<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
- ------------------------------------------------------------------------------
FORM 10-QSB
Quarterly report Under Section 13 or 15(d) of the
Securities Exchange Act of 1934
- ------------------------------------------------------------------------------
For Quarter Ended: September 30, 1998
Commission File No. 0-23396
SKYLINE MULTIMEDIA ENTERTAINMENT, INC.
(Exact name of small business issuer as specified in its charter)
- ------------------------------------------------------------------------------
New York 11-3182335
(State of Incorporation) (IRS Employer Identification No.)
350 Fifth Avenue
New York, New York
10118
(Address of principal executive office)
(Zip code)
(212) 564-2224
Issuer's telephone number, including area code
- ------------------------------------------------------------------------------
Indicate by check mark whether the issuer (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities and Exchange Act
of 1934 during the preceding 12 months (or for such shorter period that the
issuer was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No
--------- ----------
As of November 13, 1998, there were issued and outstanding 1,385,000
shares of Common Stock, $.001 par value per share, 290,000 shares of Class A
Common Stock, $.001 par value per share, and 1,090,909 shares of Series A
Convertible Participating Preferred Stock, $.001 par value per share.
Transitional Small Business Disclosure Format
Yes No X
--------- ----------
<PAGE>
SKYLINE MULTIMEDIA ENTERTAINMENT, INC. AND SUBSIDIARIES
INDEX
-----
PAGE NUMBER
-----------
PART I. FINANCIAL INFORMATION
---------------------
Item 1. Condensed consolidated financial statements
(unaudited)
Balance sheet as of September 30, 1998 3
Statements of operations for the three months
ended September 30, 1998 and 1997 4
Statements of cash flows for the three months
ended September 30, 1998 and 1997 5
Notes to financial statements 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 11
PART II. OTHER INFORMATION 18
----------------
INDEX TO EXHIBITS 20
SIGNATURES 25
2
<PAGE>
SKYLINE MULTIMEDIA ENTERTAINMENT, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEET (unaudited)
September 30, 1998
<TABLE>
<S> <C>
ASSETS
Current assets:
Cash $ 1,392,000
Inventory 121,000
Prepaid expenses and other current assets 286,000
---------------
Total current assets 1,799,000
Property, equipment and leasehold improvements - net 6,869,000
Security deposits 967,000
Deferred financing costs 112,000
Other assets - net 374,000
---------------
$ 10,121,000
===============
LIABILITIES
Current liabilities:
Capital lease obligations - current portion $ 895,000
Notes payable - institutional lenders 2,785,000
Note payable - other 500,000
Accounts payable 1,518,000
Due to contractors 195,000
Accrued expenses 567,000
Interest payable - institutional lenders 124,000
Deferred sponsorship income 18,000
---------------
Total current liabilities 6,602,000
Capital lease obligations (less current portion) 883,000
Notes payable - institutional lenders 3,991,000
Deferred rent payable 1,771,000
Accrued interest payable - institutional lenders 1,175,000
---------------
14,422,000
---------------
Commitments and contingencies
CAPITAL DEFICIENCY
Preferred stock, par value $.001 per share, 5,000,000 shares authorized, 1,090,909 1,000
shares of Series A convertible participating preferred stock issued and outstanding
(liquidating value $2.75 per share)
Common stock - $.001 par value; authorized 19,000,000 shares; one vote per share: 2,000
issued 1,495,000 shares
Class A common stock - $.001 par value; authorized 1,000,000 shares; five votes 1,000
per share; issued 290,000 shares
Treasury stock, 110,000 shares of common stock and 670,000 shares of Class A (601,000)
common stock at cost
Additional paid-in-capital 10,679,000
Accumulated deficit (14,383,000)
---------------
(4,301,000)
---------------
$ 10,121,000
===============
</TABLE>
The accompanying notes are an integral part of these financial statements
3
<PAGE>
SKYLINE MULTIMEDIA ENTERTAINMENT, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (unaudited)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
September 30
--------------------------------
1998 1997
--------------------------------
<S> <C> <C>
Revenues:
Attraction sales $ 2,571,000 $ 2,722,000
Concession sales 338,000 326,000
Sponsorship income 31,000 88,000
------------- -----------
2,940,000 3,136,000
------------- -----------
Operating expenses:
Cost of merchandise sold 179,000 125,000
Selling, general and administrative 2,598,000 2,672,000
Depreciation and amortization 514,000 444,000
------------- -----------
3,291,000 3,241,000
------------- -----------
Loss from operations before interest expense (351,000) (105,000)
Net interest (expense) (473,000) (234,000)
------------- -----------
Loss before extraordinary item (824,000) (339,000)
Extraordinary gain from restructuring of liabilities 207,000 -0-
------------- -----------
Net loss $ (617,000) $ (339,000)
============= ===========
Loss per share of common stock - basic and diluted:
Loss before extraordinary item $ (.49) $ (.20)
============= ===========
Net loss $ (.37) $ (.20)
============= ===========
Weighted average common shares outstanding 1,675,000 1,734,000
============= ===========
</TABLE>
The accompanying notes are an integral part of these financial statements.
4
<PAGE>
SKYLINE MULTIMEDIA ENTERTAINMENT, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
September 30
-----------------------------------
1998 1997
-------------- ------------
<S> <C> <C>
Cash flows from operating activities:
Net Loss $ (617,000) $ (339,000)
Adjustments to reconcile net loss to net cash provided by
operating activities:
Writeoff of Trademark Costs -0- 37,000
Restructuring of liabilities - noncash (207,000) -0-
Depreciation and amortization 514,000 444,000
Issuance of warrants 156,000 -0-
Changes in:
Accounts Payable, Accrued liabilities and deferred rent payable 361,000 272,000
Inventory 13,000 28,000
Prepaid expenses and other assets (52,000) (166,000)
Deferred sponsorship income (31,000) (28,000)
------------ ----------
Net cash provided by operating activities 137,000 248,000
------------ ----------
Cash flows from investing activities:
Purchase of fixed assets (39,000) (451,000)
Security Deposits 5,000 (20,000)
Deferred project and leasing costs -0- (545,000)
Certificate of Deposit -0- 209,000
------------ ----------
Net cash (used in) investing activities (34,000) (807,000)
------------ ----------
Cash flows from financing activities:
Repayment of capital lease obligations (207,000) (163,000)
------------ ----------
Net cash (used in) financing activities (207,000) (163,000)
------------ ----------
Net (decrease) in cash (104,000) (722,000)
Cash at beginning of period 1,496,000 1,119,000
------------ ----------
Cash at end of period $ 1,392,000 $ 397,000
============ ==========
Supplemental disclosure of cash flow information:
Cash paid for interest during the year $ 62,000 $ 78,000
Equipment acquired under a capital lease agreement $ -0- $ 20,000
Cash paid for taxes during the year $ 2,000 $ 12,000
</TABLE>
5
<PAGE>
SKYLINE MULTIMEDIA ENTERTAINMENT, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements (unaudited)
1. Basis of Presentation
The accompanying unaudited condensed consolidated financial
statements have been prepared in accordance with generally accepted accounting
principles for interim financial information and the instructions to Form
10-QSB and rule 10-01 of Regulation S-X. Accordingly, they do not include all
of the information and footnotes required by generally accepted accounting
principles for complete financial statements. In the opinion of management,
all adjustments (consisting of normal recurring accruals) considered necessary
for a fair presentation have been included. Operating results for the three
months ended September 30, 1998 are not necessarily indicative of the results
that may be expected for the full fiscal year ended June 30, 1999. For further
information, refer to the financial statements and footnotes thereto included
in the Company's annual report on Form 10-KSB for the year ended June 30,
1998.
2. Earnings Per Share
Basic and diluted net (loss)per share for each period is calculated
by dividing net loss available to common stockholders for the period by the
weighted average number of common shares outstanding for each period,
excluding the 1,090,909 shares of Series A Convertible Participating Preferred
Stock as such shares were considered to be anti-dilutive.
