Exhibit 2.1
AGREEMENT AND PLAN OF MERGER
AGREEMENT AND PLAN OF MERGER, dated as of September 11, 1998,
by and among CommHome Systems Corporation, a Delaware Corporation (the
"Company"), Network-1 Acquisition Corp., a Delaware corporation and wholly owned
subsidiary of Parent (the "Purchaser"), and Network-1 Security Solutions, Inc.,
a Delaware corporation (the "Parent").
WHEREAS, the Board of Directors of the Company, Purchaser and
Parent have each determined that it is in the best interests of their respective
stockholders for the Purchaser to acquire the Company upon the terms and subject
to the conditions set forth herein;
WHEREAS, in furtherance of such acquisition, the Board of
Directors of the Company, Purchaser and Parent have each approved the merger of
the Company with and into the Purchaser in accordance with the General
Corporation Law of the State of Delaware (the "GCL") and upon the terms and
subject to the conditions set forth herein;
WHEREAS, all of the issued and outstanding shares of stock of
any class of the Company consists of 1,290 shares of Common Stock, par value,
$.01 per share, (the "Issued Company Shares") which are owned and of record by
the persons named on Schedule A hereto (the "Company Shareholders");
WHEREAS, it is the intent of this Agreement that the merger of
the Company with and into Purchaser (the "Merger") constitute a reorganization
within the meaning of Section 368(a) of the Internal Revenue Code of 1986, as
amended; and
WHEREAS, the Company's Shareholders have voted a majority of
the Issued Company Shares in favor of the approval of this Agreement and the
transactions contemplated hereby, including the Merger.
NOW, THEREFORE, in consideration of the foregoing and the
mutual covenants and agreements herein contained, and intending to be legally
bound hereby, the Purchaser, the Company and the Parent hereby agree as follows:
ARTICLE I
THE MERGER
SECTION 1.01 The Merger. Upon the terms and subject to the
conditions hereof, and in accordance with the GCL, the Company shall be merged
with and into the Purchaser simultaneously with the Parent's consummation of its
initial public offering of its securities (the
"IPO"). Following the Merger, the Purchaser shall continue as the surviving
corporation and the separate corporate existence of the Company shall cease.
SECTION 1.02 Effective Time. Subject to Section 1.01, the
Merger shall become effective upon filing with the Delaware Secretary of State
of a certificate of merger executed in accordance with the relevant provisions
of the GCL (the time the Merger becomes effective being the "Effective Time").
SECTION 1.03 Effects of the Merger. The Merger shall have the
effects set forth in the GCL. Without limitation, upon the effectiveness of the
Merger: (a) the separate existence of the Company shall cease; (b) the Purchaser
as the surviving corporation shall possess all of the rights, privileges,
powers, immunities, purposes and franchises, both public and private, of each of
the Company and the Purchaser; (c) all real and personal property, tangible and
intangible, of every kind and description belonging to the Company and the
Purchaser shall be vested in the Purchaser as the surviving corporation without
further act or deed, and the title to any real estate or any interest therein
vested in either the Company or the Purchaser shall not revert or in any way be
impaired by reason of the Merger; (d) the Purchaser as the surviving corporation
shall be liable for all the obligations and liabilities of each of the Company
and the Purchaser, and any claim existing or action or proceeding pending by or
against either the Company or the Purchaser may be enforced against the
Purchaser as if the Merger had not taken place; and (e) neither the rights of
creditors nor any liens upon or security interests in the property of either the
Company or the Purchaser shall be impaired by the Merger.
SECTION 1.04 Certificate of Incorporation and By-Laws. Without
further action by the Company or the Purchaser, the Certificate of Incorporation
and By-laws of the Purchaser as in effect at the Effective Time shall continue
to be the Certificate of Incorporation and By-Laws of the Purchaser as the
surviving corporation.
SECTION 1.05 Directors. The directors of the Purchaser at the
Effective Time shall be the initial directors of the Purchaser as the surviving
corporation, until their successors shall have been duly elected or appointed
and qualified.
SECTION 1.06 Officers. The officers of the Purchaser at the
Effective Time shall be the initial officers of the Company as the surviving
corporation, until their successors have been duly appointed.
SECTION 1.07 Conversion of Shares and Assumption of Debt.
(a) At the Effective Time, all of the Issued Company Shares
shall, by virtue of the Merger and without any action on the part of the holder
thereof, be converted into a number of shares of the Parent's Common Stock, par
value $.01 per share ("Common Stock"), determined by dividing (i) $280,000 by
(ii) the price for the Common Stock as set forth on the cover page of the
Parent's final prospectus relating to its IPO (the "IPO Price"). The shares of
Common Stock to be
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received by the Company Shareholders as set forth on Schedule A shall be
"restricted stock", shall not be registered under the Securities Act of 1933, as
amended (the"Act") and the Parent shall have no obligation to effect any
registration thereof. As a condition to the receipt of the certificate for the
Common Stock, each Company Shareholder shall execute a lock-up letter (of one
year's duration) in the form requested of all of the Parent's shareholders by
Whale Securities Co., L.P., (the "Underwriter") with respect to the IPO.
(b) At the Effective Time, the Purchaser shall assume and pay
the Company's indebtedness in the amount of $198,284.91 as set forth in Schedule
B hereto (collectively the "Assumed Indebtedness"). The Assumed Indebtedness
includes $55,000 owed to Avi A. Fogel ("Fogel Debt") and $50,000 owed to Robert
P. Olsen ("Olsen Debt"), such debt due Messrs. Fogel and Olsen shall be
satisfied by Parent's issuance of Common Stock having a value based on the IPO
Price equal to the debt owed to Messrs. Olsen and Fogel. All other Assumed
Indebtedness shall be paid in cash. The shares of Common Stock to be received by
Messrs. Olsen and Fogel shall be "restricted stock", shall not be registered
under the Securities Act of 1933, as amended (the"Act") and the Parent shall
have no obligation to effect any registration thereof. As a condition to the
receipt of the certificate for the Common Stock, each of Messrs. Fogel and Olsen
shall execute a release of the Fogel Debt and Olsen Debt, respectively, and the
lock-up letter (of one year's duration) in the form requested of all of the
Parent's securityholders by the Underwriter with respect to the IPO.
SECTION 1.08 Payment of Outstanding Obligation to Nachum
Sadan. Included in the Assumed Indebtedness, is $30,000 (the "Principal Sum")
owed to Nachum Sadan in connection with a loan from Nachum Sadam to the Company,
on June 25, 1997. At the Effective Time, the Purchaser shall wire the Principal
Sum plus interest at a rate of 5.5% per annum, as set forth in Schedule B
hereto, to such account as provided by Nachum Sadan.
SECTION 1.09 Shareholders' Approval. The Purchaser, acting
through its Board of Directors, shall in accordance with applicable law duly
call, give notice of, convene and hold a special meeting of its shareholders (or
obtain consent) for the purpose of considering and taking action upon this
Agreement and the transactions contemplated hereby. The Company represents to
the Purchaser that all required shareholder action has been taken by it upon the
execution of this Agreement and the Company has provided the Purchaser with
copies of all consents of Company Shareholders.
SECTION 1.10 Filing of Certificate of Merger. Upon the terms
and subject to the conditions hereof, as soon as practicable following the
satisfaction or waiver of the conditions set forth in Article VI hereof, the
Company and the Purchaser shall execute and file a Certificate of Merger in the
manner required by the GCL and the parties hereto shall take all such other and
further actions as may be required by law to make the Merger effective. Prior to
the filings referred to in this Section, a closing (the "Closing Date") will be
held at the offices of Bizar Martin & Taub, LLP, New York, New York (or such
other place as the parties may agree) for the purpose of confirming all of the
foregoing. At the closing, Purchaser shall deliver the Common Stock to the
Company's
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Attorney for delivery to the Company Shareholders and the Company Shareholders
shall deliver the Company Shares to the Purchaser's attorney for delivery to the
Purchaser, subject only to confirmation that the Effective Time has occurred.
From and after the Effective Time, the Company Shares shall cease to exist.
ARTICLE II
REPRESENTATIONS AND WARRANTIES
OF THE COMPANY
The Company represents and warrants to each of the Purchaser
and the Parent that, except as set forth in the Disclosure Schedule annexed
hereto (the "Company Disclosure Schedule"):
SECTION 2.01 Organization. The Company is a corporation duly
organized, validly existing and in good standing under the laws of the State of
Delaware and has all requisite corporate power and authority to own, lease and
operate its properties and to carry on its business as now being conducted,
except where the failure to be so existing and in good standing or to have such
power and authority would not in the aggregate have a material adverse effect on
the financial condition, results of operations or business of the Company taken
as a whole. The Company is duly qualified or licensed to do business and is in
good standing in each jurisdiction in which the property owned, leased or
operated by it or the nature of the business conducted by it makes such
qualification or licensing necessary, except in such jurisdictions where the
failure to be so duly qualified or licensed and in good standing would not in
the aggregate have a material adverse effect on the financial condition, results
of operations or business of the Company taken as a whole. Schedule 2.01 sets
forth each jurisdiction where the Company is qualified to do business as a
foreign corporation. The Company has heretofore made available to the Purchaser
accurate and complete copies of the Certificate of Incorporation and By-laws, as
currently in effect, of the Company. The Company has no subsidiaries and is not
a party to any partnership, agency or joint venture agreement.
For purposes of this Agreement, the term "subsidiary" shall
mean each corporation or other entity in which a corporation owns or controls,
directly through one or more subsidiaries, 50% or more of the stock or other
interests having general voting power in the election of directors or persons
performing similar functions.
SECTION 2.02 Capitalization. The authorized capital stock of
the Company consists of 2000 shares of Common Stock, par value $.01 per share,
and 1000 shares of Preferred Stock, par value $.01 per share, of which 1,290
shares of Common Stock (the "Company Shares"), were issued and outstanding as of
the date hereof. All of the issued and outstanding Company Shares are validly
issued, fully paid and non-assessable and free of preemptive rights. Except for
the Company Shares, there are no shares of capital stock of the Company issued
or outstanding or any subscriptions, options, warrants, calls, rights,
convertible securities or other agreements or commitments of any character
obligating the Company to issue, transfer, sell or pay any amount with respect
to any of its securities.
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SECTION 2.03 Authority Relative to this Agreement. The Company
has full corporate power and authority to execute and deliver this Agreement and
to consummate the transactions contemplated hereby. The execution and delivery
of this Agreement and the consummation of the transactions contemplated hereby
have been duly and validly authorized by the Board of Directors of the Company
and the Company Shareholders and no other corporate proceedings on the part of
the Company are necessary to authorize this Agreement or to consummate the
transactions so contemplated. This Agreement has been duly and validly executed
and delivered by the Company and constitutes a valid and binding agreement of
the Company, enforceable against the Company in accordance with its terms,
subject to the provisions of any bankruptcy, insolvency, moratorium or similar
law applicable to the rights of creditors generally.
SECTION 2.04 No Violations. Except for the filing and
recordation of a Certificate of Merger as required by the GCL, no filing with,
and no permit, authorization, consent or approval of, any public body or
authority is necessary for the consummation by the Company of the transactions
contemplated by this Agreement, except for filings, permits, authorizations,
consents or approvals, the failure to obtain which would not in the aggregate
have a material adverse effect on the financial condition, results of operations
or business of the Company taken as a whole or which would not prevent or delay
in any material respect the consummation of the transactions contemplated
hereby. Neither the execution and delivery of this Agreement by the Company nor
the consummation by the Company of the transactions contemplated hereby nor
compliance by the Company with any provisions hereof will: (i) conflict with or
result in any breach of any provision of the Certificate of Incorporation or
By-laws of the Company, (ii) result in a violation or breach of, or constitute
(with or without due notice or lapse of time or both) a default (or give rise to
any right of termination, cancellation or acceleration) under, any of the terms,
conditions or provisions of any note, bond, mortgage, indenture, license, lease,
contract, agreement or other instrument or obligation to which the Company is a
party or by which it or its properties or assets may be bound or (iii) violate
any order, writ, injunction, decree, statute, rule or regulation applicable to
the Company, or any of its properties or assets.
SECTION 2.05 Financial Statements. The Company Disclosure
Schedule sets forth a balance sheet of the Company as at June 30, 1998 (the
"Balance Sheet") together with statements of operations for the period June 18,
1997 (inception) through December 31, 1997, the six month period ended June 30,
1998, and for the period June 18, 1997 (inception) through June 30, 1998, and
has been reviewed by Richard A. Eisner & Company, LLP, certified public
accountants. The Balance Sheet shall show and the Company shall have no
indebtedness other than the Assumed Indebtedness. June 30, 1998 is hereinafter
referred to as the Balance Sheet Date. The Balance Sheet included in the Company
Disclosure Schedule fairly presents the financial position of the Company as at
the respective dates thereof, and the other related statements included therein
fairly present the results of operations of the Company for the respective
fiscal periods covered thereby. Each of the Company's financial statements
included in the Company Disclosure Schedule has been prepared in accordance with
generally accepted accounting principles consistently applied during the periods
covered by such statements, except as otherwise noted therein.
