10-Q 1 form-10q_12131.txt FORM 10-Q (PERIOD ENDED 06/30/03) ================================================================================ SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 ---------------- FORM 10-Q ---------------- [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JUNE 30, 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 0-26395 SALON MEDIA GROUP, INC. -------------------------------------------------------------------------------- (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 94-3228750 ------------------------------- ---------------------- (STATE OR OTHER JURISDICTION OF (IRS EMPLOYER INCORPORATION OR ORGANIZATION) IDENTIFICATION NUMBER) 22 FOURTH STREET, 16TH FLOOR SAN FRANCISCO, CA 94103 ---------------------------------------- (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (415) 645-9200 ---------------------------------------------------- (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE) SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: COMMON STOCK, $0.001 PAR VALUE ------------------------------ (TITLE OF CLASS) Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Sections 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [_] Indicate by check mark whether the Registrant is an accelerated filer as defined by Rule 12b-12 of the act. Yes [_] No [X] The number of outstanding shares of the Registrant's Common Stock, par value $0.001 per share, on August 1, 2003 was 14,155,276 shares. ================================================================================ ================================================================================ FORM 10-Q SALON MEDIA GROUP, INC. INDEX ================================================================================ PAGE PART I FINANCIAL INFORMATION NUMBER ITEM 1: Condensed Consolidated Financial Statements Condensed Consolidated Balance Sheets as of June 30, 2003 and March 31, 2003 (unaudited)............................... 3 Condensed Consolidated Statements of Operations for the three months ended June 30, 2003 and 2002 (unaudited)............. 4 Condensed Consolidated Statements of Cash Flows for the three months ended June 30, 2003 and 2002 (unaudited)............. 5 Notes to Condensed Consolidated Financial Statements (unaudited).. 6 ITEM 2: Management's Discussion and Analysis of Financial Condition and Results of Operations............................... 11 ITEM 3: Quantitative and Qualitative Disclosures About Market Risk........ 28 ITEM 4: Controls and Procedures........................................... 28 PART II OTHER INFORMATION ITEM 1: Legal Proceedings................................................. 28 ITEM 2. Changes in Securities and Use of Proceeds......................... 28 ITEM 3. Defaults upon Senior Securities................................... 29 ITEM 4. Submission of Matters to a Vote of Security Holders............... 29 ITEM 5. Other Information................................................. 29 ITEM 6: Exhibits and Reports on Form 8-K.................................. 30 Signatures........................................................ 32 2 ================================================================================ PART I: FINANCIAL INFORMATION ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS ================================================================================ SALON MEDIA GROUP, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS) (UNAUDITED)
JUNE 30, MARCH 31, 2003 2003 ---------- ---------- ASSETS Current assets: Cash and cash equivalents $ 83 $ 162 Accounts receivable, net 315 227 Prepaid expenses and other current assets 597 169 ---------- ---------- Total current assets 995 558 Property and equipment, net 332 459 Prepaid advertising rights 5,360 5,480 Other intangibles, net 255 348 Goodwill, net 200 200 Other assets 203 545 ---------- ---------- Total assets $ 7,345 $ 7,590 ========== ========== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Notes payable-related parties $ 2,056 $ 1,256 Notes payable-non related parties 558 458 Bank borrowing 61 -- Accounts payable and accrued liabilities 1,566 1,366 Deferred revenue 919 918 ---------- ---------- Total current liabilities 5,160 3,998 Long-term liabilities Warrants payable 350 354 Other long-term liabilities 132 215 ---------- ---------- Total liabilities 5,642 4,567 ---------- ---------- Stockholders' equity: Preferred stock, $0.001 par value, 5,000,000 shares authorized, 934 issued and outstanding at June 30, 2003 and March 31, 2003 (liquidation value of $7,472 at June 30, 2003) -- -- Common stock, $0.001 par value, 50,000,000 shares authorized, 14,155,276 shares issued and outstanding at June 30, 2003 and March 31, 2003 14 14 Additional paid-in-capital 85,283 85,283 Accumulated deficit (83,594) (82,274) ---------- ---------- Total stockholders' equity 1,703 3,023 ---------- ---------- Total liabilities and stockholders' equity $ 7,345 $ 7,590 ========== ==========
The accompanying notes are an integral part of these condensed consolidated financial statements 3 SALON MEDIA GROUP, INC. CONSOLIDATED STATEMENTS OF OPERATIONS (IN THOUSANDS, EXCEPT PER SHARE DATA) (UNAUDITED)
THREE MONTHS ENDED JUNE 30, -------------------------- 2003 2002 ---------- ---------- Net revenues $ 1,045 $ 972 ---------- ---------- Operating expenses: Production and content 1,189 1,173 Sales and marketing 563 752 Research and development 149 162 General and administrative 371 407 Amortization of intangibles 93 134 ---------- ---------- Total operating expenses 2,365 2,628 ---------- ---------- Loss from operations (1,320) (1,656) Other income (expense), net (72) (7) ---------- ---------- Net loss (1,392) (1,663) Preferred deemed dividend 72 -- ---------- ---------- Net loss attributable to common stockholders $ (1,320) $ (1,663) ========== ========== Basic and diluted net loss per share attributable to common stockholders $ (0.09) $ (0.12) Weighted average shares used in computing basic and diluted net loss per share 13,997 13,761
The accompanying notes are an integral part of these condensed consolidated financial statements 4 SALON MEDIA GROUP, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS) (UNAUDITED)
THREE MONTHS ENDED JUNE 30, -------------------------- 2003 2002 ---------- ---------- CASH FLOWS FROM OPERATING ACTIVITIES: Net loss $ (1,392) $ (1,663) Adjustments to reconcile net loss to net cash used in operating activities: Loss from retirement of assets, net 43 -- Stock-based compensation and warrant amortization (21) 15 Depreciation and amortization 214 284 Allowance for (recovery of) doubtful accounts (8) 12 Amortization of prepaid advertising rights 120 357 Changes in assets and liabilities: Accounts receivable (80) (85) Prepaid expenses, other current assets and other assets (48) 12 Accounts payable and other liabilities 166 (124) Deferred revenue 1 89 ---------- ---------- Net cash used in operating activities (1,005) (1,103) ---------- ---------- CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment (1) -- Proceeds from asset sales 15 -- ---------- ---------- Net cash provided by investing activities 14 -- ---------- ---------- CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from bank borrowing 80 -- Payments to bank (19) -- Proceeds from issuance of notes payable 900 -- Principal payments under capital leases (49) (51) ---------- ---------- Net cash used in financing activities 912 (51) ---------- ---------- NET DECREASE IN CASH AND CASH EQUIVALENTS (79) (1,154) CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 162 1,542 ---------- ---------- CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 83 $ 388 ========== ========== SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES: Issuance of stock and warrants in connection with acquisition $ -- $ 42 Issuance of warrants in connection with issuance of convertible notes payable 89 -- Preferred deemed dividend in connection with preferred stock financing (72) --
The accompanying notes are an integral part of these condensed consolidated financial statements 5 SALON MEDIA GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) (UNAUDITED) 1. THE COMPANY Salon Media Group, Inc ("Salon") is an Internet media company that produces a total network of nine primary subject-specific Websites and two online communities. Salon was originally incorporated in July 1995 in the State of California and reincorporated in Delaware in June 1999. Salon operates in one business segment. 2. BASIS OF PRESENTATION The interim condensed consolidated financial statements are unaudited and have been prepared on the same basis as the annual financial statements and, in the opinion of management, reflect all adjustments, which include only normal recurring adjustments necessary to present fairly Salon's consolidated financial position, consolidated results of operations and consolidated cash flows for the periods presented. The condensed consolidated balance sheet data as of March 31, 2003 is derived from and should be read in conjunction with the audited financial statements, which are included in Salon's Annual Report on Form 10-K, as amended, filed with the Securities and Exchange Commission. Pursuant to the rules of the Securities and Exchange Commission, these financial statements do not include all disclosures required by generally accepted accounting principles. The results for the three months ended June 30, 2003 are not necessarily indicative of the expected results for any other interim period or for the fiscal year ending March 31, 2004. These condensed consolidated financial statements contemplate the realization of assets and the satisfaction of liabilities in the normal course of business. Salon has incurred losses and negative cash flows from operations since inception and has an accumulated deficit at June 30, 2003 of $83,594. These factors raise substantial doubt about Salon's ability to continue as a going concern. Salon has reduced expenses, and may reduce them further, to match anticipated revenues to reach cash flow breakeven. There can be no assurance that a further cost cutting exercise will be successful in completely eliminating the difference between expenditures and revenues or that such actions would not have a harmful effect on Salon's business and results of operations. Until cash flow breakeven is reached, Salon will have to rely on additional investment capital or other financing activities. These financing alternatives may include the sale of the prepaid advertising rights. There can be no assurance that Salon will be able to sell its advertising rights at all or at a reasonable rate to Salon and Salon also may not be able to obtain additional capital on terms, which are favorable, or at all. The financial statements do not include any adjustments that might result from the outcome of this uncertainty. 3. CONCENTRATIONS OF CREDIT RISK No customer accounted for more than 10% of total revenue for the three-month periods ended June 30, 2003 and June 30, 2002. Five customers accounted for 21%, 13%, 11%, 11% and 10% of the total accounts receivable balance as of June 30, 2003. One customer accounted for 12% of the total accounts receivable balance as of June 30, 2002. 6 SALON MEDIA GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) (UNAUDITED) 4. GOODWILL AMORTIZATION AND INTANGIBLE ASSETS The following table sets forth information concerning Salon's goodwill and intangible assets as of June 30, 2003:
