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 June 30, 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.
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(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
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (973) 539-9528
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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 August 13, 2004, there
were 18,463,624 shares of the Registrant's Common Stock outstanding.
MEDIABAY, INC.
Quarter ended June 30, 2003
Form 10-Q
INDEX
Page
----
PART I: Financial Information
Item 1: Financial Statements (unaudited)
Condensed Consolidated Balance Sheets at June 30, 2004
and December 31, 2003, (unaudited) 3
Condensed Consolidated Statements of Operations for the
three and six months ended June 30, 2004 and 2003, (unaudited) 4
Condensed Consolidated Statements of Cash Flows for the six
months ended June 30, 2004 and 2003, (unaudited) 5
Notes to Condensed 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 34
Item 4: Controls and Procedures 34
PART II: Other Information
Item 2: Changes in Securities and Use of Proceeds 35
Item 4: Submission of matters to a Vote of Security Holders 35
Item 6: Exhibits and Reports on Form 8-K 36
Signatures 37
PART I: FINANCIAL INFORMATION
ITEM 1: FINANCIAL STATEMENTS
MEDIABAY, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS)
(UNAUDITED)
JUNE 30, DECEMBER 31,
2004 2003
--------- ---------
ASSETS
Current Assets:
Cash and cash equivalents ................................................ $ 2,453 $ 683
Accounts receivable, net of allowances for sales returns
and doubtful accounts of $3,234 and $4,446 at June 30,
2004 and December 31, 2003, respectively .............................. 1,723 3,264
Inventory ................................................................ 4,152 4,063
Prepaid expenses and other current assets ................................ 210 215
Royalty advances ......................................................... 1,561 804
--------- ---------
Total current assets ................................................. 10,099 9,029
Fixed assets, net ............................................................ 226 227
Deferred member acquisition costs ............................................ 1,820 3,172
Deferred income taxes ........................................................ 14,753 14,753
Other intangibles ............................................................ 34 54
Goodwill ..................................................................... 9,658 9,658
--------- ---------
$ 36,590 $ 36,893
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses .................................... $ 5,622 $ 10,268
Accounts payable, related party .......................................... 517 826
Common stock subject to contingent put rights, current portion ........... -- 350
Short-term debt, net of original issue discount of $55 and $274
at June 30, 2004 and December 31, 2003, respectively .................. 229 7,107
Related party short-term debt, net of original issue discount of
$142 at December 31, 2003 ............................................. -- 10,643
--------- ---------
Total current liabilities ........................................... 6,368 29,194
--------- ---------
Long-term debt, net of original issue discount of $1,400 at June30, 2004 ..... 10,294 --
Related party long-term debt ................................................. 7,029 --
Common stock subject to contingent put rights ................................ -- 750
--------- ---------
Total liabilities ................................................... 23,691 29,944
--------- ---------
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 June 30,
2004 and December 31, 2003 and 43,527 and no shares of Series C issued and
outstanding at June30, 2004 and December
31, 2003, respectively ................................................... 7,181 2,828
Common stock; no par value, authorized 150,000,000 shares; issued and
outstanding 18,463,624 and 13,057,414 at June 30, 2004 and
December 31, 2003, respectively .......................................... 98,575 94,567
Contributed capital .......................................................... 17,437 11,569
Accumulated deficit .......................................................... (110,294) (102,015)
--------- ---------
Total stockholders' equity ................................................... 12,899 6,949
--------- ---------
$ 36,590 $ 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 SIX MONTHS ENDED
JUNE 30, JUNE 30,
--------------------- ---------------------
2004 2003 2004 2003
-------- -------- -------- --------
Sales, net of returns, discounts and allowances of $1,387 and
$5,043 and $3,313 and $9,421 for the three and six months
ended June 30, 2004 and 2003, respectively $ 4,801 $ 9,407 $ 10,485 $ 20,104
Cost of sales 2,228 4,124 4,798 9,358
-------- -------- -------- --------
Gross profit 2,573 5,283 5,687 10,746
Expenses:
Advertising and promotion 1,268 2,612 2,627 5,459
Bad debt 222 798 620 1,803
General and administrative 1,293 1,408 2,853 3,878
Depreciation and amortization 41 99 88 198
-------- -------- -------- --------
Operating profit (loss) (251) 366 (501) (592)
Interest expense 6,745 532 7,599 1,055
-------- -------- -------- --------
Income (loss) before income taxes (6,996) (166) (8,100) (1,647)
Income tax expense -- -- -- --
-------- -------- -------- --------
Net income (loss) (6,996) (166) (8,100) (1,647)
Dividends on preferred stock 115 62 179 118
======== ======== ======== ========
Net income (loss) applicable to common shares $ (7,111) $ (228) $ (8,279) $ (1,765)
======== ======== ======== ========
Basic and diluted earnings (loss) per common share: $ (.40) $ (0.02) $ (.54) $ (0.12)
======== ======== ======== ========
See accompanying notes to consolidated financial statements.
4
MEDIABAY, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
(UNAUDITED)
SIX MONTHS ENDED JUNE 30,
2004 2003
-------- --------
Cash flows from operating activities:
Net loss applicable to common shares $ (8,279) $ (1,764)
Adjustments to reconcile net loss to net cash provided by operating
activities:
Non-cash beneficial conversion costs 3,991 --
Amortization of deferred member acquisition costs 1,595 3,131
Loss on extinguishment of debt 1,532 --
Expense of inducement to convert 391 --
Non-current accrued interest and dividends payable 728 534
Amortization of deferred financing costs and original issue discount 789 248
Depreciation and amortization 88 198
Non-cash stock compensation 82 --
Net settlement expenses -- (690)
Changes in asset and liability accounts, net of asset acquisition:
Decrease in accounts receivable, net 1,541 1,246
(Increase) decrease in inventory (89) 149
Increase in prepaid expenses (93) (132)
(Increase) decrease in royalty advances (756) 8
Increase in deferred member acquisition costs (243) (1,885)
Decrease in accounts payable and accrued expenses (4,985) (383)
-------- --------
Net cash (used in) provided by operating activities (3,707) 660
-------- --------
Cash flows from investing activities:
Acquisition of fixed assets (67) (15)
Intangible assets acquired -- (250)
-------- --------
Net cash used in investing activities (67) (265)
-------- --------
Cash flows from financing activities:
Proceeds from issuance of long-term debt 13,500 --
Proceeds from exercise of stock options 1 --
Payment of long-term debt (5,923) (1,050)
Increase in deferred financing costs (2,033) (42)
Net proceeds from issuance of preferred stock -- 328
-------- --------
Net cash (used in) provided by financing activities 5,544 (764)
-------- --------
Net increase (decrease) in cash and cash equivalents 1,770 (369)
Cash and cash equivalents at beginning of period 682 397
-------- --------
Cash and cash equivalents at end of period $ 2,452 $ 28
======== ========
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.
