<PAGE>
- --------------------------------------------------------------------------------
================================================================================
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
_______________________
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 For The Quarterly Period Ended September 30, 1999
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 0-11071
_______________________
IMAGE ENTERTAINMENT, INC.
(Exact name of registrant as specified in its charter)
_______________________
<TABLE>
<CAPTION>
<S> <C>
California 84-0685613
(State or other jurisdiction of incorporation) (I.R.S.Employer Identification Number)
</TABLE>
9333 Oso Avenue, Chatsworth, California 91311
(Address of principal executive offices, including zip code)
(818) 407-9100
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: Common Stock, no
par value
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 ( )
Number of shares outstanding of the registrant's common stock on November 5,
1999: 16,457,032
================================================================================
- --------------------------------------------------------------------------------
<PAGE>
=================================
PART I - FINANCIAL INFORMATION
=================================
ITEM 1. Financial Statements.
--------------------
IMAGE ENTERTAINMENT, INC.
CONSOLIDATED BALANCE SHEETS
September 30, 1999 and March 31, 1999
- --------------------------------------------------------------------------------
ASSETS
<TABLE>
<CAPTION>
September 30, 1999 March 31, 1999
------------------- --------------
(In thousands) (unaudited)
<S> <C> <C>
Cash and cash equivalents $ 726 $ 1,552
Accounts receivable, net of allowances of
$3,525 - September 30, 1999;
$3,475 - March 31, 1999 10,347 11,954
Inventories (Note 2) 15,924 16,691
Royalties and distribution fee advances 5,680 3,173
Prepaid expenses and other assets 1,643 807
Property, equipment and improvements, net of
accumulated depreciation and amortization of
$5,740 - September 30, 1999;
$5,295 - March 31, 1999 13,363 14,494
Land held for sale (Note 4) 1,800 --
Goodwill 7,269 7,774
------- -------
$56,752 $56,445
======= =======
</TABLE>
See accompanying notes to consolidated financial statements
-1-
<PAGE>
IMAGE ENTERTAINMENT, INC.
CONSOLIDATED BALANCE SHEETS
September 30, 1999 and March 31, 1999
- --------------------------------------------------------------------------------
LIABILITIES AND SHAREHOLDERS' EQUITY
<TABLE>
<CAPTION>
September 30, 1999 March 31, 1999
------------------- ---------------
(In thousands, except share data) (unaudited)
<S> <C> <C>
LIABILITIES:
Accounts payable and accrued liabilities $ 11,918 $ 16,101
Accrued royalties and distribution fees 2,623 2,665
Revolving credit and term loan facility (Note 4) 8,294 1,874
Real estate credit facility (Note 4) 3,262 3,348
Distribution equipment lease facility (Note 4) 1,607 1,775
Convertible subordinated note payable 5,000 5,000
Note payable (Note 4) 1,215 1,350
-------- --------
Total liabilities 33,919 32,113
-------- --------
SHAREHOLDERS' EQUITY:
Preferred stock, $1 par value, 3,366,000 shares
authorized; none issued and outstanding -- --
Common stock, no par value, 30,000,000 shares authorized;
16,457,000 and 16,417,000 issued and outstanding
at September 30, 1999 and March 31, 1999, respectively 31,782 31,725
Additional paid-in capital 3,064 3,064
Accumulated deficit (12,013) (10,457)
-------- --------
Net shareholders' equity 22,833 24,332
-------- --------
$ 56,752 $ 56,445
======== ========
</TABLE>
See accompanying notes to consolidated financial statements
-2-
<PAGE>
IMAGE ENTERTAINMENT, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
For the Three Months Ended September 30, 1999 and 1998
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
(In thousands, except per share data) 1999 1998
-------- --------
<S> <C> <C>
NET SALES $17,817 $13,834
OPERATING COSTS AND EXPENSES:
Cost of sales 13,267 10,607
Selling expenses 2,190 1,284
General and administrative expenses 1,906 1,408
Amortization of production costs 856 1,067
Amortization of goodwill 125 --
------- -------
18,344 14,366
------- -------
OPERATING LOSS (527) (532)
OTHER EXPENSES (INCOME):
Interest expense, net 402 155
Other (87) --
------- -------
315 155
------- -------
NET LOSS $ (842) $ (687)
======= =======
NET LOSS PER SHARE (Note 3):
Basic and diluted $(.05) $(.05)
======= =======
WEIGHTED AVERAGE COMMON SHARES
OUTSTANDING (Note 3):
Basic and diluted 16,457 13,546
======= =======
</TABLE>
See accompanying notes to consolidated financial statements
-3-
<PAGE>
IMAGE ENTERTAINMENT, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
For the Six Months Ended September 30, 1999 and 1998
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
(In thousands, except per share data) 1999 1998
-------- --------
<S> <C> <C>
NET SALES $35,837 $30,974
OPERATING COSTS AND EXPENSES:
Cost of sales 26,893 23,804
Selling expenses 4,212 2,514
General and administrative expenses 3,779 2,629
Amortization of production costs 1,864 2,193
Amortization of goodwill 249 --
------- -------
36,997 31,140
------- -------
OPERATING LOSS (1,160) (166)
OTHER EXPENSES (INCOME):
Interest expense, net 722 306
Other (326) --
------- -------
396 306
------- -------
LOSS BEFORE INCOME TAXES (1,556) (472)
INCOME TAXES -- 11
------- -------
NET LOSS $(1,556) $ (483)
======= =======
NET LOSS PER SHARE (Note 3):
Basic and diluted $(.09) $(.04)
======= =======
WEIGHTED AVERAGE COMMON SHARES
OUTSTANDING (Note 3):
Basic and diluted 16,444 13,526
======= =======
</TABLE>
See accompanying notes to consolidated financial statements
-4-
<PAGE>
IMAGE ENTERTAINMENT, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
For the Six Months Ended September 30, 1999 and 1998
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
(In thousands) 1999 1998
-------- --------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $(1,556) $ (483)
Adjustments to reconcile net loss
to net cash provided by (used in) operating activities:
Amortization of production costs 1,864 2,193
Amortization of goodwill 249 --
Depreciation and other amortization 790 329
Amortization of restricted stock units 85 30
Provision for slow-moving inventories 464 349
Provision for estimated doubtful accounts -- 29
Changes in assets and liabilities associated
with operating activities:
Accounts receivable 1,607 485
Inventories 1,345 (574)
Royalty and distribution fee advances, net (2,507) 593
Production cost expenditures (2,649) (2,498)
Prepaid expenses and other assets (836) (135)
Accounts payable, accrued royalties and liabilities (4,235) 299
------- -------
Net cash (used in) provided by operating activities (5,379) 617
------- -------
CASH FLOWS FROM INVESTING ACTIVITIES:
Net cash used in investing activities -- capital expenditures (1,231) (1,718)
------- -------
</TABLE>
See accompanying notes to consolidated financial statements
-5-
<PAGE>
IMAGE ENTERTAINMENT, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS, CONTINUED
(unaudited)
For the Six Months Ended September 30, 1999 and 1998
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
(In thousands) 1999 1998
--------- ---------
<S> <C> <C>
CASH FLOWS FROM FINANCING ACTIVITIES:
Advances under revolving credit and term loan facility $ 42,317 $ 22,161
Repayment of advances under revolving credit and
term loan facility (36,125) (20,716)
Repayment of advances under real estate credit facility (86) --
Repayment of note payable (135) --
Principal payments under lease facility (168) --
Net proceeds from exercise of stock options 33 160
Additional offering costs from issuance of common stock (52) --
-------- --------
Net cash provided by financing activities 5,784 1,605
-------- --------
NET (DECREASE) INCREASE IN CASH AND
CASH EQUIVALENTS (826) 504
Cash and cash equivalents at beginning of period 1,552 1,015
-------- --------
Cash and cash equivalents at end of period $ 726 $ 1,519
======== ========
SUPPLEMENTAL DISCLOSURES OF CASH
FLOW INFORMATION:
Cash paid during the period for:
Interest $ 634 $ 436
======== ========
</TABLE>
SUPPLEMENTAL DISCLOSURES OF NONCASH INVESTING AND FINANCING ACTIVITIES:
During the September 1999 quarter, the Company incurred $228,000 relating to the
purchase and installation of authoring and compression equipment. These costs
were funded under the Company's term loan facility with Foothill Capital
Corporation.
On June 30, 1999, the Company issued 11,407 shares of common stock to officers
(net of shares withheld for payment of related income taxes) pursuant to
restricted stock units which vested on June 30, 1999. The Company increased
common stock at June 30, 1999 by approximately $76,000, the value of the net
shares issued.
See accompanying notes to consolidated financial statements
-6-
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
- --------------------------------------------------------------------------------
Note 1. Basis of Presentation.
The accompanying condensed consolidated financial statements include the
accounts of Image Entertainment, Inc., its wholly-owned subsidiaries Image
Newco, Inc. ("Ken Crane's," which was acquired on January 11, 1999) and U.S.
Laser Video Distributors, Inc. ("U.S. Laser," which ceased operations on July
15, 1998) and the 50%-owned joint venture, Aviva International, LLC (which began
operations during the June 1999 quarter (see Note 6)) (collectively, the
"Company"). All significant intercompany balances and transactions have been
eliminated in consolidation.
The accompanying condensed consolidated financial statements are unaudited and
have been prepared in accordance with generally accepted accounting principles
for interim financial information and with the instructions to Form 10-Q and
Rule 10-01 of Regulation S-X. They do not include all information and notes
required by generally accepted accounting principles for complete financial
statements. However, except as disclosed herein, there has been no material
change in the information disclosed in the notes to consolidated financial
statements included in the Annual Report on Form 10-K of the Company for the
year ended March 31, 1999. In the opinion of management, all adjustments,
consisting of normal recurring accruals, considered necessary for a fair
presentation have been included. Operating results for the three and six months
ended September 30, 1999, are not necessarily indicative of the results that may
be expected for the fiscal year ending March 31, 2000. The accompanying
consolidated financial information for the three and six months ended September
30, 1999 and 1998 should be read in conjunction with the Financial Statements,
the Notes thereto and Management's Discussion and Analysis of Financial
Condition and Results of Operations in the Company's Annual Report on Form 10-K
for the period ended March 31, 1999.
The preparation of the Company's consolidated financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the amounts reported in these financial
statements and accompanying notes. The significant areas requiring the use of
management's estimates relate to allowances for slow-moving inventories,
doubtful accounts receivables, unrecouped royalty/distribution fee advances and
sales returns. These estimates are based on management's knowledge of current
events and actions management may undertake in the future, therefore, actual
results may ultimately differ from management's estimates.
