UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-QSB
|X| Quarterly Report under Section 13 or 15(d) of the Securities Exchange Act
of 1934
For the quarterly period ended MARCH 31, 2005
|_| Transition Report under 13 or 15(d) of the Securities Exchange Act of 1934
For the transition period to
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Commission File Number 0-50119
IMAGE INNOVATIONS HOLDINGS INC.
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(Exact name of small Business Issuer as specified in its charter)
NEVADA 91-1898414
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(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
432 PARK AVENUE SOUTH
NEW YORK, NY 10022
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(Address of principal executive offices) (Zip Code)
Issuer's telephone number, including area code:(518) 589-9400
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NOT APPLICABLE
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(Former name, former address and former fiscal year,
if changed since last report)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12
months (or for such shorter period that the issuer was required to file such
reports), and (2) has been subject to such filing requirements for the past 90
days |X| Yes |_| No
As of May 17, 2005, there were 24,916,000 shares of common stock issued and
outstanding.
Transitional Small Business Disclosure Format (check one): Yes |_| No |X|
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
IMAGE INNOVATIONS HOLDINGS INC. AND SUBSIDIARIES
Consolidated Balance Sheets
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March 31, December 31,
2005 2004
(Unaudited)
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ASSETS
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Current Assets
Cash $ 3,707 $ 297,011
Accounts receivable net 2,447,972 3,491,029
Inventory 3,170,153 3,155,017
Intangible assets 1,183,700 --
Other current assets 52,400 147,283
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Total current assets 6,857,932 7,090,340
Property and Equipment, Net 408,376 411,166
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Total Assets $ 7,266,308 $ 7,501,506
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LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities
Demand loan H.E. Capital S.A $ 1,097,447 $ 1,085,541
Promissory Note 700,000 700,000
Accounts Payable 467,186 266,059
Accrued Expenses 298,991 167,940
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Total current liabilities 2,563,624 2,219,540
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Contingencies and Commitments
Stockholders' Equity
Preferred Stock -- --
1,000,000 authorized preferred shares, par value $.01
Nil shares issued and outstanding
Common Stock 24,910 24,910
50,000,000 authorized shares, par value $.001
24,910,000 shares issued and outstanding
Additional Paid in Capital 6,878,295 6,878,295
Accumulated Deficit (2,200,521) (1,621,239)
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Total stockholders' equity 4,702,684 5,281,966
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Total liabilities and stockholders' equity $ 7,266,308 $ 7,501,506
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See notes to the Consolidated Financial Statements.
F-1
IMAGE INNOVATIONS HOLDINGS INC. AND SUBSIDIARIES
Consolidated Statements of Operations
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For the Three For the Three
Months ended Months ended
March 31, 2005 March 31, 2004
(Unaudited) (Unaudited)
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Revenues $ 464,502 $ 180,968
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Cost of sales 174,729 117,712
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Gross Profit 289,773 63,256
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Expenses:
Consulting Services 20,429 318,140
Depreciation and amortization 12,318 1,213
General and administration 76,058 61,679
Interest 32,414 --
Marketing and promotions 80,796 7,596
Payroll and compensation 309,621 153,925
Professional fees 287,236 31,246
Travel and entertainment 50,183 66,974
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Total Expenses 869,055 640,773
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Net Loss $ (579,282) $ (577,517)
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Loss Per Common Share:
Basic and Diluted $ (0.02) $ (0.03)
Weighted Average number of Common Shares
Outstanding:
Basic and Diluted 24,910,000 20,986,667
See notes to the Consolidated Financial Statements.
F-2
IMAGE INNOVATIONS HOLDINGS INC. AND SUBSIDIARIES
Consolidated Statement of Changes in Stockholders' Equity
From January 14, 2005 to March 31, 2005 (Unaudited)
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Number Additional Accumulated Stockholders'
of Common Stock Amount Paid-In Capital Deficit Equity
--------------- -------- --------------- --------------- ------------
Balance January 1, 2005 a ot 24,910,000 $ 24,910 $ 6,878,295 $ (1,621,239) $ 5,281,966
--------------- -------- --------------- --------------- ------------
Net Loss -- -- -- (579,282) (579,282)
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Balance March 31, 2005a ot 24,910,000 $ 24,910 $ 6,878,295 $ (2,200,521) $ 4,702,684
=============== ======== =============== =============== ============
See notes to the Consolidated Financial Statements.
F-3
IMAGE INNOVATIONS HOLDINGS INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
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For the Three For the Three
Months ended Months ended
March 31, 2005 March 31, 2004
(Unaudited) (Unaudited)
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Operating
Activities
Net Loss $ (579,282) $ (577,517)
Adjustments to reconcile net loss to net cash used in operating
activities:
Depreciation and amortization 12,318 1,213
Common stock issued for services -- 202,836
Changes in operating assets and liabilities
Decrease/(increase) in accounts receivable 1,043,057 (119,793)
Increase/(decrease) in inventory (15,136) 11,238
Increase/(decrease) in other assets (1,088,817) (218,858)
Increase in accounts payable 201,127 103,791
Increase in accrued expenses 131,051 ~
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Net cash used in operating activities (295,682) (597,090)
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Cash flows from investing activity -
Purchase of property and equipment (9,528) (40,805)
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Cash flows from financing activities:
Proceeds from promissory note - net 11,906 233,230
Proceeds from sale of stock and warrants 275,000
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Net cash provided by financing activities 11,906 508,230
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Net increase in cash (293,304) (129,665)
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Cash at beginning of period 297,011 273,111
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Cash at end of period $ 3,707 $ 143,446
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Non cash financing activities:
Common stock issued for inventory $ -- $ 3,015,279
Common stock and warrants issued to settle debt $ -- $ 400,000
See notes to the Consolidated Financial Statements.
