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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO SECTION
13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
(Mark One)
|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2000
OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
Commission File Number 0-28191
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eSpeed, Inc.
(Exact name of Registrant as Specified in Its Charter)
Delaware 13-4063515
(State or Other Jurisdiction (I.R.S. Employer Identification No.)
of Incorporation)
One World Trade Center, 103rd Floor, New York, NY 10048
(Address of Principal Executive Offices) (Zip Code)
(212) 938-3773
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b)of the Act:
Title of Each Class Name of Each Exchange on which Registered
None None
Securities registered pursuant to Section 12(g)of the Act:
Class A Common Stock, $. 01 par value
(Title of Class)
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Indicate by check mark whether the registrant: (1) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes |X| No |_|
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of Registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. |X|
The aggregate market value of voting common equity held by
non-affiliates of the registrant, based upon the closing price of the Class A
common stock on February 8, 2001 as reported on the Nasdaq National Market, was
approximately $454,732,663.
Indicate the number of shares outstanding of each of the Registrant's
classes of common stock, as of the latest practicable date.
Class Outstanding at February 8, 2001
Class A Common Stock, par value $.01 per share 19,159,612 shares
Class B Common Stock, par value $.01 per share 32,724,600 shares
DOCUMENTS INCORPORATED BY REFERENCE.
None.
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eSPEED, INC.
2000 FORM 10-K ANNUAL REPORT
TABLE OF CONTENTS
Page
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PART I
ITEM 1. BUSINESS........................................................1
Item 2. PROPERTIES.....................................................33
ITEM 3. LEGAL PROCEEDINGS..............................................35
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS............36
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS............................................37
ITEM 6. SELECTED FINANCIAL DATA........................................39
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS............................41
Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
MARKET RISK....................................................50
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA....................51
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE............................74
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.............75
ITEM 11. EXECUTIVE COMPENSATION.........................................79
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT.....................................................83
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.................87
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS
ON FORM 8-K....................................................94
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PART I
ITEM 1. BUSINESS
The information in this report contains forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933, as amended, and Section
21E of the Securities Exchange Act of 1934, as amended. Such statements are
based upon current expectations that involve risks and uncertainties. Any
statements contained herein that are not statements of historical fact may be
deemed to be forward-looking statements. For example, words such as "may,"
"will," "should," "estimates," "predicts," "potential," "continue," "strategy,"
"believes," "anticipates," "plans," "expects," "intends" and similar expressions
are intended to identify forward-looking statements. Our actual results and the
timing of certain events may differ significantly from the results discussed in
the forward-looking statements. Factors that might cause or contribute to such a
discrepancy include, but are not limited to, those discussed elsewhere in this
report in the section entitled "Risk Factors."
OVERVIEW OF OUR BUSINESS
We are a leading provider of business-to-business electronic marketplace
solutions. We host and operate electronic marketplaces and real-time auctions
and license software to market participants through our fully-integrated network
and over the Internet. Our products enable market participants to transact
business instantaneously, more effectively and at lower cost. In 2000, we
processed over 3 million electronic transactions, totaling more than $32
trillion of transactional volume. During the past year, we added over 35 new
products to our electronic marketplaces, entered into key software licensing
agreements and more than tripled our revenues. We have over 650 clients,
including the largest fixed income trading firms and leading natural gas and
electricity trading firms in the world. We have offices in the U.S., Europe,
Asia and Canada.
We believe we offer one of the most robust, large-scale, instantaneous and
reliable transaction processing systems. Our global private network permits
market participants to view information and execute transactions in a fraction
of a second. Our proprietary software provides an end-to-end solution, including
front-end applications, transaction processing engines, credit and risk
management tools and back-office and clearance modules, enabling
straight-through processing.
Our revenues consist primarily of transaction fees, software licensing fees and
system services fees. We do not risk our own capital in transactions or extend
credit to market participants.
Our eSpeed(sm) system is accessible to our clients through (1) our proprietary
application programming interface, or API, our dedicated front-end software
application, (2) via the Internet through a browser interface or Java applet and
(3) front-end trading systems developed by third-party software companies. Our
system runs on large-scale hardware located in three data centers located in the
U.S. and Europe and is distributed either over our global network or via the
Internet through links to multiple, global Internet service providers.
Additionally, our system operates a fully regulated U.S. futures exchange
currently known as the Cantor Exchange(sm). This exchange is the first fully
electronic futures exchange in the U.S. and serves as our platform for the
electronic trading of a broad range of futures contracts globally. The New York
Board of Trade, through its subsidiaries, provides clearing and regulatory
services and we provide electronic execution and related services for the Cantor
Exchange(sm). Currently, the Cantor Exchange(sm) has obtained regulatory
authority to operate in the United Kingdom, Denmark, Finland, France, Hong Kong,
Ireland, Italy, Japan, Norway, Portugal and in eight German states.
We market our services through the following three basic products: eSpeed
Markets(sm), eSpeed Private Label(sm) and eSpeed Online(sm).
o eSpeed Markets(sm) is a full service solution combining all of our
proprietary software and our global high-speed private network. eSpeed
Markets(sm) currently operates in some of the largest and most complex
marketplaces, and is designed to be extendible to any multiple buyer,
multiple seller marketplace. eSpeed Web Markets(sm) offers the core
features of eSpeed Markets(sm) through a complete Internet-only
distribution channel.
o eSpeed Private Label(sm) provides a complete outsourced solution to our
clients to enable them to distribute their branded products to their
customers through online offerings, auctions, including private and
reverse auctions, and request-for-quote capabilities.
o eSpeed Online(sm) provides retail-based e-commerce businesses with online
access to wholesale market participants. It enables them to offer their
customers access to a variety of markets that are traditionally available
only to institutional investors and wholesalers.
Our objective is to be the world's leading provider of interactive electronic
marketplaces and related software solutions. We believe that the scalability and
extendibility of our eSpeed(sm) suite of products enable us to introduce new
markets and distribute products and services more quickly, cost effectively and
seamlessly than our competitors.
We commenced operations in March 1999 as a division of Cantor Fitzgerald
Securities, a subsidiary of Cantor Fitzgerald, L.P. Our initial focus was the
global fixed income, foreign exchange and futures and options trading markets,
which we refer to as the Financial Vertical. Our relationship with Cantor, a
leading global inter-dealer broker in the fixed income markets, has enabled us
to become the leader in this electronic marketplace. In the last year, we have
significantly expanded the types of products traded electronically through our
eSpeed(sm) system. Our goal is to offer the full range of financial products
currently traded in today's global markets. In 2000, we entered the North
American energy market with a group of leading energy industry partners. We plan
to serve additional marketplaces, which we refer to as vertical marketplaces,
including global energy, bandwidth, telecommunications, chemicals, electronic
components, metals and other markets that can benefit from more efficient,
centralized, electronic trading facilities. We also plan to leverage our
electronic marketplace expertise and reputation to sell software products and
services directly to participants in these marketplaces.
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OUR INDUSTRY
Historically, the trading of products has been an inefficient process. Buying,
selling or trading activity is traditionally effected through either (1) a
central physical location, like a trading pit or auction house, where market
participants have to access the market through this central location, (2) a
broker or bilateral arrangement with a buyer or seller or (3) several layers of
middlemen and salesmen who assist in handling orders. Each of these approaches
is people and time intensive, which adds to the direct and indirect cost of the
product bought or sold.
Additional inefficiencies with transaction execution include lack of real-time
price information, small disparate groups of interested buyers and sellers,
limited liquidity and problems associated with executing trades as market prices
change. As more transactions occur and participants extend credit to each other,
there are added risks to both buyers and sellers because of the lack of
sophisticated risk management tools. Also, after a buy or sell order is
executed, there are the additional tasks of recording, accounting, tracking,
delivering and financially settling the transaction. Each of these tasks, if
done manually, can add potential cost and error to the process as additional
participants or systems enter the transaction cycle.
Electronic marketplaces have emerged as effective means of conducting
business-to-business transactions. In an electronic marketplace, substantially
all of the participants' actions are facilitated through an electronic medium,
such as a private electronic network or over the Internet, which effectively
eliminates the need for actual face-to-face or voice-to-voice participant
interaction, reducing the inefficiencies inherent in a physical market.
Additionally, as adoption of the Internet has become more widespread, businesses
are recognizing online channels as an efficient means of distribution of their
products to their customers.
Many financial exchanges worldwide, including certain exchanges in France,
Germany, Japan, Sweden, Switzerland and the United Kingdom, are now partially or
completely electronic. Various electronic marketplaces have been implemented to
address the varied needs of the broad business-to-business initiatives,
including marketplaces aimed at the procurement of finished goods or services,
as well as neutral marketplaces for the trading of commodity or commodity-like
goods. We believe the trading of commodity-like products will require
capabilities found in the financial markets, including real-time pricing,
futures and other hedging capabilities and robust interactive trading.
Additionally, we believe companies will seek to outsource online solutions for
the electronic distribution of their products to avoid the difficulty and cost
of developing and maintaining their own online solutions.
OUR SOLUTION
Our electronic marketplace end-to-end solution includes real-time and auction-
based transaction processing, credit and risk management tools and back-end
processing and billing systems, all accessible through our global privately
managed high-speed data network and over the Internet. Because of the scale and
adaptability of our system, our eSpeed(sm) products have applications across a
broad range of companies, industries and vertical marketplaces, including any
business-to-business marketplace involving multiple buyers and multiple sellers.
In addition, we license
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our software to provide a complete outsourced solution to our clients enabling
them to distribute their branded products to their customers through online
offerings and auctions, including private and reverse auctions, and
request-for-quote capabilities. Our products enable market participants to
transact business instantaneously, more effectively and at lower cost.
OUR TECHNOLOGY PLATFORM
Our electronic marketplace solutions operate on our technology platform that
emphasizes scalability, performance, adaptability and reliability. Our
technology platform consists of:
o our proprietary, internally developed real-time global network distribution
system;
o our proprietary transaction processing software, which includes order
matching auction engines, fully integrated credit and risk management
systems, pricing engines and associated middle and back-office operations
systems;
o client interfaces ranging from Windows, Java, UNIX, our proprietary static
library API and proprietary vendor access; and
o customized inventory distribution and auction protocols designed to be used
by our clients and partners in their distribution and trading systems.
Together, these components enable our clients to effect transactions in real-
time, with straight-through processing.
Network distribution system
Our eSpeed(sm) system contains a proprietary hub- and-spoke digital network.