Note 2. Inventories.
Inventories at September 30, 1999 and March 31, 1999 are summarized as follows:
<TABLE>
<CAPTION>
September 30, March 31,
(In thousands) 1999 1999
-------------- ----------
<S> <C> <C>
LD $ 8,352 $12,125
DVD 10,268 9,724
Other 354 500
------- -------
18,974 22,349
Reserve for slow-moving inventories (primarily LD) (7,469) (9,291)
------- -------
11,505 13,058
Production costs, net 4,419 3,633
------- -------
$15,924 $16,691
======= =======
</TABLE>
-7-
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
- --------------------------------------------------------------------------------
Inventories consist primarily of finished product for sale and are stated at the
lower of average cost or market.
Production costs are net of accumulated amortization of $6,877,000 and
$6,955,000 at September 30, 1999 and March 31, 1999, respectively.
Note 3. Net Loss per Share.
The following presents a reconciliation of the numerators and denominators used
in computing basic and diluted net loss per share for the three and six months
ended September 30, 1999 and 1998:
<TABLE>
<CAPTION>
Three months Three months Six months Six months
ended ended ended ended
September 30, September 30, September 30, September 30,
1999 1998 1999 1998
-------------- -------------- -------------- ------------
<S> <C> <C> <C> <C>
(In thousands, except per share data)
Net loss (basic and diluted
numerator) $ (842) $ (687) $(1,556) $ (483)
======= ======= ======= ===========
Weighted average common
shares outstanding (basic and
diluted denominator) 16,457 13,546 16,444 13,526
======= ======= ======= ===========
Basic and diluted net loss
per share $ (.05) $ (.05) $ (.09) $ (.04)
======= ======= ======= ===========
</TABLE>
Diluted net loss per share for the three and six months ended September 30,
1999 and 1998 is based only on the weighted average number of common shares
outstanding during the periods, as inclusion of common stock equivalents (common
stock options and common stock underlying the convertible subordinated note
payable) would be antidilutive. Common stock options and common stock
underlying the convertible subordinated note payable together totaling 2,553,000
and 2,764,000 shares of common stock at September 30, 1999 and 1998,
respectively, were outstanding but not included in the computations of diluted
net loss per share for the three and six months ended September 30, 1999 and
1998.
Note 4. Debt.
Revolving Credit and Term Loan Facility. At September 30, 1999, the Company had
- ---------------------------------------
$8,066,000 outstanding under its revolving credit facility and $228,000
outstanding under its term loan facility with Foothill Capital Corporation
("Foothill") and had borrowing availability of $2,434,000 and $272,000,
respectively, net of amounts utilized for outstanding standby letters of credit.
In November 1999, the Company and Foothill amended the December 28, 1998 Loan
and Security Agreement increasing the maximum revolving advance limit from
$12,000,000 to $15,000,000.
-8-
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
- --------------------------------------------------------------------------------
At September 30, 1999, the Company had $1.5 million of outstanding standby
letters of credit issued or guaranteed by Foothill of which $1.2 million expire
on or about November 15, 1999 and $300,000 expire June 30, 2000. These standby
letters of credit secure trade payables due to program suppliers.
Real Estate Credit and Distribution Equipment Lease Facilities. At September
- --------------------------------------------------------------
30, 1999, the Company was not in compliance with the covenant establishing the
maximum ratio of total liabilities to tangible net worth set forth in its real
estate credit facility with Bank of America National Trust and Savings
Association (Nevada). However, at the Company's request, the lender waived the
noncompliance for the period ended September 30, 1999, and amended the covenant
so that in future periods subordinated notes payable would be excluded from the
covenant calculation. The identical covenant was incorporated by reference to
the Company's distribution equipment lease facility with BankAmerica Leasing and
Capital Corporation. The waiver of noncompliance and the subsequent amendment
automatically applied. The Company was in compliance with all other financial
and operating covenants at September 30, 1999.
Note Payable to Bank. In August 1999, the Company and Pioneer Citizens Bank in
- --------------------
Nevada amended the July 1997 Business Loan Agreement (the "Business Loan
Agreement") extending the maturity date on the Company's outstanding borrowings
from August 1, 1999 to August 1, 2000. The Company is required to make a
principal reduction of approximately $122,000 on February 1, 2000.
In November 1999, the Company opened escrow for the sale (to a real estate
developer) of approximately 3.8 acres of the 8.8 acres of land (adjacent to the
Company's 8.4 acre warehouse and distribution facility site in Las Vegas, Nevada
and securing the outstanding borrowings under the Business Loan Agreement). The
net proceeds from the sale are expected to be approximately $1,800,000. Escrow
is scheduled to close by December 1, 1999, subject to standard closing
conditions. The Company does not anticipate recording a significant gain on the
sale of the property as the net sale price of the property approximates its
historical cost. Upon a successful close of escrow, the Company intends to use
the net proceeds to pay down the outstanding borrowings under the Business Loan
Agreement, totaling $1,215,000 at September 30, 1999. The Company reclassified
the historical cost of the 3.8 acres from property, equipment and improvements
to land held for sale in the accompanying consolidated balance sheet at
September 30, 1999.
Note 5. Segment Information.
In accordance with the requirements of SFAS No. 131, "Disclosures about Segments
of and Enterprise and Related Information," selected financial information
regarding the Company's reportable business segments, wholesale and retail
distribution (Ken Crane's) of primarily DVDs and LDs, are presented below.
Management evaluates segment performance based primarily on net sales and income
(loss) before income taxes. Interest income and expense is evaluated on a
consolidated basis and not allocated to the Company's business segments.
Comparable data for the three and six months ended September 30, 1998 is not
presented as the acquisition of Ken Crane's occurred during January 1999,
therefore the retail distribution segment was immaterial during this period.
-9-
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
- --------------------------------------------------------------------------------
For the three and six months ended September 30, 1999:
<TABLE>
<CAPTION>
Three months Six months
ended ended
(In thousands) September 30, 1999 September 30, 1999
------------------- -------------------
<S> <C> <C>
Net sales:
Wholesale distribution $17,242 $34,259
Retail distribution 3,449 7,226
------- -------
20,691 41,485
Inter-segment eliminations/(1)/ (2,874) (5,648)
------- -------
Consolidated net sales $17,817 $35,837
======= =======
Segment income (loss) before income taxes:
Wholesale distribution $ 81 $ (281)
Retail distribution (850) (1,233)
------- -------
(769) (1,514)
Inter-segment eliminations/(2)/ (73) (42)
------- -------
Consolidated loss before income taxes $ (842) $(1,556)
======= =======
As of
(In thousands) September 30, 1999
------------------
Total assets:
Wholesale distribution $50,544
Retail distribution 9,612
-------
60,156
Inter-segment eliminations/(3)/ (3,404)
-------
Consolidated total assets $56,752
=======
</TABLE>
- -----------------------------------------------------
(1) Elimination of inter-segment net sales.
(2) Elimination of inter-segment profit in ending inventory.
(3) Elimination of primarily inter-segment receivables.
Note 6. Formation of Joint Venture Limited Liability Company.
In June 1999, the Company completed the joint venture formation of Aviva
International, LLC, a California limited liability company ("Aviva") with
Michael Lopez ("Lopez"), President of International Consulting & Business
Management. Aviva is 50% owned by each of the Company and Lopez. Aviva plans
to distribute entertainment programming for worldwide broadcast, international
home video, and the Internet with an emphasis on music related projects such as
live concerts and event programming. Additionally, Aviva will act as
international sales agent for the Company's licensed programming. In accordance
with the joint venture's operating agreement, the initial term of the joint
venture will be one year with an option to renew for additional successive
periods upon mutual agreement of the Company and Lopez. Lopez will serve as
Manager of Aviva. Both the Company and Lopez contribute funds to Aviva (as
initial working capital) in
-10-
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
- --------------------------------------------------------------------------------
the form of interest-bearing loans. Although the Company owns 50% of the joint
venture, it can exercise control over the operations of Aviva. As a result,
Aviva's operating results are consolidated with the operating results of the
Company. Accordingly, Aviva's operating loss, since its formation, is included
in the Company's statement of operations for the three and six months ended
September 30, 1999.
For the three and six months ended September 30, 1999, Aviva, as a start-up
entity, did not recognize any sales revenue and had operating expenses totaling
$174,000 and $254,000, respectively. The Company has recognized 50% of Aviva's
net loss for the three and six months ended September 30, 1999, approximately
$87,000 and $127,000, respectively, in its consolidated statements of operations
for the three and six months ended September 30, 1999.
Note 7. Adversary Proceeding -- One Stop Recovery LLC.
On July 12, 1999, the Company was named as a defendant in an Adversary
Proceeding (the "Adversary Proceeding") filed by One Stop Recovery LLC, as
Trustee for AEC One Stop, Inc. ("Plaintiff") in connection with the Chapter 11
bankruptcy of Alliance Entertainment Corp. ("Alliance"). The Adversary
Proceeding is pending in the United States Bankruptcy Court for the Southern
District of New York. In the Adversary Proceeding, the Plaintiff is seeking to
recover approximately $1,740,000 in alleged preferential transfers (including
payments made and the value of goods returned) made by Alliance within the 90-
day period immediately preceding the commencement of its bankruptcy case. The
Company intends to vigorously defend itself in the Adversary Proceeding. While
it is not feasible to predict or determine the outcome of the Adversary
Proceeding, management does not believe that it would have a material adverse
effect on the Company's financial position, results of operations or liquidity.
-11-
<PAGE>
ITEM 2. Management's Discussion and Analysis of Financial Condition and Results
-----------------------------------------------------------------------
of Operations.
-------------
GENERAL
The Company licenses and distributes a broad range of entertainment
programming on digital video disc ("DVD") and a rapidly declining range of
entertainment programming on laserdisc ("LD"). Prior to fiscal 1998, the
Company's net sales were derived almost entirely from the distribution of
programming in the LD format. In March 1997, DVD was introduced and the Company
began distributing DVD programming on a nonexclusive wholesale basis. The
Company began releasing exclusively licensed DVD programming in June 1997. In
fiscal 1998, DVD and LD represented approximately 21% and 79% of the Company's
net sales, respectively. In fiscal 1999, DVD and LD represented approximately
60% and 36% of the Company's net sales. For the six months ended September 30,
1999, DVD and LD represented approximately 79% and 17% of the Company's net
sales, respectively. The Company also distributes music programming on compact
disc ("CD") encoded in the DTS Digital Surround multichannel audio format as
well as certain programming on videocassette ("VHS"). The accompanying
consolidated financial information for the three and six months ended September
30, 1999 and 1998 should be read in conjunction with the Financial Statements,
the Notes thereto and Management's Discussion and Analysis of Financial
Condition and Results of Operations in the Company's Annual Report on Form 10-K
for the period ended March 31, 1999.
