<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1998
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _______ to _______
Commission File Number 000-27852
PLATINUM ENTERTAINMENT, INC.
(Exact name of registrant as specified in its charter)
Delaware 36-3802328
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2001 Butterfield Road
Downers Grove, Illinois 60515
(Address of principal executive offices, including zip code)
(630) 769-0033
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports) and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
--- ---
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date:
6,206,214 Common Stock, par value $.001 per share, at November 16, 1998
<PAGE>
PLATINUM ENTERTAINMENT, INC.
FORM 10-Q
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1998
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page
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<S> <C>
Part I - FINANCIAL INFORMATION
Item 1. Consolidated Balance Sheets September 30, 1998 (Unaudited) and December 31, 1997 3
Consolidated Statements of Operations for the three and nine months ended
September 30, 1998 and 1997 (Unaudited) 5
Consolidated Statements of Cash Flows for the nine months ended September 30, 1998
and 1997 (Unaudited) 6
Notes to Unaudited Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 9
Part II - OTHER INFORMATION
Item 1. Legal Proceedings 18
Item 2. Changes in Securities and Use of Proceeds 18
Item 6 Exhibit 18 and Reports on Form 8-K 18
Signatures 19
Exhibits
</TABLE>
2
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PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
PLATINUM ENTERTAINMENT, INC.
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
SEPTEMBER 30 DECEMBER 31
1998 1997
(UNAUDITED)
<S> <C> <C>
ASSETS
Current assets:
Cash $ 7 $ 11
Accounts receivable, less allowances of
$3,642 and $3,912, respectively 16,833 15,683
Artist advances 3,331 2,510
Inventories, less allowances of $89
and $590, respectively 7,586 7,904
Other 1,442 948
-------------------
Total current assets 29,199 27,056
Artist advances, net of current amounts, less
allowances of $14,290 and $12,936, respectively 1,971 --
Investment securities 750 --
Property and equipment, net 2,108 1,079
Music catalog, less accumulated amortization of
$1,410 and $784, respectively 21,619 18,820
Music publishing rights, less accumulated amortization
of $431 and $308, respectively 3,396 3,519
Goodwill, less accumulated amortization of $427
and $244, respectively 5,671 5,854
Equity investment in joint venture 2,377 2,468
Deferred financing fees, net 170 631
Other 2,074 1,473
-------------------
Total assets $69,335 $60,900
-------------------
-------------------
</TABLE>
See accompanying notes to financial statements.
3
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PLATINUM ENTERTAINMENT, INC.
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
SEPTEMBER 30 DECEMBER 31
1998 1997
(UNAUDITED)
<S> <C> <C>
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Revolving line of credit $ 32,879 $ 20,800
Accounts payable 4,208 4,256
Accrued liabilities and other 4,070 3,423
Reserve for future returns 6,734 12,437
Royalties payable 6,422 2,609
---------------------
Total current liabilities 54,313 43,525
Convertible subordinated debentures -- 5,000
---------------------
Total liabilities 54,313 48,525
Stockholders' equity:
Preferred Stock:
Preferred Stock ($.001 par value); 10,000,000
shares authorized, no shares issued and outstanding -- --
Series B Convertible Preferred Stock ($.001 par
value); 20,000 shares authorized, issued and
outstanding -- --
Series C Convertible Preferred Stock ($.001 par
value); 2,500 shares authorized, issued and
outstanding -- --
Common Stock:
Common Stock ($.001 par value); 40,000,000 shares
authorized, 6,206,014 and 5,275,040 shares issued
and outstanding, respectively 6 5
Additional paid-in capital 68,128 58,216
Accumulated deficit (53,112) (45,846)
---------------------
Stockholders' equity 15,022 12,375
---------------------
--------
Total liabilities and stockholders' equity $69,335 $60,900
---------------------
---------------------
</TABLE>
See accompanying notes to financial statements.
4
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PLATINUM ENTERTAINMENT, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
QUARTER ENDED SEPTEMBER 30 NINE MONTHS ENDED SEPTEMBER 30
------------------------------ -------------------------------
1998 1997 1998 1997
(UNAUDITED) (UNAUDITED)
<S> <C> <C> <C> <C>
Gross product sales $ 15,966 $ 14,088 $ 42,572 $ 42,062
Less: Returns (4,457) (3,963) (8,727) (12,633)
Less: Discounts (995) (619) (2,203) (1,881)
----------------------------- ---------------------------
Net product sales 10,514 9,506 31,642 27,548
Licensing, publishing and other revenues 258 307 1,584 1,280
----------------------------- ---------------------------
Net sales 10,772 9,813 33,226 28,828
Cost of sales and services 6,303 5,185 20,224 14,846
----------------------------- ---------------------------
Gross profit 4,469 4,628 13,002 13,982
Other operating expenses:
Selling, general and administrative 5,943 4,470 14,384 13,219
Merger, restructuring and one-time costs -- 2,718 -- 4,977
Depreciation and amortization 495 482 1,400 1,409
----------------------------- ---------------------------
6,438 7,670 15,784 19,605
----------------------------- ---------------------------
Operating loss (1,969) (3,042) (2,782) (5,623)
Interest expense, net (726) (1,235) (1,948) (2,945)
Other financing costs (564) (400) (360) (4,033)
Equity gain (loss) (63) (91) 15 64
----------------------------- ---------------------------
Net loss (3,322) (4,662) (5,181) (12,537)
Less: Preferred dividend requirement (716) -- (2,086) --
----------------------------- ---------------------------
Loss applicable to common shares $ (4,038) $ (4,662) $ (7,267) $ (12,537)
----------------------------- ---------------------------
----------------------------- ---------------------------
Basic and diluted loss per common share $ (0.67) $ (0.89) $ (1.30) $ (2.42)
Weighted average number of common shares outstanding 6,028,759 5,209,049 5,571,073 5,184,113
</TABLE>
See accompanying notes to financial statements.
