-----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, Ey2j+0IWEw1Q2BjcBznOfmlAUkyz+iglUO9Ly+QVkGaCYrFXRN8Gtc+VCw7mLMaV uF1fMLccSSkzQVWmDN+1tw== 0000897101-98-000381.txt : 19980401 0000897101-98-000381.hdr.sgml : 19980401 ACCESSION NUMBER: 0000897101-98-000381 CONFORMED SUBMISSION TYPE: 10KSB40 PUBLIC DOCUMENT COUNT: 8 CONFORMED PERIOD OF REPORT: 19971231 FILED AS OF DATE: 19980331 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: CHILDRENS BROADCASTING CORP CENTRAL INDEX KEY: 0000882160 STANDARD INDUSTRIAL CLASSIFICATION: RADIO BROADCASTING STATIONS [4832] IRS NUMBER: 411663712 STATE OF INCORPORATION: MN FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10KSB40 SEC ACT: SEC FILE NUMBER: 000-21534 FILM NUMBER: 98583462 BUSINESS ADDRESS: STREET 1: 724 1ST ST N STREET 2: 4TH FLOOR CITY: MINNEAPOLIS STATE: MN ZIP: 55401 BUSINESS PHONE: 6123383300 MAIL ADDRESS: STREET 1: 724 FIRST STREET NORTH STREET 2: FOURTH FLOOR CITY: MINNEAPOLIS STATE: MN ZIP: 55401 10KSB40 1 SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------- FORM 10-KSB |X| ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 1997 |_| TRANSACTION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 COMMISSION FILE NUMBER 0-21534 CHILDREN'S BROADCASTING CORPORATION (Name of Small Business Issuer in Its Charter) MINNESOTA 41-1663712 (State or Other Jurisdiction of (I.R.S. Employer Incorporation or Organization) Identification No.) 724 FIRST STREET NORTH, MINNEAPOLIS, MINNESOTA 55401 (Address of Principal Executive Offices, including Zip Code) (612) 338-3300 (Issuer's Telephone Number, including Area Code) SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: COMMON STOCK ($.02 PAR VALUE) (Title of Class) Check whether the issuer: (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes |X| No |_| Check if there is no disclosure of delinquent filers in response to Item 405 of Regulation S-B contained in this form, and no disclosure will be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-KSB or any amendment to this Form 10-KSB. |X| The issuer's revenues for its most recent fiscal year were $5,854,441. The aggregate market value of the voting stock held by non-affiliates of the issuer as of March 9, 1998 was approximately $19,176,854. The number of shares of the common stock of the issuer outstanding as of March 9, 1998 was 6,649,865. DOCUMENTS INCORPORATED BY REFERENCE None. TABLE OF CONTENTS Page PART I ......................................................................1 ITEM 1 DESCRIPTION OF BUSINESS...............................................1 ITEM 2 DESCRIPTION OF PROPERTY...............................................5 ITEM 3 LEGAL PROCEEDINGS.....................................................5 ITEM 4 SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS...................6 PART II ......................................................................7 ITEM 5 MARKET FOR COMMON EQUITY AND RELATED SHAREHOLDER MATTERS..............7 ITEM 6 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.................................................9 ITEM 7 FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA..........................17 ITEM 8 CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.................................................51 PART III .....................................................................52 ITEM 9 DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT....................52 ITEM 10 EXECUTIVE COMPENSATION...............................................54 ITEM 11 SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.......56 ITEM 12 CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.......................58 ITEM 13 EXHIBITS, LIST AND REPORTS ON FORM 8-K...............................59 SIGNATURES....................................................................62 EXHIBIT INDEX.................................................................63 SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 Certain statements under the captions "Description of Business," "Legal Proceedings," "Market for Common Equity and Related Shareholder Matters," "Management's Discussion and Analysis of Financial Condition and Results of Operations," and elsewhere in this Form 10-KSB constitute "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements may be identified by the use of terminology such as "may," "will," "expect," "anticipate," "estimate," "should," or "continue" or the negative thereof or other variations thereon or comparable terminology. Such forward-looking statements are subject to certain risks and uncertainties that could cause actual results to differ materially from historical results or from those results presently anticipated or projected. Such factors are set forth under the caption "Management's Discussion and Analysis of Financial Condition and Results of Operations - Cautionary Statements." PART I ITEM 1 DESCRIPTION OF BUSINESS GENERAL OVERVIEW Children's Broadcasting Corporation (the "Company") formerly broadcast 24-hour children's radio programming, known as Aahs World Radio(sm)*, via satellite to markets representing approximately 40% of the U.S. population. Pursuant to its former growth strategy, the Company acquired AM radio broadcast licenses ("RBLs") in 14 U.S. markets. Notwithstanding the growth of the Company's network, the Company's network operations and revenue from owned and operated stations was below levels needed to offset operating expenses. On November 3, 1997, the Company announced that it would terminate its network affiliation agreements and cease distributing its full-time Aahs World Radio programming format effective January 30, 1998. The primary sources of the Company's revenue, prior to the discontinuation of Aahs World Radio, were from the sale of local advertising and air time and network revenue. Concurrent with the announcement of the termination of network affiliation agreements and the cessation of full-time network programming, the Company began to effect certain reductions in its workforce related to the operation of the network. It is the Company's intention to continue to operate the radio stations formerly broadcasting Aahs World Radio, spending the minimum required to preserve the value of the RBLs. The Company does not anticipate any revenue from continued operation of such stations. In June 1997, the Company received an unsolicited offer from Global Broadcasting Company, Inc. ("Global") to purchase all of the Company's owned and operated radio stations for $72.5 million in cash. The Board of Directors unanimously approved the sale of assets, subject to shareholder approval, which was obtained in January 1998. On January 27, 1998, the Company announced that Global had failed to close on the purchase of the Company's radio stations within the time provided under the purchase agreement between the parties. The Company's strategy is to sell its radio stations and, pursuant thereto, it engaged Star Media Group, Inc. to act as a broker in connection with the sale of its stations. Any sale of stations will be subject to various contingencies, including reaching definitive agreements, regulatory approvals, shareholder approval and customary closing conditions. The Company believes that opportunities exist to profitably utilize the Aahs World Radio intellectual property and brand, as well as the expertise gained in the development of children's radio programming. The Company plans to retain members of the Aahs World Radio creative staff and intends to develop other programming products, including syndicated radio programs. To that end the Company recently established a new division, CBC Media, which is in the process of developing programs for network syndication. The Company may reexamine its strategy regarding the continued production of radio programming and may decide to sell, or discontinue, such operations depending upon its assessment of the prospects for profitability of such products. The Company intends to pursue to its conclusion the litigation against ABC Radio Networks, Inc. ("ABC Radio") and The Walt Disney Company (collectively, "ABC/Disney"). Personnel and financial resources will be used to this end. See "Legal Proceedings." The Company was incorporated under the Minnesota Business Corporation Act on February 7, 1990. All references to the Company herein include its subsidiaries, unless otherwise noted. The Company's executive office is located at 724 First Street North, Fourth Floor, Minneapolis, Minnesota 55401, and its telephone number is (612) 338-3300. Its World Wide Web site address is: www.netradioaahs.net. * The Company has filed for registration of its Aahs World Radio service mark. STRATEGY TO EXPLORE OTHER MEDIA OPPORTUNITIES In addition to utilizing network intangibles, the Company has begun to diversify into other media, entertainment and advertising-related businesses. During 1997, the Company acquired a minority ownership interest in Harmony Holdings, Inc. ("Harmony"). The Company may determine to increase its 42.4% beneficial ownership position in Harmony should an opportunity exist at a price favorable to the Company. Harmony produces television commercials, music videos and related media. Harmony's services are usually directed towards advertising agencies located in the major markets of New York, Los Angeles, Chicago, Detroit, Dallas and San Francisco as well as regional markets. The Company intends to seek to further diversify through acquisition of media, entertainment or advertising-related business. Further, the Company has not foreclosed the possibility of buying other radio stations in the future. Pending any such acquisitions, the proceeds from any sale of stations will be invested in investment-grade, short-term, interest-bearing securities and the Company will rely on the interest income generated thereby. Such interest income may be insufficient to meet the Company's operating expenses. RADIO STATION ASSETS The Company owned the following radio stations as of December 31, 1997: OWNED AND OPERATED RADIO STATIONS METRO RANK(1) FREQUENCY LICENSE TERM - --------------------------------------- ------------- --------- ------------ New York, NY (WJDM(AM))(2)............. 1 1660 N/A New York, NY (WJDM(AM))(3)............. 1 1530 06/01/98 Los Angeles, CA (KPLS(AM))............. 2 830 12/01/05 Chicago, IL (WAUR(AM))................. 3 930 12/01/04 Philadelphia, PA (WPWA(AM))............ 4 1590 08/01/98 Detroit, MI (WCAR(AM))................. 6 1090 10/01/04 Dallas/Fort Worth, TX (KAHZ(AM))....... 7 1360 08/01/05 Houston, TX (KTEK(AM))................. 11 1110 08/01/05 Minneapolis, MN (WWTC(AM))............. 16 1280 04/01/05 Minneapolis, MN (KYCR(AM))............. 16 1570 04/01/05 Phoenix, AZ (KIDR(AM))................. 20 740 06/01/05 Denver, CO (KKYD(AM)).................. 23 1340 04/01/05 Kansas City, KS (KCNW(AM))............. 27 1380 06/01/05 Milwaukee, WI (WZER(AM))............... 31 540 12/01/04 - -------------------- (1) Source: BIA - Investing in Radio - Market Report - 1995 - Spring. Rankings based on total population attributable to given metropolitan area. The signal of any listed station may not cover households in certain portions of the market. (2) This station operates on an Expanded Band frequency pursuant to a construction permit issued by the Federal Communications Commission ("FCC"). (3) This station is programmed by a third party pursuant to a Local Programming and Marketing Agreement ("LMA") which continues through May 2001. REGULATION FCC REGULATION Radio stations are subject to the jurisdiction of the FCC under the Communications Act of 1934 (the "Communications Act"), which empowers the FCC to issue, renew, revoke and modify broadcasting licenses, approve transfers of licenses, regulate the apparatus used by stations, establish areas served by particular stations, assign frequencies, consider concentrations of broadcast control, adopt such regulations as may be necessary to carry out the provisions of the Communications Act and impose penalties for violations of such regulations, including forfeiture of licenses. The Telecommunications Act of 1996 (the "1996 Act") eliminated the limit upon the number of stations that can be under common ownership or control nationally. Local ownership was substantially relaxed according to market size (which will continue to be measured by commercial contour overlap) to permit the following: (1) in markets of 14 or fewer stations: up to 5 total (but no more than half of the stations in the market) and no more than 3 in the same service (AM or FM); (2) 15 to 29 stations: up to 6 total, 4 in the same service; (3) 30 to 44 stations: up to 7 total, 4 in the same service; and (4) over 45 stations: up to 8 total, 5 in the same service. The 1996 Act authorized the FCC to override these limits if it determines that the result would be an increase in the number of stations in operation. The 1996 Act also made changes to the licensing scheme for radio stations. Radio standard license terms were extended to 8 years, subject to short-term renewal sanctions where appropriate. A license terminates automatically if a station is silent for one year. The 1996 Act also provided that a station license renewal application must be granted if the FCC finds (a) that the station has served the public interest, (b) the licensee has not committed any serious violations of the 1996 Act or FCC rules, and (c) other violations of the Communications Act or rules, taken together, would not constitute a pattern of abuse. Only if the standards are not met, and renewal is denied after a formal hearing, may the FCC accept other applications for the forfeited facilities. Under the FCC's attribution rules, interests of parties who have an attributable interest in the Company are counted among the Company's interests in the application of the multiple ownership rules. The FCC requires the attribution of RBLs held by a broadcasting company to its officers, directors and certain holders of its voting securities. Under FCC rules, with certain exceptions, attribution of RBLs occurs when any five percent voting shareholder or officer or director of a broadcasting company directly or indirectly owns, operates, controls or has a five percent voting interest in or is an officer or director of any other broadcasting company. Christopher T. Dahl, Richard W. Perkins and Russell Cowles II hold ownership interests, directorships and/or offices in the Company and in Community Airwaves Corporation ("CAC") which holds RBLs. Consequently, the RBLs of all companies in which they have attributable interests are aggregated for the purposes of calculating the limitations imposed by the application of the multiple ownership rules. Such ownership could, under current FCC regulations, limit the markets in which the Company could acquire additional RBLs. In October 1997, the FCC granted two 12.5 MHZ nationwide licenses for the SDARS spectrum in the 2320-2345 band, which is proposed to be used to provide CD-quality nationwide radio service. In July 1997, the FCC began issuing a total of 128 licenses in the Wireless Communications Service, of 5 MHZ each in 12 Regional Economic Area Groupings and 10 MHZ each in 52 Major Economic Areas, in the 2305-2320 and 2345-2350 MHZ bands, which may be used for a variety of purposes, including SDARS, at the licensee's option; however, a forum has been established to consider a variety of uses other than SDARS for the Wireless Communications Service, such as wireless local loop service and high-speed data delivery. The Company is unable to predict the effect, if any, that SDARS may have on its future operations. The FCC's technical limitations and interference standards determine the number of stations that can be granted licenses. In making initial licensing determinations and in reviewing applications for renewal or transfer of existing licenses under the Communications Act, the FCC considers a number of factors relating to the applicant and each party having an attributable interest in the applicant in order to make a judgment as to whether or not the public interest, convenience and necessity will be served by granting or renewing the application. These factors include financial and character qualifications, employment practices, past record of public service programming and past record of compliance with FCC regulations. The FCC also restricts ownership interests in broadcast stations by a corporation of which more than 20% of its capital stock is owned or voted by aliens or their representatives or by any corporation organized under the laws of a foreign company. The FCC has deregulated many aspects of the radio industry. The FCC has eliminated or reduced its regulation of radio with regard to licensee responsibilities for the ascertainment of community needs, non-entertainment programming standards, commercial advertising limitations and the recording of certain informational items on a programming log. Several aspects of the FCC's regulatory system (for example, equal time requirements and equal employment opportunity requirements) remain unaffected by these actions. Even though the FCC has eliminated certain programming guidelines, it continues to monitor radio and television stations to ensure that programming is responsive to the issues confronting a licensee's community. However, licensees are afforded substantial discretion in making programming determinations. RBLs are granted for a maximum term of eight years and are subject to renewal upon application to the FCC. Petitions to deny license renewals by which various issues may be raised before the FCC, can be filed by interested parties, including members of the public, and the FCC may itself determine to conduct a hearing in the absence of a formal request by other parties. The FCC is required to hold hearings on renewal applications if it is unable to determine that renewal of a license would serve the public interest, convenience and necessity or if a substantial and material question of fact is raised in the renewal application. In recent years, a number of competing applications and formal and informal objections have been filed with respect to broadcast renewal applications. However, the vast majority of all license renewal applications filed with the FCC on behalf of radio stations throughout the country are granted for the maximum statutory term. The foregoing is only a brief summary of certain provisions of the Communications Act, the 1996 Act and the regulations of the FCC. Reference is made to the Communications Act, the 1996 Act, FCC regulations and the public notices promulgated by the FCC for further information. Legislation has been introduced from time to time which would amend the Communication Act in various respects and the FCC from time to time considers new regulations or amendments to its existing regulations. The Company cannot predict whether any such legislation will be enacted or new or amended FCC regulations adopted or what their effect would be on the Company. TRADEMARKS, SERVICE MARKS AND COPYRIGHTS The Company claims trademark and service mark rights to and ownership in a number of marks including, but not limited to, RADIO AAHS(R), RADIO AAHS(R) (words plus design of unicorn), CHILDREN'S SATELLITE NETWORK(TM), ALL THE GOOD STUFF RADIO DOES(R), THE ALL-AMERICAN ALARM CLOCK(R), ALPHABET SOUP(R), GREAT MUSIC FOR GREAT KIDS(R), JUST KIDS(R), RADIO AAHS AIRFORCE(R), THE EDUCATIONAL, SENSATIONAL RADIO AAHS(R), AAHS(TM), AAHSIE(TM), AVENUE 'A'(SM), FASCINATING FACTS(SM), THE FUN AND ONLY(TM), NEWS AAHS IT WAS(SM), PLANET AAHS RECORDS(R), PLAYING ALL DAY WITH RADIO AAHS(TM), RADIO AAHS(TM) (with new logo design), KA'ZOO(TM), RADIO AAHS(R) COUNTDOWN, STORYTIME THEATER(TM), AAHS WORLD RADIO(SM), and AAHS WORLD RADIO AIRFORCE(TM). EMPLOYEES The Company had 219 employees, 70 of whom were full-time, at the end of its last fiscal year. The Company terminated its network affiliation agreements and ceased distributing its full-time Aahs World Radio programming effective January 30, 1998. As a result, the Company effected certain reductions in its workforce related to the operation of the network. As of March 9, 1998, the Company had 95 employees, 48 of whom were full-time. The services of the Chief Operating Officer/Chief Financial Officer and the General Counsel are rendered by James G. Gilbertson and Lance W. Riley, respectively, on a shared basis with CAC. Executive officers of the Company and certain other corporate employees are employed by Radio Management Corporation ("RMC") and their services are provided to the Company and CAC under contract for a fee. None of the Company's employees are represented by unions. The Company believes its relations with employees are satisfactory. ITEM 2 DESCRIPTION OF PROPERTY The Company's executive offices are located at 724 First Street North, Fourth Floor, Minneapolis, Minnesota. The facility consists of approximately 3,000 square feet and is shared with RMC and CAC, both of which are owned by Messrs. Dahl, Perkins and Cowles. The facilities are leased from a partnership consisting of Messrs. Dahl, Perkins and a shareholder of the Company at an annual rent of $54,000 for a term of five years through December 2001. The studios and tower site of WWTC(AM) and KYCR(AM) are located in St. Louis Park, Minnesota. The studio facility consists of approximately 12,000 square feet. The tower site includes four 200-foot towers, a transmitter building and a storage garage on approximately 16 acres. The tower site is leased from Mr. Dahl at a total annual rent of approximately $114,000 for a term of five years through October 2001, and the studio site is leased from a partnership consisting of Messrs. Dahl and Perkins at an annual rent of approximately $132,000 for a term of five years through October 2001. The Company currently leases studio facilities in the following markets, for the purpose of housing certain of its radio stations, upon the general terms set forth below. The Los Angeles studio facility consists of approximately 3,400 square feet. The facility is leased at an annual rent of $36,000 for a term of three years ending August 1999. The New York studio facility in Elizabeth, New Jersey, consists of approximately 1,700 square feet. The facility is leased at a monthly rent of $1,675 on a month-to-month basis. The Company also leases an office facility in New York City which consists of approximately 1,200 square feet and is leased at an annual rent of $42,000 for a term of five years ending April 2002. The Dallas/Fort Worth studio facility consists of approximately 2,000 square feet. The facility is leased at an annual rent of $37,000 for a term of five years ending May 1998. The Houston studio facility consists of approximately 2,700 square feet. The facility is leased at an annual rent of $29,700 for a term of five years ending July 2001. The Milwaukee studio facility consists of approximately 2,400 square feet. The facility is leased at an annual rent of $21,360 for a term of five years ending November 1999. The Chicago studio facility consists of approximately 1,000 square feet. The facility is leased at a monthly rent of $1,400 for a term of three years ending March 2000. The Phoenix studio facility consists of approximately 1,000 square feet. The facility is leased at a monthly rent of $1,140 for a term of three years ending June 2000. The Company currently leases broadcast tower sites in the following markets, for the purpose of transmitting its broadcast signals, upon the general terms set forth below. The Los Angeles tower site is leased at an annual rent of approximately $44,400 for a term of nine years ending October 1999. The New York 1530 frequency tower site is leased at an annual rent of $5,200 for a term of 15 years ending March 2000. The New York Expanded Band frequency tower site is leased at an annual rent of $27,000 for a term of 15 years ending December 2012. The Milwaukee tower site is leased at an annual rent of $2,100 for a term of five years ending February 2000. The Chicago tower site is leased at an annual rent of $18,000 for a term of ten years ending December 2006. ITEM 3 LEGAL PROCEEDINGS The Company's former business strategy was to derive revenue from the sale of network advertising time to national advertisers and from local advertising sales from Company-owned or operated stations. The Company's strategy, in entering into an operations agreement with ABC Radio, was to use the resources and reputation of ABC Radio to market Aahs World Radio, attract national advertising and further build the Company's network through affiliations. The Company sought out and developed strategic relationships in order to enhance and reinforce its brand, and to allow the Company to explore business opportunities at minimal cost to it and without detracting from management's focus upon the Company's core business. In 1995, the Company developed such a relationship with ABC Radio, pursuant to which ABC Radio agreed, through representations and agreements, that ABC Radio would commit its affiliate development and national advertising sales staffs and other resources to assist and augment the Company's efforts to market the Aahs World Radio format to broadcasters and advertisers. Throughout the course of its relationship with ABC Radio, the Company disclosed significant confidential proprietary business information to ABC/Disney. In June 1996, ABC Radio announced to the Company that ABC Radio was terminating its relationship with the Company and that ABC Radio would join with Disney to immediately commence competing directly with the Company in the field of children's radio broadcasting. ABC/Disney thereupon rolled out its Radio Disney programming at several locations throughout the country. The Company filed a lawsuit in the fall of 1996 with the United States District Court for the District of Minnesota against ABC/Disney. The suit seeks injunctive relief and to recover substantial monetary damages based on alleged wrongful conduct by ABC/Disney, including acts and omissions of fraud, business interference, breach of contractual and fiduciary obligations and misappropriation of the Company's confidential and proprietary business information, trade secrets and business opportunities. In September 1997, ABC Radio asserted its own counterclaim for breach of contractual obligations, seeking to recover an unspecified amount of damages said only "to exceed $75,000.00" for an alleged failure by the Company to pay certain commissions and fees allegedly earned during the course of the parties' relationship. The Company denies ABC Radio's counterclaim in all respects, and has moved to have the counterclaim dismissed as untimely. The ABC/Disney suit is likely to proceed to trial in 1998. Except as described above, the Company is not a party to any material proceedings. From time to time the Company is a party to litigation which is incidental to its business, including administrative proceedings before the FCC in connection with the licensing of radio stations. ITEM 4 SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matter was submitted to a vote of security holders through the solicitation of proxies or otherwise during the fourth quarter of the Company's most recently completed fiscal year. EXECUTIVE OFFICERS OF THE REGISTRANT The following table provides information with respect to the Company's executive officers as of March 18, 1998. Each executive officer has been appointed to serve until his or her successor is duly appointed by the Board of Directors or his or her earlier removal or resignation from office. See "Directors; Executive Officers, Promoters and Control Persons; Compliance with Section 16(a) of the Exchange Act." NAME AGE POSITION - ---- --- -------- Christopher T. Dahl 54 Chairman of the Board, President and Chief Executive Officer James G. Gilbertson 36 Chief Operating Officer, Chief Financial Officer and Treasurer Lance W. Riley 47 Secretary and General Counsel Gary W. Landis 44 Executive Vice President of Programming Barbara A. McMahon 42 Executive Vice President of Affiliate Relations Rick E. Smith 36 Executive Vice President of National Sales PART II ITEM 5 MARKET FOR COMMON EQUITY AND RELATED SHAREHOLDER MATTERS The Common Stock of the Company has been included in the Nasdaq National Market under the symbol "AAHS" since February 1996, on the Nasdaq SmallCap Market since May 1993 and on the over-the-counter Bulletin Board from the completion of the Company's public offering in 1992 until that time. The following table sets forth the approximate high and low closing prices for the Common Stock for the periods indicated as reported by the Nasdaq National Market. Share prices have been adjusted to reflect the Company's one-for-two reverse stock split (share combination) effected on January 23, 1996. Such quotations reflect inter-dealer prices, without retail mark-up, mark-down or commission and may not represent actual transactions. PERIOD HIGH LOW ------ ---- --- 1996 First Quarter..................... $ 13 3/8 $ 8 1/2 Second Quarter.................... 10 3/8 7 Third Quarter..................... 7 7/8 5 1/4 Fourth Quarter.................... 5 5/8 3 1/4 1997 First Quarter..................... $ 6 5/8 $ 3 1/4 Second Quarter.................... 5 7/8 3 3/16 Third Quarter..................... 5 1/16 3 3/8 Fourth Quarter.................... 