U.S. Securities and Exchange Commission
WASHINGTON, D.C. 20549
FORM 10-QSB
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2001
Commission file number 0-29750
IENTERTAINMENT NETWORK, INC.
(Exact name of small business issuer as specified in its charter)
North Carolina 56-2092059
(State of incorporation) (I.R.S. Employer Identification Number)
124-126 Quade Drive
Cary, North Carolina 27513
(Address of principal executive office)
(919) 678-8301
(Issuer's telephone number)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the preceding 12 months (or for such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days.
Yes [X] No [_]
As of August 136, 2001, (the most recent practicable date), there were
15,914,311 shares of the issuer's Common Stock, $.10 par value per share,
outstanding.
Transitional Small Business Disclosure Format (check one)
Yes [_] No [X]
1
IENTERTAINMENT NETWORK, Inc.
Form 10-QSB Quarterly Report
INDEX
PART I FINANCIAL INFORMATION PAGE
Item 1 Financial Statements 3
Item 2 Management's Discussion and Analysis of
Financial Condition and Results of
Operations 14
PART II OTHER INFORMATION 18
Item 1 Legal Proceedings 18
Item 2 Changes in Securities and Use of Proceeds 18
Item 3 Defaults Upon Senior Securities 18
Item 4 Submission of Matters to a Vote of Security Holders 18
Item 5 Other Information 19
Item 6 Exhibits and Reports on Form 8-K 20
SIGNATURES 21
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
iEntertainment Network, Inc.
Consolidated Balance Sheets
(In thousands, except share data)
June 30 December 31
2001 2000
UNAUDITED AUDITED
---------------------------
Assets
Current assets:
Cash and cash equivalents $ 352 $ 437
Trade receivables, net of allowances of $110 and $80 at June 30,
2001 and December 31, 2000, respectively 172 814
Prepaid expenses and other 164 169
---------------------------
Total current assets 688 1,420
Property and equipment, net 787 914
Software development costs, net 744 658
Other noncurrent assets 17 18
---------------------------
Total assets $ 2,236 $ 3,010
===========================
Liabilities and stockholders' equity
Current liabilities:
Accounts payable and accrued expenses $ 959 $ 1,181
Current portion of capital lease obligations 30 36
---------------------------
Total current liabilities 989 1,217
Capital lease obligations, less current portion 31 43
---------------------------
Total liabilities 1,020 1,260
Stockholders' equity:
Series D Convertible Preferred Stock $.10 par value; liquidation
and stated value of $1,000 per share, plus accumulated
accretion, 4,911 shares authorized, issued and outstanding 5,392 5,246
Common stock, $.10 par value; 50,000,000 shares authorized;
15,914,311 and 15,914,311 shares issued and outstanding 1,591 1,591
Additional paid-in capital 38,157 38,157
Accumulated deficit (43,872) (43,188)
Accumulated other comprehensive loss (52) (56)
===========================
Total stockholders' equity 1,216 1,750
---------------------------
Total liabilities and stockholders' equity $ 2,236 $ 3,010
===========================
See accompanying notes.
3
iEntertainment Network, Inc.
Consolidated Statements of Operations
(In thousands, except share and per share data)
Three months ended Six months ended
June 30 June 30 June 30 June 30
2001 2000 2001 2000
----------------------------------------------------------------
Net revenues:
CD-ROM product sales $ - $ - $ - $ 10
Online sales 280 393 537 816
Advertising and other 144 1,557 458 2,618
Royalties and licenses 18 55 21 116
----------------------------------------------------------------
Total net revenues 442 2,005 1,016 3,560
Cost of revenues:
Cost of products and services 59 30 96 48
Royalties and amortized software costs 69 71 82 324
----------------------------------------------------------------
Total cost of revenues 128 101 178 372
----------------------------------------------------------------
Gross profit 314 1,904 838 3,188
Operating expenses:
Sales and marketing 191 1,167 729 1,910
Product development 397 370 660 945
General and administrative 233 416 505 1,032
Goodwill amortization - 401 - 801
Reversal of accrued liabilities for prize
points 6 - (447) -
----------------------------------------------------------------
Total operating expenses 827 2,354 1,447 4,688
----------------------------------------------------------------
Operating loss (513) (450) (609) (1,500)
Other (income) expense:
Interest (income)/expense - 2 - 5
Other (52) (11) (71) (58)
----------------------------------------------------------------
Total other income (52) (9) (71) (53)
----------------------------------------------------------------
Loss before income taxes (461) (441) (538) (1,447)
Income tax expense - 9 - 15
----------------------------------------------------------------
Net loss (461) (450) (538) (1,462)
Accretion of Series D Convertible
Preferred Stock (73) (73) (147) (147)
----------------------------------------------------------------
Net loss available to common stockholders $ (534) $ (523) $ (685) $ (1,609)
================================================================
Basic and diluted loss per share:
Net loss per share $ (0.03) $ (0.03) $ (0.04) $ (0.11)
Weighted average shares used in computing
basic and diluted loss per share 15,914,311 15,079,317 15,914,311 15,008,061
4
iEntertainment Network, Inc.
