-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, FO3cwm0HBCsUTLQgLnWvvNGOXNSEBClkkQF1xzao8vt7DXUg8BbPb+WKuGrPn9mG UmYa+G7OoW08nq/tIp/OTQ== 0001050502-04-000037.txt : 20040202 0001050502-04-000037.hdr.sgml : 20040202 20040202153903 ACCESSION NUMBER: 0001050502-04-000037 CONFORMED SUBMISSION TYPE: PRE 14A PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 20040409 FILED AS OF DATE: 20040202 FILER: COMPANY DATA: COMPANY CONFORMED NAME: PROTOSOURCE CORP CENTRAL INDEX KEY: 0000932772 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-COMPUTER INTEGRATED SYSTEMS DESIGN [7373] IRS NUMBER: 770190772 STATE OF INCORPORATION: CA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: PRE 14A SEC ACT: 1934 Act SEC FILE NUMBER: 000-25594 FILM NUMBER: 04559167 BUSINESS ADDRESS: STREET 1: 2300 TULARE STREET STREET 2: SUITE 210 CITY: FRESNO STATE: CA ZIP: 93721 BUSINESS PHONE: 3103149801 MAIL ADDRESS: STREET 1: 2800 28TH STREET SUITE 170 CITY: SANTA MONICA STATE: CA ZIP: 90405 PRE 14A 1 pre14a-protosource.txt PRE 14A 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. ) 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 (As Permitted by Rule 14a-6(e)(2)) [_] Definitive Proxy Statement [_] Definitive Additional Materials [_] Soliciting Material Pursuant to Rule 14a-11(c) or Rule 14a-12 PROTOSOURCE CORPORATION - -------------------------------------------------------------------------------- (Name of Registrant as Specified In Its Charter) - -------------------------------------------------------------------------------- (Name of Person(s) Filing Proxy Statement, if other than the Registrant) Payment of Filing Fee (Check the appropriate box): [X] 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 state how it was determined): - -------------------------------------------------------------------------------- (4) Proposed maximum aggregate value of transaction: - -------------------------------------------------------------------------------- (5) Total fee paid: - -------------------------------------------------------------------------------- [_] Fee paid previously with preliminary materials. [_] 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: - -------------------------------------------------------------------------------- (2) Form, Schedule or Registration Statement No.: - -------------------------------------------------------------------------------- (3) Filing Party: - -------------------------------------------------------------------------------- (4) Date Filed: - -------------------------------------------------------------------------------- PROTOSOURCE CORPORATION One Bethlehem Plaza Bethlehem, Pennsylvania 18018 NOTICE OF ANNUAL MEETING OF STOCKHOLDERS TO BE HELD APRIL , 2004 Bethlehem, Pennsylvania February , 2004 The Annual Meeting of Stockholders (the "Annual Meeting") of ProtoSource Corporation, a California corporation (the "Company"), will be held at the offices of the Company, One Bethlehem Plaza, Bethlehem, Pennsylvania on March , 2004 at 10:00 AM (local time) for the following purposes: 1. To elect five directors to the Company's Board of Directors, each to hold office until his successor is elected and qualified or until his earlier resignation or removal (Proposal No. 1); 2. To approve an amendment to the Company's Certificate of Incorporation to increase the authorized number of shares of common stock from 10,000,000 to 100,000,000 (Proposal No. 2); 3. To transact such other business as may properly come before the Annual Meeting and any adjournment or postponement thereof. The foregoing items of business, including the nominees for directors, are more fully described in the Proxy Statement which is attached and made a part of this Notice. The Board of Directors has fixed the close of business on February , 2004 as the record date for determining the stockholders entitled to notice of and to vote at the Annual Meeting and any adjournment or postponement thereof. All stockholders are cordially invited to attend the Annual Meeting in person. However, whether or not you expect to attend the Annual Meeting in person, you are urged to mark, date, sign and return the enclosed proxy card as promptly as possible in the postage-prepaid envelope provided to ensure your representation and the presence of a quorum at the Annual Meeting. If you send in your proxy card and then decide to attend the Annual Meeting to vote your shares in person, you may still do so. Your proxy is revocable in accordance with the procedures set forth in the Proxy Statement. By Order of the Board of Directors, /s/ PETER WARDLE ---------------- Peter Wardle President - -------------------------------------------------------------------------------- IMPORTANT WHETHER OR NOT YOU PLAN TO ATTEND THE MEETING, PLEASE SIGN AND RETURN THE ENCLOSED PROXY CARD AS PROMPTLY AS POSSIBLE IN THE ENCLOSED POSTAGE-PREPAID ENVELOPE. IF A QUORUM IS NOT REACHED, THE COMPANY WILL HAVE THE ADDED EXPENSE OF RE-ISSUING THESE PROXY MATERIALS. IF YOU ATTEND THE MEETING AND SO DESIRE, YOU MAY WITHDRAW YOUR PROXY AND VOTE IN PERSON. THANK YOU FOR ACTING PROMPTLY - -------------------------------------------------------------------------------- PROTOSOURCE CORPORATION One Bethlehem Plaza Bethlehem, Pennsylvania 18018 PROXY STATEMENT GENERAL This Proxy Statement is furnished in connection with the solicitation by the Board of Directors (the "Board") of ProtoSource Corporation, a California corporation (the "Company"), of proxies in the enclosed form for use in voting at the Annual Meeting of Stockholders (the "Annual Meeting") to be held at the offices of the Company, One Bethlehem Plaza, Bethlehem, Pennsylvania 18018 on March , 2004 at 10:00 AM (local time), and any adjournment or postponement thereof. Only holders of record of the Company's common stock, no par value per share (the "Common Stock"), on February , 2004 (the "Record Date") will be entitled to vote at the Meeting. At the close of business on the Record Date, the Company had outstanding [ ] shares of Common Stock. Any person giving a proxy in the form accompanying this Proxy Statement has the power to revoke it prior to its exercise. Any proxy given is revocable prior to the Meeting by an instrument revoking it or by a duly executed proxy bearing a later date delivered to the Secretary of the Company. Such proxy is also revoked if the stockholder is present at the Meeting and elects to vote in person. The Company will bear the entire cost of preparing, assembling, printing and mailing the proxy materials furnished by the Board of Directors to stockholders. Copies of the proxy materials will be furnished to brokerage houses, fiduciaries and custodians to be forwarded to the beneficial owners of the Common Stock. In addition to the solicitation of proxies by use of the mail, some of the officers, directors and regular employees of the Company may (without additional compensation) solicit proxies by telephone or personal interview, the costs of which the Company will bear. This Proxy Statement and the accompanying form of proxy is being sent or given to stockholders on or about February , 2004. Stockholders of the Company's Common Stock are entitled to one vote for each share held. Such shares may not be voted cumulatively. Stockholders of the Company's Series B Preferred Stock are entitled to 100 votes for each such share held. Each validly returned proxy (including proxies for which no specific instruction is given) which is not revoked will be voted "FOR" each of the proposals as described in this Proxy Statement and, at the proxy holders' discretion, on such other matters, if any, which may come before the Meeting (including any proposal to adjourn the Meeting). Determination of whether a matter specified in the Notice of Annual Meeting of Stockholders has been approved will be determined as follows. Those persons will be elected directors who receive a plurality of the votes cast at the Meeting in person or by proxy and entitled to vote on the election. Accordingly, abstentions or directions to withhold authority will have no effect on the outcome of the vote. For all matters affecting the Company's certificate of incorporation, the affirmative vote of a majority of all shares of Common Stock issued and outstanding is required for approval. For each other matter specified in the Notice of Annual Meeting of Stockholders, the affirmative vote of a majority of the shares of Common Stock present at the Meeting in person or by proxy and entitled to vote on such matter is required for approval. In any event, prior to any vote, a quorum of holders of at least 50% of the shares of Common Stock outstanding on the Record Date is required to conduct the Meeting. Abstentions will be considered shares present in person or by proxy and entitled to vote and, therefore, will have the effect of a vote against the matter. Broker non-votes will be considered shares not present for this purpose and will have no effect on the outcome of the vote. PROPOSAL NO. 1 ELECTION OF DIRECTORS Nominees At the Annual Meeting, the stockholders will elect five directors to serve until the next Annual Meeting of Stockholders or until their respective successors are elected and qualified. In the event any nominee is unable or unwilling to serve as a director at the time of the Annual Meeting, the proxies may be voted for the balance of those nominees named and for any substitute nominee designated by the present Board or the proxy holders to fill such vacancy, or for the balance of the nominees named without nomination of a substitute, or the size of the Board may be reduced in accordance with the Bylaws of the Company. The Board has no reason to believe that any of the persons named below will be unable or unwilling to serve as a nominee or as a director if elected. Assuming a quorum is present, the five nominees receiving the highest number of affirmative votes of shares entitled to be voted for them will be elected as directors of the Company for the ensuing year. Unless marked otherwise, proxies received will be voted "FOR" the election of each of the four nominees named below. In the event that additional persons are nominated for election as directors, the proxy holders intend to vote all proxies received by them in such a manner as will ensure the election of as many of the nominees listed below as possible, and, in such event, the specific nominees to be voted for will be determined by the proxy holders. NAME AGE POSITION - ---- --- -------- Peter Wardle 49 Chief Executive Officer, Chief Financial Officer, President and Director Thomas Butera 37 Chief Operating Officer and Director Joseph DiMarino 61 Director Mark Blanchard 51 Director Stewart Kalter 33 Director The following information with respect to the principal occupation or employment of each nominee for director, the principal business of the corporation or other organization in which such occupation or employment is carried on, and such nominee's business experience during the past five years, has been furnished to the Company by the respective director nominees: Peter Wardle became a director in December 2001 and was appointed as Chief Executive Officer, Chief Financial Officer and President in May 2002. Mr. Wardle was Chief Executive Officer of P2i, Inc. from May 2000 through December 2003. Mr. Wardle served as Chief Executive Officer of 2020 Marketing and Design from 1993 when he co-founded the company until December 2003. Prior to that, Mr. Wardle served as a database marketing consultant from 1990 to 1993. From 1987 to 1990, he was Chief Executive Officer of Autoroos, Inc. Mr. Wardle received a degree in accounting from Stockport College in the UK in 1978. Thomas C. Butera was appointed as Chief Operating Officer and a director of the Company in January 2004. From 1993 until December 2003, Mr. Butera was creative director of 2020 Marketing and Design. From December 2001 through December 2003, Mr. Butera served as an executive of P2i, Inc. Since May 2003, Mr. Butera has served as Chief Operating Officer of P2i Newspaper, Inc. Mr. Butera is a graduate of Parsons School of Design in New York City. Joseph DiMarino was appointed as a director of the Company in August 2003. Mr. DiMarino began his newspaper career in 1970 with the Philadelphia Inquirer, which a Knight Ridder newspaper. Mr. DiMarino held various executive positions with Knight Ridder, Inc. from 1970 until June 2002. From August 2002 until May 2003, Mr. DiMarino was Chief Operating Officer of P2i Newspaper, Inc. Since May 2003, Mr. DiMarino has provided consulting services to the newspaper industry. Mr. DiMarino is a graduate of Villanova University. 