5
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PLATINUM ENTERTAINMENT, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLARS IN THOUSANDS)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30
-----------------------
1998 1997
(UNAUDITED)
<S> <C> <C>
OPERATING ACTIVITIES
Net loss $ (5,181) $(12,537)
Adjustments to reconcile net loss to net cash used in
operating activities:
Provision for doubtful accounts 340 250
Provision for slow-moving inventory -- 400
Provision for unrecoupable artist balances 1,750 1,319
Amortization 1,115 1,084
Depreciation 285 325
Deferred financing cost amortization 200 --
Loan discount amortization -- 1,240
Write-off of one-time costs -- 1,900
Equity (gain) loss from joint venture 91 (64)
Changes in operating assets and liabilities:
Accounts receivable (1,465) (1,442)
Inventories 318 (816)
Notes receivable -- 123
Artist advances (4,591) (343)
Accounts payable 280 1,264
Accrued liabilities and other (1,755) 137
Reserve for future returns (5,703) (1,002)
Royalties payable 3,812 128
Other (1,085) 748
-----------------------
Net cash used in operating activities (11,589) (7,286)
INVESTING ACTIVITIES
Cash in escrow -- (1,750)
Cash paid for acquisition (625) (26,583)
Purchases of equipment and leasehold improvements (931) (188)
-----------------------
Net cash used in investing activities (1,556) (28,521)
FINANCING ACTIVITIES
Net proceeds from revolving line of credit 32,079 10,000
Payment of bank term loan (20,000) --
Proceeds from bank debt -- 25,000
Related party borrowings -- 1,150
Related party payments -- (850)
Proceeds from sale of Common Stock to related party 1,350 500
Financing costs (214) --
Other (74) --
-----------------------
Net cash provided by financing activities 13,141 35,800
-----------------------
Net increase in cash (4) (7)
Cash, beginning of period 11 18
-----------------------
Cash, end of period $ 7 $ 11
-----------------------
-----------------------
</TABLE>
See accompanying notes to financial statements.
6
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PLATINUM ENTERTAINMENT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
1. BASIS OF PRESENTATION
The financial statements included herein are unaudited and have been
prepared in accordance with generally accepted accounting principles for interim
financial reporting and Securities and Exchange Commission ("Commission")
regulations. In the opinion of management, the financial statements reflect all
adjustments (of a normal and recurring nature) which are necessary to present
fairly the financial position, results of operations and cash flows for the
interim periods presented. These financial statements should be read in
conjunction with the audited consolidated financial statements and notes thereto
for the seven months ended December 31, 1997 of Platinum Entertainment, Inc.
("Company") included in the Transition Report on Form 10-K/A filed with the
Commission on August 14, 1998. The interim results presented are not necessarily
indicative of the results that may be expected for the year ending December 31,
1998.
2. RECLASSIFICATION
Through June 30, 1998, the Company reported product returns in the
statement of operations as follows: (i) actual returns for the period at selling
price and (ii) an allowance for future returns on current period sales at the
gross margin impact of those sales. Effective July 1, 1998, the Company reports
an allowance for future returns on current period sales at the selling price,
with corresponding adjustments for manufacturing costs and royalties expense
reflected in the cost of sales. Actual returns for the current period are
recorded against the reserve for future returns in the balance sheet. While
there is no impact on gross margins for operations previously reported, a
reclassification between returns and cost of sales in the statement of
operations has been made to prior period amounts to reflect returns activity on
a consistent basis with the Company's current policies. Accordingly, the
reflection of returned product on inventory and royalties payable in the balance
sheet have also been restated for balances previously reported.
3. BASIC AND DILUTED LOSS PER COMMON SHARE
Basic loss per common share is based upon the net loss applicable to
common shares after preferred dividend requirements and upon the weighted
average of common shares outstanding during the period. Diluted loss per common
share adjusts for the effect of convertible securities, stock options and
warrants only in the periods presented in which such effect would have been
dilutive. Such effect was not dilutive in any of the periods presented herein.
4. INVESTMENT SECURITIES
On September 30, 1998, the Company entered a Stock Exchange Agreement
with The Music Connection Corporation ("Music Connection") by which the Company
acquired 1,320,000 shares of common stock of Music Connection, subject to the
terms of the Agreement, in exchange for 111,457 shares of the Company's Common
Stock. The investment in Music Connection has been valued at $750, which
represents the fair value of the Common Stock relinquished by the Company. In
addition, the Company granted Music Connection exclusive right to its music
catalog for internet distribution. The agreement between the two companies
values the common stock received by the Company at $1,650; however, pursuant to
the applicable accounting standards, the additional $900 of consideration
received by the Company is not reflected in the Company's financial statements.
