Exhibit 99.1
FILM HOLDINGS CO.
CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2002 AND 2001
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders of Film Holdings Co:
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of operations, of cash flows and of stockholders' equity
(deficit) present fairly, in all material respects, the financial position of
Film Holdings Co. and its subsidiaries (the "Company") at December 31, 2002 and
2001, and the results of their operations and their cash flows for the years
then ended in conformity with accounting principles generally accepted in the
United States of America. These financial statements are the responsibility of
the Company's management; our responsibility is to express an opinion on these
financial statements based on our audits. We conducted our audits of these
statements in accordance with auditing standards generally accepted in the
United States of America, which require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, assessing
the accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for the opinion expressed above.
As discussed in Note 1 to the consolidated financial statements, the Company
adopted the provisions of SFAS No. 142, "Goodwill and Other Intangible Assets"
effective January 1, 2002.
March 21, 2003
2
FILM HOLDINGS CO.
CONSOLIDATED BALANCE SHEETS
AMOUNTS IN THOUSANDS EXCEPT NUMBER OF SHARES
December 31,
2002 2001
--------- ---------
Assets
Cash and cash equivalents, $365 restricted in 2001 $ 5,737 $ 1,137
Accounts receivable, net of allowances of $55,170 and $50,485
for 2002 and 2001, respectively 36,964 22,311
Inventories 10,239 18,817
Property and equipment, net 5,795 6,472
Film costs, net 39,526 85,686
Other assets 3,685 3,534
Goodwill, net of accumulated amortization of $21,238 72,098 72,438
Trademark and other intangibles 50 17,530
--------- ---------
Total Assets $ 174,094 $ 227,925
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Liabilities
Accounts payable $ 25,593 $ 16,104
Accrued expenses 37,897 38,867
Film obligations payable 33,685 85,735
Deferred revenues 37,084 33,901
Income taxes payable and deferred income taxes 3,043 1,678
Notes payable - 999
Senior subordinated notes, net of original issue discount 5,000 13,980
of $1,020 for 2001
Term loan - 3,158
Revolving line of credit 69,600 70,000
--------- ---------
Total Liabilities 211,902 264,422
--------- ---------
Commitments and contingencies - See Note 13
Stockholders' Equity (Deficit)
Class A Common Stock - authorized 17,412,404
shares; $.001 par value; 11,931,682 (2002) and 11,915,222 12 12
(2001) shares outstanding;
Class L Common Stock - authorized 2,000,000 shares; $.001 par value;
1,312,552 outstanding in 2002 and 2001 1 1
Additional paid-in capital 34,673 34,505
Stock subscriptions receivable (700) (800)
Accumulated Deficit (71,794) (70,215)
--------- ---------
Total Stockholders' Equity (Deficit) (37,808) (36,497)
--------- ---------
--------- ---------
Total Liabilities and Stockholder's Equity (Deficit) $ 174,094 $ 227,925
========= =========
See accompanying notes to the consolidated financial statements.
3
FILM HOLDINGS CO.
CONSOLIDATED STATEMENTS OF OPERATIONS
AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA
For the Years Ended
December 31,
2002 2001
-------- ---------
Net sales $350,174 $ 341,762
Cost of sales 230,415) (243,719)
Selling, general and administrative expenses (89,928) (76,738)
-------- ---------
Operating income 29,831 21,305
Interest and other income 785 1,073
Interest expense (15,722) (20,838)
-------- ---------
Income before provision for income taxes 14,894 1,540
Provision for income taxes (1,760) (1,800)
-------- ---------
Income (loss) before extraordinary item and cumulative
effect of changes in accounting principles $ 13,134 $ (260)
Extraordinary loss on early extinguishment of debt (1,233) -
Cumulative effect of changes in
accounting principles (13,480) (91,967)
-------- ---------
Net loss $ (1,579) $ (92,227)
======== =========
See accompanying notes to the consolidated financial statements.
4
FILM HOLDINGS CO.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
AMOUNTS IN THOUSANDS
Common Stock
----------------------------------------
Class A Class L Additional Stock Retained Earnings
---------------------------------------- Paid-In Subscriptions (Accumulated
Shares Amount Shares Amount Capital Receivable Deficit) Total
------ -------- ------ -------- ---------- ------------- ----------------- ---------
Balance - December 31, 2000 9,269 9 1,050 1 $ 19,831 $ (1,400) $ 22,012 $ 40,453
Stock issued 2,646 3 263 14,446 600 15,049
Compensatory stock options 228 228
Net loss (92,227) (92,227)
------ -------- ----- -------- -------- -------- -------- --------
Balance - December 31, 2001 11,915 $ 12 1,313 $ 1 $ 34,505 $ (800) $(70,215) $(36,497)
====== ======== ===== ======== ======== ======== ======== ========
Stock foreclosed (6) (66) 100 34
Stock options exercised 22 6 6
Compensatory stock options 228 228
Net loss (1,579) (1,579)
------ -------- ----- -------- -------- -------- -------- --------
Balance - December 31, 2002 11,931 $ 12 1,313 $ 1 $ 34,673 $ (700) $(71,794) $(37,808)
====== ======== ===== ======== ======== ======== ======== ========
See accompanying notes to the consolidated financial statements.
5
FILM HOLDINGS CO.
CONSOLIDATED STATEMENTS OF CASHFLOWS
AMOUNTS IN THOUSANDS
For the Years Ended
December 31,
-----------------------
2002 2001
--------- ---------
OPERATING ACTIVITIES:
Net loss $ (1,579) $(92,227)
Adjustments to reconcile net loss to net cash
provided by operating activities:
Depreciation and amortization of property and equipment 2,099 2,350
Amortization of goodwill - 4,790
Non-cash provision for income taxes 340 1,800
Amortization of loan fees and original issue discount 2,561 2,308
Amortization of film costs 44,483 84,360
Impairment of acquired intangibles 4,000 -
Cumulative effect of change in accounting principle 13,480 91,967
Extraordinary loss on early extinguishment of debt 1,293 -
Compensatory stock options 228 228
(Increase) decrease in operating assets:
Accounts receivable (14,652) 27,214
Inventories 8,577 2,378
Film costs (14,362) (54,250)
Other assets (2,404) (360)
Increase (decrease) in operating liabilities:
Accounts payable, accrued expenses and deferred revenue 11,702 (11,630)
Income taxes payable and deferred income tax 1,365 (493)
Film obligations (36,011) (15,291)
-------- --------
Cash provided by operating activities 21,120 43,144
-------- --------
INVESTING ACTIVITIES:
Investments (206) 4,532
Acquisition of a motion picture partnership - (17,530)
Acquisition of property and equipment (1,422) (236)
-------- --------
Cash used for investing activities (1,628) (13,234)
-------- --------
FINANCING ACTIVITIES:
Issuance of notes payable 5,000 -
Share foreclosure (66) -
Issuance of common stock 6 14,449
Payments on subordinated debt (15,375) -
Payments on term loan and notes payable (4,157) (7,153)
Collections on stock subscriptions receivable 100 600
Net repayments under revolving credit line (400) (37,100)
-------- --------
Cash used for financing activities (14,892) (29,204)
Increase in cash and cash equivalents 4,600 706
Cash and cash equivalents at beginning of period 1,137 431
-------- --------
Cash and cash equivalents at end of period $ 5,737 $ 1,137
======== ========
Supplemental Disclosure of Cash Paid for:
Interest $ 9,174 $ 13,261
Taxes $ 320 $ 800
See accompanying notes to the consolidated financial statements.
6
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - DESCRIPTION OF THE BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES:
On July 9, 1997, Film Holdings Co. ("Holdings" or the "Company"), a Delaware
corporation, was formed with initial capitalization of $16,557,000 for the
purpose of acquiring all of the common and preferred stock and refinancing
certain debt of LIVE Entertainment Inc. ("LIVE"). LIVE, through its wholly owned
subsidiaries LIVE Film and Mediaworks ("LFM") and LIVE International, is a
diversified entertainment company engaged in the production and worldwide
distribution of motion picture films in the theatrical, home video, television
and ancillary markets and is also engaged in the production and distribution of
television programs. The acquisition of LIVE by Holdings was effected by the
merger of Film Acquisition Co., a wholly owned subsidiary of Holdings, into LIVE
with LIVE as the surviving corporation. The total purchase price of $74,600,000
was funded through the initial equity capitalization, $42,046,000 of borrowings,
which were secured by the assets of LIVE and acquired cash. Since April 1998,
the Company has been doing business as Artisan Entertainment, Inc.
In July 2001, the Company entered into a settlement and release agreement and a
purchase agreement with several parties to acquire a motion picture partnership
for approximately $17,500,000, payable over a period of three years, with the
final payment due January 15, 2004. Assets acquired included a trademark, a
copyright and all rights to remakes and sequels with respect to a motion
picture. Additionally, in conjunction with the acquisition, the Company settled
outstanding participations to the motion picture partnership. As a result of the
adoption of Statement of Financial Standards (`SFAS') No. 142 effective January
1, 2002, the Company determined that it was appropriate to take a transitional
impairment charge for a portion of the carrying value. See Cumulative Effect of
Change in Accounting Principle.
In September 2001, the Company acquired Landscape Entertainment, an independent
producer of theatrical films and television programming, through the issuance of
approximately 2,646,000 Class A Common Shares and approximately 263,000 Class L
Common Shares. Assets acquired were comprised primarily of cash and film rights
to uncompleted product with a total fair value of approximately $18,000,000.
Cumulative Effect of Change in Accounting Principle
In January 2001, the Company adopted Statement of Position 00-2, "Accounting by
Producers and Distributors of Films" ("SOP 00-2"). SOP 00-2 established new film
accounting standards, including changes in revenue recognition and accounting
for advertising, development and overhead costs. Specifically, SOP 00-2 requires
advertising costs for theatrical and television product to be expensed as
incurred. This compares to the Company's previous policy of first capitalizing
and then amortizing advertising costs for theatrical product over the related
revenue streams. Additionally, the SOP requires that a company recognize revenue
from a licensing arrangement of a film when the license period has begun and the
customer can begin exploitation. SOP 00-2 also requires development costs for
abandoned projects and certain indirect overhead costs to be charged directly to
expense, instead of those costs being capitalized to film costs, which was
required under the previous accounting model. The SOP is effective for fiscal
years beginning after December 15, 2000 and was adopted by the Company effective
January 1, 2001.
As a result of adopting SOP 00-2, the Company's net loss in 2001 includes a
one-time, non-cash charge of $91,167,000, primarily to reduce the carrying value
of its film inventory. This charge has been reflected as a cumulative effect of
an accounting change in the accompanying consolidated statement of operations.
