Audited Financial Statements of High Speed Net Solutions, Inc. for Years Ended December 31, 1999 and 1998

Summary

This document contains the audited financial statements of High Speed Net Solutions, Inc., a development stage company, for the years ended December 31, 1999 and 1998. The statements include the balance sheets, statements of operations, stockholders' equity, and cash flows, along with the independent auditor's report from Ernst & Young LLP. The audit notes that the company has incurred significant losses and will require additional capital to continue operations, raising concerns about its ability to remain in business.

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EX-1.4 2 g64304a1ex1-4.txt AUDITED FINANCIAL STATEMENTS OF HIGH SPEED 1 EXHIBIT 1.4 Financial Statements High Speed Net Solutions, Inc. (A Development Stage Company) Years ended December 31, 1999 and 1998 with Report of Independent Auditors 2 High Speed Net Solutions, Inc. (A Development Stage Company) Financial Statements Years ended December 31, 1999 and 1998 CONTENTS Report of Independent Auditors.................................................1 Financial Statements Balance Sheets.................................................................2 Statements of Operations.......................................................3 Statements of Stockholders' Equity (Deficit)...................................4 Statements of Cash Flows.......................................................6 Notes to Financial Statements..................................................8 3 Report of Independent Auditors The Board of Directors and Shareholders High Speed Net Solutions, Inc. We have audited the accompanying balance sheets of High Speed Net Solutions, Inc. (a development stage company) as of December 31, 1999 and 1998, and the related statements of operations, stockholders' equity (deficit), and cash flows for the years ended December 31, 1999 and 1998 and for the period from January 2, 1998 (inception) to December 31, 1999. 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 auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of High Speed Net Solutions, Inc. (a development stage company) at December 31, 1999 and 1998 and the results of its operations and its cash flows, for the years ended December 31, 1999 and 1998 and for the period from January 2, 1998 (inception) to December 31, 1999 in conformity with accounting principles generally accepted in the United States. The accompanying financial statements have been prepared assuming that High Speed Net Solutions, Inc. (a development stage company) will continue as a going concern. As more fully described in Note 2, the Company has incurred operating losses since inception and will require additional capital in 2000 to continue operations. These conditions 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 2. The financial statements do not include any adjustments to reflect the possible future effects on the recoverability and classification of assets or the amounts and classification of liabilities that may result from the outcome of this uncertainty. /s/ Ernst & Young LLP February 15, 2000, except for Note 12, as to which date is April 24, 2000 Raleigh, North Carolina 1 4 High Speed Net Solutions, Inc. (A Development Stage Company) Balance Sheets
DECEMBER 31 1998 1999 ----------- ------------ (Restated) (Restated) ASSETS Current assets: Cash and cash equivalents $ 18,609 $ 248,740 Accounts receivable 7,559 -- ----------- ------------ Total current assets 26,168 248,740 Furniture and equipment, net -- 3,720 Investment in common stock of related party -- 1,894,127 Prepaid royalties -- 4,528,125 ----------- ------------ Total assets $ 26,168 $ 6,674,712 =========== ============ LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT) Payables to related parties $ 295,558 $ 589,815 Accounts payable and accrued expenses 8,457 99,876 Loss contingency accrual -- 800,000 ----------- ------------ Total current liabilities 304,015 1,489,691 Stockholders' equity (deficit): Preferred Stock, $0.001 par value; 5,000,000 shares authorized, no shares issued and outstanding -- -- Common stock, $.001 par value, authorized 50,000,000 shares; issued and outstanding 16,651,700 and 21,112,149 shares 16,652 21,112 Additional paid-in capital 1,642,816 17,272,770 Deficit accumulated during the development stage (1,709,696) (11,881,242) Treasury stock, at cost (38,500 shares) (227,619) (227,619) ----------- ------------ Total stockholders' equity (deficit) (277,847) 5,185,021 ----------- ------------ $ 26,168 $ 6,674,712 =========== ============
See accompanying notes. 2 5 High Speed Net Solutions, Inc. (A Development Stage Company) Statements of Operations
PERIOD FROM JANUARY 2, 1998 (INCEPTION) TO YEAR ENDED DECEMBER 31 DECEMBER 31 1998 1999 1999 ------------ ------------ ------------ (Restated) (Restated) (Restated) Selling, general and administrative expenses $ 374,841 $ 7,515,797 $ 7,890,638 Interest expense -- 2,655,749 2,655,749 ------------ ------------ ------------ Loss from continuing operations (374,841) (10,171,546) (10,546,387) Loss from discontinued operations (1,334,855) -- (1,334,855) ------------ ------------ ------------ Net loss $ (1,709,696) $(10,171,546) $(11,881,242) ============ ============ ============ Per share amounts (basic and diluted): Loss from continuing operations $ (0.03) $ (0.53) $ (0.74) ============ ============ ============ Loss from discontinued operations $ (0.11) $ -- $ (0.09) ============ ============ ============ Net loss $ (0.14) $ (0.53) $ (0.83) ============ ============ ============ Weighted average shares outstanding 11,898,867 19,080,492 14,324,778 ============ ============ ============
