-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, AawRWB0rLTVUi9RxYSttZ8ZfaeKh3IBY5Zhl9zA5IYvTJax379ZOeObOKuRvyUw4 9vqvyYXlUkT+bs//w0+UCQ== 0000950117-03-004837.txt : 20031113 0000950117-03-004837.hdr.sgml : 20031113 20031113164825 ACCESSION NUMBER: 0000950117-03-004837 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 5 CONFORMED PERIOD OF REPORT: 20030930 FILED AS OF DATE: 20031113 FILER: COMPANY DATA: COMPANY CONFORMED NAME: KNOT INC CENTRAL INDEX KEY: 0001062292 STANDARD INDUSTRIAL CLASSIFICATION: PERIODICALS: PUBLISHING OR PUBLISHING AND PRINTING [2721] IRS NUMBER: 133895178 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 000-28271 FILM NUMBER: 03998735 BUSINESS ADDRESS: STREET 1: 462 BROADWAY 6TH FLOOR CITY: NEW YORK STATE: NY ZIP: 10013 BUSINESS PHONE: 2122198555 MAIL ADDRESS: STREET 1: 462 BROADWAY, 6TH FLOOR CITY: NEW YORK STATE: NY ZIP: 10013 10-Q 1 a36466.txt THE KNOT, INC. U.S. SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q |X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED September 30, 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: 000-28271 THE KNOT, INC. (Exact Name of Registrant as Specified in its Charter) Delaware 13-3895178 (State of incorporation) (I.R.S. Employer Identification Number) 462 Broadway, 6th Floor New York, New York 10013 (Address of Principal Executive Officer and Zip Code) (212) 219-8555 (Registrant's Telephone Number, Including Area Code) Indicate by check whether the registrant: (1) filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act 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 in Exchange Act Rule 12b-2) Yes |_| No |X| As of November 7, 2003, there were 18,885,755 shares of the registrant's common stock outstanding.
Page Number ------ PART I FINANCIAL INFORMATION Item 1: Financial Statements (Unaudited): Condensed Consolidated Balance Sheets as of September 30, 2003 and December 31, 2002....................................................................... 3 Condensed Consolidated Statements of Operations for the three months and nine months ended September 30, 2003 and 2002................................................ 4 Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2003 and 2002....................................................... 5 Notes to Condensed Consolidated Financial Statements.................................... 6 Item 2: Management's Discussion and Analysis of Financial Condition and Results of Operations... 12 Item 3: Quantitative and Qualitative Disclosures About Market Risk.............................. 28 Item 4: Controls and Procedures................................................................. 28 PART II OTHER INFORMATION Item 1: Legal Proceedings....................................................................... 29 Item 6: Exhibits and Reports on Form 8-K........................................................ 29
2 Item 1. Financial Statements (Unaudited) THE KNOT, INC. CONDENSED CONSOLIDATED BALANCE SHEETS
September 30, December 31, 2003 2002* (Unaudited) ------------- ------------ Assets Current assets: Cash and cash equivalents .................................................. $11,923,882 $ 9,305,670 Restricted cash............................................................. 251,871 251,871 Accounts receivable, net of allowances of $1,091,333 and $960,223 at September 30, 2003 and December 31, 2002, respectively................. 3,073,611 4,791,458 Inventories................................................................. 1,495,368 1,291,866 Deferred production and marketing costs..................................... 159,639 443,502 Other current assets........................................................ 423,602 556,358 ----------- ----------- Total current assets........................................................... 17,327,973 16,640,725 Property and equipment, net.................................................... 2,115,198 1,948,481 Intangible assets, net......................................................... 8,759,136 8,834,136 Other assets................................................................... 324,175 351,570 ----------- ----------- Total assets................................................................... $28,526,482 $27,774,912 =========== =========== Liabilities and stockholders' equity Current liabilities: Accounts payable and accrued expenses....................................... $ 5,454,931 $ 5,112,586 Deferred revenue............................................................ 5,185,109 5,827,432 Current portion of long-term debt........................................... 36,272 137,674 ----------- ----------- Total current liabilities...................................................... 10,676,312 11,077,692 Long-term debt................................................................. 234,901 234,901 Other liabilities.............................................................. 490,524 445,088 ----------- ----------- Total liabilities.............................................................. 11,401,737 11,757,681 Commitments and contingencies Stockholders' equity: Common stock, $.01 par value; 100,000,000 shares authorized; 18,880,191 shares and 18,373,327 shares issued and outstanding at September 30, 2003 and December 31, 2002, respectively................... 188,801 183,733 Additional paid-in-capital.................................................. 64,669,443 64,399,894 Deferred compensation....................................................... -- (54,835) Accumulated deficit......................................................... (47,733,499) (48,511,561) ----------- ----------- Total stockholders' equity..................................................... 17,124,745 16,017,231 ----------- ----------- Total liabilities and stockholders' equity..................................... $28,526,482 $27,774,912 =========== ===========
*The condensed consolidated balance sheet as of December 31, 2002 has been derived from the audited financial statements at that date, but does not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. See accompanying notes. 3 THE KNOT, INC. CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
Three Months Ended September 30, Nine Months Ended September 30, 2003 2002 2003 2002 ---- ---- ---- ---- Net revenues......................................... $ 9,739,002 $ 8,035,823 $28,547,914 $22,442,059 Cost of revenues..................................... 3,394,233 2,890,997 9,628,359 8,216,156 ----------- ----------- ----------- ----------- Gross profit......................................... 6,344,769 5,144,826 18,919,555 14,225,903 Operating expenses: Product and content development................... 1,112,199 957,675 3,215,773 2,981,337 Sales and marketing............................... 3,019,729 2,997,529 8,638,697 8,572,275 General and administrative........................ 1,852,536 1,715,014 5,617,727 5,693,805 Non-cash compensation............................. 632 23,403 32,623 116,567 Non-cash sales and marketing...................... -- 163,308 -- 489,924 Depreciation and amortization..................... 173,661 295,701 665,112 980,542 ----------- ----------- ----------- ----------- Total operating expenses............................. 6,158,757 6,152,630 18,169,932 18,834,450 ----------- ----------- ----------- ----------- Income (loss) from operations........................ 186,012 (1,007,804) 749,623 (4,608,547) Interest and other income, net....................... 20,822 30,521 63,439 79,065 ----------- ----------- ----------- ----------- Income (loss) before income taxes.................... 206,834 (977,283) 813,062 (4,529,482) Provision for income taxes........................... 5,000 -- 35,000 -- ----------- ----------- ----------- ----------- Net income (loss).................................... $ 201,834 $ (977,283) $ 778,062 $(4,529,482) =========== =========== =========== =========== Basic earnings (loss) per share...................... $ 0.01 $ (0.05) $ 0.04 $ (0.26) =========== =========== =========== =========== Diluted earnings (loss) per share.................... $ 0.01 $ (0.05) $ 0.04 $ (0.26) =========== =========== =========== =========== Weighted average number of commonshares outstanding Basic............................................. 18,605,468 18,361,535 18,470,638 17,753,181 =========== =========== =========== =========== Diluted........................................... 20,492,003 18,361,535 19,734,658 17,753,181 =========== =========== =========== ===========
See accompanying notes. 4 THE KNOT, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
Nine Months Ended September 30, 2003 2002 ---- ---- Operating activities Net income (loss).............................................................. $ 778,062 $(4,529,482) Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:............................................. Depreciation and amortization............................................... 590,112 905,542 Amortization of intangible assets........................................... 75,000 75,000 Amortization of deferred compensation....................................... 32,623 116,567 Amortization of deferred sales and marketing................................ -- 489,924 Reserve for returns......................................................... 1,534,955 894,352 Allowance for doubtful accounts............................................. 128,292 496,427 Other non-cash charges...................................................... 11,868 64,667 Changes in operating assets and liabilities Restricted cash............................................................. -- (409,314) Accounts receivable......................................................... 54,600 (1,011,204) Inventories................................................................. (203,502) (756,126) Deferred production and marketing........................................... 283,863 160,239 Other current assets........................................................ 132,756 406,556 Other assets................................................................ 27,395 9,900 Accounts payable and accrued expenses....................................... 342,345 1,509,068 Deferred revenue............................................................ (642,323) 1,036,275 Other liabilities........................................................... 45,436 89,186 ----------- ----------- Net cash provided by (used in) operating activities............................ 3,191,482 (452,423) Investing activities Purchases of property and equipment............................................ (768,697) (213,846) Acquisition of businesses, net of acquired cash................................ (38,400) (115,199) ----------- ----------- Net cash used in investing activities.......................................... (807,097) (329,045) Financing activities Repayment of short-term borrowings............................................. (63,002) (1,487,274) Financing costs................................................................ -- (33,000) Proceeds from issuance of common stock......................................... 16,737 5,018,154 Proceeds from exercise of stock options........................................ 280,092 -- ----------- ----------- Net cash provided by financing activities...................................... 233,827 3,497,880 Increase in cash and cash equivalents.......................................... 2,618,212 2,716,412 Cash and cash equivalents at beginning of period............................... 9,305,670 6,782,051 ----------- ----------- Cash and cash equivalents at end of period..................................... $11,923,882 $ 9,498,463 =========== ===========
See accompanying notes. 5 THE KNOT, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) 1. BASIS OF PRESENTATION AND NATURE OF OPERATIONS The accompanying financial information as of December 31, 2002 is derived from audited financial statements. The financial statements as of September 30, 2003 and for the three and nine months ended September 30, 2003 and 2002 are unaudited. The unaudited interim financial statements have been prepared on the same basis as the annual financial statements and, in the opinion of the Company's management, reflect all adjustments, which include only normal recurring adjustments, necessary to present fairly its financial position as of September 30, 2003, the results of operations for the three and nine months ended September 30, 2003 and 2002 and cash flows for the nine months ended September 30, 2003 and 2002. As a result of a weak national online advertising market in 2001 and through the first six months of 2002, the Company's national online sponsorship and advertising revenue decreased from approximately $8.8 million for the year ended December 31, 2000 to approximately $1.7 million and $1.9 million for the years ended December 31, 2001 and 2002, respectively. To respond to its liquidity needs, the Company's management completed a number of cost reduction initiatives during 2001 including reductions in staff, the restructuring of its international anchor tenant agreement with America Online ("AOL"), reductions in capital expenditures, as well as additional programs resulting in savings in a number of other operating expense categories, the full annual benefits of which were realized in 2002. Operating expenses before depreciation and amortization and other non-cash charges decreased from approximately $27.1 million in 2001 to $22.4 million in 2002. Further, in 2002, the Company added a number of category specific advertising programs to broaden the group of potential national advertisers who can benefit from targeting its audience. These programs commenced in the third quarter of 2002 and are expected to contribute to further growth in national online advertising revenue in 2003. The Company has also increased the number of markets and advertising programs available to local vendors and has expanded the product and service offerings available to consumers of wedding supplies. In addition, in February 2002, the Company raised additional capital of $5.0 million, less related costs, from the sale of common stock to May Bridal Corporation ("May Bridal"), an affiliate of May Department Stores Company ("May") and also entered into a Media Services Agreement with May. The Company believes that its current cash and cash equivalents will be sufficient to fund its working capital and capital expenditure requirements for at least the next twelve months. This expectation is primarily based on internal estimates of revenue growth, which relate to expected increased advertising, merchandising and publishing revenues as well as continuing emphasis on controlling all operating expenses. However, there can be no assurance that actual costs will not exceed amounts estimated, that actual revenues will equal or exceed estimated amounts, or that the Company will sustain profitable operations, due to significant uncertainties surrounding its estimates and expectations. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES PRINCIPLES OF CONSOLIDATION The condensed consolidated financial statements include the accounts of The Knot and its wholly owned subsidiaries. All significant intercompany accounts and transactions have been eliminated. USE OF ESTIMATES Preparing financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses. Actual results may differ from these estimates. Interim results are not necessarily indicative of results for a full year. NET INCOME/LOSS PER SHARE The Company computes net income or loss per share in accordance with SFAS No. 128, "Earnings per Share." Basic net income or loss per share is computed by dividing net income or loss by the weighted average 6 number of common shares outstanding during the period. Diluted net income or loss per share adjusts basic income or loss per share for the effects of convertible securities, stock options and other potentially dilutive financial instruments, only in the periods in which such effect is dilutive. For the three and nine months ended September 30, 2003, the weighted average number of shares used in calculating diluted earnings per share includes options to purchase common stock of 1,886,535 and 1,264,020, respectively. The calculation of earnings or loss per share for the three and nine months ended September 30, 2003 excludes the weighted average number of securities listed below because to include them in the calculation would be antidilutive.
