<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
(Mark One)
[X] Quarterly report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the quarterly period ended June 30, 2000
or
[_] Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from __________ to __________
Commission File Number: 0-29583
Loudeye Technologies, Inc.
------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 91-1908833
--------------------------------- ---------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
Times Square Building 414 OliveWay, Suite 300, Seattle, WA 98101
----------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
206-832-4000
----------------------------
(Registrant's telephone number, including area code)
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 [_]
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
Common 37,015,365
------------------------- ------------------------------
(Class) (Outstanding at July 31, 2000)
<PAGE>
Loudeye Technologies, Inc.
Form 10-Q Quarterly Report
For the Quarter Ended June 30, 2000
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page
Number
------
<S> <C>
PART I. Financial Information
Item 1 Financial Statements.................................................. 3
Condensed Balance Sheets as of June 30, 2000 (unaudited) and
December 31, 1999 .................................................... 3
Condensed Statements of Operations for the three and six months
ended June 30, 2000 and June 30, 1999 (unaudited)..................... 4
Condensed Statements of Cash Flows for the six months ended June
30, 1999 and 2000 (unaudited)......................................... 6
Notes to Unaudited Condensed Financial Statements..................... 7
Item 2 Management's Discussion and Analysis of Financial Condition and
Results of Operations.................................................. 6
Item 3 Quantitative and Qualitative Disclosures About Market Risk............. 36
PART II. Other Information
Item 1 Legal Proceedings...................................................... 37
Item 2 Changes in Securities and Use of Proceeds.............................. 37
Item 3 Defaults Upon Senior Securities........................................ 37
Item 4 Submission of Matters to a Vote of Security Holders.................... 38
Item 5 Other Information...................................................... 38
Item 6 Exhibits and Reports on Form 8-K....................................... 38
Signatures...................................................................... 40
</TABLE>
2
<PAGE>
PART I - FINANCIAL INFORMATION
ITEM I FINANCIAL STATEMENTS
LOUDEYE TECHNOLOGIES, INC.
CONDENSED BALANCE SHEETS
(All amounts in thousands except share and per share amounts)
<TABLE>
<CAPTION>
As of As of
----- -----
June 30, 2000 December 31,
------------- -----------
1999
----
(Unaudited)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents.............................. $ 107,569 $ 49,273
Accounts receivable, net of allowance of $163 and
$187, respectively............................... 1,487 955
Short-term investments................................. 695 530
Prepaid and other assets............................... 1,507 597
------------ ----------
Total current assets............................. 111,258 51,355
Property and equipment, net.................................. 16,743 5,282
Goodwill, net................................................ 12,281 14,207
Intangibles and other long-term assets....................... 8,512 5,931
------------ ----------
Total assets..................................... $ 148,794 $ 76,775
============ ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable....................................... 771 4,778
Accrued compensation and benefits...................... 1,295 388
Accrued liabilities.................................... 1,264 587
Customer deposits...................................... 436 438
Deferred revenues...................................... 710 -
Current portion of long-term obligations............... 2,496 1,132
------------ ----------
Total current liabilities........................ 6,972 7,323
Long-term obligations, less current portion.................. 7,851 1,963
------------ ----------
Total liabilities................................ 14,823 9,286
STOCKHOLDERS' EQUITY
Preferred stock, $0.001 par value, 5,000,000 and
41,000,000 shares authorized, 0 and 21,063,236 issued
and outstanding, preference in liquidation of $0 and
$60,903,932................................................. -- 58,536
Common stock and additional paid in capital and common
stock warrants, $0.001 par value, 100,000,000 shares
authorized; 36,890,295 and 8,696,257 issued and
outstanding................................................. 186,521 28,305
Deferred stock compensation.................................. (6,519) (6,843)
Beneficial conversion feature................................ -- 14,121
Accumulated deficit.......................................... (46,031) (26,630)
------------ ----------
Total stockholders' equity............................. 133,971 67,489
------------ ----------
Total liabilities and stockholders' equity....... $ 148,794 $ 76,775
============ ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
3
<PAGE>
LOUDEYE TECHNOLOGIES, INC.
CONDENSED STATEMENTS OF OPERATIONS
(UNAUDITED)
(All amounts in thousands except share and per share amounts)
<TABLE>
<CAPTION>
Three Months Ended June 30,
------------------------------
2000 1999
----------- -----------
<S> <C> <C>
Revenues:
Digital media services................................... $ 2,399 $ 528
Digital media applications............................... 153 -
----------- -----------
Total revenues..................................... 2,552 528
Cost of revenues (exclusive of stock-based compensation
expense of $87 in 2000 and $1 in 1999 shown below)
Digital media services................................... 2,999 530
Digital media applications............................... 48 -
----------- -----------
Total cost of revenues............................. 3,047 530
----------- -----------
Gross margin........................................... (495) (2)
----------- -----------
Operating Expenses:
Research and development (exclusive of stock-based
compensation expense of $54 in 2000 and $0 in
1999 shown below)........................................ 1,780 202
Sales and marketing (exclusive of stock-based
compensation expense of $142 in 2000 and $1 in
1999 shown below and other non-cash charges of $188
in 2000 shown below)..................................... 4,228 927
General and administrative (exclusive of stock-based
compensation (credit)/expense of $(55) in 2000 and
$6 in 1999 shown below).................................. 1,881 590
Amortization of goodwill and other intangibles............... 1,826 --
Stock-based compensation..................................... 228 8
----------- -----------
Total operating expenses..................................... 9,943 1,727
----------- -----------
Interest income.............................................. 1,725 23
Interest expense and other................................... (166) (33)
----------- -----------
Net loss..................................................... $ (8,879) $ (1,739)
=========== ===========
Basic and diluted net loss per share......................... $ (0.25) $ (0.33)
Weighted average shares outstanding used to compute
basic and diluted net loss per share................... 35,143,171 5,292,944
Basic and diluted pro forma net loss per share............... $ (0.25) $ (0.11)
Weighted average shares outstanding used to compute
basic and diluted pro forma net loss per share......... 35,143,171 15,140,348
</TABLE>
The accompanying notes are an integral part of these statements.
4
<PAGE>
LOUDEYE TECHNOLOGIES, INC.
CONDENSED STATEMENTS OF OPERATIONS
(UNAUDITED)
(All amounts in thousands except share and per share amounts)
<TABLE>
<CAPTION>
Six Months Ended June 30,
------------------------
2000 1999
---- ----
<S> <C> <C>
Revenues:
Digital media services..................................... $ 3,950 $ 829
Digital media applications................................. 251 -
----------- -----------
Total revenues....................................... 4,201 829
Cost of revenues (exclusive of stock-based compensation
expense of $340 in 2000 and $1 in 1999 shown below)
Digital media services..................................... 5,133 917
Digital media applications................................. 84 -
----------- -----------
Total cost of revenues............................... 5,217 917
----------- -----------
Gross margin............................................. (1,016) (88)
----------- -----------
Operating Expenses:
Research and development (exclusive of stock-based
compensation expense of $211 in 2000 and $0 in 1999
shown below)............................................... 3,093 344
Sales and marketing (exclusive of stock-based
compensation expense of $558 in 2000 and $1 in 1999
shown below and other non-cash charges of $298 in
2000 shown below).......................................... 7,004 1,397
General and administrative (exclusive of stock-based
compensation expense of $2,258 in 2000 and $6 in 1999
shown below)............................................... 3,532 1,012
Amortization of goodwill and other intangibles................. 3,529 --
Stock-based compensation....................................... 3,367 8
----------- -----------
Total operating expenses....................................... 20,525 2,761
----------- -----------
Interest income................................................ 2,416 33
Interest expense and other..................................... (276) (54)
----------- -----------
Net loss....................................................... $ (19,401) $ (2,870)
=========== ===========
Basic and diluted net loss per share........................... $ (0.82) $ (0.54)
Weighted average shares outstanding used to compute
basic and diluted net loss per share..................... 23,707,605 5,290,472
Basic and diluted pro forma net loss per share................. $ (0.60) $ (0.20)
Weighted average shares outstanding used to compute
basic and diluted pro forma net loss per share........... 32,366,935 14,335,664
</TABLE>
The accompanying notes are an integral part of these statements.
5
<PAGE>
LOUDEYE TECHNOLOGIES, INC.
CONDENSED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(All amounts in thousands except share and per share amounts)
<TABLE>
<CAPTION>
Six Months Ended June 30,
2000 1999
------------------------------
<S> <C> <C>
Cash flows from operating activities:
Net Loss:................................................... $(19,401) $ (2,870)
Adjustments to reconcile net loss to net cash
used in operating activities
Depreciation and amortization.......................... 5,017 263
Gain on disposal....................................... 24 -
Stock-based compensation............................... 3,367 8
Changes in operating assets and liabilities, net of
amounts acquired
Accounts receivable.................................... (367) (526)
Prepaid expenses and other current assets.............. (910) (102)
Other assets........................................... (213) -
Accounts payable....................................... (4,124) (116)
Accrued compensation and benefits...................... 859 142
Other accrued expenses................................. 579 (58)
Customer deposits and deferred revenue................. 708 10
----------- ---------
Net cash used in operating activities............. (14,461) (3,249)
Cash flows from investing activities:
Purchases of fixed assets, net of amounts acquired..... (12,665) (1,021)
Capitalized software development costs................. (506) -
Cash paid for acquisition of business, net............. (1,907) -
----------- ---------
Net cash used in investing activities............. (15,078) (1,021)
Cash flows from financing activities:
Principal payments on long-term obligations............ (1,116) (43)
Proceeds from sale of stock............................ 80,371 2,787
Proceeds from exercise of common stock options......... 531 1
Proceeds from long-term debt........................... 8,049 1,558
----------- ---------
Net cash provided by financing activities......... 87,835 4,303
----------- ---------
Net increase in cash and cash equivalents......... 58,296 33
Cash and cash equivalents, beginning of period.............. $ 49,273 $ 1,442
----------- ---------
Cash and cash equivalents, end of period.................... $107,569 $ 1,475
=========== =========
Supplemental disclosure of cash flow information:
Cash paid for interest...................................... $ 156 $ 55
Issuance of common stock for acquisition of business........ 1,105 -
Issuance of common stock warrants........................... 138 -
Conversion of debt into Series C preferred stock............ - 750
</TABLE>
6
<PAGE>
LOUDEYE TECHNOLOGIES, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS
JUNE 30, 2000 (UNAUDITED)
1. ORGANIZATION AND DEVELOPMENT STAGE RISKS:
The Company
Loudeye Technologies, Inc. (the Company) provides digital media
infrastructure services and applications that transform audio and video
content from traditional sources into Internet compatible formats. The Company
is headquartered in Seattle, Washington and to date has conducted business in
the United States in one business segment.