3. Income Taxes
The principal components of Deferred Tax Assets, Liabilities, and the
Valuation Allowance are as follows:
September 30
-------------------------------
1998 1997
---- ----
Deferred Tax Assets:
Capitalization of start-up costs $ 214,000 $ 390,000
Impairment Loss 1,734,000 -0-
Net operating loss carryforwards 5,111,000 3,026,000
------------ -----------
7,059,000 3,416,000
Valuation allowance (6,356,000) (2,797,000)
------------ -----------
703,000 619,000
Deferred Tax Liabilities:
Depreciation differences 703,000 619,000
------------ -----------
Net Deferred Tax Asset $ 0 $ 0
============ ===========
6
<PAGE>
SKYLINE MULTIMEDIA ENTERTAINMENT, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements (unaudited)
The Company has provided a valuation allowance of $6,356,000 against
its deferred tax asset due to uncertainty of the Company being able to use
this benefit to offset future taxable income. The Company will periodically
evaluate the likelihood of realizing such asset and will adjust such amount
accordingly.
4. Property, equipment and leasehold improvements
Property and equipment, including assets under capital leases are
recorded at cost and are depreciated on the straight-line method over the
estimated useful lives of the assets from two to twelve years. Leasehold
improvements are amortized using the straight-line method over the shorter of
the lease term or the estimated useful life of the asset.
Property, equipment and leasehold improvements at cost are summarized as
follows:
Equipment and fixtures $ 1,619,000
Simulation equipment 2,312,000
Simulation film 1,065,000
Leasehold improvements 5,662,000
-----------
10,658,000
Less: Accumulated depreciation
and amortization (3,789,000)
-----------
Total $ 6,869,000
===========
5. Inventory
Inventory consists of clothing, souvenirs and food sold at the
Company's existing sites and is valued at the lower of cost (first-in,
first-out) or market.
6. Notes Payable
During November 1996 the Company entered into a loan agreement with
an institutional lender to finance the acquisition of certain equipment for
its XS New York site. The Company received approximately $1,024,000 with
$495,000 held by the lender as security. Such security is to be released in
March 1999 subject to a satisfactory payment record by the Company. The amount
financed bears interest at 11 1/2% per annum compounded monthly and was
initially to be repaid in 48 monthly installments. During November 1997, the
term was modified to provide for an accelerated payback over 36 months from
the date of issuance. The institutional lender obtained a first security
interest in the equipment and up to $750,000 of the loan is personally
guaranteed by the Company's former president. In connection with this
transaction, the Company issued five year warrants to purchase 50,000 shares
of the Company's common stock at an exercise price of $6.00 per share, which
the Company valued at $35,000. As of September 30, 1998, the remaining
outstanding balance of this note was approximately $620,000.
On December 31, 1996, the Company refinanced its existing equipment at its New
York Skyride location with aggregate proceeds of $1,500,000. The new note
bears interest at 11 1/2% per annum compounded monthly and is to be repaid in
48 monthly installments secured by a first security interest in all of the
equipment at the New York Skyride location. Additionally, up to $250,000 of
the loan is personally guaranteed by the Company's former president. As of
September 30, 1998, the remaining outstanding balance on this note was
approximately $821,000.
During March 1997, the Company entered into a loan agreement with an
institutional lender to finance the acquisition of additional equipment for XS
New York. Pursuant to this transaction in April 1997, the Company received
$559,000 with an additional $51,000 held by the lender as security. Such
security is to be released in March 1999 subject to a satisfactory payment
record by the Company. The amount financed bears interest at 11 1/2% per annum
compounded monthly and was initially to be repaid in 48 monthly installments.
During November 1997, the term was modified to
7
<PAGE>
SKYLINE MULTIMEDIA ENTERTAINMENT, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements (unaudited)
provide for an accelerated payback over 36 months from the date of issuance.
The institutional lender obtained a first security interest in the equipment
and up to $ 125,000 of the loan is personally guaranteed by the Company's
former president. As of September 30, the remaining outstanding balance on
this note is approximately $292,000.
7. Subordinated Notes Payable
(1) On December 20, 1996, the Company entered into a Senior Credit
Agreement (the "Senior Credit Agreement") with Prospect Street NYC Discovery
Fund, L.P. ("Prospect Street") and Bank of New York, as Trustee for the
Employees Retirement Plan of the Brooklyn Union Gas Company ("BUG"), to obtain
up to $4,100,000 in senior unsecured subordinated debt which accrues interest
at an annual rate of 14% and requires the payment of both principal and
interest five years from the date of issuance. The Senior Credit Agreement was
subsequently amended to increase the amount of the subordinated debt to
$4,450,000 and to provide for the inclusion of additional lenders. Of such
increased amount $2,500,000 was received by the Company from BUG and a related
pension fund and $1,950,000 was received by the Company from Prospect Street
and its affiliates. As of September 30, 1998, unamortized debt discount of
$651,000 was recorded on these amounts. In connection with the Senior Credit
Agreement, BUG and its related pension fund received warrants to purchase up
to an aggregate of 243,904 shares of Common Stock and Prospect Street and its
affiliates received warrants to purchase up to an aggregate of 190,242 shares
of Common Stock, each exercisable until December 20, 2006 at an exercise price
of $4.25 per share. A purchase price of $1.00 per warrant was allocated from
the subordinated debt proceeds received by the Company. As part of this
financing, on November 6, 1996, Prospect Street provided the Company with a
demand loan of $1,500,000, at an annual interest rate of 14%, which loan was
exchanged for a portion of the subordinated debt under the Senior Credit
Agreement.
(2) During June 1997, the Company received an additional $500,000 loan from
Prospect Street. During December 1997, the Company received a $500,000 loan
from a bank bearing interest at the rate of 7.6% per annum that is secured by
a certificate of deposit from Prospect Street.
(3) On April 15, 1998, the Company and its subsidiaries entered into a
Senior Secured Credit Agreement (the "Credit Agreement") with the Bank of New
York, as Trustee for the Employees Retirement Plan of Keyspan Energy Corp.
("Keyspan") and Prospect Street (together with Keyspan, the "Institutional
Investors") relating to the financing of an aggregate of $935,000 ($500,000
from Keyspan and $435,000 from Prospect Street) (the"Financing"), in exchange
for receipt by the Institutional Investors of senior secured promissory notes
(the "Notes") and the issuance of warrants to purchase shares of Common Stock
of the Company (the "Warrants"). The Notes matured on July 15, 1998, accrue
interest at a per annum rate equal to 14% and are secured (with certain
exceptions) by all the assets of the Company and its subsidiaries. The
Institutional Investors have not demanded payment of the Notes. The Notes and
the obligations under the Credit Agreement and the Warrants are also
collateralized by a pledge of the stock of the Company's subsidiaries. In
connection with the Credit Agreement, Keyspan also received the right to
appoint two members to the Company's Board of Directors. Further, as a result
of the issuance of Warrants in connection with the Financing, the conversion
rate of the Series A Preferred Stock (the "Preferred Stock") held by Prospect
Street was adjusted from a conversion rate of one share of Common Stock for
each share of Preferred Stock to a conversion rate of 6.91 shares of Common
Stock for each share of Preferred Stock. On May 29, 1998, the Credit Agreement
was amended to increase the loan amount funded by Keyspan from an aggregate of
$500,000 to $1,850,000 which increased the total financing from $935,000 to
$2,285,000. Additionally, subsequent to June 30, 1998, the Credit Agreement
was further amended to include under its terms the $500,000 demand loan to the
Company from Prospect Street in June 1997.
The Warrants are exercisable for 94% of the fully diluted Common Stock of the
Company (after issuance) at an exercise price of $.375 per share. Accordingly,
the exercise of such Warrants by the Institutional Investors will result in a
significant change in the ownership of the Company. The Company approved this
transaction after consideration of its alternatives and financial situation.
The Warrants are exercisable for approximately 173 million shares of Common
Stock for an exercise price of approximately $64.9 million, or, at the option
of the holder, pursuant to a cashless exercise
8
<PAGE>
SKYLINE MULTIMEDIA ENTERTAINMENT, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements (unaudited)
feature, the difference in shares between 173 million shares and that number
of shares having a market value equal to $64.9 million (i.e. at a market price
per share of $.40, an aggregate of 10.8 million shares of Common Stock will be
issued) resulting in significant dilution to existing shareholders.
(4) On September 2, 1998, the Company and its subsidiaries entered into a
Debt to Equity Conversion Agreement (the "Conversion Agreement") with its
Institutional Investors. Pursuant to the Conversion Agreement, the
Institutional Investors have agreed, subject to certain conditions, to convert
all of their respective indebtedness of the Company (the "Debt"),
approximately $7.235 million principal amount plus approximately $1.225
million of accrued interest thereon through September 30, 1998 (the "Initial
Conversion Value") into approximately 8,460 shares of Series B Convertible
Redeemable Preferred Stock of the Company (the "Series B Preferred Stock").
