U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION
13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended March 31, 2003,
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to __________
Commission File Number 0-28690
SHOPNET.COM, INC.
(Exact Name of Small Business Issuer as Specified in its Charter)
Delaware 13-3871821
------------------------------------ ----------------------------------
(State or Other Jurisdiction of (IRS Employer Identification No.)
Incorporation or Organization)
112 West 34th Street, Suite 902, New York, New York 10120
(Address of Principal Executive Offices)
(212) 967-8303
(Issuer's Telephone Number, Including Area Code)
14 East 60th Street, Suite 402, New York, NY 10022
------------------------- ---------------------------------------------------
(Former Name, Former Address, and Former Fiscal Year, if Changed Since Last
Report)
Check whether the Issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the past 12
months (or for such shorter period that registrant was required to file such
reports), and (2) has been subject to such filing requirements for the past 90
days. Yes [X] No [ ]
APPLICABLE ONLY TO CORPORATE ISSUERS
State the number of shares of each of the issuer's classes of common
equity outstanding as of the latest practicable date: Common Stock, par value
$.001 par value: 8,067,462 shares outstanding as of May 15, 2003.
SHOPNET.COM, INC. AND SUBSIDIARIES
TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION Page
Number
------------
Item I. FINANCIAL STATEMENTS
Consolidated balance sheets as of March 31, 2003 (Unaudited) and June 30, 2002 3
Consolidated statements of operations and comprehensive income (Unaudited) for the nine and three
months ended March 31, 2003 and March 31, 2002 4
Consolidated statements of stockholders' equity for the nine months ended March 31, 2003
(Unaudited) 5
Consolidated statements of cash flows for the nine months ended March 31, 2003, and March 31,
2002 (Unaudited) 6
Notes to consolidated financial statements (Unaudited) 7
MANAGEMENTS' DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Item 2. 19
Item 3. CONTROLS AND PROCEDURES 31
PART II. OTHER INFORMATION 32
SHOPNET.COM, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
As of March 31, 2003 and June 30, 2002
March 31, June 30,
2003 2002
----------------- -----------------
(Unaudited) (Audited)
ASSETS (Note 2)
------
Current assets:
Cash $ 3,021 $ 3,309
Accounts receivable, net 14,304 19,109
Other receivables 70,196 88,118
Inventory 1,549,900 230,049
Prepaid expenses 238,961 298,968
Advances to officer 40,000 40,000
----------------- ----------------
Total current assets 1,916,382 679,553
----------------- ----------------
Property and equipment, net 87,378 70,044
Film production and distribution costs, net 1,204,728 1,204,728
Costs in excess of net assets of business acquired 727,261 727,261
Investments in movie ventures 232,159 246,399
Deferred tax asset-non-current 224,240 224,240
Other assets 27,306 27,078
----------------- ----------------
2,503,072 2,499,750
----------------- ----------------
Total assets $ 4,419,454 $ 3,179,303
================= ================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Due to factor $ 1,364,327 $ 690,595
Accounts payable 922,224 280,003
Loan payable 50,000 -
Accrued expenses 115,096 4,782
Capital lease obligations current portion 5,225 3,938
Other taxes payable 2,328 2,214
Deferred tax liability 5,188 5,188
----------------- ----------------
Total current liabilities 2,464,388 986,720
----------------- ----------------
Long term liabilities:
Capital lease obligations-net of current portion
Total long term liabilities 10,115 -
----------------- ----------------
Total liabilities 2,474,503 986,720
----------------- ----------------
Commitments and contingencies
Stockholders' equity
Common stock- $.001 par value, 20,000,000 shares authorized, 8,067,462
shares issued and outstanding at March 31, 2003 and 7,472,224 shares
issued and
outstanding at June 30, 2002 8,067 7,472
Capital in excess of par value 6,653,257 6,638,852
Accumulated deficit (4,716,373) 4,453,741)
----------------- ----------------
Total stockholders' equity 1,944,951 2,192,583
----------------- ----------------
Total liabilities and stockholders' equity $ 4,419,454 $3,179,303
================= ================
The accompanying notes should be read in conjunction with the consolidated
financial statements
-3-
SHOPNET.COM, INC. AND SUBSIDIARIES
Consolidated Statement of Operations and Comprehensive Income (Loss)
(Unaudited)
Nine Months Ended Three Months Ended
--------------------------- -------------------------
March 31, March 31, March 31, March 31,
2003 2002 2003 2002
----------- ----------- ----------- -----------
Net sales ...................................... $ 5,849,229 $ 6,313,067 $ 5,098,551 $ 4,612,362
Cost of sales .................................. 3,688,757 3,927,537 3,441,519 2,828,915
----------- ----------- ----------- -----------
Gross profit ................................... 2,160,472 2,385,530 1,657,032 1,783,447
----------- ----------- ----------- -----------
Expenses:
Selling, general, and administrative ........... 2,053,631 2,007,246 1,071,884 1,028,099
Amortization of costs in excess of net assets of
business acquired .......................... -- 53,214 -- 17,738
----------- ----------- ----------- -----------
Total expenses ................................. 2,053,631 2,060,460 1,071,884 1,045,837
----------- ----------- ----------- -----------
Income (loss) before other income (expenses) and
provision for income taxes ..................... 106,841 325,070 585,148 737,610
----------- ----------- ----------- -----------
Other income (expenses):
Equity in earnings (loss) of affiliate ......... (15,928) (595) (15,928) (532)
Write down of film costs ....................... -- --
Rental income .................................. -- 9,050 -- --
Interest and financial expense ................. (355,258) (357,941) (265,073) (202,022)
Interest income ................................ 1,713 11,008 777 75
----------- ----------- ----------- -----------
Total other income (expense) ................... (369,473) (338,478) (280,224) (202,479)
----------- ----------- ----------- -----------
Income (loss) before provision for income taxes (262,632) (13,408) 304,924 535,131
Provision (benefit) for income taxes ........... -- -- -- --
----------- ----------- ----------- -----------
Net income (loss) .............................. (262,632) (13,408) 304,924 535,131
----------- ----------- ----------- -----------
Other items of comprehensive income (loss) ..... -- (6,350) -- --
----------- ----------- ----------- -----------
Comprehensive (loss) ........................... $ (262,632) $ (19,758) 304,924 $ 535,131
----------- ----------- ----------- -----------
Basic:
Net income loss per share ...................... $ (.03) $ (Nil $ .04 $ .07
=========== =========== =========== ===========
Weighted average number of common
shares outstanding ............................. 7,802,912 7,472,244 8,067,462 7,472,244
=========== =========== =========== ===========
The accompanying notes should be read in conjunction with the
consolidated financial statements
-4-
SHOPNET.COM, INC. AND SUBSIDIARIES
Consolidated Statement of Stockholders' Equity
For The Six Months Ended December 31, 2002
(Unaudited)
Additional 5% Total
Common Stock Paid-in Accumulated Convertible Stockholders'
Shares Amount Capital Deficit Debentures equity
--------- ------- ---------- ----------- ----------- -------------
Balances at June 30, 2002 (Audited) 7,472,224 $ 7,472 $ 6,638,852 $ (4,453,741) $ - $ 2,192,583
August 28, 2002, issuance of 5% Convertible
debentures - - - - $ 15,000 15,000
Nov. 6, 2002-Conversion of debentures into
595,238 shares 595,238 595 14,405 (15,000) -
Net loss (Unaudited) for the nine
months ended March 31, 2003 (262,632) (262,632)
---------------- ---------- ---------- ----------- ---------- --------------
Balances at March 31 8,067,462 $8,067 $ 6,653,257 $ (4,716,373) $ - $ 1,944,951
================ ========== ========== ============ ========== ==============
The accompanying notes should be read in conjunction with the
consolidated financial statements
-5-
SHOPNET.COM, INC. AND SUBSIDIARIES
Consolidated Statement of Cash Flows
For The Nine Months Ended March 31, 2003 And 2002
(Unaudited)
March 31, March 31,
2003 2002
--------------- ----------
Cash flows from operating activities:
Net loss $ (262,632) $ (13,408)
Adjustments to reconcile net income to net cash used in operating activities:
Equity in loss of affiliate 15,928 595
Amortization and depreciation 22,081 73,857
Decrease (increase) in:
Accounts receivable 4,80 ( 19,884)
Other receivables 17,922 62,734
Inventory (1,319,851) (577,528)
Prepaid expenses 60,007 (187,906)
Advances to officer - (1,971)
Other assets (288) (4,700)
Marketable securities affiliate - 6,350
Increase (decrease) in:
Due to factor 673,732 (835,407)
Accounts payable 640,593 547,905
Accrued expenses 110,314 (834)
Other taxes payable 114 104
-------------- --------------
Net cash used in operating activities (37,275) (950,093)
--------------- -----------
Cash flows from investing activities:
Acquisition of property and equipment (39,415) (28,636)
--------------- -----------
Net cash used in investing activities (39,415) (28,636)
--------------- -------------
Cash flows from financing activities:
Principal payments on capital leases (6,261) (14,098)
Issuance of stock 15,000 -
Issuance of new capital leases 17,663 -
Loans Payable 50,000 -
--------------- -----------
Net cash used in financing activities 76,402 (14,098)
--------------- -----------
Net decrease in cash and restricted cash (288) (992,827)
Cash and restricted cash, beginning of period 3,309 994,285
--------------- -----------
Cash and restricted cash, end of period $ 3,021 $ 1,458
=============== ===========
Supplemental disclosure of cash flow information: cash paid during the period for :
Interest $ 251,270 $ 282,737
=============== ===========
Income taxes $ - $ -
=============== ===========
The accompanying notes should be read in conjunction with the
consolidated financial statements
-6-
SHOPNET.COM, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
NOTE 1- ORGANIZATION
Shopnet.com, Inc. ("Shopnet" or the "Company") was
incorporated in the State of Delaware on December 1, 1995
under the name of Hollywood Productions, Inc. It was formed
for the purpose of acquiring screenplays and producing motion
pictures. On May 10, 1999, the Company filed an amendment to
its Articles of Incorporation to change its name to
Shopnet.com. Inc. On May 12, 1999, Shopnet incorporated a new
wholly owned subsidiary, Hollywood Productions, Inc.
