-----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, VH1cvjgUG+b+Q/CFAXJmF2HMWCj0eR9AbmBbVJfDuULxhMOLLg4/ZkNbwX/gzFkj GUGlTptB+L05mhX+/7xJxw== 0000950134-96-006586.txt : 19961202 0000950134-96-006586.hdr.sgml : 19961202 ACCESSION NUMBER: 0000950134-96-006586 CONFORMED SUBMISSION TYPE: S-1 PUBLIC DOCUMENT COUNT: 10 FILED AS OF DATE: 19961127 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: S-1 SEC ACT: 1933 Act SEC FILE NUMBER: 333-16883 FILM NUMBER: 96672994 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 S-1 1 FORM S-1 1 AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON NOVEMBER 27, 1996 REGISTRATION NO. 333- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 --------------------- FORM S-1 REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 --------------------- SOURCE MEDIA, INC. (Exact name of Registrant as specified in its charter) DELAWARE 4825 13-3700438 (State or other jurisdiction of (Primary Standard Industrial (I.R.S. Employer incorporation or organization) Classification Code Number) Identification No.)
8140 WALNUT HILL LANE, SUITE 1000 DALLAS, TEXAS 75231 (214) 890-9050 (Address, including zip code, and telephone number, including area code, of Registrant's principal executive offices) --------------------- TIMOTHY P. PETERS CHAIRMAN OF THE BOARD AND CHIEF EXECUTIVE OFFICER SOURCE MEDIA, INC. 8140 WALNUT HILL LANE, SUITE 1000 DALLAS, TEXAS 75231 (214) 890-9050 (Name, address, including zip code, and telephone number, including area code, of Registrant's agent for service) --------------------- Copy of Communication to: MICHAEL L. BENGTSON, ESQ. THOMPSON & KNIGHT, P.C. 1700 PACIFIC AVENUE, SUITE 3300 DALLAS, TEXAS 75201 --------------------- APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: As soon as practicable after the effective date of this Registration Statement. If any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, check the following box. [X] If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. [ ] If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. [ ] If delivery of the Prospectus is expected to be made pursuant to Rule 434, please check the following box. [ ] CALCULATION OF REGISTRATION FEE - --------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------------------- PROPOSED MAXIMUM PROPOSED MAXIMUM AMOUNT OF TITLE OF EACH CLASS OF AMOUNT TO BE OFFERING PRICE AGGREGATE OFFERING REGISTRATION SECURITIES TO BE REGISTERED REGISTERED(1) PER SHARE(2) PRICE(2) FEE - ----------------------------------------------------------------------------------------------------------- Common Stock, $.001 par value per share.......................... 1,428,955 $7.25 $10,359,923 $3,139.37
- -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- (1) Based upon the number of Class A Shares and Class B Shares ("Cableshare Common Shares") of Cableshare Inc. ("Cableshare") outstanding as of November 25, 1996, minus the Cableshare Common Shares held by the Registrant or its affiliates, divided by 5, the minimum exchange ratio in the transaction with Cableshare. (2) Calculated pursuant to Rule 457(c), based upon the average of the bid and asked prices of the Common Stock on November 22, 1996. THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME EFFECTIVE ON SUCH DATE AS THE SECURITIES AND EXCHANGE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(A), MAY DETERMINE. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- 2 INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR MAY OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT BECOMES EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR THE SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE SECURITIES IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE UNLAWFUL PRIOR TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF ANY SUCH STATE. SUBJECT TO COMPLETION, DATED NOVEMBER 27, 1996 SHARES SOURCE MEDIA, INC. COMMON STOCK ($.001 PAR VALUE) --------------------- Each share of common stock, par value $.001 per share ("Source Common Shares"), of Source Media, Inc., a Delaware corporation ("Source"), offered hereby is issuable upon exchange of an exchangeable share, no par value per share (an "Exchangeable Share"), of Cableshare Inc., an Ontario corporation ("Cableshare"), issued by Cableshare in exchange for Class A Shares and Class B Shares of Cableshare in connection with the Plan of Arrangement involving Cableshare and its shareholders. Source Common Shares are being offered on a continuous basis pursuant to Rule 415 under the Securities Act of 1933, as amended (the "Securities Act"), during the period of time that the Registration Statement to which this Prospectus relates remains effective. Source and Cableshare will offer Source Common Shares in exchange for Exchangeable Shares from time to time during the period of time described under "Plan of Distribution." Upon such exchange, holders of Exchangeable Shares will be entitled to receive for each Exchangeable Share one Source Common Share, plus an additional amount of cash equivalent to declared but unpaid dividends on such Exchangeable Share. All expenses of registration incurred in connection with this offering are being paid by Source. Source and Cableshare, as applicable, will receive the Exchangeable Shares exchanged for the Source Common Shares offered hereby. Source Common Shares are quoted on the Nasdaq Stock Market's National Market (the "Nasdaq National Market") under the symbol "SRCM." On November 25, 1996, the last reported sale price of the Source Common Shares on the Nasdaq National Market was $7.50 per share. --------------------- FOR A DISCUSSION OF CERTAIN RISKS THAT SHOULD BE CONSIDERED IN CONNECTION WITH AN INVESTMENT IN SOURCE COMMON SHARES, SEE "RISK FACTORS" BEGINNING ON PAGE 6 OF THIS PROSPECTUS. --------------------- THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE. The date of this Prospectus is , 1996. 3 DISCLOSURE REGARDING FORWARD-LOOKING STATEMENTS This Prospectus includes "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended (the "Securities Act"), and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). All statements other than statements of historical facts included in this Prospectus, including without limitation, statements under "Risk Factors," "Business of Source," "Business of Cableshare" and "Management's Discussion and Analysis of Financial Condition and Results of Operations of Source -- Liquidity and Capital Resources," regarding Source's financial position, business strategy, plans and objectives of management of Source for future operations and indebtedness covenant compliance, are forward-looking statements. Although Source believes that the expectations reflected in such forward-looking statements are reasonable, it can give no assurance that such expectations will prove to have been correct. Important factors that could cause actual results to differ materially from Source's expectations (called "Cautionary Statements" herein) are disclosed under "Risk Factors" and elsewhere in this Prospectus, including without limitation in conjunction with the forward-looking statements included in this Prospectus. All subsequent written and oral forward-looking statements attributable to Source or persons acting on its behalf are expressly qualified in their entirety by the Cautionary Statements. --------------------- TABLE OF CONTENTS
PAGE ---- Prospectus Summary.................................................................... 3 Risk Factors.......................................................................... 6 Use of Proceeds....................................................................... 11 Dividend Policy of Source............................................................. 11 Price Range of Source Common Shares................................................... 11 Price Range of Cableshare Shares...................................................... 11 Selected Consolidated Financial Data of Source........................................ 12 Selected Unaudited Pro Forma Consolidated Financial Data of Source.................... 13 Selected Consolidated Financial Data of Cableshare.................................... 14 Management's Discussion and Analysis of Financial Condition and Results of Operations of Source.............................................................................. 15 Management's Discussion and Analysis of Financial Condition and Results of Operations of Cableshare....................................................................... 22 Business of Source.................................................................... 24 Business of Cableshare................................................................ 34 Management of Source.................................................................. 37 Certain Transactions.................................................................. 42 Principal Stockholders of Source...................................................... 43 Management of Cableshare.............................................................. 45 Principal Shareholder of Cableshare................................................... 46 Description of Capital Stock of Source................................................ 46 Description of Capital Stock of Cableshare............................................ 49 Income Tax Considerations............................................................. 51 Plan of Distribution.................................................................. 62 Validity of Source Common Shares...................................................... 64 Legal Opinions........................................................................ 64 Experts............................................................................... 65 Available Information................................................................. 65 Index to Financial Statements......................................................... F-1
4 PROSPECTUS SUMMARY The following summary is qualified in its entirety by the more detailed information and financial statements appearing elsewhere in this Prospectus. Unless otherwise indicated, all information in this Prospectus gives effect to a 1-for-2 reverse stock split effected on October 10, 1995 (the "Reverse Split"). Except as otherwise specified, (a) all references to Source or the Company include Source Media, Inc. and its wholly-owned subsidiary, IT Network, Inc. ("IT"), and (b) all references to Source's activities, results of operations or financial condition prior to June 23, 1995 relate to IT. "Dollars" and "$" refer to United States dollars, and "Cdn$" refers to Canadian dollars. Investors should carefully consider the information set forth under the heading "Risk Factors." THE ARRANGEMENT On November 13, 1996, Source entered into an agreement with Cableshare (the "Arrangement Agreement") to, in effect, acquire the outstanding voting stock of Cableshare that it and its subsidiaries did not already own. Pursuant to the Arrangement Agreement, Source acquired the balance of Cableshare's voting shares (the "Cableshare Common Shares") pursuant to a procedure known as a statutory arrangement (the "Arrangement"), which was subject to approval by the Ontario Court of Justice (General Division) (the "Ontario Court") pursuant to Section 182 of the Business Corporations Act (Ontario) (the "OBCA"). In general, the Arrangement involved a recapitalization of the Cableshare Common Shares pursuant to which the outstanding Cableshare Common Shares were exchanged, at the option of the holder thereof, either for shares of (i) a new class of Cableshare non-voting exchangeable shares, no par value per share (the "Exchangeable Shares") or (ii) common stock, $.001 par value per share, of Source ("Source Common Shares"), and Source and its subsidiaries became the owners of all of the outstanding voting stock of Cableshare. The holders of Exchangeable Shares have no rights to any assets of Cableshare except, on a redemption or retraction of the Exchangeable Shares or a liquidation of Cableshare or Source, to receive Source Common Shares and an amount equal to declared but unpaid dividends on such Exchangeable Shares. PLAN OF DISTRIBUTION Source Common Shares may be issued to holders of Exchangeable Shares as follows: (i) holders of Exchangeable Shares may at any time elect to retract such shares and exchange such shares for an equivalent number of Source Common Shares; (ii) at the times described below, Source may redeem such Exchangeable Shares by exchanging therefor an equal number of Source Common Shares; and (iii) upon liquidation of Source or Cableshare, holders of Exchangeable Shares may be required to, or may elect to, exchange such Exchangeable Shares for Source Common Shares. Holders of Exchangeable Shares are entitled at any time to retract any or all such Exchangeable Shares owned by them and to receive an equivalent number of Source Common Shares, plus an amount of cash equal to all declared but unpaid dividends on such Exchangeable Shares. The retraction will become effective on the date specified by the holder, which date must be not less than 10 business days nor more than 15 days after the request was received by Cableshare. Source has the overriding call right to purchase all of the Exchangeable Shares submitted for a purchase price equal to an equivalent number of Source Common Shares, plus an amount equal to all declared but unpaid dividends, if Source notifies Cableshare within five business days after receiving notice of the request for retraction. The holder may revoke the request at any time before the close of business on the business day preceding the date on which the Exchangeable Shares were to be retracted. On December , 2001, unless a later date has been specified by the Cableshare Board of Directors or an earlier date has been specified by the Cableshare Board of Directors after there are fewer than 350,000 Exchangeable Shares outstanding, Cableshare will redeem all of the then outstanding Exchangeable Shares in exchange for an equal number of Source Common Shares, plus an amount of cash equal to all declared but unpaid dividends on the Exchangeable Shares. Source will have the overriding right to purchase all of the then outstanding Exchangeable Shares for a purchase price equal to an equal number of Source Common Shares plus an amount equal to all declared but unpaid dividends on the Exchangeable Shares. Cableshare will provide at least 120 days' notice prior to such redemption. See "Plan of Distribution." 3 5 THE COMPANIES SOURCE Source is a provider of information and services to consumers through the television and telephone. In September 1996, in Colorado Springs, Colorado, Source commercially introduced the Interactive Channel (SM), its on-line television programming service which provides a range of on-demand information and services to consumers utilizing cable television and telephone lines. Source utilizes Cableshare's patents and technologies embodied in an interactive television system to deliver the service to cable subscribers through the Interactive Channel. Source has announced distribution agreements for the Interactive Channel with three cable operators: Marcus Cable Company L.P., Cablevision Systems Corporation, and Century Communications Corporation. The Interactive Channel offers over 60 interactive programs including on demand local and national news, sports and weather, home shopping with companies such as J.C. Penney, Hallmark Connections and Waldenbooks, interactive Yellow Pages, television and movie guides, travel information and games. Since 1988, Source has been delivering audiotext information to consumers through the touch-tone telephone. Through its On-Line Telephone Business, Source 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. Source's principal On-Line Telephone Business product, called the Network Guide, consists of approximately 800 specific information topics listed in a stand-alone insert generally bound in the front of Yellow Pages directories distributed by certain regional bell operating companies or their affiliates ("RBOCs") or other Yellow Pages publishers. Source's future performance will depend substantially on its ability to manage change in its businesses and operations, to respond to competitive developments, to upgrade its technologies and programming, to commercialize products and services incorporating such upgraded technologies and programming and to adapt its operational and financial control systems as necessary to respond to continuing changes in its businesses. See "Business of Source." CABLESHARE Cableshare has developed a patented interactive television technology that uses telephone and cable television to deliver interactive services to consumers. This interactive television technology is a multi-user, multimedia system designed to deliver pictures, text, graphics and audio on demand to a user's television set through existing coaxial cable television and telephone networks. This technology stores the video and audio presentations in a compressed digital form on a computer hard drive. Cableshare has licence agreements with Source and GTE Corporation. Cableshare has entered into an agreement with Source's subsidiary, IT, whereby Cableshare is developing a new interactive television system for Source's Interactive Channel. The new system is intended to utilize recent advances in technology, software, and computer systems in conjunction with Cableshare's patented process, and to utilize Cableshare's experience in engineering, software development, and systems integration to deliver an interactive television system that Cableshare believes is low cost, reliable, easy to maintain, user friendly, and application developer friendly. Cableshare believes this new system will have advantages over other interactive television and interactive information delivery systems. Cableshare designed the system for quick response to users' requests. Implementation should be less costly on a per household basis than under the former system. It should not require upgrades to function on broadband digital systems. If digital systems become available, Cableshare believes the system can be enhanced to provide features such as computer animation and full motion video. More than $35 million has been invested in development of this technology. Three patents have been issued to Cableshare in the United States and two patents in Canada covering the delivery of video presentation over cable and broadcast systems. Cableshare positions its interactive television technology as an ideal platform for delivering home shopping and information services. See "Business of Cableshare." 4 6 INCOME TAX CONSIDERATIONS See "Income Tax Considerations" for a discussion of certain United States federal and Canadian federal income tax considerations relating to the ownership of the Exchangeable Shares and the exchange pursuant to the offering made hereby of the Exchangeable Shares for Source Common Shares. 5 7 RISK FACTORS INVESTORS SHOULD CONSIDER CAREFULLY THE FOLLOWING RISK FACTORS, IN ADDITION TO THE OTHER INFORMATION CONTAINED IN THIS PROSPECTUS, BEFORE EXCHANGING THEIR EXCHANGEABLE SHARES FOR THE SOURCE COMMON SHARES OFFERED HEREBY. HISTORICAL AND PROJECTED LOSSES. Source has reported an operating loss and a net loss attributable to its common shareholders in each year since its inception, including operating losses of $7.8 million, $11.3 million and $8.3 million and net losses attributable to common shareholders of $10.7 million, $14.5 million and $10.6 million in the fiscal years ended December 31, 1993, 1994 and 1995, respectively. In addition, Source reported an operating loss of $9.6 million and a net loss attributable to common shareholders of $9.2 million for the nine months ended September 30, 1996. The operating losses for these periods were experienced both in Source's Interactive Channel, which is in the development stage, and its On-Line Telephone Business. As a result of these net losses, Source had an accumulated deficit of $52.2 million at September 30, 1996. Source expects that these losses will increase in 1997 as a result of, among other things, its continuing expenditures relating to its efforts to commercially introduce, deploy and enhance the Interactive Channel. Source expects to continue to incur operating losses through 1997 in excess of the amount of the operating losses experienced in past years and may incur operating losses at similar or greater levels thereafter. NEED FOR ADDITIONAL FINANCING. To continue to implement its business strategy, which includes the further expansion of the Interactive Channel beyond several United States cable systems and the pursuit of other strategic and programming initiatives, and to meet its anticipated cash needs for working capital and other capital expenditures through 1997, Source believes that during the first six months of 1997 it will require significant additional financing. Other than additional funds which may be available to Source pursuant to its Note Purchase Agreement with Northstar Advantage High Total Return Fund (the "Senior Note Agreement"), if certain conditions are met, Source currently does not have any arrangements with respect to, or sources of, additional financing, and there can be no assurance that any additional financing will be available to Source in the future on commercially acceptable terms, if at all. The inability to obtain additional financing would have a material adverse effect on Source's ability to further deploy and enhance the Interactive Channel on the two cable systems where it has been commercially introduced or on an additional cable system or continue Source's operations. To the extent that future financing requirements are satisfied through the issuance of equity securities, Source's shareholders may experience dilution. The incurrence of additional debt financing could result in a substantial portion of Source's operating cash flow being dedicated to the payment of principal and interest on such indebtedness, could render Source more vulnerable to competitive pressures and economic downturns and could impose restrictions on Source's operations. TECHNOLOGICAL CHANGES AND POSSIBLE OBSOLESCENCE. The on-line information and services industry is characterized by rapidly changing technology and evolving industry standards. There can be no assurance that products or technologies developed by others will not render obsolete or otherwise significantly diminish the value of Source's technology used for the Interactive Channel or the On-Line Telephone Business. In particular, the Interactive Channel must compete with technologies that offer Internet access, some of which are currently available over the television. Source expects that its success will be dependent upon its ability to enhance its products and services and introduce new products and services to a level sufficient to achieve consumer acceptance on a timely basis, which may require Source to obtain rights to additional technologies from other parties. If Source is unable to design, develop and manufacture, or obtain and introduce such enhancements to its products and services and competitive new products on a timely basis, its business could be materially adversely affected. EVOLVING NATURE OF BUSINESS. Source's future performance will depend substantially on its ability to manage change in its businesses and operations, to respond to competitive developments, to upgrade its technologies and programming, to commercially introduce products and services incorporating such upgraded technologies and programming and to adapt its operational and financial control systems as necessary to respond to continuing changes in its businesses. ACQUISITION RISKS. Source may consider strategic acquisitions in either of its lines of business from time to time. Although there can be no assurance that Source will consummate any such acquisitions, to the extent that it does so, such acquisitions would require Source to expend funds, issue additional equity securities or 6 8 incur additional debt. The incurrence of additional indebtedness by Source could result in a substantial portion of Source's operating cash flow being dedicated to the payment of principal and interest on such indebtedness, could render Source more vulnerable to competitive pressures and economic downturns and could impose restrictions on Source's operations. To the extent that future financing requirements are satisfied through the issuance of equity securities, Source's shareholders may experience dilution. In addition, any assessment of potential acquisitions is necessarily inexact and its accuracy is inherently uncertain. There can be no assurances that management of Source would recognize the risks and uncertainties associated with such an acquisition. RISKS RELATING TO THE INTERACTIVE CHANNEL Uncertainty of Subscriber Acceptance. There can be no assurance that a market for on-line television in general and the Interactive Channel in particular will develop, that cable subscribers will use the television as a source of on-line information and services or that consumers subscribing to the Interactive Channel will maintain their subscriptions. In addition, the Interactive Channel will be competing with other on-line information and entertainment sources. This competition includes services offering access to the Internet through the television. There can be no assurance that the Interactive Channel will prove more desirable than such services or sufficiently desirable to cable subscribers to induce them to pay a subscription fee for the Interactive Channel. If the Interactive Channel does not achieve market acceptance, Source will be unable to implement its business strategy and Source's business will be materially adversely affected. Access to Channels on Cable Systems. Source's ability to offer the Interactive Channel on any cable television system depends on obtaining an agreement from the cable system operator for access to a channel on terms satisfactory to Source. There is intense competition among suppliers of programming for access to channels. Source currently has agreements that it believes will provide channel access on one or more additional cable systems. One such agreement requires the successful completion of a 90-day technical trial prior to deployment of the Interactive Channel. The technical trial has not yet begun. There can be no assurance that Source will be able to obtain agreements with any other cable system operator providing channel access on terms favorable to Source, if at all, or that it will successfully complete the 90-day technical trial. Availability of Programming. The success of the Interactive Channel is highly dependent on the availability of high-quality programming applications that will appeal to cable television subscribers and induce them to initially subscribe to, and continue to subscribe to, the Interactive Channel. Source depends on independent programming sources, such as local television and radio stations, retailers and information service providers, to create, produce and update the programming disseminated on the Interactive Channel and to provide such programming at no cost to Source. There can be no assurance that Source will succeed in attracting and retaining such independent programming sources. If independent programming sources do not develop high quality, up-to-date information, shopping, entertainment and other programming applications that are capable of being delivered on the Interactive Channel and that appeal to subscribers, or if such suppliers are unwilling to provide such applications to Source on terms favorable to Source, Source's business would be materially adversely affected. Availability of Equipment. For Source to offer the Interactive Channel on a given cable system, subscribers in that system must utilize cable converter boxes appropriately modified with subscriber equipment provided by Source, and the cable system operator's local facilities must be equipped with head-end computer equipment to be provided by Cableshare at Source's expense. The deployment of the Interactive Channel currently depends, and will continue to depend, on Source's ability to obtain from manufacturers sufficient quantities of the necessary subscriber equipment and on Cableshare's ability to obtain necessary head-end equipment components from its manufacturing supplier. Although Source has made arrangements with one manufacturer in South Korea to purchase subscriber equipment and has had discussions with another potential manufacturer of subscriber equipment located in Taiwan, there can be no assurance that Source will be able to obtain a sufficient quantity of subscriber equipment, or that Cableshare will be able to obtain the components necessary for its head-end equipment, on a timely basis or on commercially reasonable terms. In addition, a substantial disruption of the operations of the manufacturers of subscriber equipment or key 7 9 components for the head-end equipment would have a material adverse effect on Source's operations. Although Source generally has identified alternative manufacturers in order to minimize the time required to re-establish production of subscriber equipment under such circumstances, certain of the key components used in Source's products and in Cableshare's head-end equipment are obtained from a single source. In the event that Cableshare or Source could not obtain needed equipment on a timely basis, Source's business could be materially adversely affected. In addition, because Source's suppliers of subscriber equipment are expected to be foreign manufacturers, Source will be subject to risks related to international regulatory requirements, export restrictions, tariffs and other trade barriers and fluctuations in currency exchange rates. Proprietary Information. Source's future success will depend in part on Cableshare's ability to protect and maintain the proprietary nature of its technology. In 1995, GTE Corporation and GTE MainStreet (collectively, "GTE") sued Cableshare seeking to invalidate Cableshare's United States patents that are licensed to and utilized by Source in connection with the Interactive Channel. Cableshare filed a counter-action against GTE claiming infringement by GTE of Cableshare's patents in connection with GTE's "MainStreet" on-line television channel. In early 1996, Cableshare and GTE settled the litigation. The settlement included an undisclosed fee paid to Cableshare and the grant to GTE of a license to use the Cableshare patents. Any resulting increase in competition as a result of the licence could materially adversely affect the business of Cableshare and Source. Source often enters into confidentiality or license agreements with certain of its employees, consultants and other outside parties, and generally seeks to control access to and distribution of its proprietary information. Despite these precautions, it may be possible for third parties to copy or otherwise obtain and use Source's products or technology without authorization, or to independently develop similar products and technology. In addition, effective copyright and trade secret protection may be unavailable or limited in certain foreign countries. There can be no assurance that the steps taken by Source will prevent misappropriation of its technology or that additional litigation will not be necessary in the future to enforce Source's intellectual property rights, to protect Source's trade secrets, to determine the validity and scope of the proprietary rights of others, or to defend against claims of infringement or invalidity. Such litigation could result in the invalidation of Source's proprietary rights and, in any event, could result in substantial costs and diversion of management time, either of which could have a material adverse effect on Source's business. RISKS RELATING TO THE ON-LINE TELEPHONE BUSINESS Reliance on Yellow Pages Distribution Channel. Source's On-Line Telephone Business currently is dependent on Source's ability to distribute its printed menu of available programming topics in certain of the Yellow Pages directories published by the RBOCs or other Yellow Pages directory publishers. Source has agreements with three of the seven RBOCs and three additional Yellow Pages directory publishers for distribution in their respective regions. Some of Source's earlier agreements with these and other RBOCs have expired or been terminated. There can be no assurance that Source will be able to obtain new agreements with any other RBOC or Yellow Pages directory publisher or to renew existing agreements with RBOCs or Yellow Pages directory publishers on terms as favorable to Source as existing agreements. If the financial terms of any new agreements were to become more costly to Source than the terms of its existing agreements, the operating losses incurred by the On-Line Telephone Business could increase. Source's agreements with two RBOCs, Ameritech and Southwestern Bell, were terminated in 1996. These two agreements accounted for 34 percent of Source's monetary revenues in 1995. Uncertainty of Alternative Revenue Sources. Historically, a significant portion of Source's monetary revenues has been generated from the sale of advertising sponsorships in connection with its programming for the On-Line Telephone Business. Source has experienced declines in monetary revenues in a subsequent period following the initial year of operations of the On-Line Telephone Business in approximately one-half of the designated marketing areas ("DMAs") in which Source operates due to a number of factors, including operating disruptions experienced by Source in regions where it relies on RBOC equipment, systems and personnel, and lower advertising sales resulting from the re-deployment of sales personnel in connection with the opening of new markets. In the event Source were to experience a sustained decline in advertising 8 10 revenues, the future success of Source's On-Line Telephone Business would depend in part on adding sources of monetary revenues in addition to advertising revenues, such as fees generated from consumer transactions, usage fees for database marketing, processing fees and sales agency fees. There can be no assurance that Source will be able to develop these additional monetary revenues or, if developed, that such revenues will allow Source's On-Line Telephone Business to be profitable. In addition, various government regulations may affect Source's ability to develop future revenue sources, particularly with respect to database marketing. COMPETITION. In an industry characterized by extensive capital requirements and rapid technological change, Source faces potential competition for the acceptance of its on-line programming and services from a number of companies, most of which have significantly greater financial, technical, manufacturing and marketing resources than Source and may be in a better position to compete in the industry. In addition, Source faces competition for advertiser revenues from other media, including radio, television, newspapers, and magazines. Source believes that for the foreseeable future public access to on-line television will generally be through cable system operators. Accordingly, Source must compete with other providers of television programming to establish relationships with cable system operators to gain channel access. Many companies, including some of the largest companies in the industry, are developing, or have announced their intention to develop, products or services that would compete with the Interactive Channel. To the extent one or more competitors is successful in developing a competing service, the business of Source could be materially adversely affected. Source believes that, for the foreseeable future, the public's access to on-line television will generally be achieved through cable system operators. Therefore, Source must compete with other potential on-line television service providers, as well as other sources of programming, to establish relationships with cable system operators. In addition, the on-line television industry and the Interactive Channel face competition for consumer usage from personal computer on-line services. Many of those seeking to develop an on-line television service are also seeking to develop, or have shifted their development efforts to, personal computer on-line services, in particular, those offered over the Internet. Thus, Source faces competition in the interactive and on-line services market from companies in both the on-line television and on-line personal computer services industries. Source is aware of other companies currently offering some of the information services provided over Source's On-Line Telephone Business. Consumers can call a variety of "900" services for information provided by, among others, Dow Jones & Company, Inc., AT&T, GTE and certain major newspaper publishers. Callers are generally charged for calls to these "900" services. Furthermore, a number of companies, local newspapers or radio stations provide free on-line telephone programming similar to that offered on Source's On-Line Telephone Business. Other companies such as Brite Voice Interactive Communications, Inc., certain of the RBOCs, certain independent directories, a subsidiary of Century Telephone Enterprises, and others have indicated an intent to do so. Brite Voice has taken over services previously provided by Source to BellSouth and Ameritech. These competitors may use Yellow Pages directories, newspapers, mailers or other print media to distribute guides listing their programming services. In addition to these current providers of on-line telephone services, potential competitors include any information service provider, as well as directory publishers. The On-Line Telephone Business also faces competition from personal computer on-line services. VOLATILITY OF MARKET PRICES FOR THE SOURCE COMMON SHARES. The market price of the Source Common Shares has been and may continue to be volatile and could be subject to wide fluctuations in response to quarterly variations in operating results, announcements of technological innovations or new products by Source or its competitors, changes in financial estimates by securities analysts, or other events or factors. In the event that Source's operating results are below the expectations of public market analysts and investors in one or more future quarters, it is likely that the price of the Source Common Shares will be materially adversely affected. In addition, the stock market has experienced significant price and volume fluctuations that have particularly affected the market prices of equity securities of many communications, media and technology companies and that often have been unrelated to the operating performance of such companies. General market fluctuations may adversely affect the market price of the Source Common Shares. 9 11 RELIANCE ON KEY PERSONNEL. Source's future performance will depend in large part upon the services of certain executive officers and other key personnel. Source has entered into an employment agreement with only one of such key persons. The loss of the services of one or more of these individuals could have a material adverse effect on Source. In addition, in order for Source to implement its business strategy and successfully introduce the Interactive Channel, it will be necessary for Source to attract and retain qualified sales personnel and other qualified management, engineering, marketing, finance and production personnel. There can be no assurance that Source will be able to continue to attract and retain such personnel. GOVERNMENT REGULATION. The telecommunications and cable television industries are subject to extensive regulation by federal, state and local governmental agencies. Existing regulations were substantially affected by the passage of the Telecommunications Act of 1996 ("1996 Telecom Act") in February, 1996 which allowed cable television companies and telephone companies both to enter and participate in new lines of business. This introduced the possibility of new, non-traditional competition for both cable television and telephone companies and resulted in greater potential competition for Source. The outcome of pending federal and state administrative proceedings may also affect the nature and extent of competition that will be encountered by Source. In addition, future regulations may prevent Source from generating revenues from sales of database information about consumers obtained by Source from its television and telephone business. These competitive developments, as well as other regulatory requirements relating to privacy issues, may have a material adverse effect on Source's business. LEGAL PROCEEDINGS AND CLAIMS. Source and Cableshare are currently involved in legal proceedings brought by a former director and executive officer of Cableshare, which, if determined adversely to Source or Cableshare, could have a material adverse effect on the business of Source. In addition, Source has received correspondence from a shareholder and former director of Source relating to claims that may be asserted by such shareholder and certain other persons in connection with the conversion of convertible notes formerly held by such persons. There can be no assurance that the ultimate outcome of these matters will be resolved in favor of Source or Cableshare. In addition, even if the ultimate outcome is resolved in favor of Source or Cableshare, involvement in any litigation or claims could entail considerable cost to Source and the diversion of the attention of management, either of which could have a material adverse effect on the business of Source, or both. CONTROL BY CURRENT MANAGEMENT. The directors and executive officers of Source and their affiliates beneficially own, or have the right to vote, in the aggregate approximately percent of the outstanding Source Common Shares. As a result of such persons' ownership and/or control of the Source Common Shares and their directorship and management positions, they have significant influence over all matters requiring approval by the stockholders of Source, including the election of directors. SHARES ELIGIBLE FOR FUTURE SALE. Source has a total of Source Common Shares outstanding. All of the shares outstanding are freely tradeable under the Securities Act without restriction or registration, to the extent held by persons other than "affiliates" of Source, as defined under the Securities Act. Source also has outstanding warrants, options and exchange rights entitling the holders thereof to acquire an aggregate of Source Common Shares. Source is required to file and maintain the effectiveness of a registration statement covering 2,326,500 Source Common Shares issuable upon exercise of certain of such warrants. Any of such 2,326,500 shares, other than those acquired by affiliates of Source, would be freely tradeable following the effectiveness of such registration statement. In addition, various persons have "piggyback" and demand registration rights to register shares of outstanding Source Common Shares and Source Common Shares issuable upon the exercise of certain warrants and exchange rights for public sale under the Securities Act. The preparation and filing of any registration statements filed in connection with the exercise of registration rights will be at the expense of Source. Sales of substantial amounts of Source Common Shares in the public market pursuant to such registration rights could adversely affect the prevailing market price of the Source Common Shares. POTENTIAL ADVERSE IMPACT OF ANTI-TAKEOVER PROVISIONS. Source's certificate of incorporation and by-laws and the provisions of the Delaware General Corporation Law may have the effect of delaying, deterring or preventing a change in control or an acquisition of Source. Source's certificate of incorporation authorizes the 10 12 issuance of "blank check" preferred stock, which, in the event of issuance, could be utilized by the board of directors of Source as a method of discouraging, delaying or preventing a change in control or an acquisition of Source, even though such an attempt might be economically beneficial to the holders of Source Common Shares. Such provisions may have an adverse impact from time to time on the price of the Source Common Shares. USE OF PROCEEDS Because the Source Common Shares will be issued upon exchange of Exchangeable Shares, Source will receive no net cash proceeds upon such issuance. DIVIDEND POLICY OF SOURCE Source has never declared or paid a cash dividend on the Source Common Shares. Source currently intends to retain any earnings for use in the operation and expansion of its business and does not anticipate declaring or paying any cash dividends in the foreseeable future. In deciding whether or not to declare or pay dividends in the future, the board of directors of Source will consider all relevant factors, including Source's earnings, working capital and capital expenditure requirements, any restrictions contained in any financing or other agreements Source may enter into in the future and general business conditions. Source is currently prohibited from paying dividends by the terms of its Senior Note Agreement. PRICE RANGE OF SOURCE COMMON SHARES Beginning December 8, 1995, the Source Common Shares were included in the Nasdaq National Market under the symbol "SRCM." Prior to December 8, 1995, the Source Common Shares had been quoted on the Over-the-Counter Bulletin Board (the "OTC") under the symbol "SRCM." The table below sets forth, for the periods indicated subsequent to June 23, 1995, the high and low bid quotations for the Source Common Shares (as adjusted to estimate the effect of the Reverse Split in the case of quotations for periods prior to October 10, 1995).
1995 HIGH LOW ---------------------------------------------------- ------ ------ Second Quarter (beginning June 23, 1995)............ $11.50 $10.50 Third Quarter....................................... 12.00 8.50 Fourth Quarter...................................... 12.88 9.13
1996 HIGH LOW ---------------------------------------------------- ------ ------ First Quarter....................................... $ 9.63 $ 7.63 Second Quarter...................................... 11.25 8.38 Third Quarter....................................... 10.88 7.38 Fourth Quarter (through November 25, 1996).......... 11.50 7.00
On November 25, 1996, the last reported bid price for the Source Common Shares was $7.50 per share. As of November 22, 1996, there were 130 holders of record of the Source Common Shares. PRICE RANGE OF CABLESHARE SHARES As a result of the Arrangement, Source and its subsidiaries own all of the Cableshare Common Shares, which are all of the outstanding voting shares of Cableshare. The Exchangeable Shares are not traded on any stock exchange or quoted on any interdealer quotation system, and no public market is expected to develop. As a result, all historical information relating to the Cableshare Common Shares has been omitted, and no information relating to the Exchangeable Shares is available. 11 13 SELECTED CONSOLIDATED FINANCIAL DATA OF SOURCE (1) (in thousands, except per share data) The selected consolidated financial data set forth below for and as of the end of each of the years in the five-year period ended December 31, 1995 are derived from Consolidated Financial Statements of Source, which have been audited by Ernst & Young LLP, independent auditors. The selected consolidated financial data for the nine months ended September 30, 1995 and 1996 and as of September 30, 1996 have been derived from unaudited financial statements which, in the opinion of Source management, include all adjustments, consisting of normal recurring accruals and other adjustments necessary for the fair presentation of the financial position and of the results of operations for these periods. The results of operations for the nine months ended September 30, 1996 may not be indicative of results that may be expected for the full year ending December 31, 1996. The information contained in this section should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations of Source" and the Consolidated Financial Statements of the Source and Notes thereto included elsewhere in this Prospectus.
NINE MONTHS ENDED YEARS ENDED DECEMBER 31, SEPTEMBER 30, ------------------------------------------------------ ------------------ 1991 1992 1993 1994 1995 1995 1996 ------- ------- -------- -------- -------- ------- ------- (unaudited) STATEMENT OF OPERATIONS DATA: Monetary revenues...... $ 4,363 $ 5,594 $ 6,431 $ 9,194 $ 9,342 $ 7,102 $ 6,406 Nonmonetary revenues (2).................. 10,008 14,049 18,752 21,749 15,944 12,670 8,041 ------- ------- -------- -------- -------- -------- -------- Total revenues......... 14,371 19,643 25,183 30,943 25,286 19,772 14,447 Gross profit........... 995 2,085 1,975 3,946 4,405 3,256 3,698 Operating loss......... (3,108) (3,707) (7,805) (11,331) (8,328) (5,992) (9,571) Net loss............... (3,293) (4,303) (9,918) (12,857) (9,769) (7,621) (9,168) Net loss attributable to common stockholders......... (3,293) (4,303) (10,687) (14,478) (10,602) (8,453) (9,168) Net loss per common share................ (0.99) (1.20) (2.66) (3.22) (1.65) (1.48) (0.92)
AS OF DECEMBER 31, AS OF ---------------------------------------------------- SEPTEMBER 30, 1991 1992 1993 1994 1995 1996 ------- ------- ------- -------- ------- ------------- (unaudited) BALANCE SHEET DATA: Cash and cash equivalents........ $ 3 $ 297 $ 1,235 $ 127 $17,479 $12,159 Working capital (deficit)........ (5,236) (6,040) (3,329) (7,608) 12,223 7,720 Total assets..................... 1,523 10,992 13,248 8,219 24,195 19,155 Capital lease obligations and long-term debt (including current maturities)............ 1,292 4,917 701 653 219 4,738 Redeemable convertible preferred stock (3)...................... -- -- 10,065 16,236 -- -- Total stockholders' equity (capital deficiency)........... (5,347) (4,569) (8,202) (21,965) 13,037 4,637
- --------------- (1) On June 23, 1995, IT merged (the "Merger") with a wholly-owned subsidiary of HB Communications Acquisition Corp. ("HBAC"), a public company formed in Delaware for the purpose of acquiring a company engaged in the communications industry, with IT surviving as a wholly-owned subsidiary of HBAC. In connection with the Merger, HBAC changed its name to Source Media, Inc. Except as otherwise specified, all references to Source's activities, results of operations or financial condition prior to June 23, 1995 relate to IT. See Note 1 of Notes to Consolidated Financial Statements of Source. (2) Nonmonetary revenues and nonmonetary cost of sales associated with barter transactions are included in the consolidated statements of operations at the estimated fair values of advertising time and information content received. See "Management's Discussion and Analysis of Financial Condition and Results of Operations" and Note 2 of Notes to Consolidated Financial Statements of Source. (3) All of the outstanding redeemable convertible preferred stock was converted to Common Stock as part of the Merger. See Note 1 of Notes to Consolidated Financial Statements of Source. 12 14 SELECTED UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL DATA OF SOURCE (in thousands, except per share data) The unaudited pro forma consolidated financial information and other data below assume the Arrangement was consummated (i) at the beginning of the periods presented for statement of operations data and (ii) on September 30, 1996 for balance sheet data. The unaudited pro forma consolidated financial information is presented for illustrative purposes only and is not necessarily indicative of the operating results or financial position that would have occurred if the Arrangement had been consummated at the assumed dates, nor is it necessarily indicative of future results of operations. The unaudited pro forma consolidated financial information should be read in conjunction with the Unaudited Pro Forma Condensed Consolidated Financial Statements of Source and the related notes thereto, and the Consolidated Financial Statements of Source and the related notes thereto.
NINE MONTHS ENDED YEAR ENDED SEPTEMBER 30, DECEMBER 31, 1995 1996 ----------------- ----------------- (UNAUDITED) STATEMENT OF OPERATIONS DATA: Monetary revenues......................................... $ 9,342 $ 6,406 Nonmonetary revenues...................................... 15,944 8,041 --------- -------- Total revenues............................................ 25,286 14,447 Gross profit.............................................. 4,405 3,698 Operating loss............................................ (11,138) (11,678) Net loss.................................................. (12,831) (11,345) Net loss attributable to common stockholders.............. (13,664) (11,345) Net loss per common share................................. (1.75) (1.00)
AS OF SEPTEMBER 30, 1996 ------------------ (UNAUDITED) BALANCE SHEET DATA: Cash and cash equivalents................................................. $ 11,659 Working capital........................................................... 7,220 Total assets.............................................................. 32,703 Capital lease obligations and long-term debt (including current maturities)............................................................. 4,738 Total stockholders' equity................................................ 17,895
13 15 SELECTED CONSOLIDATED FINANCIAL DATA OF CABLESHARE (in thousands, except per share data; all amounts are Canadian dollars) The selected consolidated financial data set forth below for and as of the end of each of the years in the five-year period ended March 31, 1996 are derived from Consolidated Financial Statements of Cableshare, which have been audited by KPMG, independent auditors. The selected consolidated financial data for the six months ended September 30, 1995 and 1996 and as of September 30, 1996 have been derived from unaudited financial statements and which, in the opinion of Cableshare's management, include all adjustments, consisting of normal recurring accruals and other adjustments necessary for the fair presentation of the financial position and of the results of operations for these periods. The results of operations for the six months ended September 30, 1996 may not be indicative of results that may be expected for the full year ending March 31, 1997. The information contained in this section should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations of Cableshare" and the Consolidated Financial Statements of Cableshare and Notes thereto included elsewhere in this Prospectus.
SIX MONTHS ENDED YEARS ENDED MARCH 31, SEPTEMBER 30, ------------------------------------------------ ---------------- 1992 1993 1994 1995 1996 1995 1996 ------- ------ ------ ------ ------- ------ ------ (unaudited) STATEMENT OF OPERATIONS DATA: Revenue.......................... $ 653 $1,690 $1,975 $2,694 $ 4,530 $1,639 $2,821 Expenses......................... 1,937 2,000 2,135 3,368 4,689 1,636 3,028 Income taxes..................... 0 0 0 49 25 0 0 Net income (loss)................ (1,284) (310) (161) (723) (184) 3 (207) Earnings (loss) per share........ (0.09) (0.02) (0.01) (0.05) (0.01) 0.00 (0.01)
AS OF MARCH 31, AS OF ------------------------------------------------ SEPTEMBER 30, 1992 1993 1994 1995 1996 ------------- ------- ------ ------ ------ ------- 1996 ------------- (unaudited) BALANCE SHEET DATA: Cash and term deposits........... $ 1,037 $ 245 $ 217 $ 36 $ 306 $ 399 Working capital (deficit)........ 337 (164) 9 (877) (1,174) (1,269) Total assets..................... 2,076 1,184 1,449 1,062 2,053 1,664 Capitalized lease obligations (including current portions)... 0 0 0 91 100 79 Shareholders' equity (deficit)... 1,116 399 399 (311) (595) (695)
14 16 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OF SOURCE GENERAL Source is a provider of information and services to consumers through the television and telephone. In September 1996 in Colorado Springs, Colorado, Source 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. Since 1988, Source has been delivering audiotext information to consumers through the touch-tone telephone. Through its On-Line Telephone Business, Source 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 Source's On-Line Telephone Business and general, development, advertising and promotion expenses related to the Interactive Channel and Source's recently discontinued on-line personal computer services and do not purport to give an accurate indication of Source's future results of operations in light of the anticipated market expansion of the Interactive Channel. Source 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 client contracts (which are typically from 3 to 12 months). Source also has earned monetary revenues from sales of audiotext services, principally its category-specific content in the back of Yellow Pages directories ("Consumer Tips"), to certain of the RBOCs or other publishers of Yellow Pages directories. In the future, Source 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, Source has entered into nonmonetary barter agreements with local television and radio stations. These media sponsors provide Source 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 Source's Network Guide. Revenues and cost of sales associated with these nonmonetary barter transactions are included in Source's consolidated statements of operations at the estimated fair value of the on-air advertisements and information content provided to Source 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 Advertising Services ("Ameritech") and the decision by Source to reduce the amount of space devoted to information provided by media sponsors in the Network Guide. On June 23, 1995, as a result of the Merger, IT merged with a wholly-owned subsidiary of HBAC. 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 Source 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, Source 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. Since the completion of the Arrangement, the Company owns 100 percent of the voting shares of Cableshare, which licenses to Source patented technology utilized by Source in connection with the Interactive Channel and provides research and development services to Source. Source's consolidated operating results have historically included the operating results of Cableshare, as a majority-owned subsidiary, with approximately 49 percent of the operating results of Cableshare (which have typically been operating losses) being shown as "Minority interests in losses of consolidated subsidiaries." Following the Arrangement, none of the operating results of Cableshare will be shown as "Minority interests in losses of consolidated subsidiaries." Also, in connection with the Arrangement, the Company will record a significant amount of intangible assets, consisting of patents and goodwill, which will result in additional amortization expense of approximately $2.8 million per year for the next five years. 15 17 NINE MONTH PERIOD ENDING SEPTEMBER 30, 1996 AND SEPTEMBER 30, 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 Source'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 Source'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 Source's agreement with Ameritech, Source 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 Source'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. Source 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 Source 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, Source 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 Source, Source expects its nonmonetary revenues and nonmonetary cost of sales to decline substantially in future periods. Source 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, Source has operated under comprehensive Network Guide agreements whereby Source 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, Source'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, 16 18 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 Source'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 Source 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 Source 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 Source'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 Source with operating funds to the point of the Merger. YEARS ENDED DECEMBER 31, 1995 AND 1994 Monetary revenues increased two percent to $9.3 million for the year ended December 31, 1995 from $9.2 million for the year ended December 31, 1994. The net increase of $148,000 included an increase of $1.2 million attributable to the Network Guide product, partially offset by a decline of $847,000 in revenues earned by Cableshare and a decline of $242,000 attributable to Source's Consumer Tips service. The increase in Network Guide monetary revenues was generated by expansion in 19 new DMAs and slightly increased monetary revenues among Source's 37 other DMAs. Revenue increases in certain existing DMAs occurred primarily because of (i) the creation of a sales force focusing exclusively on selling health and legal advertising, (ii) the allocation of additional resources to target national advertisers and (iii) the centralization of customer service operations, which has allowed the sales force more time to engage in selling activities. Network Guide monetary revenues generated from advertisers in the Southwestern Bell region accounted for approximately 13 and 12 percent of Source's monetary revenues in 1995 and 1994, respectively. Until February 1, 1996, Source 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. Source's agreement with Ameritech was terminated by Ameritech, and Source does not expect its Network Guide to be included in any Ameritech Yellow Pages directories published after February 1, 1996. Accordingly Source expects revenue to decline in those Ameritech DMAs in 1996 and to end completely in the first quarter of 1997. Network Guide monetary revenues generated from 17 19 advertisers in the Ameritech region accounted for approximately 20 and 22 percent of Source's monetary revenues in 1995 and 1994, respectively. Source has instituted litigation against Ameritech in the District Court for Dallas County, Texas, attempting to resolve the dispute between the companies relating to Ameritech's termination of the agreement. The decline in Cableshare's revenues in 1995 compared to 1994 reflects hardware sales and consulting services delivered by Cableshare in 1994 to Bell Atlantic in connection with Bell Atlantic's interactive Yellow Pages trial, which did not recur in 1995. Decreased revenues related to Source's Consumer Tips service revenues in the BellSouth region for the 1995 period, resulting from the non-renewal of Source's contract with BellSouth for Consumer Tips services, were partially offset by increasing Consumer Tips revenues in the Ameritech region. There were $13,000 in revenues recorded for BellSouth Consumer Tips in the year ended December 31, 1995, compared with $555,000 in the year ended December 31, 1994. As a result of the aforementioned termination of Source's agreement with Ameritech, Consumer Tips revenues in the Ameritech region ended completely in April 1996. Nonmonetary revenues and nonmonetary cost of sales declined 27 percent to $15.9 million for the year ended December 31, 1995 from $21.7 million for the year ended December 31, 1994. Substantially all of this $5.8 million decline occurred because, in certain DMAs, Source reduced the amount of space in its Network Guide printed menu of available programming devoted to information provided by media sponsors and, accordingly, renewed its barter contracts with such media sponsors for lesser amounts of promotional advertising. In light of Southwestern Bell's nonrenewal of its distribution agreements for Source's Network Guide and Ameritech's termination of its agreement with Source, Source expects that nonmonetary revenues and nonmonetary cost of sales will continue to decline in 1997. Monetary cost of sales declined six percent to $4.9 million for the year ended December 31, 1995 from $5.2 million for the year ended December 31, 1994. In certain RBOC regions, Source has operated under comprehensive Network Guide agreements whereby Source 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 within an RBOC region become governed by such a Network Guide agreement, Source's monetary cost of sales reflect increasing revenue sharing expense and declining Yellow Pages purchase expense and telephone line charges in such RBOC region. Monetary cost of sales for the years ended December 31, 1995 and December 31, 1994 was primarily comprised of (i) revenue sharing expenses associated with Network Guide agreements with Ameritech, DonTech and BellSouth of $2.0 million and $1.9 million, respectively, an eight percent increase, resulting from higher monetary revenues in certain RBOC regions pursuant to revenue-sharing operating agreements, (ii) Yellow Pages purchase expenses of $1.2 million and $1.2 million, respectively, a two percent increase, reflecting lower Yellow Pages purchase expense in those regions operating pursuant to revenue sharing agreements, offset by increased Yellow Pages purchase expense attributable to Source's expansion in the Pacific Bell region, (iii) operations personnel salaries of $584,000 and $812,000, respectively, a 28 percent decrease, reflecting certain cost-cutting measures implemented by Source in the last six months of 1994, (iv) telephone line charges of $369,000 and $444,000, respectively, a 17 percent decrease reflecting certain cost-cutting measures implemented by Source in the last six months of 1994 and (v) satellite broadcasting charges of $357,000 and $358,000, respectively, nearly unchanged. Selling, general and administrative expenses, including amortization of intangible assets and write-down of intangible assets, declined 29 percent to $9.0 million for the year ended December 31, 1995 from $12.6 million for the year ended December 31, 1994. This decline resulted primarily from (i) the nonrecurrence of a $1.9 million write-down of intangible assets recorded during the year ended December 31, 1994 to reflect impairment of the value of such assets in that period, (ii) lower amortization of intangible assets of $653,000 during 1995 resulting from such write-down, (iii) lower administrative expenses of $539,000 resulting from certain cost-cutting measures implemented by Source in the last six months of 1994, (iv) the non-recurrence of $456,000 of expense incurred in 1994 related to the issuance of warrants to an outside advisory committee that assists Source in certain matters ("Advisory Warrants") and (v) the non-recurrence of $315,000 of expense incurred in 1994 related to a demand made by Revenue Canada for repayment of certain refundable tax credits taken by Cableshare in 1988. These declines were partially offset by increased administrative expenses during 1995 attributable to Cableshare. 18 20 Research and development expenses increased 39 percent to $3.7 million for the year ended December 31, 1995 from $2.7 million for the year ended December 31, 1994. This increase was the result of the addition of personnel both within Source and at Cableshare required to support business development activities as well as to begin development of cable converter boxes, the modification of the Cableshare on-line television technology to operate on a UNIX-based platform, and the development of a Windows-based media presentation workstation. Other Income and Expenses. Net interest expenses declined 54 percent to $137,000 for the year ended December 31, 1995 from $296,000 for the same period in 1994 as Source fulfilled certain interest expense obligations effective in June 1995. Source incurred $1.6 million of charges related to financing incentives during 1995 as a result of the issuance of certain warrants in January 1995 and in connection with interim financings in May 1995. Included in other (income) expense for 1994 was a non-recurring expense of $1.4 million related to a discontinued public offering. YEARS ENDED DECEMBER 31, 1994 AND 1993 Monetary revenues increased 43 percent to $9.2 million for the year ended December 31, 1994 from $6.4 million for the year ended December 31, 1993. The net increase of $2.8 million consisted of $1.9 million attributable to Source's Network Guide product, $160,000 attributable to its Consumer Tips service and $784,000 attributable to Cableshare. Monetary revenues from the Network Guide increased 37 percent to $7.0 million for 1994 from $5.1 million for 1993. Network Guide monetary revenues increased $1.9 million during 1994 primarily by expansion into 21 new DMAs. Among Source's 31 other DMAs, Network Guide monetary revenues experienced a net increase of $482,000. Increased Consumer Tips revenues during 1994 in the Ameritech region, where this service was introduced during the third quarter of 1993, were partially offset by declining Consumer Tips revenues in the BellSouth region resulting from the non-renewal of Source's contract with BellSouth for Consumer Tips. Monetary revenues attributable to BellSouth Consumer Tips were $555,000 in 1994 and $945,000 in 1993. The increase in revenues attributable to Cableshare resulted primarily from hardware and consulting services delivered to Bell Atlantic by Cableshare in connection with Bell Atlantic's interactive Yellow Pages television trial. Nonmonetary revenues and nonmonetary cost of sales increased 16 percent to $21.7 million for the year ended December 31, 1994 from $18.8 million for the year ended December 31, 1993. This $2.9 million increase principally resulted from increased barter transaction activity associated with expansion into new DMAs. Monetary cost of sales increased 18 percent to $5.2 million for the year ended December 31, 1994 from $4.5 million for the year ended December 31, 1993. This increase resulted primarily from (i) a full year of revenue sharing expenses associated with Network Guide agreements with Ameritech, DonTech and BellSouth, which were partially offset by the elimination of expenses associated with Yellow Pages purchases and telephone line charges in those RBOC's regions, and (ii) increase salary expense from the growth in the number of employees during 1994 to support the introduction of Consumer Tips. Monetary cost of sales for 1994 and 1993 was primarily comprised of (i) revenue sharing expenses associated with the Network Guide agreements with Ameritech and BellSouth of $1.9 million and $803,000, respectively, (ii) Yellow Pages purchase expenses of $1.2 million and $1.7 million, respectively, (iii) operations personnel salaries of $812,000 and $712,000, respectively, and (iv) telephone line charges of $444,000 and $525,000. Selling, general and administrative expenses, including amortization of intangible assets and write-down of intangible assets, increased 49 percent to $12.6 million for the year ended December 31, 1994 from $8.4 million for the year ended December 31, 1993. This increase resulted primarily from (i) a $1.9 million write-down of intangible assets recorded during 1994 to reflect impairment of the value of such assets, (ii) increased commissions expense of $470,000 during 1994 resulting from increased monetary revenues, (iii) a $456,000 charge during 1994 as a result of the issuance of warrants in connection with the establishment of an advisory committee of Source's, (iv) higher salary expenses of $384,000 during 1994 due to the addition of administrative personnel in 1993 and 1994, (v) a $315,000 charge in 1994 to reflect the assessment to Cableshare by Revenue Canada reducing investment tax credits taken by Cableshare in prior years, (vi) increased Cableshare selling, general and administrative expenses of $309,000 during 1994 19 21 primarily due to personnel added in 1993 and 1994 and (vii) increased insurance expense of $231,000 relating to both increased personnel and the inception of a directors and officers insurance policy in 1994. Research and development expenses increased 102 percent to $2.7 million for the year ended December 31, 1994 from $1.3 million for the year ended December 31, 1993. This increase was the result of a full year's activity of Source's development efforts for the Interactive Channel during 1994 and the addition of development personnel at Cableshare required to service Source's trial of the Interactive Channel and Bell Atlantic's interactive Yellow Pages television trial, as well as to begin modification of the Cableshare on-line television technology to operate on a UNIX-based platform. Other. Net interest expense increased 30 percent to $296,000 for the year ended December 31, 1994, from $227,000 for the year ended December 31, 1993. Nonrecurring expenses included in other (income) expense were $1.5 million for the year ended December 31, 1994. Source did not incur any non-recurring expenses for the year ended December 31, 1993. The nonrecurring expense in 1994 was the result of the write-off of charges relating to a discontinued public offering in 1994. Charges related to financing incentives of $2.0 million for the year ended December 31, 1993 were the result of inducements provided to certain security holders to convert their securities into common shares, or exercise their warrants or options, on terms more favourable to Source than those provided in the securities. LIQUIDITY AND CAPITAL RESOURCES Since its inception, Source 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, Source 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. Source expects to continue to incur negative cash flow from operating activities at least through 1997. Source's primary source of liquidity is its cash and cash equivalents, which totaled $12.2 million at September 30, 1996. Since its inception, Source 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, Source consummated the Merger whereby $7.2 million of cash, net of redemptions and expenses, became available to Source. In connection with the Merger, $4.1 million of debt, and accrued interest thereon, was retired and all of Source's preferred stock was converted into common stock. In December 1995, Source completed a public offering of 2,350,000 shares of Common Stock for net proceeds of $21,850,000, of which Source used approximately $3.0 million to repurchase shares of Common Stock from a stockholder. On April 3, 1996, Source 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 Source Common Shares 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, Source 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 Source elects to issue the Second Tranche Note, Source will be obligated to issue a second warrant entitling the holder to purchase up to an additional 500,000 Source Common Shares 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, Source 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 Source, interest payments may be made through the issuance of additional notes. The notes are secured by a lien on all of Source's assets, including its shares of 20 22 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. Source also granted the holder of the warrant demand and "piggyback" registration rights covering the shares of Source's common stock issuable upon exercise of the warrant. During the remaining three months of 1996, Source 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, Source anticipates paying approximately $500,000 in legal, printing and other transaction costs. In February 1996, Source entered into an agreement with Cableshare which grants to Source 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. Source 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 Source's marketing of the Interactive Channel. The new license replaces Source's obligations under the previous license to make payments and achieve certain subscriber levels. On October 31, 1996, Source and Cableshare extended the agreement through March 1997, and Source agreed to purchase a minimum of $300,000 of development services per month from Cableshare commencing November 1, 1996. In October 1996, Source 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. Source may consider additional strategic acquisitions in either of its lines of business from time to time. Although there can be no assurance that Source will consummate any such acquisitions, to the extent that it does so, such acquisitions would require Source to expend funds, issue additional equity securities or incur additional debt. The incurrence of additional indebtedness by Source could result in a substantial portion of Source's operating cash flow being dedicated to the payment of principal and interest on such indebtedness, could render Source more vulnerable to competitive pressures and economic downturns and could impose restrictions on Source's operations. Source'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 Source to fund their costs of litigation, and (vi) competitive factors. Source 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 Source's anticipated cash needs for working capital through the end of 1997. However, Source does not believe that these sources of funds will be sufficient to allow Source 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, Source anticipates that it may attempt to sell additional equity securities or incur additional debt in the first half of 1997. 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 Source's utilization of net operating losses to be limited to approximately $3.5 million in a given year. 21 23 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS OF OPERATIONS OF CABLESHARE SIX MONTHS ENDED SEPTEMBER 30, 1996 AND 1995 Revenues increased 72 percent to Cdn$2.8 million for the six months ended September 30, 1996 from Cdn$1.6 million for the six months ended September 30, 1995. The increase of Cdn$1.2 million was primarily attributable to increased services and sales of system hardware in support of the Interactive Channel launch in Colorado Springs, Colorado and in support of an interactive television trial conducted by Southern Development Corporation in Atlanta, Georgia. Research and development expenses increased 99 percent to Cdn$1.6 million for the six months ended September 30, 1996 from Cdn$817,000 for the six months ended September 30, 1995. The increase of Cdn$805,000 primarily resulted from increases in staffing and consulting services in support of a development agreement with IT entered into effective April 1995. Costs of goods increased to Cdn$300,000 for the six months ended September 30, 1996 from Cdn$13,000 for the six months ended September 30, 1995. The increase of Cdn$287,000 reflected increased hardware sales to IT in support of the commercial launch of the Interactive Channel and in support of an interactive television trial conducted by Southern Development Corporation. Operating and general and administration expenses increased 37 percent to Cdn$1.1 million for the six months ended September 30, 1996 from 805,000 for the six months ended September 30, 1995. The increase of Cdn$300,000 primarily reflected increased staffing in customer support in anticipation of the commercial launch of the Interactive Channel as well as increased legal expenses incurred in defending various actions against Cableshare. YEARS ENDED MARCH 31, 1996 AND 1995 Revenues increased 68 percent to Cdn$4.5 million for the year ended March 31, 1996 from Cdn$2.7 million for the year ended March 31, 1995. The increase of Cdn$1.8 million primarily reflected additional revenues earned from IT under the development agreement entered into with IT effective April 1995. Research and development expenses increased 200 percent to Cdn$2.1 million for the year ended March 31, 1996 from Cdn$688,000 for the year ended March 31, 1995. The increase of Cdn$1.4 million primarily resulted from increases in staffing and development tools in support of the development agreement with IT. Costs of goods declined to Cdn$13,000 for the year ended March 31, 1996 from Cdn$136,000 for the year ended March 31, 1995. The decline of Cdn$123,000 reflected lower hardware sales related to customers involved in trials of interactive television. Operating and administration expenses increased three percent to Cdn$2.6 million for the year ended March 31, 1996 from Cdn$2.5 million for the year ended March 31, 1995. The increase of Cdn$71,000 reflected slightly higher administrative expenses and legal expenses incurred in defending various actions against Cableshare. YEARS ENDED MARCH 31, 1995 AND 1994 Revenues increased 36 percent to Cdn$2.7 million for the year ended March 31, 1995 from Cdn$2.0 million for the year ended March 31, 1994. The increase of Cdn$719,000 reflected a Cdn$1.4 million payment from IT in connection with IT's license agreement with Cableshare, partially offset by lower hardware sales and consulting services during the same period. Research and development expenses declined to Cdn$688,000 for the year ended March 31, 1995 from Cdn$1.1 million for the year ended March 31, 1994. The decline of Cdn$409,000 primarily resulted from a reduction in expenses related to the development of an interactive electronic multi-media application and an interactive television trial conducted in 1994, which did not repeat in 1995. Costs of goods declined to Cdn$136,000 for the year ended March 31, 1995 from Cdn$538,000 for the year ended March 31, 1994. The decline of Cdn$402,000 reflected lower hardware and software sales related 22 24 to the development of an interactive electronic multi-media application and an interactive television trial conducted in 1994, which did not repeat in 1995. Operating and administration expenses increased 409 percent to Cdn$2.5 million for the year ended March 31, 1995 from Cdn$500,000 for the year ended March 31, 1994. The increase of Cdn$2.0 million primarily reflected the increase in staffing and services in support of interactive television market trials conducted by IT as well as legal expenses incurred in defending and settling various actions against Cableshare. LIQUIDITY AND CAPITAL RESOURCES Subsequent to the Arrangement, Cableshare expects to finance its operations and capital expenditures with funds provided by Source. See "Management's Discussion and Analysis of Financial Condition and Results of Operations of Source -- Liquidity and Capital Resources." 23 25 BUSINESS OF SOURCE GENERAL Source is a provider of information and services to consumers through the television and telephone. In September 1996, in Colorado Springs, Colorado, Source commercially introduced the Interactive Channel, its on-line television programming service which provides a range of on-demand information and services to consumers utilizing cable television and telephone lines. Source utilizes Cableshare's interactive television system to deliver the Interactive Channel. Source has announced distribution agreements for the Interactive Channel with three cable operators: Marcus Cable Company, L.P., Cablevision Systems Corporation, and Century Communications Corporation. The Interactive Channel offers over 60 interactive programs including on demand local and national news, sports and weather, home shopping with companies such as J.C. Penney, Hallmark Connections and Waldenbooks, interactive Yellow Pages, television and movie guides, travel information and games. Since 1988, Source has been delivering audiotext information to consumers through the touch-tone telephone. Through its On-Line Telephone Business, Source 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. Source's principal On-Line Telephone Business product, called the Network Guide, consists of approximately 800 specific information topics listed in a stand-alone insert generally bound in the front of Yellow Pages directories distributed by certain RBOCs or their affiliates or other Yellow Pages publishers. Source's future performance will depend substantially on its ability to manage change in its businesses and operations, to respond to competitive developments, to upgrade its technologies and programming, to commercialize products and services incorporating such upgraded technologies and programming and to adapt its operational and financial control systems as necessary to respond to continuing changes in its businesses. Source's operations are conducted through its subsidiary, IT. IT was incorporated in Colorado on July 19, 1988 and reincorporated in Texas in 1991. On June 23, 1995, as a result of the Merger, IT merged with a wholly-owned subsidiary of HBAC. In connection with the Merger, HBAC changed its name to Source Media, Inc. Pursuant to the Merger, the outstanding common shares and preferred shares of IT were converted into common shares of Source. Source indirectly owns all of the outstanding voting shares of Cableshare, which owns the patented technology utilized by Source for the Interactive Channel and provides research and development services for Source. Source is a Delaware corporation whose address is 8140 Walnut Hill Lane, Suite 1000, Dallas, Texas 75231, and whose telephone number is (214) 890-9050. THE INTERACTIVE CHANNEL The Interactive Channel is designed to provide a range of on-line information and services to consumers utilizing cable television and telephone lines. Subscribers can use the Interactive Channel's menu-driven navigational system to access desired interactive programming presented in the format of photographic quality, still-frame pictures, text and graphics accompanied by audio. The Interactive Channel allows a subscriber to move from one program of interest to another, obtain the desired information and finalize transactions by responding to audio and video prompts using a television remote control. On-line television and Source's Interactive Channel have only recently been made available to consumers in a single market. While Source has been successful in acquiring subscribers for its service in the first two months of operations in Colorado Springs, there can be no assurance that a market for on-line television will develop or that cable subscribers will use the television as a source of on-line information and services. In addition, the Interactive Channel will be competing with other on-line information and entertainment sources. There can be no assurance that the Interactive Channel will prove sufficiently desirable to cable subscribers to induce them to initially subscribe to and to subsequently continue to subscribe to the Interactive Channel. 24 26 PROGRAMMING Source has independently developed, and has secured from others, programming for the Interactive Channel. Source is continuously developing and obtaining additional programming. Source seeks to offer programming for the Interactive Channel that is useful to consumers and easily presented in a series of photographic quality, still-frame pictures, text and graphics accompanied by audio. The success of the Interactive Channel is and will continue to be highly dependent on the availability of high-quality programming applications that will appeal to cable television subscribers. Source depends on independent programming sources, such as local media, retailers and information service providers, to create, produce and update the programming to be disseminated on the Interactive Channel and to provide such programming at no cost to Source. There can be no assurance that Source will succeed in attracting and retaining such independent programming sources. If independent programming sources do not develop high quality, up-to-date information, shopping, entertainment and other programming applications that are capable of being delivered on the Interactive Channel and that appeal to subscribers, or if such sources are unwilling to provide such applications to Source on terms favorable to Source, Source's business could be materially adversely affected. DISTRIBUTION AND MARKETING OF THE INTERACTIVE CHANNEL In order to offer the Interactive Channel in a particular market, Source must enter into a "carriage" agreement with the cable system operator to obtain a dedicated cable channel. Source currently has carriage agreements with three cable system operators. Following the programming trial of the Interactive Channel in Denton, Texas, Source entered into a three-year carriage agreement with Marcus Cable Company, L.P. (which acquired Sammons Communications and its Denton cable system in late 1995) for access to a channel on the Denton cable system. Deployment of the Interactive Channel on this cable system began in October 1996. Source entered into a carriage agreement with Century Communications Corporation ("Century") in March 1996 providing Century a non-exclusive license to exhibit and distribute the Interactive Channel over Century's cable television systems. The agreement has a five-year term. In September 1996 Source launched the Interactive Channel over Century's Colorado Springs, Colorado cable television system, which serves approximately 100,000 cable television subscribers. Source entered into a carriage agreement with Cablevision Systems Corporation ("Cablevision") in November 1995 which provides Cablevision the right to offer the Interactive Channel over its cable systems. Following successful completion of a 90-day technical trial (which has not yet begun), it is expected that the Interactive Channel would be deployed on Cablevision's Yonkers, New York system or another Cablevision system having at least 40,000 subscribers. The agreement has a five year term but is terminable by Cablevision beginning one year after the initial commercial launch. All of these agreements provide for subscription and other fees to be shared between Source and the cable system operator. There is intense competition among suppliers of programming for access to channels. There can be no assurance that Source will be able to obtain agreements with any other cable system operators providing channel access on terms favorable to Source, if at all, or that the other two cable system operators currently carrying the Interactive Channel will continue to do so. Once the Interactive Channel has been introduced on a cable system, Source intends to campaign for subscribers in that system. Source has established business relationships with local media in order to promote the Interactive Channel in Colorado Springs and Denton. Source expects that the operators of cable systems carrying the Interactive Channel will permit Source to use available promotional airtime to advertise the Interactive Channel. Source has utilized sales campaigns employing direct mail, telemarketing and inserts in monthly billing statements to help build its subscriber base. Source also sponsors presentations at industry trade shows and conferences to enhance industry awareness. Source expects that it will use similar distribution and marketing techniques as it enters other markets. TECHNOLOGY The technology used by the Interactive Channel is designed to deliver still-frame, photographic quality television pictures, text and graphics accompanied by audio to a subscriber's television set almost instantaneously in response to a subscriber's commands. Subscribers select menu options offered on the television using a remote control unit with alphanumeric keys. A cable converter box (appropriately modified by a device known as a side-car box), which is connected to both the television cable and the telephone line, sends control messages initiated by the subscriber over the telephone line to head-end computer equipment located at the 25 27 cable system operator's facility. The head-end computer equipment then interprets the messages, assembles the requested presentations and returns the video image over the television cable line and the audio over the telephone line. Upon receiving the video and audio signals, the converter box combines them and plays the requested presentations on the television set. The transmission and processing time takes less than one second from the time the subscriber presses the remote control key. A limited number of cable systems have been upgraded with two-way cable that would eliminate the need to utilize separate telephone lines. All images to be broadcast on the Interactive Channel, together with their associated audio segments, are digitized and stored in the head-end computer equipment at the cable operator's facility. This computer equipment accesses the compressed digitized picture and sound, decompresses the image and sound and transmits them to the subscriber's television. The images are photographic quality images created from photographs, slides or CD ROMs. The head-end computer equipment is capable of transmitting still-frame images to the subscriber via various distribution media, including coaxial cable, UHF, wireless cable or satellite. EQUIPMENT For Source to deploy the Interactive Channel on a cable system, subscribers in that system must utilize cable converter boxes appropriately modified with the attachment of a side-car box and remote controls with alphanumeric keys. In addition, the cable system operator's local facilities must be equipped with head-end computer equipment to be provided by Cableshare at Source's expense. The further deployment of the Interactive Channel will depend on Source's ability to continue to obtain from manufacturers sufficient quantities of the necessary subscriber equipment and on Cableshare's ability to continue to obtain necessary head-end equipment components from its manufacturing source. The side-car boxes and remote controls operate in conjunction with existing cable converter boxes to permit access to the Interactive Channel. Source intends to provide the side-car boxes and remote controls to subscribers free of charge, except under the Cablevision agreement. Under the Cablevision agreement, Source is obligated to sell, at its cost, to Cablevision the equipment subsystems that allow the Interactive Channel to function. Cablevision in turn will complete manufacture of a side-car box with Cablevision-specific features. The head-end equipment is assembled by Cableshare from components. The key components for the head-end equipment are obtained from a domestic single-source supplier. Although Source has received sufficient amounts of side-car boxes to introduce the Interactive Channel in Colorado Springs and Denton, there can be no assurance that Source will be able to continue to obtain a sufficient quantity of subscriber equipment, or that Cableshare will be able to continue to obtain the components necessary for its head-end equipment, on a timely basis or on commercially reasonable terms. A substantial disruption of the operations of the manufacturers of subscriber equipment or key components for the head-end equipment would have a material adverse effect on Source's operations. Although Source generally has identified alternative manufacturers in order to minimize the time required to re-establish production of subscriber equipment under such circumstances, certain of the key components used in Source's products and in Cableshare's head-end equipment are obtained from a single source. In the event that Cableshare or Source could not obtain needed equipment on a timely basis, Source's business could be materially adversely affected. In addition, because Source's suppliers of subscriber equipment are expected to be foreign manufacturers, Source will be subject to risks related to international regulatory requirements, export restrictions, tariffs and other trade barriers and fluctuations in currency exchange rates. Source believes that new generations of analog and digital cable converter boxes are being developed that will eliminate the need for side-car boxes and the associated costs. Source believes that the design of the new converter boxes will permit these converter boxes to receive the Interactive Channel's programming with only minor modifications, which could include either (i) in the case of analog boxes, inserting a modular component into a port in the converter box or (ii) in the case of digital converter boxes, modifying the software of the converter box. Recently, much attention has been focused on the future replacement of coaxial cable systems with broadband networks utilizing fiber optic cable and advanced communications technologies. Broadband networks would allow the two-way transmission of significantly greater amounts of information than that which can be transmitted over existing one-way cable systems. Broadband networks, when coupled with 26 28 advanced computer storage equipment, would allow the consumer to interact with and obtain on demand full motion video programming. Source believes that substantial costs and current technological limitations have prevented broadband networks from being commercially deployed. For example, current computer memory capacity does not permit the storage of numerous feature length full motion videos for on-demand delivery. To date, cable system operators and other communications companies have only experimented with broadband networks. However, the on-line information and services industry is characterized by rapidly changing technology and evolving industry standards. There can be no assurance that products or technologies developed by others will not render obsolete or otherwise significantly diminish the value of Source's technology or the Interactive Channel. In particular, Source expects that it will compete for subscribers with on-line personal computer services that offer access to the Internet as an alternative to the Interactive Channel. Some of these services allow access to the Internet through the television and are currently available to customers. Source expects that its success will be dependent upon its ability to enhance its products and services and introduce new products and services on a timely basis, which may require Source to obtain rights to additional technologies from other parties. If Source is unable to design, develop and manufacture, or obtain, and introduce such enhancements to its products and services and competitive new products on a timely basis, its business could be materially adversely affected. PROPRIETARY RIGHTS AND INTELLECTUAL PROPERTY Patents. The deployment and operation of the Interactive Channel utilizes technology owned by Cableshare. The technology is the subject of three United States patents issued to Cableshare and expiring in 2005, 2007 and 2008, respectively, and two Canadian patents. The Cableshare patents issued in the United States protect a system for delivering still-frame television images and accompanying audio to television viewers in response to viewer requests. This protection covers multiple transmission media, including UHF, microwave, cable line and satellite. The patents cover technology within such a system that enables different viewers to receive video images over different television channels. In addition, the patents include protection for the implementation of an interactive television system on a cable network. In February 1996, Source executed a Development and Licensing Agreement (the "Licensing Agreement") in which Cableshare granted Source exclusive global rights, subject to certain existing rights, to utilize Cableshare's technology in the deployment and operation of the Interactive Channel. The Licensing Agreement suspended the application of the previous nonexclusive agreement, until the termination or expiration without renewal of the Licensing Agreement, and waived Source's obligation under the previous nonexclusive agreement to reach a certain subscriber level. On October 31, 1996, Source and Cableshare and its affiliates extended the Licensing Agreement that would have expired on December 31, 1996 until March 31, 1997 ("Extension"). The Extension requires Source to pay Cableshare $300,000 per month for ongoing and additional development projects identified by the parties. Pursuant to an agreement entered into in November 1988, Cableshare received a grant from the National Research Council of Canada ("NRC") to develop an on-line television system. Under the terms of this agreement, Cableshare was required to obtain the approval of the NRC in order to license its technology to Source. The approval was expressly conditioned upon such license being a non-exclusive license and further provided the NRC the right to rescind its approval on reasonable cause. The termination of the Cableshare license could have a material adverse effect on Source's ability to develop, deploy and operate the Interactive Channel. The NRC also has the right, if it determines that Cableshare has failed to diligently pursue commercial opportunities for the application of Cableshare's technology, to require Cableshare to grant it a license for reasonable compensation, to the extent necessary to enable the NRC to sublicense to others the use of Cableshare's technology. Source and Cableshare are currently working without the financial support of the NRC to translate the software supporting the Cableshare technology for utilization on a UNIX-based operating system. If successfully developed, Source believes that this software could make the NRC-funded software obsolete and that any licenses of this software would not be subject to the NRC rescission rights. The NRC does not have any rights to the Cableshare patents which are used by Source in connection with the NRC-funded Cableshare technology. No assurance can be given as to when or if such software translation can be completed. 27 29 Source relies on Cableshare for research and development of on-line television services, the assembly of head-end equipment and the development of certain set-top box integrated circuits. Cableshare is currently developing a Windows-based media production workstation that could be used by Source and others to create and edit programming for the Interactive Channel. Source's future success will depend in part on Cableshare's ability to protect and maintain the proprietary nature of its technology. In 1995, GTE sued Cableshare seeking to invalidate Cableshare's United States patents that are licensed to and utilized by Source in connection with the Interactive Channel. Cableshare filed a counter-action against GTE claiming infringement by GTE of Cableshare's patents in connection with GTE's "MainStreet" on-line television channel. In early 1996, Cableshare and GTE settled the litigation. The settlement included an undisclosed fee paid to Cableshare and the grant to GTE of a license to use the Cableshare technology. Any resulting increase in competition as a result of the license could materially adversely affect the business of Cableshare and Source. ON-LINE TELEPHONE BUSINESS Source is a sales agent for and provider of audiotext information over the telephone, which it makes available to consumers without charge through its On-Line Telephone Business. Source provides consumers 24-hour access to its audiotext programming, which consists of approximately 800 regularly-updated information topics, through the use of a Company-developed touch-tone menuing system. This system allows consumers to explore a variety of topics, review selected topics in more detail, switch to new topics and, in certain circumstances, immediately speak with an advertiser or other information provider using a direct-connect feature. Consumers can access Source's audiotext programming by dialing a local telephone number and entering a four-digit code associated with each information topic. These codes are grouped by category and displayed in various print media, such as Yellow Pages and advertisements. During 1995, Source's audiotext programming was accessed through over 75 million information requests from consumers. DISTRIBUTION Source's principal On-Line Telephone Business product, the Network Guide, consists of approximately 800 specific information topics listed in a stand-alone insert generally bound in the front of Yellow Pages directories. The following table provides information as of October 31, 1996 regarding the distribution of a Network Guide produced by Source or a Yellow Pages directory publisher in DMAs through Yellow Pages directories.