Three Months Nine Months Ended September 30, Ended September 30, 2003 2003 ---- ---- Options to purchase common stock 534,000 949,000 Common stock warrant 440,000 434,000 ------- --------- 974,000 1,383,000 ======= =========
There were no dilutive securities in the three and nine month periods ended September 30, 2002. SEGMENT INFORMATION The Company operates in one segment. RESTRICTED CASH Restricted cash as of September 30, 2003 and December 31, 2002 includes money held in escrow with one of the Company's bankcard processing services providers. NET REVENUES BY TYPE Net revenues by type are as follows:
Three Months Ended September 30, Nine Months Ended September 30, 2003 2002 2003 2002 ---- ---- ---- ---- Type Sponsorship and advertising $3,116,635 $1,843,227 $ 8,887,892 $ 4,596,116 Merchandise................ 4,520,366 4,152,512 13,319,618 11,441,099 Publishing and other....... 2,102,001 2,040,084 6,340,404 6,404,844 ---------- ---------- ----------- ----------- Total...................... $9,739,002 $8,035,823 $28,547,914 $22,442,059 ========== ========== =========== ===========
For the three months ended September 30, 2003 and 2002, merchandise revenue included outbound shipping and handling charges of approximately $547,000 and $501,000, respectively. For the nine months ended September 30, 2003 and 2002, merchandise revenue included outbound shipping and handling charges of approximately $1,583,000 and $1,341,000, respectively. COST OF REVENUES Cost of revenues by type are as follows:
Three Months Ended September 30, Nine Months Ended September 30, 2003 2002 2003 2002 ---- ---- ---- ---- Type Sponsorship and advertising $ 123,550 $ 98,841 $ 339,100 $ 400,573 Merchandise................ 2,322,697 2,090,669 6,765,185 5,717,961 Publishing and other....... 947,986 701,487 2,524,074 2,097,622 ---------- ---------- ----------- ----------- Total...................... $3,394,233 $2,890,997 $9,628,359 $8,216,156 ========== ========== =========== ===========
7 CONCENTRATION OF CREDIT RISK Financial instruments that potentially subject the Company to concentrations of credit risk consist principally of cash and cash equivalents and accounts receivable. Cash and cash equivalents are deposited with three major financial institutions. The Company's customers are primarily concentrated in the United States. The Company performs on-going credit evaluations, generally does not require collateral, and establishes an allowance for doubtful accounts based upon factors surrounding the credit risk of customers, historical trends and other information. To date, such losses have been within management's expectations. For the three and nine months ended September 30, 2003 and 2002, no customer accounted for more than 2% and 1% of net revenues, respectively. At September 30, 2003 and December 31, 2002, no single customer accounted for more than 3% of accounts receivable. STOCK-BASED COMPENSATION Stock-based compensation is accounted for by using the intrinsic value-based method in accordance with the provisions of Accounting Principles Board ("APB") Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations, and the Company complies with the disclosure provisions of SFAS No. 123, Accounting for Stock-Based Compensation. Accordingly, the Company only records compensation expense for any stock options granted with an exercise price that is less than the fair market value of the underlying stock at the date of grant. The Company does not record compensation expense for rights to purchase shares under its Employee Stock Purchase Plan ("ESPP") because it satisfies certain conditions under APB 25. The following table details the effect on net income and earnings per share had stock-based compensation expense been recorded based on the fair value method under SFAS No. 123, as amended.
Three Months Ended September 30, Nine Months Ended September 30, 2003 2002 2003 2002 ---- ---- ---- ---- Net income (loss), as reported................. $ 201,834 $ (977,283) $ 778,062 $(4,529,482) Add: Total stock-based employee compensation expense included in reported net loss......................... 632 23,403 32,623 116,567 Deduct: Total stock-based employee compensation expense determined under fair value method for all awards.... $(208,794) $ (168,223) $(330,150) $ (479,193) --------- ----------- --------- ----------- Net income (loss), pro forma................... $ (6,328) $(1,122,103) $ 480,535 $(4,892,108) ========= =========== ========= =========== Basic earnings (loss) per share, as reported... $ 0.01 $ (0.05) $ 0.04 $ (0.26) ========= =========== ========= =========== Basic earnings (loss) per share, pro forma..... $ 0.00 $ (0.06) $ 0.03 $ (0.28) ========= =========== ========= =========== Diluted earnings (loss) per share, as reported $ 0.01 $ (0.05) $ 0.04 $ (0.26) ========= =========== ========= =========== Diluted earnings (loss) per share, pro forma $ 0.00 $ (0.06) $ 0.02 $ (0.28) ========= =========== ========= ===========
The fair value for options and ESPP rights granted have been estimated on the date of grant using the minimum value method option pricing model from inception through December 1, 1999, the day prior to the Company's initial public offering of its common stock, and using the Black-Scholes pricing model thereafter. For purposes of pro forma disclosures, the estimated fair value of stock-based employee compensation is amortized to expense over the related vesting period and valuation allowances are included for net deferred tax assets. RECENT ACCOUNTING PRONOUNCEMENTS In June 2001, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 143, Accounting for Asset Retirement Obligations. This standard addresses financial 8 accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement of tangible long-lived assets and the associated asset retirement costs. The Company adopted SFAS No. 143 effective January 1, 2003. The adoption of this new statement did not have a material impact on the Company's operating results or financial position. In July 2002, the FASB issued SFAS No. 146, Accounting for Costs Associated with Exit or Disposal Activities. This standard addresses issues regarding the recognition, measurement, and reporting of costs that are associated with exit and disposal activities, including restructuring activities that currently are accounted for pursuant to the guidance that the Emerging Issues Task Force set forth in Issue No. 94-3. The scope of SFAS No. 146 also includes (1) costs related to terminating a contract that is not a capital lease, (2) termination benefits that employees who are involuntarily terminated receive under the terms of a one-time benefit arrangement that is not an ongoing benefit arrangement or an individual deferred- compensation contract and (3) costs to consolidate facilities or relocate employees. SFAS No. 146 is required to be effective for exit or disposal activities initiated after December 31, 2002 and does not affect the recognition of costs under the Company's current activities. Adoption of this standard may impact the timing of the recognition of costs associated with future exit or disposal activities, depending upon the actions initiated. In November 2002, the Emerging Issues Task Force (EITF") reached a consensus opinion on EITF 00-21 Revenue Arrangements with Multiple Deliverables. This Issue addresses the determination of whether an arrangement involving more than one deliverable contains more than one unit of accounting and how arrangement consideration should be measured and allocated to the separate units of accounting. The provisions of EITF Issue 00-21 are effective for revenue arrangements entered into for fiscal quarters beginning after June 15, 2003. The adoption of EITF 00-21 did not have a material impact on the Company's operating results or financial position. In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based Compensation-Transition and Disclosure. SFAS No. 148 amends SFAS No. 123, Accounting for Stock-Based Compensation, to provide alternative methods of transition for a voluntary change to the fair value method of accounting for stock-based employee compensation. In addition, SFAS No. 148 amends the disclosure requirements of SFAS No. 123 to require prominent disclosure in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. The provisions of SFAS No. 148 are effective for financial statements for fiscal years and interim periods ending after December 15, 2002. The Company has adopted the disclosure provisions of SFAS No. 148. SFAS No. 148 did not require the Company to change to the fair value method of accounting for stock-based compensation. 3. INVENTORY Inventory consists of the following:
September 30, December 31, 2003 2002 ---- ---- Raw materials........................ $ 108,580 $ 91,556 Finished goods....................... 1,386,788 1,200,310 ---------- ---------- $1,495,368 $1,291,866 ========== ==========
4. INTANGIBLE ASSETS Intangible assets consist of the following:
September 30, December 31, 2003 2002 ---- ---- Goodwill, net........................ $8,409,136 $8,409,136 Covenant not to compete.............. 700,000 700,000 Less accumulated amortization..... (350,000) (275,000) ---------- ---------- Net.................................. 350,000 425,000 ---------- ---------- Total................................ $8,759,136 $8,834,136 ========== ==========
9 The Company completed its most recent goodwill impairment test as of October 1, 2002. The test involved the assessment of the fair market value of the Company as the single reporting unit. No impairment of goodwill was indicated at that time. Under SFAS No. 142, the Company is required to perform goodwill impairment tests on at least an annual basis or more frequently if circumstances dictate. The annual impairment test for fiscal 2003 will be completed in the fourth quarter. There can be no assurance that future goodwill impairment tests will not result in a charge to income. The covenant not to compete is being amortized over the related contractual period of seven years and related amortization expense was $25,000 for the three months ended September 30, 2003 and 2002, and $75,000 for the nine months ended September 30, 2003 and 2002. Estimated annual amortization expense of the covenant not to compete is $100,000 in each of fiscal years 2003 through 2006 and $25,000 in fiscal 2007. 5. ACCOUNTS PAYABLE AND ACCRUED EXPENSES Accounts payable and accrued expenses consist of the following:
September 30, December 31, 2003 2002 ---- ---- Accounts payable....................... $ 852,835 $ 768,329 Distribution and other service fees.... 2,619,549 2,574,024 Compensation and related benefits...... 1,033,082 1,020,916 Other accrued expenses................. 949,465 749,317 ---------- ---------- Total.......................... $5,454,931 $5,112,586 ============= ==========
6. LONG-TERM DEBT Long-term debt as of September 30, 2003 consists of the following: Note due in annual installments of $60,000 through October 2008, based on imputed interest of 8.75%...... $271,173 Less current portion ................................. 36,272 -------- Long term-debt, excluding current portion............. $234,901 ========
Maturities of long-term obligations for the five years ending September 30, 2008 are as follows: 2004, $36,272; 2005, $39,446; 2006, $42,898; 2007, $46,651 and 2008, $50,733 and $55,173 thereafter. Interest expense for the three and nine months ended September 30, 2003 was $6,000 and $25,000, respectively. Interest expense for the three and nine months ended September 30, 2002 was $13,000 and $58,000, respectively. 7. COMMITMENTS AND CONTINGENCIES Legal Proceedings On September 19, 2003, WeddingChannel.com, Inc. ("WeddingChannel") filed a Complaint against the Company in the United States District Court for the Southern District of New York. The Complaint alleges that the Company has violated U.S. Patent 6,618,753, ("Systems and Methods for Registering Gift Registries and for Purchasing Gifts") and further alleges that certain actions of the Company give rise to various federal statute, state statute and common law causes of actions. WeddingChannel is seeking, among other things, unspecified damages and 10 injunctive relief. If the Company is found to have willfully infringed the patent-in-suit, enhanced damages are awardable. This Complaint was served on the Company on September 22, 2003. Based on information currently available, the Company believes that the claims are without merit and is vigorously defending itself against all claims. On October 14, 2003, the Company filed an Answer and Counterclaims against WeddingChannel. The Company's Answer raises various defenses to the counts alleged by WeddingChannel. Additionally, the Company has brought Counterclaims including a request that the Court declare the patent-in-suit is invalid, unenforceable and not infringed. The Company's Counterclaims further allege that certain actions taken by, or on behalf of WeddingChannel give rise to various federal statutory claims, state statutory claims and common law causes of action. The Company is engaged in other legal actions arising in the ordinary course of business and believes that the ultimate outcome of these actions will not have a material effect on its results of operations and financial position. 