1 FORM 10-Q UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Quarterly Period Ended June 30, 2000 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Transition Period from to ------ ------ Commission File Number 000-28275 PFSweb, INC. ------------------------------------------------------ (Exact name of registrant as specified in its charter) DELAWARE 75-2837058 ----------------------- -------------------------- (State of Incorporation) (I.R.S. Employer I.D. No.) 500 NORTH CENTRAL EXPRESSWAY, PLANO, TEXAS 75074 ------------------------------------------ -------- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (972) 881-2900 ----------------------------- Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No --- --- At August 3, 2000 there were 17,870,000 shares of registrant's common stock outstanding.
2 PFSweb, INC. AND SUBSIDIARIES FORM 10-Q JUNE 30, 2000 INDEX PART I. FINANCIAL INFORMATION PAGE NUMBER ----------- Item 1. Financial Statements: Condensed Consolidated Balance Sheets as of June 30, 2000 (unaudited) and March 31, 2000.......................................... 3 Unaudited Interim Condensed Consolidated Statements of Operations for the Three Months Ended June 30, 2000 and 1999............ 4 Unaudited Interim Condensed Consolidated Statements of Cash Flows for the Three Months Ended June 30, 2000 and 1999................. 5 Notes to Unaudited Interim Condensed Consolidated Financial Statements.............................................................. 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ......................................... 9 PART II. OTHER INFORMATION Item 4. Submission of Matters to a Vote of Security Holders.............................. 16 Item 6. Exhibits and Reports on Form 8-K ................................................ 16 SIGNATURES......................................................................................... 17 2
3 PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS PFSweb, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS (IN THOUSANDS, EXCEPT SHARE DATA) ASSETS June 30, March 31, 2000 2000 ---------- -------- (unaudited) CURRENT ASSETS: Cash and cash equivalents ................................................ $ 22,113 $ 24,896 Accounts receivable, net of allowance for doubtful accounts of $501 and $690 at June 30, 2000 and March 31, 2000, respectively ...... 7,967 8,892 Receivable from Daisytek ................................................. 2,912 -- Other receivables ........................................................ 1,729 3,482 Prepaid expenses and other current assets ................................ 1,691 1,052 -------- -------- Total current assets ....................................... 36,412 38,322 -------- -------- NET PROPERTY AND EQUIPMENT ................................................... 21,557 21,555 OTHER ASSETS ................................................................. 501 528 -------- -------- Total assets ............................................... $ 58,470 $ 60,405 ======== ======== LIABILITIES AND SHAREHOLDERS' EQUITY CURRENT LIABILITIES: Current portion of long-term debt ........................................ $ 281 $ 274 Trade accounts payable ................................................... 5,190 6,277 Accrued expenses ......................................................... 3,336 3,525 Payable to Daisytek ...................................................... -- 272 -------- -------- Total current liabilities .................................. 8,807 10,348 -------- -------- CAPITAL LEASE OBLIGATIONS, less current portion .............................. 2,342 2,407 -------- -------- COMMITMENTS AND CONTINGENCIES SHAREHOLDERS' EQUITY: Preferred stock, $1.00 par value; 1,000,000 shares authorized; none issued and outstanding ...................................................... -- -- Common stock, $0.001 par value; 40,000,000 shares authorized; 17,870,000 shares issued and outstanding ............................. 18 18 Additional paid-in capital ............................................... 50,689 50,673 Retained deficit ......................................................... (3,074) (2,836) Accumulated other comprehensive loss ..................................... (312) (205) -------- -------- Total shareholders' equity ................................. 47,321 47,650 -------- -------- Total liabilities and shareholders' equity ................. $ 58,470 $ 60,405 ======== ======== The accompanying notes are an integral part of these unaudited interim condensed consolidated statements. 3
4 PFSweb, INC. AND SUBSIDIARIES UNAUDITED INTERIM CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (IN THOUSANDS, EXCEPT PER SHARE DATA) Three Months Ended June 30, -------------------- 2000 1999 -------- -------- REVENUES: Product revenue ................................. $ -- $ 32,620 Service fee revenue ............................. 13,370 3,191 -------- -------- Total revenues .............................. 13,370 35,811 -------- -------- COSTS OF REVENUES: Cost of product revenue ......................... -- 30,793 Cost of service fee revenue ..................... 8,645 2,231 -------- -------- Total costs of revenues ..................... 8,645 33,024 -------- -------- Gross profit ................................ 4,725 2,787 SELLING, GENERAL AND ADMINISTRATIVE EXPENSES ........ 5,230 2,788 -------- -------- Loss from operations ........................ (505) (1) INTEREST (INCOME) EXPENSE, net ...................... (316) 326 -------- -------- Loss before income taxes .................... (189) (327) PROVISION (BENEFIT) FOR INCOME TAXES ................ 49 (129) -------- -------- NET LOSS ............................................ $ (238) $ (198) ======== ======== NET LOSS PER SHARE: Basic and diluted .............................. $ (0.01) $ (0.01) ======== ======== WEIGHTED AVERAGE NUMBER OF SHARES OUTSTANDING: Basic and diluted .............................. 17,870 14,305 ======== ======== The accompanying notes are an integral part of these unaudited interim condensed consolidated statements. 4
5 PFSweb, INC. AND SUBSIDIARIES UNAUDITED INTERIM CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS) Three Months Ended June 30, -------------------- 2000 1999 -------- -------- CASH FLOWS FROM OPERATING ACTIVITIES: Net loss .................................................................. $ (238) $ (198) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization .......................................... 1,380 216 Non-cash compensation expense .......................................... 16 -- Provision for doubtful accounts ........................................ 175 105 Deferred income tax provision (benefit) ................................ -- (15) Changes in operating assets and liabilities: Accounts and other receivables ..................................... (2,057) (665) Inventories, net ................................................... -- 5,264 Prepaid expenses and other current assets .......................... (639) 200 Accounts payable and accrued expenses .............................. (1,540) (9,312) -------- -------- Net cash used in operating activities ......................... (2,903) (4,405) -------- -------- CASH FLOWS FROM INVESTING ACTIVITIES: Purchases of property and equipment ....................................... (1,387) (2,077) Decrease (increase) in other assets ....................................... 1,675 (163) -------- -------- Net cash provided by (used in) investing activities ........... 288 (2,240) -------- -------- CASH FLOWS FROM FINANCING ACTIVITIES: Decrease in long-term debt ................................................ (58) -- Increase in payable to Daisytek, net ...................................... -- 8,460 -------- -------- Net cash provided by (used in) financing activities ........... (58) 8,460 -------- -------- EFFECT OF EXCHANGE RATES ON CASH AND CASH EQUIVALENTS ......................... (110) 6 -------- -------- NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS .......................... (2,783) 1,821 CASH AND CASH EQUIVALENTS, beginning of period ................................ 24,896 587 -------- -------- CASH AND CASH EQUIVALENTS, end of period ...................................... $ 22,113 $ 2,408 ======== ======== The accompanying notes are an integral part of these unaudited interim condensed consolidated statements. 5
6 PFSweb, INC. AND SUBSIDIARIES NOTES TO UNAUDITED INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS 1. OVERVIEW AND BASIS OF PRESENTATION: In June 1999, Daisytek International Corporation ("Daisytek") created a separate wholly-owned subsidiary named PFSweb, Inc. (the "Company" or "PFSweb"), a Delaware corporation, to become a holding company for certain of Daisytek's wholly-owned subsidiaries ("PFS") in contemplation of an initial public offering (the "Offering") of PFSweb. Daisytek contributed $20,000 for 14,305,000 shares of common stock of PFSweb. In December 1999, PFSweb sold 3,565,000 shares of common stock, including the underwriters' over-allotment, at a price of $17 per share. Prior to the Offering, the financial position, results of operations and cashflows of PFS were referred to as the combined financial statements of PFSweb. Subsequent to the Offering and for all periods presented herein, the financial position, results of operations and cash flows of the Company are referred to as the consolidated financial statements of PFSweb, Inc. and subsidiaries. PFSweb is an international provider of transaction management services to both traditional and e-commerce companies in the United States, Canada and Europe. The company offers such services as professional consulting services, e-marketplace order management, Web-enabled customer contact centers, customer lifecycle management, billing and collection services, information management, international distribution services. On June 8, 2000, the Daisytek Board of Directors approved the separation of PFSweb from Daisytek by means of a tax-free dividend of Daisytek's remaining ownership of PFSweb after receiving a favorable ruling from the IRS to the effect that the distribution by Daisytek of its shares of PFSweb stock would be tax-free to Daisytek and to Daisytek's shareholders for U.S. federal income tax purposes. The distribution of Daisytek's 14,305,000 shares of PFSweb occurred at the close of business on July 6, 2000, to Daisytek shareholders of record as of June 19, 2000. On June 8, 2000, the Board of Directors declared a dividend distribution of one preferred stock purchase right (a "Right") for each share of the Company's common stock outstanding on July 6, 2000. Each Right entitles the registered shareholders to purchase from the Company one one-thousandth of a share of preferred stock at an exercise price of $67, subject to adjustment. The Rights are not currently exercisable, but would become exercisable if certain events occurred relating to a person or group acquiring or attempting to acquire 15 percent or more of the Company's outstanding shares of common stock. The Rights expire on July 6, 2010, unless redeemed or exchanged by the Company earlier. The unaudited interim condensed consolidated financial statements as of June 30, 2000, and for the three months ended June 30, 2000 and 1999, have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission ("SEC") and are unaudited. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to the rules and regulations promulgated by the SEC. For all periods presented, certain expenses reflected in the unaudited interim condensed consolidated financial statements include an allocation of certain Daisytek corporate expenses and infrastructure costs. Management believes that the methods used to allocate expenses are reasonable, although the cost of services could be higher if obtained from other sources. In addition, certain service fee revenue and cost of service fee revenue have been reflected by PFSweb for services subcontracted to PFSweb by Daisytek. The service fee revenue, cost of service fee revenue and allocated expenses have been reflected on bases that Daisytek and PFSweb consider to be a reasonable reflection of the services provided and revenue earned by PFSweb and the utilization of services provided by Daisytek and the benefit received by PFSweb. The financial information included herein may not reflect the consolidated financial position, operating results, and cash flows of PFSweb in the future or what it would have been had PFSweb been a separate, stand-alone entity during the periods presented. In the opinion of management and subject to the foregoing, the unaudited interim condensed consolidated financial statements of the Company include all adjustments, consisting of only normal recurring adjustments, necessary for a fair presentation of the Company's financial position as of June 30, 2000, its results of operations and its results of cash flows for the three months ended June 30, 2000 and 6
7 PFSweb, INC. AND SUBSIDIARIES NOTES TO UNAUDITED INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 1999. Results of the Company's operations for interim periods may not be indicative of results for the full fiscal year. Certain prior period data has been reclassified to conform to the current period presentation. These reclassifications had no effect on previously reported net income, shareholders' equity or cash flows. 2. COMPREHENSIVE LOSS (IN THOUSANDS): Three Months Ended June 30, ------------------ 2000 1999 ------ ------ Net loss ............................ $(238) $(198) Comprehensive income adjustments: Foreign currency translation adjustment .................. (107) (57) ----- ----- Comprehensive loss ................. $(345) $(255) ===== ===== 3. NET LOSS PER COMMON SHARE AND COMMON SHARE EQUIVALENT: Basic and diluted net loss per common share attributable to PFSweb common stock were determined based on dividing the loss available to common stockholders by the weighted-average number of common shares outstanding. For purposes of this calculation, the 14,305,000 shares of PFSweb issued prior to the Offering were treated as outstanding for the periods presented prior to the Offering. There were no potentially dilutive securities outstanding during the period presented prior to the Offering. During the three months ended June 30, 2000, outstanding options to purchase common shares were anti-dilutive and have been excluded from the weighted average share computation. 4. TRANSACTIONS WITH DAISYTEK AND OTHER RELATED PARTIES: The Company's costs and expenses include allocations from Daisytek for certain general administrative services including information technology, financial, treasury, legal, insurance and other corporate functions as well as certain costs of operations including facility charges. These allocations have been estimated on bases that Daisytek and the Company consider to be a reasonable reflection of the utilization of services provided or the benefit received by the Company. The methods used for allocation of expenses from Daisytek were either (i) percentage of: revenue, shipped orders, or number of employees or (ii) management's best estimate. However, these allocations of costs and expenses do not necessarily indicate the costs and expenses that would have been or will be incurred by the Company on a stand-alone basis. Management estimates that incremental selling, general and administrative expenses associated with PFSweb operating as a stand-alone publicly traded company, including executive management, overhead and public company costs, insurance and risk management costs, and other costs would have been approximately $0.2 million and $0.5 million for the three months ended June 30, 2000 and 1999, respectively. The Company's product revenue from sales to Daisytek was zero and $4.1 million for the three months ended June 30, 2000 and 1999, respectively. During the quarter ended September 30, 1999 and in connection with the restructuring of certain IBM master distribution agreements, the Company transferred to Daisytek certain related product inventory, accounts receivable and accounts payable that it held under its prior agreements. In consideration of this transfer, the Company received the net book value of these assets and liabilities of approximately $20 million and reduced its payable to Daisytek by a corresponding amount. In conjunction with the successful completion of the Offering, PFSweb entered into agreements with Daisytek, including a tax sharing agreement, a transaction management services agreement, a transition services agreement and a master separation agreement which are expected to have a significant impact on the financial position and results of operations of PFSweb. 7
8 PFSweb, INC. AND SUBSIDIARIES NOTES TO UNAUDITED INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) In addition, included in the financial statements are service fee revenues and cost of service fee revenue which have been reflected by PFSweb for certain services subcontracted to PFSweb by Daisytek under Daisytek's contractual agreements. Service fee revenues charged to Daisytek under (i) the new IBM contracts, entered into during the quarter ended September 30, 1999, (ii) terms of the transaction management services agreement with Daisytek and (iii) for certain subcontracted services, were $7.5 million for the three months ended June 30, 2000. Service fee revenues applicable to the subcontracted service were $0.2 million for the three months ended June 30, 1999. 5. SUBSEQUENT EVENT In connection with the completion of the spin-off, as of July 6, 2000, all outstanding Daisytek options ("Daisytek Pre-spin Options") were adjusted and/or replaced with Daisytek options (the "Daisytek Post-spin Options") and PFSweb options (the "PFSweb Post-spin Options," and together with the Daisytek Post-spin Options, the "Replacement Options"). In general, the exercise price and the number of shares subject to each of the Replacement Options was established pursuant to a formula designed to ensure that: (1) the aggregate "intrinsic value" (i.e. the difference between the exercise price of the option and the market price of the common stock underlying the option) of the Replacement Option did not exceed the aggregate intrinsic value of the outstanding Daisytek Pre-spin Option which is replaced by such Replacement Option immediately prior to the spin-off, and (2) the ratio of the exercise price of each option to the market value of the underlying stock immediately before and after the spin-off was preserved. Substantially all of the other terms and conditions of each Replacement Option, including the time or times when, and the manner in which, each option is exercisable, the duration of the exercise period, the permitted method of exercise, settlement and payment, the rules that apply in the event of the termination of employment of the employee, the events, if any, that may give rise to an employee's right to accelerate the vesting or the time or exercise thereof and the vesting provisions, is the same as those of the replaced Daisytek Pre-spin Option, except that option holders who are employed by one company are permitted to exercise, and are subject to all of the terms and provisions of, options to acquire shares in the other company as if such holder was an employee of such other company. As a result of the spin-off, on July 6, 2000, 3,479,697 PFSweb Post-spin Options, with a weighted average exercise price of $7.26, were issued to Daisytek and PFSweb officers, directors and employees. 8
9 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion and analysis of our results of operations and financial condition should be read in conjunction with the unaudited interim condensed consolidated financial statements and related notes appearing elsewhere in this Form 10-Q. FORWARD-LOOKING INFORMATION We have made forward-looking statements in this Report on Form 10-Q. These statements are subject to risks and uncertainties, and there can be no guarantee that these statements will prove to be correct. Forward-looking statements include assumptions as to how we may perform in the future. When we use words like "seek," "strive," "believe," "expect," "anticipate," "predict," "potential," "continue," "will," "may," "could," "intend," "plan," "target" and "estimate" or similar expressions, we are making forward-looking statements. You should understand that the following important factors, in addition to those set forth above or elsewhere in this Report on Form 10-Q, our Prospectus dated December 2, 1999, and our Form 10-K for the year ended March 31, 2000, could cause our results to differ materially from those expressed in our forward-looking statements. These factors include: o our reliance on the fees generated by the transaction volume or product sales of our clients; o the impact of strategic alliances; o trends in the market for our services; o trends in e-commerce; o whether we can continue and manage growth; o changes in the trend toward outsourcing; o increased competition; o effects of changes in profit margins; o the unknown effects of possible system failures and rapid changes in technology; o trends in government regulation; and o our relationship with and separation from Daisytek. We have based these statements on our current expectations about future events. Although we believe that the expectations reflected in our forward-looking statements are reasonable, we cannot guarantee you that these expectations actually will be achieved. This Report on Form 10-Q also contains other forward-looking statements, including those related to our completed spin-off from Daisytek. The realization of the anticipated results could take longer than expected and implementation difficulties and market factors could alter anticipated results. These factors may cause our actual results to differ materially from any forward-looking statements. OVERVIEW We are an international provider of transaction management services to both traditional and e-commerce companies. We derive our revenues from a broad range of services, including order management, Web-enabled customer contact centers, billing services, information management, international fulfillment and distribution services and professional consulting services. Our distribution services are conducted at our warehouses and include picking, packing and shipping our clients' customer orders. We offer our services as an integrated solution, which enables our clients to outsource their 9