Consolidated Statements of Cash Flows
(In Thousands)
Six months ended June 30
2001 2000
--------------------------
Operating activities
Net loss $ (538) $(1,462)
Adjustments to reconcile net loss to net cash
provided by operating activities:
Depreciation and amortization 270 963
Amortization of capitalized software development costs 81 -
Noncash compensation expense - 78
Issuance of common stock for services - 69
Write-off of accrued liability for prize points (447) -
Changes in operating assets and liabilities:
Trade receivables 642 (1,294)
Prepaid expenses net and other assets 5 (17)
Accounts payable and accrued expenses 225 (458)
Royalties and commissions payable - (48)
--------------------------
Net cash provided by (used in) operating activities 238 (2,169)
Investing activities
Purchase of property and equipment (142) (220)
Capitalized software development costs (167) (277)
--------------------------
Net cash used in investing activities (309) (497)
Financing activities
Proceeds from issuance of common and preferred stock - 836
Stock registration costs - (73)
Payments on capital lease obligations (18) (35)
--------------------------
Net cash (used in) provided by financing activities (18) 728
Effect of currency exchange rate changes on cash and cash
equivalents 4 44
--------------------------
Net decrease in cash and cash equivalents (85) (1,894)
Cash and cash equivalents at beginning of period 437 3,092
--------------------------
Cash and cash equivalents at end of period $ 352 $ 1,198
==========================
5
iEntertainment Network, Inc.
Consolidated Statements of Cash Flows (continued)
(In Thousands)
Six months ended June 30
2001 2000
-------------------------
Noncash investing and financing activities
Issuance of common stock in connection with development
agreement $ - $ 49
Issuance of common stock in connection with employee
severance $ $ 124
Issuance of common stock in settlement of liabilities $ - $ 300
Fixed assets acquired under capital lease $ - $ 47
See accompanying notes.
6
iEntertainment Network, Inc.
Notes to Consolidated Financial Statements
(INFORMATION AS OF June 30, 2001 AND FOR THE SIX AND THREE MONTHS ENDED
June 30, 2001 AND 2000 IS UNAUDITED)
1. Description of Business and Significant Accounting Policies
Basis of Presentation
The accompanying unaudited financial statements have been prepared in accordance
with accounting principles generally accepted in the United States for interim
financial information and with the instructions to Form 10-Q and article 10 of
Regulation S-X. Accordingly they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments (consisting
solely of normal recurring accruals) considered necessary for a fair
presentation of the statements have been included. The interim operating results
are not necessarily indicative of the results that may be expected for a full
fiscal year. The balance sheet at December 31, 2000 has been derived from the
audited financial statements at that date but does not include all of the
information and footnotes required by accounting principles generally accepted
in the United States for complete financial statements. For further information,
refer to the financial statements and accompanying footnotes thereto included in
the Company's Annual Report on Form 10-KSB for the year ended December 31, 2000.
Description of Business
iEntertainment Network, Inc. (the "Company") is a developer and publisher of
Internet games and an operator of online game services. The Company develops and
publishes proprietary online multi-player games and has built an Internet
distribution infrastructure which offers online gamers a variety of free,
subscription and pay-per-play games and services, including simulation, parlor,
strategy, role playing and action games.
Disposition of CD-ROM Assets
In connection with the Company's June 1999 disposition of its CD-ROM assets,
management decided to terminate certain CD-ROM distribution agreements and began
negotiations to mutually release each partner from any obligation under the
terms of these agreements. In the second quarter of 1999, the Company estimated
a liability of $850,000 for potential settlements upon termination of these
agreements. The balance of this liability at March 31, 2001 and December 31,
2000 was $195,000 and is reflected as accounts payable and accrued expenses in
the consolidated balance sheets. In the first quarter of 2000, the Company
settled with its two largest distributors by paying $250,000 in cash and issuing
common stock valued at $300,000.
Consolidation
The consolidated financial statements include the accounts of the Company and
its wholly owned subsidiaries, iMagicOnline Corporation, Interactive Magic Ltd.
and Interactive Magic GmbH. All significant intercompany accounts and
transactions have been eliminated in consolidation.
Cash and Cash Equivalents
Cash and cash equivalents include amounts in demand deposit accounts and
investments with an original maturity date of three months or less when
purchased.
iEntertainment Network, Inc.
Notes to Consolidated Financial Statements (continued)
1. Description of Business and Significant Accounting Policies (continued)
Software Development Costs
The Company capitalizes costs incurred in the development of it's gaming
software. Capitalization of such costs is discontinued when a product is
available for general release to customers. Capitalized software development
costs are capitalized at the lower of cost or net realizable value and amortized
using the greater of the revenue curve method or the straight-line method over
the estimated economic life of the related product. Amortization begins when a
product is ready for general release to customers.