6
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
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 SIX MONTHS
JUNE 30, ENDED JUNE 30,
------------------- ---------------------
2004 2003 2004 2003
-------- ------ -------- --------
Net (loss) income applicable to common shares, as reported $ (7,111) $ (228) $ (8,279) $ (1,765)
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 (660) -- (1,943) (36)
-------- ------ -------- --------
Pro forma net (loss) income applicable to common shares $ (7,771) $ (228) $(10,222) $ (1,801)
======== ====== ======== ========
Net (loss) income per share
Basic and diluted - as reported $ (.40) $ (.02) $ (.54) $ (.12)
======== ====== ======== ========
Basic and diluted - pro forma $ (.44) $ (.02) $ (.67) $ (.13)
======== ====== ======== ========
No dividend yield and the following assumptions were used in the pro
forma calculation of compensation expense:
NO. OF SHARES EXERCISE PRICE ASSUMED RISK-FREE FAIR VALUE PER
DATE VOLATILITY INTEREST RATE SHARE
--------------------- ------------- -------------- ---------- ------------- --------------
FIRST SIX MONTHS 2003 40,000 $1.50 165% 4.85% $.98
FIRST SIX MONTHS 2004 3,300,000 $.98 97% 4.00% $.59
7
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.
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 $7 and
$61 for the three months ended June 30, 2004 and 2003, respectively and $20 and
$385 for the six months ended June 30, 2004 and 2003, respectively. The Company
estimates intangible amortization expenses of the following:
8
Six months ended December 31, 2004 $ 4
Year ended 2005 8
Year ended 2006 8
Year ended 2007 8
Year ended 2008 1
--------
Total $ 29
========
The following table presents details of Other Intangibles at March 31,
2004 and December 31, 2003:
June 30, 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 313 284 29 313 264 49
Other 5 -- 5 5 -- 5
Total Other Intangibles $ 5,290 $ 5,256 $ 34 $ 5,290 $ 5,236 $ 54
======== ========= ===== ======= ========= =====
Goodwill of $9,658 as of June 30, 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) DEBT
AS OF
JUNE 30, DECEMBER 31,
2004 2003
-------- --------
Credit agreement, senior secured bank debt, $ -- $ 2,925
Credit agreement, senior secured debt,
net of original issue discount of $1,202 8,248
Subordinated debt 1,600 3,200
Premier debt 674
October 2003 Notes and related accrued interest,
net of original issue discount -- 982
Related party notes and related accrued interest,
net of original issue discount 7,029 10,643
-------- --------
Total Debt 17,552 17,750
Less: Current Portion (229) (17,750)
-------- --------
Long-Term Debt $ 17,323 $ --
======== ========
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. 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 for the first
additional year and $300 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
9
amount of $1,065, and (ii) its prior Credit Agreement, which had an outstanding
principal balance of approximately $1,386. The Company has included in interest
expense a loss on early extinguishment of debt of $73,000 related to unamortized
original issue discount relating to promissory notes that it issued in October
2003 and a loss on early extinguishment of debt of $116,000 related to
unamortized debt discount relating to the prior Credit Agreement.
The Principal Shareholder and an affiliate of the principal
shareholder, which held 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 required 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 two years after the execution of the New Credit Agreement.
On April 28, 2004, to reduce its debt to $6,800, the Principal
Shareholder and his affiliate agreed, subject to, and automatically upon, the
receipt of a fairness opinion from an independent investment banking firm, to
exchange the principal of their $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 are 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. On May 25, 2004, a fairness opinion
was received from an independent investment banking firm, and, pursuant to the
agreements described above, the exchange of debt for units occurred. The
transactions described above resulted in a charge to earnings for debt
inducement pursuant to SFAS 84 estimated at $391,000.
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.
New ABC Note
Also on April 28, 2004, MediaBay 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.
Premier Debt
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.
10
(5) STOCKHOLDERS' EQUITY AND STOCK OPTIONS AND WARRANTS
Stock Options and Warrants
From January 1, 2004 to June 30, 2004, the Company issued options to
purchase 3,750,000 shares of its common stock to certain officers, employees,
directors and consultants to the Company under its stock option plans. The
Company also cancelled options to purchase 1,500,000 shares of its common stock
and options to purchase 789,000 shares of its common stock expired.
In addition, the Company issued warrants to purchase 3,098,830 of its
common stock in connection with the January 2004 Convertible Debt described
immediately below, and warrants to purchase 11,160,768 shares of its common
stock to the Principal Shareholder and his affiliate in connection with the debt
reduction required by the April 2004 Senior Debt as described in Note 4 above.
The Company also issued non-plan warrants to purchase 216, 250 shares of its
common stock to holders of the $1,065 principal amount of promissory notes that
it issued in October 2003 in the aggregate principal amount of $1,065 ("October
2003 Note"), as previously agreed to under the terms the October 2003 Note. The
Company also cancelled non-plan warrants to purchase 339,940 shares of its
common stock. Non-plan options to purchase 8,000 shares of our common stock at
$.10 were exercised during the six months ended June 30, 2004.
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 MediaBay 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 the placement
agent and a broker warrants to purchase an aggregate of 245,000 shares of common
stock and also issued to the placement agent warrants to purchase an additional
500,884 shares of Common Stock on April 12, 2004 as partial consideration for
its services as placement agent. All warrants issued are exercisable until
January 28, 2009 at an exercise price of $1.28 per share.
The Company accounted for the issuance of the January 2004 debt and its
subsequent conversion in accordance with Emerging Issues task Force No. 00-27,
"Application of Issue No. 95-5 to Certain Convertible Instruments". Accordingly,
the Company recorded an expense of $3,991,000 as beneficial conversion expenses
at the date of the conversion. The Company also recorded in interest expense a
loss on early extinguishment of debt for the unamortized debt discount relating
to the expenses incurred in the transaction and the relative fair value of the
warrants issued in the transaction totaling $1,343,000.
In connection with the Offering, the Principal Shareholder and an
affiliate of the 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 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.