11 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations You should read the following discussion and analysis in conjunction with our financial statements and related notes included elsewhere in this report. This discussion contains forward-looking statements relating to future events and the future performance of The Knot based on our current expectations, assumptions, estimates and projections about us and our industry. These forward-looking statements involve risks and uncertainties. Our actual results and timing of various events could differ materially from those anticipated in such forward-looking statements as a result of a variety of factors, as more fully described in this section and elsewhere in this report. We undertake no obligation to update publicly any forward-looking statements for any reason, even if new information becomes available or other events occur in the future. Overview The Knot is the leading wedding resource providing products and services to couples planning their weddings and future lives together. Our Web site, at www.theknot.com, is the most trafficked wedding destination online and offers comprehensive content, extensive wedding-related shopping, an online wedding gift registry and an active community. The Knot is the leading wedding content provider on America Online (AOL Keywords: Knot and weddings) and MSN. We publish The Knot Magazine, which features editorial content covering every major wedding planning decision and is distributed to newsstands and bookstores across the nation. Through our subsidiary, Weddingpages, Inc., we publish regional wedding magazines in 18 markets in the United States. We also author books on wedding related topics. We are based in New York and have several other offices across the country. Critical Accounting Policies The discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities on an on-going basis. We evaluate these estimates including those related to revenue recognition, allowances for doubtful accounts and returns, inventory reserves, impairment of intangible assets including goodwill and deferred taxes. Actual results may differ from these estimates under different assumptions or conditions. Revenue Recognition We derive revenues from the sale of online sponsorship and advertising contracts, from the sale of merchandise and from the publication of magazines. Online sponsorship revenues are derived principally from longer-term contracts currently ranging up to thirty-six months. Sponsorships are designed to integrate advertising with specific online editorial content. Sponsors can purchase the exclusive right to promote products or services on a specific online editorial area and can purchase a special feature on our sites. These programs commonly include banner advertisements and direct e-mail marketing. Online advertising revenues are derived principally from short-term contracts that typically range from one month up to one year. These contracts may include online banner advertisements, placement in our online search tools, direct e-mail marketing and online listings in the local area of our Web site for local wedding vendors. Local vendors may also purchase online listings through fixed term or open-ended subscriptions. Certain online sponsorship and advertising contracts provide for the delivery of a minimum number of impressions. Impressions are the featuring of a sponsor's advertisement, banner, link or other form of content on our sites. To date, we have recognized our sponsorship and advertising revenues over the duration of the contracts on a straight-line basis, as we have exceeded minimum guaranteed impressions. To the extent that minimum guaranteed impressions are not met, we are generally obligated to extend the period of the contract until the guaranteed impressions are achieved. If this were to occur, we would defer and recognize the corresponding revenues over the extended period. For the three months ended September 30, 2003, our top seven advertisers accounted for 5% of our net 12 revenues. For the three months ended September 30, 2002, our top seven advertisers accounted for 4% of our net revenues. For the nine months ended September 30, 2003, our top seven advertisers accounted for 5% of our net revenues. For the nine months ended September 30, 2002, our top seven advertisers accounted for 3% of our net revenues. Merchandise revenues include the selling price of wedding supplies and products from our gift registry sold by us through our web sites as well as related outbound shipping and handling charges. Merchandise revenues also include commissions earned in connection with the sale of products from our gift registry under agreements with certain strategic partners. Merchandise revenues are recognized when products are shipped to customers, reduced by discounts as well as an allowance for estimated sales returns. Publishing revenue includes print advertising revenue derived from the publication of The Knot Magazine and the publication of regional magazines by our subsidiary Weddingpages, Inc., as well as fees from the license of the Weddingpages' name for use in publication by certain former franchisees. These revenues and fees are recognized upon the publication of the related magazines, at which time all material services related to the magazine have been performed, or as fees are earned under the terms of license agreements. Additionally, publishing revenues are derived from the sale of magazines on newsstands, in bookstores and online and from author royalties received related to book publishing contracts. Revenues from the sale of magazines are recognized when the products are shipped, reduced by an allowance for estimated sales returns. Royalties are recognized when all contractual obligations have been met, which typically include the delivery and acceptance of a final manuscript. For contracts with multiple elements, including programs which combine online and print advertising components, we allocate revenue to each element based on evidence of its fair value. Evidence of fair value is the normal pricing and discounting practices for those deliverables when sold separately. We defer revenue for any undelivered elements and recognize revenue allocated to each element in accordance with the revenue recognition policies set forth above. Allowance for Doubtful Accounts We maintain an allowance for doubtful accounts for estimated losses resulting from the inability of our customers to make required payments. As of September 30, 2003 and December 31, 2002, our allowance for doubtful accounts amounted to $575,000 and $774,000, respectively. In determining these allowances, we evaluate a number of factors, including the credit risk of customers, historical trends and other relevant information. If the financial condition of our customers were to deteriorate, additional allowances may be required. Inventory In order to record our inventory at its lower of cost or market, we assess the ultimate realizability of our inventory, which requires us to make judgments as to future demand and compare that with current inventory levels. We record a provision to adjust our inventory balance based upon that assessment. As our merchandise revenues grow, the investment in inventory will likely increase. It is possible that we may need to further increase our inventory provisions in the future. Goodwill As of September 30, 2003, we had recorded goodwill and other intangible assets of $8.8 million. In our most recent assessment of impairment of goodwill as of October 1, 2002, we made estimates of fair value using several approaches. In our ongoing assessment of impairment of goodwill and other intangible assets, we consider whether events or changes in circumstances such as significant declines in revenues, earnings or material adverse changes in the business climate, indicate that the carrying value of assets may be impaired. As of September 30, 2003, no impairment has occurred. Future adverse changes in market conditions or poor operating results of strategic investments could result in losses or an inability to recover the carrying value of the investments, thereby possibly requiring impairment charges in the future. We will complete an annual impairment test of goodwill in the fourth quarter of 2003. Deferred Taxes A tax valuation allowance is established, as needed, to reduce net deferred tax assets to the amount for which 13 recovery is probable. As of September 30, 2003, we have established a full valuation allowance of $18.8 million against our net deferred tax assets because of our history of operating losses. Depending on the amount and timing of taxable income we may ultimately generate in the future, as well as other factors including limitations which may arise from changes in the Company's ownership, we could recognize no benefit from our deferred tax assets, in accordance with our current estimate, or we could recognize some or all of their full value. Stock-Based Compensation We account for stock-based compensation by using the intrinsic value based method in accordance with the provisions of Accounting Principles Board ("APB") Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations. Accordingly, we only record compensation expense for any stock options granted with an exercise price that is less than the fair market value of the underlying stock at the date of grant. Results of Operations Net Revenues Net revenues were $9.7 million and $28.5 million for the three and nine months ended September 30, 2003, compared to $8.0 million and $22.4 million for the corresponding periods in 2002. Sponsorship and advertising revenues increased to $3.1 million and $8.9 million for the three and nine months ended September 30, 2003, respectively, as compared to $1.8 million and $4.6 million for the corresponding periods in 2002. Revenue from local vendor online advertising programs increased by $701,000 and $2.3 million for the three and nine months ended September 30, 2003, respectively, or by approximately 52% and 65% when compared to the corresponding periods in 2002, as a result of additional contracts sold which was due, in part, to the expansion in the number of local markets serviced and in the number of programs offered. In addition, there was an increase of approximately $572,000 and $2.0 million in national online sponsorship and advertising revenue for the three and nine months ended September 30, 2003, respectively, due to a larger number of contracts sold including contracts related to our category specific programs. Sponsorship and advertising revenues amounted to 32% of our net revenues for the three months ended September 30, 2003 and 23% for the three months ended September 30, 2002. For the nine months ended September 30, 2003 and 2002, sponsorship and advertising revenues amounted to 31% and 20% of our net revenues, respectively. Merchandise revenues increased to $4.5 million and $13.3 million for the three and nine months ended September 30, 2003, respectively, as compared to $4.2 million and $11.4 million for the corresponding periods in 2002. These increases were primarily due to increases in the sales of wedding supplies through our Web sites of $409,000 and $2.0 million, respectively, or by approximately 11% and 19%, respectively, as a result of the expansion of product and service offerings and increases in the number of orders. Merchandise revenues amounted to 46% of our net revenues for the three months ended September 30, 2003 and 52% for the three months ended September 30, 2002. For the nine months ended September 30, 2003 and 2002, merchandise revenue was 47% and 51% of our net revenues, respectively. Publishing and other revenues were relatively flat at $2.1 million and $6.3 million for the three and nine months ended September 30, 2003, as compared to $2.0 million and $6.4 million for the corresponding periods in 2002. For the three and nine months ended September 30, 2003, revenue derived from The Knot Magazine increased by $403,000 and $823,000, respectively, as compared to the corresponding periods in 2002 due to the sale of a larger number of print advertising contracts and an increase in the number of copies sold as a result of increased distribution. These increases were generally offset by decreases in local print advertising for the three and nine months ended September 30, 2003 of $351,000 and $792,000, respectively, as compared to the corresponding periods in 2002. For the three and nine month periods, the decrease in local print advertising included $272,000 and $157,000 related to the timing of publication of magazines in local markets. The balance of the decrease in local print advertising for both periods resulted from a net reduction in advertising pages sold in comparable markets. Publishing and other revenue amounted to 22% of our net revenues for the three months ended September 30, 2003 and 25% for the three months ended September 30, 2002. For the nine months ended September 30, 2003 and 2002, publishing revenue was 22% and 29% of our net revenues, respectively. 