PUBLISHER NUMBER OF DMAS NUMBER OF DIRECTORIES ------------------------------- -------------- --------------------- BellSouth...................... 13 20 Donnelley...................... 3 5 DonTech........................ 2 20 Pacific Bell................... 8 39 Southern New England Telephone.................... 1 2 US West........................ 11 16 -- --- Total 38 102 == ===
Source has agreements with six publishers for distribution through Yellow Pages directories in their respective regions of Source's printed menu of information topics. Some of Source's earlier agreements with these and other publishers have expired or been terminated in accordance with their terms. There can be no assurance that Source will be able to obtain agreements with any publishers or to renew existing agreements with publishers on terms as favorable to Source as existing agreements. If the financial terms of any new agreements with publishers allowing for distribution of Source's printed menus were to become more costly to Source than the terms of its existing agreements, the operating losses incurred by the On-Line Telephone Business could increase. In addition, if Source were unable to obtain such an agreement with one of the publishers, the resulting inability of Source to continue to market its On-Line Telephone Business in the Yellow Pages in such publisher's region would have a material adverse effect on Source's financial condition and results of operations. 28 30 MARKETING STRATEGY In those directories in which it provides programming content, in order to promote its On-Line Telephone Business, Source has developed relationships with local television and radio stations. These media sponsors promote Source's On-Line Telephone Business to their audiences and sponsor certain of the information topics in the Network Guide. Source utilizes local radio and television personalities to provide the local news, sports and weather programming on the Network Guide. Consequently, consumers accessing local sports information on the Network Guide hear the voice of a local sportscaster. Currently, all arrangements with media sponsors are nonmonetary, with Source exchanging advertising for production programming and promotion. As of October 31, 1996, Source had media relationships with over 70 radio stations and 17 television stations, including two ABC affiliates, six CBS affiliates, six NBC affiliates and two Fox affiliates in the various markets in which it distributed the Network Guide on such date. Media sponsors may also participate in "custom pages," such as a music page offering information on current musical hits. Source obtains advertising sponsors for certain of the audiotext information it provides through a sales and marketing team that combines local and national sales efforts. Source's sales force is comprised of a Vice President of Sales, regionally-based General Managers and direct sales representatives who are employees of Source serving local markets. Source has created a specialized sales forces for health and legal information and for national advertisers. During 1995, over 70 percent of Source's advertising revenues for the On-Line Telephone Business were generated by sponsorships of health-related and legal-related topics. AUDIOTEXT SERVICES As part of Source's On-Line Telephone Business, Source provides to other parties audiotext services incorporating Source's programming. These parties or Source in turn sell the services, directly or indirectly, to their advertisers. To date, the principal buyers of these audiotext services have been certain of the RBOCs and Yellow Pages directory publishers. Source also provides specialty targeted audiotext services directly to businesses and advertisers. For example, Source has received a contract to provide a service in which consumers call a number and, by entering certain information through their touch-tone telephone, can obtain the product information targeted for independent sales representatives. TECHNOLOGY AND PROGRAMMING Source supports its On-Line Telephone Business through a network that connects individual computer systems in each of the local markets via telephone line or satellite from Source's central administration facility in Dallas, Texas. Multiple phone lines are connected to each system to process local calls. The local satellite dish receives transmissions of Source's programming and automatically relays the information to the local computer system to process the transmitted information. Source pays a monthly fee for satellite uplinking and downlinking services and equipment. Information requiring frequent updates, such as national news, weather and sports, is updated via satellite from Source's headquarters. Source obtains this information from various sources such as United Press International. Source's copywriters prepare written scripts from the information, and the written scripts are then used to produce recordings with mixed background music and voice. Source also edits and produces local advertisers' messages. The finished audio recording is loaded into a central computer system connected to the satellite and transmitted to the individual markets throughout the day, seven days a week. The information is available to callers immediately after it has been updated. A majority of the audiotext information delivered over Source's On-Line Telephone Business is produced at Source's headquarters. Local media personalities are able to update the local programming by using any touch-tone telephone. Local news, weather and sports information typically is provided by a local network television station, and a variety of concert, top ten music lists and event information is provided by local radio stations. PUBLISHER AGREEMENTS Source's historical arrangements with the RBOCs and other Yellow Pages directory publishers have ranged from strategic operating agreements covering multiple directories pursuant to which the publisher and 29 31 Source share revenues generated by the Network Guide to directory-specific contracts in which Source purchases pages from the publisher. The key agreements between Source and the publishers relating to the On-Line Telephone Business are summarized below. BellSouth. Originally, Source distributed the Network Guide in Yellow Pages directories in the BellSouth region pursuant to an agreement that gave the company the right to publish 13 to 15 pages in the front of certain BellSouth Yellow Pages directories in exchange for sharing revenues, net of sales commissions, generated by sales of advertising sponsorships for the Network Guide. In August 1996, Source and BellSouth executed a new agreement with a 5-year term under which Source is the sales agent for all BellSouth audiotext services and provides certain content information and customer services. Source no longer provides operational assistance related to production and transmission of information. Source earns a commission of 38.5 percent on advertising sales in 19 directories, increasing to 50 percent if certain goal levels are reached. Source earns 50 percent on advertising sales in 5 other directories. In addition, Source earns a set fee per advertiser per year for certain customer services performed. During 1995, Network Guide monetary revenues generated from advertisers in the BellSouth region accounted for approximately 24 percent of Source's monetary revenues. Pacific Bell. In the Pacific Bell region, Source's arrangements vary depending on the size of the DMA. In exchange for providing audiotext messages and soliciting advertisers to sponsor the audiotext messages in markets served by Source, Source (i) has agreed to buy 8 to 12 pages in the front of Pacific Bell Yellow Pages directories in the largest DMAs, (ii) receives free pages in smaller DMAs and (iii) receives free pages and a fee for providing the Network Guide in the smallest DMAs. Source currently distributes its Network Guide in the Pacific Bell region pursuant to a December 1992 master agreement that expires on September 1, 1998 unless terminated by Pacific Bell before such date on 30 days' written notice. The agreement with Pacific Bell allows Pacific Bell to obtain audiotext services and distribute audiotext products from other providers but requires Source to obtain Pacific Bell's written consent before Source can distribute the Network Guide in other California Yellow Pages directories. Effective January 1996, Pacific Bell and Source amended the master agreement to reduce by almost half the page costs Source is required to pay and to exclude two small directories. Pacific Bell and Source entered into an agreement in August 1994 pursuant to which Source provides certain audiotext services to Pacific Bell in exchange for a reduced price for distribution of the Network Guide under the December 1992 Pacific Bell agreement. As part of the amendment to the master agreement, Pacific Bell and Source extended through 1998 the arrangement under which Source provides certain audiotext services for ten directories. Network Guide monetary revenues generated from advertisers in the Pacific Bell region accounted for approximately 16 percent of Source's monetary revenues during 1995. USWest. USWest has a license that expires in August 1998 to use Source's audiotext messages in DMAs in which Source acts as a sales agent for USWest. In connection therewith, in July 1995, USWest and Source entered into a sales agency agreement pursuant to which Source acts as a non-exclusive sales agent for soliciting advertisers for the Network Guide in exchange for consideration from USWest consisting of a fixed quarterly payment of $25,000 and a sales commission of 32 or 35 percent of each advertising contract sold by Source, depending on whether the sale was made in a DMA where total sales for the year are equal to or greater than the goal set for the DMA. The term of the USWest agreement runs through the end of USWest's 1996/97 Yellow Pages publication cycle. Monetary revenues generated by Source in the USWest region accounted for 5 percent of Source's monetary revenues during 1995. CANCELED AGREEMENTS Ameritech. Source's agreement with Ameritech Publishing, Inc. ("Ameritech"), which permitted the Network Guide to be included in the front of Ameritech Yellow Pages, was terminated by Ameritech effective as of February 1, 1996. On February 5, 1996, Source initiated litigation against Ameritech in Texas state court, which is ongoing, related to the termination. Network Guide monetary revenues generated from advertisers in the Ameritech region accounted for approximately 21 percent of Source's monetary revenues during 1995. 30 32 DonTech. Source previously published the Network Guide in directories within the DonTech region. DonTech is a joint venture for publication of directories between Ameritech and The Reuben H. Donnelley Corporation. The original agreement for Source to provide Network Guide services expired and was not renewed. Southwestern Bell. In the Southwestern Bell region, Source purchased pages from Southwestern Bell on which to print the Network Guide in exchange for a fee. Source's agreement with Southwestern Bell expired and Source has no further arrangement with Southwestern Bell. In 1995, monetary revenues generated from advertisers in the Southwestern Bell region accounted for approximately 13 percent of Source's monetary revenues. ACQUISITIONS In October 1996, Source acquired certain audiotext servicing assets from Donnelly for an aggregate purchase price of $750,000. In connection with this acquisition, Source executed a services agreement with a three year minimum term. Under the terms of the agreement, Donnelly is obligated to pay Source a minimum of $3.2 million over the term of the agreement and Source has agreed to assume Donnelly's operating responsibilities for its audiotext business. COMPETITION In an industry characterized by extensive capital requirements and rapid technological change, Source faces potential competition for the acceptance of its on-line programming and services from a number of companies, most of which have significantly greater financial, technical, manufacturing and marketing resources than Source and may be in a better position to compete in the industry. In addition, Source faces competition for advertiser revenues from other media, including radio, television, newspapers, and magazines. The Interactive Channel. Source believes that for the foreseeable future public access to on-line television will generally be through cable system operators. Accordingly, Source must compete with other providers of television programming to establish relationships with cable system operators to gain channel access. Source believes that GTE's "MainStreet" system is the only other on-line television navigational system currently being tested in the marketplace with programming that is comparable to the Interactive Channel and that is designed to deliver programming over coaxial cable systems. GTE currently makes the service available in Newton, Massachusetts, Clearwater, Florida and Ventura, California. In early 1996, GTE and Cableshare agreed to a settlement to resolve the litigation with GTE. The settlement involved the granting of a license, for a fee, of the Cableshare patents in connection with the dismissal of the lawsuits. Any resulting increase in competition as a result of the license could materially adversely affect the business of Cableshare and Source. See "Business of Source -- The Interactive Channel -- Proprietary Rights and Intellectual Property." Source is aware of one other commercially available service developed by ACTV, Inc. and delivered over several cable channels that offers view selection and instant replay of television programming. Other cable interactive services developed by Ameritech (tested using Cableshare technology), AT&T and Viacom, Bell Atlantic (tested using Cableshare technology), Sega, Telecable, Time Warner and USWest are not commercially available to the knowledge of Source. Source is also aware of efforts by other companies or consortiums to develop and deliver on-line full motion video programming. Time Warner is presently conducting a 4,000 home trial of its Full Service Network delivered over fiber optic cable in Orlando, Florida. NYNEX, Bell Atlantic and Pacific Telesis have formed a joint venture to offer on-line full motion video programming to homes via telephone lines and to offer interactive services over the World Wide Web. Source is also aware of other companies or products, such as TVOL, StarSight Telecast, Inc., NTN Communications, Inc., WebTV and World Gate that provide or are testing on-line services that would function independently of cable system operations. At least two services, TVOL and WebTV, offer access to the Internet through the television and are currently available to consumers. To the extent one or more competitors is successful in developing an online television service, the business of Source could be materially adversely affected. Source believes that, for the foreseeable future, the public's access to on-line television will generally be achieved through cable system operators. Therefore, 31 33 Source must compete with other potential on-line television service providers, as well as other sources of programming, to establish relationships with cable system operators. In addition, the on-line television industry and the Interactive Channel face competition for consumer usage from personal computer on-line services. Many of those seeking to develop an on-line television service are also seeking to develop, or have shifted their development efforts to, personal computer on-line services, in particular, those offered over the Internet. Thus, Source faces competition in the interactive and on-line services market from companies in both the on-line television and on-line personal computer services industries. On-Line Telephone Business. Source is aware of other companies currently offering some of the information services provided over Source's On-Line Telephone Business. Consumers can call a variety of "900" services for information provided by, among others, Dow Jones & Company, Inc., AT&T, GTE and certain major newspaper publishers. Callers are generally charged for calls to these "900" services. Furthermore, a number of companies, local newspapers or radio stations provide free on-line telephone programming similar to that offered on Source's On-Line Telephone Business. Other companies such as Brite Voice Interactive Communications, Inc., certain of the RBOCs, certain independent directories, a subsidiary of Century Telephone Enterprises, and others have indicated an intent to do so. Brite Voice has taken over services previously provided by Source to BellSouth and Ameritech. These competitors may use Yellow Pages directories, newspapers, mailers or other print media to distribute guides listing their programming services. In addition to these current providers of on-line telephone services, potential competitors include any information service provider, as well as directory publishers. The On-Line Telephone Business also faces competition from personal computer on-line services. EMPLOYEES As of November 15, 1996, Source had a total of 121 full- and part-time employees. None of Source's employees is subject to a collective bargaining agreement. Source has experienced no work stoppages and believes that it has good relations with its employees. REGULATORY MATTERS The telecommunications and cable television industries are subject to extensive regulation by federal, state and local governmental agencies. Existing regulations were substantially affected by the recent passage of Telecommunications Act of 1996 (the "1996 Telecom Act") in February 1996. This legislation will be implemented in administrative proceedings conducted by the Federal Communications Commission ("FCC") and state regulatory agencies. The FCC is expected to promulgate new rules consistent with the general requirements of the 1996 Telecom Act. Most current regulatory and legislative activity addresses how telephone companies and cable television companies may enter new lines of business, the manner in which they can participate in new lines of business and the rates they can charge consumers. Local exchange carriers, including the RBOC's, will be facing more serious competition and will be able to enter new markets. Cable television companies are now also permitted to provide telephone service. The outcome of pending federal and state administrative proceedings may also affect the nature and extent of competition that will be encountered by Source. The on-line information and services industry is evolving and will be affected in the future by laws, regulations and policies adopted at the federal, state and local levels of government. There are many laws, regulations and policies, both existing and proposed, at all levels of government that may impact, in varying degrees, the manner in which Source deploys the Interactive Channel and its On-Line Telephone Business. Neither the outcome of these proposals, nor their impact upon the on-line information and services industry in general or on Source in particular, can be predicted at this time. DESCRIPTION OF PROPERTY Source leases approximately 19,000 square feet of office space at 8140 Walnut Hill Lane, Suite 1000, Dallas, Texas, under a lease expiring in May 1997. Source currently conducts all of its business activities at this location. Source intends to renew this lease. Source has entered into an agreement to lease approximately 11,000 square feet of office space at 5400 LBJ Freeway, Dallas, Texas commencing on or about January 1, 1997. 32 34 Source believes its present facilities and those arranged for are adequate for its currently foreseeable needs. 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 Cableshare Shareholders, commenced a legal proceeding in Ontario, Canada in the Ontario Court (General Division) against Source and certain executive officers of Source and a director of Cableshare on the grounds that the defendants took actions intended to depress the value of Cableshare to allow Source 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 Source 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 Source Common Shares 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 as yet been set. On October 21, 1996, the plaintiffs advised that they intended to move to amend their statement of claim for punitive damages in the amounts of Cdn$1 million against Source and an aggregate of Cdn$2 million against certain officers of Source. A date has not been set for the plaintiffs' motion to amend the statement of claim. On January 25, 1994, Mr. Lerch also commenced a proceeding against Cableshare and several persons who are, or have been, officers and directors of Cableshare claiming wrongful termination of Mr. Lerch's employment with Cableshare and seeking damages in the amount of Cdn$350,000. Cableshare has denied the claim. Cableshare may be obligated to pay up to Cdn$100,000 in costs to defend these persons. The trial of this action began in London, Ontario on April 23, 1996 and was completed May 3, 1996. Judgment was reserved. Little. William T. Little, a stockholder and former director of Source, has represented in letters to Source that a potential lawsuit existed by various convertible noteholders, alleging that they converted their notes based upon misrepresentations by Source. Mr. Little also claims that Source offered to issue to Mr. Little, during the time he was serving as a director of Source, 171,000 Source Common Shares in consideration of his release of any claims related to such alleged misrepresentations. In addition, Mr. Little has claimed that Source agreed to pay him approximately $81,000 relating to the conversion of certain convertible notes held by Mr. Little. Source 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, will reduce Cableshare's investment tax credits by Cdn$1.9 million. Cableshare disputes such assessment. In addition, Revenue Canada has demanded repayment from Cableshare of refundable tax credits paid for the 1988 fiscal year totalling Cdn$315,000. Including accumulated interest of Cdn$425,000, the liability as of March 31, 1996 was Cdn$740,000. Cableshare has appealed the assessment. The appeal, which will be heard by the Tax Court of Canada, is scheduled for a hearing on February 24, 1997. Cableshare has provided for the demanded repayment, including interest, in its consolidated financial statements. Others. Source is aware of certain claims against Source and Cableshare that have not developed into litigation, or if they have, are dormant. Unnamed Cableshare Shareholders 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, Source and Cableshare are parties to ordinary routine litigation incidental to their business, none of which is expected to have a material adverse effect on Source's results of operations or financial condition. 33 35 BUSINESS OF CABLESHARE HISTORY AND INCORPORATION Cableshare has its principal office at 150 Dufferin Avenue, Suite 906, London, Ontario N6A 5N6. It is a reporting issuer in the Provinces of Ontario, British Columbia, Alberta, Saskatchewan and Manitoba. Cableshare was founded on July 13, 1973. BUSINESS During the 1970s, Cableshare provided a computerized, timeshared accounting system for several cable companies including Rogers Communications Inc. In the early 1980s, Cableshare developed a two-way alarm system which was delivered over a cable service in Syracuse, New York. Also in the early 1980s, the Company provided Ford Motor Credit Corporation with a packet-switched network linking its offices across North America. In the late 1980s, Cableshare developed an interactive television system which was used in a trial of a home shopping service by J.C. Penney Company, Inc. to 10,000 homes in Chicago. Over the past ten years, this interactive television system has been improved to include many technological advances. Cableshare's interactive television system is a multi-user, multimedia system designed to deliver pictures, text, graphics and audio on demand to a user's television set through existing coaxial cable television and telephone networks. This system stores the video and audio presentations in a compressed digital form on a computer hard drive. Cableshare's system can be enhanced to deliver full-motion interactive programming when used with broadband digital networks. The modular design of Cableshare's latest generation of technology allows for numerous presentations to be available. Efficiencies derived in the new design have also reduced the access time to approximately one second. The access time is the length of time from the user pressing a button on the remote control until the picture is presented on the television set. Cableshare positions its interactive television technology as a platform for delivering home shopping and information services. More than $35 million has been invested in the development of this technology. Three patents have been issued to Cableshare by the U.S. Patent Office and two patents have been issued under Canadian law covering the delivery of video presentations over cable and broadcast systems. Cableshare derives revenues from license fees, development of technology and technical support for live operations. Cableshare has license agreements with GTE Corporation and IT. Source utilizes Cableshare's interactive television system to deliver the services to cable subscribers through the Interactive Channel. THE INTERACTIVE CHANNEL AND GTE MAINSTREET Cableshare has entered into the Licensing Agreement in which Cableshare granted IT and Source exclusive global rights, subject to certain existing rights, to utilize Cableshare's technology in the deployment and operation of the Interactive Channel. The Licensing Agreement suspends the application of the previous nonexclusive agreement, which would be reinstated upon the termination or expiration without renewal of the Licensing Agreement. Source has paid Cableshare the total $4.75 million due to Cableshare under the Licensing Agreement. In addition, the original license agreement required Source to achieve certain subscriber levels by June 1996 to maintain the Cableshare license in effect. The Licensing Agreement waives the subscriber requirement and addresses the coordination of future research and development efforts. Cableshare has licensed its patent rights to GTE for a fee as part of the settlement of Cableshare's litigation with GTE over patent infringement. DEVELOPMENT OF THE NEW INTERACTIVE TELEVISION SYSTEM Under the Licensing Agreement, Cableshare is developing a new interactive television system based on its patented process for use by the Interactive Channel. The new system is intended to utilize advances in technology, software and computer systems in conjunction with Cableshare's engineering, software development and system integration experience to deliver an interactive television system that is low cost, reliable, easy to maintain and user and application developer friendly. 34 36 Cableshare believes this system will have advantages over the other interactive television and interactive information delivery systems: Speed In response to a subscriber's request, the system will provide high quality television pictures, text and graphics, accompanied by audio, to the subscriber's television set almost instantaneously given anticipated levels of use. Most information delivery systems, including the Internet, require the subscriber to wait several seconds or even minutes before information is delivered. Low Cost While the new system still requires an interactive television terminal in the subscriber's home, Cableshare's engineers have developed technology that has reduced the cost per household of the terminal to less than $200 and are working to reduce the cost even further. Cableshare anticipates the cost of a terminal will be approximately $100 by the middle of 1997. Other information delivery systems require personal computers which cost over $1,000 or digital interactive set-top boxes with costs beginning at $350. User-Friendly The interactive television system is simple to use. By entering numbers on a television remote control in response to easy to understand menus and instructions, the user quickly accesses the desired information. In some other information delivery systems, a user must be proficient with a personal computer. However, several companies have introduced, or are planning to introduce, services that will allow users to access the Internet through the television using a remote control. Utilizes Existing Cable Television Infrastructure Through Cableshare's patented process, the interactive television system works in today's existing cable systems. For most other interactive television and information delivery systems, an expensive upgrade of the cable system to broadband digital systems is required. However, several companies have introduced, or are planning to introduce, services that will allow users to access the Internet through the television using a remote control. Allows for Expanded Features when Digital Cable Systems Become Available Some cable systems are beginning to upgrade to broadband digital infrastructures. As these upgrades occur, Cableshare believes its new interactive television system can be enhanced to allow the same features that other interactive systems provide such as computer animation and full motion video. EMPLOYEES As of November 15, 1996, Cableshare had a total of 41 full- and part-time employees. None of Cableshare's employees is subject to a collective bargaining agreement. Cableshare has experienced no work stoppages and believes that it has good relations with its employees. REGULATORY MATTERS Source and GTE are presently the exclusive marketers of Cableshare's technology in the form of the Interactive Channel. Because the present distribution agreements for the Cableshare technology are for distribution in the United States, and additional distribution arrangements are also anticipated to be for the United States, the regulatory environment in the United States is also applicable to Cableshare. See "Business of Source -- Regulatory Matters." Cableshare has complied with FCC, and the Canadian equivalent, regulations pertaining to the manufacture of the subscriber home terminal. PROPRIETARY RIGHTS AND INTELLECTUAL PROPERTY Patents. The deployment and operation of the Interactive Channel utilizes technology owned by Cableshare. The technology is the subject of three United States patents issued to Cableshare and expiring in 2005, 2007 and 2008, respectively, and two Canadian patents. The Cableshare patents issued in the United States protect a system for delivering still-frame television images and accompanying audio to television 35 37 viewers in response to viewer requests. This protection covers multiple transmission media, including UHF, microwave, cable line and satellite. The patents cover technology within such a system that enables different viewers to receive video images over different television channels. In addition, the patents include protection for the implementation of an interactive television system on a cable network. Pursuant to an agreement entered into in November 1988, Cableshare received a grant from the National Research Council of Canada ("NRC") to develop an on-line television system. Under the terms of this agreement, Cableshare was required to obtain the approval of the NRC in order to license its technology to Source. The approval was expressly conditioned upon such license being a non-exclusive license and further provided the NRC the right to rescind its approval on reasonable cause. The termination of the Cableshare license could have a material adverse effect on Source's ability to develop, deploy and operate the Interactive Channel. The NRC also has the right, if it determines that Cableshare has failed to diligently pursue commercial opportunities for the application of Cableshare's technology, to require Cableshare to grant it a license for reasonable compensation, to the extent necessary to enable the NRC to sublicense to others the use of Cableshare's technology. Source and Cableshare are currently working without the financial support of the NRC to translate the software supporting the Cableshare technology for utilization on a UNIX-based operating system. If successfully developed, Cableshare believes that this software could make the NRC-funded software obsolete and that any licenses of this software would not be subject to the NRC rescission rights. The NRC does not have any rights to the Cableshare patents which are used by Source in connection with the NRC-funded Cableshare technology. No assurance can be given as to when or if such software translation can be completed. Cableshare's primary source of revenues is from the License Agreement. Therefore, Cableshare's ability to develop the new system will be dependent upon the available cash of Source or Cableshare's ability to generate additional sources of revenue. Source's and Cableshare's future success will depend in part on Cableshare's ability to protect and maintain the proprietary nature of its technology. In 1995, GTE sued Cableshare seeking to invalidate Cableshare's United States patents that are licensed to and utilized by Source in connection with the Interactive Channel. Cableshare filed a counter-action against GTE claiming infringement by GTE of Cableshare's patents in connection with GTE's "MainStreet" on-line television channel. In early 1996, Cableshare and GTE settled the litigation. The settlement included an undisclosed fee paid to Cableshare and the grant to GTE of a license to use the Cableshare technology. Any resulting increase in competition as a result of the license could materially adversely affect the business of Cableshare and Source. DESCRIPTION OF PROPERTY Cableshare leases approximately 11,100 square feet of office space at 150 Dufferin Avenue, Suite 906, London, Ontario. Cableshare conducts all of its business from this office space. LEGAL PROCEEDINGS Lerch. In January 1994, Marvin Lerch, the former Chief Executive Officer and a shareholder of Cableshare filed a claim for wrongful termination of Mr. Lerch's employment with Cableshare seeking Cdn$350,000 in damages. Cableshare believes the allegations are without merit and has vigorously defended this suit. The trial of this action began in London, Ontario, on April 23, 1996, and was completed on May 3, 1996. Judgment was reserved. In January 1994 the same person also commenced an action in which several persons are defendants who are, or have been, officers or directors of Cableshare, alleging activities intended to depress the value of Cableshare shares. Cableshare may be obligated to pay up to Cdn$100,000 in costs to defend these persons. Revenue Canada. Revenue Canada, the Canadian taxing authority, sent a notice of reassessment to Cableshare on June 10, 1993 which, if valid, will reduce Cableshare's investment tax credits by Cdn$1.9 million. Cableshare disputes such assessment. In addition, Revenue Canada has demanded repayment from Cableshare of refundable tax credits paid for the 1988 fiscal year totalling Cdn$315,000. Including accumulated interest of Cdn$425,000, the liability as of March 31, 1996 was Cdn$740,000. Cableshare has appealed the assessment. The appeal, which will be heard by the Tax Court of Canada, is scheduled for a hearing on February 24, 1997. Cableshare has provided for the demanded repayment, including interest, in its consolidated financial statements. 36 38 MANAGEMENT OF SOURCE DIRECTORS AND EXECUTIVE OFFICERS The directors and executive officers of Source are as follows:
NAME AGE POSITION WITH SOURCE - ------------------------------------- ---- --------------------------------------------- Chairman of the Board and Chief Executive Timothy P. Peters.................... 39 Officer John J. Reed......................... 39 President and Director W. Scott Bedford..................... 39 Chief Operating Officer and Director Michael G. Pate...................... 40 Chief Financial Officer and Treasurer John F. Baring....................... 49 Director Alan M. Flaherty..................... 56 Director Rhodric C. Hackman................... 49 Director David L. Kuykendall.................. 43 Director Michael J. Marocco................... 38 Director James L. Greenwald................... 70 Director
Mr. Peters has served as President and a director of IT since its inception in 1988 and was elected Chief Executive Officer in December 1992 and Chairman of the Board of IT in August 1994. Mr. Peters has served as Chairman of the Board and a director of Source since June 23, 1995, the effective date of the Merger. In 1986, Mr. Peters founded Information Express, Co., an operator-assisted Yellow Pages company that served the Denver area, where he acted as a Vice President from 1986 to 1988. From 1979 to 1986, Mr. Peters served as Regional Manager for Penn Central Telecommunications Company. Mr. Reed has served as a director of IT since its inception in 1988 and as Executive Vice President of Strategic Development of IT since December 1992. Mr. Reed has served as Executive Vice President and a director of Source since June 23, 1995, the effective date of the Merger and the President of Source since May 22, 1996. From 1990 to December 1992, Mr. Reed served in various positions with IT, including Executive Vice President of Sales and Marketing. Mr. Reed was Chairman of the Board of Cableshare from November 1991 to October 1993. From 1986 to 1989, Mr. Reed was President of Reed & Associates, a Dallas-based real estate brokerage and professional services firm, of which he is the sole shareholder. Mr. Reed has conducted business through this firm from time to time since 1989. Mr. Bedford has served as a director of IT since its inception in 1988 and as Chief Operating Officer of IT since December 1992. Mr. Bedford has served as Chief Operating Officer and a director of Source since June 23, 1995, the effective date of the Merger. From 1988 to December 1992, Mr. Bedford served in various positions with IT, including Executive Vice President, Vice President of Sales and Secretary. Since October 1993, Mr. Bedford has served as Chairman of the Board of Cableshare. Mr. Pate has served as Chief Financial Officer and Treasurer of IT since March 1992. Mr. Pate has served as Chief Financial Officer and Treasurer of Source since June 23, 1995, the effective date of the Merger. From August 1989 to March 1992, he served as Vice President of Finance and Chief Financial Officer of Dallas Semiconductor Corporation. From 1984 to 1989, Mr. Pate held the positions of Assistant Controller and Controller at Dallas Semiconductor Corporation. From 1979 to 1981, Mr. Pate was a Senior Auditor with Ernst & Young LLP. Mr. Pate is a CPA. John F. Baring has been a director of Source since its inception in January 1993. Mr. Baring was a founder of HBAC and served as Chairman of the Board and Secretary of HBAC from January 1993 until June 23, 1995, the effective date of the Merger. Since January 1991, Mr. Baring has been a principal of Hackman, Baring & Co., Incorporated (and its predecessor partnership), a private investment banking firm founded by Messrs. Baring and Hackman focused on the communications industry. From April 1990 to December 1990, Mr. Baring was a consultant to the communications industry. Between April 1989 and March 1990, he was Managing Director, Financial Services, of GPA Group Limited, Shannon, Republic of Ireland, an aircraft leasing firm. From September 1984 to March 1989, Mr. Baring was employed by Kidder, Peabody & Co. Incorporated, where, from September 1987, he served as co-head of the Telecommunications Group. 37 39 Alan M. Flaherty has served as director of IT since August 1994 and as director of Source since June 23, 1995, the effective date of the Merger. Mr. Flaherty has been the president of ComPlan, Incorporated, a media consulting firm since its founding in 1985. He has served as a consultant to the media business, including companies such as TV Guide, the Orange County Register, BellSouth, Pacific Bell Directory, the San Diego Times Union and the San Francisco Newspaper Agency. From 1981 to 1982, he was employed at Golden West Entertainment, as Vice President and General Manager. Prior to 1981, he was employed at Colony Communications, Inc. and the New York Daily News. Rhodric C. Hackman has been a director of Source since its inception in January 1993. Mr. Hackman was a founder of HBAC and served as President and Treasurer of HBAC from January 1993 until June 23, 1995, the effective date of the Merger. Since January 1991, Mr. Hackman has been a principal of Hackman, Baring & Co., Incorporated (and its predecessor partnership). From April 1981 through December 1991, Mr. Hackman was employed by Kidder, Peabody & Co. Incorporated where, from 1984 to 1991, he specialized in the communications industry and, from September 1987 to April 1989, served as co-head of the Telecommunications Group. David L. Kuykendall has served as a director of IT since 1993 and as a director of Source since June 23, 1995, the effective date of the Merger. He has served as Senior Vice President and Chief Financial Officer of Freedom since 1993 and served as its Vice President and Chief Financial Officer from 1990 to 1993 and as its Controller from 1989 to 1990. From 1986 to 1988, Mr. Kuykendall was a Senior Manager with Deloitte & Touche LLP. Michael J. Marocco has served as a director of Source since May 1996. Mr. Marocco is a Managing Director of Sandler Capital Management ("Sandler") and has been associated with Sandler since April 1989. Prior to that, Mr. Marocco was a vice president at Morgan Stanley & Co. Incorporated where he was involved in raising capital and merger and acquisition transactions. Mr. Marocco serves as a director of YES! Entertainment Corp. and Paxson Communications Corp. James L. Greenwald has served as a director of Source since May 1996. Mr. Greenwald has served as chairman emeritus of Katz Media Corporation ("Katz"), a communications representative firm, since August 1995. Mr. Greenwald joined Katz in 1956 and has held various positions, including President of the radio division from 1965 through 1970, Executive Vice President from 1970 through 1975, President from 1975 through 1982 and Chairman of the Board of Directors and Chief Executive Officer from 1975 through 1994. Mr. Greenwald is a director of Granite Broadcasting Company and the Young Adult Institute, an honorary trustee of the Foundation of American Women in Radio and Television and past president of the International Radio and Television Foundation and the Station Representatives Association. Source, Timothy P. Peters, W. Scott Bedford, John J. Reed and Michael G. Pate have entered into an agreement with Freedom whereby they have agreed to use all reasonable efforts to cause an officer or director of Freedom or any of its subsidiaries, as designated by Freedom (presently, David L. Kuykendall) to be nominated and elected to Source's Board. In addition, Freedom was granted the right to have an observer attend meetings of the directors if its designee is unable to attend. The agreement will remain in effect so long as Freedom owns beneficially 325,000 or more Source Common Shares as adjusted for any stock dividends, combinations or splits. COMPENSATION OF DIRECTORS Directors of Source who are not full-time employees are paid a retainer of $2,500 per fiscal quarter and $1,000 for each meeting of the Board of Directors or any committee thereof that they attend (so long as the committee meeting is not on the same day as a Board of Directors meeting), or $500 for each telephone meeting in which they participate. The 1995 Nonqualified Stock Option Plan for Non-Employee Directors (the "Directors' Plan") provides for an automatic annual grant of an option to purchase 3,000 Source Common Shares to each non-employee director. Options will have an exercise price equal to the fair market value of the Source Common Shares on the date of grant and will be exercisable at any time from the date of grant until the fifth anniversary thereof. The Board of Directors has established standing audit, compensation and stock option and nominating committees. The members of the audit committee are Messrs. Hackman and Kuykendall. The members of 38 40 the compensation and stock option are Messrs. Baring and Flaherty. The members of the nominating committee are Messrs. Greenwald, Morocco, Peters and Reed. EXECUTIVE COMPENSATION The following table sets forth certain information with respect to annual compensation paid for the years indicated to Source's Chief Executive Officer and the other executive officers of Source who received compensation in excess of $100,000 (the "Named Officers").
LONG-TERM ANNUAL COMPENSATION COMPENSATION (1) COMMON STOCK ------------------- UNDERLYING ALL OTHER NAME AND PRINCIPAL POSITION YEAR SALARY(2) BONUS OPTIONS COMPENSATION - ------------------------------------ ----- -------- ------- ------------ ------------ Timothy P. Peters................... 1995 $125,000 $56,121 7,554 -- Chairman of the Board and 1994 $125,000 $63,410 -- -- Chief Executive Officer 1993 $125,000 $13,396 2,016 -- John J. Reed........................ 1995 $125,000 $39,854 7,097 -- President 1994 $125,000 $62,097 -- -- 1993 $125,000 $ 6,186 2,016 -- W. Scott Bedford.................... 1995 $125,000 $43,604 7,097 -- Chief Operating Officer 1994 $125,000 $60,063 -- -- 1993 $125,000 $ 7,186 2,016 -- Michael G. Pate..................... 1995 $125,000 $50,007 1,331 -- Chief Financial Officer and 1994 $125,000 $23,832 -- -- Treasurer 1993 $125,000 $10,300 2,016 --
- --------------- (1) Amounts earned in a year but deferred at the election of Source to a subsequent year have been included in the year in which the amounts were paid. Amounts earned under Source's Annual Management Incentive Plan in each year presented are included for the relevant year. All bonus amounts paid in 1994 represent salary deferred in earlier periods. (2) In April, 1996, the annual salaries of Mr. Peters, Mr. Reed, Mr. Bedford and Mr. Pate were increased to $225,000, $210,000, $210,000 and $200,000, respectively. No individual named above received perquisites or non-cash compensation during any of the years indicated exceeding the lesser of $50,000 or an amount equal to 10 percent of such person's annual salary and bonus. 39 41 OPTIONS/SAR GRANTS IN LAST FISCAL YEAR The following table sets forth, with respect to all options granted during Source's 1995 fiscal year to Mr. Peters and Source's executive officers other than Mr. Peters: (i) the number of Source Common Shares covered by such options, (ii) the percent that such options represent of total options granted to all Company employees during the 1995 fiscal year, (iii) the exercise price, (iv) the expiration date, and (v) the potential realized value at the assumed annual rates of stock price appreciation of 5% and 10% compounded over the term of the option. To date, Source has granted no stock appreciation rights ("SARs").
POTENTIAL REALIZED VALUE AT ASSUMED INDIVIDUAL GRANTS ANNUAL RATES OF ------------------------------------------------------------------ STOCK PRICE PERCENT OF TOTAL APPRECIATION FOR NUMBER OF SHARES OPTIONS GRANTED TO EXERCISE OPTION TERMS (2) UNDERLYING OPTIONS EMPLOYEES IN 1995 PRICE PER EXPIRATION ------------------ NAME GRANTED (1) FISCAL YEAR SHARE DATE 5% 10% - ---------------------- ------------------ ------------------ --------- --------- ------- ------- Timothy P. Peters..... 887 0.4% $ 9.77 02/21/05 $ 4,515 $12,329 6,667 3.0% 11.50 10/16/05 22,401 81,137 John J. Reed.......... 430 0.2% 9.77 02/21/05 2,189 5,977 6,667 3.0% 11.50 10/16/05 22,401 81,137 W. Scott Bedford...... 430 0.2% 9.77 02/21/05 2,189 5,977 6,667 3.0% 11.50 10/16/05 22,401 81,137 Michael G. Pate....... 1,331 0.6% 9.77 02/21/05 6,775 18,501
- --------------- (1) All options were granted at fair market value on the date of grant. (2) The assumed 5% and 10% rates of stock price appreciation are specified by the SEC proxy rules and do not reflect expected appreciation. The amounts shown represent the assumed value of the stock options (less exercise price) at the end of the ten-year period beginning on the date of grant and ending on the option expiration date. For a ten-year period beginning December 31, 1995, based on the closing price on the Nasdaq National Market of the Source Common Shares of $9.125 on such date, a Source Common Share would have a value on December 31, 2005 of approximately $14.86 at an assumed appreciation rate of 5% and approximately $23.67 at an assumed appreciation rate of 10%. AGGREGATED OPTION/SAR EXERCISES IN LAST FISCAL YEAR AND FISCAL YEAR END OPTION/SAR VALUES The following table sets forth for Mr. Peters and the executive officers of Source other than Mr. Peters: (i) the number of Source Common Shares acquired upon exercise of options during fiscal year 1995; (ii) the net aggregate dollar value realized upon exercise: (iii) the total number of unexercised options held at the end of fiscal year 1995; and (iv) the aggregate dollar value of in-the-money unexercised options held at the end of fiscal year 1995. To date, Source has issued no SARs.
NUMBER OF SHARES UNDERLYING VALUE OF UNEXERCISED UNEXERCISED OPTIONS IN-THE-MONEY OPTIONS AT DECEMBER 31, 1995 DECEMBER 31, 1995 SHARES ACQUIRED --------------------------- ---------------------------- NAME ON EXERCISE VALUE REALIZED EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE - ----------------------- --------------- -------------- ----------- ------------- ----------- -------------- Timothy P. Peters...... -- -- 2,096 7,474 -- -- John J. Reed........... -- -- 1,639 7,474 -- -- W. Scott Bedford....... -- -- 1,639 7,474 -- -- Michael G. Pate........ 60,468 $326,830 2,540 807 -- --
OPTION AND OTHER BENEFIT PLANS Annual Management Incentive Plan. Source's Annual Management Incentive Plan (the "Incentive Plan") was established in 1992 and substantially amended in 1996. The Compensation Committee of Source believes that linking a substantial portion of executive officer cash compensation to Company operating and financial performance provides a meaningful incentive to such officers to enhance Company performance. Accordingly, an integral part of executive officer cash compensation is the use of cash bonuses under the Incentive Plan. The majority of the bonus payments depends on achievement of corporate and individual 40 42 goals, which are established quarterly to reflect those elements of Company performance that the Compensation Committee deems of special significance in a particular quarter, and the competitive environment in which the Company operates. The remaining portion of the bonus may be paid at the discretion of the Compensation Committee. Effective April 1, 1996, the maximum bonus that Mr. Peters is eligible to receive was set at 50% of his base salary, and the maximum bonus that the Company's other executive officers are eligible to receive was set at 45% of their respective base salaries. 1989 Stock Plan. Source's 1989 Stock Plan (the "1989 Plan") was initially approved by the board of directors and stockholders of Source effective as of October 30, 1989. The 1989 Plan provides for the granting to key employees, including officers and employee directors, of "incentive stock options" within the meaning of Section 422 of the Internal Revenue Code of 1986, as amended, and applicable regulations and rules promulgated thereunder (collectively, the "Code"), and also the granting of "nonqualified stock options" to employees, including officers and employee directors. Options granted under the 1989 Plan are nontransferable and generally may be exercised only while an optionee is employed by Source or within three months of termination. Generally, options vest under the 1989 Plan in three equal annual installments. As of October 31, 1996, there were options outstanding under the 1989 Plan to purchase 17,016 shares of Source Common Shares at a weighted average exercise price of $1.64 per share. Source currently does not intend to grant any additional options pursuant to the 1989 Plan. The 1991 Stock Plan. On December 6, 1991, the board of directors and stockholders of Source adopted the 1991 Stock Plan (the "1991 Plan") covering up to 134,375 Source Common Shares. As of July 1993, the board of directors and stockholders of Source increased the number of shares of Source Common Shares issuable under the 1991 Plan to an aggregate of 201,563 shares, subject to adjustment as provided therein. The 1991 Plan provides for the granting of incentive stock options to employees, including officers or employee directors, as well as nonqualified stock options to consultants. Options granted under the 1991 Plan are nontransferable and generally may only be exercised while the optionee is an employee of Source. Options generally expire 10 years after the date of grant. As of October 31, 1996, there were options outstanding under the 1991 Plan to purchase 57,261 shares of Source Common Shares at a weighted average exercise price of $9.76 per share. Source currently does not intend to grant additional options under the 1991 Plan. The 1993 Stock Plan. Effective as of November 11, 1993, Source's 1993 Stock Plan (the "1993 Plan") was approved by the board of directors and stockholders of Source. Options granted under the 1993 Plan may be either options which qualify for treatment as incentive stock options, or non-qualified stock options. A maximum of 201,563 shares of Common Stock may be issued upon the exercise of options granted under the 1993 Plan. Options granted under the 1993 Plan are nontransferable and generally may only be exercised while the optionee is an employee of Source. Options generally expire 10 years after the date of grant. As of October 31, 1996, there were options outstanding under the 1993 Plan to purchase 87,402 Source Common Shares at a weighted average exercise price of $9.77 per share. Source currently does not intend to grant additional options under the 1993 Plan. Flexible Benefits Plan. Source has a pre-tax premium plan available to all its employees pursuant to which employees are entitled to deduct employee-paid premiums for Source's group life and medical plan from pre-tax salary, subject to any limitations included in the plan. 1995 Performance Equity Plan. On March 11, 1995, the board of directors of Source adopted the 1995 Performance Equity Plan (the "Equity Plan"). The Equity Plan provides for the grant of options to purchase up to 500,000 Source Common Shares to employees, officers, directors and consultants of Source and its subsidiaries. The Equity Plan is intended to assist Source and its subsidiaries in attracting, retaining and motivating employees, officers, directors and consultants of particular merit. Pursuant to the Equity Plan, awards of (i) stock options, (ii) stock appreciation rights, (iii) restricted stock, (iv) deferred stock, (v) stock reload options and/or (vi) other stock-based awards (collectively, "Awards") may be made. The committee administering the Equity Plan may determine the specific type of Awards to be granted (e.g., stock option, restricted stock, etc.), the number of shares subject to each Award, share prices, any restrictions or limitations on such Awards and any vesting, exchange, deferral, surrender, cancellation, acceleration, termination, exercise or forfeiture provisions related to such Awards. 41 43 Any equity security granted pursuant to the Equity Plan must be held for six months from the date of grant or in the case of an option, at least six months must elapse from the date of acquisition of the option to the date of disposition of the option (other than upon exercise or conversion) or its underlying equity security. In the event of a "change of control," as defined in the Equity Plan, any option not then otherwise exercisable will immediately become exercisable in full. Options generally expire 10 years after the date of grant. As of October 31, 1996, there were options outstanding under the Equity Plan to purchase 836,451 Source Common Shares at a weighted average exercise price of $9.51. On October 31, 1996, there were 63,549 Source Common Shares remaining available for future grant under the Equity Plan. Directors' Plan. On September 24, 1995, the board of directors of Source adopted the Directors' Plan, which was approved by Source's stockholders at the 1996 annual meeting. The Directors' Plan provides for the automatic annual grant to each non-employee director of Source of an option to purchase 3,000 Source Common Shares. Options granted under the Directors' Plan have an exercise price equal to the fair market value of the Source Common Shares on the date of grant and will be exercisable at any time from the date of grant until the fifth anniversary thereof. The Directors' Plan provides for the grant of options to purchase up to 150,000 Source Common Shares. As of October 31, 1996, there were options outstanding under the Directors' Plan to purchase 12,000 Source Common Shares at a weighted average exercise price of $10.61 per share. Employee Stock Purchase Plan. In July 1996, the board of directors of Source adopted the Employee Stock Purchase Plan (the "Employee Stock Plan"), subject to approval by Source's stockholders at its 1997 annual meeting. Under the Employee Stock Plan, eligible employees may purchase Source Common Shares at a discount through voluntary monthly payroll deductions, beginning in September 1996. In connection with the Employee Stock Plan, Source has set aside 100,000 Source Common Shares held in treasury. CERTAIN TRANSACTIONS On June 30, 1993, Source loaned $50,000 to an officer, director, and stockholder. This loan is evidenced by a nonrecourse promissory note, as amended, and bears interest at the rate of 10% per annum, with the principal amount and accrued interest due and payable on May 31, 1997. Payment of the note is secured by a pledge of 6,719 Source Common Shares. Amounts outstanding, including accrued interest, are included in stockholders' equity (capital deficiency) in the accompanying consolidated balance sheets. In May 1995, Source loaned $225,000 to an officer and stockholder. Such loan is evidenced by a nonrecourse promissory note bearing interest at the rate of 10% per annum, with principal and accrued interest due May 31, 1997. Payment of the note is secured by a pledge of 24,188 Source Common Shares. During 1996, the officer and stockholder repaid the note and all accrued interest through a surrender of common shares with a fair market value equal to the outstanding note and accrued interest as of the date of repayment. 42 44 PRINCIPAL STOCKHOLDERS OF SOURCE The following table sets forth certain information, as of December , 1996 with respect to the Source Common Shares beneficially owned (i) by each director and each Named Officer, (ii) by the directors and executive officers of Source as a group and (iii) by each person known to Source to be the beneficial owner of more than five percent of the Source Common Shares.
SHARES BENEFICIALLY OWNED -------------------- NAME OF BENEFICIAL OWNER NUMBER PERCENT - ---------------------------------------------------------------------- -------- ------- Directors and Named Officers: Timothy P. Peters (1)................................................. 1,312,626 8140 Walnut Hill Lane, Suite 1000 Dallas, TX 75231 John J. Reed (2)...................................................... 224,045 8140 Walnut Hill Lane, Suite 1000 Dallas, TX 75231 W. Scott Bedford (3).................................................. 470,814 8140 Walnut Hill Lane, Suite 1000 Dallas, TX 75231 Michael G. Pate (4)................................................... 31,645 8140 Walnut Hill Lane, Suite 1000 Dallas, TX 75231 John F. Baring (5)(6)................................................. 107,624 89 June Road North Salem, NY 10560 Alan M. Flaherty (7).................................................. 6,784 8140 Walnut Hill Lane, Suite 1000 Dallas, TX 75231 Rhodric C. Hackman (5)................................................ 107,625 19 Scenery Hill Drive Chatham, NJ 07928 David L. Kuykendall (8)............................................... 644,094 17666 Fitch Irvine, CA 92714 James L. Greenwald (9)................................................ 3,000 8140 Walnut Hill Lane, Suite 1000 Dallas, Texas 75231 Michael J. Marocco (10)............................................... 1,395,366 8140 Walnut Hill Lane, Suite 1000 Dallas, Texas 75231 All directors and executive officers as a group....................... 4,165,060 (ten persons)
43 45
SHARES BENEFICIALLY OWNED -------------------- NAME OF BENEFICIAL OWNER NUMBER PERCENT - ---------------------------------------------------------------------- -------- ------- Beneficial Owners of 5% or More (excluding persons named above): Freedom Communications, Inc. (11)..................................... 638,094 17666 Fitch Irvine, CA 92714 21st Century Communications Partners, L.P. (12)....................... 929,290 767 Fifth Avenue New York, NY 10019
- --------------- * Less than one percent (1) Includes 3,834 Source Common Shares issuable upon exercise of options exercisable within 60 days and 608,635 Source Common Shares owned by certain other stockholders. Mr. Peters has the right to vote the 608,635 Source Common Shares on all matters presented to the stockholders of Source, other than matters with respect to which the stockholders of Source have dissenters' rights, pursuant to a proxy granted to him under the Stock Purchase and Rights Agreement dated September 1, 1994 among Mr. Peters and certain other persons, including 21st Century Communications Partners, L.P., as purchasers, and several stockholders, including Thomas A.N. Miller and Nicholas Csendes, as sellers (the "Stock Purchase and Rights Agreement"). Mr. Peters has the right to purchase 96,776 of the Source Common Shares that he has the right to vote. (2) Includes 3,377 shares of Source Common Shares issuable upon exercise of options exercisable within 60 days and 24,687 Source Common Shares that may be purchased pursuant to the Stock Purchase and Rights Agreement. (3) Includes 3,377 shares of Source Common Shares issuable upon exercise of options exercisable within 60 days. (4) Includes 2,943 shares of Source Common Shares issuable upon exercise of options exercisable within 60 days. (5) Includes (i) 37,500 Source Common Shares held by Hackman, Baring & Co., Incorporated as to which Messrs. Baring and Hackman have shared voting power and investment power, (ii) 25,000 Source Common Shares issuable upon exercise of a warrant granted to Hackman, Baring & Co., Incorporated, (iii) 9,000 Source Common Shares that are subject to an option granted by Hackman, Baring & Co., Incorporated, and (iv) 6,000 Source Common Shares issuable upon exercise of options exercisable within 60 days. (6) Includes 8,333 Source Common Shares owned by a trust established for the benefit of one of Mr. Baring's children. Mr. Baring disclaims beneficial ownership of such shares. (7) Includes 6,000 Source Common Shares issuable upon exercise of options exercisable within 60 days. (8) Includes (i) 638,094 Source Common Shares beneficially owned by Freedom, as to which Mr. Kuykendall, a Senior Vice President and the Chief Financial Officer of Freedom, disclaims beneficial ownership, and (ii) 6,000 Source Common Shares issuable upon exercise of options exercisable within 60 days. (9) Includes 3,000 Source Common Shares issuable upon exercise of options exercisable within 60 days. (10) Includes (i) 9,675 Source Common Shares issuable upon exercise of exercisable warrants and (ii) 3,000 Source Common Shares issuable upon exercise of options exercisable within 60 days that are held by Mr. Marocco individually. Mr. Marocco is a limited partner of 21st Century Communications Partners, L.P., 21st Century Communications T-E Partners, L.P. and 21st Century Communications Foreign Partners, L.P. Accordingly, also includes (iii) 293,341 Source Common Shares and (iv) 635,949 Source Common Shares issuable upon exercise of exercisable warrants held by 21st Century Communications Partners, L.P.; (v) 99,772 shares of Source Common Shares and (vi) 216,374 Source Common Shares issuable upon exercise of exercisable warrants held by 21st Century Communications T-E Partners, L.P., and (vii) 39,527 Source Common Shares and (viii) 85,615 Source Common Shares issuable upon exercise of exercisable warrants held by 21st Century Communications Foreign Partners, L.P.; (11) Includes 638,094 Source Common Shares beneficially owned by Freedom, as to which Mr. Kuykendall, a Senior Vice President and Chief Financial Officer of Freedom, disclaims beneficial ownership. (12) Includes 635,949 Source Common Shares issuable upon exercise of exercisable warrants. See (10) for certain information regarding Michael J. Marocco, a director of Source and limited partner of 21st Century Communications Partners, L.P. 44 46 MANAGEMENT OF CABLESHARE EXECUTIVE OFFICERS AND DIRECTORS The executive officer and directors of Cableshare are as follows:
NAME AGE POSITION --------------------------------------------- --- ------------------------------ Michael Israel............................... President, Chief Executive Officer and Director W. Scott Bedford............................. 39 Chairman of the Board Terrence H. Pocock........................... Director Gerald I. Quinn.............................. Director John W. Craig................................ Director David W. Pady................................ Director
Michael L. Israel has served as President and Chief Executive Officer of Cableshare since December 1993 and has served as President of Cableshare US (Ltd.) since October 1993. In January 1993, Mr. Israel was a founder of Quantum Technologies Inc., a software consulting firm. From 1977 through 1992, Mr. Israel served in various positions with Ameritech. During 1991 through 1992, Mr. Israel served as Director, Business Development at Ameritech where he was responsible for developing new business in the emerging electronic information services industry. W. Scott Bedford has served as Chairman of the Board of Cableshare since October 1993. See "Management of Source -- Executive Officers and Directors" for additional information regarding Mr. Bedford. Gerald I. Quinn has served as a director of Cableshare since 1993. Mr. Quinn is currently the President and Chief Executive Officer of Interpretel, Inc. USA, and President, Chief Executive Officer and a director of its parent company Wavetech, Inc. (ITEL, Nasdaq). Mr. Quinn has been the President of Quinn and Associates since 1993. Prior to 1993, Mr. Quinn was a Vice President of a major Canadian university. He was the founding Director of the Eaton Hall Management Development Centre of Seneca College of Applied Arts and Technology, and has served on the Advisory Board of the Toronto World Trade Centre and as a director of the Guelph Chamber of Commerce. Terrence H. Pocock has served as the Vice Chairman of the Board of Directors of Cableshare since 1992. Mr. Pocock was the founder of Cableshare in 1973, and was one of the inventors of the patents held by Cableshare. Mr. Pocock is currently retired, after having served as the President, Chief Executive Officer, and Chairman of the Board of Cableshare Inc. from 1973 until 1992. John W. Craig has served as a director of Cableshare since 1995 and was recently appointed Secretary of the Company in June 1996. Mr. Craig has been a lawyer in private practice since 1995. From 1975 through 1994, Mr. Craig was a Partner of McMillan Binch. David W. Pady has served as a Director of Cableshare since 1995. Mr. Pady is the President and owner of Chardonnay Consultants Limited and has served in this capacity since 1974. COMPENSATION OF DIRECTORS During 1996, directors of Cableshare who were not full-time employees were paid Cdn$12,000, and directors serving on the Special Committee of the Cableshare Board of Directors were paid an additional Cdn$13,000. In 1996, the Cableshare Board of Directors granted options to its members that were approved by Cableshare's shareholders prior to the Arrangement. In connection with the Arrangement Agreement those options were replaced with options representing the right to acquire Source Common Shares at a weighted average exercise price of $ . In connection with the Arrangement, all options granted to Mr. Bedford were canceled. COMMITTEES OF THE BOARD OF DIRECTORS There are two standing committees of the board of directors. The first is the audit committee which during the fiscal year ended March 31, 1996 consisted of Terrence H. Pocock, Gerald I. Quinn and David W. 45 47 Pady. Following the Cableshare Shareholders Meeting at which the Arrangement was approved, the same board members were appointed to the audit committee. Two of the three committee members are unrelated directors. The committee is responsible for reviewing Cableshare's financial reporting procedures, internal controls and information systems and the performance of Cableshare's external auditors. The other committee is the Special Committee that was appointed to manage the relationship between Cableshare and its principal shareholder, IT. The Special Committee is comprised of David W. Pady, Gerald I. Quinn and John W. Craig, all of whom are unrelated directors with respect to IT and Source. EXECUTIVE OFFICER'S COMPENSATION The following table sets forth certain information with respect to annual compensation for the fiscal years indicated to Cableshare's Chief Executive Officer. Cableshare has no other executive officers.
