SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
(Mark One)
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED NOVEMBER 30, 1999.
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
Commission File Number: 0-24919
MDI Entertainment, Inc.
(Exact name of Registrant as specified in its Charter)
Delaware 73-1515699
(State or other jurisdiction of (I.R.S Employer Identification No.)
incorporation or organization)
201 Ann Street
Hartford, Connecticut 06103
(Address of principal executive offices)
(860) 527-5359
(Registrant's telephone number)
(Former Name, Former Address and Former Fiscal Year, if changed since last
Report)
Check whether the registrant (1) has filed all reports required to be filed by
Section 13 or 15 (d) of the Exchange Act during the past 12 months (or for 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 January 12, 2000, 8,349,437 shares of the issuer's common stock were
outstanding.
Transitional Small Business Disclosure Format (check one): Yes No X
MDI ENTERTAINMENT, INC. AND SUBSIDIARIES
FORM 10-QSB
FOR THE QUARTERLY PERIOD ENDED NOVEMBER 30, 1999
INDEX
Page
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements.........................................................................................1
Consolidated Balance Sheets as of November 30, 1999 (unaudited) and May 31, 1999..................................1
Consolidated Statements of Operations (unaudited) for the six months ended
November 30, 1999 and 1998........................................................................................2
Consolidated Statements of Operations (unaudited) for the three months ended
November 30, 1999 and 1998........................................................................................3
Consolidated Statements of Changes in Shareholders' Equity (Deficit) for the
six months ended November 30, 1999 (unaudited) and May 31, 1999..................................................4
Consolidated Statements of Cash Flows (unaudited) for the six months
ended November 30, 1999 and 1998..................................................................................5
Notes to Unaudited Consolidated Financial Statements..............................................................6
Item 2. Management's Discussion and Analysis.........................................................................9
PART II OTHER INFORMATION
Item 2. Change in Securities and Use of Proceeds....................................................................22
Item 6. Exhibits and Reports on Form 8-K...........................................................................23
Signatures............................................................................................ ..........24
PART I
FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
MDI ENTERTAINMENT, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
November 30, May 31,
1999 1999
------------ -------------
(unaudited) (audited)
ASSETS
Cash and cash equivalents $ 1,548,490 $ 340,350
Accounts receivable 366,608 817,614
Inventory 86,455 57,596
Other current assets 179,353 58,253
----------- -----------
Total current assets 2,180,906 1,273,813
Property and equipment, net 149,166 106,022
----------- -----------
Licensing costs, net 317,539 189,488
Other, net (Note 3) 178,094 260,039
----------- -----------
Total other assets 495,633 449,527
----------- -----------
Total assets $ 2,825,705 $ 1,829,362
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT)
Accounts payable $ 245,677 $ 364,909
Accrued liabilities 59,489 369,279
Current portion of long term debt 382,232 365,911
Deferred revenue (Note 2) -- 268,405
Billings in excess of cost and estimated
earnings on uncompleted contracts (Note 2) 1,332,802 1,695,886
Dividends payable 14,642 --
----------- -----------
Total current liabilities 2,034,842 3,064,390
Long term debt, less current portion above 34,397 229,702
Minority interest 34,927 34,927
Subordinated convertible debenture (Note 4) 528,750 --
----------- -----------
Total liabilities 2,632,916 3,329,019
Common stock 7,795 7,777
Convertible preferred stock-Series A 2 --
Additional paid-in capital 1,993,206 348,348
Accumulated deficit (1,808,214) (1,855,782)
----------- -----------
Total shareholders' equity (deficit) 192,789 (1,499,657)
Total liabilities and
shareholders' equity (deficit) $ 2,825,705 $ 1,829,362
=========== ===========
The accompanying notes are an integral part of these consolidated
financial statements.
-1-
MDI ENTERTAINMENT, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
Six months ended
November 30,
1999 1998
------------- -------------
(unaudited) (unaudited)
Revenues $ 3,227,215 $ 4,106,254
Cost of revenues 1,936,859 2,168,206
----------- -----------
Gross profit 1,290,356 1,938,048
Selling, general and administrative
expenses 1,184,035 1,031,569
----------- -----------
Operating profit 106,321 906,479
Interest expense (income), net 16,460 (11,301)
Minority interest -- (243)
----------- -----------
Income before provision for income taxes 89,861 918,023
Provision for income taxes (Note 5) 2,000 31,200
----------- -----------
Net income $ 87,861 $ 886,823
=========== ===========
Basic earnings
per common share (Note 6) $ 0.01 $ 0.11
Diluted earnings
per common share (Note 6) $ 0.01 $ 0.11
The accompanying notes are an integral part of these consolidated
financial statements.