14 Cost of Revenues Cost of revenues consists primarily of the cost of merchandise sold, including outbound shipping costs, the costs related to the production of regional magazines and our national magazine, payroll and related expenses for our personnel who are responsible for the production of online and offline media, and costs of Internet and hosting services. Cost of revenues increased to $3.4 million and $9.6 million for the three and nine months ended September 30, 2003, respectively, from $2.9 million and $8.2 million for the corresponding periods in 2002. This was due, in part, to an increase in the cost of revenues from the sale of merchandise, which increased by $232,000 and $1.0 million for the three and nine month periods ended September 30, 2003, respectively, as compared to the corresponding periods in 2002, as a result of increased sales of wedding supplies. Cost of revenue related to publishing also increased by $247,000 and $426,000 for the three and nine months ended September 30, 2003, respectively, due to higher costs associated with The Knot Magazine as a result of increased distribution. As a percentage of our net revenues, cost of revenues decreased to 35% for the three months ended September 30, 2003, from 36% for the three months ended September 30, 2002. For the nine months ended September 30, 2003, cost of revenues decreased to 34% of net revenue from 37% in the prior year. These margin improvements resulted primarily from a greater mix of higher margin sponsorship and advertising revenue. These improvements were offset, in part, by a reduced publishing margin due to the investment associated with the increased number of copies distributed of The Knot Magazine in the first and third quarters of 2003 as compared to the prior year. We expect to recover this investment from further growth in print advertising in future issues of this publication. Product and Content Development Product and content development expenses consist primarily of payroll and related expenses for editorial, creative and information technology personnel. Product and content development expenses increased to $1.1 million and $3.2 million for the three and nine months ended September 30, 2003, respectively, or by $155,000 and $234,000 as compared to the corresponding periods in 2002. These increases were primarily the result of higher personnel and related expenses. As a percentage of our net revenues, product and content development expenses decreased to 11% for the three and nine months ended September 30, 2003, respectively, from 12% and 13% for the corresponding periods in 2002. Sales and Marketing Sales and marketing expenses consist primarily of payroll and related expenses for sales and marketing, customer service and public relations personnel, as well as the costs for advertising and promotional activities and fulfillment and distribution of merchandise. Sales and marketing expenses were relatively flat at $3.0 million and $8.6 million for the three and nine months ended September 30, 2003, respectively, as compared to the corresponding periods in 2002. For the three months ended September 30, 2003, the elimination of $300,000 of quarterly distribution fees under our anchor tenant agreement with AOL was offset, in part, by additional commissions of $130,000 related to increased revenues and higher personnel and related expenses of $200,000 to support the growth of our wedding supplies product line. For the nine months ended September 30, 2003, AOL distribution fees decreased by $900,000 as compared to the corresponding period in 2002. This decrease and a decrease in promotion costs of approximately $100,000 was offset by additional commissions of $440,000 related to increased revenues, higher personnel and related expense of $500,000 to support the growth of our wedding supplies product line and $225,000 of higher fulfillment and other costs related to the increased distribution of The Knot Magazine. As a percentage of our net revenues, sales and marketing expenses decreased to 31% and 30% for the three and nine months ended September 30, 2003, respectively, from 37% and 38% for the corresponding periods in 2002. General and Administrative General and administrative expenses consist primarily of payroll and related expenses for our executive management, finance and administrative personnel, legal and accounting fees, facilities costs, insurance and bad debts expenses. 15 General and administrative expenses increased to $1.9 million for the three months ended September 30, 2003 from $1.7 million for the three months ended September 30, 2002. General and administrative expenses decreased to $5.6 million for the nine months ended September 30, 2003 from $5.7 million for the corresponding period in 2002. The increase for the three-month period was primarily due to higher personnel and related expenses and professional fees of $160,000 and $65,000, respectively, offset, in part, by reduced bad debt expense of $65,000. The decrease for the nine months was primarily due to reduced bad debt expense of $368,000 as a result of improved collections from national advertisers, local vendors and former franchisees, which was offset, in part, by higher personnel and related expenses of $260,000. As a percentage of our net revenues, general and administrative expenses decreased to 19% and 20% for the three and nine months ended September 30, 2003, from 21% and 25% for the corresponding periods in 2002. Non-Cash Compensation We recorded no deferred compensation during the three and nine months ended September 30, 2003. Amortization of deferred compensation decreased to approximately $1,000 and $33,000 for the three and nine months ended September 30, 2003, respectively, as compared to $23,000 and $117,000 for the corresponding periods in 2002. Non-Cash Sales and Marketing We recorded deferred sales and marketing of $2.3 million related to the issuance of a warrant to AOL in connection with our amended anchor tenant agreement in July 1999. Deferred sales and marketing was fully amortized as of December 31, 2002. Depreciation and Amortization Depreciation and amortization expenses consist of depreciation and amortization of property and equipment and capitalized software and amortization of intangible assets related to acquisitions. Depreciation and amortization expenses decreased to $174,000 and $665,000 for the three and nine month periods ended September 30, 2003, respectively, as compared to $296,000 and $981,000 for the corresponding periods in 2002. These decreases were primarily due to a reduction in capital expenditures in fiscal 2002 and 2001. Interest and Other Income Interest and other income net of interest expense decreased to $21,000 and $63,000 for the three and nine months ended September 30, 2003, respectively, as compared to $31,000 and $79,000 for the corresponding periods in 2002. These decreases were primarily the result of lower interest rates earned on cash invested. Provision for Taxes on Income In the three and nine months ended September 30, 2003, we were subject to income tax expense of $5,000 and $35,000, respectively, due to operating income generated in certain states. No federal income tax has been provided as we utilize net operating loss carryforwards. Recent Accounting Pronouncements In June 2001, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 143, Accounting for Asset Retirement Obligations. This standard addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement of tangible long-lived assets and the associated asset retirement costs. We adopted SFAS No. 143 effective January 1, 2003. The adoption of this new statement did not have a material impact on our operating results or financial position. In July 2002, the FASB issued SFAS No. 146, Accounting for Costs Associated with Exit or Disposal Activities. This standard addresses issues regarding the recognition, measurement, and reporting of costs that are associated with exit and disposal activities, including restructuring activities that currently are accounted for pursuant to the guidance that the Emerging Issues Task Force set forth in Issue No. 94-3. The scope of SFAS No. 146 also includes (1) costs related to terminating a contract that is not a capital lease, (2) termination benefits that employees 16 who are involuntarily terminated receive under the terms of a one-time benefit arrangement that is not an ongoing benefit arrangement or an individual deferred compensation contract and (3) costs to consolidate facilities or relocate employees. SFAS No. 146 is required to be effective for exit or disposal activities initiated after December 31, 2002 and does not affect the recognition of costs under our current activities. Adoption of this standard may impact the timing of the recognition of costs associated with future exit or disposal activities, depending upon the actions initiated. In November 2002, the Emerging Issues Task Force (EITF") reached a consensus opinion on EITF 00-21 Revenue Arrangements with Multiple Deliverables. This Issue addresses the determination of whether an arrangement involving more than one deliverable contains more than one unit of accounting and how arrangement consideration should be measured and allocated to the separate units of accounting. The provisions of EITF Issue 00-21 are effective for revenue arrangements entered into for fiscal quarters beginning after June 15, 2003. The adoption of EITF No. 00-21 did not have a significant impact on our operating results or financial position. In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based Compensation-Transition and Disclosure. SFAS No. 148 amends SFAS No. 123, Accounting for Stock-Based Compensation, to provide alternative methods of transition for a voluntary change to the fair value method of accounting for stock-based employee compensation. In addition, SFAS No. 148 amends the disclosure requirements of SFAS No. 123 to require prominent disclosure in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. The provisions of SFAS No. 148 are effective for financial statements for fiscal years and interim periods ending after December 15, 2002. We have adopted the disclosure provisions of SFAS No. 148. SFAS No. 148 did not require us to change to the fair value method of accounting for stock-based compensation. Liquidity and Capital Resources As of September 30, 2003, our cash and cash equivalents amounted to $11.9 million. We currently invest primarily in short-term debt instruments that are highly liquid, of high-quality investment grade, and have maturities of less than three months, with the intent to make such funds readily available for operating purposes. Net cash provided by operating activities was $3.2 million for the nine months ended September 30, 2003. This resulted primarily from the net income for the period, as adjusted for depreciation and amortization, reserve for returns and other non-cash charges, of $3.2 million, an increase in accounts payable of $342,000 and a decrease in deferred production and marketing costs of $284,000. These sources of cash were partially offset by an increase in inventory of $204,000 and a decrease in deferred revenue of $642,000. Effective October 1, 2002, local vendors are no longer pre-billed for their full contractual amounts via statements but are invoiced for individual amounts due in accordance with our standard payment terms. The impact of this billing modification reduced accounts receivable and deferred revenue in equal amounts of approximately $1.8 million from December 31, 2002 through September 30, 2003. Net cash used in operating activities was $452,000 for the nine months ended September 30, 2002. This resulted primarily from the loss for the period, as adjusted for depreciation and amortization and other non-cash charges, of $1.5 million, increases in accounts receivable, inventory and restricted cash of $1.0 million, $756,000 and $409,000, respectively, partially offset by increases in accounts payable and accrued expenses of $1.5 million and deferred revenue of $1.0 million and a decrease in other current assets of $407,000. Net cash used in investing activities was $807,000 for the nine months ended September 30, 2003 primarily due to purchases of property and equipment. Net cash used in investing activities was $329,000 for the nine months ended September 30, 2002, primarily due to purchases of property and equipment of $214,000 and cash paid of $115,000 with respect to a termination liability resulting from the acquisition of Weddingpages. Net cash provided by financing activities was $234,000 for the nine months ended September 30, 2003 primarily due to common stock issued in connection with the exercise of stock options and the Employee Stock Purchase Plan. Net cash provided by financing activities was $3.5 million for the nine months ended September 30, 2002, primarily due to proceeds from May Bridal Corporation in connection with the issuance of 3,575,747 shares of our common stock for $5,000,000, less related costs, partially offset by debt repayments, primarily the outstanding balance under Weddingpages' expired line of credit agreement of $1,245,000. As of September 30, 2003, we had no material commitments for capital expenditures. 