This network uses Cisco Systems' network architecture and is operated by
Cisco-certified engineers. Our network's high-speed points of presence comprise
the major business centers of the world, including New York, London, Tokyo,
Frankfurt, Paris, Milan, Chicago, Los Angeles and Toronto. Altogether, we manage
22 hubs linked by over 50,000 miles of cable, over 1,000 Cisco network devices
and more than 450 high capacity Sun super servers and Compaq Alpha super servers
located in three data centers in New York, London and Rochelle Park, New Jersey.
The redundant structure of our system provides multiple backup paths and
re-routing of data transmission if one spoke of a hub fails. We believe we
operate one of the largest and most robust interactive trading network
distribution systems currently in operation.
Our distribution system accepts orders and postings instantaneously and
distributes responses, generally in 300 milliseconds. We estimate that our
network is currently running at approximately 15% of capacity.
In addition to our own network system, we also receive and distribute secure
trading information from clients using the services of multiple, major Internet
service providers throughout the
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world. These connections enable us to offer our products and services via the
Internet to our global clients.
Transaction processing software
Most of our software applications have been developed internally and are central
to the success of our eSpeed(sm) system. Our auction and trading engines operate
in real time, facilitating efficient interaction between buyers and sellers. Our
credit and risk management systems monitor and regulate these buyers and
sellers. Our pricing engines provide prices for illiquid financial products
derived from multiple trades in other related financial instruments. These
critical applications work together seamlessly and are supported by middle and
back office software that verifies, confirms, reports, stores, tracks and, if
applicable, enables the settlement of each transaction. Our transaction
processing software includes verification mechanisms at various stages of the
execution process, which result in significantly reduced manual intervention,
decreased probability of erroneous trades and more accurate execution for
clients.
eSpeed(sm) transaction engines
Our auction and transaction engines use Interactive Matching(sm), our
proprietary rules-based method, to process in excess of 150 transactions per
second per auction, instrument or product. These engines were developed to
support trading in the largest capital markets in the world, such as government
bonds and futures contracts, and the more diverse, fragmented and database
intensive markets, such as U.S. municipal bonds (with over 1.7 million different
issues), corporate bonds and Eurobonds. These transaction engines are designed
to be modular and flexible to allow modification in order to apply them to other
markets and auction types. In Europe, for example, we have added a component
that allows us to process transactions and auctions in multiple currencies
simultaneously. Our transaction engines have embedded security features and an
added messaging layer to provide security from unauthorized use. In addition, we
use encryption to protect our clients that transact business over the Internet.
We believe our marketplace expertise and rules-based systems provide incentives
for clients to actively participate in our marketplaces. For example,
Interactive Matching(sm) provides incentives to participate in our marketplaces
by encouraging participants to expose their orders to the market. In standard
auctions, the incentive is for participants to wait until the last moment to
make a bid or offer. Our priority rules encourage trading activity by giving the
last successful active participant a time-based right of first refusal on the
next sale or purchase. In addition, in many markets we have structured our
pricing policy to provide incentives. The party that provides auction products
for the market or creates liquidity (by inputting a price to buy or sell) pays
less commission (or no commission) than the participant that consummates the
trade by acting on that price. With our pricing policies and proprietary
priority rules, our system is designed to increase activity and to draw
participants into the market. This proprietary rules-based system is adaptable
and, as part of our business strategy, we intend to apply it across other
non-financial markets for multiple products and services.
eSpeed Credit Master(sm) - credit and risk management systems
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Our credit and risk management systems are critical to the operation of our
electronic marketplaces. These systems (1) continuously monitor trades of our
clients to help prevent them from exceeding their credit limits, (2)
automatically prevent further trading once a client has reached a pre-determined
credit limit and (3) evaluate transactions and calculate both individual
positions and risk exposure across various products and credit limits. Our
proprietary credit and risk management systems can also be made available to our
global clients to enable them to monitor the position of their traders and are
integrated with our private label systems so our global clients can monitor the
credit of their customers who transact directly with them online. These systems
store client data relevant to credit and risk management, such as financial
statements, credit documents, contacts and internal analyses. These systems also
enable our clients to make our electronic marketplaces available to their
customers while maintaining control of their customers' trading activity and
risk.
eSpeed Name Give-Up Matrix(sm) - credit monitoring
Through the use of our name give-up matrix, we enable our market participants to
create counterparty credit exposure limits to manage the counterparties with
which they transact in non-central counterparty markets. In these markets,
participants settle transactions directly with other participants. Using this
module, the participants can pre-select the counterparties that they are willing
to transact with in that market. The module displays all prices to market
participants, and highlights and enables execution on prices that are from
approved counterparties. Additionally, the module has features that permit each
participant to manage the activities of its traders on a real-time basis.
eSpeed(sm) pricing engines and analytics
We have developed a number of analytical software tools that permit us to price
products that trade in less liquid markets and for which current pricing
information is not readily available. For example, our MOLE(sm) system (Multiple
Order Link Engine) is a computer application that enables us to link multiple
markets, offer prices and create and enhance marketplaces for products that have
limited liquidity. In the Financial Vertical, MOLE(sm) currently uses data from
existing cash and futures markets to calculate pricing for transactions where no
market prices currently exist, thereby facilitating liquidity. These
multi-variable trades are extremely difficult to execute in voice-based markets
due to their complexity and the slow speed of manual execution.
eSpeed(sm) middle and back-office applications
Our middle and back-office applications support clearance, settlement, tracking
and reporting of trades and provide links to outside clearing entities. For
example, in the financial markets, we outsource our fulfillment services to
Cantor, where both parties to a trade send either cash or securities to Cantor
and Cantor settles the trade and sends each party the cash or securities due.
Our reporting and accounting systems are designed to track and record all
charges and commissions for a trade. Our eSpeed(sm) system and products automate
previously paper and
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telephone-based transaction processing, confirmation and other functions,
substantially improving and reducing the cost of many of our clients' back
offices, and enabling straight-through processing.
Client interfaces
Our system can be accessed by our clients in four ways:
o using our eSpeed(sm) proprietary front-end trading software;
o using our application programming interface for clients to write their own
software linking their networks and software applications directly to our
systems. Our application programming interface enables clients to conduct
computer price updating, program trading and straight-through processing;
o through the Web via a browser, or using a downloaded Java application or
dedicated proprietary software application via the Internet, both for
wholesale clients and for retail clients who participate in our
marketplaces; and
o through software developed in alliances with third-party independent
software vendors.
eSPEED(sm) PRODUCTS
We market our services through the following three products: eSpeed Markets(sm),
eSpeed Private Label(sm) and eSpeed Online(sm).
eSpeed Markets(sm)
eSpeed Markets(sm) is a full service solution combining all of our proprietary
software and our global high-speed private network. eSpeed Markets(sm) currently
operates in some of the largest and most complex marketplaces, and is designed
to be extendible to any multiple buyer, multiple seller marketplace. eSpeed Web
Markets(sm) offers the core features of eSpeed Markets(sm) with a complete
Internet-only distribution channel.
eSpeed Markets(sm) enables us to operate what we believe is the only integrated
network engaged in electronic trading in multiple products and marketplaces on a
global basis. We believe that the time and expense required to develop and
install electronic trading networks will serve as a significant barrier to
entry.
Financial Vertical
Wholesale fixed income. The global fixed income market is the largest financial
market in the world. The Bond Market Association estimates that in the U.S.
alone, as of the second quarter of 2000, there were over $15 trillion of fixed
income securities outstanding with over $360 billion of volume traded daily. In
the U.S. Treasury securities market, there is reported to be over $200
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billion a day in trading just among the primary dealers and their clients. In
Europe, Asia and the emerging markets, there were approximately $16 trillion of
fixed income securities outstanding at December 31, 1999. In Europe, the
creation of the Euro has manifested a market second only to the U.S. in breadth.
In Asia, the Japanese government bond market grew 44.6%, from $2.8 trillion
outstanding in 1997 to $4.1 trillion outstanding in 1999. The global market for
interest rate swaps, interest rate options and currency swaps had over $60
trillion in notional value outstanding as of June 2000.
Foreign exchange. The trading of currencies in all monetary pairs represents the
largest trading volume market in the world. The Bank for International
Settlements estimates the daily volume traded in the foreign exchange markets to
have been $1.97 trillion in 1999.
Futures and options. Futures and options trading is a leading financial activity
throughout the world, with contracts traded on a wide variety of financial
instruments, commodities and indexes. According to the Futures Industry
Association, Inc., in 2000, over 1.4 billion futures contracts and over 1.5
billion options contracts were traded in the world's futures and options
markets. Currently, most futures trading is still being done on open outcry
exchanges, but there has been a significant movement towards the conversion of
these markets to electronic trading. To date, we believe the most successful
initiatives have been made in Europe. We believe that there is significant
opportunity in the continued conversion of these markets to electronic networks,
such as our own.
Limitations of the traditional financial market
While the traditional financial market facilitates trading, it has significant
shortcomings such as the following:
o limited direct access and, therefore, many investors may not receive
efficient pricing;
o high transaction costs and slow execution due to the number of people
involved in a voice transaction;
o difficulty in implementing program trading, especially programs designed to
automatically and simultaneously execute multiple trades in different, but
related products;
o significant expense incurred in processing, confirming and clearing manual
processes; and
o compliance and regulatory risk associated with voice transactions and non-
automated audit trails.
Our Financial Vertical solution
The Financial Vertical contains many of Cantor's largest marketplaces, including
U.S. Treasury and agency securities, European, Japanese, Canadian and emerging
market sovereign bonds, U.S. and global corporate bonds, mortgage-backed
securities, municipal bonds, interest rate
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swaps and options, futures, options, repos and basis trades. Cantor is a major
facilitator and, in some cases, provider of liquidity in numerous financial
products through its offices in the U.S., Canada, Europe and Asia. Our eSpeed
Markets(sm) product provides the only way to electronically access Cantor's
marketplaces. Our eSpeed Markets(sm) product also will power the electronic
platform of Freedom International Brokerage, the leading inter-dealer broker of
Canadian fixed income products, foregin exchanges and other capital producs,
upon the closing of our recent alliance with Freedom, Cantor and six leading
financial institutions.