The Institutional Investors have agreed to such conversion in an effort to
comply with certain Nasdaq SmallCap Market ("Nasdaq") net worth criteria to
maintain the listing of the Company's Common Stock on Nasdaq and to make the
Company's balance sheet and capital structure more attractive to potential
investors and the financial community. Provided the Company's listing of its
Common Stock on Nasdaq is maintained, the conversion of the Debt will be
subject to the approval of the issuance of the Series B Preferred Stock by the
shareholders of the Company at the next annual meeting of shareholders or,
alternatively, receipt from Nasdaq of a waiver of such shareholder approval
requirement.
The holders of shares of Series B Preferred Stock will be entitled to a 10%
cumulative dividend when, as and if declared by the Board. The shares of
Series B Preferred Stock will be convertible by the holders thereof into that
number of shares of Common Stock of the Company calculated by dividing $1.30
into the Initial Conversion Value of the Series B Preferred Stock (i.e.,
$1,000 per share or an aggregate of $8.46 million), subject to adjustment,
plus any accumulated dividends. The Series B Preferred Stock is redeemable by
the Company, in whole or in part, at any time upon payment of the Initial
Conversion Value per share (as adjusted from time to time), plus any
accumulated dividends. The Institutional Investors also have certain
registration rights with respect to the Common Stock issuable upon conversion
of the Series B Preferred Stock.
8. Deferred Rent Payable
The Company, for financial accounting purposes, spreads scheduled
rent increases and rent holidays over the terms of the respective leases using
the straight - line method.
9. Sponsorship Income
As of September 30, 1998, the Company has one existing sponsorship
agreement. The agreement has a five year term and is due to expire in May
1999. In addition to this Agreement, the Company also had two other
sponsorship agreements which expired in December 1997 and August 1998,
respectively. All of these agreements which ranged in terms of three to five
years, provided for annual fees, capital improvements and cross promotions for
the Company. Sponsorship revenue under these agreements aggregated
approximately $1,300,000 over their respective terms. During the quarters
ended September 30, 1998 and 1997, the Company recognized as income $31,000
and $88,000, respectively, which represent monetary fees received from these
sponsors and approximately $18,000 and $47,000, respectively, were deferred as
of September 30, 1998 and 1997, respectively.
10. Preferred Stock
On July 7, 1995, the Company consummated a stock purchase agreement
with Prospect Street NYC Discovery Fund, L.P. ("Prospect Street"), a small
business investment company, pursuant to which the Company sold 1,090,909
shares of Series A Convertible Participating Preferred Stock, par value $.001
per share (the "Preferred Stock"), for $3,000,000. Net proceeds from such
investment, aggregated approximately $2,833,000. The Preferred Stock issued is
convertible into common stock of the Company at any time on a share-for-share
basis, which was subsequently adjusted
9
<PAGE>
SKYLINE MULTIMEDIA ENTERTAINMENT, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements (unaudited)
to a conversion rate of 6.91 shares of Common Stock for each share of
Preferred Stock. Pursuant to the stock purchase agreement, the Preferred Stock
and underlying common stock into which it is convertible are subject to both
demand and piggyback registration rights. The Preferred Stock has a
liquidation preference equal to $2.75 per share, or $3,000,000, but does not
pay any dividends unless declared by the Board of Directors. The preferred
stockholder is entitled to an aggregate of up to 24.9% of the outstanding
voting power of the Company, which can increase to 50.1% of the voting power
if, in good faith, in the sole discretion of such preferred stockholder, it
becomes reasonably necessary for the protection of its investment.
11. Recently Issued Accounting Standards
The Financial Accounting Standards Board has recently issued
statements of financial accounting standards No. 129, "Disclosure Of
Information About Capital Structure", No. 130, "Reporting Comprehensive
Income," and No. 131, "Disclosures About Segments Of An Enterprise And Related
Information." The Company believes that the above pronouncements will not have
a significant effect on the information presented in the consolidated
financial statements.
12. Revenue Sharing Agreements
The Company has been provided with certain equipment for use in its
XS New York facility in exchange for a percentage of the revenues generated
therefrom. During November 1997, a new agreement was entered into with its
major equipment supplier whereby the Company's revenue-sharing obligation was
reduced from 40% to 14% in exchange for the Company selling the XS trademark
and related intellectual property rights to such vendor. The Company can
continue to use the XS trademark at its Times Square location pursuant to a
license agreement entered into in connection with the sale of the trademark.
In addition, the vendor agreed to waive all amounts due under the prior
revenue-sharing agreement through October 12, 1997 which aggregated
approximately $427,000. Such amounts were offset against selling, general and
administrative expenses for the three months ended September 30, 1997.
13. Commitments and Contingencies
In October 1997, the Empire State Building Company (the "ESBCo") sent
notices of default to the Company with respect to the Company's various leases
at the Empire State Building (the "ESB") for failure to pay rent. The Company
believed it had valid claims and offsets against a portion of the rents
claimed by ESBCo. In December 1997, the Company commenced an action against
the ESBCo seeking injunctive relief to prohibit the ESBCo from terminating the
Company's leases and the licenses agreement relating to the New York Skyride
location and also seeking damages from the ESBCO. The Company asserts that the
ESBCo violated the terms of the leases and the license agreement. The Company
has received an injunction, prohibiting the ESBCo from terminating or
canceling the leases and the license agreement and restraining the ESBCo from
interfering with the Company's business or commencing any proceedings with
respect to the leases and the license agreement. The court ordered the Company
to pay $838,000 in undisputed rent. A determination with respect to disputed
rental amounts (approximately $1,000,000 as of September 30, 1998) is expected
to be decided by a referee during December 1998. The Company intends to
continue pursuing its other claims for damages against the ESBCo.
10
<PAGE>
SKYLINE MULTIMEDIA ENTERTAINMENT, INC. AND SUBSIDIARIES
ITEM 2. Management's Discussion and Analysis of Financial Condition and
---------------------------------------------------------------
Results of Operations
---------------------
Operational Overview
From its inception until December 22, 1994, the Company's primary
activities consisted of developmental activities, including the preparation of
plans relating to the design of New York Skyride, the Company's first motion
simulator film-based attraction; negotiation of a lease and a license
agreement with the operators of the Empire State Building, the location of New
York Skyride; working with engineers, architects, contractors, designers, and
other parties in connection with the construction of New York Skyride;
developing software and video films in connection with New York Skyride;
developing marketing strategies; initiating marketing and corporate
sponsorship activities; selecting a management team; and obtaining financing.
On December 22, 1994 , the Company commenced operations of New York
Skyride and began generating revenue from ticket sales to the attraction and
the sale of merchandise at its souvenir/concession area. New York Skyride was
opened on a preview basis until February 21, 1995, the date of its official
Grand Opening.
During April 1996, the Company signed a 20 year renewable lease (the
"Additional Lease") for an additional 35,000 square feet of space within the
Empire State Building ("the ESB"), adjacent to and above the current location
of New York Skyride. The Additional Lease was entered into in conjunction with
the modification of the lease and the license agreement relating to the New
York Skyride facility (the "Modification Agreements"). The Additional Lease
and the Modification Agreements were the direct result of negotiations between
the Company and the Empire State Building Company (the "ESBCo"), the landlord
of the ESB, resolving a dispute relating to the opening of a competitive
simulator attraction on the lower level of the ESB. As a result of the
Additional Lease and the Modification Agreements, which requires the ESBCo to
increase the level of cooperation with the Company and improve relations
between the ESB staff and the Company's employees, the Company concluded that
the existence of a smaller non-New York related simulator which would not get
the level of preferential treatment as promised to the Company by the ESBCo,
would not have a material impact on the Company's operations taken as a whole.
Additionally, the Company had intended to utilize the additional space to
create a mixed use location-based entertainment center, which development
plans for such additional space were deferred until the Company resolves its
current litigation with the ESBCo. However, the Company believes that the
ESBCo and the ESB staff have not provided the level of cooperation promised
and that such lack of cooperation, not merely the existence of a competitor,
has negatively impacted the Company's operations. The competitor ceased
operations in February, 1998.