11
(6) INTEREST EXPENSES
The following table presents details of interest expense for the three
and six months ended June 30, 2004 and 2003 as follows:
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
------------------ ------------------
2004 2003 2004 2003
------ ------ ------ ------
INTEREST ACCRUED OR PAID:
Credit agreement, senior secured bank debt, $ 7 $ 64 $ 42 137
Credit agreement 185 -- 185 --
January 2004 Notes 10 -- 50 --
Subordinated debt 47 73 122 145
October 2003 Notes 15 -- 64 --
Interest to trade creditors -- 55 110
Related party notes 206 212 436 416
------ ------ ------ ------
Total interest accrued or paid 470 404 898 808
------ ------ ------ ------
AMORTIZATION OF DEBT DISCOUNT:
Credit agreement, senior secured bank debt 156 22 187 35
Credit agreement 26 -- 26 --
January 2004 Notes 127 -- 371 --
Premier debt 5 -- 5 --
October 2003 Notes 15 -- 59 --
Related party notes 35 106 142 212
------ ------ ------ ------
Total amortization of debt discount 364 128 790 247
------ ------ ------ ------
LOSS ON EARLY EXTINGUISHMENT OF DEBT:
Loss on early extinguishment of January 2004 Notes 1,343 -- 1,343 --
Loss on early extinguishment of senior secured bank debt 116 -- 116 --
Loss on early extinguishment of October 2003 Notes 73 -- 73 --
Total loss on early extinguishment of debt 1,532 -- 1,532 --
Beneficial conversion expense of January 2004 Notes 3,991 -- 3,991 --
Expense of inducement to convert, related party notes 391 -- 391 --
------ ------ ------ ------
Total interest expense 6,748 532 7,602 1,055
------ ------ ------ ------
Less: Interest income 3 -- 3 --
------ ------ ------ ------
Net Interest expense $6,745 $ 532 $7,599 $1,055
====== ====== ====== ======
12
(7) NET LOSS PER SHARE OF COMMON STOCK
Basic (loss) earnings per share was computed using the weighted average
number of common shares outstanding for the three and six months ended June 30,
2004 of 17,692,451 and 15,376,207, respectively and for the three and six months
ended June 30, 2003 of 14,341,376.
For the three months ended June 30, 2004 common equivalent shares which
were not included in the computation of diluted loss per share because they
would have been anti-dilutive were 2,219 common equivalent shares, as calculated
under the treasury stock method and 21,342,910 common equivalent shares relating
to convertible subordinated debt and convertible preferred stock calculated
under the "if-converted method". Interest expense and dividends on the
convertible subordinated debt and convertible preferred stock added back to net
income applicable to common stockholders would have been $378 for the three
months ended June 30, 2004.
For the six months ended June 30, 2004 common equivalent shares which
were not included in the computation of diluted loss per share because they
would have been anti-dilutive were 654,573 common equivalent shares, as
calculated under the treasury stock method and 21,240,421 common equivalent
shares relating to convertible subordinated debt and convertible preferred stock
calculated under the "if-converted method". Interest expense and dividends on
the convertible subordinated debt and convertible preferred stock added back to
net income applicable to common stockholders would have been $786 for the six
months ended June 30, 2004.
For the three months ended June 30, 2003 common equivalent shares which
were not included in the computation of diluted loss per share because they
would have been anti-dilutive were 586,000 common equivalent shares, as
calculated under the treasury stock method and 16,910,000 common equivalent
shares relating to convertible subordinated debt and convertible preferred stock
calculated under the "if-converted method". Interest expense and dividends on
the convertible subordinated debt and convertible preferred stock added back to
net income applicable to common stockholders would have been $346 for the three
months ended June 30, 2003.
For the six months ended June 30, 2003 common equivalent shares which
were not included in the computation of diluted loss per share because they
would have been anti-dilutive were 813,000 common equivalent shares, as
calculated under the treasury stock method and 16,781,000 common equivalent
shares relating to convertible subordinated debt and convertible preferred stock
calculated under the "if-converted method". Interest expense and dividends on
the convertible subordinated debt and convertible preferred stock added back to
net income applicable to common stockholders would have been $679 for the six
months ended June 30, 2003.
(8) SUPPLEMENTAL CASH FLOW INFORMATION
Cash paid for interest expense was $536 and $290 for the six months
ended June 30, 2004 and 2003, respectively.
On receipt of shareholder approval, which was received on April 12,
2004, the principal amount of $4,000 of the January 2004 Notes, as described in
Note 5 above, automatically converted into MediaBay 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.
13
(9) 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 or six months ended June 30, 2004 and 2003 from
its RadioClassics subsidiary. Inter-segment sales are recorded at prevailing
sales prices.
SEGMENT REPORTING
THREE MONTHS ENDED JUNE 30, 2004
Corporate ABC RSI Mbay.com Inter-segment Total
---------- ---------- ---------- --------- ------------- ----------
Sales, net of returns, discounts and $ -- $ 3,339 $ 1,421 $ 54 $ (13) $ 4,801
allowances
Operating (loss) profit before depreciation
and amortization (334) (60) 280 (96) -- (210)
Depreciation and amortization 6 26 9 -- -- 41
Interest expense 6,744 -- 1 -- -- 6,745
Dividends on preferred stock 115 -- -- -- -- 115
Net income (loss) applicable to common shares (7,199) (86) 270 (96) -- (7,111)
Total assets -- 22,859 13,799 3 (71) 36,590
Acquisition of fixed assets -- 20 -- -- -- 20
THREE MONTHS ENDED JUNE 30, 2003
Corporate ABC RSI Mbay.com Inter-segment Total
---------- ---------- ---------- --------- ------------- ----------
Sales, net of returns, discounts and $ -- $ 7,273 $ 2,110 $ 35 (11) 9,407
allowances
Operating (loss) profit before depreciation
and amortization (44) 401 248 (140) -- 465
Depreciation and amortization 62 26 11 -- -- 99
Interest expense 529 -- 3 -- -- 532
Dividends on preferred stock 62 62
Net income (loss) applicable to common shares (697) 375 234 (140) -- (228)
Total assets -- 29,317 16,187 3 (55) 45,452
Acquisition of fixed assets -- -- -- -- -- --
SIX MONTHS ENDED JUNE 30, 2004
Corporate ABC RSI Mbay.com Inter-segment Total
---------- ---------- ---------- --------- ------------- ----------
Sales, net of returns, discounts and $ -- $ 7,065 $ 3,361 $ 106 $ (47) $ 10,485
allowances
Operating (loss) profit before depreciation
and amortization (842) (126) 771 (216) -- (413)
Depreciation and amortization 19 50 19 -- -- 88
Interest expense 7,596 -- 3 -- -- 7,599
Dividends on preferred stock 179 -- -- -- -- 179
Net income (loss) applicable to common shares (8,636) (176) 749 (216) -- (8,279)
Total assets -- 22,859 13,799 3 (71) 36,590
Acquisition of fixed assets -- 58 9 -- -- 67
SIX MONTHS ENDED JUNE 30, 2003
Corporate ABC RSI Mbay.com Inter-segment Total
---------- ---------- ---------- --------- ------------- ----------
Sales, net of returns, discounts and allowances $ -- $ 15,379 $ 4,710 $ 52 $ (37) $ 20,104
Operating (loss) profit before depreciation and
amortization (1,269) 809 358 (296) 4 (394)
Depreciation and amortization 118 54 26 -- -- 198
Interest expense 1,048 -- 7 -- -- 1,055
Dividends on preferred stock 118 -- -- -- -- 118
Net income (loss) applicable to common shares (2,553) 755 328 (296) 4 (1,765)
Total assets -- 29,317 16,187 3 (55) 45,452
Acquisition of fixed assets -- 13 2 -- -- 15
14
(10) 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.
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.
(11) SUBSEQUENT EVENTS
Stock Options
From July 1, 2004 to August 13, 2004, the Company issued options to
purchase 400,000 shares of MediaBay common stock to a director.