Our private electronic network for wholesale financial markets is connected to
most of the largest financial institutions worldwide. We have installed in the
offices of our existing client base the technology infrastructure necessary to
provide price information and trade execution on an instantaneous basis in a
broad range of securities and financial instruments. We believe our eSpeed(sm)
suite of products enables us to introduce and distribute a broad mix of
financial products and services quickly, efficiently and at lower cost.
In our electronic marketplaces, participants may either electronically execute
trades themselves or call brokers, who then input trade orders into the market
for them. In a fully electronic trade, all stages of the trade occur
electronically. The participant inputs its buy or sell order instructions
directly into our electronic trading system using our software, a web-browser,
or electronically through an application programming interface or other
software. Our system provides to the participant, normally within 300
milliseconds, an on-screen confirmation that the participant's order has been
accepted. Simultaneously, an electronic confirmation can be sent to the
participant's back office and risk system, enabling risk management capabilities
and straight-through processing for the participant. A broker assisted trade is
executed in substantially the same manner as an electronic trade, except that
the participant telephones a broker, who then inputs the participant's order
into our electronic marketplace system.
Energy Vertical
In September 2000, we, together with Coral Energy Holding (an affiliate of
Shell), Dominion Energy, Dynegy, Koch Energy Trading, TXU Energy Trading,
Williams Energy Marketing & Trading and Cantor, announced the formation of
TradeSpark, a new comprehensive energy marketplace. TradeSpark was created as a
wholesale marketplace for energy-related products and services in North America
with both electronic trading systems and voice brokers. As part of our
arrangement with TradeSpark, we have implemented electronic marketplaces for
natural gas, electricity, coal, weather derivatives and emission allowances. It
is the intention of TradeSpark to provide the full spectrum of energy-related
tradable instruments, including cash, spot, forward, futures, indices and data
sales.
TradeSpark unites our technology platform, accessed over both a private global
network and the Internet, and our partners' in-depth energy market knowledge and
liquidity to bring speed, neutrality, efficiency and technological leadership to
the energy trading market.
Since inception, over 120 companies, including most of the major energy trading
firms in North America, have traded using TradeSpark. We effected over 12,500
transactions comprising over
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$16 billion of transaction volume since TradeSpark's inception. Gas Daily
reports that the TradeSpark partners, together with Dynegy and Entergy, traded
approximately 32.8 billion cubic feet of natural gas per day and Power Markets
Week reports that these companies traded 403 million megawatt hours of
electricity during 2000. These companies estimate they traded roughly 20% of all
gas and power traded in North America during the last quarter of 2000. Forrester
Research predicts that, by 2004, online sales of natural gas will total $166
billion, representing 25% of all natural gas sales, and online sales of
electricity will total $101 billion, or 11% of all electricity sales.
Limitations affecting the traditional energy market
The traditional voice-brokered energy marketplace has been fraught with
inefficiencies, including the lack of real-time price information, small pools
of liquidity, high transaction costs and problems associated with executing
trades in a fast moving market. More recently, credit has become a major issue
to the market participants because of massive price fluctuations caused by
various states' approaches to deregulation, the lack of a liquid hedging market
and limited risk management tools. While there have been a handful of electronic
systems and single dealer platforms initiated over the past three years, we
believe that none have unbiased information about prices and enough products or
liquidity to give companies exchange-like execution in the energy marketplace.
Our Energy Vertical solution
Powered by our full trading platform encompassed in eSpeed Markets(sm),
TradeSpark offers an end-to-end marketplace and trading solution that includes
real-time and auction-based transaction processing, risk management tools and
back-end processing systems, as well as access to a fully registered futures
exchange, allowing for the creation of futures and options products for this
marketplace.
Designed to bring marketplace efficiency to the energy markets, TradeSpark is
fully operational and employs approximately 50 brokerage personnel with access
to eSpeed's electronic trading platform. TradeSpark offers three possible points
of access to one pool of liquidity: over the Internet, through eSpeed's private
network and through TradeSpark voice brokers.
eSpeed Private Label(sm)
eSpeed Private Label(sm) provides a complete outsourced solution to our clients,
enabling them to distribute their branded products to their customers through
online offerings and auctions, including private and reverse auctions, and
request-for-quote capabilities. Our eSpeed Private Label(sm) product takes
advantage of the scalability, flexibility and functionality of our eSpeed(sm)
system to allow our clients to quickly create online connectivity to their
customers.
We have signed private label agreements with Visible Markets, Sanwa Securities
and the Federal Home Loan Bank. Visible Markets is the first browser-based
auction marketplace for mortgage-backed securities, asset-backed securities and
investment grade corporate bonds. eSpeed Private
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Label(sm) will supplement Visible Markets' existing online, auction-based
marketplace for less liquid fixed income products. Sanwa Securities is the
securities subsidiary of Sanwa Bank, one of the largest financial institutions
in Japan. We expect that the first product that Sanwa will transact with its
customers through our real-time technology platform will be Japanese government
bonds. The Federal Home Loan Bank is a U.S. Government sponsored enterprise and
one of the largest issuers in the global short-term securities market. Our
electronic auction- based technology will power the Federal Home Loan Bank's
primary discount note auctions.
eSpeed Online(sm)
eSpeed Online(sm) provides retail-based e-commerce businesses with online access
to wholesale market participants. It enables these online businesses to offer
their customers access to a variety of markets that are traditionally available
only to institutional investors and wholesalers. eSpeed Online(sm) also links to
middle and back-office systems, providing a complete end-to-end retail solution
for trade execution, risk management, processing and billing. To date, we have
signed agreements with 13 online brokers, including AB Watley, Bondpage.com,
Charles Schwab, Firstrade Securities, MostActives.com, Mr. Stock, Muriel
Siebert, myTrack, Scot Trade, Sutton Online, The Net Investor, Tradescape and
WebStreet Securities. On January 2, 2001, Charles Schwab & Co. introduced U.S.
Treasuries and Agency securities to its customer base through eSpeed Online(sm).
Technological advances have created new and inexpensive means for individual
investors to directly access markets online and participate in the securities
markets. According to Forrester Research, the number of active online accounts
grew from approximately 1.5 million at the end of 1996 to over 8.6 million at
the end of 1999, representing $806.0 billion in assets. Despite the growth in
online accounts and access to public equity markets, there has been very limited
access for retail Internet trading in fixed income securities, futures, options
and other wholesale financial instruments at cost-effective pricing and spreads.
We believe that the emergence of electronic marketplaces that promote greater
liquidity, enhanced access and more efficient pricing will increase trading
among retail investors in financial and other products other than equities. We
believe that companies will increasingly seek an outsourced solution to
distribute their products electronically.
OUR GROWTH STRATEGY
Our objective is to be the world's leading provider of interactive electronic
marketplaces and related software solutions to a broad range of industries and
vertical marketplaces. We believe we can extend our expertise in the creation of
instantaneous electronic marketplaces to a broad range of products and services.
Our growth strategy to achieve this objective includes the following key
elements:
Expand system functionality and develop new products, software and services for
our existing financial and energy markets
-11-
We plan to continue to expand the types of financial, energy and other products
traded in our marketplaces both in the United States and abroad. Our goal is to
include in our electronic marketplaces the full range of products, including
futures, options and other derivatives of these products, that are currently
traded in today's markets worldwide. In addition, we plan to develop software
and services to add new methods to effect transactions in these products. We
expect that our traditional client base will begin to trade new products as we
develop electronic marketplaces for them, and we intend to continue to convert
existing clients to our fully electronic platform.
Leverage our eSpeed(sm) system for use in a wide range of additional business-
to-business markets and industries
Because of the scale of our system and its ease of adaptability, we believe our
eSpeed(sm) system has applications across a broad range of products, including
Internet-based marketplaces for a wide array of goods and services, particularly
those involving multiple buyers and sellers. As evidenced by the formation of
TradeSpark, we are well positioned to leverage the significant costs and efforts
that have been incurred developing our eSpeed(sm) system to quickly create
electronic markets in a wide range of products. We plan to serve additional
marketplaces, including global energy, bandwidth, telecommunications, chemicals,
electronic components, metals and other markets that can benefit from more
efficient, centralized, electronic trading facilities.
License our software to provide a broad range of market participants with an
outsourced solution for online distribution of their products
We provide a complete outsourced solution to our clients to enable them to
distribute their branded products to their customers through online offerings,
auctions, including private and reverse auctions, and request-for-quote
capabilities. We have a dedicated sales force that focuses on licensing our
software solutions to existing and new clients.
Pursue strategic alliances and acquisitions
We are continually exploring opportunities to maximize our growth, including
acquisitions, strategic alliances, joint ventures, private placements,
recapitalizations or any combination of the foregoing, to expand our vertical
markets and generate future growth. We are seeking to enter into joint ventures
and other strategic alliances to create liquidity in new and existing product
markets, and to attract new participants to trade those products. We have
employed this strategy in our recent formation of TradeSpark and our alliance
with Freedom.
OUR CLIENTS
Our clients in the Financial Vertical include banks, dealers, brokers and other
wholesale market participants, over 500 of which currently participate in our
electronic marketplaces, including the 25 largest bond trading firms in the
world, as identified by Euromoney Magazine. Our clients in the Energy Vertical
include energy trading companies, utilities and other wholesale market
-12-
participants, over 120 of which currently participate in our electronic
marketplace, including leading North American energy trading companies.
We are providing wholesale and retail investors access to the electronic
marketplaces and brokerage-related services supported by our eSpeed(sm) system.
We expect that a significant portion of our clients who use brokers will migrate
to fully electronic access over the coming years. We also expect to add clients
for our eSpeed Private Label(sm) product from a wide variety of industries. We
further intend to provide third parties with the infrastructure, including
systems administration, internal network support and operations and disaster
recovery services, that is critical to providing fully electronic marketplaces
in a wide variety of products. Other than Cantor, no client of ours accounts for
more than 10% of our revenues.
SALES, MARKETING AND CORPORATE DEVELOPMENT
We promote our electronic marketplaces and services to our existing and
prospective clients through a combination of sales, marketing and co-marketing
campaigns. We leverage our client relationships through a variety of direct
marketing and sales initiatives and build and enhance our brand image through
marketing campaigns targeted at a diverse audience, including traders, potential
partners and the investor and press communities. We market to our existing and
prospective retail clients through a variety of co-marketing/co- branding
initiatives with our online partners. We have designed our sales and marketing
efforts to promote brand awareness and educate our audience regarding the nature
of our electronic marketplaces, products and services and the advantages
associated with the automation of trading activities. We have a team of over 60
sales and marketing personnel globally.
