SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB/A
AMENDMENT NO. 1
[ X] ANNUAL REPORT UNDER SECTION 13
OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended March 31, 2000
[ ] TRANSITION REPORT UNDER SECTION 13
OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission File No. 0-17953
DIAMOND ENTERTAINMENT CORPORATION
(Name of small business issuer in its charter)
New Jersey 22-2748019
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
800 Tucker Lane, Walnut, CA 91789
(Address of principal executive offices) (Zip Code)
(909) 839-1989
(Issuer's telephone number, including area code)
Securities registered under Section 12(b) of the Exchange Act: None.
Securities registered under to Section 12(g) of the Exchange Act: Common Stock,
no par value.
Check whether the issuer: (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 12 months (or for 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 [ ]
Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B contained in this form, and no disclosure will be contained, to
the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-KSB or any
amendment to this Form 10-KSB. [ X ]
The issuer's revenue for the fiscal year ended March 31, 2000 totaled
$3,828,261.
The aggregate market value of registrant's Common Stock held by non-affiliates
based upon the closing bid price on June 30, 2000, as reported by the OTC
Bulletin Board, was approximately $2,804,166.
As of June 30, 2000, there were 66,334,029 shares of the registrant's Common
Stock outstanding.
Transitional Small Business Disclosure Format: Yes [ ] No [ X ]
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FORWARD LOOKING INFORMATION
This annual report contains certain forward-looking statements and
information relating to the Company that are based on the beliefs of the Company
or management as well as assumptions made by and information currently available
to the Company or management. When used in this document, the words
"anticipate," "believe," "estimate," "expect," "intend," "will," "plan,"
"should," "seek" and similar expressions, as they relate to the Company or its
management, are intended to identify forward-looking statements. Such statements
reflect the current view of the Company regarding future events and are subject
to certain risks, uncertainties and assumptions, including the risks and
uncertainties noted. Should one or more of these risks or uncertainties
materialize, or should underlying assumptions prove incorrect, actual results
may vary materially from those described herein as anticipated, believed,
estimated, expected or intended. In each instance, forward-looking information
should be considered in light of the accompanying meaningful cautionary
statements herein.
PART I
ITEM 1. DESCRIPTION OF BUSINESS.
General
Diamond Entertainment Corporation d/b/a e-DMEC (the "Company" or
"e-DMEC"), formerly known as (i) ATI Mark V Products, Inc. and (ii)
Trans-Atlantic Video, Inc., was formed under the laws of the State of New Jersey
on April 3, 1986. On July 15, 1991, the Company completed the acquisition (the
"Acquisition") of all of the issued and outstanding shares of Diamond
Entertainment Corporation, a California corporation (the "California
Subsidiary"), and concurrently therewith, the parent company's name was changed
to Diamond Entertainment Corporation. In May 1999 the Company registered in the
state of California to do business under the name e-DMEC. The Company's
principal executive offices are located at 800 Tucker Lane, Walnut, California
91789.
The Company, through its subsidiary, sells a variety of videocassette
and DVD (Digital Video Disc) titles to the budget home video market, principally
through the Company's New Jersey sales office and during fiscal 2000, introduced
a new line of trademarked greeting cards call CineChrome(TM) In February 1997
the Company acquired a company, now a wholly-owned subsidiary, known as Jewel
Products International, Inc., which is in the business of purchasing and
distributing general merchandise including children's toy products and
furniture.
The increasing consumer demand for DVDs marks the re-generation of a
new business for e-DMEC. In a study entitled "World DVD Planning Report" and
published recently by "Strategy Analytics," the report, among other things,
concluded that DVD will become the standard home video format within five years,
largely replacing VHS cassettes, and that DVD video disc shipments, in calendar
year 2000, will reach nearly 400 million units, and continue to soar to 2.3
billion by 2004, worth $44 billion. With identical distribution and marketing
channels as its video products, e-DMEC is able to immediately introduce its new
DVD line to its retailers and distributors who have been conducting business
with e-DMEC over the past 10 years. While DVD is still in the infant stage of
its product life cycle, easier market penetration and higher profit margins can
still be enjoyed by e-DMEC.
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The Company distributes and sells videocassette and DVD titles
including certain public domain programs and certain licensed programs. Public
domain programs are video titles that are not subject to copyright protection.
Licensed programs are programs that have been licensed by the Company from a
third party for duplication and distribution, generally on a non-exclusive
basis. The Company markets its video programs to national and regional mass
merchandisers, department stores, drug stores, supermarkets and other similar
retail outlets. They generally sell the Company's products to the public at
retail prices ranging from $1.99 to $9.99 per videocassette and $6.99 to $9.99
per DVD titles. The Company's video products are also offered by consignment
arrangements through one large mail order catalog company and one retail chain.
The Company had minimal sales of its CineChrome(TM) greeting cards during fiscal
2000 that sold at retail prices ranging from approximately $5.50 to $6.95 per
card.
Management is committed to acquiring more licensed video and DVD titles
and upgrading the quality of its packaging and pre-printed materials in order to
enhance its available products. The Company's videocassette program inventory
currently consists of approximately 739 titles, including approximately 464
public domain programs and 275 licensed programs, comprising motion pictures,
cartoons, educational, sports highlights, computer-literacy and exercise
programs. The DVD program inventory currently consist of 22 titles, all of which
are public domain programs. The Company is continually identifying new titles to
add to its program inventory and intends to expand its selection of licensed
programs which have historically shown a higher profit margin than public domain
programs.
In September of 1998, the Company entered into an exclusive
distribution agreement with a licensing and distribution company which granted
to the Company exclusive distribution rights for a new product line called
CineChrome(TM), which is a trademarked product line utilizing classic images of
licensed properties from film, music, sport, fine art and fine photography.
Until 1995, the Company was a full-service video product duplicating,
manufacturing, packaging and distribution company, and was engaged in several
distinct video production activities. In April 1995 the Company sold its custom
duplication division, through which the Company duplicated and packaged
videocassettes on a custom-made basis. The Board believed that this transaction
was in the best interest of the Company since it could not compete effectively
in the manufacture and duplication of videotapes. The Company's focus had
changed to development, acquisition and distribution of video-related products
to mass merchandisers and retailers. During the third quarter ended December 31,
1999, the Company contracted with a customer to furnish video duplication
services which was rendered through a third party contractor. There is no
assurance that the Company will receive additional orders for such video
duplication services in the foreseeable future.
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On January 31, 2000, the Company moved its principal offices from
Cerritos, California to a smaller facility in Walnut, California. This move from
its prior facility of approximately 49,000 square feet to its new facility of
approximately 20,000 square feet was part of the Company's effort to reduce its
operating overhead. In making this move, management expects a significant
reduction in its production costs in order to be more competitive in the pricing
of the products it distributes.
The Company completed its re-development of its web-site in early July
2000 as a fully operational e-commerce web-site. Although there can be no
assurances, the Company proposes to implement aggressive marketing and sales
campaign on its web-site, during fiscal 2001, to fully capitalize on this new
marketing and sales vehicle to increase its revenue and profit margins. The
Company also planned in fiscal year 2000 to offer web-site hosting to other
companies on a membership fee basis to enable such companies to market and sell
their products and services on the Company's web-site, however, the Company
currently has not entered into any agreements for this web-site hosting. There
can be no assurance that the Company will be able to offer web-site hosting
services successfully or at all.
Product Lines
-------------
Video Program Line:
The Company's video program inventory consists of a total of nearly 739
titles appealing to all age groups. The programs include cartoons, horror films,
science fiction, dramas, adventure stories, mysteries, musicals, comedies, fairy
tale adaptations, educational programs, sports highlights, instructional and
exercise programs. Public domain programs account for approximately 464 titles,
and licensed programs account for approximately 275 titles of the Company's
program inventory.
Motion Pictures - Public Domain. The Company offers a total of 106
feature motion picture titles including many film classics, such as "Life With
Father," "Meet John Doe," "Pygmalion" and "The Little Princess," which generally
appeal to adult audiences. The Company also markets its own special collection
of favorite performers' "Festivals," including The Three Stooges, Shirley
Temple, Bob Hope, Jack Benny and Milton Berle. The Company has recently added
titles such as "Call of The Wild," "Love Affair," "Thief of Bagdad," "Return of
Rin Tin Tin" and "Seven Alone," and such horror titles such as "Slime People,"
"Horror Riser from the Tomb," "Demon," and "Pieces." Classical biblical tales
including "Constantine and the Cross,' "Herod the Great," "Esther and the King,"
and "David and Goliath," were also recently add.
Exercise Programs - Licensed. In August of 1999, the Company acquired
the sole exclusive rights to distribute and market the workout videos called
"Strong Mind Fit Body", starring the legendary quarterback Joe Montana.
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Animated Programs - Licensed. The Company has licensed during fiscal
year 2000, in either English or Spanish language, a very high quality,
full-length animation film, titled "Don Quixote." This film will was released in
video during the second quarter calendar of 2000, in Spanish and will be
followed by an English version.
Children's Programs - Licensed and Public Domain. Most of the Company's
cartoons are public domain programs, including 21 cartoon programs redubbed in
Spanish. These programs are generally 30 minutes in length and consist of a
series of cartoons selected by the Company. The Company also markets
approximately 18 children's holiday features, and 49 titles in its Testaments
and Children's Bible series.
Educational Programs - Licensed. The Company licenses approximately 68
educational videos in two categories. For adults, titles include "Battle of
Britain," "The Shores of Iwo Jima," and "Guadalcanal," along with titles which
instruct preschoolers and school age children on topics such as learning
numbers, telling time, simple mathematics, color identification and other
practical skills.
Sports Programs - Licensed. The Company has licenses to market 16
sports videos including five volumes of "Great Sports Memories" and
"Basketball's Fabulous 50 Stars."
Computer Software Learning Tutorial Programs - Licensed. The Company
has licensed approximately 45 titles of computer tutorial videos including
titles such as "Family Guide to the Computer," "Family Guide to the Internet,"
"Windows`98," "Word for Windows," "Mastering WordPerfect," "Mastering Excel for
Windows," and "Make Your Own Web Page."
TV Episodes - Public Domain. The Company has added currently TV episodes
including "Mr. Lucky," "Peter Gunn," and "Yancy Derringer."
DVD Program Line:
The DVD program inventory currently consist of 22 titles, which are
public domain feature films and television episodes.
Motion Pictures - Public Domain. The Company's offers titles in DVD
format such as "Zulu," "Constantine and the Cross," "The Demon," "Mutant,"
"Creature," "Honor Thy Father," "Great St. Louis Bank Robbery," and "The
Holcroft Covenant" which generally appeal to adult audiences.
Television Episodes - Public Domain. Television episodes in DVD include
programs such as "The Lucy Show," "The Beverly Hillbillies," The Andy Griffith
Show," and the "The Red Skelton Show."
The Company continuously seeks to expand its program inventory by
identifying titles which appeal to children and those which include popular
performers, characters or themes. The Company also identifies video and DVD
programs which are classic films, are educational or instructional videos or
which have been requested by distributors. The Company enters into a licensing
agreement with respect to those programs that are subject to copyright
protection or obtains documentation confirming public domain status from various
unaffiliated program suppliers.
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The costs associated with the Company's film masters (used for duplicating) and
artwork (for packaging and advertising) include the purchase cost of masters,
initial fee for rights to duplicate, shooting costs and developing costs. During
the year ended March 31, 2000, the Company acquired approximately 65 new titles.
As of March 31, 2000, the net book value of the Company's film masters and
artwork was approximately $114,424. The Company believes that its film masters
and artwork are significant assets since the Company derives the majority of its
revenue from their use.
Suppliers - Video/DVD Products
------------------------------
The Company's programs are duplicated, and in some cases packaged, by
one DVD and five videotape manufacturers/duplicators located in the United
States. Generally, the Company arranges with these firms to duplicate
Company-supplied masters, then label, package, shrink-wrap and carton the
videocassettes or DVD's. Labels and packaging sleeves are supplied by the
Company. The Company submits its orders and instructions by purchase order with
terms payable within 90 days of delivery. For the year ended March 31, 2000, the
video products business of the Company had purchases from two suppliers that
amounted to approximately 60% of net purchases. During such period, the
percentage of net video product purchases made from such suppliers were 49% and
11%, respectively. Management believes that, if for any reason it could not rely
on or retain the services of any of its current suppliers, duplicators or
manufacturers, other suppliers would be available in the marketplace.
Markets and Customers - Video/DVD Products
------------------------------------------
The Company markets its program inventory to large retail chain outlets
and provides each retail chain operator with brochures, advertising materials
and literature describing and promoting the Company's program inventory. The
Company's products are sold through more than ten mass merchandisers such as
Sam's Club, Costco and Best Buy, primarily in the Northeast, the South and the
East Coast. These outlets sell the Company's products to the general public at
retail prices ranging from approximately $1.99 to $9.99 per videocassette. For
the years ended March 31, 2000 and 1999, the Company derived revenue from its
Video and DVD products of approximately $3,563,400 and $3,957,000, respectively.
For the year ended March 31, 2000, the Company had net sales to 2 customers,
individually of more than 10% of the Company's revenues, of approximately
$1,003,000. For the year ended March 31, 1999, the Company had sales to one
customer of more than 10% of the Company's revenue, at approximately $2,466,000.
The loss one of these customers would have a material adverse effect on the
financial condition and results of operations of the Company.
The Company's marketing strategy of distributing directly to retail
chain outlets has allowed the Company to market its products at all consumer
levels. In particular, the Company seeks to attract retail customers in
department, drug, discount, electronic, music, toy and book stores as well as
supermarkets and convenience stores. The Company is continuing to improve the
name recognition of the Company as a video and DVD company specializing in
educational, children and film classic video and DVD titles. In addition,
through its sales program, the Company seeks to place increased focus on the
promotion of sales to major mass merchandising companies which would increase
the delivery of high volume orders. In addition to using independent sales
representatives in certain geographical marketing areas the Company has
completed development of its web-site to enable it to sell its video and other
products to its current customer base and directly to the retail customer.
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The Company derives approximately 40% of its gross revenue from sales
to mass merchandisers and other retail outlets. Approximately 19% of gross
revenue is derived from sales through consignment arrangements with a catalog
company and retail company under which the Company delivers tapes to their
facilities pending receipt of orders by customers. The Company only books sales
from consignment sales after the catalog company delivers the actual funds from
such sales. Less than one percent of revenue are derived from programs sold on a
retail basis directly to consumers.
Seasonality
-----------
The Company generally experiences marginally higher sales of its
programs from September through January due to increased consumer spending
around the year-end holidays. During the year ended March 31, 2000, the Company
derived approximately 48% of its gross revenue from sales during those five
months, with approximately 52% of revenue generated in the other seven months of
the year.
License Arrangements
--------------------
The Company enters into license agreements under which it acquires from
licensors the right to duplicate and distribute a licensed video program.
Currently, none of the DVD programs that the Company distributes are licensed
programs. Licenses may be exclusive or non-exclusive, but typically are
non-exclusive. Generally, licenses cover specific titles. In return for the
grant of certain rights by the licensor, the Company pays certain advance
payments or guarantees and also royalties. Royalty payments under license
agreements typically are credited against any advances paid. Generally, the
Company's licenses are for a term of between three and seven years. While the
Company's efforts to renegotiate and renew its license agreements have generally
been successful, there can be no assurance that such licenses will be
renegotiated or renewed in the future. The programs that the Company has
acquired under license contain limitations from the licensors regarding the
geographic areas to which the Company can distribute its products and are
usually restricted to distribution and sales in the United States and Canada.
The various licensing agreements that the Company has entered into with
licensors provide for advance payments ranging from $1,500 to $100,000 and
subsequent royalty payments based upon either a per video sold fee or a
percentage of wholesale price fee. During the year ended March 31, 2000, the
Company incurred royalty expenses of approximately $103,000 under its licensing
agreements.
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Competition
-----------
The Company competes with other distributors of videotapes and DVD's,
including major film studios and independent production companies including
Goodtime Videos, Platinum and Madasey. The Company also competes with
manufacturers and distributors of other video and DVD formats. The Company has
been able to compete based on offering low pricing and superior packaging
designs. Most of the companies with which the Company competes are better
established, have broader public and industry recognition, have financial
resources substantially greater than those of the Company and have manufacturing
and distribution facilities better than those which now or in the foreseeable
future will become available to the Company.
JEWEL PRODUCTS INTERNATIONAL, INC.
In May 1997, the Company consummated an agreement and plan of merger
between BDC Acquisition, Inc. ("BDC Acquisition"), a subsidiary of the Company,
and Beyond Design Corporation (subsequently renamed Jewel Products
International, Inc. and referred to herein as "JPI"). JPI became the wholly
owned subsidiary of the Company via reverse merger when BDC Acquisition acquired
all of the issued and outstanding stock of JPI in consideration of the issuance
of an aggregate of 2,427,273 shares of the Company's common stock and the
assumption of certain obligations of JPI. The JPI acquisition was an arms-length
transaction. JPI is in the business of (i) manufacturing one toy product, (ii)
purchasing various other children's toy products from U.S.-based importers or
directly from Asia, (iii) distributing toys to mass merchandisers in the United
States and (iv) purchasing and distributing furniture products. In the fiscal
year ended March 31, 2000, revenue realized from JPI's business amounted to
approximately $222,900.
Product Lines
-------------
At the time of its acquisition, JPI's sole line of business was the
manufacture and sale of its patented Woblong(R) Double Wing Flier, a bi-wing
aerodynamic flying toy. The Woblong, subsequently renamed the Zoombie(R), is a
game of catch intended to compete directly with Frisbee(R), Aerobie(R) and
Whoosh(TM). During the year ended March 31, 2000 JPI has introduced
approximately 20 new toy items to its product line. Popular products include
various plastic toy sets (for example, Fire Rescue set, Airport set, City Movers
set and plastic toy figurines). Toy products also include a line of plastic
animal shaped squirt gun and a radio controlled sports utility vehicle (SUV).
JPI's toy products sell at retail prices ranging from approximately $2.00 to
$12.00 per item.
During fiscal 1999, JPI obtained the exclusive marketing rights to
purchase and distribute a line of padded folding chairs and table set. The
furniture set sell at a retail price of approximately $109.00 to $129.00. The
new furniture product line is purchased directly from Asia and is distributed to
mass merchandisers in the United States and is also featured on the Company's
website. JPI commenced offering the furniture line on its website in July 2000.
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Suppliers - Toy Products
------------------------
For the year ended March 31, 2000, 39% of JPI's supplier purchases were
from one supplier. The Company is continuing to diversify its supplier base, and
made purchases from eight U.S. suppliers and two suppliers in China during the
year ended March 31, 2000.
Markets and Customers
---------------------
In fiscal year 1998, JPI marketed its products using outside sales
personnel and manufacturer representatives and utilized independent
manufacturer's representatives to reach its customers. During fiscal year 1999,
Company has begun to pursue major chain retailers and drug store chains, such as
Target, K-Mart, Toys R Us and Rite Aid and chain store opportunities in Canada.
During fiscal year 2000 the Company began shipping its Zoombie flying toy for
sale by certain Target stores and the Company has placed the Zoombie toy product
for sale on its web-site.
Competition
-----------
JPI competes with other distributors of toy products including
distributors of other flying toys such as "Frisbies". The Company concentrates
on the most popular and new products available and offers these toy products for
limited sales period and, as demand for products change, JPI can immediately
switch to newer and more popular products. JPI competes primarily on uniqueness
of product and lower prices. Most of the distributors with which JPI competes
are better established, have a broader product line and industry recognition,
and have financial resources substantially greater then those of the Company.
Seasonality - Toy Products
--------------------------
JPI's revenues are currently generated during the summer months and
were derived primarily in the period from June to September.
Greeting Card Products
----------------------
In September of 1998, the Company entered into an exclusive
distribution agreement with a licensing and distribution company which granted
to the Company exclusive distribution rights for a new product line called
CineChrome(TM), which is a trademarked product line utilizing classic images of
licensed properties from film, music, sport, fine art and fine photography.
These classic images are being published on the front cover (in a greeting card
format) using the patented print technology, KromeFX(TM). KromeFX(TM) is a
proprietary printing process, which combines reflectivity, color vibrancy, depth
of image and dimension. The Company derived revenues of approximately $42,100
from the sale of these products during fiscal year 2000.
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The CineChrome(TM) cover is laminated to a high quality paper and
printed on the inside cover, inside back and back all in four color process. The
inside contains editorial information about the property including full color
stills and the back cover serves as a letter of authenticity with branded and
copyright information. The CineChrome(TM) is completed with a custom designed
gallery standard envelope with the property's logo imprinted in two colors along
with a two color CineChrome(TM) logo. In order to protect the integrity of the
collectible there is an inserted stationery quality onion sheet note for
messages from the sender. The onion skin has watermarks of the property logo and
the branded logo, CineChrome(TM).
The Company plans to distribute the CineChrome(TM) product line
worldwide and expand the series of images to include a wide variety from other
major studios and licensors. The currently existing product in the
CineChrome(TM) product line is made up of 20 "Saturday Evening Post" Holiday and
Special Occasion Gift Cards. Two sets of ten cards have been made into gift sets
and cards can also be sold separately. There can be no assurance that the
Company will be able to continue to market and distribute successfully the
CineChrome(TM) products on its website or to its other customers.
Suppliers - Greeting Card Product
---------------------------------
The Company has two sources for its CineChrome(TM) products. The
supplier in Carlsbad, California who owns the patented print technology,
KromeFX(TM) and another supplier in West Bend, WI, who utilizes its own
proprietary technology which is similar to KromeFX(TM) process. During fiscal
1999, the Company purchased approximately $50,000 in CineChrome(TM) products
utilizing the KromeFX(TM) process and approximately $14,000 from the supplier in
West Bend, WI.
Competition - Greeting Card Product
-----------------------------------
The processes which are utilized by the Company's CineChrome(TM)
products, are also available to the Company's competitors who are in the
business of selling posters, trading cards, inserts and other similar products.
These competitors include Hallmark, American Greeting Cards and Gibson. Most of
the companies with which the Company competes are better established, have
broader public and industry recognition, have financial resources substantially
greater than those of the Company and have manufacturing and distribution
facilities better than those which now or in the foreseeable future will become
available to the Company. The greeting card market requires substantial
resources to obtain shelf space in retail outlets, therefore, the Company cannot
make assurances that it can or will be successful in this marketplace in the
foreseeable future.
AMERICAN TOP REAL ESTATE
American Top Real Estate, Inc. ("ATRE") was formed in March 1989 for
the purposes of acquiring, owning and holding real property for commercial
development. ATRE does not engage in any other business operations. The Company
paid $50,000 for a 50% interest in ATRE. The Company's arrangement with its
partners in ATRE requires that all parties contribute capital or loans pro rata
according to their interests whenever required by ATRE for land acquisition,
principal or interest payments, property taxes or other expenses.
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Upon sale or development of land, proceeds are used to repay all
related loans and other obligations, with the remaining balance distributed
among the shareholders of ATRE pro rata based on their interests. None of the
other investors in ATRE are otherwise associated or affiliated with the Company
in its real estate holdings. ATRE has interests in two real estate parcels.