ANNUAL COMPENSATION NAME AND ------------------------------------ PRINCIPAL POSITION YEAR SALARY BONUS ------------------------------------------------ ---- ----------- ----------- Michael Israel.................................. 1996 Cdn$125,286 Cdn$115,003 President & Chief Executive Officer 1995 Cdn$119,400 Cdn$110,900 1994 Cdn$ 51,650 Cdn$ 44,650
STOCK OPTION INFORMATION No options were granted to Mr. Israel during fiscal 1996. PRINCIPAL STOCKHOLDERS OF CABLESHARE Source, together with its subsidiaries, owns 100% of Cableshare's outstanding voting shares. To the knowledge of the directors and officers of Cableshare, no persons or corporations beneficially owns, directly or indirectly, or exercise control or direction over more than 5% of the outstanding Exchangeable Shares. DESCRIPTION OF CAPITAL STOCK OF SOURCE GENERAL Source is authorized to issue 50,000,000 Source Common Shares, par value $0.001 per share, and 1,000,000 shares of Preferred Stock, par value $0.001 per share. As of December , 1996, there were outstanding Source Common Shares, held of record by stockholders. The Special Voting Share issued pursuant to the Arrangement is the only share of Preferred Stock currently outstanding. In addition, as of such date there were outstanding warrants and options (including replacement options) entitling the holders thereof to purchase an aggregate of Source Common Shares and exchange rights entitling the holder to acquire 206,376 Source Common Shares. SOURCE COMMON SHARES The holders of Source Common Shares are entitled to one vote for each share held of record on all matters to be voted on by stockholders. There is no cumulative voting with respect to the election of directors. The holders of Source Common Shares are entitled to receive dividends when, as and if declared by the board of directors out of funds legally available therefor. In the event of a liquidation, dissolution or winding up of the Source, the holders of Source Common Shares are entitled to share ratably in all assets remaining available for distribution to them after payment of liabilities and after provision has been made for each class of stock, if any, having preference over the Source Common Shares. Holders of Source Common Shares, as such, have no conversion, preemptive or other subscription rights, and there are no redemption provisions applicable to the Source Common Shares. All of the outstanding Source Common Shares are fully paid and nonassessable. PREFERRED STOCK Source's Certificate of Incorporation authorizes the issuance of 1,000,000 shares of preferred stock ("Preferred Stock") with such designations, rights and preferences as may be determined from time to time by the board of directors of Source. Accordingly, the board of directors of Source is empowered, without stockholder approval, to issue Preferred Stock with dividends, liquidation, conversion, voting or other rights 46 48 that could adversely affect the voting power or other rights of the holders of Source Common Shares. The Preferred Stock could be utilized, under certain circumstances, as a method of discouraging, delaying or preventing a change in control or an acquisition of Source. Although Source has no plans or commitments as of the date of this Prospectus to issue any shares of Preferred Stock, there can be no assurance that Source will not do so in the future. Pursuant to the authority granted by Source's Certificate of Incorporation and in connection with the Arrangement, Source's board of directors has created a series of preferred stock. Only one share (the "Special Voting Share") is authorized, and it has been issued to [TRUSTEE] to hold pursuant to the Voting and Exchange Trust Agreement. The holder of the Special Voting Share is entitled to a variable number of votes equal to the number of Exchangeable Shares outstanding from time to time (the "Voting Rights"). WARRANTS Source has outstanding warrants to purchase an aggregate of 4,260,329 Source Common Shares. A brief description of such warrants follows. Public Warrants. A total of 4,653,000 warrants (the "Public Warrants") are currently outstanding, each of which entitles the registered holder to purchase one-half of a Source Common Share (2,326,500 shares in the aggregate) at a price of $11.00 per share, subject to adjustment in certain circumstances, at any time until 5:00 p.m., New York City time, on June 23, 2000, at which time the Public Warrants will expire. Source may call the Public Warrants for redemption, in whole or in part at a price of $0.01 per Public Warrant upon not less than 30 days prior written notice, provided that the last sale price of Source Common Shares has been at least $20.00 ("Public Warrant Redemption Price") for the 20 consecutive trading days ending on the third business day prior to the date on which the notice of redemption is given. The holders of Public Warrants have exercise rights until the close of business on the date fixed for redemption. The holders of Public Warrants do not have the rights or privileges of holders of Source Common Shares prior to the exercise of the Public Warrants. The exercise price, number of Source Common Shares issuable on exercise of the Public Warrants and Public Warrant Redemption Price are subject to adjustment in certain circumstances including in the event of a stock dividend, recapitalization, reorganization, merger or consolidation of Source. The Public Warrants, however, are not subject to adjustment for issuances of Source Common Shares at a price below their exercise price. Source has the right, in its sole discretion, to decrease the exercise price of the Public Warrants for a period of not less than 30 days on not less than 30 days' prior written notice to the warrantholders and to extend the expiration date of the Public Warrants on five business days prior written notice to the warrantholders. The Public Warrants were registered with the Securities and Exchange Commission (the "Commission") under the Securities Act and are currently traded on the OTC. Source is required to file with the Commission a current registration statement covering the shares of Common Stock issuable upon exercise of such Public Warrants and maintain the effectiveness of such registration statement during the period the Public Warrants are exercisable. To date, Source has not filed such a registration statement. The warrants issued to Hackman Baring & Co., Incorporated, entitling Hackman, Baring & Co., Incorporated to purchase 25,000 Source Common Shares, will have the same terms as the Public Warrants, except that they will not be registered with the Commission. See "Certain Transactions." Brenner Warrants. Pursuant to an agreement dated January 19, 1994, HBAC agreed to issue to Brenner Capital Corporation ("Brenner") warrants to purchase 28,302 Source Common Shares exercisable at a price of $10.60 per share (the "Brenner Warrants"). The Brenner Warrants, which were issued on November 4, 1994, are exercisable until June 23, 1998. The Brenner Warrants contain anti-dilution provisions providing for adjustment of the exercise price upon the occurrence of certain events including the issuance of Source Common Shares or other securities convertible into or exercisable for Source Common Shares at a price per share less than the exercise price of the Brenner Warrants, or the market price of the Source Common Shares, or in the event of any recapitalization, reclassification, stock dividend, stock split, stock combination or similar transaction. 47 49 VSD Warrants. Four individuals own warrants to purchase an aggregate of 83,085 Source Common Shares at an exercise price of $10.80 per share, expiring on February 1, 2001. Smith Warrants. The Revocable Trust for Kevin F. Smith, Jr. and James A. Smith, III owns warrants to purchase 10,079 Source Common Shares at an exercise price of $18.60 per share, expiring on February 10, 1998. Hartford and Dublind Warrants. Dublind Partners, Inc., an affiliate of Dublind Securities, Inc., owns warrants to purchase 147,394 Source Common Shares, and Security Insurance Company of Hartford owns warrants to purchase 105,282 Source Common Shares expiring on December 21, 2002. Pursuant to an agreement entered into in September 1995, the exercise price of such warrants is $10.50 per share. Funding Warrants. In May 1995, IT issued warrants to purchase an aggregate of 1,034,687 shares of Common Stock at an exercise price of $7.44, exercisable until May 17, 2000 (the "Funding Warrants"). The holders of the Funding Warrants have demand and "piggyback" registration rights with respect to the securities into which the Funding Warrants are exercisable. Northstar Warrants. On April 3, 1997, pursuant to the Senior Note Agreement, Source issued a warrant entitling the holder thereof to purchase 500,000 Source Common Shares at a purchase price of $10.21 per share. Under the Senior Note Agreement, if certain conditions are met and Source elects to issue the Second Tranche Note, Source will be obligated to issue a second warrant entitling the holder thereof to purchase an additional 500,000 Source Common Shares at a purchase price of $10.21 per share. The warrant contains, and if issued the second warrant will contain, standard anti-dilution provisions. Source also granted demand and "piggyback" registration rights with respect to the Source Common Shares underlying these warrants. CABLESHARE REPLACEMENT OPTIONS Pursuant to the Arrangement Agreement, each of the options for Cableshare Common Shares outstanding at the effective time of the Arrangement was exchanged for an option (a "Replacement Option") to purchase Source Common Shares or, at the election of the holder, Exchangeable Shares. The Replacement Options represent the right to purchase Source Common Shares at a weighted average exercise price of $ per share and Exchangeable Shares at a weighted average exercise price of $ per share. POCOCK EXCHANGE RIGHTS In September 1992, IT issued certain exchange rights (the "Pocock Exchange Rights") to Terrence H. Pocock pursuant to an agreement (the "Pocock Agreement") between Mr. Pocock and IT and a subsidiary of IT ("CanSub"). Under the Pocock Agreement, Mr. Pocock exchanged 1,623,409 of Cableshare's Class A Shares and 843,818 of Cableshare's Class B Shares for 1,535,821 Class Y shares of CanSub (the "Class y Shares"). Mr. Pocock subsequently transferred the Class Y Shares, the Pocock Exchange Rights and certain other rights to his wife. In May 1993, in accordance with the Pocock Agreement, IT loaned Mrs. Pocock $750,000, evidenced by a promissory note due in May 2000, bearing interest at two percent per annum, secured by a pledge of certain of the Class Y Shares and the Pocock Exchange Rights and guaranteed by Mr. Pocock. The Pocock Exchange Rights entitle Mrs. Pocock to exchange the Class Y Shares for 206,376 Source Common Shares of Common Stock, without additional material consideration to Source, at any time through February 28, 2000. TRANSFER AGENT The transfer agent and registrar for the Source Common Shares is ChaseMellon Shareholder Services at its Dallas, Texas offices. The transfer agent and registrar for the Public Warrants is Continental Stock Transfer and Trust Company at its principal office in New York, New York. LIMITATION OF LIABILITY AND INDEMNIFICATION MATTERS The Certificate of Incorporation provides that directors of Source shall not be personally liable to Source or its stockholders for monetary damages for breach of fiduciary duty as a director, except for liability (i) for any breach of the directors' duty of loyalty to Source or its stockholders, (ii) for acts or omissions not in good 48 50 faith or which involve intentional misconduct or a knowing violation of law, (iii) under Section 174 of the Delaware General Corporation Law (the "DGCL") relating to prohibited dividends or distributions or the repurchase or redemption of stock, or (iv) for any transaction from which the director derives an improper personal benefit. If the DGCL is amended to authorize further elimination or limitation of directors' liability, then the liability of directors of Source shall automatically be limited to the fullest extent provided by law. The Bylaws of Source also contain provisions to indemnify the directors, officers, employees or other agents. These provisions may have the practical effect in certain cases of eliminating the ability of stockholders to collect monetary damages from directors. PROVISIONS WITH POSSIBLE ANTI-TAKEOVER EFFECTS Provisions of the DGCL prohibit "business combinations" between Source and certain stockholders unless the established requirements are met. Consequently, the business combination provisions of the DGCL may have the effect of deterring merger proposals, tender offers or other attempts to effect changes in control of Source that are not negotiated with and approved by the Board of Directors. Additionally, the following provisions of Source's Certificate of Incorporation and Bylaws may be considered to have anti-takeover implications: (a) the ability of the board to increase the number of directors and fill (but only until the next annual meeting of stockholders) the vacancies resulting from such increase; and (b) the ability of the board of directors to establish the rights of, and to issue, substantial amounts of preferred stock without the need for stockholder approval which preferred stock, among other things, may be used to create voting impediments with respect to changes in control of the Company or to dilute the stock ownership of holders of shares of Common Stock seeking to obtain control of the Company. REGISTRATION RIGHTS Various stockholders of Source have certain demand and "piggyback" registration rights with respect to a total of 1,910,182 Source Common Shares. In addition, Source has granted demand and "piggyback" registration rights to the holders of warrants and the Pocock Exchange Rights with respect to the 1,933,830 Source Common Shares underlying such warrants and the 206,376 Source Common Shares underlying the Pocock Exchange rights. DESCRIPTION OF CAPITAL STOCK OF CABLESHARE AUTHORIZED SHARE CAPITAL Cableshare is authorized to issue an unlimited number of common shares, an unlimited number of preference shares and an unlimited number of Exchangeable Shares. As of December , 1996, common shares were outstanding, all of which are held by Source and its subsidiaries, no preference shares were outstanding and Exchangeable Shares were outstanding, held of record by holders. COMMON SHARES VOTING RIGHTS. The holders of common shares are entitled to receive notice of and to attend all meetings of the shareholders of Cableshare and have one vote for each common share held at all meetings of the shareholders of Cableshare, except for meetings at which only holders of another specified class or series of shares of Cableshare are entitled to vote separately as a class or series. DIVIDENDS. Subject to the prior rights of the holders of any shares ranking senior to the common shares with respect to priority in the payment of dividends, the holders of common shares are entitled to receive dividends and Cableshare may pay dividends thereon, as and when declared by the board of directors of Cableshare, out of monies properly applicable to the payment of dividends, in such amount and in such form as the board of directors may from time to time determine. All dividends which the board of directors may declare on the common shares shall be declared and paid in equal amounts per share on all common shares at the time outstanding. 49 51 DISSOLUTION. In the event of the dissolution, liquidation or winding up of Cableshare, whether voluntary or involuntary, or any other distribution of assets of Cableshare among its shareholders for the purpose of winding up its affairs, subject to the prior rights of the holders of the Exchangeable Shares and to any other shares ranking senior to the common shares with respect to priority in the distribution of assets upon dissolution, liquidation or winding up, holders of common shares are entitled to receive the remaining property and assets of Cableshare rateably in accordance with the number of common shares held. PREFERENCE SHARES Cableshare may issue an unlimited number of preference shares without par value. Currently, the Class A Preference Shares is the only class of preference shares that has been created. CLASS A PREFERENCE SHARES. The Cableshare Board of Directors is authorized to issue Class A Preference Shares from time to time in one or more series, with such designation, rights, privileges, and conditions as may be determined by such board of directors, subject to the restrictions set forth below. The Class A Preference Shares shall have only those voting rights as are required by applicable law. Upon the liquidation, dissolution or winding up of Cableshare, the Class A Preference Shares rank senior to the common shares. EXCHANGEABLE SHARES VOTING RIGHTS. The Exchangeable Shares are non-voting, except in circumstances required by applicable law. DIVIDENDS. The Exchangeable Shares rank prior to the common shares and shares of any other class ranking junior to the Exchangeable Shares with respect to the payment of dividends. Each Exchangeable Share entitles the holder thereof to dividends from Cableshare payable at the same time as, and in the Canadian dollar equivalent of, each dividend paid by Source on each Source Common Share. DISSOLUTION. The Exchangeable Shares rank prior to the common shares and shares of any other class ranking junior to the Exchangeable Shares with respect to the distribution of assets in the event of a liquidation, dissolution or winding up of Cableshare. Subject to the overriding call right of Source referred to under "Plan of Distribution," upon the liquidation, dissolution or winding up of Cableshare, a holder of Exchangeable Shares will be entitled to receive for each such share an amount equal to the market price of one Source Common Share, which will be satisfied by the delivery of one Source Common Share, together with an additional amount equivalent to the full amount of all declared and unpaid dividends on each Exchangeable Share. The purchase price per Exchangeable Share payable by Source upon the exercise by it of the Liquidation Call Right is the same as the liquidation entitlement relating to an Exchangeable Share. RETRACTION AND EXCHANGE RIGHTS. The Exchangeable Shares are exchangeable for Source Common Shares at the option of the holder at any time, through a retraction provision attached to the Exchangeable Shares. Subject to the overriding call right of Source referred to under "Plan of Distribution," upon retraction the holder is entitled to receive from Cableshare for each Exchangeable Share retracted an amount equal to the market price of one Source Common Share, which amount will be satisfied by the delivery by or on behalf of Cableshare of one Source Common Share, plus an additional amount equivalent to the full amount of declared and unpaid dividends on each Exchangeable Share retracted. The purchase price per Exchangeable Share payable by Source upon the exercise by it of the Retraction Call Right is the same as the retraction entitlement relating to an Exchangeable Share. AUTOMATIC REDEMPTION. Subject to the overriding call right of Source referred to under "Plan of Distribution," Cableshare will redeem all of the Exchangeable Shares then outstanding on the fifth anniversary of the Effective Date (the "Automatic Redemption Date"); provided, that the board of directors of Cableshare may delay indefinitely the Automatic Redemption Date and may accelerate the Automatic Redemption Date at any time when there remain fewer than 350,000 Exchangeable Shares outstanding (other than those held by Source and its subsidiaries, and as such number may be adjusted by the board of directors of Cableshare to give effect to any subdivision or consolidation of or other changes to the Source Common Shares). Upon a redemption by Cableshare on the Automatic Redemption Date, each holder of Exchangeable 50 52 Shares will be entitled to receive from Cableshare for each Exchangeable Share redeemed an amount equal to the market price of one Source Common Share, which amount will be satisfied by the delivery on behalf of Cableshare of one Source Common Share, plus an additional amount equivalent to the full amount of all declared and unpaid dividends on each Exchangeable Share to the Automatic Redemption Date. The purchase price per Exchangeable Share payable by Source upon the exercise by it of the Redemption Call Right is the same as the automatic redemption entitlement relating to an Exchangeable Share. INCOME TAX CONSIDERATIONS UNITED STATES FEDERAL INCOME TAX CONSIDERATIONS FOR CABLESHARE SHAREHOLDERS In the opinion of Thompson & Knight, P.C., United States counsel to Source and special United States tax counsel to Cableshare ("U.S. counsel"), the following summarizes the material U.S. federal income tax considerations arising from and relating to the ownership of Exchangeable Shares and the receipt and ownership of Source Common Shares, that are generally applicable to holders of Exchangeable Shares that are U.S. citizens or residents, domestic corporations, domestic partnerships, and estates or trusts subject to U.S. federal income tax on their income regardless of source ("U.S. Holders") and to certain holders of Exchangeable Shares that are not U.S. Holders ("non-U.S. Holders"). This summary is intended for general information only. It does not discuss all aspects of U.S. federal income taxation that may be relevant to a particular U.S. Holder (including, without limitation, potential application of the alternative minimum tax), to a particular non-U.S. Holder, or to certain types of investors subject to special treatment under the U.S. federal income tax laws (for example, banks, life insurance companies, tax-exempt organizations, broker-dealers or U.S. Holders who received their Cableshare Common Shares or Exchangeable Shares as compensation), nor does it discuss any aspect of state, local or foreign tax laws. This summary is based on U.S. laws, regulations, rulings and decisions currently in effect, all of which are subject to change, possibly with retroactive effect. In addition, U.S. Holders and non-U.S. Holders (collectively "Holders") should note that there is no statutory, judicial or administrative authority that directly addresses certain of the U.S. federal income tax consequences of the issuance and ownership of instruments and rights comparable to the Exchangeable Shares, the Voting Rights, the Trustee Exchange Rights and the Call Rights. Consequently (as discussed more fully below), the U.S. federal income tax treatment of the ownership and disposition of Exchangeable Shares, is uncertain. No advance income tax ruling has been sought or obtained from the U.S. Internal Revenue Service ("IRS") regarding the tax consequences of any of the transactions described herein. Accordingly, it is possible that the U.S. federal income tax consequences of the ownership and disposition of the Exchangeable Shares may differ from those described below. Certain of the discussions herein provide that a Holder has a "reasonable basis" for taking a position on its U.S. tax return ("Reasonable Basis"). A Reasonable Basis exists when a return position has a realistic possibility of being sustained on the merits (that is, generally, the return position has approximately a one-in-three, or greater, likelihood of being sustained on its merits). As to discussions of Reasonable Basis herein, U.S. counsel has expressed no opinion as to whether (a) the position is more likely than not to be sustained on the merits, or (b) there is substantial authority for such position as defined in section 6662 of the Internal Revenue Code of 1986, as amended (the "Code"). Holders taking such positions are urged to consult their tax advisors regarding the possible application of penalties, as discussed in more detail below. HOLDERS ARE URGED TO CONSULT THEIR TAX ADVISORS WITH RESPECT TO THE U.S. FEDERAL, STATE, AND LOCAL TAX CONSEQUENCES AND THE FOREIGN TAX CONSEQUENCES OF THE RECEIPT AND OWNERSHIP OF EXCHANGEABLE SHARES, VOTING RIGHTS, TRUSTEE EXCHANGE RIGHTS OR SOURCE COMMON SHARES. TAXATION OF U.S. HOLDERS The following summary is limited to U.S. Holders (i) who hold Exchangeable Shares as "capital assets" within the meaning of section 1221 of the Code, (ii) who will hold Source Common Shares as "capital 51 53 assets," (iii) who do not actually or constructively own (and have not at any time in the preceding five-year period actually or constructively owned) 10% or more of the voting stock of Cableshare or Source, as the case may be, (iv) whose ownership, receipt and disposition of Exchangeable Shares and Source Common Shares is not attributable to a permanent establishment in Canada, and (v) in the case of individuals, who are not residents of Canada for purposes of Canadian tax law. Exchange, Retraction or Redemption of Exchangeable Shares. Although the matter is not free from doubt, Cableshare and Source have been advised that there is a Reasonable Basis on which to conclude that the exchange, retraction, or redemption of the Exchangeable Shares for Source Common Shares will be treated as a taxable event for U.S. federal income tax purposes. If the exchange is a taxable event, and the U.S. Holder receives Source Common Shares from Source pursuant to the Call Rights: (1) a U.S. Holder generally would recognize gain or loss equal to the difference between the fair market value of the Source Common Shares at the time of the exchange (together with cash equal to the full amount of all declared but unpaid dividends on the Exchangeable Shares (if any) and cash in lieu of fractional shares (if any)) and the U.S. Holder's tax basis in the Exchangeable Shares; (2) such gain or loss would generally be capital gain or loss, except that a holder may recognize amounts attributable to any declared but unpaid dividends on the Exchangeable Shares as ordinary income which may be treated as U.S. source income; (3) any capital gain or loss would be long-term capital gain or loss if the Exchangeable Shares (together with the pre-conversion Cableshare Common Shares) have been held for more than one year at the time of the exchange and otherwise would be short-term capital gain or loss; (4) the U.S. Holder would take as its tax basis in the Source Common Shares the fair market value of the Source Common Shares at the time of the exchange; (5) the holding period of the Source Common Shares received by the U.S. Holder in the exchange would begin on the day after the U.S. Holder receives the Source Common Shares; and (6) gain recognized on the exchange of Exchangeable Shares for Source Common Shares generally will be treated as U.S. source gain. If the receipt of Source Common Shares is effected through a retraction or redemption of Exchangeable Shares with respect to which Source does not exercise its overriding Call Right, and thus, the Source Common Shares are distributed to a U.S. Holder directly by Cableshare, then, if the retraction or redemption is treated as a taxable transaction, it will be treated as a taxable exchange of the Exchangeable Shares (treated for U.S. federal income tax purposes as described above) if the retraction or redemption (i) results in a "complete termination" of the U.S. Holder's stock interest in Cableshare under section 302(b)(3) of the Code, (ii) is "substantially disproportionate" with respect to the U.S. Holder under section 302(b)(2) of the Code, or (iii) is "not essentially equivalent to a dividend" with respect to the U.S. Holder under section 302(b)(1) of the Code. In determining whether any of these tests has been met, shares of stock considered to be owned by the U.S. Holder by reason of certain constructive ownership rules set forth in section 318 of the Code, as well as shares actually owned, generally must be taken into account. If a retraction or a redemption is treated as a taxable transaction but does not meet any of the tests described above, the cash and the fair market value of the Source Common Shares received by the U.S. Holder would generally be taxed as a dividend paid on the Exchangeable Share to the extent of Cableshare's (or, possibly, Source's) earnings and profits. See "Distributions on the Exchangeable Shares", below. A significant risk exists, however, that the exchange, retraction, or redemption of Exchangeable Shares for Source Common Shares would be held to constitute a nonrecognition event. In such case: (1) a U.S. Holder that exchanges its Exchangeable Shares for Source Common Shares generally would not recognize gain or loss on the receipt of the Source Common Shares; 52 54 (2) a U.S. Holder would, however, be required to recognize gain to the extent the receipt of cash in lieu of fractional shares (if any) exceeds the tax basis allocable thereto and income (which may be ordinary income) to the extent of cash equal to the full amount of declared but unpaid dividends on the Exchangeable Shares (if any); (3) the tax basis of the Source Common Shares would be equal to the tax basis of the Exchangeable Shares exchanged therefor (reduced by the tax basis allocated to fractional share interests); and (4) the holding period of the Source Common Shares would include the holding period of Exchangeable Shares exchanged therefor. Irrespective of how the retraction or redemption is treated for U.S. federal income tax purposes, it may be subject to Canadian withholding tax. See "Canadian Federal Income Tax Considerations for Cableshare Shareholders -- Taxation of Cableshare Shareholders Not Resident in Canada". Subject to certain limitations of U.S. federal income tax law, a U.S. Holder should generally be entitled to either a credit against such holder's U.S. federal income tax liability or a deduction in computing U.S. taxable income for such Canadian income taxes that are withheld with respect to the retraction or redemption of the Exchangeable Shares. Distributions on the Exchangeable Shares. Cableshare understands that currently Source does not anticipate paying dividends prior to the Automatic Redemption Date and is currently restricted from paying dividends under the terms of the Senior Note Agreement, and thus, no dividends would be payable with respect to the Exchangeable Shares. If any such dividends were paid, however, a U.S. Holder of Exchangeable Shares generally would be required to include such dividends in gross income as ordinary income to the extent they were paid out of the earnings and profits of Cableshare, as determined under U.S. federal income tax principles. Although the matter is not free from doubt, there is a Reasonable Basis to conclude that such dividends will be treated as non-U.S. source passive income for foreign tax credit limitation purposes and will not be eligible for the dividends received deduction allowed to corporation shareholders under the Code. It is possible that Source's, rather than Cableshare's, earnings and profits would be taken into account in the foregoing calculation. In that event, such dividends generally would be treated as U.S. source income. Irrespective of any position that the IRS may take, under the current Canada-United States Income Tax Convention, such distributions generally will be subject to Canadian withholding tax at a maximum rate of 15% of the gross amount of the distribution. See "Canadian Federal Income Tax Considerations for Cableshare Shareholders -- Taxation of Cableshare Shareholders Not Resident in Canada", below. Subject to certain limitations of U.S. federal income tax law, a U.S. Holder should generally be entitled to either a credit against such holder's U.S. federal income tax liability or a deduction in computing U.S. taxable income for Canadian income taxes withheld from distributions with respect to the Exchangeable Shares. Passive Foreign Investment Company Considerations. For U.S. federal income tax purposes, Cableshare generally will be classified as a passive foreign investment company (a "PFIC") for any taxable year during which either (i) 75% or more of its gross income is passive income (as defined for U.S. federal income tax purposes) or (ii) on average for such taxable year, 50% or more of its assets (by value) produce or are held for the production of passive income. For purposes of applying the foregoing tests, all or some of the assets and gross income of Cableshare's subsidiaries, if any, will be attributed to Cableshare. While there can be no assurance with respect to the classification of Cableshare as a PFIC, Cableshare believes that it did not constitute a PFIC during its taxable years ending prior to consummation of the Arrangement. Currently, Cableshare and Source intend to endeavor to cause Cableshare to avoid PFIC status in the future, although there can be no assurance that they will be able to do so or that their intent will not change. Moreover, in connection with the transactions contemplated herein, U.S. counsel will not be rendering an opinion with regard to Cableshare's status as a PFIC. After the Arrangement, Cableshare intends to monitor its status regularly, and following the end of each taxable year Cableshare will promptly notify U.S. Holders of Exchangeable Shares if it believes that Cableshare was a PFIC for that taxable year. 53 55 Although the matter is not free from doubt, if Cableshare is a PFIC following the Arrangement during a U.S. Holder's holding period for such holder's Exchangeable Shares, and the U.S. Holder does not make a qualified electing fund election (a "QEF Election"), then (i) the U.S. Holder would be required to allocate income recognized upon receiving certain excess dividends with respect to, and gain recognized upon the disposition of, such U.S. Holder's Exchangeable Shares (including upon the exchange of Exchangeable Shares for Source Common Shares) ratably over the U.S. Holder's holding period for such Exchangeable Shares, (ii) the amount allocated to each year other than (x) the year of the excess dividend payment or disposition of the Exchangeable Shares or (y) any year prior to the beginning of the first taxable year of Cableshare for which it was a PFIC, would be subject to tax at the highest rate applicable to individuals or corporations, as the case may be, for the taxable year to which such income is allocated, and an interest charge would be imposed upon the resulting tax attributable to each such year (which charge would accrue from the due date of the return for the taxable year to which such tax was allocated), and (iii) gain recognized upon the disposition of the Exchangeable Shares would be taxable as ordinary income. If a U.S. Holder makes a QEF Election, then the U.S. Holder generally will be currently taxable on such holder's pro rata share of Cableshare's ordinary earnings and net capital gains (at ordinary income and capital gains rates, respectively) for each taxable year of Cableshare in which Cableshare is classified as a PFIC, even if no dividend distributions are received by such U.S. Holder unless such U.S. Holder makes an election to defer such taxes. If Cableshare believes that it was a PFIC for a taxable year, it will provide U.S. Holders of Exchangeable Shares with information sufficient to allow such holders to make a QEF Election and report and pay any current or deferred taxes due with respect to their pro rata shares of Cableshare's ordinary earnings and profits and net capital gains for such taxable year. U.S. Holders should consult their tax advisors concerning the merits and mechanics of making a QEF Election and other relevant tax considerations if Cableshare is a PFIC for any taxable year. The foregoing summary of the possible application of the PFIC rules to Cableshare and the U.S. Holders of Exchangeable Shares is only a summary of certain material aspects of those rules. Because the U.S. federal tax consequences to a U.S. Holder of Exchangeable Shares under the PFIC provisions are significant, U.S. Holders of Exchangeable Shares are urged to discuss those consequences with their tax advisors. Shareholders Not Resident in or Citizens of the United States. The following summary is applicable to a non-U.S. Holder that holds or will hold, actually or constructively, less than 5% of the stock (by vote or value) of Cableshare or Source. A non-U.S. Holder generally will not be subject to U.S. federal income tax on gain (if any) recognized on the sale or exchange of the Exchangeable Shares, or on the receipt or sale of the Source Common Shares unless such gain is effectively connected with the conduct by the non-U.S. Holder of a U.S. trade or business or, if a tax treaty applies, if the gain is attributable to a U.S. permanent establishment of the non-U.S. Holder or, in the case of a gain recognized by an individual, such person is either (a) considered to be a U.S. resident during the taxable year for U.S. federal income tax purposes or pursuant to an applicable tax treaty, or (b) unless an applicable tax treaty provides otherwise, present in the United States for 183 days or more (the "presence test"). Gain or loss on the sale, transfer or other disposition by a non-U.S. Holder of a "United States real property interest" (as defined for U.S. federal income tax purposes) generally is treated as effectively connected with a U.S. trade or business, is subject to U.S. federal income tax and may be subject to withholding. Cableshare and Source each believes that it is not a "United States real property holding corporation" (as defined for U.S. federal income tax purposes) and that the Exchangeable Shares did not represent United States real property interests as of the date of the exchange pursuant to the Arrangement. Cableshare and Source intend to endeavor to prevent the Exchangeable Shares from becoming United States real property interests, although there can be no assurance that they will be able to do so or that their intent will not change. If gain recognized by a non-U.S. Holder on the sale or exchange of Exchangeable Shares, or on the receipt or sale of the Source Common Shares, is effectively connected with a U.S. trade or business or is attributable to a permanent establishment in the United States, then the non-U.S. Holder would be subject to 54 56 U.S. federal income tax at the graduated rates that are applicable to U.S. citizens, resident aliens or domestic corporations, as applicable, and may be subject to withholding in certain circumstances. If gain recognized by a non-U.S. Holder on the sale or exchange of Exchangeable Shares, or on the receipt or sale of the Source Common Shares, is subject to U.S. tax on the basis of the presence test, then the non-U.S. Holder generally would be subject to U.S. federal income tax on the capital gain at the rate of 30% or lower applicable income tax treaty rate, and may be subject to withholding in certain circumstances. Non-U.S. Holders may be entitled to a limited foreign tax credit on non-U.S. source income that is effectively connected with a U.S. trade or business. In addition, if the non-U.S. Holder is a corporation, the U.S. branch profits tax also may apply. Source does not anticipate paying dividends prior to the Automatic Redemption Date and is currently restricted from paying dividends under the terms of the Senior Note Agreement, and thus, no dividends would be payable with respect to the Exchangeable Shares. Although the matter is not free from doubt, there is a Reasonable Basis to conclude that any dividends received by a non-U.S. Holder with respect to the Exchangeable Shares would not be subject to U.S. withholding tax, and Cableshare understands that it is not anticipated that Cableshare or Source would withhold any amounts in respect of such tax from such dividends. The possibility exists, however, that the IRS may assert that U.S. withholding tax is payable with respect to dividends paid on the Exchangeable Shares to non-U.S. Holders. In such case, dividends with respect to the Exchangeable Shares could be subject to U.S. withholding tax at a rate of 30%, which rate may be reduced by an applicable income tax treaty in effect between the United States and the non-U.S. Holder's country of residence (15% on dividends paid to residents of Canada). Dividends paid to a non-U.S. Holder that are effectively connected with the conduct of a trade or business in the United States are taxed at the graduated rates that are applicable to U.S. citizens, resident aliens, and domestic corporations, and are not subject to U.S. withholding tax if the non-U.S. Holder gives an appropriate statement to the withholding agent in advance of the dividend payment. Under certain circumstances, such effectively connected dividends also may be subject to an additional branch profits tax if the non-U.S. Holder is a corporation. Generally, dividends received by a non-U.S. Holder with respect to the Source Common Shares will be subject to U.S. withholding tax at a rate of 30%, which rate may be subject to reduction by an applicable income tax treaty (15% on dividends paid to residents of Canada). If the dividends are effectively connected with the conduct of a U.S. trade or business, they would be taxed at the graduated rates that are applicable to U.S. citizens, resident aliens, and domestic corporations and would not be subject to U.S. withholding tax if the non-U.S. Holder gives an appropriate statement to the withholding agent in advance of the dividend payment. A non-U.S. Holder that is a corporation may be subject to an additional branch profits tax on effectively connected dividends. The Source Common Shares (and, possibly, the Exchangeable Shares or a portion thereof) will be deemed to be U.S. situs assets for purposes of the U.S. federal estate tax with the result that any such shares held by an individual non-U.S. Holder at the time of his or her death will be subject to the U.S. federal estate tax, except as may otherwise be provided by an applicable tax treaty with the United States. INFORMATION REPORTING AND BACKUP WITHHOLDING Under the U.S. backup withholding provisions of the Code and applicable U.S. Treasury regulations, a Holder may be subject to backup withholding at the rate of 31% with respect to dividends on Exchangeable Shares or Source Common Shares, or the proceeds of a sale, exchange, retraction or redemption of Exchangeable Shares or Source Common Shares, unless such holder (i) is a corporation or comes within certain other exempt categories and, when required, demonstrates this fact, or (ii) provides a taxpayer identification number, certifies as to no loss of exemption from backup withholding and otherwise complies with applicable requirements of the backup withholding rules. Generally, dividends paid to non-U.S. Holders that are subject to the 30% (or reduced treaty) rate of U.S. withholding tax will be exempt from U.S. backup withholding. The amount of any U.S. backup withholding from a payment to a Holder is not an additional tax and may be allowed as a credit against the Holder's U.S. federal income tax liability and may entitle such Holder to a refund, provided that the required information is furnished to the IRS. 55 57 SUBSTANTIAL UNDERSTATEMENT PENALTY Section 6662 of the Code imposes a penalty in certain circumstances for a substantial understatement of taxes if a taxpayer's tax liability is understated on a U.S. tax return by more than the greater of (i) 10% of the taxes required to be shown on the return or (ii) $5,000 ($10,000 for most corporations). The penalty (which is not deductible) is 20% of the understatement. An item of understatement will not give rise to the penalty if: (i) there is or was "substantial authority" for the taxpayer's treatment of the item or (ii) all the facts relevant to the tax treatment of the item are adequately disclosed on the return or on a statement attached to the return and there is a reasonable basis for the tax treatment of such item. As to discussions of Reasonable Basis, above, U.S. counsel expresses no opinion as to whether there is "substantial authority" for the position or as to possible application of the substantial understatement penalty as a result of taking such a position. As a result, each Holder should consult with its tax advisor to determine whether substantial authority exists for the position or whether the Holder should adequately disclose the position on its return to avoid application of the substantial understatement penalty. CANADIAN FEDERAL INCOME TAX CONSIDERATIONS FOR EXCHANGEABLE SHAREHOLDERS Each Cableshare Shareholder should obtain advice from his or her own adviser as to both the federal and provincial income tax consequences of the transactions described herein. NO APPLICATION HAS BEEN MADE TO REVENUE CANADA, CUSTOMS, EXCISE AND TAXATION FOR AN ADVANCE INCOME TAX RULING CONCERNING ANY ASPECT OF THE TRANSACTIONS DESCRIBED HEREIN. THEREFORE, NO ASSURANCE CAN BE GIVEN THAT THE INCOME TAX CONSIDERATIONS MENTIONED BELOW WILL NOT DIFFER FROM THE INTERPRETATION OF REVENUE CANADA, CUSTOMS, EXCISE AND TAXATION. The following summary of income tax consequences is limited to those under the Canadian Tax Act and the regulations thereunder in force as of the date hereof. It also takes into account proposed amendments and proposals tabled or released by the federal Minister of Finance as of the date hereof, as well as the current administrative practices of Revenue Canada, Customs, Excise and Taxation ("Revenue Canada"). It has been assumed that such proposed changes will become law. No assurance to that effect, however, can be given. Similarly, no assurance can be given that legislative changes in the future may not affect the income tax considerations discussed below. Heenan Blaikie, legal counsel for the Special Committee, is of the opinion that the following is a fair and adequate summary of the principal Canadian federal income tax consequences as at the date hereof generally applicable to persons (other than affiliates of Source), who for the purposes of the Income Tax Act (Canada) (the "Canadian Tax Act") will hold their Cableshare Exchangeable Shares or Source Common Shares as capital property and will deal at arm's length with both Cableshare and Source. Shares of Cableshare or Source will generally be considered to constitute capital property to the holder thereof unless either such shares are held in the course of carrying on a business of buying and selling shares or such holder has acquired such shares in a transaction or transactions considered to be an adventure in the nature of trade. A person whose shares of Cableshare might not otherwise qualify as capital property may qualify to make an irrevocable election in accordance with subsection 39(4) of the Canadian Tax Act to have every "Canadian security" owned by such holder in the taxation year of the election and in all subsequent taxation years deemed to be a capital property. This election is not available in respect of Source Common Shares. This summary does not apply to a holder with respect to whom Source is a foreign affiliate within the meaning of the Canadian Tax Act. THE FOLLOWING DISCUSSION OF THE CANADIAN FEDERAL INCOME TAX CONSEQUENCES IS OF A GENERAL NATURE ONLY AND IS NOT INTENDED TO CONSTITUTE A COMPLETE ANALYSIS AND, THEREFORE, SHOULD NOT BE INTERPRETED AS LEGAL OR TAX ADVICE TO ANY PARTICULAR PERSON. EXCEPT FOR THE FOREGOING, THIS SUMMARY DOES NOT TAKE INTO ACCOUNT OR 56 58 ANTICIPATE ANY CHANGES IN LAW, WHETHER BY LEGISLATIVE, ADMINISTRATIVE OR JUDICIAL DECISION OR ACTION, NOR DOES IT TAKE INTO ACCOUNT PROVINCIAL, TERRITORIAL OR FOREIGN INCOME TAX LEGISLATION OR CONSIDERATIONS, WHICH MAY DIFFER FROM THE CANADIAN FEDERAL INCOME TAX CONSIDERATIONS DESCRIBED HEREIN. The "mark-to-market rules" contained in the Canadian Tax Act generally preclude certain "financial institutions", as defined in such Act, from obtaining capital gains treatment in respect of gains realized on a disposition of shares of corporations (other than shares of a corporation in which the institution has a "significant interest") and such institutions are precluded from making the subsection 39(4) election referred to above. This summary does not otherwise take into account the mark-to-market rules, and taxpayers that are "financial institutions" for the purposes of such rules should consult their tax advisers. For purposes of the Canadian Tax Act, all amounts relating to the acquisition, holding or disposition of Source Common Shares, including dividends, adjusted cost base and proceeds of disposition must be converted into Canadian dollars based on the prevailing United States dollar exchange rate at the time such amounts arise. TAX CONSEQUENCES FOR CABLESHARE SHAREHOLDERS RESIDENT IN CANADA WHO HOLD EXCHANGEABLE SHARES The following portion of the summary is applicable to holders of Exchangeable Shares who, for purposes of the Canadian Tax Act, are resident or deemed to be resident in Canada. This summary does not consider the tax implications of disposing of Cableshare shares in order to acquire Exchangeable Shares. 1. Dividends (a) Dividends on Exchangeable Shares In the case of a shareholder who is an individual, dividends received or deemed to be received on the Exchangeable Shares will be included in computing the shareholder's income, and will be subject to the gross-up and dividend tax credit rules normally applicable to taxable dividends received from taxable Canadian corporations. The Exchangeable Shares will be "taxable preferred shares" and "short-term preferred shares" for purposes of the Canadian Tax Act. Accordingly, Cableshare will be subject to a 66 2/3% tax under Part VI.1 of the Canadian Tax Act on dividends paid or deemed to be paid on the Exchangeable Shares. Dividends received or deemed to be received on the Exchangeable Shares will not be subject to the 10% tax under part IV.1 of the Canadian Tax Act applicable to certain corporations. In the case of a shareholder that is a corporation, other than a "specified financial institution" as defined in the Canadian Tax Act, dividends received or deemed to be received on the Exchangeable Shares will normally be deductible in computing its taxable income. Dividends that are received by a specified financial institution in respect of Exchangeable Shares will only be deductible in computing the holder's taxable income if either: (i) the specified financial institution did not acquire the Exchangeable Shares in the ordinary course of the business carried on by such institution; or (ii) at the time of the receipt of the dividend by the specified financial institution, the Exchangeable Shares are listed on a prescribed stock exchange in Canada (which will not be the case immediately after the effective date of the Arrangement) and the specified financial institution, either alone or together with persons with whom it does not deal at arm's length, does not receive (or is not deemed to receive) dividends in respect of more than 10% of the issued and outstanding Exchangeable Shares. A shareholder that is a "private corporation" (as defined in the Canadian Tax Act) or any other corporation resident in Canada and controlled or deemed to be controlled by or for the benefit of an individual or a related group of individuals may be liable under Part IV of the Canadian Tax Act to pay a refundable tax 57 59 of 33 1/3% on dividends received or deemed to be received on the Exchangeable Shares to the extent that such dividends are deductible in computing the shareholder's taxable income. (b) Dividends on Source Common Shares Dividends on Source Common Shares will be included in the recipient's income for the purposes of the Canadian Tax Act. Such dividends received by an individual shareholder will not be subject to the gross-up and dividend tax credit rules in the Canadian Tax Act. A corporation which is a shareholder will include such dividends in computing its income and generally will not be entitled to deduct the amount of such dividends in computing its taxable income. Any United States non-resident withholding tax exigible on such dividends will be potentially eligible for foreign tax credit or deduction treatment in accordance with the detailed rules contained in the Canadian Tax Act. 2. Redemption or Exchange of Exchangeable Shares (a) Redemption by Cableshare On the redemption (including a retraction) of an Exchangeable Share by Cableshare, in circumstances where Source does not exercise its Call Rights, the holder of an Exchangeable Share will be deemed to have received a dividend equal to the amount, if any, by which the redemption proceeds (being the fair market value at the time of the redemption of a Source Common Share received by the shareholder from Cableshare on the redemption plus the amount, if any, of all accrued but unpaid dividends on the Exchangeable Share) exceeds the paid-up capital at that time of the Exchangeable Share so redeemed. The amount of any such deemed dividend will be subject to the tax treatment accorded to dividends described above. On the redemption, the holder of an Exchangeable Share will also be considered to have disposed of the Exchangeable Share, but the amount of such deemed dividend will be excluded in computing the shareholder's proceeds of disposition for purposes of computing any capital gain or capital loss arising on the disposition of the Exchangeable Share. (The treatment of capital gains and capital losses is described below.) In the case of a shareholder that is a corporation, in some circumstances the amount of any such deemed dividend may be treated as proceeds of disposition and not as a dividend. (b) Exchange with Source On the exchange of an Exchangeable Share by the holder thereof with Source for a Source Common Share, the holder will in general realize a capital gain (or a capital loss) equal to the amount by which the proceeds of disposition of the Exchangeable Share, net of any reasonable costs of disposition, exceed (or are less than) the adjusted cost base to the holder of the Exchangeable Share. For these purposes, the proceeds of disposition will be the fair market value of a share of Source Common Stock at the time of exchange plus the amount of all accrued but unpaid dividends on the Exchangeable Share received by the holder as part of the exchange consideration. (c) General Considerations Three-quarters of any such capital gain (the "taxable capital gain") will be included in the shareholder's income for the year of disposition. Three-quarters of any capital loss so realized (the "allowable capital loss") may be deducted by the holder against taxable capital gains for the year of disposition. Any excess of allowable capital losses over taxable capital gains of the shareholder for the year of disposition may be carried back up to three taxable years or forward indefinitely and deducted against net taxable capital gains in those other years. A shareholder disposing of Exchangeable Shares that is throughout the relevant taxation year a "Canadian-controlled private corporation" (as defined in the Canadian Tax Act) may be liable to pay an additional refundable tax of 6 2/3% on its "aggregate investment income" for the year, which is defined to include an amount in respect of taxable capital gains (but not dividends or deemed dividends deductible in computing taxable income). 58 60 If the holder of an Exchangeable Share is a corporation, the amount of any capital loss arising from a disposition or deemed disposition of an Exchangeable Share may be reduced by the amount of dividends received or deemed to have been received by it on such share or on the Cableshare Common Shares submitted pursuant to a valid election for exchange for Exchangeable Shares and previously owned by such holder, to the extent and under circumstances prescribed by the Canadian Tax Act. The cost base of a Source Common Share received on the retraction, redemption or exchange of an Exchangeable Share will be equal to the fair market value of the Source Common Share at the time of such event. The existence of the Retraction Call Right means that a holder exercising the right of retraction in respect of an Exchangeable Share cannot control whether such holder will receive a Source Common Share by way of redemption of the Exchangeable Share by Cableshare or by way of purchase of the Exchangeable Share by Source. As described above, the Canadian federal income tax consequences of a redemption by Cableshare differ from those of a purchase by Source. However a holder who exercises the right of retraction will be notified if the Retraction Call Right will not be exercised by Source, and if such holder does not wish to proceed, such holder may cancel the notice of retraction and retain such holder's Exchangeable Share. 3. Disposition of Source Common Shares A disposition or deemed disposition of a Source Common Share by a holder will generally result in a capital gain (or capital loss) equal to the amount by which the proceeds of disposition, net of any reasonable costs of disposition, exceed (or are exceeded by) the adjusted cost base to the holder of the Source Common Share. TAXATION OF CABLESHARE SHAREHOLDERS NOT RESIDENT IN CANADA The following portion of the summary is applicable to Cableshare Shareholders who, for purposes of the Canadian Tax Act, have not been and will not be resident or deemed to be resident in Canada at any time while they have held Exchangeable Shares and in the case of a non-resident of Canada who carried on an insurance business in Canada and elsewhere, whose shares are not effectively connected with its Canadian insurance business. 1. Disposition of Exchangeable Shares Shareholders who are non-residents of Canada, and in particular U.S. shareholders, are urged to consult their own tax advisers concerning the implications of electing to receive Exchangeable Shares. A non-resident of Canada is potentially subject to Canadian income tax in respect of gains realized on the disposition of property that is considered to be taxable Canadian property for the purposes of the Canadian Tax Act. Source Common Shares will not be taxable Canadian property to a nonresident holder while the Exchangeable Shares will be taxable Canadian property so long as such shares are not listed on a prescribed stock exchange. Gains realized in respect of a subsequent disposition of Exchangeable Shares that are taxable Canadian property are potentially subject to tax under the Canadian Tax Act, subject to any relief that may be available to the holder pursuant to any applicable tax treaty between Canada and the jurisdiction in which the holder resides or is domiciled. Exchangeable Shares that are redeemed, retracted or purchased for cancellation by Cableshare will generally give rise to a deemed dividend to the extent that the proceeds of disposition exceed the paid-up capital of such shares for the purposes of the Canadian Tax Act. The amount of such deemed dividend is subject to withholding tax under the Canadian Tax Act at a rate of 25%, although such rate may be reduced under the provisions of an applicable tax treaty. Shareholders who are not residents of Canada will generally be required to comply with the procedure set out in section 116 of the Canadian Tax Act if they dispose of Exchangeable Shares at a time when such shares are not listed on a prescribed stock exchange. When section 116 applies, a holder disposing of Exchangeable Shares is generally required to report certain particulars relating to the transaction to Revenue Canada no later 59 61 than ten days after the disposition is made. In certain circumstances, the purchaser of the Exchangeable Shares (including Cableshare or Source, as the case may be) is required to withhold up to one-third of the total purchase price and remit such amount to Revenue Canada. The remainder of the discussion concerning non-residents of Canada assumes that such persons have not received Exchangeable Shares and have received Source Common Shares directly from Source on the effective date of the Arrangement. Non-residents of Canada are urged to consult their own tax advisers concerning the tax implications to them of participating in the Arrangement. 2. Dividends on Source Common Shares Dividends paid on Source Common Shares to non-residents of Canada are not subject to tax under the Canadian Tax Act. ELIGIBILITY FOR INVESTMENT 1. Foreign Property At the time when they are issued, the Exchangeable Shares will not be listed on a prescribed stock exchange in Canada and thus they will be foreign property for trusts governed by registered pension plans, registered retirement savings plans, registered retirement income funds, deferred profit sharing plans and certain other tax-exempt entities. Tax-exempt plans that hold foreign property in excess of certain percentage limits are subject to a penalty tax. The penalty tax is 1% per month of the cost amount of foreign property in excess of a maximum percentage limit (generally 20% of the total cost of all investments). Since the Exchangeable Shares will be acquired in exchange for shares that are not foreign property, the Canadian Tax Act provides a 24 month grace period before an Exchangeable Share will be treated as foreign property. Accordingly, tax exempt entities can hold Exchangeable Shares for up to 24 months after the Effective Date without being liable to pay additional foreign property tax. If the Exchangeable Shares should be listed on a prescribed Canadian stock exchange at some future date, they will cease to be foreign property at the time they are so listed. The Voting Rights and Trustee Exchange Rights acquired by a holder in connection with the exchange will be foreign property for tax-exempt plans. The cost amount of such rights will have to be included in calculating the cost amount of all foreign property held by the particular tax exempt entity. Cableshare has advised that the value of such rights is nominal. Such determinations of value are not binding on Revenue Canada and counsel can express no opinion on this issue as it is a question of fact. Assuming that Cableshare's determination of value is correct, the acquisition of the Voting Rights and Trustee Exchange Rights in connection with the Exchange will not result in any material foreign property tax liability for tax exempt entities. After the 24 month grace period has expired, the cost amount of Exchangeable Shares will have to be included in the cost amount of foreign property for the purposes of calculating the foreign property tax payable by the particular entity. The cost amount of such shares would appear to be equal to the adjusted cost base of the Cableshare shares that were exchanged for the Exchangeable Shares as at the time of the exchange. Source Common Shares will be foreign property for trusts governed by registered pension plans, registered retirement savings plans, registered retirement income funds, deferred profit sharing plans and certain other tax-exempt entities. Source Common Shares will qualify for the 24 month grace period (as described above) if they are acquired on the effective date of the Arrangement as a result of a disposition by a Cableshare Shareholder to Source of Cableshare Common Shares pursuant to the Arrangement. Source Common Shares that are acquired in any other circumstances (such as an acquisition resulting from the retraction of an Exchangeable Share or the exercise by Source of a Call Right) will generally not qualify for the 24 month grace period. 60 62 2. Qualified Investments Registered retirement savings plans ("RRSP's") Registered retirement income funds ("RRIF's") and deferred profit sharing plans ("DPSP's") are subject to a penalty tax in respect of investments that are not qualified investments for the purposes of the Canadian Tax Act. Although the Exchangeable Shares will not be listed on a prescribed stock exchange, they will be a qualified investment so long as Cableshare maintains its status as a public corporation for the purposes of the Canadian Tax Act. Cableshare will be a public corporation immediately after the Effective Date and Source has agreed that Source will use its best efforts to ensure that Cableshare retains its status as a public corporation for the purposes of the Canadian Tax Act. Source has also agreed that Source will cause Cableshare to list the Exchangeable Shares on a prescribed Canadian stock exchange in certain limited circumstances. If the Exchangeable Shares are listed on a prescribed stock exchange, then they will be a qualified investment while they are so listed. However, there can be no assurance that the Exchangeable Shares will be listed on a prescribed stock exchange or that Cableshare will maintain its status as a public corporation for the purposes of the Canadian Tax Act. If RRSP's, RRIF's and DPSP's hold Exchangeable Shares at a time when Cableshare is not a public corporation and such shares are not listed on a prescribed stock exchange, then such shares will not be a qualified investment for such plans at that time. There is no 24 month grace period for investments that lose their status as qualified investments after they are acquired by an RRSP, RRIF or DPSP. There is also no "basket percentage" for non-qualified investments held by an RRSP, RRIF or DPSP. If the Exchangeable Shares do become a non-qualified investment, then a holder that is an RRSP, RRIF or DPSP must pay a penalty tax equal to 1% per month of the cost amount of such Exchangeable Shares. This penalty tax is calculated at the end of each month and thus a plan that disposes of a non-qualifying investment before the end of any particular month will not be subject to tax in respect of that investment for the relevant month. The cost amount of the Exchangeable Shares for the purposes of the penalty tax would be the fair market value on the Effective Date of the Cableshare shares that were converted into such Exchangeable Shares. If the Exchangeable Shares are subject to the tax on the basis that they are not qualified investments, they will not be subject to the foreign property tax (as described above under the subheading "Foreign Property") even if they are foreign property at the relevant time. The Source Common Shares will be a qualified investment for RRSP's RRIF's and DPSP's so long as such shares are listed on a prescribed stock exchange. The Nasdaq Stock Market is a prescribed stock exchange for this purpose. The Voting Rights and Trustee Exchange Rights acquired by a holder in connection with the Exchange will not be a qualified investment for RRSP's, RRIF's and DPSP's. The cost amount of such rights will have to be included in calculating the cost amount of all non-qualified property held by the particular tax exempt entity. Cableshare has advised that the value of such rights is nominal. Such determinations of value are not binding on Revenue Canada and counsel can express no opinion on this issue as it is a question of fact. Assuming that Cableshare's determination of value is correct, the acquisition of the voting rights and exchange rights in connection with the Exchange will not result in any material tax liability for tax exempt entities under the qualified investment rules. 61 63 PLAN OF DISTRIBUTION EXCHANGEABLE SHARES Pursuant to the terms of a plan of arrangement (the "Plan of Arrangement") under Section 182 of the OBCA, Cableshare has undergone a reorganization of capital whereby, among other things, it issued Exchangeable Shares in exchange for each existing Cableshare Common Shares (other than Cableshare Common Shares held by Source and its subsidiaries and by holders who elected to receive Source Common Shares in connection with the Arrangement or who properly exercised their rights of dissent and are ultimately entitled to be paid fair value for their shares) at the effective time of the Arrangement. Source Common Shares may be issued to holders of Exchangeable Shares as follows: (i) holders of Exchangeable Shares may require at any time that such shares be exchanged for an equivalent number of Source Common Shares (see "-- Procedures for Issuance of Source Common Shares -- Election by Holders to Exchange Exchangeable Shares"); (ii) Source may redeem such Exchangeable Shares by exchanging therefor an equal number of Source Common Shares (see "-- Procedures for Issuance of Source Common Shares -- Redemption of Exchangeable Shares"); and (iii) upon liquidation of Source or Cableshare, holders of Exchangeable Shares may be required to, or may elect to, exchange such Exchangeable Shares for Source Common Shares (see "-- Procedures for Issuance of Source Common Shares -- Liquidation of Cableshare" and "-- Liquidation of Cableshare"). No broker, dealer or underwriter has been engaged in connection with the offering of the Source Common Shares covered hereby. The following is a description of certain rights, privileges, restrictions and conditions attaching to the Exchangeable Shares, which are attached to the Plan of Arrangement (the "Exchangeable Share Provisions"), and certain provisions of the Support Agreement entered into between Source and Cableshare (the "Support Agreement") and the Voting and Exchange Trust Agreement entered into among Source, Cableshare and [TRUSTEE], as trustee (the "Voting and Exchange Trust Agreement"). The Plan of Arrangement, the Voting and Exchange Trust Agreement and Support Agreement are included as exhibits to the Registration Statement to which this Prospectus relates, and the following description is qualified in its entirety by reference to the Plan of Arrangement, the Voting and Exchange Trust Agreement and Support Agreement. PROCEDURES FOR ISSUANCE OF SOURCE COMMON SHARES ELECTION BY HOLDERS TO EXCHANGE EXCHANGEABLE SHARES. Holders of the Exchangeable Shares are entitled at any time to retract (i.e., require Cableshare to redeem) any or all such Exchangeable Shares owned by them and to receive an equivalent number of Source Common Shares, plus an additional amount equivalent to all declared but unpaid dividends on such Exchangeable Shares, subject to the rights of Source described below. Holders of Exchangeable Shares may effect such retraction by presenting a certificate or certificates to Cableshare and Source or Source's transfer agent representing the number of Exchangeable Shares the holder desires to retract, together with a duly executed statement (the "Retraction Request") specifying the number of Exchangeable Shares the holder wishes to retract and such other documents as may be required to effect the retraction of the Exchangeable Shares. The retraction will become effective on the date specified by the holder, which date must be not less than 10 business days nor more than 15 business days after the request is received by Cableshare (the "Retraction Date"). Upon receipt of a Retraction Request, Cableshare is required to immediately notify Source of such Retraction Request. Source will thereafter have five business days in which to exercise its overriding right (the "Retraction Call Right") to purchase all of the Exchangeable Shares submitted by the holder thereof by the delivery of an equivalent number of Source Common Shares plus an additional amount equivalent to the full amount of all declared but unpaid dividends on the Exchangeable Shares (the "Retraction Price") to the transfer agent for delivery to such holder on the Retraction Date. If Source so advises Cableshare within such five business day period, Cableshare will notify the holder as soon as possible thereafter that the Retraction Call Right will be exercised. A holder may revoke his or her Retraction Request at any time prior to the close of business on the business day preceding the Retraction Date, in which case the holder's Exchangeable 62 64 Shares will not be purchased by Source nor redeemed by Cableshare. In the event Source determines not to exercise its Retraction Call Right and provided that the Retraction Request is not revoked by the holder, Cableshare is obligated to deliver to the holder the number of Source Common Shares equal to the number of Exchangeable Shares submitted by the holder for retraction, plus an additional amount equivalent to the full amount of all declared but unpaid dividends on such Exchangeable Shares. If only a part of the Exchangeable Shares represented by any certificate is redeemed, a new certificate for the balance of such Exchangeable Shares will be issued to the holder at Cableshare's expense. If, as a result of solvency provisions of applicable law, Cableshare is not permitted to redeem all Exchangeable Shares tendered by a retracting holder, Cableshare will redeem only those Exchangeable Shares tendered by the holder (rounded down to a whole number of shares) as would not be contrary to such provisions of applicable law. Exchangeable Shares not redeemed by Cableshare as a result of such solvency provisions are subject to redemption pursuant to the optional exchange right granted to the trustee under the Voting and Exchange Trust Agreement as described below under "-- Liquidation of Cableshare." AUTOMATIC REDEMPTION OF EXCHANGEABLE SHARES. Subject to applicable law and the Redemption Call Right of Source described below, on December , 2001, unless a later date has been specified by the Cableshare board of directors or an earlier date has been specified by the Cableshare board of directors after there are fewer than 350,000 Exchangeable Shares outstanding (other than Exchangeable Shares held by Source and its subsidiaries and subject to adjustment to such number of shares to reflect permitted changes to Exchangeable Shares) (the "Automatic Redemption Date"), Cableshare will redeem all of the then outstanding Exchangeable Shares in exchange for an equal number of Source Common Shares, plus an additional amount equivalent to the full amount of all declared but unpaid dividends on such Exchangeable Shares (the "Redemption Price"). Notwithstanding any proposed redemption of the Exchangeable Shares by Cableshare, Source will have the overriding right (the "Redemption Call Right") to purchase on the Automatic Redemption Date all of the outstanding Exchangeable Shares (other than Exchangeable Shares held by Source and its subsidiaries) in exchange for the Redemption Price and, upon the exercise of the Redemption Call Right, the holders thereof will be obligated to sell such shares to Source. If Source exercises the Redemption Call Right, Cableshare's right to redeem the Exchangeable Shares on such Automatic Redemption Date will terminate. Cableshare will, at least 120 days before the Automatic Redemption Date, provide the registered holders of Exchangeable Shares with written notice of the proposed redemption of the Exchangeable Shares by Cableshare. On or after the date such proposed redemption is exercised, upon the holder's presentation and surrender of the certificates representing the Exchangeable Shares and such other documents as may be required at the office of the transfer agent or the registered office of Cableshare, Cableshare will deliver the Redemption Price to the holder at the address of the holder recorded in the securities register or by holding the Redemption Price for pick up by the holder at the registered office of Cableshare or the office of the transfer agent as specified in the written notice. LIQUIDATION OF CABLESHARE. In the event of the liquidation, dissolution or winding up of Cableshare or any other proposed distribution of the assets of Cableshare among its shareholders for the purpose of winding up its affairs, holders of the Exchangeable Shares will be entitled to receive from Cableshare one Source Common Share for each Exchangeable Share they hold, plus an additional amount equivalent to the full amount of all declared but unpaid dividends on each such Exchangeable Share (the "Liquidation Amount"). Upon the occurrence of such liquidation, dissolution or winding up, Source will have the right (the "Liquidation Call Right" and, together with the Retraction Call Right and the Redemption Call Right, the "Call Rights") to purchase all of the outstanding Exchangeable Shares (other than Exchangeable Shares held by Source and its subsidiaries) from the holders thereof on the effective date of such liquidation, dissolution or winding up (the "Liquidation Date") in exchange for the Liquidation Amount and, upon the exercise of the Liquidation Call Right, the holders thereof will be obligated to sell such shares to Source. Upon the occurrence of a Cableshare Insolvency Event, the trustee under the Voting and Exchange Trust Agreement will have the right (the "Exchange Right") to require Source to purchase any or all of the Exchangeable Shares then outstanding (other than Exchangeable Shares held by Source and its subsidiaries) for the Liquidation Amount. A "Cableshare Insolvency Event" is the institution by Cableshare of any proceeding to 63 65 be adjudicated a bankrupt or insolvent or to be dissolved or wound up, or the consent of Cableshare to the institution of bankruptcy, insolvency, dissolution or winding-up proceedings against it, or the filing of a petition, answer or consent seeking dissolution or winding up under any bankruptcy, insolvency or analogous laws, including without limitation the Companies Creditors' Arrangement Act (Canada) and the Bankruptcy and Insolvency Act (Canada), and the failure by Cableshare to contest in good faith any such proceedings commenced in respect of Cableshare within 15 days of becoming aware thereof, or the consent by Cableshare to the filing of any such petition or to the appointment of a receiver, or the making by Cableshare of a general assignment for the benefit of creditors, or the admission in writing by Cableshare of its inability to pay its debts generally as they become due, or Cableshare not being permitted, pursuant to solvency requirements of applicable law, to redeem any Exchangeable Shares pursuant to the Exchangeable Share Provisions. On or after the Liquidation Date, a holder of Exchangeable Shares may surrender certificates representing such Exchangeable Shares, together with such other documents as may be required, to Cableshare's registered office or the office of the transfer agent. Upon receipt of the certificates and other documents and subject to the exercise by Source of its Liquidation Call Right, Cableshare will deliver the Liquidation Amount to such holder at the address recorded in the securities register or by holding the Liquidation Amount for pick up by the holder at Cableshare's registered office or the office of the transfer agent, as specified by Cableshare in a notice to such holders. LIQUIDATION OF SOURCE. Upon the occurrence of a Source Liquidation Event, in order for the holders of the Exchangeable Shares to participate on a pro rata basis with the holders of Source Common Shares, Source will purchase each outstanding Exchangeable Share (other than Exchangeable Shares held by Source and its subsidiaries) and holders of such Exchangeable Shares will be required to sell the Exchangeable Shares held by them at that time, in exchange for the Liquidation Amount on the fifth business day prior to the effective date of the liquidation, dissolution or winding up contemplated by a Source Liquidation Event (the "Automatic Exchange Right" and, together with the Exchange Right, the "Trustee Exchange Rights"). A "Source Liquidation Event" means (i) any determination by Source's Board of Directors to institute voluntary liquidation, dissolution or winding-up proceedings with respect to Source or to effect any other distribution of assets of Source among its stockholders for the purpose of winding up its affairs or (ii) receipt by Source of notice of, or Source otherwise becoming aware of, any threatened or instituted claim, suit, petition or other proceeding with respect to the involuntary liquidation, dissolution or winding up of Source or to effect any other distribution of assets of Source among its stockholders for the purpose of winding up its affairs. Upon a holder's request and surrender of Exchangeable Share certificates, duly endorsed in blank and accompanied by such instruments of transfer as Source may reasonably require, Source will deliver to such holder certificates representing an equivalent number of Source Common Shares plus a check in the amount equivalent to the full amount of all declared but unpaid dividends on the Exchangeable Shares. VALIDITY OF SOURCE COMMON SHARES The validity of the Source Common Shares offered hereby has been passed upon for the Company by Thompson & Knight, P.C., Dallas, Texas. LEGAL OPINIONS The summary of the material United States federal income tax considerations arising from the receipt and ownership of Exchangeable Shares for Source Common Shares set forth under "Income Tax Considerations -- United States Federal Income Tax Considerations for Cableshare Shareholders" has been included under the authority of Thompson & Knight, P.C., of Dallas, Texas. Acquirors of the Source Common Shares offered hereby should not rely on Thompson & Knight, P.C. with respect to any other matters, except as set forth under "Validity of Source Common Shares." The summary of material Canadian federal income tax considerations arising from the ownership of Exchangeable Shares and the exchange of Exchangeable Shares for Source Common Shares set forth under 64 66 "Income Tax Considerations for Cableshare Shareholders -- Canadian Federal Income Tax Considerations for Cableshare Shareholders" has been included under the authority of Heenan, Blaikie, Barristers & Solicitors, of Toronto, Ontario. Holders of Exchangeable Shares and Acquirors of the Source Common Shares offered hereby should not rely on Heenan, Blaikie with respect to any other matters. EXPERTS The Consolidated Financial Statements of Source Media, Inc. at December 31, 1994 and 1995, and for each of the three years in the period ended December 31, 1995, appearing herein have been audited by Ernst & Young LLP, independent auditors, as set forth in their report thereon appearing elsewhere herein, and are included in reliance upon such report given upon the authority of such firm as experts in accounting and auditing. The Consolidated Financial Statements of Cableshare Inc., at March 31, 1995 and 1996, and for each of the three years in the period ended March 31, 1996, appearing herein have been audited by KPMG, Chartered Accountants, as set forth in their report thereon, appearing elsewhere herein, and are included in reliance upon such report given upon the authority of such firm as experts in accounting and auditing. The report of KPMG includes additional comments for U.S. readers referring to the ecomomic dependency of Cableshare Inc. on its parent. AVAILABLE INFORMATION Source is subject to the informational requirements of the Securities Exchange Act of 1934, as amended, and in accordance therewith files report, proxy statements and other information with the SEC. Reports, registration statements and other information concerning the Company may be inspected and copied at the public reference facilities maintained by the SEC at Room 1024, 450 Fifth Street, N.W., Washington, D.C. 20549, and at the Regional Offices of the SEC at 7 World Trade Center, New York, New York 10048 and Suite 1400, Northwestern Atrium Center, 500 West Madison Street, Chicago, Illinois 60611. Copies of such material can also be obtained from the Public Reference Section of the SEC at 450 Fifth Street, N.W., Washington, D.C. 20549 at prescribed rates. The SEC maintains a Web site at http://www.sec.gov that contains reports, proxy and information statements and other information regarding issuers, including Source, that file electronically with the SEC. Source has filed with the Commission a Registration Statement on Form S-1 (as amended and together with all exhibits thereto, the "Registration Statement") under the Securities Act, with respect to the shares of Common Stock offered by this Prospectus. This Prospectus constitutes a part of the Registration Statement and does not contain all of the information set forth in the Registration Statement, certain parts of which are omitted from this Prospectus as permitted by the rules and regulations of the Commission. Statements contained in this Prospectus as to the contents of any contract, agreement or other document referred to herein are not necessarily complete. Statements in this Prospectus about the contents of any contract or other document are not necessarily complete; reference is made in each instance to the copy of the contract or other document filed as an exhibit to the Registration Statement. Each such statement is qualified in all respects by such reference. A copy of the Registration Statement may be obtained at the public reference facilities maintained by the Commission as provided in the preceding paragraph. 65 67 INDEX TO FINANCIAL STATEMENTS
