SCHEDULE 14A
(Rule 14a-101)
INFORMATION REQUIRED IN PROXY STATEMENT
SCHEDULE 14A INFORMATION
Proxy Statement Pursuant to Section 14(a) of the
Securities Exchange Act of 1934
(Amendment No. 1)
Filed by the Registrant [ X ]
Filed by a Party other than the Registrant [ ]
Check the appropriate box:
[ X ] Preliminary Proxy Statement [ ] Confidential, For Use of the Commission Only
[ ] Definitive Proxy Statement (as permitted by Rule 14a-6(e)(2))
[ ] Definitive Additional Materials
[ ] Soliciting Material Under Rule 14a-12
JPAL, INC.
----------------------------------------------------
(Name of Registrant as specified in its charter)
------------------------------------------------------------------------
(Name of Person(s) Filing Proxy Statement), if other than Registrant
Payment of Filing Fee (Check the appropriate box):
[ ] No fee required
[ ] Fee computed on table below per Exchange Act Rules 14a-6(i)(1)
and 0-11.
(1) Title of each class of securities to which transaction
applies:
(2) Aggregate number of securities to which transaction
applies:
(3) Per unit price or other underlying value of transaction
computed pursuant to Exchange Act Rule 0-11 (set forth the
amount on which the filing fee is calculated and how it was
determined):
(4) Proposed maximum aggregate value of transaction:
(5) Total fee paid:
[ X ] Fee paid previously with preliminary materials.
[ X ] Check box if any part of the fee is offset as provided by
Exchange Act Rule 0-11(a)(2) and identify the filing for which the
offsetting fee was paid previously. Identify the previous filing by
registration statement number, or the Form or Schedule and the date of
its filing.
(1) Amount Previously Paid: $4,419.83
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(2) Form, Schedule or Registration
Statement No.: Preliminary Schedule 14A
------------------------
(3) Filing Party: JPAL, Inc.
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(4) Date Filed: December 21, 2001
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JPAL, INC.
17620 Oak Street
Fountain Valley, California 92708
NOTICE OF THE SPECIAL MEETING OF STOCKHOLDERS
TO BE HELD ON _______ ___, 2002
NOTICE IS HEREBY GIVEN, that the Special Meeting (the "Meeting") of
stockholders (the "Stockholders") of JPAL, Inc. (the "Company") will be held at
11:00 A.M. on ________ ___, 2002 at the offices of Gersten, Savage, Kaplowitz,
Wolf & Marcus, LLP, at 101 East 52nd Street, New York, NY, 10022 for the
following purposes:
1. To consider and vote upon a proposal to approve the
Contribution Agreement, dated as of August 23, 2001, by and
among the Company, Essential Reality, LLC, a Delaware limited
liability company ("Essential, LLC"), and the other
signatories thereto, as amended (collectively, the
"Contribution Agreement"), a copy of which is attached hereto
as Exhibit A, and to approve all transactions and developments
contemplated thereby (the "Exchange");
2. To approve an amendment to the Company's Articles of
Incorporation ("Amendment I"), a copy of which is attached
hereto with Amendment II as Exhibit B, changing the name of
the Company to Essential Reality, Inc. ("Essential, Inc.");
3. To approve an amendment to the Company's Articles of
Incorporation ("Amendment II"), a copy of which is attached
hereto with Amendment I as Exhibit B, providing for "blank
check" preferred stock (the "Blank Check Preferred Stock");
4. To approve the 2001 Stock Incentive Plan, a copy of which is
attached hereto as Exhibit C; and
5. To approve the appointment of Deloitte & Touche LLP as the
Company's independent auditors for the fiscal year ending
December 31, 2001.
The purpose of the Exchange is to have the Company acquire and assume
the business of Essential, LLC. If the Exchange is approved, the Company will
issue, pursuant to the terms of the Contribution Agreement, up to 11,000,000
shares of its common stock in exchange for all of the outstanding membership
interests of Essential, LLC. The Company's Stockholders will not receive any
cash, stock or other property in connection with, or as a result of, the
Exchange. Following the Exchange, the owners of Essential, LLC will own
approximately 70% of the Company's then outstanding common stock.
Stockholders of record at the close of business on December 21, 2001
are entitled to notice of and to vote at the Meeting or any adjournment or
postponement thereof. Whether you expect to attend the Meeting in person or not,
please sign, fill out, date and return the enclosed proxy in the self-addressed,
postage-paid envelope also enclosed. If you attend the Meeting and prefer to
vote in person, you can revoke your proxy.
PLEASE NOTE THAT MR. DRECHSLER, THE COMPANY'S CONTROLLING STOCKHOLDER,
HAS INFORMED THE COMPANY THAT HE WILL BE VOTING "FOR" PROPOSALS 1, 2, 3, 4 & 5
ABOVE. THE NUMBER OF VOTES HELD BY THE CONTROLLING STOCKHOLDER IS SUFFICIENT TO
SATISFY THE STOCKHOLDER VOTE REQUIREMENT FOR EACH OF THE PROPOSALS AND NO
ADDITIONAL VOTES WILL CONSEQUENTLY BE NEEDED TO APPROVE ANY OF THE PROPOSALS.
By Order of the Sole Director,
Frank Drechsler
President, CEO and Sole Director
January ____, 2002
JPAL, INC.
17620 Oak Street
Fountain Valley, California 92708
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PROXY STATEMENT
-------------------------------
SPECIAL MEETING OF STOCKHOLDERS
TO BE HELD _______ ___, 2002
This Proxy Statement is being furnished in connection with the
solicitation by the sole director of JPAL, Inc. (the "Company"), for use at the
Special Meeting (the "Meeting") of stockholders (the "Stockholders") of the
Company to be held on ________ ___, 2002 at 11:00 A.M. at the offices of
Gersten, Savage, Kaplowitz, Wolf & Marcus, LLP, at 101 East 52nd Street, New
York, NY, 10022 and at any adjournment or postponement thereof.
Only Stockholders of record at the close of business on December 21,
2001 (the "Record Date") are entitled to vote at the Meeting. As of the Record
Date, there were issued and outstanding 8,645,260 shares of the Company's common
stock (the "Common Stock"). Each outstanding share of Common Stock is entitled
to one vote on all matters properly coming before the Meeting. All properly
executed, unrevoked proxies on the enclosed form of proxy that are received in
time will be voted in accordance with the Stockholder's directions and, unless
contrary directions are given, will be voted for the proposals (the "Proposals")
described below. Anyone giving a proxy may revoke it at any time before it is
exercised by giving the board of directors of the Company written notice of the
revocation, by submitting a proxy bearing a later date or by attending the
Meeting and voting in person.
The presence in person or by properly executed proxy of holders
representing a majority of the issued and outstanding shares of the Company's
Common Stock entitled to vote is necessary to constitute a quorum for the
transaction of business at the Meeting. Votes cast by proxy or in person at the
Meeting will be tabulated by the inspector of elections appointed for the
Meeting, who will determine whether or not a quorum is present. Shares of Common
Stock represented by proxies that are marked "abstain" will be included in the
determination of the number of shares present and voting for purposes of
determining the presence or absence of a quorum for the transaction of business.
Abstentions are not counted as voted either for or against a Proposal. Brokers
holding shares of Common Stock for beneficial owners in "street name" must vote
those shares according to specific instructions they receive from the owners.
However, brokers have discretionary authority to vote on "routine" matters.
Absent specific instructions from the beneficial owners in the case of
"non-routine" matters, the brokers may not vote the shares. "Broker non-votes"
result when brokers are precluded from exercising their discretion on certain
types of proposals. Shares that are voted by brokers on some but not all of the
matters will be treated as shares present for purposes of determining the
presence of a quorum on all matters, but will not be treated as shares entitled
to vote at the Meeting on those matters as to which instructions to vote are not
provided by the owner.
Mr. Frank Drechsler, the sole member of the board of directors of the
Company (the "Sole Director"), has adopted and approved each of the Proposals
set forth herein and recommends that the Company's Stockholders vote "FOR" each
of the Proposals.
Approval of Proposals 1, 2 & 3 requires the affirmative vote of a
majority of the Company's outstanding shares of Common Stock. Approval of
Proposals 4 & 5 requires the affirmative vote of a majority of the votes cast at
the Meeting.
PLEASE NOTE THAT MR. DRECHSLER, THE COMPANY'S CONTROLLING STOCKHOLDER,
HAS INFORMED THE COMPANY THAT HE WILL BE VOTING "FOR" ALL OF THE PROPOSALS SET
FORTH HEREIN. THE NUMBER OF VOTES HELD BY THE CONTROLLING STOCKHOLDER IS
SUFFICIENT TO SATISFY THE STOCKHOLDER VOTE REQUIREMENT FOR EACH OF THE PROPOSALS
AND NO ADDITIONAL VOTES WILL CONSEQUENTLY BE NEEDED TO APPROVE ANY OF THE
PROPOSALS.
3
This Proxy Statement, the accompanying Notice of Meeting and the form
of proxy have been first sent to the Stockholders on or about January __, 2002.
The date of this Proxy Statement is January __, 2002
4
TABLE OF CONTENTS
Page
SUMMARY........................................................................6
QUESTIONS AND ANSWERS ABOUT THE MEETING........................................7
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS..............................8
PROPOSAL 1: APPROVAL OF THE EXCHANGE...........................................9
Description of the Exchange...........................................9
Material Terms of the Exchange.......................................11
Certain Federal Income Tax Consequences..............................14
Accounting Treatment of the Exchange.................................14
Appraisal Rights.....................................................14
Interest of Certain Persons in the Exchange..........................15
Federal Securities Law Consequences..................................15
BUSINESS OF THE COMPANY..............................................16
BUSINESS OF ESSENTIAL REALITY........................................17
MANAGEMENT OF ESSENTIAL REALITY......................................20
MANAGEMENT'S DISCUSSION AND ANALYSIS.................................23
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.......27
Stockholder Vote Required............................................28
PROPOSAL 2: APPROVAL OF AMENDMENT I TO THE ARTICLES OF INCORPORATION..........29
General..............................................................29
Stockholder Vote Required............................................29
PROPOSAL 3: APPROVAL OF AMENDMENT II TO THE ARTICLES OF INCORPORATION.........30
General..............................................................30
Stockholder Vote Required............................................30
PROPOSAL 4: APPROVAL OF THE 2001 STOCK INCENTIVE PLAN.........................31
Description of the 2001 Plan.........................................32
EXECUTIVE COMPENSATION...............................................35
DESCRIPTION OF SECURITIES............................................36
Stockholder Vote Required............................................37
PROPOSAL 5: RATIFICATION OF THE APPOINTMENT OF THE INDEPENDENT AUDITORS.......38
General..............................................................38
Stockholder Vote Required............................................38
GENERAL AND OTHER MATTERS.....................................................40
SOLICITATION OF PROXIES.......................................................40
STOCKHOLDER PROPOSALS.........................................................40
EXHIBIT A - Contribution Agreement and Amendments...............................
EXHIBIT B - Amendments I and II to Articles of Incorporation....................
EXHIBIT C - 2001 Stock Incentive Plan...........................................
EXHIBIT D - JPAL, Inc.'s Annual Report on Form 10-KSB for the Fiscal
Year Ended December 31, 2000........................................
EXHIBIT E - JPAL, Inc.'s Quarterly Report on Form 10-QSB for the Period
Ended September 30, 2001............................................
EXHIBIT F - Pro Forma Information...............................................
EXHIBIT G - Essential Reality, LLC's Financial Statements.......................
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SUMMARY
The following is a summary of the terms of the Proposals. This summary
is qualified by the more detailed description appearing elsewhere in this Proxy
Statement. We urge you to carefully read this Proxy Statement, and the exhibits
hereto, in their entirety because the information in this summary is not
complete.
o We intend to issue up to 11,000,000 shares of our common stock in
exchange for all of the outstanding membership interests of Essential
Reality, LLC. As a result of this transaction, we will acquire and
assume the business of Essential Reality, LLC and the current owners of
Essential Reality, LLC will own approximately 70% of our company. See
"Proposal 1: Approval of the Exchange - Description of the Exchange."
o Concurrently with the exchange transaction, we also intend to
consummate a private placement of our common stock and warrants to
purchase shares of our common stock. The closing of the exchange
transaction and the successful completion of the private placement are
conditioned on one another. We must sell a minimum of 1,850,000 shares
of our common stock in the private placement in order for the
transactions for which we are seeking approval to occur. See "Proposal
1: Approval of the Exchange - Material Terms of the Exchange."
o We have the option to sell an additional 288,462 shares of our common
stock in the private placement. If any such additional shares of our
common stock are sold, the number of shares of our common stock that we
will issue to the current owners of Essential Reality, LLC will be
reduced by the corresponding figure, who will accordingly receive
between 10,711,538 and 11,000,000 shares of our common stock for their
membership interests. We can not yet assure you whether any of these
288,462 shares of our common stock will be sold in the private
placement. See "Proposal 1: Approval of the Exchange - Material Terms
of the Exchange."
o Upon completion of the exchange transaction, our business will be the
business currently being conducted by Essential Reality. See "Business
of Essential Reality."
o Our stockholders will not receive any cash, stock or other property in
connection with, or as a result of, the exchange transaction. See
Section "Proposal 1- Approval of the Exchange - Description of
Exchange."
o In conjunction with the exchange transaction, we are proposing the
adoption of an amendment to our Amended and Restated Articles of
Incorporation (the "Articles of Incorporation") to change our name to
"Essential Reality, Inc." See "Proposal 2 - Approval of Amendment I to
the Articles of Incorporation."
o We are also proposing the adoption of an amendment to our Articles of
Incorporation to authorize Blank Check Preferred Stock. See "Proposal 3
- Approval of Amendment II to the Articles of Incorporation."
o In addition, we are seeking approval for a stock incentive plan to
provide additional incentive to our directors, officers, employees and
consultants by granting them options to purchase shares of our common
stock. See "Proposal 4 - Approval of the 2001 Stock Incentive Plan."
o Stockholder approval of Proposal 1, Proposal 2 and Proposal 3 of this
Proxy Statement requires the affirmative vote of a majority of our
outstanding shares of common stock. Stockholder approval of Proposal 4
and Proposal 5 in this Proxy Statement requires the affirmative vote of
a majority of the votes cast. Our controlling stockholder has already
informed us that he will be voting in favor of all of the proposals set
forth herein. The number of votes held by the controlling stockholder
is sufficient to satisfy the stockholder vote requirement for each of
the proposals. Therefore, no additional votes will be needed to approve
any of the proposals. See "Questions and Answers About the Meeting."
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QUESTIONS AND ANSWERS ABOUT THE MEETING
What is being voted on at the Meeting?
Our sole director is asking stockholders to consider four items at this
Special Meeting of Stockholders:
(i) To approve the Contribution Agreement attached hereto as
Exhibit A and all transactions and developments contemplated
thereby (which we refer to as the "Exchange");
(ii) To approve the amendment to our Articles of Incorporation
whereby our name will be changed to "Essential Reality, Inc."
upon consummation of the Exchange ("Amendment I");
(iii) To approve the amendment to our Articles of Incorporation
whereby Blank Check Preferred Stock will be provided for
("Amendment II");
(iv) To approve our new stock incentive plan (which we refer to as
the "2001 Plan"); and
(v) To approve the appointment of Deloitte & Touche LLP, as our
independent auditors for the fiscal year ending December 31,
2001.
What is the purpose of the Exchange?
The purpose of the Exchange is to allow us to acquire and carry on the
business of Essential Reality and to allow Essential Reality to become a public
reporting company under the Securities Exchange Act of 1934, as amended. It is
anticipated that becoming a publicly reporting company will further enhance
Essential's business visibility and ability to attract and utilize additional
sources of capital.
Who can vote at the Meeting?
Our sole director has set December 21, 2001 as the Record Date for the
Meeting. Only persons holding shares of our common stock of record at the close
of business on the Record Date will be entitled to receive notice of and to vote
at the Meeting. Each share of our common stock will be entitled to one vote per
share on each matter properly submitted for vote to our stockholders at the
Meeting. On the Record Date there were 8,645,260 shares of our common stock
outstanding held by a total of 30 stockholders of record.
What constitutes a quorum for the Meeting?
To have a quorum, we need the majority of the votes entitled to be cast
to be present, in person or by proxy, including votes as to which authority to
vote on any proposal is withheld. Shares of stock abstaining as to any proposal,
and broker non-votes (where a broker submits a proxy but does not have authority
to vote a customer's shares of stock on one or more matters) on any proposal,
will be considered present at the Meeting for purposes of establishing a quorum
for the transaction of business at the Meeting. Each will be tabulated
separately. The shares held by Mr. Frank Drechsler, our controlling stockholder,
are sufficient to form a quorum. Mr. Drechsler has informed us that he will be
present, in person or by proxy, at the Meeting.
How do I vote?
