-----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, J4uh0gFmXWy/QDA4MPyXJPfEGEqqgpm2Y3tORZRDDzCZGrz8eS2CAuZyy/1l09E+ SkdrCsd7xysIN7qm5OpFlQ== 0000950148-01-501735.txt : 20010905 0000950148-01-501735.hdr.sgml : 20010905 ACCESSION NUMBER: 0000950148-01-501735 CONFORMED SUBMISSION TYPE: S-1/A PUBLIC DOCUMENT COUNT: 11 FILED AS OF DATE: 20010904 FILER: COMPANY DATA: COMPANY CONFORMED NAME: BAM ENTERTAINMENT INC CENTRAL INDEX KEY: 0001132809 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-PREPACKAGED SOFTWARE [7372] IRS NUMBER: 770553117 FILING VALUES: FORM TYPE: S-1/A SEC ACT: 1933 Act SEC FILE NUMBER: 333-62436 FILM NUMBER: 1729924 BUSINESS ADDRESS: STREET 1: 333 WEST SANTA CLARA BLVD STE 930 CITY: SAN JOSE STATE: CA ZIP: 95113 BUSINESS PHONE: 4082987500 S-1/A 1 v72115a2s-1a.txt FORM S-1 AMENDMENT 2 1 AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON SEPTEMBER 4, 2001 REGISTRATION NO. 333-62436 - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------------ AMENDMENT NO. 2 TO FORM S-1 REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 ------------------------ BAM! ENTERTAINMENT, INC. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 7372 77-0553117 (STATE OR OTHER JURISDICTION OF (PRIMARY STANDARD INDUSTRIAL (I.R.S. EMPLOYER INCORPORATION OR ORGANIZATION) CLASSIFICATION NUMBER) IDENTIFICATION NUMBER)
333 WEST SANTA CLARA STREET, SUITE 716 SAN JOSE, CA 95113 (408) 298-7500 (ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES) ------------------------ RAYMOND C. MUSCI CHIEF EXECUTIVE OFFICER BAM! ENTERTAINMENT, INC. 333 WEST SANTA CLARA STREET, SUITE 716 SAN JOSE, CA 95113 (408) 298-7500 (NAME, ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF AGENT FOR SERVICE) ------------------------ COPIES TO THOMAS J. POLETTI, ESQ. TIMOTHY R. CURRY, ESQ. TED WEITZMAN, ESQ. COLBY R. GARTIN, ESQ. DAVID R. SCHWARTZ, ESQ. BENJAMIN H. DEBERRY, ESQ. KIRKPATRICK & LOCKHART LLP DANIEL H. MORRIS, ESQ. 10100 SANTA MONICA BLVD., 7TH FLOOR BROBECK, PHLEGER & HARRISON LLP LOS ANGELES, CALIFORNIA 90067 TWO EMBARCADERO PLACE TELEPHONE (310) 552-5000 2200 GENG ROAD FACSIMILE (310) 552-5001 PALO ALTO, CALIFORNIA 94303 TELEPHONE (650) 424-0160 FACSIMILE (650) 496-2885
------------------------ APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: As soon as practicable after the effective date of this Registration Statement. If any of the securities being registered on this form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, check the following box. [ ] If this form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. [ ] If this form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. [ ] If this form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. [ ] If delivery of the prospectus is expected to be made pursuant to Rule 434, please check the following box. [ ] ------------------------ THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION STATEMENT SHALL HEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME EFFECTIVE ON SUCH DATE AS THE SECURITIES AND EXCHANGE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(a), MAY DETERMINE. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- 2 THE INFORMATION IN THIS PRELIMINARY PROSPECTUS IS NOT COMPLETE AND MAY BE CHANGED. WE MAY NOT SELL THESE SECURITIES UNTIL THE REGISTRATION STATEMENT FILED WITH THE SECURITIES AND EXCHANGE COMMISSION IS EFFECTIVE. THIS PROSPECTUS IS NOT AN OFFER TO SELL THESE SECURITIES AND IT IS NOT SOLICITING AN OFFER TO BUY THESE SECURITIES IN ANY STATE WHERE THE OFFER OR SALE IS NOT PERMITTED. PRELIMINARY PROSPECTUS (Subject to Completion) September 4, 2001 - -------------------------------------------------------------------------------- 3,500,000 SHARES [BAM! ENTERTAINMENT LOGO] COMMON STOCK - -------------------------------------------------------------------------------- We are selling 3,500,000 shares of our common stock. This is our initial public offering of shares of our common stock. No public market currently exists for any shares of our capital stock. We currently estimate that the initial public offering price of our common stock will be between $12.00 and $14.00 per share. Our common stock has been approved for quotation on the Nasdaq National Market under the symbol "BFUN", subject to official notice of issuance. BEFORE BUYING ANY SHARES YOU SHOULD READ THE DISCUSSION OF MATERIAL RISKS OF INVESTING IN OUR COMMON STOCK IN "RISK FACTORS" BEGINNING ON PAGE 5. NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE SECURITIES COMMISSION HAS APPROVED OR DISAPPROVED OF THESE SECURITIES OR DETERMINED IF THIS PROSPECTUS IS TRUTHFUL OR COMPLETE. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
PER SHARE TOTAL - ------------------------------------------------------------------------------------------ Public offering price $ $ - ------------------------------------------------------------------------------------------ Underwriting discounts and commissions $ $ - ------------------------------------------------------------------------------------------ Proceeds, before expenses, to us $ $ - ------------------------------------------------------------------------------------------
The underwriters may also purchase up to 525,000 shares of our common stock from us at the public offering price, less underwriting discounts and commissions, within 30 days from the date of this prospectus. The underwriters may exercise this option to only cover over-allotments, if any. The underwriters are offering our common stock on a firm commitment basis as described under "Underwriting." Delivery of the shares will be made on or about , 2001. UBS WARBURG JEFFERIES & COMPANY, INC. 3 The inside front cover page of the prospectus consists of artwork that contains animated character drawings and logos of licensors with whom the company has contractual relationships. In this collage, the top third of the page contains animated drawings of characters from Cartoon Network television programs. In the top left hand corner is a depiction of the logo for the BAM! Entertainment, Inc. video game "Robot Rampage," based on the animated television program "Dexter's Laboratory," and a depiction of the animated character "Dexter" from "Dexter's Laboratory." In the left center of this section is a depiction of the logo for the Cartoon Network television network. On the right side of the page are depictions of animated characters based on the animated television program "The Powerpuff Girls" and depictions of logos for the BAM! Entertainment, Inc. video games based on that television program. In clockwise sequence, from the top left, those depictions are: the animated character "Buttercup"; the logo for the "Bad Mojo Jojo" video game; the animated character "Blossom"; the logo for the "Battle Him" video game; the animated character "Bubbles"; and the logo for the "Paint the Townsville Green" video game. In the middle section of the page, starting from the left, immediately below Dexter is a depiction of the logo for Sports Illustrated for Kids, a publication of Time, Inc. Immediately below the depiction of the logo for Sports Illustrated for Kids is a depiction of the logo for the BAM! Entertainment, Inc. video game "Hot Potato," which features two animated potato characters. In the center of this section is a depiction of an animated character from and logo for the BAM! Entertainment, Inc. video game "Fire Pro Wrestling." On the right side of this section is, in clockwise sequence: a depiction of the logo for Spyglass Entertainment; a depiction of the logo for the BAM! Entertainment, Inc. video game "Yogi Bear Great Baloon Blast" along with a depiction of the animated character "Yogi Bear"; a depiction of the logo for Warner Bros. Interactive Entertainment; and a depiction of the promotional poster for the motion picture "Driven," along with a depiction of the logo for Franchise Pictures. In the bottom section of the page, in the left hand corner are two rows of depictions of logos for video game hardware console systems. The top row in the left hand corner contains two logo depictions: on the left, a depiction of the logo for the "NINTENDO GAMECUBE" from Nintendo Co., Ltd.; and on the right, a depiction of the logo for "Xbox" from Microsoft Corporation. The bottom row in the left hand corner contains three logo depictions, all from Nintendo Co., Ltd.: on the left, a depiction of the logo for the "Nintendo 64"; in the center, a depiction of the logo for the Nintendo "Game Boy Advance"; and on the right, a depiction of the logo for the Nintendo "Game Boy Color." In the right hand corner of the bottom of the page is a depiction of a logo for BAM! Entertainment, Inc. At the bottom of the page below the artwork is text as follows: NINTENDO GAMECUBE and Microsoft's Xbox have not yet been released. 4 - -------------------------------------------------------------------------------- Through and including (25 days after the date of this prospectus), all dealers selling shares of our common stock, whether or not participating in this offering, may need to deliver a prospectus. This delivery requirement is in addition to the obligation of dealers to deliver a prospectus when acting as underwriters and with respect to their unsold allotments or subscriptions. TABLE OF CONTENTS - -------------------------------------------------------------------------------- Prospectus summary.................... 1 The offering.......................... 3 Summary consolidated financial data... 4 Risk factors.......................... 5 Forward-looking information........... 16 Use of proceeds....................... 16 Dividend policy....................... 17 Capitalization........................ 18 Dilution.............................. 19 Selected consolidated financial data................................ 20 Management's discussion and analysis of financial condition and results of operations.......................... 22 Business.............................. 35 Management............................ 49 Related party transactions............ 59 Principal stockholders................ 62 Description of capital stock.......... 64 Shares eligible for future sale....... 67 Underwriting.......................... 69 Legal matters......................... 71 Experts............................... 71 Where you can find additional information......................... 71 Index to consolidated financial statements.......................... F-1
- -------------------------------------------------------------------------------- i 5 (THIS PAGE INTENTIONALLY LEFT BLANK) 6 Prospectus summary This summary highlights the information contained elsewhere in this prospectus. You should read the entire prospectus carefully, especially the risks of investing in our common stock discussed under "Risk factors." OUR BUSINESS We are a rapidly emerging developer and publisher of interactive entertainment software. We license properties from a wide variety of sources including entertainment and media companies and we publish software based on their motion picture, sports and television properties. We currently publish software for many of the most popular interactive entertainment hardware platforms, such as the PlayStation manufactured by Sony Computer Entertainment, Nintendo 64 and Nintendo's Game Boy Color and Game Boy Advance, as well as for portable handheld devices manufactured by Palm and Handspring. We are developing and plan to publish software for next generation hardware platforms such as the PlayStation 2 manufactured by Sony Computer Entertainment, NINTENDO GAMECUBE and Microsoft's Xbox, as well as for other portable handheld devices and personal computers. According to Euromonitor, a research group and statistical source, worldwide sales of consoles, console games and games for personal computers grew from $17.0 billion in 1996 to $26.9 billion in 2000. Forrester, a research group and statistical source, predicts that in the United States alone, interactive entertainment console manufacturers and software publishers will generate $29.4 billion in revenues in 2005. Of that $29.4 billion, Forrester estimates that $12.8 billion will be generated by sales of console game software alone. For additional information regarding these statistical sources, see "Business -- Sources of Statistical Data." We believe that our ability to license popular properties, develop content with internal and third-party developers and distribute titles through our broad distribution channels provides us with significant competitive advantages. The key elements of our business approach are: + Development and promotion of titles based on properties with existing brand recognition. We believe that by developing interactive entertainment software titles based on popular properties and existing brands that appeal to specific segments of the interactive entertainment industry, we enhance consumer acceptance and product life cycles. We are developing titles in the following categories: - Adventure. We target game players ages 10 and under with titles based on licensed properties such as the popular television cartoons POWERPUFF GIRLS and DEXTER'S LABORATORY distributed by AOL Time Warner's Cartoon Network; - Sports. We target game players nine to 14, as well as the casual sports fan, with sports-based titles based on licensed properties of AOL Time Warner's Sports Illustrated for Kids; and - Action. We target the mass market with titles based on the licensed content originated by film production companies such as Spyglass Entertainment Group and Franchise Films. + Management experience. Our executive management team has substantial domestic and international experience in the interactive entertainment software industry. Key members of our management team have been founders and executives of other interactive entertainment software companies and in their current and past service have successfully identified and secured licenses for popular properties, established relationships with key third-party product developers and successfully negotiated distribution arrangements with multiple retail channels. Our team has developed strong working relationships with hardware platform manufacturers, which we believe provide substantial benefits in managing the product approval and development process. We believe our executive management team has the necessary experience to capitalize on opportunities afforded by the industry transition to next generation hardware platforms. + Strategic management of product development. We maintain a balanced mix of internal and external production efforts. We have an experienced in-house development staff and an internal product development studio where we - -------------------------------------------------------------------------------- 1 7 develop titles. We have also established relationships with third-party interactive entertainment software developers with proven track records of developing successful titles. + Broad distribution channels. Our sales and marketing efforts are designed to broaden product distribution and increase the penetration of our products in domestic and international markets. We further seek to leverage and expand our channels of distribution in order to reach a larger number of consumers in the retail, direct and online markets, both domestically and internationally. We sell our interactive entertainment software to mass merchandisers such as Toys "R" Us, Target, Kmart, Wal-Mart and Best Buy, specialty chains such as Babbages, Etc. and Electronics Boutique and independent distributors. + Hardware platform flexibility. While we have the technical ability to develop products for all current hardware platforms, our development efforts focus on specific hardware platforms for specific demographics. In addition, we leverage our more popular titles across multiple hardware platforms that have sufficient installed bases and appropriate demographics for development to be successful. We believe this approach reduces both our reliance on any one hardware platform and the risks associated with product development. COMPANY INFORMATION We were incorporated in California in October 1999 under the name Bay Area Multimedia, Inc. We reincorporated in Delaware in September 2000 and changed our name to BAM! Entertainment, Inc. in December 2000. Our principal executive offices are located at 333 West Santa Clara Street, Suite 716, San Jose, California 95113. Our telephone number is (408) 298-7500. Our web site is http://www.bam4fun.com. The information found on our web site is not a part of this prospectus. - -------------------------------------------------------------------------------- 2 8 The offering Unless otherwise noted, all information in this prospectus assumes that the underwriters do not exercise the over-allotment option we granted to them to purchase additional shares in the offering. Common stock we are offering....... 3,500,000 shares Common stock to be outstanding after this offering................ 12,166,255 shares Proposed Nasdaq National Market symbol............................. BFUN Use of proceeds.................... For general corporate purposes, including additional product development, expansion of our sales and marketing activities, international operations and possible acquisitions. See "Use of proceeds." The number of shares of our common stock to be outstanding after this offering is based upon 8,666,255 shares of our common stock outstanding as of June 30, 2001 and gives effect to the issuance of 3,500,000 shares of common stock being sold by us in this offering and the conversion of all outstanding shares of our redeemable convertible preferred stock into shares of our common stock upon the completion of this offering, and excludes: + 814,275 shares of our common stock issuable upon exercise of options outstanding as of June 30, 2001 at a weighted average exercise price of $3.28 per share under our 2000 Stock Incentive Plan. For a description of our 2000 Stock Incentive Plan, please see "Management -- 2000 Stock Incentive Plan"; + 674,450 shares issuable upon exercise of warrants outstanding as of June 30, 2001 at a weighted average exercise price of $1.98 per share; + Subsequent to June 30, 2001, (1) 100,000 shares of our common stock issuable upon exercise of a warrant issued to Transcap Associates, Inc. at an exercise price equal to the initial public offering price and (2) 182,135 shares of our common stock issuable upon exercise of options at an exercise price of $11.70 under our 2000 Stock Incentive Plan and 18,800 shares of our common stock issuable at an exercise price of $4.79 upon exercise of options granted outside of our 2000 Stock Incentive Plan; and + up to 618,637 shares of our common stock which may be issued pursuant to a third-party entertainment property license agreement with Franchise Films as of June 30, 2001. Unless otherwise noted, all share and per share information in this prospectus gives effect to: + an amendment to our certificate of incorporation on August 15, 2001 effecting a 4.7-for-one split of our common stock and increasing the number of authorized shares of our common stock to 100,000,000 and our preferred stock to 10,000,000; + a 0.195-for-one reverse split of our common stock effected as of May 11, 2000; and + the automatic conversion of all outstanding shares of our redeemable convertible preferred stock into shares of our common stock upon the completion of this offering. - -------------------------------------------------------------------------------- 3 9 Summary consolidated financial data Our summary consolidated financial data is presented in the following table to aid you in your analysis of a potential investment in our common stock. You should read this data in conjunction with "Management's discussion and analysis of financial condition and results of operations," our consolidated financial statements and the notes to those financial statements appearing elsewhere in this prospectus. The pro forma basic and diluted calculations below reflect the automatic conversion, upon the completion of this offering, of all outstanding shares of our redeemable convertible preferred stock into shares of our common stock, as if it occurred on the dates of original issuance.
OCTOBER 7, 1999 (INCEPTION) THROUGH YEAR ENDED JUNE 30, 2000 JUNE 30, 2001 CONSOLIDATED STATEMENT OF OPERATIONS DATA (In thousands, except per share data) - --------------------------------------------------------------------------------------------------- Net revenues................................................ $ 1,377 $ 25,351 Costs and expenses.......................................... 2,158 25,704 ------------------- ------------- Loss from operations........................................ (781) (353) Other expense, net.......................................... (22) (1,249) ------------------- ------------- Net loss.................................................... (803) (1,602) Redeemable convertible preferred stock dividend............. -- (5,540) ------------------- ------------- Net loss attributable to common stockholders................ $ (803) $ (7,142) =================== ============= Loss per share: Basic and diluted......................................... $ (0.96) $ (4.82) Pro forma basic and diluted............................... $ (0.94) $ (1.04) Shares used in computation: Basic and diluted......................................... 834 1,482 Pro forma basic and diluted............................... 851 6,898
JUNE 30, 2001 ----------------------------------- PRO FORMA ACTUAL PRO FORMA AS ADJUSTED CONSOLIDATED BALANCE SHEET DATA (In thousands) - ------------------------------------------------------------------------------------------------- Cash and cash equivalents................................... $ 2,170 $ 2,170 $43,315 Working capital............................................. 8,990 8,990 50,135 Total assets................................................ 20,992 20,992 60,407 Long-term portion of debt................................... -- -- -- Redeemable convertible preferred stock...................... 17,329 -- -- Total stockholders' equity (deficit)........................ (4,669) 12,660 52,075
The preceding table presents a summary of our consolidated balance sheet data as of June 30, 2001: + on an actual basis; + on a pro forma basis to reflect the automatic conversion of all outstanding shares of our redeemable convertible preferred stock into shares of our common stock upon the completion of this offering; and + on a pro forma as adjusted basis to give effect to the receipt of the estimated net proceeds from the sale of 3,500,000 shares of common stock in this offering, at an assumed initial public offering price of $13.00 per share, after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us. - -------------------------------------------------------------------------------- 4 10 - -------------------------------------------------------------------------------- Risk factors You should carefully consider the risks described below together with all of the other information included in this prospectus before making an investment decision. The risks and uncertainties described below are not the only ones facing us. Additional risks and uncertainties that we are unaware of, or that we currently deem immaterial, also may become important factors that adversely affect us. If any of the following risks actually occurs, our business, financial condition or results of operations could be materially adversely affected. In that case, the trading price of our common stock would decline and you may lose all or part of your investment. RISKS RELATED TO OUR FINANCIAL RESULTS BECAUSE WE HAVE A LIMITED OPERATING HISTORY, IT IS DIFFICULT TO EVALUATE AN INVESTMENT IN OUR COMMON STOCK. We were organized in October 1999 and released our first interactive entertainment software product in June 2000. It is difficult to evaluate our future prospects and an investment in our common stock because we have a limited operating history and the market for our products is rapidly evolving. Our prospects are uncertain and must be considered in light of the risks, expenses and difficulties frequently encountered by companies in the early stage of development. Our future performance will depend upon a number of factors, including our ability to: + expand our customer base; + secure popular entertainment properties upon which to base future products; + develop and enhance products in response to new interactive entertainment hardware platform releases, customer demand and competitive market conditions; + expand our interactive entertainment software development and sales and marketing capabilities; + expand our international operations; + attract, retain and motivate qualified personnel; and + maintain adequate control of our expenses. WE HAVE A HISTORY OF OPERATING LOSSES AND MAY NEVER ACHIEVE PROFITABILITY. We incurred net losses of $1.6 million for the year ended June 30, 2001 and $803,000 for the period from October 7, 1999 (inception) to June 30, 2000. We expect to incur a net loss for our first fiscal quarter ending September 30, 2001 and possibly for the fiscal quarter thereafter as we continue to make significant expenditures for product development, sales and marketing, international expansion, and general and administrative functions. We will need to generate significant revenues to achieve profitability. There can be no assurance that our revenues will grow in the future or that we will achieve sufficient revenues for profitability. If our revenues do not grow as quickly as we anticipate, or if our operating expenses exceed our expectations, our business would be severely harmed. OUR REVENUES FLUCTUATE DUE TO SEASONAL DEMAND AND THE NATURE OF THE INTERACTIVE ENTERTAINMENT INDUSTRY. We have experienced and may continue to experience significant quarterly fluctuations in net sales and operating results. The interactive entertainment industry is highly seasonal, with sales typically higher during the fourth and first calendar quarters. This is due primarily to the increased demand for games during and immediately following the holiday buying season. Our failure or inability to introduce products on a timely basis to meet seasonal fluctuations in demand will harm our business and operating results. Although we are attempting to reduce the effect of seasonal patterns on our business by distributing our product release dates more evenly throughout the year, we may not be successful. These fluctuations, as well as fluctuations caused by other factors, could cause our stock price to decline. Our expense levels are based, in part, on our expectations regarding future sales. Therefore, our operating results would be harmed by a decrease in sales or a failure to meet our sales expectations. Uncertainties associated with - -------------------------------------------------------------------------------- 5 11 RISK FACTORS - -------------------------------------------------------------------------------- interactive entertainment software development, lengthy manufacturing lead times, production delays and the approval process for products by hardware manufacturers and other licensors make it difficult to predict the quarter in which our products will ship. As a result of these and other factors, in some future quarters our operating results may fall below the expectations of securities analysts and investors. In this event, the trading price of our common stock could significantly decline. OUR EARNINGS WILL BE AFFECTED UPON THE ISSUANCE OF SHARES OF OUR COMMON STOCK PURSUANT TO THIRD-PARTY ENTERTAINMENT PROPERTY LICENSE AGREEMENTS AND BY A WARRANT HELD BY A FINANCE COMPANY. Pursuant to a license agreement with Franchise Films, we are obligated to issue 68,738 shares of our common stock after the release of any film for which we elect to produce interactive entertainment software products. This agreement covers up to 10 films or 687,375 shares of common stock. To date, we have elected to produce titles for three films and have issued 68,738 shares under this agreement. We are required to issue these shares when the films are released and will then incur a non-cash charge. If the software product is released after the release of the film, we will amortize the non-cash charge over the life of the product, which is expected to be between three and six months. If the software product is released prior to the release of the film, we will at each interim period assess whether it is probable that the value of the shares issued is recoverable through future sales of the product to which it relates. If this is probable, the non-cash charge will be amortized to licensed costs over the life of the product. In the alternative, we will expense the non-cash charge at the time of the issuance of the shares if it is not probable that the value of the shares issued is recoverable through future sales of the product to which these shares relate. We cannot estimate the aggregate dollar amount of future non-cash charges as they are based on our share price at a future point in time. However, these charges may be substantial. The non-cash charge of $746,000 on the initial shares issued is expected to be incurred in the second and third fiscal quarters of 2002. In addition, in connection with the issuance of warrants pursuant to a license agreement with Spyglass Entertainment, we incurred a non-cash charge of $354,000. This charge is being amortized on a straight-line basis over five years and commenced in October 2000. In connection with these warrants, a further non-cash charge of $556,000 will be amortized over a period, expected to be between three and six months, commencing on the release of the subject interactive entertainment software products. These releases are expected to be in the first or second fiscal quarter of 2003. Each of these charges will affect our gross margins and profitability and may cause the trading price of our common stock to decline significantly. In addition, pursuant to an August 2001 amendment to our master purchase order assignment agreement with an affiliate of Transcap Associates, Inc. and the execution of a $7.0 million factoring arrangement with an affiliate of Transcap, we issued Transcap a warrant to purchase 100,000 shares of our common stock at an exercise price equal to the initial public offering price. In connection with this issuance, we incurred a non-cash charge of $806,000 based upon an assumed initial public offering price of $13.00. This charge is subject to remeasurement up to the date of this offering and is being amortized on a straight-line basis through March 2002, which is the remaining term of the agreement. RISKS RELATED TO OUR BUSINESS OUR MARKET IS CHARACTERIZED BY CHANGING CONSUMER PREFERENCES AND SHORT PRODUCT LIFE CYCLES. TO COMPETE EFFECTIVELY WE MUST CONTINUALLY INTRODUCE NEW PRODUCTS THAT ACHIEVE MARKET ACCEPTANCE. The interactive entertainment software market is characterized by short product life cycles, changing consumer preferences and frequent introduction of new products. We believe that our success will be dependent on the production of successful titles on a continuous basis. We cannot assure you that new products introduced by us will achieve significant market acceptance or that such acceptance, if achieved, will be sufficient to permit us to recover development and other associated costs. Consumer preferences for interactive entertainment software products are continually changing and are difficult to predict. Even the most successful titles remain popular for only limited periods of time, often less than six months. The life cycle of a game generally consists of a relatively high level of sales during the first few months after introduction, followed by a decline in sales. Accordingly, we expect that substantially all of our net sales for a particular year will be generated by titles released in that year and in the latter part of the prior year. - -------------------------------------------------------------------------------- 6 12 RISK FACTORS - -------------------------------------------------------------------------------- THE DEVELOPMENT CYCLE FOR NEW TITLES IS LONG AND DURING THIS TIME THE MARKET APPEAL OF A TITLE MAY DECLINE. We believe the development cycle for new titles is long, typically ranging from 12 to 24 months. After development of the initial product, we believe it may take between six to 12 additional months to develop the product for additional hardware platforms. In order to distribute a product, we must develop and test the necessary game software, obtain approval from the manufacturer and licensor if required, and have the initial order of cartridges or disks manufactured. During the development cycle, the market appeal of a title or of a property on which the title is based may decline. If market acceptance is not achieved, we may grant markdown allowances to maintain our relationship with retailers and our access to distribution channels. Because we introduce a relatively limited number of new products in a given period, the failure of one or more of our products to achieve market acceptance could harm our business. THE INTRODUCTION OF NEW INTERACTIVE ENTERTAINMENT HARDWARE PLATFORMS CREATES RISKS RELATING TO THE DEVELOPMENT OF TITLES FOR THOSE HARDWARE PLATFORMS. The interactive entertainment industry is also characterized by rapid technological change. For example, the 128-bit hardware platform was released within five years of the release of the 64-bit hardware platform. As a result, we must continually anticipate these changes and adapt our offerings to emerging hardware platforms and evolving consumer preferences. Generally, because of the length of the development cycle, our development efforts must begin well in advance of the release of new hardware platforms in order to introduce titles on a timely basis with the release of such hardware platforms. Further, we have no control over the release dates of new hardware platforms or the number of units that will be shipped upon such release. It is difficult to ensure that our schedule for releasing new titles will coincide with the release of the corresponding hardware platforms. Additionally, if fewer than expected units of a new hardware platform are produced or shipped, such as recently occurred with Sony's PlayStation 2, developers of titles for those hardware platforms may experience lower than expected sales. The introduction of new hardware platforms and technologies can also render existing titles obsolete and unmarketable. Generally, as more advanced hardware platforms are introduced, consumer demand for titles for older hardware platforms diminishes. In addition, a broad range of competing and incompatible emerging technologies may lead consumers to postpone buying decisions until a particular hardware platform gains widespread acceptance. As a result of such reduced consumer demand for titles on older hardware platforms, our titles for older hardware platforms may not generate sufficient sales to make our titles profitable. THE DEVELOPMENT OF SOFTWARE PRODUCTS IS COMPLEX AND TIME CONSUMING AND MAY NOT LEAD TO MARKETABLE TITLES. The development of software products is complex and time consuming. Our development efforts may not lead to marketable titles or titles that generate sufficient revenues to recover their development and marketing costs, especially if a hardware platform does not reach or sustain an expected level of acceptance. This risk may increase in the future, as continuing increases in development costs require corresponding increases in net sales in order for us to maintain profitability. The technological advancements of the new hardware platforms also allow more complex software products. As software products become more complex, the risk of undetected errors in products when first introduced increases. We cannot assure you that, despite testing, errors will not be found in new products or releases after shipments have been made, resulting in loss of or delay in timely market acceptance, product returns, loss of revenues and damage to our reputation. In the past, we have experienced delays in the introduction of new titles and we anticipate that we will experience similar delays in the future in connection with the introduction of additional new titles, including products currently under development. Because net revenues associated with the initial shipments of a new product generally constitute a high percentage of the total net revenues associated with the life of a product, any delay in the introduction of, or the presence of a defect in, one or more new products could harm the ultimate success of the products or our business and operating results. - -------------------------------------------------------------------------------- 7 13 RISK FACTORS - -------------------------------------------------------------------------------- THE COSTS OF DEVELOPING AND MARKETING PRODUCTS FOR NEW INTERACTIVE ENTERTAINMENT HARDWARE PLATFORMS MAY BE SUBSTANTIAL AND COULD HARM OUR BUSINESS. The costs associated with the introduction of products for new hardware platforms, such as NINTENDO GAMECUBE, Sony's PlayStation 2 and Microsoft's Xbox, could harm our business. We anticipate that it will be more costly to develop titles for new hardware platforms. We also believe the costs of developing and publishing titles for these hardware platforms may require greater financial and technical resources than prior development and publishing efforts. Additionally, during periods of new technology introductions, forecasting our revenues and earnings is more difficult than in more stable or rising product markets. IF NEW INTERACTIVE ENTERTAINMENT HARDWARE PLATFORMS FAIL TO ACHIEVE SIGNIFICANT MARKET ACCEPTANCE, IT MAY HARM OUR BUSINESS. Our sales are dependent on, among other factors, the popularity and unit sales of the interactive entertainment hardware platforms of the various manufacturers. The interactive entertainment industry has experienced periods of significant growth in consumer interest and popularity, followed by periods in which consumer demand for interactive entertainment products has slowed. Unexpected shortfalls in the market acceptance of a particular hardware platform can significantly harm consumer demand for titles released or scheduled for release for that hardware platform. Therefore, we are dependent upon the successful marketing efforts of the manufacturers of the various hardware platforms to meet financial expectations. PRODUCT RETURNS AND MARKDOWN ALLOWANCES COULD HARM OUR BUSINESS. We are exposed to the risk of product returns and markdown allowances with respect to our customers. The decrease in demand for products based upon older hardware platforms may lead to a high level of these product returns and markdown allowances. We allow distributors and retailers to return defective and damaged products in accordance with negotiated terms. In addition, from time to time we provide markdown allowances to our larger customers on certain unsold merchandise. Product returns and markdown allowances that exceed our expectations could harm our business. A SUBSTANTIAL PORTION OF OUR REVENUES HAVE BEEN DERIVED FROM A LIMITED NUMBER OF PRODUCTS. To date, a substantial portion of our revenues have been derived from a limited number of products. Sales of our three POWERPUFF GIRLS products accounted for 66% of our net revenues for the year ended June 30, 2001. Sales of our BEAST WARS product accounted for 100% of our net revenues for the period from inception through June 30, 2000. If we fail to replace these titles with additional products generating significant revenues, our business will be harmed. OVER 40% OF OUR NET REVENUES ARE DERIVED FROM SALES TO OUR THREE LARGEST CUSTOMERS. WE COULD BE ADVERSELY AFFECTED IF ANY OF THEM REDUCED OR TERMINATED THEIR PURCHASES FROM US OR DID NOT PAY THEIR OBLIGATIONS TO US. Revenues from our three largest customers collectively accounted for 43% of our net revenues for the year ended June 30, 2001 as compared to 75% for the period from inception through June 30, 2000. Our three largest customers for the year ended June 30, 2001 were Toys "R" Us, which accounted for 17% of our net revenues, Wal-Mart, which accounted for 14% of our net revenues and Target, which accounted for 12% of our net revenues. For the period from inception through June 30, 2000, Blockbuster accounted for 49% of our net revenues, Wal-Mart accounted for 16% of our net revenues and KB Toys accounted for 10% of our net revenues. We have no written agreements or other understandings with any of our customers that relate to future purchases. Therefore, purchases by these customers or any others could be reduced or terminated at any time. A substantial reduction or a termination of purchases by any of our largest customers would harm us. SUBSTANTIALLY ALL OF OUR SALES ARE MADE ON CREDIT, WHICH EXPOSES US TO BAD DEBT. Our sales are typically made on credit, with terms that vary depending upon the customer and other factors. While we attempt to carefully monitor the creditworthiness of our customers and distributors, we bear the risk of their inability to pay our receivables and of any delay in payment. A business failure by any of our largest customers would harm us, as could a business failure by any of our distributors or other retailers. - -------------------------------------------------------------------------------- 8 14 RISK FACTORS - -------------------------------------------------------------------------------- WE CANNOT PUBLISH OUR INTERACTIVE ENTERTAINMENT SOFTWARE TITLES WITHOUT THE APPROVAL OF HARDWARE MANUFACTURERS. OUR ABILITY TO CONTINUE TO DEVELOP AND MARKET OUR TITLES IS DEPENDENT ON THE HARDWARE MANUFACTURERS CONTINUING TO DO BUSINESS WITH US. We are wholly dependent on the manufacturers of interactive entertainment hardware platforms and our ability to obtain or maintain non-exclusive licenses with them, both for the rights to publish and to manufacture titles for their hardware platforms. We are required to obtain a license to develop and publish titles for each hardware platform for which we develop and publish titles. Each license specifies the territory to which it applies, and such licenses range from as broad as multi-national distribution to as narrow as approval on a title-by-title basis. Our existing hardware platform licenses for Sony's PlayStation and PlayStation 2, Nintendo's Game Boy Color and Game Boy Advance, Nintendo 64 and Microsoft's Xbox, and our pending license for NINTENDO GAMECUBE, require that we obtain approval for the publication of new titles on a title-by-title basis. As a result, the number of titles we are able to publish for these hardware platforms, along with our ability to time the release of these titles is dependent upon decisions made by third party manufacturers. Accordingly, our revenues from titles for these hardware platforms may be limited. Should any manufacturer choose not to renew or extend our license agreement at the end of its current term, or if the manufacturer were to terminate our license for any reason, we would be unable to publish additional titles for that manufacturer's hardware platform. WE ARE DEPENDENT ON SONY AND NINTENDO FOR THE MANUFACTURE OF PRODUCTS THAT WE DEVELOP FOR THEIR HARDWARE PLATFORMS. When we develop interactive entertainment software titles for a hardware platform offered by Sony or Nintendo, the products are manufactured exclusively by that hardware manufacturer. Our hardware platform licenses with Sony and Nintendo provide that the manufacturer may change prices for the manufacturing of products at any time. In addition, these licenses include other provisions that give the manufacturer substantial control over our costs and the release of new titles. Since each of the manufacturers is also a publisher of games for its own hardware platforms and manufactures products for all of its other licensees, a manufacturer may give priority to its own products or those of our competitors in the event of insufficient manufacturing capacity. We would be materially harmed by unanticipated delays in the manufacturing and delivery of products. IF WE CANNOT RETAIN OUR EXECUTIVE MANAGEMENT TEAM AND ATTRACT AND RETAIN ADDITIONAL KEY PERSONNEL, OUR BUSINESS WILL BE HARMED. Our success has been due to a significant extent on the contributions and industry experience of our executive management team, in particular our Chief Executive Officer and President, Raymond C. Musci, and our Vice Chairman, Anthony R. Williams. If we fail to retain the services of our executive management team, our ability to secure additional licenses and develop and sell new products would be significantly impaired. In addition, our future success will also depend upon our ability to continue to attract, motivate and retain highly qualified employees and third-party contractors, particularly software design and development personnel and outside sales representatives. Competition for highly skilled employees is intense and we may not be successful in attracting and retaining such personnel. WE ARE DEPENDENT UPON LICENSES TO PROPERTIES ORIGINATED AND OWNED BY THIRD PARTIES FOR THE DEVELOPMENT OF OUR TITLES. Many of our titles, such as those from our POWERPUFF GIRLS series, DEXTER'S LABORATORY and DRIVEN, are based upon entertainment properties licensed from third parties. We cannot assure you that we will be able to obtain new licenses, or renew existing ones, on reasonable terms, if at all. If we are unable to obtain licenses for the properties which we believe offer significant consumer appeal, we would be required to obtain licenses for less popular properties or have to develop all of our titles based upon internally developed concepts. Titles based on less popular properties or on internally developed concepts typically require greater marketing expense in order to establish brand identity and may not achieve broad market acceptance or prove to be successful. - -------------------------------------------------------------------------------- 9 15 RISK FACTORS - -------------------------------------------------------------------------------- WE ARE DEPENDENT ON THIRD-PARTY INTERACTIVE ENTERTAINMENT SOFTWARE DEVELOPERS FOR DEVELOPING AND COMPLETING MANY OF OUR TITLES. We rely on third-party interactive entertainment software developers for the development of a significant number of our interactive entertainment software titles. Quality third-party developers are continually in high demand. For this reason, we cannot assure you that the third-party software developers who have developed titles for us in the past will continue to be available to develop software for us in the future. Due to the limited number of third-party software developers and the lack of control that we exercise over them, we cannot assure you that these developers will complete titles for us on a timely basis or within acceptable quality standards, if at all. OUR SUCCESS DEPENDS ON OUR ABILITY TO EFFECTIVELY MANAGE OUR GROWTH. Our operations have rapidly expanded since our inception in October 1999 and we plan to continue to significantly expand our operations. Our rapid growth has placed, and will continue to place, significant strain on our management and operational systems and resources. We anticipate that as our business grows, we will have to improve and enhance our overall financial and managerial controls, reporting systems and procedures. We will also need to continue to expand, train and manage our workforce. Additionally, we will be required to increase the capacity of our current systems to meet additional demands. An inability to manage our growth and meet these additional demands will impair the success of our business. OBTAINING ADDITIONAL CAPITAL TO FUND OUR OPERATIONS AND FINANCE OUR GROWTH COULD IMPAIR THE VALUE OF YOUR INVESTMENT. If we expand more rapidly than currently anticipated or if our working capital needs exceed our current expectations, we may need to raise additional capital through public or private equity offerings or debt financings. If we cannot raise needed funds on acceptable terms, we may not be able to develop or enhance our products, take advantage of future opportunities or respond to competitive pressures or unanticipated requirements. To the extent we raise additional capital by issuing equity securities, our stockholders may experience substantial dilution. Also, any new equity securities may have greater rights, preferences or privileges than our existing common stock. A material shortage of capital may require us to take drastic steps such as reducing our level of operations, disposing of selected assets or seeking an acquisition partner. OUR SUCCESS IS HIGHLY DEPENDENT ON OUR PROPRIETARY SOFTWARE AND INTELLECTUAL PROPERTY. We rely primarily on a combination of copyright, trademark and trade secret laws, employee and third-party nondisclosure agreements and other methods to protect our proprietary rights. We require our employees, consultants and other outside individuals and entities to execute confidentiality and nondisclosure agreements upon the start of employment, consulting or other contractual relationships with us. However, our ability to police these individuals and entities and enforce these agreements is costly and uncertain. We are aware that unauthorized copying occurs within our industry. If a significantly greater amount of unauthorized copying of our interactive entertainment software products were to occur, our business would be harmed. We generally obtain ownership of the software code and related documentation from third-party software developers. In instances where we do not retain sole ownership of the source code, the owner may use or license the code for development of other software products that may compete directly with our products and we may not have sufficient rights in the source code to produce derivative products. We rely on existing copyright laws to prevent unauthorized distribution of our products. Existing copyright laws afford only limited protection. Policing unauthorized use of our products is difficult, and software piracy is a persistent problem, especially in international markets. In addition, the laws of some countries in which our products are or may be distributed either do not protect our products and intellectual property rights to the same extent as the laws of the United States or are weakly enforced. Legal protection of our rights may be ineffective in these countries. Any unauthorized use of our proprietary information could result in costly and time-consuming litigation to enforce our proprietary rights. - -------------------------------------------------------------------------------- 10 16 RISK FACTORS - -------------------------------------------------------------------------------- OTHER PARTIES MAY ASSERT CLAIMS AGAINST US THAT WE ARE INFRINGING UPON THEIR INTELLECTUAL PROPERTY RIGHTS AND WE ARE REQUIRED TO INDEMNIFY HARDWARE MANUFACTURERS FROM CERTAIN CLAIMS IN EXCHANGE FOR THE RIGHT TO PURCHASE TITLES AND MANUFACTURE OUR SOFTWARE FOR THEIR HARDWARE PLATFORMS. We cannot be certain that our products do not infringe upon the intellectual property rights of others. We may be subject to legal proceedings and claims from time to time in the ordinary course of our business, including claims of alleged infringement of the intellectual property rights of third parties. If our products violate third-party proprietary rights, we cannot assure you that we would be able to obtain licenses to continue offering such products on commercially reasonable terms, or at all. In addition, we must indemnify the hardware manufacturers with respect to all loss, liability and expense resulting from any claim against them involving the development, marketing, sale or use of our products. This includes any claims for copyright or trademark infringement brought against them. As a result, we bear the risk that the properties upon which our software titles are based, or that the information and technology licensed from the hardware manufacturer and incorporated in our software, may infringe the rights of third parties. Any claims against us or the parties we indemnify relating to the infringement of third-party proprietary rights, even if not meritorious, could result in the expenditure of significant financial and managerial resources. Their claims could also result in injunctions preventing us from offering these products. Such claims could severely harm our financial condition and ability to compete. For information concerning pending intellectual property matters, see "Business -- Intellectual Property." THE CALIFORNIA ENERGY CRISIS COULD HARM OUR BUSINESS. California is currently experiencing a utility crisis and often does not have sufficient sources of affordable power. This energy crisis could impact our business, financial condition and results of operations. Our domestic headquarters and principal operations are located in San Jose, California, which has undergone several periods of rolling blackouts, a technique used by our power providers to conserve resources. Although our operations have not been halted for significant periods of time as a result of these conservation measures, potential suspensions of our operations could result in lost productivity, materially higher costs and lost revenues. In addition, regulators have announced electricity rate increases in California, which will also increase our cost of operations. THE INTERACTIVE ENTERTAINMENT INDUSTRY IS CONSOLIDATING. IN MAKING ACQUISITIONS, WE FACE SIGNIFICANT COMPETITION FROM OTHER COMPANIES WITH GREATER FINANCIAL RESOURCES. WE ALSO FACE INTEGRATION CHALLENGES WITH ANY COMPANIES THAT WE ACQUIRE. To enhance our product development and distribution capabilities, we may pursue acquisitions of companies, intellectual property rights and other assets that can be acquired on acceptable terms and which we believe can be operated or exploited profitably. We cannot assure you that we will be successful in identifying suitable acquisition opportunities. As the interactive entertainment industry continues to consolidate, we face significant competition in making acquisitions. This may constrain our ability to complete suitable transactions. Many of our competitors for potential acquisitions have significant financial and other resources. If we attempt an acquisition, we cannot assure you that, given the competitive environment, we will complete the acquisition or that any completed acquisitions will benefit our business or operations. In addition, the integration of any newly acquired company's operations with our existing operations will take management time and effort. There is a possibility that we may not be successful in integrating operations of any newly acquired companies. Additionally, there is a risk of loss of key employees, customers and vendors of any recently acquired companies. WE FACE RISKS ASSOCIATED WITH DOING BUSINESS IN FOREIGN COUNTRIES, INCLUDING OUR ABILITY TO GENERATE INTERNATIONAL DEMAND FOR OUR PRODUCTS. We intend to expand our international sales and marketing activities. This expansion will require significant management time and attention and financial resources in order to develop our international operations. We cannot assure - -------------------------------------------------------------------------------- 11 17 RISK FACTORS - -------------------------------------------------------------------------------- you that we will be able to generate international market demand for our products. International sales and operations are subject to a number of risks, including: + international consumer acceptance of existing and proposed titles; + the impact of possible recessions in foreign economies; + our ability to protect our intellectual property; + the time and costs associated with translating and localizing products for foreign markets; + foreign currency fluctuations; + unexpected changes in regulatory requirements; + difficulties and costs of staffing and managing foreign operations; and + political and economic instability. OUR OFFICERS AND DIRECTORS OWN A SUBSTANTIAL AMOUNT OF OUR COMMON STOCK AND THEREFORE HAVE SUBSTANTIAL INFLUENCE OVER OUR OPERATIONS AND CAN SIGNIFICANTLY INFLUENCE MATTERS REQUIRING STOCKHOLDER APPROVAL. Our officers and directors will beneficially own approximately 63% of our common stock following the completion of this offering, or approximately 60% if the underwriters' over-allotment option is exercised in full. As a result, they will have the ability to control all matters requiring approval by our stockholders, including the election and removal of directors, approval of significant corporate transactions and the decision of whether a change in control will occur. RISKS RELATED TO OUR INDUSTRY COMPETITION WITHIN THE INTERACTIVE ENTERTAINMENT SOFTWARE INDUSTRY IS INTENSE AND POSES AN ONGOING THREAT TO THE SUCCESS OF OUR BUSINESS. The interactive entertainment industry is intensely competitive. Many of our competitors have greater name recognition among consumers and licensors of entertainment properties, broader product lines and greater financial, marketing and other resources than us. Accordingly, these competitors may be able to market their products more effectively, make larger offers or guarantees in connection with the acquisition of licensed entertainment properties, adopt more aggressive pricing policies or pay more to third-party developers. We believe that other technology, entertainment and media companies are increasing their focus on the interactive entertainment software market, which might result in greater competition for us. In addition, many of our competitors are developing online interactive entertainment software products and interactive networks that will be competitive with our interactive entertainment software products. Competitive pressures could have the following effects on us: + as competition for popular entertainment properties increases, our cost of acquiring licenses for those properties may increase, resulting in reduced margins; + as competition for retail shelf space becomes more intense, we may need to increase our marketing expenditures to maintain sales of our interactive entertainment software titles; and + we could be required to reduce the wholesale unit prices of our titles. COMPETITION FOR LIMITED SHELF SPACE AND PROMOTIONAL RESOURCES AMONG INTERACTIVE ENTERTAINMENT SOFTWARE PUBLISHERS IS INTENSE AND POSES AN ONGOING THREAT TO THE SUCCESS OF OUR BUSINESS. There is intense competition among developers and publishers of interactive entertainment software products for high quality retail shelf space and promotional support from retailers. As the number of titles and hardware platforms increases, competition for shelf space will intensify and may require us to increase our marketing expenditures. Due to increased competition for limited shelf space, retailers and distributors are in an increasingly better position to negotiate favorable terms of sale, including price discounts, price protection, marketing and display fees and product return policies. Our products constitute a relatively small percentage of any retailer's sales volume, and we cannot - -------------------------------------------------------------------------------- 12 18 RISK FACTORS - -------------------------------------------------------------------------------- assure you that retailers will continue to purchase our products or to provide our products with adequate levels of shelf space and promotional support. As a result of their positions in the industry, the manufacturers of interactive entertainment hardware platforms generally have better bargaining positions with respect to retail pricing, shelf space and retailer accommodations than do any of their licensees, including us. GOVERNMENT RESTRICTIONS INCLUDING THE LIKELY ADOPTION OF AN INTERACTIVE ENTERTAINMENT SOFTWARE RATING SYSTEM COULD HARM OUR BUSINESS. Legislation is periodically introduced at the state and federal levels in the United States and in foreign countries to establish a system for providing consumers with information about graphic violence and sexually explicit material contained in interactive entertainment software products. Under such a system, interactive entertainment software publishers would be expected to comply by identifying particular products within defined rating categories. In addition, these publishers would be required to communicate these ratings to consumers through appropriate package labeling and through advertising and marketing presentations consistent with each product's rating. Many foreign countries have laws which permit governmental entities to censor the content of products, including interactive entertainment software. In some instances, we may be required to modify our products to comply with the requirement of such governmental entities, which could delay the release of those products in such countries. These delays could harm our business. We currently voluntarily submit our products to industry-created review boards and publish their ratings on our game packaging. Some retailers may refuse to carry titles that bear an unacceptable rating. We believe that mandatory government-run interactive entertainment software products rating systems eventually will be adopted in many countries which represent significant markets or potential markets for us. Due to the uncertainties in the implementation of such a rating system, confusion in the marketplace may occur. We are unable to predict what effect, if any, such a rating system would have on our business. POTENTIAL OPPOSITION BY CONSUMER ADVOCACY GROUPS TO CERTAIN SOFTWARE CONTENT COULD HARM OUR BUSINESS. Consumer advocacy groups have in the past opposed sales of interactive entertainment software products containing graphic violence and sexually explicit content. These groups have pressed for legislation in these areas and engaged in public demonstrations and media campaigns. While to date such actions have not harmed our business, we cannot assure you that these groups will not target our products in the future. If that occurs, we may be required to significantly change or discontinue one or more of our titles. RISKS RELATED TO THIS OFFERING WE EXPECT OUR STOCK PRICE TO BE VOLATILE. Prior to this offering, there has been no public market for our common stock. Accordingly, we cannot assure you that an active trading market will develop or be sustained or that the market price of our common stock will not decline. The initial public offering price for the shares of our common stock will be determined by us and the representatives of the underwriters and may not be indicative of prices that will prevail in the trading market. The price at which our common stock will trade after this offering is likely to be highly volatile and may fluctuate substantially due to many factors, some of which are outside of our control. In addition, the stock market has experienced significant price and volume fluctuations that affected the market price for the common stock of many technology, communications and entertainment and media companies. These market fluctuations were sometimes unrelated or disproportionate to the operating performance of these companies. Any significant stock market fluctuations in the future, whether due to our actual performance or prospects or not, could result in a significant decline in the market price of our common stock. - -------------------------------------------------------------------------------- 13 19 RISK FACTORS - -------------------------------------------------------------------------------- ANTI-TAKEOVER PROVISIONS IN OUR CHARTER DOCUMENTS AND IN DELAWARE LAW COULD PREVENT OR DELAY A CHANGE IN CONTROL AND, AS A RESULT, NEGATIVELY IMPACT OUR STOCKHOLDERS. Provisions of our certificate of incorporation and bylaws may discourage, delay or prevent a merger or acquisition or make removal of incumbent directors or officers more difficult. These provisions may discourage takeover attempts and bids for our common stock at a premium over the market price. These provisions include: + the ability of our board of directors to alter our bylaws without stockholder approval; + the restriction on the ability of stockholders to call special meetings; + the restriction on the ability of our stockholders to act by written consent; + the establishment of advance notice requirements for nominations for election to our board of directors or for proposing matters that can be acted on by stockholders at stockholders meetings; and + the establishment of a classified board of directors with staggered, three-year terms, which prevents a majority of the board from being elected at one time. In addition, we are subject to Section 203 of the Delaware General Corporation Law, which prohibits a publicly held Delaware corporation from engaging in a merger, asset or stock sale or other transaction with an interested stockholder for a period of three years following the date such person became an interested stockholder, unless prior approval of our board of directors is obtained or as otherwise provided. These provisions of Delaware law also may discourage, delay or prevent someone from acquiring or merging with us without obtaining the prior approval of our board of directors, which may cause the market price of our common stock to decline. MANAGEMENT WILL HAVE BROAD DISCRETION OVER THE USE OF PROCEEDS FROM THIS OFFERING. The net proceeds from this offering will be used for general corporate purposes. Although we list expanding our product development, expanding our international operations and possible acquisitions and expanding our sales and marketing activities, as examples of general corporate purposes, we are not obligated to pursue any of these opportunities. We have not reserved or allocated the net proceeds for any specific transaction, and we cannot specify with certainty how we will use the net proceeds. Accordingly, our management will have considerable discretion in the application of the net proceeds, and you will not have the opportunity, as part of your investment decision, to assess whether the proceeds are being used appropriately. The net proceeds may be used for corporate purposes that do not increase our operating results or market value. Until the net proceeds are used, they may be placed in investments that do not produce income or that lose value. A SUBSTANTIAL AMOUNT OF OUR SHARES WILL BE ELIGIBLE FOR SALE SHORTLY AFTER THIS OFFERING. If our stockholders sell substantial amounts of common stock in the public market following this offering, the market price of our common stock could fall. These sales also might make it more difficult for us to sell equity or our equity-related securities at a time and price that we deem appropriate. Based on shares outstanding as of June 30, 2001, upon completion of this offering, we will have 12,166,255 shares of common stock outstanding. Of these shares, the 3,500,000 shares being offered hereby will be freely tradable and the remaining shares will become eligible for sale in the public market pursuant to Rule 144. All of the remaining shares are subject to contractual restrictions with the underwriters that prevent them from being sold until 180 days after the date of this prospectus without the consent of UBS Warburg LLC. UBS Warburg LLC may, in its sole discretion, at any time without notice, release all or any portion of the shares subject to the lock-up agreements, which would result in more shares being available for sale in the public market at an earlier date. Sales of common stock by existing stockholders in the public market, or the availability of such shares for sale, could materially and adversely affect the market price of our common stock. OUR SHARES PURCHASED IN THIS OFFERING WILL INCUR IMMEDIATE AND SUBSTANTIAL DILUTION OF APPROXIMATELY $8.72 PER SHARE. The assumed initial public offering price of our common stock is substantially higher than the pro forma net tangible book value per share of the outstanding common stock immediately after this offering. Accordingly, assuming an - -------------------------------------------------------------------------------- 14 20 RISK FACTORS - -------------------------------------------------------------------------------- initial public offering price of $13.00 per share, if you purchase common stock in this offering, you will incur immediate and substantial dilution of $8.72 in the pro forma net tangible book value per share of the common stock. In addition, investors will incur additional dilution upon the exercise of outstanding stock options and warrants after this offering. - -------------------------------------------------------------------------------- 15 21 - -------------------------------------------------------------------------------- Forward looking information This prospectus may contain forward-looking statements. When used in this prospectus, the words "anticipate," "believe," "estimate," "will," "plan," "intend" and "expect" and similar expressions identify forward-looking statements. Although we believe that our plans, intensions and expectations reflected in those forward-looking statements are reasonable, we cannot assure you that these plans, intentions or expectations will be achieved. Actual results, performance or achievements could differ materially from those contemplated, expressed or implied by the forward-looking statements contained in this prospectus. Important factors that could cause actual results to differ materially from our forward-looking statements are set forth in this prospectus, including under the heading "Risk factors." Our actual results could differ materially from those predicated in these forward-looking statements, and the events anticipated in the forward-looking statements may not actually occur. All forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by the cautionary statements set forth in this prospectus. Other than as required by federal securities law, we are under no obligation to update any forward-looking statement, whether as a result of new information, future events or otherwise. You should rely only on the information contained in this prospectus. We have not authorized anyone to provide you with information different from that contained in this prospectus. We are offering to sell and seeking offers to buy shares of our common stock only in jurisdictions where offers and sales are permitted. The information contained in this prospectus is accurate only as of the date of this prospectus, regardless of the time of delivery of this prospectus or of any sale of our common stock. Use of proceeds The net proceeds to us from this offering, at an assumed initial public offering price of $13.00 per share, after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us, are estimated to be $39.4 million, or $45.8 million if the underwriters' over-allotment option is exercised in full. We expect to use the net proceeds of the offering for general corporate purposes in the following estimated amounts: + $27.5 million for product development; + $6.0 million for international operations and possible acquisitions; + $5.0 million for expansion of sales and marketing activities; and + the remainder of the proceeds for additional working capital, which includes approximately $394,000 in accrued salaries owed to our President and Vice Chairman. We currently have no commitments or agreements and are not involved in any negotiations with respect to any acquisitions. The amounts and timing of our actual expenditures will depend on numerous factors, including the status of our product development efforts, sales and marketing activities, technological advances, the amount of cash generated or used by our operations and competition. We may find it necessary or advisable to use the net proceeds for other purposes, and we will have broad discretion in the application of the balance of the net proceeds. Pending the uses described above, we intend to invest the net proceeds in short-term, interest-bearing, investment grade securities. Our management team made the determination to offer our shares to the public to fund our future expansion, to compensate our employees and to attract new employees. We determined the portion of our company to be sold in this offering through a combination of estimates of our future expansion plans, evaluation of market conditions and recent offerings of comparable companies. - -------------------------------------------------------------------------------- 16 22 - -------------------------------------------------------------------------------- Dividend policy We have never declared or paid any cash dividends on our capital stock. We anticipate that we will retain any earnings to support operations and to finance the growth and development of our business. Therefore, we do not expect to pay cash dividends on our capital stock in the foreseeable future. Any future determination relating to our dividend policy will be made at the discretion of our board of directors and will depend on a number of factors, including future earnings, capital requirements, financial conditions, contractual obligations, future prospects and other factors the board of directors may deem relevant. - -------------------------------------------------------------------------------- 17 23 - -------------------------------------------------------------------------------- Capitalization Our capitalization as of June 30, 2001 is set forth in the following table on: + an actual basis; + a pro forma basis to reflect the automatic conversion of all outstanding shares of our redeemable convertible preferred stock into shares of our common stock upon the completion of this offering; and + the pro forma information on an as adjusted basis to give effect to the receipt of the estimated net proceeds from the sale of 3,500,000 shares of common stock in this offering, at an assumed initial public offering price of $13.00 per share after deducting the estimated underwriting discounts and commissions and estimating offering expenses payable by us. The table does not include: + 814,275 shares of our common stock issuable upon exercise of options outstanding as of June 30, 2001 with a weighted average exercise price of $3.28 under our 2000 Stock Incentive Plan; + 674,450 shares of our common stock issuable upon exercise of warrants outstanding as of June 30, 2001 with a weighted average exercise price of $1.98; and + Subsequent to June 30, 2001, (1) 100,000 shares of our common stock issuable upon exercise of a warrant issued to Transcap Associates, Inc. at an exercise price equal to the initial public offering price and (2) 182,135 shares of our common stock issuable upon exercise of options at an exercise price of $11.70 under our 2000 Stock Incentive Plan and 18,800 shares of our common stock issuable at an exercise price of $4.79 upon exercise of options granted outside of our 2000 Stock Incentive Plan; and + up to 618,637 shares of our common stock that may be issued pursuant to a third-party entertainment property license agreement with Franchise Films as of June 30, 2001. In April 2001, 68,738 of these shares were issued for an aggregate value of $746,000. You should read this table in conjunction with "Management's discussion and analysis of financial condition and results of operations" and our consolidated financial statements and the notes to those financial statements included elsewhere in this prospectus.
