12.06. The warrant vests as follows: 50,000 on June 30, 2000, 50,000 on September 30, 2000, 50,000 on December 31, 2000, and 50,000 on March 31, 2001. The fair value of the warrant was calculated to be approximately $1.5 million, which is being recognized as expense over the 11 month term of the related agreement. The non-cash charge for the warrant totaled approximately $(26,000) for the three months ended September 30, 2000, and $680,000 for the nine months ended September 30, 2000. As most of the shares subject to these warrants are unvested, the unvested shares will be revalued at each reporting date, and the revised fair value will be expensed upon the vesting of the remaining shares. As a result, the charge is subject to substantial increase or decrease based on future changes in the fair value of the underlying common stock. 12. SUBSEQUENT EVENTS On October 3, 2000, the board of directors approved a restructuring plan to reduce expenses. As part of the restructuring, the Company reduced its workforce by approximately 175 positions. The Company expects to record a restructuring charge during the fourth quarter of approximately $4.5 million. On October 26, 2000, the board of directors declared a dividend distribution of one preferred stock purchase right for each outstanding share of common stock to shareholders of record at the close of business on November 9, 2000. Each right entitles the registered holder to purchase from the Company one one-hundredth of a share of Series A junior participating preferred stock, $0.001 par value, at a purchase price of $15 per preferred share, subject to adjustment. The description and terms are set forth in a Rights Agreement dated as of October 31, 2000. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OVERVIEW iPIX is a leading Internet infrastructure company that provides visual content and other digital media solutions to facilitate commerce, communication and entertainment. We offer both businesses and consumers complete end-to-end solutions that include the capture, processing, hosting and distribution of visual content and other digital media for the Internet. Our infrastructure enables us to deliver digital media content to web sites accessed from a variety of platforms, including personal computers and wireless devices. Our solutions help businesses increase the relevance and enjoyment of users' web site visits, resulting in increased traffic and repeat usage. This, in turn, provides our Page 11 of 24 12 customers with increased e-commerce and advertising revenue opportunities without requiring significant investment in digital media infrastructure. We generate revenues principally from our sale of digital media content as well as iPIX keys and iPIX kits. Revenues from the sale of real estate immersive images are recognized at the time an image is distributed to web sites selected by the customer. Sales of iPIX kits and iPIX keys are recognized upon delivery to the customer. We calculate a provision for returns based on historical experience and make appropriate reserves at the time revenues are recognized. To date, returns have been insignificant. We intend to provide end-to-end solutions to customers who request digital media content to be hosted and distributed to the Internet for extended time periods. Revenues generated from the delivery of digital media content would be recognized net of the fair value of the hosting services. Revenues associated with the hosting services would be recognized ratably over the extended hosting and distribution term. Research and development services revenues were historically generated under research and development arrangements for others. We have de-emphasized these activities, and have not engaged in any of those types of arrangements since 1998. Page 12 of 24 13 RESULTS OF OPERATIONS The following table presents, for the periods indicated, the percent relationship to total revenues of select items in our statements of operations. ----------------
THREE MONTHS NINE MONTHS ENDED ENDED SEPTEMBER 30, SEPTEMBER 30, -------------------- -------------------- 1999 2000 1999 2000 ------ ------ ------ ------ Revenues 100.0% 100.0% 100.0% 100.0% Cost of revenues 60.3 47.3 57.5 51.0 Gross profit 39.7 52.7 42.5 49.0 Operating expenses Sales and marketing 321.3 129.4 325.8 148.3 Research and development 38.1 21.2 46.3 24.6 General and administrative 110.5 24.4 120.9 37.8 Stock-based compensation 180.8 (10.5) 212.0 14.1 Amortization of intangible assets -- 112.2 -- 92.8 Merger expenses -- -- -- 37.0 Total operating expenses 650.7 276.7 705.0 354.6 Interest expense Loss from operations (611.0) (224.0) (662.5) (305.6) Other income (expense), net (158.3) 5.0 (76.0) 6.7 Beneficial conversion feature of Series -- -- (13.9) -- B convertible preferred stock Net loss (769.3%) (219.0%) (752.4%) (298.9%)