GROSS NET CARRYING ACCUMULATED CARRYING AMOUNT AMORTIZATION AMOUNT ------------ ------------ ------------ Trade name $ 1,200 $ 1,020 $ 180 Proprietary technology 355 302 53 Audio technology 158 136 22 ------------ ------------ ------------ Total intangible assets subject to amortization $ 1,713 $ 1,458 $ 255 ============ ============ ============ Goodwill $ 3,555 $ 3,355 $ 200 ------------ ------------ ------------ Total intangible assets not subject to amortization $ 3,555 $ 3,355 $ 200 ============ ============ ============
The weighted average amortization period remaining for all intangible assets subject to amortization is 0.75 years. 5. NET LOSS PER SHARE Basic loss per share is computed using the weighted average number of shares of common stock outstanding during the period. Diluted loss per share is computed using the weighted average number of common and common stock equivalents outstanding during the period, as follows:
THREE MONTHS ENDED JUNE 30, ----------------------------- 2003 2002 ------------ ------------ Numerator: Net loss attributable to common stockholders $ (1,320) $ (1,663) ============ ============ Denominator: Weighted average shares outstanding 14,155,000 14,155,000 Weighted average shares held in escrow (158,000) (394,000) ------------ ------------ Weighted average shares used in computing basic and diluted net loss per share 13,997,000 13,761,000 ============ ============ Basic and diluted net loss per share attributable to common stockholders $ (0.09) $ (0.12) ============ ============ Antidilutive securities including options, warrants and convertible preferred stock not included in net loss attributable to common stockholders per share calculation 35,519,965 31,359,385
7 SALON MEDIA GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) (UNAUDITED) If Salon's compensation expense under its stock option plan had been determined pursuant to Statement of Financial Accounting Standards (SFAS) No. 123, "Accounting for Stock-Based Compensation," Salon's net loss per share would have been as follows:
THREE MONTHS ENDED JUNE 30, ----------------------------- 2003 2002 ------------ ------------ Net loss attributable to common stockholders: As reported $ (1,320) $ (1,663) Add back: stock-based employee compensation expense included in reported net loss -- 15 Deduct: total stock-based compensation expense determined under the fair value based method, net of related tax (82) (302) ------------ ------------ Pro forma net loss attributable to commonstockholders $ (1,402) $ (1,950) ============ ============ Basic and diluted net loss per share attributable to common stockholders: As reported $ (0.09) $ (0.12) Pro forma net loss per share $ (0.10) $ (0.14)
6. RECENT ACCOUNTING PRONOUNCEMENTS In November 2002, the Emerging Issues Task Force (EITF) reached a consensus on Issue No. 00-21 "Accounting for Revenue Arrangements With Multiple Deliverables" which provides guidance on how to account for arrangements that involve the delivery or performance of multiple products, services and/or rights to use assets. The provisions of EITF No. 00-21 will apply to revenue arrangements entered into in fiscal periods beginning after June 15, 2003. The adoption of EITF No. 00-21 will not have a significant affect on Salon's financial position and results of operations. In May 2003, the Financial Accounting Standards Board (FASB) issued SFAS No. 150, "Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity." This Statement establishes standards for how an issuer classifies and measures in its statement of financial position certain financial instruments with characteristics of both liabilities and equity. It requires that an issuer classify a financial instrument that is within its scope as a liability (or an asset in some circumstances) because that financial instrument embodies an obligation of the issuer. This Statement is 8 SALON MEDIA GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) (UNAUDITED) effective for financial instruments entered into or modified after May 31, 2003 and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003, except for mandatorily redeemable financial instruments of nonpublic entities. For nonpublic entities, mandatorily redeemable financial instruments are subject to the provisions of this Statement for the first period beginning after December 15, 2003. It is to be implemented by reporting the cumulative effect of a change in an accounting principle for financial instruments created before the issuance date of the statement and still existing at the beginning of the interim period of adoption. The adoption of SFAS No. 150 will not have an adverse affect on Salon's financial position or results of operations. 7. NOTES PAYABLE On April 10, 2003 Salon entered into a Note and Warrant Purchase agreement with two investors for $200 and issued warrants to purchase 600,000 shares of common stock at $0.046 per share. The investors included a Director of Salon, as well as an entity of which the father of Salon's Chief Financial Officer, Treasurer and Secretary, has an ownership interest in. On April 29, 2003 Salon finalized a Note and Warrant Purchase agreement with the same investors for $200 and issued warrants to purchase 600,000 shares of common stock at $0.0575 per share. On May 28, 2003 Salon finalized a Note and Warrant Purchase agreement with the same Director of Salon for $300 and issued warrants to purchase 900,000 shares of common stock at $0.0575 per share. On June 12, 2003 Salon finalized a Note and Warrant Purchase agreement with the father of Salon's Chief Financial Officer, Treasurer and Secretary for $100 and issued warrants to purchase 300,000 shares of common stock at $0.0575 per share. On June 26, 2003 Salon finalized a Note and Warrant Purchase agreement with an investor for $100 and issued warrants to purchase 300,000 shares of common stock at $0.0575 per share. The notes issued accrue interest on the unpaid principal at 6.0% per year with such interest and principal due September 30, 2003 and can be converted into financing securities or Salon's common stock. As of this filing, the holders of these notes and the notes issued during the year ended March 31, 2003, have not elected to convert their notes into either financing securities or Salon's common stock. The notes automatically convert upon the closing of Salon's first sale of its preferred or common stock with aggregate gross proceeds to Salon of at least $2,000 (including the conversion of the outstanding principal of the notes and other converted indebtedness of Salon). In the event that Salon issues new financing securities by September 30, 2003, the number of shares of the financing securities to be issued upon conversion of the notes shall equal the aggregate amount of the Notes divided by the price per share of the financing securities issued and sold. If no new financing occurs by September 30, 2003, all notes convert to shares of common stock based on the average closing price of Salon's common stock over the sixty trading days ending on September 30, 2003 as reported on such market(s) and/or exchanges where the common stock has traded. In the event of bankruptcy or insolvency proceedings, the notes become immediately due and payable. Salon granted the purchasers of the notes a security interest in substantially all of Salon's assets. The indebtedness of the notes is subordinated to certain bank indebtedness. The warrants issued in conjunction with the notes were valued at $89 using the Black-Scholes option-pricing model, applying a contractual life of three years, a weighted average risk-free rate of 2.0%, an expected dividend yield of 0%, a volatility of 120% and a deemed fair value of common stock of $0.04 to $0.05. 9 SALON MEDIA GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) (UNAUDITED) The $2,614 of convertible notes payable issued by Salon do not stipulate a maximum number of shares issuable upon conversion. Since Salon may potentially have insufficient shares authorized to satisfy all obligations under convertible instruments, warrant agreements and options, the value of warrants issued are classified as long-term liabilities, with the fair value re-measured at each balance sheet period. The re-measurement of warrants as of June 30, 2003 resulted in a benefit of $93, of which $72 related to warrants issued in conjunction with the prior issuances of preferred stock, and was recorded as a preferred deemed dividend in Salon's results of operations. 8. BANK BORROWINGS Salon has an Accounts Receivable Purchase Agreement with a bank. Under the terms of the agreement, the bank can make advances of 60% or 80% of the face value of acceptable receivables from Salon, depending on the nature of the receivable. During the period ended June 30, 2003, Salon borrowed $80 and repaid $19 under the agreement. Subsequent to June 30, 2003, Salon repaid an additional $58. 