17 As of September 30, 2003, we had commitments under non-cancelable operating leases amounting to approximately $6.0 million, of which $824,000 will be due on or before September 30, 2004, an aggregate of $2.3 million will be due in the three years ended September 30, 2007, and $2.8 million will be due thereafter. As a result of a weak national online advertising market in 2001 and through the first six months of 2002, our national online sponsorship and advertising revenue decreased from approximately $8.8 million for the year ended December 31, 2000, to approximately $1.7 million and $1.9 million for the years ended December 31, 2001 and 2002, respectively. To respond to our liquidity needs, we completed a number of cost reduction initiatives during 2001, including reductions in staff, the restructuring of our international anchor tenant agreement with AOL, reductions in capital expenditures, as well as additional programs resulting in savings in a number of operating expense categories, the full annual benefits of which were realized in 2002. Operating expenses before depreciation and amortization and other non-cash charges decreased from approximately $27.1 million in 2001 to $22.4 million in 2002. Further, in 2002, we added a number of category specific advertising programs to broaden the group of potential national advertisers who can benefit from targeting our audience. These programs commenced in the third quarter of 2002 and are expected to contribute to further growth in national online advertising revenue in 2003. We have also increased the number of markets and advertising programs available to local vendors and have expanded the product and service offerings available to consumers of wedding supplies. In addition, as discussed above, in February 2002, we raised additional capital of $5.0 million, less related costs, from the sale of common stock to May Bridal Corporation ("May Bridal"), a subsidiary of May Department Stores Company ("May") and also entered into a Media Services Agreement with May. We believe that our current cash and cash equivalents will be sufficient to fund our working capital and capital expenditure requirements for at least the next twelve months. This expectation is primarily based on internal estimates of revenue growth, which relate to expected increased advertising, merchandising and publishing revenues as well as continuing emphasis on controlling all operating expenses. However, there can be no assurance that actual costs will not exceed amounts estimated, that actual revenues will equal or exceed estimated amounts, or that we will sustain profitable operations, due to significant uncertainties surrounding our estimates and expectations. Seasonality We believe that the impact of the frequency of weddings from quarter to quarter results in lower merchandise revenues in the first and fourth quarters. 18 RISK FACTORS THAT MAY AFFECT FUTURE RESULTS In addition to other information in this Quarterly Report on Form 10-Q, the following risk factors should be carefully considered in evaluating our business because such factors currently or may have a significant impact on our business, operating results or financial condition. This Quarterly Report on Form 10-Q may contain forward-looking statements that have been made pursuant to the provisions of the Private Securities Litigation Reform Act of 1995. Actual results could differ materially from those projected in the forward-looking statements as a result of the risk factors set forth below and elsewhere in this Quarterly Report. We undertake no obligation to update publicly any forward-looking statements for any reason, even if new information becomes available or other events occur in the future. Risks Related to Our Business We have an unproven business model, and it is uncertain whether online wedding-related sites can generate sufficient revenues to survive. Our model for conducting business and generating revenues is unproven. Our business model depends in large part on our ability to generate revenue streams from multiple sources through our online sites, including online sponsorship and advertising fees from third parties and online sales of wedding gifts and supplies. It is uncertain whether wedding-related online sites that rely on attracting sponsors and advertisers, as well as people to purchase wedding gifts and supplies, can generate sufficient revenues to survive. For our business to be successful, we must provide users with an acceptable blend of products, information, services and community offerings that will attract wedding consumers to our online sites frequently. In addition, we must provide sponsors, advertisers and vendors the opportunity to reach these wedding consumers. We provide our services to users without charge, and we may not be able to generate sufficient revenues to pay for these services. Moreover, we face many of the risks and difficulties frequently encountered in new and rapidly evolving markets, including the online advertising and e-commerce markets. These risks include our ability to: o increase the audience on our sites; o broaden awareness of our brand; o strengthen user-loyalty; o offer compelling content; o maintain our leadership in generating traffic; o maintain our current, and develop new, strategic relationships; o attract a large number of advertisers from a variety of industries; o respond effectively to competitive pressures; o continue to develop and upgrade our technology; and o attract, integrate, retain and motivate qualified personnel. These risks could negatively impact our financial condition if left unaddressed. Accordingly, we are not certain that our business model will be successful or that we can sustain revenue growth or profitability. For more information on the effects of some of these risks, see "Management's Discussion and Analysis of Financial Condition and Results of Operations." 19 We have a history of significant losses since our inception and may incur significant losses in the future. We have only recently achieved profitability in the second and third quarters of this year, and have incurred significant accumulated losses. As of September 30, 2003, our accumulated deficit was $47.7 million. We expect to continue to incur significant operating expenses and, as a result, we will need to generate significant revenues to maintain profitability. We cannot assure you that we can sustain or increase profitability on a quarterly or annual basis in the future. Failure to maintain profitability may materially and adversely affect our business, results of operations and financial condition and the market price of our common stock. For more information on our losses and the effects of our expenses on our financial performance, see "Management's Discussion and Analysis of Financial Condition and Results of Operations." We lack significant revenues and may be unable to adjust spending quickly enough to offset any unexpected revenue shortfall. Our revenues for the foreseeable future will remain dependent on online user traffic levels, advertising activity both online and offline and the expansion of our e-commerce activity. In addition, we plan to expand and develop content and to continue to upgrade and enhance our technology and infrastructure. We incur a significant percentage of our expenses, such as employee compensation, prior to generating revenues associated with those expenses. Moreover, our expense levels are based, in part, on our expectation of future revenues. We may be unable to adjust spending quickly enough to offset any unexpected revenue shortfall. If we have a shortfall in revenues or if operating expenses exceed our expectations or cannot be adjusted accordingly, then our results of operations would be materially and adversely affected. For more information on our net revenues and the effects of our expenses on our financial performance, see "Management's Discussion and Analysis of Financial Condition and Results of Operations." If sales to sponsors or advertisers forecasted in a particular period are delayed or do not otherwise occur, our results of operations for a particular period would be materially and adversely affected. The time between the date of initial contact with a potential sponsor or advertiser and the execution of a contract with the sponsor or advertiser is often lengthy, typically ranging from six weeks for smaller agreements and longer for larger agreements, and is subject to delays over which we have little or no control, including: o the occurrence of extraordinary events, such as the attacks on September 11, 2001; o customers' budgetary constraints; o customers' internal acceptance reviews; o the success and continued internal support of advertisers' and sponsors' own development efforts; and o the possibility of cancellation or delay of projects by advertisers or sponsors. During the sales cycle, we may expend substantial funds and management resources in advance of generating sponsorship or advertising revenues. Accordingly, if sales to advertisers or sponsors forecasted in a particular period are delayed or do not otherwise occur, we would generate less sponsorship and advertising revenues during that period, and our results of operations may be adversely affected. Our quarterly revenues and operating results are subject to significant fluctuation, and these fluctuations may adversely affect the trading price of our common stock. Our quarterly revenues and operating results have fluctuated significantly in the past and are expected to continue to fluctuate significantly in the future as a result of a variety of factors, many of which are outside our control. These factors include: o the level of online usage and traffic on our Web sites; o seasonal demand for e-commerce; 20 o the addition or loss of advertisers; o the advertising budgeting cycles of specific advertisers; o the regional and national magazines publishing cycle; o the amount and timing of capital expenditures and other costs relating to the expansion of our operations, including those related to acquisitions; o the introduction of new sites and services by us or our competitors; o changes in our pricing policies or the pricing policies of our competitors; and o general economic conditions, as well as economic conditions specific to the Internet, online and offline media and electronic commerce. We do not believe that period-to-period comparisons of our operating results are necessarily meaningful and you should not rely upon these comparisons as indicators of our future performance. Due to the foregoing factors, it is also possible that our results of operations in one or more future quarters may fall below the expectations of investors and/or securities analysts. In such event, the trading price of our common stock is likely to decline. Because the frequency of weddings vary from quarter to quarter, our operating results may fluctuate due to seasonality. Seasonal and cyclical patterns may affect our revenues. In 2002, according to the National Center of Health Statistics, 19% of weddings in the United States occurred in the first quarter, 27% occurred in the second quarter, 30% occurred in the third quarter and 24% occurred in the fourth quarter. We have limited experience generating merchandise revenues. Based upon our limited experience, we believe merchandise revenues generally are lower in the first and fourth quarters of each year. We depend on our strategic relationships with other Web sites. We depend on establishing and maintaining distribution relationships with high-traffic Web sites such as AOL, MSN and Yahoo! for a portion of our traffic. There is intense competition for placements on these sites, and we may not be able to continue to enter into such relationships on commercially reasonable terms, if at all. Even if we enter into distribution relationships with these Web sites, they themselves may not attract a significant number of users. Therefore, our sites may not receive additional users from these relationships. Moreover, we may be required to pay significant fees to establish and maintain these relationships. Our business, results of operations and financial condition could be materially and adversely affected if we do not establish and maintain strategic relationships on commercially reasonable terms or if any of our strategic relationships do not result in increased use of our Web sites. The market for Internet advertising is still developing, and if the Internet fails to gain further acceptance as a media for advertising, we would experience slower revenue growth than expected or a decrease in revenue and would incur greater than expected losses. Our future success depends, in part, on a significant increase in the use of the Internet as an advertising and marketing medium. Sponsorship and advertising revenues constituted 20% of our net revenues for the year ended December 31, 2001, 23% of our net revenues for the year ended December 31, 2002 and 31% of our net