Additionally, our senior management and our corporate development staff actively
work to establish strategic relationships, develop new markets for our
technology and structure and execute investments and acquisitions. They promote
eSpeed at conferences, conventions, events and speaking engagements that advance
both our technology and our brand name. In many cases, these engagements are
focused within specific vertical markets that we intend to develop in the
future. All of these efforts are intended to enhance our image, profile and
profitability.
SOFTWARE DEVELOPMENT
We devote substantial efforts to the development and improvement of our
electronic marketplaces and licensed software products. We work with our clients
to identify their specific requirements and make modifications to our software,
network distribution systems and technologies that are responsive to those
needs. Our research and development efforts focus on internal development,
strategic partnering, acquisitions and licensing. We have approximately 400
technology professionals, of which 225 persons are software developers. Our
technology team's objective is to develop new products and services in order to
provide superior electronic marketplace solutions to our clients. We also focus
our efforts on enhancing our Internet interfaces to facilitate real-time markets
and comply with the standard Internet security protocol and future security
protocols in order to capitalize on the development of new commercial
marketplaces. We are continuing to develop new marketplaces and products using
our internally
-13-
developed application software. In addition, we have forged strategic alliances
with third-party independent software vendors through which we will work to
develop sophisticated, front-end applications and products.
COMPETITION
The development and operation of electronic marketplaces are evolving. As a
result, competition in these marketplaces is currently fragmented. We expect to
face competition from a number of different sources varying in size, business
objectives and strategy.
Our current and prospective competitors are numerous and include inter-dealer
brokerage firms, market data and information vendors, securities and futures
exchanges, electronic communications networks, crossing systems, consortia,
business-to-business marketplace infrastructure and software companies and niche
energy market and other commodity business-to-business Internet-based trading
systems.
The electronic marketplace solutions we provide to our clients enable them to
expand the range of services they provide to their ultimate customers, which are
also potential participants in our electronic marketplaces. We intend to
structure our relationships with our clients and conduct our operations to
mitigate the potential for this competition. We do not intend to use the access
to the customer base of our clients that we obtain in providing our electronic
marketplace solutions to compete with these clients in other product
transactions.
We believe our electronic marketplaces compete primarily on the basis of speed,
functionality, efficiency, price, system stability and ability to provide market
participants with access to liquidity.
OUR INTELLECTUAL PROPERTY
We have adopted a comprehensive intellectual property program to protect our
proprietary technology. We currently have licenses covering four of Cantor's
patents in the U.S. One patent relates to a data processing system and method
for electronically trading select items such as fixed income instruments. Two
patents relate to a fixed income portfolio index processor. One patent relates
to a system for shared remote access of multiple application programs by one or
more computers. Foreign counterpart applications for some of these U.S. patents
have been filed. The licenses are exclusive, except in the event that we do not
seek to or are unable to provide to Cantor any requested services covered by the
patents and Cantor elects not to require us to do so.
We also have an agreement to license several pending U.S. patent applications
relating to various other aspects of our electronic trading systems, including
both functional and design aspects. We have filed a number of patent
applications to further protect our proprietary technology and innovations in
the past six months.
-14-
We cannot at this time determine the significance of any of the foregoing
patents, or future patents, if issued, to our business. We can give no assurance
that any of the foregoing patents is valid and enforceable, or that any of these
patents would not be infringed by a third party competing or seeking to compete
with our business.
EMPLOYEES
As of December 31, 2000, we had 493 employees, five of whom are our executive
officers. None of these employees is represented by a union. We believe that we
have good relations with our employees.
RISK FACTORS
In addition to the other information in this Report, the following risk
factors should be considered carefully in evaluating us and our business.
RISKS RELATED TO OUR BUSINESS
Because we have a limited operating history, you may not be able to accurately
evaluate us.
We have had limited operations to date and, as a result, we have a limited
operating history upon which to evaluate the merits of investing in our Class A
common stock. As an early stage company, we are subject to risks, expenses and
difficulties associated with implementing our business plan that are not
typically encountered by more mature companies. In particular, our prospects are
subject to risks, expenses and uncertainties encountered by companies in the new
and rapidly evolving market for electronic commerce products and services. These
risks include our failure or inability to:
o provide services to our clients that are reliable and cost-effective;
o expand our sales structure and marketing programs;
o increase awareness of our brand or market positioning;
o respond to technological developments or service offerings by competitors;
and
o expand into other non-financial markets.
We may not be able to implement our business plan successfully, or at all.
We expect to continue to incur losses and generate negative cash flow from
operations.
Since our inception through December 31, 2000, we have sustained a cumulative
net loss of approximately $73.0 million. We expect that we will continue to
incur losses and generate negative cash flow from operations for at least the
first half of 2001 as we continue to develop
-15-
our systems and infrastructure and expand our brand recognition and client base
through increased marketing efforts.
If we do not expand the use of our electronic systems, or if our clients do not
use our marketplaces or services, our revenues and profitability will be
adversely affected.
The use of electronic marketplaces is relatively new. The success of our
business plan depends, in part, on our ability to maintain and expand the
network of brokers, dealers, banks and other financial institutions that use our
interactive electronic marketplaces. We cannot assure you that we will be able
to continue to expand our vertical marketplaces, or that we will be able to
retain the current participants in our marketplaces. None of our agreements with
market participants require them to use our electronic marketplaces.
If we are unable to enter into additional marketing and strategic alliances or
our current strategic alliances are not successful, we may not generate
increased trading in our electronic marketplaces.
We expect to continue to enter into strategic alliances with other market
participants, such as retail brokers, exchanges, energy companies, communication
companies, market makers, consortia, clearinghouses, major market participants
and technology companies, in order to increase client access to and use of our
electronic marketplaces. We cannot assure you that we will be able to continue
to enter into these strategic alliances on terms that are favorable to us, or at
all. In addition, we cannot assure you that our current strategic alliances will
be successful. The success of our current and future relationships will depend
on the amount of increased trading in our electronic marketplaces by the
customers of these strategic alliance partners. These arrangements may not
generate the expected number of new clients or increased trading volume we are
seeking.
To increase awareness of our electronic marketplaces, we may need to incur
significant marketing expenses.
To successfully execute our business plan, we must build awareness and
understanding of our electronic marketplace services, software products, brand
and the adaptability of our electronic marketplaces for non-financial vertical
markets. In order to build this awareness, our marketing efforts must succeed
and we must provide high quality services. These efforts may require us to incur
significant expenses. We cannot assure you that our marketing efforts will be
successful or that the allocation of funds to these marketing efforts will be
the most effective use of those funds.
If we experience computer systems failures or capacity constraints, our ability
to conduct our operations could be harmed.
We internally support and maintain many of our computer systems and networks.
Our failure to monitor or maintain these systems and networks or, if necessary,
to find a replacement for this
-16-
technology in a timely and cost- effective manner would have a material adverse
effect on our ability to conduct our operations.
We also rely and expect to rely on third parties for various computer and
communications systems, such as telephone companies, online service providers,
data processors, clearance organizations and software and hardware vendors. Our
systems, or those of our third-party providers, may fail or operate slowly,
causing one or more of the following:
o unanticipated disruptions in service to our clients;
o slower response times;
o delays in our clients' trade execution;
o failed settlement of trades;
o incomplete or inaccurate accounting, recording or processing of trades;
o financial losses;
o litigation or other client claims; and
o regulatory sanctions.
We cannot assure you that we will not experience systems failures from power or
telecommunications failure, acts of God or war, human error, natural disasters,
fire, power loss, sabotage, hardware or software malfunctions or defects,
computer viruses, intentional acts of vandalism and similar events. Any system
failure that causes an interruption in service or decreases the responsiveness
of our service, including failures caused by client error or misuse of our
systems, could damage our reputation, business and brand name.
If we do not effectively manage our growth, our existing personnel and systems
may be strained and our business may not operate efficiently.
In order to execute our business plan, we must grow significantly. This growth
will place significant strain on our personnel, management systems and
resources. We expect that the number of our employees, including technical and
management-level employees, may continue to increase for the foreseeable future.
We must continue to improve our operational and financial systems and managerial
controls and procedures, and we will need to continue to expand, train and
manage our technical workforce. We must also maintain close coordination among
our technical, compliance, accounting, finance, marketing and sales
organizations. We cannot assure you that we will manage our growth effectively,
and failure to do so could result in our business operating inefficiently.
-17-
We operate in a rapidly evolving business environment. If we are unable to adapt
our business effectively to keep pace with these changes, our operations will be
adversely affected.
The pace of change in our market is extremely rapid. Operating in such a
rapidly-changing business environment involves a high degree of risk. Our
success will depend on our ability to adapt effectively to these changing market
conditions.
If we are unable to keep up with rapid technological changes, we may not be able
to compete effectively.
To remain competitive, we must continue to enhance and improve the
responsiveness, functionality, accessibility and features of our proprietary
software, network distribution systems and technologies. The financial services
and e-commerce industries are characterized by rapid technological changes,
changes in use and client requirements and preferences, frequent product and
service introductions embodying new technologies and the emergence of new
industry standards and practices that could render our existing proprietary
technology and systems obsolete. Our success will depend, in part, on our
ability to:
o develop and license leading technologies useful in our business;
o enhance our existing services;
o develop new services and technologies that address the increasingly
sophisticated and varied needs of our existing and prospective clients; and
o respond to technological advances and emerging industry standards and
practices on a cost-effective and timely basis.
The development of proprietary electronic trading technology entails significant
technical, financial and business risks. Further, the adoption of new Internet,
networking or telecommunications technologies may require us to devote
substantial resources to modify and adapt our services. We cannot assure you
that we will successfully implement new technologies or adapt our proprietary
technology and transaction-processing systems to client requirements or emerging
industry standards. We cannot assure you that we will be able to respond in a
timely manner to changing market conditions or client requirements.
If we were to lose the services of members of management and employees who
possess specialized market knowledge and technology skills, we may not be able
to manage our operations effectively or develop new electronic marketplaces.
