-----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, Fc9GG0Ab9Ivw+ljr8JRxtVrUFYk/0Q2UOLDV+U0ecSIX9ogWlp99tV6y2I9tbTQq 8aMyDfriblk1np7wE4vUiw== 0000950134-96-006698.txt : 19961206 0000950134-96-006698.hdr.sgml : 19961206 ACCESSION NUMBER: 0000950134-96-006698 CONFORMED SUBMISSION TYPE: 10-Q/A PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 19960930 FILED AS OF DATE: 19961205 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: SOURCE MEDIA INC CENTRAL INDEX KEY: 0000900029 STANDARD INDUSTRIAL CLASSIFICATION: TELEGRAPH & OTHER MESSAGE COMMUNICATIONS [4822] IRS NUMBER: 133700438 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q/A SEC ACT: 1934 Act SEC FILE NUMBER: 000-21894 FILM NUMBER: 96676469 BUSINESS ADDRESS: STREET 1: 8140 WALNUT HILL LANE STE 1000 CITY: DALLAS STATE: TX ZIP: 75231 BUSINESS PHONE: 9146695811 MAIL ADDRESS: STREET 1: 8140 WALNUT HILL LANE STREET 2: STE 1000 CITY: DALLAS STATE: TX ZIP: 75231 FORMER COMPANY: FORMER CONFORMED NAME: HB COMMUNICATIONS ACQUISITION CORP DATE OF NAME CHANGE: 19950703 10-Q/A 1 AMENDMENT TO FORM 10-Q 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q/A [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTER ENDED SEPTEMBER 30, 1996 [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM ....... TO ....... COMMISSION FILE NUMBER 0-21894 SOURCE MEDIA, INC. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 13-3700438 (STATE OF INCORPORATION) (I.R.S. EMPLOYER IDENTIFICATION NUMBER) 8140 WALNUT HILL LANE, SUITE 1000 DALLAS, TEXAS 75231 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (214) 890-9050 (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE) INDICATE BY CHECK MARK WHETHER THE REGISTRANT (1) HAS FILED ALL REPORTS REQUIRED TO BE FILED BY SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 DURING THE PRECEDING 12 MONTHS (OR FOR SUCH SHORTER PERIOD THAT THE REGISTRANT WAS REQUIRED TO FILE SUCH REPORTS), AND (2) HAS BEEN SUBJECT TO SUCH FILING REQUIREMENTS FOR THE PAST 90 DAYS. YES X NO ----- ----- NUMBER OF SHARES OF COMMON STOCK OUTSTANDING AT NOVEMBER 8, 1996: 9,945,690 1 2 SOURCE MEDIA, INC. FORM 10-Q FOR THE QUARTER ENDED SEPTEMBER 30, 1996
PART I. FINANCIAL INFORMATION Page Number ----------- Item 1. Consolidated Financial Statements Consolidated Balance Sheets (Unaudited) September 30, 1996 and December 31, 1995 . . . . . . . . . . . . . . . . . . . . . . 3 Consolidated Statements of Operations (Unaudited) Three and nine months ended September 30, 1996 and 1995. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5 Consolidated Statements of Cash Flows (Unaudited) Nine months ended September 30, 1996 and 1995. . . . . . . . . . . . . . . . . . . . 6 Notes to Consolidated Financial Statements . . . . . . . . . . . . . . . . . . . . . . . . . 7 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11 PART II. OTHER INFORMATION Item 1. Legal Proceedings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20 Item 2. Changes in Securities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . N/A Item 3. Defaults Upon Senior Securities. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . N/A Item 4. Submission of Matters to a Vote of Security Holders . . . . . . . . . . . . . . . . . . . . . N/A Item 5. Other Information . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . N/A Item 6. Exhibits and Reports on Form 8-K . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 21
2 3 PART I. FINANCIAL INFORMATION ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS SOURCE MEDIA, INC. CONSOLIDATED BALANCE SHEETS (UNAUDITED)
DECEMBER 31, SEPTEMBER 30, 1995 1996 ----------- ------------ ASSETS Current assets: Cash and cash equivalents $17,479,223 $12,159,425 Trade accounts receivable, less allowance for doubtful accounts 1,076,239 1,048,609 Prepaid expenses and other current assets 892,234 745,501 Deferred expenses 889,393 768,167 ----------- ----------- Total current assets 20,337,089 14,721,702 Property and equipment: Production equipment 2,421,816 2,212,074 Computer equipment 927,672 1,806,267 Other equipment 960,446 1,922,863 Furniture and fixtures 120,544 128,506 ----------- ----------- 4,430,478 6,069,710 Accumulated depreciation 2,670,017 3,315,340 ----------- ----------- Net property and equipment 1,760,461 2,754,370 Intangible assets: Patents 3,597,989 3,597,989 Goodwill 3,010,137 3,010,137 ----------- ----------- 6,608,126 6,608,126 Accumulated amortization 4,510,434 5,283,936 ----------- ----------- other non-current assets - 354,453 ----------- ----------- Total assets $24,195,242 $19,154,715 =========== ===========
3 4 SOURCE MEDIA, INC. CONSOLIDATED BALANCE SHEETS (CONTINUED) (UNAUDITED)
DECEMBER 31, SEPTEMBER 30, 1995 1996 ----------- ------------ Liabilities and Stockholders' Equity Current liabilities: Trade accounts payable $ 1,296,516 $ 909,371 Accrued payroll 258,734 213,049 Other accrued liabilities 1,650,091 1,252,499 Unearned income 4,724,957 4,507,523 Current portion of capital lease obligations 184,175 119,361 ----------- ----------- Total current liabilities 8,114,473 7,001,803 Long-term debt, net of discount - 4,580,365 Capital lease obligations, less current portion 35,039 38,407 Minority interests in consolidated subsidiaries 3,618,629 3,549,806 Note receivable and accrued interest from minority stockholder, net of discount of $178,866 and $147,580 in 1995 and 1996, respectively (610,175) (652,721) ----------- ----------- 3,008,454 2,897,085 Stockholders' equity: Common stock, $.001 par value: Authorized shares - 50,000,000 Issued shares - 10,303,605 and 10,316,605 in 1995 and 1996, respectively 10,304 10,317 Less treasury stock, at cost - 356,200 and 381,351 in 1995 and 1996, respectively (3,515,563) (3,757,641) Capital in excess of par value 59,955,392 60,750,878 Accumulated deficit (43,076,663) (52,245,061) Foreign currency translation (34,619) (8,507) Notes receivable and accrued interest from stockholders (301,575) (112,931) ----------- ----------- Total stockholders' equity 13,037,276 4,637,055 ----------- ----------- Total liabilities and stockholders' equity $24,195,242 $19,154,715 =========== ===========
See accompanying notes. 4 5 SOURCE MEDIA, INC. CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
THREE MONTHS ENDED SEPT. 30, NINE MONTHS ENDED SEPT. 30, 1995 1996 1995 1996 ============================= ============================= Monetary revenues $2,397,496 $1,819,422 $7,102,346 $6,405,778 Nonmonetary revenues 3,769,085 2,366,560 12,670,079 8,041,541 --------------------------- -------------------------- Total revenues 6,166,581 4,185,982 19,772,425 14,447,319 Monetary cost of sales 1,229,612 854,946 3,845,940 2,707,457 Nonmonetary cost of sales 3,769,085 2,366,560 12,670,079 8,041,541 --------------------------- -------------------------- Total cost of sales 4,998,697 3,221,506 16,516,019 10,748,998 --------------------------- -------------------------- Gross profit 1,167,884 964,476 3,256,406 3,698,321 Selling, general and administrative expenses 1,874,761 3,111,836 5,860,516 8,081,441 Amortization of intangible assets 257,834 257,835 773,503 773,503 Research and development expenses 1,067,428 1,763,316 2,614,344 4,414,119 --------------------------- -------------------------- 3,200,023 5,132,987 9,248,363 13,269,063 --------------------------- -------------------------- Operating loss (2,032,139) (4,168,511) (5,991,957) (9,570,742) Interest expense 21,249 167,907 346,604 360,617 Interest income (114,390) (223,147) (156,383) (661,931) Other (income) expense (7,807) (6,592) (12,515) (32,207) Minority interest in earnings (losses) of consolidated subsidiaries 244,984 40,501 (130,411) (68,823) Charges related to financing incentives 0 - 1,581,250 - --------------------------- -------------------------- Net loss (2,176,175) (4,147,180) (7,620,502) (9,168,398) Preferred stock dividends - - 832,651 - Net loss attributable to common stockholders ($2,176,175) ($4,147,180) ($8,453,152) ($9,168,398) =========================== ========================== Net loss per common share ($0.56) ($0.42) ($1.48) ($0.92) =========================== ========================== Weighted average common shares outstanding 3,917,669 9,934,238 5,727,735 9,932,528 =========================== ==========================
See accompanying notes 5 6 SOURCE MEDIA, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
NINE MONTHS ENDED SEPTEMBER 30, 1995 1996 ------------------------------- OPERATING ACTIVITIES Net loss ($7,620,502) ($9,168,398) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation 636,353 645,323 Amortization of intangible assets 773,503 773,502 Provision for losses on accounts receivable 89,475 86,983 Minority interests in net losses (130,411) (68,823) Charges related to financing incentives 1,581,250 - Other, net (7,809) (157,152) Changes in operating assets and liabilities: Trade accounts receivable (136,192) (59,353) Prepaid expenses and other current assets 110,927 146,733 Deferred expenses (25,445) 121,226 Trade accounts payable 294,395 (387,145) Accrued payroll 82,851 (45,685) Other accrued liabilities (2,072) (70,786) Other accrued liabilities to related parties (166,263) - Unearned income (375,557) (217,434) ---------- ----------- Net cash used in operating activities (4,895,497) (8,401,009) INVESTING ACTIVITIES Capital expenditures (196,598) (1,449,213) ---------- ----------- Net cash used in investing activities (196,598) (1,449,213) FINANCING ACTIVITIES Proceeds from issuance of debt and warrant 2,825,000 5,000,000 Cash acquired in HBAC Merger 8,891,389 - Payment of fees and expenses associated with Merger (1,135,159) - Redemption of HBAC shares (527,220) - Payments on debt (4,380,000) - Payment of fees and expenses associated with Merger issuance of debt and warrant - (393,891) Payments on capital lease obligations (129,293) (151,466) Proceeds from issuance of common stock 574,230 79,712 Other - (30,043) ---------- ----------- Net cash provided by financing activities 6,118,947 4,504,312 Effect of exchange rate changes on cash and cash equivalents (33,105) 26,112 ---------- ----------- Net increase (decrease) in cash and cash equivalents 993,747 (5,319,798) Cash and cash equivalents at beginning of period 127,010 17,479,223 ---------- ----------- Cash and cash equivalents at end of period $1,120,757 $12,159,425 ========== ===========
