Securities and Exchange Commission
Washington, D.C. 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 June 30, 1998
OR
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from _________ to ________
Commission file number 1-13469
Audio Book Club, Inc.
- --------------------------------------------------------------------------------
(Exact name of Small Business Issuer as specified in its charter)
Florida 65-0429858
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(State or other jurisdiction of (I.R.S. Employment
incorporation or organization) Identification No.)
2295 Corporate Blvd., N.W., Suite 222, Boca Raton, Florida 33431
- --------------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
Issuer's telephone number, including area code: (561) 241-1426
--------------
Check whether the Issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 12 months (or for shorter period
that the registrant was required to file such report) and (2) has been subject
to such filing requirement for the past 90 days.
Yes _X_ No___
As of August 3, 1998, there were 6,153,920 shares of the Issuer's Common Stock
outstanding.
Transitional Small Business Disclosure Format (check one):
Yes ___ No _X_
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Audio Book Club, Inc.
Quarter ended June 30, 1998
Form 10-QSB
Index
Page
----
PART I: Financial Information.
Item 1: Financial Statements.
Balance Sheet at June 30, 1998 (unaudited) 3
Statements of Operations for the three months ended June 30,
1997 and 1998 and the six months ended June 30, 1997 and 1998
(unaudited) 4
Statements of Cash Flows for the six months ended June 30, 1997
and 1998 (unaudited) 5
Notes to Financial Statements 6
Item 2: Management's Discussion and Analysis of Financial Condition
and Results of Operations 11
PART II:
Item 1: Legal Proceedings 18
Item 2: Changes in Securities and Use of Proceeds 18
Item 4: Submission of Matters to a Vote of Security Holders 19
Item 6: Exhibits and Reports on Form 8-K 19
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Part I Financial Information
Item 1. Financial Statements
AUDIO BOOK CLUB, INC.
Balance Sheet
June 30, 1998
(Unaudited)
<TABLE>
<CAPTION>
Assets
<S> <C>
Current assets:
Cash and cash equivalents $ 4,532,663
Short term investments to be held to maturity 504,166
Accounts receivable, net of allowances for sales returns
and doubtful accounts of $653,487 2,968,520
Inventory 1,930,845
Royalty advances 233,049
Prepaid expenses 538,846
Web site development - current 134,326
-----------
Total current assets 10,842,415
Prepaid expenses - non-current 179,906
Web site development - non-current 330,822
Fixed assets and software, at cost, net of
accumulated depreciation of $27,474 116,216
-----------
$11,469,359
===========
Liabilities and Stockholders' Equity
Current liabilities:
Accounts payable $ 2,954,327
Accrued expenses 750,046
-----------
Total current liabilities 3,704,373
-----------
Commitments and contingencies
Stockholders' equity:
Preferred Stock, no par value, authorized 5,000,000 shares;
no shares issued and outstanding
Common stock; no par value, authorized 25,000,000 shares;
6,153,920 issued and outstanding 25,741,063
Contributed capital 640,217
Accumulated deficit (18,616,294)
-----------
Total stockholders' equity 7,764,986
-----------
$11,469,359
===========
</TABLE>
See accompanying notes to financial statements.
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AUDIO BOOK CLUB, INC.
Statements of Operations
(Unaudited)
<TABLE>
<CAPTION>
Three months ended June 30, Six months ended June 30,
1997 1998 1997 1998
----------------------------- --------------------------
<S> <C> <C> <C> <C>
Sales $ 3,502,928 5,646,926 6,499,331 10,412,165
Returns, discounts and allowances 723,420 1,516,534 1,409,289 2,752,007
----------- ----------- ----------- -----------
Sales, net 2,779,508 4,130,392 5,090,042 7,660,158
Cost of sales 1,479,765 2,511,881 2,810,548 5,110,221
----------- ----------- ----------- -----------
Gross profit 1,299,743 1,618,511 2,279,494 2,549,937
Expenses:
Advertising and promotion (for
acquisition 2,050,378 2,175,956 2,249,737 3,685,288
and retention of members)
General and administrative 372,321 474,609 725,777 1,000,987
Professional fees 72,602 60,916 152,535 185,891
Depreciation and amortization 3,295 5,680 4,678 10,927
----------- ----------- ----------- -----------
Operating (loss) (1,198,853) (1,098,650) (853,233) (2,333,156)
Interest (expense) income (200,800) 82,252 (314,645) 190,790
----------- ----------- ----------- -----------
Net (loss) $(1,399,653) (1,016,398) (1,167,878) (2,142,366)
=========== =========== =========== ===========
Net (loss) per share of common
stock $ (.43) (.17) (.36) (.35)
=========== =========== =========== ===========
</TABLE>
See accompanying notes to financial statements.