7
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - DESCRIPTION OF THE BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES: (CONTINUED)
On January 1, 2002, the Company adopted Statement of Financial Accounting
Standards No. 142, "Goodwill and Other Intangible Assets" ("SFAS No. 142"). SFAS
No. 142 addresses financial accounting and reporting for acquired goodwill and
other intangible assets and supersedes APB Opinion No. 17, "Intangible Assets"
and amends SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and
for Long-Lived Assets to Be Disposed Of". SFAS No. 142 establishes new
accounting for goodwill and other intangible assets recorded in business
combinations.
Under the guidance in SFAS No. 142, goodwill and certain acquired intangibles
balances are considered indefinite-lived intangibles. The goodwill and certain
acquired intangibles with indefinite lives are not subject to amortization, but
will be tested for impairment annually. In accordance with SFAS No. 142, the
Company tested goodwill and acquired intangibles for impairment as of January 1,
2002 by comparing their fair value to their carrying value at that date. SFAS
No. 142 requires the Company to test goodwill for impairment using a two-step
process. The first step is a screen for potential impairment, while the second
step measures the amount of impairment. In the current year, the Company
allocated the costs of intangibles acquired in the prior year. As a result of
adopting SFAS No. 142, the Company determined that certain intangibles were
impaired based on the expected present value of future cashflows. This
transitional impairment was recorded as a one time, non-cash charge of
$13,480,000 and is reflected as a cumulative effect of an accounting change in
the accompanying financial statements. In addition, during 2002, pursuant to
SFAS No. 142, the Company incurred an additional impairment charge of $4,000,000
which has been recorded as a charge to operating income. The additional
impairment charge was required due to a decrease in the expected present value
of future cashflows. This decrease was a result of changes in the production
strategy as determined by management.
Additionally, had the provisions of SFAS No. 142 been adopted in 2001, the
Company would not have recorded amortization expense of $4,790,000.
The following table provides a reconciliation of reported income (loss) before
cumulative effect of change in accounting principle and reported net loss for
the prior-year to adjusted earnings had SFAS No. 142 been applied as of the
beginning of fiscal 2001.
Earnings
Per
Amount Share
-------- ---------
Reported loss before cumulative effect of
change in accounting principle $ (260) $ (0.03)
Add back amortization (net of tax):
Goodwill $ 3,161 $ 0.33
------- --------
Adjusted loss before cumulative effect of
change in accounting principle $ 2,901 $ 0.30
======= ========
Earnings
Per
Amount Share
--------- ---------
Reported net loss $(92,227) $ (9.60)
Add back amortization (net of tax):
Goodwill $ 3,161 $ 0.33
-------- --------
Adjusted net loss $(89,066) $ (9.27)
======== ========
8
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - DESCRIPTION OF THE BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES: (CONTINUED)
Principles of Consolidation
The consolidated financial statements include the accounts of the Company and
its subsidiaries for the years ended December 31, 2002 and 2001. All significant
intercompany transactions have been eliminated.
Cash Equivalents
The Company considers all highly liquid investments with an original maturity of
three months or less to be cash equivalents.
Accounts Receivable
Accounts receivable represent amounts billed and due from customers, net of
allowances for doubtful accounts, sales returns and advertising credits.
Accounts receivable balances have been discounted where applicable.
Inventory Valuation
The Company's inventory of duplicated DVD's, videocassettes and boxes is stated
at the lower of cost, determined by the first-in first-out ("FIFO") method, or
market.
Property and Equipment
Property and equipment are stated at cost less accumulated depreciation and
amortization. Depreciation is provided on a straight-line basis over the
estimated useful lives of the related assets. Leasehold improvements are
amortized over the lesser of their estimated useful lives or the terms of the
related leases. Repairs and maintenance costs are charged to expense as
incurred. The cost of assets retired or otherwise disposed of and the related
accumulated depreciation and amortization are removed from the accounts and any
resulting gain or loss is included in income. Computer software developed or
obtained for internal use is depreciated using the straight-line method over the
estimated useful life of the software, generally not in excess of five years.
Film Costs
Film costs include acquisition and production costs which benefit future periods
as well as production overhead. Such costs are amortized, and participation
expenses are accrued, in the proportion that revenue recognized during the year
for each film bears to the estimated total revenues to be received from all
sources under the individual film forecast method. Estimated total revenue and
costs are reviewed and revisions to the amortization rates are recorded as
necessary. Film costs are stated at the lower of un-amortized cost or estimated
net realizable value.
Estimates of total revenues can change significantly due to a variety of
factors, including the level of market acceptance of film and television
products, advertising rates and subscriber fees. Accordingly, revenue estimates
are reviewed periodically and amortization is adjusted if necessary. Such
adjustments could have a material effect on results of operations in future
periods.
Debt Issue Costs
Costs associated with obtaining debt financing have been capitalized as other
assets and are amortized over the life of the related debt.
9
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - DESCRIPTION OF THE BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES: (CONTINUED)
Goodwill
In accordance with SFAS No. 142, which the Company adopted January 1, 2002, the
Company no longer amortizes goodwill and certain intangible assets with an
indefinite useful life created by business combinations using the purchase
method of accounting. Previously, goodwill related to acquisitions prior to June
30, 2001, representing the excess of the purchase price over the fair value of
the net assets of the acquired entities, was amortized on a straight-line basis
over 20 years. The Company reviews its intangible assets for impairment whenever
events or changes in circumstances indicate the carrying amount of such assets
may not be recoverable. Impairment losses are recorded in the event the net book
value of such assets exceeds the future undiscounted cash flows attributable to
such assets.
As a result of recognizing tax benefits associated with the utilization of
pre-acquisition tax attributes, the Company's goodwill was reduced $340,000 and
$1,800,000 for the years ended December 31, 2002 and December 31, 2001,
respectively. See Note 8, Income Taxes.
Income Taxes
Income taxes are accounted for under SFAS No. 109, "Accounting for Income
Taxes." Under SFAS No. 109, deferred tax assets and liabilities are determined
based on differences between the financial reporting and tax basis of assets and
liabilities, and are measured using the enacted tax rates and laws that will be
in effect when the differences are expected to reverse.
Revenue Recognition
Revenue from theatrical distribution is recognized as the films are exhibited.
Revenue from home video distribution is recognized upon street date. However, in
accordance with industry practice, certain sales are made with the right to
return unsold items. An allowance is provided for estimated future sales
returns.
Revenue from free television and pay television license agreements is recognized
when films are made available for exhibition. Distribution of the Company's
films in foreign countries is primarily accomplished through the licensing of
various distribution rights to subdistributors. The terms of licensing
agreements with such subdistributors generally include the receipt of
non-refundable guaranteed amounts by the Company and revenue thereon is
recognized when film rights become available for exploitation in their
respective markets. Cash collected in advance of the time of availability is
recorded as deferred revenue.
After completion, a typical theatrical film will generally be made available for
license as follows:
Months After Approximate
Marketplace Initial Release Release Period
----------- --------------- --------------
Domestic theatrical ---- ---- 1-6 months
Domestic home video 4-6 months ---- ----
Domestic pay-per-view 4-6 months 3 months
Domestic pay television 6-10 months 12-21 months
Domestic network/basic cable 30-36 months 18-36 months
Domestic syndication 30-36 months 3-15 years
Foreign home video 6-12 months ---- ----
Foreign television 18-24 months 18-30 months
10
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - DESCRIPTION OF THE BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES: (CONTINUED)
Concentration of Credit Risk
The Company licenses films and television programs and sells DVD's and
videocassettes to wholesalers and retailers worldwide. Credit is extended to
wholesalers and retailers based on an evaluation of the customer's financial
condition, and generally collateral is not required. Estimated credit losses are
provided for in the financial statements.
The Company places its temporary cash investments with high credit-quality
financial institutions and limits the amount of credit exposure to any one
financial institution. Generally, such investments mature within 30 to 90 days
and therefore are subject to little risk. Since its inception, the Company has
not incurred any losses related to these investments.
Fair Values of Financial Instruments
The carrying value of the Company's financial instruments, which consist
primarily of accounts receivable, accounts payable and debt, approximates the
fair value due to the short maturity of receivables and payables and the
variable nature of the interest on such debt.
Use of Estimates
The preparation of financial statements in accordance with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent liabilities and the reported amounts of revenues and expenses. Actual
results could differ from those estimates.
Stock-Based Compensation
The Company accounts for stock-based employee compensation arrangements in
accordance with the provisions of Accounting Principles Board Opinion ("APB")
No. 25, "Accounting for Stock Issued to Employees," and complies with the
disclosure provisions of Statement of Financial Accounting Standards ("SFAS")
No. 148, "Accounting for Stock-Based Compensation - Transition and Disclosure -
an amendment of SFAS 123." Under APB 25, compensation expense is recognized over
the vesting period based on the difference, if any, on the date of grant between
the deemed fair value for accounting purposes of the Company's stock and the
exercise price on the date of grant. The Company accounts for stock issued to
non-employees in accordance with the provisions of SFAS No. 123, "Accounting for
Stock-Based Compensation" and Emerging Issues Task Force ("EITF") 96-18.
In 2002 and 2001, the Company continued to account for stock-based compensation
to its employees using the intrinsic value method prescribed by APB No. 25, and
related interpretations, under which $228,000 and $228,000, respectively, in
compensation cost has been recognized for each year. On a pro forma basis,
compensation cost determined in accordance with SFAS No. 123 has no material
impact on net income or earnings per share in each of the years presented.
The fair market value of each option grant is estimated on the date of grant
using the minimum value method with the following assumptions for grants in
2002: risk free interest rates of 4.56%, expected dividend yields of zero, and
expected lives from 3 to 5 years. No options were granted in 2001.
11
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - DESCRIPTION OF THE BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES: (CONTINUED)
Earnings (Loss) Per Share
Basic earnings (loss) per share is computed by dividing the net income (loss)
applicable to Class A common stockholders for the period by the weighted average
number of Class A common shares outstanding. Diluted earnings (loss) per share
amounts are based upon the weighted average number of common and common
equivalent shares outstanding during the year. Potential common equivalent
shares are excluded from the computation in periods in which they have an
antidilutive effect. The difference between basic and diluted earnings (loss)
per share, for the Company, is attributable to stock options and assumed
conversion of Class L stock. For the year ended December 31, 2002, the
calculation of diluted earnings (loss) per share excludes options of 3,755,000
and the conversion of Class L Common Shares into 7,121,000 Class A Common Shares
as their inclusion would be antidilutive and, accordingly, the effect of
priority distributions relating to the Class L Common Shares is also excluded
from the calculation.