Parcel 1 consists of approximately 20 undeveloped acres purchased in
two transactions, in 1989 and 1997. ATRE has a 70% interest in Parcel 1, located
in Clark County, Washington. The total cost of Parcel 1, including financing
expenses and taxes, was approximately $2,300,000 through 1997.
Parcel 2 consists of 5.5 acres of undeveloped property, also in Clark
County, Washington. ATRE's interest in Parcel 2 is 25%. Parcel 2 was purchased
in 1989 for $717,000. Approximately 2.5 acres of Parcel 2 were sold in 1996. The
Company received net proceeds of $121,600 from ATRE during fiscal 1997 relating
to Parcel 2 sales. Approximately 3 acres remain unsold as of the date of this
report.
During the year ended March 31, 1998, ATRE sold approximately 11 acres
of parcel 1. The Company received $588,733 during the year ended March 31, 1999
from the proceeds of the sale of the parcel of 11 acres as repayment of advances
made to ATRE.
At November 30, 1998, ATRE has no binding sales contracts for the
remaining parcels of real estate owned by ATRE as these parcels of land continue
to be developed for commercial use. Contracts that were pending have not closed
due to possible changes in interest rates or possible overall market conditions.
In addition, the Company was advised by ATRE that proceeds realized by ATRE
during fiscal 1998 were reinvested into other parcels to improve the ability to
sell the remaining parcels. In December of 1998, the Company received from a
real estate development specialist an informal valuation reflecting an aggregate
approximate value of $5,200,000 for the remaining ATRE parcels. Although the
Company believes that final sales contracts will be able to be consummated, at
this time it is not possible to predict with any certainty when the closing of
such sales contracts of commercial real estate may occur or whether the proceeds
expected by the Company for their share in this real estate could be
significantly less than anticipated. Therefore, the ultimate realizable value of
the receivable for advances from ATRE could be substantially less than the
preadjusted carrying value of $1,600,000. The Company set up a valuation
allowance in March 1998 of $1,117,788 and accordingly, charged operations for
that amount so that the amount due from ATRE at March 31, 1998 is presented at
the amount of the 1998 subsequent receipts of approximately $500,000. Based upon
the above circumstances the likelihood is that $1,117,788 from future proceeds
from the sale of the ATRE parcels will not be realized by the Company with any
certainty.
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The Company in June 1998 borrowed approximately $809,500 from ATRE to
finance certain purchases of toy products. During the quarter ended December 31,
1999, the Board of Directors of the Company authorized the conversion of the
amount borrowed of $809,500 into a one year 7% Convertible Promissory Note due
on September 30, 2000. During the year ended March 31, 2000, the Company
borrowed $559,900 from ATRE and paid back $81,000. The Company owed ATRE
approximately $478,900 in short term notes at March 31, 2000.
On June 2, 1999, ATRE entered into a sale agreement with respect to
0.097 acres of the remaining acres of parcel 1 for approximately $600,000 and in
September 1999, entered into a sales agreement for remaining 0.091 acres parcel
of parcel 1 for approximately $550,000. During June 2000, the sales agreement
for $600,000 entered into on June 2, 1999 was canceled by the buyer who
forfeited the $25,000 purchase deposit to ATRE. The ability of the remaining
agreement to close or for the Company to realize as of March 31, 2000, its share
of the net proceeds to the Company, however, are uncertain and is subject to
certain contingencies.
Employees of the Company
------------------------
As of March 31, 2000, the Company and its subsidiaries employed 19
full-time and 1 part-time employee as compared to 38 full-time and 3 part-time
employees a year earlier. As a result of lower than expected revenues projected
for the last quarter of fiscal 2000, the Company laid off 11 employees during
November 1999. During the peak season the Company engages additional part-time
or temporary employees to help with the surge for Christmas season orders. The
Company reduces its manufacturing force after the peak season to improve the
profitability of the operations when sales orders decline. Neither the Company's
nor the subsidiaries' employees are unionized. Management believes that it has
good working relations with its employees.
Copyright, Licenses and Other Proprietary Rights
--------------------------------------
The Company relies on a combination of common law trademark, copyright
and trade secret law to establish and protect the Company's property rights and
promote our reputation and the growth of the Company's business. In addition,
the toys product line, the Woblong(R), subsequently renamed as the Zoombie(R),
is protected by patent claims in the form of a utility patent registered with
the U.S. Patent and Trademark Office. The U.S. Patent number is 5,131,879. In
addition, a design patent was issued on March 9, 1994 - D344,989.
We license approximately 275 videocassette titles from licensors for
duplication and distribution, generally on a non-exclusive basis. Such licensors
could become subject to third party infringement clauses which could result in
their inability or willingness to license these titles to us and would impair
our ability to provide such titles to our customers.
11
<PAGE>
ITEM 2. DESCRIPTION OF PROPERTY.
The Company leases approximately 20,000 square feet at 800 Tucker Lane,
Walnut, California under a lease that commenced January 6, 2000 and expires on
January 31, 2003, for use as executive offices and manufacturing and warehouse
facilities for a monthly rent of $10,500.00. The Company closed its 1,200 square
feet in Freehold, New Jersey in April 2000, which it used for its sales office.
In addition, the Company leases approximately 22,080 square feet in Cerritos,
California ("Cerritos Property") for $9,274 per month which space was formerly
used by the Company for executive offices and warehousing. The Company sublet
the Cerritos Property on January 1, 1999 for a term that expires on March 31,
2001. The sublease requires the subtenant to pay the Company $9,494 per month
through February 2000, and $9,936 per month through the remaining term of the
Sublease. All of the Company's lease and sublease agreements are with
unaffiliated parties. The Company believes that it has sufficient space for
operations for the next twelve months.
ITEM 3. LEGAL PROCEEDINGS.
In 1998, the Company was contacted by attorneys for a foreign
manufacturer claiming that a game distributed by JPI infringed on the
manufacturer's trademark and copyright. After internal investigation, the
Company and JPI voluntarily ceased all sales of its allegedly infringing product
and has stored its inventory of the game pending a resolution of the conflict.
The Company places a book value of approximately $450,000 on the stored
inventory. In March 1999, the JPI entered into a settlement agreement with the
manufacturer and distributor and, as part of the settlement, paid the
manufacturer in March and April, 1999, an aggregate of $23,753 for the number of
games sold by JPI and has agreed with the manufacturer in question that JPI may
not sell, ship, or otherwise exchange the games without the manufacturer's
express written permission and in no event may JPI sell the games in the United
States. The Company is searching for a buyer Eastern Europe and South America.
The Company has in the past been named as defendant and co-defendant in
various legal actions filed against the Company in the normal course of
business. All past litigation have been resolved without material adverse impact
on the Company. For the year ended March 31, 1999, there were three civil
actions against the Company. One action is for alleged copyright infringement
whereby the Company has entered into a settlement agreement in February of 1998
to pay $208,000 over twenty-four months, whereby the Company has made all twenty
four of the required payments due as of February 16, 2000. The second action is
for breach of service whereby the Company settled for two payments of $4,750
each, which were paid in July and August, 1999. The third action, the Company
challenged an alleged suit for copyright infringement and as of the date of this
report, the Company had not received a response to its challenge.
On February 15, 2000, one of the Company's suppliers brought legal
action against the Company to collect approximately $35,200 comprising of unpaid
invoices, interest, court costs and attorneys fees owed to the supplier. The
Company recorded the liability upon receipt of the goods and has acknowledged
that this amount is owed to the supplier and is currently negotiating a monthly
payment plan with the supplier to settle the amount owed.
12
<PAGE>
During March 2000, the Company's former lessor brought action against
the Company to recover delinquent rental payment and penalties arising from the
termination of the Company's building lease in Cerritos, California. The action
against the Company resulted in a stipulated judgement whereby the Company
agreed to pay $72,000.00 at 10% interest by paying $6,600.00 per month for
twelve consecutive months beginning April 1, 2000 through March 1, 2001. There
is a penalty clause for a failure to pay in a timely manner which increases the
total amount to $119,000 with immediate acceleration in the event of a default
under the stipulated judgement. The required payments through July 2000 all have
been made in a timely manner and there have been no defaults.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
On April 27, 2000, the Company held its annual meeting of shareholders
and the following proposals were approved by majority vote: (i) Jeffrey I.
Schillen was elected as a Class 1 director to the Board of Directors of the
Company for a term of three years and James K. T. Lu and Murray T. Scott were
elected as Class 2 directors of the Board of the Company for terms of three
years, (ii) the appointment of Merdinger, Fruchter, Rosen & Corso, P.C. as the
Company's independent certified public accountants, (iii) the increase of the
authorized common stock of the Company from 100,000,000 shares of common stock,
no par value to 600,000,000 shares, and (iv) the authorization of the Board of
Directors to effectuate a reverse stock split of the Company's shares of common
stock up to a maximum ratio of 10 to 1 of the Company's authorized common stock.
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The Company's Common Stock is quoted on the OTC Bulletin Board under
the symbol "DMEC." The Company's shares of Preferred Stock are not listed on any
national securities exchange, or Nasdaq or quoted on the OTC Bulletin Board.
The range of high and low bid information for the Company's Common Stock
for each full quarterly period during the Company's last two fiscal years, is as
follows:
Period High Bid Low Bid
------ -------- -------
Fiscal 1999
-----------
1st quarter 0.135 0.041
2nd quarter 0.16 0.055
3rd quarter 0.0625 0.0625
4th quarter 0.125 0.08
Fiscal 2000
-----------
1st quarter 0.06 0.24
2nd quarter 0.06 0.19
3rd quarter 0.02 0.11
4th quarter 0.05 0.20
13
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These quotations were obtained from OTC Bulletin Board quarterly quote
summaries, and reflect interdealer prices, without retail markup, markdown, or
commission and may not represent actual transactions. On June 30, 2000, the
closing bid price for the Company's Common Stock was $0.05. As of the same date,
there were 2,428 holders of record of the Company's Common Stock.
The Company has not paid any cash dividends and does not anticipate
paying any cash dividends in the foreseeable future. The Company intends to use
any earnings which it may generate to finance the growth of its business.
The transfer agent for the Company's Common Stock is Continental Stock
Transfer & Trust Company, New York, New York.
Sales of Unregistered Stock
---------------------------
During the quarter ended June 30, 1996 the Company issued 10%
convertible debentures ("10% Debentures") in the original principal amount of
$1,257,988. The principal was convertible into shares of the Company's Common
Stock. Through March 31, 1998, 10% Debentures in the aggregate amount of
$519,848 (including $39,848 in accrued interest and $37,650 in extension
bonuses) had been converted into 7,487,668 shares of the Company's Common Stock.
In June 1998, an additional $91,750 in 10% Debentures had been converted into
2,823,077 additional shares of Common Stock.
As of March 31, 1997, the 10% Debentures of $290,000 were converted into
1,450,000 shares of the Company's common stock by several off shore companies
under Regulation S and $967,988 of convertible promissory notes payable were
outstanding and in default by the Company. Interest expense of $97,000 and
$24,702 was recorded for the years ended March 31, 1998 and 1997. Subsequent to
September 30, 1997, the Company negotiated a one year extension agreement and
agreed to add 15% to the note as a deferred financing cost of $110,721.
In connection with the placement of the 10% Debentures, the Company
issued warrants, exercisable for $0.25 per share, for the purchase of 500,000
shares each to two consultants in consideration of their providing financial
consulting services to the Company. On April 9, 1997, warrants to purchase
46,000 shares of Common Stock were exercised in consideration of the payment of
$11,500.
14
<PAGE>
Effective May 14, 1997 the Company consummated the merger between a
subsidiary of the Company and Beyond Design Corporation (which has since changed
its name and is referred to herein as "JPI"), pursuant to which the Company
acquired all of the outstanding shares of JPI in exchange for the issuance of
2,427,273 shares of Common Stock and the assumption of certain obligations of
JPI; JPI then became a wholly-owned subsidiary of the Company.
On August 25, 1997, as compensation pursuant to four consulting
agreements, the Company issued 250,000 shares of Common Stock, and warrants to
purchase an aggregate of 2,050,000 shares of Common Stock, exercisable at $0.10
per share, such warrants to expire on August 24, 1999. Murray T. Scott, a
director of the Company, received the 250,000 shares of Common Stock and 250,000
of such warrants. In July 1998, two individuals who received warrants under the
consulting agreements each exercised warrants to purchase 100,000 shares of
Common Stock for aggregate consideration of $20,000 and in 1999, the Company
authorized the reduction in the exercise price for 1,200,000 of these options to
purchase the Company's common stock by canceling such options and issuing new
option with the same terms except at an exercise price of $0.05 and recorded a
non-cash additional consulting expense of $37,756 in 1999. The Company received
$60,000 in January of 1999 from the exercise of 1,200,000 of these options at
$0.05 per share. In February 1999, the Company received $40,000 from one
consultant who exercised 400,000 of these options at an exercise price of $0.10.
In March 1999, the warrants for 250,000 shares issued to Mr. Scott were canceled
and reissued extending the exercise period for an additional two years for such
options.
The Company executed nine employment agreements effective September 1,
1997, pursuant to which an aggregate of 550,000 shares of Common Stock were
issued, with a deemed value of $11,000, as payment for past services, and also
issued warrants to purchase 550,000 shares with an exercise price of $.10 per
share. Such shares were subsequently registered pursuant to the Company's
Registration Statement on Form S-8 filed in September 1997. On September 1,
1999, the warrants to exercise the 550,000 shares of Common Stock expired.
On August 27, 1999, the Company granted warrants to purchase 300,000
shares of Common Stock, which expire on September 1, 2002, at an exercise price
of $.10 per share to the five remaining employees with employment agreements.
On September 1, 1997 each of Messrs. Lu and Schillen were issued shares
of Common Stock and granted warrants as consideration for agreeing to defer
payment of their salaries. Mr. Lu was issued 3,000,000 shares of Common Stock
and granted warrants to purchase an additional 3,000,000 shares of Common Stock
at $0.10 per share through August 24, 2002. Mr. Schillen was issued 750,000
shares of Common Stock and granted warrants to purchase an additional 750,000
shares of Common Stock at $0.10 per share through August 24, 2002.
15
<PAGE>
On September 24, 1997 the Company renegotiated and extended the 10%
Debentures. As an inducement to have the holders of the 10% Debentures agree to
extend the maturity dates of the 10% Debentures, the principal amount of the
outstanding 10% Debentures ($967,988) on such date was increased by 15%, and the
conversion terms of the 10% Debentures were revised.
During fiscal March of 1998, the 10% Debentures of $229,848 were
converted into 6,037,668 shares of the Company's common stock. In June of 1998,
a convertible debenture holder converted a note payable with a balance of
$91,750 into 2,823,077 shares of the Company's common stock. This brought total
conversions of $611,598 of debentures into 10,310,745 shares as of November 2,
1998.
On March 11, 1998, the Company issued 347,368 shares of Common Stock to
a salesman in lieu of commissions owed of $66,000.
On July 9, 1998 the Company entered into a consulting agreement that
will terminate on July 8, 2001 whereby a consultant received an option to
purchase 1,000,000 shares of common stock which expire on July 8, 2001. The
options are exercisable at a price of $.10 per share. The agreement and options
were canceled in September 1998 as the consultant failed to fulfill his
obligations under the consulting agreement. On July 13, 1999, the options for
1,000,000 shares of the Company's common stock were re-issued to the consultant
in accordance with the terms of the original consulting agreement entered into
on July 9, 1998 which was also reinstated. The agreement can be terminated or
extended as agreed to between the parties. This option had not been exercised as
of March 31, 2000.
In July and August of 1998, Mr. Lu was granted additional options to
purchase 2,000,000 shares of Common Stock for $0.10 per share in consideration
of his (i) personal guaranty of the Company's bank line of credit and (ii) loans
made to the Company. Such option expire in March 2003.
On July 15, 1998, the Company incorporated Galaxynet International,
Inc. ("GalaxyNet") in the State of Delaware, as a majority-owned subsidiary of
the Company. GalaxyNet intended to develop and sell internet gaming software and
intended to offer its software to internet gaming companies and provide internet
gaming web sites to solicit gambling wagers from primarily, Asian players. The
Company also issued 4,000,000 options exercisable at $.10 per share to an
investor and 2,000,000 options to the Chief Executive Officer exercisable at
$.10 in connection with this project. On July 17, 1998, the Company, along with
GalaxyNet, entered into a memorandum of understanding regarding the raising of
capital in a private offering to raise gross proceeds in the aggregate of
between $3,000,000 and $10,000,000 with an enterprise who would be paid the sum
of 15% of the aggregate proceeds and receive options for up to 3,750,000 shares
of common stock at exercise prices of between $.10 and $.20 per share. The
private offering period ended September 30, 1998, and was extended until October
31, 1998. The private offering resulted in raising funding proceeds of only
$250,000. The Company subsequently canceled the project and refunded the
$250,000 to the investor and canceled all the project related options in
November 1998. The company incurred expenses on behalf of GalaxyNet for fiscal
1999 of approximately $30,000.
16
<PAGE>
On October 24, 1998, the Company issued 1,499,523 shares of Common
Stock to Mr. Lu pursuant to a settlement agreement between the Company, Mr. Lu
and four consultants. See "Certain Relationships and Related Transactions."
On November 2, 1998, the 10% Debentures with a balance of $831,436 were
reinvested into a new note for $921,851 for a new two year term expiring October
31, 2000 with interest of 10% and an extension bonus of $175,000, due November
1999 which bears interest at 2.5% per annum payable $50,000 per month after
payment of all prior interest and the restructured note. The repayment term was
a weekly amount of $6,250 in 1998 and $12,500 in the years 1999 and 2000. In
addition there was an acceleration clause of repayments for certain events and a
5% late charge for any delinquent payments. The notes contain an option to
convert the principal and interest balance into common stock of the Company
subject to certain pricing calculations. Collateral security included all assets
of the Company and personal collection guarantee as additional security to the
holder after subordination to the primary lender.
On January 10, 1999, the Company engaged three consultants for a period
of one year to provide advice to undertake for and consult with the Company
concerning management, marketing, consulting, strategic planning, corporate
organization and structure, financial matters in connection with the operation
of the businesses of the Company, expansion of services, acquisitions and
business opportunities. The consultants received options to purchase a total of
4,700,000 of the Company's common stock exercisable at $.05 per share in
exchange for services to be rendered and the options shall expire on December
31, 2000. The Company valued the options at and recorded consulting expenses of
$336,685 for the year ended March 31, 1999. These options were exercised in
February of 1999 for proceeds to the Company of $275,000.
In February of 1999, the holders converted $640,000 of the the 10%
Debentures into 8,000,000 shares of common stock. On February 10, 1999, the
Company converted the remaining the 10% Debentures balance of $172,661 and
unpaid interest of $90,415 into 3,018,254 shares of common stock. It was also
agreed that the $175,000 extension bonus, which was recorded as a deferred
financing cost in February of 1999, could be converted into shares of common
stock at an agreed exercise price subject to market conditions. The Company
amortized $20,000 and $155,000 of the extension bonus as a financing expense for
the year ended March 31, 1999 and March 31, 2000, respectively. During the year
ended March 31, 2000, $175,000 extension bonus and accrued interest of $13,125
was converted into 3,500,000 shares of the Company's common stock.
17
<PAGE>
In February 1999, the Company engaged a consulting firm to provide
internet media consulting and public relations services for a period of one
year. The fee for the services to be rendered included a monthly cash fee of
$3,000. The consulting firm also received options to purchase a total of 250,000
shares of the Company's common stock with an exercise price of $.05 per share in
exchange for services to rendered and the options shall expire on February 11,
2001. During the year ended March 31, 2000, all of the options were exercised
for services rendered by the consulting firm and cost incurred totaling $12,500.
In March and June 1999, the Company issued callable convertible notes
for $50,000 and $100,000 to James Lu and Jeffrey I. Schillen, respectively. The
notes bear interest at 10% per year with principal and interest due on the first
anniversary of the date of issuance. Each note has been extended for an
additional year. The notes also call for any amount of the outstanding principal
to be converted into restricted shares of the Company's common stock at the
option of the lenders at a conversion rate of $0.05 per share. As of March 31,
2000, neither of the debentures were converted. Since the debentures are
convertible into restricted shares of the Company's common stock at a rate below
market, the first 20% of the below market amount was attributed to the lack of
tradability of the shares due to restriction on sale and the remainder was
attributed to additional interest. The additional amount of interest for the
years ended March 31, 2000 and 1999 were calculated to be $167,200 and $37,600,
respectively, of which each amount was expensed in its appropriate fiscal year.
In March of 1999, the Company received a total of $150,000 from three
investors and issued promissory notes due in one year with principal and
interest paid bimonthly at an interest rate of 10%. The notes could be used as
proceeds for the exercised options held by the investors. During the year ended
March 31, 2000, the note holders used the $150,000 and accrued interest of
$2,500 as funds to exercise their common stock options for a total aggregate of
3,000,000 shares of the Company's common stock.
In March and April of 1999, the Company issued two convertible notes
for $100,000 and $50,000, respectively. The notes bear interest at 10% with
principal and interest due on the first anniversary of the date of issuance. The
notes also call for any amount of the outstanding principal to be converted into
restricted shares of the Company's common stock at the option of the lender at a
conversion rate of $0.05 per share. As of March 2000, one investor converted the
$50,000 note into 1,000,000 shares of the Company's common stock. As of March
31, 2000, the outstanding balance of convertible notes was $100,000, which the
lender extended the due date to March 2001. On June 2, 1999, the Company was
advised by the convertible note holder of the $100,000 note to waive receipt of
bimonthly principal payments and to continue to receive the bimonthly interest
only payments. Since the debentures are convertible into restricted shares of
the Company's common stock at a rate below market, the first 20% of the below
market amount was attributed to the lack of tradability of the shares due to
restriction on sale and the remainder was attributed to additional interest. The
additional amount of interest expense for the year ended March 31, 1999 was
calculated to be $91,100.
18
<PAGE>
On April 12, 1999, the Company engaged three consultants for a period
of one year each to provide managerial and strategic planning for financial
matters and expansion of the Company. The consultants received options to
purchase and aggregate of 6,000,000 shares of the Company's common stock
exercisable at $0.05 per share in exchange for services to be rendered and the
options expire on April 11, 2000. The options had an aggregate fair value at
date of grant of approximately $291,000. These options were exercised in April
1999, by the forgiveness of $150,000 of notes payable, executed in March 1999
and cash proceeds of $150,000.
On May 25, 1999, the Company's board of directors approved and the
Company issued to the Company's President, as a bonus, options to purchase
2,500,000 and 1,000,000 shares of the Company's common stock at $0.05 and $0.10
per share, respectively. The options expire on May 24, 2004. The options had an
aggregate fair market value at date of grant of approximately $681,000.
On May 25, 1999, the Company's board of directors approved and the
Company issued to the Company's V.P. of Sales and Marketing, as a bonus, options
to purchase 500,000 and 500,000 shares of the Company's common stock at $0.05
and
$0.10 per share, respectively. The options expire on May 24, 2004. The options
had an aggregate fair market value at date of grant of approximately $194,000.