See accompanying notes. 6 7 SOURCE MEDIA, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) 1. Basis of Presentation The accompanying unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and the instructions for Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management these financial statements include all adjustments, consisting of normal recurring accruals, necessary to present fairly the financial position, results of operations and cash flows of Source Media, Inc. and its consolidated subsidiaries (the "Company") for the periods indicated. The balance sheet at December 31, 1995 has been derived from the audited financial statements at that date. For further information, refer to the consolidated financial statements and notes thereto included in the Company's Annual Report on Form 10-K for the year ended December 31, 1995. 2. Net Loss and Supplemental Net Loss per Common Share The computation of net loss per common share in each period is based on the weighted average number of common shares outstanding for each period, after the retroactive adjustment to reflect shares issued to the former common stockholders of IT Network, Inc. ("IT") in the merger of IT into a wholly-owned subsidiary of HB Communications Acquisition Corp. ("HBAC") (the "Merger") and the 1-for-2 reverse stock split that was effected on October 10, 1995. See Management's Discussion and Analysis of Financial Condition and Results of Operations herein and Note 1 to the audited consolidated financial statements for the year ended December 31, 1995 included in the Company's Annual Report on Form 10-K for the year ended December 31, 1995 for additional discussion of the Merger. Convertible securities and stock options are not included in the net loss per common share calculation for each period because they are anti-dilutive. The common stock held by HBAC stockholders prior to the Merger and the common stock issued upon the conversion of the preferred stock of IT into shares of common stock of the Company are included in the computation from the date of the Merger. Supplemental net loss per common share for the quarter ended September 30, 1995 was ($0.28). Supplemental net loss per common share for the nine months ended September 30, 1995 was ($1.04). Supplemental net loss per common share and supplemental weighted average common shares outstanding (7,835,338 for the quarter ended September 30, 1995 and 7,202,947 for the nine months ended September 30, 1995) are provided under the assumption the Merger took place at the beginning of the respective periods. Under this assumption, supplemental weighted average common shares outstanding include (1) common shares that would have been outstanding upon the conversion of IT's preferred shares, and (2) additional 7 8 shares equal to that portion of the common shares held by HBAC stockholders assumed to have been issued in order to repay the portion of the $4.1 million of IT debt and related accrued interest outstanding during the respective periods. Supplemental net loss is computed as historical net loss less the impact of interest expense related to the portion of the $4.1 million of IT debt and related accrued interest outstanding during the respective periods and repaid with the proceeds from the Merger. 3. Long-Term Debt and Notes Payable On April 3, 1996, the Company issued a senior note (the "First Tranche Note") in the principal amount of $5.0 million and a warrant entitling the holder thereof to purchase 500,000 shares of the Company's common stock at a purchase price of $10.21 per share. Additional notes (the "Second Tranche Note") in the aggregate principal amount of up to $5.0 million may be issued on or before April 3, 1997 provided certain conditions are met. On September 30, 1996, the Company issued an additional senior note in the amount of $326,806 for the payment of interest on the First Tranche Note. This note has terms identical to the First Tranche Note. In connection with this transaction, if certain conditions are met and the Company elects to issue the Second Tranche Note, the Company will be obligated to issue a second warrant entitling the holder to purchase up to an additional 500,000 shares of the Company's common stock at a purchase price of $10.21 per share. All notes issued in connection with this transaction are due on March 31, 2001 and bear interest at the rate of 13% per annum through March 31, 1998 and 12% thereafter. On March 31, 2000, the Company must make a prepayment of the notes equal to 33.33% of the then outstanding principal (together with interest accrued to date on such principal amount). Through March 31, 1998, at the option of the Company, interest payments may be made through the issuance of additional notes. The notes are secured by a lien on all of the Company's assets, including its shares of stock of its majority-owned subsidiary, Cableshare Inc. ("Cableshare"), an Ontario, Canada corporation, and a licensing agreement with Cableshare. Except for the required prepayment described above, the note agreement provides for a prepayment penalty and customary covenants and events of default. The warrants contain standard anti-dilution provisions. The Company also granted the holders of the warrants demand and "piggyback" registration rights covering the shares of the Company's common stock issuable upon exercise of the warrants. The warrant is exercisable, in whole or in part, at any time until its expiration on March 31, 2001. The estimated fair market value of the warrant was credited to capital in excess of par value and the senior notes were recorded at a corresponding discount. The discount on the senior notes is being amortized to interest expense using the effective interest rate method over the stated term of the senior notes, resulting in an effective interest rate on the senior notes of 16.2%. 4. Stock Options, Employee Stock Purchase Plan and Shares Reserved For Conversion During July 1996, the Board of Directors of the Company adopted the Employee Stock Purchase Plan (the "Plan"), subject to approval by the Company's stockholders at the 1997 8 9 annual meeting. Under the Plan, eligible employees may purchase shares of the Company's common stock at a discount through voluntary monthly payroll deductions, beginning in September 1996. In connection with the Plan, the Company has set aside 100,000 shares of Common Stock held in treasury. During June and July 1996, the Board of Directors granted 665,000 stock options to certain officers and managers of the Company under the terms of the 1995 Performance Equity Plan at exercise prices ranging from $8.28 per share to $10.50 per share. 5. Contingencies In January 1994, a former officer and director and significant stockholder of Cableshare, and certain of his relatives, who are also stockholders of Cableshare, filed a lawsuit in Ontario, Canada in the Ontario Court (General Division) against the Company and several of its officers individually, two of whom have served on the Board of Directors of Cableshare. The plaintiffs are seeking, among other things, Cdn $8,000,000 in damages for reduced value of their holdings of Cableshare stock allegedly caused by the actions of the defendants and Cdn $6,000,000 in damages for losses of stock options allegedly caused by the actions of the defendants. No trial date has been set. In addition, in January 1994, the former officer and director of Cableshare also filed a claim of wrongful termination seeking Cdn $350,000 in damages. A seven day trial, before a judge, was completed on May 1, 1996. A decision by the judge is pending. Although the ultimate outcome of these actions cannot be determined at this time, management believes they will not have a material impact on the consolidated financial condition or results of operations of the Company. William T. Little, a stockholder and former director of the Company, has represented in letters to the Company that a potential lawsuit existed by various convertible noteholders, alleging that they converted their notes based upon misrepresentations by the Company. Mr. Little claims that the Company offered to issue to Mr. Little, during the time he was serving as a director of the Company, 171,000 shares of Common Stock in consideration of his release of any claims related to such alleged misrepresentations. In addition, Mr. Little has claimed that the Company agreed to pay him approximately $81,000 relating to the conversion of certain convertible notes held by Mr. Little. The Company disputes all such claims by Mr. Little. The Company is party to ordinary routine litigation and other claims incidental to its business, none of which is expected to have a material adverse effect on the Company's results of operations or financial position. 6. Proposed Acquisition The Company and Cableshare executed a letter of intent on August 30, 1996, which was amended on October 31, 1996, pursuant to which Cableshare stockholders would exchange the shares of Cableshare they currently hold for exchangeable shares of Cableshare 9 10 representing the right to receive common stock of the Company and entitling the holder to certain voting and dividend rights with respect to the common stock of the Company. It is currently anticipated that the acquisition would be accomplished through a Plan of Arrangement. Although the Company has reached an agreement in principle with the Special Committee of Cableshare's board of directors, the transaction is still subject to approval by applicable Canadian governmental authorities and Cableshare's stockholders other than the Company. 7. Subsequent Event In October 1996, the Company acquired certain audiotext servicing assets from The Reuben H. Donnelly Corporation ("Donnelly") for an aggregate purchase price of $750,000. In connection therewith, the Company executed a services agreement with a three year minimum term. Under the terms of the agreement, Donnelly is obligated to pay the Company a minimum of $3.2 million over the term of the agreement and the Company is assuming Donnelly's operating responsibilities for its audiotext business. 10 11 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This report on Form 10-Q contains statements that are not historical facts but are forward-looking statements involving risks and uncertainties that could significantly impact the Company. Such forward-looking statements include, but are not limited to, those statements about confidence and strategies and plans and expectations about new and existing products, services, technologies and opportunities, industry growth, demand and acceptance of new and existing products, and returns on investments in products and markets. The risks and uncertainties include, but are not limited to, the projected losses of the Company, developmental nature of its business, uncertainty of subscriber acceptance for the Interactive Channel, possible obsolescence of the Company's technology, sources and degree of competition, possible unavailability of equipment and other factors discussed from time to time in the Company's Securities and Exchange Commission filings. THE COMPANY The Company is a provider of information and services to consumers through the television and telephone. In September 1996 in Colorado Springs, Colorado, the Company commercially introduced the Interactive Channel, its on-line television programming service which provides a range of on-demand information and services to subscribers utilizing cable television and telephone lines. For the past eight years, the Company has been delivering audiotext information to consumers through the touch-tone telephone. Through its On-Line Telephone Business, the Company provides consumers with information on demand, such as news, weather and sports, together with topical information for health, legal and other matters of consumer interest. The financial results discussed below reflect the operations of the Company's On-Line Telephone Business and general, development, advertising and promotion expenses related to the Interactive Channel and the Company's recently discontinued on-line personal computer services and do not purport to give an accurate indication of the Company's future results of operations in light of the anticipated market expansion of the Interactive Channel. The Company has earned monetary revenues through advertising sponsorships in the Network Guide, a product of its On-Line Telephone Business, which are recorded as unearned income when billed and recognized on a straight-line basis as earned over the terms of the respective contracts (which are typically from 3 to 12 months). The Company also has earned monetary revenues from sales of audiotext services, principally its Consumer Tips service, to certain of the Regional Bell Operating Companies ("RBOCs") or other publishers of Yellow Pages directories. In the future, the Company believes a significant portion of its monetary revenues will be generated from Interactive Channel fees generated on a per subscriber basis. Historical revenues generated from the On-Line Telephone Business have been predominantly nonmonetary. In each of its markets, the Company has entered into nonmonetary barter agreements with local television and radio stations. These media sponsors 11 12 provide the Company with advertising time on their