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SECTION 2.06 Properties.
(a) The Company has good and marketable title to, or in the
case of leased property has valid leasehold interests in (which leases are in
full force and effect and with respect to which no event of default has occurred
and is continuing), all properties and assets (whether real or personal, and
whether tangible or intangible) reflected on the Balance Sheet or acquired after
the Balance Sheet Date in the ordinary course of business consistent with past
practices.
(b) There is no violation of any law, regulation or ordinance
relating to the properties and assets of the Company or the operation of its
business, except such violations as would not, in the aggregate, have a material
adverse effect on the financial condition, results of operations or business of
the Company.
SECTION 2.07 No Undisclosed Liabilities and No Operations.
(a) There are no liabilities of the Company of any kind
whatsoever, whether accrued, contingent, absolute, determined, determinable or
otherwise, and there is no existing condition situation or set of circumstances
which could reasonably result in such a liability, other than:
(i) liabilities disclosed or provided for in the
Balance Sheet including the Assumed
Indebtedness; and
(ii) liabilities arising under this Agreement;
and
(b) The Company has not conducted any operations since the
Balance Sheet Date.
SECTION 2.08 Litigation. There are no actions, suits, or
proceedings pending against, or to the knowledge of the Company, threatened
against the Company before any court or arbitrator or any governmental body,
agency or official.
SECTION 2.09 Taxes. Except as disclosed in the financial
statements referred to in Section 2.05, the Company has: (i) duly filed with the
appropriate federal, state and local governments or governmental agencies, all
federal, state and local income tax returns and declarations of estimated tax
and all other material tax returns and reports required to be filed and has paid
in full when due all taxes, licenses and fees, including interest and penalties,
shown to be due thereon, and (ii) has established reserves in the Balance Sheet
that, in the aggregate, are adequate for the payment of taxes not yet due with
respect to the Company's operations through the Balance Sheet Date. All material
claims for federal, state and local taxes asserted against the Company have
either been paid or adequately provided for on the Balance Sheet. The federal
income tax returns required to be filed by the Company have either been examined
by the Internal Revenue Service or the period during which any assessments may
be made by the Internal Revenue Service has expired without waiver or extension
and any deficiencies or assessments asserted in writing by the Internal
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Revenue Service have either been paid, settled or adequately provided for in the
Balance Sheet. The Company has withheld from employees and paid over to the
proper governmental authorities all amounts required to be so withheld and paid
over.
SECTION 2.10 Absence of Certain Changes. Except for: (i)
transactions, changes, events, obligations and liabilities contemplated by this
Agreement; (ii) transactions, changes, events, obligations and liabilities
disclosed in the financial statements referred to in Section 2.05; and (iii)
transactions, changes, events, obligations and liabilities which individually or
in the aggregate, have not had a material adverse effect on the financial
condition, results of operations or business of the Company, since the Balance
Sheet Date:
(a) there have been no changes in the business, condition
(financial or otherwise), assets or liabilities of the Company;
(b) no liability or obligation of the Company has been paid,
discharged or incurred;
(c) there has been no damage, destruction, or loss, whether or
not covered by insurance, materially adversely affecting the business or
property of the Company;
(d) the Company has not sold, mortgaged, pledged or subjected
to any lien or other encumbrance or otherwise transferred any material assets or
properties used in the conduct of its business; and
(e) the Company has not entered into any transaction.
SECTION 2.11 Investment Matters. The Company has obtained the
acknowledgment of each of the Company Shareholders that (i) they are acquiring
the Common Stock for investment purposes only and not with a view to
distribution, (ii) they are either an "accredited investor" as that term is
defined in Regulation D promulgated under the Securities Act of 1933, as
amended, or a sophisticated investor and have had access to sufficient
information concerning the transactions contemplated by this Agreement,
including, without limitation, information concerning the Parent and its
business including the Registration Statement, (iii) aware that the Common Stock
to be issued to them is restricted securities and as such has not been
registered under the Act and cannot be offered for sale or sold without
registration under the Securities Act and all applicable state securities laws
or pursuant to an applicable exemption from registration and (iv) there can be
no assurance that the IPO will be completed or, if completed, that a trading
market for the Common Stock will develop, or if developed will be maintained.
SECTION 2.12 Full Disclosure. No representation, warranty or
covenant made by the Company in this Agreement contains any untrue statement of
a material fact, or omits to state a material fact necessary to make the
statements contained in this Agreement not misleading.
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ARTICLE III
REPRESENTATIONS AND WARRANTIES
OF THE PURCHASER
The Purchaser represents and warrants to the Company, except
as set forth in the Disclosure Schedule annexed hereto (the "Purchaser
Disclosure Schedule") as follows:
SECTION 3.01 Organization. The Purchaser is a corporation duly
organized, validly existing and in good standing under the laws of the State of
Delaware and has all requisite corporate power and authority to own, lease and
operate its properties and to carry on its business as now being conducted,
except where the failure to be so existing and in good standing or to have such
power and authority would not in the aggregate have a material adverse effect on
the financial condition, results of operations or business of the Purchaser
taken as a whole. The Purchaser is duly qualified or licensed to do business and
is in good standing in each jurisdiction in which the property owned, leased or
operated by it or the nature of the business conducted by it makes such
qualification or licensing necessary, except in such jurisdictions where the
failure to be so duly qualified or licensed and in good standing would not in
the aggregate have a material adverse effect on the financial condition, results
of operations or business of the Purchaser. Schedule 3.01 sets forth each
jurisdiction where the Purchaser is qualified to do business as a foreign
corporation. The Purchaser has heretofore made available to the Company accurate
and complete copies of the Certificate of Incorporation and By-laws, as
currently in effect, of the Purchaser. The Purchaser has no subsidiaries and is
not a party to any partnership, agency or joint venture agreement.
SECTION 3.02 Capitalization. The authorized capital stock of
the Purchaser consists of 1,000 shares of common stock, par value $.01 per share
(the "Purchaser Shares"), all of which were issued and outstanding as of the
date hereof and held of record and beneficially by the Parent. All of the issued
and outstanding Purchaser Shares are validly issued, fully paid and
non-assessable and free of preemptive rights. Except for the Purchaser Shares,
there are no shares of capital stock of the Purchaser issued or outstanding or
any subscriptions, options, warrants, calls, rights, convertible securities or
other agreements or commitments of any character obligating the Purchaser to
issue, transfer, sell or pay any amount with respect to any of its securities.
SECTION 3.03 Authority Relative to this Agreement. The
Purchaser has full corporate power and authority to execute and deliver this
Agreement and to consummate the transactions contemplated hereby. The execution
and delivery of this Agreement and the consummation of the transactions
contemplated hereby have been duly and validly authorized by the Board of
Directors of the Purchaser and, except for the approval by Purchaser's
shareholder, no other corporate proceedings on the part of the Purchaser are
necessary to authorize this Agreement or to consummate the transactions so
contemplated. Subject to the approval of the Purchaser's shareholder, this
Agreement has been duly and validly executed and delivered by the Purchaser and
constitutes a valid and binding agreement of the Purchaser, enforceable against
the Purchaser in
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accordance with its terms, subject to the provisions of any bankruptcy,
insolvency, moratorium or similar law applicable to the rights of creditors
generally.
SECTION 3.04 No Violations. Except for the filing and
recordation of a Certificate of Merger as required by the GCL, no filing with,
and no permit, authorization, consent or approval of, any public body or
authority is necessary for the consummation by the Purchaser of the transactions
contemplated by this Agreement, except for filings, permits, authorizations,
consents or approvals, the failure to obtain which would not in the aggregate
have a material adverse effect on the financial condition, results of operations
or business of the Purchaser taken as a whole or which would not prevent or
delay in any material respect the consummation of the transactions contemplated
hereby. Neither the execution and delivery of this Agreement by the Purchaser
nor the consummation by the Purchaser of the transactions contemplated hereby
nor compliance by the Purchaser with any provisions hereof will: (i) conflict
with or result in any breach of any provision of the Certificate of
Incorporation or By-laws of the Purchaser, (ii) result in a violation or breach
of, or constitute (with or without due notice or lapse of time or both) a
default (or give rise to any right of termination, cancellation or acceleration)
under, any of the terms, conditions or provisions of any note, bond, mortgage,
indenture, license, lease, contract, agreement or other instrument or obligation
to which the Purchaser is a party or by which it or its properties or assets may
be bound or (iii) violate any order, writ, injunction, decree, statute, rule or
regulation applicable to the Purchaser, or any of its properties or assets.
SECTION 3.05 Financial Representation. The Purchaser was
organized on August 27, 1998, has had no operations and has performed no other
acts other than those incident to its organization. Purchaser's only asset is
the $100 which the Parent paid for the 1,000 issued and outstanding shares of
the Purchaser's common stock, par value $.01 per share and the Purchaser has no
liabilities.
SECTION 3.06 Full Disclosure. No representation, warranty or
covenant made by the Purchaser in this Agreement contains any untrue statement
of a material fact, or omits to state a material fact necessary to make the
statements contained in this Agreement not misleading.
ARTICLE IV
REPRESENTATIONS AND WARRANTIES
OF THE PARENT
The Parent represents and warrants to the Company, except as
set forth in the Disclosure Schedule annexed hereto (the "Parent Disclosure
Schedule") as follows:
SECTION 4.01 Organization. The Parent is a corporation duly
organized, validly existing and in good standing under the laws of the State of
Delaware and has all requisite corporate power and authority to own, lease and
operate its properties and to carry on its business as now being conducted,
except where the failure to be so existing and in good standing or to have
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such power and authority would not in the aggregate have a material adverse
effect on the financial condition, results of operations or business of the
Parent taken as a whole. The Parent is duly qualified or licensed to do business
and is in good standing in each jurisdiction in which the property owned, leased
or operated by it or the nature of the business conducted by it makes such
qualification or licensing necessary, except in such jurisdictions where the
failure to be so duly qualified or licensed and in good standing would not in
the aggregate have a material adverse effect on the financial condition, results
of operations or business of the Parent and its subsidiary taken as a whole.
Schedule 4.01 sets forth each jurisdiction where the Parent is qualified to do
business as a foreign corporation. The Parent has heretofore made available to
the Purchaser accurate and complete copies of the Certificate of Incorporation
and By-laws, as currently in effect, of the Parent. Except for Purchaser, The
Parent has no subsidiaries and is not a party to any partnership, agency or
joint venture agreement.
SECTION 4.02 Capitalization. The authorized capital stock of
the Parent consists of 25,000,000 shares of Common Stock, par value $.01 per
share and 5,000,000 shares of Preferred Stock, par value $.01 per share, of
which 2,085,244 shares of Common Stock and 500,000 shares of Preferred Stock,
are issued and outstanding as of the date hereof. All of the issued and
outstanding securities of Parent have been validly issued, fully paid and
non-assessable and are free of preemptive rights. Except for the foregoing
shares of Common Stock and Preferred Stock, and except as disclosed in the
Registration Statement, there are no shares of capital stock of the Parent
issued or outstanding or any subscriptions, options, warrants, calls, rights,
convertible securities or other agreements or commitments of any character
obligating the Parent to issue, transfer, sell or pay any amount with respect to
any of its securities. The Common Stock when issued and delivered in accordance
with this Agreement, will be duly and validly issued and such Common Stock will
be fully paid and non-assessable.
SECTION 4.03 Authority Relative to this Agreement. The Parent
has full corporate power and authority to execute and deliver this Agreement and
to consummate the transactions contemplated hereby. The execution and delivery
of this Agreement and the consummation of the transactions contemplated hereby
have been duly and validly authorized by the Board of Directors of the Parent
and the Parent Shareholders and no other corporate proceedings on the part of
the Parent are necessary to authorize this Agreement or to consummate the
transactions so contemplated. This Agreement has been duly and validly executed
and delivered by the Parent and constitutes a valid and binding agreement of the
Parent, enforceable against the Parent in accordance with its terms, subject to
the provisions of any bankruptcy, insolvency, moratorium or similar law
applicable to the rights of creditors generally.