In July 1999, the Company engaged a consultant for a period of one
year to provide managerial and strategic planning for financial matters and
expansion of the Company. The consultant received an option to purchase
1,000,000 shares of the Company's common stock exercisable at $0.10 per share in
exchange for services to be rendered and option shall expire on July 8, 2001.
The option had an aggregate fair value at date of grant of approximately 40,000.
On July 13, 1999, the Company engaged a consultant for a period of one
year to provide advice to undertake for and consult with Company concerning
managerial and strategic planning for financial matters and expansion of the
Company. The consultant received an option to purchase 1,000,000 shares of the
Company's common stock exercisable at $0.10 per share in exchange for services
to be rendered and the option shall expire on July 12, 2002. The option had an
aggregate fair value at date of grant of approximately $127,000. These options
had not been exercised as of March 31, 2000.
On August 2, 1999, the Company engaged two consultants for a period of
one year to provide advice to undertake for and consult with the Company
concerning management, marketing, consulting, strategic planning, corporate
organization and structure, financial matters in connection with the operation
of the businesses of the Company, expansion of services, acquisitions and
business opportunities. The consultants received options to purchase a total of
1,965,000 of the Company's common stock exercisable at $.05 per share in
exchange for services to be rendered and the options shall expire on August 2,
2000. The options had an aggregate fair value at date of grant of approximately
$202,000. The options were exercised during the year ended March 31, 2000 by the
forgiveness of $36,250 of principal and interest of debt outstanding for 725,000
shares and $50,000 cash and the forgiveness of $12,000 of accounts payable for
1,240,000 shares.
19
<PAGE>
During the quarter ended December 31, 1999, Board of Directors of the
Company authorized the conversion of approximately $1,880,725 in related parties
payables into one year 7% Convertible Promissory Notes of $1,071,225 and
$809,500 each, both due on September 30, 2000. The terms of the new convertible
notes allow the Company to make partial principal and interest payments from
time to time and the holders of the convertible notes have the option to request
such payments of the indebtedness evidenced by the notes either in the lawful
money of the United States or in an equivalent value consisting of the Company's
common stock, the number of shares, to be determined by dividing the payment
amount by the average twenty day bid price for the Company's common stock during
the twenty trading days prior to the date of such payment. Also, during the
quarter ended December 31, 1999, the related party to which $1,071,225 in
related parties payable was owed by the Company, transacted a change in
ownership of its common stock in which 100% of its outstanding shares of common
stock was sold to a non-related party and at March 31, 2000, the balance of the
Convertible Promissory note to the non-related party was $1,050,775 as a result
of the Company recording payments toward the note in March 1999, by offsetting
$20,450 in money owed to the Company by the non-related party.
On May 11, 2000, the Company sold 50 shares of Series A Convertible
Preferred Stock ("Series A Preferred Stock") for total consideration of
$500,000, or $10,000 per share. The May Davis Group, Inc. ("May Davis"), acted
as placement agent for the offering. May Davis received a placement fee of
$40,000 and the Company issued warrants to purchase 1,500,000 shares of Common
Stock to May Davis and certain designees of May Davis and warrants to purchase
25,000 shares of Common Stock to Butler Gonzalez, LLP, counsel to May Davis.
Such warrants are exercisable at a price of $.08 per share.
On June 1, 2000, the Company entered into three consulting agreements
that will terminate on May 31, 2001, whereby the consultants will provide
consulting service for the Company concerning management, marketing, consulting,
strategic planning, corporate organization and financial matters in connection
with the operation of the businesses of the Company, expansion of services,
acquisitions and business opportunities. The consultants received options to
purchase a total of 7,300,000 of the Company's common stock exercisable at $.035
per share in exchange for services to be rendered and the options shall expire
on May 31, 2001. In June and July of 2000, the Company received $215,500 in cash
for the issuance of the 6,157,143 shares upon the exercise of these options and
the remaining options of 1,142,857 were exercised for consulting services
incurred and owed by the Company to one of the consultants totaling $30,000 and
from the cancellation of a obligation of $10,000 in principal and interest owed
to the same consultant.
20
<PAGE>
The Company believes that the transactions set forth above were exempt
from registration with the Commission pursuant to either Section 4(2) of the
Securities Act or Rule 506 of Regulation D promulgated thereunder, as
transactions by an issuer not involving any public offering, Section 3(a)(9) of
the Securities Act as a transaction involving an exchange by an issuer with
existing security holders, or Regulation S under the Securities Act as a
transaction that occurred outside the United States. Except as set forth above,
no broker-dealer or underwriter was involved in the foregoing transactions. All
certificates representing such securities have been or will be appropriately
legended.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.
Year Ended March 31, 2000 Compared with the Year Ended March 31, 1999
---------------------------------------------------------------------
Restatement and Correction of Errors
------------------------------------
The Company's consolidated balance sheet and related consolidated statements of
operations, stockholders' deficiency and cash flows for the period ended March
31, 1999, were re-audited. As the result of this re-audit, the Company has
restated its fiscal year 2000 financial statements to expense $255,000 of
deferred costs, which was incurred due to the issuance of stock options. Also,
the 2000 financial statements have been affected to reflect accumulative
adjustments of $308,209 for 1999 restatements, which have decreased the net
loss.
The Company has restated its March 31, 1999 financial statements to reflect
adjustments increasing net loss by approximately $1,123,000. The management's
discussion and analysis set forth in this section are based upon the restated
financials for the two years ended March 31, 2000.
The financial statements for the period ended March 31, 1999, were restated as a
result of the following:
1. In 1999, the Company issued convertible debentures for $175,000 and
$100,000 to an unrelated third party and a $50,000 convertible debenture to
the Company's president. Since the debentures are convertible into
restricted shares of the Company's common stock at a rate below market
price of the Company's common stock on the date of issuance of the
debentures, the first 20% of the below market price was attributed to the
lack of tradability of the shares, due to restriction on sale and the
remainder of the below market price was attributed to financing costs. The
additional amount of financing cost was calculated to be $105,000, $73,600
and $37,600, respectively. The Company did not record the effect of this
matter in its financial statements. The effect on the financial statements
was a $216,200 increase in common stock and a corresponding increase in
selling, general and administrative expense.
21
<PAGE>
2. In 1999, the Company converted $145,959 of accrued interest into 3,445,011
shares of the Company's common stock at a conversion rate below the market
price of the Company's common stock. The Company recorded additional
interest expense of $157,987 for the difference between the conversion
price and the market price of the Company's common stock. The effect on the
financial statements was a $157,987 increase in common stock and a
corresponding increase in selling, general and administrative expense.
3. The Company's equity investment was recorded at a value of $50,000 when the
book value was approximately $7,500. The effect on the financial statements
was a $42,500 decrease in the investment and a corresponding decrease in
the valuation adjustment for the investment.
4. The Company had $175,000 of deferred costs associated with a loan fee,
which was being amortized over the life of the loan. The amortization
expense for 1999 was understated by $16,468. The effect on the financial
statements was a $16,468 decrease in total assets and a corresponding
increase in selling, general and administrative expense.
5. In 1999, the Company had approximately $176,000 of consignment sales
recorded as accounts receivable. The effect on the financial statements was
a $176,000 decrease in sales and $86,000 decrease in cost of goods sold for
a $90,000 decrease in the gross profit.
6. In 1999, the Company issued 1,524,523 shares of common stock for services
rendered. The shares were valued at $34,500. However, the market value of
the common stock on the date of issuance was $49,905. The effect on the
financial statements was a $15,405 increase in common stock and a
corresponding increase in selling, general and administrative expense.
7. In 1999, the Company granted an option to purchase 7,150,000 shares of its
common stock to consultants. The options were valued at $39,000. However,
the estimated market value of the options was $430,426. The effect on the
financial statements was a $391,426 increase in common stock and a
corresponding increase in selling, general and administrative expense.
8. In 1999, the Company granted an option to purchase 4,000,000 shares of its
common stock to employees. The Company has elected to account for employee
stock options under APB 25 and recorded an intrinsic expense of $15,000 for
these options since the option price was below the market price of the
Company's common stock on the date of grant. However, the actual expense
had been calculated to be $160,000. The effect on the financial statements
is a $145,000 increase in common stock and a corresponding increase in
selling, general and administrative expense.
9. As of March 31, 1999, the Company had $48,180 of deferred costs, which was
incurred due to the issuance of stock options to consultants. Since the
consultants were 100% vested in the options, the Company has determined
that the associated cost of the options to have no future value to the
Company. The effect on the financial statements was a $48,180 decrease in
total assets and a corresponding increase in selling, general and
administrative expense.
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<PAGE>
Results of Operations
---------------------
The Company's net loss for the year ended March 31, 2000 was approximately
$3,937,000 as compared to a net loss of approximately $2,714,000 for the same
period last year. The primary reason for the net loss was the Company's
operating loss of approximately $3,576,000.
The Company's operating loss for the year ended March 31, 2000 was $3,576,000 as
compared to an operating loss of approximately $2,448,000 for last year. The
increase in the Company's operating loss of approximately $1,128,000 arose
primarily from reduced gross profit of approximately $959,000, and increased
non-cash expenses in connection with the issuance of equity instruments as
compensation and other fees of approximately $450,000, offset by a reduction in
other operating expenses of approximately $281,000.
The Company's sales for the years ended March 31, 2000 and 1999, were $3,828,261
and $4,373,303 respectively. The Company's sales significantly decreased by
approximately $545,000 from the prior year with decreased video and toy product
sales of approximately $351,000 and $194,000, respectively. The lower video
product sales for the year ended March 31, 2000, were primarily the result of
the Company suspending most of its acquisition of new video titles until January
of 2000, which the Company received favorable responses substantiating market
acceptance for certain video titles in DVD, and the cancellation of a
significant holiday order from a major chain store during October 1999. The lack
of new video titles and the cancellation of the major holiday order forced the
Company to sell its existing inventory at much reduced prices to generate cash
for its operation, which also contributed the lower sales dollar volume during
the fiscal year ended March 31, 2000. The lower toy product sales when compared
to the prior year were primarily attributed to lower volume purchases from the
Company's major toy customer and sales of slower moving toy products at sales
prices below previous year's market prices. Sales of the Company's products are
generally seasonal resulting in increased sales starting in the third quarter of
the fiscal year. The Company expects the sales to increase in fiscal year ending
March 31, 2001. The Company's sales for the quarter ended March 31, 2000, were
approximately $633,000 as compared to the prior two quarters which averaged
approximately $1,248,000 a quarter. This decrease in the last quarter was
primarily attributable to the lack of new video titles mentioned above and the
sale of video and toy product inventories at reduced selling prices.
Cost of sales for the years ended March 31, 2000 and 1999 were approximately
$3,348,000 and $2,934,000 or 88% and 67% of sales, respectively. The significant
increase in cost of sales as a percentage of sales of 21% was primarily the
result of lower sales prices charged to customers for video and toy products and
the reduction of certain video and slow moving toy inventory down to its net
realizable value. During fiscal year 2000, the Company generated custom
duplication sales of approximately $618,000 having cost of sales 89% of sales
which also contributed the increase in cost of sales as a percentage of sales.
Gross profit for the years ended March 31, 2000 and 1999 were approximately
$480,000 and $1,439,000, or 12% and 33% of sales, respectively. The significant
decrease in the gross profit as a percentage of sales was primarily due to the
Company reducing its selling prices on video and toy products, lower margin
custom duplication sales and the write-down of certain video and toy inventory.
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Operating expenses for the years ended March 31, 2000 and 1999 were
approximately $4,056,000 and $3,887,000, respectively. This increase in
operating expenses of approximately $169,000 was primarily the result of
increases in non-cash expenses in connection with the issuance of equity
instruments as compensation and other fees of approximately $450,000, and offset
by lower selling and general administrative expenses of approximately $215,000
and $66,000, respectively. The lower general and administrative expenses of
approximately $66,000 was primarily the result of higher expense levels in
facility rent of approximately $147,000, offset by a decrease in bad debt of
approximately $213,000. The lower level of selling expenses of approximately
$215,000 was primarily attributable to lower expenses in marketing and sales
salaries and sales commissions of approximately $123,000 and $80,000,
respectively.
Bad debt expense for the years ended March 31, 2000 and 1999 were approximately
$99,000 and $312,000, respectively.
Interest expense for the years ended March 31, 2000 and 1999 were $418,524 and
$463,905, respectively. The decrease in interest expense in fiscal 2000 over
fiscal 1999 of approximately $45,000 was primarily the result of lower levels of
accounts receivable and asset based borrowings. As of March 31, 2000, the
outstanding debt of the Company was approximately $3,940,000 of which
approximately $282,000 is classified as long term.
The Company's auditors issued a going concern report for the year ended March
31, 2000. There can be no assurance that management's plans to reduce operating
losses will continue or the Company's efforts to obtain additional financing
will be successful. Management's plans are discussed under "Liquidity and
Capital Resources - Operations."
Liquidity and Capital Resources
-------------------------------
The Company's working capital deficit at March 31, 2000 was $3,531,291 as
compared with working capital deficit of $2,244,472 at March 31, 1999.
This increase in the working capital deficit of approximately $1,287,000 is
primarily the result of the Company's lower levels of accounts receivable and
inventory. As a result of lower sales recorded during the fourth quarter of
fiscal 2000, when compared to sales in the same quarter a year earlier, accounts
receivable were lower by approximately $140,000. Inventory at March 31, 2000 was
approximately $1,100,000 as compared with approximately $2,200,000 at March
31,1999. This decrease in inventory of approximately $1,100,000 was the result
of the Company efforts to sell off its slower moving video and toy inventories,
together with lower inventory requirements and a write down of certain video and
toy inventory.
24
<PAGE>
Operations
----------
For the year ended March 31, 2000, cash utilized for operations was
approximately $438,000 as compared to $2,887,000 for the year ended March 31,
1999. Net cash provided by financing activities during the year ended March 31,
2000 and 1999 were approximately $523,000 and $2,474,000 respectively.
In June of 1998, the Company borrowed approximately $2,700,000 in short term
loans from two companies and the borrowings were used primarily to reduce the
Company's accounts payable balance. On October 1, 1999, the balance of these
loans totaled approximately $1,880,725 and during the quarter ended December 31,
1999, the Board of Directors of the Company authorized the conversion of these
short term loans into one year 7% Convertible Promissory Notes of $1,071,225 and
$809,500 each, both due on September 30, 2000. The Company intends to utilize
future debt or equity financing or debt to equity conversions to help satisfy
past due obligations and to pay down its debt obligations.
The Company has also been experiencing difficulties in paying its vendors on a
timely basis. These factors create uncertainty whether the Company can continue
as a going concern.
In fiscal year 2000 the Company continued to operate at a loss and its working
capital was substantially reduced. As a result, the Company has formulated a new
plan which has as its primary goals 1) generating an operating profit in fiscal
2001, with the turn around complete in the second quarter and 2) positioning the
Company as a going concern which can generate positive cash flow starting the
fourth quarter and allowing the Company to operate as a significant company in
the distribution of home video cassettes, DVD's and general merchandise
business. In order to achieve these objectives, the Company proposes to
undertake operating changes in fiscal 2001. These include:
o The Company is seeking to obtain additional debt or equity financing. In
the event that the Company secures such financing, the first $500,000 to
$600,000 will be used to expand the Company's product line and increase
sales. Any amounts over this will be used to pay down notes payable related
party. There is not an agreement nor assurance to secure any such
financing.
o Extended the maturity date for a $100,000 convertible debenture and
$150,000 of notes payable related party, convertible debenture, in order to
reduce the Company's cash requirements.
o Convert approximately $1,051,000 of convertible debentures and
approximately $810,000 of related party notes payable convertible
debentures in order to reduce the Company's cash requirements.
o Convert approximately 50% of the Company's video products to DVD format in
order to keep current with existing demand and technology. The new products
are estimated to increase overall sales by approximately 18%, which will
add to the overall gross profit margin by approximately 13%.
o Reduce operating expense to the lowest level possible, as the Company has
relocated its office and warehouse facilities in order to reduce annual
rent expense by approximately $250,000.
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<PAGE>
o Evaluate the lowest level of employee requirements to operate the Company
effectively, as the Company has reduced its payroll and payroll related
expenses by approximately $350,000.
The Company believes it has adequate cash resources to sustain its operations
through the second quarter of fiscal 2001. In the third quarter of fiscal 2001
the Company will require additional financing. However, a back-up plan is being
formulated in case this planned financing is not in place when required. The
Company will have an alternative cash flow plan to react to this situation. The
principal objective of the Company is to implement the above items in fiscal
2001, which will lead to a profitable operation if the items are successfully
implemented, and subject to market and other conditions. Although the Company
believes that the outlook is favorable, there can be no assurance that market
conditions will continue in a direction favorable to the Company.
In August of 1999, the Company entered into an agreement with American Champion
Media, Inc., for the exclusive rights to distribute a workout video titled
"Strong Mind, Fit Body," starring Joe Montana in all formats of video and DVD.
The initial term of the agreement is two years. Royalty payments can range
between $2.50 to $3.75 depending on the length of the program and quantities
sold. The Company completed development of this product in July 2000.
In December of 1999, the Company entered into an agreement with Romagosa
International Merchandising, S.L., for a full length animated feature titled
"Don Quixote," for the exclusive rights to distribute video and DVD units in the
United States and Canada and their possessions. The Company paid advance
royalties of $7,500 for the year ended March 31, 2000 and $7,500 in June of
2000.
Beginning in October 1998, the Company entered into a four-year lease expiring
in June 2002, for use as executive offices and manufacturing and warehouse
facilities for approximately $21,800 monthly. During March 2000, the Company's
lessor brought action against the Company to recover delinquent rental payment
and penalties arising from the termination of this lease. The action against the
Company resulted in a stipulated judgement whereby the Company agreed to pay
$72,000.00 at 10% interest by paying $6,600.00 per month for twelve consecutive
months beginning April 1, 2000 through March 1, 2001. There is a penalty clause
for a failure to pay in a timely manner which increases the total amount to
$119,000 with immediate acceleration in the event of a default under the
stipulated judgement. The required payments through June, 2000 all have been
made in a timely manner and there have been no defaults. The Company leased a
sales office space in Freehold, New Jersey for approximately $2,400 per month.
This lease was to expire on October 31, 2001, however, the Company in March of
2000 successfully negotiated the termination of this lease by forfeiting the
lease rental deposits of $4,800. Rent expense for this facility was
approximately $20,000 for the year ended March 31, 2000. It also leased for
$9,274 per month office and warehousing space which would expire March 2001.
Rent expense for this facility was approximately $111,283 for the year ended
March 31, 2000. The Company has entered into a sublease for this space with a
subtenant beginning January 1, 1999 which requires the subtenant to pay
approximately $9,494 per month from March 1, 1999 through February 2000, and
$9,936 per month from March 1, 2000 through March 31, 2001.
26
<PAGE>
Investing
---------
For the years ended March 31, 2000 and 1999, investments in masters and artwork
were $64,419 and $72,073, respectively. Management continues to seek to acquire
new titles to enhance its product lines.
American Top Real Estate, Inc. ["ATRE"] was formed in March 1989 for the
purposes of acquiring, owning and holding real property for commercial
development. ATRE does not engage in any other business operations. The Company
paid $50,000 for a 50% interest in ATRE. The Company's arrangement with its
partners in ATRE requires that all parties contribute capital or loans pro rata
according to their interests whenever required by ATRE for land acquisition,
principal or interest payments, property taxes or other expenses.
Upon sale or development of land, proceeds are used to repay all related loans
and other obligations, with the remaining balance distributed among the
shareholders of ATRE pro rata based on their interests. None of the other
investors in ATRE are otherwise associated or affiliated with the Company, nor
are any of ATRE's co-investors in its real estate holdings associated or
affiliated with the Company. ATRE has interests in two real estate parcels.
Parcel 1 consists of approximately 20 undeveloped acres purchased in two
transactions, in 1989 and 1997. ATRE has a 70% interest in Parcel 1, located in
Clark County, Washington. The total cost of Parcel 1, including financing
expenses and taxes, was approximately $2,300,000 through 1997.
Parcel 2 consists of 5.5 acres of undeveloped property, also in Clark County,
Washington. ATRE's interest in Parcel 2 is 25%. Parcel 2 was purchased in 1989
for $717,000. Approximately 2.5 acres of Parcel 2 were sold in 1996. The Company
received net proceeds of $121,600 from ATRE during fiscal 1997 relating to
Parcel 2 sales. Approximately 3 acres remain unsold as of the date of this
report.
During the year ended March 31, 1998, ATRE sold approximately 11 acres. The
Company advanced an additional $80,320 to ATRE and received $220,600 from the
proceeds of the parcel of 10 acres as repayment of the advances to ATRE in
fiscal 1998. The Company also received approximately $600,000 from ATRE during
the period April 1, 1998 through March 31, 1999.
At November 28, 1998, ATRE had no binding sales contracts for the remaining
parcels of real estate owned by ATRE as these parcels of land continue to be
developed for commercial use. Contracts that were pending have not closed due to
possible changes in interest rates or possible overall market conditions. In
addition, the Company was advised by ATRE that proceeds realized by ATRE during
fiscal 1998 were reinvested into other parcels to improve the ability to sell
the remaining parcels. In December of 1998, the Company received from a real
estate development specialist an aggregate approximate valuation of $5,200,000
27
<PAGE>
for the remaining ATRE parcels. Although the Company believes that final sales
contracts will be able to be consummated, at this time it is not possible to
predict with any certainty when the closing of such sales contracts of
commercial real estate may occur or whether the proceeds expected by the Company
for their share in this real estate could be significantly less than
anticipated. Therefore, the ultimate realizable value of the receivable for
advances from ATRE could be substantially less than the preadjusted carrying
value of $1,600,000. The Company setup a valuation allowance in the quarter
ended March 31, 1998, of $1,117,788 and accordingly, charged operations for that
amount so that the amount due from ATRE at March 31, 1998 was presented at the
amount of the 1998 subsequent receipts of approximately $500,000. Based upon the
above circumstances the likelihood is that $1,117,788 from future proceeds from
the sale of the ATRE parcels will not be realized by the Company with any
certainty. At March 31, 1999, no monies were due from ATRE.
The Company in June 1998 borrowed approximately $809,500 from ATRE to finance
certain purchases of toy products. During the quarter ended December 31, 1999,
the Board of Directors of the Company authorized the conversion of the amount
borrowed of $809,500 into a one year 7% Convertible Promissory Note due on
September 30, 2000. During the year ended March 31, 2000, the Company borrowed
$600,500 from ATRE and paid back $81,000. The Company owed ATRE approximately
$478,900 in short term notes at March 31, 2000.
On June 2, 1999, ATRE entered into a sale agreement with respect to 0.097 acres
of the remaining acres of parcel 1 for approximately $600,000 and in September
1999, entered into a sales agreement for remaining 0.091 acres parcel of parcel
1 for approximately $550,000. During June 2000, the sales agreement for $600,000
entered into on June 2, 1999 was canceled by the buyer who forfeited the $25,000
purchase deposit to ATRE. The ability of the remaining agreement to close or for
the Company to realize as of March 31, 2000, its share of the net proceeds to
the Company, however, are uncertain and is subject to certain contingencies.