The Company is subject to a number of risks similar to other companies in a
comparable stage of development including reliance on key personnel,
successful marketing of its services in an emerging market, competition from
other companies with greater technical, financial management and marketing
resources, successful development of new services and the enhancement of
existing services, and the ability to secure adequate financing to support
future growth.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
Unaudited Interim Financial Data
The interim condensed financial statements are unaudited and have been
prepared pursuant to the rules and regulations of the Securities and Exchange
Commission. Certain information and footnote disclosures normally included in
financial statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted pursuant to such rules and
regulations. These condensed financial statements should be read in
conjunction with the audited financial statements and notes thereto included
in the Company's final prospectus as filed with the Securities and Exchange
Commission on March 15, 2000. The financial information included herein
reflects all adjustments (consisting only of normal recurring adjustments)
that are, in the opinion of management, necessary for a fair presentation of
the results for interim periods. The results of operations for the six months
ended June 30, 2000 and June 30, 1999 are not necessarily indicative of the
results to be expected for the full year.
Short-term Investments
The Company has established irrevocable standby letters of credit totaling
approximately $530,000 in conjunction with the lease of the Company's primary
office facility and a remote production facility. The letters of credit
related to the leases expire in October 2000 and December 2000; however, they
will be automatically renewed during the term of the leases. The letters of
credit contain an automatic reduction schedule
7
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reducing the amount of the letter of credit each year by $70,000 until they
reach $100,000, where they remain through the end of the term.
Deferred Revenues
The Company records deferred revenues when cash has been received but the
criteria for revenue recognition have not been met. Deferred revenues are
recognized in accordance with the Company's revenue recognition policy.
Revenue Recognition
The Company generates revenues from two sources: (1) digital media services
and (2) licensing digital media applications.
DIGITAL MEDIA SERVICES
Encoding Services Revenues consist of encoding services to convert audio
and video content into Internet media formats. Sales of digital media
services are generally under nonrefundable time and materials contracts.
Under these same time and materials contracts, the Company recognizes
revenues as services are rendered and the Company has no continuing
involvement in the goods and services de livered, which is the date of
shipment of the finished media to the customer.
Consulting Services Revenues consist of services provided by our
consulting services group to enable customers to utilize streaming media
within their websites and Internet applications. Consulting services are
provided under short-term contracts that are fixed-price contracts, time and
materials contracts or milestone-based contracts. Consulting services
revenues generated by short-term fixed-price contracts will be recognized
ratably over the term of the contract. For milestone-based contracts with
customer acceptance clauses, revenues are recognized under the outputs
method, with output being measured by the completion of milestones and
acceptance by the customer.
Hosting Services Revenues consist of fees associated with hosting content
and Internet applications for customers. Hosting services revenues are
generated under noncancelable contracts with the fees paid by the customer
on a recurring monthly basis generally based upon bandwidth provided and
amount of content hosted.
DIGITAL MEDIA APPLICATIONS
Digital Media Applications revenues are generated from licenses and
selling of software. Our revenue recognition policies are in accordance with
Statement of Position (SOP 97-2), Software Revenue Recognition as amended by
SOP 98-9. Under SOP 97-2, in general, license revenues are recognized when a
non-cancelable license agreement has been signed and the customer
acknowledges an unconditional obligation to pay, the software product has
been delivered, there are no uncertainties surrounding customer acceptance,
the fees are fixed and determinable, and collection is considered probable.
Revenues recognized from multiple-element software arrangements are
allocated to each element of the arrangement based on the fair values of the
elements, such as software products, upgrades, enhancements, post contract
customer support, or training. The determination of fair value is based on
objective evidence that is specific to the Company. If such evidence of fair
value for
8
<PAGE>
each element of the arrangement does not exist, all revenue from the
arrangement is deferred until such time that evidence of fair value does exist
or until all elements of the arrangement are delivered. The Company records
deferred revenue for software arrangements when cash has been received from
the customer and the arrangement does not qualify for revenue recognition
under the Company's revenue recognition policy.
The Company has entered into agreements whereby it licenses and sells
digital media applications to customers or provides customers the right to
multiple copies. These agreements generally provide for non-refundable fixed
fees, which will be recognized at delivery of the product master or the first
copy, provided that the fee is fixed and determinable, collectibility is
probable and no further Company obligations exist. Certain of these
arrangements will provide for royalties based upon the number of sites into
which the digital media applications are deployed. Under such multi-site
arrangements, revenues are recognized at deployment. Additionally, these
arrangements may provide for payments to the Company based on the amount of
revenues generated by the sites into which the digital media applications have
been deployed. These fees will be recognized as earned. For arrangements that
include significant customization or modification of the software, revenue
will be recognized using contract accounting in the same manner as for
consulting services.
The Company sells digital media applications in application service
provider arrangements where it is required to host those applications. When
the Company is required to host the application and the customer does not have
the ability to have the application hosted by another entity without penalty
to the customer, revenue is recognized over the term of the initial hosting
arrangement.
Financial Instruments and Concentrations of Credit Risk
Financial instruments that potentially subject the Company to
concentrations of market risk consist of cash and cash equivalents, short-term
investments, and long-term obligations. Fair values of cash and cash
equivalents and short-term investments approximate cost due to the short
period of time to maturity. The fair values of financial instruments that are
short-term and/or that have little or no market risk are considered to have a
fair value equal to book value. The Company performs initial and ongoing
evaluations of its customers' financial positions, and generally extends
credit on open account, requiring collateral as deemed necessary
During the six months ended June 30, 2000 and June 30, 1999, the company
had sales to certain significant customers, as a percentage of revenues, as
follows:
----------------------------------------------
June 30, 2000 June 30, 1999
----------------------------------------------
Customer A 15% 12%
----------------------------------------------
Customer B - 24%
----------------------------------------------
Total 15% 36%
==============================================
Reclassifications
Certain information reported in previous periods has been reclassified to
conform to the current period presentation.
9
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Use of Estimates in the Preparation of Financial Statements
The preparation of the financial statements in conformity 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 revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Net Loss Per Share
In accordance with Statement of Financial Accounting Standards (SFAS) No.
128, "Earnings Per Share," basic earnings per share is computed by dividing
net loss by the weighted average number of shares of common stock outstanding
during the period. Diluted earnings per share is computed by dividing net loss
by the weighted average number of common and dilutive common equivalent shares
outstanding during the period. Common equivalent shares consist of shares of
common stock issuable upon the conversion of the convertible preferred stock
(using the if-converted method) and shares issuable upon the exercise of stock
options and warrants (using the treasury stock method); common equivalent
shares are excluded from the calculation if their effects is antidilutive.
Diluted net loss per share for all periods shown does not include the effects
of the convertible preferred stock and shares issuable upon the exercise of
stock options and warrants as the effect of their inclusion is antidilutive
during each period presented.
Basic and diluted pro forma net loss per share is computed based on the
weighted average number of shares of common stock outstanding giving effect to
the conversion of convertible preferred stock into common stock upon the
completion of the Company's initial public offering on March 15, 2000 (using
the if-converted method from the original issue date). Diluted pro forma net
loss per share excludes the impact of stock options and warrants, as the
effect of their inclusion would be antidilutive.
At June 30, 2000 the Company had 1,329,701 stock options that had been
exercised but which were subject to repurchase at a weighted average exercise
price of $0.41 per share. Accordingly, the impact of these unvested but
exercised options has been removed from the calculation of weighted average
shares outstanding for purposes of determining basic and diluted earnings per
share and basic and diluted pro forma earnings per share.
As part of the terms of the acquisition of Alive.com on December 14, 1999,
the following shares were subject to repurchase on June 30, 2000:
. 124,015 outstanding vested shares issued by Alive.com under the terms of a
stock purchase agreement with Allaire Corporation repurchasable at fair
market value within 90 days of the termination date of the licensing and
stock purchase agreement assumed by Loudeye as part of the terms of the
acquisition of Alive.com.
. 138,638 outstanding unvested shares issued by Alive.com under the terms of a
stock purchase agreement with Allaire Corporation repurchasable at a
weighted average exercise price of $0.20 within 90 days of the termination
date of the
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licensing and stock purchase agreement assumed by Loudeye as part of the
terms of the acquisition of Alive.com. Accordingly, the impact of these
shares has been removed from the calculation of weighted average shares
outstanding for purposes of determining basic and diluted earnings per share
and basic and diluted pro forma earnings per share.
The following table presents a reconciliation of shares used to calculate
basic and diluted earnings per share:
For the three months ended June 30, 2000
Actual and
Pro Forma
------------
Weighted average shares outstanding 36,737,983
Impact of Allaire shares subject to repurchase (127,873)
Impact of Alive options, exercised, not vested (138,638)
Weighted average impact of options exercised but subject
to repurchase (1,328,301)
------------
Weighted average shares used to calculate basic and
diluted earnings per share 35,143,171
============
For the six months ended June 30, 2000
<TABLE>
<CAPTION>
Actual Pro Forma
------------ -------------
<S> <C> <C>
Weighted average shares outstanding 25,314,818 33,974,148
Impact of Allaire shares subject to repurchase (140,274) (140,274)
Impact of Alive options, exercised, not vested (138,638) (138,638)
Weighted average impact of options exercised but subject
to repurchase (1,328,301) (1,328,301)
------------- -------------
Weighted average shares used to calculate basic and diluted
earnings per share 23,707,605 32,366,935
============= =============
</TABLE>
3. INITIAL PUBLIC OFFERING
On March 15, 2000, the Company closed its initial public offering of
4,500,000 shares of common stock at $16.00 per share, for net proceeds of
$67.0 million. At closing, all of the Company's issued and outstanding shares
of convertible preferred stock were converted into shares of common stock on a
one-for-one basis. On April 14, 2000, the underwriters for the IPO exercised
their over-allotment option and purchased an additional 675,000 shares at
$16.00 per share, for net proceeds of $10.0 million. Concurrent with the
initial public offering, the Company sold 336,022 shares of common stock at a
price of $14.88 per share to a strategic investor. Net proceeds to the Company
were $5.0 million. The discount from the initial public offering price of
approximately $376,000 was capitalized as an intangible asset and will be
amortized
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over a period of one year. The combined net proceeds to the Company from the
preceding transactions, less offering costs of $1.6 million, were $80.4
million.
4. STOCK-BASED COMPENSATION
The Company records deferred stock compensation for the difference between
the exercise price of stock options granted and the deemed fair value for
financial statement presentation purposes of the Company's common stock at the
date of grant. The deferred compensation is amortized over the vesting period
of the related options, which is generally four and one half years.
In the six months ended June 30, 2000, we recorded deferred stock
compensation related to stock options granted below deemed fair market value
in that period of $3.1 million. This amount represents the difference between
the exercise price of stock option grants and the deemed fair value of the
common stock at the time of grant. During the six months ended June 30, 2000,
we amortized $2.6 million of deferred stock compensation which is presented as
stock-based compensation expense in the accompanying statements of operations.
Due to stock option cancellations, $860,000 of deferred stock compensation was
reversed and $262,000 in previously amortized deferred stock compensation was
recorded as a credit to stock-based compensation expense in the six months
ended June 30, 2000. We will record additional stock-based compensation
charges of $6.5 million in respect of all options granted to date over the
vesting period of the options, which is generally four and one-half years. As
a result, the amortization of stock-based compensation associated with options
granted prior to the date of this report will impact our reported results of
operations through fiscal 2005.
