SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the quarterly period ended March 31, 2004
OR
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the transition period from _________ to ________
Commission file number 1-13469
MediaBay, Inc.
- --------------------------------------------------------------------------------
(Exact name of Registrant as Specified in its Charter)
Florida 65-0429858
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(State or other jurisdiction of (I.R.S. Employment
incorporation or organization) Identification No.)
2 Ridgedale Avenue, Cedar Knolls, New Jersey 07927
- --------------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (973) 539-9528
--------------
Indicate by checkmark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Exchange Act during the past 12 months
(or for shorter period that the registrant was required to file such reports)
and (2) has been subject to such filing requirement for the past 90 days.
Yes [X] No [ ]
Indicate by check mark whether the Registrant is an accelerated filer as defined
in Rule 12b-2 of the Securities Exchange Act of 1934. Yes [ ] No |X|
Indicate the number of shares outstanding of each of the Registrant's classes of
common equity, as of the latest practical date.
As of May 14, 2004, there were 18,463,624 shares of the Registrant's Common
Stock outstanding.
1
MEDIABAY, INC.
Quarter ended March 31, 2004
Form 10-Q
MEDIABAY, INC.
Index
Page
----
PART I: Financial Information
Item 1: Financial Statements (unaudited)
Consolidated Balance Sheets at March 31, 2004 and
December 31, 2003, (unaudited) 3
Consolidated Statements of Operations for the
three months ended March 31, 2004 and 2003 (unaudited) 4
Consolidated Statements of Cash Flows for the
three months ended March 31, 2004 and 2003 (unaudited) 5
Notes to Consolidated Financial Statements (unaudited) 6
Item 2: Management's Discussion and Analysis of Financial Condition
and Results of Operations 16
Item 3: Quantitative and Qualitative Disclosures of Market Risk 27
Item 4: Controls and Procedures 28
PART II: Other Information
Item 2: Changes in Securities and Use of Proceeds 28
Item 6: Exhibits and Reports on Form 8-K 29
Signatures 31
2
PART I: FINANCIAL INFORMATION
ITEM 1: FINANCIAL STATEMENTS
MEDIABAY, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS)
(UNAUDITED)
MARCH 31, DECEMBER 31,
2004 2003
--------- ---------
ASSETS
Current Assets:
Cash and cash equivalents ............................................... $ 933 $ 683
Accounts receivable, net of allowances for sales returns and doubtful
accounts of $3,540 and $4,446 at March 31, 2004 and December 31,
2003, respectively ................................................... 1,995 3,264
Inventory ............................................................... 4,181 4,063
Prepaid expenses and other current assets ............................... 322 215
Royalty advances ........................................................ 1,317 804
--------- ---------
Total current assets ................................................. 8,748 9,029
Fixed assets, net .......................................................... 241 227
Deferred member acquisition costs .......................................... 2,535 3,172
Deferred income taxes ...................................................... 14,753 14,753
Other intangibles .......................................................... 41 54
Goodwill ................................................................... 9,658 9,658
--------- ---------
$ 35,976 $ 36,893
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses ................................... $ 7,958 $ 10,268
Accounts payable, related party ......................................... 672 826
Common stock subject to contingent put rights, current portion .......... 350 350
Short-term debt, net of original issue discount of $1,550 and $274 at
March 31, 2004 and December 31, 2003, respectively ................... 8,239 7,107
Related party short-term debt, net of original issue discount of $35
and $142 at March 31, 2004 and December 31, 2003, respectively ....... 11,033 10,643
--------- ---------
Total current liabilities ............................................ 28,252 29,194
--------- ---------
Common stock subject to contingent put rights .............................. 750 750
--------- ---------
Commitments and Contingencies .............................................. -- --
Preferred stock, no par value, authorized 5,000,000 shares; 25,000 shares of
Series A and 3,350 shares of Series B issued and
outstanding at March 31, 2004 and December 31, 2003 ..................... 2,828 2,828
Common stock; no par value, authorized 150,000,000 shares; issued and
outstanding 13,065,414 and 13,057,414 at March 31, 2004 and December
31, 2003, respectively .................................................. 94,567 94,567
Contributed capital ........................................................ 12,762 11,569
Accumulated deficit ........................................................ (103,183) (102,015)
--------- ---------
Total stockholders' equity ................................................. 6,974 6,949
--------- ---------
$ 35,976 $ 36,893
========= =========
See accompanying notes to consolidated financial statements.
3
MEDIABAY, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
THREE MONTHS ENDED
MARCH 31,
2004 2003
------------ ------------
Sales, net of returns, discounts and allowances of $1,926 and $2,131
for the three months ended March 31, 2004 and 2002, respectively $ 5,684 $ 10,697
Cost of sales 2,570 5,234
------------ ------------
Gross profit 3,114 5,463
Expenses:
Advertising and promotion 1,359 2,847
Bad debt expense 398 1,005
General and administrative 1,560 2,470
Depreciation and amortization 47 99
------------ ------------
Operating loss (250) (958)
Interest expense 854 523
------------ ------------
Loss before income taxes (1,104) (1,481)
Income taxes -- --
------------ ------------
Net loss (1,104) (1,481)
Dividends on preferred stock 64 56
------------ ------------
Net loss applicable to common shares $ (1,168) $ (1,537)
============ ============
Basic and diluted loss per common share:
Basic loss per common share $ (.09) $ (.11)
============ ============
Diluted loss per common share $ (.09) $ (.11)
============ ============
See accompanying notes to consolidated financial statements.
4
MEDIABAY, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
(UNAUDITED)
THREE MONTHS ENDED
MARCH 31,
2003 2004
------------ ------------
Cash flows from operating activities:
Net loss applicable to common shares $ (1,168) $ (1,537)
Adjustments to reconcile net loss to net cash provided by operating
activities:
Depreciation and amortization 47 99
Amortization of deferred member acquisition costs 855 1,575
Amortization of deferred financing costs and original issue discount 424 119
Non-current accrued interest and dividends payable 389 261
Non-cash stock compensation 48 --
Changes in asset and liability accounts, net of asset acquisition:
Decrease in accounts receivable, net 1,269 1,305
(Increase) decrease in inventory (118) 33
(Increase) decrease in prepaid expenses (137) (353)
(Increase) decrease in royalty advances (513) (31)
Increase in deferred member acquisition costs (218) (1,163)
(Decrease) increase in accounts payable and accrued expenses (2,492) 74
------------ ------------
Net cash (used in) provided by operating activities (1,614) 382
------------ ------------
Cash flows from investing activities:
Acquisition of fixed assets (47) (11)
Intangible assets acquired -- (243)
------------ ------------
Net cash used in investing activities (47) (254)
------------ ------------
Cash flows from financing activities:
Proceeds from issuance of short-term debt 4,000 --
Payment of long-term debt (1,538) (510)
Increase in deferred financing costs (551) (5)
------------ ------------
Net cash (used in) provided by financing activities 1,911 (515)
------------ ------------
Net increase (decrease) in cash and cash equivalents 250 (387)
Cash and cash equivalents at beginning of period 683 397
------------ ------------
Cash and cash equivalents at end of period $ 933 $ 10
============ ============
See accompanying notes to consolidated financial statements.
5
MEDIABAY, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
(1) ORGANIZATION
MediaBay, Inc. (the "Company"), a Florida corporation, was formed on August
16, 1993. MediaBay, Inc. is a marketer of spoken audio products, including
audiobooks and old-time radio shows, through direct response, retail and
Internet channels. The Company markets audiobooks primarily through its Audio
Book Club. Its old-time radio programs are marketed through direct-mail
catalogs, over the Internet at RadioSpirits.com and, on a wholesale basis, to
major retailers.
(2) SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The interim unaudited condensed consolidated financial statements should be
read in conjunction with the Company's audited consolidated financial statements
contained in its Annual Report on Form 10-K. The preparation of financial
statements in accordance with accounting principles generally accepted in the
United States of America requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities, the disclosure of
contingent assets and liabilities at the date of the financial statements, and
the reported amounts of revenue and expenses during the reporting period. Actual
results could differ from these estimates. On an ongoing basis management
reviews its estimates based on current available information. Changes in facts
and circumstances may result in revised estimates. In the opinion of management,
the interim unaudited financial statements include all material adjustments, all
of which are of a normal recurring nature, necessary to present fairly the
Company's financial position, results of operations and cash flows for the
periods presented. The results for any interim period are not necessarily
indicative of results for the entire year or any other interim period.
Revenue Recognition
The Company derives its principal revenue through sales of audiobooks,
classic radio shows and other spoken word audio products directly to consumers
principally through direct mail. The Company also sells classic radio shows to
retailers either directly or through distributors. The Company derives
additional revenue through rental of its proprietary database of names and
addresses to non-competing third parties through list rental brokers. The
Company also derives a small amount of revenue from advertisers included in its
nationally syndicated classic radio shows. The Company recognizes sales to
consumers, retailers and distributors upon shipment of merchandise. List rental
revenue is recognized on notification by the list brokers of rental by a third
party when the lists are rented. The Company recognizes advertising revenue upon
notification of the airing of the advertisement by the media buying company
representing the Company. Allowances for future returns are based upon
historical experience and evaluation of current trends.
Shipping and Handling Revenue and Costs
Amounts paid to the Company for shipping and handling by customers is
included in sales. Amounts the Company incurs for shipping and handling costs
are included in cost of sales. The Company recognizes shipping and handling
revenue upon shipment of merchandise. Shipping and handling expenses are
recognized on a monthly basis from invoices from the third party fulfillment
houses, which provide the services.
Cost of Sales
Cost of sales includes the following:
o Product costs (including heavily discounted audiobooks and
old-time radio programs in the initial enrollment offer to
prospective members and customers)
o Royalties to publishers and rightsholders
o Fulfillment costs, including shipping and handling
6
o Customer service
o Direct response billing, collection and accounts receivable
management.
Cooperative Advertising and Related Selling Expenses
The Company classifies the cost of certain credits, allowances, adjustments
and payments given to customers for the services or benefits provided as a
reduction of net sales.
