9. EDSR 08-14-2006ITEMi ~ 9.
MEMORANDUM
TO: Economic Development Authority
FROM: Catherine Mehelich, Director of Economic Developmen~,/' C
DATE: August 14, 2006
SUBJECT: Update on Incubator Location Commitment - K-Netica
Attachments
Letter sent to K-Netica from EDA staff dated July 3, 2006
Email coxxespondence from K-Netica CEO, Steve Peterson dated July 24, 2006
Email correspondence from Harlan Jacobs, Genesis Business Centers dated July 24, 2006
Background
At its June 12, 2006 meeting the EDA was notified of former incubator tenant, K-Netica's
relocation from Elk River to Brooklyn Centex. As a result of the relocation outside Elk River,
and in accordance with the Location Commitment clause of the Memorandum of Understanding
between the EDA and the company, the EDA directed staff to proceed with actions requiring
the company to repurchase the shares owned by EDA within 30 days of written demand. Under
the Memorandum of Understanding the shares of stock owned by the EDA axe equal to the rent
value not paid in cash.
Following is a breakdown of EDA shares and value
EDA Shares: 17,758 ($1.00 per share value)
Current repurchase price: $35,516 ($2.00 per share value minimum as stipulated in the
Memorandum of Understanding)
Issue
In addition to a phone conversation with the company CEO, staff sent the attached letter dated
July 3, 2006 to K-Netica notifying them of the EDA's interest in exercising its right to require the
company to repurchase the shares owed by the EDA. The repurchase was required to be
satisfied within 30-days of the letter, which would have been a deadline of August 3, 2006.
On July 24, 2006 staff received the attached email coxxespondence from K-Netica CEO, Steve
Pederson describing the company's situation and a request that the EDA reconsider its action.
Update on Incubator Location Commitment - K-Netica
August 14, 2006 8DA Mccting
Pagc 2 of 2
In addition, staff received the attached email correspondence from the EDA's former Incubator
Program Advisor, Harlan Jacobs of Genesis Business Centers on July 24, 2006 offering his advice
on the situation with K-Netica. It should be noted that Genesis Portfolio Partners, LLC and
Larry Hickman are both, separately, parties to the Memorandum of Understanding between the
EDA and K-Nedca and each receives and controls their own respective shares from the
agreement.
Action Requested
Staff requests the EDA's discussion and direction in how they'd like to proceed with the
enforcement of the location commitment clause.
S:\EDA\Incubator\K-Netica\Memos\2006\8.14.06 EDA.Kne[ica.doc
''ity of
LRiver
1306> Orono Parkwac
Elk Ricer. A1N ji330 .
Jul}- 3, 2006
KnowledgeNetica Corporation
Joseph C. Roushar, Founder/CTO
6120 Eaxl Bxocvn Drive, Suite 502
Minneapolis, MN 55430
Dear Mx. Roushax:
This letter is to notif}' IinowledgeNetica Corporation chat the City of Elk River Economic
Development Authorit}' (EDA) is exercising its tight to require the company to repurchase
the shares owned by the EDA within 30 da}'s of this letter. Section 2.5 of the Memorandum
of Understanding between the EDA and I{nowledgeNedca Corporation dated blay 2Q, 2002
permits the EDA to exercise this right if the company's headquarters and administrative
facilities are not wholly maintained aridun the Cin~ of Elk River. Your recent relocation to
6120 Earl Brown Drive, Suite 502, Minneapolis, 1\finnesota allows the EDA to esexcise this
right.
Pursuant to Section 2.5 of the Memorandum of Understanding, repurchase price shall be the
last price per share offered in any ptivate or public offering authorized by the Board of
Directors of the company but not less dean twice die price used to calculate the shares
provided to die EDA under Section 2.1 of die i\lemorandum of Understanding. As }-ou
know, the price used to calculate the shares provided ro the EDA under the agreement was
SI per share. According to our records, die Economic Development Authotits- has 17,758
shares of IutowledgeATetica Corporation stock. The repurchase price of those shares would
be $35,516.