If you complete and properly sign the accompanying proxy card and
return it to us, it will be voted as you direct, unless you later revoke the
proxy. Unless instructions to the contrary are marked, or if no instructions are
specified, shares of stock represented by a proxy will be voted for the
proposals set forth on the proxy, and in the discretion of the persons named as
proxies on such other matters as may properly come before the Meeting. If you
are a registered stockholder, that is, if you hold your shares of stock in
certificate form, and you attend the Meeting, you may deliver your completed
proxy card in person. If you hold your shares of stock in "street name," that
is, if you hold your shares of stock through a broker or other nominee, and you
wish to vote in person at the Meeting, you will need to obtain a proxy form from
the institution that holds your shares of stock.
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Can I change my vote after I return my proxy card?
Yes. Even after you have submitted your proxy, you may change your vote
at any time before the proxy is exercised either by filing with our Secretary,
at the address indicated above, a written notice of revocation or a duly
executed proxy bearing a later date, or by voting in person at the Meeting. The
powers of the proxy holders will be suspended if you attend the Meeting in
person and so request. However, attendance at the Meeting will not by itself
revoke a previously granted proxy.
Any written notice of revocation sent to us must include the
stockholder's name and must be received prior to the Meeting to be effective.
What vote is required to approve each item?
The approval of the business combination with Essential Reality, which
we refer to as the Exchange, and the approval of the amendments to our Articles
of Incorporation require the affirmative vote of a majority of our outstanding
shares of common stock.
The approval of the adoption of the 2001 Plan and the appointment of
Deloitte & Touche LLP as our independent auditors for the fiscal year ending
December 31, 2001 require the affirmative vote of a majority of the votes cast
at the Meeting.
PLEASE NOTE THAT OUR CONTROLLING STOCKHOLDER HAS INFORMED US THAT HE
WILL BE VOTING "FOR" ALL OF THE PROPOSALS SET FORTH IN THIS PROXY STATEMENT. THE
NUMBER OF VOTES HELD BY OUR CONTROLLING STOCKHOLDER IS SUFFICIENT TO SATISFY THE
STOCKHOLDER VOTE REQUIREMENT FOR EACH OF THE PROPOSALS AND NO ADDITIONAL VOTES
WILL CONSEQUENTLY BE NEEDED TO APPROVE ANY OF THE PROPOSALS.
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
Information included in this Proxy Statement may contain
forward-looking statements within the meaning of Section 27A of the Securities
Act and Section 21E of the Securities Exchange Act of 1934, as amended (the
"Exchange Act"). This information may involve known and unknown risks,
uncertainties and other factors which may cause the Company's and/or Essential,
LLC's actual results, performance or achievements to be materially different
from future results, performance or achievements expressed or implied by any
forward-looking statements. Forward-looking statements, which involve
assumptions and describe the Company's and Essential, LLC's future plans,
strategies and expectations, are generally identifiable by use of the words
"may," "will," "should," "expect," "anticipate," "estimate," "believe," "intend"
or "project" or the negative of these words or other variations on these words
or comparable terminology. These forward-looking statements are based on
assumptions that may be incorrect, and there can be no assurance that these
projections included in these forward-looking statements will come to pass. The
Company's and Essential, LLC's actual results could differ materially from those
expressed or implied by the forward-looking statements as a result of various
factors. Neither the Company nor Essential, LLC undertakes an obligation to
update publicly any forward-looking statements for any reason, even if new
information becomes available or other events occur in the future.
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PROPOSAL 1
APPROVAL OF THE EXCHANGE
Description of the Exchange
On August 23, 2001, a definitive Contribution Agreement was signed by
and among the Company, Essential Reality, LLC ("Essential, LLC") and the other
signatories thereto. The agreement was amended on October 31, 2001 and November
30, 2001. The Contribution Agreement, as amended, is referred to in this Proxy
Statement as the Contribution Agreement.
The Contribution Agreement provides for a tax-free exchange of
securities pursuant to the provisions of Section 351 of the Internal Revenue
Code, whereby the Company has made an offer to the members of Essential, LLC to
acquire all of their membership interests of Essential, LLC in exchange for up
to 11,000,000 shares of our common stock (which we refer to as the "Exchange").
The up to 11,000,000 shares of our common stock that we will issue (which we
refer to as the "Exchange Shares") will represent approximately 70% of the
shares of our common stock then outstanding (including between 1,850,000 and
2,138,462 shares of our common stock to be issued in a private placement as more
fully described below), thus giving Essential, LLC's owners control of our
company. JPAL and Essential, LLC have determined that a business combination
between the two represents an opportunity for both our companies to achieve
long-term strategic and financial benefits.
The following are answers to some of the questions about the Exchange
that you, as one of our stockholders, may have. We urge you to read this Proxy
Statement, including the Contribution Agreement, carefully because the
information in this section is not complete.
Has the Board of Directors Approved the Exchange?
Yes. On December 18, 2001 our sole director approved the Contribution Agreement
and all of the transactions and developments contemplated thereby (including the
change of our name to "Essential Reality, Inc.").
Why are the two companies proposing to combine?
Essential, LLC was formed as Freedom Multimedia, L.L.C. in the State of Delaware
in July, 1998 and began active operations in June 1999. Its name was changed to
name to Essential Reality, LLC on December 29, 1999. Essential, LLC was founded
with the goal of developing, manufacturing and distributing next-generation 3D
peripherals for the gaming, PC and professional user communities. Its objective
is to revolutionize the way humans interact with computers and game consoles by
utilizing intuitive, natural movement as the primary input.
We were founded in March 1999 and were engaged in the business of providing
vacation rental properties and services over the Internet. Recently, we have
been seeking business opportunities with the intent to acquire or merge with an
operating business.
We believe that the combination of JPAL and Essential, LLC will prove beneficial
to both companies in that we will once again become an operating company and
Essential, LLC will acquire access to greater capital resources through being a
publicly traded company.
How will the Exchange work?
The Exchange will be a very simple, straight-forward transaction. We will
exchange shares of our common stock for all of the membership interests in
Essential, LLC. Essential, LLC will be acquired by JPAL and subsequently
dissolved. Our name will be changed to Essential Reality, Inc.
Do I have the right to vote on the Exchange?
Yes, you do. That is the main purpose of this proxy statement. We are soliciting
your vote in favor of the Exchange.
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Will my vote have any effect on the outcome?
No, it will not. Mr. Drechsler, our sole director and controlling stockholder,
holds enough votes to approve all of the proposals and he has informed us that
he will be voting his shares in favor of all the proposals discussed herein.
If the Exchange is approved, do I need to exchange my shares of common stock?
You do not. Since we are the acquiring entity, you will not be exchanging your
shares.
How many shares will I have after the Exchange?
The number of shares you own will remain the same. Nonetheless, your ownership
percentage will be diluted. We are issuing up to 11,000,000 shares of our common
stock in the Exchange, subject to certain adjustments as is more fully described
under "Material Terms of the Exchange," below. We will also issue between
1,850,000 and 2,138,462 shares of our common stock in a private placement
(subject to approval of the Exchange). We cannot assure you what your exact
percentage will be, or that the private placement will be consummated. However,
the shares of our common stock currently held by Mr. Drechsler, our president
and sole director, will be canceled prior to the closing of the transaction, as
will certain shares of our common stock held by certain of our other
stockholders. The total number of shares of our common stock issued and
outstanding will therefore increase to 15,695,055 from the current 8,645,260. In
addition, we will issue certain warrants to purchase shares of our common stock
as further described below (see "Material Terms of the Exchange"). If all these
warrants were immediately exercised, there would be 18,320,769 shares of our
common stock outstanding.
When and where can I trade my shares after the Exchange?
Our shares of common stock are currently traded on the NASD Over-the-Counter
Bulletin Board ("OTC BB") under the symbol "JPAL." The Exchange will not affect
where our shares are traded, though we anticipate changing our ticker symbol to
"ESSE," subject to approval of the Exchange and availability of the symbol.
Will the shares to be issued in the Exchange be freely trading?
The shares that will be issued to the current members of Essential, LLC will not
be registered upon issuance. Section 5 of the Securities Act prohibits the sale
of unregistered securities. The person and entities to whom or to which, as the
case may be, shares of our common stock shall be issued under the Contribution
Agreement will be granted registration rights with respect to a portion of such
shares of common stock.
Even if the shares of common stock are registered, however, other restrictions
will still apply. Certain securities may not be freely traded by affiliates,
generally defined by the Commission as being in a control relationship with the
issuer. None of the foregoing, however, will affect the status of the currently
issued and freely trading shares of our common stock.
When do you expect the Exchange to be completed?
We hope to complete the Exchange as soon as possible, assuming that all of the
conditions to the closing of the Exchange as set forth in the Contribution
Agreement are either waived or completed to the satisfaction of the parties. The
Exchange will be effected through the filing of Articles of Exchange in the
state of Nevada.
What are the tax consequences of the Exchange?
The Exchange is intended to qualify as a tax-free reorganization for United
States federal income tax purposes. If the Exchange does so qualify, United
States members of Essential, LLC generally would recognize no gain or loss upon
receipt of our shares of common stock in exchange for Essential, LLC membership
interests. We believe, but cannot
assure you, that there will be no fiscal consequences whatsoever for holders of
our shares. You are urged to consult your own tax advisor for tax implications
related to your particular situation.
What do I need to do in order to vote?
After reading this document, you will need to execute the proxy card provided
along with this proxy statement and any other documents applicable to you that
are included in this packet. Alternatively, you may appear at the Meeting and
vote in person. There is no legal distinction between the two methods.
10
Who can help answer my questions?
If you have any questions about the Exchange, you should contact Arthur Marcus,
Esq., at:
Gersten, Savage, Kaplowitz, Wolf & Marcus, LLP
101 East 52nd Street
New York, NY 10022
Telephone No.: (212) 752-9700
Facsimile No.: (212) 980-5192
If you have questions about our business, you should contact Frank Drechsler,
President, at:
JPAL, Inc.
17620 Oak Street
Fountain Valley, CA 92708
Telephone No.: (714) 785-2095
Facsimile No.: (949) 660-9010
If you have questions about the business of Essential, LLC, you should contact
Brian Jedwab, General Counsel, at:
Essential Reality, LLC
253 West 28th Street
New York, NY 10001
Telephone No.: (212) 244-3200
Facsimile No.: (212) 244-9550
Material Terms of the Exchange
According to the terms of the Contribution Agreement by and among the
Company on the one side and LCG Capital Group, LLC, Martin Abrams, John Gentile
and Anthony Gentile, being all of the Members of Essential, LLC (the "Essential
Members") on the other side, the Company and the Essential Members have
determined that a business combination between the Company and Essential, LLC
presents an opportunity for their respective companies to achieve long-term
strategic and financial benefits. The business combination (the "Exchange") is
to be effected through a transfer by the Essential Members of all of their
respective Membership Interests in Essential, LLC to the Company in exchange for
up to 11,000,000 shares of the Company's common stock (the "Exchange Shares").
Simultaneously with the consummation of the Exchange, the Company will
also engage in a private placement (the "Private Placement") whereby shares of
Common Stock (the "Private Placement Shares") and certain warrants (the "Private
Placement Warrants") will be offered. The Private Placement Shares issued
through the Private Placement together with the Exchange Shares will equal no
less than 80% of the outstanding shares of Common Stock of the Company. The
closing of the Exchange is conditioned upon, among other things: (i) stockholder
approval to consummate the Exchange, and; (ii) receipt by the escrow agent of a
sufficient number of subscriptions to purchase at least 1,850,000 shares of
Common Stock offered in the Private Placement which would generate net proceeds
of at least $4,500,000 plus an amount of cash sufficient to pay off certain
debts.
Frank Drechsler, who currently owns 5,100,260 of the 8,645,260
outstanding shares of Common Stock (representing approximately 59% of the
outstanding shares of the Common Stock) has executed a written consent to
approve and adopt the Contribution Agreement. Pursuant to Nevada law, the
Company is hereby seeking stockholder approval of the Exchange and, pursuant to
the Exchange Act, filing this Proxy Statement on Schedule 14A. Mr. Drechsler has
agreed to the cancellation of all of his shares of the Common Stock, effective
upon the closing of the Exchange. In addition, an aggregate of 699,945 shares of
Common Stock currently held by certain other Stockholders, specifically
Baybridge Capital Corp., Brevard Investments, Inc. and Wolver Limited, will also
be cancelled at such time. Immediately after the cancellation of such shares,
taking into account the Exchange Shares and the Private Placement Shares, there
will be 15,695,055 shares of Common Stock outstanding.
11
The Contribution Agreement contemplates that 11,000,000 shares of
Common Stock will be issued to the Members. However, the private placement
memorandum allows for the offering of an additional 288,462 shares of Common
Stock (the "Additional Private Placement Shares"). If such additional 288,462
shares of Common Stock are sold to investors, the number of Exchange Shares will
be reduced accordingly. Consequently, the total number of shares of Common Stock
that will be issued in the Exchange and the Private Placement will be
12,850,000; whether the ratios will constitute 11,000,000 Exchange Shares,
1,850,000 Private Placement Shares and no Additional Private Placement Shares or
10,711,538 Exchange Shares, 1,850,000 Private Placement Shares and 288,462
Additional Private Placement Shares (or any other set of figures ranging within
these parameters) cannot be determined until the Private Placement has closed.
Whatever the eventual outcome of the Private Placement, there will in any event
be 15,695,055 shares of Common Stock issued and outstanding subsequent to the
Closing Date.
In addition, up to an additional 2,625,714 shares of Common Stock will
be reserved for issuance pursuant to the exercise of warrants, consisting of the
Private Placement Warrants and the Bridge Warrants (see "Description of
Securities - Warrants"), resulting in an aggregate of 18,320,769 shares of
Common Stock outstanding on a fully diluted basis. The sale of Additional
Private Placement Shares, should such sale transpire, will not affect the number
of Private Placement Warrants issued.
The terms of the Contribution Agreement are more fully described below.
Terms of the Contribution Agreement
The following discussion summarizes the material terms of the
Contribution Agreement but does not purport to be a complete statement of all
provisions of the Contribution Agreement and is qualified in its entirety by
reference to the Contribution Agreement, a copy of which is attached to this
Proxy Statement as Exhibit A and incorporated herein by reference. Stockholders
are urged to read the Contribution Agreement carefully as it is the legal
document that governs the Exchange.
The Exchange. Subject to the terms and conditions of the Contribution
Agreement, all of the members of Essential, LLC will transfer all of their
respective membership interests in Essential, LLC to the Company in exchange for
up to 11,000,000 shares of Common Stock. Following the Exchange, the Company
will continue under the name "Essential Reality, Inc."
Closing. The closing of the Exchange (the "Exchange Closing") will take
place at a mutually agreed upon time after the satisfaction or waiver of the
conditions set forth in the Contribution Agreement (the "Closing Date").
Effective Time of the Exchange. As soon as practicable following the
satisfaction (or waiver) of all of the conditions to the Exchange, the Company
will file articles of exchange in such form as is required by and executed in
accordance with the relevant provisions of Nevada law and make all other filings
or recordings required under Nevada law. The Exchange will become effective at
such time as the articles of exchange are duly filed with the Secretary of State
of the State of Nevada or at such subsequent time as the Company and Essential,
LLC agree and specify in the articles of exchange (the "Effective Time").
Articles of Incorporation and Bylaws of the Company Following the
Exchange. The Contribution Agreement provides that the Articles of Incorporation
(as amended by Proposals 2 & 3 herein) and Bylaws of the Company, as in effect
at the Effective Time, will be the Articles of Incorporation and Bylaws,
respectively, of the Company following the Exchange.
Directors and Officers of the Company Following the Exchange. The
Contribution Agreement provides that the directors and officers of the Company
shall resign effective as of the Effective Time and shall be replaced by the
managers and officers of Essential, LLC immediately prior to the Effective Time,
who shall serve as directors and officers of the Company until their respective
successors are duly elected or appointed and qualified.
12
Representations and Warranties. The Contribution Agreement contains
various representations and warranties of the Company and Essential, LLC. The
Company represents and warrants to Essential, LLC as to, among other things: (i)
capital structure; (ii) financial statements; (iii) absence of certain changes;
(iv) no liabilities or debts; (v) litigation; (vi) contracts; and (vii) SEC
filings. Essential, LLC represents and warrants to the Company as to, among
other things: (i) financial statements; (ii) absence of certain changes; and
(iii) absence of litigation. All representations and warranties in the
Contribution Agreement expire as of the Exchange Closing.