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 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 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
16
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
17
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 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 June 30, 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.
Inventory
Inventory, consisting primarily of audiocassettes and compact discs
held for resale, is valued at the lower of cost (weighted average cost method)
or market. We record an estimate for inventory obsolescence based on future
18
sales projections. These sales projections are based on estimates of future
marketing expenditures and the anticipated success of future marketing efforts.
If the Company does not invest in marketing or if sales estimates are not met
for the other reasons, the estimate of inventory obsolescence would need to be
increased which would result in a lower reported inventory value.
Royalty Advances
We are liable for royalties to licensors based upon revenue earned from
the respective licensed product. We pay 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. The estimate of future advances to be recovered is based on an estimate
of future sales. Advances not expected to be recovered through royalties on
sales are charged to royalty expense. If the Company does not invest in
marketing or if sales estimates are not met for the other reasons, the royalty
expense would be understated and the value of the royalty advance we reported
would require reduction.
19
RESULTS OF OPERATIONS
The following table sets forth, for the periods indicated, historical operating
data as a percentage of net sales.
THREE MONTHS SIX MONTHS
ENDED JUNE 30, ENDED JUNE 30,
2004 2003 2004 2003
----- ----- ----- -----
Sales ................................ 100% 100% 100% 100%
Cost of sales ........................ 46.4 43.8 45.8 46.5
----- ----- ----- -----
Gross profit ......................... 53.6 56.2 54.2 53.5
Advertising and promotion ............ 26.4 27.8 25.1 27.2
Bad debt expense ..................... 4.6 8.5 5.9 9.0
General and administrative expense ... 26.9 15.0 27.2 19.3
Depreciation and amortization expense 0.9 1.0 0.8 1.0
Interest expense, net ................ 140.5 5.7 72.5 5.2
Income tax expense (benefit) ......... -- -- -- --
----- ----- ----- -----
Net (loss) ........................... (145.7) (1.8) (77.3) (8.2)
Dividends on preferred stock ......... (2.4) (0.7) (1.7) (0.6)
===== ===== ===== =====
Net (loss) applicable to common shares (148.1)% (2.5)% (79.0)% (8.8)%
===== ===== ===== =====
RESULTS OF OPERATIONS
Three months ended June 30, 2004 compared to three months ended June
30, 2003:
NET SALES
(In thousands) CHANGE FROM
2003 2004 2003 TO 2004 % CHANGE
---- ---- ------------ --------
AUDIO BOOK CLUB $ 7,274 $ 3,339 $ (3,936) (54.1)%
-------------------------------------------------------
RADIO SPIRITS
Catalog 989 687 (302) (30.5)%
Wholesale 172 413 241 140.2%
Continuity 938 308 (630) (67.1)%
-------------------------------------------------------
2,099 1,408 (691) (32.9)%
-------------------------------------------------------
0
MEDIABAY.COM 35 54 20 (57.5)%
-------------------------------------------------------
$ 9,407 $ 4,801 $ (4,606) (49.0)%
=======================================================
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 June 30, 2004, the
Audio Book Club spent $32,000 to attract new members, a reduction of $787,000,
or 96.1%, from the amount spent to attract new members of $819,000 during the
three months ended June 30, 2003. Audio Book Club attracted approximately 3,000
new members in the three months ended June 30, 2004 as compared to approximately
52,000 new members in the three months ended June 30, 2003. The reduction of
advertising spending occurred throughout the year ended December 31, 2003 and
the first quarter of 2004. For the year ended December 31, 2003, advertising
expenditures to attract new members were down 74.7%, from the amount spent to
attract new members during the year ended December 31, 2002. For the three
months ended March 31, 2004, advertising expenditures to attract new members
were down 68.9%, from the amount spent to attract new members during the three
months ended March 31, 2003. 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.
The decrease in Radio Spirits catalog sales of $302,000, or 30.5%, is
principally attributable to lower sales from catalogs mailed in the second
20
quarter of 2004 due to reduced discounting in attempt to improve margins and a
reduction in new product offerings in the catalog mailings. Based on the
performance of these catalogs we have revised future mailings to include more
discounted products and have increased the number of new product offerings.
Wholesale sales of old-time radio products increased principally due to
significant returns recognized in the second quarter of 2003. Sales of our
World's Greatest Old-Time Radio continuity program decreased for the three
months ended June 30, 2004, as compared to the three months ended June 30, 2003,
principally due to the reduction in our advertising expenditures for new
members. For the three months ended June 30, 2004, we did not spend any money to
attract new continuity customers, a reduction of $64,000 from the amount spent
to attract new customers during the three months ended June 30, 2003.
COST OF SALES
(In thousands)
2003 2004
------------------------------ --------------------------------
AS A % AS A % FROM 2003 TO 20004
$ OF NET SALES $ OF NET SALES CHANGE % CHANGE
------------- ------------ -------------- ------------ ------ --------
AUDIO BOOK CLUB $ 3,084 42.4% $ 1,569 47.0% $ (1,515) (49.1)%
------------------------------ -------------------------------- -----------------------------------
RADIO SPIRITS
Catalog 455 46.0% 293 42.6% (162) (35.7)%
Wholesale 243 141.3% 258 62.5% 15 6.3 %
Continuity 342 36.5% 108 35.0% (234) (68.4)%
------------------------------ -------------------------------- -----------------------------------
Total Radio Spirits 1,040 49.6% 659 46.8% (381) (36.7)%
------------------------------ -------------------------------- -----------------------------------
MEDIABAY.COM -- -- -- -- -- --
------------------------------ -------------------------------- -----------------------------------
$ 4,124 43.8% $ 2,228 46.4% $ (1,896) (46.0)%
============================== ================================ ===================================
The principal reason for the decline in cost of sales at Audio Book
Club was a reduction in sales of 54.1% as described above. Cost of sales as a
percentage of sales at Audio Book Club for the three months ended June 30, 2004
was 47.0%, compared to 42.4% for 2003. The increase in cost of sales as a
percentage of sales is principally due to an increase in fulfillment costs as a
percentage of sales since the fixed portion of our third party fulfillment costs
is allocated to a smaller active membership.
The principal reason for the decline in cost of sales at Radio Spirits
was a reduction in sales of 32.9% as described above. As a percentage of sales,
cost of sales at Radio Spirits decreased to 46.8% for the three months ended
June 30, 2004 from 49.6% for the three months ended June 30, 2003. Cost of
catalog sales decreased as a percentage of sales to 42.6% for the three months
ended June 30, 2004 as compared to 46.0% for the three months ended June 30,
2003 principally due to fewer sales of discounted items. The cost of wholesale
sales as percentage of sales decreased to 62.5% for the three months ended June
30, 2004 as compared to 141.3% for the three months ended June 30, 2003. The
cost of sales for the three months ended June 30, 2003 was negatively impacted
by significant returns recorded in the quarter.