F-4
IMAGE INNOVATIONS HOLDINGS INC.
Notes to Consolidated Financial Statements
For the three months ended March 31, 2005
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1. Basis of Preparation and Presentation:
The accompanying unaudited financial statements have been prepared in
accordance with accounting principles generally accepted in the United
States of America for interim financial information and the instructions
to Form 10-QSB and item 310 (b) of Regulation S-B promulgated under the
Securities Exchange Act of 1934. In the opinion of management, the
unaudited financial statements have been prepared on the same basis as the
annual financial statements and reflect all adjustments necessary to
present fairly the financial position as of March 31, 2005 and the results
of operations and cash flows for the three months ended March 31, 2005.
Certain information and footnote disclosure normally included in financial
statements prepared in accordance with accounting principles generally
accepted in the United States of America have been condensed or omitted
pursuant to the Securities and Exchange Commission's rules and
regulations.
The accompanying consolidated financial statements include the accounts of
the Company and its wholly owned subsidiaries. All intercompany accounts
and transactions have been eliminated in consolidation.
2. Liquidity:
The Company has sustained net operating losses over the past two years.
During 2004 the Company exited the development stage. Management is
continuing to develop its celebrity memorabilia business and is pursing
additional capital to continue this endeavor. The Company anticipates
issuing equity securities and or arranging additional debt financing to
meet working capital requirements and to fund development costs in
connection with this business.
3. Inventory
Inventory is valued at the lower of cost or net realizable value and is
determined on the first-in, first-out method. Inventory is comprised of
finished goods and work in progress. The fine art celebrity memorabilia
inventory is valued using job costing and the Company commissions an
annual year end appraisal of its inventory to validate the carrying value.
At March 31, 2005 inventory consisted of approximately $3,010,000 in fine
art celebrity memorabilia inventory and approximately $96,000 in license
products inventory.
4. Stock-based Compensation
In December 2004, the FASB issued SFAS No. 123 (revised 2004), "Share
Based Payment" ("SFAS 123(R)"). SFAS 123(R) requires all share-based
payments to employees, including grants of employee stock options, to be
recognized in the financial statements based on their fair values. The new
standard allows for two transition alternatives, either the
modified-prospective method or the modified-retrospective method. The
Company has not completed its evaluation of SFAS 123(R) and therefore has
not selected a transition method or determined the impact that adopting
SFAS 123(R) will have on its results of operations. On April 14, 2005, the
Securities and Exchange Commission announced that the effective date of
SFAS 123R will be suspended until January 1, 2006, for calendar year
companies. The Company anticipates adopting the prospective method of SFAS
123R in the first quarter of fiscal 2006; the effect of this pronouncement
on the Company for the periods ended March 31, 2005 and 2004 is reflected
in the table below.
F-5
The Company has elected to apply APB Opinion No 25, Accounting for Stock
Issued to Employees, and related interpretations in accounting for its
stock options and has adopted the disclosure-only provisions of SFAS 123.
If the Company had elected to recognize compensation cost based on the
fair value of the options granted at the grant date as prescribed by SFAS
123, the Company's net loss and net loss per common share for the three
month periods ended March 31, 2005 and 2004 would have been as follows:
March 31, 2005 March 31, 2004
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Net loss for the period, as reported $ (579,282) (577,517)
Add: Stock based compensation included in net loss 0 0
Deduct: Total stock based employee compensation expense
determined under fair value based methods for all awards (926,066) 0 (333,529
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Pro forma net loss $ (1,505,348) $ (911,046)
=============== ===============
Basic and diluted net loss per share as reported $ (0.02) $ (0.04)
Pro forma basic and diluted net loss per share $ (0.06) $ (0.04)
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5. Loss per Common Share
Loss per common share is computed pursuant to SFAS No. 128, "Earnings Per
Share." Basic loss per share is computed as net income (loss) available to
common shareholders divided by the weighted average number of common
shares outstanding for the period. Diluted earnings per share reflects the
potential dilution that could occur from common shares issuable through
stock options and warrants. In the three months ended March 31, 2005,
potential common stock issuable amounting to approximately 3,025,000
shares has not been included in the computation of diluted loss per share
for three months ended March 31, 2005, as the effect would be
antidilutive. In 2004, potential common stock issuable amounting to
approximately 2,885,000 shares has not been included in the computation of
diluted loss per share for three months ended March 31, 2004, as the
effect would be antidilutive as well.
