10-Q 1 g0931a.txt QUARTERLY REPORT FOR THE QTR ENDED 6/30/05 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q Quarterly Report Under Section 13 or 15(d) of Securities Exchange Act of 134 For the quarterly period ended June 30, 2005 Commission File Number 0-32199 MidNet, Inc. (Exact Name of Registrant as Specified in its Charter) Delaware 95-4735256 (State of incorporation) (I.R.S. Employer Identification No.) Suite 300-1055 West Hastings Street Vancouver, B.C. Canada V6E 2E9 (604) 609-6188 (Address and telephone number of principal executive offices) Tugboat International, Inc. (Former name) 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 whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X] As of August 18, 2005 there were 16,930,985 shares of the Registrant's common stock, par value $0.0001 per share, outstanding. Documents incorporated by reference: None. PART I FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS MIDNET, INC. (Formerly Tugboat International, Inc.) (A Development Stage Company) CONSOLIDATED BALANCE SHEETS --------------------------------------------------------------------------------

See accompanying condensed notes to interim financial statements 2 MIDNET INC. (formerly Tugboat International, Inc.) A Development Stage Company) CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME --------------------------------------------------------------------------------

See accompanying condensed notes to interim financial statements 3 MIDNET, INC. (Formerly Tugboat International, Inc.) (A Development Stage Company) CONSOLIDATED STATEMENTS OF CASH FLOWS --------------------------------------------------------------------------------

See accompanying condensed notes to interim financial statements 4 MIDNET, INC. CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) NOTE 1- BASIS OF PRESENTATION The foregoing unaudited interim financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-QSB and Regulation S-B as promulgated by the Securities and Exchange Commission. Accordingly, these financial statements do not include all of the disclosures required by generally accepted accounting principles for complete financial statements. These unaudited interim financial statements should be read in conjunction with the Company's audited financial statements for the year ended December 31, 2004. In the opinion of management, the unaudited interim financial statements furnished herein include all adjustments, all of which are of a normal recurring nature, necessary for a fair statement of the results for the interim period presented. The preparation of financial statements in accordance with generally accepted accounting principles requires the use of estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities known to exist as of the date the financial statements are published, and the reported amounts of revenues and expenses during the reporting period. Uncertainties with respect to such estimates and assumptions are inherent in the preparation of the Company's financial statements; accordingly, it is possible that the actual results could differ from these estimates and assumptions that could have a material effect on the reported amounts of the Company's financial position and results of operations. Certain amounts from prior periods have been reclassified to conform to the current period presentation. This reclassification has resulted in no changes to the Company's accumulated deficit or net losses presented. Operating results for the three and six-month period ended June 30, 2005 are not necessarily indicative of the results that may be expected for the year ending December 31, 2005. NOTE 2 - GOING CONCERN UNCERTAINTY The accompanying financial statements have been prepared on a going concern basis, which contemplates the realization of assets and satisfaction of liabilities in the normal course of business. The Company has incurred material recurring losses from operations. At June 30, 2005, the Company had an accumulated deficit of $3,191,185 and negative working capital. For the three months ended June 30, 2005, the Company sustained a net loss of $818,399 and for the six months ended June 30, 2005 a net loss of $1,853,916. These factors, among others, indicate that the Company may be unable to continue as a going concern for a reasonable period of time. The financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts or the amounts and classification of liabilities that may be necessary should the Company be unable to continue as a going concern. The Company's continuation as a going concern is contingent upon its ability to obtain additional financing, and to generate revenue and cash flow to meet its obligations on a timely basis. Management has raised and plans to seek additional capital, from new equity securities offerings that will provide funds needed to increase liquidity, fund internal growth and fully implement its business plan. The Company's management is also currently putting sales strategies in place, which will, if successful, mitigate these factors, which raise substantial doubt about the Company's ability to continue as a going concern. 