Form 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington D.C.
(X) Quarterly Report Pursuant to Section 13 or 15(d) of
the Securities Exchange Act of 1934
For the Quarterly Period Ended September 30, 1998 Commission File No. 0-26884
NETTER DIGITAL ENTERTAINMENT, INC.
(exact name of registrant as specified in charter)
Delaware 95-3392054
(State or other (I.R.S. Employer
jurisdiction of incorporation) Identification No.)
5125 Lankershim Blvd.
North Hollywood, California 91601
(Address of principal executive office)
Registrant's telephone number, including area code: 818/753-1990
Indicate by check mark whether the Registrant (1) has 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 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 November 9, 1998 the Registrant had 3,334,405 shares of its Common Stock,
$.01 par value, issued and outstanding.
NETTER DIGITAL ENTERTAINMENT, INC. AND SUBSIDIARIES
FORM 10-Q
September 30, 1998
INDEX
PART I. FINANCIAL INFORMATION
PAGE
Item 1. Financial Statements (Unaudited) NUMBER
------
Consolidated Balance Sheets as of September 30, 1998
and June 30, 1998. 3
Consolidated Statements of Operations for the
three-month periods ended September 30, 1998 and
September 30, 1997. 4
Consolidated Statements of Cash Flows for the
three-month periods ended September 30, 1998 and
September 30, 1997. 5
Notes to Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 7-10
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K 10
Signatures 11
Page 2 of 11
PART 1. FINANCIAL INFORMATION
Item 1. Fiancial Statements
NETTER DIGITAL ENTERTAINMENT, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
SEPTEMBER 30, JUNE 30,
1998 1998
------------- -------------
(Unaudited)
<S> <C> <C>
ASSETS
------
CURRENT ASSETS:
Cash and cash equivalents $ 1,206,073 $ 1,634,809
Accounts receivable, net of allowance of $46,000 2,366,482 2,285,011
Due from officer 155,897 155,897
Inventory 1,945,119 1,631,025
Production costs, net 257,021 251,632
Other 126,686 134,537
-------------- -------------
TOTAL CURRENT ASSETS 6,057,278 6,092,911
EQUIPMENT, net 3,265,265 3,157,394
GOODWILL, net 1,912,357 1,938,434
DEPOSITS AND OTHER ASSETS 415,842 333,760
-------------- -------------
$ 11,650,742 $ 11,522,499
============== =============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable and production fee advances $ 2,382,723 $ 2,304,092
Accrued expenses 271,816 265,582
Deferred revenue 852,223 1,106,957
Due to stockholder 36,497 36,497
Credit facilities 635,717 525,717
Current portion of capital lease obligations 823,328 734,329
-------------- -------------
TOTAL CURRENT LIABILITIES 5,002,304 4,973,174
-------------- -------------
CAPITAL LEASE OBLIGATIONS 1,348,606 1,337,186
MINORITY INTEREST 500 500
-------------- -------------
STOCKHOLDERS' EQUITY :
Preferred stock, $.001 par value, 2,000,000 shares
authorized; 54,550 shares issued and
outstanding 328,585 304,366
Common stock, $.01 par value, 20,000,000 shares
authorized; 3,334,405 shares issued and
outstanding 33,344 33,344
Additional paid-in capital 4,726,171 4,726,171
Retained Earnings 211,232 147,758
-------------- -------------
TOTAL STOCKHOLDERS EQUITY 5,299,332 5,211,639
-------------- -------------
$ 11,650,742 $ 11,522,499
============== ==============
<FN>
<FN1>
The accompanying notes are an integral part of the
consolidated financial statements.
</FN>
</TABLE>
Page 3 of 11
NETTER DIGITAL ENTERTAINMENT, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
Three Months Ended September 30,
---------------------------
1998 1997
---------------------------
(Unaudited) (Unaudited)
REVENUES:
Production $ 6,887,621 $ 5,844,337
Sales 999,506 929,533
------------ ------------
TOTAL REVENUES 7,887,127 6,773,870
------------ ------------
EXPENSES:
Production 5,989,455 5,114,389
Cost of goods sold 529,909 458,737
General and administrative 1,189,356 1,106,792
Amortization of goodwill 26,078 26,078
------------ ------------
TOTAL EXPENSES 7,734,798 6,705,996
------------ ------------
OPERATING INCOME 152,329 67,874
------------ ------------
OTHER INCOME (EXPENSE):
Interest income 3,020 9,910
Interest (expense) (60,612) (53,759)
Other income 5,834 8,026
------------ ------------
TOTAL OTHER INCOME (EXPENSE) (51,758) (35,823)
------------ ------------
INCOME BEFORE PROVISION FOR
INCOME TAXES 100,571 32,051
PROVISION FOR INCOME TAXES 23,000 18,500
------------ ------------
NET INCOME $ 77,571 $ 13,551
============ ============
Cumulative preferred stock dividend 14,097 10,611
Net Income to common shareholders $ 63,474 $ 2,940
============ ============
Net Income per common share-basic
and assuming dilution $ 0.02 $ 0.00
============ ============
Weighted average common shares outstanding 3,334,405 3,327,742
============ ============
The accompanying notes are an integral part of the
consolidated financial statements.