5. DEBT
On July 31, 1998, the Company entered a Credit Agreement with First
Source Financial, Inc. for a $35,000 revolving line of credit. The Credit
Facility has a five year term, bears interest at the bank's base
7
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PLATINUM ENTERTAINMENT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
rate plus 0.75% (increasing to 1.5% during the fourth quarter of 1998) per annum
and includes a LIBOR option of LIBOR plus 2.75% (increasing to 3.0% during the
fourth quarter of 1998) per annum. Borrowings under the Credit Facility are
limited to the Borrowing Base, as defined, which is based upon eligible accounts
receivable, inventory and music catalog. The Credit Facility contains certain
financial covenants, requires a lockbox arrangement and is secured by
substantially all of the Company's assets. At September 30, 1998, the Company
had $3,132 available under the line of credit.
6. CONVERTIBLE SUBORDINATED DEBENTURES
On June 8, 1998, the Convertible Subordinated Debentures, $3,125 and
$1,875, totaling $5,000, issued by the Company to JCSHO, Inc. in connection with
the Company's acquisition of certain assets and the assumption of certain
liabilities of Intersound, Inc. during January 1997 ("Intersound" or "Intersound
Acquisition"), were converted to shares of Common Stock of the Company at a
conversion price of $9.80 per share. At the time of issuance, the Debenture in
the amount of $1,875 was placed in escrow pursuant to the terms of an Indemnity
Escrow Agreement dated January 31, 1997. The 191,326 shares of Common Stock
resulting from the conversion of the Debenture in the amount of $1,875 remain in
escrow. The 318,877 shares of Common Stock resulting from the conversion of the
Debenture in the amount of $3,125 are subject to a motion for prejudgment
attachment by the Company in pending litigation between the Company and JCSHO,
Inc. See "Part II - Item 1. Legal Proceedings."
7. PREFERRED DIVIDEND REQUIREMENT
On February 28, 1998, the Series B Convertible Preferred Stock accrued
a dividend of $600 and the Series C Convertible Preferred Stock accrued a
dividend of $75. On May 31, 1998, the Series B Convertible Preferred Stock
accrued a dividend of $618 and the Series C Convertible Preferred Stock accrued
a dividend of $77. On August 31, 1998, the Series B Convertible Preferred Stock
accrued a dividend of $637 and the Series C Convertible Preferred Stock accrued
a dividend of $79. The dividends reflect a compounding per annum rate of 12.0%
of the initial costs of the Series B Convertible Preferred Stock and Series C
Convertible Preferred Stock.
8
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
The information in this section should be read together with the
consolidated financial statements and notes thereto that are included elsewhere
in this filing.
OVERVIEW
The Company is a full-service music company that produces, licenses,
acquires, markets and distributes high quality recorded music for a variety of
musical genres. The Company currently produces music in the gospel,
classical/themed, adult contemporary, country, blues and urban/dance genres,
primarily under its CGI Records, Intersound Classical, River North Records,
Intersound Country, House of Blues and Intersound Urban labels. The Company's
products include new releases, typically by artists established in a particular
genre, as well as compilations and repackagings of previously recorded music
that enable the Company to exploit its catalog of master recordings.
The Company distributes its products domestically through a
multi-channel system comprised of (i) Platinum Distribution (formerly called
Intersound Distribution), the Company's proprietary distribution system, (ii)
PolyGram Group Distribution, Inc. ("PGD"), the Company's third-party
distributor, and (iii) Platinum Christian Distribution to the Christian retail
market. The Company continues to increase the volume of products distributed
through Platinum Distribution compared to PGD; this results in reduced costs to
the Company, per record sold, due to the lack of a third-party distribution fee.
While the Company has historically distributed records for a limited number of
outside labels such as TYSCOT RECORDS and RUF RECORDS, the Company's strategy is
to increase the volume of outside labels it distributes and use the increased
distribution income to offset the anticipated increased costs of enhancing its
Platinum Distribution system. During the second quarter, the Company began
distributing ICHIBAN RECORDS and signed agreements during the third quarter to
distribute TIGER RECORDS and E-MUSIC. The Company intends to pursue additional
third-party distribution opportunities in the future.
On October 1, 1998, the Company announced the debut of its website,
www.PlatinumCD.com, and its equity investment and revenue sharing arrangement
with Music Connection, the first and largest digital download and "burn and
mail" company. The Company also joined with Amazon.com, a leader in the Internet
commerce industry, to provide customers who visit the Company's new website,
access to hundreds of thousands of commercially available music titles,
including access to the Company's titles. Through these strategic alliances the
Company was able to create a complete retail music website, using existing
Internet resources, rather than proceeding with a partnership to develop a new
website as discussed in the Company's Form 10-Q for the quarter ended June 30,
1998. www.PlatinumCD.com allows consumers to buy music in four distinct ways:
- www.PlatinumCD.com allows customers to create customized CD compilations
on a "burn and mail" basis, with consumers selecting individual tracks that
will be recorded to their own unique compact disc and shipped to them
within 24 hours through musicmaker.com. The Company has both a licensing
and profit-sharing arrangement with musicmaker.com for these sales.
- www.PlatinumCD.com allows customers to create customized CD compilations
through musicmaker.com by downloading "Liquid Tracks" created by Redwood
City, California-based, Liquid Audio, to the customer's personal computers.