5 NOTE 3 - STOCKHOLDERS' EQUITY On April 25, 2005, the Company initiated a private offering for a total of 1,500,000 restricted common shares at a price of $0.60 per share. There is no minimum number of shares that must be sold and the proceeds will be used as working capital at the discretion of the Company. Subsequently, this private offering was repriced at $0.25 per share, which better reflected the market conditions and restricted nature of the shares being offered. The private placement was closed on August 15th, 2005. As a result, during the quarter, the Company raised $196,990. Subsequent to June 30, the Company has raised an additional $125,000. During the three months ended June 30, 2005, the Company issued 750,000 shares of restricted common stock for consulting services pursuant to an agreement for $367,500. The value of these shares was determined by the fair market value on the date of grant. During the six months ended June 30, 2005 the company issued a total of 1,000,000 shares of restricted common shares for consulting services for a total value of $867,500. During the three months ended June 30, 2005, the Company granted 400,000 options for restricted common stock to a consultant for future consulting services valued at $66,990. The options granted were valued using the Black-Scholes Option Price Calculation. The following assumptions were made in estimating fair value: risk-free interest rate of 4%, volatility of 103% and expected life of 2 years. The Company now has 1,760,000 options outstanding, which fully expire in 2012. During the six months ended June 30 2005, the Company granted a total of 500,000 options for restricted common shares for future consulting services for a total value of $149,566. NOTE 4 - COMMITMENTS AND CONTINGENCIES As of June 30, 2005, the Company has ongoing executed agreements with a regional telecommunications vendor and local vendors to provide private circuits and co-location services, respectively. The agreements establish connectivity between various cities in North America and local loops between customer premises and co-location facilities. The Company has paid vendor deposits in the amount of $39,341 as of June 30, 2005. UNILOC AGREEMENT On May 2, 2005, MidNet signed a term sheet with California-based Uniloc USA Inc., wherein Uniloc's patented "Digital DNA" fingerprinting technology, which uniquely identifies specific devices, will allow MidNet to authenticate all communications devices being used on The Middle Network. Uniloc's technologies are designed to enhance the secure and private transmission of data over The Middle Network. Uniloc's device authentication system, NetAnchor(TM), allows application service providers (ASPs) who conduct business over The Middle Network to secure all data transmissions by limiting content access to specific communications devices (e.g., videophones, voice-over-ip (VOIP) phones, video-on-demand and video streaming equipment, and PCs equipped with microphones, speakers and webcams). This system will facilitate critical copyright control and anti-piracy measures. The Uniloc NetAnchor(TM) system is designed as a core component of MidNet's device registration database, which is expected to include more than 500,000 digital communications devices within the next year. Uniloc has committed that its system will be able to accommodate the registration of over 6 million communications devices on the Middle Network within 5 years. MidNet expects the integration of the Uniloc system to be completed within 90 days. 6 RENTAL AGREEMENT The Company entered into a one-year rental agreement for office space in Vancouver, B.C. effective April 1, 2005. The Company will pay approximately $1,630 (CAD $1,970) on a monthly basis. NOTE 5 - PROVISION FOR TAXES Income taxes are provided based upon the liability method of accounting pursuant to Statement of Financial Accounting Standards No. 109 (hereinafter "SFAS No. 109"), "Accounting for Income Taxes." Under this approach, deferred income taxes are recorded to reflect the tax consequences in future years of differences between the tax basis of assets and liabilities and their financial reporting amounts at each year-end. A valuation allowance is recorded against deferred tax assets if management does not believe the Company has met the "more likely than not" standard imposed by SFAS No. 109 to allow recognition of such an asset. At June 30, 2005 and December 31, 2004, the Company had net deferred tax assets of approximately $1,085,000 and $455,000, respectively, principally arising from net operating loss carryforwards for