<PAGE>
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTER ENDED JUNE 30, 1996 COMMISSION FILE NO. 0-17295
------------------------
THE KUSHNER-LOCKE COMPANY
(Exact name of registrant as specified in its charter)
CALIFORNIA 95-4079057
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
11601 WILSHIRE BLVD., 21ST FLOOR, LOS ANGELES, CALIFORNIA 90025
(Address of principal executive offices) (Zip Code)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE (310) 445-1111
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
Not Applicable
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
Common Stock, without par value
10% Convertible Subordinated Debentures, Series A due 2000
13 3/4% Convertible Subordinated Debentures, Series B due 2000
Common Stock Purchase Warrants, Class A and Class C
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
----- -----
There were 51,658,412 shares of outstanding Common Stock of the
Registrant as of August 6, 1996.
------------------------
Total number of pages 20
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<PAGE>
THE KUSHNER-LOCKE COMPANY
AND SUBSIDIARIES
FORM 10-Q FOR THE QUARTER ENDED JUNE 30, 1996
INDEX
Part I. FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Balance Sheets
Condensed Consolidated Statements of Operations
Condensed Consolidated Statements of Cash Flows
Condensed Consolidated Statements of Stockholders' Equity
Notes to Condensed Consolidated Financial Statements
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Part II. OTHER INFORMATION
Item 1. Legal Proceedings
Items 2 through 4. Not Applicable
Item 5. Other Information
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits: 4.5
4.6
10.56
10.57
(b) Reports on Form 8-K: None
2
<PAGE>
PART I
ITEM 1.
THE KUSHNER-LOCKE COMPANY
AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
ASSETS
JUNE 30, SEPTEMBER 30,
1996 1995
----------- -------------
(unaudited)
<S> <C> <C>
Cash and cash equivalents............................... $2,488,000 $3,139,000
Restricted cash......................................... 2,956,000 1,162,000
Accounts receivable, net of allowance for
doubtful accounts...................................... 20,729,000 7,864,000
Due from affiliates..................................... 0 309,000
Notes receivable from August Entertainment, Inc. ....... 688,000 676,000
Film costs, net of accumulated amortization............. 64,979,000 73,716,000
Property and equipment, at cost, net of accumulated
depreciation and amortization.......................... 415,000 515,000
Other assets............................................ 4,116,000 1,571,000
------------ ------------
$96,371,000 $88,952,000
------------ ------------
------------ ------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Accounts payable and accrued liabilities................ $5,287,000 $3,245,000
Due to affiliates....................................... 44,000 0
Notes payable........................................... 37,105,000 28,398,000
Deferred film license fees.............................. 5,945,000 2,753,000
Contractual obligations, principally participants'
share payable and talent residuals..................... 4,575,000 995,000
Production advances..................................... 2,267,000 16,609,000
Convertible subordinated debentures, net of
deferred issuance costs................................ 16,081,000 17,745,000
------------ ------------
Total liabilities................................... $71,304,000 $69,745,000
------------ ------------
Stockholders' equity:
Common stock, no par value. Authorized 80,000,000
shares, issued and outstanding 40,210,742 shares at
June 30, 1996 and 35,466,599 shares at September 30,
1995................................................. 27,781,000 23,337,000
Accumulated deficit.................................... (2,714,000) (4,130,000)
------------ ------------
Total stockholders' equity......................... $25,067,000 $19,207,000
------------ ------------
$96,371,000 $88,952,000
------------ ------------
------------ ------------
</TABLE>
See accompanying Notes to Condensed Consolidated Financial Statements.
3
<PAGE>
THE KUSHNER-LOCKE COMPANY
AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
JUNE 30, JUNE 30,
-------------------------------- -------------------------------
1996 1995 1996 1995
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Operating revenues.............................. $ 28,983,000 $ 1,904,000 $ 58,320,000 $ 13,518,000
Costs related to operating revenues.............. 26,294,000 1,567,000 50,659,000 10,735,000
Selling, general and administrative expenses..... 900,000 957,000 2,868,000 2,934,000
------------- ------------- ------------- -------------
Earnings/(loss) from operations.............. 1,789,000 (620,000) 4,793,000 (151,000)
Interest income.................................. 83,000 49,000 143,000 185,000
Interest expense................................. (712,000) (966,000) (2,566,000) (2,558,000)
Interest expense related to Bridge Note
financing....................................... (618,000) -- (618,000) --
------------- ------------- ------------- -------------
Earnings/(loss) before income taxes and
extraordinary item.............................. 542,000 (1,537,000) 1,752,000 (2,524,000)
Provision for income taxes....................... 16,000 26,000 36,000 43,000
------------- ------------- ------------- -------------
Earnings/(loss) before extraordinary............. 526,000 (1,563,000) 1,716,000 (2,567,000)
Extraordinary item:
Costs associated with repayment of credit
facility..................................... (250,000) -- (300,000) --
------------- ------------- ------------- -------------
$ 276,000 $ (1,563,000) $ 1,416,000 $ (2,567,000)
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
Earnings/(loss) per common and common equivalent share:
Earnings/(loss) before extraordinary item............ $ 0.01 $ (0.05) $ 0.05 $ (0.08)
Earnings/(loss) associated with extraordinary
item............................................ (0.00) -- (0.01) --
------------- ------------- ------------- -------------
Net Earnings/(loss).................................. $ 0.01 $ (0.05) $ 0.04 $ (0.08)
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
Weighted average number of common and common
equivalent shares outstanding................... 39,190,000 31,589,000 37,034,000 31,432,000
------------- ------------- ------------- -------------
------------- ------------- ------------- -------------
</TABLE>
See accompanying Notes to Condensed Consolidated Financial Statements.
4
<PAGE>
THE KUSHNER-LOCKE COMPANY
AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
<TABLE>
<CAPTION>
NINE MONTHS ENDED JUNE 30
---------------------------------
1996 1995
--------------- -------------
<S> <C> <C>
Cash flows from operating activities:
Net earnings (loss).................................................... $1,416,000 $(2,567,000)
Adjustments to reconcile net earnings (loss) to net cash used by
operating activities:
Increase in restricted cash............................................ (1,794,000) (650,000)
Amortization of film costs............................................. 50,496,000 11,049,000
Depreciation and amortization.......................................... 101,000 185,000
Amortization of capitalized issuance costs and warrants................ 365,000 314,000
Accounts receivable, net............................................... (12,865,000) (516,000)
Due from affiliates.................................................... 341,000 (745,000)
Increase in film costs................................................. (41,759,000) (29,376,000)
Accounts payable and accrued liabilities............................... 2,041,000 610,000
Deferred film license fees............................................. 3,192,000 914,000
Contractual obligations................................................ 3,580,000 (509,000)
Production advances.................................................... (14,342,000) 3,109,000
------------- -----------
Net cash (used) by operating activities............................ (9,228,000) (18,182,000)
Cash flows from investing activities:
Increase in property and equipment, net.................................... -- (241,000)
Decrease (Increase) in other assets........................................ (166,000) 37,000
------------- -----------
Net cash (used) by investing activities............................ (166,000) (204,000)
Cash flows from financing activities:
Increase in notes payable.................................................. 21,747,000 9,642,000
Repayment of notes payable................................................. (15,000,000) (2,600,000)
Net proceeds from issuance of debentures................................... 1,307,000 --
Net proceeds from exercise of conversion options........................... (55,000) (60,000)
Proceeds from exercise of stock options.................................... 412,000 --
------------- -----------
Net cash and restricted cash provided by financing activities...... 8,411,000 6,982,000
Net increase in cash and restricted cash................................... (651,000) (11,404,000)
Cash at beginning of period................................................ 3,139,000 15,681,000
------------- -----------
------------- -----------
Cash at end of period...................................................... $2,488,000 $4,277,000
------------- -----------
------------- -----------
</TABLE>
SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
(1) During the nine months ended June 30, 1995, $1,960,400 of convertible
subordinated debentures, before unamortized capitalized issuance costs
of $216,000, were converted into 2,012,883 shares of Common Stock.