See accompanying notes. 3 6 High Speed Net Solutions, Inc. (A Development Stage Company) Statements of Stockholders' Equity (Deficit)
DATE OF COMMON STOCK TRANSACTION SHARES PAR VALUE -------------- ------------ --------- Balance at January 2, 1998 (inception) reflecting the recapitalization of the Company 9,325,000 $ 9,325 Founders shares issued for no consideration Jan. 1998 100 -- Shareholders capital contributions June-July 1998 -- -- Common Stock issued to acquire net assets of Marketers World, Inc Aug. 1998 1,000,000 1,000 Common stock sold for cash at $0.08 per share Sept. 1998 3,766,600 3,767 Common stock issued for payment of debt to a shareholder $0.10 per share Sept. 1998 1,550,000 1,550 Treasury stock acquired for cash -- -- Common stock issued for licensing rights at $0.10 per share (Note 5) Sept. 1998 775,000 775 Common stock issued for services at $0.10 per (Note 8) Sept. 1998 765,000 765 Net loss for the year ended December 31, 1998 -- -- Cancellation of compensatory stock Sept. 1998 (530,000) (530) ------------ -------- Balance at December 31, 1998 (Restated) 16,651,700 16,652 Compensation expense related to grant of stock option to purchase 1,000,000 shares at no exercise price (Note 8) Feb. 1999 -- -- Common stock sold for cash at $1.08 per share March 1999 118,188 118 Common stock sold for cash at $1.00 per share April 1999 220,000 220 Compensation expense related to grant of options to purchase 825,000 shares at $.01 per share (Note 8) May 1999 -- -- Common stock issued for investment in related party at May 1999 795,001 795 $2.25 per share (Note 8) Common stock issued for services at $1.53 per share (Note 8) July 1999 85,500 85 Common stock issued for advance royalty payment at $1.52 per share (Note 4) July 1999 1,500,000 1,500 Common stock issued in exchange for convertible debentures at $0.55 per share Aug. 1999 4,852,860 4,853 Beneficial conversion feature related to convertible debt Aug. 1999 -- -- (Note 6) Common stock canceled in connection with merger between High Speed Net Solutions, Inc. and Marketers World, Inc. in August 1998 (Note 8) Aug. 1999 (5,161,100) (5,161) Cancellation of compensatory stock Aug. 1999 (25,000) (25) Stock option exercises Aug. 1999 1,825,000 1,825 Common stock issued in conjunction with subscription agreement, 250,000 shares at $1.00 per share (Note 8) Aug. 1999 250,000 250 Compensation expense related to grant of option to purchase 240,000 shares at $.01 per share (Note 8) Sept. 1999 -- -- Net loss for the year ended December 31, 1999 -- -- ------------ -------- Balance at December 31, 1999 (Restated) 21,112,149 $ 21,112 ============ ========
4 7
DEFICIT ACCUMULATED DURING THE PAID-IN DEVELOPMENT TREASURY CAPITAL STAGE STOCK TOTAL - ------------- ------------ ------------ ----------- $ (9,325) $ -- $ -- $ -- -- -- -- -- 1,091,648 -- -- 1,091,648 (1,000) -- -- -- 313,233 -- -- 317,000 148,270 -- -- 149,820 -- -- (227,619) (227,619) 76,725 -- -- 77,500 75,735 -- -- 76,500 -- (1,709,696) -- (1,709,696) (52,470) -- -- (53,000) - ------------- ------------ ------------ ----------- 1,642,816 (1,709,696) (227,619) (277,847) 2,000,000 -- -- 2,000,000 127,382 -- -- 127,500 219,780 -- -- 220,000 1,640,000 -- -- 1,640,000 1,791,332 -- -- 1,792,127 130,729 -- -- 130,814 2,276,625 -- -- 2,278,125 2,650,896 -- -- 2,655,749 2,655,749 -- -- 2,655,749 5,161 -- -- -- (38,225) -- -- (38,250) (1,825) -- -- -- 1,094,750 -- -- 1,095,000 1,077,600 -- -- 1,077,600 - (10,171,546) -- (10,171,546) - ------------- ------------ ------------ ----------- $ 17,272,770 $(11,881,242) $ (227,619) $ 5,185,021 ============= ============ ============ ===========
See accompanying notes. 5 8 High Speed Net Solutions, Inc. (A Development Stage Company) Statements of Cash Flows
PERIOD FROM JANUARY 2, 1998 (INCEPTION) TO YEAR ENDED DECEMBER 31 DECEMBER 31 1998 1999 1999 ----------- ------------ ------------ (Restated) (Restated) (Restated) OPERATING ACTIVITIES Loss from continuing operations $ (374,841) $(10,171,546) $(10,546,387) Adjustments to reconcile net loss to net cash used in operating activities: Loss on disposal of equipment 105,748 -- 105,748 Non cash compensation and consulting charges relating to stock awards and stock subscriptions -- 5,698,038 5,698,038 Depreciation and amortization 21,900 332 22,232 Common stock issued for services 23,500 92,564 116,064 Interest expense relating to beneficial conversion feature of convertible debt -- 2,655,749 2,655,749 Changes in operating assets and liabilities: Prepaid royalties -- (60,000) (60,000) Accounts receivable (7,559) 7,559 -- Accounts payable and accrued expenses 8,457 91,419 99,876 Loss contingency -- 800,000 800,000 ----------- ------------ ------------ Net cash used in operating activities from continuing operations (291,685) (885,885) (1,177,570) Net cash used in discontinued operations (1,334,855) -- (1,334,855) ----------- ------------ ------------ Total net cash used in operating activities (1,557,650) (885,885) (2,443,535) INVESTING ACTIVITIES Capital expenditures (50,148) (4,052) (54,200) Cash investment in related party -- (102,000) (102,000) ----------- ------------ ------------ Net cash used in