Certain Covenants of the Parties. Pursuant to the Contribution
Agreement, the Company has agreed, among other things, that (i) prior to or
simultaneous with the Exchange Closing, it will use its best efforts to
consummate the Private Placement (see " - Conditions to the Exchange"); (ii) at
the time of the Exchange Closing, it will have at least $4,500,000 of cash, plus
additional funds to pay off certain loans; (iii) at the time of the Exchange
Closing (assuming consummation of the Private Placement), its outstanding
capitalization shall consist of 4,695,055 shares of common stock and warrants to
purchase up to 2,625,714 shares of its common stock; (iv) immediately prior to
the Exchange Closing, except for certain permitted loans set forth in the
Contribution Agreement, the Company shall have no liabilities or debts
whatsoever; (v) it shall prepare and file this Proxy Statement; (vi) the Company
shall indemnify Essential, LLC and its officers, members and employees from any
losses, claims, damages or expenses incurred as a result of breaches of the
Contribution Agreement by the Company (which indemnification shall survive the
Exchange Closing); and (vii) between the date of the Contribution Agreement and
the Closing Date, it shall not conduct any business whatsoever without the prior
written consent of Essential, LLC.
Pursuant to the Contribution Agreement, Essential, LLC and its members
have agreed, among other things, that (i) promptly following the Closing Date,
they will cause the Company to file a registration statement covering the resale
of certain shares of the Company's common stock (see "Registration Rights"
hereinafter); and (ii) subject to the exceptions set forth in the Contribution
Agreement, 2,000,000 of the Exchange Shares and certain Private Placement Shares
may not be sold for a period of one year following the Closing Date.
In addition, subject to the terms and conditions of the Contribution
Agreement, each of the parties has agreed (i) to keep confidential all
information furnished in connection with the Exchange, (ii) to promptly inform
the other parties of the occurrence of certain events, (iii) to use reasonable
best efforts to effectuate the Exchange, and (iv) to consult each other before
issuing any press release with respect to the Exchange.
Conditions to the Exchange. The obligations of the Company and
Essential, LLC to effect the Exchange are subject to the satisfaction or waiver
on or prior to the Closing Date of a number of conditions, including but not
limited to the following:
(a) The Company delivering evidence satisfactory to Essential, LLC
that a majority of the Company's Stockholders approved the
Exchange and the transactions contemplated thereby and that
this Proxy Statement was mailed at least 20 days prior to the
Closing Date;
(b) The Company consummating a private placement (the "Private
Placement") of shares of its common stock (the "Private
Placement Shares") and common stock purchase warrants (the
"Private Placement Warrants"), with net proceeds to the
Company of at least $4,500,000 plus additional funds to pay
off certain indebtedness;
(c) Each of the representations and warranties of the Company and
Essential, LLC, as applicable, set forth in the Contribution
Agreement shall have been true and correct in all material
respects as of the date of the Contribution Agreement and as
of the Closing Date, except where the failure to be so true
and correct would not have a material adverse effect on the
party making such representation or warranty; and
13
(d) The Company and Essential, LLC, as applicable, shall have
performed in all material respects all obligations required to
be performed by it under the Contribution Agreement at or
prior to the Closing Date.
Termination. The Contribution Agreement may be terminated at any time
prior to the Exchange Closing as follows:
(a) By mutual written consent of the parties to the Contribution
Agreement;
(b) By either the Company or Essential, LLC, if without fault of
the terminating party the Exchange Closing shall not have
occurred on or before January 31, 2002, unless such date is
extended for up to thirty days by mutual consent of the
Company and Essential Reality, LLC (the "Termination Date");
and
(c) By the Company or Essential, LLC, if the other party shall
have failed to comply in any material respect with any of its
covenants or agreements contained in the Contribution
Agreement or if any representation or warranty of the other
party made in the Contribution Agreement shall not have been
true when made or on and as of the Closing Date, except (i)
for those representations and warranties that address matters
only as of a particular date (which shall remain true and
complete when given and at any time thereafter as of such
date) and (ii) where the failure to be so true and correct
would not have a material adverse effect on the applicable
party.
Effect of Termination. In the event of termination of the Contribution
Agreement as provided under "-- Termination," the Contribution Agreement will
become void and there will be no liability or obligation on the part of the
parties, except with respect to certain provisions of the Contribution Agreement
regarding maintaining the confidentiality of non-public information, the payment
of fees and expenses, the indemnification by the Company and the making of
public announcements.
Registration Rights. Pursuant to the Contribution Agreement, following
the Exchange Closing, the Company will promptly file a Registration Statement
covering the resale of 2,000,000 of the Exchange Shares, the Private Placement
Shares and the Private Placement Warrants. See "Federal Securities Law
Consequences" herein.
Certain Federal Income Tax Consequences
Since no action is being taken in connection with the currently
outstanding shares of the Company's Common Stock, no gain or loss will be
recognized by the Stockholders in connection with the Exchange.
It is expected that the transfer of the membership interests of
Essential, LLC from the Members pursuant to the Exchange will be tax-free to
such Members. Accordingly, the aggregate tax basis of Essential, LLC's assets
after the Exchange will equal the aggregate tax basis of the Essential, LLC
membership interests in the hands of the Members immediately prior to the
Exchange.
Accounting Treatment of the Exchange
The transaction is expected to be accounted for as a reverse
acquisition in which Essential, LLC is the accounting acquiror and the Company
is the legal acquiror. The management of Essential, LLC will be the management
of Essential, Inc., the name of the Company subsequent to the filing of the
Articles of Exchange. Since the Exchange is expected to be accounted for as a
reverse acquisition and not a business combination, no goodwill is expected to
be recorded in connection therewith and the costs incurred in connection with
the Exchange are expected to be accounted for as a reduction of additional
paid-in capital.
14
Appraisal Rights
Under Nevada law, the state in which the Company is incorporated, the
Company is not required to provide dissenting Stockholders with a right of
appraisal in any matter to be voted upon in connection herewith and Stockholders
are accordingly not provided with such right.
Interests of Certain Persons in the Exchange
No director, executive officer, associate of any director or executive
officer, or any other person has any substantial interest, direct or indirect,
by security holdings or otherwise, resulting form the proposals set forth
herein, which is not shared by all other Stockholders pro rata, and in
accordance with their respective interests.
Federal Securities Law Consequences
The shares of Common Stock being issued to the owners of Essential, LLC
in exchange for the membership interests of Essential, LLC pursuant to the
Exchange were not registered under the Securities Act. It is intended that such
shares will be issued pursuant to the private placement exemption under Section
4(2) and Regulation D of the Securities Act.
The Exchange Shares are deemed "restricted stock" and will bear a
legend indicating that the resale of such shares may be made only pursuant to
registration under the Securities Act or pursuant to an available exemption from
such registration. The Company has agreed to register 2,000,000 of the Exchange
Shares pursuant to the terms of the Contribution Agreement.
15
BUSINESS OF THE COMPANY
General
The Company was incorporated in March 1999 under the laws of the State
of Nevada. From the date of incorporation, the Company has engaged in the
business of providing vacation rental properties and services over the Internet.
Since the end of the fiscal year 2000, the Company's revenues have decreased
significantly because its management began focusing on redeveloping its web site
and therefore conducted no marketing activities. More recently, the Company has
been seeking businesses and business opportunities with the intent to acquire or
merge with an operating business, which resulted in the Company entering into
the Contribution Agreement with Essential, LLC. Upon consummation of the
Exchange, the Company's business will be Essential, LLC's current business.
On June 15, 2001, Mr. Frank Drechsler acquired 1,020,052 shares of the
Company's common stock from the two officers and directors of the Company at
such time. On June 25, 2001, Mr. Drechsler was appointed a director of the
Company and the two other directors and officers resigned. On June 26, 2001, Mr.
Drechsler was appointed as the President and Secretary of the Company.
Until consummation of the Exchange, the Company's principal executive
offices will be located at 17620 Oak Street, Fountain Valley, California 92708.
After the Exchange, the Company's principal executive offices will be located at
Essential Reality, Inc., 49 West 27th Street, New York, New York 10001.
Financial Statements
The Company's financial statements are included herewith as part of the
Company's annual report on Form 10-KSB for the fiscal year ended December 31,
2000 and the Company's quarterly report on Form 10-QSB for the period ended
September 30, 2001, attached hereto as Exhibits D and E, respectively.
Market for Common Equity and Related Stockholder Matters
On April 19, 2001, the Company was approved for quotation on the
Over-the-Counter Bulletin Board ("OTC BB") under the ticker symbol "JPAL." The
following table sets forth, for the periods indicated, the range of the high and
low bid quotations for the shares of common stock as quoted on the OTC BB. The
reported bid quotations reflect inter-dealer prices, without retail markup,
markdown or commissions, and may not necessarily represent actual transactions.
As of the Record Date, there were 8,645,260 shares of the Company's common stock
outstanding.
2001 HIGH LOW
---- ---- ---
2nd Quarter $1.00 $0.263
3rd Quarter $7.00 $1.00
4th Quarter $6.05 $2.97
2002
----
1st Quarter (through January __, 2002) $ $
The closing price for the Common Stock on January __, 2002, was
$_______.
The Company has never paid or declared a dividend on the Common Stock.
The Company intends, for the foreseeable future, to retain all future earnings
for use in its business. The amount of dividends the Company pays in the future,
if any, will be in the discretion of the Board of Directors and will depend upon
the Company's earnings, capital requirements, financial condition and other
relevant factors. The Company has approximately 30 holders of record of the
Common Stock. The Company effectuated a five-for-one forward split as of July 5,
2001.
16
BUSINESS OF ESSENTIAL REALITY
General
Essential Reality, LLC ( "Essential, LLC") was formed as Freedom
Multimedia, L.L.C. in the State of Delaware on July 9, 1998 and began active
operations on June 1, 1999. Essential, LLC changed its name to Essential
Reality, LLC effective December 29, 1999. Essential, LLC was formed to develop,
manufacture and market a suite of computer peripheral devices, with initial
emphasis on a product called "P5(TM)." P5(TM) is a device shaped in the form of
a glove that controls the movement of the cursor on a computer screen. P5(TM)
enables three-dimensional movement of the cursor as well as pitch, yaw and roll.
P5(TM) is controlled by the user moving his hand or bending his fingers.
In 1989, the "Nintendo Power Glove" was launched. The Power Glove
offered 3D data-capture capabilities through the combination of patented
bend-sensor and motion capture technologies. Licensed to Mattel, the product was
sold with the Nintendo console. The product eventually sold around 1.6 million
units in the United States, Europe and Japan. The original product generated
over $80 million dollars of retail sales in the initial 18 months of release. At
the time, Mattel focused on meeting this demand but failed to develop enough
related games and applications, resulting in an eventual decline in sales. The
product fell out of use by the consumer market but has remained of interest to
certain gamers and virtual reality software and hardware developers, who
continue to buy and sell them in a "secondary" market and reprogram them for use
with virtual reality systems. Mattel's rights terminated in 1992.
Today, 3D games and other 3D user interfaces are the standard, rather
than the exception. The demand for a device to suit the nature of 3D interaction
has been raised by many in the electronic entertainment as well as PC industry.
According to IDC, the United States video game industry is expected to reach
$21.1 billion by 2003. Essential, LLC is positioning itself to take advantage of
the opportunities in this marketplace with the development of its first product,
P5(TM), a 3D input device capturing finger-bend and relative hand-position to
enable intuitive interaction with 3D environments.
Technology
P5(TM) is designed as a low-cost natural interface for the computer,
game consoles and other USB-compatible 3D-software platforms. The product will
utilize a patented bend sensor technology to accurately determine the bend of
the user's five fingers. In addition, P5(TM) will track the relative position of
the hand in space.
P5(TM) will act primarily as a peripheral to computers and game
consoles. Communication with the central processing unit (CPU) will be primarily
via USB port. P5(TM) will consist of a hand-worn glove with embedded
electronics. The sensing of finger bend will be done via conductive inks with
variable electrical resistance, detected by position changes of hand digits
above a baseline bias voltage and resistance. It will also be capable of gesture
recognition of specific placement of thumb/finger digits. Starting position and
movement of the device will be tracked with electronics and firmware/software
supporting x-, y- and z-axis positioning. The tracking technology is
line-of-sight infrared optical using enough high/low glove-mounted LED's to
enable a complete 6-degrees-of-freedom positioning solution, which are x-, y-,
z-, yaw, pitch and roll. Two pairs of horizontal and vertical detector clusters
will receive the LED transmissions. In addition, these same components will
provide 3D positioning information via triangulation.
In addition to the bend measurements, P5(TM) will measure yaw, pitch
and roll as defined below.
17
[GRAPHIC OMITTED: YAW, PITCH AND ROLL DIAGRAM]
Figure 1: Yaw, Pitch and Roll Diagram
Yaw is defined as movement along a plane parallel to the ground. Yaw
motion is achieved by holding the hand palm-downward and parallel to the ground,
and rotating the hand side to side on a horizontal plane.
Pitch is defined as movement along an axis that is parallel to the top
of the hand and perpendicular to the wrist, such that it would enter the wrist
below the thumb and exit below the little finger. Pitch is accomplished by
moving the hand up and down while holding the forearm parallel to the ground.
Roll is defined as rotation of the hand about an axis parallel to the
ground, entering the hand at the tip of the middle finger and running through
the wrist parallel to the forearm. Roll is accomplished by holding the hand flat
with the palm facing the ground and turning the arm such that the thumb rises
and the little finger falls or vice versa.
Current optical tracking systems normally associated with motion
capture animation techniques retail for $1,000 or more. The Company's optical
tracker developed for P5(TM) will be created for under $10 and will supply a
level of 6-degree tracking far beyond that of the original Power Glove, which
only had 3-degrees of freedom.
Design Prototype
Essential, LLC's industrial design firm has conducted extensive user
research to develop a model for product design for P5(TM). The first generation
P5(TM) will be designed for compatibility with the following computer operating
systems: Microsoft Windows 98, MS NT and MS 2000. Also, it is expected that it
will shortly be compatible with the following Game Consoles: PlayStation2 and
Microsoft Xbox. Continuing software development will target other operating
systems, such as MAC OSX, Unix, Linux and Midi.
Intellectual Property
Essential, LLC is exploring intellectual property protection of
P5(TM)for dynamic manipulation of computer- generated objects in a
multi-dimensional environment. P5(TM) will benefit from Essential, LLC's
proprietary bend sensor and tracking technology as a means for coordination of
movement between human and machine. Essential, LLC believes that the integration
of such technologies into the glove interface, in combination with proprietary
software and firmware applications and drivers, will result in a superior
product at a low, cost effective price point not previously recognized in the
field. The securing of intellectual property rights in its glove device should
enable Essential, LLC to control, market, license, manufacture and distribute
P5(TM) in the United States and potentially worldwide.
18
Pricing
Essential, LLC is targeting an initial manufacturer's suggested retail
price of $129 for P5(TM). Essential, LLC believes that this price point is
substantially below that of any direct competitor product and within the
tolerable price range for products in each of the target markets.
Strategy
Essential, LLC has identified numerous marketing and distribution
channels to build a brand and capture a mass market for P5(TM). The initial
scheduled launch in the first quarter of 2002 will primarily be directed at the
gaming market. As part of its strategy, Essential, LLC intends on supporting the
development of P5(TM) enabled games in order to promote the full use of the
product. The second phase will be aimed at the broader PC application market,
where expanded broadband is expected to lead to the development of robust online
3D worlds. Essential, LLC expects P5(TM) to enable people to work intuitively
within these new environments. The third phase will concentrate on the
professional market, where Essential, LLC expects users ranging from engineers
to surgeons to find a use for P5(TM) technology. In the future, Essential, LLC
has plans for next generation products that are wireless, that monitor sweat and
pulse and that allow for tactile feedback.
Competition
The market for peripheral input devices, including mouses and
joysticks, is very competitive. In addition, Sony and Nintendo, who currently
dominate the interactive entertainment software industry, may determine to
develop their own 3D peripheral port device and have the financial resources to
withstand significant price competition and to implement extensive advertising
campaigns. Many of our competitors have far greater financial, technical,
personnel and other resources than we do, and many are able to carry larger
inventories and adopt more aggressive pricing policies. Prolonged price
competition or reduced operating margins would cause our profits to decrease
significantly.
Employees
As of the date of this Proxy Statement, Essential, LLC has nine
full-time salaried employees, consisting of one management, three sales &
marketing, two clerical and three in product development and maintenance.
Essential, LLC believes that its relationship with its employees is
satisfactory.
Property
Essential, LLC currently leases office space at 253 West 28th Street,
New York, New York 10001. Essential, LLC has recently signed a lease for office
space of approximately 5,000 square feet for which it will pay $10,570 and for
which it anticipates paying approximately $11,000 per year for the remaining
four years of the lease. Essential, LLC's new offices are located at 49 West
27th Street, New York, New York 10001.
Legal Proceedings
Essential, LLC is not a party, nor to the knowledge of its management
and board of directors threatened to be made a party, to any litigation or
governmental proceeding.
19
MANAGEMENT OF ESSENTIAL REALITY
The following table sets forth certain information concerning the
current directors and executive officers of Essential, LLC. Prior to the
Exchange Closing, Essential, LLC shall determine who the directors and officers
of the Company will be immediately following the Exchange Closing.