In late October, 1997, the ESBCo sent notices of default to the Company with
respect to the Company's various leases at the ESB for failure to pay rent. In
addition to attempting to resolve the foregoing issues relating to the
circumstances involving the Modification Agreements, the Company also believes
it has valid claims, credits and offsets against a portion of the rents
claimed by the ESBCo. On December 22, 1997, the Company was informed by
representatives of the ESBCo that the Company's proposal to resolve certain
alleged lease defaults was not acceptable. The Company believes it had
negotiated in good faith and had no reason to suspect that its previously
submitted proposal would not be acceptable. In light of this negative response
from the ESBCo, which the Company believes is another example of the ESBCo's
pattern of bad faith and lack of cooperation toward the Company, the Company
has filed a lawsuit against the ESBCo and related parties seeking, among other
things, injunctive relief to prohibit the ESBCo from terminating the Company's
leases at the Empire State Building (the "Leases") and the License Agreement
relating to the New York Skyride (the "License Agreement") and also seeking
damages from the ESBCo.
In April 1998, the Company received injunctive relief, which, among other
things, prohibits the ESBCo from terminating or canceling the Leases and the
License Agreement and restraining the ESBCo from interfering with the
Company's business or commencing any proceedings with respect to the Leases
and the License Agreement. The Company paid approximately $838,000 pursuant to
an order from the court relating to undisputed rental amounts. A determination
with respect to disputed rental amounts (approximately $1,000,000 as of
September 30, 1998) is expected
11
<PAGE>
to be decided by a referee during December 1998. The Company intends to
proceed with discovery in connection with its other claims for damages. See
"Part II - Item 1. Legal Proceedings" below.
Further, as previously disclosed, it is likely, that the Company will
be unable to develop the space within the ESB which is the subject of the
Additional Lease in the near term. The Company is uncertain as to the
disposition of this space as a result of the lawsuit brought by the Company
against the ESBCo described above. Until such disposition, however, the
Company will continue to accrue rent expense with respect to the Additional
Lease.
Historically, in the New York metropolitan area, the summer months,
which include significant tourist traffic, represents the busiest period of
the year. During each of the quarters ending September 30, 1998 and 1997, New
York Skyride was visited by approximately 193,000 and 191,000 customers,
respectively. For the quarter ended September 30, 1998 the Company's capture
rate of observatory visitorship averaged approximately 17%, up from
approximately 16% for the quarter ended September 30, 1997.
On December 27, 1996, the Company commenced operations, through its
wholly-owned subsidiary, Skyline Virtual Reality, Inc., of an interactive
virtual reality entertainment center, XS New York, which is located in the
heart of Times Square in New York City. XS New York features the latest in
virtual reality hardware and software, simulation technology and interactive
participation game experiences. Additionally, the facility includes a
"cybercafe" which offers light food and refreshments and computer terminals
which are linked to the World Wide Web and the Internet. XS New York was
opened on a preview basis until March 20, 1997, the date of its official Grand
Opening. The Company, on November 4, 1997, renegotiated its revenue-sharing
agreement with the primary equipment supplier of XS New York in consideration
of the sale to such supplier of the "XS" trademarks and related intellectual
property rights. Additionally, in connection with the sale of the trademarks
and other intellectual property rights, such equipment supplier has forgiven
all amounts owed to it by the Company through October 12, 1997 (which
aggregated approximately $427,000). Pursuant to a license agreement from such
supplier, the Company may continue to use the "XS" trademarks in connection
with the Times Square location. See "--Liquidity and Capital Resources."
Promoting New York Skyride and XS New York to tourist boards (such as
the New York Convention and Visitors Bureau), travel agents, managers of group
activities and visitors to New York City represents a primary focus of the
Company's marketing efforts for these attractions. Since tourists and visitors
are a primary target, special volume discounts are offered to groups such as
conventions and trade associations, as well as through travel agent packages.
School groups are also a significant market for New York Skyride and XS New
York, and special programs are being implemented to target these audiences,
especially during the slower tourist periods in the fall and winter months.
Additionally, the Company's marketing efforts have focused significant
attention on promoting New York Skyride and XS New York for birthday parties
and special events.
During December 1996, the Company had signed a letter of intent to
develop a simulator attraction, similar to New York Skyride, to be located at
the base of the tower above the Centrepoint Shopping Center which adjoins the
world famous Sydney Tower (the "Tower") in Sydney, Australia. However, the
Company was not successful in finalizing lease negotiations with the landlord
of the Tower or arranging for adequate financing for its "Sydney Skyride"
project. The Company was informed that the location was subsequently leased to
a group of investors whose intentions are to develop a simulator attraction.
The Company is in the process of seeking to license or sell to other
entertainment companies the Australian-themed film footage taken by the
Company. There can be no assurance that the Company will be able to
successfully license or sell such film, in which event, the Company may be
required to writeoff the carrying balance of the $990,000 expended in
connection with this project as of September 30, 1998 (of which a substantial
portion has already been written off).
The Company intends to use the expertise and experience which it
gained from the operation of New York Skyride and XS New York to develop
similar attractions at other locations primarily in the United States.
However, there can be no assurance that the Company will be successful in
obtaining rights to other "prime" locations, procuring necessary financing or
developing these attractions in a timely and profitable manner.
12
<PAGE>
The Company's revenues are generated primarily form ticket sales for
New York Skyride and game revenues at XS New York, with additional revenues
generated from the sales of food, beverages and souvenir merchandise. The
Company has entered into corporate sponsorship and advertising arrangements
with certain consumer product companies which provide additional revenues and
marketing exposure.
The Company will continue to market and promote its various
activities through traditional print advertising in publications that go to
New York City tourists and others, as well as broaden its advertising and
promotional programs to the general public through local radio and newspaper
advertising.
Results of Operations
Revenues. Revenues generated during the three months ended September
30, 1998 aggregated $2,940,000 as compared to $3,136,000 for the three months
ended September 30, 1997. The decrease in revenues for the three months ended
September 30, 1998, from the prior year period is primarily due to the
decrease in game revenues at the Company's XS New York facility, which
accounted for total revenues of $1,023,000 during the three months ended
September 30, 1998 as compared to $1,263,000 for the three months ended
September 30, 1997.
Management expects to continue to supplement its primary revenue
stream from ticket sales form New York Skyride and game revenue at XS New York
by selling corporate sponsorships from consumer product companies. During the
three months ended September 30, 1998 and 1997, the Company earned
approximately $31,000 and $88,000, respectively, in sponsorship income as a
result of monthly fees and capital improvements received from sponsors.
Current agreements with the Company's sponsors (one of which expired in August
1998 and one of which expires in May 1999) are expected to provide annual
sponsorship fees aggregating approximately $75,000 for the year ended June 30,
1999.
Operating Expenses. Operating expenses incurred for the three months
ended September 30, 1998 aggregated $3,291,000 as compared to $3,241,000 for
the three months ended September 30, 1997. The increase is due primarily to
scheduled rent expense increases at the New York Skyride and additional space
in the Empire State Building of approximately $65,000 as well as an increase
in certain printing and promotional advertising costs at both New York Skyride
and XS New York of approximately $141,000. In addition, the Company has, as a
result of negotiations with certain creditors, recorded an extraordinary gain
from restructuring of payables of approximately $207,000 for the three months
ended September 30, 1998 as compared to approximately $385,000 for the three
months ended September 30, 1997. Lastly, the Company had an increase in
depreciation expense of approximately $51,000 for the three months ended
September 30, 1998 as compared to the prior year period at its XS New York
facility. This increase is attributed to the required recording of an
impairment loss and write-down of the carrying value of its assets, for the
year ended June 30, 1998, as a result of the cancellation clause in its lease
and the published reports of a sale of the property. The Company was required
to accelerate depreciation by reducing the depreciable lives of its existing
assets and depreciate them over a two year period.
Net Loss and Loss Per Share. Basic and diluted net loss and loss per
share available to common shareholders were ($617,000) and ($.37) for the
three months ended September 30, 1998 as compared to ($339,000) and ($.20) for
the three months ended September 30, 1997. The net loss for the three months
ended September 30, 1998 primarily included a net loss of approximately
($449,000) related to XS New York (see "Operating Expenses" above) and a net
loss of approximately ($163,000) related to New York Skyride. However, for the
three months ended September 30, 1998, New York Skyride had net income from
operations (before interest expense and taxes) of approximately $343,000
(excluding legal fees relating to legal proceedings with the ESBCo and rent on
additional space at the Empire State Building), as compared to net income from
operations (before interest expense and taxes) of approximately $195,000 for
the three months ended September 30, 1997. Net income from operations at New
York Skyride improved from the previous period primarily as a result of a
reduction in overhead at New York Skyride. XS New York incurred a net loss
from operations (before interest expense and taxes) of approximately
($444,000) for the three months ended September 30, 1998 as compared to a net
loss from operations (before interest expense and taxes) of approximately
($334,000) for the three months ended September 30, 1997. Net loss from
operations at XS New York increased from
13
<PAGE>
the previous period primarily as a result of a decrease in game revenues as
well as the acceleration of depreciation expense resulting from the required
write-down of its assets and reduction of their depreciable lives.