("Hollywood"), to which the Company assigned all of its film
rights. Accordingly, Shopnet is considered a holding company.
During September 1996, simultaneously with the completion of
its Initial Public Offering ("IPO"), Shopnet acquired all of
the capital stock of Breaking Waves, Inc. ("Breaking Waves").
Breaking Waves designs, manufactures, and distributes private
and brand name labels of children's swimwear nationally. As of
June 30, 2002, Shopnet and all of its subsidiaries changed
their financial year end from December 31 to June 30.
NOTE 2- INTERIM RESULTS AND BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements
as of March 31, 2003 and for the six month periods ended March
31, 2003 and March 31, 2002 and for the three month periods
ended March 31, 2003 and March 31, 2002 have been prepared in
accordance with generally accepted accounting principles for
interim financial information and with the instructions to
Form 10-QSB and Items 303 and 310 of Regulation S-B. In the
opinion of management, the unaudited financial statements have
been prepared on the same basis as the annual financial
statements and reflect all adjustments, which include only
normal recurring adjustments, necessary to present fairly the
financial position as of March 31, 2003 and the results of
operations and cash flows for the six month periods ended
March 31, 2003 and March 31, 2002 are not necessarily
indicative of the results to be expected for any subsequent
quarter or the entire fiscal year. The balance sheet at June
30, 2002 has been derived from the audited financial
statements at that date.
Certain information and footnote disclosures normally included
in financial statements prepared in accordance with generally
accepted accounting principles have been condensed or omitted
pursuant to the Securities and Exchange Commission's rules and
regulations. The Company believes, however, that the
disclosures in this report are adequate to make the
information presented not misleading in any material respect.
The accompanying consolidated financial statements should be
read in conjunction with the audited financial statements of
Shopnet.com, Inc. and Subsidiaries as of June 30, 2002 and for
the year then ended and notes thereto included in the
Company's report on Form 10-KSB filed on October 15, 2002.
The Company in the quarter ended March 31, 2003 has
implemented a number of initiatives which it believes will
reduce its costs of operations and alleviate in the following
six months its working capital deficiency. In particular, the
Company believes that the repayment of its indebtedness to
Century (See Note 7) and the recent reductions in interest
rates will reduce interest expense.
-7-
SHOPNET.COM, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
NOTE 2- INTERIM RESULTS AND BASIS OF PRESENTATION (continued)
In December 2001, the Company consolidated all of its
operation's in the New York metropolitan region into one new
facility (See Note 9(a) ), creating a savings through
synergies in office expense and decrease in rent and salaries.
The Company has, also, recently refocused its sales efforts,
to the extent possible, to eliminate unprofitable or low
margin sales and has had improved sales and orders for the
current fiscal year.
NOTE 3- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
a) Recently adopted accounting principles - Film accounting
Pursuant to SFAS no. 139, the Company adopted Statement of
Position ("SOP") 00-2, "Accounting by Producers or
Distributors of Films" during the nine months ended March 31,
2003. SOP 00-2 established new film accounting standards,
including changes in revenue recognition and accounting for
advertising, development and overhead costs. Specifically, SOP
00-2 requires advertising costs for theatrical and television
products to be expensed as incurred. This compares to the
Company's previous policy of first capitalizing these costs
and then expensing them over the related revenue streams. In
addition, SOP 00-2 requires development costs for abandoned
projects and certain indirect overhead costs to be charged to
film costs, which was required under the previous accounting
rules, SOP 00-2 also in other areas, such as revenue
recognition, generally are consistent with the Company's
existing accounting policies. SOP 00-2 was adopted as of July
1, 2001, and had no effect on the Company's consolidated
results of operations, financial position or cash flows.
b) Recently issued accounting pronouncements
The Company does not believe that any recently issued but not
yet effective accounting standards, have a material effect on
the Company's consolidated financial position, results of
operations or cash flows except for the effect of adoptions of
SFAS No. 142, " Goodwill and Other Intangible assets". It
addresses how intangible assets that are acquired individually
or with a group of other assets (but not those acquired in a
business combination) should be accounted for in financial
statements upon their acquisition. SFAS 142 also addresses how
goodwill and other intangible assets should be accounted for
after they have been initially recognized in the financial
statements. The Company adopted the provisions of this new
standard beginning with the first quarter of 2002.
c) Earnings per share:
Basic earnings (loss) per share is computed by dividing net
income (loss) income attributable to common shares, by the
weighted average number of common shares outstanding during
each period. Diluted earnings (loss) per share is similar to
basic earnings (loss) share, except that the weighted average
number of common shares outstanding is increased to reflect
the dilutive effect of potential common shares as if they had
been issued.
-8-
SHOPNET.COM, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
NOTE 4- ACQUISITION OF BREAKING WAVES, INC.
Pursuant to a stock purchase agreement dated May 31, 1996 (the
"Agreement"), on September 24, 1996, the Company issued
110,000 shares of common stock in exchange for all of the
issued and outstanding capital stock of Breaking Waves. The
transaction was accounted for using the purchase method of
accounting. As a result of the transaction, excess of cost
over net assets acquired totaling $1,064,283 was recorded and
was being amortized over the useful lives of the related
assets which was fifteen years.
Effective for the year ended June 30, 2002, the Company
adopted FAS 142 "Goodwill and Other Intangible Assets". Under
FAS 142, goodwill and indefinite lived intangible assets are
no longer amortized but are reviewed annually for impairment.
Goodwill is tested for impairment at the reporting level.
Under FAS 142, the fair value of a reporting unit is compared
to its carrying amount, including goodwill. If the book value
(carrying amount) is below the fair value assessment, there
will be no impairment or loss. If the fair value is below the
book value (carrying amount), the Company needs to perform a
second test to determine the gap between the impaired fair
value of goodwill and its carrying amount.
The Company had determined that no impairment existed as of
March 31, 2003. Accordingly, the book value was not further
written down.