10 complete transaction management needs to a single source and to focus on their core competencies. We currently provide transaction management services to over 30 clients that operate in a range of vertical markets, including apparel, computer products, printers, sporting goods, cosmetics and consumer electronics, among others. Our service fee revenue is typically charged on a percent of shipped revenue basis or a per-transaction basis, such as a per-minute basis for Web-enabled customer contact center services and a per-item basis for fulfillment services. Additional fees are billed for other services. We price our services based on a variety of factors, including the depth and complexity of the services provided, the amount of capital expenditures or systems customization required, the length of contract and other factors. Many of our contracts with our clients involve third-party vendors who provide additional services such as package delivery. The costs we are charged by these third-party vendors for these services are passed on to our clients (and, in many cases, our clients' customers) and are not reflected in our revenue or expense. Historically, our services have also included purchasing and reselling client product inventory. In these arrangements, our product revenue was recognized at the time product was shipped. During the quarter ended September 30, 1999, our primary client agreement under which we previously purchased and sold inventory was restructured to provide transaction management services only on a service fee basis. Our expenses are comprised of: o on an historical basis prior to September 30, 1999, cost of product revenue, which consists of the purchase price of product sold and net freight costs; o cost of service fee revenue, which consists primarily of compensation and related expenses for our Web-enabled customer contact center services, international fulfillment and distribution services and professional consulting services, and other fixed and variable expenses directly related to providing services under the terms of fee based contracts, including certain occupancy and information technology costs and depreciation and amortization expenses; and o selling, general and administrative expenses, which consist primarily of compensation and related expenses for sales and marketing staff, executive, management and administrative personnel and other overhead costs, including certain occupancy and information technology costs and depreciation and amortization expenses. In addition, on an historical basis, certain direct contract costs related to our IBM master distributor agreements have been reflected as selling and administrative expenses. ADJUSTED FINANCIAL PRESENTATION We believe our June 30, 1999 historical financial statements may not provide a meaningful comparison to our current and future financial statements for the reasons described below. In 1996, we entered into an agreement with the printer supplies division of IBM. Under this agreement, we provided IBM with various transaction management services, such as customer contact center services and order fulfillment and distribution. We also served as an IBM master distributor of printer supply products. Under this master distributor arrangement, we purchased the printer supply products from IBM and resold them to IBM customers. Following our initial agreement with the printer supplies division, we entered into several similar agreements with other divisions of IBM, both in the U.S. and Europe, and expanded our then existing agreements to include more product lines. During the quarter ended September 30, 1999, we, Daisytek and IBM entered into new agreements to conform to our current business model. Under these new agreements, Daisytek acts as the master distributor of the IBM products and we will continue to provide various transaction management services. As part of this restructuring, we transferred to Daisytek the IBM product inventory, which we held as the master distributor, together with our customer accounts receivable and our accounts payable owing to IBM in respect of the product inventory. The purpose of the restructuring was to separate the master distributor 10
11 and transaction management responsibilities between ourselves and Daisytek so that each could focus on its core competencies. As a result of the restructuring of the IBM agreements, our June 30, 1999 historical financial statements may not provide a meaningful comparison to our current and future financial statements. This is because, as a master distributor under our prior agreements, we recorded revenue as product revenue as we sold the product to IBM customers. Similarly, our gross profit was based upon the difference between our revenue from product sales and the cost of purchasing the product from IBM. Currently, however, our revenue under the new IBM agreements is service fee revenue that is payable by Daisytek and is based upon a variable percentage of Daisytek's gross profit arising from its IBM product sales. As a result of this restructuring of our IBM agreements, our total revenues arising under our new IBM agreements will be reduced, as compared to the total revenues arising under the prior IBM agreements. However, our gross profit margin as a percent of service fee revenue under the new IBM agreements is anticipated to be significantly higher as compared to our gross profit margin as a percent of product revenue under the prior IBM agreements. In addition, upon completion of the Offering in December 1999, we entered into a new transaction management services agreement with Daisytek. Under this agreement, we receive service fee revenue based upon a percentage of Daisytek's shipped product revenue. Consequently, the service fee revenue we receive from Daisytek under this new agreement have been recognized only subsequent to the Offering. Additionally, upon completion of the Offering, Daisytek transferred to us fixed assets and other assets which are used in our business. We paid to Daisytek a portion of the net proceeds of the Offering and assumed capital and operating lease obligations related to these assets. In order to show how our current financial statements compare with our historical financial statements because of our new arrangements with IBM and Daisytek, we have set forth below an adjusted presentation of our total historical revenue and cost of revenue. This presentation shows, retroactively, what our service fee revenue and cost of service fee revenue for the three months ended June 30, 1999, would have been if (i) our modified agreement with IBM and our new agreement with Daisytek had been in effect for this period, and (ii) our acquisition of the assets and liabilities that Daisytek transferred to us upon completion the IPO had occurred as of the beginning of the three months ended June 30, 1999. THREE MONTHS THREE MONTHS ENDED ENDED JUNE 30, JUNE 30, 2000 1999 ---------- ---------- (IN THOUSANDS) (UNAUDITED) Service fee revenue................... $ 13,370 $ 9,250 Cost of service fee revenue .......... 8,645 5,827 Service fee gross profit.............. 4,725 3,423 Service fee gross profit margin ...... 35.3% 37.0% Based on this presentation, our largest clients for the three months ended June 30, 2000 were Daisytek (43.0%) and IBM (13.5%), and our largest clients for the three months ended June 30, 1999 would have been Daisytek (52.0%) and IBM (15.5%). In calculating these percentages, we have considered IBM as our client under our new IBM agreements even though the service fees arising under these agreements are paid by Daisytek. We based the adjusted operating data on available information and certain estimates and assumptions. We believe that such assumptions provide a reasonable basis for presenting our results, adjusting for the transactions described above. This adjusted financial information does not reflect what our operating income or net income would have been during the period presented or what our results of operations may be in the future. 11
12 RESULTS OF OPERATIONS Three Months Ended June 30, ----------------- 2000 1999 ------ ------ Product revenue ................................. -- % 91.1% Service fee revenue ............................. 100.0 8.9 ----- ----- Total revenues ........................... 100.0 100.0 Cost of product revenue (as % of product revenue) .................................... -- 94.4 Cost of service fee revenue (as % of service fee revenue) .................................... 64.7 69.9 ----- ----- Total costs of revenues .................. 64.7 92.2 ----- ----- Gross profit .................................... 35.3 7.8 Selling, general and administrative expenses .... 39.1 7.8 ----- ----- Loss from operations ............................ (3.8) (0.0) Interest (income) expense, net .................. (2.4) 0.9 ----- ----- Loss before income taxes ........................ (1.4) (0.9) Provision (benefit) for income taxes ............ 0.4 (0.3) ----- ----- Net loss ........................................ (1.8)% (0.6)% ===== ===== RESULTS OF OPERATIONS FOR THE INTERIM PERIODS ENDED JUNE 30, 2000 AND 1999 We believe our June 30, 1999 historical financial statements may not provide a meaningful comparison to our current and future financial statements for the reasons described above. Product Revenue. Product revenue was zero for the three months ended June 30, 2000, as compared to $32.6 million for the three months ended June 30, 1999. As stated above, during the quarter ended September 30, 1999, we, Daisytek and IBM entered into new agreements applicable to all of our IBM relationships. As a result of these agreements, the activities performed under these contracts since that date were accounted for as service fee revenue as opposed to product revenue. In future periods, we do not expect to have any product revenue. Service Fee Revenue. Service fee revenue was $13.4 million for the three months ended June 30, 2000, as compared to $3.2 million during the three months ended June 30, 1999, an increase of $10.2 million or 319%. The increase in service fee revenues over prior periods was due to the further expansion of existing contracts, the restructuring of all the IBM contracts, and new service contract relationships, including our new transaction management services agreement with Daisytek which commenced on the completion of the Offering in December 1999. Service fee revenue from existing contracts increased $.2 million and new service contract relationships added $10.0 million for the three months ended June 30, 2000. For the three months ended June 30, 2000, new service fee revenue totaling $7.3 million included fees earned from Daisytek under our new transaction management services agreement, effective as of the Offering, and our new IBM contracts that, prior to the September 1999 quarter, would have been reported as product revenue. As a result of certain contract terminations and a longer implementation cycle associated with new larger contracts, slower service fee revenue growth is currently expected to occur over the remaining fiscal 2000 quarters. Cost of Product Revenue. Cost of product revenue was zero for the three months ended June 30, 2000, as compared to $30.8 million during the three months ended June 30, 1999. Cost of product revenue as a percent of product revenue was 94.4% during the three months ended June 30, 1999. The resulting gross profit margin was 5.6% during the three months ended June 30, 1999. As a result of the new IBM arrangements, we do not expect to incur any cost of product revenue in future periods. Cost of Service Fee Revenue. Cost of service fee revenue was $8.6 million for the three months ended June 30, 2000, as compared to $2.2 million during the three months ended June 30, 1999, an increase of $6.4 million or 287.5%. The resulting service fee gross profit margin was 35.3% during the three months 12