Reclassification
Certain reclassifications were made to the 2001 financial statements to conform
to the 2002 presentation.
New Accounting Pronouncements
In June 2001, the Financial Accounting Standards Board ("FASB") issued SFAS No.
143, Accounting for Asset Retirement Obligations. SFAS No. 143 applies to legal
obligations associated with the retirement of long-lived assets that result from
acquisition, construction, development and/or the normal operation of a
long-lived asset. SFAS No. 143 is effective for financial statements for fiscal
years beginning June 15, 2002. The Company is required to adopt SFAS No. 143 in
the first quarter of 2003. The Company does not believe adoption of this
statement will materially impact its financial position or results of
operations.
On January 1, 2002, the Company adopted SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets. SFAS No. 144 supersedes SFAS No.
121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed of, and the accounting and reporting provisions of APB
Opinion No. 30, Reporting the Results of Operations-Reporting the Effects of
Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently
Occurring Events and Transactions, for the disposal of a segment of a business.
SFAS No. 144 also amends ARB No. 51, Consolidated Financial Statements, to
eliminate the exception to consolidation for a subsidiary for which control is
likely to be temporary. Adoption of this statement did not materially impact the
Company's financial position or results of operations.
In April 2002, the FASB issued SFAS No. 145, Rescission of FAS Nos. 4, 44, and
64, Amendment of FAS No. 13, and Technical Corrections. SFAS No. 145 rescinds
SFAS No. 4, Reporting Gains and Losses from Extinguishment of Debt and SFAS No.
64, Extinguishments of Debt Made to Satisfy Sinking-Fund Requirements. SFAS No.
145 also rescinds SFAS No. 44, Accounting for Leases, to eliminate an
inconsistency between the required accounting for sale-leaseback transactions
and the required accounting for certain lease modifications that have economic
effects that are similar to sale-leaseback transactions. SFAS No. 145 also
amends other existing authoritative pronouncements to make various technical
corrections, clarify meanings, or describe their applicability under changed
conditions. The provisions of this statement are effective January 1, 2003. The
Company does not believe the adoption of this statement will have a material
impact on its financial position or results of operations.
12
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - DESCRIPTION OF THE BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES: (CONTINUED)
In June 2002, the FASB issued SFAS No. 146, Accounting for Costs Associated with
Exit or Disposal Activities, which addresses financial accounting and reporting
for costs associated with exit or disposal activities and replaces Emerging
Issues Taskforce Issue No. 94-3, Liability Recognition for Certain Employee
Termination Benefits and Other Costs to Exit and Activity (including Certain
Costs Incurred in a Restructuring). The provisions of SFAS No. 146 are effective
for exit or disposal activities initiated after December 31, 2002. The Company
does not believe the adoption of this statement will have a material impact on
its financial position or results of operations.
In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based
Compensation Transition and Disclosure. SFAS No. 148 amends SFAS No. 123,
Accounting for Stock-Based Compensation, to provide alternative methods of
transition to SFAS No. 123's fair value method of accounting for stock-based
employee compensation. SFAS No. 148 also amends the disclosure provisions of
SFAS No. 123 and APB No. 28, Interim Financial Reporting, to require disclosures
in the summary of significant accounting policies of the effects of an entity's
accounting policy with respect to stock-based employee compensation on reported
net income and earnings per share in annual and interim financial statements.
SFAS No. 148 does not amend SFAS No. 123 to require companies to account for
employee stock options using the fair value method. SFAS No. 148 is effective
for years ending after December 15, 2002. The Company intends to continue to
account for stock-based compensation to its employees using the intrinsic value
method prescribed by APB No. 25, and related interpretations. Accordingly,
adoption of this statement did not materially impact the Company's financial
position or results of operations.
NOTE 2 - FILM COSTS:
Film costs, net of amortization as of December 31, 2002 and December 31, 2001,
consist of the following:
(In Thousands)
--------------
December 31,
2002 2001
------------- -----------
Released $ 26,475 $ 78,369
Completed, not released 12,554 7,317
In process 497 -
------------- -----------
$ 39,526 $ 85,686
============= ===========
Released film costs include $20,000,000 (reduced by amortization of $10,000,000
to date) for an acquired library, which is being amortized over 10 years. The
Company estimates that approximately 68% and 94% of its film costs (exclusive of
the library) recorded at December 31, 2002 will be amortized during the next one
and three years, respectively. As of December 31, 2002, the Company estimates
that approximately 59% of its film obligations payable will be paid in the next
fiscal year.
13
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 3 - PROPERTY AND EQUIPMENT:
The components of property and equipment at December 31, 2002 and December 31,
2001 are as follows:
(In Thousands)
--------------
December 31,
2002 2001
------------- -----------
Property and equipment $ 12,567 $ 11,145
Leasehold improvements 2,510 2,510
Less accumulated depreciation and amortization (9,282) (7,183)
------------- -----------
$ 5,795 $ 6,472
============= ===========
NOTE 4 - DEBT AND OTHER FINANCING:
Debt and other financing at December 31, 2002 and December 31, 2001 are
comprised of the following:
(In Thousands)
--------------
December 31,
2002 2001
------------- ----------
Notes payable for equipment financing $ - $ 999
7.5% Subordinated note due 2005 5,000 -
13.5% Senior subordinated notes, including
original issue discount of $1,020 in 2001 - 13,980
Term loans - 3,158
Revolving line of credit 69,600 70,000
------------- ----------
$ 74,600 $ 88,137
============= ==========
On July 9, 1997, Artisan Pictures Inc. entered into an agreement with an 11.8%
shareholder for $15,000,000 of senior subordinated notes, which carried interest
at 13.5% per annum and had a maturity date in 2004. The notes were subordinated
to the bank credit facility. In connection with the refinancing of the Company's
credit facility in 2002, the notes were paid early resulting in an early
extinguishment of debt charge of $1,293,000, which has been recognized as an
extraordinary loss in the statement of operations.
On July 9, 1997, Artisan Pictures Inc. entered into a $135,000,000 Revolving
Credit Facility ("the Facility") with a group of banks. The Facility was
comprised of a $30,000,000 term loan and a $105,000,000 Revolving Credit
Facility. During 2000, the Facility was amended to allow for a maximum borrowing
of $165,000,000 with a maturity date of July 9, 2002.
14
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 4 - DEBT AND OTHER FINANCING: (CONTINUED)
On March 29, 2002, the Facility was amended and restated with a maximum
borrowing commitment of $150,000,000 as of December 31, 2002, consisting
entirely of a revolving line of credit. The Facility expires on March 31, 2004.
The Facility bears interest at either LIBOR plus 2.5% or the bank's prime rate
plus 1.5%, at Artisan's election. As of December 31, 2002, $60,000,000 of the
borrowings were under a LIBOR contract at a rate of 3.92%. The balance was at
the bank's prime rate of 4.25% at December 31, 2002 plus 1.5%. The Facility
contains customary covenants, which, among other things, require adherence to
certain financial ratios and balances and impose limitations on film acquisition
and production costs, and general and administrative costs. As of December 31,
2002 and 2001, the Company was in compliance with all applicable covenants. The
credit facility is collateralized by substantially all of the Company's assets.
The Company pays fees of 0.5% per annum on the aggregate unused portion of the
loan commitment at each quarter end.
On October 20, 1998, Artisan Pictures Inc., a wholly-owned subsidiary of Film
Holdings Co., entered into a four year $4,083,000 loan to finance the
acquisition of property and equipment. As of December 31, 2002, the loan was
fully paid.
On January 17, 2002, Artisan issued a $10,000,000 subordinated promissory note
to Vialta, Inc., which bears interest at 7.5% per annum compounded quarterly and
which is due April 1, 2005. As of December 31, 2002, $5,000,000 was outstanding
on this note and the balance has been repaid.
On April 18, 2002, the Company entered into an agreement that provides for a
revolving advance of up to $15,000,000 to be paid by a company for their
exclusive right to perform services and render goods for Artisan Pictures, Inc.
The advance is repaid as such services are performed and is fully repayable by
May 31, 2007. As of December 31, 2002, the unearned advance was $11,784,000.
Annual maturities of borrowings outstanding at December 31, 2002 are as follows:
(In Thousands)
--------------
2003 $ -
2004 69,600
2005 5,000
Thereafter -
15
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 5 - LEASES:
The Company leases office facilities and computer equipment, furniture, fixtures
and other equipment. Most leases require that the Company perform all necessary
repairs and maintenance, provide insurance and pay taxes assessed against the
leased property. The terms of these leases range from month-to-month to ten
years. Certain rents are adjusted based upon changes in the Consumer Price
Index. The leases are classified as operating leases in the financial
statements.
Future minimum operating lease payments as of December 31, 2002 are as follows:
(In Thousands)
--------------
2003 $ 2,001
2004 2,073
2005 2,126
2006 2,138
2007 2,150
Thereafter 906
For the periods ended December 31, 2002 and 2001, rent expense under all
operating leases was $2,270,000 and $1,947,000 respectively.
The Company also has a capital lease related to equipment and furniture. The
lease obligation is classified as accrued expenses in the financial statements.
Future minimum capital lease payments as of December 31, 2002 are as follows:
(In Thousands)
--------------
2003 $ 542
2004 142
Thereafter -
NOTE 6 - FILM COSTS OBLIGATIONS:
At December 31, 2002 and 2001, unrecorded future obligations for undelivered
film product were approximately $7,450,000 and $2,150,000, respectively.
Deposits made for guaranteed delivery of undelivered film product are recorded
as film costs. Certain agreements permit a reduction in the amount of film right
payments when stipulated conditions have not been met. Many agreements also
contain an obligation for the payment of participations and royalties above the
minimum guarantee if sales exceed a stipulated amount. At December 31, 2002 and
2001, $12,446,000 and $36,280,000 of royalties and participations payable are
included in film obligations.
In October 1999, the Company entered into a series of agreements with an
independent third party under which the Company agreed to finance a portion of
production and distribution costs of certain motion picture films acquired by
the third party. At that time, the independent third party entered into a
revolving credit facility with a group of banks led by JPMorgan Chase Bank to
fund the film acquisition and marketing costs of the pictures. The Company is
the exclusive distributor of these films. The Company further provides
acquisition services to this third party and is actively involved in the
production of the films acquired under the agreements. Additionally, the Company
is required to meet detailed criteria, including a commitment to provide a
minimum of eight qualifying feature-length films by December 2003. Failure by
the Company to satisfy its obligation to provide the required motion pictures
would subject the Company to a charge of approximately $1,731,000.