NOTE 5- INVESTMENTS IN MOVIE VENTURES
a) Battle Studies
Pursuant to a co-production agreement dated April 17, 1998
with North Folk Films, Inc., the Company invested through
March 31, 2003, $217,500 for a 50% interest in a new entity,
Battle Studies Productions, LLC ("Battle Studies") a limited
liability company. Battle Studies is accounted for as a joint
venture in order to co-produce motion pictures and to finance
the costs of production and distribution of such motion
pictures. The joint venture retains all rights to the motion
pictures, the screenplays, and all ancillary rights attached
thereto.
b) The Girl
Pursuant to an agreement dated July 1, 1999 with Artistic
License Films Inc., Hollywood invested through March 31, 2003
$35,000 for a 22.533% interest in a new entity, The Girl, LLC
("The Girl") a limited liability company. In return for its
participation in The Girl, Hollywood is entitled to receive a
non-contested, non-dilutable 22.533% ownership interest in The
Girl, a recoupment of its investment on no less favorable
terms than any other investor and 22.533% of 100% of any
contingent compensation which shall be actually received by
The Girl. The Girl retains all rights to the motion pictures,
the screenplays, and all ancillary rights attached thereto.
The Company accounts for the investments in Battle Studies and
The Girl under the equity method. For the nine months ended
March 31, 2003 and 2002, the Company recorded an equity loss
of $13,928 on this investment.
-9-
SHOPNET.COM, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
NOTE 6- MARKETABLE SECURITIES- AFFILIATE
Breaking Waves owned 1,270,000 unregistered common shares of
Play Co. Toys & Entertainment Corp. ("Play Co."), a toy
retailer and a publicly traded company whose
Chairman of the Board was also the President
of Shopnet and Breaking Waves.
Breaking Waves' ownership percentage was approximately 1.5% of
Play Co. The investment in Play Co. was accounted for under
the requirements of SFAS No. 115, "Accounting for Certain
investments in Debt and Equity Securities." Under SFAS 115,
the securities were considered available for sale and
therefore the carrying value was based on the fair market
value of the securities at March 31, 2003 and 2002 which
amounted to $0 as of both dates.
The change in the fair market value of the securities during
the periods are recorded as an unrealized gain or loss as a
component of comprehensive income. The Company pledged such
shares as collateral for a standby letter of credit in
connection with Breaking Waves entering into a new factoring
agreement with Century Business Credit Corporation ("Century")
and were therefore considered non-current (See Note 7).
On March 28, 2001 Play Co. filed for protection under Chapter
Eleven of the United States Code with the United States
Bankruptcy Court for the Southern District of New York. The
filing was converted into a Chapter Seven filing on August 28,
2001.
NOTE 7- DUE TO FACTOR
Century Business Credit Corporation
On or about September 12, 2000, Breaking Waves entered into a
factoring and revolving inventory loan and security agreement
("factoring agreement") with Century Business Credit
Corporation ("Century") to sell its interest in all present
and future receivables without recourse. Breaking Waves
submits all sales offers to Century for credit approval prior
to shipment, and pays a factoring commission of .75% of
receivables sold.
Century retains from the amount payable to Breaking Waves a
reserve for possible obligations such as customer disputes and
possible credit losses on unapproved receivables. Breaking
Waves may take advances of up to 85% of eligible receivables
and up to 50% of the value of finished goods in inventory,
with interest payable monthly at the rate of 1 3/4% over
prime.
Pursuant to the terms of a Reimbursement and Compensation
Agreement, a trust ("Trust"), the beneficiary of which is a
relative of the Company's President and Chief Executive
Officer ("CEO") and a relative of a principal stockholder,
pledged assets as collateral for securing a $250,000 letter of
credit to replace a portion of a letter of credit previously
pledged by the Company.
Accordingly, on December 20, 2000 the original agreement with
the factor was amended to allow such replacement of
collateral. Breaking Waves' Loan and Security Agreement with
Century dated December 20, 2000 requires the provision of one
or more letters of credit in the aggregate amount of
$1,150,000 to partially secure the line of credit. On
September 15, 2001, Century required the Company to increase
the amount of collateralized standby letters of credit by
$300,000 raising such amount to $1,450,000.
-10-
SHOPNET.COM, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
NOTE 7- DUE TO FACTOR
Century Business Credit Corporation
On May 3, 2001, the Agreement with the Trust was amended so
that the letter of credit secured by the Trust was increased
to $400,000. As a condition of the amendment, the Company
entered into a guarantee agreement with Gal Capital Corp.,
whose President is a relative of the Company's President and
CEO and a principal stockholder of the Company to act as
guarantor of the obligation to the Trust up to $400,000 in
exchange for a fee of $42,500 which the Company paid on May 3,
2001. The amended letter of credit expired on September 1,
2001 and was subsequently amended on September 15, 2001.
On September 15, 2001, the Amended and Restated Reimbursement
and Compensation Agreement was entered into and further
amended the agreement with the Trust, so that the letter of
credit secured by the Trust was increased to $750,000. The
amended letter of credit expired on September 1, 2002 but can
be extended year to year at the Company's option for a period
of ten years. On September 1, 2002, the letter of credit was
extended. Breaking Waves agreed to reimburse the Trust for any
and all losses, fees, charges and expenses to the Trust in the
event the letter of credit is called by Century and / or the
issuing bank demands reimbursement from the Trust. Breaking
Waves' obligations are guaranteed by the Company in addition
to being secured by a first security interest in all of the
assets of the Company and a subordinate security interest in
all of the assets of Breaking Waves.
In December 2002, Breaking Waves entered into a Reimbursement
and Compensation Agreement with TERE, S.A., a Swiss entity. As
a consequence of Century being unwilling to grant credit to
Breaking Waves unless it received one or more letters of
credit satisfactory to it as well as cash collateral to
partially secure the line of credit in such amounts as it
deems appropriate, the Trust reduced the letter of Credit
secured by it to $500,000. TERE, S.A. agreed to loan Breaking
Waves the sum of $250,000 represented by a promissory note.
The funds were deposited as cash collateral with Century to
replace the reduced portion of the letter of credit secured by
the Trust.
All obligations under this agreement are guaranteed by the
Company and are secured by a security interest in all of the
Company's assets.
As compensation, Breaking Waves paid all interest received
from or credited to it by Century on the sums deposited
pursuant to the Cash Collateral Agreement when received.
The term of the loan is for ten years.
ARC has agreed to pay to TERE, interest at the rate of 8% per
annum on quarterly basis.
On September 15, 2001, the Company entered into a
Reimbursement Agreement with relatives of a principal
stockholder who is related to the President and CEO of the
Company ("RAYA") who pledged assets as collateral for securing
a $300,000 letter of credit as additional collateral to secure
Breaking Waves' Loan and Security Agreement with Century.
Absent any default, the letter of credit will remain in effect
for ten years. The Agreement is guaranteed by Shopnet under a
separate Security Agreement dated September 15, 2001.
-11-
SHOPNET.COM, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
NOTE 7- DUE TO FACTOR
Century Business Credit Corporation (continued)
In exchange for the letters of credit, the Trust and RAYA will
proportionately, based on the total outstanding letters of
credit, receive a fee of one and one quarter percent (1-1/4%)
of net sales of Breaking Waves through June 30, 2002 and
thereafter one and three quarters percent (1-3/4%) of net
sales through September 30, 2011. In October 2001, the Trust
and RAYA received advance payments to be applied towards
future fees of $24,500 and $12,250, respectively. All future
payments are payable forty five days after the close of each
fiscal quarter. The fees are effective October 1, 2001.
In September 2001, the Company and Breaking Waves retained Arc
Financial Corp. ("ARC"), a British Virgin Island company, for
a ten year term to provide financial consulting services.
Pursuant to the terms of a consulting services. Pursuant to
the terms of a consulting agreement ("ARC Consulting
Agreement"), ARC was retained to assist the Company in the
acquisition of financing to acquire inventory and for other
corporate purposes ("Financing"), as well as consult with the
Company with regard to its ongoing operations, promote sales
of Breaking Waves' products and improving production.