6. Reclassification
For comparability, certain 2004 amounts have been reclassified, where
appropriate, to conform to the financial presentation used in 2005.
7. Promissory Note
A promissory note in the principal amount of $800,000 was issued to a
third party on April 27, 2004 and was due on October 27, 2004. The note
bears interest monthly at the rate of 18% per annum. At March 31, 2004,
the Company had repaid $100,000 of the principal amount. The remaining
balance of $700,000 is past due, and the Company is negotiating repayment
terms with the lender. The loan is secured by first lien against all the
assets of the Company. The note is continuing to accrue interest at the
rate of 18% per annum.
F-6
8. Commitments and Contingencies
a) On July 7, 2004, the Company entered into a consulting agreement
with Constellation Capital Corp. ("Constellation"), whereby
Constellation was to provide consulting services including corporate
planning and marketing strategies, identifying and assisting with
merger and acquisition opportunities, conducting market and research
activities, and assisting with new business development activities.
For these services, Constellation was to receive warrants to
purchase a total of 2,500,000 shares of common stock at prices
ranging from $3.50 to $4.50 per share. The Company has taken the
position that services were never rendered, and therefore the
consultant is not entitled to the warrants. Constellation has made
demand for the warrants, but has taken no further action. The
Company intends to vigorously defend any action or proceeding
commenced by Constellation.
b) On January 31, 2005 and February 8, 2005, our former Chief Executive
Officer, Alain Kardos, who resigned as a Director from the Company
on February 3, 2004, filed actions in the Supreme Court of British
Columbia, naming the Company, Image Innovations, ISE and Derick
Sinclair, our Chief Financial Officer, as defendants, respectively.
Mr. Kardos alleged (i) that the defendants wrongfully refused or
neglected to return to him two certificates representing 700,000
shares of our common stock (the "Certificates", "Certificate", and
"Shares", respectively) and (ii) that he was wrongfully dismissed
from his position as an officer and employee of the Company and
Image Innovations on October 21, 2004. Mr. Kardos seeks a
declaration that the Shares and Certificates are his property; an
injunction restraining and enjoining the defendants, and their
directors, officers, employees, servants, agents and contractors, or
others with knowledge of the injunction, from directly or through
any other, selling, disposing of or in way dealing with the Shares
or Certificates without the consent of Mr. Kardos; an order for the
delivery by the defendants to Mr. Kardos, of the Certificates; and
damages for their detention and/or conversion. In respect of the
wrongful termination action, Mr. Kardos seeks damages in respect of
inadequate notice, an extended notice period, general and special
damages and costs.
We believe that Mr. Kardos' allegations are erroneous and that his
claims are without merit. We intend to defend the actions
vigorously, and filed a Statement of Defense with the Supreme Court
of British Columbia on March 4, 2005.
On March 25, 2005, Mr. Kardos filed a third party complaint in the
United States District Court for the District of Nevada, naming the
Company, Image Innovations, ISE and Derick Sinclair as third party
defendants, with substantially the same claims and requested relief
as described above.
c) Effective January 2005, ISE signed a three-year contract with Peyton
Manning, an NFL quarterback. Pursuant to the agreement, ISE will
commission portraits of Mr. Manning as well as have exclusive rights
with respect to Mr. Manning's signature on specific memorabilia to
be distributed by ISE and certain non-exclusive appearance rights.
Under the agreement, ISE has agreed to pay Mr. Manning's company,
Pey Dirt, Inc., royalties as specified in the agreement, subject to
aggregate minimum royalty payments of $2.5 million over the term of
the contract of which the first $1.25 million was paid in the first
quarter of 2005. A second payment of $625,000 is due on December 20,
2005 for the 2006 contract year and the final payment is due on
December 20, 2006 for the 2007 contract year.
F-7
The first payment of $1.25 million has been accounted for as an
intangible asset, net of $66,300 of expenses and capitalized costs,
as of March 31, 2005. Expenses and capitalized costs are allocated
as Mr. Manning performs services, as required by the agreement.
9. Significant Customers
For the three months ended March 31, 2005 and 2004, one customer generated
99% and 66% of the Company's revenues, respectively.
The Company's top five customers represent 98% of the total accounts
receivable at March 31, 2005.
10. Related Party Transactions
Image Sports & Entertainment paid approximately $9,000 to an officer of
the Company for rent of office space in Tannersville, New York for the
three months ended March 31, 2005.
The Company had no other related party transactions.
11. Subsequent events
On April 14, 2005, the Company entered into an employment contract with a
new Chief Executive Officer pursuant to which the new Chief Executive
Officer will be entitled to receive 1,000,000 shares of common stock upon
terms to be finalized during the second quarter of 2005.
F-8
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.