Our future success depends, in significant part, on the continued service of
Howard Lutnick, our Chairman and Chief Executive Officer, Frederick Varacchi,
our President and Chief Operating Officer, and our other executive officers and
managers and sales and technical personnel who possess extensive knowledge and
technology skills in our markets. We cannot assure you that we would be able to
find an appropriate replacement for Mr. Lutnick or Mr. Varacchi if the need
-18-
should arise. Any loss or interruption of Mr. Lutnick's or Mr. Varacchi's
services could result in our inability to manage our operations effectively
and/or develop new electronic marketplaces. We have not entered into employment
agreements with and we do not have "key person" life insurance policies on any
of our executive officers or other personnel. All of the members of our senior
management team are also officers, partners or key employees of Cantor. As a
result, they dedicate only a portion of their professional efforts to our
business and operations. We cannot assure you that the time these persons devote
to our business and operations in the future will be adequate and that we will
not experience an adverse effect on our operations due to the demands placed on
our management team by their other professional obligations. We intend to strive
to provide high quality services that will allow us to establish and maintain
long-term relationships with our clients. Our ability to do so will depend, in
large part, upon the individual employees who represent us in our dealings with
clients. The market for qualified programmers, technicians and sales persons is
extremely competitive and has grown more so in recent periods as electronic
commerce has experienced growth. We cannot assure you that we will be successful
in our efforts to recruit and retain the required personnel.
If Cantor or we are unable to protect the intellectual property rights we
license from Cantor or own, our ability to operate electronic marketplaces may
be materially adversely affected.
Our business is dependent on proprietary technology and other intellectual
property rights. We license our patented technology from Cantor. The license
arrangement is exclusive, except in the event that (1) we are unwilling to
provide to Cantor any requested services covered by the patents with respect to
a marketplace and Cantor elects not to require us to do so, or we are unable to
provide such services or (2) we do not exercise our right of first refusal to
provide to Cantor electronic brokerage services with respect to a marketplace,
in which case Cantor retains a limited right to use the patents and patent
applications solely in connection with the operation of that marketplace. We
cannot guarantee that the concepts which are the subject of the patents and
patent applications covered by the license from Cantor are patentable or that
issued patents are or will be valid and enforceable. Where patents are granted
in the U.S., we can give no assurance that equivalent patents will be granted in
Europe or elsewhere, as a result of differences in local laws affecting
patentability and validity. Moreover, we cannot guarantee that Cantor's issued
patents are valid and enforceable, or that third parties competing or intending
to compete with us will not infringe any of these patents. Despite precautions
we or Cantor has taken or may take to protect our intellectual property rights,
it is possible that third parties may copy or otherwise obtain and use our
proprietary technology without authorization. It is also possible that third
parties may independently develop technologies similar to ours. It may be
difficult for us to monitor unauthorized use of our proprietary technology and
intellectual property rights. We cannot assure you that the steps we have taken
will prevent misappropriation of our technology or intellectual property rights.
We use our eSpeed(sm) service mark for the services described herein and have
registered that service mark in a number of jurisdictions around the world.
Although several existing third-party registrations and applications for
trademarks and servicemarks consisting of designations similar to ours in
certain countries have come to light, they are for goods and services that are
of a different type from those being offered under our eSpeed(sm) service mark.
Although we are not
-19-
presently aware of any third-party objections to our use or registration of our
eSpeed(sm) service mark in these countries, and believe we could defend against
any third-party claims asserted in these countries, such registrations and
applications could potentially affect the registration, and/or limit our use, of
our eSpeed(sm) service mark in these countries, thereby requiring us to adopt
and use another service mark for our services in such countries.
If it becomes necessary to protect or defend our intellectual property rights,
we may have to resort to costly litigation.
We may have to resort to litigation to enforce our intellectual property rights,
protect our trade secrets, determine the validity and scope of the proprietary
rights of others or defend ourselves from claims of infringement, invalidity or
unenforceability. We may incur substantial costs and diversion of resources as a
result of litigation, even if we win. In the event we do not win, we may have to
enter into royalty or licensing agreements. We cannot assure you that an
agreement would be available to us on reasonable terms, if at all.
If our software licenses from third parties are terminated, our ability to
operate our business may be materially adversely affected.
We license software from third parties, much of which is integral to our systems
and our business. The licenses are terminable if we breach our obligations under
the license agreements. If any of these relationships were terminated or if any
of these third parties were to cease doing business, we may be forced to spend
significant time and money to replace the licensed software. However, we cannot
assure you that the necessary replacements will be available on reasonable
terms, if at all.
If the strength of our domain names is diluted, the value of our proprietary
rights may decrease.
We own many Internet domain names, including "www.espeed.com." The regulation of
domain names in the U.S. and in foreign countries may change and the strength of
our names could be diluted. We may not be able to prevent third parties from
acquiring domain names that infringe or otherwise decrease the value of our
trademarks and other proprietary rights.
If we infringe on patent rights or copyrights of others, we could become
involved in costly litigation.
Patents or copyrights of third parties may have an important bearing on our
ability to offer certain of our products and services. We cannot assure you that
we are or will be aware of all patents or copyrights containing claims that may
pose a risk of infringement by our products and services. In addition, patent
applications in the U.S. are generally confidential until a patent is issued. As
a result, we cannot evaluate the extent to which our products and services may
be covered or asserted to be covered by claims contained in pending patent
applications. In general, if one or more of our products or services were to
infringe patents held by others, we may be required to stop developing or
marketing the products or services, to obtain licenses to develop
-20-
and market the services from the holders of the patents or to redesign the
products or services in such a way as to avoid infringing on the patent claims,
which could limit the manner in which we conduct our operations.
Due to intense competition, our market share and financial performance could
suffer.
The electronic trading and Internet-based financial and non-financial services
markets are highly competitive and many of our competitors are more established
and have greater financial resources than us. We expect that competition will
intensify in the future. Many of our competitors also have greater market
presence, engineering and marketing capabilities and technological and personnel
resources than we do. As a result, as compared to us, our competitors may:
o develop and expand their network infrastructures and service offerings more
efficiently or more quickly;
o adapt more swiftly to new or emerging technologies and changes in client
requirements;
o take advantage of acquisitions and other opportunities more effectively;
o devote greater resources to the marketing and sale of their products and
services; and
o leverage existing relationships with clients and strategic partners more
effectively or exploit more recognized brand names to market and sell their
services.
Our current and prospective competitors are numerous and include interdealer
brokerage firms, technology companies and market data and information vendors,
securities and futures exchanges, electronic communications networks, crossing
systems, software companies, consortia, business-to-business marketplace
infrastructure companies and niche market energy and other commodity business-
to-business Internet-based trading systems.
We believe that we may also face competition from large computer software
companies, media and technology companies and some securities brokerage firms
that are currently our clients. In addition, Market Data Corporation, which is
controlled by Iris Cantor and Rodney Fisher, has technology for electronic
trading systems that, if provided to our competitors in the wholesale market,
will be of substantial assistance to them in competing with us. Iris Cantor and
Rodney Fisher are limited partners of Cantor.
The number of businesses providing Internet-based financial and non-financial
services is rapidly growing, and other companies, in addition to those named
above, have entered into or are forming joint ventures or consortia to provide
services similar to those provided by us. Others may acquire the capabilities
necessary to compete with us through acquisitions.
-21-
In the event we extend the application of our Interactive Matching(sm)
technology to conducting or facilitating auctions of consumer goods and services
over the Internet, we expect to compete with both online and traditional sellers
of these products and services. The market for selling products and services
over the Internet is new, rapidly evolving and intensely competitive. Current
and new competitors can launch new sites at a relatively low cost. We expect we
will potentially compete with a variety of companies with respect to each
product or service we offer. We may face competition from a number of other
large Internet companies that have expertise in developing online commerce and
in facilitating Internet traffic, which could choose to compete with us either
directly or indirectly through affiliations with other e-commerce companies. We
cannot assure you that we will be able to compete effectively with such
companies.
Because some of our clients have developed electronic trading networks, we
compete with them in aspects of our business.
Consortia owned by some of our clients have developed electronic trading
networks. Such consortia compete with us and our electronic marketplaces in some
areas of our business and may compete with us in other areas in the future.
If we experience low trading volume in products, our profitability could suffer.
We have experienced significant fluctuations in the aggregate trading volume of
products being traded in our marketplaces. We expect that fluctuations in the
trading volume of products traded in our marketplaces will occur in the future
from time to time and have a direct impact on our future operating results. This
may cause significant fluctuations in our profitability when the trading volumes
are low.
If adverse economic and political conditions occur, substantial declines in the
U.S. and global financial services markets may result and our profitability
could suffer.
The global financial services business is, by its nature, risky and volatile and
is directly affected by many national and international factors that are beyond
our control. Any one of these factors may cause a substantial decline in the
U.S. and global financial services markets, resulting in reduced trading volume
and turnover. These events could have a material adverse effect on our
profitability. These factors include:
o economic and political conditions in the U.S. and elsewhere in the world;
o concerns over inflation and wavering institutional/consumer confidence
levels;
o the availability of cash for investment by mutual funds and other wholesale
and retail investors;
o fluctuating interest and exchange rates;
o legislative and regulatory changes; and
-22-
o currency values.
Because there is less U.S. Treasury debt outstanding, trading in our
marketplaces may decline.
Our business is highly dependent upon the volume of bonds being traded through
our eSpeed(sm) system. As the U.S. reduces its outstanding Treasury debt, there
may be a decline in the volume of U.S. Treasury securities traded through our
eSpeed(sm) system.
Because we expect to continue to expand our operations outside North America, we
may face special economic and regulatory challenges that we may not be able to
meet.
We operate electronic marketplaces throughout Europe and Asia and we plan to
further expand our operations throughout these regions and other regions in the
future. There are certain risks inherent in doing business in international
markets, particularly in the regulated brokerage industry. These risks include:
o less developed automation in exchanges, depositories and national clearing
systems;
o unexpected changes in regulatory requirements, tariffs and other trade
barriers;
o difficulties in staffing and managing foreign operations;
o fluctuations in exchange rates;
o reduced protection for intellectual property rights;
o seasonal reductions in business activity during the summer months; and
o potentially adverse tax consequences.
We are required to comply with the laws and regulations of foreign governmental
and regulatory authorities of each country in which we conduct business. These
may include laws, rules and regulations relating to any aspect of the securities
business, including sales methods, capital structure, record-keeping,
broker-dealer and employee registration requirements and the conduct of
directors, officers and employees. Any failure to develop effective compliance
and reporting systems could result in regulatory penalties in the applicable
jurisdiction.