Please direct your payment to the Cit<- of Elk Ri~rer Economic Development Authorin• at
13065 Orono Parkway, Elk River SIN 55330.
Sincerely,
~'~i~~~,
Catherine i,Iehelich
Director of Economic Development
Phone: 763.635.1000
Fay: 763.631.1090
Heidi Steinmetz
Asst. Du. of Economic Development
sa}sw.ci.elk-rivet mn.us
Pagelofl
From: Steve Pederson [stevep@knetica.com]
Sent: Monday, July 24, 2006 7:54 AM
To: Mehelich, Catherine
Cc: Joe Roushar; Jeff Saunders; Jeff Gongoll; Gary Puffett; Harlan Jacobs
Subject: K-Netica issues
Cathy:
I received the letter from the City of Elk River notifying us they were to exercise their put clause. We lived within
the intent and the explicit language of the contract, but were still unable to find adequate space in Elk River. A
few thoughts:
1. Keep in mind that it was never our intent to "leave" Elk River this year.
2. We lost our lease early this year and had a little under 3 months to find a new location.
3. During this time, the City chose to discontinue the Incubator program.
4. As outlined in my letter to Jeff Gongol (attached), we were unable to find affordable, suitable space in Elk
River after agood-faith effort on our part in concert with Heidi, the City, and the Chamber of Commerce.
5. You mentioned to me in a phone call that Bixby Energy also lost their lease when they were in the City's
incubator program. Because Bixby was unable to find a suitable replacement, the City waived the put
option
So...for the City to demand a 2X put option, (with no available space or an incubator program), it will trigger a
number of things:
1. It will negatively impact our ability (from a cash flow standpoint) to stay whole and to hire the
necessary engineers to meet the needs of our current client commitment.
2. It could create a precedent where others with convertible loans may question the viability of our
company given the action of the City and contemplate similar options
As you may know, the (Foundation has decided that the investment in K-Netica is a "win" and they have agreed to
convert their loan when our internal securities audit is complete.
I believe we lived within the spirit and intent of the agreement. Without new, affordable space and the loss of the
incubator program, I seriously question why the City is taking this action, given the precedent with Bixby Energy.
My hope is that the board will reconsider their action in this matter.
Regards,
Steve Pederson
(w) 763-274-1000 x101
(c)612-840-6888
K-Netica Corporation -CEO
6120 Earle Brown Drive, Suite 502
Brooklyn Center, MN 55430-4112
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file://S:\EDA\Incubator\K-Netica\Letters\IC-Netica issues.htm 8/10/2006
<a~=NEtica=
To: Jeff Gongoll
From: Steve Pederson
Date: June 22, 2006
Dear Jeff:
K-Netica Corporation
6120 Earle Brown Drive, Suite 502
Minneapolis, MN 55430-4112
763.274.1000
It was good chatting with you yesterday, Jeff. As you know (see copy of the "thank-you" letter
attached), if it weren't for the organizations mentioned in the letter that have supported K-Netica
during our formative stage, we very well may not be here today.
As you know, in early January K-Netica was awazded its first major implementation contract
(nearly $1M over the next 12 months with Blue Cross of Minnesota). We suddenly found we
were no longer just an R&D/development company - we now needed to focus on customer
service and revenue. We were expecting to work from our Elk River location for the next couple
of years and focus on developing a successful, cash-flow positive company. Things changed
quickly when we were notified our lease would not be renewed, and later that the incubator
program was being discontinued. Unfortunately, we then had to reallocate resources during this
critical period to find a new location for K-Netica.
Per our phone conversation yesterday, I'd like to reiterate a few of the facts that may have been
overlooked when the EDA made the decision to exercise the put option on the K-Netica contract.
• We were notified in late January that the lease on our space would not be renewed.
(Thankfully, the landlord allowed us until early May to vacate.)
• On January 27`h, we met with Heidi and Cathy to discuss our urgent need to find new
space for K-Netica in the Elk River area and work out a strategy.
• In February we were notified that the City chose not to continue the Incubator Program.