JUNE 30, 2001 ------------------------------------ PRO PRO FORMA ACTUAL FORMA AS ADJUSTED (In thousands, except share and per share data) - -------------------------------------------------------------------------------------------------- Long-term debt.............................................. $ -- $ -- $ -- ------- ------- ------- Redeemable convertible preferred stock: $0.001 par value; 10,000,000 shares authorized; 1,516,499 shares issued and outstanding, actual; no shares issued and outstanding, pro forma and pro forma as adjusted.... 17,329 -- -- ------- ------- ------- Common stock: $0.001 par value; 100,000,000 shares authorized, 1,538,710 shares issued and outstanding, actual; 8,666,255 shares issued and outstanding, pro forma; 12,166,255 shares issued and outstanding, pro forma as adjusted........... 1 9 12 Additional paid-in-capital.................................. 5,375 22,696 62,108 Deferred stock compensation................................. (2,096) (2,096) (2,096) Accumulated deficit......................................... (7,945) (7,945) (7,945) Accumulated other comprehensive loss........................ (4) (4) (4) ------- ------- ------- Total stockholders' equity (deficit)............... (4,669) 12,660 52,075 ------- ------- ------- Total capitalization............................... $12,660 $12,660 $52,075 ======= ======= =======
- -------------------------------------------------------------------------------- 18 24 - -------------------------------------------------------------------------------- Dilution Our pro forma net tangible book value as of June 30, 2001 was approximately $1.46 per share of our common stock. Our net tangible book value per share represents the amount of our total tangible assets reduced by the amount of our total liabilities and divided by the total number of shares of our common stock outstanding, as of June 30, 2001. In making this calculation, we gave effect to the conversion of all outstanding shares of our redeemable convertible preferred stock into shares of our common stock upon the completion of this offering. After giving effect to our sale in this offering of 3,500,000 shares of our common stock at an assumed initial public offering price of $13.00 per share and after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us, our pro forma net tangible book value as of June 30, 2001 would have been $4.28 per share of our common stock. This represents an immediate increase in net tangible book value of $2.82 per share to our existing stockholders and an immediate dilution of $8.72 per share to you. The following table illustrates this per share dilution: Assumed initial public offering price per share............. $ 13.00 Pro forma net tangible book value per share before this offering................................................ $ 1.46 Increase attributable to investors in this offering....... $ 2.82 -------- Pro forma net tangible book value after the offering........ 4.28 -------- Dilution per share to investors in this offering............ $ 8.72 ========
The differences between our existing stockholders and investors with respect to the number of shares of common stock purchased from us, the total consideration paid to us and the average price per share paid for both common and preferred stock is summarized on a pro forma basis, as of June 30, 2001 before underwriting discounts and commissions and estimated offering expenses payable by us in the following table, after giving effect to the automatic conversion of all outstanding shares of our redeemable convertible preferred stock into shares of our common stock upon the completion of this offering. The following table does not include 814,275 shares of our common stock issuable upon exercise of options outstanding as of June 30, 2001 with a weighted average exercise price of $3.28 under our 2000 Stock Incentive Plan; 674,450 shares of our common stock issuable upon exercise of warrants outstanding as of June 30, 2001 with a weighted average exercise price of $1.98; subsequent to June 30, 2001, (1) 100,000 shares of our common stock issuable upon exercise of a warrant issued to Transcap Associates, Inc. at an exercise price equal to the initial public offering price and (2) 182,135 shares of our common stock issuable upon exercise of options at an exercise price of $11.70 under our 2000 Stock Incentive Plan and 18,800 shares of our common stock issuable at an exercise price of $4.79 upon exercise of options granted outside of our 2000 Stock Incentive Plan; and up to 618,637 shares of our common stock issuable pursuant to a third-party entertainment property license agreement with Franchise Films. This is in addition to 68,738 shares of our common stock that were issued in April 2001 for an aggregate value of $746,000 pursuant to a license agreement with Franchise Films. You should read this table in conjunction with "Management's discussion and analysis of financial condition and results of operations" and our consolidated financial statements and the notes to those financial statements included elsewhere in this prospectus. See "Management -- 2000 Stock Incentive Plan" and note 6 to our consolidated financial statements.
SHARES PURCHASED TOTAL CONSIDERATION ---------------------- -------------------- AVERAGE NUMBER PERCENT AMOUNT PERCENT PRICE (In thousands) PER SHARE - -------------------------------------------------------------------------------------------------------------------- Existing stockholders.................................. 8,666,255 71.2% $13,703 23.1% $ 1.58 Investors in this offering............................. 3,500,000 28.8 45,500 76.9 13.00 ----------- ------- ------- ------- --------- Total......................................... 12,166,255 100.0% $59,203 100.0% $ 4.87 =========== ======= ======= ======= =========
- -------------------------------------------------------------------------------- 19 25 - -------------------------------------------------------------------------------- Selected consolidated financial data The selected consolidated financial data set forth below should be read in conjunction with our consolidated financial statements and related notes thereto and "Management's discussion and analysis of financial condition and results of operations" included elsewhere in this prospectus. The selected consolidated financial data as of June 30, 2001 and for the period from October 7, 1999 (inception) through June 30, 2000 and for the year ended June 30, 2001 are derived from our audited consolidated financial statements included elsewhere in this prospectus.
PERIOD FROM OCTOBER 7, 1999 (INCEPTION) THROUGH YEAR ENDED JUNE 30, 2000 JUNE 30, 2001 (In thousands, CONSOLIDATED STATEMENT OF OPERATIONS DATA except per share data) - ---------------------------------------------------------------------------------------------- Net revenues................................................ $ 1,377 $ 25,351 ------- -------- Costs and expenses: Cost of revenues: Cost of goods sold...................................... 807 14,827 Royalties, software costs, license costs and project abandonment............................................ 248 2,898 ------- -------- Total cost of revenues............................. 1,055 17,725 Research and development*................................. 260 1,073 Sales and marketing*...................................... 132 4,292 General and administrative*............................... 711 1,996 Amortization of deferred stock compensation............... -- 618 ------- -------- Total costs and expenses........................... 2,158 25,704 ------- -------- Loss from operations........................................ (781) (353) Other expense, net.......................................... (22) (1,249) ------- -------- Net loss.................................................... (803) (1,602) Redeemable convertible preferred stock dividend............. -- (5,540) ------- -------- Net loss attributable to common stockholders................ $ (803) $ (7,142) ======= ======== Net loss per share: Basic and diluted (1)..................................... $ (0.96) $ (4.82) Pro forma loss per share: Basic and diluted (2)..................................... $ (0.94) $ (1.04) Shares used in computation: Basic and diluted (1)..................................... 834 1,482 Pro forma basic and diluted (2)........................... 851 6,898 *Excludes amortization of deferred stock compensation: Research and development.................................. $ -- $ 72 Sales and marketing....................................... -- 28 General and administrative................................ -- 518 ------- -------- $ -- $ 618 ======= ========
JUNE 30, ----------------- 2000 2001 CONSOLIDATED BALANCE SHEET DATA (In thousands) - ------------------------------------------------------------------------------- Cash and cash equivalents................................... $ 908 $ 2,170 Working capital............................................. 1,318 8,990 Total assets................................................ 2,712 20,992 Long-term portion of debt................................... -- -- Redeemable convertible preferred stock...................... 2,103 17,329 Total stockholders' equity (deficit)........................ (706) (4,669)
(1) The diluted net loss per share computation excludes potential shares of common stock issuable upon conversion of redeemable convertible preferred stock and exercise of options to purchase common stock, as their effect would be antidilutive. See Notes 1 and 9 of notes to - -------------------------------------------------------------------------------- 20 26 SELECTED CONSOLIDATED FINANCIAL DATA - -------------------------------------------------------------------------------- consolidated financial statements for a detailed explanation of the determination of the shares used in computing basic and diluted net loss per share. (2) Includes the weighted average number of shares resulting from the assumed conversion of all outstanding shares of redeemable convertible preferred stock upon the completion of this offering. See notes 1 and 9 of notes to our consolidated financial statements for a detailed explanation of the determination of the shares used in computing pro forma net loss per share. The diluted pro forma net loss per share computation excludes potential shares of common stock issuable upon exercise of options to purchase common stock as their effect would be antidilutive. - -------------------------------------------------------------------------------- 21 27 - -------------------------------------------------------------------------------- Management's discussion and analysis of financial condition and results of operations The following discussion and analysis of financial condition and results of operations should be read in conjunction with "Selected consolidated financial data" and the consolidated financial statements and related notes to those statements included elsewhere in this prospectus. This discussion and analysis may contain forward-looking statements that involve risks, uncertainties and assumptions. As a result of many factors, such as those set forth under "Risk factors" and elsewhere in this prospectus, our actual results may differ materially from those anticipated in the forward-looking statements. OVERVIEW We develop and publish interactive entertainment software. We currently publish titles for many of the most popular interactive entertainment hardware platforms, such as Sony's PlayStation, Nintendo 64 and Nintendo's Game Boy Color and Game Boy Advance, as well as for portable handheld devices manufactured by Palm and Handspring. We are developing and plan to publish titles for next generation hardware platforms such as Sony's PlayStation 2, NINTENDO GAMECUBE and Microsoft's Xbox, as well as for other portable handheld devices and personal computers. We were incorporated in California in October 1999 under the name Bay Area Multimedia, Inc. We reincorporated in Delaware in September 2000 and changed our name to BAM! Entertainment, Inc. in December 2000. We commenced operations in October 1999 and shipped our first products in June 2000. We license properties from a wide variety of sources, and publish titles based on the motion picture, sports and television properties of our licensors. We have entered into strategic license arrangements with entertainment and media companies that have developed well-known characters and brands and that are producing popular properties that are expected to form the basis of some of our future products. Our agreements with licensors and developers generally require us to make advance royalty payments, and we may be required to spend money on advertising and promotion. We generally pay royalties based on net revenues. We design and develop our titles internally, or through third parties with whom we have established relationships. We believe that the development cycle for new titles is long, typically ranging from 12 to 24 months. After development of the initial product, we believe that it may take between six to 12 additional months to develop the product for, or port the product to, a different hardware platform. We sell our products to mass merchandisers such as Toys "R" Us, Target, Kmart, Wal-Mart and Best Buy, specialty chains such as Babbages, Etc. and Electronics Boutique and independent distributors. Our products are manufactured exclusively by third parties. We have operations in both the United States and Europe. Our international operations are conducted through our offices in England, where we have our internal product development studio, perform international sales and marketing activities and manage local third-party developers. We anticipate that international revenues will increase as we increase the number of products we ship and localize these products for international markets. NET REVENUES We derive revenues from shipment of finished products to the customer. We may allow customers to exchange and return our products within certain specified periods after shipment and from time to time provide price protection on certain unsold merchandise in the form of a credit against amounts due from the customer. Net revenues from product sales are reflected after deducting the estimated cost of allowances for returns and price protection as well as discounts given. These estimates are based upon current known circumstances and historical results. The calculation of net revenues will be affected by many factors, including pricing strategies, the channels through which our products are distributed, product maturity, exchange and return privileges and price protection. - -------------------------------------------------------------------------------- 22 28 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- Net revenues are recognized when we have satisfied the following conditions: persuasive evidence of an arrangement exists, delivery has occurred, the price has been fixed or is determinable and collectibility has been reasonably assured. We expect that substantially all of our net revenues for a particular year will be generated by titles released in that year or in the latter part of the prior year. The market for interactive entertainment software is characterized by short product life cycles, changing consumer preferences and frequent introduction of new products. The life cycle of a title generally consists of a relatively high level of sales during the first few months after introduction, followed by a decline in sales, with only a small percentage of sales occurring more than six months after release. We have experienced, and are likely to continue to experience, quarterly fluctuations in net revenues. The interactive entertainment industry is highly seasonal, with net revenues typically significantly higher during the fourth and first calendar quarters, due primarily to the increased demand for titles during the year-end holiday buying season. Our failure or inability to introduce products on a timely basis to meet seasonal increases in demand will harm our business and operating results. While we are attempting to reduce the effect of seasonal patterns on our business by distributing our product release dates more evenly throughout the year, we may not be successful in this endeavor. COST OF REVENUES Cost of revenues consists of cost of goods sold and royalties, software costs, license costs and project abandonment. Cost of goods sold. Cost of goods sold includes manufacturing costs of finished goods, freight, inventory management costs and inventory obsolescence costs. Cost of goods sold will vary depending on the volume of products manufactured and shipped, the mix of products sold and the shipping channel used. Royalties, software costs, license costs and project abandonment. Royalties, software costs, license costs and project abandonment includes royalties paid to software licensors, software amortization and amortization of non-cash charges related to warrants and rights to acquire our common stock issued to certain production companies. These costs will be affected in particular periods by many factors, including the specific terms or agreements under which royalties are paid to third parties, the commercial acceptance of products, the cost of developing a product and the timing of stock and warrants issued pursuant to the terms of our license agreements as described below. Our agreements with licensors and developers generally require us to make advance royalty payments and pay royalties based on product sales, which may have guaranteed minimum payments. Prepaid royalties are amortized commencing upon the product release at the greater of the contractual royalty rate based on actual product sales, or the ratio of current revenues to total projected revenues. We evaluate the future recoverability of prepaid royalties on a quarterly basis and expense costs if and when they are deemed unrecoverable. We cannot assure you that the sales of products for which these royalties are paid or guaranteed payments are made will be sufficient to cover the amount of these required payments. Commencing upon product release, we amortize capitalized software development costs. We capitalize software development costs subsequent to establishing technological feasibility of a title. Technological feasibility is evaluated on a product-by-product basis. For products where proven game engine technology exists, this may be early in the development cycle. Prior to establishing technological feasibility, software development costs are expensed to research and development, and to cost of revenues subsequent to establishing technological feasibility. The following criteria is used to evaluate recoverability of software development costs: historical performance of comparable products; the commercial acceptance of prior products released on a given hardware platform; orders for a product prior to its release and actual development costs of a product as compared to forward-looking projections. Amortization of software development costs is based on the greater of the proportion of current revenues to total projected revenues or the straight-line method over the estimated product life, generally three to six months. We analyze all of our capitalized costs quarterly and we take write-offs when, based on our estimates, future individual product revenues will not be sufficient to recover our investment. - -------------------------------------------------------------------------------- 23 29 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- Pursuant to a license agreement with Franchise Films, we are obligated to issue 68,738 shares of our common stock after the release of any film for which we elect to produce interactive entertainment software products, up to 10 films or 687,375 shares of common stock. To date, we have elected to produce titles for three films and have issued 68,738 shares under this agreement for an aggregate value of $746,000. We are required to issue these shares when the films are released and will then incur a non-cash charge. If the software product is released after the release of the film, we will amortize the non-cash charge over the life of the product, which is typically between three and six months. If the software product is released prior to the release of the film, we will at each interim period assess whether it is probable that the value of the shares issued is recoverable through future sales of the product to which it relates. If this is probable, the non-cash charge will be amortized to licensed costs over the life of the product. In the alternative, we will expense the non-cash charge at the time of the issuance of the shares if it is not probable that the value of the shares issued is recoverable through future sales of the product to which these shares relate. We cannot estimate the aggregate dollar amount of these future non-cash charges as they are based on our share price at a future point in time, but they may be substantial. The non-cash charges on the initial shares issued is expected to be incurred in the second and third quarters of fiscal 2002. In addition, in connection with the issuance of warrants pursuant to a license agreement with Spyglass Entertainment, we incurred a non-cash charge of $354,000, which will be amortized on a straight-line basis over five years. This amortization commenced in October 2000. In connection with these warrants, a further non-cash charge of $556,000 will be amortized over a period which is expected to be between three to six months, commencing on the release of the subject titles, expected to be the first or second fiscal quarter of 2003. In addition, pursuant to an August 2001 amendment to our master purchase order assignment agreement with an affiliate of Transcap Associates, Inc. and the execution of a $7.0 million factoring arrangement with an affiliate of Transcap, we issued Transcap a warrant to purchase 100,000 shares of our common stock at an exercise price equal to the initial public offering price. In connection with this issuance, we incurred a non-cash charge of $806,000 based upon an assumed initial public offering price of $13.00. This charge is subject to remeasurement up to the date of this offering and is being amortized on a straight-line basis through March 2002, which is the remaining term of the agreement. Each of these charges will affect our gross margins and profitability. RESEARCH AND DEVELOPMENT Research and development expenses relate to the design and development of new interactive entertainment software products. These expenses generally consist of salaries, related expenses for engineering personnel and third-party development costs. We will continue to develop our products both internally and through third parties. In absolute dollars we expect to see increases in research and development expense as we expand our product offerings. SALES AND MARKETING Sales and marketing expenses consist primarily of salaries and related expenses for our direct sales force and marketing personnel, commissions to independent sales staff, marketing programs and advertising campaigns. In absolute dollars, we expect to see a significant increase in sales and marketing expense as revenues increase and we expand our product offerings and international presence. GENERAL AND ADMINISTRATIVE General and administrative expenses consist primarily of salaries and related expenses for finance and other administrative personnel, facilities and occupancy charges, professional fees and bad debt expense. We expect our general and administrative expenses to increase in absolute dollars as we expand our staff, build our infrastructure, grow our business and incur costs associated with being a public company. As a percentage of revenue, we expect to see a reduction in general and administrative expenses as our revenues increase. AMORTIZATION OF DEFERRED STOCK COMPENSATION Amortization of deferred stock compensation consists of deferred compensation expenses relating to stock option grants to employees. Deferred compensation represents the difference between the deemed fair market value of our common stock at the grant date and the exercise price of the related stock options. Deferred compensation is represented as a reduction of stockholders' equity and amortized, using a multiple option award valuation and - -------------------------------------------------------------------------------- 24 30 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- amortization approach, over the vesting periods of the options, which is generally four years. We currently expect to amortize $1.3 million during fiscal 2002, $553,000 during fiscal 2003, $256,000 during fiscal 2004 and $61,000 during fiscal 2005. OTHER EXPENSE, NET Other expense, net consist mostly of interest expense net of interest income. We expect to be able to negotiate more favorable credit terms after this offering and therefore expect to see a net improvement in other expense, net in the future. REDEEMABLE CONVERTIBLE PREFERRED STOCK DIVIDEND Beneficial conversion charges arise in connection with financing arrangements where we have issued convertible redeemable preferred stock on which we have determined that there is a beneficial conversion feature, as they are convertible into shares of our common stock at a discount to the deemed fair market value of the common stock at the commitment date, which is generally the date of issuance. Depending on the nature and purpose of the arrangement, we value the beneficial conversion feature by subtracting the related effective conversion price from the deemed fair value of our common stock, and then multiplying the difference by the number of shares of common stock that would be issued upon conversion. The value of the beneficial conversion feature is limited to the relative fair value of the convertible instrument. We record as a deduction of stockholders' equity the value of the beneficial conversion feature and accretes this value over the expected period that the redeemable convertible preferred stock becomes convertible. In May 2001, we issued 245,659 shares of our Series C Preferred Stock for approximately $5.5 million. These shares are convertible into 1,154,597 shares of our common stock. Under the terms of our Series C Preferred Stock agreement, the redemption feature will terminate and the shares will convert into our common stock upon completion of this offering. In the quarter ended June 30, 2001, we recorded a non-cash charge of approximately $5.5 million relating to the beneficial conversion feature of these securities. This represents the difference between the aggregate deemed fair value of the common stock into which the Series C Preferred Stock is convertible of $13.2 million, and the aggregate purchase price paid for issued shares of Series C Preferred Stock of $5.5 million, i.e. $7.7 million, limited to the gross purchase price paid for Series C Preferred Stock of $5.5 million in accordance with paragraph 6 of EITF 98-5 Accounting for Convertible Securities with Beneficial Conversion Features or Contingency Adjustable Conversion Ratios. - -------------------------------------------------------------------------------- 25 31 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- RESULTS OF OPERATIONS The following table sets forth as a percentage of net revenues our consolidated statements of operations data for the periods indicated. The consolidated financial information for the year ended June 30, 2001 and for the period from October 7, 1999 (inception) through June 30, 2000 is derived from our audited consolidated financial statements. Results for any interim period are not necessarily indicative of future operating results.
INCEPTION YEAR THROUGH ENDED JUNE 30, JUNE 30, 2000 2001 - --------------------------------------------------------------------------------------- Net revenues................................................ 100.0% 100.0% ----- ----- Cost and expenses: Cost of revenues: Cost of goods sold...................................... 58.6 58.5 Royalties, software costs, license costs and project abandonment............................................ 18.0 11.4 ----- ----- Total cost of revenues............................. 76.6 69.9 Research and development (1).............................. 18.9 4.2 Sales and marketing (1)................................... 9.6 16.9 General and administrative (1)............................ 51.6 7.9 Amortization of deferred stock compensation............... -- 2.4 ----- ----- Total costs and expenses........................... 156.7 101.3 ----- ----- Income (loss) from operations............................... (56.7) (1.4) Other expense, net.......................................... (1.6) (4.9) ----- ----- Net loss.................................................... (58.3) (6.3) Redeemable convertible preferred stock dividend............. -- (21.9) ----- ----- Net loss attributable to common stockholders................ (58.3)% (28.2)% ===== =====
(1) Excludes amortization of deferred stock compensation. NET REVENUES Net revenues were $25.4 million for the year ended June 30, 2001 and $1.4 million for the period from our inception through June 30, 2000. Net revenues arose primarily from sales of new products released during those periods. Our three largest customers collectively accounted for 43% of net revenues for the year ended June 30, 2001 as compared to 75% the period from inception through June 30, 2000. Our three largest customers for the year ended June 30, 2001 were Toys "R" Us, which accounted for 17% of net revenues, Wal-Mart, which accounted for 14% of net revenues and Target, which accounted for 12% of net revenues. For the period from inception through June 30, 2000, Blockbuster accounted for 49% of net revenues, Wal-Mart accounted for 16% of net revenues and KB Toys accounted for 10% of net revenues. To date, a substantial portion of our revenues has been derived from a limited number of products. Sales of our three POWERPUFF GIRLS titles accounted for 66% of net revenues for the year ended June 30, 2001. Sales of our BEAST WARS title accounted for 100% of net revenues for the period from inception through June 30, 2000. As we expand our product offerings in different periods, we expect that the percentage of total revenue from our largest product offerings will decrease. COST OF REVENUES Cost of goods sold were $14.8 million, or 58% of net revenues, for the year ended June 30, 2001 and $807,000, or 59% of net revenues, for the period from our inception through June 30, 2000. Financing costs associated with inventory acquisitions under financing arrangements are recorded as period costs and as such are classified as interest expense. The amount of interest expense associated with such financing arrangements and included in other expense - -------------------------------------------------------------------------------- 26 32 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- was $1.3 million for the year ended June 30, 2001. The increase in cost of goods sold was due to increased sales of product, and the improvement in cost of goods sold as a percentage of revenues was due primarily to a change in product mix, resulting in a higher percentage of sales of products which have lower contracted third-party royalty rates, offset by higher freight costs as a result of changed shipping channels. Royalties, software costs, license costs and project abandonment were $2.9 million, or 11% of net revenues, for the year ended June 30, 2001 and $248,000, or 18% of net revenues, for the period from our inception through June 30, 2000. The increase in costs was due to increased sales of product, and the improvement in costs as a percentage of revenues arose because of a change in product mix. RESEARCH AND DEVELOPMENT Research and development expenses were $1.1 million, or 4% of net revenues, for the year ended June 30, 2001 and $260,000, or 19% of net revenues, for the period from our inception through June 30, 2000. The increase was primarily the result of an increased headcount. In October 2000 we opened our internal development studio in London, England. Prior to opening this studio, all development was performed by third parties. SALES AND MARKETING Sales and marketing expenses were $4.3 million, or 17% of net revenues, for the year ended June 30, 2001 and $132,000, or 10% of net revenues, for the period from our inception through June 30, 2000. The increase was the result of increased advertising and marketing activities, along with an increase in commissions. GENERAL AND ADMINISTRATIVE General and administrative expenses were $2.0 million, or 8% of net revenues, for the year ended June 30, 2001 and $711,000, or 52% of net revenues, for the period from our inception through June 30, 2000. The increase was attributable to growth in headcount, professional fees, facility costs, bad debt expense and accounting fees. AMORTIZATION OF DEFERRED STOCK COMPENSATION Amortization of deferred stock compensation was $618,000, or 2% of revenues, for the year ended June 30, 2001 and zero for the period from our inception through June 30, 2000. Amortization of deferred stock compensation increased significantly in the quarter ended June 30, 2001 as a result of granting an increased number of stock options to employees and directors in the quarter and a subsequent revaluation of compensation expense related to such options granted. We did not grant any stock options prior to June 2000. OTHER EXPENSE, NET Other expense, net was $1.2 million for the year ended June 30, 2001 and $22,000 for the period from inception through June 30, 2000. Interest income was $58,000 for the year ended June 30, 2001 and $8,000 for the period from our inception through June 30, 2000. Interest income in each period relates to interest earned on funds deposited in money market accounts. Interest expense was $1.3 million, or 5% of net revenues, for the year ended June 30, 2001 and $39,000, or 3% of net revenues, for the period from our inception through June 30, 2000. Interest expense incurred during the period ended June 30, 2000 is comprised of interest incurred on promissory notes and through a purchase order funding arrangement with a finance company. The promissory notes were converted to redeemable convertible preferred stock in June 2000. Subsequent to this conversion, interest expense comprised primarily interest incurred through a purchase order funding arrangement with a finance company and through a commercial line of credit. Under the purchase order funding arrangement, we are required to pay interest expense based on amounts advanced by the finance company. A portion of the fees are dependent on the period it takes us to collect a portion of our accounts receivable. The increase in interest expense for the year ended June 30, 2001 was due to increased amounts advanced by the finance company due to the need to fund inventory required for increased sales during the year. - -------------------------------------------------------------------------------- 27 33 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- We had other income of $18,000 for the year ended June 30, 2001 and other income of $9,000 for the period from our inception through June 30, 2000. Other income for the year ended June 30, 2001 comprised exchange gains and for the period from inception to June 30, 2000 comprised rental income. REDEEMABLE CONVERTIBLE PREFERRED STOCK DIVIDEND In the quarter ended June 30, 2001, we recorded a non-cash charge of approximately $5.5 million relating to the beneficial conversion feature of shares of our Series C Preferred Stock issued in May 2001. QUARTERLY RESULTS OF OPERATIONS The following table presents our unaudited quarterly consolidated results of operations, in dollars and as a percentage of net revenues, for our six most recent fiscal quarters and the period from our inception through December 31, 1999. In the opinion of management, this unaudited financial information has been prepared on the same basis as the audited financial information, and includes all adjustments, consisting only of normal recurring adjustments, necessary to present this information fairly when read in conjunction with our consolidated financial statements and the related notes contained elsewhere in this prospectus. These operating results are not necessarily indicative of results of any future period.
INCEPTION THREE MONTHS ENDED THROUGH ---------------------------------------------------------------- DEC. 31, MAR. 31, JUN. 30, SEPT. 30, DEC. 31, MAR. 31, JUN. 30, 1999 2000 2000 2000 2000 2001 2001 CONSOLIDATED STATEMENT OF OPERATIONS DATA: (In thousands) - -------------------------------------------------------------------------------------------------------------------- Net revenues..................................... $ -- $ -- $1,377 $ 495 $10,717 $6,093 $ 8,046 ----- ----- ------ ----- ------- ------ ------- Costs and expenses: Cost of revenues: Cost of goods sold........................... -- -- 807 179 6,029 3,558 5,061 Royalties, software costs, license costs and project abandonment........................ -- -- 248 126 1,113 789 870 ----- ----- ------ ----- ------- ------ ------- Total cost of revenues.................. -- -- 1,055 305 7,142 4,347 5,931 Research and development (1)................... 32 101 127 114 318 231 410 Sales and marketing (1)........................ -- -- 132 252 1,844 1,138 1,058 General and administrative (1)................. 130 249 332 252 360 606 778 Amortization of deferred stock compensation.... -- -- -- -- 9 10 599 ----- ----- ------ ----- ------- ------ ------- Total costs and expenses................ 162 350 1,646 923 9,673 6,332 8,776 ----- ----- ------ ----- ------- ------ ------- Income (loss) from operations.................... (162) (350) (269) (428) 1,044 (239) (730) Other expense, net............................... (3) (2) (17) (7) (454) (491) (297) ----- ----- ------ ----- ------- ------ ------- Net income (loss)................................ (165) (352) (286) (435) 590 (730) (1,027) Redeemable convertible preferred stock dividend....................................... -- -- -- -- -- -- (5,540) ----- ----- ------ ----- ------- ------ ------- Net loss attributable to common stockholders..... $(165) $(352) $ (286) $(435) $ 590 $ (730) $(6,567) ===== ===== ====== ===== ======= ====== =======
(1) Excludes amortization of deferred stock compensation. - -------------------------------------------------------------------------------- 28 34 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - --------------------------------------------------------------------------------
THREE MONTHS ENDED ------------------------------------------------------------- JUNE 30, SEPT. 30, DEC. 31, MAR. 31, JUNE 30, AS A PERCENTAGE OF NET REVENUES (1) 2000 2000 2000 2001 2001 - ----------------------------------------------------------------------------------------------------------- Net revenues............................................ 100.0% 100.0% 100.0% 100.0% 100.0% --------- ----------- --------- -------- --------- Costs and expenses: Cost of revenues: Cost of goods sold.................................. 58.6 36.2 56.3 58.4 62.9 Royalties, software costs, license costs and project abandonment....................................... 18.0 25.5 10.4 12.9 10.8 --------- ----------- --------- -------- --------- Total cost of revenues......................... 76.6 61.7 66.7 71.3 73.7 Research and development.............................. 9.2 23.0 3.0 3.8 5.1 Sales and marketing................................... 9.6 50.9 17.2 18.7 13.1 General and administrative............................ 24.1 50.9 3.3 9.9 9.7 Amortization of deferred stock compensation........... -- -- 0.1 0.2 7.4 --------- ----------- --------- -------- --------- Total costs and expenses....................... 119.5 186.5 90.3 103.9 109.0 --------- ----------- --------- -------- ---------
- -------------------------------------------------------------------------------- 29 35 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - --------------------------------------------------------------------------------
THREE MONTHS ENDED --------------------------------------------------------- JUNE 30, SEPT. 30, DEC. 31, MAR. 31, JUNE 30, AS A PERCENTAGE OF NET REVENUES (1) 2000 2000 2000 2001 2001 - -------------------------------------------------------------------------------------------------------------------- Income (loss) from operations............................ (19.5) (86.5) 9.7 (3.9) (9.0) Other expense, net....................................... (1.2) (1.4) (4.2) (8.1) (3.7) -------- --------- -------- -------- -------- Net income (loss)........................................ (20.7) (87.9) 5.5 (12.0) (12.7) Redeemable convertible preferred stock dividend.......... -- -- -- -- (68.9) -------- --------- -------- -------- -------- Net loss attributable to common stockholders............. (20.7)% (87.9)% 5.5% (12.0)% (81.6)% ======== ========= ======== ======== ========
(1) As we had no revenues for the period from inception through December 31, 1999 and for the three months ended March 31, 2000, these periods are not presented. NET REVENUES We sold our first product, BEAST WARS, in the quarter ended June 30, 2000. Our second product offering was not released until late in the quarter ended September 30, 2000 and this, combined with low seasonal demand, reduced quarterly net revenues for the quarter ended September 30, 2000. In the quarter ended December 31, 2000 we introduced six additional products, including two POWERPUFF GIRLS offerings which, in combination with holiday seasonal demand, resulted in significantly increased net revenues during the quarter. As expected, demand for product decreased in the quarter ended March 31, 2001, the quarter after the holiday season, resulting in reduced net revenues in the quarter. In the quarter ended June 30, 2001, we released three new products. RESEARCH AND DEVELOPMENT Prior to the quarter ended December 31, 2000, we developed products solely through third parties. In the quarter ended December 31, 2000, we opened our internal development studio, resulting in an increase in research and development costs. In the quarter ended December 31, 2000, we incurred an expense of $125,000 relating to a performance bonus paid to a third-party developer. This expense was not repeated in the quarter ended March 31, 2001. Research and development expenses increased in the quarter ended June 30, 2001 as a result of increased headcount and outside service costs. SALES AND MARKETING Sales commissions and marketing expenses grew significantly in the quarter ended December 31, 2000 as we actively promoted our products during the holiday season. Promotion decreased in the first and second calendar quarters of 2001 and sales and marketing expenses decreased. GENERAL AND ADMINISTRATIVE Special professional and legal expenses were the cause of the increase in general and administrative costs in the quarter ended June 30, 2000. We do not expect to incur these costs again in the future. A portion of these expenses were accounting fees incurred in anticipation of our first year-end audit which was performed during this quarter. Additionally, we paid $81,000 to consultants who assisted us with an evaluation of financing possibilities that we ultimately did not pursue. With the exception of these special expenses, general and administrative expenses increased gradually over each quarter as we expanded our infrastructure. AMORTIZATION OF DEFERRED STOCK COMPENSATION Amortization of deferred stock compensation increased significantly in the quarter ended June 30, 2001 as a result of granting an increased number of stock options to employees and directors in the quarter and a subsequent revaluation of compensation expense related to such options granted. - -------------------------------------------------------------------------------- 30 36 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- OTHER EXPENSE, NET Significant purchase order funding charges were the cause of the significant expense increase in other expense, net in the quarters ended December 31, 2000 and March 31, 2001. REDEEMABLE CONVERTIBLE PREFERRED STOCK DIVIDEND In the quarter ended June 30, 2001, we recorded a non-cash charge of approximately $5.5 million relating to the beneficial conversion feature of shares of our Series C Preferred Stock issued in May 2001. LIQUIDITY AND CAPITAL RESOURCES From inception we have financed our operations primarily through the private sale of equity securities, cash generated from the sale of our products, a product financing arrangement with a finance company, the issuance of promissory notes to stockholders, a commercial line of credit and short-term liabilities. Net cash used in operating activities was $10.3 million for the year ended June 30, 2001 and $1.7 million for the period from our inception through June 30, 2000. For these periods, net cash used in operating activities was the result of net losses and increases in operating assets. Net cash used in investing activities was $2.2 million for the year ended June 30, 2001 and $91,000 for the period from our inception through June 30, 2000. Net cash used in investing activities during the year ended June 30, 2001 consisted primarily of issuance costs in connection with this offering and purchases of property and equipment. Net cash used in investing activities during the period from our inception through June 30, 2000 consisted of the purchase of property and equipment. Net cash provided by financing activities was $13.7 million for the year ended June 30, 2001 and $2.7 million for the period from our inception through June 30, 2000. Financing for the year ended June 30, 2001 consisted primarily of the sale of redeemable convertible preferred stock, net borrowings on finance agreements and a line of credit with our bankers. Financing for the period from our inception through June 30, 2000, consisted primarily of the sale of common stock, redeemable convertible preferred stock, promissory notes and net borrowings on finance agreements. In October 1999, we issued 580,962 shares of common stock to our principal stockholder at a price of $0.001 per share. Also, in October 1999, we issued 274,950 shares of common stock at $0.11 per share to consultants in exchange for services performed valued at approximately $30,000. In each of November 1999 and January 2000, we issued our principal stockholder convertible promissory notes in the principal amount of $500,000, and in May 2000 issued him an additional convertible promissory note in the principal amount of $47,000 for operating capital. Each note bore interest at 7% per annum with principal and accrued interest due on demand after one year from the date of issuance. Each note was automatically convertible into shares of our Series A Preferred Stock upon the initial closing of our Series A Preferred Stock financing. In June 2000, the notes were converted and our principal stockholder was issued 482,625 shares of our Series A Preferred Stock for $1.0 million; these shares are convertible into 2,268,338 shares of our common stock. In June 2000, inclusive of shares issued to our principal stockholder upon the conversion, we sold and issued 976,220 shares of our Series A Preferred Stock for $2.1 million; these shares are convertible into 4,588,234 shares of our common stock. In addition, at the same time we issued the Series A Preferred Stock, we issued 614,060 shares of our common stock at $0.11 per share for $59,000 in cash and for services valued at $7,000. In December 2000, we sold and issued 294,620 shares of our Series B Preferred Stock for $5.2 million; these shares are convertible into 1,384,714 shares of our common stock. In May 2001, we sold and issued 245,659 shares of our Series C Preferred Stock for $5.5 million; these shares are convertible into 1,154,597 shares of our common stock. In February 2000, we entered into a master purchase order assignment agreement with Transcap Associates, Inc., whereby we assign customer purchase orders to Transcap and request that Transcap purchase finished goods to fulfill such customer purchase orders. Our obligations under the agreement are secured by our assets and purchase order accounts receivable, and guaranteed by our President and Chief Executive Officer. Under the agreement, we assign - -------------------------------------------------------------------------------- 31 37 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- purchase orders to Transcap as collateral. The agreement required a security deposit of $90,000 to be made by us to Transcap and specified that Transcap's funding commitment with respect to a purchase order shall not exceed 60% of the retail purchase order price. We are required to pay Transcap's expenses under the contract, a deal fee comprising a transaction and initiation fee equal to 5% of the face amounts of letters of credits issued or other funds advanced by the finance company, a daily maintenance fee of 0.067%, a materials advance fee at prime rate plus 4%, and a late payment fee where applicable. Outstanding borrowings under the agreement are collateralized by our inventory, accounts receivable, fixed assets and intangible assets. Under the initial terms of the agreement, Transcap's aggregate outstanding funding was limited to $1.0 million and the term of the agreement was 12 months, ending on February 25, 2001. In September 2000, the agreement was amended increasing the maximum outstanding funding to $5.0 million. In December 2000, the agreement was further amended extending the term to March 31, 2002. In August 2001, the agreement was amended increasing the maximum outstanding funding to $10 million. In August 2001, the agreement was further amended, decreasing the initiation fee to 3% until the earlier of the termination of the agreement or December 31, 2001 if this offering has not occurred by that date. At such time, we also entered into a $7.0 million factoring arrangement with an affiliate of Transcap pursuant to which we are entitled to sell to the factor eligible accounts receivable. During the period of time that the account receivable remains unpaid, we are obligated to pay the factor interest on the unpaid amount at the prime rate plus 4%, plus a daily maintenance fee of 0.067%. If an eligible account purchased by the factor is not paid in full within the earlier of 75 days after the date of purchase by the factor or 15 days following the invoice due date, we are required to repurchase the eligible account. The repurchase price is equal to the unpaid invoice amount plus interest at the prime rate plus 4% for the period from the date of purchase by the factor to date of repurchase by us, plus a daily maintenance fee of 0.067%. All amounts due under the factory arrangement are guaranteed by our President and Chief Executive Officer. In connection with these August transactions we issued Transcap a warrant to purchase 100,000 shares of our common stock at an exercise price equal to the initial public offering price. As of June 30, 2001, the amount outstanding under this agreement was $4.2 million. In November 2000, we entered into an agreement with our bankers whereby they would provide us with a $1.0 million commercial line of credit, repayable on demand. The interest rate on amounts drawn down was at the bank's prime interest rate plus 3% and was payable monthly. The line of credit was secured by restricted cash being held in a money market account with the same bank. In May 2001, all sums borrowed were repaid and the line of credit was terminated. As of June 30, 2001, we had cash and cash equivalents of $2.2 million. As of June 30, 2000, we had cash and cash equivalents of $908,000. Capital expenditures were $421,000 for the year ended June 30, 2001, and $91,000 for the period from our inception through June 30, 2000. We did not have any material commitments for capital expenditures at any of those dates. Our principal commitments at June 30, 2001 comprised operating leases, guaranteed royalty payments and contractual marketing commitments. At that date, we had commitments to spend $763,000 under operating leases, prepay $1.3 million for royalties under agreements with various content providers and spend $4.1 million in advertising on the networks and websites of these content providers. Of these amounts, $2.7 million must be paid no later than June 30, 2002. Guaranteed royalty payments will be applied against any royalties that may become payable to the content providers. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK We are exposed to various market risks, including changes in foreign exchange rates and interest rates. Market risk is the potential loss arising from changes in market rates and prices. - -------------------------------------------------------------------------------- 32 38 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- FOREIGN CURRENCY EXCHANGE RATE RISK Currently, 90% of our net revenues and 85% of our operating expenses are denominated in U.S. dollars. Remaining expenses are mostly denominated in British pounds or the Euro and consequently we are currently exposed to fluctuations in the U.S. dollar to British pound and Euro exchange rates. We estimate that a 10% change in foreign exchange rates would impact reported operating results by less than $250,000. Accordingly, we have not entered into any hedging arrangements. As we expand our international operations, revenues will be generated and more operating expenses will be incurred in currencies other than the US dollar, which will increase potential exchange rate risk. We anticipate we will enter into customary hedging arrangements to reduce this risk. INTEREST RATE RISK We do not consider our cash and cash equivalents to be subject to interest rate risk due to the short maturities of the instruments in which we have invested. We are currently exposed to interest rate risk on our product financing arrangement with a finance company. We do not enter into derivatives or other financial instruments for trading or speculative purposes. We estimate that a 10% increase in interest rates would impact our results of operations by $130,000 for the year ended June 30, 2001 and $2,000 for the period from inception through June 30, 2000. INFLATION Inflation has not had a material adverse effect on our results of operations; however, our results of operations may be materially and adversely affected by inflation in the future. RECENT ACCOUNTING PRONOUNCEMENTS In June 1998, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standard No. 133 ("SFAS No. 133"), "Accounting for Derivative Instruments and Hedging Activities." This statement requires companies to record derivatives on the balance sheet as assets and liabilities, measured at fair value. Gains and losses resulting from changes in the values of those derivatives would be accounted for depending on the use of the derivative and whether it qualifies for hedge accounting. SFAS No. 133 was effective for us beginning in the first quarter of fiscal 2001 and did not have a significant impact on our consolidated financial statements. In December 1999, the Securities and Exchange Commission issued Staff Accounting Bulletin No. 101 ("SAB 101"), "Revenue Recognition in Financial Statements." SAB 101 summarizes certain of the staff's views in applying generally accepted accounting principles in the United States to revenue recognition in financial statements and provides interpretations regarding the application of generally accepted accounting principles to revenue recognition where there is an absence of authoritative literature addressing a specific arrangement or a specific industry. SAB 101 was effective for our company in the fourth quarter of fiscal 2001. The adoption of the revenue recognition practices prescribed by the guidance in SAB 101 did not have a material effect on our consolidated financial statements. In March 2000, the FASB issued Financial Accounting Standards Board Interpretation No. 44, Accounting for Certain Transactions Involving Stock Compensation ("FIN 44"), an interpretation of Accounting Principles Board Opinion No. 25 ("APB No. 25"). FIN 44 clarifies the application of APB No. 25 for various issues, specifically: + The definition of an employee, + The criteria for determining whether a plan qualifies as a noncompensatory plan, + The accounting consequence of various modifications to the terms of a previously fixed stock option or award, and + The accounting for an exchange of stock compensation awards in a business combination. FIN No. 44 was effective July 1, 2000, but certain conclusions cover specific events that occur after either December 15, 1998 or January 12, 2000. The impact of FIN 44 did not have a material effect on our consolidated financial statements. - -------------------------------------------------------------------------------- 33 39 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - -------------------------------------------------------------------------------- In June 2001, the FASB issued SFAS No. 141, "Business Combinations," and SFAS No. 142, "Goodwill and Other Intangible Assets." SFAS No. 141 requires that all business combinations initiated after June 30, 2001 be accounted for under the purchase method and addresses the initial recognition and measurement of goodwill and other intangible assets acquired in a business combination. SFAS No. 142 addresses the initial recognition and measurement of intangible assets acquired outside of a business combination and the accounting for goodwill and other intangible assets subsequent to their acquisition. SFAS No. 142 requires that intangible assets with finite useful lives be amortized and that goodwill and intangible assets with indefinite lives not be amortized, but instead be tested at least annually for impairment. SFAS No. 142 was effective for us beginning in the first quarter of fiscal 2002 and is not expected to have a significant impact on our consolidated financial statements because we did not carry any goodwill or other intangibles on our balance sheet as of June 30, 2001. - -------------------------------------------------------------------------------- 34 40 - -------------------------------------------------------------------------------- Business COMPANY OVERVIEW We are a rapidly emerging developer and publisher of interactive entertainment software. We license properties from a wide variety of sources including entertainment and media companies and we publish interactive entertainment software based on their motion picture, sports and television properties. We currently publish interactive entertainment software for many of the most popular hardware platforms, such as Sony's PlayStation, Nintendo 64 and Nintendo's Game Boy Color and Game Boy Advance, as well as for portable handheld devices manufactured by Palm and Handspring. We plan to develop and publish interactive entertainment software for next generation hardware platforms such as Sony's PlayStation 2, NINTENDO GAMECUBE and Microsoft's Xbox, as well as for other portable handheld devices and personal computers ("PCs"). Our interactive entertainment software is primarily based on properties that have consumer recognition and appeal. We have secured license agreements with AOL Time Warner's Cartoon Network and Sports Illustrated for Kids, Spyglass Entertainment Group and Franchise Films, as well as other entertainment and media property owners, and are developing titles based on their popular entertainment and media properties for targeted age groups. We develop titles that can be leveraged through sequels and extensions and across multiple hardware platforms. We sell our products to mass merchandisers such as Toys "R" Us, Target, Kmart, Wal-Mart and Best Buy, and specialty chains such as Babbages, Etc. and Electronics Boutique and independent distributors. INDUSTRY BACKGROUND According to Euromonitor, worldwide sales of consoles, console games and PC games grew from $17.0 billion in 1996 to $26.9 billion in 2000. Forrester predicts that, in the United States alone, interactive entertainment console manufacturers and software publishers will generate $29.4 billion in revenues in 2005. Of that $29.4 billion, Forrester estimates that $12.8 billion will be generated by sales of console game software alone. According to International Data Corporation, or IDC, the majority of video game households own more than one video game system. For additional information regarding these statistical sources and International Development Group, or IDG, see "-- Sources of Statistical Data." The interactive entertainment industry includes three distinct forms of hardware systems: + portable handheld devices, such as Nintendo's Game Boy and its recently released Game Boy Advance; + in-home television connected hardware platforms, such as Nintendo's Super Nintendo Entertainment System and Nintendo 64 and Sony's PlayStation and PlayStation 2 and announced consoles such as NINTENDO GAMECUBE and Microsoft's Xbox; and + personal computers. According to IDG, 15.7% of all interactive entertainment software dollar sales for 2000 were attributable to products for portable handheld devices, 59.5% for in-home hardware platforms and 24.8% for PCs. Historically, the interactive entertainment industry has experienced significant transitions every four to five years. The hardware platform and video game console market has evolved from 8- and 16-bit technology in the early 1980s to 32- and 64-bit technology in the past few years. The terms 8-, 16-, 32- or 64-bit technology means that the central processing unit, or chip, on which the software operates is capable of processing data in 8-, 16-, 32- or 64-bit units. Larger per bit capacity translates into a faster and potentially more realistic game experience. The transition to 128-bit, or next generation, hardware platforms has already begun with the recent introduction of Sony's PlayStation 2. - -------------------------------------------------------------------------------- 35 41 BUSINESS - -------------------------------------------------------------------------------- INDUSTRY TRENDS Currently, there are a number of trends affecting the interactive entertainment industry. We believe that the following should result in increased opportunities for interactive entertainment software developers and publishers: + Hardware platform technology evolution. Consoles that employ 128-bit technology will provide faster and more complex images and more lifelike animation and sound than their 32- and 64-bit predecessors. Additionally, most handheld devices will employ 32-bit technology instead of 8-bit technology. Titles published for these new hardware platforms should appeal to the core population of video game players and attract new players. The transition to 128-bit hardware platforms is expected to drive demand for titles published for these next generation systems. Historically, during hardware transition periods, consumer demand for titles compatible with next generation hardware systems is high and the supply of such titles is low. In addition, licensors and third-party developers look for new and additional partners to develop titles. We believe that experienced software developers and publishers having access to popular properties are well positioned to take advantage of these opportunities. + Introduction of next generation hardware platforms drives software demand. Historically, as next generation hardware platforms have been introduced, the number of software units sold per hardware platform sold has increased. This ratio is known as the tie ratio. Increasing tie ratios represent an upward trend in units of software products purchased for each successive generation of hardware platforms. According to IDG, these ratios had steadily increased from approximately 6:1 for 16-bit hardware platforms to approximately 9:1 for the 32-bit Sony PlayStation in North America. If historical patterns are indicative of future tie ratios, interactive entertainment software developers and publishers should see an increasing demand for their products as new 128-bit next generation hardware platforms are introduced and gain wider acceptance. + Many next generation hardware platforms are DVD compatible and can access the Internet. Many of the 128-bit hardware platforms, such as Sony's PlayStation 2 and Microsoft's Xbox, will utilize a DVD software format and have the potential to serve as multi-purpose entertainment centers by doubling as a player for DVD movies and compact discs. Moreover, some next generation hardware platforms are expected to have online capability that will allow users to access the Internet. We believe these new systems will have cross-over appeal to a segment of the market that might not otherwise be inclined to purchase hardware platforms for game use alone, which will drive additional hardware and software sales. + Development of hardware platforms utilizing a disk-based software format. The increased use of disk-based software for new hardware platforms is expected to result in shortened order lead times, reduced inventory risk and gross margins that are typically greater than those achievable with cartridge-based systems. Quicker product manufacturing and greater pricing flexibility will allow software producers to adjust to market demands and introduce products to the marketplace more rapidly. In addition, the memory capacity of disks generally exceeds cartridges, allowing for enhanced graphic capabilities and more realistic game play. + Backward compatibility. Sony's PlayStation 2 and Nintendo's Game Boy Advance are both backward compatible, meaning that titles produced for the earlier version of the hardware platform may be used on the new hardware platform. We believe that backward compatibility may result in a smoother revenue transition for interactive entertainment software developers and publishers because the lag in consumer demand for products for existing hardware platforms that typically precedes the release of a next generation hardware platform may be diminished. + Broadening demographic appeal. According to IDC, a pattern has emerged in which male gamers appear to be slowly migrating away as the primary gamers of older platforms. Other household members -- in particular, females and younger children -- transition to become that platform's primary gamers. IDC reports that the percentages of households where the primary gamer is female for PlayStation, Nintendo 64 and Super Nintendo Entertainment System grew from 17.2%, 15.3%, and 22.6% in 1999 to 18.1%, 15.8%, 29.8% in 2000. According to Interactive Digital Software Association, or IDSA, 58% of all Americans who play video games most frequently are over the age of 18 and 43% of Americans who play video games are female. This demographic - -------------------------------------------------------------------------------- 36 42 BUSINESS - -------------------------------------------------------------------------------- expansion broadens opportunities for interactive entertainment software developers to produce titles with content focused on a specific sex or targeted age group. INDUSTRY CHALLENGES As the transition to next generation hardware platforms begins and the number of titles continues to rise, differentiation among developers and publishers will become increasingly important. This need is heightened by the fact that the market for interactive entertainment software products tends to be dominated by a limited number of successful titles that are typically based on popular properties with brand name recognition. In order to succeed in this market environment, we believe interactive entertainment software developers and publishers will need to: + identify and license brand name properties from a wide variety of sources; + develop a network of relationships with hardware platform manufacturers, mass merchandisers and other industry participants; + develop creative software both internally and using third-party interactive entertainment software developers with a proven track record of developing successful titles; + aggressively market and sell titles to retailers and through traditional and emerging distribution channels in both domestic and international markets; and + develop compelling titles for multiple hardware platforms. OUR APPROACH We develop and publish interactive entertainment software for multiple hardware platforms. We believe our ability to license popular properties, develop content with internal and third-party developers and distribute titles through our broad distribution channels provides us with significant opportunities. The following are the key elements of our business approach, which we believe address many of the challenges facing the interactive entertainment software industry. Development and promotion of titles based on properties with existing brand recognition. Since the best selling titles are often based on popular properties and existing brands, we strive to secure license agreements with the owners of popular entertainment and media properties. We have agreements to utilize properties from AOL Time Warner's Cartoon Network and Time Inc.'s Sports Illustrated For Kids, Spyglass Entertainment Group, Franchise Films and other entertainment and media property owners. We believe that developing interactive entertainment software titles with brand name recognition and sustainable consumer appeal may allow us to promote titles over an extended period of time through the release of sequels and extensions and to re-release products at different price points. We work closely with the property owners to develop follow-on products based on both existing and new brands with the potential to become successful titles. We focus on developing titles that target specific segments of the interactive entertainment industry. We identify popular properties that have the potential to become successful titles, evaluate the demographic segment that the titles are most likely to appeal to and begin the development process. In this manner, we are able to develop titles with brand name recognition that appeal to specific segments of the interactive entertainment software market. We are currently developing titles in the following categories: + Adventure. We target game players ages 10 and under, with titles based on properties that appeal to this demographic segment. We have developed and are developing titles based on the popular television cartoons POWERPUFF GIRLS and DEXTER'S LABORATORY distributed by AOL Time Warner's Cartoon Network. We coordinate product release and promotion with the Cartoon Network and selected mass merchandisers to enhance consumer acceptance; - -------------------------------------------------------------------------------- 37 43 BUSINESS - -------------------------------------------------------------------------------- + Sports. We target game players age nine to 14, as well as the casual sports fan. We believe that existing sports games appeal more to the older core video game playing and sports audiences than the younger game player. With AOL Time Warner's Sports Illustrated for Kids, we are developing a line of sports-based titles that we believe will appeal to this audience; and + Action. We target the mass market with titles based on content originated by film production companies. We have entered into agreements with Spyglass Entertainment Group, producer of the upcoming motion picture REIGN OF FIRE, and Franchise Films, producer of the recent Warner Bros. motion picture DRIVEN, to create games based on these films. We work with our film company content providers early in the development process to produce titles closely aligned with the film's plot and endeavor to coordinate product release concurrently with that of the film. Management experience. Our executive management team has substantial experience in the interactive entertainment software industry. Key members of our management team have been founders and executives of other interactive entertainment software companies and in their current and past service have successfully identified and secured licenses for popular properties, established relationships with key third-party product developers and successfully negotiated distribution arrangements with multiple retail channels. In addition, our team has developed strong working relationships with hardware platform manufacturers, which we believe provide substantial benefits in the product approval and development process. We believe that established relationships with retailers and a track record for publishing top-selling titles are important factors that affect our ability to gain access to highly competitive shelf space. We believe our executive management team has the necessary experience to capitalize on opportunities afforded by the industry transition to next generation hardware platforms. Strategic management of product development. To maintain our position in the competitive interactive entertainment software industry, we devote significant resources to the internal development of products and to securing relationships with third-party interactive entertainment software developers with proven track records of developing successful titles. Product design and development is a joint effort among our producers and our marketing and sales groups. Members of each group have unique expertise, which allows for the creation of ideas that combine the latest technologies, current and future trends, and consumer and retailer demands. We believe this enables us to better manage our internal and external production efforts thereby allowing for greater efficiency and improved predictability in the development process. Broad distribution channels. Our sales and marketing efforts are designed to broaden product distribution and increase the penetration of our products in domestic and international markets. We further seek to leverage and expand our channels of distribution in order to reach a larger number of consumers in the retail, direct and online markets, both domestically and internationally. We sell our products to mass merchandisers such as Toys "R" Us, Target, Kmart, Wal- Mart and Best Buy, specialty chains such as Babbages, Etc. and Electronics Boutique and independent distributors. Hardware platform flexibility. While we have the ability to develop products for all current hardware platforms, our development efforts focus on specific hardware platforms for specific demographics. For example, our initial titles targeted at the 14 and under audience have primarily focused on the Nintendo Game Boy Color hardware platform since this audience primarily uses that platform. In contrast, games under development for the mass market will be offered on a wider range of hardware platforms since we believe there will be a widespread demographic appeal for these products. In addition, we leverage our more popular titles across multiple hardware platforms that have sufficient installed bases and appropriate demographics for development to be successful. For example, follow-on products for POWERPUFF GIRLS, scheduled for release in 2002 and 2003, will be developed for NINTENDO GAMECUBE and Sony's PlayStation 2, as well as for PCs. We believe this approach reduces both our reliance on any one hardware platform and the risks associated with product development. - -------------------------------------------------------------------------------- 38 44 BUSINESS - -------------------------------------------------------------------------------- STRATEGY Our objective is to enhance our position as a developer and publisher of interactive entertainment software. In pursuing our business strategy we intend to: Focus on next-generation hardware platforms to increase market share. We continue to develop products for hardware platforms that have or we expect will have large installed bases. We assess the potential acceptance and success of emerging hardware platforms and the anticipated continued viability of existing hardware platforms based on many factors, including the number of competing titles, the tie ratio, the current and potential installed base, the rate of sales and the cost and timing of developing titles for that hardware platform. We work with hardware companies to coordinate the release of our new titles with the launch of the next generation hardware platforms for which those titles are designed. Over the next 12 to 24 months, we plan to release titles for NINTENDO GAMECUBE, Nintendo's Game Boy Advance, Sony's PlayStation 2 and Microsoft's Xbox. Continue to develop relationships with owners of popular content properties. We will continue to pursue licensing relationships with a wide variety of sources for well-known properties. We also plan to continue to work closely with licensors to engage in efficient marketing efforts that capitalize on promotional campaigns that precede the launch of our titles. We believe that we are an attractive partner for licensors as evidenced by our recent agreement with Time Inc.'s Sports Illustrated For Kids. We seek to license popular content to produce titles with appeal among a wide range of demographics for use with a variety of existing and next generation hardware platforms. Expand international distribution. We believe we can further expand our presence in foreign markets. We have leased space for our office in Bath, England to enhance our international presence. We plan to increase our penetration in international markets by licensing our titles to publishers in these markets, entering into distribution agreements and establishing direct distribution capabilities. To further grow in global markets, we may also develop titles that are customized for consumer preferences in these foreign markets. Continue to build internal and external development capabilities. We intend to continue to devote significant resources to expanding existing relationships and securing new relationships with interactive entertainment software developers with proven track records of developing successful titles. We believe that our success as a publisher of well known titles will help us to continue to attract and retain dependable, creative and innovative developers to enhance product design creativity and reduce risks associated with dependence on a limited number of developers. - -------------------------------------------------------------------------------- 39 45 BUSINESS - -------------------------------------------------------------------------------- PRODUCTS The following tables set forth our existing titles and those anticipated to be released in the next 12 months. We cannot assure you that any of the titles anticipated for release in the next 12 months will be released when scheduled, if ever. EXISTING TITLES
- --------------------------------------------------------------------------------------------------------------- TITLE GENRE HARDWARE PLATFORM DATE OF RELEASE - --------------------------------------------------------------------------------------------------------------- Beast Wars Action Nintendo 64/PlayStation June 2000 Contender 2 Action PlayStation October 2000 Jimmy White's Cueball 2 Sports PlayStation October 2000 Bad Mojo Jojo (Powerpuff Girls) Adventure Game Boy Color November 2000 Paint the Townsville Green (Powerpuff Girls) Adventure Game Boy Color November 2000 Sgt. Rock Action Game Boy Color November 2000 Dexter's Laboratory: Robot Revenge Adventure Game Boy Color December 2000 Yogi Bear Adventure Game Boy Color December 2000 Battle Him (Powerpuff Girls) Adventure Game Boy Color February 2001 Xtreme Wheels Sports Game Boy Color April 2001 Fire Pro Wrestling Sports Game Boy Advance June 2001 Hot Potato Puzzle Game Boy Advance June 2001 Strike it Rich Trivia Palm/Handspring July 2001 CardTopia Card Palm/Handspring July 2001 - ---------------------------------------------------------------------------------------------------------------
ANTICIPATED TITLES
- ----------------------------------------------------------------------------------------------------------------- TITLE GENRE HARDWARE PLATFORM - ----------------------------------------------------------------------------------------------------------------- Dexter's Laboratory Adventure Game Boy Advance/PlayStation/PC Driven Action PlayStation 2/Game Boy Advance/NINTENDO GAMECUBE Ecks v. Sever Action Game Boy Advance Powerpuff Girls Adventure Game Boy Advance/PlayStation/Nintendo 64/PC/ Playstation 2 Sports Illustrated For Kids: Baseball Sports Game Boy Advance/NINTENDO GAMECUBE Sports Illustrated For Kids: Basketball Sports Game Boy Advance/NINTENDO GAMECUBE Sports Illustrated For Kids: Football Sports Game Boy Advance/NINTENDO GAMECUBE Riding Spirits Sports PlayStation 2 3D Pro Wrestling Sports PlayStation 2 - -----------------------------------------------------------------------------------------------------------------