2 Mark Blanchard has been a member of the Company's Board since May 2002. Mr. Blanchard was a co-founder and has been President of Resort TV Services since July 2003. Prior to that he was Vice President and General Manager of ProtoSource's former Suncoast division, a business he helped found in 1998. From 1995 to 1998 he was founder and President of Internet Stock Market Inc., which facilitated the promotion of public companies. From 1992 to 1995, Mr. Blanchard was founder and President of Pension Specialists Management Group, a company that advised pension funds on investments. From 1979 to 1992, Mr. Blanchard held several positions with Raymond James and Associates, and Smith Barney, full service brokerage firms. His final position with Smith Barney was Senior Vice President of Municipals. He graduated from Rutgers University with a degree in business in 1976. Stewart Kalter became a director in October 2001. Since May 2003, Mr. Kalter has served as President of Vision Securities. From May 2001 through May 2003, Mr. Kalter served as Director of Corporate Finance and Research of Andrew, Alexander, Wise & Company, Inc. Prior to that, he was Director of Research at Global Capital Securities from February 2000 to March 2001. Mr. Kalter was a Research Analyst with Spencer Clarke from November 1997 to January 2000. From 1995 until 1997, he served as a Research Associate with Bishop Allen. Mr. Kalter has a BS in Accounting from Widener College and an MBA in Finance and Banking from Hofstra University. No director or executive officer of the Company has any family relationship with any other director or executive officer of the Company. Directors serve until the next annual meeting of stockholders or until their successors are elected and qualified. Officers serve at the discretion of the Board of Directors. MEETINGS AND COMMITTEES OF THE BOARD OF DIRECTORS During the fiscal year ended December 31, 2002, the Board of Directors of the Company took action at a meeting or by unanimous written consent on five occasions. No director nominated for election at the Annual Meeting attended fewer than 75% of the total number of meetings of the Board of Directors during such member's tenure during the last fiscal year. Margolis has acted as the Company's independent public accountants since January 27, 2003, and has been appointed by the Board to continue as the Company's independent auditors for the fiscal year ending December 31, 2003. A representative of Margolis is not expected to be present at the Annual Meeting. The Board did not have any committees during the 2002 fiscal year. Compliance with Section 16(a) of the Securities Exchange Act of 1934 Section 16(a) of the Securities Exchange Act of 1934 requires the Company's directors, officers and stockholders of more than 10% of the Company's Common Stock to file with the Securities and Exchange Commission initial reports of ownership and reports of changes in ownership of Common Stock and any other equity securities of the Company. To the Company's knowledge, based solely upon a review of forms, reports and certificates furnished to the Company by such persons, not all such reports were filed on a timely basis. See "Certain Transactions" for additional information on certain members of management. EXECUTIVE COMPENSATION Compensation to Outside Directors All of the Company's non-employee directors receive reimbursement of their reasonable out-of-pocket expenses incurred in connection with such meetings. Additionally, all non-employee directors will receive and retain 15,000 stock options per fiscal. 3 Compensation of Executive Officers The information required by this Heading is incorporated by reference to the information presented in Item 10. Executive Compensation of the Registrant, in the Company's December 31, 2002 Form-10KSB as filed with the Securities and Exchange Commission on April 15, 2003. SECURITY OWNERSHIP OF MANAGEMENT AND OTHERS The information required by this Heading is incorporated by reference to the information presented in Item 11. Security Ownership of Certain Beneficial Owners and Management of the Registrant, in the Company's December 31, 2002 Form-10KSB as filed with the Securities and Exchange Commission on April 15, 2003. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The information required by this Heading is incorporated by reference to the information presented in Item 12. Certain Relationships and Related Transactions of the Registrant, in the Company's December 31, 2002 Form-10KSB as filed with the Securities and Exchange Commission on April 15, 2003. The proxy holders intend to vote the shares represented by proxies for all of the board's nominees, except to the extent authority to vote for the nominees is withheld. RECOMMENDATION OF THE BOARD: ---------------------------- THE BOARD RECOMMENDS A VOTE FOR THE ELECTION OF ALL NOMINEES NAMED ABOVE. PROPOSAL NO. 2 APPROVAL OF AMENDMENT TO THE COMPANY'S CERTIFICATE OF INCORPORATION TO INCREASE THE NUMBER OF AUTHORIZED SHARES OF COMMON STOCK TO 100,000,000 The present capital structure of the Company authorizes 10,000,000 shares of Common Stock. It also authorizes 5,000,000 shares of "blank check" Preferred Stock, which may be issued from time to time in one or more series with such rights, preferences and privileges as may be determined by the Board of Directors. Currently the only designated shares of Preferred Stock are 210,266 shares which have been designated as Series B Preferred Stock. The Board of Directors believes that this capital structure is inadequate for the future needs of the Company. Therefore, the Board of Directors has approved the amendment of the Company's Certificate of Incorporation (the "Certificate") to increase the authorized number of shares of Common Stock from 10,000,000 to 100,000,000 shares. No change is proposed to be made with respect to the number of authorized shares of Preferred Stock. The Board of Directors believes that a capital structure consisting of 100,000,000 authorized shares of Common Stock and 5,000,000 authorized shares of Preferred Stock more appropriately reflects the present and future needs of the Company and recommends such amendment to the Company's stockholders for adoption. On the Record Date, there were [ ] shares of Common Stock and [ ] shares of Preferred Stock outstanding. The proposed amendment of the Certificate was approved by the Board on December 22, 2003, subject to stockholder approval at the Annual Meeting. 4 Purpose of Authorizing Additional Common Stock The Company has what the Board of Directors considers to be an insufficient number of authorized but unissued shares of Common Stock available for future issue. Authorizing an additional 90,000,000 shares of Common Stock would give the Board of Directors the authority to issue such Common Stock from time to time as the Board of Directors deems necessary, without further action of the stockholders, unless such stockholder action is specifically required by applicable laws or any stock exchange on which the Company's securities may then be listed. In particular, the Company is obligated to issue up to 21,026,60 shares of Common Stock in exchange for the 210,266 shares of Series B Preferred Stock issued in connection with the Company's recent acquisition of P2i Newspaper, Inc. In addition, the Board of Directors believes it is necessary to have the ability to issue such additional shares of Common Stock for general corporate purposes, including: o stock splits, dividends or distributions; o equity financings - although the Company has no present plans or arrangements, the Company is presently seeking to raise additional capital by selling and issuing shares of its Common Stock as dictated by prevailing market conditions or the Company's capital needs, and the Board of Directors believes it prudent to have shares available for such issuances on an as-needed basis, without the delay inherent in seeking stockholder approval for a specific transaction; and o acquisition transactions - the Company may make additional future acquisitions and may use its capital stock as currency in such acquisitions if appropriate opportunities arise. The proposed increase in the authorized number of shares of Common Stock could have a number of effects on the Company's stockholders depending upon the exact nature and circumstances of any actual issuances of authorized but unissued shares. The increase could have an anti-takeover effect, in that additional shares could be issued (within the limits imposed by applicable law) in one or more transactions that could make a change in control or takeover of the Company more difficult. For example, additional shares could be issued by the Company so as to dilute the stock ownership or voting rights of persons seeking to obtain control of the Company. Similarly, the issuance of additional shares to certain persons allied with the Company's management could have the effect of making it more difficult to remove the Company's current management by diluting the stock ownership or voting rights of persons seeking to cause such removal. The Board of Directors is not aware of any attempt, or contemplated attempt, to acquire control of the Company, and this proposal is not being presented with the intent that it be utilized as a type of anti- takeover device. There are currently no plans, arrangements, commitments or understandings for the issuance of the additional shares of Common Stock which are proposed to be authorized, except for the P2i transaction described below. Stockholders do not have any preemptive or similar rights to subscribe for or purchase any additional shares of Common Stock that may be issued in the future, and therefore, future issuances of Common Stock may, depending on the circumstances, have a dilutive effect on the earnings per share, voting power and other interests of the existing stockholders. Acquisition of P2i Newspaper, Inc. On February 13, 2003, the Company entered into an agreement and plan of merger to acquire all of the outstanding capital stock of P2i Newspaper, Inc. ("P2i Newspaper") and a wholly owned subsidiary of P2i, Inc. ("P2i"), in exchange for the issuance of up to 19,383,531 shares of Protosource common stock (the "Agreement"). The 