Page 13 of 24 14 QUARTER ENDED SEPTEMBER 30, 2000 COMPARED TO THE QUARTER ENDED SEPTEMBER 30, 1999 Revenues. Total revenues increased to $17,218,000 in the third quarter of 2000, compared to $3,663,000 in the third quarter of 1999, an increase of $13,555,000 or 370.1%. This increase was due primarily to an increase of $5,340,000 in sales of virtual tours and an increase of $3,758,000 in sales of iPIX keys, primarily to real estate and e-commerce customers. Additional revenue of $3,737,000 was a result of acquisitions in the second quarter of 2000, including $1,894,000 from the Rimfire technology. Cost of Revenues. Cost of revenues consists of our direct expenses associated with the capture, processing, hosting and distribution of virtual tours and the costs of the digital camera and related components included in an iPIX kit. In addition, cost of revenues include transaction fees paid to affiliates who display our virtual tours on their web sites and fees paid to resellers of our virtual tours. Cost of revenues increased to $8,140,000 in the third quarter of 2000, compared to $2,210,000 in the third quarter of 1999, an increase of $5,930,000. This increase is due primarily to the sale of a higher volume of virtual tours. Cost of revenues as a percentage of total revenues decreased from 60.3% in the third quarter of 1999 to 47.3% in the third quarter of 2000. This decrease is primarily related to productivity improvements in the virtual tours and a favorable product mix toward higher margin products. Sales and Marketing. Sales and marketing expenses consist primarily of salaries for marketing, sales, business development and field operations personnel. Sales and marketing expenses also include commissions and related benefits for sales personnel and consultants, traditional advertising and promotional expenses, trademark licensing and technology access and sponsorship fees paid to affiliates in order to facilitate availability of our tours on their web sites. Sales and marketing expenses increased to $22,279,000 in the third quarter of 2000, compared to $11,768,000 in the third quarter of 1999, an increase of $10,511,000, or 89.3%. This increase is due primarily to a significant increase in our sales force, increased costs relating to technology access and sponsorship fees and increased advertising and branding expenses. Sales and marketing expenses also increased due to the acquisitions in the second quarter of 2000. Research and Development. Research and development expenses consist primarily of personnel costs and fees paid to third party developers. Research and development expenses increased to $3,649,000 in the third quarter of 2000, compared to $1,394,000 in the third quarter of 1999, an increase of $2,255,000, or 161.8%. This increase was due primarily to increased staffing associated with expanding our research and development efforts to build and enhance our digital media infrastructure. General and Administrative Expenses. General and administrative expenses consist primarily of salaries and related benefits for administrative and executive staff, fees for professional services and general office and occupancy expenses. General and administrative expenses increased to $4,209,000 in the third quarter of 2000, compared to $4,048,000 in the third quarter of 1999, an increase of $161,000 or 4.0%. This increase was due primarily to costs associated with being a public company. Page 14 of 24 15 Stock-based Compensation. Stock-based compensation expense consists of the amortization of deferred compensation related to stock options granted to employees and others prior to our initial public offering with an exercise price below the deemed fair market value of our common stock on the date of grant and to the amortization of fair value of warrants issued to non-employees. The related compensation is amortized over the vesting period of the options. Expense related to the warrants is amortized over the term of the agreements to which they relate. Stock-based compensation expense decreased from $6,624,000 in the third quarter of 1999 to $(1,811,000) in the third quarter of 2000, a decrease of 8,435,000 or 127.3%. This decrease was primarily due to a decrease in the fair value of the underlying stock. Amortization of Intangible Assets. Amortization of intangible assets was $19,330,000 in the third quarter of 2000. The amortization is a result of acquisitions during the second quarter of 2000. Merger Expenses. Merger expenses consist of costs incurred as a result of the merger of Interactive Pictures and bamboo.com that occurred on January 19, 2000. There were no merger expenses in the third quarter of 2000. Interest Expense. In June 1999, we entered into an agreement to sell 1,100 shares of our Series C mandatorily redeemable preferred stock and 1,251,830 shares of our common stock for total gross proceeds of $11,000,000. The $11,000,000 of proceeds was allocated $4,394,000 to the Series C mandatorily redeemable preferred stock and $6,606,000 to the common stock, based on their relative fair values. The shares of the Series C mandatorily redeemable preferred stock were redeemed in accordance with their original terms after completion of our initial public offering by payment of their face value of $11,000,000. Consequently we recorded interest expense of $6,606,000, which represented primarily the original discount on the Series C mandatorily redeemable preferred stock. Other Income (Expense). Other income (expense) consists primarily of interest earned on cash and investments. Other income (expense) increased to $875,000 in the third quarter of 2000, compared to $642,000 in the third quarter of 1999. This increase was primarily due to interest income earned on higher average cash balances. NINE MONTHS ENDED SEPTEMBER 30, 2000 COMPARED TO THE NINE MONTHS ENDED SEPTEMBER 30, 1999. Revenues. Total revenues increased to $40,990,000 in the nine months ended September 30, 2000, compared to $7,205,000 in the nine months ended September 30, 1999, an increase of $33,785,000 or 468.9%. This increase was due primarily to an increase of $15,636,000 in sales of virtual tours and an