To date, we have granted approximately 220,000 options to consultants which
vest on similar terms as options granted to employees. These terms require
that the individuals continue their current consulting relationship with us in
order to continue vesting. Approximately 74,000 of these options had vested in
full as of June 30, 2000 and therefore have no further compensation related to
their vesting. Approximately 53,000 of these options had been cancelled as of
June 30, 2000. Remaining options are accounted for in accordance with the
provisions of SFAS 123 and EITF 96-18. Accordingly, using the Black-Scholes
option pricing model and assuming a term of four and one-half years, a risk-
free interest rate of 5.81% and expected volatility of 75%, the options are
marked to fair value at each reporting period through charges to stock-based
compensation in the statements of operations. Approximately $1.1 million was
recognized in stock-based compensation expense related to these options in the
six months ended June 30, 2000. Subsequent to June 30, these consulting
relationships were ended, resulting in additional vesting of approximately
10,000 shares with the remaining outstanding options being canceled. The
impact of the termination of these consultant options will be a charge to
stock-based compensation of approximately $144,000. As of the date of this
report, approximately 3,100 options remain outstanding, which require fair
value accounting.
For the six months ended June 30, 2000 and 1999, the Company recorded a
total of approximately $3.4 million in stock-based compensation charges as a
component
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of operating expenses. This amount represents both the consulting expenses
described above related to marking options granted to consultants to fair
value as well as amortization of stock options granted below deemed fair
market value. These amounts can be allocated to other expense categories in
the accompanying statements of operations as follows: (in thousands)
<TABLE>
<CAPTION>
For the six months
ended June 30,
2000 1999
---------------------------
<S> <C> <C>
Production (cost of
revenues).................................................. $ 340 $ 1
Research and
development................................................ 211 -
Sales and
marketing.................................................. 558 1
General and
administrative............................................. 2,258 6
---------------------------
$3,367 $ 8
===========================
</TABLE>
5. SEGMENT INFORMATION
The Company operates in one business segment, digital media services, for
which the Company receives revenues from its customers. The Company's Chief
Operating Decision Maker is considered to be the Company's Executive Team
(CET) which is comprised of the Company's Chief Executive Officer, the
Company's Chief Operating Officer, and the Company's Vice Presidents. The CET
reviews financial information presented on a consolidated basis accompanied by
disaggregated information about products and services for purposes of making
decisions and assessing financial performance. The CET does not allocate
resources by product or service type and does not review discrete financial
information regarding the Company's different products or services on a
disaggregated basis other than as presented in the following table and,
therefore, the Company does not have operating segments as defined by SFAS
131, "Disclosure About Segments of an Enterprise and Related Information".
The following table sets forth certain information by product type for the
three and six month periods ended June 30, 2000 and 1999. (in thousands)
<TABLE>
<CAPTION>
For the six months ended For the three months
June 30, ended June 30,
2000 1999 2000 1999
---------------------------------------------------------
<S> <C> <C> <C> <C>
Revenues from unaffiliated customers:
Digital media services $ 3,950 $ 829 $ 2,399 $ 528
Digital media applications 251 - 153 -
---------------------------------------------------------
Total revenues 4,201 829 2,552 528
Cost of revenues:
</TABLE>
13
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<TABLE>
<S> <C> <C> <C> <C>
Digital media services 5,133 917 2,999 530
Digital media applications 84 - 48 -
---------------------------------------------------------
Total cost of revenues 5,217 917 3,047 530
Gross margin
Digital media services (1,183) (88) (600) (2)
Digital media applications 167 - 105 -
---------------------------------------------------------
Gross margin (1,016) (88) (495) (2)
Profit reconciliation:
Gross margin by product (1,016) (88) (495) (2)
Operating expenses (20,525) (2,761) (9,943) (1,727)
Other income (expenses), net 2,140 (21) 1,559 (10)
---------------------------------------------------------
Net loss $(19,401) $(2,870) $(8,879) $(1,739)
=========================================================
</TABLE>
6. LONG-TERM DEBT
In April 2000, the Company entered into an agreement with Imperial Bank to
amend our loan agreement to permit revolving borrowings and standby letters of
credit aggregating up to $2.0 million. Additionally, the amended facility
provides for a term loan of up to $10.0 million for the purchase of capital
equipment. The $2.0 million credit line bears interest at Imperial Bank's
prime rate (9.50% at June 30, 2000), with principal and interest due at
maturity in one year. The $10.0 million equipment facility bears interest
payable monthly during each draw period at Imperial's prime rates plus 0.75%
followed by 36 equal monthly payments of principal plus interest. Borrowings
under this facility are secured by a pledge of substantially all of our
assets. At June 30, 2000, $7.7 million was outstanding under the amended
credit facility with Imperial Bank. As of June 30, 2000, we had amounts
outstanding under eight notes payable, totaling approximately $2.0 million,
under our credit facility with Dominion Venture Finance LLC. The notes payable
to Dominion bear interest at rates ranging from 8.57% to 9.65%.
7. CERTAIN TRANSACTIONS
In June, 2000, we acquired a private company named VidiPax, Inc., based in
New York, New York. VidiPax is the leading independent company specializing in
the restoration and migration of older video and audio archives. Consideration
for VidiPax consisted of cash and stock. As a result of this acquisition,
approximately $460,000 in goodwill was recorded. This will be amortized over
three years.
8. RECENT ACCOUNTING PRONOUNCEMENTS
In December 1999, the staff of the Securities and Exchange Commission
released Staff Accounting Bulletin, or SAB, No. 101, "Revenue Recognition", to
provide guidance on the recognition, presentation, and disclosure of revenues
in financial statements. On March 24, 2000 Staff Accounting Bulletin No.
101A-
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Amendment ("SAB101A") was released to effectively delay the implementation of
SAB101 until the second fiscal quarter of the fiscal year beginning after
December 15, 1999. On June 26, 2000, Staff Accounting Bulletin No. 101B-
Second Amendment ("SAB101B") was issued and amends the transition provisions
of SAB101 and effectively supersedes the original extension provided for in
SAB101A. SAB101B further delays the required implementation date for SAB101
until the quarter ending December 31, 2000. We believe that our revenue
recognition practices are currently in conformity with the guidelines in
SAB101 as revised, and therefore this announcement will have no impact on our
financial statements.
In March 2000, the Financial Accounting Standards Board, or FASB, released
FASB Interpretation No. 44, "Accounting for Certain Transactions involving
Stock Compensation, an interpretation of APB Opinion No. 25," which provides
clarification of Opinion 25 for certain issues such as the determination of
who is an employee, the criteria for determining whether a plan qualifies as a
noncompensatory plan, the accounting consequence of various modifications to
the terms of a previously fixed stock option or award, and the accounting for
an exchange of stock compensation awards in a business combination. We
believe that our practices are in conformity with this guidance, and therefore
Interpretation No. 44 will have no impact on our financial statements.
In March 2000, the Emerging Issues Task Force of the FASB, or EITF, issued
EITF 00-2, "Accounting for the Costs of Developing a Website." This issue
addresses how an entity should account for costs incurred to develop a
website. To date, we have not capitalized any such costs and believe that our
historical and current practices are in conformity with EITF 00-2 and
therefore, this release will not have a material impact on our financial
statements.
In March 2000, the EITF issued EITF 00-3, Application of AICPA SOP 97-2 to
"Arrangements that Include the Right to Use Software Stored on Another
Entity's Hardware." This issue addresses situations where entities license
software applications to a third party and also host those applications. We
do not expect this pronouncement to have a material impact on our financial
statements.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Forward-Looking Statements
The following discussion of our financial condition and results of operations
contains forward-looking statements within the meaning of section 27A of the
Securities Act of 1993 and Section 21E of the Securities Exchange Act of 1934.
These statements relate to future events or our future financial performance. In
some cases, you can identify forward-looking statements by terminology such as
may, will, should, expect, plan, anticipate, believe, estimate, predict,
potential or continue, the negative of terms like these or other comparable
terminology. These statements are only predictions. Actual events or results may
differ materially. All forward-looking statements included in this document are
based on information available to us on the date hereof, and we assume no
obligation to update any such forward-looking statements. In evaluating these
statements, you should specifically consider various factors, including the
risks outlined under the caption "Risk Factors" set forth at the end of this
Item 2, the Risk Factors set forth in our prospectus dated March 15, 2000 filed
with the Securities and Exchange Commission and those contained from time to
time in our other filings with the SEC. We caution investors that our business
and financial performance are subject to substantial risks and uncertainties.
Overview
We are a leading provider of Internet media infrastructure services and
applications for the media entertainment and corporate markets that enable our
customers to optimize the use of digital media content over the Internet and
intranets. We provide our customers with outsourced and end-to-end solutions
that include encoding services, publication and distribution of rich media and
hosting services. Substantially all of our revenues to date have been generated
by sales of digital media services. Digital media services revenues consist
primarily of encoding services to convert audio and video content into Internet
media formats, as well as other services for deployment of media over the
Internet. We charge our customers on either a time and materials basis or a
fixed fee basis that depends on a variety of factors, such as volume and type of
content provided and number and type of output formats requested. We generally
recognize digital media services revenues as the service is provided and we have
no further involvement. Payment terms with customers generally require payment
within 30 days of the invoice date. Our digital media applications strategy
consists of the Loudeye Media Syndicator application and targeted vertical
applications based on our digital media application platform.
In the six months ended June 30, 2000, we recorded deferred stock
compensation related to stock options granted below deemed fair market value in
that period of $3.1 million. This amount represents the difference between the
exercise price of stock option grants and the deemed fair value of the common
stock at the time of grant. During the six months ended June 30, 2000, we
amortized $2.6 million of deferred stock compensation which is presented as
stock-based compensation expense in the accompanying statements
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of operations. Due to stock option cancellations, $860,000 of deferred stock
compensation was reversed and $262,000 in previously amortized deferred stock
compensation was recorded as a credit to stock-based compensation expense in the
six months ended June 30, 2000. We will record additional stock-based
compensation charges of $6.5 million in respect of all options granted to date
over the vesting period of the options, which is generally four and one-half
years. As a result, the amortization of stock-based compensation associated with
options granted prior to the date of this report will impact our reported
results of operations through fiscal 2005.