Stock-Based Compensation
The Company accounts for employee stock options in accordance with
Accounting Principles Board Opinion No. 25 ("APB 25"), "Accounting for Stock
Issued to Employees." In October 1995, SFAS No. 123, "Accounting for Stock-Based
Compensation" ("SFAS 123") was issued. SFAS 123, which prescribes the
recognition of compensation expense based on the fair value of options on the
grant date, allows companies to continue applying APB 25 if certain pro forma
disclosures are made assuming a hypothetical fair value method application. Had
compensation expense for the Company's stock options been recognized on the fair
value on the grant date under SFAS 123, the Company's net loss and net loss per
share for the three months ended March 31, 2004 and 200332 would have been as
follows:
THREE MONTHS ENDED MARCH 31,
2004 2003
------------ ------------
Net loss applicable to common shares, as reported $ (1,168) $ (1,537)
Add: Stock-based employee compensation expense included
in reported net loss applicable to common
shares, net of related tax effects -- --
Deduct: Total stock-based employee compensation expense
determined under fair value based method for all
awards, net of related tax effects (1,163) (36)
------------ ------------
Pro forma net loss applicable to common shares $ (2,331) $ (1,573)
============ ============
Net loss per share
Basic and diluted - as reported $ (.09) $ (.11)
============ ============
Basic and diluted - pro forma $ (.18) $ (.11)
============ ============
No dividend yield and the following assumptions were used in the pro forma
calculation of compensation expense:
NO. OF EXERCISE ASSUMED RISK-FREE FAIR VALUE
DATE SHARES PRICE VOLATILITY INTEREST RATE PER SHARE
---- ------ ----- ---------- ------------- ---------
FIRST QUARTER 2004 1,650,000 $.99-$1.86 97% 4.00% $.66-$.75
FIRST QUARTER 2003 40,000 $1.50 165% 4.85% $.98
Income Taxes
Income taxes are accounted for under the asset and liability method.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amount of existing assets and liabilities and their respective tax
basis and operating loss and tax credit carryforwards. A valuation allowance is
provided when it is more likely than not that some portion or all of the
deferred tax assets will not be realized. Deferred tax assets and liabilities
are measured using enacted tax rates expected to apply to taxable income in the
years in which those temporary differences are expected to be recovered or
settled. The effect on deferred tax assets and liabilities of a change in tax
rates is recognized in the period that includes the enactment date.
7
Deferred Member Acquisition Costs
Promotional costs directed at current members are expensed on the date the
promotional materials are mailed. The cost of any premiums, gifts or the
discounted audiobooks or radio programs in the promotional offer to new members
is expensed as incurred. The Company accounts for direct response advertising
for the acquisition of new members in accordance with AICPA Statement of
Position 93-7, "Reporting on Advertising Costs" ("SOP 93-7"). SOP 93-7 states
that the cost of direct response advertising (a) whose primary purpose is to
elicit sales to customers who could be shown to have responded specifically to
the advertising and (b) that results in probable future benefits should be
reported as assets net of accumulated amortization. Accordingly, the Company has
capitalized direct response advertising costs and amortizes these costs over the
period of future benefit, which has been determined to be generally 30 months
for Audio Book Club advertising costs and 18 months for World's Greatest
Old-Time Radio continuity program. The costs are being amortized on accelerated
basis consistent with the recognition of related revenue.
Royalties
The Company is liable for royalties to licensors based upon revenue earned
from the respective licensed product. The Company pays certain of its publishers
and other rightsholders advances for rights to products. Royalties earned on the
sale of the products are payable only in excess of the amount of the advance.
Advances, which have not been recovered through earned royalties, are recorded
as an asset. Advances not expected to be recovered through royalties on sales
are charged to royalty expense.
Reclassifications
Certain prior year amounts have been reclassified to conform to the current
year presentation.
(3) GOODWILL AND OTHER INTANGIBLES
In June 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 142, "Goodwill and Other
Intangible Assets" ("SFAS 142"). The Company adopted SFAS 142 on January 1,
2002. SFAS 142 changed the accounting for goodwill and indefinite-lived
intangible assets from an amortization method to an impairment-only approach.
Goodwill and indefinite-lived intangible assets are tested for impairment
annually or when certain triggering events require such tests and are written
down, with a resulting charge to operations, only in the period in which the
recorded value of goodwill and indefinite-lived intangible assets is more than
their fair value.
The Company amortizes other intangible assets over their estimated useful
lives over periods from three to seven years. Other intangible assets primarily
relate to mailing and non-compete agreements, customer lists, and license
agreements associated with the Company's Audio Book Club and Radio Spirits
divisions. Amortization expense for other intangible assets was $13 and $59 for
the three months ended March 31, 2004 and 2003, respectively. The Company
estimates intangible amortization expenses of the following:
9 months ended December 31, 2004 $ 10
2005 8
2006 8
2007 9
2008 --
---------
Total $ 35
=========
8
The following table presents details of Other Intangibles at March 31, 2004
and December 31, 2003:
March 31, 2004 December 31, 2003
-------------------------------- --------------------------------
Accumulated Accumulated
Cost Amortization Net Cost Amortization Net
---- ------------ --- ---- ------------ ---
Mailing Agreements $ 592 $ 592 $ -- $ 592 $ 592 $ --
Customer Lists 4,380 4,380 -- 4,380 4,380 --
Non-Compete Agreements 313 277 36 313 264 49
Other 5 -- 5 5 -- 5
-------- -------- -------- -------- -------- --------
Total Other Intangibles $ 5,290 $ 5,249 $ 41 $ 5,290 $ 5,236 $ 54
======== ======== ======== ======== ======== ========
Goodwill of $9,658 as of March 31, 2004 and December 31, 2003 is
attributable to the Company's Radio Spirits business. . The Company completed
its annual impairment tests as of October 31, 2003, which did not result in an
impairment loss.
(4) SHORT-TERM DEBT
AS OF
MARCH 31, DECEMBER 31,
2004 2003
---------- ----------
January 2004 Convertible Debt and related accrued ...... $ 2,579 $ --
interest, net of original issue discount
Credit agreement, senior secured bank debt ............. 1,386 $ 2,925
Subordinated debt ...................................... 3,200 3,200
October 2003 Notes and related accrued interest, net of
original issue discount ................................ 1,074 982
Related party notes and related accrued interest, net of
original issue discount ................................ 11,033 10,643
---------- ----------
$ 19,272 $ 17,750
========== ==========
JANUARY 2004 CONVERTIBLE DEBT
On January 29, 2004, the Company issued $4,000 aggregate principal amount
of promissory notes (the "January 2004 Notes") and warrants to purchase
2,352,946 shares of common stock (the "Investor Warrants") to institutional and
accredited investors (the "Offering"). The notes were due on the earlier of (i)
April 30, 2005, (ii) such date on or after July 1, 2004 at such time as all of
the Company's indebtedness under its existing credit facility is either repaid
or refinanced or (iii) the consummation by the Company of a merger, combination
or sale of all or substantially all of the Company's assets or the purchase by a
single entity, person or group of affiliated entities or persons of 50% of the
Company's voting stock. The January 2004 Notes bore interest at the rate of 6%,
increasing to 9% on April 28, 2004 and 18% on July 27, 2004. On receipt of
Shareholder approval, which was received on April 12, 2004, in accordance with
the terms of the January 2004 Notes, the principal amount of the notes
automatically converted into common Stock at the rate of one share of common
stock at $0.75, or approximately 5,333,333 shares. In addition accrued interest
in the amount $49 also converted into common stock at $0.75 per share, or 64,877
shares.
In connection with the Offering, the Company issued to Rockwood, Inc.
("Rockwood"), the placement agent, and a broker warrants to purchase an
aggregate of 245,000 shares of common stock and also issued to Rockwood warrants
to purchase an additional 500,884 shares of Common Stock on April 12, 2004 as
partial consideration for Rockwood's services as placement agent. All warrants
issued are exercisable until January 28, 2009 at an exercise price of $1.28 per
share.
In connection with the Offering, a principal shareholder and a company
wholly owned by him (collectively, "Principal Shareholder") entered into a
letter agreement (the "Letter Agreement") with the purchasers of January 2004
Notes in the Offering pursuant to which the Principal Shareholder granted to the
holders of the Notes in the event of an Event of Default (as defined in the
Notes) the rights to receive
9
payment under certain secured indebtedness owed by the Company to the Principal
Shareholder and to exercise their rights under security agreements securing such
secured indebtedness. Pursuant to the Letter Agreement, the Principal
Shareholder also executed Powers of Attorney in favor of a representative of the
January 2004 Note holders pursuant to which such representative may, following
an Event of Default, take actions necessary to enforce the Note holders rights
under the Letter Agreement, including enforcing the Principal Shareholder's
rights under the security agreements.
(5) STOCKHOLDERS' EQUITY AND STOCK OPTIONS AND WARRANTS
Stock Options and Warrants
From January 1, 2004 to March 31, 2004, the Company issued options to
purchase 1,650,000 shares of its common stock to certain employees and
consultants to the Company under its 2001 Stock Option plan. The Company also
cancelled options to purchase 1,500,000 shares of its common stock and options
to purchase 152,500 shares of its common stock expired. In addition to the
2,597,946 non-plan warrants issued in connection with the January 2004
Convertible Debt described in Note 4 above, the Company cancelled non-plan
warrants to purchase 25,000 shares of its common stock. Non-plan warrants to
purchase 8,000 shares of our common stock at $.10 were exercised during the
three months ended March 31, 2004.
(6) NET LOSS PER SHARE OF COMMON STOCK
Basic loss per share was computed using the weighted average number of
common shares outstanding for the three months ended March 31, 2004 and 2003 of
13,060,051 and 14,341,376, respectively.
For the three months ended March 31, 2004, common equivalent shares, which
were not included in the computation of diluted loss per share because they
would have been anti-dilutive were 289,943 common equivalent shares, as
calculated under the treasury stock method and 21,856353 common equivalent
shares relating to convertible subordinated debt and preferred stock calculated
under the "if-converted method". Interest expense on the convertible
subordinated debt added back to net loss would have been $340 and preferred
dividends added back to net loss applicable to common shares would have been $65
for the three months ended March 31, 2004.
For the three months ended March 31, 2003, common equivalent shares, which
were not included in the computation of diluted loss per share because they
would have been anti-dilutive were 986,894 common equivalent shares, as
calculated under the treasury stock method and 16,634,000 common equivalent
shares relating to convertible subordinated debt and preferred stock calculated
under the "if-converted method". Interest expense on the convertible
subordinated debt added back to net loss would have been $278 and preferred
dividends added back to net loss applicable to common shares would have been $56
for the three months ended March 31, 2003.