-2-
MDI ENTERTAINMENT, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
Three months ended
November 30,
1999 1998
------------- ------------
(unaudited) (unaudited)
Revenues $ 1,467,078 $ 2,003,929
Cost of revenues 777,272 1,072,067
----------- -----------
Gross profit 689,806 931,862
Selling, general and administrative
expenses 667,684 484,775
----------- -----------
Operating profit 22,122 447,087
Interest expense (income), net 9,861 (4,935)
Other income, net -- 192
----------- -----------
Income before provision for income taxes 12,261 451,830
Provision for income taxes (Note 5) 500 30,180
----------- -----------
Net income $ 11,761 $ 421,650
=========== ===========
Basic earnings
per common share (Note 6) $ 0.00 $ 0.05
Diluted earnings
per common share (Note 6) $ 0.00 $ 0.05
The accompanying notes are an integral part of these consolidated
financial statements.
-3-
MDI ENTERTAINMENT, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY (DEFICIT)
FOR THE SIX MONTHS ENDED NOVEMBER 30, 1999
(unaudited)
---------------------------------------------------------------------------------------
Shares Par Value $.001
----------------------- --------------------------
*
Convertible
Preferred ** Preferred Additional
Stock Common Stock Common Paid In Accumulated
Series A Stock Series A Stock Capital Deficit Total
----------- ---------- ------------ ----------- ------------ ------------- -------------
BALANCE, May 31, 1999 -- 7,776,500 $ -- $ 7,777 $ 348,348 $(1,855,782) $(1,499,657)
Proceeds from sale of
Preferred stock - Series
A, net of expenses of $356,400 2,027 -- 2 -- 1,393,600 -- 1,393,602
Imputed interest on
convertible debenture (Note 4) -- -- -- -- 225,625 -- 225,625
Net income -- -- -- -- -- 87,861 87,861
Dividends on preferred stock:
Quarter ended 8/31/99 -- -- -- -- -- (13,425) (13,425)
Quarter ended 11/30/99 -- -- -- -- -- (26,868) (26,868)
Preferred stock dividend
paid in common stock -- 18,655 -- 18 25,633 -- 25,651
------------------------------------------------------------------------------------------------
BALANCE, November 30, 1999 2,027 7,795,155 $ 2 $ 7,795 $ 1,993,206 $(1,808,214) $ 192,789
================================================================================================
* 5,000,000 shares of preferred stock authorized
** 25,000,000 shares of common stock authorized
The accompanying notes are an integral part of these consolidated financial statements
-4-
MDI ENTERTAINMENT, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
Six months ended
November 30,
1999 1998
----------- --------------
(unaudited) (unaudited)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 87,861 $ 886,823
Adjustments to reconcile net income to net cash used for operating
activities:
Minority interest -- (243)
Depreciation and amortization 121,439 67,738
Change in assets and liabilities:
Decrease (increase) in accounts receivable 451,006 (885,703)
Increase in inventory (28,859) (70,053)
Increase in licensing costs (229,472) (82,964)
Increase in other assets (39,156) (202,273)
Decrease in accounts payable (119,233) (2,204)
Decrease in accrued expenses (253,072) (210,715)
(Decrease) increase in taxes payable (52,339) 30,129
(Decrease) increase in deferred revenue (268,405) 179,670
Decrease in billings in excess of costs
and estimated earnings on uncompleted contracts (363,084) --
----------- -----------
Net cash used for operating activities (693,314) (289,795)
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property and equipment (63,161) (5,807)
Costs associated with sale of convertible preferred stock (356,400) --
----------- -----------
Net cash used for investing activities (419,561) (5,807)
----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of debt (178,985) (126,004)
Proceeds from sale of convertible preferred stock 1,750,000 --
Proceeds from subordinated convertible debenture 750,000 --
----------- -----------
Net cash provided by (used for)
financing activities 2,321,015 (126,004)
----------- -----------
NET INCREASE (DECREASE) IN CASH 1,208,140 (421,606)
CASH, beginning of the period 340,350 960,398
=========== ===========
CASH, end of the period $ 1,548,490 $ 538,792
=========== ===========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for:
Interest $ 23,328 $ 3,572
Income taxes $ 54,866 $ 1,071
Non-cash items:
Preferred stock dividend paid in common stock $ 25,651 $ --
Interest imputed on subordinated convertible debenture $ 4,375 $ --
The accompanying notes are an integral part of these consolidated
financial statements
-5-
MDI ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS FOR PERIOD ENDED
NOVEMBER 30, 1999
1. PRESENTATION OF UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS.
Information in the accompanying interim consolidated financial
statements and notes to the financial statements of MDI Entertainment, Inc. and
subsidiaries (MDI or the Company) for the six-month periods ended November 30,
1999 and 1998 is unaudited. The accompanying interim unaudited consolidated
financial statements have been prepared by us in accordance with generally
accepted accounting principles and Regulation S-B. Accordingly, they do not
include all the information and footnotes required by generally accepted
accounting principles for complete financial statements. In the opinion of
management, all adjustments (consisting of normal recurring accruals) considered
necessary for a fair presentation have been included. Operating results for the
six-month period ended November 30, 1999 are not necessarily indicative of the
results that may be expected for the year ending May 31, 2000. The consolidated
financial statements should be read in conjunction with the financial statements
and notes thereto included in the audited financial statements of the Company as
and for the year ended May 31, 1999.