Pursuant to the terms of the ARC Consulting Agreement, the
Company and Breaking Waves agreed to compensate ARC (i) an
annual fee of $20,000 ("Base Fee") and (ii) a percentage of
annual net sales in the amount of 1-1/4% through June 30, 2002
and 1-3/4% of net sales for each year of the term thereafter
through September 30, 2011 ("ARC Percentage Fee"), payable 45
days after the closing of each fiscal quarter.
In October 2001, ARC received (I) a lump sum payment of
$209,000 reflecting full advance payment of the Base Fee and
(ii) $36,750 reflecting advance payment of the Arc Percentage
Fee. The agreement with Arc expires September 30, 2011. The
Company and Breaking Waves are entitled to terminate the ARC
Consulting Agreement any time after September 30, 2006, in
which event all prepaid fees are forfeited.
The following table summarizes the percentage due each party,
as noted above, as a percentage of net sales for the three
months ended March 31, 2003:
% of
Net Sales Amount
--------------- --------------
RAYA 0.58 $ 29,572
ZAT 1.16 59,143
ARC 1.75 89,225
--------------- --------------
3.49 $177,940
=============== ==============
Interest expense related to the factor agreement totaled
$144,027 and $190,908 for the nine months ended March 31, 2003
and 2002, respectively. Century has a secured interest in
Breaking Waves' inventory as collateral for the advances. As
of March 31, 2003, the net advances to Breaking Waves from
Century amounted to $1,364,327.
-12-
SHOPNET.COM, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
NOTE 8- NOTE PAYABLE
On November 8, 2002, the Company borrowed the sum of $50,000
in the form of a promissory note from Amigal Salit, Ltd., an
unrelated party. The note which is non-interest bearing is due
on or before August 15, 2003.
On the same date, the Company entered into an agreement with
ARC Financial Corporation, whereby the Company using the
proceeds received from Amigal Salit, Ltd., agreed to pay
$50,000 as an advance against fees to be owed by Breaking
Waves to ARC Financial Corporation in connection with Breaking
Waves obligation to pay certain fees to ARC as part of a
consulting agreement as described in Note 7 (b) herein.
NOTE 9- COMMITMENTS AND CONTINGENCIES
a) Lease commitments
Shopnet and Breaking Waves jointly share their administrative
offices under a lease agreement signed July 2001 by Breaking
Waves. Shopnet is provided office space by Breaking Waves on a
rent-free basis. The lease agreement expires on September 30,
2007. Annual rent under this lease is $84,915 through December
31, 2004 and $97,560 for the remainder of the lease period.
Additionally, Breaking Waves leases an offsite office for one
of its designers on a month to month basis with annual
payments approximating $13,200.
The approximate annual future minimum rentals under
non-cancelable operating lease signed by Breaking Waves are as
follows:
For the fiscal year ended June 30:
2003 $ 35,228
2004 84,915
2005 90,338
2006 95,760
2007 95,760
Thereafter 23,940
--------------
$ 425,941
==============
Rent expense for the nine months ended March 31, 2003 and 2002
amounted to $81,646 and $94,508, respectively.
b) Significant vendors and customers
Breaking Waves purchases 100% of its inventory from three
vendors, two in Indonesia (74%) and the other in the Republic
of Korea (26%). Breaking Waves believes other sources and
vendors are available and that it is not dependent exclusively
on these vendors. For the three months ended March 31, 2003
Breaking Waves had two customers, which comprised
approximately 28%, of net sales. For the nine months ended
March 31, 2002, Breaking Waves had 2 customers which
compromised 43% of net sales.
-13-
SHOPNET.COM, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
NOTE 9- COMMITMENTS AND CONTINGENCIES
c) Seasonality
Breaking Waves' business is considered seasonal with a large
portion of its revenues and profits being derived between
December and April. Each year from April through October,
Breaking Waves engages in the process of designing and
manufacturing the following season's swimwear lines, during
which time it incurs the majority of its production costs with
limited revenues and also engages in the sale of product at
negative gross margins to remove slow moving items and
decrease its carrying cost.
d) License agreements
During June 2000, Breaking Waves entered into a license
agreement with an effective date of November 1, 2001 with
Gottex Models Ltd., as Israeli corporation and Gottex Models
(USA) Corp., a New York corporation for the use of the
trademark "Gottex" in the United States of America for
children's swimwear. The agreement calls for a royalty fee of
7% of net sales with guaranteed minimum annual royalties of
$70,000 to $140,000 over the life of the agreement. Breaking
Waves recorded royalties under the agreement totaling $113,019
and $68,430 for the nine months ended March 31, 2003 and 2002,
respectively.
e) Co-production and property purchase agreements
Pursuant to co-production and property purchase agreements
dated March 15, 1996, as amended, the Company acquired the
rights to co-produce a motion picture and to finance the costs
of production and distribution of such motion picture with the
co-production. The Company retains all rights to the motion
picture with the co-producer agreeing to finance $100,000 of
the cost of production. The Company retains all rights to the
motion picture, the screenplay, and all ancillary rights
attached thereto. The motion picture was completed during the
latter part of 1996 and, accordingly, the Company commenced
the marketing and distribution process.
As of March 31, 2003, the Company invested $1,971,956 for the
co-production and distribution of such motion pictures whereas
the co-producers have invested $100,000. For the nine months
ended March 31, 2003 and 2002, the Company derived no revenue
from the motion picture and amortized no film costs.
For the nine months ended March 31, 2003 and 2002 the Company
has not written down its film production and distribution
costs, as the carrying value of the asset equals its estimated
net realizable value.
f) Litigation
On or about June of 2000, an action was brought in the Queens
County Supreme Court against the Company and several others
claiming, among other things, that the Company allegedly
breached a contract and engaged in fraudulent statements
(including supposedly promising the plaintiff options and then
not allowing the plaintiff to exercise these options).
-14-
SHOPNET.COM, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
NOTE 9- COMMITMENTS AND CONTINGENCIES (continued)
The plaintiff seeks, among other things, compensatory damages
in the amount of $497,500, punitive damages in the amount of
$995,000, together with costs and attorney's fees. The Company
intends to contest the action vigorously and believes that
such claims against it are baseless and without merit.
NOTE 10- STOCKHOLDERS' EQUITY
a) Warrants
i) Initially, each Warrant issued in the initial public offering of
September 24, 1996 entitled the holders
thereof to purchase one share of the Company's common stock at
an exercise price of $6.50 per share, until September 9, 2002.
On August 31, 2002, the Company extended the term of its warrants
by 18 months, the Warrants will now expire on March 10, 2003.
On June 23, 1997, the Board of Directors approved a
reduction in the exercise price of the Warrants from $6.50 to
$3.00. On February 5, 1998, the Company affected a one for three
reverse split of the Company's common stock.
Accordingly, the Company adjusted the terms of the
Warrants to reflect the reverse split such that
exercise of three Warrants would entitle the holder
to purchase one share of common stock at an exercise
price of $9.00. Giving effect to the January 1999
100% common stock dividend, the January 2001 10%
common stock dividend and the May 2001 20% common
stock dividend, the warrants have been cumulatively
adjusted such that the exercise of each warrant at an
exercise price of $3.41 purchases .88 of a share of
common stock.
ii) On April 15, 1998, the Company's Board of Directors authorized the
distribution of warrants to all shareholders of the Company's
common stock as of May 8, 1998. Pursuant to the distribution,
each shareholder of record will receive one warrant to purchase
one share of common stock at an exercise price of $4.00 per share.
The warrants, which are exercisable for a period of three years,
commencing one year after issuance and receipt by shareholder,
shall be issued and distributed once the Company has file a
registration statement for same and same has been declared
effective by the Securities and Exchange Commission
The Company to date has not filed the registration statement.