investing activities (50,148) (106,052) (156,200) FINANCING ACTIVITIES Proceeds from sale of common stock 317,000 242,062 559,062 Shareholder capital contributions 1,091,648 -- 1,091,648 Advances from stockholders 445,378 430,852 876,230 Repayments to stockholders -- (9,486) (9,486) Proceeds from issuance of convertible debentures -- 558,640 558,640 Purchase of treasury stock (227,619) -- (227,619) ----------- ------------ ------------ Net cash provided by financing activities 1,626,407 1,222,068 2,848,475 ----------- ------------ ------------ Net increase in cash and cash equivalents 18,609 230,131 248,740 Cash and cash equivalents at beginning of year -- 18,609 -- ----------- ------------ ------------ Cash and cash equivalents at end of year $ 18,609 $ 248,740 $ 248,740 =========== ============ ============
6 9 High Speed Net Solutions, Inc. (A Development Stage Company) Statements of Cash Flows (continued)
PERIOD FROM JANUARY 2, 1998 (INCEPTION) TO YEAR ENDED DECEMBER 31 DECEMBER 31 1998 1999 1999 --------- ---------- ---------- NONCASH INVESTING AND FINANCING ACTIVITIES Common shares issued for investment in related party $ -- $1,792,127 $1,792,127 ========= ========== ========== Common stock issued in exchange for convertible debentures $ -- $2,665,749 $2,665,749 ========= ========== ========== Common stock issued for prepaid royalties $ -- $2,278,125 $2,278,125 ========= ========== ========== Debentures issued for shareholder advances on behalf of company $ -- $2,097,109 $2,097,109 ========= ========== ========== Common stock issued for payment of debt to stockholder $ 149,820 $ -- $ 149,000 ========= ========== ========== Common stock issued for stockholder advances on behalf of Company $ -- $ 220,000 $ 220,000 ========= ========== ==========
See accompanying notes. 7 10 High Speed Net Solutions, Inc. (A Development Stage Company) Notes to Financial Statements (continued) DECEMBER 31, 1999 1. BUSINESS, ORGANIZATION AND DEVELOPMENT STAGE COMPANY High Speed Net Solutions, Inc. ("the Company" or "HSNS") was incorporated in 1984 and was inactive until it merged with Marketers World, Inc. ("MWI") on August 24, 1998. Prior to the merger, HSNS was a non-operating public shell and MWI was a private operating company. In legal form, this merger was effected by HSNS issuing its shares in exchange for the net assets of MWI. Total outstanding shares of HSNS common stock subsequent to the merger were 10,275,000, which consisted of the 1,000,000 shares outstanding prior to the merger and the 9,275,000 shares issued to acquire the net assets of MWI. At the time of the merger, HSNS had no assets or liabilities, and accordingly, the transaction was accounted for as a recapitalization of HSNS, and the outstanding shares are recorded accordingly. MWI was incorporated in January 1998 and its planned principal operations were to lease computer systems to businesses and to distribute Internet oriented products and perform related services. For the period prior to August 24, 1998 the historical amounts are those of MWI. During 1998, MWI was not able to execute its planned activities, other than the sale of pilot products and services, and consequently ceased all operating activities in December 1998. MWI was subsequently legally dissolved in September 1999. Accordingly, the operating results of MWI have been presented as discontinued operations for the year ended December 31, 1998. Revenues of MWI during the year ended December 31, 1998 were approximately $1,335,300, and the loss totaled $1,334,855. As of December 31, 1998, the Company had completed its disposal of the discontinued operations of MWI. There were no remaining assets or liabilities related to MWI at December 31, 1998. Results for the year ended December 31, 1999 represent solely the activity of HSNS which primarily related to raising capital and establishing strategic relationships. Since the Company has not yet commenced its planned principal operations and since MWI also never commenced its planned principal operations, the accompanying financial statements are presented as those of a development stage company. In 1984, the Company was incorporated under the name EMN Enterprises, Inc. The Company was inactive from the time of its incorporation in 1984 until the time of the MWI transaction in 1998. In September 1998, in conjunction with the MWI merger, the Company changed its name to ZZAP.NET, Inc. and in January 1999 the name changed to High Speed Net Solutions, Inc. 8 11 High Speed Net Solutions, Inc. (A Development Stage Company) Notes to Financial Statements (continued) 1. BUSINESS, ORGANIZATION AND DEVELOPMENT STAGE COMPANY (CONTINUED) In August 1999, Summus Ltd. ("Summus") acquired 51% of the outstanding common stock of the Company. Subsequently, Summus sold certain of the shares it acquired and at December 31, 1999, Summus owned 40.7% of the Company's outstanding common stock. The Company's operating and business strategy is dependent on the development of Summus' technology and products under the terms of various agreements between both parties. Summus is developing media compression and delivery software that the Company intends to use to deliver its services to its customers. 