PAGE ------ UNAUDITED PRO FORMA CONDENSED CONSOLIDATED FINANCIAL STATEMENTS OF SOURCE............. F-2 Unaudited Pro Forma Condensed Consolidated Balance Sheet at September 30, 1996........ F-3 Unaudited Pro Forma Condensed Consolidated Statement of Operations for the Year Ended December 31, 1995................................................................... F-4 Unaudited Pro Forma Condensed Consolidated Statement of Operations for the Nine Months Ended September 30, 1996............................................................ F-5 Notes to Unaudited Pro Forma Condensed Consolidated Financial Statements.............. F-6 HISTORICAL CONSOLIDATED FINANCIAL STATEMENTS OF SOURCE................................ F-8 Report of Independent Auditors........................................................ F-8 Consolidated Balance Sheets at December 31, 1994 and 1995, and September 30, 1996 (unaudited)......................................................................... F-9 Consolidated Statements of Operations for the Years Ended December 31, 1993, 1994, and 1995 and the Nine Months Ended September 30, 1995 and 1996 (unaudited).............. F-11 Consolidated Statements of Stockholders' Equity (Capital Deficiency) for the Years Ended December 31, 1993, 1994, and 1995 and the Nine Months Ended September 30, 1996 (unaudited)......................................................................... F-12 Consolidated Statements of Cash Flows for the Years Ended December 31, 1993, 1994, and 1995 and the Nine Months Ended September 30, 1995 and 1996 (unaudited).............. F-15 Notes to Consolidated Financial Statements............................................ F-17 HISTORICAL CONSOLIDATED FINANCIAL STATEMENTS OF CABLESHARE............................ F-33 Auditors' Report...................................................................... F-33 Consolidated Balance Sheets at March 31, 1995 and 1996, and September 30, 1996 (unaudited)......................................................................... F-34 Consolidated Statements of Earnings for the Years Ended March 31, 1994, 1995, and 1996, and the Six Months Ended September 30, 1995 and 1996 (unaudited)........................ F-35 Consolidated Statements of Deficit for the Years Ended March 31, 1994, 1995, and 1996, and the Six Months Ended September 30, 1995 and 1996 (unaudited)........................ F-35 Consolidated Statements of Changes in Financial Position for the Years Ended March 31, 1994, 1995, and 1996, and the Six Months Ended September 30, 1995 and 1996 (unaudited)......................................................................... F-36 Notes to Consolidated Financial Statements............................................ F-37
F-1 68 SOURCE MEDIA, INC. UNAUDITED PRO FORMA CONDENSED CONSOLIDATED FINANCIAL STATEMENTS The following unaudited pro forma condensed consolidated balance sheet as of September 30, 1996, reflects (i) the issuance by Cableshare of Exchangeable Shares for all of the outstanding Class A Shares and Class B Shares of Cableshare and (ii) the issuance of options to purchase Source Common Shares in exchange for all of the outstanding options to purchase Cableshare Class A Shares, as described under "The Arrangement and Related Transactions", as if such transactions had been consummated on September 30, 1996. The unaudited pro forma condensed consolidated statements of operations for the year ended December 31, 1995 and the nine months ended September 30, 1996 give effect to such transactions as if they had been consummated on January 1, 1995 and January 1, 1996, respectively. These statements are not necessarily indicative of the results that would have been obtained had the transactions described above been consummated on the dates indicated. The unaudited pro forma condensed consolidated balance sheet and statements of operations are based on a preliminary purchase price allocation with respect to the assets and liabilities of Cableshare. The final purchase price allocation may differ materially from the preliminary allocation used for purposes of these unaudited pro forma condensed consolidated financial statements. These statements should be read in conjunction with the Consolidated Financial Statements of Source included elsewhere in this Proxy Circular. F-2 69 SOURCE MEDIA, INC. UNAUDITED PRO FORMA CONDENSED CONSOLIDATED BALANCE SHEET SEPTEMBER 30, 1996 (in thousands)
SOURCE PRO FORMA AS MEDIA, INC. ADJUSTMENTS ADJUSTED ----------- ----------- -------- ASSETS Current assets: Cash and cash equivalents............................. $ 12,159 $ (500)(c) $ 11,659 Accounts receivable, net.............................. 1,049 1,049 Prepaid expenses and other current assets............. 1,514 1,514 --------- --------- -------- Total current assets.................................... 14,722 (500) 14,222 Property and equipment, net............................. 2,754 2,754 Intangible assets, net.................................. 1,324 12,081 (a) 15,372 1,467 (b) 500 (c) Other non-current assets................................ 355 355 --------- --------- -------- Total assets............................................ $ 19,155 $ 13,548 $ 32,703 ========= ========= ======== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Trade accounts payable................................ $ 909 $ 909 Accrued payroll and other accrued liabilities......... 1,466 1,466 Unearned income....................................... 4,508 4,508 Current portion of capital lease obligations.......... 119 119 --------- --------- -------- Total current liabilities............................... 7,002 7,002 Long-term debt, net of discount......................... 4,580 4,580 Capital lease obligations, less current portion......... 39 39 Minority interests in consolidated subsidiaries, net of note receivable from minority stockholder............. 2,897 290(a) 3,187 Total stockholders' equity.............................. 4,637 11,791(a) 17,895 1,467(b) --------- --------- -------- Total liabilities and stockholders' equity.............. $ 19,155 $ 13,548 $ 32,703 ========= ========= ========
See notes to unaudited pro forma condensed consolidated financial statements F-3 70 SOURCE MEDIA, INC. UNAUDITED PRO FORMA CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS YEAR ENDED DECEMBER 31, 1995 (in thousands except for per share data)
SOURCE PRO FORMA AS MEDIA, INC. ADJUSTMENTS ADJUSTED ----------- ----------- -------- Monetary revenues....................................... $ 9,342 $ 9,342 Nonmonetary revenues.................................... 15,944 15,944 --------- -------- Total revenues........................................ 25,286 25,286 Monetary cost of sales.................................. 4,937 4,937 Nonmonetary cost of sales............................... 15,944 15,944 --------- -------- Total cost of sales................................... 20,881 20,881 --------- -------- Gross profit............................................ 4,405 4,405 Selling, general and administrative expenses............ 7,952 7,952 Amortization of intangible assets....................... 1,031 2,810(d) 3,841 Research and development expenses....................... 3,750 3,750 --------- ------- -------- 12,733 2,810 15,543 --------- ------- -------- Operating loss.......................................... (8,328) (2,810) (11,138) Interest expense........................................ 354 354 Interest income......................................... (217) (217) Other (income).......................................... (25) (25) Minority interest in losses of consolidated subsidiaries.......................................... (252) 252(d) -- Charges related to financing incentives................. 1,581 1,581 --------- ------- -------- Net loss................................................ (9,769) (3,062) (12,831) Preferred stock dividends............................... 833 833 --------- ------- -------- Net loss attributable to common stockholders............ $ (10,602) $(3,062) $(13,664) ========= ======= ======== Net loss per common share............................... $ (1.65) $ (1.75)(e) ========= ======= ======== Weighted average common shares outstanding.............. 6,413 7,800 ========= ======= ======== Supplemental net loss per common share.................. $ (1.28) $ (1.43) ========= ======= ======== Supplemental weighted average common shares outstanding........................................... 7,516 8,903 ========= ======= ========
See notes to unaudited pro forma condensed consolidated financial statements F-4 71 SOURCE MEDIA, INC. UNAUDITED PRO FORMA CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS NINE MONTHS ENDED SEPTEMBER 30, 1996 (in thousands except for per share data)
SOURCE PRO FORMA AS MEDIA, INC. ADJUSTMENTS ADJUSTED ----------- ----------- -------- Monetary revenues....................................... $ 6,406 $ 6,406 Nonmonetary revenues.................................... 8,041 8,041 ------- -------- Total revenues........................................ 14,447 14,447 Monetary cost of sales.................................. 2,708 2,708 Nonmonetary cost of sales............................... 8,041 8,041 ------- -------- Total cost of sales................................... 10,749 10,749 ------- -------- Gross profit............................................ 3,698 3,698 Selling, general and administrative expenses............ 8,081 8,081 Amortization of intangible assets....................... 774 2,107(d) 2,881 Research and development expenses....................... 4,414 4,414 ------- ------- -------- 13,269 2,107 15,376 ------- ------- -------- Operating loss.......................................... (9,571) (2,107) (11,678) Interest expense........................................ 361 361 Interest income......................................... (662) (662) Other (income).......................................... (32) (32) Minority interest in losses of consolidated subsidiaries.......................................... (69) (69)(d) -- ------- ------- -------- Net loss................................................ $(9,169) $(2,176) $(11,345) ======= ======= ======== Net loss per common share............................... $ (0.92) ($ 1.00)(e) ======= ======== Weighted average common shares outstanding.............. 9,933 11,320 ======= ========
See notes to unaudited pro forma condensed consolidated financial statements F-5 72 SOURCE MEDIA, INC. NOTES TO UNAUDITED PRO FORMA CONDENSED CONSOLIDATED FINANCIAL STATEMENTS 1. BASIS OF PRESENTATION Pursuant to the Plan of Arrangement described under "The Arrangement and Related Transactions", and if the Exchangeable Share Condition is satisfied, the effect of the Arrangement will be that Cableshare Shareholders (other than Source, the Source Affiliates, and Dissenting Shareholders) will receive Source Common Shares or, at their option, Exchangeable Shares equal to the number of Class A Shares and Class B Shares held by them, divided by the Exchange Ratio. If the Exchangeable Share Condition is not satisfied, the effect of the Arrangement will be that Cableshare Shareholders (other than Source, the Source Affiliates, and Dissenting Shareholders) will receive Source Common Shares equal to the number of Class A Shares and Class B Shares held by them, divided by the Exchange Ratio. Source and the Source Affiliates that hold Class A Shares and Class B Shares will receive one Cableshare New Common Share for each Class A Share and Class B Share so held. The accompanying unaudited pro forma condensed consolidated balance sheet reflects the pro forma adjustments described below as if the Arrangement had been consummated on September 30, 1996. The accompanying unaudited pro forma condensed consolidated statements of operations for the year ended December 31, 1995 and the nine months ended September 30, 1996 reflect the pro forma adjustments described below as if the Arrangement had been consummated on January 1, 1995 and January 1, 1996, respectively. For purposes of the accompanying unaudited pro forma condensed consolidated financial statements, the following assumptions have been made: (i) an Exchange Ratio of five; (ii) an Average Trading Price of Source Common Shares of $8.50; and (iii) a Determination Date Foreign Exchange Rate of C$1.3235 per US$1.00. The accompanying unaudited pro forma condensed financial statements are not necessarily indicative of the results that would have been obtained had the transactions described above occurred on the dates indicated. The unaudited pro forma condensed consolidated balance sheet and statements of operations are based on a preliminary purchase price allocation with respect to the assets and liabilities of Cableshare. The final purchase price allocation may differ materially from the preliminary allocation used for purposes of these unaudited pro forma condensed financial statements. 2. PRO FORMA ADJUSTMENTS (a) To record the issuance by Cableshare of 1,387,000 Exchangeable Shares for all of the outstanding Class A and Class B Shares of Cableshare. Cableshare Exchangeable Shares are exchangeable into Source Common Shares at any time at the option of the holder, entitle the holder to dividend and other rights economically equivalent to those of Source Common Shares, and, through a voting trust, entitle the holder to vote at meetings of stockholders of Source. The Exchangeable Shares are treated as identical to Source Common Shares in the unaudited pro forma condensed consolidated financial statements. (b) To record the issuance of options to purchase 191,000 Source Common Shares at prices ranging from US$0.29 to US$1.01 in exchange for all of the outstanding options to purchase Cableshare Class A Shares. Such issuance assumes a trading price of Source Common Shares of US$8.50 as of the date of the grant. (c) To record the estimated costs of the Plan of Arrangement. F-6 73 (d) To record the additional amortization of the intangible assets (goodwill and patents) to be recorded upon the acquisition of Cableshare, assuming a five year amortization period, and to eliminate the minority interests in losses of Cableshare. (e) The pro-forma loss per common share is calculated based on the aggregate of the weighted average number of Source Common Shares and Exchangeable Shares outstanding, assuming that the purchase of the Class A Shares and Class B Shares held by each Cableshare Shareholder other than Source occurred at the beginning of the period. Stock options are not considered in the pro forma loss per common share because they are anti-dilutive. F-7 74 REPORT OF INDEPENDENT AUDITORS Board of Directors Source Media, Inc. We have audited the accompanying consolidated balance sheets of Source Media, Inc. (the Company) as of December 31, 1994 and 1995, and the related consolidated statements of operations, stockholders' equity (capital deficiency), and cash flows for each of the three years in the period ended December 31, 1995. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Source Media, Inc., at December 31, 1994 and 1995, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 1995, in conformity with generally accepted accounting principles. ERNST & YOUNG LLP Dallas, Texas February 9, 1996 F-8 75 SOURCE MEDIA, INC. CONSOLIDATED BALANCE SHEETS ASSETS
DECEMBER 31, ------------------------ SEPTEMBER 30, 1994 1995 1996 --------- ---------- ---------- (Unaudited) Current assets: Cash and cash equivalents........................ $ 127,010 $17,479,223 $12,159,425 Trade accounts receivable, less allowance for doubtful accounts of $105,812, $110,199 and $163,900 in 1994, 1995 and 1996, respectively.................................. 985,379 1,076,239 1,048,609 Prepaid expenses and other current assets........ 698,479 892,234 745,501 Deferred expenses................................ 1,048,560 889,393 768,167 ---------- ----------- ----------- Total current assets.......................... 2,859,428 20,337,089 14,721,702 Property and equipment: Production equipment............................. 2,409,663 2,421,816 2,212,074 Computer equipment............................... 799,556 927,672 1,806,267 Other equipment.................................. 750,809 960,446 1,922,863 Furniture and fixtures........................... 139,408 120,544 128,506 ---------- ----------- ----------- 4,099,436 4,430,478 6,069,710 Accumulated depreciation and amortization.......... 1,868,678 2,670,017 3,315,340 ---------- ----------- ----------- 2,230,758 1,760,461 2,754,370 Intangible assets: Patents.......................................... 3,597,989 3,597,989 3,597,989 Goodwill......................................... 3,010,137 3,010,137 3,010,137 ---------- ----------- ----------- 6,608,126 6,608,126 6,608,126 Accumulated amortization........................... 3,479,096 4,510,434 5,283,936 ---------- ----------- ----------- 3,129,030 2,097,692 1,324,190 Other non-current assets........................... -- -- 354,453 ---------- ----------- ----------- Total assets.................................. $8,219,216 $24,195,242 $19,154,715 ========== =========== ===========
F-9 76 SOURCE MEDIA, INC. CONSOLIDATED BALANCE SHEETS (CONTINUED) LIABILITIES AND STOCKHOLDERS' EQUITY (CAPITAL DEFICIENCY)
DECEMBER 31, --------------------------- SEPTEMBER 30, 1994 1995 1996 ----------- ----------- ----------- (Unaudited) Current liabilities: Notes payable................................... $ 1,000,000 $ -- $ -- Trade accounts payable.......................... 1,559,533 1,296,516 909,371 Accrued payroll................................. 189,083 258,734 213,049 Accrued dividends payable....................... 503,283 -- -- Other accrued liabilities....................... 1,148,066 1,650,091 1,252,499 Other accrued liabilities to related parties.... 204,880 -- -- Unearned income................................. 5,373,679 4,724,957 4,507,523 Current portion of long-term debt............... 330,000 -- -- Current portion of capital lease obligations.... 159,403 184,175 119,361 ------------ ------------ ------------ Total current liabilities.................... 10,467,927 8,114,473 7,001,803 Long-term debt, net of discount................... -- -- 4,580,365 Capital lease obligations......................... 163,101 35,039 38,407 Commitments and contingencies Minority interests in consolidated subsidiaries... 3,871,319 3,618,629 3,549,806 Note receivable and accrued interest from minority stockholder, net of discount of $220,850, $178,866 and $147,580 in 1994, 1995 and 1996 respectively.................................... (553,461) (610,175) (652,721) ------------ ------------ ------------ 3,317,858 3,008,454 2,897,085 Redeemable convertible preferred stock: Issued shares: $.20 Series A -- 5,943,437 shares in 1994 Series B -- 2,424,896 shares in 1994............ 16,235,797 -- -- Stockholders' equity (capital deficiency): Common stock, $.001 par value. Issued shares -- 4,520,829, 10,303,556 and 10,316,605 in 1994, 1995 and 1996, respectively.................. 4,521 10,304 10,317 Less treasury stock, at cost -- 13,438, 356,200 and 381,351 shares in 1994, 1995 and 1996, respectively................................. (10,000) (3,515,563) (3,757,641) Capital in excess of par value.................. 11,412,454 59,955,392 60,750,878 Accumulated deficit............................. (33,307,408) (43,076,663) (52,245,061) Foreign currency translation.................... (7,521) (34,619) (8,507) Notes receivable and accrued interest from stockholders................................. (57,513) (301,575) (112,931) ------------ ------------ ------------ Total stockholders' equity (capital deficiency)................................ (21,965,467) 13,037,276 4,637,055 ------------ ------------ ------------ Total liabilities and stockholders' equity (capital deficiency)....................... $ 8,219,216 $24,195,242 $19,154,715 ============ ============ ============
See Notes to Consolidated Financial Statements F-10 77 SOURCE MEDIA, INC. CONSOLIDATED STATEMENTS OF OPERATIONS
YEAR ENDED DECEMBER 31, NINE MONTHS ENDED SEPT. 30, ----------------------------------------- ------------------------ 1993 1994 1995 1995 1996 ----------- ----------- ----------- ---------- ---------- (Unaudited) Monetary revenues................ $ 6,431,294 $ 9,194,068 $ 9,341,720 $7,102,346 $6,405,778 Nonmonetary revenues............. 18,751,628 21,748,976 15,944,656 12,670,079 8,041,541 ------------ ------------ ------------ ----------- ----------- Total revenues................. 25,182,922 30,943,044 25,286,376 19,772,425 14,447,319 Monetary cost of sales........... 4,455,807 5,247,685 4,936,729 3,845,940 2,707,457 Nonmonetary cost of sales........ 18,751,628 21,748,976 15,944,656 12,670,079 8,041,541 ------------ ------------ ------------ ----------- ----------- Total cost of sales............ 23,207,435 26,996,661 20,881,385 16,516,019 10,748,998 ------------ ------------ ------------ ----------- ----------- Gross profit..................... 1,975,487 3,946,383 4,404,991 3,256,406 3,698,321 Selling, general, and administrative expenses........ 6,785,918 8,987,438 7,951,837 5,860,516 8,081,441 Amortization of intangible assets......................... 1,655,992 1,684,353 1,031,337 773,503 773,503 Research and development expenses....................... 1,338,787 2,705,557 3,750,244 2,614,344 4,414,119 Write-down of intangible assets......................... -- 1,900,000 -- -- -- ------------ ------------ ------------ ----------- ----------- 9,780,697 15,277,348 12,733,418 9,248,363 13,269,063 ------------ ------------ ------------ ----------- ----------- Operating loss................... (7,805,210) (11,330,965) (8,328,427) (5,991,957) (9,570,742) Interest expense................. 386,758 417,587 354,333 346,604 360,617 Interest income.................. (160,149) (122,011) (217,284) (156,383) (661,931) Other (income) expense........... 6,444 1,463,571 (24,782) (12,515) (32,207) Minority interests in losses of consolidated subsidiaries...... (145,745) (232,891) (252,689) (130,411) (68,823) Charges related to financing incentives..................... 2,025,938 -- 1,581,250 1,581,250 -- ------------ ------------ ------------ ----------- ----------- Net loss......................... (9,918,456) (12,857,221) (9,769,255) (7,620,502) (9,168,398) Preferred stock dividends........ 768,909 1,621,240 832,651 832,651 -- ------------ ------------ ------------ ----------- ----------- Net loss attributable to common stockholders................... $(10,687,365) $(14,478,461) $(10,601,906) $(8,453,152) $(9,168,398) ============ ============ ============ =========== =========== Net loss per common share........ $ (2.66) $ (3.22) $ (1.65) $ (1.48) $ (0.92) ============ ============ ============ =========== =========== Weighted average common shares outstanding.................... 4,021,579 4,498,298 6,412,690 5,727,735 9,932,528 ============ ============ ============ =========== =========== Supplemental net loss per common share.......................... $ -- $ (2.01) $ (1.28) $ (1.04) $ -- ============ ============ ============ =========== =========== Supplemental weighted average common shares outstanding...... -- 6,389,773 7,516,067 7,202,947 -- ============ ============ ============ =========== ===========
See Notes to Consolidated Financial Statements F-11 78 SOURCE MEDIA, INC. CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (CAPITAL DEFICIENCY)
NOTES TOTAL COMMON STOCK CAPITAL IN FOREIGN RECEIVABLE STOCKHOLDERS' ------------------- TREASURY EXCESS OF ACCUMULATED CURRENCY FROM EQUITY (CAPITAL SHARES AMOUNT STOCK PAR VALUE DEFICIT TRANSLATION STOCKHOLDERS DEFICIENCY) --------- ------- ---------- ---------- ----------- ----------- ------------ --------------- Balance at December 31, 1992........... 3,817,280 $3,817 $ (10,000) $5,985,522 $(10,531,731) $ (16,240) $ -- $(4,568,632) Issuance of common stock.............. 692,642 693 -- 6,786,197 -- -- -- 6,786,890 Nonmonetary employee compensation related to stock options............ -- -- -- 239,929 -- -- -- 239,929 Dividend-in-kind ($0.15 per Series A preferred share)... -- -- -- (768,908) -- -- -- (768,908) Notes receivable from stockholders....... -- -- -- -- -- -- (852,513) (852,513) Repayments of notes receivable from stockholders....... -- -- -- -- -- -- 800,000 800,000 Net loss............. -- -- -- -- (9,918,456) -- -- (9,918,456) Foreign currency translation........ -- -- -- -- -- 79,252 -- 79,252 --------- ------ ---------- ---------- ------------ --------- ----------- ----------- Balance at December 31, 1993........... 4,509,922 4,510 (10,000) 12,242,740 (20,450,187) 63,012 (52,513) (8,202,438) Issuance of common stock upon exercise of stock options... 4,583 5 -- 3,460 -- -- -- 3,465 Issuance of common stock to acquire patents............ 6,324 6 -- 99,994 -- -- -- 100,000 Issuance of warrants for services provided........... -- -- -- 456,250 -- -- -- 456,250 Nonmonetary employee compensation related to stock options............ -- -- -- 231,250 -- -- -- 231,250 Dividend-in-kind ($0.20 per Series A preferred share)... -- -- -- (1,117,957) -- -- -- (1,117,957) Dividend-in-kind ($0.21 per Series B preferred share)... -- -- -- (503,283) -- -- -- (503,283) Accrued interest on note receivable from stockholder... -- -- -- -- -- -- (5,000) (5,000) Net loss............. -- -- -- -- (12,857,221) -- -- (12,857,221) Foreign currency translation........ -- -- -- -- -- (70,533) -- (70,533) --------- ------ ---------- ---------- ------------ --------- ----------- ----------- Balance at December 31, 1994........... 4,520,829 4,521 (10,000) 11,412,454 (33,307,408) (7,521) (57,513) (21,965,467)
F-12 79 SOURCE MEDIA, INC. CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (CAPITAL DEFICIENCY) (CONTINUED)
NOTES TOTAL CAPITAL IN FOREIGN RECEIVABLE STOCKHOLDERS' COMMON STOCK TREASURY EXCESS OF ACCUMULATED CURRENCY FROM EQUITY (CAPITAL SHARES AMOUNT STOCK PAR VALUE DEFICIT TRANSLATION STOCKHOLDERS DEFICIENCY) ---------- ------- --------- ---------- ----------- ----------- ----------- ------------ Issuance of common stock upon exercise of stock options... 84,639 85 -- 254,685 -- -- (225,000) 29,770 Nonmonetary employee compensation related to stock options............ -- -- -- 46,875 -- -- -- 46,875 Dividend-in-kind ($0.10 per Series A preferred share)... -- -- -- (564,022) -- -- -- (564,022) Dividend-in-kind ($0.13 per Series B preferred share)... -- -- -- (268,629) -- -- -- (268,629) Issuance of warrant on bridge financings......... -- -- -- 1,581,250 -- -- -- 1,581,250 Conversion of notes payable to common stock.............. 67,570 68 -- 329,932 -- -- -- 330,000 Conversion of preferred stock to common stock in the Merger............. 2,109,516 2,109 -- 17,553,869 -- -- -- 17,555,978 Company common stock deemed issued in the Merger......... 1,184,440 1,184 -- 8,905,898 -- -- -- 8,907,082 Redemption of Merger dissenting shares............. -- -- (527,220) -- -- -- -- (527,220) Merger expenses...... -- -- -- (1,135,099) -- -- -- (1,135,099) Cancellation of treasury stock in the Merger......... (13,438) (13) 10,000 (9,987) -- -- -- -- Accrued interest on notes receivable from stockholders....... -- -- -- -- -- -- (19,062) (19,062) Issuance of common stock in secondary offering........... 2,350,000 2,350 -- 21,848,166 21,850,516 Purchase of treasury stock.............. (2,988,343) (2,988,343) Net loss............. -- -- -- (9,769,255) -- (9,769,255) Foreign currency translation........ -- -- -- -- -- (27,098) -- (27,098) ---------- ------ ----------- ---------- ----------- -------- --------- ---------- Balance at December 31, 1995........... 10,303,556 10,304 (3,515,563) 59,955,392 (43,076,663) (34,619) (301,575) 13,037,276
F-13 80 SOURCE MEDIA, INC. CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (CAPITAL DEFICIENCY) (CONTINUED)
NOTES TOTAL COMMON STOCK CAPITAL IN FOREIGN RECEIVABLE STOCKHOLDERS' ------------------- TREASURY EXCESS OF ACCUMULATED CURRENCY FROM EQUITY (CAPITAL SHARES AMOUNT STOCK PAR VALUE DEFICIT TRANSLATION STOCKHOLDERS DEFICIENCY) --------- ------- ---------- ---------- ----------- ----------- ------------ --------------- Issuance of common stock upon exercise of stock options... 13,049 13 -- 79,699 -- -- -- 79,712 Issuance of warrant with First Tranche Note............... -- -- -- 745,830 -- -- -- 745,830 Issuance of note receivable to stockholder........ -- -- -- -- -- -- (47,998) (47,998) Repayment of notes receivable and accrued interest from stockholder through surrender of common stock.... -- -- (242,078) -- -- -- 242,078 -- Other................ -- -- -- (30,043) -- -- (5,436) (35,479) Net loss............. -- -- -- -- (9,168,398) -- -- (9,168,398) Foreign currency translation........ -- -- -- -- -- 26,112 -- 26,112 ---------- -------- ----------- ----------- ------------ ------- --------- ----------- Balance as of Septem- ber 30, 1996 (unaudited)........ 10,316,605 $10,317 $(3,757,641) $60,750,878 $(52,245,061) $(8,507) $(112,931) $ 4,637,055 ========== ======= =========== =========== ============ ======= ========= ===========
See Notes to Consolidated Financial Statements F-14 81 SOURCE MEDIA, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS
NINE MONTHS ENDED YEAR ENDED DECEMBER 31, SEPTEMBER 30, --------------------------------------- ------------------------ 1993 1994 1995 1995 1996 ---------- ----------- ---------- ---------- ---------- (Unaudited) OPERATING ACTIVITIES Net loss...................... $(9,918,456) $(12,857,221) $(9,769,255) $(7,620,502) $(9,168,398) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation.................. 475,536 732,049 801,339 636,353 645,323 Amortization of intangible assets...................... 1,655,992 1,684,332 1,031,337 773,503 773,502 Write-down of intangible assets...................... -- 1,900,000 -- -- -- Warrants issued for services provided.................... -- 456,250 -- -- -- Provision for losses on accounts receivable......... 260,296 32,353 108,123 89,475 86,983 Minority interests in net losses...................... (145,745) (232,891) (252,689) (130,411) (68,823) Charges relating to financing incentives.................. 2,025,938 -- 1,581,250 1,581,250 -- Other, net.................... 227,768 172,036 (28,903) (7,809) (157,152) Changes in operating assets and liabilities: Trade accounts receivable... (875,580) 327,849 (198,983) (136,192) (59,353) Prepaid expenses and other current assets........... (693,371) 254,004 (193,754) 110,927 146,733 Deferred expenses........... (513,426) (397,245) 159,168 (25,445) 121,226 Trade accounts payable...... (152,793) 568,058 (263,017) 294,395 (387,145) Accrued payroll............. (145,763) (313,149) 69,651 82,851 (45,685) Other accrued liabilities... (420,884) 558,461 502,025 (2,072) (70,786) Other accrued liabilities to related parties.......... 473,505 (268,685) (204,880) (166,263) -- Unearned income............. 1,731,389 1,030,799 (648,722) (375,557) (217,434) ---------- ------------ ----------- ----------- ----------- Net cash used in operating activities.................. (6,015,594) (6,353,000) (7,307,310) (4,895,497) (8,401,009) INVESTING ACTIVITIES Capital expenditures.......... (928,174) (412,438) (257,888) (196,598) (1,449,213) Proceeds from advance payment of note receivable from director.................... 800,000 -- -- -- -- Funding of note receivable from minority stockholder... (750,000) -- -- -- -- ---------- ------------ ----------- ----------- ----------- Net cash used in investing activities.................. (878,174) (412,438) (257,888) (196,598) (1,449,213) FINANCING ACTIVITIES Proceeds from issuance of debt and warrant................. $2,150,000 $ 1,000,000 $3,050,000 $2,825,000 $5,000,000 Payments on debt.............. -- (200,000) (4,050,000) (4,380,000) -- Payment of fees and expenses associated with issuance of debt and warrant............ -- -- -- -- (393,891)
F-15 82 SOURCE MEDIA, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
NINE MONTHS ENDED YEAR ENDED DECEMBER 31, SEPTEMBER 30, -------------------------------------- ------------------------- 1993 1994 1995 1995 1996 ----------- ---------- ----------- ----------- ------------ (Unaudited) Payments on debt to related parties..................... (473,965) -- -- -- -- Payments on capital lease obligations................. (361,456) (164,800) (176,503) (129,293) (151,466) Proceeds from issuance of common stock upon exercise of stock options............ 6,182 3,465 29,770 574,230 79,712 Proceeds from issuance of common stock in secondary offering, net of fees and expenses.................... -- -- 21,850,516 -- -- Purchase of treasury stock.... -- -- (2,988,343) -- -- Proceeds from issuance of preferred stock net of fees and expenses................ 6,496,019 5,054,787 -- -- -- Cash acquired in the Merger... -- -- 8,891,389 8,891,389 -- Payment of fees and expenses associated with Merger...... -- -- (1,135,099) (1,135,159) -- Redemption of Merger dissenter shares...................... -- -- (527,220) (527,220) -- Other......................... -- -- -- -- (30,043) ----------- ----------- ---------- ----------- ------------ Net cash provided by financing activities.................. 7,816,780 5,693,452 24,944,510 6,118,947 4,504,312 Effect of exchange rate changes on cash and cash equivalents................. 14,483 (35,859) (27,099) (33,105) 26,112 ----------- ----------- ---------- ----------- ------------ Net increase (decrease) in cash and cash equivalents... 937,495 (1,107,845) 17,352,213 993,747 (5,319,798) Cash and cash equivalents at beginning of period......... 297,360 1,234,855 127,010 127,010 17,479,223 ----------- ----------- ---------- ----------- ------------ Cash and cash equivalents at end of period............... $1,234,855 $ 127,010 $17,479,223 $1,120,757 $12,159,425 ========== =========== =========== ========== =========== Supplemental Disclosures of Cash Flow Information Cash paid during the period for: Interest on long-term debt, notes payable, and capital leases........... $ 287,188 $ 417,587 $ 354,333 $ 346,604 $ 33,811 ========== =========== ========== ========== ==========
See Notes to Consolidated Financial Statements F-16 83 SOURCE MEDIA, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. COMPANY HISTORY AND DESCRIPTION Source Media, Inc. (the Company), through its wholly-owned subsidiary IT Network, Inc. (IT), is a provider of information and services to consumers through the television and telephone. The Company's Interactive Channel, which is in the development stage, is designed to provide a range of on-line information and services to consumers utilizing cable television and telephone lines. Subscribers will be able to use the Interactive Channel's menu-driven navigational system to access desired interactive programming presented in the format of photographic quality, still-frame pictures, text and graphics accompanied by audio. For the past seven 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 of the Company reflect the operations of its On-Line Telephone Business and general, development, advertising and promotion expenses related to the Interactive Channel. IT was incorporated on July 19, 1988, as a Colorado corporation and subsequently, on July 23, 1991, reincorporated in Texas. On June 23, 1995, IT merged (the Merger ) into a wholly-owned subsidiary of HB Communications Acquisition Corp. (HBAC). Pursuant to the Merger agreement, IT's outstanding common stock and preferred stock were converted into an aggregate 6,696,992 shares of the Company's common stock. In connection with the Merger, HBAC changed its name to Source Media, Inc. Because the Merger resulted in IT's stockholders having a majority ownership in SMI, the Merger was accounted for as an issuance of IT's shares in exchange for the net assets of SMI. In connection with the Merger, SMI paid $527,000 to redeem 50,500 HBAC common shares held by dissenting stockholders and repaid $4,100,000 of IT debt and related accrued interest. 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. Accordingly, 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 period and dates. HBAC was formed as a Delaware corporation in January 1993 for the purpose of acquiring a company in the communications industry. To provide the funds for such acquisition, in June 1993, HBAC consummated an initial public offering of units consisting of shares of common stock and warrants to purchase shares of common stock. HBAC incurred a net loss of approximately $392,000 for the year ended December 31, 1994, and reported net income of approximately $177,000 for the three months ended March 31, 1995. As these amounts are not significant if combined with the results of operations of IT, pro forma statement of operations data for these periods have not been presented. At the time of the Merger, HBAC's only monetary asset was cash of approximately $8.9 million. The Company has authorized for issuance up to 1,000,000 shares of $.001 par value preferred stock and 50,000,000 shares of $.001 par value common stock. On September 19, 1995 stockholders of the Company approved a 1-for-2 reverse split of its common stock to be effective on October 10, 1995. All historical share and per-share amounts presented herein have been retroactively adjusted to reflect the reverse split. In addition, historical share and per-share amounts presented herein have been retroactively adjusted to reflect the SMI shares issued or issuable to the former IT common stockholders as part of the Merger. 2. SIGNIFICANT ACCOUNTING POLICIES PRINCIPLES OF CONSOLIDATION The consolidated financial statements include the accounts of the Company; its wholly-owned subsidiary IT; and IT's majority-owned Canadian subsidiaries, Cableshare Inc., a publicly traded company (Cableshare), and 997758 Ontario Inc. (997758), (collectively, the Company). All material intercom- F-17 84 SOURCE MEDIA, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) pany amounts and transactions have been eliminated. Certain amounts from prior years have been reclassified to conform with the current year presentation. USE OF ESTIMATES The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. MINORITY INTERESTS Minority interests represent the minority stockholders' proportionate shares of the equity of both Cableshare and 997758. At December 31, 1994 and 1995, the Company owned approximately 51% of Cableshare's capital stock, representing approximately 74% voting control. At December 31, 1994 and 1995, the Company owned 100% of the voting Class X shares of 997758, while an individual owned 100% of the Class Y nonvoting shares of 997758, as more fully discussed in Note 5 -- Stock Options, Warrants and Shares Reserved for Future Issuance. CASH AND CASH EQUIVALENTS The Company classifies all highly liquid investments with original maturities of three months or less to be cash equivalents. MONETARY REVENUE RECOGNITION To date, the Company has earned monetary revenues through advertising sponsorships of its On-Line Telephone Business. Monetary revenues are recognized on a straight-line basis over the term of the respective contracts, beginning at the time of the annual distribution of the applicable local Yellow Pages directory, or at the applicable contract start date, if later, and continuing to the end of the term of the respective contracts, which is typically from 3 to 12 months. The Company has entered into agreements with certain Regional Bell Operating Companies or their affiliates (RBOCs) whereby the Company agreed to share certain revenues and the RBOCs agreed to bear certain costs. Under the terms of certain of these agreements, the Company's sales force sells certain advertising sponsorships for the Company's interactive telephone programming. In these cases, the Company recognizes the full amount of revenues received, pursuant to sponsorships sold by the Company's sales personnel, as revenue on a straight-line basis and recognizes the RBOCs' costs under such agreements as cost of sales. In other agreements, the RBOCs sales force sells such sponsorships. In these cases, the Company recognizes as revenues only its share of the contract amount as these services are provided. NONMONETARY REVENUE RECOGNITION In each of its markets, the Company has entered into nonmonetary barter agreements with local television and radio stations. These media sponsors provide the Company with advertising time on their stations and update local news, weather and sports programming on the On-Line Telephone Service in exchange for promotional messages provided in connection with the On-Line Telephone Business and print advertisements in the Company's printed 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. Nonmonetary revenues and cost of sales are recognized on a straightline basis over the terms of the respective contracts. The Company was obligated to provide future services and was entitled to receive F-18 85 SOURCE MEDIA, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) future advertising and information content of $14,967,402 and $9,430,099 at December 31, 1994 and 1995, respectively. DEFERRED EXPENSES Under its agreements with certain RBOCs, the Company pays the RBOCs fees equal to a percentage of cash collected under monetary contracts with advertisers, as discussed above. Such fees are paid to the RBOCs prior to the end of the contracts with the advertisers, while the related expenses are recognized on a straight-line basis over the length of the advertising contracts. Accordingly, deferred expense represents cumulative fees paid to the RBOCs, under revenue and cost-sharing agreements, in excess of cumulative expenses recognized under the same contracts. PROPERTY AND EQUIPMENT Property and equipment are recorded at cost. Depreciation and amortization, including the amortization of assets recorded under capital lease obligations (which is included in depreciation expense), are computed by the straight-line method over the estimated useful lives of the assets. Production equipment and computer and other equipment are depreciated over a five-year period. Furniture and fixtures are depreciated over a seven-year period. INTANGIBLE ASSETS Goodwill is related to the acquisition of the Cableshare interest and is amortized using the straight-line method over an estimated useful life of five years. Patents are also amortized using the straight-line method over an estimated useful life of five years. The Company continually reevaluates the propriety of the carrying value of intangible assets, as well as the amortization periods, to determine whether current events and circumstances warrant adjustment to the carrying value or revisions to estimates of useful lives. To measure any potential impairment of goodwill and patents, the Company periodically compares the carrying value of its investment in Cableshare to its equity ownership percentage of the fair market value of Cableshare. As a result of this periodic evaluation, effective December 31, 1994, the Company recorded a write-down of its patents and goodwill in the amount of $1,900,000. UNEARNED INCOME Under its monetary contracts with advertisers, the Company typically bills the sponsorship fees before the end of the contracts, while revenue is earned on a straight-line basis over the length of the same contracts. Accordingly, unearned income represents cumulative amounts billed under monetary contracts in excess of cumulative revenues earned under the same contracts. TRANSLATION OF FOREIGN CURRENCIES The financial positions and results of operations of Cableshare and 997758 are measured using local currency as the functional currency. Assets and liabilities of these subsidiaries are translated at the exchange rate in effect at each year-end. Statement of operations accounts are translated at the average rate of exchange prevailing during the year. Translation adjustments arising from the use of differing exchange rates from period to period are included in the foreign currency translation account in stockholders' equity. STOCK OPTIONS The Company accounts for employee and director stock option grants in accordance with Accounting Principles Board Opinion No. 25, Accounting For Stock Issued to Employees (APB 25) and related Interpretations. Under APB 25, no compensation expense is recognized for stock option grants to F-19 86 SOURCE MEDIA, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) employees and directors if the exercise price of the Company's stock option grants is at or above the fair market value of the underlying stock on the date of grant. COMPUTATION OF 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 IT common stockholders as part 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 and the common stock issued upon the conversion of the preferred stock of IT are included in the computation from the date of the Merger. Supplemental net loss per common share and supplemental weighted average common shares outstanding are provided under the assumption the Merger took place at the beginning of the respective periods indicated. 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 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 for each period. Supplemental net loss is computed as historical net loss less the impact of interest expense related to the $4.1 million of IT debt and related accrued interest repaid with the proceeds from the Merger. EXPENSES RELATED TO DISCONTINUED PUBLIC OFFERING Included in Other Income (Expense) during 1994 are expenses of $1,479,000 associated with a discontinued public offering. UNAUDITED INTERIM INFORMATION The interim consolidated financial information contained herein is unaudited but, in the opinion of management, includes all adjustments, which are of a normal recurring nature, necessary for a fair presentation of the financial position, results of operations, and cash flows for the periods presented. Results of operations for the nine months ended September 30, 1996 are not necessarily indicative of the results that may be expected for the entire year ending December 31, 1996. 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 in Cableshare, and the Company's 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, and is F-20 87 SOURCE MEDIA, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) exercisable, in whole or in part, at any time until its expiration on March 31, 2001. The Company also granted the holders of the warrant demand and "piggyback" registration rights covering the shares of the Company's common stock issuable upon exercise of the warrant. 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%. In April 1996, Cableshare and GTE Corporation and GTE Mainstreet Incorporated (collectively, "GTE") agreed to dismiss all litigation between Cableshare and GTE, and Cableshare and the Company granted a license to GTE, for a fee, of the Cableshare United States patents. 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 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. 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. 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. 3. LONG-TERM DEBT AND NOTES PAYABLE During March and April 1992 the Company issued convertible notes (Convertible Notes) to a director and outside investors for proceeds of $3,000,000 (stated interest rate of 12%, effective interest rate of 17%). As discussed more fully in Note 9 -- Charges Related to Financing Incentives, in April and May 1993, several of these investors, including the director, converted their Convertible Notes into shares of the Company's common stock. Upon conversion, the Convertible Notes were canceled. Of the original proceeds of $3,000,000, Convertible Notes of $330,000, excluding accrued interest, were outstanding as of December 31, 1994. In September 1995, the remaining investors converted their Convertible Notes into 67,570 shares of the Company's common stock. Upon conversion, the Convertible Notes were canceled. During December 1994 the Company entered into two $500,000 demand promissory note agreements (1994 Notes Payable) which bore interest at the rate of 10%, with 21st Century Investments (21st Century), a New York general partnership and Company stockholder. As an inducement to 21st Century to provide the 1994 Notes Payable to the Company, the Company agreed in principle to negotiate and subsequently issue and sell to 21st Century an aggregate $2,000,000 of 10% senior secured notes, together with warrants to purchase up to 537,500 shares of the Company's common stock, to effect certain amendments to the Certificate of Designations relating to the Company's Series A Preferred Stock and Series B Convertible Preferred Stock (Series B Preferred Stock), to amend the terms of certain existing warrants to acquire shares of the Company's common stock that are currently held by an affiliate of 21st Century, and to grant certain registration rights with respect to shares of common stock currently held by 21st Century and its affiliates. During 1995, the Company entered into two loan agreements (collectively, F-21 88 SOURCE MEDIA, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) the 1995 Loan Agreements), at a rate of 10%, with several individuals, institutions and 21st Century, acting as agent (the Lenders). Proceeds from the 1995 Loan Agreements consisted of $3,050,000 and the cancellation of the 1994 Notes Payable in the amount of $1,000,000. Advances under the 1995 Loan Agreements were repaid on the closing date of the Merger (see Note 1 -- Company History and Description ). 4. REDEEMABLE CONVERTIBLE PREFERRED STOCK On April 9, 1993, the Company issued to three investors an aggregate of 5,000,000 shares of its mandatorily redeemable Series A Preferred Stock in a private placement for proceeds of $10,000,000, consisting of $7,200,000 of cash and the conversion of certain debt and accrued interest. Dividends of $.20 per share per annum were payable quarterly. Dividends were payable in-kind the first year, at the election of the Company, and at the election of each investor the second year and were cumulative in years two through five. The Company exercised its option to pay dividends in-kind on its Series A Preferred Stock during 1993 and, in 1995, made changes to the Series A Preferred Stock's Certificate of Designations to allow 1994 and future dividends to be paid in-kind. During 1993, 1994 and 1995, the Company issued 384,454 shares, 557,214 shares, and 289,199 shares, respectively, of Series A Preferred Stock in payment of Series A Preferred Stock dividends of $768,909 ($0.15 per share), $1,117,955 ($0.20 per share), and $564,022 ($0.10 per share), respectively. The number of shares in-kind issued to satisfy dividend requirements was determined by dividing the calculated dividend amount by the Series A Preferred Stock liquidation preference amount of $2.00 per share. In March 1994 a Certificate of Designations was filed authorizing the issuance of 4,545,454 shares of mandatorily redeemable Series B Preferred Stock and the Company issued, to ten investors, an aggregate 2,424,896 shares of Series B Preferred Stock in a private placement for net proceeds of $5,052,916, consisting of $4,865,916 of cash and a $187,000 conversion of a liability to one of its investors. Dividends of $0.22 per share per annum through September 30, 1994, $0.242 per share per annum from October 1, 1994 through March 31, 1995, and $0.264 per share per annum thereafter, were payable in cash quarterly and were cumulative. At December 31, 1994, the Company had dividends in arrears totaling $503,285 which were subsequently paid in-kind. See Note 1 -- Company History and Description for a description of the effect of the Merger on such preferred stock. 5. STOCK OPTIONS, WARRANTS AND SHARES RESERVED FOR FUTURE ISSUANCE STOCK OPTIONS Effective October 31, 1989, the Company established a qualified incentive employee stock option plan. Options granted in 1989 and 1990 have a term of ten years from the date of grant and vest 33 1/3% at the end of one year from the date defined in the stock option agreements, and 33 1/3% at the end of each of the two years thereafter. During December 1991 and 1993, the Company established additional qualified incentive employee stock option plans whereby granted options have a term of ten years from the date of grant and vest 20% at the end of one year from the date defined in the stock option agreement, and 20% at the end of each of the four years thereafter. During 1995, HBAC adopted the 1995 Performance Equity Plan (the Equity Plan). The Equity Plan provides for the grant of options to purchase shares of the Company's common stock to employees, officers, directors, and consultants of the Company and its subsidiaries, including IT. The Equity Plan authorizes the granting of awards (stock options, stock appreciation rights, restricted stock, deferred stock, stock reload options, and/or other stock-based awards, as defined), the exercise of which would allow up to an aggregate of 500,000 shares of the Company's common stock to be acquired. As of F-22 89 SOURCE MEDIA, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) December 31, 1995, there were options outstanding under the Equity Plan to purchase 141,001 shares of Common Stock at an exercise price of $10.37 per share. During September 1995, the Board of Directors of the Company adopted the 1995 Nonqualified Stock Option Plan for Non-Employee Directors (the Directors' Plan), subject to approval by the Company's stockholders at the next annual meeting. The Directors' Plan provides for the automatic annual grant to each non-employee director of the Company an option to purchase 3,000 shares of Common Stock. Options granted under the Directors' Plan have an exercise price equal to the fair market value of the Common Stock on the date of grant and will be exercisable at any time from the date of grant until the fifth anniversary thereof. The Directors' Plan provides for the grant of options to purchase up to 150,000 shares of Common Stock. As of December 31, 1995, there were options outstanding under the Directors' Plan to purchase 12,000 shares of Common Stock at an exercise price of $10.89 per share.
OPTIONS SHARES OPTION OR AVAILABLE UNDER AGGREGATE EXERCISE EMPLOYEE STOCK OPTION ACTIVITY FOR GRANT OPTION PRICE PRICE ----------------------------------------- --------- ------- ----------- ------------ Balance at December 31, 1992............. 36,327 172,582 $ 1,422,842 $0.74-$26.79 Options authorized..................... 268,750 -- -- Options granted........................ (90,408) 90,408 1,847,580 3.72-26.79 Options exercised...................... -- (2,688) (2,000) 0.74 Options canceled....................... 12,465 (12,465) (63,275) 0.74-26.79 --------- ------- ----------- Balance at December 31, 1993............. 227,134 247,837 3,205,147 0.74-26.79 Options authorized..................... -- -- -- Options granted........................ (70,816) 70,816 1,897,200 26.79 Options exercised...................... -- (4,583) (3,465) 0.74-26.79 Options canceled....................... 45,324 (45,324) (679,675) 26.79 --------- ------- ----------- Balance at December 31, 1994............. 201,642 268,746 4,419,207 0.74-26.79 Options authorized..................... 500,000 -- -- Options repriced....................... -- -- (2,449,709) Options granted........................ (220,586) 220,586 2,247,607 9.77-11.50 Options exercised...................... -- (84,688) (261,353) 0.74-3.72 Options canceled....................... 56,035 (56,035) (684,034) 9.77-26.79 Options assumed canceled............... (178,092) -- -- --------- ------- ----------- Balance at December 31, 1995............. 358,999 348,609 $ 3,271,708 $0.74-$11.50 ======== ======= ==========
As the Company does not intend to grant any additional options pursuant to the 1989 Plan, the 1991 Plan and the 1993 Plan, all remaining options available for grant under such plans are assumed to be canceled. In March 1995 the Board of Directors approved a reduction in the exercise price of certain of the Company's outstanding employee stock options. In total, 145,783 options with exercise prices of $14.88 and $26.79 per share were revised to an exercise price of $9.77 per share, which represented fair market value. Options representing 121,384 and 120,809 shares were exercisable at December 31, 1994 and 1995, respectively. WARRANTS At December 31, 1991, the Company had outstanding warrants to purchase 78,373 shares of its common stock at $11.16 per share under an agreement dated February 1, 1991. The warrants are exercisable at any time up to the expiration date of February 1, 2001. These warrants were subsequently amended whereby the number of shares was increased to 83,085, and the exercise price was decreased to $10.79 per share. F-23 90 SOURCE MEDIA, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) In February 1992 the Company granted a warrant to purchase 10,079 shares of the Company's common stock, exercisable at $24.78 per share, to an individual in return for his guarantee of certain Company indebtedness, which has since been repaid. In February 1993 this warrant was amended to reduce the exercise price of the shares to $18.60 per share in return for an extension of the guarantee. This amended warrant is exercisable at any time up to the expiration date of February 10, 1998. On September 24, 1992, the Company's subsidiary, 997758, entered into an agreement with an individual to issue shares of 997758's nonvoting Class Y shares in exchange for Class A Subordinate Voting Shares and Class B Multiple Voting Shares of Cableshare owned by such individual. The individual has the right at any time through February 14, 2000, to exchange any or all of the Class Y shares of 997758 for up to an aggregate of 206,376 shares of the Company's common stock. Each exercise of the exchange rights shall include at least Cdn $150,000 in value of Class Y shares of 997758 being exchanged for the Company's common stock. During December 1992, the Company issued a warrant (the Hartford Warrant) to an insurance company to purchase 67,188 shares of common stock of the Company in connection with the purchase of $3,000,000 of convertible Senior Secured Notes, which were subsequently converted into common stock in 1993. The agreement entitled the warrant holder to exercise its warrant at an initial exercise price of $18.60 per share at any time up to the expiration date of December 21, 2002. The Hartford Warrant agreement provides for certain registration rights and the exercise price may be adjusted from time to time upon the occurrence of events enumerated in the agreement. As a result various events, the Hartford Warrant was adjusted to a per-share price of $10.50, and the number of shares issuable upon the exercise of such warrant was increased to 105,282. During December 1992 the Company issued a warrant (the Dublind Warrant) to an individual to purchase 94,063 shares of common stock of the Company in consideration for certain financial consulting services provided to the Company. The agreement entitled the warrant holder to exercise its warrant at an initial exercise price of $18.60 per share at any time up to the expiration date of December 21, 2002. The Dublind Warrant agreement provides for certain registration rights and the exercise price may be adjusted from time to time upon the occurrence of events enumerated in the agreement. As a result of various events, the Dublind Warrant was adjusted to a per-share price of $10.50, and the number of shares issuable upon the exercise of such warrant was increased to 147,394. As consideration for participation of certain of its partners on an advisory committee through March 31, 1995, a Series B Preferred Stock holder received warrants (the Advisory Warrants) to purchase an aggregate 322,500 shares of the Company's common stock. The warrants were exercisable at prices and times depending upon an initial public offering of the Company's common stock, or conversion of the Company's Series B Preferred Stock. As a result of the issuance of these warrants, the Company recorded approximately $456,000 in selling, general, and administrative expenses in the year ended December 31, 1994. In January 1995, in connection with one of the 1995 Loan Agreements, certain of the Lenders received warrants (the 1995 Warrants) to purchase an aggregate of 645,000 shares of the Company's common stock. GKN Securities Corp., the broker of the 1995 Loan Agreements, received $140,000 and warrants (the GKN Warrants) to purchase an aggregate of 75,250 shares of the Company's common stock. In May 1995, certain of the Lenders agreed to cancel the Advisory Warrants and certain of the 1995 Warrants allowing for the purchase of an aggregate of 268,750 shares of the Company's common stock, in exchange for the issuance of warrants (the Funding Warrants) to purchase, either by the tendering of cash or shares of the Company's common stock, up to 1,034,687 shares of the Company's common stock at an exercise price of $7.44 per share, subject to adjustment for antidilution. The remaining 1995 Warrants not converted into Funding Warrants, providing for the purchase of 376,250 shares of Common Stock, as well as the GKN Warrants, were converted into warrants for the purchase of shares of the F-24 91 SOURCE MEDIA, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) Company's common stock at an exercise price of $11.00 per share through June 2000, which may be redeemed by the Company at a price of $0.01 per warrant upon 30 days' notice at any time in the event that the best sales price of the common stock is at least $20.00 per share for 20 consecutive trading days ending on the third day prior to the date on which notice of redemption is given (the Public Warrants). The Funding Warrants and the Public Warrants contain provisions providing for certain registration rights. On July 13, 1995 the Company entered into an agreement with Hackman, Baring & Co., Incorporated, a stockholder of the Company owned equally by Rhodric Hackman and John Baring, directors of the Company, whereby Hackman, Baring & Co., Incorporated was engaged for a six-month period to act as advisor to the Company in connection with investor relations and future financings. In connection with the public offering of the common stock in December 1995, the Company issued in the first quarter of 1996 to Hackman, Baring & Co., Incorporated warrants to purchase 25,000 shares of the Company's common stock at an exercise price of $11.00 per share, at any time up to June 23, 2000, on which date the warrants will expire. Such warrants have piggyback registration rights and the value of the warrants is de minimis. At the time of the Merger, HBAC had reserved for issuance 1,903,302 shares of common stock for various outstanding warrants, including Public Warrants for the purchase of 1,875,000 shares of the Company's common stock. The remaining HBAC warrants are exercisable at prices of $10.60 - $11.00 each through June 1998. SHARES RESERVED FOR FUTURE ISSUANCE As of December 31, 1995, 4,824,313 common shares were reserved for future issuance, as follows:
NUMBER OF SECURITY RESERVED SHARES -------- --------------- Public Warrants.......................................................... 2,326,500 Other warrants........................................................... 1,433,829 Employee and director stock options...................................... 857,608 997758 Class Y Stock put rights.......................................... 206,376 --------- 4,824,313 =========
6. NOTES RECEIVABLE FROM STOCKHOLDERS In 1993 the Company made a loan, bearing interest at a rate of 10% per annum, of $770,000 to a director and stockholder. Unpaid principal and interest were due May 31, 1995. The director used the proceeds to exercise an option representing 77,400 shares of common stock. In December 1993, the director and stockholder paid the note receivable of $770,000 plus accrued interest of $30,000. In consideration for paying this note prior to the due date, the Company forgave $15,000 of accrued interest. In addition, the Company agreed to pay the director and stockholder $15,000 per month for 24 months, in the aggregate $360,000, of which approximately 31% was related to a note discount and 69% was related to compensation to the director and stockholder for an option which had terminated. In 1993 the Company recorded $341,000 of charges related to financing incentives representing the forgiveness of interest and the discounted value of the monthly payments to the director and stockholder, as discussed in Note 9 -- Charges Related to Financing Incentives. On May 20, 1993, the Company loaned $750,000 to the individual holding Class Y shares of 997758, which note is secured by the individual's holdings in 997758 and bears interest at a rate per annum of 2%, payable quarterly. The unpaid principal and interest become due on May 20, 2000. The Company recorded a discount of $292,000 to reflect the difference between the actual interest rate and a reasonable F-25 92 SOURCE MEDIA, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) market rate (10%) and increased goodwill accordingly. The note and accrued interest are reflected as a reduction of minority interests in the accompanying consolidated balance sheet. On June 30, 1993, the Company loaned $50,000 to an officer, director, and stockholder. This loan is evidenced by a nonrecourse promissory note, as amended, and bears interest at the rate of 10% per annum, with the principal amount and accrued interest due and payable on May 31, 1997. Payment of the note is secured by a pledge of 6,719 shares of common stock. Amounts outstanding, including accrued interest, are included in stockholders' equity (capital deficiency) in the accompanying consolidated balance sheets. In May 1995, the Company loaned $225,000 to an officer and stockholder. Such loan is evidenced by a nonrecourse promissory note bearing interest at the rate of 10% per annum, with principal and accrued interest due May 31, 1997. Payment of the note is secured by a pledge of 24,188 shares of the Company's common stock. Subsequent to year end, the officer and stockholder repaid the note and all accrued interest through a surrender of common stock with a fair market value equal to the outstanding note and accrued interest as of the date of repayment. 7. LEASES The Company leases office space and various office equipment under operating leases. Rent expense was $346,305, $522,093, and $508,349 for the years ended December 31, 1993, 1994, and 1995, respectively. The Company leases certain production equipment under capital leases having effective interest rates ranging from 3.7% to 21%, with lease terms that expire through 1997. Assets recorded under capital leases were $454,198 at December 31, 1994 and 1995. Accumulated amortization related to these assets was $111,796 and $197,561 at December 31, 1994 and 1995, respectively. 8. INCOME TAXES At December 31, 1995, the Company had net operating loss carryforwards of approximately $28.8 million for United States income tax purposes, that expire in 2003 through 2010, which may be used to reduce future United States taxable income and tax liabilities. F-26 93 SOURCE MEDIA, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts reported for income tax purposes. Significant components of the Company's deferred tax liabilities and assets as of December 31 are as follows:
1994 1995 ----------- ----------- Deferred tax liabilities: Tax over book depreciation................................ $ (119,012) $ (92,502) Other, net................................................ -- (302,394) ------------ ------------ Total deferred tax liabilities............................ (119,012) (394,896) Deferred tax assets: Net operating loss carryforwards........................ 8,751,919 12,386,189 Investment tax credits.................................. 3,337,000 3,431,000 Unearned income......................................... 1,776,128 1,555,418 Accrued compensation.................................... 302,540 342,160 Accrued expenses........................................ 150,197 53,754 Other, net.............................................. 28,402 37,729 ------------ ------------ Total deferred tax assets................................. 14,346,186 17,806,250 Valuation allowance for deferred tax assets............... (14,227,174) (17,411,354) ------------ ------------ Net of valuation allowance.............................. 119,012 394,896 ------------ ------------ Net deferred tax asset.................................... $ -- $ -- ============ ============
During the years ended December 31, 1994 and 1995, the Company's valuation allowance for deferred tax assets increased $2,911,168 and $3,184,180, respectively. The Tax Reform Act 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. At December 31, 1995, Cableshare had net operating loss carryforwards for Canadian income tax purposes of approximately Cdn $9.1 million, expiring in 1998 through 2001, which may be used to reduce future Canadian taxable income and tax liabilities of Cableshare. Cableshare also has available at December 31, 1995, subject to Revenue Canada's review, investment tax credits totaling Cdn $4.7 million, expiring in 1997 through 2003. In 1994, Cableshare was reassessed by Revenue Canada for 1988, reducing investment tax credits available to offset income taxes otherwise payable in future years by Cdn $1,900,000 and requiring repayment of Cdn $315,000 of such credits which had been received, together with interest of Cdn $295,000. Cableshare disputes this reassessment and intends to vigorously defend itself against this action; however, such amounts have been recorded as a liability in Cableshare's financial statements. At December 31, 1995, Cableshare had net operating loss carryforwards for Ontario Provincial income tax purposes of approximately Cdn $9.6 million, expiring in 1998 through 2002, which may be used to reduce future Ontario taxable income and tax liabilities of Cableshare. At December 31, 1995, Cableshare, related to its wholly owned United States subsidiary, had net operating loss carryforwards for United States income tax purposes of approximately $415,000, expiring in 2005 through 2006, which may be used to reduce future United States taxable income and tax liabilities of the subsidiary. F-27 94 SOURCE MEDIA, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) The following table accounts for the difference between the actual tax provisions and the amounts obtained by applying the U.S. federal statutory rates to the net loss:
1993 1994 1995 ---------- ---------- ---------- Tax benefit at statutory rate................. $(3,372,275) $(4,371,455) $(3,321,547) Increase in taxes resulting from: Benefit of U.S. tax loss not recognized..... 2,235,543 2,956,832 2,789,900 Foreign losses on which a tax benefit could not be recognized........................ 51,576 205,000 172,875 Nondeductible amortization and write-down of intangible assets........................ 522,119 9,866 350,655 Nondeductible expenses on which tax benefit cannot be recognized..................... 563,037 1,199,757 8,117 ----------- ----------- ----------- Actual tax provision........................ $ -- $ -- $ -- =========== =========== ===========
9. CHARGES RELATED TO FINANCING INCENTIVES During April 1993 the Company recorded charges related to financing incentives of $1,523,000 resulting from inducements made to, and accepted by, certain security holders to convert their securities into common stock of the Company at conversion rates more favorable than the respective conversion rates provided in the securities. At that time, $4,436,000 in debt was converted, and warrants for 29,831 shares and options for 77,400 shares, with an aggregate price of approximately $878,000, were exercised for 619,408 shares of the Company's common stock.