(7) SUPPLEMENTAL CASH FLOW INFORMATION
Cash paid for interest expense was $180 and $147 for the three months ended
March 31, 2004 and 2003, respectively.
(8) SEGMENT REPORTING
For 2004 and 2003, the Company has divided its operations into four
reportable segments: Corporate; Audio Book Club ("ABC") a membership-based club
selling audiobooks via direct mail and on the Internet; Radio Spirits ("RSI")
which produces, sells, licenses and syndicates old-time radio programs and
MediaBay.com a media portal offering spoken word audio content in secure digital
download formats. Segment operating income is total segment revenue reduced by
operating expenses identifiable with that business segment. Corporate includes
general corporate administrative costs, professional fees, interest expenses and
amortization of acquisition related costs. The Company evaluates performance and
allocates resources among its three operating segments based on operating income
and opportunities for growth. The Company did not expend any funds or receive
any income in the three months ended March 31, 2004 and 2003 from its newest
subsidiary RadioClassics. Inter-segment sales are recorded at prevailing sales
prices.
10
SEGMENT REPORTING
THREE MONTHS ENDED MARCH 31, 2004 INTER-
CORPORATE ABC RSI MBAY.COM SEGMENT TOTAL
--------- -------- -------- -------- ------- --------
Sales, net of returns, discounts $ -- $ 3,726 $ 1,940 52 (34) $ 5,684
and allowances
Operating profit (loss) (522) (90) 482 (120) -- (250)
Depreciation and amortization 13 25 9 -- -- 47
Interest expense 853 -- 1 -- -- 854
Dividends on Preferred Stock 64 -- -- -- -- 64
Net (loss) income applicable to (1,439) (90) 481 (120) -- (1,168)
common shares
Total assets -- 22,065 13,983 -- (72) 35,976
Acquisition of fixed assets -- 38 9 -- -- 47
SEGMENT REPORTING
THREE MONTHS ENDED MARCH 31, 2003 INTER-
CORPORATE ABC RSI MBAY.COM SEGMENT TOTAL
--------- -------- -------- -------- ------- --------
Sales, net of returns, discounts $ -- $ 8,106 $ 2,600 17 (26) $ 10,697
and allowances
Operating profit (loss) (1,225) 334 85 (157) 5 (958)
Depreciation and amortization -- 74 25 -- -- 99
Interest expense 519 -- 4 -- -- 523
Dividends on Preferred Stock 56 -- -- -- -- 56
Net (loss) income applicable to (1,800) 334 81 (157) 5 (1,537)
common shares
Total assets -- 30,170 16,549 -- (60) 46,659
Acquisition of fixed assets -- 10 1 -- -- 11
(9) RECENT ACCOUNTING PRONOUNCEMENTS
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock Based
Compensation", which amends SFAS No. 123 to provide alternative methods of
transaction for an entity that voluntarily changes to the fair value method of
accounting for stock based compensation. It also amends the disclosure
provisions of SFAS No. 123 to require prominent disclosure about the effects on
reported net income of an entity's accounting policy decisions with respect to
stock based employee compensation. Finally, SFAS No. 148 amends APB Opinion No.
28, "Interim Financial Reporting", to require disclosure of those effects in
interim financial statements. SFAS No. 148 is effective for fiscal years ended
after December 15, 2002, but early adoption is permitted. Accordingly, the
Company has adopted the applicable disclosure requirements of this Statement
within this report. The adoption of SFAS No. 148 did not have a significant
impact on the Company's financial disclosures.
In January 2003, the FASB issued FIN 46, "Consolidation of Variable
Interest Entities," which is effective for interim periods beginning after
December 15, 2003. This interpretation changes the method of determining whether
certain entities should be included in the Company's consolidated financial
statements. An entity is subject to FIN 46 and is called a variable interest
entity ("VIE") if it has (1) equity that is insufficient to permit the entity to
finance its activities without additional subordinated financial support from
other parties, or (2) equity investors that cannot make significant decisions
about the entity's operations or that do not absorb the expected losses or
receive the expected returns of the entity. All other entities are evaluated for
consolidation under SFAS No. 94, "Consolidation of All Majority-Owned
Subsidiaries." A VIE is consolidated by its primary beneficiary, which is the
party involved with the VIE that has a majority of the expected losses or a
majority of the expected residual returns or both. The Company has evaluated FIN
46 and it had no impact on its financial position or results of operations.
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 33 on
Derivative Instruments and Hedging Activities", which amends and clarifies
accounting for derivative instruments, including certain derivative instruments
embedded in other contracts, and for hedging activities that fall within the
scope of SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities". SFAS No. 149 amends SFAS No. 133 regarding implementation issues
raised in relation to the application of the definition of a derivative. The
amendments set forth in SFAS No. 149 require that contracts with comparable
characteristics be accounted for similarly. This Statement is effective for
contracts entered into or modified after June 30, 2003, with certain exceptions,
and for hedging relationships designated after June 30, 2003. The adoption of
SFAS No. 149 did not have a material impact on the Company's financial position
or results of operations.
11
On May 15, 2003, the FASB issued SFAS No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity." SFAS
150 provides guidance on classification and measurement of certain financial
instruments with characteristics of both liabilities and equity. The Company
reclassified certain items to debt as a result of the SFAS 150.
(10) SUBSEQUENT EVENTS
Stock Options
From April 1, 2004 to May 14, 2004 options to purchase 7,000 shares of
MediaBay common stock were cancelled or expired.
Conversion of January 2004 Convertible Notes
On April 12, 2004 shareholder approval was received for the issuance of
5,899,094 shares of MediaBay common stock. As a result of the approval, the
January 2004 Notes were converted into 5,333,333 shares of common stock in
accordance with the terms of the January 2004 Notes. In addition, accrued
interest in the amount $49 also converted into common stock at $0.75 per share,
or 64,877 shares.
The Company also issued to Rockwood warrants to purchase an additional
500,884 shares of Common Stock on April 12, 2004 as partial consideration for
Rockwood's services as placement agent for the Offering. All warrants issued are
exercisable until January 28, 2009 at an exercise price of $1.28 per share.
New Credit Agreement and Related Transactions
On April 28, 2004, MediaBay entered into a new credit agreement ("New
Credit Agreement") by and among MediaBay and certain of its subsidiaries, the
guarantors signatory thereto, Zohar CDO 2003-1, Limited ("Zohar") as lender, and
Zohar, as agent, pursuant to which MediaBay and certain of its subsidiaries
initially borrowed $9,500,000. The initial term of the New Credit Agreement is
one year and it is extendable, at MediaBay's sole option, for two additional
one-year terms upon issuance of additional notes of $600,000 for the first
additional year and $300,000 for the second additional year, provided there is
no event of default. The loan bears interest at the rate of LIBOR plus 10%. In
the first year of the loan, a fee of $900 has been added to the principal
balance, which will be reflected as debt discount and will be accreted to
interest expense over the next twelve months. The New Credit Agreement contains
certain positive and negative covenants, including, beginning with the quarter
ending September 30, 2004, the maintenance of certain minimum levels of EBITDA,
as defined in the New Credit Agreement.
MediaBay used a portion of the $8,600 of funds received under the New
Credit Agreement to satisfy all of its outstanding obligations under (i)
promissory notes that it issued in October 2003 in the aggregate principal
amount of $1,065, and (ii) its prior Credit Agreement, which had an outstanding
principal balance of approximately $1,386. MediaBay also repaid $1,600 principal
amount of the $3,200 principal amount convertible note issued to ABC Investment,
L.L.C. MediaBay issued a new $1,600 note (the "New ABC Note") for the remaining
principal amount. The New ABC Note extends the maturity date from December 31,
2004 to July 29, 2007. In exchange for extending the maturity date, the
conversion price of the New ABC Note was reduced to $0.50. The closing sale
price of MediaBay's Common Stock on the closing date was $0.48.
The Principal Shareholder and an affiliate of the principal shareholder,
which holds a $500 principal amount note and 25,000 shares of Series A
Convertible Preferred Stock, consented to the New Credit Agreement and the other
transactions described above and entered into a subordination agreement with
Zohar. The New Credit Agreement requires the aggregate amount of principal and
interest owed by MediaBay to the Principal Shareholder and the affiliate of the
Principal Shareholder be reduced to $6,800 ("Permissible Debt") by June 1, 2004,
and that the Permissible Debt be further reduced by up to an additional $1,800
if MediaBay does not raise at least $2,000 in additional equity in each of the
next two years.
On April 28, 2004, to reduce its debt to $6,800, the Principal Shareholder
agreed, subject to, and automatically upon, the receipt of a fairness opinion
from an independent investment banking firm, to
12
exchange the principal of its $500 Note, $1,000 Note, $150 Note and $350 Note,
plus accrued and unpaid interest owed to the Principal Shareholder aggregating
$1,833 and accrued and unpaid dividends owed to the Principal Shareholder
aggregating $519 into an aggregate of 43,527 shares of Series C Preferred Stock
convertible into (i) an aggregate of 5,580,384 shares of Common Stock at an
effective conversion price of $0.78, and (ii) warrants to purchase an aggregate
of 11,160,768 shares of Common Stock. The Warrants will be exercisable until
April 28, 2014 at an exercise price of $0.53. The Series C Preferred stock has a
liquidation preference of $100 per share. The transaction described above will
result in a charge to earnings for inducement to exchange the debt for equity
pursuant to FAS 48. The remaining promissory notes held by the Principal
Shareholders and its affiliate are guaranteed by certain subsidiaries of the
Company and secured by a lien on the assets of the Company and certain
subsidiaries of the Company. If the amount of the Permissible Debt is required
to be reduced due to MediaBay's failure to raise the requisite additional
equity, such reduction will automatically occur by the exchange of Permissible
Debt for additional shares of Series C Preferred Stock in an aggregate
liquidation preference equal to the amount of debt exchanged and warrants to
purchase a number of shares of common stock equal to two times the number of
shares of preferred stock issuable upon conversion of the Series C Preferred
Stock.
Settlement of Put Obligations
MediaBay has also entered into a settlement agreement, dated as of April 1,
2004, with Premier Electronic Laboratories, Inc. ("Premier"). Pursuant to the
settlement, among other things, MediaBay will pay Premier $950 in exchange for
Premier waiving its right to put its shares of Common Stock to MediaBay pursuant
to a Put Agreement dated December 11, 1998. MediaBay's obligation under the Put
Agreement was reduced by $150 in exchange for relinquishing certain leases for
real property. MediaBay paid $14 on closing and will pay the remaining balance
over six years in monthly payments starting at $7 in July 2004 and increasing to
$19 from May 2007 through April 2010.