(2) During the nine months ended June 30, 1996, $3,586,000 of convertible
subordinated debentures, before unamortized issuance costs of $315,000,
were converted into 3,662,411 shares of common stock.
(3) During the nine months ended June 30, 1996, 631,733 Shares of Common Stock,
valued at $750,000, were issued related to interest on Bonus Shares.
(4) During the three months ended June 30, 1996, $1,960,000 of bank fees were
financed by the bank.
See accompanying Notes to Condensed Consolidated Financial Statements.
5
<PAGE>
THE KUSHNER-LOCKE COMPANY
AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
NINE MONTHS ENDED JUNE 30, 1996
(unaudited)
<TABLE>
<CAPTION>
STOCKHOLDERS' EQUITY
---------------------------------------------------------------------
NUMBER OF COMMON ACCUMULATED
SHARES STOCK DEFICIT TOTAL
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Balance at September 30, 1995...................... 35,466,598 $23,337,000 $(4,130,000) $19,207,000
Conversions of convertible debentures.............. 3,662,409 3,282,000 -- 1,530,000
Stock Options Exercised............................ 450,000 412,000 -- 412,000
Issuance of Bridge Loan Stock...................... 631,733 750,000 -- 750,000
Net earnings ...................................... -- -- 1,416,000 276,000
------------ ------------ ------------ ------------
Balance at June 30, 1996....................... 40,210,740 $27,781,000 $(2,714,000) $25,067,000
------------ ------------ ------------ ------------
------------ ------------ ------------ ------------
</TABLE>
See accompanying Notes to Condensed Consolidated Financial Statements.
6
<PAGE>
THE KUSHNER-LOCKE COMPANY
AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
THE COMPANY
The Kushner-Locke Company (the "Company") is principally engaged in
the development, production and distribution of feature films, direct-to-video
films, television series, movies-for-television, mini-series and animated
programming.
BASIS OF PRESENTATION
The accompanying condensed consolidated financial statements include
the accounts of The Kushner-Locke Company, its subsidiaries and certain less
than wholly-owned entities where the Company has control. All material
intercompany balances and transactions have been eliminated.
These unaudited consolidated financial statements and notes thereto
have been condensed and, therefore, do not contain certain information included
in the Company's annual consolidated financial statements and notes thereto.
The unaudited condensed consolidated financial statements should be read in
conjunction with the Company's annual consolidated financial statements and
notes thereto.
The unaudited condensed consolidated financial statements reflect, in
the opinion of management, all adjustments, all of which are of a normal
recurring nature, necessary to present fairly the financial position of the
Company as of June 30, 1996, and the results of its operations for the three
month period ended June 30, 1996 and 1995, and its cash flows for the nine month
period ended June 30, 1996 and 1995. Interim results are not necessarily
indicative of results to be expected for a full fiscal year.
Certain reclassifications have been made to conform prior year
balances with the current presentation.
RESTRICTED CASH
As of June 30, 1996, the Company had $2,956,000 in restricted cash
related to advances received by the Company from film producers for the
acquisition of distribution rights. These cash advances were being held in
escrow accounts as collateral by financial institutions providing production
loans to those producers.
INCOME TAXES
Effective October 1, 1993, the Company adopted Statement of Financial
Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes." This
statement supersedes SFAS No. 96, "Accounting for Income Taxes." Under the
asset and liability method of SFAS 109, deferred tax assets and liabilities are
recognized for the future tax consequences attributable to differences between
the financial statements carrying amounts of existing assets and liabilities and
their respective tax bases. Deferred tax assets and liabilities are measured
using enacted tax rates expected to apply to taxable income in the years in
which those temporary differences are expected to be recovered or settled.
Under SFAS 109, the effect on deferred tax assets and liabilities of a change in
tax rates is recognized in operating results in the period encompassing the
enactment date.
EARNINGS (LOSS) PER SHARE
Earnings (loss) per common and common equivalent share is based upon
the weighted average number of shares of common stock outstanding plus common
equivalent shares consisting of dilutive outstanding warrants and stock options.
The weighted average number of common and common equivalent shares outstanding
for the calculation of primary earnings per share was 39,190,000 and 31,589,000
for the quarters ended June 30, 1996 and 1995, respectively, 37,034,000 and
31,432,000 for the nine months ending June 30, 1996 and 1995, respectively. The
inclusion of the additional shares, assuming the conversion of the Company's
convertible subordinated debentures, would have been anti-dilutive for the three
and the nine months ended June 30, 1996 and June 30, 1995, respectively.
7
<PAGE>
THE KUSHNER-LOCKE COMPANY
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(2) FILM COSTS
Film costs consist of the following:
<TABLE>
<CAPTION>
JUNE 30, SEPTEMBER 30,
1996 1995
----------- -------------
<S> <C> <C>
In process or development $12,265,000 $42,115,000
Released, principally THE ADVENTURES OF PINOCCHIO, other
feature films and television productions, net of accumulated
amortization 52,714,000 31,601,000
------------ -------------
$64,979,000 $73,716,000
------------ -------------
------------ -------------
</TABLE>
(3) NOTES PAYABLE
Notes payable are comprised of the following:
<TABLE>
<CAPTION>
JUNE 30, SEPTEMBER 30,
1996 1995
----------- -------------
<S> <C> <C>
Note payable to bank, revolving credit facility secured by
substantially all Company assets, interest at varying
rates as discussed below, outstanding principal balance due
June 25, 1999 $18,710,000 $14,804,000
Notes payable to banks and/or financial institutions
consisting of seven production loans secured by certain
film rights held by producers, priced at different rates
for each loan; approximately $2,177,000 due before
July 1996, $1,900,000 before August 1996, $12,317,000
before October 1996, and $2,001,000 before November 1997 18,395,000 13,594,000
------------- ------------
$37,105,000 $28,398,000
------------- ------------
------------- ------------
</TABLE>
On June 25, 1995 the Company closed a new syndicated borrowing base revolving
credit facility. In conjunction with the closing of such new facility, the
Company repaid amounts outstanding under its then existing credit facility,
and unamortized issuance costs of $250,000 relating to this previous credit
facility have been expensed and classified as an extraordinary item.