STRATEGIC RELATIONSHIPS We have entered into strategic relationships with entertainment and media companies that have developed well-known characters and brands and that are producing popular properties that are expected to form the basis of future products. The Cartoon Network. Between March 2000 and October 2000, we entered into three non-exclusive license agreements that give us the right to develop and distribute interactive entertainment software based on Warner Bros.' POWERPUFF GIRLS, DEXTER'S LABORATORY and YOGI BEAR properties on a multi-national basis. The POWERPUFF GIRLS, DEXTER'S LABORATORY and YOGI BEAR television shows are aired on AOL Time Warner's Cartoon Network. Under these agreements, we are obligated to pay royalties based on a percentage of net sales of the titles and are obligated to advertise and promote the titles on the Cartoon Network. - -------------------------------------------------------------------------------- 40 46 BUSINESS - -------------------------------------------------------------------------------- We believe that the Cartoon Network has significant brand awareness among six to 11 year olds. According to the Cartoon Network, their programs are viewed in 69 million homes around the world. We participate in promotional programs with the Cartoon Network and certain retailers who advertise on the Cartoon Network in connection with the release of our products. For example, our POWERPUFF GIRLS series of titles were co-promoted with on-air advertisements sponsored in part by the Cartoon Network and in-store displays with Toys "R" Us, Target, Best Buy, Sears, Circuit City, Electronics Boutique and Babbages, Etc. We believe this promotional campaign has helped us sell over 700,000 units of our three POWERPUFF GIRLS Game Boy Color titles since their initial launch in the fourth calendar quarter of 2000. We are developing additional titles based on the POWERPUFF GIRLS and DEXTER'S LABORATORY for existing and new hardware platforms. Franchise Films. In April 2000, we entered into a strategic arrangement with Franchise Films, Inc. Our agreement gives us the exclusive, first look right to review screenplays acquired by the studio, develop titles based on films produced from those screenplays and distribute them worldwide. Our agreement expires upon the later of three years or the theatrical release of the tenth film on which we base a product. Franchise Films has also agreed to provide us with free access to any publicity and advertising materials it prepares and granted us the right to use these materials to promote and advertise our products. Under the agreement, we agreed to pay Franchise Films royalties based on the net sales of the titles based on the films we select and issue 68,738 shares of our common stock following the theatrical release of each film for which we have developed a title, up to a maximum of 687,375 shares. Our title based upon the movie DRIVEN, which is the first property subject to the arrangement, is currently in production for Sony's PlayStation 2, Microsoft's Xbox and Nintendo's Game Boy Advance. DRIVEN, directed by Renny Harlin, the director of films such as DIE HARD 2 and DEEP BLUE SEA, is based on the CART racing circuit and has a cast that includes Sylvester Stallone, who also wrote the screenplay, and Burt Reynolds. Warner Bros. released DRIVEN in April 2001 and we plan a Fall 2001 release for our related title. Spyglass Entertainment Group. In October 2000, we entered into a strategic arrangement with Spyglass Entertainment Group, L.P., the studio that produced the film THE SIXTH SENSE. Our five-year agreement gives us an exclusive right of first refusal to develop titles based on films produced by the studio and to distribute them worldwide. In addition, Spyglass Entertainment Group has agreed to provide us with free access to any publicity and advertising materials it prepares and the right to use these materials to promote and advertise our titles. Under the agreement, we granted Spyglass Entertainment Group a warrant to purchase up to 470,000 shares of our common stock and agreed to pay the studio royalties based on the net sales of titles based on its films. We have commenced development on the first Spyglass Entertainment Group title, REIGN OF FIRE, for Sony's PlayStation 2 and Microsoft's Xbox. REIGN OF FIRE, scheduled for release in 2002, is being directed by Rob Bowman, who also directed AIRBORNE and THE X-FILES, and will star Christian Bale, Matthew McConaughey and Izabella Scorupco. Sports Illustrated For Kids. In May 2000, we signed a strategic arrangement with Time, Inc. for the development of titles utilizing the Sports Illustrated For Kids brand name. Our four-year, non-exclusive license gives us the right to publish titles based on popular sports that are appropriate for children ages seven to 17 and to distribute those titles on a multi-national basis. Our agreement gives us the right to access a portion of their subscriber base for market research purposes. Under the agreement, we are obligated to pay a royalty based on the gross wholesale price of the titles and advertise and promote the titles in the magazine. We believe that Sports Illustrated For Kids has significant brand awareness, especially for boys ages 10 to 14. According to Phillips Business Information, Sports Illustrated For Kids has a subscription base of 950,000 readers and a circulation of over one million. We are currently developing the first three titles under this collaboration for Nintendo's Game Boy Advance. The targeted sports are football, basketball and baseball, and we plan to release these titles between Fall 2001 and Spring 2002. SOFTWARE PRODUCT DESIGN AND DEVELOPMENT We believe our success will depend in large part on our ability to design and develop innovative interactive entertainment software based on popular content, design and develop sequels to our more popular products and offer - -------------------------------------------------------------------------------- 41 47 BUSINESS - -------------------------------------------------------------------------------- previously released products on additional hardware platforms. We pair members of our internal production staff with internal and external software developers who have varying design and development capabilities, which we believe provides us with flexibility to develop titles in a timely, cost-effective manner. Our software producers take responsibility for the selection of the title concept, evaluation of the capabilities of the software developer who will prepare the graphics, artwork and computer code for the title, and the publication, marketing and distribution of the completed title. The internal and external software developers are responsible for the completion of technical milestones such as creation of particular graphics, artwork and sound designs. TITLE PRODUCTION AND DEVELOPMENT Our in-house production staff includes eight software producers who are responsible for monitoring the progress of our 17 internal software developers as well as the independent third-party software developers with whom we contract to create titles. Our production staff evaluates the work of each of the internal and external software developers through design review, progress evaluation, milestone review and quality checks. Each milestone submission is reviewed by our in-house production staff to ensure compliance with the product's design specifications. Members of our in-house production staff and internal software development team currently work at our offices in San Jose, California and Bath, England, as well as at our internal software development studio in London, England. INTERNAL PRODUCT DEVELOPMENT Members of our internal production and development staff are organized into teams led by a producer and staffed with software developers who are responsible for such functions as game design, software programming, art design and sound design. We believe that this team approach promotes the creative and cooperative environment necessary to develop innovative and successful titles. To create a title internally, our software production staff first prepares a schedule and budget. Our internal software developers then complete the initial design and concept layout, computer graphic design, two-dimensional and three- dimensional artwork, programming, prototype testing, sound engineering and quality control. To successfully complete the production and development of our interactive entertainment titles, our internal software development team utilizes a variety of advanced hardware and software development tools, including sound compression utilities, clay modeling and video compression. When the development of the title is complete, and our internal production staff has confirmed that each design milestone has been met, we publish and ship the title to our distributors. We believe that the development process for an original, internally-developed product for a next generation hardware platform, typically takes 12 to 24 months. This process is shorter for existing products currently used on 32-bit and 64-bit hardware platforms. We believe that it takes approximately six to 12 months to develop an existing title as a product for a different hardware platform. EXTERNAL PRODUCT DEVELOPMENT When we elect to develop a concept or property externally, we contract with an independent third-party software developer to develop the title under the supervision of our internal software production staff. When we develop a title with an independent software developer, we select a title concept and then evaluate whether the independent developer has sufficient expertise to create the software code, animation and graphics for that title. After we evaluate the independent developer's capabilities and decide to produce that title with the developer, our production team prepares a budget, list of development milestones and a sales and marketing plan. The independent developer then begins to prepare the software code, graphics and animation for the title. When the final milestone has been met and our production staff is satisfied that the title is ready for publication, we publish, distribute and market the title. Our production staff also works with independent software developers to modify, or port, existing titles for distribution in a certain country or across additional platforms. When we decide to port an existing title in this manner, our internal production staff prepares a list of development milestones and a budget and marketing plan for the title. Our internal production staff then works with the independent software developer to ensure that the milestones are met and the title is ported to a new platform or readied for distribution to a new country. - -------------------------------------------------------------------------------- 42 48 BUSINESS - -------------------------------------------------------------------------------- Our agreements with independent software developers are typically entered into on a title-by-title basis and provide for the payment of the greater of a fixed amount or royalties based on actual sales. We generally pay independent software developers installments of the fixed advance based on the achievement of specific development milestones established by our production staff at the outset of the development process. Royalties in excess of the fixed advance are generally based on a fixed amount per unit sold. We generally obtain ownership of the software code and related documentation from our independent software developers. In instances where we do not retain sole ownership of the source code, the owner may use or license the code for development of other software products that may compete directly with our products and we may not have sufficient rights in the source code to produce derivative products. Upon completion of the development process, each title is play-tested by us and sent to the manufacturer for its testing, review and approval. Related artwork, user instructions, warranty information, brochures and packaging designs are also developed by third parties under our supervision. MARKETING, SALES AND DISTRIBUTION Our marketing, sales and distribution efforts are designed to broaden product distribution and increase the penetration of our products in domestic and international markets. We rely in part on the name recognition of the motion picture, sports and television cartoon properties on which our products are based to attract consumers and obtain shelf space from mass merchandisers. We supplement our domestic direct efforts with third-party distributors, and in the last year, we have increased our marketing, sales and distribution efforts in international markets through licensing and third-party distribution strategies. As of June 30, 2001, our sales and marketing staff consisted of seven employees, four of whom work in our San Jose, California headquarters and three of whom work in our Bath, England office. DOMESTIC ACTIVITIES Our domestic sales and marketing activities are directed by our Vice President of Sales and Marketing, who maintains contact with major retail accounts, manages the activities of our marketing department and oversees our independent regional sales representatives. Our domestic marketing department consists of two employees who develop and implement marketing programs and campaigns for each of our titles. In preparation for a product launch, our marketing activities may include print and cooperative retail advertising campaigns, game reviews in consumer and trade publications, pre-release giveaways, and retail in-store promotions including demonstrations, videos, over-size displays and posters. We have selectively included in our marketing efforts radio, television and Internet advertising campaigns. We also budget a portion of each of our product's sales and marketing budget for cooperative advertising and market development with retailers. Many of our titles are launched with a multi-tiered marketing campaign that is developed on an individual basis to promote product awareness and customer pre-orders. We sell our products primarily to mass merchandisers and, to a lesser extent, to third-party distributors. Our principal customers include Toys "R" Us, Target, Best Buy, Wal-Mart, Kmart, Babbages, Etc. and Electronics Boutique. Revenues from our three largest customers collectively accounted for approximately 43% of our net revenues for the year ended June 30, 2001 as compared to 75% from our three largest customers for the period from inception through June 30, 2000. Our largest customers for the year ended June 30, 2001 were Toys "R" Us which accounted for 17% of our net revenues, Wal-Mart which accounted for 14% of our net revenues and Target, which accounted for 12% of our net revenues. For the period from inception through June 30, 2000, Blockbuster accounted for 49% of our net revenues, Wal-Mart accounted for 16% of our net revenues and KB Toys accounted for 10% of our net revenues. We do not have any written agreements or other understandings with any of our customers that relate to future purchases, so our customers could reduce or terminate their purchases from us at any time. We sell our products to retailers and distributors through 59 independent regional sales representatives who operate on a commission basis. The sales staff is largely responsible for generating retail demand for our products by presenting new products to our customers in advance of the products' scheduled release dates. They do this by - -------------------------------------------------------------------------------- 43 49 BUSINESS - -------------------------------------------------------------------------------- providing technical advice with respect to the products and by working closely with retailers and distributors to sell the products. We typically ship our products within a short period of time after acceptance of purchase orders from distributors and other customers. Accordingly, we do not have a material backlog of unfilled orders and net sales in any quarter are substantially dependent on orders booked in that quarter. We seek to extend the life cycle and financial return of many of our products by marketing those products differently throughout the product's life. Although the product life cycle for each title varies based on a number of factors, including the quality of the title, the number and quality of competing titles, and in certain instances seasonality, we typically consider a title as back catalog six months after its initial release. We utilize marketing programs appropriate for the particular title, which generally includes progressive price reductions over time to increase the product's longevity in the retail channel as we shift advertising support to newer releases. We believe that we provide terms of sale comparable to competitors in our industry. In addition, we provide technical support for our products through our customer support department. To date we have not experienced any material warranty claims. We utilize an electronic data interchange with most of our major domestic customers to efficiently receive, process and ship customer product orders and to accurately track and forecast sell-through of our products to consumers in order to determine whether to order additional products from manufacturers. INTERNATIONAL ACTIVITIES Our international sales and marketing activities are currently conducted from our office located in Bath, England. Our international marketing activities are planned to include television advertising and publicity campaigns in interactive entertainment publications, magazines and newspapers. Our first four international titles were introduced in the quarter ended June 30, 2001 and we intend to continue to pursue our international sales by localizing our products for various international markets and releasing localized versions of many of our products simultaneously with the commercial release of corresponding titles in North America. We are also engaged in software development and production at our internal development studio in London, England. Although our international product development efforts have, to date, primarily consisted of the localization of existing products, we are currently designing and developing original products at our internal development studio. In February 2001, we entered into a two-year exclusive license agreement with Ubi Soft Entertainment S.A. ("Ubi Soft"), a French distributor of entertainment and educational multimedia, to distribute, market, and sell certain of our interactive software products in the Nintendo Game Boy Color format on a multi-national basis. The agreement also obligates Ubi Soft to make minimum purchases at a set price per title. In July 2001, we expanded our relationship with Ubi Soft and signed a distribution agreement establishing them as the exclusive distributor of all of our interactive entertainment software products across all hardware platform formats in France, Germany, Italy, Spain, Belgium, Luxembourg, the Netherlands, Austria, Switzerland, Finland, Norway, Denmark and Sweden. Under this agreement, we are obligated to pay a distribution fee based on a percentage of the net revenues from sales of all products in the territory. MANUFACTURING Nintendo and Sony are the sole manufacturers of the software products sold for use on their respective hardware platforms. We begin the manufacturing process by placing a purchase order for the manufacture of our products with Nintendo or Sony and opening either a letter of credit in favor of the manufacturer or utilizing our line of credit with the manufacturer. We then send software code and a prototype of the product to the manufacturer, together with related artwork, user instructions, warranty information, brochures and packaging designs for approval, defect testing and manufacture. Microsoft appoints approved third-party manufacturers to manufacture software for its hardware platform. Microsoft also offers us the opportunity to enter into one or more kit licenses, pursuant to which Microsoft would - -------------------------------------------------------------------------------- 44 50 BUSINESS - -------------------------------------------------------------------------------- license software development tools and hardware to assist us in the development of titles prior to sending these titles to authorized third-party manufacturers for replication. The amounts charged by the manufacturers include a manufacturing, printing and packaging fee, as well as a royalty for the use of the manufacturer's name, proprietary information and technology. All of these fees are subject to adjustment by the manufacturers at their discretion. Nintendo charges us a fixed amount for each cartridge that includes the royalty. This amount varies based, in part, on the memory capacity of the cartridges. Sony charges us a royalty for every disk manufactured. The manufacturers have the right to review, evaluate and approve a prototype of each title and the title's packaging and marketing materials. COMPETITION The interactive entertainment software industry is intensely competitive and is characterized by the frequent introduction of new hardware platforms and titles. Our competitors vary in size from small companies to large corporations, including the manufacturers of the hardware platforms. We must obtain a license from and compete with the hardware platform manufacturers in order to develop and sell titles for their respective hardware platforms, with each such manufacturer being the largest publisher and seller of software products for its own hardware platforms. As a result of their commanding positions in the interactive entertainment industry as the manufacturers of hardware platforms and publishers of titles for their own hardware platforms, these manufacturers generally have better bargaining positions with respect to retail pricing, shelf space and purchases than do any of their licensees. In addition to the hardware platform manufacturers, we compete with other interactive entertainment software companies. Significant competitors include Acclaim Entertainment, Inc., Activision, Inc., Bandai America Incorporated, Capcom USA, Inc., Eidos PLC, Electronic Arts Inc., Infogrames, Inc., Interplay Entertainment Corp., Konami Corporation of America, Inc., Midway Games Inc., Namco Ltd., Sega Enterprises, Inc. (USA), Take-Two Interactive Software, Inc., THQ, Inc., Ubi Soft Entertainment, Vivendi Universal S.A. and The 3DO Company. Many of these competitors are large corporations that have significantly greater financial, marketing, personnel and product development resources than us. Due to these greater resources, certain of these competitors are able to undertake more extensive marketing campaigns, adopt more aggressive pricing policies, pay higher fees to licensors of desirable motion picture, television, sports and character properties and pay more to third-party software developers than we can. We believe that we are able to successfully compete with regard to the principal factors of the interactive entertainment software industry, including + product features; + brand name recognition; + rights to properties; + access to distribution channels; + product quality and ease of use; + price; + marketing support; + reviews received from independent reviewers; and + quality of customer service. However, any significant increase in the development, marketing and sales efforts of our competitors could harm our business. INTELLECTUAL PROPERTY Our business relies on the hardware platform manufacturers and our non-exclusive licenses with them to publish titles and manufacture our products for their hardware platforms. Our existing hardware platform licenses for - -------------------------------------------------------------------------------- 45 51 BUSINESS - -------------------------------------------------------------------------------- Nintendo's Game Boy Color and Game Boy Advance, Nintendo 64, Sony's PlayStation and PlayStation 2, Sega's Dreamcast and Microsoft's Xbox and our pending license for NINTENDO GAMECUBE grant us the right to develop, publish and distribute titles for use on the respective hardware platforms. Each of these hardware platform licenses requires that we obtain approval for the publication of new titles on a title-by-title basis and licenses with Nintendo and Sony require that our titles be manufactured solely by the respective manufacturer and licenses with Microsoft require that we use certain approved third party manufacturers. License agreements relating to these rights generally extend for a term of two to three years. The agreements are terminable upon the occurrence of a number of factors, including: (1) breach of the agreement by us; (2) our bankruptcy or insolvency; or (3) our entry into a relationship with, or acquisition by, a competitor of the manufacturer. We cannot assure you that we will be able to obtain new or maintain existing licenses on acceptable terms, or at all. Upon termination of a hardware platform license for any reason other than our breach or default, the manufacturer has the right to purchase from us, at the price paid by us, any product inventory manufactured by such manufacturer that remains unsold for a specified period after termination. We must destroy any such inventory not purchased by the manufacturer. Upon termination as a result of our breach or default, we must destroy any remaining inventory, subject to the right of any of our institutional lenders to sell such inventory for a specified period. We hold copyrights on our products, product literature and advertising and other materials. We rely on common law trademark rights to our name and our logo. We do not currently hold any patents. We outsource some of our product development to third-party developers and typically retain all intellectual property rights related to such projects. No third-party developer has challenged our ownership interest in the intellectual property rights to projects we have outsourced, but it is always possible that a third-party developer could issue such a challenge and prevail. We also license products developed by third parties and pay royalties on such products. We regard our products as proprietary and rely primarily on a combination of copyright, trademark and trade secret laws, confidentiality and nondisclosure agreements and other methods to protect our proprietary rights. We require our employees, consultants and other outside individuals and entities, including employees of third-party developers, to execute confidentiality and nondisclosure agreements upon the start of employment, consulting or other contractual relationships with us. These agreements provide that all confidential information developed or made known to the individual or entity during the course of the relationship is to be kept confidential and not disclosed to third parties except in specific circumstances. However, our ability to police these individuals and entities and enforce these agreements is costly and uncertain. We also rely on existing copyright laws to prevent unauthorized distribution of our products. However, existing copyright laws afford only limited protection. Policing unauthorized use of our products is difficult and software piracy can be a persistent problem, especially in certain international markets. We are aware that unauthorized copying occurs within our industry and if a significant amount of unauthorized copying of our interactive entertainment software products were to occur, our business would be harmed. In addition, the laws of some countries in which our products are or may be distributed either do not protect our products and intellectual property rights to the same extent as the laws of the United States, or these laws are weakly enforced. Legal protection of our rights may be ineffective in these countries, and as we leverage our products using emerging technologies, such as the Internet and online services, our ability to protect our intellectual property rights, and to avoid infringing the intellectual property rights of others, becomes more difficult. In addition, intellectual property laws are less clear with respect to such emerging technologies. Accordingly, existing intellectual property laws may not provide adequate protection to our products that are developed in connection with emerging technologies. As the number of titles in the interactive entertainment software industry increases and the features and content of these titles further overlap, interactive entertainment software developers may increasingly become subject to infringement claims. Although we make reasonable efforts to ensure that our products do not violate the intellectual property rights of others, we cannot assure you that claims of infringement will not be made. Any such claims, with or without merit, can be time consuming and expensive to defend and we cannot assure you that infringement claims - -------------------------------------------------------------------------------- 46 52 BUSINESS - -------------------------------------------------------------------------------- against us will not result in costly litigation or require us to license the intellectual property rights of third parties, either of which could harm us. We may also be subject to legal proceedings and claims from time to time in the ordinary course of business, including claims of alleged infringement of the trademarks and other intellectual property rights of third parties. For example, we have recently become aware that other parties are utilizing the "BAM" mark, or marks that incorporate the letters "BAM," in businesses similar to ours, and those parties may have rights to such mark that are superior to ours. These parties could challenge our rights to use the name "BAM" in their markets. In this event, we could be required to stop using the name in particular markets or to obtain a license from these parties to use it in such markets. In addition, in May 2001, Nintendo of America, Inc. and Spike Co., Ltd. received a letter from counsel to World Wrestling Federation Entertainment, Inc. claiming a game violated certain of the World Wrestling Federation Entertainment, Inc.'s intellectual property rights and demanding that each of them cease the United States distribution of the game. We hold the rights to the United States version of the game. We believe that the game sold in the United States does not violate the World Wrestling Federation Entertainment, Inc.'s rights because we believe that the United States version does not contain references to the characters, moves or wrestling organizations mentioned in the letter. However, in the event it is determined that the game distributed in the United States violates the World Wrestling Federation Entertainment, Inc.'s intellectual property rights, we may be liable for damages and/or could be enjoined from further distributing the game, which would negatively affect our net revenues. Our agreements with third-party software developers and property licensors typically provide for us to be indemnified with respect to certain matters. However, if any claim is brought by a hardware manufacturer or other party against us, our software developers or property licensors may not have sufficient resources to, in turn, indemnify us. In addition, these parties' indemnification of us may not cover the matter that gives rise to the original claim, and in either case, our business could be harmed. LEGAL PROCEEDINGS From time to time, we may be involved in litigation relating to claims arising out of our operations in the normal course of business. As of the date of this prospectus, we are not a party to any material legal proceedings. EMPLOYEES As of June 30, 2001, we had 38 full time employees, including 25 in product development, seven in sales and marketing and six in finance, general and administrative. Of these employees, 16 work in our London, England studio, 10 are working at our Bath, England office, 11 are working in our San Jose, California office and one works from a satellite office in Seattle, Washington. We intend to hire additional employees as needed at each of our facilities. We also retain independent contractors to provide various services, primarily in connection with our software development and sales activities. We are not subject to any collective bargaining agreements and we believe that our relationship with our employees is good. FACILITIES Our headquarters are located in San Jose, California, where we occupy approximately 4,855 square feet of office space under a lease which expires in July 2004. We currently lease approximately 1,000 square feet in London, England for our development studio. This lease expires in 2002. We currently lease approximately 1,800 square feet for our office in Bath, England. This lease expires in 2008 although we have the right to terminate the lease at our option in 2004. We believe that our facilities are adequate for our current needs and suitable additional or substitute space will be available in the future to replace our existing facilities, if necessary, or accommodate expansion of our operations. - -------------------------------------------------------------------------------- 47 53 BUSINESS - -------------------------------------------------------------------------------- SOURCES OF STATISTICAL DATA This prospectus contains statistical data regarding internet usage and other industry estimates that we obtained from reports generated by Euromonitor, Forrester, the Interactive Digital Software Association, the International Development Group and International Data Corporation. A description of these sources is provided as follows: Euromonitor. Euromonitor International was established in 1972 and conducts research and interpretation of numerous industries, producing reports, business reference titles and electronic data systems. Euromonitor maintains analysts in London, Chicago and Singapore. Forrester. Forrester Research, Inc. is a research firm that analyzes the future of technology change and its impact on businesses, consumers, and society. Forrester is based in Cambridge, Massachusetts with research offices in Toronto, Amsterdam and San Francisco. Interactive Digital Software Association. The Interactive Digital Software Association, or IDSA, is based in Washington, D.C. and offers a range of services to interactive entertainment software publishers, including generating business and consumer research on interactive entertainment software industry issues. International Development Group. International Development Group, or IDG, was founded in 1984 and provides companies with a range of consulting services in marketing, sales and distribution, strategic planning, mergers and acquisitions, business development and licensing. IDG provides analysis on the multimedia markets in Asia/Pacific, Europe, North America and Latin America. IDG is based in San Francisco, California. International Data Corporation. International Data Corporation, or IDC, provides information technology research, market data, and industry analysis on the future of electronic business, technology and the Internet. IDC, which is a division of International Data Group, is headquartered in Framingham, Massachusetts and has offices in North America, South America, Europe, Asia, the Middle East and Africa. - -------------------------------------------------------------------------------- 48 54 - -------------------------------------------------------------------------------- Management EXECUTIVE OFFICERS, DIRECTORS AND KEY EMPLOYEES Set forth below is information concerning our current directors, executive officers and other key employees.
NAME AGE POSITION - ------------------------------------------------------------------------------------------------------------------------ Robert W. Holmes, Jr....................................... 48 Chairman of the Board of Directors Anthony R. Williams........................................ 43 Vice Chairman of the Board of Directors Raymond C. Musci........................................... 40 Chief Executive Officer, President and Director Stephen M. Ambler.......................................... 42 Chief Financial Officer and Vice President of Finance Joseph P. Morici........................................... 46 Vice President of Sales and Marketing Aaron H. Endo.............................................. 36 Director of Business Development George M. Sundheim, III.................................... 48 Secretary and Director Mark Dyne.................................................. 40 Director David E. Tobin (1)(2)...................................... 30 Director Anthony G. Williams (1)(2)................................. 42 Director Steven J. Massarsky (1).................................... 53 Director Robert T. Slezak (2)....................................... 44 Director
(1) Member of our compensation committee. (2) Member of our audit committee. Robert W. Holmes, Jr. has served as our Chairman since May 2001 and as a member of our board of directors since October 1999. From March 1998 to the present, Mr. Holmes has pursued independent investment and consulting opportunities. In April 1987, Mr. Holmes co-founded Acclaim Entertainment, Inc. (NASDAQ:AKLM), a developer, publisher and distributor of interactive entertainment software, where he was a General Manager, Senior Vice President, and Director. He became Chief Operating Officer of Acclaim in March 1989 and President in January 1990. He served as President until October 1996, and as a Director until February 1997, after which time he remained as Special Consultant to the Chairman until August 1999. Prior to Acclaim, Mr. Holmes was Senior Vice President of Marketing for Activision, Inc. (NASDAQ:ATVI), a software company. Prior to Activision, he held a variety of management and marketing positions with Seagram Co., Epicure Associates and Hilton Hotels, Mr. Holmes was also a teacher in the Business college of Western Michigan University. Mr. Holmes earned a B.A. in Romance Languages from Wesleyan University and his M.B.A. from Western Michigan University. Anthony R. Williams has served as our Vice Chairman since May 2001 and as our Co-Chairman of the board of directors from July 2000 to April 2001. Mr. Williams served as our Chief Executive Officer from July 2000 to May 2001 and as our Chief Financial Officer from July 2000 to March 2001. From February 1998 to July 2000, Mr. Williams served as the Co-Chairman and Chief Operating Officer of Take-Two Interactive Software, Inc. (NASDAQ:TTWO), a developer, publisher and distributor of interactive entertainment software. From April 1988 to February 1998, Mr. Williams was employed in various executive positions at Acclaim Entertainment, Inc. Mr. Williams currently serves as a director of the Near East Foundation, a private, nonprofit development agency dedicated to assisting people in the Middle East and Africa. Mr. Williams earned a B.A. in Economics from Cambridge University. In 2000, Mr. Williams and the staff of the Securities and Exchange Commission, or SEC, agreed to settle a proposed administrative proceeding relating to a press release issued by Acclaim in October 1995. Under the settlement, Acclaim and Mr. Williams, without admitting or denying the findings and conclusions of the SEC, have agreed to cease and desist from future violations of Sections 10(b) and 13(b) of the Securities and Exchange Act of 1934. Raymond C. Musci is our founder and has served as our Chief Executive Officer since May 2001, as our Chief Operating Officer and Co-Chairman of the Board from July 2000 to April 2001 and as our President and a member of our board of directors since October 1999. From October 1999 to July 2000, Mr. Musci served as our Chief - -------------------------------------------------------------------------------- 49 55 MANAGEMENT - -------------------------------------------------------------------------------- Financial Officer and Secretary. From May 1996 through July 1999, Mr. Musci was President, Chief Executive Officer and a member of the board of directors of the US division of Infogrames Entertainment, S.A., a developer, publisher and distributor of interactive entertainment software. From September 1994 to July 1996, Mr. Musci served as a director of Ocean International, Ltd., the holding company of Ocean of America. From 1990 until its merger with Infogrames Entertainment (Paris Bourse:5257), in May 1996, Mr. Musci was co-founder, President, and Chief Operating Officer of Ocean of America, a private developer, publisher and distributor of interactive entertainment software. From October 1996 to the present, Mr. Musci is a member of the board of directors of Brilliant Digital Entertainment, Inc., a developer, publisher and distributor of interactive entertainment software (AMEX:BDE), where he is a member of the audit and compensation committees. Mr. Musci earned a B.A. in Criminal Justice from Western New Mexico University. Stephen M. Ambler has served as our Chief Financial Officer and Vice President of Finance since April 2001. From April 1994 to March 2001, Mr. Ambler served in various executive capacities, including Chief Financial Officer, Secretary and Senior Vice President Finance, at Insignia Solutions PLC (NASDAQ:INSG), a software developer. Mr. Ambler received his diploma in Accounting Studies, with distinction, from Oxford Polytechnic, and he is a member of the Institute of Chartered Accountants in England and Wales. Joseph P. Morici has served as our Vice President of Sales and Marketing since March 2000. From November 1998 through March 2000, Mr. Morici was the Executive Vice President of Metro3D, Inc., developer, publisher and distributor of interactive entertainment software. From November 1996 through November 1998, Mr. Morici was Vice President of Fujitsu Interactive, a producer of interactive CD-ROMs for children. From January 1995 through November 1996, Mr. Morici served as a consultant to Simply Interactive, Inc., Titus Interactive, S.A. and Gametek Inc. Mr. Morici earned a B.S. in Economics from Santa Clara University. Aaron H. Endo has served as our Director of Business Development since November 1999. From December 1997 through November 1999, Mr. Endo was the Business Development Manager at Warner Bros. Interactive Entertainment, a division of AOL Time Warner (NYSE:AOL). From March 1997 through December 1997, Mr. Endo was an independent consultant. From July 1996 through March 1997, Mr. Endo was a senior financial analyst at Macromedia, Inc. (NASDAQ:MACR). Mr. Endo earned a B.S. in Mechanical Engineering from Northwestern University and an M.B.A. from the University of North Carolina. George M. Sundheim III has served as our Secretary since July 2000 and as a member of our board of directors since October 1999. From April 1986 to the present, Mr. Sundheim has been a partner of the law firm of Doty Sundheim & Gilmore, a professional corporation. Mr. Sundheim earned a B.A. in Economics from Stanford University and a J.D. from Northwestern University. Mark Dyne has served on our board of directors since July 2000. From October 1996 to the present, Mr. Dyne has served as Chairman of the Board and Chief Executive Officer at Brilliant Digital Entertainment, Inc. From September 1997 to the present, Mr. Dyne has also served as the Chairman of the Board of Tag-It Pacific, Inc. (ASE:TAG), a specialty printing and packaging company for the garment, accessories and related market areas. Additionally, from October 1998 though January 2000, Mr. Dyne was Chairman and Chief Executive Officer of Virgin Interactive Entertainment Ltd., a distributor of software programs and video games that is based in London, England. From June 1995 to October 1996, Mr. Dyne served as Co-Chief Executive Officer of Sega Enterprises, a theme park developer. Mr. Dyne is a founder and a director of Ozisoft Pty Ltd., a leading distributor of entertainment software in Australia and New Zealand. Mr. Dyne attended the University of California, Los Angeles. David E. Tobin has served on our board of directors since December 2000. From April 1996 to the present, Mr. Tobin has served as a Vice President at PAR Capital Management, Inc., an investment management firm in Boston, MA. Pursuant to the Series B Preferred Stock Purchase Agreement dated December 28, 2000, Mr. Tobin is the designee of PAR Capital Management, Inc. elected to our board of directors and appointed to our compensation committee. Mr. Tobin earned a B.A. in Finance from Saint Anselm College. - -------------------------------------------------------------------------------- 50 56 MANAGEMENT - -------------------------------------------------------------------------------- Anthony G. Williams has served on our board of directors since April 2001. From July 2000 to the present, Dr. Williams has been pursuing independent investment opportunities and non-commercial activities. From November 1994 to July 2000, Dr. Williams served in various Director positions as a partner at Goldman Sachs & Co., London, including Global Co-Head Swaps 2000, Global Head of FICC Risk, and Global Head of Fixed Income Arbitrage. Dr. Williams earned a B.A., M.A., and Ph.D. in Physics from Cambridge University. Steven J. Massarsky has served on our board of directors since May 2001. From February 1999 to the present, Mr. Massarsky has served as the Chief Executive Officer of The Business Incubation Group, a business incubator. From May 1997 to January 1999, Mr. Massarsky pursued independent investment opportunities and personal interests. From May 1996 to April 1997, Mr. Massarsky was the President of Acclaim Comics, Inc., a comic book publishing company. Earlier in his career, Mr. Massarsky operated an entertainment law practice; his clientele included The Wailers, the Psychedelic Furs, Aerosmith and Willie Mays. Prior to his law practice, Mr. Massarsky owned and operated an artist management company and managed the careers of artists such as The Allman Brothers Band, The Wailers and Cyndi Lauper. Mr. Massarsky earned a B.A. in political science from Brown University and a J.D. from Rutgers University. Robert T. Slezak has served on our board of directors since June 2001. From November 1999 to the present, Mr. Slezak has worked as an independent management consultant. From October 1989 through November 1999, Mr. Slezak served as the Chief Financial Officer of Ameritrade Holding Corporation, an online brokerage firm (NASDAQ:AMTD) and is currently a member of their board of directors. Mr. Slezak earned a B.S. in business administration from the University of Nebraska at Omaha and an M.B.A. from Creighton University. Our board of directors currently consists of nine members. Our board of directors is divided into three classes, each serving staggered three-year terms. Robert W. Holmes, Jr., Anthony R. Williams and Raymond C. Musci have been designated Class I Directors whose terms expire at the 2001 annual meeting of stockholders. George M. Sundheim, III, David E. Tobin and Mark Dyne have been designated Class II Directors, whose terms expire at the 2002 annual meeting of the stockholders. Anthony G. Williams, Steven Massarsky and Robert T. Slezak have been designated Class III Directors, whose terms expire at the 2003 annual meeting of stockholders. This classification of our board of directors may delay or prevent a change in control of our company or our management. Subject to existing employment agreements, our board of directors appoints our executive officers on an annual basis to serve until their successors have been duly elected and qualified. There are no family relationships among any of our directors or officers. BOARD COMMITTEES + AUDIT COMMITTEE -- In April 2001, our board of directors established an audit committee composed of three independent directors, who are currently David E. Tobin, Robert T. Slezak and Anthony G. Williams. The audit committee will generally meet with and consider suggestions from members of management and our internal accounting personnel, as well as our independent accountants, concerning our financial operations. The audit committee will also have the responsibility to: - review the audit committee charter at least annually and recommend any changes to our board of directors; - review our annual financial statements and any other relevant reports or other financial information; - review the regular internal financial reports prepared by management and any internal auditing department; - recommend to the board of directors the selection of the independent accountants and approve the fees and other compensation to be paid to the independent accountants; - review and discuss with the accountants all significant relationships the accountants have with us to determine the accountants' independence; - -------------------------------------------------------------------------------- 51 57 MANAGEMENT - -------------------------------------------------------------------------------- - review the performance of the independent accountants and approve any proposed discharge of the independent accountants when circumstances warrant; - review separately with the independent accountants, the internal auditing department, if any, and management, following completion of the annual audit, any significant difficulties encountered during the course of the audit; and - review the independence of each member of the committee. + COMPENSATION COMMITTEE -- In April 2001, our board of directors established a compensation committee composed of three directors, who are currently Steven J. Massarsky, Anthony G. Williams and David E. Tobin. The compensation committee is responsible for the design, review, recommendation and approval of compensation arrangements for our directors, executive officers and key employees, and for the administration of our 2000 Stock Incentive Plan, including the approval of grants under such plan to our employees, consultants and directors. Our board of directors may establish other committees to facilitate the management of our business. DIRECTOR COMPENSATION We provide annual compensation of $10,000 to each of our non-employee directors for serving on our board of directors and for attendance at meetings of the board of directors and the committees of the board of directors on which they serve. Non-employee directors are reimbursed for reasonable travel and other out-of-pocket expenses incurred in connection with attendance at meetings of the board of directors and committees of the board of directors. Employee directors are eligible to receive option grants and direct stock issuances under our 2000 Stock Incentive Plan. Non-employee directors will each receive, from time to time, grants of options to purchase a number of shares of our common stock determined by our board of directors. During the fiscal year ended June 30, 2001, Robert W. Holmes was granted options to purchase 178,600 shares at a weighted average exercise price of $6.49 per share, George M. Sundheim III was granted options to purchase 37,600 shares at a weighted average exercise price of $2.63 per share, Mark Dyne was granted options to purchase 84,600 shares at a weighted average exercise price of $3.83 per share, and each of Steven J. Massarsky, Robert T. Slezak and Anthony G. Williams was granted options to purchase 18,800 shares at an exercise price of $4.79 per share. In August 2001, David E. Tobin was granted options to purchase 18,800 shares at an exercise price of $4.79 per share. Except for options granted to Mr. Holmes to purchase 47,000 shares that vested immediately, these options vest 25% on the first anniversary of the date of grant and the balance vests over the three years that follow. COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION We did not have a compensation committee or other board committee performing equivalent functions until April 2001. All members of our board of directors, some of whom were executive officers, participated in deliberations concerning executive officer compensation. No interlocking relationship exists between our board of directors and the board of directors or compensation committee of any other company other than Mr. Musci who serves on the board of directors and compensation committee of Brilliant Digital Entertainment, Inc., a company of which Mr. Dyne is the Chairman of the Board. - -------------------------------------------------------------------------------- 52 58 MANAGEMENT - -------------------------------------------------------------------------------- EXECUTIVE COMPENSATION SUMMARY OF CASH AND OTHER COMPENSATION FOR FISCAL YEAR ENDED JUNE 30, 2001 The following summary compensation table indicates the cash and non-cash compensation earned by our Chief Executive Officer and employees whose earnings during the fiscal year ended June 30, 2001 exceeded $100,000 (the "Named Executive Officers").
EXECUTIVE COMPENSATION TABLE (FISCAL YEAR ENDED JUNE 30, 2001) - ------------------------------------------------------------------------------------------------------------------------- LONG-TERM COMPENSATION SECURITIES BASE OTHER ANNUAL UNDERLYING ALL OTHER NAME AND PRINCIPAL POSITION YEAR SALARY BONUS COMPENSATION OPTIONS/SAR COMPENSATION - ------------------------------------------------------------------------------------------------------------------------- Raymond C. Musci................................ 2001 $225,000 -- -- -- -- Chief Executive Officer, President and Director (1) Anthony R. Williams............................. 2001 $225,000 -- -- -- -- Vice Chairman and Former Chief Executive Officer (2) Joseph P. Morici................................ 2001 $123,600 -- -- 23,500 -- Vice President of Sales and Marketing
- --------------- (1) Mr. Musci previously served as our Chief Operating Officer, Chief Financial Officer and Secretary. (2) Mr. Williams served as our Chief Executive Officer until May 2001. OPTIONS GRANTED IN FISCAL YEAR ENDED JUNE 30, 2001 The following table sets forth information regarding options granted to our Named Executive Officers during the fiscal year ended June 30, 2001. Options were granted at an exercise price equal to the fair market value of our common stock at the date of the grant. In determining the fair market value of our common stock, the board of directors considered various factors, including our financial condition and business prospects, operating results, the absence of a market for the common stock and risks normally associated with investments in companies engaged in similar businesses.
- --------------------------------------------------------------------------------------------------------------------- INDIVIDUAL GRANTS -------------------------------------------------------------- NUMBER OF POTENTIAL REALIZABLE VALUE SHARES OF % OF TOTAL AT ASSUMED COMMON OPTIONS ANNUAL RATES OF STOCK GRANTED TO STOCK PRICE APPRECIATION UNDERLYING EMPLOYEES EXERCISE PRICE FOR OPTION TERM OPTIONS IN FISCAL PER SHARE EXPIRATION -------------------------- NAME GRANTED (#) YEAR 2001(%) ($/SHARE) DATE 5% ($) 10% ($) - --------------------------------------------------------------------------------------------------------------------- Joseph P. Morici......... 23,500(1) 3.7 0.46 7/10/10 486,817 781,578
- --------------- (1) On the first anniversary of the date of the grant, 25% of the options vest and the balance vests over the three years that follow. During the fiscal year ended June 30, 2001, we granted options to purchase 833,075 shares of our common stock, which included options granted to our employees to purchase 635,675 shares and options granted to our non-employee directors to purchase 197,400 shares. The term of each option granted is generally 10 years from the date of the grant. Options may terminate before their expiration dates, if the optionee's status as an employee is terminated or upon the optionee's death or disability. Potential realizable values are net of exercise price, but before the payment of taxes associated with exercise. Amounts represent hypothetical gains that could be achieved for the respective options if exercised at the end of the option term. The 5% and 10% assumed annual rates of compounded - -------------------------------------------------------------------------------- 53 59 MANAGEMENT - -------------------------------------------------------------------------------- stock price appreciation are mandated by rules of the Securities and Exchange Commission and do not represent our estimate or projection of our future common stock prices. These amounts represent assumed rates of appreciation in the value of the common stock from the fair market value on the date of grant. Actual gains, if any, on stock option exercises are dependent on the future performance of our common stock and overall stock market conditions. The amounts reflected in the table may not necessarily be achieved. AGGREGATE OPTION EXERCISES IN FISCAL YEAR 2001 AND VALUES AT JUNE 30, 2001 The following table sets forth the number and value of unexercised options held by our Named Executive Officers at June 30, 2001. There was no public trading market for our common stock as of June 30, 2001. Accordingly, the value of unexercised options has been calculated by subtracting the exercise price from the fair market value of our common stock on June 30, 2001, using the assumed initial public offering price of $13.00 per share as the fair market value, multiplied by the number of shares underlying the option. None of our Named Executive Officers exercised options in the fiscal year ended June 30, 2001.
- ---------------------------------------------------------------------------------------------------------------------------- NUMBER OF SHARES OF COMMON STOCK UNDERLYING VALUE OF UNEXERCISED UNEXERCISED OPTIONS AT IN-THE-MONEY OPTIONS AT JUNE 30, 2001 JUNE 30, 2001 ------------------------------------- ------------------------------------- NAME EXERCISABLE (#) UNEXERCISABLE (#) EXERCISABLE ($) UNEXERCISABLE ($) - ---------------------------------------------------------------------------------------------------------------------------- Joseph P. Morici.............................. -- 23,500 -- 294,650
2000 STOCK INCENTIVE PLAN Our Amended and Restated 2000 Stock Incentive Plan (the "2000 Stock Incentive Plan") provides for the grant of qualified incentive stock options that meet the requirements of Section 422 of the Internal Revenue Code (the "Code"), nonqualified stock options and restricted stock awards. Our board of directors adopted our 2000 Stock Incentive Plan in July 2000 and our stockholders approved it in July 2000. The 2000 Stock Incentive Plan was amended and restated in each of May and August 2001. We have reserved a total of 1,527,500 shares of our common stock for issuance under our 2000 Stock Incentive Plan, which is subject to anti-dilution provisions for stock splits, reverse stock splits, stock dividends, combinations, reclassifications and similar events. Our 2000 Stock Incentive Plan may be administered by our board of directors or a committee or subcommittee of a committee designated by our board of directors. The administrator of our 2000 Stock Incentive Plan has the power to select participants among eligible people and to determine the terms of options or awards. Under current law, incentive stock options may only be granted to a person who is an employee or officer of ours or of any future subsidiary of ours. The exercise price of an award under the 2000 Stock Incentive Plan is payable in full in cash, by promissory note with recourse approved by the administrator of the plan, by surrender of shares of common stock owned equal to the aggregate exercise price, withholding whole shares of common stock then issuable upon the exercise of an option or any combination of the foregoing. In the event of a change of control, all stock option and restricted stock awards will terminate unless the award is assumed by our successor corporation and there will be no acceleration of vesting or exercisability of an award unless an individual's award agreement provides otherwise. A change of control is defined in our 2000 Stock Incentive Plan as (i) a merger or consolidation where we are not the successor entity; (ii) the sale or disposition of substantially all of our assets; (iii) a reverse merger where we are the surviving entity but the holders of our common stock prior to the merger do not possess more than 50% of the total control voting power of the surviving entity's outstanding securities after the merger; or (iv) if any person obtains beneficial ownership of 50% or more of the combined voting power of our outstanding securities. - -------------------------------------------------------------------------------- 54 60 MANAGEMENT - -------------------------------------------------------------------------------- Incentive stock options and restricted stock awards generally may not be transferred, although non-qualified stock options may be transferred pursuant to California Code of Regulations Section 260.140.41 or by will or intestacy. Our board of directors may from time to time amend, suspend or terminate our 2000 Stock Incentive Plan unless stockholder approval is required. As of June 30, 2001, no shares of restricted stock had been issued and options to purchase 833,075 shares of our common stock were outstanding under our 2000 Stock Incentive Plan at exercise prices ranging between $0.46 and $13.00 per share. Subsequent to June 30, 2001, options to purchase 182,135 shares of our common stock were granted at an exercise price of $11.70. 2001 STOCK INCENTIVE PLAN (UK PART) In August 2001 when the 2000 Stock Incentive Plan was amended and restated as described above, our board of directors adopted the 2001 Stock Incentive Plan (UK Part) (the "UK Plan") as Schedule A to the 2000 Stock Incentive Plan. The UK Plan provides for the grant of stock options to our employees who satisfy certain criteria as set forth in our 2000 Stock Incentive Plan. The UK Plan contains restrictions intended to comply with UK taxation laws, including restrictions on exercise, limitations on the size of option grants, requirements with respect to changes in capitalization and other matters. The UK Plan is administered by our board of directors or a committee of our board of directors (the "Administrator"). The Administrator has the authority to determine the terms of options granted under the UK Plan, including the number of shares subject to the option, exercise price, term and exercisability. Payment of the exercise price must be made in cash. An option may not be transferred by the optionee. Options granted under the UK Plan must generally be exercised at the end of the optionee's employment with us; or within 12 months after such optionee's termination by retirement, disability or death, but in no event after the ten year term of the option. In the event of a change in control, optionees under the UK Plan have the right to exercise or substitute their options for a period of six months from the date of the change in control. The Administrator has the authority to alter the UK Plan as long as such action does not adversely affect any outstanding option, subject to approval of the Board of Inland Revenue. 2001 EMPLOYEE STOCK PURCHASE PLAN Our 2001 Employee Stock Purchase Plan (the "2001 Purchase Plan") was adopted by the board of directors and the stockholders in August 2001. The 2001 Purchase Plan, which is intended to qualify under Section 423 of the Code, contains consecutive six month offering periods. The offering periods generally start on the first trading day on or after March 1 and September 1 of each year. The initial offering period will commence on the first trading day after this Registration Statement is declared effective by the Securities and Exchange Commission. A total of 705,000 shares of common stock have been reserved for issuance under the 2001 Purchase Plan. Employees are eligible to participate if they are employed by us or any designated subsidiary for at least 20 hours per week and more than five months in any calendar year. No employee shall be granted an option under the 2001 Purchase Plan (1) to the extent that, immediately after the grant, such employee (or any other person whose stock would be attributed to such employee pursuant to Section 424(d) of the Code) would own our capital stock and/or hold outstanding options to purchase such stock possessing five percent (5%) or more of the total combined voting power or value of all classes of our capital stock, or (2) to the extent that his or her rights to purchase stock under all of our employee stock purchase plans accrues at a rate which exceeds $25,000 worth of stock (determined at the fair market value of the shares at the time such option is granted) for each calendar year in which such option is outstanding at any time. - -------------------------------------------------------------------------------- 55 61 MANAGEMENT - -------------------------------------------------------------------------------- The 2001 Purchase Plan permits participants to purchase common stock through payroll deductions of up to 15.0% of the participant's compensation. Compensation is defined as the participant's base straight time gross earnings, including commissions, payment for overtime, incentive bonuses and performance bonuses. Amounts deducted and accumulated by the participant are used to purchase shares of our common stock at the end of each purchase period. The price of stock purchased under the 2001 Purchase Plan is 85.0% of the lower of the fair market value of the common stock at the beginning of the offering period or at the end of the purchase period. The maximum number of shares a participant may purchase during a single offering period is determined by dividing $25,000 by the fair market value of a share of our common stock on the first day of the offering period. Participants may end their participation at any time during an offering period and they will be paid their payroll deductions to date. Participation ends automatically upon termination of employment with us. Rights granted under the 2001 Purchase Plan are not transferable by a participant other than by will, the laws of descent and distribution, or as otherwise provided under the 2001 Purchase Plan. The 2001 Purchase Plan provides that, in the event we merge with or into another corporation or sell all or substantially all of our assets, each outstanding option may be assumed or substituted for by the successor corporation. If the successor corporation refuses to assume or substitute for the outstanding options, the offering period then in progress will be shortened and a new purchase date will be set so that shares of our common stock are purchased with the participant's accumulated payroll deductions prior to the effective date of such transaction. Our board of directors has the authority to amend or terminate the 2001 Purchase Plan, except that no such action may adversely affect any options previously granted under the 2001 Purchase Plan, provided that the board of directors may terminate an offering period on any exercise date if the board of directors determines that the termination of the 2001 Purchase Plan is in our best interest or the best interests of our stockholders. Additionally, without stockholder consent and without regard to whether any participant rights may be considered to have been adversely affected, the board of directors shall be entitled to change the offering periods, limit the frequency and/or number of changes in the amount withheld during an offering period, establish the exchange ratio applicable to amounts withheld in a currency other than U.S. dollars, permit payroll withholding in excess of the amount designated by a participant in order to adjust for delays or mistakes in our processing of properly completed withholding elections, establish reasonable waiting and adjustment periods and/or accounting and crediting procedures to ensure that amounts applied toward the purchase of our common stock for each participant properly correspond with amounts withheld from the participant's compensation, and establish such other limitations or procedures as the board of directors determines in its sole discretion advisable which are consistent with the 2001 Purchase Plan. Notwithstanding anything to the contrary, the board of directors may in its sole discretion amend the 2001 Purchase Plan to the extent necessary and desirable to avoid unfavorable financial accounting consequences by altering the purchase price for any offering period, shortening any offering period or allocating remaining shares among the participants. Unless sooner terminated by the Board of Directors, the 2001 Purchase Plan will terminate on August 8, 2011 401(k) RETIREMENT PLAN We have in place a contributory retirement plan, or 401(k) plan, for employees age 21 and older. Our 401(k) plan is designed to be tax deferred in accordance with the provisions of Section 401(k) of the Internal Revenue Code of 1986, as amended. Under our 401(k) Plan, employees may elect to enroll as of the first day of the month coinciding with or following the date on which the employee meets the eligibility requirements. Our 401(k) plan provides that each participant may contribute up to the maximum amount per year allowed by federal law, and we may contribute to the participant's plan account at the end of each plan year a percentage of salary contributed by the participant. We may make such matching contributions in our sole discretion. Subject to the rules for maintaining the tax status of our 401(k) plan, we may make an additional contribution in our sole discretion that vests upon the employees' number of years of service, and this contribution is divided among eligible employees on a pro-rata share based on the amount of total compensation each eligible employee receives in - -------------------------------------------------------------------------------- 56 62 MANAGEMENT - -------------------------------------------------------------------------------- comparison to all eligible employees. Total contributions to our 401(k) plan for the period from October 7, 1999 (inception) through June 30, 2000 were $6,500 and $41,000 for the year ended June 30, 2001. INDEMNIFICATION OF DIRECTORS AND OFFICERS We have included in our certificate of incorporation a provision that, to the extent permitted by Delaware General Corporation Law, our directors will not be personally liable to us or our stockholders for monetary damages for breach of fiduciary duty as directors, except for liability: + for any breach of the director's duty of loyalty to us or our stockholders; + for acts or omissions not in good faith or which involve intentional misconduct or a knowing violation of law; + under Section 174 of the General Corporation Law of the State of Delaware, which relates to unlawful dividends; or + for any transaction from which the director derived an improper personal benefit. Our bylaws provide for the indemnification of our directors to the fullest extent permitted by the Delaware General Corporation Law. Our bylaws further provide that our board of directors has sole discretion to indemnify our officers and other employees. We may limit the extent of such indemnification by individual contracts with our directors and executive officers, but have not done so. We are not, however, required to indemnify any director or executive officer in connection with any proceeding initiated by us and approved by a majority of our board of directors, that alleges (a) unlawful misappropriation of corporate assets, (b) disclosure of confidential information or (c) any other willful breach of such director or executive officer's duty to us or our stockholders. We are required to advance, prior to the final disposition of any proceeding, promptly on request, all expenses incurred by any director or executive officer in connection with that proceeding on receipt of an undertaking by, or on behalf of, that director or executive officer to repay those amounts if it should be determined ultimately that he or she is not entitled to be indemnified under our bylaws or otherwise. We have entered into agreements with our directors and executive officers containing provisions specifying that the Company will indemnify and defend these directors and officers against any liability incurred in performance of services in their capacity as directors and officers to the fullest extent authorized by our certificate of incorporation, bylaws and applicable law. EMPLOYMENT AGREEMENTS In October 1999 we entered into a two year employment agreement with Raymond C. Musci, our Chief Executive Officer and President. In July 2000 we entered into a two year employment agreement with Anthony R. Williams, our Vice Chairman, which was subsequently amended to reflect his change in title. Messrs. Musci and Williams are each entitled to an annual base salary of $225,000 and are both eligible for any bonus program or plan established for our employees. The employment agreements entitle the employees to receive stock options or other equity rights to be determined in the sole discretion of our Compensation Committee and to receive certain insurance and other employee plans and benefits established for our employees. If the employment agreement of either Messrs. Musci or Williams is terminated for any reason, except for disability or cause, or if either of Messrs. Musci or Williams resign for good cause, he shall receive severance in an amount equal to 24 months of his then-current base salary, with 50% payable within 60 days of the termination date and 50% payable as salary continuing for 12 months following the termination date. In addition, they will receive 12 months of insurance coverage following the termination date. The employment agreements of Messrs. Musci and Williams automatically renew for an additional one year term if notice is not provided ninety days before the termination of the original term. - -------------------------------------------------------------------------------- 57 63 MANAGEMENT - -------------------------------------------------------------------------------- Effective June 2001 we entered into a one year agreement with Robert W. Holmes, Jr., the chairman of our board of directors. Pursuant to the terms of the agreement, Mr. Holmes will receive a fee of $100,000 per year, and was issued stock options to purchase 47,000 shares of our common stock at an exercise price of $4.79 per share, all of which are fully vested, and stock options to purchase 47,000 shares of our common stock at an exercise price equal to the initialpublic offering price, unless this offering has not occurred by December 31, 2001, in which case the exercise price shall be the fair market value of our common stock on that date, which options shall be fully vested commencing on the earlier of this offering or December 31, 2001. In the event of a change of control or the removal of Mr. Holmes as a director without cause, all of Mr. Holmes' unvested options shall vest immediately. Mr. Holmes may be removed or resign at any time as the chairman of our board of directors. If Mr. Holmes resigns or is removed as a director, his agreement will terminate and we will be obligated to pay him all compensation and benefits which have accrued through the date of termination. - -------------------------------------------------------------------------------- 58 64 - -------------------------------------------------------------------------------- Related party transactions In October 1999, Raymond C. Musci, our Chief Executive Officer and President, purchased 580,962 shares of our common stock for $1,000. In October 1999, each of Robert W. Holmes, Jr., our Chairman of the Board, and D&S Partners, whose general partner, Mr. George Sundheim, III is our Secretary and a director, purchased 45,825 shares of our common stock for $0.11 per share, or an aggregate purchase price of $5,000. In each of November 1999 and January 2000, we issued Mr. Musci a convertible promissory note each in the principal amount of $500,000, and in May 2000 we issued him an additional convertible promissory note in the principal amount of $47,000. Each note bore interest at 7% per annum with principal and accrued interest due on demand after one year from the date of issuance. Each note was automatically convertible into shares of our Series A Preferred Stock upon the initial closing of our Series A Preferred Stock financing. In June 2000, the notes were converted and Mr. Musci was issued 482,625 shares of our Series A Preferred Stock for $1.0 million; these shares are convertible into 2,268,338 shares of common stock. In February 2000, we entered into an agreement with Transcap Trade Finance to have Transcap finance the purchase of materials required to produce our products. As a condition of this agreement, Mr. Musci entered into a separate agreement with Transcap to guarantee our obligations under the agreement. In June 2000, we sold and issued 976,220 shares of our Series A Preferred Stock for $2.1 million; these shares are convertible into 4,588,234 shares of our common stock. In addition, at this time, we sold shares of our common stock at a price of $0.11 per share to certain purchasers of our Series A Preferred Stock. In addition to Mr. Musci, who converted promissory notes into 482,625 shares of Series A Preferred Stock, purchasers included the following officers, directors and entities affiliated with them:
SHARES OF COMMON STOCK SHARES OF SHARES OF SERIES A ISSUABLE UPON COMMON STOCK PREFERRED STOCK CONVERSION OF PURCHASER PURCHASED PURCHASED SERIES A PREFERRED - ----------------------------------------------------------------------------------------------- STOCK PURCHASED Anthony R. Williams (1)..................................... 422,516 351,000 1,649,700 Robert W. Holmes, Jr. ...................................... 105,628 87,750 412,425 Mark Dyne................................................... 17,183 10,969 51,554 FIMAS, L.P.................................................. 17,183 10,969 51,554
(1) Mr. Williams' shares of Series A Preferred Stock are currently held in an irrevocable trust administered by Breams Trust Limited. Although Breams Trust Limited has the power to dispose of trust property, Mr. Williams has the right to appoint new or additional trustees and to require any trustee to resign. Mr. Williams is our Vice Chairman, Mr. Dyne is a director and Mr. Sundheim, one of our directors, is a general partner of FIMAS, L.P. In October 2000, we issued to Spyglass Entertainment Group, L.P. a warrant with a six year term to purchase 470,000 shares of our common stock at an exercise price of $1.06 per share in connection with our strategic arrangement with Spyglass Entertainment Group. In November 2000, we entered into an agreement with Comerica Bank-California to have Comerica provide a revolving note for an amount of up to $1 million. As consideration for providing the note, Comerica was given a security interest in a money market account in the name of Anthony R. Williams maintained at the bank. In addition, as a condition of this agreement, Mr. Musci entered into a separate agreement with Comerica to guarantee our - -------------------------------------------------------------------------------- 59 65 RELATED PARTY TRANSACTIONS - -------------------------------------------------------------------------------- obligations under the agreement. Both guarantees lapsed in December 2000, when the revolving note became secured by restricted cash held in a money market account with the same bank. In December 2000, we sold 294,620 shares of our Series B Preferred Stock for $5.2 million; these shares are convertible into 1,384,714 shares of our common stock. Purchasers included the following officers, directors and 5% stockholders:
SHARES OF COMMON STOCK SHARES OF SERIES B ISSUABLE UPON CONVERSION OF PURCHASER PREFERRED STOCK PURCHASED SERIES B PREFERRED STOCK PURCHASED - ------------------------------------------------------------------------------------------------------------------------ PAR Investment Partners, L.P........................... 198,301 932,015 Raymond C. Musci....................................... 28,329 133,146 Anthony R. Williams (1)................................ 28,329 133,146 Merchant Bankers, Inc. (2)............................. 28,329 133,146 Robert W. Holmes, Jr................................... 11,332 53,260
(1) Mr. Williams' shares of Series B Preferred Stock are currently held in an irrevocable trust administered by Breams Trust Limited. Although Breams Trust Limited has the power to dispose of trust property, Mr. Williams has the right to appoint new or additional trustees and to require any trustee to resign. (2) Merchant Bankers, Inc. is the general partner of Morgan Keegan Early Stage Fund, L.P., which purchased 22,092 shares of Series B Preferred Stock (convertible into 103,832 shares of our common stock), and Morgan Keegan Employee Investment Fund, L.P., which purchased 6,237 shares of Series B Preferred Stock (convertible into 29,319 shares of our common stock). Merchant Bankers, Inc. is deemed to beneficially own these shares. Merchant Bankers, Inc. is a wholly-owned subsidiary of Morgan Keegan & Co., Inc. In connection with the sale of the Series B Preferred Stock, we paid placement agent fees of $253,000 to Morgan Keegan & Co., Inc. Mr. Tobin, a director, is a Vice President of PAR Capital Management, Inc ("PAR Capital"). A three year warrant for 141,000 shares of our common stock has also been issued to PAR Investment Partners, L.P. ("PIP") at an exercise price of $3.76 per share. PAR Capital is a Delaware S Corporation and the sole general partner of PAR Group, L.P. ("PAR Group"). The principal business of PAR Capital is to act as the general partner of PAR Group. PAR Group is a Delaware limited partnership and the sole general partner of PIP. The principal business of PAR Group is that of a private investment partnership engaging in the purchase and sale of securities for its own account. PIP is a Delaware limited partnership and its principal business is that of a private investment partnership engaging in the purchase and sale of securities for its own account. Mr. Sundheim is a partner of the law firm Doty, Sundheim & Gilmore, a professional corporation, which provides legal services to us. For the year ended June 30, 2001, we paid Doty, Sundheim & Gilmore $195,000 for legal services rendered and $9,000 for the period from our inception through June 30, 2000. - -------------------------------------------------------------------------------- 60 66 RELATED PARTY TRANSACTIONS - -------------------------------------------------------------------------------- In May 2001, we sold 245,659 shares of our Series C Preferred Stock for $5.5 million; these shares are convertible into 1,154,597 shares of our common stock. Purchasers included the following officers, directors and 5% stockholders.