stations and update local news, weather and sports programming on the On-Line Telephone Business in exchange for promotional messages on the On-Line Telephone Business and print advertisements in the Company's Network Guide. Revenues and cost of sales associated with these nonmonetary barter transactions are included in the Company's consolidated statements of operations at the estimated fair value of the on-air advertisements and information content provided to the Company by media sponsors. The amount of nonmonetary revenues has declined in 1996 because of the cancellation of agreements with Southwestern Bell Yellow Pages, Inc. ("Southwestern Bell") and Ameritech Publishing, Inc. ("Ameritech") and the decision by the Company to reduce the amount of space devoted to information provided by media sponsors in the Network Guide. The Company owns a majority interest in Cableshare Inc. ("Cableshare"), an Ontario, Canada corporation which licenses to the Company patented technology utilized by the Company in connection with the Interactive Channel and provides research and development services to the Company. The Company's consolidated results of operation and financial condition include Cableshare. The Company and Cableshare executed an Arrangement Agreement on November 13, 1996 pursuant to which Cableshare stockholders would exchange the shares of Cableshare they currently hold for exchangeable shares of Cableshare representing the right to receive common stock of the Company and entitling the holder to certain voting and dividend rights with respect to the common stock of the Company. The transaction is still subject to approval by applicable Canadian governmental authorities and Cableshare's stockholders other than the Company. On June 23, 1995, IT Network, Inc. ("IT") merged with a wholly-owned subsidiary of HB Communications Acquisition Corp. ("HBAC") (the "Merger"). Pursuant to the Merger, the outstanding common stock and preferred stock of IT was converted into common stock of HBAC. The results of operations and financial position of the Company for periods and dates prior to the Merger are the historical results of operations and financial position of IT for such periods and dates. For accounting and financial reporting purposes, the Company has reflected in its consolidated financial statements the assets, liabilities and equity of IT at their historical book values. Additionally, where applicable, all historical information has been restated to reflect a 1-for-2 reverse stock split that was effected on October 10, 1995. 12 13 RESULTS OF OPERATIONS Three Months Ended September 30, 1996 and 1995 Monetary revenues declined 24 percent to $1.8 million for the quarter ended September 30, 1996 from $2.4 million for the quarter ended September 30, 1995. The net decline of $578,000 included declines of $476,000 attributable to the Network Guide product and $274,000 attributable to the Company's Consumer Tips service. These declines were partially offset by increases of $143,000 in revenues attributable to product development trials of the Interactive Channel and Cableshare technology and $29,000 related to the Company's other audiotext services and the Company's recently discontinued on-line personal computer services. The decline in Network Guide monetary revenues primarily reflects the termination of distribution of the Network Guide in 12 designated market areas ("DMAs"), eight of which are located within the Southwestern Bell region. Total Network Guide revenues within the twelve terminated DMAs were $119,000 for the quarter ended September 30, 1996 and $523,000 for the quarter ended September 30, 1995. Additionally, there was a net decline in Network Guide monetary revenues among the Company's 48 other DMAs, primarily reflecting lower sales of advertising contracts associated with distribution uncertainties in the Ameritech region. Until February 1, 1996, the Company published the Network Guide in Yellow Pages directories in certain DMAs within the Ameritech region and produced the related audiotext messages in exchange for a share of the Network Guide revenues generated in those DMAs. As described previously, the Company's agreement with Ameritech was terminated by Ameritech, and the Network Guide has not been included in any Ameritech Yellow Pages directories published after September 1996. Accordingly, the Company expects Network Guide revenues to decline in those Ameritech DMAs in 1996 and to end completely in the third quarter of 1997 due to the conclusion of revenue from Network Guide contracts in effect prior to the termination of the Ameritech agreement. Total monetary revenues for both the Network Guide and Consumer Tips products in the Ameritech region were $348,000 for the quarter ended September 30, 1996 and $754,000 for the quarter ended September 30, 1995. The Company expects to partially offset such revenue declines in future periods with revenues generated through (i) its recently-signed sales agency agreement with The Reuben H. Donnelly Corporation ("Donnelly") to sell the Network Guide in Yellow Pages published by Donnelly in four top-100 DMAs in the mid-Atlantic region and (ii) its recently-completed purchase of certain assets from Donnelly and a related audiotext service contract with Donnelly under which the Company will provide audiotext services and sell the Network Guide in Yellow Pages published by Donnelly in seven top-100 DMAs located throughout the United States. The decline in Consumer Tips revenues is the result of the termination of the Company's agreement with Ameritech by Ameritech. Consumer Tips revenues in the Ameritech region ended completely in the second quarter of 1996. 13 14 Nonmonetary revenues and nonmonetary cost of sales declined 37 percent to $2.4 million for the quarter ended September 30, 1996 from $3.8 million for the quarter ended September 30, 1995. Substantially all of this $1.4 million decline in nonmonetary revenues and nonmonetary cost of sales occurred because of the termination of distribution agreements in certain DMAs and because, in other DMAs, the Company reduced the amount of space devoted to information provided by media sponsors in its Network Guide and, accordingly, renewed its barter contracts with such media sponsors for lesser amounts of promotional advertising. In light of the cancellation by Southwestern Bell and Ameritech of their agreements with the Company, the Company expects its nonmonetary revenues and nonmonetary cost of sales to decline substantially in future periods. The Company expects to partially offset such nonmonetary revenue declines in future periods with nonmonetary revenues generated in association with a recently-signed sales agency agreement with Donnelly. Monetary cost of sales declined 30 percent to $855,000, or 47 percent of monetary revenues, for the quarter ended September 30, 1996 from $1.2 million, or 51 percent of monetary revenues, for the quarter ended September 30, 1995. In certain RBOC regions, the Company has operated under comprehensive Network Guide agreements whereby the Company has agreed to share a portion of its advertising revenues with the RBOC in return for pages in the RBOC's Yellow Pages directories and use of the RBOC's audiotext equipment and telephone lines. Consequently, as DMAs become governed by such an agreement, the Company's monetary cost of sales reflects increasing revenue sharing expense and declining Yellow Pages purchase expense and telephone line charges in such RBOC region. Monetary cost of sales for the third quarters of 1996 and 1995, respectively, was primarily comprised of (i) revenue sharing expenses associated with Network Guide agreements with Ameritech, DonTech and BellSouth of $474,000 and $515,000, respectively, an eight percent decline, reflecting lower monetary revenues in those RBOC regions, (ii) operations personnel salaries of $119,000 and $145,000, respectively, an 18 percent decline, (iii) Yellow Pages purchase expenses of $111,000 and $307,000, respectively, a 64 percent decline, reflecting the discontinuation of distribution in all eight DMAs within the Southwestern Bell region as well as lower Yellow Pages prices and the Company's decision to purchase fewer pages in the Pacific Bell region, and (iv) telephone line charges of $64,000 and $98,000, respectively, a 35 percent decline, primarily reflecting fewer DMAs in the Southwestern Bell region. Selling, general and administrative expenses, including amortization of intangible assets increased 58 percent to $3.4 million for the quarter ended September 30, 1996 from $2.1 million for the quarter ended September 30, 1995. This increase resulted primarily from increased subscriber acquisition costs associated with the commercial introduction of the Company's Interactive Channel. These costs included items such as advertising agency creative fees, television production costs of commercials and an infomercial, and direct mail and newspaper advertising expenses. 14 15 Research and development expenses increased 65 percent to $1.8 million for the quarter ended September 30, 1996 from $1.1 million for the quarter ended September 30, 1995. This increase occurred due to (i) the addition of personnel by the Company and by Cableshare to support business development activities as well as to continue the development of cable converter boxes which will be deployed in Interactive Channel subscriber households, (ii) the continued modification of the Cableshare on-line television technology to operate on a UNIX-based platform which increases the speed and capacity of the Interactive Channel headend equipment, (iii) the continued development of a Windows-based media presentation workstation that could be used by the Company and others to create and edit programming for the Interactive Channel, and (iv) other related development activities associated with the commercial introduction of the Interactive Channel. Other. Net interest income was $55,000 for the quarter ended September 30, 1996 compared with $93,000 for the quarter ended September 30, 1995, reflecting higher interest expense incurred as a result of the Company's issuance of senior secured notes in April 1996. NINE MONTHS ENDED SEPTEMBER 30, 1996 AND 1995 Monetary revenues declined 10 percent to $6.4 million for the nine months ended September 30, 1996 from $7.1 million for the nine months ended September 30, 1995. The net decline of $697,000 included declines of $1.1 million attributable to the Network Guide product and $676,000 attributable to the Company's Consumer Tips service. These declines were partially offset by increases of $794,000 in interactive television revenues related to product development trials of the Interactive Channel and license fees, and $250,000 in revenues related to Source's other audiotext services and recently discontinued on-line personal computer services. The decline in Network Guide monetary revenues primarily reflects the termination of distribution in twelve DMAs, eight of which are located within the Southwestern Bell region. Total Network Guide revenues within the twelve terminated DMAs were $601,000 for the nine months ended September 30, 1996 and $1.5 million for the nine months ended September 30, 1995. Additionally, there was a net decline in Network Guide monetary revenues among the Company's 48 other DMAs, primarily reflecting lower sales of advertising contracts associated with distribution uncertainties relating to the termination of the Ameritech agreement. As previously discussed, because of the termination of the Company's agreement with Ameritech, the Company expects revenues to decline in those Ameritech DMAs in 1996 and to end completely in the third quarter of 1997 due to the conclusion of revenue from Network Guide contracts in effect prior to the termination of