9. SUBSEQUENT EVENTS On July 10, 2003 Salon finalized a Note and Warrant Purchase agreement with three investors for $248 and issued warrants to purchase 744,015 shares of common stock at $0.046 per share. The investors included a Director of Salon, and an entity of which Salon's Chief Financial Officer, Treasurer and Secretary, has an ownership interest in. On July 30, 2003 Salon finalized a Note and Warrant Purchase agreement with a Director of Salon for $100 and issued warrants to purchase 300,000 shares of common stock at $0.0345 per share. On July 7, 2003, as part of an amended lease agreement, a landlord drew on a letter of credit from Salon. Salon relinquished a $420 certificate of deposit, which Salon had held as collateral for the letter of credit. The $420 of restricted cash was recorded as a component of prepaid expenses and other current assets in Salon's balance sheet on June 30, 2003. The $420 will be recorded as an incentive payment and amortized over the amended lease term. 10 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS OF OPERATIONS This section and other parts of this Form 10-Q contain "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, as amended (Exchange Act) that involve risks and uncertainties, including, but not limited to, statements regarding our strategy, plans, objectives, expectations, intentions, financial performance, cash-flow breakeven timing, financing, economic conditions, on-line advertising, market performance, subscription service plans, and revenue sources. Although Salon Media Group, Inc. (Salon) believes its plans, intentions and expectations reflected in such forward-looking statements are reasonable, we can give no assurance those plans, and intentions or expectations will be achieved. Our actual results may differ significantly from those anticipated or implied in these forward-looking statements as a result of the factors set forth above and in Salon's public filings. Salon assumes no obligation to update any forward-looking statements as circumstances change. Salon's actual results may differ significantly from those anticipated or implied in these forward-looking statements as a result of the factors set forth below and in "Management's Discussion and Analysis of Financial Conditions and Results of Operations" and "Factors That May Affect Our Future Results and Market Price of Stock." In this report, the words "anticipates," "believes," "expects," "estimates," "intends," "future," and similar expressions identify forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. OVERVIEW Salon Media Group, Inc. is an Internet media company that provides online news and information. An online pioneer, Salon offers award-winning journalism from breaking news and in-depth analysis to provocative commentary on politics, technology, culture and entertainment. Salon also offers an audio streaming Website, and hosts' two online communities - Table Talk and The Well. Salon believes that its network of Websites combines the thoughtfulness of print, the timeliness of television and the interactivity of talk radio. The main entry and navigation point to Salon's nine subject specific Websites is Salon's home page at www.salon.com. The Websites provide news, features, interviews and regular columnists on specific topics, from politics and arts and entertainment to parenting and health, while Salon's online communities allow users to interact and discuss Salon content and other topics via electronic messaging. Salon's users can access Table Talk or The Well through www.salon.com or through Salon's content Websites. Salon believes that its original, award-winning content allows Salon to attract and retain users who are younger, more affluent, better educated and more likely to make online purchases than typical Internet users. Salon believes its user profile makes its network of websites and online communities a valuable media property for advertisers and retailers who are allocating marketing resources to target consumers online. This section and other parts of this Form 10-Q should be considered in conjunction with the audited financial statements, which are included in Salon's Annual Report on Form 10-K, as amended, filed with the Securities and Exchange Commission. Matters of interest therein include, but are not limited to, Salon's disclosure of critical accounting policies. 11 RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED JUNE 30, 2003 COMPARED TO THE THREE MONTHS ENDED JUNE 30, 2002 NET REVENUES: Net revenues were constant at $1.0 million for both three-month periods ended June 30, 2003 and June 30, 2002. Advertising revenues declined to $0.4 million for the three months ended June 30, 2003 from $0.5 million the prior year, while subscription revenue increased from $0.4 million to $0.6 million in the same period. The decrease in advertising revenue was attributable to Internet advertisers choosing to place advertisements in the largest websites, as well as apprehension by advertisers to place orders with Salon given Salon's going concern uncertainty and corresponding uncertainty of Salon's ability to fulfill an order. The subscription revenue increase was attributable to recognizing revenue as earned over the subscription period from cash continuously received from Salon Premium subscribers from the period ended June 30, 2002 to June 30, 2003. For the three months ended June 30, 2003, approximately 18,300 individuals signed up for Salon Premium, compared to 12,700 for the three months ended June 30, 2002. As of June 30, 2003, Salon has approximately 66,200 active subscribers and deferred $0.8 million of revenue, compared to 37,900 active subscribers and deferred revenue of $0.6 million as of June 30, 2002. The renewal rate experienced for Salon Premium subscriptions was 76% for the three months ended June 30, 2003 compared to 66% for the three months ended June 30, 2002. Salon cannot predict what its renewal rate will be in the future. Salon estimates that it will recognize approximately $1.5 to $2.0 million of Salon Premium revenue for its fiscal year ending March 31, 2004 but cannot accurately estimate advertising revenue during the period. PRODUCTION AND CONTENT: Production and content expenses were constant at $1.2 million for both three-month periods ended June 30, 2003 and June 30, 2002. Subleasing over-capacity office space in New York, NY resulted in a charge of $0.1 million for current and future losses, which was offset by a general decrease in all other expenses. After considering the $0.1 million one-time charge, Salon does not anticipate material future reductions in production and content expenditures. SALES AND MARKETING: Sales and marketing expenses during the three months ended June 30, 2003 were $0.6 million versus $0.8 million for the three months ended June 30, 2002, a decline of $0.2 million or 25%. The decline was attributable to utilizing $0.2 million less prepaid advertising rights this year compared to last year. Salon acquired its prepaid advertising rights during its year ended March 31, 2000 and has been amortizing the utilization of these rights since that time. Salon has determined that the best use of its advertising rights would be to sell the rights in order to generate working capital. These rights might be sold during Salon's year ending March 31, 2004. Consequently, excluding the amortization of the advertising rights, Salon anticipates that sales and marketing expenses will be approximately $1.6 million for the year ending March 31, 2004. 12 RESEARCH AND DEVELOPMENT: Research and development expenses during the three months ended June 30, 2003 were $0.2 million, the same as during the three months ended June 30, 2002. Salon does not anticipate material future reductions in research and development expenditures. GENERAL AND ADMINISTRATIVE: General and administrative expenses during the three months ended June 30, 2003 were $0.4 million, the same as during the three months ended June 30, 2002. Salon does not anticipate material future reductions in general and administrative expenditures. AMORTIZATION OF INTANGIBLES: Amortization of intangible expenses during the three months ended June 30, 2003 were $0.1 million, the same as during the three months ended June 30, 2002. NET LOSS: As a result of the above factors, Salon recorded a net loss of $1.3 million, or $0.09 per share for the three months ended June 30, 2003 compared to a net loss of $1.7 million, or $0.12 per share for the three months ended June 30, 2002. LIQUIDITY AND CAPITAL RESOURCES: As of June 30, 2003, Salon had approximately $0.1 million in available cash from the issuance of a note payable on June 26, 2003. Net cash used in operations was $1.0 million for the three months ended June 30, 2003, compared to $1.1 million for the three months ended June 30, 2002. The principal use of cash during the three months ended June 30, 2003 was to fund the $1.4 million net loss for the period, which was offset by $0.4 million of non-cash charges. The principal use of cash during the three months ended June 30, 2002 was to fund the $1.7 million net loss for the period and a $0.1 million decrease in liabilities, offset partly by non-cash charges of $0.7 million. No cash was used in investing activities for the three-month periods ended June 30, 2003 and June 30, 2002. Salon does not expect any significant capital expenditures during the current fiscal year. Net cash from financing activities provided $0.9 million for the three months ended June 30, 2003 compared to a usage of $0.1 million for the three months ended June 30, 2002. For the three months ended June 30, 2003, Salon issued $0.9 million of convertible notes payable, of which $0.8 million was to related parties, borrowed a net $0.1 million from a bank, and made payments under capital leases of $0.1 million. The payments under capital leases were comparable to payments made during the three months ended June 30, 2002. Salon's independent accountants have included a paragraph in their report for the fiscal years ended March 31, 2003 and March 31, 2002 indicating that substantial doubt exists as to Salon's ability to continue as a going concern because it has recurring operating losses and negative cash flows, and an accumulated deficit. Salon has eliminated various positions, has not filled positions opened by attrition, implemented a wage reduction of 15% effective 13 April 1, 2001, and has cut discretionary spending, but due to limited visibility of advertising activity, it is unable to predict accurately if and when it will reach cash-flow break even. On June 27, 2003 Salon amended its lease for office space in San Francisco. Under the terms of the amended lease agreement, retroactive to February 28, 2003, the termination date was moved from December 2009 to February 2005; the monthly base rent was lowered from approximately $70,000 to approximately $21,000; Salon will only rent one floor; prior rents owed to the landlord will be repaid by the end of the revised release term; and Salon will forfeit a $0.4 million deposit. As of June 30, 2003 the balance of prior rents owed aggregated to $0.2 million. On July 7, 2003, the landlord drew on a $0.4 million letter of credit from Salon, held as a security deposit by the landlord and collateralized by Salon with a $0.4 million certificate of deposit. On June 30, 2003, this restricted cash was recorded as a component of prepaid expenses and other current assets in Salon's balance sheet. The forfeited deposit of $0.4 million will be recorded as an incentive payment and amortized over the amended lease term. As of June 30, 2003, Salon's available cash resources were sufficient to meet working capital needs for less than one month. Subsequent to June 30, 2003, Salon received approximately $348,000 from the issuance of convertible notes payable, all of which has been utilized to fund operations. The notes payable issued included $250,000 from a Director of Salon and an entity of which Salon's Chief Financial Officer, Secretary and Treasurer, has