Cautionary Note Regarding Forward-Looking Statements
In connection with the safe harbor provisions of the Private Securities
Litigation Reform Act of 1995 (the "Reform Act"), Image Innovations Holdings
Inc. (the "Company") is hereby providing cautionary statements identifying
important factors that could cause our actual results to differ materially from
those projected in forward-looking statements (as such term is defined in the
Reform Act) made by or on behalf of the Company herein, in other filings made by
the Company with the Securities and Exchange Commission, in press releases or
other writings, or orally, whether in presentations, in response to questions or
otherwise. Any statements that express, or involve discussions as to,
expectations, beliefs, plans, objectives, assumptions or future events or
performance (often, but not always, through the use of words or phrases such as
"will result," "are expected to," "anticipated," "plans," "intends," "will
continue," "estimated," and "projection") are not historical facts and may be
forward-looking; accordingly, such forward-looking statements involve known and
unknown risks, uncertainties and other factors that may cause the actual results
or performance of the Company to be materially different from any future results
or performance expressed or implied by such forward-looking statements. Such
known and unknown risks, uncertainties and other factors include, but are not
limited to, the following:
(i) history of operating losses;
(ii) competition in the marketplace;
(iii) dependence on current management and future ability to obtain
qualified management personnel;
iv) risks associated with expansion into additional markets where the
Company does not have a presence or ( significant market
penetration;
(v) the effect of economic conditions in the United States generally on
the Company's business;
(vi) the failure to manage growth properly and integrate acquired assets
and operations successfully;
(vii) the ability to secure outside financing at rates or on terms
acceptable to the Company;
viii) other factors which are described in further detail in the Company's
Annual Report on Form 10-KSB for the year ended December 31, 2004
and in other filings by the Company with the Securities and Exchange
( Commission.
The Company cautions that the factors described above could cause actual results
or outcomes to differ materially from those expressed in any forward-looking
statements made by or on behalf of the Company. Any forward-looking statement
speaks only as of the date on which such statement is made, and Image undertakes
no obligation to update any forward-looking statement or statements to reflect
events or circumstances after the date on which such statement is made or to
reflect the occurrence of unanticipated events. New factors emerge from time to
time, and it is not possible for management to predict all of such factors.
Further, management cannot assess the impact of each such factor on the business
or the extent to which any factor, or combination of factors, may cause actual
results to differ materially from those contained in any forward-looking
statements.
2
Overview
Image Innovations Holdings Inc., a Nevada corporation (the "Company", "our",
"us" or "we"), is in the business of selling high- and medium-value sports and
entertainment celebrity artwork and collectibles, and low-cost consumer items
branded under license with the logos of professional sport leagues and teams.
The Company has three wholly-owned subsidiaries (collectively referred to as
"Image Group"), as follows:
o Image Innovations Sports & Entertainment Inc., a Delaware corporation
("ISE"), sells celebrity artwork and collectibles through a targeted
distribution network. ISE is becoming a recognized leader in the fast
growing, multi-billion dollar industry of artwork collectibles. ISE has
retained some of the most recognized names in the celebrity art world,
including well-known artists, such as Carlo Beninati and Doug London, to
create celebrity artwork for sale and distribution.
o Image Innovations Inc., a Delaware corporation ("Image Innovations"), is
in the business of adding value to a wide variety of relatively low-cost,
but desirable, electronic products by endorsing them with the brand logos
of sports teams and leagues and/or other recognized trademarks. Image
Innovations creates, sources and markets these officially-licensed
electronic products.
o Imaging Innovations Sports and Entertainment Inc. , a New York corporation
("Imaging"), was incorporated to acquire a warehouse and storage facility
in Tannersville, New York, located near ISE's existing facility in
Tannersville. Both ISE and Image Innovations operate their fulfillment
centers from this facility. The facility is approximately 9,000 square
feet.
Current Developments
Celebrity Endorsement Agreement
Effective January 2005, ISE signed a three-year contract with Peyton Manning, a
leading NFL quarterback who ranks among the highest-achieving quarterbacks in
NFL history. Pursuant to the agreement, ISE will commission portraits of Mr.
Manning as well as have exclusive rights with respect to Mr. Manning's signature
on specific memorabilia to be distributed by ISE and certain non-exclusive
appearance rights. Under the agreement, ISE has agreed to pay Mr. Manning's
company, Pey Dirt, Inc., royalties as specified in the agreement, subject to
aggregate minimum royalty payments of $2.5 million, of which the first $1.25
million was paid in the first quarter of 2005.
Potential Acquisition of Art Company
The Image Group has executed a letter of intent for the acquisition of a
privately-owned art company that supplies art for sale through the cruise-line
industry. The Company believes that the synergy between ISE and the target
entity has the potential to augment the revenue base of ISE, while the
reputation of the target entity will greatly enhance the Image Group as a leader
in the fields of art and sport. Although negotiations for definitive
documentation are proceeding, there can be no assurance that this transaction
will be consummated.
Potential Distribution Arrangement
In conjunction with the above-mentioned potential acquisition, ISE is currently
in discussions with a major cruise line for an exclusive six-year agreement to
provide art for auctions on its entire fleet of twelve cruise ships. This
transaction, if consummated, has the potential to increase the distribution
ability of the Image Group and generate substantial additional revenues for ISE.
It would, however, require us to raise significant additional funding in order
to guarantee its performance obligations under the proposed arrangement, and
there can be no assurance that we would be able to raise such additional capital
on favorable terms, if at all. Even if we are able to raise the capital, there
can be no assurance that we will be able to consummate this distribution
agreement on favorable terms, or at all.