Name Age Position
---- --- --------
Humbert B. Powell, III 63 Chief Executive Officer
Arthur L. Goldberg 62 Chief Financial Officer
Reuben Levine 36 Chief Operating Officer
Martin Currie 36 Vice President, Business Development
David Devor 38 Vice President, Marketing
Stanley Friedman 59 Vice President, Manufacturing
Aaron Gavios 43 Vice President, Sales and Distributions
Richard Rubin 44 Vice President, Product Development
Humbert B. Powell, III, Essential, LLC's acting Chief Executive
Officer, spends as much time as he deems necessary to fulfill such duties. He
has since November, 1996, been a Managing Director at Sanders Morris Harris, a
regional investment-banking firm headquartered in Houston, Texas, with a branch
in New York City, where he resides. Mr. Powell served as Chairman of Marleau,
Lemire USA and Vice Chairman of Marleau, Lemire Securities, Inc. between 1994
and 1996. Prior to his employment with Marleau, Lemire he served as a Senior
Managing Director in the Corporate Finance Department of Bear Stearns & Co.,
from 1984 to 1994, with responsibilities for the Investment Banking effort both
domestically and internationally. He is also a Director of Lawman Armour Corp.,
Bikers Dream Inc., World Water Corp., and a trustee of Salem-Teikyo University.
Arthur L. Goldberg, Essential, LLC's Chief Financial Officer, was
appointed on December 12, 2001. Mr. Goldberg has over twenty-five years of
business experience in financial and operational management positions. He has
negotiated and closed acquisitions, divestitures, licenses, joint ventures and
major product purchases and sales both domestically and abroad. Additionally, he
has negotiated and structured the funding of over $300 million from public and
private sources, including initial public offerings and commercial banks and
other lenders. Mr. Goldberg has since February 1999 been a partner of Tatum CFO
Partners, LLC, a firm that provides chief financial officer services to
companies. In that capacity, he served as the CFO of Register.com, Inc. (Nasdaq:
RCOM) where he was instrumental in making important infrastructure improvements
and in implementing tax planning that resulted in significant savings. He was
prior thereto a consultant to several small companies, during which time he also
served as CFO of a privately owned hi-tech incubator, preparing the company for
its next round of financing, preparing business plans and financial models and
improving internal procedures and systems. From March 1996 until August 1998, he
served as Vice Chairman, Chief Operating Officer and Chief Financial Officer of
Complete Management, Inc., a physician practice management company. In October,
1999, Complete Management, Inc. filed for bankruptcy. Additionally, during his
professional career, Mr. Goldberg held several CFO positions in various other
enterprises, successfully implementing and managing equity financings as well as
secured and unsecured debt and international trade finance transactions and
facilities. He has over the course of his professional life served in various
capacities, including divisional controller of a heavy manufacturing company,
CEO of an import/export distribution business and operations manager of a group
of manufacturing companies with annual revenues in excess of $100 million
dollars. Mr. Goldberg is both a CPA and an attorney, with an MBA from the
University of Chicago. His law degrees (JD and Masters of Laws in Taxation) are
from New York University and his Bachelor degree is from The City College of New
York.
20
Reuben Levine, Essential, LLC's Chief Operating Officer, is responsible
for day-to-day operations of Essential, LLC. Mr. Levine was the president of Biz
Definitions LLC from March, 2000 until November of 2001, when he accepted his
position with Essential, LLC. Prior thereto he was a vice president of Chase
Manhattan Bank, where he spent six years leading some of its mission-critical
business and technology transformation initiatives in its retail and wholesale
operations. Most recently, he served as the Director of Business Development for
the bank's Internet Division, Chase.com. While at Chase.com, Mr. Levine managed
ongoing business development activities relating to numerous lines of business,
which included initiating, screening and coordinating all aspects of over a
dozen transactions. Additionally, Mr. Levine managed teams of over 30 internal
staff members and external consultants for numerous high-priority process
re-engineering initiatives. Throughout Chase's (and formerly Chemical Bank's)
mergers, Mr. Levine managed organization-wide milestones throughout the bank's
retail division that contained high-risk implications in the event of failure.
From August 1993 to September, 1994, Mr. Levine was employed by BDO Seidman,
where he held the title of Senior Analyst. He began his career in investment
banking, with four years in Fortune 500 structured finance and trade finance
while at Bankers Trust Company and Bank Leumi Trust Company of New York. Over
the past year and a half he has also served as advisor to over a dozen
technology start-ups in a broad range of industries. Mr. Levine holds
professional certifications in the areas of strategic design and operational
modeling/simulation, developed and facilitated by MIT and Stanford University
graduate level programs.
Martin Currie, Essential, LLC's Vice President of Business Development,
is a seasoned marketing executive who has been immersed in the video game
industry for over seven years. Prior to June, 2001, when Mr. Currie accepted his
current position with Essential, LLC, he served as a consultant to various
firms. From January, 1998 until January, 2001, he was Director of Marketing for
Infogames, Inc. (formerly GT Interactive), where he oversaw the launch of
numerous titles. From January, 1995 until December, 1997, Mr. Currie was
Marketing Director for RDA International, an advertising agency for Acclaim
Entertainment and GT Interactive, where he took a lead role in the development
of various major marketing campaigns. Before entering the video game industry,
Mr. Currie honed his marketing skills at a number of prestigious advertising and
design agencies in New York City, including the Arnell Group where he worked on
the Donna Karan and DKNY accounts, and Frankfurt Balkind Partners, where he
worked on many high-profile projects.
David Devor, Essential, LLC's Vice President of Marketing, is
responsible for marketing and branding of Essential, LLC's products. Prior to
joining ER, Mr. Devor founded and managed a large chain of home entertainment
furnishings centers. Mr. Devor also has many years of experience managing
private equity investments through his position with Devor Capital Investments
LLC, which constituted the principal focus of his activities from 1991 until
June of 1999, when he joined Essential, LLC. The investment firm specializes in
high-tech companies with a primary focus on interactive entertainment,
electronic gaming and Internet-related opportunities. On February 27, 1996, Mr.
Devor pleaded guilty to the crime of offering a false instrument for filing. He
received a three-year conditional discharge, paid $10,000, and was obligated to
perform 40 hours of community service.
Stanley Friedman, Essential, LLC's Vice President of Manufacturing,
manages manufacturing and production control for Essential, LLC and has held
this position since March, 2000. Mr. Friedman served as a consultant to various
firms from October of 1999 to February of 2000. From September of 1998 to
September of 1999, Mr. Friedman served as Head of Purchasing and Production at
Gund, Inc. and was prior thereto employed by Eden, LLC, where he managed
overseas vendors while directing daily purchasing, production, inventory
control, quality assurance and logistics operations. He was also involved in
Eden LLC's product forecasting and source selection, negotiation of purchase
orders as well as recruiting, training and supervising managerial staff. He
graduated with a Bachelor of Science degree in Accounting from Duquesne
University in Pennsylvania and has completed graduate courses in Industrial
Management and Cost Estimating. Mr. Friedman holds advanced licenses from the
FAA and FCC, as well as USAF training in electronics.
21
Aaron Gavios, Essential, LLC's Vice President of Sales and
Distribution, is an experienced marketer of products and services with nearly
twenty years of experience managing marketing and sales for large companies.
From September 2000 until October 2001, he was Vice President of Business
Development at K2 Digital, a leading Internet business strategy firm. In that
position, he headed up K2's marketing and business development efforts,
including the areas of public relations and strategic alliances. From March 1999
until September 2000, Mr. Gavios served as Vice President of Global Sales for
MondoSoft, a Danish developer and marketer of Web site search engine technology
(ASP solution). From September 1996 until March 1999, he was the Executive Vice
President of DSTV Holdings, in which he developed and executed a successful
marketing strategy for the sale of digital satellite television in a joint
marketing effort with electric utility companies. From February 1994 until
September 1996, Mr. Gavios was National Sales Manager at Rolodex, where he
oversaw the sales growth of the Electronic Organizer Division. From February
1993 until February 1994, he was the Regional Sales Manager of the Eastern
Region at Casio, where he helped successfully introduce several products
including "My Magic Diary" and the "Z-7000 PDA." Prior to working at Casio, Mr.
Gavios worked at Nintendo as an Area Sales Manager for the Eastern Region, and
helped manage some of the firm's largest accounts, including Toys R Us, Kmart
and KB Toys. While at Nintendo, he played an important role in rolling out the
"World of Nintendo" store within a store concept. Mr. Gavios received his B.A.
in Sociology from Brandeis University and his M.B.A. in Marketing/International
Business from New York University (Stern) Graduate School of Business
Administration.
Richard Rubin, Essential, LLC's Vice President of Product Development,
has twenty years of experience in engineering management positions. Prior to
joining Essential, LLC in April, 2001, he was the vice president of Product
Development for Akrion, a semiconductor equipment manufacturer, a position he
held since November, 1999. Prior thereto, he was since June, 1998, the vice
president of Engineering & Manufacturing for ActiMed Laboratories, a producer of
medical devices. From April, 1995 through June, 1998, Mr. Rubin served as the
Senior Engineering Program Manager/Operations Manager for Materials Research
Corporation/Veeco Industries, Inc., a manufacturer of state-of-the-art
sputtering cluster systems for the thin film industry. Before that he was
Director of Engineering for Eden Toys, a global manufacturer and distributor of
interactive toys, where he was employed since August, 1992. He has a Bachelor of
Industrial Design degree from Rhode Island School of Design and has done
advanced study in design in the United Kingdom at the City of London
Polytechnic.
Promptly following the Exchange Closing, the Company plans on hiring
additional management personnel including but not limited to a full-time Chief
Executive Officer. In addition, the Company anticipates that it will appoint up
to five members for its Board of Directors.
No family relationships exist between any of Essential, LLC's directors
or executive officers.
Except as set forth herein, no officer or director of Essential, LLC
has, during the last five years: (i) been convicted in or is currently subject
to a pending a criminal proceeding; (ii) been a party to a civil proceeding of a
judicial or administrative body of competent jurisdiction and as a result of
such proceeding was or is subject to a judgment, decree or final order enjoining
future violations of, or prohibiting or mandating activities subject to any
Federal or state securities or banking laws including, without limitation, in
any way limiting involvement in any business activity, or finding any violation
with respect to such law, nor (iii) has any bankruptcy petition been filed by or
against the business of which such person was an executive officer or a general
partner, whether at the time of the bankruptcy of for the two years prior
thereto.
22
MANAGEMENT'S DISCUSSION AND ANALYSIS
Overview
Essential Reality, LLC ( "Essential, LLC") was formed as Freedom
Multimedia, L.L.C. in the State of Delaware on July 9, 1998 and began active
operations on June 1, 1999. Essential, LLC changed its name to Essential
Reality, LLC effective December 29, 1999. Essential, LLC was formed to develop,
manufacture and market a suite of computer peripheral devices, with initial
emphasis on a product called "P5(TM)." P5(TM) is a device shaped in the form of
a glove that controls the movement of the cursor on a computer screen. P5(TM)
enables three-dimensional movement of the cursor as well as pitch, yaw and roll.
P5(TM) is controlled by the user moving his hand or bending his fingers.
Essential, LLC is in the development stage. Successful completion of
Essential, LLC's development program and, ultimately, the attainment of
profitable operations are dependent upon future events, including obtaining
adequate financing to fulfill its development activities, and achieving a level
of revenue adequate to support Essential, LLC's cost structure.
Since its commencement, Essential, LLC has not generated revenues and
has incurred significant recurring losses from operations, working capital
deficit and deficit in members' capital. As a result, substantial doubt exists
regarding Essential, LLC's ability to continue as a going concern. Management is
attempting to obtain adequate resources for Essential, LLC to complete its
development plan and produce, market and sell its primary product. Should
management not be able to obtain the necessary financing, Essential, LLC would
not be able to continue as a going concern. Management of Essential, LLC
anticipates that the contemplated Exchange with JPAL, Inc. will lead to greater
opportunities to obtain the requisite resources.
Product development costs are expensed until such time as Essential,
LLC determines that a product is technologically feasible. Product development
costs are capitalized from such date until such time as product development is
substantially complete. Capitalized product development costs will be amortized
on the straight-line basis over the lesser of the estimated useful life of the
product or three years. For the cumulative period from June 1, 1999 (Date of
Commencement) to September 30, 2001, Essential, LLC has expensed all product
development costs.
For the year ended December 31, 2000
Revenue. For the year ended December 31, 2000, Essential, LLC has not
recognized product-related revenues. Management of Essential, LLC does not
anticipate recognizing product-related revenue until the first quarter of 2002
at the earliest.
Interest income, which was earned from a note receivable for Members'
capital as described in the Liquidity and Capital Resources section, was
$104,652.
Operating Expenses. For the year ended December 31, 2000, operating
expenses totaled $1,521,672 compared to $221,804 for the period from June 1,
1999 to December 31, 1999. The increase is due to an increase in product
development, marketing and general and administrative expenses.
Product development costs consist of the fees paid to third-party
developers and materials used in the development and manufacturing of P5(TM).
Product development expense for the year ended December 31, 2000 was $405,308
compared to $221,524 for the period from June 1, 1999 to December 31, 1999. The
increase is due to an increase in fees paid to third-party developers. Included
in product development costs are $105,000 and $145,000 for the year ended
December 31, 2000 and for the period from June 1, 1999 to December 31, 1999,
respectively, paid to a company owned by an individual related to certain
Members of Essential, LLC.
23
Marketing consist of promotion, public relations, corporate identity,
trade shows and related travel. Marketing expense for the year ended December
31, 2000 was $220,466. No such expenses were incurred in the period from June 1,
1999 to December 31, 1999.
General and administrative expenses consisted principally of employee
salaries and benefits, consulting, professional fees and facilities. General and
administrative expenses for the year ended December 31, 2000 was $895,898.
General and administrative expenses was $280 for the period June 1, 1999 to
December 31, 1999. Included in general and administrative expenses are costs
incurred of $147,840 by two entities that are related to certain members of LCG
Capital Group, LLC ("LCG"), an entity that owns 50% of Essential, LLC. Such
costs include consulting fees, employee salaries, occupancy, telephone and
computer leases. In the case of employee salaries, costs are allocated to
Essential, LLC based on the time each employee conducts business specific to
Essential, LLC. In the case of the other expenses, costs are allocated based on
a percentage of resources used by Essential, LLC.
Net loss for the year ended December 31, 2000 was $1,418,954.
For the period ended September 30, 2001
Revenue. For the nine-month period ended September 30, 2001, Essential,
LLC has not recognized product- related revenues. Management of Essential, LLC
does not anticipate recognizing product related revenue until the first quarter
of 2002, at the earliest.
Interest income, which was earned from the note receivable for Members'
capital as described in the Liquidity and Capital Resources section, was
$20,465.
Operating Expenses. For the nine-month period ended September 30, 2001,
operating expenses totaled $1,854,951.
Interest expense for the nine-month period ended September 30, 2001 was
$3,272, of which $1,597 was interest on advances from entities that are
affiliated with LCG and $1,675 was incurred in relation to the bridge loans
described in the Liquidity and Capital Resources section.
Product development costs consist of the fees paid to third-party
developers and materials used in the development and manufacturing. Product
development expense for the nine-month period ended September 30, 2001 was
$655,312.
Marketing consist of promotion, public relations, corporate identity,
trade shows and related travel. Marketing expense for the nine-month period
ended September 30, 2001 was $389,562. Included in marketing expense is $66,400
paid to a company owned by certain Members of Essential, LLC.
General and administrative expenses consisted principally of employee
salaries and benefits, consulting, professional fees and facilities. General and
administrative expenses for the nine-month period ended September 30, 2001 was
$801,190. Included in general and administrative expenses are costs incurred of
$141,800 by two entities that are related to certain Members of LCG. Such costs
include consulting fees, employee salaries, occupancy, telephone and computer
leases. In the case of employee salaries, costs are allocated to Essential, LLC
based on the time each employee conducts business specific to Essential, LLC. In
the case of the other expenses, costs are allocated based on a percentage of
resources used by Essential, LLC.
Net loss for the nine-month period ended September 30, 2001 was
$1,854,951.
24
Liquidity and Capital Resources
Since inception, Essential, LLC has not generated revenues and has
incurred significant recurring losses from operations, working capital deficit
and deficit in Members' capital. For the period from June 1, 1999 (date of
commencement) to September 30, 2001, Essential, LLC has incurred losses of
$3,478,516 and negative cash flow from operating activities and investing
activities of $2,971,010 and $30,948, respectively.
In December 1999, LCG acquired a 50% interest in Essential, LLC for an
aggregate purchase price of $2,500,000. The consideration received was comprised
of $500,000 in cash and a further $2,000,000 evidenced by a note. The note bore
interest at the rate of 6% per annum, had a maturity date of December 13, 2002
and was secured by the membership interest of LCG. The debt due under the note
was fully repaid in July, 2001.