These digital audio files can then be transferred from the computer to a
customer's own CD-Recordable device. The Company has both a licensing and
profit-sharing arrangement with musicmaker.com for these sales.
- www.PlatinumCD.com customers can purchase CDs manufactured by the
Company's various music labels for home delivery at discount prices. The
Company fulfills these sales through Platinum Distribution.
- www.PlatinumCD.com customers who visit the Company's website have access
to hundreds of thousands of commercially available titles, via the
Company's partnership with Amazon.com. The Company receives referral
revenues from the sale of such titles.
9
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The Company is increasing its international sales efforts by
establishing additional licensing agreements as well as production and
distribution agreements on a country-by-country basis.
The Company records revenues for music products when such products are
shipped to retailers. In accordance with industry practice, the Company's music
products are sold on a returnable basis. The Company's allowance for future
returns is based upon its historical returns, SOUNDSCAN data and the return rate
of the Company's third-party distributor. It is the Company's policy to
inventory all returned product and resell such product at market value.
Through June 30, 1998, the Company reported product returns in the
statement of operations as follows: (i) actual returns for the period at selling
price and (ii) an allowance for future returns on current period sales at the
gross margin impact of those sales. Effective July 1, 1998, the Company reports
an allowance for future returns on current period sales at the selling price,
with corresponding adjustments for manufacturing costs and royalties expense
reflected in the cost of sales. Actual returns for the current period are
recorded against the reserve for future returns in the balance sheet. While
there is no impact on gross margins for operations previously reported, a
reclassification between returns and cost of sales in the statement of
operations has been made to prior period amounts to reflect returns activity on
a consistent basis with the Company's current policies. Accordingly, the
reflection of returned product on inventory and royalties payable in the balance
sheet have also been restated for balances previously reported.
A significant recurring funding requirement of the Company is for
artist and repertoire ("A&R") expenses, which include recording costs and
advances to artists. The Company makes substantial payments each period for
recording costs and advances in order to maintain and enhance its artist roster.
These costs are recouped from the artists' royalties, to the extent possible,
from future album sales. Artist advances are capitalized as an asset when the
current popularity and past performance of the artist provide a sound basis for
estimating the probable future recoupment of such advances from earnings
otherwise payable to the artist.
10
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RESULTS OF OPERATIONS
The following table sets forth, as a percentage of gross revenues,
certain items which are included in the Company's statements of operations for
the fiscal periods reflected below. Operating results for any period are not
necessarily indicative of results for any future periods.
<TABLE>
<CAPTION>
QUARTER ENDED SEPTEMBER 30 NINE MONTHS ENDED SEPTEMBER 30
-----------------------------------------------------------------------------------------
1998 1997 1998 1997
(IN THOUSANDS, EXCEPT PERCENTAGE AMOUNTS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Total gross revenues $ 16,224 100% $ 14,395 100% $ 44,156 100% $ 43,342 100%
Less: Returns (4,457) (27%) (3,963) (28%) (8,727) (20%) (12,633) (29%)
Less: Discounts (995) (6%) (619) (4%) (2,203) (5%) (1,881) (4%)
-------- -------- -------- --------
Total net revenues 10,772 67% 9,813 68% 33,226 75% 28,828 67%
Cost of sales and services 6,303 39% 5,185 36% 20,224 46% 14,846 34%
-------- -------- -------- --------
Gross profit 4,469 28% 4,628 32% 13,002 29% 13,982 33%
Other operating expenses:
Selling, general and
administrative 5,944 37% 4,470 31% 14,384 33% 13,219 30%
Merger, restructuring and
one-time costs -- -- 2,718 19% -- -- 4,977 11%
Depreciation and amortization 494 3% 482 3% 1,400 3% 1,409 3%
-------- -------- -------- --------
6,438 40% 7,670 53% 15,784 36% 19,605 44%
-------- -------- -------- --------
Operating loss (1,969) (12%) (3,042) (21%) (2,782) (7%) (5,623) (11%)
Interest expense, net (726) (4%) (1,235) (9%) (1,948) (4%) (2,945) (7%)
Other financing costs (564) (3%) (400) (3%) (360) (1%) (4,033) (9%)
Equity gain (loss) (63) -- 15 -- (91) -- 64 --
-------- -------- -------- --------
Net loss (3,322) (19%) (4,662) (33%) (5,181) (12%) (12,537) (27%)
Less: Preferred dividend requirement (716) (4%) -- -- (2,086) (5%) -- --
-------- -------- -------- --------
Loss applicable to common shares $ (4,038) (23%) $ (4,662) (33%) $ (7,267) (17%) $(12,537) (27%)
-------- -------- -------- --------
-------- -------- -------- --------
</TABLE>
GROSS REVENUES
Gross revenues increased $1,829,000 or 13% to $16,224,000 for the
current third quarter compared to the prior year third quarter, and increased
$814,000 or 2% to $44,156,000 for the nine months ended September 30, 1998
compared to the comparable period of the prior fiscal year. The Company
experienced increases in product sales through all of its distribution channels,
with the exception of the Company's direct to consumer sales. The Company
significantly reduced its direct to consumer sales activities of which
approximately $3,000,000 in gross revenues were recognized during the first nine
months of last year. Gross revenues from the distribution of third-party product
increased substantially over the prior year, representing 18% of current period
gross revenues compared to only 10% in the prior
11
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year. Notable releases shipped during the current periods were Taylor Dayne's
NAKED WITHOUT YOU, Dionne Warwick's DIONNE SINGS DIONNE, Urban compilation
BOOTLEG BOOTY VOL. II, Taliesin Orchestra's MAIDEN OF MYSTERIES and T. Graham
Brown's WINE INTO WATER.