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AUDIO BOOK CLUB, INC.
Statements of Cash Flows
(Unaudited)
<TABLE>
<CAPTION>
Six months ended June 30,
1997 1998
---- ----
<S> <C> <C>
Cash flows from operating activities:
Net (loss) $(1,167,878) (2,142,366)
Adjustments to reconcile net loss to net cash used in operating
activities:
Depreciation and amortization 4,678 10,927
Imputed interest on notes payable - related parties 246,826
Changes in asset and liability accounts:
(Increase) in accounts receivable, net (1,198,356) (1,185,064)
Decrease in due from related party 20,000
(Increase) in inventory (259,603) (230,471)
(Increase) in prepaid expenses (424,700)
(Increase) in prepaid expenses - non-current (29,937)
(Increase) decrease in royalty advances (23,775) 34,469
(Increase) in web site development - current (134,326)
Increase in accounts payable and accrued expenses 1,206,234 687,705
----------- -----------
Net cash (used in) operating activities (1,171,874) (3,413,763)
----------- -----------
Cash flows (used in ) from investing activities:
Maturity of short-term investment 5,143,699
Purchase of short-term investment (500,000)
Interest earned on short-term investment (4,166)
Increase in web site development - non-current (330,822)
Acquisition of fixed assets and software (6,127) (67,338)
----------- -----------
Net cash (used in) from investing activities (6,127) 4,241,373
----------- -----------
Cash flows from financing activities:
Proceeds from issuance of notes payable - related parties 1,295,000
Repayment of notes payable - related parties (6,000,000)
Proceeds from issuance of bank debt 6,000,000
Prepaid loan costs (10,000)
Deferred offering costs (85,000)
Proceeds of issuance of option 50,000
----------- -----------
Net cash provided by financing activities 1,200,000 50,000
----------- -----------
Net increase in cash and cash equivalents 21,999 877,610
Cash and cash equivalents at beginning of period 92,856 3,655,053
----------- -----------
Cash and cash equivalents at end of period 114,855 4,532,663
=========== ===========
</TABLE>
See accompanying notes to financial statements.
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Audio Book Club, Inc.
Notes to Financial Statements
(Information at June 30, 1998 and for the three months
and six month periods ended June 30, 1997
and 1998 is unaudited)
(1) Organization
Audio Book Club, Inc. (the "Company"), a Florida corporation, was formed on
August 16, 1993. The Company is a direct marketer of audiobooks through Audio
Book Club, a membership club which markets and sells audiobooks via the Internet
and by mail order.
(2) Significant Accounting Policies
Basis of Presentation
The interim unaudited financial statements should be read in conjunction
with the Company's audited financial statements contained in its Annual Report
on Form 10-KSB for the year ended December 31, 1997. The preparation of
financial statements in accordance with generally accepted accounting principles
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities, the disclosure of contingent assets and
liabilities at the date of the financial statements, and the reported amounts of
revenue and expenses during the reporting period. Actual results could differ
from these estimates. On an ongoing basis management reviews its estimates based
on current available information. Changes in facts and circumstances may result
in revised estimates. In the opinion of management, the interim unaudited
financial statements include all material adjustments, all of which are of a
normal recurring nature, necessary to present fairly the Company's financial
position, results of operations and cash flows for the periods presented. The
results for any interim period are not necessarily indicative of results for the
entire year or any other interim period.
Cash and Cash Equivalents
Securities with maturities of three months or less when purchased are
considered to be cash equivalents.
Inventory
Inventory, consisting principally of audio cassettes held for resale, is
valued at the lower of cost (weighted average cost method) or market.
Royalties
The Company is liable for royalties to licensors based upon revenue earned
from the respective licensed product. Royalties, in excess of advances, are
payable on contractural terms. Royalty advances not expected to be recovered
through royalties on sales are charged to royalty expense. For the three months
and six months ended June 30, 1997 and June 30, 1998, no writedown of royalty
advances was recorded.
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Prepaid Expenses
Prepaid expenses consist principally of supplies bought in bulk, insurance
and payments for Internet and other advertising being expensed over the period
of the advertising agreement. All current prepaid expenses will be expensed over
a period no greater than the next twelve months.
Web Site Development
Web site development costs consist of payments to third parties and
purchased software which will benefit future periods and which are being
expensed over the period of benefit. Ongoing maintenance and other recurring
charges are expensed as incurred as are all internal costs and charges.
Fixed Assets and Computer Software
Fixed assets, consisting primarily of furniture and computer equipment, and
purchased computer software are recorded at cost. Depreciation is provided by
the straight-line method over the estimated useful life of five years for
equipment and three years for software.