The growth of the Internet as a means of conducting international business has
also raised many legal issues regarding, among other things, the circumstances
in which countries or other jurisdictions have the right to regulate Internet
services that may be available to their citizens from service providers located
elsewhere. In many cases, there are no laws, regulations, judicial decisions or
governmental interpretations that clearly resolve these issues. This uncertainty
may adversely affect our ability to use the Internet to expand our international
operations, and creates
-23-
the risk that we could be subject to disciplinary sanctions or other penalties
for failure to comply with applicable laws or regulations.
As we enter new markets, we may not be able to successfully adapt our technology
and marketing strategy for use in those markets.
We are leveraging our eSpeed(sm) system to enter new markets. We cannot assure
you that we will be able to successfully adapt our proprietary software,
electronic distribution networks and technology for use in other markets. Even
if we do adapt our software, networks and technology, we cannot assure you that
we will be able to attract clients and compete successfully in any such new
markets. We cannot assure you that our marketing efforts or our pursuit of any
of these opportunities will be successful. If these efforts are not successful,
we may realize less than expected earnings, which in turn could result in a
decrease in the market value of our Class A common stock. Furthermore, these
efforts may divert management attention or inefficiently utilize our resources.
We intend to create electronic marketplaces for many vertical markets and extend
into others, but there is no guarantee that we will be able to do so.
If we acquire other companies, we may not be able to integrate their operations
effectively.
Our business strategy contemplates expansion through the acquisition of
exchanges and other companies providing services or having technologies and
operations that are complementary to ours. Acquisitions entail numerous risks,
including:
o difficulties in the assimilation of acquired operations and products;
o diversion of management's attention from other business concerns;
o assumption of unknown material liabilities of acquired companies;
o amortization of acquired intangible assets, which would reduce future
reported earnings; and
o potential loss of clients or key employees of acquired companies.
We cannot assure you that we will be able to integrate successfully any
operations, personnel, services or products that might be acquired in the
future, and our failure to do so could adversely affect our profitability and
the value of our Class A common stock.
Because our business is subject to extensive government and other regulation, we
may face restrictions with respect to the way we conduct our operations.
The Securities and Exchange Commission, NASD Regulation, Inc., Commodity Futures
Trading Commission and other agencies extensively regulate the U.S. financial
industry. Our international operations may become subject to similar regulations
in specific jurisdictions. In addition, our activities in the Energy Vertical
may be subject to regulation by the Federal Energy
-24-
Regulatory Commission under the Federal Power Act. Certain of our U.S.
subsidiaries are required to comply strictly with the rules and regulations of
these agencies. As a matter of public policy, these regulatory bodies are
responsible for safeguarding the integrity of the securities and other financial
markets and protecting the interests of investors in those markets. Most aspects
of our U.S. broker-dealer subsidiaries are highly regulated, including:
o the way we deal with our clients;
o our capital requirements;
o our financial and Securities and Exchange Commission reporting practices;
o required record keeping and record retention procedures;
o the licensing of our employees; and
o the conduct of our directors, officers, employees and affiliates.
If we fail to comply with any of these laws, rules or regulations, we may be
subject to censure, fines, cease-and-desist orders, suspension of our business,
suspensions of personnel or other sanctions, including revocation of
registration as a broker-dealer. Changes in laws or regulations or in
governmental policies could have a material adverse effect on the conduct of our
business. These agencies have broad powers to investigate and enforce compliance
and punish non-compliance with their rules and regulations. We cannot assure you
that we and/or our directors, officers and employees will be able to fully
comply with, and will not be subject to, claims or actions by these agencies.
The products and services we offer through our electronic marketplaces are
likely to be regulated by federal, state and foreign governments. Our ability to
provide such services will be affected by these regulations. In addition, as we
expand our business to other vertical markets, it is likely that we will be
subject to additional federal, state and foreign regulations. The implementation
of unfavorable regulations or unfavorable interpretations of existing
regulations by courts or regulatory bodies could require us to incur significant
compliance costs or cause the development of affected markets to become
impractical.
Because we are subject to risks associated with net capital requirements, we may
not be able to engage in operations that require significant capital.
The Securities and Exchange Commission, Commodity Futures Trading Commission and
various other regulatory agencies have stringent rules and regulations with
respect to the maintenance of specific levels of net capital by regulated
companies. Net capital, which is assets minus liabilities, is the net worth of a
broker or dealer, less deductions for certain types of assets. If a firm fails
to maintain the required net capital, it may be subject to suspension or
revocation of registration by the Securities and Exchange Commission or
Commodity Futures Trading Commission, and suspension or expulsion by these
regulators could ultimately lead to the firm's
-25-
liquidation. If these net capital rules are changed or expanded, or if there is
an unusually large charge against net capital, operations that require the
intensive use of capital would be limited. Also, our ability to withdraw capital
from broker- dealer subsidiaries could be restricted, which in turn could limit
our ability to pay dividends, repay debt and redeem or purchase shares of our
outstanding stock. A large operating loss or charge against net capital could
adversely affect our ability to expand or even maintain our present levels of
business, which could have a material adverse effect on our business. In
addition, we may become subject to net capital requirements in foreign
jurisdictions.
Because we offer access to some of our marketplaces to online retail brokers and
others, we are subject to risks relating to uncertainty in the regulation of the
Internet.
There are currently few laws or regulations that specifically regulate
communications or commerce on the Internet. However, laws and regulations may be
adopted in the future that address issues such as user privacy, pricing,
taxation and the characteristics and quality of products and services. For
example, the Telecommunications Act sought to prohibit transmitting various
types of information and content over the Internet. Several telecommunications
companies have petitioned the Federal Communications Commission to regulate
Internet service providers and other online service providers in a manner
similar to long distance telephone carriers and to impose access fees on those
companies. This could increase the cost of transmitting data over the Internet.
Moreover, it may take years to determine the extent to which existing laws
relating to issues such as property ownership, libel and personal privacy are
applicable to the Internet. Any new laws or regulations relating to the Internet
could adversely affect our business.
Because brokerage services involve substantial risks of liability, we may become
subject to risks of litigation.
Many aspects of our business, and the businesses of our clients, involve
substantial risks of liability. Dissatisfied clients frequently make claims
regarding quality of trade execution, improperly settled trades, mismanagement
or even fraud against their service providers. We and our clients may become
subject to these claims as the result of failures or malfunctions of systems and
services provided by us and third parties may seek recourse against us. We could
incur significant legal expenses defending claims, even those without merit. An
adverse resolution of any lawsuits or claims against us could result in our
obligation to pay substantial damages.
In addition, we are subject to legal proceedings and claims against Cantor and
its affiliates as a result of the transactions surrounding our formation.
Although Cantor has agreed to indemnify us against claims or liabilities arising
from our assets or operations prior to the formation transactions, we cannot
assure you that such claims or litigation will not harm our business.
If we cannot deter employee misconduct, we may be harmed.
-26-
There have been a number of highly publicized cases involving fraud or other
misconduct by employees in the financial services industry in recent years, and
we run the risk that employee misconduct could occur. Misconduct by employees
could include hiding unauthorized or unsuccessful activities from us. In either
case, this type of conduct could result in unknown and unmanaged risks or
losses. Employee misconduct could also involve the improper use of confidential
information, which could result in regulatory sanctions and serious reputational
harm. It is not always possible to deter employee misconduct, and the
precautions we take to prevent and detect this activity may not be effective in
all cases.
Because our business is developing, we cannot predict our future capital needs
or our ability to secure additional financing.
We anticipate, based on management's experience and current industry trends,
that our existing cash resources will be sufficient to meet our anticipated
working capital and capital expenditure requirements for at least the next 12
months. However, we believe that there are a significant number of capital
intensive opportunities for us to maximize our growth and strategic position,
including, among other things, acquisitions, joint ventures, strategic alliances
or other investments. As a result, we may need to raise additional funds to:
o increase the regulatory net capital necessary to support our operations;
o support more rapid growth in our business;
o develop new or enhanced services and products;
o respond to competitive pressures;
o acquire complementary technologies;
o enter into strategic alliances;
o acquire companies with marketplace or other specific domain expertise; and
o respond to unanticipated requirements.
We cannot assure you that we will be able to obtain additional financing when
needed on terms that are acceptable, if at all.
The market price of our Class A common stock may fluctuate and future sales of
our shares could adversely affect the market price of our Class A common stock.
The market price of our Class A common stock may fluctuate widely, depending
upon many factors, including our perceived prospects and the prospects of the
financial and other business-to-business marketplaces in general, differences
between our actual financial and operating results and those expected by
investors and analysts, changes in analysts' recommendations or
-27-
projections, seasonality, changes in general valuations for Internet and
e-commerce-related companies, changes in general economic or market conditions
and broad market fluctuations.
Future sales of our shares also could adversely affect the market price of our
Class A common stock. If our existing stockholders sell a large number of
shares, or if we issue a large number of shares of our common stock in
connection with future acquisitions, strategic alliances or otherwise, the
market price of our Class A common stock could decline significantly. Moreover,
the perception in the public market that these stockholders might sell shares of
Class A common stock could depress the market price of our Class A common stock.
We have registered under the Securities Act 10,630,000 shares of our Class A
common stock, which are reserved for issuance upon exercise of options granted
under our stock option plan. Since our board of directors has determined,
subject to stockholder approval, to increase the amount of shares available for
issuance under our stock option plan, we will likely register additional shares.
In addition, if we increase our total outstanding shares of common stock, we
will register additional shares of Class A common stock so that the stock
available for issuance under our stock option plan will be registered. Once
registered, these shares can be sold in the public market upon issuance, subject
to restrictions under the securities laws applicable to resales by affiliates.
In addition, we have registered under the Securities Act 425,000 shares of our
Class A common stock issuable under our stock purchase plan. We also will be
issuing new shares of our Class A common stock in connection with our matching
program for our 401(k) plan. The maximum number of new shares we will be issuing
in connection with our 401(k) plan is $3,000 worth per employee per year.
On June 9, 2001, approximately 2.9 million shares of our Class A common stock
that have been distributed to partners of Cantor as part of a deferred stock
distribution by Cantor will become eligible for sale in the public market,
subject to volume, manner of sale and other applicable restrictions, under Rule
144. Approximately 750,000 of these shares are subject to a 90 day lock-up
agreement with the underwriters of a proposed public offering by us and certain
selling stockholders of shares of our Class A common stock.
In addition, we have issued shares of our Class A common stock, warrants and
convertible preferred stock and have granted registration rights in connection
with certain of our strategic alliances. See "Item 13. Certain Relationships and
Related Transactions."