Cash provided by financing activities for the period from June 1, 1999
to September 30, 2001 was $3,002,426, which was derived principally from
proceeds from the issuance of Members' capital of $500,000, proceeds from the
repayments of note receivable for Members' capital in the amount of $2,000,000
and bridge loans in the amount of $400,000.
Pursuant to the Contribution Agreement described above, a third party
has arranged for bridge loans of up to $2,100,000. The bridge loans are
unsecured and bear interest at the rate of 8 1/2 % per annum. However, interest
does not begin to accrue until January 31, 2002 (unless such date is extended in
accordance with the terms of the Contribution Agreement). The bridge loans,
together with accrued interest thereon, become payable on the earlier to occur
of (i) August 23, 2002, (ii) the closing of the Exchange or (iii) the sale or
exchange of all or substantially all of the membership interests of Essential,
LLC which would result in Essential, LLC receiving an infusion of $4.5 million
in capital. The bridge loans include the issuance to the lenders of up to
840,000 warrants (the "Bridge Warrants," as more fully described under
"Description of Securities -- Warrants" below) to purchase shares of Common
Stock of the Company for an exercise price of $3 per such share. The Bridge
Warrants expire in August 2004.
Through September, 2001, Essential, LLC received total bridge loans of
$400,000 from the Company. From October 1, 2001 through January 11, 2002,
Essential, LLC received an additional $1,250,000 in bridge loans from the
Company.
Plan of Operations
Management of Essential, LLC does not anticipate recognizing
product-related revenue until the first quarter of 2002, at the earliest.
Product development expenses from October 1, 2001, through September
30, 2002, are expected to be approximately $2 million. The increase in product
development is related to expenses incurred for tooling and new game
development.
Marketing is expected to be approximately $3.2 million from October 1,
2001, through September 30, 2002. The significant increase in marketing is due
to anticipated advertising and promotion, trade shows and commission expenses.
Approximately $1.5 million of the expected marketing costs of $3.2 million are
expected to vary based on levels of sales volume.
General and administrative expenses are expected to be approximately
$3.3 million from October 1, 2001, through September 30, 2002. The increase in
general and administrative is due to anticipated increases the number of
employees resulting in higher salaries and benefits.
Management of Essential, LLC expects that approximately $3 million will
be required to purchase inventory and for other working capital purposes from
October 1, 2001, through September 30, 2002.
Management of Essential, LLC expects that the bridge loans will, upon
completion of the Exchange, amount to an aggregate of $2,100,000.
25
From October 1, 2001, through September 30, 2002, it is expected that
Essential, LLC will require a total of approximately $12 million in cash or cash
equivalents in order repay the bridge loans, complete its development plan and
to begin to produce, market and sell its primary product. It is expected that
approximately $4.5 million will be raised through the Exchange and the
concomitantly conducted Private Placement (see "Material Terms of the Exchange,"
above).
Management of Essential, LLC anticipates, based on currently proposed
plans and assumptions relating to the implementation of its business plan
(including the timetable of costs and expenses associated with, and success of,
its marketing efforts), that the net proceeds of the Exchange, together with
projected revenues from operations, will be sufficient to satisfy Essential,
LLC's operations for approximately five months following the consummation of the
Exchange. Essential, LLC anticipates that it will require an estimated $7.5
million from October 1, 2001, through September 30, 2002, in addition to the
cash raised in connection with the Exchange. Management of Essential, LLC
expects to raise the estimated additional cash required from the exercise of
certain warrants and/or through an additional offering of its securities.
26
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth ownership information as of the Record
Date and immediately following the Exchange Closing, with respect to (i) each
current director or executive officer of the Company, (ii) each current director
and executive officer of Essential, LLC, (iii) all directors and executive
officers of the Company and Essential, LLC as a group and (iii) each person
known to the Company to be a beneficial owner of more than 5% of the outstanding
voting securities of the Company. As of the Record Date, there were 8,645,260
shares of common stock and no shares of preferred stock outstanding (the
"Preferred Stock"). Each share of common stock is entitled to one vote. Unless
otherwise noted, the address of each of the individuals listed below is c/o
Essential Reality, LLC, 253 West 28th Street, New York, New York 10001.
Number of Shares Percentage of Number of Shares Percentage of Shares
Beneficially Owned as Shares Owned as of Beneficially Owned Owned After the
Name of the Record Date(1) the Record Date(2) After the Exchange(3) Exchange(4)
---- --------------------- ------------------ --------------------- -----------
Frank Drechsler
17620 Oak Street
Fountain Valley, CA 92708 5,100,260 59.0 0 0
LCG Capital Group, LLC 0 0 5,500,000 35.04
Martin Abrams 0 0 2,750,660 17.53
John Gentile 0 0 1,374,670 8.76
Anthony Gentile 0 0 1,374,670 8.76
Humbert B. Powell, III 0 0 0 0
Arthur L. Goldberg 0 0 0 0
Reuben Levine 0 0 0 0
Martin Currie 0 0 0 0
David Devor 0 0 0 0
Stanley Friedman 0 0 0 0
Aaron Gavios 0 0 0 0
Richard Rubin 0 0 0 0
All directors and executive
officers as a group 5,100,260 59.0 11,000,000 70.09
---------------
(1) Beneficial ownership is determined in accordance with the Rule 13d-3(a)
of the Securities Exchange Act of 1934, as amended (the "Exchange
Act"), and generally includes voting or investment power with respect
to securities. Except as subject to community property laws, where
applicable, the person named above has sole voting and investment power
with respect to all shares of the Company's common stock shown as
beneficially owned by him.
(2) Based on 8,645,260 shares of the Company's common stock outstanding.
Excludes all outstanding warrants.
27
(3) The table presumes that 11,000,000 Exchange Shares will be issued to
the Members of Essential, LLC.
(4) Based on 15,695,055 shares of the Company's common stock outstanding.
Includes 1,850,000 shares issued in the Private Placement and presumes
that 11,000,000 shares will be issued in the Exchange. Excludes all
outstanding warrants.
Stockholder Vote Required
Ratification of the Contribution Agreement will, pursuant to Section
120 of Chapter 92A, Mergers and Exchanges of Interest, Title 7, Business
Associations; Securities; Commodities, of the Nevada Revised Statutes (the
"NRS"), require the affirmative vote of a majority of the shares entitled to be
cast therefor. PLEASE NOTE THAT THE COMPANY'S CONTROLLING STOCKHOLDER HAS
ALREADY INFORMED THE COMPANY THAT HE WILL BE VOTING "FOR" ALL OF THE PROPOSALS
SET FORTH HEREIN. THE NUMBER OF VOTES HELD BY THE CONTROLLING STOCKHOLDER IS
SUFFICIENT TO SATISFY THE STOCKHOLDER VOTE REQUIREMENT FOR EACH OF THE PROPOSALS
AND, THEREFORE, NO ADDITIONAL VOTES WILL BE NEEDED TO APPROVE ANY OF THE
PROPOSALS.
The Sole Director recommends that the Stockholders vote "FOR" the
proposal to approve the Contribution Agreement and the Exchange.
28
PROPOSAL 2
APPROVAL OF AMENDMENT I TO THE ARTICLES OF INCORPORATION
General
The Company has executed and submitted for Stockholder approval the
Contribution Agreement attached hereto as Exhibit A (see "Proposal 1- Approval
of the Exchange"). Pursuant to the terms of the Contribution Agreement, the
Company shall change its name to "Essential Reality, Inc."
The Sole Director has approved and recommends that the Stockholders
approve an amendment to the Company's Articles of Incorporation, in the event
the Exchange is approved, changing the Company's name to "Essential Reality,
Inc."
Assuming the Exchange is consummated, the Sole Director believes that
the new name, "Essential Reality, Inc.," will promote public recognition and
more accurately reflect the Company's new business. If this proposal, as well as
Proposal 1, are approved by the Stockholders, this Amendment I to the Articles
of Incorporation as attached hereto collectively with Amendment II as Exhibit B
will become effective upon the filing of the Articles of Exchange with the
Secretary of State of the State of Nevada, which filing is expected to take
place promptly following the Exchange Closing.
Stockholder Vote Required
Approval of the proposal to change the Company's name will, pursuant to
Section 390 of Chapter 78, Private Corporations, Title 7, Business Associations;
Securities; Commodities, of the NRS, require the affirmative vote of a majority
of the shares entitled to be cast therefor. PLEASE NOTE THAT THE COMPANY'S
CONTROLLING STOCKHOLDER HAS ALREADY INFORMED THE COMPANY THAT HE WILL BE VOTING
"FOR" ALL OF THE PROPOSALS SET FORTH HEREIN. THE NUMBER OF VOTES HELD BY THE
CONTROLLING STOCKHOLDER IS SUFFICIENT TO SATISFY THE STOCKHOLDER VOTE
REQUIREMENT FOR EACH OF THE PROPOSALS AND, THEREFORE, NO ADDITIONAL VOTES WILL
BE NEEDED TO APPROVE ANY OF THE PROPOSALS.
The Sole Director recommends that the Stockholders vote "FOR" the
approval of this proposal to change the Company's name to Essential Reality,
Inc.
29
PROPOSAL 3
APPROVAL OF AMENDMENT II TO THE ARTICLES OF INCORPORATION
General
The Sole Director has approved and recommends that the Stockholders
approve an amendment to the Company's Articles of Incorporation, in the event
the Exchange is approved, whereby Blank Check Preferred Stock is provided for.
Assuming the Exchange is consummated, the Sole Director believes that
the authorization of Blank Check Preferred Stock will enable the Company to
appropriately meet future needs. The Company already has five million
(5,000,000) shares of preferred stock authorized. This proposal, if approved by
the Stockholders, will not increase the number of such shares authorized.
Amendment II is being sought because the Board of Directors believes
that it is advisable and in the best interests of the Company to have available
shares of preferred stock to provide the Company with greater flexibility in
financing the continued operations of the Company and undertaking capital
restructuring, financing and future acquisitions. The Company believes that the
Blank Check Preferred Stock will provide the Company with a capital structure
better suited to meet its short and long term capital needs. Having Blank Check
Preferred Stock will permit the Company to negotiate the precise terms of an
equity instrument by simply creating a new series of preferred stock without
incurring the cost and delay in obtaining stockholder approval. This will allow
the Company to more effectively negotiate with, and satisfy the precise
financial criteria of, any investor or transaction in a timely manner.
Consequently, once authorized, the dividend or interest rates,
conversion rates, voting rights, redemption prices, maturity dates and similar
characteristics of such preferred stock will be determined by the Company's
Board of Directors, without the necessity of obtaining approval of the
Stockholders.
If this proposal, as well as Proposals 1 & 2, are approved by the
Stockholders, this Amendment II to the Articles of Incorporation as attached
hereto collectively with Amendment I as Exhibit B will become effective upon the
filing of the Articles of Exchange with the Secretary of State of the State of
Nevada, which filing is expected to take place promptly following the Exchange
Closing.
Stockholder Vote Required
Approval of the proposal to provide for Blank Check Preferred Stock
will, pursuant to Section 390 of Chapter 78, Private Corporations, Title 7,
Business Associations; Securities; Commodities, of the NRS, require the
affirmative vote of a majority of the shares entitled to be cast therefor.
PLEASE NOTE THAT THE COMPANY'S CONTROLLING STOCKHOLDER HAS ALREADY INFORMED THE
COMPANY THAT HE WILL BE VOTING "FOR" ALL OF THE PROPOSALS SET FORTH HEREIN. THE
NUMBER OF VOTES HELD BY THE CONTROLLING STOCKHOLDER IS SUFFICIENT TO SATISFY THE
STOCKHOLDER VOTE REQUIREMENT FOR EACH OF THE PROPOSALS AND, THEREFORE, NO
ADDITIONAL VOTES WILL BE NEEDED TO APPROVE ANY OF THE PROPOSALS.
The Sole Director recommends that the Stockholders vote "FOR" the
approval of this proposal to provide for Blank Check Preferred Stock.
30
PROPOSAL 4
APPROVAL OF THE 2001 STOCK INCENTIVE PLAN
At the Meeting a vote will be taken on a Proposal to approve the
adoption of the Company's 2001 Stock Incentive Plan (the "2001 Plan"), which
contains 3,500,000 shares of Common Stock available for grant thereunder. The
2001 Plan was adopted by the Board of Directors on December 18, 2001. A copy of
the 2001 Plan is attached hereto as Exhibit C. As of the date of this Proxy
Statement, no options to purchase shares of Common Stock or other rights has
been granted to any person under the 2001 Plan.
The benefits and amounts to be derived under the 2001 Plan are not
determinable.
Description of the 2001 Plan
The following is a brief summary of certain provisions of the 2001
Plan, which summary is qualified in its entirety by the actual text of the 2001
Plan attached hereto as Exhibit C.
The Purpose of the 2001 Plan. The purpose of the 2001 Plan is to
provide additional incentive to the directors, officers, employees and
consultants of the Company who are primarily responsible for the management and
growth of the Company. Each option shall be designated at the time of grant as
either an incentive stock option (an "ISO") or as a non-qualified stock option
(a "NQSO"). The Board of Directors believes that the ability to grant stock
options (the "Options") to employees which qualify for ISO treatment provides an
additional material incentive to certain key employees. The Internal Revenue
Code requires that ISOs be granted pursuant to an option plan that receives
stockholder approval within one year of its adoption. The Company adopted the
2001 Plan in order to comply with this statutory requirement and preserve its
ability to grant ISOs.
Administration of the 2001 Plan. The 2001 Plan shall be administered by
the Board of Directors of the Company, or by any committee that the Company may
in the future form and to which the Board of Directors may delegate the
authority to perform such functions (in either case, the "Administrator"). The
Board of Directors shall appoint and remove members of the committee in its
discretion. In the event that the Company establishes such a committee and is
required to comply with Rule 16b-3 under the Securities Exchange Act of 1934, as
amended (the "Exchange Act") and Section 162(m) of the Internal Revenue Code
(the "Code"), the committee shall, in the Board of Director's discretion, be
comprised solely of "non-employee directors" within the meaning of said Rule
16b-3 and "outside directors" within the meaning of Section 162(m) of the Code,
which individuals shall serve at the pleasure of the Board. Notwithstanding the
foregoing, the Board of Directors, in its absolute discretion, may at any time
and from time to time exercise any and all rights and duties of the
Administrator under the 2001 Plan.
Subject to the other provisions of the 2001 Plan, the Administrator
shall have the authority, in its discretion: (i) to grant Options, stock
appreciation rights ("Stock Appreciation Rights"), restricted stock ("Restricted
Stock") and other equity incentives or stock based awards ("Equity Incentives"),
all of which are referred to collectively as "Rights"; (ii) to determine,
subject to the provisions of the 2001 Plan, the fair market value of the shares
of Common Stock underlying the 2001 Plan; (iii) to determine the exercise price
of Options and other Rights granted and means thereof; (iv) to determine the
persons to whom, and the time or times at which, Rights shall be granted, and
the number of shares subject to each Right; (v) to interpret the 2001 Plan; (vi)
to prescribe, amend, and rescind rules and regulations relating to the 2001
Plan; (vii) to determine the terms and provisions of each Right granted (which
need not be identical), including but not limited to, the time or times at which
Options or other Rights shall be exercisable; (viii) with the consent of the
optionee, to modify or amend any Right; (ix) to defer (with the consent of the
optionee) the exercise date of any Option or other Right; (x) to authorize any
person to execute on behalf of the Company any instrument evidencing the grant
of a Right; and (xi) to make all other determinations deemed necessary or
advisable for the administration of the 2001 Plan.
31
Shares of Stock Subject to the 2001 Plan. Subject to the conditions
outlined below, the total number of shares of stock which may be issued pursuant
to Rights granted under the 2001 Plan shall not exceed 3,500,000 shares of
Common Stock, $.001 par value per share.
The number of shares of Common Stock subject to Rights granted pursuant
to the 2001 Plan may be adjusted under certain conditions. If the stock of the
Company is changed by reason of a stock split, reverse stock split, stock
dividend, recapitalization, combination or reclassification, appropriate
adjustments shall be made by the Administrator including but not limited to, in
(i) the number and class of shares of stock subject to the 2001 Plan, and (ii)
the exercise price of each outstanding Option and Stock Appreciation Right;
provided, however, that the Company shall not be required to issue fractional
shares as a result of any such adjustments. Each such adjustment shall be
subject to approval by the Board of Directors in its sole discretion.
In the event of any merger, reorganization, consolidation,
recapitalization, stock dividend, or other change in corporate structure
affecting the shares of Common Stock underlying the 2001 Plan, the Administrator
shall make an appropriate and equitable adjustment in the number and kind of
shares reserved for issuance under the 2001 Plan and in the number and exercise
price of shares subject to outstanding Options granted under the 2001 Plan, to
the end that after such event each Optionee's proportionate interest shall be
maintained as immediately before the occurrence of such event. The Administrator
shall, to the extent feasible, make such other adjustments as may be required
under the tax laws so that any ISOs previously granted shall not be deemed
modified within the meaning of Section 424(h) of the Code. Appropriate
adjustments shall also be made in the case of outstanding Stock Appreciation
Rights and Restricted Stock granted under the 2001 Plan.