The following pro forma balance sheet reflects the effects of the
following:
o Conversion of the January 2004 Convertible Debt, less the unamortized
portion of offering fees and expenses which totaled $541, to common
stock on April 12, 2004, the date of stockholder approval, as if the
transactions had occurred on March 31, 2004.
o The New Credit Agreement ("New Credit Agreement") entered into on
April 28, 2004 as if it was concluded on March 31, 2004.
o Payment of outstanding indebtedness under:
(i) Promissory notes issued in October 2003 in the aggregate
principal amount of $1,065, plus accrued interest,
(ii) The prior Credit Agreement, which had an outstanding principal
balance of approximately $1,386, and related fees of $55 and
(iii) $1,600 principal amount of the $3,200 principal amount
convertible note issued to ABC Investment, L.L.C.,
o The issuance of a new $1,600 note to ABC Investment LLC for the
remaining balance and extension of the maturity date of the new note
$1,600 from December 31, 2004 to July 29, 2007,
o Extension of the related party debt to the earlier of June 28, 2007 or
90 days after repayment of the New Credit Facility and
o The execution of the settlement agreement with Premier.
13
PRO FORMA BALANCE SHEET
HISTORICAL PRO FORMA
MARCH 31, PRO FORMA MARCH 31,
2003 ADJUSTMENTS NOTES 2003
---------- ---------- ---------- ----------
ASSETS
Current Assets:
Cash and cash equivalents $ 933 $ 4,052 1 $ 4,909
(21) 2
(55) 3
Accounts receivable, net 1,995 1,995
Inventory 4,181 4,181
Prepaid expenses and other current assets 322 322
Royalty advances 1,317 1,317
---------- ---------- ----------
Total current assets 8,748 3,976 12,724
Fixed assets, net 241 241
Deferred member acquisition costs 2,535 2,535
Deferred income taxes 14,753 14,753
Other intangibles 41 41
Goodwill 9,658 9,658
---------- ---------- ----------
$ 35,976 $ 3,976 $ 39,952
========== ========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses $ 7,958 ($7) 2 $ 7,951
Accounts payable, related parties 672 672
Contingent put rights, current portion 350 (26) 2 --
(324) 4
Short-term debt, net 8,239 (1,600) 1 12
(1,162) 1
88 1
(1,386) 1
12 2
(4,040) 5
998 5
463 5
(1,600) 6
Related party short-term debt, net 11,033 (11,033) 7 --
---------- ---------- ----------
Total current liabilities 28,252 (19,617) 8,635
---------- ---------- ----------
Long-term debt, net 8,200 1 10,465
1,600 6
665 4
Related party long-term debt, net 11,033 7 11,033
Contingent put rights 750 (750) 4 --
---------- ---------- ----------
Commitments and Contingencies
Preferred stock 2,828 2,828
Common stock 94,567 4,040 5 98,607
Contributed capital 12,762 259 4 17,012
3,991 8 --
Accumulated deficit (103,183) (998) 1 (108,628)
(3,991) 8
(88) 1
(55) 3
(463) 5
150 4
---------- ---------- ----------
Total stockholders' equity 6,974 2,845 9,819
---------- ---------- ----------
$ 35,976 3,976 $ 39,952
========== ========== ==========
NOTES:
1. To reflect the execution of the New Credit Agreement, including the
incurrence of $9,500 of indebtedness and receipt of $8,600 from the
New Credit Agreement, less payment of October 2003 Notes, the ING
Credit Agreement, $1,600 of the ABC Note and approximately $400 of
legal and other costs associated with the New Credit Agreement,
recording of new debt obligation, net of debt discount, and write-off
to expense of debt discounts related to the October 2003 Notes
2. To reflect the payment totaling $14 under the Premier settlement and
$7 in accrued expenses owed to Premier made at the time of settlement.
14
3. To reflect the payment of fees upon payment of the ING Credit
Agreement.
4. To reflect a reduction in the amounts due to Premier based on the
settlement, an increase in paid-in-capital due to lower settlement
amount and a gain on termination of lease agreements with Premier.
5. To reflect the conversion of January 2004 Notes to equity and the
write-off of the debt discount, including the value of warrants issued
and expenses incurred.
6. To reflect the extension of new ABC Note to July 29, 2007.
7. To reflect the extension of related party debt to the earlier of (i)
90 days following repayment of New Credit Agreement or June 28, 2007.
8. To record the beneficial conversion expense upon conversion of the
January 2004 Notes.
15
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
FORWARD-LOOKING STATEMENTS
Certain statements in this Form 10-Q constitute "forward-looking"
statements within the meaning of the Private Securities Litigation Reform Act of
1995. All statements other than statements of historical facts included in this
Report, including, without limitation, statements regarding the our future
financial position, business strategy, budgets, projected costs and plans and
objectives of our management for future operations are forward-looking
statements. In addition, forward-looking statements generally can be identified
by the use of forward-looking terminology such as "may," "will," "expect,"
"intend," "estimate," "anticipate," "believe," or "continue" or the negative
thereof or variations thereon or similar terminology. Although we believe that
the expectations reflected in such forward looking statements are reasonable, we
cannot assure you that such expectations will prove to be correct. These forward
looking statements involve certain known and unknown risks, uncertainties and
other factors which may cause our actual results, performance or achievements to
be materially different from any results, performances or achievements express
or implied by such forward-looking statements. Important factors that could
cause actual results to differ materially from our expectations, include,
without limitation, our history of losses; our ability to anticipate and respond
to changing customer preferences, license and produce desirable content, protect
our databases and other intellectual property from unauthorized access, collect
receivables; dependence on third-party providers, suppliers and distribution
channels; competition; the costs and success of our marketing strategies;
product returns; member attrition and other risks detailed in our Annual Report
on Form 10-K for the year ended December 31, 2003. Undue reference should not be
placed on these forward-looking statements, which speak only as of the date
hereof. We undertake no obligation to update any forward-looking statements.
INTRODUCTION
We are a seller of spoken audio and nostalgia products, including
audiobooks and old-time radio shows, through direct response, retail and
Internet channels. Our content and products are sold in multiple formats,
including physical (cassette and compact disc) and secure digital download
formats.
We report financial results on the basis of four business segments:
Corporate, Audio Book Club, Radio Spirits and MediaBay.com. A fifth division,
RadioClassics, is aggregated with Radio Spirits for financial reporting
purposes. Except for corporate, each segment serves a unique market segment
within the spoken word audio industry.
We derive our principal revenue through sales of audiobooks, classic radio
shows and other spoken word audio products directly to consumers principally
through direct mail. We also sell classic radio shows to retailers either
directly or through distributors. We derive additional revenue through rental of
our proprietary database of names and addresses to non-competing third parties
through list rental brokers. We also derive a small amount of revenue from
advertisers who advertise on our nationally syndicated classic radio shows.
Our business is dependent on attracting and retaining members in Audio Book
Club. We continually monitor the cost to acquire new members, their buying
behavior and the attrition rate of members. Any changes to these metrics could
have a significant impact on our business.
The preparation of financial statements requires us to make estimates and
judgments that affect the reported amounts of assets, liabilities, revenues and
expenses, and related disclosures of contingent assets and liabilities. We
record reductions to our revenues for future returns and record an estimate of
future bad debts arising from current sales in general and administrative
expenses. These allowances are based upon historical experience and evaluation
of current trends. If the financial condition of our customers, including either
individual consumers or retail chains, were to deteriorate or if the payment
behavior were to change, resulting in either their inability or refusal to make
payment to us, additional allowances would be required. We capitalize
16
direct response marketing costs for the acquisition of new members and amortize
these costs over the period of probable future benefits. In order to determine
the amount of advertising to be capitalized and the manner and period over which
the advertising should be amortized, we prepare estimates of probable future
revenues arising from the direct-response advertising in excess of future costs
to be incurred in realizing those revenues. We record an estimate of our
anticipated bad debt expense based on our historical experience.
The ultimate realization of deferred tax assets is dependent on the
generation of future taxable income during the periods in which temporary timing
differences become deductible. Although realization of net deferred tax assets
is not assured, management has determined that it is more likely than not that a
portion of our deferred tax asset relating to temporary differences between the
tax bases of assets or liabilities and their reported amounts in the financial
statements will be realized in future periods.
CRITICAL ACCOUNTING POLICIES
Our discussion and analysis of our financial condition and results of
operations are based on our consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States of America. The preparation of financial statements requires us to
make estimates and judgments that affect the reported amounts of assets,
liabilities, revenues and expenses, and related disclosures of contingent assets
and liabilities. On an on-going basis we evaluate our estimates including those
related to product returns, bad debts, the carrying value and net realizable
value of inventories, the recoverability of advances to publishers and other
rightsholders, the future revenue associated with deferred advertising and
promotion costs, investments, fixed assets, the valuation allowance provided to
reduce our deferred tax assets and valuation of goodwill and other intangibles.
The Securities and Exchange Commission ("SEC") defines "critical accounting
policies" as those that require application of management's most difficult,
subjective or complex judgments, often as a result of the need to make estimates
about the effect of matters that are inherently uncertain and may change in
subsequent periods.
Our significant accounting policies are described in Note 2 to the Notes to
Consolidated Financial Statements. Not all of these significant accounting
policies require management to make difficult, subjective or complex judgments
or estimates. However the following policies are considered to be critical
within the SEC definition:
Revenue Recognition
We derive our principal revenue through sales of audiobooks, classic radio
shows and other spoken word audio products directly to consumers principally
through direct mail. We also sell classic radio shows to retailers either
directly or through distributors. We derive additional revenue through rental of
our proprietary database of names and addresses to non-competing third parties
through list rental brokers. We also derive a small amount of revenue from
advertisers included in our nationally syndicated classic radio shows. We
recognize sales to consumers, retailers and distributors upon shipment of
merchandise. List rental revenue is recognized on notification by the list
brokers of rental by a third party when the lists are rented. We recognize
advertising revenue upon notification of the airing of the advertisement by the
media buying company representing us. Allowances for future returns are based
upon historical experience and evaluation of current trends. The historical
return rates for ABC members have been consistent for the past year and our
estimate is based on a detailed historical examination of trends. Based on the
current performance and historical trends, we do not expect significant changes
in the estimate of returns for ABC members. The estimate of returns for
wholesale sales of our old-time radio products is based on a detailed review of
each significant customer, depending on the amount of products sold to a
particular customer in a specific periods, the overall return rate for wholesale
sales could vary.