16
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 6 - FILM COSTS OBLIGATIONS: (CONTINUED)
On March 29, 2002, FHCL LLC, a subsidiary of the Company, acquired loans
receivable of the independent third party from a group of banks led by JPMorgan
Chase Bank. As part of the acquisition, FHCL issued a senior secured
participation in the loans to JPMorgan Chase Bank and The Lewis Horwitz
Organization in the amount of $12,888,000. The participation in the loan is
repaid by receipts from the five films sold to the third party. As of December
31, 2002, the unpaid senior secured participation balance was $4,993,000.
On April 4, 2002, the Company entered into additional agreements with the
independent third party, related to the financing of marketing costs for a slate
of pictures. As of December 31, 2002, the Company had a remaining commitment to
provide four films, which meet certain criteria by April 4, 2004 of which one
film, "Boat Trip", had been identified. In the event that the Company does not
provide these films, it may be required to repurchase some or all of the films,
or repay the third party for marketing costs it incurred. As of December 31,
2002, the unreimbursed marketing cost balance was $5,459,000.
As a distributor, the Company records, in its statements of operations, the
revenues received from and the operating expenses related to the exploitation of
the films in all markets. Additionally, amounts due under the above agreements
are included in film obligations payable.
NOTE 7 - INCOME TAXES
As discussed in Note 1, the Company computes its income tax provision in
accordance with SFAS No. 109.
At December 31, 2002 and December 31, 2001, the major tax effected components of
the net deferred tax liability are as follows:
(In Thousands)
--------------
December 31,
2002 2001
----------------- ------------------
DEFERRED TAX ASSETS
Film costs $ 9,511 $ -
Sales returns and other allowances 21,871 17,364
Accruals not currently deductible 6,141 4,929
NOL and capital loss carryforwards 14,174 20,802
Deferred income 10,267 9,069
Other items and credits - 2,251
----------------- ------------------
Gross deferred tax assets 61,964 54,415
Valuation allowance (58,990) (49,889)
----------------- ------------------
Total deferred tax assets 2,974 4,526
----------------- ------------------
DEFERRED TAX LIABILITIES
Film costs - (3,298)
Other items and credits (1,713) -
Deferred state taxes (1,939) (1,906)
----------------- ------------------
Total deferred tax liabilities (3,652) (5,204)
----------------- ------------------
NET DEFERRED TAX LIABILITY $ (678) $ (678)
================= ==================
17
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 7 - INCOME TAXES (CONTINUED)
The difference between the reported tax provision and the statutory rate is as
follows:
2002 2001
--------------- --------------
Statutory federal tax rate 34.0% 34.0%
State income taxes net of federal benefit 9.6% 4.9%
Nondeductible amortization of goodwill 0.0% 105.8%
Foreign income exclusion (10.9)% -
Other items (17.7)% 7.4%
Net change in valuation allowance (3.2)% (35.1%)
------------- ------------
Effective tax rate 11.8 % 117.0%
============= ============
On July 9, 1997, LIVE was acquired in a transaction, which resulted in a change
of ownership as defined under Section 382 of the Internal Revenue Code. Such
change of ownership resulted in a limitation on the future utilization of LIVE's
net operating loss carryforwards beginning with the period ended December 31,
1997. The annual limitation is approximately $1,000,000 per year subject to
certain increases relating to built-in gain items.
At December 31, 2002 and December 31, 2001, approximately $41,000,000 and
$57,000,000, respectively, of net operating loss carryforwards are available for
regular federal tax reporting purposes of which $25,000,000 are subject to
annual limitations described above. The net operating loss carryforwards expire
between the years 2006 and 2020. For federal Alternative Minimum Tax ("AMT")
purposes, approximately $41,000,000 of net operating loss carryforwards will
expire between 2006 and 2020. Additionally, foreign tax credits of $1,300,000
are available to offset future regular income tax liabilities but are also
subject to the limitations mentioned above.
At December 31, 2002, approximately $28,273,000 of the acquired deferred tax
assets, if utilized, would result in a reduction of goodwill.
NOTE 8 - EARNINGS PER SHARE:
Class L common shareholders are entitled to a preferred distribution upon a
public offering, sale, transfer or other disposition for value of common stock
including by way of merger in which at least 50% of the outstanding Class A
common shares are sold, transferred or otherwise disposed of by one or more
holders thereof to persons who are not affiliates of the transferring holder
("realization event"). Had such a realization event occurred at December 31,
2002 and 2001, respectively, earnings per share would have been as follows:
2002 2001
------------- -----------
Basic and Diluted Earnings per Share:
Income (loss) before cumulative effect of
changes in accounting principles $ 0.73 $ (0.38)
Extraordinary loss on extinguishment of debt $ (0.10) $ -
Cumulative effect of changes in accounting principles $ (1.13) $ (9.57)
Net income (loss) $ (0.50) $ (9.95)
18
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 8 - EARNINGS PER SHARE: (CONTINUED)
(In Thousands, except per share data)
-------------------------------------
2002 2001
---------------- ------------------
Basic and Diluted Earnings per Share:
Numerator:
Income (loss) before cumulative effect of
change in accounting principle $ 13,134 $ (260)
Priority distributions due Class L Common Shares $ 4,401 $ 3,430
---------------- ------------------
Income (loss) before cumulative effect of change
in accounting principle allocable to Class A
Common Shares $ 8,733 $ (3,690)
Extraordinary loss on extinguishment of debt $ (1,233) $ -
Cumulative effect of changes in accounting principles $ (13,480) $ (91,967)
---------------- ------------------
Net loss to Class A Common Shares $ (5,980) $ (95,657)
================ ==================
Denominator:
Weighted average Class A Common Shares outstanding 11,924 9,610
Conversion of Class L Common Shares into Class A
Commons Shares - -
---------------- ------------------
11,924 9,610
================ ==================
NOTE 9 - STOCK OPTION PLANS:
On July 9, 1997 the Board of Directors approved the Company's 1997 Stock Option
Plan (the Plan). Under the provisions of the Plan, 2,965,421 Class A Common
Shares shares were made available for grant with option prices ranging from
$0.001 to $10.12 per share. The options expire 10 years after the date of grant.
Options to purchase 171,902 shares vested on the grant date. The balance of the
options vest at a rate of 5% per calendar quarter. On November 6, 2000, the Plan
was amended to increase the number of Class A common shares available for grants
to 4,971,792.
During the fiscal year ended December 31, 1998, options to purchase 25,000 and
500,000 shares of Class A Common Shares were granted outside of the Plan to
certain directors and advisors of the Company, respectively. The 25,000 options
vest 20% per annum and the 500,000 options vested 10% semi-annually from the
date of grant. The option prices range from $0.001 to $10.12 per share. During
1999, the Company discontinued the service agreement with an advisor and as a
result 500,000 options vested as of July 3, 1999.
On November 6, 2000, under the amended Plan, the Company granted 1,406,672
options to purchase Class A Common Shares with an exercise price of $13.63 per
share. As of December 31, 2002, 350,000 of the options were cancelled and
692,296 of the options had vested. The remaining 364,376 options will vest at
91,144 options per each calendar quarter through December 31, 2003. The options
expire July 10, 2007.
19
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 9 - STOCK OPTION PLANS: (CONTINUED)
Effective November 13, 2001, the Company approved a plan that makes available
for grant an additional 1,250,000 options to purchase Class A Common Shares
("2001 Plan"). The 2001 Plan provides that the term, exercise price and vesting
of the options are determined by the Company at the time of grant, with a
minimum exercise price equal to the fair market value of a share of common stock
at the time of grant and a maximum ten-year expiration from the grant date.
On March 1, 2002, under the 2001 Plan, the Company granted 1,130,000 options to
purchase Class A Common Shares with an exercise price of $7.39 per share.
Options to purchase 183,873 shares vested on the grant date and 40,127 shares
were scheduled to vest at various dates during 2002 according to negotiated
terms. The balance of the options vest at a rate of 5% per calendar quarter. The
options expire November 12, 2011.
A summary of the option activity is as follows:
Arrange Number of Option Price Weighted Average
Price Shares Per Share Exercise Price
- --------------------------------- ----------------- --------------- ----------------
Outstanding at December 31, 2000 4,001,431 $.001 to $13.63 $7.22
Cancelled 897,206 $.001 to $10.12 $4.31
-----------------
Outstanding at December 31, 2001 3,104,225 $.001 to $13.63 $8.06
Granted 1,130,000 $7.39 $7.39
Cancelled 982,340 $.001 to $13.63 $7.29
Exercised 22,016 $.001 to $2.98 $0.31
-----------------
Outstanding at December 31, 2002 3,229,869 $.001 to $13.63 $8.08
=================
Number of Exercise
Shares Price
--------- --------
Exercisable at December 31, 2001: 742,180 $ .001
221,030 $ 2.98
258,203 $ 6.55
258,203 $10.12
140,000 $13.63
---------
1,619,616
=========
Weighted average exercise price at December 31, 2001: $4.24
Exercisable at December 31, 2002: 555,639 $ .001
161,342 $ 2.98
267,032 $ 6.55
260,500 $ 7.39
267,032 $10.12
692,096 $13.63
---------
2,203,641
=========
Weighted average exercise price at December 31, 2002: $7.39
20
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 9 - STOCK OPTION PLANS: (CONTINUED)
Outstanding at December 31, 2002:
Number Option Price Weighted Average
Outstanding Per Share Remaining Life (in years)
- ----------- ------------ -------------------------
561,087 $ .001 4.81
163,018 $ 2.98 4.82
269,546 $ 6.55 4.80
910,000 $ 7.39 8.87
269,546 $ 10.12 4.80
1,056,672 $ 13.63 4.53
---------
3,229,869
=========
NOTE 10 - STOCKHOLDERS' EQUITY:
Common Stock
The two classes of common stock outstanding at December 31, 2002 and December
31, 2001 were Class A Common Stock and Class L Common Stock. The Class A Common
Stock is divided into seven sub- classes. Holders of Class A Common Stock are
entitled to one vote per share held (except for holders of Class A-7 Common
Stock, who are not entitled to vote in the election of directors but who are
entitled to vote on all other matters). Holders of Class L Common Stock are not
entitled to vote on any matter.