income tax purposes multiplied by an expected rate of 34%. As management of the Company cannot determine that it is more likely than not that the Company will realize the benefit of the net deferred tax asset, a valuation allowance equal to the net deferred tax asset has been established at June 30, 2005 and December 31, 2004. The significant components of the deferred tax asset at June 30, 2005 and December 31, 2004 were as follows: June 30, December 31, 2005 2004 ----------- ----------- Net operating loss carryforward $ 3,191,000 $ 1,337,000 =========== =========== Deferred tax asset $ 1,085,000 $ 455,000 =========== =========== Deferred tax asset valuation allowance $(1,085,000) $ (455,000) =========== =========== At June 30, 2005 and December 31, 2004, the Company has net operating loss carryforwards of approximately $3,191,000 and $1,337,000, respectively, which expire in the years 2021 through 2024. The change in the allowance account from December 31, 2004 to June 30, 2005 was $630,000. The above estimates are based upon management's decisions concerning certain elections, which could change the relationship between net income and taxable income. NOTE 6 - RELATED PARTY TRANSACTIONS The Company has a related party trade payable to officers totaling $29,428 as of June 30, 2005. These amounts are unsecured, non-interest bearing and are payable upon demand. NOTE 7 - PROPERTY AND EQUIPMENT A summary of property and equipment, and the related depreciation expense is as follows: 7 June 30, December 31, 2005 2004 -------- -------- Property and Equipment $ 97,889 $ 97,889 Accumulated depreciation (39,077) (24,441) -------- -------- Net Property & Equipment $ 58,812 $ 73,448 ======== ======== NOTE 8 - STOCK OPTIONS AND WARRANTS The Company's accounting is in accordance with Financial Accounting Standards Board No. 123 and EITF 96-18A in recording warrants and stock options. The Company uses fair value base method of accounting for employee stock options or similar instruments. Under the fair value based method, compensation cost is measured at the grant date based on the value of the award and is recognized over the service period, which is usually the vesting period. The Company does not have a stock option plan approved by its shareholders. As of June 30, 2005, the Company has granted various directors and non-directors options to purchase shares as follows with the following expiration dates: Date of Options Per share Expiration Grant Granted Exercise Price Date ----- ------- -------------- ---- 6/2005 200,000 $ 1.50 6/2007 6/2005 200,000 $ 1.00 6/2007 3/2005 100,000 $ 1.00 3/2012 2/2003 560,000 $ 0.50 2/2010 6/2002 200,000 $ 0.50 6/2009 3/2002 500,000 $ 0.50 3/2009 --------- Total Options Granted 1,760,000 ========= Weighted Average Shares Exercise Price ------ -------------- Outstanding at January 1, 2005 1,260,000 $0.50 Granted 100,000 1.00 Exercised or expired -- -- --------- ----- Outstanding and exercisable at March 31,2005 1,360,000 $0.54 Granted 200,000 1.00 Granted 200,000 1.50 Exercised or expired -- -- --------- ----- Outstanding and exercisable at June 30, 2005 1,760,000 $0.70 ========= ===== Weighted average fair value of options granted during the quarter ended June 30, 2005 $1.15 ===== 8 During the three months ended June 30, 2005, the Company granted 400,000 options to a consultant for services valued at $66,990. The options granted were valued using the Black-Scholes Option Price Calculation. The following assumptions were made in estimating fair value: risk-free interest rate of 4%, volatility of 104.6% and expected life of 2 years. At June 30, 2005, the Company has 1,760,000 options outstanding, which fully expire in 2012. NOTE 9 - SUBSEQUENT EVENTS Subsequent to June 30 2005, the Company issued 246,650 shares of restricted common stock. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS OF OPERATIONS The following Management's Discussion and Analysis of Financial Conditions and Results of Operations contains forward-looking statements that involve risks and uncertainties, including those referring to the period of time the Company's existing capital resources will meet the Company's future capital needs, the Company's future operating results, the market acceptance of the services of the Company, the Company's efforts to establish itself as a market participant and the development of new services. The Company's actual results could differ materially from those anticipated in these forward-looking statements as a result of these and other factors. The following should be read in conjunction with the audited consolidated Financial Statements as of December 31 2004 and the unaudited Consolidated Financial Statements for the quarter ended June 30 2005. OVERVIEW On December 12, 2003, Tugboat International Inc. (the "Company") entered into an agreement to merge with MidNet Inc., a Nevada company ("MidNet") with a sales and marketing office in Canada (the "Agreement"). Under the terms of the Agreement, 100% of the issued and outstanding shares of stock of MidNet were exchanged for shares of Tugboat International Inc., resulting in MidNet becoming a wholly-owned subsidiary of Tugboat. Effective March 17, 2004, the Company changed its name from Tugboat International Inc., to MidNet, Inc., and on March 25, 2004 its trading symbol on the OTC Bulletin Board market was changed from "TUGB" to "MIDX". Pursuant to the Agreement, Tugboat had 13,050,000 shares of Common Stock issued and outstanding, post-merger, of which MidNet shareholders own 7,506,000 shares. Existing shares in MidNet were exchanged for shares in the Company at a ratio of 1:1.2240105. In addition, the three new Tugboat Directors, who were the directors of MidNet, own 300,000 shares of Tugboat Preferred Stock; and two consultants to the Company and four unrelated members of the Board of Advisors of the Company own options to purchase 1,260,000 shares of the Company's restricted Common Stock, at an exercise price of $.50 per share. The Company, on a consolidated basis, had nominal revenues in 2004 of $2,987, which were revenues from operations of MidNet. For the six months ended June 30 2005, the Company had nominal revenues of $1,000 from its operations. The expenses incurred by the Company to date are mainly network, administrative, professional and consulting fees, which totaled $843,606 for the year ended December 31, 2004; $80,925 for the period ended December 31, 2003; and $1,805,383 for the six month period ended June 30, 2005. Included in the $1,805,383 of expenses for the six month period ended June 30, 2005 is an amount of $500,000 which relates to the value of 250,000 restricted shares issued for consulting services on February 24, 2005, an amount of $367,500 which relates to the issue of 750,000 restricted shares issued for consulting services on June 8 2005 and an amount of $149,567 for stock based compensation. In addition, the Company incurred bandwidth and co-location fees of $165,018 and $350,485 for the periods ending December 31, 2004 and June 30, 2005 respectively. The Company 9 further incurred marketing expenses of $53,773 and $32,766 for the periods ending December 31, 2004 and June 30, 2005 respectively. MidNet is a development stage company without established revenues. It is unable to satisfy cash requirements without financial support or other funding. The Company anticipates, but has no assurance, that it will meet its cash requirements for the foreseeable future from revenues from proposed operations and through raising sufficient funds through the capital markets to fulfill the goals of its business plan. MidNet is a networking company that proposes to aggregate bandwidth, and with its proprietary configuration technology, intends to deliver to its clients a secure, reliable and neutral dynamic private network that is cost effective. MidNet developed The Middle Network to act as the `middle layer' between telecommunication infrastructure companies and application service providers, all to the benefit of end users. The Company believes it has the strong technical foundation and the extensive business experience required to develop its proposed network. The technical background and business experience of its management and advisory team span more than thirty years. RESULTS OF OPERATIONS MidNet is a development stage company without established revenues. It is classified as a development stage company because its principal activities involve seeking and developing business activities and commencing operations. MidNet, on a consolidated basis, incurred losses of $1,067,317 for the year ended December 31, 2004 and $59,684 in losses for the period ended December 31, 2003. Through the first six months of 2005, the Company incurred consolidated net losses of $1,805,383 as compared to losses of $268,881 for the same period in 2004. This significant increase in losses was due to the costs associated with commencing the rollout of the network in the second quarter of 2004 and the inclusion of $867,500 in expense relating to the value of 250,000 restricted shares issued for consulting services on February 24, 2005 and 750,000 restricted shares issued for consulting services on June 8 2005 and $149, 567 for stock based compensation on the issuance of stock options. Since 2002, MidNet has incurred cumulative net losses of approximately $3,191,000. The expenses incurred to date are primarily related to personnel, bandwidth, co-location facilities, and administrative, accounting, legal and consulting fees. Through the six months June 30, 2005, MidNet has signed various agreements for bandwidth (i.e., private intercity circuits and local loops) and co-location facilities. The bandwidth agreements include the local loops for the Company's initial