Financing
---------
On May 8, 1995, the Company closed a sales agreement with a Mexican Company, for
$750,000 by allowing credit to the Company for duplication services and received
$750,000 of duplication services in exchange for equipment having a book value
of approximately $630,000. The Company classified the outstanding obligation of
$288,701 at March 31, 1998 as notes payable. This note was repaid in weekly
installments of $12,500 with the final payment made in September of 1998.
Interest expense of approximately $4,127 was recorded for the year ended March
31, 1999.
28
<PAGE>
On August 30, 1996, the Company established a line of credit up to $2,500,000,
whereby, $2,000,000 was backed by pledged receivables and inventory and $500,000
was guaranteed by the Company's President. Interest was at a prime rate plus 3%.
Interest expense from April 1, 1997 through December 31, 1997 was approximately
$148,500. In December 1997, the Company repaid $469,221 on this line of credit
and engaged another financial institution for a $2,500,000 financing
arrangement. This arrangement is also backed by pledged receivables and
inventory. Cost is 1.5% discounted from pledged invoices for every 30 days for
the accounts receivable portion of the line of credit. The portion of the line
of credit backed by inventory is determined by the lesser of $800,000, 25% of
the clients finished toy inventory or 55% of the clients finished videotape
inventory. Interest is charged at 16.18% per annum on this portion of the debt.
This was formalized with the Company in June of 1998. Interest expense from
December 1997 through March 31, 1998 was approximately $27,500. Interest for the
years ended March 31, 2000 and 1999 were approximately $419,000 and $464,000,
respectively.
During the quarter ended June 30, 1996, the Company issued convertible
debentures of $1,257,988 with 10% interest per annum and a 7% commission. The
principal amount was convertible in whole or in part into shares of the common
stock of the Company at a conversion price equal to 65% of the average closing
bid price for the common stock for five trading days immediately prior to the
conversion. In no event could the conversion price be less than $.20 per share
or more than $.75 per share. In conjunction with the debentures, the Company
granted 1,000,000 warrants exercisable at $.25 per share to two consultants.
Warrants for 46,000 shares were exercised for $11,500 during the year ended
March 31, 1997.
As of March 31, 1997, the 10% Debentures of $290,000 were converted into
1,450,000 shares of the Company's common stock by several off shore companies
under Regulation S and $967,988 of convertible promissory notes payable were
outstanding and in default by the Company. Interest expense of $97,000 and
$24,702 was recorded for the years ended March 31, 1998 and 1997. Subsequent to
September 30, 1997, the Company negotiated a one year extension agreement and
agreed to add 15% to the note as a deferred financing cost of $110,721.
In October 1997, the Company borrowed $360,000 from an unaffiliated entity with
interest at 10% per year. At March 31, 1998, $185,208 was outstanding on this
obligation. This note was repaid in September of 1998 by weekly payments of
$7,500. Interest expense for the years ended March 31, 1999 and 1998 was $4,712
and $12,708, respectively.
During fiscal March of 1998, the 10% Debentures of $229,848 were converted into
6,037,668 shares of the Company's common stock. In June of 1998, a convertible
debenture holder converted a note payable with a balance of $91,750 into
2,823,077 shares of the Company's common stock. This brought total conversions
of $611,598 of debentures into 10,310,745 shares as of November 2, 1998.
29
<PAGE>
On March 11, 1998, the Company issued 347,368 shares of common stock to a
salesman in lieu of commissions owed of $66,000. On February 25, 1999, the
Company issued 25,000 shares of common stock to a salesman's beneficiary in lieu
of commissions owed of $4,500.
In the June 1998 quarter, the Company's subsidiary received a total of
$2,721,860 from related parties to be utilized by the Company to pay a major
supplier of the Company for toy purchases. Subsequently, the related parties
were successful in receiving credits of $743,935 from the toy supplier. These
credits were applied by the related parties to the monies owed by the Company
for the purchases of toys. The Company repaid the related parties $50,000 which
left an outstanding obligation of $1,927,925 as of March 31, 1999.
The Company negotiated and intended in July of 1999 to convert this outstanding
related party payables into shares of the Company's common stock. On August 5,
1999, the option to convert was canceled.
In July of 1998, the Company raised $80,000 from the exercise of warrants for a
total 1,800,000 shares of the Company's common stock.
On November 2, 1998, the 10% Debentures with a balance of $831,436 were
reinvested into a new note for $921,851 for a new two year term expiring October
31, 2000 with interest of 10% and an extension bonus of $175,000, due November
1999 which bears interest at 2.5% per annum payable $50,000 per month after
payment of all prior interest and the restructured note. The repayment term was
a weekly amount of $6,250 in 1998 and $12,500 in the years 1999 and 2000. In
addition there was an acceleration clause of repayments for certain events and a
5% late charge for any delinquent payments. The notes contain an option to
convert the principal and interest balance into common stock of the Company
subject to certain pricing calculations. Collateral security included all assets
of the Company and personal collection guarantee as additional security to the
holder after subordination to the primary lender.
In February of 1999, the Company converted $640,000 of the 10% Debentures into
8,000,000 shares of common stock. On February 10, 1999, the Company converted
the remaining note balance of $172,661 and unpaid interest of $90,415 into
3,018,254 shares of common stock. It was also agreed that the $175,000 extension
bonus, which was recorded as a deferred financing cost in February of 1999,
could be converted into shares of common stock at an agreed exercise price
subject to market conditions. The Company amortized $20,000 and $155,000 of the
extension bonus as a financing expense for the year ended March 31, 1999 and
March 31, 2000, respectively. During the year ended March 31, 2000, $175,000
extension bonus and accrued interest of $13,125 was converted into 3,500,000
shares of the Company's common stock.
30
<PAGE>
In March and June 1999, the Company issued into callable convertible notes for
$50,000 and $100,000 with James Lu and Jeffrey I. Schillen, respectively. The
debentures bear interest at 10% per year with principal and interest due on the
first anniversary of the date of issuance. Each note has been extended for an
additional year. The notes also call for any amount of the outstanding principal
to be converted into restricted shares of the Company's common stock at the
option of the lenders at a conversion rate of $0.05 per share. As of March 31,
2000, neither of the debentures had been converted.
In March of 1999, the Company received a total of $150,000 from three investors
and issued promissory notes due in one year with principal and interest paid
bimonthly at an interest rate of 10%. The notes could be used as proceeds for
the exercised options held by the investors. During the year ended March 31,
2000, the note holders used the $150,000 and accrued interest of $2,500 as funds
to exercise their common stock options for a total aggregate of 3,000,000 shares
of the Company's common stock.
In March and April of 1999, the Company issued two convertible notes for
$100,000 and $50,000, respectively. The notes bear interest at 10% with
principal and interest due on the first anniversary of the date of issuance. The
notes also call for any amount of the outstanding principal to be converted into
restricted shares of the Company's common stock at the option of the lender at a
conversion rate of $0.05 per share. As of March 2000, one investor converted the
$50,000 note into 1,000,000 shares of the Company's common stock. As of March
31, 2000, the outstanding balance of convertible notes was $100,000, which the
lender extended the due date to March 2001. On June 2, 1999, the Company was
advised by the convertible note holder of the $100,000 note to waive receipt of
bimonthly principal payments and to continue to receive the bimonthly interest
only payments.
On April 12, 1999, the Company engaged three consultants for a period of one
year each to provide managerial and strategic planning for financial matters and
expansion of the Company. The consultants received options to purchase and
aggregate of 6,000,000 shares of the Company's common stock exercisable at $0.05
per share in exchange for services to be rendered and the options shall expire
on April 11, 2000. The options had an aggregate fair value at date of grant of
approximately $291,000. These options were exercised in April 1999, by the
forgiveness of $150,000 of notes payable, executed in March 1999 and cash
proceeds of $150,000.
On May 25, 1999, the Company's board of directors approved and the Company
issued to the Company's President, as a bonus, options to purchase 2,500,000 and
1,000,000 shares of the Company's common stock at $0.05 and $0.10 per share,
respectively. The options expire on May 24, 2004. The options had an aggregate
fair market value at date of grant of approximately $681,000.
31
<PAGE>
On May 25, 1999, the Company's board of directors approved and the Company
issued to the Company's V.P. of Sales and Marketing, as a bonus, options to
purchase 500,000 and 500,000 shares of the Company's common stock at $0.05 and
$0.10 per share, respectively. The options expire on May 24, 2004. The options
had an aggregate fair market value at date of grant of approximately $194,000.
In July 1999, the Company engaged a consultant for a period of one year to
provide managerial and strategic planning for financial matters and expansion of
the Company. The consultant received an option to purchase 1,000,000 shares of
the Company's common stock exercisable at $0.10 per share in exchange for
services to be rendered and option shall expire on July 8, 2001. The option had
an aggregate fair value at date of grant of approximately 40,000.
On July 13, 1999, the Company engaged a consultant for a period of one year to
provide advice to undertake for and consult with Company concerning managerial
and strategic planning for financial matters and expansion of the Company. The
consultant received an option to purchase 1,000,000 shares of the Company's
common stock exercisable at $0.10 per share in exchange for services to be
rendered and the option shall expire on July 12, 2002. The option had an
aggregate fair value at date of grant of approximately $127,000. These options
had not been exercised as of March 31, 2000.
On August 2, 1999, the Company engaged two consultants for a period of one year
to provide advice to undertake for and consult with the Company concerning
management, marketing, consulting, strategic planning, corporate organization
and structure, financial matters in connection with the operation of the
businesses of the Company, expansion of services, acquisitions and business
opportunities. The consultants received options to purchase a total of 1,965,000
of the Company's common stock exercisable at $.05 per share in exchange for
services to be rendered and the options shall expire on August 2, 2000. The
options had an aggregate fair value at date of grant of approximately $202,000.
The options were exercised during the year ended March 31, 2000 by the
forgiveness of $36,250 of principal and interest of debt outstanding for 725,000
shares and $50,000 cash and the forgiveness of $12,000 of accounts payable for
1,240,000 shares.
During the quarter ended December 31, 1999, Board of Directors of the Company
authorized the conversion of approximately $1,880,725 in related parties
payables into one year 7% Convertible Promissory Notes of $1,071,225 and
$809,500 each, both due on September 30, 2000. The terms of the new convertible
notes, allow the Company to make partial principal and interest payments from
time to time and the holders of the convertible notes have the option to request
such payments of the indebtedness evidenced by the notes in either in the lawful
money of the United States or in an equivalent value consisting of the Company's
common stock, the number of shares, to determined by dividing the payment amount
by the average twenty day bid price for the Company's common stock during the
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<PAGE>
twenty trading days prior to the date of such payment date. Also, during the
quarter ended December 31, 1999, the related party to which $1,071,225 in
related parties payable was owed by the Company, transacted a change in
ownership its common stock in which 100% of its outstanding shares of common
stock was sold to a non-related and at March 31, 2000, the balance of the
Convertible Promissory note to the non-related party was $1,050,775 as a result
of the Company recording payments toward the note in March 1999, by offsetting
$20,450 in money owed to the Company by the non-related party.
On May 11, 2000, the Company entered into a Securities Purchase Agreement
("Securities Purchase Agreement") with eight investors. Pursuant to the
Securities Purchase Agreement, the Company issued and sold 50 shares of Series A
Convertible Preferred Stock ("Series A Preferred Stock") for total consideration
of $500,000, or $10,000 per share. The May Davis Group, Inc. ("May Davis"),
acted as placement agent for the offering. May Davis received a placement fee of
$40,000 and the Company issued warrants to purchase 1,500,000 shares of Common
Stock to May Davis and certain designees of May Davis and warrants to purchase
25,000 shares of Common Stock to Butler Gonzalez, LLP, counsel to May Davis.
Such warrants are exercisable at a price of $.08 per share.
Commencing August 9, 2000, the Series A Preferred Stock is convertible into
shares of the Company's Common Stock and automatically converts into Common
Stock on April 12, 2002. The conversion price of our Series A Preferred Stock is
the lower of $.08 per share or 80% of the average of the closing bid prices of
the Company's Common Stock on any five trading days in the ten trading day
period preceding the date of conversion. The conversion price of the Series A
Preferred Stock is also adjusted in the event of stock dividends, stock splits,
recapitalizations, reorganizations, consolidations, mergers or sales of assets.
The Series A Preferred stock also provides for a dividend upon conversion of the
Series A Preferred Stock at the rate of 6% per annum payable in additional
shares of the Company's Common Stock. In no event can the Series A Preferred
Stock be converted into more than 11,575,000 shares of Common Stock. Additional
features of the Series A Preferred Stock include, among other things, a
redemption feature at the option of the Company commencing September 8, 2000, of
shares of Series A Preferred Stock having a stated value of up to $100,000, a
mandatory redemption feature upon the occurrence of certain events such as a
merger, reorganization, restructuring, consolidation or similar event, and a
liquidation preference over the Common Stock in the event of a liquidation,
winding up or dissolution of the Company. The Series A Preferred Stock does not
provide any voting rights, except as may be required by law.
Under Registration Rights Agreements the Company entered into with the
purchasers of the Series A Preferred Stock, the Company is required to file a
registration statement to register the Common Stock issuable upon conversion of
the Series A Preferred Stock under the Securities Act to provide for the resale
of such Common Stock. The Company is required to keep such registration
statement effective until all of such shares have been resold.
33
<PAGE>
Year Ended March 31, 1999 Compared with the Year Ended March 31, 1998
---------------------------------------------------------------------
Results of Operations
---------------------
The Company's net loss for the year ended March 31, 1999 was approximately
$2,700,000 as compared to a net loss of approximately $1,869,000 for the same
period last year. The primary reason for the net loss was the Company's
operating loss of approximately $2,600,000.
The Company's operating loss for the year ended March 31, 1999 was approximately
$2,600,000 as compared to an operating loss of approximately $557,000 for last
year. The Company's operating loss arose primarily from lower sales of
approximately $4,400,000 and reduced gross profit of approximately $1,600,000,
offset by a reduction in operating expenses of approximately $400,000.
The Company's sales for the years ended March 31, 1999 and 1998, were $4,373,303
and $8,724,149, respectively. The Company's sales decreased by approximately
$4,400,000 from the period year with decreased video and toy product sales of
approximately $2,200,000 each. The lower video product sales for the year ended
March 31, 1999, were primarily the result of lower purchases by three of the
Company's major retailers. One of the Company's major video retailers was sold,
the second retailer experienced financial difficulties and the third opted to
purchase videos from the Company's competitors. The lower toy product sales when
compared to the same period a year earlier was attributed to higher sales
realized from the initial roll out of the Company's new toy line during the
previous year's holiday season. Sales of the Company's products are generally
seasonal resulting in increased sales starting in the third quarter of the
fiscal year. The Company expects the sales to increase in fiscal year ending
March 31, 2000. The Company's sales for the quarter ended March 31, 1999 was
approximately $800,000 as compared to the prior two quarters which averaged
approximately $1,500,000 a quarter. This decrease in the last quarter was
attributable to the selling of certain toy inventory at a reduced selling price
as a result of marketing difficulties.
Cost of sales for the years ended March 31, 1999 and 1998 were approximately
$2,900,000 and $5,700,000 or 66% and 65% of sales, respectively. The increase in
cost of sales as a percent to sales was primarily the result of reducing certain
toy inventory down to its net realizable values.
Gross profit for the years ended March 31, 1999 and 1998 were approximately
$1,400,000 and $3,000,000, or 34% and 35% of sales, respectively. The decreased
percentage for gross profit as a percent to sales was primarily due to the
write-down of certain toy inventory.
Operating expenses for the years ended March 31, 1999 and 1998 were
approximately $4,000,000 and $3,600,000, respectively. This increase in
operating expenses of approximately $400,000 was primarily the result of the
increase in non-cash expenses in connection with the issuance of equity
instruments as compensation and other fees of approximately $500,000 offset by a
net decrease in toher operating expenses of approximately $100,000.
34
<PAGE>
Bad debt expense for the years ended March 31, 1999 and 1998 were $307,013 and
$152,440, respectively.
Interest expense for the years ended March 31, 1999 and 1998 were $344,614 and
$420,583, respectively. The increase in interest expense in fiscal 1999 over
fiscal 1998 of approximately $76,000 was the result of higher levels of
borrowing. As of March 31, 1999, the outstanding debt of the Company was
approximately $1,960,000, primarily all of which is classified as current.
Interest income for the years ended March 31, 1999 and 1998 were $1,000 and
$129,000, respectively. The lower accounts receivable from ATRE at March 31,
1998, and the subsequent cash payments from ATRE, resulted in lower accrued
interest income for the year ended March 31, 1999 when compared to the same
period a year earlier.
The Company's auditors issued a going concern report for the year ended March
31, 1999. There can be no assurance that management's plans to reduce operating
losses will continue or the Company's efforts to obtain additional financing
will be successful.
New Authoritative Pronouncements
--------------------------------
In June 1998, the Financial Accounting Standards Board ["FASB"] issued SFAS No.
133, "Accounting for Derivative Instruments and Hedging Activities." SFAS No.
133 establishes accounting and reporting standards for derivative instruments,
including certain derivative instruments embedded in other contracts and for
hedging activities. SFAS No. 133 requires that an entity recognize all
derivatives as either assets or liabilities in the statement of financial
position and measure those instruments at fair value. The accounting for changes
in the fair value of a derivative depends on the intended use of the derivative
and how it is designated, for example, gain or losses related to changes in the
fair value of a derivative not designated as a hedging instrument is recognized
in earnings in the period of the change, while certain types of hedges may be
initially reported as a component of other comprehensive income [outside
earnings] until the consummation of the underlying transaction.
SFAS No. 133 is effective for all fiscal quarters of fiscal years beginning
after June 15, 1999. Initial application of SFAS No. 133 should be as of the
beginning of a fiscal quarter; on that date, hedging relationships must be
designated anew and documented pursuant to the provisions of SFAS No. 133.
Earlier application of all of the provisions of SFAS No. 133 is encouraged, but
it is permitted only as of the beginning of any fiscal quarter. SFAS No. 133 is
not to be applied retroactively to financial statements of prior periods. The
Company does not currently have any derivative instruments and is not currently
engaged in any hedging activities.
35
<PAGE>
In April 1998, the American Institute of Certified Public Accountants issued
Statement of Position ["SOP"] 98-5, "Reporting on the Costs of Start-Up
Activities." SOP 98-5 provides guidance on the financial reporting of start-up
costs and organization costs, and requires that such costs to be expensed as
incurred. SOP 98-5 applies to all nongovernmental entities and is generally
effective for fiscal years beginning after December 15, 1998. Earlier
application is encouraged in fiscal years for which annual financial statements
previously have not been issued. The adoption of SOP 98-5 is not expected to
have a material impact on results of operations, financial position, or cash
flows of the Company as the Company's current policy is substantially in
accordance with SOP 98-5.
FASB has had on its agenda a project to address certain practice issues
regarding Accounting Principles Board ["APB"] Opinion No. 25, "Accounting for
Stock Issued to Employees." The FASB plans on issuing various interpretations of
APB Opinion No. 25 to address these practice issues. The proposed effective date
of these interpretations would be the issuance date of the final Interpretation,
which is expected to be in September 1999. If adopted, the Interpretation would
be applied prospectively but would be applied to plan modification and grants
that occur after December 15, 1998. The FASB's tentative interpretations are as
follows:
* APB Opinion No. 25 has been applied in practice to include in its definition
of employees, outside members of the board or directors and independent
contractors. The FASB's interpretation of APB Opinion No. 25 will limit the
definition of an employee to individuals who meet the common law definition of
an employee [which also is the basis for the distinction between employees and
nonemployees in the current U.S. tax code]. Outside members of the board of
directors and independent contractors would be excluded from the scope of APB
Opinion No. 25 unless they qualify as employees under common law. Accordingly,
the cost of issuing stock options to board members and independent contractors
not meeting the common law definition of an employee will have to be determined
in accordance with FASB Statement No. 123, "Accounting for Stock-Based
Compensation," and usually recorded as an expense in the period of the grant
[the service period could be prospective, however, see EITF 96-18].
* Options [or other equity instruments] of a parent company issued to employees
of a subsidiary should be considered options, etc. issued by the employer
corporation in the consolidated financial statements, and, accordingly, APB
Opinion No. 25 should continue to be applied in such situations. This
interpretation would apply to subsidiary companies only; it would not apply to
equity method investees or joint ventures.
* If the terms of an option [originally accounted for as a fixed option] are
modified during the option term to directly change the exercise price, the
modified option should be accounted for as a variable option. Variable grant
accounting should be applied to the modified option from the date of the
modification until the date of exercise. Consequently, the final measurement of
compensation expense would occur at the date of exercise. The cancellation of an
option and the issuance of a new option with a lower exercise price shortly
thereafter [for example, within six months] to the same individual should be
considered in substance a modified [variable] option.
36
<PAGE>
* Additional interpretations will address how to measure compensation expense
when a new measurement date is required.
Year 2000 Issue
---------------
During the year ended March 31, 2000, the Company conducted an assessment of
issues related to the Year 2000 and determined that it was necessary to modify
or replace portions of its software in order to ensure that its computer systems
will properly utilize dates beyond December 31, 1999. The Company completed Year
2000 systems modifications and conversions during the year ended March 31, 2000.
Costs associated with becoming Year 2000 were not material. At this time, the
Company cannot determine the impact that Year 2000 issue will have on its key
customers or suppliers. If the Company's customers or suppliers don't convert
their systems to become Year 200 compliant, the Company may be adversely
impacted. The Company is addressing these risks in order to reduce the impact on
the Company. As of the date of this report, the Company did not experience any
disruption to operations or any other problems relating to the Year 2000 issue.
Impact of Inflation
-------------------
The Company does not believe that inflation had an impact on sales or income
during the past several years. Increases in supplies or other operating costs
could adversely affect the Company's operations; however, the Company believes
it could increase prices to offset increases in costs of goods sold or other
operating costs.
ITEM 7. FINANCIAL STATEMENTS.
See Index to Consolidated Financial Statements on page F-1.
37
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
I N D E X
PAGE
INDEPENDENT AUDITORS' REPORT F-2
CONSOLIDATED BALANCE SHEET (RESTATED) F-3 - F-4
CONSOLIDATED STATEMENTS OF OPERATIONS (RESTATED) F-5
CONSOLIDATED STATEMENT OF STOCKHOLDERS'
DEFICIENCY (RESTATED) F-6
CONSOLIDATED STATEMENTS OF CASH FLOWS (RESTATED) F-7 - F-10
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS F-11 - F-36
<PAGE>
INDEPENDENT AUDITORS' REPORT
TO THE STOCKHOLDERS' AND BOARD OF DIRECTORS OF
DIAMOND ENTERTAINMENT CORPORATION
We have audited the accompanying consolidated balance sheet of Diamond
Entertainment Corporation and Subsidiaries as of March 31, 2000 and the related
consolidated statements of operation, stockholders' deficiency and cash flows
for the two-year period ended March 31, 2000. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of Diamond
Entertainment Corporation and Subsidiaries as of March 31, 2000, and the
consolidated results of their operations and their cash flows for the two year
period ended March 31, 2000, in conformity with generally accepted accounting
principles.