4 5/8 3 5/16 As of March 18, 1998, the Company had 505 shareholders of record and approximately 2,526 beneficial owners. The Company has never declared or paid any cash dividends on its Common Stock and does not intend to declare or pay cash dividends on its Common Stock in the foreseeable future. The Company presently expects to retain its earnings to finance its business. The declaration or payment by the Company of dividends, if any, on its Common Stock in the future is subject to the discretion of the Board of Directors and will depend on the Company's earnings, financial condition, capital requirements and other relevant factors. The declaration or payment by the Company of dividends is also subject to the Company's credit agreement with Foothill Capital Corporation ("Foothill"). Without Foothill's prior written consent, the Company cannot declare or pay any cash dividends. SALES OF UNREGISTERED SECURITIES IN 1997 The Company issued 200,000 shares of its Common Stock during 1996, to be periodically released from a trust account during 1997, to Hessian & McKasy, P.A. (f/k/a Hessian, McKasy & Soderberg, P.A.), its litigation counsel in connection with the ABC/Disney suit. All of such shares were released during 1997. On January 23, 1997, the Company issued 82,051 shares of its Common Stock to Oklahoma Sports Properties, Inc., an unrelated third party. This issuance was made in connection with the asset purchase agreement pursuant to which the Company was to acquire the RBL of radio station KMUS(AM), Muskogee, Oklahoma. As of March 15, 1998, the acquisition of such RBL had not been consummated. On February 24, 1997, the Company issued 65,377 shares of its Common Stock to Nelson Broadcasting, Inc., an unrelated third party. This issuance was made in connection with the asset purchase agreement pursuant to which the Company acquired the RBL of radio station WAUR(AM) in Sandwich, Illinois. On February 28, 1997, the Company issued 37,500 shares of its Common Stock to Southcoast Capital Corporation, an entity that provided broker services in connection with the Company obtaining its credit agreement with Foothill. On July 25, 1997, the Company issued a warrant, originally exercisable at $5.29 per share and subsequently repriced to $3.68 per share, for 100,000 shares of its Common Stock to Foothill. Such warrant expires November 25, 2001. This issuance was made in connection with the credit agreement with Foothill, which, through various amendments, has provided the Company with financing of $24.0 million. On September 25, 1997, the Company issued a warrant, exercisable at $3.76 per share, for 200,000 shares of its Common Stock to Foothill. This warrant also expires on November 25, 2001. This issuance was made in connection with the first amendment to the credit agreement with Foothill. On May 28, 1997, the Company issued 268,607 shares of its Common Stock to Bonneville International Corporation, an unrelated third party. This issuance was made in connection with the asset purchase agreement pursuant to which the Company acquired the RBL of radio station KIDR(AM) in Phoenix, Arizona. On July 22, 1997, the Company issued 60,000 shares of its Common Stock to Harvey Bibicoff, the former chairman of Harmony. This issuance was made in connection with the stock purchase agreement by and between the Company, Harmony and Mr. Bibicoff, pursuant to which the Company acquired 600,000 shares of common stock of Harmony, together with options to purchase 550,000 shares of common stock of Harmony at an exercise price of $1.50 per share, from Mr. Bibicoff. On July 25, 1997, the Company issued five-year warrants, exercisable at $4.00 per share, for 50,000, 50,000 and 25,000 shares of its Common Stock to Pyramid Partners, L.P., Rodney P. Burwell and William M. Toles, respectively. Pyramid Partners, L.P. is an entity whose managing partner is Perkins Capital Management, Inc. ("PCM"). PCM is an entity controlled by Mr. Perkins, a director of the Company and a director of Harmony. Mr. Burwell is a former director of the Company and Mr. Toles is a director of Harmony. These issuances were made in connection with the financing provided by such persons for the Company's purchase of shares of common stock of Harmony. Pyramid Partners, L.P., Messrs. Burwell and Toles provided the Company with $500,000, $500,000 and $250,000, respectively, for such stock purchase. All of the above issuances were made in reliance upon the exemption provided in Section 4(2) of the Securities Act of 1933, as amended (the "Act"), which provides an exemption for transactions not involving a public offering. The purchasers of the securities described above acquired them for their own accounts and not with a view to any distribution thereof to the public. At their issuance, the foregoing securities were restricted as to sale or transfer, unless registered under the Act, and certificates representing such securities contained restrictive legends stating that the securities were not to be offered, sold or transferred other than pursuant to an effective registration statement under the Act, or an exemption from such registration. In addition, the recipients of such securities received or had access to material information concerning the Company, including but not limited to the Company's reports on Form 10-KSB, Form 10-QSB and Form 8-K, as filed with the Securities and Exchange Commission (the "Commission"). No underwriting commissions or discounts were paid with respect to the issuances of the securities described above. ITEM 6 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS THIS DISCUSSION AND ANALYSIS CONTAINS CERTAIN FORWARD-LOOKING TERMINOLOGY SUCH AS "BELIEVES," "ANTICIPATES," "EXPECTS," AND "INTENDS," OR COMPARABLE TERMINOLOGY. SUCH STATEMENTS ARE SUBJECT TO CERTAIN RISKS AND UNCERTAINTIES THAT COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM THOSE PROJECTED. POTENTIAL PURCHASERS OF THE COMPANY'S SECURITIES ARE CAUTIONED NOT TO PLACE UNDUE RELIANCE ON SUCH FORWARD-LOOKING STATEMENTS WHICH ARE QUALIFIED IN THEIR ENTIRETY BY THE CAUTIONS AND RISKS DESCRIBED HEREIN. GENERAL In June 1997, Children's Broadcasting Corporation (the "Company") received an unsolicited offer from Global Broadcasting Company, Inc. ("Global") to purchase all of the Company's owned and operated radio stations for $72.5 million in cash. The Board of Directors unanimously approved the sale of assets, subject to shareholder approval, which was obtained in January 1998. On January 27, 1998, the Company announced that Global had failed to close on the purchase of the Company's radio stations within the time provided under the purchase agreement between the parties. On January 30, 1998, the Company discontinued operation of Aahs World Radio, its 24-hour children's radio programming, which it began broadcasting by satellite in late 1992. The primary sources of the Company's broadcast revenue, prior to the discontinuation of Aahs World Radio, were from the sale of local advertising and air time and network revenue. The cessation of such broadcasting will negatively impact the Company's broadcast revenue. The Company's strategy is to sell its radio stations and, pursuant thereto, it engaged Star Media Group, Inc. to act as a broker in connection with the sale of its stations. Any sale of stations will be subject to various contingencies, including reaching definitive agreements, regulatory approvals, shareholder approval and customary closing conditions. There can be no assurance that the Company will be successful in obtaining satisfactory offers to purchase any of its stations or that shareholder approval for the sale of substantially all of the Company's assets will be obtained. If the Company is unable to consummate the sale of any of its stations and additional financing is not available, it will be forced to liquidate. Radio stations frequently barter unsold advertising time for products or services, such as hotels, restaurants and other goods used primarily for promotional, sales and other business activities. Barter revenues and expenses are included in the financial presentation below. The revenue and expenses related to barter do not have a material effect on the Company's operating results in any given period. In connection with their audit reports on the Company's financial statements as of and for the years ended December 31, 1997 and 1996, BDO Seidman, LLP, the Company's independent auditors, expressed substantial doubt about the Company's ability to continue as a going concern because of its recurring losses, negative working capital and negative cash flow from operations. RESULTS OF OPERATIONS FOR YEAR ENDED DECEMBER 31, 1997 COMPARED TO YEAR ENDED DECEMBER 31, 1996 REVENUE: Owned, Operated and LMA Station Revenues: Total revenues from the Company's owned and operated stations, as well as stations covered by Local Programming and Marketing Agreements ("LMAs"), increased $81,000 from $4,061,000 in 1996 to $4,142,000 in 1997. Barter revenues increased $16,000 while non-barter revenues increased $65,000. Non-barter revenue increased $624,000 from stations acquired during 1996 and 1997 while non-barter revenues at previously existing stations decreased $559,000. Network Revenues: Total revenues of $1,712,000 were produced by the network in 1997, an increase of $118,000 or 7% over 1996 revenues. This increase in network revenues was due in part to the rehiring of a national sales staff after the cancellation of the joint operations agreement with ABC Radio, Inc. ("ABC Radio") and The Walt Disney Company (collectively, "ABC/Disney") in the last half of 1996. Although the Company increased its national market coverage throughout 1997, the Company subsequently ceased distribution of its full-time Aahs World Radio programming format at the end of January 1998. OPERATING EXPENSES: Owned, Operated and LMA Station Expenses: General and administrative expenses increased 26% to $3,132,000 for 1997 from $2,493,000 in 1996. This increase was due to the addition of the Detroit and New York stations in June 1996, the Philadelphia station in October 1996, and the Chicago and Phoenix stations in 1997. Technical and programming expenses increased $161,000 in 1997 from $969,000 in 1996 to $1,130,000. This increase was also due to the additions of three stations during 1996 and two stations in 1997. Sales expenses decreased from $1,575,000 in 1996 to $1,465,000 in 1997, a decrease of 7%. Sales personnel compensation decreased $294,000 due to the elimination of members of the Company's sales staff in anticipation of the sale of its stations to Global. Sales advertising expense increased $129,000 and barter expenses increased $55,000 in order to fulfill contracts with various advertising clients. Network Expenses: General and administrative expenses decreased $328,000 in 1997 to $557,000 as compared to $885,000 for 1996 due to the elimination of $225,000 in expense related to the joint operations agreement with ABC/Disney which has since been terminated, the reduction of bad debt expense by $78,000, and the reduction of property and casualty insurance of $25,000. Programming expenses decreased $5,000 in 1997 due to a decrease in line charges and programming materials of $59,000 and an increase in salaries, talent fees, and outside news of $54,000. Sales expenses increased 52% from $1,106,000 in 1996 to $1,678,000 in 1997. These sales expenses relate to both advertising sales and affiliate relations sales. Expenses increased as the Company rebuilt its advertising sales staff, providing supplemental training and increasing travel. Additionally, in the last quarter of 1996, the network implemented a sales development team to assist the newly acquired owned and operated stations in their sales efforts. Marketing expenses decreased $255,000 or 49% during 1997. Activities in this category included advertising, research, television spot production and promotion. Many of these activities were put on hold in anticipation of the sale of the Company's stations to Global. Corporate charges were $6,013,000 in 1997 compared to $2,774,000 in 1996, representing an increase of 117%. This increase is attributable to an increase in outside service fees including legal and accounting fees related to stock, trademark, employee matters, SEC filings and audits, as well as $150,000 of management fees. Additionally, the Company incurred $2,836,000 of expenses relating to the ABC/Disney litigation. Such litigation is anticipated to continue to utilize the Company's working capital. The Company issued 200,000 shares of its Common Stock during 1996, to be periodically released from a trust account during 1997, to its litigation counsel in connection with this litigation. The Company also registered such shares for resale, and as of December 31, 1997, all such shares had been sold by the litigation counsel to satisfy $833,000 of this expense. Depreciation, amortization and the write-off of deferred expenses of $2,137,000 in 1997 was $1,652,000 or 44% lower than in 1996. No amortization of deferred expenses was recorded in 1997 due to the cancellation of the ABC/Disney warrant, the value of which had been amortized and written off during the first half of 1996. Depreciation and amortization expense, exclusive of the ABC/Disney warrant, increased $636,000 in 1997 due to the acquisition of AM radio broadcast licenses ("RBLs") and certain other assets during 1996 and 1997. Net interest expense for the year increased $2,167,000 as a result of the additional interest incurred related to the financing provided in 1997 by Foothill Capital Corporation ("Foothill"). The net loss increased 48% in 1997 to $14,588,000 from $9,868,000 in 1996. LIQUIDITY AND CAPITAL RESOURCES The Company's liquidity, as measured by its working capital, was a deficit of $25,706,000 at December 31, 1997 compared to a deficit of $5,489,000 at December 31, 1996. A portion of the Company's negative net working capital position for 1997 was the result of the reclassification of the long-term portion of the Foothill term loan as the Company has historically not met certain restrictive financial covenants contained in its credit agreement with Foothill. The failure to meet these covenants was principally due to the Company's continued operating losses. Foothill has waived its rights pursuant to these violations through December 31, 1997. Pursuant to generally accepted accounting principles (EITF No. 86-30), if similar restrictive covenants must be met at future interim periods, the debt must continue to be classified as current unless it is probable that the Company will satisfy the covenants in the future or Foothill agrees to waive its rights to such potential future covenant violations. Foothill would not provide the Company with such a waiver and accordingly, the principal balances outstanding at December 31, 1997, aggregating $22,500,000, have been entirely classified as current obligations, even though $12,000,000 of this amount is not scheduled to be repaid until after December 31, 1998. The Company experienced a cash working capital loss of $2,825,000 during 1997. The Company has entered into an agreement with a broker in connection with the sale of its radio stations. While the sale by the Company of some or all of its stations is expected to adversely impact future broadcast revenue, the Company has implemented plans to decrease its expenses to offset a loss of revenue. Additionally, the Company ceased producing and distributing its full-time Aahs World Radio programming format as of January 30, 1998. Concurrent with the announcement of this termination of network programming, the Company initiated certain reductions in its workforce related to the operation of the network. In January 1998, the Company received proceeds totaling $611,000 and paid debt issue costs of $39,000 through the issuance of a note payable to Harmony Holdings, Inc. ("Harmony") with a face amount of $650,000. The note payable bears interest at 15%, is unsecured and due upon demand. The Company entered into a second amendment to its credit agreement with Foothill on March 13, 1998 pursuant to which the Company obtained $1,000,000 of additional financing. In connection with this additional financing, the rate of interest payable on all of the Company's indebtedness to Foothill was adjusted to 4.75% over prime. Additionally, the Company provided Foothill with warrants to purchase 100,000 shares of its Common Stock at $3.68 per share and repriced previously issued warrants to purchase 100,000 shares of Common Stock from $5.29 per share to $3.68 per share. Principal is scheduled to be repaid during 1998 as follows: April 16, 1998 $500,000 June 30, 1998 $6,000,000 September 30, 1998 $2,000,000 December 31, 1998 $2,000,000 The sale of the Company's radio stations is expected to provide the Company with sufficient working capital to meet its cash requirements. If any such sale is delayed or does not occur, the Company believes it will need to obtain additional financing in 1998. The Company believes that the financing it received from Foothill in connection with the second amendment to the credit agreement will be sufficient to operate the Company through April 16, 1998. Because the credit agreement with Foothill requires the Company to grant liens and security interests on substantially all of its assets, the Company's ability to incur additional indebtedness in the event it does not sell one or more radio stations may be limited. If the Company is not able to obtain adequate financing or financing on acceptable terms, it could be forced to reduce or terminate its operations, curtail acquisitions or other projects, sell or lease its current assets under unfavorable circumstances, delay certain capital projects or potentially default on obligations to creditors, all of which may be materially adverse to the Company's operations and prospects. Consolidated cash was $545,000 at December 31, 1997 and $3,370,000 at December 31, 1996, a decrease of $2,825,000. Accounts receivable at December 31, 1997 decreased $309,000 from December 31, 1996. Prepaid expenses at December 31, 1997 decreased $82,000 from December 31, 1996, while other receivables increased $143,000 over the same periods. Accounts payable at December 31, 1997 increased $422,000 from December 31, 1996, accrued interest increased $241,000 from December 31, 1996 to December 31, 1997, and other accrued expenses increased $203,000 during that same period. The $9,233,000 cash used for operations was provided by the proceeds received pursuant to the credit agreement with Foothill. During 1997, $8,992,000 in cash was used for investing activities. This cash was used to purchase a RBL and certain other related assets in the Chicago market, a 42.4% beneficial ownership position in the equity of Harmony and working capital. The Company's beneficial interest in Harmony includes a put/call option (the "Harmony Option") to purchase an aggregate of 225,000 shares of common stock of Harmony from an existing investor for an aggregate of $562,500. Pursuant to the Harmony Option, the Company became obligated to purchase such shares from the investor on January 31, 1998. The Company extended its purchase obligation to March 31, 1998. At March 31, 1998, the Company did not have sufficient funds to meet its obligation under the Harmony Option and was negotiating an extension agreement with the investor. If the Company is unable to negotiate such an extension, it is likely that the investor will commence litigation against the Company to compel the purchase of the shares and/or for damages. A finding of liability against the Company could have a material adverse effect upon the Company. Cash obtained through financing activities aggregated $15,401,000 during 1997. This cash represents the proceeds received from the release of $4,000,000 subject to holdbacks of the original Foothill financing in place at December 31, 1996, an additional $10,200,000 obtained from Foothill pursuant to the first amendment to the credit agreement, the use of line of credit related to the Foothill financing, loans aggregating $1,250,000 from a limited partnership indirectly controlled by a director of the Company, another director of the Company and a shareholder of the Company to finance a portion of the purchase of equity in Harmony, and proceeds from the issuance of Common Stock, less repayment of debt. SEASONALITY AND INFLATION The Company's revenues generally follow retail sales trends, with the fall season (September through December) reflecting the highest revenues for the year, due primarily to back-to-school and holiday season retail advertising and the first quarter reflecting the lowest revenues for the year. The Company does not believe inflation has affected the results of its operations, and does not anticipate that inflation will have an impact on its future operation. IMPACT OF THE YEAR 2000 ISSUE The year 2000 issue is the result of computer programs being written using two digits rather than four to define the applicable year. Any of the Company's computer programs that have date-sensitive software may recognize a date using "00" as the year 1900 rather than the year 2000. This could result in system failure of miscalculations causing disruptions of operations, including, among other things, a temporary inability to process transactions, send invoices, or engage in similar normal business activities. Management has not completed its assessment of the effect the Year 2000 issue will have on its operations. Management's current plans include contacting its significant software vendors and obtaining a formal representation that the Company's current computer programs are Year 2000 compliant. Additionally, management will also consider the impact of the Year 2000 issue on significant third-party relationships and the potential effect on the Company's operations. As such assessment is incomplete, management does not have a reasonable basis to determine the effect the Year 2000 issue may have on its operations and can give no assurance that it will not have a material impact on its future operating results or financial condition. CAUTIONARY STATEMENT STRATEGY TO SELL RADIO STATIONS; CESSATION OF AAHS WORLD RADIO(SM); LIMITED REVENUES. In June 1997, the Company received an unsolicited offer from Global to purchase all of the Company's owned and operated radio stations for $72.5 million in cash. The Board of Directors unanimously approved the sale of assets, subject to shareholder approval, which was obtained in January 1998. On January 27, 1998, the Company announced that Global had failed to close on the purchase of the Company's radio stations within the time provided under the purchase agreement between the parties. On January 30, 1998, the Company discontinued operation of Aahs World Radio, its 24-hour children's radio programming, which it began broadcasting by satellite in late 1992. The primary sources of the Company's broadcast revenue, prior to the discontinuation of Aahs World Radio, were from the sale of local advertising and air time and network revenue. The cessation of such broadcasting will negatively impact the Company's broadcast revenue. The Company's strategy is to sell its radio stations and, pursuant thereto, it engaged Star Media Group, Inc. to act as a broker in connection with the sale of its stations. Any sale of stations will be subject to various contingencies, including reaching definitive agreements, regulatory approvals, shareholder approval and customary closing conditions. There can be no assurance that the Company will be successful in obtaining satisfactory offers to purchase any of its stations or that shareholder approval for the sale of substantially all of the Company's assets will be obtained. If the Company is unable to consummate the sale of any of its stations and additional financing is not available, it will be forced to liquidate. LIQUIDITY; SUBSTANTIAL LEVERAGE. As of December 31, 1997, the Company's consolidated indebtedness approximated 83% of the sum of its shareholders' equity and consolidated indebtedness. The Company had working capital deficits of $25.7 million and $5.5 million at December 31, 1997 and December 31, 1996, respectively. The Company entered into a credit agreement with Foothill in November 1996, most recently amended in March 1998, which has provided the Company with working capital and funding for the acquisition of both RBLs and shares of common stock of Harmony, through loan facilities aggregating $24.0 million. Such facilities mature on September 30, 2000. The Company's indebtedness to Foothill is secured by a first priority lien on substantially all of the assets of the Company and its subsidiaries. The facilities must be repaid quarterly in 11 installments of principal beginning in April 1998. Interest under the facilities is payable at the prime rate plus 4.75%. The credit agreement with Foothill contains a number of financial covenants which, among other things, require the Company to maintain specified financial ratios. Based on current interest rates, the debt service obligations associated with the credit agreement with Foothill necessitate payments of principal and interest of approximately $13.2 million in 1998. In the event that the Company should default on its obligations under the credit agreement with Foothill, all or substantially all of its assets would be at risk. There can be no assurance that the Company will be able to repay or refinance such indebtedness when due, or that the Company would be able to sell all or any portion of its assets or raise additional capital to make required payments on maturing indebtedness. An inability to make payments when due or to comply with covenants and restrictions associated with such indebtedness could give Foothill the right to foreclose on properties securing payment obligations, which would have a material adverse effect upon the Company. ADDITIONAL FINANCING REQUIREMENTS. The Company will be unable to meet its debt service obligations with Foothill and unable to fund current operations without the proceeds from the sale of one or more of its radio stations. There can be no assurance that such proceeds will be available to the Company when required, or if available, that the amount of such proceeds would be acceptable or favorable to the Company. Additional financing could require the sale of equity securities, which could result in significant dilution to the Company's shareholders. POTENTIAL INABILITY TO REFINANCE EXISTING INDEBTEDNESS. The Company's ability to repay its outstanding indebtedness at maturity may depend on its ability to refinance such indebtedness, which could be adversely affected without the proceeds from the sale of one or more of its radio stations or if the Company does not have access to capital markets for the sale of additional equity or debt through public offerings or private placements on terms reasonably satisfactory to the Company. In addition, the failure of the Company to meet its obligation under the Harmony Option could have a material adverse effect upon the Company and could threaten its ability to continue operations and successfully negotiate a sale of its radio stations. HISTORY OF OPERATING LOSSES. Since inception, the Company experienced substantial net losses as a result of its efforts to develop a national children's radio network. The Company has not generated positive cash flow sufficient to fund its ongoing operations and has had frequent working capital shortages. For the two years ended December 31, 1997 and 1996, the Company incurred net losses of $14.6 million and $9.9 million, respectively. Despite the discontinuation of Aahs World Radio, the Company expects to continue to incur operating losses throughout 1998. In connection with their audit reports on the Company's financial statements as of and for the years ended December 31, 1997 and 1996, BDO Seidman, LLP, the Company's independent auditors, expressed substantial doubt about the Company's ability to continue as a going concern because of its recurring losses, negative working capital and negative cash flow from operations. As of December 31, 1997, the Company had an accumulated deficit of $40.9 million and had used approximately $9.2 million of cash to fund its losses. ABC/DISNEY LITIGATION. The Company's former business strategy was to derive revenue from the sale of network advertising time to national advertisers and from local advertising sales from Company-owned or operated stations. The Company's strategy, in entering into an operations agreement with ABC Radio, was to use the resources and reputation of ABC Radio to market Aahs World Radio, attract national advertising and further build the Company's network through affiliations. The Company sought out and developed strategic relationships in order to enhance and reinforce its brand, and to allow the Company to explore business opportunities at minimal cost to it and without detracting from management's focus upon the Company's core business. In 1995, the Company developed such a relationship with ABC Radio, pursuant to which ABC Radio agreed, through representations and agreements, that ABC Radio would commit its affiliate development and national advertising sales staffs and other resources to assist and augment the Company's efforts to market the Aahs World Radio format to broadcasters and advertisers. Throughout the course of its relationship with ABC Radio, the Company disclosed significant confidential proprietary business information to ABC/Disney. In June 1996, ABC Radio announced to the Company that ABC Radio was terminating its relationship with the Company and that ABC Radio would join with Disney to immediately commence competing directly with the Company in the field of children's radio broadcasting. ABC/Disney thereupon rolled out its Radio Disney programming at several locations throughout the country. The Company filed a lawsuit in the fall of 1996 with the United States District Court for the District of Minnesota against ABC/Disney. The suit seeks injunctive relief and to recover substantial monetary damages based on alleged wrongful conduct by ABC/Disney, including acts and omissions of fraud, business interference, breach of contractual and fiduciary obligations and misappropriation of the Company's confidential and proprietary business information, trade secrets and business opportunities. In September 1997, ABC Radio asserted its own counterclaim for breach of contractual obligations, seeking to recover an unspecified amount of damages said only "to exceed $75,000.00" for an alleged failure by the Company to pay certain commissions and fees allegedly earned during the course of the parties' relationship. The Company denies ABC Radio's counterclaim in all respects, and has moved to have the counterclaim dismissed as untimely. The ABC/Disney suit is likely to proceed to trial in 1998. VOLATILITY OF MARKET PRICE OF COMMON STOCK. The market price of the Company's Common Stock has been subject to significant fluctuations in response to numerous factors, including variations in the annual or quarterly financial results of the Company, changes by financial research analysts in their estimates of the earnings of the Company, conditions in the economy in general or in the radio industry in particular, unfavorable publicity or changes in applicable laws and regulations (or judicial or administrative interpretations thereof) affecting the Company or the radio industry. During 1997, the market price of the Company's Common Stock ranged from a high of $6.625 on January 13 and 14, 1997 to a low of $3.1875 on April 7, 1997. There can be no assurance that purchasers of the Company's Common Stock can sell such stock at or above the prices at which it was purchased. IMPACT OF SALE OF SHARES; SHARES ELIGIBLE FOR FUTURE SALE. The Company had approximately 6,649,865 shares of Common Stock outstanding as of December 31, 1997, and had warrants and options outstanding to purchase additional Common Stock totaling approximately 3,072,942 common shares exercisable at prices ranging from $2.00 to $13.80 per share. On February 11, 1997, the Securities and Exchange Commission declared effective the Company's Registration Statement on Form S-3, as amended, which registered approximately 500,000 common shares and the Company's Registration Statement on Form S-4, as amended, which registered 5,000,000 common shares and $5.0 million of debt securities. The sale of such shares and the sale of additional Common Stock which may become eligible for sale in the public market from time to time upon exercise of warrants and stock options could have the effect of depressing the market prices for the Company's Common Stock. CONFLICTS OF INTEREST. The Company leases certain broadcast and office facilities from the Chairman of the Board, President and Chief Executive Officer, Christopher T. Dahl, and another director of the Company, Richard W. Perkins. The Company also leases the WWTC(AM) and KYCR(AM) radio transmission tower site from Mr. Dahl. The Company also shares with Community Airwaves Corporation ("CAC"), a corporation owned by Messrs. Dahl, Perkins and another director, Russell Cowles II, certain management services which are provided by another entity, Radio Management Corporation, which is owned by Messrs. Dahl, Perkins and Cowles. The management services consist of administrative, legal and accounting services. Such arrangements present conflicts of interest in connection with the pricing of services provided. FCC REGULATION. Although the RBLs owned by the Company are already granted, the continuation of any RBL acquired by the Company depends upon its compliance with the laws, rules and regulations of the Federal Communications Commission ("FCC"). The FCC can revoke licenses for serious misconduct, subject to the right to an evidentiary hearing, or it may fail to renew a license or impose monetary fines for breach of its rules. Neither the Company nor CAC has ever been denied any FCC license or renewal, or had a fine imposed by the FCC. In recent years, a number of competing applications and formal and informal objections have been filed with respect to broadcast renewal applications. Even though the vast majority of all license renewal applications are granted, and under the Telecommunications Act of 1996 (the "1996 Act") competing applications in license renewal proceedings are no longer allowed, there can be no assurance that renewal of the Company's licenses will be granted. Furthermore, approvals are required for the transfer of ownership. Three directors and attributable shareholders of the Company have interests in AM and FM radio stations unrelated to the Company. Under current FCC regulations, these interests are attributed to the Company. The 1996 Act eliminated the limit upon the number of stations that can be under common ownership or control nationally. Local ownership was substantially relaxed according to market size. ANTI-TAKEOVER PROVISIONS. The Board of Directors, without any action by the Company's shareholders, has the authority to issue the remaining undesignated and unissued authorized shares and to fix the powers, preferences, rights and limitations of such shares or any class or series thereof, without shareholder approval. Persons acquiring such shares could have preferential rights with respect to voting, liquidation, dissolution or dividends over existing shareholders. The Company is subject to certain provisions of the Minnesota Business Corporation Act which limit the voting rights of shares acquired in "control share acquisitions" and restrict certain "business combinations." Such provisions, as well as the ability to issue undesignated shares, could have the effect of deterring or delaying a takeover or other change in control of the Company, deny shareholders the receipt of a premium on their Common Stock and depress the market price of the Company's Common Stock. On February 14, 1998, the Board of Directors declared a dividend of one common share purchase right (a "Right") for each share of the Company's Common Stock outstanding as of the close of business on February 27, 1998. Each Right will entitle the registered holder to purchase from the Company, after the Distribution Date (as defined in the Rights Agreement), common shares at an initial price of $18.00. The Rights have certain anti-takeover effects. The Rights will cause substantial dilution to a person or group that attempts to acquire the Company without conditioning the offer on a substantial number of Rights being acquired or redeemed. The Rights should not interfere with any merger or other business combination approved by the Board of Directors of the Company since the Board of Directors may, at its option and in its sole and absolute discretion, redeem the Rights as provided in the Rights Agreement. CONTROL BY MANAGEMENT. Approximately 22.1% of the Company's outstanding Common Stock is beneficially owned by the Company's current officers and directors. Accordingly, such persons may be able to significantly influence the Company's business and affairs. This concentration of ownership may have the effect of delaying, deferring or preventing a change in control of the Company. NO ASSURANCE AS TO LIQUIDITY ON THE NASDAQ NATIONAL MARKET. The Common Stock is currently listed on the Nasdaq National Market. There can be no assurance that the Common Stock will be actively traded on such market or that, if active trading does develop, it will be sustained. ABSENCE OF DIVIDENDS. The Company has never declared or paid any cash dividends on its Common Stock and does not intend to declare or pay cash dividends on its Common Stock in the foreseeable future. The Company presently expects to retain its earnings to finance its business. The declaration or payment by the Company of dividends, if any, on its Common Stock in the future is subject to the discretion of the Board of Directors and will depend on the Company's earnings, financial condition, capital requirements and other relevant factors. The declaration or payment by the Company of dividends is also subject to the Company's credit agreement with Foothill. Without Foothill's prior written consent, the Company cannot declare or pay any cash dividends. ITEM 7 FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA INDEX TO FINANCIAL STATEMENTS PAGE ---- CHILDREN'S BROADCASTING CORPORATION Independent Auditors' Report..................................................18 Consolidated Financial Statements Balance Sheets.......................................................19 Statements of Operations.............................................20 Statement of Shareholders' Equity....................................21 Statements of Cash Flows.............................................22 Notes to Consolidated Financial Statements....................................24 INDEPENDENT AUDITORS' REPORT Board of Directors Children's Broadcasting Corporation We have audited the accompanying consolidated balance sheets of Children's Broadcasting Corporation as of December 31, 1997 and 1996, and the related consolidated statements of operations, shareholders' equity and cash flows for the years then ended. 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 generally accepted auditing standards. 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, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Children's Broadcasting Corporation at December 31, 1997 and 1996, and the consolidated results of its operations and cash flows for the years then ended, in conformity with generally accepted accounting principles. As discussed in Note 2 to the financial statements, the Company's recurring losses, negative working capital and negative cash flow from operations raise substantial doubt about its ability to continue as a going concern. Management's plans as to these matters are also described in Note 2. The 1997 and 1996 financial statements do not include any adjustments that might result from the outcome of this uncertainty. /s/ BDO SEIDMAN, LLP Milwaukee, Wisconsin February 24, 1998, except for Notes 2, 9, 13 and 16 which are dated March 13, 1998 CHILDREN'S BROADCASTING CORPORATION CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 1997 1996 ------------ ------------ ASSETS (Notes 2 and 9) Current assets: Cash and cash equivalents $ 545,258 $ 3,370,038 Accounts receivable, net of allowance for doubtful accounts of $472,000 and $93,500, respectively 1,224,756 1,533,792 Accounts receivable - affiliates (Note 14) 142,868 -- Prepaid expenses 108,174 190,398 ------------ ------------ Total current assets 2,021,056 5,094,228 Investment in Harmony (Note 4) 6,281,728 -- Property and equipment, net (Notes 3, 5 and 10) 4,708,327 4,274,931 Broadcast licenses, net (Note 3 and 6) 19,679,154 16,724,653 Intangible assets, net (Note 6) 1,550,100 2,048,119 Deferred debt issue costs (Note 9) 1,173,209 465,420 ------------ ------------ Total assets $ 35,413,574 $ 28,607,351 ============ ============ LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Accounts payable $ 1,688,832 $ 1,222,125 Accounts payable - affiliates (Note 14) -- 44,367 Accrued interest 324,994 84,146 Other accrued expenses 1,203,331 1,000,194 Line of credit (Note 8) 453,838 164,162 Short-term debt - directors and shareholders (Note 7) 1,172,500 -- Long-term debt - current portion (Note 9) 22,857,386 8,033,758 Obligation under capital lease - current portion (Note 10) 26,367 34,705 ------------ ------------ Total current liabilities 27,727,248 10,583,457 Long-term debt, less current maturities (Note 9) 2,508,819 1,365,992 Obligation under capital lease (Note 10) 48,836 70,790 ------------ ------------ Total liabilities 30,284,903 12,020,239 ------------ ------------ Commitments and Contingencies (Notes 2 and 11) -- -- Shareholders' equity (Note 12 and 13): Common stock 132,997 115,966 Additional paid-in capital 46,387,536 42,775,092 Accumulated deficit (40,862,299) (26,303,946) Stock subscriptions receivable (529,563) -- ------------ ------------ Total shareholders' equity 5,128,671 16,587,112 ------------ ------------ Total liabilities and shareholders' equity $ 35,413,574 $ 28,607,351 ============ ============