SHARES OF COMMON STOCK SHARES OF SERIES C ISSUABLE UPON CONVERSION OF PURCHASER PREFERRED STOCK PURCHASED SERIES C PREFERRED STOCK PURCHASED - ------------------------------------------------------------------------------------------------------------------------ Merchant Bankers, Inc. (1)............................. 88,680 416,796 PAR Investment Partners, L.P........................... 88,680 416,796 Anthony R. Williams.................................... 13,302 62,519 Raymond C. Musci....................................... 13,302 62,519 Robert W. Holmes, Jr................................... 6,651 31,260 Mark Dyne.............................................. 4,434 20,840 Steven J. Massarsky(2)................................. 2,217 10,420 Stephen M. Ambler (3).................................. 1,109 5,212 FIMAS, L.P. ........................................... 900 4,230 Joseph P. Morici (4)................................... 887 4,169
(1) Merchant Bankers, Inc. is the general partner of Morgan Keegan Early Stage Fund, L.P., which purchased 70,944 (convertible into 333,437 shares of our common stock) shares of Series C Preferred Stock, and Morgan Keegan Employee Investment Fund, L.P., which purchased 17,736 (convertible into 83,359 shares of our common stock) shares of Series C Preferred Stock. Merchant Bankers, Inc. is deemed to beneficially own these shares. (2) Mr. Massarsky is one of our directors. (3) Mr. Ambler is our Chief Financial Officer and Vice President of Finance. (4) Mr. Morici is our Vice President of Sales and Marketing. In connection with the sale of the Series C Preferred Stock, we paid placement agent fees of $200,000 and issued a five-year warrant to purchase 16,450 shares of common stock at a per share exercise price of $4.80 to Morgan Keegan & Co., Inc. In May 2001, Franchise Films and its president assigned 68,738 shares of our common stock, 21,937 shares of our Series A Preferred Stock (convertible into 103,104 shares of our common stock) and the right to be issued up to 599,838 shares of our common stock to Selected Ventures, LLC, a Delaware limited liability company. Mark Dyne owns 25% of Selected Ventures, LLC. Anthony R. Williams has accrued approximately $113,000 in salary that has not yet been paid to him. Mr. Musci has accrued approximately $281,000 in salary that has not yet been paid to him. These amounts will be paid with a portion of the proceeds of this offering. - -------------------------------------------------------------------------------- 61 67 - -------------------------------------------------------------------------------- Principal stockholders The following table sets forth information regarding the beneficial ownership of our common stock and redeemable convertible preferred stock on an as converted basis as of August 1, 2001 for each of the following persons: + all executive officers, including the Named Executive Officers; + all directors; and + each person who is known by us to beneficially own prior to this offering 5% or more of our common stock. Beneficial ownership is determined in accordance with the rules of the Securities and Exchange Commission. In computing the number of shares beneficially owned by a person and the percentage of ownership of that person, shares of common stock subject to options or warrants held by that person that are currently exercisable or become exercisable within 60 days of August 1, 2001 are included. Those shares, however, are not deemed outstanding for the purpose of computing the percentage ownership of any other person. Each stockholder's percentage of ownership in the following table is based upon 8,666,255 shares of common stock and redeemable convertible preferred stock on an as converted basis outstanding as of August 1, 2001. Unless otherwise indicated in the table, the persons and entities named in the table have sole voting and sole investment power with respect to the shares set forth opposite the stockholder's name. All share numbers and percentages assume no exercise of the underwriters over-allotment option. Unless otherwise indicated, the address of each beneficial owner listed below is c/o: BAM! Entertainment, Inc., 333 West Santa Clara Street, Suite 716, San Jose, California 95113.
PERCENTAGE OF SHARES BENEFICIALLY OWNED NUMBER OF SHARES -------------------- BENEFICIALLY BEFORE AFTER NAME OF BENEFICIAL OWNER OWNED OFFERING OFFERING - ------------------------------------------------------------------------------------------------------ Raymond C. Musci............................................ 3,044,966 35.1% 25.0% Anthony R. Williams (1)..................................... 2,267,882 26.2 18.6 PAR Investment Partners, L.P. (2)........................... 1,489,811 16.9 12.1 David E. Tobin One Financial Center, Suite 1600 Boston, MA 02111 Robert W. Holmes, Jr. (3)................................... 747,882 8.5 6.1 Merchant Bankers, Inc. (4).................................. 549,942 6.3 4.5 50 North Front Street, 19th Floor Memphis, TN 38103 Spyglass Entertainment Group, L.P. (5)...................... 470,000 5.1 3.7 500 S. Buena Vista Street Burbank, CA 91521-1855 George M. Sundheim III (6).................................. 124,277 1.4 1.0 Mark Dyne (7)............................................... 95,061 1.1 * Joseph P. Morici(8)......................................... 11,024 * * Steven J. Massarsky......................................... 10,420 * * Stephen M. Ambler........................................... 5,212 * * Robert T. Slezak............................................ -- -- -- Anthony G. Williams......................................... -- -- -- All directors and executive officers as a group (10 persons) (1)(2)(3)(4)(6)(7)............................... 7,785,510 87.2% 62.7%
* Less than 1%. (1) Mr. Williams' shares of common stock and Series A and Series B Preferred Stock are currently held in an irrevocable trust administered by Breams Trust Limited. Although Breams Trust Limited has the power to dispose of trust property, Mr. Williams has the right to appoint new or additional trustees and to require any trustee to resign. - -------------------------------------------------------------------------------- 62 68 PRINCIPAL STOCKHOLDERS - -------------------------------------------------------------------------------- (2) Includes 141,000 shares of our common stock issuable upon exercise of a warrant exercisable within 60 days held by PAR Investment Partners, L.P. PAR Group, L.P. is a Delaware limited partnership and the sole general partner of PAR Investment Partners, L.P. PAR Capital Management, Inc. is a Delaware S corporation and the sole general partner of PAR Group, L.P. Messrs. Paul A. Reeder, III, Frederick S. Downs, Jr., Arthur G. Epker, III and Edward L. Shapiro are deemed to be controlling shareholders of PAR Capital Management, Inc. and exercise voting and/or dispositive power over PAR Investment Partners, L.P. Mr. Tobin is a Vice President of PAR Capital Management, Inc. and disclaims beneficial ownership of the shares held by this entity except to the extent of his pecuniary interest in the shares. (3) Includes 99,484 options exercisable within 60 days. (4) Merchant Bankers, Inc. is the general partner of Morgan Keegan Early Stage Fund, L.P., which holds 22,092 shares of our Series B Preferred Stock (convertible into 103,832 shares of our common stock), Morgan Keegan Employee Investment Fund, L.P., which holds 6,237 shares of Series B Preferred Stock (convertible into 29,314 shares of our common stock) and 17,736 shares of our Series C Preferred Stock (convertible into 83,359 shares of our common stock) and Morgan Keegan Opportunity Fund L.P., which holds 70,944 shares of our Series C Preferred Stock (convertible into 333,437 shares of our common stock). Merchant Bankers, Inc. is deemed to beneficially own these shares. Merchant Bankers, Inc. is a wholly-owned subsidiary of Morgan Keegan & Co., Inc. Excludes 16,450 shares of common stock issuable upon exercise of a warrant exercisable within 60 days held by Morgan Keegan & Co., Inc., of which Merchant Bankers, Inc. disclaims beneficial ownership. (5) Represents shares of our common stock issuable upon exercise of warrants exercisable within 60 days. (6) Includes 45,825 shares of common stock held by D&S Partners, and 17,183 shares of our common stock, 10,969 shares of our Series A Preferred Stock (convertible into 51,554 shares of our common stock) and 900 shares of our Series C Preferred Stock (convertible into 4,230 shares of our common stock) held by FIMAS, L.P., of which Mr. Sundheim is a general partner. Mr. Sundheim disclaims beneficial ownership of the shares held by these entities except to the extent of his pecuniary interest in these shares. Also includes 5,484 options exercisable within 60 days. (7) Includes 5,484 options exercisable within 60 days. Excludes 103,104 shares of common stock, 21,938 shares of Series A Preferred Stock (convertible into 103,109 shares of our common stock) and the right to be issued up to 618,637 shares of common stock held by Selected Ventures, LLC which is 25% owned by Mr. Dyne and as to which he disclaims beneficial ownership. (8) Includes 6,854 options exercisable within 60 days. - -------------------------------------------------------------------------------- 63 69 - -------------------------------------------------------------------------------- Description of capital stock The following information describes our common stock and preferred stock, as well as options to purchase our common stock, and provisions of our certificate of incorporation and our bylaws, all as will be in effect upon the completion of this offering. This description is only a summary. You should also refer to our certificate of incorporation and bylaws which have been filed with the Securities and Exchange Commission as exhibits to our registration statement, of which this prospectus forms a part. The descriptions of the common stock and preferred stock, as well as options to purchase our common stock, reflect changes to our capital structure that will occur upon the completion of this offering in accordance with the terms of the certificate of incorporation. As of June 30, 2001, all outstanding shares of our capital stock were held of record by 25 stockholders. Our authorized capital stock consists of 100,000,000 shares of common stock, par value $0.001 per share and 10,000,000 shares of authorized preferred stock, par value $0.001 per share. COMMON STOCK We are authorized to issue 100,000,000 shares of common stock, par value $0.001 per share. As of June 30, 2001, options to purchase an aggregate of 814,275 shares of our common stock, and warrants to purchase 674,450 shares of our common stock and a contractual obligation to issue 618,637 shares of our common stock were outstanding. Subsequent to June 30, 2001, (1) a warrant to purchase 100,000 shares of our common stock was issued to Transcap Associates, Inc. and (2) options to purchase an aggregate of 200,935 shares of our common stock were issued. There will be 12,166,255 shares of our common stock outstanding after giving effect to the sale of the shares offered in this offering. + Voting rights -- The holders of our common stock are entitled to one vote for each share held of record. + Dividends -- Holders of record of shares of our common stock are entitled to receive dividends when, if and as may be declared by the board of directors out of funds legally available for such purposes, subject to the rights of preferred stockholders. We presently intend to retain future earnings, if any, for use in the operation and expansion of our business and do not anticipate paying cash dividends in the foreseeable future. + Liquidation rights -- Upon our liquidation, dissolution or winding-up, the holders of our common stock are entitled to share ratably in all assets available for distributions after payment in full to creditors and holders of preferred stock. + Other provisions -- The holders of our common stock are not entitled to cumulative voting, preemptive rights, subscription rights or the right to convert their common stock into any other securities. There are no redemption or sinking fund provisions applicable to the common stock. All outstanding shares are, and the shares of our common stock sold in the offering will be validly issued, fully paid and nonassessable. PREFERRED STOCK Upon the closing of this offering, all outstanding shares of our redeemable convertible preferred stock will be automatically converted into 4.7 shares of our common stock. Thereafter, our board of directors has the authority, without action by our stockholders, to issue up to 10,000,000 shares of preferred stock in one or more series and to designate the rights, preferences and privileges of each series, any or all of which may be greater than the rights of the common stock. The effect of the issuance of any shares of preferred stock upon the rights of holders of the common stock may include diluting the voting power of the common stock, impairing the liquidation rights of the common stock and delaying or preventing a change in control of our company without further action by the stockholders. - -------------------------------------------------------------------------------- 64 70 DESCRIPTION OF CAPITAL STOCK - -------------------------------------------------------------------------------- OPTIONS As of June 30, 2001, options to purchase a total of 814,275 shares of common stock were outstanding at prices ranging from $0.46 to $13.00. Subsequent to June 30, 2001, options to purchase 182,135 shares of our common stock were granted at an exercise price of $11.70 under our 2000 Stock Incentive Plan and options to purchase 18,800 shares were granted at an exercise price of $4.70 outside of our 2000 Stock Incentive Plan. Additional options to purchase a total of 548,715 shares of common stock may be granted under our 2000 Stock Incentive Plan. See "Management -- 2000 Stock Incentive Plan." WARRANTS As of June 30, 2001, warrants to purchase a total of 674,450 shares of common stock were outstanding at prices ranging from $1.06 to $4.80. Subsequent to June 30, 2001, we issued Transcap Associates, Inc. a warrant to purchase 100,000 shares of our common stock. The warrant is exercisable six months following the closing of this offering at a per share exercise price equal to the initial public offering price. The right to exercise the warrant terminates on August 30, 2004 or on December 31, 2001 if this offering has not occurred by that date. CONTINGENT ISSUANCES OF COMMON STOCK We are obligated to issue up to 687,375 shares of our common stock pursuant to a license agreement with a production studio. Pursuant to the terms of that license agreement, we have agreed to issue 68,738 shares of our common stock following the theatrical release of each film for which we have developed a software title, up to ten films. To date, we have issued 68,738 shares under this agreement. AUTHORIZED BUT UNISSUED CAPITAL STOCK Following the completion of this offering, there will be 87,833,745 shares of authorized but unissued common stock, or 87,308,745 if the underwriters' over-allotment option is exercised in full. Of this amount, 1,527,500 shares of common stock are reserved for issuance upon exercise of options outstanding or available for future grant under our 2000 Stock Incentive Plan. A total of 674,450 shares of common stock are also issuable upon the exercise of warrants that were outstanding as of June 30, 2001. Subsequent to June 30, 2001, we issued Transcap Associates, Inc. a warrant to purchase 100,000 shares of our common stock. In addition, following the completion of this offering, there will be 10,000,000 shares of authorized preferred stock. Delaware law does not require stockholder approval for the issuance of authorized shares. However, the listing requirements of The Nasdaq Stock Market, Inc., which apply so long as the common stock remains included in that inter-dealer quotation system, require prior stockholder approval of specified issuances, including certain issuances of shares at a price less than the greater of book or market value bearing voting power equal to or exceeding 20% of the pre-issuance outstanding voting power or pre-issuance outstanding number of shares of common stock. These additional shares could be used for a variety of corporate purposes, including, but not limited to, facilitating corporate acquisitions. One of the effects of the unissued and unreserved common stock and preferred stock may be to enable our board of directors to issue shares to persons who may agree or be inclined to vote in concert with current management on issues put to consideration of stockholders, which issuance could render more difficult or discourage an attempt to obtain control of us by means of a merger, tender offer, proxy contest or otherwise, and protect the continuity of our management and possibly deprive our stockholders of the opportunity to sell their shares of common stock at prices higher than prevailing market prices. DELAWARE ANTI-TAKEOVER LAW AND CHARTER AND BYLAW PROVISIONS We are subject to the provisions of Section 203 of the Delaware General Corporation Law. In general, this statute prohibits a publicly-held Delaware corporation from engaging in a "business combination" with an "interested stockholder" for a period of three years after the date that the person became an interested stockholder unless, with - -------------------------------------------------------------------------------- 65 71 DESCRIPTION OF CAPITAL STOCK - -------------------------------------------------------------------------------- certain exceptions, the business combination or the transaction in which the person became an interested stockholder is approved in a prescribed manner. Generally, a "business combination" includes a merger, asset or stock sale, or other transaction resulting in a financial benefit to the stockholder. Generally, an "interested stockholder" is a person who, together with affiliates and associates, owns or within three years prior, did own 15% or more of the corporation's voting stock. These provisions may have the effect of delaying, deferring or preventing a change in control of us without further action by our stockholders. Our certificate of incorporation and bylaws contain provisions that could have the effect of discouraging potential acquisition proposals or making a tender offer or delaying or preventing a change in control of our company, including changes a stockholder might consider favorable. In particular, our certificate of incorporation and bylaws, as applicable, among other things, will: + provide our board of directors with the ability to alter our bylaws without stockholder approval; + provide that special meetings of stockholders can only be called by our president or secretary at the request in writing of a majority of the members of our board of directors or holders of at least 10% of the total voting power of all outstanding shares of stock entitled to vote. In addition, the business permitted to be conducted at any special meeting of stockholders is limited to the business brought before the meeting by our board of directors or the stockholders; + provide for an advance notice procedure with regard to the nomination, other than by or at the direction of the board of directors, of candidates for election as directors and with regard to business to be brought before a meeting of stockholders; + provide that vacancies on our board of directors may be filled by a majority of directors in office, although less than a quorum; and + allow us to issue up to 10,000,000 shares of preferred stock with rights senior to those of the common stock and that otherwise could adversely affect the rights and powers, including voting rights, of the holders of common stock. In some circumstances, this issuance could have the effect of decreasing the market price of our common stock, as well as having the anti-takeover effects discussed above. Such provisions may have the effect of discouraging a third-party from acquiring us, even if doing so would be beneficial to our stockholders. These provisions are intended to enhance the likelihood of continuity and stability in the composition of our board of directors and in the policies formulated by them, and to discourage some types of transactions that may involve an actual or threatened change in control of our company. These provisions are designed to reduce our vulnerability to an unsolicited acquisition proposal and to discourage some tactics that may be used in proxy fights. We believe that the benefits of increased protection of our potential ability to negotiate with the proponent of an unfriendly or unsolicited proposal to acquire or restructure our company outweigh the disadvantages of discouraging such proposals because, among other things, negotiation of such proposals could result in an improvement of their terms. However, these provisions could have the effect of discouraging others from making tender offers for our shares that could result from actual or rumored takeover attempts. These provisions also may have the effect of preventing changes in our management. TRANSFER AGENT AND REGISTRAR The transfer agent and registrar for our common stock is American Stock Transfer Corporation, New York, New York. - -------------------------------------------------------------------------------- 66 72 - -------------------------------------------------------------------------------- Shares eligible for future sale Prior to this offering, there has been no market for our common stock. Future sales of substantial amounts of our common stock in the public market could adversely affect prevailing market prices. Furthermore, only a limited number of shares will be available for sale shortly after this offering because of contractual and legal restrictions on resale (as described below), sales of substantial amounts of our common stock in the public market after the restrictions lapse could adversely affect the prevailing market price and our ability to raise equity capital in the future. Upon completion of this offering, we will have outstanding 12,166,255 shares of our common stock. Of these shares, the 3,500,000 shares sold in the offering, plus any shares issued upon exercise of the underwriters' over-allotment option, will be freely tradable without restriction under the Securities Act, unless purchased by our "affiliates" as that term is defined in Rule 144 under the Securities Act, which generally would be our officers, directors and 10% stockholders. The remaining 8,666,255 shares outstanding are "restricted securities" within the meaning of Rule 144 under the Securities Act. Restricted securities may be sold in the public market only if registered or if they qualify for an exemption from registration, such as the exemption provided under Rules 144 or 701 promulgated under the Securities Act, which are summarized below. Sales of the restricted securities in the public market, or the availability of such shares for sale, could adversely affect the market price of the common stock. All of our securityholders have entered into lock-up agreements providing that they will not offer, sell, contract to sell or grant any option to purchase or otherwise dispose of our common stock or any securities exercisable for or convertible into our common stock owned by them for a period of 180 days after the effective date of the registration statement filed pursuant to this offering without the prior written consent of UBS Warburg LLC. As a result of these contractual restrictions, notwithstanding possible earlier eligibility for sale under an effective registration statement or an exemption from registration, shares subject to lock-up agreements may not be sold until such agreements expire or are waived by UBS Warburg LLC. Among the factors that UBS Warburg LLC may consider in consenting to an early release of such shares are the condition of the securities markets in general and the market price and trading activity of our common stock and the personal requirements of the subject stockholder in particular. UBS Warburg LLC has advised us that it has no present intention to release any of the shares subject to the lock-up agreements prior to the expiration of the lock-up period. Taking into account the lock-up agreements, and assuming UBS Warburg LLC does not release stockholders from these agreements, the following shares will be eligible for sale in the public market at the following times: + beginning on the effective date of the offering, only the shares sold in this offering will be immediately available for sale in the public market; + 7,442,920 shares will become eligible for sale pursuant to Rule 144 beginning 180 days after the date of this prospectus, 68,738 shares will be eligible for sale in April 2002 and 1,154,597 shares will be eligible for sale in May 2002. Shares eligible to be sold by affiliates pursuant to Rule 144 are subject to volume restrictions as described below; and + 774,450 shares issuable upon exercise of outstanding warrants and 618,637 shares issuable pursuant to a contractual arrangement will be eligible for sale one year after issuance. In general, under Rule 144 currently in effect, and beginning after the expiration of the lock-up agreements, a person, or persons whose shares are aggregated, who has beneficially owned restricted shares for at least one year would be entitled to sell within any three-month period a number of shares that does not exceed the greater of: + 1% of the number of shares of common stock then outstanding, which will equal approximately 121,663 shares immediately after the offering; or - -------------------------------------------------------------------------------- 67 73 SHARES ELIGIBLE FOR FUTURE SALE - -------------------------------------------------------------------------------- + the average weekly trading volume of the common stock on the Nasdaq National Market during the four calendar weeks preceding the sale. Sales under Rule 144 are also subject to manner of sale provisions and notice requirements and to the availability of current public information about us. Under Rule 144(k), a person who is not deemed to have been an affiliate of us at any time during the three months preceding a sale, and who has beneficially owned the shares proposed to be sold for at least two years, is entitled to sell shares without complying with the manner of sale, public information, volume limitation or notice provisions of Rule 144. Beginning 90 days after the effective date, any employee, officer or director of or consultant to us who purchased shares pursuant to a written compensatory plan or contract may be entitled to rely on the resale provisions of Rule 701. Rule 701 permits affiliates to sell their Rule 701 shares under Rule 144 without complying with the holding period requirements of Rule 144. Rule 701 further provides that non-affiliates may sell such shares in reliance on Rule 144 without having to comply with the holding period, public information, volume limitation or notice provisions of Rule 144. In addition, we intend to file registration statements under the Securities Act as promptly as possible after the effective date to register shares to be issued pursuant to our employee benefit plans. As a result, any options exercised under our 2000 Stock Incentive Plan or any of our other benefit plans after the effectiveness of such registration statement will also be freely tradable in the public market following the expiration of the 180-day lock-up period, except that shares held by affiliates will still be subject to the volume limitation, manner of sale, notice and public information requirements of Rule 144 unless otherwise resalable under Rule 701. The sale of a significant number of these shares could cause the price of our common stock to decline. - -------------------------------------------------------------------------------- 68 74 - -------------------------------------------------------------------------------- Underwriting We and the underwriters for the offering named below have entered into an underwriting agreement concerning the shares being offered. Subject to conditions, each underwriter has severally agreed to purchase the number of shares indicated in the following table. UBS Warburg LLC and Jefferies & Co., Inc. are the representatives of the underwriters.
NUMBER UNDERWRITER OF SHARES - ----------------------------------------------------------------------- UBS Warburg LLC............................................. Jefferies & Co., Inc........................................ --------- Total....................................................... 3,500,000 =========
If the underwriters sell more shares than the total number set forth in the table above, the underwriters have a 30-day option to buy from us up to an additional 525,000 shares at the initial public offering price less the underwriting discounts and commissions to cover these sales. If any shares are purchased under this option, the underwriters will severally purchase shares in approximately the same proportion as set forth in the table above. The following table shows the per share and total underwriting discounts and commissions we will pay to the underwriters. These amounts are shown assuming both no exercise and full exercise of the underwriters' option to purchase up to an additional 525,000 shares.
NO EXERCISE - ------------------------------------------------------------------------- FULL EXERCISE Per share................................................... $ $ Total....................................................... $ $
We estimate that the total expenses of the offering payable by us, excluding underwriting discounts and commissions, will be approximately . Shares sold by the underwriters to the public will initially be offered at the initial public offering price set forth on the cover of this prospectus. Any shares sold by the underwriters to securities dealers may be sold at a discount of up to $ per share from the initial public offering price. Any of these securities dealers may resell any shares purchased from the underwriters to other brokers or dealers at a discount of up to $ per share from the initial public offering price. If all the shares are not sold at the initial public offering price, the representatives may change the offering price and the selling terms. The underwriters have informed us that they do not expect discretionary sales to exceed % of the shares of common stock to be offered. All of our securityholders have agreed with the underwriters not to offer, sell, contract to sell, hedge or otherwise dispose of, directly or indirectly, or file with the SEC a registration statement under the Securities Act relating to, any shares of our common stock or securities convertible into or exchangeable for shares of common stock during the period from the date of this prospectus continuing through the date 180 days after the date of this prospectus, without the prior written consent of UBS Warburg LLC. Among the factors that UBS Warburg LLC may consider in consenting to an early release of such shares are the condition of the securities markets in general and the market price and trading activity of our common stock and the personal requirements of the subject stockholder in particular. UBS Warburg LLC has advised us that it has no present intention to release any of the shares subject to the lock-up agreements prior to the expiration of the lock-up period. The underwriters have reserved for sale, at the initial public offering price, shares of our common stock being offered for sale to our customers and business partners. At the discretion of our management, other parties, including our employees, may participate in this reserved shares program. The number of shares available for sale to the general public in the offering will be reduced to the extent these persons purchase reserved shares. Any reserved shares not so purchased will be offered by the underwriters to the general public on the same terms as the other shares. - -------------------------------------------------------------------------------- 69 75 UNDERWRITING - -------------------------------------------------------------------------------- Prior to this offering, there has been no public market for our common stock. The initial public offering price will be negotiated by us and the representatives. The principal factors to be considered in determining the initial public offering price will include: + the information set forth in this prospectus and otherwise available to the representatives; + the history and the prospects for the industry in which we compete; + the abilities of our management; + our prospects for future earnings, the present state of our development and our current financial position; + the general condition of the securities markets at the time of this offering; and + recent market prices of, and demand for, publicly traded common stock of comparable companies. In connection with the offering, the underwriters may purchase and sell shares of our common stock in the open market. These transactions may include short sales, stabilizing transactions and purchases to cover positions created by short sales. Short sales involve the sale by the underwriters of a greater number of shares than they are required to purchase in the offering. "Covered" short sales are sales made in an amount not greater than the underwriters' option to purchase additional shares from us in the offering. The underwriters may close out any covered short position by either exercising their option to purchase additional shares or purchasing shares in the open market. In determining the source of shares to close out the covered short position, the underwriters will consider, among other things, the price of shares available for purchase in the open market as compared to the price at which they may purchase shares through the overallotment option. "Naked" short sales are any sales in excess of the overallotment option. The underwriters must close out any naked short position by purchasing shares in the open market. A naked short position is more likely to be created if the underwriters are concerned that there may be downward pressure on the price of the common stock in the open market after pricing that could adversely affect investors who purchase in the offering. Stabilizing transactions consist of bids or purchases made for the purpose of preventing or retarding a decline in the market price of our common stock while the offering is in progress. The underwriters also may impose a penalty bid. This occurs when a particular underwriter repays to the underwriters a portion of the underwriting discount received by it because the representatives have repurchased shares sold by or for the account of that underwriter in stabilizing or short covering transactions. These activities by the underwriters may stabilize, maintain or otherwise affect the market price of our common stock. As a result, the price of our common stock may be higher than the price that otherwise might exist in the open market. If these activities are commenced, they may be discontinued by the underwriters at any time. These transactions may be effected on the Nasdaq National Market, in the over-the-counter market or otherwise. We have agreed to indemnify the several underwriters against liabilities, including liabilities under the Securities Act and to contribute to payments that the underwriters may be required to make in respect thereof. - -------------------------------------------------------------------------------- 70 76 - -------------------------------------------------------------------------------- Legal matters Kirkpatrick & Lockhart LLP, Los Angeles, California, will pass for us on the validity of the common stock offered hereby. Brobeck, Phleger & Harrison LLP, Palo Alto, California, is acting as counsel for the underwriters in connection with selected legal matters. An affiliate of Kirkpatrick & Lockhart LLP owns 1,109 shares of our Series C Preferred Stock (convertible into 5,212 shares of our common stock) and holds a warrant to purchase 47,000 shares of our common stock at an exercise price of $4.80 per share. Experts The consolidated financial statements as of June 30, 2000 and 2001 and for the period from October 7, 1999 (inception) through June 30, 2000 and for the year ended June 30, 2001 included in this prospectus and the related consolidated financial statement schedule included elsewhere in the registration statement have been audited by Deloitte & Touche LLP, independent auditors, as stated in their reports appearing herein and elsewhere in the registration statement, and have been so included in reliance upon the reports of such firm given upon their authority as experts in accounting and auditing. Where you can find additional information We filed a registration statement on Form S-1 under the Securities Act with the SEC to register the shares of our common stock offered by this prospectus. This prospectus does not contain all of the information set forth in the registration statement and the exhibits to the registration statement. You should refer to the registration statement and the exhibits and schedules to the registration statement for more information about us and our common stock. Our statements in this prospectus concerning the contents of any document are not necessarily complete, and in each instance, we refer you to the copy of the document filed as an exhibit to the registration statement. Each statement about those documents is qualified in its entirety by this reference. Following this offering, we will become subject to the reporting requirements of the Securities Exchange Act of 1934. In accordance with that law, we will be required to file reports and other information with the SEC. The registration statement and exhibits, as well as those reports and other information when we file them, may be inspected without charge at the public reference facilities maintained by the SEC at 450 Fifth Street, N.W., Washington, D.C. 20549, and at the regional offices of the SEC located at Seven World Trade Center, 13th Floor, New York, New York 10048, and the Northwestern Atrium Center, 500 West Madison Street, Suite 1400, Chicago, Illinois 60661. Please call the SEC at 1-800-SEC-0330 for further information on the operation of the public reference facilities. Copies of all or any part of the registration statement may be obtained from the SEC's offices upon payment of fees prescribed by the SEC. The SEC maintains a World Wide Web site that contains reports, proxy and information statements and other information regarding registrants that file electronically with the SEC. The address of the site is http://www.sec.gov. We will furnish to our stockholders annual reports and unaudited quarterly reports for the first three quarters of each fiscal year. Annual reports will include audited consolidated financial statements prepared in accordance with accounting principles generally accepted in the United States of America. The consolidated financial statements included in those annual reports will be audited and reported upon, with an opinion expressed, by our independent auditors. - -------------------------------------------------------------------------------- 71 77 BAM! ENTERTAINMENT, INC. AND SUBSIDIARIES - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- Index to Consolidated Financial Statements
PAGE - ------------------------------------------------------------------- Independent Auditors' Report................................ F-2 Consolidated Balance Sheets as of June 30, 2000 and 2001.... F-3 Consolidated Statements of Operations for the Period from October 7, 1999 (inception) through June 30, 2000 and the Year Ended June 30, 2001.................................. F-4 Consolidated Statements of Stockholders' Equity (Deficit) and Comprehensive Loss for the Period from October 7, 1999 (inception) through June 30, 2000 and the Year Ended June 30, 2001.................................................. F-5 Consolidated Statements of Cash Flows for the Period from October 7, 1999 (inception) through June 30, 2000 and the Year Ended June 30, 2001.................................. F-6 Notes to Consolidated Financial Statements.................. F-7
- -------------------------------------------------------------------------------- F- 1 78 - -------------------------------------------------------------------------------- INDEPENDENT AUDITORS' REPORT To the Board of Directors and Stockholders of BAM! Entertainment, Inc.: We have audited the accompanying consolidated balance sheets of BAM! Entertainment, Inc. and its subsidiaries (the "Company") as of June 30, 2000 and 2001, and the related consolidated statements of operations, stockholders' equity (deficit) and comprehensive loss, and cash flows for the period from October 7, 1999 (inception) through June 30, 2000 and the year ended June 30, 2001. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of the Company as of June 30, 2000 and 2001, and the results of its operations and its cash flows for the period from October 7, 1999 (inception) through June 30, 2000 and for the year ended June 30, 2001 in conformity with accounting principles generally accepted in the United States of America. DELOITTE & TOUCHE LLP San Jose, California August 15, 2001 (August 31, 2001 as to the last two paragraphs of Note 15) - -------------------------------------------------------------------------------- F- 2 79 BAM! ENTERTAINMENT, INC. AND SUBSIDIARIES - -------------------------------------------------------------------------------- CONSOLIDATED BALANCE SHEETS (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
PRO FORMA JUNE 30, JUNE 30, ---------------- 2001 2000 2001 (UNAUDITED) - ---------------------------------------------------------------------------------------------- ASSETS Current assets: Cash and cash equivalents................................. $ 908 $ 2,170 Accounts receivable, net of allowance of $77 as of June 30, 2000 and $1,163 as of June 30, 2001................. 1,299 7,372 Inventories............................................... 6 1,463 Prepaid royalties, capitalized software costs and licensed assets.................................................. 368 5,924 Prepaid expenses and other................................ 52 393 ------ ------- Total current assets............................... 2,633 17,322 Prepaid royalties, capitalized software and licensed assets, net of current portion.................................... -- 1,545 Property and equipment, net................................. 79 395 Other assets................................................ -- 1,730 ------ ------- Total assets....................................... $2,712 $20,992 ====== ======= LIABILITIES, REDEEMABLE CONVERTIBLE PREFERRED STOCK AND STOCKHOLDERS' EQUITY (DEFICIT) Current liabilities: Accounts payable -- trade................................. $ 118 $ 1,489 Short-term borrowings..................................... 610 4,164 Royalties payable......................................... 248 310 Accrued compensation and related benefits................. 221 1,026 Accrued software costs.................................... -- 781 Accrued expenses -- other................................. 118 562 ------ ------- Total current liabilities.......................... 1,315 8,332 Redeemable convertible preferred stock; $0.001 par value; shares authorized: 10,000,000; shares issued and outstanding: 976,220 and 1,516,499 as of June 30, 2000 and 2001, respectively, none issued and outstanding on a pro forma basis............................................... 2,103 17,329 Stockholders' equity (deficit): Common stock, $0.001 par value; shares authorized: 100,000,000; shares issued and outstanding: 1,469,972 and 1,538,710 as of June 30, 2000 and 2001, respectively, 8,666,255 issued and outstanding on a pro forma basis............................................. 1 1 $ 9 Additional paid-in capital................................ 97 5,375 22,696 Receivable from stockholder............................... (1) -- -- Deferred stock compensation............................... -- (2,096) (2,096) Accumulated deficit....................................... (803) (7,945) (7,945) Accumulated other comprehensive loss...................... -- (4) (4) ------ ------- ------- Total stockholders' equity (deficit)........................ (706) (4,669) $12,660 ------ ------- ======= Total liabilities and stockholders' equity (deficit)......................................... $2,712 $20,992 ====== =======
See notes to consolidated financial statements - -------------------------------------------------------------------------------- F- 3 80 BAM! ENTERTAINMENT, INC. AND SUBSIDIARIES - -------------------------------------------------------------------------------- CONSOLIDATED STATEMENTS OF OPERATIONS (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
PERIOD FROM OCTOBER 7, 1999 (INCEPTION) YEAR THROUGH ENDED JUNE 30, JUNE 30, 2000 2001 - ------------------------------------------------------------------------------------ Net revenues................................................ $ 1,377 $25,351 Costs and expenses: Cost of revenues: Cost of goods sold...................................... 807 14,827 Royalties, software costs, license costs, and project abandonment............................................ 248 2,898 ----------- ------- Total cost of revenues............................. 1,055 17,725 Research and development (exclusive of amortization of deferred stock compensation)............................ 260 1,073 Sales and marketing (exclusive of amortization of deferred stock compensation)..................................... 132 4,292 General and administrative (exclusive of amortization of deferred stock compensation)............................ 711 1,996 Amortization of deferred stock compensation*.............. -- 618 ----------- ------- Total costs and expenses........................... 2,158 25,704 ----------- ------- Loss from operations........................................ (781) (353) Interest income............................................. 8 58 Interest expense............................................ (39) (1,325) Other income................................................ 9 18 ----------- ------- Net loss.................................................... (803) (1,602) Redeemable convertible preferred stock dividend............. -- (5,540) ----------- ------- Net loss attributable to common stockholders................ $ (803) $(7,142) =========== ======= Net loss per share: Basic and diluted......................................... $ (0.96) $ (4.82) =========== ======= Shares used in computation: Basic and diluted......................................... 834 1,482 =========== ======= Pro forma net loss per share (Note 1): Basic and diluted (unaudited)............................. $ (0.94) $ (1.04) =========== ======= Shares used in pro forma computation (Note 1): Basic and diluted (unaudited)............................. 851 6,898 =========== ======= * Amortization of deferred stock compensation: Research and development.................................. $ -- $ 72 Sales and marketing....................................... -- 28 General and administrative................................ -- 518 ----------- ------- $ -- $ 618 =========== =======
See notes to consolidated financial statements - -------------------------------------------------------------------------------- F- 4 81 BAM! ENTERTAINMENT, INC. AND SUBSIDIARIES - -------------------------------------------------------------------------------- CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT) AND COMPREHENSIVE LOSS (IN THOUSANDS, EXCEPT SHARE AMOUNTS)
ACCUMULATED COMMON STOCK ADDITIONAL RECEIVABLE DEFERRED OTHER --------------------- PAID-IN FROM STOCK ACCUMULATED COMPREHENSIVE SHARES AMOUNT CAPITAL STOCKHOLDER COMPENSATION DEFICIT LOSS - ----------------------------------------------------------------------------------------- Issuance of common stock for note receivable.... 580,962 $ -- $ 1 $ (1) $ -- $ -- $-- Issuance of common stock for services........... 343,683 -- 37 -- -- -- -- Sale of common stock.... 545,327 1 59 -- -- -- -- Net loss and comprehensive loss..... -- -- -- -- -- (803) -- --------- --------- --------- --------- ---------- ---------- --- Balance, June 30, 2000................... 1,469,972 1 97 (1) -- (803) -- Issuance of common stock in connection with a license agreement...... 68,738 -- 746 -- -- -- -- Issuance of common stock warrants in connection with a license agreement.............. -- -- 910 -- -- -- -- Issuance of common stock warrants to a service provider in connection with Series B redeemable convertible preferred stock........ -- -- 283 -- -- -- -- Issuance of common stock warrants to a service provider in connection with Series C redeemable convertible preferred stock........ -- -- 159 -- -- -- -- Issuance of common stock warrants to a service provider in connection with a proposed initial public offering........ -- -- 456 -- -- -- -- Issuance of stock options to consultant............. -- -- 10 -- -- -- Deferred stock compensation........... -- -- 2,714 -- (2,714) -- -- Collection of note receivable from stockholder............ -- -- -- 1 -- -- -- Amortization of deferred stock compensation..... -- -- -- -- 618 -- -- Net loss................ -- -- -- -- -- (1,602) -- Redeemable convertible preferred stock dividend............... -- -- -- -- -- (5,540) -- Change in accumulated other comprehensive loss................... -- -- -- -- -- -- (4) Comprehensive loss...... -- -- -- -- -- -- -- --------- --------- --------- --------- ---------- ---------- --- Balance, June 30, 2001................... 1,538,710 $ 1 $ 5,375 $ -- $ (2,096) $ (7,945) $(4) ========= ========= ========= ========= ========== ========== === TOTAL STOCKHOLDERS' EQUITY TOTAL (DEFICIT) COMPREHENSIVE - ------------------------ LOSS Issuance of common stock for note receivable.... $ -- Issuance of common stock for services........... 37 Sale of common stock.... 60 Net loss and comprehensive loss..... (803) ---------- Balance, June 30, 2000................... (706) Issuance of common stock in connection with a license agreement...... 746 Issuance of common stock warrants in connection with a license agreement.............. 910 Issuance of common stock warrants to a service provider in connection with Series B redeemable convertible preferred stock........ 283 Issuance of common stock warrants to a service provider in connection with Series C redeemable convertible preferred stock........ 159 Issuance of common stock warrants to a service provider in connection with a proposed initial public offering........ 456 Issuance of stock options to consultant............. 10 Deferred stock compensation........... -- Collection of note receivable from stockholder............ 1 Amortization of deferred stock compensation..... 618 Net loss................ (1,602) $ (1,602) Redeemable convertible preferred stock dividend............... (5,540) -- Change in accumulated other comprehensive loss................... (4) (4) ---------- Comprehensive loss...... -- $ (1,606) ---------- ========== Balance, June 30, 2001................... $ (4,669) ==========
See notes to consolidated financial statements - -------------------------------------------------------------------------------- F- 5 82 BAM! ENTERTAINMENT, INC. AND SUBSIDIARIES - -------------------------------------------------------------------------------- CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS)
PERIOD FROM OCTOBER 7, 1999 (INCEPTION) THROUGH YEAR ENDED JUNE 30, JUNE 30, 2000 2001 - ------------------------------------------------------------------------------------------------ Cash flows from operating activities: Net loss.................................................... $ (803) $(1,602) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization............................. 12 1,859 Provision for bad debts and price protection.............. 77 1,989 Consulting services performed in exchange for common stock and options............................................. 37 10 Consulting services performed in exchange for redeemable convertible preferred stock............................. 96 -- Other..................................................... -- (4) Changes in operating assets and liabilities: Accounts receivable..................................... (1,376) (8,062) Inventories............................................. (6) (1,457) Prepaid expenses and other.............................. (52) 115 Prepaid royalties, capitalized software costs and licensed assets........................................ (368) (6,581) Accounts payable - trade................................ 118 1,371 Royalties payable....................................... 248 62 Accrued compensation and related benefits............... 221 805 Accrued software costs.................................. -- 781 Accrued expenses - other................................ 118 444 ------- ------ Net cash used in operating activities................. (1,678) (10,270) ------- ------ Cash flows from investing activities: Purchase of property and equipment........................ (91) (421) Increase in other assets.................................. -- (1,730) ------- ------ Net cash used in investing activities................. (91) (2,151) ------- ------ Cash flows from financing activities: Net proceeds from issuance of promissory notes............ 1,047 -- Advances under short-term borrowings...................... 610 14,912 Repayments of short-term borrowings....................... -- (11,358) Net proceeds from issuance of common stock................ 60 -- Collection of note receivable from stockholder............ -- 1 Net proceeds from issuance of redeemable convertible preferred stock......................................... 960 10,128 ------- ------ Net cash provided by financing activities............. 2,677 13,683 ------- ------ Net increase in cash and cash equivalents................... 908 1,262 Cash and cash equivalents, beginning of period.............. -- 908 ------- ------ Cash and cash equivalents, end of period.................... $ 908 $2,170 ======= ====== Noncash investing and financing activities: Conversion of promissory notes to redeemable convertible preferred stock......................................... $ 1,047 $ -- ======= ====== Issuance of common stock for promissory notes............. $ 1 $ -- ======= ====== Issuance of common stock in connection with license agreement............................................... $ -- $ 746 ======= ====== Issuance of common stock warrants in connection with license agreement....................................... $ -- $ 910 ======= ====== Issuance of common stock warrants to a service provider in connection with a proposed initial public offering...... $ -- $ 456 ======= ====== Issuance of common stock warrants in connection with redeemable convertible preferred stock.................. $ -- $ 442 ======= ====== Deferred stock compensation............................... $ -- $2,714 ======= ======
See notes to consolidated financial statements - -------------------------------------------------------------------------------- F- 6 83 BAM! ENTERTAINMENT, INC. AND SUBSIDIARIES - -------------------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS PERIOD FROM OCTOBER 7, 1999 (INCEPTION) THROUGH JUNE 30, 2000, AND YEAR ENDED JUNE 30, 2001 1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Organization and Business -- BAM! Entertainment, Inc. and subsidiaries (the "Company") is a developer and publisher of interactive entertainment software products for popular interactive entertainment hardware platforms. The Company licenses popular properties that have consumer recognition and appeal from a wide variety of sources and publishes software based on their motion picture, television, sports and cartoon character properties. The Company sells its software to mass merchandisers and independent distributors. Principles of Consolidation -- The consolidated financial statements include the Company and its wholly-owned subsidiaries in the United Kingdom. All intercompany transactions and balances have been eliminated in consolidation. Stock Split -- In May 2000, the Company effected a reverse common stock split of 0.195 to one with an adjusted par value of $0.001. On August 15, 2001, the Company effected a common stock split of 4.7 to one with an adjusted par value of $0.001 and increased the number of authorized shares of common stock to 100,000,000 shares and preferred stock to 10,000,000 shares. All common share and per share amounts in these consolidated financial statements have been adjusted to give effect to these stock splits. Foreign Currency Translation -- The functional currency for the Company's foreign operations is the applicable local currency. The translation of the applicable foreign currencies into U.S. dollars is performed for balance sheet accounts using exchange rates in effect at the balance sheet date and for revenue and expense accounts using a weighted-average exchange rate during the period. The gains or losses resulting from such translation are reported as a separate component of equity as accumulated other comprehensive loss, whereas gains or losses resulting from foreign currency transactions are included in results of operations. Use of Estimates -- The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Such estimates include, but are not limited to: allowances for price protection, uncollectible accounts receivable and sales returns; inventory valuations; recoverability of prepaid royalties, capitalized software costs and licensed assets; depreciation and amortization; taxes and contingencies. Actual results could differ from those estimates. Certain Significant Risks and Uncertainties -- Financial instruments which potentially subject the Company to concentrations of credit risk consist primarily of cash and cash equivalents and accounts receivable. Cash and cash equivalents are held with one financial institution and consist primarily of cash in bank accounts. The Company generates revenue primarily from large retailers in the United States and generally does not require its customers to provide collateral or other security to support accounts receivable. To reduce credit risk, management performs ongoing credit evaluations of its customers' financial condition and maintains allowances for estimated potential bad debt losses. The Company participates in a dynamic high-technology industry and believes that changes in any of the following areas could have a material adverse effect on the Company's future financial position, results of operations or cash flows: ability to obtain future financing; advances and trends in new technologies and industry standards; competitive pressures in the form of new and more popular products by competitors; changes in the overall demand by customers and consumers for products offered by the Company; unexpected quantities of product returns and mark-down allowances; changes in certain strategic relationships or customer relationships; the loss of significant customers; litigation or claims against the Company based on intellectual property, patent, product, regulatory or other factors; the inability to procure the necessary third-party licenses or proprietary software needed to develop its products; risk associated with changes in domestic and international economic and/or political conditions or regulations; risks - -------------------------------------------------------------------------------- F- 7 84 BAM! ENTERTAINMENT, INC. AND SUBSIDIARIES - -------------------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) associated with regulation within the industry; availability of necessary product components; the Company's ability to attract and retain employees necessary to support its growth; the Company's reliance on senior management; the Company's limited operating history; inability to manage the growth of the business; delays and cost overruns on products under development; risks associated with development of products by third-party developers; failure to anticipate changing consumer preferences; dependence on hardware manufacturers for the provision of the platforms necessary to generate revenue; the Company's inability to protect its proprietary rights or to avoid claims from other companies; short product life cycles; and the reliance on platform manufacturers in manufacturing the Company's products. Cash and Cash Equivalents -- The Company considers all highly liquid debt instruments purchased with maturities at the date of purchase of three months or less to be cash equivalents. The recorded carrying amounts of the Company's cash and cash equivalents approximate their fair market value due to their short maturities. Inventories -- Inventories, which consist primarily of finished goods, are stated at the lower of cost (based upon the first-in, first-out method) or market value. The Company estimates the net realizable value of slow moving inventories on a product-by-product basis and charges the excess of cost over net realizable value to cost of revenues. Property and Equipment -- Property and equipment are stated at cost. Depreciation is computed using the straight-line method over the estimated useful lives of the assets of three years. Prepaid Royalties, Capitalized Software Costs and Licensed Assets -- Advance royalty payments for intellectual property licenses are capitalized and recorded as prepaid royalties. Royalty payments for intellectual property licenses are classified as current assets to the extent they relate to anticipated sales during the subsequent year and long-term assets if the sales are anticipated after one year. Royalty payments are based on sales and royalties are generally payable on a quarterly basis. Prepaid royalties are amortized to cost of revenues commencing upon the product release at the greater of the contractual royalty rate based on actual product sales, or the ratio of current revenues to total projected revenues. The Company evaluates the future recoverability of prepaid royalties on a quarterly basis and expenses them to costs of revenue if and when they are deemed unrecoverable. The Company utilizes both independent software developers (who are paid advances against future royalties) and internal development teams to develop its software. The Company accounts for prepaid royalties relating to development agreements and capitalized software costs in accordance with Statement of Financial Accounting Standards ("SFAS") No. 86, Accounting for the Costs of Computer Software to be Sold, Leased, or Otherwise Marketed. Payments made to independent software developers under development agreements are capitalized to software development costs once technological feasibility is established or if the development costs have an alternative future use. Prior to establishing technological feasibility, software development costs are expensed to research and development and to cost of revenues subsequent to technological feasibility. Internal development costs are capitalized to software development costs once technological feasibility is established. Technological feasibility is evaluated on a product-by-product basis. For products where proven game engine technology exists, this may occur early in the development cycle. Commencing upon product release, capitalized software development costs are amortized to "royalties, software costs, license costs and project abandonment." Software development costs are expensed if and when they are deemed unrecoverable. The following criteria are used to evaluate recoverability of software development costs: the commercial acceptance of prior products released on a given hardware platform; orders for a product prior to its release; and actual development costs of a product as compared to forward-looking projections. Amortization of such costs is based on the greater of the proportion of current revenues to total projected revenues, or the straight-line method over the estimated product life (generally three to six months). The Company evaluates the future recoverability of capitalized amounts on a quarterly basis. Research and development costs are expensed as incurred. - -------------------------------------------------------------------------------- F- 8 85 BAM! ENTERTAINMENT, INC. AND SUBSIDIARIES - -------------------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) Fair Value of Financial Instruments -- The Company's financial instruments include cash equivalents and short-term debt. Cash equivalents are stated at cost, which approximates fair market value, based on quoted market prices. The recorded carrying amount of the Company's short-term debt approximates fair value since such debt instruments bear interest at rates which approximate market rates. Long-Lived Assets -- The Company evaluates long-lived assets, such as property and equipment and certain identifiable intangibles for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by comparison of the carrying amount of an asset to future undiscounted net cash flows expected to be generated by the asset. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the fair value of the assets, as defined in SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and for Long- Lived Assets To Be Disposed Of. Income Taxes -- The Company accounts for income taxes under an asset and liability approach. Deferred income taxes reflect the impact of temporary differences between assets and liabilities recognized for financial reporting purposes and such amounts recognized for income tax reporting purposes, and operating loss and other tax credit carryforwards measured by applying currently enacted tax laws. Valuation allowances are provided when necessary to reduce net deferred tax assets to an amount that is more likely than not to be realized in the future. Stock-Based Compensation -- The Company accounts for stock-based awards to employees using the intrinsic value method in accordance with Accounting Principles Board Opinion (APB) No. 25, Accounting for Stock Issued to Employees, and to nonemployees using the fair value method in accordance with SFAS No. 123, Accounting for Stock-Based Compensation. Redeemable Convertible Preferred Stock Dividend -- Beneficial conversion charges arise in connection with financing arrangements where the Company has issued redeemable convertible preferred stock at a discount to the deemed fair market value of the common stock of the Company at the commitment date, which is generally the date of issuance. Depending on the nature and purpose of the arrangement, the Company values the beneficial conversion feature by subtracting the related effective conversion price from the deemed fair value of the Company's common stock, and then multiplying the difference by the number of shares of common stock that would be issued upon conversion. The value of the beneficial conversion feature is limited to the relative fair value of the converted instrument. The Company records as a deduction of stockholders' equity the value of the beneficial conversion feature and accretes this value over the expected period that the redeemable convertible preferred stock becomes convertible. Revenue Recognition -- The Company recognizes revenue in accordance with Statement of Position 97-2, Software Revenue Recognition, and related interpretations, when persuasive evidence of an arrangement exists, delivery has occurred, the price has been fixed or is determinable and collectibility has been reasonably assured. This occurs when finished goods in the form of software on a cartridge, CD-ROM or similar media are shipped to the customer. Subject to certain limitations, the Company permits customers to obtain exchanges and returns for defective and damaged products within certain specified periods and provides price protection on certain unsold merchandise. On a product by product basis, revenue from product sales is reflected net of the allowance for returns and price protection. The Company estimates the amount of future returns, and price protection based upon current known circumstances and historical results. No right of return exists for sales to distributors. Cost of Revenues -- Cost of revenues includes manufacturing costs of the finished goods, freight, and inventory management costs. Advertising -- Advertising and sales promotion costs are generally expensed as incurred. Advertising costs were $54,000 and $2,160,000 for the period from October 7, 1999 (inception) through June 30, 2000 and the year ended June 30, 2001, respectively. - -------------------------------------------------------------------------------- F- 9 86 BAM! ENTERTAINMENT, INC. AND SUBSIDIARIES - -------------------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) Net Loss per Share -- Basic earnings per share (EPS) excludes dilution and is computed by dividing net loss attributable to common shareholders by the weighted average number of common shares outstanding for the period excluding the weighted average common shares subject to repurchase. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common stock (redeemable convertible preferred stock, common stock options and warrants using the treasury stock method) were exercised or converted into common stock. Potential common shares in the diluted EPS computation are excluded in net loss periods as their effect would be antidilutive. Unaudited Pro Forma Net Loss per Share -- Pro forma net loss per share, basic and diluted, is computed to give effect to the conversion of redeemable convertible preferred stock that will automatically convert upon completion of the Company's initial public offering (using the if-converted method). Unaudited Pro Forma Information -- The unaudited pro forma information in the accompanying consolidated balance sheet assumes that the conversion of the outstanding shares of redeemable convertible preferred stock into 7,127,545 shares of common stock resulting from the completion of an initial public offering had actually occurred on June 30, 2001. Common shares issued resulting from such an initial public offering and its related estimated net proceeds are excluded from such pro forma information. Comprehensive Loss -- In fiscal 2000, the Company adopted SFAS No. 130, Reporting Comprehensive Income, which requires that an enterprise report, by major components and as a single total, the change in its net assets during the period from nonowner sources. Comprehensive loss for the period from October 7, 1999 (inception) through June 30, 2000, and for the year ended June 30, 2001 has been disclosed within the statement of stockholders' equity (deficit). Recently Adopted Accounting Pronouncements -- In June 1998, the Financial Accounting Standards Board (FASB) issued SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities. This statement requires companies to record derivatives on the balance sheet as assets or liabilities, measured at fair value. Gains or losses resulting from changes in the values of those derivatives would be accounted for depending on the use of the derivative and whether it qualifies for hedge accounting. SFAS No. 133 was effective for the Company beginning in the first quarter of fiscal year 2001. The Company adopted SFAS No. 133 on July 1, 2001 and the adoption did not have a significant impact on the Company's consolidated financial statements during the year ended June 30, 2001. In December 1999, the Securities and Exchange Commission issued Staff Accounting Bulletin No. 101 (SAB 101), Revenue Recognition in Financial Statements. SAB 101 summarizes certain of the staff's views in applying generally accepted accounting principles in the United States to revenue recognition in financial statements and provides interpretations regarding the application of generally accepted accounting principles to revenue recognition where there is an absence of authoritative literature addressing a specific arrangement or a specific industry. SAB 101 was effective for the Company in the fourth quarter of fiscal 2001. The Company's revenue recognition practices comply with the applicable guidance in SAB 101 and the adoption of SAB 101, therefore did not have a material effect on the financial statements for the year ended June 30, 2001. In March 2000, the FASB issued Financial Accounting Standards Board Interpretation No. 44, Accounting for Certain Transactions Involving Stock Compensation ("FIN 44"), an interpretation of APB No. 25. FIN 44 clarifies the application of APB No. 25 for various issues, specifically: + The definition of an employee, + The criteria for determining whether a plan qualifies as a noncompensatory plan, + The accounting consequence of various modifications to the terms of a previously fixed stock option or award, and + The accounting for an exchange of stock compensation awards in a business combination. - -------------------------------------------------------------------------------- F- 10 87 BAM! ENTERTAINMENT, INC. AND SUBSIDIARIES - -------------------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) FIN No. 44 was effective July 1, 2000, but certain conclusions cover specific events that occur after either December 15, 1998 or January 12, 2000. The impact of FIN 44 did not have a material effect on the Company's financial statements. In June 2001, the FASB issued SFAS No. 141, Business Combinations, and SFAS No. 142, Goodwill and Other Intangible Assets. SFAS No. 141 requires that all business combinations initiated after June 30, 2001 be accounted for under the purchase method and addresses the initial recognition and measurement of goodwill and other intangible assets acquired in a business combination. SFAS No. 142 addresses the initial recognition and measurement of intangible assets acquired outside of a business combination and the accounting for goodwill and other intangible assets subsequent to their acquisition. SFAS No. 142 provides that intangible assets with finite useful lives be amortized and that goodwill and intangible assets with indefinite lives not be amortized, but will instead be tested at least annually for impairment. The Company is required to adopt SFAS No. 142 no later than for its fiscal year beginning July 1, 2002. The Company did not carry any goodwill or other intangibles on its balance sheet as of June 30, 2001 and accordingly does not expect the adoption to have material impact on its consolidated financial statements. 2. PREPAID ROYALTIES, CAPITALIZED SOFTWARE COSTS AND LICENSED ASSETS Prepaid royalties, capitalized software costs and licensed assets consisted of the following as of June 30:
2000 2001 (In thousands) - ------------------------------------------------------------------------------ Prepaid royalties........................................... $ 150 $ 1,181 Capitalized software costs.................................. 218 4,681 Licensed assets............................................. -- 1,607 ----- ------- 368 7,469 Less current portion: Prepaid royalties......................................... (150) (1,181) Capitalized software costs................................ (218) (3,926) Licensed assets........................................... -- (817) ----- ------- (368) (5,924) ----- ------- Long term portion........................................... $ -- $ 1,545 ===== =======
During the period from October 7, 1999 (inception) through June 30, 2000 and the year ended June 30, 2001, the Company amortized $0 and $954,000, respectively, of capitalized software costs and recorded $0 and $134,000, respectively, of impaired prepaid royalties and capitalized software costs as part of project abandonment costs. 3. PROPERTY AND EQUIPMENT, NET Property and equipment consisted of the following as of June 30:
2000 2001 (In thousands) - ---------------------------------------------------------------------------- Furniture and equipment..................................... $ 27 $ 145 Computer equipment.......................................... 23 305 Computer software........................................... 41 62 ---- ----- 91 512 Less accumulated depreciation and amortization.............. (12) (117) ---- ----- Total property and equipment, net.................. $ 79 $ 395 ==== =====
- -------------------------------------------------------------------------------- F- 11 88 BAM! ENTERTAINMENT, INC. AND SUBSIDIARIES - -------------------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 4. OTHER ASSETS Other assets comprise issuance costs in connection with the Company's proposed initial public offering of $0 and $1,730,000 as of June 30, 2000 and 2001, respectively. 5. SHORT-TERM BORROWINGS FINANCING AGREEMENT In February 2000, the Company entered into a master purchase order assignment agreement (the "Agreement") with a finance company, whereby the Company assigns purchase orders entered into with its customers to the finance company and requests the finance company to finance the purchase of the finished goods to fulfill such customer purchase orders. The Agreement specifies that the finance company's funding commitment with respect to a customer purchase order shall not exceed 60% of the retail purchase order price. Under the Agreement the finance company's aggregate outstanding funding (i.e., advance of funds or purchase of finished goods to fulfill customer purchase orders) shall not exceed $5,000,000. The Company is responsible for collecting customer receivables, bears the risk of loss on all uncollectible accounts and must remit these receipts directly to the finance company up to the amounts funded by the finance company. The Company retains collections in excess of the amounts funded by the finance company. The Company is required to pay the finance company's expenses under the contract, a deal fee (consisting of a transaction and initiation fee equal to 5.0% of the face amounts of letters of credit issued or other funds advanced by the finance company), a daily maintenance fee of 0.067%, a materials advance fee at prime rate plus 4.0% and a late payment fee where applicable; all of which are included in interest expense. Upon the signing of the agreement, the Company paid the finance company a security deposit of $90,000. An extension payment of $50,000 was made when the contract was amended in December 2000. The agreement expires on March 31, 2002. The amount outstanding under the agreement as of June 30, 2000 and 2001 was $610,000 and $4,164,000, respectively. Outstanding borrowings under the above agreement are collateralized by inventories, accounts receivable, fixed assets and intangible assets of the Company. As of June 30, 2001, the Company had outstanding letters of credit issued of $2,019,000. Management does not expect any material losses to result from these off-balance sheet instruments. LINE OF CREDIT In November 2000, the Company entered into a short-term revolving line of credit with a bank under which it could borrow up to $1,000,000. In May 2001 all sums borrowed were repaid and the line of credit was closed. Sums borrowed under the line were secured by restricted cash held in a money market account with the same bank, and interest was payable on sums borrowed at the bank's base rate. 6. REDEEMABLE CONVERTIBLE PREFERRED STOCK AND COMMON STOCK REDEEMABLE CONVERTIBLE PREFERRED STOCK Under the Company's certificate of incorporation, as amended on August 15, 2001, the Company is authorized to issue 10,000,000 shares of redeemable convertible preferred stock. The Company issued 976,220 shares of Series A redeemable convertible preferred stock on June 30, 2000 for cash, services and through the conversion of promissory notes. On December 28, 2000, the Company issued 294,620 shares of Series B redeemable convertible preferred - -------------------------------------------------------------------------------- F- 12 89 BAM! ENTERTAINMENT, INC. AND SUBSIDIARIES - -------------------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) stock and on May 24, 2001, the Company issued 245,659 shares of Series C redeemable convertible preferred stock. As of June 30, 2001, redeemable convertible preferred stock consisted of the following:
CARRYING VALUE, ORIGINAL NET OF PAR ISSUE ISSUANCE SHARES ISSUED AND VALUE LIQUIDATION COMMON PRICE COSTS DESIGNATED OUTSTANDING AMOUNT PREFERENCE STOCK (in thousands) (in thousands) EQUIVALENTS - --------------------------------------------------------------------------------------------------------------------------------- Series A...................... $ 2.17 $ 2,103 976,220 976,220 $0.001 $ 2,118 4,588,234 Series B...................... $17.65 $ 4,554 320,000 294,620 $0.001 $ 5,389 1,384,714 Series C...................... $22.55 $10,672 443,400 245,659 $0.001 $ 5,578 1,154,597 ------- --------- --------- ------- --------- $17,329 1,739,620 1,516,499 $13,085 7,127,545 ======= ========= ========= ======= =========
Significant terms of the redeemable convertible preferred stock are as follows: + Each share of Series A, Series B and Series C redeemable convertible preferred stock is convertible into 4.7 shares of common stock, subject to adjustments for events of dilution, at the option of the holder any time after the date of issuance. In addition, each share of redeemable convertible preferred stock will automatically be converted into common stock upon the completion of a public offering of common stock with aggregate proceeds greater than $15,000,000. + If, as, and when declared by the Board of Directors, the holders of Series A, Series B and Series C redeemable convertible preferred stock are entitled to receive noncumulative dividends at the rate of $0.03, $1.25 and $1.58 per share per annum, respectively, in preference to holders of common shares. + In the event of liquidation, dissolution or winding up of the Company, the holders of Series A redeemable convertible preferred stock shall be entitled to receive, prior and in preference to common stock, an amount equal to the original issuance price of $2.17 per share, plus any declared but unpaid dividends thereon. The holders of Series B redeemable preferred stock shall be entitled to receive, prior and in preference to common stock and Series A redeemable convertible preferred stock, an amount equal to the original issuance price of $17.65 per share plus an amount per each outstanding share of Series B redeemable convertible preferred stock equal to 7.0% per annum accruing on the Series B redeemable convertible stock issuance price of $17.65 per share, calculated from the date of issuance until the date of payment of the liquidation preference, plus any declared, but unpaid dividends thereon. The holders of Series C redeemable convertible preferred stock shall be entitled to receive, prior and in preference to common stock and Series A and Series B redeemable convertible preferred stock, an amount equal to the original issuance price of $22.55 per share plus an amount per each outstanding share of Series C redeemable convertible preferred stock equal to 7.0% per annum accruing on the Series C redeemable convertible stock issuance price of $22.55 per share, calculated from the date of issuance until the date of payment of the liquidation preference, plus any declared, but unpaid dividends thereon. If the amount that would have been payable if the conversion of the redeemable convertible preferred stock took place prior to the liquidation event is greater than the amounts specified above, this amount will be payable. Any remaining assets will be distributed to the holders of common stock. + In the event of a change in control or sale or disposition of substantially all of the Company's assets, a majority of the preferred shareholders may elect to require the Company to redeem the redeemable convertible preferred stock at the above liquidation preference. + Each share has the voting rights equivalent to the number of shares of common stock into which it is convertible. - -------------------------------------------------------------------------------- F- 13 90 BAM! ENTERTAINMENT, INC. AND SUBSIDIARIES - -------------------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) COMMON STOCK In October 1999, the Company issued 580,962 shares of common stock to its founder in exchange for a note receivable from the founder. Also in October 1999, the Company issued 274,950 shares at $0.11 per share to consultants in exchange for services performed valued at $30,000. In June 2000, an additional 614,060 shares were issued at $0.11 per share in exchange for cash of $59,000 and services valued at $7,000. As discussed in Note 13, in April, 2001, the Company issued an additional 68,738 shares of common stock pursuant to a license agreement with a production company. The Company was obligated to issue 68,738 shares of common stock as one of the films for which the Company elected to produce software products was released by the production company. The Company capitalized the cost of this issuance at the fair market value of the common stock, equal to $746,000, and will amortize this amount to royalties, software costs, license costs and project abandonment upon the release of software products. Note Receivable from Stockholder -- At June 30, 2000, the note receivable from stockholder represented a full-recourse promissory note of $1,000 received in connection with the sale of common stock. The note bore interest at 7.0% and was payable on demand. The note was repaid in April 2001. WARRANTS Warrants to purchase a total of 674,450 shares of common stock have been issued as of June 30, 2001 as follows: Under an agreement (the "Agreement") entered into with a production company during October 2000, the Company obtained the exclusive right of first refusal, for a period of five years, to develop products based on films produced by the production company and to distribute them worldwide. In addition, the production company will provide the Company with free access to any publicity materials it prepares. In exchange for these rights, the Company will have to pay royalties to the production company calculated as a percentage of sales of the developed products. Also, in connection with the Agreement the Company issued the production company warrants to purchase 470,000 shares of common stock at an exercise price of $1.06 per share. The warrants expire in September 2006. Under the warrant agreement, 50% of the warrants became vested and exercisable upon execution of the Agreement, while the remaining warrants became vested in equal portions in December 2000, representing the dates on which the production company delivered, in accordance with the Agreement, written notice that a specific film will be available to be exploited by the Company and when the Company exercised its right of first refusal for another film under the Agreement. The fair value of these warrants at the grant date was estimated to be $708,000, using the Black-Scholes option pricing model with the following assumptions: expected term equal to six years; risk-free interest rate of 5.8%; volatility of 95%; and no dividends during the expected term. Of this amount $354,000 relates to 50% of the warrants that vested upon execution of the Agreement and will be amortized on a straight-line basis over the five-year term of the Agreement. The fair value of the remaining 50% of the warrants has been estimated at the date of vesting using the Black-Scholes option pricing model with the following assumptions: expected term equal to six years; risk-free interest rate of 5.0%; volatility of 95%; and no dividends during the expected term. In December 2000, when the remaining warrants vested, the fair value of the remaining 50% of the warrants of $556,000 was capitalized to prepaid royalties, capitalized software costs and licensed assets and will be amortized over the life of the products (generally between three and six months) to which it relates when these products are released. During the year ended June 30, 2001, $48,000 was amortized to royalties, software costs, license costs, and project abandonment. In connection with the Series B redeemable convertible preferred stock offering, the Company issued warrants to a service provider to purchase 141,000 shares of its common stock at an exercise price of $3.76 per share. The warrants expire on the earlier of either (i) December 2003, (ii) upon the completion of a public offering of common stock with aggregate proceeds greater than $15,000,000 and at a price per share not less than $15.96 per share or (iii) upon the completion of a subsequent private equity financing or in the event of a change in control, sale or - -------------------------------------------------------------------------------- F- 14 91 BAM! ENTERTAINMENT, INC. AND SUBSIDIARIES - -------------------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) disposition of substantially all of the Company's assets or recapitalization, reclassification or reorganization of the Company's stock resulting in aggregate proceeds greater than $10,000,000 and at a price per share not less than $7.45 per share. The value of these warrants has been estimated using the Black-Scholes option pricing model with the following assumptions: expected term equal to three years; risk-free interest rate of 5.1%; volatility of 95%; and no dividends during the expected term. The fair value of these warrants of $283,000 was recorded as an issuance cost against the proceeds of the Series B redeemable convertible preferred stock offering. In connection with the Series C redeemable convertible preferred stock offering, the Company issued warrants to a service provider to purchase 16,450 shares of its common stock at an exercise price of $4.80 per share. The warrants expire in May 2006. The value of these warrants has been estimated using the Black-Scholes option pricing model with the following assumptions: expected term equal to five years; risk-free interest rate of 5.1%; volatility of 95%; and no dividends during the expected term. The fair value of these warrants of $159,000 was recorded as an issuance cost against the proceeds of the Series C redeemable convertible preferred stock offering. The Company calculated the beneficial conversion feature related to the issuance of the 245,659 shares of Series C redeemable convertible preferred stock, in accordance with EITF 00-27 "Application of Issue No. 98-5 to Certain Convertible Instruments" as follows: + The Company calculated the difference between the aggregate deemed fair market value of the common stock into which the Series C redeemable convertible preferred stock is convertible of $13,200,000, and the aggregate purchase price paid for the Series C redeemable convertible preferred stock of $5,540,000, i.e. $7,660,000, and limited the amount of the deemed dividend that will be recorded against the accumulated deficit to the gross amount of proceeds allocated to these shares of Series C redeemable convertible preferred stock to $5,540,000 in accordance with paragraph 6 of EITF 98-5 "Accounting for Convertible Securities with Beneficial Conversion Features or Contingently Adjustable Conversion Ratios" + Since the shares of Series C redeemable convertible preferred stock are immediately convertible, the Company has recorded the amount of the deemed dividend in the financial statements for the year ended June 30, 2001. In May 2001, in exchange for legal services rendered by a service provider in connection with a proposed initial public offering, the Company issued warrants to purchase 47,000 shares of its common stock at an exercise price of $4.80 per share. The warrants expire in May 2006. The value of these warrants has been estimated using the Black-Scholes option pricing model with the following assumptions: expected term equal to five years; risk-free interest rate of 5.1%; volatility of 95%; and no dividends during the expected term. The fair value of these warrants of $456,000 was capitalized to other assets and will be recorded as an issuance cost in connection with a proposed initial public offering. STOCK PLANS Under the Company's 2000 Stock Incentive Plan adopted on July 10, 2000, and amended in May 2001 and on August 15, 2001, the Company may grant options to purchase or directly issue up to 1,527,500 shares of common stock to employees, directors and consultants at prices not less than the fair market value (as determined by the Board of Directors) at the date of grant for incentive stock options and not less than 85% of fair market value at the date of grant for nonstatutory stock options. These options generally vest over a four year period and expire ten years from the date of grant. The Company has a right to repurchase (at the lesser of the fair market value on the date of repurchase and option exercise price, with the right to repurchase the shares at the original exercise price lapsing ratably in accordance with the vesting schedule of the options granted) common stock issued under option exercises for unvested shares. The right to repurchase generally expires 25% after the first 12 months from the date of grant and then ratably over a 36-month period. The Board of Directors, in their determination of fair market value on the date of grant, takes into consideration many factors including, but not limited to, the Company's financial performance, current economic trends, actions by - -------------------------------------------------------------------------------- F- 15 92 BAM! ENTERTAINMENT, INC. AND SUBSIDIARIES - -------------------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) competitors, market maturity, emerging technologies, near-term backlog and, in certain circumstances, valuation analyses performed by independent appraisers. These valuation analyses utilize generally accepted valuation methodologies such as the income and market approaches to valuing the Company's business. At June 30, 2001 there were 713,225 shares of common stock available for future grant under the plan. Stock option activity under the stock plans is summarized as follows:
OPTIONS OUTSTANDING --------------------- WEIGHTED AVERAGE NUMBER OF EXERCISE SHARES PRICE - ---------------------------------------------------------------------------------- Balances, June 30, 2000..................................... -- $ -- Granted (weighted average fair value of $3.74 per share).... 833,075 3.21 Cancelled................................................... (18,800) 0.46 --------- -------- Balances, June 30, 2001..................................... 814,275 $ 3.28 ========= ========
Additional information regarding options outstanding as of June 30, 2001 is as follows:
OPTIONS OUTSTANDING --------------------------------------------------------- WEIGHTED AVERAGE RANGE OF EXERCISE REMAINING CONTRACTUAL WEIGHTED AVERAGE PRICES NUMBER OF SHARES LIFE (YEARS) EXERCISE PRICE - ---------------------------------------------------------------------------- $ 0.01 - 0.50... 166,850 9.0 $ 0.46 $ 1.01 - 1.50... 204,450 9.3 $ 1.06 $ 3.51 - 4.00... 130,425 9.8 $ 3.76 $ 4.51 - 5.00... 265,550 9.9 $ 4.79 $12.51 - 13.00... 47,000 9.9 $ 13.00 ---------------- ---------------- 814,275 $ 3.28 ================ ================
VESTED OPTIONS -------------------------- WEIGHTED AVERAGE RANGE OF EXERCISE EXERCISE PRICES NUMBER OF SHARES PRICE - --------------------------------------------- $0.01 - 0.50..... 23,500 $ 0.46 $4.51 - 5.00..... 47,000 $ 4.79 ---------------- -------- 70,500 $ 3.35 ================ ========
DEFERRED STOCK COMPENSATION As discussed in Note 1, the Company accounts for its stock-based awards to employees using the intrinsic value method in accordance with APB No. 25. Accordingly, the Company records deferred stock compensation equal to the difference between the grant price and deemed fair value of the Company's common stock on the date of grant. No deferred stock compensation was recorded for the period from October 7, 1999 (inception) through June 30, 2000. Deferred stock compensation aggregated $2,714,000 for the year ended June 30, 2001, and is being amortized to expense over the vesting period of the options, generally four years, using a multiple option award valuation approach, which results in accelerated amortization of the expense resulting in amortization of deferred stock compensation of $618,000 for the year ended June 30, 2001. - -------------------------------------------------------------------------------- F- 16 93 BAM! ENTERTAINMENT, INC. AND SUBSIDIARIES - -------------------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) During the year ended June 30, 2001, the Company granted options to purchase 23,500 shares of common stock to a nonemployee at a weighted average exercise price of $0.46 per share. These options vested on the date of grant and expire ten years from the date of grant. The fair value of these options at grant date was estimated to be $10,000 using the Black-Scholes option pricing model with the following assumptions: expected term equal to 10 years; risk-free interest rate of 6.1%; volatility of 95%; and no dividends during the expected term. ADDITIONAL STOCK PLAN INFORMATION Since the Company continues to account for its stock-based awards to employees using the intrinsic value method in accordance with APB No. 25, SFAS No. 123 requires the disclosure of pro forma net income (loss) as if the Company had adopted the fair value method. Under SFAS No. 123, the fair value of stock-based awards is calculated through the use of option pricing models, even though such models were developed to estimate the fair value of freely tradable, fully transferable options without vesting restrictions, which significantly differ from the Company's stock option awards. The Company's calculations were made using the minimum value pricing model, which requires subjective assumptions, including expected time to exercise, which greatly affects the calculated values. The following weighted average assumptions were used in the model for the year ended June 30, 2001: expected life, 4 years; risk-free interest rate, 5.9%; and no dividends during the expected term. The Company's calculations are based on a multiple option award valuation and amortization approach, which results in accelerated amortization of the expense. Forfeitures are recognized as they occur. If the computed fair values of the employee awards had been amortized to expense over the vesting period of the awards, the Company's pro forma net loss would have been $803,000 and $1,678,000 ($0.96 and $1.13 per share, basic and diluted) for the period from October 7, 1999 (inception) through June 30, 2000 and the year ended June 30, 2001, respectively. 7. COST OF REVENUES -- ROYALTIES, SOFTWARE COSTS, LICENSE COSTS, AND PROJECT ABANDONMENT Cost of Revenues -- Royalties, Software Costs, License Costs, and Project Abandonment include amortization of non-cash licensed assets of $0 and $48,000 for the period from October 7, 1999 (inception) through June 30, 2000 and for the year ended June 30, 2001, respectively. See also Note 6. 8. INCOME TAXES Due to the Company's net loss position, there was no income tax provision for the period October 7, 1999 (inception) through June 30, 2000 and for the year ended June 30, 2001. Significant components of the Company's net deferred tax assets consist of the following as of June 30:
2000 2001 (in thousands) - ---------------------------------------------------------------------------- Deferred tax assets: Deferred stock compensation............................... $ -- $ 208 Non-qualified warrants.................................... -- 20 Reserves and accruals..................................... 124 312 Net operating loss carryforwards -- Federal and State..... 203 55 -- Foreign............... -- 253 Other..................................................... (2) 27 ----- ----- Total deferred tax assets................................... 325 875 Valuation allowance......................................... (325) (875) ----- ----- Net deferred tax asset...................................... $ -- $ -- ===== =====
The Company established a 100% valuation allowance at June 30, 2000 and 2001 due to the uncertainty of realizing future tax benefits from its net operating loss carryforwards and other deferred tax assets. - -------------------------------------------------------------------------------- F- 17 94 BAM! ENTERTAINMENT, INC. AND SUBSIDIARIES - -------------------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) At June 30, 2001, the Company has federal and state net operating loss carryforwards of approximately $16,000 and $860,000, respectively, expiring through 2021 and 2011, respectively. Foreign net operating loss carryforwards at June 30, 2001 are approximately $844,000. During the year ended June 30, 2001, the Company utilized federal net operating loss carryforwards of approximately $370,000 to offset taxable income. Current federal and California laws include substantial restrictions on the utilization of net operating losses and credits in the event of an "ownership change" of a corporation. Accordingly, the Company's ability to utilize net operating loss and tax credit carryforwards may be limited as a result of such "ownership change." Such a limitation could result in the expiration of carryforwards before they are utilized. The Company's effective tax rate differs from the federal statutory rate as follows:
PERIOD FROM OCTOBER 7, 1999 YEAR (INCEPTION) THROUGH ENDED JUNE 30, JUNE 30, 2000 2001 - --------------------------------------------------------------------------------------------- Income taxes at U.S. statutory rate......................... (35.0)% (35.0)% Meals and entertainment..................................... 0.2 0.3 Stock compensation expense.................................. -- 2.6 Valuation allowances........................................ 34.8 32.8 ----- ------ Effective tax rate.......................................... --% --% ----- ------ ----- ------
9. COMPUTATION OF LOSS PER SHARE The following table sets forth the computations of basic and diluted loss per share (in thousands, except per share data): PERIOD FROM OCTOBER 7, 1999 YEAR (INCEPTION) THROUGH ENDED JUNE 30, JUNE 30, 2000 2001 - ------------------------------------------------------------------------------ Numerator: Numerator for basic and diluted net loss per share -- net loss attributable to common shareholders...................... $ (803) $(7,142) =================== ======= Denominator: Denominator for basic and diluted net loss per share -- weighted average -- common shares outstanding....................... 834 1,482 =================== ======= Basic and diluted net loss per share......... $ (0.96) $ (4.82) =================== ======= - -------------------------------------------------------------------------------- F- 18 95 BAM! ENTERTAINMENT, INC. AND SUBSIDIARIES - -------------------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) The following table summarizes common stock equivalents that are not included in the denominator used in the diluted net loss per share calculation because to do so would be antidilutive for the periods indicated (in thousands):
PERIOD FROM OCTOBER 7, 1999 YEAR (INCEPTION) THROUGH ENDED JUNE 30, JUNE 30, EFFECT OF COMMON STOCK EQUIVALENTS AT: 2000 2001 - ------------------------------------------------------------------------------------------ Series A redeemable convertible preferred stock............. 17 4,588 Series B redeemable convertible preferred stock............. -- 707 Series C redeemable convertible preferred stock............. -- 121 Options to purchase common stock............................ -- 292 Warrants to purchase common stock........................... -- 319 ------------------- -------- Total common stock equivalents..................... 17 6,027 =================== ========
10. EMPLOYEE BENEFIT PLAN In January 2000, the Company adopted a 401(k) tax deferred savings plan (the 401(k) Plan) to provide for retirement of its employees. Employee contributions are limited to a maximum amount subject to IRS guidelines in any calendar year. The Company may make matching contributions and employer profit sharing contributions at the Board of Directors' discretion. For the period from October 7, 1999 (inception) through June 30, 2000, and for the year ended June 30, 2001, the Company made employer contributions to the 401(k) Plan of $6,500 and $41,000, respectively. 11. BUSINESS SEGMENT AND GEOGRAPHIC INFORMATION As defined by the requirements of SFAS No. 131, Disclosures About Segments of an Enterprise and Related Information, the Company operates in one reportable segment: the development and publishing of interactive entertainment products. Financial information by geographical region is summarized below (in thousands):
PERIOD FROM OCTOBER 7, 1999 (INCEPTION) THROUGH YEAR ENDED JUNE 30, JUNE 30, 2000 2001 - --------------------------------------------------------------------------------------------- Revenues from unaffiliated customers: United States............................................. $ 1,377 $ 22,898 United Kingdom............................................ -- 2,453 ------------------- ---------- Consolidated................................................ $ 1,377 $ 25,351 =================== ========== Operating income (loss): United States............................................. $ (781) $ 469 United Kingdom............................................ -- (822) ------------------- ---------- Consolidated................................................ $ (781) $ (353) =================== ==========
- -------------------------------------------------------------------------------- F- 19 96 BAM! ENTERTAINMENT, INC. AND SUBSIDIARIES - -------------------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
AS OF JUNE 30, AS OF JUNE 30, 2000 2001 - ------------------------------------------------------------------------------------------- Identifiable assets: United States............................................. $ 2,712 $ 19,741 United Kingdom............................................ -- 7,789 Intercompany items and eliminations....................... -- (6,538) -------------- -------------- Consolidated................................................ $ 2,712 $ 20,992 ============== ============== Long-lived assets: United States............................................. $ 79 $ 3,170 United Kingdom............................................ -- 500 -------------- -------------- Consolidated................................................ $ 79 $ 3,670 ============== ==============
Revenues from the United States include export sales to Canada, Mexico and South America of $15,000 and $624,000 for the period from October 7, 1999 (inception) through June 30, 2000 and for the year ended June 30, 2001, respectively. Revenues from the United Kingdom include export sales to France of $0 and $1,966,000 for the period from October 7, 1999 (inception) through June 30, 2000 and for the year ended June 30, 2001, respectively. 12. CUSTOMER CONCENTRATIONS The following table summarizes net revenues and accounts receivable for customers which accounted for 10% or more of net revenues or accounts receivable:
NET REVENUES ----------------------- PERIOD FROM OCTOBER 7, 1999 ACCOUNTS RECEIVABLE (INCEPTION) YEAR -------------------- THROUGH ENDED JUNE 30, JUNE 30, JUNE 30, JUNE 30, CUSTOMER 2000 2001 2000 2001 - -------------------------------------------------------------------------------------------------------------- A........................................................... 52% -- 49% -- B........................................................... 17% -- 16% 14% C........................................................... 10% -- 10% -- D........................................................... -- 27% -- -- E........................................................... -- 13% -- 17% F........................................................... -- 12% -- -- G........................................................... -- 11% -- 12%
13. COMMITMENTS AND CONTINGENCIES Under an agreement entered into between the Company and a production company, the Company has a first look right to review screenplays acquired by the production company and to develop products based on films produced from those screenplays. In exchange for these rights, the Company will have to pay royalties to the production company calculated as a percentage of sales of the developed products. For each film (up to a total of ten films) that the Company selects, 68,738 fully vested and non-forfeitable shares of common stock will be issued to the production company following the theatrical release of each film for which the Company has developed a product, up to a maximum of 687,375 shares of common stock. As the shares contingently issuable under this arrangement are dependent upon the theatrical release of the film for which the Company has elected to develop products, the Company will only measure the value of these shares in accordance with EITF 96-18 Accounting for Equity Instruments That Are Issued To Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or Services if and when this contingency is satisfied. If the software product is released after the release of the film, the - -------------------------------------------------------------------------------- F- 20 97 BAM! ENTERTAINMENT, INC. AND SUBSIDIARIES - -------------------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) Company will amortize the non-cash charge over the life of the product, which is expected to be between three and six months. If the software product is released prior to the release of the film, the Company will at each interim period assess whether it is probable that the value of the shares issued is recoverable through future sales of the product to which it relates. If this is probable, the non-cash charge will be amortized to licensed costs over the life of the product, while the Company will expense the non-cash charge at the time of the issuance of the shares if it is not probable that the value of the shares issued is recoverable through future sales of the product to which these shares relate. The Company cannot estimate the aggregate dollar amount of these future non-cash charges as they are based on the Company's share price at a future point in time. As of June 30, 2001 the Company has elected to produce software products for three films pursuant to this agreement. One of these films had it's theatrical release during the year and accordingly the Company issued 68,738 shares of common stock to the production company. The Company will not be required to issue stock on the remaining two films until such time as the films are released. Under various licensing agreements entered into between the Company and content providers, the Company has contractual marketing commitments to spend $5,250,000 in advertising on the content providers' networks and online mediums. As of June 30, 2001, the Company has made payments totaling $1,150,000 under these agreements. Future minimum annual advertising payments under these contractual marketing commitments are as follows (in thousands):
YEAR ENDING JUNE 30, - -------------------------------------------------------------------- 2002........................................................ $1,200 2003........................................................ 1,650 2004........................................................ 1,250 ------ Total.............................................. $4,100 ======
In connection with a number of licensing and developing agreements, the Company is required to pay guaranteed minimum royalties with respect to these agreements. As of June 30, 2001, the Company has capitalized payments totaling $2,025,000 under these agreements. These guaranteed amounts will be applied against future royalties that may become payable to the respective licensors under the agreement. Future minimum annual royalty payments under these contractual licensing and developing commitments for the year ending June 30, 2002 are $1,250,000. Under the finance agreement as described in Note 5, a maximum commitment fee of $1,125,000 is payable to the finance company. A portion of the commitment fee is waived based on the Company's usage of the financing agreement and on amounts advanced to the Company. As the Company had already utilized a portion of the amount available under the contract, $721,000 of the total commitment fee has been waived at June 30, 2001. An amount of $404,000 therefore remains as a contingent liability and would be payable before the end of the contract term of March 31, 2002, or earlier, depending on amounts advanced to the Company under the financing agreement. The Company leases its principal facilities under a noncancelable operating lease expiring in July 2004. Future minimum annual rental payments under the lease agreements at June 30, 2001 are as follows (in thousands):
YEAR ENDING JUNE 30, - ------------------------------------------------------------------ 2002........................................................ $261 2003........................................................ 238 2004........................................................ 244 2005........................................................ 20 ---- Total.............................................. $763 ====
Rent expense was $35,000 for the period from October 7, 1999 (inception) through June 30, 2000 and $135,000 for the year ended June 30, 2001. - -------------------------------------------------------------------------------- F- 21 98 BAM! ENTERTAINMENT, INC. AND SUBSIDIARIES - -------------------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 14. RELATED PARTY TRANSACTIONS In October 1999, the Company issued 580,962 shares of common stock to an officer in exchange for a note receivable from the officer. The note was repaid in April 2001. In each of November 1999 and January 2000, the Company issued an officer a convertible promissory note each in the principal amount of $500,000, and in May 2000 issued the officer an additional convertible promissory note in the principal amount of $47,000. Each note bore interest at 7.0% per annum with principal and accrued interest due on demand after one year from the date of issuance. Each note was automatically convertible into shares of Series A Preferred Stock upon the initial closing of the Company's Series A Preferred Stock financing. In May 2000, the notes were converted and the officer was issued 482,625 shares of Series A Preferred Stock at $2.17 per share. In November 1999 the Company entered into an agreement to lease its principal facilities under a noncancelable operating lease. As a condition of this agreement, an officer of the Company entered into a separate agreement with the lessor to guarantee the Company's obligations under the agreement. In February 2000, the Company entered into an agreement with a financing company to finance the purchase of materials required to produce products. As a condition of this agreement, an officer of the Company entered into a separate agreement with the financing company to guarantee the Company's obligations under the agreement. In November 2000, the Company entered into a revolving note agreement with a bank. The note was secured by a personal guarantee from an officer of the Company and by a security interest in a money market account maintained at the bank in the name of a director of the Company. The guarantee and security interest lapsed in December 2000. The Company incurred legal services of $9,000 and $195,000 for the period from October 7, 1999 (inception) through June 30, 2000 and the year ended June 30, 2001, respectively, to a law firm whose partner is also a director of the Company. As of June 30, 2001, the Company has recorded a payroll accrual of $394,000 related to two employees of the Company. 15. SUBSEQUENT EVENTS ADOPTION OF THE 2001 EMPLOYEE STOCK PURCHASE PLAN The Company adopted an employee stock purchase plan on August 9, 2001. Under the plan, during consecutive six-month offering periods, eligible employees are allowed to have salary withholdings of up to 15% of their compensation to purchase shares of common stock at a price equal to 85% of the lower of the market value of the stock at the beginning of the offering period or at the end of the purchase period. The initial offering period commences upon the effective date of an initial public offering of the Company's common stock. For the first offering period, shares of common stock may be purchased at a price equal to 85% of the lower of the price per share in the initial public offering or the market value on the purchase date. The Company has initially reserved 705,000 shares of common stock under this plan. AMENDMENT OF THE 2000 STOCK INCENTIVE PLAN On August 9, 2001, the Company amended its 2000 Stock Incentive Plan and adopted the 2001 Stock Incentive Plan (UK Part) (the "UK Plan") as Schedule A to the 2000 Stock Incentive Plan. The UK Plan provides for the grant of stock options to UK employees who satisfy certain criteria. The UK Plan contains certain restrictions intended to comply with UK taxation laws, including restrictions on exercise, limitations on the size of options grants, requirements with respect to changes in capitalization and other matters. ISSUANCE OF STOCK OPTIONS In August 2001, the Company granted options to purchase 200,935 shares of common stock, 182,135 at an exercise price of $11.70 per share under the 2000 Stock Incentive Plan and 18,800 at an exercise price of $4.79 per share - -------------------------------------------------------------------------------- F- 22 99 BAM! ENTERTAINMENT, INC. AND SUBSIDIARIES - -------------------------------------------------------------------------------- NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) outside of the 2000 Stock Incentive Plan. As a result of these options to purchase common stock, the Company has recorded deferred stock compensation of $130,000 which will be amortized on a multiple option award valuation approach over the vesting period of the options of four years. Of these options 5,875 were granted to a consultant at an exercise price of $11.70 per share, resulting in a consulting expense of $62,000 at the date of grant. AMENDMENT TO FINANCE AGREEMENT AND ISSUANCE OF WARRANTS On August 16, 2001, the Company amended its agreement with a finance company to increase the aggregate outstanding funding amount to $10,000,000. On August 31, 2001, the agreement was further amended decreasing the transaction and initiation fee to 3.0% until the earlier of the termination of the agreement or December 31, 2001 if the Company's initial public offering of its common stock (the "IPO") has not occurred by that date. In connection with this latter amendment and the execution of a $7,000,000 factoring arrangement with an affiliate of the finance company, the Company issued a warrant to the affiliate of the finance company to purchase 100,000 shares of common stock at an exercise price equal to the IPO price. The right to exercise such warrant terminates on August 30, 2004, or on December 31, 2001 if the IPO has not occurred by such date. The fair value of this warrant at the grant date was estimated to be $806,000, and is subject to remeasurement up to the pricing of the IPO. The fair value will be amortized to interest expense on a straight-line basis over the remaining term of the financing agreement. - -------------------------------------------------------------------------------- F- 23 100 We have filed applications to register the trademarks BAM! Entertainment, BAM!, BAM!4 and Bay Area Multimedia, Inc. in the United States. This prospectus also refers to trade names and trademarks of other organizations. All names marked with "(TM)" or "(R)" are the trademarks or registered trademarks, respectively, of their respective owners. Nintendo(R), Nintendo(R) 64, Game Boy(R), Game Boy(R) Color, Game Boy(R) Advance, NINTENDO GAMECUBE(TM), and/or other Nintendo products referenced herein are either trademarks or registered trademarks of Nintendo of America, Inc. Sony PlayStation(R), Sony PlayStation 2(R) and/or other Sony products referenced herein are either trademarks or registered trademarks of Sony Computer Entertainment America Inc. Sega(R) and Dreamcast(R) are registered trademarks of Sega of America, Inc. Microsoft(R), Xbox and/or other Microsoft products referenced herein are either trademarks or registered trademarks of Microsoft Corporation. DEXTER'S LABORATORY, POWERPUFF GIRLS, and all related characters and elements are trademarks of The Cartoon Network, an AOL Time Warner company. YOGI BEAR and all related characters and elements are trademarks of Hanna-Barbera Productions, Inc. Sports Illustrated(R) and Sports Illustrated for Kids(R) are registered trademarks of Time, Inc., an AOL Time Warner company. DRIVEN and all related characters and elements are trademarks of Warner Bros., an AOL Time Warner Company. This prospectus includes trademarks other than those identified in the preceding paragraphs. The use of any such trademark herein is in an editorial form only, and to the benefit of the owner thereof, with no intention of infringement of the trademark. 101 [BAM! Entertainment Logo] 102 - -------------------------------------------------------------------------------- Part II INFORMATION NOT REQUIRED IN PROSPECTUS ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION The following table sets forth the costs and expenses, other than underwriting discounts and commissions, payable by the Registrant in connection with the sale of common stock being registered. All amounts are estimates except the SEC registration fee, the NASD filing fee and the Nasdaq National Market Listing Fee. SEC registration fee........................................ $ 14,088 NASD filing fee............................................. $ 5,000 Nasdaq National Market listing fee.......................... $ 50,000 Printing and engraving costs................................ $ 250,000 Legal fees and expenses..................................... $ 900,000 Accounting fees and expenses................................ $ 945,000 Blue Sky fees and expenses.................................. $ 5,000 Directors and Officers Insurance............................ $ 600,000 Transfer Agent and Registrar fees........................... $ 20,000 Miscellaneous expenses...................................... $ 110,912 ---------- Total.............................................. $2,900,000 ==========
ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS Under Section 145 of the General Corporation Law of the State of Delaware, we can indemnify our directors and officers against liabilities they may incur in such capacities, including liabilities under the Securities Act of 1933, as amended (the "Securities Act"). Our certificate of incorporation provides that, pursuant to Delaware law, our directors shall not be liable for monetary damages for breach of the directors' fiduciary duty of care to us and our stockholders. This provision in the certificate of incorporation does not eliminate the duty of care, and in appropriate circumstances equitable remedies such as injunctive or other forms of nonmonetary relief will remain available under Delaware law. In addition, each director will continue to be subject to liability for breach of the director's duty of loyalty to us or our stockholders, for acts or omissions not in good faith or involving intentional misconduct or knowing violations of the law, for actions leading to improper personal benefit to the director, and for payment of dividends or approval of stock repurchases or redemptions that are unlawful under Delaware law. The provision also does not affect a director's responsibilities under any other law, such as the federal securities laws or state or federal environmental laws. Our bylaws provide for the indemnification of our directors to the fullest extent permitted by the Delaware General Corporation Law. Our bylaws further provide that our Board of Directors has sole discretion to indemnify our officers and other employees. We may limit the extent of such indemnification by individual contracts with our directors and executive officers, but have not done so. We are not, however, required to indemnify any director or executive officer in connection with any proceeding initiated by us and approved by a majority of our Board of Directors, that alleges (a) unlawful misappropriation of corporate assets, (b) disclosure of confidential information or (c) any other willful breach of such director or executive officer's duty to us or our stockholders. We are required to advance, prior to the final disposition of any proceeding, promptly on request, all expenses incurred by any director or executive officer in connection with that proceeding on receipt of an undertaking by or on behalf of that director or executive officer to repay those amounts if it should be determined ultimately that he or she is not entitled to be indemnified under our bylaws or otherwise. We also have directors' and officers' liability insurance. - -------------------------------------------------------------------------------- II- 1 103 - -------------------------------------------------------------------------------- ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES The following is a summary of sales of securities of the Registrant during the past three fiscal years involving sales of securities that were not registered under the Securities Act of 1933, as amended: In October 1999, the Registrant sold in private placements, 580,962 shares of common stock to its Chief Executive Officer and President, Raymond C. Musci, at a price of $0.001 per share. The total aggregate offering price for this sale of securities was $633.89. In October 1999, the Registrant sold 50,000 shares of common stock at a price per share of $0.10 to each of the following investors: (1) Robert E. Lloyd; (2) Tracy Ann Sebastian; (3) Philip L. Rosenberg; (4) Robert W. Holmes, Jr.; (5) Gary Nemetz; and (6) D&S Partners, a California general partnership. The total aggregate offering price for this sale of securities was $30,000. In April 2000, the Registrant entered into an agreement that gave it the exclusive first look right to review screenplays acquired by a studio and to develop titles based on films produced from those screenplays. The agreement expires upon the later of three years or the theatrical release of the tenth film on which it bases a product. In connection with the agreement, the Registrant agreed to issue 68,738 shares of its common stock to the studio following the theatrical release of a film for which it has developed a title, up to a maximum of 687,375 shares. In April 2001, the Registrant issued 68,738 shares of common stock to the studio in connection with the release of a film upon which the Registrant had based a product. In May 2000 the Registrant effected a 0.195-for-one split of its common stock. In June 2000, in a private placement, the Registrant sold shares of common stock to private investors at a price per share of $0.109 as follows: (1) Anthony R. Williams, 89,897 shares; (2) Robert W. Holmes, Jr., 22,474; (3) Kevin Bermeister, 3,656 shares; (4) Mark Dyne, 3,656 shares; (5) Elie Samaha, 7,312; and (6) FIMAS, L.P., a partnership, 3,656. The total aggregate offering price for this sale of securities was $67,024. In June 2000, in a private placement, the Registrant sold shares of Series A convertible, redeemable preferred stock at a price per share of $2.17 to the following investors: (1) Raymond C. Musci, 482,625 shares; (2) Anthony R. Williams, 351,000 shares; (3) Robert W. Holmes, Jr., 87,750 shares; (4) Kevin Bermeister, 10,969 shares; (5) Mark Dyne, 10,969 shares; (6) Elie Samaha, 21,938 shares; and (7) FIMAS, L.P., a partnership, 10,969 shares. The total aggregate offering price for this sale of securities was $2,118,397. These shares are convertible into 4,588,234 shares of common stock. In October 2000, the Registrant entered into a strategic arrangement with a studio which gives it the exclusive right of first refusal to develop titles based on films produced by that studio and to distribute them worldwide. In connection with this strategic arrangement, the Registrant granted the studio a warrant to purchase up to 470,000 shares of common stock. The exercise price for shares issued under the warrant is $1.06 and the term of the warrant is five years from the date of issuance. In December 2000, the Registrant entered into an agreement to sell a warrant for 141,000 shares of common stock to PAR Investment Partners, L.P. The exercise price for shares issued under the warrant is $3.76 and the term of the warrant is three years from the date of issuance. In December 2000, in a private placement, the Registrant sold shares of Series B convertible, redeemable preferred stock at a price per share of $17.65 to the following investors: (1) Raymond C. Musci, 28,329 shares; (2) Anthony R. Williams, 28,329 shares; (3) Morgan Keegan Early Stage Fund, L.P., 22,092; (4) Robert W. Holmes, Jr., 11,332 shares; (5) PAR Investment Partners, L.P., 198,301; and (6) Morgan Keegan Employee Investment Fund, L.P., 6,237 shares. The total aggregate offering price for this sale of securities was $5,200,043. These shares are convertible into 1,384,714 shares of common stock. In May 2001, in a private placement, the Registrant sold shares of Series C convertible, redeemable preferred stock at a price per share of $22.553 to the following investors: (1) Raymond C. Musci, 13,302 shares; (2) PAR Investment Partners, L.P., 88,680 shares; (3) Morgan Keegan Early Stage Fund, L.P., 88,680 shares; (4) Anthony R. Williams, 13,302 shares; (5) Robert W. Holmes, Jr., 6,651 shares; (6) Stephen Ambler, 1,109 shares; (7) Joseph Morici, - -------------------------------------------------------------------------------- II- 2 104 - -------------------------------------------------------------------------------- 887 shares; (8) Mark Dyne, 4,434 shares; (9) Kevin Bermeister, 4,434 shares; (10) K&L 2000 LLC, 1,109 shares; (11) Pam Colburn, 1,109 shares; (12) Anthony Neumann, 1,109 shares; (13) Terry Phillips, 13,302 shares; (14) Steven Massarsky, 2,217 shares; (15) David Clark, 4,434 shares; and (16) FIMAS L.P., a partnership, 900 shares. The total aggregate offering price for this sale of securities was $5,540,347. These shares are convertible into 1,154,597 shares of common stock. In May 2001, the Registrant sold a warrant for 47,000 shares of common stock to K&L 2000 LLC. The exercise price of the warrant is $4.80 per share and the term of the warrant is five years. In May 2001, the Registrant sold a warrant for 16,450 shares of common stock to Morgan Keegan Early Stage Fund, L.P. The exercise price for these shares is $4.80 and the term of the warrant is five years from the date of issuance. In August 2001, the Registrant effected a 4.7-for-one stock split of its common stock. In August 2001, the Registrant issued a warrant for 100,000 shares of common stock to Transcap Associates, Inc. The exercise price of the warrant is equal to the per share price of the Registrant's initial public offering. The right to exercise such warrant terminates on August 30, 2004 or on December 31, 2001 if the Registrant's initial public offering has not occurred by such date. Each of the above sales was made pursuant to the exemption provided by (1) Rule 506, promulgated by the Commission under the Securities Act of 1933, as amended (the "Securities Act"), or (2) Section 4(2) of the Securities Act as a sale to accredited investors not involving any general solicitation. No underwriter was used in connection with these sales. All recipients had adequate access, through their relationships with the Registrant or otherwise, to corporate information about the Registrant. ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULE (a) EXHIBITS 1.1+ Form of Underwriting Agreement 2.1+ Agreement and Plan of Merger dated September 21, 2000 of Bay Area Multimedia, Inc. (a Delaware corporation) and Bay Area Multimedia, Inc. (a California corporation) 3.1+ Second Amended and Restated Certificate of Incorporation 3.1(a)+ First Amendment to Second Amended and Restated Certificate of Incorporation of the Registrant dated August 15, 2001 3.2+ Bylaws of the Registrant 3.2(a)+ Amendment to Bylaws of the Registrant dated December 28, 2000 3.2(b)+ Amendment to Bylaws of Registrant dated June 1, 2001 3.2(c)+ Amendment to Bylaws of Registrant dated July 31, 2001 4.1 Specimen Common Stock Certificate 4.2+ Warrant to Purchase Shares of Common Stock between the Registrant and Spyglass Entertainment Group, L.P. 4.3+ Warrant to Purchase Shares of Common Stock dated December 27, 2000 between the Registrant and PAR Capital Management, Inc. 4.4+ Warrant to Purchase Shares of Common Stock dated May 24, 2001 between the Registrant and K&L 2000 LLC. 4.5+ Warrant to Purchase Shares of Common Stock dated May 24, 2001 between the Registrant and Morgan Keegan & Co., Inc. 4.6+ Convertible Promissory Note dated November 24, 1999 between the Registrant and Raymond C. Musci. 4.7+ Convertible Promissory Note dated January 7, 2000 between the Registrant and Raymond C. Musci. 4.8+ Convertible Promissory Note dated May 25, 2000 between the Registrant and Raymond C. Musci. 4.9 Form of Warrant to Purchase shares of Common Stock dated August 31, 2001 between the Registrant and Transcap Associates, Inc. 5.1 Opinion of Kirkpatrick & Lockhart LLP 10.1+ Amended and Restated 2000 Stock Incentive Plan 10.2+ Common Stock Purchase Agreement dated October 9, 1999 between the Registrant and Raymond C. Musci.
- -------------------------------------------------------------------------------- II- 3 105 - -------------------------------------------------------------------------------- 10.3+ Common Stock Purchase Agreement dated October 25, 1999 between the Registrant and D&S Partners. 10.4+ Common Stock Purchase Agreement dated October 25, 1999 between the Registrant and Robert Holmes. 10.5+ Common Stock Purchase Agreement dated October 25, 1999 between the Registrant and Gary Nemetz. 10.6+ Common Stock Purchase Agreement dated October 25, 1999 between the Registrant and Tracy Ann Sebastian. 10.6(a)+ Amendment to Common Stock Purchase Agreement dated July 16, 2001 between the Registrant and Tracy Ann Sebastian. 10.7+ Common Stock Purchase Agreement dated December 30, 1999 between the Registrant and Philip L. Rosenberg. 10.8+ Series A Preferred Stock and Common Stock Purchase Agreement dated May 17, 2000 among the Registrant and Raymond C. Musci, Anthony R. Williams, Robert Holmes, Mark Dyne, Kevin Bermeister, Franchise Films, and FIMAS L.P. 10.9+ Investor Rights Agreement dated May 17, 2000 among the Registrant and Raymond C. Musci, Anthony R. Williams, Robert Holmes, Mark Dyne, Kevin Bermeister, Franchise Films, and FIMAS L.P. 10.10+ Common Stock Purchase Agreement dated September 21, 2000 between the Registrant and Bay Area Multimedia, Inc., a California corporation. 10.11+ Series B Preferred Stock Purchase Agreement dated December 28, 2000 among the Registrant and PAR Capital Management, Inc., Raymond C. Musci, Anthony R. Williams, Robert Holmes, and Morgan Keegan Early Stage Fund L.P. 10.12+ Co-Sale and Right of First Refusal Agreement dated December 28, 2000 among the Registrant and PAR Capital Management, Inc., Raymond C. Musci, Anthony R. Williams, Robert Holmes, and Morgan Keegan Early Stage Fund L.P. 10.13+ Registration Rights Agreement dated December 28, 2000 among the Registrant and PAR Capital Management, Inc., Raymond C. Musci, Anthony R. Williams, Robert Holmes, and Morgan Keegan Early Stage Fund L.P. 10.14+ Series C Preferred Stock Purchase Agreement dated May 24, 2001 among the Registrant and PAR Capital Management, Inc., Raymond C. Musci, Anthony R. Williams, Robert Holmes, Morgan Keegan Early Stage Fund L.P., Stephen Ambler, Mark Dyne, Joseph Morici, Kevin Bermeister, K&L 2000 LLC, Pam Colburn, Anthony Neumann, Terry Phillips, Steven Massarsky, Daniel Clark, and FIMAS, L.P. 10.15+ Registration Rights Agreement dated May 24, 2001 among the Registrant and PAR Capital Management, Inc., Raymond C. Musci, Anthony R. Williams, Robert Holmes, Morgan Keegan Early Stage Fund L.P., Stephen Ambler, Mark Dyne, Joseph Morici, Kevin Bermeister, K&L 2000 LLC, Pam Colburn, Anthony Neumann, Terry Phillips, Steven Massarsky, Daniel Clark, and FIMAS, L.P. 10.16+ Co-Sale and Right of First Refusal Agreement dated May 24, 2001 among the Registrant and PAR Capital Management, Inc., Raymond C. Musci, Anthony R. Williams, Robert Holmes, Morgan Keegan Early Stage Fund L.P., Stephen Ambler, Mark Dyne, Joseph Morici, Kevin Bermeister, K&L 2000 LLC, Pam Colburn, Anthony Neumann, Terry Phillips, Steven Massarsky, Daniel Clark, and FIMAS, L.P. 10.17+ Master Purchase Order Assignment Agreement dated February 23, 2000 between the Registrant and Transcap Trade Finance. 10.17(a)+ First Amendment to Master Purchase Order Assignment Agreement dated September 13, 2000 between the Registrant and Transcap Trade Finance. 10.17(b)+ Second Amendment to Master Purchase Order Assignment Agreement dated December 12, 2000 between the Registrant and Transcap Trade Finance. 10.17(c)+ Third Amendment to Master Purchase Order Assignment Agreement dated March 22, 2001 between the Registrant and Transcap Trade Finance. 10.17(d)+ Fourth Amendment to Master Purchase Order Assignment Agreement dated July 2, 2001 between the Registrant and Transcap Trade Finance. 10.17(e) Fifth Amendment to Master Purchase Order Assignment Agreement dated August 16, 2001 between the Registrant and Transcap Trade Finance. 10.17(f) Form of Sixth Amendment to Master Purchase Order Assignment Agreement between the Registrant and Transcap Trade Finance. 10.18+ Security Agreement and Financing Statement dated February 23, 2000 between the Registrant and Transcap Trade Finance. 10.19+ Subordination Agreement dated February 23, 2000 between the Registrant, Raymond C. Musci, and Transcap Trade Finance. 10.20+ Guaranty and Pledge Agreement dated February 23, 2000 between the Registrant , Raymond C. Musci, and Transcap Trade Finance.