2. BASIS OF PRESENTATION The accompanying financial statements have been prepared on the basis that High Speed Net Solutions, Inc. will continue as a going concern. The Company has incurred operating losses since inception and has experienced negative cash flows and expects these losses and negative cash flow to continue into the foreseeable future. The Company's ability to continue operations as a going concern is predicated on its ability to continue to raise capital, including significant new capital in 2000, the successful completion of its operational plan and, ultimately, upon achieving profitable operations. The accompanying financial statements have been restated to reflect the write-off of previously capitalized licensing rights at December 31, 1998 as part of the loss on discontinued operations for that year and to remove the related amortization expense previously associated with those capitalized licensing rights from the 1999 statement of operations. The effect of these changes was to reduce assets and increase the loss from discontinued operations in 1998 by $68,890 and to reduce selling, general and administrative expenses by $25,830 in 1999. 3. SIGNIFICANT ACCOUNTING POLICIES 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 amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. EQUIPMENT AND FURNITURE Equipment and furniture is stated at cost. Depreciation, as recorded by MWI, was computed using the straight-line method over the estimated useful lives of the assets beginning when assets were placed in service. Depreciation expense amounted to $13,290 for the year ended 9 12 High Speed Net Solutions, Inc. (A Development Stage Company) Notes to Financial Statements (continued) 3. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) December 31, 1998. Based on the discontinuance of MWI's operations in 1998, along with no future alternative use, the net book value of MWI's equipment and furniture at December 31, 1998, totaling $36,858, was written off. PREPAID ROYALTIES Prepaid royalties represent prepayments made to Summus under various agreements further described in Note 4. As future revenues from services subject to the provisions of these agreements are earned, the prepaid royalties will be charged to royalty expense. Credits earned under the SLA (see description in Note 4) will be applied directly to reduce the prepaid balances and the remaining amount will be amortized over the term of the agreements. Management will assess, on a going forward basis, the need for any impairment charges related to the realization of these amounts. CASH AND CASH EQUIVALENTS Cash and cash equivalents consist of unrestricted cash accounts and highly liquid investments with an original maturity of three months or less when purchased. STOCK BASED COMPENSATION The Company accounts for stock based compensation under the provisions of Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25") and related interpretations. In accordance with APB 25, the Company has valued employee stock awards and stock issued to employees for services performed based on the traded value of the Company's common stock, or its estimated fair value prior to it becoming traded, at the measurement date of the stock options and awards. INCOME TAXES Income taxes are accounted for using the liability method in accordance with Statement of Financial Accounting Standards No. 109, Accounting for Income Taxes (See Note 10). LOSS PER SHARE Loss per share has been calculated in accordance with Statement of Financial Accounting Standards No. 128 "Earnings per Share." The Company has potential common stock equivalents 10 13 High Speed Net Solutions, Inc. (A Development Stage Company) Notes to Financial Statements (continued) 3. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) related to its outstanding stock options. These potential common stock equivalents were not included in loss per share for all periods because the effect would have been antidilutive. INVESTMENT IN COMMON STOCK OF RELATED PARTY Investment in common stock of related party represents the Company's 14.0% ownership interest in Summus (see Note 8). The Company accounts for its investment in Summus using the cost method. Under this method, the investment is recorded at its historical cost. Although the market value of this investment is not readily determinable, management believes its fair value is not less than its carrying amount. REVENUE RECOGNITION Revenue was recognized by MWI when products were shipped and services were performed. Operating activity for MWI has been presented as discontinued operations for the year ended December 31, 1998. To date, no revenues have been generated by HSNS. On a prospective basis, the Company expects to generate revenue from the sale of services such as design and execution of email marketing campaigns and advertising design. Revenue from such services will include upfront fees and a fee based on the number of emails delivered. Revenue will be recognized when each campaign is completed and there are no significant remaining obligations, and collection of the fee is probable. Advertising design revenues will be recognized at the time the services are rendered based upon the terms of individual contracts. The Company is entitled to receive a percentage of revenues Summus earns from third party licenses of its products for rich media distribution as well as revenue sharing with respect to sales to a potential customer (See Note 4). NEW ACCOUNTING PRONOUNCEMENTS In June 1998, The Financial Accounting Standards Board issued Statement No. 133 "Accounting for Derivative Instruments and Hedging Activities" ("SFAS 133"), which is required to be adopted in years beginning after June 15, 2000. Because of the Company's minimal use of derivatives, management does not anticipate that the adoption of the new statement will have a significant effect on operations or the financial position of the Company. 