Information related to net capitalized software development costs is as follows:
(in thousands):
June 30 December 31
2001 2000
------------------------
Balance at beginning of year $ 658 $ 92
Capitalized 167 658
Amortized (81) (92)
------------------------
Balance at end of year $ 744 $ 658
========================
Revenue Recognition
Revenue from online sales is recognized at the time the game is played and is
based either upon actual usage by the customer on an hourly basis or on an
unlimited use subscription basis. The Company records advertising revenues in
the period the advertising impressions are delivered to customers. The Company
records advertising revenues net of related administrative fees as reported by
its outside advertising vendor. The Company's advertising contracts do not
guarantee a minimum number of impressions to be delivered.
In December 1999, the Securities and Exchange Commission released Staff
Accounting Bulletin ("SAB") No. 101, "Revenue Recognition in Financial
Statements", which provides guidance on the recognition, presentation, and
disclosure of revenue in financial statements. SAB No. 101 provides guidance on
a variety of revenue recognition issues, including gross versus net income
statement presentation. Based on the criteria of SAB No. 101, the Company
presents its advertising revenues net of these administrative fees.
iEntertainment Network, Inc.
Notes to Consolidated Financial Statements (continued)
Description of Business and Significant Accounting Policies (continued)
Revenue Recognition (continued)
Revenue from CD-ROM product sales was recognized at the time of product
shipment. Revenue from royalties and licenses is recognized when earned under
the terms of the relevant agreements with original equipment manufacturers
("OEMs"), international distributors and other third parties. With respect to
license agreements that provide customers the right to multiple copies in
exchange for guaranteed amounts, net revenue is recognized upon delivery of the
product master or the first copy provided collectibility is probable. Per copy
royalties on sales that exceed the guarantee are recognized as earned. The
Company accepts product returns and provides price protection on certain unsold
merchandise. Revenue is recorded net of an allowance for estimated future
returns, markdowns, price protection and warranty costs. Such reserves are
based upon management's evaluation of historical experience, current industry
trends and estimated costs.
In October 1997, the Accounting Standards Executive Committee "(AcSEC)" issued
Statement of Position "(SOP)" 97-2, "Software Revenue Recognition" as amended in
March 1998 by SOP 98-4 and October 1998 by SOP 98-9. These SOPs provide guidance
on applying generally accepted accounting principles in recognizing revenue on
software transactions. The Company adopted SOP 97-2 for software transactions
entered into beginning January 1, 1998. Based on the current requirements of the
SOPs, application of these statements did not have a material impact on the
Company's revenue recognition policies. However, AcSEC is currently reviewing
further modifications to the SOP with the objective of providing more
definitive, detailed implementation guidelines. This guidance could lead to
unanticipated changes in the Company's operations and revenue recognition
practices.
Revenue from certain software development contracts with fixed price components
is recognized on the percentage of completion basis in accordance with the
American Institute of Certified Public Accountants' SOP 81-1, "Accounting for
Performance of Construction-Type and Certain Production-Type Contracts." In
accordance with SOP 81-1, the Company recognizes percentage of completion
revenue based upon the ratio of accumulated incurred costs to the total
estimated costs to complete each contract.
The accounts receivable allowance at June 30, 2001, and December 31, 2000,
includes a reserve for doubtful accounts, which management records based on
historical experience and current evaluation of potential collectibility issues.
The Company does not require collateral for unpaid balances. Credit losses have
historically been within management's expectations.
Reclassifications
The Company reclassified Software development costs in the balance sheet as of
December 31, 2000 from a current asset to a non-current asset to conform with
the presentation in the June 30, 2001 balance sheet. The reclassification did
not affect stockholders' equity or net loss as previously reported.
iEntertainment Network, Inc.
Notes to Consolidated Financial Statements (continued)
Description of Business and Significant Accounting Policies (continued)
Comprehensive Loss
The following chart details the Company's comprehensive loss for the periods
presented:
Three months ended Six months ended
June 30 June 30
2001 2000 2001 2000
--------------------------------------------------
Net Loss $(461) $(450) $(538) $(1,462)
Other comprehensive income - foreign
currency translation adjustment 1 6 4 44
--------------------------------------------------
Comprehensive loss $(460) $(444) $(534) $(1,418)
==================================================
Use of Estimates
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosures of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Significant estimates include provisions for doubtful
accounts, sales returns and allowances, warranty provisions, and estimates
regarding the recoverability of capitalized software development costs. Actual
results could differ from those estimates.
Basic Net Loss Per Share
Basic net loss per share has been calculated in accordance with SFAS No. 128,
"Earnings Per Share". Basic net loss per share is calculated by dividing net
loss available to common stockholders by the weighted average shares of common
stock outstanding during the period.