- -------------------------------------------------------------------------------- II- 4 106 - -------------------------------------------------------------------------------- 10.21+ Master Revolving Note dated November 13, 2000 between the Registrant and Comerica Bank-California. 10.22+ Security Agreement dated November 13, 2000 between the Registrant and Comerica Bank-California. 10.23+ Letter Agreement dated November 13, 2000 between the Registrant and Comerica Bank-California. 10.24+ Guaranty Agreement dated November 13, 2000 between Comerica Bank-California and Raymond C. Musci. 10.25+ Letter Agreement dated December 26, 2000 between the Registrant and Comerica Bank-California. 10.26+** Sony PlayStation Licensed Publisher Agreement dated February 2, 2000 between the Registrant and Sony Computer Entertainment America, Inc. 10.27+** Amendment to the Licensed Publisher Agreement dated April 1, 2000 between the Registrant and Sony Computer Entertainment America, Inc. 10.28+** PlayStation 2 Licensed Publisher Agreement dated April 1, 2000 between the Registrant and Sony Computer Entertainment America, Inc. 10.29+** PlayStation 2 Development System Agreement dated August 2, 2000 between the Registrant and Sony Computer Entertainment America, Inc. 10.30+** Licensed Publisher Agreement for Game Boy, Game Boy Color and Game Boy Pocket dated February 18, 2000 between the Registrant and Nintendo of America, Inc. 10.31+** Licensed Publisher Agreement for Nintendo 64 dated February 18, 2000 between the Registrant and Nintendo of America, Inc. 10.32+ Confidential License Agreement for Game Boy Advance dated May 21, 2001 between the Registrant and Nintendo of America, Inc. 10.33+** Xbox Publisher License Agreement dated November 28, 2000 between the Registrant and Microsoft Corporation. 10.34+** Retail License Agreement #12177-PPG dated March 8, 2000 between the Registrant and Warner Bros. Consumer Products. 10.35+** Amendment #1 to Retail License Agreement #12177-PPG dated November 27, 2000 between the Registrant and Warner Bros. Consumer Products. 10.36+** License Agreement #12697-DEX dated October 4, 2000 between the Registrant and Warner Bros. Consumer Products. 10.37+** License Agreement #12698-YOGI dated October 4, 2000 between the Registrant and Warner Bros. Consumer Products. 10.38+** License Agreement dated March 31, 2000 between the Registrant and Takara Co., Ltd. 10.39+** Exclusive Output Agreement dated April 7, 2000 between the Registrant and Franchise Films, Inc. 10.40 First Amendment to Exclusive Output Agreement dated April 2001 between the Registrant and Franchise Films, Inc. 10.41+** License Agreement dated July 12, 2000 between the Registrant and Time, Inc. for its Sports Illustrated for Kids division. 10.42+** Exclusive Output Agreement dated October 25, 2000 between the Registrant and Spyglass Entertainment Group, L.P. 10.43+ Office Lease dated November 15, 1999 between the Registrant and Macanan Investments, L.P. 10.43(a)+ First Amendment to Office Lease dated July 31, 2001 between the Registrant and Macanan Investments L.P. 10.44+ Employment Agreement dated October 1, 1999 between the Registrant and Raymond C. Musci. 10.45 [Reserved]. 10.46+ Employment Agreement dated July 1, 2000 between the Registrant and Anthony R. Williams. 10.47 [Reserved]. 10.48+ Agreement for Chairman of Board of Directors dated June 7, 2001 between the Registrant and Robert W. Holmes, Jr. 10.49 2001 Employee Stock Purchase Plan 10.50**+ Software Distribution Agreement dated February 21, 2001 between BAM Entertainment Ltd., a subsidiary of the Registrant, and Ubi Soft Entertainment, S.A. 10.51**+ Amendment to Software Distribution Agreement dated April 23, 2001 between BAM Entertainment Ltd., a subsidiary of the Registrant, and Ubi Soft Entertainment, S.A. 10.52**+ Distribution Agreement dated July 31, 2001 between BAM Entertainment Ltd., a subsidiary of the Registrant, and Ubi Soft Entertainment, S.A. 10.53 Form of Purchase of Accounts and Security Agreement between the Registrant and Transcap Manufacturing Services, Inc. 21.1+ List of Registrant's Subsidiaries
- -------------------------------------------------------------------------------- II- 5 107 - -------------------------------------------------------------------------------- 23.1 Consent of Deloitte & Touche LLP 23.2 Consent of Kirkpatrick & Lockhart LLP (contained in exhibit 5.1) 24.1+ Power of attorney
- ------------------------- ** The Registrant has applied with the Secretary of the Securities and Exchange Commission for confidential treatment of certain information pursuant to Rule 406 under the Securities Act of 1933. The Registrant has filed separately with its application a copy of the exhibit including all confidential portions, which may be made available for public inspection pending the Securities and Exchange Commission's review of the application in accordance with Rule 406. + Previously filed. (b) FINANCIAL STATEMENT SCHEDULES The following consolidated financial statement schedule is filed as part of this registration statement and should be read with the consolidated financial statements:
SCHEDULE PAGE - ------------------------------------------------------------------ Schedule II -- Valuation and Qualifying Accounts............ S-2
Schedules other than those referred to above have been omitted because they are not applicable or not required or because they are not applicable or not required or because the information is included elsewhere in the consolidated financial statements or the related notes. ITEM 17. UNDERTAKINGS The undersigned hereby undertakes to provide to the underwriters at the closing specified in the underwriting agreement certificates in denominations as required by the underwriters and registered in names as required by the underwriters to permit prompt delivery to each purchaser. Insofar as indemnification for liabilities arising under the Securities Act may be permitted to our directors, officers and controlling persons pursuant to the foregoing provisions, or otherwise, we have been advised that in the opinion of the Securities and Exchange Commission indemnification is against public policy as expressed in the Securities Act, and is, therefore, unenforceable. In the event that a claim for indemnification against liabilities, other than the payment by us of expenses incurred or paid by a director, officer, or controlling person of the registrant in the successful defense of any action, suit or proceeding, is asserted by a director, officer or controlling person in connection with the securities being registered, we will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether indemnification by it is against public policy as expressed in the Securities Act and will be governed by the final adjudication of this issue. The undersigned hereby undertakes that: (1) For purposes of determining any liability under the Securities Act, the information omitted from the form of prospectus filed as part of this registration statement in reliance upon Rule 430A and contained in a form of prospectus filed by the registrant pursuant to Rule 424(b)(1) or (4) or 497(h) under the Securities Act shall be deemed to be part of this registration statement as of the time it was declared effective. (2) For the purpose of determining any liability under the Securities Act, each post-effective amendment that contains a form of prospectus shall be deemed to be a new registration statement relating to the securities offered therein, and this offering of these securities at that time shall be deemed to be the initial bona fide offering thereof. - -------------------------------------------------------------------------------- II- 6 108 - -------------------------------------------------------------------------------- SIGNATURES Pursuant to the requirements of the Securities Act of 1933, the registrant has duly caused this amendment no. 2 to registration statement to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of San Jose, State of California, on August 30, 2001. BAM! ENTERTAINMENT, INC. By: /s/ RAYMOND C. MUSCI ---------------------------------------- Raymond C. Musci Chief Executive Officer and President Pursuant to the requirements of the Securities Act of 1933, as amended, this amendment no. 2 to registration statement has been signed below by the following persons in the capacities and on the dates indicated:
SIGNATURE TITLE DATE --------- ----- ---- /s/ RAYMOND C. MUSCI Chief Executive Officer, President August 30, 2001 - -------------------------------------------------------- and Director (Principal Executive Raymond C. Musci Officer) /s/ ANTHONY R. WILLIAMS Vice Chairman of the Board August 30, 2001 - -------------------------------------------------------- Anthony R. Williams * Chief Financial Officer and Vice August 30, 2001 - -------------------------------------------------------- President of Finance (Principal Stephen M. Ambler Financial and Accounting Officer) /s/ ROBERT W. HOLMES, JR. Chairman of the Board August 30, 2001 - -------------------------------------------------------- Robert W. Holmes, Jr. * Secretary and Director August 30, 2001 - -------------------------------------------------------- George M. Sundheim, III * Director August 30, 2001 - -------------------------------------------------------- Mark Dyne * Director August 30, 2001 - -------------------------------------------------------- David E. Tobin * Director August 30, 2001 - -------------------------------------------------------- Anthony G. Williams * Director August 30, 2001 - -------------------------------------------------------- Steven J. Massarsky * Director August 30, 2001 - -------------------------------------------------------- Robert T. Slezak *By: /s/ RAYMOND C. MUSCI - -------------------------------------------------------- Raymond C. Musci, Attorney-in-fact
- -------------------------------------------------------------------------------- 109 INDEPENDENT AUDITORS' REPORT ON SCHEDULE To the Board of Directors and Stockholders of BAM! Entertainment, Inc. We have audited the consolidated balance sheets of BAM! Entertainment, Inc. and its subsidiaries (the "Company") as of June 30, 2000 and 2001, and the related consolidated statements of operations, stockholders' equity (deficit) and comprehensive loss, and cash flows for the period from October 7, 1999 (inception) through June 30, 2000 and the year ended June 30, 2001 and have issued our report thereon dated August 15, 2001 (August 31, 2001 as to the last two paragraphs of Note 15). Our audits also included the consolidated financial statement schedule listed in Item 16(b) of this registration statement. The consolidated financial statement schedule is the responsibility of the Company's management. Our responsibility is to express an opinion based on our audits. In our opinion, such consolidated financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly in all material respects the information set forth therein. DELOITTE & TOUCHE LLP San Jose, California August 15, 2001 - -------------------------------------------------------------------------------- S- 1 110 - -------------------------------------------------------------------------------- SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS (IN THOUSANDS)
BALANCE -- BALANCE -- BEGINNING END OF DESCRIPTION OF PERIOD ADDITIONS DEDUCTIONS PERIOD - -------------------------------------------------------------------------------------------------------------- Period from October 7, 1999 (inception) through June 30, 2000 Allowance for doubtful accounts............................. $-- $ 77 $ -- $ 77 Allowance for sales return and price protection............. $-- $ -- $ -- $ -- Allowance for cooperative advertising....................... $-- $ -- $ -- $ -- --- ------ ---- ------ $-- $ 77 $ -- $ 77 === ====== ==== ====== Year ended June 30, 2001 Allowance for doubtful accounts............................. $77 $ 143 $150 $ 70 Allowance for sales return and price protection............. $-- $ 893 $243 $ 650 Allowance for cooperative advertising....................... $-- $ 953 $510 $ 443 --- ------ ---- ------ $77 $1,989 $903 $1,163 === ====== ==== ======
- -------------------------------------------------------------------------------- S- 2 111 - -------------------------------------------------------------------------------- Exhibit index 1.1+ Form of Underwriting Agreement 2.1+ Agreement and Plan of Merger dated September 21, 2000 of Bay Area Multimedia, Inc. (a Delaware corporation) and Bay Area Multimedia, Inc. (a California corporation) 3.1+ Second Amended and Restated Certificate of Incorporation 3.1(a)+ First Amendment to Second Amended and Restated Certificate of Incorporation of the Registrant dated August 15, 2001 3.2+ Bylaws of the Registrant 3.2(a)+ Amendment to Bylaws of the Registrant dated December 28, 2000 3.2(b)+ Amendment to Bylaws of Registrant dated June 1, 2001 3.2(c)+ Amendment to Bylaws of Registrant dated July 31, 2001 4.1 Specimen Common Stock Certificate 4.2+ Warrant to Purchase Shares of Common Stock between the Registrant and Spyglass Entertainment Group, L.P. 4.3+ Warrant to Purchase Shares of Common Stock dated December 27, 2000 between the Registrant and PAR Capital Management, Inc. 4.4+ Warrant to Purchase Shares of Common Stock dated May 24, 2001 between the Registrant and K&L 2000 LLC. 4.5+ Warrant to Purchase Shares of Common Stock dated May 24, 2001 between the Registrant and Morgan Keegan & Co., Inc. 4.6+ Convertible Promissory Note dated November 24, 1999 between the Registrant and Raymond C. Musci. 4.7+ Convertible Promissory Note dated January 7, 2000 between the Registrant and Raymond C. Musci. 4.8+ Convertible Promissory Note dated May 25, 2000 between the Registrant and Raymond C. Musci. 4.9 Form of Warrant to Purchase shares of Common Stock dated August 31, 2001 between the Registrant and Transcap Associates, Inc. 5.1 Opinion of Kirkpatrick & Lockhart LLP 10.1+ Amended and Restated 2000 Stock Incentive Plan 10.2+ Common Stock Purchase Agreement dated October 9, 1999 between the Registrant and Raymond C. Musci. 10.3+ Common Stock Purchase Agreement dated October 25, 1999 between the Registrant and D&S Partners. 10.4+ Common Stock Purchase Agreement dated October 25, 1999 between the Registrant and Robert Holmes. 10.5+ Common Stock Purchase Agreement dated October 25, 1999 between the Registrant and Gary Nemetz. 10.6+ Common Stock Purchase Agreement dated October 25, 1999 between the Registrant and Tracy Ann Sebastian. 10.6(a)+ Amendment to Common Stock Purchase Agreement dated July 16, 2001 between the Registrant and Tracy Ann Sebastian. 10.7+ Common Stock Purchase Agreement dated December 30, 1999 between the Registrant and Philip L. Rosenberg. 10.8+ Series A Preferred Stock and Common Stock Purchase Agreement dated May 17, 2000 among the Registrant and Raymond C. Musci, Anthony R. Williams, Robert Holmes, Mark Dyne, Kevin Bermeister, Franchise Films, and FIMAS L.P. 10.9+ Investor Rights Agreement dated May 17, 2000 among the Registrant and Raymond C. Musci, Anthony R. Williams, Robert Holmes, Mark Dyne, Kevin Bermeister, Franchise Films, and FIMAS L.P. 10.10+ Common Stock Purchase Agreement dated September 21, 2000 between the Registrant and Bay Area Multimedia, Inc., a California corporation.
- -------------------------------------------------------------------------------- 112 10.11+ Series B Preferred Stock Purchase Agreement dated December 28, 2000 among the Registrant and PAR Capital Management, Inc., Raymond C. Musci, Anthony R. Williams, Robert Holmes, and Morgan Keegan Early Stage Fund L.P. 10.12+ Co-Sale and Right of First Refusal Agreement dated December 28, 2000 among the Registrant and PAR Capital Management, Inc., Raymond C. Musci, Anthony R. Williams, Robert Holmes, and Morgan Keegan Early Stage Fund L.P. 10.13+ Registration Rights Agreement dated December 28, 2000 among the Registrant and PAR Capital Management, Inc., Raymond C. Musci, Anthony R. Williams, Robert Holmes, and Morgan Keegan Early Stage Fund L.P. 10.14+ Series C Preferred Stock Purchase Agreement dated May 24, 2001 among the Registrant and PAR Capital Management, Inc., Raymond C. Musci, Anthony R. Williams, Robert Holmes, Morgan Keegan Early Stage Fund L.P., Stephen Ambler, Mark Dyne, Joseph Morici, Kevin Bermeister, K&L 2000 LLC, Pam Colburn, Anthony Neumann, Terry Phillips, Steven Massarsky, Daniel Clark, and FIMAS, L.P. 10.15+ Registration Rights Agreement dated May 24, 2001 among the Registrant and PAR Capital Management, Inc., Raymond C. Musci, Anthony R. Williams, Robert Holmes, Morgan Keegan Early Stage Fund L.P., Stephen Ambler, Mark Dyne, Joseph Morici, Kevin Bermeister, K&L 2000 LLC, Pam Colburn, Anthony Neumann, Terry Phillips, Steven Massarsky, Daniel Clark, and FIMAS, L.P. 10.16+ Co-Sale and Right of First Refusal Agreement dated May 24, 2001 among the Registrant and PAR Capital Management, Inc., Raymond C. Musci, Anthony R. Williams, Robert Holmes, Morgan Keegan Early Stage Fund L.P., Stephen Ambler, Mark Dyne, Joseph Morici, Kevin Bermeister, K&L 2000 LLC, Pam Colburn, Anthony Neumann, Terry Phillips, Steven Massarsky, Daniel Clark, and FIMAS, L.P. 10.17+ Master Purchase Order Assignment Agreement dated February 23, 2000 between the Registrant and Transcap Trade Finance. 10.17(a)+ First Amendment to Master Purchase Order Assignment Agreement dated September 13, 2000 between the Registrant and Transcap Trade Finance. 10.17(b)+ Second Amendment to Master Purchase Order Assignment Agreement dated December 12, 2000 between the Registrant and Transcap Trade Finance. 10.17(c)+ Third Amendment to Master Purchase Order Assignment Agreement dated March 22, 2001 between the Registrant and Transcap Trade Finance. 10.17(d)+ Fourth Amendment to Master Purchase Order Assignment Agreement dated July 2, 2001 between the Registrant and Transcap Trade Finance. 10.17(e) Fifth Amendment to Master Purchase Order Assignment Agreement dated August 16, 2001 between the Registrant and Transcap Trade Finance. 10.17(f) Form of Sixth Amendment to Master Purchase Order Assignment Agreement between the Registrant and Transcap Trade Finance. 10.18+ Security Agreement and Financing Statement dated February 23, 2000 between the Registrant and Transcap Trade Finance. 10.19+ Subordination Agreement dated February 23, 2000 between the Registrant, Raymond C. Musci, and Transcap Trade Finance. 10.20+ Guaranty and Pledge Agreement dated February 23, 2000 between the Registrant , Raymond C. Musci, and Transcap Trade Finance. 10.21+ Master Revolving Note dated November 13, 2000 between the Registrant and Comerica Bank-California. 10.22+ Security Agreement dated November 13, 2000 between the Registrant and Comerica Bank-California. 10.23+ Letter Agreement dated November 13, 2000 between the Registrant and Comerica Bank-California. 10.24+ Guaranty Agreement dated November 13, 2000 between Comerica Bank-California and Raymond C. Musci. 10.25+ Letter Agreement dated December 26, 2000 between the Registrant and Comerica Bank-California. 10.26+** Sony PlayStation Licensed Publisher Agreement dated February 2, 2000 between the Registrant and Sony Computer Entertainment America, Inc. 10.27+** Amendment to the Licensed Publisher Agreement dated April 1, 2000 between the Registrant and Sony Computer Entertainment America, Inc. 10.28+** PlayStation 2 Licensed Publisher Agreement dated April 1, 2000 between the Registrant and Sony Computer Entertainment America, Inc. 10.29+** PlayStation 2 Development System Agreement dated August 2, 2000 between the Registrant and Sony Computer Entertainment America, Inc.
- -------------------------------------------------------------------------------- 113 10.30+** Licensed Publisher Agreement for Game Boy, Game Boy Color and Game Boy Pocket dated February 18, 2000 between the Registrant and Nintendo of America, Inc. 10.31+** Licensed Publisher Agreement for Nintendo 64 dated February 18, 2000 between the Registrant and Nintendo of America, Inc. 10.32+ Confidential License Agreement for Game Boy Advance dated May 21, 2001 between the Registrant and Nintendo of America, Inc. 10.33+** Xbox Publisher License Agreement dated November 28, 2000 between the Registrant and Microsoft Corporation. 10.34+** Retail License Agreement #12177-PPG dated March 8, 2000 between the Registrant and Warner Bros. Consumer Products. 10.35+** Amendment #1 to Retail License Agreement #12177-PPG dated November 27, 2000 between the Registrant and Warner Bros. Consumer Products. 10.36+** License Agreement #12697-DEX dated October 4, 2000 between the Registrant and Warner Bros. Consumer Products. 10.37+** License Agreement #12698-YOGI dated October 4, 2000 between the Registrant and Warner Bros. Consumer Products. 10.38+** License Agreement dated March 31, 2000 between the Registrant and Takara Co., Ltd. 10.39+** Exclusive Output Agreement dated April 7, 2000 between the Registrant and Franchise Films, Inc. 10.40 First Amendment to Exclusive Output Agreement dated April 2001 between the Registrant and Franchise Films, Inc. 10.41+** License Agreement dated July 12, 2000 between the Registrant and Time, Inc. for its Sports Illustrated for Kids division. 10.42+** Exclusive Output Agreement dated October 25, 2000 between the Registrant and Spyglass Entertainment Group, L.P. 10.43+ Office Lease dated November 15, 1999 between the Registrant and Macanan Investments, L.P. 10.43(a)+ First Amendment to Office Lease dated July 31, 2001 between the Registrant and Macanan Investments L.P. 10.44+ Employment Agreement dated October 1, 1999 between the Registrant and Raymond C. Musci. 10.45 [Reserved]. 10.46+ Employment Agreement dated July 1, 2000 between the Registrant and Anthony R. Williams. 10.47 [Reserved]. 10.48+ Agreement for Chairman of Board of Directors dated June 7, 2001 between the Registrant and Robert W. Holmes, Jr. 10.49 2001 Employee Stock Purchase Plan 10.50**+ Software Distribution Agreement dated February 21, 2001 between BAM Entertainment Ltd., a subsidiary of the Registrant, and Ubi Soft Entertainment, S.A. 10.51**+ Amendment to Software Distribution Agreement dated April 23, 2001 between BAM Entertainment Ltd., a subsidiary of the Registrant, and Ubi Soft Entertainment, S.A. 10.52**+ Distribution Agreement dated July 31, 2001 between BAM Entertainment Ltd., a subsidiary of the Registrant, and Ubi Soft Entertainment, S.A. 10.53 Form of Purchase of Accounts and Security Agreement between the Registrant and Transcap Manufacturing Services, Inc. 21.1+ List of Registrant's Subsidiaries 23.1 Consent of Deloitte & Touche LLP 23.2 Consent of Kirkpatrick & Lockhart LLP (contained in exhibit 5.1) 24.1+ Power of attorney
- ------------------------- ** The Registrant has applied with the Secretary of the Securities and Exchange Commission for confidential treatment of certain information pursuant to Rule 406 under the Securities Act of 1933. The Registrant has filed separately with its application a copy of the exhibit including all confidential portions, which may be made available for public inspection pending the Securities and Exchange Commission's review of the application in accordance with Rule 406. + Previously filed. - -------------------------------------------------------------------------------- EX-4.1 3 v72115a2ex4-1.txt EXHIBIT 4.1 1 EXHIBIT 4.1 NUMBER SHARES bam! _______ entertainment __________ INCORPORATED UNDER THE LAWS CUSIP 059361 10 5 OF THE STATE OF DELAWARE SEE REVERSE FOR CERTAIN DEFINITIONS THIS CERTIFIES THAT _________________________________________________________ SPECIMEN IS THE OWNER OF ______________________________________________________________ FULLY PAID AND NON-ASSESSABLE SHARES OF THE COMMON STOCK, $0.001 PAR VALUE OF BAM! ENTERTAINMENT, INC. transferable on the books of the Corporation by the holder hereof in person or by duly authorized Attorney upon surrender of this certificate properly endorsed. This certificate is not valid until countersigned by the Transfer Agent and Registrar. WITNESS the facsimile signatures of its duly authorized officers. Dated: [SEAL] /s/ GEORGE M. SUNDHEIM III /s/ RAYMOND C. MUSCI --------------------------- -------------------------- Secretary President & CEO Countersigned and Registered: AMERICAN STOCK TRANSFER & TRUST COMPANY (New York, New York) Transfer Agent and Registrar By: ------------------------------------- Authorized Signature 2 BAM! ENTERTAINMENT, INC. The Corporation shall furnish without charge to each stockholder who so requests a statement of the powers, designations, and relative, participating, optional, or other special rights of each class of stock of the Corporation or series thereof and the qualifications, limitations or restrictions of such preferences and/or rights. Such requests shall be made to the Corporation's Secretary at the principal of the Corporation. KEEP THIS CERTIFICATE IN A SAFE PLACE, IF IT IS LOST, STOLEN, OR DESTROYED THE CORPORATION WILL REQUIRED A-BOND OF INDEMNITY AS A CONDITION TO THE ISSUANCE OF A REPLACEMENT CERTIFICATE. The following abbreviations, when used in the inscription on the face of this certificate, shall be construed as though they were written out in full according to applicable laws or regulations. TEN COM - as tenants in common UNIF GIFT MIN ACT - _____________ Custodian ______________ TEN ENT - as tenants by the entireties (Cust) (Minor) JT TEN - as joint tenants with right of under Uniform Gifts to Minors survivorship and not as tenants Act ____________________________________ in common (State) COM PROP - as community property UNIF TRF MIN ACT - __________ Custodian (until age) _______) _________________ under Uniform Transfers (Minor) to Minors Act ___________________________ (State)
Additional abbreviations may also be used though not in the above list For value received, ____________________________ hereby sell, assigns and transfer unto PLEASE INSERT SOCIAL SECURITY OR OTHER IDENTIFYING NUMBER OF ASSIGNEE ________________________________________ ________________________________________ ________________________________________________________________________________ (PLEASE PRINT OR TYPEWRITE NAME AND ADDRESS, INCLUDING ZIP CODE, OF ASSIGNEE) ________________________________________________________________________________ ________________________________________________________________________________ _________________________________________________________________________ shares of the common stock represented by the within Certificate, and do hereby irrevocably constitute and appoint ______________________________________________________________________ Attorney to transfer the said stock on the books of the within named Corporation with full power of substitution in the premises. Dated ________________________ X____________________________________________ X____________________________________________ Notice: The signature(s) to this assignment must correspond with the name(s) as written upon the face of this Certificate in every particular, without alteration or enlargement or any change whatsoever. Signature(s) Guaranteed By__________________________________________ THE SIGNATURE(S) MUST BE GUARANTEED BY AN ELIGIBLE GUARANTOR INSTITUTION (BANKS, STOCKBROKERS, SAVINGS AND LOAN ASSOCIATIONS AND CREDIT UNIONS WITH MEMBERSHIP IN AN APPROVED SIGNATURE GUARANTEE MEDALLION PROGRAM), PURSUANT TO S.E.C. RULE 17Ad-15. EX-4.9 4 v72115a2ex4-9.txt EXHIBIT 4.9 1 EXHIBIT 4.9 NO. ____ THE SECURITIES REPRESENTED BY THIS CERTIFICATE HAVE BEEN ACQUIRED FOR INVESTMENT AND HAVE NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933 OR ANY STATE SECURITIES LAWS. SUCH SECURITIES MAY NOT BE SOLD OR TRANSFERRED IN THE ABSENCE OF SUCH REGISTRATION OR AN EXEMPTION THEREFROM UNDER SAID ACT AND ANY APPLICABLE STATE SECURITIES LAWS. WARRANT TO PURCHASE SHARES OF CAPITAL STOCK OF BAM! ENTERTAINMENT, INC. This certifies that Transcap Associates, Inc., an Illinois corporation, or its successors or assigns (the "HOLDER"), for value received, is entitled to purchase from BAM! Entertainment, Inc., a Delaware corporation (the "COMPANY"), having a place of business at 333 W. Santa Clara Blvd., San Jose, CA 95113, up to 100,000 shares ("Warrant Shares") of the Company's Common Stock (the "Common Stock"), at a purchase price equal to the per share price concurrent with the closing of the Company's initial public offering (the "IPO")(the "Per Share Price"). The Warrant Shares may be purchased no sooner than one hundred eighty (180) days after the IPO (the "Exercise Date"). Notwithstanding the provisions of the previous sentence, in the event the Company proposes to sell substantially all of its assets or to undertake a reorganization where the shareholders of the Company immediately prior to the reorganization hold less than 50% of the securities of the surviving entity after such reorganization, the Company shall provide notice to the Holder at least fifteen days before the closing of such transaction and give Holder the opportunity to purchase the Warrant Shares prior to the closing of such transaction. The right to purchase the Warrant Shares shall terminate at 5 p.m. December 31, 2001, Pacific Standard Time if the IPO has not occurred by such date. If the IPO has occurred by such date, the right to purchase the Warrant Shares shall terminate at 5 p.m. Pacific Daylight Savings Time on August 30, 2004 (collectively the "Expiration Date") To purchase the Warrant Shares the Holder shall surrender to the Company at its principal office (or at such other location as the Company may advise the Holder in writing) this Warrant properly endorsed with the Form of Subscription attached hereto duly filled in and signed and, if applicable, upon payment in cash or by check of the aggregate Per Share Price for the number of the Warrant Shares for which this Warrant is being exercised determined in accordance with the provisions hereof. The Per Share Price and the number of Warrant Shares purchasable hereunder are subject to adjustment as provided in Section 3 of this Warrant. This Warrant is subject to the following terms and conditions: 1. EXERCISE; ISSUANCE OF CERTIFICATES; PAYMENT FOR SHARES. 1.1 EXERCISE DATE. This Warrant is exercisable at the option of the holder of record hereof, at any time or from time to time, from the Exercise Date up to the Expiration Date for all or any part of the shares of Warrant Shares (but not for a fraction of a share) which may be purchased hereunder by the surrender of this Warrant, together with the Subscription Form attached hereto as Exhibit A, duly completed and executed at the principal office of the Company specifying the portion of the Warrant to be exercised and accompanied by payment in full in cash or by check with respect to the Shares of the Warrant Stock being purchased. The Company agrees that the shares of Warrant Shares purchased under this Warrant shall be and are deemed to be issued to the Holder hereof as the record owner of such shares as of the close of business on the date on which this Warrant shall have been surrendered, properly endorsed, together with the completed, executed Form of Subscription delivered and payment made for such shares. Certificates for the shares of Warrant Shares so purchased, together with any other securities or property to which the Holder hereof is entitled upon such exercise, shall be delivered to the Holder hereof by the Company at the Company's expense within a reasonable time after the rights represented by this Warrant have been so exercised. In case of a purchase of less than all the shares which may be purchased under this Warrant, the Company shall cancel this Warrant and execute and deliver a new Warrant or Warrants of like tenor for the balance of the shares purchasable under the Warrant surrendered upon such purchase to the Holder hereof within a reasonable time. Each stock certificate so delivered shall be in such denominations of Warrant Shares as may be requested by the Holder hereof and shall be registered in the name of such Holder. - 1 - 2 1.2 NET ISSUE EXERCISE. Notwithstanding any provisions herein to the contrary, if prior to the Expiration the average trading price of one share of the Company's Common Stock for a period of five days immediately prior to the "Surrender" (as defined below) (the "FMV"), is greater than the Per Share Price for one share of the Warrant Shares, in lieu of exercising this Warrant for cash, the Holder may elect to receive shares of Common Stock equal to the value (as determined below) of this Warrant (or the portion thereof being canceled) by surrender of this Warrant at the principal office of the Company (the "Surrender"), properly endorsed with the Form of Subscription attached hereto duly filled in and signed, in which event the Company shall issue to the Holder that number of shares of Common Stock computed using the following formula: WS = WCS (FMV-PSP) ------------- FMV WHERE: WS equals the number of Warrant Shares to be issued to the Holder WCS equals the number of shares of Common Stock purchasable under this Warrant or, if only a portion of the Warrant is being exercised, the portion of the Warrant being canceled (at the date of such calculation) FMV Defined above PSP equals the Per Share Price of this Warrant 2. SHARES TO BE FULLY PAID; RESERVATION OF SHARES. The Company covenants and agrees that all shares of Warrant Shares which may be issued upon the exercise of the rights represented by this Warrant will, upon issuance, be duly authorized, validly issued, fully paid and nonassessable and free from all preemptive rights of any shareholder and free of all taxes, liens and charges with respect to the issue thereof. The Company further covenants and agrees that, during the period within which the rights represented by this Warrant may be exercised, the Company will at all times have authorized and reserved, for the purpose of issue or transfer upon exercise of the subscription rights evidenced by this Warrant, a sufficient number of shares of authorized but unissued Warrant Shares, or other securities and property, when and as required to provide for the exercise of the rights represented by this Warrant. 3. ADJUSTMENT OF PER SHARE PRICE AND NUMBER OF SHARES. The Per Share Price and the number of shares purchasable upon the exercise of this Warrant shall be subject to adjustment from time to time upon the occurrence of certain events described in this Section 3. 3.1 SUBDIVISION OR COMBINATION OF STOCK. In case the Company shall at any time subdivide its outstanding shares of Warrant Shares into a greater number of shares, the Per Share Price in effect immediately prior to such subdivision shall be proportionately reduced, and conversely, in case the outstanding shares of Warrant Shares of the Company shall be combined into a smaller number of shares, the Per Share Price in effect immediately prior to such combination shall be proportionately increased. 3.2 DIVIDENDS IN WARRANT SHARES, OTHER STOCK, PROPERTY, RECLASSIFICATION. If at any time or from time to time the Holders of Warrant Shares (or any shares of stock or other securities at the time receivable upon the exercise of this Warrant) shall have received or become entitled to receive, without payment therefor, (a) Warrant Shares or any shares of stock or other securities which are at any time directly or indirectly convertible into or exchangeable for Warrant Shares, or any rights or options to subscribe for, purchase or otherwise acquire any of the foregoing by way of dividend or other distribution, (b) Any cash paid or payable otherwise than as a cash dividend, or - 2 - 3 (c) Warrant Shares or additional stock or other securities or property (including cash) by way of spinoff, split-up, reclassification, combination of shares or similar corporate rearrangement, (other than shares of Warrant Shares issued as a stock split or adjustments in respect of which shall be covered by the terms of Section 3.1 above), then and in each such case, the Holder hereof shall, upon the exercise of this Warrant, be entitled to receive, in addition to the number of shares of Warrant Shares receivable thereupon, and without payment of any additional consideration therefor, the amount of stock and other securities and property (including cash in the cases referred to in clause (b) above and this clause (c)) which such Holder would hold on the date of such exercise had he been the holder of record of such Warrant Shares as of the date on which holders of Warrant Shares received or became entitled to receive such shares or all other additional stock and other securities and property. 3.3 NO IMPAIRMENT. Except and to the extent as waived or consented to by the Holder, the Company will not, by amendment of its Certificate of Incorporation or through any reorganization, transfer of assets, consolidation, merger, dissolution, issue or sale of securities or any other voluntary action, avoid or seek to avoid the observance or performance of any of the terms to be observed or performed hereunder by the Company, but will at all times in good faith assist in the carrying out of all the provisions of this Warrant and in the taking of all such action as may be necessary or appropriate in order to protect the exercise rights of the Holder against impairment. 3.4 NOTICES OF CHANGE. (a) Immediately upon any adjustment in the number or class of shares subject to this Warrant and of the Per Share Price, the Company shall give written notice thereof to the Holder, setting forth in reasonable detail and certifying the calculation of such adjustment. (b) The Company shall give written notice to the Holder at least ten (10) business days prior to the date on which the Company closes its books or takes a record for determining rights to receive any dividends or distributions. (c) The Company shall give written notice to the Holder at least thirty (30) business days prior to the date on which an Organic Change or an Qualified Public Offering shall take place. 4. ISSUE TAX. The issuance of certificates for shares of Warrant Shares upon the exercise of the Warrant shall be made without charge to the Holder of the Warrant for any issue tax (other than any applicable income taxes) in respect thereof; provided, however, that the Company shall not be required to pay any tax which may be payable in respect of any transfer involved in the issuance and delivery of any certificate in a name other than that of the then Holder of the Warrant being exercised. 5. CLOSING OF BOOKS. The Company will at no time close its transfer books against the transfer of any warrant or of any shares of Warrant Shares issued or issuable upon the exercise of any warrant in any manner which interferes with the timely exercise of this Warrant. 6. NO VOTING OR DIVIDEND RIGHTS; LIMITATION OF LIABILITY. Nothing contained in this Warrant shall be construed as conferring upon the Holder hereof the right to vote or to consent or to receive notice as a shareholder of the Company or any other matters or any rights whatsoever as a shareholder of the Company. No dividends or interest shall be payable or accrued in respect of this Warrant or the interest represented hereby or the shares purchasable hereunder until, and only to the extent that, this Warrant shall have been exercised. No provisions hereof, in the absence of affirmative action by the holder to purchase shares of Warrant Shares, and no mere enumeration herein of the rights or privileges of the holder hereof, shall give rise to any liability of such Holder for the Per Share Price or as a shareholder of the Company, whether such liability is asserted by the Company or by its creditors. - 3 - 4 7. RIGHTS AND OBLIGATIONS SURVIVE EXERCISE OF WARRANT. The rights and obligations of the Company, of the holder of this Warrant and of the holder of shares of Warrant Shares issued upon exercise of this Warrant, shall survive the exercise of this Warrant. 8. MODIFICATION AND WAIVER. This Warrant and any provision hereof may be changed, waived, discharged or terminated only by an instrument in writing signed by the party against which enforcement of the same is sought. 9. NOTICES. Any notice, request or other document required or permitted to be given or delivered to the holder hereof or the Company shall be delivered or shall be sent by certified mail, postage prepaid, to each such holder at its address as shown on the books of the Company or to the Company at the address indicated therefor in the first paragraph of this Warrant or such other address as either may from time to time provide to the other. 10. BINDING EFFECT ON SUCCESSORS. This Warrant shall be binding upon any corporation succeeding the Company by merger, consolidation or acquisition of all or substantially all of the Company's assets. All of the obligations of the Company relating to the Warrant Shares issuable upon the exercise of this Warrant shall survive the exercise and termination of this Warrant. This Warrant may not be assigned without the prior written consent of the Company. 11. DESCRIPTIVE HEADINGS AND GOVERNING LAW. The description headings of the several sections and paragraphs of this Warrant are inserted for convenience only and do not constitute a part of this Warrant. This Warrant shall be construed and enforced in accordance with, and the rights of the parties shall be governed by, the laws of the State of California. 12. LOST WARRANTS. The Company represents and warrants to the Holder hereof that upon receipt of evidence reasonably satisfactory to the Company of the loss, theft, destruction, or mutilation of this Warrant and, in the case of any such loss, theft or destruction, upon receipt of an indemnity reasonably satisfactory to the Company, or in the case of any such mutilation upon surrender and cancellation of such Warrant, the Company, at its expense, will make and deliver a new Warrant, of like tenor, in lieu of the lost, stolen, destroyed or mutilated Warrant. 13. FRACTIONAL SHARES. No fractional shares shall be issued upon exercise of this Warrant. The Company shall, in lieu of issuing any fractional share, pay the holder entitled to such fraction a sum in cash equal to such fraction multiplied by the then effective Per Share Price. [SIGNATURE PAGE FOLLOWS] - 4 - 5 IN WITNESS WHEREOF, the Company has caused this Warrant to be duly executed by its officers, thereunto duly authorized this ____ day of _______________, 2001. BAM! ENTERTAINMENT, INC., a Delaware corporation By: -------------------------------- Raymond C. Musci, President - 5 - 6 EXHIBIT A SUBSCRIPTION FORM Date: _________________, 200_ BAM! Entertainment, Inc. 333 W. Santa Clara Blvd. San Jose, CA 95113 Attn: President Ladies and Gentlemen: The undersigned hereby elects to exercise the warrant issued to it by BAM! Entertainment, Inc. (the "Company") and dated _____________, 2001 Warrant No. ___ (the "Warrant") and to purchase thereunder __________________________________ shares of the Warrant Shares of the Company (the "Shares") at a purchase price of ___________________________________________ Dollars ($__________) per Share or an aggregate purchase price of __________________________________ Dollars ($__________) (the "Purchase Price"). Pursuant to the terms of the Warrant the undersigned has delivered the Purchase Price herewith in full in cash or by certified check or wire transfer. Very truly yours, ------------------------------------ By: -------------------------------- Title: ----------------------------- i EX-5.1 5 v72115a2ex5-1.txt EXHIBIT 5.1 1 EXHIBIT 5.1 [Letterhead of Kirkpatrick and Lockhart LLP] August 31, 2001 BAM! Entertainment, Inc. 333 West Santa Clara Street Suite 716 San Jose, CA 95113 Re: Registration Statement on Form S-1 SEC File No. 333-62436 We have acted as counsel to BAM! Entertainment, Inc., a Delaware corporation (the "Company"), in connection with the preparation and filing with the Securities and Exchange Commission (the "SEC") of the Registration Statement on Form S-1, File No. 333-62436, as such may be amended from time to time, (the "Registration Statement"), of the Company, for registration under the Securities Act of 1933, as amended (the "Securities Act"), of up to 4,025,000 shares of the Company's Common Stock (the "Shares"), par value $0.001 per share (the "Common Stock"), including up to 525,000 shares of Common Stock which may be offered to cover over-allotments, if any. This opinion is delivered in accordance with the requirements of Item 601(b)(5)(i) of Regulation S-K under the Securities Act. For the purpose of this opinion, we have examined such matters of law and originals, or copies certified or otherwise identified to our satisfaction, of such documents, corporate records and other instruments, as we have deemed necessary. Based on the foregoing and on all other instruments, documents and matters examined for the rendering of this opinion, it is our opinion that upon the issuance and sale of the Shares in the manner described in the Registration Statement, the Shares will be legally issued, fully paid and non-assessable shares of the Common Stock of the Company. We express no opinion as to the applicability or effect of any laws, orders or judgments or any state or jurisdiction other than the federal securities laws and the laws of the State of Delaware. We consent to the use of our name under the captioned "Legal Matters" in the Prospectus, constituting part of the Registration Statement, and to the filing of this opinion as an exhibit to the Registration Statement. 2 BAM! Entertainment, Inc. August 31, 2001 Page 2 By giving you this opinion and consent, we do not admit that we are experts with respect to any part of the Registration Statement or Prospectus within the meaning of the term "expert" as used in Section 11 of the Securities Act, or the rules and regulations promulgated thereunder by the SEC, nor do we admit that we are in the category of persons whose consent is required under Section 7 of the Securities Act. Sincerely, /s/ KIRKPATRICK & LOCKHART LLP KIRKPATRICK & LOCKHART LLP EX-10.1 6 v72115a2ex10-1.txt EXHIBIT 10.1 1 AMENDED AND RESTATED BAM! ENTERTAINMENT, INC. 2000 STOCK INCENTIVE PLAN 1. Purposes of the Plan. The purposes of this Stock Incentive Plan are to attract and retain the best available personnel, to provide additional incentive to Employees, Directors and Consultants and to promote the success of the Company's business. 2. Definitions. As used herein, the following definitions shall apply: (a) "Administrator" means the Board or any of the Committees appointed to administer the Plan. (b) "Applicable Laws" means the legal requirements relating to the administration of stock incentive plans, if any, under applicable provisions of federal and state securities laws, the corporate laws of California and, to the extent other than California, the corporate law of the state of the Company's incorporation, the Code, the rules of any applicable stock exchange or national market system, and the rules of any foreign jurisdiction applicable to Awards granted to residents therein. (c) "Award" means the grant of an Option, Restricted Stock or other right or benefit under the Plan. (d) "Award Agreement" means the written agreement evidencing the grant of an Award executed by the Company and the Grantee, including any amendments thereto. (e) "Board" means the Board of Directors of the Company. (f) "Cause" means the definition of such term specified in the Award Agreement. If no such definition is included in the Award Agreement, then "Cause" shall mean, with respect to the termination by the Company or a Related Entity of the Grantee's Continuous Service, that such termination is for "Cause" as such term is expressly defined in the then-effective written agreement between the Grantee and the Company or such Related Entity, or in the absence of such then-effective written agreement or definition, that such termination is based on, in the determination of the Administrator, the Grantee's: (i) refusal or failure to act in accordance with any specific, lawful direction or order of the Company or a Related Entity; (ii) performance of any act or failure to perform any act in bad faith and to the material detriment of the Company or a Related Entity; (iii) dishonesty, intentional misconduct or material breach of any agreement with the Company or a Related Entity; or (iv) commission of embezzlement, misappropriation of trade secrets or any felony involving dishonesty, breach of trust, or physical or emotional harm to any person. At least 14 calendar days prior to the termination of the Grantee's Continuous Service pursuant to (i) above, the Company shall provide the Grantee with notice of the Company's or such Related Entity's intent to terminate, the reason therefor, and an opportunity for the Grantee to cure such defects in his or her service to the Company's or such 1 2 Related Entity's satisfaction. During this 14 day (or longer) period, no Award issued to the Grantee under the Plan may be exercised or purchased. (g) "Code" means the Internal Revenue Code of 1986, as amended. (h) "Committee" means any committee appointed by the Board to administer the Plan. (i) "Common Stock" means the common stock of the Company. (j) "Company" means BAM! Entertainment, Inc., a Delaware corporation. (k) "Consultant" means any person (other than an Employee or a Director, solely with respect to rendering services in such person's capacity as a Director) who is engaged by the Company or any Related Entity to render consulting or advisory services to the Company or such Related Entity. (l) "Continuous Service" means that the provision of services to the Company or a Related Entity in any capacity of Employee, Director or Consultant, is not interrupted or terminated. Continuous Service shall not be considered interrupted in the case of (i) any approved leave of absence, (ii) transfers among the Company, any Related Entity, or any successor, in any capacity of Employee, Director or Consultant, or (iii) any change in status as long as the individual remains in the service of the Company or a Related Entity in any capacity of Employee, Director or Consultant (except as otherwise provided in the Award Agreement). An approved leave of absence shall include sick leave, military leave, or any other authorized personal leave. For purposes of Incentive Stock Options, no such leave may exceed ninety (90) days, unless reemployment upon expiration of such leave is guaranteed by statute or contract. (m) "Corporate Transaction" means any of the following transactions to which the Company is a party: (i) a merger or consolidation in which the Company is not the surviving entity, except for a transaction the principal purpose of which is to change the state in which the Company is incorporated; (ii) the sale, transfer or other disposition of all or substantially all of the assets of the Company (including the capital stock of the Company's subsidiary corporations) in connection with the complete liquidation or dissolution of the Company; (iii) any reverse merger in which the Company is the surviving entity but in which securities possessing more than fifty percent (50%) of the total combined voting power of the Company's outstanding securities are transferred to a person or persons different from those who held such securities immediately prior to such merger; or (iv) acquisition by any person or related group of persons (other than the Company or by a Company-sponsored employee benefit plan) of beneficial ownership (within the meaning of Rule 13d-3 of the Exchange Act) of securities possessing more than fifty 2 3 percent (50%) of the total combined voting power of the Company's outstanding securities, but excluding any such transaction that the Administrator determines shall not be a Corporate Transaction. (n) "Director" means a member of the Board or the board of directors of any Related Entity. (o) "Disability" means that a Grantee would qualify for benefit payments under the long-term disability policy of the Company or the Related Entity to which the Grantee provides services regardless of whether the Grantee is covered by such policy; provided that if no such long-term disability policy exists, Disability shall mean that a Grantee is permanently unable to carry out the responsibilities and functions of the position held by the Grantee by reason of any medically determinable physical or mental impairment. A Grantee will not be considered to have incurred a Disability unless he or she furnishes proof of such impairment sufficient to satisfy the Administrator in its discretion. (p) "Employee" means any person, including an Officer or Director, who is an employee of the Company or any Related Entity. The payment of a director's fee by the Company or a Related Entity shall not be sufficient to constitute "employment" by the Company. (q) "Exchange Act" means the Securities Exchange Act of 1934, as amended. (r) "Fair Market Value" means, as of any date, the value of Common Stock determined as follows: (i) Where there exists a public market for the Common Stock, the Fair Market Value shall be (A) the closing price for a Share for the last market trading day prior to the time of the determination (or, if no closing price was reported on that date, on the last trading date on which a closing price was reported) on the stock exchange determined by the Administrator to be the primary market for the Common Stock or the Nasdaq National Market, whichever is applicable or (B) if the Common Stock is not traded on any such exchange or national market system, the average of the closing bid and asked prices of a Share on the Nasdaq Small Cap Market for the day prior to the time of the determination (or, if no such prices were reported on that date, on the last date on which such prices were reported), in each case, as reported in The Wall Street Journal or such other source as the Administrator deems reliable; or (ii) In the absence of an established market for the Common Stock of the type described in (i), above, the Fair Market Value thereof shall be determined by the Administrator in good faith and in a manner consistent with Section 260.140.50 of Title 10 of the California Code of Regulations. (s) "Grantee" means an Employee, Director or Consultant who receives an Award under the Plan. (t) "Incentive Stock Option" means an Option intended to qualify as an incentive stock option within the meaning of Section 422 of the Code. 3 4 (u) "Non-Qualified Stock Option" means an Option not intended to qualify as an Incentive Stock Option. (v) "Officer" means a person who is an officer of the Company or a Related Entity within the meaning of Section 16 of the Exchange Act and the rules and regulations promulgated thereunder. (w) "Option" means an option to purchase Shares pursuant to an Award Agreement granted under the Plan. (x) "Parent" means a "parent corporation," whether now or hereafter existing, as defined in Section 424(e) of the Code. (y) "Plan" means this 2000 Stock Incentive Plan. (z) "Post-Termination Exercise Period" means the period specified in the Award Agreement of not less than thirty (30) days commencing on the date of termination of the Grantee's Continuous Service, or such longer period as may be applicable upon death or Disability. (aa) "Registration Date" means the first to occur of (i) the closing of the first sale to the general public of (A) the Common Stock or (B) the same class of securities of a successor corporation (or its Parent) issued pursuant to a Corporate Transaction in exchange for or in substitution of the Common Stock, pursuant to a registration statement filed with and declared effective by the Securities and Exchange Commission under the Securities Act of 1933, as amended; and (ii) in the event of a Corporate Transaction, the date of the consummation of the Corporate Transaction if the same class of securities of the successor corporation (or its Parent) issuable in such Corporate Transaction shall have been sold to the general public pursuant to a registration statement filed with and declared effective by the Securities and Exchange Commission under the Securities Act of 1933, as amended, on or prior to the date of consummation of such Corporate Transaction. (bb) "Related Entity" means any Parent, Subsidiary and any business, corporation, partnership, limited liability company or other entity in which the Company, a Parent or a Subsidiary holds a substantial ownership interest, directly or indirectly. (cc) "Restricted Stock" means Shares issued under the Plan to the Grantee for such consideration, if any, and subject to such restrictions on transfer, rights of first refusal, repurchase provisions, forfeiture provisions, and other terms and conditions as established by the Administrator. (dd) "Share" means a share of the Common Stock. (ee) "Subsidiary" means a "subsidiary corporation," whether now or hereafter existing, as defined in Section 424(f) of the Code. 4 5 3. Stock Subject to the Plan. (a) Subject to the provisions of Section 11(a) below, the maximum aggregate number of Shares which may be issued pursuant to all Awards (including Incentive Stock Options) is 325,000 Shares. The Shares may be authorized, but unissued, or reacquired Common Stock. (b) Any Shares covered by an Award (or portion of an Award) which is forfeited or canceled, expires or is settled in cash, shall be deemed not to have been issued for purposes of determining the maximum aggregate number of Shares which may be issued under the Plan. Shares that actually have been issued under the Plan pursuant to an Award shall not be returned to the Plan and shall not become available for future issuance under the Plan, except that if unvested Shares are forfeited, or repurchased by the Company at their original purchase price, such Shares shall become available for future grant under the Plan. 4. Administration of the Plan. (a) Plan Administrator. With respect to grants of Awards to Employees, Directors, or Consultants, the Plan shall be administered by (A) the Board or (B) a Committee (or a subcommittee of the Committee) designated by the Board, which Committee shall be constituted in such a manner as to satisfy Applicable Laws. Once appointed, such Committee shall continue to serve in its designated capacity until otherwise directed by the Board. (b) Powers of the Administrator. Subject to Applicable Laws and the provisions of the Plan (including any other powers given to the Administrator hereunder), and except as otherwise provided by the Board, the Administrator shall have the authority, in its discretion: (i) to select the Employees, Directors and Consultants to whom Awards may be granted from time to time hereunder; (ii) to determine whether and to what extent Awards are granted hereunder; (iii) to determine the number of Shares or the amount of other consideration to be covered by each Award granted hereunder; (iv) to approve forms of Award Agreements for use under the Plan; (v) to determine the terms and conditions of any Award granted hereunder; (vi) to establish additional terms, conditions, rules or procedures to accommodate the rules or laws of applicable foreign jurisdictions and to afford Grantees favorable treatment under such rules or laws; provided, however, that no Award shall be granted under any such additional terms, conditions, rules or procedures with terms or conditions which are inconsistent with the provisions of the Plan; 5 6 (vii) to amend the terms of any outstanding Award granted under the Plan, provided that any amendment that would adversely affect the Grantee's rights under an outstanding Award shall not be made without the Grantee's written consent; (viii) to construe and interpret the terms of the Plan and Awards, including without limitation, any notice of award or Award Agreement, granted pursuant to THE Plan; and (ix) to take such other action, not inconsistent with the terms of the Plan, as the Administrator deems appropriate. 5. Eligibility. Awards other than Incentive Stock Options may be granted to Employees, Directors and Consultants. Incentive Stock Options may be granted only to Employees of the Company, a Parent or a Subsidiary. An Employee, Director or Consultant who has been granted an Award may, if otherwise eligible, be granted additional Awards. Awards may be granted to such Employees, Directors or Consultants who are residing in foreign jurisdictions as the Administrator may determine from time to time. 6. Terms and Conditions of Awards. (a) Type of Awards. The Administrator is authorized under the Plan to award any type of arrangement to an Employee, Director or Consultant that is not inconsistent with the provisions of the Plan and that by its terms involves or might involve the issuance of (i) Shares, (ii) an Option or similar right with a fixed or variable price related to the Fair Market Value of the Shares and with an exercise or conversion privilege related to the passage of time, the occurrence of one or more events, or the satisfaction of performance criteria or other conditions, or (iii) any other security with the value derived from the value of the Shares. Such awards include, without limitation, Options or sales or bonuses of Restricted Stock, and an Award may consist of one such security or benefit, or two (2) or more of them in any combination or alternative. (b) Designation of Award. Each Award shall be designated in the Award Agreement. In the case of an Option, the Option shall be designated as either an Incentive Stock Option or a Non-Qualified Stock Option. However, notwithstanding such designation, to the extent that the aggregate Fair Market Value of Shares subject to Options designated as Incentive Stock Options which become exercisable for the first time by a Grantee during any calendar year (under all plans of the Company or any Parent or Subsidiary) exceeds $100,000, such excess Options, to the extent of the Shares covered thereby in excess of the foregoing limitation, shall be treated as Non-Qualified Stock Options. For this purpose, Incentive Stock Options shall be taken into account in the order in which they were granted, and the Fair Market Value of the Shares shall be determined as of the grant date of the relevant Option. (c) Conditions of Award. Subject to the terms of the Plan, the Administrator shall determine the provisions, terms, and conditions of each Award including, but not limited to, the Award vesting schedule, repurchase provisions, rights of first refusal, forfeiture provisions, form of payment (cash, Shares, or other consideration) upon settlement of the Award, payment 6 7 contingencies, and satisfaction of any performance criteria. The performance criteria established by the Administrator may be based on any one of, or combination of, increase in share price, earnings per share, total shareholder return, return on equity, return on assets, return on investment, net operating income, cash flow, revenue, economic value added, personal management objectives, or other measure of performance selected by the Administrator. Partial achievement of the specified criteria may result in a payment or vesting corresponding to the degree of achievement as specified in the Award Agreement. (d) Acquisitions and Other Transactions. The Administrator may issue Awards under the Plan in settlement, assumption or substitution for, outstanding awards or obligations to grant future awards in connection with the Company or a Related Entity acquiring another entity, an interest in another entity or an additional interest in a Related Entity whether by merger, stock purchase, asset purchase or other form of transaction. (e) Deferral of Award Payment. The Administrator may establish one or more programs under the Plan to permit selected Grantees the opportunity to elect to defer receipt of consideration upon exercise of an Award, satisfaction of performance criteria, or other event that absent the election would entitle the Grantee to payment or receipt of Shares or other consideration under an Award. The Administrator may establish the election procedures, the timing of such elections, the mechanisms for payments of, and accrual of interest or other earnings, if any, on amounts, Shares or other consideration so deferred, and such other terms, conditions, rules and procedures that the Administrator deems advisable for the administration of any such deferral program. (f) Award Exchange Programs. The Administrator may establish one or more programs under the Plan to permit selected Grantees to exchange an Award under the Plan for one or more other types of Awards under the Plan on such terms and conditions as determined by the Administrator from time to time. (g) Separate Programs. The Administrator may establish one or more separate programs under the Plan for the purpose of issuing particular forms of Awards to one or more classes of Grantees on such terms and conditions as determined by the Administrator from time to time. Awards to Employees outside the United States may be made pursuant to the terms set forth in Schedule A, attached hereto, which sets forth the terms of the Company's 2001 Stock Incentive Plan (UK Part) (the "UK Plan"). (h) Early Exercise. The Award Agreement may, but need not, include a provision whereby the Grantee may elect at any time while an Employee, Director or Consultant to exercise any part or all of the Award prior to full vesting of the Award. Any unvested Shares received pursuant to such exercise may be subject to a repurchase right in favor of the Company or a Related Entity or to any other restriction the Administrator determines to be appropriate. (i) Term of Award. The term of each Award shall be the term stated in the Award Agreement, provided, however, that the term shall be no more than ten (10) years from the date of grant thereof. However, in the case of an Incentive Stock Option granted to a Grantee who, at the time the Option is granted, owns stock representing more than ten percent (10%) of 7 8 the voting power of all classes of stock of the Company or any Parent or Subsidiary, the term of the Incentive Stock Option shall be five (5) years from the date of grant thereof or such shorter term as may be provided in the Award Agreement. (j) Transferability of Awards. Non-Qualified Stock Options shall be transferable (i) to the extent provided in the Award Agreement and in a manner consistent with Section 260.140.41 of Title 10 of the California Code of Regulations and (ii) by will, and by the laws of descent and distribution. Incentive Stock Options and other Awards may not be sold, pledged, assigned, hypothecated, transferred, or disposed of in any manner other than by will or by the laws of descent or distribution and may be exercised, during the lifetime of the Grantee, only by the Grantee. (k) Time of Granting Awards. The date of grant of an Award shall for all purposes be the date on which the Administrator makes the determination to grant such Award, or such other date as is determined by the Administrator. Notice of the grant determination shall be given to each Employee, Director or Consultant to whom an Award is so granted within a reasonable time after the date of such grant. 7. Award Exercise or Purchase Price, Consideration and Taxes. (a) Exercise or Purchase Price. The exercise or purchase price, if any, for an Award shall be as follows: (i) In the case of an Incentive Stock Option: (A) granted to an Employee who, at the time of the grant of such Incentive Stock Option owns stock representing more than ten percent (10%) of the voting power of all classes of stock of the Company or any Parent or Subsidiary, the per Share exercise price shall be not less than one hundred ten percent (110%) of the Fair Market Value per Share on the date of grant; or (B) granted to any Employee other than an Employee described in the preceding paragraph, the per Share exercise price shall be not less than one hundred percent (100%) of the Fair Market Value per Share on the date of grant. (ii) In the case of a Non-Qualified Stock Option: (A) granted to a person who, at the time of the grant of such Option, owns stock representing more than ten percent (10%) of the voting power of all classes of stock of the Company or any Parent or Subsidiary, the per Share exercise price shall be not less than one hundred ten percent (110%) of the Fair Market Value per Share on the date of grant; or (B) granted to any person other than a person described in the preceding paragraph, the per Share exercise price shall be not less than eighty-five percent (85%) of the Fair Market Value per Share on the date of grant. 8 9 (iii) In the case of the sale of Shares: (A) granted to a person who, at the time of the grant of such Award, or at the time the purchase is consummated, owns stock representing more than ten percent (10%) of the voting power of all classes of stock of the Company or any Parent or Subsidiary, the per Share purchase price shall be not less than one hundred percent (100%) of the Fair Market Value per Share on the date of grant; or (B) granted to any person other than a person described in the preceding paragraph, the per Share purchase price shall be not less than eighty-five percent (85%) of the Fair Market Value per Share on the date of grant. (iv) In the case of other Awards, such price as is determined by the Administrator. (v) Notwithstanding the foregoing provisions of this Section 7(a), in the case of an Award issued pursuant to Section 6(d), above, the exercise or purchase price for the Award shall be determined in accordance with the principles of Section 424(a) of the Code. (b) Consideration. Subject to Applicable Laws, the consideration to be paid for the Shares to be issued upon exercise or purchase of an Award including the method of payment, shall be determined by the Administrator (and, in the case of an Incentive Stock Option, shall be determined at the time of grant). In addition to any other types of consideration the Administrator may determine, the Administrator is authorized to accept as consideration for Shares issued under the Plan the following: (i) cash; (ii) check; (iii) delivery of Grantee's promissory note with such recourse, interest, security, and redemption provisions as the Administrator determines as appropriate; (iv) if the exercise or purchase occurs on or after the Registration Date, surrender of Shares or delivery of a properly executed form of attestation of ownership of Shares as the Administrator may require (including withholding of Shares otherwise deliverable upon exercise of the Award) which have a Fair Market Value on the date of surrender or attestation equal to the aggregate exercise price of the Shares as to which said Award shall be exercised (but only to the extent that such exercise of the Award would not result in an accounting compensation charge with respect to the Shares used to pay the exercise price unless otherwise determined by the Administrator); (v) with respect to Options, if the exercise occurs on or after the Registration Date, payment through a broker-dealer sale and remittance procedure pursuant to which the Grantee (A) shall provide written instructions to a Company designated brokerage firm to effect the immediate sale of some or all of the purchased Shares and remit to the Company, out of the sale proceeds available on the settlement date, sufficient funds to cover the aggregate 9 10 exercise price payable for the purchased Shares and (B) shall provide written directives to the Company to deliver the certificates for the purchased Shares directly to such brokerage firm in order to complete the sale transaction; or (vi) any combination of the foregoing methods of payment. (c) Taxes. No Shares shall be delivered under the Plan to any Grantee or other person until such Grantee or other person has made arrangements acceptable to the Administrator for the satisfaction of any foreign, federal, state, or local income and employment tax withholding obligations, including, without limitation, obligations incident to the receipt of Shares or the disqualifying disposition of Shares received on exercise of an Incentive Stock Option. Upon exercise of an Award the Company shall withhold or collect from Grantee an amount sufficient to satisfy such tax obligations. 