We record reductions to our revenue for future returns and record an
estimate of future bad debts arising from current sales in general and
administrative expenses. These allowances are based upon historical experience
and evaluation of current trends. If members and customers return products to us
in the future at higher rates than in the past or than we currently anticipate,
our net sales would be reduced and our operating results would be adversely
affected. In November 2001, the Emerging Issues Task Force ("EITF") issued EITF
No. 01-9, "Accounting for Consideration Given by a Vendor to a Customer
(Including a Reseller of the
17
Vendor's Products)", which addresses the income statement classification of
certain credits, allowances, adjustments, and payments given to customers for
the services or benefits provided. We adopted EITF No. 01-9 effective January 1,
2002, and, as such, have classified the cost of these sales incentives as a
reduction of sales.
Deferred Member Acquisition Costs
We are required to capitalize direct response marketing costs for the
acquisition of new members in accordance with AICPA Statement of Position 93-7
"Reporting on Advertising Costs" and amortize these costs over the period of
probable future benefits. In order to determine the amount of advertising to be
capitalized and the manner and period over which the advertising should be
amortized, we prepare estimates of probable future revenues arising from the
direct-response advertising in excess of future costs to be incurred in
realizing those revenues. If future revenue does not meet our estimates or if
members buying patterns were to shift, adjustments to the amount and manner of
amortization would be required.
Accounts Receivable Valuation
We record an estimate of our anticipated bad debt expense and return rates
based on our historical experience. If the financial condition of our customers,
including either individual consumers or retail chains, were to deteriorate, or
if the payment or buying behavior were to change, resulting in either their
inability or refusal to make payment to us, additional allowances would be
required.
Income Taxes
The ultimate realization of deferred tax assets is dependent on the
generation of future taxable income during the periods in which temporary timing
differences become deductible. Although realization of net deferred tax assets
is not assured, we have determined that it is more likely than not that a
portion of our deferred tax asset relating to temporary differences between the
tax bases of assets or liabilities and their reported amounts in the financial
statements will be realized in future periods. We determine the utilization of
deferred tax assets in the future based on our current year projections of
future periods.
At March 31, 2004, we have a remaining net deferred tax asset in the amount
of $14.8 million. Should we determine we would be able to realize deferred tax
assets in the future in excess of the net recorded amount, an adjustment to our
deferred tax asset would increase income in the period such determination is
made. Likewise, should we determine that we will not be able to realize all or
part of our net deferred tax asset in the future, an adjustment to the deferred
tax asset would be recorded as an increase to the valuation allowance, resulting
in a deferred tax expense charged against income in the period such
determination is made.
Goodwill
Goodwill represents the excess of the purchase price over the fair value of
net assets acquired in business combinations accounted for using the purchase
method of accounting. In July 2001, the Financial Accounting Standards Board
issued SFAS No. 142, "Goodwill and Other Intangible Assets". SFAS No. 142
requires that an intangible asset that is acquired shall be initially recognized
and measured based on its fair value. The statement also provides that goodwill
should not be amortized, but shall be tested for impairment annually, or more
frequently if circumstances indicate potential impairment, through a comparison
of fair value to its carrying amount. At March 31, 2004, we had $9.7 million of
goodwill, all of which related to our Radio Spirits operations. If conditions or
circumstances were to change resulting in a deterioration of our Radio Spirits
business, a future impairment of goodwill could be necessary.
18
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, historical operating
data as a percentage of net sales.
THREE MONTHS ENDED MARCH 31,
2004 2003
------- -------
Sales.......................................... 100% 100%
Cost of sales.................................. 45.2 48.9
Gross profit................................... 54.8 51.1
Advertising and promotion...................... 23.9 26.6
Bad debt expense 7.0 9.4
General and administrative expense............. 27.4 23.1
Depreciation and amortization expense.......... .8 .9
Interest expense, net.......................... 15.0 4.9
Income tax expense (benefit)................... -- --
------- -------
Net (loss)..................................... (19.4) (13.8)
Dividends on preferred stock................... 1.1 .5
------- -------
Net (loss) applicable to common shares......... (20.5)% (14.3)%
======= =======
RESULTS OF OPERATIONS
Three months ended March 31, 2004 compared to three months ended March 31,
2003:
NET SALES
CHANGE FROM
($000'S) -----------
2003 2004 2003 TO 2004 % CHANGE
---- ---- ------------ --------
AUDIO BOOK CLUB $ 8,106 $ 3,727 $(4,379) (54.0)%
----------------------------------------------------------
RADIO SPIRITS
Catalog 1,196 923 (273) (22.8)%
Wholesale 730 569 (161) (22.1)%
Continuity 648 413 (235) (36.3)%
----------------------------------------------------------
2,574 1,905 (669) (26.0)%
----------------------------------------------------------
MEDIABAY.COM 17 52 35 205.9%
----------------------------------------------------------
$ 10,697 $ 5,684 $ 5,013 (46.9)%
==========================================================
Audio Book Club sales decreased principally due to a decrease in club
membership as a result of a substantial reduction in our advertising
expenditures for new members. For the three months ended March 31, 2004, the
Audio Book Club spent $242,000 to attract new members, a reduction of $535,000,
or 68.9%, from the amount spent to attract new members of $777,000 during the
three months ended March 31, 2003. The lack of advertising spending occurred
throughout the year ended December 31, 2003. For the year ended December 31,
2003, the Audio Book Club spent $2.1 million to attract new members, a reduction
of $6.2 million, or 74.7%, from the amount spent to attract new members of $8.3
million during the year ended December 31, 2002. Audio Book Club attracted
approximately 134,000 new members in the year ended December 31, 2003 as
compared to approximately 290,000 new members in the year ended December 31,
2002. Audio Book Club attracted approximately 11,000 new members in the three
months ended March31, 2004 as compared to approximately 61,000 new members in
the three months ended March 31, 2003.
The decrease in Radio Spirits catalog sales of $273,000, or 22.8%, is
principally attributable to reduced catalog mailings. We spent $135,000, or
49.2%, less in catalog mailings during the three months ended March 31, 2004 as
compared to the spending during the three months ended March 31, 2003. Wholesale
sales of old-time radio products decreased principally due to reduced sales at
two major customers in the first
19
quarter of 2004. Sales of our World's Greatest Old-Time Radio continuity program
decreased for the three months ended March 31, 2004, as compared to the three
months ended March 31, 2003, principally due to the reduction in our advertising
expenditures for new members. For the three months ended March 31, 2004, we
spent $5,000 to attract new continuity customers, a reduction of $606,000, or
99.2% less, from the amount spent to attract new customers of $611,000 during
the three months ended March 31, 2003.
COST OF SALES
$ (000's) 2003 2004
------------------------------------------------------
AS A % AS A % FROM 2003 TO 20004
$ OF NET SALES $ OF NET SALES CHANGE % CHANGE
----------- ------------- ------- ------------ -------- ---------
AUDIO BOOK CLUB $ 3,741 46.2% $ 1,656 44.4% $ (2,085) (55.8)%
----------------------------------------------------------------------------------
RADIO SPIRITS
Catalog 607 50.8% 387 41.9% (220) (36.2)%
Wholesale 423 57.9% 348 61.2% (75) (17.8)%
Continuity 460 71.0% 179 43.3% (281) (61.1)%
----------------------------------------------------------------------------------
Total Radio Spirits 1,490 57.9% 914 48.0% (576) (38.7)%
----------------------------------------------------------------------------------
MEDIABAY.COM 3 -- -- -- (3)
----------------------------------------------------------------------------------
$ 5,234 48.9% $ 2,570 45.2% $ (2,664) (50.9)%
==================================================================================
The principal reason for the decline in cost of sales at Audio Book Club
was a reduction in sales of 54.4% as described above. Cost of sales as a
percentage of sales at Audio Book Club for the three months ended March 31, 2004
was 44.4%, compared to 46.2% for 2002. The decrease in cost of sales as a
percentage of sales is principally due to a reduced number of heavily discounted
books sold to new members since a lower number of new members were added in the
three months ended March 31, 2004 as compared to the three months ended March
31, 2003.
The principal reason for the decline in cost of sales at Radio Spirits was
a reduction in sales of 24.7% as described above. As a percentage of sales, cost
of sales at Radio Spirits decreased to 48.4% for the three months ended March
31, 2004 from 58.8% for the three months ended March 31, 2003. Cost of catalog
sales decreased as a percentage of sales to 39.0% for the three months ended
March 31, 2004 as compared to 49.9% for the three months ended March 31, 2003
principally due to fewer sales of discounted items. The cost of wholesale sales
as percentage of sales increased to 67.1% for the three months ended March 31,
2004 as compared to 62.2% for the three months ended March 31, 2003 principally
because to a higher portion of our 2004 sales were of products and to customers
where we earn less gross profit and because we sold heavily discounted product
in the first quarter of 2004 in an effort to reduce our inventory. The cost of
World's Greatest Old-Time Radio continuity sales as a percentage of sales
decreased to 43.3% from 71.0%. The continuity sales for the three months ended
March 31, 2003 included heavily discounted introductory merchandise designed to
attract new buyers, since we did very little new customer marketing in the three
months ended March 31, 2004, very little of the product sales were of heavily
discounted products.
ADVERTISING AND PROMOTION
FROM 2003 TO 2004
2003 2004 CHANGE % CHANGE
---- ---- ------ --------
($000'S)
AUDIO BOOK CLUB
New Member $ 777 $ 242 $ (535) (68.9)%
Current Member 606 302 (304) (50.2)%
-------------------------------------------------
Total Audio Book Club 1,383 544 (839) (60.7)%
-------------------------------------------------
20
RADIO SPIRITS
Catalog 316 170 (146) (46.2)%
Wholesale 10 3 (7) (70.0)%
Continuity 617 5 (612) (99.2)%
-------------------------------------------------
Total Radio Spirits 943 178 (765) (81.1)%
-------------------------------------------------
NEW PROJECTS 47 -- (47)
--------------------------------------
TOTAL SPENDING 2,373 722 (1,651) (69.6)%
AMOUNT CAPITALIZED (1,101) (218)
AMOUNT AMORTIZED 1,575 855
-------------------------
ADVERTISING AND PROMOTION EXPENSE $ 2,847 $ 1,359
=========================
Advertising and promotion expenses decreased $1.5 million to $1.4 million
for the three months ended March 31, 2004 as compared to $2.9 million in the
prior comparable period. Actual advertising expenditures for the three months
ended March 31, 2004 decreased $1.7 million to $.7 million from $2.4 million
during the three months ended March 31, 2003. The decrease was due to the lack
of funds to market for new members and customers during the three months ended
March 31, 2004 and the reduction in Audio Book Club membership due to normal
attrition with no marketing to replace leaving members.