SECTION 4.04 No Violations. Except for the filing and
recordation of a Certificate of Merger as required by the GCL, no filing with,
and no permit, authorization, consent or approval of, any public body or
authority is necessary for the consummation by the Parent of the transactions
contemplated by this Agreement, except for filings, permits, authorizations,
consents or approvals, the failure to obtain which would not in the aggregate
have a material adverse effect on the financial condition, results of operations
or business of the Parent taken as a whole or which
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would not prevent or delay in any material respect the consummation of the
transactions contemplated hereby. Neither the execution and delivery of this
Agreement by the Parent nor the consummation by the Parent of the transactions
contemplated hereby nor compliance by the Parent with any provisions hereof
will: (i) conflict with or result in any breach of any provision of the
Certificate of Incorporation or By-laws of the Parent, (ii) result in a
violation or breach of, or constitute (with or without due notice or lapse of
time or both) a default (or give rise to any right of termination, cancellation
or acceleration) under, any of the terms, conditions or provisions of any note,
bond, mortgage, indenture, license, lease, contract, agreement or other
instrument or obligation to which the Parent is a party or by which it or its
properties or assets may be bound or (iii) violate any order, writ, injunction,
decree, statute, rule or regulation applicable to the Parent, or any of its
properties or assets.
SECTION 4.05 Financial Statements. The Parent Disclosure
Schedule sets forth balance sheets of the Parent as at December 31, 1996,
December 31, 1997 and June 30, 1998 (unaudited) (the "Parent Balance Sheet"),
together with statements of results of operations and cash flows for the two
fiscal years ended December 31, 1996 and December 31, 1997 and the six months
ended June 30, 1998 (unaudited), and the report of Richard A. Eisner & Company,
LLP, certified public accountants on the financial statements for the years
ended December 31, 1996 and December 31, 1997. June 30, 1998 is hereinafter
referred to as the "Balance Sheet Date." Except as set forth in the Parent
Disclosure Schedule (which is deemed to include the Registration Statement and
each subsequent Amendment to the Registration Statement which the Parent shall
deliver to the Company), each of the balance sheets (including the related
notes) included in the Parent Disclosure Schedule fairly presents the
consolidated financial position of the Parent as of the respective dates
thereof, and the other related statements (including the related notes) included
therein fairly present the consolidated results of operations and the cash flows
of the Parent for the respective fiscal periods covered thereby. Each of such
financial statements has been prepared in accordance with generally accepted
accounting principles consistently applied during the periods covered, except as
otherwise noted therein.
SECTION 4.06 Properties.
(a) The Parent has good and marketable title to, or in the
case of leased property has valid leasehold interests in (which leases are in
full force and effect and with respect to which no event of default has occurred
and is continuing), all properties and assets (whether real or personal, and
whether tangible or intangible) reflected on the Balance Sheet or acquired after
the Balance Sheet Date in the ordinary course of business consistent with past
practices.
(b) There is no violation of any law, regulation or ordinance
relating to the properties and assets of the Parent except such violations as
would not, in the aggregate, have a material adverse effect on the financial
condition, results of operations or business of the Parent.
SECTION 4.07 No Undisclosed Liabilities. There are no
liabilities of the Parent of any kind whatsoever, whether accrued, contingent,
absolute, determined, determinable or
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otherwise, and there is no existing condition or set of circumstances which
could reasonably result in such a liability, other than:
(a) liabilities disclosed or provided for in the Balance Sheet
or in the notes thereto or in the Parent Disclosure Schedule;
(b) liabilities incurred in the ordinary course of business
consistent with past practices since the Balance Sheet Date;
(c) liabilities arising under this Agreement; and
(d) liabilities which would not, in the aggregate, have a
material adverse effect on the Parent.
SECTION 4.08 Litigation. Except as set forth in the Parent
Disclosure Schedule, there are no actions, suits, or proceedings pending
against, or to the knowledge of the Parent, threatened against the Parent before
any court or arbitrator or any governmental body, agency or official.
SECTION 4.09 Taxes. Except as disclosed in the financial
statements referred to in Section 4.05, the Parent has (i) duly filed (or
appropriate extensions have been filed) with the appropriate federal, state and
local governments or governmental agencies, all federal, state and local income
tax returns and declarations of estimated tax and all other material tax returns
and reports required to be filed and have paid in full when due all taxes,
licenses and fees, including interest and penalties, shown to be due thereon,
and (ii) has established reserves in the Balance Sheet that, in the aggregate,
are adequate for the payment of taxes not yet due with respect to the Parent's
operations through the Balance Sheet Date. All material claims for federal,
state and local taxes asserted against the Parent have either been paid or
adequately provided for on the Balance Sheet. The federal income tax returns
required to be filed by the Parent have either been examined by the Internal
Revenue Service or the period during which any assessments may be made by the
Internal Revenue Service has expired without waiver or extension and any
deficiencies or assessments asserted in writing by the Internal Revenue Service
have either been paid, settled or adequately provided for in the Balance Sheet.
The Parent has withheld from employees and paid over to the proper governmental
authorities all amounts required to be so withheld and paid over.
SECTION 4.10 Absence of Certain Changes. Except for: (i)
transactions, changes, events, obligations and liabilities contemplated by this
Agreement; (ii) transactions, changes, events, obligations and liabilities
disclosed in the financial statements referred to in Section 4.05 or in the
Parent Disclosure Schedule; (iii) transactions, changes, events, obligations and
liabilities which individually or in the aggregate, have not had a material
adverse effect on the Parent, since the Balance Sheet Date:
12
(a) there have been no changes in the business, condition
(financial or otherwise), operations, manner of conduct of business or
operations, assets or liabilities of the Parent, other than changes in the
ordinary course of business;
(b) no liability or obligation of the Parent has been paid,
discharged or incurred other than in the ordinary course of business;
(c) there has been no damage, destruction, or loss, whether or
not covered by insurance, materially adversely affecting the business or
property of the Parent;
(d) the Parent has not sold, mortgaged, pledged or subjected
to any lien or other encumbrance or otherwise transferred any material assets or
properties used in the conduct of its business; and
(e) the Parent has not entered into any transaction other than
in the ordinary course of business.
SECTION 4.11 Commitments for Financing. On May 14, 1998, the
Parent entered into a letter of intent with Whale Securities Co., L.P. with
respect to the IPO. On July 22, 1998, the Parent filed a Form SB-2 Registration
Statement with the Securities and Exchange Commission with respect to the IPO.
The Parent has not received any notice from Whale that the IPO Offering will not
go forward on the terms set forth in the Registration Statement.
SECTION 4.12 Full Disclosure. No representation, warranty or
covenant made by the Parent in this Agreement contains any untrue statement of a
material fact, or omits to state a material fact necessary to make the
statements contained in this Agreement not misleading.
ARTICLE V
COVENANTS
SECTION 5.01 Conduct of the Business of the Company, Purchaser
and Parent. Except as contemplated by this Agreement, during the period from the
date of this Agreement to the Effective Time, each of the Company, Purchaser and
Parent will conduct its respective operations according to its ordinary course
of business and consistent with past practice, and will each use its reasonable
efforts to preserve intact its business organization. Without limiting the
generality of the foregoing, and except as otherwise expressly provided in this
Agreement, prior to the Effective Time, the Company will not, without the prior
written consent of the Purchaser and Parent:
(a) amend its Certificate of Incorporation or By-laws;
13
(b) authorize for issuance, issue, sell, deliver or agree or
commit to issue, sell or deliver (whether through the issuance or granting of
options, warrants, commitments, subscriptions, rights to purchase or otherwise)
any shares of stock of any class or any other securities, except as may be
required by option agreements in effect on the date hereof;
(c) split, combine or reclassify any shares of its capital
stock, declare, set aside or pay any dividend or other distribution (whether in
cash, stock or property or any combination thereof) in respect of its capital
stock, or redeem or otherwise acquire any of its securities;
(d) except in the ordinary course of business consistent with
past practices: (i) incur or assume any long-term or short-term debt; (ii)
assume, guarantee, endorse or otherwise become liable or responsible (whether
directly, contingently or otherwise) for the obligations of any other person; or
(iii) make any loans, advances or capital contributions to, or investments in,
any other person;
(e) except pursuant to written agreements in effect on the
date hereof, acquire, sell, lease, create liens with respect to or dispose of
any material assets outside the ordinary course of business or enter into any
material commitment or transaction outside the ordinary course of business;
(f) except as may be required by law, take any action to
initiate, terminate or amend any of its employee benefit plans; and
(g) take, or agree in writing or otherwise to take, any of the
foregoing actions or any action which would make any representation or warranty
of the Company contained in this Agreement untrue or incorrect in any material
respect as of the date when made or as of a future date.
SECTION 5.02 Access to Information.
(a) Between the date of this Agreement and the Effective Time,
the Company will give the Purchaser, the Parent and its authorized
representatives, access to its respective facilities, books and records as the
other may reasonably request, will permit the other to make such inspections as
it may reasonably require and will cause its officers to furnish the other with
such financial data and other information with respect to its business and
properties as the other may from time to time reasonably request.
(b) Each of Purchaser and the Parent will hold and will cause
its representatives to hold in strict confidence all documents and information
concerning the Company furnished in connection with the transactions
contemplated by this Agreement (except to the extent that such information can
be shown to have been: (i) in the public domain through no fault of the
disclosing party, or (ii) required to be disclosed by Parent in its Registration
Statement relating to its IPO or (iii) later lawfully acquired by the disclosing
party (or its affiliates) from other sources) and will not release or disclose
such information to any other person, except in connection with this Agreement
14
to (i) its representatives and (ii) to the Underwriter (including its counsel)
of the Parent's IPO (it being understood that such persons shall be informed by
Purchaser of the confidential nature of such information and shall be directed
by Purchaser to treat such information confidentially); provided that each party
and its representatives may provide such documents or information in response to
judicial or administrative process or applicable governmental laws, rules,
regulations, orders or ordinances, but only that portion of the documents or
information which, on the advice of counsel, is legally required to be
furnished. If the transactions contemplated by this Agreement are not
consummated, such confidence shall continue to be maintained in accordance with
the terms and conditions above set forth.
SECTION 5.03 Best Efforts. Subject to the terms and conditions
herein provided, each of the parties hereto agrees to use its best efforts to
take, or cause to be done, all things necessary, proper or advisable under
applicable laws and regulations to consummate and make effective the
transactions contemplated by this Agreement. In case at any time after the
Effective Time any further action is necessary or desirable to carry out the
purposes of this Agreement, the proper officers and directors of each party to
this Agreement shall take all such necessary action.
SECTION 5.04 Consents. The Purchaser, Company and Parent each
will use its best efforts to obtain consents of all third parties and
governmental authorities necessary to the consummation of the transactions
contemplated by this Agreement, unless the failure to obtain such consents will
not, in the aggregate, have a material adverse effect on the financial
condition, results of operations or business in respect of either the Purchaser,
Company or Parent.
SECTION 5.05 Notification of Certain Matters. The Company,
Purchaser and Parent agree to give prompt notice to each other of (i) the
occurrence, or failure to occur, of any event which occurrence or failure to
occur would be likely to cause any representation or warranty contained in this
Agreement to be untrue or inaccurate in any material respect at any time from
the date hereof to the Effective Time (including any such occurrence or failure
of which either party is or becomes aware with respect to the other) and (ii)
any material failure on its part to comply with or satisfy any covenant,
condition or agreement to be complied with or satisfied by it hereunder;
provided, however, that the delivery of any notice pursuant to this Section 5.05
shall not limit or otherwise affect the remedies available hereunder to the
party receiving such notice.
ARTICLE VI
CONDITIONS TO CONSUMMATION
OF THE MERGER
SECTION 6.01 Conditions to Consummation of the Merger. The
obligations of the Purchaser and the Parent are, at Purchaser's and the Parent's
option, subject to the fulfillment of the conditions hereinafter set forth:
15
(a) The Company shall have performed and complied with all of
the conditions and agreements required by this Agreement to be performed or
complied with by it prior to the Effective Time in all material respects.
(b) The Purchaser's shareholder shall have approved the Merger
in accordance with Delaware law. The approval of the Merger by the Company's
shareholders in accordance with Delaware law shall be in full force and effect.
(c) There shall have been no material change in the business,
properties or financial condition of the Company from such condition on the date
hereof.
(d) On the Closing Date (i) there shall be no injunction,
restraining order, or order of any nature issued by a court of competent
jurisdiction which directs that any transaction contemplated by this Agreement
shall not be consummated and (ii) there shall be no suit, action, investigation
or other proceeding pending or threatened by any governmental agency or private
party seeking to restrain or prohibit the consummation of any material
transaction contemplated hereby or the obtaining of any material amount of
damages from any party hereto or any officer or director of any such party, in
connection with the consummation of the transactions contemplated hereby.
(e) The Parent shall have consummated the IPO upon the terms
and provisions set forth in the Registration Statement.
(f) The Parent and the Purchaser shall have received a
certificate from an officer of the Company confirming the accuracy of each and
every representation and warranty of the Company and the fulfillment of each and
every condition of the Company herein.
(g) The Parent and the Purchaser shall have received the
opinion of Testa, Hurwitz & Thibeault, LLP, counsel to the Company, in form
reasonably satisfactory to the Parent and the Purchaser and their counsel,
confirming the accuracy of the representations and warranties of the Company and
the fulfillment of the conditions to closing on the part of the Company.