Stock Appreciation Rights. Stock Appreciation Rights shall be
exercisable at such time or times and subject to such terms and conditions as
shall be determined by the Administrator at the time of grant. Unless otherwise
provided, Stock Appreciation Rights shall become immediately exercisable and
shall remain exercisable until expiration, cancellation or termination of the
award. Such rights may be exercised in whole or in part by giving written notice
to the Company.
Restricted Stock. Restricted Stock may be granted under the 2001 Plan
aside from, or in association with, any other award and shall be subject to
certain conditions and shall contain such additional terms and conditions, not
inconsistent with the terms of the 2001 Plan, as the Administrator shall deem
desirable. A grantee shall have no rights to an award of Restricted Stock unless
and until such grantee accepts the award within the period prescribed by the
Administrator and, if the Administrator shall deem desirable, makes payment to
the Company in cash, or by check or such other instrument as may be acceptable
to the Administrator. Shares of Restricted Stock are forfeitable until the terms
of the Restricted Stock grant have been satisfied. Shares of Restricted Stock
are not transferable until the date on which the Administrator has specified
such restrictions have lapsed.
Other Equity Incentives or Stock Based Awards. The Administrator may
grant Equity Incentives (including the grant of unrestricted shares) to such key
persons, in such amounts and subject to such terms and conditions, as the
Administrator shall in its discretion determine, subject to the provisions of
the 2001 Plan. Such awards may entail the transfer of actual shares of Common
Stock to 2001 Plan participants, or payment in cash or otherwise of amounts
based on the value of shares of Common Stock.
Participation. Every person who at the date of grant of an option is an
employee of the Company or of any Affiliate (as defined below) of the Company is
eligible to receive NQSOs, ISOs and other Rights under the 2001 Plan. Every
person who at the date of grant is an advisor or consultant to, or non-employee
director of, the Company or any Affiliate (as defined below) of the Company is
eligible to receive NQSOs and other Rights under the 2001 Plan. The term
"Affiliate" as used in the 2001 Plan means a parent or subsidiary corporation as
defined in the applicable provisions (currently Sections 424(e) and (f),
respectively) of the Code. The term "employee" includes an officer or director
who is an employee of the Company. The term "consultant" includes persons
employed by, or otherwise affiliated with, a consultant.
32
Option Price. The purchase price of each share of Common Stock
purchasable under an ISO shall be determined by the Administrator at the time of
grant, but shall not be less than 100% of the fair market value of such share of
Common Stock on the date the ISO is granted; provided, however, that with
respect to an optionee who, at the time such ISO is granted, owns more than 10%
of the total combined voting power of all classes of stock of the Company or of
any Subsidiary, the purchase price per share shall be at least 110% of the fair
market value per share of Common Stock on the date of grant. The purchase price
of each share of Common Stock purchasable under an NQSO shall not be less than
50% of the fair market value of such share of Common Stock on the date the NQSO
is granted; provided, however, that if an option granted to the Company's Chief
Executive Officer or to any of the Company's other four most highly compensated
officers is intended to qualify as performance-based compensation under Section
162(m) of the Code, the exercise price of such Option shall not be less than
100% of the fair market value of such share of Common Stock on the date the
Option is granted.
Term of the Rights. The Administrator, in its sole discretion, shall
fix the term of each Right, provided that the maximum term of a Right shall be
ten years. ISOs granted to a 10% Stockholder shall expire not more than five
years after the date of grant. The 2001 Plan provides for the earlier expiration
of Rights in the event of certain terminations of employment of the holder.
Restrictions on Grant and Exercise. Except with the express written
approval of the Administrator which approval the Administrator is authorized to
give only with respect to NQSOs, no Option granted under the 2001 Plan shall be
assignable or otherwise transferable by the optionee except by will or by
operation of law. During the life of the optionee, an option shall be
exercisable only by the optionee.
Termination of the 2001 Plan. The 2001 Plan shall terminate within ten
years from the date of its adoption by the Board of Directors.
Termination of Employment. If for any reason other than death or
permanent and total disability, an optionee ceases to be employed by the Company
or any of its Affiliates (such event being called a "Termination"), Options and
Stock Appreciation Rights held at the date of Termination (to the extent then
exercisable) may, unless otherwise determined by the Administrator, be exercised
in whole or in part at any time within thirty days of the date of such
Termination, or such other period of not less than thirty days after the date of
such Termination as was specified by the Administrator at time of grant (but in
no event after the expiration date of the Option or Stock Appreciation Right
(the "Expiration Date")). Unless otherwise determined by the Administrator, if
an optionee dies or becomes permanently and totally disabled while employed by
the Company or an Affiliate or within the period that the Option or Stock
Appreciation Right remains exercisable after Termination, Options and Stock
Appreciation Rights then held (to the extent then exercisable) may be exercised,
in whole or in part, by the optionee, by the optionee's personal representative
or by the person to whom the Option or Stock Appreciation Right is transferred
by devise or the laws of descent and distribution, at any time within twelve
months after the death or thirty days after the permanent and total disability
of the optionee (but in no event after the Expiration Date).
Amendments to the 2001 Plan. The Board of Directors may at any time
amend, alter, suspend or discontinue the 2001 Plan. Without the consent of an
optionee, no amendment, alteration, suspension or discontinuance may adversely
affect outstanding Rights. No amendment, alteration, suspension or
discontinuance shall require Stockholder approval unless (i) stockholder
approval is required either to (a) preserve incentive stock option treatment for
federal income tax purposes, or (b) be consistent with Section 14 of the 2001
Plan, or (ii) the Board of Directors otherwise concludes that stockholder
approval is advisable.
Tax Treatment of the Options. Under the Code, neither the grant nor the
exercise of an ISO is a taxable event to the optionee (except to the extent an
optionee may be subject to alternative minimum tax); rather, the optionee is
subject to tax only upon the sale of the Common Stock acquired upon exercise of
the ISO. Upon such a sale, the entire difference between the amount realized
upon the sale and the exercise price of the option will be taxable to the
optionee. Subject to certain holding period requirements, such difference will
be taxed as a capital gain rather than as ordinary income. Optionees who receive
NQSOs will be subject to taxation upon exercise of such options on the spread
between the fair market value of the Common Stock on the date of exercise and
the exercise price of such options. This spread is treated as ordinary income to
the optionee, and the Company is permitted to deduct as an employee expense a
corresponding amount. NQSOs do not give rise to a tax preference item subject to
the alternative minimum tax.
33
EXECUTIVE COMPENSATION
No cash or other compensation has been awarded to, earned by or paid to
either Mr. Ryan Neely, who served as the Company's President, Secretary and
director from March, 2000 through June 25, 2001 or Mr. Jason Ortega, who served
as its Treasurer and director, from April 16, 2000, through June 25, 2001. Mr.
Frank Drechsler succeeded Mr. Neely as the President, Secretary and director of
the Company on June 25, 2001. The size of the Board of Directors was reduced to
one member and there are no officers other than Mr. Drechsler.
Mr. Drechsler has not received any compensation for his services as an
officer and director of the Company. He will resign pursuant to the Contribution
Agreement.
The Company does not provide its officers or employees with pension,
stock appreciation rights, long-term incentive or other plans and has no present
intention of implementing any of these plans, with the exception of the 2001
Plan. In the future, the Company may offer stock options to employees,
non-employee members of the Board of Directors and/or consultants; however, no
options have been granted as of the date hereof. It is possible that the Company
may in the future establish various executive incentive programs and other
benefits, including reimbursement for expenses incurred in connection with its
operations, company automobiles and life and health insurance but none has yet
been granted. The provisions of these plans and benefits will be at the
discretion of the Board of Directors.
The Company's Directors receive no compensation pursuant to any
standard arrangement for their services as directors.
Employment Agreements
The Company has no employment agreement with Mr. Frank Drechsler, its
President, Secretary and Sole Director.
Indemnification
The Company's Amended and Restated Articles of Incorporation include
provisions to indemnify its officers and directors against damages for breach of
fiduciary duty as a director or officer involving any act or omission of any
such director or officer; provided, however, that the liability of such officers
and directors shall not be indemnified in the case of (i) acts or omissions
which involved intentional misconduct, fraud or a knowing violation of law, or
(ii) the payment of dividends in violation of Section 78.300 of the NRS.
The Company's Bylaws provide the power to indemnify any director,
officer, employee or agent of the Company or any person serving at its request
as a director, officer, employee or agent of another corporation, partnership,
joint venture, trust or other enterprise to the fullest extent permitted by the
laws of the State of Nevada.
Under the NRS, the Company may indemnify its officers and directors for
various expenses and damages resulting from their acting in those capacities.
Insofar as indemnification for liabilities arising under the Securities Act of
1933, as amended (the "Securities Act") may be permitted to the officers,
directors or persons controlling the Company pursuant to those provisions,
counsel has informed the Company that, in the opinion of the Commission,
indemnification is against public policy as expressed in the Securities Act and
is therefore unenforceable.
34
DESCRIPTION OF SECURITIES
The Company's authorized capital stock consists of 50,000,000 shares of
Common Stock and 5,000,000 shares of Preferred Stock. As of the date hereof,
there were issued and outstanding 8,645,260 shares of Common Stock, and no
shares of Preferred Stock.
Common Stock
On June 14, 2001 the Company redeemed 2,068,417 shares of its Common
Stock for $2,068. These shares of common stock were previously held by a total
of 27 of the Company's stockholders, including Messrs. Neely and Ortega.
On July 2, 2001, the Company declared a stock split effected in the
form of a dividend to stockholders of record on June 14, 2001. The payment date
for the stock split was July 5, 2001. Four additional shares of Common Stock
were issued for each one such share issued and outstanding. As a result of the
stock split, each stockholder of record as of such date received four additional
shares of Common Stock for each share of Common Stock owned as of the record
date. Following the stock split, the Company had 8,645,260 shares of $.001 par
value Common Stock issued and outstanding.
Voting Rights. The holders of shares of Common Stock are entitled to
one vote for each share on all matters to be voted on by stockholders. There is
no cumulative voting with respect to the election of the Company's directors or
any other matter. Therefore, the holders of more than 50% of the shares voted
for the election of directors can elect all of the directors.
Dividends; Redemption; Liquidation. The holders of shares of Common
Stock are entitled to receive dividends when, as and if declared by the Board of
Directors from funds legally available therefor. Cash dividends are at the sole
discretion of the Board of Directors. In the event of the Company's liquidation,
dissolution or winding up, the holders of shares of Common Stock are entitled to
participate ratably in all assets remaining available for distribution to them
after payment of the Company's liabilities and after provision has been made for
each class of stock, if any, having any preference in relation to the Common
Stock.
The Company has never declared or paid a cash dividend on the capital
stock, nor does it expect to pay cash dividends on the Common Stock within the
foreseeable future. The Company currently intends to retain its earnings, if
any, for use in its business. Any dividends declared in the future will be at
the discretion of the Board of Directors and subject to any restrictions that
may be imposed by the Company's lenders.
Holders of shares of Common Stock have no preemptive rights.
Preferred Stock
The Company is authorized to issue 5,000,000 shares of preferred stock,
par value $.001 per share ("Preferred Stock"), none of which is outstanding. The
Board of Directors will, if Amendment II is approved, be vested with authority
to divide the class of shares of Preferred Stock into series and to fix and
determine the relative rights and preferences of the shares of any such series
(see "Proposal 3" above).
Warrants
The Company will reserve an aggregate of 2,625,714 shares of Common
Stock pursuant to the exercise of warrants, consisting of the Private Placement
Warrants and the Bridge Warrants.
Private Placement Warrants. 1,785,714 shares of Common Stock will be
reserved for issuance pursuant to the exercise of the Private Placement
Warrants. A purchaser of shares of Common Stock in the Private Placement will
receive a warrant (the "Incorporated Private Placement Warrant") to purchase one
share of Common Stock for every five shares of Common Stock purchased, for an
aggregate of between 370,000 and 427,692 shares of Common Stock underlying
Incorporated Private Placement Warrants (depending on the number of Additional
Private Placement Shares sold). The Company will also issue additional warrants
in consideration for investment banking services performed in connection with
the Exchange (the "Separate Private Placement Warrants"). Depending upon the
number of shares of Common Stock issued in the Private Placement, Separate
Private Placement Warrants to purchase between 1,358,022 and 1,415,714 shares of
Common Stock will be issued.
35
The Private Placement Warrants consist of first warrants and second
warrants (the "First Warrants" and the "Second Warrants," respectively). All
Incorporated Private Placement Warrants will consist of First Warrants. The
First Warrants will entitle their holders to purchase an aggregate of 1,285,714
shares of Common Stock and the Second Warrants will entitle their holders to
purchase an aggregate of 500,000 shares of Common Stock. The First Warrants
expire three years from the date of issuance, are exercisable at $3.50 per share
of Common Stock and are callable upon the earlier to occur of the following
events: (a) the functional integration of the X, Y, Z, yaw, pitch and roll
functions into an existing application, to be determined in good faith by the
Company's Board of Directors, or (b) the production of 100 software development
kits, including hardware. The Second Warrants expire three years from the date
of issuance, are exercisable at $3.75 per share of Common Stock and are callable
when the price of a share of Common Stock is trading at or above $13.00 for 30
consecutive trading days, provided, however, that no Private Placement Warrants
may be called unless the shares of Common Stock underlying such Private
Placement Warrants have been registered for sale under the Securities Act, and
provided further that the expiration date of the Second Warrants shall be
reduced to one year if the Company receives less than $1,000,000 from the call
of the First Warrants.
Bridge Warrants. The Company has received bridge financing in the
amount of $1,650,000 to date. For every $10 loaned to the Company in the bridge
financings, the lender shall receive warrants (the "Bridge Warrants") to
purchase four shares of Common Stock. In addition, the Company may borrow up to
an additional aggregate principal amount of $450,000 in bridge financings.
Therefore, assuming that the Company borrows the maximum amount, it will have
issued Bridge Warrants to purchase an aggregate of 840,000 shares of Common
Stock immediately prior to the Exchange Closing.
The Bridge Warrants expire in August 2004 and are exercisable at $3.00
per share of Common Stock. The Bridge Warrants are callable under certain
conditions: (i) 90% of such Bridge Warrants shall be callable upon the earlier
to occur of the following events; (a) the functional integration of the X, Y, Z,
yaw, pitch and roll functions into an existing application, to be determined in
good faith by the Company's Board of Directors, or (b) the production of 100
software development kits, including hardware and (ii) the remaining 10% of such
Bridge Warrants may be called by the Company when the price of a share of Common
Stock is trading at or above $13.00 for 30 consecutive trading days; provided,
however, that in neither case may any Bridge Warrants be called unless the
shares of Common Stock underlying such Bridge Warrants have been registered for
sale under the Securities Act.
Change in Control
A director may be removed, whether with or without cause, solely upon
the affirmative vote of holders of no less than two thirds of the issued and
outstanding shares entitled to vote on the election of directors. In addition,
if a director is elected by a certain group of stockholders, only holders of
such shares are entitled to vote on the removal of such director.
Transfer Agent
The Company's transfer agent is Pacific Stock Transfer Company. The
transfer agent's mailing address is 500 East Warm Springs Road, Suite 240, Las
Vegas, Nevada, 89119.
36
Stockholder Vote Required
Approval of the Company's 2001 Plan requires the affirmative vote of
the holders of a majority of the shares of the Company's common stock present in
person or represented by proxy at the Meeting. PLEASE NOTE THAT THE COMPANY'S
CONTROLLING STOCKHOLDER HAS ALREADY INFORMED THE COMPANY THAT HE WILL BE VOTING
"FOR" ALL OF THE PROPOSALS SET FORTH HEREIN. THE NUMBER OF VOTES HELD BY THE
CONTROLLING STOCKHOLDER IS SUFFICIENT TO SATISFY THE STOCKHOLDER VOTE
REQUIREMENT FOR EACH OF THE PROPOSALS AND, THEREFORE, NO ADDITIONAL VOTES WILL
BE NEEDED TO APPROVE ANY OF THE PROPOSALS.
The Sole Director recommends that the Stockholders vote "FOR" approval
of this proposal to adopt the 2001 Plan.
37
PROPOSAL 5
RATIFICATION OF THE APPOINTMENT OF THE INDEPENDENT AUDITORS
General
Deloitte & Touche LLP is the current independent auditors for
Essential, LLC and Leslie, Thomas, Schwarz & Postma, Inc. ("LTSP") is the
current independent auditors for the Company. In contemplation of the Exchange,
the Sole Director is recommending appointing Deloitte & Touche LLP as the
Company's independent auditors for the fiscal year ending December 31, 2001. The
Company had no disagreements with LTSP in the fiscal year ended December 31,
2000 on any matter of accounting principles or practices, financial statement
disclosure, or auditing scope or procedure. LTSP's report on the Company's
financial statements for the fiscal year ended December 31, 2000 did not contain
an adverse opinion or disclaimer of opinion, nor was it modified as to
uncertainty, audit scope or accounting principles. The Company has not consulted
Deloitte & Touche LLP regarding the application of accounting principles to a
specific completed or contemplated transaction or the type of audit opinion that
might be rendered on the Company's financial statements.