Revenue Recognition
Sales are recorded upon shipment of merchandise and simultaneous billing.
Net sales are sales less actual returns for the period and an estimated
allowance for future returns on sales made during the period. The allowance for
future returns is based upon historical experience and evaluation of current
return trends.
Advertising and Promotional Costs
The Company expenses the production costs of advertising the first time the
advertising takes place or when the advertising is initially mailed.
Direct-response advertising consists primarily of direct mailings to individuals
that include order forms for the Company's products, and to a lesser extent
print advertisements. The capitalized costs of advertising are amortized in the
month of publication of the magazine in which it appears or the month in which
the individual letters are mailed. Promotional costs for new and current members
are expensed on the date the promotional materials are mailed. Internet
advertising is expensed as it occurs.
Fair Value of Financial Instruments
In estimating the fair value of financial instruments, the Company has
assumed that the carrying value of cash, short-term investments, accounts
receivable, accounts payable and accrued expenses approximates fair value
because of the short maturity of those instruments.
Use of Estimates
Management of the Company has made estimates and assumptions relating to
the reporting of assets and liabilities and the disclosure of contingent
liabilities to prepare these financial statements in conformity with generally
accepted accounting principles. Actual results could differ from those
estimates.
7
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Income Taxes
Prior to October 22, 1997, the Company had elected to be taxed as a small
business corporation (S corporation) under Section 1362 of the Internal Revenue
Code. As a small business corporation, all federal income taxes, if any, are the
obligations of the stockholders. Conversely, any losses incurred by the Company
may be used by the stockholders.
As a result of the consummation of the Company's public offering effective
on October 22, 1997, the Company's S corporation election terminated and the
Company ceased to be an S corporation. Commencing October 22, 1997 the Company
became taxable as an incorporated entity (C Corporation). Accordingly losses
incurred by the Company on or after October 22, 1997 may be used by the Company
and not by the stockholders to the extent permitted under the Internal Revenue
Code. Conversely, future federal income taxes, if any, will be the obligation of
the Company.
(3) Loan Agreement
In April 1998, the Company entered into an agreement with a major
commercial bank for a line of credit in the amount of $500,000. The interest
rate on the amounts drawn down under the line of credit is 0.50% below the
bank's reference rate. The line of credit is available until April 1, 1999.
There are no commitment fees or other fees attached to the line of credit. The
Company has not drawn down any amounts under the line of credit.
(4) Internet Agreements
In 1998, the Company entered into a series of agreements with various
Internet companies to provide permanent placements and banner advertisements
throughout their Web Sites. Each of these agreements require monthly payments
and provide for termination of the agreement by the Company at its option. For
the six months ended June 30, 1998 the Company recognized an expense of
$1,326,108 related to Internet activities, including spending on the series of
agreements, improvements to the Company's web site and the launching of
BooksAloud.com, an Internet web site and membership club, designed for online
consumers. The Company had minimal Internet related expenses for the six months
ended June 30, 1997. If the Company chooses to maintain all the agreements
through December 31, 1998, total payments in 1998 under the agreements would be
approximately $3,700,000.
(5) Leases - Related Parties
The Company sublets office space from an entity wholly-owned by officers
and directors of the Company.
In January 1998, the Company amended a sublease agreement to provide for
additional space at its New Jersey location. Minimum monthly rent under the
amended lease is $2,900 per month through December 1998 and is subject to two
extension periods of five years each under certain conditions. In May 1998, the
Company amended a
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sublease agreement to provide for additional space at its Florida location.
Minimum monthly rent under the amended lease is $1,960 per month through
November 2000 and is subject to two extension periods of three years each under
certain conditions.
Minimum annual lease commitments under noncancelable operating leases are
as follows:
Year ending
December 31, Amount
------------ ------
1998 $ 55,708
1999 23,520
2000 21,566
------
Total lease commitments $ 100,794
=========
(6) Stock Options
At the Annual Meeting of Shareholders of the Company held on June 19, 1998,
the Company amended the Company's 1997 Stock Option Plan (the "Plan") to
increase the number of shares of Common Stock reserved for issuance under the
Plan from 750,000 to 2,000,000 and to increase the number of shares which may be
granted to any employee during the term of the Plan from 250,000 to 1,000,000.
In June 1998, the Company cancelled previously issued options to certain
officers and directors and issued options under the Plan to purchase 625,500
shares of Common Stock to certain individuals, including officers and directors.
All options were granted at market value at the date of the grant. As of June
30, 1998, there were outstanding options under the Plan to purchase 649,000
shares of Common Stock.