PRINCIPAL CHARGES BALANCE INCENTIVE SHARES AGGREGATE RELATED TO PLUS ACCRUED SHARES CONVERTED OR EXERCISE FINANCING INTEREST OFFERED EXERCISED PRICE INCENTIVES ------------ --------- ------------ --------- ---------- Convertible Notes.............................. $3,419,000 119,621 608,247 $ -- $ 957,000 Notes payable to related parties............... 1,017,000 990 344,640 -- 8,000 Stock options and warrants..................... -- 33,250 199,500 878,000 558,000 ---------- ------- --------- -------- ---------- $4,436,000 153,861 1,152,387 $878,000 $1,523,000 ========== ======= ========= ======== ==========
Had this conversion taken place on January 1, 1993, the effect would have been to decrease the Company's 1993 net loss per common share to $2.51. As part of the conversion of $2,700,000 of the Convertible Notes, the Company agreed to pay the former holders thereof, including a director and stockholder, equivalent interest (the Equivalent Interest) of approximately $81,000 per quarter, until such time as the Company effected a public offering of its common stock. In December 1993 the Company recorded charges related to financing incentives of $162,000 associated with such equivalent interest payments to the former holders of Convertible Notes. For the years ended December 31, 1994, and 1995, the Company recorded additional equivalent interest payments in the amounts of $256,500 and $162,000, respectively. Such amounts are included in interest expense in the accompanying consolidated financial statements. In December 1993 the Company recorded charges related to financing incentives of $341,000 related to payment of a $770,000 note receivable from a director and stockholder prior to the original due date as discussed in Note 6 -- Notes Receivable from Stockholders. F-28 95 SOURCE MEDIA, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 10. COMMITMENTS AND CONTINGENCIES Various noteholders, warrant holders, stockholders, and the holder of Class Y shares of 997758 have registration rights, under certain conditions, which may require the Company to file a registration statement. 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 deployment and operation of the Interactive Channel for a one-year period, renewable annually upon the mutual agreement of the parties. The license also commits Cableshare to develop a new set-top box, a UNIX-based headend and user-friendly applications and production system. The Company will pay $4.75 million for the development projects, of which $2.9 million has already been paid through March 15, 1996, and Cableshare will receive an agreed payment for equipment sold as a result of the Company's marketing of the Interactive Channel. The new license replaces the Company's obligation under the previous license to make payments and achieve subscriber levels. 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, caused by the actions of the defendants and Cdn $6,000,000 in damages for losses of stock options caused by the actions of the defendants. Also in January 1994, the former officer and director of Cableshare filed a claim of wrongful termination, seeking Cdn $350,000 in damages. Although the ultimate outcome of these actions cannot be determined at this time, management believes the claims are without merit and intends to vigorously defend its positions. In addition, management believes the ultimate outcome of these actions will not have a material impact on the consolidated financial condition or results of operations of the Company. Prior to December 31, 1994, Cableshare notified GTE that GTE may be infringing on one or more of Cableshare's U.S. patents. In March 1995, GTE filed an action in U.S. District Court seeking a declaratory judgment that, among other things, GTE did not infringe upon Cableshare's patents and that Cableshare's patents are invalid. On June 1, 1995, Cableshare filed an action in United States District Court alleging that GTE is infringing Cableshare's patents. In January 1996, GTE and the Company agreed in principle to a settlement that would resolve this litigation. Currently, the tentative settlement would involve a license, for a fee, of the Cableshare United States patents in connection with the dismissal of the lawsuits. There can be no assurances that the parties will execute settlement documents or that these lawsuits will be finally dismissed. If these lawsuits are not dismissed, management believes the GTE claims are without merit and intends to vigorously support Cableshare in defending Cableshare's position. In addition, management believes that the outcome of these actions will not have a material impact on the consolidated financial condition or results of operations of the Company. See Note 2 -- Significant Accounting Policies: Unaudited Financial Information. 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. 11. CONCENTRATION OF CREDIT RISK AND MAJOR CUSTOMERS AND RBOC CANCELLATION The Company performs ongoing credit evaluations of its customers and does not require collateral. Overall, concentrations of credit risk with respect to receivables, except for the customers discussed below, are limited because of the large number of customers in the Company's customer base, the relatively small dollar amount of individual customer balances and their dispersion across many different industries and geographic areas. The Company maintains reserves for potential credit losses, and such F-29 96 SOURCE MEDIA, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) losses have been within management's expectations. For the years ended December 31, 1994 and 1995, no customer accounted for greater than 10% of monetary revenues, except as discussed below. As of December 31, 1994 and 1995, no customer represented more than 10% of the Company's accounts receivable, except as discussed below. In April 1995, an RBOC, Ameritech Advertising Services (Ameritech), terminated its agreement with the Company which allowed the Company to distribute information regarding its interactive telephone service through the Ameritech's Yellow Pages product. By letter dated December 1995, Ameritech informed the Company that the Company would not be required to provide services to Ameritech after February 1, 1996. On February 5, 1996, the Company filed suit against Ameritech in District Court in Dallas, 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. During 1994 and 1995, the Company generated approximately $1,827,000 and $1,898,000 in monetary revenues, or 22% and 20%, respectively, of total monetary revenues for 1994 and 1995, and approximately $6,482,000 and $5,975,000 in nonmonetary revenues, or 29% and 37%, respectively, of total nonmonetary revenues for 1994 and 1995, through contracts with advertisers and media sponsors related to sponsorships of the Company's printed menu of audiotext topics distributed in the Ameritech's Yellow Pages. During 1994 and 1995, the Company generated approximately $764,000 and $1,084,000 in monetary revenues, or 9% and 12%, respectively, of total monetary revenues for 1994 and 1995, through sales of services called Consumer Tips to Ameritech. As of December 31, 1994 and 1995, balances due from Ameritech represented 15% and 24% of the Company's accounts receivable, respectively. 12. SEGMENT REPORTING For financial reporting purposes, the Company operates in two business segments: On-line telephone -- The Company's On-Line Telephone Business provides advertiser-sponsored interactive programming via the telephone in markets throughout the United States. On-line television -- The Company's on-line television product, the Interactive Channel, is designed to provide a broad range of interactive programming via the television. Corporate assets consist primarily of cash and cash equivalents. F-30 97 SOURCE MEDIA, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) The following are operating results and certain other information by business segment:
YEAR ENDED DECEMBER 31, -------------------------------- 1993 1994 1995 ------- -------- ------- (in thousands) Net revenues: On-line telephone.................................... $25,122 $ 30,093 $25,283 On-line television................................... 61 850 3 ------- -------- ------- $25,183 $ 30,943 $25,286 ======= ======== ======= Operating loss: On-line telephone.................................... $(3,237) $ (2,633) $ (756) On-line television................................... (2,172) (6,659) (5,819) Corporate expenses................................... (2,396) (2,039) (1,753) ------- -------- ------- $(7,805) $(11,331) $(8,328) ======= ======== ======= Identifiable assets: On-line telephone.................................... $ 5,945 $ 4,363 $ 4,120 On-line television................................... 6,068 3,729 2,596 Corporate assets..................................... 1,235 127 17,479 ------- -------- ------- $13,248 $ 8,219 $24,195 ======= ======== ======= Depreciation and amortization: On-line telephone.................................... $ 342 $ 470 $ 458 On-line television................................... 1,790 1,943 1,374 ------- -------- ------- $ 2,132 $ 2,413 $ 1,833 ======= ======== ======= Additions to property and equipment: On-line telephone.................................... $ 881 $ 300 $ 17 On-line television................................... 448 217 241 ------- -------- ------- $ 1,329 $ 517 $ 258 ======= ======== =======
F-31 98 SOURCE MEDIA, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) Foreign net revenues, operating loss, and identifiable assets of all consolidated foreign subsidiaries located outside the United States and its territories, and possessions as of and for the years ended December 31, 1993, 1994, and 1995, are as follows:
YEAR ENDED DECEMBER 31, -------------------------------- 1993 1994 1995 ------- -------- ------- (in thousands) Net revenues: United States......................... $25,123 $ 30,098 $25,286 Canada................................ 60 845 -- Transfers between geographic areas.... 1,104 665 2,423 Adjustments and eliminations.......... (1,104) (665) (2,423) ------- -------- ------- $25,183 $ 30,943 $25,286 ======= ======== ======= Operating loss: United States......................... $(5,633) $ (6,955) $(7,069) Canada................................ (1,960) (2,940) (508) Adjustments and eliminations.......... (212) (1,436) (751) ------- -------- ------- $(7,805) $(11,331) $(8,328) ======= ======== ======= Identifiable assets: United States......................... $ 7,197 $ 5,150 $21,402 Canada................................ 6,051 3,069 2,793 ------- -------- ------- $13,248 $ 8,219 $24,195 ======= ======== =======
F-32 99 AUDITORS' REPORT To the Board of Directors of CABLESHARE INC. We have audited the consolidated balance sheets of Cableshare Inc. as at March 31, 1995 and March 31, 1996 and the consolidated statements of earnings, deficit and changes in financial position for each of the three years in the period ended March 31, 1996. These financial statements are the responsibility of the company's management. Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit in accordance with generally accepted auditing standards. Those standards require that we plan and perform an audit to obtain reasonable assurance whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. In our opinion, these consolidated financial statements present fairly, in all material respects, the financial position of the company as at March 31, 1995 and March 31 1996 and the results of its operations and changes in its financial position for each of the three years in the period ended March 31, 1996 in accordance with generally accepted accounting principles. KPMG Chartered Accountants London, Canada May 23, 1996 COMMENTS BY AUDITOR FOR U.S. READERS ON CANADA-U.S. REPORTING DIFFERENCE In the United States, reporting standards for auditors require the addition of an explanatory paragraph (following the opinion paragraph) when the financial statements are affected by conditions and events that cast substantial doubt on the company's ability to continue as a going concern, such as those described in Note 1 to the financial statements. Our report to the Board of Directors dated May 23, 1996 is expressed in accordance with Canadian reporting standards which do not permit a reference to such events and conditions in the auditors' report when these are adequately disclosed in the financial statements. KPMG Chartered Accountants London, Canada May 23, 1996 F-33 100 CABLESHARE INC. CONSOLIDATED BALANCE SHEETS (CANADIAN DOLLARS)
AS AT ---------------------------------------- MARCH 31, ------------------------- 1995 1996 SEPT. 30, ---------- ---------- 1996 ---------- (Unaudited) ASSETS Current Assets Cash and term deposits.......................... $ 36,280 $ 306,499 $ 398,932 Accounts receivable............................. 325,636 680,655 494,464 Inventory....................................... 17,089 102,062 7,982 Prepaid expenses................................ 70,364 342,439 151,366 ---------- ---------- ---------- 449,369 1,431,655 1,052,744 ---------- ---------- ---------- Equipment (note 3) Cost............................................ 2,379,499 2,658,746 2,853,608 Less accumulated depreciation................... 1,766,898 2,037,340 2,242,036 ---------- ---------- ---------- 612,601 621,406 611,572 ---------- ---------- ---------- $1,061,970 $2,053,061 $1,664,316 ========== ========== ========== LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT) Current liabilities Account payable and accrued liabilities......... $ 560,937 $1,687,353 $1,443,353 Unearned revenue................................ 10,500 78,200 20,202 Income taxes payable (note 4)................... 710,431 782,079 816,593 Current portion of capital lease obligations (note 5)..................................... 44,086 58,078 41,715 ---------- ---------- ---------- 1,325,954 2,605,710 2,321,863 ---------- ---------- ---------- Capital lease obligations (note 5)................ 47,334 42,363 37,389 Shareholders' equity (deficit) Capital stock (note 6).......................... 8,462,606 8,462,606 8,569,896 Deficit......................................... (8,793,479) (8,977,852) (9,184,536) Foreign currency translation adjustment......... 19,555 (79,766) (80,296) ---------- ---------- ---------- (311,318) (595,012) (694,936) Contingencies (note 7) Commitment (note 8) ---------- ---------- ---------- $1,061,970 $2,053,061 $1,664,316 ========== ========== ==========
See accompanying notes to Consolidated Financial Statements. F-34 101 CABLESHARE INC. CONSOLIDATED STATEMENTS OF EARNINGS (CANADIAN DOLLARS)
SIX MONTHS ENDED SEPT. YEARS ENDED MARCH 31, 30, ----------------------------------- ---------------------- 1994 1995 1996 1995 1996 --------- --------- --------- --------- --------- (unaudited) Revenue Software development, systems and support.................. $1,958,560 $1,285,486 $3,986,384 $1,638,786 $2,821,386 Royalty and licensing........... 16,000 1,408,497 544,000 0 0 ------------ ------------ ------------ ------------ ------------ 1,974,560 2,693,983 4,530,384 1,638,786 2,821,386 ------------ ------------ ------------ ------------ ------------ Expenses Research and development........ 1,097,355 687,871 2,061,276 817,389 1,622,806 Costs of goods.................. 538,237 136,177 13,344 13,344 300,348 Operating and administration.... 499,646 2,543,815 2,614,763 804,896 1,104,916 ------------ ------------ ------------ ------------ ------------ 2,135,238 3,367,863 4,689,383 1,635,629 3,028,070 ------------ ------------ ------------ ------------ ------------ Income (Loss) before income taxes........................... (160,678) (673,880) (158,999) 3,157 (206,684) Income taxes (note 4)............. 0 49,068 25,374 0 0 ------------ ------------ ------------ ------------ ------------ Income (Loss) for the period...... (160,678) (722,948) (184,373) 3,157 (206,684) ============ ============ ============ ============ ============ Income (Loss) per share........... $ (0.01) $ (0.05) $ (0.01) $ 0.00 $ (0.01)
CABLESHARE INC. CONSOLIDATED STATEMENTS OF DEFICIT (CANADIAN DOLLARS)
SIX MONTHS ENDED SEPT. YEARS ENDED MARCH 31, 30, ----------------------------------- ---------------------- 1994 1995 1996 1995 1996 --------- --------- --------- --------- --------- Deficit, beginning of period.... $7,909,853 $8,070,531 $8,793,479 $8,793,479 $8,977,852 Loss (income) for the period.... 160,678 722,948 184,373 (3,157) 206,684 ---------- ---------- ---------- ---------- ---------- Deficit, end of period.......... $8,070,531 $8,793,479 $8,977,852 $8,790,322 $9,184,536 ========== ========== ========== ========== ==========
See accompanying notes to Consolidated Financial Statements F-35 102 CABLESHARE INC. CONSOLIDATED STATEMENTS OF CHANGES IN FINANCIAL POSITION (CANADIAN DOLLARS)
SIX MONTHS ENDED SEPT. YEARS ENDED MARCH 31, 30, ----------------------------------- ---------------------- 1994 1995 1996 1995 1996 --------- --------- --------- -------- --------- (unaudited) Cash provided by (used in) Operations Income (loss) for the period....... $(160,678) $(722,948) $(184,373) $ 3,157 $(206,684) Items not involving cash: Depreciation.................... 212,500 269,892 272,789 105,174 204,696 Gain (loss) on disposal of equipment..................... (15,090) 0 21,464 0 0 Change in non-cash operating working capital................. (200,503) 660,177 553,697 (26,561) 203,860 --------- --------- --------- --------- --------- (163,771) 207,121 663,577 81,770 201,872 --------- --------- --------- --------- --------- Investments Additions to equipment............. (44,293) (492,333) (304,778) (47,847) (194,862) Proceeds from disposal of equipment....................... 20,295 0 1,720 0 0 --------- --------- --------- --------- --------- (23,998) (492,333) (303,058) (47,847) (194,862) --------- --------- --------- --------- --------- Financing Proceeds of capital leases......... 0 115,372 44,293 12,444 11,981 Repayment of capital leases........ 0 (23,952) (35,272) (27,265) (33,318) Issue of capital stock............. 128,047 2,755 0 0 107,290 --------- --------- --------- --------- --------- 128,047 94,175 9,021 (14,821) 85,953 --------- --------- --------- --------- --------- Increase (decrease) in cash.......... (59,722) (191,037) 369,540 19,102 92,963 Effect of currency translation on cash flow.......................... 32,620 9,708 (99,321) (18) (530) --------- --------- --------- --------- --------- (27,102) (181,329) 270,219 19,084 92,433 Cash and term deposits, beginning of period............................. 244,711 217,609 36,280 36,280 306,499 --------- --------- --------- --------- --------- Cash and term deposits, end of period............................. $ 217,609 $ 36,280 $ 306,499 $ 55,364 $ 398,932 ========= ========= ========= ========= =========
See accompanying notes to Consolidated Financial Statements F-36 103 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CANADIAN DOLLARS) 1. BASIS OF PRESENTATION AND ECONOMIC DEPENDENCE These financial statements have been prepared on the basis of accounting principles generally accepted in Canada as applicable to a going concern. The company's future operations will depend on its ability to generate revenue, equity financing or support from various sources, including its parent company, IT Network, Inc., of Dallas, Texas, during the coming fiscal year to cover its operating expenditures. The company earned revenue of $3,986,384 during 1996 (1995, $2,027,000; 1994, $1,390,000) from the sale of hardware, software licensing and development agreements to IT Network, Inc. and was charged $57,030 during 1996 (1995, $74,000; 1994, $0) by IT Network, Inc. for expense reimbursements. At March 31, 1996, the accounts receivable included a balance owing from IT Network, Inc. of $109,953 (1995, $274,231). All transactions with IT Network, Inc. were undertaken at prevailing market rates. 2. SIGNIFICANT ACCOUNTING POLICIES The Company's main activity is research and development of technology in the field of interactive television and related areas. The accompanying financial statements are prepared in accordance with generally accepted accounting principles in Canada, are stated in Canadian dollars, and conform in all material respects to generally accepted accounting principles in the United States. The consolidated financial statements for the six months ended September 30, 1996 and 1995 are unaudited, but in the opinion of management reflect all adjustments, consisting of normal recurring accruals, which are necessary for a fair presentation of the financial position, results of operations, and changes in financial position for the interim periods presented. (a) PRINCIPLES OF CONSOLIDATION The consolidated financial statements include the accounts of Cableshare Inc. and its wholly-owned subsidiaries. (b) FOREIGN CURRENCY TRANSLATION The subsidiaries located in the United States, the Netherlands and Barbados are considered to be self-sustaining operations. Their financial statements are translated to Canadian currency as follows: (i) assets and liabilities at the rate of exchange on the balance sheet date; (ii) revenue and expense items at rates in effect during the year; and, (iii) the resulting exchange gains and losses are deferred and included as a separate component of shareholders' equity. (c) INVENTORY Inventory is carried at the lower of cost and net realizable value. F-37 104 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (CANADIAN DOLLARS) (d) EQUIPMENT Equipment is stated at cost. Depreciation is provided on the straightline basis for data processing equipment, research equipment, and rental systems and on the declining balance basis for office equipment and demonstration equipment, using the following annual rates:
ASSET RATE ----- ---- Data processing equipment.............................................. 15% Research equipment..................................................... 15 - 25% Office equipment....................................................... 20% Demonstration equipment................................................ 20% Rental Systems......................................................... 40%
(e) REVENUE Revenue from the sale of goods and services is recognized upon the delivery of the goods and rendering of the services. Revenue from the licensing of software is recognized upon delivery where the company has no significant continuing obligations, and otherwise upon the earlier of acceptance by the customer or discharge of all significant obligations. Upon recognition of revenue from the licensing of software, the estimated cost of remaining obligations, which are not significant, is accrued. Advance payments by customers are recorded as deferred revenue until earned. (f) INVESTMENT TAX CREDITS As a high technology company, Cableshare is entitled by law to use various investment tax credits to reduce federal income taxes which would be otherwise payable. Such credits are related to amounts expended for qualified scientific research and development, including equipment related thereto. The investment tax credits earned and utilized during the year are reflected as reductions of the related expense and equipment. 3. EQUIPMENT
1996 1995 ACCUMULATED NET BOOK NET BOOK COST DEPRECIATION VALUE VALUE --------- ------------ -------- -------- Data processing equipment.............. $ 427,334 $ 407,676 $ 19,658 $ 11,832 Research equipment..................... 1,214,920 901,601 313,319 267,767 Office equipment....................... 588,817 465,431 123,386 137,342 Demonstration equipment................ 223,852 164,612 59,240 72,607 Rental Systems......................... 203,823 98,020 105,803 123,053 ---------- ---------- -------- -------- $2,658,746 $ 2,037,340 $621,406 $612,601 ========== ========== ======== ========
4. INCOME TAXES Income taxes expense consists entirely of withholding tax on intercompany royalty payments, which is not recoverable, and income taxes at normal rates on the income of subsidiaries in the Netherlands and Barbados. The potential tax savings from investment tax credits and losses carried forward as outlined below have not been recorded in the accounts. REASSESSMENT OF PRIOR YEAR The company was reassessed for 1988, reducing investment tax credits available to offset income taxes otherwise payable in future years by $1.9 million and requiring repayment of an additional $315,000 of F-38 105 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (CANADIAN DOLLARS) such credits which had been received in cash. The liability of $780,000 at September 30, 1996 (1995, $690,000) includes accumulated interest of $465,000 at September 30, 1996 (1995, $375,000). The company has appealed the reassessment. CANADIAN INCOME TAXES At March 31, 1996, the company has losses carried forward for income tax purposes. These losses carried forward may be used to reduce future years' income for tax purposes. The company also has available, subject to Revenue Canada's review, investment tax credits. Investment tax credits apply only to federal income taxes otherwise payable. The losses carried forward and investment tax credits expire approximately as follows:
FEDERAL PROVINCIAL ------------------------------------------------- ---------------------- LOSSES CARRIED FORWARD INVESTMENT TAX CREDITS LOSSES CARRIED FORWARD ---------------------- ---------------------- ---------------------- 1997......................... $ -- $2,800,000 $ -- 1998......................... 5,400,000 200,000 5,800,000 1999......................... 1,500,000 700,000 1,500,000 2000......................... 300,000 300,000 400,000 2001......................... 100,000 300,000 100,000 2002......................... 1,800,000 200,000 1,800,000 2003......................... 400,000 200,000 400,000 --------- --------- ---------- $9,500,000 $4,700,000 $ 10,000,000 ========= ========= ==========
UNITED STATES FEDERAL INCOME TAXES The company has losses carried forward for income tax purposes totalling $37,000 U.S. These losses carried forward may be used to reduce future years' income for tax purposes and expire approximately as follows: 2006......................................................................... $ 1,000 2009......................................................................... 14,000 2011......................................................................... 22,000 ---- $37,000 ====
5. CAPITAL LEASE OBLIGATIONS The company has capital lease obligations for office and research equipment requiring the following future minimum payments:
1995 1996 -------- -------- 1996............................................................. $ 56,128 $ -- 1997............................................................. 43,377 68,581 1998............................................................. 8,086 30,517 1999............................................................. -- 18,344 ------- ------- Total minimum future lease payments.............................. 107,591 117,442 Amounts representing interest at rates from 11.89% to 18.22%..... 16,171 17,001 ------- ------- 91,420 100,441 Less current portion............................................. 44,086 58,078 ------- ------- $ 47,334 $ 42,363 ======= =======
Interest paid on capital lease obligations was $21,814 (1995, $4,888; 1994, nil). F-39 106 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (CANADIAN DOLLARS) 6. CAPITAL STOCK AUTHORIZED An unlimited number of Class A subordinate voting shares without par value carrying one vote per share. An unlimited number of Class B multiple voting shares without par value carrying twenty votes per share. The Class B shares are convertible on a share-for-share basis into Class A shares at any time at the option of the holder. In certain circumstances during a take-over bid, the Class B multiple voting shares may lose their vote entitlement in order to protect the rights of Class A subordinate voting shareholders. ISSUED
NUMBER OF SHARES ---------------------- CLASS A CLASS B AMOUNT --------- -------- --------- Balance, March 31, 1994........................... 11,662,597 2,555,080 $8,459,851 Employee options exercised........................ 5,740 -- 2,755 Class B shares converted.......................... 5,000 (5,000) -- Balance, March 31, 1995........................... 11,673,337 2,550,080 8,462,606 Class B shares converted.......................... 104,563 (104,563) -- Balance, March 31, 1996........................... 11,777,900 2,445,517 8,462,606
During 1996, the company granted options to purchase 285,000 Class A subordinate voting shares at prices ranging from $0.89 to $1.08, exercisable at various dates to 2005. No options were granted during 1995. At March 31, 1996, options to purchase a total of 679,817 Class A subordinate voting shares were outstanding at prices ranging from $0.39 to $1.52 exercisable at various dates to October, 2005. 7. CONTINGENCIES In January, 1994 a former officer and director of the company filed a claim for wrongful termination seeking $350,000 in damages. The company believes the allegations are without merit, has vigorously defended this suit and awaits the judgment of the court. In January, 1994 the same person also commenced an action in which several persons are defendants who are, or have been, officer or directors of the company. The company may be obliged to pay up to $100,000 in costs to defend these persons. 8. COMMITMENT The company is committed to operating lease payments for its office premises requiring future payments approximately as follows: 1997........................................................................ $145,000 1998........................................................................ 140,000 1999........................................................................ 142,000 2000........................................................................ 36,000 -------- $463,000 ========
F-40 107 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (CANADIAN DOLLARS) 9. GEOGRAPHIC SEGMENTED INFORMATION The company carries on business in two geographic segments as follows:
CANADA OUTSIDE CANADA TOTAL ---------- -------------- ---------- FOR THE YEAR ENDED MARCH 31, 1996 Gross income...................................... $4,055,678 $ 474,706 $4,530,384 Earnings (loss) for the year...................... (599,436) 415,063 (184,373) Total Assets...................................... 2,023,272 29,789 2,053,061 FOR THE YEAR ENDED MARCH 31, 1995 Gross income...................................... 1,019,641 1,674,342 2,693,983 Earnings (loss) for the year...................... (1,935,540) 1,212,592 (722,948) Total Assets...................................... 1,011,154 50,816 1,061,970 FOR THE YEAR ENDED MARCH 31, 1994 Gross income...................................... 920,949 1,053,611 1,974,560 Earnings (loss) for the year...................... (206,686) 46,008 (160,678) Total Assets...................................... 1,001,130 447,516 1,448,646
Included in gross income of the Canadian segment is revenue from customers in the United States in the amount of $4,055,678 for fiscal 1996 (1995, $996,143; 1994, $919,086). 10. COMPARATIVE FIGURES Certain 1995 and 1994 figures have been reclassified to conform with the financial statement presentation adopted in 1996. 11. UNAUDITED INTERIM INFORMATION During the six months ended September 30, 1995 and 1996, the company earned revenue from the sale of hardware, software licensing and development agreements to IT Network, and was charged for expenses as follows:
REVENUE EXPENSES ---------- -------- Six months ended September 30, 1995............................ $1,638,786 $ 57,030 Six months ended September 30, 1996............................ 2,821,386 91,086 Accounts receivable balance from IT Network: As of September 30, 1995..................................... $580,519 As of September 30, 1996..................................... 401,655
Equipment cost and accumulated depreciation were as follows at September 30, 1996:
ACCUMULATED NET BOOK COST DEPRECIATION VALUE ----------- ------------ -------- Data processing equipment........................ $ 507,543 $ 417,577 $ 89,966 Research equipment............................... 1,318,167 1,042,601 275,566 Office equipment................................. 600,223 479,230 120,993 Demonstration equipment.......................... 223,852 170,612 53,240 Rental systems................................... 203,823 132,016 71,807 ----------- ---------- -------- $ 2,853,608 $ 2,242,036 $611,572 =========== ========== ========
F-41 108 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (CANADIAN DOLLARS) The Class A shares and Class B shares outstanding as of September 30, 1996, were as follows:
NUMBER OF SHARES ---------------------- CLASS A CLASS B AMOUNT --------- -------- --------- Balance, March 31, 1996........................... 11,777,900 2,445,517 $8,462,606 Employee options exercised........................ 163,188 -- 107,290 Class B shares converted.......................... 18,000 (18,000) -- Balance, September 30, 1996....................... 11,959,088 2,427,517 8,569,896
Geographic segmented information for the six months ended September 30, 1995 and 1996, was as follows:
CANADA OUTSIDE CANADA TOTAL --------- -------------- --------- FOR THE SIX MONTHS ENDED SEPTEMBER 30, 1995 Gross income...................................... $1,638,786 $ 0 $1,638,786 Earnings (loss) for the year...................... 9,491 (6,334) 3,157 Total Assets...................................... 1,274,048 49,932 1,323,980 FOR THE SIX MONTHS ENDED SEPTEMBER 30, 1996 Gross income...................................... 2,821,386 0 2,821,386 Loss for the year................................. (201,235) (5,449) (206,684) Total Assets...................................... 1,613,792 50,524 1,664,316
F-42 109 PART II INFORMATION NOT REQUIRED IN PROSPECTUS ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION The estimated expenses payable by Source Media, Inc. (the "Registrant" or the "Company") in connection with the registration of the securities offered hereby, other than underwriting discounts and commissions, are as follows: SEC Registration Fee...................................... $3,139.37 NASD Filing Fee........................................... N/A Nasdaq Listing Fee........................................ * Blue Sky Qualification Fees and Expenses.................. * Accounting Fees and Expenses.............................. * Legal Fees and Expenses................................... * Transfer Agent and Registrar Fees......................... * Printing and Engraving Expenses........................... * Miscellaneous............................................. * --------- Total........................................... $ * =========
- --------------- * To be provided by amendment. ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS Section 145 of the Delaware General Corporation Law ("Section 145") permits indemnification of directors, officers, agents and controlling persons of a corporation under certain conditions and subject to certain limitations. Article Eighth of the Company's Certificate of Incorporation (Exhibit 3.1 hereto) and Section 5.1 of the Company's Bylaws (Exhibit 3.2 hereto) provide for the indemnification of directors, officers and other authorized representatives of the Company to the maximum extent permitted by the Delaware General Corporation Law. Section 145 empowers a corporation to indemnify any person who was or is a party or is threatened to be made a party to any threatened, pending or completed action, suit or proceeding, whether civil, criminal, administrative or investigative, by reason of the fact that he is or was a director, officer or agent of the corporation or another enterprise if serving at the request of the corporation. Depending on the character of the proceeding, a corporation may indemnify against expenses (including attorneys' fees), judgments, fines and amounts paid in settlement actually and reasonably incurred in connection with such action, suit or proceeding if the person indemnified acted in good faith and in a manner he reasonably believed to be in or not opposed to, the best interests of the corporation, and, with respect to any criminal action or proceeding, had no reasonable cause to believe his conduct was unlawful. In the case of an action by or in the right of the corporation, no indemnification may be made with respect to any claim, issue or matter as to which such person shall have been adjudged to be liable to the corporation unless and only to the extent that the court of chancery or the court in which such action or suit was brought shall determine that despite the adjudication of liability such person is fairly and reasonably entitled to indemnity for such expenses which the court shall deem proper. Section 145 further provides that to the extent a director or officer of a corporation has been successful in the defense of any action, suit or proceeding referred to above or in the defense of any claim, issue or matter therein, he shall be indemnified against expenses (including attorneys' fees) actually and reasonably incurred by him in connection therewith. The Company's Bylaws permit it to purchase insurance on behalf of any such person against any liability asserted against him and incurred by him in any such capacity, or arising out of his status as such, whether or not the Company would have the power to indemnify him against such liability under the foregoing provision of the Bylaws. ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES Immediately prior to the Merger, on June 23, 1995, HBAC issued 250,000 shares of HBAC common stock to GKN Securities Corp. and certain related persons in exchange for 207,113 Unit Purchase Options II-1 110 ("UPOs") that were issued in connection with HBAC's initial public offering in 1993. Each of the UPOs entitled the holder, upon the exercise thereof and payment of the applicable exercise price, to receive one shares of HBAC common stock and two warrants having terms similar to the Public Warrants. The 250,000 shares of common stock were issued in reliance on the exemption provided by Section 3(a)(9) of the Securities Act. The transaction involved the exchange of a security with an existing security holder of HBAC, and no commission was paid or given directly or indirectly for soliciting such exchange. In connection with the Merger, HBAC changed its name to Source Media, Inc. As a result of the Reverse Split effected on October 10, 1995, such 250,000 shares were combined into a total of 125,000 shares. On April 3, 1996, Source issued a warrant to purchase 500,000 shares of its common stock to Northstar Advantage High Total Return Fund ("Northstar"). The warrant was issued in reliance on Section 4(2) of the Securities Act. Northstar is an accredited investor, and the warrant may not be transferred without an opinion that such transfer would not violate federal or state securities laws. Pursuant to the Arrangement Agreement (the "Arrangement Agreement") dated November 13, 1996 between Source and Cableshare Inc. ("Cableshare"), Source has agreed to issue up to 1,428,955 shares of its common stock to holders of Cableshare's Class A Shares and Class B Shares, if such holders elect to receive Source common stock pursuant to the Arrangement Agreement instead of exchangeable shares of Cableshare. The transactions contemplated by the Arrangement Agreement will be approved by the Ontario Court of Justice (General Division) pursuant to Section 182 of the Business Corporations Act (Ontario). The Source common stock to be issued in connection with the Arrangement Agreement will be issued without registration in reliance on Section 3(a)(10) of the Securities Act. A letter has been submitted on Source's behalf requesting that the staff of the Division of Corporation Finance of the Securities and Exchange Commission (the "Commission") confirm that it would not recommend any enforcement action to the Commission if the transactions contemplated by the Arrangement Agreement are consummated as described therein. ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES (a) Exhibits:
EXHIBIT NUMBER DESCRIPTION OF EXHIBIT - -------------------- ------------------------------------------------------------------------ 3.1 -- Restated Certificate of Incorporation, as amended (filed as Exhibit 3.1 to the Company's Registration Statement on Form S-1, as amended (No. 33-97564), and incorporated herein by reference). 3.2 -- Bylaws (filed as Exhibit 3.2 to HBAC's Registration Statement on Form S-1, as amended (No. 33-62606), and incorporated herein by reference). 4.1 -- Form of Common Stock Certificate (filed as Exhibit 4.1 to the Company's Registration Statement on Form S-1 (No. 33-97564), and incorporated herein by reference). 5.1+ -- Opinion of Thompson & Knight, P.C., with respect to the validity of the Source Common Shares. 8.1++ -- Opinion of Thompson & Knight, P.C. regarding tax matters. 8.2++ -- Opinion of Heenan Blaikie, Barristers and Solicitors, regarding tax matters. 10.1 -- Master Agreement between IT Network, Inc. and Pacific Bell Directory, dated December 16, 1992, as amended (filed as Exhibit 10.18 to HBAC's Registration Statement on Form S-4 (No. 33-90482), and incorporated herein by reference). 10.2 -- Master AudioText Agreement between IT Network, Inc. and BellSouth, dated May 1, 1993 (filed as Exhibit 10.22 to HBAC's Registration Statement on Form S-4 (No. 33-90482), and incorporated herein by reference). 10.3 -- Sales Agency Agreement by and between US West Marketing Resources Group, Inc. and IT Network, Inc., dated July 6, 1995 (filed as Exhibit 10.1 to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1995, and incorporated herein by reference).
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EXHIBIT NUMBER DESCRIPTION OF EXHIBIT - -------------------- ------------------------------------------------------------------------ 10.4* -- Development and Licensing Agreement (dated as of April 1, 1995 between IT Network, Inc., Source Media, Inc., Cableshare Inc., Cable Share International Inc., Cableshare (U.S.) Limited and Cableshare B.V. (filed as Exhibit 10.22 to the Company's Annual Report on Form 10-K for the Year Ended December 31, 1995, and incorporated herein by reference). 10.5 -- Interactive Television License Agreement between IT Network, Inc., Cableshare (U.S.) Limited and Cableshare Inc., dated June 11, 1992 (filed as Exhibit 10.40 to HBAC's Registration Statement on Form S-4 (No. 33-90482), and incorporated herein by reference). 10.6 -- Interactive Channel Distribution Agreement dated November 16, 1995 between IT Network, Inc. and Cablevision Systems Corporation (filed as Exhibit 99.2 to the Company's Current Report on Form 8-K filed January 30, 1996, and as amended on March 19, 1996, and incorporated herein by reference). 10.7 -- Interactive Cable Agreement between IT Network, Inc. and Sammons Communications, Inc., dated June 4, 1993 (filed as Exhibit 10.53 to HBAC's Registration Statement on Form S-4 (No. 33-90482), and incorporated herein by reference). 10.8 -- Contribution Agreement between National Research Council Canada and Cableshare Inc. (filed as Exhibit 10.54 to HBAC's Registration Statement on Form S-4 (No. 33-90482), and incorporated herein by reference). 10.9 -- Letter of Understanding between IT Network, Inc. and Pacific Bell Directory dated August 25, 1994 (filed as Exhibit 10.55 to HBAC's Registration Statement on Form S-4 (No. 33-90482), and incorporated herein by reference). 10.10 -- Note Agreement dated as of March 28, 1996 between Northstar Advantage High Total Return Fund and the Company (filed as Exhibit 10.1 to the Company's Quarterly Report on Form 10-Q for the Quarter Ended March 31, 1996, and incorporated herein by reference). 10.11 -- 13% Senior Secured Note Due March 31, 2001 (filed as Exhibit 10.2 to the Company's Quarterly Report on Form 10-Q for the Quarter Ended March 31, 1996, and incorporated herein by reference) 10.12 -- Stock Purchase Warrant dated April 13, 1996 between Northstar Advantage High Total Return Fund and the Company (filed as Exhibit 10.3 to the Company's Quarterly Report on Form 10-Q for the Quarter Ended March 31, 1996, and incorporated herein by reference). 10.13 -- Registration Rights Agreement dated April 3, 1996 between Northstar Advantage High Total Return Fund and the Company (filed as Exhibit 10.4 to the Company's Quarterly Report on Form 10-Q for the Quarter Ended March 31, 1996, and incorporated herein by reference). 10.14 -- Sales Agency Agreement dated May 20, 1996 between The Reuben H. Donnelley Corporation and IT Network, Inc. (filed as Exhibit 10.1 to the Company's Quarterly Report on Form 10-Q for the Quarter Ended June 30, 1996, and incorporated herein by reference). 10.15 -- License Agreement dated June 6, 1996 between WinStar New Media Co., Inc. and the Company (filed as Exhibit 10.2 to the Company's Quarterly Report on Form 10-Q for the Quarter Ended June 30, 1996, and incorporated herein by reference). 10.16* -- Charter Affiliation Agreement between Century Communications Corporation and the Company (filed as Exhibit 10.1 to the Company's Current Report on Form 8-K filed April 23, 1996, and incorporated herein by reference).
II-3 112
EXHIBIT NUMBER DESCRIPTION OF EXHIBIT - -------------------- ------------------------------------------------------------------------ 10.17* -- Services Agreement dated October 21, 1996 between The Reuben H. Donnelley Corporation and IT Network, Inc. (filed as Exhibit 10.1 to the Company's Quarterly Report on Form 10-Q for the Quarter Ended September 30, 1996, and incorporated herein by reference. 10.18+ -- Arrangement Agreement dated November 13, 1996 between the Company and Cableshare. 10.19+ -- Form of Plan of Arrangement. 10.20+ -- Form of Support Agreement between the Company and Cableshare. 10.21+ -- Form of Voting and Exchange Trust Agreement among the Company, Cableshare and [TRUSTEE]. 21 -- Subsidiaries. 23.1+ -- Consent of Ernst & Young LLP. 23.2+ -- Consent of KPMG, Chartered Accountants. 23.3+ -- Consent of Thompson & Knight, P.C. (included in Exhibit 5.1). 23.4++ -- Consent of Thompson & Knight, P.C. (to be included in Exhibit 8.1) 23.5+ -- Consent of Heenan, Blaikie, Barristers & Solicitors.
- --------------- + Filed herewith. ++ To be filed by amendment. * 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. (b) Financial Statement Schedules: All schedules are omitted because of the absence of conditions under which they are required or because the required information is given in the financial statements or notes thereto. ITEM 17. UNDERTAKINGS Insofar as indemnification for liabilities arising under the Securities Act may be permitted to directors, officers and controlling persons of the registrant pursuant to the foregoing provisions, or otherwise, the registrant has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Securities Act and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the registrant of expenses incurred or paid by a director, officer or controlling person of the registrant in the successful defense of any action, suit or proceeding) is asserted by such director, officer or controlling person in connection with the securities being registered, the registrant will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the Securities Act and will be governed by the final adjudication of such issue. The undersigned registrant also hereby undertakes: (1) To file, during any period in which offers or sales are being made, a post-effective amendment to this registration statement: (i) To include any prospectus required by section 10(a)(3) of the Securities Act; (ii) to reflect in the prospectus any facts or events arising after the effective date of the registration statement (or the most recent post-effective amendment thereof) which, individually or in the aggregate, represent a fundamental change in the information set forth in the registration statement. Notwithstanding the foregoing, any increase or decrease in volume of securities offered (if the total dollar value of securities offered would not exceed that which was registered) and any deviation from the low or high end of the estimated maximum offering range may be reflected in the II-4 113 form of prospectus filed with the Commission pursuant to Rule 424(b) if, in the aggregate, the changes in volume and price represent no more than a 20% change in the maximum aggregate offering price set forth in the "Calculation of Registration Fee" table in the effective registration statement. (iii) To include any material information with respect to the plan of distribution not previously disclosed in the registration statement or any material change to such information in the registration statement. (2) That, if for the purpose of determining any liability under the Securities Act, each post-effective amendment that contains a form of prospectus shall be deemed to be a new registration statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof. (3) To remove from registration by means of a post-effective amendment any of the securities being registered which remain unsold at the termination of the offering. II-5 114 SIGNATURES Pursuant to the requirements of the Securities Act of 1933, Source Media, Inc. has duly caused this Registration Statement to be signed on its behalf by the undersigned, thereunto duly authorized, in Dallas, Texas, on November 26, 1996. SOURCE MEDIA, INC. By: /s/ TIMOTHY P. PETERS ------------------------------- Timothy P. Peters, Chairman of the Board and Chief Executive Officer POWER OF ATTORNEY KNOW ALL MEN BY THESE PRESENTS, that the undersigned directors and officers of Source Media, Inc., a Delaware corporation, which is filing a Registration Statement on Form S-1 with the Securities and Exchange Commission, Washington, D.C. 20549 under the provisions of the Securities Act of 1933, as amended (the "Securities Act"), hereby constitute and appoint Timothy P. Peters and Michael G. Pate, and each of them, the individual's true and lawful attorneys-in-fact and agents, with full power of substitution and resubstitution, for the person and in his or her name, place and stead, in any and all capacities, to sign such Registration Statement and any or all amendments, including post-effective amendments, to the Registration Statement, including a Prospectus or an amended Prospectus therein and any registration statement for the same offering that is to be effective upon filing pursuant to Rule 462(b) under the Securities Act, and all other documents in connection therewith to be filed with the Securities and Exchange Commission, granting unto said attorneys-in-fact and agents, and each of them, full power and authority to do and perform each and every act and thing requisite and necessary to be done in and about the premises, as fully to all intents and purposes as he might or could do in person, hereby ratifying and confirming all that said attorneys-in-fact as agents or any of them, or their substitute or substitutes, may lawfully do or cause to be done by virtue hereof. Pursuant to the requirements of the Securities Act of 1933, this Registration Statement has been signed by the following persons in the capacities and on the dates indicated.
SIGNATURE TITLE DATE - --------------------------------------------- ---------------------------- ------------------ By: /s/ TIMOTHY P. PETERS Chief Executive Officer and November 26, 1996 ------------------------------------------ Chairman of the Board Timothy P. Peters (principal executive officer) By: /s/ MICHAEL G. PATE Chief Financial Officer and November 26, 1996 ------------------------------------------ Treasurer (principal Michael G. Pate financial and accounting officer) By: /s/ JOHN J. REED President and Director November 26, 1996 ------------------------------------------ John J. Reed By: /s/ W. SCOTT BEDFORD Chief Operating Officer and November 26, 1996 ------------------------------------------ Director W. Scott Bedford By: /s/ JOHN F. BARING Director November 26, 1996 ------------------------------------------ John F. Baring By: /s/ ALAN M. FLAHERTY Director November 26, 1996 ------------------------------------------ Alan M. Flaherty
II-6 115
SIGNATURE TITLE DATE - --------------------------------------------- ---------------------------- ------------------ By: /s/ JAMES L. GREENWALD Director November 26, 1996 ------------------------------------------ James L. Greenwald By: /s/ RHODRIC C. HACKMAN Director November 26, 1996 ------------------------------------------ Rhodric C. Hackman By: /s/ DAVID L. KUYKENDALL Director November 26, 1996 ------------------------------------------ David L. Kuykendall By: /s/ MICHAEL J. MAROCCO Director November 26, 1996 ------------------------------------------ Michael J. Marocco
II-7 116 INDEX TO EXHIBITS
EXHIBIT NUMBER DESCRIPTION OF EXHIBIT - -------------------- ------------------------------------------------------------------------ 3.1 -- Restated Certificate of Incorporation, as amended (filed as Exhibit 3.1 to the Company's Registration Statement on Form S-1, as amended (No. 33-97564), and incorporated herein by reference). 3.2 -- Bylaws (filed as Exhibit 3.2 to HBAC's Registration Statement on Form S-1, as amended (No. 33-62606), and incorporated herein by reference). 4.1 -- Form of Common Stock Certificate (filed as Exhibit 4.1 to the Company's Registration Statement on Form S-1 (No. 33-97564), and incorporated herein by reference). 5.1+ -- Opinion of Thompson & Knight, P.C., with respect to the validity of the Source Common Shares. 8.1++ -- Opinion of Thompson & Knight, P.C. regarding tax matters. 8.2++ -- Opinion of Heenan Blaikie, Barristers and Solicitors, regarding tax matters. 10.1 -- Master Agreement between IT Network, Inc. and Pacific Bell Directory, dated December 16, 1992, as amended (filed as Exhibit 10.18 to HBAC's Registration Statement on Form S-4 (No. 33-90482), and incorporated herein by reference). 10.2 -- Master AudioText Agreement between IT Network, Inc. and BellSouth, dated May 1, 1993 (filed as Exhibit 10.22 to HBAC's Registration Statement on Form S-4 (No. 33-90482), and incorporated herein by reference). 10.3 -- Sales Agency Agreement by and between US West Marketing Resources Group, Inc. and IT Network, Inc., dated July 6, 1995 (filed as Exhibit 10.1 to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1995, and incorporated herein by reference). 10.4* -- Development and Licensing Agreement (dated as of April 1, 1995 between IT Network, Inc., Source Media, Inc., Cableshare Inc., Cable Share International Inc., Cableshare (U.S.) Limited and Cableshare B.V. (filed as Exhibit 10.22 to the Company's Annual Report on Form 10-K for the Year Ended December 31, 1995, and incorporated herein by reference). 10.5 -- Interactive Television License Agreement between IT Network, Inc., Cableshare (U.S.) Limited and Cableshare Inc., dated June 11, 1992 (filed as Exhibit 10.40 to HBAC's Registration Statement on Form S-4 (No. 33-90482), and incorporated herein by reference). 10.6 -- Interactive Channel Distribution Agreement dated November 16, 1995 between IT Network, Inc. and Cablevision Systems Corporation (filed as Exhibit 99.2 to the Company's Current Report on Form 8-K filed January 30, 1996, and as amended on March 19, 1996, and incorporated herein by reference). 10.7 -- Interactive Cable Agreement between IT Network, Inc. and Sammons Communications, Inc., dated June 4, 1993 (filed as Exhibit 10.53 to HBAC's Registration Statement on Form S-4 (No. 33-90482), and incorporated herein by reference). 10.8 -- Contribution Agreement between National Research Council Canada and Cableshare Inc. (filed as Exhibit 10.54 to HBAC's Registration Statement on Form S-4 (No. 33-90482), and incorporated herein by reference). 10.9 -- Letter of Understanding between IT Network, Inc. and Pacific Bell Directory dated August 25, 1994 (filed as Exhibit 10.55 to HBAC's Registration Statement on Form S-4 (No. 33-90482), and incorporated herein by reference).
117
EXHIBIT NUMBER DESCRIPTION OF EXHIBIT - -------------------- ------------------------------------------------------------------------ 10.10 -- Note Agreement dated as of March 28, 1996 between Northstar Advantage High Total Return Fund and the Company (filed as Exhibit 10.1 to the Company's Quarterly Report on Form 10-Q for the Quarter Ended March 31, 1996, and incorporated herein by reference). 10.11 -- 13% Senior Secured Note Due March 31, 2001 (filed as Exhibit 10.2 to the Company's Quarterly Report on Form 10-Q for the Quarter Ended March 31, 1996, and incorporated herein by reference) 10.12 -- Stock Purchase Warrant dated April 13, 1996 between Northstar Advantage High Total Return Fund and the Company (filed as Exhibit 10.3 to the Company's Quarterly Report on Form 10-Q for the Quarter Ended March 31, 1996, and incorporated herein by reference). 10.13 -- Registration Rights Agreement dated April 3, 1996 between Northstar Advantage High Total Return Fund and the Company (filed as Exhibit 10.4 to the Company's Quarterly Report on Form 10-Q for the Quarter Ended March 31, 1996, and incorporated herein by reference). 10.14 -- Sales Agency Agreement dated May 20, 1996 between The Reuben H. Donnelley Corporation and IT Network, Inc. (filed as Exhibit 10.1 to the Company's Quarterly Report on Form 10-Q for the Quarter Ended June 30, 1996, and incorporated herein by reference). 10.15 -- License Agreement dated June 6, 1996 between WinStar New Media Co., Inc. and the Company (filed as Exhibit 10.2 to the Company's Quarterly Report on Form 10-Q for the Quarter Ended June 30, 1996, and incorporated herein by reference). 10.16* -- Charter Affiliation Agreement between Century Communications Corporation and the Company (filed as Exhibit 10.1 to the Company's Current Report on Form 8-K filed April 23, 1996, and incorporated herein by reference). 10.17* -- Services Agreement dated October 21, 1996 between The Reuben H. Donnelley Corporation and IT Network, Inc. (filed as Exhibit 10.1 to the Company's Quarterly Report on Form 10-Q for the Quarter Ended September 30, 1996, and incorporated herein by reference. 10.18+ -- Arrangement Agreement dated November 13, 1996 between the Company and Cableshare. 10.19+ -- Form of Plan of Arrangement. 10.20+ -- Form of Support Agreement between the Company and Cableshare. 10.21+ -- Form of Voting and Exchange Trust Agreement among the Company, Cableshare and [TRUSTEE]. 21 -- Subsidiaries. 23.1+ -- Consent of Ernst & Young LLP. 23.2+ -- Consent of KPMG, Chartered Accountants. 23.3+ -- Consent of Thompson & Knight, P.C. (included in Exhibit 5.1). 23.4++ -- Consent of Thompson & Knight, P.C. (to be included in Exhibit 8.1) 23.5+ -- Consent of Heenan, Blaikie, Barristers & Solicitors.