The Company believes that DVD has established itself as an accepted video
format. Unanimous movie studio and independent program supplier support,
broadening consumer acceptance, increased availability of DVD programming and
players, rental programming availability in national video chains and decreasing
DVD player prices have contributed to the format's growth.
The Electronics Industries Association ("EIA") reported that from March
1997 (when DVD was first introduced) to October 29, 1999, approximately
4,404,000 DVD players were sold to consumer electronics retailers. For the
first 43 weeks of calendar 1999 (ended October 29, 1999), approximately
2,976,000 DVD players were sold to consumer electronics retailers, a 314%
increase over the 719,000 DVD players sold for the comparable calendar 1998
period.
The Company continues to aggressively seek DVD programming for exclusive
distribution. The Company has agreements with numerous program suppliers for
the exclusive release of titles on DVD. According to VideoScan, which tracks
point-of-sale data from an estimated 70 percent of the retail market (includes
mass merchants and retailers but not most discount outlets or Internet
retailers), the Company's market share of total exclusive DVD software unit
sales for the period from January 1, 1999 through October 31, 1999 was 2.91%.
The Company currently ranks tenth in market share (out of 43 DVD suppliers
indexed by VideoScan) behind Warner Home Video (22.42%), Disney (11.07%),
Universal Home Entertainment (10.32%), Columbia TriStar (10.26%), Paramount Home
Video (7.94%), New Line (6.99%), Twentieth Century Fox Home Entertainment
(5.37%), MGM (4.80%) and Artisan Entertainment (3.81%). For calendar 1998,
according to VideoScan, the Company's market share of total exclusive DVD
software unit sales was 2.96%, and ranked ninth in market share behind Warner
Home Video (24.13%), Columbia TriStar (14.45%), Universal Home Entertainment
(10.79%), MGM (10.33%), Disney (9.01%), New Line (8.34%), Artisan Entertainment
(4.52%) and Paramount Home Video (3.97%). It is likely that actual market share
data would differ from the above reported sales data had VideoScan captured
sales data from all retailers including Internet retailers.
-12-
<PAGE>
The Company also distributes DVD programming on a nonexclusive basis from
virtually all program suppliers with whom it does not have an exclusive
agreement, making it a "one-stop" source for all DVD programming, meaning that
customers who purchase exclusive titles from the Company can also purchase
additional nonexclusive titles at the same time.
Recent Developments. The Company has substantially improved its
-------------------
distribution operations since it experienced software and operational related
distribution difficulties during the June 1999 quarter and half of the September
1999 quarter. The Company's distribution operations continue to work toward 24-
hour turn-around on all current orders and toward our ultimate goal of same-day
order processing. Concurrent with these efforts, the Company is upgrading its
system hardware and software to accommodate direct-to-consumer fulfilment of Ken
Crane's orders. The Company is also in the process of redesigning the layout,
navigation and content of www.kencranes.com website and plans to launch the
redesigned web site under the new name DVDPLANET.com (www.dvdplanet.com). The
Company originally intended to launch and fulfill for the new website during the
third quarter ending December 31, 1999 but has delayed the launch and fulfilment
until the fourth quarter ending March 31, 2000 to ensure that the full efforts
of the Company are focused on the important holiday selling season and to ensure
that the Company's warehouse and distribution systems are ready to accommodate
direct-to-consumer fulfillment.
Seasonality and Variability. The Company has generally experienced higher
---------------------------
sales in the quarters ended December 31 and March 31 due to increased consumer
spending associated with the year-end holidays and the home video release of
many high profile, high budget summer theatrical releases. In addition to
seasonality issues, other factors have contributed to variability in the
Company's DVD and LD net sales on a quarterly basis. These factors include: (i)
DVD's negative impact on LD sales; (ii) the popularity of titles then in
release; (iii) the Company's marketing and promotional activities; (iv) the
Company's licensing and distribution activities relating to new video
programming; (v) the extension, termination or non-renewal of existing license
and distribution rights; and (vi) general and economic changes affecting the
buying habits of the Company's customers, particularly those changes affecting
consumer demand for DVD and LD hardware and software. Accordingly, the
Company's revenues and results of operations may vary significantly from period
to period, and the results of any one period may not be indicative of the
results of any future periods.
-13-
<PAGE>
RESULTS OF OPERATIONS
The following table presents, as a percentage of net sales, selected
consolidated financial data for the three and six months ended September 30,
1999 and 1998:
<TABLE>
<CAPTION>
Three Months ended Six Months ended
September 30, September 30
------------------- ------------------
1999/(1)/ 1998 1999/(1)/ 1998
-------- ----- -------- ----
<S> <C> <C> <C> <C>
Net sales:
DVD................................... 78.9% 47.7% 79.0% 42.3%
LD.................................... 17.6 48.2 16.9 55.3
Other................................. 3.5 4.1 4.1 2.4
----- ----- ----- -----
Total net sales.................... 100.0% 100.0% 100.0% 100.0%
Cost of sales........................... 74.4 76.7 75.0 76.8
----- ----- ----- -----
Gross margin............................ 25.6 23.3 25.0 23.2
Operating costs and expenses:
Selling expenses...................... 12.3 9.3 11.8 8.1
General and administrative expenses... 10.7 10.2 10.5 8.5
Amortization of production costs...... 4.8 7.7 5.2 7.1
Other operating costs and expenses.... 0.7 -- 0.7 --
----- ----- ----- -----
Total operating costs and expenses. 28.5 27.2 28.2 23.7
Operating loss.......................... (2.9) (3.9) (3.2) (0.5)
Other expenses, net..................... 1.8 1.1 1.1 1.0
----- ----- ----- -----
Loss before income taxes................ (4.7)% (5.0)% (4.3)% (1.5)%
===== ===== ===== =====
</TABLE>
(1) Includes the operating results of subsidiary Ken Crane's (acquired January
1999) and the 50%-owned joint venture Aviva International, LLC (formed June
1999)
THE THREE MONTHS ENDED SEPTEMBER 30, 1999 COMPARED TO THE THREE MONTHS ENDED
SEPTEMBER 30, 1998
Net sales for the September 1999 quarter increased 28.8% to $17,817,000
from $13,834,000 for the September 1998 quarter. The Company's wholesale
distribution business segment contributed net sales of $17,242,000 for the
September 1999 quarter, as compared to $13,772,000 for the September 1998
quarter. The Company's retail distribution business segment, solely consisting
of the Company's Ken Crane's subsidiary, contributed $575,000 in net sales,
after elimination of inter-segment sales totaling $2,874,000. Net sales of DVD
programming for the September 1999 quarter increased 112.8% to $14,047,000, or
78.9% of net sales, from $6,600,000, or 47.7% of net sales, for the September
1998 quarter. Approximately 63% of total DVD net sales for the September 1999
quarter were derived from exclusively distributed or licensed programming versus
approximately 58% for the September 1998 quarter. Continued broadening consumer
acceptance and increased availability of programming following the introduction
of the DVD format in March 1997 contributed to the growth in the Company's new-
release and catalogue DVD sales. In addition to positive market factors, the
Company has continued to acquire exclusive license and distribution rights which
resulted in the Company distributing a greater number of exclusive new-release
titles on DVD during the September 1999 quarter than in the September 1998
quarter. Management believes its previously disclosed distribution difficulties
had a residual impact on its September 1999 quarter net sales growth of DVD
programming. By the middle of its September 1999 quarter, the facility had
reached the operational efficiency level of the Company's former Chatsworth,
California warehouse and
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<PAGE>
distribution facility which was closed in May 1999. Based upon the increased
order activity of its customer base during October 1999, management believes
customers are regaining confidence in the Company's distribution abilities,
although there can be no assurance that there will not be some residual long-
term affect on customer buying patterns.
Net sales of LD programming for the September 1999 quarter decreased 52.9%
to $3,142,000, or 17.6% of net sales, from $6,671,000, or 48.2% of net sales,
for the September 1998 quarter. The DVD format directly competes with the LD
format and has adversely affected the LD marketplace. Historically, the largest
buyers of LD programming were the major music/video software retail chain
stores. The major chain stores have replaced dedicated LD floor space with DVD
product. Now, the majority of the Company's LD sales are made to the
independent video stores that still promote LD and direct-to-consumer via
Internet/mail-order. Due to declining demand for LD programming, the Company
continues to reduce the number of new titles it releases in the LD format.
Other net sales (VHS and CD) were $628,000, or 3.5% of net sales, for the
September 1999 quarter compared to $563,000, or 4.1% of net sales for the
September 1998 quarter.
Cost of sales (DVD, LD, CD and VHS collectively) for the September 1999
quarter was $13,267,000, or 74.4% of net sales, compared to $10,607,000, or
76.7% of net sales, for the September 1998 quarter. The improved gross profit
margins for the September 1999 quarter primarily reflects the shift in sales mix
from LD to inherently higher margin DVD programming, lower per-title DVD
replication costs and incremental gross profit contributed by Ken Crane's
operations. This gross profit margin improvement was partially offset by
increased labor costs associated with expedited order processing caused by the
distribution difficulties the Company encountered during the first half of its
September 1999 quarter. The Company expects DVD replication costs to continue
to decline as the format becomes more widely accepted by consumers and the
volume of DVD replication increases.