the Ameritech agreement. The decline in Consumer Tips revenues is also the result of the termination of the Company's agreement with Ameritech by Ameritech, and Consumer Tips revenues in the Ameritech region ended completely in the second quarter of 1996. Total monetary revenues for both the Network Guide and Consumer Tips products in the Ameritech region were $1.4 million for the nine months ended September 30, 1996 and $2.3 million for the nine months ended September 30, 1995. The Company expects to partially offset such revenue declines in future periods with revenues generated through (i) its recently-signed sales agency agreement with Donnelly to sell the Network Guide in Yellow Pages published by Donnelly in four top-100 DMAs in the mid-Atlantic region and (ii) its recently-completed purchase of certain assets from Donnelly and a related audiotext service contract with Donnelly under which the Company will provide audiotext services and sell the Network Guide in Yellow Pages published by Donnelly in seven top-100 DMAs located throughout the United States. The increase in interactive television revenues in the first nine months of 1996 compared with the same period in 1995 reflects a portion of the license paid to Cableshare by GTE for the use of Cableshare's United States patents as part of an agreement entered into in early 1996 to end litigation between Cableshare and GTE as well as certain hardware and software sales to a third party related to a trial of Interactive Channel technology. Nonmonetary revenues and nonmonetary cost of sales declined 37 percent to $8.0 million for the nine months ended September 30, 1996 from $12.7 million for the nine months ended September 30, 1995. Substantially all of this $4.7 million decline in nonmonetary revenues and nonmonetary cost of sales occurred because of the termination of distribution agreements in the seven DMAs previously discussed and because, in other DMAs, the Company reduced the amount of space devoted to information provided by media sponsors in its Network Guide and, accordingly, renewed its barter contracts with such media sponsors for lesser amounts of promotional advertising. In light of the cancellation by Southwestern Bell and Ameritech of their agreements with the Company, the Company expects its nonmonetary revenues and nonmonetary cost of sales to decline substantially in future periods. The Company expects to partially offset such nonmonetary revenue declines in future periods with nonmonetary revenues generated in association with its recently-signed sales agency agreement with Donnelly. Monetary cost of sales declined 30 percent to $2.7 million, or 42 percent of monetary revenues, for the nine months ended September 30, 1996 from $3.8 million, or 54 percent of monetary revenues, for the nine months ended September 30, 1995. In certain RBOC regions, the Company has operated under comprehensive Network Guide agreements whereby the Company has agreed to share a portion of its advertising revenues with the RBOC in return for pages in the RBOC's Yellow Pages directories and use of the RBOC's audiotext equipment and telephone lines. As DMAs become governed by such an agreement, the Company's monetary cost of sales reflects increasing revenue sharing expense and declining Yellow Pages purchase expense and telephone line charges in such RBOC regions. Monetary costs of sales for the first nine months of 1996 and 1995, 15 16 respectively, was primarily comprised of (i) revenue sharing expenses associated with Network Guide agreements with Ameritech, DonTech (a joint venture of Donnelly and Ameritech) and BellSouth of $1.4 million and $1.6 million, respectively, a nine percent decline, reflecting lower monetary revenues in those RBOC regions, (ii) Yellow Pages purchase expenses of $394,000 and $1,005,000, respectively, a 61 percent decline, reflecting the discontinuation of distribution in all eight DMAs within the Southwestern Bell region as well as lower Yellow Pages prices and Source's decision to purchase fewer pages in the Pacific Bell region, (iii) operations personnel salaries of $374,000 and $446,000, respectively, a 16 percent decline, (iv) telephone line charges of $195,000 and $286,000, respectively, a 32 percent decline, primarily reflecting fewer DMAs in the Southwestern Bell region, and (v) satellite transmission charges of $122,000 and $271,000, respectively, a 55 percent decline. As a result of the cancellation of its agreement with Southwestern Bell, monetary revenues attributable to DMAs within the Southwestern Bell region ended completely in September 1996. Selling, general and administrative expenses, including amortization of intangible assets increased 33 percent to $8.9 million for the nine months ended September 30, 1996 from $6.6 million for the nine months ended September 30, 1995. This increase resulted primarily from increased subscriber acquisition costs such as advertising agency creative fees, television production costs of commercials and an infomercial, and direct mail and newspaper advertising expenses associated with the commercial introduction of the Interactive Channel as well as $655,000 of increased expenses associated with the Company's recently discontinued on-line personal computer services. Research and development expenses increased 69 percent to $4.4 million for the nine months ended September 30, 1996 from $2.6 million for the nine months ended September 30, 1995. This increase occurred due to (i) the addition of personnel by the Company and by Cableshare to support development activities as well as to continue the development of cable converter boxes which will be deployed in Interactive Channel subscriber households, (ii) the continued modification of the Cableshare on-line television technology to operate on a UNIX-based platform which increases the speed and capacity of the Interactive Channel headend equipment, (iii) the continued development of a Windows-based media presentation workstation that could be used by the Company and others to create and edit programming for the Interactive Channel, and (iv) other related development activities associated with the commercial introduction of the Interactive Channel. Other. Net interest income was $301,000 for the nine months ended September 30, 1996 compared with net interest expense of $190,000 for the nine months ended September 30, 1995, reflecting interest earned on the proceeds from a public offering of the Company's common stock in December 1995. Charges related to financing incentives for the nine months ended September 30, 1995 included $1.6 million related to the issuance of warrants in January and May 1995 in connection with a bridge financing which provided the Company with operating funds to the point of the Merger. 16 17 LIQUIDITY AND CAPITAL RESOURCES Since its inception, the Company has experienced substantial operating losses and net losses as a result of its efforts to develop, deploy and support its On-Line Telephone Business and to develop and conduct trials of the Interactive Channel. As of September 30, 1996, the Company had an accumulated deficit of approximately $52.2 million and had used cumulative net cash in operations of $33.1 million. The difference at September 30, 1996 between the accumulated deficit since inception and cumulative net cash used in operations since inception was attributable to (i) $15.5 million associated with nonmonetary charges related to financing incentives, write-down of intangible assets, depreciation and amortization and other non-cash expenses and (ii) $3.6 million reflecting unearned income, accounts payable and accrued liabilities in excess of accounts receivable, prepaid expenses and inventory. the Company expects to continue to incur negative cash flow from operating activities at least through 1997. The Company's primary source of liquidity is its cash and cash equivalents, which totaled $12.2 million at September 30, 1996. Since its inception, the Company has financed its operations primarily through an aggregate $50.4 million from various financing activities, including the incurrence of debt and issuance of common and preferred stock. In June 1995, the Company consummated the Merger whereby $7.2 million of cash, net of redemptions and expenses, became available to the Company. In connection with the Merger, $4.1 million of debt, and accrued interest thereon, was retired and all of the Company's preferred stock was converted into common stock. In December 1995, the Company completed a public offering of 2,350,000 shares of Common Stock for net proceeds of $21,850,000, of which the Company used approximately $3.0 million to repurchase shares of Common Stock from a stockholder. On April 3, 1996, the Company issued a senior note (the "First Tranche Note") in the principal amount of $5.0 million and a warrant pursuant to the Senior Note Agreement entitling the holder thereof to purchase 500,000 shares of common stock at a purchase price of $10.21 per share. Additional notes (the "Second Tranche Note") in the aggregate principal amount of up to $5.0 million may be issued on or before April 3, 1997 provided certain conditions are met. On September 30, 1996, the Company issued an additional senior note in the amount of $326,806 for the payment of interest on the First Tranche Note. This note has terms identical to the First Tranche Note. In connection with this transaction, if certain conditions are met and the Company elects to issue the Second Tranche Note, the Company will be obligated to issue a second warrant entitling the holder to purchase up to an additional 500,000 shares of common stock at a purchase price of $10.21 per share. All notes issued in connection with this transaction are due on March 31, 2001 and bear interest at the rate of 13% per annum through March 31, 1998 and 12% thereafter. On March 31, 2000, the Company must make a prepayment of the notes equal to 33.33% of the then outstanding principal (together with interest accrued to date on such principal amount). Through March 31, 1998, at the option of the Company, interest payments may be made through the issuance of additional notes. The notes are secured by a lien on all of the Company's assets, including its shares of 17 18 Cableshare, and a licensing agreement with Cableshare. Except for the required prepayment described above, the note agreement provides for a prepayment penalty and customary covenants and events of default. The warrant contains standard anti-dilution provisions. The Company also granted the holder of the warrant demand and "piggyback" registration rights covering the shares of the Company's common stock issuable upon exercise of the warrant. During the remaining three months of 1996, the Company intends to invest at least $600,000 in additional property and equipment, primarily related to the introduction of the Interactive Channel. Additionally, in connection with the Arrangement, the Company anticipates paying approximately $500,000 in legal, printing and other transaction costs. In February 1996, the Company entered into an agreement with Cableshare which grants to the Company the exclusive right to market Cableshare's patents and software in the development and operation of the Interactive Channel for a one-year period, renewable annually upon mutual agreement of the parties. The license also commits Cableshare to develop a new set-top box, a UNIX-based platform and user-friendly applications and production system. The Company is obligated to pay $4.75 million for the development projects, all of which has been paid as of October 15, 1996. Cableshare will also receive a payment for the equipment sold as a result of the Company's marketing of the Interactive Channel. The new license replaces the Company's obligations under the previous license