The holders of Class L Common Stock have first priority in receiving
distributions from the Company until there has been paid to such holders an
amount equal to $16.07 per share, plus an amount (the Priority Amount)
sufficient to generate an internal rate of return thereon equal to 12.5% per
annum, compounded quarterly, through the date such distributions are made. After
such distributions have been made to holders of Class L Common Stock, holders of
Class A and Class L Common Stock are entitled to receive any additional
distributions, pro rata based on the number of shares of Class A and Class L
Common Stock outstanding on the date of such additional distributions.
At any time upon a public offering or upon a change of control of the Company,
the Board of Directors may elect to convert each share of Class L Common Stock
into a number of shares of Class A Common Stock equal to: (i) one plus (ii) a
fraction, the numerator of which is the remaining unpaid Priority Amount and the
denominator of which is the implied value of one share of Class A Common Stock
at the time of conversion.
Stock Subscriptions Receivable
On July 9, 1997 and June 30, 2000, loans were granted to certain officers of the
Company in connection with the purchase of the Company's Common Stock. The loans
bear interest at 6% payable annually and are collateralized by the Common Stock.
21
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 11 - INCENTIVE SAVINGS PLAN:
The Company has established the Artisan Incentive Savings Plan (the "Plan"), a
401(k) savings plan, in which eligible employees of the Company may participate.
Employees must be 21 years of age or older to participate in the plan and are
permitted to enroll upon quarterly entry dates. Participants remain eligible for
Employer contribution as long as they maintain the 1,000 hour annual service
requirement. Employees may elect to contribute up to 20% of compensation on a
pre-tax basis, subject to the IRS annual maximum of $11,000 in 2002. The Company
matches 100% of the employee's first $1,000 in contribution. Employees must be
employed by the company as of the end of the calendar year to qualify for the
matching contribution. Contributions made by participants are fully vested at
all times. The Company's matching contribution vests equally over two years of
employee service. Company matching contributions to the Plan for the periods
ended December 31, 2002 and 2001 were $137,000 and $129,000, respectively.
The Company, at the discretion of the Board of Directors, may make annual profit
sharing contributions to the Plan. No profit sharing contributions have been
made to the Plan.
NOTE 12 - MAJOR CUSTOMERS, SUPPLIERS, AND EXPORT SALES:
During the years ended December 31, 2002 and 2001, one customer accounted for
20% and 14% of net sales, respectively.
During the years ended December 31, 2002 and 2001, a single supplier accounted
for 17% of disbursements in each year.
Export revenue from the Company's United States operations to unaffiliated
customers for the years ended December 31, 2002 and 2001 were as follows:
(In Thousands)
--------------
December 31,
2002 2001
------------- -------------
Europe $ 14,154 $ 25,779
Asia 4,584 4,743
Canada 3,503 9,256
South America 1,842 1,700
Other 3,207 4,661
------------- -------------
Total $ 27,290 $ 46,139
============= =============
NOTE 13 - CONTINGENCIES
The Company is currently involved in certain legal proceedings and has accrued
an estimate of the probable costs associated with the resolution of these
claims. These estimates have been developed in consultation with counsel and are
based upon an analysis of potential results, assuming a combination of
litigation and settlement strategies.
22
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 14 -RELATED PARTY TRANSACTIONS:
The Company has entered into agreements with affiliates of certain shareholders
to provide management and other services to the Company in exchange for a
monthly fee of $100,000 payable quarterly. Management fees of $1,200,000 were
paid in each of the years ended December 31, 2002 and 2001.
In July 2002, the Company settled for $200,000 a claim put forth by a
shareholder for a $3,400,000 advisory fee related to the Landscape acquisition
that was previously disclosed as a contingency.
In October 1999, the Company entered into agreements with a third party for the
production and distribution of certain films. A 12.7% shareholder of the company
is also a 12.5% owner of the third party.
NOTE 15 - EMPLOYMENT AGREEMENTS:
The Company has employment agreements with certain of its officers and employees
generally for terms of one to three years. Future minimum payments under these
agreements are approximately $7,977,000, $5,264,000, $1,175,000 and $670,000 for
the years ending December 31, 2003, 2004, 2005, and 2006, respectively.
23
FILM HOLDINGS CO.
CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 2001 AND 2000
24
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders of Film Holdings Co.:
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of operations, of cash flows and of stockholders' equity
(deficit) present fairly, in all material respects, the financial position of
Film Holdings Co. and its subsidiaries (the "Company") at December 31, 2001 and
2000, and the results of their operations and their cash flows for the years
then ended in conformity with accounting principles generally accepted in the
United States of America. These financial statements are the responsibility of
the Company's management; our responsibility is to express an opinion on these
financial statements based on our audits. We conducted our audits of these
statements in accordance with auditing standards generally accepted in the
United States of America, which require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, assessing
the accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for the opinion expressed above.
As discussed in Note 1 to the consolidated financial statements, the Company
adopted the provisions of Statement of Position 00-2 "Accounting by Producers or
Distributors of Films" effective January 1, 2001.
Century City, California
March 7, 2002
25
FILM HOLDINGS CO.
CONSOLIDATED BALANCE SHEETS
(Amounts in thousands except number of shares)
December 31,
-----------------------
2001 2000
--------- ---------
ASSETS
Cash and cash equivalents - $365 restricted (2001) $ 1,137 $ 431
Accounts receivable, net of allowances of $50,485 and $31,851
for 2001 and 2000, respectively 22,311 49,525
Inventories 18,817 21,195
Property and equipment, net 6,472 8,586
Film costs, net 85,686 172,941
Other assets 3,534 9,605
Goodwill, net of accumulated amortization of $21,238 and
$16,448 for 2001 and 2000, respectively 72,438 79,028
Acquired intangibles 17,530 -
--------- ---------
Total Assets $ 227,925 $ 341,311
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities
Accounts payable $ 16,104 $ 27,105
Accrued expenses 38,867 32,135
Film obligations payable 85,735 101,026
Deferred revenues 33,901 6,440
Income taxes payable and deferred income taxes 1,678 2,171
Notes payable 999 1,836
Senior Subordinated Notes, net of original issue discount
of $1,020 and $1,429 for 2001 and 2000, respectively 13,980 13,571
Term loan 3,158 9,474
Revolving line of credit 70,000 107,100
--------- ---------
Total Liabilities 264,422 300,858
--------- ---------
Commitments and contingencies
Stockholders' Equity (Deficit)
Class A Common Stock - authorized 17,412,404
shares; $.001 par value; 11,915,222 (2001) and 9,269,265 12 9
(2000) shares outstanding;
Class L Common Stock - authorized 2,000,000 shares; $.001
par value; 1,312,552 (2001) and 1,049,754 (2000) outstanding 1 1
Additional paid-in capital 34,505 19,831
Stock subscriptions receivable (800) (1,400)
Retained earnings (accumulated deficit) (70,215) 22,012
--------- ---------
Total Stockholder's Equity (Deficit) (36,497) 40,453
--------- ---------
Total Liabilities and Stockholder's Equity $ 227,925 $ 341,311
========= =========
See accompanying notes to the consolidated financial statements.
26
FILM HOLDINGS CO.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Amounts in thousands except per share data)
For the Years Ended
December 31,
----------------------
2001 2000
--------- ---------
Net Sales $ 341,762 $ 341,751
Cost of Sales (243,719) (279,906)
Selling, general and administrative expenses (76,738) (36,611)
--------- ---------
Operating income 21,305 25,234
Interest and other income 1,073 922
Interest expense (20,838) (20,334)
--------- ---------
Income before income taxes 1,540 5,822
Provision for income taxes (1,800) --
--------- ---------
Income (loss) before cumulative
effect of change in accounting principle $ (260) $ 5,822
Cumulative effect of change in
accounting principle (91,967) --
--------- ---------
Net income (loss) $ (92,227) $ 5,822
========= =========
See accompanying notes to the consolidated financial statements
27
FILM HOLDINGS CO.
CONSOLIDATED STATEMENTS OF STOCKHOLDER'S EQUITY
(Amounts in Thousands)
Common Stock
-----------------------------------------
Class A Class L Additional Stock
------------------ ----------------- Paid-In Subscriptions Retained
Shares Amount Shares Amount Capital Receivable Earnings Total
------- ------ ------ ------ ------- ---------- -------- -----
Balance - December 31, 1999 9,255 9 1,050 1 $ 19,496 $ (1,300) $ 16,190 $ 34,396
Stock issued 14 107 (100) 7
Compensatory stock options 228 228
Net income $ 5,822 $ 5,822
------ --- ----- --- -------- -------- --------- --------
Balance - December 31, 2000 9,269 $ 9 1,050 $ 1 $ 19,831 $ (1,400) $ 22,012 $ 40,453
====== === ===== === ======== ======== ========= ========
Stock issued 2,646 3 263 14,446 600 15,049
Compensatory stock options 228 228
Net loss $ (92,227) $(92,227)
------ --- ----- --- -------- -------- --------- --------
Balance - December 31, 2001 11,915 $12 1,313 $ 1 $ 34,505 $ (800) $ (70,215) $(36,497)
====== === ===== === ======== ======== ========= ========
See accompanying notes to the consolidated financial statements
28
FILM HOLDINGS CO.
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended
December 31,
-----------------------
(Amounts in Thousands) 2001 2000
---------- ----------
OPERATING ACTIVITIES:
Net income (loss) $ (92,227) $ 5,822
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization of property and equipment 2,350 2,266
Amortization of goodwill 4,790 4,790
Non-cash provision for income taxes 1,800 -
Amortization of loan fees and original issue discount 2,308 2,307
Amortization of film costs 84,360 187,408
Cumulative effect of change in accounting principle 91,967 -
Compensatory stock options 228 228
(Increase) decrease in operating assets:
Accounts receivable 27,214 18,191
Inventories 2,378 (1,025)
Film costs (54,250) (251,528)
Other assets (360) 4,235
Increase (decrease) in operating liabilities:
Accounts payable, accrued expenses and deferred revenue (11,630) (868)
Income taxes payable and deferred income tax (493) (875)
Film obligations (15,291) 39,615
--------- ---------
Cash provided by operating activities 43,144 10,566
--------- ---------
INVESTING ACTIVITIES:
Investments 4,532 (4,303)
Acquisition of a motion picture partnership (17,530) -
Acquisition of property and equipment (236) (2,459)
--------- ---------
Cash used for investing activities (13,234) (6,762)
--------- ---------
FINANCING ACTIVITIES:
Payments on stock subscriptions receivable 600 -
Issuance of common stock 14,449 7
Payments on term loan and notes payable (7,153) (8,741)
Net borrowings (repayments) under revolving credit line (37,100) 4,600
--------- ---------
Cash used by financing activities (29,204) (4,134)
Increase (decrease) in cash and cash equivalents 706 (330)
Cash and cash equivalents at beginning of period 431 761
--------- ---------
Cash and cash equivalents at end of period $ 1,137 $ 431
========= =========
Supplemental Disclosure of Cash Paid for:
Interest $ 13,261 $ 12,724
Taxes $ 800 $ 1,313
See accompanying notes to the consolidated financial statements
29
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - DESCRIPTION OF THE BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES:
On July 9, 1997, Film Holdings Co. ("Holdings" or the "Company"), a Delaware
corporation, was formed with initial capitalization of $16,557,000 for the
purpose of acquiring all of the common and preferred stock and refinancing
certain debt of LIVE Entertainment Inc. ("LIVE"). LIVE, through its wholly owned
subsidiaries LIVE Film and Mediaworks ("LFM") and LIVE International, was a
diversified entertainment company engaged in the production and worldwide
distribution of motion picture films in the theatrical, home video, television
and ancillary markets and was also engaged in the production and distribution of
television programs. The acquisition of LIVE by Holdings was effected by the
merger of Film Acquisition Co., a wholly owned subsidiary of Holdings, into LIVE
with LIVE as the surviving corporation. The total purchase price of $74,600,000
was funded through the initial equity capitalization, $42,046,000 of borrowings,
which were secured by the assets of LIVE and acquired cash. Since April 1998,
the Company has been doing business as Artisan Entertainment, Inc.