customers in Vancouver and private circuit access, which will link Vancouver, Los Angeles, Toronto, Calgary, Edmonton, Houston and Denver. These circuits have been or are currently being activated. The co-location agreements provide aggregation points, which will allow MidNet to establish metropolitan area networks in all seven cities. In August 2005, with a focus on video-based communications and matching revenue with expenses, the Company was successful in renegotiating these bandwidth agreements and reducing monthly costs by more than 50%. LIQUIDITY, CAPITAL RESOURCES AND CASH REQUIREMENTS MidNet has completed its initial network rollout but management does not believe that the proposed current operations will be able to provide sufficient revenues to meet operating costs and future expansion. MidNet has based its plans on the 10 assumption it will continue as a going concern and, as a result, initiated a stock subscription offer at $0.,60 per share which was subsequently re-priced to $0.25 per share (see Note 3). Of this, approximately $197,000 was raised in the period ended June 30, 2005 and an additional $125,000 since that date. There is no assurance that the Company will be successful in raising the balance of the money. Consequently, MidNet may be unable to satisfy cash requirements without financial support or other funding. As of June 30, 2005, MidNet had approximately $23,000 cash on hand. In December 2003, MidNet issued warrants to purchase up to 2,000,000 shares of MidNet's restricted common stock prior to December 19, 2004 at an exercise price of $0.75 per share. As of December 31, 2004, all the warrants had been exercised resulting in net proceeds to the Company of $1,500,000. As of June 30, 2005, there are no warrants outstanding. Until such time as the proposed business is sufficiently developed, MidNet does not expect to have any significant revenues from operations. It anticipates that, if its business plan becomes fully operational, it will generate sufficient revenues to maintain operations. There is no assurance that MidNet will be successful in selling telecommunications services metered in gigabyte units or otherwise generating revenues. To augment its selling of telecommunication services, the Company has entered into agreements with Lightning Media, Rainmaker Digital Pictures and World Accessibility. Pursuant to the agreement of Feburary 8, 2005, with Lightning Media revenue has been billed for June, July and August 2005. In July of 2005, MidNet entered into a similar agreement with Rainmaker Digital Pictures and commenced billing immediately. On August 1, MidNet announced the introduction of the beta version of a software-based "media phone". The media phone is so called because it supports voice-only and voice-with-video calls, as well as streaming or downloaded audio and video content. The generic software device has been designed to allow branding by third-party service providers. The media phone is a standards-compliant java-based utility compatible with all popular operating systems, including all Microsoft platforms, Apple, Linux and Unix. The media phone's standards compliance characteristics ensure that it will work with all other standards compliant software and/or hardware-based communications devices. Upon completion of the beta stage, the Company anticipates approximately two million registrations over the next seventeen months and expects to generate revenues of $4 per registration. MidNet has no other sources of revenue. Therefore, if not successful in its proposed business, MidNet will be unable to achieve revenues under its current business plan. In addition, MidNet has no credit facility or other committed sources of capital. It may be unable to establish credit arrangements on satisfactory terms, if at all. To the extent that additional capital is raised through the sale of equity and/or convertible debt securities, the issuance of the securities will likely result in substantial dilution to existing shareholders. CAPITAL EXPENDITURES PLANT AND SIGNIFICANT EQUIPMENT. Over the next twelve months, MidNet plans to lease or purchase various electronic equipment required for rollout of the network. The projected cost of this equipment is approximately $660,000. Equipment to be leased or purchased includes: network switches, servers, computers and other technological devices. The total to be expended on equipment over the next twelve months is only an estimate and is subject to customer 11 demand of The Middle NetworkSM. If customer demand is weak, equipment costs will likely be less; if customer demand is strong, projected equipment costs could be higher. There are currently no plans to purchase any plant or other significant equipment. SHORT TERM GOALS During the period ended December 31 2004, the Company commenced rollout of The Middle NetworkSM. MidNet's plan of operations