To date, we have granted approximately 220,000 options to consultants which
vest on similar terms as options granted to employees. These terms require that
the individuals continue their current consulting relationship with us in order
to continue vesting. Approximately 74,000 of these options had vested in full
as of June 30, 2000 and therefore have no further compensation related to their
vesting. Approximately 53,000 of these options had been cancelled as of June
30, 2000. Remaining options are accounted for in accordance with the provisions
of SFAS 123 and EITF 96-18. Accordingly, using the Black-Scholes option pricing
model and assuming a term of four and one-half years, a risk-free interest rate
of 5.81% and expected volatility of 75%, the options are marked to fair value at
each reporting period through charges to stock-based compensation in the
statements of operations. Approximately $1.1 million was recognized in stock-
based compensation expense related to these options in the six months ended June
30, 2000. Subsequent to June 30, these consulting relationships were ended,
resulting in additional vesting of approximately 10,000 shares with the
remaining outstanding options being canceled. The impact of the termination of
these consultant options will be a charge to stock-based compensation of
approximately $144,000. As of the date of this report, approximately 3,100
options remain outstanding which require fair value accounting.
We have sustained losses and incurred negative gross margins on a quarterly
and annual basis since inception and we expect to sustain losses and incur
negative gross margins for the foreseeable future as we expand our operations
and production facilities. As of June 30, 2000, we had an accumulated deficit
of $46.0 million. Operating losses resulted from significant costs incurred in
the development and sale of our products and services as well as significant
non-cash charges related to stock-based compensation and amortization of
intangibles and other assets. We expect our operating expenses to continue to
increase in all functional areas in order to execute our business plan. We
expect to continue to expand our employee headcount. Company-wide part-time and
full time employment has grown from approximately 74 at June 30, 1999 to
approximately 339 at June 30, 2000. As a result, we anticipate that these
operating expenses, as well as planned capital expenditures, will constitute a
material use of our cash resources. We expect to incur additional losses and
continued negative cash flow from operations in the future. We cannot assure
you that we will achieve or sustain profitability.
Our limited operating history makes the prediction of future operating
results difficult. In view of our limited operating history and the early and
rapidly evolving nature of our business, we believe that period-to-period
comparisons of our operating results, particularly for the three and six months
ended June 30, 2000 and 1999, are not meaningful and should not be relied upon
as an indication of future performance. Our business prospects must be
considered in light of the risks and uncertainties often encountered by early-
stage companies in the Internet-related products and services
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market. We may not be successful in addressing these risks and uncertainties. We
have experienced significant percentage growth in revenues in recent periods;
however, we do not believe that prior growth rates are sustainable or indicative
of future growth rates. It is likely that in some future quarter our operating
results may fall below the expectations of securities analysts and investors. In
this event, the trading price of our common stock may fall significantly.
Results of operations
Three Months Ended June 30, 2000 and 1999
Revenues. Revenues were $2.6 million and approximately $528,000 for the
three months ended June 30, 2000 and 1999, respectively. The increase of 392%
was due primarily to continuing orders from repeat customers. Our digital media
services business was supported by continued strong demand for our consulting
services, which was introduced in late 1999. Additionally, we believe that the
addition of employees in sales and marketing functions during prior periods
contributed to the increased sales this period.
Cost of Revenues. Cost of revenues increased 466% to $3.0 million in 2000
from approximately $530,000 in 1999. Cost of revenues includes cost of personnel
expenses and the allocated portion of facilities and equipment related to the
delivery of digital media services and applications. Stock-based compensation
charges of approximately $87,000 and $1,000 for the three months ended June 30,
2000 and 1999, respectively are attributable to employees categorized within
production (cost of revenues) and are presented in a separate line item within
the statements of operations. Cost of revenues as a percent of revenues
increased to 115% for the three months ended June 30, 2000 from 100% of revenues
for the three months ended June 30, 1999. The increase was primarily due to an
increase in additional employees and facilities to provide necessary capacity to
meet increased sales volumes. The decrease in gross margin as a percent of
revenues was primarily due to the expansion of our facilities and added
allocations which increased at a rate greater than the increase in our sales.
Operating Expenses. Operating expenses increased 482% to $9.9 million in
the three months ended June 30, 2000 from $1.7 million in the three months ended
June 30, 1999. Without the effect of approximately $228,000 of stock-based
compensation charges and $1.8 million in amortization of intangible assets and
partner acquisition costs, operating expenses for the three months ended June
30, 2000 would have been $7.9 million, an increase of $6.2 million, or 365% over
the three months ended June 30, 1999.
Research and Development Expenses. Research and development expenses
increased 791% to $1.8 million, or 69% of revenues; in the three months ended
June 30, 2000 from approximately $202,000, or 38% of revenues, in the three
months ended June 30, 1999. Research and development expenses consist of
salaries and consulting fees to support development, costs of technology
acquired from third parties to incorporate into applications and other
proprietary technology currently under development. Additionally, costs of
developing Loudeye Media Syndicator for license to third parties
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and continued work on enhancing our proprietary automated encoding processes
comprise a significant portion of research and development expenses. Stock-
based compensation charges of approximately $54,000 in the three months ended
June 30, are attributable to employees categorized within research and
development and are presented in a separate line item within the statements of
operations. There were no stock-based compensation charges in the three months
ended June 30, 1999. Approximately $453,000 of research and development costs
was capitalized within other intangible assets as capitalized software
development costs. All other research and development costs were expensed as
incurred. We believe that continued investment in research and development is
critical to attaining our strategic objectives and, as a result, expect research
and development expenses to increase.
Sales and Marketing Expenses. Sales and marketing expenses increased 353%
to $4.2 million, or 162% of revenues; in the three months ended June 30, 2000
from approximately $927,000, or 176% of revenues, in the three months ended June
30, 1999. Sales and marketing expenses consist primarily of salaries,
commissions and product marketing support, trade show expenses, advertising and
cost of marketing collateral. The increase in sales and marketing expenses was
primarily due to growth in the sales force, commissions paid on the increased
sales over the same period in 1999 marketing related to the launch of our Media
Syndicator application and expanded advertising and trade show related expenses.
Further, we intend to continue our aggressive branding and marketing campaigns
and therefore expect sales and marketing expenses to increase. Stock-based
compensation charges of approximately $142,000 in the three months ended June
30, 2000 are attributable to employees categorized within sales and marketing
and are presented in a separate line item within the statements of operations.
There was approximately $1,000 in stock-based compensation charges in the three
months ended June 30, 1999.
General and Administrative Expenses. General and administrative expenses
increased 222% to $1.9 million, or 73% of revenues, in the three months ended
June 30, 2000 from approximately $590,000, or 112% of revenues, in the three
months ended June 30, 1999. The increase in absolute terms was primarily
driven by new facilities opened during late 1999 and the first quarter of 2000
and the increase in employees in the finance, information technology, legal,
investor relations and executive areas required to support a larger
organization, and increased public reporting obligations. The decrease as a
percentage of revenues was driven by added focus on cost control measures as
compared to the same period of the prior year. General and administrative
expenses consist primarily of unallocated rent, facilities and information
technology charges, salaries, legal expenses for general corporate purposes
and patents, investor relations costs associated with becoming a public company,
and recruiting and relocation costs required for the significant expansion in
our operations. We believe that as operations continue to increase in size and
scope, general and administrative expenses will continue to increase. A Stock-
based compensation credit of approximately $55,000 and expense of approximately
$6,000 for the three months ended June 30, 2000 and 1999, respectively is
attributable to employees and consultants categorized within general and
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administrative and is presented within a separate line item within the
statements of operations.
Amortization of Intangibles and Other Long-Term Assets. Amortization of
intangibles and other long-term assets of $1.8 million in the three months ended
June 30, 2000 include amortization of the goodwill and identified intangible
assets recorded as part of the Alive.com and VidiPax acquisitions, which took
place in December 1999 and June 2000. Additional charges for the amortization of
capitalized partner acquisition costs related to the fair value of warrants
granted to Valley Media and the discount on the sale of securities to Akamai
Technologies which closed concurrent with our initial public offering are also
included in this line item on the statements of operations. There were no
intangible assets as of June 30, 1999, and accordingly, there were no related
amortization charges .
Stock-Based Compensation. Stock-based compensation of approximately
$228,000 in the three months ended June 30, 2000 consists of $1.3 million in
amortization of deferred stock compensation related to stock options granted
below deemed fair market value through June 30, 2000, approximately $262,000 in
credits related to the reversal of previously amortized deferred stock
compensation due to cancellation of options and $846,000 in credits related to
marking options granted to consultants to fair market value as of June 30, 2000.
There was approximately $8,000 in stock-based compensation charges in the three
months ended June 30, 1999.
Interest Income. Interest income is a combination of earnings on our cash,
and cash equivalents and short-term investments. This total was $1.7 million in
the three months ended June 30, 2000 and approximately $23,000 in the three
months ended June 30, 1999. The additional income was due primarily to interest
earned on our significantly higher cash and investment balances in 2000, which
totaled $108.3 million at June 30, 2000.
Interest Expense and Other. Interest expense and other consists of interest
payments made on our debt instruments as well as amortization of financing
charges related to our debt instruments. This total was approximately $166,000
in the three months ended June 30, 2000 and approximately $33,000 in the three
months ended June 30, 1999. The increase was due primarily to interest paid on
increased levels of borrowings.
Results of operations
Six Months Ended June 30, 2000 and 1999
Revenues. Revenues were $4.2 million and approximately $829,000 for the six
months ended June 30, 2000 and 1999, respectively. The increase of 407% was due
primarily to an increase in the number and average size of orders for our
digital media services and continuing orders from repeat customers. We believe
that the increase in sales was primarily driven by the addition of new employees
within sales and marketing functions during the six months ended June 30, 2000.
Additionally, the introduction of our consulting services in late 1999 and the
commencement of applications sales added to the increase in revenues over the
same period last year.
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Cost of Revenues. Cost of revenues increased 467% to $5.2 million in 2000
from approximately $917,000 in 1999. Cost of revenues includes cost of personnel
expenses and the allocated portion of facilities and equipment related to the
delivery of digital media services and applications. Stock-based compensation
charges of approximately $340,000 and $1,000 for the six months ended June 30,
2000 and 1999, respectively are attributable to employees categorized within
production (cost of revenues) and are presented in a separate line item within
the statements of operations. Cost of revenues as a percent of revenues
increased to 124% for the six months ended June 30, 2000 from 111% of revenues
for the period ended June 30, 1999. The increase was primarily due to an
increase in additional employees and facilities to provide necessary capacity to
meet increased sales volumes. The decrease in gross margin as a percent of
revenues was primarily due to the expansion of our facilities and added
allocations which increased at a rate greater than the increase in our sales.
Operating Expenses. Operating expenses increased 632% to $20.5 million in
the period ended June 30, 2000 from $2.8 million in the six months ended June
30, 1999. Without the effect of $3.4 million of stock-based compensation charges
and $3.5 million in amortization of intangible assets and partner acquisition
costs, operating expenses for the period ended June 30, 2000 would have been
$13.6 million, an increase of $10.8 million, or 386% over the six months ended
June 30, 1999.
Research and Development Expenses. Research and development expenses
increased 801% to $3.1 million, or 74% of revenues; in the six months ended June
30, 2000 from approximately $344,000, or 41% of revenues, in the six months
ended June 30, 1999. The increase was due primarily to increases in
applications under development and additional development personnel. Research
and development expenses consist of salaries and consulting fees to support
development, costs of technology acquired from third parties to incorporate into
applications and other proprietary technology currently under development.