RETURNS
The Company records an estimate of future returns at the time product
is sold; see "Overview." Returns as a percentage of gross product sales, less
discounts, were relatively flat at 30% for the current third quarter compared to
29% for the third quarter of the prior year, and decreased to 22% for the nine
months ended September 30, 1998 from 31% for the comparable period of the prior
fiscal year. The decrease relates to unusually high returns experienced by the
Company during the prior periods due to terminated relationships with certain
customers who consistently failed to pay on a timely basis.
DISCOUNTS
Discounts as a percentage of gross product sales increased to 6% for
the current third quarter from 4% for the comparable period of the prior fiscal
year, and were relatively flat at 5% for the nine months ended September 30,
1998 compared to 4% for the comparable period of the prior fiscal year. The
increase is due to the significant volume of new releases in the current period,
such as releases by Taylor Dayne, Dionne Warwick and The Band. New releases
typically incur a higher discount than catalog sales.
COST OF SALES AND SERVICES
Cost of sales and services as a percentage of gross revenues increased
slightly to 39% for the current third quarter from 36% for the third quarter of
the prior year, and increased to 46% for the nine months ended September 30,
1998 from 34% for the comparable period of the prior fiscal year. The increase
relates to the increase in third-party label sales, for which the Company
receives a distribution fee which is less than gross margins derived from
Platinum-owned releases. The Company also incurred significant A&R costs
associated with current and future releases, by such artists as Dionne Warwick,
Taylor Dayne, The Band, Ronna and The Beach Boys, which the Company expenses all
or a portion of such costs as incurred.
GROSS PROFIT
Gross profit decreased $159,000 or 3% to $4,469,000 for the current
third quarter compared to $4,628,000 for the third quarter of the prior year,
and decreased $980,000 or 7% to $13,002,000 for the nine months ended September
30, 1998 compared to $13,982,000 for the comparable period of the prior fiscal
year. As a percentage of gross revenues, gross profit decreased to 28% for the
current third quarter compared to 32% for the third quarter of the prior year,
and decreased to 29% for the nine months ended September 30, 1998 from 33% for
the comparable period of the prior fiscal year. The decrease relates primarily
to the increase in third-party label sales and A&R costs as discussed above.
SELLING, GENERAL AND ADMINISTRATIVE
Selling, general and administrative expenses increased $1,474,000 or
33% to $5,944,000 for the current third quarter compared to the third quarter of
the prior year, and increased $1,165,000 or 9% to $14,384,000 for the nine
months ended September 30, 1998 compared to the comparable period of the prior
fiscal year. Selling, general and administrative expenses as a percentage of
gross revenues increased to 37% for the current third quarter from 31% for the
third quarter of the prior year, and increased to 33% for the nine months ended
September 30, 1998 from 30% for the comparable period of the prior fiscal year.
This increase relates to the Company's expansion of its Urban label and costs
associated with the development of its internet and internal distribution
strategies.
12
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MERGER, RESTRUCTURING AND ONE-TIME COSTS
During the three and nine months ended September 30, 1997, the Company
incurred significant costs to merge and restructure its business through various
acquisitions. Such merger and restructuring costs include severance costs,
relocation costs, lease commitment write-offs, warehouse closing costs and other
related costs. In addition, the Company terminated an agreement to purchase
certain business assets of K-tel International, Inc. during September 1997. As a
result, earnest monies deposited in escrow by the Company of $1,750,000 were
fully reserved and disclosed as one-time costs in the statement of operations.
OPERATING LOSS
As a result of the factors described above, an operating loss of
$1,969,000 was experienced in the current third quarter compared to an operating
loss of $3,042,000 in the third quarter of the prior year, and an operating loss
of $2,782,000 was experienced during the nine months ended September 30, 1998
compared to an operating loss of $5,623,000 for the comparable period of the
prior fiscal year.
INCOME TAXES
No tax expense or benefit has been recorded through September 30, 1998
due to the Company's net operating loss carryforward and related valuation
allowance, as required under generally accepted accounting principles. Pursuant
to Section 382 of the Internal Revenue Code of 1986, as amended, the Company's
net operating loss carryforward of approximately $33,158,000 at December 31,
1997, expiring in years 2007 through 2012, is subject to annual limitations due
to a change in ownership as a result of the initial public offering of the
Company's common stock in March 1996. Accordingly, approximately $12,349,000 of
the net operating loss carryforward is subject to an annual limitation of
approximately $2,200,000.
INTEREST EXPENSE, NET
Interest expense, net of interest income, for the current third quarter
totaled $726,000 compared to $1,235,000 for the third quarter of the prior year,
and totaled $1,948,000 for the nine months ended September 30, 1998 compared to
$2,945,000 for the comparable period of the prior fiscal year. See "Liquidity
and Capital Resources" below for details of the Company's current debt
structures.
