UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Commission File Number: 000-30063

10900 Wilshire Boulevard, Suite 1400, Los Angeles, California 90024
(Address of principal executive offices, including Zip Code)
Registrant’s telephone number, including area code: (310) 443-5360

Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: Common Stock, $0.01 par value

     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 þ No o

     Indicate by check mark whether the 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 the 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 o

     Indicate by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes o No þ

     As of March 29, 2005, the aggregate market value of the voting common stock held by non-affiliates of the Registrant was approximately $2,500,000, based on the closing price per share of $0.79 for the Registrant’s common stock as reported on the OTC Bulletin Board on such date.

     As of March 29, 2005, there were 3,502,117 shares of the Registrant’s common stock, par value $0.01 per share, issued and outstanding.

     Documents incorporated by reference: None

 

ARTISTDIRECT INC.

ANNUAL REPORT ON FORM 10-K

TABLE OF CONTENTS

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     This Annual Report on Form 10-K for the fiscal year ended December 31, 2004 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, including statements that include the words “believes”, “expects”, “anticipates”, or similar expressions. These forward looking statements may include, among others, statements concerning the Company’s expectations regarding its business, growth prospects, revenue trends, operating costs, working capital requirements, competition, results of operations and other statements of expectations, beliefs, future plans and strategies, anticipated events or trends, and similar expressions concerning matters that are not historical facts. The forward-looking statements in this Annual Report on Form 10-KSB for the fiscal year ended December 31, 2004 involve known and unknown risks, uncertainties and other factors that could cause the actual results, performance or achievements of the Company to differ materially from those expressed or implied by the forward-looking statements contained herein.

     Each forward-looking statement should be read in context with, and with an understanding of, the various disclosures concerning the Company and its business made elsewhere in this Annual Report on Form 10-K for the fiscal year ended December 31 ,2004, as well as other public reports filed with the United States Securities and Exchange Commission. Investors should not place undue reliance on any forward-looking statement as a prediction of actual results of developments. Except as required by applicable law or regulation, the Company undertakes no obligation to update or revise any forward-looking statement contained in this Annual Report on Form 10-KSB for the fiscal year ended December 31, 2004.

PART I

ITEM 1. BUSINESS

OVERVIEW

We are an online music entertainment company that provides an integrated offering for music fans, artists and marketing partners. The ARTISTdirect Network (www.artistdirect.com) is a network of web sites offering multi-media content, music news and information, community around shared music interests, advertising sponsorships, music-related specialty commerce and digital music services.

The ARTISTdirect Network consists of our music search engine and database containing information on more than 100,000 artists, retail e-commerce offering a wide selection of artist merchandise and music, our proprietary music guide that enables users to browse music by artist, genre or time period, a music-oriented online community and the ability for users to download and listen to music and view music videos.

	•	ARTISTdirect.com — a comprehensive online music search engine and resource for music information. ARTISTdirect.com provides information on more than 100,000 artists across numerous musical genres, featuring news, concert information, artist biographies, album reviews, contests, promotions, music samples and downloads. Artistdirect.com also offers links to numerous other Web sites in the online music community;
	•	Community — a music-oriented online community providing message boards relating to general music topics. The Community area allows fans to communicate with others around the world to share interests and commentary about their favorite music and artists;
	•	The ARTISTdirect Shopping area — a retail site offering a wide selection of music titles and artist and lifestyle merchandise:
	•	Music Streaming and Downloads and Video — a feature that enables users to stream, download and listen to music from a variety of artists.
	•	Video — Users can view a variety of current music videos featuring popular and emerging artists.
	•	Music Guide — a feature that allows users to navigate a large catalog of music by artist, genre or time period (e.g., 60’s Rock), facilitating both quick access to music known to the user and the discovery of music that may be new to the user. The music guide is designed to function with either short music clips or with full song files at such time as we are able to enter into music licensing agreements on terms acceptable to us;

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RECENT EVENTS

We underwent significant changes during the fiscal year ended December 31, 2004 as described below:

     Completion of Disposition of Assets

     Sale of ARTISTdirect Recordings to Radar Records Holdings

     Effective July 30, 2004, ARTISTdirect, Inc. (“ADI”) entered into a Termination Agreement with BMG Music (“BMG”) and ARTISTdirect Records which extinguished all of ADI’s obligations under its funding guaranty, including the remaining $12.0 million funding obligation to ARTISTdirect Records, LLC (“ARTISTdirect Records”).

     Effective as of December 31, 2004, ADI entered into a Transfer Agreement with ARTISTdirect Recordings, Inc., a Delaware corporation and a wholly-owned subsidiary of ADI (“ARTISTdirect Recordings”), and Radar Records Holdings, Inc. (“Radar Records”), a Delaware corporation wholly-owned by ADI’s Chairman, Frederick W. Field, pursuant to which ADI was obligated to sell its common stock in ARTISTdirect Recordings to Radar Records for $115,000 in cash. ARTISTdirect Recordings owned a 65% membership interest in ARTISTdirect Records.

     On February 28, 2005, ADI completed the sale of 100% of the common stock of ARTISTdirect Recordings to Radar Records pursuant to the Transfer Agreement, as a result of which ADI no longer had any equity or other economic interest in ARTISTdirect Records, and Radar Records became the owner of a majority of the membership interests in ARTISTdirect Records and also acquired the receivable reflecting the $33.0 million of loan advances previously provided to ARTISTdirect Records by ADI. In conjunction with this transaction, at February 28, 2005, ADI wrote-off the intercompany balance due from ARTISTdirect Records ($80,000 at December 31, 2004), which was eliminated in consolidation. Radar Records acquired the common stock of ARTISTdirect Recordings subject to the rights of BMG. Radar Records also agreed to offer to investors who had provided bridge funding to ARTISTdirect Records, excluding Frederick W. Field and entities related or controlled by him, the right to acquire proportional shares (based on the amount of bridge funding made by each bridge investor in ARTISTdirect Records) of the common stock of ARTISTdirect Recordings on the same terms and conditions as set forth in the Transfer Agreement.

     As a result of the disposition of ADI’s interest in ARTISTdirect Records effective February 28, 2005, ADI estimates that its will recognize a net non-cash gain in its consolidated statement of operations for the three months ended March 31, 2005 of approximately $21 million (unaudited), primarily as a result of the elimination of the liabilities of ARTISTdirect Records.

     Discontinued Operations — iMusic

     Effective November 23, 2004, pursuant to a Trademark Assignment and Purchase Agreement dated as of November 12, 2004, the Company sold all of its rights, title and interest in and to certain trademarks, service markets and trade names, in certain countries of the world, that consist of or incorporate the term “iMusic” (the “Marks”), including domain names that consist of or incorporate the term iMUSIC (the “Domain Names”) and goodwill related to such marks or trade names, to Apple Computer, Inc. for a cash payment of $500,000. The Marks and Domain Names that the Company sold did not have any carrying value on the Company’s books. As a result of the foregoing, during December 2004, the Company ceased the sale of products under the iMusic label and discontinued the operations of the iMusic record label.

     Departure of Directors

     Effective as of October 18, 2004, Stephen M. Krupa, Benjamin S. A. Moody and Marc P. Geiger each resigned from the Board of Directors. Mr. Krupa and Mr. Moody were the only members of the Company’s Audit Committee. Effective November 29, 2004, pursuant to the Company’s Bylaws, the present directors of ADI elected Eric Pulier to fill a vacant seat on the Board of Directors, to serve until his successor is duly elected and qualified, or until his earlier resignation or removal as a director. Subsequently, effective January 18, 2005, pursuant to the Company’s Bylaws, the current directors of ADI elected Teymour Boutros-Ghali and Dimitri Villard to fill two vacant seats on the Board of Directors, each to serve until his successor is duly elected and qualified, or until his earlier resignation or removal as a director.