See accompanying notes to the consolidated financial statements. CHILDREN'S BROADCASTING CORPORATION CONSOLIDATED STATEMENTS OF OPERATIONS
DECEMBER 31, 1997 1996 ------------ ------------ Revenues: Owned, operated and LMA stations $ 4,142,112 $ 4,061,055 Network 1,712,329 1,593,883 ------------ ------------ Total revenues 5,854,441 5,654,938 Operating expenses: Owned, operated and LMA stations: General and administrative 3,131,507 2,492,992 Technical and programming 1,129,853 968,550 Selling 1,464,575 1,574,869 ------------ ------------ 5,725,935 5,036,411 Network: General and administrative 557,106 884,652 Programming 880,658 885,227 Selling 1,678,216 1,105,817 Merchandising 268,796 523,719 Magazine -- 125,542 ------------ ------------ 3,384,776 3,524,957 Corporate 5,112,591 2,023,936 Corporate expenses paid to affiliated management company 900,090 750,000 Amortization and write-off of deferred expenses -- 2,288,141 Depreciation and amortization 2,136,720 1,500,504 ------------ ------------ Total operating expenses 17,260,112 15,123,949 ------------ ------------ Loss from operations (11,405,671) (9,469,011) Equity loss in Harmony (540,994) -- Interest expense (2,602,200) (604,296) Interest expense - officers and directors (54,658) (28,808) Interest income 90,599 234,236 Other income (expense) (45,429) -- ------------ ------------ Net loss $(14,558,353) $ (9,867,879) ============ ============ Basic and diluted net loss per share $ (2.33) $ (1.99) ============ ============ Weighted average number of shares outstanding 6,246,000 5,149,000 ============ ============
See accompanying notes to the consolidated financial statements. CHILDREN'S BROADCASTING CORPORATION CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY YEARS ENDED DECEMBER 31, 1997 AND 1996
Common Stock Additional Stock Total ----------------------- Paid-in Subscriptions Accumulated Shareholders' Shares Amount Capital Receivable Deficit Equity ---------- ----------- ------------ ----------- ------------ ------------ Balance at December 31, 1995 3,134,224 $ 62,683 $ 19,491,302 $ -- $(16,067,310) $ 3,486,675 Net proceeds from public offering of common stock 2,200,000 44,000 19,740,497 -- -- 19,784,497 Issuance of common stock upon exercise of options and warrants 39,536 793 175,550 -- -- 176,343 Issuance of common stock in connection with acquisition of WJDM(AM), Elizabeth, New Jersey 270,468 5,409 2,494,591 -- -- 2,500,000 Issuance of common stock in connection with acquisition of WPWA(AM) - Chester, Pennsylvania 79,052 1,581 498,419 -- -- 500,000 Issuance of common stock in connection with acquisition of WAUR(AM) - Sandwich, Illinois 75,000 1,500 289,420 -- -- 290,920 Issuance of stock warrants in connection with bridge loan financing -- -- 85,313 -- -- 85,313 Accretion of redeemable convertible preferred stock -- -- -- -- (368,757) (368,757) Net loss -- -- -- -- (9,867,879) (9,867,879) ---------- ----------- ------------ ----------- ------------ ------------ Balance at December 31, 1996 5,798,280 115,966 42,775,092 -- (26,303,946) 16,587,112 Issuance of common stock upon exercise of options and warrants 138,050 2,761 284,359 (129,563) -- 157,557 Issuance of common stock for installment payments of note payable 65,377 1,307 300,734 -- -- 302,041 Issuance of common stock in connection with obtaining finance company credit agreement 37,500 750 153,937 -- -- 154,687 Issuance of common stock in connection with pending acquisition of KMUS(AM), Muskogee, Oklahoma 82,051 1,641 398,359 (400,000) -- -- Issuance of common stock in connection with acquisition of KIDR(AM), Phoenix, Arizona 268,607 5,372 994,628 -- -- 1,000,000 Issuance of common stock in connection with investment in Harmony 60,000 1,200 246,300 -- -- 247,500 Issuance of common stock for payment of attorney fees in connection with pending litigation 200,000 4,000 828,627 -- -- 832,627 Issuance of warrants in connection with debt financing -- -- 405,500 -- -- 405,500 Net loss -- -- -- -- (14,558,353) (14,558,353) ---------- ----------- ------------ ----------- ------------ ------------ Balance at December 31, 1997 6,649,865 $ 132,997 $ 46,387,536 $ (529,563) $(40,862,299) $ 5,128,671 ========== =========== ============ =========== ============ ============
See accompanying notes to the consolidated financial statements. CHILDREN'S BROADCASTING CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS
DECEMBER 31, 1997 1996 ------------ ------------ OPERATING ACTIVITIES: Net loss $(14,558,353) $ (9,867,879) Adjustments to reconcile net loss to net cash used in operating activities: Provision for doubtful accounts 378,500 22,000 Depreciation and amortization 2,136,720 1,500,504 Net barter activity 34,845 (14,177) Amortization and write-off of deferred expenses -- 2,288,141 Amortization of deferred debt issue costs 480,565 85,313 Write-off of other intangible assets 119,260 -- Equity loss in Harmony 540,994 -- Issuance of common stock for payment of attorney fees 832,627 -- Issuance of common stock for payment of interest 100,306 -- Decrease (increase) in: Accounts receivable (104,309) (713,183) Other receivables (142,868) 49,576 Prepaid expenses 82,224 517,291 Inventory -- 74,046 Increase (decrease) in: Accounts payable - trade 422,341 516,750 Accrued interest 240,848 (217,243) Other accrued expenses 203,137 266,823 ------------ ------------ Net cash used in operating activities (9,233,163) (5,492,038) ------------ ------------ INVESTING ACTIVITIES: Purchase of property and equipment (637,420) (607,471) Acquisition of radio broadcasting licenses and certain related assets (1,717,959) (10,309,654) Investment in other intangible assets (61,840) (261,056) Investment in Harmony (6,575,222) -- ------------ ------------ Net cash used in investing activities (8,992,441) (11,178,181) ------------ ------------ FINANCING ACTIVITIES: Increase in line of credit 289,676 164,162 Repayment of long-term debt (387,406) (977,237) Repayment of capital lease obligation (36,767) (29,205) Proceeds from issuance of short-term debt 1,250,000 -- Proceeds from issuance of common stock 157,557 19,960,840 Payment of deferred debt issue costs (107,336) -- Proceeds from issuance of long-term debt 14,235,100 8,400,000 Repayment of short-term debt -- (5,450,000) Redemption of preferred stock -- (2,615,595) ------------ ------------ Net cash provided by financing activities 15,400,824 19,452,965 ------------ ------------ Increase (decrease) in cash and cash equivalents (2,824,780) 2,782,746 Cash and cash equivalents at beginning of year 3,370,038 587,292 ------------ ------------ Cash and cash equivalents at end of year $ 545,258 $ 3,370,038 ============ ============ SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Cash paid during the year for interest $ 2,361,352 $ 696,347 ============ ============
See accompanying notes to the consolidated financial statements. CHILDREN'S BROADCASTING CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED) SUPPLEMENTAL DISCLOSURE OF NONCASH INVESTING AND FINANCING ACTIVITIES: During the year ended December 31, 1997: The Company recognized revenues of $703,824 and expenses of $738,669 through barter activity. The Company issued 268,607 shares of common stock valued at $1,000,000, incurred a note payable of $1,400,000, and a covenant not-to-compete liability with an estimated net present value of $320,495 related to the acquisition of radio broadcast licenses and property and equipment. The Company incurred capital lease liabilities totaling $6,475 related to the acquisition of property and equipment. The Company issued 65,377 shares of common stock valued at $302,041 for the payment of 1997 principal and interest installments totaling $201,735 and $100,306, respectively, for the note payable outstanding to the seller of WAUR(AM). The Company issued 37,500 shares of common stock and warrants to purchase 425,000 shares of common stock valued at $154,687 and $405,500, respectively, in connection with obtaining short and long-term debt. The Company issued 60,000 shares of common stock valued at $247,500 in connection with its investment in Harmony. The Company issued 200,000 shares of common stock valued at $832,627 for payment of attorney fees. SUPPLEMENTAL DISCLOSURE OF NONCASH INVESTING AND FINANCING ACTIVITIES: During the year ended December 31, 1996: The Company recognized revenues of $640,903 and expenses of $626,726 through barter activity. The Company issued 424,520 shares of common stock valued at $3,290,920 and incurred a covenant not-to- compete liability with an estimated net present value of $1,072,284, related to the acquisition of radio broadcast licenses and property and equipment. The Company incurred capital lease liabilities totaling $45,680 and a note payable of $250,000 related to the acquisition of property and equipment. The Company's redeemable convertible preferred stock accreted $368,757 during the year. See accompanying notes to the consolidated financial statements. CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Description of Business: Children's Broadcasting Corporation (the "Company") is a full-time national broadcaster of radio programming in the United States. Prior to January 1998, the Company had developed, produced and distributed programming that was entertaining and informative and directed to the interests and radio listening patterns of pre-teenage children and their families. The Company's Aahs World Radio(sm) format provided 24-hour programming featuring music, stories, call-in segments, quizzes and current events features. The programming varied by time of day in order to attract that component of its prospective audience most likely to be listening. The programming originated at the Company's flagship station, WWTC(AM) in Minneapolis, Minnesota and was distributed via satellite to a network of radio stations around the country, which included stations owned or operated by the Company as well as affiliated stations owned by third parties. In November 1997, the Company announced that it was terminating its network affiliation agreements and that it would cease distributing its full-time Aahs World Radio programming format effective January 30, 1998. The Company retained certain members of the Aahs World Radio staff and intends to continue to explore other forms of distribution of audio programming, including syndicated radio programs. Additionally, the Company is attempting to sell its owned and operated stations. The Company's owned and operated radio stations are operated in individual subsidiaries. Additionally, the broadcasting licenses are held by a second tier of subsidiaries to these operating subsidiaries. At December 31, 1997, the Company's owned and operated radio stations and the related operating and radio broadcast license holding subsidiaries are as follows: Radio Broadcast License Holding Operating Subsidiary Subsidiary Radio Station -------------------- --------------- --------------------------- Children's Radio of: Chicago, Inc. WAUR-AM, Inc. WAUR(AM), Sandwich, IL Dallas, Inc. KAHZ-AM, Inc. KAHZ(AM), Fort Worth, TX Denver, Inc. KKYD-AM, Inc. KKYD(AM), Denver, CO Detroit, Inc. WCAR-AM, Inc. WCAR(AM), Livonia, MI Golden Valley, Inc. KYCR-AM, Inc. KYCR(AM), Golden Valley, MN Houston, Inc. KTEK-AM, Inc. KTEK(AM), Alvin, TX Kansas City, Inc. KCNW-AM, Inc. KCNW(AM), Fairway, KS Los Angeles, Inc. KPLS-AM, Inc. KPLS(AM), Orange, CA Milwaukee, Inc. WZER-AM, Inc. WZER(AM), Jackson, WI Minneapolis, Inc. WWTC-AM, Inc. WWTC(AM), Minneapolis, MN New York, Inc. WJDM-AM, Inc. WJDM(AM), Elizabeth, NJ Philadelphia, Inc. WPWA-AM, Inc. WPWA(AM), Chester, PA Phoenix, Inc. KIDR-AM, Inc. KIDR(AM), Phoenix, AZ CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Consolidated Financial Statements: The financial statements include the accounts of the Company and all wholly-owned subsidiaries. All references to the Company in these financial statements relate to the consolidated entity. All significant intercompany accounts and transactions are eliminated in consolidation. Cash and Cash Equivalents: The Company considers all highly liquid investments with a maturity of three months or less when purchased to be cash equivalents. Property, Equipment and Intangible Assets: Property, equipment and intangible assets are stated at cost. Depreciation and amortization are computed using the straight-line method and are charged to expense based upon the estimated useful lives of the assets. Expenditures for additions and improvements are capitalized, while repairs and maintenance are expensed as incurred. Long Lived Assets: The Company accounts for long-lived assets in accordance with SFAS No. 121, "Accounting for the Impairment of Long-lived Assets and for Long-lived Assets to be Disposed of". The standard establishes guidelines regarding when impairment losses on long-lived assets, which include property and equipment, certain identifiable intangible assets and goodwill, should be recognized and how impairment losses should be measured. This standard did not have an impact on the Company's financial position or results of operations. Investment in Harmony: Investment in Harmony (Note 4) is accounted for under the equity method of accounting. The equity method of accounting is used to account for investments made when the Company has the ability to exercise significant influence over the operating and financial policies of an investee, generally involving a 20% to 50% interest in those investees. Under the equity method, original investments are recorded at cost, increased for subsequent investments in and advances to the investee, and adjusted for the Company's share of undistributed earnings and losses of the investee. Additionally, the excess of the Company's pro rata share of the investees net assets is amortized over the estimated useful life of the underlying assets. CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Revenue: The Company reports revenue net of commissions withheld by advertising agencies. Barter Transactions: Included in revenues and expenses are nonmonetary transactions arising from on-air advertising time bartered by the Company for certain goods and services. Revenue from such "barter" transactions is based on the fair market value of the goods and services received, and is recognized when the related advertisements are broadcast. Expense or capitalization related to the usage of such goods and services is recognized when they are used or placed in service. The net barter accounts receivable is included in accounts receivable on the accompanying balance sheet. The following represents the barter activity for the respective years: Barter accounts receivable, net - January 1, 1996 $ 23,435 Barter revenues 640,903 Barter expenses (626,726) ---------- Barter accounts receivable, net - December 31, 1996 37,612 Barter revenues 703,824 Barter expenses (738,669) ---------- Barter accounts receivable, net - December 31, 1997 $ 2,767 ==========
Net Loss Per Share: In February 1997, The Financial Accounting Standards Board ("FASB") issued SFAS No. 128, Earnings Per Share ("EPS"). SFAS No. 128 requires dual presentation of basic EPS and diluted EPS on the face of all income statements issued after December 15, 1997, for all entities with complex capital structures. The adoption of SFAS No. 128 had no effect on the Company's financial statements. Basic EPS is computed as net income available to common shareholders divided by the weighted average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur from common shares issuable through stock options and warrants. As the Company's stock options and warrants are antidilutive for all periods presented only basic EPS is presented. At December 31, 1997, outstanding options and warrants to purchase 3,072,942 shares of the Company's common stock were not included in the computation of diluted EPS as their effect would be antidilutive. CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Reverse Stock Split: On January 11, 1996, the Company's Board of Directors approved a one-for-two reverse stock split of the Company's common stock effective January 23, 1996, and simultaneously approved an increase of the par value of the common stock to $.02 per share. Accordingly, all share, per share, weighted average share, stock option and stock warrant information has been restated to reflect the split. Income Taxes: The Company accounts for income taxes using the liability method. Deferred income taxes are provided for temporary differences between financial reporting and tax basis of assets and liabilities. Stock Based Compensation: Effective January 1, 1996, the Company adopted the disclosure requirements of SFAS No. 123, "Accounting for Stock-Based Compensation". SFAS No. 123 establishes a new, fair value-based method of measuring stock-based compensation, but does not require an entity to adopt the new method for preparing its basic financial statements. For entities not adopting the new method for preparing basic financial statements, SFAS No. 123 requires disclosures in the footnotes of pro forma net earnings and earnings per share information as if the fair value-based method had been adopted. Concentration of Credit Risk: Financial instruments that potentially subject the Company to concentration of credit risk consist principally of accounts receivable. Accounts receivable arise from sale of on-air advertising time to the Company's customer base located throughout the network broadcast area. The Company performs ongoing credit evaluations of its customers' financial condition, and generally requires no collateral from its customers. The Company's credit losses are subject to general economic conditions of the various retail and services provider industries represented in its customer base. Use of Estimates: The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) New Accounting Pronouncements: In June 1997, the FASB issued SFAS No. 130, Reporting Comprehensive Income, and SFAS No. 131, Disclosures about Segments of an Enterprise and Related Information. SFAS No. 130 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; and SFAS 131 establishes annual and interim reporting standards for an enterprise's operating segments and related disclosures about its products, services, geographic areas and major customers. Adoption of these statements will not impact the Company's financial position, results of operations or cash flows and any effect will be limited to the form and content of its disclosures. Both statements are effective for fiscal years beginning after December 15, 1997, with earlier application permitted. Reclassifications: Certain amounts in the 1996 financial statements have been reclassified to conform with the 1997 presentation. These reclassifications have no effect on the accumulated deficit or net loss previously reported. NOTE 2: CONTINUED EXISTENCE AND MANAGEMENT'S PLAN During 1997, the Company incurred a net loss of $14,558,353 and a negative cash flow from operations of $9,233,163, resulting in a working capital position of negative $25,706,192 and an accumulated deficit totaling $40,862,299 at December 31, 1997. Given these circumstances, the Company's continuing covenant defaults under its principle debt agreement (Note 9), and the Company's expected working capital losses in 1998, additional capital will be necessary to sustain the Company's operations. In response to this situation, management entered into a sales agreement in July 1997 with Global Broadcasting Company, Inc. ("Global") for the sale of all of the Company's owned and operated radio stations for consideration totaling $72,500,000; however, in January 1998, the Company announced that Global did not close the transaction within the time frame provided by the agreement. As of February 24, 1998, the Company has not taken any action against Global and is currently considering other options for the disposition of its radio station properties. The Company has entered into a brokerage agreement for this purpose and is also attempting to secure additional bridge financing to sustain operations until the completion of a station sale transaction. On March 13, 1998, the Company was able to obtain an advance of $900,000 subject to an amendment to the Credit Agreement (Note 9); however, management believes additional funds will be necessary to sustain operations. Management believes the amount of cash required by the Company's operations will decline in 1998 as a result of certain workforce reductions enabled by the cessation of network operations (Note 1). Further, management believes that this decline in operating cash requirements when combined with proceeds from potential bridge financing and from station sale transactions resulting from its CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 2: CONTINUED EXISTENCE AND MANAGEMENT'S PLAN (CONTINUED) brokerage relationships will allow for adequate funding of the Company's cash requirements through December 31, 1998, although no assurance regarding the success of these efforts can be provided at this time. Additionally, management will continue to seek waivers for the expected continuing covenant defaults under its principle debt agreement as they occur. In the event that management's plans as described above are not successful, the Company could be forced to reduce or terminate its operations, curtail acquisitions or other projects, sell or lease its current assets under unfavorable circumstances, delay certain capital projects or potentially default on obligations to creditors. The actions described above may not be sufficient to prevent the Company from liquidating if it is unsuccessful in consummating the sale of any of its stations and additional financing is not obtained. The consolidated financial statements do not contain any adjustments which might be necessary if the Company is unable to continue as a going concern. NOTE 3: ACQUISITIONS AND LOCAL PROGRAMMING AND MARKETING AGREEMENTS ("LMA") KCAZ(AM), Mission, Kansas: In September 1994, the Company signed an agreement to operate KCAZ(AM) radio station under an LMA for a period of five years beginning October 1, 1994. Under the LMA, monthly payments of $8,200 are made by the Company to cover the operating expenses of the station. If these payments are not sufficient to cover operating expenditures, additional amounts are paid. No additional amounts were paid during the years ended December 31, 1997 and 1996. Additionally, the LMA provides the Company with the option to purchase the radio broadcast license and certain other assets of the radio station for consideration aggregating $550,000. In September 1997, the Company exercised this option and entered into an asset purchase agreement dated November 1997. The purchase is required to close within 30 days of obtaining FCC approval which had not occurred as of February 24, 1998. WJDM(AM), Elizabeth, New Jersey: In June 1996, the Company acquired all of the issued and outstanding shares of common stock of Radio Elizabeth, Inc. which holds the radio broadcast license for WJDM(AM) and a special temporary authorization for an expanded band radio frequency. The consideration for the acquisition aggregated $11,580,000 consisting of 270,468 shares of common stock valued at $2,500,000, cash payments totaling $7,580,000 and payments totaling $1,500,000 (less a discount at 9.25% of $427,716) pursuant to a ten year covenant not-to-compete agreement. The $11,580,000 purchase price and related acquisition expenses incurred of $227,784 were allocated based upon the fair market value of the assets acquired, consisting of broadcast licenses of $10,179,984, property and equipment aggregating $140,000, and a covenant not-to-compete of $1,072,284 based upon the net present value of the payments due under the agreement. CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 3: ACQUISITIONS AND LOCAL PROGRAMMING AND MARKETING AGREEMENTS (CONTINUED) WJDM(AM), Elizabeth, New Jersey (Continued): During the period February to June 1996, the Company operated the station on behalf of the seller pursuant to a LMA. Additionally, the Company has agreed to allow the seller to continue operation over the existing licensed frequency, pursuant to a LMA which terminates in May 2001, for nominal consideration. WCAR(AM), Livonia, Michigan: In June 1996, the Company acquired the radio broadcast license and certain other assets of the radio station WCAR(AM) for $1,500,000 in cash. The purchase price and acquisition expenses incurred of $70,920 were allocated based upon the fair market value of the assets acquired consisting of a broadcast license of $1,251,360 and property and equipment totaling $319,560. WPWA(AM), Chester, Pennsylvania: In September 1996, the Company acquired the radio broadcast licenses and certain other assets of the radio station WPWA(AM). The consideration for the acquisition aggregated $1,320,000 consisting of 79,052 shares of common stock valued at $500,000 and cash payments totaling $820,000. The purchase price and related acquisition expenses incurred of $17,750 were allocated based upon the fair market value of the assets acquired consisting of a broadcast license of $923,200 and property and equipment totaling $414,550. WAUR(AM), Sandwich, Illinois: In January 1997, the Company completed its acquisition of the radio broadcast license and certain other assets of the radio station WAUR(AM). The consideration for the acquisition aggregated $3,900,000 consisting of cash payments totaling $2,000,000, a $1,400,000 note payable and payments totaling $500,000 (less a discount at 9.5% of $179,505) pursuant to a ten year covenant not-to- compete agreement. During 1996, the Company satisfied a portion of the purchase price by issuing 75,000 shares of its common stock valued at $290,920 and making a cash payment of $81,000. The purchase price and related acquisition expenses incurred of $20,546 were allocated based on the fair market value of the assets acquired consisting of a broadcast license of $3,370,045, property and equipment of $50,500 and a covenant not to compete of $320,495. KMUS(AM), Muskogee, Oklahoma: On December 31, 1996, the Company entered into an asset purchase agreement to acquire the radio broadcast license and certain other assets of the radio station KMUS(AM) for $400,000 payable with 82,051 shares of common stock. In January 1997, the Company issued 82,051 CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 3: ACQUISITIONS AND LOCAL PROGRAMMING AND MARKETING AGREEMENTS (CONTINUED) KMUS(AM), Muskogee, Oklahoma (Continued): shares of common stock to the seller in exchange for a subscription note receivable of $400,000 which bears interest at a variable rate (11.25% at December 31, 1997) and is secured by the KMUS(AM) station assets. The Company expects that the seller will satisfy the subscription note receivable through transfer of the station assets pursuant to the aforementioned asset purchase agreement. KIDR(AM), Phoenix, Arizona: In May 1997, the Company acquired the radio broadcast licenses and certain other assets of the radio station KIDR(AM). The consideration for the acquisition consisted of the issuance of 268,607 shares of common stock valued at $1,000,000. The purchase price and related acquisition expenses incurred of $75,000 were allocated based upon the fair market value of the assets acquired consisting of a broadcast license of $636,617 and property and equipment totaling $438,383. The unaudited pro forma results of operations which follow assume that the acquisitions of WJDM(AM), WCAR(AM) and WPWA(AM) had occurred at January 1, 1996. In addition to combining the historical results of operations of the Company and the acquired businesses, the pro forma calculations include adjustments for the estimated effect on the historical results of operations for depreciation, interest and issuances of common stock related to the business acquisitions. 1996 ------------ Revenues $ 6,086,647 Loss from operations (9,787,680) Net loss (10,149,348) Net loss per share (1.82) Weighted average number of shares outstanding 5,570,000 The unaudited proforma results do not purport to be indicative of the results of operations which actually would have resulted had the acquisition occurred on January 1, 1996 or of future results of operations of the consolidated entities. Proforma results of operations were not included for the acquisitions of the broadcast licenses and certain other assets of WAUR(AM), KMUS(AM), and KIDR(AM) as each was considered an acquisition of productive assets rather than a continuing business. CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 4: INVESTMENT IN HARMONY In July 1997, the Company acquired an equity interest in Harmony Holdings, Inc. ("Harmony") by purchasing 1,369,231 shares of Harmony's common stock and options to acquire an additional 550,000 shares of Harmony's common stock exercisable at $1.50 per share and expiring at various dates from May to October 2001. Consideration for the acquisition aggregated $4,007,500, consisting of cash payments totaling $3,760,000 and 60,000 shares of the Company's common stock valued at $247,500. The cash consideration was obtained from the following sources, short-term debt due to directors and shareholders aggregating $1,250,000 (Note 7), an additional advance of $2,400,000 under the finance company credit agreement (Note 9) and a use of working capital totaling $110,000. In September 1997, the Company purchased an additional 819,500 shares of Harmony's common stock and options to acquire an additional 200,000 shares of Harmony's common stock exercisable at $1.50 per share and expiring in February 2000. Consideration for the acquisition was $2,731,650 in cash obtained from an additional advance under the finance company credit agreement (Note 9). The Company's investment represents 33.7% of the outstanding common stock of Harmony at December 31, 1997 (42.4% assuming the Company's options and outstanding puts (Note 11) were exercised). The aggregate purchase price paid of $6,739,150 and transaction costs totaling $83,572 were allocated based on the estimated fair market value of the assets acquired, consisting of common stock of $6,149,150 and stock options valued at $590,000. The excess of the purchase price over the Company's pro rata share of Harmony's net tangible assets totaled $3,924,000. This excess purchase price relates to Harmony's intangible asset value, principally technical know-how, industry reputation and customer lists, and is being amortized on a straight line basis over a seven year estimated useful life. Harmony produces television commercials, music videos and related media. Harmony's services are usually directed towards advertising agencies located in the major markets of New York, Los Angeles, Chicago, Detroit, Dallas, San Francisco and in regional markets. Harmony's most recent fiscal year end was June 30, 1997 and its operations and the Company's equity in the earnings (loss) of Harmony are summarized as follows. Year Ended Six Months Ended June 30, 1997 December 31, 1997 ------------- ----------------- Contract revenues $ 64,830,918 $ 22,720,236 Cost of production 52,174,372 18,254,490 ------------ ------------ Gross profit 12,656,546 4,456,746 Operating expenses 11,185,011 5,738,909 ------------ ------------ Income (loss) from operations 1,471,535 (1,273,163) Interest income 39,655 17,251 ------------ ------------ CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 4: INVESTMENT IN HARMONY (CONTINUED)