RISKS RELATED TO OUR RELATIONSHIP WITH CANTOR
Because we currently depend on Cantor's business, events which adversely affect
Cantor's business may have a material adverse effect on our revenues.
Since inception, we have recognized substantially all of our revenues in
connection with our relationship with Cantor. Consequently, any events which
adversely affect Cantor's business or operating results could have a material
adverse effect on our most significant source of revenues.
-28-
We are a general creditor of Cantor to the extent that there are transaction
revenues and system service fees owing to us from Cantor. Events that adversely
affect Cantor's financial position and ability to remit our share of transaction
revenues and system service fees could have a material adverse effect on our
revenues.
Conflicts of interest and competition with Cantor may arise.
Various conflicts of interest between us and Cantor may arise in the future in a
number of areas relating to our past and ongoing relationships, including
competitive business activities, potential acquisitions of businesses or
properties, the election of new directors, payment of dividends, incurrence of
indebtedness, tax matters, financial commitments, marketing functions, indemnity
arrangements, service arrangements, issuances of our capital stock, sales or
distributions by Cantor of its shares of our common stock and the exercise by
Cantor of control over our management and affairs. Our Joint Services Agreement
with Cantor provides that, in some circumstances, Cantor can unilaterally
determine the commissions that will be charged to clients for effecting trades
in marketplaces in which we collaborate with Cantor. The determination of the
nature of commissions charged to clients does not affect the allocation of
revenues that Cantor and we share with respect to those transactions. However,
in circumstances in which Cantor determines to charge clients lower commissions,
the amount that we receive in respect of our share of the commissions will be
correspondingly decreased. A majority of our directors and officers also serve
as directors and/or officers of Cantor. Simultaneous service as an eSpeed
director or officer and service as a director or officer, or status as a
partner, of Cantor could create, or appear to create, potential conflicts of
interest when such directors, officers and/or partners are faced with decisions
that could have different implications for us and for Cantor. Mr. Lutnick, our
Chairman and Chief Executive Officer, is the sole stockholder of the managing
general partner of Cantor. As a result, Mr. Lutnick controls Cantor. As of
February 8, 2001, Mr. Lutnick controlled approximately 95.3% of the combined
voting power of all classes of our voting stock. Mr. Lutnick's simultaneous
service as our Chairman and Chief Executive Officer and his control of Cantor
could create or appear to create potential conflicts of interest when Mr.
Lutnick is faced with decisions that could have different implications for us
and for Cantor.
Because our Joint Services Agreement with Cantor has a perpetual term and
contains non-competition provisions and restrictions on our ability to pursue
strategic transactions, this agreement may become burdensome to our business.
Although Cantor has agreed, subject to certain conditions, not to compete with
us in providing electronic brokerage services, Cantor is currently engaged in
securities transaction and other financial instruments execution and processing
operations and other activities that are related to the electronic trading
services we provide. Our Joint Services Agreement obligates us to perform
technology support and other services for Cantor at cost, whether or not related
to our electronic brokerage services, sets forth the ongoing revenue sharing
arrangements between Cantor and us and subjects us and Cantor to non-competition
obligations. The Joint Services Agreement precludes us from entering into lines
of business in which Cantor now or in the future may engage, or providing, or
assisting any third party in providing, voice-assisted brokerage services,
clearance, settlement and fulfillment services and related services, except
under limited
-29-
circumstances. Although we believe Cantor has no plans to form, acquire or
commence any other operations similar to ours, the Joint Services Agreement
permits Cantor to perform, in limited circumstances, electronic brokerage
operations. In addition, the Joint Services Agreement imposes limitations on our
ability to pursue strategic alliances, joint ventures, partnerships, business
combinations, acquisitions and similar transactions. Because the Joint Services
Agreement has a perpetual term, even in the event of a breach by one of the
parties, and does not provide for modification under its terms, this agreement
may become burdensome for us, may distract us from focusing on our internal
operations, may deter or discourage a takeover of our company and may limit our
ability to expand our operations.
Because agreements between us and Cantor are not the result of arm's-length
negotiations, we may receive lower commissions from, and pay higher service fees
to, Cantor than we would with respect to third party service providers.
In connection with the formation transactions, we entered into Assignment and
Assumption Agreements, an Administrative Services Agreement, a Joint Services
Agreement and several other agreements with Cantor relating to the provision of
services to each other and third parties. These agreements are not the result of
arm's-length negotiations because Cantor owns and controls us. As a result, the
prices charged to us or by us for services provided under the agreements may be
higher or lower than prices that may be charged by third parties and the terms
of these agreements may be generally less favorable to us than those that we
could have negotiated with third parties.
Because we depend on services and access to operating assets provided by third
parties to Cantor, we may not have recourse against those third parties.
Many of the assets and services provided by Cantor under the terms of the
Administrative Services Agreement are leased or provided to Cantor by
third-party vendors. As a result, in the event of a dispute between Cantor and a
third-party vendor, we could lose access to, or the right to use, as applicable,
office space, personnel, corporate services and operating assets. In such a
case, we would have no recourse with respect to the third-party vendor. Our
inability to use these services and operating assets for any reason, including
any termination of the Administrative Services Agreement between us and Cantor
or the agreements between Cantor and third-party vendors, could result in
serious interruptions of our operations.
Our reputation may be affected by actions taken by Cantor and entities that are
related to Cantor.
Cantor currently is our most significant client. Cantor holds direct and
indirect ownership and management interests in numerous other entities that
engage in a broad range of financial services and securities-related activities.
Actions taken by, and events involving, Cantor or these related companies which
are perceived negatively by the securities markets, or the public generally,
could have a material adverse effect on us and could affect the price of our
Class A common stock. In addition, events which negatively affect the financial
condition of Cantor may negatively affect us. These events could cause Cantor to
lose clients that may trade in our
-30-
marketplaces, could impair Cantor's ability to perform its obligations under the
Joint Services Agreement, the Administrative Services Agreement and other
agreements Cantor enters into with us and could cause Cantor to liquidate
investments, including by selling or otherwise transferring shares of our common
stock.
If we become subject to litigation and other legal proceedings, we may be
harmed.
From time to time, we and Cantor may become involved in litigation and other
legal proceedings relating to claims arising from our and their operations in
the normal course of business. Cantor is currently subject to a number of legal
proceedings that could affect us. We cannot assure you that these or other
litigation or legal proceedings will not materially affect our ability to
conduct our business in the manner that we expect or otherwise adversely affect
us. See note 4 of the notes to our consolidated financial statements.
RISKS RELATED TO E-COMMERCE AND THE INTERNET
If electronic marketplaces do not continue to grow, we will not be able to
achieve our business objectives.
The success of our business plan depends on our ability to create interactive
electronic marketplaces for a wide range of products. Historically, securities
and commodities markets operated through open outcry formats which have recently
begun to be supplanted by new systems that match buyers and sellers
electronically. The energy markets in which we participate through TradeSpark
operate through phone-based and bulletin-board formats and have recently begun
to transact electronically. The utilization of our products and services depends
on the continued acceptance, adoption and growth of electronic markets. We
cannot assure you that the growth and acceptance of the use of electronic
markets will continue.
If e-commerce and Internet usage does not continue to grow, we will not be able
to achieve our business objectives.
Our strategic and financial objectives would be adversely impacted if e-
commerce adoption and usage does not continue to grow. Business-to-business use
of the Internet as a medium of commerce is a recent phenomenon and is subject to
a high level of uncertainty. Internet usage may be inhibited for a number of
reasons, including:
o access costs;
o inadequate network infrastructure;
o security concerns;
o uncertainty of legal, regulatory and tax issues concerning the use of the
Internet;
o concerns regarding ease of use, accessibility and reliability;
-31-
o inconsistent quality of service; and
o lack of availability of cost-effective, high-speed service.
If Internet usage grows, the Internet infrastructure may not be able to support
the demands placed on it, or the Internet's performance and reliability may
decline. Similarly, Web sites have experienced interruptions in their service as
a result of outages and other delays occurring throughout the Internet network
infrastructure. If these outages or delays occur frequently, use of the Internet
as a commercial or business medium could grow more slowly or decline. Even if
Internet usage continues to grow, online trading in the wholesale securities
markets, and in particular the fixed income securities and futures markets, may
not be accepted by our clients. This could negatively affect the growth of our
business.
Our networks and those of our third-party service providers may be vulnerable to
security risks, which could make our clients hesitant to use our electronic
marketplaces.
We expect the secure transmission of confidential information over public
networks to be a critical element of our operations. Our networks and those of
our third-party service providers, including Cantor and associated clearing
corporations, and our clients may be vulnerable to unauthorized access, computer
viruses and other security problems. Persons who circumvent security measures
could wrongfully use our information or cause interruptions or malfunctions in
our operations, which could make our clients hesitant to use our electronic
marketplaces. We may be required to expend significant resources to protect
against the threat of security breaches or to alleviate problems, including
reputational harm and litigation, caused by any breaches. Although we intend to
continue to implement industry-standard security measures, we cannot assure you
that those measures will be sufficient.
RISKS RELATED TO OUR CAPITAL STRUCTURE
Because the voting control of our common stock is concentrated among the holders
of our Class B common stock, the market price of our Class A common stock may be
adversely affected by disparate voting rights.
As of February 8, 2001, Cantor beneficially owned approximately 95.2% of the
combined voting power of all classes of our voting stock. As long as Cantor
beneficially owns a majority of the combined voting power of our common stock,
it will have the ability, without the consent of the public stockholders, to
elect all of the members of our board of directors and to control our management
and affairs. In addition, it will be able to determine the outcome of matters
submitted to a vote of our stockholders for approval and will be able to cause
or prevent a change in control of our company. In certain circumstances, the
shares of our Class B common stock issued to Cantor upon consummation of the
formation transactions may be transferred without conversion to our Class A
common stock.
-32-
The holders of our Class A common stock and Class B common stock have
substantially identical rights, except that holders of our Class A common stock
are entitled to one vote per share, while holders of our Class B common stock
are entitled to 10 votes per share on all matters to be voted on by stockholders
in general. This differential in the voting rights and our ability to issue
additional Class B common stock could adversely affect the market price of our
Class A common stock.
Delaware law and our charter may make a takeover of our company more difficult
and dilute your percentage of ownership of our common stock.