In July 2001, the Company entered into a settlement and release agreement and a
purchase agreement with several parties to acquire a motion picture partnership
for approximately $17,500,000, payable over a period of three years, with the
final payment due January 15, 2004. Assets acquired included a trademark, a
copyright and all rights to remakes, prequels and sequels with respect to a
motion picture. The Company is in the process of allocating the purchase price
to the individual intangible assets acquired. Additionally, in conjunction with
the acquisition, the Company settled outstanding participations to the motion
picture partnership.
In September 2001, the Company acquired Landscape Entertainment, an independent
producer of theatrical films and television programming, through the issuance of
approximately 2,646,000 Class A Common Shares and approximately 263,000 Class L
Common Shares. Assets acquired were comprised primarily of cash and film rights
to uncompleted product with a total fair value of approximately $18,000,000.
Cumulative Effect of Change in Accounting Principle
In January 2001, the Company adopted Statement of Position 00-2, "Accounting by
Producers or Distributors of Films" ("SOP 00-2"). SOP 00-2 established new film
accounting standards, including changes in revenue recognition and accounting
for advertising, development and overhead costs. Specifically, SOP 00-2 requires
advertising costs for theatrical and television product to be expensed as
incurred. This compares to the Company's previous policy of first capitalizing
and then amortizing advertising costs for theatrical product over the related
revenue streams. Additionally, the SOP requires that a company recognize revenue
from a licensing arrangement of a film when the license period has begun and the
customer can begin exploitation. SOP 00-2 also requires development costs for
abandoned projects and certain indirect overhead costs to be charged directly to
expense, instead of those costs being capitalized to film costs, which was
required under the previous accounting model. The SOP is effective for fiscal
years beginning after December 15, 2000 and was adopted by the Company effective
January 1, 2001.
As a result of adopting SOP 00-2, the Company's net loss in 2001 includes a
one-time, non-cash charge of $91,967,000 million, primarily to reduce the
carrying value of its film inventory. This charge has been reflected as a
cumulative effect of an accounting change in the accompanying consolidated
statement of operations.
Principles of Consolidation
The consolidated financial statements include the accounts of the Company and
its subsidiaries for the years ended December 31, 2001 and 2000. All significant
intercompany transactions have been eliminated.
30
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1- DESCRIPTION OF THE BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES: (CONTINUED)
Cash Equivalents
The Company considers all highly liquid investments with an original maturity of
three months or less to be cash equivalents.
Accounts Receivable
Accounts receivable represent amounts billed and currently due from customers,
net of allowances for doubtful accounts, sales returns and advertising credits.
Inventory Valuation
The Company's inventory of duplicated videocassettes and boxes is stated at the
lower of cost, determined by the first-in first-out ("FIFO") method, or market.
All other inventories, which consist of blank video cassettes and accessories,
are stated at the lower of cost or market determined by using an average cost
which approximates the FIFO method.
Property and Equipment
Property and equipment are stated at cost and are depreciated over their
estimated useful lives using the straight-line method. Leasehold improvements
are amortized over the lesser of their estimated useful lives or the terms of
the related leases.
Film Costs
Film costs include acquisition and production costs which benefit future periods
as well as production overhead. Such costs are amortized, and participation
expenses are accrued, in the proportion that revenue recognized during the year
for each film bears to the estimated total revenues to be received from all
sources under the individual film forecast method. Estimated total revenue and
costs are reviewed and revisions to the amortization rates are recorded as
necessary. Film costs are stated at the lower of un-amortized cost or estimated
net realizable value.
Estimates of total revenues can change significantly due to a variety of
factors, including the level of market acceptance of film and television
products, advertising rates and subscriber fees. Accordingly, revenue estimates
are reviewed periodically and amortization is adjusted if necessary. Such
adjustments could have a material effect on results of operations in future
periods.
Debt Issue Costs
Costs associated with obtaining debt financing have been capitalized as other
assets and are amortized over the life of the related debt.
Goodwill
Goodwill related to acquisitions prior to June 30, 2001, representing the excess
of the purchase price over the fair value of the net assets of the acquired
entities, is amortized on a straight-line basis over 20 years. The Company
reviews its intangible assets for impairment whenever events or changes in
circumstances indicate the carrying amount of such assets may not be
recoverable. Impairment losses are recorded in the event the net book value of
such assets exceeds the future undiscounted cash flows attributable to such
assets. Acquisitions subsequent to June 30, 2001 will be accounted for in
accordance with Statement of Financial Accounting Standards No. 142, "Goodwill
and Other Intangible Assets." See New Accounting Pronouncements.
31
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1- DESCRIPTION OF THE BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES: (CONTINUED)
Income Taxes
Income taxes are accounted for under SFAS No. 109, "Accounting for Income
Taxes." Under SFAS No.109, deferred tax assets and liabilities are determined
based on differences between the financial reporting and tax basis of assets and
liabilities, and are measured using the enacted tax rates and laws that will be
in effect when the differences are expected to reverse.
Revenue Recognition
Revenue from theatrical distribution is recognized as the films are exhibited.
Revenue from home video distribution is recognized upon street date. However, in
accordance with industry practice, certain sales are made with the right to
return unsold items. An allowance is provided for estimated future sales
returns. Revenue from free television and pay television license agreements is
recognized when films are made available for exhibition. Distribution of the
Company's films in foreign countries is primarily accomplished through the
licensing of various distribution rights to subdistributors. The terms of
licensing agreements with such subdistributors generally include the receipt of
non-refundable guaranteed amounts by the Company and revenue thereon is
recognized when film rights become available for exploitation in their
respective markets. Cash collected in advance of the time of availability is
recorded as deferred revenue.
After completion, a typical theatrical film will generally be made available for
license as follows:
Months After Approximate
Marketplace Initial Release Release Period
----------- --------------- --------------
Domestic theatrical ---- 1-6 months
Domestic home video 4-6 months ----
Domestic pay-per-view 4-6 months 3 months
Domestic pay television 6-10 months 12-21 months
Domestic network/basic cable 30-36 months 18-36 months
Domestic syndication 30-36 months 3-15 years
Foreign home video 6-12 months ----
Foreign television 18-24 months 18-30 months
Concentration of Credit Risk
The Company licenses films and television programs and sells videocassettes to
wholesalers and retailers worldwide. Credit is extended to wholesalers and
retailers based on an evaluation of the customer's financial condition, and
generally collateral is not required. Estimated credit losses are provided for
in the financial statements.
The Company places its temporary cash investments with high credit-quality
financial institutions and limits the amount of credit exposure to any one
financial institution. Generally, such investments mature within 30 to 90 days
and therefore are subject to little risk. Since its inception, the Company has
not incurred any losses related to these investments.
Fair Values of Financial Instruments
The carrying value of the Company's financial instruments, which consist
primarily of accounts receivable, accounts payable and debt, approximates the
fair value due to the short maturity of receivables and payables and the
variable nature of the interest on such debt.
32
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1- DESCRIPTION OF THE BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES: (CONTINUED)
Use of Estimates
The preparation of financial statements in accordance with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent liabilities and the reported amounts of revenues and expenses. Actual
results could differ from those estimates.
Stock-Based Compensation
The Company accounts for stock-based employee compensation arrangements in
accordance with the provisions of Accounting Principles Board Opinion ("APB")
No. 25, "Accounting for Stock Issued to Employees," and complies with the
disclosure provisions of Statement of Financial Accounting Standards ("SFAS")
No. 123, "Accounting for Stock-Based Compensation." Under APB 25, compensation
expense is recognized over the vesting period based on the difference, if any,
on the date of grant between the deemed fair value for accounting purposes of
the Company's stock and the exercise price on the date of grant. The Company
accounts for stock issued to non-employees in accordance with the provisions of
SFAS No. 123 and Emerging Issues Task Force ("EITF") 96-18.
Earnings (Loss) Per Share
Basic earnings (loss) per share is computed by dividing the net income (loss)
applicable to Class A common stockholders for the period by the weighted average
number of Class A common shares outstanding. Diluted earnings per share amounts
are based upon the weighted average number of common and potential common shares
outstanding during the year. Potential common shares are excluded from the
computation in periods in which they have an antidilutive effect. The difference
between basic and diluted earnings per share, for the Company, is attributable
to stock options and assumed conversion of Class L stock. For the year ended
December 31, 2001, the calculation of diluted earnings per share excludes
options of approximately 3,629,000 and the conversion of Class L Common Shares
into approximately 7,562,000 Class A Common Shares as their inclusion would be
antidilutive.
Reclassification
Certain reclassifications were made to the 2000 financial statements to conform
to the 2001 presentation.
New Accounting Pronouncements
In July 2001, Statement of Financial Accounting Standards ("SFAS") No. 141,
"Business Combinations," was issued and addresses financial accounting and
reporting for business combinations. SFAS No. 141 requires that the purchase
method be used to account and report for all business combinations. The
provisions of this Statement apply to all business combinations initiated after
June 30, 2001.
In July 2001, SFAS No. 142, "Goodwill and Other Intangible Assets," was issued.