Had the Company been in a net income position, diluted earnings per share would
have been presented and would have included potential common shares related to
outstanding options and warrants. The diluted earnings per share computation is
not included, as all potential common shares are antidilutive.
Impact of Recently Issued Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities". SFAS No. 133, as
amended, is required to be adopted in years beginning after June 15, 2000. The
Company's January 1, 2000 adoption of the new statement did not have a
significant affect on earnings or the consolidated financial position of the
Company.
iEntertainment Network, Inc.
Notes to Consolidated Financial Statements (continued)
2. Stockholders' Equity
Series D Redeemable Convertible Preferred Stock
The following is a summary of the terms of the Series D Redeemable Convertible
Preferred Stock ("Series D Preferred"):
Dividends
There are no dividends automatically payable on the Series D Preferred. No
dividends may be paid to the common stockholders while any Series D Preferred
shares are outstanding.
Liquidation Preferences
Upon any liquidation, dissolution or winding up of the Company, before anything
can be paid to the holders of common stock, the holders of the Series D
Preferred will be entitled to receive $1,000 per share, plus an amount equal to
a 6% annual return on that amount since the November 1999 issuance date and any
penalty amounts due thereunder, if any.
Redemption
The Series D Preferred must be redeemed by the Company if it is requested to do
so by the holders of a majority of the outstanding Series D Preferred shares
upon: (1) failure by the Company to comply with certain terms of the Articles of
Incorporation, the Securities Purchase and Exchange Agreement or the related
Registration Rights Agreement with respect to the Series D Preferred; (2)
bankruptcy of the Company; or (3) certain changes in control of the Company.
In any such event, the redemption price per share would be equal to the greater
of (1) $1,200 per share, plus an amount equal to a 6% annual return since
November 1999 on the $1,000 paid for each share and any penalty amounts due
under the terms of the Series D Preferred (including, but not limited to, as a
result of the failure to convert or deliver shares on a timely basis), and (2)
the "Parity Value" of the shares, which equals the product of (a) the number of
shares of the Company's common stock into which the Series D Preferred could
have been converted multiplied by (b) the highest reported closing price per
share of the common stock between the event triggering the right to request
redemption and the payment of the redemption price.
A registration statement was filed and became effective in March 2000, which
removed the redemption feature that was outside the control of the Company.
Accordingly, the Company classified the Series D preferred stock as permanent
equity during the first quarter of 2000.
The Series D preferred stockholders are entitled to a 6% annual return on the
stated value of the preferred stock, upon liquidation, conversion, and
redemption within control of the Company. Accordingly, the Company has recorded
this return as accretion to the stated value of the preferred stock and a charge
to accumulated deficit. For the three and six months ended June 30, 2001 and
2000, the recorded accretion was $734,000 and $147,000 respectively. Accumulated
accretion at June 30, 2001, and December 31, 2000 was $482,000 and $335,000,
respectively.
iEntertainment Network, Inc.
Notes to Consolidated Financial Statements (continued)
2. Stockholders' Equity (continued)
Conversion
Following shareholder approval of the Series D Preferred Stock financing in
December 1999, the Series D Preferred shares were convertible at $1 per share of
common stock. At any time, a holder of Series D Preferred Stock may convert all
of those shares into common stock. Each share of Series D Preferred was
initially convertible into 1,000 shares of common stock. The number of shares of
common stock issuable upon conversion of a share of Series D Preferred increases
over time to provide the holder additional common stock equal to a 6% annual
return since November 1999 and any penalty amounts otherwise due thereunder.
Subject to certain conditions, the Series D Preferred Stock will automatically
convert into common stock in November 2002.
Voting
The Series D Preferred has no voting rights other than as provided by law and
except that the approval of the holders of a majority of the outstanding Series
D Preferred is required for: (1) any adverse change to the rights of the Series
D Preferred; (2) the creation of securities having senior or equal rights; (3)
an increase in the authorized number of shares of Series D Preferred; (4) an
increase in the par value of the common stock; or (5) any action that would
result in certain taxes being imposed on the Series D Preferred.
3. Stock Options and Warrants
The following summarizes the Company's stock option and warrant activity:
Shares Shares Weighted-
Available Available Average
for Grant - for Grant - Options Exercise Price
1995 Plans 1998 Plans Outstanding Per Share
-------------------------------------------------------------------------
Balances at December 31, 2000 331,985 309,815 3,410,142 $ 1.84
Options granted (90,000) - 90,000 $ 0.25
Options canceled 162,863 30,000 (192,863) $ 2.18
-------------------------------------------------------------------------
Balances at June 30, 2001 404,848 339,815 3,307,279 $ 1.77
=========================================================================
At June 30, 2001, the Company had 2,502,852 options exercisable at exercise
prices ranging from $0.25 - $6.00 per share.
The Company had 1,131,905 and 1,210,903 warrants outstanding at March June 30,
2001 and December 31, 2000, respectively, all of which were exercisable at
prices ranging from $1.00 to $9.60 per share.
iEntertainment Network, Inc.