over the next 12 months is to continue the marketing and delivery of network services to anticipated customers, consistent with its business plan. MidNet is classified as a development stage company because its principal activities involve seeking and developing business activities and commencing operations. MidNet plans to generate revenue by charging customers to send and receive data over The Middle NetworkSM. This will include sending and receiving "digital" packages (e.g., digital videos and movies), video conferencing and customers using The Middle NetworkSM as their private company network. Data is measured, and will be billed, in gigabytes. Pricing is designed to be competitive with traditional shipping services (such as FedEx). The amount charged per gigabyte will vary depending on a number of factors including: o the amount of data transmitted over the network (high volume users will generally pay less per gigabyte than low volume users); o the type of data transmitted (i.e., video or data files, video conferencing, online collaboration, e-mail, etc.); and o whether transmission is real-time or instantaneous (higher fee per gigabyte) or delayed (lower fee per gigabyte). The Company will focus its efforts on enabling the following types of application services: * Video communication * Digital media transfer * Digital collaboration * Security video surveillance and alarm monitoring * Business-to-Business and Business-to-Consumer E-commerce transactions * Unified messaging (including email, notifications of events such as alarms, news, voice mail and fax receipts, etc.) The initial phase of operations included what the Company believes to be the three key media centers (Toronto, Vancouver and Los Angeles), and four key oil & gas centers (Edmonton, Calgary, Denver and Houston). During this phase, MidNet established connectivity between and within these cities by entering into agreements with various telecommunication companies for local loops and intercity private circuits (i.e., bandwidth). These cities were then connected through co-location facilities which act as hubs for each metropolitan area network. MidNet rents space in the co-location facilities and installed network switches to facilitate connection to the leased circuits. During MidNet's initial phase of operations the following key milestones were realized: Key Milestone Beginning Date Completion Date ------------- -------------- --------------- Acquired co-location facilities for launch cities (Vancouver, Toronto, Los Angeles, Houston, Calgary) May 2004 November 2004 Acquired private, inter city circuits (Toronto-Vancouver-Los Angeles-Houston- Denver-Calgary-Edmonton) June 2004 November 2004 Signed and connected first customer June 2004 July 2004 12 Anticipated key milestones for the next phase of operations with related time frames are as follows: Key Milestone Beginning Date Completion Date ------------- -------------- --------------- Begin rollout of videophone network March 2005 April 2005 Register first videophones with the network April 2005 April 2005 Establish first LAN extensions April 2005 May 2005 For the year ending December 31, 2005, the Company anticipates spending the following amounts on projected expenses deemed material (these figures are only an estimate; actual costs will vary depending on the rate of growth in customers and vendor pricing): Bandwidth and co-location (1) $ 870,000 Personnel costs (2) $1,080,000 Sales and marketing (3) $ 390,000 Equipment purchased or leased (4) $ 660,000 ---------- Total $3,000,000 ========== ---------- (1) Includes installation and usage of the private circuits we lease and the co-location facilities. Approximately 60% of this total relates to bandwidth with the remaining 40% attributable to the co-location facilities. (2) Represents costs associated with employees such as compensation, taxes, and benefits and subcontractors. (3) Includes items such as advertising, marketing materials (e.g., brochures), designing, updating and maintaining the MidNet websites, and training materials. (4) Includes network switches, servers, computers and other technological devices. Over the last two years, MidNet has spent approximately $300,000 relating to research and development in the form of equipment (approximately, $100,000), salaries ($120,000) and related expenses (approximately $80,000). We expect to incur $200,000 in research and development costs over the next twelve months. Funds spent from date of inception through June 30 2005 on sales and marketing include the following approximate amounts: Sales and marketing staff $ 128,000 Website and training materials $ 12,000 Other sales and marketing costs $ 74,500 ---------- Total $ 214,500 ========== RESEARCH AND DEVELOPMENT The Middle NetworkSM topology resembles a "peer-to-peer" network, rather than a "hub-and-spoke" model. Traffic routing and prioritization happens dynamically at the access point in the customer premise, not in a centralized location. Therefore, MidNet is not limited to a conventional, static network configuration. MidNet's proprietary network design and configuration enables the allocation of bandwidth "on-demand", as opposed to the static point-to-point bandwidth typically offered by Telcos. As a result, MidNet can present itself as a "dynamic private network". This innovative design provides powerful characteristics, which simultaneously enhance flexibility, robustness and security. 