In May 1998, the Company granted non-plan options to purchase 20,000 shares
of the Company's Common Stock at $4.81 per share to a third party. (See Note 8)
(7) Net Loss Per Share of Common Stock
The weighted average number of shares used in the net loss per share
computations for the three and six months ended June 30, 1997 were 3,256,400 and
for the three and six months ended June 30, 1998 were 6,153,920.
Common equivalent shares that could potentially dilute basic loss per share
were not included in the computation of diluted loss per share because their
effect would be antidilutive.
(8) Supplemental Cash Flow Information
During the six months ended June 30, 1997, the Company had a non-cash
financing activity related to the recognition of imputed interest on a portion
of the notes payable - related parties of $246,826. In May 1998, the Company, in
addition to a cash payment of $20,000, granted options to a third party to
purchase 20,000 shares of the Company's Common Stock at $4.81 per share to
acquire the Universal Resource Locators
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("URLs"), audiobook.com and audiobook.net. Such options immediately vest and are
exercisable and have a five year term. The Company has recorded an asset in the
amount of $70,000, the negotiated price, and is amortizing the asset over six
years. In March 1998, the Company granted options to purchase 21,600 shares of
the Company's Common Stock at $4.40 per share to a company in compensation for
the costs incurred in transferring to the Company the toll free phone numbers,
(800) AUDIOBOOK and (888) AUDIOBOOK. Such options immediately vest and are
exercisable and have a five year term. The Company has recorded an asset in the
amount of $54,000, the negotiated cost of transferring the phone numbers, and is
amortizing the asset over six years.
10
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Item 2.
Management's Discussion and Analysis of Financial Condition and Results of
Operations
Introduction
"Safe Harbor " Statement under the Private Securities Litigation Reform Act
of 1995: The statements which are not historical facts contained in this
Quarterly Report are forward looking statements that involve risks and
uncertainties, including but not limited to, the Company's ability to
successfully implement a strategy of continued growth and other risks described
in the Company's Registration Statement on Form SB-2. The Company's actual
results may differ materially from the results discussed in any forward looking
statement.
The Company is a direct marketer of audiobooks through Audio Book Club, a
membership club which markets and sells audiobooks by mail and via the Internet.
The Company commenced operations in January 1994 and undertook its first direct
mail campaign in August 1994. As of August 3, 1998, Audio Book Club's total
member file consisted of 350,311 names.
Since its inception, the Company has engaged in an aggressive membership
recruitment program to establish a core Audio Book Club member base and to
continually expand such member base. The Company has acquired Audio Book Club
members primarily through direct mailings of member solicitation packages and
online computer service and Internet advertising.
The Company expenses the production costs of advertising the first time the
advertising takes place or when the advertising is initially mailed.
Direct-response advertising consists primarily of direct mailings to individuals
that include order forms for the Company's products. Promotional costs for new
and current members are expensed on the date the promotional materials are
mailed. Internet advertising is expensed as it occurs. The Company does not
capitalize any new member acquisition costs.
In 1995, the Company established an Internet web site which offers visitors
to the web site the opportunity to join Audio Book Club, execute club
transactions online (if a member), utilize the web site's search engine to
locate many of the web site's thousands of audiobook selections and sample audio
clips of many of the web site's selections. The Company's web site also provides
additional options, such as alerting visitors when a new title of an author or
reader previously specified by the visitor is released and offering reviews of
selected titles.
The Company's web site is updated simultaneously with the Audio Book Club
catalog to add new selections and the new current featured selection, as well as
to add new book cover images and audio clips to preview.
The Company's web site currently has links from numerous search engines and
audiobook related sites. The web site is also linked to catalog listing sites
offered by online computer and Internet services.
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In May 1998, the Company created the audiobookclub.com Associates Network
program. The Program allows businesses and organizations to offer to visitors to
their web sites the opportunity to join Audio Book Club online and then receive
a commission on each sale from such members. As of August 3, 1998, the Company
had approximately 100 Associates.
In June 1998, the Company launched BooksAloud.com, an Internet web site and
membership club, designed for online customers. Consumers join the club and
receive one audiobook for a penny with an obligation to purchase two audiobooks
at retail prices. Club members, called "Frequent Listeners," can then shop from
the BooksAloud.com web site or from BooksAloud.com catalogues.
In the second quarter of 1998, the Company entered into the following
agreements to increase its Internet presence:
o The Company entered into an advertising agreement with Yahoo!