- --------------- + Filed herewith. ++ To be filed by amendment. * 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-5.1 2 OPINION OF THOMPSON & KNIGHT 1 EXHIBIT 5.1 November 26, 1996 Source Media, Inc. 8140 Walnut Hill Lane, Suite 1000 Dallas, Texas 75231 Dear Sirs: We have acted as counsel for Source Media, Inc., a Delaware corporation ("Source"), in connection with the preparation of Source's Registration Statement on Form S-1 (the "Registration Statement"), filed with the Securities and Exchange Commission (the "Commission") under the Securities Act of 1933, as amended (the "Securities Act"), for the purpose of registering under the Securities Act 1,428,955 shares (the "Shares") of common stock of Source, par value $.001 per share ("Source Common Stock"). The Shares may be issued from time to time by Source in exchange for the exchangeable shares, no par value per share (the "Exchangeable Shares"), of Cableshare Inc., an Ontario corporation ("Cableshare"). The Exchangeable Shares will be issued by Cableshare in connection with a Plan of Arrangement involving Cableshare and its stockholders (the "Arrangement"). The Shares will be issued by Source in accordance with the terms and subject to the conditions set forth in the Arrangement Agreement dated November 13, 1996 between Source and Cableshare (the "Agreement"). In connection with the foregoing we have examined the originals or copies, certified or otherwise authenticated to our satisfaction, of the Registration Statement, the Agreement and such corporate records of Source, certificates of public officials and of officers of Source, and other agreements, instruments and documents as we have deemed necessary to require as a basis for the opinions hereinafter expressed. Where facts material to the opinions hereinafter expressed were not independently established by us, we have relied upon the statements of officers of Source, where we deemed such reliance appropriate under the circumstances. Based upon the foregoing and in reliance thereon, and subject to the assumptions and qualifications hereinafter specified, it is our opinion that the Shares to be issued by Source in exchange for the Exchangeable Shares in accordance with the Agreement have been duly authorized by the Company and when (i) the Registration Statement has become effective under the Securities Act, (ii) state securities laws have been fully complied with and (iii) the Shares are issued and delivered pursuant to the Agreement as described in the Prospectus forming a part of the Registration Statement, the Shares will be validly issued, fully paid and nonassessable. The opinions expressed above are limited by and subject to the following qualifications: (a) We are members of the Bar of the State of Texas only and do not purport to be experts on the laws of any state or jurisdiction other than the State of Texas and the United 2 Source Media, Inc. November 26, 1996 Page 2 States. Insofar as the opinions expressed herein relate to matters governed by Delaware law, we have relied solely upon a reading of the applicable statutes and the corporate records of the Company with respect to the opinions given herein. (b) In rendering the opinions expressed herein, we have assumed that no action heretofore taken by the Board of Directors of the Company in connection with the matters described or referred to herein will be modified, rescinded or withdrawn after the date hereof. We hereby consent to the filing of this opinion with the Commission as an exhibit to the Registration Statement and to the reference to us under the caption "Validity of Source Common Shares" in the Prospectus forming a part of the Registration Statement. In giving this consent, we do not hereby admit that we come within the category of persons whose consent is required under Section 7 of the Securities Act or the rules or regulations of the Commission thereunder. Respectfully submitted, THOMPSON & KNIGHT, A Professional Corporation By: /s/ Michael L. Bengtson ----------------------------------- Michael L. Bengtson, Attorney GCL EX-10.18 3 ARRANGEMENT AGREEMENT 1 EXHIBIT 10.18 ARRANGEMENT AGREEMENT BETWEEN SOURCE MEDIA, INC. -- AND -- CABLESHARE INC. November 13, 1996 2 TABLE OF CONTENTS
PAGE ------ ARTICLE 1. INTERPRETATION 1.1 Definitions............................................. 5 1.2 Currency................................................ 8 1.3 Number and Gender....................................... 8 1.4 Entire Agreement........................................ 8 1.5 Interpretation.......................................... 9 1.6 Knowledge............................................... 9 1.7 References to Statutes.................................. 9 1.8 Date of Any Action...................................... 9 1.9 Exhibits................................................ 9 ARTICLE 2. THE ARRANGEMENT 2.1 Implementation Steps by Cableshare...................... 9 2.2 Implementation Steps by Source.......................... 10 2.3 Interim Order........................................... 10 2.4 Articles of Arrangement................................. 10 2.5 Cableshare Options...................................... 11 2.6 Cableshare Information Circular......................... 11 2.7 Securities Compliance................................... 11 2.8 Preparation of Filings.................................. 11 2.9 Exchangeable Shares Generally........................... 12 2.10 Trustee................................................. 13 2.11 Cableshare Shareholder List............................. 13 2.12 Place of Closing........................................ 13 ARTICLE 3. REPRESENTATIONS AND WARRANTIES OF CABLESHARE 3.1 Incorporation, Status and Power......................... 13 3.2 Subsidiaries............................................ 13 3.3 Authority............................................... 13 3.4 Recommendation.......................................... 13 3.5 No Conflict............................................. 13 3.6 Share Capitalization.................................... 14 3.7 Shareholder and Similar Agreements...................... 14 3.8 No Changes.............................................. 14 3.9 No Fee or Commission.................................... 14 3.10 Disclosure.............................................. 14 3.11 Material Facts.......................................... 14 ARTICLE 4. REPRESENTATIONS AND WARRANTIES OF SOURCE 4.1 Incorporation, Status and Power......................... 15 4.2 Authority............................................... 15 4.3 No Conflict............................................. 15 4.4 Share Capitalization.................................... 15 4.5 Disclosure.............................................. 15
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PAGE ------ ARTICLE 5. SURVIVAL AND EFFECT OF REPRESENTATIONS AND WARRANTIES 5.1 Repetition of Representations and Warranties............ 15 5.2 Survival of Representations and Warranties.............. 15 5.3 Reliance................................................ 16 ARTICLE 6. COVENANTS OF CABLESHARE 6.1 Recommendation.......................................... 16 6.2 Operation of Cableshare................................. 16 6.3 Notification............................................ 17 6.4 Access to Information................................... 17 6.5 Depositary.............................................. 17 6.6 Compliance.............................................. 17 6.7 No Solicitations........................................ 17 6.8 Better Offers........................................... 17 6.9 Exercise of Dissent Rights.............................. 17 ARTICLE 7. COVENANTS OF SOURCE 7.1 Conduct of Source's Business............................ 18 7.2 Insurance............................................... 18 7.3 Northstar Consent....................................... 18 7.4 Notification............................................ 18 7.5 Exchangeable Shares..................................... 18 ARTICLE 8. COVENANTS REGARDING SATISFACTION OF CONDITIONS 8.1 Satisfaction of Conditions.............................. 19 8.2 Defence of Proceedings.................................. 19 8.3 Notification............................................ 19 ARTICLE 9. CONDITIONS PRECEDENT TO OBLIGATIONS OF PARTIES 9.1 Conditions in Favour of Both Parties.................... 19 9.2 Conditions in Favour of Source.......................... 20 9.3 Conditions in Favour of Cableshare...................... 20 ARTICLE 10. AMENDMENT AND TERMINATION 10.1 Termination............................................. 20 10.2 Effect of Termination................................... 21 10.3 Expenses................................................ 21 10.4 Amendment............................................... 21 10.5 Waiver Without Prejudice................................ 21
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PAGE ------ ARTICLE 11. GENERAL 11.1 Notices................................................. 21 11.2 Survival................................................ 22 11.3 Further Assurances...................................... 22 11.4 Public Announcements.................................... 22 11.5 Binding Effect and Assignment........................... 22 11.6 Waiver of Jury Trial.................................... 22 11.7 Severability............................................ 22 11.8 Specific Performance.................................... 22 11.9 Construction............................................ 22 11.10 Time of the Essence...................................... 23 11.11 Governing Law............................................ 23 11.12 Counterparts............................................. 23
EXHIBITS Exhibit 1 -- Plan of Arrangement Exhibit 2 -- Arrangement Resolution Exhibit 3 -- Support Agreement Exhibit 4 -- Voting and Exchange Trust Agreement Exhibit 5 -- Disclosure Exhibit 4 5 ARRANGEMENT AGREEMENT THIS AGREEMENT made as of the 13th day of November, 1996. B E T W E E N : SOURCE MEDIA, INC., a corporation existing under the laws of the State of Delaware, (hereinafter referred to as the "Source"), OF THE FIRST PART, - and - CABLESHARE INC., a corporation existing under the laws of the Province of Ontario, (hereinafter referred to as "Cableshare"), OF THE SECOND PART. WHEREAS the parties have agreed, on the terms and subject to the conditions hereinafter provided, to enter into a transaction whereby Source will acquire all of the outstanding shares in the capital of Cableshare not currently owned by the Source Affiliates; AND WHEREAS the board of directors of Cableshare has determined that it would be in the best interests of Cableshare to enter into this Agreement and to recommend to the shareholders of Cableshare in writing that they vote in favour of a resolution approving the Arrangement, all on the terms and subject to the conditions hereinafter provided; AND WHEREAS the foregoing determination of the board of directors of Cableshare was made on the recommendation of the Special Committee following the receipt of an opinion from its financial advisor as to the fairness of the Arrangement from a financial point of view to Cableshare's shareholders (other than the Source Affiliates); NOW THEREFORE THIS AGREEMENT WITNESSES that in consideration of the respective covenants, representations and warranties herein contained and for other good and valuable consideration (the receipt and sufficiency of which are hereby expressly acknowledged by each party), the parties hereby agree as follows: ARTICLE 1. INTERPRETATION 1.1 DEFINITIONS. For the purposes of this Agreement, unless the context otherwise requires, the following terms shall have the respective meanings set out below and grammatical variations of such terms shall have corresponding meanings: "ACQUISITION PROPOSAL" has the meaning ascribed thereto in section 6.7. "ACT" means the Business Corporations Act (Ontario), R.S.O. 1990, c. B.16. "ARRANGEMENT" means the arrangement to be effected under the provisions of sections 182 and 183 of the Act on the terms and conditions set forth in the Plan of Arrangement, subject to any amendment to the Plan of Arrangement made in accordance therewith or at the direction of the Court in the Final Order. "ARRANGEMENT RESOLUTION" means the special resolution of Cableshare in content and form substantially similar to the form of special resolution appended hereto as Exhibit 2. 5 6 "ARTICLES OF ARRANGEMENT" means the articles of arrangement of Cableshare relating to the Arrangement. "AUDITED FINANCIAL STATEMENTS" means the consolidated balance sheet of Cableshare as at March 31, 1996 and the consolidated statements of earnings, deficit and changes in financial position for the year then ended, together in each case with the notes thereto and the auditors' report thereon, all as contained in the annual report of Cableshare for the fiscal year ended March 31, 1996. "AVERAGE TRADING PRICE OF SOURCE COMMON SHARES" means the number that equals the volume weighted average trading price, denominated in U.S. dollars, of Source Common Shares as reported on NASDAQ for the 20 days on which trading took place on NASDAQ ending on the Determination Date. "BUSINESS DAY" means a day which is not a Saturday, Sunday, a statutory holiday within the meaning of the Interpretation Act (Canada) or a day on which banks are required or permitted by law to be closed for business in Toronto, Ontario. "CABLESHARE DISCLOSURE DOCUMENTS" means, collectively: (a) the Audited Financial Statements; (b) the management proxy circular of Cableshare dated November 7, 1995; (c) the Unaudited Financial Statements; (d) all material change reports filed by Cableshare with the OSC from and after March 31, 1996 to but excluding the date hereof; and (e) all press releases issued by Cableshare from and after March 31, 1996 to but excluding the date hereof; which disclosure documents have been filed under applicable securities Laws. "CABLESHARE INFORMATION CIRCULAR" means the management information circular of Cableshare to be prepared and sent to the shareholders of Cableshare in connection with the Cableshare Shareholders' Meeting. "CABLESHARE NEW COMMON SHARES" means shares in the new class of common shares in the capital of Cableshare described in subsection 2.4(a). "CABLESHARE OPTIONS" means those options to acquire Class A Shares from Cableshare that are described in the Cableshare Information Circular and that remain in existence at the Effective Time. "CABLESHARE SHAREHOLDERS' MEETING" means the annual and special meeting of the shareholders of Cableshare (including any adjournment thereof) that is to be convened as provided by the Interim Order to consider, and if deemed advisable, approve the Arrangement, all as further described in subsection 2.1(b). "CERTIFICATE" means the certificate of arrangement giving effect to the reorganization of, and amendments to, the share capital of Cableshare effected by the Arrangement, issued pursuant to subsection 183(2) of the Act after the Articles of Arrangement have been filed. "CLASS A SHARES" means the Class A Subordinate Voting Shares without par value in the capital of Cableshare. "CLASS B SHARES" means the Class B Multiple Voting Shares without par value in the capital of Cableshare. "CONTRACT" means any agreement, contract, deed, indenture, licence, sub-licence, undertaking, arrangement, understanding, commitment or other document or oral statement creating or evidencing legal obligations. "COURT" means the Ontario Court of Justice (General Division). "DETERMINATION DATE" means the day which is the second Business Day prior to the date of the Cableshare Shareholders' Meeting. 6 7 "DETERMINATION DATE FOREIGN EXCHANGE RATE" means the number (including any decimal fraction) which is the value in Canadian dollars of one U.S. dollar at the rate of exchange equal to the Bank of Canada's noon rate for such currencies on the Determination Date. "DIRECTOR" means the Director appointed under section 278 of the Act. "DISSENT RIGHTS" means the rights of dissent in respect of the Arrangement described in section 3.1 of the Plan of Arrangement. "EFFECTIVE DATE" means the date shown on the Certificate. "EFFECTIVE TIME" has the meaning ascribed thereto in the Plan of Arrangement. "ENCUMBRANCES" means all mortgages, liens, charges, restrictions, security interests, adverse claims, pledges, encumbrances, rights of set-off and demands or rights of others of any nature or kind whatsoever, including any Contract for the purchase or transfer of any of Cableshare's property. "EXCHANGE ACT" means the United States Securities Exchange Act of 1934. "EXCHANGE RATIO" means the number equal to the lesser of: (a) the Average Trading Price of Source Common Shares multiplied by the Determination Date Foreign Exchange Rate and divided by C$2.25; and (b) 7.5. "EXCHANGEABLE SHARES" means shares in the new class of exchangeable shares in the capital of Cableshare described in subsection 2.4(a). "FINAL ORDER" means the final order of the Court approving the Arrangement following the application therefor as contemplated by subsection 2.1(a). "FINANCIAL STATEMENTS" means the Audited Financial Statements and the Unaudited Financial Statements. "INTERIM ORDER" means the interim order of the Court made in connection with the approval of the Arrangement following application therefor, as contemplated by subsection 2.1(a). "LAWS" means all statutes, regulations, statutory, rules, principles of law, orders, published policies and guidelines, and terms and conditions of any grant of approval, permission, authority or licence of any court, government, governmental authority or agency, statutory body (including The Toronto Stock Exchange) or self-regulatory authority, and the term "applicable" with respect to such Laws and in a context that refers to one or more Persons, means that such Laws apply to such Person or Persons or its or their business, undertaking, property or securities and emanate from a Person having jurisdiction over the Person or Persons or its or their business, undertaking, property or securities. "NASDAQ" means the National Association of Securities Dealers Automated Quotation National Market System. "NORTHSTAR CONSENT" means any consent that may be required in connection with the Arrangement in connection with the note agreement made as of March 28, 1996 between Source and Northstar Advantage High Total Return Fund. "ONTARIO SECURITIES ACT" means the Securities Act (Ontario), R.S.O. 1990, c. S.5. "OSC" means the Ontario Securities Commission. "PERSON" includes any individual, firm, partnership, joint venture, venture capital fund, association, trust, trustee, executor, administrator, legal personal representative, estate, group, body corporate, corporation, unincorporated association or organization, government body, syndicate or other entity, whether or not having legal status. "PLAN OF ARRANGEMENT" means the plan of arrangement set out as Exhibit 1 to this Agreement, as the same may be amended as set out in Exhibit 1. "RECOMMENDATION" means the recommendation of the board of directors of Cableshare, made at its meeting held November 12, 1996, that holders of Class A Shares and Class B Shares vote in favour of 7 8 the Arrangement Resolution at the Cableshare Shareholders' Meeting, all as described in the Cableshare Information Circular. "REPLACEMENT SOURCE OPTION" has the meaning ascribed thereto in section 2.5. "SEC" means the United States Securities and Exchange Commission. "SECURITIES ACT" means the United States Securities Act of 1933. "SOURCE AFFILIATES" means IT Network, Inc., a Texas corporation, and 997758 Ontario Inc., an Ontario corporation. "SOURCE COMMON SHARE" means a share of common stock of Source, par value U.S.$0.001. "SOURCE DISCLOSURE DOCUMENTS" means, collectively: (a) the prospectus dated December 7, 1995 in relation to the offering of 2,350,000 Source Common Shares; (b) the consolidated balance sheet of Source as at December 31, 1995 and the consolidated statements of operations, stockholders' equity (capital deficiency) and cash flows for the year then ended, together in each case with the notes thereto and the auditors' report thereon, all as contained in the annual report of Source for the fiscal year ended December 31, 1995; (c) the Form 10-K filed by Source with the SEC for the fiscal year ended December 31, 1995, including the documents incorporated therein by reference; (d) the management proxy statement of Source for the annual meeting of stockholders held May 22, 1996; (e) all Forms 10-Q filed by Source with the SEC since December 31, 1995; and (f) all Forms 8-K filed by Source with the SEC since December 7, 1995; which disclosure documents have been filed under applicable securities Laws. "SPECIAL COMMITTEE" means the special committee of the directors of Cableshare, consisting of directors who are neither officers of Cableshare nor officers or directors of Source, that has considered the Arrangement and made a recommendation regarding it to the board of directors of Cableshare. "SPECIAL SHARES" means the Special Shares without par value in the capital of Cableshare. "SPECIAL VOTING SHARE" means a share in the Special Voting Stock of Source as described in the Voting and Exchange Trust Agreement. "SUBSIDIARY" means any one of Cableshare International Inc., a Barbados limited company, Cableshare B.V., a Netherlands corporation, and Cableshare (U.S.) Limited, an Illinois corporation, and "Subsidiaries" means all of them collectively. "SUPPORT AGREEMENT" means an agreement to be made between Source and Cableshare on the terms and conditions set forth in Exhibit 3 hereto, together with such other terms and conditions as may be customary for agreements of a similar nature and as may be agreed to by the parties, acting reasonably. "TERMINATION DATE" means December 31, 1996. "TRUSTEE" means the trustee referred to in section 2.10. "UNAUDITED FINANCIAL STATEMENTS" means the unaudited consolidated balance sheet of Cableshare as at September 30, 1996 and the consolidated statements of earnings and changes in financial position for the six-month period ended September 30, 1996, all as contained in the Cableshare Information Circular. "VOTING AND EXCHANGE TRUST AGREEMENT" means an agreement to be made between Source, Cableshare and the Trustee on the terms and conditions set forth in Exhibit 4 hereto, together with such other terms and conditions as may be customary for agreements of a similar nature or as may be agreed to by the parties, acting reasonably. 8 9 1.2 CURRENCY. References to "C$" or "Canadian dollars" in this Agreement are to the lawful currency of Canada. References to "U.S.$" or "U.S. dollars" are to the lawful currency of the United States. 1.3 NUMBER AND GENDER. In this Agreement, words importing the singular number only shall include the plural and vice versa, and words importing any gender shall include all genders. The use of the words "any" or "a" in relation to a group or class of Persons or things shall, unless the context otherwise requires, refer to any one Person or thing included in that group or class. 1.4 ENTIRE AGREEMENT. This Agreement, including its Exhibits, constitutes the entire agreement between the parties hereto and their affiliates with respect to the subject matter hereof and except as hereinafter provided supersedes all prior agreements, understandings, negotiations and discussions, whether written or oral, including the offer letters sent on August 30, 1996 and October 28, 1996 by Source to the Special Committee (in respect of which Cableshare and Source acknowledge and agree that any agreement made thereunder is terminated in accordance with its terms upon the execution and delivery by the parties hereto of this Agreement). Each of Source and Cableshare acknowledges and agrees that any confidentiality agreement made between Cableshare and Source relating to the subject matter hereof is superseded by this Agreement to the extent of any inconsistency or conflict between this Agreement and that agreement and to the extent that the compliance by any party with its covenants under this Agreement constitutes a default under or non-compliance by that party with its covenants under that agreement, but otherwise any such confidentiality agreement remains in full force and effect. Cableshare further acknowledges and agrees that all such confidentiality agreements shall be terminated without further notice or action upon the issuance by the Director of the Certificate. There are no covenants, conditions, agreements, representations, warranties or other terms or provisions, express or implied, collateral, statutory or otherwise, relating to the subject matter hereof except as herein provided. 1.5 INTERPRETATION. The division of this Agreement into articles, sections, subsections and paragraphs and the insertion of headings are for convenience of reference only and neither such division nor the insertion of such headings shall affect the construction or interpretation hereof. The terms "this Agreement", "herein", "hereof", "hereunder" and similar expressions refer to this arrangement agreement, including the Exhibits hereto, and not to any particular article, section, subsection, paragraph or other portion hereof, and any agreement or instrument supplementary or ancillary hereto. When used herein, "including" shall mean "including, without limitation". 1.6 KNOWLEDGE. For the purposes of section 3.7, "to the knowledge of Cableshare" refers to the actual knowledge of the senior officers of Cableshare after due inquiry of the relevant employees of Cableshare and due review of all documents in the possession or under the control of Cableshare. 1.7 REFERENCES TO STATUTES. Any reference herein to any statute or legislation shall be deemed to be a reference to such statute or legislation and all regulations and rules made thereunder, in each case as amended, supplemented, replaced, consolidated or superseded from time to time. 1.8 DATE OF ANY ACTION. In the event that the date on which any action is required or permitted to be taken hereunder is not a Business Day, such action shall be required or permitted to be taken on or by the next succeeding day which is a Business Day. 1.9 EXHIBITS. The following Exhibits are annexed to and incorporated into this Agreement by reference and are deemed to be a part hereof: Exhibit 1 -- Plan of Arrangement Exhibit 2 -- Arrangement Resolution Exhibit 3 -- Support Agreement Exhibit 4 -- Voting and Exchange Trust Agreement Exhibit 5 -- Disclosure Exhibit 9 10 ARTICLE 2. THE ARRANGEMENT 2.1 IMPLEMENTATION STEPS BY CABLESHARE. Cableshare covenants in favour of Source that it shall: (a) as soon as reasonably practicable, and in any event not later than the third Business Day following the date hereof, apply in a manner acceptable to Source, acting reasonably, under subsection 182(5) of the Act for an order approving the Arrangement and for an interim order as described in section 2.2, and thereafter proceed with and diligently pursue the obtaining of such interim order; (b) convene and hold a special meeting of the holders of the outstanding Class A Shares and Class B Shares of Cableshare for the purpose of considering the Arrangement Resolution (and for any other proper purpose as may be set out in the notice for such meeting); (c) subject to obtaining such shareholder approval as is required by the Interim Order, proceed with and diligently pursue the application to the Court for a final order approving the Arrangement under paragraph 182(5)(f) of the Act; (d) subject to obtaining the Final Order and the satisfaction or waiver of the other conditions herein contained in favour of each party, send to the Director for endorsement and filing by the Director, pursuant to section 273 of the Act, the Articles of Arrangement, containing share provisions in form and content substantially similar to those appended to the Plan of Arrangement, and such other documents as may be required in connection therewith under the Act to give effect to the Arrangement; (e) forthwith following the filing of the Articles of Arrangement with the Director, execute and deliver the Support Agreement; and (f) forthwith following the filing of the Articles of Arrangement with the Director, execute and deliver the Voting and Exchange Trust Agreement. 2.2 IMPLEMENTATION STEPS BY SOURCE. Source covenants in favour of Cableshare that it shall, on or prior to the Effective Date and subject to the satisfaction or waiver of the other conditions herein contained in favour of each party: (a) execute and deliver the Support Agreement; (b) execute and deliver the Voting and Exchange Trust Agreement; and (c) issue to the Trustee the Special Voting Share. 2.3 INTERIM ORDER. The notice of motion for the application referred to in subsection 2.1(a) shall request that the Interim Order provide: (a) for the class of Persons to whom notice is to be provided in respect of the Arrangement and the Cableshare Shareholders' Meeting and for the manner in which such notice is to be provided; (b) that holders of outstanding Class A Shares and Class B Shares as such shall be entitled to vote on the Arrangement Resolution together as a single class, and not as separate classes, and holders of Class A Shares shall be entitled to one vote for each Class A Share held of record and holders of Class B Shares shall be entitled to 20 votes for each Class B Share held of record; (c) that the requisite shareholder approval for the Arrangement Resolution shall be 66- 2/3% of the votes cast on the Arrangement Resolution by holders of Class A Shares and Class B Shares present in person or by proxy at the Cableshare Shareholders' Meeting, voting together, and a majority of the votes cast on the Arrangement Resolution by holders of Class A Shares and holders of Class B Shares present in person or by proxy at the Cableshare Shareholders' Meeting excluding shares held by the Source Affiliates and other Persons whose votes would be excluded for the purpose of determining "minority approval" as such term is defined in Policy 9.1 of the OSC; 10 11 (d) that, in all other respects, the terms, restrictions and conditions of the by-laws and articles of Cableshare, including quorum requirements all other matters, shall apply in respect of the Cableshare Shareholders' Meeting; and (e) for the grant of the Dissent Rights. 2.4 ARTICLES OF ARRANGEMENT. The Articles of Arrangement shall, with such other matters as are necessary to effect the Arrangement, and all as subject to the provisions of the Plan of Arrangement (including as described in section 2.9), provide as follows: (a) the authorized share capital of Cableshare shall be increased by the creation of an unlimited number of a new class of common shares ("Cableshare New Common Shares"), an unlimited number of a new class of exchangeable shares ("Exchangeable Shares") if the same are to be issued pursuant to the Plan of Arrangement, and an unlimited number of a new class of preferred shares, issuable in series, each such class having the rights, privileges, restrictions and conditions described with respect to it in the Plan of Arrangement; (b) the authorized share capital of Cableshare shall be decreased by cancelling all of the authorized but unissued Class A Shares and Class B Shares; (c) each shareholder of Cableshare who has elected to receive Exchangeable Shares will receive that number of Exchangeable Shares equal to the aggregate number of Class A Shares and Class B Shares held of record by it, divided by the Exchange Ratio, provided that Exchangeable Shares are to be issued pursuant to the Plan of Arrangement; (d) each other shareholder of Cableshare (other than shareholders who exercise Dissent Rights and who are ultimately entitled to be paid the fair value of the Class A Shares and Class B Shares held by them), and other than the Source Affiliates, will receive that number of Source Common Shares equal to the aggregate number of Class A Shares and Class B Shares held of record by it, divided by the Exchange Ratio; (e) immediately following the exchanges outlined in paragraph (d) above, each issued and outstanding Class A Share and Class B Share (all of which will be held by Source or the Source Affiliates) will be converted into one Cableshare New Common Share; and (f) the stated capital attributable to the Cableshare New Common Shares and the Exchangeable Shares will be as set out in the Plan of Arrangement. 2.5 CABLESHARE OPTIONS. At the Effective Time, each of the Cableshare Options shall be exchanged for an option (a "Replacement Source Option") to purchase that number of Source Common Shares equal to the number of Class A Shares or Class B Shares subject to the Cableshare Option at the Effective Time divided by the Exchange Ratio, or, at the election of the holder of each Cableshare Option in the event that Exchangeable Shares are to be issued in accordance with the Plan of Arrangement, the Cableshare Option shall become an option to purchase that number of Exchangeable Shares equal to the Class A Shares or Class B Shares subject to the Cableshare Option at the Effective Time divided by the Exchange Ratio, provided that no Replacement Source Option shall be exercisable unless the corresponding Cableshare Option has first been terminated by the holder thereof without having been exercised. The Replacement Source Options and the Cableshare Options shall provide for an exercise price per Source Common Share (or Exchangeable Share) equal to the exercise price per share of such Cableshare Option immediately prior to the Effective Time multiplied by the Exchange Ratio. If the foregoing calculation results in a Replacement Source Option or Cableshare Option being exercisable for a fraction of a Source Common Share (or Exchangeable Share), then the number of Source Common Shares (or Exchangeable Shares) subject to such option shall be rounded down to the next whole number of Source Common Shares (or Exchangeable Shares) and the total exercise price for the option will be reduced by the exercise price of the fractional Source Common Share (or Exchangeable Share). The term to expiry, conditions to and manner of exercising, vesting schedule, status under of the United States Internal Revenue Code, and all other terms and conditions of the Replacement Source Options and Cableshare Options will otherwise be unchanged. Source shall reserve a sufficient number of Source 11 12 Common Shares (and, as applicable, Cableshare shall reserve a sufficient number of Exchangeable Shares) for issuance upon exercise of the Replacement Source Options and the Cableshare Options. 2.6 CABLESHARE INFORMATION CIRCULAR. As promptly as practicable after the execution and delivery of this Agreement, Source and Cableshare shall prepare the Cableshare Information Circular together with any other documents required by the Securities Act, the Exchange Act, the Ontario Securities Act or other applicable Law in connection with the Arrangement, and Cableshare shall cause the Cableshare Information Circular and other documentation required in connection with the Cableshare Shareholders' Meeting to be mailed to each holder of Class A Shares and Class B Shares and filed as required with the SEC (if necessary), the OSC and any other securities regulatory authority having jurisdiction, all at the expense of Source and in accordance with National Policy No. 41 of the Canadian Securities Administrators, the Interim Order and applicable Law. 2.7 SECURITIES COMPLIANCE. Source and Cableshare shall use all reasonable efforts to obtain all orders required from the applicable Canadian securities authorities to permit the issuance and first resale of (a) the Exchangeable Shares and Source Common Shares pursuant to the Arrangement, (b) the Source Common Shares upon exchange of the Exchangeable Shares, and (c) Source Common Shares or Exchangeable Shares upon the exercise of the Replacement Source Options or Cableshare Options, in each case without qualification with, or approval of or the filing of any document, including any prospectus or similar document or the taking of any proceeding with, or the obtaining of any further order, ruling or consent from, any governmental or regulatory authority under any Canadian federal, provincial or territorial Law or pursuant to the rules and regulations of any regulatory authority administering such Law, or the fulfilment of any other legal requirement in any such jurisdiction (other than, with respect to such first resales, any restrictions on transfer by reason of (x) a holder being a "control person" of Source or Cableshare for purposes of Canadian federal, provincial or territorial securities Law, (y) any unusual effort being made to prepare the market or create a demand for the securities, or (z) any extraordinary commission or consideration being paid in respect of the trade). 2.8 PREPARATION OF FILINGS. (a) Source and Cableshare shall cooperate in: (i) the preparation of any application for the orders referred to in section 2.7, and any other documents reasonably deemed by Source or Cableshare to be necessary to discharge their respective obligations under United States and Canadian federal, provincial, territorial or state securities Laws in connection with the Arrangement and the other transactions contemplated hereby; (ii) the taking of all such action as may be required under any applicable provincial, territorial or state securities Laws (including "blue sky laws") in connection with the issuance of the Exchangeable Shares and the Source Common Shares in connection with the Arrangement; provided, however, that with respect to United States blue sky and Canadian provincial qualifications neither Source nor Cableshare shall be required to register or qualify as a foreign corporation or to take any action that would subject it to service of process in any jurisdiction where any such entity is not now so subject, except as to matters and transactions arising solely from the offer and sale of the Exchangeable Shares and the Source Common Shares; and (iii) the taking of all such action as may be required under the Act in connection with the transactions contemplated by this Agreement and the Plan of Arrangement. (b) Each of Source and Cableshare shall furnish to the other all such information concerning it and its shareholders as may be required for the effectuation of the actions described in sections 2.6 and 2.7 and the foregoing provisions of this section 2.8, and each covenants that no information furnished by it in connection with such actions or otherwise in connection with the consummation of the Arrangement and the other transactions contemplated by this Agreement will contain any untrue statement of a material fact or omit to state a material fact required to be stated in 12 13 any such document or necessary in order to make any information so furnished for use in any such document not misleading in light of the circumstances in which it is furnished or to be used. (c) Source and Cableshare shall each promptly notify the other if at any time before or after the Effective Time it becomes aware that the Cableshare Information Circular or an application for an order described in section 2.7 contains any untrue statement of a material fact or omits to state a material fact required to be stated therein or necessary to make the statements contained therein not misleading or that otherwise requires an amendment or supplement to the Cableshare Information Circular or such application. In any such event, Source and Cableshare shall cooperate in the preparation of a supplement or amendment to the Cableshare Information Circular or such other document, as required and as the case may be, and, if required, shall cause the same to be distributed to shareholders of Source or Cableshare and/or filed with the OSC and other relevant securities regulatory authorities. (d) Each party shall ensure that the Cableshare Information Circular complies with all applicable Laws except as relate to the disclosure of information regarding the other party (and, with respect to Source, except as relate to matters coming before the Cableshare Shareholders' Meeting other than the Arrangement Resolution), and, without limiting the generality of the foregoing, provides holders of Class A Shares and Class B Shares receiving the Cableshare Information Circular with information in sufficient detail to permit them to form a reasoned judgment concerning the matters to be before them at the Cableshare Shareholders' Meeting. (e) Each party shall promptly notify the other of the receipt of any comments from the staff of any securities regulatory authority on the Cableshare Information Circular and of any request by the staff of any securities regulatory authority for any amendment thereof or supplement thereto, and shall supply the other with copies of all correspondence received from the staff of any securities regulatory authority with respect to the Cableshare Information Circular. 2.9 EXCHANGEABLE SHARES GENERALLY. In the event that holders of Class A Shares and Class B Shares resident in Canada have elected in accordance with the Plan of Arrangement to receive Exchangeable Shares in respect of fewer than 50% of the Class A Shares and Class B Shares (taken together, but excluding those Class A Shares and Class B Shares held by the Source Affiliates and (without duplication) those not held by residents of Canada) outstanding immediately prior to the Effective Time, then, in accordance with the Plan of Arrangement, the Exchangeable Shares shall not be added to the authorized capital of Cableshare, no Person need execute or deliver (or use any efforts to cause any other Person to execute and deliver) the Voting and Exchange Trust Agreement or the Support Agreement, holders of Class A Shares and Class B Shares shall receive only Source Common Shares under the Arrangement, and all other provisions of this Agreement relating to Exchangeable Shares shall be deemed to never have been in force or to have had effect insofar (and only insofar) as they relate to Exchangeable Shares. 2.10 TRUSTEE. Source shall use its reasonable efforts to (a) identify a corporate trustee, acceptable to Cableshare, acting reasonably, to be the trustee under the Voting and Exchange Trust Agreement, and (b) have such trustee execute and deliver, forthwith following the grant of the Final Order, the Voting and Exchange Trust Agreement. 2.11 CABLESHARE SHAREHOLDER LIST. Cableshare shall cause a list of Cableshare shareholders as of the record date for the Cableshare Shareholders' Meeting and shareholder mailing information, in a form suitable for soliciting Cableshare Shareholders, to be prepared by the transfer agent of Cableshare and to be delivered to Source no later than the Business Day after such record date. 2.12 PLACE OF CLOSING. The execution and delivery of the documents required to effectuate the Arrangement (the "Closing") shall take place at the offices of Davies, Ward & Beck, Suite 4400, 1 First Canadian Place, Toronto, Ontario, or at such other place as to which the parties may agree. 13 14 ARTICLE 3. REPRESENTATIONS AND WARRANTIES OF CABLESHARE Cableshare represents and warrants to and in favour of Source as follows. 3.1 INCORPORATION, STATUS AND POWER. Cableshare is a corporation duly incorporated, organized and validly existing under the laws of the Province of Ontario and has all requisite corporate power to own or lease its property, to carry on its operations as now carried on or currently proposed to be carried on, to execute and deliver this Agreement and to perform its obligations hereunder. 3.2 SUBSIDIARIES. Cableshare has no direct or indirect subsidiaries (as such term is defined in the Act) other than the Subsidiaries. Cableshare is the registered and beneficial holder, free from all Encumbrances, of all of the issued and outstanding securities (including shares in the capital) of each Subsidiary. Each Subsidiary is a corporation duly incorporated, organized and validly existing under the laws of the jurisdiction of its incorporation and has all requisite corporate power to own or lease its property, to carry on its operations as now carried on or currently proposed to be carried on. There exists no Contract or other arrangement or circumstance under which any Person other than Cableshare (or Persons who are officers or directors of Cableshare) has the power or ability to manage or direct the conduct of the business and affairs of any Subsidiary. 3.3 AUTHORITY. The execution and delivery of this Agreement by Cableshare and the performance by Cableshare of its obligations hereunder have been duly and validly authorized by all necessary corporate action on the part of Cableshare and, subject to obtaining the requisite shareholder approvals contemplated in the Interim Order, no other corporate proceedings on the part of Cableshare are necessary to authorize this Agreement or consummate the transactions contemplated hereby. This Agreement has been duly executed and delivered by Cableshare and constitutes a legal, valid and binding obligation of Cableshare enforceable against it by Source in accordance with its terms, subject to the availability of equitable remedies and the enforcement of creditors' rights generally. 3.4 RECOMMENDATION. The board of directors of Cableshare has adopted the Recommendation following the receipt by it of a recommendation from the Special Committee and an opinion from the financial advisor to the Special Committee that the terms of the Arrangement as proposed in the Plan of Arrangement are fair from a financial point of view to Cableshare's shareholders (other than the Source Affiliates). 3.5 NO CONFLICT. Except as disclosed in Exhibit 5, the execution and delivery of this Agreement and the performance by Cableshare of its obligations hereunder do not and will not: (a) conflict with or breach in any material respect (i) the constating documents or by-laws of Cableshare or the resolutions of its directors or shareholders, (ii) Contracts binding on Cableshare, or (iii) Laws applicable to Cableshare or any Subsidiary; (b) give rise to any right to terminate or any restriction on the rights or benefits of Cableshare or any Subsidiary under any material Contract to which Cableshare or any Subsidiary is a party; or (c) result in the imposition of any Encumbrance on any material asset of Cableshare or any Subsidiary. 3.6 SHARE CAPITALIZATION. (a) The authorized capital of Cableshare consists of an unlimited number of Special Shares, an unlimited number of Class A Shares and an unlimited number of Class B Shares. (b) As at the date hereof: (i) 11,950,088 Class A Shares and 2,432,517 Class B Shares are issued and outstanding; (ii) no Special Shares are issued and outstanding; and (iii) there are no other issued and outstanding shares in the capital of Cableshare. (c) All issued and outstanding shares of Cableshare have been validly authorized and issued and are fully paid and non-assessable. The Class A Shares and Class B Shares are listed and posted for trading on The Toronto Stock Exchange, but not on any other exchange or stock quotation and trading system. 14 15 (d) There are no options, warrants, conversion privileges, calls or other rights of any nature whatsoever, and no Contract or any other document under which Cableshare is obligated, contingently or otherwise, to issue or sell any shares in the capital stock of Cableshare or securities or obligations of any kind convertible into or exchangeable for any shares in the capital stock of Cableshare, nor are there outstanding any stock appreciation rights, phantom equity or similar rights, agreements, arrangements or commitments based upon the book value, income or other attributes of Cableshare, except for (i) the options to acquire Class A Shares described as to date of grant, number of Class A Shares under option, holder, option exercise price and expiry date described in the Cableshare Information Circular, and (ii) the rights of holders of Class B Shares to convert each Class B Share into a Class A Share in accordance with the articles of Cableshare. No holder of Cableshare shares is entitled to any pre-emptive or other similar rights in respect of shares in the capital of Cableshare. 3.7 SHAREHOLDER AND SIMILAR AGREEMENTS. To the knowledge of Cableshare, there are no shareholder, pooling, voting trust or other agreements relating to the issued and outstanding shares of Cableshare. 3.8 NO CHANGES. Since the date of the Audited Financial Statements: (a) Cableshare and each Subsidiary has carried on its affairs in the ordinary course consistent with past practice; and (b) Cableshare has not made any change in its accounting principles and practices as theretofore applied, including the basis upon which its assets and liabilities are recorded on its books and its earnings and profits and losses are ascertained. 3.9 NO FEE OR COMMISSION. Except as described as to payee and amount in the Cableshare Information Circular, Cableshare is not liable for any brokers' fee, financial advisory fee or commission in connection with any transaction contemplated by this Agreement. 3.10 DISCLOSURE. The Cableshare Disclosure Documents, when taken together and as at their respective dates, include all documents that Cableshare has been required by Laws applicable to it to file with the OSC since March 31, 1996, were prepared in accordance with the requirements of applicable Laws and did not, when filed, contain any untrue statement of a material fact or omit to state any material fact required to be stated therein or necessary in order to make the statements made therein not misleading in light of the circumstances under which they were made. This Agreement contains no untrue statement of a material fact and does not omit to state any material fact required to be stated herein or necessary in order to make the statements made herein not misleading in light of the circumstances under which they are made. No material fact exists on the date hereof which has not been disclosed in the Cableshare Disclosure Documents which, if publicly disclosed, would reflect that an adverse material change (or any event, condition or state of facts which might reasonably be expected to give rise to any such material change) had occurred in the affairs, capital, assets, liabilities, financial condition, operations or prospects of Cableshare. 3.11 MATERIAL FACTS. Cableshare has attempted in good faith to deliver all documents that Cableshare is reasonably able to deliver or cause to be delivered that have been requested by Source or its advisors, and has not withheld any material fact actually known to Cableshare in responding to the inquiries made to it in writing by Source or its advisors in connection with the transactions contemplated by this Agreement. 15 16 ARTICLE 4. REPRESENTATIONS AND WARRANTIES OF SOURCE Source represents and warrants to and in favour of Cableshare as follows. 4.1 INCORPORATION, STATUS AND POWER. Source is a corporation duly incorporated, organized and validly existing under the laws of the State of Delaware and has all requisite corporate power to own or lease its property, to carry on its operations as now carried on or currently proposed to be carried on, to execute and deliver this Agreement and to perform its obligations hereunder. 4.2 AUTHORITY. The execution and delivery of this Agreement by Source and the performance by Source of its obligations hereunder have been duly and validly authorized by all necessary corporate action on the part of Source and no other corporate proceedings on the part of Source are necessary to authorize this Agreement or consummate the transactions contemplated hereby, including the issuance of Source Common Shares as contemplated pursuant to the Arrangement. This Agreement has been duly executed and delivered by Source and constitutes a legal, valid and binding obligation of Source enforceable against it by Cableshare in accordance with its terms, subject to the availability of equitable remedies and the enforcement of creditors' rights generally. 4.3 NO CONFLICT. The execution and delivery of this Agreement and the performance by Source of its obligations hereunder do not and will not: (a) conflict with or breach in any material respect (i) the constating documents or by-laws of Source or the resolutions of its directors or shareholders; (ii) Contracts binding on Source; or (iii) Laws applicable to Source; (b) give rise to any right to terminate or any restriction on the rights or benefits of Source under any material Contract to which Source is a party; or (c) result in the imposition of any Encumbrance on any material asset of Source. 4.4 SHARE CAPITALIZATION. (a) The authorized capital of Source consists of 1,000,000 shares of Preferred Stock, U.S.$0.001 par value, 50,000,000 Source Common Shares, and an unlimited number of shares of treasury stock. (b) As at the date hereof: (i) 9,945,690 Source Common Shares are issued and outstanding; (ii) no shares of Preferred Stock are issued and outstanding; and (iii) there are no other outstanding shares in the capital of Source. (c) All issued and outstanding shares of Source have been validly authorized and issued and are fully paid and non-assessable. The Source Common Shares are listed and posted for trading on NASDAQ, but not on any other exchange or stock quotation and trading system. 4.5 DISCLOSURE. The Source Disclosure Documents, when taken together and as at their respective dates, include all documents that Source has been required by Laws applicable to it to file with the SEC since December 7, 1995, were prepared in accordance with the requirements of applicable Laws and did not, when filed, contain any untrue statement of a material fact or omit to state any material fact required to be stated therein or necessary in order to make the statements made therein not misleading in light of the circumstances under which they were made and, in particular, no material fact exists on the date hereof that has not been disclosed in the Source Disclosure Documents which, if publicly disclosed, would reflect that an adverse material change (or any event, condition or state of facts which might reasonably be expected to give rise to any such material change) had occurred in the affairs, capital, assets, liabilities, financial condition, operations or prospects of Source. 16 17 ARTICLE 5. SURVIVAL AND EFFECT OF REPRESENTATIONS AND WARRANTIES 5.1 REPETITION OF REPRESENTATIONS AND WARRANTIES. The representations and warranties of each of the parties shall be deemed to be repeated on the date hereof and on the Effective Date. 5.2 SURVIVAL OF REPRESENTATIONS AND WARRANTIES. The representations and warranties of each party shall survive the execution and delivery of this Agreement and shall terminate on the earlier of the termination of this Agreement and the day after the Effective Date. 5.3 RELIANCE. No investigation by either party or its advisors will affect the representations and warranties of the other party or diminish the first party's reliance on any of them. ARTICLE 6. COVENANTS OF CABLESHARE Cableshare covenants in favour of Source as follows. 6.1 RECOMMENDATION. Subject to section 6.8, the Recommendation shall be reflected in the Cableshare Information Circular. 6.2 OPERATION OF CABLESHARE. Until the earlier of the termination of this Agreement and the Effective Date and subject to the terms of this Agreement, Cableshare shall, and shall cause each Subsidiary to, except with the prior written consent of Source: (a) carry on its operations only in, and not take any action except in, the ordinary course in substantially the same manner as heretofore carried on and use all reasonable efforts to preserve intact its present organization, licences and permits, comply with applicable Laws and orders, maintain all beneficial relationships, retain the benefit of all material Contracts and retain the services of its employees to the end that its goodwill and operations shall be maintained; (b) not issue, sell or authorize the issuance or sale, or grant any right to acquire of any nature whatsoever any securities of Cableshare (except pursuant to the exercise of the Options or the conversion into Class A Shares or Class B Shares now outstanding), or split, combine, reclassify any share or effect any other change in its share capital; (c) not purchase or propose the purchase of any of its shares of any class or securities convertible into or rights, warrants or options to acquire any such shares or other exchangeable or convertible securities, or the conversion of convertible securities outstanding on the date hereof; (d) not sell, transfer, convey, assign, encumber or otherwise dispose of any material asset except for fair value in the normal course of business, consistent with the practice in prior periods; (e) not sell, transfer, convey, assign, encumber or otherwise dispose of any equity interest in any Subsidiary; (f) not acquire or agree to acquire any assets or securities of or make any investment in or loan to any Person, or acquire or agree to acquire by amalgamating, merging or consolidating with, purchasing substantially all of the assets of or otherwise, any Person, except that Cableshare may acquire assets in the ordinary course of its business, consistent with the practice in prior periods; (g) not pay, discharge or satisfy any material claim, liability or obligation (absolute, accrued, asserted or unasserted, contingent or otherwise) other than in the ordinary course of business consistent with prior practice of liabilities reflected or reserved against in the Financial Statements or incurred in the ordinary course of business since September 30, 1996 consistent with past practice; (h) not incur, commit to incur or guarantee the payment of indebtedness for borrowed money or issue any debt securities; 17 18 (i) not make any material tax election inconsistent with past practices or settle or compromise any material federal, provincial, state, local or foreign tax liability or agree or seek an extension to the filing of any return or other filing relating to the assessment or payment of taxes; (j) not terminate or amend any material Contract or enter into any material Contract; (k) not adopt or amend any employee benefit, bonus, savings, deferred compensation, stock option, stock purchase, stock appreciation, group insurance, profit sharing, retirement, health, dental, vision, employment or unemployment, education, disability or like plans, programs or arrangements under which Cableshare or any Subsidiary has any obligation (other than the Canada Pension Plan and programs administered under the Workers Compensation Act (Ontario) and the Unemployment Insurance Act (Canada)), or any pension plan for the benefit of the current or former employees of Cableshare or any Subsidiary or their spouses, children, dependants, beneficiaries or estates; and (l) not enter into any Contract to do any act or thing it is required not to do by the foregoing provisions of this section 6.2. 6.3 NOTIFICATION. Cableshare shall promptly notify Source orally and in writing of (as and when Cableshare becomes aware of the same): (a) any material change in the working capital, financial condition, assets, liabilities, operations or prospects of Cableshare or any Subsidiary; (b) any litigation, proceeding, third party complaint or regulatory action that could materially adversely affect any of the working capital, financial condition, assets, liabilities, operations or prospects of Cableshare or any Subsidiary; (c) all relevant details of any proposal or offer of the type referred to in section 6.7, or of the possibility of any such proposal or offer being made by any Person; and (d) the occurrence or failure to occur of any event or matter that may cause any representation or warranty of Cableshare hereunder to be untrue or inaccurate at any time. 6.4 ACCESS TO INFORMATION. Cableshare shall provide Source and its advisors with such information and documentation relating to Cableshare and the Subsidiaries (including its books and records), and such access to the directors, officers, employees, agents, auditors and advisors to and facilities of Cableshare and such Subsidiaries, as Source may reasonably request from time to time. 6.5 DEPOSITARY. Cableshare shall permit and direct Cableshare's registrar and transfer agent to act as Source's depositary under the Arrangement. 6.6 COMPLIANCE. Cableshare shall ensure that the Cableshare Shareholders' Meeting is conducted in compliance with the articles and by-laws of Cableshare and with the Interim Order. 6.7 NO SOLICITATIONS. Cableshare shall not directly or indirectly make, solicit, initiate or encourage enquiries or the submission of proposals or offers from any Person other than Source relating to the acquisition, recapitalization, merger, amalgamation, arrangement, purchase or dissolution of Cableshare or, except with the prior written consent of Source, of any Subsidiary or other material assets or any ownership or debt interest of or in Cableshare or any similar or business combination transaction (any of the foregoing proposals or offers being referred to herein as an "Acquisition Proposal"), or participate in discussions or negotiations, or in any way assist, facilitate or cooperate with any Person other than Source seeking to do any of the foregoing, including by furnishing information to any such Person, provided that the foregoing shall not prevent the board of directors of Cableshare from responding to any bona fide offer, proposal or enquiry made by a third party in connection with the foregoing and providing information to such a Person if, in the opinion of the directors, acting in good faith and upon the advice of their financial and legal advisors, the failure to do so would be inconsistent with the directors' fiduciary duties under applicable Law. 6.8 BETTER OFFERS. (a) If a competing bona fide Acquisition Proposal is made that is more favourable from a financial point of view to shareholders of Cableshare (other than the Source Affiliates), then the board of 18 19 directors of Cableshare may withdraw the Recommendation and may support the competing bona fide Acquisition Proposal provided that, in the opinion of the directors, acting in good faith and upon the advice of their financial and legal advisors, the failure to do so would be inconsistent with the directors' fiduciary duties under applicable Law. (b) Cableshare and its board of directors may cause any withdrawal of the Recommendation and any support for or recommendation of a competing bona fide Acquisition Proposal made as permitted by subsection 6.8(a) to be reflected in a public announcement and in an information circular or amendment thereto. 6.9 EXERCISE OF DISSENT RIGHTS. Cableshare shall give Source (a) prompt notice of any written demands of holders of Class A Shares or Class B Shares in exercise of the Dissent Rights, withdrawals of such demands, and any other instruments served pursuant to the Act and received by Cableshare, and (b) the opportunity to participate in all negotiations and proceedings with respect to such rights. Cableshare shall not, except with the prior written consent of Source, voluntarily make any payment with respect to any such rights or offer to settle or settle any such rights. ARTICLE 7. COVENANTS OF SOURCE Source covenants in favour of Cableshare as follows. 7.1 CONDUCT OF SOURCE'S BUSINESS. Until the earlier of the termination of this Agreement and the Effective Date, Source shall not: (a) amend its constating documents in any manner that would consolidate, subdivide, reorganize, reclassify or otherwise affect the terms of the Source Common Shares; (b) acquire or agree to acquire, by amalgamation or consolidation with, or by purchasing equity of, any other Person or all or substantially all of the business and assets of any other Person, other than a subsidiary of Source (as that term is defined in the Act) or pursuant to this Agreement; (c) declare, set aside, make or pay any dividend or other distribution (whether in cash, stock or property or any combination thereof) in respect of any of its capital stock; (d) sell, transfer or dispose of all or substantially all of its business and assets; or (e) enter into any Contract to do any of the foregoing acts or things. 7.2 INSURANCE. If the Arrangement becomes effective, Source shall cause Cableshare and its successors to continue for two years after the Effective Date to indemnify the officers and directors and former officers and directors of Cableshare for claims made during such period relating to their acts or omissions on or prior to the Effective Date on terms substantially similar to those of the indemnity now provided by Cableshare to its officers and directors as provided for in the by-laws of Cableshare as currently in effect, provided that insurance coverage in respect of such indemnity can be obtained on reasonable terms. 7.3 NORTHSTAR CONSENT. Until the Arrangement has become effective and Source has issued the Source Common Shares required by subsection 2.2(d) or 2.3(c) of the Plan of Arrangement, Source shall: (a) if necessary, obtain and, once obtained, not consent to the amendment, termination or withdrawal of the Northstar Consent or waive or suffer any non-compliance with any right, benefit or covenant in its favour therein contained, except with the prior written consent of Cableshare; (b) if necessary, obtain and, once obtained, use its best efforts to keep in full force and effect the Northstar Consent; and (c) do all such acts and things as may be necessary for Source to issue the Source Common Shares required by subsection 2.2(d) or 2.3(c) of the Plan of Arrangement, as applicable. 7.4 NOTIFICATION. Source shall promptly notify Cableshare orally and in writing of (as and when Source becomes aware of the same): 19 20 (a) any material change in the working capital, financial condition, assets, liabilities, operations or prospects of Source, on a consolidated basis; (b) any litigation, proceeding, third party complaint or regulatory action that could materially adversely affect any of the working capital, financial condition, assets, liabilities, operations or prospects of Source, on a consolidated basis; and (c) the occurrence or failure to occur of any event or matter that may cause any representation or warranty of Source hereunder to be untrue or inaccurate at any time. 7.5 EXCHANGEABLE SHARES. If the Arrangement becomes effective and the Exchangeable Share Condition is satisfied, Source shall: (a) use its best efforts to ensure that Cableshare remains a "public corporation" within the meaning of the Income Tax Act (Canada) for so long as there are Exchangeable Shares outstanding (other than those held by Source or the Source Affiliates); and (b) if there are Exchangeable Shares outstanding (other than those held by Source or the Source Affiliates) when Source is eligible to file a registration statement on form S-3 in respect of Source Common Shares under the Securities Act, cause Cableshare to list the Exchangeable Shares on a stock exchange in Canada (and, if necessary in connection therewith, Source shall file a registration statement with the SEC relating to Source Common Shares), provided that Source shall not be obligated hereby to file any registration statement with the SEC at any time when Source is in the course of making a public offering or distribution of its securities or for 90 days following such an offering or distribution, and further provided that nothing in this section 7.5 shall derogate from any provisions hereof relating to the redemption, retraction, exchange or call of Exchangeable Shares. ARTICLE 8. COVENANTS REGARDING SATISFACTION OF CONDITIONS 8.1 SATISFACTION OF CONDITIONS. Each of Cableshare and Source covenants in favour of the other party that it shall use all reasonable commercial efforts to satisfy (or cause the satisfaction of) as and when required in accordance herewith the conditions precedent to both parties' obligations hereunder that are reasonably capable of being performed by that party and to take, or cause to be taken, all other action and to do, or cause to be done, all other things necessary, proper or advisable under applicable Laws and regulations to complete the Arrangement as soon as reasonably practicable and, if reasonably practicable, on or before December 31, 1996. In particular, and without limiting the generality of the foregoing, each party shall cooperate with the other party in the preparation of all necessary documents and filings and in the obtaining of all governmental and other third party consents, waivers and approvals necessary or desirable to effect the Arrangement and to satisfy the conditions precedent to the parties' respective obligations hereunder, including the obtaining of the Interim Order and the Final Order as provided in section 2.1, the preparation of the Cableshare Information Circular and the holding of the Cableshare Shareholders' Meeting. In addition to, but not in limitation of, the foregoing, Cableshare shall use all reasonable commercial efforts to secure all consents from the National Research Council or its successors that are necessary in order for the Arrangement to be completed. 8.2 DEFENCE OF PROCEEDINGS. Each party shall defend all lawsuits and other legal, regulatory or other proceedings challenging or affecting this Agreement or the consummation of the transactions contemplated hereby and shall use its best efforts to have lifted or rescinded any injunction or restraining order or other order that may adversely affect the ability of the parties to consummate the transactions contemplated hereby. 8.3 NOTIFICATION. Each party shall promptly notify the other party orally and in writing (as and when such party becomes aware of the same) of: (a) any failure of such party to comply with its obligations under this Agreement and any failure or anticipated failure to satisfy any condition in favour of that party under this Agreement; and (b) the taking of any action, act, suit or proceeding of a type described in subsection 9.1(d) or 9.2(e). 20 21 ARTICLE 9. CONDITIONS PRECEDENT TO OBLIGATIONS OF PARTIES 9.1 CONDITIONS IN FAVOUR OF BOTH PARTIES. The obligations of each party to complete the transactions contemplated hereby are subject to the satisfaction or waiver of the following conditions: (a) the compliance by the other party in all material respects with its covenants made hereunder in favour of such party to be performed on or prior to the Effective Date; (b) the representations and warranties of the other party made hereunder in favour of such party being true and accurate in all material respects when made and as of the Effective Date; (c) the receipt of all necessary government, court, regulatory and Cableshare shareholder approvals and all necessary waivers, permits, consents and orders (including the Interim Order, the Final Order and a favourable no action letter from the SEC) in respect of the Arrangement, except that neither party may rely on this condition with respect to an approval that is or was within the ability of that party to give or withhold; (d) no act, action, suit or proceeding having been commenced or taken before or by any domestic or foreign court or tribunal or governmental agency or other regulatory authority or administrative agency or commission or by any elected or appointed public official or private Person (including any individual, corporation, firm, group or other entity) in Canada or elsewhere and no Law having been proposed, enacted, promulgated or applied to cease trade, enjoin, prohibit, unwind or impose material limitations or conditions on the transactions contemplated by this Agreement; and (e) in the event that Exchangeable Shares are to be issued pursuant to the Plan of Arrangement, the Trustee having executed and delivered the Voting and Exchange Trust Agreement. 9.2 CONDITIONS IN FAVOUR OF SOURCE. The obligations of Source to complete the transactions contemplated hereby are also subject to the satisfaction or waiver by it of the following conditions: (a) except as otherwise disclosed in the Cableshare Disclosure Documents prior to the date hereof, no material adverse change in the operations, capital, investments, financial condition or prospects of Cableshare, on a consolidated basis, having occurred since the date of the Audited Financial Statements; (b) Cableshare not having received prior to the Effective Time notice from holders of more than 10% of the then outstanding Class A Shares or from holders of more than 10% of the then outstanding Class B Shares of the intention of such holders to exercise their Dissent Rights; (c) the Exchange Ratio being not less than 5.0; (d) there not having occurred, developed or come into effect or existence any Law, governmental action or enquiry that, in the opinion of Source, acting reasonably, materially adversely affects or may materially adversely affect the financial condition, operations, assets or affairs of Cableshare having regard to the nature of the transactions contemplated hereby or to carry on the business of Cableshare as currently carried on or as currently proposed to be carried on; (e) no act, action, suit or proceeding having been commenced or taken before or by any domestic or foreign court or tribunal or governmental agency (including the Director of Investigation and Research appointed under the Competition Act (Canada)) or other regulatory authority or administrative agency or commission or by any elected or appointed public official or private Person (including any individual, corporation, firm, group or other entity) in Canada or elsewhere and no Law or policy shall have been proposed, enacted, promulgated or applied to cease trade, enjoin, prohibit, unwind or impose material limitations or conditions on the right of Source to own or exercise full rights of ownership of the Cableshare New Common Shares after the Effective Date; (f) the receipt by Cableshare of all consents, waivers or approvals of the National Research Council as may be necessary in connection with the completion of the Arrangement; 21 22 (g) all of the directors of Cableshare having tendered their resignations as directors of Cableshare, which resignations shall be in form and substance satisfactory to Source, acting reasonably, and each of which shall be effective upon acceptance by Cableshare following the Effective Time; and (h) Cableshare having delivered to Source a certificate of a senior officer certifying, with respect to the covenants, representations and warranties made by it in favour of Source, the matters set forth in subsections 9.1(a) and (b). 9.3 CONDITIONS IN FAVOUR OF CABLESHARE. The obligations of Cableshare to complete the transactions contemplated hereby are also subject to Source having delivered to Cableshare a certificate of a senior officer of Source certifying, with respect to the covenants, representations and warranties made by Source in favour of Cableshare, the matters set forth in subsections 9.1(a) and (b). ARTICLE 10. AMENDMENT AND TERMINATION 10.1 TERMINATION. This Agreement may be terminated only as follows: (a) by agreement in writing by both parties; (b) by either party upon written notice to the other party, provided that there is no inaccuracy in or breach of any representation, warranty or covenant made herein by the party giving such notice, if the Effective Date has not occurred prior to the Termination Date; (c) by either party upon written notice to the other party, provided that there is no inaccuracy in or breach of any representation, warranty or covenant made herein by the party giving such notice, if a condition in favour of the party giving notice has not been satisfied by the Effective Date (or has become at any time prior thereto impossible to satisfy) and has not been waived by that party; or (d) by Cableshare upon written notice to Source if Cableshare's board of directors has withdrawn, suspended, modified or amended the Recommendation or shall have resolved to do any of the foregoing. 10.2 EFFECT OF TERMINATION. If this Agreement is terminated in accordance with section 10.1, then neither party shall have any further liability to perform its obligations hereunder, except those set forth in sections 10.3 and 11.4, which shall survive any termination of this Agreement, and provided that neither the termination of this Agreement nor anything contained in this section 10.2 shall relieve any party from any liability for any breach by it of this Agreement, including from any inaccuracy in its representations and warranties and any non-performance by it of it covenants made herein. 10.3 EXPENSES. Source shall reimburse Cableshare for all reasonable out-of-pocket expenses incurred by Cableshare in connection with this Agreement and the transactions contemplated hereby within 30 days of Cableshare submitting evidence of its expenses, unless Source shall be entitled to terminate this Agreement by reason of any inaccuracy in or breach of any representation, warranty or covenant made herein by Cableshare. Except as specifically provided herein, and in section 2.6, the costs and expenses incurred in connection with this Agreement and the transactions contemplated hereby shall be paid and borne by the party incurring the same. 10.4 AMENDMENT. At any time prior to the commencement of the Cableshare Shareholders' Meeting, or at any time thereafter if the Arrangement is not approved by the requisite thresholds of votes cast thereat, this Agreement may be amended by the parties hereto, but only by agreement in writing executed and delivered by both of them. In other circumstances, this Agreement shall not be amended in a manner prejudicial to holders of Class A Shares or Class B Shares without an agreement in writing by both parties and the approval of the Cableshare shareholders given in the same manner as required for the approval of the Arrangement or as may be ordered by the Court. 10.5 WAIVER WITHOUT PREJUDICE. Any party may, by written instrument, unilaterally waive performance or satisfaction of any covenant or condition in its favour, in each case without further notice to or authorization 22 23 on the part of the Cableshare shareholders or the Court except as required by Law, and any such waiver shall be without prejudice to that party's other rights. No failure to exercise or delay in exercising any right or remedy hereunder or at Law on the part of either party shall impair such right or the availability of such remedy of such party or shall be construed as a waiver of, or acquiescence in, any breach of any representation, warranty or covenant contained herein, nor shall any single or partial exercise of any such right or remedy preclude any other or further exercise thereof or of any other right or remedy. All rights and remedies existing under this Agreement are cumulative with, and not exclusive of, each other and any rights or remedies otherwise available. ARTICLE 11. GENERAL 11.1 NOTICES. Any notice or other communication required or permitted to be given hereunder shall be in writing and shall be delivered in person or transmitted by telecopy or similar means of recorded electronic communication as follows: (a) if to Source: Source Media, Inc. 8140 Walnut Hill Lane Suite 1000 Dallas, Texas 75231 U.S.A. Attention: Chairman and CEO Telecopier: (214) 890-9132 (b) if to Cableshare: Cableshare Inc. 150 Dufferin Avenue Suite 906 London, Ontario Canada N6A 5N6 Attention: President Telecopier: (519) 663-0339 Any such notice or other communication shall be deemed to have been given and received on the day on which it was delivered or transmitted or, if such day is not a Business Day, on the next following Business Day. 11.2 SURVIVAL. The respective representations, warranties and covenants of the parties contained herein shall expire and be terminated and extinguished at the Effective Time unless otherwise specified. 11.3 FURTHER ASSURANCES. Each party shall promptly furnish each other party with such further documents and take or cause to be taken such further actions as may be reasonably required in order to effectuate this Agreement and the Arrangement. Each party hereto agrees to execute and deliver such instruments and documents as are reasonably required in order to carry out the intent of this Agreement. 11.4 PUBLIC ANNOUNCEMENTS. Subject to applicable Law and the policies of any stock exchange on which securities of the applicable party are listed and, in the case of Cableshare, to subsection 6.8(b), each party agrees not to make any public announcement regarding this Agreement or the transactions contemplated hereby without the prior consent of the other party, not to be unreasonably withheld or delayed. 11.5 BINDING EFFECT AND ASSIGNMENT. This Agreement and all the provisions hereof shall be binding upon and enure to the benefit of the parties hereto and their respective successors and permitted assigns. Neither this Agreement nor any of the rights hereunder or under the Arrangement shall be assigned by any party hereto without the prior written consent of the other party hereto, except that Source may assign its rights hereunder to an "affiliate", as that term is defined in the Act, provided that Source remains liable for all of its obligations hereunder. Nothing in this Agreement, express or implied, is intended to confer upon any other Person any rights or remedies of any nature whatsoever under or by reason of this Agreement. 11.6 WAIVER OF JURY TRIAL. Each party hereby irrevocably waives to the fullest extent permitted by Law all rights to trial by jury in any action, proceeding or counterclaim (whether based upon contract, tort or 23 24 otherwise) arising out of or relating to this Agreement or any of the transactions contemplated hereby. Each party (a) certifies that no representative, agent or counsel of the other party has represented expressly or otherwise that the other party would not, in the event of litigation, seek to enforce the foregoing waiver, and (b) acknowledges that it and the other party have been induced to enter into this Agreement by, among other things, the mutual waivers and certifications contained in this section. 11.7 SEVERABILITY. If any provision of this Agreement, or the application thereof, is determined for any reason and to any extent to be invalid or unenforceable, the remainder of this Agreement and the application of such provision to other Persons and circumstances shall remain in full force and effect provided that the legal or economic substance of the transactions contemplated hereby is not thereby affected in a manner adverse to either party. Upon a determination that any provision of this Agreement, or the application hereof, is for any reason or to any extent invalid or unenforceable, the parties shall negotiate in good faith to replace such invalid or unenforceable provision with a valid and enforceable provision that will achieve, to the greatest extent possible, the economic, legal, business and other purposes of the invalid or unenforceable provision. 11.8 SPECIFIC PERFORMANCE. The parties hereto agree that, if any covenant under this Agreement is not performed in accordance with its specific terms or is otherwise breached, irreparable damages would result, no adequate remedy at law, including the payment of damages, would exist, and damages would, in any event, be difficult to determine, so that the party in favour of whom such covenant is made shall be entitled to specific performance of the terms of this Agreement in addition to any other remedy at law or in equity. 11.9 CONSTRUCTION. Each party acknowledges that its legal counsel has reviewed and participated in settling the terms of this Agreement, and that any rule of construction to the effect that any ambiguity is to be resolved against the drafting party (such as the rule of construction of contra proferentem) shall not be applicable in the interpretation of this Agreement. 11.10 TIME OF THE ESSENCE. Time shall be of the essence of this Agreement. 11.11 GOVERNING LAW. This Agreement shall be construed, interpreted and enforced in accordance with, and the respective rights and obligations of the parties shall be governed by, the laws of the Province of Ontario and the federal laws of Canada applicable therein. 11.12 COUNTERPARTS. This Agreement may be executed in counterparts, each of which shall constitute an original and all of which when taken together shall constitute one and the same instrument. IN WITNESS WHEREOF this Agreement has been executed on the date first written above. SOURCE MEDIA, INC. by --------------------------------- ----------------------------------- CABLESHARE INC. by --------------------------------- ----------------------------------- 24 EX-10.19 4 FORM OF PLAN OF ARRANGEMENT 1 EXHIBIT 10.19 PLAN OF ARRANGEMENT UNDER SECTION 182 OF THE BUSINESS CORPORATIONS ACT (ONTARIO) ARTICLE 1 INTERPRETATION 1.1 DEFINITIONS In this Plan of Arrangement unless there is something in the subject matter or context inconsistent therewith, the following terms shall have the respective meanings set out below and grammatical variations of such terms shall have corresponding meanings: "ACT" means the Business Corporations Act (Ontario), R.S.O. 1990, c. B.16. "ARRANGEMENT" means the arrangement under section 182 of the Act on the terms and subject to the conditions set out in this Plan of Arrangement, subject to any amendments thereto made in accordance with section 10.4 of the Arrangement Agreement or made at the direction of the Court in the Final Order. "ARRANGEMENT AGREEMENT" means the agreement made between Source and Cableshare as of November 13, 1996, as amended, supplemented and/or restated in accordance therewith prior to the Effective Date, providing for, among other things, the Arrangement. "ARRANGEMENT RESOLUTION" means the special resolution passed by the holders of the Class A Shares and Class B Shares at the Cableshare Shareholders' Meeting. "AUTOMATIC REDEMPTION DATE" has the meaning ascribed thereto in the Exchangeable Share Provisions. "AVERAGE TRADING PRICE OF SOURCE COMMON SHARES" means the number that equals the weighted average trading price, denominated in U.S. dollars, of Source Common Shares as reported on NASDAQ for the 20 days on which trading took place on NASDAQ ending on the Determination Date. "BUSINESS DAY" means a day which is not a Saturday, Sunday, a statutory holiday within the meaning of the Interpretation Act (Canada) or a day on which banks are required or permitted by law to be closed for business in Toronto, Ontario. "CABLESHARE" means Cableshare Inc., a corporation subsisting under the Act. "CABLESHARE INFORMATION CIRCULAR" means the management information circular of Cableshare to be prepared and sent to the shareholders of Cableshare in connection with the Cableshare Shareholders' Meeting. "CABLESHARE NEW COMMON SHARES" means shares in the class of common shares in the capital of Cableshare described in either paragraph 2.2(a)(i) or 2.3(a)(ii), as applicable. "CABLESHARE SHAREHOLDERS' MEETING" means the annual and special meeting of the shareholders of Cableshare (including any adjournment thereof) that is to be convened as provided by the Interim Order to consider, and if deemed advisable, approve the Arrangement. "CERTIFICATE" means the certificate of arrangement giving effect to the reorganization of, and amendments to, the share capital of Cableshare effected by the Arrangement, issued pursuant to subsection 183(2) of the Act after the Articles of Arrangement have been filed. "CLASS A SHARES" means the Class A Subordinate Voting Shares without par value in the capital of Cableshare. "CLASS B SHARES" means the Class B Multiple Voting Shares without par value in the capital of Cableshare. 