-15-
SHOPNET.COM, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
NOTE - 11 RELATED PARTIES TRANSACTIONS
a) For the nine months ended March 31, 2003 and 2002
financial consulting fees were paid to a corporation
and an individual who are related to the Company's
President and CEO amounting to $18,725 and $17,445,
respectively.
b) During October 1996, pursuant to two promissory
notes, the Company loaned two of its officers a total
of $87,000 bearing interest at six and one-half
percent (6 1/2) payable over three years. As of March
31, 2003, the unpaid portion amounted to $37,000,
which has been classified as current. As of March 31,
2003, the Company's President was also advanced
additional funds totaling $3,000 which are
non-interest bearing and due on demand and are
classified as current.
-16-
SHOPNET.COM, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
NOTE - 12 SEGMENT INFORMATION
The Company's operations have been classified into two segments:
swimwear sales and film productions. These operating segments were
based on the nature of the projects and services offered. Operating
segments are defined as 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 assess performance. The Company's CEO has been
identified as the chief decision maker. The Company's chief operating
decision maker directs the allocation of resources to operating
segments based on the profitability and cash flow of the respective
segments.
Nine Months Ended March 31,
---------------------------
2003 2002
------------------------------------- ---------------------------------------
Segment Consolidated Segment Consolidated
--------------- ------------------ ----------------- -----------------
Sales:
Swimwear sales $5,849,229 $ 6,313,067
Film production - -
--------------- -----------------
Total sales $ 5,849,229 $ 6,313,067
================ =================
Operating income (loss):
Swimwear sales $ 322,638 $ 649,892
Film production (2,000) (600)
----------------- ------------------
Total operating income (loss) $ 320,638 $ 649,292
----------------- ------------------
Corporate:
General and administrative expense $ (216,799) $ (271,008)
----------------- -------------------
(Loss) equity in earnings of affiliate (13,928) (595)
Amortization expense - (53,214)
Interest income 1,713 11,008
Interest and finance expense (335,258) (357,941)
Other - 9,050
----------------- -------------------
Loss from operating before (benefit) (262,632) (13,408)
Provision for income tax - -
----------------- ------------------
Net (loss) income $ (262,632) $ (13,408)
================= ==================
Identifiable assets:
Swimwear sales $ 1,780,870 $ 1,604,943
------------------
Film productions 1,436,659 1,451,104
Corporate 1,201,925 1,143,940
------------------ -------------------
Total assets $ 4,419,454 $ 4,199,987
================== ===================
-17-
SHOPNET.COM, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
NOTE - 12 SEGMENT INFORMATION (continued)
Operating profit is total revenue less cost of sales and
operating expenses and excludes general corporate expenses,
interest expenses and income taxes. Identifiable assets are
those used by each segment of the Company's operations.
Corporate assets are primarily cash and investments.
-18-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
CAUTIONARY STATEMENTS ON FORWARD-LOOKING STATEMENTS
Statements contained in this report which are not historical facts and
may be considered forward looking information with respect to plans,
projections, or future performance of the Company as defined under the
Private Securities Litigation Reform Act of 1995. These forward-looking
statements are subject to risks and uncertainties which could cause actual
results to differ materially from those projected. The words "anticipate ",
"believe", "estimate", "expect", "objective", and "think" or similar
expressions used herein are intended to identify forward-looking statements.
The forward-looking statements are based on the Company's current views and
assumptions and involve risks and uncertainties that include, among other
things, the effects of the Company's business, actions of competitors,
changes in laws and regulations, including accounting standards, employee
relations, customer demand, prices of purchased raw material and parts,
domestic economic conditions, including housing starts and changes in
consumer disposable income, and foreign economic conditions, including
currency rate fluctuations. Some or all of the facts are beyond the Company's
control.
General
Shopnet.com, Inc. ("Shopnet" or the "Company") was incorporated in the
State of Delaware on December 1, 1995 as Hollywood Productions, Inc. On May
10, 1999, Shopnet filed an amendment to its Articles of Incorporation
effecting a change in its name to its current one. On May 12, 1999, it
incorporated a new wholly-owned subsidiary, Hollywood, to which it assigned
its motion picture business thereby rendering Shopnet a holding company for
Hollywood and another wholly-owned subsidiary, Breaking Waves. Shopnet was
formed initially for the purpose of acquiring screenplays and producing
motion pictures. In September 1996, in connection with the completion of its
IPO, it acquired all of the capital stock of Breaking Waves which designs,
manufactures, and distributes private and brand name label children's
swimwear. As of June 30, 2002, the company changed its year end from December
31 to June 30.
The consolidated financial statements at March 31, 2003 and 2002
included the accounts of Shopnet and its wholly owned subsidiaries, Breaking
Waves and Hollywood (collectively referred to as the "Company") except where
otherwise indicated after elimination of all significant intercompany
transactions and accounts.
The following discussion and analysis should be read in conjunction
with the consolidated financial statements and related footnotes which
provide additional information concerning the Company's financial activities
and condition. Since Shopnet and its subsidiaries operate in different
industries, the discussion and analysis is presented by entity in order to be
more meaningful.
Critical Accounting Policies
a) Principles of consolidation
The accompanying consolidated financial statements include the
accounts of Shopnet and its wholly owned subsidiaries, Breaking
Waves and Hollywood (the "Company"), after elimination of all
significant intercompany transactions and accounts. Affiliated
companies which are 20 to 50 percent owned are accounted for under
the equity method.
b) Inventory
Inventory consists of finished goods and is valued at the lower of
cost (using the first-in, first-out method) or market. All
inventory is pledged as collateral for factored receivables
pursuant to a factoring agreement with a financial institution
-19-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
Critical Accounting Policies (continued)
c) Film production and distribution costs
The Company follows industry standards in capitalizing film
production and distribution costs. Film production and
distribution costs include all costs associated with the writing,
producing, and distribution of the film. Film costs include the
costs of production, prints, pre-release, and other advertising
expected to benefit future periods. These costs, as well as
participation and talent residuals, are charged against earnings
on an individual film basis in the ratio that the current year's
gross film revenues bear to management's estimate of total
remaining ultimate gross film revenues from all sources.
Film costs are stated at the lower of cost or estimated net
realizable value on an individual film basis. Revenue and cost
forecasts are continually reviewed by management and revised when
warranted by changing conditions. Estimates of total gross revenue
can change significantly due to the level of amortization, as
adjusted. Such adjustments could have a material effect on the
results of operations in future periods. When estimates of total
revenue and costs indicate that a feature film will result in an
ultimate loss, additional amortization is recognized to the extent
required to produce a zero gross margin over the remaining life of
the film.
d) Equity Method of Accounting
Investments in significantly (20 to 50 percent) owned
affiliates are accounted for by the equity method of accounting,
whereby the investment is carried at cost of acquisition, plus the
Company's equity percentage in undistributed earnings or losses
since acquisition. Reserves are provided where management
determines that the investment or equity in earnings is not
realizable.
e) Income taxes
The Company accounts for income taxes in accordance with the
"liability method" of accounting for income taxes. Accordingly,
deferred tax liabilities and assets are determined based on the
difference between the financial statement and tax basis of assets
and liabilities, using enacted tax rates in effect for the year in
which the differences are expected to reverse. Current income
taxes are based on the respective periods' taxable income for
federal, state and city income tax reporting purposes.
f) Revenue and cost recognition
The terms of Breaking Waves' sales are FOB shipping point
thereby revenue is recognized upon shipment from the warehouse.
Sales returns are recorded upon acceptance of the goods by the
warehouse. Duty costs, which are a component of cost of sales, are
recorded upon the clearance of such goods through customs.
Revenues from the theatrical distribution of motion pictures
are recognized when motion pictures are exhibited. Revenues from
video sales are recognized, together with related costs, on the
date that video units are made widely available for sale by
retailers. Revenues from the licensing of feature films, together
with related costs, are recorded when the material is available
for telecasting by the licensee and when certain other conditions
are met. Film production and distribution costs are stated at the
lower of unamortized cost or estimated net realizable value. In
accordance with Financial Accounting Standards Board's Statement
of Financial Accounting Standards ("SFAS") No. 53, "Financial
Reporting by Producers and Distributors of Motion Pictures Films,"
the individual film forecast method is used to amortize film
costs.
-20-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
Critical Accounting Policies (continued)
g) Earnings per share
Earnings per common share is computed pursuant to SFAS No.