BAD DEBT EXPENSE
$ (000's) 2003 2004
------------------------------------------------------
AS A % AS A % FROM 2003 TO 20004
$ OF NET SALES $ OF NET SALES CHANGE % CHANGE
----------- ------------- ------- ------------ -------- ---------
AUDIO BOOK CLUB $959 11.8% $ 356 9.5% $ (603) (62.9)%
----------------------------------------------------------------------------------
RADIO SPIRITS
Catalog -- -- -- -- - --
Wholesale 4 0.6% 4 0.7% - --
Continuity 42 6.5% 38 9.2% (4) (9.5)%
----------------------------------------------------------------------------------
46 1.8% 42 2.2% (4) (8.7)%
----------------------------------------------------------------------------------
MEDIABAY.COM -- -- -- -- -- --
----------------------------------------------------------------------------------
$1,005 9.4% $ 398 7.00% $ (607) (60.4)%
===================================================================================
The principal reason for the decline in bad debt expense at Audio Book Club
was a reduction in net sales of 54.0% as described above. Bad debt expense as a
percentage of net sales at Audio Book Club for the three months ended March 31,
2004 was 9.5%, compared to 11.8% for the three months ended March 31, 2003. The
decrease in bad debt expense as a percentage of net sales is principally due to
a reduced number of new members, who typically have higher bad debt expense,
since a lower number of new members were added in the three months ended March
31, 2004 as compared to the three months ended March 31, 2003.
General and Administrative
$ (000's) 2003 2004
------------------------------------------
AS A % AS A % FROM 2002 TO 2003
$ OF NET SALES $ OF NET SALES CHANGE % CHANGE
------- ------------ ------- ------------ ------ --------
AUDIO BOOK CLUB $ 767 9.4% $ 669 17.9% $ (98) (12.8)%
RADIO SPIRITS 363 14.3% 205 10.9% (158) (43.5)%
MEDIABAY.COM 170 171 1 (.6)%
CORPORATE 1,165 509 (656) (56.3)%
--------------------------------------------------------------
$ 2,465 23.0% $ 1,554 27.3% $ (911) (37.0)%
==============================================================
21
The decrease in general and administrative expenses for the three months
ended March 31, 2004 as compared to the three months ended March 31, 2003 at
Audio Book Club is principally due to a reduction in personnel, as a result of a
restructuring, which occurred in September 2003 partially offset by increased
consulting fees as some of our computer and Internet maintenance were
outsourced. The decrease in general and administrative expenses for the three
months ended March 31, 2004 as compared to the three months ended March 31, 2003
at Radio Spirits is principally due to a reduction in personnel, as a result of
a restructuring, which occurred in September 2003, and a reduction in commission
expense due to reduced wholesale sales. The reduction in corporate general and
administrative expenses for the three months ended March 31, 2004 as compared to
the three months ended March 31, 2003 is principally due to a reduction in
personnel, as a result of a restructuring, a reduction in accounting fees due
principally to a change in our auditors and reduction in legal expenses. During
the three months ended March 31, 2003, we incurred legal fees in connection with
litigation in which we were the plaintiff. The litigation was settled in June
2003 resulting in a settlement agreement, in which Audio Book Club received
$350,000 in cash, the return for cancellation of 325,000 shares of MediaBay
common stock issued in connection with the acquisition and the termination of
put rights granted to the seller in an acquisition with respect to 230,000 of
the shares (put rights with respect to the remaining 95,000 shares had
previously terminated). The termination of the put rights terminated a $3.5
million future contingent obligation of MediaBay and resulted in a corresponding
increase in stockholders' equity.
DEPRECIATION AND AMORTIZATION
2003 2004
---------- ----------
$ (000's)
DEPRECIATION
- ------------
AUDIO BOOK CLUB $ 27 $ 25
RADIO SPIRITS 13 9
---------- ----------
TOTAL DEPRECIATION 40 34
AMORTIZATION
- ------------
CORPORATE 59 13
---------- ----------
TOTAL DEPRECIATION AND
AMORTIZATION $ 99 $ 47
========== ==========
The decrease in depreciation and amortization expenses for the three months
ended March 31, 2004 as compared to the three months ended March 31, 2003 is
principally attributable to reductions in the amortization of intangibles, which
had been fully amortized or written off during the year ended December 31, 2003.
Interest Expense
FROM 2003 TO 2004
2003 2004 CHANGE % CHANGE
---- ---- ------ --------
$ (000'S)
TOTAL INTEREST PAID 147 180 33 22.4%
ACCRUED INTEREST PAID THIS PERIOD (70) (74) 4 5.7%
------ ------ ------ ------
CURRENT INTEREST PAID $ 77 $ 106 $ 29 (37.7)%
INTEREST ACCRUED 66 -- (66) 100%
INTEREST INCLUDED IN DEBT 261 323 62 23.8%
AMORTIZATION OF DEFERRED
FINANCING COSTS AND
ORIGINAL ISSUE DISCOUNT 119 425 306 257.1%
------ ------ ------ ------
TOTAL INTEREST EXPENSE $ 523 $ 854 $ 331 63.3%
====== ====== ====== ======
The increase in interest expenses is principally due to the increase in
amortization of debt discount and deferred financing fees. Amortization of debt
discount and deferred financing fees for the three months ended March 31, 2004
was $425,000 as compared to $119,000 for the three months ended March 31, 2003.
22
The increase in amortization of deferred financing fees is principally
attributable to amortization of deferred debt discount on the January 2004
Notes.
PREFERRED STOCK DIVIDENDS
2003 2004
---- ----
$ (000'S)
DIVIDENDS ACCRUED ON SERIES A PREFERRED STOCK 56 56
DIVIDENDS ACCRUED ON SERIES B PREFERRED STOCK -- 8
TOTAL DIVIDENDS ACCRUED ON PREFERRED STOCK ---------- ----------
$ 56 $ 64
========== ==========
The increase in preferred stock dividends for the three months ended March
31, 2004 as compared to the three months ended March 31, 2003 is due to the
accrual of dividends for Series B Preferred Stock issued May 2003.
Our Principal Shareholder agreed, subject to, and automatically upon, the
receipt of a fairness opinion from an independent investment banking firm, to
exchange the principal of certain notes, plus accrued and unpaid interest owed
to the Principal Shareholder aggregating $1.8 million and accrued and unpaid
dividends owed to the Principal Shareholder aggregating $519 into an aggregate
of 43,527 shares of Series C Preferred Stock convertible into (i) an aggregate
of 5,580,384 shares of Common Stock at an effective conversion price of $0.78,
and (ii) warrants to purchase an aggregate of 11,160,768 shares of Common Stock.
The Series C Preferred Stock will accrue dividends at the rate of 9% per annum.
Assuming receipt of the fairness opinion and no other changes to our capital
structure preferred dividends which would be deducted from net income to common
stock holders would be approximately $635 in the twelve months ending April 30,
2005.
LOSS APPLICABLE TO COMMON STOCKHOLDERS
FROM 2002 TO 2003
2003 2004 CHANGE % CHANGE
---- ---- ------ --------
$ (000'S)
LOSS APPLICABLE TO COMMON STOCKHOLDERS $ 1,537 $ 1,168 $ 369 24.0%
======== ========= ======= =====
Principally because of lower expenses as described above, partially offset
by lower sales due in large part to reduced spending on new member and customer
advertising and lower wholesale sales at Radio Spirits, our net loss applicable
to common shares for the three months ended March 31, 2004 decreased $369,000 to
$1.2 million, or $.09 per diluted share as compared to a net loss applicable to
common shares for the three months ended March 31, 2003 of $1.5 million, or $.11
per diluted share of common stock.
23
LIQUIDITY AND CAPITAL RESOURCES
Historically, we have funded our cash requirements through sales of equity
and debt securities and borrowings from financial institutions and our principal
shareholders.
January 2004 Convertible Debt
On January 29, 2004, we issued $4.0 million aggregate principal amount of
promissory notes (the "Notes") and warrants to purchase 2,352,946 shares of
common stock (the "Investor Warrants") to institutional and accredited investors
(the "Offering"). The notes were due on the earlier of (i) April 30, 2005, (ii)
such date on or after July 1, 2004 at such time as all of our indebtedness under
our existing credit facility is either repaid or refinanced or (iii) our
consummation of a merger, combination or sale of all or substantially all of our
assets or the purchase by a single entity, person or group of affiliated
entities or persons of 50% of the our voting stock. The notes bore interest at
the rate of 6%, increasing to 9% on April 28, 2004 and 18% on July 27, 2004. On
receipt of Shareholder approval, which was received on April 12, 2004, in
accordance with the terms of the Notes, the principal amount of the notes
automatically converted into common Stock at the rate of one share of common
stock at $0.75, or approximately 5,333,333 shares. In addition accrued interest
in the amount $49,000 also converted into common stock at $0.75 per share, or
64,877 shares.
In connection with the Offering, we issued to Rockwood, Inc. ("Rockwood"),
the placement agent, and a broker warrants to purchase an aggregate of 245,000
shares of common stock and also issued to Rockwood warrants to purchase an
additional 500,884 shares of common stock on April 12, 2004 as partial
consideration for Rockwood's services as placement agent. All warrants issued
are exercisable until January 28, 2009 at an exercise price of $1.28 per share.
We used a portion of the proceeds of the offering to repay $1,250,000 of
principal due on our prior credit Agreement with ING and Patriarch Capital (the
"ING Credit Agreement").