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ARTISTdirect BUSINESS SEGMENTS

The ARTISTdirect Network is comprised of our Media and E-commerce operations.

Media. Our Media operations include our content-oriented web sites, a collection of third party music sites and our entertainment marketing initiatives. Revenue from Media operations is generated from the sale of online advertising and integrated marketing solutions. We market and sell advertising on a cost-per-impression (CPM) basis to advertising agencies and directly to various companies as part of their marketing programs. Customers may purchase advertising space for the entire ARTISTdirect Network, or they may tailor advertising based on music genre (e.g., jazz, country, rock music) or based on functionality (e.g., directing advertising to customers using music download features or broadband-only features of the ARTISTdirect Network). Since we are increasingly aware of websites outside the ARTISTdirect Network that are frequently visited by artists and music fans, we have also offered our customers advertising space on behalf of third party music-related websites.

E-Commerce. E-commerce operations consist of the sale of recorded music and artist-related merchandise. Most of our sales come from our ARTISTdirect Shopping area, which offers a comprehensive selection of music CDs and broad range of artist and lifestyle merchandise.

INFRASTRUCTURE AND OPERATIONS

TECHNOLOGY

Our infrastructure is designed to be integrated, scalable, reliable and secure. The software that we use supports the acquisition, management and publication of content on our web sites. During 2005, the management of our web sites and servers for content, applications, database and electronic commerce is handled internally. Our servers are maintained at IX2 Networks, LLC, a co-location facility in Los Angeles, California. Our operations depend on our and IX2’s ability to protect our systems against fire, power loss, telecommunications failure, break-ins and other events. All web sites, servers, and systems are monitored and periodic backups are stored at our downtown data center.

Our current e-commerce system is based on SAP software with certain enhancements provided to us by Pandesic, LLC, a joint venture between Intel and SAP that wound up operations in January 2001. Upon Pandesic’s cessation of operations, we received the source code and executables for the e-commerce system that had been provided previously by Pandesic, implemented SAP’s software in house under a two-year license from SAP. In December 2002, our two-year license expired and we entered into a perpetual license agreement with SAP.

ORDER PROCESSING AND FULFILLMENT

Our web sites include an ordering system that is designed to facilitate convenient online purchasing of pre-recorded music and merchandise. Customers can add items to their “shopping cart” while surfing our web sites. At any time they can securely “checkout”, at which time they need to register (if they are new customers), or enter a username and password to retrieve previously saved billing, shipping and credit card information. We verify orders submitted for credit card payment for fraud detection and sufficient funds before we release them for fulfillment. We also accept alternative modes of payment, such as checks and money orders. Credit card numbers are encrypted, and all customer, commerce and transactional data are stored in secure databases protected by firewalls. The transmission of information over the Internet uses Secure Socket Layer security technology verified by VeriSign.

Alliance Entertainment. In August 1998, we entered into a five-year agreement with Alliance Entertainment Corp. to be our primary supplier of music and music-related information for our ARTISTdirect Superstore. This agreement is now month-to-month. Alliance owns the All Music Guide, a comprehensive source of artist and album information that is supplied to our users primarily through its integration into the UBL. Alliance fulfills compact discs ordered by our customers and we pay Alliance the wholesale cost plus a fulfillment fee. In addition, Alliance provides warehouse space and fulfillment services pursuant to an oral agreement that Alliance may terminate at any time for a majority of the music-related merchandise that we offer which allows the consolidated shipping of customer orders for both music and merchandise. We have integrated our order processing system with Alliance’s information systems to assist in fulfillment tracking, inventory management and customer service. We purchase almost all of the music titles available for sale on our web sites from inventory held by Alliance.

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Benn Co. (formerly Old Glory). In November 2001, we entered into a six-month agreement with Old Glory Boutique Distributing Inc.

(“Old Glory”) to be a wholesale supplier of music-related merchandise and provide fulfillment services for the products for which it sells to us. The agreement was renewed for a one-year period in May 2002 and automatically renewed for an additional year in May 2003. In December 2002, this agreement was assigned from Old Glory to Benn Co., LLC. This agreement is now month-to-month.

If we are unable to continue our agreements with these suppliers, or if Alliance ceases to provide fulfillment services for merchandise, our business could be adversely affected.

CUSTOMER SERVICE

In June 2001, we entered into a two-year agreement with AEC One-Stop Group, Inc. (“Alliance Entertainment”) to provide customer support services for our Web sites’ consumers and respond to customer inquiries, orders and other requests made by phone, fax, e-mail and regular mail. Prior to entering into the agreement with Alliance, we provided customer service with an internal staff of customer service representatives. This agreement is now month-to-month.

SALES AND MARKETING

ADVERTISING SALES

We sell advertising and sponsorships to companies seeking to reach one or more of the distinct demographic audiences viewing content in the ARTISTdirect Network. Advertisers may choose single elements such as targeted or run-of-network banners or sponsorship of fixed placement on our web sites. Pricing is negotiated based upon the size of the target audience, the duration and intensity of the campaign and the size and placement of the advertisement. For the years ended December 31, 2002, 2003 and 2004, advertising revenue represented approximately 16%, 25% and 42%, respectively, of total net revenue. In 2004, advertising revenue increased approximately 83% over the previous year.

MARKETING AND PROMOTION

We use a number of methods to create awareness of the ARTISTdirect Network and drive traffic to our web sites. We have focused much of our marketing activity on e-mail direct marketing to communicate with registered users of specific artists and the ARTISTdirect Network. Campaigns have included direct notification of special merchandise offers, contests, promotions and music downloads.

COMPETITION

The market for the online promotion and distribution of music and music-related products and services is relatively new, highly competitive and rapidly changing. There are a large number of Web sites competing for the attention and spending of consumers and advertisers, and we expect that number to increase, because there are few barriers to entry to Internet commerce. In addition, the competition for advertising revenue, both on Web sites and in more traditional media, is intense. We compete as follows:

	•	for music consumers and advertisers with providers of music information, community and content such as MTV, America Online, MSN, Yahoo!, Listen.com and various other companies;
	•	with major online music retailers such as Amazon.com in selling music and merchandise;
	•	for music consumers and artist relationships with traditional music industry companies, including Sony BMG Music Entertainment, EMI Music, a unit of EMI Group, Warner Music Group, and Universal Music Group, a unit of Vivendi. Some of these companies have recently established online presences to promote and distribute the music and tours of their respective artists;
	•	for music consumers and advertisers with publishers and distributors of traditional media, such as television, radio and print, including MTV, CMT, Rolling Stone and Spin and their Internet affiliates; and
	•	with traditional retailers targeting music consumers, including Tower Records and Virgin Megastore and their Internet affiliates, in selling music and merchandise.

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Our competitors have worked together to offer music over the Internet, and we may face increased competitive pressures as a result. For instance, RealNetworks, Time Warner, Bertelsmann AG and EMI Group formed MusicNet, a digital music subscription platform featuring on-demand downloads and streaming. Various retailers such as BestBuy have cooperated to distribute music through the iTunes platform.

We believe that we are able to compete primarily on the bases of:

	•	the breadth and quality of our search, database and the community features of our site;
	•	the variety, availability and price of music-related merchandise on our sites; and
	•	the ease of use and consumer acceptance of the ARTISTdirect Network.

Competition is likely to increase significantly as new companies enter the market and current competitors expand their services. Many of our current and potential competitors in the Internet and music entertainment businesses may have substantial competitive advantages over us, including:

	•	longer operating histories;
	•	significantly greater financial, technical and marketing resources;
	•	greater brand name recognition;
	•	larger existing customer bases; and
	•	more popular content or artists.