19,383,531 shares were to be reduced by the number of shares equal to the total fees incurred to audit the financial statements of P2i or P2i Newspaper, divided by $0.50 (the "Adjusted Shares"). The Adjusted Shares were to be subject to a three-year lock-up, which could be released upon the stock price and volume reaching established thresholds. On January 1, 2004, the Company, P2i Newspaper and P2i amended the terms of the Agreement (the "Amendment"). Pursuant to the terms of the Amendment, in exchange for all of the issued and outstanding shares of P2i Newspaper, the 5 Company issued 198,836 shares of series B preferred stock (the "Preferred Stock"), which shares shall be reduced by the total fees incurred to audit the financial statements of P2i or P2i Newspaper, divided by $50.00. In addition, the Company issued 16,430 shares of Preferred Stock in payment of investment banking fees related to the transaction. Each share of Preferred Stock is exchangeable for 100 shares of the Company's common stock at any time after the Company increases its authorized number of shares of common stock to 100,000,000. The acquisition of P2i Newspaper became effective on January 1, 2004, at which time P2i Newspaper became a wholly owned subsidiary of the Company. Business of P2i, Newspaper Inc. Introduction P2i converts previously created print content, (text and graphics), into interactive web content for multiple market sectors. These include newspaper and magazine publishers, and retail companies. These services extend P2i clients' reach and presence, help drive increased revenues and deliver quantifiable profits; and do so while preserving the brand identity manifest in the original print content. Recent Developments In May 2001, P2i successfully completed the transition of its data conversion facility from Yorkshire, England to Kuala Lumpur, Malaysia. The result is a business unit that is better equipped to handle current and future workloads, ideally located geographically to deliver to a global client base, and with labor cost savings of 75%. In December 2001, P2i launched its new technology platform. This incorporates many more features than the prior platform and delivers a far broader product offering from both a customer and end-user perspective. In January 2002, P2i moved its corporate headquarters from 528 North New Street, Bethlehem PA to One Bethlehem Plaza, Bethlehem, PA. This is larger, better-equipped office space that can facilitate future expansion. In September 2002 P2i, Newspaper, Inc was formed: a wholly owned subsidiary that became the business unit focusing exclusively on the publishing sector In 2003 P2i signed production agreements with Nando Media and PowerOne Media. Nando is the online arm of McClatchy Newspaper Group. PowerOne has over 1,000 newspaper clients utilizing its web solutions. Overview P2i's core competency is the breaking down and databasing of print content, text and graphics, and its distribution back to the client and client's partners in multiple formats with a host of additional features. Currently P2i's customer base comprises newspapers, magazines and retailers in the US and UK and clients include Newspapers from the Tribune, McClatchy and Gannett media groups in the US and Northcliffe in the UK. Today virtually all printed material is first created electronically, usually using desktop publishing software on Mac and PC systems. Those electronic files are sent to P2i and processed into web content for clients. The actual processing is undertaken at P2i's production facility located just south of Kuala Lumpur, Malaysia. US based technical teams and account managers work directly with clients in support of the sales effort. The `sale' is a long-term relationship by nature. For newspapers, P2i has historically converted print advertising and editorial into web content, hosted by P2i, but seamlessly integrated into the newspaper website. The past twelve months have seen the demand for data-feeds of the processed content back to newspapers and their business partners expand. Once the relationship is established the newspaper feeds P2i data on a daily basis: data is converted overnight and delivered as online content by 6 start-of-business the following day. The newspaper, still the largest local portal, sells the online version of the print content to its advertisers and pays P2i to convert it. The advertiser gets proven, quantifiable reach online, above and beyond the print circulation. Through 2003 the Newspaper industry has been P2i's almost exclusive focus. Starting in 2004 the company intends exploring other business verticals in addition to newspapers. Although there are approximately 6000 daily and weekly newspapers in the US the conversion of content has become a commodity, primarily the result of eager competition for a finite customer base. The Nanado Media and PowerOne Media contracts with P2i are a part of this long-term strategy. Industry and Competition E-commerce overview For most businesses, the Internet has created a new communication and sales channel that enables companies to interact with large numbers of geographically dispersed consumers and businesses. Traditional businesses are implementing sophisticated web sites to drive customers to brick-and-mortar stores, effect electronic commerce initiatives that offer competitive advantages and mine customer data. These businesses are deploying an expanding variety of Internet-enabled applications, ranging from web site marketing and recruiting programs to on-line customer interaction systems and integrated purchase order and just-in-time inventory solutions for key customers and suppliers. These capabilities require increasingly complex web sites and support operations. In addition, advances in on-line security and payment mechanisms are alleviating concerns associated with conducting transactions in an open-platform environment, thus prompting more consumers and businesses to use the Internet in conjunction with purchases and more businesses to offer a greater breadth of electronic commerce services. (Source: US Census Bureau). More importantly, companies today recognize that the Internet is not going to replace other media, but it is going to change traditional shopping and purchasing habits. Today, companies are implementing integrated marketing strategies that tie print, TV, Radio and Internet together to generate revenues either via, traditional shopping or e-commerce. Newspapers In 2002, just over $50billion was spent on newspaper advertising across the 1,500 daily and 4,500 weekly newspapers published in the U.S. (Source: Veronis Suhler Stevenson). This is projected to grow to almost $69billion through 2007 (Source: Veronis Suhler Stevenson, PQ Media LLC, Newspaper Association of America, Kagan World Media, Editor & publisher). Newspapers have been putting virtually all their classified liner advertising online for several years,. The online publishing of display advertising, run-of-print advertising ("ROP"), special sections and free-standing-inserts ("FSIs") is now beinmg posted online and has evolved into an ASP business model whereby newspapers want a technology driven solution with a high level of service and support from their vendor. Much of this content is printed in color, has a high profile within the print publication and is very costly to the advertiser. Web site visitors demand a high level of interactivity and enhanced features from online versions of this print content. Developing and enabling these solutions requires a substantial financial investment in both R&D and servers, connectivity and processes that is best justified when amortized across many newspapers. Indications are that these costs are deemed prohibitive to individual newspapers, and even newspaper groups, but that they are keen to use an outside resource to deliver these solutions. P2i has proprietary processes and a patent on format and functionality that position us well to acquire a significant share of this market. Over the past two years these solutions have become increasingly more sophisticated, evolving into online shopping centers or channels where newspaper site visitors can search and browse across many ads from multiple sources: display classified, ROP, FSIs and special sections. 7 Competition - Newspapers Infosis, a company P2i acquired in September 2000, was the first company to establish a presence in the business space. As the revenue models have proved to be viable, competitors have emerged. Some, such as Harvest and Print2Web have adopted very similar strategies to those of P2i: sell directly to the newspapers and deliver ever increasingly sophisticated solutions. Others, such as WSN and Trivedia are approaching the retailers directly to convert their FSI content and then act as the distributor of this content to newspapers. Companies such as DS Retail Technologies and Cross Media Services are also moving into this space. They have developed ASP solutions that are retailer focused and view the newspaper as the means to distribute this online content. Secondary competition comes from the software companies that have developed ad management systems for newspapers, such as Mactive and MediaSpan. Newspapers use their solutions to manage their ad content and they could include modules that would publish the content online. There are certainly many applications that can publish classified liner ads online automatically from the ad management function, but none currently provide the level of sophistication that P2i solutions feature. There are many obstacles to newspapers adopting pure software solutions to compete with P2i services. Firstly, ads are created in many different ways, even within a single newspaper. Some are submitted electronically from advertising agencies and design firms. Others are created by the newspaper's own creative departments. Some are in color, some in black and white. FSI's are usually created by agencies or print companies specializing in that field, and the newspaper only receives the printed versions, rarely the electronic versions. The "normalization" of incoming data is a key component of the proprietary processes P2i has developed. Once the content has been processed, the functionality requires the various applications that power those features to be running on the host server. Finally there is a human element to the publishing of this content: every individual ad and page needs to be viewed by an operator to ensure that the multiple images and text boxes that are incorporated in a single newspaper page are matched. As difficult as it would be for a newspaper to take the services and solutions that P2i has available in-house using a software solution only, in the years ahead, as the volume of online advertising content increases, more and more newspapers and newspaper groups will look for such a solution. P2i recognizes that it may need to modify its services to meet the newspaper's evolving needs. Finally, as volumes have increased and more competitors seek to move into this space, prices drop. Since January 2001 production volumes have increased five-fold, and pricing has fallen to a fifth of where it was . P2i has been able to remain competitive and viable, only by virtue of the reduced costs of operations in Malaysia and the development of its new technology platform. Employees As of December 31, 2003, P2i employed seven US based full-time employees and fifty-three employees at