Notes to Consolidated Financial Statements (continued)
4. Accrued Liability for Prize Points
The Company has operated a prize point system for the users of its online games.
In 2000, prize points were redeemable for cash and other prizes. The Company had
recorded an accrued liability of $343,000 in accounts payable and accrued
expenses on its December 31, 2000 balance sheet based on management's best
estimate of prize points that have not been redeemed. At December 31, 2000, the
Company also recorded a liability in accounts payable for redeemed but unpaid
prize points of $112,000. In 2001, the Company revised its prize point
redemption policy such that prize points are no longer directly redeemable for
cash or merchandise. Prize points have been converted to chance points and may
now be used by customers to enter prize drawings. Due to the change in its prize
point system, management has determined that the Company no longer has prize
point obligations as previously recorded in the December 31, 2000 balance
sheet. Accordingly, the accrued liability of $343,000 and the payable of
$112,000 have been reversed and were netted against operating expenses in the
Consolidated Statement of Operations for the quarter ending March 31, 2001.
Following the Company's restructuring of its prize point system in early 2001,
three individuals filed complaints with the Consumer Protection Division of the
Office of the Attorney General for the State of North Carolina with respect to
prize points that they wanted to redeem for cash prizes. The Attorney General's
Office also has asserted that the Company's operation of the game of "Bingo,"
which the Company allows users to play for free, violates North Carolina's
gambling statutes. Management, after consultation with counsel, does not believe
that the Company has violated such statutes, which, as interpreted by North
Carolina's Attorney General's Office, would cause free Bingo games operated by
many companies to be in violation. In order to avoid costly litigation, however,
the Company is attempting to negotiate reasonable settlements regarding these
claims; however, there can be no assurance that reasonable settlements will be
reached. Management cannot reasonably estimate the amount of a settlement at
this time: therefore no reserve has been accrued on the balance sheet at June
30, 2001. In addition, such settlements would not bar individual consumer claims
or claims of violations of other states' gaming regulations. Consequently, there
can be no assurance that future claims will not be made against the Company.
The Company is in the process of changing its operations of its "Bingo" game in
order to help resolve its dispute with the Office of the Attorney General of
North Carolina. As a result of anticipated reductions in "Bingo's" prize point
eligibility necessary to effect these changes, the Company may experience a
substantial decrease in the amount of traffic on the Company's "Bingo" website.
If the amount of traffic on the Company's "Bingo" website does substantially
decrease, the Company's advertising revenues will also substantially decrease.
IENTERTAINMENT NETWORK, Inc.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
RESULTS OF OPERATIONS - THREE AND SIX MONTHS ENDED JUNE 30, 2001 COMPARED TO
THREE AND SIX MONTHS ENDED JUNE 30, 2000
OVERVIEW
During the fourth quarter of fiscal 2000, the Company, reacting to an adverse
pricing environment for online advertising, restructured its operations, thereby
significantly reducing personnel and overhead costs.
NET REVENUES
Net revenues decreased by 76% to $.5 million for the three months ended June 30,
2001 from $2.0 million for the three months ended June 30, 2000. Net revenues
decreased by 71% to $ 1.0 million for the six months ended June 30, 2001 from
$3.6 million for the six months ended June 30, 2000.
The following table summarizes the changes in the components of revenue from
2000 to 2001:
Three months Six months
ended June 30 ended June 30
($000) ($000)
-------------------------------------
Revenue for the period in 2000 $ 2,005 $ 3,560
Increase / (Decrease) in Advertising and Other Revenue (1,413) (2,160)
Increase / (Decrease) in Pay for Play Revenue (113) (279)
Increase / (Decrease) in Royalty & Licensing (37) (95)
Increase / (Decrease) in CD-ROM revenue - (10)
-------------------------------------
Revenue for the period in 2001 $ 442 $ 1,016
=====================================
Advertising revenues decreased 91% to $0.1 million for the three months ended
June 30, 2001 from $1.6 million for the three months ended June 30, 2000.
Advertising revenues decreased 82% to $0.5 million for the six months ended June
30, 2001 from $2.6 million for the six months ended June 30, 2000. All increases
in advertising impressions served over the periods were more than offset by a
precipitous drop in advertising pricing across the Internet.
Pay-for-Play revenue decreased 29% to $0.3 million for the three months ended
June 30, 2001 from $0.4 million for the three months ended June 30, 2000 and
decreased 34% to $0.5 million for the six months ended June 30, 2001 from $0.8
million for the six months ended June 30, 2000., primarily due to changes in the
pricing model that management implemented in order to stimulate user growth and
increase revenues. During the fourth quarter of fiscal 2000, the Company
introduced a flat fee, unlimited play option into its pricing matrix.
Previously, players paid for each hour played. The new plan drew a significant
portion of existing players, but failed to attract a sufficient numbers of new
players to offset the loss of revenues generated by high usage players.