2. REVENUE AND COST RECOGNITION
Revenue is derived from various lottery game contracts (mainly with
states) between us and the lotteries. We have agreed to provide second chance
prize packages consisting of grand prizes and various merchandise prizes. We
also provide marketing support related to each of the games and obtain the
appropriate licenses for the right to use these properties. Many of the lottery
contracts require the lotteries to pay us upon signing of the contract;
therefore, MDI defers this revenue and recognizes the revenue based on the terms
of the applicable game.
Revenues from the lottery game contracts that are greater than one year
are recognized on the percentage of completion method, determined by the
percentage of cost incurred to date to estimated total costs on a specific
contract basis. This method is utilized as management considers cost incurred to
be the best available measure of progress on these contracts. Contracts costs
include all direct costs. General and administrative costs are charged to
expense as incurred. Provisions for estimated losses on uncompleted contracts
are made in the period in which such losses are determined. As of November 30,
1999, no losses were expected from existing contracts.
The liability "Billings in excess of costs and estimated earnings on
uncompleted contracts" represents billings in excess of revenues recognized.
3. OTHER ASSETS
Other assets at November 30, 1999 primarily represent costs related to
the Subordinated Convertible Debenture which will be amortized over the life of
the debenture or when converted into common stock.
4. SUBORDINATED CONVERTIBLE DEBENTURE
On September 21, 1999, we sold a subordinated convertible debenture (the
"Debenture") to Scientific Games, Inc. for $750,000 which bears interest at 7%
per annum and is payable semi-annually, on June 30 and December 31 of each year,
until its maturity on September 21, 2009. The Debenture is convertible at the
option of Scientific Games at the rate of $2.00 per share of common stock,
subject to adjustment under certain circumstances, as defined, into an aggregate
of 375,000 shares of common stock and convertible at our option at any time
after the earlier of (a) September 21, 2001 or (b) after the underlying common
stock is registered pursuant to the Securities Act of 1933, as amended (the
"Securities Act"), and the price of our common stock exceeds $3.00 per share.
-6-
Generally accepted accounting principles requires that the interest rate
on debt represent a fair market rate for "comparable" debt instruments. The
Company has determined that a fair market rate for this debt would approximate
10% and, therefore, has discounted the carrying value of the liability, with the
exceeding credit reflected as additional paid-in capital.
Face amount of subordinated convertible debenture $ 750,000
Less
Imputed interest discount (difference between 10% fair
market rate and 7% stated rate) (225,625)
---------
Discounted debenture value $ 524,375
Discount amortized through November 30, 1999 4,375
---------
Balance at November 30, 1999 $ 528,750
=========
Each quarter, the imputed interest for that quarter is amortized with a
corresponding increase in the Debenture until it matures September 21, 2009 or
it is converted into common stock.
5. INCOME TAXES
We account for income taxes in accordance with Statement of Financial
Accounting Standards No. 109 (SFAS No. 109), "Accounting for Income Taxes",
which requires that a deferred tax liability or asset be recognized for the
estimated future tax effects attributable to temporary differences between our
financial statements and tax return. SFAS No. 109 provides for recognition of
deferred tax assets for all future deductible temporary differences that, more
likely than not, will provide a future benefit. As of November 30, 1999 and May
31, 1999, we had a significant deferred tax asset, primarily as a result of net
operating loss carry-forwards. We have established a valuation allowance for the
full amount of this deferred tax asset since the realization is not assured.
We have significant federal and state net operating loss carry-forwards
at November 30, 1999 and May 31, 1999. Due to such carry-forwards, we reported
minimum state income tax expense at November 30, 1999 and May 31, 1999,
respectively.
6. EARNINGS PER SHARE
Basic earnings per common share are based on the average number of
common shares outstanding during the fiscal period. Diluted earnings per common
share include, in addition to the above, a dilutive effect of common share
equivalents during the fiscal period. Common share equivalents include dilutive
stock options and warrants using the treasury method and the dilutive effect of
convertible Series A preferred stock.
We had 2,749,237 and 2,073,570 common share equivalents during the three
and six-month periods ended November 30, 1999, respectively. In 1998, we had
188,679 and 101,415 common share equivalents for the same three and six month
periods. The number of shares used in the earnings per common share computations
for the 1999 and 1998 periods were as follows:
-7-
SIX MONTHS ENDED THREE MONTHS ENDED
NOVEMBER 30 NOVEMBER 30
1999 1998 1999 1998
---- ---- ---- ----
Basic
Average common shares
outstanding 7,782,718 7,776,500 7,788,937 7,776,500
Dilutive
Dilutive effect of options and
warrants 722,237 101,415 722,237 188,679
Dilutive effect of conversion
of Series A preferred stock 1,351,333 -- 2,027,000 --
---------- ---------- ---------- ----------
Average dilutive common shares
outstanding 9,856,288 7,877,915 10,538,174 7,965,179
========== ========== ========== ==========
7. RECENT ACCOUNTING PRONOUNCEMENTS
During 1999, the Financial Accounting Standards Board (FASB) issued FASB
No. 133, which provides new guidance relative to accounting for derivatives and
hedging transactions. This pronouncement is effective for fiscal years beginning
after June 15, 2000. Management has determined that the Company currently has no
transactions, nor are any contemplated, that would be effected by FASB No. 133.