a pecuniary interest in. As of this filing, Salon has $3.0 million of convertible notes payable which are expected to convert to equity securities in September 2003. Salon is attempting to secure additional funds from the issuance of equity securities or instruments that convert into equity securities. If Salon raises additional funds by selling equity securities, or instruments that convert into equity securities, the percentage ownership of Salon's current stockholders will be reduced and its stockholders will most likely experience additional dilution. Given Salon's recent low stock price, any dilution will likely be substantial for existing stockholders. Salon is attempting to sell its prepaid advertising rights to generate additional working capital. Salon cannot accurately predict if and how much they may be sold for. Salon believes that any sale of its prepaid advertising rights will most likely result in a charge to operating results. Salon cannot determine if a transaction will in fact take place, as a potential transaction will involve Salon, NBC, which must agree to the transfer of rights to a third party, and a third party willing to acquire the rights. If Salon does not secure additional funds from the issuance of equity securities and instruments that convert into equity securities, or from the sale of prepaid advertising rights, Salon may be unable to continue as a going concern and cease operations. Salon cannot determine at this time whether or not, or to what extent, it will be successful in securing additional cash resources during its second quarter of its fiscal year ending March 31, 2004 to meet operating requirements. RECENT ACCOUNTING PRONOUNCEMENTS In November 2002, the Emerging Issues Task Force (EITF) reached a consensus on Issue No. 00-21 "Accounting for Revenue Arrangements With Multiple Deliverables" which provides guidance on how to account for arrangements that involve the delivery or performance of multiple products, services and/or rights to use assets. The provisions of EITF No. 00-21 will apply to revenue arrangements entered into in fiscal periods beginning after June 15, 2003. The adoption of EITF No. 00-21 will not have an adverse affect on Salon's financial position and results of operations. 14 In May 2003, the Financial Accounting Standards Board (FASB) issued Standard of Financial Accounting Standard (SFAS) No. 150, "Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity." This Statement establishes standards for how an issuer classifies and measures in its statement of financial position certain financial instruments with characteristics of both liabilities and equity. It requires that an issuer classify a financial instrument that is within its scope as a liability (or an asset in some circumstances) because that financial instrument embodies an obligation of the issuer. This Statement is effective for financial instruments entered into or modified after May 31, 2003 and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003, except for mandatorily redeemable financial instruments of nonpublic entities. For nonpublic entities, mandatorily redeemable financial instruments are subject to the provisions of this Statement for the first period beginning after December 15, 2003. It is to be implemented by reporting the cumulative effect of a change in an accounting principle for financial instruments created before the issuance date of the statement and still existing at the beginning of the interim period of adoption. The adoption of SFAS No. 150 will not have an adverse affect on Salon's financial position or results of operations. RISK FACTORS FACTORS THAT MAY AFFECT SALON'S FUTURE RESULTS AND MARKET PRICE OF STOCK SALON WILL VERY LIKELY CEASE OPERATIONS IN ITS CURRENT FORM IF IT IS UNABLE TO RAISE ADDITIONAL CASH RESOURCES Salon has received approximately $348,000 from the issuance of convertible notes payable subsequent to June 30, 2003. These funds, in conjunction with collections of accounts receivable and Salon Premium subscriptions, have been used to fund operations as of this filing. Salon needs to secure additional cash resources in order to continue as a going concern. Salon is attempting to secure additional funds from the issuance of equity securities and instruments that convert into equity securities and from the sale of its prepaid advertising rights. If Salon does not secure additional funds from the issuance of equity securities and instruments that convert into equity securities, or from the sale of advertising rights, Salon may be unable to continue as a going concern and cease operations. Salon cannot determine at this time whether, or to what extent, it will be successful in securing additional cash resources during its second quarter of its year ending March 31, 2004 to meet operating requirements until it reaches cash flow breakeven. SALON HAS RELIED ON RELATED PARITIES FOR SIGNIFICANT INVESTMENT CAPITAL Salon has been relying on cash from related parties to fund operations. Out of $2.6 million of cash received by Salon from the issuance of convertible notes payable as of June 30, 2003, $2.1 million was from related parties. Of the approximate $348,000 cash received by Salon from the issuance of convertible notes payable issued subsequent to June 30, 2003, $250,000 was from related parties. Curtailment of cash investments by related parties could detrimentally impact Salon's ability to continue its operations and Salon may be unable to continue as a going concern. SALON LACKS SIGNIFICANT REVENUES AND HAS A HISTORY OF LOSSES 15 Salon has a history of significant losses and expects to incur operating losses in the near future. For the three months ended June 30, 2003, Salon had net losses attributable to common stockholders of $1.3 million and had an accumulated deficit of $83.6 million. If and when Salon does achieve profitability, Salon may not be able to sustain or increase profitability on a quarterly or annual basis in the future. If revenues grow more slowly than Salon anticipates or operating expenses exceed expectations, financial results will most likely be severely harmed and the ability of Salon to continue its operations will be seriously jeopardized. Salon's independent accountants provided a "going-concern" audit opinion on the consolidated financial statements for the years ended March 31, 2003, 2002 and 2001. The audit opinion reported substantial doubt about Salon's ability to continue as a going concern, citing issues such as the history of losses and absence of current profitability. As a result of the "going-concern" opinion, Salon's stock price and investment prospects may be adversely affected, thus limiting financing choices and raising concerns about the realization of value on assets and operations. SALON MAY OR MAY NOT BE SUCCESSFUL IN SELLING ITS PREPAID ADVERTISING RIGHTS As of June 30, 2003, Salon has approximately $7.8 million of prepaid advertising rights valued at $5.4 million. The rights resulted from the December 1999 sale of 1,125,000 of shares of Salon's common stock to Rainbow Media Holdings, Inc., a subsidiary of Cablevision Systems Corporation. At the time of the transaction, Rainbow Media Holdings, Inc. owned the Bravo television network. On December 9, 2002 Cablevision Systems Corporation concluded a sale of its Bravo network to NBC and as a result, NBC acquired an obligation to provide Salon with approximately $5.0 million in advertising. Salon is negotiating with NBC for their approval to sell these rights to a third party. Salon cannot accurately predict if it will acquire the approval from NBC to sell the rights, or how much they may be sold to a third party. Salon believes that any sale of its prepaid advertising rights will most likely result in a charge to operating results. Any proceeds from the sale of these prepaid rights will be used to fund Salon's operations. Approximate $3.0 million in rights are still owed by Cablevision Systems Corporation. Salon does not know to what extent Cablevision Systems will facilitate the transfer and sale of these rights to a third party. IN JANUARY 2003 AND AGAIN IN MAY 2003 SALON INSTITUTED WEBSITE ACCESS CHANGES, AND MAY MAKE OTHER CHANGES IN THE FUTURE, THAT MAY AFFECT ITS REVENUE In January 2003, Salon began to restrict access to substantially all of its new content to Salon Premium subscribers or to non Salon Premium subscribers willing to view some form of advertising or "Ultramercial." In May 2003, Salon introduced a new form of advertising in which non Salon Premium visitors to Salon's home page were automatically subjected to an "Ultramercial" advertisement. Salon has not noticed a significant change in the number of unique visitors to its Websites from the restrictions implemented in January 2003 or from the ad format introduced in May 2003. Salon cannot forecast what affects, if any, these change will have in future months. It is possible that the number of unique visitors to Salon's Websites may decrease, resulting in a corresponding decrease in page views. The decrease in page views could equate to a decrease in the number of impressions available to sell to general advertisers and adversely affect advertising revenues. 