New Credit Agreement and related Financing Transactions
On April 28, 2004, we entered into a new credit agreement ("New Credit
Agreement") by and among MediaBay and certain of its subsidiaries, the
guarantors signatory thereto, Zohar CDO 2003-1, Limited ("Zohar") as lender, and
Zohar, as agent, pursuant to which we and certain of our subsidiaries initially
borrowed $9.5 million. The initial term of the New Credit Agreement is one year
and it is extendable, at our sole option, for two additional one-year terms upon
issuance of additional notes of $600,000 for the first additional year and
$300,000 for the second additional year, provided there is no event of default.
The loan bears interest at the rate of LIBOR plus 10%. In the first year of the
loan, a fee of $900,000 has been added to the principal balance, which will be
reflected as debt discount and will be accreted to interest expense over the
next twelve months. We used a portion of the $8.6 million of funds received
under the New Credit Agreement to satisfy all of its outstanding obligations
under (i) promissory notes that it issued in October 2003 in the aggregate
principal amount of $1.0 million, and (ii) the ING Credit Agreement, which had
an outstanding principal balance of approximately $1.4 million. We also repaid
$1.6 million principal amount of a $3.2 million principal amount convertible
note issued to ABC Investment, L.L.C. We issued a new $1.6 million note (the
"New ABC Note") for the remaining principal amount. The New ABC Note extends the
maturity date from December 31, 2004 to July 29, 2007. In exchange for extending
the maturity date, the conversion price of the New ABC Note was reduced to
$0.50. The closing sale price of MediaBay's Common Stock on the closing date was
$0.48.
Norton Herrick ("Herrick"), a principal shareholder of the Company,
Huntingdon Corporation ("Huntingdon"), a company wholly-owned by Herrick, and N.
Herrick Irrevocable ABC Trust (the "Trust"), of which Herrick is the beneficiary
and Howard Herrick, a principal shareholder of the Company, is the trustee,
consented to the New Credit Agreement and the other transactions described above
and entered into a subordination agreement with Zohar. The New Credit Agreement
requires the aggregate amount of principal and interest owed by MediaBay to
Herrick, Huntingdon and the Trust be reduced to $6,800,000 ("Permissible Debt")
by June 1, 2004, and that the Permissible Debt be further reduced by up to an
24
additional $1,800,000 if MediaBay does not raise at least $2,000,000 in
additional equity in each of the next two years.
On April 28, 2004, Herrick agreed, subject to, and automatically upon, the
receipt of a fairness opinion from an independent investment banking firm, to
exchange accrued and unpaid interest and dividends (including accrued and unpaid
interest distributed by the Trust to Herrick) owed to Herrick aggregating
$1,181,419 into (i) 11,814 shares of Series C Preferred Stock with a liquidation
preference of $100 per share convertible into an aggregate of 1,514,615 shares
of Common Stock at an effective conversion price of $0.78, and (ii) warrants to
purchase 3,029,230 shares of Common Stock. The warrants will be exercisable
until April 28, 2014 at an exercise price of $0.53.
On April 28, 2004, to reduce its debt to $6,800,000 Huntingdon agreed,
subject to, and automatically upon, the receipt of a fairness opinion from an
independent investment banking firm, to exchange the principal of the $500,000
principal amount note, $1,000,000 principal amount note, $150,000 principal
amount note and $350,000 principal amount note held by Huntingdon, plus accrued
and unpaid interest owed to Huntingdon aggregating $1,171,278 into (i) 31,713
shares of Series C Preferred Stock convertible into an aggregate of 4,065,768
shares of Common Stock at an effective conversion price of $0.78, and (ii)
warrants to purchase an aggregate of 8,131,538 shares of Common Stock. The
warrants will be exercisable until April 28, 2014 at an exercise price of $0.53.
If the amount of the Permissible Debt is required to be reduced due to
MediaBay's failure to raise the requisite additional equity, such reduction will
automatically occur by the exchange of Permissible Debt held by Huntingdon for
additional shares of Series C Preferred Stock in an aggregate liquidation
preference equal to the amount of debt exchanged and warrants to purchase a
number of shares of common stock equal to two times the number of shares of
preferred stock issuable upon conversion of the Series C Preferred Stock.
Herrick, Huntingdon and the Trust have extended the remaining principal and
interest on their debt to the earlier of (i) the repayment of the New Credit
Agreement or (ii) June 28, 2007.
The remaining promissory notes held by Herrick, Huntingdon and the Trust
are guaranteed by certain subsidiaries of the Company and secured by a lien on
the assets of the Company and certain subsidiaries of the Company.
Settlement of Put Obligations
We also entered into a settlement agreement with Premier Electronic
Laboratories, Inc. ("Premier") dated April 1, 2004. Pursuant to the settlement,
among other things, we agreed to pay Premier $950,000 in exchange for Premier
waiving its right to put its shares of Common Stock to MediaBay pursuant to a
Put Agreement dated December 11, 1990. MediaBay's obligation under the Put
Agreement was reduced by $150,000 in exchange for relinquishing certain leases
for real property. MediaBay paid $14,000 on closing and agreed to pay the
remaining balance over six years in monthly payments starting at $7,000 in July
2004 and increasing to $19,000 from May 2007 through April 2010.
Activity during the three months ended March 31, 2004.
For the three months ended March 31, 2004, cash increased by $250,000, as
we had net cash used in operating activities of $1,614,000, used net cash of
$47,000 in investing activities and had cash provided by investing activities of
$1,911,000. Net cash used in operating activities principally consisted of the
net loss of $1,168,000 increases in inventory, prepaid expenses and royalty
advances of $118,000, $137,000 and $513,000, respectively, and a decrease in
accounts payable and accrued expenses of $2,492,000 partially offset by
depreciation and amortization expenses of $47,000, amortization of deferred
financing costs and original issue discount of $424,000, non-current accrued
interest and dividends payable of $389,000, non-cash stock compensation of
$48,000 decreases in accounts receivable of $1,269,000 and a net reduction in
deferred member acquisition costs of $637,000.
The decrease in accounts receivable was primarily attributable to the
collection of retail receivables from the holiday selling season from our radio
programs and a reduction in sales as described above. The decrease in deferred
member acquisition cost is due the lack of funds to conduct new member and
customer acquisition activities. The increase in royalty advances is principally
due to a decline in sales and a reduction in
25
new member acquisition activities at Audio Book Club, which results in lower
royalty expense and less utilization of the advances, as well as the timing and
payment of advances. We believe that new member acquisition activities funded by
the proceeds of the New Credit Agreement will generate sales activity sufficient
to earn royalties sufficient to offset royalty advances. If, however, we are
unable to generate sufficient sales activity, unearned advance royalty payments
will be expensed. During the three months ended March 31, 2004, we reduced
accounts payable and accrued expenses by $2,492,000, the majority of which were
over 90 days past due.
Net cash used in investing activities consists of acquisition of fixed
assets of $47, principally computer equipment.
During the three months ended March 31, 2004, we received the proceeds of
the January 2004 Convertible Debt described above and incurred $525,000 in
financing costs relating to the January 2004 Convertible debt and repaid our
senior secured debt a total of $1,538,000, including $1,250,000 repaid with
proceeds of the January 2004 Convertible Debt.
RECENT ACCOUNTING PRONOUNCEMENTS
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock Based
Compensation", which amends SFAS No. 123 to provide alternative methods of
transaction for an entity that voluntarily changes to the fair value method of
accounting for stock based compensation. It also amends the disclosure
provisions of SFAS No. 123 to require prominent disclosure about the effects on
reported net income of an entity's accounting policy decisions with respect to
stock based employee compensation. Finally, SFAS No. 148 amends APB Opinion No.
28, "Interim Financial Reporting", to require disclosure of those effects in
interim financial statements. SFAS No. 148 is effective for fiscal years ended
after December 15, 2002, but early adoption is permitted. Accordingly, we have
adopted the applicable disclosure requirements of this Statement within this
report. The adoption of SFAS No. 148 did not have a significant impact on our
financial disclosures.
In January 2003, the FASB issued FIN 46, "Consolidation of Variable
Interest Entities," which is effective for interim periods beginning after
December 15, 2003. This interpretation changes the method of determining whether
certain entities should be included in our consolidated financial statements. An
entity is subject to FIN 46 and is called a variable interest entity ("VIE") if
it has (1) equity that is insufficient to permit the entity to finance its
activities without additional subordinated financial support from other parties,
or (2) equity investors that cannot make significant decisions about the
entity's operations or that do not absorb the expected losses or receive the
expected returns of the entity. All other entities are evaluated for
consolidation under SFAS No. 94, "Consolidation of All Majority-Owned
Subsidiaries." A VIE is consolidated by its primary beneficiary, which is the
party involved with the VIE that has a majority of the expected losses or a
majority of the expected residual returns or both. We are currently evaluating
FIN 46 and believe that it will have no impact on its financial position or
results of operations.
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement 33 on
Derivative Instruments and Hedging Activities", which amends and clarifies
accounting for derivative instruments, including certain derivative instruments
embedded in other contracts, and for hedging activities that fall within the
scope of SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities". SFAS No. 149 amends SFAS No. 133 regarding implementation issues
raised in relation to the application of the definition of a derivative. The
amendments set forth in SFAS No. 149 require that contracts with comparable
characteristics be accounted for similarly. This Statement is effective for
contracts entered into or modified after June 30, 2003, with certain exceptions,
and for hedging relationships designated after June 30, 2003. The adoption of
SFAS No. 149 did not have a material impact on our financial position or results
of operations.
On May 15, 2003, the FASB issued SFAS No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity." SFAS
150 provides guidance on classification and measurement of certain financial
instruments with characteristics of both liabilities and equity. We reclassified
certain items to debt as a result of the SFAS 150.
26
CERTAIN TRANSACTIONS
In addition, to the financing transactions described above under
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Liquidity and Capital Resources", in connection with the Offering
described above, Norton Herrick and Huntingdon entered into a letter agreement
(the "Letter Agreement") with the purchasers of Notes in the Offering pursuant
to which they granted to the holders of the Notes in the event of an Event of
Default (as defined in the Notes) the rights to receive payment under certain
secured indebtedness owed by the Company to Norton Herrick and Huntingdon and to
exercise their rights under security agreements securing such secured
indebtedness. Pursuant to the Letter Agreement, Norton Herrick and Huntingdon
also executed Powers of Attorney in favor of a representative of the Note
holders pursuant to which such representative may, following an Event of
Default, take actions necessary to enforce the Note holders rights under the
Letter Agreement, including enforcing Norton Herrick's and Huntingdon's rights
under the security agreements. The January 2004 Notes were converted into common
stock on April 12, 2004.