-8-
THIS QUARTERLY REPORT ON FORM 10-QSB CONTAINS FORWARD LOOKING STATEMENTS
THAT INVOLVE CERTAIN RISKS AND UNCERTAINTIES. OUR ACTUAL RESULTS COULD DIFFER
MATERIALLY FROM THE RESULTS DISCUSSED IN THE FORWARD LOOKING STATEMENTS
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS
The following discussion and analysis should be read in conjunction with
our consolidated financial statements and the notes thereto appearing elsewhere
in this Form 10-QSB. All statements contained herein that are not historical
facts, including but not limited to, statements regarding our current business
strategy and our plans for future development and operations, are based upon
current expectations. These statements are forward-looking in nature and involve
a number of risks and uncertainties. Generally, the words "anticipates,"
"believes," "estimates," "expects" and similar expressions as they relate to us
and our management are intended to identify forward looking statements. Actual
results may differ materially. Among the factors that could cause actual results
to differ materially are those set forth in our Annual Report on Form 10-KSB
under the caption "Description of Business-Risk Factors." We wish to caution
readers not to place undue reliance on any such forward-looking statements,
which statements speak only as of the date made.
Our principal business has been the scratch ticket segment of the
government lottery industry. We are a leader in designing and marketing instant
scratch ticket games based on licensed brand names and entertainment properties
and our lottery promotions feature such properties licensed by us. Prizes
awarded in such promotions typically include a number of "second chance" prizes
related to the licensed property, including collectible logo-bearing merchandise
such as logo bearing T-shirts and caps, and other related merchandise such as
posters, money clips, telephones, playing cards, film cells, stadium blankets,
carryall bags, jackets, electronic games, video and music collections, watches,
clocks, credit cards with prepaid credit, trips and, in the case of
Harley-Davidson(R) , Harley-Davidson 1200 Sportster motorcycles.
We developed our strategy of identifying such properties in early 1996.
Prior to that time, the Company had developed a series of promotions that
utilized popular videotapes, compact discs and audiocassettes as second chance
lottery prizes. Those promotions enabled us to develop an expertise in sourcing
and distributing products as second chance lottery prizes and to develop a
reputation with lottery personnel as a reliable organization attuned to the
special needs of lotteries and their players.
We derive over ninety-five percent (95%) of our revenues from lotteries
in two distinct ways. First, the Company will usually charge a lottery a license
and royalty fee to utilize a particular licensed property as a lottery game.
License fees are a fixed assessment while royalties are a percentage of the
printing cost of the tickets. Contracts for licensed properties typically
include an up-front license fee and a royalty based on the manufacturing costs
of tickets. Manufacturing costs of tickets usually range from $10.00 per
thousand to $30.00 per thousand. Actual costs depend on the size of the ticket
and the quantity printed. Ticket quantities range from about one million to as
many as 60 million with an average quantity of about five million.
The Company's second and major source of lottery revenue is the sale of
logo bearing merchandise to the lottery as second-chance prizes. In
merchandise-based lottery games, between 5% to 10% of a lottery's prize fund is
typically used for the purchase of merchandise related to the licensed property
the lottery is utilizing. Typically, we purchase merchandise from other
licensees of the property and resell the merchandise to the lottery at a price
that is designed to include overhead costs, profit, shipping and handling and
-9-
any marketing support we provide the lottery such as brochures, posters or other
advertising assistance for which there are no separate charges.
Our success is dependent on our ability to maintain and secure licensed
properties, market these properties to lotteries and the performance of the
properties once they are introduced as lottery games to players. We believe that
revenues will fluctuate as individual license-based promotions commence or wind
down and terminate. In addition, our licenses (which are generally for 1.5 to 3
years) terminate at various times over the next several years. Moreover, the
useful life of a license is generally relatively short as the novelty of the
game or the popularity of the licensed material wanes over time. The timing of
agreements with the lotteries to run promotions, the acquisition of new licenses
and the commencement of new promotions is unpredictable. Accordingly, period to
period comparisons may not be indicative of future results.
We are in continuos negotiations to obtain additional licensed
properties and expect to reach several agreements over the next six to 12
months; however we cannot assure you that such agreements will actually be
reached. Some of these agreements may require the expenditures of significant
up-front advances.
RECENT DEVELOPMENTS
NEW CONTRACTS/ LICENSES
In the quarter ended November 30, 1999, there were numerous positive
developments from a contract and licensing standpoint. During the three-month
period ended November 30, 1999, we signed a total of eight contracts,
representing twenty one games to be introduced over the next two years. The most
important was a contract with the Wisconsin Lottery for eight games over a
two-year period and another with the New Jersey Lottery for seven games during a
two-year period. These contracts reflect the success of our marketing efforts in
convincing lotteries to introduce about one licensed game per quarter.