13 Although the network is based on standardized protocols, the network design and configuration is proprietary and confidential. MidNet uses private lines and runs Asynchronous Transfer Mode ("ATM") on top of them. MPLS or Multi-protocol Label Switching is under consideration as an alternate protocol. Traffic on the private lines is encrypted at the hardware port level using a stream cipher algorithm. There are several additional layers of security. MidNet is also building a network configuration tool using open source software, including but not limited to Linux, FreeBSD, Apache, MySQL, Perl, PHP as well as free and commercial application software to run in these environments, for managing the network devices and automatic configuration of system parameters, system firmware updates and system password changes. This tool offers tremendous flexibility while lowering deployment costs, increasing network security and reducing dependency on expert technicians for the deployment of network devices. NUMBER OF EMPLOYEES As of June 30, 2005, MidNet had a total of 5 full time employees. In addition, the Company had 5 independent contractors working approximately 35 to 40 hours per week. Over the next twelve months, MidNet projects hiring another 10 to 20 employees. None of the Company's employees are members of or are represented by unions or collective bargaining agreements. LONG TERM GOALS MidNet's goal is to expand The Middle NetworkSM to further penetrate both national and international markets, and secure additional business opportunities. Management is of the opinion that sufficient working capital may not be available from internal operations during the next twelve months. Thus, the Company may not be able to meet its obligations and commitments from revenues alone. MidNet is making its plans based on the assumption it will continue as a going concern, but there is no assurance it will be able to do so. MidNet intends to continue efforts to obtain market penetration and consumer awareness of The Middle NetworkSM, while focusing and building on its client list of media-based customers and exploring other vertical markets. These markets may include oil and gas, government, security, legal, health, financial, engineering, and other industries that require the movement of large amounts of data in a reliable, high speed and secure environment. MidNet will require additional funds to further develop its marketing and branding plans. Although it may need to raise additional funds for business development, the Company has no assurance that it will be able to obtain such financing. If adequate funds are not available, business development will be adversely affected. Future capital requirements will also depend on one or more of the following factors: * market acceptance of MidNet's proposed services; * the extent and progress of research and development programs; * competing technological and market developments; and * the costs of commercializing proposed services. There can be no assurance that funding will be available on favorable terms to permit successful commercialization of the business plan or that MidNet will be successful in its business operations. 14 In addition, MidNet has no credit facility or other committed sources of capital. It may be unable to establish credit arrangements on satisfactory terms, if at all. If capital resources are insufficient to meet future capital requirements, MidNet may have to raise additional funds to continue operations. There can be no assurance that the funds will be available on favorable terms, if at all. To the extent that additional capital is raised through the sale of equity and/or convertible debt securities, the issuance of such securities will likely result in substantial dilution to shareholders. The Company's website can be found at: www.midnetinc.com FLUCTUATIONS IN ANNUAL AND QUARTERLY RESULTS MidNet's future quarterly and annual operating results, if any, may fluctuate significantly as a result of numerous factors, including: 1. The amount and timing of expenditures required to develop our network; 2. The amount and timing of revenues based on our ability to attract and secure new customers; and 3. The emergence of new services and technologies in the market in which MidNet plans to deliver its services. MidNet also