SFAS 142 requires companies to stop amortizing goodwill and certain intangible
assets with an indefinite useful life created by business combinations accounted
for using the purchase method of accounting. Instead, goodwill and intangible
assets deemed to have an indefinite useful life will be subject to an annual
review for impairment.
The Company will adopt SFAS 142 effective January 1, 2002, with the exception of
goodwill and intangible assets acquired after June 30, 2001, which are subject
immediately to the non-amortization and impairment provisions of this statement.
Accordingly, the Company has not amortized any goodwill associated with the
motion picture partnership acquisition which occurred in July 2001.
33
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1- DESCRIPTION OF THE BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES: (CONTINUED)
Based on the current levels of goodwill, this would reduce annual amortization
expense by approximately $4,670,000. Because goodwill amortization is
nondeductible for tax purposes, the impact of stopping goodwill amortization
would be to similarly increase the Company's annual net income by approximately
$4,670,000.
As noted above, goodwill and intangible assets deemed to have an indefinite
useful life will be subject to an annual review for impairment. The Company is
in the process of determining whether any such impairment would be recognized
upon adoption of the new accounting standard. If the Company concludes that an
impairment charge for goodwill or intangible assets deemed to have an indefinite
useful life is necessary, such a charge would be reflected as a cumulative
effect of an accounting change.
NOTE 2 - LIQUIDITY AND CAPITAL RESOURCES:
The Company is in the process of negotiating a new credit facility and to date
has obtained commitments from several lenders. These commitments are in excess
of existing debt outstanding under the Company's current facility, which expires
July 9, 2002 (see Note 5). The new credit facility would have a maturity date of
March 31, 2004. Management is confident that it will close the facility at a
level which will enable it to pursue strategic initiatives and fund the
continued operations of the Company. Should management be unable to successfully
close this new facility prior to the expiration of its existing facility, the
Company will need to secure alternate financing to fund its ongoing operations.
NOTE 3 - FILM COSTS:
Film costs, net of amortization, consist of the following:
(In Thousands)
December 31,
2001 2000
------- --------
Released $78,369 $154,414
Completed, not released 7,317 13,193
In process - 5,334
------- --------
$85,686 $172,941
======= ========
Released film costs include $20,000,000 (reduced by amortization of $8,000,000
to date) for an acquired library which is being amortized over 10 years. The
Company estimates that approximately 43% and 90% of its film costs (exclusive of
the library) recorded at December 31, 2001 will be amortized during the next one
and three years, respectively. As of December 31, 2001, the Company estimates
that approximately 54% of its film obligations payable will be paid in the next
fiscal year.
NOTE 4 - EQUIPMENT:
The components of property and equipment are as follows:
(In Thousands)
December 31,
2001 2000
------------- -----------
Property and equipment $ 11,146 $ 10,964
Leasehold improvements 2,510 2,456
Less accumulated depreciation and amortization 7,183 4,834
------------- -----------
$ 6,473 $ 8,586
============= ===========
The Company has capital leases for equipment and furniture for an amount of
$551,000.
34
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 5 - DEBT AND OTHER FINANCING:
Debt and other financing are comprised of the following:
(In Thousands)
December 31,
2001 2000
------------- ----------
Notes payable for equipment financing $ 999 $ 1,836
13.5% Senior Subordinated Notes due 2004, including
original issue discount of $1,020 and $1,429
for 2001 and 2000, respectively 13,980 13,571
Term loans 3,158 9,474
Revolving line of credit 70,000 107,100
------------- ----------
$ 88,137 $ 131,981
============= ==========
On October 20, 1998, Artisan Pictures Inc., a wholly-owned subsidiary of Film
Holdings Co., entered into a four year $4,083,000 loan to finance the
acquisition of property and equipment. The loan is payable monthly, and bears
interest at 12.53%.
On July 9, 1997, Artisan Pictures Inc. entered into an agreement with an 11.8%
shareholder for $15,000,000 of Senior Subordinated Notes which bear interest at
13.5% per annum and which are due in 2004. Such Notes are subordinated to the
bank credit facility.
On July 9, 1997, Artisan Pictures Inc. entered into a $135,000,000 credit
facility with a group of banks. The facility was comprised of a $30,000,000 term
loan and a $105,000,000 revolving credit facility. During 2000, the credit
facility was amended and as of December 31, 2000 allowed for a maximum borrowing
of $165,000,000. The maturity date of the credit facility is July 9, 2002.
Both the revolving credit facility and the term loan can bear interest at either
LIBOR plus 2.5% or the bank's prime rate plus 1.5%, at the election of the
Company. Quarterly principal payments of $1,579,000 are due under the term loan.
Substantially all of the borrowings under the facility as of December 31, 2001
were at LIBOR plus 2.5%. At December 31, 2001, LIBOR was 1.876%. The credit
facility contains covenants which, among other things, require adherence to
certain financial ratios and balances and impose limitations on film acquisition
and production costs, and general and administrative costs. The credit facility
is secured by substantially all of the Company's assets.
Annual maturities of borrowings outstanding at December 31, 2001 are as follows:
(In Thousands)
--------------
2002 $ 77,907
2003 3,750
2004 7,500
Thereafter -
35
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 6 - LEASES:
The Company leases office facilities and computer equipment, furniture, fixtures
and other equipment. Most leases require that the Company perform all necessary
repairs and maintenance, provide insurance and pay taxes assessed against the
leased property. The terms of these leases range from month-to-month to ten
years. Certain rents are adjusted based upon changes in the Consumer Price
Index. The leases are classified as operating leases in the financial
statements.
Future minimum operating lease payments as of December 31, 2001 are as follows:
(In Thousands)
--------------
2002 $ 1,968
2003 1,988
2004 2,060
2005 2,126
2006 2,138
Thereafter 3,044
For the periods ended December 31, 2001 and 2000, rent expense under all
operating leases was $1,947,000 and $1,980,000 respectively.
The Company also has a capital lease related to equipment and furniture. The
lease obligation is classified as accrued expenses in the financial statements.
Future minimum capital lease payments as of December 31, 2001 are as follows:
(In Thousands)
--------------
2002 $ 524
2003 317
2004 72
NOTE 7 - FILM COSTS OBLIGATIONS:
At December 31, 2001 and 2000, the unrecorded future obligations for undelivered
film product were approximately $2,150,000 and $27,818,000, respectively.
Deposits made for guaranteed delivery of undelivered film product are recorded
as film costs. Certain agreements permit a reduction in the amount of film right
payments when stipulated conditions have not been met. Many agreements also
contain an obligation for the payment of participations and royalties above the
minimum guarantee if sales exceed a stipulated amount. At December 31, 2001 and
2000, $36,280,000 and $41,422,000 of royalties and participations payable are
included in film obligations.
In October 1999, the Company entered into agreements with an independent third
party under which the Company has agreed to finance a portion of production and
distribution costs of certain motion picture films acquired by the third party.
The Company is the exclusive distributor of these films. The Company further
provides acquisition services to this third party and is actively involved in
the production of the films acquired under the agreements. Additionally, the
Company is required to meet detailed criteria, including a commitment to provide
a minimum of eight qualifying feature-length films by December 2003.
36
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 7 - FILM COSTS OBLIGATIONS: (CONTINUED)
In the event that these requirements are not met, the Company has a contingent
repurchase obligation, which is secured by a lien on the Company's assets, to
repurchase all or some of the pictures acquired by this third party. As of
December 31, 2001, five films had been sold under these agreements and no films
had been reacquired. As a distributor, the Company records, in its statements of
operations, the revenues received from and the operating expenses related to the
exploitation of the films in all markets. Additionally, amounts due under these
agreements were included in film obligations payable. In August 2000, the
agreement was amended and as a result $16,039,000 in letters of credit as of
December 31, 2001 have been issued which partially cover the Company's
contingent liability to repurchase the films under the agreement.
NOTE 8 - INCOME TAXES:
As discussed in Note 1, the Company computes its income tax provision in
accordance with SFAS No. 109.
At December 31, 2001 and December 31, 2000, the major tax effected components of
the net deferred tax liability are as follows:
(In Thousands)
--------------
December 31,
2001 2000
---------- ----------
DEFERRED TAX ASSETS
Sales returns and other allowances $ 17,364 $ 11,254
Accruals not currently deductible 4,929 2,477
NOL and capital loss carryforwards 20,802 27,483
Deferred income 9,069 2,550
Other items and credits 2,251 1,319
---------- ----------
Gross deferred tax assets 54,415 45,083
Valuation allowance (49,889) (16,194)
---------- ----------
Total deferred tax assets 4,526 28,889
---------- ----------
DEFERRED TAX LIABILITIES
Film costs (3,298) (29,476)
Deferred state taxes (1,906) (91)
---------- ----------
Total deferred tax liabilities (5,204) (29,567)
---------- ----------
NET DEFERRED TAX LIABILITY $ (678) $ (678)
========== ==========
The difference between the reported tax provision and the statutory rate is as
follows:
2001 2000
------ ------
Statutory federal tax rate 34.0% 34.0%
State income taxes net of federal benefit 4.9% 0.0%
Nondeductible amortization of goodwill 105.8% 28.0%
Other 7.4% 4.2%
Net change in valuation allowance (35.1%) (66.2%)
------ ------
Effective tax rate 117.0% 0.0%
====== ======
37
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 8 - INCOME TAXES: (CONTINUED)
On July 9, 1997, LIVE was acquired in a transaction, which resulted in a change
of ownership as defined under Section 382 of the Internal Revenue Code. Such
change of ownership resulted in a limitation on the future utilization of LIVE's
net operating loss carryforwards beginning with the period ended December 31,
1997. The annual limitation is approximately $750,000 per year subject to
certain increases relating to built-in gain items.
At December 31, 2001 and December 31, 2000 approximately $57,000,000 and
$75,000,000, respectively, of net operating loss carryforwards are available for
regular federal tax reporting purposes of which $26,000,000 are subject to
annual limitations described above. The net operating loss carryforwards expire
between the years 2006 and 2020. At December 31, 2001 and 2000, respectively,
state net operating loss carryforwards of approximately $0 and $10,000,000 are
also subject to the annual limitations described above and will expire between
the years 2002 and 2010. For federal Alternative Minimum Tax ("AMT") purposes,
approximately $28,000,000 of net operating loss carryforwards will expire
between 2006 and 2020. Additionally, foreign tax credits of $960,000, are
available to offset future regular income tax liabilities but are also subject
to the limitations mentioned above.
At December 31, 2001, approximately $28,600,000 of the acquired deferred tax
assets, if utilized, would result in a reduction of goodwill.