1 2 "COURT" means the Ontario Court of Justice (General Division). "DEPOSITARY" means Montreal Trust Company of Canada at its principal office in Toronto, Ontario. "DETERMINATION DATE" means the day which is the second Business Day prior to the date of the Cableshare Shareholders' Meeting. "DETERMINATION DATE FOREIGN EXCHANGE RATE" means the number (including any decimal fraction) which is the value in Canadian dollars of one U.S. dollar at the rate of exchange equal to the Bank of Canada's noon rate for such currencies on the Determination Date. "DISSENT PROCEDURES" has the meaning set out in section 3.1. "DISSENTING SHAREHOLDER" means a holder of Class A Shares or Class B Shares who dissents in respect of the Arrangement in strict compliance with the Dissent Procedures. "EFFECTIVE DATE" means the date shown on the Certificate. "EFFECTIVE TIME" means 12:01 a.m. on the Effective Date. "ELECTED CABLESHARE SHARE" means any Class A Share or Class B Share that the holder shall have elected, in a duly completed Letter of Transmittal received by the Transfer Agent no later than 5:00 p.m. (Toronto time) on the second Business Day immediately preceding the day of the Cableshare Shareholders' Meeting, to exchange and convert under the Arrangement into a fraction of an Exchangeable Share. "EXCHANGE RATIO" means the number equal to the lesser of: (a) the Average Trading Price of Source Common Shares multiplied by the Determination Date Foreign Exchange Rate and divided by C$2.25; and (b) 7.5. "EXCHANGEABLE SHARE CONDITION" shall mean the condition to be satisfied for Exchangeable Shares to be authorized and issued pursuant to the Arrangement. "EXCHANGEABLE SHARE PROVISIONS" means the rights, privileges, restrictions and conditions attaching to the Exchangeable Shares. "EXCHANGEABLE SHARES" means shares in the class of NonVoting Exchangeable Shares in the capital of Cableshare described in paragraph 2.2(a)(ii). "FINAL ORDER" means the final order of the Court approving the Arrangement. "INTERIM ORDER" means the interim order of the Court made in connection with the process for obtaining shareholder approval of the Arrangement and related matters. "LETTER OF TRANSMITTAL" means a Letter of Transmittal in the form accompanying the Cableshare Information Circular. "LIQUIDATION CALL RIGHT" has the meaning ascribed thereto in subsection 5.1(a). "LIQUIDATION DATE" has the meaning ascribed thereto in the Exchangeable Share Provisions. "NASDAQ" means the National Association of Securities Dealers Automated Quotation National System. "PERSON" includes any individual, firm, partnership, joint venture, venture capital fund, association, trust, trustee, executor, administrator, legal personal representative, estate, group, body corporate, corporation, unincorporated association or organization, government body, syndicate or other entity, whether or not having legal status. "REDEMPTION CALL RIGHT" has the meaning ascribed thereto in subsection 5.2(a). "SOURCE" means Source Media, Inc., a corporation subsisting under the laws of the State of Delaware. "SOURCE AFFILIATE" means either of IT Network, Inc., a Texas corporation, or 997758 Ontario Inc., an Ontario corporation, and "SOURCE AFFILIATES" means both of them. "SOURCE COMMON SHARE" means a share of common stock of Source, par value U.S.$0.001. 2 3 1.2 SECTIONS AND HEADINGS The division of this Plan of Arrangement into sections and the insertion of headings are for reference purposes only and shall not affect the interpretation of this Plan of Arrangement. Unless otherwise indicated, any reference in this Plan of Arrangement to a section or an Appendix refers to the specified section of or Appendix to this Plan of Arrangement. 1.3 NUMBER, GENDER AND PERSONS In this Plan of Arrangement, unless the context otherwise requires, words importing the singular number include the plural and vice versa, words importing any gender include all genders and words importing Persons include individuals, corporations, partnerships, associations, trusts, unincorporated organizations, governmental bodies and other legal or business entities of any kind. ARTICLE 2 ARRANGEMENT 2.1 SATISFACTION OF EXCHANGEABLE SHARE CONDITION The Exchangeable Share Condition shall be deemed to have been satisfied if the number of Elected Cableshare Shares exceeds 50% of the number of Cableshare Shares held of record on the record date for the Cableshare Shareholders' Meeting by Persons having an address in Canada as indicated in the shareholder register of Cableshare maintained by the Transfer Agent, and it shall be deemed not to have been satisfied in every other circumstance. 2.2 ARRANGEMENT -- WITH SATISFACTION OF EXCHANGEABLE SHARE CONDITION At the Effective Time on the Effective Date, provided that the Exchangeable Share Condition shall have been satisfied, the capital of Cableshare shall be reorganized, in the course of which the following shall occur and shall be deemed to occur in the following order without any further act or formality: (a) the authorized share capital of Cableshare shall be increased by the creation of: (i) an unlimited number of a new class of common shares ("Cableshare New Common Shares"); (ii) an unlimited number of a new class of exchangeable shares ("Exchangeable Shares"); and (iii) an unlimited number of a new class of preference shares, issuable in series, and each such class shall have attached thereto the rights, privileges, restrictions and conditions respectively set out in Appendix A hereto; (b) the authorized share capital of Cableshare shall be decreased by cancelling all of the authorized but unissued Class A Shares and Class B Shares; (c) each shareholder of Cableshare who has properly elected to do so shall have the Elected Cableshare Shares held by it exchanged for and converted into that number of Exchangeable Shares that is equal to the number of Elected Cableshare Shares held of record by it divided by the Exchange Ratio, and the Elected Cableshare Shares shall thereupon be cancelled and the name of each such holder shall be removed from the registers of holders of Class A Shares and Class B Shares and added to the register of holders of Exchangeable Shares accordingly; (d) the Class A Shares and Class B Shares held of record by each other Cableshare Shareholder (other than Dissenting Shareholders who are ultimately entitled to be paid the fair value of the Class A Shares and Class B Shares held by them and other than Source Affiliates) will automatically be exchanged for that number of fully paid and non-assessable Source Common Shares equal to the number of Class A Shares and Class B Shares so exchanged divided by the Exchange Ratio; (e) in connection with the exchange referred to in subsection 2.2(d) above, each holder of Class A Shares and Class B Shares (other than Dissenting Shareholders who are ultimately entitled to be 3 4 paid the fair value of the Class A Shares and Class B Shares held by them and other than Source Affiliates), will be deemed to have transferred each Class A Share and Class B Share held of record by it to Source and Source will issue in exchange to each such holder that number of fully paid and non-assessable Source Common Shares equal to the number of Class A Shares and Class B Shares so transferred by such holder divided by the Exchange Ratio, and the name of each such holder will be removed from the register of holders of Class A Shares and Class B Shares and added to the register of holders of Source Common Shares accordingly; (f) upon the exchange referred to in subsection 2.2(d) above, Source shall become the holder of all the issued and outstanding Class A Shares and Class B Shares, other than those held by Source Affiliates, and Source's name will be added to the register of holders of Class A Shares and Class B Shares accordingly; and (g) immediately following the exchanges and conversions of shares outlined above, each issued and outstanding Class A Share and Class B Share will be converted into one Cableshare New Common Share, and such Class A Shares and Class B Shares shall thereupon be cancelled and the name of each holder thereof be removed from the registers of holders of Class A Shares and Class B Shares and added to the register of holders of Cableshare New Common Shares accordingly. 2.3 ARRANGEMENT -- WITHOUT SATISFACTION OF EXCHANGEABLE SHARE CONDITION At the Effective Time on the Effective Date, in every circumstance other than that governed by section 2.2, the capital of Cableshare shall be reorganized, in the course of which the following shall occur and shall be deemed to occur in the following order without any further act or formality: (a) the authorized share capital of Cableshare shall be increased by the creation of: (i) an unlimited number of a new class of common shares ("Cableshare New Common Shares"); and (ii) an unlimited number of a new class of preference shares, issuable in series, and each such class shall have attached thereto the rights, privileges, restrictions and conditions respectively set out in Appendix A hereto; (b) the authorized share capital of Cableshare shall be decreased by cancelling all of the authorized but unissued Class A Shares and Class B Shares; (c) the Class A Shares and Class B Shares held of record by each Cableshare Shareholder (other than Dissenting Shareholders who are ultimately entitled to be paid the fair value of the Class A Shares and Class B Shares held by them and other than Source Affiliates) will automatically be exchanged for that number of fully paid and non-assessable Source Common Shares equal to the number of Class A Shares and Class B Shares so exchanged divided by the Exchange Ratio; (d) in connection with the exchange referred to in subsection 2.3(c) above, each holder of Class A Shares and Class B Shares (other than Dissenting Shareholders who are ultimately entitled to be paid the fair value of the Class A Shares and Class B Shares held by them and other than Source Affiliates) will be deemed to have transferred each Class A Share and Class B Share held of record by it to Source and Source will issue in exchange to each such holder that number of fully paid and non-assessable Source Common Shares equal to the number of Class A Shares and Class B Shares so transferred by such holder divided by the Exchange Ratio, and the name of each such holder will be removed from the registers of holders of Class A Shares and Class B Shares and added to the register of holders of Source Common Shares accordingly; (e) upon the exchange referred to in subsection 2.3(c) above, Source shall become the holder of all the issued and outstanding Class A Shares and Class B Shares, other than those held by Source Affiliates, and Source's name will be added to the registers of holders of Class A Shares and Class B Shares accordingly; and 4 5 (f) immediately following the exchanges and conversion of shares outlined above, each issued and outstanding Class A Share and Class B Share will be converted into one Cableshare New Common Share and such Class A Shares and Class B Shares shall thereupon be cancelled and the name of each holder thereof will be removed from the registers of holders of Class A Shares and Class B Shares and added to the register of holders of Cableshare New Common Shares accordingly. 2.4 STATED CAPITAL For purposes of the Act: (a) the aggregate stated capital attributable to the Cableshare New Common Shares will be equal to the aggregate stated capital attributable to the Class A Shares and Class B Shares exchanged for and converted into the Cableshare New Common Shares, as it was immediately prior to the Effective Time; and (b) the aggregate stated capital of all Exchangeable Shares issued on the conversion described in subsection 2.2(c), in the event the Exchangeable Share Condition is satisfied, will be equal to the aggregate stated capital attributable to the Class A Shares and Class B Shares exchanged for and converted into Exchangeable Shares, as it was immediately prior to the Effective Time. ARTICLE 3 RIGHTS OF DISSENT 3.1 RIGHTS OF DISSENT Holders of Class A Shares and Class B Shares may exercise rights of dissent with respect to such shares pursuant to and in the manner set forth in section 185 of the Act and this section 3.1 (the "Dissent Procedures") in connection with the Arrangement and holders who duly exercise such rights of dissent and who: (a) are ultimately entitled to be paid fair value for their Class A Shares and Class B Shares shall be deemed to have transferred such Class A Shares and Class B Shares to Source for cancellation on the Effective Date; or (b) are ultimately not entitled, for any reason, to be paid fair value for their Class A Shares and Class B Shares shall be deemed to have participated in the Arrangement on the same basis as any non-dissenting holder of Class A Shares or Class B Shares other than a holder of Elected Cableshare Shares, and shall receive Source Common Shares on the basis determined in accordance with subsection 2.2(d) or 2.3(c) (as applicable) of this Plan of Arrangement, but in no case shall Source or Cableshare or any other Person be required to recognize such holders as holders of Class A Shares, Class B Shares or Cableshare New Common Shares after the Effective Time, and the names of such holders of Class A Shares and Class B Shares shall be deleted from the registers of holders of Class A Shares and Class B Shares at the Effective Time in the manner provided in section 2.2 or 2.3 (as applicable). ARTICLE 4 CERTIFICATES AND FRACTIONAL SHARES 4.1 ISSUANCE OF CERTIFICATES REPRESENTING EXCHANGEABLE SHARES At or promptly after the Effective Time, in the event the Exchangeable Share Condition has been satisfied, Cableshare shall deposit with the Depositary, for the benefit of the holders of Elected Cableshare Shares, certificates representing the Exchangeable Shares issued pursuant to subsection 2.2(c) upon the exchange and conversion of outstanding Elected Cableshare Shares. Upon surrender to the Depositary for cancellation of a certificate which immediately prior to the Effective Time represented one or more outstanding Elected Cableshare Shares that were exchanged for and converted into one or more Exchangeable Shares under the Arrangement, together with such other documents and instruments as would have been 5 6 required to effect the transfer of the shares formerly represented by such certificate under the Act and the by-laws of Cableshare and such additional documents and instruments as the Depositary may reasonably require, the holder of such surrendered certificate shall be entitled to receive in exchange therefor, and the Depositary shall deliver to such holder, a certificate representing that number (rounded down to the nearest whole number) of Exchangeable Shares which such holder has the right to receive (together with any dividends or distributions with respect thereto pursuant to section 4.3 and any cash in lieu of fractional Exchangeable Shares pursuant to section 4.4), and the certificate so surrendered shall forthwith be cancelled. In the event of a transfer of ownership of Elected Cableshare Shares that is not registered in the transfer records of Cableshare, and in the event the Exchangeable Share Condition has been satisfied, a certificate representing the proper number of Exchangeable Shares may be issued to the transferee if the certificate representing such Elected Cableshare Shares is presented to the Depositary, accompanied by all documents required to evidence and effect such transfer. Until surrendered as contemplated by this section 4.1, and in the event the Exchangeable Share Condition has been satisfied, each certificate which immediately prior to the Effective Time represented outstanding Elected Cableshare Shares that were converted into Exchangeable Shares shall be deemed at any time after the Effective Time to represent only the right to receive upon such surrender (i) the certificate representing Exchangeable Shares as contemplated by this section 4.1, (ii) a cash payment in lieu of any fractional Exchangeable Shares as contemplated by section 4.4, and (iii) any dividends or distributions with a record date after the Effective Time theretofore paid or payable with respect to Exchangeable Shares as contemplated by section 4.3. 4.2 EXCHANGE OF CERTIFICATES FOR SOURCE COMMON SHARES At or promptly after the Effective Time, Source shall deposit with the Depositary, for the benefit of the holders of Class A Shares and Class B Shares exchanged for Source Common Shares pursuant to subsection 2.2(d) or 2.3(c) (as applicable), certificates representing the Source Common Shares issued pursuant to subsection 2.2(d) or 2.3(c) (as applicable) in exchange for outstanding Class A Shares and Class B Shares. Upon surrender to the Depositary for cancellation of a certificate which immediately prior to the Effective Time represented outstanding Class A Shares or Class B Shares that were exchanged for Source Common Shares, together with such other documents and instruments as would have been required to effect the transfer of the shares formerly represented by such certificate under the Act and the by-laws of Cableshare and such additional documents and instruments as the Depositary may reasonably require, the holder of such surrendered certificate shall be entitled to receive in exchange therefor, and the Depositary shall deliver to such holder, a certificate representing that number (rounded down to the nearest whole number) of Source Common Shares which such holder has the right to receive (together with any dividends or distributions with respect thereto pursuant to section 4.3 and any cash in lieu of fractional Source Common Shares pursuant to section 4.4), and the certificate so surrendered shall forthwith be cancelled. In the event of a transfer of ownership of Class A Shares or Class B Shares (other than, in the event the Exchangeable Share Condition has been satisfied, Elected Cableshare Shares) which is not registered in the transfer records of Cableshare, a certificate representing the proper number of Source Common Shares may be issued to the transferee if the certificate representing such Class A or Class B Shares is presented to the Depositary, accompanied by all documents required to evidence and effect such transfer. Until surrendered as contemplated by this section 4.2, each certificate which immediately prior to the Effective Time represented one or more outstanding Class A Shares or Class B Shares that were exchanged for one or more Source Common Shares shall be deemed at any time after the Effective Time to represent only the right to receive upon such surrender (i) the certificate representing Source Common Shares as contemplated by this section 4.2, (ii) a cash payment in lieu of any fractional Source Common Shares as contemplated by section 4.4 and (iii) any dividends or distributions with a record date after the Effective Time theretofore paid or payable with respect to Source Common Shares as contemplated by section 4.3. 4.3 DISTRIBUTIONS WITH RESPECT TO UNSURRENDERED CERTIFICATES No dividends or other distributions declared or made after the Effective Time with respect to Exchangeable Shares or Source Common Shares with a record date after the Effective Time shall be paid to the holder of any unsurrendered certificate which immediately prior to the Effective Time represented outstanding Class A Shares or Class B Shares that were converted and/or exchanged pursuant to section 2.2 6 7 or 2.3 (as applicable), and no cash payment in lieu of fractional shares shall be paid to any such holder pursuant to section 4.4, unless and until the holder of record of such certificate shall surrender such certificate in accordance with section 4.1 or 4.2. Subject to applicable law, at the time of such surrender of any such certificate, there shall be paid to the record holder of the certificates representing whole Exchangeable Shares or Source Common Shares, as the case may be, without interest (i) the amount of any cash payable in lieu of a fractional Exchangeable Share or Source Common Share to which such holder is entitled pursuant to section 4.4, (ii) the amount of dividends or other distributions with a record date after the Effective Time theretofore paid with respect to such whole Exchangeable Share or Source Common Share, as the case may be, and (iii) at the appropriate payment date, the amount of dividends or other distributions with a record date after the Effective Time but prior to surrender and a payment date subsequent to surrender payable with respect to such whole Exchangeable Share or Source Common Share, as the case may be. 4.4 NO FRACTIONAL SHARES No certificates or scrip representing fractional Exchangeable Shares or Source Common Shares shall be issued upon the surrender for exchange of certificates pursuant to section 4.1 or 4.2 and, subject to the last sentence of this section 4.4, no dividend, stock split or other change in the capital structure of Cableshare or Source shall relate to any such fractional security and such fractional interests shall not entitle the owner thereof to vote or to exercise any rights as a security holder of Cableshare or Source. In lieu of any such fractional securities: (a) each Person entitled to a fractional interest in an Exchangeable Share will receive a cash payment equal to such Person's pro rata portion of the net proceeds after expenses received by the Depositary upon the sale of whole shares representing an accumulation of all fractional interests in Exchangeable Shares to which all such Persons would otherwise be entitled. The Depositary will sell such Exchangeable Shares involved by private sale as soon as reasonably practicable following the Effective Date. The aggregate net proceeds after expenses of such sale will be distributed by the Depositary, pro rata in relation to the respective fractions, among the Persons otherwise entitled to receive fractional interests in Exchangeable Shares; and (b) each Person entitled to a fractional interest in a Source Common Share will receive a cash payment equal to such Person's pro rata portion of the net proceeds after expenses received by the Depositary upon the sale of whole shares representing an accumulation of all fractional interests in Source Common Shares to which all such Persons would otherwise be entitled. The Depositary will sell such Source Common Shares involved on NASDAQ as soon as practicable following the Effective Date. The aggregate net proceeds after expenses of such sale will be distributed by the Depositary, pro rata in relation to the respective fractions, among the Persons otherwise entitled to receive fractional interests in Source Common Shares. 4.5 LOST CERTIFICATES In the event any certificate which immediately prior to the Effective Time represented one or more outstanding Class A Shares or Class B Shares that were converted and/or exchanged pursuant to section 2.2 or 2.3 (as applicable) shall have been lost, stolen or destroyed, upon the making of an affidavit of that fact by the Person claiming such certificate to be lost, stolen or destroyed, the Depositary will issue in exchange for such lost, stolen or destroyed certificate, one or more certificates representing one or more Exchangeable Shares or Source Common Shares (and any dividends or distributions with respect thereto and any cash pursuant to section 4.4) deliverable in respect thereof as determined in accordance with section 2.2 or 2.3 (as applicable). When authorizing such payment in exchange for any lost, stolen or destroyed certificate, the Person to whom certificates representing Exchangeable Shares or Source Common Shares are to be issued shall, as a condition precedent to the issuance thereof, give a bond satisfactory to Cableshare or Source, as the case may be, in such sum as Cableshare or Source may, acting reasonably, direct or otherwise indemnify Cableshare or Source in a manner satisfactory to Cableshare or Source, acting reasonably, against any claim that may be made against Cableshare or Source with respect to the certificate alleged to have been lost, stolen or destroyed. 7 8 4.6 EXTINCTION OF RIGHTS Any certificate which immediately prior to the Effective Time represented outstanding Class A Shares or Class B Shares that were converted and/or exchanged pursuant to section 2.2 or 2.3 (as applicable) and not deposited, with all other instruments required by section 4.1 or 4.2, on or prior to the third anniversary of the Effective Date shall cease to represent a claim or interest of any kind or nature as a shareholder of Cableshare or Source. On such date, the Exchangeable Shares or Source Common Shares to which the former registered holder of the certificate referred to in the preceding sentence was ultimately entitled shall be deemed to have been surrendered to Cableshare or Source, as the case may be, together with all entitlements to dividends, distributions and interests thereon held for such former registered holder. 4.7 WITHHOLDING RIGHTS Cableshare, Source and the Transfer Agent shall be entitled to deduct and withhold from any dividend or consideration otherwise payable under this Plan of Arrangement to any holder of Class A Shares, Class B Shares, Cableshare New Common Shares, Source Common Shares or Exchangeable Shares such amounts as Cableshare, Source or the Transfer Agent is required or permitted to deduct and withhold with respect to such payment under the Income Tax Act (Canada), the United States Internal Revenue Code of 1986 or any provision of provincial, state, local or foreign tax law, in each case as amended. To the extent that amounts are so withheld, such withheld amounts shall be treated for all purposes hereof as having been paid to the holder of the shares in respect of which such deduction and withholding was made, provided that such withheld amounts are actually remitted to the appropriate taxing authority. To the extent that the amount so required or permitted to be deducted or withheld from any payment to a holder exceeds the cash portion of the consideration otherwise payable to the holder, Cableshare, Source and the Transfer Agent are hereby authorized to sell or otherwise dispose of such portion of the consideration as is necessary to provide sufficient funds to Cableshare, Source or the Transfer Agent, as the case may be, to enable it to comply with such deduction or withholding requirement and Cableshare, Source or the Transfer Agent shall notify the holder thereof and remit any unapplied balance of the net proceeds of such sale. ARTICLE 5 CERTAIN RIGHTS OF SOURCE TO ACQUIRE EXCHANGEABLE SHARES 5.1 SOURCE LIQUIDATION CALL RIGHT (a) Source shall have the overriding right (the "Liquidation Call Right"), in the event of and notwithstanding the proposed liquidation, dissolution or winding-up of Cableshare pursuant to Article 5 of the Exchangeable Share Provisions, to purchase from all but not less than all of the holders of Exchangeable Shares on the Liquidation Date all but not less than all of the Exchangeable Shares held by each such holder on payment by Source of an amount per share equal to (a) the Current Market Price (as defined in the Exchangeable Share Provisions) of a Source Common Share on the last Business Day prior to the Liquidation Date, which shall be satisfied in full by causing to be delivered to such holder one Source Common Share, plus (b) an additional amount equivalent to the full amount of all dividends then declared and unpaid on such Exchangeable Share (collectively the "Liquidation Call Purchase Price"). In the event of the exercise of the Liquidation Call Right by Source, each holder shall be obligated to sell all the Exchangeable Shares held by the holder to Source on the Liquidation Date on payment by Source to the holder of the Liquidation Call Purchase Price for each such share. (b) To exercise the Liquidation Call Right, Source must notify Cableshare's transfer agent (the "Transfer Agent"), as agent for the holders of Exchangeable Shares, and Cableshare of Source's intention to exercise such right at least 45 days before the Liquidation Date in the case of a voluntary liquidation, dissolution or winding-up of Cableshare and at least five Business Days before the Liquidation Date in the case of an involuntary liquidation, dissolution or winding-up of Cableshare. The Transfer Agent will notify the holders of Exchangeable Shares as to whether or not Source has exercised the Liquidation Call Right forthwith after the expiry of the period during which the same may be exercised by Source. If Source exercises the Liquidation Call 8 9 Right, then on the Liquidation Date, Source will purchase and the holders will sell all of the Exchangeable Shares then outstanding for a price per share equal to the Liquidation Call Purchase Price. (c) For the purposes of completing the purchase of the Exchangeable Shares pursuant to the Liquidation Call Right, Source shall deposit with the Transfer Agent, on or before the Liquidation Date, certificates representing the aggregate number of Source Common Shares deliverable by Source in payment of the total Liquidation Call Purchase Price and a cheque or cheques in the amount of the remaining portion, if any, of the total Liquidation Call Purchase Price less any amounts withheld pursuant to section 4.7 hereof. Provided that the total Liquidation Call Purchase Price has been so deposited with the Transfer Agent, on and after the Liquidation Date the rights of each holder of Exchangeable Shares will be limited to receiving such holder's proportionate part of the total Liquidation Call Purchase Price payable by Source upon presentation and surrender by the holder of certificates representing the Exchangeable Shares held by such holder and the holder shall on and after the Liquidation Date be considered and deemed for all purposes to be the holder of the Source Common Shares delivered to it. Upon surrender to the Transfer Agent of a certificate or certificates representing Exchangeable Shares, together with such other documents and instruments as may be required to effect a transfer of Exchangeable Shares under the Act and the by-laws of Cableshare and such additional documents and instruments as the Transfer Agent may reasonably require, the holder of such surrendered certificate or certificates shall be entitled to receive in exchange therefor, and the Transfer Agent on behalf of Source shall deliver to such holder, certificates representing the Source Common Shares to which the holder is entitled and a cheque or cheques of Source payable at par and in Canadian dollars at any branch of the bankers of Source or of Cableshare in Canada in payment of the remaining portion, if any, of the total Liquidation Call Purchase Price less any amounts withheld pursuant to section 4.7 hereof. If Source does not exercise the Liquidation Call Right in the manner described above, on the Liquidation Date the holders of the Exchangeable Shares will be entitled to receive in exchange therefor the liquidation price otherwise payable by Cableshare in connection with the liquidation, dissolution or winding-up of Cableshare pursuant to Article 5 of the Exchangeable Share Provisions. 5.2 SOURCE REDEMPTION CALL RIGHT (a) Source shall have the overriding right (the "Redemption Call Right"), notwithstanding the proposed redemption of the Exchangeable Shares by Cableshare pursuant to Article 7 of the Exchangeable Share Provisions, to purchase from all but not less than all of the holders of Exchangeable Shares on the Automatic Redemption Date all but not less than all of the Exchangeable Shares held by each such holder on payment by Source to the holder of an amount per share equal to (a) the Current Market Price (as defined in the Exchangeable Share Provisions) of a Source Common Share on the last Business Day prior to the Automatic Redemption Date which shall be satisfied in full by causing to be delivered to such holder one Source Common Share plus (b) an additional amount equivalent to the full amount of all dividends then declared and unpaid on such Exchangeable Share (collectively the "Redemption Call Purchase Price"). In the event of the exercise of the Redemption Call Right by Source, each holder shall be obligated to sell all the Exchangeable Shares held by the holder to Source on the Automatic Redemption Date on payment by Source to the holder of the Redemption Call Purchase Price for each such share. (b) To exercise the Redemption Call Right, Source must notify the Transfer Agent, as agent for the holders of Exchangeable Shares, and Cableshare of Source's intention to exercise such right at least 125 days before the Automatic Redemption Date. The Transfer Agent will notify the holders of the Exchangeable Shares as to whether or not Source has exercised the Redemption Call Right forthwith after the expiry of the period during which the same may be exercised by Source. If Source exercises the Redemption Call Right, on the Automatic Redemption Date, 9 10 Source will purchase and the holders will sell all of the Exchangeable Shares then outstanding for a price per share equal to the Redemption Call Purchase Price. (c) For the purposes of completing the purchase of the Exchangeable Shares pursuant to the Redemption Call Right, Source shall deposit with the Transfer Agent, on or before the Automatic Redemption Date, certificates representing the aggregate number of Source Common Shares deliverable by Source in payment of the total Redemption Call Purchase Price and a cheque or cheques in the amount of the remaining portion, if any, of the total Redemption Call Purchase Price less any amounts withheld pursuant to section 4.7 hereof. Provided that the total Redemption Call Purchase Price has been so deposited with the Transfer Agent, on and after the Automatic Redemption Date the rights of each holder of Exchangeable Shares will be limited to receiving such holder's proportionate part of the total Redemption Call Purchase Price payable by Source upon presentation and surrender by the holder of certificates representing the Exchangeable Shares held by such holder and the holder shall on and after the Automatic Redemption Date be considered and deemed for all purposes to be the holder of the Source Common Shares delivered to such holder. Upon surrender to the Transfer Agent of a certificate or certificates representing Exchangeable Shares, together with such other document and instruments as may be required to effect a transfer of Exchangeable Shares under the Act and the by-laws of Cableshare and such additional documents and instruments as the Transfer Agent may reasonably require, the holder of such surrendered certificate or certificates shall be entitled to receive in exchange therefor, and the Transfer Agent on behalf of Source shall deliver to such holder, certificates representing the Source Common Shares to which the holder is entitled and a cheque or cheques of Source payable at par and in Canadian dollars at any branch of the bankers of Source or of Cableshare in Canada in payment of the remaining portion, if any, of the total Redemption Call Purchase Price less any amounts withheld pursuant to section 4.7 hereof. If Source does not exercise the Redemption Call Right in the manner described above, on the Automatic Redemption Date the holders of the Exchangeable Shares will be entitled to receive in exchange therefor the redemption price otherwise payable by Cableshare in connection with the redemption of the Exchangeable Shares pursuant to Article 7 of the Exchangeable Share Provisions. ARTICLE 6 AMENDMENTS 6.1 AMENDMENTS TO PLAN OF ARRANGEMENT Cableshare reserves the right to amend, modify and/or supplement this Plan of Arrangement at any time and from time to time, provided that each such amendment, modification and/or supplement must be (i) set out in writing, (ii) approved by Source, (iii) filed with the Court and, if made following the Cableshare Shareholders' Meeting, be approved by the Court, and (iv) communicated to holders of Class A Shares and Class B Shares if and as required by the Court. Any amendment, modification or supplement to this Plan of Arrangement may be proposed by Cableshare at any time prior to the Cableshare Shareholders' Meeting (provided that Source shall have consented thereto) with or without any other prior notice or communication, and if so proposed and accepted by the Persons voting at the Cableshare Shareholders' Meeting (other than as may be required under the Interim Order), shall become part of this Plan of Arrangement for all purposes. Any amendment, modification or supplement to this Plan of Arrangement that is approved by the Court following the Cableshare Shareholders' Meeting shall be effective only if (i) it is consented to by each of Cableshare and Source, and (ii) if required by the Court, it is consented to by holders of the Class A Shares and Class B Shares voting in the manner directed by the Court. 10 11 APPENDIX A TO PLAN OF ARRANGEMENT OF CABLESHARE INC. PROVISIONS ATTACHING TO COMMON SHARES The common shares in the capital of Cableshare shall have attached thereto the following rights, privileges, restrictions and conditions: DIVIDENDS Subject to the prior rights of the holders of any shares ranking senior to the common shares with respect to priority in the payment of dividends, the holders of common shares shall be entitled to receive dividends and Cableshare shall pay dividends thereon, as and when declared by the board of directors of Cableshare out of moneys properly applicable to the payment of dividends, in such amount and in such form as the board of directors may from time to time determine and all dividends which the directors may declare on the common shares shall be declared and paid in equal amounts per share on all common shares at the time outstanding. DISSOLUTION In the event of the dissolution, liquidation or winding-up of Cableshare, whether voluntary or involuntary, or any other distribution of assets of Cableshare among its shareholders for the purpose of winding up its affairs, subject to the prior rights of the holders of the Exchangeable Non-Voting Shares and to any other shares ranking senior to the common shares with respect to priority in the distribution of assets upon dissolution, liquidation or winding-up, holders of common shares shall be entitled to receive the remaining property and assets of Cableshare rateably in accordance with the number of common shares held. VOTING RIGHTS The holders of common shares shall be entitled to receive notice of and to attend all meetings of the shareholders of Cableshare and shall have one vote for each common share held at all meetings of the shareholders of Cableshare, except for meetings at which only holders of another specified class or series of shares of Cableshare are entitled to vote separately as a class or series. 11 12 PROVISIONS ATTACHING TO EXCHANGEABLE SHARES The Exchangeable Non-Voting Shares in the capital of Cableshare shall have the following rights, privileges, restrictions and conditions: ARTICLE 1 INTERPRETATION For the purposes of these share provisions: "AFFILIATE" of any person means any other person directly or indirectly controlled by, or under common control with, that person. For the purposes of this definition, "control" (including, with correlative meanings, the terms "controlled by" and "under common control of"), as applied to any person, means the possession by another person, directly or indirectly, of the power to direct or cause the direction of the management and policies of that first mentioned person, whether through the ownership of voting securities, by contract or otherwise. "AUTOMATIC REDEMPTION DATE" means the date for the automatic redemption by Cableshare of Exchangeable Shares pursuant to Article 7 of these share provisions, which date shall be December --, 2001, unless (a) such date shall be extended at any time or from time to time to a specified later date by the Board of Directors, or (b) such date shall be accelerated at any time to a specified earlier date by the Board of Directors if at such time there are fewer than 500,000 Exchangeable Shares outstanding (other than Exchangeable Shares held by Source and its Affiliates) and as such number of shares may be adjusted as deemed appropriate by the Board of Directors to give effect to any subdivision or consolidation of or stock dividend on the Exchangeable Shares, any issue or distribution of rights to acquire Exchangeable Shares or securities exchangeable for or convertible into Exchangeable Shares, any issue or distribution of other securities or rights or evidences of indebtedness or assets, or any other capital reorganization or other transaction affecting the Exchangeable Shares, in each case upon at least 60 days' prior written notice of any such extension or acceleration, as the case may be, to the registered holders of the Exchangeable Shares, in which case the Automatic Redemption Date shall be such later or earlier date; provided, however, that the accidental failure or omission to give any such notice of extension or acceleration, as the case may be, to less than 10% of such holders of Exchangeable Shares shall not affect the validity of such extension or acceleration. "BOARD OF DIRECTORS" means the board of directors of Cableshare. "BUSINESS DAY" means a day which is not a Saturday, Sunday, a statutory holiday within the meaning of the Interpretation Act (Canada) or a day on which banks are required or permitted by law to be closed for business in Toronto, Ontario. "CABLESHARE" means Cableshare Inc., a corporation subsisting under the laws of the Province of Ontario. "CANADIAN DOLLAR EQUIVALENT" means in respect of an amount expressed in a foreign currency (the "Foreign Currency Amount") at any date the product obtained by multiplying (a) the Foreign Currency Amount by (b) the noon spot exchange rate on such date for such foreign currency expressed in Canadian dollars as reported by the Bank of Canada or, in the event such spot exchange rate is not available, such exchange rate on such date for such foreign currency expressed in Canadian dollars as may be deemed by the Board of Directors to be appropriate for such purpose. "CLASS A PREFERENCE SHARES" means the Class A Preference Shares of Cableshare. "COMMON SHARES" means the common shares of Cableshare. 12 13 "CURRENT MARKET PRICE" means, in respect of a Source Common Share on any date, the Canadian Dollar Equivalent of the average of the closing bid and asked prices of Source Common Shares during a period of 20 consecutive trading days ending not more than five trading days before such date on the National Market System of the National Association of Securities Dealers Automated Quotation System, or, if the Source Common Shares are not then quoted on the National Market System of the National Association of Securities Dealers Automated Quotation System, on such other stock exchange or automated quotation system on which the Source Common Shares are listed or quoted, as the case may be, as may be selected by the Board of Directors for such purpose; provided, however, that if in the opinion of the Board of Directors the public distribution or trading activity of Source Common Shares during such period does not create a market which reflects the fair market value of a Source Common Share, then the Current Market Price of a Source Common Share shall be determined by the Board of Directors based upon the advice of such qualified independent financial advisors as the Board of Directors may deem to be appropriate, and provided further that any such selection, opinion or determination by the Board of Directors shall be conclusive and binding. "EXCHANGEABLE SHARES" mean the Exchangeable Non-Voting Shares of Cableshare having the rights, privileges, restrictions and conditions set forth herein. "LIQUIDATION AMOUNT" has the meaning ascribed thereto in Section 5.1 of these share provisions. "LIQUIDATION CALL RIGHT" has the meaning ascribed thereto in the Plan of Arrangement. "LIQUIDATION DATE" has the meaning ascribed thereto in Section 5.1 of these share provisions. "PLAN OF ARRANGEMENT" means the plan of arrangement relating to the arrangement of Cableshare under section 182 of the Business Corporations Act (Ontario), to which plan these share provisions are attached. "PURCHASE PRICE" has the meaning ascribed thereto in Section 6.3 of these share provisions. "REDEMPTION CALL RIGHT" has the meaning ascribed thereto in the Plan of Arrangement. "REDEMPTION PRICE" has the meaning ascribed thereto in Section 7.1 of these share provisions. "RETRACTED SHARES" has the meaning ascribed thereto in Section 6.1(a) of these share provisions. "RETRACTION CALL RIGHT" has the meaning ascribed thereto in Section 6.1(c) of these share provisions. "RETRACTION DATE" has the meaning ascribed thereto in Section 6.1(b) of these share provisions. "RETRACTION PRICE" has the meaning ascribed thereto in Section 6.1 of these share provisions. "RETRACTION REQUEST" has the meaning ascribed thereto in Section 6.1 of these share provisions. "SOURCE" means Source Media, Inc., a corporation subsisting under the laws of the State of Delaware, and any successor corporation thereto. "SOURCE CALL NOTICE" has the meaning ascribed thereto in Section 6.3 of these share provisions. "SOURCE COMMON SHARES" mean the shares of common stock of Source, par value of US $0.001 per share, and any other securities into which such shares may be changed. "SOURCE DIVIDEND DECLARATION DATE" means the date on which the Board of Directors of Source declares any dividend on the Source Common Shares. "SUPPORT AGREEMENT" means the Support Agreement between Source and Cableshare, made as of -- , 1996. "TRANSFER AGENT" means the Secretary of Cableshare or such other person as may from time to time be appointed by Cableshare as the registrar and transfer agent for the Exchangeable Shares. "TRUSTEE" means -- , a corporation organized and existing under the laws of Canada and any successor trustee appointed under the Voting and Exchange Trust Agreement. "VOTING AND EXCHANGE TRUST AGREEMENT" means the Voting and Exchange Trust Agreement between Cableshare, Source and the Trustee, made as of -- , 1996. 13 14 ARTICLE 2 RANKING OF EXCHANGEABLE SHARES 2.1 The Exchangeable Shares shall be entitled to a preference over the Common Shares, the Class A Preference Shares and any other shares ranking junior to the Exchangeable Shares with respect to the payment of dividends and the distribution of assets in the event of the liquidation, dissolution or winding-up of Cableshare, whether voluntary or involuntary, or any other distribution of the assets of Cableshare among its shareholders for the purpose of winding up its affairs. ARTICLE 3 DIVIDENDS 3.1 A holder of an Exchangeable Share shall be entitled to receive and the Board of Directors shall, subject to applicable law, on each Source Dividend Declaration Date, declare a dividend on each Exchangeable Share: (a) in the case of a cash dividend declared on the Source Common Shares, in an amount in cash for each Exchangeable Share equal to the Canadian Dollar Equivalent on the Source Dividend Declaration Date of the cash dividend declared on each Source Common Share; (b) in the case of a stock dividend declared on the Source Common Shares to be paid in Source Common Shares, in such number of Exchangeable Shares for each Exchangeable Share as is equal to the number of Source Common Shares to be paid on each Source Common Share; or (c) in the case of a dividend declared on the Source Common Shares in property other than cash or Source Common Shares, in such type and amount of property for each Exchangeable Share as is the same as or economically equivalent to (to be determined by the Board of Directors as contemplated by Section 3.5 hereof) the type and amount of property declared as a dividend on each Source Common Share. Such dividends shall be paid out of money, assets or property of Cableshare properly applicable to the payment of dividends, or out of authorized but unissued shares of Cableshare, as applicable. 3.2 Cheques of Cableshare payable at par at any branch of the bankers of Cableshare shall be issued in respect of any cash dividends contemplated by Section 3.1(a) hereof and the sending of such a cheque to each holder of an Exchangeable Share shall satisfy the cash dividend represented thereby unless the cheque is not paid on presentation. Certificates registered in the name of the registered holder of Exchangeable Shares shall be issued or transferred in respect of any stock dividends contemplated by Section 3.1(b) hereof and the sending of such a certificate to each holder of an Exchangeable Share shall satisfy the stock dividend represented thereby. Such other type and amount of property in respect of any dividends contemplated by Section 3.1(c) hereof shall be issued, distributed or transferred by Cableshare in such manner as it shall determine and the issuance, distribution or transfer thereof by Cableshare to each holder of an Exchangeable Share shall satisfy the dividend represented thereby. No holder of an Exchangeable Share shall be entitled to recover by action or other legal process against Cableshare any dividend that is represented by a cheque that has not been duly presented to Cableshare's bankers for payment or that otherwise remains unclaimed for a period of six years from the date on which such dividend was payable. 3.3 The record date for the determination of the holders of Exchangeable Shares entitled to receive payment of, and the payment date for, any dividend declared on the Exchangeable Shares under Section 3.1 hereof shall be the same dates as the record date and payment date, respectively, for the corresponding dividend declared on the Source Common Shares. 3.4 If on any payment date for any dividends declared on the Exchangeable Shares under Section 3.1 hereof the dividends are not paid in full on all of the Exchangeable Shares then outstanding, any such dividends that remain unpaid shall be paid on a subsequent date or dates determined by the Board of Directors on which Cableshare shall have sufficient moneys, assets or property properly applicable to the payment of such dividends. 14 15 3.5 The Board of Directors shall determine, in good faith and in its sole discretion (with the assistance of such reputable and qualified independent financial advisors and/or other experts as the Board of Directors may require), economic equivalence for the purposes of Section 3.1(c) hereof, and each such determination shall be conclusive and binding on Cableshare and its shareholders. In making each such determination, the following factors shall, without excluding other factors determined by the Board of Directors to be relevant, be considered by the Board of Directors: (a) in the case of any stock dividend or other distribution payable in Source Common Shares, the number of such shares issued in proportion to the number of Source Common Shares previously outstanding; (b) in the case of the issuance or distribution of any rights, options or warrants to subscribe for or purchase Source Common Shares (or securities exchangeable for or convertible into or carrying rights to acquire Source Common Shares), the relationship between the exercise price of each such right, option or warrant and the current market value (as determined by the Board of Directors in the manner above contemplated) of a Source Common Share; (c) in the case of the issuance or distribution of any other form of property (including, without limitation, any shares or securities of Source of any class other than Source Common Shares, any rights, options or warrants other than those referred to in Section 3.5(b) above, any evidences of indebtedness of Source or any assets of Source), the relationship between the fair market value (as determined by the Board of Directors in the manner above contemplated) of such property to be issued or distributed with respect to each outstanding Source Common Share and the current market value (as determined by the Board of Directors in the manner above contemplated) of a Source Common Share; and (d) in all such cases, the general taxation consequences of the relevant event to holders of Exchangeable Shares to the extent that such consequences may differ from the taxation consequences to holders of Source Common Shares as a result of differences between taxation laws of Canada and the United States (except for any differing consequences arising as a result of differing marginal taxation rates and without regard to the individual circumstances of holders of Exchangeable Shares). For purposes of the foregoing determinations, the current market value of any security listed and traded or quoted on a securities exchange shall be the weighted average of the daily trading prices of such security during a period of not less than 20 consecutive trading days ending not more than five trading days before the date of determination on the principal securities exchange on which such securities are listed and traded or quoted; provided, however, that if in the opinion of the Board of Directors the public distribution or trading activity of such securities during such period does not create a market which reflects the fair market value of such securities, then the current market value thereof shall be determined by the Board of Directors, in good faith and in its sole discretion (with the assistance of such reputable and qualified independent financial advisors and/or other experts as the board may require), and provided further that any such determination by the Board of Directors shall be conclusive and binding on Cableshare and its shareholders. ARTICLE 4 CERTAIN RESTRICTIONS 4.1 So long as any of the Exchangeable Shares are outstanding, Cableshare shall not at any time without, but may at any time with, the approval of the holders of the Exchangeable Shares given as specified in Section 10.2 of these share provisions: (a) pay any dividends on the Common Shares, the Class A Preference Shares or any other shares ranking junior to the Exchangeable Shares, other than stock dividends payable in Common Shares, Class A Preference Shares or any such other shares ranking junior to the Exchangeable Shares, as the case may be; (b) redeem or purchase or make any capital distribution in respect of Common Shares, Class A Preference Shares or any other shares ranking junior to the Exchangeable Shares; 15 16 (c) redeem or purchase any other shares of Cableshare ranking equally with the Exchangeable Shares with respect to the payment of dividends or on any liquidation distribution; or (d) issue any Exchangeable Shares or any other shares of Cableshare ranking equally with, or superior to, the Exchangeable Shares other than by way of stock dividends to the holders of such Exchangeable Shares. The restrictions in Sections 4.1(a), 4.1(b) and 4.1(c) above shall not apply if all dividends on the outstanding Exchangeable Shares corresponding to dividends declared to date on the Source Common Shares shall have been declared on the Exchangeable Shares and paid in full. ARTICLE 5 DISTRIBUTION ON LIQUIDATION 5.1 In the event of the liquidation, dissolution or winding-up of Cableshare or any other distribution of the assets of Cableshare among its shareholders for the purpose of winding up its affairs, a holder of Exchangeable Shares shall be entitled, subject to applicable law, to receive from the assets of Cableshare in respect of each Exchangeable Share held by such holder on the effective date (the "Liquidation Date") of such liquidation, dissolution or winding-up, before any distribution of any part of the assets of Cableshare among the holders of the Common Shares, Class A Preference Shares or any other shares ranking junior to the Exchangeable Shares, an amount per share equal to: (a) the Current Market Price of a Source Common Share on the last Business Day prior to the Liquidation Date, which shall be satisfied in full by Cableshare causing to be delivered to such holder one Source Common Share; plus (b) an additional amount equivalent to the full amount of all then declared and unpaid dividends on each such Exchangeable Share (collectively the "Liquidation Amount"). 5.2 On or promptly after the Liquidation Date, and subject to the exercise by Source of the Liquidation Call Right, Cableshare shall cause to be delivered to the holders of the Exchangeable Shares the Liquidation Amount for each such Exchangeable Share upon presentation and surrender of the certificates representing such Exchangeable Shares, together with such other documents and instruments as may be required to effect a transfer of Exchangeable Shares under the Business Corporations Act (Ontario) and the by-laws of Cableshare and such additional documents and instruments as the Transfer Agent may reasonably require, at the registered office of Cableshare or at any office of the Transfer Agent as may be specified by Cableshare by notice to the holders of the Exchangeable Shares. Payment of the total Liquidation Amount for such Exchangeable Shares shall be made by delivery to each holder, at the address of the holder recorded in the securities register of Cableshare for the Exchangeable Shares or by holding for pick-up by the holder at the registered office of Cableshare or at any office of the Transfer Agent as may be specified by Cableshare by notice to the holders of Exchangeable Shares, on behalf of Cableshare of certificates representing Source Common Shares (which shares shall be duly issued as fully paid and non-assessable and shall be free and clear of any lien, claim or encumbrance) and a cheque of Cableshare payable at par at any branch of the bankers of Cableshare in respect of the amount equivalent to the full amount of all declared and unpaid dividends comprising part of the total Liquidation Amount (in each case less any amounts withheld on account of tax required to be deducted and withheld therefrom by Cableshare). On and after the Liquidation Date, the holders of the Exchangeable Shares shall cease to be holders of such Exchangeable Shares and shall not be entitled to exercise any of the rights of holders in respect thereof, other than the right to receive their proportionate part of the total Liquidation Amount, unless payment of the total Liquidation Amount for such Exchangeable Shares shall not be made upon presentation and surrender of share certificates in accordance with the foregoing provisions, in which case the rights of the holders shall remain unaffected until the total Liquidation Amount has been paid in the manner hereinbefore provided. Cableshare shall have the right at any time after the Liquidation Date to deposit or cause to be deposited the total Liquidation Amount in respect of the Exchangeable Shares represented by certificates that have not at the Liquidation Date been surrendered by the holders thereof in a custodial account with any chartered bank or trust company in Canada. Upon such deposit being made, the rights of the holders of Exchangeable Shares after such deposit shall be 16 17 limited to receiving their proportionate part of the total Liquidation Amount (in each case less any amounts withheld on account of tax required to be deducted and withheld therefrom) for such Exchangeable Shares so deposited, against presentation and surrender of the said certificates held by them, respectively, in accordance with the foregoing provisions. Upon such payment or deposit of the total Liquidation Amount, the holders of the Exchangeable Shares shall thereafter be considered and deemed for all purposes to be holders of the Source Common Shares delivered to them. 5.3 After Cableshare has satisfied its obligations to pay the holders of the Exchangeable Shares the Liquidation Amount per Exchangeable Share pursuant to Section 5.1 of these share provisions, such holders shall not be entitled to share in any further distribution of the assets of Cableshare. ARTICLE 6 RETRACTION OF EXCHANGEABLE SHARES BY HOLDER 6.1 A holder of Exchangeable Shares shall be entitled at any time, subject to the exercise by Source of the Retraction Call Right and otherwise upon compliance with the provisions of this Article 6, to require Cableshare to redeem any or all of the Exchangeable Shares registered in the name of such holder for an amount per share equal to (a) the Current Market Price of a Source Common Share on the last Business Day prior to the Retraction Date, which shall be satisfied in full by Cableshare causing to be delivered to such holder one Source Common Share for each Exchangeable Share presented and surrendered by the holder, plus (b) an additional amount equivalent to the full amount of all dividends declared and unpaid thereon (collectively the "Retraction Price", provided that if the record date for any such declared and unpaid dividends occurs on or after the Retraction Date, the Retraction Price shall not include such additional amount equivalent to the declared and unpaid dividends). To effect such redemption, the holder shall present and surrender at the registered office of Cableshare or at any office of the Transfer Agent as may be specified by Cableshare by notice to the holders of Exchangeable Shares the certificate or certificates representing the Exchangeable Shares which the holder desires to have Cableshare redeem, together with such other documents and instruments as may be required to effect a transfer of Exchangeable Shares under the Business Corporations Act (Ontario) and the by-laws of Cableshare and such additional documents and instruments as the Transfer Agent may reasonably require, and together with a duly executed statement (the "Retraction Request") in the form of Schedule A hereto or in such other form as may be acceptable to Cableshare: (a) specifying that the holder desires to have all or any number specified therein of the Exchangeable Shares represented by such certificate or certificates (the "Retracted Shares") redeemed by Cableshare; (b) stating the Business Day on which the holder desires to have Cableshare redeem the Retracted Shares (the "Retraction Date"), provided that the Retraction Date shall be not less than 10 Business Days nor more than 15 Business Days after the date on which the Retraction Request is received by Cableshare and further provided that, in the event that no such Business Day is specified by the holder in the Retraction Request, the Retraction Date shall be deemed to be the fifteenth Business Day after the date on which the Retraction Request is received by Cableshare; and (c) acknowledging the overriding right (the "Retraction Call Right") of Source to purchase all but not less than all the Retracted Shares directly from the holder and that the Retraction Request shall be deemed to be a revocable offer by the holder to sell the Retracted Shares to Source in accordance with the Retraction Call Right on the terms and conditions set out in Section 6.3 below. 6.2 Subject to the exercise by Source of the Retraction Call Right, upon receipt by Cableshare or the Transfer Agent in the manner specified in Section 6.1 hereof of a certificate or certificates representing the number of Exchangeable Shares which the holder desires to have Cableshare redeem, together with a Retraction Request, and provided that the Retraction Request is not revoked by the holder in the manner specified in Section 6.7, Cableshare shall redeem the Retracted Shares effective at the close of business on the Retraction Date and shall cause to be delivered to such holder the total Retraction Price with respect to such 17 18 shares. If only a part of the Exchangeable Shares represented by any certificate is redeemed (or purchased by Source pursuant to the Retraction Call Right), a new certificate for the balance of such Exchangeable Shares shall be issued to the holder at the expense of Cableshare. 6.3 Upon receipt by Cableshare of a Retraction Request, Cableshare shall immediately notify Source thereof. In order to exercise the Retraction Call Right, Source must notify Cableshare in writing of its determination to do so (the "Source Call Notice") within five Business Days of notification to Source by Cableshare of the receipt by Cableshare of the Retraction Request. If Source does not so notify Cableshare within such five Business Day period, Cableshare will notify the holder as soon as possible thereafter that Source will not exercise the Retraction Call Right. If Source delivers the Source Call Notice within such five Business Day period, and provided that the Retraction Request is not revoked by the holder in the manner specified in Section 6.7, the Retraction Request shall thereupon be considered only to be an offer by the holder to sell the Retracted Shares to Source in accordance with the Retraction Call Right. In such event, Cableshare shall not redeem the Retracted Shares and Source shall purchase from such holder and such holder shall sell to Source on the Retraction Date the Retracted Shares for a purchase price (the "Purchase Price") per share equal to the Retraction Price per share. For the purposes of completing a purchase pursuant to the Retraction Call Right, Source shall deposit with the Transfer Agent, on or before the Retraction Date, certificates representing Source Common Shares and a cheque in the amount of the remaining portion, if any, of the total Purchase Price (in each case less any amounts withheld on account of tax required to be deducted and withheld therefrom by Source). Provided that the total Purchase Price has been so deposited with the Transfer Agent, the closing of the purchase and sale of the Retracted Shares pursuant to the Retraction Call Right shall be deemed to have occurred as at the close of business on the Retraction Date and, for greater certainty, no redemption by Cableshare of such Retracted Shares shall take place on the Retraction Date. In the event that Source does not deliver a Source Call Notice within such five Business Day period, and provided that the Retraction Request is not revoked by the holder in the manner specified in Section 6.7, Cableshare shall redeem the Retracted Shares on the Retraction Date and in the manner otherwise contemplated in this Article 6. 6.4 Cableshare or Source, as the case may be, shall deliver or cause the Transfer Agent to deliver to the relevant holder, at the address of the holder recorded in the securities register of Cableshare for the Exchangeable Shares or at the address specified in the holder's Retraction Request or by holding for pick-up by the holder at the registered office of Cableshare or at any office of the Transfer Agent as may be specified by Cableshare by notice to the holders of Exchangeable Shares, certificates representing the Source Common Shares (which shares shall be duly issued as fully paid and non-assessable and shall be free and clear of any lien, claim or encumbrance) registered in the name of the holder or in such other name as the holder may request in payment of the total Retraction Price or the total Purchase Price, as the case may be, and a cheque of Cableshare payable at par at any branch of the bankers of Cableshare in payment of the remaining portion, if any, of the total Retraction Price (in each case less any amounts withheld on account of tax required to be deducted and withheld therefrom by Cableshare) or a cheque of Source payable at par and in Canadian dollars at any branch of the bankers of Source or of Cableshare in Canada in payment of the remaining portion, if any, of the total Purchase Price, as the case may be, and such delivery of such certificates and cheque on behalf of Cableshare or by Source, as the case may be, or by the Transfer Agent shall be deemed to be payment of and shall satisfy and discharge all liability for the total Retraction Price or total Purchase Price, as the case may be, to the extent that the same is represented by such share certificates and cheque (plus any tax deducted and withheld therefrom and remitted to the proper tax authority), unless such cheque is not paid on due presentation. 6.5 On and after the close of business on the Retraction Date, the holder of the Retracted Shares shall cease to be a holder of such Retracted Shares and shall not be entitled to exercise any of the rights of a holder in respect thereof, other than the right to receive his proportionate part of the total Retraction Price or total Purchase Price, as the case may be, unless upon presentation and surrender of certificates in accordance with the foregoing provisions, payment of the total Retraction Price or the total Purchase Price, as the case may be, shall not be made, in which case the rights of such holder shall remain unaffected until the total Retraction Price or the total Purchase Price, as the case may be, has been paid in the manner hereinbefore provided. On and after the close of business on the Retraction Date, provided that presentation and surrender of certificates 18 19 and payment of the total Retraction Price or the total Purchase Price, as the case may be, has been made in accordance with the foregoing provisions, the holder of the Retracted Shares so redeemed by Cableshare or purchased by Source shall thereafter be considered and deemed for all purposes to be a holder of the Source Common Shares delivered to it. 6.6 Notwithstanding any other provision of this Article 6, Cableshare shall not be obligated to redeem Retracted Shares specified by a holder in a Retraction Request to the extent that such redemption of Retracted Shares would be contrary to solvency requirements or other provisions of applicable law. If Cableshare believes that on any Retraction Date it would not be permitted by any of such provisions to redeem the Retracted Shares tendered for redemption on such date, and provided that Source shall not have exercised the Retraction Call Right with respect to the Retracted Shares, Cableshare shall only be obligated to redeem Retracted Shares specified by a holder in a Retraction Request to the extent of the maximum number that may be so redeemed (rounded down to a whole number of shares) as would not be contrary to such provisions and shall notify the holder at least two Business Days prior to the Retraction Date as to the number of Retracted Shares which will not be redeemed by Cableshare. In any case in which the redemption by Cableshare of Retracted Shares would be contrary to solvency requirements or other provisions of applicable law, Cableshare shall redeem Retracted Shares in accordance with Section 6.2 of these share provisions on a pro rata basis and shall issue to each holder of Retracted Shares a new certificate, at the expense of Cableshare, representing the Retracted Shares not redeemed by Cableshare pursuant to Section 6.2 hereof. Provided that the Retraction Request is not revoked by the holder in the manner specified in Section 6.7, the holder of any such Retracted Shares not redeemed by Cableshare pursuant to Section 6.2 of these share provisions as a result of solvency requirements of applicable law shall be deemed by giving the Retraction Request to require Source to purchase such Retracted Shares from such holder on the Retraction Date or as soon as practicable thereafter on payment by Source to such holder of the Purchase Price for each such Retracted Share, all as more specifically provided in the Voting and Exchange Trust Agreement. 6.7 A holder of Retracted Shares may, by notice in writing given by the holder to Cableshare before the close of business on the Business Day immediately preceding the Retraction Date, withdraw its Retraction Request, in which event such Retraction Request shall be null and void and, for greater certainty, the revocable offer constituted by the Retraction Request to sell the Retracted Shares to Source shall be deemed to have been revoked. ARTICLE 7 REDEMPTION OF EXCHANGEABLE SHARES BY CABLESHARE 7.1 Subject to applicable law, and subject to the exercise by Source of the Redemption Call Right, Cableshare shall on the Automatic Redemption Date redeem the whole of the then outstanding Exchangeable Shares for an amount per share equal to (a) the Current Market Price of a Source Common Share on the last Business Day prior to the Automatic Redemption Date, which shall be satisfied in full by Cableshare causing to be delivered to each holder of Exchangeable Shares one Source Common Share for each Exchangeable Share held by such holder, plus (b) an additional amount equivalent to the full amount of all declared and unpaid dividends thereon (collectively, the "Redemption Price"). 7.2 In any case of a redemption of Exchangeable Shares under this Article 7, Cableshare shall, at least 120 days before the Automatic Redemption Date, send or cause to be sent to each holder of Exchangeable Shares a notice in writing of the redemption by Cableshare or the purchase by Source under the Redemption Call Right, as the case may be, of the Exchangeable Shares held by such holder. Such notice shall set out the formula for determining the Redemption Price or the Redemption Call Purchase Price, as the case may be, the Automatic Redemption Date and, if applicable, particulars of the Redemption Call Right. 7.3 On or after the Automatic Redemption Date and subject to the exercise by Source of the Redemption Call Right, Cableshare shall cause to be delivered to the holders of the Exchangeable Shares to be redeemed the Redemption Price for each such Exchangeable Share upon presentation and surrender at the registered office of Cableshare or at any office of the Transfer Agent as may be specified by Cableshare in such notice of the certificates representing such Exchangeable Shares, together with such other documents and instruments as may be required to effect a transfer of Exchangeable Shares under the Business Corporations Act (Ontario) 19 20 and the by-laws of Cableshare and such additional documents and instruments as the Transfer Agent may reasonably require. Payment of the total Redemption Price for such Exchangeable Shares shall be made by delivery to each holder, at the address of the holder recorded in the securities register of Cableshare or by holding for pick-up by the holder at the registered office of Cableshare or at any office of the Transfer Agent as may be specified by Cableshare in such notice, on behalf of Cableshare of certificates representing Source Common Shares (which shares shall be duly issued as fully paid and non-assessable and shall be free and clear of any lien, claim or encumbrance) and a cheque of Cableshare payable at par at any branch of the bankers of Cableshare in respect of the additional amount equivalent to the full amount of all declared and unpaid dividends comprising part of the total Redemption Price (in each case less any amounts withheld on account of tax required to be withheld and remitted therefrom by Cableshare). On and after the Automatic Redemption Date, the holders of the Exchangeable Shares called for redemption shall cease to be holders of such Exchangeable Shares and shall not be entitled to exercise any of the rights of holders in respect thereof, other than the right to receive their proportionate part of the total Redemption Price, unless payment of the total Redemption Price for such Exchangeable Shares shall not be made upon presentation and surrender of certificates in accordance with the foregoing provisions, in which case the rights of the holders shall remain unaffected until the total Redemption Price has been paid in the manner hereinbefore provided. Cableshare shall have the right at any time after the sending of notice of its intention to redeem the Exchangeable Shares as aforesaid to deposit or cause to be deposited the total Redemption Price of the Exchangeable Shares so called for redemption, or of such of the said Exchangeable Shares represented by certificates that have not at the date of such deposit been surrendered by the holders thereof in connection with such redemption, in a custodial account with any chartered bank or trust company in Canada named in such notice (less any amounts withheld on account of tax required to be withheld and remitted therefrom by Cableshare). Upon the later of such deposit being made and the Automatic Redemption Date, the Exchangeable Shares in respect whereof such deposit shall have been made shall be redeemed and the rights of the holders thereof after such deposit or Automatic Redemption Date, as the case may be, shall be limited to receiving their proportionate part of the total Redemption Price for such Exchangeable Shares so deposited, against presentation and surrender of the said certificates held by them, respectively, in accordance with the foregoing provisions. Upon such payment or deposit of the total Redemption Price, the holders of the Exchangeable Shares shall thereafter be considered and deemed for all purposes to be holders of the Source Common Shares delivered to them. ARTICLE 8 PURCHASE FOR CANCELLATION 8.1 Subject to applicable law and the articles of Cableshare, Cableshare may at any time and from time to time purchase for cancellation all or any part of the outstanding Exchangeable Shares at any price by tender to all the holders of record of Exchangeable Shares then outstanding or through the facilities of any stock exchange on which the Exchangeable Shares are listed or quoted at any price per share together with an amount equal to all declared and unpaid dividends thereon. If in response to an invitation for tenders under the provisions of this Section 8.1, more Exchangeable Shares are tendered at a price or prices acceptable to Cableshare than Cableshare is prepared to purchase, the Exchangeable Shares to be purchased by Cableshare shall be purchased as nearly as may be pro rata according to the number of shares tendered by each holder who submits a tender to Cableshare, provided that when shares are tendered at different prices, the pro rating shall be effected (disregarding fractions) only with respect to the shares tendered at the price at which more shares were tendered than Cableshare is prepared to purchase after Cableshare has purchased all the shares tendered at lower prices. If part only of the Exchangeable Shares represented by any certificate shall be purchased, a new certificate for the balance of such shares shall be issued at the expense of Cableshare. 20 21 ARTICLE 9 VOTING RIGHTS 9.1 Except as required by applicable law, the holders of the Exchangeable Shares shall not be entitled as such to receive notice of or to attend any meeting of the shareholders of Cableshare or to vote at any such meeting. ARTICLE 10 AMENDMENT AND APPROVAL 10.1 The rights, privileges, restrictions and conditions attaching to the Exchangeable Shares may be added to, changed or removed but only with the approval of the holders of the Exchangeable Shares given as hereinafter specified. 10.2 Any approval given by the holders of the Exchangeable Shares to add to, change or remove any right, privilege, restriction or condition attaching to the Exchangeable Shares or any other matter requiring the approval or consent of the holders of the Exchangeable Shares shall be deemed to have been sufficiently given if it shall have been given in accordance with applicable law subject to a minimum requirement that such approval be evidenced by resolution passed by not less than two-thirds of the votes cast on such resolution at a meeting of holders of Exchangeable Shares duly called and held at which the holders of at least 25% of the outstanding Exchangeable Shares at that time are present or represented by proxy; provided that if at any such meeting the holders of at least 25% of the outstanding Exchangeable Shares at that time are not present or represented by proxy within one-half hour after the time appointed for such meeting then the meeting shall be adjourned to such date not less than five days thereafter and to such time and place as may be designated by the Chairman of such meeting. At such adjourned meeting, the holders of Exchangeable Shares present or represented by proxy thereat may transact the business for which the meeting was originally called and a resolution passed thereat by the affirmative vote of not less than two-thirds of the votes cast on such resolution at such meeting shall constitute the approval or consent of the holders of the Exchangeable Shares. ARTICLE 11 RECIPROCAL CHANGES, ETC. IN RESPECT OF SOURCE COMMON SHARES 11.1 Each holder of an Exchangeable Share acknowledges that the Support Agreement provides, in part, that Source will not without the prior approval of Cableshare and the prior approval of the holders of the Exchangeable Shares given in accordance with Section 10.2 of these share provisions: (a) issue or distribute Source Common Shares (or securities exchangeable for or convertible into or carrying rights to acquire Source Common Shares) to the holders of all or substantially all of the then outstanding Source Common Shares by way of stock dividend or other distribution, other than an issue of Source Common Shares (or securities exchangeable for or convertible into or carrying rights to acquire Source Common Shares) to holders of Source Common Shares who exercise an option to receive dividends in Source Common Shares (or securities exchangeable for or convertible into or carrying rights to acquire Source Common Shares) in lieu of receiving cash dividends; (b) issue or distribute rights, options or warrants to the holders of all or substantially all of the then outstanding Source Common Shares entitling them to subscribe for or to purchase Source Common Shares (or securities exchangeable for or convertible into or carrying rights to acquire Source Common Shares); (c) issue or distribute to the holders of all or substantially all of the then outstanding Source Common Shares: (i) shares or securities of Source of any class other than Source Common Shares (other than shares convertible into or exchangeable for or carrying rights to acquire Source Common Shares); (ii) rights, options or warrants other than those referred to in Section 11.1(b) above; 21 22 (iii) evidences of indebtedness of Source; or (iv) assets of Source; unless the economic equivalent on a per share basis of such rights, options, securities, shares, evidences of indebtedness or other assets is issued or distributed simultaneously to holders of the Exchangeable Shares; or (d) each holder of an Exchangeable Share acknowledges that the Support Agreement further provides, in part, that Source will not without the prior approval of Cableshare and the prior approval of the holders of the Exchangeable Shares given in accordance with Section 10.2 of these share provisions: (i) subdivide, redivide or change the then outstanding Source Common Shares into a greater number of Source Common Shares; (ii) reduce, combine or consolidate or change the then outstanding Source Common Shares into a lesser number of Source Common Shares; or (iii) reclassify or otherwise change the Source Common Shares or effect an amalgamation, merger, reorganization or other transaction affecting the Source Common Shares; unless the same or an economically equivalent change shall simultaneously be made to, or in, the rights of the holders of, the Exchangeable Shares. The Support Agreement further provides, in part, that the aforesaid provisions of the Support Agreement shall not be changed without the approval of the holders of the Exchangeable Shares given in accordance with Section 10.2 of these share provisions. ARTICLE 12 ACTIONS BY CABLESHARE UNDER SUPPORT AGREEMENT 12.1 Cableshare will take all such actions and do all such things as shall be necessary or advisable to perform and comply with and to ensure performance and compliance by Source with all provisions of the Support Agreement applicable to Cableshare and Source, respectively, in accordance with the terms thereof including, without limitation, taking all such actions and doing all such things as shall be necessary or advisable to enforce to the fullest extent possible for the direct benefit of Cableshare all rights and benefits in favour of Cableshare under or pursuant to such agreement. 12.2 Cableshare shall not propose, agree to or otherwise give effect to any amendment to, or waiver or forgiveness of its rights or obligations under, the Support Agreement without the approval of the holders of the Exchangeable Shares given in accordance with Section 10.2 of these share provisions other than such amendments, waivers and/or forgiveness as may be necessary or advisable for the purposes of: (a) adding to the covenants of the other party or parties to such agreement for the protection of Cableshare or the holders of the Exchangeable Shares thereunder; (b) making such provisions or modifications not inconsistent with such agreement as may be necessary or desirable with respect to matters or questions arising thereunder which, in the opinion of the Board of Directors, it may be expedient to make, provided that the Board of Directors shall be of the opinion, after consultation with counsel, that such provisions and modifications will not be prejudicial to the interests of the holders of the Exchangeable Shares; or (c) making such changes in or corrections to such agreement which, on the advice of counsel to Cableshare, are required for the purpose of curing or correcting any ambiguity or defect or inconsistent provision or clerical omission or mistake or manifest error contained therein, provided that the Board of Directors shall be of the opinion, after consultation with counsel, that such changes or corrections will not be prejudicial to the interests of the holders of the Exchangeable Shares. 22 23 ARTICLE 13 LEGEND 13.1 The certificates evidencing the Exchangeable Shares shall contain or have affixed thereto a legend in form and on terms approved by the Board of Directors, with respect to the Support Agreement, the provisions of the Plan of Arrangement relating to the Liquidation Call Right and the Redemption Call Right, and the Voting and Exchange Trust Agreement (including the provisions with respect to the voting rights, exchange right and automatic exchange thereunder). ARTICLE 14 NOTICES 14.1 Any notice, request or other communication to be given to Cableshare by a holder of Exchangeable Shares shall be in writing and shall be valid and effective if given by mail (postage prepaid) or by telecopy or by delivery to the registered office of Cableshare and addressed to the attention of the President. Any such notice, request or other communication, if given by mail, telecopy or delivery, shall only be deemed to have been given and received upon actual receipt thereof by Cableshare. 