Year Ended Six Months Ended June 30, 1997 December 31, 1997 ------------- ----------------- Income (loss) before income taxes 1,511,190 (1,255,912) Income taxes 178,763 23,142 ------------ ------------ Net income (loss) $ 1,332,427 $ (1,279,054) ============ ============ Company's pro rata share of Harmony's Net income (loss) $ -- $ (328,962) Amortization expense for the excess of the investment cost over the underlying net assets of Harmony -- (212,032) ------------ ------------ Company's equity income (loss) in Harmony $ -- $ (540,994) ============ ============
The consolidated balance sheet of Harmony is summarized as follows:
June 30, 1997 December 31, 1997 ------------- ----------------- Current assets $ 9,504,622 $ 6,153,550 Non-current assets 5,000,424 4,851,971 ------------ ------------ Total assets $ 14,505,046 $ 11,005,521 ============ ============ Current liabilities 6,748,258 5,007,537 Stockholders' equity 7,756,788 5,997,984 ------------ ------------ Total liabilities and stockholders' equity $ 14,505,046 $ 11,005,521 ============ ============
Harmony is included in The Nasdaq Stock Market's National Market under the symbol "HAHO". At December 31, 1997, the aggregate value of the Harmony common stock held by the Company totaled $4,377,462. CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 5: PROPERTY AND EQUIPMENT Property and equipment consisted of the following at December 31:
Estimated Useful Life 1997 1996 In Years --------------- ------------ ----------- Land $ 680,079 $ 568,462 Buildings 757,956 742,962 30 Studio and broadcast equipment 2,639,768 2,162,022 5-10 Towers 1,208,718 943,328 13 Office equipment 1,200,704 1,102,632 5 Leasehold improvements 379,969 211,998 5 Equipment under capital leases 177,290 172,391 5 --------------- ------------ 7,044,484 5,903,795 Less accumulated depreciation 2,336,157 1,628,864 --------------- ------------ Property and equipment, net $ 4,708,327 $ 4,274,931 =============== ============
Depreciation expense, including that on equipment under capital leases, was $711,927 and $586,901 for the years ended December 31, 1997 and 1996, respectively. Accumulated depreciation on the equipment under capital leases was $92,025 and $65,567 at December 31, 1997 and 1996, respectively. NOTE 6: INTANGIBLE ASSETS Intangible assets consisted of the following at December 31:
Estimated Useful Life 1997 1996 In Years --------------- ------------ ---------- Broadcast license $ 21,684,545 $ 17,671,494 20 Less accumulated amortization 2,005,391 946,841 --------------- ------------ Broadcast licenses, net $ 19,679,154 $ 16,724,653 =============== ============ Trademarks and tradenames $ 442,790 $ 443,380 6 Non-compete agreement 1,940,250 1,619,755 2-10 Other 148,322 645,195 5 --------------- ------------ 2,531,362 2,708,330 Less accumulated amortization 981,262 660,211 --------------- ------------ Intangible assets, net $ 1,550,100 $ 2,048,119 =============== ============
Amortization expense related to the intangible assets totaled $1,424,793 and $913,603 for the years ended December 31, 1997 and 1996, respectively. CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 7: SHORT-TERM DEBT - DIRECTORS AND SHAREHOLDERS In July 1997, the Company received proceeds aggregating $1,250,000 with the issuance of promissory notes payable and warrants to purchase 125,000 shares of the Company's common stock. The notes payable are due to the following parties: a partnership controlled by a Company director, a Company director individually and a less than five-percent shareholder. The proceeds were utilized to purchase 480,770 shares of the common stock of Harmony (Note 4). The notes payable bear interest at a rate of 10%, are secured by the purchased common stock of Harmony, and mature in July 1998. The warrants vested immediately upon grant and are exercisable at $4.00 per share over a term of five years. The value of the warrants was determined to be $137,500. The notes payable are included on the accompanying balance sheet less the remaining unamortized deferred warrant value of $77,500 at December 31, 1997. In January 1996, the Company borrowed $750,000 pursuant to a promissory note with interest at 6%. Additionally, in March 1996, the Company borrowed $150,000 from a director of the Company pursuant to a promissory note with interest at 10%. All amounts due under short-term notes payable were repaid in March 1996 after the completion of a public offering of the Company's common stock. NOTE 8: LINE OF CREDIT At December 31, 1997 and 1996, the Company had outstanding short-term borrowings totaling $453,838 and $164,162 under a discretionary line of credit pursuant to the finance company credit agreement (Note 9). The line of credit is limited to the lesser of $500,000 or a percentage of accounts receivable. At December 31, 1997, the maximum credit available was approximately $453,838 which was fully utilized. Interest is charged at a variable rate (12.25% at December 31, 1997). NOTE 9: LONG-TERM DEBT Long-term debt consisted of the following at December 31:
1997 1996 ------------- ------------ Term note payable bearing interest at a variable rate (12.25% at December 31, 1997). The note payable is due in variable quarterly installments of principle beginning April 16, 1998 with monthly payments of interest through November 2000 when the remaining balance is payable in full. Due to the recurring requirement to meet certain restrictive financial covenants, which historically have not been met, this entire indebtedness is classified as current at December 31, 1997 and 1996. $ 22,500,000 $ 7,885,000 CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 9: LONG-TERM DEBT (CONTINUED) 1997 1996 ------------- ------------ Note payable bearing interest at a variable rate (9.5% at December 31, 1997), payable in quarterly installments of principle and interest through November 2002, and secured by broadcast license and other assets of radio station WAUR(AM), Sandwich, Illinois. Additionally, the note payable installment payments may be satisfied with the issuance of common stock of the Company subject to certain trading volume restrictions. 1,198,265 - Covenant not-to-compete, non-interest bearing, payable in quarterly installments of $37,500 through June 2006, less unamortized discount at 9.25% ($320,161 and $390,514 at December 31, 1997 and 1996, respectively). 954,839 1,034,486 Covenant not-to-compete, non-interest bearing, payable in quarterly installments of $12,500 through January 2006, less unamortized discount at 9.5% ($157,021 at December 31, 1997). 305,479 - Note payable due to a bank, bearing interest at 9.25%, payable in monthly installments of principal and interest totaling $2,164 through September 2021, and secured by the real property of station KKYD(AM) in Denver. 246,716 249,414 Note payable bearing interest at 9%, payable in annual installments totaling $30,000 through May 2000 when the remaining balance is payable in full. The note payable is secured by substantially all corporate assets and real property owned by a Company director. 101,315 120,471 Various installment notes payable, bearing interest from 0% to 8.5% and due at various maturities through September 2001. 59,591 110,379 ------------ ----------- 25,366,205 9,399,750 Less current portion 22,857,386 8,033,758 ------------ ----------- Long-term debt, less current portion $ 2,508,819 $ 1,365,992 ============ ===========
CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 9: LONG-TERM DEBT (CONTINUED) In November 1996, the Company entered into an agreement with a finance company (the "Credit Agreement") under which three credit facilities (the "Facilities") were established. The Facilities included a $11,500,000 term note payable, of which advances totaling $3,615,000 and $7,885,000 were received during 1997 and 1996, respectively, a $1,000,000 line of credit (Note 8), and a $4,000,000 acquisition facility which was unused at December 31, 1996. In July and September 1997, the Credit Agreement was amended and restated pursuant to additional term note payable advances received by the Company totaling $5,420,100 and $5,800,000, respectively. The provisions of the Credit Agreement remained substantially unchanged as a result of the July and September 1997 amendments and restatement except that the $4,000,000 acquisition facility was canceled and the available line of credit (Note 8) was reduced from $1,000,000 to $500,000 in favor of the increased term note payable. In connection with the original Credit Agreement and subsequent amendments, the Company has incurred debt issuance costs aggregating $1,593,420. These costs included finance company fees which reduced the proceeds of the term note payable advances ($985,000), the value of assigned to warrants granted to the finance company ($268,000), the value of the 37,500 shares of the Company common stock issued to the transaction broker ($154,687), and other transaction costs ($185,733). The debt issuance costs have been deferred on the accompanying balance sheet and are being amortized utilizing the interest method over the remaining life of the Credit Agreement. At December 31, 1997 and 1996, the unamortized value of these costs totaled $1,173,209 and $465,420, respectively. The Facilities mature on November 26, 2000 and are subject to certain restrictive covenants. The restrictive covenants include, but are not limited to, the following: the Company may incur additional indebtedness or liens on its assets only under specified circumstances, must maintain the principle nature of its business, cannot dispose of significant assets, must maintain stockholders equity of at least $14,100,000, must maintain working capital of at least $2,000,000, must maintain a minimum Harmony common stock pledge of $2,600,000, and may not make capital expenditures in excess of $750,000 annually during 1998 to 2000. As of December 31, 1997, the Company had not met certain of the covenant requirements; however, on March 13, 1998, the Finance Company waived its rights pursuant to these violations in connection with an amendment to the Credit Agreement (Note 16). Pursuant to generally accepted accounting principles (EITF No. 86-30), if similar restrictive covenants must be met at future interim periods, the debt must continue to be classified as current unless it is probable that the Company will satisfy the covenants in the future or the finance company agrees to waive its rights to such potential future covenant violations. The finance company would not provide the Company with such a waiver and accordingly, the Company has reflected all related outstanding debt as a current liability on the accompanying consolidated balance sheet. The Company's indebtedness under the Facilities is secured by substantially all the assets of the Company and its subsidiaries, by a pledge of its subsidiaries' stock, a pledge of 1,407,961 shares of Harmony common stock, and by a guarantee of its subsidiaries. CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 9: LONG-TERM DEBT (CONTINUED) Future maturities of long-term debt including classification of the entire term note payable to the finance company (aggregating $22,500,000 at December 31, 1997) as a current obligation, are as follows: Year ending December 31: 1998 $ 22,857,386 1999 375,522 2000 437,003 2001 398,270 2002 433,981 Thereafter 864,043 ------------- $ 25,366,205 ============= The Company believes that the carrying value of the debt approximates its fair market value at December 31, 1997 and 1996, as the Company's borrowing rate has not changed substantially since the issuance of the majority of its debt. NOTE 10: OBLIGATIONS UNDER CAPITAL LEASES The Company leases certain computer equipment under capital leases expiring through October 2002. Future minimum lease payments for each of the next five years are as follows: Year ending December 31: 1998 $ 37,301 1999 31,306 2000 15,200 2001 12,929 2002 656 ------------- Total minimum lease payments 97,392 Less amount representing interest 22,189 ------------- Present value of net minimum lease payments 75,203 Less current portion 26,367 ------------- Long-term portion $ 48,836 ============= CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 11: COMMITMENTS AND CONTINGENCIES Operating Leases and Other Commitments: The Company leases office, broadcast space and a transmitter site from related parties, including a Company director. Other commitments include office equipment, satellite transmission rights, local programming and marketing agreements, license agreements and similar type contracts. Future minimum lease and other commitment payments are as follows for the years ending December 31: Related Third Parties Parties Total ------------- ------------ ------------ 1998 $ 309,374 $ 468,059 $ 777,433 1999 313,000 342,687 655,687 2000 324,000 138,205 462,205 2001 280,000 103,496 383,496 2002 - 60,549 60,549 ------------- ------------ ------------ $1,226,374 $1,112,996 $2,339,370 ============= ============ ============ Total rent expense was $878,363 and $792,069 for the years ended December 31, 1997 and 1996, respectively, and rent expense to related parties totaled $288,608 and $244,518, respectively. AAHS Children's Foundation: In December 1994, the AAHS Children's Foundation was incorporated and the Company's board of directors authorized the contribution of 25,000 shares of the Company's common stock to capitalize the Foundation. No shares have been issued as of December 31, 1997. A contribution expense will be recorded for the fair market value of the shares on the date the shares are actually issued. Pending Litigation: Following the termination of the ABC Radio Network's Joint Operations Agreement (the "Agreement") (Note 13) by ABC, the Company filed a lawsuit against The Walt Disney Company and ABC for relief and to recover damages for their alleged attempts to misappropriate the Company's confidential information and trade secrets acquired through their strategic relationship with the Company in order to unfairly compete with the Company. There can be no assurance that the Company will prevail in this litigation or recover any of the damages CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 11: COMMITMENTS AND CONTINGENCIES (CONTINUED) Pending Litigation (Continued): sought. Additionally, ABC has subsequently filed a counterclaim against the Company alleging that CBC owed certain fees to ABC pursuant to the Agreement. The Company denies that any fees are due ABC. ABC seeks an unspecified amount of damages. Management believes that should ABC prevail upon its counter-claim, the resulting damages would not have a material impact on the Company. In connection with this lawsuit, the Company issued 200,000 shares of the Company's common stock for payment of the legal fees aggregating $832,627. Additionally, the Company has entered an agreement with its primary counsel for this litigation. Under the agreement counsel has agreed to make twenty-five percent of their fees contingent upon the successful outcome of this lawsuit in exchange for seven and one half percent of any settlement or judgement in favor of the Company. At December 31, 1997, the fees deferred under this agreement totaled approximately $265,000. Transaction Commissions: The Company has two active brokerage agreements whereby the brokers will receive a commission in the event of the completion of certain defined financing, radio station sale, and strategic partnership transactions with specified parties. As of December 31, 1997 and 1996, no amounts were due under the agreements. 401(k) Savings/Profit-Sharing Plan: The Company has a 401(k) plan available to all employees meeting certain service requirements. Eligible employees may contribute a portion of their annual salary to the plan, subject to certain limitations. The Company may make matching contributions and also may provide profit-sharing contributions at the discretion of its board of directors. Employees become fully vested in the Company contributions after five years of service. There were no Company contributions in 1997 or 1996. Harmony Common Stock Put Option: In connection with the Company's investment in Harmony, the Company agreed to purchase an additional 225,000 shares of Harmony common stock for a cash payment of $562,500 at the option of the seller. In February 1998, the seller exercised this put option and accordingly the Company is required to purchase the aforementioned shares no later than March 31, 1998. CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 11: COMMITMENTS AND CONTINGENCIES (CONTINUED) Land Purchase Agreement: In August 1997, the Company entered an agreement to purchase land for the improvement of its KPLS(AM) broadcast signal. Under the agreement, the Company may purchase approximately sixty acres of land for a cash payment of $3,210,000. Additionally, the Company must make escrow deposits of $5,000 per month until the transaction is closed which must occur by August 1998. However, the closing may be extended for approximately six months at the Company's option for a cash payment of $20,000. NOTE 12: REDEEMABLE CONVERTIBLE PREFERRED STOCK On August 23, 1994, the Company issued 290,213 shares of redeemable convertible preferred stock in partial payment for acquiring certain assets and liabilities of Orange County Broadcasting Corporation. This stock was redeemed in November 1996 for consideration totaling $2,615,595 utilizing funds received in connection with the Company's finance company note payable (Note 9). For financial reporting purposes, the preferred stock had been discounted from its stated value of $10 per share at the redemption date, originally five years from the date of issuance to its present value using a discount rate of 7%. Prior to the redemption, this balance had been accreted to its stated value over the original five-year nonredeemable period. NOTE 13: SHAREHOLDERS' EQUITY Common Stock: The Company has authorized 50,000,000 shares of common stock at $.02 par value. The Company has issued 6,460,824 voting shares of which 6,460,824 and 5,609,239 are outstanding at December 31, 1997 and 1996, respectively, and 189,041 nonvoting shares of which all are outstanding at December 31, 1997 and 1996. Public Securities Offering: In March 1996, the Company issued 2,200,000 shares of its common stock at a price of $10 per share resulting in proceeds net of commission and other direct expenses (aggregating $2,215,503) of $19,784,497. Additionally, the direct public offering expenses include payment of $100,000 to a corporation related through common control as a bonus to that company for the contributions its employees made towards the successful completion of the offering. Incentive and Non-Qualified Stock Options Plans: The Company established a stock option plan in 1991 to provide incentives to employees whereby 100,000 shares of the Company's common stock have been granted. The options are CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 13: SHAREHOLDERS' EQUITY (CONTINUED) Incentive and Non-Qualified Stock Options Plans (Continued): exercisable on the date of grant and are generally valued at the fair market value of the stock on the date of grant. The options expire on various dates through January 2005. During 1991, the Company also established a plan to grant non-qualified stock options to key employees and directors of the Company. These options vest over varying periods or upon the occurrence of specific events and expire through April 2003. In March 1994, the board adopted the 1994 Stock Option Plan whereby 1,000,000 shares of the Company's common stock have been reserved. The options can be either incentive stock options or nonstatutory options and are generally valued at the fair market value of the stock on the date of grant. The options generally vest over a five-year period and expire through January 2005. In May 1994, the board adopted the 1994 Director Stock Option Plan whereby 125,000 shares of the Company's common stock have been reserved. The plan provides for automatic grants of non-qualified options to purchase 3,750 shares to outside directors upon first becoming a director and an additional 3,750 shares upon each anniversary of the original grant. The options are generally valued at the fair market value of the stock on the date of grant. The shares become exercisable one year from the date of grant and expire five years thereafter. In May 1996, the Board adopted the 1996 employee stock purchase plan whereby 400,000 shares of the Company's common stock have been reserved. The reserved shares may be purchased at their fair market value during specified offering periods. No shares were issued under the plan during 1997 and 1996. A summary of the status of the Company's stock option plans as of December 31, 1997 and 1996 and changes during the years ending on those dates is presented below:
1997 1996 ------------------------ ----------------------- Weighted- Weighted- Average Average Exercise Exercise Fixed Options Shares Price Shares Price ---------------------------------- ----------- ---------- ----------- ---------- Outstanding at beginning of year 1,343,806 $ 5.74 570,316 $ 6.71 Granted........................... 199,250 3.52 831,015 5.24 Exercised......................... (123,000) 2.00 (21,782) 7.94 Forfeited......................... (47,655) 5.86 (35,743) 7.36 ---------- --------- Outstanding at end of year........ 1,372,401 5.76 1,343,806 5.74 ========== ========= Options exercisable at year end... 518,393 6.71 436,425 6.33 Weighted-average fair value of options granted during the year $ 2.21 $ 2.56
CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 13: SHAREHOLDERS' EQUITY (CONTINUED) Incentive and Non-Qualified Stock Options Plans (Continued): The following table summarizes information about stock options outstanding at December 31, 1997:
Options Outstanding Options Exercisable ----------------------------------------------------- ---------------------------------------- Weighted- Weighted- Weighted- Number Average Average Number Average Range of Outstanding Remaining Exercise Exercisable Exercise Exercise Prices at 12/31/97 Contractual Life Price at 12/31/97 Price ----------------- ------------- ---------------- ------------ ------------- ---------- $ 2.00 to 4.99 575,526 4.1 years $ 3.53 181,076 $ 3.54 5.00 to 7.99 466,125 3.6 years 6.40 98,625 7.41 8.00 to 12.76 330,750 2.6 years 8.71 238,692 8.83 --------- ------- 2.00 to 12.76 1,372,401 3.6 years 5.76 518,393 6.71 ========= =======
Included in the table above are certain options outstanding which are performance based which become exercisable on the achievement of certain goals reached, but no later than 2005. A summary of these performance-based options is presented below:
1997 1996 ------------------------------- ------------------------ Weighted- Weighted- Average Average Exercise Performance Options Shares Exercise Price Shares Price -------------------------------- ------------ -------------- ---------- ----------- Outstanding at beginning of year 160,625 $ 7.70 183,125 $ 7.43 Granted......................... - - 2,500 8.38 Exercised....................... - - - - Forfeited....................... (1,875) 8.38 (25,000) 7.26 ----------- -------------- ---------- -------- Outstanding at end of year...... 158,750 7.59 160,625 7.60 ============ ============== ========== ======== Options exercisable at year end 50,000 7.70 50,000 7.70 Weighted-average fair value of options granted during the year $ - $ 4.02
As of December 31, 1997 the performance options outstanding under the Plans have exercise prices between $7.26 and $8.38 and a weighted-average remaining contractual life of 2.2 years. FASB Statement 123, Accounting for Stock-Based Compensation, requires the Company to provide pro forma information regarding net income and earnings per share as if compensation CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 13: SHAREHOLDERS' EQUITY (CONTINUED) Incentive and Non-Qualified Stock Options Plans (Continued): cost for the Company's stock option plans had been determined in accordance with the fair value based method prescribed in FASB Statement 123. The Company estimates the fair value of each stock option at the grant date by using the Black-Scholes option-pricing model with the following weighted-average assumptions used for grants in 1997 and 1996, respectively: no dividend yield for each year; weighted average estimated option life 5.0 and 2.5 years; expected volatility of 69.3 and 70.2 percent; and risk-free interest rates of 6.3 and 6.0 percent. Under the accounting provisions of FASB Statement 123, the Company's net loss and loss per share would have been reduced to the pro forma amounts indicated below: 1997 1996 --------------- -------------- Net loss: As reported $ (14,558,353) $ (9,867,879) Pro forma (15,155,046) (11,996,781) Net loss per share As reported (2.33) (1.99) Pro forma (2.43) (2.40) Affiliate Warrant Program: In 1994, the Company implemented a program whereby the Company could grant warrants to affiliates carrying its programming and has reserved 375,000 shares of its common stock for issuance under this program. Warrants are to be granted to affiliates based upon number of persons within the affiliate's area (coverage). Warrants are issued to purchase 500 shares of common stock for a specified coverage area. The warrants vest in one-third increments upon the first three anniversary dates of entry into an affiliation agreement, contingent upon such affiliates having carried the Company programming for at least 18 hours per day for the preceding year as specified in the affiliation agreement. The warrants expire two years following full vesting. This program qualifies as a performance based warrant program under which performance expense will be measured at each anniversary date. No warrants were issued under this program in 1997 or 1996. CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 13: SHAREHOLDERS' EQUITY (CONTINUED) Sponsor Partnership Warrant Program: In 1994, the Company reserved 250,000 shares of its common stock under a program to grant warrants to qualified sponsors committing to a three-year advertising program. This commitment must be renewed in years two and three in order for the warrants to vest. This program qualifies as a performance based warrant program under which an expense will be measured as the warrants vest. No warrants have been issued under this program. Warner Music Agreement: In June 1994, the Company entered into an agreement with Warner Music Enterprises, Inc. under which the Company granted an exclusive license to manufacture, market and distribute a Radio AAHS Magazine and compact disc. Upon signing this agreement, the Company granted Warner Music Enterprises, Inc. warrants to purchase 100,000 shares of the Company's common stock at $7.64 per share. In November 1995, Time Warner announced the closing of Warner Music Enterprises, the division responsible for producing the Radio AAHS magazine resulting in the 1996 cancellation of the warrants. ABC Radio Networks Joint Operations Agreement: In November 1995, the Company entered into an agreement with ABC Radio Networks, Inc. pursuant to which ABC's affiliate development and national advertising sales staffs were to add the Radio AAHS format to their inventory, assisting the Company in marketing the format to broadcasters and advertisers. The agreement also provided for a cooperative effort in developing sales, marketing and research programs. In consideration for entering into the agreement and providing services to the Company, ABC received a payment of $25,000 per month and a warrant to purchase 1,088,684 non-voting shares of common stock. The value of these warrants was determined to be approximately $2,221,000 using the Black-Scholes option-pricing model. Approximately $606,000 was charged to operations during the period January to July 1996. In July 1996, ABC notified the Company of its intent to terminate the agreement and the remaining balance of $1,518,500 was written-off and the warrant was canceled. Brokerage Fees: In July 1996 and in connection with the acquisition of WJDM(AM), Elizabeth, New Jersey (Note 3), the Company granted warrants to purchase 125,000 shares of the Company's common stock at an exercise price of $11.00 per share as a brokerage commission. The warrants became exercisable in June 1997 and expire in June 2002. CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 13: SHAREHOLDERS' EQUITY (CONTINUED) Brokerage Fees (Continued): In March 1997 and in connection with obtaining the Credit Agreement (Note 9), the Company issued 37,500 shares of common stock with an aggregate value of $154,687 as a brokerage commission. Finance Company Credit Agreement: In connection with the original completion and subsequent amendments of the Credit Agreement (Note 9), the Company granted the finance company warrants to purchase 350,000 shares of the Company's common stock at exercise prices ranging from $3.76 to $5.29. The warrants became immediately exercisable and expire through September 2002. The warrants also are convertible into a variable number of shares of common stock which, upon conversion, allows the finance company to receive a benefit of an amount equal to the amount obtainable if the options were exercised without payment of the related exercise price. Additionally, on March 13, 1998, the Credit Agreement was amended (Note 16). In connection with this subsequent amendment, the Company granted the finance company a warrant to purchase 100,000 shares of the Company's common stock for $3.68 per share and amended the exercise price on a previously granted warrant for 100,000 shares of the Company's common stock from $5.29 to $3.68 per share. The following table summarizes the warrants to purchase shares of the Company's common stock:
Exercise Warrants Price Outstanding Exercisable Per Share ------------ ----------- -------------- Balance at January 1, 1996 2,261,145 2,247,144 $2.40 - $13.80 Granted: Brokerage fee 125,000 - 11.00 Short-term debt 57,500 57,500 13.00 Credit Agreement 50,000 50,000 4.40 Exercised: Private placements warrants (12,500) (12,500) 4.00 Other (1,870) (1,870) 2.40 Canceled: ABC Radio Networks, Inc. (1,088,684) (1,088,684) 7.63 Warner Music Enterprises (100,000) (100,000) 7.63 ----------- ------------ --------------
CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 13: SHAREHOLDERS' EQUITY (CONTINUED) Balance at December 31, 1996 1,290,591 1,151,590 $2.40 - $13.80 Granted: Credit Agreement 100,000 100,000 5.29 Credit Agreement 200,000 200,000 3.76 Short-term debt 125,000 125,000 4.00 Exercised: Other (15,050) (15,050) 2.40 Became exercisable - 125,000 11.00 ------------ ----------- -------------- Balance at December 31, 1997 1,700,541 1,686,540 $2.40 - $13.80 ============ =========== ==============
Included in the table above are warrants issued in connection with the finance company Credit Agreement, bridge loans and other short-term notes payable. The value of these warrants is charged to interest expense over the term of the related debt agreement and during the years ended December 31, 1997 and 1996, the Company incurred interest expense aggregating approximately $103,859 and $238,000, respectively. The value of the warrants related to the issuance of new debt was determined based on the difference between the stated interest rate and the Company's estimated effective borrowing rate. NOTE 14: RELATED PARTY TRANSACTIONS The Company has a management services contract with a privately held affiliate (the "Management Company") related to the Company through common control. The contract, which expires in December 1999 and is renewable annually thereafter, requires that the Company pay the Management Company a fee of $75,000 per month for services received. The management fees totaled $900,090 and $750,000 in 1997 and 1996, respectively. The Management Company also provides services to another privately held affiliate related to the Company through common control. The management fee is based on estimated usage of the Management Company's services by each company. Management reviews the allocation periodically and believes that the allocation method is reasonable. Additionally, at December 31, 1997 and 1996, accounts receivable (payable) aggregating $142,868 and $(44,367), respectively, were outstanding from (to) several affiliates related to Company through common control. These accounts result primarily from the allocation of shared expenses. CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 15: INCOME TAXES At December 31, 1997, the Company has net operating loss carryforwards as follows for income tax purposes: Net Operating Loss Carryforward Expires Carryforward -------------------- ------------------ 2001 $45,778 2002 23,703 2004 24,057 2005 58,988 2006 19,053 2007 1,009,553 2008 3,314,683 2009 4,256,245 2010 5,923,651 2011 7,257,593 2012 (approximate) 13,000,000 ----------- $34,933,304 =========== A reconciliation of the statutory federal income tax rate (benefit) and the effective tax rate as a percentage of income (loss) before taxes on income is as follows:
1997 1996 --------- -------- Statutory rate (benefit) (34.0)% (34.0)% Operating losses generating no current tax benefit 34.0% 26.7 Deferred warrant costs associated with the terminated ABC marketing agreement - 7.3 ----- ----- Effective tax rate -% -% ===== ===== Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the Company's deferred tax assets and liabilities as of December 31 are as follows: 1997 1996 ----------- ----------- Deferred tax assets: Net operating loss carryforwards $12,943,000 $ 8,086,000 Excess of subsidiary stock tax basis over the amount for financial reporting 3,814,000 3,814,000 Other items not yet deductible for tax purposes 466,000 69,000 ------------ ----------- Total long-term deferred tax asset 17,223,000 11,969,000
CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 15: INCOME TAXES (CONTINUED) Deferred tax liability: Amortization and the excess of broadcasting license financial reporting basis over the amounts for taxes 3,356,000 3,592,000 ------------ ------------ Total net long-term deferred tax asset 13,867,000 8,377,000 Valuation allowance for net deferred tax assets (13,867,000) (8,377,000) ------------ ------------ Net deferred tax assets $ - $ - ============ ============
As the Company has posted consistent losses since inception, realization of the tax benefit related to these net deferred tax asset is uncertain. Accordingly, no deferred tax asset has been recorded to reflect their potential value. The net change in the deferred tax valuation allowance was an increase of $5,490,000 and $2,836,000 in 1997 and 1996, respectively. NOTE 16: SUBSEQUENT EVENTS Note Payable - Harmony: In January 1998, the Company received proceeds totaling $611,000 and paid debt issue costs of $39,000 through the issuance of a note payable to Harmony (Note 4) with a face amount of $650,000. The note payable bears interest at 15%, is unsecured and due upon demand. Shareholder Rights Plan: In February 1998, the Company adopted a Shareholder Rights Plan designed to enable the Company and its board to develop and preserve long-term values for shareholders and to protect shareholders in the event an attempt is made to acquire control of Company through certain coercive or unfair tactics or without an offer of fair value to all shareholders. The plan provides for distribution of a common share purchase right to each shareholder of record of the Company's common stock on February 27, 1998. Under the plan, these rights to purchase common shares will generally be exercisable a certain number of days after a person or group acquires or announces an intention to acquire 20% or more of the Company's common stock. Each right entitles the holder, after the rights become exercisable, to receive shares of Company common stock having a market value of two times the exercise price of the right or securities of the acquiring entity at one-half their market value at that time. CHILDREN'S BROADCASTING CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 16: SUBSEQUENT EVENTS Amendment of the Credit Agreement: On March 13, 1998, the Credit Agreement (Note 9) was amended pursuant to an additional term note payable advance of $1,000,000 of which the Company received proceeds totaling $900,000 and paid a loan fee of $100,000. The provisions of the Credit Agreement remained substantially unchanged as a result of the amendment, except that the variable interest rate was increased by 1% to 13.25% at March 13, 1998, a principle installment of $500,000 due March 31, 1998 was deferred until April 16, 1998, and the Company received a waiver of certain debt covenants which the Company had not met as of December 31, 1997. As additional consideration for the amendment, the Company issued the finance company an additional warrant to purchase 100,000 shares of the Company's common stock and amended the exercise price of a previously granted warrant (Note 13). ITEM 8 CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE On June 27, 1996, the Board of Directors engaged BDO Seidman, LLP as the Company's new independent accountant for the fiscal year ending December 31, 1996. During the years ended December 31, 1994 and 1995, and through June 27, 1996, the Company did not consult with BDO Seidman, LLP on items which (1) involved the application of accounting principles to a specified transaction, either completed or proposed, or involved the type of audit opinion that might be rendered on the Company's financial statements, or (2) concerned the subject matter of a disagreement or reportable event with the former auditor (as described in Regulation S-K, Item 304(a)(2). On June 27, 1996, the Company dismissed Ernst & Young LLP as its independent accountant. Except for an explanatory paragraph with respect to substantial doubt about the Company's ability to continue as a going concern and management's plans described in Note 2 to the Company's consolidated financial statements as of and for the years ended December 31, 1994 and 1995, the reports of Ernst & Young LLP on the financial statements for such fiscal years contained no adverse opinion or disclaimer of opinion and were not qualified or modified as to uncertainty, audit scope or accounting principles. The Company's Audit Committee and Board of Directors participated in and approved the decision to change independent accountants. In connection with its audits for the years ended December 31, 1994 and 1995, and through June 27, 1996, there were no disagreements with Ernst & Young LLP on any matter of accounting principles or practices, financial statement disclosure, or auditing scope or procedure, which disagreements if not resolved to the satisfaction of Ernst & Young LLP would have caused them to make reference thereto in their report on the financial statements for such years. During the years ended December 31, 1994 and 1995, and through June 27, 1996, there were no reportable events (as defined in Regulation S-K, Item 304(a)(1)(v)). PART III ITEM 9 DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT MANAGEMENT
Name Age Position -------------------- --- -------------------------------------------------- Christopher T. Dahl 54 Chairman of the Board of Directors, President and Chief Executive Officer James G. Gilbertson 36 Chief Operating Officer, Chief Financial Officer and Treasurer Lance W. Riley 47 General Counsel and Secretary Gary W. Landis 44 Executive Vice President of Programming Barbara A. McMahon 42 Executive Vice President of Affiliate Relations Rick E. Smith 36 Executive Vice President of National Sales Richard W. Perkins 67 Director Russell Cowles II 61 Director Michael R. Wigley 44 Director
CHRISTOPHER T. DAHL has been Chairman of the Board, President and Chief Executive Officer of the Company since its inception in February 1990. Mr. Dahl is Chairman and Chief Executive Officer of CAC and a director of RMC. Prior to founding CAC in 1986, Mr. Dahl managed his private investments. From 1969 to 1979, he was the founder and President of a group of companies involved in photofinishing, retail photo sales, home sewing notions, toy distribution and retail craft stores. He was employed by Campbell-Mithun and Knox Reeves Advertising from 1965 through 1969. Mr. Dahl is also Chairman of the Board of Harmony. JAMES G. GILBERTSON has served as the Company's Chief Operating Officer since April 1996 and its Chief Financial Officer since July 1992. From June 1988 to July 1992, he was the Chief Financial Officer of Parker Communications, which operated a group of radio stations. From 1985 to June 1988, he was Controller of the radio division of Palmer Communications located in Des Moines, Iowa. Prior to joining Palmer Communications, Mr. Gilbertson was a practicing certified public accountant with the firm of Ernst & Young LLP. Mr. Gilbertson is also an executive officer of Harmony. LANCE W. RILEY became the General Counsel and Secretary of the Company in March 1994. Mr. Riley has been practicing law since 1977. His primary area of practice is radio broadcasting and he held the position of Chairman of the Communications Law Section of the Minnesota Bar Association from 1990 to 1994. Mr. Riley has been Of Counsel with the firm of Hessian & McKasy, P.A. (f/k/a Hessian, McKasy & Soderberg, P.A.) since 1994. Prior to joining the Company, Mr. Riley was partner in the firm of Courey, Albers, Gilbert and Riley P.A. Mr. Riley is also an officer of Harmony. GARY W. LANDIS has served as the Company's Vice President of Programming since December 1992 and became an Executive Vice President in July 1994. From 1985 to 1992, Mr. Landis served as Vice President of Programming for Westwood One, the second largest radio network company in the U.S. Between 1982 and 1985, Mr. Landis served as Director of Programming for the RKO Radio Networks. BARBARA A. MCMAHON joined the Company in June 1993 to oversee the growth of the network through affiliates and was promoted to Executive Vice President of Affiliate Relations in June 1996. During the years 1980 through 1989, Ms. McMahon served as Director for NBC Radio Networks, Mutual Broadcasting and RKO Radio Networks. RICK E. SMITH became the Company's Executive Vice President of National Sales in October 1996. From September 1994 to April 1995, he served as Affiliate Relations Manager and then assumed the position of Marketing Manager. Mr. Smith served as Vice President of Sales and Marketing for Uncle B's Bakery, a national food manufacturer, from 1989 to 1994. RICHARD W. PERKINS has been a director of the Company since its inception. For more than five years, Mr. Perkins has been President and Chief Executive Officer of PCM, a registered investment advisor. Mr. Perkins is also a director of CAC and RMC as well as the following publicly held companies: Bio-Vascular, Inc., a medical products manufacturer; CNS, Inc., a consumer products manufacturer; Lifecore Biomedical, Inc., a medical device manufacturer; Nortech Systems, Inc., an electronic sub-systems manufacturer; Eagle Pacific Industries, Inc., a manufacturer of plastic pipe; Quantech LTD., a developer of immunological tests; and Harmony. RUSSELL COWLES II was elected in 1994 as a director of the Company, subject to either obtaining a waiver from the FCC of the application of its cross-ownership rules or the amendment of such rules to remove existing restrictions. In March 1998, following his sale of interests which implicated the FCC's cross-ownership rules, Mr. Cowles assumed his role as a director. Mr. Cowles has served as a Trustee of the Cowles Family Voting Trust since 1984. Mr. Cowles was previously employed in the production, distribution, financial and planning departments of the Minneapolis STAR TRIBUNE and worked in the engineering and production departments of radio and television broadcasting stations. Mr. Cowles is also a director of CAC and RMC. MICHAEL R. WIGLEY was elected to the Company's Board of Directors in February 1998, to fill the vacancy created by the resignation of Rodney P. Burwell and to serve until the next Annual Meeting of Shareholders. Mr. Wigley is President and Chief Executive Officer of Great Plains Companies, Inc. ("Great Plains"), a building material and supply company based on Roseville, Minnesota. He has served as its President since 1989. Mr. Wigley is also Chairman and Chief Executive Officer of four subsidiaries of Great Plains, as well as Chairman and Chief Executive Officer of Great Plains Properties, Inc. and TerrDek Lighting, Inc., two independent privately-held companies. He co-founded the Minnesota branch of McKinsey & Company, where he managed various teams of consultants from 1986 to 1989. Mr. Wigley holds a M.B.A. from Harvard University and a M.S. in Civil Engineering from Stanford University. Section 16(a) of the Securities Exchange Act of 1934, as amended, requires the Company's officers, directors and persons who own more than 10% of a registered class of the Company's equity securities to file reports of ownership and changes in ownership with the Commission. Such officers, directors and shareholders are required by the Commission to furnish the Company with copies of all such reports. To the Company's knowledge, based solely on a review of copies of reports filed with the Commission during 1997, all applicable Section 16(a) filing requirements were satisfied. ITEM 10 EXECUTIVE COMPENSATION The following table sets forth the aggregate cash compensation paid to or accrued by each of the Company's executive officers receiving in excess of $100,000 (the "Named Executive Officers") for services rendered to the Company during the fiscal years ended December 31, 1997, 1996 and 1995. SUMMARY COMPENSATION TABLE
LONG-TERM COMPENSATION ---------------------- ANNUAL COMPENSATION AWARDS ------------------- ---------------------- NAME AND SECURITIES UNDERLYING PRINCIPAL POSITION YEAR SALARY($) BONUS($) OPTIONS ------------------ ---- --------- -------- ---------------------- Christopher T. Dahl 1997 210,000 - 37,500(1) President and 1996 210,000 56,500 150,000(2)(3) Chief Executive 1995 210,000 12,500 41,250(4) Officer James G. Gilbertson 1997 123,500 - 25,000(1) Chief Operating 1996 123,500 55,875 100,000(3)(5) Officer 1995 97,500 17,500 25,000(6)(7) Gary W. Landis 1997 125,000 - 12,500(1) Executive Vice 1996 125,000 12,500 75,000(3)(8) President of 1995 125,000 -- 45,000(9) Programming Lance W. Riley 1997 118,750 - 12,500(1) General Counsel 1996 110,833 42,500 75,000(3)(8) and Secretary 1995 95,000 15,000 40,000(10) Denny J. Manrique(11) 1997 122,655 6,000 9,000(1) Executive Vice 1996 117,023 1,000 43,000(12) President of Sales 1995 101,082 -- -- Development
- --------------- (1) Option grants at $3.50 per share pursuant to the Company's 1994 Stock Option Plan. (2) Option grant of 50,000 shares at $5.88 per share and 75,000 shares at $3.50 per share pursuant to the Company's 1994 Stock Option Plan. (3) Non-qualified grant of options for 25,000 shares at $5.88 per share. (4) Non-qualified grant of options for 41,250 shares at $7.70 per share. (5) Option grant of 25,000 shares at $5.88 per share and 50,000 shares at $3.50 per share pursuant to the Company's 1994 Stock Option Plan. (6) Option grant of 12,500 shares at $7.26 per share pursuant to the Company's 1991 Stock Option Plan. (7) Option grant of 12,500 shares at $7.26 per share pursuant to the Company's 1994 Stock Option Plan. (8) Option grant of 25,000 shares at $5.88 per share and 25,000 shares at $3.50 per share pursuant to the Company's 1994 Stock Option Plan. (9) Option to purchase 17,500 shares at $7.26 per share pursuant to the Company's 1994 Stock Option Plan and non-qualified grants of options for 27,500 shares at $9.50 per share. (10) Option grant of 25,000 shares at $7.25 per share pursuant to the Company's 1991 Stock Option Plan and non-qualified options of 15,000 shares at $9.50 per share. (11) Mr. Manrique's employment with the Company terminated on February 1, 1998. (12) Option grant of 25,000 shares at $8.38 per share and 18,000 shares at $3.50 per share pursuant to the Company's 1994 Stock Option Plan. The following table sets forth the number of securities underlying options granted in1997, the percent the grant represents of the total options granted to employees during such fiscal year, the per share exercise price of the options granted, and the expiration date of the options for the Named Executive Officers. OPTION GRANTS IN LAST FISCAL YEAR
NUMBER OF PERCENT OF TOTAL SECURITIES OPTIONS GRANTED TO UNDERLYING OPTIONS EMPLOYEES IN FISCAL EXERCISE PRICE NAME GRANTED YEAR ($/SHARE)(1) EXPIRATION DATE --------------------------------- ------------------ ------------------- -------------- --------------- Christopher T. Dahl.............. 37,500 19.9 3.50 6/2/02 James G. Gilbertson.............. 25,000 13.3 3.50 6/2/02 Gary W. Landis................... 12,500 6.6 3.50 6/2/02 Lance W. Riley................... 12,500 6.6 3.50 6/2/02 Denny J. Manrique................ 9,000 4.8 3.50 6/2/02
- --------------- (1) Fair market value on the date of grant, in accordance with the Company's 1994 Stock Option Plan. The following table sets forth certain information regarding options exercised by the Named Executive Officers during 1997 and the number and value of unexercised in-the-money options for the Named Executive Officers at December 31, 1997. AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR AND FISCAL YEAR-END OPTION VALUES
NUMBER OF SECURITIES VALUE OF UNEXERCISED UNDERLYING IN-THE-MONEY OPTIONS UNEXERCISED OPTIONS AT FISCAL AT FISCAL YEAR END YEAR END($)(1) SHARES -------------------- -------------------- ACQUIRED ON VALUE EXERCISABLE/ EXERCISABLE/ NAME EXERCISE REALIZED($) UNEXERCISABLE UNEXERCISABLE ----------------------------- ----------- ----------- -------------------- -------------------- Christopher T. Dahl.......... 25,000 45,313 80,625/198,125 107,188/286,563 James G. Gilbertson.......... 10,750 18,141 57,917/129,583 71,458/191,042 Gary W. Landis............... - - 48,542/103,958 35,729/95,521 Lance W. Riley............... - - 45,208/107,292 35,729/95,521 Denny J. Manrique............ - - 25,406/26,594 25,725/68,775
- --------------- (1) Market value of underlying securities at fiscal year end minus the exercise price. ITEM 11 SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The following table contains certain information as of March 15, 1998, regarding the beneficial ownership of the Company's Common Stock by (i) each person known by the Company to own beneficially more than 5% of the Company's Common Stock, (ii) each director, nominee for director and executive officer of the Company and (iii) the executive officers of the Company and directors as a group, and as to the percentage of the outstanding shares held by them on such date. Any shares which are subject to an option or a warrant exercisable within 60 days are reflected in the following table and are deemed to be outstanding for the purpose of computing the percentage of Common Stock owned by the option or warrant holder but are not deemed to be outstanding for the purpose of computing the percentage of Common Stock owned by any other person. Unless otherwise noted, each person identified below possesses sole voting and investment power with respect to such shares. The business address of Messrs. Dahl, Gilbertson, Riley, Landis, Smith and Ms. McMahon is 724 First Street North, Minneapolis, Minnesota 55401. SHARES PERCENT BENEFICIALLY OF OWNED (1) CLASS ---------------- --------- Perkins Capital Management, Inc............. 1,609,771(2) 25.1% 730 East Lake Street Wayzata, Minnesota 55391 Heartland Advisors, Inc..................... 1,455,100(3) 22.7% 790 North Milwaukee Street Milwaukee, Wisconsin 53202 Christopher T. Dahl......................... 574,236(4) 8.8% Richard W. Perkins.......................... 487,709(5) 7.3% Foothill Capital Corporation................ 450,000(6) 6.3% 11111 Santa Monica Boulevard Los Angeles, California 90025 Russell Cowles II........................... 283,139(7)(8) 4.4% John Cowles Family Trust ................... 214,041(8) 3.3% Sherburne and Coughlin, Ltd. 708 South 3rd Street, Suite 510 Minneapolis, Minnesota 55415 James G. Gilbertson......................... 78,583(9) 1.2% Gary W. Landis.............................. 51,250(10) * Lance W. Riley.............................. 47,917(10) * Barbara A. McMahon.......................... 45,600(10) * Rick E. Smith............................... 39,550(10) * Michael R. Wigley........................... 6,250(10) * All Directors and Executive Officers as a Group (12 persons)................ 1,614,233(11) 22.1% - --------------- * Less than 1% (1) Securities "beneficially owned" by a person are determined in accordance with the definition of "beneficial ownership" set forth in the regulations of the Commission and, accordingly, may include securities owned by or for, among others, the spouse, children or certain other relatives of such person as well as other securities as to which the person has or shares voting or investment power or has the option or right to acquire Common Stock within 60 days. (2) Based upon statements filed with the Commission, PCM is a registered investment adviser of which Richard W. Perkins, a director of the Company, is President. As set forth in Schedule 13G filed with the Commission on February 11, 1998, PCM has the sole right to sell such shares and has sole voting power over 70,286 of such shares. Mr. Perkins and PCM disclaim any beneficial interest in such shares. Excludes shares beneficially owned by Mr. Perkins. (3) As set forth in Schedule 13G filed with the Commission on January 23, 1998. Such shares are held in investment advisory accounts. As a result, various persons have the right to receive or the power to direct the receipt of dividends from, or the proceeds from the sale of, such shares. Includes 590,000 shares held by Heartland Value Fund, a series of Heartland Group, Inc., a registered investment company. Includes 1,257,100 shares over which Heartland Advisors, Inc. claims sole voting power, and 1,455,100 shares over which sole dispositive power is claimed. (4) Includes 113,750 shares purchasable upon the exercise of options and warrants. (5) Includes (i) 239,690 shares owned directly by Mr. Perkins, (ii) 6,769 shares beneficially owned by Mr. Perkins through Perkins Capital Management, Inc. Profit Sharing Plan and Trust and Perkins Foundation, (iii) 235,625 shares purchasable upon the exercise of options and warrants by Mr. Perkins and (iv) 5,625 shares purchasable upon the exercise of warrants by Perkins Capital Management, Inc. Profit Sharing Plan and Trust and Perkins Foundation. Mr. Perkins has the sole right to sell such shares and has sole voting power over 239,690 of such shares. Mr. Perkins' beneficial ownership excludes shares held for the accounts of clients of PCM. (6) Represents shares purchasable upon the exercise of warrants. (7) Includes 12,500 shares purchasable upon the exercise of warrants. Mr. Cowles beneficially owns (i) 189,041 shares owned by the John Cowles Family Trust and (ii) 25,000 shares purchasable by the John Cowles Family Trust upon the exercise of warrants. (8) The shares owned by the John Cowles Family Trust are non-voting shares. (9) Includes 63,333 shares purchasable upon the exercise of options. (10) Represents shares purchasable upon the exercise of options or warrants. (11) Includes 646,400 shares purchasable upon exercise of options and warrants. ITEM 12 CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Leases The studios and tower site of WWTC(AM) and KYCR(AM) are located in St. Louis Park, Minnesota. The studio facility consists of approximately 12,000 square feet. The tower site includes four 200-foot towers, a transmitter building and a storage garage on approximately 16 acres. The tower site is leased from Mr. Dahl at a total annual rent of approximately $114,000, and the studio site is leased from a partnership consisting of Messrs. Dahl and Perkins at an annual rent of approximately $132,000. In January 1996, the Company entered into a five-year lease with 724 Associates, a partnership consisting of Messrs. Dahl, Perkins and a shareholder of the Company, for 3,000 square feet of office space at 724 North First Street, Minneapolis, Minnesota. These facilities are leased at annual rental of $54,000 and house the Company's executive offices. The executive offices are adjacent to the offices of CAC and RMC. CAC is owned and controlled by Messrs. Dahl, Perkins and Cowles, either directly or through trusts. RMC is owned by Messrs. Dahl, Perkins and Cowles. Mr. Cowles is a beneficiary and trustee of the John Cowles Family Trust, and the Trust is a principal shareholder of the Company. Under the terms of each of the leases, the Company is obligated to pay its proportionate share of repairs and maintenance. These arrangements were approved by the Related Party Transaction Committee of the Company's Board of Directors, which is comprised of disinterested directors, and the Company believes such arrangements were on terms at least as favorable as could have been obtained from unaffiliated third parties. Management Services From an Affiliate Since July 1993, the Company has received administrative, legal and accounting services from RMC. RMC is a company owned by the Chairman of the Board, President and Chief Executive Officer of the Company and two other directors of the Company. RMC provides corporate, legal, accounting and financial services to the Company and CAC. CAC is a separate private company also owned by the individuals listed above. The Company pays a set monthly fee of $75,000 for the services listed above. All outside services directly attributable to the Company are billed directly to the Company. The Company paid RMC an aggregate of $900,000 and $750,000 for such services during 1997 and 1996, respectively. The salaries of two officers of the Company, Messrs. Riley and Gilbertson, are paid by RMC. These arrangements were approved by the Related Party Transaction Committee of the Company's Board of Directors, which is comprised of disinterested directors, and the Company believes such arrangements were on terms at least as favorable as could have been obtained from unaffiliated third parties. Loans and Financing Transactions In July 1997, the Company borrowed an aggregate of $1,250,000 from three parties: Rodney P. Burwell, a former Company director, Pyramid Partners, L.P., an entity of which PCM is the managing partner, and William M. Toles, a shareholder of the Company. Messrs. Burwell, Perkins and Toles are members of the Board of Directors of Harmony. Their loans are evidenced by notes bearing interest at 10% per year, payable in July 1998. Additionally, an aggregate of 125,000 warrants to purchase Common Stock at $4.00 per share were issued to these lenders. In January 1998, the Company received proceeds of $611,000 and paid debt issuance costs of $39,000 through the issuance of a note payable to Harmony with a face amount of $650,000. The note payable bears interest at 15%, is unsecured and due upon demand. ITEM 13 EXHIBITS, LIST AND REPORTS ON FORM 8-K (a) Exhibits 3.1 Articles of Incorporation, as amended and restated (incorporated by reference to the Company's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1996 (File No. 0-21534) filed on March 31, 1997). 3.2 Amended and Restated Bylaws (incorporated by reference to the Company's Registration Statement on Form S-18 (File No. 33-44412) filed on December 5, 1991). 4.1 Rights Agreement between the Company and Norwest Bank Minnesota, National Association, as Rights Agent, dated as of February 19, 1998 (incorporated by reference to the Company's Registration Statement on Form 8-A (File No. 0-21534) filed on February 20, 1998). 10.1 1991 Incentive Stock Option Plan (incorporated by reference to the Company's Registration Statement on Form S-18 (File No. 33-44412) filed on December 5, 1991). 10.2 Lease between the Company and 5501 Building Company dated November 1, 1996 (incorporated by reference to the Company's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1996 (File No. 0-21534) filed on March 31, 1997). 10.3 Lease between the Company and 724 Associates dated November 1, 1996 (incorporated by reference to the Company's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1996 (File No. 0-21534) filed on March 31, 1997). 10.4 Management Services Agreement between the Company and Radio Management Corporation dated February 22, 1997 (incorporated by reference to the Company's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1996 (File No. 0-21534) filed on March 31, 1997). 10.5 1994 Stock Option Plan (incorporated by reference to the Company's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1996 (File No. 0-21534) filed on March 31, 1997). 10.6 1994 Director Stock Option Plan (incorporated by reference to the Company's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1994 (File No. 0-21534) filed on March 31, 1995, as amended by Form 10-KSB/A filed on October 4, 1995). 10.7 Attribution Agreement between the Company, Community Airwaves Corporation, DCP Broadcasting Corporation and Christopher T. Dahl dated February 15, 1995 (incorporated by reference to the Company's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1994 (File No. 0-21534) filed on March 31, 1995, as amended by Form 10-KSB/A filed on October 4, 1995). 10.8 Letter Agreement between the Company and Brenner Securities Corporation dated November 7, 1995, relating to the provision of certain financial services (incorporated by reference to the Company's Registration Statement on Form S-2 (File No. 33-80721) filed on December 21, 1995). 10.9 Stock Purchase Agreement between the Company and John Quinn, dated January 19, 1996 (incorporated by reference to the Company's Registration Statement on Form S-2 (File No. 33- 80721) filed on December 21, 1995). 10.10 Asset Purchase Agreement between the Company and Wolpin Broadcasting Company, dated January 30, 1996 (incorporated by reference to the Company's Registration Statement on Form S-2 (File No. 33-80721) filed on December 21, 1995). 10.11 Real Estate Purchase Agreement between Company and Weber/Wolpin Realty Company, dated January 30, 1996 (incorporated by reference to the Company's Registration Statement on Form S-2 (File No. 33-80721) filed on December 21, 1995). 10.12 Loan and Security Agreement between the Company and Foothill Capital Corporation, dated November 25, 1996 (incorporated by reference to the Company's Current Report on Form 8-K (File No. 0-21534) filed on December 20, 1996, relating to the Company closing on a $16,500,000 loan from Foothill Capital Corporation). 10.13 Common Stock Purchase Warrant issued by the Company to Foothill Capital Corporation, dated November 7, 1996 (incorporated by reference to the Company's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1996 (File No. 0-21534) filed on March 31, 1997). 10.14 Asset Purchase Agreement between the Company and Lloyd B. Roach re WPWA(AM), Chester, Pennsylvania, dated June 18, 1996 (incorporated by reference to the Company's Registration Statement on Form S-3 (File No. 333-14483) filed on October 18, 1996). 10.15 Asset Purchase Agreement between the Company and Nelson Broadcasting, Inc. re WAUR(AM), Sandwich, Illinois, dated September 11, 1996 (incorporated by reference to the Company's Registration Statement on Form S-3 (File No. 333-14483) filed on October 18, 1996). 10.16 Asset Purchase Agreement between the Company and Bonneville International Corporation re KIDR(AM), Phoenix, Arizona, dated May 20, 1997 (incorporated by reference to the Company's Registration Statement on Form S-3 (File No. 333-28315) filed on June 3, 1997). 10.17 Promissory Note issued by the Company to Pyramid Partners, L.P. on July 22, 1997 (incorporated by reference to the Company's Current Report on Form 8-K (File No. 0-21534) filed on August 1, 1997, relating to the Company acquiring a 27.4% beneficial interest in Harmony Holdings, Inc.). 10.18 Promissory Note issued by the Company to Rodney P. Burwell on July 22, 1997 (incorporated by reference to the Company's Current Report on Form 8-K (File No. 0-21534) filed on August 1, 1997, relating to the Company acquiring a 27.4% beneficial interest in Harmony Holdings, Inc.). 10.19 Promissory Note issued by the Company to William M. Toles on July 22, 1997 (incorporated by reference to the Company's Current Report on Form 8-K (File No. 0-21534) filed on August 1, 1997, relating to the Company acquiring a 27.4% beneficial interest in Harmony Holdings, Inc.). 10.20 Registration Rights Agreement by and among the Company and Harmony Holdings, Inc., dated July 22, 1997 (incorporated by reference to the Company's Current Report on Form 8-K (File No. 0-21534) filed on August 1, 1997, relating to the Company acquiring a 27.4% beneficial interest in Harmony Holdings, Inc.). 10.21 Amended and Restated Loan and Security Agreement by and between the Company and Foothill Capital Corporation, dated as of July 1, 1997 (incorporated by reference to the Company's Current Report on Form 8-K (File No. 0-21534) filed on August 1, 1997, relating to the Company acquiring a 27.4% beneficial interest in Harmony Holdings, Inc.). 10.22 Put/Call Agreement between the Company and Glenn B. Laken, dated September 25, 1997 (incorporated by reference to the Company's Current Report on Form 8-K/A (File No. 0-21534) filed on October 1, 1997, relating to the Company acquiring a 40.7% beneficial interest in Harmony Holdings, Inc.). 10.23 Letter Agreement between the Company and Foothill Capital Corporation, dated September 25, 1997 (incorporated by reference to the Company's Current Report on Form 8-K/A (File No. 0- 21534) filed on October 1, 1997, relating to the Company acquiring a 40.7% beneficial interest in Harmony Holdings, Inc.). 10.24 Amendment No. 1 to the Amended and Restated Loan and Security Agreement by and between the Company and Foothill Capital Corporation, dated as of September 24, 1997 (incorporated by reference to the Company's Current Report on Form 8-K/A (File No. 0-21534) filed on October 1, 1997, relating to the Company acquiring a 40.7% beneficial interest in Harmony Holdings, Inc.). 10.25 Common Stock Purchase Warrant issued by the Company to Foothill Capital Corporation, dated September 25, 1997 (incorporated by reference to the Company's Current Report on Form 8-K/A (File No. 0-21534) filed on October 1, 1997, relating to the Company acquiring a 40.7% beneficial interest in Harmony Holdings, Inc.). 10.26 Amendment No. 2 to the Amended and Restated Loan and Security Agreement by and between the Company and Foothill Capital Corporation, dated as of March 13, 1998. 10.27 Common Stock Purchase Warrant issued by the Company to Foothill Capital Corporation, dated as of March 13, 1998. 10.28 Promissory Note issued by the Company to Harmony Holdings, Inc., dated January 7, 1998. 10.29 Amended and Restated Common Stock Purchase Warrant issued by the Company to Foothill Capital Corporation, dated March 13, 1998. 16.1 Letter on Change in Certifying Accountant (incorporated by reference to the Company's Current Report on Form 8-K (File No. 0-21534) filed on July 3, 1996, relating to changes in the Company's certifying accountant). 21.1 Subsidiaries of the Company. 23.1 Consent of BDO Seidman, LLP. 27.1 Financial Data Schedule. (b) Reports on Form 8-K (1) The Company's Current Report on Form 8-K filed on November 3, 1997, relating to the Company's announcement that it has notified its affiliate radio stations that it will terminate its network affiliation agreements and cease distributing its full-time Aahs World Radiosm programming format effective January 30, 1998. (2) The Company's Current Report on Form 8-K/A filed on October 1, 1997, relating to the Company acquiring a 40.7% beneficial interest in Harmony Holdings, Inc. SIGNATURES In accordance with Section 13 or 15(d) of the Exchange Act, the Registrant has caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Minneapolis, State of Minnesota on March 31, 1998. CHILDREN'S BROADCASTING CORPORATION By /s/ Christopher T. Dahl ------------------------------------------ Christopher T. Dahl President and Chief Executive Officer In accordance with the Exchange Act, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the date indicated.