Working Capital Deficiency. Working capital deficiency at September
30, 1998, was approximately ($4,803,000) compared to a working capital
deficiency of approximately ($4,881,000) at September 30, 1997. The decrease
in working capital deficiency is primarily the result of Company's ability to
negotiate with certain creditors and favorably restructure its payables which
resulted in the recording of an extraordinary gain for the period.
Liquidity and Capital Resources
In February 1994, the Company consummated an initial public offering
("IPO") of 1,495,000 Units (the "Units") (including exercise of the
over-allotment option in April 1994), each Unit consisting of one share of
Common Stock, $.001 par value (the "Common Stock"), one Redeemable Class A
Warrant (the "Class A Warrants") and one Redeemable Class B Warrant (the
"Class B Warrants"). Each Class A Warrant entitles the holder thereof to
purchase, at any time until February 14, 1999, one share of Common Stock and
one Class B Warrant at an exercise price of $6.01, as adjusted. Each Class B
Warrant entitles the holder thereof to purchase, at any time until February
14, 1999, one share of Common Stock at an exercise price of $7.91 per share,
as adjusted. The Class A Warrants and Class B Warrants are subject to
redemption under certain conditions. The Company received aggregate net
proceeds of approximately $6,200,000 in connection with this offering, which
proceeds were used principally for the development of New York Skyride.
On July 7, 1995, in order to pay the Company's creditors, provide
capital for future growth and expansion and allow for an extensive promotional
and marketing campaign, the Company consummated a private placement with
Prospect Street NYC Discovery Fund, L.P. ("Prospect Street") whereby 1,090,909
shares of Series A Convertible Participating Preferred Stock (the "Preferred
Stock") were sold for gross proceeds of $2.75 per share aggregating
$3,000,000. The Preferred Stock was convertible into Common Stock of the
Company at any time on a share-for-share basis, which was substantially
adjusted to a conversion rate of 6.91 shares of Common Stock for each share of
Preferred Stock in connection wit the Financing described below. The holders
of the Preferred Stock are entitled to an aggregate of up to 24.9% of the
outstanding voting power of the Company on all matters which come before the
shareholders. Additionally, so long as 272,727 shares of Preferred Stock
remain outstanding, the holders thereof will have the ability to obtain up to
50.1% of the outstanding voting power of the Company and elect a majority of
the Board of Directors in the event the holders of the Preferred Stock
determine in good faith that such action is reasonably necessary for the
protection of their investment. Since Prospect Street is a Small Business
Investment Company subject to the regulatory oversight of the Small Business
Administration ("SBA"), the exercise of this control provision cannot be made
arbitrarily and is subject to SBA review. The Preferred Stock is subject to a
Registration Rights Agreement granting both demand and piggyback registration
rights.
At September 30, 1998, the Company had a working capital deficiency
of approximately ($4,803,000) compared to a working capital deficiency of
($4,881,000) at September 30, 1997 which was due primarily to the Company's
restructuring of certain liabilities with trade creditors which resulted in
the recording of extraordinary gains for the period. Since inception, the
Company spent approximately $6,627,000 related to capital expenditures with
respect to New York Skyride and approximately $7,980,000 related to capital
expenditures and leasing costs with respect to XS New York. However, for the
year ended June 30, 1998, the Company has recorded an impairment loss and taken
a write-down of the carrying value of its assets at both New York Skyride and
XS New York and recorded a loss relating to the retirement of certain virtual
reality equipment. Additionally, since April 1996, the Company had expenditures
of approximately $873,000 for security deposits, financing costs and leasing
costs associated with the XS New York project.
As a result of the Company's development of XS New York, the Company
incurred capital expenditures of approximately $7,885,000, consisting of
$847,000 in design and consulting fees, $5,165,000 in construction and
theming, $255,000 for signage and approximately $1,618,000 for equipment
purchases. For the year ended June 30, 1998, the Company has taken a write-down
of the carrying value of these assets and a loss relating to the retirement of
certain virtual reality equipment. In order to complete the construction of XS
New York and provide additional working
14
<PAGE>
capital for growth and expansion, the Company raised additional secured and
unsecured debt through its relationships with its institutional investors and
lenders as described below.
On December 20, 1996, the Company entered into a Senior Credit
Agreement (the "Senior Credit Agreement") with Prospect Street and Bank of New
York, as Trustee for the Employees Retirement Plan of the Brooklyn Union Gas
Company ("BUG"), to obtain up to $4,100,000 in senior unsecured subordinated
debt which accrues interest at an annual rate of 14% and requires the payment
of both principal and interest five years from the date of issuance. The
Senior Credit Agreement was subsequently amended to increase the amount of the
subordinated debt to $4,450,000 and to provide for the inclusion of additional
lenders. Of such increased amount $2,500,000 was received by the Company from
BUG and a related pension fund and $1,950,000 was received by the Company from
Prospect Street and its affiliates. In connection with the Senior Credit
Agreement, BUG and its related pension fund received warrants to purchase up
to an aggregate of 243,904 shares of Common Stock and Prospect Street and its
affiliates received warrants to purchase up to an aggregate of 190,242 shares
of Common Stock, each exercisable until December 20, 2006 at an exercise price
of $4.25 per share. A purchase price of $1.00 per warrant was allocated from
the subordinated debt proceeds received by the Company. As part of this
financing, on November 6, 1996, Prospect Street provided the Company with a
demand loan of $1,500,000, at an annual interest rate of 14%, which loan was
exchanged for a portion of the subordinated debt under the Senior Credit
Agreement.
During June 1997, the Company received an additional $500,000 loan
from Prospect Street. During December 1997, the Company received a $500,000
loan from a bank bearing interest at the rate of 7.6% per annum that is
secured by a certificate of deposit from Prospect Street.
On April 15, 1998, the Company and its subsidiaries entered into a
Senior Secured Credit Agreement (the "Credit Agreement") with the Bank of New
York, as Trustee for the Employees Retirement Plan of Keyspan Energy Corp.
("Keyspan") and Prospect Street (together with Keyspan, the "Institutional
Investors") relating to the financing of an aggregate of $935,000 ($500,000
from Keyspan and $435,000 from Prospect Street) (the "Financing"), in exchange
for receipt by the Institutional Investors of senior secured promissory notes
(the "Notes") and the issuance of warrants to purchase shares of Common Stock
of the Company (the "Warrants"). The Notes matured on July 15, 1998, accrue
interest at a per annum rate equal to 14% and are secured (with certain
exceptions) by all the assets of the Company and its subsidiaries. The
Institutional Investors have not demanded payment of the Notes. The Notes and
the obligations under the Credit Agreement and the Warrants are also
collateralized by a pledge of the stock of the Company's subsidiaries. In
connection with the Credit Agreement, Keyspan also received the right to
appoint two members to the Company's Board of Directors. Further, as a result
of the issuance of Warrants in connection with the Financing, the conversion
rate of the Series A Preferred Stock (the "Preferred Stock") held by Prospect
Street was adjusted from a conversion rate of one share of Common Stock for
each share of Preferred Stock to a conversion rate of 6.91 shares of Common
Stock for each share of Preferred Stock. On May 29, 1998, the Credit Agreement
was amended to increase the loan amount funded by Keyspan from an aggregate of
$500,000 to $1,850,000 which increased the total financing from $935,000 to
$2,285,000. Additionally, subsequent to June 30, 1998, the Credit Agreement
was further amended to include under its terms the $500,000 demand loan to the
Company from Prospect Street in June 1997.
The Warrants are exercisable for 94% of the fully diluted Common
Stock of the Company (after issuance) at an exercise price of $.375 per share.
Accordingly, the exercise of such Warrants by the Institutional Investors will
result in a significant change in the ownership of the Company. The Company
approved this transaction after consideration of its alternatives and
financial situation. The Warrants are exercisable for approximately 173
million shares of Common Stock for an exercise price of approximately $64.9
million, or, at the option of the holder, pursuant to a cashless exercise
feature, the difference in shares between 173 million shares and that number
of shares having a market value equal to $64.9 million (i.e., at a market
price per share of $.40, an aggregate of 10.8 million shares of Common Stock
will be issued) resulting in significant dilution to existing shareholders.