(http//www.yahoo.com), a leading global Internet media company. The
agreement with Yahoo! is a banner advertising program which will
enable consumers to "click through" from Yahoo! directly to the Audio
Book Club web site.
o The Company entered into an exclusive advertising agreement with Juno
Online Services, L.P. (http//www.juno.com), the second largest
provider of consumer e-mail in the United States with over 4.8 million
subscribers. Audio Book Club will be the exclusive audiobook seller
advertised on the Juno service. Juno provides free electronic mail
service.
o The Company entered into an exclusive agreement with Netscape
Communications Corporation, a provider of open software and services
for linking people and information over enterprise networks and the
Internet. Under the terms of the agreement, Netscape will include, in
upcoming versions of its Netscape Communicator Client Software
Browser, a pre-loaded bookmark for access to the Audio Book Club web
site. Additionally, the Company will receive banner advertising on the
Netscape Netcenter home page and Net Search page on Netscape's Web
Netcenter portal site.
o The Company also entered into advertising agreements with the
following companies:
o [email protected], a provider of free e-mail;
o hitthebeach.com, a web site which focuses on summer travel, beach
music and summer listening;
o freeride.com, a site dedicated to providing visitors with free
merchandise for visiting and buying from its sponsors;
o WhoWhere? Inc., a provider of free Web-based communication
applications that enable people and businesses worldwide to find,
communicate and collaborate with each other.
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In July 1998, the Company entered into an agreement with Spinner Networks,
Inc. Spinner Networks' product, Spinner.com is an audio content provider on the
Internet, currently broadcasting over 100 different channels of audio content
via technology and products that are free to the user. Under the agreement,
Spinner Networks will host two audio channels on its web site that will each
contain audiobook excerpts programmed by the Company. In addition, a direct link
to the Company's web sites will be provided by Spinner.com and the Company's
products will be promoted throughout Spinner.com.
In addition in July 1998, the Company entered into advertising agreements
with the following companies:
o Webstakes.com, an online community which provides a centralized
location for webstakes promotions;
o The Trip.com, a travel reservation and information site for business
travelers;
o Uproar.com, a web site of online game shows.
In addition to the foregoing, the Company continues to explore arrangements
with additional Internet companies.
The Company continues to work to expand and improve its web site including
increasing the number of audiobook titles to select, and audio clips to preview
through its search engine, improving recommendation features and streamlining
the join process.
The Company expects to incur significant expenditures in connection with
its continuing expansion strategy (including costs associated with expansion and
maintenance of its Internet web site, new member recruitment advertising and
member retention programs) which will result in losses until such time as the
Company is able to further increase its membership base revenue to support both
its operations and continued expansion programs. The Company anticipates that
its existing cash and anticipated cash flow from operations will be sufficient
to satisfy its contemplated cash requirements for at least twelve months from
June 30, 1998.
Results of Operations
Three Months Ended June 30, 1997 Compared to Three Months Ended June 30,
1998
Gross sales for the three months ended June 30, 1998 were $5,646,926 an
increase of $2,143,998 or 61.21%, as compared to $3,502,928 for the three months
ended June 30, 1997. The increase in gross sales was primarily attributable to
increased sales of audiobooks resulting from the continued expansion of Audio
Book Club's membership base, increased purchases by members and a significant
increase in new members. The Company's total member file increased by 28,431
names or 9.10% in the second quarter ended June 30, 1998.
Returns, discounts and allowances for the three months ended June 30, 1998
were $1,516,534 as compared to $723,420 for the prior comparable period. The
increase in returns, discounts and allowances was primarily due to an increase
in members and gross sales.
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As a result of higher gross sales, net sales for the three months ended
June 30, 1998 increased $1,350,884 or 48.60% to $4,130,392.
Cost of sales for the three months ended June 30, 1998 increased $1,032,116
to $2,511,881 from $1,479,765 in the prior comparable period. Gross profit
increased $318,768 to $1,618,511 for the three months ended June 30, 1998 from
$1,299,743 in the prior comparable period. The increase in cost of goods sold is
attributable to higher net sales and increases in new member enrollments in the
second quarter of 1998. Gross profit was increased by an increase in net sales,
partially reduced by new member enrollments in the second quarter of 1998.
Initial purchases by new members are at substantially reduced prices to
encourage enrollment. These offers, which are typically four books for either
$.99 or $.01 plus shipping and handling, result in an initial loss to the
Company which is recovered through additional member purchases at regular
prices. Because the Company does not capitalize any new member acquisition
costs, the initial purchase has the effect of reducing gross profit in the
period of enrollment.
Advertising and promotion expenses (for acquisition and retention of new
members) increased $125,578 or 6.12% to $2,175,956 for the three months ended
June 30, 1998 as compared to $2,050,378 in the prior comparable period. This
increase was principally due to an investment in Internet activities of
$782,774, including spending on a series of agreements with various Internet
companies to provide permanent placements and banner advertisements throughout
their web sites; expansion and improvements to the Company's web site and the
launching of BooksAloud.com, an Internet web site and membership club designed
for online consumers.