These competitors may be able to respond more quickly to new or emerging technologies and changes in customer requirements and to devote greater resources to the development, promotion and sale of their products or services than we can. Web sites maintained by our existing and potential competitors may be perceived by consumers, artists, talent management companies and other music-related vendors or advertisers as being superior to ours. In addition, we may not be able to maintain or increase our web site traffic levels, purchase inquiries and number of click-throughs on our online advertisements. Further, our competitors may experience greater growth in these areas than we do. Increased competition could result in advertising price reduction, reduced margins or loss of market share, any of which could harm our business.

GOVERNMENTAL REGULATION

The laws and regulations that govern our business change rapidly. Although our operations are currently based in California, the United States government and the governments of other states and foreign countries have attempted to regulate activities on the Internet. The following are some of the evolving areas of law that are relevant to our business:

CONTENT REGULATION

Federal, state and foreign governments have adopted and proposed laws governing the content of material transmitted over the Internet. These include laws relating to obscenity, indecency, libel and defamation. For example, the Child Online Protection Act, or COPA, prohibits and imposes criminal penalties and civil liability on anyone communicating material harmful to minors through the Internet for commercial purposes, unless access to such material is blocked to minors under age 17. The Third U.S. Circuit Court of Appeals has upheld a preliminary injunction precluding enforcement of COPA. In November 2001, the U.S. Supreme Court heard an appeal but no decision has been issued yet. We could be liable if the injunction against COPA is lifted and if content delivered by us or placed on our web sites violates COPA. On March 6, 2003, the Third U.S. Circuit Court of Appeals issued a ruling that COPA restricts free speech because it is not narrowly focused is enough to only target pornography, and is therefore unconstitutional. The Department of Justice could appeal this ruling to the U.S. Supreme Court.

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PRIVACY LAW

The state of privacy law is unsettled, and rapidly changing. Current and proposed federal, state and foreign privacy regulations and other laws restricting the collection, use and disclosure of personal information could limit our ability to use the information in our databases to generate revenues. In late 1998, the Children’s Online Privacy Protection Act, or COPPA, was enacted, mandating that measures be taken to safeguard minors under the age of 13. The FTC promulgated regulations implementing COPPA on October 21, 1999, which became effective on April 21, 2000. The principal COPPA requirement is that individually identifiable information about minors under the age of 13 not be collected, used or displayed without first obtaining informed parental consent that is verifiable in light of present technology. The FTC final regulations create a “sliding scale” of permissible methods for obtaining such consent. Consent for internal use of the individually identifiable information of children under the age of 13 can be obtained through e-mail plus an additional safeguard, such as confirming consent with a delayed e-mail, telephone call, or letter. Obtaining verifiable consent from a child’s parent to share that child’s information with a third party or enable the child to publicly distribute the information by, for example, allowing unrestricted access to a chat room or message board is significantly more burdensome. While the temporary “sliding scale implementation was due to expire on April 21, 2002, on October 31, 2001, the FTC extended the implementation period through April 21, 2005.

The FTC has required that parental consent for such higher risk activities be verified by more secure methods than e-mail, such as a credit card in connection with a transaction, print-and-sign forms, toll-free numbers staffed by trained operators, or digital signatures. Complying with the new requirements is costly and will likely dissuade some of our customers. While we are attempting to be fully compliant with the FTC requirements, our efforts may not be entirely successful. In addition, at times we rely upon outside vendors to maintain data-collection software, and there can be no assurance that they will at all times comply with our instructions to comply with COPPA. If our methods of complying with COPPA are inadequate, we may face litigation with the FTC or individuals, which would adversely affect our business.

Moreover, we have posted a privacy policy pertaining to all users and visitors to our web site. By doing so, we have subjected ourselves to the jurisdiction of the FTC. Should any of our business practices be found to differ from our privacy policy, we could be subject to sanctions and penalties from the FTC. It is also possible that users or visitors could try to recover damages in a civil action as well.

LAWS GOVERNING SENDING OF UNSOLICITED COMMERCIAL E-MAIL

We typically provide our customers and other visitors to our Web sites with an opportunity to “opt-in,” or agree to receive e-mailings from us. The federal government recently signed the Controlling the Assault of Non-Solicited Pornography and Marketing Act of 2003 (CAN-SPAM) designed to limit unsolicited commercial e-mail commonly referred to as “spam.” In addition, California and a number of other states regulate the sending of e-mails for commercial purposes to third parties where there is no preexisting business relationship. Further, several states give Internet service providers (“ISPs”) a private right of action against those who send large e-mailings across their servers in contravention of the ISP’s posted policy. There is no guarantee that we will always be fully compliant in all of our communications at all times. Our failure to comply with applicable laws regarding these types of e-mails could result in significant fines, actual or statutory damages, and injunctive actions.

CONFORMANCE TO E-COMMERCE STATUTORY REQUIREMENTS FOR FORMATION OF CONTRACTS

We conduct e-commerce on our web sites, and through affiliated web sites. The applicable law on online formation of contracts has been unsettled and is evolving. On June 30, 2000, the federal government enacted the “E-Sign” statute, which in limited cases permits online formation of contracts. Similarly, on January 1, 2000, California adopted a standard version of the Uniform Electronic Transactions Act (“UETA”), which also permits electronic signatures and record-keeping for certain types of contracts. We attempt to comply with these laws, but there is no guarantee that we will be successful. Judicial interpretation of their application could result in customer contracts being set aside or modified. In that case, our e-commerce revenue could be materially adversely affected.

SALES TAX

The tax treatment of goods sold over the Internet is currently unsettled. We collect sales taxes for goods shipped to California and Florida, where we have a physical presence. A number of proposals have been made at the state and local level that would impose additional taxes on the sale of goods through the Internet. Such proposals, if adopted, could substantially impair the growth of electronic commerce and could adversely affect our opportunity to derive financial benefit from electronic commerce. While the

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Internet Tax Freedom Act (ITFA) has placed a moratorium on new state and local taxes on Internet commerce, the tax moratorium expired on November 1, 2003 and has not been re-enacted. At least some state legislatures that will convene during early 2004 have indicated that they will move to expand their sales taxes to cover Internet commerce, if the ITFA is not reinstated. Imposing state sales taxes on Internet-based commerce would adversely affect our business.

ONLINE CONTESTS AND SWEEPSTAKES

We conduct online promotional contests and sweepstakes. No purchase is necessary to participate. Our official rules, with all material terms, conditions of eligibility, dates of participation, methods of entry and limitations, if any, along with the odds and prize offerings, are posted on our web sites. In order to comply with New York and Florida state law, our prizes are limited in value to less than $5,000, or we must comply with those states’ registration and bonding requirements. While we attempt to comply with the law of all fifty state jurisdictions, we may not be uniformly successful, and foreign jurisdictions may attempt to regulate or ban our promotional contests. In that event, we could lose an effective tool for increasing and keeping visitors to our web site, and our business could be adversely affected.

INTELLECTUAL PROPERTY

OUR PROPRIETARY RIGHTS

Copyrighted material that we develop, as well as our service marks and domain names relating to the ARTISTdirect or UBL brands, and other proprietary rights are important to our business prospects. We seek to protect our common-law trademarks through federal registration, but these actions may be inadequate. Where consultants develop copyrighted content for us, our general policy is to use written agreements prior to content creation to obtain ownership of that content. In addition, we principally rely upon trademark, copyright, trade secret and contract law to protect our proprietary rights. We generally enter into confidentiality agreements, “work-made-for-hire” contracts and intellectual property licenses with our employees, consultants and corporate partners, respectively, as part of our efforts to control access to and distribution of our technologies, content and other proprietary information.