128 "Earnings Per Share." Basic earnings per share is computed as
net income (loss) available to common share holders divided by the
weighted average number of common shares outstanding for the
period. Diluted earnings per share reflects the potential dilution
that could occur from common shares issuable through stock
options, warrants and convertible preferred stock.
h) Use of estimates
In preparing financial statements in conformity with generally
accepted accounting principles generally accepted in the United
States of America, management is required to make estimates and
assumption which affect the reported amounts of assets and
liabilities and the disclosure of contingent assets and
liabilities at the date of the financial statements and revenues
and expenses during the reporting period. The most significant
estimate with regard to these financial statements is the estimate
of projected income of motion pictures which is the basis used in
amortizing film production and distribution costs. Actual results
could differ from those estimates.
i) Fair value disclosure at March 31, 2003 and June 30, 2002:
The carrying value of cash, accounts receivable, inventory,
accounts payable, accrued expenses, and capital lease obligations
are a reasonable estimate of their fair value.
Three months ended March 31, 2003 as compared to the three months ended
March 31, 2002
For the three months ended March 31, 2003, the Company reported
consolidated net income of $304,924 as compared to a consolidated income of
$535,131 for the three months ended March 31, 2002.
Breaking Waves
For the three months ended March 31, 2003 and 2002, Breaking Waves
generated net sales of $5,098,551 and $4,612,362, respectively, with related
cost of sales amounting to $3,441,519 and $2,828,915 respectively. The
increase in sales amounting to $486,189, or approximately 11%, from 2002 to
2003 was primarily attributable an increase in orders from the Company's
customers.
The gross profit for the three months ended March 31, 2003 amounted to
$1,657,032, or 33% of sales as compared to the three months ended March 31,
2002 during which it amounted to $1,783,447, or 39% of sales.
Selling, general, and administrative expenses during the three months
ended March 31, 2003 and 2002 amounted to $990,342 and $946,295,
respectively. The increase amounting to $44,047 or approximately 5%, is
primarily attributable to an increase in selling expenses as a result of
increased sales efforts.
-21-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
Breaking Waves (continued)
The major components of the Breaking Waves selling, general, and
administrative expenses are as follows for the three months ended March 31:
2003 2002
---------------- ----------------
Officers, office staff, designer and sales , salaries and related benefits $150,792 $157,810
Commission expense 195,912
173,593
Warehousing costs 263,864 270,087
Royalty fees 31,269 45,819
Rent expense 28,458 26,381
Factor commissions 71,060 49,222
Miscellaneous general corporate overhead expenses 271,306 201,064
Interest expense in connection with the factoring agreement amounted to
$80,325 and $88,075 for the three months ended March 31, 2003 and 2002,
respectively. The decrease is due primarily to a decrease in interest rates.
Breaking Waves generated net income of $403,395 and $635,014 for the
three months ended March 31, 2003 and 2002 respectively.
Hollywood
On May 12, 1999, Shopnet incorporated a wholly-owned subsidiary,
Hollywood, to which it assigned its film production business. All film
related operations prior to May 12, 1999 were conducted by Shopnet under its
former name.
For the three months ended March 31, 2003 and 2002, Hollywood generated
no sales form its motion picture "Dirty Laundry". Although sales prior to and
including the nine months ended June 30, 2002 were minimal, the company
expects to effect increased sales during the fiscal year ending June 30, 2002
and thereafter as a result of the implementation of a new marketing strategy
which among other things, emphasizes the development of new marketing and
distribution arrangements for "Dirty Laundry". Upon a review of the net
realizable value of the movie cost, management has determined that no write
down was necessary as of March 31, 2003 and 2002, respectively, Accordingly,
Hollywood generated a loss of $14,728 and $600 for the three months ended
March 31, 2003 and 2002, respectively. The loss of $14,728 includes an equity
loss of $13,928 from Hollywood's investment in The Girl, LLC, a joint
venture.
Subsequent to "Dirty Laundry", Hollywood also has invested in other
movie ventures, some of which have generated revenue to date. See "Investment
in Joint Ventures."
-22-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
Shopnet.com
For the three months ended March 31, 2003 and 2002, Shopnet generated
no income.
Shopnet's selling, general, and administrative expense amounted to
$82,742 and $99,283 for the three months ended March 31, 2003 and 2002. This
represents a decrease of $15,241, or approximately 16%.
The major components of the Company's expenses are as follows for the
three months ended March 31:
2003 2002
--------------- --------------
Salaries (officer and office staff) and stock compensation
and related benefits $ 34,071 $ 28,741
Rent 0 0
Legal and professional fees 14,600 17,234
Consulting fees 21,400 10,400
Other general corporate and administrative expense 12,671 42,908
Shopnet generated a net loss of $83,742 and $99,283 for the three
months ended March 31, 2003 and 2002, respectively.
Nine months ended March 31, 2003 as compared to the nine months ended March
31, 2002
For the nine months ended March 31, 2003 and 2002, the Company reported
a consolidated net loss of $262,632 and $13,408 after an income tax expense
of $0 respectively, and a comprehensive net loss of $262,632 and $19,632,
respectively.
Breaking Waves
For the nine months ended March 31, 2003 and 2002, Breaking Waves
generated net sales of $5,849,229 and $6,313,067, respectively, with related
cost of sales amounting to $3,688,757 and $3,927,537, respectively. The
decrease in sales amounting to $463,838, or approximately 8%, from 2002 to
2003 was primarily attributable to the subsequent deferment of new orders
into the next period.
The gross profit for the nine months ended March 31, 2003 amounted to
$2,160,472, or 37% of sales as compared to the nine months ended March 31,
2002 during which it amounted to $2,385,530, or 38% of sales. The decrease in
the gross profit percentage can be attributable to a deferment of orders into
the next period.
Selling, general, and administrative expenses during the nine months
ended March 31, 2003 and March 31, 2002 amounted to $1,837,832 and
$1,735,638, respectively. The increase amounted to $102,194 or 4%.
-23-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
Breaking Waves (continued)
The major components of the Breaking Waves selling, general, and
administrative expenses are as follows for the nine months ended March 31:
2003 2002
--------------- ----------------
Officers, office staff, designer and sales , salaries and related benefits $428,793 $433,239
Commission expense 193,552 189,093
Warehousing costs 261,694 355,751
Royalty fees 127,950 98,430
Rent expense 81,646 74,998
Factor commissions 80,037 62,687
Miscellaneous general corporate overhead expenses 664,160 521,440
Interest expense in connection with its factoring agreement amounted to
$144,027 and $190,908 for the nine months ended March 31, 2003 and 2002,
respectively. The decrease is due to a decrease in sales, as well as a
reduction in the stated prime interest rate.
Breaking Waves generated a net loss of $29,906 for the nine months
ended March 31, 2003 and net income of $296,607 for the nine months ended
March 31, 2002.
Hollywood
For the nine months ended March 31, 2003 and 2002, Hollywood generated
no sales form its motion picture "Dirty Laundry". Although sales prior to and
including the six months ended June 30, 2002 were minimal, the company
expects to effect increased sales during the fiscal year ending June 30, 2002
and thereafter as a result of the implementation of a new marketing strategy
which among other things, emphasizes the development of new marketing and
distribution arrangements for "Dirty Laundry". Upon a review of the net
realizable value of the movie cost, management has determined that no write
down was necessary as of March 31, 2003 and 2002, respectively, Accordingly,
Hollywood generated a loss of $15,928 and $663 for the nine months ended
March 31, 2003 and 2002, respectively. The loss of $15,928 includes an equity
loss of $13,928 from Hollywood's investments in The Girl, LLC, a joint
venture.
Subsequent to "Dirty Laundry", Hollywood also has invested in other
movie ventures, some of which have generated revenue to date. See "Investment
in Joint Ventures."
-24-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
Shopnet.com
For the nine months ended March 31, 2003 and 2002, Shopnet generated no
income.
Shopnet's selling, general, and administrative expense amounted to
$215,799 and $309,352 for the nine months ended March 31, 2003 and 2002. This
represents a decrease of $93,553, or approximately 31%.