The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern. As discussed in Note 1 to the
consolidated financial statements, the Company's has incurred recurring losses
and a negative cash flow from operations, as well as a working capital deficit
which raises substantial doubt about its ability to continue as a going concern.
Management's plans concerning these matters are also discussed in Note 1. These
consolidated financial statements do not include any adjustments that might
result from the outcome of this uncertainty.
MERDINGER, FRUCHTER, ROSEN & CORSO, P.C.
Certified Public Accountants
Los Angeles, California
July 13, 2000
F-2
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET (Restated)
MARCH 31, 2000
ASSETS
CURRENT ASSETS
Accounts receivable, net of allowance for
doubtful accounts of $137,750 $ 421,196
Inventories 1,094,878
Prepaid expenses and other current assets 116,456
-----------
Total current assets 1,632,530
PROPERTY AND EQUIPMENT, net 266,570
FILM MASTERS AND ARTWORK, less
accumulated amortization of $3,813,596 114,424
OTHER ASSETS
Investment in equity subsidiary 50,000
Other assets 60,982
-----------
TOTAL ASSETS $ 2,124,506
===========
The accompanying notes are an integral part of these consolidated financial
statements.
F-3
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET (Restated) (Continued)
MARCH 31, 2000
LIABILITIES AND STOCKHOLDERS' DEFICIENCY
CURRENT LIABILITIES
Bank overdraft $ 19,428
Accounts payable and accrued expenses 1,486,142
Financing agreement payable 909,131
Notes payable - current portion 125,762
Related parties - notes and advances payable
-current portion 1,543,841
Convertible debentures - current portion 1,050,775
Capital lease obligations - current portion 28,742
-----------
Total current liabilities 5,163,821
LONG-TERM LIABILITIES
Notes payable, less current portion 63,872
Related parties - notes and advances payable,
less current portion 100,000
Convertible debentures, less current portion 100,000
Capital lease obligations, less current portion 17,912
-----------
TOTAL LIABILITIES 5,445,605
-----------
COMMITMENTS AND CONTINGENCIES (Note 12) -
STOCKHOLDERS' DEFICIENCY
Convertible preferred stock, no par value; 5,000,000
shares authorized; 483,251 issued (of which 172,923
are held in treasury) 376,593
Common stock, no par value; 100,000,000 shares
Authorized; 62,334,029 issued and outstanding 14,001,535
Accumulated deficit (17,650,424)
Treasury stock ( 48,803)
------------
TOTAL STOCKHOLDERS' DEFICIENCY ( 3,321,099)
------------
TOTAL LIABILITIES AND STOCKHOLDERS' DEFICIENCY $ 2,124,506
============
The accompanying notes are an integral part of these consolidated financial
statements.
F-4
<PAGE>
<TABLE>
<CAPTION>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS (Restated)
For the Year Ended
March 31,
---------------------------------
2000 1999
------------- -------------
(Restated) (Restated)
------------- -------------
<S> <C> <C>
SALES - net $ 3,828,261 $ 4,373,303
COST OF GOODS SOLD 3,348,102 2,934,057
------------- -------------
GROSS PROFIT 480,159 1,439,246
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES 4,055,809 3,887,479
------------- -------------
LOSS FROM OPERATIONS ( 3,575,650) ( 2,448,233)
------------- -------------
OTHER INCOME (EXPENSE)
Interest expense ( 418,524) ( 463,905)
Other income 14,316 50,674
Income (loss) from equity investment 42,500 ( 7,500)
Valuation adjustment for investment - 88,773
------------- -------------
Total other income (expense) ( 361,708) ( 331,958)
-------------- -------------
LOSS BEFORE INCOME TAXES ( 3,937,358) ( 2,780,191)
INCOME TAXES - -
------------- -------------
LOSS FROM CONTINUING OPERATIONS ( 3,937,358) ( 2,780,191)
EXTRAORDINARY INCOME - Forgiveness of debt,
net of tax effect of $0 - 65,968
------------- -------------
NET LOSS $( 3,937,358) $( 2,714,223)
============= ============
LOSS PER SHARE, basic and diluted
CONTINUING OPERATIONS $( 0.07) $( 0.08)
EXTRAORDINARY INCOME - -
------------- -------------
NET LOSS $( 0.07) $( 0.08)
============== =============
WEIGHTED AVERAGE COMMON SHARES
OUTSTANDING, basic and diluted 59,375,234 34,392,178
============= ============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-5
<PAGE>
<TABLE>
<CAPTION>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' DEFICIENCY (Restated)
FOR THE YEARS ENDED MARCH 31, 2000 AND 1999
Convertible Total
Preferred Stock Common Stock Accumulated Treasury Stockholders'
Shares Amount Shares Amount Deficit Stock Deficiency
------- -------- ---------- ----------- ------------- --------- ------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at March 31, 1998 483,251 $376,593 28,753,250 $ 9,207,416 $(10,634,843) $(48,803) $(1,099,637)
Adjust for interest on convertible
debentures - - - 364,000 ( 364,000) - -
------- -------- ---------- ----------- ------------- --------- ------------
Balance at March 31, 1998 (Restated) 483,251 376,593 28,753,250 9,571,416 (10,998,843) (48,803) (1,099,637)
Shares issued for:
Conversion of interest - - 3,445,011 303,946 - - 303,946
Conversion of principal - - 10,396,245 848,867 - - 848,867
Settlement agreement - - 1,499,523 47,985 - - 47,985
Services rendered - - 25,000 1,920 - - 1,920
Exercise of options and warrants - - 6,500,000 355,000 - - 355,000
Issuance of stock options for
services rendered - - - 430,426 - - 430,426
Issuance of stock options to
employees below market - - - 160,000 - - 160,000
Interest for convertible debentures - - - 216,200 - - 216,200
Net loss - - - - ( 2,714,223) - (2,714,223)
------- -------- ---------- ----------- ------------- --------- ------------
Balance at March 31, 1999 (Restated) 483,251 376,593 50,619,029 11,935,760 (13,713,066) (48,803) (1,449,516)
Exercise of common stock options:
Cash - - 4,000,000 200,000 - - 200,000
Settlement of debt and interest - - 7,225,000 376,875 - - 376,875
Settlement of accounts payable - - 490,000 24,500 - - 24,500
Options issued for consulting
services - - - 660,000 - - 660,000
Options issued for officers
compensation - - - 620,000 - - 620,000
Interest for convertible debentures - - - 184,400 - - 184,400
Net loss (Restated) - - - - ( 3,937,358) - (3,937,358)
------- -------- ---------- ----------- ------------- --------- ------------
Balance at March 31, 2000 (Restated) 483,251 $376,593 62,334,029 $14,001,535 $(17,650,424) $(48,803) $(3,321,099)
======= ======== ========== =========== ============ ========== =============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-6
<PAGE>
<TABLE>
<CAPTION>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (Restated)
For the Year Ended
March 31,
---------------------------------
2000 1999
------------- -------------
(Restated) (Restated)
------------- -------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $( 3,937,358) $( 2,714,223)
Adjustments to reconcile net loss to net cash
used in operating activities
Depreciation and amortization 279,038 337,905
Provision for doubtful accounts ( 51,205) 307,013
Inventory reserve 176,386 500,000
Issuance of note payable for settlement 72,000 -
Gain on extinguishment of debt - ( 65,970)
Issuance of equity instruments as
compensation and other fees 1,464,400 1,014,524
Valuation adjustment of investment - ( 88,733)
(Income) loss from equity investment ( 42,500) ( 7,500)
Changes in assets and liabilities
(Increase) decrease
Accounts receivable 189,240 315,264
Inventories 977,527 1,034,881
Prepaid expenses and other current assets ( 30,096) 36,455
Other assets 230,020 168,492
Increase (decrease)
Accounts payable and accrued expenses 244,141 ( 3,725,148)
Accrued interest 29,997 -
------------- -------------
NET CASH USED IN OPERATING ACTIVITIES ( 398,410) ( 2,887,040)
------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES
Repayments by ATRE - 588,733
Purchase of property and equipment ( 18,506) ( 109,560)
Purchase of film masters and artwork ( 66,420) ( 71,293)
------------- -------------
NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES ( 84,926) 407,880
------------- -------------
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-7
<PAGE>
<TABLE>
<CAPTION>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (Restated) (Continued)
For the Year Ended
March 31,
---------------------------------
2000 1999
------------- -------------
(Restated) (Restated)
------------- -------------
<S> <C> <C>
CASH FLOWS FROM FINANCING ACTIVITIES
Increase (decrease) in bank overdraft ( 85,475) 104,903
Net repayments of financing agreement ( 267,796) 132,716
Proceeds from notes payable 194,146 367,487
Payments of notes payable ( 350,270) ( 554,339)
Proceeds from notes payable (related party) 784,341 1,977,925
Payments of notes payable (related party) - -
Proceeds from convertible debentures 50,000 100,000
Payment of convertible debentures ( 16,370) -
Payments on capital leases ( 25,240) ( 10,062)
Proceeds from the exercise of options 200,000 355,000
------------- -------------
NET CASH PROVIDED BY FINANCING ACTIVITIES 483,336 2,473,630
------------- -------------
NET CHANGE IN CASH AND CASH EQUIVALENTS - ( 5,530)
CASH AND CASH EQUIVALENTS - BEGINNING OF YEAR - 5,530
------------- -------------
CASH AND CASH EQUIVALENTS - END OF YEAR $ - $ -
============= =============
SUPPLEMENTAL INFORMATION:
Interest paid $ 237,000 $ 300,000
============= =============
Income taxes paid $ - $ -
============= =============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-8
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (Restated) (Continued)
SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
For the year ended March 31, 1999, the Company issued the following equity and
security instruments:
Authorized to extend the exercise period for an additional two years for
4,000,000 options to purchase common shares issued in prior years to
employees. The Company cancelled the original options and issued new options
with the same terms including the two-year extension. Since the option price
was below the market price on the date of grant, the Company has recognized
compensation expense for the difference, which aggregates to $160,000.
Granted options to consultants to purchase 5,950,000 shares of the Company's
common stock. The Company has recognized consulting expense of $392,670.
Authorized the reduction in the exercise price to $0.05 per share for
1,200,000 options, issued in previous years to consultants, to purchase the
Company's common stock. The Company cancelled the original options and
issued new options with the same terms, except, at an exercise price of
$0.05. The Company has recognized consulting expense of $37,756.
Issued 1,499,523 and 25,000 shares of its common stock to pay for a legal
settlement and services rendered, respectively. The Company recorded an
expenditure associated with issuance at the current market price of the
Company's common stock for an aggregate of $49,905.
Issued 3,445,011 shares of its common stock for the payment of interest
expense. The Company recorded additional interest expense of $157,987 for
the difference between the fair market value of the shares issued and the
accrued interest at the time of the issuance.
Issued 10,396,245 shares of its common stock for the conversion of $848,867
of principal balance of convertible promissory notes.
Issued convertible promissory notes in the aggregate of $325,000 with a
conversion price below the market value on the date of issuance. The Company
has recognized additional interest expense of $216,200 for the difference
between the current market value and the conversion price. Also, of the
convertible promissory note totaling $175,000 was for an extension bonus on
the convertible debentures converted during the year. The Company has
amortized $155,000 and $20,000 as financing expense for the years ended
March 31, 2000 and 1999.
During the year ended March 31, 1999, the Company entered into capital lease
agreements for equipment totaling approximately $70,000.
The accompanying notes are an integral part of these consolidated financial
statements.
F-9
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (Restated) (Continued)
SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES
(Continued):
For the year ended March 31, 2000, the Company issued the following equity and
security instruments:
Granted options to consultants to purchase 14,465,000 shares of its common
stock, in connection with consulting agreements and officer compensation.
The Company has recognized consulting expense of $1,535,000.
Issued 7,225,000 and 490,000, respectively, shares of its common stock for
the conversion of $376,875 of principal balance and accrued interest and
$24,500 of accounts payable, respectively.
Converted $1,860,275 of accounts payable to related parties into two
separate convertible debentures for i) $1,050,775 issued to an unrelated
third party, and ii) $809,500 issued to a related party.
Issued a $72,000 promissory note in settlement for the 2000 termination of
an operating lease.
The accompanying notes are an integral part of these consolidated financial
statements.
F-10
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Nature of Business
------------------
The Company is in the business of distributing and selling
videocassettes, general merchandise, patented toys, furniture, and
Cine-Chrome gift cards, through normal distribution channels
throughout the United States and through a web site. At March 31, 2000
and 1999, the Company's management evaluated its operations by two
separate product lines to assess performance and the allocation of
resources. These product lines have been reflected as two reportable
segments, video products and general merchandise, described as
follows:
Video Programs and Other Licensed Products
The Company distributes and sells videocassette titles, including
certain public domain programs and certain licensed programs. The
Company markets its video programs to national and regional mass
merchandisers, department stores, drug stores, supermarkets and other
similar retail outlets. Also, in September of 1998, the Company
entered into a distribution agreement for a new product called
Cine-Chrome, utilizing classic images of licensed properties.
General Merchandise
The Company, through its wholly owned subsidiary, Jewel Products
International, Inc. ("JPI"), purchases and distributes toy products to
mass merchandisers in the U.S., which commenced in fiscal 1999. The
Company offers the toy products for limited sales periods and as
demand for products change, the Company switches to newer and more
popular products.
Principles of Consolidation
---------------------------
The accompanying consolidated financial statements include the
accounts of the Company and its wholly owned subsidiaries. All
intercompany transactions and balances have been eliminated in
consolidation.
Basis of Presentation
---------------------
As reflected in the accompanying consolidated financial statements,
the Company has had recurring losses from operations, negative cash
flow from operations, a negative working capital and is delinquent in
payment of certain accounts payable. These matters raise substantial
doubt about the Company's ability to continue as a going concern.
F-11
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Basis of Presentation (Continued)
---------------------
In view of the matters described in the preceding paragraph,
recoverability of a major portion of the recorded asset amounts shown
in the accompanying consolidated balance sheet is dependent upon
continued operations of the Company, which, in turn, is dependent upon
the Company's ability to continue to raise capital and generate
positive cash flows from operations. The consolidated financial
statements do not include any adjustments relating to the
recoverability and classification of recorded asset amounts or amounts
and classifications of liabilities that might be necessary should the
Company be unable to continue its existence.
Management plans to take, or has taken, the following steps that it
believes will be sufficient to provide the Company with the ability to
continue in existence:
o The Company is seeking to secure a line of credit. The Company
will require $500,000 to expand the Company's product line (DVD
products) and in turn increase sales; any funds received over
$500,000 will be used to pay down related parties-notes and
advances.
o Extended the maturity date for a $100,000 convertible debenture
and $150,000 of related parties - convertible debentures in order
to reduce the Company's cash requirements.
o Convert to common stock $1,051,000 of convertible debentures and
$810,000 of related parties - convertible debentures, in order to
reduce the Company's cash requirements.
o Convert approximately 50% of the Company's video products to DVD
format in order to keep current with existing demand and
technology. The new products are estimated to increase overall
sales by approximately 18%, which will add to the overall gross
profit margin approximately 13%.
o Reduce operating expenses to the lowest level possible, as the
Company has relocated its office and warehouse facilities in
order to reduce annual rent expense by approximately $250,000.
o Evaluate the lowest level of employee requirements to operate the
Company effectively, as the Company has reduced its annual
payroll and payroll related expenses by approximately $350,000.
F-12
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Use of Estimates
----------------
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the
date of the financial statements and the reported amounts of revenues
and expenses during the reporting period. Actual results could differ
from those estimates.
Fair Value of Financial Instruments
-----------------------------------
For certain of the Company's financial instruments, including accounts
receivable, bank overdraft and accounts payable and accrued expenses,
the carrying amounts approximate fair value, due to their relatively
short maturities. The amounts owed for long-term debt also approximate
fair value because current interest rates and terms offered to the
Company are at current market rates.
Cash and Cash Equivalents
-------------------------
Cash equivalents are comprised of certain highly liquid investments,
with maturities of three months or less when purchased. The Company
has no cash equivalents.
Concentrations of Credit Risk
-----------------------------
Financial instruments that potentially subject the Company to
concentrations of credit risk are cash and cash equivalents and
accounts receivable arising from Company's normal business activities.
The Company routinely assesses the financial strength of its customers
and, based upon factors surrounding the credit risk, establishes an
allowance for uncollectible accounts and, as a consequence, believes
that its accounts receivable credit risk exposure beyond such
allowance is limited. The Company places its cash with high quality
financial institutions and at times may exceed the FDIC $100,000
insurance limit. The Company had no deposits as of March 31, 2000,
with financial institutions subject to a credit risk beyond the
insured amount.
Inventories
-----------
Inventories are stated at the lower of FIFO (first-in, first-out) cost
or market, and consist of videocassettes, general merchandise,
patented toys, furniture, and Cine-Chrome gift cards.
F-13
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Property and Equipment
----------------------
Property and equipment are presented at historical cost less
accumulated depreciation. Depreciation is computed by the
straight-line method for all furniture, fixtures, and equipment over a
five-year period, which represents the estimated useful lives of the
respective assets. Leasehold improvements are being amortized over the
lesser of their estimated useful lives or the term of the lease.
Film Masters and Artwork
------------------------
The cost of film masters and related artwork is capitalized and
amortized using the straight-line method over a three-year period.
Film masters consist of original "masters", which are purchased for
the purpose of reproducing videocassettes that are sold to customers.
Impairment of Long-Lived Assets
-------------------------------
In accordance with Statement of Financial Accounting Standard ("SFAS")
No. 121, "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to Be Disposed Of", long-lived assets to be held and
used are analyzed for impairment whenever events or changes in
circumstances indicate that the related carrying amounts may not be
recoverable. The Company evaluates at each balance sheet date whether
events and circumstances have occurred that indicate possible
impairment. If there are indications of impairment, the Company uses
future undiscounted cash flows of the related asset or asset grouping
over the remaining life in measuring whether the assets are
recoverable. In the event such cash flows are not expected to be
sufficient to recover the recorded asset values, the assets are
written down to their estimated fair value. Long-lived assets to be
disposed of are reported at the lower of carrying amount or fair value
of asset less cost to sell.
Revenue Recognition
-------------------
The Company records sales when products are shipped to customers and
are shown net of estimated returns and allowances.
Advertising Costs
-----------------
Advertising costs are expensed as incurred. Advertising costs were
approximately $44,500 and $54,700 for the years ended March 31, 2000,
and 1999, respectively.
F-14
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Stock-Based Compensation
------------------------
The Company accounts for employee stock options in accordance with
Accounting Principles Board Opinion No. 25 ("APB 25"), "Accounting for
Stock Issued to Employees". Under APB 25, the Company does not
recognize compensation expense related to options issued under the
Company's employee stock option plans, unless the option is granted at
a price below market price on the date of grant.
In 1996, SFAS No. 123 "Accounting for Stock-Based Compensation",
became effective for the Company. SFAS No. 123, which prescribes the
recognition of compensation expense based on the fair value of options
on the grant date, allows companies to continue applying APB 25 if
certain pro forma disclosures are made assuming hypothetical fair
value method, for which the Company uses the Black-Scholes
option-pricing model.
For non-employee stock based compensation, the Company recognizes an
expense in accordance with SFAS No. 123 and values the equity
securities based on the fair value of the security on the date of
grant. For stock-based awards, the value is based on the market value
for the stock on the date of grant and if the stock has restrictions
as to transferability, a discount is provided for lack of tradability.
Stock option awards are valued using the Black-Scholes option-pricing
model.
Income Taxes
------------
Income taxes are provided for based on the liability method of
accounting pursuant to SFAS No. 109, "Accounting for Income Taxes".
The liability method requires the recognition of deferred tax assets
and liabilities for the expected future tax consequences of temporary
differences between the reported amount of assets and liabilities and
their tax basis.
Comprehensive Income
--------------------
SFAS No. 130, "Reporting Comprehensive Income" establishes standards
for the reporting of comprehensive income and its components in the
financial statements. As of March 31, 2000 and 1999, the Company has
no items that represent comprehensive income and, therefore, has not
included a schedule of comprehensive income in the accompanying
consolidated financial statements.
F-15
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Net Loss Per Share
------------------
The Company uses SFAS No. 128, "Earnings Per Share" for calculating
the basic and diluted loss per share. Basic loss per share is computed
by dividing net loss attributable to common stockholders by the
weighted average number of common shares outstanding. Diluted loss per
share is computed similar to basic loss per share except that the
denominator is increased to include the number of additional common
shares that would have been outstanding if the potential common shares
had been issued and if the additional common shares were dilutive. At
March 31, 2000 and 1999, the weighted average common shares
outstanding would have been increased 19,004,000 and 11,004,000 shares
if the issued and exercisable stock options would have been dilutive.
NOTE 2 - RESTATEMENT AND CORRECTION OF ERRORS
The March 31, 2000 consolidated financial statements were previously
presented in the Company's Form 10KSB filing, filed with the
Securities and Exchange Commission on August 21, 2000. The Company has
restated its March 31, 2000 consolidated financial statements to
expense $255,000 of capitalized deferred costs, which was incurred due
to the issuance of stock options to consultants. Since the consultants
were 100% vested in the options on the date of grant, the Company has
determined that the associated cost of the option has no future value
to the Company. The effect of the restatement is a $255,000 increase
in selling, general and administrative expense. Also, the March 31,
2000 consolidated financial statements have been effected to reflect
accumulative adjustments of $308,209 for 1999 restatements, which have
increased the Company's 1999 net loss.
The Company has restated its March 31, 1999 financial statements as a
result of the following:
1) In 1999, the Company issued convertible debentures for $175,000
and $100,000 to an unrelated third party and a $50,000
convertible debenture to the Company's president. Since the
debentures are convertible into restricted shares of the
Company's common stock at a rate below market price of the
Company's common stock on the date of issuance of the debentures,
the first 20% of the below market price was attributed to the
lack of tradability of the shares, due to restriction on sale and
the remainder of the below market price was attributed to
financing costs. The additional amount of financing cost was
calculated to be $105,000, $73,600 and $37,600, respectively. The
Company did not record the effect of this matter in its financial
statements. The effect on the financial statements was a $216,200
increase in common stock and a corresponding increase in selling,
general and administrative expense.
F-16
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 2 - RESTATEMENT AND CORRECTION OF ERRORS (Continued)
2) In 1999, the Company converted $145,959 of accrued interest into
3,445,011 shares of the Company's common stock at a conversion
rate below the market price of the Company's common stock. The
Company recorded additional interest expense of $157,987 for the
difference between the conversion price and the market price of
the Company's common stock. The effect on the financial
statements was a $157,987 increase in common stock and a
corresponding increase in selling, general and administrative
expense.
3) The Company's equity investment was recorded at a value of
$50,000 when the book value was approximately $7,500. The effect
on the financial statements was a $42,500 decrease in the
investment and a corresponding decrease in the valuation
adjustment for the investment.