• Space requirements included:
0 2K - 2.SK square feet
o High speed Internet capacity
o Server room/Conference room/At least 2 private offices/Common area for cubes
o Class B-/C+ price
o Annual lease preferred...wiling to consider 2 or 3 year agreement
o Few incremental costs (no budget for build out, etc.)
o May 15` (or sooner)
Space considered during Feb-Mar included - (Heidi and Jeff were very helpful!)
o Briggs Property
o Orluck Property
o Basement of Old Main
o Houlton Property
o Star News Property
0 511 3`a Street Property
o Additional Properties (we were made aware of another `/z dozen properties that
were dismissed out of hand which didn't come close to our requirements set).
In March, we were faced with Few Elk River options and the prospect of "working out of
our homes" - we enlisted a broker to help us expand our search to the northern tier of the
metro.
In April we chose to re-locate to the Earle Brown Center in Brooklyn Center:
0 2.5 year sublease
0 50% off of net market rates
o $lOK of furniture "thrown in"
o No build out required
0 2.SK square feet
Note: During this time, the IFoundation elected to convert their loan and has decided that K-
Netica may very well become one of their newest "success stories".
To reiterate, it was never our intention to move from Elk River. In fact, our two newest hires this
spring were from the Rogers area!) I believe we worked, in good faith, within the agreement
parameters of the Incubator Program and done all we could to find new space in the Elk River
area. Unfortunately, as Bixsby Energy found, we were not able to find suitable space in Elk
River and were forced to look elsewhere.
I hope the board we re-visit their decision on calling the put option, and remain a stakeholder in
K-Netica.
Respectfully,
Steve Pederson -CEO
K-Netica Corporation
cc: Joe Roushar
Page 1 of 1
From: TedGenesis@aol.com
Sent: Monday, July 24, 2006 9:52 AM
To: Mehelich, Catherine
Cc: TedGenesis@aol.com; harlangenesis@mac.com
Subject: K-netica situation
Dear Cathy,
Please accept this as sincere advice: I think it's a mistake to take $2 for $1 now (so to speak) and let the
following contingencies occur:
-The company is as successful as Bixby is likely to be (Bixby is now slated to go public in the next few months
and its sales are close to $7 million now). The shares that the City of Elk River's EDA holds are likely to be
quite valuable and so too could the K-netica shares.
-It could seal the fate of the company ever coming back to Elk River.
I sincerely believe that a rapproachment (sp?) could be achieved here whereby the company would commit to
establish its first expansion or satelllite software center in Elk River in consideration for the ER EDA to refrain
from exercising the put.
If I had extra cash, I'd offer to buy the shares from the Elk River EDA.
It may also be possible for me to get the Anoka Investors club to purchase the shares from you folks (if K-netica
agrees). That would give you folks the cash that the exercise of the put would do without causing cash to come
forth form the company. I am not authorized to extend any terms or conditions. I'm just trying to facilitate here.
For a variety of good reasons, I hope that the City of Elk River's EDA will re-consider this matter and refrain
from exercising the put at this time and for the next year or so.
Just consider what the newspaper article might be down the road when someone complains that the City took a
$2 bill when it could have had a $20 bill.
Let me know what I can do to help in any constructive approach here.
REgards
Harlan
PS Bixby would love to establish an expansion facility in Elk River. I met with Bob Walker last week. Please let
me know if you'd like to go to meet with him sometime.
Harlan T. (Ted) Jacobs
President, Genesis Business Centers, Ltd.
3989 Central Avenue NE Suite 630
Columbia Heights MN 55421
(North Suburban Minneapolis/Twin Cities)
Tel 763 782 8576
Fax 763 782 8578
Mobile (Minnesota/Wisconsin/Europe,Canada):
612 701 8153
Mobile in rest of U.S.A.:
612 743 8730
TedGenesis@aol.com
H a rl a n G e n e s i s@ m a c. co m
HarlanJacobs@GenesisCenters. com
www. GenesisCenters.com
file://S:\EDA\Incubator\K-Netica\Letters\7.24.06 Harlan Jacobs K-Netica letter.htm 8/10/2006