SECTION 6.02 Conditions to the Obligations of the Company. The
obligations of the Company are, at the Company's option, subject to the
fulfillment of the conditions hereinafter set forth.
(a) Purchaser and Parent shall have performed and complied
with all of the conditions and agreements required by this Agreement to be
performed or complied with by it prior to the Effective Time in all material
respects.
(b) The Purchaser's shareholder shall have approved the Merger
in accordance with Delaware law.
(c) The Parent shall have consummated the IPO.
16
(d) There shall have been no material adverse change in the
business, properties or financial condition of the Parent from such condition on
the date hereof.
(e) On the Closing Date (i) there shall be no injunction,
restraining order, or order of any nature issued by a court of competent
jurisdiction which directs that any transaction contemplated by this Agreement
shall not be consummated and (ii) there shall be no suit, action, investigation
or other proceeding pending or threatened by any governmental agency or private
party seeking to restrain or prohibit the consummation of any material
transaction contemplated hereby or the obtaining of any material amount of
damages from any party hereto or any officer or director of any such party, in
connection with the consummation of the transaction contemplated hereby.
(f) The Company shall have received a certificate from an
officer of the Purchaser and Parent confirming the accuracy of each and every
representation and warranty of the Purchaser and Parent and the fulfillment of
each and every condition of the Purchaser and Parent herein.
(g) The Company shall have received the opinion of Bizar
Martin & Taub, LLP, counsel to the Purchaser and Parent, in form reasonably
satisfactory to the Company and its counsel, confirming the accuracy of the
representations and warranties of the Company and the fulfillment of the
conditions to closing on the part of the Company.
ARTICLE VI
TERMINATION; AMENDMENT; WAIVER
SECTION 7.01 Termination. This Agreement may be terminated and
the Merger contemplated hereby may be abandoned at any time notwithstanding
approval thereof by the shareholders of the Purchaser and the Company, but prior
to the Effective Time:
(a) by mutual written consent of the Purchaser, the Company
and the Parent;
(b) by the Purchaser, the Company or the Parent if the
Effective Time shall not have occurred on or before November 30, 1998; provided,
however, that the right to terminate this Agreement under this Section 7.01(b)
shall not be available to any party whose failure to fulfill any obligation
under this Agreement has been the cause of, or resulted in, the failure of the
Effective Time to occur on or before such date;
(c) by the Purchaser, the Company or the Parent if any United
States or state governmental authority or other agency or commission or United
States or state court of competent jurisdiction shall have enacted, issued,
promulgated, enforced or entered any statute, rule, regulation, injunction or
other order which is in effect and is permanent and non-appealable and has the
effect of prohibiting consummation of the Merger or the provision of the
financing necessary for such transactions; or
17
(d) by the Purchaser: (i) if, prior to the Closing Date, the
Board of Directors of the Purchaser determines that it will not recommend
approval of the Merger by the stockholder of Purchaser (or if such
recommendation is withdrawn) or (ii) in the event of a breach by Company of any
material term or condition hereof.
Any unilateral termination of this Agreement permitted by this
Section 7.01 shall be effective upon the giving of the written notice by the
terminating party in the manner provided herein.
SECTION 7.02 Effect of Termination. In the event of the
termination and abandonment of this Agreement pursuant to Section 7.01 hereof,
this Agreement shall forthwith become void and have no effect, without any
liability on the part of any party or its directors, officers or shareholders.
Nothing contained in this Section 7.02 shall relieve any party from liability
for any breach of this Agreement; that with respect to breaches of this
Agreement the Purchaser shall not be responsible for, or have any liability in
respect of, any action or intended failure to act by the Company or the Company
Shareholders.
SECTION 7.03 Amendment. This Agreement may be amended by
action taken by all of the parties at any time before or after adoption of this
Agreement by the shareholders of the Purchaser and the Company, but, after any
such approval, no amendment shall be made which changes the amount or form of
consideration to be paid in the Merger or adversely affects the rights of the
shareholders of Purchaser and the Company hereunder without the approval of such
shareholders. It is acknowledged and agreed that an amendment which extends the
time by which the Effective Time must occur in order to obtain any required
third party or governmental consent or to comply with any judicial or
administrative ruling or order shall not be deemed to adversely affect such
rights. This Agreement may not be amended except by an instrument in writing
signed on behalf of the parties.
SECTION 7.04 Extension; Waiver. At any time prior to the
Effective Time, the parties may (i) extend the time for the performance of any
of the obligations or other acts of the other party hereto, (ii) waive any
inaccuracies in the representations and warranties contained herein or in any
document, certificate or writing delivered pursuant hereto or (iii) waive
compliance with any of the agreements or conditions contained herein. Any
agreements on the part of any party to any such extension or waiver shall be
valid only if set forth in an instrument in writing signed on behalf of such
party.
ARTICLE VIII
INDEMNIFICATION
SECTION 8.01 Indemnification. (a) Avi A. Fogel, the principal
stockholder of the Company, agrees to indemnify and defend Parent and Purchaser,
including their officers, directors, employees, agents and representatives, and
to hold such parties harmless from and against
18
any and all damages, claims, losses and expenses (including reasonable
attorneys' fees) up to a maximum of $150,000 arising from or relating to (i) any
misrepresentation or breach of any representation and warranty hereunder by
Company; or (ii) any breach of any of the Company's covenants under this
Agreement.
(b) Purchaser and Parent agree to indemnify and defend the
Company Shareholders and to hold the Company Shareholders harmless from and
against any and all damages, claims, losses and expenses (including reasonable
attorneys' fees) arising from or relating to (i) any misrepresentation or breach
of any representation and warranty hereunder by Parent or Purchaser; or (ii) any
breach of any of Parent's or Purchaser's covenants under this Agreement.
ARTICLE IX
MISCELLANEOUS
SECTION 9.01 Survival. The representations, warranties,
covenants and agreements made herein or in any certificate or document executed
in connection herewith shall survive the execution and delivery of this
Agreement.
SECTION 9.02 Brokerage Fees and Commissions. The Purchaser and
Parent hereby represent and warrant to the Company with respect to the Purchaser
and Parent, and the Company hereby represents and warrants to the Purchaser and
Parent with respect to the Company, that no person or entity is entitled to
receive from the Purchaser or Parent or the Company, respectively, any
investment banking, brokerage or finder's fee or fees for financial consulting
or advisory services in connection with this Agreement or the transactions
contemplated hereby.
SECTION 9.03 Expenses. Each party hereto shall pay its own
expenses incidental to the preparing for, entering into and carrying out of this
Agreement and to the consummation of the Merger, whether or not the Merger shall
be consummated, except that the Assumed Liabilities shall include $25,000 for
the Company's fees and expenses (legal and accounting) related to the
transactions contemplated herein.
SECTION 9.04 Entire Agreement; Assignment. This Agreement
(including any other agreements referred to herein) (a) constitutes the entire
agreement among the parties with respect to the subject matter hereof and
supersedes all other prior agreements and understandings, both written and oral,
between the parties with respect to the subject matter hereof and (b) shall not
be assigned by operation of law or otherwise, provided that the Purchaser may
assign its rights and obligations to Parent or any subsidiary of the Purchaser,
but no such assignment shall relieve the Purchaser of its obligations hereunder
if such assignee does not perform such obligations.
SECTION 9.05 Validity. The invalidity or unenforceability of
any provision of this Agreement shall not affect the validity or enforceability
of any other provision of this Agreement, which shall remain in full force and
effect.
19
SECTION 9.06 Notices. All notices, requests, claims, demands
and other communications hereunder shall be in writing and shall be given (and
shall be deemed to have been duly given upon receipt) by delivery in person, by
cable, telegram or telex, or by registered or certified mail (postage prepaid,
return receipt requested) to the respective parties as follows:
If to the Purchaser and/
or the Parent: Network-1 Security Solutions, Inc. and
Network-1 Acquisition Corp.
70 Walnut Street
Wellesley Hills, MA 02481
With a copy to: Bizar Martin & Taub, LLP
1350 Avenue of the Americas - 29th Floor
New York, New York 10019
Attn: Sam Schwartz, Esq.
If to the Company: CommHome Systems Corporation
22 Hollywood Drive
Chestnut Hill, MA 02167-3070
With a copy to: Testa, Hurwitz & Thiebult, LLP
High Street Tower
125 High Street
Boston, Massachusetts 02110
Attn: William J. Schnoor, Esq.
or to such other address as the person to whom notice is given may have
previously furnished to the others in writing in the manner set forth above.
SECTION 9.07 Governing Law. This Agreement shall be governed
by and construed in accordance with the laws of the Commonwealth of
Massachusetts as they are applied to contracts to be performed entirely within
such state, regardless of the laws that might otherwise govern under applicable
principles of conflicts of laws, provided, however, that the consummation and
effectiveness of the Merger shall be governed by and construed in accordance
with the laws of the State of Delaware.
SECTION 9.08 Descriptive Headings. The descriptive headings
herein are inserted for convenience of reference only and are not intended to be
part of or to affect the meaning or interpretation of this Agreement.
SECTION 9.09 Parties in Interest. This Agreement shall be
binding upon and inure solely to the benefit of each party hereto, and nothing
in this Agreement, express or implied, is intended to or shall confer upon any
other person any rights, benefits or remedies of any nature whatsoever under or
by reason of this Agreement.
20
SECTION 9.10 Counterparts. This Agreement may be executed in
two or more counterparts, each of which shall be an original, but all of which
shall constitute one and the same agreement.
SECTION 9.11 Specific Performance. The parties hereto agree
that irreparable damage would occur in the event any of the provisions of this
Agreement were not to be performed in accordance with the terms hereto and that
the parties shall be entitled to specific performance of the terms hereof, in
addition to any other remedy at law or equity.
IN WITNESS WHEREOF, the undersigned has executed this
Agreement and Plan of Merger as of the 11th day of September, 1998.
NETWORK-1 SECURITY SOLUTIONS, INC.
By: /s/ Murray P. Fish
-----------------------------------------------
Name: Murray P. Fish
Title: Chief Financial Officer
NETWORK-1 ACQUISITION CORP.
By: /s/ Murray P. Fish
-----------------------------------------------
Name: Murray P. Fish
Title: Vice President
COMMHOME SYSTEMS CORPORATION
By: /s/ Avi A. Fogel
-----------------------------------------------
Name: Avi A. Fogel
Title: President and Chief Executive Officer
AS TO PARAGRAPH 1.07(b):
/s/ Avi A. Fogel
- ----------------------------------
Avi A. Fogel, Noteholder
/s/ Robert P. Olsen
- ----------------------------------
Robert P. Olsen, Noteholder
21
SCHEDULE A
CommHome Systems Corp. Shareholders
Number of
CommHome Systems Dollar Value of Network-
Name, address and Social Corporation Shares 1 Shares to be Received
Security Number Held Based on IPO Price
- ---------------------------------- ---------------------- ------------------------------
Avi Fogel 660 $143,255.80
22 Hollywood Drive
Chestnut Hill, MA 02167-3070
Nachum Sadan 400 86,821.71
140 Carroll Drive
Carlisle, MA 01741
Russell L. Rivin 60 13,023.26
29 Walnut Street
Holliston, MA 01746
Robert Quinn 60 13,023.26
40 Silver Hill Road
Weston, MA 02193
David Chhoeum 50 10,852.71
26 Eisenhower Road
Peabody, MA 01960
Uri Guttman 60 13,023.26
79 Everett Street
Arlington, MA 02174
----- -------
1,290 280,000
SCHEDULE B
CommHome Systems Corporation
List of Assumed Indebtedness
Notes Payable:
Avi Fogel $55,000.00
Robert Olsen 50,000.00
Nachum Sadan 32,709.32*
Accounts Payable:
Alliance Business Center 1,762.78
Berlin, Hamilton & Dahman, LLP 1,768.60
Testa, Hurwitz & Thibeault, LLP 29,965.96
B&C Consulting Services 250.00
Reimbursement of Officer Expenses 1,828.25
Estimated Merger Expenses:
Accounting 10,000.00
Legal 15,000.00
-----------
Total $198,284.91
-----------
-----------
*Includes estimated interest, at a rate of 5.5% per annum, through an estimated
effective date of October 15, 1998.
COMPANY DISCLOSURE STATEMENT
----------------------------
[SEE ATTACHED FINANCIAL STATEMENTS]
COMMHOME SYSTEMS CORPORATION
(a development stage company)
FINANCIAL STATEMENTS
JUNE 30, 1998
[LETTERHEAD OF RICHARD A. EISNER & COMPANY, LLP]
[LOGO]
Board of Directors and Stockholders
CommHome Systems Corporation
Wellesley, Massachusetts
We have reviewed the accompanying balance sheet of CommHome Systems Corporation
(a development stage company) as of June 30, 1998, and the related statements of
operations, stockholders' deficiency, and cash flows for the six months then
ended and for the periods from June 18, 1997 (inception) through December 31,
1997 and June 18, 1997 (inception) through June 30, 1998, in accordance with
Statements on Standards for Accounting and Review Services issued by the
American Institute of Certified Public Accountants. All information included in
these financial statements is the representation of the management of CommHome
Systems Corporation.