4) The Company had $175,000 of deferred costs associated with a loan
fee, which was being amortized over the life of the loan. The
amortization expense for 1999 was understated by $16,468. The
effect on the financial statements was a $16,468 decrease in
total assets and a corresponding increase in selling, general and
administrative expense.
5) In 1999, the Company had approximately $176,000 of consignment
sales recorded as accounts receivable. The effect on the
financial statements was a $176,000 decrease in sales and $86,000
decrease in cost of goods sold for a $90,000 decrease in the
gross profit.
6) In 1999, the Company issued 1,524,523 shares of common stock for
services rendered. The shares were valued at $34,500. However,
the market value of the common stock on the date of issuance was
$49,905. The effect on the financial statements was a $15,405
increase in common stock and a corresponding increase in selling,
general and administrative expense.
7) In 1999, the Company granted an option to purchase 7,150,000
shares of its common stock to consultants. The options were
valued at $39,000. However, the estimated market value of the
options was $430,426. The effect on the financial statements was
a $391,426 increase in common stock and a corresponding increase
in selling, general and administrative expense.
F-17
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 2 - RESTATEMENT AND CORRECTION OF ERRORS (Continued)
8) In 1999, the Company granted an option to purchase 4,000,000
shares of its common stock to employees. The Company has elected
to account for employee stock options under APB 25 and recorded
an intrinsic expense of $15,000 for these options since the
option price was below the market price of the Company's common
stock on the date of grant. However, the actual expense had been
calculated to be $160,000. The effect on the financial statements
is a $145,000 increase in common stock and a corresponding
increase in selling, general and administrative expense.
9) As of March 31, 1999, the Company had $48,180 of deferred costs,
which was incurred due to the issuance of stock options to
consultants. Since the consultants were 100% vested in the
options, the Company has determined that the associated cost of
the options to have no future value to the Company. The effect on
the financial statements was a $48,180 decrease in total assets
and a corresponding increase in selling, general and
administrative expense.
NOTE 3 - ACCOUNTS RECEIVABLE
Accounts receivable at March 31, 2000 net of allowance for doubtful
accounts were approximately $420,000. Substantially all of the
accounts receivable at March 31, 2000 have been pledged as collateral
for the Company's financing agreement (see Note 8).
NOTE 4 - INVENTORIES
Inventories consisted of the following as of March 31, 2000:
Raw materials $ 525,209
Finished goods 1,246,055
-----------
1,771,264
Less: valuation allowance 676,386
-----------
Inventories, net $ 1,094,878
===========
Allowance
---------
An allowance has been established for the inventories of approximately
$676,000. This reserve is primarily for the anticipated reductions in
selling prices (which are lower than the carrying value) for inventory
which has been (a) restricted to specified distribution territories as
a result of legal settlements and (b) inventory, which has passed its
peak selling season.
F-18
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 5 - PROPERTY AND EQUIPMENT
Property and equipment consisted of the following as of March 31,
2000:
Furniture and equipment $ 1,079,941
Automobile 24,487
Leasehold improvements 40,174
--------------
1,144,602
Less: accumulated depreciation and amortization 878,032
--------------
Furniture and equipment, net $ 266,570
==============
Depreciation expense for the years ended March 31, 2000 and 1999 was
approximately $89,000 and $107,000, respectively.
NOTE 6 - RELATED PARTIES RECEIVABLES
The Company was owed approximately $69,000 from the President of the
Company for advances and loans. Simple interest was accrued monthly at
an annual rate of 10% on the outstanding balance. The loan was due in
December 2001. In 1999, the unpaid balance of approximately $69,000
was forgiven by the Company and treated as compensation costs on the
statement of operations in consideration for the President's personal
guarantees for two leases and promissory notes.
NOTE 7 - INVESTMENT IN AMERICAN TOP REAL ESTATE ("ATRE")
The Company paid $50,000 for 50% of the issued and outstanding common
stock of ATRE. Since the Company does not have greater than a 50%
investment, this investment is accounted for using the equity method.
The operations of ATRE are not considered to be significant to the
Company's operations; therefore the Company has not included a summary
of ATRE's assets and liabilities.
As of March 31, 1998, the Company's estimated net realizable value for
the investment was established to be $500,000. In 1999, the Company
received payments from ATRE of $588,733 and recorded equity income of
$7,500. Since, the net book value was $500,000, the Company recorded a
valuation adjustment of $88,733 and income from investment of $7,500
for the year ended March 31, 1999.
Also, March 31, 2000 and 1999 investment amounts of $50,000 and $7,500
approximate the Company's 50% interest in the net assets of ATRE.
F-19
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 8 - FINANCING AGREEMENT PAYABLE
The Company has a financing agreement for a maximum borrowing of up to
$2,500,000. Substantially all assets of the Company have been pledged
as collateral for the borrowings. The agreement calls for a factoring
of the Company's accounts receivable, and an asset-based note related
to the Company's inventories. The cost of funds for the accounts
receivable portion of the borrowings is a 1.5% discount from the
stated pledged amount of each invoice for every 30 days the invoice is
outstanding. The asset-based portion of the borrowings is determined
by the lesser of i) $800,000, ii) 25% of the clients finished toy
inventory or iii) 55% of the clients finished videotape inventory. The
cost of funds for the inventory portion of the borrowings is at 2.0%
per month on the highest outstanding balance each month. The agreement
stipulates an $8,000 per week payment against the asset-based note
payable, with final payment in November 2000. The Company paid
interest of $110,000 and $340,000 for the years ended March 31, 2000
and 1999, respectively. The financing agreement consisted of the
following as of March 31, 2000:
Factor payable $ 551,020
Note payable - inventory 358,111
----------
$ 909,131
==========
NOTE 9 - NOTES PAYABLE
The Company has a vehicle financing agreement with monthly payments of
$562 for principal and interest at 9.75% per annum, due in March 2001.
The balance as of March 31, 2000 was $12,214.
Note payable at 16% annual interest with twelve monthly installments
of principal of $2,292. This note is guaranteed by the President of
the Company and is subordinated to the financing agreement payable.
Since, the Company did not pay-off the note on the scheduled maturity
date, the lender has extended the maturity date and assessed an
additional interest charge of 20% per annum as a penalty on the unpaid
balance each month. At March 31, 2000, the balance of $27,500 is due
and payable May 2001.
In March 2000, the Company entered into a legal settlement with its
prior landlords for unpaid rent. The Company agreed to a note payable
for $72,000 at 10% interest payable in twelve monthly installments of
principal and interest of $6,600. At March 31, 2000, the balance of
$72,000 is due and payable March 2001.
As of March 31, 2000, the Company had various payables aggregating
$77,920, due on demand.
F-20
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 9 - NOTES PAYABLE (Continued)
Scheduled annual maturities of these obligations at March 31, 2000 are
as follows:
Year
----
2001 $125,762
2002 63,872
--------
$189,634
========
NOTE 10 - RELATED PARTIES - NOTES AND ADVANCES PAYABLE
Convertible Debentures - Related Parties
----------------------------------------
In March and June 1999, the Company entered into two convertible
debentures for $50,000 and $100,000, respectively. The debentures bear
interest at 10% per year with principal and interest due on the first
anniversary of the date of issuance. Each note has been extended for
an additional year. The notes also call for any amount of the
outstanding principal to be converted into restricted shares of the
Company's common stock at the option of the lender's at a conversion
rate of $0.05 per share. As of March 31, 2000, neither of the
debentures were converted. Since the debentures are convertible into
restricted shares of the Company's common stock at a rate below
market, the first 20% of the below market amount was attributed to the
lack of tradability of the shares due to restriction on sale and the
remainder was attributed to additional interest. The additional amount
of financing costs for the years ended March 31, 2000 and 1999 were
calculated to be $184,400 and $37,600, respectively, of which each
amount was expensed.
Also, at March 31, 1999, the Company had $809,500 due to a related
party for payment of trade payables. In October 1999, the outstanding
balance was converted into a convertible debenture at 7% per annum due
and payable on or before September 30, 2000. At the option of the
lender all or part of the balance can be paid with shares of the
Company's common stock. The number of shares is determined by dividing
the principal being converted by the average twenty-day bid price,
prior to the date of such payment request, for the Company's common
stock. As of March 31, 2000, the outstanding balance was $809,500.
F-21
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 10 - RELATED PARTIES - NOTES AND ADVANCES PAYABLE (Continued)
Note Payable - Related Parties
------------------------------
As of March 31, 2000, the Company has a $90,000 note payable, due to
an officer, at 10% due on demand.
Advances Payable - Related Parties
----------------------------------
At March 31, 2000, the Company has the following liabilities, which
are non-interest bearing and due on demand: $478,900 due to ATRE and
$115,441 due to an officer.
NOTE 11 - CONVERTIBLE DEBENTURES
In February and March 1999, the Company entered into convertible
debentures for $175,000 and $100,000, respectively. The debentures
bear interest at 10% with principal and interest due on the first
anniversary of the date of issuance. The notes also call for any
amount of the outstanding principal to be converted into restricted
shares of the Company's common stock at the option of the lender at a
conversion rate of $0.05 per share. As of March 2000, one investor
converted the $175,000 note into 3,500,000 shares of the Company's
common stock. As of March 31, 2000, the outstanding balance of
convertible debentures was $100,000, for which the lender extended the
due date to March 2001. Since the debentures are convertible into
restricted shares of the Company's common stock at a rate below
market, the first 20% of the below market amount was attributed to the
lack of tradability of the shares due to restriction on sale and the
remainder was attributed to additional interest. The additional amount
of financing expense for the year ended March 31, 1999 was calculated
at $178,600.
At March 31, 1999, the Company had $1,118,425 due to a related party
for payment of trade payables. In October 1999, the Company ceased to
have a relationship with the party, so the outstanding balance of
$1,050,775 was converted into a convertible debenture. The debenture
bears interest at 10% with principal and interest due on the first
anniversary of the date of issuance. At the option of the holder, all
or part of the balance can be paid with shares of the Company's common
stock. The number of shares is determined by dividing the principal
being converted by the average twenty-day bid price, prior to the date
of such payment request, for the Company's common stock. As of March
31, 2000, the outstanding balance was $1,050,775.
F-22
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 12 - COMMITMENTS AND CONTIGENCIES
Royalty Commitments
-------------------
The Company has entered into various royalty agreements for licensing
of titles with terms of one to seven years. Certain agreements include
minimum guaranteed payments. For the years ended March 31, 2000 and
1999, royalty expense was $103,841 and $73,356, respectively, pursuant
to these agreements.
Video Agreements
----------------
The Company has entered into various agreements to manufacture,
duplicate and distribute videos. Commissions are paid based upon the
number of videos sold.
Employment Agreements
---------------------
In 1991, two employment agreements were executed for two officers for
annual compensation totaling $240,000. These agreements terminate in
the year 2001 and are adjusted annually in accordance with the
Consumer Price Index. The Board of Directors agreed on April 23, 1996
to reserve 1,000,000 shares of common stock for distribution to two
officers of the Company. The officers at current market prices in
installment payments with a five-year promissory note with interest
can purchase the common stock at 6% per annum. As of March 31, 2000,
the officers did not purchase these shares.
Lease Commitments
-----------------
The Company leases office and storage facilities under operating
leases, which expire in 2003. Also, the Company leases equipment under
capital leases, which expire through 2002.
The Company's future minimum annual aggregate rental payments for
capital and operating leases that have initial or remaining term in
excess of one year are as follows:
Capital Operating
Leases Leases
---------- ----------
Year Ending March 31,:
2001 $ 34,960 $ 135,000
2002 20,179 131,000
2003 - 105,000
--------- ----------
Total minimum lease payments 55,139 $ 371,000
=========
Less: amount representing interest 8,485
---------
Present value of minimum lease payments 46,654
Less: current portion 28,742
----------
Long-term portion $ 17,912
=========
F-23
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 12 - COMMITMENTS AND CONTIGENCIES (Continued)
Rent expense for the years ended March 31, 2000 and 1999 was
approximately $154,000 and $302,000, respectively.
The following is a summary of property held under the capital leases
as of March 31, 2000:
Furniture and equipment $ 87,081
Less: accumulated depreciation 28,000
----------
Total $ 59,081
=========
Litigation
----------
The Company has in the past been named as defendant and co-defendant
in various legal actions filed against the Company in the normal
course of business. All past litigation has been resolved without
material adverse impact on the Company.
NOTE 13 - EQUITY
Authorized Shares
-----------------
The Board of directors has authorized a total number of shares in the
amount of 105,000,000 of which 5,000,000 has been dedicated to
preferred stock and 100,000,000 shares for common stock
Convertible Preferred Stock
---------------------------
The preferred stock has i) voting rights upon all matters upon which
common stockholders have at a 1.95 vote for each share of preferred
stock, ii) conversion rights at 1.95 shares of common stock for each
share of preferred, iii) no rights of redemption and iv) no dividend
preferences, but entitled to a preference of $0.01 per share in the
event of liquidation.
During the year ended March 31, 1999, the Company had the following
significant equity transactions:
o Issued 10,396,245 for the conversion $848,867 of debt principal
for convertible debentures.
o Issued 3,445,011 shares for the conversion of $145,945 of accrued
interest at $0.42 per share. Since the conversion price was below
the market value for the Company's common stock on date of
conversion, the Company has recorded $158,001 of additional
interest expense in 1999 for the difference between market and
the conversion price.
F-24
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 13 - EQUITY (Continued)
o The Company recorded $216,000 of additional financing costs
related to convertible debentures, convertible into the Company's
common stock at a rate below market, the first 20% of the below
market amount was attributed to the lack of tradability of the
shares, due to restriction on sale and the remainder was
attributed to additional financing. The additional amount of
financing expense for the year ended March 31, 1999 was
calculated to be $216,200.
o Issued 1,499,523 shares to the Company's president pursuant to
replace shares he forfeited in a personal legal settlement. The
shares were valued at $47,985, the market value for the Company's
common stock at the date of issuance.
o Issued 6,500,000 shares for the exercise of stock options for
$355,000.
During the year ended March 31, 2000, the Company had the following
significant issuances of its common stock:
o 7,225,000 shares for the exercise of options with the option
price settled by the holders' conversions of $376,875 of notes
payable and accrued interest.
o 4,000,000 shares for the exercise of options for cash proceeds of
$200,000
o The Company recorded $184,400 of additional financing costs
related to convertible debentures, convertible into the Company's
common stock at a rate below market, the first 20% of the below
market amount was attributed to the lack of tradability of the
shares due to restriction on sale and the remainder was
attributed to additional financing. The additional amount of
financing expense for the year ended March 31, 2000 was
calculated to be $184,400.
F-25
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 14 - COMMON STOCK OPTIONS
For the fiscal year ended March 31, 1999, the Company had the
following common stock option transactions:
The per unit weighted-average fair value of unit options granted for
the year ended March 31, 1999 was $0.06 at the date of grant using the
Black-Scholes option pricing model with the following weighted-average
assumptions: weighted-average risk-free interest rates of 4.6%;
dividend yields of 0%; weighted-average volatility factors of the
expected market price of the Company's common stock of 178%; and
expected lives of the options ranging from .05 to 1 years. The Company
issued the following stock options:
o Authorized to extend the exercise period for an additional two
years for 4,000,000 stock options issued to employees. The
Company cancelled the original options and issued new options
with the same terms including the two-year extension. The Company
has elected to account for these options under APB 25 and record
an expense for the intrinsic value of the options. Since the
option price was below the market price on the date of grant, the
Company has recognized compensation expense for the difference
between the market and exercise price, which aggregates to
$160,000.
o Authorized to reduce the exercise price for two consultants, who
each had 600,000 options, from $0.10 per share to $0.05 per
share. The Company valued the options and recorded consulting
expense of $37,756. The consultants exercised these options in
February 1999 for cash proceeds of $60,000.
o Granted an option to an employee to purchase 2,000,000 shares for
a period of five years at $0.10 per share. The Company has
elected to account for these options under APB 25 and record an
expense for the intrinsic value of the options. Since the option
price was equal to the market price on the date of grant, the
Company has not recognized any compensation expense.
o The Company engaged three consultants for a period of one year to
provide advice to undertake for and consult with the Company
concerning management, marketing, consulting, strategic planning,
corporate organization and structure, financial matters in
connection with the operation of the businesses of the Company,
expansion of services, acquisitions and business opportunities.
The consultants received options to purchase a total of 4,700,000
of the Company's common stock exercisable at $.05 per share in
exchange for services to be rendered and the options shall expire
on December 31, 2000. The Company valued the options at and
recorded consulting expense of $336,685. These options were
exercised in February of 1999 for proceeds to the Company of
$275,000.
F-26
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 14 -COMMON STOCK OPTIONS (Continued)
o The Company engaged a consultant for a period of one year to
provide advice to undertake for and consult with the Company
concerning management, marketing, consulting, strategic planning,
corporate organization and structure, financial matters in
connection with the operation of the businesses of the Company,
expansion of services, acquisitions and business opportunities.
The consultant received an option to purchase a total of
1,000,000 shares of the Company's common stock, exercisable at
$.10 per share in exchange for services to be rendered and the
options shall expire in July 2001. The Company valued the options
at and recorded consulting expense of $31,463.
o The Company engaged a consulting firm to provide internet media
consulting and public relations services for a period of one
year. The fee for the services to be rendered included a monthly
cash fee of $3,000. The consulting firm also received options to
purchase a total of 250,000 shares of the Company's common stock
with an exercise price of $0.05 per share in exchange for
services to be rendered and the options shall expire on February
11, 2001. The Company valued the options at and recorded
consulting expense of $24,522. These options were not exercised
as of March 31, 1999.
For the fiscal year ended March 31, 2000, the Company had the
following common stock option transactions:
The per unit weighted-average fair value of unit options granted for
the year ended March 31, 2000 was $0.11 at the date of grant using the
Black-Scholes option pricing model with the following weighted-average
assumptions: weighted-average risk-free interest rates of 5.5%;
dividend yields of 0%; weighted-average volatility factors of the
expected market price of the Company's common stock of 178%; and
expected lives of the options ranging from 1 to 3 years. The Company
issued the following stock options:
o The Company engaged a consultant for a period of one year to
provide managerial and strategical planning for financial matters
and expansion of the Company. The consultant received an option
to purchase 1,000,000 shares of the Company's common stock
exercisable at $0.10 per share in exchange for services to be
rendered and the option shall expire on July 8, 2001. The option
had an aggregate fair value at date of grant of approximately
$40,000.
F-27
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 14 - COMMON STOCK OPTIONS (Continued)
o The Company engaged three consultants for a period of one year
each to provide managerial and strategical planning for financial
matters and expansion of the Company. The consultants received
options to purchase an aggregate of 6,000,000 shares of the
Company's common stock exercisable at $0.05 per share in exchange
for services to be rendered and the options shall expire on April
11, 2000. The options had an aggregate fair value at date of
grant of approximately $291,000. These options were exercised in
April 1999, by the forgiveness of $150,000 of notes payable,
executed in March 1999, and cash proceeds of $150,000.
o The Company's board of directors approved and the Company issued
to the Company's President, as a bonus, options to purchase
2,500,000 and 1,000,000 shares of the Company's common stock at
$0.05 and $0.10 per share, respectively. The options expire on
May 24, 2004. Since the options are accounted for under APB 25
and the exercise price is below market, the Company has expensed
the aggregate intrinsic value at date of grant of approximately
$486,400.
o The Company's board of directors approved and the Company issued
to the Company's V.P. of Sales and Marketing, as a bonus, options
to purchase 500,000 and 500,000 shares of the Company's common
stock at $0.05 and $0.10 per share, respectively. The options
expire on May 24, 2004. Since the options are accounted for under
APB 25 and the exercise price is below market, the Company has
expensed the aggregate intrinsic value at date of grant of
approximately $133,600.
o The Company engaged a consultant for a period of one year to
provide advice to, and consult with, the Company concerning
managerial and strategical planning for financial matters and
expansion of the Company. The consultant received an option to
purchase 1,000,000 shares of the Company's common stock,
exercisable at $0.10 per share in exchange for services to be
rendered and the option shall expire on July 12, 2002. The option
had an aggregate fair value at date of grant of approximately
$127,000.
F-28
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 14 - COMMON STOCK OPTIONS (Continued)
o The Company engaged two consultants for a period of one year each
to provide advice to, and consult with, the Company concerning
managerial and strategical planning for financial matters and
expansion of the Company. The consultants received options to
purchase in the aggregate 1,965,000 shares of the Company's
common stock exercisable at $0.05 per share in exchange for
services to be rendered and the options shall expire on August 1,
2000. The options had an aggregate fair value at date of grant of
approximately $202,000. The options were exercised during the
year ended March 31, 2000 by the forgiveness of $36,250 of
principal and interest of debt outstanding for 725,000 shares and
$50,000 cash and the forgiveness of $12,000 of accounts payable
for 1,240,000 shares.
The following summarizes the common stock options issued for
consulting services for the years ended March 31, 2000 and 1999:
Weighted
Average
Exercise
Employees Consultants Price
---------- ----------- ---------
Options outstanding, March 31, 1998 5,000,000 4,004,000 $ 0.14
Granted 6,000,000 7,150,000 $ 0.08
Exercised - (6,500,000) $ 0.05
Expired/cancelled (4,000,000) (1,200,000) $ 0.05
---------- ----------
Options outstanding, March 31, 1999 7,000,000 3,454,000 $ 0.10
Granted 4,500,000 9,965,000 $ 0.06
Exercised - (8,215,000) $ 0.05
Expired/cancelled - (1,000,000) $ 0.25
---------- -----------
Options outstanding, March 31, 2000 11,500,000 4,204,000 $ 0.10
========== ===========
Options exercisable, March 31, 2000 11,500,000 4,204,000 $ 0.10
========== ===========
The Company applies SFAS No. 123, and related interpretations, for
stock options issued to officers and consultants in accounting for its
stock options. Compensation expense has been recognized for the
Company's stock-based compensation for consulting services in the
amount of $1,280,000 and $590,426 for the years ended March 31, 2000
and 1999, respectively. The exercise price for all stock options
issued to these individuals during fiscal years 2000 and 1999 were
below the market price of the Company's stock at the date of grant.
F-29
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 14 - COMMON STOCK OPTIONS (Continued)
STOCK OPTION PLAN
On October 12, 1988, the Company's directors and stockholders approved
the Company's 1988 Stock Option Plan (the "Option Plan") authorizing
the granting of incentive options and non-qualified options. The
incentive options are intended to qualify under Section 422 of the
Internal Revenue Code of 1986, as amended. Pursuant to the Option
Plan, options to purchase up to 10,000 shares of common stock may be
granted to officers, directors and key employees of the Company. The
Stock Option Committee, consisting of Messrs. Lu and Schillen, is
responsible for determining the individuals who will be granted
options, the number of shares to be subject to each option, the option
price per share, and the exercise period of each option. The option
price will not be less than the fair market value of the Company's
common stock on the date the option is granted. Options may be
exercised by payment of cash. No option will have a term in excess of
ten years.