General and administrative expenses for the three months ended June 30,
1998 increased $102,288 to $474,609 from $372,321 for the three months ended
June 30, 1997. As a percentage of net sales, general and administrative expenses
declined to 11.49% from 13.40% in the three months ended June 30, 1997.
Professional fees for the three months ended June 30, 1998 were $60,916 a
decrease of $11,686 as compared to $72,602 for the prior comparable period.
Depreciation and amortization expenses for the three months ended June 30, 1998
were $5,680, an increase of $2,385, as compared to $3,295 for the prior
comparable period. Net interest income for the three months ended June 30, 1998
was $82,252 as compared to a net expense of $200,800 for the three months ended
June 30, 1997.
Primarily due to increased sales, the Company's net loss for the three
months ended June 30, 1998 decreased $383,255 to $1,016,398 as compared to a net
loss of $1,399,653 for the three months ended June 30, 1997.
Six Months Ended June 30, 1997 Compared to Six Months Ended June 30, 1998
Gross sales for the six months ended June 30, 1998 were $10,412,165, an
increase of $3,912,834 or 60.20%, as compared to $6,499,331 for the six months
ended June 30, 1997. The increase in gross sales was primarily attributable to
increased sales of audiobooks resulting from the continued expansion of Audio
Book Club's membership base, increased purchases by members and a significant
increase in new members. The
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Company's total member file increased by 80,108 names or 30.57% in the six
months ended June 30, 1998.
Returns, discounts and allowances for the six months ended June 30, 1998
were $2,752,007 as compared to $1,409,289 for the prior comparable period. The
increase in returns, discounts and allowances was primarily due to an increase
in members and gross sales.
Expansion of Audio Book Club's membership base, increased revenue from
members and increased new member enrollment revenue resulted in an increase in
net sales of $2,570,116 or 50.49% for the six months ended June 30, 1998 to
$7,660,158 as compared to $5,090,042 for the prior comparable period.
Cost of sales for the six months ended June 30, 1998 increased $2,299,673
to $5,110,221 from $2,810,548 in the prior comparable period. Gross profit
increased $270,443 to $2,549,937 for the six months ended June 30, 1998 from
$2,279,494 in the prior comparable period. The increase in cost of goods sold
and gross profit is attributable to higher net sales partially offset by an
increase in new member enrollments in 1998. Initial purchases by new members are
at substantially reduced prices to encourage enrollment. These offers, which are
typically four books for either $.99 or $.01 plus shipping and handling, result
in an initial loss to the Company which is recovered through additional member
purchases at regular prices. Because the Company does not capitalize any new
member acquisition costs, the initial purchase has the effect of reducing gross
profit in the period of enrollment.
Advertising and promotion expenses (for acquisition and retention of new
members) increased $1,435,551 or 63.81% to $3,685,288 for the six months ended
June 30, 1998 as compared to $2,249,737 in the prior comparable period. This
increase was principally due to increased spending on direct mail and to an
investment in Internet activities of $1,326,108, including spending on a series
of agreements with various Internet companies to provide permanent placements
and banner advertisements throughout their web sites, expansion and improvements
to the Company's web site and the launching of BooksAloud.com, an Internet web
site and membership club, designed for online consumers.
General and administrative expenses for the six months ended June 30, 1998
increased $275,210 to $1,000,987 from $725,777. General and administrative
expenses, as a percentage of net sales, for the six months ended June 30, 1998,
were 13.07%, a reduction from 14.26%.
Professional fees for the six months ended June 30, 1998 were $185,891, an
increase of $33,356, as compared to $152,535 for the prior comparable period.
Depreciation and amortization expenses for the six months ended June 30, 1998
were $10,927, an increase of $6,249, as compared to $4,678 for the prior
comparable period. Net interest income for the six months ended June 30, 1998
was $190,790 as compared to a net expense of $314,645 for the six months ended
June 30, 1997.
Primarily due to increased advertising of $1,435,551, including $1,326,108
to expand the Company's Internet activities, the Company's net loss for the six
months
15
<PAGE>
ended June 30, 1998 increased $974,488 to $2,142,366 as compared to a net loss
of $1,167,878 for the six months ended June 30, 1997.
Liquidity and Capital Resources
The Company's capital requirements have been and will continue to be
significant due to, among other things, costs associated with building,
expanding and maintaining Internet web sites (including substantial Internet
advertising expenditures), direct mail campaigns and other new member
recruitment advertising and promotion. Historically, the Company's cash
requirements have exceeded cash flows from operations.