A review consists principally of inquiries of company personnel and analytical
procedures applied to financial data. It is substantially less in scope than an
audit in accordance with generally accepted auditing standards, the objective of
which is the expression of an opinion regarding the financial statements taken
as a whole. Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to the accompanying financial statements in order for them to be in
conformity with generally accepted accounting principles.
/s/ Richard A. Eisner & Company, LLP
New York, New York
August 25, 1998
COMMHOME SYSTEMS CORPORATION
(a development stage company)
BALANCE SHEET
JUNE 30, 1998
ASSETS
Current assets:
Cash $ 795
Security deposit 437
---------
$ 1,232
=========
LIABILITIES
Current liabilities:
Accounts payable $ 23,893
Accrued expenses and other current liabilities 28,000
Loan payable - stockholders 85,000
Loan payable - other 50,000
Interest payable - stockholder 2,400
Due to Network-1 Security Solutions, Inc. 770
---------
Total current liabilities 190,063
---------
Commitments and contingencies
STOCKHOLDERS' DEFICIENCY
Preferred stock - $.01 par value; authorized
1,000 shares; no shares issued and outstanding
Common stock - $.01 par value; authorized 2,000 shares;
1,290 shares issued and outstanding 13
Additional paid-in capital 17
Deficit accumulated during the development stage (188,861)
---------
(188,831)
---------
$ 1,232
=========
COMMHOME SYSTEMS CORPORATION
(a development stage company)
STATEMENTS OF OPERATIONS
JUNE 18, JUNE 18,
1997 1997
(INCEPTION) SIX MONTHS (INCEPTION)
THROUGH ENDED THROUGH
DECEMBER 31, JUNE 30, JUNE 30,
1997 1998 1998
--------- -------- ---------
EXPENSES:
Research and development $ 26,901 $ 2,070 $ 28,971
Marketing 51,946 4,344 56,290
General and administrative 64,334 30,824 95,158
--------- -------- --------
Total expenses 143,181 37,238 180,419
Interest expense - net 1,317 900 2,217
Other expense 6,225 6,225
--------- -------- --------
NET LOSS $(144,498) $(44,363) $(188,861)
========= ======== =========
SEE ACCOUNTANTS' REVIEW REPORT AND NOTES TO FINANCIAL STATEMENTS
COMMHOME SYSTEMS CORPORATION
(a development stage company)
STATEMENTS OF STOCKHOLDERS' DEFICIENCY
DEFICIT
ACCUMULATED
COMMON STOCK ADDITIONAL DURING THE
---------------------- PAID-IN DEVELOPMENT
SHARES AMOUNT CAPITAL STAGE TOTAL
------ ------ ------- ------------ -------
Issuance of common stock for cash on
July 31, 1997 ($.01 per share) 1,120 $ 11 $ 11
Issuance of common stock for cash in
December 1997 ($.05 per share) 430 4 $ 17 21
Repurchase of common shares in December 1997
($.01 per share) (260) (2) (2)
Net loss from June 18, 1997 (inception)
to December 31, 1997 $(144,498) (144,498)
------ ----- ----- --------- ---------
BALANCE - DECEMBER 31, 1997 1,290 13 17 (144,498) (144,468)
Net loss for the six months ended June 30, 1998 (44,363 (44,363)
------ ----- ----- --------- ---------
BALANCE - JUNE 30, 1998 1,290 $ 13 $ 17 $(188,861) $(188,831)
====== ===== ===== ========= =========
SEE ACCOUNTANTS' REVIEW REPORT AND NOTES TO FINANCIAL STATEMENTS
COMMHOME SYSTEMS CORPORATION
(a development stage company)
STATEMENTS OF CASH FLOWS
JUNE 18, JUNE 18,
1997 1997
(INCEPTION) SIX MONTHS (INCEPTION)
THROUGH ENDED THROUGH
DECEMBER 31, JUNE 30, JUNE 30,
1997 1998 1998
--------- --------- ---------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $(144,498) $ (44,363) $ (188,861)
Adjustments to reconcile net loss to
net cash used in operating activities:
Depreciation 1,900 1,900 3,800
Realized loss on disposal of
computer equipment 6,225 6,225
Changes in:
Due to Network-1 770 770
Accounts payable, accrued
expenses and other current
liabilities 65,121 (10,828) 54,293
--------- --------- ---------
Net cash used in operating
activities (77,477) (46,296) (123,773)
--------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of computer equipment (10,025) (10,025)
Security deposit (2,200) 1,763 (437)
--------- --------- ---------
Net cash provided by (used in)
investing activities (12,225) 1,763 (10,462)
--------- --------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of notes payable 150,000 5,000 155,000
Repayment of notes payable (10,000) (10,000) (20,000)
Net proceeds from sale of common stock 30 30
--------- --------- ---------
Net cash provided by (used in)
financing activities 140,030 (5,000) 135,030
--------- --------- ---------
NET INCREASE (DECREASE) IN CASH 50,328 (49,533) 795
Cash - beginning of period 0 50,328 0
--------- --------- ---------
CASH - END OF PERIOD $ 50,328 $ 795 $ 795
========= ========= =========
SEE ACCOUNTANTS' REVIEW REPORT AND NOTES TO FINANCIAL STATEMENTS
COMMHOME SYSTEMS CORPORATION
(a development stage company)
Notes to Financial Statements
June 30, 1998
NOTE A - THE COMPANY AND BASIS OF PRESENTATION
CommHome Systems Corporation (the "Company") is a development stage company
engaged in the design and development of residential networking solutions for
high speed internet access to the home.
The accompanying financial statements have been prepared on a going concern
basis. As reflected in the accompanying financial statements, the Company has
incurred substantial losses since inception and such losses are expected to
continue. As of June 30, 1998 the Company had a working capital deficiency and
a stockholders' deficiency of approximately $189,000. The Company intends to
merge with a wholly owned subsidiary of Network-1 Security Solutions, Inc.
("Network-1") effective upon the consummation of an initial public offering by
such entity. The Company's majority stockholder and chief executive officer is
the chief executive officer and a director of Network-1. Network-1, which filed
a registration statement with the Securities and Exchange Commission on July 22,
1998, develops, markets, licenses and supports its proprietary network security
software products designed to provide comprehensive security to computer
networks. There is no assurance, however, that the merger will take place. The
above factors give rise to substantial doubt as to the ability of the Company to
continue as a going concern. The financial statements do not include any
adjustments that might result from the outcome of this uncertainty.
NOTE B - SIGNIFICANT ACCOUNTING POLICIES
(1) CASH EQUIVALENTS:
The Company considers all highly liquid short-term investments purchased
with a maturity of three months or less to be cash equivalents.
(2) SOFTWARE DEVELOPMENT COSTS:
Research and development costs incurred to establish the technological
feasibility of computer software are expensed as incurred.
(3) USE OF ESTIMATES:
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those
estimates.
COMMHOME SYSTEMS CORPORATION
(a development stage company)
Notes to Financial Statements
June 30, 1998
NOTE C - LOANS PAYABLE
One loan for $30,000 at June 30, 1998 bears interest at 5.5% per annum, the
other two loans are noninterest bearing. All the loans are due upon receipt by
the Company of proceeds of equity or debt financing. Interest expense to
stockholder for the period from June 18, 1997 through December 31, 1997 and for
the six months ended June 30, 1998 amounted to $1,500 and $900, respectively.
NOTE D - INCOME TAXES
At June 30, 1998, the Company has a deferred tax asset of $70,000 comprised of
net operating loss carryforwards available to reduce future federal taxable
income of approximately $175,000 expiring through 2018. Pursuant to the
Internal Revenue Code, future utilization of past losses are subject to certain
limitations based on changes in ownership of the Company's stock. The Company
has reserved the full amount of its deferred tax asset as the likelihood of
future realization cannot be presently determined.
PURCHASER DISCLOSURE STATEMENT
NOT APPLICABLE
PARENT DISCLOSURE STATEMENT
[See Attached Financial Statements]
NETWORK-1 SECURITY SOLUTIONS, INC.
PAGE
-----
INDEX TO FINANCIAL STATEMENTS
Independent auditors' report............................................................................. F-2
Balance sheets as of December 31, 1996 and 1997 and June 30, 1998 (unaudited)............................ F-3
Statements of operations for the years ended December 31, 1996 and 1997 and for the six months ended June
30, 1997 and 1998 (unaudited).......................................................................... F-4
Statements of stockholders' equity (deficiency) for the years ended December 31, 1996 and 1997 and for
the six months ended June 30, 1998 (unaudited)......................................................... F-5
Statements of cash flows for the years ended December 31, 1996 and 1997 and for the six months ended June
30, 1997 and 1998 (unaudited).......................................................................... F-6
Notes to financial statements............................................................................ F-7
F-1
INDEPENDENT AUDITORS' REPORT
Board of Directors and Stockholders
Network-1 Security Solutions, Inc.
Wellesley, Massachusetts
We have audited the accompanying balance sheets of Network-1 Security
Solutions, Inc. (the "Company") as of December 31, 1996 and 1997 and the related
statements of operations, stockholders' equity (deficiency) and cash flows for
each of the years then ended. These financial statements are the responsibility
of the Company's management. Our responsibility is to express an opinion on
these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements enumerated above present fairly, in
all material respects, the financial position of Network-1 Security Solutions,
Inc. as of December 31, 1996 and 1997 and the results of its operations and its
cash flows for each of the years then ended in conformity with generally
accepted accounting principles.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note A to the
financial statements, the Company has incurred substantial losses from
operations, and as of December 31, 1997 has a working capital deficiency of
$661,000 and a stockholders' deficiency of $75,000. These factors raise
substantial doubt about the Company's ability to continue as a going concern.
Management's plans in regard to these matters are also described in Note A. The
financial statements do not include any adjustments that might result from the
outcome of this uncertainty.
Richard A. Eisner & Company, LLP
New York, New York
June 17, 1998
With respect to Note F[3]
July 8, 1998
With respect to the third paragraph of Note A
July 17, 1998
With respect to Note J
September 11, 1998
F-2
NETWORK-1 SECURITY SOLUTIONS, INC.
BALANCE SHEETS
DECEMBER 31,
-------------------------- JUNE 30,
1996 1997 1998
------------ ------------ ------------
(UNAUDITED)
ASSETS
Current assets:
Cash and cash equivalents............................................. $ 217,000 $ 60,000 $ 634,000
Accounts receivable--net of allowance for doubtful accounts of $5,000,
$70,000 and $88,000, respectively................................... 191,000 435,000 609,000
Prepaid expenses and other current assets............................. 30,000 30,000 35,000
------------ ------------ ------------
Total current assets............................................ 438,000 525,000 1,278,000
Equipment and fixtures................................................ 518,000 400,000 323,000
Capitalized software costs--net....................................... 729,000 1,258,000 1,042,000
Security deposits..................................................... 193,000 131,000 136,000
Deferred offering costs............................................... 90,000 350,000
------------ ------------ ------------
$ 1,878,000 $ 2,404,000 $ 3,129,000
------------ ------------ ------------
------------ ------------ ------------
LIABILITIES
Current liabilities:
Accounts payable...................................................... $ 275,000 $ 776,000 $ 598,000
Accrued fee--related party............................................ 138,000
Accrued expenses and other current liabilities........................ 155,000 201,000 302,000
Notes payable--related parties, net of discount....................... 1,610,000
Notes payable--others, net of discount................................ 972,000
Interest payable--related parties..................................... 72,000
Interest payable--other............................................... 61,000
Current portion of capital lease obligations.......................... 24,000 8,000
Deferred revenue...................................................... 25,000 63,000 92,000
------------ ------------ ------------
Total current liabilities....................................... 479,000 1,186,000 3,707,000
Capital lease obligations--less current portion......................... 8,000
Notes payable--related parties, net of discount......................... 564,000
Notes payable--others, net of discount.................................. 670,000
Interest payable--related parties....................................... 24,000
Interest payable--others................................................ 35,000
------------ ------------ ------------
487,000 2,479,000 3,707,000
------------ ------------ ------------
Commitments and contingencies
STOCKHOLDERS' EQUITY (DEFICIENCY)
Preferred stock--$.01 par value; authorized 5,000,000 shares; Series
A--10% cumulative, none issued and outstanding
Series B--500,000 shares issued and outstanding....................... 5,000 5,000 5,000
Common stock--$.01 par value; authorized 25,000,000 shares; 2,004,951,
1,706,037 and 1,678,104 shares issued and outstanding................. 20,000 17,000 17,000
Additional paid-in capital.............................................. 6,446,000 7,373,000 9,432,000
Accumulated deficit..................................................... (5,080,000) (7,470,000) (9,460,000)
Unearned portion of compensatory stock options.......................... (572,000)
------------ ------------ ------------
1,391,000 (75,000) (578,000)
------------ ------------ ------------
$ 1,878,000 $ 2,404,000 $ 3,129,000
------------ ------------ ------------
------------ ------------ ------------
See notes to financial statements
F-3
NETWORK-1 SECURITY SOLUTIONS, INC.