13 ended June 30, 2000, and 30.1% during the three months ended June 30, 1999. During the three months ended June 30, 2000, cost of service fee revenue increased related to a large number of new service contract relationships. Gross Profit. Gross profit was $4.7 million, or 35.3% of revenues, for the three months ended June 30, 2000, as compared to $2.8 million, or 7.8% of revenues, for the three months ended June 30, 1999. The increase in total gross profit resulted primarily from the further expansion of existing contracts and new service contract relationships, including our new transaction management services agreement with Daisytek, which commenced on the completion of the Offering in December 1999. The increase in gross profit as a percentage of revenues resulted from the restructuring of all of the IBM contracts into service fee contracts, which typically have a higher gross profit margin as a percent of revenue as compared to the gross profit margin as a percent of revenue earned under the IBM master distributor agreements. In the Adjusted Financial Presentation data above, we have provided, retroactively, what our service fee gross profit margin would have been for the three months ended June 30, 1999, considering the impact of our modified agreement with IBM and our new agreement with Daisytek and our acquisition of the assets and liabilities which Daisytek transferred to us upon completion of the Offering. Selling, General and Administrative Expenses. SG&A expenses were $5.2 million for the three months ended June 30, 2000, or 39.1% of revenues, as compared to $2.8 million, or 7.8% of revenues, for the three months ended June 30, 1999. As a result of incremental costs, the restructuring of the IBM agreements and the related reduction in product revenue, SG&A expenses as a percentage of total revenue are higher in the current quarter than in the prior years quarter. SG&A expenses increased as a result of costs incurred to support the higher transaction volumes under both new and existing contracts, incremental investments in resources and technology to support our continued growth and public company costs. In the future, while we anticipate that we will continue to incur incremental costs as we make further SG&A investments in our sales, marketing, and technology areas to support our growth strategies and as a result of operating as a stand-alone public company, we are targeting our SG&A, as a percent of sales, to decrease as we increase our service fee revenue. Interest (Income) Expense, Net. Interest income was $0.3 million for the three months ended June 30, 2000 as compared to interest expense of $0.3 million for the three months ended June 30, 1999. Interest income was earned for the three months ended June 30, 2000 at a weighted average interest rate of 6.13%. The weighted average interest rate charged for the three months ended June 30, 1999 was 6.11%. In December 1999, we used a portion of the funds from the Offering to repay our intercompany payable balance to Daisytek and purchase certain assets from Daisytek. The remaining available cash will be used for future capital expenditures, general working capital needs and possible acquisitions. To the extent that we have excess cash available, we expect to generate interest income in future periods. Income Taxes. Our income tax provision as a percentage of pre-tax loss was 25.9% for the three months ended June 30, 2000 as compared to and income benefit of 39.4% for the three months ended June 30, 1999. Although we had a pre-tax loss for the three months ended June 30, 2000, we recorded an income tax provision associated with a pre-tax income from our Canadian operations. For the three months ended June 30, 2000 certain deferred tax assets were realized, which offset the taxes associated with our pre-tax income generated in the U.S. Because of our limited operating history in Europe, it is uncertain whether it is "more likely than not" that we will be able to utilize our European losses in future periods and therefore we did not record an income tax benefit for those pre-tax losses. To the extent we have future losses in Europe, it will continue to negatively impact our income tax provision. Additionally, since we will cease to be included in Daisytek's consolidated return due to the completion of the spin-off and we have not established a sufficient history of earnings, on a stand-alone basis, a valuation allowance has been provided for the remaining net deferred income tax asset as of June 30, 2000. For the three months ended June 30, 1999, the income tax percentage is impacted by the differences between our U.S. and foreign subsidiaries, which are taxed at different rates. 13
14 LIQUIDITY AND CAPITAL RESOURCES As a subsidiary of Daisytek, we have historically funded our business through intercompany borrowings from Daisytek. As a result of the Offering, we repaid such intercompany borrowings. Since Daisytek is prohibited from advancing funds to us, except in the normal course of business, in order to provide additional financing flexibility in the future above the over $22 million current cash position, we plan to seek our own credit facility. Working capital decreased to $27.6 million at June 30, 2000 from $28.0 million at March 31, 2000. We currently believe that the remaining net proceeds from the Offering and funds generated from operations will satisfy our working capital and capital expenditure requirements for the next twelve months. Net cash used in financing activities was $0.1 million for the three months ended June 30, 2000, representing payments on our capital lease obligations. Net cash provided by financing activities was $8.5 million for the three months ended June 30, 1999. For the three months ended June 30, 1999, cash provided by Daisytek was used to fund the incremental financing of one of our client's inventory, our capital expenditures and working capital requirements. Cash flows used in operating activities totaled $2.9 million and $4.4 million during the three months ended June 30, 2000 and 1999, respectively. For the three months ended June 30, 2000, the net cash used in operating activities primarily reflected a reduction in accounts payable and accrued expenses of $1.5 million and an increase in prepaid expenses and accounts receivable of $2.7 million. For the three months ended June 30, 1999, the net cash used in operating activities were primarily related to the IBM contracts and reflected a decrease in inventory of $5.3 million, an increase in accounts receivable of $.6 million, and a decrease in accounts payable and accrued expenses of $9.3 million. Cash provided by investing activities was $.3 million for the three months ended June 30, 2000 as compared to cash used of $2.2 million for the three months ended June 30, 1999. During the three months ended June 30, 2000, our capital expenditures of $1.4 million for property and equipment were more than offset by a reduction of third-party financed inventory. Subsequent to June 30, 2000, this client fully repaid the remaining $1.7 million balance. Cash used in investing activities for the three months ended June 30, 1999 was primarily as a result of an increase in third-part financed inventory. Capital expenditures have historically consisted primarily of additions to upgrade our management information systems, including our Internet-based customer tools, other methods of e-commerce and general expansion of our facilities, both domestic and foreign. We expect to incur significant capital expenditures in order to support new contracts and anticipated future growth opportunities. We anticipate that our total investment in upgrades and additions to facilities and information technology services for fiscal year 2001 will be approximately $7 to $10 million. Some of these expenditures may be financed through operating or capital leases. We may consider entering into forward exchange contracts in order to hedge our net investment in our Canadian or European operations or in other international countries in which we establish a presence, although no assurance can be given that we will be able to do so on acceptable terms. In the future, we may attempt to acquire other businesses to expand our services or capabilities in connection with our efforts to grow our business. We currently have no binding agreements to acquire any such businesses. Should we be successful in acquiring other businesses, we may require additional financing. Acquisitions involve certain risks and uncertainties. Therefore, we can give no assurance with respect to whether we will be successful in identifying businesses to acquire, whether we will be able to obtain financing to complete an acquisition, or whether we will be successful in operating the acquired business. Currently, the Company believes that it is operating with and incurring costs applicable to excess capacity in both its North American and European operations. The Company estimates that it will require approximately $15 million of quarterly service fee revenue to more fully utilize its capacity, cover existing operating costs and future incremental stand-alone public company costs and reach profitability. Based on current sales and contract implementation cycles, the Company is targeting that profitability will be achieved in the middle of calendar year 2001. No assurance can be given that the Company can achieve such service fee revenue levels, or that, if achieved, the Company will be profitable in any particular fiscal period. SEASONALITY The seasonality of our business is dependent upon the seasonality of our clients' business and their sale of their products. Accordingly, our management must rely upon the projections of our clients in assessing quarterly variability. We believe that with our current client mix, our business activity will be more significant in the quarter ended December 31. 14