3
Title-4-Art and Title-4-Sports
The Image Group has conceived and developed a process to issue a registered
title to owners of fine art and memorabilia. The Image Group has received
approval from a major cruise line to register titles for all art and sports
memorabilia sold on their ships. The cruise line has estimated that it will
register approximately 150,000 titles with the Company in 2005. The proposed
cost to the purchaser of each title registration is is expected to be
approximately $40. The Image Group intends to market this concept not only to
the ships within our own distribution network but to other channels retailing
fine art and memorabilia. There can be no assurance that an agreement with the
cruise line will be consummated on favorable terms to the Company, if at all.
Formation of Sports Marketing and Management Division
The Image Group has formed a sports marketing and management division. It is
currently negotiating with the principals of Axiom Sports and Entertainment
Company to join the Image Group to assist in the management of this division.
The principals are Rob Raju, who has several years of experience in sports
management, and Ken Danekyo, a former player in the National Hockey League and a
member of the Image Group's advisory board. There can be no assurance that an
agreement with Axiom will be consummated on favorable terms to the Company, if
at all.
Operating Results
Results of Operations for the Three Months Ended March 31, 2005 as Compared with
the Three Months Ended March 31, 2004
Revenues
Our revenue, gross margin and overhead expenses for the three months ended March
31, 2005 are summarized as follows:
Three months ended Three months ended
March 31, 2005 March 31, 2004
------------------ ------------------
Revenue ISE $ 469,254 101% $174,115 96%
Revenue Image Innovations (4,752) -1% 6,853 4%
--------- --- -------- ---
Total Revenues $ 464,502 100% $180,968 100%
--------- --- -------- ---
Gross Profit ISE 375,893 130% 59,454 94%
Gross Profit Image Innovations (86,120) -30% 3,802 6%
--------- --- -------- ---
Total Gross Profit $ 289,773 100% $ 63,256 100%
========= === ======== ===
Revenue was $464,502 for the three months ended March 31, 2005, $180,968 for the
three months ended March 31, 2004, and $2,841,625 for the three months ended
December 31, 2004.
ISE produced revenue of $469,254 for the three months ended March 31, 2005 (as
compared with revenue of $174,115 for the three months ended March 31, 2004) and
gross margins during such period of $375,893 (as compared with gross margins of
$59,454 during the three months ended March 31, 2004). The increased revenue in
the first quarter of 2005 as compared with the first quarter of 2004 reflects
the expansion of our business operations inasmuch as we formed ISE in January
2004 but did not begin operations until early March 2004.
4
ISE's revenue was $2,807,172 for the three months ended December 31, 2004. The
significant decrease in revenue attributable to ISE for the three months ended
March 31, 2005, as compared with the last fiscal quarter ended December 31,
2004, is substantially the result of the nature of ISE's current principal
market, i.e., the cruise line industry, which traditionally purchases the
majority of its auction inventory in the second half of the year.
Image Innovations experienced losses principally as a result of a defective
shipment of helmet radios as well as the cancellation of the NHL 2004-2005
season. We reported negative revenues for the three months ended March 31, 2005
when the defective radios were returned and we issued credits for sales made in
2004. The radios can be repaired and we are considering the options to liquidate
this inventory. With respect to the cancellation of the current NHL season, NHL
products which we have previously taken delivery of are not selling as
previously anticipated. In addition, Image Innovations was required to make
minimum royalty payments of $81,071, resulting in a negative gross margin of
$86,120.
Expenses
We incurred expenses of $869,055 for the three months ended March 31, 2005
compared with $640,773 for the same period in 2004. The increased expenses as
compared with the comparable 2004 period reflect the expansion of our business
operations, particularly costs associated with ISE which operated for the full
quarter compared with one month in 2004. Expenses were partially offset by cost
saving measures introduced as a result of lower revenues.
Our combined payroll and consulting expenses were $330,050 for the three months
ended March 31, 2005, compared with $472,065 for the three months ended March
31, 2004. Our payroll and consulting expenses decreased by $142,015 compared
with the three months ended March 31, 2004. In 2004, the Company incurred a
one-time consulting fee in the amount of $297,836 related to the acquisition of
the MDK Sports inventory. The Company has also reduced operating expenses in
Image Innovations in response to lower revenues. We presently have 16 full-time
employees.
We incurred professional fees of $287,236 for the three months ended March 31,
2005, compared with $31,246 for the three months ended March 31, 2004. The
increase is related to the continued development of the Company as we employ
legal, accounting and other professionals. Legal fees increased by approximately
$25,000 related to the preparation of legal agreements to transact the Company's
business and to prepare and file the documents required to comply with
regulations related to our status as a public company. Accounting fees increased
by approximately $50,000 in connection with our retention of certified public
accountants to complement the Company's accounting staff. Other professionals
include retainers paid to artists contracted by ISE (approximately $110,000 of
the increase) and other professionals (approximately $65,000 of the increase) to
promote the Company and its products and to assist the Company in raising funds
to implement its business plans.