STATEMENTS OF OPERATIONS
YEAR ENDED SIX MONTHS ENDED
DECEMBER 31, JUNE 30,
---------------------- ----------------------
1996 1997 1997 1998
---------- ---------- ---------- ----------
(UNAUDITED)
Revenues:
Licenses................................. $ 624,000 $1,132,000 $ 506,000 $ 412,000
Royalties................................ 500,000 500,000
Services................................. 403,000 737,000 421,000 490,000
---------- ---------- ---------- ----------
Total revenues......................... 1,027,000 2,369,000 1,427,000 902,000
---------- ---------- ---------- ----------
Cost of revenues:
Amortization of software development
costs.................................. 246,000 321,000 125,000 267,000
Cost of licenses......................... 193,000 176,000 52,000 128,000
Cost of services......................... 390,000 418,000 212,000 272,000
---------- ---------- ---------- ----------
Total cost of revenues................. 829,000 915,000 389,000 667,000
---------- ---------- ---------- ----------
Gross profit............................... 198,000 1,454,000 1,038,000 235,000
---------- ---------- ---------- ----------
Operating expenses:
Product development...................... 892,000 792,000 235,000 283,000
Selling and marketing.................... 1,614,000 926,000 524,000 351,000
General and administrative............... 1,931,000 1,573,000 919,000 1,153,000
---------- ---------- ---------- ----------
Total operating expenses............... 4,437,000 3,291,000 1,678,000 1,787,000
---------- ---------- ---------- ----------
Loss from operations....................... (4,239,000) (1,837,000) (640,000) (1,552,000)
Interest expense, including amortization of
debt discount............................ (260,000) (553,000) (141,000) (438,000)
---------- ---------- ---------- ----------
Net loss................................... $(4,499,000) $(2,390,000) $ (781,000) $(1,990,000)
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
Loss per share--basic and diluted.......... $ (2.46) $ (1.29) $ (.40) $ (1.17)
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
Weighted average number of shares
outstanding--basic and diluted........... 1,825,163 1,855,244 1,934,334 1,699,120
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
See notes to financial statements
F-4
NETWORK-1 SECURITY SOLUTIONS, INC.
STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIENCY)
COMMON STOCK PREFERRED STOCK ADDITIONAL
--------------------- -------------------- PAID-IN ACCUMULATED
SHARES AMOUNT SHARES AMOUNT CAPITAL DEFICIT
---------- --------- --------- --------- ----------- ------------
BALANCE--DECEMBER 31, 1995...................... 1,164,133 $ 12,000 750,000 $ 7,000 $ 1,146,000 $ (581,000)
Issuance of common stock for cash--net.......... 698,397 7,000 4,141,000
Issuance of common stock and warrants for
services rendered............................. 18,262 683,000
Conversion of notes payable into common stock... 108,639 1,000 699,000
Redemption of preferred stock................... (250,000) (2,000) (248,000)
Exercise of warrants............................ 15,520 25,000
Net loss........................................ (4,499,000)
---------- --------- --------- --------- ----------- ------------
BALANCE--DECEMBER 31, 1996...................... 2,004,951 20,000 500,000 5,000 6,446,000 (5,080,000)
Issuance of common stock and warrants for
services rendered............................. 2,794 163,000
Warrants issued in connection with debt
financing..................................... 766,000
Repurchase and retirement of common shares...... (301,708) (3,000) (2,000)
Net loss........................................ (2,390,000)
---------- --------- --------- --------- ----------- ------------
BALANCE--DECEMBER 31, 1997...................... 1,706,037 17,000 500,000 5,000 7,373,000 (7,470,000)
Common stock options issued to Chief Executive
Officer....................................... 938,000
Amortization of compensatory stock options......
Issuance of common stock, warrants and options
for services rendered and payment of
liability..................................... 34,147 356,000
Warrants issued in connection with debt
financing..................................... 766,000
Repurchase and retirement of common shares...... (62,080) (1,000)
Net loss........................................ (1,990,000)
---------- --------- --------- --------- ----------- ------------
BALANCE--JUNE 30, 1998 (UNAUDITED).............. 1,678,104 $ 17,000 500,000 $ 5,000 $ 9,432,000 $(9,460,000)
---------- --------- --------- --------- ----------- ------------
---------- --------- --------- --------- ----------- ------------
UNEARNED
PORTION OF
COMPENSATORY
STOCK OPTIONS TOTAL
------------- -----------
BALANCE--DECEMBER 31, 1995...................... $ 584,000
Issuance of common stock for cash--net.......... 4,148,000
Issuance of common stock and warrants for
services rendered............................. 683,000
Conversion of notes payable into common stock... 700,000
Redemption of preferred stock................... (250,000)
Exercise of warrants............................ 25,000
Net loss........................................ (4,499,000)
------------- -----------
BALANCE--DECEMBER 31, 1996...................... 1,391,000
Issuance of common stock and warrants for
services rendered............................. 163,000
Warrants issued in connection with debt
financing..................................... 766,000
Repurchase and retirement of common shares...... (5,000)
Net loss........................................ (2,390,000)
------------- -----------
BALANCE--DECEMBER 31, 1997...................... (75,000)
Common stock options issued to Chief Executive
Officer....................................... $ (938,000)
Amortization of compensatory stock options...... 366,000 366,000
Issuance of common stock, warrants and options
for services rendered and payment of
liability..................................... 356,000
Warrants issued in connection with debt
financing..................................... 766,000
Repurchase and retirement of common shares...... (1,000)
Net loss........................................ (1,990,000)
------------- -----------
BALANCE--JUNE 30, 1998 (UNAUDITED).............. $ (572,000) $ (578,000)
------------- -----------
------------- -----------
See notes to financial statements
F-5
NETWORK-1 SECURITY SOLUTIONS, INC.
STATEMENTS OF CASH FLOWS
SIX MONTHS ENDED
DECEMBER 31, JUNE 30,
-------------------------- ------------------------
1996 1997 1997 1998
------------ ------------ ---------- ------------
(UNAUDITED)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss................................................ $ (4,499,000) $ (2,390,000) $ (781,000) $ (1,990,000)
Adjustments to reconcile net loss to net cash used in
operating activities:
Amortization of debt discount......................... 306,000 500,000 128,000 364,000
Issuance of common stock and warrants for services
rendered............................................ 683,000 163,000 95,000 583,000
Provision for doubtful accounts....................... (15,000) 65,000 36,000 18,000
Depreciation and amortization......................... 368,000 481,000 200,000 346,000
Changes in:
Accounts receivable................................. 131,000 (309,000) (330,000) (192,000)
Prepaid expenses and other current assets........... (15,000) (5,000)
Accounts payable, accrued expenses and other current
liabilities....................................... 196,000 744,000 147,000 (1,000)
Deferred revenue.................................... 25,000 38,000 (3,000) 29,000
------------ ------------ ---------- ------------
Net cash used in operating activities............. (2,820,000) (708,000) (508,000) (848,000)
------------ ------------ ---------- ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisitions of equipment and fixtures.................. (235,000) (42,000) (32,000) (3,000)
Capitalized software costs.............................. (750,000) (850,000) (506,000) (50,000)
Security deposit........................................ (164,000) 62,000 64,000 (5,000)
------------ ------------ ---------- ------------
Net cash used in investing activities............. (1,149,000) (830,000) (474,000) (58,000)
------------ ------------ ---------- ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of notes payable and warrants.... 700,000 1,550,000 1,000,000 1,750,000
Repayment of notes payable.............................. (400,000) (50,000)
Proceeds from exercise of options and warrants.......... 25,000
Net proceeds from sale of common stock.................. 4,148,000
Repayment of capital lease obligations.................. (23,000) (24,000) (8,000)
Purchase of treasury shares............................. (5,000) (1,000) (1,000)
Repayment of line of credit............................. (62,000)
Repayment of stockholder's loan......................... (48,000)
Redemption of preferred stock........................... (250,000)
Deferred offering costs................................. (90,000) (25,000) (261,000)
------------ ------------ ---------- ------------
Net cash provided by financing activities......... 4,090,000 1,381,000 974,000 1,480,000
------------ ------------ ---------- ------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS...... 121,000 (157,000) (8,000) 574,000
Cash and cash equivalents--beginning of period............ 96,000 217,000 217,000 60,000
------------ ------------ ---------- ------------
CASH AND CASH EQUIVALENTS--END OF PERIOD.................. $ 217,000 $ 60,000 $ 209,000 $ 634,000
------------ ------------ ---------- ------------
------------ ------------ ---------- ------------
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the period for:
Interest.............................................. $ 32,000 $ 1,000
Noncash transaction:
Issuance of stock in connection with repayment of
debt................................................ $ 700,000
See notes to financial statements
F-6
NETWORK-1 SECURITY SOLUTIONS, INC.
NOTES TO FINANCIAL STATEMENTS
(UNAUDITED WITH RESPECT TO DATA AS OF JUNE 30, 1998 AND FOR
THE SIX-MONTH PERIODS ENDED JUNE 30, 1997 AND 1998)
NOTE A--THE COMPANY AND BASIS OF PRESENTATION
Network-1 Security Solutions, Inc. (the "Company"), formerly known as
Network-1 Software & Technology, Inc., develops, markets, licenses and supports
its proprietary network security software products designed to provide
comprehensive security to computer networks. The Company also provides
maintenance and network consulting and training services.
The accompanying financial statements have been prepared on a going concern
basis. As reflected in the accompanying financial statements, the Company has
incurred substantial losses from operations and as of December 31, 1997 has a
working capital deficiency of $661,000 and a stockholders' deficiency of
$75,000. Subsequent to December 31, 1997 through May 14, 1998, the Company
received $1,750,000 in short-term debt financing, a significant portion of which
was from principal stockholders of the Company. However, the Company will
require additional financing to satisfy its obligations and fund its operations
through December 31, 1998. Also, in May 1998, the Company signed a letter of
intent with an underwriter for the sale of its securities in an initial public
offering (the "Offering"). There is no assurance, however, that the Offering
will be consummated or that the Company will be able to obtain alternative
financing. As of June 30, 1998, the Company's working capital deficiency
increased to $2,429,000 and its stockholders' deficiency increased to $578,000.
The above factors give rise to substantial doubt as to the ability of the
Company to continue as a going concern. The financial statements do not include
any adjustments that might result from the outcome of this uncertainty.
On July 17, 1998, the stockholders approved a 1:1.610831 reverse split of
the outstanding shares of the Company's common stock. The accompanying financial
statements have been retroactively adjusted to reflect the split and all
references to numbers of common shares, options, warrants and per share amounts
have been restated to give effect to the split.
NOTE B--SIGNIFICANT ACCOUNTING POLICIES
[1] CASH EQUIVALENTS:
The Company considers all highly liquid short-term investments purchased with
a maturity of three months or less to be cash equivalents.
[2] REVENUE RECOGNITION:
In October 1997, the AICPA issued Statement of Position ("SOP") No. 97-2,
"Software Revenue Recognition," which the Company adopted, effective January
1, 1997. Such adoption had no effect on the Company's methods of recognizing
revenue from its license and service activities. Prior to 1997, the
Company's revenue recognition policy was in accordance with SOP No. 91-1,
"Software Revenue Recognition."
License revenue is recognized upon delivery of software or delivery of a
required software key. Service revenues consist of maintenance, consulting
and training services. Annual renewable maintenance fees are a separate
component of each contract, and are recognized ratably over the contract
term. Consulting and training revenues are recognized as such services are
performed.
F-7
NETWORK-1 SECURITY SOLUTIONS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED WITH RESPECT TO DATA AS OF JUNE 30, 1998 AND FOR
THE SIX-MONTH PERIODS ENDED JUNE 30, 1997 AND 1998)
NOTE B--SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
[3] EQUIPMENT AND FIXTURES:
Equipment and fixtures are stated at cost and are depreciated using the
straight-line method over their estimated useful lives of five years.
[4] SOFTWARE DEVELOPMENT COSTS:
Costs to maintain developed programs and development costs incurred to
establish the technological feasibility of computer software are expensed as
incurred. The Company capitalizes costs incurred in producing computer
software after technological feasibility of the software has been
established. Such costs are amortized based on current and estimated future
revenue of each product with an annual minimum equal to the straight-line
amortization over the remaining estimated economic life of the product. The
Company estimates the economic life of its software to be three years. At
each balance sheet date, the unamortized capitalized software costs of each
product are compared with the net realizable value of that product and any
excess capitalized costs are written off.