In addition, we signed agreements for several new licenses during the
quarter, including Michael Buffer's "Let's Get Ready to Rumble", "SPAM" and "Ray
Charles".
SCIENTIFIC GAMES STRATEGIC ALLIANCE:
In September 1999, we announced a Strategic Alliance Agreement ( the
"Agreement") with Scientific Games International ("Scientific Games") a wholly
owned subsidiary of Scientific Games Holding Corporation (NYSE:SG). We view this
as a very positive development for our future earnings potential. Sales by
Scientific Games represents over 60% of the North American instant ticket market
and Scientific Games has contracts with 54 international lotteries for a variety
of products and services. As an integral part of the agreement, Scientific Games
Sales and Marketing staff will market our products to Scientific Games'
customers in exchange for a sliding scale commission based on gross sales
volume.
We believe that this relationship, which should begin generating revenue
by the third or fourth quarter of this fiscal year, will enhance our ability to
sell additional games both domestically and internationally.
In addition to the Strategic Alliance, Scientific Games, Inc. purchased
$750,000 of convertible debentures which can be converted to common stock at a
price of $2.00 per common share, as well as purchasing 333,333 shares of common
stock from a member of our management.
-10-
During the quarter ended November 30, 1999, we began to implement the
basic principles of our strategic alliance agreement with Scientific Games. A
series of two-day marketing sessions were held with Scientific Games regional
directors as well as their entire 80-person sales and marketing staff. We
believe that the Scientific Games strategic alliance will begin to yield sales
results late this year or early next year.
Scientific Games' Chairman, President and CEO, William Malloy, has
joined our Board of Directors.
-11-
SIX MONTHS ENDED NOVEMBER 30,
--------------------------------------------------
1999 % 1998 %
---- - ---- -
Total revenue $ 3,227,215 100.0% $ 4,106,254 100.0%
Cost of revenues 1,936,859 60.0% 2,168,206 52.8%
---------------------------------------------------
Gross profit 1,290,356 40.0% 1,938,048 47.2%
Selling, general and administrative expenses 1,184,035 36.7% 1,031,569 25.1%
---------------------------------------------------
Operating profit 106,321 3.3% 906,479 22.1%
Interest expense 37,911 1.2% 486 0.0%
Interest income (21,451) (0.7%) (11,787) (0.3%)
Minority interest -- 0.0% (243) 0.0%
---------------------------------------------------
Net income before provision for income taxes 89,861 2.8% 918,023 22.4%
Provision for income taxes 2,000 0.1% 31,200 0.8%
---------------------------------------------------
Net income $ 87,861 2.7% $ 886,823 21.6%
===================================================
-12-
SIX MONTHS ENDED NOVEMBER 30, 1999, COMPARED TO SIX MONTHS ENDED
NOVEMBER 30, 1998
Results for the six months ended November 30, 1999 reflect revenue of
$3,227,200 as compared to $4,106,300 for the same period in 1998. This revenue
decrease is the result of several factors. First, we did not introduce any new
properties comparable to the Harley-Davidson property which generated
significant revenue in the six months ended November 30, 1998. Second, while the
number of new games launched in the first six months ended November 30, 1999 was
similar to the number launched for the same period ended November 30, 1998, the
ticket quantities for these games were smaller, thereby yielding less total
revenue. This is a reflection of smaller states following the lead of larger
states in offering these games and also of declining ticket quantities by all
lotteries. Finally, we have expanded resources in adding licensed properties and
reorganizing our sales department, including our recently announced strategic
alliance with Scientific Games International. This has been done in recognition
of the need to improve our overall sales and marketing efforts. Due to the
Scientific Games strategic alliance, which was consummated during the quarter
just ended November 30, 1999, we should begin to show improved sales results
later this year or early next year.
Revenue during the six-month period ended November 30, 1999 was derived
primarily from sales based on two entertainment-based or brand name properties,
including Harley-Davidson(R) (54% of revenue) and Wheel of Fortune(R) (17% of
revenue). The remaining 29% of revenue resulted from six other
entertainment-based or branded name properties as newer licensed properties were
utilized.
Cost of revenue as a percentage of revenue was 60.0% for the six months
ended November 30, 1999 compared to 52.8% for the same period in 1998. This was
a six percent improvement cumulative over the first quarter ended August 31,
1999 which had a cost of revenue percentage of 66% primarily due to the mix of
licensed-based games occuring during this period.
Gross profit returned to the 40% level ($1,290,400), for the six months
ended November 30, 1999, but was still lower than the 47.2% ($1,938,000) for the
comparable period in 1998. The mix of licensed-based games occurring during the
period affected the resulting gross profit margin.