The new revolving credit facility bears interest at the Company's option,
either (i) at LIBOR (5.56% as of August 9, 1996) plus 3% (for that portion of
the borrowing base supported by accounts or contracts receivable) or 4% (for
that portion of the borrowing base supported by unamortized library film
costs or for loans made under the production tranche) or (ii) at the
Alternate Base Rate (which is the greater of (a) the agent bank's Prime Rate
(8.25% as of August 9, 1996), (b) the agent bank's Base CD Rate (5.34% as of
August 9, 1996) plus 1% or (c) the Federal Funds Effective Rate (5.19% as of
August 9, 1996) plus 1/2% plus 2% (for that portion of the borrowing base
supported by accounts or contracts receivable) or 3% (for that portion of the
borrowing base supported by unamortized library film costs or for loans made
under the production tranche).
8
<PAGE>
THE KUSHNER-LOCKE COMPANY
AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(4) CONVERTIBLE SUBORDINATED DEBENTURES
<TABLE>
<CAPTION>
JUNE 30, SEPTEMBER 30,
1996 1995
----------- --------------
<S> <C> <C>
Series A Convertible Subordinated Debentures due December 15, 2000,
bearing interest at 10% per annum payable June 15 and December 15, net of
unamortized capitalized issuance costs and warrants of $10,000 and $13,000,
respectively 77,000 84,000
Series B Convertible Subordinated Debentures due December 15, 2000,
bearing interest at 13 3/4% per annum payable monthly, net of unamortized
capitalized issuance costs of $302,000 and $354,000, respectively 2,958,000 2,972,000
Convertible Subordinated Debentures due December 15, 2000, bearing interest at
8% per annum payable February 1 and August 1, net of unamortized capitalized
issuance costs of $617,000 and $1,058,000, respectively 7,044,000 10,129,000
Convertible Subordinated Debentures due July 1, 2002, bearing interest at 9%
per annum payable January 1 and July 1, net of unamortized capitalized issuance
costs of $431,000 and $490,000, respectively 4,569,000 4,560,000
Convertible Subordinated Bridge Notes due upon issuance of Company's Registration
Statement (Form S-2) (see Part 11, item 5), bearing interest at 5% per annum
net of unamortized capitalized issuance cost of $67,000 and $0, respectively $1,433,000 0
------------ -----------
$16,081,000 $17,745,000
------------ -----------
------------ -----------
</TABLE>
SERIES A DEBENTURES
As of June 30, 1996, the Company had outstanding $87,000 principal
amount of Series A Debentures. The Debentures are recorded net of unamortized
underwriting discounts, expenses associated with the offering and warrants
totaling $10,000 which are amortized using the interest method to interest
expense over the term of the debentures. Approximately $2,000 of capitalized
issuance costs have been amortized to interest expense for the nine months ended
June 30, 1996.
SERIES B DEBENTURES
As of June 30, 1996, the Company had outstanding $3,260,000 principal
amount of Series B Debentures due 2000. The Debentures are recorded net of
unamortized underwriting discounts and expenses associated with the offering
totaling $302,000 which are amortized using the interest method to interest
expense over the term of the debentures. Approximately $51,000 of capitalized
issuance costs had been amortized as interest expense for the nine months ended
June 30, 1996.
9
<PAGE>
THE KUSHNER-LOCKE COMPANY
AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
(4) CONVERTIBLE SUBORDINATED DEBENTURES (CONTINUED)
8% DEBENTURES
As of June 30, 1996, the Company had outstanding $7,661,000 principal
amount of 8% Debentures. The Debentures are recorded net of unamortized
underwriting discounts and expenses associated with the offering totaling
$617,000 which are amortized using the interest method to interest expense over
the term of the debentures. Approximately $133,000 of capitalized issuance
costs had been amortized as interest expense for the nine months ended June 30,
1996.
9% DEBENTURES
As of June 30, 1996, the Company had outstanding $5,000,000 principal
amount of 9% Debentures. The Debentures are recorded net of unamortized
underwriting discounts and expenses associated with the offering totaling
$431,000 which are amortized using the interest method to interest expense over
the term of the Debentures. Approximately $54,000 of capitalized issuance
costs had been amortized as interest expense for the nine months ended June 30,
1996.
5% CONVERTABLE SUBORDINATED NOTES ("BRIDGE NOTES")
As of June 30, 1996, the Company had outstanding $1,500,000 principal
amount of Bridge Notes. The Notes are recorded net of unamortized expenses
associated with the offering totaling $193,000 which are amortized using the
interest method to interest expense over the term of the notes.
Approximately $126,000 of capitalized issuance costs had been amortized as
interest expense for the nine months ended June 30, 1996.
As part of such transaction, the purchaser of the Notes will have the
right to receive shares (the "Bonus Shares") of common stock, no par value,
of the Company (the "Common Stock") equal in value to 50% of the principal
amount of the Notes so purchased. At issuance, 631,733 shares of Common
Stock were placed in escrow. The number of Bonus Shares receivable by each
Noteholder were adjusted on the effective date of the secondary public
offering of the Company (the "Secondary Public Offering") based upon the
Common Stock component of the security sold in such Secondary Public
Offering. As the shares of Common Stock were issued by the Company, the
Company recorded the issuance of the shares and prepaid interest at $750,000.
The prepaid interest will be amortized over the period the Bridge Notes are
outstanding. During the three months ended June 30, 1996, $480,000 was
recorded as interest expense.
(5) INCOME TAXES
Income taxes for the nine month periods ended June 30, 1996 and 1995
were computed using the effective income tax rate estimated to be applicable for
the full fiscal year, which is subject to ongoing review and evaluation by
management. Management believes that all taxable income for the fiscal year
will be offset by a deferred tax asset which will keep the effective federal tax
rate at approximately 0%.
(6) CONTINGENCIES
The Company is involved in certain legal proceedings and claims
arising out of the normal conduct of its business. Reference is made to the
Company's annual report on Form 10-K for the fiscal year ended September 30,
1995 for a description of certain legal proceedings. Management of the Company
believes that the ultimate resolution of these matters will not have a material
adverse effect upon the Company's financial condition.
In its normal course of business as a distributor, the Company makes
contractual down payments for the acquisition of distribution rights upon
signature of documentation. This initial advance for rights ranges for 10% to
30% of the total purchase price. The balance of the payment is generally due
upon the complete delivery by third party producers of acceptable film or
video materials and proof of rights held and insurance policies that may be
required for the Company to begin exploitation of the product. As of June 30,
1996 the Company had made contractual agreements for an aggregate of
approximately $1,312,000 in payments due should those third party producers
complete delivery to the Company. If such third parties use the Company's
distribution agreement as collateral for a production loan, then the Company
may be obligated to make such payments to financial institutions or others
instead of such third party producers. These obligations have originated from
the Company's cable joint venture known as KLC/New City Tele-Ventures. These
amounts are payable over the next twelve months.
10
<PAGE>
PART I
ITEM 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
GENERAL
The Company's revenues are currently derived primarily from the
production or the acquisition of distribution rights of films released in the
U.S. by studios, pay cable, basic cable, and videocassette companies; and
from the development, production and distribution of television programming
for the major U.S. television networks, basic and pay cable television and
first-run syndication; as well as from the licensing of rights to films and
television programs in international territories. While the Company generally
finances all or a substantial portion of the budgeted production costs of its
programming through domestic and international licensing and other
arrangements, the Company typically retains rights in its programming which
may be exploited in future periods or in additional territories. In April
1993, the Company established a feature film operation to produce and
distribute low and medium budget films for theatrical and/or home video or
cable release. The Company also produces a limited number of higher-budget
theatrical films to the extent the Company is able to obtain an acceptable
domestic studio to release the film theatrically in the United States.