Additionally, costs of developing Loudeye Media Syndicator for license to third
parties and continued work on enhancing our proprietary automated encoding
processes comprise a significant portion of research and development expenses.
Stock-based compensation charges of approximately $211,000 in the six months
ended June 30 are attributable to employees categorized within research and
development and are presented in a separate line item within the statements of
operations. To date, approximately $506,000 of research and development costs
has been capitalized within other intangible assets as capitalized software
development costs. All other research and development costs have been expensed
as incurred. We believe that continued investment in research and development is
critical to attaining our strategic objectives and, as a result, expect research
and development expenses to increase.
Sales and Marketing Expenses. Sales and marketing expenses increased 400%
to $7.0 million, or 167% of revenues, in the six months ended June 30, 2000 from
$1.4 million, or 169% of revenues, in the six months ended June 30, 1999. The
increase was
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primarily due to growth in the sales force, commissions paid on the increased
sales over the same period in 1999 and costs related to our increased branding
and marketing campaigns. We intend to continue our aggressive branding and
marketing campaigns and therefore expect sales and marketing expenses to
increase. Sales and marketing expenses consist primarily of salaries,
commissions, trade show expenses, marketing related to the launch of new
products, launch costs associated with the opening of our U.K. sales office,
advertising and cost of marketing collateral. Stock-based compensation charges
of approximately $558,000 in the six months ended June 30, 2000 and $1,000 in
the six months ended June 30, 1999 are attributable to employees categorized
within sales and marketing and are presented in a separate line item within the
statements of operations.
General and Administrative Expenses. General and administrative expenses
increased 250% to $3.5 million, or 83% of revenues, in the six months ended June
30, 2000 from $1.0 million, or 121% of revenues, in the six months ended June
30, 1999. The increase in absolute terms was primarily driven by new facilities
opened during late 1999 and the first quarter of 2000 and the increase in
employees in the finance, information technology, legal, investor relations and
executive areas required to support a larger organization, and increased public
reporting obligations. General and administrative expenses consist primarily of
unallocated rent, facilities and information technology charges, salaries, legal
expenses for general corporate purposes and patents, investor relations costs
associated with becoming a public company, and recruiting and relocation costs
required for the significant expansion in our operations. We believe that as
operations continue to increase in size and scope, general and administrative
expenses will continue to increase. Stock-based compensation charges of $2.3
million for the six months ended June 30, 2000 and approximately $6,000 for the
six months ended June 30, 1999 are attributable to employees and consultants
categorized within general and administrative and are presented within a
separate line item within the statements of operations. Of the total stock-based
compensation charges, $1.1 million is due to marking options granted to
consultants to fair value.
Amortization of Intangibles and Other Long-Term Assets. Amortization of
intangibles and other long-term assets of $3.5 million in the six months ended
June 30, 2000 include amortization of the goodwill and identified intangible
assets recorded as part of the Alive.com acquisition, which took place in
December 1999. Additional amortization of capitalized partner acquisition costs
of $1.1 million and $376,000 related to the fair value of warrants granted to
Valley Media and the discount on the sale of securities to Akamai Technologies
which closed concurrent with our initial public offering is included in this
line item on the statements of operations. There were no intangible assets as of
June 30, 1999, and accordingly, there were no related amortization charges.
Stock-Based Compensation. Stock-based compensation of $3.4 million in the six
months ended June 30, 2000 consists of $2.6 million in amortization of deferred
stock compensation related to stock options granted below deemed fair market
value through June 30, 2000 and $1.1 million in expense related to marking
options granted to consultants to fair market value as of June 30, 2000,
partially offset by a credit of approximately $262,000 due to stock option
cancellations.
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Interest Income. Interest income is a combination of earnings on our cash,
and cash equivalents and short-term investments. This total was $2.4 million in
the six months ended June 30, 2000 and approximately $33,000 in the six months
ended June 30, 1999. The additional income was due primarily to interest earned
on our significantly higher cash and investment balances in 2000, which totaled
$108.3 million at June 30, 2000.
Interest Expense and Other. Interest expense and other consists of interest
payments made on our debt instruments as well as amortization of financing
charges related to our debt instruments. This total was approximately $276,000
in the six months ended June 30, 2000 and approximately $54,000 in the six
months ended June 30, 1999. The increase was due primarily to interest paid on
increased levels of borrowings.
Liquidity and Capital Resources
Net cash used in operating activities was $14.5 million and $3.2 million in
the six months ended June 30, 2000 and 1999, respectively. For 2000, cash used
in operating activities resulted primarily from a net loss of $19.4 million, a
decrease of approximately $4.1 million in accounts payable and an increase in
trade accounts receivable of approximately $367,000, largely offset by non-cash
charges of $8.4 million related to stock-based compensation, depreciation and
amortization and increases of approximately $708,000 in customer deposits and
deferred revenues and increases of $1.4 million in other accrued expenses. Cash
used in operating activities in 1999 was due primarily to a net loss of $2.9
million.
Net cash used in investing activities was $15.1 million and $1.0 million
for the six months ended June 30, 2000 and 1999, respectively. This was
primarily related to purchases of equipment, cash paid for acquisition of
businesses and capitalized software development costs.
Net cash provided by financing activities was $87.8 million and $4.3 for
the six months ended June 30, 2000 and 1999, respectively. The cash provided by
financing activities in 2000 primarily resulted from the net proceeds of our
initial public offering, the concurrent sale of shares to a strategic investor
and the underwriters' exercise of their over-allotment option. On March 15,
2000, we closed our initial public offering of 4,500,000 shares of common stock
at $16.00 per share, for net proceeds of $67.0 million. On April 14, 2000, the
underwriters for the IPO exercised their over-allotment option and purchased an
additional 675,000 shares at $16.00 per share, for net proceeds of $10.0
million. Concurrent with the initial public offering, we sold 336,022 shares of
common stock at a price of $14.88 per share to a strategic investor. Net
proceeds were $5.0 million. The discount from the initial public offering price
of approximately $376,000 was capitalized as an intangible asset and will be
amortized over a period of one year. The combined net proceeds from the
preceding transactions, less offering costs of $1.6 million, were $80.4 million.
An additional $8.0 million in proceeds was generated from our credit facility
with Imperial Bank. As of June 30, 2000, we had $108.3 million of cash, cash
equivalents and short-term investments.
As of June 30, 2000, our principal commitments consisted of obligations
outstanding under operating leases, a note payable of approximately $694,000
under our credit
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facility with Imperial Bank and eight notes payable, totaling approximately $2.0
million, under our credit facility with Dominion Venture Finance LLC. Borrowings
from Imperial Bank bear interest at Imperial's prime rates and are secured by
substantially all of our assets. The average interest rate paid on our
borrowings under the Imperial Bank facility was 9.48% and 9.11% in the three and
six months ended June 30, 2000, respectively. The notes payable to Dominion bear
interest at rates ranging from 8.57% to 9.65%. Interest on the Imperial Bank
note is payable monthly, and the principal is due on August 30, 2002. Interest
on the Dominion Venture Finance notes is payable monthly, and the principal is
due in the third and fourth quarters of 2002. For the foreseeable future we
anticipate an increase in our capital expenditures and lease commitments
consistent with anticipated growth in operations, infrastructure and personnel.
In June 2000, we entered into an agreement with Imperial Bank to amend our
loan agreement to permit revolving borrowings and standby letters of credit
aggregating up to $2.0 million. Additionally, the amended facility provides a
term loan of up to $10.0 million for the purchase of capital equipment. The $2.0
million credit line bears interest at Imperial Bank's prime rate (9.50% at June
30, 2000), with principal and interest due at maturity in one year. There were
no borrowings outstanding under the credit line at June 30, 2000. The $10.0
million equipment facility bears interest payable monthly during each draw
period at Imperial's prime rates plus 0.75% followed by 36 equal monthly
payments of principal plus interest. Borrowings under this facility are secured
by a pledge of substantially all of our assets. Approximately $7.7 million was
outstanding under the revised Imperial Loan Agreement at June 30, 2000.
Since our inception, we have significantly increased our operating expenses.
We currently anticipate that we will continue to experience significant growth
in our operating expenses for the foreseeable future and that our operating
expenses will be a material use of our cash resources.
We believe that our existing cash, cash equivalents, short-term investments,
the amounts available under the working capital line and the new facility will
be sufficient to meet our working capital and capital expenditure requirements
for at least the next 18 months. Thereafter, we may find it necessary to obtain
additional equity or debt financing. In the event additional financing is
required, we may not be able to raise it on acceptable terms or at all.
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RISK FACTORS
Risks Related to Our Operations
We have a limited operating history, making it difficult for you to evaluate our
business and your investment
Loudeye was formed as a limited liability company in August 1997 and
incorporated in March 1998. We therefore have a very limited operating history
upon which an investor may evaluate our operations and future prospects.
Because of our limited operating history, we have limited insight into trends
that may emerge and affect our business. In addition, the revenue and income
potential of our business and market are unproven. Because of the recent
emergence of the Internet media infrastructure industry, none of our executives
have significant experience in this industry. As a young company, we face risks
and uncertainties relating to our ability to implement our business plan
successfully, particularly due to the early stage of the streaming media
industry. Our potential for future profitability must be considered in light of
the risks, uncertainties, expenses and difficulties frequently encountered by
companies in their early stages of development, particularly companies in new
and rapidly evolving markets, such as the Internet media infrastructure
industry, using new and unproven business models.
Because we expect to continue to incur net losses, we may not be able to
implement our business strategy and the price of our stock may decline
We have incurred net losses from operations of $33.4 million during the
period August 12, 1997 (inception) through June 30, 2000. Given the level of our
planned operating and capital expenditures, we expect to continue to incur
losses and negative cash flows for the foreseeable future. To achieve
profitability, we must, among other things:
. Achieve customer adoption and acceptance of our products and services;
. Successfully scale our current operations;
. Introduce new digital media services and applications;
. Implement and execute our business and marketing strategies;
. Develop and enhance our brand;
. Adapt to meet changes in the marketplace;
. Respond to competitive developments in the Internet media infrastructure
industry;
. Continue to attract, integrate, retain and motivate qualified personnel;
and
. Upgrade and enhance our technologies to accommodate expanded digital
media service and application offerings.
We might not be successful in achieving any or all of these objectives.
Failure to achieve any or all of these objectives could have a serious adverse
impact on our business, results of operations and financial position. Even if
we ultimately do achieve profitability, we may not be able to sustain or
increase profitability on a quarterly or
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annual basis. Additionally, we expect to increase significantly our operating
expenses in the near future as we attempt to expand our digital media service
and application offerings, grow our customer base, enhance our brand image,
improve our technology infrastructure and open new offices. We expect the number
of our employees to continue to grow significantly. These higher operating costs
will likely increase our quarterly net losses for the foreseeable future.
Accordingly, our ability to operate our business and implement our business
strategy may be hampered and the value of our stock may decline.