revenues for the nine months ended September 30, 2003. Our national online sponsorship and advertising revenue was approximately $1.7 million for the year ended December 31, 2001, $1.9 million for the year ended December 31, 2002 and $3.1 million for the nine months ended September 30, 2003. The Internet advertising market is still developing, and it cannot yet be compared with traditional advertising media to gauge its effectiveness. As a result, demand for and market acceptance of Internet advertising solutions are uncertain. Many of our current and potential customers have little or no experience with Internet advertising and have allocated only a limited portion of their advertising and marketing budgets to Internet activities. The adoption of Internet advertising, particularly by entities that have historically relied upon traditional methods of advertising and marketing, requires the acceptance of a new way of advertising and marketing. These customers may find Internet advertising to be less effective for meeting their 21 business needs than traditional methods of advertising and marketing. Furthermore, there are software programs that limit or prevent advertising from being delivered to a user's computer. Widespread adoption of this software by users would significantly undermine the commercial viability of Internet advertising. We may be unable to continue to build awareness of The Knot brand name which would negatively impact our business and cause our revenues to decline. Building recognition of our brand is critical to attracting and expanding our online user base and our offline readership. Because we plan to continue building brand recognition, we may find it necessary to accelerate expenditures on our sales and marketing efforts or otherwise increase our financial commitment to creating and maintaining brand awareness. Our failure to successfully promote and maintain our brand would adversely affect our business and cause us to incur significant expenses in promoting our brand without an associated increase in our net revenues. Our business could be adversely affected if we are not able to successfully integrate any future acquisitions or successfully operate under our strategic partnerships. In the future, we may acquire, or invest in, complementary companies, products or technologies or enter into new strategic partnerships. Acquisitions, investments and partnerships involve numerous risks, including: o difficulties in integrating operations, technologies, products and personnel; o diversion of financial and management resources from existing operations; o risks of entering new markets; o potential loss of key employees; and o inability to generate sufficient revenues to offset acquisition or investment costs. The costs associated with potential acquisitions or strategic alliances could dilute your investment or adversely affect our results of operations. To pay for an acquisition or to enter into a strategic alliance, we might use equity securities, debt, cash, or a combination of the foregoing. If we use equity securities, our stockholders may experience dilution. In addition, an acquisition may involve non-recurring charges, including writedowns of significant amounts of goodwill. The related increases in expenses could adversely affect our results of operations. Any such acquisitions or strategic alliances may require us to obtain additional equity or debt financing, which may not be available on commercially acceptable terms, if at all. If we cannot protect our domain names, it will impair our ability to successfully brand The Knot. We currently hold various Web domain names, including www.theknot.com. The acquisition and maintenance of domain names generally is regulated by Internet regulatory bodies. The regulation of domain names in the United States and in foreign countries is subject to change. Governing bodies may establish additional top-level domains, appoint additional domain name registrars or modify the requirements for holding domain names. As a result, we may be unable to acquire or maintain relevant domain names in all countries in which we conduct business. Furthermore, it is unclear whether laws protecting trademarks and similar proprietary rights will be extended to protect domain names. Therefore, we may be unable to prevent third parties from acquiring domain names that are similar to, infringe upon or otherwise decrease the value of our trademarks and other proprietary rights. We may not successfully carry out our business strategy of establishing a strong brand for The Knot if we cannot prevent others from using similar domain names or trademarks. This could impair our ability to increase market share and revenues. Our business and prospects would suffer if we are unable to protect and enforce our intellectual property rights. We rely upon copyright, trade secret and trademark law, assignment of invention and confidentiality agreements and license agreements to protect our proprietary technology, processes, content and other intellectual 22 property to the extent that protection is sought or secured at all. The steps we might take may not be adequate to protect against infringement and misappropriation of our intellectual property by third parties. Similarly, third parties may be able to independently develop similar or superior technology, processes, content or other intellectual property. The unauthorized reproduction or other misappropriation of our intellectual property rights could enable third parties to benefit from our technology without paying us for it. If this occurs, our business and prospects would be materially and adversely affected. In addition, disputes concerning the ownership or rights to use intellectual property could be costly and time-consuming to litigate, may distract management from other tasks of operating the business, and may result in our loss of significant rights and the loss of our ability to operate our business. Our products and services may infringe on intellectual property rights of third parties and any infringement could require us to incur substantial costs and distract our management. Although we avoid knowingly infringing intellectual rights of third parties, including licensed content, we may be subject to claims alleging infringement of third-party proprietary rights. If we are subject to claims of infringement or are infringing the rights of third parties, we may not be able to obtain licenses to use those rights on commercially reasonable terms, if at all. In that event, we would need to undertake substantial reengineering to continue our online offerings. Any effort to undertake such reengineering might not be successful. Furthermore, a party making such a claim could secure a judgment that requires us to pay substantial damages. A judgment could also include an injunction or other court order that could prevent us from selling our products. Any claim of infringement could cause us to incur substantial costs defending against the claim, even if the claim is invalid, and could distract our management from our business. We depend upon QVC to provide us warehousing, fulfillment and distribution services, and system failures or other problems at QVC could cause us to lose customers and revenues. We have a services agreement with QVC to warehouse, fulfill and arrange for distribution of approximately 31% of our products, excluding products sold through our retail partners. Our agreement with QVC expires in December 2003 and can be extended by us for up to an additional six months. QVC does not have any obligation to renew this agreement. If QVC's ability to provide us with these services in a timely fashion or at all is impaired, whether through labor shortage, slow down or stoppage, deteriorating financial or business condition, system failures or for any other reason, or if the services agreement is not renewed, we would not be able, at least temporarily, to sell or ship certain of our products to our customers. We may be unable to engage alternative warehousing, fulfillment and distribution services on a timely basis or upon terms favorable to us. Increased competition in our markets could reduce our market share, the number of our advertisers, our advertising revenues and our margins. The Internet advertising and online wedding markets are still developing. Additionally, both the Internet advertising and online wedding markets and the wedding magazine publishing markets are intensely competitive, and we expect competition to intensify in the future. We face competition for members, users, readers and advertisers from the following areas: o online services or Web sites targeted at brides and grooms as well as the online sites of retail stores, manufacturers and regional wedding directories; o bridal magazines, such as Bride's and Modern Bride (both part of the Conde Nast family); and o online and retail stores offering gift registries, especially from retailers offering specific bridal gift registries. We expect competition to increase because of the business opportunities presented by the growth of the Internet and e-commerce. Our competition may also intensify as a result of industry consolidation and a lack of substantial barriers to entry. Many of our current and potential competitors have longer operating histories, significantly greater financial, technical and marketing resources, greater name recognition and substantially larger user, membership or readership bases than we have and, therefore, have significant ability to attract advertisers, users and readers. In addition, many of our competitors may be able to respond more quickly than we can to new or 23 emerging technologies and changes in Internet user requirements, as well as devote greater resources than we can to the development, promotion and sale of services. There can be no assurance that our current or potential competitors will not develop products and services comparable or superior to those that we develop or adapt more quickly than we do to new technologies, evolving industry trends or changing Internet user preferences. Increased competition could result in price reductions, lower margins or loss of market share. There can be no assurance that we will be able to compete successfully against current and future competitors. Our potential inability to compete effectively in our industry for qualified personnel could hinder the success of our business. Competition for personnel in the Internet and wedding industries is intense. We may be unable to retain employees who are important to the success of our business. We may also face difficulties attracting, integrating or retaining other highly qualified employees in the future. If we cannot attract new personnel or retain and motivate our current personnel, our business may not succeed. Terrorism and the uncertainty of war may have a material adverse effect on our operating results. Terrorist attacks, such as the attacks that occurred in New York and Washington, D.C. on September 11, 2001, and other acts of violence or war may affect the market on which our common stock will trade, the markets in which we operate or our operating results. Further terrorist attacks against the United States or U.S. businesses may occur. The potential near-term and long-term effect these attacks may have for our customers, the market for our common stock, the markets for our services and the U.S. economy are uncertain. The consequences of any terrorist attacks, or any armed conflicts which may result, are unpredictable, and we may not be able to foresee events that could have an adverse effect on our business. We may not be able to obtain additional financing necessary to execute our business strategy. We currently believe that our current cash and cash equivalents will be sufficient to fund our working capital and capital expenditure requirements for at least the next twelve months. Our ability to meet our obligations in the ordinary course of business is dependent upon our ability to maintain profitable operations and/or raise additional financing through public or private equity financings, or other arrangements with corporate sources, or other sources of financing to fund operations. However, there is no assurance that we will maintain profitable operations or that additional funding, if required, will be available to us in amounts or on terms acceptable to us. Systems disruptions and failures could cause advertiser or user dissatisfaction and could reduce the attractiveness of our sites. The continuing and uninterrupted performance of our computer systems is critical to our success. Our advertisers and sponsors, users and members may become dissatisfied by any systems disruption or failure that interrupts our ability to provide our services and content to them. Substantial or repeated system disruption or failures would reduce the attractiveness of our online sites significantly. Substantially all of our systems hardware required to run our sites are located at Globix Corporation's facilities in New York, New York. Globix emerged from bankruptcy protection in April 2002. Fire, floods, earthquakes, power