The major components of the Company's expenses are as follows for the
nine months ended March 31:
2003 2002
------------- -------------
Salaries (officer and office staff) and stock compensation and related
benefits $ 98,922 $99,385
Rent - 19,510
Legal and professional fees 34,710 72,314
Consulting fees 43,375 22,345
Other general corporate and administrative expense 38,792 95,798
Shopnet generated a net loss of $216,799 and $309,352 for the nine
months ended March 31, 2003 and 2002, respectively. The net loss for the nine
months ended March 31, 2002 included, on a consolidated basis, amortization
of goodwill of $53,214.
-25-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
Liquidity and Capital Resources
At March 31, 2003, the Company's consolidated working capital deficit
amounted to $548,006.
At March 31, 2003, current assets consisted primarily of inventory of
$1,549,900 and prepaid expenses of $238,961.
On or about September 12, 2000, Breaking Waves entered into a factoring
and revolving inventory loan and security agreement ("factoring agreement")
with Century Business Credit Corporation ("Century") to sell its interest in
all present and future receivables without recourse. Breaking Waves submits
all sales offers to Century for credit approval prior to shipment, and pays
a factoring commission of .75% of receivables sold.
Century retains from the amount payable to Breaking Waves a reserve for
possible obligations such as customer disputes and possible credit losses on
unapproved receivables. Breaking Waves may take advances of up to 85% of
eligible receivables and up to 50% of the value of finished goods in
inventory, with interest payable monthly at the rate of 1 3/4% over prime.
Pursuant to the terms of a Reimbursement and Compensation Agreement, a
trust ("Trust"), the beneficiary of which is a relative of the Company's
President and Chief Executive Officer ("CEO") and a relative of a principal
stockholder, pledged assets as collateral for securing a $250,000 letter of
credit to replace a portion of a letter of credit previously pledged by the
Company.
Accordingly, on December 20, 2000 the original agreement with the
factor was amended to allow such replacement of collateral. Breaking Waves'
Loan and Security Agreement with Century dated December 20, 2000 requires
the provision of one or more letters of credit in the aggregate amount of
$1,150,000 to partially secure the line of credit. On September 15, 2001,
Century required the Company to increase the amount of collateralized
standby letters of credit by $300,000 raising such amount to $1,450,000.
On May 3, 2001, the Agreement with the Trust was amended so that the
letter of credit secured by the Trust was increased to $400,000. As a
condition of the amendment, the Company entered into a guarantee agreement
with Gal Capital Corp., whose President is a relative of the Company's
President and CEO and a principal stockholder of the Company to act as
guarantor of the obligation to the Trust up to $400,000 in exchange for a
fee of $42,500 which the Company paid on May 3, 2001. The amended letter of
credit expired on September 1, 2001 and was subsequently amended on
September 15, 2001.
On September 15, 2001, the Amended and Restated Reimbursement and
Compensation Agreement was entered into and further amended the agreement
with the Trust, so that the letter of credit secured by the Trust was
increased to $750,000. The amended letter of credit expired on September 1,
2002 but can be extended year to year at the Company's option for a period
of ten years. On September 1, 2002, the letter of credit was extended.
Breaking Waves agreed to reimburse the Trust for any and all losses, fees,
charges and expenses to the Trust in the event the letter of credit is
called by Century and/or the issuing bank demands reimbursement from the
Trust. Breaking Waves' obligations are guaranteed by the Company in addition
to being secured by a first security interest in all of the assets of the
Company and a subordinate security interest in all of the assets of Breaking
Waves.
In December 2002, Breaking Waves entered into a Reimbursement and
Compensation Agreement with TERE, S.A., a Swiss entity. As a consequence of
Century being unwilling to grant credit to Breaking Waves unless it received
one or more letters of credit satisfactory to it as well as cash collateral
to partially secure the line of credit in such amounts as it deems
appropriate, the Trust reduced the letter of Credit secured by it to
$500,000. TERE, S.A. agreed to loan Breaking Waves the sum of $250,000
represented by a promissory note.
-26-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
Liquidity and Capital Resources
The funds were deposited as cash collateral with Century to replace the
reduced portion of the letter of credit secured by the Trust.
All obligations under this agreement are guaranteed by the Company and
are secured by a security interest in all of the Company's assets.
As compensation, Breaking Waves paid all interest received from or
credited to it by Century on the sums deposited pursuant to the Cash
Collateral Agreement when received.
The term of the loan is for ten years.
ARC has agreed to pay to TERE, interest at the rate of 8% per annum
on quarterly basis.
On September 15, 2001, the Company entered into a Reimbursement Agreement
with relatives of a principal stockholder who is related to the President
and CEO of the Company ("RAYA") who pledged assets as collateral for
securing a $300,000 letter of credit as additional collateral to secure
Breaking Waves' Loan and Security Agreement with Century. Absent any
default, the letter of credit will remain in effect for ten years. The
Agreement is guaranteed by Shopnet under a separate Security Agreement dated
September 15, 2001.
In exchange for the letters of credit, the Trust and RAYA will
proportionately, based on the total outstanding letters of credit, receive a
fee of one and one quarter percent (1-1/4%) of net sales of Breaking Waves
through June 30, 2002 and thereafter one and three quarters percent (1-3/4%)
of net sales through September 30, 2011. In October 2001, the Trust and RAYA
received advance payments to be applied towards future fees of $24,500 and
$12,250, respectively. All future payments are payable forty five days after
the close of each fiscal quarter. The fees are effective October 1, 2001.
In September 2001, the Company and Breaking Waves retained Arc
Financial Corp. ("ARC"), a British Virgin Island company, for a ten year
term to provide financial consulting services.
Pursuant to the terms of a consulting services. Pursuant to the terms
of a consulting agreement ("ARC Consulting Agreement"), ARC was retained to
assist the Company in the acquisition of financing to acquire inventory and
for other corporate purposes ("Financing"), as well as consult with the
Company with regard to its ongoing operations, promote sales of Breaking
Waves' products and improving production.
Pursuant to the terms of the ARC Consulting Agreement, the Company and
Breaking Waves agreed to compensate ARC (i) an annual fee of $20,000 ("Base
Fee") and (ii) a percentage of annual net sales in the amount of 1-1/4%
through June 30, 2002 and 1-3/4% of net sales for each year of the term
thereafter through September 30, 2011 ("ARC Percentage Fee"), payable 45
days after the closing of each fiscal quarter.
In October 2001, ARC received (I) a lump sum payment of $209,000
reflecting full advance payment of the Base Fee and (ii) $36,750 reflecting
advance payment of the Arc Percentage Fee. The agreement with Arc expires
September 30, 2011. The Company and Breaking Waves are entitled to terminate
the ARC Consulting Agreement any time after September 30, 2006, in which
event all prepaid fees are forfeited.
-27-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
Liquidity and Capital Resources
The following table summarizes the percentage due each party, as noted
above, as a percentage of net sales for the three months ended March 31,
2003:
% of
Net Sales Amount
--------------- ---------------
RAYA 0.58 $ 29,572
ZAT 1.16 59,143
ARC 1.75 89,225
--------------- ---------------
3.49 $ 177,940
=============== ===============
Interest expense related to the factor agreement totaled $144,027 and
$190,908 for the nine months ended March 31, 2003 and 2002, respectively.
Century has a secured interest in Breaking Waves' inventory as collateral
for the advances. As of March 31, 2003, the net advances to Breaking Waves
from Century amounted to $1,364,327.
On November 8, 2002, the Company borrowed the sum of $50,000 in the
form of a promissory note from Amigal Salit, Ltd., and unrelated party. The
note which is non-interest bearing is due on or before August 15, 2003.
On the same date, the Company entered into an agreement with ARC
Financial Corporation, whereby the Company using the proceeds received from
Amigal Salit, Ltd., agreed to pay $50,000 as an advance against fees to be
owned by Breaking Waves to ARC Financial Corporation in connection with
Breaking Waves obligation to pay certain fees to ARC as part of a consulting
agreement as described in Note 7 (b) herein. The consulting fees being paid
in advance under this agreement are those fees which would become due and
payable for the periods ending March 31, 2003 and March 31, 2003.