15 We believe that results of operations for a quarterly period may not be indicative of the results for any other quarter or for the full year. INFLATION Management believes that inflation has not had a material effect on our operations. IMPACT OF RECENTLY ISSUED ACCOUNTING STANDARDS In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging Activities." SFAS No. 133 requires that an entity recognize all derivative financial instruments as either assets or liabilities in the statement of financial position and measure those instruments at fair value. If certain conditions are met, a derivative may be used to hedge certain types of transactions, including foreign currency exposures of a net investment in a foreign operation. SFAS No. 133 is effective for fiscal years beginning after June 15, 2000, with initial application as of the beginning of an entity's fiscal quarter. The Company is currently evaluating the provisions of SFAS No. 133 and its effect on the accounting treatment of its financial instruments. During 1999, the Securities and Exchange Commission issued Staff Accounting Bulletin ("SAB") No. 101, "Revenue Recognition." SAB No. 101 requires that revenue generally is realized or realizable and earned when all of the following criteria are met: (i) persuasive evidence of an arrangement exists, (ii) delivery has occurred or services have been rendered, (iii) the seller's price to the buyer is fixed or determinable, and (iv) collectibility is reasonably assured. SAB No. 101 is effective for the Company's fourth quarter ending March 31, 2001. The Company is currently evaluating the provisions of SAB No. 101 and its effect, if any, on the Company's financial statements. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK The carrying value of the Company's financial instruments, which include cash and cash equivalents and a capital lease obligation, approximate their fair values based on current market prices and rates. Currently, our foreign currency exchange rate risk is primarily limited to Canadian dollars and the Euro. In the future, we believe our foreign currency exchange risk will also include other currencies applicable to certain of our international operations. In order to mitigate foreign currency rate risk, we will consider entering into forward currency exchange contracts to hedge our net investment and long-term intercompany payable balances. 15
16 PART II. OTHER INFORMATION ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K a) Exhibits: EXHIBIT NO. DESCRIPTION OF EXHIBITS ------- ----------------------- 3.1* Amended and Restated Certificate of Incorporation 3.2* Amended and Restated Bylaws 10.1** Form of Change in Control Severance Agreement between the Company and its executive officers 10.2*** Rights Agreement dated as of June 8, 2000 between the Company and ChaseMellon Shareholder Services, LLC, which includes the Certificate of Designation in respect of the Series A Preferred Stock as Exhibit A, the form of Rights Certificate as Exhibit B, and the Summary of Rights to Purchase Series A Preferred Stock as Exhibit C 27.1** Financial Data Schedule for the three months ended June 30, 2000 - ----------------- * Incorporated by reference from PFSweb, Inc. Registration Statement on Form S-1 (Commission File No. 333-87657). ** Filed herewith. *** Incorporated by reference from Exhibit 4 to the Company's Report on Form 8-K dated June 14, 2000. b) Reports on Form 8-K: Form 8-K filed on June 14, 2000 reporting Item 5, the Company's Board of Directors declared a dividend of one preferred share purchase right on each outstanding share of common stock to shareholders of record on July 6, 2000 and reporting Item 5, the Company's press release dated June 8, 2000, announcing the separation of PFSweb, Inc. from Daisytek International Corporation by means of a tax-free dividend of Daisytek's remaining 80.1% ownership of PFSweb, Inc. Form 8-K filed on July 12, 2000 reporting Item I, change in control of registrant, the Company's press release announced the dividend by Daisytek International Corporation of its remaining 80.1% ownership of PFSweb, Inc. to the holders of record of Daisytek common stock and referencing further information regarding the spin-off contained in the Daisytek Information Statement dated June 20, 2000 (filed as Exhibit 99 to Form 8-K filed by Daisytek on June 22, 2000). 16
17 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. Date: August 14, 2000 PFSweb, Inc. By: /s/ Thomas J. Madden ---------------------------- Thomas J. Madden Chief Financial Officer, Chief Accounting Officer, Executive Vice President 17
18 INDEX TO EXHIBITS EXHIBIT NO. DESCRIPTION OF EXHIBITS ------- ----------------------- 3.1* Amended and Restated Certificate of Incorporation 3.2* Amended and Restated Bylaws 10.1** Form of Change in Control Severance Agreement between the Company and its executive officers 10.2*** Rights Agreement dated as of June 8, 2000 between the Company and ChaseMellon Shareholder Services, LLC, which includes the Certificate of Designation in respect of the Series A Preferred Stock as Exhibit A, the form of Rights Certificate as Exhibit B, and the Summary of Rights to Purchase Series A Preferred Stock as Exhibit C 27.1** Financial Data Schedule for the three months ended June 30, 2000 - --------------- * Incorporated by reference from PFSweb, Inc. Registration Statement on Form S-1 (Commission File No. 333-87657). ** Filed herewith. *** Incorporated by reference from Exhibit 4 to the Company's Report on Form 8-K dated June 14, 2000. 18
1 EXHIBIT 10.1 CHANGE IN CONTROL SEVERANCE AGREEMENT THIS AGREEMENT is entered into as of the ______ day of June, 2000 by and between PFSweb, Inc., a Delaware corporation (the "Company"), and __________________________________ ("Executive"). W I T N E S S E T H WHEREAS, the Company considers the establishment and maintenance of a sound and vital management to be essential to protecting and enhancing the best interests of the Company and its stockholders; and WHEREAS, the Company recognizes that, as is the case with many publicly held corporations, the possibility of a change in control may arise and that such possibility may result in the departure or distraction of management personnel to the detriment of the Company and its stockholders; and WHEREAS, the Board (as defined in Section 1) has determined that it is in the best interests of the Company and its stockholders to secure Executive's continued services and to ensure Executive's continued and undivided dedication to his duties in the event of any threat or occurrence of a Change in Control (as defined in Section 1) of the Company; and WHEREAS, the Board has authorized the Company to enter into this Agreement. NOW, THEREFORE, for and in consideration of the premises and the mutual covenants and agreements herein contained, the Company and Executive hereby agree as follows: 1. Definitions. As used in this Agreement, the following terms shall have the respective meanings set forth below: "Board" means the Board of Directors of the Company. "Bonus Amount" means the greater of (i) the highest annual incentive bonus earned by Executive from the Company (or its affiliates) during the last three (3) completed fiscal years of the Company immediately preceding Executive's Date of Termination (annualized in the event Executive was not employed by the Company (or its affiliates) for the whole of any such fiscal year) or (ii) the Executive's target bonus for the fiscal year of the Company which includes the Executive's Date of Termination. "Cause" means (i) the willful and continued failure of Executive to perform substantially his duties with the Company (other than any such failure resulting from Executive's incapacity due to physical or mental illness or any such failure subsequent to Executive being delivered a Notice of Termination without Cause by the Company or
2 delivering a Notice of Termination for Good Reason to the Company) after a written demand for substantial performance is delivered to Executive by the Board which specifically identifies the manner in which the Board believes that Executive has not substantially performed Executive's duties, or (ii) the willful engaging by Executive in illegal conduct or gross misconduct which is demonstrably and materially injurious to the Company or its affiliates. For purpose of the preceding sentence, no act or failure to act by Executive shall be considered "willful" unless done or omitted to be done by Executive in bad faith and without reasonable belief that Executive's action or omission was in the best interests of the Company. Any act, or failure to act, based upon authority given pursuant to a resolution duly adopted by the Board, based upon the advice of counsel for the Company (or upon the instructions of the Company's chief executive officer or another senior officer of the Company) shall be conclusively presumed to be done, or omitted to be done, by Executive in good faith and in the best interests of the Company. Cause shall not exist unless and until the Company has delivered to Executive a copy of a resolution duly adopted by a majority of the entire Board (excluding Executive if Executive is a Board member) at a meeting of the Board called and held for such purpose (after reasonable notice to Executive and an opportunity for Executive, together with counsel, to be heard before the Board), finding that in the good faith opinion of the Board an event set forth in clauses (1) or (2) has occurred and specifying the particulars thereof in detail. The Company must notify Executive of any event constituting Cause within ninety (90) days following the Company's knowledge of its existence or such event shall not constitute Cause under this Agreement. "Change in Control" means the occurrence of any one of the following events: (1) individuals who, on the date of this Agreement, constitute the Board (the "Incumbent Directors") cease for any reason to constitute at least a majority of the Board, provided that any person becoming a director subsequent to the date of this Agreement, whose election or nomination for election was approved by a vote of at least two-thirds of the Incumbent Directors then on the Board (either by a specific vote or by approval of the proxy statement of the Company in which such person is named as a nominee for director, without written objection to such nomination) shall be an Incumbent Director; provided, however, that no individual initially elected or nominated as a director of the Company as a result of an actual or threatened election contest with respect to directors or as a result of any other actual or threatened solicitation of proxies (or consents) by or on behalf of any person other than the Board shall be deemed to be an Incumbent Director; (2) any "Person" (as such term is defined in Section 3(a)(9) of the Securities Exchange Act of 1934 (the "Exchange Act") and as used in Sections 13(d)(3) and 14(d)(2) of the Exchange Act) is or becomes a "beneficial owner" (as defined in Rule 13d-3 under the Exchange Act), directly or indirectly, of securities of the Company representing 30% or more of the combined voting power of the Company's then outstanding securities eligible to vote for the election of the Board (the "Company Voting Securities"); provided, however, that the event described in this paragraph (ii) shall not be deemed to be a Change in Control by virtue of any of the following acquisitions: (A) by the Company or any Subsidiary, (B) by any employee benefit plan (or related trust) sponsored or maintained by the 2