The following summarizes the Company's stock option transactions under
the stock option plan:
Weighted
Average
Stock Options Exercise
Outstanding Price
------------- --------
Options Outstanding, March 31, 1998 550,000 $ 0.10
Granted - -
----------- ----------
Options Outstanding, March 31, 1999 550,000 $ 0.10
Granted 300,000 $ 0.10
Expired ( 550,000) $ 0.10
---------- -------
Options, Exercisable and Outstanding,
March 31, 2000 300,000 $ 0.10
========== =======
The weighted average remaining contract lives of stock options
outstanding are 2.42 years.
F-30
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 14 - COMMON STOCK OPTIONS (Continued)
The Company has adopted only the disclosure provisions of SFAS No.
123. It applies APB 25 and related interpretations in accounting for
its plan and does not recognize compensation expense for its
stock-based compensation plan other than for stock and options issued
under compensatory plans and to outside third parties. If the Company
had elected to recognize compensation expense based upon the fair
value at the grant date for awards under the plan consistent with the
methodology prescribed by SFAS 123, the Company's net loss would be
increased by $279,504 and $306,760 for the years ended March 31, 2000
and 1999, respectively, to the pro forma amounts indicated below.
2000 1999
----------- -----------
Net Loss:
As Reported $(3,937,358) $(2,714,223)
=========== ===========
Pro forma $(4,216,862) $(3,020,983)
=========== ===========
The fair value for these options was estimated at the date of grant
using a Black-Scholes option pricing model with the following
weighted-average assumptions for years ended March 31, 2000 and 1999:
weighted- average risk-free interest rates of 5.7% and 6.0%; dividend
yields of 0% and 0%; weighted-average volatility factors of the
expected market price of the Company's common stock of 178% and 144%;
and a weighted average expected life of the option of 2.5 and 2.5
years.
NOTE 15 - MAJOR CUSTOMERS
For the year ended March 31, 1999, the Company had net sales to five
customers that amounted to approximately $2,466,000 or 54%.
For the year ended March 31, 2000, the Company had net sales to two
customers that accounted for approximately 17.1% and 10.8%,
respectively.
F-31
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 16 - INCOME TAXES
The components of the provision for income taxes are as follows:
For The Years Ended
March 31,
--------------------------------
2000 1999
------------- --------------
Current Tax Expense
U.S. federal $ - $ -
State and local - -
-------------- --------------
Total Current - -
-------------- --------------
Deferred Tax Expense
U.S. federal - -
State and local - -
-------------- --------------
Total deferred - -
--------------- --------------
Total tax provision from
continuing operations $ - $ -
============== =============
The reconciliation of the effective income tax rate to the Federal
statutory rate is as follows for the years ended March 31, 2000 and
1999:
Federal income tax rate ( 34.0)%
Effect of valuation allowance 34.0%
-----------
Effective income tax rate 0.0%
============
At March 31, 2000 and 1999, the Company had net carryforward losses of
approximately $11,045,000 and $8,387,000, respectively. Because of the
current uncertainty of realizing the benefit of the tax carryforwards,
a valuation allowance equal to the tax benefit for deferred taxes has
been established. The full realization of the tax benefit associated
with the carryforwards depends predominantly upon the Company's
ability to generate taxable income during the carryforward period. The
net change in the valuation allowance for the years ended March 31,
2000 and 1999, increased by approximately $491,000 and $653,000,
respectively.
F-32
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 16 - INCOME TAXES (Continued)
Deferred tax assets and liabilities reflect the net tax effect of
temporary differences between the carrying amount of assets and
liabilities for financial reporting purposes and amounts used for
income tax purposes. Significant components of the Company's deferred
tax assets and liabilities are as follows:
March 31,
-----------------------------
2000 1999
----------- -----------
Deferred Tax Assets
Loss carryforwards $ 3,755,000 $ 3,355,000
Less: valuation allowance 3,755,000 3,355,000
----------- -----------
Net Deferred Tax Assets $ - $ -
=========== ===========
Net operating loss carryforwards expire starting in 2007 through 2018.
Per year availability is subject to change of ownership limitations
under Internal Revenue Code Section 382.
NOTE 17 - SEGMENT INFORMATION
The following financial information is reported on the basis that is
used internally for evaluating segment performance and deciding how to
allocate resources. During 2000 and 1999, the Company operated in two
principal industries;
a) Video programs and other licensed products
b) General merchandise
Year Ended March 31,
---------------------------
2000 1999
----------- -----------
Revenues:
Video programs and other licensed products $ 3,605,343 $ 3,956,290
Merchandise 222,918 417,013
----------- -----------
$ 3,828,261 $ 4,373,303
=========== ===========
Loss before taxes:
Video programs and other licensed products $(3,414,811) $(2,046,250)
Merchandise ( 522,547) ( 667,973)
----------- -----------
$(3,937,358) $(2,714,233)
============ ===========
F-33
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 17 - SEGMENT INFORMATION (Continued)
Year Ended March 31,
-------------------------
2000 1999
---------- ----------
Depreciation and amortization:
Video programs and other licensed products $ 242,976 $ 301,843
Merchandise 36,062 36,062
----------- -----------
$ 279,038 $ 337,905
=========== ===========
Segment assets:
Video programs and other licensed products $ 1,813,567 $ 3,141,302
Merchandise 310,939 887,840
----------- -----------
$ 2,124,506 $ 4,029,142
=========== ===========
Expenditure for segment assets:
Video programs and other licensed products $ 84,926 $ 180,583
Merchandise - -
----------- -----------
$ 84,926 $ 180,583
=========== ===========
NOTE 18 - SUBSEQUENT EVENTS
Authorized Shares
-----------------
In July 2000, the Company amended its Articles of Incorporation to
increase the number of authorized common stock from 100,000,000 shares
to 600,000,000 shares.
Stock Option Plan
-----------------
On June 9, 2000, the Board of Directors of the Company approved the
Company's 2000 Stock Compensation Plan ("Plan") for the purpose of
providing the Company with a means of compensating selected key
employees (including officers), directors and consultants to the
Company and its subsidiaries, for their services rendered in
connection with the development of Diamond Entertainment Corporation
with shares of Common Stock of the Company. The Plan authorizes the
Board of Directors of the Company to sell or award up to 13,000,000
shares and/or options of the Company's Common Stock, no par value.
F-34
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 18 - SUBSEQUENT EVENTS (Continued)
Consulting Agreements
---------------------
On June 1, 2000, the Company entered into three consulting agreements
that will terminate on May 31, 2001, whereby the consultants will
provide consulting service for the Company, concerning management,
marketing, consulting, strategic planning, corporate organization and
financial matters in connection with the operation of the businesses
of the Company, expansion of services, acquisitions and business
opportunities. The consultants received options to purchase a total of
7,300,000 of the Company's common stock exercisable at $.035 per share
in exchange for services to be rendered and the options shall expire
on May 31, 2001.
The per unit weighted-average fair value of unit options granted on
June 1, 2000 was $0.029 at the date of grant using the Black-Scholes
option pricing model with the following weighted-average assumptions:
weighted-average risk-free interest rates of 5.86; dividend yields of
0%; weighted-average volatility factors of the expected market price
of the Company's common stock of 178%; and a weighted average expected
life of the option was 2 months. In June and July of 2000, the Company
received $215,500 in cash for the issuance of the 6,157,143 shares
upon the exercise of these options and the remaining options of
1,142,857 were exercised for consulting services incurred and owed by
the Company to one of the consultants totaling $30,000 and from the
cancellation of an obligation of $10,000 in principal and interest,
owed to the same consultant.
Series A Convertible Preferred Stock
------------------------------------
On May 11, 2000, the Company entered into a Securities Purchase
Agreement ("Securities Purchase Agreement") with eight investors.
Pursuant to the Securities Purchase Agreement, the Company issued and
sold 50 shares of Series A Convertible Preferred Stock ("Series A
Preferred Stock") for total consideration of $500,000, or $10,000 per
share. The May Davis Group, Inc. ("May Davis"), acted as placement
agent for the offering. May Davis received a placement fee of $40,000
and the Company issued warrants to purchase 1,500,000 shares of Common
Stock to May Davis and certain designees of May Davis and warrants to
purchase 25,000 shares of Common Stock to Butler Gonzalez, LLP,
counsel to May Davis. Such warrants are exercisable at a price of $.08
per share.
F-35
<PAGE>
DIAMOND ENTERTAINMENT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 2000 AND 1999
NOTE 18 - SUBSEQUENT EVENTS (Continued)
Series A Convertible Preferred Stock (Continued)
------------------------------------
Commencing August 9, 2000, the Series A Preferred Stock is
convertible, at the investor's option, into shares of the Company's
Common Stock and automatically converts into Common Stock on April 12,
2002. The conversion price of the Series A Preferred Stock is the
lower of $.08 per share or 80% of the average of the closing bid
prices of the Company's Common Stock on any five trading days in the
ten trading day period preceding the date of conversion. The
conversion price of the Series A Preferred Stock is also adjusted in
the event of stock dividends, stock splits, recapitalizations,
reorganizations, consolidations, mergers or sales of assets. The
Series A Preferred stock also provides for a dividend upon conversion
of the Series A Preferred Stock at the rate of 6% per annum payable in
additional shares of the Company's Common Stock. In no event can the
Series A Preferred Stock be converted into more than 11,575,000 shares
of Common Stock.
Additional features of the Series A Preferred Stock include, among
other things, i) a redemption feature at the option of the Company
commencing September 8, 2000, of shares of Series A Preferred Stock
having a stated value of up to $100,000, ii) a mandatory redemption
feature upon the occurrence of certain events such as a merger,
reorganization, restructuring, consolidation or similar event, and a
liquidation preference over the Common Stock in the event of a
liquidation, winding up or dissolution of the Company. The Series A
Preferred Stock does not provide any voting rights, except as may be
required by law.
Under Registration Rights Agreements the Company entered into with the
purchasers of the Series A Preferred Stock, the Company is required to
file a registration statement to register the Common Stock issuable
upon conversion of the Series A Preferred Stock under the Securities
Act to provide for the resale of such Common Stock. The Company is
required to keep such a registration statement effective until all of
such shares have been resold.
F-36
<PAGE>
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
On January 14, 2000, the Registrant's independent public accountants,
Moore Stephens, P.C. terminated its client-auditor relationship with the
Registrant. On January 18, 2000, the Registrant's Board of Director's approved
the engagement of Merdinger, Fruchter, Rosen & Corso, P.C. to serve as the
Company's independent public accountants and to be the principal accountants to
conduct the audit of the Company's financial statements for the fiscal year
ending March 31, 2000, replacing the firm of Moore Stephens, P.C. who had been
engaged to audit the Company's financial statements for the fiscal years ended
March 31, 1996, 1997, 1998, and 1999. The former accountant's opinion contained
a going concern disclaimer. Management of the Company knows of no past
disagreements with the former accountants on any matter of accounting principles
or practices, financial statement disclosure, or auditing scope.
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT.
The Company's directors and officers are as follows:
Name Age Title
---- --- -----
James K.T. Lu............. 53 Chairman of the Board, President, Chief
Executive Officer, Secretary and Director
Jeffrey I. Schillen....... 54 Executive Vice President, Sales and
Marketing and Director
Murray T. Scott........... 78 Director
Background of Executive Officers and Directors
Set forth below is a description of the backgrounds of the executive
officers and directors of the Company.
James K.T. Lu (Class 2 Director). Mr. Lu has been a director of the
Company since February 1989. Mr. Lu was elected as Chairman of the Board, Chief
Executive Officer and Secretary of the Company as of March 1, 1990. In July
1991, Mr. Lu was appointed to the additional position of President. In order to
involve other executives in the management of the Company, Mr. Lu resigned as
President and Chief Executive Officer in September 1991. Mr. Lu was President
and Chief Executive Officer of the California Subsidiary from 1985 to 1990. In
May 1995, Mr. Lu was re-appointed as President of the Company. Mr. Lu received
his B.S.I.E. degree from Chung Yuen University Taiwan in 1969, his M.S.I.E.
degree from the Illinois Institute of Technology in 1972 and a Master of
Business Administration (MBA) from California State University in 1981.
38
<PAGE>
Jeffrey I. Schillen (Class 1 Director). Mr. Schillen was appointed
Executive Vice President of Sales and Marketing of the Company in 1993 and has
been a Director of the Company since its inception in April 1986. From April
1986 to July 1991 Mr. Schillen was the President and Treasurer of the Company.
From May 1984 to April 1986, Mr. Schillen was President and Chief Operating
Officer of Music Corner Inc., a retail record, tape and video chain he
co-founded. From 1974 to April 1984, Mr. Schillen founded and served as Vice
President in charge of purchasing, store openings and acquisitions of Platter
Puss Records, Inc., a retail record, tape and video chain.
Murray T. Scott (Class 2 Director). Mr. Scott became a director in
November 1993. Mr. Scott was the President and Chief Executive Officer of
Gregg's Furniture, a custom furniture building business in Victoria, Canada,
from 1958 to 1995. Scott remains involved with Gregg's Furniture in a consulting
and advisory capacity.
All directors hold office for terms of three (3) years and until the
next annual meeting of stockholders scheduled to vote on such class of Directors
and the election and qualification of their respective successors. Directors
receive no compensation for serving on the Board, except for reimbursement of
reasonable expenses incurred in attending meetings. Officers are elected
annually by the Board of Directors and, subject to existing employment
agreements, serve at the discretion of the Board.
Under the certificate of incorporation of the Company ("Certificate of
Incorporation"), the Board of Directors of the Company is divided into three (3)
classes, with each class to be elected by the shareholders every three years.
The Company's Board presently consists of three (3) directors: one (1) Class 1
director whose term expires in 2003, two (2) Class 2 directors whose terms
expire in 2003, which directors were elected for such terms at the Company's
annual meeting of shareholders held April 27, 2000. No director of the Company
has resigned or declined to stand for re-election due to a disagreement on any
matter relating to the Company's operations, policies or practices.
Committees of the Board of Directors
The Company has no standing audit, nominating or compensation
committee, or any committee performing similar functions.
39
<PAGE>
Section 16(a) Beneficial Ownership Reporting Compliance
Section 16(a) of the Securities Exchange Act of 1934, as amended (the
"Exchange Act"), requires the Company's officers and directors, and persons who
own more than ten percent of a registered class of the Company's equity
securities, to file reports of ownership and changes in ownership of equity
securities of the Company with the Securities and Exchange Commission ("SEC").
Officers, directors, and greater than ten percent shareholders are required by
SEC regulation to furnish the Company with copies of all Section 16(a) forms
that they file.
Based solely upon a review of Forms 4 furnished to the Company pursuant
to Rule 16a-3 under the Exchange Act during its fiscal year ended March 31,
2000, such required reports were all filed on a timely basis.
40
<PAGE>
ITEM 10. EXECUTIVE COMPENSATION.
The following table sets forth aggregate compensation paid for services
rendered to the Company during the last three fiscal years by the Company to its
Chief Executive Officer ("CEO" and its one most highly compensated executive
officer other than the CEO who served as such at the end of the last fiscal
year.
<TABLE>
<CAPTION>
Summary Compensation Table
Annual Compensation Long Term Compensation
------------------------ ------------------------------------------
Awards Payouts
------------ -----------------------------
Securities All Other
Underlying LTIP Payouts Compensation
Name and Principal Position Year Salary ($) Bonus ($) Options (#) ($) ($)
-------------------------------- ---- ----------- ------------ ------------ -------------- --------------
<S> <C> <C> <C> <C> <C> <C>
James K.T. Lu (1) 2000 37,500 0 0 0 27,606
President, Chief Executive 1999 120,000 0 0 0 89,983
Officer and Secretary 1998 78,350 0 0 0 31,572
Jeffrey I. Schillen (2) 2000 50,000 0 0 0 15,618
Executive Vice President of 1999 100,000 0 0 0 13,036
Sales and Marketing 1998 51,500 0 0 0 20,792
</TABLE>
(1) Mr. Lu's annual salary is $150,000 during the fiscal year ended March 31,
2000 and he elected to defer until August 2000, a substantial portion of
his salary for this period. During March 2000, Mr. Lu waived all of his
deferred salary owed as of March 31, 1999 and as of the date of this
report, Mr. Lu continues to defer a substantial portion of his salary.
(2) Mr. Schillen's annual salary is $120,000 during the fiscal year ended March
31, 2000 and he elected to defer a substantial portion of his salary for
this period. During March 2000, Mr. Schillen waived all of his deferred
salary owed as of March 31, 1999, and as of the date of this report, Mr.
Schillen continues to defer until August 2000, a substantial portion of his
salary.
41
<PAGE>
Option/SAR Grants in Last Fiscal Year
-------------------------------------
The following table sets forth certain information with respect to the
options granted during the year ended March 31, 2000, for the persons named in
the Summary Compensation Table (the "Named Executive Officers"):
Number of Percent of Total
Securities Options/SARs
Underlying Granted to Exercise
Options/SARs Employees in or Base Expiration
Name Granted (#) Fiscal Year Price($/Sh) Date
---- ------------ ---------------- ----------- ----------
James K.T. Lu 2,500,000 56% 0.05 5/24/04
James K.T. Lu 1,000,000 22% 0.10 5/24/04
Jeffrey I. Schillen 500,000 11% 0.05 5/24/04
Jeffrey I. Schillen 500,000 11% 0.10 5/24/04
Aggregate Option/SAR Exercises in Last Fiscal Year and Fiscal Year-End
Option/SAR Values
The following table sets forth certain information with respect to
options exercised during the year ended March 31, 2000 by the Named Executive
Officers and with respect to unexercised options held by such persons at the end
of 1999.
<TABLE>
<CAPTION>
Number of Securities
Underlying Unexercised Value of Unexercised
Options/SARs In-the-Money Options/SARs
Shares At FY-End (#) at FY-End ($)
Acquired On Value --------------------------- ---------------------------
Name Exercise (#) Realized ($) Exercisable Unexercisable Exercisable Unexercisable
-------------------- ------------ ----------- ------------- ------------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
James K.T. Lu 0 0 6,100,000 0 0 0
Jeffrey I. Schillen 0 0 2,150,000 0 0 0
</TABLE>
42
<PAGE>
Employment Agreements
In 1991 the Company entered into employment agreement with each of
Messrs. Lu and Schillen for annual compensation of $150,000 and $90,000,
respectively; both provide for annual adjustments in accordance with the
consumer price index, however, effective 1996, Mr. Schillen's annual
compensation was increased to $120,000. Consequently, contracted salary levels
are at $150,000 for Mr. Lu and $120,000 for Mr. Schillen. Both employment
agreements were extended in July 2000 for a period of five years terminating on
December 31, 2005. Mr. Lu and Mr. Schillen in March 2000, both waived all of
their deferred salaries owed as of March 31, 1999. See "Summary Compensation
Table" above, and the notes thereto.
On April 23, 1996 the Board of Directors agreed to reserve 1,000,000
shares of common stock for distribution to Messrs. Lu and Schillen. Such shares
can be purchased for $.25 per share, in installment payments with a five year
promissory note with interest at 6% per annum. As of March 31, 1998 such
officers had not purchased any of such shares.
In September 1997 as consideration for each of Messrs. Lu and Schillen
agreeing to defer up to 90% of their salaries through March 31, 1998, the
Company issued 3,000,000 shares of Common Stock and warrants to purchase
3,000,000 shares of Common Stock to Mr. Lu, and issued 750,000 shares of Common
Stock and warrants to purchase 750,000 shares of Common Stock to Mr. Schillen.
All of such warrants have an exercise price of $.10 per share. The warrants are
fully vested and were exercisable until March 31, 1999. In March of 1999, the
Company extended the terms until August 24, 2002.
The Company maintains two life insurance policies on Mr. Lu, one for
the benefit of the Company in the amount of $1,000,000 and one for the benefit
of Mr. Lu's designated beneficiary in the amount of $500,000. The Company
maintains a life insurance policy on Mr. Schillen, for the benefit of Mr.
Schillen's designated beneficiary, in the amount of $500,000.
On September 1, 1997 the Company entered into employment agreements
with nine other employees holding important positions. The agreements provided
for the issuance of an aggregate of 550,000 shares of Common Stock with a fair
value of $11,000, as payment for services, warrants for 550,000 shares with an
exercise price of $.10 per share and the semi-monthly compensation of
approximately $14,000 in the aggregate. On September 1, 1999, the warrants to
exercise the 550,000 shares of Common Stock expired. On August 27, 1999, the
Company granted warrants of 300,000 shares of Common Stock, which expire on
September 1, 2002, at an exercise price of $.10 per share to the five remaining
employees with employment agreements.
None of the employment agreements which the Company has with any of the
executives, indicated above provides for any specific compensation to such
individuals should their respective employment agreements be terminated prior to
expiration of their respective terms.
43
<PAGE>
On June 9, 2000, the Board of Directors of the Company adopted the Company's
2000 Stock Compensation Plan ("Plan") for the purpose of providing the Company
with a means of compensating selected key employees (including officers),
directors and consultants to the Company and its subsidiaries for their services
rendered in connection with the development of Diamond Entertainment Corporation
through the issuance of shares of Common Stock of the Company, which authorized
the Board of Directors of the Company is authorized to sell or award up to
13,000,000 shares and/or options of the Company's Common Stock, no par value.
The Plan is administered by the Board of Directors which has the discretion to
determine the grantees, the number of shares, the of each grant, the
consideration for the shares and such other terms and conditions as the Board
may determine. The Plan terminates on May 31, 2001.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The following table sets forth information as of June 30, 2000, with
respect to the beneficial ownership of the outstanding shares of the Company's
Common Stock and Preferred Stock by (i) each person known by the Company to be
the beneficial owner of more than 5% of the Common Stock, (ii) each director of
the Company, (iii) each Named Executive Officer of the Company; and (iv) all
directors and executive officers as a group. Unless otherwise indicated below,
such individuals have the sole power to control the vote and dispose of such
shares of capital stock.
<TABLE>
<CAPTION>
Percentage of Common
Stock Assuming
Common Stock Percentage of Preferred Conversion of
Name (1) Owned Common Stock Stock Owned (2) Preferred Stock (3)
---- ------------ ------------- --------------- --------------------
<S> <C> <C> <C> <C>
James K.T. Lu (4) 16,444,960 13.78% 209,287 14.05%
Diamond Entertainment Corporation
800 Tucker Lane
Walnut, CA 91789
Jeffrey I. Schillen (5) 7,005,750 5.87% 36,282 5.90%
Diamond Entertainment Corporation
48 St. Lawrence Way
Marlboro, NJ 07746
Murray T. Scott (6) 1,300,000 1.09% 75,796 1.21%
Diamond Entertainment Corporation
800 Tucker Lane
Walnut, CA 91789
All directors and officers as a 24,750,710 20.74% 321,365 21.16%
group (3 persons) (7)
</TABLE>
44
<PAGE>
----------------
(1) Beneficial ownership is determined in accordance with Rule 13d-3 under the
Security Exchange Act of 1934, as amended, and is generally determined by
voting and/or investment power with respect to securities. Unless otherwise
noted, all shares of common stock listed above are owners of record by each
individual named as beneficial owner and such individual has sole voting
and disposition power with respect to the shares of common stock owned by
each of them. Such person or entity's percentage of ownership is determined
by assuring that any option, warrants or convertible securities held by
such person or entity which are exercisable or convertible within 60 days
from the date hereof have been exercised or converted as the case any be.