11 14 High Speed Net Solutions, Inc. (A Development Stage Company) Notes to Financial Statements (continued) 3. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) ADVERTISING MWI expensed advertising costs as incurred. Advertising expense was approximately $128,000 for the year ended December 31, 1998. To date, High Speed Net Solutions has not incurred any advertising expense. 4. PREPAID ROYALTIES In February 1999, the Company entered into a Marketing and Licensing Agreement ("MLA") with Summus. As consideration for this agreement, the Company prepaid royalty payments to Summus. The amount of prepaid royalties consists of cash payments of $2,250,000 ($2,190,000 of which was made by a stockholder on behalf of the Company) and the issuance of 1,500,000 shares of the Company's common stock valued at $2,278,125, for a total aggregate value of $4,528,125. The value assigned to the 1,500,000 common shares was based on the traded value of the Company's common stock on the date of the transaction. This amount is presented as a non-current asset in the accompanying balance sheet as of December 31, 1999. The Shareholder of the Company who made the cash payments to Summus on behalf of the Company controlled a trust which owned 8.2% of Summus Technologies, Inc. On August 16, 1999, Summus Technologies, Inc. and Summus, Ltd. merged (see note 8). The Company recorded a payable to the shareholder which was subsequently offset by debentures issued to the shareholder (see Note 6). In January 2000, the Company and Summus entered into a Master Agreement, which includes a Software License Agreement ("SLA"), a Software Maintenance Agreement ("SMA") and an Agency and a Revenue Sharing Agreement ("RSA") (collectively with the Master License Agreement, the "New Agreements"). The New Agreements entirely replace the MLA entered in February 1999. The SLA gives the Company the right to license Summus' current and future products for digital content management solutions for rich media distribution. Additionally, the SLA gives the Company non-exclusive rights to distribute wavelet encoded content over the Internet or over private network environments for the purposes of advertising or content delivery. The Company will be credited for the $1.0 million upfront license fee due under the SLA from the prepayments made under the MLA. Upon commencement of the SLA, this $ 1.0 million will be amortized on a straight-line basis over the six-year term of the SLA. The remaining amount of the Prepaid Royalties will be charged to royalty expense on a systematic basis, as revenues are earned, over the term of the agreement. The Company is also required to make ongoing payments equal to 10% of revenues generated from use of the Summus' products, as defined in the agreement. The 12 15 High Speed Net Solutions, Inc. (A Development Stage Company) Notes to Financial Statements (continued) 4. PREPAID ROYALTIES (CONTINUED) Company was granted a $1.0 million credit, from the prepayments made under the MLA, for such payments. The Company has been granted other rights under the SLA which are defined in the agreement. The SLA has a term of six years. The RSA entitles the Company to receive 20% of all revenues that Summus receives from third party licenses of its products for rich media distribution. For all customers that the Company refers to Summus for technology licensing, consulting or other product or services sales, the Company will receive 15% of the first year revenue earned by Summus. The RSA also provides for revenue sharing with respect to sales to a potential customer by either the Company or Summus. Revenue earned from this customer in the first two years by either the Company or Summus will be shared equally between both parties. Beginning in the third year, 40% of revenue earned by the Company will be remitted to Summus decreasing to 20% in the final two years. Conversely, 40% of revenue earned by Summus in the third year and 20% of revenue earned by Summus in years four, five and six will be shared with the Company. Under the new agreements discussed above, the Company is required to make annual payments to Summus for approximately $ 180,000 in return for software maintenance and upgrades. The payment for the first year beginning February 2000 has been waived. The Company will recognize the aggregate amount of the annual fees on a straight-line basis over the entire six-year term of the agreements. 5. LICENSING RIGHTS In September 1998, the Company issued 775,000 shares of its common stock, valued at $77,500 for all of the issued and outstanding common stock of Brad Richdale Direct, Inc. ("BRD"). The primary purpose of this transaction was to obtain certain licensing and marketing rights held by BRD for certain products to be developed by Summus. Since BRD had nominal assets and operations, this transaction was accounted for as an acquisition of licensing rights, rather than as a business combination. The value of this transaction was based on recent transactions in the Company's common stock on the date of the transaction. The products to be delivered by Summus under these licensing rights were to be used in the planned operations of MWI. Since these products were not completed by the end of 1998 and in connection with the discontinuance of MWI operations, the Company abandoned its rights to these yet-to-be delivered products. Accordingly the net book value of these costs of $68,890 was written off at December 31, 1998 and is included as part of the loss on discontinued operations. 