Signature Title Date --------- ----- ---- /s/ Christopher T. Dahl President, Chief Executive Officer and Director March 31, 1998 - ------------------------- (principal executive officer) Christopher T. Dahl /s/ James G. Gilbertson Chief Operating Officer and Treasurer March 31, 1998 - ------------------------- (principal accounting and financial officer) James G. Gilbertson /s/ Richard W. Perkins Director March 31, 1998 - ------------------------- Richard W. Perkins /s/ Michael R. Wigley Director March 31, 1998 - ------------------------- Michael R. Wigley Director - ------------------------- Russell Cowles II
EXHIBIT INDEX Exhibit No. Description ------- ----------- 3.1 Articles of Incorporation, as amended and restated (incorporated by reference to the Company's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1996 (File No. 0-21534) filed on March 31, 1997). 3.2 Amended and Restated Bylaws (incorporated by reference to the Company's Registration Statement on Form S-18 (File No. 33-44412) filed on December 5, 1991). 4.1 Rights Agreement between the Company and Norwest Bank Minnesota, National Association, as Rights Agent, dated as of February 19, 1998 (incorporated by reference to the Company's Registration Statement on Form 8-A (File No. 0-21534) filed on February 20, 1998). 10.1 1991 Incentive Stock Option Plan (incorporated by reference to the Company's Registration Statement on Form S-18 (File No. 33-44412) filed on December 5, 1991). 10.2 Lease between the Company and 5501 Building Company dated November 1, 1996 (incorporated by reference to the Company's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1996 (File No. 0-21534) filed on March 31, 1997). 10.3 Lease between the Company and 724 Associates dated November 1, 1996 (incorporated by reference to the Company's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1996 (File No. 0-21534) filed on March 31, 1997). 10.4 Management Services Agreement between the Company and Radio Management Corporation dated February 22, 1997 (incorporated by reference to the Company's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1996 (File No. 0-21534) filed on March 31, 1997). 10.5 1994 Stock Option Plan (incorporated by reference to the Company's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1996 (File No. 0-21534) filed on March 31, 1997). 10.6 1994 Director Stock Option Plan (incorporated by reference to the Company's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1994 (File No. 0-21534) filed on March 31, 1995, as amended by Form 10-KSB/A filed on October 4, 1995). 10.7 Attribution Agreement between the Company, Community Airwaves Corporation, DCP Broadcasting Corporation and Christopher T. Dahl dated February 15, 1995 (incorporated by reference to the Company's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1994 (File No. 0-21534) filed on March 31, 1995, as amended by Form 10-KSB/A filed on October 4, 1995). 10.8 Letter Agreement between the Company and Brenner Securities Corporation dated November 7, 1995, relating to the provision of certain financial services (incorporated by reference to the Company's Registration Statement on Form S-2 (File No. 33-80721) filed on December 21, 1995). 10.9 Stock Purchase Agreement between the Company and John Quinn, dated January 19, 1996 (incorporated by reference to the Company's Registration Statement on Form S-2 (File No. 33- 80721) filed on December 21, 1995). 10.10 Asset Purchase Agreement between the Company and Wolpin Broadcasting Company, dated January 30, 1996 (incorporated by reference to the Company's Registration Statement on Form S-2 (File No. 33-80721) filed on December 21, 1995). 10.11 Real Estate Purchase Agreement between Company and Weber/Wolpin Realty Company, dated January 30, 1996 (incorporated by reference to the Company's Registration Statement on Form S-2 (File No. 33-80721) filed on December 21, 1995). 10.12 Loan and Security Agreement between the Company and Foothill Capital Corporation, dated November 25, 1996 (incorporated by reference to the Company's Current Report on Form 8-K (File No. 0-21534) filed on December 20, 1996, relating to the Company closing on a $16,500,000 loan from Foothill Capital Corporation). 10.13 Common Stock Purchase Warrant issued by the Company to Foothill Capital Corporation, dated November 7, 1996 (incorporated by reference to the Company's Annual Report on Form 10-KSB for the fiscal year ended December 31, 1996 (File No. 0-21534) filed on March 31, 1997). 10.14 Asset Purchase Agreement between the Company and Lloyd B. Roach re WPWA(AM), Chester, Pennsylvania, dated June 18, 1996 (incorporated by reference to the Company's Registration Statement on Form S-3 (File No. 333-14483) filed on October 18, 1996). 10.15 Asset Purchase Agreement between the Company and Nelson Broadcasting, Inc. re WAUR(AM), Sandwich, Illinois, dated September 11, 1996 (incorporated by reference to the Company's Registration Statement on Form S-3 (File No. 333-14483) filed on October 18, 1996). 10.16 Asset Purchase Agreement between the Company and Bonneville International Corporation re KIDR(AM), Phoenix, Arizona, dated May 20, 1997 (incorporated by reference to the Company's Registration Statement on Form S-3 (File No. 333-28315) filed on June 3, 1997). 10.17 Promissory Note issued by the Company to Pyramid Partners, L.P. on July 22, 1997 (incorporated by reference to the Company's Current Report on Form 8-K (File No. 0-21534) filed on August 1, 1997, relating to the Company acquiring a 27.4% beneficial interest in Harmony Holdings, Inc.). 10.18 Promissory Note issued by the Company to Rodney P. Burwell on July 22, 1997 (incorporated by reference to the Company's Current Report on Form 8-K (File No. 0-21534) filed on August 1, 1997, relating to the Company acquiring a 27.4% beneficial interest in Harmony Holdings, Inc.). 10.19 Promissory Note issued by the Company to William M. Toles on July 22, 1997 (incorporated by reference to the Company's Current Report on Form 8-K (File No. 0-21534) filed on August 1, 1997, relating to the Company acquiring a 27.4% beneficial interest in Harmony Holdings, Inc.). 10.20 Registration Rights Agreement by and among the Company and Harmony Holdings, Inc., dated July 22, 1997 (incorporated by reference to the Company's Current Report on Form 8-K (File No. 0-21534) filed on August 1, 1997, relating to the Company acquiring a 27.4% beneficial interest in Harmony Holdings, Inc.). 10.21 Amended and Restated Loan and Security Agreement by and between the Company and Foothill Capital Corporation, dated as of July 1, 1997 (incorporated by reference to the Company's Current Report on Form 8-K (File No. 0-21534) filed on August 1, 1997, relating to the Company acquiring a 27.4% beneficial interest in Harmony Holdings, Inc.). 10.22 Put/Call Agreement between the Company and Glenn B. Laken, dated September 25, 1997 (incorporated by reference to the Company's Current Report on Form 8-K/A (File No. 0-21534) filed on October 1, 1997, relating to the Company acquiring a 40.7% beneficial interest in Harmony Holdings, Inc.). 10.23 Letter Agreement between the Company and Foothill Capital Corporation, dated September 25, 1997 (incorporated by reference to the Company's Current Report on Form 8-K/A (File No. 0- 21534) filed on October 1, 1997, relating to the Company acquiring a 40.7% beneficial interest in Harmony Holdings, Inc.). 10.24 Amendment No. 1 to the Amended and Restated Loan and Security Agreement by and between the Company and Foothill Capital Corporation, dated as of September 24, 1997 (incorporated by reference to the Company's Current Report on Form 8-K/A (File No. 0-21534) filed on October 1, 1997, relating to the Company acquiring a 40.7% beneficial interest in Harmony Holdings, Inc.). 10.25 Common Stock Purchase Warrant issued by the Company to Foothill Capital Corporation, dated September 25, 1997 (incorporated by reference to the Company's Current Report on Form 8-K/A (File No. 0-21534) filed on October 1, 1997, relating to the Company acquiring a 40.7% beneficial interest in Harmony Holdings, Inc.). 10.26 Amendment No. 2 to the Amended and Restated Loan and Security Agreement by and between the Company and Foothill Capital Corporation, dated as of March 13, 1998. 10.27 Common Stock Purchase Warrant issued by the Company to Foothill Capital Corporation, dated as of March 13, 1998. 10.28 Promissory Note issued by the Company to Harmony Holdings, Inc., dated January 7, 1998. 10.29 Amended and Restated Common Stock Purchase Warrant issued by the Company to Foothill Capital Corporation, dated March 13, 1998. 16.1 Letter on Change in Certifying Accountant (incorporated by reference to the Company's Current Report on Form 8-K (File No. 0-21534) filed on July 3, 1996, relating to changes in the Company's certifying accountant). 21.1 Subsidiaries of the Company. 23.1 Consent of BDO Seidman, LLP. 27.1 Financial Data Schedule. EX-10.26 2 AMENDED AND RESTATED LOAN AND SECURITY AGREEMENT EXHIBIT 10.26 AMENDMENT NUMBER TWO TO AMENDED AND RESTATED LOAN AND SECURITY AGREEMENT THIS AMENDMENT NUMBER TWO TO AMENDED AND RESTATED LOAN AND SECURITY AGREEMENT ("Amendment"), is entered into as of March 13, 1998, between FOOTHILL CAPITAL CORPORATION, a California corporation ("Foothill"), with a place of business located at 11111 Santa Monica Boulevard, Suite 1500, Los Angeles, California 90025-3333, and CHILDREN'S BROADCASTING CORPORATION, a Minnesota corporation ("Borrower"), with its chief executive office located at 724 First Street, Fourth Floor, Minneapolis, Minnesota 55401. WHEREAS, Borrower and Foothill are parties to that certain Amended and Restated Loan and Security Agreement, dated as of July 1, 1997, as amended by that certain Amendment Number One to Amended and Restated Loan and Security Agreement dated as of September 24, 1997 (collectively, the "Loan Agreement"); WHEREAS, Borrower has requested that Foothill make an additional term loan in the amount of $1,000,000 (the "Supplemental Term Loan No. 2"), and the proceeds of such Supplemental Term Loan No. 2 will be used in part to pay Foothill the amendment fee described in Section 7(d) of this Amendment. In addition, Borrower will use the balance of the proceeds of the Supplemental Term Loan No. 2 for general working capital purposes; WHEREAS, Borrower and Foothill have agreed to combine the term loans previously made by Foothill to Borrower and the Supplemental Term Loan No. 2 into a single term loan that will repaid by Borrower in accordance with the terms of this Amendment; and WHEREAS, Borrower and Foothill desire to amend the Loan Agreement as provided in this Amendment, it being understood that no repayment of the obligations under the Loan Agreement is being effected hereby, but merely an amendment and restatement in accordance with the terms hereof. All capitalized terms used herein and not defined herein shall have the meanings ascribed to them in the Loan Agreement. NOW, THEREFORE, in consideration of the mutual promises contained herein, Foothill and Borrower hereby agree as follows: 1. Section 1.1 of the Loan Agreement hereby is amended by (a) deleting the following defined terms in their entireties: "Amendment Date", "Term Loan" and "Term Loan Commitment", and (b) inserting following defined terms in alphabetical order: "Amendment Date" means the date of the making of the Additional Supplemental Term Loan No. 2 on or after the first date written above. "Fourth Warrant" means a warrant agreement respecting 100,000 shares of Borrower's common stock, in form and substance reasonably satisfactory to Foothill. "Supplemental Term Loan No. 2" shall have the meaning ascribed to such term in the recitals of this Amendment. "Term Loan" has the meaning ascribed to such term in Section 2.2(a) hereof. "Term Loan Commitment" means $23,500,000. 2. Section 2.1(b) is hereby amended and restated in its entirety as follows: (b) Anything to the contrary in Section 2.1(a) above notwithstanding, Foothill may create reserves against the Maximum Revolving Amount without declaring an Event of Default if there occurs a material increase in Dilution or if Foothill determines that there has occurred a Material Adverse Change. Notwithstanding the previous sentence, it is hereby agreed among the parties hereto, that Foothill may establish, in its discretion, and from time to time, an accumulating interest payment reserve, funded on a monthly basis, in an aggregate amount, as determined by Foothill in its reasonable discretion from time to time, sufficient to fully fund the estimated interest payment to be due Foothill on Borrower's Obligations as of the end of such month; and all collections received by Foothill pursuant to Section 2.8 of this Agreement shall be accumulated and held by Foothill until such time as the estimated interest payment is fully funded into the reserve, and any collections received by Foothill during such month after the full funding of the reserve, shall be credited by Foothill to Borrower's account; and in the event that the actual interest payment for a given month is less than the reserve amount accumulated during such month, the difference shall be carried forward by Foothill as the initial reserve amount for the next succeeding month's accumulation of collections to the reserve to fund the next month's estimated interest payment, such interest payment reserve and the accumulation of collections to be effective and commence as of the Amendment Date. 3. Section 2.2 of the Loan Agreement is hereby amended and restated in its entirety as follows: 2.2 TERM LOAN. (a) Foothill previously has made the Term Loan to Borrower. As of the Amendment Date, Foothill has agreed to make the Supplemental Term Loan No. 2 to Borrower in accordance with the terms hereof. Collectively, the Supplemental Term Loan No. 2 and the prior term loans made by Foothill to Borrower shall be known as the "Term Loan." (b) The outstanding principal balance and all accrued and unpaid interest under the Term Loan shall be due and payable upon the termination of this Agreement, whether by its terms, by prepayment, by acceleration, or otherwise. All amounts outstanding under the Term Loan shall constitute Obligations. Unless sooner terminated as provided herein, Borrower shall repay the Term Loan in quarterly installments and such installments shall be due and payable on the following dates in the following amounts: DATE INSTALLMENT ---- ----------- 4/16/98 $ 500,000 6/30/98 $6,000,000 9/30/98 $2,000,000 12/31/98 $2,000,000 3/31/99 $2,000,000 6/30/99 $2,000,000 9/30/99 $2,000,000 12/31/99 $2,000,000 3/31/00 $2,000,000 6/30/00 $2,000,000 9/30/00 $1,000,000 4. Section 2.6(a) of the Loan Agreement is hereby amended and restated in its entirety as follows: "Interest Rate. From and after the Amendment Date, all Obligations shall bear interest at a per annum rate of 4.75 percentage points above the Reference Rate." 5. Section 2.6(c) of the Loan Agreement is hereby amended and restated in its entirety as follows: "Default Rate. Upon the occurrence and during the continuation of an Event of Default, all Obligations shall bear interest at a per annum rate of 7.75 percentage points above the Reference Rate." 6. Section 7.17 of the Loan Agreement is hereby amended to delete the proviso at the end of such Section, and to replace such proviso with the following: ;provided, however, that in no event shall any advance under the Supplemental Term Loan No. 2 be used to finance, in whole or in part, directly or indirectly, any Permitted Unrestricted Subsidiary Acquisition or to advance, by way of loan, investment or guaranty, or otherwise, any monies or credit to or for the benefit, directly or indirectly, of Harmony. 7. Conditions Precedent to Effectiveness of Amendment. The effectiveness of this Amendment and the obligation of Foothill to make the Supplemental Term Loan No. 2 is subject to the completion, to the satisfaction of Foothill and its counsel, of each of the following conditions on or before the Amendment Date: (a) Foothill shall have received executed consents and reaffirmations from each Guarantor, in form and substance satisfactory to Foothill; (b) Foothill shall have received the Fourth Warrant and such Fourth Warrant shall have been duly executed, and be in full force and effect; (c) Foothill shall have received, in form and substance reasonably satisfactory to Foothill, an amendment and restatement of the Second Warrant to Purchase 100,000 Shares of the Common Stock of Children's Broadcasting Corporation dated July 1, 1997, resetting the warrant exercise price from $5.29 to $3.68 per share, and such Amended and Restated Warrant shall have been duly executed, and be in full force and effect; and (d) Foothill shall have received an amendment fee of $100,000 which shall be earned in full and non-refundable as of the date hereof. The payment of such amendment fee shall be paid on the Amendment Date out of the proceeds of the Supplemental Term Loan No. 2. 8. Forbearance. Foothill acknowledges receipt of the Borrower's letter to Mr. Keith Alexander of Foothill dated March 3, 1998 in which the Borrower acknowledges and enumerates certain Events of Default that have occurred and are continuing under the Loan Agreement (the "Current Defaults"). Foothill hereby agrees to forebear from taking any action or exercising any of its remedies under the Loan Agreement with respect to the Current Defaults during the period from the Amendment Date through and including April 16, 1998; provided, however, that such forbearance shall apply only to the Current Defaults, shall not apply to any other Event of Default continuing as of the Amendment Date, or to any Event of Default that may occur after the Amendment Date. Further, this forbearance shall not constitute a waiver by Foothill of any of its rights or remedies under the Loan Agreement, but shall only constitute a limited forbearance. Furthermore, nothing contained in this letter shall diminish, prejudice or waive any of Foothill's rights or remedies under the Loan Agreement or applicable law, and Foothill hereby reserves all such rights and remedies. 9. Representations and Warranties. Borrower hereby represents and warrants to Foothill that (a) the execution, delivery, and performance of this Amendment, are within its corporate powers, have been duly authorized by all necessary corporate action, and are not in contravention of any law, rule, or regulation, or any order, judgment, decree, writ, injunction, or award of any arbitrator, court, or governmental authority, or of the terms of its charter or bylaws, or of any contract or undertaking to which it is a party or by which any of its properties may be bound or affected, and (b) the Loan Agreement, as amended by this Amendment, constitute Borrower's legal, valid, and binding obligation, enforceable against Borrower in accordance with its terms. 10. Further Assurances. Borrower shall execute and deliver all agreements, documents, and instruments, in form and substance satisfactory to Foothill, and take all actions as Foothill may reasonably request from time to time, to perfect and maintain the perfection and priority of Foothill's security interests in the Collateral, and to fully consummate the transactions contemplated under the Loan Agreement and this Amendment. 11. Effect on Loan Agreement. The Loan Agreement, as amended hereby, shall be and remain in full force and effect in accordance with its respective terms and hereby is ratified and confirmed in all respects. The execution, delivery, and performance of this Amendment shall not operate as a waiver of or, except as expressly set forth herein, as an amendment, of any right, power, or remedy of Foothill under the Loan Agreement, as in effect prior to the date hereof. 12. Miscellaneous. a. Upon the effectiveness of this Amendment, each reference in the Agreement to "this Agreement", "hereunder", "herein", "hereof" or words of like import referring to the Agreement shall mean and refer to the Loan Agreement as amended by this Amendment. b. Upon the effectiveness of this Amendment, each reference in the Loan Documents to the "Loan Agreement", "thereunder", "therein", "thereof" or words of like import referring to the Agreement shall mean and refer to the Loan Agreement as amended by this Amendment. c. This Amendment shall be governed by and construed in accordance with the laws of the State of California. d. This Amendment may be executed in any number of counterparts, all of which taken together shall constitute one and the same instrument and any of the parties hereto may execute this Amendment by signing any such counterpart. IN WITNESS WHEREOF, the parties hereto have caused this Amendment to be duly executed as of the date first written above. FOOTHILL CAPITAL CORPORATION, a California corporation By /s/ Keith Alexander ----------------------------- Title: Vice President ------------------------- CHILDREN'S BROADCASTING CORPORATION, a Minnesota corporation By /s/ James G. Gilbertson ----------------------------- Title: Chief Operating Officer ------------------------- CONSENT, RATIFICATION, AND REAFFIRMATION BY GUARANTORS Each of the undersigned Guarantors hereby consents to the execution, delivery, and performance of the foregoing Amendment Number Two to Amended and Restated Loan and Security Agreement and agrees, ratifies, and reaffirms that its obligations as a guarantor with respect to the Loan Documents, as heretofore amended, and as amended by the foregoing amendment, remain in full force and effect and are not impaired, diminished, or discharged in any respect. Dated as of the date first set forth above: CHILDREN'S RADIO OF LOS ANGELES, INC., Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- CHILDREN'S RADIO OF NEW YORK, INC., New Jersey corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- CHILDREN'S RADIO OF MINNEAPOLIS, INC., Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- CHILDREN'S RADIO OF GOLDEN VALLEY, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- CHILDREN'S RADIO OF MILWAUKEE, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- CHILDREN'S RADIO OF DENVER, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- CHILDREN'S RADIO OF KANSAS CITY, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- CHILDREN'S RADIO OF DALLAS, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- CHILDREN'S RADIO OF HOUSTON, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- CHILDREN'S RADIO OF PHILADELPHIA, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- CHILDREN'S RADIO OF DETROIT, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- CHILDREN'S RADIO OF CHICAGO, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- CHILDREN'S RADIO OF PHOENIX, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- WWTC-AM, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- KYCR-AM, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- WZER-AM, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- KKYD-AM, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- KCNW-AM, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- KAHZ-AM, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- KTEK-AM, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- WPWA-AM, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- WCAR-AM, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- WJDM-AM, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- KPLS-AM, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- WAUR-AM, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- KIDR-AM, INC., a Minnesota corporation By /s/ James G. Gilbertson ------------------------------ Title: Chief Operating Officer -------------------------- EX-10.27 3 WARRANT EXHIBIT 10.27 THE SECURITIES EVIDENCED HEREBY HAVE NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AS AMENDED (THE "ACT"), OR APPLICABLE STATE SECURITIES LAWS AND MAY NOT BE SOLD, TRANSFERRED, ASSIGNED, OFFERED, PLEDGED OR OTHERWISE DISTRIBUTED FOR VALUE UNLESS THERE IS AN EFFECTIVE REGISTRATION STATEMENT UNDER THE ACT AND SUCH LAWS COVERING THE SECURITIES OR THE COMPANY RECEIVES AN OPINION OF COUNSEL ACCEPTABLE TO THE COMPANY STATING THAT SUCH SALE, TRANSFER, ASSIGNMENT, OFFER, PLEDGE OR OTHER DISTRIBUTION FOR VALUE IS EXEMPT FROM THE REGISTRATION AND PROSPECTUS DELIVERY REQUIREMENTS OF THE ACT AND SUCH LAWS. WARRANT TO PURCHASE 100,000 SHARES OF COMMON STOCK OF CHILDREN'S BROADCASTING CORPORATION THIS CERTIFIES THAT, for good and valuable consideration, Foothill Capital Corporation ("Foothill"), or its registered assigns, is entitled to subscribe for and purchase from Children's Broadcasting Corporation, a Minnesota corporation (the "Company"), at any time commencing March 13, 1998 up to and including November 25, 2001, One Hundred Thousand (100,000) fully paid and nonassessable shares of the Common Stock of the Company at the price of Three and 68/100 Dollars ($3.68) per share (the "Warrant Exercise Price"), subject to the antidilution provisions of Section 5 of this Warrant. Reference is made to this Warrant in the Amended and Restated Loan and Security Agreement dated July 1, 1997, as amended by that certain Amendment Number One to Amended and Restated Loan Agreement, dated September 25, 1997 and that certain Amendment Number Two to Amended and Restated Loan Agreement dated March 13, 1998 (collectively, the "Loan Agreement"), by and between the Company and Foothill. The shares which may be acquired upon exercise of this Warrant are referred to herein as the "Warrant Shares." As used herein, the term "Holder" means Foothill, any party who acquires all or a part of this Warrant as a registered transferee of Foothill, or any record holder or holders of the Warrant Shares issued upon exercise, whether in whole or in part, of the Warrant; the term "Common Stock" means and includes the Company's presently authorized Common Stock, and shall also include any capital stock of any class of the Company hereafter authorized which shall not be limited to a fixed sum or percentage in respect of the rights of the Holders thereof to participate in dividends or in the distribution of assets upon the voluntary or involuntary liquidation, dissolution, or winding up of the Company. This Warrant is subject to the following provisions, terms and conditions: 1. Exercise; Transferability. (a) The rights represented by this Warrant may be exercised by the Holder hereof, in whole or in part (but not as to a fractional share of Common Stock), by written notice of exercise (in the form attached hereto) delivered to the Company at the principal office of the Company prior to the expiration of this Warrant and accompanied or preceded by the surrender of this Warrant along with payment of the Warrant Exercise Price for such shares (a) in cash, by check or by wire transfer of federal funds, (b) to the extent permitted by law, by offset of the Obligations (as defined in the Loan Agreement), or (c) by a combination of the methods specified in clauses (a) and (b). (b) This Warrant may not be sold, transferred, assigned, hypothecated or divided except as provided in Section 7 hereof. 2. Exchange and Replacement. Subject to Sections 1 and 7 hereof, this Warrant is exchangeable upon the surrender hereof by the Holder to the Company at its office for new Warrants of like tenor and date representing in the aggregate the right to purchase the number of Warrant Shares purchasable hereunder, each of such new Warrants to represent the right to purchase such number of Warrant Shares (not to exceed the aggregate total number purchasable hereunder) as shall be designated by the Holder at the time of such surrender. Upon receipt by the Company of evidence reasonably satisfactory to it of the loss, theft, destruction, or mutilation of this Warrant, and, in case of loss, theft or destruction, of indemnity or security reasonably satisfactory to it, and upon surrender and cancellation of this Warrant, if mutilated, the Company will make and deliver a new Warrant of like tenor, in lieu of this Warrant; provided, however, that if Foothill shall be such Holder, an agreement of indemnity by such Holder shall be sufficient for all purposes of this Section 2. This Warrant shall be promptly canceled by the Company upon the surrender hereof in connection with any exchange or replacement. The Company shall pay all expenses, taxes (other than stock transfer taxes), and other charges payable in connection with the preparation, execution, and delivery of Warrants pursuant to this Section 2. 3. Issuance of the Warrant Shares. (a) The Company agrees that the shares of Common Stock purchased hereby shall be and are deemed to be issued to the Holder as of the close of business on the date on which this Warrant shall have been surrendered and the payment made for such Warrant Shares as provided herein. Subject to the provisions of the next section, certificates for the Warrant Shares so purchased shall be delivered to the Holder within a reasonable time, not exceeding fifteen (15) days after the rights represented by this Warrant shall have been so exercised, and, unless this Warrant has expired, a new Warrant representing the right to purchase the number of Warrant Shares, if any, with respect to which this Warrant shall not then have been exercised shall also be delivered to the Holder within such time. (b) Notwithstanding the foregoing, however, the Company shall not be required to deliver any certificate for Warrant Shares upon exercise of this Warrant except in accordance with exemptions from the applicable securities registration requirements or registrations under applicable securities laws. Nothing herein, however, shall obligate the Company to effect registrations under federal or state securities laws, except as provided in Section 9. If registrations are not in effect and if exemptions are not available when the Holder seeks to exercise the Warrant, the Warrant exercise period will be extended, if need be, to prevent the Warrant from expiring, until such time as either registrations become effective or exemptions are available, and the Warrant shall then remain exercisable for a period of at least 45 calendar days from the date the Company delivers to the Holder written notice of the availability of such registrations or exemptions. The Holder agrees to execute such documents and make such representations, warranties, and agreements as may be required solely to comply with the exemptions relied upon by the Company, or the registrations made, for the issuance of the Warrant Shares. 4. Covenants of the Company. The Company covenants and agrees that all Warrant Shares will, upon issuance, be duly authorized and issued, fully paid, nonassessable, and free from 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 purchase rights evidenced by this Warrant a sufficient number of shares of Common Stock to provide for the exercise of the rights represented by this Warrant. 5. Antidilution Adjustments. The provisions of this Warrant are subject to adjustment from time to time as provided in this Section 5. (a) The Warrant Exercise Price shall be adjusted from time to time such that in case the Company shall hereafter: (i) pay any dividends on any class of stock of the Company payable in Common Stock or securities convertible into Common Stock; (ii) subdivide its then outstanding shares of Common Stock into a greater number of shares; or (iii) combine outstanding shares of Common Stock, by reclassification or otherwise; then, in any such event, the Warrant Exercise Price in effect immediately prior to such event shall (until adjusted again pursuant hereto) be adjusted immediately after such event to a price (calculated to the nearest full cent) determined by dividing (a) the number of shares of Common Stock outstanding immediately prior to such event (including the maximum number of shares of Common Stock issuable in respect of any then outstanding securities convertible into Common Stock), multiplied by the then existing Warrant Exercise Price, by (b) the total number of shares of Common Stock outstanding immediately after such event (including the maximum number of shares of Common Stock issuable in respect of any then outstanding securities convertible into Common Stock), and the resulting quotient shall be the adjusted Warrant Exercise Price per share. An adjustment made pursuant to this subsection shall become effective immediately after the record date in the case of a dividend or distribution and shall become effective immediately after the effective date in the case of a subdivision, combination or reclassification. If, as a result of an adjustment made pursuant to this subsection, the Holder of any Warrant thereafter surrendered for exercise shall become entitled to receive shares of two or more classes of capital stock or shares of Common Stock and other capital stock of the Company, the Board of Directors (whose determination shall be conclusive) shall determine, in good faith, which determination shall be described in a duly adopted board resolution certified by the Company's Secretary, the allocation of the adjusted Warrant Exercise Price between or among shares of such classes of capital stock or shares of Common Stock and other capital stock. All calculations under this subsection shall be made to the nearest cent or to the nearest 1/100 of a share, as the case may be. In the event that at any time as a result of an adjustment made pursuant to this subsection, the Holder of any Warrant thereafter surrendered for exercise shall become entitled to receive any shares of the Company other than shares of Common Stock, thereafter the Warrant Exercise Price of such other shares so receivable upon exercise of any Warrant shall be subject to adjustment from time to time in a manner and on terms as nearly equivalent as practicable to the provisions with respect to Common Stock contained in this Section. (b) In case the Company shall issue shares of Common Stock, or rights, options, warrants or convertible or exchangeable securities containing the right to subscribe for or purchase shares of Common Stock (excluding (i) shares, rights, options, warrants, or convertible or exchangeable securities described in subparagraphs (f) or (g) of Section 11 hereof or issued in any of the transactions described in subparagraphs (a) or (d) of this Section 5, (ii) shares issued upon the exercise of such rights, options or warrants or upon conversion or exchange of such convertible or exchangeable securities, and (iii) the Warrants and any shares issued upon exercise thereof), at a price per share of Common Stock (determined in the case of such rights, options, warrants, or convertible or exchangeable securities by dividing (x) the total amount receivable by the Company in consideration of the sale and issuance of such rights, options, warrants, or convertible or exchangeable securities, plus the total minimum consideration payable to the Company upon exercise, conversion, or exchange thereof by (y) the total maximum number of shares of Common Stock covered by such rights, options, warrants, or convertible or exchangeable securities) lower than the Market Price (as such term is defined in Section 8 hereof) per share of Common Stock on the date the Company fixes the offering price of such shares, rights, options, warrants, or convertible or exchangeable securities, then the Warrant Exercise Price shall be adjusted so that it shall equal the price determined by multiplying the Warrant Exercise Price in effect immediately prior thereto by a fraction (i) the numerator of which shall be the sum of (A) the number of shares of Common Stock outstanding immediately prior to such sale and issuance plus (B) the number of shares of Common Stock which the aggregate consideration received (determined as provided below) for such sale or issuance would purchase at such Market Price per share, and (ii) the denominator of which shall be the total number of shares of Common Stock outstanding immediately after such sale and issuance. Such adjustment shall be made successively whenever such an issuance is made. For the purposes of such adjustment, the maximum number of shares of Common Stock which the holder of any such rights, options, warrants or convertible or exchangeable securities shall be entitled to subscribe for or purchase shall be deemed to be issued and outstanding as of the date of such sale and issuance and the consideration received by the Company therefor shall be deemed to be the consideration received by the Company for such rights, options, warrants, or convertible or exchangeable securities, plus the minimum consideration or premium stated in such rights, options, warrants, or convertible or exchangeable securities to be paid for the shares of Common Stock covered thereby. In case the Company shall sell and issue shares of Common Stock, or rights, options, warrants, or convertible or exchangeable securities containing the right to subscribe for or purchase shares of Common Stock for a consideration consisting, in whole or in part, of property other than cash or its equivalent, then in determining the price per share of Common Stock and the consideration received by the Company for purposes of the first sentence of this subparagraph (b), the Board of Directors of the Company shall determine, in good faith, the fair value of said property, and such determination shall be described in a duly adopted board resolution certified by the Company's Secretary. In case the Company shall sell and issue rights, options, warrants, or convertible or exchangeable securities containing the right to subscribe for or purchase shares of Common Stock together with one or more other securities as a part of a unit at a price per unit, then in determining the price per share of Common Stock and the consideration received by the Company for purposes of the first sentence of this subparagraph (b), the Board of Directors of the Company shall determine, in good faith, which determination shall be described in a duly adopted board resolution certified by the Company's Secretary, the fair value of the rights, options, warrants, or convertible or exchangeable securities then being sold as part of such unit. Such adjustment shall be made successively whenever such an issuance occurs, and in the event that such rights, options, warrants, or convertible or exchangeable securities expire or cease to be convertible or exchangeable before they are exercised, converted, or exchanged (as the case may be), then the Warrant Exercise Price shall again be adjusted to the Warrant Exercise Price that would then be in effect if such sale and issuance had not occurred, but such subsequent adjustment shall not affect the number of Warrant Shares issued upon any exercise of Warrants prior to the date such subsequent adjustment is made. (c) Upon each adjustment of the Warrant Exercise Price pursuant to Section 5(a) or Section 5(b) above, the Holder of each Warrant shall thereafter (until another such adjustment) be entitled to purchase at the adjusted Warrant Exercise Price the number of shares, calculated to the nearest full share, obtained by multiplying the number of shares specified in such Warrant (as adjusted as a result of all adjustments in the Warrant Exercise Price in effect prior to such adjustment) by the Warrant Exercise Price in effect prior to such adjustment and dividing the product so obtained by the adjusted Warrant Exercise Price. (d) In case of any consolidation or merger to which the Company is a party, other than a merger or consolidation in which the Company is the continuing corporation, or in case of any sale or conveyance to another corporation of the property of the Company as an entirety or substantially as an entirety, or in the case of any statutory exchange of securities with another corporation (including any exchange effected in connection with a merger of a third corporation into the Company), there shall be no adjustment under subsection (a) of this Section above but the Holder of each Warrant then outstanding shall have the right thereafter to convert such Warrant into the kind and amount of shares of stock and other securities and property which the Holder would have owned or have been entitled to receive immediately after such consolidation, merger, statutory exchange, sale, or conveyance had such Warrant been converted immediately prior to the effective date of such consolidation, merger, statutory exchange, sale, or conveyance and in any such case, if necessary, appropriate adjustment shall be made in the application of the provisions set forth in this Section with respect to the rights and interests thereafter of any Holders of the Warrant, to the end that the provisions set forth in this Section shall thereafter correspondingly be made applicable, as nearly as may reasonably be, in relation to any shares of stock and other securities and property thereafter deliverable on the exercise of the Warrant. The provisions of this subsection shall similarly apply to successive consolidations, mergers, statutory exchanges, sales or conveyances. (e) Upon any adjustment of the Warrant Exercise Price, then and in each such case, the Company shall give written notice thereof, by first-class mail, postage prepaid, addressed to the Holder as shown on the books of the Company, which notice shall state the Warrant Exercise Price resulting from such adjustment and the increase or decrease, if any, in the number of shares of Common Stock purchasable at such price upon the exercise of this Warrant, setting forth in reasonable detail the method of calculation and the facts upon which such calculation is based. 