We incurred travel and entertainment expenses of $50,183 for the three months
ended March 31, 2005, compared with $66,974 for the three months ended March 31,
2004. Travel expenses were incurred in attending trade shows, establishing and
maintaining contacts for our distribution network, visiting customers,
coordinating and attending the signings of our memorabilia and limited edition
fine art creations by celebrities and our artists, and traveling between our
Vancouver office and our offices in Tannersville, New York and New York, New
York. Travel expenses in the first quarter of 2004 were slightly higher than in
the comparable period in 2005 as there was additional travel related to the MDK
Sports inventory acquisition completed by ISE.
5
Marketing and promotions expenses were $80,796 for the three months ended March
31, 2005, compared with $7,596 for the three months ended March 31, 2004, an
increase of $73,200. In 2005, ISE hosted events and participated in trade shows,
the two most significant of which were a signing with Peyton Manning and the Art
Expo held in New York.
We anticipate that our operating expenses will increase as we carry out our plan
of operations for continued growth.
Net Loss
We incurred a net loss of $579,282 for the three months ended March 31, 2005,
compared with $577,517 for the three months ended March 31, 2004. Our expenses
have increased as we have expanded our business operations.
Liquidity and Financial Condition
We had cash and cash equivalents of $3,707 as of March 31, 2005, compared with
$297,011 as of March 31, 2004.
We had working capital of approximately $4.3 million as of March 31, 2005,
compared with $3.5 million as of March 31, 2004. The approximately $800,000
increase is attributable to an approximately $2,320,000 increase in accounts
receivable (from $2,447,972 as of March 31, 2005, compared with $119,793 as of
March 31, 2004); an approximately $870,000 increase in prepaid expenses,
primarily relating to the prepayment of the Peyton Manning contract; and an
approximately $170,000 increase in inventory. These were partly funded by demand
loans of approximately $1,790,000, increased accounts payable and accrued
liabilities of approximately $640,000, and a decrease in cash of approximately
$140,000.
H.E. Capital S.A. ("H.E Capital") has been a major source of funding for the
Company to date. The Company has a loan agreement with H.E Capital for a
non-revolving secured $5 million dollar loan, bearing interest at 9% per annum
and due upon demand by H.E. Capital. As of April 11, 2005, $1.1 million was
outstanding under this loan agreement. Additionally, H.E Capital has invested
$1.5 million in the Company through a combination of conversion of debt and a
private placement.
The Company also issued a promissory note in the principal amount of $800,000 to
a third party on April 27, 2004, which note became due and payable on October
27, 2004. The note bears interest monthly at the rate of 18% per annum. At April
11, 2005, we had repaid $100,000 of the principal amount; the remaining $700,000
is past due and we are currently negotiating repayment terms with the lender.
The loan is secured by first lien against all the assets of the Company.
Historically, the Company has been financed primarily by loans from related
parties. The planned expansion of the business will require a variety of
financing sources, including new equity capital, long-and short-term debt and
the provision of third-party bonding for the Company's operational performance
obligations. The cost of such financing will be determined in part by our stock
price and in part by third party assessment of our operating prospects.
The Company operates subject to normal manufacturing financial profiles, except
that the nature of its product development requires it to build and accumulate
significant inventories. Similarly, its contractual arrangements with its sports
celebrities require it to make advance royalty payments in order to secure the
contracts. Its ability to retain new sports personalities is therefore subject
to the constraint as to the availability of funds.
As a young business with a limited history and a small equity capital base, the
Company has not yet been able to establish a high credit rating. As the
Company's operations grow in size and as new equity is introduced into the
business, we expect that we will be able to establish a higher credit rating,
although there can be no assurance that this will be achieved.
6
The Company has based its anticipated liquidity requirements on its operating
experience to date and on the business opportunities and negotiations in which
it is currently engaged. This liquidity requirement could be adversely affected
by various events outside the Company's control, such as an interruption in the
operations of the cruise line industry or the failure of, or any difficulties
suffered by, any of its customers. The Company intends to develop a spread of
distribution channels and customers to mitigate the effect on its liquidity of
any individual adverse factor.
Cash Flows
We used cash of $295,682 in operating activities during the three months ended
March 31, 2005, compared with $363,860 for the period ended March 31, 2004.
Loan Agreement
We entered into a loan agreement on April 27, 2004 with Coach Capital LLC
pursuant to which we borrowed $800,000 for a six-month term. Under the loan
agreement, we agreed to pay interest on the principal amount borrowed at the
rate of 10% per annum payable monthly for the first four months of the term and
at the rate of 18% per annum thereafter. We also agreed to pay a loan fee of
$8,000. Further, we have agreed to grant a first lien against our assets as well
as the assets of ISE, and have agreed not to grant any additional liens against
such assets without the prior written consent of Coach Capital. As of March 31,
2004, the Company had repaid $100,000 of the principal amount of such loan; the
remaining $700,000 was past due and the Company is negotiating repayment terms
with the lender. The Company is continuing to accruing interest at the rate of
18% per annum.