3 Company or any Subsidiary, (C) by any underwriter temporarily holding securities pursuant to an offering of such securities, (D) pursuant to a Non-Qualifying Transaction (as defined in paragraph (iii)), or (E) pursuant to any acquisition by Executive or any group of persons including Executive (or any entity controlled by Executive or any group of persons including Executive); (3) the consummation of a merger, consolidation, statutory share exchange or similar form of corporate transaction involving the Company or any of its Subsidiaries that requires the approval of the Company's stockholders, whether for such transaction or the issuance of securities in the transaction (a "Business Combination"), unless immediately following such Business Combination: (A) more than 50% of the total voting power of (x) the corporation resulting from such Business Combination (the "Surviving Corporation"), or (y) if applicable, the ultimate parent corporation that directly or indirectly has beneficial ownership of 100% of the voting securities eligible to elect directors of the Surviving Corporation (the "Parent Corporation"), is represented by Company Voting Securities that were outstanding immediately prior to such Business Combination (or, if applicable, is represented by shares into which such Company Voting Securities were converted pursuant to such Business Combination), and such voting power among the holders thereof is in substantially the same proportion as the voting power of such Company Voting Securities among the holders thereof immediately prior to the Business Combination, (B) no person (other than any employee benefit plan (or related trust) sponsored or maintained by the Surviving Corporation or the Parent Corporation), is or becomes the beneficial owner, directly or indirectly, of 30% or more of the total voting power of the outstanding voting securities eligible to elect directors of the Parent Corporation (or, if there is no Parent Corporation, the Surviving Corporation) and (C) at least a majority of the members of the board of directors of the Parent Corporation (or, if there is no Parent Corporation, the Surviving Corporation) following the consummation of the Business Combination were Incumbent Directors at the time of the Board's approval of the execution of the initial agreement providing for such Business Combination (any Business Combination which satisfies all of the criteria specified in (A), (B) and (C) above shall be deemed to be a "Non-Qualifying Transaction); or (4) the stockholders of the Company approve a plan of complete liquidation or dissolution of the Company or a sale of all or substantially all of the Company's assets. Notwithstanding the foregoing, a Change in Control of the Company shall not be deemed to occur solely because any person acquires beneficial ownership of more than 30% of the Company Voting Securities as a result of the acquisition of Company Voting Securities by the Company which reduces the number of Company Voting Securities outstanding; provided, that if after such acquisition by the Company such person becomes the beneficial owner of additional Company Voting Securities that increases the percentage of outstanding Company Voting Securities beneficially owned by such person, a Change in Control of the Company shall then occur. 3
4 "Date of Termination" means (1) the effective date on which Executive's employment by the Company terminates as specified in a prior written notice by the Company or Executive, as the case may be, to the other, delivered pursuant to Section 10 or (2) if Executive's employment by the Company terminates by reason of death, the date of death of Executive. "Disability" means termination of Executive's employment by the Company due to Executive's absence from Executive's duties with the Company on a full-time basis for at least one hundred eighty (180) consecutive days as a result of Executive's incapacity due to physical or mental illness. "Good Reason" means, without Executive's express written consent, the occurrence of any of the following events after a Change in Control: (1) (A) any change in the duties or responsibilities (including reporting responsibilities) of Executive that is inconsistent in any material and adverse respect with Executive's position(s), duties, responsibilities or status with the Company immediately prior to such Change in Control (including any material and adverse diminution of such duties or responsibilities); provided, however, that Good Reason shall not be deemed to occur upon a change in duties or responsibilities (other than reporting responsibilities) that is solely and directly a result of the Company no longer being a publicly traded entity and does not involve any other event set forth in this paragraph (g) or (B) a material and adverse change in Executive's titles or offices (including, if applicable, membership on the Board) with the Company as in effect immediately prior to such Change in Control; (2) a reduction by the Company in Executive's rate of annual base salary or annual target bonus opportunity (including any material and adverse change in the formula for such annual bonus target) as in effect immediately prior to such Change in Control or as the same may be increased from time to time thereafter; (3) any requirement of the Company that Executive (A) be based anywhere more than thirty-five (35) miles from the office where Executive is located at the time of the Change in Control, if such relocation increases Executive's commute by more than twenty (20) miles, or (B) travel on Company business to an extent substantially greater than the travel obligations of Executive immediately prior to such Change in Control; (4) the failure of the Company to (A) continue in effect any employee benefit plan, compensation plan, welfare benefit plan or material fringe benefit plan in which Executive is participating immediately prior to such Change in Control or the taking of any action by the Company which would adversely affect Executive's participation in or reduce Executive's benefits under any such plan, unless Executive is permitted to participate in other plans providing Executive with substantially equivalent benefits in the aggregate (at substantially equivalent cost with respect to welfare benefit plans), or (B) provide Executive with paid vacation in accordance with the most favorable vacation policies of the Company as in effect for Executive immediately prior to such Change in Control, including the crediting of 4
5 all service for which Executive had been credited under such vacation policies prior to the Change in Control; (5) any refusal by the Company to continue to permit Executive to engage in activities not directly related to the business of the Company which Executive was permitted to engage in prior to the Change in Control; (6) any purported termination of Executive's employment which is not effectuated pursuant to Section 10(b) (and which will not constitute a termination hereunder); or (7) the failure of the Company to obtain the assumption (and, if applicable, guarantee) agreement from any successor (and, if applicable, Parent Corporation) as contemplated in Section 9(b). An isolated, insubstantial and inadvertent action taken in good faith and which is remedied by the Company within ten (10) days after receipt of notice thereof given by Executive shall not constitute Good Reason. Executive's right to terminate employment for Good Reason shall not be affected by Executive's incapacity due to mental or physical illness and Executive's continued employment shall not constitute consent to, or a waiver of rights with respect to, any event or condition constituting Good Reason; provided, however, that Executive must provide notice of termination of employment within ninety (90) days following Executive's knowledge of an event constituting Good Reason or such event shall not constitute Good Reason under this Agreement). "Qualifying Termination" means a termination of Executive's employment (i) by the Company other than for Cause or (ii) by Executive for Good Reason. Termination of Executive's employment on account of death, Disability or Retirement shall not be treated as a Qualifying Termination. "Subsidiary" means any corporation or other entity in which the Company has a direct or indirect ownership interest of 50% or more of the total combined voting power of the then outstanding securities or interests of such corporation or other entity entitled to vote generally in the election of directors or in which the Company has the right to receive 50% or more of the distribution of profits or 50% of the assets upon liquidation or dissolution. "Termination Period" means the period of time beginning with a Change in Control and ending two (2) years following such Change in Control. Notwithstanding anything in this Agreement to the contrary, if (i) Executive's employment is terminated prior to a Change in Control for reasons that would have constituted a Qualifying Termination if they had occurred following a Change in Control; (ii) Executive reasonably demonstrates that such termination (or Good Reason event) was at the request of a third party who had indicated an intention or taken steps reasonably calculated to effect a Change in Control; and (iii) a Change in Control involving such third party (or a party competing with such third party to effectuate a Change in Control) does occur, then for purposes of this Agreement, the date 5