Selling expenses for the September 1999 quarter increased 70.6% to
$2,190,000, or 12.3% of net sales, from $1,284,000, or 9.3% of net sales, for
the September 1998 quarter. Exclusive of selling expenses and net sales
contributions of Ken Crane's and the Company's 50%-owned joint venture, Aviva
International, LLC (formed in the June 1999 quarter) ("Aviva") in the September
1999 quarter, selling expenses for the September 1999 quarter decreased 8.8% to
$1,172,000, or 6.8% of net sales, from $1,284,000, or 9.3% of net sales, for the
September 1998 quarter. The decrease in the September 1999 quarter wholesale
distribution selling expenses, as a percentage of net sales, was primarily due
to reduced trade advertising offset, in part, by additional personnel and higher
personnel costs in the Company's sales department and higher freight charges
associated with distribution difficulties experienced in the first half of the
September 1999 quarter. Ken Crane's incurred selling expenses of $887,000 for
the September 1999 quarter primarily in connection with promotional expenses,
salaries and freight out. Included during the period is a $366,000 charge
related to free goods distributed and other promotional expenses incurred in
connection with the national DVD promotion for consumers who purchase select
Thomson Consumer Electronics RCA brand DVD players between June 1 and August 16,
1999. Management believes the promotion has been an excellent opportunity for
Ken Crane's to gain national recognition as a DVD retailer by reaching new DVD
consumers through RCA's national network of dealers as well as gain an extensive
customer list of new DVD hardware consumers. Aviva incurred selling expenses of
$131,000 for the September 1999 quarter in connection with salaries and
international travel and convention expenses.
-15-
<PAGE>
General and administrative expenses for the September 1999 quarter
increased 35.4% to $1,906,000, or 10.7% of net sales, from $1,408,000, or 10.2%
of net sales, for the September 1998 quarter. Exclusive of the general and
administrative expenses and net sales contributions of Ken Crane's and Aviva in
the September 1999 quarter, general and administrative expenses for the
September 1999 quarter increased 9.5% to $1,541,000, or 8.9% of net sales, from
$1,408,000, or 10.2% of net sales, for the September 1998 quarter. In absolute
dollars, general and administrative costs for the September 1999 quarter
increased primarily due to increased depreciation and amortization of property,
equipment and improvements which is attributable to the commencement of
depreciating the Las Vegas, Nevada warehouse and distribution facility building,
equipment and software in May 1999 and higher personnel costs. Ken Crane's
incurred general and administrative expenses of $322,000 for the September 1999
quarter primarily in connection with bank credit card servicing fees, personnel
costs and depreciation and amortization of property and equipment. Aviva
incurred general and administrative expenses of $43,000 for the September 1999
quarter in connection with salaries and legal formation expenses.
Amortization of production costs for the September 1999 quarter decreased
19.8% to $856,000, or 4.8% of net sales, from $1,067,000, or 7.7% of net sales,
for the September 1998 quarter. The decrease in the September 1999 quarter
amortization costs is attributable to operational efficiencies attained by the
creative services and production departments, as well as lower comparative per-
title authoring and compression costs. The Company completed installation of
authoring and compression equipment during the September 1999 quarter in order
to bring this aspect of DVD production in-house and lower future per-title DVD
production costs.
For the September 1999 quarter, amortization of goodwill from the
acquisition of Ken Crane's was $125,000, or 0.7% of net sales.
Interest expense, net of interest income, for the September 1999 quarter
increased 159.4% to $402,000, or 2.3% of net sales, from $155,000, or 1.1% of
net sales, for the September 1998 quarter. The increase is attributable
primarily to higher weighted average debt levels during the September 1999
quarter.
During the September 1999 quarter, the Company recorded a minority interest
in the Aviva joint venture of $87,000.
The Company did not record income tax expense in the September 1999 and
1998 quarters due to recorded net losses.
For the three months ended September 30, 1999, the Company recorded a net
loss of $842,000, or $.05 per basic and diluted share, compared to a net loss of
$687,000, or $.05 per basic and diluted share, for the three months ended
September 30, 1998.
THE SIX MONTHS ENDED SEPTEMBER 30, 1999 COMPARED TO THE SIX MONTHS ENDED
SEPTEMBER 30, 1998
Net sales for the six months ended September 30, 1999 increased 15.7% to
$35,837,000 from $30,974,000 for the six months ended September 30, 1998. The
Company's wholesale distribution business segment contributed net sales of
$34,259,000 for the six months ended September 30, 1999, as compared
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<PAGE>
to $30,520,000 for the six months ended September 30, 1998. The Company's retail
distribution business segment, solely consisting of Ken Crane's, contributed
$1,578,000 in net sales, after elimination of inter-segment sales totaling
$5,648,000. Net sales of DVD programming for the six months ended September 30,
1999 increased 116.2% to $28,316,000, or 79.0% of net sales, from $13,096,000,
or 42.3% of net sales, for the six months ended September 30, 1998.
Approximately 58% of total DVD net sales for the six months ended September 30,
1999 were derived from exclusively distributed or licensed programming versus
approximately 54% for the six months ended September 30, 1998.
Net sales of LD programming for the six months ended September 30, 1999
decreased 64.7% to $6,047,000, or 16.9% of net sales, from $17,117,000, or 55.3%
of net sales, for the six months ended September 30, 1998. Other net sales (VHS
and CD) for the six months ended September 30, 1999 increased 93.7% to
$1,474,000, or 4.1% of net sales, from $761,000, or 2.4% of net sales for the
six months ended September 30, 1998 primarily due to the exclusive distribution
of a greater number of stronger performing VHS titles (new release and
catalogue) in the six months ended September 30, 1999 as compared to the six
months ended September 30, 1998.
Cost of sales (DVD, LD, CD and VHS collectively) for the six months ended
September 30, 1999 was $26,893,000, or 75.0% of net sales, compared to
$23,804,000, or 76.8% of net sales, for the six months ended September 30, 1998.
The improved gross profit margins for the six months ended September 30, 1999
primarily reflects the shift in sales mix from LD to inherently higher margin
DVD programming, lower per-title DVD replication costs and incremental gross
profit contributed by Ken Crane's operations. This gross profit margin
improvement was partially offset by increased labor costs associated with
expedited order processing caused by the difficulties the Company encountered
implementing the software required to run the Company's Las Vegas, Nevada
warehouse and distribution facility.
Selling expenses for the six months ended September 30, 1999 increased
67.5% to $4,212,000, or 11.8% of net sales, from $2,514,000, or 8.1% of net
sales, for the six months ended September 30, 1998. Exclusive of the selling
expenses and net sales contributions of principally Ken Crane's and Aviva in the
six months ended September 30, 1999, selling expenses in absolute dollars for
the six months ended September 30, 1999 increased 4.3% to $2,520,000, or 7.4% of
net sales, from $2,415,000, or 7.9% of net sales, for the six months ended
September 30, 1998. The decrease in selling expenses, as a percentage of net
sales, for the six months ended September 30, 1999 was primarily due to reduced
trade advertising offset, in part, by higher personnel costs in the Company's
sales department and higher freight charges associated with the distribution
difficulties experiences during the June 1999 and September 1999 quarters. Ken
Crane's incurred selling expenses of $1,502,000 for the six months ended
September 30, 1999 primarily for salaries, the aforementioned RCA DVD promotion,
the cost of monthly mail order catalogues to consumers and freight out. Aviva
incurred selling expenses of $190,000 for the six months ended September 30,
1999 primarily for salaries and international travel and convention expenses.
General and administrative expenses for the six months ended September 30,
1999 increased 43.7% to $3,779,000, or 10.5% of net sales, from $2,629,000, or
8.5% of net sales, for the six months ended September 30, 1998. Exclusive of
the general and administrative expenses and net sales contributions of
principally Ken Crane's and Aviva in the six months ended September 30, 1999,
general and administrative expenses for the six months ended September 30, 1999
increased 23.1% to $3,078,000, or 8.9% of net sales, from $2,501,000, or 8.2% of
net sales, for the six months ended September 30, 1998. General and
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<PAGE>
administrative costs for the six months ended September 30, 1999 increased
primarily due to increased depreciation and amortization of property, equipment
and improvements attributable to the commencement of depreciating the Las Vegas,
Nevada warehouse and distribution facility building, equipment and software in
May 1999, higher personnel costs and higher professional fees for legal and
investor relations. Ken Crane's incurred general and administrative expenses of
$637,000 for the six months ended September 30, 1999 primarily in connection
with bank credit card servicing fees, personnel costs and depreciation and
amortization of property and equipment. Aviva incurred general and
administrative expenses of $64,000 for the six months ended September 30, 1999
primarily for salaries and legal formation expenses.
Amortization of production costs for the six months ended September 30,
1999 decreased 15.0% to $1,864,000, or 5.2% of net sales, from $2,193,000, or
7.1% of net sales, for the six months ended September 30, 1998. The decrease in
the September 1999 quarter amortization costs is attributable to operational
efficiencies attained by the creative services and production departments, as
well as lower comparative per-title authoring and compression costs.
For the six months ended September 30, 1999, amortization of goodwill from
the acquisition of Ken Crane's was $249,000, or 0.7% of net sales.
Interest expense, net of interest income, for the six months ended
September 30, 1999 increased 135.9% to $722,000, or 2.0% of net sales, from
$306,000, or 1.0% of net sales, for the six months ended September 30, 1998.
The increase is attributable primarily to higher weighted average debt levels
during the six months ended September 30, 1999.
The Company recorded other income of $190,000 as a result of a confidential
settlement agreement with one of the nondebtor defendants to the Company's
continuing litigation against LEI Partners, L.P. and also recorded a minority
interest in the Aviva joint venture of $127,000.
The Company did not record income tax expense for the six months ended
September 30, 1999 due to a recorded net loss. Comparatively, $11,000 was
recorded for the six months ended September 30, 1998.
For the six months ended September 30, 1999, the Company recorded a net
loss of $1,556,000, or $.09 per basic and diluted share, compared to a net loss
of $483,000, or $.04 per basic and diluted share, for the six months ended
September 30, 1998.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 133 "Accounting for
Derivative Instruments and Hedging Activities." The new statement requires that
all derivative instruments be recorded on the balance sheet at fair value and
establishes new accounting rules for hedging instruments. In June 1999, the
FASB deferred the effective date of SFAS No. 133 for one year until fiscal years
beginning after June 15, 2000. The Company believes that adoption of SFAS No.
133 will not have a material effect on the Company's consolidated results of
operations or financial position.
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<PAGE>
In March 1998, the AICPA's Accounting Standards Executive Committee
("AcSEC") issued Statement of Position ("SOP") 98-1, "Accounting for the Costs
of Computer Software Developed for Internal Use." SOP 98-1 provides guidance on
the capitalization of software for internal use. SOP 98-1 is effective for
financial statements for periods beginning after December 15, 1998. The Company
adopted the provisions of SOP 98-1 on April 1, 1999. Costs incurred related to
the warehouse management system software for the Company's Las Vegas, Nevada
warehouse and distribution facility have been recorded consistent with the
provisions of SOP 98-1.