to make payments and achieve certain subscriber levels. On October 31, 1996, the Company and Cableshare extended the agreement through March 1997, and the Company agreed to purchase a minimum of $300,000 of development services per month from Cableshare commencing November 1, 1996. In October 1996, the Company acquired certain audiotext servicing assets from Donnelley for an aggregate purchase price of $750,000, of which $600,000 was paid in October 1996 and $150,000 is payable in June 1997. the Company may consider additional strategic acquisitions in either of its lines of business from time to time. Although there can be no assurance that the Company will consummate any such acquisitions, to the extent that it does so, such acquisitions would require the Company to expend funds, issue additional equity securities or incur additional debt. The incurrence of additional indebtedness by the Company could result in a substantial portion of the Company's operating cash flow being dedicated to the payment of principal and interest on such indebtedness, could render the Company more vulnerable to competitive pressures and economic downturns and could impose restrictions on the Company's operations. The Company's future capital requirements will depend on many factors, including, but not limited to, (i) the success and timing of the development, introduction and deployment of the Interactive Channel, (ii) the operating results of its On-Line Telephone Business, (iii) the levels of advertising required to attain a competitive position in the marketplace for its products, (iv) the extent of market acceptance of such products, (v) the funds required by Cableshare and the Company to fund their costs of litigation, and (vi) competitive factors. the Company believes its current resources, together with the additional funds that may be available under the Senior Note Agreement, would be sufficient to finance the commercial introduction of the Interactive Channel on several United States cable systems, including the Colorado Springs system which was launched in September 1996, and to meet the Company's anticipated cash needs for working capital through the end of 1997. However, the Company does not believe that these sources of funds will be sufficient to allow the Company to further expand the Interactive Channel beyond those several United States cable systems nor pursue other strategic and programming initiatives which constitute part of its business strategy, nor satisfy its other capital expenditure needs through the end of 1997. Furthermore, there can be no assurances that additional funds will be available under the Senior Note Agreement. Accordingly, the Company anticipates that it may attempt to sell additional equity securities or incur additional debt in the first half of 1997. 18 19 NET OPERATING LOSS CARRYFORWARDS At December 31, 1995, IT had net operating loss carryforwards of approximately $28.8 million for United States income tax purposes, which begin to expire in 2003. The Internal Revenue Code of 1986 imposes limitations on the use of net operating loss carryforwards if certain stock ownership changes occur. As a result of the Merger, an ownership change occurred that will cause the Company's utilization of net operating losses to be limited to approximately $3.5 million in a given year. 19 20 PART II - OTHER INFORMATION Item 1 - Legal Proceedings Lerch. On December 15, 1993, Marvin Lerch, the former Chief Executive Officer and a shareholder of Cableshare, and certain of his relatives who are also shareholders of Cableshare, commenced a legal proceeding in Ontario, Canada in the Ontario Court (General Division) against the Company and certain executive officers of the Company and a director of Cableshare on the grounds that the defendants took actions intended to depress the value of Cableshare to allow the Company to acquire the remainder of Cableshare at a favorable price. The plaintiffs seek, among other things, orders that certain actions by Cableshare's board are invalid; a declaration that Cableshare's board is incapable of managing its affairs due to conflicts of interest; an injunction against the Company from voting its Cableshare shares for three years; purchase by the defendants of the plaintiffs' Cableshare shares for Cdn $20 per share or exchange of the plaintiffs' Cableshare shares for shares of Common Stock of equal value; and damages in the amount of Cdn $8 million to compensate the plaintiffs for the reduced value of their Cableshare shares and damages in the amount of Cdn $6 million to compensate Mr. Lerch for the loss of certain Cableshare stock options. Cableshare disputes all of the claims, and no trial date has been set. On January 24, 1994, Mr. Lerch commenced a proceeding against Cableshare claiming a wrongful termination of Mr. Lerch's employment with Cableshare and seeking damages in the amount of Cdn $350,000. Cableshare has denied the claim. A seven day trial, before a judge, was completed on May 1, 1996. A decision by the judge is pending. Little. William T. Little, a stockholder and former director of the Company, has represented in letters to the Company that a potential lawsuit existed by various convertible noteholders, alleging that they converted their notes based upon misrepresentations by the Company. Mr. Little claims that the Company offered to issue to Mr. Little, during the time he was serving as a director of the Company, 171,000 shares of Common Stock in consideration of his release of any claims related to such alleged misrepresentations. In addition, Mr. Little has claimed that the Company agreed to pay him approximately $81,000 relating to the conversion of certain convertible notes held by Mr. Little. The Company disputes all such claims by Mr. Little. Revenue Canada. Revenue Canada, the Canadian taxing authority, sent a notice of reassessment to Cableshare on June 10, 1993 which, if valid, could reduce Cableshare's investment tax credits by Cdn $1.9 million. Cableshare disputes such reassessment. In addition, Revenue Canada had demanded repayment from Cableshare of refundable tax credits paid for the 1988 fiscal year totaling Cdn $315,000, plus interest of Cdn $441,000 (totaling approximately $555,000 U.S.). Cableshare has provided for the demanded repayment, including interest, in its 1995 financial statements. 20 21 Others. The Company has instituted litigation against Ameritech in the district court for Dallas County, Texas, alleging, among other claims, that Ameritech breached its agreement with the Company, that Ameritech converted property and business owned by the Company and that Ameritech breached its fiduciary responsibility to the Company. The case is presently involved with preliminary proceedings. The Company is aware of certain claims against the Company and Cableshare that have not developed into litigation, or if they have, are dormant. Unnamed shareholders of Cableshare advised the Cableshare directors in June 1995 that they questioned certain of the directors' actions under Ontario law. Cableshare's attorney responded to the shareholders' substantive points and the shareholders have not taken further action. In June 1989, Barry Walker commenced a proceeding in Ontario, Canada against Cableshare claiming wrongful termination of Mr. Walker's employment with Cableshare and seeking damages in the amount of Cdn $560,000 plus interest and costs. Cableshare denied the claims and this matter has been inactive since at least June 1992. Further, the Company and Cableshare are parties to ordinary routine litigation incidental to their business, none of which is expected to have a material adverse effect on the Company's results of operations or financial condition. Item 2 - Changes in Securities - not applicable Item 3 - Defaults Upon Senior Securities - not applicable Item 4 - Submission of Matters to a Vote of Security Holders - not applicable Item 5 - Other Information - not applicable Item 6 - Exhibits and Reports on Form 8-K (a) Exhibits: *10.1 Services Agreement dated October 21, 1996 by and between The Reuben H. Donnelly Corporation and IT Network, Inc. 11.1 Computation of Supplemental Loss Per Common Share 27 Financial Data Schedule (b) Reports on Form 8-K during the three months ended September 30, 1996 - not applicable - -------------- * Confidential treatment has been requested for certain portions of this Exhibit. Accordingly, those portions have been omitted from the filed copy and filed separately with the Securities and Exchange Commission. 21 22 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. SOURCE MEDIA, INC. (Registrant) Date: December 5, 1996 By: /s/ Michael G. Pate ---------------------------- Michael G. Pate Chief Financial Officer and Treasurer (Principal Financial Officer and Duly Authorized Officer) 22 23 EXHIBIT NUMBER INDEX TO EXHIBITS - ------- ----------------- *10.1 Services Agreement dated October 21, 1996 by and between The Reuben H. Donnelley Corporation and IT Network, Inc. 11.1 Computation of Supplemental Loss Per Common Share 27 Financial Data Schedule - --------- * Confidential treatment has been requested for certain portions of this Exhibit. Accordingly, those portions have been omitted from the filed copy and filed separately with the Securities and Exchange Commission. EX-10.1 2 SERVICES AGREEMENT 1 Confidential treatment has been requested for certain portions of this Exhibit. Accordingly, those portions have been omitted from the filed copy and filed separately with the Securities and Exchange Commission. The following symbol indicates where such confidential information has been omitted: "***". 2 EXHIBIT 10.1 SERVICES AGREEMENT THIS SERVICES AGREEMENT (the "Agreement"), entered into this 21st day of October, 1996, by and between The Reuben H. Donnelley Corporation, ("Donnelley"), a Delaware corporation, located at 287 Bowman Avenue, Purchase, NY, 10577, and IT Network, Inc., ("ITN") a wholly-owned subsidiary of Source Media, Inc., and a Texas corporation located at 8140 Walnut Hill, Dallas, TX, 75231. (Collectively, the "Parties" or individually a "Party".) WHEREAS, Donnelley publishes yellow page directories and sells yellow pages advertising in directories published by certain telephone companies and Donnelley desires to assure the provision of audiotext services in the directories identified on Appendix A ("Directories"); and WHEREAS, ITN has the expertise and experience to provide a full-range of audiotext services, including network content development and broadcasting, advertising production, customer service, network operations and system service and maintenance ("Services"); and WHEREAS, Donnelley wishes to acquire Services from ITN for the Directories and ITN wishes to provide Services for Donnelley ; NOW, THEREFORE, in consideration of the mutual promises and covenants contained in this agreement, Donnelley and ITN agree as follows: 1. DEFINITIONS. The following definitions shall be applicable in connection with this Agreement: a) "AMOUNT FOR SERVICES" shall mean the total due for Services in any month. CONFIDENTIAL 3 SERVICE AGREEMENT 10/17/96 PAGE 2 b) "AUDIOTEXT" shall mean recorded information prepared and transmitted via the System and/or the Network and any reference to the System and/or the Network shall mean the Audiotext System and/or Audiotext Network. c) "AUDIOTEXT INFORMATION" shall mean all common interest static or broadcast audio information prepared by ITN or obtained by ITN under license with third parties, including all advertising messages produced by ITN under this Agreement, which information is entered, stored and retrieved for transmission over the System to telephone callers using a touch-tone telephone who call the telephone numbers and codes listed in the Directories and retrieve desired information by dialing an access code. d) "CUSTOMER SERVICE" refers to preparing copy, scripting, producing and loading advertising slots on the system. It does not include handling claims relating to errors or omissions from advertisers. e) "DIRECTORIES" shall mean the telephone directories set forth on Appendix A, attached to this Agreement and incorporated in it by this reference. Appendix A may be amended by Donnelley to either add or delete the Directories covered by this Agreement. f) A "FIELD SITE" is a physical location where one or more servers physically reside. g) "NETWORK" shall mean the central computer operated by ITN and all Field Site locations, as defined below, used to create and transmit Audiotext Information. h) "SERVICES" shall mean the full range of audiotext services including, but not limited to, network content development, broadcasting, advertising production, customer service, network operations and System service and maintenance. CONFIDENTIAL 4 SERVICE AGREEMENT 10/17/96 PAGE 3 i) The "SYSTEM" shall mean all of the assets used to prepare and transmit Audiotext Information. 