OTHER FINANCING COSTS
Other financing costs of $564,000 were incurred during the current
third quarter compared to $400,000 during the third quarter of the prior year,
and other financing costs of $360,000 were incurred during nine months ended
September 30, 1998 compared to $4,033,000 for the comparable period of the prior
fiscal year. The current period amounts include the write-off of unamortized
bank fees on retired debt along with current period amortization of deferred
financing costs, netted with the reversal of previously accrued banking fees
which were voided during fiscal 1998 when the Company's stock value exceeded an
established threshold. The prior period amounts relate to the short-term
financing of the Intersound Acquisition and the related extension fees incurred
until the Company refinanced its then outstanding debt structure. See "Liquidity
and Capital Resources" for further discussion of the Company's current debt
structure.
PREFERRED DIVIDEND REQUIREMENT
On February 28, 1998, the Series B Convertible Preferred Stock accrued
a dividend of $600,000 and the Series C Convertible Preferred Stock accrued a
dividend of $75,000. On May 31, 1998, the Series B Convertible Preferred Stock
accrued a dividend of $618,000 and the Series C Convertible Preferred Stock
accrued a dividend of $77,000. On August 31, 1998, the Series B Convertible
Preferred Stock accrued a dividend of $637,000 and the Series C Convertible
Preferred Stock accrued a dividend of $79,000. The dividends reflect a
compounding per annum rate of 12.0% of the initial costs of the Series B
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<PAGE>
Convertible Preferred Stock and Series C Convertible Preferred Stock. Such
equity securities were not outstanding during the prior year periods.
LOSS APPLICABLE TO COMMON SHARES
The loss applicable to common shares for the current third quarter
totaled $4,038,000 compared to a loss applicable to common shares of $4,662,000
for the third quarter of the prior year, and totaled $7,267,000 for the nine
months ended September 30, 1998 compared to a loss applicable to common shares
of $12,537,000 for the comparable period of the prior fiscal year. The decreased
loss applicable to common shares relates primarily to non-recurring merger,
restructuring and one-time costs related to the Intersound Acquisition incurred
in 1997.
RECENTLY ISSUED ACCOUNTING STANDARDS
Statement of Financial Accounting Standards ("SFAS") No. 130,
REPORTING COMPREHENSIVE INCOME, establishes standards for reporting and display
of comprehensive income (i.e., foreign currency translation gains/losses and
unrealized gains/losses on securities) and its components in a full set of
general-purpose financial statements. This Statement requires that an enterprise
(a) classify items of other comprehensive income by their nature in a financial
statement and (b) display the accumulated balance of other comprehensive income
separately from retained earnings and additional paid-in capital in the equity
section of a statement of financial position. This Statement is effective for
the Company's fiscal year ending December 31, 1998. The Company is currently
analyzing the impact of SFAS No. 131 on its financial disclosures.
SFAS No. 131, DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED
INFORMATION, establishes standards for the way that public enterprises report
information about operating segments in annual financial statements and requires
that those enterprises report selected information about operating segments in
interim financial reports issued to shareholders. Operating segments are
components of an enterprise about which separate financial information is
available that is evaluated regularly by the chief operating decision maker in
deciding how to allocate resources and in assessing performance. This Statement
is effective for the Company's fiscal year ending December 31, 1998. The Company
is currently analyzing the impact of SFAS No. 131 on its financial disclosures.
SIGNIFICANT MATTERS
On September 30, 1998, the Company entered a Stock Exchange Agreement
with Music Connection by which the Company acquired 1,320,000 shares of common
stock of Music Connection, subject to the terms of the Agreement, in exchange
for 111,457 shares of the Company's Common Stock. The investment in Music
Connection has been valued at $750,000, which represents the fair value of the
Common Stock relinquished by the Company. In addition, the Company granted Music
Connection exclusive right to its music catalog for internet distribution. The
agreement between the two companies values the common stock received by the
Company at $1,650,000; however, pursuant to the applicable accounting standards,
the additional $900,000 of consideration received by the Company is not
reflected in the Company's financial statements.
SEASONALITY
The Company's results of operations are subject to seasonal variations.
In accordance with industry practice, the Company records revenues for music
product when such products are shipped to retailers. The Company has
historically experienced a decline in revenues and operating income during
December, January and February due to the fact that retailers purchase products
from the Company prior to December 1 in anticipation of holiday sales. As a
result, sales are traditionally lower during December and the post holiday
period.
14
<PAGE>
LIQUIDITY AND CAPITAL RESOURCES
Net cash used in operating activities was $11,589,000 for the nine
months ended September 30, 1998. This amount includes artist advances of
$4,591,000 on current and future releases by such artists as Taylor Dayne,
Dionne Warwick, The Beach Boys and The Band, as well as advances to third-party
distributed labels including Ichiban Records.
Net cash used in investing activities was $1,556,000 for the nine
months ended September 30, 1998 and comprised catalog purchases of $625,000 and
$931,000 in capital expenditures, primarily for computer hardware and software
purchases to enhance the Company's information systems.
The operating and investing activities for the nine months ended
September 30, 1998 were financed primarily by borrowings under the Company's
revolving line of credit as discussed below.