AcSEC issued SOP 98-5, "Reporting on the Cost of Start-Up Activities" in
April 1998. SOP 98-5 requires that all costs of start-up activities, including
organization costs, be expensed as incurred. SOP 98-5 is effective for
financial statements for periods beginning after December 15, 1998. The Company
adopted the provisions of SOP 98-5 on April 1, 1999.
INFLATION
Management believes that inflation is not a material factor in the
operation of the Company's business at this time.
LIQUIDITY AND CAPITAL RESOURCES
The Company's working capital requirements vary primarily with the level of
its licensing, production and distribution activities. The principal recurring
uses of working capital in operations are for program licensing costs (i.e.,
royalty payments, including advances, to program suppliers), distribution fee
advances, manufacturing and production costs, costs of acquiring finished
product for wholesale distribution and selling, general and administrative
expenses. Working capital has historically been provided by cash flows from
operations, private and public sales of common stock, notes representing short-
and long-term debt and bank borrowings.
Sources and Uses of Working Capital, Six Months Ended September 30, 1999
------------------------------------------------------------------------
and 1998. For the six months ended September 30, 1999, the Company's net cash
- --------
used in operating activities was $5,379,000, as compared to net cash provided by
operating activities of $617,000 for the six months ended September 30, 1998.
The significant increase in net cash used in operating activities for the six
months ended September 1999 resulted from substantial pay down of accounts
payable, accrued royalties and liabilities (in the normal course of business)
and increases in royalty and distribution fee advances (to DVD program suppliers
for exclusive distribution) and production cost expenditures (for exclusive
programming) offset, in part, by collections of accounts receivable and
reduction of inventories. Comparatively, net cash provided by operations for
the six months ended September 30, 1998 resulted from an increase in accounts
payable, accrued royalties and liabilities, net recoupment of royalty and
distribution fee advances and collections of accounts receivable offset, in
part, by increases in inventories and production costs. Net cash used in
investing activities, consisting entirely of capital expenditures, decreased 28%
to $1,231,000 for the six months ended September 30, 1999 from $1,718,000 for
the six months ended September 30, 1998 primarily related to the Las Vegas,
Nevada warehouse and distribution facility equipment and software programming
expenditures. Net cash provided by financing activities was $5,784,000 for the
six months ended September 30, 1999 compared to $1,605,000 for the six months
ended September 30, 1998. Net cash provided by financing activities during the
six months ended September 30, 1999 resulted from
-19-
<PAGE>
advances under the Company's revolving credit and term loan facility to fund
royalty and distribution fee advances paid to DVD program suppliers for
exclusive programming and to pay down accounts payable, accrued royalties and
liabilities.
Financing Activities.
--------------------
Revolving Credit and Term Loan Facility. At September 30, 1999, the
Company had $8,066,000 outstanding under its revolving credit facility and
$228,000 outstanding under its term loan facility with Foothill Capital
Corporation ("Foothill") and had borrowing availability of $2,434,000 and
$272,000, respectively, net of amounts utilized for outstanding standby letters
of credit. In November 1999 and in anticipation of a seasonal increase in
business activity, the Company and Foothill amended the December 28, 1998 Loan
and Security Agreement increasing the maximum revolving advance limit from
$12,000,000 to $15,000,000.
Real Estate Credit and Distribution Lease Facilities. The Company recorded
a net loss of $1,556,000 for the six months ended September 30, 1999 which,
combined with increased borrowings under its revolving credit facility with
Foothill at September 30, 1999, caused the Company's noncompliance with a
financial covenant establishing the maximum ratio of total liabilities to
tangible net worth set forth in its debt agreement with Bank of America National
Trust and Savings Association and, by incorporation by reference, in its debt
agreement with BankAmerica Leasing and Capital Corporation. The Company
requested and received a waiver of noncompliance and, in November 1999, the
covenant was amended so that in future periods subordinated notes payable would
be excluded from the covenant calculation. Had the amendment been applicable to
the September 1999 quarter, the Company would have been in compliance with the
covenant. The Company is currently in compliance with all other financial and
operating covenants that are measured on an on-going basis and expects that, at
each measurement date in the foreseeable future, it will be in compliance with
all financial and operating covenants to be measured at such date.
Note Payable to Bank. In August 1999, the Company and Pioneer Citizens
Bank in Nevada amended the July 1997 Business Loan Agreement (the "Business Loan
Agreement") extending the maturity date on the Company's outstanding borrowings
from August 1, 1999 to August 1, 2000. The Company is required to make a
principal reduction of approximately $122,000 on February 1, 2000.
In November 1999, the Company opened escrow for the sale (to a real estate
developer) of approximately 3.8 acres of the 8.8 acres of land (adjacent to the
Company's 8.4 acre warehouse and distribution facility site in Las Vegas, Nevada
and securing the outstanding borrowings under the Business Loan Agreement). The
net proceeds from the sale are expected to be approximately $1,800,000. Escrow
is scheduled to close by December 1, 1999, subject to standard closing
conditions. The Company does not anticipate recording a significant gain on the
sale of the property as the net sale price of the property approximates its
historical cost. Upon a successful close of escrow, the Company intends to use
the net proceeds to pay down the outstanding borrowings under the Business Loan
Agreement, totaling $1,215,000 at September 30, 1999. The Company reclassified
the historical cost of the 3.8 acres from property, equipment and improvements
to land held for sale in the accompanying consolidated balance sheet at
September 30, 1999. It is management's intention to hold the remaining 5.0
acres near term as an investment.
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<PAGE>
Formation of Joint Venture Limited Liability Company.
----------------------------------------------------
In June 1999, the Company completed the joint venture formation of Aviva
International, LLC, a California limited liability company ("Aviva") with
Michael Lopez ("Lopez"), President of International Consulting & Business
Management. Aviva is 50% owned by each of the Company and Lopez. Aviva plans
to distribute entertainment programming for worldwide broadcast, international
home video, and the Internet with an emphasis on music related projects such as
live concerts and event programming. Additionally, Aviva will act as
international sales agent for the Company's licensed programming. In accordance
with the joint venture operating agreement, the initial term of the joint
venture will be one year, with an option to renew for additional successive
periods upon mutual agreement of the Company and Lopez. Lopez will serve as
Manager of Aviva. Both the Company and Lopez contribute funds to Aviva (as
initial working capital) in the form of interest-bearing loans. Although the
Company owns 50% of the joint venture, it can exercise control over the
operations of Aviva. As a result, Aviva's operating results are consolidated
with the operating results of the Company. Accordingly, Aviva's operating loss,
since its formation, is included in the Company's statement of operations for
the three and six months ended September 30, 1999. Pro forma information has
not been provided as its impact on the consolidated statement of operations for
the periods presented is not material.
For the three and six months ended September 30, 1999, Aviva, as a start-up
entity, did not recognize any sales revenue and had operating expenses totaling
$174,000 and $254,000, respectively. The Company has recognized 50% of Aviva's
net loss for the three and six months ended September 30, 1999, approximately
$87,000 and $127,000, respectively, in its consolidated statements of operations
for the three and six months ended September 30, 1999. Management expects Aviva
will begin to recognize sales agency revenues from international television and
certain smaller international video markets during the quarter ending December
31, 1999. Royalties and distribution fees payable to program suppliers in
connection with Aviva revenue will generally be used to recoup advance royalties
and distribution fees paid by the Company to program suppliers for exclusive
international distribution rights.
Other Obligations.
-----------------
At September 30, 1999, the Company had future license obligations for
royalty advances, minimum guarantees and other fees of $3,311,000 due during the
remainder of fiscal 2000, $1,497,000 due during fiscal 2001 and $110,000 due
during fiscal 2002. These advances and guarantees are recoupable against
royalties and distribution fees earned (in connection with Company revenues) by
the licensors and program suppliers, respectively. Depending upon the
competition for license and exclusive distribution rights, the Company may have
to pay increased advances, guarantees and/or royalty rates in order to acquire
or retain such rights in the future.
At September 30, 1999, the Company had $1.5 million of outstanding standby
letters of credit issued or guaranteed by Foothill of which $1.2 million expire
on or about November 15, 1999 and $300,000 expire on June 30, 2000. These
letters of credit secure trade payables due program suppliers.
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<PAGE>
Summary.
-------
Management believes that its projected cash flows from operations,
borrowing availability under its lender revolving lines of credit, cash on hand
and trade credit will provide the necessary capital to meet its projected cash
requirements for at least the next 12 months. However, any projections of
future cash needs and cash flows are subject to substantial uncertainty. If
cash flows to be generated from operations, future borrowing availability under
its lender revolving lines of credit and future cash on hand are insufficient to
satisfy the Company's continuing licensing and acquisition of exclusive DVD
programming which require significant advance royalty or distribution fee
payments, the Company will need to seek additional debt and/or equity financing.
Failure to obtain this additional financing could significantly restrict the
Company's growth plans. There can be no assurance that additional financing
will be available in amounts or on terms acceptable to the Company, if at all.
Impact of Year 2000.
-------------------
The Company is aware of the complexity and the significance of the Year
2000 issue. Certain computer programs written with two digits rather than four
to define the applicable year may experience problems handling dates near the
end of and beyond the year 1999. This may lead computer applications to fail or
create erroneous results unless corrective measures are taken. During the
September 1999 quarter, the Company continued its efforts to minimize the risk
of disruption from a Year 2000 problem. The Company utilizes information
systems throughout its business to effectively carry out its day-to-day
operations. The Company has established a Year 2000 compliance program which
comprises five phases: discovery, planning, resolution, testing and
implementation. The scope of the Company's compliance program includes
information technology systems (computer hardware and software), non-information
technology systems (facilities, telecommunication systems, distribution center
machinery, security systems and video and sound processing equipment which may
include embedded technology) and the Year 2000 readiness of significant third-
party suppliers (product manufacturers and suppliers and major service providers
such as financial institutions, freight carriers, securities agents and other
service providers) and customers.
State of Readiness. The Company has completed the discovery and planning
phases for both its information technology systems and non-information
technology systems. Approximately 25% of the systems addressed were found to
require some level of remediation or replacement. The Company has completed the
resolution phase with respect to such systems, for which all affected hardware,
software and equipment has been repaired, upgraded or replaced. The Company has
completed the testing and implementation phases for the majority of both its
information technology and non-information technology systems. Based upon the
Company's efforts to date, management believes that the majority of both its
information technology and non-information technology systems, including all
critical and important systems will remain up and running after January 1, 2000.