loss, telecommunications failures, break-ins, acts of terrorism and similar events could damage these systems. Our operations depend on the ability of Globix to protect its own systems and our systems in its data center against damage from fire, power loss, water damage, telecommunications failure, vandalism and similar unexpected adverse events. Although Globix provides comprehensive facilities management services, Globix does not guarantee that our Internet access will be uninterrupted, error-free or secure. In addition, computer viruses, electronic break-ins or other similar disruptive problems could also adversely affect our online sites. Our business could be materially and adversely affected if our systems were affected by any of these occurrences. We do not presently have any secondary "off-site" systems or a formal disaster recovery plan. Our sites must accommodate a high volume of traffic and deliver frequently updated information. Our sites have in the past experienced slower response times. These types of occurrences in the future could cause users to perceive our sites as not functioning properly and therefore cause them to use another online site or other methods to obtain information or services. In addition, our users depend on Internet service providers, online service providers and other site operators for access to our online sites. Many of them have experienced significant outages in the past, and could experience outages, delays and other difficulties due to system disruptions or failures 24 unrelated to our systems. Although we carry general liability insurance, our insurance may not cover any claims by dissatisfied advertisers or customers or may not be adequate to indemnify us for any liability that may be imposed in the event that a claim were brought against us. Any system disruption or failure, security breach or other damage that interrupts or delays our operations could cause us to lose users, sponsors and advertisers and adversely affect our business and results of operations. We may not be able to deliver various services if third parties fail to provide reliable software, systems and related services to us. We are dependent on various third parties for software, systems and related services in connection with our hosting, placement of advertising, accounting software, data transmission and security systems. Several of the third parties that provide software and services to us have a limited operating history and have relatively new technology. These third parties are dependent on reliable delivery of services from others. If our current providers were to experience prolonged systems failures or delays, we would need to pursue alternative sources of services. Although alternative sources of these services are available, we may be unable to secure such services on a timely basis or on terms favorable to us. As a result, we may experience business disruptions if these third parties fail to provide reliable software, systems and related services to us. We may be liable if third parties misappropriate our users' personal information. If third parties were able to penetrate our network security or otherwise misappropriate our users' personal or credit card information, we could be subject to liability. Our liability could include claims for unauthorized purchases with credit card information, impersonation or other similar fraud claims as well as for other misuses of personal information, such as for unauthorized marketing purposes. These claims could result in costly and time-consuming litigation which could adversely affect our financial condition. In addition, the Federal Trade Commission and state agencies have been investigating various Internet companies regarding their use of personal information. We could have additional expenses if new regulations regarding the use of personal information are introduced or if our privacy practices are investigated. Our executive officers, directors and 5% or greater stockholders exercise significant control over all matters requiring a stockholder vote. As of September 30, 2003, our executive officers and directors and stockholders who each owned greater than 5% of our common stock, and their affiliates, in the aggregate, beneficially owned approximately 77% of our outstanding common stock. As a result, these stockholders are able to exercise control over all matters requiring approval by our stockholders, including the election of directors and approval of significant corporate transactions. This concentration of ownership could also have the effect of delaying or preventing a change in control. Anti-takeover provisions in our charter documents and Delaware law may make it difficult for a third party to acquire us. Provisions of our certificate of incorporation, our bylaws and Delaware law could make it more difficult for a third party to acquire us, even if doing so might be beneficial to our stockholders. Risks Related to the Securities Markets The delisting of our common stock from the Nasdaq National Market has resulted, and could continue to result, in a limited public market for our common stock and larger spreads in the bid and ask prices for shares of our common stock and could result in lower prices for shares of our common stock and make obtaining future equity financing more difficult. On August 23, 2001, our common stock was delisted from the Nasdaq National Market. Our common stock is currently available for quotation on the OTC Bulletin Board. Selling our common stock has become, and may continue to be, more difficult because smaller quantities of shares are bought and sold on the OTC Bulletin Board, transactions could be delayed and news media coverage of us has been reduced. These factors have resulted, and could continue to result, in larger spreads in the bid and ask prices for shares of our common stock and could result in 25 lower prices for shares of our common stock. The delisting of our common stock from the Nasdaq National Market and any further declines in our stock price could also greatly impair our ability to raise additional necessary capital through equity or debt financing and significantly increase the dilution to stockholders caused by our issuing equity in financing or other transactions. The price at which we issue shares in such transactions is generally based on the market price of our common stock, and a decline in our stock prices could result in the need for us to issue a greater number of shares to raise a given amount of funding or acquire a given dollar value of goods or services. In addition, because our common stock is not listed on the Nasdaq national Market, we are subject to Rule 15g-9 under the Securities and Exchange Act of 1934, as amended. That rule imposes additional sales practice requirements on broker-dealers that sell low-priced securities to persons other than established customers and institutional accredited investors. For transactions covered by this rule, a broker-dealer must make a special suitability determination for the purchaser and have received the purchaser's written consent to the transaction prior to sale. Consequently, the rule may affect the ability of broker-dealers to sell the common stock and affect the ability of holders to sell their shares of our common stock in the secondary market. Our stock price has been highly volatile and is likely to experience extreme price and volume fluctuations in the future that could reduce the value of your investment and subject us to litigation. The market price of our common stock has fluctuated in the past and is likely to continue to be highly volatile, with extreme price and volume fluctuations. These broad market and industry factors may harm the market price of our common stock, regardless of our actual operating performance, and for this or other reasons, we could continue to suffer significant declines in the market price of our common stock. In the past, companies that have experienced volatility in the market price of their stock have been the object of securities class action litigation. If we were to become the object of securities class action litigation, it could result in substantial costs and a diversion of our management's attention and resources. Risks Related to the Internet Industry If the use of the Internet and commercial online services as media for commerce does not continue to grow, our business and prospects would be materially and adversely affected. We cannot assure you that a sufficiently broad base of consumers will adopt, and continue to use, the Internet and commercial online services as media for commerce, particularly for purchases of wedding gifts and supplies. Even if consumers adopt the Internet or commercial online services as a media for commerce, we cannot be sure that the necessary infrastructure will be in place to process such transactions. Our long-term viability depends substantially upon the widespread acceptance and the development of the Internet or commercial online services as effective media for consumer commerce and for advertising. Use of the Internet or commercial online services to effect retail transactions and to advertise is at an early stage of development. Convincing consumers to purchase wedding gifts and supplies online may be difficult. Demand for recently introduced services and products over the Internet and commercial online services is subject to a high level of uncertainty. Few proven services and products exist. The development of the Internet and commercial online services into a viable commercial marketplace is subject to a number of factors, including: o continued growth in the number of users of such services; o concerns about transaction security; o continued development of the necessary technological infrastructure; o consistent quality of service; o availability of cost-effective, high speed service; o uncertain and increasing government regulation; and 26 o the development of complementary services and products. If users experience difficulties because of capacity constraints of the infrastructure of the Internet and other commercial online services, potential users may not be able to access our sites, and our business and prospects would be harmed. To the extent that the Internet and other online services continue to experience growth in the number of users and frequency of use by consumers resulting in increased bandwidth demands, there can be no assurance that the infrastructure for the Internet and other online services will be able to support the demands placed upon them. The Internet and other online services have experienced outages and delays as a result of damage to portions of their infrastructure, power failures, telecommunication outages, network service outages and disruptions, natural disasters and vandalism and other misconduct. Outages or delays could adversely affect online sites, e-mail and the level of traffic on all sites. We depend on online access providers that provide our users with access to our services. In the past, users have experienced difficulties due to systems failures unrelated to our systems. In addition, the Internet or other online services could lose their viability due to delays in the development or adoption of new standards and protocols required to handle increased levels of Internet or other online service activity or to increased governmental regulation. Insufficient availability of telecommunications services to support the Internet or other online services also could result in slower response times and negatively impact use of the Internet and other online services generally, and our sites in particular. If the use of the Internet and other online services fails to grow or grows more slowly than expected, if the infrastructure for the Internet and other online services does not effectively support growth that may occur or if the Internet and other online services do not become a viable commercial marketplace, it is possible that we will not be able to maintain profitability. We may be unable to respond to the rapid technological change in the Internet industry and this may harm our business. If we are unable, for technological, legal, financial or other reasons, to adapt in a timely manner to changing market conditions or customer requirements, we could lose users and market share to our competitors. The Internet and e-commerce are characterized by rapid technological change. Sudden changes in user and customer requirements and preferences, frequent new product and service introductions embodying new technologies and the emergence of new industry standards and practices could render our existing online sites and proprietary technology and systems obsolete. The emerging nature of products and services in the online wedding market and their rapid evolution will require that we continually improve the performance, features and reliability of our online services. Our success will depend, in part, on our ability: o to enhance our existing services; o to develop and license new services and technology that address the increasingly sophisticated and varied needs of our prospective customers