Page 4 of 11
NETTER DIGITAL ENTERTAINMENT, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Three Months Ended September 30,
------------------------------
1998 1997
------------- -------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 77,571 $ 13,551
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation 208,145 108,583
Amortization 26,078 26,078
Changes in operating assets and liabilities:
(Increase) in accounts receivable (81,471) (608,447)
Decrease/(Increase) in other current assets 7,851 (32,363)
(Increase) in inventory (314,094) (226,822)
(Increase) in production costs (5,389) (10,966)
(Increase)/Decrease in deposits and other assets (82,082) 54,865
Increase/(Decrease) in accounts payable 78,631 (899,134)
Increase/(Decrease) in accrued expenses 6,234 (24,114)
Decrease in deferred revenue (254,734) (158,863)
--------------- ---------------
(410,831) (1,771,183)
--------------- ---------------
NET CASH USED IN OPERATING ACTIVITIES (333,260) 1,757,632
--------------- ---------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures (55,475) (54,345)
--------------- ---------------
NET CASH USED IN INVESTING ACTIVITIES (55,475) (54,345)
--------------- ---------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from line of credit 130,000 537,259
Notes payable principal payments (20,000) (42,990)
Principal payments of capital lease obligations (150,001) (46,539)
--------------- ---------------
NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES (40,001) 447,730
--------------- ---------------
NET DECREASE IN CASH (428,736) (1,364,247)
Cash, beginning of period 1,634,809 2,574,522
--------------- -------------
Cash, end of period $ 1,206,073 $ 1,210,275
=============== ===============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the year for:
Cash paid for interest $ 60,612 $ 53,759
Cash paid for income taxes $ 38,000 $ 9,800
Noncash activity:
Stock issued for legal fee settlement $ - $ 50,000
Stock dividend $ 14,097 $ 10,611
Purchase of equipment through leases payable $ 250,212 $ 531,531
<FN>
<FN1>
The accompanying notes are an integral part of the
consolidated financial statements.
</FN>
</TABLE>
Page 5 of 11
NETTER DIGITAL ENTERTAINMENT, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
BASIS OF PREPARATION
The accompanying audited and unaudited consolidated financial statements have
been prepared in accordance with generally accepted accounting principles for
interim financial statements and with the instructions to Form 10-Q and Article
10 of Regulation S-X. Accordingly, they do not include all of the information
and disclosures required for annual financial statements. These financial
statements should be read in conjunction with the consolidated financial
statements and related footnotes for the year ended June 30, 1998 included in
the Form 10-KSB for the year then ended.
In the opinion of the Company's management, all adjustments (consisting of
normal recurring accruals) necessary to present fairly the Company's financial
position as of September 30, 1998, and the results of operations and cash flows
for the three-month periods ended September 30, 1998 and 1997 have been
included.
The results of operations for the three-month period ended September 30, 1998,
are not necessarily indicative of the results to be expected for the full fiscal
year. For further information, refer to the consolidated financial statements
and footnotes thereto included in the Company's Form 10-KSB as filed with the
Securities and Exchange Commission for the year ended June 30, 1998.
DUE FROM OFFICER/RECEIVABLE FROM RELATED PARTY
On November 20, 1995, the Company's Chief Executive Officer entered into a
promissory note with the Company in the amount of $194,876, bearing interest at
7.25% per annum. The remaining unpaid principal balance of $155,897 and accrued
interest of $2,825 is due on May 20, 1999. The Board of Directors has agreed to
allow the note to be repaid in shares of the Company's Common stock. The stock
repayment required is 110% of the outstanding loan amount which will be priced
at the fair market value on the date of repayment.
Page 6 of 11
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
General
The Company is engaged in three primary business activities:
- -Entertainment Production. The Company is engaged in the acquisition,
development and production of television series, made-for-television movies,
documentaries, theatrical motion pictures and multimedia products (collectively
and individually referred to as the "Productions" or "Projects"). The Company
specializes in combining live action film production with computer graphics and
other digital imaging in the creation of dramatic series, documentaries, and
children's programming utilizing state-of-the-art entertainment production
technology. The Company has produced the award winning series "Babylon 5" and
is currently producing a follow-on series entitled "Crusade." With its recent
work on the children's series, "Voltron: The Third Dimension" ("Voltron"), the
Company is at the forefront of the fully animated or animation intensive
production market for television. The Company's general practice has been to
sell or license its Productions under a production contract with a major
entertainment studio or distributor who is responsible for the production costs
of the Production. The Company has also established an objective to retain
greater equity participation in the projects it produces by increasing its
overhead and equity commitments for future projects (see "Liquidity and Capital
Resources" below).