H.E. Capital
We have been largely dependent upon H.E. Capital to fund the business of the
Company to date. H.E. Capital entered into a loan agreement with the Company
dated January 14, 2003 ("the Loan Agreement") and has since entered into various
agreements amending and increasing the amount available to be advanced under
Loan Agreement to $5 million. Under the terms of the Loan Agreement, the loans
accrued interest at the rate of 9% per annum and are repayable upon demand. The
loans were secured by a general security agreement granted by the Company
against all of its assets. H.E. Capital consented to the Coach Capital loan and
their security interest subordinated to the Coach Capital security.
As of March 31, 2005 H.E. Capital had advanced $1,097,446 to the Company
compared with $8,904 at March 31, 2004. On March 25, 2004, we repaid $400,000
owing to H.E. Capital at that time by the issuance of shares and share purchase
warrants. H.E. Capital agreed to cancel, surrender and forgive all interest
accrued on the indebtedness of $400,000 that was converted into shares and share
purchase warrants. On September 30, 2004, we repaid $900,000 owing to H.E.
Capital when H.E Capital exercised 600,000 of the warrants they acquired in
December 2003, to purchase common shares at $1.50. H.E. Capital agreed to
cancel, surrender and forgive all interest accrued on this indebtedness of
$900,000 in payment of the balance owed in relation to the exercise of the
600,000 warrants.
H.E. Capital shared common officers and directors with the Company from the date
of the Company's acquisition of Image Innovations Inc. until they resigned their
positions with the Company on February 24, 2004.
There is no assurance that H.E. Capital will advance any additional amounts to
us in order to continue to fund our business or that they will not demand
repayment.
7
Requirement of Additional Financing to fund Plan of Operations
We anticipate that we will require approximately $6 million over the next twelve
months in order to continue our operations as presently contemplated. Our
ability to generate revenues will depend on our ability to obtain financing to
fund our operations and our success in expanding our business. The Company is
currently in discussions with a number of sources with respect to potential
financing to fund our operations. Several of these sources have made financing
proposals to the Company for debt, equity or a combination of the two, and we
are actively pursuing these proposals. However, there can be no assurance that
any of these proposals will lead to fruition or that the required funding will
be obtained in order to enable us to carry out our continuing operations. In the
event that we are unable to secure adequate financing on acceptable terms, we
may be compelled to cease or significantly curtail our operations, or
alternatively, seek protection in bankruptcy.
Critical Accounting Policies
General
In accordance with accounting principles generally accepted in the United States
("GAAP"), we record certain assets at the lower of cost and fair value. In
determining the fair value of certain of our assets, we must make judgments,
estimates and assumptions regarding circumstances or trends that could affect
the value of those assets, such as economic conditions. Those judgments,
estimates and assumptions are made based on current information available to us
at that time. Many of those conditions, trends and circumstances are outside our
control and if changes were to occur in the events, trends or other
circumstances on which our judgments or estimates were based, we may be required
under GAAP to adjust those of our earlier estimates that are affected by those
changes. Changes in such estimates may require that we reduce the carrying value
of the affected assets on our balance sheet (which are commonly referred to as
"write downs" of the assets involved).
It is our practice to establish reserves or allowances to record downward
adjustments or "write-downs" in the carrying value of assets, such as accounts
receivable and inventory. Such write-downs are recorded as charges to income or
increases in expense in our statement of operations in the periods when such
reserves or allowances are established or increased to take account of changed
conditions or events. As a result, our judgments, estimates and assumptions
about future events can, and will, affect not only the amounts at which we
record such assets on our balance sheet, but also our results of operations.
In making our estimates and assumptions, we follow GAAP and accounting practices
applicable to our business and those that we believe will enable us to make fair
and consistent estimates of the fair value of assets and establish adequate
reserves or allowances. Set forth below is a summary of the accounting policies
that we believe are material to an understanding of our financial condition and
results of operations.
Revenue Recognition
The Company's revenues are derived principally from the sale of limited edition
fine art prints, sports memorabilia by ISE and licensed products by Image
Innovations. Revenues are recognized upon delivery and acceptance of the product
to the customers.
ISE has a small number of large transactions, typically over $100,000 each.
Sales transactions are recorded when the product is delivered to the customer.
Credit terms vary significantly and are dependent on agreements with individual
customers.
Image Innovations has a large volume of small sales, typically under $5,000
each. Sales transactions are recorded automatically and posted to the general
ledger from the invoice produced by the inventory sub-ledger when shipment of
the product is completed. Invoices and sales returns are reconciled monthly.
Each Image Innovation customer completes a credit application and a credit check
is completed before credit is granted. Credit terms vary between 30 and 45 days
and are dependent on the size of the customer.
Inventory
Image Innovations inventory consists of a large volume of low-value, battery
operated items, typically valued below $10 each. All of our products are
manufactured in China. Our inventory is valued at the lower of cost or market
value. We need rapid inventory turnover to ensure that the product is delivered
with a battery in good working condition. We establish an allowance as soon as
we determine that our inventory value is impaired.