faces foreign currency exchange risk with respect to revenue and operating costs associated with our Canadian operations, which are incurred in Canadian currency. Significant fluctuations in the foreign exchange rate between U.S. and the Canadian currency will result in fluctuations in our annual and quarterly results. INFLATION AND OTHER COST FACTORS MidNet believes that inflation has not had a material effect on its past business. However, our operational expansion is affected by the cost of bandwidth and hardware components, which are generally not inflation sensitive, but rather, sensitive to competition, changes in technology and regulatory changes. Significant fluctuations in the foreign exchange rate between U.S. and the Canadian currency may have a material effect on our future operations and cash flow. ITEM 3. CONTROLS AND PROCEDURES We, the Company, maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed by us in reports that we file or submit under the Securities Exchange Act, is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosures. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management necessarily is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures. As of the end of the period covered by this report, and under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we evaluated the effectiveness of the design and operation of these disclosure controls and procedures. Based on this evaluation and subject to the foregoing, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective in reaching a reasonable level of assurance of achieving management's desired controls and procedures objectives. There have been no changes in our internal controls over financial reporting that occurred during our most recent fiscal quarter that have materially affected, or are reasonably likely to affect, our internal control over financial reporting. 15 PART II OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS MidNet is currently not a party to any legal proceedings. ITEM 2. CHANGES IN SECURITIES On April 8, 2004, MidNet filed a Form SB-2, Registration Statement under the Securities Exchange Act of 1933, to register 4,436,335 shares of common stock (subsequently amended to 4,501,335) with a par value of $0.0001 per share. Amendments to Form SB-2 were filed on July 12th, September 9th and October 14th, 2004. On January 11, 2005 the Registration Statement was approved. MidNet did not receive any proceeds from the offering. Before the offering MidNet had 15,334,335 shares of common stock outstanding. After the offering MidNet had 15,334,335 shares of common stock outstanding, which was increased to 15,684,335 by December 31 2004 on the exercise of 350,000 warrants. On March 12, 2004, MidNet issued 115,000 shares of restricted common stock valued at $1.00 per share to two consultants that elected to receive shares in lieu of cash for past services rendered. These shares were registered in the Form SB-2 filed on April 8, 2004 and amended on July 12, 2004. On August 27, 2004, MidNet issued 65,000 shares of restricted common stock upon the exercise of 65,000 warrants at an exercise price of $0.75 per share resulting in net proceeds to MidNet of $48,750. On October 29, 2004, MidNet issued 50,000 shares of restricted common stock upon the exercise of 50,000 warrants at an exercise price of $0.75 per share resulting in net proceeds to MidNet of $37,500. Effective February 24, 2005, the Company issued 250,000 shares of restricted common stock valued at $2.00 per share for consulting services. On June 8 2005 the Company issued 750,000 shares of restricted common stock valued at $0.49 per share for consulting services. On July 7 2005 Company issued 146,650 shares of restricted common stock valued at $0.60 per share for cash. On July 12 2005 Company issued 100,000 shares of restricted common stock valued at $0.60 per share for cash. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None 16 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits Exhibit 31.1 Certification of Principal Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 Exhibit 31.2 Certification Principal Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 Exhibit 32.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 Exhibit 32.2 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (b) Reports on Form 8-K During the quarter ended June 30, 2005 we filed the following reports on Form 8-K: Date Form Filed Form and Item(s) Reported --------------- ------------------------- April 14, 2005 Form 8-K Item 1.01 June 1, 2005 Form 8-K Items 1.01 and 9.01 June 29, 2005 Form 8-K Item 5.02 17 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. MidNet, Inc. Date: August 18, 2005 By: /s/Tom Locke ------------------------------------------ Tom Locke Chief Financial Officer and Treasurer (Principal financial and chief accounting officer) 18

MIDNET INC 10-Q