16 Offsetting the potential drop of impressions available to sell are new advertising revenues from rich media presentations that permit time limited access to view Salon's Websites, and a potential increase in Salon Premium subscriptions from individuals who do not want to be subjected to advertisements. Salon cannot estimate the affect Website restrictions will have on its ability to generate revenues. SALON HAS ANNOUNCED THAT SALON PREMIUM SUBSCRIPTION RATES WILL INCREASE, WHICH MAY AFFECT THE CASH RECEIVED FOR THIS SERVICE AND THE CORRESPONDING REVENUE RECOGNIZED In July 2003, Salon announced that it was planning on raising its annual subscription rate for Salon Premium from $30 with no ads and $18.50 with ads to $35 and $22.50, respectively. The effective date the new rates will take effect is contemplated to be August 15, 2003. The announcement of the rate increase has resulted in Salon Premium subscriptions increasing above normal amounts. Salon cannot estimate what effect, if any, the rate increase will have on Salon Premium subscriptions SALON HAS ENTERED INTO THIRD-PARTY SUBSCRIPTION BUNDLING SERVICES Salon has entered into two agreements with third parties who contemplate combining Salon's content with other content providers, with the resulting bundled content sold to individuals for a set monthly fee. Of the monthly fee, Salon would earn a nominal amount. As of this filing, Salon's has not earned any revenue from these agreements and contemplates immaterial amounts by September 30, 2003. Subsequent to June 30, 2003, Salon entered into another similar agreement with a third party, but contemplates receiving immaterial amounts by September 30, 2003. Salon cannot estimate how much revenue it may earn under these agreements. SALON'S OPERATIONS REQUIRE ATTRACTIVE CONTENT, SUBSCRIBER INTEREST, AND CONFIDENCE BY SUBSCRIBERS AND SUPPLIERS THAT THE SUBSCRIPTION OFFERING WARRANTS THEIR LONG-TERM SUPPORT AND INVESTMENT. THE ABSENCE OF ANY OF THESE FACTORS COULD IMPAIR THE RESULTS, REVENUE AND CASH FLOW FROM SUBSCRIPTIONS. Salon is under severe budgetary constraints to limit expenditures. These constraints affect editorial staffing levels and the purchase of content from freelance writers. These constraints affect the amount and quality of content published on Salon's Websites and consequently, the positive experience of Website visitors. The positive experience leads to reoccurring Website visits, new subscriptions to Salon Premium, and corresponding high renewal rates of Salon Premium subscribers. For the three months ended June 30, 2003 Salon has experienced a renewal rate for one-year subscription to Salon Premium of approximately seventy-six percent. Salon cannot predict if this rate will continue in the future or how many new Salon Premium subscriptions it will acquire. SALON HAS DEPENDED ON ADVERTISING SALES FOR MUCH OF ITS REVENUES, AND ITS INABILITY TO MAINTAIN OR INCREASE ADVERTISING REVENUES WILL HARM ITS BUSINESS Salon has historically depended on the sale of advertising for the majority of its revenue. The January 2003 Website change and the advertising format introduced in May 2003 will change the mix of revenue, lowering traditional forms of advertising, increasing new forms of advertising and changing subscription patterns. The net effect is currently unknown. 17 Maintaining or increasing Salon's advertising revenues depends upon many factors, including whether it will be able to: o successfully sell and market it new content access advertisements; o entice non Salon Premium Website visitors to view and advertisers to sell new ad units and formats; o maintain a significant number of unique site visitors and corresponding significant reach of Internet users; o maintain a significant number of sellable impressions available to advertisers; o grow the number of Salon Premium plan subscribers willing to view Website advertisements o successfully sell and market it network to advertisers; o increase the amount of revenues it receives per advertisement; o increase awareness of the Salon brand; o target advertisements and electronic commerce opportunities to users with appropriate interests; o accurately measure the number and demographic characteristics of its users; and o retain key sales personnel. THE LENGTH OF SALON'S SALES CYCLE IS UNCERTAIN AND VARIABLE AND MAY LEAD TO SHORTFALLS IN REVENUES AND FLUCTUATIONS IN ITS OPERATING RESULTS Salon's dependence on advertising subjects it to the risk of revenue shortfalls because the sales cycles for advertising vary significantly, and during these cycles Salon may expend substantial funds and management resources while not obtaining advertising revenues. If sales are delayed or do not occur, Salon's financial results for a particular period may be harmed. The time between the date of initial contact with a potential customer and the signing of an advertising order may range from as little as one week to up to several months. Sales of advertising are subject to factors over which Salon has little or no control, including: o advertisers' budgets; o the acceptability of "access passes" and "Ultramercials" to advertisers; o internal acceptance reviews by advertisers and their agencies; o the possibility of cancellation or delay of projects by advertisers. OUR STOCK HAS BEEN AND WILL LIKELY CONTINUE TO BE SUBJECT TO SUBSTANTIAL PRICE AND VOLUME FLUCTUATIONS DUE TO A NUMBER OF FACTORS, MANY OF WHICH WILL BE BEYOND OUR CONTROL, THAT MAY PREVENT OUR STOCKHOLDERS FROM RESELLING OUR COMMON STOCK AT A PROFIT 18 The securities markets have experienced significant price and volume fluctuations, and the market prices of the securities of Internet companies have been especially volatile. This market volatility, as well as general economic, market or political conditions have, and may continue to reduce the market price of our common stock, regardless of our operating performance. In addition, our operating results could be below the expectations of public market analysts and investors, and in response, the market price of our common stock could decrease significantly. IF OUR SHARE PRICE IS VOLATILE, WE MAY BE THE TARGETS OF SECURITIES LITIGATION, WHICH IS COSTLY AND TIME-CONSUMING TO DEFEND In the past, following periods of market volatility in the price of a company's securities, security holders have instituted class action litigation. Our share price has, in the past, experienced price volatility, and may continue to do so in the future. Many companies have been subject to this type of litigation. If the market value of our common stock experiences adverse fluctuations and we become involved in this type of litigation, regardless of the merits or outcome, we could incur substantial legal costs and our management's attention could be diverted, causing our business, financial condition and operating results to suffer. To date, Salon has not been subject to such litigation. SALON'S PRINCIPAL STOCKHOLDERS CAN EXERCISE A CONTROLLING INFLUENCE OVER SALON'S BUSINESS AFFAIRS AND THEY MAY MAKE BUSINESS DECISIONS WITH WHICH NON-PRINCIPAL STOCKHOLDERS DISAGREE THAT WILL AFFECT THE VALUE OF THEIR INVESTMENT As of this filing, Salon has three directors, one of which is associated with a company that has an investment in Salon, that in the aggregate, own a significant percentage of the voting rights granted by ownership of common stock, preferred stock and convertible debt as of June 30, 2003 and convertible debt issued subsequent to June 30, 2003. Also, Salon's Chief Financial Officer, Secretary and Treasurer is the daughter of an investor whose beneficial ownership of Salon is in excess of 5 percent. In addition, investors whose beneficial ownership of Salon is in excess of 5 percent, primarily hold $3.0 million of convertible debt of as of this filing. This debt may convert to approximately sixty-six million shares of common stock by September 30, 2003 based on the average closing price of Salon's common stock for the sixty-day period ending August 6, 2003. If Salon were to aggregate this class of ownership with all other 5 percent and greater shareholders, this combined group of shareholders would own a majority of the voting rights granted by ownership of common and preferred stock as of June 30, 2003. If the principal stockholders were to act together, these stockholders would be able to exercise control over most matters requiring approval by other stockholders, including the election of directors and approval of significant corporate transactions. These actions may be taken even if principal stockholders oppose non-principal stockholders. This concentration of ownership may also have the effect of delaying or preventing a change in control of Salon, which could cause Salon's stock price to decline. SALON'S QUARTERLY OPERATING RESULTS ARE VOLATILE AND MAY ADVERSELY AFFECT ITS COMMON STOCK PRICE Salon's future revenues and operating results are likely to vary significantly from quarter to quarter due to a number of factors, many of which are outside Salon's control, and any of which could severely harm Salon's business. These factors include: o Salon's ability to attract and retain advertisers and subscribers; o Salon's ability to attract and retain a large number of users; 19 o the introduction of new Websites, services or products by Salon or by its competitors; o the timing and uncertainty of Salon's advertising sales cycles; o the mix of advertisements sold by Salon or its competitors; o the economic and business cycle and the recovery speed; o the level of Internet usage; o Salon's ability to attract, integrate and retain qualified personnel; o technical difficulties or system downtime affecting the Internet generally or the operation of Salon's Websites; o the impact of national economic and diplomatic concerns on the advertising and news business; and, o the amount and timing of operating costs. In order to attract and maintain Salon's user base, Salon may incur expenditures on sales and marketing, content development, technology and infrastructure. These types of expenditures are planned or committed in advance and in anticipation of future revenues. If Salon's revenues in a particular quarter are lower than it anticipates, Salon may be unable to reduce spending in that quarter. As a result, any shortfall in revenues would likely harm its quarterly operating results. Due to the factors noted above and the other risks discussed in this section, one should not rely on quarter-to-quarter comparisons of Salon's results of operations as an indication of future performance. It is possible that in some future periods results of operations may be below the expectations of public market analysts and investors. If this occurs, the price of its common stock may decline. THE CONTROVERSIAL CONTENT OF SALON'S WEBSITES MAY LIMIT ITS REVENUES Many of Salon's Websites contain, and will continue to contain, content that is politically and culturally controversial. As a result of this content, current and potential advertisers, Salon Premium subscribers, or third parties who contemplate aggregating content, may refuse to do business with Salon. Salon's outspoken stance on political issues has and may continue to result in negative reactions from some users, commentators and other media outlets. From time to time, certain advocacy groups have successfully targeted Salon's advertisers in a attempt to persuade such advertisers to cease doing business with Salon. These efforts may be a material impediment to Salon's ability to grow and maintain advertising revenue. SALON'S PROMOTION OF THE SALON BRAND MUST BE SUCCESSFUL IN ORDER TO ATTRACT AND RETAIN USERS AS WELL AS ADVERTISERS AND STRATEGIC PARTNERS The success of the Salon brand depends largely on its ability to provide high quality content and services. If Internet users do not perceive Salon's existing content and services to be of high quality, or if it introduces new content and services or enters into new business ventures that are not favorably perceived by users, it may not be successful in promoting and 20 maintaining its brand. Any change in the focus of its operations creates a risk of diluting its brand, confusing consumers and decreasing the value of its user base to advertisers. If Salon is unable to maintain or increase the Salon brand, its business could be severely harmed. SALON NEEDS TO HIRE, INTEGRATE AND/OR RETAIN QUALIFIED PERSONNEL