Our quarterly financial results are subject to fluctuations that may make it
difficult to forecast our future performance and could cause our stock price to
decline
Our quarterly operating results have fluctuated in the past, and we expect
our revenues and operating results to vary significantly from quarter to quarter
due to a number of factors, including:
. Variability in demand for our digital media services and applications;
. Market acceptance of new digital media services and applications offered
by us and our competitors;
. Introduction or enhancement of digital media services and applications
offered by us and our competitors;
. Willingness of our customers to enter into volume purchase orders;
. The mix of distribution channels through which our products are licensed
and sold;
. Changes in the growth rate of Internet usage;
. Variability in average order size;
. Changes in our pricing policies or the pricing policies of our
competitors;
. Technical difficulties with respect to the use of our products;
. Governmental regulations affecting use of the Internet, including
regulations concerning intellectual property rights and security
measures;
. The amount and timing of operating costs and capital expenditures related
to expansion of our business operations and infrastructure;
. General economic conditions such as fluctuating interest rates and
inflation; and
. Economic conditions specifically related to the Internet such as
fluctuations in the costs of Internet access, hardware and software and
the profitability of the Internet businesses that are our customers.
Our limited operating history and new and unproven business model further
contribute to the difficulty of making meaningful quarterly comparisons. We
expect our operating expenses to increase significantly in absolute dollars.
Our current and future levels of operating expenses and capital expenditures are
based largely on our growth plans and estimates of future revenues. These
expenditure levels are, to a large extent, fixed in the short term. Thus, we
may not be able to adjust spending in a timely manner to compensate for any
unexpected shortfall in revenues and any significant shortfall in revenues
relative to planned expenditures could have an immediate adverse effect on our
business and results of operations. If our operating results fall below the
expectations of
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securities analysts and investors in some future periods, our stock price will
likely decline.
Historically, we have priced our digital media services based on the
customer's projected service volumes. We generally offer our digital media
services through volume purchase orders with prices determined by customers
committing to specific service volumes and schedules and paying nonrefundable
deposits. We attempt to secure these commitments from customers to enable us to
schedule time in our production facilities, to staff our operations efficiently
and to forecast revenues and cost of revenues. If our customers are not willing
to do business with us on these terms or if they do not fulfill their
commitments under volume purchase orders, our ability to forecast revenues will
be adversely affected and could contribute to increased fluctuation in our
quarterly results, which could seriously harm our business.
Although we have recently achieved significant percentage increases in our
quarterly revenues, this does not mean that future quarters can be expected to
show similar percentage revenue increases.
We are dependent on the development and rate of adoption of digital media and
the delay or failure of this development would seriously harm our business
We are dependent on the development and rate of adoption of digital media
and the delay or failure of this development would seriously harm our business.
The development of commercial applications for digital media content is in its
very early stages. If widespread commercial use of the Internet does not
develop, or if the Internet does not develop as an effective medium for the
distribution of digital media content to consumers, then we will not succeed in
executing our business plan. Many factors could inhibit the growth of
electronic commerce in general and the distribution of digital media content in
particular, including concerns about the profitability of Internet-based
businesses, uncertainty about how to generate revenue by using rich media,
bandwidth constraints, piracy and privacy.
Our success depends on users having access to the necessary hardware,
software and bandwidth, or data transmission capability, to receive high quality
digital media over the Internet. Congestion over the Internet and data loss may
interrupt audio and video streams, resulting in unsatisfying user experiences.
In order to receive digital media adequately, users generally must have
multimedia personal computers with certain microprocessor requirements and a
data transmission capability of at least 28.8 Kbps as well as streaming media
software. The success of digital media over the Internet depends on the
continued rollout of broadband access to consumers on an affordable basis.
Users typically download digital media software and install it on their personal
computers. This installation may require technical expertise that some users do
not possess. Furthermore, some information systems managers block reception of
digital media over corporate intranets because of bandwidth constraints.
Widespread adoption of digital media technology depends on overcoming these
obstacles, identifying viable revenue models for digital media, improving audio
and video quality and educating customers and users in the use of digital media
technology. If digital media technology fails to overcome these obstacles, our
business could be seriously harmed.
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We may be liable to third parties for music, software, and other content that we
encode, distribute, or make available on our site
We may be liable to third parties for the content that we encode, distribute
or make available on our site:
. If the content violates third party copyright, trademark, or other
intellectual property rights;
. If our customers violate the intellectual property rights of others by
providing content to us or by having us perform digital media services; or
. If content that we encode or otherwise handle for our customers is deemed
obscene, indecent, or defamatory.
In addition, we face the risk of our customers misrepresenting to us that
they have all necessary ownership rights in the content for us to perform our
encoding services. Any alleged liability could harm our business by damaging our
reputation, requiring us to incur legal costs in defense, exposing us to awards
of damages and costs and diverting management's attention which could have an
adverse effect on our business, results of operations and financial condition.
Our customers for encoding services generally agree to hold us harmless from
claims arising from their failure to have the right to encode the content given
to us for that purpose. However, customers may contest this responsibility or
not have sufficient resources to defend claims and we have limited insurance
coverage for claims of this nature.
Because we host audio and video content on our Web site and on other Web
sites for customers and provide services related to digital media content, we
face potential liability for negligence, infringement of copyright, patent, or
trademark rights, defamation, indecency and other claims based on the nature and
content of the materials we host. Claims of this nature have been brought, and
sometimes successfully pressed, against Internet content distributors. In
addition, we could be exposed to liability with respect to the unauthorized
duplication of content or unauthorized use of other parties' proprietary
technology. Any imposition of liability that is not covered by insurance or is
in excess of insurance coverage could harm our business.
We cannot assure you that third parties will not claim infringement by us
with respect to past, current, or future technologies. We expect that
participants in our markets will be increasingly subject to infringement claims
as the number of services and competitors in our industry segment grows. In
addition, these risks are difficult to quantify in light of the continuously
evolving nature of laws and regulations governing the Internet. Any claim
relating to proprietary rights, whether meritorious or not, could be time-
consuming, result in costly litigation, cause service upgrade delays or require
us to enter into royalty or licensing agreements, and we can not assure you that
we will have adequate insurance coverage or that royalty or licensing agreements
will be available on terms acceptable to us or at all.
We rely on strategic relationships to promote our services and for access to
licensed technology; if we fail to maintain or enhance these relationships, our
ability to serve our customers and develop new services and applications could
be harmed
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Our ability to provide our services to users of multiple technologies and
platforms depends significantly on our ability to develop and maintain our
strategic relationships with key streaming media technology companies including,
among others, Apple Computer, Inc., Microsoft Corporation, RealNetworks, Inc.
and Terran Interactive, Inc. and hosting and distribution companies including,
among others, Digital Island, Inc., Akamai Technologies, Inc., AT&T, Intel,
iBEAM Broadcasting and Enron Corp. We rely on these relationships for licensed
technology to maintain our ability to service RealNetworks RealMedia, Microsoft
Windows Media and Apple Quicktime platforms and applications. Due to the
evolving nature of the Internet media infrastructure market, we will need to
develop additional relationships to adapt to changing technologies and standards
and to work with newly emerging companies with whom we do not have preexisting
relationships. We cannot be certain that we will be successful in developing
new relationships or that our partners will view these relationships as
significant to their own business or that they will continue their commitment to
us in the future. If we are unable to maintain or enhance these relationships,
we may have difficulty strengthening our technology development and increasing
the adoption of our brand and services.
If we are ineffective in managing our rapid growth, our business may be harmed
We have rapidly and significantly expanded our operations and anticipate
that further rapid expansion will be required to execute our business strategy.
This growth has accelerated since January 1, 1999; from January 1, 1999 to June
30, 2000, we have grown from 41 to 339 employees. In December 1999, we acquired
Alive.com, Inc. and in June 2000 we acquired VidiPax, Inc.
In addition, we are in the process of installing additional production
equipment for our digital media services. Integrating additional production
facilities with our existing space has placed a significant strain on our
employees, management systems, information systems, accounting systems, encoding
systems and other resources. If we do not manage our growth effectively, our
business, results of operations and financial condition could be seriously
harmed.
Our current systems are insufficient to accommodate our targeted level of
future operations. Effectively managing our expected future growth will
require, among other things, that we successfully upgrade and expand our
production processes and systems, expand the breadth of products and services we
offer, improve our management reporting capabilities and strengthen internal
controls and accounting systems. We will also need to attract, hire and retain
highly skilled and motivated officers and employees. We must also maintain
close coordination among our marketing, operations, development and accounting
organizations.
We have recently added new production facilities in Santa Monica,
California, New York, New York and London, England. If we are unable to manage
the expansion effectively, our business could be harmed.
Technological advances may cause our services and applications to be unnecessary
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As more audio and video content is originally created in digital media
formats, the need for our encoding services may decrease. In addition, the
advancement of features in streaming media software applications from Microsoft,
RealNetworks and others may incorporate services and applications we currently
offer, or intend to offer, making our services or applications unnecessary or
obsolete. This could seriously harm our business.
If we are unable to scale our capacity sufficiently as demand increases, we may
lose customers which would seriously harm our business
The average volume of orders we have had to fulfill has been below our
designed capacity, and we cannot be certain that our facilities and employees
will be able to manage a substantially larger number of customer orders or
volume of content while maintaining current levels of performance. If customer
demand increases, our failure to achieve or maintain high capacity for our
production facilities may cause us to lose customers or fail to gain new ones,
reducing our revenues and causing our business and financial results to suffer.
The failure to retain and attract key technical personnel and other highly
qualified employees could harm our business
Because of the complexity of our services, applications and related
technologies, we are substantially dependent upon the continued service of our
existing product development personnel. In addition, we intend to hire
additional engineers with high levels of experience in designing and developing
software and rich media products in time-pressured environments. There is
intense competition in the Puget Sound region for qualified technical personnel
in the software and technology markets. New personnel will require training and
education and take time to reach full productivity. Our failure to attract,
train, and retrain these key technical personnel could seriously harm our
business.
As we continue to introduce additional applications and services, and as
our customer base and revenues grow, we will need to hire additional qualified
personnel in every other area of operations as well. Competition for these
personnel is also extremely intense, and we may not be able to attract, train,
assimilate or retain qualified personnel in the future. Our failure to attract
or retain qualified personnel could seriously harm our business, results of
operations and financial condition.
Finally, our business and operations are substantially dependent on the
performance of our executive officers and key employees, all of whom are
employed on an at-will basis and have worked together for only a short period of
time. We do not maintain "key person" life insurance on any of our executive
officers. The loss of Martin G. Tobias, our founder and chief executive officer,
could seriously harm our business, as could the loss of several other key
executives.
Competition may decrease our market share, revenues, and gross margins, which
may cause our stock price to decline
Our products and services are divided into digital media services, which is
the encoding of audio and video content for deployment over the Internet, and
digital media
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applications, which are applications that enable our customers to employ digital
media in their Web-based products and services.