6. No Voting Rights. This Warrant shall not entitle the Holder to any voting rights or other rights as a stockholder of the Company. 7. Notice of Transfer of Warrant or Resale of the Warrant Shares. (a) Subject to the sale, assignment, hypothecation, or other transfer restrictions set forth in Section 1 hereof, the Holder, by acceptance hereof, agrees to give written notice to the Company before transferring this Warrant or transferring any Warrant Shares of such Holder's intention to do so, describing briefly the manner of any proposed transfer. Promptly upon receiving such written notice, the Company shall present copies thereof to the Company's counsel and to counsel to the original purchaser of this Warrant. If in the opinion of each such counsel the proposed transfer may be effected without registration or qualification (under any federal or state securities laws), the Company, as promptly as practicable, shall notify the Holder of such opinion, whereupon the Holder shall be entitled to transfer this Warrant or to dispose of Warrant Shares received upon the previous exercise of this Warrant, all in accordance with the terms of the notice delivered by the Holder to the Company; provided that an appropriate legend may be endorsed on the Warrant or the certificates for such Warrant Shares respecting restrictions upon transfer thereof necessary or advisable in the opinion of counsel and satisfactory to the Company to prevent further transfers which would be in violation of Section 5 of the Securities Act of 1933, as amended (the "Act"), and applicable state securities laws; and provided further that the prospective transferee or purchaser shall execute such documents and make such representations, warranties, and agreements as may be reasonably required solely to comply with the exemptions relied upon by the Company or the Holder for the transfer or disposition of the Warrant or Warrant Shares. (b) If in the opinion of counsel referred to in this Section 7, the proposed transfer or disposition of this Warrant or such Warrant Shares described in the written notice given pursuant to this Section 7 may not be effected without registration or qualification of this Warrant or such Warrant Shares, the Company shall promptly give written notice thereof to the Holder. 8. Fractional Shares. Fractional shares shall not be issued upon the exercise of this Warrant, but in any case where the Holder would, except for the provisions of this Section, be entitled under the terms hereof to receive a fractional share, the Company shall, upon the exercise of this Warrant for the largest number of whole shares then called for, pay a sum in cash equal to the sum of (a) the excess, if any, of the Market Price of such fractional share over the proportional part of the Warrant Exercise Price represented by such fractional share, plus (b) the proportional part of the Warrant Exercise Price represented by such fractional share. For purposes of this Section, the term "Market Price" with respect to shares of Common Stock of any class or series means the last reported sale price or, if none, the average of the last reported closing bid and asked prices on any national securities exchange, the Nasdaq National Market or Nasdaq SmallCap Market, or if not listed on a national securities exchange or quoted on Nasdaq, the average of the last reported closing bid and asked prices as reported in the "pink sheets" or other standard compilation of quotations by market makers in the over-the-counter market. 9. Registration Rights. (a) If at any time after March 13, 1998 and on or before November 25, 2001, the Company proposes to register under the Act (except by a Form S-4 or Form S-8 Registration Statement or any successor forms thereto) or qualify for a public distribution under Section 3(b) of the Act, any of its equity securities or debt with equity features, it will give written notice to all Holders of this Warrant, any Warrants issued pursuant to Section 2 or Section 3(a) hereof, and any Warrant Shares of its intention to do so and, on the written request of any such Holder given within twenty (20) days after receipt of any such notice (which request shall specify the interest in such Warrants or the Warrant Shares intended to be sold or disposed of by such Holder and describe the nature of any proposed sale or other disposition thereof), the Company will use its best efforts to cause all Warrant Shares, the Holders of which shall have requested the registration or qualification thereof, to be included in such Registration Statement proposed to be filed by the Company; provided, however, that if a greater number of Warrant Shares is offered for participation in the proposed offering than in the reasonable opinion of the managing underwriter of the proposed offering can be accommodated without adversely affecting the proposed offering, then the amount of Warrants and Warrant Shares proposed to be offered by such Holders for registration, as well as the number of securities of any other selling stockholders participating in the registration, shall be proportionately reduced to a number deemed satisfactory by the managing underwriter. For purposes of this Section 9(a), the Holders who have requested registration of Warrant Shares to be acquired upon the exercise of Warrants not theretofore exercised shall furnish the Company with an undertaking that they or the underwriters or other persons to whom such Warrants will be transferred have undertaken to exercise such Warrants and to sell, transfer or otherwise dispose of the Warrant Shares received upon exercise of such Warrants in such registration. (b) Upon request made on or before November 25, 2001, by Holders of Warrants and Warrant Shares (together, the "Securities") representing at least fifty percent (50%) of the Securities then outstanding, the Company will, at its expense, promptly take all necessary steps to register or qualify all of the Warrant Shares under Section 3(b) or Section 5 of the Act and such state laws as such Holders may reasonably request and, if so requested by such Holders, the Company shall use its best efforts to cause such registration to be underwritten on a firm commitment basis; provided that the Company shall not be obligated to effect more than one (1) such registration pursuant to this Section 9(b) unless, in such initial registration, the Company shall have been unable to effect the registration of all of the Warrant Shares, the Holders of which have requested inclusion in such registration, (whether then outstanding or issuable upon the exercise of Warrants then outstanding); in which case, the Company shall be obligated to effect one (1) additional registration pursuant to this Section 9(b) when requested by Holders who have not sold all of their Warrant Shares. For purposes of this Section 9(b), the Holders who have requested registration of Warrant Shares to be acquired upon the exercise of Warrants not theretofore exercised shall furnish the Company with an undertaking that they or the underwriters or other persons to whom such Warrants will be transferred have undertaken to exercise such Warrants and to sell, transfer or otherwise dispose of the Warrant Shares received upon exercise of such Warrants in such registration. In the event of an underwritten offering pursuant to this Section 9(b), the Holders requesting registration of the Warrant Shares being registered (i) shall be entitled to select the underwriter; provided, that the underwriter so selected shall be subject to approval by the Company, which approval shall not be withheld unreasonably, and (ii) must agree to all usual and customary underwriting terms and conditions including, but not limited to, any lock-up period imposed on selling Holders (not to exceed 180 days); provided, however, that the Company shall use its reasonable best efforts to cause each Holder of a material number of shares of Common Stock to enter into similar lock-up agreements in respect to such offering. The Company shall keep effective and maintain any registration, qualification, notification or approval specified in this paragraph for such period as may be necessary for the Holders of the Warrants and the Warrant Shares to dispose thereof and from time to time shall amend or supplement, at the Company's expense, the prospectus used in connection therewith to the extent necessary in order to comply with applicable law, provided that the Company shall not be obligated to maintain any registration for a period of more than six (6) months after effectiveness, except that a Form S-3 Registration Statement or successor thereof shall be maintained for up to twelve (12) months after effectiveness. Notwithstanding the foregoing, if a greater number of securities is offered for participation in the proposed offering pursuant to this Section 9(b) than in the reasonable opinion of the managing underwriter of the proposed offering can be accommodated without adversely affecting the proposed offering, then the securities to be included in the proposed offering shall be included as follows: first, the amount of the Warrants and Warrant Shares proposed to be offered by the Holders for registration; and second, the number of other securities of the Company and of any other selling stockholders participating in the registration shall be proportionately reduced to a number deemed satisfactory by the managing underwriter. (c) With respect to each inclusion of securities in a Registration Statement pursuant to Section 9(a) or 9(b) above, the Company shall bear the following fees, costs, and expenses: all registration, filing and NASD fees, Nasdaq fees, printing expenses, fees and disbursements of counsel and accountants for the Company, reasonable fees and disbursements for one (1) counsel for all the Holders, fees and disbursements of counsel for the underwriter or underwriters of such securities (if the offering is underwritten and the Company is required to bear such fees and disbursements), all internal expenses, the premiums and other costs of policies of insurance against liability arising out of the public offering, and legal fees and disbursements and other expenses of complying with state securities laws of any jurisdictions in which the securities to be offered are to be registered or qualified. Except as set forth in the foregoing sentence, fees and disbursements of special counsel and accountants for the selling Holders, underwriting discounts and commissions, and transfer taxes for selling Holders and any other expenses relating to the sale of securities by the selling Holders shall be borne by the selling Holders. (d) The Company hereby indemnifies each of the Holders of this Warrant and of any Warrant Shares, and the officers and directors and each other person, if any, who control such Holders, within the meaning of Section 15 of the Act, against all losses, claims, damages, and liabilities caused by (1) any untrue statement or alleged untrue statement of a material fact contained in any Registration Statement or Prospectus (and as amended or supplemented if the Company shall have furnished any amendments thereof or supplements thereto), any Preliminary Prospectus or any state securities law filings; (2) any omission or alleged omission to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading, except insofar as such losses, claims, damages, or liabilities are caused by any untrue statement or omission contained in information furnished in writing to the Company by such Holder expressly for use therein; and each such Holder by its acceptance hereof severally agrees that it will indemnify and hold harmless the Company, each of its officers who signs such Registration Statement, and each person, if any, who controls the Company, within the meaning of Section 15 of the Act, with respect to losses, claims, damages, or liabilities which are caused by any untrue statement or omission contained in information furnished in writing to the Company by such Holder expressly for use therein. Unless otherwise required by applicable law or judicial interpretation thereof, the liability of any selling Holder hereunder shall not be greater in amount than the dollar amount of the proceeds received by such Holder upon the sale of the Securities giving rise to such indemnification obligation. (e) The Company shall not file or permit the filing of any registration or comparable statement which refers to any Holder by name or otherwise as the Holder of any securities of the Company unless such reference to such Holder is specifically required by the Act or any similar federal statute then in force. (f) In connection with the preparation and filing of each registration statement under the Act pursuant to this Section 9, the Company shall give the selling Holders under such registration statement, their underwriters, if any, and their respective counsel and accountants, the opportunity to participate in the preparation of such registration statement, each prospectus included therein or filed with the Securities and Exchange Commission (the "Commission"), and each amendment thereof or supplement thereto, and will give each of them such access to its books and records and such opportunities to discuss the business of the Company with its officers and the independent public accountants who have certified its financial statements as shall be necessary, in the opinion of such Holders' and such underwriters' respective counsel, to conduct a reasonable investigation within the meaning of the Act. (g) If the indemnification provided for in Section 9(d) hereof from the indemnifying party is unavailable to an indemnified party hereunder in respect of any losses, claims, damages, liabilities, or expenses referred to herein, then the indemnifying party, in lieu of indemnifying such indemnified party, shall contribute to the amount paid or payable by such indemnified party as a result of losses, claims, damages, liabilities, or expenses in such proportion as is appropriate to reflect the relative fault of the indemnifying party and indemnified party in connection with the actions which resulted in such losses, claims, damages, liabilities, or expenses, as well as any other relevant equitable considerations. The relative fault of such indemnifying party and indemnified party shall be determined by reference to, among other things, whether any action in question, including any untrue or alleged untrue statement of a material fact or omission or alleged omission to state a material fact, has been made by, or relates to information supplied by, such indemnifying party or indemnified party, and the parties' relative intent, knowledge, access to information, and opportunity to correct or prevent such action. The amount paid or payable by a party as a result of the losses, claims, damages, liabilities, and expenses referred to above shall be deemed to include any legal or other fees or expenses reasonably incurred by such party in connection with any investigation or proceeding. In no event shall the liability of any selling Holder hereunder be greater in amount than the dollar amount of the proceeds received by such Holder upon the sale of the Securities giving rise to such contribution obligation. The parties hereto agree that it would not be just and equitable if contribution pursuant to this Section 9(g) were determined by pro rata allocation or by any other method of allocation which does not take into account the equitable considerations referred to in this Section 9(g). No person guilty of fraudulent misrepresentation (within the meaning of Section 11(f) of the Act) shall be entitled to contribution from any person or entity who was not guilty of such fraudulent misrepresentation. (h) The Company shall not after March 13, 1998 (the "Date of Grant"), grant additional registration rights which conflict with the rights under this Section 9. 10. Right to Convert Warrant into Common Stock; Net Issuance. (a) Right to Convert. In addition to and without limiting the rights of the Holder under the terms of this Warrant, the Holder shall have the right to convert this Warrant or any portion thereof (the "Conversion Right") into shares of Common Stock as provided in this Section 10 at any time or from time to time during the term of this Warrant. Upon exercise of the Conversion Right and with respect to a particular number of shares subject to this Warrant (the "Converted Warrant Shares"), the Company shall deliver to the Holder (without payment by the Holder of any exercise price or any cash or other consideration) that number of shares of fully paid and nonassessable Common Stock equal to the quotient obtained by dividing (i) the value of this Warrant (or the specified portion hereof) on the Conversion Date (as defined in subsection (b) hereof), which value shall be equal to (A) the aggregate Market Price of the Converted Warrant Shares issuable upon exercise of this Warrant (or the specified portion hereof) on the Conversion Date less (B) the aggregate Warrant Exercise Price of the Converted Warrant Shares immediately prior to the exercise of the Conversion Right by (ii) the Market Price of one share of Common Stock on the Conversion Date. Expressed as a formula, such conversion shall be computed as follows: X = A - B ----- Y Where: X = the number of shares of Common Stock that may be issued to holder Y = the Market Price (FMV) of one share of Common Stock A = the aggregate FMV (i.e., FMV x Converted Warrant Shares) B = the aggregate Warrant Exercise Price (i.e., Converted Warrant Shares x Warrant Price) No fractional shares shall be issuable upon exercise of the Conversion Right, and, if the number of shares to be issued determined in accordance with the foregoing formula is other than a whole number, the Company shall pay to the holder an amount in cash equal to the fair market value of the resulting fractional share on the Conversion Date. For purposes of Section 9 of this Warrant, Warrant Shares issued pursuant to the Conversion Right shall be treated as if they were issued upon the exercise of this Warrant. (b) Method of Exercise. The Conversion Right may be exercised by the Holder by the surrender of this Warrant at the principal office of the Company together with a written statement specifying that the Holder thereby intends to exercise the Conversion Right and indicating the number of shares subject to this Warrant which are being surrendered (referred to in subsection (a) hereof as the Converted Warrant Shares) in exercise of the Conversion Right. Such conversion shall be effective upon receipt by the Company of this Warrant together with the aforesaid written statement, or on such later date as is specified therein (the "Conversion Date"). Certificates for the shares issuable upon exercise of the Conversion Right and, if applicable, a new warrant evidencing the balance of the shares remaining subject to this Warrant, shall be issued as of the Conversion Date and shall be delivered to the holder within thirty (30) days following the Conversion Date. (c) Determination of Market Price. For purposes of this Section 10, "Market Price" of a share of Common Stock shall have the meaning set forth in Section 8 above. 11. Representations and Warranties. The Company represents and warrants to the Holder of this Warrant as follows: (a) This Warrant has been duly authorized and executed by the Company and is a valid and binding obligation of the Company enforceable in accordance with its terms, subject to laws of general application relating to bankruptcy, insolvency and the relief of debtors and the rules of law or principles at equity governing specific performance, injunctive relief and other equitable remedies; (b) The Warrant Shares have been duly authorized and reserved for issuance by the Company and, when issued in accordance with the terms hereof, will be validly issued, fully paid and nonassessable; (c) The rights, preferences, privileges and restrictions granted to or imposed upon the Common Stock and the holders thereof are as set forth in the articles of incorporation of the Company, as amended to the date of grant (as so amended, the "Articles"), a true and complete copy of which has been delivered to Foothill; (d) The execution and delivery of this Warrant are not, and the issuance of the Warrant Shares upon exercise of this Warrant in accordance with the terms hereof will not be, inconsistent with the Articles or by-laws of the Company, do not and will not contravene, in any material respect, any governmental rule or regulation, judgment or order applicable to the Company, and do not and will not conflict with or contravene any provision of, or constitute a default under, any indenture, mortgage, contract or other instrument of which the Company is a party or by which it is bound or require the consent or approval of, the giving of notice to, the registration or filing with or the taking of any action in respect of or by, any Federal, state or local government authority or agency or other person, except for the filing of notices pursuant to federal and state securities laws, which filings will be effected by the time required thereby; (e) There are no actions, suits, audits, investigations or proceedings pending or, to the knowledge of the Company, threatened against the Company in any court or before any governmental commission, board or authority which, if adversely determined, will have a material adverse effect on the ability of the Company to perform its obligations under this Warrant; (f) The authorized capital stock of the Company consists of Fifty Million (50,000,000) shares of Common Stock, of which Six Million Six Hundred Forty Nine Thousand Eight Hundred Sixty Five (6,649,865) shares were issued and outstanding as of the close of business on March 9, 1998, and Two Hundred Ninety Thousand Two Hundred Thirteen (290,213) shares of Preferred Stock, of which all such shares were issued and outstanding as of the Date of Grant. All such outstanding shares have been validly issued and are fully paid, nonassessable shares free of preemptive rights; (g) Except for the capital stock issuable pursuant to the 1991 Incentive Stock Option Plan, the 1994 Director Stock Option Plan, the 1994 Stock Option Plan, the 1996 Employee Stock Purchase Plan, Non-Qualified Stock Options, and any other rights, options or warrants issuable or outstanding as of the Date of Grant as disclosed in the Company's filings with the Commission, there are no subscriptions, rights, options, warrants or calls relating to any shares of the Company's capital stock, including any right of conversion or exchange under any outstanding security or other instrument; and (h) Except as disclosed in the Company's filings with the Commission, the Company is not subject to any obligation (contingent or otherwise) to repurchase or otherwise acquire or retire any shares of its capital stock or any security convertible into or exchangeable for any of its capital stock. 12. Put Option. (a) Put Option of the Warrant Holder. At any time on or after March 13, 1999 and during the term hereof (the "Put Exercise Period"), the holder shall have the right (but not the obligation) to require the Company to repurchase ("put") this Warrant from the holder at an aggregate purchase price, equal to the product of (i) the positive difference (if any) between (A) the Warrant Exercise Price as of September 25, 1997 plus Two Dollars ($2.00), subject to adjustments pursuant to Section 12(b) hereof (as adjusted from time to time, the "Put Option Per Share Price"), minus (B) the average Market Price of one (1) share of Common Stock for the ten (10) consecutive trading days ending on the date of the Put Notice (as defined below), multiplied by (ii) the number of Shares issuable upon exercise of this Warrant as of the date of the Put Notice. Such put right shall be exercisable by written notice (the "Put Notice") given to the Company during the Put Exercise Period. The Company shall effect the repurchase of this Warrant pursuant to the Put Notice by paying the purchase price therefor in cash to the holder not more than five (5) business days after receipt by the Company of the Put Notice; and at such time the holder shall deliver to the Company the Warrant to be repurchased, properly endorsed for transfer. (b) Adjustment of the Put Option Per Share Price. Upon each adjustment in the Warrant Price pursuant to Section 5 hereof, the Put Option Per Share Price shall be adjusted to that price determined by multiplying the Put Option Per Share Price in effect immediately prior to such date of adjustment, by a fraction (i) the numerator of which shall be the total number of shares of Common Stock outstanding immediately prior to such adjustment, and (ii) the denominator of which shall be the total number of shares of Common Stock outstanding immediately after such adjustment. IN WITNESS WHEREOF, Children's Broadcasting Corporation has caused this Warrant to be signed by its duly authorized officer this 13th day of March, 1998. Children's Broadcasting Corporation By /s/ James G. Gilbertson ------------------------------------ Name: James G. Gilbertson Its: Chief Operating Officer CHILDREN'S BROADCASTING CORPORATION WARRANT EXERCISE NOTICE (TO BE SIGNED ONLY UPON EXERCISE OF WARRANT) The undersigned, the Holder of the foregoing Warrant, hereby irrevocably elects to exercise the purchase right represented by such Warrant for, and to purchase thereunder, _____________________________ shares of the Common Stock of Children's Broadcasting Corporation to which such Warrant relates and herewith makes payment of $____________ therefor in cash or by certified or cashier's check and requests that the certificate for such shares be issued in the name of, and be delivered to _________________________________, whose address is set forth below the signature of the undersigned. If the number of shares purchased is less than all of the shares purchasable under the Warrant, a new Warrant will be issued in the name of the undersigned for the remaining balance remaining of the shares purchasable thereunder. Name of Warrant Holder: -------------------------------------------- (Please print) Address of Warrant Holder: -------------------------------------------- -------------------------------------------- Tax Identification No. or Social Security No. of Warrant Holder: -------------------------------------------- Signature: ---------------------------------- NOTE: THE ABOVE SIGNATURE SHOULD CORRESPOND EXACTLY WITH THE NAME OF THE WARRANT HOLDER AS IT APPEARS ON THE FIRST PAGE OF THE WARRANT OR ON A DULY EXECUTED WARRANT ASSIGNMENT. Dated: -------------------------------------- CHILDREN'S BROADCASTING CORPORATION WARRANT ASSIGNMENT (TO BE SIGNED ONLY UPON TRANSFER OF WARRANT) FOR VALUE RECEIVED, the undersigned hereby sells, assigns and transfers unto ___________________________________________________________, the assignee, whose address is __________________________________________________________, and whose tax identification or social security number is _______________________, the right represented by the foregoing Warrant to purchase ___________________ shares of the Common Stock of Children's Broadcasting Corporation to which the foregoing Warrant relates and appoints _________________________________________ attorney to transfer said right on the books of Children's Broadcasting Corporation, with full power of substitution in the premises. If the number of shares assigned is less than all of the shares purchasable under the Warrant, a new Warrant will be issued in the name of the undersigned for the remaining balance of the shares purchasable thereunder. Name of Warrant Holder/Assignor: ----------------------------------------------- (Please print) Address of Warrant Holder/Assignor: ----------------------------------------------- ----------------------------------------------- Tax Identification No. or Social Security No. of Warrant Holder/Assignor: ----------------------------------------------- Signature: ------------------------------------- NOTE: THE ABOVE SIGNATURE SHOULD CORRESPOND EXACTLY WITH THE NAME OF THE WARRANT HOLDER AS IT APPEARS ON THE FIRST PAGE OF THE WARRANT OR ON A DULY EXECUTED ASSIGNMENT FORM. Dated: ----------------------------------------- EX-10.28 4 PROMISSORY NOTE EXHIBIT 10.28 PROMISSORY NOTE $ 650,000.00 MINNEAPOLIS, MINNESOTA JANUARY 7, 1998 FOR GOOD AND VALUABLE CONSIDERATION, RECEIPT OF WHICH IS HEREBY ACKNOWLEDGED, within thirty (30) days after demand, the undersigned promises to pay to the order of HARMONY HOLDINGS, INC. the sum of Six Hundred Fifty Thousand and no/100 Dollars ($650,000.00) with interest on the unpaid balance of this Note shall accrue at the rate of 15% per annum from the date hereof through the due date, and shall accrue on the basis of actual days based on a 365-day year. The undersigned reserves the right to prepay all or any part of the principal of this Note at any time without penalty. Notwithstanding any provision to the contrary contained in this Note, the undersigned shall not be required to pay, and the holder of this Note (the "Holder") shall not be permitted to collect, any amount of interest in excess of the maximum amount of interest permitted by law ("Excess Interest"). If any Excess Interest is provided for or determined by a court of competent jurisdiction to have been provided for in this Note, then in such event: 1) the provisions of this paragraph shall govern and control; 2) the undersigned shall not be obligated to pay any Excess Interest; 3) and Excess Interest that the Holder may have received hereunder shall be, at the Holder's option, (a) applied as a credit against the outstanding principal balance of this Note or the accrued and unpaid interest (not to exceed the maximum amount permitted by law), (b) refunded to the payor thereof, or (c) any combination of the foregoing; 4) the interest rate provided for herein shall be automatically reduced to the maximum lawful rate allowed from time to time under applicable law (the "Maximum Rate"), and this Note shall be deemed to have been and shall be, reformed and modified to reflect such reduction; and 5) the undersigned shall not have any action against the Holder for any damages arising out of the payment or collection of any Excess Interest. Notwithstanding the foregoing, if for any period of time interest on this Note is calculated at the Maximum Rate rather than the applicable rate under this Note, and thereafter the Maximum Rate exceeds the applicable rate, the rate of interest payable on this Note shall become the Maximum Rate until the Holder shall have received the amount of interest which the Holder would have received during such period on this Note had the rate of interest not been limited to the Maximum Rate during such period. The makers, endorsers and guarantors hereof waive presentment for payment, notice of non-payment, protest and notice of protest, and consent that the time of payment may be extended without notice. If any part of the principal or interest of this note is not paid when due, then the whole principal sum shall immediately become due and payable at the option of the holder without notice. And the maker and all other parties liable hereon agree to pay the cost of collection of this note, including a reasonable attorney fee. CHILDREN'S BROADCASTING CORPORATION BY: /s/ James G. Gilbertson ---------------------------------- ITS: Chief Operating Officer ---------------------------------- STATE OF MINNESOTA) ) ss. COUNTY OF HENNEPIN) On this 7th day of January, 1998 before me personally came James G. Gilbertson to me personally known to be the Chief Operating Officer of Children's Broadcasting Corporation and who executed the foregoing instrument and duly acknowledged that he executed the same. /s/ Jill J. Theis - ---------------------------- Notary Public EX-10.29 5 AMENDED AND RESTATED WARRANT EXHIBIT 10.29 THE SECURITIES EVIDENCED HEREBY HAVE NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AS AMENDED (THE "ACT"), OR APPLICABLE STATE SECURITIES LAWS AND MAY NOT BE SOLD, TRANSFERRED, ASSIGNED, OFFERED, PLEDGED OR OTHERWISE DISTRIBUTED FOR VALUE UNLESS THERE IS AN EFFECTIVE REGISTRATION STATEMENT UNDER THE ACT AND SUCH LAWS COVERING THE SECURITIES OR THE COMPANY RECEIVES AN OPINION OF COUNSEL ACCEPTABLE TO THE COMPANY STATING THAT SUCH SALE, TRANSFER, ASSIGNMENT, OFFER, PLEDGE OR OTHER DISTRIBUTION FOR VALUE IS EXEMPT FROM THE REGISTRATION AND PROSPECTUS DELIVERY REQUIREMENTS OF THE ACT AND SUCH LAWS. AMENDED AND RESTATED WARRANT TO PURCHASE 100,000 SHARES OF COMMON STOCK OF CHILDREN'S BROADCASTING CORPORATION THIS CERTIFIES THAT, for good and valuable consideration, Foothill Capital Corporation ("Foothill"), or its registered assigns, is entitled to subscribe for and purchase from Children's Broadcasting Corporation, a Minnesota corporation (the "Company"), at any time commencing March 13, 1998 up to and including November 25, 2001, One Hundred Thousand (100,000) fully paid and nonassessable shares of the Common Stock of the Company at the price of Three and 68/100 Dollars ($3.68) per share (the "Warrant Exercise Price"), subject to the antidilution provisions of Section 5 of this Warrant. Reference is made to this Amended and Restated Warrant (hereafter, the "Warrant") in the Amended and Restated Loan and Security Agreement dated July 1, 1997, as amended by that certain Amendment Number One to Amended and Restated Loan Agreement dated September 25, 1997 and that certain Amendment Number Two to Amended and Restated Loan Agreement dated March 13, 1998 (collectively, the "Loan Agreement"), by and between the Company and Foothill. The original warrant being amended and restated herein was issued on July 1, 1997 pursuant to the Loan Agreement as in effect at that time. The shares which may be acquired upon exercise of this Warrant are referred to herein as the "Warrant Shares." As used herein, the term "Holder" means Foothill, any party who acquires all or a part of this Warrant as a registered transferee of Foothill, or any record holder or holders of the Warrant Shares issued upon exercise, whether in whole or in part, of the Warrant; the term "Common Stock" means and includes the Company's presently authorized Common Stock, and shall also include any capital stock of any class of the Company hereafter authorized which shall not be limited to a fixed sum or percentage in respect of the rights of the Holders thereof to participate in dividends or in the distribution of assets upon the voluntary or involuntary liquidation, dissolution, or winding up of the Company. This Warrant is subject to the following provisions, terms and conditions: 1. Exercise; Transferability. (a) The rights represented by this Warrant may be exercised by the Holder hereof, in whole or in part (but not as to a fractional share of Common Stock), by written notice of exercise (in the form attached hereto) delivered to the Company at the principal office of the Company prior to the expiration of this Warrant and accompanied or preceded by the surrender of this Warrant along with payment of the Warrant Exercise Price for such shares (a) in cash, by check or by wire transfer of federal funds, (b) to the extent permitted by law, by offset of the Obligations (as defined in the Loan Agreement), or (c) by a combination of the methods specified in clauses (a) and (b). (b) This Warrant may not be sold, transferred, assigned, hypothecated or divided except as provided in Section 7 hereof. 2. Exchange and Replacement. Subject to Sections 1 and 7 hereof, this Warrant is exchangeable upon the surrender hereof by the Holder to the Company at its office for new Warrants of like tenor and date representing in the aggregate the right to purchase the number of Warrant Shares purchasable hereunder, each of such new Warrants to represent the right to purchase such number of Warrant Shares (not to exceed the aggregate total number purchasable hereunder) as shall be designated by the Holder at the time of such surrender. Upon receipt by the Company of evidence reasonably satisfactory to it of the loss, theft, destruction, or mutilation of this Warrant, and, in case of loss, theft or destruction, of indemnity or security reasonably satisfactory to it, and upon surrender and cancellation of this Warrant, if mutilated, the Company will make and deliver a new Warrant of like tenor, in lieu of this Warrant; provided, however, that if Foothill shall be such Holder, an agreement of indemnity by such Holder shall be sufficient for all purposes of this Section 2. This Warrant shall be promptly canceled by the Company upon the surrender hereof in connection with any exchange or replacement. The Company shall pay all expenses, taxes (other than stock transfer taxes), and other charges payable in connection with the preparation, execution, and delivery of Warrants pursuant to this Section 2. 3. Issuance of the Warrant Shares. (a) The Company agrees that the shares of Common Stock purchased hereby shall be and are deemed to be issued to the Holder as of the close of business on the date on which this Warrant shall have been surrendered and the payment made for such Warrant Shares as provided herein. Subject to the provisions of the next section, certificates for the Warrant Shares so purchased shall be delivered to the Holder within a reasonable time, not exceeding fifteen (15) days after the rights represented by this Warrant shall have been so exercised, and, unless this Warrant has expired, a new Warrant representing the right to purchase the number of Warrant Shares, if any, with respect to which this Warrant shall not then have been exercised shall also be delivered to the Holder within such time. (b) Notwithstanding the foregoing, however, the Company shall not be required to deliver any certificate for Warrant Shares upon exercise of this Warrant except in accordance with exemptions from the applicable securities registration requirements or registrations under applicable securities laws. Nothing herein, however, shall obligate the Company to effect registrations under federal or state securities laws, except as provided in Section 9. If registrations are not in effect and if exemptions are not available when the Holder seeks to exercise the Warrant, the Warrant exercise period will be extended, if need be, to prevent the Warrant from expiring, until such time as either registrations become effective or exemptions are available, and the Warrant shall then remain exercisable for a period of at least 45 calendar days from the date the Company delivers to the Holder written notice of the availability of such registrations or exemptions. The Holder agrees to execute such documents and make such representations, warranties, and agreements as may be required solely to comply with the exemptions relied upon by the Company, or the registrations made, for the issuance of the Warrant Shares. 4. Covenants of the Company. The Company covenants and agrees that all Warrant Shares will, upon issuance, be duly authorized and issued, fully paid, nonassessable, and free from 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 purchase rights evidenced by this Warrant a sufficient number of shares of Common Stock to provide for the exercise of the rights represented by this Warrant. 