21
ADVERTISING AND PROMOTION
FROM 2003 TO 2004
2003 2004 CHANGE % CHANGE
---- ---- ------ --------
(In thousands)
AUDIO BOOK CLUB
New Member $ 819 $ 32 $ (787) (96.1)%
Current Member 502 330 (171) (34.1)%
-------------------------------------------------------
Total Audio Book Club 1,321 363 (958) (72.5)%
-------------------------------------------------------
RADIO SPIRITS
Catalog 184 180 (4) (1.8)%
Wholesale 26 8 (18) (71.0)%
Continuity 64 -- (64) (100.0)%
-------------------------------------------------------
Total Radio Spirits 274 188 (86) (31.3)%
-------------------------------------------------------
NEW PROJECTS 255 5 (250) (98.1)%
-------------------------------------------------------
TOTAL SPENDING 1,850 556 (1,294) (70.0)%
AMOUNT CAPITALIZED (794) (27) (767) (96.6)%
AMOUNT AMORTIZED 1,556 740 (816) (52.4)%
-------------------------------------------------------
ADVERTISING AND PROMOTION EXPENSE $ 2,612 $ 1,268 $ (1,344) (51.4)%
=======================================================
Advertising and promotion expenses decreased $1.3 million to $1.3
million for the three months ended June 30, 2004 as compared to $2.6 million in
the prior comparable period. Actual advertising expenditures for the three
months ended June 30, 2004 decreased $1.3 million to $0.6 million from $1.9
million during the three months ended June 30, 2003. The decrease was due to a
minimal amount of new member marketing for Audio Book Club new members due to
cash constraints and decreased advertising to existing members due to the
reduction in Audio Book Club membership because of normal attrition with no
marketing to replace leaving members.
BAD DEBT EXPENSE
2003 2004 FROM 2003 TO 2004
--------------------------- ----------------------------- ------------------------
(In thousands) As a % As a %
$ of Net Sales $ of Net Sales Change % Change
--------- ------------- ---------- ------------- -------- ----------
AUDIO BOOK CLUB $ 733 10.1% $ 194 5.8% $ (539) (73.6)%
--------- ------------- ---------- ------------- -------- ----------
RADIO SPIRITS
Catalog -- -- -- -- -- --
Wholesale 4 2.2% 4 0.9% -- --
Continuity 61 6.5% 25 8.1% (36) (59.2)%
--------- ------------- ---------- ------------- -------- ----------
65 3.1% 29 2.0% (36) (55.8)%
MEDIABAY.COM -- -- -- -- -- --
--------- ------------- ---------- ------------- -------- ----------
$ 798 8.5% $ 222 4.6% $ 575 (72.1)%
========= ============= ========== ============= ======== ==========
22
The principal reason for the decline in bad debt expense at Audio Book
Club was a reduction in net sales of 54.1% as described above. Bad debt expense
as a percentage of net sales at Audio Book Club for the three months ended June
30, 2004 was 5.8%, compared to 10.1% for the three months ended June 30, 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 June
30, 2004 as compared to the three months ended June 30, 2003.
GENERAL AND ADMINISTRATIVE
2003 2004 FROM 2003 TO 2004
--------------------------- ----------------------------- ------------------------
(In thousands) As a % As a %
$ of Net Sales $ of Net Sales Change % Change
--------- ------------- ---------- ------------- -------- ----------
AUDIO BOOK CLUB $ 797 11.0% $ 605 18.1% $ (192) (24.1)%
RADIO SPIRITS 333 15.9% 203 14.4% (130) (39.0)%
MEDIABAY.COM 174 503.7% 151 277.0% (23) (13.4)%
CORPORATE 104 334 230
--------- ------------- ---------- ------------- -------- ----------
$ 1,408 15.0% $ 1,293 26.9% $ (115) (8.2)%
========= ============= ========== ============= ======== ==========
The decrease in general and administrative expenses for the three
months ended June 30, 2004 as compared to the three months ended June 30, 2003
at Audio Book Club is principally due to a reduction in personnel, as a result
of a restructuring, which occurred in September 2003 and reductions in insurance
costs. The decrease in general and administrative expenses for the three months
ended June 30, 2004 as compared to the three months ended June 30, 2003 at Radio
Spirits is principally due to a reduction in personnel, as a result of a
restructuring, which occurred in September 2003 and reductions in insurance
costs. The increase in corporate general and administrative expenses for the
three months ended June 30, 2004 as compared to the three months ended June 30,
2003 is principally due to an adjustment to professional fees in the second
quarter of 2003 due to the settlement of a lawsuit in which ABC was the
plaintiff and arising out of an acquisition made by ABC.
DEPRECIATION AND AMORTIZATION
2003 2004
------------ ------------
(In thousands)
DEPRECIATION
AUDIO BOOK CLUB $ 26 $ 26
RADIO SPIRITS 11 9
TOTAL DEPRECIATION 37 35
AMORTIZATION
CORPORATE 62 6
------------ ------------
TOTAL DEPRECIATION AND AMORTIZATION $ 99 $ 41
============ ============
The decrease in depreciation and amortization expenses for the three
months ended June 30, 2004 as compared to the three months ended June 30, 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.
23
INTEREST EXPENSE
2003 2004 CHANGE
---- ---- ------
(IN THOUSANDS)
TOTAL INTEREST PAID, NET $ 141 $ 260 $ 119
ACCRUED INTEREST PAID THIS PERIOD 73 -- (73)
--------- ---------- ---------
CURRENT INTEREST PAID 68 260 192
INTEREST ACCRUED 123 -- (123)
INTEREST INCLUDED IN DEBT 212 206 (6)
AMORTIZATION OF DEFERRED FINANCING COSTS AND
ORIGINAL ISSUE DISCOUNT 129 365 176
LOSS ON EARLY EXTINGUISHMENT OF DEBT -- 1,533 1,533
BENEFICIAL CONVERSION EXPENSES OF JANUARY 2004 NOTES -- 3,991 3,991
EXPENSE OF INDUCEMENT TO CONVERT, RELATED PARTY DEBT -- 390 390
--------- ---------- ---------
TOTAL INTEREST EXPENSE $ 532 $ 6,745 $ 6,213
========= ========== =========
The increase in interest expenses is principally due to the recognition
of expenses relating to our financing transactions in the first six months of
2004 as described in the Liquidity and Capital Resources section of this Item 2:
Management's Discussion and Analysis of Financial Condition and Results of
Operations. These items which total $5.9 million include a loss on early
extinguishment of debt of $1.5 million; beneficial conversion expenses of the
January 2004 Notes of $4.0 million and the expense of inducement to convert,
related party debt of $390,000.