Selling, general and administrative expenses were $1,184,000 (36.7% of
revenue) for the six months ended November 30, 1999 compared to $1,031,600
(25.1% of revenue) for the same period in 1998. Many of the costs in this area
are fixed, therefore a decline in sales greatly affects the percentage of these
costs to revenue. Several cost areas had increases contributing to the $152,000
increase in absolute dollars. Operationally we expanded the amount of office
space we occupy and renegotiated our lease which increased rent by approximately
$15,000. We also spent approximately $86,000 more this quarter on outside
-13-
resources and promotions to secure new business and licenses. SEC related
expenses were approximately $36,000 higher than in the same period last year due
to significant additional reporting this fiscal year.
Operating profit was $106,300 (3.3% of revenue) for the six months ended
November 30, 1999 compared to $906,500 (22.1% of revenue) for the same period in
1998. This was principally due to the factors described above.
Interest expense was $37,900 for the six months ended November 30, 1999
compared to $500 for the same period in 1998. Approximately $23,300 of the
increase is attributable to interest on the note for $600,000 executed in the
fourth quarter of fiscal 1999 discussed in detail in "Liquidity and Capital
Resources". The remaining $10,200 is interest on the $750,000 convertible
debenture also discussed in detail in "Liquidity and Capital Resources".
Interest income was $21,500 for the six months ended November 30, 1999
compared to $11,800 for the same period in 1998. This increase is related to the
increase in our cash position from the transactions discussed in "Liquidity and
Capital Resources".
For the reasons set forth above, we had a profit before taxes of $89,900
for the six months ended November 30, 1999 as compared to $918,000 for the same
period in 1998.
-14-
THREE MONTHS ENDED NOVEMBER 30,
------------------------------------------------
1999 % 1998 %
---- - ---- -
Total revenue $ 1,467,078 100.0% $ 2,003,929 100.0%
Cost of revenues 777,272 53.0% 1,072,067 53.5%
------------------------------------------------
Gross profit 689,806 47.0% 931,862 46.5%
Selling, general and administrative expenses 667,684 45.5% 484,775 24.2%
------------------------------------------------
Operating profit 22,122 1.5% 447,087 22.3%
Interest expense 25,502 1.7% -- 0.0%
Interest income (15,641) (1.1%) (4,935) ( 0.2%)
Other income, net -- 0.0% 192 0.0%
------------------------------------------------
Net income before provision for income taxes 12,261 0.8% 451,830 22.5%
Provision for income taxes 500 0.0% 30,180 1.5%
------------------------------------------------
Net income $ 11,761 0.8% $ 421,650 21.0%
================================================
THREE MONTHS ENDED NOVEMBER 30, 1999 COMPARED TO THREE MONTHS ENDED
NOVEMBER 30, 1998.
Results for the three months ended November 30, 1999 reflect revenues of
$1,467,100 as compared to $2,003,900 for the same period in 1998. This revenue
decrease of $536,800 is due to several factors. First, we did not introduce any
new properties comparable to the Harley-Davidson property which generated
significant revenue in the three months ended November 30, 1998. Second, while
the number of new games launched in the first three months ended November 30,
1999 was similar to the number launched for the same period ended November 30,
1998, the ticket quantities for these games were smaller, thereby yielding less
total revenue. This is a reflection of smaller states following the lead of
larger states in offering these games and also of declining ticket quantities by
all lotteries. Finally, we have expanded resources in adding licensed properties
and reorganizing our sales department, including our recently announced
strategic alliance with Scientific Games International. This has been done in
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recognition of the need to improve our overall sales and marketing efforts. Due
to the Scientific Games strategic alliance, which was consummated during the
quarter just ended November 30, 1999, we should begin to show improved sales
results later this year or early next year.
Revenue during the three month period ended November 30, 1999 was
derived primarily from sales based on three entertainment based or brand name
properties including Harley Davidson (R) (45% of revenue), Wheel of Fortune(R)
(20% of revenue) and Times Square 2000 (15% of revenue). The remaining 20% of
sales resulted from five other entertainment based or brand named properties.
Cost of revenue as a percentage of revenue decreased to 53.0% for the
three months ended November 30, 1999 from 53.5% for the same period in 1998.
Gross profit decreased to $689,800 (47.0% of revenue) for the
three-month period ended November 30, 1999 compared to $931,900 (46.5% of
revenue) for the same period in 1998.
Selling, general and administrative expenses were $667,700 (45.5% of
revenue) for the three months ended November 30, 1999 compared to $484,800
(24.2% of revenue) for the same period in 1998. This increase of $182,900 in
operating expenses is primarily related to increases in variable expenses.
Approximately $86,000 was related to outside resources and promotions to secure
new business and licenses. Non-SEC legal expenses increased by approximately
$21,300 related to a lawsuit in which we are the plaintiff. Expenses for
computer related services were up approximately $13,700 due to Y2K upgrades.
Investor relations and SEC related reporting expenses were up approximately
$26,300. Fixed expense increases were limited to approximately $25,000 related
to employee benefit costs and also increased rent expense due to increased space
needs.