The Company's revenues and results of operations are significantly
affected by accounting policies required for the industry and management's
estimates of the ultimate realizable value of its films and programs.
Production advances received prior to delivery or completion of a program are
treated as deferred revenues and are recorded as either production advances or
deferred license fees. Production advances are generally recognized as revenue
on the date the program is delivered or available for delivery. Deferred
license fees are recognized as revenue on the date of availability and/or
delivery of the item of product.
The Company generally capitalizes all costs incurred to produce a
film, including the interest expense funded under production loans. Such costs
also include the actual direct costs of production, certain exploitation costs
and production overhead. Capitalized exploitation or distribution costs include
those costs that clearly benefit future periods such as film prints and
prerelease and early release advertising that is expected to benefit the film in
future markets. These costs, as well as participation and talent residuals, are
amortized each period on an individual film or television program basis in the
ratio that the current period's gross revenues from all sources for the program
bear to management's estimate of anticipated total gross revenues for such film
or program from all sources. In the event management reduces its estimates of
the future gross revenues associated with a particular item of product, which
had been expected to yield greater future proceeds, a significant write-down and
a corresponding decrease in the Company's earnings for the quarter and fiscal
year end in which such write-down is taken could result.
Gross profits for any period are a function in part of the number of
programs delivered in that period and the recognition of costs in that period.
Because initial licensing revenues and related costs generally are recognized
either when the program has been delivered or is available for delivery,
significant fluctuations in revenues and results of operations may occur from
period to period. Thus, a change in the amount of entertainment product
available for delivery from period to period have materially affected a given
period's revenues and results of operations and year-to-year results may not be
comparable. The continuing shift of the Company's product mix during the
fiscal year may further affect the Company's quarter to quarter or year to year
results of operations as particular products may be amortized differently as
determined by length of product life cycle and the number of related revenue
sources.
Except for the historical information contained herein, certain of the
matters discussed in this quarterly report are "forward-looking statements,"
as defined in the Private Securities Litigation Reform Act of 1995, which
involve certain risks and uncertainties, which could cause actual results to
differ materially from those discussed herein, including but not limited to
the Company's ongoing liquidity and financing requirements, fluctuations in
results of operations, dependence on a limited number of projects, limited
number of shares of Common Stock available for future capital needs,
dependence on key personnel and risks relating to the nature of the
entertainment industry, government regulation, amortization of film costs and
competition. See the relevant discussion elsewhere herein and in the
Company's periodic reports and other documents filed with the Securities and
Exchange Commision, including the Company's registration statement on
Form-S-2, as amended as of July 24, 1996, for a further discussion of these
and other risks and uncertainties applicable to the Company and its business.
RESULTS OF OPERATIONS
COMPARISON OF THREE MONTHS ENDED JUNE, 1996 AND 1995
The Company's operating revenues for the third quarter ended June 30,
1996 were $28,983,000, an increase of $27,079,000, or approximately 14 times,
from $1,904,000 from the prior fiscal year's third quarter ended June 30,
1995. This increase was due primarily to the timing of delivery and/or
availability of films (in particular, the Company's major theatrical release
THE ADVENTURES OF PINOCCHIO) and television programs as well as a shift in
the Company's current product mix towards a greater percentage of feature
films due to opportunities available to the Company.
11
<PAGE>
The Company recognized $28,906,403 of revenues during the third quarter
of fiscal 1996 from the delivery and/or availability of the following: the
major theatrical feature film THE ADVENTURES OF PINOCCHIO starring Martin
Landau and Jonathan Taylor Thomas and a puppet from Jim Henson's Creature
Shop ($15,739,000), two CBS network movies entitled PRINCESS IN LOVE
($3,221,723) and EVERY WOMAN'S DREAM starring Kim Cattrall and Jeff Fahey
($2,775,000), a pilot for ABC called THE GUN starring Peter Horton and
Rosanna Arquette ($1,800,000), and $3,122,000 from continuing licenses of
completed product from the Company's library to domestic cable channel
operators, and the balance from delivery and/or availability of various
product from the Company's library. An infomercial on the subject of
Christian music through the Company's partnership called TVFirst began its
national rollout during the third quarter of fiscal 1996.
The Company recognized approximately $1,377,000 revenues during the
third quarter of fiscal 1995 from the delivery and/or availability in foreign
territories of a movie for CBS entitled DANGEROUS INTENTIONS starring Donna
Mills and Corbin Bernsen and four direct-to-video titles: WES CRAVEN PRESENTS
THE MINDRIPPER starring Lance Henriksen for WarnerVision and GIRL TALK
CONFIDENTIAL, DREAM MASTER, and CYBERELLA, three adult thrillers. Continuing
sales of licenses for completed product from the Company's library of titles to
international distributors accounted for the majority of remaining revenues for
that period.
In various stages of production for the Company's slate of projects
currently scheduled for distribution over the next twelve months are (a) two
animated feature films for Buena Vista Home Video, a division of The Walt
Disney Company, that are sequels to the successful direct-to-video title THE
BRAVE LITTLE TOASTER, (b) the feature film WAITING FOR THE MAN starring Jeff
Fahey and Rae Dawn Chong, and (c) the feature film THE LAST TIME I COMMITTED
SUICIDE starring Keanu Reeves. Currently in pre-production and scheduled for
principal photography starting in the remainder of this fiscal year are a
television movie for NBC JACK REED V starring Brian Dennehy, and five
direct-to-video feature films for Paramount Home Video entitled KID MIDAS,
JOHNNY MYSTO: BOY WIZARD, LITTLE GHOST, DRAGON WORLD II, and GENIE. In
addition, the Company has acquired all television rights for a package of
over 10 films in addition to the 50 titles previously acquired, the majority
of which are scheduled to be released during fiscal 1996, for distribution
through a joint venture of the Company called KLC/New City Tele-Ventures.
During the third quarter of 1996, approximately $15,515,000 was expended for
production and development of new projects. Film costs in process or
development at June 30, 1996 increased to $12,265,000 from $7,547,000 at June
30, 1995.
Costs relating to operating revenues were $26,294,000 during the third
quarter of fiscal 1996 as compared to $1,567,000 during the third quarter of
fiscal 1995. As a percentage of operating revenues, costs relating to operating
revenues were approximately 91% for the third quarter of fiscal 1996 compared to
approximately 82% for the third quarter of fiscal 1995. The increased costs in
the most recent period reflect a weighting of the product mix toward titles
which, in general, are amortized more rapidly than titles determined to have a
longer product life cycle and a greater number of related revenue sources.
Selling, general and administrative expenses decreased to $900,000 in
the third quarter of fiscal 1996 from $957,000 in the third quarter of fiscal
1995. The decrease resulted from the capitalization of certain overhead items
to theatrical, television, and cable product completed in the third quarter
of 1996.
Interest expense for the third quarter ended June 30, 1996 was
$1,330,000 as compared to $966,000 for the third quarter ended June 30, 1995.