5. Antidilution Adjustments. The provisions of this Warrant are subject to adjustment from time to time as provided in this Section 5. (a) The Warrant Exercise Price shall be adjusted from time to time such that in case the Company shall hereafter: (i) pay any dividends on any class of stock of the Company payable in Common Stock or securities convertible into Common Stock; (ii) subdivide its then outstanding shares of Common Stock into a greater number of shares; or (iii) combine outstanding shares of Common Stock, by reclassification or otherwise; then, in any such event, the Warrant Exercise Price in effect immediately prior to such event shall (until adjusted again pursuant hereto) be adjusted immediately after such event to a price (calculated to the nearest full cent) determined by dividing (a) the number of shares of Common Stock outstanding immediately prior to such event (including the maximum number of shares of Common Stock issuable in respect of any then outstanding securities convertible into Common Stock), multiplied by the then existing Warrant Exercise Price, by (b) the total number of shares of Common Stock outstanding immediately after such event (including the maximum number of shares of Common Stock issuable in respect of any then outstanding securities convertible into Common Stock), and the resulting quotient shall be the adjusted Warrant Exercise Price per share. An adjustment made pursuant to this subsection shall become effective immediately after the record date in the case of a dividend or distribution and shall become effective immediately after the effective date in the case of a subdivision, combination or reclassification. If, as a result of an adjustment made pursuant to this subsection, the Holder of any Warrant thereafter surrendered for exercise shall become entitled to receive shares of two or more classes of capital stock or shares of Common Stock and other capital stock of the Company, the Board of Directors (whose determination shall be conclusive) shall determine, in good faith, which determination shall be described in a duly adopted board resolution certified by the Company's Secretary, the allocation of the adjusted Warrant Exercise Price between or among shares of such classes of capital stock or shares of Common Stock and other capital stock. All calculations under this subsection shall be made to the nearest cent or to the nearest 1/100 of a share, as the case may be. In the event that at any time as a result of an adjustment made pursuant to this subsection, the Holder of any Warrant thereafter surrendered for exercise shall become entitled to receive any shares of the Company other than shares of Common Stock, thereafter the Warrant Exercise Price of such other shares so receivable upon exercise of any Warrant shall be subject to adjustment from time to time in a manner and on terms as nearly equivalent as practicable to the provisions with respect to Common Stock contained in this Section. (b) In case the Company shall issue shares of Common Stock, or rights, options, warrants or convertible or exchangeable securities containing the right to subscribe for or purchase shares of Common Stock (excluding (i) shares, rights, options, warrants, or convertible or exchangeable securities described in subparagraphs (f) or (g) of Section 11 hereof or issued in any of the transactions described in subparagraphs (a) or (d) of this Section 5, (ii) shares issued upon the exercise of such rights, options or warrants or upon conversion or exchange of such convertible or exchangeable securities, and (iii) the Warrants and any shares issued upon exercise thereof), at a price per share of Common Stock (determined in the case of such rights, options, warrants, or convertible or exchangeable securities by dividing (x) the total amount receivable by the Company in consideration of the sale and issuance of such rights, options, warrants, or convertible or exchangeable securities, plus the total minimum consideration payable to the Company upon exercise, conversion, or exchange thereof by (y) the total maximum number of shares of Common Stock covered by such rights, options, warrants, or convertible or exchangeable securities) lower than the Market Price (as such term is defined in Section 8 hereof) per share of Common Stock on the date the Company fixes the offering price of such shares, rights, options, warrants, or convertible or exchangeable securities, then the Warrant Exercise Price shall be adjusted so that it shall equal the price determined by multiplying the Warrant Exercise Price in effect immediately prior thereto by a fraction (i) the numerator of which shall be the sum of (A) the number of shares of Common Stock outstanding immediately prior to such sale and issuance plus (B) the number of shares of Common Stock which the aggregate consideration received (determined as provided below) for such sale or issuance would purchase at such Market Price per share, and (ii) the denominator of which shall be the total number of shares of Common Stock outstanding immediately after such sale and issuance. Such adjustment shall be made successively whenever such an issuance is made. For the purposes of such adjustment, the maximum number of shares of Common Stock which the holder of any such rights, options, warrants or convertible or exchangeable securities shall be entitled to subscribe for or purchase shall be deemed to be issued and outstanding as of the date of such sale and issuance and the consideration received by the Company therefor shall be deemed to be the consideration received by the Company for such rights, options, warrants, or convertible or exchangeable securities, plus the minimum consideration or premium stated in such rights, options, warrants, or convertible or exchangeable securities to be paid for the shares of Common Stock covered thereby. In case the Company shall sell and issue shares of Common Stock, or rights, options, warrants, or convertible or exchangeable securities containing the right to subscribe for or purchase shares of Common Stock for a consideration consisting, in whole or in part, of property other than cash or its equivalent, then in determining the price per share of Common Stock and the consideration received by the Company for purposes of the first sentence of this subparagraph (b), the Board of Directors of the Company shall determine, in good faith, the fair value of said property, and such determination shall be described in a duly adopted board resolution certified by the Company's Secretary. In case the Company shall sell and issue rights, options, warrants, or convertible or exchangeable securities containing the right to subscribe for or purchase shares of Common Stock together with one or more other securities as a part of a unit at a price per unit, then in determining the price per share of Common Stock and the consideration received by the Company for purposes of the first sentence of this subparagraph (b), the Board of Directors of the Company shall determine, in good faith, which determination shall be described in a duly adopted board resolution certified by the Company's Secretary, the fair value of the rights, options, warrants, or convertible or exchangeable securities then being sold as part of such unit. Such adjustment shall be made successively whenever such an issuance occurs, and in the event that such rights, options, warrants, or convertible or exchangeable securities expire or cease to be convertible or exchangeable before they are exercised, converted, or exchanged (as the case may be), then the Warrant Exercise Price shall again be adjusted to the Warrant Exercise Price that would then be in effect if such sale and issuance had not occurred, but such subsequent adjustment shall not affect the number of Warrant Shares issued upon any exercise of Warrants prior to the date such subsequent adjustment is made. (c) Upon each adjustment of the Warrant Exercise Price pursuant to Section 5(a) or Section 5(b) above, the Holder of each Warrant shall thereafter (until another such adjustment) be entitled to purchase at the adjusted Warrant Exercise Price the number of shares, calculated to the nearest full share, obtained by multiplying the number of shares specified in such Warrant (as adjusted as a result of all adjustments in the Warrant Exercise Price in effect prior to such adjustment) by the Warrant Exercise Price in effect prior to such adjustment and dividing the product so obtained by the adjusted Warrant Exercise Price. (d) In case of any consolidation or merger to which the Company is a party, other than a merger or consolidation in which the Company is the continuing corporation, or in case of any sale or conveyance to another corporation of the property of the Company as an entirety or substantially as an entirety, or in the case of any statutory exchange of securities with another corporation (including any exchange effected in connection with a merger of a third corporation into the Company), there shall be no adjustment under subsection (a) of this Section above but the Holder of each Warrant then outstanding shall have the right thereafter to convert such Warrant into the kind and amount of shares of stock and other securities and property which the Holder would have owned or have been entitled to receive immediately after such consolidation, merger, statutory exchange, sale, or conveyance had such Warrant been converted immediately prior to the effective date of such consolidation, merger, statutory exchange, sale, or conveyance and in any such case, if necessary, appropriate adjustment shall be made in the application of the provisions set forth in this Section with respect to the rights and interests thereafter of any Holders of the Warrant, to the end that the provisions set forth in this Section shall thereafter correspondingly be made applicable, as nearly as may reasonably be, in relation to any shares of stock and other securities and property thereafter deliverable on the exercise of the Warrant. The provisions of this subsection shall similarly apply to successive consolidations, mergers, statutory exchanges, sales or conveyances. (e) Upon any adjustment of the Warrant Exercise Price, then and in each such case, the Company shall give written notice thereof, by first-class mail, postage prepaid, addressed to the Holder as shown on the books of the Company, which notice shall state the Warrant Exercise Price resulting from such adjustment and the increase or decrease, if any, in the number of shares of Common Stock purchasable at such price upon the exercise of this Warrant, setting forth in reasonable detail the method of calculation and the facts upon which such calculation is based. 6. No Voting Rights. This Warrant shall not entitle the Holder to any voting rights or other rights as a stockholder of the Company. 7. Notice of Transfer of Warrant or Resale of the Warrant Shares. (a) Subject to the sale, assignment, hypothecation, or other transfer restrictions set forth in Section 1 hereof, the Holder, by acceptance hereof, agrees to give written notice to the Company before transferring this Warrant or transferring any Warrant Shares of such Holder's intention to do so, describing briefly the manner of any proposed transfer. Promptly upon receiving such written notice, the Company shall present copies thereof to the Company's counsel and to counsel to the original purchaser of this Warrant. If in the opinion of each such counsel the proposed transfer may be effected without registration or qualification (under any federal or state securities laws), the Company, as promptly as practicable, shall notify the Holder of such opinion, whereupon the Holder shall be entitled to transfer this Warrant or to dispose of Warrant Shares received upon the previous exercise of this Warrant, all in accordance with the terms of the notice delivered by the Holder to the Company; provided that an appropriate legend may be endorsed on the Warrant or the certificates for such Warrant Shares respecting restrictions upon transfer thereof necessary or advisable in the opinion of counsel and satisfactory to the Company to prevent further transfers which would be in violation of Section 5 of the Securities Act of 1933, as amended (the "Act"), and applicable state securities laws; and provided further that the prospective transferee or purchaser shall execute such documents and make such representations, warranties, and agreements as may be reasonably required solely to comply with the exemptions relied upon by the Company or the Holder for the transfer or disposition of the Warrant or Warrant Shares. (b) If in the opinion of counsel referred to in this Section 7, the proposed transfer or disposition of this Warrant or such Warrant Shares described in the written notice given pursuant to this Section 7 may not be effected without registration or qualification of this Warrant or such Warrant Shares, the Company shall promptly give written notice thereof to the Holder. 8. Fractional Shares. Fractional shares shall not be issued upon the exercise of this Warrant, but in any case where the Holder would, except for the provisions of this Section, be entitled under the terms hereof to receive a fractional share, the Company shall, upon the exercise of this Warrant for the largest number of whole shares then called for, pay a sum in cash equal to the sum of (a) the excess, if any, of the Market Price of such fractional share over the proportional part of the Warrant Exercise Price represented by such fractional share, plus (b) the proportional part of the Warrant Exercise Price represented by such fractional share. For purposes of this Section, the term "Market Price" with respect to shares of Common Stock of any class or series means the last reported sale price or, if none, the average of the last reported closing bid and asked prices on any national securities exchange, the Nasdaq National Market or Nasdaq SmallCap Market, or if not listed on a national securities exchange or quoted on Nasdaq, the average of the last reported closing bid and asked prices as reported in the "pink sheets" or other standard compilation of quotations by market makers in the over-the-counter market. 9. Registration Rights. (a) If at any time after March 13, 1998 and on or before November 25, 2001, the Company proposes to register under the Act (except by a Form S-4 or Form S-8 Registration Statement or any successor forms thereto) or qualify for a public distribution under Section 3(b) of the Act, any of its equity securities or debt with equity features, it will give written notice to all Holders of this Warrant, any Warrants issued pursuant to Section 2 or Section 3(a) hereof, and any Warrant Shares of its intention to do so and, on the written request of any such Holder given within twenty (20) days after receipt of any such notice (which request shall specify the interest in such Warrants or the Warrant Shares intended to be sold or disposed of by such Holder and describe the nature of any proposed sale or other disposition thereof), the Company will use its best efforts to cause all Warrant Shares, the Holders of which shall have requested the registration or qualification thereof, to be included in such Registration Statement proposed to be filed by the Company; provided, however, that if a greater number of Warrant Shares is offered for participation in the proposed offering than in the reasonable opinion of the managing underwriter of the proposed offering can be accommodated without adversely affecting the proposed offering, then the amount of Warrants and Warrant Shares proposed to be offered by such Holders for registration, as well as the number of securities of any other selling stockholders participating in the registration, shall be proportionately reduced to a number deemed satisfactory by the managing underwriter. For purposes of this Section 9(a), the Holders who have requested registration of Warrant Shares to be acquired upon the exercise of Warrants not theretofore exercised shall furnish the Company with an undertaking that they or the underwriters or other persons to whom such Warrants will be transferred have undertaken to exercise such Warrants and to sell, transfer or otherwise dispose of the Warrant Shares received upon exercise of such Warrants in such registration. (b) Upon request made any time on or before November 25, 2001, by Holders of Warrants and Warrant Shares (together, the "Securities") representing at least fifty percent (50%) of the Securities then outstanding, the Company will, at its expense, promptly take all necessary steps to register or qualify all of the Warrant Shares under Section 3(b) or Section 5 of the Act and such state laws as such Holders may reasonably request and, if so requested by such Holders, the Company shall use its best efforts to cause such registration to be underwritten on a firm commitment basis; provided that the Company shall not be obligated to effect more than one (1) such registration pursuant to this Section 9(b) unless, in such initial registration, the Company shall have been unable to effect the registration of all of the Warrant Shares, the Holders of which have requested inclusion in such registration, (whether then outstanding or issuable upon the exercise of Warrants then outstanding); in which case, the Company shall be obligated to effect one (1) additional registration pursuant to this Section 9(b) when requested by Holders who have not sold all of their Warrant Shares. For purposes of this Section 9(b), the Holders who have requested registration of Warrant Shares to be acquired upon the exercise of Warrants not theretofore exercised shall furnish the Company with an undertaking that they or the underwriters or other persons to whom such Warrants will be transferred have undertaken to exercise such Warrants and to sell, transfer or otherwise dispose of the Warrant Shares received upon exercise of such Warrants in such registration. In the event of an underwritten offering pursuant to this Section 9(b), the Holders requesting registration of the Warrant Shares being registered (i) shall be entitled to select the underwriter; provided, that the underwriter so selected shall be subject to approval by the Company, which approval shall not be withheld unreasonably, and (ii) must agree to all usual and customary underwriting terms and conditions including, but not limited to, any lock-up period imposed on selling Holders (not to exceed 180 days); provided, however, that the Company shall use its reasonable best efforts to cause each Holder of a material number of shares of Common Stock to enter into similar lock-up agreements in respect to such offering. The Company shall keep effective and maintain any registration, qualification, notification or approval specified in this paragraph for such period as may be necessary for the Holders of the Warrants and the Warrant Shares to dispose thereof and from time to time shall amend or supplement, at the Company's expense, the prospectus used in connection therewith to the extent necessary in order to comply with applicable law, provided that the Company shall not be obligated to maintain any registration for a period of more than six (6) months after effectiveness, except that a Form S-3 Registration Statement or successor thereof shall be maintained for up to twelve (12) months after effectiveness. Notwithstanding the foregoing, if a greater number of securities is offered for participation in the proposed offering pursuant to this Section 9(b) than in the reasonable opinion of the managing underwriter of the proposed offering can be accommodated without adversely affecting the proposed offering, then the securities to be included in the proposed offering shall be included as follows: first, the amount of the Warrants and Warrant Shares proposed to be offered by the Holders for registration; and second, the number of other securities of the Company and of any other selling stockholders participating in the registration shall be proportionately reduced to a number deemed satisfactory by the managing underwriter. (c) With respect to each inclusion of securities in a Registration Statement pursuant to Section 9(a) or 9(b) above, the Company shall bear the following fees, costs, and expenses: all registration, filing and NASD fees, Nasdaq fees, printing expenses, fees and disbursements of counsel and accountants for the Company, reasonable fees and disbursements for one (1) counsel for all the Holders, fees and disbursements of counsel for the underwriter or underwriters of such securities (if the offering is underwritten and the Company is required to bear such fees and disbursements), all internal expenses, the premiums and other costs of policies of insurance against liability arising out of the public offering, and legal fees and disbursements and other expenses of complying with state securities laws of any jurisdictions in which the securities to be offered are to be registered or qualified. Except as set forth in the foregoing sentence, fees and disbursements of special counsel and accountants for the selling Holders, underwriting discounts and commissions, and transfer taxes for selling Holders and any other expenses relating to the sale of securities by the selling Holders shall be borne by the selling Holders. (d) The Company hereby indemnifies each of the Holders of this Warrant and of any Warrant Shares, and the officers and directors and each other person, if any, who control such Holders, within the meaning of Section 15 of the Act, against all losses, claims, damages, and liabilities caused by (1) any untrue statement or alleged untrue statement of a material fact contained in any Registration Statement or Prospectus (and as amended or supplemented if the Company shall have furnished any amendments thereof or supplements thereto), any Preliminary Prospectus or any state securities law filings; (2) any omission or alleged omission to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading, except insofar as such losses, claims, damages, or liabilities are caused by any untrue statement or omission contained in information furnished in writing to the Company by such Holder expressly for use therein; and each such Holder by its acceptance hereof severally agrees that it will indemnify and hold harmless the Company, each of its officers who signs such Registration Statement, and each person, if any, who controls the Company, within the meaning of Section 15 of the Act, with respect to losses, claims, damages, or liabilities which are caused by any untrue statement or omission contained in information furnished in writing to the Company by such Holder expressly for use therein. Unless otherwise required by applicable law or judicial interpretation thereof, the liability of any selling Holder hereunder shall not be greater in amount than the dollar amount of the proceeds received by such Holder upon the sale of the Securities giving rise to such indemnification obligation. (e) The Company shall not file or permit the filing of any registration or comparable statement which refers to any Holder by name or otherwise as the Holder of any securities of the Company unless such reference to such Holder is specifically required by the Act or any similar federal statute then in force. (f) In connection with the preparation and filing of each registration statement under the Act pursuant to this Section 9, the Company shall give the selling Holders under such registration statement, their underwriters, if any, and their respective counsel and accountants, the opportunity to participate in the preparation of such registration statement, each prospectus included therein or filed with the Securities and Exchange Commission (the "Commission"), and each amendment thereof or supplement thereto, and will give each of them such access to its books and records and such opportunities to discuss the business of the Company with its officers and the independent public accountants who have certified its financial statements as shall be necessary, in the opinion of such Holders' and such underwriters' respective counsel, to conduct a reasonable investigation within the meaning of the Act. (g) If the indemnification provided for in Section 9(d) hereof from the indemnifying party is unavailable to an indemnified party hereunder in respect of any losses, claims, damages, liabilities, or expenses referred to herein, then the indemnifying party, in lieu of indemnifying such indemnified party, shall contribute to the amount paid or payable by such indemnified party as a result of losses, claims, damages, liabilities, or expenses in such proportion as is appropriate to reflect the relative fault of the indemnifying party and indemnified party in connection with the actions which resulted in such losses, claims, damages, liabilities, or expenses, as well as any other relevant equitable considerations. The relative fault of such indemnifying party and indemnified party shall be determined by reference to, among other things, whether any action in question, including any untrue or alleged untrue statement of a material fact or omission or alleged omission to state a material fact, has been made by, or relates to information supplied by, such indemnifying party or indemnified party, and the parties' relative intent, knowledge, access to information, and opportunity to correct or prevent such action. The amount paid or payable by a party as a result of the losses, claims, damages, liabilities, and expenses referred to above shall be deemed to include any legal or other fees or expenses reasonably incurred by such party in connection with any investigation or proceeding. In no event shall the liability of any selling Holder hereunder be greater in amount than the dollar amount of the proceeds received by such Holder upon the sale of the Securities giving rise to such contribution obligation. The parties hereto agree that it would not be just and equitable if contribution pursuant to this Section 9(g) were determined by pro rata allocation or by any other method of allocation which does not take into account the equitable considerations referred to in this Section 9(g). No person guilty of fraudulent misrepresentation (within the meaning of Section 11(f) of the Act) shall be entitled to contribution from any person or entity who was not guilty of such fraudulent misrepresentation. (h) The Company shall not after March 13, 1998 (the "Date of Grant"), grant additional registration rights which conflict with the rights under this Section 9. 10. Right to Convert Warrant into Common Stock; Net Issuance. (a) Right to Convert. In addition to and without limiting the rights of the Holder under the terms of this Warrant, the Holder shall have the right to convert this Warrant or any portion thereof (the "Conversion Right") into shares of Common Stock as provided in this Section 10 at any time or from time to time during the term of this Warrant. Upon exercise of the Conversion Right and with respect to a particular number of shares subject to this Warrant (the "Converted Warrant Shares"), the Company shall deliver to the Holder (without payment by the Holder of any exercise price or any cash or other consideration) that number of shares of fully paid and nonassessable Common Stock equal to the quotient obtained by dividing (i) the value of this Warrant (or the specified portion hereof) on the Conversion Date (as defined in subsection (b) hereof), which value shall be equal to (A) the aggregate Market Price of the Converted Warrant Shares issuable upon exercise of this Warrant (or the specified portion hereof) on the Conversion Date less (B) the aggregate Warrant Exercise Price of the Converted Warrant Shares immediately prior to the exercise of the Conversion Right by (ii) the Market Price of one share of Common Stock on the Conversion Date. Expressed as a formula, such conversion shall be computed as follows: X = A - B ----- Y Where: X = the number of shares of Common Stock that may be issued to holder Y = the Market Price (FMV) of one share of Common Stock A = the aggregate FMV (i.e., FMV x Converted Warrant Shares) B = the aggregate Warrant Exercise Price (i.e., Converted Warrant Shares x Warrant Price) No fractional shares shall be issuable upon exercise of the Conversion Right, and, if the number of shares to be issued determined in accordance with the foregoing formula is other than a whole number, the Company shall pay to the holder an amount in cash equal to the fair market value of the resulting fractional share on the Conversion Date. For purposes of Section 9 of this Warrant, Warrant Shares issued pursuant to the Conversion Right shall be treated as if they were issued upon the exercise of this Warrant. (b) Method of Exercise. The Conversion Right may be exercised by the Holder by the surrender of this Warrant at the principal office of the Company together with a written statement specifying that the Holder thereby intends to exercise the Conversion Right and indicating the number of shares subject to this Warrant which are being surrendered (referred to in subsection (a) hereof as the Converted Warrant Shares) in exercise of the Conversion Right. Such conversion shall be effective upon receipt by the Company of this Warrant together with the aforesaid written statement, or on such later date as is specified therein (the "Conversion Date"). Certificates for the shares issuable upon exercise of the Conversion Right and, if applicable, a new warrant evidencing the balance of the shares remaining subject to this Warrant, shall be issued as of the Conversion Date and shall be delivered to the holder within thirty (30) days following the Conversion Date. (c) Determination of Market Price. For purposes of this Section 10, "Market Price" of a share of Common Stock shall have the meaning set forth in Section 8 above. 11. Representations and Warranties. The Company represents and warrants to the Holder of this Warrant as follows: (a) This Warrant has been duly authorized and executed by the Company and is a valid and binding obligation of the Company enforceable in accordance with its terms, subject to laws of general application relating to bankruptcy, insolvency and the relief of debtors and the rules of law or principles at equity governing specific performance, injunctive relief and other equitable remedies; (b) The Warrant Shares have been duly authorized and reserved for issuance by the Company and, when issued in accordance with the terms hereof, will be validly issued, fully paid and nonassessable; (c) The rights, preferences, privileges and restrictions granted to or imposed upon the Common Stock and the holders thereof are as set forth in the articles of incorporation of the Company, as amended to the date of grant (as so amended, the "Articles"), a true and complete copy of which has been delivered to Foothill; (d) The execution and delivery of this Warrant are not, and the issuance of the Warrant Shares upon exercise of this Warrant in accordance with the terms hereof will not be, inconsistent with the Articles or by-laws of the Company, do not and will not contravene, in any material respect, any governmental rule or regulation, judgment or order applicable to the Company, and do not and will not conflict with or contravene any provision of, or constitute a default under, any indenture, mortgage, contract or other instrument of which the Company is a party or by which it is bound or require the consent or approval of, the giving of notice to, the registration or filing with or the taking of any action in respect of or by, any Federal, state or local government authority or agency or other person, except for the filing of notices pursuant to federal and state securities laws, which filings will be effected by the time required thereby; (e) There are no actions, suits, audits, investigations or proceedings pending or, to the knowledge of the Company, threatened against the Company in any court or before any governmental commission, board or authority which, if adversely determined, will have a material adverse effect on the ability of the Company to perform its obligations under this Warrant; (f) The authorized capital stock of the Company consists of Fifty Million (50,000,000) shares of Common Stock, of which Six Million Six Hundred Forty Nine Thousand Eight Hundred Sixty Five (6,649,865) shares were issued and outstanding as of the close of business on March 9, 1998 and Two Hundred Ninety Thousand Two Hundred Thirteen (290,213) shares of Preferred Stock, of which all such shares were issued and outstanding as of the Date of Grant. All such outstanding shares have been validly issued and are fully paid, nonassessable shares free of preemptive rights; (g) Except for the capital stock issuable pursuant to the 1991 Incentive Stock Option Plan, the 1994 Director Stock Option Plan, the 1994 Stock Option Plan, the 1996 Employee Stock Purchase Plan, Non-Qualified Stock Options, and any other rights, options or warrants issuable or outstanding as of the Date of Grant as disclosed in the Company's filings with the Commission, there are no subscriptions, rights, options, warrants or calls relating to any shares of the Company's capital stock, including any right of conversion or exchange under any outstanding security or other instrument; and (h) Except as disclosed in the Company's filings with the Commission, the Company is not subject to any obligation (contingent or otherwise) to repurchase or otherwise acquire or retire any shares of its capital stock or any security convertible into or exchangeable for any of its capital stock. IN WITNESS WHEREOF, Children's Broadcasting Corporation has caused this Warrant to be signed by its duly authorized officer this 13th day of March, 1998. Children's Broadcasting Corporation By /s/ James G. Gilbertson ---------------------------------- Name: James G. Gilbertson Its: Chief Operating Officer CHILDREN'S BROADCASTING CORPORATION WARRANT EXERCISE NOTICE (TO BE SIGNED ONLY UPON EXERCISE OF WARRANT) The undersigned, the Holder of the foregoing Warrant, hereby irrevocably elects to exercise the purchase right represented by such Warrant for, and to purchase thereunder, ___________________________ shares of the Common Stock of Children's Broadcasting Corporation to which such Warrant relates and herewith makes payment of $____________ therefor in cash or by certified or cashier's check and requests that the certificate for such shares be issued in the name of, and be delivered to _____________________________________, whose address is set forth below the signature of the undersigned. If the number of shares purchased is less than all of the shares purchasable under the Warrant, a new Warrant will be issued in the name of the undersigned for the remaining balance remaining of the shares purchasable thereunder. Name of Warrant Holder: ------------------------------------------------ (Please print) Address of Warrant Holder: ------------------------------------------------ ------------------------------------------------ Tax Identification No. or Social Security No. of Warrant Holder: ------------------------------------------------ Signature: -------------------------------------- NOTE: THE ABOVE SIGNATURE SHOULD CORRESPOND EXACTLY WITH THE NAME OF THE WARRANT HOLDER AS IT APPEARS ON THE FIRST PAGE OF THE WARRANT OR ON A DULY EXECUTED WARRANT ASSIGNMENT. Dated: ------------------------------------------ CHILDREN'S BROADCASTING CORPORATION WARRANT ASSIGNMENT (TO BE SIGNED ONLY UPON TRANSFER OF WARRANT) FOR VALUE RECEIVED, the undersigned hereby sells, assigns and transfers unto ____________________________________________________________, the assignee, whose address is __________________________________________________________, and whose tax identification or social security number is _________________________, the right represented by the foregoing Warrant to purchase _____________________ shares of the Common Stock of Children's Broadcasting Corporation to which the foregoing Warrant relates and appoints _________________________________________ attorney to transfer said right on the books of Children's Broadcasting Corporation, with full power of substitution in the premises. If the number of shares assigned is less than all of the shares purchasable under the Warrant, a new Warrant will be issued in the name of the undersigned for the remaining balance of the shares purchasable thereunder. Name of Warrant Holder/Assignor: ------------------------------------------------ (Please print) Address of Warrant Holder/Assignor: ------------------------------------------------ ------------------------------------------------ Tax Identification No. or Social Security No. of Warrant Holder/Assignor: ------------------------------------------------ Signature: -------------------------------------- NOTE: THE ABOVE SIGNATURE SHOULD CORRESPOND EXACTLY WITH THE NAME OF THE WARRANT HOLDER AS IT APPEARS ON THE FIRST PAGE OF THE WARRANT OR ON A DULY EXECUTED ASSIGNMENT FORM. Dated: ------------------------------------------ EX-21.1 6 SUBSIDIARIES EXHIBIT 21.1 SUBSIDIARIES Name State of Incorporation - ------------------------------------------ -------------------------- Children's Radio of Los Angeles, Inc. Minnesota Children's Satellite Network, Inc. Minnesota Children's Radio of New York, Inc. New Jersey Children's Radio of Minneapolis, Inc. Minnesota Children's Radio of Golden Valley, Inc. Minnesota Children's Radio of Dallas, Inc. Minnesota Children's Radio of Houston, Inc. Minnesota Children's Radio of Kansas City, Inc. Minnesota Children's Radio of Milwaukee, Inc. Minnesota Children's Radio of Denver, Inc. Minnesota Children's Radio of Detroit, Inc. Minnesota Children's Radio of Philadelphia, Inc. Minnesota Children's Radio of Chicago, Inc. Minnesota Children's Radio of Phoenix, Inc. Minnesota Children's Radio of Tulsa, Inc. Minnesota KAHZ-AM, Inc. Minnesota KCNW-AM, Inc. Minnesota KIDR-AM, Inc. Minnesota KKYD-AM, Inc. Minnesota KMUS-AM, Inc. Minnesota KPLS-AM, Inc. Minnesota KTEK-AM, Inc. Minnesota KYCR-AM, Inc. Minnesota WAUR-AM, Inc. Minnesota WCAR-AM, Inc. Minnesota WJDM-AM, Inc. Minnesota WPWA-AM, Inc. Minnesota WWTC-AM, Inc. Minnesota WZER-AM, Inc. Minnesota EX-23.1 7 CONSENT OF INDEPENDENT AUDITORS EXHIBIT 23.1 CONSENT OF INDEPENDENT AUDITORS We consent to the incorporation by reference in the Registration Statement on Form S-8 (No. 33-62402) pertaining to the 1991 Incentive Stock Option Plan, Stock Grants and Non-Qualified Stock Option Agreements, the Registration Statement on Form S-8 (No. 33-93546) pertaining to the 1994 Stock Option Plan, 1994 Director Stock Option Plan and the Written Compensation Agreement with R. David Ridgeway, the Registration Statement on Form S-8 (No. 333-21699) pertaining to the 1994 Stock Option Plan, the Registration Statement on Form S-8 (No. 333-21701) pertaining to the 1996 Employee Stock Purchase Plan and Non-Qualified Stock Option Agreements, the Registration Statement on Form S-3 (No. 333-06865) pertaining to the registration of 1,614,802 shares of common stock, the Registration Statement on Form S-3 (No. 333-14483) pertaining to the registration of 1,125,580 shares of common stock, the Registration Statement on Form S-3 (No. 333-21117) pertaining to the registration of 493,895 shares of common stock, the Registration Statement on Form S-3 (No. 333-28315) pertaining to the registration of 318,607 shares of common stock, the Registration Statement on Form S-4 (No. 333-18575) pertaining to the registration of 5,000,000 shares of common stock and $5,000,000 of debt securities of Children's Broadcasting Corporation of our report dated February 24, 1998 except for notes 2, 9, 13 and 16 which are dated March 13, 1998, with respect to the consolidated financial statements included in the Annual Reports (Forms 10- KSB) for the years ended December 31, 1996 and December 31, 1997. /s/ BDO Seidman, LLP Milwaukee, Wisconsin March 30, 1998 EX-27.1 8 FINANCIAL DATA SCHEDULE
5 YEAR DEC-31-1998 JAN-01-1997 DEC-31-1997 545,258 0 1,696,756 472,000 0 2,021,056 7,044,484 2,336,157 35,413,574 27,727,248 25,441,408 0 0 132,997 4,995,674 35,413,574 5,854,441 5,854,441 0 17,260,112 2,702,287 472,000 2,656,858 (14,558,353) 0 (14,558,353) 0 0 0 (14,558,353) (2.33) (2.33)
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