Despite our efforts to protect our proprietary rights from unauthorized use or disclosure, parties may attempt to disclose or use our customer lists, Web site content, service marks, domain names or confidential commercial data. The steps that we have taken may not prevent misappropriation of our proprietary rights, particularly in foreign countries where laws or law enforcement practices may not protect our proprietary rights at all, or as fully as in the United States. If third parties were to use or otherwise misappropriate our copyrighted materials, trademarks or other proprietary rights without our consent or approval, our competitive position could be harmed, or we could become involved in costly and distracting litigation to enforce our rights.

OUR WEB SITES FEATURE CONTENT THAT IS COPYRIGHTED BY MULTIPLE THIRD-PARTIES

A copyright gives the owner divisible rights, including those of performance, reproduction and distribution. The music featured by us is typically comprised of copyrighted works owned, controlled or administered by multiple third parties, including record labels, artists, songwriters, music publishers and performance rights and licensing organizations such as The Harry Fox Agency, Broadcast Music Inc. and the American Society of Composers, Authors and Publishers. Each song often has multiple copyright owners, who control rights which may include performance, reproduction and distribution rights in the “musical composition” comprised of the lyrics and music, as well as with the “sound recording” of the artist’s interpretation of the “musical composition.” In the case of music videos, there are separate copyrights to the visual content, as well as “synchronization rights” for integrating the music and video. We, or our artists, may have different licensing arrangements with some or all of these parties to perform, reproduce and distribute works depending upon how the song or music video is used by us.

Our web sites, depending upon the specific musical work, may offer audio streaming of part or all of an entire song or “Web casting,” or the downloading of an entire song in MP3 or other compressed audio formats. Full-length streaming only occurs in special instances after obtaining an oral license from the record label or band manager for the “sound recording.” In that case, an ASCAP or BMI blanket music license is also obtained by us or by our artists for rights to perform the associated underlying “musical composition.” Where we offer full-length downloads of songs in MP3 or other compressed audio formats, we seek to obtain the rights to transmit, reproduce and perform the “sound recording” in writing from the person or entity owning or controlling copyrights in such “sound recording.” With respect to rights in the “musical compositions” embodied in such “sound recordings” offered for download, we seek to clear rights in musical composition in one of the following three ways:

•

a license agreement with the publisher, writer or other owner of such copyright in the “musical composition”;

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	•	a waiver of any fees or royalties that would otherwise be required for such use; or
	•	a representation and warranty from the owner of the copyrights in the “sound recording” that no mechanical royalties are owed to any third parties.

In the event that the foregoing steps are insufficient to clear rights, or we otherwise fail to obtain rights, we could be exposed to claims of copyright infringement, with attendant disruption to our operations and liability including potential statutory or actual damages and loss of profits attributable to infringement, plus payment of attorneys’ fees to the claimant and entry of an injunction.

There are other situations, such as a limited 30-second sample of a song that is “streamed,” where we use content relying upon a sub-license from an artist’s record label. However, the laws in this area are uncertain, and we may be forced to obtain additional licenses or may be prevented from third party content use, and may further be liable to pay actual or statutory damages, profits attributable to any alleged infringement, as well as attorneys’ fees. Our licensing arrangements for third-party content vary from formal contracts to informal agreements based on the promotional nature of the content. In some cases we pay a fee to the licensor for use of the “sound recording,” “musical composition” or music video and in other cases the use is free. We also use other third-party content, including photographs, artist names, likenesses and concert reviews. While it is our general policy to obtain a written release or license for such use, in many instances we rely only upon an oral license for such use. We rely upon our positive working relationships with copyright owners to obtain licenses on favorable terms. Any changes in the nature or terms of these arrangements, including any requirement that we pay significant fees for the use of the content, could have a negative impact on the availability of content or our business.

For example, the Copyright Office recently opined that additional royalties, besides those collected for musical compositions by ASCAP or BMI, are due for webcasted music that is selected by or on behalf of the recipient pursuant to 17 U.S.C. sec. 114(j)(7). If upheld, that ruling would prevent us from expanding our service to permit users to play a requested song via our Web site without paying additional royalties.

LINKING AND FRAMING OF THIRD-PARTY WEB SITES

We link to and “frame” third-party web sites of our artists without express written permission to do so. In addition, in the past we have provided a search feature to allow users to find music residing elsewhere on the Internet. Those practices are controversial, and have, in instances not involving us, resulted in litigation. Various claims, including trademark and copyright infringement, unfair competition, and commercial misappropriation, as well as infringement of the right of publicity may be asserted against us as a result of these practices. The law regarding linking and framing remains unsettled; it is uncertain as to how existing laws, especially trademark and copyright law, will be applied by the judiciary to the Internet. Also, Congress is increasingly active in passing new laws related to the Internet, and there is uncertainty as to the impact of future potential laws, especially those involving domain names, databases and privacy.

DEFAMATION OR CONTRIBUTORY INFRINGEMENT

Our web site features a community area where visitors can post comments We do not censor such comments and it is possible that a customer could use our web sites as a forum to make false, misleading or disparaging remarks about others. Such on-line comments could lead to claims for defamation or infringement. As to libel claims brought in the United States, we believe that we qualify for safe harbor protection for third-party postings under 47 U.S.C. sec. 230(c)(1). However, other countries, notably the United Kingdom, may impose such liability, and it is possible we could be sued there for third-party postings. Separately, our web sites allow consumers to use our personal web publishing tools to post samples of their works. Such postings could be misused to post unlicensed copyrighted content of others. We have obtained limited safe-harbor protection under the recently enacted Digital Millennium Copyright Act against liability for infringing material of which we do not have control and knowledge.

SEASONALITY

The seasonality of our e-commerce segment affects our revenue. Our CDs and other online goods are most often purchased during the holiday season and also during the summer months, traditionally when artists go on tour.

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EMPLOYEES

As of March 31, 2005, we had 15 full-time employees and five part-time consultants. None of our employees is represented by a labor union. We have not experienced any work stoppages and consider our employee relations to be good.

RISK FACTORS

Before investing in our company or deciding to maintain or increase your investment, you should carefully consider the risks described below, in addition to the other information contained in this report and in our other filings with the Securities and Exchange Commission. The risks and uncertainties described below are not the only ones facing our company. Additional risks and uncertainties not presently known to us or that we currently deem immaterial may also affect our business operations. If any of these risks actually occur, our business, financial condition or results of operations could be seriously harmed. In that event, the market price for our common stock could decline and you may lose all or part of your investment.

It Is Difficult To Evaluate Our Business And Prospects Because We Have A Limited Operating History And Rapidly Evolving Business

Our limited operating history and rapidly evolving business make it difficult to evaluate our prospects or to accurately predict our future revenue or results of operations. Our revenue and income potential are unproven, and our business model is constantly and rapidly evolving. In particular, the Internet is constantly changing and we may need to modify our business model to adapt to these changes.

We Have A History Of Operating Losses And Anticipate Losses And Negative Cash Flow For The Foreseeable Future

The Company has incurred losses and negative cash flows from operations in every fiscal period since inception and has an accumulated deficit of $226.0 million as of December 31, 2004. For the year ended December 31, 2004, the Company incurred a net loss of $3.3 million (including $2.2 million from discontinued operations) and negative operating cash flows of $3.5 million. As of December 31, 2004, the Company had a net working capital deficiency of $18.4 million (including liabilities of discontinued operations held for disposal of $18.9 million, almost all of which were liquidated effective February 28, 2005) and a stockholders’ deficiency of $20.3 million. Through December 31, 2003, ADI had funded substantially all of the operations of ARTISTdirect Records. Effective July 30, 2004, ADI’s remaining $12.0 million funding obligation to ARTISTdirect Records was extinguished, and effective February 28, 2005, ADI sold all of its interest in ARTISTdirect Records to Radar Records for a cash payment of $115,000.