- -Computer Animation and Visual Effects Production Services. As an outgrowth of
its traditional core business of developing and producing media Productions, the
Company has entered the business of providing digital media production services
to outside clients. In support of its own Productions, especially "Babylon 5"
and "Crusade," the Company has developed significant expertise in computer
graphics production, digital post-production and various other digital imaging
techniques. The quality and popularity of the Company's productions has created
industry-wide recognition of its creative and technical skills in these areas.
The Company believes that an active market exists for projects requiring
creative, high quality, cost effective digital graphics and effects. In order
to more fully exploit its strengths in these areas, the Company formed the
Netter Digital Technologies Division (or "production services") to market
computer graphics and digital post-production services to outside clients.
The Company is increasing its efforts in this area and will continue to bid on
numerous outside projects on a larger scale, including feature films, television
mini-series and commercials.
- -Videssence Lighting Products. The Company's Videssence subsidiary manufactures
and distributes media lighting products which incorporate its patented SRGB(tm)
lighting technology. These products are used for the illumination of studios,
stages and other production environments in the sound stage, motion picture,
theater and theme park industries, as well as in the video conferencing,
distant learning, and pre-press digital photography markets. With the
introduction of new technology in the middle of fiscal 1998, Videssence products
are now suitable for all media production lighting applications using either
film or video platforms. The Company's high-tech fluorescent lights consume
significantly less electricity than traditional incandescent production lighting
products while generating greatly reduced amounts of heat. Thus, these lights
are more comfortable for the talent working under them and can generate
significant electricity and air-conditioning related savings. The Company
markets its lighting products in the USA and internationally through a network
of manufacturer's representatives, distributors, dealers, and direct sales
staff.
Page 7 of 11
Results of Operations
Revenues. The Company's revenues increased to approximately $7.89 million for
the first quarter ended September 30, 1998, an increase of 16.4%, as compared to
approximately $6.77 million for for the quarter ended September 30, 1997. This
increase resulted primarily from approximately $1.35 million in additional
revenues generated from the Company's Netter Digital Technologies Division.
These revenues resulted primarily from the Company's work on "Voltron" and the
video game for "Sega," but also can be attributed to the growth of the Division
as a whole over the year. This increase was partially offset by a $350,000
decrease in revenues from the "Babylon 5," "Crusade," and related movies
productions as compared to the same period of the prior year. These variations
are the result of production timing, as total production budgets are similar.
The remaining $120,000 of increased revenues came from Videssence and the
Company's "Babylon 5" Fan Club.
Gross Margin. The Company's gross profit for the quarter ended September 30,
1998 was approximately $1.37 million, or 17.3% of revenues, as compared to
approximately $1.20 million, or 17.7% of revenues, for the quarter ended
September 30, 1997. This decrease in gross margin resulted from a decrease in
Videssence's gross margin to 47.0% during the quarter ended September 30, 1998,
as compared to 50.7% during the quarter ended September 30, 1997. This
decrease was primarily due to the expansion of the dealer network during the
sales restructuring in fiscal 1998 and a change in the product mix of sales to
incorporate the new products developed in the middle of fiscal 1998 which have
somewhat lower gross margins. This Videssence decrease was partially offset by
an increase in gross margin from the Company's entertainment production and
production services activities to 13.0% this quarter, as compared to 12.5% for
the same period in the prior year, primarily due to additional revenues from the
Netter Digital Technologies Division which realizes higher gross margins than
the entertainment production business.
General and Administrative Expenses. General and administrative expenses as a
percentage of net revenues decreased to 15.1%, or approximately $1.19 million,
during the quarter ended September 30, 1998 as compared to 16.3%, or
approximately $1.11 mllion, during the quarter ended September 30, 1997. This
decrease resulted from the economies of scale realized by the Company as it
brought in additional work in its Netter Digital Technologies Division, thereby
spreading similar general and administrative expenses over an expanded revenue
base.
Operating Income (Loss). The Company achieved operating incomes of
approximately $152,000 and $68,000 for the quarters ended September 30, 1998 and
September 30, 1997, respectively. For the quarter ended September 30, 1998,
operating income of approximately $250,000 from the Company's entertainment
production and production services activities (as compared to $191,000 in the
quarter ended September 30, 1997) offset an operating loss of approximately
$98,000 at its Videssence operation (as compared to $123,000 in the prior
period). The improvement in operating income resulted primarily from production
services for the new "Voltron" television series. The operating loss at
Videssence can be attributed to lower than expected sales.