The increase was primarily due to the $480,000 charge to interest expense
related to the issuance of Bonus Shares as part of the refinancing of the
Bridge Notes, partially offset by decreased Convertible Subordinated Debt
outstanding as a result of conversions. Total notes payable increased to
$37,105,000 at June 30, 1996 from $28,398,000 at September 30, 1995.
The Company's estimated effective income tax rate was approximately 2%
for the third quarter ended June 30, 1996 compared to an estimated effective
income tax rate of approximately 2% for three months ended June 30, 1995 and 0%
for the year ended September 30, 1995. The $16,000 additional tax expense for
the three month period in third quarter of fiscal 1996 consisted of minimum
state taxes related to the number of active subsidiary companies.
The Company reported net earnings of $276,000, or $0.01 per share, for
the third quarter ended June 30, 1996 after recognizing the extraordinary
charge to earnings for costs associated with the credit facility which was
repaid ($250,000) compared to a net loss of $(1,563,000), or $(0.05) per
share, for the third quarter ended June 30, 1995. Weighted number of common
shares for the third quarters were 39,190,498
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in 1996 and 31,973,000 in 1995. The earnings in the third quarter of fiscal
1996 resulted primarily from the Company completing a portion of its film and
television project in process including its higher-budgeted feature film THE
ADVENTURES OF PINOCCHIO and recognition of revenues on existing contracts
receivables made to third parties licensing the rights to distributor those
projects with certain media and territories. The losses in the third quarter
of fiscal 1995 resulted primarily from the increases in staff associated with
the higher level of distribution activities in that period, and the higher
interest expense resulting from the issuance of the 8% and 9% Convertible
Subordinated Debentures.
LIQUIDITY AND CAPITAL RESOURCES
Cash and cash equivalents increased to $5,444,000 (including $2,956,000 of
restricted cash being used as collateral for certain production loans) at
June 30, 1996 from $4,301,000 (including $1,162,000 of restricted cash) at
September 30, 1995 primarily from additional collections from foreign
presales.
The Company's production and distribution operations are capital
intensive. The Company has funded its working capital requirements through
receipt of third party domestic license payments and international licensing,
as well as other operating revenues, and proceeds from debt and equity
financing, and has relied upon its line of credit and transactional
production loans to provide bridge production financing prior to receipt of
license fees. The Company funds production and acquisition costs out of its
working capital, including the line of credit, and through certain pre-sale
of rights in international markets. In addition, the expansion of the
Company's international distribution business and the establishment of a new
feature film division have significantly increased the Company's working
capital requirements and use of related production loans.
The Company experienced net negative cash flows from operating
activities (resulting principally from the Company's significant expansion of
production) of ($9,228,000) during the nine months ended June 30, 1996, which
was partially offset by net cash of $8,411,000 provided by financing
activities from production loans and usage of the Company's revolving line of
credit up to the maximum amount of credit then available. As a result
primarily of the foregoing factors, net unrestricted cash decreased during
the nine month period by $651,000 to $2,488,000 on June 30, 1996. To the
extent that the Company expands production and distribution activities and
increases its debt service burdens, it will continue to experience net
negative cash flows from operating activities, pending receipt of licensing
revenues, other revenues and sales from its library.
CREDIT FACILITY
On June 28, 1996, the Company closed a $40 million syndicated borrowing
base revolving credit agreement with a group of banks led by The Chase
Manhattan Bank N.A. ("Chase"). Such agreement provides for borrowings by the
Company based on specified percentages of domestic and international accounts
and contracts receivable and a specified percentage of the Company's book
value of unamortized library film costs (as adjusted). In addition, the
Company will from time to time allocate a production tranche in its line of
credit for the Company's productions. Such tranche will allow the Company to
borrow up to 50% of the production deficit after accounting for specified
percentages of pre-sales, licensing fees and similar revenues from third
parties and a required Company equity participation. All loans made pursuant
to such agreement are secured by substantially all of the Company's assets
and bears interest, at the Company's option, either (i) at LIBOR (5.69% as of
August 9, 1996) plus 3% (for that portion of the borrowing base supported by
accounts or contracts receivable) or 4% (for that portion of the borrowing
base supported by unamortized library film costs or for loans made under the
production tranche) or (ii) at the Alternate Base Rate (which is the greater
of (a) Chase's Prime Rate (8.25% as of August 9, 1996), (b) Chase's Base CD
Rate (5.34% as of August 9, 1996) plus 1% or (c) the Federal Funds Effective
Rate (5.19% as of August 9, 1996) plus 1/2%) plus 2% (for that portion of the
borrowing base supported by accounts or contracts receivable) or 3% (for that
portion of the borrowing base supported by unamortized library film costs or
for loans made under the production tranche). At August 9, 1996 the Company's
borrowing base with Chase, based on June 30, 1996 balances, stood at
$24,925,000 (gross of residuals, participations and completion reserves) and
$4,200,000 was available for borrowing.
The outstanding credit agreement contains various covenants to which the
Company must adhere. These covenants, among other things, include limitations
on additional indebtedness, liens, investments, disposition of assets,
guarantees,
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<PAGE>
deficit financing, affiliate transactions and the use of proceeds and
prohibit payment of cash dividends and prepayment of subordinated debt.
In addition, the credit agreement requires the Company to maintain a
minimum liquidity level, limits overhead expense and requires the Company to
meet certain ratios. The credit agreement also contains a provision
permitting the bank to declare an event of default if either of Messrs.
Locke or Kushner fails to be the Chief Executive Officer of the Company or if
any person or group acquires ownership or control of capital stock of the
Company having voting power greater than the voting power at the time
controlled by Messrs. Kushner and Locke combined (other than any
institutional investor able to report its holdings on Schedule 13G which
holds no more than 15% of such voting power.)
SECURITIES OFFERINGS
From December 1990 through April 1991, the Company sold an aggregate of
$5,700,000 principal amount of Series A Debentures and an aggregate of
$6,000,000 principal amount of Series B Debentures. In connection with the
issuance of certain of the Series A Debentures, the Company issued warrants
to purchase an aggregate of 2,100,000 shares of Common Stock at an exercise
price of $2.00 per share. In November 1995, the Company elected to extend the
expiration date of such warrants from March 20, 1996 to March 20, 1997. As of
June 30, 1996, approximately $87,000 principal amount of Series A Debentures
and $3,260,000 of Series B Debentures were outstanding. The Series A
Debentures are convertible into shares of Common Stock at a rate of
approximately $1.27 per share and the Series B Debentures into shares of
Common Stock at a rate of approximately $1.54 per share. The reduction in
Series A and Series B Debentures has resulted primarily from conversions to
Common Stock. The Company has the right to redeem the Series A Debentures at
redemption prices at 103% of par after September 30, 1996 and declining to
par after September 30, 1997. The indentures under which the Company's
outstanding debentures described above were issued contain various covenants
to which the Company must adhere. These covenants, among other things, also
impose certain limitations on additional indebtedness and dividend payments
by the Company.
In November 1992, the Company completed an offering of 8,050,000 shares
of its common stock for which the Company received net proceeds of
approximately $6,640,000.