BECAUSE THESE INDIVIDUALS ARE IMPORTANT TO ITS GROWTH Salon's success significantly depends on key editorial and design personnel. In addition, because its users must perceive the content of its Websites as having been created by credible and notable sources, Salon's success also depends on the name recognition and reputation of its editorial staff, in particular David Talbot, Salon's founder and Editor-in-Chief. Salon's future success depends to a significant extent on the continued services of key personnel, particularly, David Talbot, and Michael O'Donnell, Chief Executive Officer. Salon currently has no employment agreement with Mr. Talbot and it does not maintain "key person" life insurance for any of its personnel. The loss of the services of Mr. Talbot, Mr. O'Donnell, or other key employees would likely have a significantly adverse effect on its business. Due to Salon's current operating difficulties, Salon may experience difficulty in hiring and retaining highly skilled employees with appropriate qualifications. Salon may be unable to retain its current key employees or attract, integrate or retain other qualified employees in the future. If Salon does not succeed in attracting new personnel or integrating, retaining and motivating its current personnel, its business could be harmed. SALON MAY EXPEND SIGNIFICANT RESOURCES TO PROTECT ITS INTELLECTUAL PROPERTY RIGHTS OR TO DEFEND CLAIMS OF INFRINGEMENT BY THIRD PARTIES, AND IF SALON IS NOT SUCCESSFUL IT MAY LOSE RIGHTS TO USE SIGNIFICANT MATERIAL OR BE REQUIRED TO PAY SIGNIFICANT FEES Salon's success and ability to compete are significantly dependent on its proprietary content. Salon relies exclusively on copyright law to protect its content. While Salon actively take steps to protect its proprietary rights, these steps may not be adequate to prevent the infringement or misappropriation of its content. Infringement or misappropriation of its content or intellectual property could severely harm its business. Salon also licenses content from various freelance providers and other third-party content providers. While Salon attempts to insure that this content may be freely licensed to us, other parties may assert claims of infringement against us relating to this content. Salon may need to obtain licenses from others to refine, develop, market and deliver new services. Salon may not be able to obtain any such licenses on commercially reasonable terms or at all or rights granted pursuant to any licenses may not be valid and enforceable. In April 1999 Salon acquired the Internet address www.salon.com. Because www.salon.com is the address of the main home page to its network of Websites and incorporates its company name, it is a vital part of our intellectual property assets. Salon does not have a registered trademark on the address, and therefore it may be difficult for us to prevent a third party from infringing our intellectual property rights in the address. If Salon fails to adequately protect its rights in the Website address, or if a third party infringes its rights in the address, or otherwise dilutes the value of www.salon.com, its business could be harmed. 21 SALON'S TECHNOLOGY DEVELOPMENT EFFORTS MAY NOT BE SUCCESSFUL IN IMPROVING THE FUNCTIONALITY OF ITS NETWORK, WHICH COULD RESULT IN REDUCED TRAFFIC ON ITS NETWORK OR RETENTION OF SALON PREMIUM SUBSCRIBERS Salon has developed a proprietary online publishing system and has developed software to manage its Salon Premium subscription service. If these systems do not work as intended, or if Salon is unable to continue to develop these systems to keep up with the rapid evolution of technology for content delivery and subscription management, including advertising on the Internet, its network of Websites or subscription management may not operate properly which could harm Salon's business. Additionally, software product design, development and enhancement involve creativity, expense and the use of new development tools and learning processes. Delays in software development processes are common, as are project failures, and either factor could harm Salon's business. Moreover, complex software products like its online publishing and subscription management systems frequently contain undetected errors or shortcomings, and may fail to perform or scale as expected. Although Salon has tested and will continue to test its systems, errors or deficiencies may be found in these systems that may impact its business adversely. SALON RELIES ON THIRD PARTIES FOR SEVERAL CRITICAL FUNCTIONS RELATING TO DELIVERY OF ADVERTISING AND ITS WEBSITE PERFORMANCE, AND THE FAILURE OF THESE THIRD PARTIES TO SUPPLY THESE SERVICES IN AN EFFICIENT MANNER COULD LIMIT ITS GROWTH AND IMPAIR ITS BUSINESS Salon relies on a number of third party suppliers for various services, including web hosting and advertising delivery. While Salon believes that it could obtain these services from other qualified suppliers on similar terms and conditions, a disruption in the supply of these services by its current suppliers could severely harm its business. Salon uses third-party software to manage and measure the delivery of advertising on its network of Websites. This type of software may fail to perform as expected. If this software malfunctions or does not deliver the correct advertisements to its network, Salon's advertising revenues could be reduced, and its business could be harmed. Salon uses third-party software to measure traffic on its network of Websites. This type of software does not always perform as expected. If this software malfunctions or does not accurately measure its user traffic, Salon may not be able to justify its advertising rates, and its advertising revenues could be reduced. ACCEPTANCE AND EFFECTIVENESS OF INTERNET ADVERTISING IS EVOLVING AND, TO THE EXTENT IT DOES NOT GROW, SALON'S MARKET MAY NOT DEVELOP ADEQUATELY AND ITS BUSINESS COULD BE HARMED Salon's success is highly dependent on an increase in the use of the Internet. If the markets for Internet advertising or electronic commerce does not continue to develop, its business may be severely harmed. Different pricing models are used to sell Internet advertising. It is difficult to predict which pricing models, if any, will emerge as the industry standard. This uncertainty makes it difficult to project its future advertising rates and revenues. Any failure to adapt to pricing models that develop or respond to competitive pressures could reduce its advertising revenues. Moreover, "filter" software programs that limit or prevent advertising from being delivered to an Internet user's computer are commonly available. Widespread use of this software could adversely affect the commercial viability of Internet advertising and its business. 22 ADVERTISING PRODUCT OFFERINGS CONTINUE TO CHANGE AND THIS CREATES ADDITIONAL EFFORT AND UNCERTAINTY ABOUT THIS REVENUE STREAM Advertisers continue to be attracted by new products, promotional vehicles and offerings delivered via the Internet. This interest in new products requires that Salon identify advertiser interests, develop and launch new advertising products or formats, create appropriate pricing schedules, train the sales force in the use and sale of new products, manage the obsolescence of earlier products, and restructure the Salon.com Website to effectively deliver, track and report new products. New product design, development and launch involve creativity, expense, technology modifications and learning processes. While Salon has integrated this activity into its existing operations, the rate of change could create an environment where Salon is unable to effectively develop, deliver or track the delivery of products acceptable to the market. Advertisers are increasingly selecting shorter campaign lengths with less lead-time until launch. These campaigns have less flexibility in delivery requirements and limit the ability of Salon to precisely identify future revenues. TRACKING AND MEASUREMENT STANDARDS FOR INTERNET BASED ADVERTISING MAY NOT EVOLVE TO THE EXTENT NECESSARY TO SUPPORT INTERNET ADVERTISING, THEREBY CREATING UNCERTAINTY ABOUT THE VIABILITY OF SALON'S BUSINESS MODEL Measurement standards for Internet based advertising are evolving. In addition, software to track Internet usage is also evolving. The development of such software or other methodologies may not keep pace with Salon's information needs, particularly to support Salon's internal business requirements and those of its advertisers. The absence or insufficiency of this information could limit Salon's ability to attract and retain advertisers. It is important to Salon's advertisers that Salon accurately presents the demographics of its user base and the delivery of advertisements on its Websites. Salon depends on third parties to provide certain of the advertiser-requested services. If they were unable to provide these services in the future, Salon would need to perform this function itself or obtain them from another provider, if available. This could cause Salon to incur additional costs or lose revenue due to a lower level of service. Companies may choose to not advertise on Salon or may pay less for advertising if they do not perceive our measurements or measurements made by third parties to be reliable. IF USE OF THE INTERNET DOES NOT GROW, SALON'S BUSINESS COULD BE HARMED Salon's success is highly dependent upon continued growth in the use of the Internet generally and in particular as a medium for content, advertising and electronic commerce. If Internet usage does not grow, it may not be able to increase revenues from advertising and this may harm Salon's business. A number of factors may inhibit the growth of Internet usage, including the following. If these or any other factors cause use of the Internet to slow or decline, its results of operations could be harmed. o inadequate network infrastructure; o security concerns; o charging for content; o inconsistent quality of service; and o limited availability of cost-effective, high-speed access. 