8. Exercise of Award. (a) Procedure for Exercise; Rights as a Shareholder. (i) Any Award granted hereunder shall be exercisable at such times and under such conditions as determined by the Administrator under the terms of the Plan and specified in the Award Agreement but in the case of an Option, in no case at a rate of less than twenty percent (20%) per year over five (5) years from the date the Option is granted, subject to reasonable conditions such as continued employment. Notwithstanding the foregoing, in the case of an Option granted to an Officer, Director or Consultant, the Award Agreement may provide that the Option may become exercisable, subject to reasonable conditions such as such Officer's, Director's or Consultant's Continuous Service, at any time or during any period established in the Award Agreement. (ii) An Award shall be deemed to be exercised when written notice of such exercise has been given to the Company in accordance with the terms of the Award by the person entitled to exercise the Award and full payment for the Shares with respect to which the Award is exercised, including, to the extent selected, use of the broker-dealer sale and remittance procedure to pay the purchase price as provided in Section 7(b)(v). Until the issuance (as evidenced by the appropriate entry on the books of the Company or of a duly authorized transfer agent of the Company) of the stock certificate evidencing such Shares, no right to vote or receive dividends or any other rights as a shareholder shall exist with respect to Shares subject to an Award, notwithstanding the exercise of an Option or other Award. No adjustment will be made for a dividend or other right for which the record date is prior to the date the stock certificate is issued, except as provided in the Award Agreement or Section 11(a), below. (b) Exercise of Award Following Termination of Continuous Service. In the event of termination of a Grantee's Continuous Service for any reason other than Disability or death (but not in the event of a Grantee's change of status from Employee to Consultant or from Consultant to Employee), such Grantee may, but only during the Post-Termination Exercise Period (but in no event later than the expiration date of the term of such Award as set forth in the Award Agreement), exercise the Award to the extent that the Grantee was entitled to exercise it 10 11 at the date of such termination or to such other extent as may be determined by the Administrator. The Grantee's Award Agreement may provide that upon the termination of the Grantee's Continuous Service for Cause, the Grantee's right to exercise the Award shall terminate concurrently with the termination of Grantee's Continuous Service. The Grantee's Award Agreement may specify a definition of Cause applicable to such Award (which may or may not be the same as the definition of Cause in Section 2). In the event of a Grantee's change of status from Employee to Consultant, an Employee's Incentive Stock Option shall convert automatically to a Non-Qualified Stock Option on the day three (3) months and one day following such change of status. To the extent that the Grantee is not entitled to exercise the Award at the date of termination, or if the Grantee does not exercise such Award to the extent so entitled within the Post-Termination Exercise Period, the Award shall terminate. (c) Disability of Grantee. In the event of termination of a Grantee's Continuous Service as a result of his or her Disability, Grantee may, but only within twelve (12) months from the date of such termination (and in no event later than the expiration date of the term of such Award as set forth in the Award Agreement), exercise the Award to the extent that the Grantee was otherwise entitled to exercise it at the date of such termination; provided, however, that if such Disability is not a "disability" as such term is defined in Section 22(e)(3) of the Code, in the case of an Incentive Stock Option such Incentive Stock Option shall automatically convert to a Non-Qualified Stock Option on the day three (3) months and one day following such termination. To the extent that the Grantee is not entitled to exercise the Award at the date of termination, or if Grantee does not exercise such Award to the extent so entitled within the time specified herein, the Award shall terminate. (d) Death of Grantee. In the event of a termination of the Grantee's Continuous Service as a result of his or her death, or in the event of the death of the Grantee during the Post-Termination Exercise Period or during the twelve (12) month period following the Grantee's Termination of Continuous Service as a result of his or her Disability, the Grantee's estate or a person who acquired the right to exercise the Award by bequest or inheritance may exercise the Award, but only to the extent that the Grantee was entitled to exercise the Award as of the date of termination, within twelve (12) months from the date of death (but in no event later than the expiration of the term of such Award as set forth in the Award Agreement). To the extent that, at the time of death, the Grantee was not entitled to exercise the Award, or if the Grantee's estate or a person who acquired the right to exercise the Award by bequest or inheritance does not exercise such Award to the extent so entitled within the time specified herein, the Award shall terminate. 9. Conditions Upon Issuance of Shares. (a) Shares shall not be issued pursuant to the exercise of an Award unless the exercise of such Award and the issuance and delivery of such Shares pursuant thereto shall comply with all Applicable Laws, and shall be further subject to the approval of counsel for the Company with respect to such compliance. (b) As a condition to the exercise of an Award, the Company may require the person exercising such Award to represent and warrant at the time of any such exercise that the 11 12 Shares are being purchased only for investment and without any present intention to sell or distribute such Shares if, in the opinion of counsel for the Company, such a representation is required by any Applicable Laws. 10. Repurchase Rights. The Award Agreement may grant to the Company the right to repurchase Shares upon termination of the Grantee's Continuous Service. In which case, the Award Agreement shall (or may, with respect to Awards granted or issued to Officers, Directors or Consultants) provide that: (a) the right to repurchase must be exercised, if at all, within ninety (90) days of the termination of the Grantee's Continuous Service (or in the case of Shares issued upon exercise of Awards after the date of termination of the Grantee's Continuous Service, within ninety (90) days after the date of the Award exercise); (b) the consideration payable for the Shares upon exercise of such repurchase right shall be made by check or by cancellation of purchase money indebtedness within the ninety (90) day periods specified in Section 10(a); (c) the amount of such consideration shall (i) be equal to the lesser of the Fair Market Value of each Share on the date of repurchase and the original purchase price paid by Grantee for each such Share; provided, that the right to repurchase such Shares at the original purchase price shall lapse at the rate of at least twenty percent (20%) of the Shares subject to the Award per year over five (5) years from the date the Award is granted (without respect to the date the Award was exercised or became exercisable), and (ii) with respect to Shares, other than Shares subject to repurchase at the original purchase price pursuant to clause (i) above, not less than the Fair Market Value of the Shares to be repurchased on the date of repurchase; and (d) the right to repurchase Shares, other than the right to repurchase Shares at the original purchase price pursuant to clause (i) of Section 10(c), shall terminate on the Registration Date. 11. Adjustments Upon Changes in Capitalization or Corporate Transaction. (a) Adjustments upon Changes in Capitalization. Subject to any required action by the shareholders of the Company, the number of Shares covered by each outstanding Award, and the number of Shares which have been authorized for issuance under the Plan but as to which no Awards have yet been granted or which have been returned to the Plan, the exercise or purchase price of each such outstanding Award, as well as any other terms that the Administrator determines require adjustment shall be proportionately adjusted for (i) any increase or decrease in the number of issued Shares resulting from a stock split, reverse stock split, stock dividend, combination or reclassification of the Shares, or similar transaction affecting the Shares, (ii) any other increase or decrease in the number of issued Shares effected without receipt of consideration by the Company, or (iii) as the Administrator may determine in its discretion, any other transaction with respect to Common Stock to which Section 424(a) of the Code applies or a similar transaction; provided, however that conversion of any convertible securities of the Company shall not be deemed to have been "effected without receipt of 12 13 consideration." Such adjustment shall be made by the Administrator and its determination shall be final, binding and conclusive. Except as the Administrator determines, no issuance by the Company of shares of stock of any class, or securities convertible into shares of stock of any class, shall affect, and no adjustment by reason hereof shall be made with respect to, the number or price of Shares subject to an Award. (b) Corporate Transaction. (i) Termination of Award if Not Assumed. In the event of a Corporate Transaction, each Award will terminate upon the consummation of the Corporate Transaction, unless the Award is assumed by the successor corporation or Parent thereof in connection with the Corporate Transaction. (ii) No Acceleration of Award Upon Corporate Transaction. Except as provided otherwise in an individual Award Agreement, in the event of any Corporate Transaction there will not be any acceleration of vesting or exercisability of any Award. 12. Effective Date and Term of Plan. The Plan shall become effective upon the earlier to occur of its adoption by the Board or its approval by the stockholders of the Company, which dates are listed on Exhibit A. It shall continue in effect for a term of ten (10) years unless sooner terminated. Subject to Section 17, below, and Applicable Laws, Awards may be granted under the Plan upon its becoming effective. 13. Amendment, Suspension or Termination of the Plan. (a) The Board may at any time amend, suspend or terminate the Plan. To the extent necessary to comply with Applicable Laws, the Company shall obtain shareholder approval of any Plan amendment in such a manner and to such a degree as required. (b) No Award may be granted during any suspension of the Plan or after termination of the Plan. (c) Any amendment, suspension or termination of the Plan (including termination of the Plan under Section 12, above) shall not affect Awards already granted, and such Awards shall remain in full force and effect as if the Plan had not been amended, suspended or terminated, unless mutually agreed otherwise between the Grantee and the Administrator, which agreement must be in writing and signed by the Grantee and the Company. 14. Reservation of Shares. (a) The Company, during the term of the Plan, will at all times reserve and keep available such number of Shares as shall be sufficient to satisfy the requirements of the Plan. (b) The inability of the Company to obtain authority from any regulatory body having jurisdiction, which authority is deemed by the Company's counsel to be necessary to the lawful issuance and sale of any Shares hereunder, shall relieve the Company of any liability in 13 14 respect of the failure to issue or sell such Shares as to which such requisite authority shall not have been obtained. 15. No Effect on Terms of Employment/Consulting Relationship. The Plan shall not confer upon any Grantee any right with respect to the Grantee's Continuous Service, nor shall it interfere in any way with his or her right or the Company's right to terminate the Grantee's Continuous Service at any time, with or without cause, and with or without notice. The Company's ability to terminate the employment of a Grantee (whether such employment is at will or pursuant to an employment agreement) is in no way affected by its determination that the Grantee's Continuous Service has been terminated for Cause or not for Cause for the purposes of this Plan. 16. No Effect on Retirement and Other Benefit Plans. Except as specifically provided in a retirement or other benefit plan of the Company or a Related Entity, Awards shall not be deemed compensation for purposes of computing benefits or contributions under any retirement plan of the Company or a Related Entity, and shall not affect any benefits under any other benefit plan of any kind or any benefit plan subsequently instituted under which the availability or amount of benefits is related to level of compensation. The Plan is not a "Retirement Plan" or "Welfare Plan" under the Employee Retirement Income Security Act of 1974, as amended. 17. Shareholder Approval. Continuance of the Plan shall be subject to approval by the shareholders of the Company within twelve (12) months before or after the date the Plan is adopted. Such shareholder approval shall be obtained in the degree and manner required under Applicable Laws. Any Award exercised before shareholder approval is obtained shall be rescinded if shareholder approval is not obtained within the time prescribed, and Shares issued on the exercise of any such Award shall not be counted in determining whether shareholder approval is obtained. 18. Information to Grantees. The Company shall provide to each Grantee, during the period for which such Grantee has one or more Awards outstanding, copies of financial statements at least annually. 14 15 EXHIBIT A PLAN HISTORY 1. July 10, 2000 Board adopts Plan with an initial reserve of 150,000 shares. 2. July 7, 2000 Shareholders approve Plan with an initial reserve of 150,000 shares. 3. May 24, 2001 Board adopts Amended and Restated Plan and approves an additional reserve of 175,000 Shares for a total reserve of 325,000 Shares. 4. May 24, 2001 Shareholders approve Amended and Restated Plan and an additional reserve of 175,000 Shares for a total reserve of 325,000 Shares. 15 16 SCHEDULE A 2001 STOCK INCENTIVE PLAN (UK PART) 1. GENERAL This Schedule sets out the terms of the BAM! Entertainment, Inc. 2001 Stock Incentive Plan (UK Part) (the "UK PLAN"). The terms of the UK Plan are the terms set out in the Rules of the BAM! Entertainment, Inc. 2000 Stock Incentive Plan (the "RULES") to which this Schedule is attached, modified as follows. (a) Only Options may be granted under the UK Plan. (b) The following sections of the Rules do not apply to the UK Plan: (i) Sections 6(a), (b), (d), (e), (f), (j) and (k) (Terms and Conditions of Awards); (ii) Sections 7(a) and (b) (Award Exercise or Purchase Price); (iii) Section 9(b) (Conditions upon issuance of Shares); (iv) Section 10 (Repurchase rights); (v) Section 17 (Shareholder Approval) (c) References in this Schedule to Sections are to Sections of the Rules. References to paragraphs are to paragraphs of this Schedule. (d) In the event of any conflict between the Rules and the provisions of this Schedule, the provisions of this Schedule shall apply. (e) References to legislation in this Schedule are to legislation of the United Kingdom. 2. DEFINITIONS (a) For the purposes of this Schedule: (i) "Act" means the Income and Corporation Taxes Act 1988. (ii) "Control" has the same meaning as in section 840 (Meaning of "control" in certain contexts) of the Act; 16 17 (iii) "Continuous Service" shall be deemed to refer to employment within the Group and cessation of Continuous Service means ceasing to be employed by any member of the Group; (iv) "Group" means the Company and its Subsidiaries together with any other Related Entity which the Administrator has resolved for the time being shall be treated as a member of the Group; (v) "Holding Company" has the same meaning as in section 736 ("Subsidiary", "holding company" and "wholly-owned subsidiary") of the Companies Act 1985; (vi) "NIC Liability" means any liability of the Company or any employer to pay secondary national insurance contributions (or their equivalent outside the United Kingdom) on the exercise of an Option or on an Option becoming exercisable; (vii) references to "Options" are only to Options granted under the UK Plan; (viii) a "Participating Employer" is the Company and any Subsidiary of the Company of which the Company has Control and which has been nominated by the Administrator as a Participating Employer; (ix) a "Share" must meet the conditions of paragraphs 10 to 14 (inclusive) of Schedule 9 to the Act; (x) "Subsidiary" has the same meaning as in section 736 ("Subsidiary", "holding company" and "wholly-owned subsidiary") of the Companies Act 1985; (xi) "Unvested Option" means any Option or, as the case may be, that part of an Option which is not a Vested Option; and (xii) "Vested Option" means an Option or, as the case may be, that part of an Option which under the Rules may be exercised. 3. ELIGIBILITY (a) Options may only be granted to individuals who are employees or directors of a Participating Employer. Rule 5 shall be modified accordingly. (b) An Option may not be granted: (i) to a person if it would breach the rule in paragraph 8 of Schedule 9 to the Act (persons who within the previous 12 months have had a material interest in certain closely controlled companies); or 17 18 (ii) to a director of any member of the Group unless he is required to spend at least 25 hours a week (excluding meal breaks) on his duties to Participating Employers. 4. TERMS AND CONDITIONS OF OPTIONS (a) Options: (i) The Administrator is authorized under the Plan only to award Options with a fixed exercise price. (ii) The form of any Award Agreement shall be approved by the Administrator and by the UK Inland Revenue. Section 8(a) of the Rules shall be amended accordingly. (iii) Options shall not be Incentive Stock Options. (iv) Subject to the terms of the Rules and this Schedule, the Administrator shall determine the number of Shares to be comprised in an Option, the vesting schedule and whether any performance criteria or other objective conditions should apply to the Option. Section 4(b) shall be modified accordingly and the first sentence of Section 6(c) shall not apply. (v) The terms of any separate program referred to in Section 6(g) must be consistent with the Rules and this Schedule. (b) Exercise price of Options: (i) The Administrator must determine the exercise price of the Option. (ii) The exercise price must not be less than the market value of a Share on the date of grant. (iii) The market value of a Share on the Grant Date is the market value (within the meaning of Part VIII of the UK Taxation of Chargeable Gains Act 1992) of shares of that class, as agreed in advance for the purposes of the UK Plan with the Shares Valuation Division of the UK Inland Revenue. (iv) In any case where the Option is granted in response to an invitation, the period between the grant of the Option and the date as at which the market value is determined must not exceed 30 days. (c) Performance Target and additional conditions: (i) An Option granted under this Schedule may not be subject to an additional condition which requires the Participant to bear the cost of any NIC Liability. 18 19 (ii) The Administrator may only change the performance criteria or the other conditions applying to an Option in any of the following circumstances: (A) if there is any change in the Company's capital; (B) if the terms of the performance criteria or the other conditions allow it; or (C) if any event or series of events happens as a result of which the Committee considers it fair and reasonable to make the change. The power to change includes the power both to adjust and to impose a new objective performance criteria or different objective conditions. The change must not, however, have the effect, in the reasonable opinion of the Administrator, of making the performance criteria or the other conditions materially more difficult to achieve than it was or they were when the Option was granted. (iii) The Company must tell each Grantee of any change in the performance criteria or other conditions which apply to his Option. (d) Lapse of Option: If not previously exercised the Option will lapse on the tenth anniversary of the date of grant. 5. TIMING OF GRANT (a) No grant until Revenue approval: (i) An Option may not be granted under the UK Plan until the UK Plan has been approved by the UK Inland Revenue under the Act. (b) Deed of grant: (i) On the date of grant, the Administrator must execute a deed of grant in favor of each recipient of an Option. The deed of grant may be in favor of more than one recipient. If so, it will be retained by the Administrator but the Administrator must make it (or the relevant part of it) available for inspection by each recipient. As soon as practicable after the date of grant, the Administrator must give each recipient written details of his Option. The deed of grant and the written details given to each recipient must state the exercise price, the number of Shares, the full terms of any performance criteria and any additional conditions applicable to the Option. 6. INDIVIDUAL LIMIT (a) Each Option granted under this Schedule must be limited, and must therefore take effect, so that it does not exceed the limit required by the Act. The limit required by the Act is that the total market value of the shares which a Grantee may buy on the exercise of all of his 19 20 subsisting options must not exceed or further exceed the amount specified in paragraph 28 of Schedule 9 to the Act (currently Pound Sterling 30,000). (b) For these purposes: (i) market value has the same meaning as in Part VIII of the Taxation of Chargeable Gains Act 1992; (ii) the market value of any shares will be calculated at the date on which the option in respect of them was granted or at such earlier time as may have been agreed with the Inland Revenue; and (iii) a Grantee's options are those granted to him under any share option scheme approved under Schedule 9 to the Act and set up by the Company or any associated company (within the meaning of section 187(2) of the Act) of the Company except options granted under a savings-related share option scheme. 7. EXERCISE OF AN OPTION (a) General: (i) The exercise price must be paid at the same time as the notice of exercise is given. Alternatively, the Grantee may enter into any arrangements that the Company may approve for the payment of the exercise price in cash before the issue or transfer of the Shares. Sections 7(a) and (b) of the Rules shall not apply. (ii) A person (whether a Grantee or his personal representative) may not exercise an Option if this would breach the rule in paragraph 8 of Schedule 9 to the Act (persons who within the previous 12 months have had a material interest in certain closely controlled companies). (iii) The Administrator may not allow a Grantee to exercise his Option after the tenth anniversary of the date of grant. (b) Issue or transfer of Shares: (i) Unvested Shares received on early exercise may not be subject to a repurchase right and Section 6(h) (Early exercise) shall be amended accordingly. (ii) Within 30 days of the date of exercise, the Company must either: (A) issue the number of Shares stated in the notice of exercise; or (B) arrange for the transfer of those Shares, to the Grantee. 20 21 (iii) Upon exercise of an Option, the Shares may be issued, or transferred, to another person at the Grantee's request but only if that other person is the Grantee's nominee. Section 8 shall be modified accordingly. (c) Exercise on cessation of employment: (i) Sections 8(d) (Death of Grantee) and 8(c) (Disability of Grantee) apply to a Grantee's Unvested Options as they do to his Vested Options. For the purposes of the UK Plan, an individual's Continuous Service ends due to "DISABILITY" if the Grantee's Continuous Service ends because of any of the following: (A) his ill-health, injury or disability; (B) his redundancy within the meaning of the Employment Rights Act 1996; (C) retirement at or after the date on which the Grantee is bound to retire in accordance with the Grantee's contract of employment. (ii) Section 1(d) of the Rules is modified accordingly. 8. SUBSTITUTE OPTIONS FOLLOWING CHANGE OF CONTROL (a) Application: (i) This paragraph 8 applies if a company (the Acquiring Company): (A) gets Control of the Company as a result of making a general offer to buy the whole of the issued share capital of the Company which is made on a condition which, if met, will give the acquiring company Control of the Company; or (B) gets Control of the Company as a result of making a general offer to buy all the Shares. (ii) The acquiring company's offer need not extend to shares which are already owned by it, its Holding Company or by its Subsidiaries or those of its Holding Company. (b) Release of Options: (i) A Participant may release his Option (the Old Option) in return for the grant to him of another option (the New Option) if all of the following conditions are met: (A) the acquiring company agrees to the release and grant; 21 22 (B) the release and grant happen within the appropriate period (see paragraph 8(c)); (C) the new option is over shares in the acquiring company or some other company falling within paragraph 10(b) or 10(c) of Schedule 9 to the Act; (D) the new option is over shares which meet the conditions of paragraphs 10 to 14 (inclusive) of Schedule 9 to the Act; (E) the total exercise price of the new option must be equal to the total exercise price of the old option; and (F) the total market value of the Shares under the old option immediately before the release must be equal to the total market of the shares under the new option immediately after the release. Alternatively, the terms of the release and grant must have been approved in advance by the Inland Revenue. For this purpose, MARKET VALUE has the same meaning as in the Taxation of Chargeable Gains Act 1992. (c) Period for release. The appropriate period is six months after the date when the acquiring company gets Control of the Company and any condition subject to which the offer is made is met or waived. (d) Consequences of release: (i) If a Participant is granted a new option under this paragraph 8: (A) the new option will be exercisable in the same way as the old option; (B) the Rules and this Schedule will apply to the new option as if references to Shares were references to the shares in respect of which the new option is granted; and (C) the Rules (other than Sections 1(e), (i) and (p) and the definition of "Participating Employer" in this Schedule) will apply to the new option as if references to the Company (including any such references as occur in expressions which are defined in the Rules) were references to the company in respect of whose shares the new option is granted. 22 23 9. VARIATION OF CAPITAL (a) The Administrator may only make an adjustment in accordance with Section 11. (Adjustments upon changes in capitalisation or corporate transaction) to an Option if there is a variation of the share capital of the Company. (b) The adjustment may be to the number of Shares under the Option and/or the exercise price. The adjustment must, however, be on the basis that, so far as possible, there is no material change to the total exercise price of the Option. (c) The Administrator must obtain the prior approval of the UK Inland Revenue to any adjustment to Options. 10. TRANSFER AND ASSIGNMENT (a) An Option is personal to the Grantee and, on death, his personal representatives. (b) If a Grantee transfers his Option or creates in favor of any third party any interest in his Option or, in any case, attempts so to do, or if a bankruptcy order is made in respect of him (or any similar event occurs under the laws of any other country), his Option will lapse. 11. SHARES ISSUED (a) Any new Shares issued on the exercise of an Option must rank equally in all respects with other Shares then in issue except for rights which attach to Shares by reference to a record time or date prior to the time or date of issue. 12. CHANGES (a) The Company may make such amendments to the UK Plan as the Administrator considers to be required to obtain or maintain approval by the UK Inland Revenue under the Act. (b) Whilst the UK Plan is approved under the Act: (i) no change to the UK Plan will have effect unless it has been approved by the UK Inland Revenue; (ii) no change to the Rules will have effect in relation to the UK Plan unless it has been approved by the UK Inland Revenue; (iii) save as provided in paragraph 4.3, no amendment to the terms of any Option or Award Agreement under the UK Plan may be made unless it has been approved by the UK Inland Revenue; and (iv) the Company must immediately tell the UK Inland Revenue of any change to this Schedule or of any change to the Rules which affects the UK Plan. 23 EX-10.17.(E) 7 v72115a2ex10-17_e.txt EXHIBIT 10.17(E) 1 EXHIBIT 10.17(e) FIFTH AMENDMENT TO MASTER PURCHASE ORDER ASSIGNMENT AGREEMENT This Fifth Amendment to that certain Master Purchase Order Assignment Agreement (the "Amendment") is made as of the 16 day of August, 2001, among TRANSCAP TRADE FINANCE, an Illinois general partnership (the "Contractor") and BAM! ENTERTAINMENT, INC., a Delaware corporation (the "Manufacturer"). WITNESSETH: WHEREAS, the Contractor and the Manufacturer are parties to that certain Master Purchase Order Assignment Agreement dated as of February 25, 2000 (the "Purchase Order Agreement"), as amended from time to time; WHEREAS, the Contractor and the Manufacturer desire to amend the Purchase Order Agreement as set forth herein; NOW, THEREFORE, in consideration of the premises and the payment of the Extension Fee (as defined below), the receipt and sufficiency of which is hereby acknowledged by each of the Contractor and the Manufacturer, the parties hereto hereby agree as follows: 1. Section 3(b)(iii) of the Purchase Order Agreement is hereby deleted in its entirety, and in lieu thereof there is inserted a new Section 3(b)(iii) as follows: (iii) Upon the purchase of Materials required for the P.O., or upon any other advance of funds in connection with the P.O., the Contractor's aggregate outstanding funding pursuant to this Agreement shall not exceed the sum of $5,000,000 (increased to $10,000,000 between August 16, 2001 and March 31, 2002); 2. Manufacturer shall pay Contractor a fee in the sum of $50,000.00. The fee is deemed by the parties to have been earned by the Contractor upon the signing of this Amendment. The fee shall be collected by Contractor out of the next payments received by Contractor on account of Accepted P.O.'s. 3. This Amendment constitutes an amendment to the Purchase Order Agreement, and except to the extent inconsistent herewith, the parties hereby reconfirm the Purchase Order Agreement, and each of the other agreements, instruments and documents heretofore executed and delivered in connection therewith, in their entirety, all of which shall remain in full force and effect. 4. This Amendment will not be effective until each of the persons set forth on Addendum III of the Purchase Order Agreement shall have executed an acknowledgment to the Guaranty previously executed by such persons, in form and substance satisfactory to Contractor. 5. This Agreement may be executed in one or more counterparts, each of which taken together shall constitute one and the same instrument, admissible into evidence. Delivery of an executed counterpart of this Agreement by facsimile shall be equally as effective as delivery of a manually executed counterpart of this Agreement. Any party delivering an executed counterpart of this Agreement by facsimile shall also deliver a manually executed counterpart of this Agreement, but the failure to deliver a manually executed counterpart shall not affect the validity, enforceability, and binding effect of this Agreement. ************************ 2 IN WITNESS WHEREOF, the parties hereto have executed this Amendment as of the date first written above. TRANSCAP TRADE FINANCE By: /s/ MICHAEL SEAR --------------------------------------- Its: Exec. Vice President --------------------------------------- BAM! ENTERTAINMENT, INC. By: /s/ RAYMOND C. MUSCI --------------------------------------- Its: President 2 3 ACKNOWLEDGMENT OF GUARANTOR The undersigned hereby acknowledges receiving and reviewing that certain Fifth Amendment to that certain Master Purchase Order Assignment Agreement (the "Amendment"). The undersigned, by its execution hereof, hereby agrees that the Guaranty previously executed by him shall remain in full force and effect and that all references in said Guaranty to the Master Purchase Order Assignment Agreement shall be deemed to refer to the Master Purchase Order Assignment Agreement as amended by the Amendment. Dated: August 16, 2001 /s/ RAYMOND C. MUSCI ------------------------------ Raymond C. Musci EX-10.17.(F) 8 v72115a2ex10-17_f.txt EXHIBIT 10.17(F) 1 EXHIBIT 10.17(f) SIXTH AMENDMENT TO MASTER PURCHASE ORDER ASSIGNMENT AGREEMENT This Sixth Amendment to that certain Master Purchase Order Assignment Agreement (the "Amendment") is made as of the ___ day of ________, 2001, between TRANSCAP TRADE FINANCE , an Illinois general partnership (the "Contractor") and BAM! ENTERTAINMENT, INC., a Delaware corporation (the "BAM!"). W I T N E S S E T H: WHEREAS, the Contractor and BAY AREA MULTIMEDIA, INC., a California corporation (the "Manufacturer") and the predecessor of BAM! are parties to that certain Master Purchase Order Assignment Agreement dated as of ________ (the "Assignment Agreement"); WHEREAS, the Manufacturer and BAM! were parties to a certain merger pursuant to which BAM! has succeeded by operation of law to all of the rights and obligations of the Manufacturer; WHEREAS, the Contractor and BAM! desire to amend the Assignment Agreement as set forth herein; NOW, THEREFORE, in consideration of the premises and other consideration, the receipt and sufficiency of which is hereby acknowledged by each of the Contractor and the Manufacturer, the parties hereto hereby agree as follows: 1. Amendment to Section 1(f). Section 1(f) of the Assignment Agreement is hereby deleted in its entirety, and there is inserted in lieu thereof a new Section 1(f) as follows: The Manufacturer may repurchase an Accepted P.O. pursuant to P. 8(b) below. In the absence of such repurchase, an Accepted P.O. becomes a "DELINQUENT P.O." if the P.O. Price is not paid to the Contractor by the earliest of (i) the due date for payment of the P.O. Invoice, (ii) one hundred and thirty-five (135) days following the Funding Date if Contractor issues its letter of credit or purchase order, (iii) thirty days (30) days following the Funding Date if Contractor advances funds by other than issuing its letter of credit or purchase order, or (iv) the date on which the Accepted P.O. is canceled. 2. Amendments to Sections 7(b)(i) and (ii). Sections 7(b)(i) and (ii) of the Assignment Agreement are hereby deleted in their entirety, and there is inserted in lieu thereof new Sections 7(b)(i) and (ii) as follows: (i) A transaction initiation and set-up fee in a sum equal to 2 3.0% of the aggregate of (a) the face amounts of all letters of credit issued by Contractor (or other financial accommodations) plus (b) all funds advanced by Contractor by other than issuing its letters of credit; plus (ii) A daily maintenance fee in a sum equal to 0.067% of the aggregate of the face amounts of all letters of credit issued by Contractor (or other financial accommodations) and all funds advanced by Contractor by other than issuing its letters of credit which remain outstanding for more than fifty-five (55) days; plus 3. Amendment. This Amendment constitutes an amendment to the Assignment Agreement, and except to the extent inconsistent herewith, the parties do hereby reconfirm the Assignment Agreement in its entirety. 4. Effectiveness of Amendment. This Amendment will not be effective until each of the persons set forth on Addendum III of the Assignment Agreement shall have executed an acknowledgment to the Guaranty previously executed by such persons, in form and substance satisfactory to Contractor. 5. Counterparts. This Amendment may be executed in two or more counterparts, each of which shall be deemed an original, but all of which together shall constitute one and the same agreement. Delivery of an executed counterpart of this Amendment by facsimile shall be equally as effective as delivery of a manually executed counterpart of this Amendment. Any party delivering an executed counterpart of this Amendment by facsimile shall also deliver a manually executed counterpart of this Amendment, but the failure to deliver a manually executed counterpart shall not affect the validity, enforceability, and binding effect of this Amendment. IN WITNESS WHEREOF, the parties hereto have executed this Amendment as of the date first written above. TRANSCAP TRADE FINANCE By: __________________________________ Michael Sear, Executive Vice President Transcap Associates, Inc., general partner BAM! ENTERTAINMENT, INC. By: _______________________________ Name: _______________________________ Title: _______________________________ 3 ACKNOWLEDGMENT OF GUARANTORS Each of the undersigned hereby acknowledges receiving and reviewing that certain Sixth Amendment to that certain Master Purchase Order Assignment Agreement (the "Amendment"). Each of the undersigned, by its execution hereof, hereby agrees that the Guaranty previously executed by him or her shall remain in full force and effect and that all references in said Guaranty to the Master Purchase Order Assignment Agreement shall be deemed to refer to the Master Purchase Order Assignment Agreement as amended by the Amendment. Dated: ________________ ________________________________ ________________________________ EX-10.40 9 v72115a2ex10-40.txt EXHIBIT 10.40 1 EXHIBIT 10.40 FIRST AMENDMENT TO EXCLUSIVE OUTPUT AGREEMENT This Amendment is made and entered into this ___ day of April, 2001, by and between BAM! Entertainment, Inc. ("Bay") and Franchise Films, Inc. ("Franchise"). Bay and Franchise are collectively referred to as the "Parties." RECITALS A. The Parties have entered into the Exclusive Output Agreement dated April 7, 2000 (the "Original Agreement"). B. The Parties now desire to amend the Agreement. C. The Original Agreement refers to Bay as Bay Multimedia, Inc., and the First Amendment refers to Bay as Bay Area Multimedia, Inc. The correct name of Bay is BAM! Entertainment, Inc. NOW, THEREFORE, the Parties agree as follows: 1. Capitalized Terms. Capitalized terms not defined herein shall have the meanings set forth in the Original Agreement. 2. Effect of Amendment. The Agreement will remain in full force and effect except to the extent expressly modified by this Amendment. 3. Bay Common Stock. Section 4.a. of the Agreement is deleted and amended in its entirety as follows: "4. EQUITY INTEREST. a. Bay Common Stock. Franchise shall be entitled to receive an aggregate total of One Hundred Forty Six Thousand Two Hundred Fifty (146,250) post-split shares of Bay Common Stock (the "Equity Interest"). (On May 11, 2000, the Articles of Incorporation of Bay were amended and restated, authorizing 5,000,000 shares of Common Stock and 976,220 shares of Series A Preferred Stock. Each outstanding share of Common Stock was combined and reconstituted into .195 shares of Common Stock.) These shares shall accrue and be payable to Franchise in ten (10) equal installments (each installment representing one-tenth (1/10) of the Equity Interest) within ten (10) business days from initial United States theatrical release of each of the first ten (10) Included Pictures. 4. Counterparts. This Amendment may be executed in counterparts, each of which shall be deemed an original and all of which together shall constitute one instrument. 2 The Parties have executed this Amendment as of the date set forth above. Bay: BAM! Entertainment, Inc. 333 West Santa Clara Blvd., Suite 960 San Jose, CA 95118 By: /s/ Raymond C. Musci --------------------------------- Raymond C. Musci, President Franchise: Franchise Films, Inc. 8591 Wonderland Avenue Los Angeles, CA 90046 By: /s/ Elie Samaha --------------------------------- Title: Chairman --------------------------------- EX-10.49 10 v72115a2ex10-49.txt EXHIBIT 10.49 1 EXHIBIT 10.49 BAM! ENTERTAINMENT, INC. 2001 EMPLOYEE STOCK PURCHASE PLAN This 2001 Employee Stock Purchase Plan (the "Plan") of BAM! Entertainment, Inc., a Delaware corporation (the "Company"), was adopted by the Board of Directors and shareholders of the Company as of August 9, 2001. 1. Purpose. The purpose of the Plan is to provide employees of the Company and its Designated Subsidiaries with an opportunity to purchase Common Stock of the Company through accumulated payroll deductions. It is the intention of the Company to have the Plan qualify as an "Employee Stock Purchase Plan" under Section 423 of the Internal Revenue Code of 1986, as amended. The provisions of the Plan, accordingly, shall be construed so as to extend and limit participation in a manner consistent with the requirements of that section of the Code. 2. Definitions. (a) "Board" shall mean the Board of Directors of the Company. (b) "Code" shall mean the Internal Revenue Code of 1986, as amended. (c) "Common Stock" shall mean the Common Stock of the Company. (d) "Company" shall mean BAM! Entertainment, Inc., a Delaware corporation, and any Designated Subsidiary of the Company. (e) "Compensation" shall mean all base straight time gross earnings including commissions, payments for overtime, incentive payments and performance bonuses. (f) "Designated Subsidiary" shall mean (i) any Subsidiary which has been designated by the Board from time to time in its sole discretion as eligible to participate in the Plan, (ii) BAM Entertainment Limited and (iii) BAM Studios (Europe) Limited. (g) "Employee" shall mean any individual who is an Employee of the Company or a Designated Subsidiary, for tax purposes whose customary employment with the Company is at least twenty (20) hours per week and more than five (5) months in any calendar year. For purposes of the Plan, the employment relationship shall be treated as continuing intact while the individual is on sick leave or other leave of absence approved by the Company. Where the period of leave exceeds 90 days and the individual's right to reemployment is not guaranteed either by statute or by contract, the employment relationship shall be deemed to have terminated on the 91st day of such leave. (h) "Enrollment Date" shall mean the first Trading Day of each Offering Period. (i) "Exercise Date" shall mean the last Trading Day of each Purchase Period. (j) "Fair Market Value" shall mean, as of any date, the value of Common Stock determined as follows: 2 (1) If the Common Stock is listed on any established stock exchange or a national market system, including without limitation the Nasdaq National Market or The Nasdaq SmallCap Market of The Nasdaq Stock Market, its Fair Market Value shall be the closing sales price for such stock (or the closing bid, if no sales were reported) as quoted on such exchange or system for the last market trading day on the date of such determination, as reported in The Wall Street Journal or such other source as the Board deems reliable, or; (2) If the Common Stock is regularly quoted by a recognized securities dealer but selling prices are not reported, its Fair Market Value shall be the mean of the closing bid and asked prices for the Common Stock on the date of such determination, as reported in The Wall Street Journal or such other source as the Board deems reliable, or; (3) In the absence of an established market for the Common Stock, the Fair Market Value thereof shall be determined in good faith by the Board. (k) "Offering Periods" shall mean the periods of approximately twelve (12) months during which an option granted pursuant to the Plan may be exercised, commencing on the first Trading Day on or after March 1 and September 1 of each year and terminating on the last Trading Day in the periods ending twelve months later, except as provided in Section 4 of this Plan. The first Offering Period under the Plan shall commence with the first Trading Day on or after the date on which the Securities and Exchange Commission declares the Company's Registration Statement effective and ending on the last Trading Day on or before February 28, 2002. The duration and timing of Offering Periods may be changed pursuant to Section 4 of this Plan. (l) "Plan" shall mean this Employee Stock Purchase Plan. (m) "Purchase Period" shall mean the approximately six month period commencing after one Exercise Date and ending with the next Exercise Date, except that the first Purchase Period of any Offering Period shall commence on the Enrollment Date and end with the next Exercise Date; provided, however, the first Purchase Period under the Plan shall commence with the first Trading Day on or after the date on which the Securities and Exchange Commission declares the Company's Registration Statement effective and shall end on the last trading day on or before February 28, 2002. (n) "Purchase Price" shall mean an amount equal to 85% of the Fair Market Value of a share of Common Stock on the Enrollment Date or on the Exercise Date, whichever is lower; provided, however, that the Purchase Price may be adjusted by the Board pursuant to Section 20. (o) "Registration Statement" shall mean the Registration Statement filed by the Company on Form S-1 as of June 6, 2001, and all amendments thereto. (p) "Reserves" shall mean the number of shares of Common Stock covered by each option under the Plan which have not yet been exercised and the number of shares of -2- 3 Common Stock which have been authorized for issuance under the Plan but not yet placed under option. (q) "Subsidiary" shall mean a corporation, domestic or foreign, of which not less than 50% of the voting shares are held by the Company or a Subsidiary, whether or not such corporation now exists or is hereafter organized or acquired by the Company or a Subsidiary. (r) "Trading Day" shall mean a day on which national stock exchanges and the Nasdaq System are open for trading. 3. Eligibility. (a) Any Employee who shall be employed by the Company on a given Enrollment Date shall be eligible to participate in the Plan. (b) Any provisions of the Plan to the contrary notwithstanding, no Employee shall be granted an option under the Plan (i) to the extent that, immediately after the grant, such Employee (or any other person whose stock would be attributed to such Employee pursuant to Section 424(d) of the Code) would own capital stock of the Company and/or hold outstanding options to purchase such stock possessing five percent (5%) or more of the total combined voting power or value of all classes of the capital stock of the Company or of any Subsidiary, or (ii) to the extent that his or her rights to purchase stock under all employee stock purchase plans of the Company and its subsidiaries accrues at a rate which exceeds Twenty-Five Thousand Dollars ($25,000) worth of stock (determined at the fair market value of the shares at the time such option is granted) for each calendar year in which such option is outstanding at any time. 4. Offering Periods. (a) The first Offering Period under the Plan shall commence on the first Trading Day on or after the date on which the Securities and Exchange Commission declares the Company's Registration Statement effective and ending on the last Trading Day on or before December 31, 2001, and the Plan shall continue to be implemented with consecutive, non-overlapping Offering Periods that are exclusively six (6) months in duration, commencing on the first Trading Day on or after May 31 and November 30 of each year thereafter, or on such other date as the Board shall determine, and continuing thereafter until terminated in accordance with Section 20 hereof. (b) The Board shall have the power to change the duration of Offering Periods (including the commencement dates thereof) with respect to future offerings without stockholder approval if such change is announced at least five (5) days prior to the scheduled beginning of the first Offering Period to be affected thereafter. 5. Participation. (a) An eligible Employee may become a participant in the Plan by completing a subscription agreement authorizing payroll deductions in the form of Exhibit A to this Plan and filing it with the Company's payroll office not later than two (2) weeks prior to -3- 4 the applicable Enrollment Date. Eligible employees who begin employment with the Company within two weeks of an Enrollment Date may file a subscription agreement with the Company's payroll office up to one day prior to the applicable Enrollment Date. With respect to the first Enrollment Date, eligible Employees may file a subscription agreement up to one day prior to the Enrollment Date. An eligible Employee may participate in only one Offering Period at a time. (b) Payroll deductions for a participant shall commence on the first payroll following the Enrollment Date and shall end on the last payroll in the Offering Period to which such authorization is applicable, unless sooner terminated by the participant as provided in Section 10 hereof. 6. Payroll Deductions. (a) At the time a participant files his or her subscription agreement, he or she shall elect to have payroll deductions made on each pay day during the Offering Period in an amount not exceeding 15% of the Compensation which he or she receives on each pay day during the Offering Period. The maximum calendar year contribution shall not exceed $25,000 worth of stock (determined at the fair market value of the shares at the time such option is granted). (b) All payroll deductions made for a participant shall be credited to his or her account under the Plan and shall be withheld in whole percentages only. A participant may not make any additional payments into such account. (c) A participant may discontinue his or her participation in the Plan as provided in Section 10 hereof, or may decrease the rate of his or her payroll deductions during the Offering Period by completing or filing with the Company a new subscription agreement authorizing a change in payroll deduction rate. The Board may, in its discretion, limit the number of participation rate changes during any Offering Period. The change in rate shall be effective with the first full payroll period following five (5) business days after the Company's receipt of the new subscription agreement unless the Company elects to process a given change in participation more quickly. A participant's subscription agreement shall remain in effect for successive Offering Periods unless terminated as provided in Section 10 hereof. (d) Notwithstanding the foregoing, to the extent necessary to comply with Section 423(b)(8) of the Code and Section 3(b) hereof, a participant's payroll deductions may be decreased to zero percent (0%) at any time during a Purchase Period. Payroll deductions shall recommence at the rate provided in such participant's subscription agreement at the beginning of the first Purchase Period which is scheduled to end in the following calendar year, unless terminated by the participant as provided in Section 10 hereof. (e) At the time the option is exercised, in whole or in part, or at the time some or all of the Company's Common Stock issued under the Plan is disposed of, the participant must make adequate provision for the Company's federal, state, or other tax withholding obligations, if any, which arise upon the exercise of the option or the disposition of the Common Stock. At any time, the Company may, but shall not be obligated to, withhold -4- 5 from the participant's compensation the amount necessary for the Company to meet applicable withholding obligations, including any withholding required to make available to the Company any tax deductions or benefits attributable to sale or early disposition of Common Stock by the Employee. 7. Grant of Option. On the Enrollment Date of each Offering Period, each eligible Employee participating in such Offering Period shall be granted an option to purchase on each Exercise Date during such Offering Period (at the applicable Purchase Price) up to a number of shares of the Company's Common Stock determined by dividing such Employee's payroll deductions accumulated prior to such Exercise Date and retained in the Participant's account as of the Exercise Date by the applicable Purchase Price; provided that in no event shall an Employee be permitted to purchase during each Offering Period more than a number of Shares determined by dividing $25,000 by the Fair Market Value of a share of the Company's Common Stock (subject to any adjustment pursuant to Section 19) on the Enrollment Date, and provided further that such purchase shall be subject to the limitations set forth in Sections 3(b) and 12 hereof. The Board may, for future Offering Periods and in its absolute discretion, set a maximum number of shares of the Company's Common Stock an Employee may purchase during each Purchase Period of such Offering Period and increase or decrease such maximum. Exercise of the option shall occur as provided in Section 8 hereof, unless the participant has withdrawn pursuant to Section 10 hereof. The option shall expire on the last day of the Offering Period. 8. Exercise of Option. (a) Unless a participant withdraws from the Plan as provided in Section 10 hereof, his or her option for the purchase of shares shall be exercised automatically on the Exercise Date, and the maximum number of full shares subject to option shall be purchased for such participant at the applicable Purchase Price with the accumulated payroll deductions in his or her account. No fractional shares shall be purchased; any payroll deductions accumulated in a participant's account which are not sufficient to purchase a full share shall be retained in the participant's account for the subsequent Purchase Period or Offering Period, subject to earlier withdrawal by the participant as provided in Section 10 hereof. During a participant's lifetime, a participant's option to purchase shares hereunder is exercisable only by him or her. (b) If the Board determines that, on a given Exercise Date, the number of shares with respect to which options are to be exercised may exceed (i) the number of shares of Common Stock that were available for sale under the Plan on the Enrollment Date of the applicable Offering Period, or (ii) the number of shares available for sale under the Plan on such Exercise Date, the Board may in its sole discretion (x) provide that the Company shall make a pro rata allocation of the shares of Common Stock available for purchase on such Enrollment Date or Exercise Date, as applicable, in as uniform a manner as shall be practicable and as it shall -5- 6 determine in its sole discretion to be equitable among all participants exercising options to purchase Common Stock on such Exercise Date, and continue all Offering Periods then in effect, or (y) provide that the Company shall make a pro rata allocation of the shares available for purchase on such Enrollment Date or Exercise Date, as applicable, in as uniform a manner as shall be practicable and as it shall determine in its sole discretion to be equitable among all participants exercising options to purchase Common Stock on such Exercise Date, and terminate any or all Offering Periods then in effect pursuant to Section 20 hereof. The Company may make pro rata allocation of the shares available on the Enrollment Date of any applicable Offering Period pursuant to the preceding sentence, notwithstanding any authorization of additional shares for issuance under the Plan by the Company's stockholders subsequent to such Enrollment Date. 9. Delivery. As promptly as practicable after each Exercise Date on which a purchase of shares occurs, the Company shall arrange the delivery, either electronically or manually, to each participant, as appropriate, or to a designated broker as chosen by the Company in its discretion, of a certificate representing the shares purchased upon exercise of his or her option. 10. Withdrawal. (a) A participant may withdraw all but not less than all the payroll deductions credited to his or her account and not yet used to exercise his or her option under the Plan at any time by giving written notice to the Company in the form of Exhibit B to this Plan. All of the participant's payroll deductions credited to his or her account shall be paid to such participant promptly after receipt of notice of withdrawal and such participant's option for the Offering Period shall be automatically terminated, and no further payroll deductions for the purchase of shares shall be made for such Offering Period. If a participant withdraws from an Offering Period, payroll deductions shall not resume at the beginning of the succeeding Offering Period unless the participant delivers to the Company a new subscription agreement. (b) A participant's withdrawal from an Offering Period shall not have any effect upon his or her eligibility to participate in any similar plan which may hereafter be adopted by the Company or in succeeding Offering Periods which commence after the termination of the Offering Period from which the participant withdraws. 11. Termination of Employment. Upon a participant's ceasing to be an Employee, for any reason, he or she shall be deemed to have elected to withdraw from the Plan and the payroll deductions credited to such participant's account during the Offering Period, but not yet used to exercise the option, shall be returned to such participant or, in the case of his or her death, to the person or persons entitled thereto under Section 15 hereof, and such participant's option shall be automatically terminated. The preceding sentence notwithstanding, a participant who receives payment in lieu of notice of termination of employment shall be treated as continuing to be an Employee for the participant's customary number of hours per week of employment during the period in which the participant is subject to such payment in lieu of notice. 12. Interest. No interest shall accrue on the payroll deductions of a participant in the Plan. 13. Stock. -6- 7 (a) Subject to adjustment upon changes in capitalization of the Company as provided in Section 19 hereof, the maximum number of shares of the Company's Common Stock which shall be made available for sale under the Plan shall be 150,000 shares. (b) The participant shall have no interest or voting right in shares covered by his option until such option has been exercised. (c) Shares to be delivered to a participant under the Plan shall be registered in the name of the participant or in the name of the participant and his or her spouse. 14. Administration. The Plan shall be administered by the Board or a committee of members of the Board appointed by the Board. The Board or its committee shall have full and exclusive discretionary authority to construe, interpret and apply the terms of the Plan, to determine eligibility and to adjudicate all disputed claims filed under the Plan. Every finding, decision and determination made by the Board or its committee shall, to the full extent permitted by law, be final and binding upon all parties. 15. Designation of Beneficiary. (a) A participant may file a written designation of a beneficiary who is to receive any shares and cash, if any, from the participant's account under the Plan in the event of such participant's death subsequent to an Exercise Date on which the option is exercised but prior to delivery to such participant of such shares and cash. In addition, a participant may file a written designation of a beneficiary who is to receive any cash from the participant's account under the Plan in the event of such participant's death prior to exercise of the option. If a participant is married and the designated beneficiary is not the spouse, spousal consent shall be required for such designation to be effective. (b) Such designation of beneficiary may be changed by the participant at any time by written notice. In the event of the death of a participant and in the absence of a beneficiary validly designated under the Plan who is living at the time of such participant's death, the Company shall deliver such shares and/or cash to the executor or administrator of the estate of the participant, or if no such executor or administrator has been appointed (to the knowledge of the Company), the Company, in its discretion, may deliver such shares and/or cash to the spouse or to any one or more dependents or relatives of the participant, or if no spouse, dependent or relative is known to the Company, then to such other person as the Company may designate. 16. Transferability. Neither payroll deductions credited to a participant's account nor any rights with regard to the exercise of an option or to receive shares under the Plan may be assigned, transferred, pledged or otherwise disposed of in any way (other than by will, the laws of descent and distribution or as provided in Section 15 hereof) by the participant. Any such attempt at assignment, transfer, pledge or other disposition shall be without effect, except that the Company may treat such act as an election to withdraw funds from an Offering Period in accordance with Section 10 hereof. -7- 8 17. Use of Funds. All payroll deductions received or held by the Company under the Plan may be used by the Company for any corporate purpose, and the Company shall not be obligated to segregate such payroll deductions. 18. Reports. Individual accounts shall be maintained for each participant in the Plan. Statements of account shall be given to participating Employees at least annually, which statements shall set forth the amounts of payroll deductions, the Purchase Price, the number of shares purchased and the remaining cash balance, if any. 19. Adjustments Upon Changes in Capitalization, Dissolution, Liquidation, Merger or Asset Sale. (a) Changes in Capitalization. Subject to any required action by the stockholders of the Company, the Reserves, the maximum number of shares each participant may purchase each Purchase Period (pursuant to Section 7), as well as the price per share and the number of shares of Common Stock covered by each option under the Plan which has not yet been exercised shall be proportionately adjusted for any increase or decrease in the number of issued shares of Common Stock resulting from a stock split, reverse stock split, stock dividend, combination or reclassification of the Common Stock, or any other increase or decrease in the number of shares of Common Stock effected without receipt of consideration by the Company; provided, however, that conversion of any convertible securities of the Company shall not be deemed to have been "effected without receipt of consideration." Such adjustment shall be made by the Board, whose determination in that respect shall be final, binding and conclusive. Except as expressly provided herein, no issuance by the Company of shares of stock of any class, or securities convertible into shares of stock of any class, shall affect, and no adjustment by reason thereof shall be made with respect to, the number or price of shares of Common Stock subject to an option. (b) Dissolution or Liquidation. In the event of the proposed dissolution or liquidation of the Company, the Offering Period then in progress shall be shortened by setting a new Exercise Date (the "New Exercise Date"), and shall terminate immediately prior to the consummation of such proposed dissolution or liquidation, unless provided otherwise by the Board. The New Exercise Date shall be before the date of the Company's proposed dissolution or liquidation. The Board shall notify each participant in writing, at least ten (10) business days prior to the New Exercise Date, that the Exercise Date for the participant's option has been changed to the New Exercise Date and that the participant's option shall be exercised automatically on the New Exercise Date, unless prior to such date the participant has withdrawn from the Offering Period as provided in Section 10 hereof. (c) Merger or Asset Sale. In the event of a proposed sale of all or substantially all of the assets of the Company, or the merger of the Company with or into another corporation, each outstanding option shall be assumed or an equivalent option substituted by the successor corporation or a Parent or Subsidiary of the successor corporation. In the event that the successor corporation refuses to assume or substitute for the option, any Purchase Periods then in progress shall be shortened by setting a new Exercise Date (the "New Exercise Date") and any Offering Periods then in progress shall end on the New -8- 9 Exercise Date. The New Exercise Date shall be before the date of the Company's proposed sale or merger. The Board shall notify each participant in writing, at least ten (10) business days prior to the New Exercise Date, that the Exercise Date for the participant's option has been changed to the New Exercise Date and that the participant's option shall be exercised automatically on the New Exercise Date, unless prior to such date the participant has withdrawn from the Offering Period as provided in Section 10 hereof. 20. Amendment or Termination. (a) The Board of Directors of the Company may at any time and for any reason terminate or amend the Plan. Except as provided in Section 19 hereof, no such termination can affect options previously granted, provided that an Offering Period may be terminated by the Board of Directors on any Exercise Date if the Board determines that the termination of the Offering Period or the Plan is in the best interests of the Company and its stockholders. Except as provided in Section 19 and this Section 20 hereof, no amendment may make any change in any option theretofore granted which adversely affects the rights of any participant. To the extent necessary to comply with Section 423 of the Code (or any successor rule or provision or any other applicable law, regulation or stock exchange rule), the Company shall obtain stockholder approval in such a manner and to such a degree as required. (b) Without stockholder consent and without regard to whether any participant rights may be considered to have been "adversely affected," the Board (or its committee) shall be entitled to change the Offering Periods, limit the frequency and/or number of changes in the amount withheld during an Offering Period, establish the exchange ratio applicable to amounts withheld in a currency other than U.S. dollars, permit payroll withholding in excess of the amount designated by a participant in order to adjust for delays or mistakes in the Company's processing of properly completed withholding elections, establish reasonable waiting and adjustment periods and/or accounting and crediting procedures to ensure that amounts applied toward the purchase of Common Stock for each participant properly correspond with amounts withheld from the participant's Compensation, and establish such other limitations or procedures as the Board (or its committee) determines in its sole discretion advisable which are consistent with the Plan. (c) In the event the Board determines that the ongoing operation of the Plan may result in unfavorable financial accounting consequences, the Board may, in its discretion and, to the extent necessary or desirable, modify or amend the Plan to reduce or eliminate such accounting consequence including, but not limited to: (1) altering the Purchase Price for any Offering Period including an Offering Period underway at the time of the change in Purchase Price; (2) shortening any Offering Period so that Offering Period ends on a new Exercise Date, including an Offering Period underway at the time of the Board action; and (3) allocating shares. -9- 10 Such modifications or amendments shall not require stockholder approval or the consent of any Plan participants. 21. Notices. All notices or other communications by a participant to the Company under or in connection with the Plan shall be deemed to have been duly given when received in the form specified by the Company at the location, or by the person, designated by the Company for the receipt thereof. 