increase of $8,162,000 in sales of iPIX keys, primarily to e-commerce and real estate customers. Additional revenue of $7,221,000 was a result of acquisitions in the second quarter of 2000, including $3,901,000 from the Rimfire technology. Cost of Revenues. Cost of revenues increased to $20,924,000 in the first nine months of 2000, compared to $4,146,000 in the first nine months of 1999, an increase of $16,778,000. This increase was primarily due to the sale of a higher volume of virtual Page 15 of 24 16 tours. Cost of revenues as a percentage of total revenues decreased from 57.5% in the first nine months of 1999 to 51.0% in the first nine months of 2000. Sales and Marketing. Sales and marketing expenses increased to $60,778,000 in the nine months ended September 30, 2000, compared to $23,477,000 in the nine months ended September 30, 1999, an increase of $37,301,000, or 158.9%. This increase is due primarily to a significant increase in our sales force, increased costs relating to technology access and sponsorship fees and increased advertising and branding expenses. Sales and marketing expenses also increased due to the acquisitions in the second quarter of 2000. Research and Development. Research and development expenses increased to $10,086,000 in the first nine months of 2000, compared to $3,337,000 in the first nine months of 1999, an increase of $6,749,000, or 202.2%. This increase was due primarily to increased staffing associated with expanding our research and development efforts to build and enhance our digital media infrastructure. General and Administrative Expenses. General and administrative expenses increased to $15,502,000 in the nine months ended September 30, 2000, compared to $8,710,000 in the nine months ended September 30, 1999, an increase of $6,792,000 or 78.0%. This increase was due primarily to an increase in personnel and related expenses required to support our growth, professional services, expansion of our leased facilities and other costs associated with being a public company. Stock-based Compensation. Stock-based compensation expense decreased from $15,273,000 in the first nine months of 1999 to $5,769,000 in the first nine months of 2000, a decrease of $9,504,000 or 62.2%. Amortization of Intangible Assets. Amortization of intangible assets was $38,040,000 in the first nine months of 2000. The amortization is a result of the acquisitions during the second quarter of 2000. Merger Expenses. Merger expenses consist of direct costs incurred as a result of the merger of Interactive Pictures and bamboo.com that occurred on January 19, 2000. Merger expenses in the first nine months of 2000 were $15,175,000 and consisted primarily of investment banking, legal, accounting, and printer's fees. Interest Expense. Interest expense during the first nine months of 1999 primarily relates to the original discount on the Series C mandatorily redeemable preferred stock for which we recorded an expense of $6,606,000. Other Income (Expense). Other income (expense) consists primarily of interest earned on cash and investments. Other income (expense) increased to $2,964,000 in the first nine months of 2000, compared to $1,169,000 in the first nine months of 1999. This increase was primarily due to interest income earned on higher average cash balances. Page 16 of 24 17 WARRANTS On January 6, 2000, the Company issued warrants to purchase a total of 200,000 shares of common stock at an exercise price of $15.47. The warrants vest as follows: 100,000 six months after the incorporation of immoeuro B.V., 50,000 on September 30, 2000 and 50,000 on December 31, 2000. The fair value of warrants was calculated to be approximately $2,700,000, which is being recognized as expense over the two year term of the related agreement. The non-cash charge for these warrants totaled approximately $(1,036,000) for the three month period ended September 30, 2000, and $611,000 for the nine month period ended September 30, 2000. On April 17, 2000, the Company granted a warrant to purchase 3,397 shares of common stock at an exercise price of $4.00. The warrant is fully vested and exercisable. The non-cash charge for the warrant totaled approximately $96,000, which is being recognized as expense over the 15 month term of the related agreement. The non-cash charge for the warrant totaled $0 for the three months ended September 30, 2000, and approximately $50,000 for the nine month period ended September 30, 2000. On April 19, 2000, the Company issued a warrant to purchase 600,000 shares of common stock at an exercise price of $20.38. The warrant vests and becomes exercisable at a rate of 66,667 at the end of each of the following nine quarters. The fair value of the warrant was calculated to be approximately $9,700,000, which is being recognized as expense over the 3.5 year term of the related agreement. The non-cash charge for the warrant totaled approximately $(961,000) for the three months ended September 30, 2000, and $796,000 for the nine months ended September 30, 2000. On May 26, 2000, the Company issued a warrant to purchase 200,000 shares of common stock at an exercise price of $12.06. The warrant vests as follows: 25,000 on June 30, 2000, 25,000 on September 30, 2000, 25,000 on December 31, 2000, 25,000 on March 31, 2001 and 100,000 on the date the warrant holder is a publicly traded company. The fair value of the warrant was calculated to be approximately $1,500,000, which is being recognized as expense over the 25 month term of the