During 2003, the Company restructured its operations, laid off most of its staff and reduced operating costs. Subsequently, management has continued its efforts to improve and expand operations and cash flows at its online music network. However, it is uncertain whether the Company’s available cash resources will be sufficient to meet anticipated capital requirements over the next twelve months. If sufficient capital is not available, then the Company may not be able to fund its operations. To the extent that the Company is unable to obtain the capital necessary to fund its future cash requirements on a timely basis and/or under acceptable terms and conditions, the Company will not have sufficient cash resources to maintain operations, and the Company may consider a formal or informal restructuring or reorganization. The conditions described above raise substantial doubt about the Company’s ability to continue as a going concern. The financial statements do not include any adjustments that might result from the outcome of this uncertainty.

Global Sales of Recorded Music Have Recently Declined and This Trend May Continue in the Future

Based on data compiled by RIAA, The Recording Industry Association of America, after declining for four consecutive years, the number of CDs shipped domestically from record companies to retail distribution channels rose 5.3 percent, a 2.7 percent increase in value, in 2004, compared to the previous year. When compared to year-end numbers five years ago, the number of overall units shipped to retail in 2004 is down 21 percent. The decline, in sales had been due in part, to widespread copying and illegal Internet downloading of music, according to the RIAA. If the overall trend continues, it may affect our ecommerce business and have a material affect on our revenues.

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If We are Unable To Grow Our Online Advertising Significantly In The Near Future, Our Business May Be Adversely Affected.

If we do not increase advertising revenue, our business will be adversely affected. Increasing our advertising revenue depends upon many factors, including our ability to:

	•	respond to and anticipate fluctuations in the demand for, and pricing of, online advertising;
	•	develop and maintain key advertising relationships and compete for advertisers with Internet and traditional media companies;
	•	conduct successful selling and marketing efforts aimed at advertising agencies and direct marketing departments;
	•	successfully develop, sell and execute entertainment marketing solutions;
	•	increase the size of our audience and the amount of time that our audience spends on our Web sites;
	•	accurately measure the size and demographic characteristics of our audience;
	•	offer advertisers the means to effectively target their advertisements to our audience; and
	•	increase the amount of revenue per advertisement.

Our failure to achieve one or more of these objectives could impair our ability to increase advertising revenue, which could adversely affect our business. In addition to the above factors, general economic conditions, as well as economic conditions specific to online advertising, electronic commerce and the music industry, could affect our ability to increase our advertising revenue.

We May Not Be Able To Develop Or Obtain Sufficiently Compelling Content To Attract And Retain Our Target Audience

For our business to be successful, we must provide content and services that attract consumers who will purchase music and related merchandise online. We may not be able to provide consumers with an acceptable mix of products, services, information and community to attract them to our Web sites or to encourage them to remain on our Web sites for an extended period of time. If our audience determines that our content does not reflect its tastes, then our audience size could decrease or the demographic characteristics of our audience could change and we may be unable to react to those changes effectively or in a timely manner. Any of these results would adversely affect our ability to attract advertisers and sell music and other related merchandise. Our ability to provide compelling content could be impaired by any of the following:

	•	reduced access to content controlled by record labels, music publishers and artists;
	•	diminished technical expertise and creativity of our production staff; and
	•	inability to anticipate and capitalize on trends in music.

If We Do Not Build And Maintain Strong Brands, We May Not Be Able To Attract A Significant Number Of Users To Our Web Sites

To attract users we must develop a brand identity for ARTISTdirect and increase public awareness of the ARTISTdirect Network; however to conserve cash, we have significantly decreased the amounts we have spent and plan to spend on our offline and online advertising and promotional efforts to increase brand awareness, traffic and revenue. Accordingly, our marketing activities may not result in increased revenue and, even if they do, any increased revenue may not offset the expenses we incur in building our brands. Moreover, despite these efforts we may be unable to increase public awareness of our brands, which would have an adverse effect on our results of operations.

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Our Market Is Highly Competitive And We May Not Be Able To Compete Successfully Against Our Current And Future Competitors

The market for the online promotion and distribution of music and related merchandise is highly competitive and rapidly changing. There are a significant number of Web sites promoting and distributing music and related merchandise that compete for the attention and spending of consumers, advertisers and users. We face competitive pressures from numerous actual and potential competitors. Our competitors include America Online, MSN, Yahoo!, Amazon.com, MTV, other web sites and traditional music companies.

Competition is likely to increase significantly as new companies enter the market and current competitors expand their services. Some of our competitors have announced agreements to work together to offer music over the Internet, and we may face increased competitive pressures as a result. Many of our current and potential competitors in the Internet and music entertainment businesses may have substantial competitive advantages relative to us, including:

	•	longer operating histories;
	•	significantly greater financial, technical and marketing resources;
	•	greater brand name recognition;
	•	larger existing customer bases; and
	•	more popular content or artists.

These competitors may be able to respond more quickly to new or emerging technologies and changes in customer requirements and devote greater resources to develop, promote and sell their products or services than we can. Consumers, artists, talent management companies and other music-related vendors or advertisers may perceive web sites maintained by our existing and potential competitors as being superior to ours. In addition, increased competition could result in reduced advertising rates and margins and loss of market share, any of which could harm our business.

We Depend On A Limited Number Of Suppliers For Music Merchandise, Fulfillment And Distribution and If We Cannot Secure Alternate Suppliers, Our Business May Be Harmed

We rely to a large extent on timely distribution by third parties. During 2004, we relied on two vendors, Alliance Entertainment, and Benn Co. (formerly Old Glory Boutique Distributing, Inc.) to fulfill and distribute our orders for music and related merchandise. During the year ended December 31, 2004, approximately 93% and 7%, respectively, of our total customer orders were fulfilled by Alliance and Benn Co., respectively. We purchase a significant portion of our artist-licensed merchandise from Benn Co. and most all of our compact discs from Alliance. Our contracts with Alliance and Benn Co. expired in August 2003 and April 2003, respectively, and we now operate with these vendors on a month-to-month basis. Our business could be significantly disrupted if Alliance or Benn Co. were to terminate or breach their agreements or suffer adverse developments that affect their ability to supply products to us. If, for any reason, Alliance, Benn Co. or other vendors are unable or unwilling to supply products to us in sufficient quantities and in a timely manner, we may not be able to secure alternative suppliers, on acceptable terms, in a timely manner or at all.

We Depend On Third Party Inventory And Financial Systems And Carrier Services

Because we rely on third parties to fulfill orders, we depend on their systems for tracking inventory and financial data. If our distributors’ systems fail or are unable to scale or adapt to changing needs, or if we cannot integrate our information systems with the systems of any new distributors, we may not have adequate, accurate or timely inventory or financial information. We also rely on third-party carriers for shipments to and from distribution facilities. We are therefore subject to the risks, including employee strikes and inclement weather, associated with our carriers’ ability to provide delivery services to meet our distribution and shipping needs. In the past, both Alliance and we have occasionally experienced an unusually high volume of orders, which resulted in shipping delays to our customers. These delays did not have a material adverse effect, however, our failure to deliver products to our customers in a timely and accurate manner in the future could harm our reputation, our relationship with customers, the ARTISTdirect brand and our results of operations.

Our Business Is Subject To Seasonality, Which Could Adversely Affect Our Operating Results

We have experienced and expect to continue to experience seasonal fluctuations in our online sales. These seasonal patterns will cause quarterly fluctuations in our operating results. In particular, a disproportionate amount of our online sales have been realized during the fourth calendar quarter and during the summer months, traditionally when artists go on tour. Due to our limited operating history,

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it is difficult to predict the seasonal pattern of our online sales and the impact of such seasonality on our business and operating results. Our seasonal online sales patterns may become more pronounced, strain our personnel, warehousing, and order shipment activities and cause our operating results to be significantly less than expected for any given period. This would likely cause our stock price to fall.