its production facility in Malaysia. The Company believes it maintains good relations with its employees. None of the Company's employees are represented by a labor union or covered by a collective bargaining agreement. Financial Statement Information Financial statements of P2i and pro forma combined financial information of P2i and the Company are attached hereto as Schedule A. 8 RECOMMENDATION OF THE BOARD: THE BOARD RECOMMENDS A VOTE FOR AN INCREASE TO 100,000,000 AUTHORIZED SHARES OF COMMON STOCK OF THE COMPANY. Audit and Related Fees Audit Fees. The aggregate fees billed by Angell & Deering, for professional services rendered for the audit of the Company's annual financial statements for the year ended December 31, 2002 and for the reviews of the financial statements included in the Company's Quarterly Reports on Form 10-QSB during that fiscal year were $48,565. Financial Information Systems Design and Implementation Fees. The Company did not engage Angell & Deering to provide professional services to the Company regarding financial information systems design and implementation during the fiscal year ended December 31, 2002. All Other Fees. The aggregate fees billed by Angell & Deering for services rendered to the Company, other than the services covered in "Audit Fees" and "Financial Information Systems Design and Implementation Fees" for the fiscal year ended December 31, 2002 were $3,095. STOCKHOLDER PROPOSALS FOR PRESENTATION AT THE ANNUAL MEETING Any stockholder intending to present a proposal at the Annual Meeting in accordance with Rule 14a-8 under the Securities Exchange Act of 1934 for inclusion in the Company's proxy materials for such meeting must, in addition to meeting other applicable requirements under the rules and regulations of the Securities and Exchange Commission and the Company's By-Laws, submit such proposal to Kenneth DiStefano, Secretary, in writing no later than February , 2004. The complete By-Law provisions governing stockholder proposals are available to any stockholder without charge upon request from the Secretary of the Company. AVAILABILITY OF CERTAIN DOCUMENTS Included herewith are copies of the Company's form 10-KSB for the year ended December 31, 2002. This proxy statement also refers to certain documents of the Company that are not presented herein or delivered herewith. Such documents are available to any person, including any beneficial owner, to whom this proxy statement is delivered, upon oral or written request, without charge, directed to ProtoSource Corporation, One Bethlehem Plaza, Bethlehem, Pennsylvania 18018, telephone number (610) 332-2893. In order to ensure timely delivery of the documents, such requests should be made by April , 2004. OTHER MATTERS The Board of Directors knows of no other business that will be presented to the Annual Meeting. If any other business is properly brought before the Annual Meeting, proxies in the enclosed form will be voted in respect thereof as the proxy holders deem advisable. It is important that the proxies be returned promptly and that your shares be represented. Stockholders are urged to mark, date, execute and promptly return the accompanying proxy card in the enclosed envelope. By Order of the Board of Directors, /s/ PETER WARDLE ---------------- Peter Wardle, President Bethlehem, Pennsylvania February , 2004 9 PROXY PROXY PROTOSOURCE CORPORATION PROXY FOR ANNUAL MEETING TO BE HELD ON APRIL , 2004 THIS PROXY IS SOLICITED ON BEHALF OF THE BOARD OF DIRECTORS The undersigned hereby appoints Peter Wardle and Thomas Butera, or either of them, as proxies, each with the power to appoint his substitute, to represent and to vote all the shares of common stock of ProtoSource Corporation (the "Company"), which the undersigned would be entitled to vote, at the Company's Annual Meeting of Stockholders to be held on April , 2004 and at any adjournments thereof, subject to the directions indicated on the reverse side hereof. In their discretion, the Proxies are authorized to vote upon any other matter that may properly come before the meeting or any adjournments thereof. THIS PROXY WILL BE VOTED IN ACCORDANCE WITH THE SPECIFICATIONS MADE, BUT IF NO CHOICES ARE INDICATED, THIS PROXY WILL BE VOTED FOR THE ELECTION OF ALL NOMINEES AND FOR THE PROPOSALS LISTED ON THE REVERSE SIDE. IMPORTANT--This Proxy must be signed and dated on the reverse side. - -------------------------------------------------------------------------------- THIS IS YOUR PROXY YOUR VOTE IS IMPORTANT! Dear Stockholder: We cordially invite you to attend the Annual Meeting of Stockholders of ProtoSource Corporation to be held at the offices of the Company, on April , 2004 at 10:00 a.m. (local time). Please read the proxy statement which describes the proposals and presents other important information, and complete, sign and return your proxy promptly in the enclosed envelope. THE BOARD OF DIRECTORS RECOMMENDS A VOTE FOR PROPOSALS 1-3 1. ELECTION OF DIRECTORS -- For Withhold Nominees: --------- Peter Wardle [_] [_] Thomas Butera [_] [_] Joseph DiMarino [_] [_] Mark Blanchard [_] [_] Stewart Kalter [_] [_] - -------------------------------------------------------------------------------- (Except nominee(s) written above) For Against Abstain 2. Proposal to approve an increase in the [_] [_] [_] number of authorized shares of Common Stock to 100,000,000. If you plan to attend the Annual Meeting please mark this box [_] Dated:________________, 2004 Signature ______________________________________________________________________ Name (printed) _________________________________________________________________ Title __________________________________________________________________________ Important: Please sign exactly as name appears on this proxy. When signing as attorney, executor, trustee, guardian, corporate officer, etc., please indicate full title. - -------------------------------------------------------------------------------- FOLD AND DETACH HERE SCHEDULE A Pro Forma Financial Information The following unaudited pro forma consolidated financial information presents the pro forma consolidated balance sheet of ProtoSource Corporation and Subsidiary at December 31, 2002 and 2001, and September 30, 2003, giving effect to the agreement and Plan of Merger with P2i Newspaper, Inc., a Delaware corporation, as if it had been consummated on those dates. Also presented are the pro forma consolidated statements of operations for the years ended December 31, 2002 and 2001, and nine-month period ended September 30, 2003 of ProtoSource Corporation and Subsidiary, giving effect to the agreement and Plan of Merger with P2i Newspaper, Inc. as if it had been consummated as of the beginning of the respective periods presented. For purposes of the computation of pro forma weighted average number of basic and diluted common shares outstanding, it is assumed that 19,300,000 of ProtoSource Corporation common shares will be exchanged for P2i Newpaper, Inc. Also, no goodwill has been reflected in this pro forma presentation as management believes that any goodwill acquired in this transaction would be fully impaired. The pro forma data is based on the historical combined statements of ProtoSource Corporation and P2i Newspaper, Inc. giving effect to the purchase method of accounting and to the assumptions and adjustments (which the Company believes to be reasonable) described in the accompanying notes to the unaudited pro forma consolidated financial information. The pro forma data is provided for comparative purposes only. It does not purport to be indicative of the results that actually would have occurred if such agreement and Plan of Merger had been consummated on the dates indicated or that may be obtained in the future. The unaudited pro forma combined financial information should be read in conjunction with the notes thereto, the audited financial statements of P2i Newspaper, Inc. for the years ended December 31, 2002 and 2001 and notes thereto, and the Company's consolidated financial statements and related notes thereto, incorporated herein by reference.
PROTOSOURCE CORPORATION AND SUBSIDIARY UNAUDITED PRO FORMA CONSOLIDATED BALANCE SHEET DECEMBER 31, 2001 Historical Pro forma -------------------------------------------- ------------------------------------- Adjustments ProtoSource P2i Newspaper, Increase/ Corporation Inc. Total Notes (Decrease) Consolidated ------------ ------------ ------------ ----- ------------ ------------ ASSETS Current assets: Cash $ 118,265 $ 4,013 $ 122,278 $ 122,278 Marketable securities 447,611 447,611 447,611 Accounts receivable 40,729 40,729 40,729 Notes receivable, P2i Newspaper, Inc. 50,000 50,000 (A) $ (50,000) -- Prepaid expenses and other current assets 41,214 2,281 43,495 43,495 ------------ ------------ ------------ ------------ ------------ Total current assets 697,819 6,294 704,113 (50,000) 654,113 Property and equipment, net 116,949 244,801 361,750 361,750 Deposits 8,564 4,368 12,932 12,932 Goodwill, net 77,857 77,857 77,857 Investment in corporation 226,000 226,000 226,000 ------------ ------------ ------------ ------------ ------------ $ 1,127,189 $ 255,463 $ 1,382,652 $ (50,000) $ 1,332,652 ============ ============ ============ ============ ============ LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIENCY) Current liabilities: Notes payable $ 12,236 $ -- $ 12,236 $ 12,236 Current portion of obligations under capital leases 24,666 23,713 48,379 48,379 Notes payable, ProtoSource Corporation 50,000 50,000 (A) $ (50,000) -- Due to P2i, Inc. -- 416,471 416,471 416,471 Accounts payable and accrued expenses 258,699 41,690 300,389 300,389 Deferred revenue 9,845 9,845 9,845 Due to related company 73,461 73,461 73,461 ------------ ------------ ------------ ------------ ------------ Total current liabilities 305,446 605,335 910,781 (50,000) 860,781 ------------ ------------ ------------ ------------ ------------ Obligations under capital leases, non-current portion 49,414 32,675 82,089 82,089 ------------ ------------ ------------ ------------ Stockholders' equity (deficiency): Preferred stock -- -- -- -- Common stock 24,554,293 -- 24,554,293 24,554,293 Additional paid-in capital 392,745 392,745 392,745 Accumulated other comprehensive (loss) (161,637) (161,637) (161,637) Accumulated deficit (24,013,072) (382,547) (24,395,619) (24,395,619) ------------ ------------ ------------ ------------ 772,329 (382,547) 389,782 389,782 ------------ ------------ ------------ ------------ $ 1,127,189 $ 255,463 $ 1,382,652 $ (50,000) $ 1,332,652 ============ ============ ============ ============ ============ Notes: (A) Represents elimination of intercompany note payable/receivable. PROTOSOURCE CORPORATION AND SUBSIDIARY UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS FOR THE YEAR ENDED DECEMBER 31, 2001 Historical Pro forma -------------------------------------------- ------------------------------------ Adjustments ProtoSource P2i Newspaper, Increase/ Corporation Inc. Total Notes (Decrease) Consolidated ------------ ------------ ------------ ----- ------------ ------------ Net revenues $ -- $ 1,023,291 $ 1,023,291 $ 1,023,291 Cost of revenues -- 606,883 606,883 606,883 ------------ ------------ ------------ ------------ Gross profit -- 416,408 416,408 416,408 ------------ ------------ ------------ ------------ Operating expenses: Selling, general and administrative 588,592 646,972 1,235,564 1,235,564 Research and development 81,784 81,784 