23 INCREASING COMPETITION AMONG INTERNET CONTENT PROVIDERS COULD REDUCE ITS ADVERTISING SALES OR MARKET SHARE, THEREBY HARMING ITS BUSINESS The market for Internet content is relatively new, rapidly changing and intensely competitive. Salon expects competition for Internet content to continue to increase, and if it cannot compete effectively, its business could be harmed. The number of Websites competing for the attention and spending of users and advertisers may continue to increase with the most trafficked Websites receiving a disproportionate share of advertising dollars. Salon is not one of the most trafficked Websites, or even one of the top ten Websites. Increased competition could result in advertising price reductions or loss of market share, any of which could harm Salon's business. Competition is likely to increase significantly as new companies enter the market and current competitors expand their services. Many of Salon's present and potential competitors are likely to enjoy substantial competitive advantages over Salon. If Salon does not compete effectively or if it experiences any pricing pressures or loss of market share resulting from increased competition, its business could be harmed. SALON MAY BE HELD LIABLE FOR CONTENT OR THIRD PARTY LINKS ON ITS WEBSITES OR CONTENT DISTRIBUTED TO THIRD PARTIES As a publisher and distributor of content over the Internet, including user-generated content on Salon's online communities and links to third party Websites that may be accessible through Salon.com, Salon faces potential liability for defamation, negligence, copyright, patent or trademark infringement and other claims based on the nature, content or ownership of the material that is published on or distributed from its network of Websites. These types of claims have been brought, sometimes successfully, against online services, Websites and print publications in the past. Other claims may be based on errors or false or misleading information provided on linked Websites, including information deemed to constitute professional advice such as legal, medical, financial or investment advice. Other claims may be based on its links to sexually explicit Websites and our provision of sexually explicit advertisements when this content is displayed. Although Salon carries general liability insurance, its insurance may not be adequate to indemnify Salon for all liabilities imposed. Any liability that is not covered by its insurance or is in excess of its insurance coverage could severely harm its financial condition and business. Implementing measures to reduce its exposure to these forms if liability may require Salon to spend substantial resources and limit the attractiveness of Salon's service to users. CONCERNS ABOUT TRANSACTIONAL SECURITY MAY HINDER ELECTRONIC COMMERCE PROGRAMS BY SUBJECTING US TO LIABILITY OR BY DISCOURAGING COMMERCIAL TRANSACTIONS OVER THE INTERNET A significant barrier to sale of subscriptions and electronic commerce is the secure transmission of confidential information over public networks. Any breach in Salon's security could expose it to a risk of loss or litigation and possible liability. Salon relies on encryption and authentication technology licensed from third parties to provide secure transmission of confidential information. As a result of advances in computer capabilities, new discoveries in the field of cryptography or other developments, a compromise or breach of the algorithms we use to protect customer transaction data may occur. A compromise of its security could severely harm its business. A party who is able to circumvent our security measures could misappropriate proprietary information, including customer credit card information, or cause interruptions in the operation of its network of Websites. 24 Salon may be required to expend significant capital and other resources to protect against the threat of security breaches or to alleviate problems caused by these breaches. However, protection may not be available at a reasonable price or at all. Concerns over the security of electronic commerce and the privacy of users may also inhibit the growth of the Internet as a means of conducting commercial transactions. SALON'S INTERNALLY DEVELOPED SOFTWARE AND SOFTWARE PLATFORMS PROVIDED BY A THIRD PARTY TO MANAGE SALON'S SUBSCRIPTION BUSINESS MIGHT FAIL RESULTING IN LOST SUBSCRIPTION INCOME Salon's software to manage its subscription business was developed internally to interface with the software provided by a third party. The third party's software provides a gateway to authenticate credit card transactions. If these systems were to fail or not function as intended, credit card transactions might not be processed and Salon's revenues would therefore be harmed. SALON'S SYSTEMS MAY FAIL DUE TO NATURAL DISASTERS, TELECOMMUNICATIONS FAILURES AND OTHER EVENTS, ANY OF WHICH WOULD LIMIT USER TRAFFIC Substantially all of Salon's communications hardware and computer hardware operations for its Websites are in facilities in San Francisco, California. Fire, floods, earthquakes, power loss, telecommunications failures, break-ins, supplier failure to meet commitments, and similar events could damage these systems and cause interruptions in its services. Computer viruses, electronic break-ins or other similar disruptive problems could cause users to stop visiting its network of Websites and could cause advertisers to terminate any agreements with us. In addition, Salon could lose advertising revenues during these interruptions and user satisfaction could be negatively impacted if the service is slow or unavailable. If any of these circumstances occurred, its business could be harmed. Salon's insurance policies may not adequately compensate it for any losses that may occur due to any failures of or interruptions in our systems. Salon does not presently have a formal disaster recovery plan. Salon's Websites must accommodate a high volume of traffic and deliver frequently updated information. It is possible that it will experience systems failures in the future and that such failures could harm its business. In addition, its users depend on Internet service providers, online service providers and other Website operators for access to its Websites. Many of these providers and operators have experienced significant outages in the past, and could experience outages, delays and other difficulties due to system failures unrelated to its systems. Any of these system failures could harm its business. HACKERS MAY ATTEMPT TO PENETRATE SALON'S SECURITY SYSTEM; ONLINE SECURITY BREACHES COULD HARM ITS BUSINESS Consumer and supplier confidence in Salon's Websites depends on maintaining relevant security features. Security breaches also could damage its reputation and expose us to a risk of loss or litigation. Experienced programmers or "hackers" have successfully penetrated sectors of its systems and Salon expects that these attempts will continue to occur from time to time. Because a hacker who is able to penetrate its network security could misappropriate proprietary information or cause interruptions in its products and services, Salon may have to expend significant capital and resources to protect against or to alleviate problems caused by these hackers. Additionally, Salon may not have a timely remedy against a hacker who is able to penetrate its network security. Such security breaches could materially adversely affect Salon. In addition, the transmission of computer viruses resulting from hackers or otherwise could expose us to significant liability. Salon's insurance policies may not be adequate to reimburse us for losses caused by security breaches. Salon also faces risks associated with security breaches affecting third parties with whom it has relationships. 25 GOVERNMENTAL REGULATION AND LEGAL UNCERTAINTIES OF THE INTERNET MAY RESTRICT SALON'S BUSINESS OR RAISE ITS COSTS There are currently few laws or regulations that specifically regulate communications or commerce on the Internet. Laws and regulations may be adopted in the future, however, that address issues including content, copyrights, distribution, antitrust matters, user privacy, pricing, and the characteristics and quality of products and services. An increase in regulation or the application of existing laws to the Internet could significantly increase Salon's costs of operations and harm Salon's business. For example, the Communications Decency Act of 1996 sought to prohibit the transmission of certain types of information and content over the web. Additionally, several telecommunications companies have petitioned the Federal Communications Commission to regulate Internet service providers and online service providers in a manner similar to long distance telephone carriers and to impose access fees on these companies. Imposition of access fees could increase the cost of transmitting data over the Internet. Moreover, it may take years to determine the extent to which existing laws relating to issues such as property ownership, obscenity, libel and personal privacy are applicable to the Internet or the application of laws and regulations from jurisdictions whose laws do not currently apply to its business. PRIVACY CONCERNS COULD IMPAIR SALON'S BUSINESS Salon has a policy against using personally identifiable information obtained from users of its Websites and services without the user's permission. In the past, the Federal Trade Commission has investigated companies that have used personally identifiable information without permission or in violation of a stated privacy policy. If Salon uses this information without permission or in violation of its policy, Salon may face potential liability for invasion of privacy for compiling and providing information to its corporate customers and electronic commerce merchants. In addition, legislative or regulatory requirements may heighten these concerns if businesses must notify Internet users that the data may be used by marketing entities to direct product promotion and advertising to the user. Other countries and political entities, such as the European Union, have adopted such legislation or regulatory requirements. The United States may adopt similar legislation or regulatory requirements. If consumer privacy concerns are not adequately addressed, our business, financial condition and results of operations could be materially harmed. POSSIBLE STATE SALES AND OTHER TAXES COULD ADVERSELY AFFECT SALON'S RESULTS OF OPERATIONS Salon generally does not collect sales or other taxes from individuals who sign up for Salon subscriptions. During the year ended March 31, 2003, the State of California audited Salon's sales tax returns and found Salon in compliance with its filings and did not object to the fact that it did not collect sales tax on subscriptions. However, one or more other states may seek to impose sales tax collection obligations on out-of-state companies, including Salon, which engage in or facilitate electronic commerce. State and local governments have discussed and made proposals imposing taxes on the sale of goods and services through the Internet. Such proposals, if adopted, could substantially impair the growth of electronic commerce and could reduce Salon's ability to derive revenue from electronic commerce. Moreover, if any state or foreign country were to assert successfully that Salon should collect sales or other taxes on the exchange of merchandise on its network or to tax revenue generated from Salon subscriptions, its financial results could be harmed. PROVISIONS