During March and April 1994, the Company sold $16,437,000 principal
amount of 8% Convertible Subordinated Debentures due 2000. In connection with
the issuance of the 8% Debentures, the Company issued warrants to purchase up
to 10% of the aggregate principal amount of Debentures sold at an exercise
price equal to 120% of the principal amount of the Debentures. The 8%
Debentures are convertible into shares of common stock at a rate of $.975 per
share, subject to customary anti-dilutive provisions and provisions in the
event of certain payment defaults. The Company will have the right to redeem
the 8% Debentures at redemption prices commencing at 102.7% of par on or
after February 1, 1998 and declining to par on or after February 1, 2000. The
Debentures are subordinated in right of payment to all Senior Indebtedness
(as defined) of the Company and rank pari passu with the Company's Series A
and Series B Debentures. The fiscal agency agreement, under which the
Company's 8% Debentures were issued, contains various covenants to which the
Company must adhere.
During July 1994, the Company sold $5,050,000 principal amount of 9%
Convertible Subordinated Debentures due 2002. In connection with the issuance
of the 9% Debentures, the Company issued warrants to purchase up to 9% of the
aggregate principal amount of Debentures sold at an exercise price equal to
120% of the principal amount of the Debentures. The 9% Debentures are
convertible into shares of common stock at a rate of $1.58 per share, subject
to customary anti-dilutive provisions and provisions in the event of certain
payment defaults. The Company has the right to redeem the 9% Debentures at
redemption prices commencing at 103% of par on or after July 1, 1998 and
declining to par on or after July 1, 2000. The Debentures are subordinated in
right of payment to all Senior Indebtedness (as defined) of the Company and
rank pari passu with the Company's Series A, Series B and 8% Debentures. The
fiscal agency agreement, under which the Company's 9% Debentures were issued,
contains various covenants to which the Company must adhere.
In September 1994, the Company filed a registration statement covering
an aggregate of 21,388,064 shares of common stock comprising the shares of
common stock issuable upon conversion of the 8% Convertible Subordinated
Debentures and the 9% Convertible Subordinated Debentures and certain
warrants issued to underwriters. Since the end of the fiscal year (September
30, 1995), primarily as a result of the conversion of the 8% and 9%
Debentures, the number of outstanding shares of common stock has increased
from 35,466,598 to 40,210,740 as of June 30, 1996.
In May 1996, the Company issued $1,500,000 of short-term bridge notes in a
private placement which were repaid in connection with the secondary public
offering referred to below.
In July 1996, the Company closed a secondary public offering of an
aggregate 4,750,000 units, each unit consisting
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of two shares of Common Stock and one five year Class C Redeemable Common
Stock Purchase Warrant to purchase Common Stock at $1.9375 per share (a
"Unit"). The Company received aggregate gross proceeds in the amount of
$9,203,125 prior to any discounts, commissions or expenses related thereto.
PRODUCTION/DISTRIBUTION LOANS
The Company's other short term borrowings, totaling $18,395,000 as of
June 30, 1996, consisting of production loans from Newmarket Capital Group
L.P. ("Newmarket") and Banque Paribas (Los Angeles Agency) ("Paribas") to
consolidated production entities. The Kushner-Locke Company provides limited
corporate guarantees for a portion of the Newmarket and Paribas loans which
are callable in the event that the production companies' loan amounts
(including a reserve for fees, interest and financing costs) are not
adequately collateralized with acceptable contracts receivable from third
party domestic and/or foreign sub-distributors by certain dates or by the
maturity date of the loan. Deposits on the purchase price paid by these
sub-distributors are held as restricted cash collateral by the Lenders.
Amounts outstanding (other than the amounts covered by the limited corporate
guarantees) are recourse only to the film assets held by the production
companies.
The table below shows certain production loans as of June 30, 1996.
Corporate guarantees have been reduced as of June 30, 1996 due to the Company
reaching certain sales milestones as allowed under the Newmarket loans. Three
of the production loans were scheduled to mature before April 1996. The
Company requested, and Newmarket agreed, to extend the maturity dates by
approximately 90 days on the production loans for SERPENT'S LAIR, THE GRAVE
and WHOLE WIDE WORLD for customary delays in the process of delivering and
collecting cash from foreign territories.
<TABLE>
<CAPTION>
AMOUNTS WEIGHTED
FILM LENDEDR LOAN AMOUNT OUTSTANDING INTEREST GUARANTY MATURITY
- ----------------------- --------- ----------- ----------- -------- ----------
<S> <C> <C> <C> <C> <C>
Serpent's Lair Newmarket $1,005,000 $257,000 10.23% $0 6-30-96
The Grave Newmarket $2,100,000 $990,000 10.94% $0 6-30-96
Whole Wide World Newmarket $1,550,000 $930,000 10.70% $500,000 6-30-96
The Legend of Pinocchio Newmarket $12,500,000 $12,317,000 8.21% $2,800,000 9-30-96
Freeway* Paribas $1,983,333 $1,900,000 8.61% $991,667 7-5-96
Magic Adventures Imperial $5,100,000 $2,001,000 10.92% $0 11-15-97
----------- ----------- ----------
$24,238,333 $18,395,000 $4,291,667
----------- ----------- ----------
----------- ----------- ----------
* Repaid on July 20, 1996
</TABLE>
In October 1994, The Kushner-Locke Company obtained a production loan in
the amount of $1,950,000 from Imperial Bank to cover a portion of the budget
of the JOSH KIRBY: TIME WARRIORS series. The Imperial loan bore interest at
Prime (8.25% as of May 15, 1996) plus 3% payable monthly plus loan fees of
$97,500 plus a net profit participation. The loan was secured solely by the
rights, title and assets related to the film series which is in the process
of being delivered to domestic and international sub-distributors. The loan
was paid off May 15, 1996.
The Company entered into a long form agreement dated as of February 6,
1995 with Savoy Pictures, Inc. ("Savoy") relating to the development,
production, financing and distribution of a live-action feature-length
theatrical motion picture titled THE ADVENTURES OF PINOCCHIO. The film opened
domestically on July 26, 1996 in a wide theatrical release by New Line
Pictures (a subsidiary of Turner Entertainment Co.) which has acquired the
domestic and 50% of certain ancillary rights from Savoy. The film will be
distributed in foreign territories by the Company. Pursuant to the February
6, 1995 letter agreement, the Company licensed those domestic and ancillary
rights to Savoy in exchange for Savoy funding 50% of the budget to the
production entity up to $25,000,000 (which budget was subsequently increased
to approximately $29,450,000 of which the majority of such increase has
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<PAGE>
been financed by Savoy in exchange for certain profit participations). In
order to fund the Company's up to $12,850,000 share of the budgeted negative
costs, the Company has assisted the film's production company, a consolidated
entity, in obtaining loan documentation from Newmarket Capital Group L.P.
("Newmarket") which agreed to provide for financing in the amount of 50% of
the film's original budget up to $12,500,000, a portion of which is reserved
to pay the lender's financing fees and costs. The loan bears interest at
LIBOR plus 2% and fees were determined on a sliding scale related to the
amount of acceptable contracts receivable at the time of initial funding. As
of June 30, 1996 $2,800,000 of the obligations of the production company to
Newmarket under the loan facility, other than the portion of the loan covered
by more than $13,000,000 of foreign presales, was guaranteed by The
Kushner-Locke Company. There is no assurance that THE ADVENTURES OF
PINOCCHIO, which represents the Company's biggest budget theatrical motion
picture to date, will be ultimately successful.