During the year, the company recognized a tax benefit of approximately
$1,800,000 associated with the utilization of pre-acquisition tax attributes,
which was recorded as a reduction to goodwill at December 31, 2001.
NOTE 9 - EARNINGS PER SHARE:
Class L common shareholders are entitled to a preferred distribution upon a
public offering, sale, transfer or other disposition for value of common stock
including by way of merger in which at least 50% of the outstanding share of
Class A common shares are sold, transferred or otherwise disposed of by one or
more holders thereof to persons who are not affiliates of the transferring
holder ("realization event"). Had such a realization event occurred at December
31, 2001 and 2000, respectively, earnings per share would have been as follows:
2001 2000
-------- --------
Basic and Diluted Earnings per Share:
Income (loss) before cumulative effect of $ (0.38) $ 0.30
change in accounting principle
Cumulative effect of change in accounting principle $ (9.57) -
Net income (loss) $ (9.95) $ 0.30
38
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 9 - EARNINGS PER SHARE: (CONTINUED)
(In Thousands, except share and per share data)
-----------------------------------------------
2001 2000
-------- --------
Basic and Diluted Earnings per Share:
Numerator:
Income (loss) before cumulative effect of change
in accounting principle $ (260) $ 5,822
Priority distributions due Class L Common Shares 3,430 3,006
-------- --------
Income (loss) before cumulative effect of
change in accounting principle allocable to
Class A Common Shares $ (3,690) $ 2,816
======== ========
Cumulative effect of change in accounting principle $(91,967) -
======== ========
Net income allocable to Class A Common Shares $(95,657) $ 2,816
======== ========
Denominator:
Weighted average Class A Common Shares outstanding 9,610 9,261
Conversion of Class L Common Shares into Class A
Common Shares - -
-------- --------
$ 9,610 $ 9,261
======== ========
NOTE 10 - STOCK OPTION PLANS:
On July 9, 1997 the Board of Directors approved the Company's 1997 Stock Option
Plan (the Plan). Under the provisions of the Plan, 2,965,421 Class A Common
Shares shares were made available for grant with option prices ranging from
$0.001 to $10.12 per share. The options expire 10 years after the date of grant.
Options to purchase 171,902 shares vested on the grant date. The balance of the
options vest at a rate of 5% per calendar quarter. On November 6, 2000, the Plan
was amended to increase the number of Class A Common Shares available for grants
to 4,971,792.
During the fiscal year ended December 31, 1998, options to purchase 25,000 and
500,000 shares of Class A Common Shares were granted outside of the Plan to
certain directors and advisors of the Company, respectively. The 25,000 options
vest 20% per annum and the 500,000 options vested 10% semi-annually from the
date of grant. The option prices range from $0.001 to $10.12 per share. During
1999, the Company discontinued the service agreement with an advisor and as a
result 500,000 options vested as of July 3, 1999.
On November 6, 2000, under the amended Plan, the Company granted 1,406,672
options to purchase Class A Common Shares with an exercise price of $13.63 per
share. 140,000 of the options vested at December 31, 2001, another 444,914 vest
at March 31, 2002, and thereafter 117,394 options vest on the last day of the
calendar quarter for each of seven quarters until December 31, 2003. The options
expire July 10, 2007.
Effective November 13, 2001, the Company approved a plan that makes available
for grant an additional 1,250,000 options to purchase Class A Common Shares
("2001 Plan"). The 2001 Plan provides that the term, exercise price and vesting
of the options are determined by the Company at the time of grant, with a
minimum exercise price equal to the fair market value of a Class A Common Share
at the time of grant and a maximum ten-year expiration from the grant date. As
of December 31, 2001, no options had been granted under the 2001 Plan.
39
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 10 - STOCK OPTION PLANS: (CONTINUED)
SFAS No. 123, "Accounting for Stock Based Compensation," requires certain
disclosures for fiscal years beginning after December 15, 1995 for those
companies that will continue to use an intrinsic value based method for
measuring compensation cost in connection with employee stock compensation plans
in accordance with Accounting Principles Board ("APB") No. 25, "Accounting for
Stock Issued to Employees." In 2001 and 2000, the Company continued to use such
method, under which $228,000 in compensation cost has been recognized for each
year. On a pro forma basis, compensation cost determined in accordance with SFAS
No. 123 has no material impact on net income or earnings per share in each of
the years presented.
The fair market value of each option grant is estimated on the date of grant
using the minimum value method with the following assumptions for grants in
2000: risk free interest rates of 5.50%, expected dividend yields of zero, and
expected lives from 3 to 5 years. There were no options granted in 2001.
A summary of the option activity was as follows:
Number of Option Price Weighted Average
Shares Per Share Exercise Price
--------- ---------------- ----------------
Outstanding at December 31, 1999 2,961,788 $ .001 to $10.12 $ 3.77
Granted 1,455,004 $ .001 to $13.63 $13.31
Cancelled 405,520 $ .001 to $10.12 $ 4.04
Exercised 9,841 $ .001 to $ 2.98 $ .74
---------
Outstanding at December 31, 2000 4,001,431 $ .001 to $13.63 $ 7.22
Cancelled 897,206 $ .001 to $10.12 $ 4.31
---------
Outstanding at December 31, 2001 3,104,225 $ .001 to $13.63 $ 8.06
Number of Exercise
Shares Price
--------- --------
Exercisable at December 31, 2000: 934,883 $ .001
221,949 $ 2.98
378,809 $ 6.55
378,809 $10.12
---------
1,914,450
=========
Exercisable at December 31, 2001: 742,180 $ .001
221,030 $ 2.98
258,203 $ 6.55
258,203 $10.12
140,000 $13.63
---------
1,619,616
=========
Outstanding at December 31, 2001:
Number Exercise Weighted Average
Outstanding Prices Remaining Life (in years)
----------- ------ -------------------------
834,680 $ .001 5.76
252,393 $ 2.98 5.82
305,240 $ 6.55 5.86
305,240 $ 10.12 5.86
1,406,672 $ 13.63 5.53
---------
3,104,225
=========
40
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 11 - STOCKHOLDERS' EQUITY:
Common Stock
The two classes of common stock outstanding at December 31, 2001 and December
31, 2000 were Class A Common Stock and Class L Common Stock. The Class A Common
Stock is divided into seven sub- classes. Holders of Class A Common Stock are
entitled to one vote per share held (except for holders of Class A-7 Common
Stock, who are not entitled to vote in the election of directors but who are
entitled to vote on all other matters). Holders of Class L Common Stock are not
entitled to vote on any matter.
The holders of Class L Common Stock have first priority in receiving
distributions from the Company until there has been paid to such holders an
amount equal to $16.07 per share, plus an amount (the Priority Amount)
sufficient to generate an internal rate of return thereon equal to 12.5% per
annum, compounded quarterly, through the date such distributions are made. After
such distributions have been made to holders of Class L Common Stock, holders of
Class A and Class L Common Stock are entitled to receive any additional
distributions, pro rata based on the number of shares of Class A and Class L
Common Stock outstanding on the date of such additional distributions.
At any time upon a public offering or upon a change of control of the Company,
the Board of Directors may elect to convert each share of Class L Common Stock
into a number of shares of Class A Common Stock equal to: (i) one plus (ii) a
fraction, the numerator of which is the remaining unpaid Priority Amount and the
denominator of which is the implied value of one share of Class A Common Stock
at the time of conversion.
Stock Subscriptions Receivable
On July 9, 1997 and June 30, 2000, loans were granted to certain officers of the
Company in connection with the purchase of the Company's Common Stock. The loans
bear interest at 6% payable annually and are collateralized by the Common Stock.
NOTE 12 - INCENTIVE SAVINGS PLAN:
The Company has established the Artisan Incentive Savings Plan (formally LIVE
Incentive Savings Plan) (the "Plan"), a 401(k) savings plan, in which eligible
employees of the Company may participate. Employees must be 21 years of age or
older to participate in the plan and are permitted to enroll upon quarterly
entry dates. Participants remain eligible for Employer contribution as long as
they maintain the 1,000 hour annual service requirement. Employees may elect to
contribute up to 20% of compensation on a pre-tax basis, subject to the IRS
annual maximum, currently $10,500. The Company matches 100% of the employee's
first $1,000 in contribution. Contributions made by participants are fully
vested at all times. The Company's matching contribution vests equally over two
years of employee service. Company matching contributions to the Plan for the
periods ended December 31, 2001 and 2000 were $129,000 and $127,000,
respectively.
The Company, at the discretion of the Board of Directors, may make annual profit
sharing contributions to the Plan. No profit sharing contributions have been
made to the Plan.
41
FILM HOLDINGS CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 13 - MAJOR CUSTOMERS, SUPPLIERS, AND EXPORT SALES:
During the years ended December 31, 2001 and 2000, one customer accounted for
14.1% and 12.3% of net sales, respectively.
During the years ended December 31, 2001 and 2000, one supplier accounted for
17% and 19% of disbursements, respectively.
Export revenue from the Company's United States operations to unaffiliated
customers for the years ended December 31, 2001 and 2000 were:
(In Thousands)
--------------
2001 2000
------- -------
Europe $25,779 $25,745
Asia 4,743 10,493
Canada 9,256 10,131
South America 1,700 4,102
Other 4,661 4,715
------- -------
Total $46,139 $55,186
======= =======
NOTE 14 - CONTINGENCIES
Management is currently assessing the propriety of a claim put forth by a
shareholder for a $3,400,000 million advisory fee related to the Landscape
acquisition described earlier (see Note 1).
From time to time the Company becomes involved in litigation arising in the
normal course of business. The Company believes that none of the litigation
currently pending will have a material adverse effect on the Company's financial
condition or results of operations.
NOTE 15 -RELATED PARTY TRANSACTIONS:
The Company has entered into agreements with affiliates of certain shareholders
to provide management and other services to the Company in exchange for a
monthly fee of $100,000 payable quarterly. Management fees of $1,200,000 were
paid in each of the years ended December 31, 2001 and 2000.
In October 1999, the Company entered into agreements with a third party for the
production and distribution of certain films. An 11.8% shareholder of the
Company is also a 12.5% owner of the third party.
Also see Note 14.
NOTE 16 - EMPLOYMENT AGREEMENTS:
The Company has employment agreements with certain of its officers and employees
generally for terms of one to three years, with certain exceptions, which are
longer term. Future minimum payments under these agreements are approximately
$9,919,000, $3,950,000, $2,272,000, $951,000 and $670,000 for the years ending
December 31, 2002, 2003, 2004, 2005 and 2006, respectively.
42