Operating profit was $22,100 (2% of revenue) for the three months ended
November 30, 1999 compared to $447,100 (22% of revenue) for the same period in
1998. This was due principally to the factors described above.
Interest expense was $25,500 for the three months ended November 30,
1999 compared to $0 for the same period in 1998. Approximately $10,900 of the
increase is attributable to interest on the note for $600,000 executed in the
fourth quarter of fiscal 1999 discussed in detail in "Liquidity and Capital
Resources". The remaining $14,600 is interest on the $750,000 convertible
debenture also discussed in detail in "Liquidity and Capital Resources".
Interest income was $15,600 for the three months ended November 30, 1999
compared to $4,900 for the same period in 1998. This increase is related to the
increase in our cash position from the transactions discussed in "Liquidity and
Capital Resources".
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For the reasons set forth above, we had income before taxes of $12,300
for the three months ended November 30, 1999 compared to $451,800 for the same
period in 1998.
LIQUIDITY AND CAPITAL RESOURCES
As of November 30, 1999, we had cash and cash equivalents of $1,548,500
compared to $340,400 as of the same period in 1998. The increase was due
principally to the infusion of gross proceeds of $750,000, from the sale of a
subordinated convertible debenture to Scientific Games. See Item 2 "Changes in
Securities and Use of Proceeds" for details.
As of November 30, 1999, we had net working capital of $133,900. However
within current liabilities is $1,332,800 of "Billings in excess of cost and
estimated earnings on uncompleted contracts" representing unrecognized revenue
(i.e., revenue which we have already been paid or billed for but which cannot be
recognized until we purchase the contracted merchandise before a game drawing
occurs). Accordingly, such liability will not adversely impact cash flow, except
to the extent that we need to purchase merchandise and subsequent fulfillment
costs relative to this revenue which approximates 50% of this revenue and,
without such liability, working capital would have been $800,300,
Our indebtedness as of November 30, 1999 was $416,600 primarily
represented by a note with a remaining balance of $340,900 bearing interest at
10.75% per annum and payable in monthly installments of $27,895, with the final
payment date of December 15, 2000. The note is secured by liens on substantially
all of our assets. This note resulted from the conversion of $600,000 of accrued
commission due to a third party, which allows us to better manage our cash
requirements.
The cash requirements of funding our growth have historically exceeded
cash flow from operations. Accordingly, we have satisfied our capital needs
primarily through debt and equity financing, as well as cash flow from
operations. Therefore, to address our immediate needs, in addition to the equity
financing of $1,750,000 which was completed on August 4, 1999, we raised
$750,000 gross proceeds on September 21, 1999 from the sale of a subordinated
convertible debenture to Scientific Games, Inc.
The debenture bears interest at 7% per annum which is payable
semi-annually, on June 30 and December 31 of each year, until its maturity on
September 21, 2009. The debenture is convertible at the option of Scientific
Games for $2.00 per share of common stock, subject to adjustment under certain
circumstances, into an aggregate 375,000 common stock shares and convertible at
our option at any time after the earlier of (a) September 21, 2001 or (b) after
the underlying stock is registered pursuant to the Securities Act and the price
of our common stock exceeds $3.00 per share.
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We do not have any specific capital commitments and do not currently
anticipate making any substantial expenditures other than in the normal course
of business. We have undertaken an aggressive program of acquiring new licenses,
some of which may require substantial up front payments. Several such licenses
have been obtained recently at a cost of $158,500 and others are in the last
stages of negotiations.
LICENSED PROPERTIES
Our Wheel of Fortune(R) license expired in November 1999. However, the
Company and Wheel of Fortune(R) representatives are in negotiations to extend
this license. Two additional lotteries have agreed to launch Wheel of Fortune(R)
games during the fiscal year ending May 31, 2000, subject to our obtaining the
extension.
Our Star Trek(TM) property, which has been used or is scheduled to be
used by a total of ten lotteries, is beginning to decline in popularity. We do
not expect to renew this license, which expired in November 1999.
We have entered into a three-year licensing agreement with Universal
Spaceworks LLC for the property Heroes of Space(TM). Heroes of Space(TM) is a
group of 16 former astronauts aligned to call attention to the U.S. Space
program and their participation.
We have entered into a 30-month contract with MGM Consumer Products for
James Bond 007(TM), The Pink Panther(TM) and The Outer Limits(TM). These rights
are for the U.S. only.
We have entered into a contract with Hillerich and Bradsby for the
property Louisville Slugger(R). These rights are for government operated
lotteries anywhere in the world. In May 1999, the Iowa lottery implemented a
Louisville Slugger(R) promotion.
We have entered into a three-year agreement with dick clark productions,
inc. for worldwide rights to American Bandstand(R).
We have entered into a three-year agreement with CBS Cable for U.S.
rights to cable networks TNN and CMT.
We have entered into a three-year agreement with King Features Syndicate
for the worldwide rights to Betty Boop(TM) and associated characters.