During the six months ended June 30, 1998, the Company's cash increased
$877,610, as the Company used net cash of $3,413,763 for operating activities
and had cash provided by investing activities and financing activities of
$4,241,373 and $50,000, respectively. For the six months ended June 30, 1997,
the Company's cash increased by $21,999, as the Company used net cash of
$1,171,874 and $6,127 for operating and investing activities, respectively, and
had cash provided by financing activities of $1,200,000.
For the six months ended June 30, 1997, net cash used in operating
activities, consisted of a loss of $1,167,878 and increases in receivables,
inventory and royalty advances, of $1,198,356, $259,603 and $23,775. The net
cash used in operations was partially reduced by imputed interest on notes
payable to related parties of $246,826, a decrease in due to related parties of
$20,000, an increase in accounts payable of $1,206,234 and depreciation and
amortization expense of $4,678.
For the six months ended June 30, 1998, the cash used in operating
activities consisted of, in addition to the net loss of $2,142,366, increases in
receivables, inventory, prepaid expenses, royalty advances and capitalized web
site development - current of $1,185,064, $230,471, $454,637 and $134,326,
respectively. The net cash used in operations was partially reduced by a
decrease in royalty advances of $34,469, an increase in accounts payable and
accrued expenses of $687,705 and depreciation and amortization of $10,927.
The increase in accounts receivable during the six months ended June 30,
1998 is principally due to higher sales and an increase in new members. The
increase in prepaid expenses is principally attributable to payments made for
advertising which is being expensed over the life of the agreements as the
advertising occurs. Promotional costs for new and current members are expensed
on the date the promotional materials are mailed. Internet advertising is
expensed as it occurs. The Company does not capitalize any new member
acquisition costs. Web site development costs consist of payments to third
parties and purchased software which will benefit future periods and which are
being expensed over the period of benefit. Ongoing maintenance and other
recurring charges are expensed as incurred as are all internal costs and
charges.
Cash used in investing activities for the six months ended June 30, 1997
was for the acquisition of fixed assets, principally for computer equipment. For
the six months ended June 30, 1998, in addition to the acquisition of computer
equipment, cash was also used in the purchase of a twelve month bank certificate
of deposit of $500,000 plus
16
<PAGE>
interest earned on the certificate of deposit of $4,166, and cash was also
expended for web site development costs which will benefit 1999 in the amount of
$330,822. Cash was increased by the redemption of short-term investments,
principally bank certificates of deposit and accrued interest thereon in the
amount of $5,143,699.
For the six months ended June 30, 1997, net cash provided by financing
activities consisted of loans from the Company's officers and directors. During
the six months ended June 30, 1998, the Company sold to a director a five year
option to purchase 50,000 shares of Common Stock at an exercise price of $5.00
per share (market value at purchase date.) The purchase price of the option was
$50,000.
In April 1998, the Company entered into an agreement with a major
commercial bank for a line of credit in the amount of $500,000. The interest
rate on the amounts drawn down under the line of credit is 0.50% below the
bank's reference rate. The line of credit is available until April 1, 1999.
There are no commitment or other fees attached to the line of credit. The
Company has not drawn down any amounts under the line of credit.
Based on the Company's currently proposed plans and assumptions relating to
the implementation of its business plan (including the timing and success of its
Internet activities, direct marketing and other new member recruitment
advertising, as well as the availability and terms of attractive acquisition
opportunities), the Company anticipates that its existing cash and anticipated
cash flow from operations will be sufficient to satisfy its contemplated cash
requirements for at least twelve months from June 30, 1998.
Quarterly Fluctuations
The Company's operating results vary from period to period as a result of
purchasing patterns of members, the timing, costs, magnitude and success of
Internet initiatives and direct mail campaigns and other new member recruitment
advertising, member attrition, the timing and popularity of new audiobook
releases and product returns. The timing of new member enrollment varies
depending on the timing, magnitude and success of new member advertising,
particularly direct mail and Internet advertising campaigns. For fiscal periods
in which the Company conducts significant direct mail and Internet advertising
campaigns, the Company's operating results will be adversely affected because
the increased membership acquisition expenses incurred may not generate
corresponding revenues from such campaigns until the following periods.
17
<PAGE>
Part II - Other Information
Item 1. Legal Proceedings.
None.
Item 2. Changes in Securities and Use of Proceeds.
On October 22, 1997, the Company's Registration Statement on Form SB-2 (No.
333-30665) relating to its initial public offering (the "IPO") was declared
effective by the Securities and Exchange Commission. The managing underwriter of
the IPO was L.H. Friend, Weinress, Frankson & Presson, Inc. The Company sold
2,300,000 shares of common stock for gross proceeds of $23,000,000 and a
non-management selling shareholder sold 110,000 shares for gross proceeds of
$1,100,000. The Company incurred aggregate offering expenses of $3,234,337
(including $1,840,000 of underwriting discounts and commissions and $632,500 for
the managing underwriter's non-accountable expense allowance) in connection with
the IPO. As a result, the Company received net proceeds of 19,765,663 from the
IPO.