In May and June 1995 the Company, in its role as world wide distributor,
agreed to guaranty a portion of two production loans to film producers, which
are consolidated entities, from Newmarket with respect to the feature films
SERPENT'S LAIR and THE GRAVE. The loans of $1,005,000 and $2,100,000 each
bear interest at an annual rate of Prime (8.25% as of August 9, 1996) plus 1%
on the first $500,000 advanced under the loan, then pricing options are at
either (a) Prime plus 1% or (b) LIBOR plus 3% on the remaining loan balance
through February 1, 1996 when the loans have a pricing increase to Prime + 3%
through the maturity date of such loans, plus loan fees of $60,000 per loan,
plus a net profit participation of 10% of the Company's net profit
participation. The loans are secured solely by the rights, title and assets
of the production companies related to those films. The loans matured on June
30, 1996 but The Kushner-Locke Company's corporate guaranty is reducible by
substitution of contracts receivable from sub-distributors licensing rights
to these films in certain media and territories. Milestone dates for
aggregate acceptable contracts receivable were set by Newmarket within the
loan documentation. In September and December 1995, Newmarket granted waivers
to the borrower for not reaching these milestones and amended its Loan and
Security Agreements accordingly. At June 30, 1996, the outstanding balance on
The Kushner-Locke Company's corporate guaranty of principal and interest for
SERPENT'S LAIR and for THE GRAVE was reduced to zero and eliminated as a
result of reaching certain acceptable sales levels.
In August 1995 the Company, in its role as world wide distributor,
agreed to guaranty a portion of two other production loans to film producers,
which are consolidated entities, provided by Newmarket and Paribas, with
respect to the films WHOLE WIDE WORLD and FREEWAY. The $1,550,000 loan from
Newmarket for WHOLE WIDE WORLD bears interest at rate of Prime (8.25% as of
August 9, 1996) plus 1% on the first $500,000 advanced under the loan, then
pricing options are at either (a) Prime plus 1% or (b) LIBOR plus 3% on the
remaining loan balance through February 1, 1996 when the loan has a pricing
increase to Prime + 3% through the maturity date of June 30, 1996, plus loan
fees of $60,000, plus a net profit participation of 10% of the Company's net
profit participation. The Kushner-Locke Company's corporate guaranty is
reducible by the substitution of acceptable contracts receivable. Milestone
dates for aggregate acceptable contracts receivable were set by Newmarket
within the loan documentation. In September 1995 and June 30, 1996, Newmarket
granted waivers to the Borrower for not reaching these milestones and amended
its Loan and Security Agreement accordingly. As of June 30, 1996, The
Kushner-Locke Company's outstanding corporate guaranty of principal for WHOLE
WIDE WORLD was $500,000 and Newmarket required that the loan be repaid by
$500,000 of principal. The Paribas loan for $1,900,000 for FREEWAY bears
interest at either (a) Reference Rate (8.25% as of August 9, 1996) plus 1/2%
or (b) LIBOR + 2% until the maturity date of July 5, 1996. In this case,
there are no milestone dates for aggregate contracts receivable and The
Kushner-Locke Company's corporate guaranty of $900,000 is not reducible
during the life of the loan. The amount of the difference between the cash
collected and $900,000 is collectable at the maturity date by Paribas from
The Kushner-Locke Company. The loan was paid off on July 28, 1996, within its
grace period.
A new production loan was obtained in May 1996 in the aggregate
available amount of $5,100,000 to cover a portion of the budgets of the MAGIC
ADVENTURE series. The Imperial loan subject to final documentation bears
interest at Prime (8.25% as of August 9, 1996) plus 1 1/2% payable monthly
plus certain loan fee amounts. The loan was secured by the rights, title and
assets related to the film series which are in various stages of production
and photography and will ultimately be delivered to domestic and
international sub-distributors.
On July 3, 1996, the borrowers under such loans sent letters to the
lenders requesting a pay off amount for each of the Newmarket loans (other
than in connection with THE ADVENTURES OF PINOCCHIO). On August 6, 1996, such
borrowers received letters from Newmarket and Paribus, as applicable, setting
forth the applicable pay off amounts. The Kushner-Locke Company anticipates
that such loans will be repaid through the Company's line of credit with
Chase after the transfer of the applicable films to the Company and the
inclusion of the receivables related to such films in its borrowing base. The
Company anticipates completing the necessary documentation prior to the end
of August. The borrowers have not obtained formal waivers in connection with
these loans but have received informal waivers. If the loans are not repaid,
The Kushner-Locke Company may be liable on its applicable guarantees. If The
Kushner-Locke Company
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is unable to meet its obligations under such guarantees, such would lead to a
default under its Convertible Subordinated Debentures and its credit facility
with Chemical and the possible acceleration of such indebtedness. If such
acceleration occurred and was not cured, the Company would be forced to
immediately repay all of such indebtedness, including possibly through the
sale of some or all of its assets.
On May 6, 1996, the Company and Decade entered into an agreement to
produce four theatrical action motion pictures. The motion pictures will be
produced, subject to approval by the Company of certain creative aspects of
such movies, by Decade and executive produced by Joel Silver and Richard
Donner. Under the agreement, the Company has agreed to guarantee payment of
$3,200,000 per picture payable upon the delivery of the "mandatory delivery
items" for each picture in consideration of receipt of foreign distribution
rights. The agreement is for a minimum of four feature-length motion pictures
and may be extended, at Decade's option, to include a fifth picture. The
initial two films under the agreement are WHITE ROSE and MADE MEN, neither of
which yet has a scheduled release date.
SUMMARY
Management believes that existing resources and cash generated from
operating activities, together with the net proceeds of the secondary public
offering and amounts available under the Chase revolving credit agreement
(assuming its continued availabilty) will be sufficient to meet the Company's
working capital requirements for at least the next twelve months.
The Company's business and operations have not been materially affected
by inflation.
RELATED PARTY TRANSACTIONS
In December 1994, the Company advanced August Entertainment, Inc.
("August") $650,000 against distribution rights to third party product.
August is majority owned by Gregory Cascante, who joined the Company as head
of its new international film distribution division. The agreement is secured
by all assets of August, including a pledge of all sales commissions due to
August from the producers thereof on the films SLEEP WITH ME, LAWNMOWER MAN
II and NOSTRADAMUS. While the right of August to receive such commissions
with respect to the film LAWNMOWER MAN II is subordinate to the interests of
the production lenders, The Allied Entertainment Group PLC, and its
subsidiaries which produced the film, has guaranteed payment of such
commissions to the extent they would be payable had there been no production
loan on that film. The loan bears interest at the lesser of (a) Prime (8.25%
at August 9, 1996) plus 2% or (b) 10%. Repayment of principal and interest is
by collection of commissions assigned as collateral. As of June 30, 1996 the
Company had been repaid approximately $182,000 toward interest and principal
and approximately $561,000 principal amount remains outstanding. The loan
matures in December 1996.
Stuart Hersch, in addition to compensation paid to him as a member of
the Board of Directors of the Company, became a consultant to the Company
effective April 1, 1996 for which he is paid $7,500 per month. Mr. Hersch is
assisting the Company in analyzing potential strategic acquisitions and is
providing the Company consulting services in connection with the Company's
involvement in infomercials. This agreement is on a month-to-month basis as
needed by the Company.