Page 8 of 11
Other Income and Expenses. Interest income decreased to $3,020 for the quarter
ended September 30, 1998 compared to $9,910 for the same prior year period, as
proceeds from the Company's November 1995 initial public offering were fully
drawn from short term investments and used for working capital for Videssence by
the end of the Company's fiscal year ended June 30, 1998. Interest expense
increased to $60,612 for the quarter ended September 30, 1998 from $53,759 in
the same period of the previous year due to the Company's further utilization of
capital lease lines for continued expansion of its computer animation and visual
effects facilities.
Liquidity and Capital Resources
The Company has funded its operations to date primarily through cash flows from
operations, its initial public offering of Common Stock and Warrants completed
in November 1995 which generated net proceeds of approximately $3.2 million, and
a February 1997 preferred stock placement which raised $424,000 in gross
proceeds. With respect to production costs for particular entertainment
Projects, production contracts are entered into with studios, networks and
distributors who cover 100% of the production funding. Such production funds
are received by the Company during the production stage of a Project. To date,
the Company has been able to secure production financing from a major studio,
network or distributor for all of its Projects. While the Company believes that
similar financing arrangements can be made for future productions, there
can be no assurance that the Company will be successful in obtaining such
production financing. In that event, the Company would have to secure
alternative sources for financing Projects. Moreover, as the Company continues
to develop new forms of high technology production activities and projects for
new entertainment ancillary markets, it may elect to make additional overhead
and equity commitments for these new projects. These potential new financial
commitments, if pursued, could create additional risk for the Company as to
whether it will recover the costs of its investment and generate a profit.
During the quarter ended September 30, 1998 and September 30, 1997,
respectively, the Company derived approximately 79% and 90% of its
entertainment production revenues from its agreements with Warner Bros. relating
to the production of the "Babylon 5" series, "Crusade" series, and the
associated made for television movies. If the "Crusade" series is not renewed
through an additional agreement extension after the first season and the Company
is unable to replace the series with one generating comparable revenues, the
Company's financial condition and operations could be materially adversely
affected.
Cash used in operating activities was approximately $333,000 for the
three-months ended September 30, 1998. The biggest uses of cash were a build-up
of inventory at Videssence and a decrease in deferred revenue as the Company
used pre-billed funds for production.
Effective July 1997, the Company's Videssence subsidiary obtained a $750,000
line of credit with a bank, guaranteed by the Company, which required monthly
payments of interest on outstanding principal amounts at 2% above the bank's
reference rate. The loan agreement also requires the Company to comply with
certain restrictive covenants, including maintaining a minimum working capital
and specific financial ratios. As of September 30, 1998, the Company owed an
outstanding principal amount of approximately $588,000 on such line.
Management believes that its present cash position and overall liquidity will
enable the Company to meet its operating commitments for the next twelve months.
As of September 30, 1998, the Company's sources of liquidity included cash and
cash equivalents totaling approximately $1.2 million, of which approximately
$400,000 is contractually committed to fund specific Projects. The Company has
approximately $672,000 of outstanding debt and approximately $2,172,000 of
outstanding capital leases as of September 30, 1998. The Company uses capital
leases primarily for equipment additions to its in-house post-production and
graphics/animation facilities.
Page 9 of 11
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
(a.) Exhibits
Exhibit Description
------- -----------
27 Financial Data Schedule. (1)
----------------------
(1) Filed herewith.
(b.) Reports on Form 8-K
None.
Page 10 of 11
SIGNATURE
Pursuant to the requirements of the Securities Act of 1934, the Registrant has
duly caused this report to be signed on its behalf by the undersigned thereunto
duly authorized.
NETTER DIGITAL ENTERTAINMENT, INC.
Registrant
Dated: November 13, 1998 By: /s/Chad Kalebic
-------------------
Chad Kalebic
Chief Financial Officer
Page 11 of 11
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> JUN-30-1999
<PERIOD-END> SEP-30-1998
<CASH> 1,206,073
<SECURITIES> 0
<RECEIVABLES> 2,412,719
<ALLOWANCES> (46,237)
<INVENTORY> 1,945,119
<CURRENT-ASSETS> 6,057,278
<PP&E> 4,257,590
<DEPRECIATION> (992,325)
<TOTAL-ASSETS> 11,650,742
<CURRENT-LIABILITIES> 5,002,304
<BONDS> 0
0
328,585
<COMMON> 33,344
<OTHER-SE> 4,726,171
<TOTAL-LIABILITY-AND-EQUITY> 5,299,332
<SALES> 999,506
<TOTAL-REVENUES> 7,887,127
<CGS> 529,909
<TOTAL-COSTS> 6,519,364
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 60,612
<INCOME-PRETAX> 100,571
<INCOME-TAX> 23,000
<INCOME-CONTINUING> 77,571
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 77,571
<EPS-PRIMARY> .02
<EPS-DILUTED> .02
</TABLE>