Accordingly, management does not currently anticipate that internal system
failures will result in a material adverse effect to the Company's operations or
financial condition.
Additionally, the Company has completed its comprehensive Year 2000
supplier/customer readiness assessment with all of its significant third-party
suppliers and customers. This assessment consisted of distributing a
questionnaire to significant third-party suppliers (including those which
manufacture/supply
-22-
<PAGE>
the majority of the exclusive optical discs and packaging and finished
nonexclusive optical disc programming purchased by the Company) and significant
third-party customers (including the Company's largest retail customers). The
Company has received responses to all of the questionnaires distributed and has
analyzed them to determine their respective progress in addressing the Year 2000
problem. Substantially all responses indicated that the Company's major
suppliers and customers have a comprehensive plan in place to be Year 2000
compliant by December 31, 1999. For those suppliers and customers who have
responded that they have not yet reached Year 2000 compliance but expect to by
December 31, 1999, management plans to monitor their progress in reaching Year
2000 compliance through the remainder of the calendar year.
Costs. The Company has primarily utilized internal management information
systems personnel for the installation of maintenance updates and completion of
modifications to existing computer systems. Through September 30, 1999, the
Company has spent approximately $30,000 on the five phases of its Year 2000
compliance program for both information technology and non-information
technology systems. The Company expects the remainder of the Year 2000
remediation process to cost approximately $10,000. All costs are being expensed
as incurred.
Risks and Contingencies.
Information and Non-Information Technology Systems. While management
--------------------------------------------------
believes that its Year 2000 compliance program has substantially reduced the
risk associated with significant Year 2000 related system failures, there can be
no assurance that each and every remedial action will be successful. It is
reasonably likely that there will be minor technical failures associated with
Year 2000, however, such minor technical issues are not expected to have a
material adverse impact on the Company's financial position, results of
operations or cash flows. The Company's most reasonably likely worst-case
scenario related to the Year 2000 would be the incorrect functioning of one or
more computer software applications and/or computer hardware components where
remediation or replacement of such software or hardware produces unforeseen
technical operational difficulties or inefficiencies for a short period of time.
Depending upon the significance of any related operational disruption, the
Company could potentially default on its loan covenant to be "Year 2000
complaint" with Foothill Capital Corporation. This default would potentially
cross-default other debt causing such debt to become immediately due and
payable. The Company plans to have internal and external information systems
resources available at the end of calendar 1999 and beginning of calendar 2000
to address any system issues that may develop.
Significant Suppliers and Customers. The Company has no means of ensuring
-----------------------------------
that its significant suppliers and customers will be Year 2000 complaint. There
can be no assurance that the systems of these entities will be converted timely
or adequately and that their failure to achieve Year 2000 compliance will not
have a material adverse effect on the Company's financial condition, results of
operations and cash flows. The most reasonably likely worst-case scenario is
that the Company may have to use, to the extent possible, alternate sources for
the manufacturing of its exclusive programming and for purchasing nonexclusive
programming. In the case of new release nonexclusive programming purchased from
sole source suppliers, it may not be possible to alternatively source such
product. With respect to its significant customers, the Company believes that
retailer demand for programming is ultimately driven by the end-consumer. With
respect to significant service providers, the Company believes there are
alternate providers
-23-
<PAGE>
available. To the extent possible, the Company is developing its contingency
plans with respect to ultimate non-Year 2000 compliance of its significant
suppliers, customers and service providers.
Impact of Year 2000 -- Ken Crane's.
----------------------------------
Ken Crane's, acquired by the Company in January 1999, utilizes its own
custom computer software to support its point of sale operating system,
including order entry, invoicing and cash and inventory management functions.
Ken Crane's also utilizes custom computer software to support its Internet web
site at www.kencranes.com. The Company completed its Year 2000 compliance
upgrade of the existing computer software and hardware in August 1999. The
Company has completed testing and implementation of the upgraded software and
hardware. The Company believes that Ken Crane's significant information
technology systems and significant non-information technology systems are Year
2000 compliant and does not currently anticipate that internal system failures
will result in a material adverse effect to the Company's operations or
financial condition. The Company plans to have internal and external
information system resources available at the end of calendar 1999 and beginning
of calendar 2000 to address any system issues that may develop.
FORWARD-LOOKING STATEMENTS
Forward-looking statements, within the meaning of the "safe harbor"
provisions of the Private Securities Litigation Reform Act of 1995, are
contained throughout this Form 10-Q. Such statements are based on the beliefs
of the Company's management as well as assumptions made by and information
currently available to the Company's management. When used in this report, the
words "anticipate," "believe," "estimate," "may," "plan," "expect" and similar
expressions, variations of such terms or the negative of such terms as they
relate to the Company or its management are intended to identify such forward-
looking statements and should not be regarded as a representation by the
Company, its management or any other person that the future events, plans or
expectations contemplated by the Company will be achieved. Such statements are
based on management's current expectations and are subject to certain risks,
uncertainties and assumptions. Should one or more of these risks or
uncertainties materialize, or should the underlying assumptions prove incorrect,
the Company's actual results, performance or achievements could differ
materially from those expressed in, or implied by, any such forward-looking
statements. The Company has made forward-looking statements in this Form 10-Q
concerning, among other things: (1) whether DVD has established itself as an
accepted video format; (2) whether DVD replication costs will decline in the
future; (3) the Company's distribution operations will achieve 24-hour
turnaround and same-day order processing in the future; (4) the expected launch
of the new DVDPLANET.com website (the redesigned version of www.kencrane's.com)
and the ability of our distribution system to handle fulfillment for the new web
site; (5) our revenues for our third quarter ending December 31, 1999 will be
strong; (6) regaining the confidence of our customers in our shipping abilities;
(7) the beneficial impact of Ken Crane's RCA DVD promotion on future operating
results; (8) the successful close of escrow to sell 3.8 acres of land in Las
Vegas, Nevada; (9) recognition by Aviva of sales agency revenue during the third
quarter ending December 31, 1999; (10) the Company's Year 2000 compliance
program substantially reducing the risk associated with significant Year 2000
related system failures; and (11) the most likely worst case scenario associated
with the Year 2000 threat. These statements are only predictions. Actual
events or results may differ materially as a result of risks facing the Company.
These risks include, but are not limited to: (1) changing customer and consumer
tastes and preferences; (2) supply and demand factors influencing DVD
replication vendor
-24-
<PAGE>
pricing; (3) unexpected difficulties our internal and external information
systems resources encounter in programming our systems for expedited order
processing, third party fulfilment and website integration; (4); cancellation of
escrow for the 3.8 acre parcel in of Las Vegas; (5) Aviva unsuccessfully closing
potential international sales agreements; (6) competition from other Internet
sellers of DVD programming; (7) our reliance on the Year 2000 compliance
statements of vendors and significant customers when in fact they are actually
not Year 2000 compliant; and (8) that all Year 2000 remedial actions taken by
the Company will be successful in avoiding a significant Year 2000 related
problem. Given these uncertainties, prospective investors are cautioned not to
place undue reliance on such forward-looking statements. The Company disclaims
any obligation to update any such factors or to announce publicly the result of
any revisions to any of the forward-looking statements contained in this and
other Securities and Exchange Commission filings of the Company to reflect
future events or developments.
ITEM 3. Quantitative and Qualitative Disclosures About Market Risk.
----------------------------------------------------------
The Company's obligations to its lenders are subject to fluctuations in interest
rates (both in the prime rate as well as in the LIBOR), however, the Company has
not experienced a material change in interest rates from its fiscal year ended
March 31, 1999.
-25-
<PAGE>
REVIEW BY INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
--------------------------------------------------
The condensed consolidated financial statements as of September 30, 1999 and
for the three- and six-month periods ended September 30, 1999 and 1998 in this
Form 10-Q have been reviewed by KPMG LLP, independent certified public
accountants, in accordance with established professional standards and
procedures for such a review.
The report of KPMG LLP commenting upon their review follows.
-26-
<PAGE>
Independent Auditors' Review Report
-----------------------------------
The Board of Directors and Shareholders
Image Entertainment, Inc.:
We have reviewed the condensed consolidated balance sheet of Image
Entertainment, Inc. and subsidiary as of September 30, 1999, and the related
condensed consolidated statements of operations and cash flows for the three-
and six-month periods ended September 30, 1999 and 1998. These condensed
consolidated financial statements are the responsibility of the Company's
management.
We conducted our review in accordance with standards established by the American
Institute of Certified Public Accountants. A review of interim financial
information consists principally of applying analytical procedures to financial
data and making inquiries of persons responsible for financial and accounting
matters. It is substantially less in scope than an audit conducted in
accordance with generally accepted auditing standards, the objective of which is
the expression of an opinion regarding the financial statements taken as a
whole. Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to the condensed consolidated financial statements referred to above for
them to be in conformity with generally accepted accounting principles.
We have previously audited, in accordance with generally accepted auditing
standards, the consolidated balance sheet of Image Entertainment, Inc. and
subsidiary as of March 31, 1999, and the related consolidated statements of
operations, shareholders' equity and cash flows for the year then ended; and in
our report dated May 21, 1999, we expressed an unqualified opinion on those
consolidated financial statements. In our opinion, the information set forth in
the accompanying condensed consolidated balance sheet as of March 31, 1999, is
fairly stated, in all material respects, in relation to the consolidated balance
sheet from which it has been derived.
/s/ KPMG LLP
Los Angeles, California
November 5, 1999
-27-
<PAGE>
==============================
PART II - OTHER INFORMATION
==============================
ITEM 1. Legal Proceedings.
-----------------
On June 18, 1997, the Company filed a complaint in the Superior Court of
the State of California, County of Los Angeles (Case No. BC173084), against LEI
Partners, L.P. ("LEI") and a number of related entities and individuals, which
relates to a dispute concerning, among other things, LEI's payment obligations
under two promissory notes issued in connection with a December 31, 1990
purchase agreement documenting the Company's sale of a business segment to LEI
(the "Superior Court Action"). The Company has alleged, inter alia, breach of
----- ----
contract, intentional misrepresentation, negligent misrepresentation, conspiracy
to defraud, interference with economic relationship, conspiracy to interfere
with economic relationship, and conversion. The Company contends that through
an intricate conspiracy among sham corporations and partnerships LEI and others
defrauded the Company and systematically dissipated and diverted the assets of
LEI so that LEI was intentionally rendered incapable of satisfying its
obligations under the purchase agreement and the two promissory notes. This
fraudulent scheme includes, but is not limited to, the misrepresentation of the
gross revenues and pre-tax profits derived from the operation of the acquired
business, and the fraudulent concealment and conspiratorial diversion of assets
of that business (including the revenues generated by that business) from LEI to
persons and entities affiliated with LEI. The Company also contends that all of
the defendants are or were the alter egos of LEI and each other. The complaint
seeks compensatory damages of not less than $5 million plus accrued interest,
attorney's fees and punitive damages in an amount to be proven at trial. On
September 16, 1997, the Company filed a first amended complaint against the same
defendants and making the same claims, but providing additional factual details.