and users; and o to respond to technological advances and emerging industry standards and practices on a cost-effective and timely basis. The development of online sites and other proprietary technology entails significant technological and business risks and requires substantial expenditures and lead time. We may be unable to use new technologies effectively or adapt our online sites, proprietary technology and transaction-processing systems to customer requirements or emerging industry standards. Updating our technology internally and licensing new technology from third parties may require significant additional capital expenditures. If we become subject to burdensome government regulation and legal uncertainties related to doing business online, our sponsorship, advertising and merchandise revenues could decline and our business and prospects could suffer. Laws and regulations directly applicable to Internet communications, commerce and advertising are becoming more prevalent. Laws and regulations may be adopted covering issues such as user privacy, pricing, content, taxation and quality of products and services. Any new legislation could hinder the growth in use of the Internet and other online services generally and decrease the acceptance of the Internet and other online services as 27 media of communications, commerce and advertising. The governments of states and foreign countries might attempt to regulate our transmissions or levy sales or other taxes relating to our activities. The laws governing the Internet remain largely unsettled, even in areas where legislation has been enacted. It may take years to determine whether and how existing laws such as those governing intellectual property, privacy, libel and taxation apply to the Internet and Internet advertising services. In addition, the growth and development of the market for e-commerce may prompt calls for more stringent consumer protection laws, both in the United States and abroad, which may impose additional burdens on companies conducting business online. The adoption or modification of laws or regulations relating to the Internet and other online services could cause our sponsorship, advertising and merchandise revenues to decline and our business and prospects to suffer. We may be sued for information retrieved from our sites. We may be subject to claims for defamation, negligence, copyright or trademark infringement, personal injury or other legal theories relating to the information we publish on our online sites. These types of claims have been brought, sometimes successfully, against online services as well as other print publications in the past. We could also be subject to claims based upon the content that is accessible from our online sites through links to other online sites or through content and materials that may be posted by members in chat rooms or bulletin boards. Our insurance, which covers commercial general liability, may not adequately protect us against these types of claims. We may incur potential product liability for products sold online. Consumers may sue us if any of the products that we sell online are defective, fail to perform properly or injure the user. To date, we have had limited experience selling products online and developing relationships with manufacturers or suppliers of such products. We sell a range of products targeted specifically at brides and grooms through The Knot Registry, The Knot Shop, Bridalink.com or other e-commerce sites that we may acquire in the future. Such a strategy involves numerous risks and uncertainties. Although our agreements with manufacturers typically contain provisions intended to limit our exposure to liability claims, these limitations may not prevent all potential claims. Liability claims could require us to spend significant time and money in litigation or to pay significant damages. As a result, any such claims, whether or not successful, could seriously damage our financial results, reputation and brand name. We may incur significant expenses related to the security of personal information online. The need to transmit securely confidential information online has been a significant barrier to e-commerce and online communications. Any well-publicized compromise of security could deter people from using the Internet or other online services or from using them to conduct transactions that involve transmitting confidential information. Because our success depends on the acceptance of online services and e-commerce, we may incur significant costs to protect against the threat of security breaches or to alleviate problems caused by such breaches. Item 3. Quantitative and Qualitative Disclosures About Market Risk Market risk represents the risk of loss that may impact the financial position, result of operations, or cash flows of the company due to adverse changes in financial market prices, including interest rate risk, foreign currency exchange rate risk, commodity price risk, and other relevant market rate or price risks. We are exposed to some market risk through interest rates related to the investment of our current cash and cash equivalents of approximately $11.9 million as of September 30, 2003. These funds are generally invested in highly liquid debt instruments with short-term maturities. As such instruments mature and the funds are re-invested, we are exposed to changes in market interest rates. This risk is not considered material and we manage such risk by continuing to evaluate the best investment rates available for short-term, high quality investments. We have no activities related to derivative financial instruments or derivative commodity instruments, and we are not currently subject to any significant foreign currency exchange risk. Item 4. Controls and Procedures The Company's management, including the Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of the Company's "disclosure controls and procedures," as that term is defined in Rule 13a-15(e) 28 promulgated under the Securities and Exchange Act of 1934, as amended (the "Exchange Act"), as of September 30, 2003. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the disclosure controls and procedures are effective to ensure that information required to be disclosed by the Company in the reports that the Company files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC's rules and forms, and to ensure that such information is accumulated and communicated to the Company's management, including the Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure. There were no changes in the Company's internal control over financial reporting during the quarter ended September 30, 2003 identified in connection with the evaluation thereof by the Company's management, including the Chief Executive Officer and Chief Financial Officer, that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting. PART II. OTHER INFORMATION Item 1. Legal Proceedings On September 19, 2003, WeddingChannel.com, Inc. ("WeddingChannel") filed a Complaint against the Company in the United States District Court for the Southern District of New York. The Complaint alleges that the Company has violated U.S. Patent 6,618,753, ("Systems and Methods for Registering Gift Registries and for Purchasing Gifts") and further alleges that certain actions of the Company give rise to various federal statute, state statute and common law causes of actions. WeddingChannel is seeking, among other things, unspecified damages and injunctive relief. If the Company is found to have willfully infringed the patent-in-suit, enhanced damages are awardable. This Complaint was served on the Company on September 22, 2003. Based on information currently available, the Company believes that the claims are without merit and is vigorously defending itself against all claims. On October 14, 2003, the Company filed an Answer and Counterclaims against WeddingChannel. The Company's Answer raises various defenses to the counts alleged by WeddingChannel. Additionally, the Company has brought Counterclaims including a request that the Court declare the patent-in-suit is invalid, unenforceable and not infringed. The Company's Counterclaims further allege that certain actions taken by, or on behalf of WeddingChannel give rise to various federal statutory claims, state statutory claims and common law causes of action. The Company is engaged in other legal actions arising in the ordinary course of business and believes that the ultimate outcome of these actions will not have a material effect on its results of operations and financial position. Item 6. Exhibits and Reports on Form 8-K a) Exhibits 31.1 Certification of Chairman and Chief Executive Officer Pursuant to Exchange Act Rule 13a-14(a), As Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification of Chief Financial Officer Pursuant to Exchange Act Rule 13a-14(a), As Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Certification of Chairman and Executive Officer Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32.2 Certification of 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 on Form 8-K 29 Items 7 and 12, dated August 13, 2003 and furnished on August 15, 2003, reporting that we issued a press release and conducted a conference call announcing our financial results as of and for the three months ended June 30, 2003. 30 SIGNATURES Pursuant to the requirements of the Securities Exchange Act, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. Date: November 13, 2003 THE KNOT, INC. By: /s/ Richard Szefc ---------------------------------- Richard Szefc Chief Financial Officer (Principal Financial Officer and Duly Authorized Officer) 31 EXHIBIT INDEX Number Description - ------------------ 31.1 Certification of Chairman and Chief Executive Officer Pursuant to Exchange Act Rule 13a-14(a), As Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification of Chief Financial Officer Pursuant to Exchange Act Rule 13a-14(a), As Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Certification of Chairman and Chief Executive Officer Pursuant to 18 U.S.C Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32.2 Certification of Chief Financial Officer Pursuant to 18 U.S.C Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32 EX-31 3 ex31-1.txt EXHIBIT 31.1 Exhibit 31.1 CERTIFICATIONS I, David Liu, certify that: 1. I have reviewed this quarterly report on Form 10-Q of The Knot, Inc.; 2. Based on my knowledge, this 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 report; 3. Based on my knowledge, the financial statements, and other financial information included in this 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 report; 4. The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: (a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; (b) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (c) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: November 13, 2003 By: /s/ DAVID LIU -------------------------------------- Name: David Liu Title: Chairman and Chief Executive Officer (principal executive officer) EX-31 4 ex31-2.txt EXHIBIT 31.2 Exhibit 31.2 CERTIFICATIONS I, Richard Szefc, certify that: 1. I have reviewed this quarterly report on Form 10-Q of The Knot, Inc.; 2. Based on my knowledge, this 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 report; 3. Based on my knowledge, the financial statements, and other financial information included in this 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 report; 4. The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: (a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; (b) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (c) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: November 13, 2003 By: /s/ RICHARD SZEFC ---------------------------------- Name: Richard Szefc Title: Chief Financial Officer, Treasurer and Secretary (principal financial officer) EX-32 5 ex32-1.txt EXHIBIT 32.1 Exhibit 32.1 Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes - Oxley Act of 2002 In connection with the Quarterly Report on Form 10-Q of The Knot, Inc. (the "Company") for the period ended September 30, 2003, as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, David Liu, Chairman and Chief Executive Officer of the Company, certify pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: (1) the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. /s/ David Liu --------------------------------------- David Liu Chairman and Chief Executive Officer Date: November 13, 2003 EX-32 6 ex32-2.txt EXHIBIT 32.2 Exhibit 32.2 Certification Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes - Oxley Act of 2002 In connection with the Quarterly Report on Form 10-Q of The Knot, Inc. (the "Company") for the period ended September 30, 2003, as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Richard Szefc, Chief Financial Officer of the Company, certify pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: (1) the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. /s/ Richard Szefc ---------------------------------- Richard Szefc Chief Financial Officer Date: November 13, 2003 -----END PRIVACY-ENHANCED MESSAGE-----