2. EFFECTIVE DATE, TERM. The initial term of this Agreement becomes effective on November 1, 1996, and remains in effect for the issue life of all Directories published prior to October 31, 1999, however, if ITN meets all of the Key Performance Indicators (identified and defined in Section 4) for each year of the initial term, the Agreement will be automatically extended for two more years, to include the issue life of all Directories published prior to October 31, 2001. In the event that ITN fails to meet the Key Performance Indicators during the two years after the initial term of the Agreement (if there has been an extension of the initial term), then such failure shall constitute a material breach of this Agreement. 3. ITN RESPONSIBILITIES. During the Term of this Agreement, ITN shall be responsible for providing to Donnelley all Audiotext Services requested by Donnelley in the following areas: network content development and broadcasting, advertising production, customer service, network operations and System service and maintenance, as set forth specifically below: a) Network Content Development and Broadcasting i) ITN shall be responsible for creating and producing the content messages made available at any time on the System by: (A) preparing and scripting the content for each message; (B) selecting and hiring the talent to record the messages; (C) producing and recording the messages for distribution on the System. ii) ITN responsibilities in this area shall also include distributing the content, in the form of specific messages, in broadcast format by: CONFIDENTIAL 5 SERVICE AGREEMENT 10/17/96 PAGE 4 (A) until the System is fully functional, handling the content through a main distribution point in Pennsylvania provided by Donnelley; (B) digitizing and electronically distributing the messages through the System; (C) completely and accurately updating and/or revising the message control files and individual messages as required; (D) obtaining and maintaining all consents and/or licenses necessary to utilize and broadcast the content through the System; and (E) checking and maintaining the quality control of the production and distribution of messages through the System. (F) ensuring that advertising and information messages are complete and submitted to Donnelley at the book publishing dates provided by Donnelley. b) Advertising Production and Customer Service i) Advertising Production - An "advertising message" created pursuant to an audiotext advertising contract sold by either ITN or Donnelley shall be considered an "advertising slot". Each advertising message is a single advertising slot and one contract with a customer may provide for several advertising slots in connection with the Directories. During the Term of this Agreement, ITN is responsible for preparing the copy, scripting, producing and loading on the System all advertising slots associated with the Directories that are provided to ITN. ii) Customer Service - As requested, ITN shall assist audiotext advertising customers in determining effective means of utilizing audiotext advertising in the Donnelley Directories and in developing acceptable advertising slots. At least once each calendar month, ITN shall contact not CONFIDENTIAL 6 SERVICE AGREEMENT 10/17/96 PAGE 5 less than 95% of the audiotext advertising customers by telephone or in writing regarding revisions to any of its advertising slots and their respective usage and direct connect summaries. On a monthly basis, ITN shall provide to each audiotext advertising customer a usage summary including the number of times each advertising slot and content were accessed and, if applicable, the number of direct-connects to the audiotext advertiser customer's place of business. c) Network Operations - ITN shall operate and manage the Network to provide consistent and high quality Audiotext Services. This shall include: i) programming and managing each Field Site of the Network to provide content requested by callers and advertising slots for which audiotext advertising customers contracted; ii) programming and managing each Field Site to collect access and direct connect information subsequently provided to audiotext advertising customers in accordance with paragraph 3(b)(ii); iii) programming and managing a central computer system to collect and maintain network-wide administrative information, System-wide usage information and Field Site specific usage information; and iv) formulating and disseminating to Donnelley general System and Services information and monthly call reports for all audiotext codes in a digital ASCII spreadsheet, database file or such format as may be agreed upon by the Parties, to include the following fields: Book, Category, Sub-Category, Title, Code and Count and, in a separate file, advertiser information, including direct connect reports, on a monthly basis, timely 7 SERVICE AGREEMENT 10/17/96 PAGE 6 turnaround on new advertiser or custom content service orders and custom content service repair order. ITN will forward to Donnelley general System and Services information and monthly call reports not later than the 15th of the month following the month being reported d) System Service - Operation of the System and the Field Sites will be consistent with industry standards including the use of remote reset devices and uninterruptable power supplies. ITN shall perform routine maintenance on the central computer System and Field Sites on a regularly scheduled basis and for emergency service as required. ITN shall assure that maintenance or other support activities do not remove the System from full operation greater than four (4) hours per month on average across all Field Sites. For situations other than Force Majeure events, emergency repairs will be performed within 48 hours of ITN being advised that the central computer System or a Field Site is not properly operational. e) Content Assignment - Within ten (10) working days of the execution of this Agreement, ITN will notify Donnelley as to which (if any) of the Content Agreements set forth in Appendix B it wants assigned to it. Upon assignment by Donnelley of the agreements, ITN will accept such assignment and assume all responsibility for such Agreements thereafter. f) Transition Period - In order to facilitate the transition of the audiotext services covered by this Agreement, Donnelley will make available to ITN, space within its Chesterbrook office facility and certain employees for a period commencing with the effective date of this Agreement and terminating January 31, 1997 (unless sooner terminated by the parties). During this transition period (till January 31, 1997) the activities performed by Donnelley and which are to be undertaken by ITN will be transferred to ITN. Thereafter, ITN will be expected to CONFIDENTIAL 8 SERVICE AGREEMENT 10/17/96 PAGE 7 provide the audiotext services without support from Donnelley audiotext personnel. 4. KEY PERFORMANCE INDICATORS. There are four (4) Key Performance Indicators ("KPIs") upon which the automatic extension of this Agreement for an additional two years are contingent and thereafter will constitute a material breach of this Agreement if they each are not met. However, ITN is granted thirty (30) days to cure a material failure to meet any of the following KPIs: a) Para 3. a) ii)F) Ensure that advertising and information messages are complete and accurate at the book publishing dates provided by Donnelley. b) Para 3. b) ii) At least once each calendar month, ITN shall contact not less than *** of the Customers by telephone or in writing regarding revisions to any of its advertising slots and their respective usage and direct connect summaries. c) Para 3. c) iv) ITN will forward to Donnelley general System and Services information and monthly call reports not later than the 15th of the month following the month being reported. d) Para 3. d) ITN shall assure that maintenance or other support activities do not remove the System from full operation for greater than **** per month on average across all Field Sites. 5. DONNELLEY'S RESPONSIBILITIES. a) Donnelley shall provide all phone lines required for local consumer access. CONFIDENTIAL 9 SERVICE AGREEMENT 10/17/96 PAGE 8 b) Donnelley shall rent, lease, buy, or otherwise acquire all locations necessary to physically house the Network and each Field Site, shall maintain the location and shall pay all costs and expenses associated with acquiring and maintaining each Field Site location. Donnelley may relocate the Network and any or all Field Sites with notice sufficient to ensure uninterrupted service. c) During each month of the Initial Term and any extension thereof, Donnelley shall pay ITN the Compensation, as provided in this Agreement. During each month of any extension of the Initial Term, Donnelley shall pay ITN the Amount for Services, as provided in this Agreement. d) Donnelley shall offer to assign the agreements with its content providers identified in Appendix B. Upon notification from ITN, Donnelley will assign the agreements selected by ITN to ITN and shall no longer be responsible or liable for such agreements. e) Transition Period. Commencing with the effective date of this Agreement and continuing until January 31, 1997, unless sooner terminated by the Parties, Donnelley will facilitate the transition of audiotext services covered by this Agreement, by making available the space and facilities located in Chesterbrook where Donnelley presently performs its audiotext production services. Donnelley will also continue to offer employment to employees needed to facilitate the transition, provided that those employees remain in good standing or are not otherwise terminated by Donnelley, until January 31, 1997 (unless sooner terminated by mutual agreement of the Parties). The Retained Employees will assist in ITN facilitating the transition of audiotext services form Donnelley to ITN. CONFIDENTIAL 10 SERVICE AGREEMENT 10/17/96 PAGE 9 f) Leased Equipment. The equipment shown on Appendix C is used to support audiotext services to the publishers also shown on Appendix C. This equipment is leased by Donnelley pursuant to leases that expire on the dates shown in Appendix C. Until the date on which the leases expire, Donnelley shall make the lease payments for this equipment and ITN may make use of the equipment in servicing the publishers. ITN will be responsible for the care of the equipment and for any damage to the equipment arising from negligent acts or omissions of ITN but shall not be responsible for normal wear and tear. At the end of the equipment lease term, Donnelley's obligation with respect to the equipment is ended and if there is an ongoing need to provide audiotext services to any or all of the publishers serviced by the leased equipment, it shall be ITN's obligation to provide the equipment to meet this need. 6. CONTROL OF AUDIOTEXT SLOTS/PROGRAMMING. At Donnelley's direction, ITN shall formulate policies relating to the wording, production, distribution and sponsorship of the Audiotext Information. Such policies shall be in effect for all contracts executed between ITN and audiotext advertising customers. All policies formulated by ITN shall be consistent with the standards of the publisher of the Directories and subject to approval by Donnelley. ITN will modify these policies as requested in writing by Donnelley. 