In response to the complaint, defendant LEI filed a petition to compel
arbitration and stay the litigation pending completion of the arbitration, based
upon an arbitration provision in one of the two promissory notes in dispute. On
September 18, 1997, the court ordered the Company and LEI to arbitrate before
the American Arbitration Association ("AAA") in Los Angeles, California, and
stayed the remainder of the litigation pending completion of the arbitration.
On November 17, 1997, the Company commenced the court ordered arbitration
proceedings against LEI, seeking damages in excess of $3.7 million, plus
attorney's fees and costs, for breach of the promissory notes. On January 21,
1998, LEI filed an answering statement denying liability. LEI also submitted a
counterclaim against the Company and three of its present or former officers or
directors, but refused to pay the AAA filing fee, and the AAA rejected the
counterclaim. Although LEI's counterclaim was rejected and is not pending, it
alleged claims for, inter alia, fraud in the inducement, recission and breach of
----- ----
written contract. The counterclaim maintained that certain of the Company's
representations and warranties regarding the value of the acquired business and
its projected income were false, and that LEI was therefore fraudulently induced
to execute the purchase agreement and the two promissory notes. LEI also
maintained that the Company breached a seller non-competition agreement, thereby
entitling LEI to an offset against any amount found to be owed under the second
promissory note. The counterclaim sought compensatory damages of $1 million
plus accrued interest, attorney's fees and costs, and also sought
-28-
<PAGE>
punitive damages in the amount of $2 million. Should the rejected counterclaim
of LEI ever be filed or prosecuted, the Company intends to contest vigorously
its allegations and purported claims.
On May 4, 1998, LEI and three other defendants in the Superior Court
Action filed voluntary petitions under Chapter 7 of the Bankruptcy Code in the
United States Bankruptcy Court for the Central District of California. These
bankruptcy filings automatically stayed the prosecution of the court ordered
arbitration proceedings against LEI, and the prosecution of the Superior Court
Action against LEI and the other debtor defendants. In connection with the
bankruptcy proceedings, the Company availed itself of provisions in the
Bankruptcy Code to conduct discovery relating to the acts, conduct, property,
liabilities and financial condition of LEI and the other debtors. In July 1998,
the Company filed motions to compel LEI and the other debtors and the debtors'
accountants to produce documents and appear for examination under Bankruptcy
Rule 2004. The Bankruptcy Court granted all of the Company's motions, issuing
orders compelling the four debtor entities and their principals (Mark Kreloff
and Paul Haigney), as well as the debtors' former accountants (Kress & Rosenbaum
Accountancy Corporation and Calvin Leong) to produce documents and appear for
Rule 2004 examinations. In connection with the Rule 2004 motions, the Company
has obtained and reviewed thousands of pages of documents from the debtors'
former accountants and the debtors, relating to the assets, liabilities, and
financial condition of the debtors and other matters which may affect the
administration of the debtor's estate or their right to a discharge. The
Company has also taken Rule 2004 examinations of three of the debtors' former
accountants, and has also completed Rule 2004 examinations of the debtors and
their principals.
Effective as of April 30, 1999, the Company entered into a confidential
settlement agreement with one of the nondebtor defendants, who has since been
dismissed from the Superior Court Action. On May 4, 1999, the Superior Court
granted the Company's motion to lift the stay of the Superior Court Action,
thereby permitting the Company to prosecute the Superior Court Action against
all remaining nondebtor defendants. Once the stay was lifted, the Company added
as defendants in the Superior Court Action two additional companies alleged to
be affiliated with LEI and its principals. On June 3, 1999, all nondebtor
defendants, including the two new defendants, filed an answer to the First
Amended Complaint denying liability. Although the defendants alleged
affirmative defenses based on the rejected counterclaim that LEI attempted to
assert in the arbitration proceeding, they filed no cross-complaint and
therefore currently have no claim for affirmative relief against the Company.
On May 7, 1999, the debtors filed motions in the Bankruptcy Court
objecting to the claims of the Company, attempting to resolve in the Bankruptcy
Court the claims pending in the Superior Court Action. On June 10, 1999, the
Bankruptcy Court denied the debtors' motions in their entirety and overruled
their objections to the Company's claims, proofs of which had not been filed.
Before the hearing of the debtors' objections, on May 28, 1999, the trustee in
each of the bankruptcy cases filed "no asset reports" for each of the debtors,
notifying all creditors not to file proofs of claim, as there appeared to be no
assets of any debtor. This means the trustee placed no value on the purported
counterclaim of LEI identified in the bankruptcy schedules, and also means that
the bankruptcy cases will eventually be closed. Once the cases are closed, the
automatic stay of proceedings against the debtors will be lifted and they will
likely rejoin the Superior Court action. Whether the counterclaim will be
asserted at that time in the Superior Court action is not known.
-29-
<PAGE>
The Company is continuing to prosecute its Superior Court Action by
conducting further discovery and preparing the case for trial.
On November 13, 1998, the Company filed a complaint in the Superior Court
of the State of California, County of Los Angeles (Case No. SC 054918), against
its former attorneys, Stephen P. Reid, A Professional Law Corporation, Stephen
P. Reid, and Reid & Co., for breach of fiduciary duty and legal malpractice.
The claims alleged arise out of defendants' representation of LEI and its
principals, without the Company's informed and written consent, in matters
directly related to the subject of defendants' prior representation of the
Company. The complaint seeks compensatory damages of not less than $5 million
plus interest. The parties are in the process of completing the discovery phase
of the litigation. Trial is set for February 22, 2000.
On July 12, 1999, the Company was named as a defendant in an Adversary
Proceeding (the "Adversary Proceeding") filed by One Stop Recovery LLC, as
Trustee for AEC One Stop, Inc. ("Plaintiff") in connection with the Chapter 11
bankruptcy of Alliance Entertainment Corp. ("Alliance"). The Adversary
Proceeding is pending in the United States Bankruptcy Court for the Southern
District of New York. In the Adversary Proceeding, the Plaintiff is seeking to
recover approximately $1,740,000 in alleged preferential transfers (including
payments made and the value of goods returned) made by Alliance within the 90-
day period immediately preceding the commencement of its bankruptcy case. The
Company intends to vigorously defend itself in the Adversary Proceeding. While
it is not feasible to predict or determine the outcome of the Adversary
Proceeding, management does not believe that it would have a material adverse
effect on the Company's financial position, results of operations or liquidity.
In the normal course of business, the Company is subject to proceedings,
lawsuits and other claims, including proceedings under government laws and
regulations relating to employment and tax matters. While it is not possible to
predict the outcome of these matters, it is the opinion of management, based on
consultations with legal counsel, that the ultimate disposition of known
proceedings (including the rejected counterclaim in the above-described
arbitration proceeding and the adversary proceeding) will not have a material
adverse impact on the Company's financial position, results of operations or
liquidity.
ITEM 2. Changes in Securities.
---------------------
Not Applicable
ITEM 3. Defaults upon Senior Securities.
-------------------------------
Not Applicable
ITEM 4. Submission of Matters to a Vote of Security Holders.
---------------------------------------------------
On September 10, 1999, the Company held its annual meeting of
shareholders. Represented at the meeting in person or by proxy were
14,471,261 shares of common stock (approximately 87.93% of the shares
entitled to vote), constituting a quorum.
-30-
<PAGE>
At the meeting, Martin W. Greenwald, Ira S. Epstein, M. Trevenen Huxley
and Stuart Segall were elected as directors of the Company to serve
until their respective successors have been elected and qualified. With
respect to Mr. Greenwald's election, there were 14,321,424 votes for
and 149,837 votes withheld. With respect to Mr. Epstein's election
there were 14,369,345 votes for and 101,916 votes withheld. With
respect to Mr. Huxley's election, there were 14,369,312 votes for
and 101,949 votes withheld. With respect to Mr. Segall's election,
there were 14,323,904 votes for and 147,357 votes withheld.
At the meeting, the Company's shareholders voted upon, approved and
adopted an amendment to Article III of the Company's Restated Articles
of Incorporation to increase the number of authorized shares of the
Company's common stock, no par value, from 25,000,000 to 30,000,000.
With respect to this matter, there were 14,147,082 votes for, 293,080
votes against and 31,099 abstentions.
At the meeting, the Company's shareholders voted upon and ratified the
appointment of KPMG LLP as the Company's independent auditors for the
fiscal year ending March 31, 2000. With respect to this matter, there
were 14,400,242 votes for, 47,454 votes against and 23,565 abstentions.
ITEM 5. Other Information.
-----------------
Not Applicable
ITEM 6. Exhibits and Reports on Form 8-K.
--------------------------------
(a) Exhibits
See Exhibit Index on page i
(b) Reports on Form 8-K
None
-31-
<PAGE>
-------------
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.
IMAGE ENTERTAINMENT, INC.
Date: November 12, 1999 By: /S/ MARTIN W. GREENWALD
-----------------------
Martin W. Greenwald
Chairman of the Board, Chief Executive Officer,
President and Treasurer
Date: November 12, 1999 By: /S/ JEFF M. FRAMER
------------------
Jeff M. Framer
Chief Financial Officer
-32-
<PAGE>
================
EXHIBIT INDEX
================
Exhibit No. Description
- ----------- -----------
10.1 * Amendment No. 1 dated as of November 1, 1999 to Loan and Security
Agreement dated as of December 28, 1998 by and between the
Company and Foothill Capital Corporation.
10.2 * Amendment No. 3 dated as of November 3, 1999 to Business Loan
Agreement dated as of March 10, 1997 by and between the Company
and Bank of America, N.A., successor by merger to Bank of America
National Trust and Savings Association.
15 * Consent Letter of KPMG LLP, Independent Certified Public
Accountants.
27 * Financial Data Schedule as of and for the Six Months Ended
September 30, 1999.
- ----------------------------
* Exhibit(s) not previously filed with the Securities
and Exchange Commission.