We May Be Subject To System Disruptions, Which Could Reduce Our Revenue

Our ability to attract and retain artists, users, advertisers and merchants for our online network depends on the performance, reliability and availability of our Web sites and network infrastructure. Our own staff performs the maintenance and operation of substantially all of our Internet communications hardware and servers. We have periodic maintenance windows, and we experience outages from time to time caused by temporary problems in our own systems or software. While we have implemented procedures to improve the reliability of our systems, these interruptions may continue to occur from time to time. Our users also depend on third party Internet service providers and web site operators for access to our web sites. These entities have experienced significant outages in the past, and could experience outages, delays and other difficulties due to system failures in the future which are unrelated to our systems, but which could nonetheless adversely affect our business.

Computer Viruses, Electronic Break-Ins Or Similar Disruptive Events Could Disrupt Our Online Services

Computer viruses, electronic break-ins or similar disruptive events could disrupt our online services. System disruptions could result in the unavailability or slower response times of our web sites, which would reduce the number of advertisements delivered or commerce conducted on our web sites and lower the quality of our users’ experience. Service disruptions could adversely affect our revenue and, if they were prolonged, would seriously harm our business and reputation. Our business interruption insurance may not be sufficient to compensate us for losses that may occur as a result of these interruptions.

The Loss Of Key Personnel, Including Ted Field or Jonathan Diamond, Could Adversely Affect Our Business Because These Individuals Are Important To Our Business

Our future success depends to a significant extent on the continued services of our senior management, particularly Ted Field and Jonathan Diamond. The loss of either of these individuals would likely have an adverse effect on our business. Competition for personnel throughout our industry is intense and we may be unable to retain these key employees or attract, integrate or retain other highly qualified employees in the future. We have in the past experienced, and we expect to continue to experience, difficulty in hiring and retaining highly skilled employees with appropriate qualifications. If we do not succeed in attracting new personnel or retaining and motivating our current personnel, our business could be adversely affected. Recent changes in corporate governance and securities laws and regulations, such as the Sarbanes-Oxley Act of 2002, could make it more difficult for us to attract and retain qualified executive officers or qualified members of our Board of Directors, particularly to serve on our audit committee.

If We Are Unable To Protect Our Intellectual Property Rights, Our Competitive Position Could Be Harmed Or We Could Be Required To Incur Expenses To Enforce Our Rights

We rely upon registered trademark rights in the United States for our commercial use of the ARTISTdirect, UBL, Ultimate Band List and other brand names and their respective associated domain names, and the ARTISTdirect logo. We seek to protect our trademarks, copyrights and other proprietary rights by registration and other means, but these actions may be inadequate. We have trademark applications pending in several jurisdictions, but our registrations may not be accepted or may be preempted by third parties and/or we may not be able to register our trademarks in all jurisdictions in which we intend to do business. We generally enter into confidentiality or license agreements with our employees, consultants and corporate partners, and generally control access to and distribution of our proprietary information. The steps we have taken may not prevent misappropriation of our proprietary rights, particularly in foreign countries where laws or law enforcement practices may not protect our proprietary rights as fully as in the United States. If third parties were to use or otherwise misappropriate our copyrighted materials, trademarks or other proprietary rights without our consent or approval, our competitive position could be harmed, or we could become involved in litigation to enforce our rights. In addition, policing unauthorized use of our content, trademarks and other proprietary rights could be very expensive, difficult or impossible, particularly given the global nature of the Internet.

Our Access To Copyrighted Content Depends Upon The Willingness Of Content Owners To Make Their Content Available

The music content available on the ARTISTdirect Network is typically comprised of copyrighted works owned or controlled by multiple third parties. Most of the content on our artist-specific web sites is either owned or licensed by the artist. On other parts of the

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ARTISTdirect Network, depending on the nature of the content and how we use the music content, we typically license such rights from publishers, record labels, performing rights societies or artists. We frequently either do not have written contracts or have short-term contracts with copyright owners, and, accordingly, our access to copyrighted content depends upon the willingness of such parties to continue to make their content available. If the fees for music content increase substantially or if significant music content becomes unavailable, our ability to offer music content could be materially limited. We have not obtained a license for some of the content offered on the ARTISTdirect Network, including links to other music-related sites and thirty-second streamed song samples, because we believe that a license is not required under existing law. However, this area of law remains uncertain and may not be resolved for a number of years. When this area of law is resolved, we may be required to obtain licenses for such content, alter or remove the content from our web sites and be forced to pay potentially significant financial damages for past conduct.

Intellectual Property Claims Against Us Could Be Costly And Could Result In The Loss Of Significant Rights

Third parties may assert trademark, copyright, patent and other types of infringement or unfair competition claims against us. If we are forced to defend against any such claims, whether they are with or without merit or are determined in our favor, we may face costly litigation, loss of access to, and use of, content, diversion of technical and management personnel, or product shipment delays. As a result of such a dispute, we may have to develop non-infringing technology or enter into royalty or licensing agreements. Such royalty or licensing agreements, if required, may be unavailable on terms acceptable to us, or at all. While we have resolved all such disputes in the past, we may not be able to do so in the future. If there is a successful claim of infringement against us and we are unable to develop non-infringing technology or license the infringed or similar technology or content on a timely basis, it could harm our business. In addition, we rely on third parties to provide services enabling our online product sales transactions, including credit card processing, order fulfillment, shipping and customer service. We could become subject to infringement actions by third parties based upon our use of intellectual property provided by our third-party providers. It is also possible that we could become subject to infringement actions based upon the content licensed from third parties. Any such claims or disputes could subject us to costly litigation and the diversion of our financial resources and technical and management personnel. Further, if our efforts to enforce our intellectual property rights are unsuccessful or if claims by third parties against ARTISTdirect or the UBL are successful, we may be required to change our trademarks, alter or remove content, pay financial damages, or alter our business practices. These changes of trademarks, alteration of content, payment of financial damages or alteration of practices may adversely affect our business.

If Our Online Security Measures Fail, We Could Lose Visitors To Our Sites And Could Be Subject To Claims For Damage From Our Users, Content Providers, Advertisers And Merchants

Our relationships with consumers would be adversely affected and we may be subject to claims for damage if the security measures that we use to protect their personal information, especially credit card numbers, are ineffective. We rely on security and authentication technology that we license from third parties to perform real-time credit card authorization and verification with our bank. We cannot predict whether events or developments will result in a compromise or breach of the technology we use to protect a customer’s personal information. Our infrastructure may be vulnerable to unauthorized access, physical or electronic computer break-ins, computer viruses and other disruptive problems. Internet service providers have experienced, and may continue to experience, interruptions in service as a result of the accidental or intentional actions of Internet users, current and former employees and others. Anyone who is able to circumvent our security measures could misappropriate proprietary information or cause interruptions in our operations. Security breaches relating to our activities or the activities of third-party contractors that involve the storage and transmission of proprietary information could damage our reputation and our relationships with our content providers, advertisers and merchants. We also could be liable to our content providers, advertisers and merchants for the damages caused by such breaches or we could incur substantial costs as a result of defending claims for those damages. We may need to expend significant capital and other resources to protect against such security breaches or to address problems caused by such breaches. Our security measures may not prevent disruptions or security breaches.

We May Be Subject To Liability If Private Information Provided By Our Users Were Misused

Our privacy policy discloses how we use individually identifiable information that we collect. This policy is displayed and accessible throughout the ARTISTdirect Network. Despite this policy, however, if third persons were able to penetrate our network security or otherwise misappropriate our users’ personal information or credit card information, we could be subject to liability. We could also be subject to liability for claims for unauthorized purchases with credit card information, impersonation or other similar fraud claims, or other misuses of personal information, such as for unauthorized marketing purposes. These claims could result in costly and time-consuming litigation.