IENTERTAINMENT NETWORK, Inc.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
COST OF REVENUES
Cost of revenues consists of costs of products sold (including cost of Internet
access) and royalties and amortization of software development costs. Cost of
revenues in the three month period ending June 30, 2001 increased 26% compared
to the comparable period in 2000 due primarily to a duplication of internet
access charges necessitated by a facilities move. Cost of revenues decreased 52%
to $0.2 million in the six month period ending June 30, 2001 from $0.4 million
in the six month period ended June 30, 2000. This decrease was due primarily to
the elimination of royalties associated with operating third-party software.
OPERATING EXPENSES
Operating expenses decreased by 65% to $0.8 million for the three months ended
June 30, 2001 from $2.4 million for the three months ended June 30, 2000.
Operating expenses decreased by 69% to $1.4 million for the six months ended
June 30, 2001 from $4.7 million for the six months ended June 30, 2000.
The following table summarizes the changes in the components of operating
expenses from 2000 to 2001:
Three months Six months
ended June 30 ended June 30
($000) ($000)
-------------------------------------
Operating Expenses for the period in 2000 $2,354 $ 4,688
Increase/ (Decrease) in Sales and Marketing (976) (1,181)
Increase/ (Decrease) in Product Development 27 (285)
Increase/ (Decrease) in General and Administrative (187) (527)
Increase/ (Decrease) in Goodwill Amortization (401) (801)
Increase/ (Decrease) in Reversal of liabilities for
prize points 6 (447)
-------------------------------------
Operating Expenses for the period in 2001 $ 827 $ 1,447
=====================================
SALES AND MARKETING
Sales and marketing expenses decreased by 84% to $0.2 million for the three
months ended June 30, 2001 from $1.2 million for the three months ended June 30,
2000., and decreased by 62% to $0.7 million for the six months ended June 30,
2001 from $1.9 million for the six months ended June 30, 2000. These decreases
were due primarily to the reduction of costs associated with customer incentives
and personnel cost savings arising from the Company's restructuring in late
2000. Beginning with Q1the first quarter of 2001, the Company revised its prize
point redemption policy such that prize points are no longer directly redeemable
for cash or merchandise. Prize points have been converted to chance points and
are used to enter fixed-value prize drawings, resulting in a decreases of $0.4
million and $0.6 million for the three and six months ended June 30, 2001,
respectively, compared to the corresponding periods in 2000. Accordingly, the
associated accrued liability related to unredeemed prize points of $0.3 million
and the payable of $0.1 million related to redeemed, but unpaid, prize points
were reversed against operating expenses in the quarter ended March 31, 2001.
Following the Company's restructuring of its prize point system in early 2001,
three individuals filed complaints with the Consumer Protection Division of the
Office of the Attorney General for the State of North Carolina with respect to
prize points that they wanted to redeem for cash prizes. The Attorney General's
Office also has asserted that the Company's operation of the game of "Bingo,"
IENTERTAINMENT NETWORK, Inc.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
SALES AND MARKETING (CONTINUED)
gambling statutes. Management, after consultation with counsel, does not
believe that the Company has violated such statutes, which, as interpreted by
North Carolina's Attorney General's Office, would cause free Bingo games
operated by many companies to be in violation. In order to avoid costly
litigation, however, the Company is attempting to negotiate reasonable
settlements regarding these claims; however, there can be no assurance that
reasonable settlements will be reached. Management cannot reasonably estimate
the amount of a settlement at this time: therefore no reserve has been accrued
on the balance sheet at June 30, 2001. In addition, such settlements would not
bar individual consumer claims or claims of violations of other states' gaming
regulations. Consequently, there can be no assurance that future claims will
not be made against the Company.
The Company is in the process of changing its operations of its "Bingo" game in
order to help resolve its dispute with the Office of the Attorney General of
North Carolina. As a result of anticipated reductions in "Bingo's" prize point
eligibility necessary to effect these changes, the Company may experience a
substantial decrease in the amount of traffic on the Company's "Bingo" website.
If the amount of traffic on the Company's "Bingo" website does substantially
which the Company allows users to play for free, violates North Carolina's
decrease, the Company's advertising revenues will also substantially decrease.
PRODUCT DEVELOPMENT
Product development expenses increased slightly in the three month period
ended June 30, 2001 from the prior year's comparable period and decreased 30%
to $0.7 million for the six months ended June 30, 2001 from $0.9 million for the
six months ended June 30, 2000. The Company's restructuring in December 2000
resulted in decreases in staffing costs and overhead in each of the first two
quarters of 2001.
GENERAL AND ADMINISTRATIVE
General and administrative expenses decreased by 44% to $0.2 million for the
three months ended June 30, 2001 from $0.4 million for the three months ended
June 30, 2000. General and administrative expenses decreased by 51% to $0.5
million for the six months ended June 30, 2001 from $1.0 million for the six
months ended June 30, 2000, primarily due to savings associated with the
closure of the Company's European operations and savings in staffing costs
effected by the Company's restructuring in December 2000.