The market for digital media services and applications is relatively new,
and we face competition from in-house encoding services by potential customers,
other vendors that provide outsourced digital media services and companies that
directly provide digital media applications. If we do not compete effectively or
if we experience reduced market share from increased competition, our business
will be harmed. In addition, the more successful we are in the emerging market
for Internet media services and applications, the more competitors are likely to
emerge including turnkey Internet media application and service providers such
as Yahoo!, Broadcast Services, and V-Stream; streaming media platform developers
such as Apple, Microsoft, RealNetworks, and Liquid Audio, Inc.; and video post-
production houses. Our digital media services business may face competitive
services from companies such as Globix Corporation, Magnum Design and Sonic
Foundry. Our digital media applications business may face competitive products
from companies like AudioSoft, AudioTruck, InterTrust Technologies Corporation,
Microsoft, RealNetworks, Versifi, Virage and Vignette Corporation.
We also may not compete successfully against current or future competitors,
many of whom have substantially more capital, longer operating histories,
greater brand recognition, larger customer bases and significantly greater
financial, technical and marketing resources than we do. These competitors may
also engage in more extensive development of their technologies, adopt more
aggressive pricing policies and establish more comprehensive marketing and
advertising campaigns than we can. Our competitors may develop products and
service offerings that are more sophisticated than our own. For these and other
reasons, our competitors' products and services may achieve greater acceptance
in the marketplace than our own, limiting our ability to gain market share and
customer loyalty and to generate sufficient revenues to achieve a profitable
level of operations.
Our business model is unproven, making it difficult to forecast our revenues and
operating results
Our business model is based on the premise that digital media content
providers and developers will outsource a large percentage of their encoding
services needs and content management needs. Our potential customers may rely on
internal resources for these needs. In addition, technological advances may
render an outsourced solution unnecessary, particularly as new media content is
created in a digital format. Market acceptance of our services will depend in
part on reductions in the cost of our services so that we may offer a more cost
effective solution than both our competitors and our customers doing the work
internally. Our cost reduction efforts may not allow us to keep pace with
competitive pricing pressures or may not lead to improved gross margins. In
order to remain competitive, we must reduce the cost of our services through
design and engineering changes. We may not be successful in reducing the costs
of our services.
Average selling prices of our services may decrease, which may harm our gross
margins
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The average selling prices of our services may be lower than expected as a
result of competitive pricing pressures, promotional programs and customers who
negotiate price reductions in exchange for longer term purchase commitments or
otherwise. The pricing of services sold to our customers depends on the duration
of the agreement, the specific requirements of the order, purchase volumes, the
sales and service support and other contractual agreements. We have experienced
and expect to continue to experience pricing pressure and anticipate that the
average selling prices and gross margins for our products will decrease over
product life cycles. We may not be successful in developing and introducing on a
timely basis new products with enhanced features that can be sold at higher
gross margins.
If we fail to enhance our existing services and applications products or develop
and introduce new digital media services, applications and features in a timely
manner to meet changing customer requirements and emerging industry standards,
our ability to grow our business will suffer
The market for Internet media infrastructure solutions is characterized by
rapidly changing technologies and short product life cycles. These market
characteristics are heightened by the emerging nature of the Internet and the
continuing trend of companies from many industries to offer Internet-based
applications and services. The widespread adoption of the new Internet,
networking, streaming media, or telecommunications technologies or other
technological changes could require us to incur substantial expenditures to
modify or adapt our operating practices or infrastructure. Our future success
will depend in large part upon our ability to:
. Identify and respond to emerging technological trends in the market;
. Develop and maintain competitive digital media services and applications;
. Enhance our products by adding innovative features that differentiate our
digital media services and applications from those of our competitors;
. Acquire and license leading technologies;
. Bring digital media services and applications to market on a timely basis
at competitive prices; and
. Respond effectively to new technological changes or new product
announcements by others.
We will not be competitive unless we continually introduce new services and
applications and enhancements to existing services and applications that meet
evolving industry standards and customer needs. In the future, we may not be
able to address effectively the compatibility and interoperability issues that
arise as a result of technological changes and evolving industry standards. The
technical innovations required for us to remain competitive are inherently
complex, require long development schedules and are dependent in some cases on
sole source suppliers. We will be required to continue to invest in research and
development in order to attempt to maintain and enhance our existing
technologies and products, but we may not have the funds available to do so.
Even if we have sufficient funds, these investments may not serve the needs of
customers or be compatible with changing technological requirements or
standards. Most
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development expenses must be incurred before the technical feasibility or
commercial viability or new or enhanced services and applications can be
ascertained. Revenue from future services and applications or enhancements to
services and applications may not be sufficient to recover the associated
development costs.
We cannot be certain that we will be able to protect our intellectual property,
and we may be found to infringe proprietary rights of others, which could harm
our business
Our intellectual property is important to our business, and we seek to
protect our intellectual property through copyrights, trademarks, patents, trade
secrets, confidentiality provisions in our customer, supplier and strategic
relationship agreements, nondisclosure agreements with third parties, and
invention assignment agreements with our employees and contractors. We presently
have five patent applications on file with the U.S. Patent and Trademark Office.
We cannot assure that any or all of the patent applications will be granted. We
cannot assure you that measures we take to protect our intellectual property
will be successful or that third parties will not develop alternative solutions
that do not infringe upon our intellectual property. In addition, we could be
subject to intellectual property infringement claims by others. These claims,
and any resultant litigation, should it occur, could subject us to significant
liability for damages including treble damages for willful infringement. In
addition, even if we prevail, litigation could be time-consuming and expensive
to defend and could result in the diversion of our time and attention. Any
claims from third parties may also result in limitations on our ability to use
the intellectual property subject to these claims. Further, we plan to offer our
digital media services and applications to customers worldwide including
customers in foreign countries that may offer less protection for our
intellectual property than the United States. Our failure to protect against
misappropriation of our intellectual property, or claims that we are infringing
the intellectual property of third parties could have a negative effect on our
business, revenues, financial condition and results of operations.
We depend on a limited number of large customers for a majority of our revenues
so the loss or delay in payment from one or a small number of customers could
have a significant impact on our revenues and operating results
A limited number of large customers have accounted for a majority of our
revenues and will continue to do so for the foreseeable future. During the six
months ended June 30, 1999, two of our customers composed approximately 36% of
our revenues, while in the six months ended June 30, 2000; one customer composed
approximately 15% of our revenues. We believe that a small number of customers
may continue to account for a significant percentage of our revenues for the
foreseeable future. Due to high revenue concentration among a limited number of
customers, the cancellation or delay of a customer order or our failure to
timely complete or deliver a project during a given quarter is likely to
significantly reduce revenues for the quarter. If we were to lose a key
customer, our business, financial condition, and operating results could suffer.
In addition, if a key customer fails to pay amounts it owes us, or does not
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pay those amounts on time, our revenues and operating results could suffer. If
we are unsuccessful in increasing our customer base, our business could be
harmed.
The length of our sales cycle is uncertain and therefore could cause significant
variations in our operating results
Our largest customers are typically large corporations that often require
long testing and approval processes before making a purchase decision.
Therefore, the length of our sales cycle the time between an initial customer
contact and completing a sale has been and may continue to be unpredictable. The
time between the date of our initial contact with a potential new customer and
the execution of a sales contract with that customer ranges from less than two
weeks to more than six months, depending on the size of the customer, the
application of our solution and other factors. Our sales cycle is also subject
to delays as a result of customer-specific factors over which we have little or
no control, including budgetary constraints and internal acceptance procedures.
During the sales cycle, we may expend substantial sales and management resources
without generating corresponding revenues. Our expense levels are relatively
fixed in the short term and are based in part on our expectation of future
revenues. As a result, any delay in our sales cycle could cause significant
variations in our operating results, particularly because a relatively small
number of customer orders represent a large portion of our revenues.
The technology underlying our services and applications is complex and may
contain unknown defects that could harm our reputation, result in product
liability or decrease market acceptance of our services and applications
The technology underlying our digital media services and applications is
complex and includes software that is internally developed and software licensed
from third parties. These software products may contain errors or defects,
particularly when first introduced or when new versions or enhancements are
released. We may not discover software defects that affect our current or new
services and applications or enhancements until after they are sold.
Furthermore, because our digital media services are designed to work in
conjunction with various platforms and applications, we are susceptible to
errors or defects in third-party applications that can result in a lower quality
product for our customers. Because our customers depend on us for digital media
management, any interruptions could:
. Damage our reputation;
. Cause our customers to initiate product liability suits against us;
. Increase our product development resources;
. Cause us to lose sales; and
. Delay market acceptance of our digital media services and applications.
We do not possess product liability insurance, and our errors and omissions
coverage is not likely to be sufficient to cover our complete liability
exposure.
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Our expansion into international markets will require significant resources and
will subject us to new risks that may limit our return from our international
sales efforts
One of our strategies to increase our sales is to add an international sales
force and operations. In March 2000 we opened a sales office in London, England.
Our further expansion will involve a significant use of management and financial
resources, particularly because we have no previous experience with
international operations. We may not be successful in creating international
operations or sales. In addition, international business activities are subject
to a variety of risks, including:
. The adoption of laws detrimental to our operations such as legislation
relating to the collection of personal data over the Internet or laws,
regulations or treaties governing the export of encryption related
software;
. Currency fluctuations;
. Actions by third parties such as discount pricing and business techniques
unique to foreign countries;
. Political instability; and
. Economic conditions including inflation, high tariffs or wage and price
controls.
We do not possess "political risk" insurance, and any of these risks could
restrict or eliminate our ability to do business in foreign jurisdictions.
Any acquisitions we make, including our recent acquisition of VidiPax, could
disrupt our business and harm our financial condition
We expect to search for and acquire businesses, technologies, services, or
products that we believe are a strategic fit with our business. We currently
have no binding commitments or definitive agreements with respect to any
material acquisition. If we do undertake any transaction of this sort, the
process of integrating an acquired business, technology, service, or product may
result in unforeseen operating difficulties and expenditures and may absorb
significant management attention that would otherwise be available for ongoing
development of our business. Moreover, we cannot assure you that the anticipated
benefits of any acquisition will be realized. Future acquisitions could result
in potentially dilutive issuances of equity securities, the incurrence of debt,
contingent liabilities, or amortization expenses related to goodwill and other
intangible assets and the incurrence of large and immediate write-offs, any of
which could seriously harm our business, results of operations and financial
condition.
In addition to recent changes in the Financial Accounting Standards Board
and SEC rules for merger accounting may affect our ability to make acquisitions
or be acquired. For example, elimination of the "pooling" method of accounting
for mergers increases the amount of goodwill that we would be required to
account for if we acquired another company, which would have an adverse
financial impact on our future net income. Further, the reduced availability of
write-offs for in-process research and development costs under the purchase
method of accounting in connection with an acquisition could make an acquisition
more costly for us.