PREFERRED STOCK DIVIDENDS
2003 2004
---- ----
(IN THOUSANDS)
DIVIDENDS ACCRUED ON SERIES A PREFERRED STOCK $ 57 $ 57
DIVIDENDS ACCRUED ON SERIES B PREFERRED STOCK 5 8
DIVIDENDS ACCRUED ON SERIES C PREFERRED STOCK -- 51
TOTAL DIVIDENDS ACCRUED ON PREFERRED STOCK --------- ---------
$ 62 $ 115
========= =========
The increase in preferred stock dividends for the three months ended
June 30, 2004 as compared to the three months ended June 30, 2003 is due to the
accrual of dividends for Series B Preferred Stock issued May 2003 and accrual of
dividends on the Series C Preferred Stock issued in May 2004. Preferred
dividends will increase going forward due to the issuance of Series C Preferred
Stock. Our Principal Shareholder agreed to exchange the principal of certain
notes, plus accrued and unpaid interest owed to the Principal Shareholder
aggregating $3.8 million and accrued and unpaid dividends owed to the Principal
Shareholder aggregating $519,000 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
accrues dividends at the rate of 9% per annum.
24
LOSS APPLICABLE TO COMMON STOCKHOLDERS
FROM 2002 TO 2003
2003 2004 CHANGE % CHANGE
---- ---- ------ --------
(IN THOUSANDS)
LOSS APPLICABLE TO COMMON STOCKHOLDERS $ 228 $ 7,111 $ 6,883 3,018.9%
Principally due to the increase in interest expenses relating to the
recognition of expenses of our financing transactions in the first six months of
2004 which total $6.0 million, and a reduction in gross profit due to lower
sales as described above, partially offset by lower advertising expenses, our
net loss applicable to common shares for the three months ended June 30, 2004
increased $6.9 million to $7.1 million, or $.40 per diluted share as compared to
a net loss applicable to common shares for the three months ended June 30, 2003
of $228,000, or $.02 per diluted share of common stock.
Six months ended June 30, 2004 compared to six months ended June 30,
2003:
NET SALES
($000'S) CHANGE FROM
2003 2004 2003 TO 2004 % CHANGE
---- ---- ------------ --------
AUDIO BOOK CLUB $ 15,380 $ 7,065 $ (8,315) (54.1)%
-------------------------------------------------------------
RADIO SPIRITS
Catalog 2,185 1,610 (575) (26.3)%
Wholesale 902 982 80 8.9 %
Continuity 1,586 721 (865) (54.5)%
-------------------------------------------------------------
4,673 3,314 (1,359) (29.1)%
-------------------------------------------------------------
MEDIABAY.COM 52 106 54 104.5 %
-------------------------------------------------------------
$ 20,105 $ 10,485 $ (9,620) (47.8)%
=============================================================
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 six months ended June 30, 2004, the Audio
Book Club spent $274,000 to attract new members, a reduction of $1.3 million, or
82.8%, from the amount spent to attract new members of $1.6 million during the
six months ended June 30, 2003. Audio Book Club attracted approximately 14,000
new members in the six months ended June 30, 2004 as compared to approximately
95,000 new members in the six months ended June 30, 2003. The lack of
advertising spending also 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.
The decrease in Radio Spirits catalog sales of $575,000, or 26.3%, is
principally attributable to lower sales from catalogs mailed in 2004 due to
reduced discounting in attempt to improve margins and a reduction in new product
offerings in the catalog mailings. Based on the performance of these catalogs we
have revised future mailings to include more discounted products and have
increased the number of new product offerings. Wholesale sales of old-time radio
products increased principally due to significant returns recognized in the
second quarter of 2003. Sales of our World's Greatest Old-Time Radio continuity
program decreased for the six months ended June 30, 2004, as compared to the six
months ended June 30, 2003, principally due lower membership because we reduced
advertising expenditures for new members. For the six months ended June 30,
2004, we spent $6,000 to attract new continuity customers, a reduction of
$675,000, or 99.2% less, from the amount spent to attract new customers of
$681,000 during the six months ended June 30, 2003.
25
COST OF SALES
(In thousands)
2003 2004 FROM 2003 TO 2004
------------------------ ----------------------- -----------------------
AS A % AS A %
$ OF NET SALES $ OF NET SALES CHANGE % CHANGE
-------- ------------ -------- ------------ ---------- --------
AUDIO BOOK CLUB $ 6,825 44.4% $ 3,224 45.6% $ (3,601) (52.8)%
RADIO SPIRITS
Catalog 1,062 48.6% 6380 42.2% (382) (36.0)%
Wholesale 666 73.9% 606 61.6% (61) (9.1)%
Continuity 802 50.6% 287 39.9% (514) (64.1)%
Total Radio Spirits 2,530 54.1% 1,573 47.5% (957) (37.8)%
MEDIABAY.COM 4 6.9% 1 0.4% (3) (75.0)%
$ 9,359 46.5% $ 4,798 45.8% $ 4,561 (48.7)%
The principal reason for the decline in cost of sales at Audio Book
Club was a reduction in sales of 54.1% as described above. Cost of sales as a
percentage of sales at Audio Book Club for the six months ended June 30, 2004
was 45.6%, compared to 44.4% for 2003. The increase in cost of sales as a
percentage of sales is principally due to an increase in fulfillment costs as a
percentage of sales since the fixed portion of our third party fulfillment costs
is allocated to a smaller active membership.
The principal reason for the decline in cost of sales at Radio Spirits
was a reduction in sales of 29.1% as described above. As a percentage of sales,
cost of sales at Radio Spirits decreased to 47.5% for the six months ended June
30, 2004 from 54.1% for the six months ended June 30, 2003. Cost of catalog
sales as a percentage of sales decreased principally due to fewer sales of
discounted items. The cost of wholesale sales as percentage of sales for the six
months ended June 30, 2004 decreased principally due to significant returns of
product in the second quarter of 2003. The cost of World's Greatest Old-Time
Radio continuity sales as a percentage of sales decreased because the continuity
sales for the six months ended June 30, 2003 included heavily discounted
introductory merchandise designed to attract new buyers. Since we did very
little new customer marketing in the six months ended June 30, 2004, very little
of the product sales were of heavily discounted products.
ADVERTISING AND PROMOTION
(In thousands) FROM 2003 TO 2004
--------------------
2003 2004 CHANGE % CHANGE
---- ---- ------ --------
AUDIO BOOK CLUB
New Member $ 1,597 $ 274 $ (1,322) (82.8)%
Current Member 1,108 632 (476) (43.0)%
Total Audio Book Club 2,705 906 (1,799) (66.5)%
RADIO SPIRITS
Catalog 499 341 (159) (31.8)%
Wholesale 36 11 (25) (69.8)%
Continuity 681 6 (675) (99.2)%
Total Radio Spirits 1,216 357 (859) (70.6)%
NEW PROJECTS 303 14 (289) (95.4)%
TOTAL SPENDING 4,224 1,277 (2,946) (69.8)%
AMOUNT CAPITALIZED (1,895) (245) (1,650) (87.1)%
AMOUNT AMORTIZED 3,131 1,595 (1,536) (49.1)%
ADVERTISING AND PROMOTION EXPENSE $ 5,459 $ 2,627 $ (2,832) (51.9)%
26
Advertising and promotion expenses decreased $2.8 million to $2.6
million for the six months ended June 30, 2004 as compared to $5.4 million in
the prior comparable period. Actual advertising expenditures for the six months
ended June 30, 2004 decreased $2.9 million to $1.3 million from $4.2 million
during the six months ended June 30, 2003. The decrease was due to a minimal
amount of new member marketing for Audio Book Club new members due to cash
constraints and restrictions placed on us by our new senior debt covenants and
the reduction in Audio Book Club membership due to normal attrition with no
marketing to replace leaving members.