A portion of the proceeds of the Financing were used to pay certain
undisputed rental amounts owing to the ESBCo pursuant to an order issued by
the Supreme Court of the State of New York on April 3, 1998 requiring the
Company to pay $838,000. With respect to the current legal proceedings, the
judge granted the preliminary injunction
15
<PAGE>
against the ESBCo and its affiliates. The issues with respect to disputed
rental amounts (approximately $1,000,000) were referred to a referee for final
determination pursuant to a hearing currently scheduled in December 1998. The
Company intends to proceed with discovery with respect to its other claims for
damages against the ESBCo and others.
On September 2, 1998, the Company and its subsidiaries entered into a
Debt to Equity Conversion Agreement (the "Conversion Agreement") with its
Institutional Investors. Pursuant to the Conversion Agreement, the
Institutional Investors have agreed, subject to certain conditions, to convert
all of their respective indebtedness of the Company (the "Debt"),
approximately $7.235 million principal amount plus approximately $1.225
million of accrued interest thereon through September 30, 1998 (the "Initial
Conversion Value") into approximately 8,460 shares of Series B Convertible
Redeemable Preferred Stock of the Company (the "Series B Preferred Stock").
The Institutional Investors have agreed to such conversion in an effort to
comply with certain Nasdaq SmallCap Market ("Nasdaq") net worth criteria to
maintain the listing of the Company's Common Stock on Nasdaq and to make the
Company's balance sheet and capital structure more attractive to potential
investors and the financial community. Provided the Company's listing of its
Common Stock on Nasdaq is maintained, the conversion of the Debt will be
subject to the approval of the issuance of the Series B Preferred Stock by the
shareholders of the Company at the next annual meeting of shareholders or,
alternatively, receipt from Nasdaq of a waiver of such shareholder approval
requirement. In the event the Company's listing of its Common Stock on Nasdaq
is not maintained, it is unclear whether or not the Institutional Investors
will convert all or a portion of the Debt.
The holders of shares of Series B Preferred Stock will be entitled to
a 10% cumulative dividend when, as and if declared by the Board. The shares of
Series B Preferred Stock will be convertible by the holders thereof into that
number of shares of Common Stock of the Company calculated by dividing $1.30
into the Initial Conversion Value of the Series B Preferred Stock (i.e.,
$1,000 per share or an aggregate of $8.46 million), subject to adjustment,
plus any accumulated dividends. The Series B Preferred Stock is redeemable by
the Company, in whole or in part, at any time upon payment of the Initial
Conversion Value per share (as adjusted from time to time), plus any
accumulated dividends. The Institutional Investors also have certain
registration rights with respect to the Common Stock issuable upon conversion
of the Series B Preferred Stock.
Additionally, on September 3, 1998, representatives of the Company
and the Institutional Investors met with Nasdaq in connection with a hearing
to determine the Company's eligibility to maintain the listing of its Common
Stock on Nasdaq. Nasdaq's hearing panel requested the Company to furnish it
with additional information with respect to the amount of time within which it
will take for the Company to accomplish its proposed plan of compliance. The
Company has submitted such additional information to Nasdaq on September 15,
1998 and is hopeful that a decision will be rendered by the hearing panel by
mid-November 1998. There can be no assurance that a decision will be rendered
by such time or that such decision will be favorable to the Company. Further,
such decision may be subject to conditions or other restrictions which the
Company may not be able to comply with or which may make it more difficult to
trade in the Company's securities. An unfavorable decision will result in the
immediate delisting of the Company's Common Stock from Nasdaq irrespective of
the Company's ability to appeal such decision. Any such delisting will have an
adverse impact on the liquidity of the Company's securities, which may then
trade on the OTC Bulletin Board or the over-the-counter market, which may make
it more difficult to trade in the Company's securities or liquidate an
investor's holdings. Also, such delisting may make it more difficult for the
Company to raise additional capital.
During November 1996, an institutional lender agreed to finance the
acquisition of certain of the equipment for the Company's XS New York site up
to an aggregate of $1,327,000. Pursuant to this transaction, the Company
received proceeds of approximately $832,000 and an additional $495,000 is
being held by the lender as security. Such security is to be released in March
1999 subject to a satisfactory payment history by the Company. The lender has
a first security interest in all equipment financed and the Company's former
president has personally guaranteed up to $750,000 of the loan amount. The
amount financed will bear annual interest at 11 1/2% and is to be repaid in 48
monthly installments. In connection with this transaction, the Company issued
to such institutional lender warrants to purchase up to 50,000 shares of the
Company's Common Stock at an exercise price of $6.00 per share.
During March 1997, the Company signed an agreement with its
institutional lender to finance the acquisition of additional equipment for XS
New York aggregating approximately $256,000. The terms of the loan are the
same as
16
<PAGE>
described in the previous paragraph except that the security amount withheld
by the lender is $51,000 and the personal guarantee from the Company's former
president is $125,000.
During December 1996, the Company refinanced certain loans on the
equipment located at its New York Skyride location for aggregate proceeds of
$1,500,000 of which approximately $491,000 was applied to satisfy amounts due
under the original loan. The loan bears annual interest at 11 1/2% and is to
be repaid in 48 monthly installments and is secured by a first lien on all
equipment at New York Skyride. The Company's former president has guaranteed
up to $250,000 of this loan.
The lease for the XS New York location contains a cancellation clause
exercisable at any time in the event the landlord commences construction of an
office building and uses incidental thereto on the site at some future date.
Should the landlord exercise the cancellation clause, the Company would be
required to vacate the space within six months after notice, but would be
entitled to reimbursement during the first five years of the lease of a
portion of its out-of-pocket construction costs, not to exceed $125 per square
foot. In the event the lease is canceled, the Company will incur a charge to
earnings equal to the unamortized portion of its investment (adjusted for
assets which are sold and reimbursed construction costs) at the time of such
lease cancellation. The Company has become aware of plans by the landlord to
sell the property to a developer. The Company is not certain of the timing of
the sale of such property or whether such developer will construct an office
building on the site. As of June 30, 1998, the Company was required to record
an impairment loss and write-down the carrying value of its assets at XS New
York as a result of the existence of the cancellation clause in its lease and
the published reports of a sale of the property. The Company has not received
notice of exercise of the cancellation clause and believes that the site may
continue to operate through June 30, 2000. However, there can be no assurance
that the landlord will not cancel the lease earlier. Cancellation of the lease
will have a material adverse effect on the Company's operations and financial
condition taken as a whole.
The Company's independent auditors have included an explanatory
paragraph in their report on the Company's Financial Statements to the effect
that certain matters raise substantial doubt about the Company's ability to
continue as a going concern, which is contingent upon, among other things, the
Company's ability to secure financing and attain profitable operations. See
Financial Statements.
The Company's long term goal is to develop simulator and other
location-based entertainment attractions in other major cities primarily in
the United States. There are, however, only a limited number of locations in a
small number of cities that are suitable for such attractions, and there can
be no assurance that the Company could obtain a lease at any such locations or
develop a successful attraction at such locations. Also, development of
additional attractions will require the Company to obtain financing for such
ventures, and there can be no assurance that such financing will be available,
or available on terms and conditions that are acceptable to the Company.
Additionally, it is possible that the Company would find it necessary to have
one or more local partners involved in any additional attractions it might
attempt to develop, further limiting the revenues that the Company could
generate from these locations.
The Company continually explores expansion opportunities both in the
United States and abroad. From time to time, the Company may be involved in
negotiations for additional sites or other entertainment-based projects,
however, current negotiations, if any, are too preliminary to warrant
additional disclosure at this time. The Company will keep investors informed
as such negotiations mature.
Inflation
The Company believes that the impact of inflation on its operations
since its inception has not be material.
Seasonality
The Company's business is seasonal in nature, based in part, on
higher volumes of tourists in the New York City Metropolitan area during the
spring and summer months and during the December holiday season. The Company
will direct a portion of its marketing and promotional efforts in the New York
City Metropolitan area to (i) attracting
17
<PAGE>
a larger percentage of the Observatory traffic at the Empire State Building,
thereby increasing volume to New York Skyride and (ii) attracting visitors to
XS New York, particularly during non-peak seasons.