A significant recurring funding requirement of the Company is for A&R
expenses, which include recording costs and advances to artists. The Company
makes substantial payments each period for recording costs and advances in order
to maintain and enhance its artist roster. These costs are recouped from the
artists' royalties, to the extent possible, from future album sales. Artist
advances are capitalized when the current popularity and past performance of the
artist provides a sound basis for estimating the probable future recoupment of
such advances from earnings otherwise payable to the artist. Royalties are not
paid to an artist until all advances made to the artist have been recouped by
the Company. The Company establishes and maintains reserves relative to royalty
payments for a period of approximately 18 to 24 months to allow for product
returns activity as royalties are not owed on returned product.
On December 12, 1997, the Company entered a credit agreement with Bank
of Montreal ("Original Credit Facility"). The Original Credit Facility included
a $20,000,000 three year term loan, due in quarterly installments of $1,000,000
beginning June 1, 1998 and bearing interest at the bank's base rate plus 1/2 of
1.0% per annum, plus a three year $10,000,000 available revolving credit
facility bearing interest at the bank's base rate plus 1.0% per annum.
On July 31, 1998, the Company replaced the Original Credit Facility with a
credit agreement with First Source Financial, Inc. (the "New Credit Facility").
The New Credit Facility has a $35,000,000 available line of credit. The New
Credit Facility has a five year term, bears interest at the bank's base rate
plus 0.75% per annum and includes a LIBOR option of LIBOR + 2.75%; these rates
increase to 1.5% and 3.0%, respectively, during the fourth quarter. Borrowings
under the New Credit Facility are limited to the Borrowing Base, as defined,
which is based upon eligible accounts receivable, inventory and music catalog.
The New Credit Facility contains certain financial covenants, requires a lockbox
arrangement and is secured by substantially all of the Company's assets. At
September 30, 1998, the Company had $3,132,000 available under the line of
credit.
On February 28, 1998, the Series B Convertible Preferred Stock accrued
a dividend of $600,000 and the Series C Convertible Preferred Stock accrued a
dividend of $75,000. On May 31, 1998, the Series B Convertible Preferred Stock
accrued a dividend of $618,000 and the Series C Convertible Preferred Stock
accrued a dividend of $77,000. On August 31, 1998, the Series B Convertible
Preferred Stock accrued a dividend of $637,000 and the Series C Convertible
Preferred Stock accrued a dividend of $79,000. The dividends reflect a
compounding per annum rate of 12.0% of the initial costs of the Series B
Convertible Preferred Stock and Series C Convertible Preferred Stock.
The Company is upgrading its current computer systems. Management
estimates additional costs subsequent to September 30, 1998 to complete this
upgrade to be $250,000. As part of such upgrade, the Company has engaged
Platinum TECHNOLOGY, INC., of which certain shareholders, directors and officers
are members of the Company's Board of Directors, as consultants. For the nine
months ended September 30, 1998, the Company has incurred costs of approximately
$380,000 in connection with such services. In September 1998, the Company issued
approximately 53,000 shares of its Common Stock to Platinum TECHNOLOGY, INC. for
consideration for these services.
15
<PAGE>
During July 1998, the Company purchased exclusive North American rights
to selected sound recordings, for their full length of copyright, equaling 120
albums of material by The Royal Philharmonic Orchestra, for $2,875,000. As
consideration, the Company issued 53,055 shares of its Common Stock during July
1998 and is committed to pay a total of $2,475,000 in quarterly installments
through June 30, 2000, of which $475,000 has been paid through September 30,
1998.
Stockholders' equity at September 30, 1998 totaled $15,922,000 compared
to $12,376,000 at December 31, 1997. This net increase of $3,346,000 or 29% is
due to the conversion of $5,000,000 of subordinated debt, the sale of Common
Stock to certain related parties for proceeds of $1,350,000, the issuance of
shares of Common Stock for consulting services as discussed above and the
acquisition of a ten percent equity interest in Music Connection, offset by the
Company's current period net loss.
The Company's near and long-term capital requirements will depend on
numerous factors, including the rate at which the Company grows and acquires new
artists and products. The Company has various on-going needs for capital,
including working capital for operations, artist advances and project
development costs and capital expenditures to maintain and expand its
operations. In addition, as part of its strategy, the Company evaluates
potential acquisitions of music catalogs, publishing rights and labels. The
Company may in the future consummate acquisitions which may require the Company
to make additional capital expenditures, and such expenditures may be
significant. Future acquisitions, as well as other on-going capital needs, may
be funded with institutional financing, seller financing and/or additional
equity or debt offerings. The Company currently does not have any material
commitments for capital expenditures for the next twelve months.
INFLATION
The impact of inflation on the Company's operating results has been
moderate in recent periods, reflecting generally lower rates of inflation in the
economy. While inflation has not had a material impact on operating results,
there is no assurance that the Company's business will not be affected by
inflation in the future.
SAFE HARBOR PROVISION
This filing contains certain forward-looking statements (within the
meaning of the Private Securities Litigation Reform Act of 1995) that involve
substantial risks and uncertainties. When used in this filing, the words
"anticipate," "believe," "estimate" and "expect" and similar expressions as they
relate to the Company or its management are intended to identify such
forward-looking statements. A number of important factors could cause the
Company's actual results, performance or achievements for fiscal 1998 and beyond
to differ materially from those expressed in such forward-looking statements.
Reference is made to the Company's prior filings with the Securities and
Exchange Commission, in particular the "Risk Factors" section of the Company's
Prospectus dated March 12, 1996, for a discussion of certain of such factors.