In connection with Norton Herrick and Huntingdon consenting to the New
Credit Agreement, we agreed to pay to Herrick accounts payable and accrued
expenses due to him as of March 31, 2004 in the amount of approximately
$672,000. Such amounts are to be paid to him at the rate of $40,500 per month.
XNH Consulting Services, Inc. ("XNH"), a company wholly-owned by Norton Herrick,
and the Company also modified a termination agreement, in which we had agreed
among other things to pay XNH a fee of $7,500 per month for 16 months commencing
on January 1, 2004 and Herrick agreed to provide consulting services at his sole
discretion. The modification eliminated our obligation to make the monthly
payments and our ability to request consulting services from XNH. All other
terms of the termination agreement were unchanged.
QUARTERLY FLUCTUATIONS
Our operating results vary from period to period as a result of purchasing
patterns of members, the timing, costs, magnitude and success of direct mail
campaigns and Internet initiatives and other new member recruitment advertising,
member attrition, the timing and popularity of new audiobook releases and
product returns.
The timing of new member enrollment varies depending on the timing,
magnitude and success of new member advertising, particularly Internet
advertising and direct mail campaigns. We believe that a significant portion of
our sales of old-time radio and classic video programs are gift purchases by
consumers. Therefore, we tend to experience increased sales of these products in
the fourth quarter in anticipation of the holiday season and the second quarter
in anticipation of Fathers' Day.
ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES OF MARKET RISK
We are exposed to market risk for the impact of interest rate changes.
Historically, we have not entered into derivative transactions for hedging,
trading or speculative purposes.
The Company's exposure to market risk for changes in interest rates relates
to its variable rate debt. The Company has total debt outstanding as of May 14,
2004 of $22.9 million, of which $2.3 million is at fixed rates, $9.5 million
bears interest at LIBOR plus 10% and $11.1 million bears interest at prime plus
2.5%. If the prime rate or LIBOR were to increase the Company's interest expense
would increase, however a hypothetical 10% change in interest rates would not
have had a material impact on its fair values, cash flows, or earnings for the
three months ended March 31, 2003. All of the Company's other debt is at fixed
rates of interest.
27
ITEM 4. CONTROLS AND PROCEDURES
As of the end of the period covered by this report, an evaluation was
carried out under the supervision and with the participation of our management,
including the Chief Executive Officer ("CEO") and Chief Financial Officer
("CFO"), of the effectiveness of our disclosure controls and procedures. Based
on that evaluation, the CEO and CFO have concluded that our disclosure controls
and procedures are effective at the reasonable assurance level to timely alert
them of information required to be disclosed by us in reports that we file or
submit under the Securities Exchange Act of 1934. During the quarter ended March
31, 2004 there were no changes in our internal controls over financial reporting
that have materially affected, or are reasonably likely to materially affect,
our internal controls over financial reporting.
PART II - OTHER INFORMATION
ITEM 2: CHANGES IN SECURITIES AND USE OF PROCEEDS (DOLLARS IN THOUSANDS, EXCEPT
PER SHARE DATE)
On January 29, 2004, we issued $4.0 million aggregate principal amount of
promissory notes (the "Notes") and warrants to purchase 2,352,946 shares of
common stock (the "Investor Warrants") to 13 institutional and accredited
investors (the "Offering"). The notes were due on the earlier of (i) April 30,
2005, (ii) such date on or after July 1, 2004 at such time as all of the
Company's indebtedness under its existing credit facility is either repaid or
refinanced or (iii) the consummation by the Company of a merger, combination or
sale of all or substantially all of the Company's assets or the purchase by a
single entity, person or group of affiliated entities or persons of 50% of the
Company's voting stock. The notes bore interest at the rate of 6%, increasing to
9% on April 28, 2004 and 18% on July 27, 2004. On receipt of Shareholder
approval, which was received on April 12, 2004, in accordance with the Notes,
the principal amount of the notes automatically converted into common Stock at
the rate of one share of common stock at $0.75, or approximately 5,333,333
shares. In addition accrued interest in the amount of $49,000 also converted
into common stock at $0.75 per share, or 64,877 shares.
In connection with the Offering, the Company issued to Rockwood, Inc.
("Rockwood"), the placement agent, and a broker warrants to purchase an
aggregate of 245,000 shares of common stock and also issued to Rockwood warrants
to purchase an additional 500,884 shares of Common Stock on April 12, 2004 as
partial consideration for Rockwood's services as placement agent. All warrants
issued are exercisable until January 28, 2009 at an exercise price of $1.28 per
share.
The foregoing securities were issued in private transactions pursuant to an
exemption from the registration requirement offered by Rule 506 promulgated
under the Securities Act of 1933.
In addition to the non-plan warrants described above, in the first quarter
of 2004, we issued plan options to purchase 1,650,000 shares of its common stock
to officers. The options have exercise prices ranging from $.99 to $1.86 vest at
various times and have a five-year exercise period. The Company also cancelled
five-year plan options to purchase a total of 1,500,000 shares of common stock
and options to purchase 152,500 shares of our common stock expired. We also
cancelled non-plan warrants to purchase 25,000 shares of our common stock.
Non-plan warrants to purchase 8,000 shares of our common stock at $.10 were
exercised during the three months ended March 31, 2004.
The foregoing securities were issued in private transactions pursuant to an
exemption from the registration requirement offered by Rule 506 promulgated
under the Securities Act of 1933.
28
ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits
10.1 Credit Agreement, dated as of April 28, 2004, among MediaBay, Inc.,
Radio Spirits, Inc., Audio Book Club, Inc., the guarantors signatory
thereto, Zohar CDO 2003-1, Limited, as lender, and Zohar, as agent,
including exhibits and schedules thereto
10.2 Agreement dated as of April 1, 2004 by and among MediaBay, Inc.,
Premier Electronic Laboratories, Inc. Edison Realty and Marketing, Inc.
and Video Yesteryear, Inc.
10.3 9% Senior Subordinated Promissory Note due July 29, 2007 in the
principal sum of $1.6 million, pursuant to which MediaBay, Inc. is the
Maker and ABC Investment, L.L.C. is the Payee.
10.4 Agreement, dated as of April 28, 2004, by and between MediaBay, Inc.
and ABC Investment, L.L.C.
10.5 Subordination and Intercreditor Agreement dated as of April 28, 2004,
among Huntingdon Corporation, Norton Herrick, N. Herrick Irrevocable
ABC Trust, MediaBay, Inc., Radio Spirits, Inc., Audio Book Club, Inc.,
and Zohar CDO 2003-1, Limited, as administrative agent.
10.6 Subordination Agreement dated as of April 28, 2004, among Premier
Electronic Laboratories, Inc., MediaBay, Inc., and Zohar CDO 2003-1,
Limited, as administrative agent.
10.7 Subordination Agreement dated as of April 28, 2004, among ABC
Investment, L.L.C., MediaBay, Inc., Radio Spirits, Inc., Audio Book
Club, Inc., and Zohar CDO 2003-1, Limited, as administrative agent.
10.8 Security Agreement dated as of April 28, 2004, among MediaBay, Inc.,
the other persons listed on the signature pages thereto, and Zohar CDO
2003-1, Limited, as agent.
10.9 Agreement dated as of April 28, 2004, between MediaBay, Inc. and
Huntingdon Corporation.
10.10 Agreement dated as of April 28, 2004, between MediaBay, Inc. and Norton
Herrick
10.11 Agreement dated as of April 28, 2004, between MediaBay, Inc. and N.
Herrick Irrevocable Trust
10.12 Amended and Restated Security Agreement dated as of April 28, 2004, by
and among MediaBay, Inc., the subsidiaries of MediaBay, Inc. set forth
in Schedule 2 annexed thereto, and Norton Herrick.
10.13 Security Agreement dated as of April 28, 2004, by and among MediaBay,
Inc., the subsidiaries of MediaBay, Inc. set forth in Schedule 2
annexed thereto, and N. Herrick Irrevocable ABC Trust.
10.14 Amended and Restated Security Agreement dated as of April 28, 2004, by
and among MediaBay, Inc., the subsidiaries of MediaBay, Inc. set forth
in Schedule 2 annexed thereto, and Huntingdon Corporation.
10.15 Guaranty dated as of April 28, 2004, made by ABC Investment Corp.,
Radio Spirits, Inc., Video Yesteryear, Inc., Audio Book Club, Inc., and
the Additional Guarantors (as defined therein) in favor of the N.
Herrick Irrevocable ABC Trust.
10.16 Amended and Restated Guaranty dated as of April 28, 2004, made by ABC
Investment Corp., Radio Spirits, Inc., Video Yesteryear, Inc., Audio
Book Club, Inc., and the Additional Guarantors (as defined therein) in
favor of Norton Herrick.
10.17 Amended and Restated Guaranty dated as of April 28, 2004, made by ABC
Investment Corp., Radio Spirits, Inc., Video Yesteryear, Inc., Audio
Book Club, Inc., and the Additional Guarantors (as defined therein) in
favor of Huntingdon Corporation.
29
10.18 Second Amended and Restated Intercreditor Agreement dated as of April
28, 2004, by and among Huntingdon Corporation, Norton Herrick and N.
Herrick Irrevocable ABC Trust.
31.1 Chief Executive Officer Certification Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
31.2 Chief Financial Officer Certification Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002
32.1 Certification of Jeffrey Dittus, Chief Executive Officer of MediaBay,
Inc., pursuant to 18 U.S.C Section 1350, as Adopted pursuant to Section
906 of the Sarbanes-Oxley Act of 2002
32.2 Certification of John Levy, Executive Vice President and Chief
Financial Officer of MediaBay, Inc., pursuant to 18 U.S.C Section 1350,
as Adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 20
(b) Reports on Form 8-K
Report on Form 8-K filed with the Securities and Exchange Commission on
January 30, 2004 announcing the Offering.
30
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, MediaBay, Inc. has duly caused this report to be signed on its
behalf by the undersigned thereunto duly authorized.
MEDIABAY, INC.
Dated: May 17, 2004 By: /s/ Jeffrey Dittus
-----------------------------
Jeffrey Dittus
Chief Executive Officer
Dated May 17, 2004 By: /s/ John F. Levy
-----------------------------
John F. Levy
Chief Financial Officer
(principal accounting and financial officer)
31