The Company used a portion of the net proceeds to repay loans from a major
bank in the aggregate principal amount of $9,000,000 plus accrued interest
thereon of $56,167. The Company estimates that it has used approximately
$9,700,000 for direct mail membership recruitment advertising ($5,300,000),
Internet promotion, development and maintenance ($1,800,000) and operating
purposes ($1,900,000) and general working capital purposes ($700,000). The
Company intends to use the remaining net proceeds of the offering for membership
recruitment advertising, Internet web site marketing and development and for
working capital and general corporate purposes.
In June 1998, the Company cancelled previously issued options to certain
officers and directors and issued options under the Plan to purchase 625,500
shares of Common Stock to certain individuals, including officers and directors.
All options were granted at market value at the date of the grant. As of June
30, 1998, there were outstanding options under the Plan to purchase 649,000
shares of Common Stock. In May 1998, the Company, in addition to a cash payment
of $20,000, granted options to an individual to purchase 20,000 shares of the
Company's Common Stock at $4.81 per share (market value at date of grant) to
acquire the URLs, audiobook.com and audiobook.net. Such options immediately vest
and are exercisable and have a five year term. The Company has recorded an asset
in the amount of $70,000, the negotiated price, and is amortizing the asset over
six years.
18
<PAGE>
Item 4. Submission of Matters to a Vote of Security Holders.
An Annual Meeting of Shareholders was held on June 19, 1998 at which time
the following directors were reappointed to serve as Class I directors until the
Annual Meeting of Shareholders of the Company to be held in 2001:
Votes For Votes Withheld
--------- --------------
Norton Herrick 5,881,915 26,300
Jesse Faber 5,881,915 26,300
The following directors continue to serve as directors for the term
indicated opposite their respective names:
Director Class Expiration of Term
-------- ----- ------------------
Michael Herrick II 1999
Roy Abrams II 1999
Howard Herrick III 2000
Carl Wolf III 2000
In addition, at the Meeting, the Company's shareholders approved an
amendment to the Company's 1997 Stock Option Plan (the "Plan") to (i) increase
the number of shares of Common Stock reserved for issuance under the Plan from
750,000 to 2,000,000 and (ii) increase the number of shares of Common Stock with
respect to which options may be granted to any employee during the term of the
Plan from 250,000 to 1,000,000 by a vote of 3,998,884 in favor, 451,428 against
and 3,390 abstaining. There were 1,454,513 broker non-votes with respect to this
proposal.
Item 6: Exhibits and Reports on Form 8-K.
(a) Exhibits
Exhibit 27 Financial Data Schedule
(b) Reports on Form 8-K
None.
19
<PAGE>
Signatures
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, Audio Book Club, Inc. has duly caused this report to be signed on
its behalf by the undersigned thereunto duly authorized.
Audio Book Club, Inc.
Dated: August __, 1998 By: /s/ Michael Herrick
-----------------------------------
Michael Herrick
Co-Chief Executive Officer
Dated August __, 1998 By: /s/ John F. Levy
-----------------------------------
John F. Levy
Chief Financial and Accounting Officer
20
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
The Schedule contains summary financial information extracted from the Company's
financial statements included in this quarterly report on Form 10-QSB, and is
qualified in its entirety by reference to such financial statements.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> JUN-30-1998
<CASH> 4,532,663
<SECURITIES> 504,166
<RECEIVABLES> 3,622,007
<ALLOWANCES> 653,487
<INVENTORY> 1,930,845
<CURRENT-ASSETS> 10,842,415
<PP&E> 143,690
<DEPRECIATION> 27,474
<TOTAL-ASSETS> 11,469,359
<CURRENT-LIABILITIES> 3,704,373
<BONDS> 0
0
0
<COMMON> 25,741,063
<OTHER-SE> (17,976,077)
<TOTAL-LIABILITY-AND-EQUITY> 11,469,359
<SALES> 7,660,158
<TOTAL-REVENUES> 7,660,158
<CGS> 5,110,221
<TOTAL-COSTS> 3,685,288
<OTHER-EXPENSES> 1,197,805
<LOSS-PROVISION> 11,079
<INTEREST-EXPENSE> (190,790)
<INCOME-PRETAX> (2,142,366)
<INCOME-TAX> 0
<INCOME-CONTINUING> (2,142,366)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (2,142,366)
<EPS-PRIMARY> (.35)
<EPS-DILUTED> (.35)
</TABLE>