Year 2000 Compliance
There are issues associated with the programming code in existing
computer systems as the year 2000 approaches. The "year 2000 problem" is
pervasive and complex, as virtually every computer operation will be affected
in some way by the rollover of the two digit year value of 00. The issue is
whether computer systems will properly recognize date sensitive information
when the year changes to 2000. Systems that do not properly recognize such
information could generate erroneous data or cause a system to fail. The
Company has not verified that companies doing business with it are year 2000
compliant. The Company does not anticipate that it will incur significant
operating expenses or be required to invest heavily in computer system
improvements to be year 2000 compliant. The Company believes that its
attraction, ticketing, accounting and other computer systems are currently
year 2000 compliant. However, significant uncertainty exists concerning the
potential costs and effects associated with year 2000 compliance. Any year
2000 compliance problem the Company encounters could have a material adverse
effect on the Company's business, results of operations and financial
condition.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
The Company was a defendant in a lawsuit filed by Knightsbridge, Ltd.
A construction contractor hired by the Company in connection with its XS New
York project. The action, commenced in June 1997, in the Supreme Court of the
State of New York has been settled subsequent to the fiscal year end.
Plaintiff alleged, among other things, non-payment of approximately $1,500,000
due under a construction contract with the Company plus costs and fees. The
Company has settled this action by paying plaintiff and various subcontractors
an aggregate of $1,150,000, except that three subcontractors hired by
plaintiff have refused to become parties to such settlement and maintain that
the Company owes them an aggregate of $195,000, against which the Company has
established an adequate reserve. Accordingly, the Company believes that the
outcome of any remaining claims of the subcontractors will not have a material
adverse effect on the Company's financial condition or results of operations.
On December 23, 1997 the Company filed an action in the Supreme Court
of the State of New York, County of New York, against Empire State Building
Company ("ESBCo"), Empire State Building Associates, Helmsley-Spear, Inc.
et.al., seeking among other things, injunctive relief to prohibit the ESBCo
from terminating the Company's Lease and the Licence Agreement relating to the
New York Skyride and also seeking damages from the ESBCo. The basis for the
Company's claims are, among other things, the lack of cooperation by the ESBCo
and its staff in violation of the Lease and the License Agreement, as well as
bad faith, fraud and self-dealing on the part of the ESBCo and certain members
of its management staff. The Company has received a preliminary injunction,
which, among other things, prohibits the ESBCo from terminating or canceling
the Lease and the License Agreement and restrains the ESBCo from interfering
with the Company's business or commencing any proceedings with respect to the
Lease and the License Agreement. A hearing with respect to the temporary
restraining order was held on February 6, 1998. The decision by the Judge was
received on April 3, 1998, which ordered the Company to pay $838,000 in
undisputed rent, submitted the determination of disputed rent amounts to a
referee pursuant to a hearing currently scheduled in December 1998, and
granted the Company's motion for a preliminary injunction. The Company intends
to proceed with discovery with respect to its other claims for damages against
the ESBCo and its affiliates.
Item 2. Changes in Securities And Use of Proceeds
Not applicable.
Item 3. Defaults Upon Senior Securities
Not applicable
18
<PAGE>
Item 4. Submission of Matters to a Vote of Security Holders
Not applicable
Item 5. Other Information
Not applicable
Item 6. Exhibits and Reports on Form 8-K
(a) See Exhibit Index located at the end of this report.
(b) The following Current Reports have been filed during the
period.
(i) Current Report on Form 8-K filed on July 10, 1998
reporting the terms of an amendment to the May 20,
1998 financing agreement increasing the loan
proceeds thereunder and also reporting certain
senior management and director changes.
(ii) Current Report on Form 8-K filed on September 17,
1998 reporting the entering into of the Conversion
Agreement with the Company's Institutional
Investors converting certain debt to equity,
subject to certain conditions. Also, such filing
reported that a hearing was held with the Nasdaq
SmallCap Market to determine the eligibility of
continued listing of the Company's Common Stock. A
decision relating to such listing has not yet been
made.
19
<PAGE>
INDEX TO EXHIBITS
Exhibit
Number Description
- ------ -----------
3.1 Certificate of Incorporation of the Company. (1)
3.2 By-laws of the Company. (1)
3.3 Certificate of Amendment of Certificate of Incorporation
relating to the issuance of the Preferred Stock. (2)
4.1 See Exhibits 3.1 and 3.2
10.1 The Company's 1994 Stock Incentive Plan (as Amended and
Restated). (9)
10.2 The Company's Stock Option Plan for Non-Employee Directors (as
Amended and Restated). (9)
10.3 Employment Agreement dated October 1, 1993 between the Company
and Zalman Silber. (1)
10.4 Lease Agreement dated February 26, 1993 between the Company
and Empire State Building Company. (1)
10.5 License Agreement dated February 26, 1993 between the Company
and the Empire State Building Company. (1)
10.6 Purchase Agreement dated February 14, 1994 between the Company
and Interactive Simulation, Inc. (3)
10.7 Film Production Agreement dated April 7, 1994 between the
Company and Empire Productions, Inc., and Chromavision Corp.
(3)
10.8 Lease Agreement dated April 14, 1994 between the Company and
the Empire State Building Company relating to the Company's
executive offices. (3)
10.9 Lease Agreement dated February 8, 1994 between the Company and
the Empire State Building Company relating to additional
space. (3)
10.10 Construction contract dated July 5, 1994 between the Company
and Signature Construction Group Inc. (4)
10.11 Loan and security agreement dated November 16, 1994 between
the Company and PhoenixCor, Inc. (5)
10.12 Employment Agreement dated August 15, 1994 between the Company
and Steven Schwartz. (5)
10.13 Sponsorship Agreement dated February 21, 1995 between the
Company and Dentsu USA, Inc. on behalf of JVC Company of
America. (6)
10.14 Stock Purchase Agreement, dated as of July 7, 1995, between
the Company and Prospect Street Fund. (2)
10.15 Registration Rights Agreement dated as of July 7, 1995 between
the Company and Prospect Street Fund relating to the Common
Stock issuable upon conversion of the Preferred Stock. (2)
20
<PAGE>
Exhibit
Number Description
- ------ -----------
10.16 Guarantee of Zalman Silber dated as of July 7, 1995 relating
to the guarantee of the Company's obligations under the Stock
Purchase Agreement. (2)
10.17 Stockholders' Agreement dated as of July 7, 1995 between
Zalman Silber and Prospect Street Fund. (2)
10.18 Amendment to Employment Agreement dated June 29, 1995 between
the Company and Zalman Silber. (7)
10.19 Agreement dated March 16, 1995 by and between Skyline,
PhoenixCor, Inc. and Zalman Silber relating to the release of
certain security deposits; and the Rider dated March 16, 1995
to the Individual Guaranty of Zalman Silber. (7)
10.20 Lease amendment dated March 1996 between the Company and the
Empire State Building relating to additional space. (8)
10.21 Amendment dated March 1996, to the Company's original lease
and license agreement with the Empire State Building Company.
(8)
10.22 Lease agreement dated March 1996 between the Company and One
Times Square Center Partners, L.P., for space located at
1457-1463 Broadway, New York, N.Y. (8)
10.23 Lease agreement dated September 5, 1996 between the Company
and Woodfield Associates, for space located at the Woodfield
Mall in Schaumberg, Illinois. (9)
10.24 Letter of Intent relating to senior unsecured subordinated
debt financing dated October 23, 1996, between the Company and
Prospect Street. (10)
10.25 Note Purchase Agreement dated November 6, 1996, between the
Company and Prospect Street. (10)
10.26 Guarantee of Zalman Silber dated November 6, 1996 relating to
the Note Purchase Agreement. (10)
10.27 Senior Credit Agreement dated December 20, 1996, between the
Company and Prospect Street and Bank of New York as Trustee
for the Employees Retirement Plan of The Brooklyn Union Gas
Company. (11)
10.28 Subsidiary Guaranty Agreement dated December 20, 1996, between
the Company and Prospect Street. (11)
10.29 Indemnity, Subrogation and Contribution Agreement dated
December 20, 1996, between the Company and Prospect Street.