Effective on April 29, 1996, the Company hired James L. Schwab as its
new Chief Financial Officer replacing its previous Chief Financial Officer
after the term of her employment agreement expired.
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In fiscal 1995 the Company entered into a partnership named TVFirst
which creates and markets infomercials. One of TVFirst's current projects is
a Christian music infomercial. TVFirst decided to purchase air time for such
infomercial on an accelerated basis but neither TVFirst nor either of its
partners had the available resources to fund such purchases. Messrs. Locke
and Kushner have loaned to the Company $355,000 as of June 30, 1996 to enable
TVFirst to purchase air time. Such loans bear interest at the prime rate
(8.25% as of August 9) plus 1% and are anticipated to be repaid within six
months, or possibly earlier. In addition, each lender will also receive a
royalty equal to 10% of the principal amount loaned by such lender, which
amount will be payable on the repayment date of such loans. Furthermore, each
lender will receive a profit participation in the profits, if any, related to
the Christian music infomercial, up to an amount equal to 5% of its principal
amount, which amount will be payable on the first anniversary of such
repayment. On August 6, 1996, $200,000 of principal amount of such loans
($100,000 to each of Messrs. Locke and Kushner) have been repaid. While the
infomercial has generated revenues in excess of its programming and media
costs to date, there is no assurance that future revenues will be adequate to
do this. The foregoing transaction was approved by a majority of the
independent directors of the Company's Board of Directors.
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PART II
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
On December 26, 1995, Guano Holdings Ltd. ("Guano") filed a complaint
against the Company, two of the Company's subsidiaries, an employee of the
Company, Savoy Pictures, Inc. and Allied Pinocchio Productions, Ltd. claiming
that Guano was entitled to be a partner in the film project entitled THE
LEGEND OF PINOCCHIO and that it is seeking approximately $5,000,000 as
damages. On or about April 26, 1996 the Company entered into a settlement
agreement with Guano pursuant to which the Company paid $10,000 to Guano and
gave Guano ten percent of the Company's net profit participation in
connection with the film.
ITEM 5. OTHER INFORMATION
On May 10, 1996, the Company completed an offering and sale of
$1,500,000 of its 5% Convertible Subordinated Notes (the "Notes") pursuant to
a private placement. As part of such transaction, the purchaser of the Notes
have the right to receive shares (the "Bonus Shares") of common stock, no par
value, of the Company (the "Common Stock") equal in value to 50% of the
principal amount of the Notes so purchased. The number of Bonus Shares
receivable by each Noteholder was adjusted on July 24, 1996, the effective
date (the "Effective Date") of the secondary public offering of the Company
(the "Secondary Public Offering") based upon the Common Stock component of
the security sold in such Secondary Public Offering. Interest in the Notes
accrued at a rate of 5% per annum. The Notes were paid off on July 29, 1996
from the proceeds of the Secondary Public Offering. The Company registered
the Bonus Shares as part of the Secondary Public Offering.
On July 24, 1996, the Company's registration statement on Form S-2 (the
"Form S-2") was declared effective by the Commission registering as part of
the Secondary Public Offering an aggregate of (i) 5,462,500 units (assuming
full exercise by the underwriter of an over-allotment option to acquire 715,
000 units (the "Over-Allotment Option")), each unit consisting of two shares
of Common Stock and one Class C Redeemable Common Stock Purchase Warrant to
purchase Common Stock (a "Unit"), (ii) 427,500 Units issuable upon exercise
of an underwirter's warrant, (iii) 47,500 Units issuable upon exercise of a
consultant's warrant and (iv) 1,486,892 shares of Common Stock which may be
sold from time to time by certain selling security holders named therein
(including the Bonus Shares). The Company closed the Secondary Public
Offering on July 29, 1996 for an aggregate gross proceeds in the amount of
$9,203,125 prior to any discounts, commissions or expenses related thereto.
The Company used a portion of the proceeds from the Secondary Public Offering
to repay the Notes on July 29, 1996.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits: Exhibits filed as part of this report are listed on the "Index
to Exhibits" which follows the signature pages hereto.
(b) Reports on Form 8-K: None.
19
<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.
THE KUSHNER-LOCKE COMPANY
(Registrant)
/s/ Peter Locke
Dated: August 14, 1996 ----------------------------------------
Peter Locke
CO-CHAIRMAN OF THE BOARD,
CO-CHIEF EXECUTIVE OFFICER AND PRESIDENT
/s/ Donald Kushner
Dated: August 14, 1996 ----------------------------------------
Donald Kushner
CO-CHAIRMAN OF THE BOARD,
CO-CHIEF EXECUTIVE OFFICER AND SECRETARY
/s/ James L. Schwab
Dated: August 14, 1996 ----------------------------------------
James L. Schwab
CHIEF FINANCIAL OFFICER
20
<PAGE>
EXHIBIT INDEX
Exhibit
No. Description
- ------- -----------
4.5 Form of Class C Redeemable Common Stock Purchase Warrant (B)
4.6 Form of Underwriter's Warrant (B)
10.56 Letter Agreement, dated as of April 12, 1996, by and among The
Kushner-Locke Company, Chemical Bank and Chase Securities Inc. (A)
10.57 Credit, Security, Guaranty and Pledge Agreement, dated as of June 19,
1996, among The Kushner-Locke Company, the Guarantors named therein,
The Chase Manhattan Bank, N.A., (formerly Chemical Bank) as Agent,
and The Chase Manhattan Bank, N.A., (formerly Chemical Bank) as
Fronting Bank (B)
- -------------------------
(A) Incorporated by reference from the Exhibits to the Company's Registration
Statement on Form S-2 (File No. 333-5089), as initially filed on June 3,
1996.
(B) Incorporated by reference from the Exhibits to the Company's Registration
Statement on Form S-2 (File No. 333-5089), as filed on July 11, 1996.
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> SEP-30-1996
<PERIOD-START> OCT-01-1995
<PERIOD-END> JUN-30-1996
<CASH> 5,444
<SECURITIES> 0
<RECEIVABLES> 20,729
<ALLOWANCES> 500
<INVENTORY> 64,979<F3>
<CURRENT-ASSETS> 0<F1>
<PP&E> 1,990
<DEPRECIATION> 1,575
<TOTAL-ASSETS> 96,371
<CURRENT-LIABILITIES> 0<F2>
<BONDS> 53,186
0
0
<COMMON> 27,781
<OTHER-SE> (2,714)
<TOTAL-LIABILITY-AND-EQUITY> 96,371
<SALES> 0
<TOTAL-REVENUES> 58,320
<CGS> 0
<TOTAL-COSTS> 50,659
<OTHER-EXPENSES> 2,868
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 3,184
<INCOME-PRETAX> 1,752
<INCOME-TAX> 36
<INCOME-CONTINUING> 0
<DISCONTINUED> 0
<EXTRAORDINARY> 300
<CHANGES> 0
<NET-INCOME> 1,416
<EPS-PRIMARY> .04
<EPS-DILUTED> .04
<FN>
<F1>The Company does not issue a classified Balance Sheet.
<F2>The Company does not issue a classified Balance Sheet.
<F3>Included as Inventory are: Completed film costs, Productions in Progress
and development costs.
</FN>
</TABLE>