related agreement. The non-cash charge for the warrant totaled approximately $(8,000) for the three months ended September 30, 2000, and $384,000 for the nine months ended September 30, 2000. On May 26, 2000, the Company issued a warrant to purchase 200,000 shares of common stock at an exercise price of $12.06. The warrant vests as follows: 50,000 on June 30, 2000, 50,000 on September 30, 2000, 50,000 on December 31, 2000, and 50,000 on March 31, 2001. The fair value of the warrant was calculated to be approximately $1.5 million, which is being recognized as expense over the 11 month term of the related agreement. The non-cash charge for the warrant totaled approximately $(26,000) for the three months ended September 30, 2000, and $680,000 for the nine months ended September 30, 2000. As most of the shares subject to these warrants are unvested, the unvested shares will be revalued at each reporting date, and the revised fair value will be expensed upon the Page 17 of 24 18 vesting of the remaining shares. As a result, the charge is subject to substantial increase or decrease based on future changes in the fair value of the underlying common stock. LIQUIDITY AND CAPITAL RESOURCES Since inception, we have financed our operations primarily through our registered public offerings, the private placements of capital stock and a convertible debenture. At September 30, 2000, we had $1,668,000 of cash and cash equivalents and $30,025,000 in securities available-for-sale. Net cash used in operating activities was $31,004,000 for the nine months ended September 30, 1999 and $80,890,000 for the nine months ended September 30, 2000. Net cash used for operating activities in each of these periods is primarily a result of net losses and changes in net operating assets. Net loss included $15,273,000 and $5,769,000 for the nine month periods ended September 30, 1999 and 2000, respectively, for non-cash stock-based compensation expense. In addition, net loss included $41,210,000 in depreciation and amortization for the nine month period ended September 30, 2000. Net cash provided by (used in) investing activities was $(68,160,000) for the nine months ended September 30, 1999 and $4,857,000 for the nine months ended September 30, 2000. Net cash provided by (used in) investing activities was related to the net purchases and maturities of short-term investments and the purchase of computer software, hardware and other equipment. In addition, cash was used in the second quarter of 2000 for acquisitions. Net cash provided by financing activities was $127,934,000 for the nine months ended September 30, 1999 and $58,999,000 for the nine months ended September 30, 2000. The net cash provided by financing activities in 1999 was due primarily to the private and public sale of shares of our common and preferred stock and the issuance of convertible subordinated promissory notes of $1,800,000 that converted into preferred stock during the first quarter of 1999. The net cash provided by financing activities in 2000 was due primarily to the public sale of our common stock and exercise of stock options, offset by repayments of capital leases and notes payable, and retirement of debt assumed in an acquisition. Although we have no material commitments for capital expenditures, we anticipate that the rate of capital expenditures and other expenses consistent with our operations, personnel and marketing activities will be a material use of our cash resources for the foreseeable future. We may also use our cash resources to acquire or license technology, products or business related to our current business. We believe that our existing cash and cash equivalents will be sufficient to meet our anticipated cash needs for working capital and capital expenditures until the first quarter of 2001. We expect to experience operating losses and negative cash flow for the next Page 18 of 24 19 four quarters and, as a result, we may be forced to rely on external financing to meet future capital requirements. We are in the process of securing additional funds to support our working capital requirements and may seek to raise these funds through public or private equity financing, bank debt financing or from other sources. Any of the equity securities may result in additional dilution to our stockholders. There can be no assurance that this capital will be available in amounts or on terms acceptable to us, if at all. Page 19 of 24 20 RECENT ACCOUNTING PRONOUNCEMENTS In June 1998, the FASB issued Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities." SFAS 133 is effective for fiscal years beginning after June 15, 2000. SFAS 133 requires that all derivative instruments be recorded on the balance sheet at their fair value. Changes in the fair value of derivatives are recorded each period in current earnings or other comprehensive income, depending on whether a derivative is designed as part of a hedge transaction and, if so, the type of hedge transaction. We do not expect that the adoption of SFAS No. 133 will have a material effect on our financial statements. In December 1999, the Commission issued Staff Accounting Bulletin No. 101 or SAB 101 "Revenue Recognition in Financial Statements," which provides guidance on the recognition, presentation and disclosure of revenue in financial statements filed with the Commission. SAB 101 outlines the basic criteria that must be met to recognize revenue and provides guidance for disclosure related to revenue recognition policies. We