13 16 High Speed Net Solutions, Inc. (A Development Stage Company) Notes to Financial Statements (continued) 6. CONVERTIBLE DEBENTURES During 1999, the Company issued $2,655,749 in convertible debentures (the "debentures") to officers, stockholders and third parties. These debentures were issued in exchange for both cash of $558,640 and in partial satisfaction of advances of $2,097,109 from a stockholder of the Company. The remaining amounts owed to the stockholder are included in Payables to Related Parties in the Company's balance sheet. The debentures were convertible into the Company's common stock at conversion prices ranging from $0.25 to $1.33 per share (all of which were substantially "in-the-money" at date of issuance). Shortly after the issuance of the debentures, the debenture holders exercised the conversion feature and converted all outstanding debentures into 4,852,860 shares of the Company's common stock. The debentures were convertible at the date of issuance. Since the conversion price of the debentures was below the fair market value of the common stock, the Company recorded a $2,655,749 beneficial conversion feature as debt discount and additional paid-in-capital on the date the debentures were issued. The resulting interest expense was immediately recognized because the debentures were convertible upon issuance. As of December 31, 1999, all debentures had been converted. 7. RELATED PARTY TRANSACTIONS As of December 31, 1999 Summus holds a 40.7% ownership interest in the Company. The Company's operating and business strategy is dependent on the development of Summus' technology and products under the New Agreements. Summus is developing media compression and delivery software that the Company has rights to use to deliver services to its customers under its various agreements with Summus. During 1999, Summus funded certain expenses of the Company. For the year ended December 31, 1999, Summus paid $154,000 of operating expenses on behalf of the Company. This amount is owed to Summus and is included in Payables to Related Parties in the accompanying balance sheet at December 31, 1999. Payables to related parties, also includes advances made to the Company from a former majority shareholder during 1998 and 1999. These amounts are unsecured and are payable on demand. 8. STOCKHOLDERS' EQUITY On June 20, 1998, the Company amended its articles of incorporation to increase the number of authorized shares of its $.001 par value common stock to 50,000,000 and to effect a 200 for one stock split thereby increasing its issued and outstanding shares to 1,000,000. The Company has 14 17 High Speed Net Solutions, Inc. (A Development Stage Company) Notes to Financial Statements (continued) 8. STOCKHOLDERS' EQUITY (CONTINUED) 5,000,000 authorized shares of $.001 par value preferred stock. No preferred shares have ever been issued and outstanding as of December 31, 1999. During the year ended December 31, 1998 the Company issued 765,000 shares of its stock to employees for services rendered. These shares were valued at $76,500 based on the estimated fair value of the common stock, as determined by a recent sale of the Company's common stock. At that time, the Company's common stock was not publicly traded. During the year ended December 31, 1999, the Company issued 85,500 shares of common stock to employees for services rendered. These shares were valued at $130,814 based on the traded value of the common stock. During 1998, the Company acquired 38,500 shares of its common stock for $227,619 in cash and currently holds these shares as treasury stock. In August 1999, the Company issued 795,001 shares of its common stock valued at $1,792,127, along with a cash payment of $102,000, to acquire 1,000,182 shares of common stock, or 19%, of Summus Technologies Inc. The value assigned to these shares was based on the traded value of the Company's common stock. Subsequently, Summus Technologies, Inc. and Summus Ltd. merged. Summus Ltd. was the surviving entity. The Company's ownership in Summus Ltd. after the merger was 16.7% and as of December 31, 1999 is 14.0%. The Company's shares of Summus Ltd. are subject to a shareholder agreement, which restricts the Company's ability to transfer or sell its shares without first granting Summus Ltd. the opportunity to purchase them. In August 1999, former management of the Company entered into a stock subscription agreement with a related party. The agreement provided for the Company to sell 250,000 shares of its common stock for $1.00 per share. Since the subscription price was below the fair market value of the underlying stock on the date of the agreement, $845,000 of expense related to this transaction has been charged to the statement of operations in 1999. Stock Options During 1999, the Company granted to certain employees and directors 2,520,000 stock options that had exercise prices below the fair value of the underlying common stock. Compensation expense of $4,717,600 has been recognized based upon the difference between the exercise price and the traded value of the common stock on the date of grant. These options vested immediately upon issuance and 1,825,000 of these options were exercised during 1999. Unexercised options expire between 5 and 10 years from date of grant. 