81,784 Depreciation and amortization 4,363 63,396 67,759 67,759 Impairment of investment 404,000 404,000 404,000 Stock compensation expense 283,882 283,882 283,882 ------------ ------------ ------------ ------------ 1,280,837 792,152 2,072,989 2,072,989 ------------ ------------ ------------ ------------ Operating loss (1,280,837) (375,744) (1,656,581) (1,656,581) ------------ ------------ ------------ ------------ Other (charges): Interest expense (880,866) (5,717) (886,583) (886,583) Loss on sale of marketable securities (128,494) (128,494) (128,494) Other expenses -- (1,086) (1,086) (1,086) ------------ ------------ ------------ ------------ (1,009,360) (6,803) (1,016,163) (1,016,163) ------------ ------------ ------------ ------------ Net loss from continuing operations $ (2,290,197) $ (382,547) $ (2,672,744) $ (2,672,744) ------------ ------------ ------------ ------------ Net loss per basic and diluted share of common stock from continuing operations $ (0.47) $ (0.11) ============ ============ Weighted average number of basic and diluted common shares outstanding 4,912,026 (B) 19,300,000 24,212,026 ============ ============ ============ Notes: (B) Represents estimated number of shares of ProtoSource common shares to be exchanged for P2i Newspaper, Inc. PROTOSOURCE CORPORATION AND SUBSIDIARY UNAUDITED PRO FORMA CONSOLIDATED BALANCE SHEET DECEMBER 31, 2002 Historical Pro forma -------------------------------------------- ------------------------------------- Adjustments ProtoSource P2i Newspaper, Increase/ Corporation Inc. Total Notes (Decrease) Consolidated ------------ ------------ ------------ ----- ------------ ------------ ASSETS Current assets: Cash $ 2,671 $ 22,231 $ 24,902 $ 24,902 Marketable securities 10,924 10,924 10,924 Accounts receivable 188,405 188,405 188,405 Interest receivable 49,556 49,556 (B) $ (49,556) -- Notes receivable, P2i Newspaper, Inc. 1,045,280 1,045,280 (A) (1,045,280) -- Assets held for sale 178,115 178,115 178,115 Prepaid expenses and other current assets 2,651 2,508 5,159 5,159 ------------ ------------ ------------ ------------ ------------ Total current assets 1,289,197 213,144 1,502,341 (1,094,836) 407,505 Property and equipment, net 48,005 256,341 304,346 304,346 Debt issuance costs, net 543,543 56,981 600,524 600,524 Investment in corporation 105,000 105,000 105,000 ------------ ------------ ------------ ------------ ------------ $ 1,985,745 $ 526,466 $ 2,512,211 $ (1,094,836) $ 1,417,375 ============ ============ ============ ============ ============ LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIENCY) Current liabilities: Notes payable $ 1,125,000 $ -- $ 1,125,000 $ 1,125,000 Current portion of obligations under capital leases 13,775 22,258 36,033 36,033 Notes payable, ProtoSource Corporation 1,045,280 1,045,280 (A) $ (1,045,280) -- Due to P2i, Inc. 418,039 418,039 418,039 Accounts payable and accrued expenses 396,786 291,284 688,070 (B) (49,556) 638,514 Deferred revenue 9,000 9,000 9,000 Liabilities to be assumed upon sale 155,332 155,332 155,332 Due to related company 76,434 76,434 76,434 ------------ ------------ ------------ ------------ ------------ Total current liabilities 1,699,893 1,853,295 3,553,188 (1,094,836) 2,458,352 ------------ ------------ ------------ ------------ ------------ Obligations under capital leases, non-current portion 35,639 10,417 46,056 46,056 ------------ ------------ ------------ ------------ Stockholders' equity (deficiency): Preferred stock -- -- -- -- Common stock 25,635,960 -- 25,635,960 25,635,960 Additional paid-in capital 1,487,891 1,487,891 1,487,891 Accumulated other comprehensive (loss) (62,069) (62,069) (62,069) Accumulated deficit (26,811,569) (1,337,246) (28,148,815) (28,148,815) ------------ ------------ ------------ ------------ 250,213 (1,337,246) (1,087,033) (1,087,033) ------------ ------------ ------------ ------------ $ 1,985,745 $ 526,466 $ 2,512,211 $ (1,094,836) $ 1,417,375 ============ ============ ============ ============ ============ Notes: (A) Represents elimination of intercompany note payable/receivable. (B) Represents elimination of accrued interest associated with the intercompany note payable/receivable. PROTOSOURCE CORPORATION AND SUBSIDIARY UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS FOR THE YEAR ENDED DECEMBER 31, 2002 Historical Pro forma -------------------------------------------- ------------------------------------ Adjustments ProtoSource P2i Newspaper, Increase/ Corporation Inc. Total Notes (Decrease) Consolidated ------------ ------------ ------------ ----- ------------ ------------ Net revenues $ -- $ 1,050,293 $ 1,050,293 $ 1,050,293 Cost of revenues -- 956,793 956,793 956,793 ------------ ------------ ------------ ------------ Gross profit -- 93,500 93,500 93,500 ------------ ------------ ------------ ------------ Operating expenses: Selling, general and administrative 703,920 670,779 1,374,699 1,374,699 Research and development 181,952 181,952 181,952 Depreciation and amortization 8,726 101,465 110,191 110,191 Impairment of investment 121,000 121,000 121,000 ------------ ------------ ------------ ------------ 833,646 954,196 1,787,842 1,787,842 ------------ ------------ ------------ ------------ Operating loss (833,646) (860,696) (1,694,342) (1,694,342) ------------ ------------ ------------ ------------ Other income (charges): Interest expense (1,734,346) (89,213) (1,823,559) (A) $ 49,556 (1,774,003) Interest income 49,615 49,615 (A) (49,556) 59 Loss on sale of marketable securities (272,944) (272,944) (272,944) Other income 20,157 20,157 20,157 Other expenses -- (4,790) (4,790) (4,790) ------------ ------------ ------------ ------------ ------------ (1,937,518) (94,003) (2,031,521) -- (2,031,521) ------------ ------------ ------------ ------------ ------------ Net loss from continuing operations $ (2,771,164) $ (954,699) $ (3,725,863) $ -- $ (3,725,863) ============ ============ ============ ============ ============ Net loss per basic and diluted share of common stock from continuing operations $ (0.44) $ (0.15) ============ ============ Weighted average number of basic and diluted common shares outstanding 6,268,183 (B) 19,300,000 25,568,183 ============ ============ ============ Notes: (A) Represents elimination of interest income/expense associated with the intercompany note payable/receivable. (B) Represents estimated number of shares of ProtoSource common shares to be exchanged for P2i Newspaper, Inc. PROTOSOURCE CORPORATION AND SUBSIDIARY UNAUDITED PRO FORMA CONSOLIDATED BALANCE SHEET SEPTEMBER 30, 2003 Historical Pro forma -------------------------------------------- ------------------------------------ Adjustments ProtoSource P2i Newspaper, Increase/ Corporation Inc. Total Notes (Decrease) Consolidated ------------ ------------ ------------ ----- ------------ ------------ ASSETS Current assets: Cash $ 40,428 $ 14,794 $ 55,222 $ 55,222 Accounts receivable 198,148 198,148 198,148 Interest receivable 125,214 125,214 (B) $ (125,214) -- Notes receivable, P2i Newspaper, Inc. 1,393,953 1,393,953 (A) (1,393,953) -- Assets held for sale 178,115 178,115 178,115 Prepaid expenses and other current assets 2,151 8,167 10,318 10,318 ------------ ------------ ------------ ------------ ------------ Total current assets 1,739,861 221,109 1,960,970 (1,519,167) 441,803 Property and equipment, net 41,460 206,785 248,245 248,245 Deposits 1,500 7,500 9,000 9,000 Debt issuance costs, net 402,084 36,541 438,625 438,625 Investment in corporation 105,000 105,000 105,000 ------------ ------------ ------------ ------------ ------------ $ 2,289,905 $ 471,935 $ 2,761,840 $ (1,519,167) $ 1,242,673 ============ ============ ============ ============ ============ LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIENCY) Current liabilities: Notes payable $ 1,725,000 $ -- $ 1,725,000 $ 1,725,000 Current portion of obligations under capital leases 12,611 26,452 39,063 39,063 Notes payable, ProtoSource Corporation 1,393,953 1,393,953 (A) $ (1,393,953) -- Due to P2i, Inc. 193,758 193,758 193,758 Accounts payable and accrued expenses 524,951 464,990 989,941 (B) (125,214) 864,727 Deferred revenue 29,688 29,688 29,688 Liabilities to be assumed upon sale 155,332 155,332 155,332 Due to related company 72,231 72,231 72,231 ------------ ------------ ------------ ------------ ------------ Total current liabilities 2,447,582 2,151,384 4,598,966 (1,519,167) 3,079,799 ------------ ------------ ------------ ------------ ------------ Obligations under capital leases, non-current portion 25,997 27,085 53,082 53,082 ------------ ------------ ------------ ------------ Stockholders' equity (deficiency): Preferred stock -- -- -- -- Common stock 26,235,960 -- 26,235,960 26,235,960 Additional paid-in capital 2,087,891 2,087,891 2,087,891 Accumulated deficit (28,507,525) (1,706,534) (30,214,059) (30,214,059) ------------ ------------ ------------ ------------ (183,674) (1,706,534) (1,890,208) (1,890,208) ------------ ------------ ------------ ------------ $ 2,289,905 $ 471,935 $ 2,761,840 $ (1,519,167) $ 1,242,673 ============ ============ ============ ============ ============ Notes: (A) Represents elimination of intercompany note payable/receivable. (B) Represents elimination of accrued interest associated with the intercompany note payable/receivable. PROTOSOURCE CORPORATION AND SUBSIDIARY UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS FOR THE NINE-MONTH PERIOD ENDED SEPTEMBER 30, 2003 Historical Pro forma -------------------------------------------- ------------------------------------- Adjustments ProtoSource P2i Newspaper, Increase/ Corporation Inc. Total Notes (Decrease) Consolidated ------------ ------------ ------------ ----- ------------ ------------ Net revenues $ -- $ 1,081,077 $ 1,081,077 $ 1,081,077 Cost of revenues -- 677,076 677,076 677,076 ------------ ------------ ------------ ------------ Gross profit -- 404,001 404,001 404,001 ------------ ------------ ------------ ------------ Operating expenses: Selling, general and administrative 254,061 490,131 744,192 744,192 Research and development -- 81,850 81,850 81,850 Depreciation and amortization 6,545 110,893 117,438 117,438 ------------ ------------ ------------ ------------ 260,606 682,874 943,480 943,480 ------------ ------------ ------------ ------------ Operating loss (260,606) (278,873) (539,479) (539,479) ------------ ------------ ------------ ------------ Other income (charges): Interest expense (1,461,267) (80,803) (1,542,070) (A) $ 75,658 (1,466,412) Interest income 75,658 75,658 (A) (75,658) -- Loss on sale of marketable securities (65,942) (65,942) (65,942) Other income 16,201 16,201 16,201 Other expenses -- (9,612) (9,612) (9,612) ------------ ------------ ------------ ------------ ------------ (1,435,350) (90,415) (1,525,765) -- (1,525,765) ------------ ------------ ------------ ------------ ------------ Net loss from continuing operations $ (1,695,956) $ (369,288) $ (2,065,244) $ -- $ (2,065,244) ============ ============ ============ ============ ============ Net loss per basic and diluted share of common stock from continuing operations $ (0.21) $ (0.08) ============ ============ Weighted average number of basic and diluted common shares outstanding 7,943,410 (B) 19,300,000 27,243,410 ============ ============ ============ Notes: (A) Represents elimination of interest income/expense associated with the intercompany note payable/receivable. (B) Represents estimated number of shares of ProtoSource common shares to be exchanged for P2i Newspaper, Inc.