Provisions of Delaware law, such as its business combination statute, may have
the effect of delaying, deferring or preventing a change in control of our
company. In addition, our Amended and Restated Certificate of Incorporation
authorizes the issuance of preferred stock, which our board of directors can
create and issue without prior stockholder approval and with rights senior to
those of our common stock, as well as additional shares of our Class B common
stock and warrants to purchase our common stock. Any such issuances would make a
takeover of our company more difficult and may dilute your percentage ownership
of our common stock. Our Amended and Restated Certificate of Incorporation and
our Second Amended and Restated By-Laws include provisions which restrict the
ability of our stockholders to take action by written consent and provide for
advance notice for stockholder proposals and director nominations. These
provisions may have the effect of delaying or preventing changes of control or
management of our company, even if such transactions would have significant
benefits to our stockholders. As a result, these provisions could limit the
price some investors might be willing to pay in the future for shares of our
Class A common stock.
Delaware law may protect decisions of our board of directors that have a
different effect on holders of our Class A and Class B common stock.
Stockholders may not be able to challenge decisions that have an adverse effect
upon holders of our Class A common stock if our board of directors acts in a
disinterested, informed manner with respect to these decisions, in good faith
and in the belief that it is acting in the best interests of our stockholders.
Delaware law generally provides that a board of directors owes an equal duty to
all stockholders, regardless of class or series, and does not have separate or
additional duties to either group of stockholders, subject to applicable
provisions set forth in a company's charter.
Item 2. Properties
We have offices in the U.S., Europe, Asia and Canada. Our principal executive
offices are located at One World Trade Center, New York, New York. Our principal
executive offices occupy approximately 60,000 square feet of leased space, which
we occupy pursuant to the Administrative Services Agreement with Cantor. Our
right to use this space expires at the time that Cantor's lease expires in 2012.
We will pay Cantor approximately $2.0 million annually for use of this space.
Our largest presence outside of New York is in London, where we have the right
to use approximately 15,000 square feet of Cantor's existing office space. Our
right to use
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this space expires at the earlier of (1) the time that Cantor's lease expires in
2016 or (2) when Cantor ceases to be an affiliate of ours and Cantor asks us to
vacate. We will pay Cantor approximately $1.9 million annually for use of this
space. We believe our facilities are adequate for our reasonably foreseeable
future needs. Additionally, we occupy approximately 18,750 square feet of space
in our Concurrent Computing Center in Rochelle Park, New Jersey. We will pay
Cantor approximately $900,000 annually for the use of this space. We believe our
facilities are adequate for the forseeable future.
-34-
ITEM 3. LEGAL PROCEEDINGS
The information required by this Item is incorporated by reference to
note 4 of the notes to our consolidated financial statements beginning on page
61 of this report.
-35-
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
(a) The Company held its 2000 Annual Meeting of Stockholders (the Annual
Meeting) on October 26, 2000.
(b) The following directors were elected at the Annual Meeting and they are
our only directors: Howard W. Lutnick, Frederick T. Varacchi, Douglas B.
Gardner, Richard C. Breeden, Larry R. Carter, William J. Moran and Joseph P.
Shea.
(c) Set forth below is a description of the matters voted upon at the Annual
Meeting, including the number of votes cast for, as well as the number of votes
withheld and broker non-votes, as to each nominee for election as a director and
as to the approval of the Additional Investment Right described in 2. below.
1. Election of seven directors, each to serve until the next Annual Meeting of
Stockholders and until his successor is duly elected and qualified.
Name of WITHHOLD BROKER
Candidate FOR AUTHORITY NON-VOTES
- ------------ ----------- --------- ---------
Howard W. Lutnick 369,365,533 47,431 0
Frederick T. Varacchi 369,365,533 47,431 0
Douglas B. Gardner 369,365,533 47,431 0
Richard C. Breeden 369,365,533 47,431 0
Larry R. Carter 369,365,533 47,431 0
William J. Moran 369,365,533 47,431 0
Joseph P. Shea 369,365,533 47,431 0
2. Approval of the Additional Investment Right, which will entitle each of
Dynegy Inc. and Williams Energy Marketing & Trading Company to invest $25
million in shares of our Class A common stock at a 10% discount four times in
connection with an investment by each of them of $2.5 million in each of four
business ventures in which Dynegy, Williams, other market participants and we
will establish marketplaces for electronic trading of such products as natural
gas liquids, petrochemicals, crude oil and bandwidth.
FOR AGAINST ABSTENTIONS BROKER NON-VOTES
- --------- ------- ----------- ----------------
366,627,165 10,428 5,918 2,769,413
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PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS
Price Range of Class A Common Stock
Our Class A common stock was initially offered to the public on December 10,
1999 at $22.00 per share. It has traded since that date on the Nasdaq National
Market under the symbol "ESPD." Through February 28, 2001, the high and low
sales prices for our Class A common stock, as reported by Nasdaq, were as
follows:
High Low
1999
Fourth Quarter (beginning December 10)..................................... $63.75 $30.00
2000
First Quarter.............................................................. 89.88 36.50
Second Quarter............................................................. 61.48 22.00
Third Quarter.............................................................. 49.25 20.00
Fourth Quarter............................................................. 30.00 13.25
2001
First Quarter (through February 28, 2001).................................. 34.75 13.63
On February 28, 2001, the last reported closing price of our Class A common
stock on the Nasdaq National Market was $25.1875 and there were approximately
482 holders of record of our Class A common stock and two holders of record of
our Class B common stock.
Dividend Policy
We intend to retain our future earnings, if any, to help finance the
growth and development of our business. We have never paid a cash dividend on
our common stock and we do not expect to pay any cash dividends on our common
stock in the foreseeable future.
In the event we decide to declare dividends on our common stock in the
future, such declaration will be subject to the discretion of our board of
directors. Our board of directors may take into account such matters as general
business conditions, our financial results, capital requirements, contractual,
legal and regulatory restrictions on the payment of dividends by us to our
stockholders or by our subsidiaries to us and any such other factors as our
board of directors may deem relevant.
-37-
Use of Proceeds of Initial Public Offering
The effective date of our registration statement (Registration No.
333-87475) filed on Form S-1 relating to our initial public offering of Class A
common stock was December 9, 1999. In our initial public offering, we sold
7,000,000 shares of Class A common stock at a price of $22.00 per share and
Cantor Fitzgerald Securities, the selling stockholder, sold 3,350,000 shares of
Class A common stock at a price of $22.00 per share. Our initial public offering
was managed on behalf of the underwriters by Warburg Dillon Read LLC, Hambrecht
& Quist, Thomas Weisel Partners LLC and Cantor Fitzgerald & Co. The offering
commenced on December 10, 1999 and closed on December 15, 1999. Proceeds to us
from our initial public offering, after deduction of the underwriting discounts
and commissions of approximately $10.0 million and offering costs of $4.4
million, totaled approximately $139.6 million. Of the $139.6 million raised,
approximately $5.8 million has been used to fund investments in various
entities, approximately $25.3 million has been used to acquire fixed assets and
to pay for the development of capitalized software and approximately $10.3
million has been used for other working capital purposes. The remaining $98.2
million has been invested in reverse repurchase agreements which are fully
collateralized by U.S. Government Securities held in a custodial account at a
third-party bank.
Of the amount of proceeds spent through December 31, 2000,
approximately $8.2 million has been paid to Cantor under the Administrative
Services Agreement between Cantor and us.
The occurrence of unforeseen events, opportunities or changed business
conditions, however, could cause us to use the net proceeds of our initial
public offering in a manner other than as described above.
-38-
ITEM 6. SELECTED FINANCIAL DATA
In the table below, we provide you with our selected historical financial data.
We have prepared this statement of operations and statement of financial
condition data using our consolidated financial statements for the period from
March 10, 1999 to December 31, 1999 and the year ended December 31, 2000. The
consolidated financial statements for these periods were audited by Deloitte &
Touche LLP, independent auditors. The following selected financial data should
be read in conjunction with "Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations" beginning on page 41 of this
Report and with our consolidated financial statements and the notes thereto
beginning on page 51 of this Report.
For the period from
March 10, 1999 to For the year ended
Statement of operations data: December 31, 1999 December 31, 2000
----------------- -----------------
(in thousands, except per share data)
Total revenues.............................. $38,189 $118,931
------- --------
Expenses:
Compensation and employee benefits 21,502 53,963
Occupancy and equipment..................... 10,293 21,561
Professional and consulting fees............ 5,149 13,036
Communications and client networks 3,355 4,589
Marketing................................... -- 8,285
Fulfillment services fees................... 3,528 27,904
Administrative fees paid to
affiliates.................................. 1,662 6,524
Non-cash business partner
securities(1)............................... -- 33,391
Options granted to Cantor
employees(2)................................ 2,850 --
Other....................................... 2,649 9,684
----- -----
Total operating expenses.................... 50,988 178,937
------ -------
Loss before (benefit) provision for
income taxes................................ (12,799) (60,006)
Income tax (benefit) provision.............. (212) 406
----- ---
Net loss.................................... (12,587) (60,412)
======== ========
Basic and diluted net loss per
share....................................... $(0.28) $(1.17)
======= =======
Weighted average shares of common
stock outstanding........................... 44,495 51,483
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December 31, 2000
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Statement of financial condition:
(in thousands)
Cash and cash equivalents...................................... $122,164
Total assets................................................... 155,122
Total liabilities.............................................. 22,864
Total stockholders' equity..................................... 132,258
(1) Includes (i) warrants to purchase 666,666 shares of our Class A common
stock at an exercise price of $35.20 per share issued by us to each of
Dynegy and Williams, as a result of which we recorded a non-cash charge
against earnings of $29,805,305 to reflect the value of the warrants; (ii)
28,374 shares of Class A common stock issued by us to the shareholders of
MPI in connection with Cantor's acquisition of MPI's brokerage business, as
a result of which we recorded a non-cash charge against earnings of
$1,350,000 to reflect the value of the stock; and (iii) 8,000,000 shares of
convertible preferred stock issued by us in connection with our investment
in TradeSpark, as a result of which we recorded a non-cash charge against
earnings of $2,235,200 to reflect the value of 80,000 shares of our Class A
common stock issuable upon conversion of the preferred stock if none of
certain revenue targets are met. See "Item 13. Certain Relationships and
Related Transactions - Williams and Dynegy", "- Municipal Partners" and "-
TradeSpark."
(2) Represents a one-time, non-cash charge due to option grants we made to
Cantor employees and a consultant exercisable at our initial public
offering price of $22.00 per share.
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS:
The following discussion contains forward-looking stateme