15 18 High Speed Net Solutions, Inc. (A Development Stage Company) Notes to Financial Statements (continued) 8. STOCKHOLDERS' EQUITY (CONTINUED) In connection with a 200,000 stock option grant, the optionee received protection from potential dilution resulting from future issuances of the Company's securities, as defined. The maximum number of common shares issuable under this agreement is 400,000. The Company has adopted the disclosure-only provisions of Statement of Financial Accounting Standards ("SFAS") No. 123; "Accounting for Stock-Based Compensation." As permitted by the provisions of SFAS No. 123, the Company continues to follow Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" and related interpretations for its stock-based awards. A summary of the Company's stock option activity is as follows: WEIGHTED AVERAGE EXERCISE SHARES PRICE ---------- -------- Outstanding - December 31, 1998 -- $ -- Granted 2,520,000 1.21 Exercised (1,825,000) 0.06 ---------- -------- Outstanding - December 31, 1999 695,000 2.29 ========== ======== The following table summarizes information about stock options outstanding at December 31, 1999: OPTIONS OUTSTANDING - ------------------------------------------------------------------------ RANGE OF NUMBER WEIGHTED AVERAGE WEIGHTED AVERAGE EXERCISE PRICES OUTSTANDING CONTRACTUAL LIFE EXERCISE PRICE - ---------------- ----------- ---------------- ---------------- $ .01 240,000 5 years $ .01 2.00 - 4.38 295,000 6.9 years 3.45 10.00 - 13.00 160,000 7 years 13.00 ----------- 695,000 6.4 years 5.70 =========== OPTIONS EXERCISABLE ------------------------------- RANGE OF NUMBER WEIGHTED AVERAGE EXERCISE PRICES EXERCISABLE EXERCISE PRICE - ---------------- ----------- ---------------- $ .01 240,000 $ .01 2.00 - 4.38 165,000 4.00 10.00 - 13.00 -- -- ----------- 405,000 1.18 =========== 16 19 High Speed Net Solutions, Inc. (A Development Stage Company) Notes to Financial Statements (continued) 8. STOCKHOLDERS' EQUITY (CONTINUED) In accordance with SFAS 123, the fair value of each option grant was determined by using the Black-Scholes option pricing model with the following weighted average assumptions for the twelve month period ended December 31, 1999: dividend yield of 0%; volatility of 2.054; risk free interest rate of 4.25% and expected option lives of 5 years. The weighted average fair value at the date of grant was $2.29 per option. Had the compensation expense for the Company's stock options been determined based on the fair value at the date of grant consistent with the provisions of SFAS 123, the Company's net loss and net loss per share would have been $13.5 million and $.71 for the twelve months ended December 31, 1999. During August 1999, the Company negotiated and Board of Directors approved the cancellation of 5,161,100 shares of its common stock which were originally issued in connection with the merger between the Company and MWI. This cancellation was a result of MWI ceasing its operations in 1998. Both the majority holder of these shares and the Company agreed that the initial purchase price was over valued and accordingly, the shares were voluntary returned to the Company and the Company then canceled the shares. Since no value was ascribed to the initial shares issued in connection with the MWI merger, no value was ascribed to the subsequent cancellation. Also during 1999, the Company executed the cancellation of 555,000 shares of its common stock, 530,000 of which were originally issued in 1998 and 25,000 issued in 1999 for services rendered by an employee for a total value of $91,250. During 1999, it was determined that these services had not been performed satisfactorily and therefore the common stock was voluntarily returned to the Company and canceled. 9. LEASES During 1999, the Company established it headquarters in Raleigh, North Carolina and entered into a noncancelable lease for office space and certain office equipment. Rent expense incurred during the twelve months ended December 31, 1999 was $11,375. The following is a schedule of future minimum lease payments for operating leases: 2000 $ 32 ###-###-#### 32 ###-###-#### 32 ###-###-#### 32 ###-###-#### 32,973 ---------- $ 164,865 ========== 17 20 High Speed Net Solutions, Inc. (A Development Stage Company) Notes to Financial Statements (continued) 9. LEASES (CONTINUED) During 1998, MWI leased its office facility and certain office equipment under noncancelable operating leases, all which were terminated in 1998. Total rent expense incurred in 1998 by MWI was approximately $40,000. 10. INCOME TAXES No provision for income taxes has been recorded during the current year due to the Company's significant losses. Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the Company's deferred tax assets are as follows: DECEMBER 31 DECEMBER 31 1998 1999 ----------- ----------- Deferred tax assets: Net operating loss carryforwards $ 57,000 $ 224,000 Start-up expenses 134,000 100,500 Related party expenses 178,000 234,000 Other deductible temporary differences 79,000 79,000 ----------- ----------- Total deferred tax assets 448,000 637,500 Deferred tax asset valuation allowance (448,000) (637,500) ----------- ----------- Net deferred taxes $ -- $ -- =========== =========== Management has determined that a 100% valuation allowance for existing deferred tax assets is appropriate given uncertainty regarding the ultimate realization of any such assets. At December 31, 1999, the Company had federal and state net operating loss carryforwards of approximately $560,000 for income tax purposes. The tax benefit of these carryforwards are reflected in the above table of deferred tax assets. If not used, these carryforwards begin to expire in 2018 for federal tax purposes and in 2003 for state tax purposes. U. S. tax rules impose limitations on the use of net operating losses following certain changes in ownership. If such a change occurs, the limitation could reduce the amount of these benefits that would be available to offset future taxable income each year, starting with the year of ownership change. 18 21 High Speed Net Solutions, Inc. (A Development Stage Company) Notes to Financial Statements (continued) 11. COMMITMENTS In December 1999, the Company entered into a consulting agreement whereby the consulting firm received options rights to purchase, up to 200,000 shares of the Company's common stock at an exercise price of $10.00 per share. The options vest and become exercisable in increments of 50,000 shares based on the achievement of certain levels of revenue earned by the Company. As of December 31, 1999, no options were vested under this agreement. These options will be accounted for under the provisions of FAS 123. In October 1999, the Company entered into a consulting agreement whereby the consultant will receive the rights to purchase 2,000 shares of the Company's common stock based on the achievement of revenue, as defined, from a potential customer of the Company and Summus. The Company is also obligated to pay the consultant 4% of all revenue the Company earns from this potential customer. As revenues earned from this potential customer increase, the consultant has the right to proportionally receive more shares based on the higher levels of revenues earned. As of December 31, 1999, no amounts have been earned under this agreement. As options are granted, they will be accounted for under the provisions of FAS 123. All non-employee and non-director stock option grants will be valued on the appropriate measurement date using the Black Scholes option-pricing model. The weighted average assumptions to be used in this option-pricing model include the dividend yield, volatility, risk free interest rate and the expected option life. 12. SUBSEQUENT EVENTS In January 2000, a former shareholder of Summus Technologies, Inc., who received 350,000 shares of HSNS common stock and $100,000 in cash in exchange for his shares of Summus Technologies, Inc. stock (see Note 8) has filed a lawsuit against the Company seeking damages of $13.3 million resulting from the Company's alleged failure to register such shares under the Securities Act of 1933 (the "Act"). Under an agreement between the former shareholder and the Company, the Company is required to issue and include in a registration statement under the Act additional 25,000 shares of the Company's common stock for each additional month that passes subsequent to the Company's initial deadline date to register the 350,000 shares. Management is attempting to settle this matter out-of-court. The Company as accrued $800,000 for settlement of this matter, representing management's best estimate of the ultimate outcome. However, the ultimate exposure could be more or less, depending on the outcome of settlement discussions the length of time that passes prior to the effectiveness of a registration statement covering shares of the Company held by the plaintiff and the ultimate value of the Company's shares on the date of settlement. Because the matter is expected to be resolved by issuing additional shares, the 19 22 High Speed Net Solutions, Inc. (A Development Stage Company) Notes to Financial Statements (continued) 12. SUBSEQUENT EVENTS (CONTINUED) ultimate outcome is not expected to have an adverse impact on the Company's liquidity or cash flow. On April 24, 2000, the Company acquired 100% of the issued and outstanding shares of common stock of JSJ Capital Corp., a Nevada Corporation ("JSJ"), in exchange for 50,000 shares of 144 restricted common stock of the Company. As a result of HSNS's 100% ownership of JSJ, the Board of Directors of HSNS approved the merger of JSJ into HSNS whereby HSNS will be the surviving corporation. The acquisition was accounted for as an issuance of HSNS common stock in exchange for the net monetary assets of JSJ, accompanied by a recapitalization. The 50,000 shares issued by the Company in connection with the acquisition of JSJ are considered a nominal issuance to effect the acquisition. All shares and per share data presented herein have been restated to reflect the issuance of these shares. The pro forma impact of the JSJ acquisition is a $400,000 charge to retained earnings on the Company's balance sheet, representing cash legal fees paid in excess of the net assets acquired. This charge was recognized in earnings upon consummation of the acquisition. Subsequent to year-end, the Company entered into a settlement agreement with William Dunavant and Michael Cimino to resolve a litigation suit filed in Florida. The settlement agreement provides, among other things, that the Company register 350,000 shares of common stock with the Securities and Exchange Commission. 20