Representatives of Deloitte & Touche LLP and LTSP are not expected to
be present at the Meeting. In the event representatives do attend the Meeting,
each of them will have an opportunity to make a statement should any of them
desire to do so, and they would be expected to be available to respond to
appropriate questions.
Audit Fees
LTSP billed the Company an aggregate of $12,950 for the audit of the
Company's annual financial statements for the fiscal year ended December 31,
2000 included in the Company's annual report on Form 10-KSB and for the review
of the Company's interim financial statements included in the Company's
quarterly reports on Form 10-QSB for the periods ended March 31, 2000, June 30,
2000 and September 30, 2000.
Financial Information Systems Design and Implementation Fees
LTSP did not render any professional services related to financial
information systems design and implementation for the fiscal year ended December
31, 2000.
All Other Fees
LTSP did not render any other professional services, other than those
discussed above, for the fiscal year ended December 31, 2000.
Since LTSP did not receive fees from the Company other than audit fees,
the Sole Director has considered and believes that LTSP has maintained its
independence from the Company.
Stockholder Vote Required
The ratification of the appointment of Deloitte & Touche LLP as the
Company's independent auditors for the fiscal year ending December 31, 2001,
requires the affirmative vote of a majority of the shares of voting stock
present in person or represented by proxy at the Meeting. PLEASE NOTE THAT THE
COMPANY'S CONTROLLING STOCKHOLDER HAS ALREADY INFORMED THE COMPANY THAT HE WILL
BE VOTING "FOR" ALL OF THE PROPOSALS SET FORTH HEREIN. THE NUMBER OF VOTES HELD
BY THE CONTROLLING STOCKHOLDER IS SUFFICIENT TO SATISFY THE STOCKHOLDER VOTE
REQUIREMENT FOR EACH OF THE PROPOSALS AND, THEREFORE, NO ADDITIONAL VOTES WILL
BE NEEDED TO APPROVE ANY OF THE PROPOSALS.
The Sole Director recommends that the Stockholders vote "FOR" the
approval of this proposal to appoint Deloitte & Touche LLP as the Company's
independent auditors for the fiscal year ending December 31, 2001.
38
GENERAL AND OTHER MATTERS
Management knows of no matters other than the matters described above
that will be presented to the Meeting. However, if any other matters properly
come before the Meeting, or any of its postponements or adjournments, the person
or persons voting the proxies will vote them in accordance with his or their
best judgment on such matters.
SOLICITATION OF PROXIES
The Company is making the solicitation of proxies and will bear the
costs associated therewith. Solicitations will be made by mail only. The Company
will reimburse banks, brokerage firms, other custodians, nominees and
fiduciaries for reasonable expenses incurred in sending proxy material to
beneficial owners of the Company's Common Stock.
STOCKHOLDER PROPOSALS
The Board of Directors has not yet determined the date on which the
next annual meeting of Stockholders of the Company will be held. Any proposal by
a Stockholder intended to be presented at the Company's next annual meeting of
Stockholders must be received at the offices of the Company a reasonable amount
of time prior to the date on which the information or proxy statement for that
meeting are mailed to Stockholders in order to be included in the Company's
information or proxy statement relating to that meeting.
By Order of the Board of Directors,
/s/ Frank Drechsler
-----------------------------------------------------
Frank Drechsler,
Sole Director
January 15, 2002
39
Essential Reality, LLC
(A Development Stage Entity)
Independent Auditors' Report
Financial Statements
Period from June 1, 1999 (Date of Commencement) to December 31, 1999, for the
Year Ended December 31, 2000 and for the Nine-Month Period ended September 30,
2001 (Unaudited)
ESSENTIAL REALITY, LLC
(A Development Stage Entity)
TABLE OF CONTENTS
--------------------------------------------------------------------------------
Page
INDEPENDENT AUDITORS' REPORT 1
FINANCIAL STATEMENTS FOR THE PERIOD FROM SEPTEMBER 1, 1999
(DATE OF COMMENCEMENT) TO DECEMBER 31, 1999,
FOR THE YEAR ENDED DECEMBER 31, 2000
AND FOR THE NINE-MONTH PERIOD ENDED SEPTMEBER 30, 2001 (UNAUDITED):
Balance Sheets 2
Statements of Operations 3
Statements of Members' Equity (Deficit) 4
Statements of Cash Flows 5
Notes to Financial Statements 6-12
INDEPENDENT AUDITORS' REPORT
To the Members and Board of Directors of
Essential Reality, LLC:
We have audited the accompanying balance sheets of Essential Reality, LLC (a
development stage entity) (the "Company") as of December 31, 2000 and 1999, and
the related statements of operations, members' equity (deficit), and cash flows
for the period from June 1, 1999 (date of commencement) to December 31, 1999,
for the year ended December 31, 2000 and for the cumulative period from June 1,
1999 to December 31, 2000. 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 of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, such financial statements present fairly, in all material
respects, the financial position of the Company as of December 31, 2000 and
1999, and the results of its operations and its cash flows for the period from
June 1, 1999 (date of commencement) to December 31, 1999, for the year ended
December 31, 2000 and for the cumulative period from June 1, 1999 to December
31, 2000 in conformity with accounting principles generally accepted in the
United States of America.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. The Company is a development stage
enterprise engaged in the development, manufacture and marketing of a suite of
computer peripheral devices. As discussed in Note 1 to the financial statements,
the Company has experienced cumulative net losses of $1,640,758 and cumulative
negative operating cash flow of $1,422,289, which raise substantial doubt about
its ability to continue as a going concern. Management's plans concerning these
matters are also described in Note 1. The financial statements do not include
any adjustments that might result from the outcome of these uncertainties.
September 20, 2001 (January 11, 2002 as to Note 4, November 30, 2001 as to Note
8)
1
ESSENTIAL REALITY, LLC
(A Development Stage Entity)
BALANCE SHEETS
SEPTEMBER 30, 2001 (UNAUDITED) AND DECEMBER 31, 2000 AND 1999
--------------------------------------------------------------------------------
September 30, December 31,
2001 2000 1999
(Unaudited)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 468 $ 231,905 $ 294,714
Interest receivable -- 48,716 --
Prepaid expenses and deposits 68,206 6,820 --
----------- ----------- -----------
Total current assets 68,674 287,441 294,714
DOMAIN NAMES - Net 11,250 -- --
FIXED ASSETS - Net 10,811 -- --
OTHER ASSETS 22,500 22,500 --
DEFERRED INTEREST EXPENSE - BRIDGE LOANS 25,898 -- --
----------- ----------- -----------
TOTAL ASSETS $ 139,133 $ 309,941 $ 294,714
=========== =========== ===========
LIABILITIES AND MEMBERS' EQUITY (DEFICIT)
CURRENT LIABILITIES:
Accounts payable $ 340,447 $ 75,238 $ 12,418
Accrued interest expense - bridge loans 27,573 -- --
Accrued compensation 247,203 221,267 --
Bridge loans 400,000 -- --
Advances from LCG Capital Group, LLC 76,617 -- --
Advances from affiliated companies 25,809 19,647 4,100
----------- ----------- -----------
Total current liabilities 1,117,649 316,152 16,518
----------- ----------- -----------
COMMITMENTS AND CONTINGENCIES
MEMBERS' EQUITY (DEFICIT):
Members' capital 2,500,000 2,500,000 2,500,000
Note receivable for members' capital -- (865,453) (2,000,000)
Deficit accumulated during development stage (3,478,516) (1,640,758) (221,804)
----------- ----------- -----------
Total members' equity (deficit) (978,516) (6,211) 278,196
----------- ----------- -----------
TOTAL LIABILITIES AND MEMBERS' EQUITY (DEFICIT) $ 139,133 $ 309,941 $ 294,714
=========== =========== ===========
See notes to financial statements.
2
ESSENTIAL REALITY, LLC
(A Development Stage Entity)
STATEMENTS OF OPERATIONS
CUMULATIVE PERIOD FROM JUNE 1, 1999 (DATE OF COMMENCEMENT) TO SEPTEMBER 30, 2001
(Unaudited), NINE-MONTH PERIOD ENDED SEPTEMBER 30, 2001 (Unaudited), CUMULATIVE
PERIOD FROM JUNE 1, 1999 (DATE OF COMMENCEMENT) TO DECEMBER 31, 2000, YEAR ENDED
DECEMBER 31, 2000 AND PERIOD FROM JUNE 1, 1999 (DATE OF COMMENCEMENT) TO
DECEMBER 31, 1999
--------------------------------------------------------------------------------
Cumulative Cumulative
Period from Period from
June 1, 1999 (Date Nine-Month June 1, 1999 (Date June 1, 1999 (Date
of Commencement) Period Ended of Commencement) Year Ended of Commencement)
to September 30, September 30, to December 31, December 31, to December 31,
2001 (Unaudited) 2001 (Unaudited) 2000 2000 1999
OPERATING EXPENSES:
Product development $ 1,282,144 $ 655,312 $ 626,832 $ 405,308 $ 221,524
Marketing 610,028 389,562 220,466 220,466 --
General and administrative 1,697,368 801,190 896,178 895,898 280
Depreciation and amortization 8,887 8,887 -- -- --
----------- ----------- ----------- ----------- -----------
Total operating expenses 3,598,427 1,854,951 1,743,476 1,521,672 221,804
----------- ----------- ----------- ----------- -----------
LOSS FROM OPERATIONS (3,598,427) (1,854,951) (1,743,476) (1,521,672) (221,804)
INTEREST INCOME 125,117 20,465 104,652 104,652 --
INTEREST EXPENSE (5,206) (3,272) (1,934) (1,934) --
----------- ----------- ----------- ----------- -----------
NET LOSS $(3,478,516) $(1,837,758) $(1,640,758) $(1,418,954) $ (221,804)
=========== =========== =========== =========== ===========
See notes to financial statements.
3
ESSENTIAL REALITY, LLC
(A Development Stage Entity)
STATEMENTS OF MEMBERS' EQUITY (DEFICIT) PERIOD FROM JUNE 1, 1999 (DATE OF
COMMENCEMENT) TO DECEMBER 31, 1999, YEAR ENDED DECEMBER 31, 2000 AND NINE-MONTH
PERIOD ENDED SEPTEMBER 30, 2001 (Unaudited)
--------------------------------------------------------------------------------
Note Deficit
Receivable Accumulated
Members' For Members' During
Capital Capital Development Stage Total
BALANCE JUNE 1, 1999 $ -- $ -- $ -- $ --
Issuance of members' capital 2,500,000 (2,000,000) -- 500,000
Net loss -- -- (221,804) (221,804)
----------- ----------- ----------- -----------
BALANCE, DECEMBER 31, 1999 2,500,000 (2,000,000) (221,804) 278,196
Collection of note receivable -- 1,134,547 -- 1,134,547
Net loss -- -- (1,418,954) (1,418,954)
----------- ----------- ----------- -----------
BALANCE, DECEMBER 31, 2000 2,500,000 (865,453) (1,640,758) (6,211)
Collection of note receivable -- 865,453 -- 865,453
Net loss -- -- (1,837,758) (1,837,758)
----------- ----------- ----------- -----------
BALANCE, SEPTEMBER 30, 2001 (Unaudited) $ 2,500,000 $ -- $(3,478,516) $ (978,516)
=========== =========== =========== ===========
See notes to financial statements.
4
ESSENTIAL REALITY, LLC
(A Development Stage Entity)
STATEMENTS OF CASH FLOWS
CUMULATIVE PERIOD FROM JUNE 1, 1999 (DATE OF COMMENCEMENT) TO SEPTEMBER 30, 2001
(Unaudited), NINE-MONTH PERIOD ENDED SEPTEMBER 30, 2001 (Unaudited), CUMULATIVE
PERIOD FROM JUNE 1, 1999 (DATE OF COMMENCEMENT) TO DECEMBER 31, 2000, YEAR ENDED
DECEMBER 31, 2000 AND PERIOD FROM JUNE 1, 1999 (DATE OF COMMENCEMENT) TO
DECEMBER 31, 1999
--------------------------------------------------------------------------------
Cumulative Cumulative
Period from Period from
June 1, 1999 (Date Nine-Month June 1, 1999 (Date
of Commencement) Period Ended of Commencement) Year Ended
to September 30, September 30, to December 31, December 31,
2001 (Unaudited) 2001 (Unaudited) 2000 2000
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $(3,478,516) $(1,837,758) $(1,640,758) $(1,418,954)
Depreciation and amortization 8,887 8,887 -- --
Amortization of deferred interest 1,675 1,675 -- --
Changes in assets and liabilities:
Prepaid expenses, deposits and other assets (90,706) (61,386) (29,320) (29,320)
Interest receivable -- 48,716 (48,716) (48,716)
Accounts payable 340,447 265,209 75,238 62,820
Accrued compensation 247,203 25,936 221,267 221,267
----------- ----------- ----------- -----------
Net cash used in operating activities (2,971,010) (1,548,721) (1,422,289) (1,212,903)
----------- ----------- ----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Payments for purchase of domain names (18,000) (18,000) -- --
Payments for purchase of fixed assets (12,948) (12,948) -- --
----------- ----------- ----------- -----------
Net cash used in investing activities (30,948) (30,948) -- --
----------- ----------- ----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of members' capital 500,000 -- 500,000 --
Proceeds from repayment of note
receivable for members' capital 2,000,000 865,453 1,134,547 1,134,547
Proceeds from bridge loans 400,000 400,000 -- --
Proceeds from advances from
LCG Capital Group, LLC 76,617 76,617 -- --
Proceeds of advances from
affiliated companies - net 25,809 6,162 19,647 15,547
----------- ----------- ----------- -----------
Net cash provided by financing activities 3,002,426 1,348,232 1,654,194 1,150,094
----------- ----------- ----------- -----------
INCREASE (DECREASE) IN CASH
AND CASH EQUIVALENTS 468 (231,437) 231,905 (62,809)
CASH AND CASH EQUIVALENTS,
BEGINNING OF PERIOD -- 231,905 -- 294,714
----------- ----------- ----------- -----------
CASH AND CASH EQUIVALENTS,
END OF PERIOD $ 468 $ 468 $ 231,905 $ 231,905
=========== =========== =========== ===========
SUPPLEMENTAL DISCLOSURE OF NON-CASH TRANSACTIONS:
Note received for members' capital $ 2,000,000 $ -- $ 2,000,000 $ --
Deferred interest expense - bridge loans $ 25,898 $ 25,898 $ -- $ --
Accrued interest expense - bridge loans $ 27,573 $ 27,573 $ -- $ --
June 1, 1999 (Date
of Commencement)
to December 31,
1999
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (221,804)
Depreciation and amortization --
Amortization of deferred interest --
Changes in assets and liabilities:
Prepaid expenses, deposits and other assets --
Interest receivable --
Accounts payable 12,418
Accrued compensation --
-----------
Net cash used in operating activities (209,386)
-----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Payments for purchase of domain names --
Payments for purchase of fixed assets --
-----------
Net cash used in investing activities --
-----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of members' capital 500,000
Proceeds from repayment of note
receivable for members' capital --
Proceeds from bridge loans --
Proceeds from advances from
LCG Capital Group, LLC --
Proceeds of advances from
affiliated companies - net 4,100
-----------
Net cash provided by financing activities 504,100
-----------
INCREASE (DECREASE) IN CASH
AND CASH EQUIVALENTS 294,714
CASH AND CASH EQUIVALENTS,
BEGINNING OF PERIOD --
-----------
CASH AND CASH EQUIVALENTS,
END OF PERIOD $ 294,714
===========
SUPPLEMENTAL DISCLOSURE OF NON-CASH TRANSACTIONS:
Note received for members' capital $ 2,000,000
Deferred interest expense - bridge loans $ --
Accrued interest expense - bridge loans $ --
See notes to financial statements.
5
ESSENTIAL REALITY, LLC
(A Development Stage Entity)
NOTES TO FINANCIAL STATEMENTS
CUMULATIVE PERIOD FROM JUNE 1, 1999 TO SEPTEMBER 30, 2001 (UNAUDITED),
NINE-MONTH PERIOD ENDED SEPTEMBER 30, 2001 (UNAUDITED), CUMULATIVE PERIOD FROM
JUNE 1, 1999 TO DECEMBER 31, 2000, YEAR ENDED DECEMBER 31, 2000 AND PERIOD FROM
JUNE 1, 1999 (DATE OF COMMENCEMENT) TO DECEMBER 31, 1999
1. THE COMPANY
Essential Reality, LLC (the "Company") was formed as Freedom Multimedia,
LLC in the State of Delaware on July 9, 1998 and began active operations on
June 1, 1999. The Company changed its name to Essential Reality, LLC on
December 29, 1999. The Company was formed to develop, manufacture and
market a suite of computer peripheral devices, with initial emphasis on a
product called "P5." P5 is a gloved shaped device that controls the
movement of the cursor on a computer screen. P5 enables three-dimensional
movement of the cursor as well as pitch, yaw and roll. P5 is controlled by
the user moving their hand or bending their fingers.