6 immediately prior to the date of such termination of employment or event constituting Good Reason shall be treated as a Change in Control. For purposes of determining the timing of payments and benefits to Executive under Section 4, the date of the actual Change in Control shall of treated as Executive's Date of Termination under Section l(e). 2. Obligation of Executive. In the event of a tender or exchange offer, proxy contest, or the execution of any agreement which, if consummated, would constitute a Change in Control, Executive agrees not to voluntarily leave the employ of the Company, other than as a result of Disability or an event which would constitute Good Reason if a Change in Control had occurred, until the Change in Control occurs or, if earlier, such tender or exchange offer, proxy contest, or agreement is terminated or abandoned. 3. Term of Agreement. This Agreement shall be effective on the date hereof and shall continue in effect until the Company shall have given three (3) years' written notice of cancellation; provided, that, notwithstanding the delivery of any such notice, this Agreement shall continue in effect for a period of two (2) years after a Change in Control, if such Change in Control shall have occurred during the term of this Agreement. Notwithstanding anything in this Section to the contrary, this Agreement shall terminate if Executive or the Company terminates Executive's employment prior to a Change in Control except as provided in Section l(j). 4. Payments and Benefits (a) Qualifying Termination - Severance. If during the Termination Period the employment of Executive shall terminate pursuant to a Qualifying Termination, then the Company shall pay to Executive: (1) within ten (10) days following the Date of Termination a lump-sum cash amount equal to the sum of (A) Executive's base salary through the Date of Termination and any bonus amounts which have become payable, to the extent not theretofore paid or deferred, (B) a pro rata portion of Executive's annual bonus for the fiscal year in which Executive's Date of Termination occurs in an amount at least equal to (1) Executive's Bonus Amount, multiplied by (2) a fraction, the numerator of which is the number of days in the fiscal year in which the Date of Termination occurs through the Date of Termination and the denominator of which is three hundred sixty-five (365), and reduced by (3) any amounts paid from the Company's annual incentive plan for the fiscal year in which Executive's Date of Termination occurs, and (C), any compensation previously deferred by Executive other than pursuant to a tax-qualified plan (together with any interest and earnings thereon) and any accrued vacation pay, in each case to the extent not theretofore paid; plus (2) within ten (10) days following the Date of Termination, a lump-sum cash amount equal to (i) two (2) times Executive's highest annual rate of base salary during the 12-month period immediately prior to Executive's Date of Termination, plus (ii) two (2) times Executive's Bonus Amount, plus (iii) the value of any Company-provided benefits under the Company's 401(k) Plan which Executive would have accrued in the two (2) years following 6
7 the Date of Termination had he remained employed by the Company during such period, calculated assuming that both the Executive and the Company contributed the highest permissible amounts to the plans during such period. (b) Qualifying Termination - Benefits. If during the Termination Period the employment of Executive shall terminate pursuant to a Qualifying Termination, the Company shall continue to provide, for a period of two (2) years following Executive's Date of Termination, Executive (and Executive's dependents, if applicable) with the same level of medical, dental, accident, disability and life insurance benefits upon substantially the same terms and conditions (including contributions required by Executive for such benefits) as existed immediately prior to Executive's Date of Termination (or, if more favorable to Executive, as such benefits and terms and conditions existed immediately prior to the Change in Control); provided, that, if Executive cannot continue to participate in the Company plans providing such benefits, the Company shall otherwise provide such benefits on the same after-tax basis as if continued participation had been permitted. Notwithstanding the foregoing, in the event Executive becomes reemployed with another employer and becomes eligible to receive welfare benefits from such employer, the welfare benefits described herein shall be secondary to such benefits during the period of Executive's eligibility, but only to the extent that the Company reimburses Executive for any increased cost and provides any additional benefits necessary to give Executive the benefits provided hereunder. (c) Nonqualifying Termination. If during the Termination Period the employment of Executive shall terminate other than by reason of a Qualifying Termination, then the Company shall pay to Executive within thirty (30) days following the Date of Termination, a lump-sum cash amount equal to the sum of (1) Executive's base salary through the Date of Termination and any bonus amounts which have become payable, to the extent not theretofore paid or deferred, and (2) any compensation previously deferred by Executive other than pursuant to a tax-qualified plan (together with any interest and earnings thereon) and any accrued vacation pay, in each case to the extent not theretofore paid. The Company may make such additional payments, and provide such additional benefits, to Executive as the Company and Executive may agree in writing. (d) Stock Options. In the event of a Change in Control, all options to purchase Company stock held by Executive ("Options") which are not fully vested and exercisable shall become fully vested and exercisable as of a time established by the Board, which shall be no later than a time preceding the Change in Control which allows Executive to exercise the Options and cause the stock acquired thereby to participate in the Change in Control transaction. If the Change in Control transaction is structured such that stock participating therein at one time is or may be treated differently than stock participating therein at a different time (e.g., a tender offer followed by a squeeze-out merger, with differing forms or amounts of consideration), the Board shall interpret this paragraph (d) to provide for the required vesting acceleration in a manner designed to allow Executive to exercise the Options and cause the stock acquired thereby to participate in the earliest portion of the Change in Control transaction. If the consummation of a pending or threatened Change in Control transaction is uncertain (e.g., a tender offer in which the tender of a minimum number of 7
8 shares is a condition to closing, or a voted merger or proxy contest in which a minimum number of votes is a condition to closing), the Board shall apply this paragraph (d) by using its best efforts to determine if and when the Change in Control transaction is likely to occur, and proceeding accordingly. To the extent necessary to implement this Section 4(d), each stock option agreement reflecting the Options, and each stock option plan relating to each such stock option agreement, if any, shall be deemed amended. 5. Certain Additional Payments by the Company. (a) Anything in this Agreement to the contrary notwithstanding, in the event it shall be determined that any payment, award, benefit or distribution (or any acceleration of any payment, award, benefit or distribution) by the Company (or any of its affiliated entities) or any entity which effectuates a Change in Control (or any of its affiliated entities) to or for the benefit of Executive (whether pursuant to the terms of this Agreement or otherwise, but determined without regard to any additional payments required under this Section 5) (the "Payments") would be subject to the excise tax imposed by Section 4999 of the Internal Revenue Code of 1986, as amended (the "Code"), or any interest or penalties are incurred by Executive with respect to such excise tax (such excise tax, together with any such interest and penalties, are hereinafter collectively referred to as the "Excise Tax"), then the Company shall pay to Executive an additional payment (a "Gross-Up Payment") in an amount such that after payment by Executive of all taxes (including any Excise Tax) imposed upon the Gross-Up Payment, Executive retains an amount of the Gross-Up Payment equal to the sum of (x) the Excise Tax imposed upon the Payments and (y) the product of any deductions disallowed because of the inclusion of the Gross-Up Payment in Executive's adjusted gross income and the highest applicable marginal rate of federal income taxation for the calendar year in which the Gross-Up Payment is to be made. For purposes of determining the amount of the Gross-Up Payment, the Executive shall be deemed to (I) pay federal income taxes at the highest marginal rates of federal income taxation for the calendar year in which the Gross-Up Payment is to be made, (ii) pay applicable state and local income taxes at the highest marginal rate of taxation for the calendar year in which the Gross-Up Payment is to be made, net of the maximum reduction in federal income taxes which could be obtained from deduction of such state and local taxes and (iii) have otherwise allowable deductions for federal income tax purposes at least equal to those which could be disallowed because of the inclusion of the Gross-Up Payment in the Executive's adjusted gross income. (b) Subject to the provisions of Section 5(a), all determinations required to be made under this Section 5, including whether and when a Gross-Up Payment is required, the amount of such Gross-Up Payment and the assumptions to be utilized in arriving at such determinations, shall be made by the public accounting firm that is retained by the Company as of the date immediately prior to the Change in Control (the "Accounting Firm") which shall provide detailed supporting calculations both to the Company and Executive within fifteen (15) business days of the receipt of notice from the Company or the Executive that there has been a Payment, or such earlier time as is requested by the Company (collectively, the "Determination"). In the event that the Accounting Firm is serving as accountant or auditor for the individual, entity or group effecting the Change in Control, Executive may appoint 8