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Laws Or Regulations May Adversely Affect Our Ability To Collect Demographic And Personal Information From Users, Or To Display Certain Content On Our Sites, And Could Affect Our Ability To Attract Advertisers

Legislatures and government agencies have adopted and are considering adopting additional laws and regulations regarding the collection, use and disclosure of personal information obtained from individuals when accessing web sites. For example, the Children’s Online Privacy Protection Act restricts the ability of Internet companies to collect information from children under the age of 13 without their parents’ consent. In addition, the Federal Trade Commission and state and local authorities have been investigating Internet companies regarding their use of personal information. Our privacy programs may not conform with laws or regulations that are adopted. In addition, these legislative and regulatory initiatives may adversely affect our ability to collect demographic and personal information from users, which could have an adverse effect on our ability to provide advertisers with demographic information. These initiatives may also affect our ability to conduct electronic commerce.

The European Union has adopted a directive that imposes restrictions on the collection and use of personal data. The directive imposes restrictions that are more stringent than current Internet privacy standards in the United States. If this directive were enforced against us, it could prevent us from collecting data from users in European Union member countries or subject us to liability for use of information in contravention of the directive. Other countries have adopted or may adopt similar legislation. We could incur additional expenses if new regulations regarding the use of personal information are introduced or if government authorities choose to investigate our privacy practices.

In addition, legislatures and government agencies have adopted and are considering adopting additional laws and regulations governing the content of material transmitted over the Internet. These include laws relating to obscenity, indecency, libel and defamation. For example, the Child Online Protection Act, or COPA, prohibits and imposes criminal penalties and civil liability on anyone communicating material harmful to minors through the Internet for commercial purposes, unless access to such material is blocked to minors under age 17. The U.S. Supreme Court has maintained a preliminary injunction precluding enforcement of COPA, pending the decision on questions of COPA’s constitutionality that the U.S. Supreme Court remanded to the Third U.S. Circuit Court of Appeals. We could be liable if the injunction against COPA is lifted and if content delivered by us or placed on our Web sites violates COPA. Such a result may adversely affect our ability to attract users under age 17 and, consequently, may adversely affect our ability to attract advertisers.

We May Continue To Have Contingent Liability Due To Our Issuances Of Certain Unregistered Securities

Prior to our initial public offering, we issued a number of shares and options to purchase shares of our common stock to our employees and to artists and their managers and advisors. Due to the nature of the persons who received these shares and options in addition to our employees and the total number of shares and options issued to them and our employees, the issuance of some of these shares and options did not comply with the requirements of Rule 701 under the Securities Act of 1933, as amended (the “Securities Act”), or any other available exemptions from the registration requirements of Section 5 of the Securities Act, and may not have qualified for any exemption from qualification or registration under applicable state securities laws either.

As a result, in November 2001, we made a rescission offer to all these persons pursuant to a registration statement filed under the Securities Act and pursuant to applicable state securities law. In the rescission offer, we offered to repurchase from these persons all shares purchased by them pursuant to option exercises before the expiration of the rescission offer for an amount equal to the purchase or exercise price paid for these purchased shares, plus interest from the date of purchase until the expiration of the rescission offer, at the current statutory rate per year mandated by the state in which the shares were purchased, or at 7% per year if a “private placement” exemption was available in a particular state or if the shares were otherwise issued in compliance with state law (less any amounts received by those persons who had already sold their shares). We also offered to repurchase all unexercised options granted to these persons at 20% of the option exercise price times the number of option shares, plus interest from the date the options were granted until the rescission offer expires, at the current statutory rate per year mandated by the state in which the options were granted, or at 7% per year if a “private placement” exemption was available in a particular state or if the options were otherwise granted in compliance with state law. The rescission offer was completed in December 2001, resulting in 83,403 shares and 636,740 options being tendered in the rescission offer at a cost to us to repurchase such shares and options of approximately $10.2 million.

The Securities Act does not expressly provide that a rescission offer will terminate a purchaser’s right to rescind a sale of stock that was not registered under the Securities Act as required. Accordingly, we may continue to be contingently liable under the Securities Act to any offerees that rejected the rescission offer. In addition, it is possible that offerees may claim that the consideration offered to them in the rescission offer was insufficient, in which case we may have additional liability.

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We May Be Sued For Content Available Or Posted On Our Website Or Products Through Our Web Sites Or For Linking And Framing Of Third-Party Web Sites

We may be liable to third parties for content published on our web sites and other web sites where our syndicated content appears if the music, artwork, text or other content available violates their copyright, trademark or other intellectual property rights or if the available content is defamatory, obscene or pornographic. Similar claims have been brought, sometimes successfully, against web site operators in the past. We also may be liable for content uploaded or posted by our users on our web sites, such as digitally distributed music files, postings on our message boards, chat room discussions and copyrightable works. In addition, we could have liability to some of our content licensors for claims made against them for content available on our web sites. We also could be exposed to these types of claims for content that may be accessed from our web sites or via links to other web sites or for products sold through our web site. While we have resolved all of these types of claims made against us in the past, we may not be able to do so in the future. We intend to implement measures to reduce exposure to these types of claims, but such measures may not be successful and may require us to expend significant resources. Any litigation as a result of defending these types of claims could result in substantial costs and damages. Our insurance may not adequately protect us against these types of claims or the costs of their defense or payment of damages. We link to and “frame” third-party web sites of our artists without express written permission to do so. In addition, in the past we have provided a search feature to allow users to find music residing elsewhere on the Internet. Those practices are controversial, and have, in instances not involving us, resulted in litigation. Various claims, including trademark and copyright infringement, unfair competition, and commercial misappropriation, as well as infringement of the right of publicity may be asserted against us as a result. The law regarding linking and framing remains unsettled; it is uncertain as to how existing laws, especially trademark and copyright law, will be applied by the judiciary to the Internet. Also, Congress is increasingly active in passing new laws related to the Internet, and there is uncertainty as to the impact of future potential laws, especially those involving domain names, databases and privacy.

We May Need To Change The Manner In Which We Conduct Our Business If Government Regulation Increases

There are currently few laws or regulations that specifically regulate communications or commerce on the Internet. Laws and regulations may be adopted in the future, however, that address issues such as user privacy, pricing, taxation, content, copyrights, distribution, security, and the quality of products and services. Several telecommunications companies have petitioned the Federal Communications Commission to regulate Internet service providers and online services providers in a manner similar to long distance telephone carriers and to impose access fees on these companies. Any imposition of access fees could increase the cost of transmitting data over the Internet. In addition, the growth and development of the market for online commerce may lead to more stringent consumer protection laws, both in the United States and abroad, that may impose additional burdens on us. The United States Congress has enacted Internet laws regarding children’s privacy, copyrights, taxation and the transmission of sexually explicit material. The law of the Internet, however, remains largely unsettled, even in areas where there has been some legislative action. 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 web. Any new, or modifications to existing, laws or regulations relating to the web could adversely affect our business. Prohibition and restriction of Internet content and commerce could reduce or slow Internet use, decrease the acceptance of the Internet as a communications and commercial medium and expose us to liability. Any of these outcomes could have a material adverse effect on our business, results of operations and financial condition. The growth and development of the market for Internet commerce may prompt calls for more stringent consumer protection laws, both in the United States and abroad, that may impose additional burdens on companies conducting business over the Internet.

The Internet Is Subject To Rapid Changes, Which Could Result In Significant Additional Costs

The market for Internet products and services is characterized by rapid change, evolving industry standards and frequent introductions of new technological developments. These new standards and developments could make our existing or future products or services obsolete. Keeping pace with the introduction of new standards and technological developments could result in significant additional costs or prove difficult or impossible for us. The failure to keep pace with these changes and to continue to enhance and improve the responsiveness, functionality and features of our web sites could harm our ability to attract and retain users. Among other things, we will need to license or develop leading technologies, enhance our existing services and develop new services and technologies that address the varied needs of our users.