+ Management Contracts, Compensatory Plans or Arrangements.
-i-
<PAGE>
EXHIBIT 10.1
AMENDMENT NUMBER ONE TO
LOAN AND SECURITY AGREEMENT
THIS AMENDMENT NUMBER ONE TO LOAN AND SECURITY AGREEMENT (this
"Amendment"), is entered into as of November 1, 1999, between FOOTHILL CAPITAL
CORPORATION, a California corporation ("Lender"), with a place of business
located at 11111 Santa Monica Boulevard, Suite 1500, Los Angeles, California
90025-3333, and IMAGE ENTERTAINMENT, INC., a California corporation
("Borrower"), with its chief executive office located at 9333 Oso Avenue,
Chatsworth, California 91311.
This Amendment is entered into with reference to the following facts:
A. Lender and Borrower heretofore entered into that certain Loan and
Security Agreement, dated as of December 28, 1998 (as amended, restated
or otherwise modified from time to time, the "Agreement");
B. Borrower has requested that Lender amend the Agreement as set forth in
this Amendment, to increase the Maximum Revolving Amount (as defined in
the Agreement) from $12,000,000 to $15,000,000, and to increase the
Inventory sub-line amount from $4,000,000 to $5,000,000;
C. Lender is willing to so amend the Agreement in accordance with the terms
and conditions hereof; and
D. All capitalized terms used herein and not defined herein shall have the
same meanings ascribed to them in the Agreement, as amended hereby.
NOW, THEREFORE, in consideration of the above recitals and the mutual
promises contained herein, Lender and Borrower hereby agree as follows:
1. Amendments to the Agreement.
---------------------------
(a) The definition of "Maximum Revolving Credit Amount" set forth in
Section 1.1 of the Agreement is hereby amended and restated in its entirety to
- -----------
read as follows:
"Maximum Revolving Credit Amount" means Fifteen Million Dollars
-------------------------------
($15,000,000).
(b) Clause (i)(w) of the definition of "Borrowing Base" set forth in
-------------
Section 2.1(a) of the Agreement hereby is amended and restated in its entirety
- --------------
to read as follows:
(w) (I) for any sale of determination on or before December 31,
1999, an amount equal to Borrower's collections with respect to
Accounts for the immediately preceding 90 day period; and (II) for any
date of determination on or after January 1, 2000, an amount equal to
Borrower's collections with respect to Accounts for the immediately
preceding 60 day period; plus
----
(c) Clause (ii)(z) of the definition of "Borrowing Base" set forth in
--------------
Section 2.1(a) of the Agreement hereby is amended and restated in its entirety
- --------------
to read as follows:
(z) Five Million Dollars ($5,000,000).
2. Representations and Warranties. Borrower hereby represents and
------------------------------
warrants to Lender that (a) the execution, delivery, and performance of this
Amendment and of the Agreement, as amended by this Amendment,
-1-
<PAGE>
are within its corporate powers, have been duly authorized by all necessary
corporate action, and are not in contravention of any law, rule, or regulation,
or any order, judgment, decree, writ, injunction, or award of any arbitrator,
court, or governmental authority, or of the terms of its charter or bylaws, or
of any contract or undertaking to which it is a party or by which any of its
properties may be bound or affected, and (b) this Amendment and the Agreement,
as amended by this Amendment, constitute Borrower's legal, valid, and binding
obligation, enforceable against Borrower in accordance with its terms.
3. Conditions Precedent to Amendment. The satisfaction of each of the
---------------------------------
following, on or before October 29, 1999, shall constitute conditions precedent
to the effectiveness of this Amendment:
(a) The representations and warranties in this Amendment, the
Agreement as amended by this Amendment, and the other Loan Documents shall be
true and correct in all respects on and as of the date hereof, as though made on
such date (except to the extent that such representations and warranties relate
solely to an earlier date);
(b) No Event of Default or event which with the giving of notice or
passage of time would constitute an Event of Default shall have occurred and be
continuing on the date hereof, nor shall result from the consummation of the
transactions contemplated herein;
(c) No injunction, writ, restraining order, or other order of any
nature prohibiting, directly or indirectly, the consummation of the transactions
contemplated herein shall have been issued and remain in force by any
governmental authority against Borrower or Lender;
(d) All other documents and legal matters in connection with the
transactions contemplated by this Amendment shall have been delivered or
executed or recorded and shall be in form and substance satisfactory to Agent
and its counsel; and
(e) Lender shall have received an amendment fee of $15,000, which fee
shall be charged directly to Borrower's Loan Account.
4. Miscellaneous.
-------------
(a) Upon the effectiveness of this Amendment, each reference in the
Agreement to "this Agreement," "hereunder," "herein," "hereof" or words of like
import referring to the Agreement shall mean and refer to the Agreement as
amended by this Amendment.
(b) Upon the effectiveness of this Amendment, each reference in the
Loan Documents to the "Loan Agreement," "thereunder," "therein," "thereof" or
words of like import referring to the Agreement shall mean and refer to the
Agreement as amended by this Amendment.
(c) This Amendment shall be governed by and construed in accordance
with the laws of the State of California.
(d) This Amendment may be executed in any number of counterparts and
by different parties on separate counterparts, each of which, when executed and
delivered, shall be deemed to be an original, and all of which, when taken
together, shall constitute but one and the same Amendment. Delivery of an
executed counterpart of this Amendment by telefacsimile shall be equally as
effective as delivery of a manually executed counterpart of this Amendment. Any
party delivering an executed counterpart of this Amendment by telefacsimile also
shall deliver a manually executed counterpart of this Amendment but the failure
to deliver a manually executed counterpart shall not affect the validity,
enforceability, and binding effect of this Amendment.
-2-
<PAGE>
IN WITNESS WHEREOF, the parties hereto have caused this Amendment to be
duly executed as of the date first written above.
IMAGE ENTERTAINMENT, INC.
a California corporation
By: /s/ JEFF M. FRAMER
Name: Jeff M. Framer
Title: Chief Financial Officer
FOOTHILL CAPITAL CORPORATION
a California corporation
By: /s/ SHERI FENEBOCK
Name: Sheri Fenenbock
Title: Vice President
-3-
<PAGE>
EXHIBIT 10.2
AMENDMENT NO. 3
This Amendment No. 3 (the "Amendment") dated as of November 3, 1999, is between
Bank of America, N.A., successor by merger to Bank of America National Trust and
Savings Association (the "Bank") and Image Entertainment, Inc., a California
corporation (the "Borrower").
RECITALS
--------
A. The Bank and the Borrower entered into a certain Business Loan Agreement
dated as of March 10, 1997, as previously amended (the "Agreement").
B. The Bank and the Borrower desire to further amend the Agreement.
AGREEMENT
---------
1. Definitions. Capitalized terms used but not defined in this Amendment
-----------
shall have the meaning given to them in the Agreement.
2. Amendments. The Agreement is hereby amended as follows:
----------
2.1 Section 1.1 (Definitions) (Total Liabilities) of the Agreement, is
amended in its entirety to read as follows:
"Total Liabilities Not Subordinated to Bank" means the sum of current
liabilities plus long term liabilities excluding debt subordinated to the
Borrower's obligations to Foothill Financial and/or the Bank in a manner
acceptable to the Bank.
2.2 Section 1.1 (Definitions) (Tangible Net Worth) of the Agreement, as
amended in its entirety to read as follows:
"Tangible Net Worth" means the gross book value of the Borrower's
assets (excluding goodwill, patents, trademarks, trade names, organization
expenses, treasury stock, unamortized debt discount and expenses, deferred
research and development costs, deferred marketing expenses, and other like
intangibles and monies due from affiliates, officers, directors or
shareholders of the Borrower) plus liabilities subordinated to Foothill
Financial and/or the Bank in a manner acceptable to the Bank less total
liabilities, including but not limited to accrued and deferred income
taxes, and any reserves against assets.
3. Conditions. This Amendment is effective when the Bank receives the
----------
following items, in form and content acceptable to the Bank:
3.1 A duly executed copy of this Amendment.
4. Effect of Amendment. Except as provided in this Amendment, all of the
-------------------
terms and conditions of the Agreement shall remain in full force and
effect.
<PAGE>
This Amendment is executed as of the date stated at the beginning of this
Amendment.
Bank of America, N.A. Image Entertainment, Inc.
a California corporation
By:/s/ BRIAN ASTEL Its:/s/ JEFF M. FRAMER
--------------- ------------------
Brian Astle, Vice President Jeff M. Framer, Chief Financial Officer
<PAGE>
EXHIBIT 15
INDEPENDENT ACCOUNTANTS' CONSENT
--------------------------------
Image Entertainment, Inc.
Chatsworth, California
Gentlemen:
Re: Registration Statement Nos. 33-43241, 33-55393 and 33-57336
With respect to the subject registration statement, we acknowledge our awareness
of the use therein of our report dated November 5, 1999 related to our review of
interim financial information.
Pursuant to Rule 436(c) under the Securities Act of 1933, such report is not
considered a part of a registration statement prepared or certified by an
accountant or a report prepared or certified by an accountant within the meaning
of Sections 7 and 11 of the Act.
/s/ KPMG LLP
Los Angeles, California
November 8, 1999
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM 10-Q
SEPTEMBER 30, 1999 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH
FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> MAR-31-2000
<PERIOD-START> APR-01-1999
<PERIOD-END> SEP-30-1999
<CASH> 726
<SECURITIES> 0
<RECEIVABLES> 13,872
<ALLOWANCES> 3,525
<INVENTORY> 15,924
<CURRENT-ASSETS> 0<F1>
<PP&E> 19,103
<DEPRECIATION> 5,740
<TOTAL-ASSETS> 56,752
<CURRENT-LIABILITIES> 0<F1>
<BONDS> 0
31,782
0
<COMMON> 0
<OTHER-SE> (8,949)
<TOTAL-LIABILITY-AND-EQUITY> 56,752
<SALES> 35,837
<TOTAL-REVENUES> 35,837
<CGS> 26,893
<TOTAL-COSTS> 26,893
<OTHER-EXPENSES> 1,864
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 722
<INCOME-PRETAX> (1,556)
<INCOME-TAX> 0
<INCOME-CONTINUING> (1,556)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (1,556)
<EPS-BASIC> (.09)
<EPS-DILUTED> (.09)
<FN>
<F1>The Company has an unclassified balance sheet due to the nature of its
industry.
</FN>
</TABLE>