EX-10.3 3 psex8ka210-3.txt FINANCIAL STATEMENTS EXHIBIT 10.3 P2i NEWSPAPER, INC. (a wholly-owned subsidiary of P2i, Inc.) TABLE OF CONTENTS FOR THE YEARS ENDED DECEMBER 31, 2002 AND 2001 PAGE NUMBER ------ Independent Auditor's Report 2 Consolidated Financial Statements: Balance sheet 3 Operations and accumulated deficit 4 Cash flows 5 Notes to consolidated financial statements 6 to 10 - - 1 - INDEPENDENT AUDITOR'S REPORT ---------------------------- Board of Directors P2i Newspaper, Inc. (a wholly-owned subsidiary of P2i, Inc.) Bethlehem, PA We have audited the accompanying consolidated balance sheet of P2i Newspaper, Inc. (a wholly-owned subsidiary of P2i, Inc.) as December 31, 2002 and 2001, and the related consolidated statements of operations and accumulated deficit, and of cash flows for the years then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with 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, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of P2i Newspaper, Inc. as December 31, 2002 and 2001, and the results of their operations and their cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America. The accompanying financial statements have been prepared assuming the Company will continue as a going concern. As shown in the accompanying financial statements, the Company incurred net losses of $954,699 and $382,547 during the years ended December 31, 2002 and 2001, respectively. As discussed in Note 1 to the financial statements, the Company's significant operating losses raise substantial doubt about its ability to continue as a going concern. Management's plans in regard to these matters are also discussed in Note 1. The financial statements do not include any adjustments that might result from the outcome of this uncertainty. /s/ MARGOLIS & COMPANY P.C. --------------------------- Certified Public Accountants Bala Cynwyd, PA October 30, 2003 - - 2 -
P2i NEWSPAPER, INC. (a wholly-owned subsidiary of P2i, Inc.) CONSOLIDATED BALANCE SHEET DECEMBER 31, 2002 2001 ----------- ----------- ASSETS Current assets: Cash $ 22,231 $ 4,013 Accounts receivable 188,405 -- Prepaid expenses and other current assets 2,508 2,281 ----------- ----------- Total current assets 213,144 6,294 Property and equipment, net 256,341 244,801 Debt issuance costs, net of accumulated amortization of $59,019 at December 31, 2002 56,981 -- Deposits -- 4,368 ----------- ----------- $ 526,466 $ 255,463 =========== =========== LIABILITIES AND STOCKHOLDER'S DEFICIENCY Current liabilities: Current portion of obligations under capital leases $ 22,258 $ 23,713 Accounts payable and accrued expenses 291,284 41,690 Notes payable, ProtoSource Corporation 1,045,280 50,000 Due to P2i, Inc. 418,039 416,471 Due to related company 76,434 73,461 ----------- ----------- Total current liabilities 1,853,295 605,335 ----------- ----------- Obligations under capital leases, non-current portion 10,417 32,675 ----------- ----------- Stockholder's deficiency: Common stock, no par value; 1,000 shares authorized, 100 shares issued and outstanding -- -- Accumulated deficit (1,337,246) (382,547) ----------- ----------- (1,337,246) (382,547) ----------- ----------- $ 526,466 $ 255,463 =========== =========== The notes to consolidated financial statements are an integral part of the above statement. - - 3 -
P2i NEWSPAPER, INC. (a wholly-owned subsidiary of P2i, Inc.) CONSOLIDATED STATEMENT OF OPERATIONS AND ACCUMULATED DEFICIT YEAR ENDED DECEMBER 31, 2002 2001 ----------- ----------- Net revenues $ 1,050,293 $ 1,023,291 Cost of revenues 956,793 606,883 ----------- ----------- Gross profit 93,500 416,408 ----------- ----------- Operating expenses: General and administrative 372,444 240,560 Sales and marketing 298,335 406,412 Research and development 181,952 81,784 Depreciation 101,465 63,396 ----------- ----------- 954,196 792,152 ----------- ----------- Operating loss (860,696) (375,744) ----------- ----------- Other expenses: Interest expense 89,213 5,717 Other expenses 4,790 1,086 ----------- ----------- 94,003 6,803 ----------- ----------- Net loss (954,699) (382,547) Accumulated deficit, beginning (382,547) -- ----------- ----------- Accumulated deficit, ending ($1,337,246) ($ 382,547) =========== =========== The notes to consolidated financial statements are an integral part of the above statement. - - 4 - P2i NEWSPAPER, INC. (a wholly-owned subsidiary of P2i, Inc.) CONSOLIDATED STATEMENT OF CASH FLOWS YEAR ENDED DECEMBER 31, 2002 2001 --------- --------- INCREASE (DECREASE) IN CASH Cash flows from operating activities: Net loss ($954,699) ($382,547) Adjustments to reconcile net loss to net cash (used in) operating activities: Depreciation and amortization 101,465 63,396 Amortization of debt issuance costs 59,019 -- (Increase) decrease in operating assets: Accounts receivable (188,405) -- Prepaid expenses and other current assets (227) (2,281) Deposits 4,368 (4,368) Increase in operating liabilities: Accounts payable and accrued expenses 249,594 41,690 --------- --------- Net cash (used in) operating activities (728,885) (284,110) --------- --------- Cash flows from investing activities: Acquisitions of property and equipment (113,005) (245,349) --------- --------- Net cash (used in) investing activities (113,005) (245,349) --------- --------- Cash flows from financing activities: Net borrowings from ProtoSource Corporation 995,280 50,000 Net change in amount due to P2i, Inc. 1,568 416,471 Payments on capital lease obligations (23,713) (6,460) Net change in amount due related company 2,973 73,461 Debt issuance costs incurred (116,000) -- --------- --------- Net cash provided by financing activities 860,108 533,472 --------- --------- Net increase in cash 18,218 4,013 Cash at beginning of year 4,013 -- --------- --------- Cash at end of year $ 22,231 $ 4,013 ========= ========= SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION Cash paid during the year for: Interest $ 8,439 $ 3,850 --------- --------- SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES Capital lease obligation incurred to acquire property and equipment $ -- $ 62,848 ========= ========= The notes to consolidated financial statements are an integral part of the above statement. - - 5 - P2i NEWSPAPER, INC. (a wholly-owned subsidiary of P2i, Inc.) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2002 AND 2001 1. Nature of Business and Summary of Significant Accounting Policies ----------------------------------------------------------------- Nature of business - P2i Newspaper, Inc. ("the Company") is principally engaged in the conversion of text and graphics from print to interactive Web content. Its clients include newspaper groups located in the United States and the United Kingdom. The Company is headquartered in Bethlehem, Pennsylvania and has a west coast sales office in California and a data conversion center located in Kuala Lumpur, Malaysia. The Company, a Delaware corporation, was incorporated in August 2002. During September, 2002, the Company issued 100 shares of common stock to its parent, P2i, Inc. ("P2i") in exchange for P2i's assets relating to the newspaper business (principally patents, Internet domain and trade names, the newspaper-related customer base, technology and use of the production facility in Malaysia). In addition, newspaper employees were transferred from P2i, Inc. to the Company. Basis of consolidation - The accompanying consolidated financial statements include the accounts of the Company and its wholly-owned subsidiary, P2i Online SDN BHD, a Malaysian corporation (incorporated December 7, 2000). The consolidated financial statements also include the activity of P2i, Inc.'s Newspaper Division for 2001, and from January 1, 2002 through September 30, 2002. This activity has been extracted from the books and records of P2i, Inc. and includes all revenues and associated costs attributable to the conversion of print to Web content for newspaper customers, and either direct or allocated operating expenses of the Newspaper Division. All significant intercompany accounts and transactions have been eliminated. Basis of presentation - The accompanying consolidated financial statements have been prepared on a going concern basis, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. The financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts or the amount and classification of liabilities that might be necessary should the Company be unable to continue as a going concern. The Company's continuation as a going concern is dependent upon its ability to generate sufficient cash flows to meet its obligations on a timely basis, to obtain additional financing as may be required, and to generate revenues to a level where the Company becomes profitable. Additionally, the Company has experienced extreme cash liquidity shortfalls from operations. The Company's continued existence is dependent upon its ability to achieve its operating plan. Management's plans include the following: o In February, 2003, the Company signed an Agreement and Plan of Merger with ProtoSource Corporation ("ProtoSource") to allow ProtoSource to acquire P2i Newspaper, Inc. in exchange for a controlling interest in ProtoSource. o Obtaining additional working capital through the sale of common stock or debt securities. If management cannot achieve the above objectives, the Company may find it necessary to dispose of assets, or undertake other actions as may be appropriate. - - 6 - P2i NEWSPAPER, INC. (a wholly-owned subsidiary of P2i, Inc.) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED FOR THE YEARS ENDED DECEMBER 31, 2002 AND 2001 1. Nature of Business and Summary of Significant Accounting Policies - Continued ------------------------------------------------------------------- Revenue recognition - The Company recognizes service revenue when persuasive evidence of an arrangement exists, services are performed, the price of the transaction is fixed and determinable, and collectibility is reasonably assured. Use of estimates - The presentation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Accounts receivable - The Company considers accounts receivable to be fully collectible; accordingly, no allowance for doubtful accounts is required. If amounts become uncollectible, they will be charged to operations when that determination is made. Property and equipment and depreciation - Property and equipment is stated at cost. Depreciation is provided using the straight-line method over the estimated useful lives of the related assets. Capitalized software costs - The Company accounts for software development costs in accordance with Statement of Position 98-1 "Accounting for Costs of Computer Software Developed or Obtained for Internal Use", which provides that costs incurred in the preliminary project stage be expensed as incurred and cost incurred during the application development stage be capitalized. Internally developed software is amortized using the straight-line method over three years after the software is placed in service. Amortization - Debt issuance costs are being amortized using the straight-line method over one year. Foreign currency translation - For foreign currencies whose functional currency is the local currency, balance sheet accounts are translated at exchange rates in effect at the end of the year and income statement accounts are translated at the average exchange rates for the year. Translation gains or losses are included in other comprehensive income (loss) and are presented as a separate component of stockholders' equity (deficit). Transaction gains and losses are reflected in operations. There were no translation gains or losses in 2002 or 2001, as the exchange rate for the local Malaysian currency (the Ringgit Malaysia, "RM") was fixed at 3.8 RM to 1 U.S. Dollar. Income taxes - Deferred income taxes are provided for temporary differences between the financial reporting and tax basis of assets and liabilities using enacted tax laws and rates for the years when the differences are expected to reverse. - - 7 - P2i NEWSPAPER, INC. (a wholly-owned subsidiary of P2i, Inc.) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED FOR THE YEARS ENDED DECEMBER 31, 2002 AND 2001 2. Proposed Acquisition -------------------- On February 13, 2003, the Company announced an agreement and Plan of Merger to transfer all of its outstanding capital stock to ProtoSource, in exchange for the issuance of up to 19,383,531 shares of ProtoSource common stock and satisfaction of the existing debt to ProtoSouce (the "Agreement"). The 19,383,531 shares will be reduced by the number of shares equal to the total fees incurred to audit the financial statements of the Company, divided by $0.50 (the "Adjusted Shares"). The P2i Newspaper shareholders shall receive 10 shares of ProtoSource common stock for each $1.00 of gross income (as defined in the Agreement) earned by P2i Newspaper during calendar years 2003-2005, calculated quarterly, up to the total number of Adjusted Shares. The Adjusted Shares shall be subject to a three-year lock-up, which may be released upon the stock price and volume reaching established thresholds. ProtoSource loaned the Company $50,000 in 2001, $995,280 in 2002, and $348,673 between January 1, 2003 and September 30, 2003. The loans to P2i are in the form of demand notes which, in the event that the merger does not get completed, will be due on demand. The notes accrue interest at the rate of 8% per annum. The ultimate repayment of the debt is highly dependent upon the completion of the merger. The closing of this Agreement is subject to approval by the shareholders of ProtoSource and P2i Newspaper, and other customary terms and conditions. After the acquisition, P2i Newspaper will become a wholly-owned subsidiary of ProtoSource. 3. Property and Equipment ---------------------- 2002 2001 -------- -------- Software - internally developed $200,664 $101,241 Computer equipment 179,622 166,173 Automobile 24,395 24,395 Office equipment and furniture 16,480 16,388 -------- -------- 421,161 308,197 Less: accumulated depreciation 164,820 63,396 -------- -------- $256,341 $244,801 ======== ======== Included in property and equipment is equipment acquired under capital leases with a cost of $62,848 at December 31, 2002 and 2001, and accumulated amortization of $33,767 and $14,444 at December 31, 2002 and 2001, respectively. - - 8 - P2i NEWSPAPER, INC. (a wholly-owned subsidiary of P2i, Inc.) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED FOR THE YEARS ENDED DECEMBER 31, 2002 AND 2001 4. Commitments and Contingencies ----------------------------- Capital Leases -------------- The Company leases certain equipment under noncancellable capital leases. The following is a schedule of future minimum lease payments at December 31, 2002 under the Company's capital leases (together with the present value of minimum lease payments): 2003 $25,383 2004 11,837 -------- Total minimum lease payments 37,220 Less amount representing interest (4,545) -------- Present value of net minimum lease payments 32,675 Less current portion 22,258 -------- Non-current portion $ 10,417 ======== Operating Leases ---------------- The Company leases its headquarters in Pennsylvania (from P2i, Inc.) under a sublease agreement, where the Company is responsible for 50% of the total rent due for the office space. Rent expense charged to operations amounted to approximately $19,700 and $25,800 for the years ended December 31, 2002 and 2001, respectively. Future minimum lease payments due under operating leases are as follows: 2003 $ 35,793 2004 36,563 2005 37,333 2006 38,104 2007 38,875 Thereafter 39,433 -------- $226,101 ======== - - 9 - P2i NEWSPAPER, INC. (a wholly-owned subsidiary of P2i, Inc.) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED FOR THE YEARS ENDED DECEMBER 31, 2002 AND 2001 5. Income Taxes ------------ The Company files its U.S. tax return as part of a consolidated group with P2i, Inc. The following represents the Company's portion of deferred income taxes as of December 31: 2002 2001 --------- --------- Net operating loss carryforwards $ 400,000 $ 115,000 Less valuation allowance (400,000) (115,000) --------- --------- $ -- $ -- ========= ========= The Company has assessed its past earnings history and trends and expiration dates of carryforwards and has determined that it is more likely than not that no deferred tax assets will be realized, and thus has provided valuation allowances of $400,000 and $115,000 at December 31, 2002 and 2001, respectively. At December 31, 2002, the Company had federal and foreign net operating loss carryforwards of approximately $300,000 and $1,000,000, respectively. The federal net operating loss carryforwards begin to expire in 2022. 6. Due to P2i, Inc. and Related Company ------------------------------------ Due to related company represents advances received from P2i Ltd, UK. Advances from P2i, Inc. and P2i Ltd, UK are interest free and are due on demand. 7. Significant Customers --------------------- A significant portion of net revenues was earned from certain customers in 2002 and 2001. Sales to these customers were as follows: Customer 2002 2001 -------- ---- ---- A 14% 17% B 12% 6% C 8% 13% D 4% 12% Accounts receivable included approximately $73,000 due from the above major customers at December 31, 2002. - - 10 - P2i NEWSPAPER, INC. (a wholly-owned subsidiary of P2i, Inc.) TABLE OF CONTENTS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002 PAGE NUMBER ------ Independent Accountants' Compilation Report 2 Consolidated Financial Statements: Balance sheet 3 Operations and accumulated deficit 4 Cash flows 5 Notes to consolidated financial statements 6 to 10 - - 1 - Board of Directors P2i Newspaper, Inc. (a wholly-owned subsidiary of P2i, Inc.) Bethlehem, PA We have compiled the accompanying consolidated balance sheet of P2i Newspaper, Inc. (a wholly-owned subsidiary of P2i, Inc.) as September 30, 2003 and 2002, and the related consolidated statements of operations and accumulated deficit, and of cash flows for the nine-month periods then ended, in accordance with Statements on Standards for Accounting and Review Services issued by the American Institute of Certified Public Accountants. A compilation is limited to presenting in the form of financial statements information that is the representation of management. We have not audited or reviewed the accompanying financial statements and, accordingly, do not express an opinion or any other form of assurance on them. /s/ MARGOLIS & COMPANY P.C. --------------------------- Certified Public Accountants Bala Cynwyd, PA December 22, 2003 - - 2 -
P2i NEWSPAPER, INC. (a wholly-owned subsidiary of P2i, Inc.) CONSOLIDATED BALANCE SHEET (see accountants' compilation report) SEPTEMBER 30, 2003 2002 ----------- ----------- ASSETS Current assets: Cash $ 14,794 $ 3,260 Accounts receivable 198,148 85,837 Prepaid expenses and other current assets 8,167 3,926 ----------- ----------- Total current assets 221,109 93,023 Property and equipment, net 206,785 298,140 Debt issuance costs, net of accumulated amortization of $131,459 and $33,270 at September 30, 2003 and 2002, respectively 36,541 46,980 Deposits 7,500 -- ----------- ----------- $ 471,935 $ 438,143 =========== =========== LIABILITIES AND STOCKHOLDER'S DEFICIENCY Current liabilities: Current portion of obligations under capital leases $ 26,452 $ 22,986 Accounts payable and accrued expenses 464,990 101,772 Notes payable, ProtoSource Corporation 1,393,953 829,400 Due to P2i, Inc. 193,758 392,144 Due to related company 72,231 71,336 ----------- ----------- Total current liabilities 2,151,384 1,417,638 ----------- ----------- Obligations under capital leases, non-current portion 27,085 15,618 ----------- ----------- Stockholder's deficiency: Common stock, no par value; 1,000 shares authorized, 100 shares issued and outstanding -- -- Accumulated deficit (1,706,534) (995,113) ----------- ----------- (1,706,534) (995,113) ----------- ----------- $ 471,935 $ 438,143 =========== =========== See accompanying notes to consolidated financial statements. - - 3 -
P2i NEWSPAPER, INC. (a wholly-owned subsidiary of P2i, Inc.) CONSOLIDATED STATEMENT OF OPERATIONS AND ACCUMULATED DEFICIT (see accountants' compilation report) NINE MONTHS ENDED SEPTEMBER 30, 2003 2002 ----------- ----------- Net revenues $ 1,081,077 $ 933,495 Cost of revenues 677,076 767,216 ----------- ----------- Gross profit 404,001 166,279 ----------- ----------- Operating expenses: General and administrative 307,743 263,309 Sales and marketing 182,388 258,206 Research and development 81,850 183,070 Depreciation 110,893 46,084 ----------- ----------- 682,874 750,669 ----------- ----------- Operating loss (278,873) (584,390) ----------- ----------- Other expenses: Interest expense 80,803 24,675 Other expenses 9,612 3,501 ----------- ----------- 90,415 28,176 ----------- ----------- Net loss (369,288) (612,566) Accumulated deficit, beginning (1,337,246) (382,547) ----------- ----------- Accumulated deficit, ending ($1,706,534) ($ 995,113) =========== =========== See accompanying notes to consolidated financial statements. - - 4 - P2i NEWSPAPER, INC. (a wholly-owned subsidiary of P2i, Inc.) CONSOLIDATED STATEMENT OF CASH FLOWS (see accountants' compilation report) NINE MONTHS ENDED SEPTEMBER 30, 2003 2002 --------- --------- INCREASE (DECREASE) IN CASH Cash flows from operating activities: Net loss ($ 369,288) ($612,566) Adjustments to reconcile net loss to net cash (used in) operating activities: Depreciation and amortization 110,893 46,084 Amortization of debt issuance costs 72,440 33,270 (Increase) decrease in operating assets: Accounts receivable (9,743) (85,837) Prepaid expenses and other current assets (5,659) (1,645) Deposits (7,500) 4,368 Increase in operating liabilities: Accounts payable and accrued expenses 173,706 60,082 --------- --------- Net cash (used in) operating activities (35,151) (556,244) --------- --------- Cash flows from investing activities: Acquisitions of property and equipment (2,854) (99,423) --------- --------- Net cash (used in) investing activities (2,854) (99,423) --------- --------- Cash flows from financing activities: Net borrowings from ProtoSource Corporation 348,673 779,400 Net change in amount due to P2i, Inc. (224,281) (24,327) Payments on capital lease obligations (37,621) (17,784) Net change in amount due related company (4,203) (2,125) Debt issuance costs incurred (52,000) (80,250) --------- --------- Net cash provided by financing activities 30,568 654,914 --------- --------- Net decrease in cash (7,437) (753) Cash at beginning of period 22,231 4,013 --------- --------- Cash at end of period $ 14,794 $ 3,260 ========= ========= SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION Cash paid during the period for: Interest $ 7,381 $ 2,888 --------- --------- Income taxes $ -- $ -- --------- --------- SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES Capital lease obligation incurred to acquire property and equipment $ 58,483 $ -- --------- --------- See accompanying notes to consolidated financial statements. - - 5 - P2i NEWSPAPER, INC. (a wholly-owned subsidiary of P2i, Inc.) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002 (see accountants' compilation report) 1. Nature of Business and Summary of Significant Accounting Policies ----------------------------------------------------------------- Nature of business - P2i Newspaper, Inc. ("the Company") is principally engaged in the conversion of text and graphics from print to interactive Web content. Its clients include newspaper groups located in the United States and the United Kingdom. The Company is headquartered in Bethlehem, Pennsylvania and has a west coast sales office in California and a data conversion center located in Kuala Lumpur, Malaysia. The Company, a Delaware corporation, was incorporated in August 2002. During September, 2002, the Company issued 100 shares of common stock to its parent, P2i, Inc. ("P2i") in exchange for P2i's assets relating to the newspaper business (principally patents, Internet domain and trade names, the newspaper-related customer base, technology and use of the production facility in Malaysia). In addition, newspaper employees were transferred from P2i, Inc. to the Company. Basis of consolidation - The accompanying consolidated financial statements include the accounts of the Company and its wholly-owned subsidiary, P2i Online SDN BHD, a Malaysian corporation (incorporated December 7, 2000). The consolidated financial statements also include the activity of P2i, Inc.'s Newspaper Division from January 1, 2002 through September 30, 2002. This activity has been extracted from the books and records of P2i, Inc. and includes all revenues and associated costs attributable to the conversion of print to Web content for newspaper customers, and either direct or allocated operating expenses of the Newspaper Division. All significant intercompany accounts and transactions have been eliminated. Basis of presentation - The accompanying consolidated financial statements have been prepared on a going concern basis, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. The financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts or the amount and classification of liabilities that might be necessary should the Company be unable to continue as a going concern. The Company's continuation as a going concern is dependent upon its ability to generate sufficient cash flows to meet its obligations on a timely basis, to obtain additional financing as may be required, and to generate revenues to a level where the Company becomes profitable. Additionally, the Company has experienced extreme cash liquidity shortfalls from operations. The Company's continued existence is dependent upon its ability to achieve its operating plan. Management's plans include the following: o In February, 2003, the Company signed an Agreement and Plan of Merger with ProtoSource Corporation ("ProtoSource") to allow ProtoSource to acquire P2i Newspaper, Inc. in exchange for a controlling interest in ProtoSource. o Obtaining additional working capital through the sale of common stock or debt securities. If management cannot achieve the above objectives, the Company may find it necessary to dispose of assets, or undertake other actions as may be appropriate. - - 6 - P2i NEWSPAPER, INC. (a wholly-owned subsidiary of P2i, Inc.) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002 (see accountants' compilation report) 1. Nature of Business and Summary of Significant Accounting Policies - Continued ------------------------------------------------------------------- Revenue recognition - The Company recognizes service revenue when persuasive evidence of an arrangement exists, services are performed, the price of the transaction is fixed and determinable, and collectibility is reasonably assured. Use of estimates - The presentation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Accounts receivable - The Company considers accounts receivable to be fully collectible; accordingly, no allowance for doubtful accounts is required. If amounts become uncollectible, they will be charged to operations when that determination is made. Property and equipment and depreciation - Property and equipment is stated at cost. Depreciation is provided using the straight-line method over the estimated useful lives of the related assets. Capitalized software costs - The Company accounts for software development costs in accordance with Statement of Position 98-1 "Accounting for Costs of Computer Software Developed or Obtained for Internal Use", which provides that costs incurred in the preliminary project stage be expensed as incurred and cost incurred during the application development stage be capitalized. Internally developed software is amortized using the straight-line method over three years after the software is placed in service. Amortization - Debt issuance costs are being amortized using the straight-line method over one year. Foreign currency translation - For foreign currencies whose functional currency is the local currency, balance sheet accounts are translated at exchange rates in effect at the end of the year and income statement accounts are translated at the average exchange rates for the year. Translation gains or losses are included in other comprehensive income (loss) and are presented as a separate component of stockholders' equity (deficit). Transaction gains and losses are reflected in operations. There were no translation gains or losses in 2003 or 2002, as the exchange rate for the local Malaysian currency (the Ringgit Malaysia, "RM") was fixed at 3.8 RM to 1 U.S. Dollar. Income taxes - Deferred income taxes are provided for temporary differences between the financial reporting and tax basis of assets and liabilities using enacted tax laws and rates for the years when the differences are expected to reverse. - - 7 - P2i NEWSPAPER, INC. (a wholly-owned subsidiary of P2i, Inc.) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002 (see accountants' compilation report) 2. Proposed Acquisition -------------------- On February 13, 2003, the Company announced an agreement and Plan of Merger to transfer all of its outstanding capital stock to ProtoSource, in exchange for the issuance of up to 19,383,531 shares of ProtoSource common stock and satisfaction of the existing debt to ProtoSouce (the "Agreement"). The 19,383,531 shares will be reduced by the number of shares equal to the total fees incurred to audit the financial statements of the Company, divided by $0.50 (the "Adjusted Shares"). The P2i Newspaper shareholders shall receive 10 shares of ProtoSource common stock for each $1.00 of gross income (as defined in the Agreement) earned by P2i Newspaper during calendar years 2003-2005, calculated quarterly, up to the total number of Adjusted Shares. The Adjusted Shares shall be subject to a three-year lock-up, which may be released upon the stock price and volume reaching established thresholds. ProtoSource loaned the Company $50,000 in 2002, $995,280 in 2002, and $348,673 between January 1, 2003 and September 30, 2003. The loans to P2i are in the form of demand notes which, in the event that the merger does not get completed, will be due on demand. The notes accrue interest at the rate of 8% per annum. The ultimate repayment of the debt is highly dependent upon the completion of the merger. The closing of this Agreement is subject to approval by the shareholders of ProtoSource and P2i Newspaper, and other customary terms and conditions. After the acquisition, P2i Newspaper will become a wholly-owned subsidiary of ProtoSource. 3. Property and Equipment ---------------------- 2003 2002 -------- -------- Software - internally developed $200,664 $200,664 Computer equipment 240,959 166,173 Automobile 24,395 24,395 Office equipment and furniture 16,480 16,388 -------- -------- 482,498 407,620 Less: accumulated depreciation 275,713 109,480 -------- -------- $206,785 $298,140 ======== ======== Included in property and equipment is equipment acquired under capital leases with a cost of $121,331 and $62,848 at September 31, 2003 and 2002, and accumulated amortization of $36,204 and $28,936 at September 31, 2003 and 2002, respectively. - - 8 - P2i NEWSPAPER, INC. (a wholly-owned subsidiary of P2i, Inc.) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002 (see accountants' compilation report) 4. Commitments and Contingencies ----------------------------- Capital Leases -------------- The Company leases certain equipment under noncancellable capital leases. The following is a schedule of future annual minimum lease payments at September 30, 2003 under the Company's capital leases (together with the present value of minimum lease payments): 2004 $35,988 2005 29,990 -------- Total minimum lease payments 65,978 Less amount representing interest (12,441) -------- Present value of net minimum lease payments 53,537 Less current portion 26,452 -------- Non-current portion $ 27,085 ======== Operating Leases ---------------- The Company leases its headquarters in Pennsylvania (from P2i, Inc.) under a sublease agreement, where the Company is responsible for 50% of the total rent due for the office space. Rent expense charged to operations amounted to approximately $27,000 and $15,000 for the nine months ended September 30, 2003 and 2002, respectively. Future annual minimum lease payments due under operating leases are as follows: 2004 $ 35,598 2005 36,366 2006 37,139 2007 37,913 2008 38,682 Thereafter 6,181 -------- $191,879 ======== - - 9 - P2i NEWSPAPER, INC. (a wholly-owned subsidiary of P2i, Inc.) ====================================== NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2003 AND 2002 (see accountants' compilation report) 5. Income Taxes ------------ The Company files its U.S. tax return as part of a consolidated group with P2i, Inc. The following represents the Company's portion of deferred income taxes as of September 30: 2003 2002 --------- --------- Net operating loss carryforwards $ 500,000 $ 300,000 Less valuation allowance (500,000) (300,000) --------- --------- $ -- $ -- ========= ========= The Company has assessed its past earnings history and trends and expiration dates of carryforwards and has determined that it is more likely than not that no deferred tax assets will be realized, and thus has provided valuation allowances of $500,000 and $300,000 at September 30, 2003 and 2002, respectively. At September 30, 2003, the Company had federal and foreign net operating loss carryforwards of approximately $300,000 and $1,000,000, respectively. The federal net operating loss carryforwards begin to expire in 2022. 6. Due to P2i, Inc. and Related Company ------------------------------------ Due to related company represents advances received from P2i Ltd, UK. Advances from P2i, Inc. and P2i Ltd, UK are interest free and are due on demand. 7. Significant Customers --------------------- A significant portion of net revenues was earned from certain customers in 2003 and 2002. Sales to these customers were as follows: Customer 2003 2002 -------- ---- ---- A 40% 29% B 17% 9% C 4% 12% Accounts receivable included approximately $104,000 due from the above major customers at September 30, 2003. - - 10 - -----END PRIVACY-ENHANCED MESSAGE-----