7. OWNERSHIP. Donnelley asserts no claim of ownership to the System, the Network, all Audiotext Information and the Customer contracts and advertising slots, and ITN, except with respect to certain Audiotext Information, which ITN procures from others pursuant to license agreements, ITN asserts ownership of such property. ITN represents to Donnelley that it has the right to use the copyrighted work which comprises a part of the Audiotext Information. 8. COST OF SERVICES. Unless otherwise provided under this Agreement, each party shall independently bear the cost and expense complying with its obligations under the terms of this Agreement. CONFIDENTIAL 11 SERVICE AGREEMENT 10/17/96 PAGE 10 9. COMPENSATION. The compensation due ITN each month during the Term of this Agreement, shall be determined as set forth below: a) Fixed Monthly Amount - Each month during the initial Term of this Agreement, the amount for that month is indicated on Appendix D, attached to this Agreement and by this reference incorporated in it (the "Fixed Monthly Amount" for the specific month). b) Amounts for Services - The charge for Services requested by Donnelley and performed by ITN shall be: i) The charge for all Network Content Development and Broadcasting provided by ITN in accordance with this Agreement is *** per each Field Site per year. ii) The charge for all Advertising Production and Customer Service provided by ITN in accordance with this Agreement is *** per Customer advertising slot, per Directory, per year, without regard to the term of the Customer contract or whether the Customer contract is a new contract or a renewal. iii) The charge for all Network Operations provided by ITN in accordance with this Agreement is *** per line, per year. For the purpose of determining the amount due, "per line" shall mean a consumer access telephone line required by ITN to provide all Services under this Agreement. CONFIDENTIAL 12 SERVICE AGREEMENT 10/17/96 PAGE 11 iv) The charge for all System Service provided by ITN in accordance with this Agreement is *** per each system per year. For the purpose of determining the amount due, a "system" shall mean a Field Site location, the central computer system or the main distribution point in Pennsylvania. c) For each month while this Agreement is in effect, Donnelley shall pay ITN the greater of the fixed monthly amount for that month set forth on Appendix D or the total Amount for Services as determined under Article 9(b). Provided, however, that once the Total Compensation paid by Donnelley reaches $3.24 million ("Initial Term Amount"), Donnelley shall pay only the billed Amount for Services. Donnelley shall pay the Compensation due in accordance with Article 9. At any time during the initial Term, the total Compensation Paid shall be the total of the Compensation paid each month to that date. If the Parties extend the Agreement after the initial Term, the Compensation due each month shall be the total Amount for Services provided during that month. Provided that in the event that ITN is determined to have breached this Agreement and the Agreement is terminated because of such breach or if ITN otherwise causes this Agreement to terminate, other than as a result of a breach by Donnelley, then all payments from Donnelley to ITN shall also terminate effective with the date of termination. d) *** CONFIDENTIAL 13 SERVICE AGREEMENT 10/17/96 PAGE 12 10. INVOICING AND PAYMENT. a) By the 15th day of each calendar month (or the next following business day if the 15th of the month is a Saturday, Sunday or legal holiday), ITN shall invoice Donnelley for the Compensation due for the previous month. Each invoice shall itemize separately the Fixed Amount and the Amount for Services. The invoice shall include instructions to transmit the amount to be paid to ITN. b) Donnelley shall pay ITN the amount invoiced within forty-five (45) days after receipt of the invoice. Any amounts not paid by Donnelley to ITN by the due date shall accrue interest at the rate of one and one-half percent (1-1/2%) per month, compounded monthly from the date the amount were due until paid. Acceptance by ITN of any payment after the due date shall not constitute a waiver of any rights under this Agreement and the payment of an invoice by Donnelley shall not constitute acceptance or waiver of any rights or claim that Donnelley may have with respect to this Agreement or ITN's performance of its obligations. 11. DONNELLEY RIGHT TO REJECT. In the event Donnelley determines that any Audiotext Information on the System is objectionable for any reasonable reason as set forth below and notifies ITN, ITN shall have the obligation to cure the objected to matter by electing to, remove or revise such Audiotext Information within two (2) business days of notice of Donnelley's objections. Programming may be considered objectionable if it is; (i) of inadequate transmission quality as determined by Donnelley or (ii) containing objectionable program material. Objectionable program material shall include (i) material prohibited by applicable federal, state, or local law, (ii) material which contains obscene, indecent, lewd, lascivious, or sexually explicit content, as determined by Donnelley (iii) material containing profanity, (iv) any material which, in the reasonable opinion of Donnelley, is likely to damage the reputation of Donnelley, or (v) is objectionable to the publishers of the Directories that are Donnelley's clients or partners. ITN's CONFIDENTIAL 14 SERVICE AGREEMENT 10/17/96 PAGE 13 refusal to cure, remove or revise such information within five business days of notice of Donnelley's objection will be considered a material breach of this Agreement 12. INDEMNIFICATION AND THIRD-PARTY CLAIMS. While neither Donnelley nor ITN insures or guarantees that there will be no errors, failures or omissions in the production or transmission of Audiotext Information of the System, the Parties acknowledge that suits may be instituted or claims filed against either of the Parties with respect to the production or transmission of the Audiotext Information or operation of the System and/or Network. In such event, ITN and Donnelley agree that the Party primarily responsible, as mutually agreed upon by the Parties, for the error will indemnify, defend and hold harmless the other Party from any liability to any third Party resulting to such Party. ITN and Donnelley shall fully cooperate in the defense of third-party claims and lawsuits. In the event that responsibility for the third-party claims and lawsuits cannot be allocated primarily to one Party, ITN and Donnelley each shall bear their own costs, including attorney's fees, of defending such claims or lawsuits and shall negotiate in good faith a reasonable allocation of said responsibility for third-party liability. Nothing in the foregoing shall be deemed or interpreted as limiting the rights of either Party to seek such legal or equitable relief as it determines to be appropriate from the other Party. 13. TERMINATION. This Agreement may terminate (although certain obligations shall continue as provided) prior to the end of its term if either Party materially breaches this Agreement and such material breach has not been cured (where feasible) within thirty (30) days of the breaching Party's receipt of written notice of the material breach from the other Party. If the breach has not been cured, the non-breaching Party has the right to (1) terminate this Agreement upon notice to the other Party effective with the publication of the successor Directory to any Directories in canvass or such earlier date as the non-breaking party may select, provided that adequate arrangements have been made to assure that audiotext advertiser obligations have been and will met, (2) attempt to have this Agreement specifically performed, or (3) to pursue other equitable or legal remedies with respect to such material breach instead of terminating this Agreement. Termination of this Agreement pursuant to this provision shall not CONFIDENTIAL 15 SERVICE AGREEMENT 10/17/96 PAGE 14 preclude any legal or equitable remedies otherwise available for any material breach of this Agreement. a) In the event that this Agreement is terminated as the result of breach by ITN, ITN on termination, will supply Donnelley with such customer records, advertising and any other material that is needed to continue providing audiotext services in support of Directories then in publication or in canvass. 14. AUDIT. a) Upon reasonable notice and during reasonable business hours, Donnelley may audit ITN's records to the extent the records pertain to sales, customer service, billing and collections of accounts pursuant to this Agreement. b) Upon reasonable notice and during reasonable business hours, ITN may audit Donnelley's records which pertain to phone line operation for audiotext services offered pursuant to this Agreement. c) If a dispute arises as a result of an audit, and the dispute cannot be resolved, the Party having requested an audit shall engage, at its expense, a mutually acceptable independent nationally recognized accounting firm to audit the other Party's records. The results of such independent audit shall be binding on both Parties, and the Party not prevailing in the dispute shall be required to reimburse the Party prevailing, of any expense of the audit. 15. TRADE SECRETS. Each Party acknowledges that in the course of its performance of responsibilities under this Agreement, the Party is likely to have had access to and acquire knowledge of information, including formulas, patterns, combinations, programs, devices, methods, techniques or processes that derive independent economic value, actual or potential, CONFIDENTIAL 16 SERVICE AGREEMENT 10/17/96 PAGE 15 from not being generally known to the public or to other persons who can obtain economic value from its disclosure or use; and, are the subject of efforts by the Party that are reasonable under the circumstances to maintain their secrecy such that this information constitutes trade secrets that are proprietary to the Party owning such Secrets. Each Party further acknowledges that any conveyance, transfer or communication in any manner of such trade secrets to third parties whether directly or indirectly would be improper and that such transferal would constitute a misappropriation of the trade secret that would occasion all available legal sanctions for such misappropriation of a trade secret. All records, files, drawings, documents, models, equipment and the like relating to the businesses of a Party which the other Party may use, prepare or come in contact with during the performance of this Agreement, shall be and remain the sole property of the Party owning such secret. All proprietary and intellectual rights associated with the work product prepared by a Party under this Agreement shall be the property of the preparing Party. 16. INDEPENDENT CONTRACTOR. Each Party undertakes its responsibilities under this Agreement as an independent contractor. A Party's personnel participating in the performance of this Agreement shall remain that Party's employees. There shall be no employer-employee relationship between the employees of one Party and the other Party. 