Investments in Joint Ventures
Battle Studies Productions, LLC
In April 1998, the Company entered into a co-production agreement with
North Fork Bank for "Machiavelli Rises." The Company and North Fork formed
Battle Studies to finance, produce and distribute the film. Battle Studies
will be treated as a joint venture in order to co-produce motion pictures and
to finance the cost of production and distribution of such motion pictures.
The joint venture retains all rights to the motion pictures, the screenplays,
and all ancillary rights attached thereto. Total production costs to date
have aggregated approximately $425,000 of which the Company has funded
approximately $218,500. In accordance with the terms of the co-production
agreement, the proceeds of the film will be distributed as follows: first,
both parties shall be entitled to recoup their initial investment in the
film, at 135% thereof; then, after repayment to the respective parties of
additional cost incurred by same, any remaining proceeds shall be distributed
50% to North Fork and 50% to the Company. The film was shown in January 1999
in both New York and the Brussels Film Festival.
The Company accounts for the investment in Battle Studies on the equity
method. For the nine months ended March 31, 2003 and 2002, the Company,
recorded no equity losses for its proportionate share of Battle Studies. No
revenues have been derived from this film as of March 31, 2003.
-28-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
On October 12, 2001, Battle Studies entered into a distribution
agreement with Raven Pictures International ("Raven Pictures") to distribute
Battle Studies' motion picture ("Macheavelli Rises") to foreign countries.
Battle Studies has granted rights under the agreement for the theatrical,
video, non-theatrical and television markets. The term of the agreement is
for twenty-four months for all portions of territory outside of the United
States and English speaking Canada. Battle Studies expects to realize 75%
(which is net of a 25% fee to Raven Pictures) of the expected estimated gross
revenues derived from foreign countries less $20,000 for marketing and
advertising expense.
On January 17, 2002, Battle Studies entered into a distribution
agreement with KOAN to distribute and promote Battle Studies' motion picture
("Machiavelli Rises") in the United States and Canada. Battle Studies has
granted rights under the agreement for free TV, pay TV, cable, satellite,
video and DVD markets. The terms of the agreement is for twenty-four months
and it will be automatically renewed unless KOAN receives a letter of
cancellation at least thirty days prior to the date of termination or if
sales have not exceeded $250,000 over the twenty-four month period. Battle
studies expects to realize 70% (which is net of a 30% fee to KOAN) of the
expected estimated gross revenues derived from the United States and Canada
less $5,000 per year for promotional costs.
The Girl, LLC
Pursuant to an agreement dated July 1, 1999 with ALF for the production
of a film entitled "The Girl", Hollywood invested through March 31, 2003,
$35,000 for a 22.533% interest in a new entity, The Girl, LLC a limited
liability company ("Girl LLC"). In return for its participation in Girl LLC,
Hollywood shall be entitled to receive a non-contested, non-dilutable 22.533%
ownership interest in Girl LLC, a recoupment of its investment on no less
favorable terms than any other investor and 22.533% of 100% of any contingent
compensation which shall be actually received by Girl LLC. Girl LLC retains
all rights to the motion pictures, the screenplays, and all ancillary rights
attached thereto. "The Girl" is completed and has been exhibited at several
film festivals. Girl LLC is in the process of attempting to secure video and
foreign distribution arrangements for the film.
Hollywood accounts for the investment in Girl LLC under the equity
method. Accordingly, as of March 31, 2003, the Company has recorded its
investment at $21,072. This represents its initial investment of $35,000 less
$13,928 of equity loss for its proportionate share of Girl LLC.
-29-
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
Lease Commitments
Shopnet and Breaking Waves jointly share their administrative
offices under a lease agreement signed July 2001 by Breaking
Waves. Shopnet is provided office space by Breaking Waves on a
rent-free basis. The lease agreement expires on September 30,
2007. Annual rent under this lease is $84,915 through December
31, 2004 and $97,560 for the remainder of the lease period.
Additionally, Breaking Waves leases an offsite office for one
of its designers on a month to month basis with annual
payments approximating $13,200.
The approximate annual future minimum rentals under
non-cancelable operating lease signed by Breaking Waves are as
follows:
For the fiscal year ended June 30:
2003 $ 35,228
2004 84,915
2005 90,338
2006 95,760
2007 95,760
Thereafter 23,940
-----------------
$ 425,941
=================
Rent expense for the nine months ended March 31, 2003 and 2002
amounted to $81,646 and $94,508, respectively.
License Agreement
During June 2000, Breaking Waves entered into a license agreement with
an effective date of November 1, 2000 with Gottex Models Ltd., as Israeli
corporation and Gottex Models (USA) Corp., a New York corporation for the use
of the trademark "Gottex" in the United States of America for children's
swimwear. The agreement calls for a royalty fee of 7% of net sales with
guaranteed minimum annual royalties of $70,000 to $140,000 over the life of
the agreement. Breaking Waves recorded royalties under the agreement totaling
$113,019 and $68,430 for the nine months ended March 31, 2003 and March 31,
2002, respectively.
-30-
ITEM 3. CONTROLS AND PROCEDURES
As of March 31, 2003, an evaluation was performed under the supervision
and with the participation of the Company's management, including the Chief
Executive Officer and our Chief Financial Officer, of the effectiveness of
the design and operation of the Company's disclosure controls and procedures.
Based on that evaluation, The Company's management including the Chief
Executive Officer and Chief Financial Officer, concluded that the Company's
disclosure, our disclosure controls and procedures were effective as of March
31, 2003, there have been no significant changes in the Company's internal
controls or in other factors that could significantly affect our internal
controls subsequent to March 31, 2003.
-31-
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
None
Item 2. Changes in Securities and Use of Proceeds
None
Item 3. Defaults Upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
None
Item 5. Other Information
None
Item 6. Exhibits and Reports on Form 8-K
a) Exhibit
99.1 Certification by Harold Rashbaum, Chief Executive Officer
and Chief Financial Officer pursuant to 18 U.S.C. Section
1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.
b) Reports
None
-32-
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.
SHOPNET.COM, INC.
By:/s/ Harold Rashbaum
Harold Rashbaum, President, Chief Executive Officer
and Chief Financial Officer
Dated: May 16, 2003
-33-
CERTIFICATION
I, Harold Rashbaum, certify that:
1. I have reviewed this quarterly report of Form 10-Q of
Shopnet.com, Inc.;
2. Based on my knowledge, this quarterly report does not contain
any untrue statement of a material fact or omit to state a
material fact necessary to make the statements made, in light
of the circumstances under which such statements were made,
not misleading with respect to the period covered by this
quarterly report;
3. Based on my knowledge, the financial statements, and other
financial information included in this quarterly report,
fairly present in all material respects the financial
condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this
quarterly report;
4. I am responsible for establishing and maintaining disclosure
controls and procedures (as defined in Exchange Act Rules
13a-14 and 15d-14) for the registrant and we have:
a) Designed such disclosure controls and procedures to ensure
that material information relating to the registrant,
including its consolidated subsidiary, is made know to me by
other within those entities, particularly during the period in
which this quarterly report is being prepared;
b) Evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to
the filing date of this quarterly report (the "Evaluation
Date"); and
c) Presented in this quarterly report my conclusions about the
effectiveness of the disclosure controls and procedures based
on our evaluation as of the Evaluation Date;
5. I have disclosed, based on our most recent evaluation, to the
registrant's auditors and the audit committee of registrant's
board of directors (or persons performing the equivalent
function);
a) All significant deficiencies in the design or operation of
internal controls which could adversely affect the
registrant's ability to record, process, summarize and report
financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and
b) Any fraud, whether or not material, that involves management
or other employees who have a significant role in the
registrant's internal controls; and
6. I have indicated in this quarterly report whether or not there
were significant changes in internal controls or in other
factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation,
including any corrective actions with regard to significant
deficiencies and material weaknesses.
Date: May 16, 2003
/s/Harold Rashbaum
Harold Rashbaum
President
-34-