[5] INCOME TAXES:
The Company utilizes the liability method of accounting for income taxes.
Under such method, deferred tax assets and liabilities are recognized for
the future tax consequences attributable to differences between the
financial statement carrying amounts of existing assets and liabilities and
their respective tax bases. Deferred tax assets and liabilities are measured
using enacted tax rates in effect at the balance sheet date. The resulting
asset or liability is adjusted to reflect enacted changes in tax law.
[6] LOSS PER SHARE:
During 1997, the Company adopted Statement of Financial Accounting Standards
No. 128, "Earnings Per Share" ("SFAS No. 128"). SFAS No. 128 requires the
reporting of basic and diluted earnings/loss per share. Basic loss per share
is calculated by dividing net loss by the weighted average number of
outstanding common shares during the year. Diluted per share data includes
the dilutive effects of options, warrants and convertible securities. As all
potential common shares are anti-dilutive, they are not included in the
calculation of diluted loss per share. Loss per share for 1996 has been
presented to conform to SFAS No. 128.
[7] USE OF ESTIMATES:
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements
and the reported amounts of revenues and expenses during the reporting
period. Actual results could differ from those estimates.
[8] FINANCIAL INSTRUMENTS:
The carrying amounts of accounts receivable, accounts payable, accrued
expenses, capitalized lease obligations and notes payable approximate their
fair value as the interest rates on the Company's
F-8
NETWORK-1 SECURITY SOLUTIONS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED WITH RESPECT TO DATA AS OF JUNE 30, 1998 AND FOR
THE SIX-MONTH PERIODS ENDED JUNE 30, 1997 AND 1998)
NOTE B--SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
indebtedness approximate current market rates and due to the short period to
maturity of these instruments.
[9] STOCK-BASED COMPENSATION:
In October 1995, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 123 ("SFAS No. 123"), "Accounting for
Stock-Based Compensation". SFAS No. 123 encourages, but does not require,
companies to record compensation cost for stock-based employee compensation
plans at fair value. The Company has elected to continue to account for its
employee stock-based compensation plans using the intrinsic value method
prescribed by Accounting Principles Board Opinion No. 25 ("APB No. 25"),
Accounting for Stock Issued to Employees" and to disclose the pro forma
effect on net loss per share had the fair value of options been expensed.
Under the provisions of APB No. 25, compensation cost for stock options is
measured as the excess, if any, of the estimated market value of the
Company's common stock at the date of the grant over the amount an employee
must pay to acquire the stock.
[10] INTERIM FINANCIAL STATEMENTS:
The accompanying balance sheet as of June 30, 1998, the statement of changes
in stockholders' equity for the six-month period then ended and the
statements of operations and cash flows for the six-month periods ended June
30, 1997 and 1998 are unaudited. In the opinion of management, all
adjustments (consisting only of normal recurring accruals) considered
necessary for a fair presentation have been included. The results of
operations for the six-month period ended June 30, 1998 are not necessarily
indicative of the results to be expected for the year ended December 31,
1998.
NOTE C--EQUIPMENT AND FIXTURES
Equipment and fixtures are summarized as follows:
DECEMBER 31,
-------------------- JUNE 30,
1996 1997 1998
--------- --------- -----------
(UNAUDITED)
Office and computer equipment.............. $ 669,000 $ 661,000 $ 664,000
Furniture and fixtures..................... 59,000 59,000 59,000
Leasehold improvements..................... 46,000 46,000 46,000
--------- --------- -----------
774,000 766,000 769,000
Less accumulated depreciation.............. (256,000) (366,000) (446,000)
--------- --------- -----------
$ 518,000 $ 400,000 $ 323,000
--------- --------- -----------
--------- --------- -----------
F-9
NETWORK-1 SECURITY SOLUTIONS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED WITH RESPECT TO DATA AS OF JUNE 30, 1998 AND FOR
THE SIX-MONTH PERIODS ENDED JUNE 30, 1997 AND 1998)
NOTE D--CAPITALIZED SOFTWARE COSTS
SIX
YEAR ENDED MONTHS
DECEMBER 31, ENDED
------------------------- JUNE 30,
1996 1997 1998
----------- ------------ ------------
(UNAUDITED)
Balance, beginning of period (net of accumulated amortization)........... $ 225,000 $ 729,000 $ 1,258,000
Additions................................................................ 750,000 850,000 50,000
Amortization............................................................. (246,000) (321,000) (266,000)
----------- ------------ ------------
Balance, end of period (net of accumulated amortization)................. $ 729,000 $ 1,258,000 $ 1,042,000
----------- ------------ ------------
----------- ------------ ------------
NOTE E--NOTES PAYABLE
Notes payable is summarized as follows:
DECEMBER 31, JUNE 30,
1997 1998
------------ ------------
Notes payable on the earlier of a) January 1, 1999 b) the date
upon which the Company receives $6,000,000 net proceeds of
equity or debt financing from one or a series of transactions
c) a sale of all of the Company's assets or d) a merger or
consolidation of the Company:
Notes bearing interest at 6%, including $250,000 payable to a
related party (1).......................................... $ 650,000 $ 650,000
Notes bearing interest at 6% (2)............................. 350,000 350,000
Note bearing interest at 8%, payable to a related party
(3)........................................................ 100,000 100,000
Notes bearing interest at 8%, payable to related parties
(4)........................................................ 400,000 400,000
Notes payable (including $1,400,000 to related parties) on the
earlier of a) twelve months from issuance b) the date upon
which the Company receives $6,000,000 net proceeds of equity
or debt financing from one or a series of transactions c) a
sale of all of the Company's assets or d) a merger or
consolidation of the Company; bearing interest at 8% (5)..... 1,750,000
------------ ------------
1,500,000 3,250,000
Less unamortized debt discount................................... (266,000) (668,000)
------------ ------------
$1,234,000 $ 2,582,000
------------ ------------
------------ ------------
F-10
NETWORK-1 SECURITY SOLUTIONS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED WITH RESPECT TO DATA AS OF JUNE 30, 1998 AND FOR
THE SIX-MONTH PERIODS ENDED JUNE 30, 1997 AND 1998)
NOTE E--NOTES PAYABLE (CONTINUED)
- ------------------------
(1) In connection with the issuance of the notes, including $250,000 issued to
an entity which is a principal stockholder of the Company, the Company
issued ten-year warrants valued at $290,000 to purchase 90,791 shares of the
Company's common stock at an exercise price of $6.44 per share, increasing
the effective interest rate on the notes to 91%.
(2) In connection with the issuance of the notes, the Company issued ten-year
warrants valued at $159,000 to purchase 48,888 shares of the Company's
common stock at an exercise price of $6.44 per share, increasing the
effective interest rate to 94%.
(3) In connection with the issuance of the note to a corporation wholly owned by
the Chairman of the Board and a principal stockholder of the Company, the
Company agreed to reduce the exercise price of previously issued warrants to
the noteholder from $6.44 per share (31,040 shares) and $8.05 per share
(31,040 shares) to $3.22 per share (see Note G[5]). In addition, the Company
agreed to reduce the exercise price of warrants to purchase 124,159 shares
of common stock at an exercise price of $3.22 per share previously issued to
the noteholder to $1.61 per share. The Company valued the modified warrants
at $45,000 in excess of the value ascribed to the original warrants,
increasing the effective interest rate to 96%. The warrants exercisable at
$3.22 per share were further reduced to $1.61 per share in connection with
the issuance in November 1997 of a note for $50,000 to the same corporation
referred to above which was repaid in December 1997. This modification was
valued at $22,000 in excess of the value ascribed to the warrants as
previously modified.
(4) In connection with the issuance of the notes to an entity which is a
principal stockholder of the Company and to the corporation referred to in
(3) above, the Company issued ten-year warrants valued at $168,000 to
purchase 70,949 shares of the Company's common stock at an exercise price of
$4.83 per share, increasing the effective interest rate to 86%.
(5) The Company issued notes for $400,000, $100,000 and $1,250,000 on March 2,
1998, April 24, 1998 and May 14, 1998, respectively. In connection with the
issuance of the notes, $1,400,000 of which are payable to the Chairman of
the Board and the entities referred to in (4) above, the Company issued
ten-year warrants valued at $766,000 to purchase 325,919 shares of the
Company's common stock at an exercise price of $4.83 per share, increasing
the effective interest rate to 92%.
The proceeds from the issuance of the notes were allocated to the debt and
the warrants based on their estimated fair values. The Company estimated the
fair value of these warrants using the Black-Scholes pricing model and has
accounted for this amount as a debt discount to be amortized over the life of
the debt.
Interest expense for the years ended December 31, 1996, 1997 and for the six
months ended June 30, 1997 and 1998 includes $325,000, $267,000, $44,000 and
$323,000, respectively, of interest and amortization of debt discount on notes
to related parties.
F-11
NETWORK-1 SECURITY SOLUTIONS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED WITH RESPECT TO DATA AS OF JUNE 30, 1998 AND FOR
THE SIX-MONTH PERIODS ENDED JUNE 30, 1997 AND 1998)
NOTE F--STOCKHOLDERS' EQUITY
[1] PREFERRED STOCK:
The Company has outstanding 500,000 shares of Series B convertible preferred
stock. Such stock is convertible on a 1.610831-to-1 basis into common shares
and automatically converts into common shares upon the completion of an
initial public offering of the Company's securities which results in gross
proceeds to the Company of a minimum of $4,000,000. The preferred stock has
identical voting rights as the Company's common stock and has a liquidation
preference of $1.00 per share.
[2] STOCK OPTIONS AND WARRANTS:
During 1996, the Board of Directors and stockholders approved the adoption of
the 1996 Stock Option Plan (the "1996 Plan"). The 1996 Plan, as amended,
provides for the granting of both incentive and non-qualified options to
purchase up to 750,000 shares of common stock of the Company.
The term of options granted under the 1996 Plan may not exceed ten years
(five years in the case of an incentive stock option granted to an optionee
owning more than 10% of the voting stock of the Company). The option price
for incentive stock options can not be less than 100% of the fair market
value of the shares of common stock at the time the option is granted (110%
for a 10% stockholder). The exercise price for non-qualified options is set
by the Compensation Committee in its discretion.
The following table summarizes the activity under the 1996 Plan:
YEAR ENDED DECEMBER 31,
----------------------------------------------
SIX MONTHS ENDED
1996 1997 JUNE 30, 1998
---------------------- ---------------------- -----------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
EXERCISE EXERCISE EXERCISE
SHARES PRICE SHARES PRICE SHARES PRICE
--------- ----------- --------- ----------- ---------- -----------
Options outstanding at beginning of period......... 104,139 $ 6.44 184,687 $ 5.72
Granted............................................ 107,398 $ 6.44 159,700 $ 5.54 399,832 $ 5.70
Cancelled.......................................... (3,259) $ 6.44 (79,152) $ 6.30 (135,644) $ 5.60
--------- --------- ----------
Options outstanding at end of period............... 104,139 $ 6.44 184,687 $ 5.72 448,875 $ 5.74
--------- --------- ----------
--------- --------- ----------
Options exercisable at end of period............... 82,256 $ 6.44 184,687 $ 5.72 256,761 $ 5.33
--------- --------- ----------
--------- --------- ----------
The following table presents information relating to stock options
outstanding at December 31, 1997:
OPTIONS OUTSTANDING AND EXERCISABLE
- -----------------------------------
WEIGHTED
WEIGHTED AVERAGE
AVERAGE REMAINING
EXERCISE LIFE IN
SHARES PRICE YEARS
- --------- ----------- -----------
82,876... $ 4.83 9.75
101,811.. $ 6.44 9.03
- ---------
184,687.. $ 5.72 9.35
- ---------
- ---------
F-12
NETWORK-1 SECURITY SOLUTIONS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED WITH RESPECT TO DATA AS OF JUNE 30, 1998 AND FOR
THE SIX-MONTH PERIODS ENDED JUNE 30, 1997 AND 1998)
NOTE F--STOCKHOLDERS' EQUITY (CONTINUED)
The following table presents information relating to stock options
outstanding at June 30, 1998 (unaudited):
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
- ----------------------------------- -------------------------------------
WEIGHTED WEIGHTED
WEIGHTED AVERAGE WEIGHTED AVERAGE
AVERAGE REMAINING AVERAGE REMAINING
EXERCISE LIFE IN EXERCISE LIFE IN
SHARES PRICE YEARS SHARES PRICE YEARS
- --------- ----------- ----------- --------- ----------- -------------
130,989 $ 4.83 9.56 130,989 $ 4.83 9.56
197,828 $ 5.60 9.92 88,214 $ 5.60 9.92
37,558 $ 6.44 8.42 37,558 $ 6.44 8.42
82,500 $ 7.20 10.00
- --------- ---------
448,875 $ 5.74 9.70 256,761 $ 5.33 9.51
- --------- ---------
- --------- ---------
The weighted average fair value at date of grant for options granted during
the years ended December 31, 1996 and 1997 and the six months ended June 30,
1997 and 1998 were $3.20, $2.76, $3.21 and $2.70 per option, respectively.