BAD DEBT EXPENSE
2003 2004 FROM 2003 TO 2004
------------------------ ----------------------- -----------------------
AS A % AS A %
$ OF NET SALES $ OF NET SALES CHANGE % CHANGE
-------- ------------ -------- ------------ ---------- --------
AUDIO BOOK CLUB $ 1,692 11.0% $ 550 7.8% $(1,142) (67.5)%
RADIO SPIRITS
Catalog -- -- -- -- -- --
Wholesale 8 0.8% 8 0.8% -- --
Continuity 103 6.5% 62 8.7% (36) (39.5)%
111 2.4% 70 2.1% (36) (36.8)%
MEDIABAY.COM -- -- -- -- -- --
-------- ------------ -------- ------------ ---------- --------
$ 1,803 9.0% $ 620 5.9% $ 575 (65.6)%
======== ============ ======== ============ ========== ========
The principal reason for the decline in bad debt expense at Audio Book
Club was a reduction in net sales of 54.1% as described above. Bad debt expense
as a percentage of net sales at Audio Book Club for the six months ended June
30, 2004 was 7.8%, compared to 11.0% for the six months ended June 30, 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 six months ended June 30,
2004 as compared to the six months ended June 30, 2003.
GENERAL AND ADMINISTRATIVE
2003 2004 FROM 2003 TO 2004
------------------------ ----------------------- -----------------------
AS A % AS A %
$ OF NET SALES $ OF NET SALES CHANGE % CHANGE
-------- ------------ -------- ------------ ---------- --------
AUDIO BOOK CLUB $ 1,565 10.2% $ 1,275 18.0 $ (290) (18.5)%
RADIO SPIRITS 700 15.0% 413 12.5 (287) (41.0)%
MEDIABAY.COM 344 662.4% 322 303.2 (22) (6.4)%
CORPORATE 1,269 842 (427)
-------- ------------ -------- ------------ ---------- --------
$ 3,878 19.3% $ 2,853 27.2% $(1,025) (26.4)%
======== ============ ======== ============ ========== ========
27
The decrease in general and administrative expenses for the six months
ended June 30, 2004 as compared to the six months ended June 30, 2003 at Audio
Book Club is principally due to a reduction in personnel, as a result of a
restructuring, which occurred in September 2003 and lower insurance costs. The
decrease in general and administrative expenses for the six months ended June
30, 2004 as compared to the six months ended June 30, 2003 at Radio Spirits is
principally due to a reduction in personnel, as a result of a restructuring,
which occurred in September 2003, and lower insurance costs. The reduction in
corporate general and administrative expenses for the six months ended June 30,
2004 as compared to the six months ended June 30, 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 partially offset by higher investor relations expenses.
DEPRECIATION AND AMORTIZATION
2003 2004
------------ ------------
(In thousands)
DEPRECIATION
------------
AUDIO BOOK CLUB $ 53 $ 50
RADIO SPIRITS 24 18
TOTAL DEPRECIATION 77 68
AMORTIZATION
------------
CORPORATE 121 19
------------ ------------
TOTAL DEPRECIATION AND AMORTIZATION $ 198 $ 88
============ ============
The decrease in depreciation and amortization expenses for the six
months ended June 30, 2004 as compared to the six months ended June 30, 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
2003 2004 CHANGE
---- ---- ------
(IN THOUSANDS)
TOTAL INTEREST PAID $ 290 $ 533 $ 243
ACCRUED INTEREST PAID THIS PERIOD 74 74 --
--------- ---------- ----------
CURRENT INTEREST PAID 216 459 243
INTEREST ACCRUED 170 -- (170)
INTEREST INCLUDED IN DEBT 417 436 19
AMORTIZATION OF DEFERRED FINANCING COSTS AND
ORIGINAL ISSUE DISCOUNT 252 790 479
LOSS ON EARLY EXTINGUISHMENT OF DEBT -- 1,533 1,533
BENEFICIAL CONVERSION EXPENSES OF JANUARY 2004 NOTES -- 3,991 3,991
EXPENSE OF INDUCEMENT TO CONVERT, RELATED PARTY DEBT -- 390 390
--------- ---------- ----------
TOTAL INTEREST EXPENSE $ 1,055 $ 7,599 $ 6,544
========= ========== ==========
28
The increase in interest expenses is principally due to the recognition
of expenses relating to our financing transactions in the first six months of
2004 as described in the Liquidity and Capital Resources section of this Item 2:
Management's Discussion and Analysis of Financial Condition and Results of
Operations. These items which total $5.9 million include a loss on early
extinguishment of debt of $1.5 million; beneficial conversion expenses of
January 2004 Notes of $4.0 million and the expense of inducement to convert,
related party debt of $390,000.
PREFERRED STOCK DIVIDENDS
2003 2004
---- ----
(IN THOUSANDS)
DIVIDENDS ACCRUED ON SERIES A PREFERRED STOCK $113 $114
DIVIDENDS ACCRUED ON SERIES B PREFERRED STOCK 5 15
DIVIDENDS ACCRUED ON SERIES C PREFERRED STOCK -- 51
TOTAL DIVIDENDS ACCRUED ON PREFERRED STOCK -- --
$118 $180
==== ====
The increase in preferred stock dividends for the six months ended June
30, 2004 as compared to the six months ended June 30, 2003 is due to the accrual
of dividends for Series B Preferred Stock issued May 2003. and accrual of
dividends on the Series C Preferred Stock issued in May 2004. Our Principal
Shareholder agreed to exchange the principal of certain notes, plus accrued and
unpaid interest owed to the Principal Shareholder aggregating $3.8 million and
accrued and unpaid dividends owed to the Principal Shareholder aggregating
$519,000 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 accrues
dividends at the rate of 9% per annum.
LOSS APPLICABLE TO COMMON STOCKHOLDERS
FROM 2002 TO 2003
2003 2004 CHANGE % CHANGE
---- ---- ------ --------
(IN THOUSANDS)
LOSS APPLICABLE TO COMMON STOCKHOLDERS $ 1,765 $ 8,279 $ 6,514 369.1%
======== ======== ======== =======
Principally due to the increase in interest expenses relating to the
recognition of expenses of our financing transactions in the first six months of
2004 which total $6.0 million and a reduction in gross profit due to lower sales
as described above, partially offset by lower advertising expenses and general
and administrative expenses, our net loss applicable to common shares for the
three months ended June 30, 2004 increased $6.5 million to $8.3 million, or $.54
per diluted share as compared to a net loss applicable to common shares for the
six months ended June 30, 2003 of $1.8 million, or $.12 per diluted share of
common stock.