We have entered into a two-year agreement with Hormel Foods Corp. for
the North American rights to SPAM.
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In addition, MDI entered into three year agreements for Michael Buffer's
"Let's Get Ready to Rumble" and a one year agreement with "Ray Charles" with two
one year options to renew.
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SEASONALITY AND REVENUE FLUCTUATIONS
Our business is not seasonal. However, our revenues are expected to
fluctuate as individual license-based promotions commence, wind down and
terminate. The useful life of a promotion is generally relatively short as the
novelty of the game or the popularity of the licensed material wanes over time.
In addition, our licenses (which are generally for 1.5 to 3 years) terminate at
various times over the next several years. The life span of a promotion, the
timing of agreements with the lotteries to run promotions, the acquisition of
new licenses and the commencement of new promotions are unpredictable. Also,
since most lotteries are government agencies with lottery executives appointed
by the state's governor or other high ranking official, opportunities or
projects in progress can be slowed after an election if the incumbent governor
is not reelected. Accordingly, period to period comparisons may not be
indicative of future results.
YEAR 2000
We completed an assessment of the hardware, software and network
components of our information technology systems. We have replaced all of our 22
CPUs with those that, according to manufacturers' representations, are Year 2000
compliant. We also purchased a new server less than a year ago which, according
to manufacturer's representations, is Year 2000 compliant. The operating systems
we use are Windows 95 and Microsoft Office 97, which are both Year 2000
compliant according to manufacturers' representations. We have upgraded our
network as well.
New accounting and operational "SBT" software has been obtained and
installed which, according to manufacturer's representations, is Year 2000
compliant. Peripheral operational software, which was customized, has been
reviewed for integration with the "SBT" accounting and operational software. Due
to our shift to licensed promotions customized software previously required did
not have to be completely rewritten. FoxPro which houses the additional database
required to operate the customized software has been upgraded to Version 6.0
which, according to manufacturer's representations, is Year 2000 compliant. We
retained a Year 2000 compliance service provider (the "Compliance Service
Provider") to make the required changes and integrate this software accordingly.
This work has been undertaken by the Compliance Service Provider, and has been
installed as of this writing. As of the date of this Form 10-QSB we have not
experienced any material Y2K problems in either our operational or financial
systems.
We utilize two third-party subcontractors. One is a fulfillment facility
and the other a data collection house. We have historically provided the
software needed to support these two functions. This software has been upgraded
by the Compliance Service Provider to be Year 2000 compliant. Both
subcontractors have provided us with assurances that their hardware is Year 2000
compliant. We have executed transactions with both third party sub-contractors
subsequent to January 1, 2000 and we have experienced no Y2K related problems.
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The original budget for Year 2000 compliance work was $50,000. As of
November 30, 1999, we had incurred expenses of $62,400. We have revised this
budget to $75,000.
We believe we have taken appropriate steps to be Year 2000 compliant. We
still have in place a contingency plan to handle any risks that may still occur.
However, we cannot assure you that problems will still not be encountered in
connection with the date change from December 31, 1999 to January 1, 2000. We do
not believe these problems will have a material adverse effect on operations.
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PART II
OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.
On September 21, 1999, we sold a subordinated convertible debenture (the
"Debenture") to Scientific Games, Inc. for $750,000 which bears interest at 7%
per annum, payable semi-annually, on June 30 and December 31 of each year, until
its maturity on September 21, 2009. The Debenture is convertible at the option
of Scientific Games for $ 2.00 per share of common stock, subject to adjustment
under certain circumstances, into an aggregate of 375,000 shares and convertible
at our option at any time after the earlier of (a) September 21, 2001 or (b)
after the underlying common stock is registered pursuant to the Securities Act
and the price of our common stock exceeds $3.00 per share. Such sale was exempt
from the registration requirements of the Securities Act by virtue of the
provisions of Section 4(2) and /or Section 3(b) of the Securities Act.
In connection with this placement, we paid Venture Partners Capital,
LLC, a registered broker-dealer, a $62,000 cash fee and issued a seven-year
warrant to purchase 226,020 shares of common stock at $1.25 per share, which was
the market value of our stock when the warrants were granted. These warrants are
exercisable during the term commencing November 27, 1999 and ending on September
27, 2006.
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ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits
Exhibit 27 Financial Data Schedule
(b) Reports on Form 8-K Filed on October 4, 1999 (Item 5: Other Events
- Strategic Alliance and Sale of Subordinated
Convertible Debenture)
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SIGNATURE PAGE
In accordance with the requirements of the Securities Exchange Act of
1934, the registrant caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
Dated: January 13, 2000
MDI ENTERTAINMENT, INC.
(Registrant)
By:/s/ Steven M. Saferin
------------------------
Steven M. Saferin
President and Chief Executive
Officer and Director
(Principal Executive Officer)
By:/s/ Kenneth M. Przysiecki
----------------------------
Kenneth M. Przysiecki
Chief Financial Officer, Secretary and Director
(Principal Financial Officer)
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