The fair value of options at date of grant was estimated using the
Black-Scholes option pricing model utilizing the following weighted average
assumptions:
DECEMBER 31, JUNE 30,
-------------------- --------------------
1996 1997 1997 1998
--------- --------- --------- ---------
(UNAUDITED)
Risk-free interest rates................................ 6.43% 6.50% 6.59% 5.62%
Expected option life in years........................... 6 6 6 6
Expected stock price volatility......................... 40% 40% 40% 40%
Expected dividend yield................................. 0% 0% 0% 0%
Had the Company elected to recognize compensation cost based on the fair
value of the options at the date of grant as prescribed by SFAS 123, net
loss for the years ended December 31, 1996 and 1997 and for the six-month
periods ended June 30, 1997 and 1998 would have been $(4,842,000),
$(2,830,000), $(1,007,000) and $(2,898,000) or $(2.65), $(1.53), $(.52) and
$(1.71), respectively, per share.
[3] The Company has the following warrants and options referred to in [4] below
to purchase common stock outstanding as of December 31, 1997:
NUMBER
OF EXERCISE
SHARES PRICE
- --------- -----------
186,239.. $ 1.61
62,856... 2.42
62,080... 3.22
70,949... 4.83
318,159.. 6.44
93,120... 9.66
- ---------
793,403
- ---------
- ---------
F-13
NETWORK-1 SECURITY SOLUTIONS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED WITH RESPECT TO DATA AS OF JUNE 30, 1998 AND FOR
THE SIX-MONTH PERIODS ENDED JUNE 30, 1997 AND 1998)
NOTE F--STOCKHOLDERS' EQUITY (CONTINUED)
From March through May 1998, in connection with the issuance of notes (see
Note E[5]), the Company issued warrants to purchase 325,919 shares of the
Company's common stock at an exercise price of $4.83. The Company also
issued a warrant to purchase 6,208 shares of the Company's common stock at
an exercise price of $6.04 for services rendered.
On July 8, 1998, the Company entered into an agreement with certain of its
option and warrant holders pursuant to which the Company issued 596,741
shares of its common stock in exchange for cancellation of outstanding
warrants to purchase 789,521 shares of the Company's common stock.
[4] PRIVATE PLACEMENT:
During March 1996, the Company completed a private placement of its
securities. The Company issued 667,357 shares of its common stock for $6.44
a share, yielding gross proceeds of $4,300,000. In connection with the
private placement the Company incurred costs aggregating $352,000 including
$279,000 in commissions and expense allowance paid to the placement agent.
The Company also issued options to purchase 66,736 shares of common stock at
an exercise price of $6.44 per share expiring in March 2001 to the placement
agents in connection with the private placement. The investors in the
private placement were granted certain demand and piggyback registration
rights. The Company also sold 31,040 shares of stock in 1996 receiving
proceeds of $200,000.
NOTE G--COMMITMENTS AND CONTINGENCIES
[1] OPERATING LEASES:
The Company leases office facilities in Florida, New York and Texas under
operating leases expiring through 1999. Rental commitments for the remaining
term of the Company's noncancellable leases relating to office space
expiring at various dates through 1999 are as follows:
YEAR ENDING
DECEMBER 31,
- ----------------
1998............ $ 120,000
1999............ 31,000
----------
$ 151,000
----------
----------
Rental expense for the years December 31, 1996 and 1997 and for the
six-month periods ended June 30, 1997 and 1998 aggregated $142,000,
$146,000, $71,000 and $71,000, respectively.
[2] SOFTWARE DISTRIBUTION AGREEMENTS:
[A] In June 1997, the Company entered into a software distribution agreement
pursuant to which the Company licensed, on a nonexclusive basis, the
right to incorporate and/or bundle certain technology of the Company,
with the customer's products. In connection therewith, the Company, which
is entitled to royalties based on the customer's sales, received a
$500,000, nonrefundable prepaid royalty, which is included in license
revenue for the year ended December 31, 1997 and the six months ended
June 30, 1997.
[B] In September 1997, the Company entered into a software distribution
agreement, pursuant to which the Company has the right to incorporate
certain technology into its software. The
F-14
NETWORK-1 SECURITY SOLUTIONS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED WITH RESPECT TO DATA AS OF JUNE 30, 1998 AND FOR
THE SIX-MONTH PERIODS ENDED JUNE 30, 1997 AND 1998)
NOTE G--COMMITMENTS AND CONTINGENCIES (CONTINUED)
Company is required to make certain royalty payments based on unit sales
as defined. The Company is obligated to pay a minimum of $100,000 in
royalties pursuant to the agreement for the period September 1997 to
March 30, 1999. As of December 31, 1997 and June 30, 1998, accrued
royalty payable was approximately $29,000 and $44,000, respectively.
[C] In July 1996, the Company entered into an agreement pursuant to which
certain technology was developed for the Company. The Company is required
to make certain royalty payments based on unit sales as defined, up to a
maximum royalty payment of $100,000. For the year ended December 31, 1997
and the six months ended June 30, 1998, royalties owed pursuant to such
agreement were de minimus.
[3] EMPLOYMENT AGREEMENTS:
In May 1998, the Company entered into an employment agreement with its
President and Chief Executive Officer which provides for a base salary of
$150,000, subject to annual increases of up to 20% by the Board of Directors
at their discretion. The agreement also provides for an annual bonus of up
to $50,000 as determined by the Board of Directors in its discretion. The
agreement expires in May 2002. In connection therewith, the Company granted
the President a five-year option to purchase 294,879 shares of the Company's
common stock at an exercise price of $2.42 per share. The option vests 34%
immediately and then 22% per year thereafter. As the estimated fair value of
the Company's common stock at the date of grant of the option ($5.60 per
share) was in excess of the exercise price the Company will incur aggregate
compensation expense of approximately $938,000 over the service period,
$366,000 of which was charged to expense during the six months ended June
30, 1998 based on the vesting provisions of the option.
The Company has employment agreements with six other officers providing for
aggregate annual salaries of $120,000 through April 1999 with respect to one
officer and aggregate annual salaries of $640,000 through May and August
2001 with respect to five officers. Certain of the agreements provide for
the granting of bonuses at the discretion of the Board of Directors, as well
as options to purchase shares of common stock.
Aggregate salary commitments pursuant to employment agreements are $804,000,
$820,000, $790,000, $470,000 and $56,000 for 1998, 1999, 2000, 2001 and
2002, respectively.
[4] SAVINGS AND INVESTMENT PLAN:
The Company has a Savings and Investment Plan which allows participants to
make contributions by salary reduction pursuant to Section 401(k) of the
Internal Revenue Code of 1986. The Company also may make discretionary
annual matching contributions in amounts determined by the Board of
Directors, subject to statutory limits. The Company did not make any
contributions to the 401(k) Plan during the years ended December 31, 1996
and 1997 and the six months ended June 30, 1998.
[5] FINANCIAL ADVISORY AGREEMENT:
In September 1996, as amended in January 1997, the Company entered into a
financial advisory agreement with a corporation owned by the Chairman of the
Board and a principal stockholder, which expires in January 1999. Pursuant
to such agreement, monthly fees of $12,500 were to be paid to such
F-15
NETWORK-1 SECURITY SOLUTIONS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED WITH RESPECT TO DATA AS OF JUNE 30, 1998 AND FOR
THE SIX-MONTH PERIODS ENDED JUNE 30, 1997 AND 1998)
NOTE G--COMMITMENTS AND CONTINGENCIES (CONTINUED)
corporation, and the Company issued two 7-year warrants, each to purchase up
to 31,040 shares of common stock at an exercise price of $6.44 and $8.05,
respectively. Such exercise prices were subsequently reduced to an exercise
price of $1.61 per share (see Note E[3]). The Company also agreed to pay
such corporation and another corporation which is a principal stockholder of
the Company, a cash fee equal to 3% of the total proceeds or other
consideration received in connection with a merger or sale of substantially
all of the Company's assets completed by January 2001. Expenses under the
agreement, including amortization of the value ascribed to the warrants,
included in general and administrative expenses, for the year ended December
31, 1997 and the six-month periods ended June 30, 1997 and 1998 amounted to
$253,000, $135,000 and $121,000, respectively.
On May 14, 1998, the Company terminated the monthly fee provision of the
financial advisory agreement and issued 31,250 shares of common stock to
this entity in satisfaction of amounts owed pursuant the agreement.
NOTE H--INCOME TAXES
The principal components of deferred tax assets and valuation allowance are
as follows:
SIX MONTHS
YEAR ENDED ENDED
DECEMBER 31, JUNE 30,
1996 1997 1998
------------- ------------- -------------
Deferred tax assets:
Net operating loss carryforwards............... $ 1,464,000 $ 2,122,000 $ 2,882,000
Common stock and warrants issued for
compensation and debt discount, not yet
deducted for tax purposes.................... 266,000 525,000 503,000
Other.......................................... 240,000 261,000 275,000
------------- ------------- -------------
1,970,000 2,908,000 3,660,000
Valuation allowance.............................. (1,970,000) (2,908,000) (3,660,000)
------------- ------------- -------------
Net deferred tax asset........................... $ 0 $ 0 $ 0
------------- ------------- -------------
------------- ------------- -------------
The Company has recorded a valuation allowance for the full amount of its
deferred tax assets as the likelihood of its future realization cannot be
presently determined.
The difference between the tax benefit and the amount that would be computed
by applying the statutory federal income tax rate to loss before taxes is
attributable to the following:
SIX MONTHS ENDED
YEAR ENDED
DECEMBER 31, JUNE 30,
-------------------- --------------------
1996 1997 1997 1998
--------- --------- --------- ---------
Income tax benefit--statutory rate.................. (34.0)% (34.0)% (34.0)% (34.0)%
Increase in valuation allowance on deferred tax
assets............................................ 34.0% 34.0% 34.0% 34.0%
--------- --------- --------- ---------
0% 0% 0% 0%
--------- --------- --------- ---------
--------- --------- --------- ---------
F-16
NETWORK-1 SECURITY SOLUTIONS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(UNAUDITED WITH RESPECT TO DATA AS OF JUNE 30, 1998 AND FOR
THE SIX-MONTH PERIODS ENDED JUNE 30, 1997 AND 1998)
NOTE H--INCOME TAXES (CONTINUED)
At December 31, 1997, the Company has available net operating loss
carryforwards to reduce future federal taxable income of approximately
$5,500,000 for tax reporting purposes which expire from 2009 through 2012.
Pursuant to the provisions of the Internal Revenue Code, future utilization of
these past losses is subject to certain limitations based on changes in the
ownership of the Company's stock that have occurred or are likely to occur.
NOTE I--OTHER MATTERS
[1] For the year ended December 31, 1997, approximately $500,000 (21%), $362,000
(15%) and $298,000 (13%) of the Company's revenues were from three
customers. For the six months ended June 30, 1998, approximately $285,000
(32%), $154,000 (17%) and $95,000 (11%) of the Company's revenues
respectively, were from one customer, the second customer referred to above,
and a third customer. No customer accounted for 10% or more of the Company's
revenue for the year ended December 31, 1996 and one customer accounted for
$500,000 in sales (35%) for the six months ended June 30, 1997.
[2] For the years ended December 31, 1996 and 1997 and for the six months ended
June 30, 1997 and 1998, export sales of the Company's products amounted to
approximately $69,000, $370,000, $237,000 and $16,000, respectively.
NOTE J--SUBSEQUENT EVENTS
In August, 1998 the Company formed a wholly owned subsidiary, Network-1
Acquisition Corp. (the "Purchaser"). Pursuant to an agreement and plan of merger
dated September 11, 1998 between the Company, the Purchaser and CommHome Systems
Corporation ("CommHome"), upon closing of the offering CommHome will be merged
with and into the Purchaser with the shareholders of CommHome receiving 35,000
shares of the Company's common stock. The Company's President is also the
President of CommHome and owns 51% of its outstanding common stock. The
Purchaser also agreed to assume liabilities of CommHome of up to $200,000
including $105,000 which is owed to two officers of the Company and which will
be satisfied by the issuance of 13,125 shares of the Company's common stock. The
Company will incur a charge of approximately $469,000 for purchased research and
development upon the acquisition which will be accounted for as a purchase.
CommHome is a development stage company and has had no revenues. The principal
activity has been the design of residential networking solutions. The Company
intends to incorporate CommHome's designs into its future security products.
F-17