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We have in the past experienced returns of our customers' encoded content, and
as our business grows we may experience increased returns, which could harm our
reputation and negatively affect our operating results
In the past, we have had on occasion difficulty monitoring the quality of
our service. A limited number of our customers have returned encoded content to
us for our failure to meet the customer's specifications and requirements. It is
likely that we will experience some level of returns in the future and, as our
business grows, the amount of returns may increase. Also, returns may harm our
relationship with potential customers and business in the future. If returns
increase, our reserves may not be sufficient and our operating results would be
negatively affected.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We provide Internet media infrastructure services and applications. Our
financial results could be affected by factors such as changes in interest rates
and fluctuations in the stock market. As all sales are currently made in U.S.
dollars, a strengthening of the dollar could make our services less competitive
in foreign markets. We do not use derivative instruments to hedge our risks. Our
interest income is sensitive to changes in the general level of U.S. interest
rates, particularly since the majority of our investments are in short-term
instruments. Due to the nature of our short-term investments, we anticipate no
material market risk exposure. Therefore, no quantitative tabular disclosures
are presented.
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PART II. OTHER INFORMATION
ITEM 1: LEGAL PROCEEDINGS
None.
ITEM 2: CHANGES IN SECURITIES AND USE OF PROCEEDS
(c) Recent Sales of Unregistered Securities
Pursuant to the acquisition of VidiPax, Inc. on June 14, 2000, the Company
issued 75,871 shares of Loudeye Common Stock the sole stockholder of VidiPax,
Inc. and to two providers of professional services to the sole stockholder. The
shares issued in the acquisition were issued in reliance on the exemption from
registration provided by Section 4(2) under the Act. The stockholder of the
acquired companies and the professional services providers made certain
representations to the Company as to investment intent, that they possessed a
sufficient level of financial sophistication and that they received information
about the Company. The shares issued in the transactions were subject to
restrictions on transfer absent registration under the Securities Act, and no
offers to sell the securities were made by any form of general solicitation or
general advertisement.
(d) Use of Proceeds from Sales of Registered Securities
The net proceeds of our initial public offering and the concurrent sale of
shares to Akamai Technologies, Inc. which both closed on March 15, 2000 as well
as the exercise of the underwriters' over-allotment option on April 14, 2000
were $82.0 million. As of June 30, 2000, we have used approximately $13.3
million of those proceeds for working capital and general corporate purposes,
including increased spending on sales and marketing, customer support, research
and development, expansion of our operational and administrative infrastructure,
and the purchase of capital equipment and businesses. We expect to use the
remaining proceeds of the offering for similar purposes. In addition, we may use
a portion of the net proceeds to acquire or invest in complimentary businesses,
technologies, product lines or products. However, specific amounts for any
future use of proceeds have not yet been determined and we have no current
plans, agreements or commitments with respect to any such acquisition, and we
are not currently engaged in any negotiations with respect to any such
transaction. Pending these uses, we intend to invest the net proceeds in short-
term, interest-bearing, investment grade securities with original maturities of
less than one year.
ITEM 3: DEFAULTS UPON SENIOR SECURITIES
None.
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ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY SHAREHOLDERS
None.
ITEM 5: OTHER INFORMATION
ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits.
--------------------------------------------------------------------------------
Exhibit Number Description
-------------- -----------
--------------------------------------------------------------------------------
2.1* Agreement and Plan of Reorganization dated November 19, 1999
between Loudeye Technologies, Inc. and Alive.com, Inc.
--------------------------------------------------------------------------------
3.1* Fifth Amended and Restated Certificate of Incorporation of
Loudeye Technologies, Inc.
--------------------------------------------------------------------------------
3.2* Form of Amended and Restated Certificate of Incorporation of
Loudeye.
--------------------------------------------------------------------------------
3.4* Bylaws of Loudeye Technologies, Inc.
--------------------------------------------------------------------------------
4.1* Form of Loudeye Technologies, Inc. common stock certificate.
--------------------------------------------------------------------------------
10.1* Form of Indemnification Agreement between Loudeye
Technologies and each of its officers and directors.
--------------------------------------------------------------------------------
10.2* 1998 Stock Option Plan, as amended.
--------------------------------------------------------------------------------
10.3* Alive.com, Inc. 1998 Stock Option Plan.
--------------------------------------------------------------------------------
10.4* 2000 Stock Option Plan.
--------------------------------------------------------------------------------
10.5* 2000 Director Stock Option Plan.
--------------------------------------------------------------------------------
10.6* 2000 Employee Stock Purchase Plan.
--------------------------------------------------------------------------------
10.7* Series A Preferred Stock Subscription Agreement dated March
26, 1998 between Loudeye Technologies, Inc. and Martin
Tobias.
--------------------------------------------------------------------------------
10.8* Series A Preferred Stock Subscription Agreement dated March
26, 1998 between Loudeye Technologies, Inc. and Alex Tobias.
--------------------------------------------------------------------------------
10.9* Series A Preferred Stock Note Conversion Agreement dated
June 5, 1998 between Loudeye Technologies, Inc. and Martin
Tobias.
--------------------------------------------------------------------------------
10.10* Series B Preferred Stock Purchase Agreement dated June 5,
1998 among Loudeye Technologies, Inc. and Purchasers of
Series B Preferred Stock.
--------------------------------------------------------------------------------
10.11* Series C Preferred Stock Purchase Agreement dated April 30,
1999 among Loudeye Technologies and Purchasers of Series C
Preferred Stock.
--------------------------------------------------------------------------------
38
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10.12* Series C Preferred Stock Purchase Agreement dated August 6, 1999 among
Loudeye Technologies, Inc. and Purchasers of Series C Preferred Stock.
--------------------------------------------------------------------------------
10.13* Form of Warrant To Purchase Series C Preferred Stock dated June 22,
1999 between Loudeye Technologies, Inc. and Dominion Capital
Management, L.L.C.
--------------------------------------------------------------------------------
10.14* Series D Preferred Stock Purchase Agreement dated December 14, 1999
among Loudeye Technologies, Inc. and Purchasers of Series D Preferred
Stock.
--------------------------------------------------------------------------------
10.15* Amended and Restated Investors' Rights Agreement dated December 14,
1999 among Loudeye Technologies, Inc. and certain holders of our
preferred stock.
--------------------------------------------------------------------------------
10.16* Warrant to Purchase Common Stock dated December 17, 1999 between
Loudeye Technologies, inc. and Valley Media, Inc.
--------------------------------------------------------------------------------
10.17* Lease Agreement dated August 10, 1999 between Loudeye Technologies,
Inc.and Times Square Building LLC for offices at Times Square
Building, 414 Olive Way, Suite 300, Seattle, Washington.
--------------------------------------------------------------------------------
10.18* Lease Agreement dated September 1, 1998 between Loudeye Technologies,
Inc.and Martin Tobias for offices at 3406 E. Union Street, Seattle,
Washington.
--------------------------------------------------------------------------------
10.19* Lease Agreement dated October 28,1999 between Loudeye Technologies,
Inc.and Westlake Park Associates for offices at Centennial Building,
1904 Fourth Avenue, Seattle, Washington.
--------------------------------------------------------------------------------
10.20* Lease Agreement dated June 7, 1999 between Loudeye Technologies, Inc.
and MSI 83 King LLC for offices at 83 King Street, Seattle,
Washington.
--------------------------------------------------------------------------------
10.21* Lease Agreement dated November 9, 1999 between Loudeye Technologies,
Inc. and Downtown Entertainment Associates, LP for offices at 1424
Second Street, Santa Monica, California.
--------------------------------------------------------------------------------
10.22+* Encoding Services Agreement dated June 30, 1999 between Loudeye
Technologies, Inc.and Emusic.com, Inc.
--------------------------------------------------------------------------------
10.23+* Services Agreement dated December 17, 1999 between Loudeye
Technologies, Inc. and Valley Media, Inc.
--------------------------------------------------------------------------------
10.24* Imperial Bank Starter Kit Loan and Security Agreement dated August 4,
1998 between Loudeye Technologies, Inc. and Imperial Bank.
--------------------------------------------------------------------------------
10.25* Loan and Security Agreement with Dominion Venture Finance L.L.C. dated
June 15, 1999 between Loudeye Technologies, Inc. and Dominion Venture
Finance L.C.C.
--------------------------------------------------------------------------------
10.26* Offer Letter to David Bullis dated June 23, 1999.
--------------------------------------------------------------------------------
39
<PAGE>
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10.27* Offer Letter to Larry Culver dated August 2, 1999.
--------------------------------------------------------------------------------
10.28* Offer Letter to Douglas Schulze dated August 30, 1999.
--------------------------------------------------------------------------------
10.29* Offer Letter to James Van Kerkhove dated November 5, 1999.
--------------------------------------------------------------------------------
10.30* Offer Letter to David Weld dated December 2, 1999.
--------------------------------------------------------------------------------
10.31* Offer Letter to Tom Hodge dated January 17, 2000.
--------------------------------------------------------------------------------
10.32+* Agreement between Loudeye Technologies, Inc. and Microsoft Corporation
dated June 22, 1998.
--------------------------------------------------------------------------------
10.33* Common Stock Purchase Agreement between the Registrant and Akamai
Technologies, Inc. dated as of February 15, 2000.
--------------------------------------------------------------------------------
10.34+* Services Agreement between Loudeye Technologies, Inc. and Akamai
Technologies, Inc. dated as of February 15, 2000.
--------------------------------------------------------------------------------
10.35 Amended and Restated Loan and Security Agreement between Imperial Bank
and Loudeye Technologies, Inc. dated May 17, 2000.
--------------------------------------------------------------------------------
10.36+ Amended and Restated Services Agreement between Valley Media, Inc. and
Loudeye Technologies, Inc. dated April 2000.
--------------------------------------------------------------------------------
10.37+ Stock Purchase Agreement dated as of June 14, 2000 by and among
Loudeye Technologies, Inc., VidiPax, Inc. and James Lindner.
--------------------------------------------------------------------------------
10.38 First Amendment of Office Lease Agreement dated April 3, 2000 between
Times Square Building L.L.C. and Loudeye Technologies, Inc.
--------------------------------------------------------------------------------
10.39 Second Amendment of Office Lease Agreement dated May 1, 2000 between
Times Square Building L.L.C. and Loudeye Technologies, Inc.
--------------------------------------------------------------------------------
10.40 Lease Agreement dated June 14, 2000 between Brown Bear Realty
Corporation and Loudeye Technologies, Inc.
--------------------------------------------------------------------------------
27.1 Financial Data Schedule
--------------------------------------------------------------------------------
+ Confidential treatment has been requested as to certain portions of this
Exhibit.
* Incorporated by reference to Loudeye Technologies, Inc.'s registration
statement on Form S-1 file number 333-93361.
(b) Reports on Form 8(k).
None.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this Report to be signed on its behalf by the
undersigned, thereunto duly authorized, on August 11, 2000.
LOUDEYE TECHNOLOGIES, INC.
By /s/ LARRY G. CULVER
--------------------------
Larry G. Culver
Chief Financial and Accounting Officer
40