17. EQUAL OPPORTUNITY. ITN shall comply as required by law with all applicable portions of the non-discrimination compliance provisions appended to this Agreement and labeled "non-discrimination provision" and if requested by Donnelley shall sign and return to Donnelley a non-discrimination compliance certificate. 18. NOTICES. Any notice or agreement shall be in writing and shall be conclusively deemed to have been received and to be effective on the date on which received at the office of the recipient, or if sent by registered or certified mail, on the third business day after the day on which it was mailed. Any notices, consents or other communications hereunder shall be sent as follows (unless such addresses are modified by either of the parties): If to Donnelley: CONFIDENTIAL 17 SERVICE AGREEMENT 10/17/96 PAGE 16 John P. McDonald and to Joseph A. DeBlasio General Counsel Vice President & Senior Vice President The Reuben H. Donnelley The Reuben H. Donnelley Corporation Corporation 287 Bowman Avenue 287 Bowman Ave Purchase, NY 10577 Purchase, NY 10577 If to ITN: Scott Bedford Chief Operating Officer IT Network, Inc. One Glen Lakes 8140 Walnut Hill Lane #1000 Dallas, Texas 75231 19. ITN EQUIPMENT LOCATED AT DONNELLEY SITES. As provided in section 5b, ITN equipment used to service Donnelley operations is currently located at Donnelley locations and Donnelley agrees to allow ITN personnel access to the equipment for maintenance and upgrading of the equipment during normal business hours, with advance notice. ITN personnel will notify the Donnelley representative appointed as liaison with ITN in advance as well as upon arrival an departure from the site. ITN personnel will follow all Donnelley security procedures and will conduct themselves in a businesslike manner that will minimize disruption to Donnelley operations. In the event that equipment located at Donnelley locations is used by ITN to serve other ITN clients, ITN will compensate Donnelley for the rent of the space housing the equipment. Under no circumstances will other ITN clients or anyone not employed by ITN and assigned to work on the equipment be allowed at Donnelley locations without Donnelley's prior written consent. 20. PUBLIC STATEMENTS. ITN shall not originate any written or oral statement, news release, or other public announcement or publication, relating to its retention by Donnelley or relating to Donnelley, its subsidiaries, its customers, its personnel, or agents without the prior written CONFIDENTIAL 18 SERVICE AGREEMENT 10/17/96 PAGE 17 approval of Donnelley through its authorized representative. ITN also agrees that he will not use in any public written or oral statement, news release, or other public announcement or publication, the indicia or name of Donnelley, or of any of its subsidiaries, its customers, its personnel, or agents without the prior written consent of Donnelley through its authorized representative. 21. FORCE MAJEURE. a) If any Party hereto shall be prevented from performing any of its obligation under this Agreement because of any act of God, lockout, strike or other labor dispute, riot or civil commotion, act of public enemy, law, order or act of government, whether federal, state or local, or other similar event beyond the Party's control, hereafter referred to as a "force majeure event," then that Party shall be excused from performing any of its obligations which are so prevented. However, the Party so excused is responsible for performing those obligations, of which it had been relieved due to the force majeure event, as soon as the force majeure event has ceased to prevent the Party's performance. b) Donnelley's obligation under this Agreement to remit payment for invoices issued by ITN shall not be excused by any force majeure event, provided however that ITN shall proportionately reduce the invoice to Donnelley to account for the day(s) and/or the Directory(ies) for which the Audiotext Information was not available. And, similarly the Initial Term Amount will be reduced proportionately to account for the day(s) and/or Directory(ies) for which the Audiotext Information was not available. 22. AMENDMENT AND MODIFICATION. No amendment or modification of any terms, conditions or provisions of this Agreement, shall be valid or of any effect except when an amendment or modification is in writing and signed by the parties. CONFIDENTIAL 19 SERVICE AGREEMENT 10/17/96 PAGE 18 23. ASSIGNMENT. Neither Party may assign this Agreement, without the express prior written consent of the other which consent will not be unreasonably withheld. Notwithstanding the above, either Party may assign this Agreement to a parent, to wholly-owned affiliates or to an affiliate wholly-owned by a parent so long as the original Party remains obligated for all obligations set forth in this Agreement. 24. WAIVER. The failure of ITN or Donnelley at any time to require performance by the other Party of any provision of this Agreement shall not affect the Party's right to require such performance at any time thereafter, nor shall the waiver by either Party of a breach of any provision of this Agreement constitute a waiver of any succeeding breach of the same or any other provision. 25. BINDING EFFECT. This Agreement shall be binding upon and shall inure to the benefit of the Parties and their respective successors and assigns. 26. SEVERABILITY. If any provision of this Agreement is held to be prohibited by or invalid under applicable law, such provision will be ineffective only to the extent of such prohibition or invalidity, without invalidating the remainder of such provision or the remaining provisions of this Agreement, provided that the provision held to be invalid is not material to the operation of this Agreement or the intentions of the Parties. 27. GOVERNING LAW. The validity, performance, construction and effect of this Agreement shall be governed by the laws of the State of New York and the site of any controversy, claim, arbitration or litigation shall be in Westchester County, New York. 28. ENTIRE AGREEMENT. This Agreement constitutes the entire Agreement between the Parties and supersedes all prior agreements, representations, warranties, statements, promises, information, arrangements, and understandings, whether oral, written, express or implied with CONFIDENTIAL 20 SERVICE AGREEMENT 10/17/96 PAGE 19 respect to the subject matter hereof, with the sole exception of a non-disclosure Agreement signed between the Parties on May 20, 1996. IN WITNESS WHEREOF, the Parties have cause their respective representatives duly authorized to sign this Agreement on their behalf. THE REUBEN H. DONNELLEY CORPORATION By: /s/ FREDERICK J. GLASER ------------------------------------ Frederick J. Glaser Title: Executive Vice President --------------------------------- IT NETWORK, INC. By: /s/ WILLIAM SCOTT BEDFORD ------------------------------------ William Scott Bedford Title: Chief Operating Officer CONFIDENTIAL 21 APPENDIX A REUBEN H. DONNELLEY AUDIOTEX OPERATION OUTSOURCING CLIENT & DIRECTORY LIST October 9, 1996
CLIENT DIRECTORY --------------------------- --------------------------- PROPRIETARY - EAST Philadelphia East Montgomery County Lower Bucks County Norristown/King of Prussia Main Line/Delaware County Chester County Wilmington Southern New Jersey Allentown Reading Harrisburg Wilkes Barre Scranton Pittsburgh Washington Suburban Maryland Washington Northern Virginia Washington, D.C. Baltimore PROPRIETARY - WEST Orange County SPRINT - UNITED Orlando/Central Florida Kissimmee CINCINNATI BELL DIRECTORY Cincinnati Consumer Clermont County Northern Kentucky Hamilton County Cincinnati BTB NYNEX Bronx Washington Heights Harlem
22 CLIENT & DIRECTORY LIST PAGE 2
CLIENT DIRECTORY --------------------------- --------------------------- DONTECH Chicago Consumer Chicago BTB Far North Suburban Far West Suburban Northwest Suburban Moline/Quad Cities Springfield CENTENNIAL MEDIA CORPORATION Denver
23 APPENDIX B AUDIOTEXT CONTENT PROVIDERS AGREEMENTS TO BE ASSIGNED OR CANCELLED
NAME DESCRIPTION ---- ----------- Steve Friedman Movie Reviews UPI Wire Service Reuters Wire Service Sportsticker Wire Service All My Features Soaps/Horoscopes Data Broadcasting Wire Service NYSE Wire Service Amex Wire Service OPTC Wire Service OmniMusic Music Service Sound Ideas Music Music Service Beatriz Chavez Gomez Spanish Novellas Script Summaries Juana Berrocal Spanish Novellas Script Summaries Julio Largo Spanish Horoscopes Critic's Choice Book Reviews Commodities Exchange Center CEC Data
24 APPENDIX C REUBEN H. DONNELLEY AUDIOTEX OPERATIONS LEASED SERVERS
SITE PUBLISHER SERIAL # # OF ITEM - ---- --------- -------- --------- Orange County Reuben H. Donnelley NI52300HMJ 1 Allentown Reuben H. Donnelley KA509TMWSI 1 Pittsburgh Reuben H. Donnelley NI52300HPP 1 Reading Reuben H. Donnelley KA511UVNZ3 1 Scranton C-Don Partnership N152300HON 1
Expiration date for above leases: June 28, 1997 25 APPENDIX D GUARANTEED PAYMENT SCHEDULE Fixed Monthly Amounts FROM DONNELLEY TO SOURCE MEDIA
PAYMENT # DATE AMOUNT --------- ---- ------ YEAR ONE: 1 01-Nov-96 $ *** 2 01-Dec-96 *** 3 01-Jan-97 *** 4 01-Feb-97 *** 5 01-Mar-97 *** 6 01-Apr-97 *** 7 01-May-97 *** 8 01-Jun-97 *** 9 01-Jul-97 *** 10 01-Aug-97 *** 11 01-Sep-97 *** 12 01-Oct-97 *** YEAR TWO: 13 01-Nov-97 $ *** 14 01-Dec-97 *** 15 01-Jan-98 *** 16 01-Feb-98 *** 17 01-Mar-98 *** 18 01-Apr-98 *** 19 01-May-98 *** 20 01-Jun-98 *** 21 01-Jul-98 *** 22 01-Aug-98 *** 23 01-Sep-98 *** 24 01-Oct-98 *** YEAR THREE: 25 01-Nov-98 $ *** 26 01-Dec-98 *** 27 01-Jan-99 *** 28 01-Feb-99 *** 29 01-Mar-99 *** 30 01-Apr-99 *** 31 01-May-99 *** 32 01-Jun-99 *** 33 01-Jul-99 *** 34 01-Aug-99 *** 35 01-Sep-99 *** 36 01-Oct-99 ***
EX-11.1 3 COMPUTATION OF SUPPLEMENTAL LOSS PER COMMON SHARE 1 EXHIBIT 11.1 SOURCE MEDIA, INC. COMPUTATION OF SUPPLEMENTAL LOSS PER COMMON SHARE
Three months ended Sept. 30, Nine months ended Sept. 30, ---------------------------- --------------------------- 1995 1996 1995 1996 ------------- ------------- ------------ ------------- Weighted average IT shares outstanding 3,917,669 9,934,238 2,275,776 9,932,528 Net effect of common shares that would have been outstanding upon the conversion of IT's preferred shares, assuming the merger took place at the beginning of the respective periods - - 1,029,910 - Net effect of additional shares equal to that portion of the shares held by HBAC stockholders assumed to have been issued in order to repay $4.1 million of IT debt and related accrued interest outstanding for each period - - 164,048 - Net effect of HBAC shares assumed at the date of the merger, less shares assumed necessary to repay $4.1 million of IT debt and related accrued interest outstanding for each period - - 131,740 - ----------- ----------- ----------- ----------- Weighted average common shares 3,917,670 9,934,238 3,601,474 9,932,528 Net loss $(2,176,175) $(4,147,180) $(7,620,502) $(9,168,398) Plus impact of interest expense related to the $4.1 million of IT debt and related accrued interest repaid with the proceeds of the - - $ 130,979 - merger Loss for per share computations $(2,176,175) $(4,147,180) $(7,489,523) $(9,168,398) =========== =========== =========== =========== Supplemental net loss per common share $ (0.28) $ (0.42) $ (1.04) $ (0.92) =========== =========== =========== ===========
EX-27 4 FINANCIAL DATA SCHEDULE
5 9-MOS DEC-31-1996 JAN-01-1996 SEP-30-1996 12,159,425 0 1,048,609 0 0 1,513,668 6,069,710 3,315,340 19,154,715 7,001,803 4,580,365 0 0 10,317 4,626,738 19,154,715 14,447,319 14,447,319 10,748,998 13,269,063 (762,961) 0 360,617 (9,168,398) 0 (9,168,398) 0 0 0 (9,168,398) $(0.92) $(0.92)
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