9 another nationally recognized public accounting firm to make the determinations required hereunder (which accounting firm shall then be referred to as the Accounting Firm hereunder). All fees and expenses of the Accounting Firm shall be borne solely by the Company and the Company shall enter into any agreement requested by the Accounting Firm in connection with the performance of the services hereunder. The Gross-Up Payment under this Section 5 with respect to any Payments shall be made no later than thirty (30) days following such Payment. If the Accounting Firm determines that no Excise Tax is payable by Executive, it shall furnish Executive with a written opinion to such effect, and to the effect that failure to report the Excise Tax, if any, on Executive's applicable federal income tax return will not result in the imposition of a negligence or similar penalty. The Determination by the Accounting Firm shall be binding upon the Company and Executive. As a result of the uncertainty in the application of Section 4999 of the Code at the time of the Determination, it is possible that Gross-Up Payments which will not have been made by the Company should have been made ("Underpayment") or Gross-Up Payments are made by the Company which should not have been made ("Overpayment"), consistent with the calculations required to be made hereunder. In the event that the Executive thereafter is required to make payment of any Excise Tax or additional Excise Tax, the Accounting Firm shall determine the amount of the Underpayment that has occurred and any such Underpayment (together with interest at the rate provided in Section 1274(b)(2)(B) of the Code) shall be promptly paid by the Company to or for the benefit of Executive. In the event the amount of the Gross-Up Payment exceeds the amount necessary to reimburse the Executive for his Excise Tax, the Accounting Firm shall determine the amount of the Overpayment that has been made and any such Overpayment (together with interest at the rate provided in Section 1274(b)(2) of the Code) shall be promptly paid by Executive (to the extent he has received a refund if the applicable Excise Tax has been paid to the Internal Revenue Service) to or for the benefit of the Company. Executive shall cooperate, to the extent his expenses are reimbursed by the Company, with any reasonable requests by the Company in connection with any contests or disputes with the Internal Revenue Service in connection with the Excise Tax. 6. Withholding Taxes. The Company may withhold from all payments due to Executive (or his beneficiary or estate) hereunder all taxes which, by applicable federal, state, local or other law, the Company is required to withhold therefrom. 7. Reimbursement of Expenses. If any contest or dispute shall arise under this Agreement involving termination of Executive's employment with the Company or involving the failure or refusal of the Company to perform fully in accordance with the terms hereof, the Company shall reimburse Executive, on a current basis, for all reasonable legal fees and expenses, if any, incurred by Executive in connection with such contest or dispute (regardless of the result thereof), together with interest in an amount equal to the Chase Manhattan Bank prime rate from time to time in effect, but in no event higher than the maximum legal rate permissible under applicable law, such interest to accrue from the date the Company receives Executive's statement for such fees and expenses through the date of payment thereof, regardless of whether or not Executive's claim is upheld by a court of competent jurisdiction; provided, however, Executive shall be required to repay any such amounts to the Company to the extent that a court issues a final order from which no appeal can be taken, or with respect 9
10 to which the time period to appeal has expired, setting forth the determination that the position taken by Executive was frivolous or advanced by Executive in bad faith. 8. Scope of Agreement. Nothing in this Agreement shall be deemed to entitle Executive to continued employment with the Company or its Subsidiaries, and if Executive's employment with the Company shall terminate prior to a Change in Control, Executive shall have no further rights under this Agreement (except as otherwise provided hereunder); provided, however, that any termination of Executive's employment during the Termination Period shall be subject to all of the provisions of this Agreement. 9. Successors; Binding Agreement. (a) This Agreement shall not be terminated by any Business Combination. In the event of any Business Combination, the provisions of this Agreement shall be binding upon the Surviving Corporation, and such Surviving Corporation shall be treated as the Company hereunder. (b) The Company agrees that in connection with any Business Combination, it will cause any successor entity to the Company unconditionally to assume (and for any Parent Corporation in such Business Combination to guarantee), by written instrument delivered to Executive (or his beneficiary or estate), all of the obligations of the Company hereunder. Failure of the Company to obtain such assumption and guarantee prior to the effectiveness of any such Business Combination that constitutes a Change in Control, shall be a breach of this Agreement and shall constitute Good Reason hereunder and shall entitle Executive to compensation and other benefits from the Company in the same amount and on the same terms as Executive would be entitled hereunder if Executive's employment were terminated following a Change in Control by reason of a Qualifying Termination. For purposes of implementing the foregoing, the date on which any such Business Combination becomes effective shall be deemed the date Good Reason occurs, and shall be the Date of Termination if requested by Executive. (c) This Agreement shall inure to the benefit of and be enforceable by Executive's personal or legal representatives, executors, administrators, successors, heirs, distributees, devisees and legatees. If Executive shall die while any amounts would be payable to Executive hereunder had Executive continued to live, all such amounts, unless otherwise provided herein, shall be paid in accordance with the terms of this Agreement to such person or persons appointed in writing by Executive to receive such amounts or, if no person is so appointed, to Executive's estate. 10. Notice. (a) For purposes of this Agreement, all notices and other communications required or permitted hereunder shall be in writing and shall be deemed to have been duly given when delivered or five (5) days after deposit in the United States mail, certified and return receipt requested, postage prepaid, addressed as follows: 10
11 If to the Executive to the most recent address of such Executive on the books and records of the Company; and If to the Company: PFSweb, Inc. 500 North Central Expressway Plano, Texas 75074 Attention: Secretary or to such other address as either party may have furnished to the other in writing in accordance herewith, except that notices of change of address shall be effective only upon receipt. (b) A written notice of Executive's Date of Termination by the Company or Executive, as the case may be, to the other, shall (i) indicate the specific termination provision in this Agreement relied upon, (ii) to the extent applicable, set forth in reasonable detail the facts and circumstances claimed to provide a basis for termination of Executive's employment under the provision so indicated and (iii) specify the termination date (which date shall be not less than fifteen (15) (thirty (30), if termination is by the Company for Disability) nor more than sixty (60) days after the giving of such notice). The failure by Executive or the Company to set forth in such notice any fact or circumstance which contributes to a showing of Good Reason or Cause shall not waive any right of Executive or the Company hereunder or preclude Executive or the Company from asserting such fact or circumstance in enforcing Executive's or the Company's rights hereunder. 11. Full Settlement; Resolution of Disputes. The Company's obligation to make any payments provided for in this Agreement and otherwise to perform its obligations hereunder shall be in lieu and in full settlement of all other severance payments to Executive under any other severance or employment agreement between Executive and the Company, and any severance plan of the Company. The Company's obligations hereunder shall not be affected by any set-off, counterclaim, recoupment, defense or other claim, right or action which the Company may have against Executive or others. In no event shall Executive be obligated to seek other employment or take other action by way of mitigation of the amounts payable to Executive under any of the provisions of this Agreement and, except as provided in Section 4(b), such amounts shall not be reduced whether or not Executive obtains other employment. 12. Employment with Subsidiaries. Employment with the Company for purposes of this Agreement shall include employment with any Subsidiary. 13. Survival. The respective obligations and benefits afforded to the Company and Executive as provided in Sections 4 (to the extent that payments or benefits are owed as a result of a termination of employment that occurs during the term of this Agreement), 5 (to the extent that Payments are made to Executive as a result of a Change in Control that occurs 11
12 during the term of this Agreement), 6, 7, 9(c) and 11 shall survive the termination of this Agreement. 14. GOVERNING LAW; VALIDITY. THE INTERPRETATION, CONSTRUCTION AND PERFORMANCE OF THIS AGREEMENT SHALL BE GOVERNED BY AND CONSTRUED AND ENFORCED IN ACCORDANCE WITH THE INTERNAL LAWS OF THE STATE OF DELAWARE WITHOUT REGARD TO THE PRINCIPLES OF CONFLICTS OF LAWS THEREOF, OF SUCH PRINCIPLES OF ANY OTHER JURISDICTION WHICH COULD CAUSE THE APPLICATION OF THE LAWS OF ANY JURISDICTION OTHER THAN THE STATE OF DELAWARE. THE INVALIDITY OR UNENFORCEABILITY OF ANY PROVISION OF THIS AGREEMENT SHALL NOT AFFECT THE VALIDITY OR ENFORCEABILITY OF ANY OTHER PROVISION OF THIS AGREEMENT, WHICH OTHER PROVISIONS SHALL REMAIN IN FULL FORCE AND EFFECT. 15. Counterparts. This Agreement may be executed in counterparts, each of which shall be deemed to be an original and all of which together shall constitute one and the same instrument. 16. Miscellaneous. No provision of this Agreement may be modified or waived unless such modification or waiver is agreed to in writing and signed by Executive and by a duly authorized officer of the Company. No waiver by either party hereto at any time of any breach by the other party hereto of, or compliance with, any condition or provision of this Agreement to be performed by such other party shall be deemed a waiver of similar or dissimilar provisions or conditions at the same or at any prior or subsequent time. Failure by Executive or the Company to insist upon strict compliance with any provision of this Agreement or to assert any right Executive or the Company may have hereunder, including, without limitation, the right of Executive to terminate employment for Good Reason, shall not be deemed to be a waiver of such provision or right or any other provision or right of this Agreement. Except as otherwise specifically provided herein, the rights of, and benefits payable to, Executive, his estate or his beneficiaries pursuant to this Agreement are in addition to any rights of, or benefits payable to, Executive, his estate or his beneficiaries under any other employee benefit plan or compensation program of the Company. IN WITNESS WHEREOF, the Company has caused this Agreement to be executed by a duly authorized officer of the Company and Executive has executed this Agreement as of the day and year first above written. PFSweb, Inc. By: -------------------------------- Title: Chairman ----------------------------------- [EXECUTIVE] 12
5 1,000 3-MOS MAR-31-2001 JUN-30-2000 22,113 0 8,468 501 0 36,412 25,640 4,083 58,470 8,807 2,623 0 0 18 47,303 58,470 13,370 13,370 8,645 8,645 5,055 175 (316) (189) 49 (238) 0 0 0 (238) (0.01) (0.01)