IN DELAWARE LAW AND OUR CHARTER, STOCK OPTION AGREEMENTS AND OFFER LETTERS TO EXECUTIVE OFFICERS MAY PREVENT OR DELAY A CHANGE OF CONTROL 26 Salon is subject to the Delaware anti-takeover laws regulating corporate takeovers. These anti-takeover laws prevent Delaware corporations from engaging in a merger or sale of more than 10% of its assets with any stockholder, including all affiliates and associates of the stockholder, who owns 15% or more of the corporation's outstanding voting stock, for three years following the date that the stockholder acquired 15% or more of the corporation's assets unless: o the board of directors approved the transaction where the stockholder acquired 15% or more of the corporation's assets; o after the transaction where the stockholder acquired 15% or more of the corporation's assets, the stockholder owned at least 85% of the corporation's outstanding voting stock, excluding shares owned by directors, officers and employee stock plans in which employee participants do not have the right to determine confidentially whether shares held under the plan will be tendered in a tender or exchange offer; or o on or after this date, the merger or sale is approved by the board of directors and the holders of at least two-thirds of the outstanding voting stock that is not owned by the stockholder. A Delaware corporation may opt out of the Delaware anti-takeover laws if its certificate of incorporation or bylaws so provide. We have not opted out of the provisions of the anti-takeover laws. As such, these laws could prohibit or delay mergers or other takeover or change of control of Salon and may discourage attempts by other companies to acquire Salon. Salon's certificate of incorporation and bylaws include a number of provisions that may deter or impede hostile takeovers or changes of control or management. These provisions include: o Salon's board is classified into three classes of directors as nearly equal in size as possible with staggered three year-terms; and o special meetings of the stockholders may be called only by the Chairman of the Board, the Chief Executive Officer or the Board of Directors. These provisions may have the effect of delaying or preventing a change of control. Salon's certificate of incorporation and bylaws provide that it will indemnify officers and directors against losses that they may incur in investigations and legal proceedings resulting from their services to Salon, which may include services in connection with takeover defense measures. These provisions may have the effect of preventing changes in Salon's management. In addition, offer letters with executive officers provide for the payment of severance and acceleration of options upon the termination of these executive officers following a change of control of Salon. These provisions in offer letters could have the effect of discouraging potential takeover attempts. 27 ITEM 3. QUALITATIVE AND QUANTITATIVE DISCLOSURE ABOUT MARKET RISK Salon does not have an exposure to market risk for changes in interest rates. ITEM 4. CONTROLS AND PROCEDURES Under the supervision and with the participation of our management, including our chief executive officer and chief financial officer we evaluated the effectiveness of our disclosure controls and procedures, as such term is defined in Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended. Based on this evaluation, our chief executive officer and chief financial officer concluded that our disclosure controls and procedures were effective as of the end of the period covered by this quarterly report. ================================================================================ PART II: OTHER INFORMATION ================================================================================ ITEM 1. LEGAL PROCEEDINGS. Not Applicable ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS. On April 10, 2003 Salon entered into a Note and Warrant Purchase agreement with two investors for $200 and issued warrants to purchase 600,000 shares of common stock at $0.046 per share. The investors included a Director of Salon, as well as an entity of which the father of Salon's Chief Financial Officer, Treasurer and Secretary, has an ownership interest in. On April 29, 2003 Salon finalized a Note and Warrant Purchase agreement with the same investors for $200 and issued warrants to purchase 600,000 shares of common stock at $0.0575 per share. On May 28, 2003 Salon finalized a Note and Warrant Purchase agreement with the same Director of Salon for $300 and issued warrants to purchase 900,000 shares of common stock at $0.0575 per share. On June 12, 2003 Salon finalized a Note and Warrant Purchase agreement with the father of Salon's Chief Financial Officer, Treasurer and Secretary for $100 and issued warrants to purchase 300,000 shares of common stock at $0.0575 per share. On June 26, 2003 Salon finalized a Note and Warrant Purchase agreement with an investor for $100 and issued warrants to purchase 300,000 shares of common stock at $0.0575 per share. The proceeds from the issuance of the Note are to be used for working capital and other general corporate purposes. The Note and warrants were issued pursuant to Regulation D promulgated under the Securities Act of 1933, as amended. The Note can be converted into financing securities or Salon's common stock. The holder of the Note has not elected to convert the Note into financing securities or Salon's common stock The Note automatically converts upon the closing of the Salon's first sale of its preferred or common stock with aggregate gross proceeds to Salon of at least $2.0 million (including the conversion of the outstanding principal of the Note and other converted indebtedness of Salon). In the event that Salon issues new financing securities by September 30, 2003, the number of shares of the financing securities to be issued upon conversion of the Note shall equal the aggregate amount of the Note divided by the price per share of the financing securities issued and sold. If no new financing occurs by September 30, 2003, 28 the Note converts to shares of common stock based on the average closing price of Salon's common stock over the sixty trading days ending on September 30, 2003 as reported on such market(s) and/or exchanges where the common stock has traded. In the event of bankruptcy or insolvency proceedings, the Note becomes immediately due and payable. Salon granted the purchaser of the Note a security interest in substantially all of Salon's assets. The indebtedness of the Note is subordinated to certain bank indebtedness, as incurred. ITEM 3. DEFAULT UPON SENIOR SECURITIES. Not Applicable ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. Not Applicable ITEM 5. OTHER INFORMATION. Not applicable 29 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K. (A) EXHIBITS. 4.2.26(1) Note and Warrant Purchase Agreement dated April 10, 2003 4.2.27(1) Convertible Promissory Note dated April 10, 2003 by Salon Media Group, Inc. 4.2.28(1) Common Stock Purchase Warrant dated April 10, 2003 by Salon Media Group, Inc. 4.2.29(2) Note and Warrant Purchase Agreement dated April 29, 2003 4.2.30(2) Convertible Promissory Note dated April 29, 2003 by Salon Media Group, Inc. 4.2.31(2) Common Stock Purchase Warrant dated April 29, 2003 by Salon Media Group, Inc. 4.2.32(3) Note and Warrant Purchase Agreement dated May 28, 2003 4.2.33(3) Convertible Promissory Note dated May 28, 2003 by Salon Media Group, Inc. 4.2.34(3) Common Stock Purchase Warrant dated May 28, 2003 by Salon Media Group, Inc. 4.2.35(4) Note and Warrant Purchase Agreement dated June 12, 2003 4.2.36(4) Convertible Promissory Note dated June 12, 2003 by Salon Media Group, Inc. 4.2.37(4) Common Stock Purchase Warrant dated June 12, 2003 by Salon Media Group, Inc. 4.2.38(5) Note and Warrant Purchase Agreement dated June 26, 2003 4.2.39(5) Convertible Promissory Note dated June 26, 2003 by Salon Media Group, Inc. 4.2.40(5) Common Stock Purchase Warrant dated June 26, 2003 by Salon Media Group, Inc. 10.26 Amended Office Lease between Salon's San Francisco landlord and Salon dated June 27, 2003 31.1 Certification of Michael O'Donnell, Chief Executive Officer and President of the Registrant pursuant to Section 302, as adopted pursuant to the Sarbanes-Oxley Act of 2002 31.2 Certification of Elizabeth Hambrecht, Chief Financial Officer, Treasurer and Secretary of the Registrant pursuant to Section 302, as adopted pursuant to the Sarbanes-Oxley Act of 2002 32.1 Certification of Michael O'Donnell, Chief Executive Officer and President of the Registrant pursuant to Section 906, as adopted pursuant to the Sarbanes-Oxley Act of 2002 30 32.2 Certification of Elizabeth Hambrecht, Chief Financial Officer, Treasurer and Secretary of the Registrant pursuant to Section 906, as adopted pursuant to the Sarbanes-Oxley Act of 2002 99.1(6) Press release dated June 30, 2003 by Salon Media Group, Inc. (1) Incorporated by reference to the exhibit filed with the Registrant's Current Report on Form 8-K filed on April 22, 2003 (2) Incorporated by reference to the exhibit filed with the Registrant's Current Report on Form 8-K filed on May 12, 2003 (3) Incorporated by reference to the exhibit filed with the Registrant's Current Report on Form 8-K filed on June 10, 2003 (4) Incorporated by reference to the exhibit filed with the Registrant's Current Report on Form 8-K filed on June 27, 2003 (5) Incorporated by reference to the exhibit filed with the Registrant's Current Report on Form 8-K filed on July 11, 2003 (6) Incorporated by reference to the exhibit filed with the Registrant's Current Report on Form 8-K filed on July 3, 2003 (B) REPORTS ON FORM 8-K. On April 22, 2003 Salon filed a Current Report on Form 8-K under Item 5 announcing the sale of convertible promissory notes and warrants for which it received $200,000 in cash. On May 12, 2003 Salon filed a Current Report on Form 8-K under Item 5 announcing the sale of convertible promissory notes and warrants for which it received $200,000 in cash. On June 10, 2003 Salon filed a Current Report on Form 8-K under Item 5 announcing the sale of convertible promissory notes and warrants for which it received $300,000 in cash. On July 25, 2003 Salon filed a Current Report on Form 8-K under Item 5 announcing the sale of convertible promissory notes and warrants for which it received $100,000 in cash. 31 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed of its behalf by the undersigned, thereunto duly authorized. SALON MEDIA GROUP, INC. Dated: 8/11/03 /s/ Michael O'Donnell ------------------------------------- Michael O'Donnell, Chief Executive Officer and President Dated: 8/11/03 /s/ Elizabeth Hambrecht ------------------------------------- Elizabeth Hambrecht, Chief Financial Officer, Secretary and Treasurer 32