(2) The Preferred Stock entitles the holder to 1.95 votes for each share owned
and each share may be converted into 1.95 shares of Common Stock.
(3) Assumes conversion of shares of Preferred Stock beneficially owned.
(4) Mr. Lu is President, Chief Executive Officer, Secretary and a director of
the Company. Includes 10,100,000 shares of Common Stock issuable upon
exercise of warrants, options and convertible notes
(5) Mr. Schillen is the Executive Vice President and a director of the Company.
Includes 4,150,000 shares of Common Stock issuable upon exercise of
warrants, options and convertible notes.
(6) Mr. Scott is a director of the Company. Includes 250,000 shares of Common
Stock issuable upon exercise of warrants .
(7) Represents 10,250,710 shares of Common Stock outstanding and 14,500,000
shares of Common Stock issuable upon exercise of warrants or options.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
In May 1995, James Lu, the Company's Chairman, Chief Executive Officer
and President, personally assumed obligations of the Company to three services
providers in the aggregate amount of approximately $1,131,000. The obligations
are secured by all shares of the Company's Common Stock owned or to be owned by
Mr. Lu. In June 1995, Mr. Lu converted such obligations into 8,212,785 shares of
Common Stock. In August 1995 Jeffrey I. Schillen and Murray T. Scott, each a
director of the Company, agreed to assume $413,400 and $110,240, respectively,
of the obligations assumed by Mr. Lu. In consideration for the reassignment of
such obligations, Mr. Lu agreed to assign 3,000,000 and 800,000 of shares of
Common Stock, respectively, to Messrs. Schillen and Scott. The assignment of
such shares was effected during May 1999.
45
<PAGE>
During the quarter ended June 30, 1996 the Company issued 10%
convertible debentures ("10% Debentures") in the original principal amount of
$1,257,988. The principal was convertible into shares of the Company's Common
Stock at a conversion price equal to 65% of the average closing bid price for
the Common Stock for five trading days immediately prior to the conversion.
Through March 31, 1999, 10% Debentures in the aggregate amount of $519,848
(including $39,848 in accrued interest and $37,650 in extension bonuses) had
been converted into 7,487,668 shares of the Company's Common Stock at conversion
prices ranging from $0.026 to $0.20 per share. One of the purchasers of 10%
Debentures was UC Financial, Ltd., which, upon purchasing 10% Debentures, became
the beneficial holder of more than 5% of the Company's Common Stock. Subsequent
to March 31, 1998, an additional $91,750 in 10% Debentures had been converted
into 2,823,077 additional shares of Common Stock.
On August 25, 1997 the Company executed a consulting agreement with
Murray T. Scott, a director of the Company, for long term strategic planning
including development of marketing strategies and development and acquisition of
new products. Mr. Scott's consulting agreement has a term of two years. As
compensation under the agreement, Mr. Scott was issued 250,000 shares of Common
Stock, and warrants to purchase an additional 250,000 shares of Common Stock at
an exercise price of $0.10 per share. Such warrants expired on August 25, 1999.
On September 1, 1997 each of Messrs. Lu and Schillen were issued shares
and granted warrants as consideration for agreeing to defer payment of their
salaries. Mr. Lu was issued 3,000,000 shares of Common Stock and granted
warrants to purchase an additional 3,000,000 shares of Common Stock at $0.10 per
share through March 31, 1999. Mr. Schillen was issued 750,000 shares of Common
Stock and granted warrants to purchase an additional 750,000 shares of Common
Stock at $0.10 per share through March of 1999. The warrants are fully vested
and were exercisable until March 31, 1999. In March of 1999, the Company
extended the terms until August 24, 2002.
In November and December 1997, Messrs. Lu and Schillen each guaranteed
the obligations of the Company under a new line of credit established with a
financial institution.
In June of 1998, the Company borrowed approximately $2,700,000 in short
term loans from two companies and the borrowings were used primarily to reduce
the Company's accounts payable balance. On October 1, 1999, the balance of these
loans totaled approximately $1,880,725 and during the quarter ended December 31,
1999, the Board of Directors of the Company authorized the conversion of these
short term loans into one year 7% Convertible Promissory Notes of $1,071,225 and
$809,500 each, both due on September 30, 2000. The Company intends to utilize
future debt or equity financing or debt to equity conversions to help satisfy
past due obligations and to pay down its debt obligations and at March 31, 2000,
the balances of these notes were approximately $1,051,000 and $809,500,
respectively.
In July of 1998, Mr. Lu was granted additional options to purchase
6,000,000 shares of Common Stock for $0.10 per share in consideration of his (i)
personal guaranty of the Company's bank line of credit and (ii) loans made to
the Company. Such options expire July 9, 2003.
46
<PAGE>
On July 15, 1998, the Company incorporated Galaxynet International, Inc.
["GalaxyNet"] in the State of Delaware, as a majority-owned subsidiary of the
Company. GalaxyNet intended to develop and sell internet gaming software and
intended to offer its software to internet gaming companies and provide internet
gaming web sites to solicit gambling wagers from primarily, Asian players. The
Company also issued 4,000,000 options exercisable at $.10 per share to an
investor and 2,000,000 options to the Chief Executive Officer exercisable at
$.10 in connection with this project. On July 17, 1998, the Company, along with
GalaxyNet, entered into a memorandum of understanding regarding the raising of
capital in a private offering to raise gross proceeds in the aggregate of
between $3,000,000 and $10,000,000 with an enterprise who would be paid the sum
of 15% of the aggregate proceeds and receive options for up to 3,750,000 shares
of common stock at exercise prices of between $.10 and $.20 per share. The
private offering period ended September 30, 1998, and was extended until October
31, 1998. The private offering resulted in raising funding proceeds of only
$250,000. The Company subsequently canceled the project and refunded the
$250,000 to the investor and canceled all the project related options in
November 1998. The company incurred expenses on behalf of GalaxNet for fiscal
1999 of approximately $30,000.
On July 30, 1998, the Company and Mr. Lu, President of the Company, on
the one hand, and The EMCO/Hanover Group, Inc. and three individuals
(collectively, the "Consultants") on the other hand, entered into a settlement
agreement ("Settlement Agreement"). The parties were in dispute arising out of
the Company's August 1997 engagement letter ("Engagement Letter") with
Consultants and the agreed-upon payments to Consultants thereunder of cash fees
and a right ("Right") to receive a five percent non-dilutive equity interest in
the Company. In September 1997 an accounting firm issued a valuation letter
stating that the Right entitled the Consultants to purchase 1,499,523 shares of
Common Stock for $0.01 per share. On October 6, 1997 pursuant to an assignment
agreement, 1,499,523 shares of Common Stock owned of record by Mr. Lu (the
"Assigned Shares") were assigned and transferred to the Consultants and the
Consultants agreed to remit all of the Assigned Shares to Mr. Lu and to exercise
the Right no later than October 15, 1997, whereupon Mr. Lu would tender the
Assigned Shares back to the Consultants. Consultants never remitted the Assigned
Shares to Mr. Lu nor did they exercise their Right. Pursuant to the Settlement
Agreement the parties terminated the Engagement Letter and the Right, and
Consultants agreed they would have no further right or claim to receive any
shares of Common Stock pursuant either to the Right or the Engagement Letter, or
to receive any further fee or compensation under the Engagement Letter. Further,
the Company agreed to issue to Mr. Lu 1,499,523 shares of Common Stock, for no
consideration, in order to reimburse him for his assignment and transfer of the
Assigned Shares to Consultants. The Settlement Agreement contained releases of
the Consultants and Mr. Lu.
On November 2, 1998, the 10% Debentures with a balance of $848,861 were
reinvested into a new note for $921,851 for a new two year term expiring October
31, 2000 with interest of 10% and an extension bonus of $175,000, which caries
interest of 1.5% per annum payable $50,000 per month after payment of all prior
interest and the restructured note. The repayment term was a weekly amount of
$6,250 and $12,500 in the years 1999 and 2000.
47
<PAGE>
On January 10, 1999, the Company engaged three consultants for a period
of one year to provide advice to undertake for and consult with the Company
concerning management, marketing, consulting, strategic planning, corporate
organization and structure, financial matters in connection with the operation
of the businesses of the Company, expansion of services, acquisitions and
business opportunities. The consultants received option to purchase a total of
4,700,000 of the Company's common stock exercisable at $.05 per share in
exchange for services to be rendered and the options shall expire on December
31, 2000. The Company recorded deferred consulting costs of $31,000 and
amortized $27,200 and $3,800 for the years ended March 31, 2000 and 1999,
respectively. These options were exercised in February of 1999 for proceeds to
the Company of $275,000.
In February of 1999, the Company converted $640,000 of the the 10%
Debentures into 8,000,000 shares of common stock. On February 10, 1999, the
Company converted the remaining note balance of $172,661 and unpaid interest of
$90,415 into 3,018,254 shares of common stock. It was also agreed that the
$175,000 extension bonus, which was recorded as a deferred financing cost in
February of 1999, could be converted into shares of common stock at an agreed
exercise price subject to market conditions. The Company amortized $20,000 and
$155,000 of the extension bonus as a financing expense for the year ended March
31, 1999 and March 31, 2000, respectively. During the year ended March 31, 2000,
$175,000 extension bonus and accrued interest of $13,125 was converted into
3,500,000 shares of the Company's common stock.
At March 31, 1999, the Company was owed approximately $69,000 from the
President of the Company for advances and loans. Simple interest is accrued
monthly at an annual rate of 10% on the outstanding balance. For the years ended
March 31, 1999 and 1998, the Company recorded interest income of $1,170 and
$6,607, respectively. This loan amount is due in December 2001. On March 15,
1999, the unpaid balance of approximately $69,000 was forgiven by the Company in
consideration for the President's 1999 and 1998 personal guarantees for two
leases and promissory notes.
In March and June 1999, the Company issued callable convertible notes
for $50,000 and $100,000 to James Lu and Jeffrey I. Schillen, respectively. The
debentures bear interest at 10% per year with principal and interest due on the
first anniversary of the date of issuance. Each note has been extended for an
additional year. The notes also call for any amount of the outstanding principal
to be converted into restricted shares of the Company's common stock at the
option of the lenders at a conversion rate of $0.05 per share. As of March 31,
2000, neither of the notes had been converted.
In March of 1999, the Company received a total of $150,000 from three
investors and issued promissory notes due in one year with principal and
interest paid bimonthly at an interest rate of 10%. The notes could be used as
proceeds for the exercised options held by the investors. During the year ended
March 31, 200, the note holders used the $150,000 and accrued interest of $2,500
as funds to exercise their common stock options for a total aggregate of
3,000,000 shares of the Company's common stock.
48
<PAGE>
In March and April of 1999, the Company entered into two convertible
debentures for $100,000 and $50,000, respectively. The debentures bear interest
at 10% with principal and interest due on the first anniversary of the date of
issuance. The notes also call for any amount of the outstanding principal to be
converted into restricted shares of the Company's common stock at the option of
the lender at a conversion rate of $0.05 per share. As of March 2000, one
investor converted the $50,000 note into 1,000,000 shares of the Company's
common stock. As of March 31, 2000, the outstanding balance of convertible
debentures was 100,000, which the lender extended the due date to March 2001.
On April 12, 1999, the Company engaged three consultants for a period
of one year each to provide managerial and strategic planning for financial
matters and expansion of the Company. The consultants received options to
purchase an aggregate of 6,000,000 shares of the Company's common stock
exercisable at $0.05 per share in exchange for services to be rendered and the
options shall expire on April 11, 2000. The options had an aggregate fair value
at date of grant of approximately $292,000. These options were exercised in
April 1999, by the forgiveness of $150,000 of notes payable, executed in March
1999 and cash proceeds of $150,000.
On May 25, 1999, the Company's board of directors approved and the Company
issued to the Company's President, as a bonus, options to purchase 2,500,000 and
1,000,000 shares of the Company's common stock at $0.05 and $0.10 per share,
respectively. The options expire on May 24, 2004. Since the options are
accounted for under APB 25 and the exercise price is below market, the Company
has expensed the aggregate intrinsic value at date of grant of approximately
$410,000.
On May 25, 1999, the Company's board of directors approved and the Company
issued to the Company's V.P. of Sales and Marketing, as a bonus, options to
purchase 500,000 and 500,000 shares of the Company's common stock at $0.05 and
$0.10 per share, respectively. The options expire on May 24, 2004. Since the
options are accounted for under APB 25 and the exercise price is below market,
the Company has expensed the aggregate intrinsic value at date of grant of
approximately $110,000.
During the quarter ended December 31, 1999, Board of Directors of the
Company authorized the conversion of approximately $1,880,725 in related parties
payables into one year 7% Convertible Promissory Notes of $1,071,225 and
$809,500 each, both due on September 30, 2000. The terms of the new convertible
notes, allow the Company to make partial principal and interest payments from
time to time and the holders of the convertible notes have the option to request
such payments of the indebtedness evidenced by the notes in either in the lawful
money of the United States or in an equivalent value consisting of the Company's
common stock, the number of shares, to determined by dividing the payment amount
by the average twenty day bid price for the Company's common stock during the
twenty trading days prior to the date of such payment date. Also, during the
quarter ended December 31, 1999, the related party to which $1,071,225 in
related parties payable was owed by the Company, transacted a change in
ownership its common stock in which 100% of its outstanding shares of common
stock was sold to a non-related party and at March 31, 2000, the balance of the
Convertible Promissory note to the non-related party was $1,050,775 as a result
of the Company recording payments toward note in March 1999, by offsetting
$20,450 in money owed to the Company by the non-related party.
49
<PAGE>
On June 9, 2000, the Company entered into three consulting agreements
that will terminate on May 31, 2001, whereby the consultants will provide
consulting service for the Company concerning management, marketing, consulting,
strategic planning, corporate organization and financial matters in connection
with the operation of the businesses of the Company, expansion of services,
acquisitions and business opportunities. The consultants received options to
purchase a total of 7,300,000 of the Company's common stock exercisable at $.035
per share in exchange for services to be rendered and the options shall expire
on May 31, 2001. In June and July of 2000, the Company received $215,500 in cash
for the issuance of the 6,157,143 shares upon the exercise of these options and
the remaining options of 1,142,857 were exercised for consulting services
incurred and owed by the Company to one of the consultants totaling $30,000 and
from the cancellation of a obligation of $10,000 in principal and interest owed
to the same consultant.
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits
The following is a list of exhibits filed as part of this filing. Where
so indicated by footnote, the exhibits have been previously filed and are hereby
incorporated by reference.
Exhibit
Number Description
-------- -----------
3.1 (4) Certificate of Incorporation, as amended.
3.1.2 (8) Certificate of Amendment to Certificate of Incorporation of
Diamond Entertainment Corporation filed with the State of New
Jersey State Treasurer on May 11, 2000
3.1.3 (8) Certificate of Amendment to Certificate of Incorporation of
Diamond Entertainment Corporation filed with the State of New
Jersey State Treasurer on July 6, 2000.
3.2 (4) By-laws, as amended.
4.1 (4) Certificate for shares of Common Stock.
10.1 (3)(2) Employment Agreement effective as of January 1, 1991 between the
Company and James K.T. Lu, and Amendment No. 1 to Employment
Agreement, dated September 1, 1997
10.2 (3)(2) Employment Agreement effective as of August 16, 1991
between the Company and Jeffrey I. Schillen, and Amendment No.1
to Employment Agreement, dated September 1, 1997.
10.3 (5) Agreement of Merger dated May 13, 1997, between BDC Acquisition
Corp. and Beyond Design Corporation.
50
<PAGE>
Exhibit
Number Description
-------- -----------
10.4 (6) Consulting Agreement dated August 25, 1997 between the Company
and Peter Benz.
10.5 (6) Consulting Agreement dated August 25, 1997 between the Company
and George Furla.
10.6 (6) Consulting Agreement dated August 25, 1997 between the Company
and Al Davis.
10.7 (2)(6) Consulting Agreement dated August 25, 1997 between the Company
and Murray T. Scott.
10.8 (6) Consulting Agreement dated August 25, 1997 among the Company
and Bruce W. Barren and the EMCO/Hanover Group.
10.9 (6) Employment Agreements dated as of September 1, 1997, between the
Company and various employees.
10.10 (3) Standard Sublease Agreement, dated as of July 30, 1998,
between the Company and Shinho Electronics & Communication, Inc.,
for executive offices on Carmenita Road, Cerritos, California.
10.11 (3) Standard Industrial/Commercial Multi-Tenant Lease Agreement,
dated as of November 1, 1995, between the Company and Marquardt
Associates, for offices on Marquardt Avenue, Cerritos, California
10.12 (3) Office Lease Agreement dated October 31, 1997, between the
Company and Freehold-Craig Road Partnership, for offices in
Freehold, New Jersey.
10.13 (3) Form of Sublease Agreement between the Company as sublessor and
Vigor Sports, Inc. as subtenant, for offices on Marquardt Avenue,
Cerritos, California.
10.14 (7) 10% Callable Convertible Note, dated March 22, 1999, in the
principal amount of $50,000 issued to Mr. Lu.
10.15 (7) 10% Callable Convertible Note, dated June 3, 1999, in the
principal amount of $100,000 issued to Mr. Schillen.
10.16 (8) Securities Purchase Agreement dated May 11, 2000 between the
Company and eight investors concerning the issuance and sale of
50 shares of the Company's Series A Convertible Preferred Stock.
10.17 (8) Registration Rights Agreement, dated May 11, 2000 between the
Company and Anthony E. Rakos concerning the issuance and sale of
shares of the Company's Series A Convertible Preferred Stock.
51
<PAGE>
Exhibit
Number Description
-------- -----------
10.18 (8) Registration Rights Agreement, dated May 11, 2000 between the
Company and Gerald Holland concerning the issuance and sale of
shares the Company's Series A Convertible Preferred Stock
10.19 (8) Registration Rights Agreement, dated May 11, 2000 between the
Company and Jeffrey Hrutkay, MD concerning the issuance and sale
of shares of the Company's Series A Convertible Preferred Stock.
10.20 (8) Registration Rights Agreement, dated May 11, 2000 between the
Company and Charles and Jane Adkins concerning the issuance and
sale of shares of the Company's Series A Convertible Preferred
Stock.
10.21 (8) Registration Rights Agreement, dated May 11, 2000 between the
Company and Gordon D. Mogerley concerning the issuance and sale
of shares of the Company's Series A Convertible Preferred Stock.
10.22 (8) Registration Rights Agreement, dated May 11, 2000 between the
Company and Michelle Levite concerning the issuance and sale of
shares of the Company's Series A Convertible Preferred Stock.
10.23 (8) Registration Rights Agreement, dated May 11, 2000 between the
Company and Ralph Lowry concerning the issuance and sale of
shares of the Company's Series A Convertible Preferred Stock.
10.24 (8) Registration Rights Agreement, dated May 11, 2000 between the
Company and John Bolliger concerning the issuance and sale of
shares of the Company's Series A Convertible Preferred Stock.
10.25 (8) Consulting Agreement dated June 1, 2000 between the Company and
Peter Benz.
10.26 (8) Consulting Agreement dated June 1, 2000 between the Company and
S. Michael Rudolph.
10.27 (8) Consulting Agreement dated June 1, 2000 between the Company and
Owen Naccarato.
10.28 (8) 2000 Stock Option Plan dated June 9, 2000
21.1 (8) Subsidiaries of the Registrant.
27.1 (1) Financial Data Schedule for Year Ended March 31, 1999 (Restated)
27.2 (1) Financial Data Schedule for Year Ended March 31, 2000 (Restated)
52
<PAGE>
--------------
(1) Filed herewith.
(2) Indicates a management contract or compensatory plan or arrangement
required to be filed.
(3) Incorporated by reference as Registrant's exhibits to the Annual Report on
Form 10-KSB for the year ended March 31, 1998, filed December 24, 1998,
File Number 0-17953.
(4) Incorporated by reference to Registrant's Registration Statement on Form
S-18, File No. 33-33997.
(5) Incorporated by reference to the Registrant's Current Report on Form 8-K
filed May 16, 1997, File No. 0-17953.
(6) Incorporated by reference to the Registrant's Registration Statement on
Form S-8, filed September 15, 1997, File No. 333-35623.
(7) Incorporated by reference to Registrant's exhibits to the Annual Report on
Form 10-KSB for the year ended March 31, 1999, filed July 14, 1999, File
Number 0-17953 and Annual Report on Form 10-KSB/A for the year March 31,
1999, filed August 23, 1999, File Number 0-17953.
(8) Previously filed
(b) Reports on Form 8-K
The Company filed on January 24, 2000 a current report on Form 8-K,
File No. 000-17953, dated January 14, 2000, which reported that the Company's
independent public accountants, Moore Stephens, P.C. terminated its
client-auditor relationship with the Registrant on January 14, 2000 and further
reported that on January 18, 2000, the Company's Board of Director's approved
the engagement of Merdinger, Fruchter, Rosen & Corso, P.C. to serve as the
Company's independent public accountants and to be the principal accountants to
conduct the audit of the Company's financial statements for the fiscal year
ending March 31, 2000, replacing the firm of Moore Stephens, P.C. who had been
engaged to audit the Company's financial statements for the fiscal years ended
March 31, 1996, 1997, 1998, and 1999. The former accountant's opinion contained
a going concern disclaimer. Management of the Company knows of no past
disagreements with the former accountants on any matter of accounting principles
or practices, financial statement disclosure, or auditing scope.
53
<PAGE>
SIGNATURES
In accordance with Section 13 of the Exchange Act, the registrant has
caused this amended report to be signed on its behalf by the undersigned,
hereunto duly authorized.
DIAMOND ENTERTAINMENT CORPORATION
Amendment No. 1
Dated: October 25, 2000 By: /s/ James K.T. Lu
--------------------------------------
James K.T. Lu
President, Chief Executive Officer,
Principal Executive Officer and Director
Dated: October 25, 2000 By: /s/ Fred U. Odaka
---------------------------------------
Fred U. Odaka
Chief Financial Officer, Principal Financial
Officer and Principal Accounting Officer
In accordance with the Exchange Act, this amended report has been signed by
the following persons on behalf of the registrant and in the capacities and on
the dates indicated.
Signature Title Date
/s/ James K.T. Lu President, Chief Executive October 25, 2000
---------------------------- Officer, Secretary and
James K.T. Lu Director
/s/ Jeffrey I. Schillen Executive Vice President October 25, 2000
---------------------------- and Director
Jeffrey I. Schillen
/s/ Murray T. Scott Director October 25, 2000
----------------------------
Murray T. Scott
54
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DIAMOND ENTERTAINMENT CORPORATION
EXHIBIT INDEX
Form 10KSB/A
Exhibit No. Description
27.1 (1) Financial Data Schedule for Year Ended March 31, 1999 (Restated)
27.2 (1) Financial Data Schedule for Year Ended March 31, 2000 (Restated)
55