GOODWILL AMORTIZATION
Goodwill from the MPG-Net acquisition, acquired in mid -first quarter 1999, was
previously being amortized to expense over 36 months. Goodwill from the Gamers
Net acquisition, acquired in third quarter 1999, was previously being amortized
to expense over 24 months. During the second -half of fiscal 2000, the Company
experienced a significant revenue stream reduction as a result of a downturn in
the online advertising market, which indicated potential impairment of its
recorded goodwill values. The Company determined that unamortized goodwill
relating to both MPG-Net and The Gamers Net had become fully and permanently
impaired. And accordingly, the balance of unaudited goodwill at December 31,
2000 was written down to $0.
IENTERTAINMENT NETWORK, Inc.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
LIQUIDITY AND CAPITAL RESOURCES
As of June 30, 2001, the Company had cash and cash equivalents of $.4 million.
The following table summarizes is a condensed table of cash and cash equivalents
on hand and major cash flow items:
Cash and cash equivalents on hand, December 31, 2000 $ 437
Net loss (538)
Add: non-cash charges and expenses (96)
Changes in working capital 872
--------
Net Cash Provided By Operations 238
Net investing and financing activities (327)
Effect of exchange rates on cash and cash equivalents 4
--------
Net change in cash and cash equivalents (85)
--------
Cash and cash equivalents on hand, June 30, 2001 $ 352
========
The Company used $2.4 million less net cash in operating activities during the
first six months of 2001 compared with the same period in 2000. This decrease
was primarily due to the contraction of the business as effected by the
Company's restructuring during the fourth quarter of fiscal 2000, resulting in
reduced cash operating requirements.
The Company's success is dependent upon its ability to generate sufficient cash
flow to meet its obligations on a timely basis, to obtain additional financing
or refinancing as may be required, and ultimately to attain profitability.
Management expects to be able to attract additional capital, if needed, for its
online operations. However, there can be no assurance that management's plans
will be executed as anticipated.
As of the balance sheet date, the Company believes that it may not have
sufficient cash resources to fund its operations through the next twelve months.
There is no assurance that the Company will be able to close on any financing
transaction. The Company does not have any current arrangements or commitments
for any future financing. The Company may not be able to obtain sufficient
additional financing to satisfy its cash requirements or the Company may be
required to obtain financing on terms that are not favorable to it and its
shareholders. The Company received a going concern opinion on its December 31,
2000 audited financial statements. The Company's auditors' opinion issued in
conjunction with the Company's audited financial statements for the period ended
December 31, 2000 raised substantial doubt about the Company's ability to
continue as a going concern.
If the Company is unable to obtain additional financing when needed, it may be
required to delay or scale back product development and marketing programs in
order to meet its short-term cash requirements, which could have a material
adverse effect on its business, financial condition and results of operations.
The Company's forecast for the period of time through which its financial
resources will be adequate to support its operations is a forward-looking
statement that involves risks and uncertainties, and actual results could vary.
The factors described in the preceding paragraphs will impact the Company's
future capital requirements and the adequacy of its available funds.
EURO CONVERSION
On January 1, 1999, the European Community began denominating significant
financial transactions in a new monetary unit, the Euro. The Euro is intended to
replace the traditional currencies of the individual EU member countries. During
the fourth quarter of 1999, the Company decided to close its European operations
and therefore is not converting internal financial systems to the Euro as a
functional currency during this closure period.
IENTERTAINMENT NETWORK, Inc.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Following the Company's restructuring of its prize point system in early 2001,
three individuals filed complaints with the Consumer Protection Division of the
Office of the Attorney General for the State of North Carolina with respect to
prize points that they wanted to redeem for cash prizes. The Attorney General's
Office also has asserted that the Company's operation of the game of "Bingo,"
which the Company allows users to play for free, violates North Carolina's
gambling statutes. Management, after consultation with counsel, does not
believe that the Company has violated such statutes, which, as interpreted by
North Carolina's Attorney General's Office, would cause free Bingo games
operated by many companies to be in violation. In order to avoid costly
litigation, however, the Company is attempting to negotiate reasonable
settlements regarding these claims; however, there can be no assurance that
reasonable settlements will be reached. In addition, such settlements would not
bar individual consumer claims or claims of violations of other states' gaming
regulations. Consequently, there can be no assurance that future claims will
not be made against the Company.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
From January 1, 2001 through June 30, 2001, the Company (1) granted options to
purchase 12,500 shares of common stock to two contractors for services priced at
market value on the date of issuance; (2) granted options to purchase 77,500
shares of common stock to 10 employees priced at market value on the date of
grant.
Items (1) and (2) were exempt from registration under Section 5 of the
Securities Act of 1933, as amended, by reason of Section 4(2) of the Act and
Regulation D of the Securities and Exchange Commission.