Our Net Sales Could Be Adversely Affected If We Become Subject To Sales And Other Taxes

If one or more states or any foreign country successfully asserts that we should collect sales or other taxes on our sale of products over the Internet, our net sales and results of operations could be harmed. We do not currently collect sales or other similar taxes for physical shipments of goods into states other than California and Florida. However, one or more states may seek to impose sales tax

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collection obligations on companies, such as ARTISTdirect, which engage in or facilitate online commerce. A number of proposals have been made at the state and local level that would impose additional taxes on the sale of goods and services through the Internet. Such proposals, if adopted, could substantially impair the growth of electronic commerce and could adversely affect our opportunity to derive financial benefit from electronic commerce. Moreover, if any state or foreign country were to successfully assert that we should collect sales or other taxes on the exchange of merchandise on its system, our results of operations could be adversely affected. In addition, any operations in states outside California and Florida could subject our shipments in such states to state sales taxes under current or future laws. Congress has enacted legislation limiting the ability of the states to impose taxes on Internet-based transactions. This legislation, known as the Internet Tax Freedom Act, imposes a moratorium ending on November 1, 2003 on state and local taxes on electronic commerce where such taxes are discriminatory and on Internet access unless such taxes were generally imposed and actually enforced before October 1, 1998. Failure to renew this legislation in the future would allow various states to impose taxes on Internet-based commerce.

ITEM 2. PROPERTIES

     Our principal corporate offices are located in Los Angeles, California, where we sub-lease approximately 2,000 square feet of office space from Radar Pictures Inc., a company owned by our Chairman, Frederick W. Field. During 2003, we terminated a lease on approximately 64,000 feet of office lease that we had previously occupied.

ITEM 3. LEGAL PROCEEDINGS

     In June 2003, we initiated discussions with our landlord regarding the potential termination or restructuring of an office lease that had a term through April 2010. On June 24, 2003, the landlord filed suit against us for unlawful detainer of our premises and in July 2003 the landlord drew down the entire remaining $1.35 million letter of credit that we had provided as a security deposit in conjunction with the execution of the original lease. In September 2003, we reached an agreement to terminate our lease with the landlord. In conjunction with the termination, we issued to the landlord a warrant to purchase 200,000 shares of the Company’s common stock exercisable at $0.50 per share through September 8, 2008. In October 2003, the legal proceedings against the Company were dismissed with prejudice.

     The Company is periodically subject to various pending and threatened legal actions, which arise in the normal course of business. The Company’s management believes that the impact of any such litigation will not have a material adverse impact on the Company’s financial position or results of operations.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

     There were no matters submitted to a vote of security holdings during the fourth quarter of the fiscal year ended December 31, 2004.

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PART II

ITEM 5. MARKET FOR THE REGISTRANT’S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

MARKET INFORMATION

     ARTISTdirect’s common stock is listed for quotation on the Over-The-Counter Bulletin Board under the symbol “ARTD” since May 9, 2003 and was listed on the Nasdaq National Market prior to that date. The following table sets forth the high and low closing sale prices for our common stock as reported by America Online for 2003 and 2004:

HOLDERS

     As of March 29, 2005, the Company had 237 common shareholders of record, excluding 1,145,403 shares held in “street name” by brokerage firms and other nominees who hold shares for multiple investors. The Company estimates that it has a total of approximately 3,000 beneficial common shareholders as of March 29, 2005.

DIVIDENDS

     To date, the Company has not declared or paid any dividends on its common stock. The payment by the Company of dividends, if any, is within the discretion of the board of directors and will depend on the Company’s earnings, if any, its capital requirements and financial condition, as well as other relevant factors. The board of directors does not intend to declare any dividends in the foreseeable future but instead intends to retain earnings for use in the Company’s business operations.

EQUITY COMPENSATION PLAN INFORMATION

     See “ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS — Equity Compensation Plan Information” for information regarding the number of outstanding and reserved options, warrants and other derivative securities under our equity compensation plans.

SALES OF UNREGISTERED SECURITIES

     In September 2003, we issued a warrant to purchase 200,000 shares of common stock at $0.50 per share as partial consideration for an office lease termination. In December 2003, we issued 40,000 shares of common stock to a consultant for services rendered which were valued at $0.50 per share. We made such issuances in reliance upon Section 4(2) of the Securities Act. The parties to whom securities were issued in connection with the foregoing, made an informed investment decision based upon negotiation with us and were provided with access to material information regarding our company. We believe that the party that acquired our securities pursuant to the foregoing had knowledge and experience in financial matters such that such party was capable of evaluating the merits and risks of acquisition of our securities. All certificates representing the shares issued pursuant to the foregoing bear an appropriate legend restricting the transfer of such shares, except in accordance with the Securities Act.

     In September 2003, we issued an option to purchase 259,659 shares of common stock at $0.85 per share, the approximate fair market value of the stock at such time, to Jonathan V. Diamond in connection with his appointment as our President. The option may

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be exercisable until August 15, 2010. 75% of the common stock underlying the options are subject to a repurchase right at $0.85 per share by the Company upon his termination of employment. This repurchase right lapses in three equal installments such that, the repurchase right will lapse entirely upon the third anniversary of his employment. On March 29, 2005, the Board of Directors granted Mr. Diamond a stock option for an additional 200,341 shares, exercisable at $0.79 per share (the current market price on the date of grant) for seven years, vesting monthly over the remaining term of employment contract which is through August 15, 2006. We made such issuance in reliance upon Section 4(2) of the Securities Act.

     From May 2003 through December 31, 2003, ARTISTdirect Records had issued and sold from time to time, an aggregate of $2.048 million in convertible notes (the “Bridge Notes”) to eight individual investors. Of such amount, $898,000 was sold to our Chairman, Ted Field and $100,000 to Jonathan V. Diamond, our President and Chief Executive Officer. During the year ended December 31, 2004, an additional $2.778 million of Bridge Notes were sold to Ted Field. The Bridge Notes accrue interest at 8% per annum, are due two years from the date of issuance, and are convertible into new preferred equity of ARTISTdirect Records as part of its next equity financing. The holders of the Bridge Notes also received warrants with a term of five years to purchase additional equity of ARTISTdirect Records at $0.01 per unit equivalent to the number of units of new equity into which their Bridge Notes are ultimately converted. We made issuances of such notes and warrants in reliance upon Section 4(2) of the Securities Act. The parties to whom securities were issued in connection with the foregoing, made an informed investment decision based upon negotiation with us and were provided with access to material information regarding our company. We believe that the parties that acquired our securities pursuant to the foregoing had knowledge and experience in financial matters such that each such party was capable of evaluating the merits and risks of acquisition of our securities.

     Effective January 9, 2004, we issued to Keith Yokomoto, our former President and Chief Operating Officer, two non-qualified stock options to purchase 10,000 shares and 50,000 shares at $0.50 per share, which was not less than the fair market value on the date of grant, exercisable through January 9, 2011. The option for 10,000 shares was immediately vested upon issuance. The option for 50,000 shares vests in increments of 10,000 shares on February 1, 2004, March 31, 2004, June 30, 2004, September 30, 2004 and December 31, 2004, based on the accomplishment of certain milestones by each respective date, which had not been attained as of March 31, 2004.

     Effective March 29, 2004, we issued to Robert N. Weingarten, our Chief Financial Officer, a stock option to purchase 120,000 shares at $0.50 per share, which was not less than the fair market value on the date of grant, exercisable through March 29, 2011. The option vests and becomes exercisable in a series of 36 successive equal monthly installments upon the optionee’s completion of service measured from March 29, 2004. On March 29, 2005, the Board granted Mr. Weingarten an additional stock option for 110,000 shares, exercisable at $0.79 (the current market price on the date of grant) for seve