The Company is in the development stage. Successful completion of the
Company's development program and ultimately, the attainment of profitable
operations is dependent upon future events, including obtaining adequate
financing to fulfill its development activities, and achieving a level of
revenue adequate to support the Company's cost structure.
Since its commencement, the Company has not generated revenues and has
incurred significant recurring losses from operations, working capital
deficit and deficit in members' capital. As a result, substantial doubt
exists regarding the Company's ability to continue as a going concern.
Management is attempting to obtain adequate resources for the Company to
complete its development plan and produce, market and sell its primary
product. In this regard, management of the Company believes that upon
closing of the transaction described in Note 8, it will have sufficient
funds to operate for at least the next five months. Should the transaction
not close, the Company would be required to seek alternative sources of
financing.
The financial statements have been prepared in conformity with the
Statement of Financial Accounting Standards ("SFAS") No. 7, Accounting and
Reporting by Development Stage Enterprises. As a development stage entity
with no commercial operating history, the Company is subject to all of the
risks and uncertainties inherent in the establishment of a new business
enterprise. To address these risks and uncertainties, the Company must,
among other things, respond to competitive developments; attract, retain,
and motivate qualified personnel; and support the expense of marketing new
products based upon innovative technology. To date, the Company has not
recognized product related revenues. As a result of incurring expenses in
these developmental activities without generating revenues, the Company has
incurred significant losses and negative cash flow from operating
activities, and as of December 31, 2000 and September 30, 2001, the Company
had cumulative net losses of $1,640,758 and $ 3,478,516, respectively, and
negative cash flow from operating activities of $1,422,289 and $2,971,010,
respectively. The Company expects to incur substantial losses and negative
cash flow from operating activities for the near future.
6
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Comprehensive Loss - Comprehensive loss is the same as net loss.
Unaudited Interim Financial Statements - The accompanying unaudited balance
sheet as of September 30, 2001 and the related statement of operations,
members equity (deficit) and cash flows for the nine-month period ended
September 30, 2001, in the opinion of management, include all adjustments
(consisting of normal recurring accruals) necessary for the fair
presentation of the Company's financial position, results of operations and
cash flows. The Company believes the disclosures included herein are
adequate to make these financial statements not misleading. The results for
the nine-month period ended September 30, 2001 are not necessarily
indicative of the results to be expected for the full year.
Cash and Cash Equivalents - Cash equivalents include time deposits with
maturities of three months or less on the date of purchase.
Domain Name and Fixed Assets - Domain name is recorded at cost, net of
accumulated amortization. Fixed assets are recorded at cost, net of related
accumulated depreciation. Upon sale or retirement, the cost and related
accumulated depreciation and amortization are removed from the respective
accounts, and any gain or loss is included in the statement of operations.
Maintenance and repair costs are expensed as incurred. Depreciation of
fixed assets is computed using the straight-line method based on the
estimated useful lives of the assets, which is three to five years,
beginning when assets are placed in service. Amortization of domain name is
computed using the straight-line method over a period of two years.
Product Development - Product development costs include expenses incurred
by the Company to research and develop the P5 product. Product development
costs are expensed until such time as the Company determines that a product
is technologically feasible. Product development costs are capitalized from
such date until such time as product development is substantially complete.
Product development costs capitalized will be amortized on the
straight-line basis over the lesser of the estimated useful life of the
product or three years.
Impairment of Assets - In accordance with SFAS No. 121, Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed
Of, the Company reviews long-lived assets for impairment whenever events or
changes in circumstances indicate that the carrying amount of the asset may
not be recoverable. When such events occur, the Company compares the
carrying amount of the assets to undiscounted expected future cash flows.
If this comparison indicates that there is impairment, the amount of the
impairment loss is then based on the fair value of the asset compared with
its carrying value.
Fair Market Value of Financial Instruments - The carrying amount of the
Company's cash and cash equivalents, interest receivable, prepaid expenses
and deposits, accounts payable, accrued liabilities, accrued compensation
and advances from affiliated companies approximates fair market value
because of the short maturity of those instruments.
Income Taxes - The Company is not subject to federal or state income tax.
The taxable income or loss applicable to the operations of the Company is
includable in the federal and state income tax returns of the members.
Effects of Recently Issued Accounting Standards - In June 1998, the
Financial Accounting Standards Board ("FASB") issued SFAS No. 133,
Accounting for Derivative Instruments and Hedging Activities, which
establishes accounting and reporting standards for derivative instruments
and hedging activities. Generally, it requires that an entity recognize all
derivatives as either an asset or liability and measure those instruments
at fair value as well as identify the conditions for which a derivative may
be specifically designed as a hedge. SFAS No. 133 is effective for fiscal
years beginning after June 15, 2000. The adoption of SFAS 133, effective
January 1, 2001, did not have an impact on the Company's financial
position, results of operations, or cash flows. The Company currently does
not have any derivative instruments and is not engaged in hedging
activities.
7
On June 29, 2001, the FASB approved for issuance SFAS No. 141, Business
Combinations, and SFAS No. 142, Goodwill and Intangibles Assets. Major
provisions of these statements are as follows: all business combinations
initiated after June 30, 2001 must use the purchase method of accounting;
the pooling of interest method of accounting is prohibited except for
transactions initiated before July 1, 2001; intangible assets acquired in a
business combination must be recorded separately from goodwill if they
arise from contractual or other legal rights or are separable from the
acquired entity and can be sold, transferred, licensed, rented or
exchanged, either individually or as part of a related contract, asset or
liability; goodwill and intangible assets with indefinite lives are not
amortized but are tested for impairment annually, except in certain
circumstances, and whenever there is an impairment indicator; all acquired
goodwill must be assigned to reporting units for purposes of impairment
testing, and effective January 1, 2002, goodwill will no longer be subject
to amortization. Although it is still reviewing the provisions of these
statements, management's preliminary assessment is that these statements
will not have a material impact on the Company's financial position or
results of operations.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations." SFAS No. 143 requires companies to record the fair
value of a liability for asset retirement obligations in the period in
which they are incurred. The statement applies to a company's legal
obligations associated with the retirement of tangible long lived assets
that result from the acquisition, construction and development or through
the normal operation of a long lived asset. When a liability is initially
recorded, the company would capitalize the cost, thereby increasing the
capital amount of the related asset. The capitalized asset retirement cost
is depreciated over the life of the respective asset while the liability in
accreted to its present value. Upon settlement of the liability, the
obligation is settled at its recorded amount or the company incurs a gain
or loss. This statement is effective for fiscal years beginning after June
15, 2002. The Company does not expect that adoption of SFAS No. 143 will
have a material impact on the Company's financial position or results of
operations.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long Lived Assets." SFAS No. 144 addresses the
accounting and reporting for the impairment or disposal of long-lived
assets. The statement provides a single accounting model for long-live
assets to be disposed if. New criteria must be met to classify the asset as
an asset for sale. This statement also focuses on reporting the effects of
a disposal of a segment of a business. This statement is effective for
years beginning after December 15, 2001. The Company does not expect that
adoption of SFAS No. 144 will have a material impact on the Company's
financial position or results of operations.
3. FIXED ASSETS
At September 30, 2001 the fixed assets were comprised of $10,948 of office
furniture and equipment and $2,000 for computer equipment. Depreciation
expense for the nine-month period ended September 30, 2001 amounted to
$2,137.
4. BRIDGE LOANS
Pursuant to the Contribution Agreement described in Note 8, a third party
has arranged for bridge loans of up to $2,100,000. The bridge loans are
unsecured and bear interest at the rate of 8 1/2 % per annum, however
interest does not begin to accrue until January 31, 2002. The bridge loans,
together with accrued interest thereon become payable on the earlier of i)
August 23, 2002, ii) the closing of the transactions contemplated by the
Contribution Agreement by and among the Company and its members and JPAL,
Inc. ("JPAL") and (iii) the sale or exchange of all or substantially all of
the membership interests of the Company which results in the Company having
an infusion of $4.5 million in capital. The bridge loans include the
issuance to the lenders of up to 840,000 warrants to purchase common shares
of JPAL for an exercise price of $3 per common share. Such warrants expire
in August 2004.
8
Through September 2001, the Company received bridge loans of $400,000 from
JPAL. From October 1, 2001 to January 11, 2002, the Company received an
additional $1,250,000 of bridge loans from JPAL.
The Company recorded accrued interest on the bridge loans in the amount of
$27,573 representing the interest payable on the bridge loans advanced
through September 30, 2001, of which $1,675 for the nine-month period ended
September 30, 2001 was expensed and $25,898 was recorded as deferred
interest.
5. COMMITMENTS AND CONTINGENCIES
Operating Leases
a. Premises - The Company shares the cost of premises with a
company affiliated with certain members of an investor, LCG
Capital Group, LLC (formerly Lenox Capital Group LLC) ("LCG").
The lease term is month-to-month. The Company is not directly
obligated under the lease; however, its portion of the minimum
required payment is $3,750 per month. Rent expense for the
nine-month period ended September 30, 2001, the year ended
December 31, 2000 and the period from June 1, 1999 to December
31, 1999 totaled $20,145, $27,083 and $0, respectively.
In November 2001, the Company entered a lease for premises
which provides for the following rental payments:
Year Ending December 31,
2002 $119,000
2003 132,000
2004 135,000
2005 138,000
2006 141,000
2007 14,000
b. Computer Leases - The Company is allocated costs of computer
leases under leases assumed by a company related to a certain
member of LCG. The Company is not directly obligated under the
leases, however its portion of the minimum payments under the
leases were as follows:
Year Ending December 31,
2001 $19,000
2002 19,000
2003 6,000
Development Contracts
a. In March 2000, the Company entered into a consulting
agreement, which requires the Company to pay to the
consultant, $0.25 for each unit of the P5 sold.
b. In June 2000, the Company entered into a memorandum of
understanding, which provides for an exclusive and renewable,
two-year license for a certain component of P5 starting from
the date P5 is launched. Exclusivity is based on a minimum
number of P5 units sold of 100,000 for the first nine months
after launch, 150,000 units in the second nine months after
launch and 300,000 units in the third nine months after
launch. The memorandum of understanding will be automatically
renewed for additional years if royalties are $400,000 for the
first year and $750,000 for each year thereafter. Royalties
are 2.5% of P5's net sales. Included in product development
expense for the year ended December 31, 2000 is an advance
royalty payment of $55,000. An additional $20,000 advance
royalty payment is due upon delivery of an acceptable
prototype of the component.
9
c. In July 2000, the Company entered into an agreement for
product development with a company, which is owned by a person
who is related to certain members of the Company (see Note 7).
Pursuant to the agreement, the Company is required to pay
royalties of 1.8% on net sales of P5 and 9% of the license fee
collected by the Company with respect to P5.
d. In August 2000, the Company entered into a memorandum of
understanding, which provides for a renewable, two-year
license for a certain component of P5. Royalties are
calculated as the number of units of P5 sold multiplied by the
greater of a) $0.25 and b) the difference between the
manufacturing cost of the licensed component and an
alternative component with a minimum license fee of $125,000
per annum. Should the Company not use the licensed component
no royalties would be due pursuant to the memorandum of
understanding. Included in product development expense for the
year ended December 31, 2000 and for the nine-month period
ended September 30, 2001 are development fees of $25,000 and
$25,000, respectively.
e. In January 2001, the Company entered into memorandum of
understanding for the development of certain components of P5.
Pursuant to the memorandum of understanding, the Company is
required to pay royalties of 1% of P5's net sales to the
developer. A nonrefundable royalty advance of $10,000 and
$5,000 is included in product development for the year ended
December 31, 2000 and for the nine-month period ended
September 30, 2001, respectively. The Company is required to
pay a further royalty advance of $35,000 should the Company
incorporate the component developed pursuant to the memorandum
of understanding into P5. Should the Company not incorporate
the component developed pursuant to the memorandum of
understanding into P5, it will not to be obligated to pay the
$35,000 royalty advance nor the 1% royalty on future sales.
f. In July 2001, the Company entered a development agreement for
the development of certain components of P5. Pursuant to this
development agreement, the Company paid a development fee of
$90,000 for the nine-month period ended September 30, 2001.
Thereafter, the Company, at its discretion, may continue the
monthly fee and for a period of nine additional months on a
month-to-month basis. In addition to the development fee, the
Company is required to pay base royalties of 1% of net sales
generated from P5 and an additional 0.5% of net sales
generated from P5 if the developer meets certain milestones
defined in this development agreement.
6. MEMBERS' CAPITAL AND NOTE RECEIVABLE
In December 1999, LCG Capital Group, LLC acquired a 50% interest in the
Company for an aggregate purchase price of $2,500,000. The consideration
received was comprised of $500,000 in cash and a $2,000,000 note. The note
bore interest at the rate of 6% per annum, had a maturity date of December
13, 2002 and was secured by the membership interest of LCG capital Group,
LLC. The remaining 50% interest in the Company represents ownership by the
founders of the Company. The note receivable for members' capital was fully
repaid in July 2001.
The Company recorded interest income of $20,465 and $103,459 for the
nine-month period ended September 30, 2001 and for the year ended December
31, 2000, respectively.
10
7. RELATED PARTY BALANCES AND TRANSACTIONS
Accrued compensation of $247,203 and $221,267 at September 30, 2001 and
December 31, 2000, respectively, is payable to certain officers and members
of the Company. The amounts are due on demand and are non-interest bearing.
Advances are from entities that are affiliated with LCG. The advances are
payable on demand and bear interest at the rate of 10% per annum.
Advances from LCG are non-interest bearing and payable on demand.
Included in prepaid expense, deposits and other assets at September 30,
2001 and December 31, 2000 is $22,500 which represents the Company's
portion of a letter of credit required to secure computer leases and $6,000
relating to a security deposit on premises due from LCG.
Included in product development costs are $105,000 and $145,000 for the
year ended December 31, 2000 and for the period from June 1, 1999 to
December 31, 1999, respectively, paid to a company owned by an individual
related to certain members of the Company.
Included in marketing expense are $66,400 for the nine-month period ended
September 30, 2001, paid to a company owned by a person related to certain
members of the Company.
Included in general and administrative expenses are costs incurred of
$141,800, $147,840 and $0 for the nine-month period ended September 30,
2001, the year ended December 31, 2000 and for the period from June 1, 1999
to December 31, 1999, respectively, by two entities that are related to
certain members of LCG. Such costs include consulting fees, employee
salaries, occupancy, telephone and computer leases. In the case of employee
salaries, costs are allocated to the Company based on the time each
employee conducts business specific to the Company. In the case of the
other expenses, costs are allocated based on a percentage of resources used
by the Company.
8. CONTRIBUTION AGREEMENT
In August 2001 and as amended as of October 31, 2001 and November 30, 2001,
the Company and its members entered into an agreement (the "Contribution
Agreement") with JPAL, a publicly traded company, to contribute their
membership interests in the Company in exchange for up to 11,000,000 common
shares of JPAL (the "Exchange"). Pursuant to the Contribution Agreement,
the shareholders of JPAL will retain their shares in JPAL. The members of
the Company will receive shares of common stock of the merged entity
representing approximately 60% of the equity of the merged entity, on a
fully diluted basis.
The transaction is expected to be accounted for as a reverse acquisition in
which the Company is the accounting acquirer and JPAL is the legal
acquirer. The management of the Company is expected to remain the
management of the merged entity. Since the Exchange is expected to be
accounted for as a reverse acquisition and not a business combination, no
goodwill is expected to be recorded in connection with the Exchange and the
costs incurred in connection with the Exchange are expected to be accounted
for as a reduction of additional paid-in capital.
The Exchange is contingent upon JPAL having, immediately prior to the
Exchange:
o $4,500,000 in cash plus $35,000 in additional cash necessary
to repay certain loans; and
o Capitalization of: (i) 4,695,055 issued and outstanding common
shares and; (ii) up to 2,625,714 warrants to purchase common
shares at the exercise price of between $3.00 and $3.75 per
common share.
The Exchange may be terminated by either party if the closing does not
occur on or before January 31, 2002, which date may be extended for up to
30 days by the mutual consent of the parties.
11
Concurrent with the Exchange, the Company expects to establish a stock
incentive plan pursuant to which the merged entity may grant options, stock
appreciation rights, restricted stock and/or other equity-based incentives
to its directors, employees, consultants and advisors for up to an
aggregate of 3,500,000 shares of its common stock.
* * * * * *
12