22. Conditions Upon Issuance of Shares. Shares shall not be issued with respect to an option unless the exercise of such option and the issuance and delivery of such shares pursuant thereto shall comply with all applicable provisions of law, domestic or foreign, including, without limitation, the Securities Act of 1933, as amended, the Securities Exchange Act of 1934, as amended, the rules and regulations promulgated thereunder, and the requirements of any stock exchange upon which the shares may then be listed, and shall be further subject to the approval of counsel for the Company with respect to such compliance. As a condition to the exercise of an option, the Company may require the person exercising such option to represent and warrant at the time of any such exercise that the shares are being purchased only for investment and without any present intention to sell or distribute such shares if, in the opinion of counsel for the Company, such a representation is required by any of the aforementioned applicable provisions of law. 23. Term of Plan. The Plan shall become effective upon the earlier to occur of its adoption by the Board of Directors or its approval by the stockholders of the Company. It shall continue in effect until August 8, 2011, unless sooner terminated under Section 20 hereof. -10- 11 EXHIBIT A BAM! ENTERTAINMENT, INC. 2001 EMPLOYEE STOCK PURCHASE PLAN SUBSCRIPTION AGREEMENT [ ] Original Application Offering Period Beginning: ____________ [ ] Change in Payroll Deduction Rate [ ] Change of Beneficiary(ies) NAME (Please print): ___________________________________________________________ (First) (Middle) (Last) SOCIAL SECURITY NUMBER: __________-______-______ ADDRESS: _______________________________________________ PHONE: ________________________________________________________ (W)_______________ ________________________________________________________ (H)_______________ 1. ______________________________ hereby elects to participate in the BAM! Entertainment, Inc. 2001 Employee Stock Purchase Plan (the "Employee Stock Purchase Plan") and subscribes to purchase shares of the Company's Common Stock in accordance with this Subscription Agreement and the Employee Stock Purchase Plan. 2. I hereby authorize payroll deductions from each paycheck in the amount of % of my Compensation on each payday (from 1 to 15%) during the Offering Period in accordance with the Employee Stock Purchase Plan. (Please note that no fractional percentages are permitted.) 3. I understand that said payroll deductions shall be accumulated for the purchase of shares of Common Stock at the applicable Purchase Price determined in accordance with the Employee Stock Purchase Plan. I understand that if I do not withdraw from an Offering Period, any accumulated payroll deductions will be used to automatically exercise my option. 4. I have received a copy of the complete Employee Stock Purchase Plan. I understand that my participation in the Employee Stock Purchase Plan is in all respects subject to the terms of the Plan. I understand that my ability to exercise the option under this Subscription Agreement is subject to stockholder approval of the Employee Stock Purchase Plan. 5. Shares purchased for me under the Employee Stock Purchase Plan should be issued in the name(s) of (Employee or Employee and Spouse only): ______________ __________________________________________________________. 6. I understand that if I dispose of any shares received by me pursuant to the Plan within 2 years after the Enrollment Date (the first day of the Offering Period during which I purchased such shares) or 1 year after the Exercise Date, I will be treated for federal income tax purposes as having received ordinary income at the time of such disposition in an amount equal to the excess 12 of the fair market value of the shares at the time such shares were purchased by me over the price which I paid for the shares. I hereby agree to notify the Company in writing within 30 days after the date of any disposition of my shares and I will make adequate provision for Federal, state or other tax withholding obligations, if any, which arise upon the disposition of the Common Stock. The Company may, but will not be obligated to, withhold from my compensation the amount necessary to meet any applicable withholding obligation including any withholding necessary to make available to the Company any tax deductions or benefits attributable to sale or early disposition of Common Stock by me. If I dispose of such shares at any time after the expiration of the 2-year and 1-year holding periods, I understand that I will be treated for federal income tax purposes as having received income only at the time of such disposition, and that such income will be taxed as ordinary income only to the extent of an amount equal to the lesser of (1) the excess of the fair market value of the shares at the time of such disposition over the purchase price which I paid for the shares, or (2) 15% of the fair market value of the shares on the first day of the Offering Period. The remainder of the gain, if any, recognized on such disposition will be taxed as capital gain. 7. I hereby agree to be bound by the terms of the Employee Stock Purchase Plan. The effectiveness of this Subscription Agreement is dependent upon my eligibility to participate in the Employee Stock Purchase Plan. 8. In the event of my death, I hereby designate the following as my beneficiary(ies) to receive all payments and shares due me under the Employee Stock Purchase Plan: Primary Beneficiary (please print):_____________________________________________ (First) (Middle (Last) Initial) Relationship: _______________ Percentage Distribution (if Applicable): _________ Beneficiary's Address: ____________________________________________________ (include City, State, Zip) ____________________________________________________ Contingent or Other Beneficiary (please print): ________________________________ (First) (Middle (Last) Initial) Relationship: _______________ Percentage Distribution (if Applicable): _________ Beneficiary's Address: ____________________________________________________ (include City, State, Zip) ____________________________________________________ SIGNATURE OF SPOUSE: ___________________________________________________________ (Required if spouse is not named beneficiary) 13 I UNDERSTAND THAT THIS SUBSCRIPTION AGREEMENT SHALL REMAIN IN EFFECT THROUGHOUT SUCCESSIVE OFFERING PERIODS UNLESS TERMINATED BY ME. Dated: ______________________ ________________________________________ Signature of Employee EXHIBIT B BAM! ENTERTAINMENT, INC. 2001 EMPLOYEE STOCK PURCHASE PLAN NOTICE OF WITHDRAWAL The undersigned participant in the Offering Period of the BAM! Entertainment, Inc. 2001 Employee Stock Purchase Plan which began on ________________________ , (the "Enrollment Date") hereby notifies the Company that he or she hereby withdraws from the Offering Period. He or she hereby directs the Company to pay to the undersigned as promptly as practicable all the payroll deductions credited to his or her account with respect to such Offering Period. The undersigned understands and agrees that his or her option for such Offering Period will be automatically terminated. The undersigned understands further that no further payroll deductions will be made for the purchase of shares in the current Offering Period and the undersigned shall be eligible to participate in succeeding Offering Periods only by delivering to the Company a new Subscription Agreement. Name: ___________________________________ Address: ________________________________ Social Security #: ______________________ Signature: ______________________________ Date: ___________________________________ EX-10.53 11 v72115a2ex10-53.txt EXHIBIT 10.53 1 EXHIBIT 10.53 PURCHASE OF ACCOUNTS AND SECURITY AGREEMENT THIS PURCHASE OF ACCOUNTS AND SECURITY AGREEMENT (this "AGREEMENT") is made as of the ____ day of ________, 2001, by and between TRANSCAP MANUFACTURING SERVICES, INC., an Illinois corporation ("LENDER") and BAM! ENTERTAINMENT, INC., a Delaware corporation ("BORROWER"). R E C I T A L S: Borrower is in the business of selling video game software to its customers ("CUSTOMERS"). In order to operate its business, Borrower desires to borrow funds and obtain other financial accommodations from Lender, and Lender is willing to purchase certain accounts and provide other financial accommodations to Borrower upon the terms and conditions set forth herein and in the other documents executed and delivered in connection herewith. In consideration of the terms and conditions contained in this Agreement, and of any account purchases or extensions of credit made or to be made to or for the benefit of Borrower by Lender, the parties, therefore, agree as follows: 1. DEFINITIONS The following terms shall have the following meanings: 1.1 "ACCOUNTS" shall mean all amounts due and to become due to Borrower from the Customers and other accounts, contract rights, chattel paper, instruments and documents, whether now owned or to be acquired by Borrower, provided that the same arise in connection with the inventory purchase financing provided to Borrower by Transcap Trade Finance ("TTF") pursuant to that certain Master Purchase Order Assignment Agreement dated February 25, 2000 (the "Assignment Agreement "), between the Borrower and TTF. 1.2 "ACCOUNT DEBTOR" shall mean the Customers and any other Person who is or who may become obligated to Borrower under, with respect to, or on account of an Account. 1.3 "ADVANCED AMOUNT" shall mean the amount advanced from time to time by Lender to Borrower with respect to the purchase of Accounts pursuant to Section 2.1. 1.4 "AFFILIATE" shall mean any and all Persons which, in the sole and absolute judgment of Lender, directly or indirectly, own or control, are controlled by or are under common control with Borrower, and any and all Persons from whom, in the sole and absolute judgment of Lender, Borrower has not or is not likely to exhibit independence of decision or action. For the purpose of this definition, "control" means the possession, directly or indirectly, of the power to direct or cause the direction of the management and policies of a Person, whether through the ownership of voting securities, by contract or otherwise. 1.5 "ANCILLARY AGREEMENTS" shall mean the Security Documents and all other agreements, instruments and documents, including without limitation, notes, guaranties, pledges, powers of attorney, consents, assignments, contracts, notices, security agreements, leases, financing statements, subordination agreements, trust account agreements, and all other written matter whether now or to be executed by or on behalf of Borrower or any other Person or delivered to Lender with respect to this Agreement. 1.6 "APPLICABLE DAILY RATE" shall mean the prime rate as in effect from time to time 1 2 at the American National Bank, Chicago, Illinois, plus 4.0%, divided by 365. 1.7 "BORROWER'S RESERVE ACCOUNT" shall mean the reserve account created for the benefit of Borrower on Lender's books and records initially equal to forty percent (40%) of the aggregate face amount of the Eligible Accounts pursuant to Section 2.2. 1.8 "BUSINESS DAY" shall mean any day other than a Saturday or Sunday on which the main lobby of the Depository Bank is open for business with the general public. 1.9 "CHARGES" shall mean all national, federal, state, county, city, municipal, or other governmental taxes, levies, assessments, charges, liens, claims or encumbrances upon or relating to (i) the Collateral, (ii) the Liabilities, (iii) Borrower's employees, payroll, income or gross receipts, (iv) Borrower's ownership or use of any of its assets, or (v) any other aspect of Borrower's business. 1.10 "COLLATERAL" shall mean all of the property and interests in property described in Section 5.1 and all other property and interests in property which shall, from time to time, secure any part of the Liabilities. 1.11 "COMMITMENT FEE" shall mean a fee in the amount of Seventy Thousand Dollars ($70,000) that is payable to the Lender by the Borrower on the terms set forth in Section 2.6. 1.12 "DAILY MAINTENANCE FEE" shall mean an amount payable to Lender equal to the Advanced Amount multiplied by 0.067% for that number of days from the date that Lender purchases an Account through and including the date that Lender is paid in full. 1.13 "DEFAULT" shall mean the occurrence or existence of any one or more of the events described in Section 9.1. 1.14 "DEPOSITORY BANK" shall mean the banking institution which is referred to in Section 4.1. 1.15 "DISCOUNT AMOUNT" initially shall mean zero percent (0.0%) of the face amount of all of the Accounts purchased by Lender. 1.16 "ELIGIBLE ACCOUNTS" shall mean the net amount which Lender, in its sole and absolute credit judgment, decides to purchase. 1.17 "EQUIPMENT" shall mean all equipment and fixtures now owned or to be acquired by Borrower, including without limitation, computer hardware and software, furniture, machinery, vehicles and trade fixtures, together with any and all accessories, parts, substitutions and replacements. 1.18 "EVENT OF DEFAULT" shall mean any event or condition which, with the passage of time or the giving of notice or both, would constitute a Default. 1.19 "GENERAL INTANGIBLES" shall mean all choses in action, general intangibles, causes of action and all other intangible personal property of Borrower of every kind and nature (other than Accounts) now owned or to be acquired by Borrower. Without in any way limiting the generality of the foregoing, General Intangibles specifically includes, without limitation, all corporate or other business records, deposit accounts, inventions, computer software, designs, patents, patent applications, trademarks, trademark applications, trade names, trade secrets, goodwill, copyrights, registrations, licenses, franchises and tax refund claims owned by Borrower. 2 3 1.20 "INDEBTEDNESS" shall mean all of Borrower's liabilities, obligations and indebtedness to any Person of any and every kind and nature, whether primary, secondary, direct, indirect, absolute, contingent, fixed, or otherwise, now or to be owing, due, or payable, however evidenced, created, incurred, acquired or owing and however arising, whether under written or oral agreement, by operation of law, or otherwise. Without in any way limiting the generality of the foregoing, Indebtedness specifically includes (i) the Liabilities, (ii) all obligations or liabilities of any Person that are secured by any lien, claim, encumbrance, or security interest upon property owned by Borrower, even though Borrower has not assumed or become liable for the payment, (iii) all obligations or liabilities created or arising under any lease of real or personal property, or conditional sale or other title retention agreement with respect to property used or acquired by Borrower, even though the rights and remedies of the lessor, seller or lender thereunder are limited to repossession of such property, (iv) all unfunded pension fund obligations and liabilities and (v) deferred taxes. 1.21 "INVOICE" shall mean the invoice or other statement rendered by Borrower to a Customer with respect to an Account. 1.22 "INVOICE AMOUNT" shall mean the full amount reflected on Borrower's invoices to the Customers with respect to an Account. 1.23 "LIABILITIES" shall mean all the amounts paid by Lender for the Accounts under this Agreement, the amounts advanced by Lender to Borrower or on Borrower's behalf and all other Borrower's liabilities, obligations and indebtedness to Lender of any and every kind and nature, whether primary, secondary, direct, absolute, contingent, fixed, or otherwise (including, without limitation, interest, charges, expenses, attorneys' fees and other sums chargeable to Borrower by Lender, future advances made to or for the benefit of Borrower and obligations of performance), whether arising under this Agreement, under any of the Ancillary Agreements or acquired by Lender from any other source, whether now or hereafter owing, arising, due, or payable from Borrower to Lender, however evidenced, created, incurred, acquired or owing and however arising, whether under written or oral agreement, operation of law, or otherwise. 1.24 "PERMITTED LIENS" shall mean those liens scheduled on Exhibit A to this Agreement. 1.25 "PERSON" shall mean any individual, sole proprietorship, partnership, joint venture, trust, unincorporated organization, association, corporation, institution, entity, party, or government (whether national, federal, state, county, city, municipal or otherwise, including, without limitation, any instrumentality, division, agency, body or department thereof). 1.26 "SECURITY DOCUMENTS" shall mean this Agreement and all other agreements, instruments, documents, financing statements, warehouse receipts, bills of lading, notices of assignment, schedules, assignments, mortgages and other written matter necessary or requested by Lender to create, perfect and maintain perfected Lender's security interest in the Collateral. 1.27 "SERVICE CHARGE" shall mean an amount payable to Lender equal to the Advanced Amount multiplied by the Applicable Daily Rate for that number of days from the date that Lender makes and advance to Borrower in connection with an Account purchased from Borrower through and including the date that Lender is paid in full. 1.28 "TERM" shall have the meaning ascribed to it in Section 2.4. 1.29 ACCOUNTING TERMS. Any accounting terms used in this Agreement which are not specifically defined shall have the meanings customarily given them in accordance with generally accepted accounting principles. 3 4 1.30 OTHER TERMS. All other terms contained in this Agreement which are not otherwise defined in this Agreement shall, unless the context indicates otherwise, have the meanings provided for by the Uniform Commercial Code of the State of Illinois. 2. ADVANCES AND RESERVES 2.1 PURCHASE OF ACCOUNTS. Upon the submission of an Invoice certified by Borrower as being true and correct, Lender may, in its sole and absolute discretion, purchase the Eligible Account reflected on the Invoice by paying to Borrower or on Borrower's behalf an aggregate amount equal to one hundred percent (100%) of the Eligible Account reflected on the Invoice, less the deduction by Lender of such reserves and payment of such amounts pursuant to Section 2.2 as Lender deems proper and necessary. Notwithstanding anything in this Agreement to the contrary, the Lender shall have no obligation to purchase an Eligible Account if the aggregate of the face amounts of all then outstanding Eligible Accounts purchased by Lender is more than $7,000,000. Borrower agrees that any and all purchases of Accounts shall be made "WITH RECOURSE" to the Borrower. The Borrower represents and warrants to Lender that each of the Accounts so purchased are Accounts due and payable within sixty (60) days after the date the Customer receives the goods shipped by the Borrower with respect to such Account. If all or any part of any Account which has been purchased by Lender is not paid in full within the earlier of seventy-five (75) days after the date of purchase by Lender or fifteen (15) days following the invoice due date, then upon demand of Lender, the Borrower agrees to immediately repurchase the Account from Lender for an amount equal to the Invoice Amount of the account, plus any Service Charges that are due with respect to such Account, and less the amount that was credited to Borrower's Reserve Account with respect to such Account. Nothing contained in this Agreement shall, at any time, require Lender to make account purchases or other extensions of credit to Borrower and the making and amount of such account purchases or other extensions of credit to Borrower under this Agreement shall at all times be in Lender's sole and absolute discretion. Lender may, in the exercise of such discretion, at any time and from time to time, increase or decrease the percentages to be applied to purchase the Eligible Accounts which are contained in this Section 2.1. In the event such percentages are decreased, such decrease shall become effective immediately for the purpose of calculating the amount which Lender may be willing to advance, or allow to remain outstanding, against Eligible Accounts. 2.2 RESERVE CREDITS AND DISBURSEMENTS. Simultaneously with each advance on Eligible Accounts and upon receipt of payments from or on account of Customers, Borrower authorizes and directs Lender to: (a) credit to Borrower's Reserve Account on Lender's books an amount which, when added to the then balance of Borrower's Reserve Account initially shall equal forty percent (40%) of the then aggregate balance of Eligible Accounts (subject to Lender's sole and absolute discretion to increase or decrease such percentage at any time); (b) credit or pay Lender one hundred percent (100%) of the amount of the Accounts which are no longer Eligible Accounts or other charges, charge backs or deductions by the Customers; (c) pay to Lender any unpaid fees or charges and any costs or fees incurred in enforcing or administering this Agreement; and (d) at Lender's election, pay the balance to Borrower. 4 5 2.3 APPLICATION OF PAYMENTS. When Lender receives payments from or on account of Customers with respect to any particular Account, after application of the provisions of Section 2.2, the proceeds will be applied in the following manner and priority: (a) First, the aggregate amount of the Daily Maintenance Fee that has accrued with respect to the Accounts will be paid to and retained by the Lender; (b) Second, the aggregate amount of the Service Charges that have accrued with respect to the Accounts and any other fees and charges due to Lender will be paid to and retained by the Lender; (c) Third, the Discount Amount shall be paid to and retained by Lender as discount fees to Lender; (d) Fourth, an amount equal to the Advanced Amount will be paid to and retained by the Lender; and (e) The balance will be paid to the Borrower and credited against Borrower's Reserve Account. 2.4 TERM OF AGREEMENT. This Agreement shall be in effect from the date hereof until January 31, 2002 (the "Term"); provided, however, that either party shall have the right to terminate this Agreement by giving the other party at least ten (10) days' prior notice of such termination. This Agreement may also be terminated by Lender upon the occurrence of a Default as provided in Section 9. Upon the effective date of termination, all of the Liabilities shall become immediately due and payable without notice or demand. Notwithstanding any termination, until all of the Liabilities shall have been fully paid and satisfied, Lender shall be entitled to retain its security interest in the Collateral. Borrower shall continue to remit collections of Accounts and proceeds of Collateral as provided in this Agreement, and Lender shall retain all of its rights and remedies under this Agreement. 2.5 [INTENTIONALLY OMITTED] 2.6 COMMITMENT FEE. In order to compensate Lender for the cost of being prepared to make funds available to Borrower hereunder, the Borrower agrees to pay the Commitment Fee to Lender out of funds otherwise payable by Lender to Borrower, whether under this Agreement or under any other financing arrangement between Borrower and Lender or any affiliate of Lender. The Commitment Fee is deemed by the parties to have been earned by the Lender upon the signing of this Agreement, as of which date the Lender has reserved the requisite funds. The Commitment Fee is in addition to any other fees and charges and shall be paid to Lender upon termination of this Agreement if such termination occurs before the Commitment Fee has been paid in full. 3. ELIGIBLE ACCOUNTS 3.1 ELIGIBLE ACCOUNTS. (a) In submitting its request to Lender that Lender purchase from Borrower a Customer Account, Borrower shall provide Lender with the following: (i) The Assignment Schedule of Accounts in the form attached hereto as Exhibit B; (ii) A copy of the Invoice Borrower proposes Lender purchase, including any detailed specifications of the products or services provided or to be provided to the Customer; 5 6 (iii) An estimate of the cost to the Borrower of providing the products or services to the Customer; (iv) A current Dun & Bradstreet report for Customer and any prior payment history of the Customer; and (v) Any other information requested by Lender. (b) Lender shall determine, in its sole and absolute discretion, whether the Account which Borrower proposes that Lender purchase is an Eligible Account. In making this determination, Lender will consider the following requirements, which Borrower hereby represents and warrants will be true and correct as of the date of the purchase of the Account: (i) The individual Customer Account is a valid, legally enforceable obligation of the relevant Customer which is absolutely and not contingently owing and such Customer has not asserted any offset, counterclaim or defense denying liability, and Borrower is not aware of any facts or circumstances which in any way would impair the validity or enforceability of the Account; (ii) The individual Account is not owing from an employee, officer, agent, director or stockholder of Borrower or any Affiliate or from the United States of America or any department, agency or instrumentality; and (iii) Each of the warranties and representations set forth in Section 8.2 has been reaffirmed with respect to such individual Account at the time that the most recent Accounts Report was delivered to Lender. 4. DEPOSITS 4.1 COLLECTION OF ACCOUNTS AND PAYMENTS. Borrower will immediately deposit or cause the deposit of all remittances and proceeds of the Collateral in the identical form in which such payment was made, whether by cash or check, in special lock box account number 77-6132 with AMERICAN NATIONAL BANK, DEPT. 77-6132, CHICAGO, IL 60678-6132 ("DEPOSITORY BANK"). Borrower agrees that all payments made to such special account or otherwise received by Lender, whether on the Accounts or as proceeds of other Collateral or otherwise, will be the sole and exclusive property of Lender and will be applied on account of the Liabilities. On the same Business Day of Lender's receipt of funds eligible to be wired from the Depository Bank, Lender will credit (conditional upon final collection) all payments received against the Liabilities. Borrower and any Affiliates, shareholders, directors, officers, employees, agents of Borrower and all Persons acting for or in concert with Borrower shall, acting as trustee for Lender, receive, as the sole and exclusive property of Lender, any monies, checks, notes, drafts or any other payments relating to or proceeds of Accounts or other Collateral which come into their possession or under their control and immediately upon receipt, shall remit the same or cause the same to be remitted, in kind, to Lender, at Lender's address set forth in Section 10.10. Borrower agrees to pay to Lender any and all fees, costs and expenses (if any) which Lender incurs in connection with opening and maintaining the special account and depositing for collection by Lender any check or item of payment received or delivered to Depository Bank or Lender on account of the Liabilities and Borrower further agrees to reimburse Lender for any claims asserted by Depository Bank in connection with the special account or any returned or uncollected checks received by Depository Bank for deposit in the special account. 4.2 APPLICATION OF DEPOSITS. To the extent that Borrower makes a payment or payments to Lender or Lender receives any payment or proceeds of the Collateral for Borrower's benefit, which payment(s) or proceeds (or any part thereof) are subsequently invalidated, 6 7 declared to be fraudulent or preferential, set aside or required to be repaid to a trustee, receiver or any other party under any bankruptcy act, state or federal law, common law or equitable cause, then to the extent of such payment or proceeds received, the Liabilities intended to be satisfied shall be revived and shall continue in full force and effect, as if such payments or proceeds had not been received by Lender. 5. COLLATERAL - GENERAL TERMS 5.1 SECURITY INTEREST. To secure the prompt payment to Lender of the Liabilities, the Borrower grants to Lender a continuing security interest in and to all of the following property and interests in property of Borrower, whether now owned or existing or to be acquired or arising and wherever located: (i) all Accounts, Equipment, contract rights, General Intangibles, tax refunds, chattel paper, instruments, letters of credit, documents and documents of title; (ii) the Borrower's Reserve Account and all of the Borrower's deposit accounts (general or special) with and credits and other claims against the Depository Bank or Lender, or any other financial institutions with which Borrower maintains deposits; (iii) all of Borrower's now owned or to be acquired monies, and any and all other property of Borrower now or to be coming into the actual possession, custody or control of Lender or any agent or affiliate of Lender in any way or for any purpose (whether for safekeeping, deposit, custody, pledge, transmission, collection or otherwise); (iv) all insurance proceeds of or relating to any of the foregoing; (v) all of the Borrower's books and records relating to any of the foregoing; and (vi) all accessions and additions to, substitutions for, and replacements, products and proceeds of any of the foregoing. 5.2 DISCLOSURE OF SECURITY INTEREST. Borrower shall make appropriate entries upon its financial statements and books and records disclosing Lender's security interest in the Collateral. 5.3 FURTHER ASSURANCES. At Lender's request, Borrower shall, from time to time, (i) execute and deliver to Lender all Security Documents that Lender may reasonably request, in form and substance acceptable to Lender, and pay the costs of any recording or filing of the same and (ii) take such other actions as Lender may request in order to fully effect the purposes of this Agreement and to protect Lender's interest in the Collateral. Upon the occurrence of any Default, Borrower irrevocably makes, constitutes and appoints Lender (and all Persons designated by Lender for that purpose) as Borrower's true and lawful attorney and agent-in-fact to sign the name of Borrower on any Security Document and to delivery any Security Document to such Persons as Lender, in its sole discretion, may elect. Borrower agrees that a carbon, photographic, photostatic, or other reproduction of this Agreement or of a financing statement is sufficient as a financing statement. 5.4 INSPECTION. Lender (by any of its officers, employees or agents) shall have the right, at any time or times during usual business hours, without prior notice, to inspect the Collateral, all records related thereto (and to make extracts from such records) and the premises upon which any of the Collateral is located, to discuss Borrower's affairs and finances with any Person and to verify the amount, quality, value and condition of, or any other matter relating to, the Collateral. 5.5 LOCATION OF COLLATERAL. The chief executive office and principal place of business for Borrower is 720 South Montford Avenue, San Jose, California 95113, which is the location of the Collateral and books and related records (including, without limitation, computer programs, printouts and other computer materials and records concerning the Collateral). Borrower shall not remove its books and records or the Collateral from such location and shall not open any new offices or relocate any of its books and records or the Collateral except within the continental United States of America with at least thirty (30) days' prior written notice to Lender. 7 8 5.6 LENDER'S PAYMENT OF CLAIMS ASSERTED AGAINST BORROWER. Lender may, but shall not be obligated to, at any time or times hereafter, in its sole discretion, and without waiving any Default or waiving or releasing any obligation, liability or duty of Borrower under this Agreement or the Ancillary Agreements, pay, acquire or accept an assignment of any security interest, lien, claim or other encumbrance asserted by and Person against the Collateral. All sums paid by Lender under this Section 5.6, including all costs, fees (including without limitation reasonable attorney's and paralegals' fees and court costs), expenses and other related charges, shall be payable by Borrower to Lender on demand and shall be additional Liabilities secured by the Collateral. 6. COLLATERAL: ACCOUNTS 6.1 VERIFICATION OF ACCOUNTS. Any of Lender's officers, employees or agents shall have the right, at any time or times hereafter, in Lender's or Borrower's name or in the name of a firm of independent certified public accountants acceptable to Lender, to verify the validity, amount or any other matters relating to any Accounts by mail, telephone, telegraph or otherwise. 6.2 DIRECTION TO PAY. Simultaneously with the execution of this Agreement, Borrower shall direct those Customers whose Accounts have been purchased by Lender to direct all payments on behalf of Borrower directly to the Depository Bank and to cooperate with Lender in connection with the billing, administration and collection of the Accounts. 6.3 ASSIGNMENTS, RECORDS AND REPORTS. Borrower shall keep accurate and complete records of its Accounts and as frequently as Lender shall require, Borrower shall deliver to Lender formal written assignments of all Accounts, together with the supporting details. Borrower shall further deliver or cause to be delivered to Lender as frequently as Lender shall require, a report setting forth the aging of all Accounts. 6.4 SALE OR ENCUMBRANCE OF ACCOUNTS. Borrower shall not, without the prior written consent of Lender, sell, transfer, grant a security interest in or otherwise dispose of or encumber any of its Accounts to any Person other than Lender, except for the Permitted Liens. 7. COLLATERAL: EQUIPMENT 7.1 MAINTENANCE OF THE EQUIPMENT. Borrower shall keep and maintain the Equipment in good operating condition and repair and shall make all necessary replacements so that the value, utility and operating efficiency shall at all times be maintained and preserved and shall promptly inform Lender of any additions to or deletions from the Equipment. Borrower shall not permit any such items to become affixed to real estate in such manner that such items of Equipment will become a fixture or an accession to other personal property. 7.2 EVIDENCE OF OWNERSHIP OF EQUIPMENT. Borrower shall, upon Lender's request, deliver to Lender all evidence of ownership of the Equipment (including, without limitation, bills of sale, certificates of title and applications for title). 7.3 PROCEEDS OF THE EQUIPMENT. Borrower shall not sell, transfer, lease, grant a security interest in or otherwise dispose of or encumber the Equipment to any Person other than Lender. In the event any Equipment is sold, transferred or otherwise disposed of as permitted in this Section 7.3, Borrower shall promptly notify Lender of such fact and deliver all of the cash proceeds of such sale, transfer or disposition to Lender, which proceeds shall be applied to the repayment of the Liabilities; provided, however, that with the Lender's prior consent Borrower may use the proceeds of such sale, transfer or disposition to finance the purchase of replacement Equipment. Borrower shall deliver to Lender written evidence of the use of the proceeds for such purchase. All replacement Equipment shall be free and clear of all liens, claims, security 8 9 interests and other encumbrances, except for the security interest granted to Lender, purchase money security interests consented to in writing by Lender, and the Permitted Liens. 8. WARRANTIES AND REPRESENTATIONS 8.1 GENERAL WARRANTIES AND REPRESENTATIONS. Borrower warrants and represents that: (A) Borrower is a corporation duly organized and validly existing and in good standing under the laws of the state of its incorporation, and is qualified or licensed as a foreign corporation to do business in all other countries, states and provinces in which the laws required Borrower to be so qualified or licensed; (B) Borrower has not used, during the five (5) year period preceding the date of this Agreement, and does not intend to use, any other corporation or fictitious name; (C) Borrower has the right and power and is duly authorized and empowered to enter into, execute, deliver and perform this Agreement and the Ancillary Agreements; (D) The execution, delivery and performance by Borrower of this Agreement and the Ancillary Agreements shall not, by their execution or performance, the lapse of time, the giving of notice or otherwise, constitute a violation of any applicable law, rule, regulation, judgment, order or decree or a breach of any provision contained in Borrower's charter documents or by-laws or contained in any agreement, instrument, indenture or other document to which Borrower is not a party or by which it or any of its property is bound; (E) Borrower's use of the proceeds of any advances made by Lender are, and will continue to be, legal and proper corporate uses (duly authorized by its board of directors, in accordance with any applicable law, rule or regulation) and such uses are, and will continue to be, consistent with all applicable laws, rules and regulations; (F) Borrower has, and is current and in good standing with respect to, all governmental approvals, permits, certificates, inspections, consents and franchises necessary to conduct and to continue to conduct its business as conducted by it and to own or lease and operate its properties as now owned or leased and operated by it; (G) None of said approvals, permits, certificates, consents or franchises contains any term, provision, condition or limitation more burdensome than such as are generally applicable to Persons engaged in the same or similar business as Borrower; (H) Borrower now has capital sufficient to carry on its business and transactions and all businesses and transactions in which it is about to engage and is now solvent and able to pay its debts as they mature and Borrower now owns property the fair saleable value of which is greater than the amount needed to repay Borrower's debts; (I) Except as disclosed on Exhibit C, Borrower has no litigation pending or, to the best of its knowledge, threatened, and no Indebtedness except for the Indebtedness shown on Exhibit D. Borrower has not guaranteed the obligations of any other Person; (J) Borrower (i) is not a party to any contract or agreement or subject to any charge, restriction, judgment, decree or order materially and adversely affecting its business, property, assets, operations or condition, financial or otherwise, and is not a party to any labor dispute; and (ii) there are no lockouts, strikes or walkouts relating to any labor contracts and no such contract is scheduled to expire during the Term. Borrower is not in default under any material contract, agreement, or understanding to which Borrower is a party or by which 9 10 Borrower is bound, nor is Borrower aware of any facts or circumstances which could give rise to any such default (whether by the passage of time, the giving or notice, or otherwise); and to the best of Borrower's knowledge, no other party is in default under any such contract, agreement, or understanding, nor is Borrower aware of any facts or circumstances which could give rise to any such default (whether by the passage of time, the giving or notice, or otherwise); (K) Borrower has good, indefeasible and merchantable title to, and ownership of, the Collateral, free and clear of all liens, claims, security interests and other encumbrances; (L) Borrower is not in violation of any applicable statute, rule, regulation or ordinance of any governmental entity, including, without limitation, the United States of America, any state, city, town, municipality, county or of any other jurisdiction, or of any agency thereof, in any respect materially and adversely affecting the Collateral or Borrower's business, property, assets, operations or conditions, financial or other; (M) Borrower is not in default under any indenture, loan agreement, mortgage, lease, trust deed, deed of trust or other similar agreement relating to the borrowing of monies to which it is a party or by which it is bound; (N) Borrower has disclosed to Lender in writing all material facts respecting Borrower's business and financial affairs. There are no omissions or other facts or circumstances which are or may be material; there exist no equity or long term investments in or outstanding advances to any Person; and there are no actions or proceedings which are pending or, to the best of Borrower's knowledge, threatened against Borrower or any other Person which might result in any material adverse change in Borrower's financial condition or materially and adversely affect Borrower's operations, its assets or the Collateral; (O) Borrower has filed all federal, state and local tax returns and other reports which Borrower is required by law, rule or regulation to file, and all Charges that are due and payable have been paid; 8.2 AUTOMATIC WARRANTY AND REPRESENTATION AND REAFFIRMATION OF WARRANTIES AND REPRESENTATIONS. Each request for an advance made by Borrower pursuant to this Agreement or the Ancillary Agreements shall constitute (i) an automatic warranty and representation by Borrower to Lender that there does not then exist a Default or an Event of Default and (ii) a reaffirmation as of the date of said request of all of the warranties and representations of Borrower contained in this Agreement and in the Ancillary Agreements. 8.3 SURVIVAL OF WARRANTIES AND REPRESENTATIONS. Borrower covenants, warrants and represents to Lender that all representations and warranties of Borrower contained in this Agreement and the Ancillary Agreements shall be true at the time of Borrower's execution of this Agreement and the Ancillary Agreements, and shall survive the execution, delivery and acceptance by the parties and the closing of the transactions described in this Agreement. The Borrower expressly agrees that any misrepresentation or breach of any representation or warranty whatsoever contained in this Agreement or in any of the Ancillary Agreements shall be deemed material. 10 11 8.4 COVENANTS AND CONTINUING AGREEMENTS. Borrower agrees to: (A) Pay to Lender, on demand, any and all fees, costs or expenses which Lender pays to a bank or other similar institution arising out of or in connection with (i) the forwarding to Borrower or any other Person on behalf of Borrower, by Lender, of proceeds of loans made by Lender to Borrower pursuant to this Agreement, and (ii) the depositing for collection, by Lender, of any check or item of payment received or delivered to Lender on account of the Liabilities; (B) Promptly upon Borrower's learning, notify Lender of any material delay in Borrower's performance of any of its obligations to any Account Debtor and of any assertion of any claims, offsets, defenses or counterclaims by any Account Debtor and of any allowances or credits granted or other monies advanced by Borrower to any Account Debtor; (C) Keep books of account and prepare financial statements and furnish to Lender the following (all of the foregoing and following to be kept and prepared in accordance with generally accepted accounting principles applied on a basis consistent, unless Borrower's independent certified public accountants concur in any changes and such changes are disclosed to Lender and are consistent with the then generally accepted accounting principles): (i) as soon as available, but not later than one hundred twenty (120) days after the close of each fiscal year of Borrower, financial statements of Borrower (including a balance sheet and profit and loss statement with supporting footnotes) as of the end of such year and for the year then ended all in reasonable detail as requested by Lender and examined by a firm of independent certified public accountants of recognized national standing selected by Borrower and containing the unqualified opinion of such independent certified public accountants with respect to the financial statements; (ii) as soon as available, but no later than thirty (30) days after the end of each month, (A) an unaudited financial statement of Borrower (including a statement of profit and loss and of surplus for the month then ended and a balance sheet as of the end of such month) as of the end of the portion of Borrower's fiscal year then elapsed, all in reasonable detail as requested by Lender and certified by Borrower's principal financial officer as prepared in accordance with generally accepted accounting principles and fairly presenting the financial position and results of operations of Borrower for such period and (B) a cash flow projection for the following three-month period, together with appropriate supporting documents reasonably acceptable to Lender; (iii) as soon as available, but not later than sixty (60) days before the beginning of each fiscal year, a cash flow projection for such fiscal year, together with appropriate supporting document reasonably acceptable to Lender; and (iv) such other data and information (financial and otherwise) as Lender from time to time may reasonably request, bearing upon or related to the Collateral, Borrower's financial condition or results of its operations, or the financial condition of any Person who is a guarantor of any of the Liabilities; (D) Notify Lender promptly upon, but in no event later than, five (5) days after Borrower's learning, that any Eligible Account has ceased to be an Eligible Account and the reason(s) for such ineligibility; (E) Notify Lender promptly upon Borrower's learning of (i) any litigation affecting Borrower, whether or not the claim is considered by Borrower to be covered by insurance; and (ii) the institution of any suit or administrative proceeding which may materially and adversely affect the operations, financial condition or business of Borrower or which may 11 12 affect Lender's security interest in the Collateral; (F) Maintain such types and amounts of insurance coverage (including without limitation credit insurance) with respect to Borrower's business operations as Borrower may reasonably require, such insurance to name Lender as an insured in the manner and to the extent required by Lender from time to time; (G) Provide Customers with all service warranties (whether expressed or implied); (H) Cause its books and records to accurately reflect that it has granted to Lender a valid and perfected lien in and to all of its Accounts, free and clear of all other liens, claims, and encumbrances; and (I) Deliver to Lender in kind, immediately upon receipt, all monies, checks, items of payment and proceeds of accounts. 8.5 NEGATIVE COVENANTS. Borrower agrees that it will not, directly or indirectly: (A) incur or permit to exist any Indebtedness except (i) the Liabilities, (ii) current accounts payable arising in the ordinary course of business, and (iii) other Indebtedness outstanding on the date hereof and set forth on Exhibit D hereto; (B) purchase or redeem any shares of Borrower's capital stock or any options or warrants which respect thereto, declare or pay any dividends thereon, make any distribution or payment to shareholders or holders of options or warrants in respect of the Borrower's capital stock or for any other funds for any purpose. The Borrower will not create or acquire any subsidiary or pay any bonus to any shareholder or Affiliate thereof; (C) create or permit to exist any lien with respect to any of the Collateral now owned or hereafter acquired by the Borrower; (D) become or be a guarantor or surety of, or otherwise become or be responsible in any manner (whether by agreement to purchase any obligations, stock, assets, goods or services, or otherwise) with respect to any undertaking of any other Person, or make or permit to exist any loans or advances to, or investments in, any other Person; (E) make any material change in the nature of its business carried on as of this date or modify, amend, supplement or terminate, or agree to modify, amend, supplement or terminate, its certificate of incorporation or by-laws without the Lender's prior written consent, which consent shall not be unreasonably withheld if such modification, amendment or supplement would not adversely affect the Lender; (F) be a party to any merger, consolidation or exchange of stock, or purchase or otherwise acquire all or substantially all of the assets or stock of any class of, or any partnership or joint venture interest in, any other Person, or sell, transfer, convey or lease any of its assets; (G) enter into any transaction with any Affiliate unless such transaction is in the ordinary course of business and on terms and conditions at least as favorable to the Borrower as the terms and conditions that would apply in a similar transaction with a Person who is not an Affiliate; (H) enter into any agreement containing any provision which would be violated or breached by the performance of the Borrower's obligations hereunder or under any 12 13 instrument or document delivered or to be delivered by it hereunder or in connection herewith or which would violate or breach any provision hereof or of any such instrument or document; or (I) violate any of the requirements of applicable laws, rules, regulations, and orders of all governmental authorities (federal, state, local or foreign, and including, without limitation, environmental laws, rules, regulations and orders), a breach of which would materially and adversely affect Borrower's business, credit, operations, financial condition or prospects. 9. DEFAULT; RIGHTS AND REMEDIES ON DEFAULT 9.1 DEFAULT. The occurrence of any one or more of the following events shall constitute a Default: (A) Borrower fails to pay any part of the Liabilities on the date due and payable or declared due and payable by Lender; (B) If all or any part of any Account which has been purchased by Lender is not paid in full within the earlier of seventy-five (75) days after the date of purchase by Lender or fifteen (15) days following the invoice due date; (C) Borrower or any guarantor of the Liabilities fails or neglects to perform, keep or observe any other term, provision, condition or covenant contained in this Agreement, or in the Ancillary Agreements, which is required to be performed, kept or observed by Borrower or such Affiliate or guarantor and the same is not cured to Lender's satisfaction within five (5) days after Lender gives Borrower notice identifying such default; (D) A default shall occur under any agreement, document or instrument, other than this Agreement or any of the Ancillary Agreements, now or hereafter existing, to which Borrower is a party or by which any of Borrower's property is bound; (E) Any statement, warranty, representation, report, financial statement, or certificate made or delivered by Borrower, or any of its officers, employees or agents, to Lender is not true and correct in any respect; (F) There shall occur any material uninsured damage to or loss, theft, or destruction of any of the Collateral; (G) The Collateral or any of Borrower's other assets are attached, seized, levied upon or subjected to a writ or distress warrant, or come within the possession of any receiver, trustee, custodian or assignee for the benefit or creditors and the same is not cured within thirty (30) days thereafter; (H) An application is made by any Person other than Borrower for the appointment of a receiver, trustee, or custodian for any of the Collateral or any of Borrower's other assets and the same is not dismissed within thirty (30) days after the application therefor; (I) An application is made by Borrower for the appointment of a receiver, trustee or custodian for any of the Collateral or any of Borrower's other assets; or a petition under any section or chapter of the Bankruptcy Code or any similar law or regulation is filed by or against Borrower or any guarantor of the Liabilities and, if filed against Borrower or any guarantor, is not dismissed within thirty (30) days after filing; or Borrower makes an assignment for the benefit of its creditors or any case or proceeding is filed by or against Borrower for its dissolution, liquidation, or termination; or Borrower ceases to conduct its business as now conducted or is enjoined, restrained or in any way prevented by court order from conducting all 13 14 or any material part of its business affairs; or (J) Borrower becomes insolvent or fails generally to pay its debts as they become due. Upon the happening of any Default, the Borrower agrees to pay the Lender a daily late payment fee in an amount equal to 0.067% of the amount due and owing the Lender from the date of such Default until all amounts due and owing the Lender have been paid and satisfied in full. 9.2 REMEDIES. Upon and after the occurrence of a Default, Lender shall have all of the following rights and remedies: (A) All of the rights and remedies of a secured party under the Illinois Uniform Commercial Code or other applicable law, all of which rights and remedies shall be cumulative and non-exclusive to the extent permitted by law, and in addition to any other rights and remedies contained in this Agreement and in any of the Ancillary Agreements; (B) The right to (i) peacefully enter upon the premises of Borrower or any other place or places where the Collateral is located and kept, without any obligation to Borrower or any other person, through self-help and without judicial process or first obtaining a final judgment or giving Borrower notice and opportunity for a hearing on the validity of Lender's claim, and remove the Collateral from such premises and places to the premises of Lender or any agent of Lender, for such time as Lender may require to collect or liquidate the Collateral, and/or (ii) require Borrower to assemble and deliver the Collateral to Lender at a place to be designated by Lender; (C) The right to open Borrower's mail and collect any and all amounts due from Account Debtors; (D) The right to sell, lease or otherwise dispose of any of the Collateral in its then condition, or after any further manufacturing or processing, at public or private sale or sales, with such notice as provided in lots or in bulk, for cash or on credit, all as Lender, in its sole discretion, may deem advisable. At any such sale or sales of the Collateral, the Collateral need not be in view of those present and attending the sale, nor at the same location at which the sale is being conducted. Lender shall have the right to conduct such sales on Borrower's premises or elsewhere and shall have the right to use Borrower's premises without charge for such sales for such time or times as Lender may see fit. Lender is granted a license or other right to use, without charge, Borrower's labels, patents, copyrights, rights of use of any name, trade secrets, trade names, trademarks and advertising matter, or any property of a similar nature, as it pertains to the Collateral, in advertising for sale and selling any Collateral, and Borrower's rights under all licenses and all franchise agreements shall inure to Lender's benefit but Lender shall have no obligations thereunder. Lender may purchase all or any part of the Collateral at public or, if permitted by law, private sale and, in lieu of actual payment of such purchase price, may set-off the amount of such price against the Liabilities. The proceeds realized from the sale of any Collateral shall be applied first to the reasonable costs, expenses and attorneys' and paralegals' fees and expenses incurred by Lender for collection and for acquisition, completion, protection, removal, storage, sale and delivery of the Collateral; second to interest due upon any of the Liabilities; third to any unpaid fees or charges due hereunder; and fourth to the principal of the Liabilities. Lender shall account to Borrower for any surplus. If any deficiency shall arise, Borrower shall remain liable to Lender. 9.3 NOTICE. Borrower agrees that any notice required to be given by Lender of a sale, lease, other disposition of any of the Collateral or any other intended action by Lender, which is personally delivered to Borrower or which is deposited in the United States mail, postage prepaid 14 15 and duly addressed to Borrower at the address set forth in Section 10.10, at least ten (10) days prior to any such public sale, lease or other disposition or other action being taken, or the time after which any private sale of the Collateral is to be held, shall constitute commercially reasonable and fair notice thereof to Borrower. 10. MISCELLANEOUS 10.1 APPOINTMENT OF LENDER AS BORROWER'S LAWFUL ATTORNEY-IN-FACT. Borrower irrevocably designates, makes, constitutes and appoints Lender (and all persons designated by Lender) as Borrower's true and lawful attorney and agent in-fact and Lender, or Lender's agent, may without notice to Borrower: (A) At any time endorse by writing or stamping Borrower's name on any checks, notes, drafts or any other payment relating to and/or proceeds of the Collateral which come into the possession of Lender or under Lender's control and deposit the same to the account of Lender for application to the Liabilities; (B) At any time after the occurrence of a Default, in Borrower's or Lender's name: (i) demand payment of the Collateral; (ii) enforce payment of the Collateral, by legal proceedings or otherwise; (iii) exercise all of Borrower's rights and remedies with respect to the collection of the Collateral; (iv) settle, adjust, compromise, extend or renew the Accounts; (v) settle, adjust or compromise any legal proceedings brought to collect the Collateral; (vi) if permitted by applicable law, sell or assign the Collateral upon such terms, for such amounts and at such time or times as Lender deems advisable; (vii) satisfy and release the Accounts; (viii) prepare, file and sign Borrower's name on any proof of claim in Bankruptcy or similar document against any Account Debtor; (ix) prepare, file and sign Borrower's name on any notice of lien, assignment or satisfaction of lien or similar document in connection with the Collateral; (x) do all acts and things necessary, in Lender's sole discretion, to fulfill Borrower's obligations under this Agreement; and (xi) use the information recorded on or contained in any data processing equipment and computer hardware and software relating to the Collateral to which Borrower has access; and (C) Notify the post office authorities to change the address for delivery of Borrower's mail to an address designated by Lender and receive, open and dispose of all mail addressed to Borrower. 10.2 MODIFICATION OF AGREEMENT; SALE OF INTEREST. This Agreement and the Ancillary Agreements may not be modified, altered or amended, except by an agreement in writing signed by Borrower and Lender. Borrower may not sell, assign or transfer this Agreement or the Ancillary Agreements, including, without limitation, Borrower's right, title, interest, remedies, powers, or duties. Borrower consents to Lender's participation, sale, assignment, transfer or other disposition, at any time or times hereafter, of this Agreement or the Ancillary Agreements, including, without limitation, Lenders's right, title, interest, remedies, powers, or duties hereunder or thereunder. 10.3 ATTORNEYS' FEES AND EXPENSES; LENDER'S OUT-OF-POCKET EXPENSES. If, at any time or times, and regardless of the existence of a Default or an Event of Default, Lender incurs costs and expenses (including, without limitation, escrow fees, filing fees, recording fees, credit report fees and UCC lien search fees) or employs counsel, accountants or other professionals for advice or other representation or services in connection with: (A) The preparation, negotiation and execution of this Agreement and the Ancillary Agreements; (B) Any litigation, contest, dispute, suit, proceeding or action (whether 15 16 instituted by Lender, Borrower or any other Person) in any way relating to the Collateral, this Agreement, the Ancillary Agreements or Borrower's affairs; (C) Any attempt to enforce any rights of Lender or any participant against Borrower or any other Person which may be obligated to Lender or such participant by virtue of this Agreement or the Ancillary Agreements, including, without limitation, the Account Debtors; (D) Any attempt to inspect, verify, protect, collect, sell, liquidate or otherwise dispose of any of the Collateral; or (E) Any inspection, verification, protection, collection, sale, liquidation or other disposition of any of the Collateral, including without limitation, Lender's periodic or special audits of Borrower's books and records; then, in any such event, the reasonable attorneys' and paralegals' fees and expenses arising from such services and all reasonably incurred expenses, costs, charges and other fees of or paid by Lender in any way or respect arising in connection with or relating to any of the events or actions described in this Section 10.3 shall be payable by Borrower to Lender upon demand and shall be additional Liabilities. Without limiting and generality of the foregoing, such expenses, costs, charges and fees may include accountants' fees, costs and expenses; court costs, fees and expenses; photocopying and duplicating expenses; court reporter fees, costs and expenses; long distance telephone charges; air express charges; telegram charges; secretarial overtime charges; and expenses for travel, lodging and food paid or incurred in connection with the performance of all such services. 10.4 WAIVER BY LENDER. Lender's failure, at any time or times, to require strict performance by Borrower of any provision of this Agreement or of any Ancillary Agreement shall not constitute a waiver, or affect or diminish any right of Lender thereafter to demand strict compliance and performance. Any suspension or waiver by Lender of a Default under this Agreement or any Ancillary Agreement shall not suspend, waive or affect any other Default under this Agreement or the Ancillary Agreements, whether the same is prior or subsequent thereto and whether of the same or of a different type. None of the undertakings, agreements, warranties, covenants and representations of Borrower contained in this Agreement or the Ancillary Agreements and no Default under this Agreement or the Ancillary Agreements shall be deemed to have been suspended or waived by Lender, unless such suspension or waiver is by an instrument in writing signed by an officer of Lender and directed to Borrower specifying such suspension or waiver. 10.5 SEVERABILITY. Wherever possible, each provision of this Agreement shall be interpreted in such manner as to be effective and valid under applicable law, but if any provision of this Agreement shall be prohibited by or invalid under applicable laws, such provision shall be ineffective to the extent of such prohibition or invalidity, without invalidating the remainder of such provision or the remaining provisions of this Agreement. 10.6 PARTIES; ENTIRE AGREEMENT. This Agreement and the Ancillary Agreements shall be binding upon and inure to the benefit of the respective successors and assigns of Borrower and Lender. Borrower's successors and assigns shall include, without limitation, a trustee, receiver or debtor-in-possession of or for Borrower. Nothing contained in this Section 10.6 shall be deemed to modify Section 10.2. This Agreement is the complete statement of the agreement by and between Borrower and Lender and supersedes all prior negotiations, understandings and representations between them with respect to the subject matter of this Agreement. 10.7 CONFLICT OF TERMS. The provisions of the Ancillary Agreements are incorporated in this Agreement by this reference. Except as otherwise provided in this Agreement and except as otherwise provided in the Ancillary Agreement, by specific reference to the applicable provision of this Agreement, if any provision contained in this Agreement is in conflict with, or inconsistent with, any provision in any Ancillary Agreement, the provision contained in this 16 17 Agreement shall govern and control. 10.8 WAIVER BY BORROWER. Except as otherwise specifically provided for in this Agreement, Borrower waives (i) presentment, demand and protest, notice of protest, notice of presentment, default, non-payment, maturity, release, compromise, settlement, extension or renewal of any or all commercial paper, accounts, contract rights, documents, instruments, chattel paper and guaranties at any time held by Lender on which Borrower may in any way be liable and hereby ratifies and confirms whatever Lender may do in this regard; (ii) all rights to notice and a hearing prior to Lender's taking possession or control of, or to Lender's replevy, attachment or levy upon the Collateral or any bond or security which might be required by any court prior to allowing Lender to exercise any of Lender's remedies; and (iii) the benefit of all valuation, appraisement, extension and exemption laws. Borrower acknowledges that it has been advised by its own counsel with respect to this Agreement and the transactions evidenced by this Agreement. 10.9 WAIVER AND GOVERNING LAW. THE FINANCIAL ACCOMMODATIONS EVIDENCED BY THIS AGREEMENT HAVE BEEN MADE, AND THIS AGREEMENT HAS BEEN DELIVERED, AT CHICAGO, ILLINOIS, AND SHALL BE GOVERNED BY AND CONSTRUED IN ACCORDANCE WITH THE INTERNAL LAWS (AS OPPOSED TO THE CONFLICTS OF LAWS PROVISIONS) OF THE STATE OF ILLINOIS. BORROWER (i) WAIVES ANY RIGHT TO A TRIAL BY JURY IN ANY ACTION TO ENFORCE OR DEFEND ANY MATTER ARISING FROM OR RELATED TO THIS AGREEMENT OR ANY OF THE ANCILLARY AGREEMENTS; (ii) IRREVOCABLY SUBMITS TO THE JURISDICTION OF ANY STATE OR FEDERAL COURT LOCATED IN COOK COUNTY, ILLINOIS, OVER ANY ACTION OR PROCEEDING TO ENFORCE OR DEFEND ANY MATTER ARISING FROM OR RELATED TO THIS AGREEMENT OR ANY OF THE ANCILLARY AGREEMENTS; (iii) IRREVOCABLY WAIVES, TO THE FULLEST EXTENT BORROWER MAY EFFECTIVELY DO SO, THE DEFENSE OF AN INCONVENIENT FORUM TO THE MAINTENANCE OF ANY SUCH ACTION OR PROCEEDING; (iv) AGREES THAT A FINAL JUDGMENT IN ANY SUCH ACTION OR PROCEEDING SHALL BE CONCLUSIVE AND MAY BE ENFORCED IN ANY OTHER JURISDICTION BY SUIT ON THE JUDGMENT OR IN ANY OTHER MANNER PROVIDED BY LAW; AND (v) AGREES NOT TO INSTITUTE ANY LEGAL ACTION OR PROCEEDING AGAINST LENDER OR ANY OF LENDER'S DIRECTORS, OFFICERS, EMPLOYEES, AGENTS OR PROPERTY, CONCERNING ANY MATTER ARISING OUT OF OR RELATING TO THIS AGREEMENT OR ANY OF THE ANCILLARY AGREEMENTS IN ANY COURT OTHER THAN ONE LOCATED IN COOK COUNTY, ILLINOIS. BORROWER WAIVES PERSONAL SERVICE OF THE SUMMONS AND COMPLAINT, OR OTHER PROCESS OR PAPERS ISSUED IN ANY ACTION OR PROCEEDING TO ENFORCE OR DEFEND ANY MATTER ARISING FROM OR RELATED TO THIS AGREEMENT OR ANY OF THE ANCILLARY AGREEMENTS, AND AGREES THAT SERVICE OF SUCH SUMMONS AND COMPLAINT, OR OTHER PROCESS OR PAPERS MAY BE MADE BY REGISTERED OR CERTIFIED MAIL ADDRESSED TO BORROWER AT THE ADDRESS SET FORTH IN SECTION 10.10. SHOULD BORROWER FAIL TO APPEAR OR ANSWER ANY SUMMONS, COMPLAINT, PROCESS OR PAPERS SERVED WITHIN THIRTY (30) DAYS AFTER THE MAILING THEREOF, IT SHALL BE DEEMED IN DEFAULT AND AN ORDER AND/OR JUDGMENT MAY BE ENTERED AGAINST IT AS DEMANDED OR PRAYED FOR IN SUCH SUMMONS, COMPLAINT, PROCESS OR PAPERS. NOTHING IN THIS PARAGRAPH SHALL AFFECT OR IMPAIR LENDER'S RIGHT TO SERVE LEGAL PROCESS IN ANY MANNER PERMITTED BY LAW OR LENDER'S RIGHT TO BRING ANY ACTION OR PROCEEDING AGAINST BORROWER OR ITS PROPERTY IN THE COURTS OF ANY OTHER JURISDICTION. 17 18 10.10 NOTICE. Except as otherwise provided herein, any notice required hereunder shall be in writing and shall be deemed to have been validly served, given or delivered upon receipt if sent by commercial overnight courier service, personal delivery, telecopy or United States certified or registered mail, with proper postage prepaid, addressed to the party to be notified as follows: (a) If to Lender, at: Transcap Manufacturing Services, Inc. 900 Skokie Blvd. Northbrook, Illinois 60062 Attn: Michael Sear Telecopy No. 847-753-9090 with a copy to: Schoenberg, Fisher, Newman & Rosenberg, Ltd. 222 South Riverside Plaza Chicago, Illinois 60606 Attn: Leonard J. Gambino Telecopy No. (312) 648-1212 (b) If to Borrower, at: BAM! Entertainment, Inc. 720 Montford Avenue San Jose, California 95113 Attn: Ray Musci Telecopy No. ________ or to such other address as each party may designate for itself by like notice. 10.11 CONDITIONS PRECEDENT. As conditions precedent to the obligations of the Lender hereunder and under any Ancillary Agreement, (i) Lender shall have received from certain of Borrower's Affiliates a Guaranty in form and substance satisfactory to Lender, (ii) Lender shall have received from Borrower's counsel a legal opinion in form and substance satisfactory to Lender, and (iii) Borrower shall have issued to an affiliate of Lender a Warrant for the purchase of ________ shares of the common stock of Borrower at an exercise price of $________ per shares, which Warrant shall contain such other terms as are acceptable to Lender. 18 19 IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be executed and delivered as of the day and year first above written. TRANSCAP MANUFACTURING SERVICES INC. By: ______________________________ Michael Sear, Executive Vice President, BAM! ENTERTAINMENT, INC. By: ______________________________ Name: ______________________________ Title: ______________________________ 19 20 EXHIBIT A EXISTING PERMITTED LIENS 20 21 EXHIBIT B ASSIGNMENT SCHEDULE OF ACCOUNTS [BORROWER] [ADDRESS] [ADDRESS] Assignment Number: _____________ Date: _____________ To: Transcap Manufacturing Services, Inc. We hereby deliver to you the following: Duplicate invoices numbered as listed on the attached schedule. Reference is made to the Purchase of Accounts and Security Agreement between Transcap Manufacturing Services, Inc. ("Lender") and us, as the same may be in effect from time to time, including any amendments, supplements, modifications, extensions and renewals thereof ("Agreement"). For value received, the receipt and sufficiency of which is hereby acknowledged, we have sold, assigned, transferred and set over and do hereby sell, assign, transfer, and set over to the Lender, its successors and assigns, all of our right title and interest in and to and the attached invoices, all of which constitute Accounts (as defined in the Agreement). We further confirm that in respect of such Accounts (i) the representations and warranties made by us in the Agreement are true and correct to the same extent as if said representations and warranties were made herein on and as of the date hereof; and (ii) our rights and obligations and those of the Lender shall be subject to the terms and provisions of the Agreement. Total amount of Invoices attached $________________ [BORROWER] By: ______________________________ Title: ______________________________ 21 22 EXHIBIT C LITIGATION 22 23 EXHIBIT D PERMITTED INDEBTEDNESS 23 EX-23.1 12 v72115a2ex23-1.txt EXHIBIT 23.1 1 EXHIBIT 23.1 INDEPENDENT AUDITORS' CONSENT To the Board of Directors and Stockholders of BAM! Entertainment, Inc. We consent to the use in this Amendment No. 2 to Registration Statement No. 333-62436 of BAM! Entertainment, Inc. of our report dated August 15, 2001 (August 31, 2001 as to the last two paragraphs of Note 15), appearing in the Prospectus, which is a part of such Registration Statement, and of our report dated August 15, 2001 relating to the consolidated financial statement schedule appearing elsewhere in such Registration Statement. We also consent to the reference to us under the heading "Experts" in such Prospectus. DELOITTE & TOUCHE LLP San Jose, California August 31, 2001 -----END PRIVACY-ENHANCED MESSAGE-----