29
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. During 2003 and the first six months of 2004, we did not
have sufficient cash to undertake marketing activities to the extent of
historical levels. As a result, our member and customer bases eroded and our
revenues declined significantly. Although our cash position as of June 30, 2004
improved considerably, we will require additional financing to conduct
sufficient marketing activities to rebuild our member and customer bases. If we
do not obtain the funds necessary to increase our advertising to acquire new
members to expand our existing membership and customer bases, our revenue will
continue to decline, which will continue to negatively impact our performance.
For the six months ended June 30, 2004, cash increased by $1.8 million,
as we had net cash used in operating activities of $3.7, used net cash of
$67,000 in investing activities and had cash provided by investing activities of
$5.5 million.
FINANCING ACTIVITIES:
The following is a summary of our financing activities in the quarter:
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 the placement agent and a
broker warrants to purchase an aggregate of 245,000 shares of common stock and
also issued to the placement agent warrants to purchase an additional 500,884
shares of common stock on April 12, 2004 as partial consideration for the
placement agent's services. 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 (U.S.) Capital, L.L.C.
and Patriarch Partners, L.L.C. (the "ING Credit Agreement") and to reduce our
accounts payable.
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 plus accrued interest of $.2 million, (ii) the
30
ING Credit Agreement, which had an outstanding principal balance of
approximately $1.4 million and a partial payment of $1.6 million of the
convertible note issued to ABC Investment, L.L.C. as described below.
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 required 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 additional $1,800,000 if MediaBay does not raise at least
$2,000,000 in additional equity in each of the next two years.
Pursuant to an agreement dated April 28, 2004, on May 25, 2004 Herrick
exchanged 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 are exercisable until
April 28, 2014 at an exercise price of $0.53.
Pursuant to an agreement dated April; 28,2004, on May 25, 2004
Huntingdon exchanged 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 are 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 and Huntingdon agreed not to demand repayment of their debt
until 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.
New ABC Note
Also on April 28, 2004, we repaid $1.6 million principal amount of the
$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 our common stock on the closing date was $0.48.
31
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.
OPERATING ACTIVITY
Net cash used in operating activities principally consisted of the net
loss of $8.3 million increases in inventory, prepaid expenses and royalty
advances of $89,000, $93,000 and $756,000, respectively, and a decrease in
accounts payable and accrued expenses of $5.0 million partially offset by
non-cash beneficial conversion charges of $4.4 million, loss on extinguishment
of debt of $1.5 million, depreciation and amortization expenses of $88,000,
amortization of deferred financing costs and original issue discount of
$789,000, non-current accrued interest and dividends payable of $728,000,
non-cash stock compensation of $82,000 decreases in accounts receivable of $1.5
million and a net reduction in deferred member acquisition costs of $1.4
million.
The decrease in accounts receivable was primarily attributable to a
reduction in sales as described above. The net 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 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 once implemented 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 six months ended March 31, 2004, we
reduced accounts payable and accrued expenses by $5.0 million, the majority of
which were over 90 days past due.
Net cash used in investing activities consists of acquisition of fixed
assets of $67,000, principally computer equipment.
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
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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.
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.
On April 28, 2004, to reduce its debt to $6,800,000 Norton Herrick and
Huntingdon agreed, subject to, and automatically upon, the receipt of a fairness
opinion from an independent investment banking firm, to exchange the principal
of a $500,000 Note, $1,000,000 Note, $150,000 Note and $350,000 Note, plus
accrued and unpaid interest owed to the Principal Shareholder aggregating
$1,833,000 and accrued and unpaid dividends owed to the Principal Shareholder
aggregating $519,000 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 are 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. On May 25, 2004, a fairness
opinion was received from an independent investment banking firm, and, pursuant
to the agreements described above, the exchange of debt for units occurred.
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
33
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
August 13, 2004 of $19.0 million, of which $7.0 million is at fixed rates, $9.5
million bears interest at LIBOR plus 10% and $2.5 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 and six months ended June 30, 2004.
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 six months ended
June 30, 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.
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PART II - OTHER INFORMATION
ITEM 2: CHANGES IN SECURITIES AND USE OF PROCEEDS (DOLLARS IN THOUSANDS, EXCEPT
PER SHARE DATE)
On April 12, 2004, 5,333,333 shares of Common Stock were issued upon
the automatic conversion of $4.0 million aggregate principal amount of
promissory notes (the "Notes"). In addition, 64,877 shares of Common Stock were
issued upon conversion of accrued interest on the Notes in the amount of
$49,000. These securities were issued pursuant to an exemption from the
registration requirements offered by Section 3(a)(9) of the Securities Act of
1933.
On April 12, 2004, the Company issued to a placement agent, warrants to
purchase 500,884 shares of Common Stock as partial consideration for its
services as placement agent in a January 2004 financing. The warrants are
exercisable until January 28, 2009 at an exercise price of $1.28 per share.
These securities were issued in private transactions pursuant to an exemption
from the registration requirements offered by Section 4 (2) of, and Rule 506
promulgated under, the Securities Act of 1933.
On May 25, 2004, the Company issued to Norton Herrick and Huntingdon
Corporation 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 in exchange the principal of a $500,000
note, $1,000,000 note, $150,000 note and $350,000 note, plus accrued and unpaid
interest owed to the Norton Herrick aggregating $1,833,000 and accrued and
unpaid dividends owed to Norton Herrick aggregating $519,000. The warrants are
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. These securities
were issued pursuant to an exemption from the registration requirements offered
by Section 3(a)(9) of the Securities Act of 1933.
In February 2004, the Company also issued 8,000 shares of common stock,
upon exercise of options at an exercise price of $.10 per share. The securities
were issued pursuant to an exemption from the registration requirements offered
by Section 4(2) of the Securities Act of 1933.
In addition, the Company 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.
These securities were issued pursuant to an exemption from the registration
requirements offered by Section 3(a)(9) of the Securities Act of 1933.
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
Common Stock expired. The Company also cancelled non-plan warrants to purchase
25,000 shares of Common Stock.
ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
A Special Meeting of Shareholders was held on April 12, 2004 at which
time the Company's shareholders authorized the Company to issue shares of its
common stock upon conversion of the January 2004 Notes and the additional
warrants to purchase 500,884 shares of its common stock issued to the placement
agent by a vote of 7,800,256 for, 238,378 votes against, 127,555 abstaining.
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ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits
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
99.1 Press Release dated August 13, 2004
(b) Reports on Form 8-K
Report on Form 8-K filed with the Securities and Exchange Commission on
May 26, 2004 announcing an exchange of debt for units consisting of preferred
stock and warrants.
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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: August 13, 2004 By: /s/ Jeffrey Dittus
--------------------------------------------
Jeffrey Dittus
Chief Executive Officer
Dated August 13, 2004 By: /s/ John F. Levy
--------------------------------------------
John F. Levy
Chief Financial Officer
(principal accounting and financial officer)
37