These factors include, without limitation, commercial success of the Company's
repertoire, charges and costs related to acquisitions, relationships with
artists and producers, attraction and retention of key personnel, general
economic and business conditions and enhanced competition and new competitors in
the recorded music industry.
YEAR 2000 TECHNOLOGY PREPAREDNESS
The Company is currently working to resolve the potential impact of the
year 2000 on the processing of time-sensitive information by its computerized
information systems. Year 2000 issues may arise if computer programs have been
written using two digits (rather than four) to define the applicable year. In
such cases, programs that have time-sensitive logic may recognize a date using
"00" as the year 1900 rather than the year 2000, which could result in
miscalculations or system failures. Management is in the process of completing a
review of signficant software and equipment used in the Company's operations
and, to the extent practicable, in the operations of its key business partners,
in order to determine if any year 2000 risks exist that may be material to the
Company as a whole. This process includes an assessment
16
<PAGE>
of year 2000 risks and the identification of practical remediation measures
that could be taken on a timely basis to alter, validate or replace
time-sensitive software and equipment. Management has already begun
implementing certain of these measures and intends to complete its
remediation efforts prior to any anticipated material impact on its
computerized information systems. Upon completion of the computer systems
upgrade described above under "Liquidity and Capital Resources," the Company
believes that its internal computerized information systems will be year 2000
compliant. The Company has not yet determined whether all other devices used
in its operations, including those with imbedded date function microchips,
are year 2000 compliant. Costs of addressing potential problems which would
not be incurred but for year 2000 issues have not been material to date and,
based on preliminary information, are not currently expected to have a
material adverse impact of the Company's financial position, results of
operations or cash flows in future periods. However, if the Company or its
significant customers or vendors are unable to resolve such processing issues
in a timely manner, it could result in a material adverse effect.
Accordingly, management plans to devote the resources it concludes are
appropriate to resolve all signficant internal year 2000 issues in a timely
manner and to develop contingency plans to deal with any adverse effects
arising from the noncompliance of significant customers or vendors.
17
<PAGE>
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
On November 13, 1997, JCSHO, Inc., a Minnesota corporation, formerly
known as Intersound, Inc. ("JCSHO"), filed a complaint against the Company in
the District Court of Minnesota, Fourth Division. JCSHO alleges breach of
contract by the Company with regard to the convertible subordinated debentures
in the aggregate principal amount of $5,000,000 (the "Convertible Subordinated
Debentures") made payable to JCSHO in connection with the Intersound
Acquisition. JCSHO alleges that the Company is in default on its obligations
under the Convertible Subordinated Debentures due to failure to make certain
payments under the Convertible Subordinated Debentures at a defined default
interest rate. JCSHO is seeking damages in the amount of $5,000,000 and costs,
disbursements and attorney's fees. The Company believes that JCSHO's allegations
are without merit and intends to vigorously defend this litigation. On April 3,
1998, the Company filed a complaint against JCSHO in the United States District
Court for the Northern District of Illinois, alleging that JCSHO (i) breached
the warranties, representations and indemnification provisions of the purchase
agreement pursuant to which the Company acquired the assets of JCSHO and (ii)
recklessly or intentionally misstated its financial statements and provided such
statements to the Company. The Company sought a turnover of all amounts held in
escrow in the form of the convertible subordinated debentures, additional
damages, a set-off of interest paid under the convertible subordinated
debentures, costs and disbursements. The Company has since asserted such claims
as a counterclaim in the action now pending in Minnesota, where the litigation
will continue.
The Company is not a party to any other material litigation.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.
On September 24, 1998, the Company issued 1,000 shares of its Common
Stock to Bobby Jones in connection with third-party promotional services
rendered. The price per share equaled $6.625, which represented the closing
market price of the Company's Common Stock as reported by the Nasdaq National
Market on September 24, 1998.
On September 30, 1998, the Company issued 111,457 shares of its Common
Stock to Music Connection for a ten percent equity ownership in Music
Connection. The price per share equaled $6.72, which represented the average of
closing market prices, as defined, of the Company's Common Stock as reported by
the Nasdaq National Market.
On September 30, 1998, the Company also issued 53,191 shares of its
Common Stock to Platinum TECHNOLOGY, INC., of which certain shareholders,
directors and officers are members of the Company's Board of Directors, in
consideration for consulting services. The price per share equaled $7.19, which
represented the closing market price of the Company's Common Stock as reported
by the Nasdaq National Market on September 30, 1998.
These sales were exempt from registration pursuant to Section 4(2) of
the Securities Act of 1933 as transactions not involving a public offering.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
A. Exhibits.
27. Financial Data Schedule.
B. Reports on Form 8-K.
None.
18
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, Platinum
Entertainment, Inc. has duly caused this filing to be signed on its behalf by
the undersigned, thereunto duly authorized, on this 16th day of November, 1998.
PLATINUM ENTERTAINMENT, INC.
By: /s/ STEVEN DEVICK
------------------------------------------
Steven Devick
Chairman of the Board, President and Chief
Executive Officer
By: /s/ DOUGLAS C. LAUX
------------------------------------------
Douglas C. Laux
Chief Financial Officer
(Principal Financial and Accounting Officer)
19
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THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
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ENTERTAINMENT, INC. AND THE ACCOMPANYING NOTES THERETO FOR THE PERIOD INDICATED
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