(11)
10.30 Amended and restated Registration Rights Agreement dated
December 20, 1996, between the Company, Prospect Street, and
Bank of New York as Trustee for the Employees Retirement Plan
of The Brooklyn Union Gas Company. (11)
10.31 Senior Promissory Note dated December 20, 1996, between the
Company and Prospect Street. (11)
10.32 Senior Promissory Note dated December 20, 1996 between the
Company and Bank of New York as Trustee for the Employees
Retirement Plan of The Brooklyn Union Gas Company. (11)
21
<PAGE>
Exhibit
Number Description
- ------ -----------
10.33 Stock Purchase Warrant Agreements dated December 20, 1996,
between the Company, Prospect Street, and Bank of New York as
Trustee for the Employees Retirement Plan of The Brooklyn
Union Gas Company. (11)
10.34 Loan and Security Agreement dated December 4, 1996, between
the Company and People's Bank. (11)
10.35 Loan and Security Agreement dated December 4, 1996, between
the Company and Independent Resources Inc. (11)
10.36 Loan and Security Agreement dated December 4, 1996, between
the Company and PhoenixCor, Inc. (11)
10.37 Guarantees of Zalman Silber dated December 4, 1996 relating to
the Loan and Security Agreements with People's Bank and
PhoenixCor, Inc. (11)
10.38 Senior Promissory Note dated February 18, 1997 between the
Company and Bank of New York, as Trustee for the Employees
Retirement Plan of The Brooklyn Union Gas Company. (12)
10.39 Senior Promissory Note dated March 14, 1997 between the
Company and Prospect Street NYC Co-Investment Fund, L.P. (12)
10.40 Senior Promissory Note dated March 21, 1997 between the
Company and Bank of New York, as Trustee for Brooklyn Union
Gas Company Non-Bargaining Health VEBA. (12)
10.41 Stock Purchase Warrant Agreement dated February 18, 1997
between the Company and Bank of New York, as Trustee for the
Employee Retirement Plan of The Brooklyn Union Gas Company.
(12)
10.42 Stock Purchase Warrant Agreements dated March 14, 1997 between
the Company and Prospect Street NYC Co-Investment Fund, L.P.
(12)
10.43 Stock Purchase Warrant Agreement dated March 21, 1997 between
the Company and Bank of New York, as Trustee for Brooklyn
Union Gas Company Non-Bargaining Health VEBA. (12)
10.44 Purchase Agreement, dated as of November 4, 1997, by and among
the Company, Skyline Virtual Reality, Inc. ("SVR") and Namco
Cybertainment, Inc. ("Namco"). (13)
10.45 Trademark License Agreement, dated as of November 4, 1997,
between SVR and Namco. (13)
10.46 Revenue-Sharing Agreement, dated as of November 4, 1997, by
and among the Company, SVR and Namco. (13)
10.47 Employment Agreement dated as of December 1, 1997 between the
Company and Zalman Silber. (14)
10.48 Senior Secured Credit Agreement dated as of May 20, 1998 among
the Company's and its subsidiaries and Prospect Street and
Bank of New York, as Trustee for the Employees Retirement Plan
of Keyspan Energy Corp. ("Keyspan", and together with Prospect
Street, the "Institutional Investors"). (15)
10.49 Form of Warrants to Purchase Common Stock to be issued to the
Institutional Investors. (15)
22
<PAGE>
Exhibit
Number Description
- ------ -----------
10.50 Senior Secured Demand Promissory Notes dated as of May 20,
1998 issued to the Institutional Investors. (15)
10.51 Security Agreement dated as of May 20, 1998 among the Company
and its subsidiaries and the Institutional Investors. (15)
10.52 Pledge Agreement dated as of May 20, 1998 among the Company
and its subsidiaries and the Institutional Investors. (15)
10.53 Amended and Restated Separation Agreement and General Release
dated as of May 20, 1998. (15)
10.53A First Amendment to Senior Secured Credit Agreement dated as of
May 29, 1998 among the Company and its subsidiaries and the
Institutional Investors. (16)
10.54 Employment Agreement dated as of May 12, 1998 between the
Company and Steven Schwartz. (16)
10.55 Employment Agreement dated as of June 15, 1998 between the
Company and Jay Berkman. (16)
10.56 Debt to Equity Conversion Agreement dated as of September 2,
1998. (17)
10.57 Registration Rights Agreement dated as of September 2, 1998.
(17)
10.58 Form of Certificate of Amendment to Certificate of
Incorporation. (17)
21 Subsidiaries of the Company. (9)
27.1 Financial Data Schedule.
(1) Previously filed as an exhibit to Registration Statement on Form SB-2
(Commission File No. 33-73276) declared effective on February 14,
1994.
(2) Previously filed as an exhibit to the Company's current report on
Form 8-K filed on July 21, 1995.
(3) Previously filed as an exhibit to the Company's annual report on Form
10-KSB for the fiscal year ended June 30, 1994.
(4) Previously filed as an exhibit to the Company's quarterly report on
Form 10-QSB for the quarter ended September 30, 1994.
(5) Previously filed as an exhibit to the Company's quarterly report on
Form 10-QSB for the quarter ended December 31, 1994.
(6) Previously filed as an exhibit to the Company's quarterly report on
Form 10-QSB for the quarter ended March 31, 1995.
(7) Previously filed as an exhibit to the Company's annual report on Form
10-KSB for the fiscal year ended June 30, 1995.
(8) Previously filed as an exhibit to the Company's quarterly report on
Form 10-QSB for the quarter ended March 31, 1996.
23
<PAGE>
(9) Previously filed as an exhibit to the Company's annual report on Form
10-KSB for the fiscal year ended June 30, 1996.
(10) Previously filed as an exhibit to the Company's quarterly report on
Form 10-QSB for the quarter ended September 30, 1996.
(11) Previously filed as an exhibit to the Company's quarterly report on
Form 10-QSB for the quarter ended December 31, 1996.
(12) Previously filed as an exhibit to the Company's quarterly report on
Form 10-QSB for the quarter ended March 31, 1997.
(13) Previously filed as an exhibit to the Company's quarterly report on
Form 10-QSB for the quarter ended September 30, 1997.
(14) Previously filed as an exhibit to the Company's quarterly report on
Form 10-QSB for the quarter ended December 31, 1997.
(15) Previously filed as an exhibit to the Company's quarterly report on
Form 10-QSB for the quarter ended March 31, 1998.
(16) Previously filed as an exhibit to the Company's current report on
Form 8-K filed on July 10, 1998.
(17) Previously filed as an exhibit to the Company's current report on
Form 8-K filed on September 17, 1998.
24
<PAGE>
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the
registrant caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
SKYLINE MULTIMEDIA ENTERTAINMENT, INC.
By: /s/ Steven Schwartz
-------------------
Steven Schwartz, Executive Director
of Operations and Finance, Co-Chief
Executive Officer, Chief Financial
Officer, Principal Financial and
Accounting Officer, Secretary and
Treasurer
In accordance with the Exchange Act, this report has been signed
below by the following persons on behalf of the registrant and in the
capacities and on the dates indicated.
Date: November 13, 1998 /s/ Jay Berkman
---------------
Jay Berkman, Executive Director of
Marketing and Business Development,
Co-Chief Executive Officer and Director
Date: November 13, 1998 /s/ Steven Schwartz
-------------------
Steven Schwartz, Executive Director of
Operations and Finance, Co-Chief
Executive Officer, Chief Financial
Officer, Principal Financial and
Accounting Officer, Secretary and
Treasurer
Date: November 13, 1998 /s/ Steven Vocino
-----------------
Steven Vocino, Chairman of the Board
Date: November 13, 1998 /s/
------------------
Thomas Riordan, Director
Date: November 13, 1998 /s/ David Shamilzadeh
---------------------
David Shamilzadeh, Director
Date: November 13, 1998 /s/
---------------------
John F. Barry, III, Director
25
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> JUN-30-1999
<PERIOD-END> SEP-30-1998
<CASH> 1,392,000
<SECURITIES> 0
<RECEIVABLES> 0
<ALLOWANCES> 0
<INVENTORY> 121,000
<CURRENT-ASSETS> 1,799,000
<PP&E> 10,658,000
<DEPRECIATION> 3,789,000
<TOTAL-ASSETS> 10,121,000
<CURRENT-LIABILITIES> 6,602,000
<BONDS> 0
0
1,000
<COMMON> 3,000
<OTHER-SE> (4,305,000)
<TOTAL-LIABILITY-AND-EQUITY> 10,121,000
<SALES> 2,571,000
<TOTAL-REVENUES> 2,940,000
<CGS> 179,000
<TOTAL-COSTS> 3,291,000
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 473,000
<INCOME-PRETAX> (824,000)
<INCOME-TAX> 0
<INCOME-CONTINUING> (824,000)
<DISCONTINUED> 0
<EXTRAORDINARY> 207,000
<CHANGES> 0
<NET-INCOME> (617,000)
<EPS-PRIMARY> (0.37)
<EPS-DILUTED> 0.00
</TABLE>