8
ISE inventory consists of high-value items that typically increase in value with
time. Such inventory is a mix of memorabilia that we have purchased and
memorabilia that we have created. The items that are purchased are recorded at
the purchase price. We commission established artists to produce authenticated
limited edition products of well-known sports and entertainment figures. The
products feature the personal signatures of both the artist and celebrity. These
items are valued on a project cost basis under which the cost of the artist, the
costs associated with the contract with the celebrity, and the costs associated
with the creation of the limited editions are accumulated and assigned to the
units produced. Annually, we hire independent appraisers with expertise in
sports and entertainment memorabilia to value our inventory and we record any
impairment in the value of each item appraised by reducing the carrying value of
that item in our inventory records.
Stock based transactions
We have concluded various transactions where we paid the consideration in shares
of our common stock, and/or warrants or options to purchase our common stock.
These transactions include:
o Acquiring the services of various professionals who provided the
Company with a range of corporate consultancy services, including
developing business and financial models, financial advice,
strategic planning, development of business plans, investor
presentations, identifying, structuring and negotiating potential
mergers and acquisition transactions, and advice and assistance in
connection with the preparation of registration statements and other
SEC filings.
o Retaining the services of our Advisory Board to promote the
celebrity image memorabilia business of ISE. o Settlement of
indebtedness of the Company. o Purchasing sports memorabilia
inventory.
o Providing incentives to attract, retain and motivate employees,
officers, directors and consultants of the Company or of any
subsidiary who are important to the success of the Company and its
subsidiaries.
When our stock is used in transactions, the transactions are generally valued
using the price of the shares being transferred at the time the shares are
issued for the services provided, except where the transaction is so large that
the number of shares transferred is significantly higher than the historical
trading activity in the Company's stock. In these circumstances, if the value of
the asset or service being acquired is available and is believed to fairly
represent its market value, the transaction is valued using the value of the
asset or service being provided.
When options or warrants to purchase our stock are used in transactions with
third parties, the transaction is recorded using the Black-Scholes valuation
method. The Black-Scholes valuation method is widely accepted as providing the
fair market value of an option or warrant to purchase stock at a fixed price for
a specified period of time. Black-Scholes uses five variables to establish
market value of stock options or warrants: (i) strike price (the price to be
paid for a share in the company's stock), (ii) price of the company's stock on
the day the options or warrants are granted, (iii) number of days that the
options or warrants can be exercised before they expire, (iv) trading volatility
of the company's stock, and (v) annual interest rate on the day the option or
warrant is granted.
9
When options or warrants to purchase our stock are used as incentives for
employees, officers or directors, we use the intrinsic value method in
accordance with the recognition and measurement principles of Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," as
permitted by Statement of Financial Accounting Standards ("SFAS") No. 123. The
intrinsic value method calculates the value of the option or warrant at the
difference between the strike price and the market price of the stock on the day
the option or warrant is granted, except that such value is zero if the strike
price is equal to or higher than the market price of the stock.
Once the cost is recognized, GAAP requires us to record the transaction value as
an expense or asset as determined by the transaction and to record an increase
in paid-up capital of the Company.
ITEM 3. CONTROLS AND PROCEDURES.
Under the supervision and with the participation of our management, including
our Chief Executive Officer and Chief Financial Officer, we conducted an
evaluation of the effectiveness of the design and operation of our disclosure
controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the
Securities Exchange Act of 1934) as of the end of the period covered by this
report (the "Evaluation Date"). This evaluation was carried out under the
supervision and with the participation of our Chief Financial Officer, who was
also performing the function of our principal executive officer at that time. We
did not have a chief executive officer at the time we performed such evaluation.
Based upon that evaluation, our management concluded that our disclosure
controls and procedures were not as effective as they should be with respect to
timely alerting management to material information required to be included in
our periodic SEC filings. Specifically, our internal reporting processes and
procedures did not ensure that full, accurate and timely disclosure of matters
required to be reported to the SEC in our periodic filings were made.
Nevertheless, our management has determined that all matters required to be
disclosed in this report have been reported. We are in the process of diligently
developing processes and procedures to assure full, accurate and timely
disclosure in the current fiscal year, with the expectation of establishing
effective disclosure controls and procedures as soon as reasonably practicable.
PART II--OTHER INFORMATION
ITEM 6. EXHIBITS
Exhibit Number
- -------------- --------------------------------------------------------------
10.1 Employment Agreement dated as of April 14, 2005 between the
Company and Michael Preston.
31.1 Certification of Chief Executive Officer required by Rule
13a-14(a) or Rule 15d-14(a).
31.2 Certification of Chief Financial Officer required by Rule
13a-14(a) or Rule 15d-14(a).
32.1 Certification of Chief Executive Officer required by Rule
13a-14(b) or 18 U.S.C. 1350.
32.2 Certification of Chief Financial Officer required by Rule
13a-14(b) or 18 U.S.C. 1350.
- --------------------------------------------------------------------------------
10
SIGNATURES
In accordance with the requirements of the Securities and Exchange Act of
1934, the Registrant caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
IMAGE INNOVATIONS HOLDINGS INC.
Date: May 23, 2005
By: /s/ Michael Preston
-------------------
MICHAEL PRESTON
Chief Executive Officer
By: /s/ Derick Sinclair
-------------------
DERICK SINCLAIR
Chief Financial Officer
11