IENTERTAINMENT NETWORK, Inc.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
At an annual shareholders meeting held on June 5, 2001, the following matters
were approved:
o approval and ratification of an amendment to the Company's Articles of
Incorporation reducing the minimum number of directors from five to
three.
o election of three directors;
o approval and ratification of an amendment to the Company's 1998 Stock
Option Plan to increase the number of shares of common stock reserved
for issuance under the plan from 1,800,000 to 2,300,000 shares;
o approval and ratification of the appointment of Ernst & Young LLP.
IENTERTAINMENT NETWORK, Inc.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS (CONTINUED)
The respective vote tabulations are detailed below:
Proposal 1 For Against Abstain
- ---------- ---------- ------- ------
Amendment to the 12,164,985 83,465 17,205
Articles of Incorporation
Proposal 2 For Withhold
- ---------- --------- ---------
Jacob Agam 8,719,558 3,546,097
Marc S. Goldfarb 8,719,558 3,546,097
Michael Pearce 8,719,558 3,546,097
Proposal 3 For Against Abstain
- ---------- ---------- -------- -------
Amendment to the 1998 12,053,904 189,046 22,705
Stock Option Plan
Proposal 4 For Against Abstain
- ---------- ---------- ------- - -------
Appointment of Ernst & 12,241,851 11,459 12,345
Young, LLC
ITEM 5. OTHER INFORMATION
Forward Looking Statements
In connection with the "Safe Harbor" provisions of the Private Securities
Litigation Reform Act of 1995, readers of this document are advised that this
document contains both statements of historical facts and forward-looking
statements. Our forward-looking statements include statements related to capital
needs, ability to raise capital, and the market for our common stock. Words such
as "anticipates," "expects," "intends," "plans," "believes," "seeks,"
"estimates" and similar expressions are intended to identify forward-looking
statements. Our forward-looking statements are subject to certain risks and
uncertainties that could cause actual results to differ materially from those
indicated by the forward-looking statements.
Our forward-looking statements are based on current expectations, estimates and
projections about our industry, management's beliefs, and certain assumptions
made by management. These statements are not guarantees of future performance
and actual actions or results may differ materially. These statements are
subject to certain risks, uncertainties and assumptions that are difficult to
predict. We undertake no obligation to update publicly any forward-looking
statements as a result of new information, future events or otherwise, unless
required by law.
You should carefully consider the risks described in the Company's Form 10-KSB,
together with all of the other information included in this Form 10-QSB, before
making an investment decision. The risks and uncertainties described are not the
only ones we face. If any of the these risks actually occur, it is likely that
our business, financial condition or operating results would be harmed. In such
case, the trading price of our common stock could decline, and you could lose
all or part of your investment.
IENTERTAINMENT NETWORK, Inc.
ITEM 5. OTHER INFORMATION (continued)
Delisting of our Common Stock from Nasdaq's SmallCap Market(TM)
As of the close of business on March 23, 2001, the bid price of the Company's of
the Company's common stock as quoted on Nasdaq's SmallCap MarketTM was $0.1875
per share. Because the Company had failed to comply with the $1.00 minimum bid
requirement for continued listing of its common stock on the SmallCap Market(TM)
as set forth in Marketplace Rule 4310(c)(8)(B), . As of the close of business on
March 23, 2001, our minimum bid price was $0.1875 per share. The Company's
common stock was delisted from the SmallCap Market(TM) at the opening of
business on April 5, 2001. The Company decided not to appeal this determination.
Following this delisting, trading in the Company's common stock has been
conducted in the over-the-counter markets such as the OTC Bulletin Board(R). The
OTCBB is a regulated quotation service that displays real-time quotes and volume
information in over-the-counter equity securities. The OTCBB does not impose
listing standards or requirements other than regular filings with the SEC. It
also does not provide automatic trade executions and does not maintain
relationships with quoted issuers. Stocks traded on the OTCBB may face a loss of
market makers and a lack of readily available bid and ask prices. These stocks
may also experience a greater spread between the bid and ask price and a general
loss of liquidity. Certain investors have policies against purchasing or holding
OTCBB securities. The delisting and subsequent trading on the OTCBB, have had,
and will continue to have, a material adverse effect on both trading volume and
market value of our stock. Since delisting, our stock price has traded from a
low of $0.05 to a high of $0.28 per share, and the closing price of our stock on
August 310, 2001 was $0.065.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(A) EXHIBITS
None
(B) REPORTS ON FORM 8-K
None
IENTERTAINMENT NETWORK, Inc.
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant caused
this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
IENTERTAINMENT NETWORK, INC.
By: /s/ Michael C. Pearce
----------------------
Michael C. Pearce
Chief Executive Officer
By: /s/ Allan Kalbarczyk
---------------------
Allan Kalbarczyk
Chief Accounting Officer