believe that the impact of SAB 101 will not have a material effect on our financial position or results of operations. In April 2000, the Financial Accounting Standards Board issued FASB Interpretation No. 44 (FIN 44), which clarifies the application of Accounting Principles Board Opinion 25 for certain transactions. The interpretation addresses many issues related to granting or modifying stock options including changes in accounting for modifications of awards (increased life, reduction of exercise price, etc.). It became effective July 1, 2000 but certain conclusions cover specific events that occurred after either December 15, 1998 or January 12, 2000. The effects of applying the interpretation have been recognized on a prospective basis from July 1, 2000. The adoption of FIN 44 has not had a material impact on the Company. FORWARD-LOOKING STATEMENTS This quarterly report contains statements about future events and expectations which are characterized as forward-looking statements. Forward-looking statements are based on our management's beliefs, assumptions and expectations of our future economic performance, taking into account the information currently available to them. These statements are not statements of historical fact. Forward-looking statements involve risks and uncertainties that may cause our actual results, performance or financial condition to be materially different from the expectations of future results, performance or financial condition we express or imply in any forward-looking statements. Factors that could contribute to these differences include those discussed in "Risk Factors" of our prospectus dated May 4, 2000 and those under Additional Factors That May Affect Our Future Results. The words "believe", "may", "will", "should", "anticipate", "estimate", "expect", "intends", "objective" or similar words or the negatives of these words are intended to identify forward-looking statements. We qualify any forward-looking statements entirely by these cautionary factors. Page 20 of 24 21 PART II -- OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS LITIGATION On October 28, 1998, Minds-Eye-View, Inc. and Mr. Ford Oxaal filed a lawsuit against the Company in the United States District Court for the Northern District of New York. Minds-Eye alleged in its lawsuit that the Company breached a duty of confidence to them, made misrepresentations and misappropriated trade secrets. The plaintiffs alleged that the Company's technology wrongfully incorporated trade secrets and other know-how gained from them in breach of various duties. The court removed this action to arbitration upon the Company's motion, and the Company cross-claimed alleging various affirmative claims, including trade secret theft. Minds-Eye and Mr. Oxaal filed a motion to dismiss the suit, and the court dismissed the lawsuit on May 19, 1999. The Company is pursuing its affirmative claims against Oxaal, however, there has been no activity in the arbitration since August 2000, when a request was submitted to stay the arbitration pending resolution of the patent litigation. On May 20, 1999, Mr. Oxaal filed a lawsuit against the Company, Kodak, Nikon and Cendant in the same court alleging that the Company's technology infringes upon patent no. 5,903,782 held by him. Mr. Oxaal claims that this alleged infringement is deliberate and willful and is seeking treble damages against the Company in an unspecified amount plus interest, an accounting by us, costs and attorney's fees, in addition to a permanent injunction prohibiting the alleged infringement of his patent by the Company. The Company has asserted defenses to Mr. Oxaal's claims as the Company believes it did not infringe any valid claims of his patent and that Mr. Oxaal's patent is invalid. The Company believes that Mr. Oxaal's claims are without merit, and the Company intends to vigorously defend against his claims. However, if Mr. Oxaal were to prevail in this lawsuit, the Company's financial condition, results of operations and cash flows could be materially adversely affected. The Company is not currently a party to any other legal proceedings, the adverse outcome of which, individually or in the aggregate, the Company believes could have a material adverse effect on its business, financial condition or results of operations. ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS None. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. Page 21 of 24 22 ITEM 5. OTHER INFORMATION None. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K a. Exhibits 3.1 Amended and Restated Bylaws 10.1 Form of Amendment to Employment and Non Competition Agreement 10.2 Form of Separation Agreement 27.1 Financial Data Schedule (for SEC use only) b. None. Page 22 of 24 23 INTERNET PICTURES CORPORATION SIGNATURES Pursuant to the requirements 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. DATE: November 13, 2000 INTERNET PICTURES CORPORATION (Registrant) /s/ JOHN J. KALEC --------------------------- John J. Kalec Authorized Officer Chief Financial Officer and Chief Accounting Officer Page 23 of 24 24 INTERNET PICTURES CORPORATION INDEX TO EXHIBITS FOR FORM 10-Q FOR QUARTER ENDED SEPTEMBER 30, 2000
EXHIBIT NO. EXHIBIT DESCRIPTION ----------- ------------------- 3.1 Amended and Restated Bylaws 10.1 Form of Amendment to Employment and Non Competition Agreement 10.2 Form of Separation Agreement 27.1 Financial Data Schedule (for SEC use only)
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