14.2 Any presentation and surrender by a holder of Exchangeable Shares to Cableshare or the Transfer Agent of certificates representing Exchangeable Shares in connection with the liquidation, dissolution or winding-up of Cableshare or the retraction or redemption of Exchangeable Shares shall be made by registered mail (postage prepaid) or by delivery to the registered office of Cableshare or to such office of the Transfer Agent as may be specified by Cableshare, in each case addressed to the attention of the President of Cableshare. Any such presentation and surrender of certificates shall only be deemed to have been made and to be effective upon actual receipt thereof by Cableshare or the Transfer Agent, as the case may be. Any such presentation and surrender of certificates made by registered mail shall be at the sole risk of the holder mailing the same. 14.3 Any notice, request or other communication to be given to a holder of Exchangeable Shares by or on behalf of Cableshare shall be in writing and shall be valid and effective if given by mail (postage prepaid) or by delivery to the address of the holder recorded in the securities register of Cableshare or, in the event of the address of any such holder not being so recorded, then at the last known address of such holder. Any such notice, request or other communication, if given by mail, shall be deemed to have been given and received on the third Business Day following the date of mailing and, if given by delivery, shall be deemed to have been given and received on the date of delivery. Accidental failure or omission to give any notice, request or other communication to one or more holders of Exchangeable Shares shall not invalidate or otherwise alter or affect any action or proceeding to be taken by Cableshare pursuant thereto. 23 24 SCHEDULE A NOTICE OF RETRACTION To Cableshare Inc. and Source Media, Inc. This notice is given pursuant to Article 6 of the provisions (the "Share Provisions") attaching to the share(s) represented by this certificate and all capitalized words and expressions used in this notice that are defined in the Share Provisions have the meanings ascribed to such words and expressions in such Share Provisions. The undersigned hereby notifies Cableshare that, subject to the Retraction Call Right referred to below, the undersigned desires to have Cableshare redeem in accordance with Article 6 of the Share Provisions: [ ] all share(s) represented by this certificate; or [ ] ________________________ share(s) only. The undersigned hereby notifies Cableshare that the Retraction Date shall be ________________________ . NOTE: The Retraction Date must be a Business Day and must not be less than 10 Business Days nor more than 15 Business Days after the date upon which this notice is received by Cableshare. In the event that no such Business Day is specified above, the Retraction Date shall be deemed to be the 15th Business Day after the date on which this notice is received by Cableshare. The undersigned acknowledges the Retraction Call Right of Source to purchase all but not less than all the Retracted Shares from the undersigned and that this notice shall be deemed to be a revocable offer by the undersigned to sell the Retractable Shares to Source in accordance with the Retraction Call Right on the Retraction Date for the Retraction Price and on the other terms and conditions set out in Section 6.3 of the Share Provisions. If Source determines not to exercise the Retraction Call Right, Cableshare will notify the undersigned of such fact as soon as practicable. This notice of retraction, and the offer to sell the Retracted Shares to Source, may be revoked and withdrawn by the undersigned only by notice in writing given to Cableshare at any time before the close of business on the second Business Day immediately preceding the Retraction Date. The undersigned acknowledges that if, as a result of solvency provisions of applicable law, Cableshare is unable to redeem all Retracted Shares, the undersigned will be deemed to have exercised the Exchange Right (as defined in the Voting and Exchange Trust Agreement) so as to require Source to purchase the unredeemed Retracted Shares. The undersigned hereby represents and warrants to Cableshare and Source that the undersigned: [ ] is (select one) [ ] is not a non-resident of Canada for purposes of the Income Tax Act (Canada). THE UNDERSIGNED ACKNOWLEDGES THAT IN THE ABSENCE OF AN INDICATION THAT THE UNDERSIGNED IS NOT A NON-RESIDENT OF CANADA, WITHHOLDING ON ACCOUNT OF CANADIAN TAX WILL BE MADE FROM AMOUNTS PAYABLE TO THE UNDERSIGNED ON THE REDEMPTION OR PURCHASE OF THE RETRACTED SHARES. The undersigned hereby represents and warrants to Cableshare and Source that the undersigned has good title to, and owns, the share(s) represented by this certificate to be acquired by Cableshare or Source, as the case may be, free and clear of all liens, claims and encumbrances. - ------------------ ------------------------------ --------------------------- (Date) (Signature of Shareholder) (Guarantee of Signature) 24 25 [ ] Please check box if the securities and any cheque(s) resulting from the retraction or purchase of the Retracted Shares are to be held for pick-up by the shareholder by the Transfer Agent, failing which the securities and any cheque(s) will be mailed to the last address of the shareholder as it appears on the register. NOTE: This panel must be completed and this certificate, together with such additional documents as the Transfer Agent may require, must be deposited with the Transfer Agent. The securities and any cheque(s) resulting from the retraction or purchase of the Retracted Shares will be issued and registered in, and made payable to, respectively, the name of the shareholder as it appears on the register of Cableshare and the securities and any cheque(s) resulting from such retraction or purchase will be delivered to such shareholder as indicated above, unless the form appearing immediately below is duly completed. - ------------------------------------------- --------------------------------- Name of Person in Whose Name Securities or Date Cheque(s) Are to be Registered, Issued or Delivered (please print) - -------------------------------------------- --------------------------------- Street Address or P.O. Box Signature of Shareholder - -------------------------------------------- --------------------------------- City, Province and Postal Code Signature Guaranteed by NOTE: If the notice of retraction is for less than all of the shares represented by this certificate, a certificate representing the remaining share(s) of Cableshare represented by this certificate will be issued and registered in the name of the shareholder as it appears on the register of Cableshare, unless the Share Transfer Power on the share certificate is duly completed in respect of such share(s). 25 26 PROVISIONS ATTACHING TO CLASS A PREFERENCE SHARES The rights, privileges, restrictions and conditions attaching to the Class A Preference Shares, as a class, are as follows: ARTICLE 1 DIRECTORS' AUTHORITY TO ISSUE ONE OR MORE SERIES 1.1 The board of directors of Cableshare may issue the Class A Preference Shares at any time and from time to time in one or more series. Before the first shares of a particular series are issued, the board of directors of Cableshare shall fix the number of shares in such series and shall determine, subject to the limitations set out in the articles, the designation, rights, privileges, restrictions and conditions to attach to the shares of such series including, without limiting the generality of the foregoing, the rate or rates, amount or method or methods of calculation of preferential dividends, whether cumulative or non-cumulative or partially cumulative, and whether such rate(s), amount or method(s) of calculation shall be subject to change or adjustment in the future, the currency or currencies of payment, the date or dates and place or places of payment thereof and the date or dates from which such preferential dividends shall accrue, the redemption price and terms and conditions of redemption (if any), the rights of retraction (if any), and the prices and other terms and conditions of any rights of retraction and whether any additional rights of retraction may be vested in such holders in the future, voting rights and conversion or exchange rights (if any) and any sinking fund, purchase fund or other provisions attaching thereto. Before the issue of the first shares of a series, the board of directors of Cableshare shall send to the Director (as defined in the Business Corporations Act (Ontario)) articles of amendment in the prescribed form containing a description of such series, including the designation, rights, privileges, restrictions and conditions determined by the directors. ARTICLE 2 RANKING OF CLASS A PREFERENCE SHARES 2.1 No rights, privileges, restrictions or conditions attaching to a series of Class A Preference Shares shall confer upon a series a priority in respect of dividends or return of capital in the event of the liquidation, dissolution or winding-up of Cableshare over any other series of Class A Preference Shares. The Class A Preference Shares of each series shall rank on a parity with the Class A Preference Shares of every other series with respect to priority in the payment of dividends and the return of capital and the distribution of assets of Cableshare in the event of the liquidation, dissolution or winding-up of Cableshare, whether voluntary or involuntary, or any other distribution of the assets of Cableshare among its shareholders for the purpose of winding up its affairs. 2.2 The Class A Preference Shares shall be entitled to priority over the common shares of Cableshare and over any other shares of any other class of Cableshare ranking junior to the Class A Preference Shares with respect to priority in the payment of dividends and the return of capital and the distribution of assets in the event of the liquidation, dissolution or winding-up of Cableshare, whether voluntary or involuntary, or any other distribution of the assets of Cableshare among its shareholders for the purpose of winding up its affairs. 2.3 If any amount of cumulative dividends, whether or not declared, or declared non-cumulative dividends or amount payable on a return of capital in the event of the liquidation, dissolution or winding-up of Cableshare in respect of a series of Class A Preference Shares is not paid in full, the Class A Preference Shares of all series shall participate rateably in respect of all accumulated cumulative dividends, whether or not declared, and all declared non-cumulative dividends in accordance with the sums that would be payable on such shares if all such dividends were declared and paid in full, and in respect of amounts payable on return of capital in the event of the liquidation, dissolution or winding-up of Cableshare in accordance with the sums that would be payable on such repayment of capital if all sums so payable were paid in full; provided, however, that in the event of there being insufficient assets to satisfy in full all such claims as aforesaid, the claims of the holders of the Class A Preference Shares with respect to amounts payable on return of capital shall first be paid and satisfied and any assets remaining thereafter shall be applied towards the payment and satisfaction of claims in respect of dividends. 26 27 2.4 The Class A Preference Shares of any series may also be given such other preferences not inconsistent with the provisions hereof over the common shares and over any other shares ranking junior to the Class A Preference Shares as may be determined in the case of such series of Class A Preference Shares. 2.5 In the event of the liquidation, dissolution or winding-up of Cableshare, whether voluntary or involuntary, or any other distribution of the assets of Cableshare among its shareholders for the purpose of winding up its affairs, the holders of each series of Class A Preference Shares shall, before any amount shall be paid to or any property or assets of Cableshare distributed among the holders of the common shares of Cableshare or any other shares of Cableshare ranking junior to the Class A Preference Shares, be entitled to receive: (i) an amount equal to the stated capital attributed to each series of Class A Preference Shares, respectively, together with, in the case of a series of Class A Preference Shares entitled to cumulative dividends thereon, all unpaid accumulated cumulative dividends, whether or not declared (which for such purpose shall be calculated as if such cumulative dividends were accruing from day to day for the period from the expiration of the last period for which such cumulative dividends were paid up to but excluding the date of distribution) and, in the case of a series of Class A Preference Shares entitled to non-cumulative dividends, all declared and unpaid non-cumulative dividends thereon; and (ii) if such liquidation, dissolution, winding-up or distribution shall be voluntary, an additional amount, if any, equal to any premium which would have been payable on the redemption of any series of Class A Preference Shares had they been called for redemption by Cableshare effective the date of distribution and, if any series of Class A Preference Shares could not be redeemed on such date, then an additional amount equal to the greatest premium, if any, which would have been payable on the redemption of any other series of Class A Shares. ARTICLE 3 RESTRICTIONS ON DIVIDENDS AND REDEMPTIONS, ETC. 3.1 Except with the approval of all the holders of any issued and outstanding Class A Preference Shares, no dividends shall at any time be declared or paid on or set apart for payment on the common shares or any other shares of Cableshare ranking junior to the Class A Preference Shares unless all dividends up to and including the dividend payable for the last completed period for which such dividends shall be payable on each series of Class A Preference Shares then issued and outstanding shall have been declared and paid or set apart for payment at the date of such declaration or payment or setting apart for payment on the common shares or such other shares of Cableshare ranking junior to the Class A Preference Shares; nor shall Cableshare call for redemption, redeem, purchase for cancellation, acquire for value or reduce or otherwise pay off any of the Class A Preference Shares (less than the total amount then outstanding) or any common shares or any other shares of Cableshare ranking junior to the Class A Preference Shares unless and until all dividends up to and including the dividends payable for the last completed period for which such dividends shall be payable on each series of the Class A Preference Shares then issued and outstanding shall have been declared and paid or set apart for payment at the date of such call for redemption, purchase, acquisition, reduction or other payment. ARTICLE 4 VOTING RIGHTS 4.1 Except as hereinafter referred to or as otherwise provided by law or in accordance with any voting rights which may from time to time be attached to any series of Class A Preference Shares, the holders of the Class A Preference Shares as a class shall not be entitled as such to receive notice of, to attend or to vote at any meeting of the shareholders of Cableshare. 27 28 ARTICLE 5 SPECIFIC MATTERS REQUIRING APPROVAL 5.1 The approval of the holders of the Class A Shares, given in the manner described in section 6.1 below, shall be required for the creation of any new shares ranking prior to or on a parity with the Class A Preference Shares, and if, but only so long as, any cumulative dividends are in arrears or any declared non-cumulative dividends are unpaid on any outstanding series of Class A Preference Shares, for the issuance of any additional series of Class A Preference Shares or of any shares ranking prior to or on a parity with the Class A Preference Shares. 5.2 The provisions of section 1.1 to 6.1, inclusive, may be deleted, amended, modified or varied in whole or in part by a certificate of amendment issued by the Director appointed under the Business Corporations Act (Ontario), but only with the prior approval of the holders of the Class A Preference Shares given as hereinafter specified in addition to any other approval required by the Business Corporations Act (Ontario) or any other statutory provision of like or similar effect, from time to time in force. ARTICLE 6 APPROVAL OF THE HOLDERS OF THE CLASS A PREFERENCE SHARES 6.1 The approval of the holders of the Class A Preference Shares with respect to any and all matters hereinbefore referred to may be given by at least two-thirds of the votes cast at a meeting of the holders of the Class A Preference Shares duly called for that purpose and held upon at least 21 days' notice at which the holders of 25% of the outstanding Class A Preference Shares are present or represented by proxy. If at any such meeting the holders of 25% of the outstanding Class A Preference Shares are not present or represented by proxy within one-half hour after the time appointed for such meeting, then the meeting shall be adjourned to such date being not less than 30 days later and to such time and place as may be appointed by the chairman and not less than 21 days' notice shall be given of such adjourned meeting. At such adjourned meeting, the holders of the Class A Preference Shares present or represented by proxy may transact the business for which the meeting was originally called and a resolution passed thereat by not less than two-thirds of the votes cast at such adjourned meeting shall constitute the approval of the holders of the Class A Preference Shares referred to above. The formalities to be observed with respect to the giving of notice of any such meeting or adjourned meeting and the conduct thereof shall be those from time to time prescribed by the Business Corporations Act (Ontario) and the by-laws of Cableshare with respect to meetings of shareholders. On every poll taken at every such meeting or adjourned meeting, every holder of Class A Preference Shares shall be entitled to one vote in respect of each Class A Preference Share held. 28 EX-10.20 5 FORM OF SUPPORT AGREEMENT 1 EXHIBIT 10.20 SUPPORT AGREEMENT MEMORANDUM OF AGREEMENT made as of the -- day of November, 1996. B E T W E E N: SOURCE MEDIA, INC. a corporation subsisting under the laws of the State of Delaware, (hereinafter referred to as "Source"), OF THE FIRST PART, - and - CABLESHARE INC., a corporation subsisting under the laws of the Province of Ontario, (hereinafter referred to as "Cableshare"), OF THE SECOND PART. WHEREAS pursuant to an arrangement agreement (the "Arrangement Agreement") dated as of November 13, 1996 between Source and Cableshare, the parties agreed that Source and Cableshare would execute and deliver a support agreement forthwith following the filing of articles of arrangement to give effect to the arrangement referred to therein, such support agreement to contain the terms and conditions set forth in Exhibit 5 to the Arrangement Agreement together with such other terms and conditions as may be customary for agreements of a similar nature and as may be agreed to by the parties to the Arrangement Agreement, acting reasonably; AND WHEREAS pursuant to an arrangement (the "Arrangement") effected by articles of arrangement dated -- , 1996 filed pursuant to the Business Corporations Act (Ontario), each shareholder of Cableshare who properly elected to do so received Exchangeable Non-Voting Shares in the capital of Cableshare ("Exchangeable Shares") for the issued and outstanding Class A Subordinate Voting Shares in the capital of Cableshare ("Class A Shares") and the issued and outstanding Class B Multiple Voting Shares in the capital of Cableshare ("Class B Shares") held by such shareholder, in a ratio determined pursuant to the Arrangement Agreement; AND WHEREAS pursuant to the Arrangement, each other shareholder of Cableshare (other than those who properly exercised dissent rights and will become entitled to be paid the fair value of the Cableshare shares held by them and other than IT Network, Inc. and 997758 Ontario Inc. (the "Source Affiliates")), received issued and outstanding shares of the Common Stock of Source ("Source Common Shares"), in a ratio determined pursuant to the Arrangement Agreement in exchange for the issued and outstanding Class A Shares and Class B Shares held by such shareholder; AND WHEREAS pursuant to the Arrangement and immediately following the above-mentioned exchanges and conversions of shares, each issued and outstanding Class A Share and Class B Share was converted into one common share in the capital of Cableshare (a "Cableshare New Common Share"); AND WHEREAS pursuant to the Arrangement and the exchanges and conversions of shares referred to above, Source holds all of the issued and outstanding shares of Cableshare other than the issued and outstanding Exchangeable Shares; 1 2 AND WHEREAS the above-mentioned articles of arrangement set forth the rights, privileges, restrictions and conditions (collectively the "Share Provisions") attaching to the Exchangeable Shares; AND WHEREAS the parties hereto desire to make appropriate provisions and to establish a procedure whereby Source will take certain actions and make certain payments and deliveries necessary to ensure that Cableshare will be able to make certain payments and to deliver or cause to be delivered Source Common Shares in satisfaction of the obligations of Cableshare under the Share Provisions with respect to the payment and satisfaction of dividends, Liquidation Amounts, Retraction Prices and Redemption Prices (as such terms are defined in the Share Provisions), all in accordance with the Share Provisions; NOW THEREFORE in consideration of the respective covenants and agreements provided in this agreement and for other good and valuable consideration (the receipt and sufficiency of which are hereby acknowledged), the parties agree as follows: ARTICLE 1 DEFINITIONS AND INTERPRETATION 1.1 DEFINED TERMS. Each term denoted herein by initial capital letters and not otherwise defined herein shall have the meaning ascribed thereto in the Share Provisions, unless the context requires otherwise. 1.2 INTERPRETATION NOT AFFECTED BY HEADINGS, ETC. The division of this agreement into articles, sections and paragraphs and the insertion of headings are for convenience of reference only and shall not affect the construction or interpretation of this agreement. 1.3 NUMBER, GENDER, ETC. Words importing the singular number only shall include the plural and vice versa. Words importing the use of any gender shall include all genders. 1.4 DATE FOR ANY ACTION. If any date on which any action is required to be taken under this agreement is not a Business Day, such action shall be required to be taken on the next succeeding Business Day. For the purposes of this agreement, a "Business Day" means a day other than a Saturday, a Sunday or a statutory holiday in the City of Toronto, Ontario or the City of Dallas, Texas. ARTICLE 2 COVENANTS OF SOURCE AND CABLESHARE 2.1 FUNDING OF CABLESHARE. So long as any Exchangeable Shares are outstanding, Source will: (a) not declare or pay any dividend on Source Common Shares unless Cableshare shall simultaneously declare or pay, as the case may be, an equivalent dividend on the Exchangeable Shares; (b) cause Cableshare to declare simultaneously with the declaration of any dividend on Source Common Shares an equivalent dividend on the Exchangeable Shares and, when such dividend is paid on Source Common Shares, cause Cableshare to pay simultaneously therewith such equivalent dividend on the Exchangeable Shares, in each case in accordance with the Share Provisions; (c) advise Cableshare sufficiently in advance of the declaration by Source of any dividend on Source Common Shares and take all such other actions as are necessary, in cooperation with Cableshare, to ensure that the respective declaration date, record date and payment date for a dividend on the Exchangeable Share shall be the same as the record date, declaration date and payment date for the corresponding dividend on Source Common Shares; (d) ensure that the record date for any dividend declared on Source Common Shares is not less than 10 Business Days after the declaration date for such dividend; (e) provide or cause to be provided to Cableshare, by any means which Source deems appropriate from time to time, such assets, funds and other property as may be necessary in order that 2 3 Cableshare will have sufficient assets, funds and other property available to enable the due declaration and the due and punctual payment, in accordance with applicable law, of all dividends on the Exchangeable Shares in accordance with the Share Provisions; (f) take all such actions and do all such things as are necessary or desirable to enable and permit Cableshare, in accordance with applicable law, to pay and otherwise perform its obligations with respect to the satisfaction of the Liquidation Amount in respect of each issued and outstanding Exchangeable Share upon the liquidation, dissolution or winding-up of Cableshare, including without limitation, all such actions and all such things as are necessary or desirable to enable and permit Cableshare to cause to be delivered Source Common Shares to the holders of Exchangeable Shares in accordance with the provisions of Article 5 of the Share Provisions; and (g) take all such actions and do all such things as are necessary or desirable to enable and permit Cableshare, in accordance with applicable law, to pay and otherwise perform its obligations with respect to the satisfaction of the Retraction Price and the Redemption Price, including without limitation, all such actions and all such things as are necessary or desirable to enable and permit Cableshare to cause to be delivered Source Common Shares to the holders of Exchangeable Shares, upon the redemption of the Exchangeable Shares in accordance with the provisions of Article 6 or 7 of the Share Provisions, as the case may be. 2.2 SEGREGATION OF FUNDS. Upon Source providing or causing to be provided to Cableshare any funds, assets or other property in accordance with section 2.1, Cableshare will deposit such funds in a separate account and segregate such assets and other property, and will use such funds, assets and other property exclusively for the payment of dividends and the payment or other satisfaction of the Liquidation Amount, the Retraction Price or the Redemption Price, as applicable. 2.3 RESERVATION OF SOURCE COMMON SHARES. Source hereby represents, warrants and covenants that it has irrevocably reserved for issuance and will at all times keep available, free from pre-emptive and other rights, out of its authorized and unissued capital stock such number of Source Common Shares (or other shares or securities into which Source Common Shares may be reclassified or changed as contemplated by section 2.7 hereof) (a) as is equal to the sum of (i) the number of Exchangeable Shares issued and outstanding from time to time and (ii) the number of Exchangeable Shares issuable upon the exercise of all rights to acquire Exchangeable Shares outstanding from time to time and (b) as are now and may hereafter be required to enable and permit Cableshare to meet its obligations hereunder, under the Voting and Exchange Trust Agreement, under the Share Provisions and under any other security or commitment pursuant to which Source may now or hereafter be required to issue Source Common Shares. 2.4 NOTIFICATION OF CERTAIN EVENTS. In order to assist Source to comply with its obligations hereunder, Cableshare will give Source notice of each of the following events at the time set forth below: (a) in the event of any determination by the Board of Directors of Cableshare to institute voluntary liquidation, dissolution or winding-up proceedings with respect to Cableshare or to effect any other distribution of the assets of Cableshare among its shareholders for the purpose of winding up its affairs, at least 60 days prior to the proposed effective date of such liquidation, dissolution, winding-up or other distribution; (b) immediately, upon the earlier of receipt by Cableshare of notice of and Cableshare otherwise becoming aware of any threatened or instituted claim, suit, petition or other proceedings with respect to the involuntary liquidation, dissolution or winding-up of Cableshare or to effect any other distribution of the assets of Cableshare among its shareholders for the purpose of winding up its affairs; (c) immediately, upon receipt by Cableshare of a Retraction Request; (d) at least 130 days prior to any accelerated Automatic Redemption Date determined by the Board of Directors of Cableshare in accordance with the Share Provisions; and 3 4 (e) as soon as practicable upon the issuance by Cableshare of any Exchangeable Shares or rights to acquire Exchangeable Shares (other than the issuance of Exchangeable Shares upon the conversion of outstanding Class A Shares or Class B Shares pursuant to the Arrangement). 2.5 DELIVERY OF SOURCE COMMON SHARES. In furtherance of its obligations under sections 2.1(f) and (g) hereof, upon notice from Cableshare of any event which requires Cableshare to cause to be delivered Source Common Shares to any holder of Exchangeable Shares, Source shall forthwith issue and deliver the requisite Source Common Shares to or to the order of the former holder of the surrendered Exchangeable Shares, as Cableshare shall direct. All such Source Common Shares shall be duly issued as fully paid and non-assessable and shall be free and clear of any lien, claim or encumbrance. In consideration of the issuance of each such Source Common Share by Source, Cableshare shall issue to Source or as Source shall direct, Cableshare New Common Shares having equivalent value. 2.6 QUALIFICATION OF SOURCE COMMON SHARES. If any Source Shares (or other shares or securities into which Source Common Shares may be reclassified or changed as contemplated by section 2.7 hereof) to be issued and delivered hereunder require registration or qualification with or approval of or the filing of any document, including any prospectus or similar document or the taking of any proceeding with or the obtaining of any order, ruling or consent from any governmental or regulatory authority under any Canadian or United States federal, provincial or state law or regulation or pursuant to the rules and regulations of any regulatory authority or the fulfilment of any other legal requirement before such shares (or such other shares or securities) may be issued and delivered by Source at the direction of Cableshare to the initial holder thereof or in order that such shares (or such other shares or securities) may be freely traded thereafter (other than any restrictions on transfer by reason of a holder being a "control person" or affiliate of Source for purposes of United States federal or state securities law), Source will in good faith expeditiously take all such actions and do all such things as are necessary or desirable to cause such Source Common Shares (or such other shares or securities) to be and remain duly registered, qualified or approved. Source will in good faith expeditiously take all such actions and do all such things as are necessary or desirable to cause all Source Common Shares (or such other shares or securities) to be delivered hereunder to be listed, quoted or posted for trading on all stock exchanges and quotation systems on which outstanding Source Common Shares (or such other shares or securities) are listed, quoted or posted for trading at such time. 2.7 ECONOMIC EQUIVALENCE. (a) Source will not without prior approval of Cableshare and the prior approval of the holders of the Exchangeable Shares given in accordance with Section 10.2 of the Share Provisions: (i) issue or distribute Source Common Shares (or securities exchangeable for or convertible into or carrying rights to acquire Source Common Shares) to the holders of all or substantially all of the then outstanding Source Common Shares by way of stock dividend or other distribution, other than an issue of Source Common Shares (or securities exchangeable for or convertible into or carrying rights to acquire Source Common Shares) to holders of Source Common Shares who exercise an option to receive dividends in Source Common Shares (or securities exchangeable for or convertible into or carrying rights to acquire Source Common Shares) in lieu of receiving cash dividends; or (ii) issue or distribute rights, options or warrants to the holders of all or substantially all of the then outstanding Source Common Shares entitling them to subscribe for or to purchase Source Common Shares (or securities exchangeable for other convertible into or carrying rights to acquire Source Common Shares); or (iii) issue or distribute to the holders of all or substantially all of the then outstanding Source Common Shares (A) shares or securities of Source of any class other than Source Common Shares (other than shares convertible into or exchangeable for or carrying rights to acquire Source Common Shares), (B) rights, options or warrants other than those referred to in section 2.7(a)(ii) above, (C) evidences of indebtedness of Source or (D) assets of Source; 4 5 unless the economic equivalent on a per share basis of such rights, options, securities, shares, evidences of indebtedness or other assets is issued or distributed simultaneously to holders of the Exchangeable Shares, provided that, for greater certainty, the above restrictions shall not apply to any securities issued or distributed by Source in order to give effect to and to consummate the transactions contemplated by, and in accordance with, the Arrangement Agreement. (b) Source will not without the prior approval of Cableshare and the prior approval of the holders of the Exchangeable Shares given in accordance with Section 10.2 of the Share Provisions: (i) subdivide, redivide or change the then outstanding Source Common Shares into a greater number of Source Common Shares; or (ii) reduce, combine or consolidate or change the then outstanding Source Common Shares into a lesser number of Source Common Shares; or (iii) reclassify or otherwise change Source Common Shares or effect an amalgamation, merger, reorganization or other transaction affecting Source Common Shares; unless the same or an economically equivalent change shall simultaneously be made to, or in the rights of the holders of, the Exchangeable Shares. (c) Source will ensure that the record date for any event referred to in section 2.7(a) or (b) above, or (if no record date is applicable for such event) the effective date for any such event, is not less than 20 Business Days after the date on which such event is declared or announced by Source (with simultaneous notice thereof to be given by Source to Cableshare). (d) The Board of Directors of Cableshare shall determine, in good faith and in its sole discretion (with the assistance of such reputable and qualified independent financial advisors and/or other experts as the Board may require), economic equivalence for the purposes of any event referred to in section 2.7(a) or (b) above and each such determination shall be conclusive and binding on Source. In making each such determination, the following factors shall, without excluding other factors determined by the Board to be relevant, be considered by the Board of Directors of Cableshare: (i) in the case of any stock dividend or other distribution payable in Source Common Shares, the number of such shares issued in proportion to the number of Source Common Shares previously outstanding; (ii) in the case of the issuance or distribution of any rights, options or warrants to subscribe for or purchase Source Common Shares (or securities exchangeable for or convertible into or carrying rights to acquire Source Common Shares), the relationship between the exercise price of each such right, option or warrant and the current market value (as determined by the Board of Directors of Cableshare in the manner above contemplated) of a Source Common Share; (iii) in the case of the issuance or distribution of any other form of property (including without limitation) any shares or securities of Source of any class other than Source Common Shares, any rights, options or warrants other than those referred to in section 2.7(d)(ii) above, any evidences of indebtedness of Source or any assets of Source), the relationship between the fair market value (as determined by the Board of Directors of Cableshare in the manner above contemplated) of such property to be issued or distributed with respect to each outstanding Source Common Share and the current market value (as determined by the Board of Directors of Cableshare in the manner above contemplated) of a Source Common Share; (iv) in the case of any subdivision, redivision or change of the then outstanding Source Common Shares into a greater number of Source Common Shares or the reduction, combination or consolidation or change of the then outstanding Source Common Shares 5 6 into a lesser number of Source Common Shares or any amalgamation, merger, reorganization or other transaction affecting Source Common Shares, the effect thereof upon the then outstanding Source Common Shares; and (v) in all such cases, the general taxation consequences of the relevant event to holders of Exchangeable Shares to the extent that such consequences may differ from the taxation consequences to holders of Source Common Shares as a result of differences between taxation laws of Canada and the United States (except for any differing consequences arising as a result of differing marginal taxation rates and without regard to the individual circumstances of holders of Exchangeable Shares). For purposes of the foregoing determinations, the current market value of any security listed and traded or quoted on a securities exchange shall be the weighted average of the daily trading prices of such security during a period of not less than 20 consecutive trading days ending not more than five trading days before the date of determination on the principal securities exchange on which such securities are listed and traded or quoted; provided, however, that if in the opinion of the Board of Directors of Cableshare the public distribution or trading activity of such securities during such period does not create a market which reflects the fair market value of such securities, then the current market value thereof shall be determined by the Board of Directors of Cableshare, in good faith and in its sole discretion (with the assistance of such reputable and qualified independent financial advisors and/or other experts as the Board may require), and provided further that any such determination by the Board shall be conclusive and binding on Source. 2.8 TENDER OFFERS, ETC. In the event that a tender offer, share exchange offer, issuer bid, take-over bid or similar transaction with respect to Source Common Shares (an "Offer") is proposed by Source or is proposed to Source or its shareholders and is recommended by the Board of Directors of Source, or is otherwise effected or to be effected with the consent or approval of the Board of Directors of Source, Source will use its reasonable efforts expeditiously and in good faith to take all such actions and do all such things as are necessary or desirable to enable and permit holders of Exchangeable Shares to participate in such Offer to the same extent and on an economically equivalent basis as the holders of Source Common Shares, without discrimination. Without limiting the generality of the foregoing, Source will use its reasonable efforts expeditiously and in good faith to ensure that holders of Exchangeable Shares may participate in all such Offers without being required to retract Exchangeable Shares as against Cableshare (or, if so required, to ensure that any such retraction shall be effective only upon, and shall be conditional upon, the closing of the Offer and only to the extent necessary to tender or deposit to the Offer). 2.9 OWNERSHIP OF OUTSTANDING SHARES. Without the prior approval of Cableshare and the prior approval of the holders of the Exchangeable Shares given in accordance with Section 10.2 of the Share Provisions, Source covenants and agrees in favour of Cableshare that, as long as any outstanding Exchangeable Shares are owned by any person or entity other than Source or any of its Affiliates, Source will be and remain the direct or indirect beneficial owner of all issued and outstanding common shares in the capital of Cableshare. 2.10 SOURCE NOT TO VOTE EXCHANGEABLE SHARES. Source covenants and agrees that it will appoint and cause to be appointed proxyholders with respect to all Exchangeable Shares held by Source and its Affiliates for the sole purpose of attending each meeting of holders of Exchangeable Shares in order to be counted as part of the quorum for each such meeting. Source further covenants and agrees that it will not, and will cause its Affiliates not to, exercise any voting rights which may be exercisable by holders of Exchangeable Shares from time to time pursuant to the Share Provisions or pursuant to the provisions of the Business Corporations Act (Ontario) (or any successor or other corporate statute by which Cableshare may in the future be governed) with respect to any Exchangeable Shares held by it or by its Affiliates in respect of any matter considered at any meeting of holders of Exchangeable Shares. 6 7 ARTICLE 3 GENERAL 3.1 TERM. This agreement shall come into force and be effective as of the date hereof and shall terminate and be of no further force and effect at such time as no Exchangeable Shares (or securities or rights convertible into or exchangeable for or carrying rights to acquire Exchangeable Shares) are held by any party other than Source and any of its Affiliates. 3.2 CHANGES IN CAPITAL OF SOURCE AND CABLESHARE. At all times after the occurrence of any event effected pursuant to sections 2.7 and 2.8 hereof, as a result of which either Source Common Shares or the Exchangeable Shares or both are in any way changed, this agreement shall forthwith be amended and modified as necessary in order that it shall apply with full force and effect, mutatis mutandis, to all new securities into which Source Common Shares or the Exchangeable Shares or both are so changed and the parties hereto shall execute and deliver an agreement in writing giving effect to and evidencing such necessary amendments and modifications. 3.3 SEVERABILITY. If any provision of this agreement is held to be invalid, illegal or unenforceable, the validity, legality or enforceability of the remainder of this agreement shall not in any way be affected or impaired thereby and this agreement shall be carried out as nearly as possible in accordance with its original terms and conditions. 3.4 AMENDMENTS, MODIFICATIONS, ETC. This agreement may not be amended or modified except by an agreement in writing executed by Cableshare and Source and approved by the holders of the Exchangeable Shares in accordance with Section 10.2 of the Share Provisions. 3.5 MINISTERIAL AMENDMENTS. Notwithstanding the provisions of section 3.4, the parties to this agreement may in writing, at any time and from time to time, without the approval of the holders of the Exchangeable Shares, amend or modify this agreement for the purposes of: (a) adding to the covenants of either or both parties for the protection of the holders of the Exchangeable Shares; (b) making such amendments or modifications not inconsistent with this agreement as may be necessary or desirable with respect to matters or questions which, in the opinion of the Board of Directors of each of Cableshare and Source, it may be expedient to make, provided that each such Board of Directors shall be of the opinion that such amendments or modifications will not be prejudicial to the interests of the holders of the Exchangeable Shares; or (c) making such changes or corrections which, on the advice of counsel to Cableshare and Source, are required for the purpose of curing or correcting any ambiguity or defect or inconsistent provision or clerical omission or mistake or manifest error, provided that the Boards of Directors of each of Cableshare and Source shall be of the opinion that such changes or corrections will not be prejudicial to the interests of the holders of the Exchangeable Shares. 3.6 MEETING TO CONSIDER AMENDMENTS. Cableshare, at the request of Source, shall call a meeting or meetings of the holders of the Exchangeable Shares for the purpose of considering any proposed amendment or modification requiring approval pursuant to section 3.4 hereof. Any such meeting or meetings shall be called and held in accordance with the by-laws of Cableshare, the Share Provisions and all applicable laws. 3.7 AMENDMENTS ONLY IN WRITING. No amendment to or modification or waiver of any of the provisions of this agreement otherwise permitted hereunder shall be effective unless made in writing and signed by both of the parties hereto. 3.8 ENUREMENT. This agreement shall be binding upon and enure to the benefit of the parties hereto and their respective successors and assigns. 7 8 3.9 NOTICES TO PARTIES. All notices and other communications between the parties shall be in writing and shall be deemed to have been given if delivered personally or by confirmed telecopy to the parties at the following addresses (or at such other address for either such party as shall be specified in like notice): (a) if to Source at: Source Media, Inc. 8140 Walnut Hill Lane Suite 1000 Dallas, Texas 75231 U.S.A. Attention: Chairman and CEO Telecopier: (214) 890-9132 (b) if to Cableshare at: Cableshare Inc. 150 Dufferin Avenue Suite 906 London, Ontario Canada N6A 5N6 Attention: President Telecopier: (519) 663-0339 Any notice or other communication given personally shall be deemed to have been given and received upon delivery thereof and if given by telecopy shall be deemed to have been given and received on the date of confirmed receipt thereof unless such day is not a Business Day in which case it shall be deemed to have been given and received upon the immediately following Business Day. 3.10 COUNTERPARTS. This agreement may be executed in counterparts, each of which shall be deemed an original, and all of which taken together shall constitute one and the same instrument. 3.11 JURISDICTION. This agreement shall be construed and enforced in accordance with the laws of the Province of Ontario and the laws of Canada applicable therein. 3.12 ATTORNMENT. Source agrees that any action or proceeding arising out of or relating to this agreement may be instituted in the courts of Ontario, waives any objection which it may have now or hereafter to the venue of any such action or proceeding, irrevocably submits to the jurisdiction of the said courts in any such action or proceeding, agrees to be bound by any judgment of the said courts and not to seek, and hereby waives, any review of the merits of any such judgment by the courts of any other jurisdiction and hereby appoints Cableshare at its registered office in the Province of Ontario as Source's attorney for service of process. 8 9 IN WITNESS WHEREOF, the parties hereto have caused this agreement to be duly executed as of the date first above written. SOURCE MEDIA, INC. by --------------------------------- ----------------------------------- CABLESHARE INC. by --------------------------------- ----------------------------------- 9 EX-10.21 6 FORM OF VOTING AND EXCHANGE TRUST AGREEMENT 1 EXHIBIT 10.21 VOTING AND EXCHANGE TRUST AGREEMENT MEMORANDUM OF AGREEMENT made as of the -- day of November, 1996. B E T W E E N: SOURCE MEDIA, INC., a corporation subsisting under the laws of the State of Delaware, (hereinafter referred to as "Source"), OF THE FIRST PART, - and - CABLESHARE INC., a corporation subsisting under the laws of the Province of Ontario, (hereinafter referred to as "Cableshare"), OF THE SECOND PART, - and - -- TRUST COMPANY, a trust company incorporated under the laws of --, (hereinafter referred to as the "Trustee"), OF THE THIRD PART. WHEREAS pursuant to an arrangement agreement (the "Arrangement Agreement") dated as of November 13, 1996 between Source and Cableshare, the parties agreed that Source and Cableshare would execute and deliver a voting and exchange trust agreement forthwith following the filing of articles of arrangement to give effect to the arrangement referred to therein, such voting and exchange trust agreement to contain the terms and conditions set forth in Exhibit 6 to the Arrangement Agreement together with such other terms and conditions as may be customary for agreements of a similar nature and as may be agreed to by the parties to the Arrangement Agreement, acting reasonably; AND WHEREAS pursuant to an arrangement (the "Arrangement") effected by articles of arrangement dated -- , 1996 filed pursuant to the Business Corporations Act (Ontario), each shareholder of Cableshare who properly elected to do so received Exchangeable Non-Voting Shares in the capital of Cableshare ("Exchangeable Shares") for the issued and outstanding Class A Subordinate Voting Shares in the capital of Cableshare ("Class A Shares") and the issued and outstanding Class B Multiple Voting Shares in the capital of Cableshare ("Class B Shares") held by such shareholder, in a ratio determined pursuant to the Arrangement Agreement; AND WHEREAS pursuant to the Arrangement, each other shareholder of Cableshare (other than those who properly exercised dissent rights and will become entitled to be paid the fair value of the Cableshare shares held by them and other than IT Network, Inc. and 997758 Ontario Inc. (the "Source Affiliates")), received issued and outstanding shares of the Common Stock of Source ("Source Common Shares"), in a 1 2 ratio determined pursuant to the Arrangement Agreement in exchange for the issued and outstanding Class A Shares and Class B Shares held by such shareholder; AND WHEREAS pursuant to the Arrangement and immediately following the above-mentioned exchanges and conversions of shares, each issued and outstanding Class A Share and Class B Share was converted into one common share in the capital of Cableshare (a "Cableshare New Common Share"); AND WHEREAS pursuant to the Arrangement and the exchanges and conversions of shares referred to above, Source holds all of the issued and outstanding shares of Cableshare other than the issued and outstanding Exchangeable Shares; AND WHEREAS the above-mentioned articles of arrangement set forth the rights, privileges, restrictions and conditions (collectively the "Share Provisions") attaching to the Exchangeable Shares; AND WHEREAS Source is to provide voting rights in Source to each holder (other than Source, its subsidiaries and Affiliates) from time to time of Exchangeable Shares, such voting rights per Exchangeable Share to be equivalent to the voting rights per Source Common Share; AND WHEREAS Source is to grant to and in favour of the holders (other than Source, its subsidiaries and Affiliates) from time to time of Exchangeable Shares the right, in the circumstances set forth herein, to require Source to purchase from each such holder all but not less than all the Exchangeable Shares held by the holder; AND WHEREAS the parties hereto desire to make appropriate provisions and to establish a procedure whereby votes at Source Meetings shall be exercisable by holders (other than Source, its subsidiaries and Affiliates) from time to time of Exchangeable Shares by and through the Trustee, which will hold legal title to the Source Special Voting Share to which voting rights attach for the benefit of such holders, and whereby the right to require Source to purchase Exchangeable Shares from the holders thereof (other than Source, its subsidiaries and Affiliates) shall be exercisable by such holders from time to time of Exchangeable Shares by and through the Trustee, which will hold legal title to such right for the benefit of such holders; AND WHEREAS these recitals and any statements of fact in this trust agreement are made by Source and Cableshare and not by the Trustee; NOW THEREFORE in consideration of the respective covenants and agreements provided in this agreement and for other good and valuable consideration (the receipt and sufficiency of which are hereby acknowledged), the parties agree as follows: ARTICLE 1 DEFINITIONS AND INTERPRETATION 1.1 DEFINITIONS. In this trust agreement, the following terms shall have the following meanings: "AFFILIATE" of any person means any other person directly or indirectly controlled by, or under control of, that person. For the purposes of this definition, "control" (including, with correlative meanings, the terms "controlled by" and "under common control of"), as applied to any person, means the possession by another person, directly or indirectly, of the power to direct or cause the direction of the management and policies of that first mentioned person, whether through the ownership of voting securities, by contract or otherwise. "AUTOMATIC EXCHANGE RIGHTS" means the benefit of the obligation of Source to effect the automatic exchange of Source Common Shares for Exchangeable Shares pursuant to section 5.12. "BENEFICIARIES" means the registered holders from time to time of Exchangeable Shares, other than Source, its subsidiaries and Affiliates. "BENEFICIARY VOTES" has the meaning ascribed thereto in section 4.2. "BOARD OF DIRECTORS" means the Board of Directors of Cableshare. 2 3 "BUSINESS DAY" means a day other than a Saturday, a Sunday or a statutory holiday in the City of Toronto, Ontario or the City of Dallas, Texas. "CANADIAN DOLLAR EQUIVALENT" means in respect of an amount expressed in a foreign currency (the "Foreign Currency Amount") at any date the product obtained by multiplying (a) the Foreign Currency Amount by (b) the noon spot exchange rate on such date for such foreign currency expressed in Canadian dollars as reported by the Bank of Canada or, in the event such spot exchange rate is not available, such exchange rate on such date for such foreign currency expressed in Canadian dollars as may be deemed by the Board of Directors to be appropriate for such purpose. "CURRENT MARKET PRICE" means, in respect of a Source Common Share on any date, the Canadian Dollar Equivalent of the average of the closing bid and asked prices of Source Common Shares during a period of 20 consecutive trading days ending not more than five trading days before date on the National Market System of the National Association of Securities Dealers Automated Quotation System, or, if Source Common Shares are not then quoted on the National Market System of the National Association of Securities Dealers Automated Quotation System, on such other stock exchange or automated quotation system on which Source Common Shares are listed or quoted, as the case may be, as may be selected by the Board of Directors for such purpose; provided, however, that if in the opinion of the Board of Directors the public distribution or trading activity of Source Common Shares during such period does not create a market which reflects the fair market value of a Source Common Share, then the Current Market Price of a Source Common Share shall be determined by the Board of Directors based upon the advice of such qualified independent financial advisors as the Board of Directors of Source may deem to be appropriate, and provided further that any such selection, opinion or determination by the Board of Directors shall be conclusive and binding. "EXCHANGE RIGHT" has the meaning ascribed thereto in section 5.1. "INSOLVENCY EVENT" means the institution by Cableshare of any proceeding to be adjudicated a bankrupt or insolvent or to be wound up, or the consent of Cableshare to the institution of bankruptcy, insolvency or winding-up proceedings against it, or the filing of a petition, answer or consent seeking dissolution or winding-up under any bankruptcy, insolvency or analogous laws, including without limitation the Companies Creditors' Arrangement Act (Canada) and the Bankruptcy and Insolvency Act (Canada), and the failure by Cableshare to contest in good faith any such proceedings commenced in respect of Cableshare within 15 days of becoming aware thereof, or the consent by Cableshare to the filing of any such petition or to the appointment of a receiver, or the making by Cableshare of a general assignment for the benefit of creditors, or the admission in writing by Cableshare of its inability to pay its debts generally as they become due, or Cableshare not being permitted, pursuant to solvency requirements of applicable law, to redeem any Retracted Shares pursuant to Section 6.6 of the Share Provisions. "LIQUIDATION CALL RIGHT" has the meaning ascribed thereto in the Plan of Arrangement. "LIQUIDATION EVENT" has the meaning ascribed thereto in section 5.12(b). "LIQUIDATION EVENT EFFECTIVE DATE" has the meaning ascribed thereto in section 5.12(c). "LIST" has the meaning ascribed thereto in section 4.6. "OFFICER'S CERTIFICATE" means, with respect to Source or Cableshare, as the case may be, a certificate signed by any one of the Chairman of the Board, the Vice-Chairman of the Board, the President, any Vice-President or any other senior officer of Source or Cableshare, as the case may be. "PERSON" includes an individual, partnership, corporation, company, unincorporated syndicate or organization, trust, trustee, executor, administrator and other legal representative. "PLAN OF ARRANGEMENT" means the plan of arrangement of Cableshare providing for the Arrangement. "REDEMPTION CALL RIGHT" has the meaning ascribed thereto in the Share Provisions. 3 4 "RETRACTED SHARES" has the meaning ascribed thereto in section 5.7. "RETRACTION CALL RIGHT" has the meaning ascribed thereto in the Share Provisions. "SOURCE AFFILIATES" means Affiliates of Source. "SOURCE COMMON SHARE" means one share of Source Common Stock, U.S.$0.001 par value. "SOURCE CONSENT" has the meaning ascribed thereto in section 4.2. "SOURCE MEETING" has the meaning ascribed thereto in section 4.2. "SOURCE SPECIAL VOTING SHARE" means the one share of Special Voting Stock of Source, which entitles the holder of record to a number of votes at meetings of holders of Source Common Shares equal to the number of Exchangeable Shares outstanding from time to time (other than Exchangeable Shares held by Source and its Affiliates), which share is to be issued to, deposited with, and voted by, the Trustee as described herein. "SOURCE SUCCESSOR" has the meaning ascribed thereto in section 11.1(a). "SUPPORT AGREEMENT" means that certain support agreement made as of even date hereto between Cableshare and Source. "TRUST" means the trust created by this agreement. "TRUST ESTATE" means the Source Special Voting Share, any other securities, the Exchange Right, the Automatic Exchange Rights and any money or other property which may be held by the Trustee from time to time pursuant to this trust agreement. "TRUSTEE" means -- Trust Company and, subject to the provisions of Article 10, includes any successor trustee. "VOTING RIGHTS" means the voting rights attached to the Source Special Voting Share. 1.2 INTERPRETATION NOT AFFECTED BY HEADINGS, ETC. The division of this trust agreement into articles, sections and paragraphs and the insertion of headings are for convenience of reference only and shall not affect the construction or interpretation of this trust agreement. 1.3 NUMBER, GENDER, ETC. Words importing the singular number only shall include the plural and vice versa. Words importing the use of any gender shall include all genders. 1.4 DATE FOR ANY ACTION. If any date on which any action is required to be taken under this trust agreement is not a Business Day, such action shall be required to be taken on the next succeeding Business Day. ARTICLE 2 PURPOSE OF AGREEMENT 2.1 ESTABLISHMENT OF TRUST. The purpose of this trust agreement is to create the Trust for the benefit of the Beneficiaries, as herein provided. The Trustee will hold the Source Special Voting Share in order to enable the Trustee to exercise the Voting Rights and will hold the Exchange Right and the Automatic Exchange Rights in order to enable the Trustee to exercise such rights, in each case as trustee for and on behalf of the Beneficiaries as provided in this trust agreement. 4 5 ARTICLE 3 SOURCE SPECIAL VOTING SHARE 3.1 ISSUE AND OWNERSHIP OF THE SOURCE SPECIAL VOTING SHARE. Source hereby issues to and deposits with the Trustee the Source Special Voting Share to be hereafter held of record by the Trustee as trustee for and on behalf of, and for the use and benefit of, the Beneficiaries and in accordance with the provisions of this trust agreement. Source hereby acknowledges receipt from the Trustee as trustee for and on behalf of the Beneficiaries of good and valuable consideration (and the adequacy thereof) for the issuance of the Source Special Voting Share by Source to the Trustee. During the term of the Trust and subject to the terms and conditions of this trust agreement, the Trustee shall possess and be vested with full legal ownership of the Source Special Voting Share and shall be entitled to exercise all of the rights and powers of an owner with respect to the Source Special Voting Share provided that the Trustee shall: (a) hold the Source Special Voting Share and the legal title thereto as trustee solely for the use and benefit of the Beneficiaries in accordance with the provisions of this trust agreement; and (b) except as specifically authorized by this trust agreement, have no power or authority to sell, transfer, vote or otherwise deal in or with the Source Special Voting Share and the Source Special Voting Share shall not be used or disposed of by the Trustee for any purpose other than the purposes for which this Trust is created pursuant to this trust agreement. 3.2 LEGENDED SHARE CERTIFICATES. Cableshare will cause each certificate representing Exchangeable Shares to bear an appropriate legend notifying the Beneficiaries of their right to instruct the Trustee with respect to the exercise of the Voting Rights with respect to the Exchangeable Shares held by the Beneficiary. 3.3 SAFE KEEPING OF CERTIFICATE. The certificate representing the Source Special Voting Share shall at all times be held in safe keeping by the Trustee. ARTICLE 4 EXERCISE OF VOTING RIGHTS 4.1 VOTING RIGHTS. The Trustee, as the holder of record of the Source Special Voting Share, shall be entitled to all of the Voting Rights, including the right to consent to or to vote in person or by proxy the Source Special Voting Share on any matter, question or proposition whatsoever that may properly come before the shareholders of Source at a Source Meeting or in connection with a Source Consent (in each case, as hereinafter defined). The Voting Rights shall be and remain vested in and exercised by the Trustee. Subject to section 7.15 hereof, the Trustee shall exercise the Voting Rights only: (a) on the basis of instructions received pursuant to this Article 4 from Beneficiaries entitled to instruct the Trustee as to the voting thereof at the time at which Source Consent is effective or Source Meeting is held; or (b) to the extent that no instructions are received from a Beneficiary with respect to the Voting Rights to which such Beneficiary is entitled, the Trustee shall not exercise or permit the exercise of such Voting Rights. 4.2 NUMBER OF VOTES. With respect to all meetings of shareholders of Source at which holders of Source Common Shares are entitled to vote (a "Source Meeting") and with respect to all written consents sought by Source from its shareholders including the holders of Source Common Shares (a "Source Consent"), each Beneficiary shall be entitled to instruct the Trustee to cast and exercise one of the votes comprised in the Voting Rights for each Exchangeable Share owned of record by such Beneficiary on the record date established by Source or by applicable law for such Source Meeting or Source Consent, as the case may be (the "Beneficiary Votes") in respect of each matter, question or proposition to be voted on at such Source Meeting or to be consented to in connection with such Source Consent. 5 6 4.3 MAILINGS TO SHAREHOLDERS. With respect to each Source Meeting and Source Consent, the Trustee will mail or cause to be mailed (or otherwise communicate in the same manner as Source utilizes in communications to holders of Source Common Shares) to each of the Beneficiaries named in the List referred to in section 4.6 on the same day as the initial mailing or notice (or other communication) with respect thereto is given by Source to its shareholders: (a) a copy of such notice, together with any related materials to be provided to shareholders of Source; (b) a statement that such Beneficiary is entitled to instruct the Trustee as to the exercise of the Beneficiary Votes with respect to such Source Meeting or Source Consent, as the case may be, or, pursuant to section 4.7, to attend such Source Meeting and to exercise personally the Beneficiary Votes thereat; (c) a statement as to the manner in which such instructions may be given to the Trustee, including an express indication that instructions may be given to the Trustee to give: (i) a proxy to such Beneficiary or his designee to exercise personally the Beneficiary Votes; or (ii) a proxy to a designated agent or other representative of the management of Source to exercise such Beneficiary Votes; (d) a statement that if no such instructions are received from the Beneficiary, the Beneficiary Votes to which such Beneficiary is entitled will not be exercised; (e) a form of direction whereby the Beneficiary may so direct and instruct the Trustee as contemplated herein; and (f) a statement of the time and date by which such instructions must be received by the Trustee in order to be binding upon it, which in the case of a Source Meeting shall not be earlier than the close of business on the second Business Day prior to such meeting, and of the method for revoking or amending such instructions. For the purpose of determining Beneficiary Votes to which a Beneficiary is entitled in respect of any such Source Meeting or Source Consent, the number of Exchangeable Shares owned of record by the Beneficiary shall be determined at the close of business on the record date established by Source or by applicable law for purposes of determining shareholders entitled to vote at such Source Meeting or to give written consent in connection with such Source Consent. Source will notify the Trustee of any decision of the Board of Directors of Source with respect to the calling of any such Source Meeting or the seeking of any such Source Consent and shall provide all necessary information and materials to the Trustee in each case promptly and in any event in sufficient time to enable the Trustee to perform its obligations contemplated by this section 4.3. 4.4 COPIES OF SHAREHOLDER INFORMATION. Source will deliver to the Trustee copies of all proxy materials (including notices of Source Meetings but excluding proxies to vote Source Common Shares), information statements, reports (including without limitation, all interim and annual financial statements) and other written communications that are to be distributed from time to time to holders of Source Common Shares in sufficient quantities and in sufficient time so as to enable the Trustee to send those materials to each Beneficiary at the same time as such materials are first sent to holders of Source Common Shares. The Trustee will mail or otherwise send to each Beneficiary, at the expense of Source, copies of all such materials (and all materials specifically directed to the Beneficiaries or to the Trustee for the benefit of the Beneficiaries by Source) received by the Trustee from Source at the same time as such materials are first sent to holders of Source Common Shares. The Trustee will also make available for inspection by any Beneficiary at the Trustee's principal corporate trust office in the City of Toronto all proxy materials, information statements, reports and other written communications that are: (a) received by the Trustee as the registered holder of the Source Special Voting Share and made available by Source to the holders of Source Common Shares; or 6 7 (b) specifically directed to the Beneficiaries or to the Trustee for the benefit of the Beneficiaries by Source. 4.5 OTHER MATERIALS. Immediately after receipt by Source or any shareholder of Source of any material sent or given to the holder of Source Common Shares by or on behalf of a third party, including without limitation, dissident proxy and information circulars (and related information and material) and tender and exchange offer circulars (and related information and material), Source shall use its best efforts to obtain and deliver to the Trustee copies thereof in sufficient quantities so as to enable the Trustee to forward such material (unless the same has been provided directly to Beneficiaries by such third party) to each Beneficiary as soon as possible thereafter. Immediately upon receipt thereof, the Trustee will mail or otherwise send to each Beneficiary, at the expense of Source, copies of all such materials received by the Trustee from Source. The Trustee will also make available for inspection by any Beneficiary at the Trustee's principal corporate trust office in the City of Toronto copies of all such materials. 4.6 LIST OF PERSONS ENTITLED TO VOTE. Cableshare shall, (a) prior to each annual, general and special Source Meeting or the seeking of any Source Consent and (b) forthwith upon each request made at any time by the Trustee in writing, prepare or cause to be prepared a list (a "List") of the names and addresses of the Beneficiaries arranged in alphabetical order and showing the number of Exchangeable Shares held of record by each such Beneficiary, in each case at the close of business on the date specified by the Trustee in such request or, in the case of a List prepared in connection with a Source Meeting or a Source Consent, at the close of business on the date specified by the Trustee in such request or, in the case of a List prepared in connection with a Source Meeting or a Source Consent, at the close of business on the record date established by Source or pursuant to applicable law for determining the holders of Source Common Shares entitled to receive notice of and/or to vote at such Source Meeting or to give consent in connection with such Source Consent. Each such List shall be delivered to the Trustee promptly after receipt by Cableshare of such request or the record date for such meeting or seeking of consent, as the case may be. Source agrees to give Cableshare notice (with a copy to the Trustee) of the calling of any Source Meeting or the seeking of any Source Consent, together with the record dates therefor, sufficiently prior to the date of the calling of such meeting or seeking of such consent so as to enable Cableshare to perform its obligations under this section 4.6. 4.7 ENTITLEMENT TO DIRECT VOTES. Any Beneficiary named in a List prepared in connection with any Source Meeting or any Source Consent will be entitled (a) to instruct the Trustee in the manner described in section 4.3 with respect to the exercise of the Beneficiary Votes to which such Beneficiary is entitled or (b) to attend such meeting and personally to exercise thereat (or to exercise with respect to any written consent), as the proxy of the Trustee, the Beneficiary Votes to which such Beneficiary is entitled except, in each case, to the extent that such Beneficiary has transferred the ownership of any Exchangeable Shares in respect of which such Beneficiary is entitled to Beneficiary Votes after the close of business on the record date for such meeting or seeking of consent. 4.8 VOTING BY TRUSTEE, AND ATTENDANCE OF TRUSTEE REPRESENTATIVE AT MEETING. (a) In connection with each Source Meeting and Source Consent, the Trustee shall exercise, either in person or by proxy, in accordance with the instructions received from a Beneficiary pursuant to section 4.3, the Beneficiary Votes as to which such Beneficiary is entitled to direct the vote (or any lesser number thereof as may be set forth in the instructions); provided, however, that such written instructions are received by the Trustee from the Beneficiary prior to the time and date fixed by it for receipt of such instructions in the notice given by the Trustee to the Beneficiary pursuant to section 4.3. (b) The Trustee shall cause a representative who is empowered by it to sign and deliver, on behalf of the Trustee, proxies for Voting Rights to attend each Source Meeting. upon submission by a Beneficiary (or its designee) of identification satisfactory to the Trustee's representative, and at the Beneficiary's request, such representative shall sign and deliver to such Beneficiary (or its designee) a proxy to exercise personally the Beneficiary Votes as to which such Beneficiary is otherwise entitled hereunder to direct the vote, if such Beneficiary either (i) has not previously given the Trustee instructions pursuant to section 4.3 in respect of such meeting, or (ii) submits 7 8 to such representative written revocation of any such previous instructions. At such meeting, the Beneficiary exercising such Beneficiary Votes shall have the same rights as the Trustee to speak at the meeting in favour of any matter, question or proposition, to vote by way of ballot at the meeting in respect of any matter, question or proposition, to vote by way of ballot at the meeting in respect of any matter, question or proposition and to vote at such meeting by way of a show of hands in respect of any matter, question or proposition. 4.9 DISTRIBUTION OF WRITTEN MATERIALS. Any written materials distributed by the Trustee pursuant to this trust agreement shall be delivered in person or sent by mail (or otherwise communicated in the same manner as Source utilizes in communications to holders of Source Common Shares) to each Beneficiary at its address as shown on the books of Cableshare. Cableshare shall provide or cause to be provided to the Trustee for this purpose, on a timely basis and without charge or other expense: (a) current lists of the registered holders of Exchangeable Shares; and (b) upon the request of the Trustee, mailing labels to enable the Trustee to carry out its duties under this trust agreement. 4.10 TERMINATION OF VOTING RIGHTS. All of the rights of a Beneficiary with respect to the Beneficiary Votes exercisable in respect of the Exchangeable Shares held by such Beneficiary, including the right to instruct the Trustee as to the voting of or to vote personally such Beneficiary Votes, shall be deemed to be surrendered by the Beneficiary to Source and such Beneficiary Votes and the Voting Rights represented thereby shall cease immediately upon the delivery by such holder to the Trustee of the certificates representing such Exchangeable Shares in connection with the exercise by the Beneficiary of the Exchange Right or the occurrence of the automatic exchange of Exchangeable Shares for Source Common Shares, as specified in Article 5 hereof (unless in either case Source shall not have delivered the requisite Source Common Shares issuable in exchange therefor to the Trustee for delivery to the Beneficiaries), or upon the redemption of Exchangeable Shares pursuant to Article 6 or 7 of the Share Provisions, or upon the effective date of the liquidation, dissolution or winding-up of Cableshare pursuant to Article 5 of the Share Provisions, or upon the purchase of Exchangeable Shares from the holder thereof by Source pursuant to the exercise by Source of the Retraction Call Right, the Redemption Call Right or the Liquidation Call Right. ARTICLE 5 EXCHANGE RIGHT AND AUTOMATIC EXCHANGE 5.1 GRANT AND OWNERSHIP OF THE EXCHANGE RIGHT. Source hereby grants to the Trustee as trustee for and on behalf of, and for the use and benefit of, the Beneficiaries the right (the "Exchange Right"), upon the occurrence and during the continuance of an Insolvency Event, to require Source to purchase from each or any Beneficiary all or any part of the Exchangeable Shares held by the Beneficiary and the Automatic Exchange Rights, all in accordance with the provisions of this agreement. Source hereby acknowledges receipt from Trustee as trustee for and on behalf of the Beneficiaries of good and valuable consideration (and the adequacy thereof) for the grant of the Exchange Right and the Automatic Exchange Rights by Source to the Trustee. During the term of the Trust and subject to the terms and conditions of this trust agreement, the Trustee shall possess and be vested with full legal ownership of the Exchange Right and the Automatic Exchange Rights and shall be entitled to exercise all of the rights and powers of an owner with respect to the Exchange Right and the Automatic Exchange Rights, provided that the Trustee shall: (a) hold the Exchange Right and the Automatic Exchange Rights and the legal title thereto as trustee solely for the use and benefit of the Beneficiaries in accordance with the provisions of this trust agreement; and (b) except as specifically authorized by this trust agreement, have no power or authority to exercise or otherwise deal in or with the Exchange Right or the Automatic Exchange Rights, and the Trustee shall not exercise any such rights for any purpose other than the purposes for which this Trust is created pursuant to this trust agreement. 8 9 5.2 LEGENDED SHARE CERTIFICATES. Cableshare will cause each certificate representing Exchangeable Shares to bear an appropriate legend notifying the Beneficiaries of: (a) their right to instruct the Trustee with respect to the exercise of the Exchange Right in respect of the Exchangeable Shares held by a Beneficiary; and (b) the Automatic Exchange Rights. 5.3 GENERAL EXERCISE OF EXCHANGE RIGHT. The Exchange Right shall be and remain vested in and exercised by the Trustee. Subject to section 7.15, the Trustee shall exercise the Exchange Right only on the basis of instructions received pursuant to this Article 5 from Beneficiaries entitled to instruct the Trustee as to the exercise thereof. To the extent that no instructions are received from a Beneficiary with respect to the Exchange Right, the Trustee shall not exercise or permit the exercise of the Exchange Right. 5.4 PURCHASE PRICE. The purchase price payable by Source for each Exchangeable Share to be purchased by Source under the Exchange Right shall be an amount per share equal to (a) the Current Market Price of a Source Common Share on the last Business Day prior to the day of closing of the purchase and sale of such Exchangeable Share under the Exchange Right plus (b) an additional amount equivalent to the full amount of all dividends declared and unpaid on each such Exchangeable Share (provided that if the record date for any such declared and unpaid dividends occurs on or after the day of closing of such purchase and sale the purchase price shall not include such additional amount equivalent to the declared and unpaid dividends). The purchase price for each such Exchangeable Share so purchased may be satisfied only by Source issuing and delivering or causing to be delivered to the Trustee, on behalf of the relevant Beneficiary, one Source Common Share and a cheque for the balance, if any, of the purchase price without interest (but less any amounts withheld pursuant to section 5.13 hereof). 5.5 EXERCISE INSTRUCTIONS. Subject to the terms and conditions herein set forth, a Beneficiary shall be entitled, upon the occurrence and during the continuance of an Insolvency Event, to instruct the Trustee to exercise the Exchange Right with respect to all or any part of the Exchangeable Shares registered in the name of such Beneficiary on the books of Cableshare. To cause the exercise of the Exchange Right by the Trustee, the Beneficiary shall deliver to the Trustee, in person or by certified or registered mail, at its principal corporate trust office in Toronto, Ontario or at such other places in Canada as the Trustee may from time to time designate by written notice to the Beneficiaries, the certificates representing the Exchangeable Shares which such Beneficiary desires Source to purchase, duly endorsed in blank, and accompanied by such other documents and instruments as may be required to effect a transfer of Exchangeable Shares under the Business Corporations Act (Ontario) and the by-laws of Cableshare and such additional documents and instruments as the Trustee may reasonably require together with (a) a duly completed form of notice of exercise of the Exchange Right, contained on the reverse of or attached to the Exchangeable Share certificates, stating (i) that the Beneficiary thereby instructs the Trustee to exercise the Exchange Right so as to require Source to purchase from the Beneficiary the number of Exchangeable Shares specified therein, (ii) that such Beneficiary has good title to and owns all such Exchangeable Shares to be acquired by Source free and clear of all liens, claims and encumbrances, (iii) the names in which the certificates representing Source Common Shares issuable in connection with the exercise of the Exchange Right are to be issued and (iv) the names and addresses of the persons to whom such new certificates should be delivered and (b) payment (or evidence satisfactory to the Trustee, Cableshare and Source of payment) of the taxes (if any) payable as contemplated by section 5.8 of this trust agreement. If only a part of the Exchangeable Shares represented by any certificate or certificates delivered to the Trustee are to be purchased by Source under the Exchange Right, a new certificate for the balance of such Exchangeable Shares shall be issued to the holder at the expense of Cableshare. 5.6 DELIVERY OF SOURCE COMMON SHARES: EFFECT OF EXERCISE. Promptly after receipt of the certificates representing the Exchangeable Shares which the Beneficiary desires Source to purchase under the Exchange Right together with such documents and instruments of transfer and a duly completed form of notice of exercise of the Exchange Right (and payment of taxes, if any, or evidence thereof), duly endorsed for the transfer to Source, the Trustee shall notify Source and Cableshare of its receipt of the same, which notice to Source and Cableshare shall constitute exercise of the Exchange Right by the Trustee on behalf of the holder 9 10 of such Exchangeable Shares, and Source shall immediately thereafter deliver or cause to be delivered to the Trustee, for delivery to the Beneficiary of such Exchangeable Shares (or to such other persons, if any, properly designated by such Beneficiary) the number of Source Common Shares issuable in connection with the exercise of the Exchange Right, and cheques for the balance, if any, of the total purchase price therefor without interest (but less any amounts withheld pursuant to section 5.13 hereof); provided, however, that no such delivery shall be made unless and until the Beneficiary requesting the same shall have paid (or provided evidence satisfactory to the Trustee, Cableshare and Source of the payment of) the taxes (if any) payable as contemplated by section 5.8 of this trust agreement. Immediately upon the giving of notice by the Trustee to Source and Cableshare of the exercise of the Exchange Right, as provided in this section 5.6, the closing of the transaction of purchase and sale contemplated by the Exchange Right shall be deemed to have transferred to Source all of its right, title and interest in and to such Exchangeable Shares and in the related interest in the Trust Estate and shall cease to be a holder of such Exchangeable Shares and shall not be entitled to exercise any of the rights of a holder in respect thereof, other than the right to receive his proportionate part of the total purchase price therefor, unless the requisite number of Source Common Shares (together with a cheque for the balance, if any, of the total purchase price therefor without interest (but less any amount withheld pursuant to section 5.13 hereof) is not allotted, issued and delivered by Source to the Trustee, for delivery to such Beneficiary (or to such other persons, if any, properly designated by such Beneficiary), within five Business Days of the date of the giving of such notice by the Trustee, in which case the rights of the Beneficiary shall remain unaffected until such Source Common Shares are so allotted, issued and delivered by Source and any such cheque is so delivered and paid. Concurrently with such Beneficiary ceasing to be a holder of Exchangeable Shares, the Beneficiary shall be considered and deemed for all purposes to be the holder of Source Common Shares delivered to it pursuant to the Exchange Right. 5.7 EXERCISE OF EXCHANGE RIGHT SUBSEQUENT TO RETRACTION. In the event that a Beneficiary has exercised its right under Article 6 of the Share Provisions to require Cableshare to redeem any or all of the Exchangeable Shares held by the Beneficiary (the "Retracted Shares") and is notified by Cableshare pursuant to Section 6.6 of the Share Provisions that Cableshare will not be permitted as a result of solvency requirements of applicable law to redeem all such Retracted Shares, and provided that Source shall not have exercised the Retraction Call Right with respect to the Retracted Shares and that the Beneficiary has not revoked the retraction request delivered by the Beneficiary to Cableshare pursuant to Section 6.1 of the Share Provision, the retraction request will constitute and will be deemed to constitute notice from the Beneficiary to the Trustee instructing the Trustee to exercise the Exchange Right with respect to those Retracted Shares which Cableshare is unable to redeem. In any such event, Cableshare hereby agrees with the Trustee and in favour of the Beneficiary immediately to notify the Trustee of such prohibition against Cableshare redeeming all of the Retracted Shares and immediately to forward or cause to be forwarded to the Trustee all relevant materials delivered by the Beneficiary to Cableshare or to the transfer agent of the Exchangeable Shares (including without limitation, a copy of the retraction request delivered pursuant to Section 6.1 of the Share Provisions) in connection with such proposed redemption of the Retracted Shares and the Trustee will thereupon exercise the Exchange Right with respect to the Retracted Shares that Cableshare is not permitted to redeem and will require Source to purchase such shares in accordance with the provisions of this Article 5. 5.8 STAMP OR OTHER TRANSFER TAXES. Upon any sale of Exchangeable Shares to Source pursuant to the Exchange Right or the Automatic Exchange Rights, the share certificate or certificates representing Source Common Shares to be delivered in connection with the payment of the total purchase price therefor shall be issued in the name of the Beneficiary of the Exchangeable Shares so sold or in such names as such Beneficiary may otherwise direct in writing without charge to the holder of the Exchangeable Shares so sold; provided, however, that such Beneficiary (a) shall pay (and neither Source, Cableshare nor the Trustee shall be required to pay) any documentary, stamp, transfer or other taxes that may be payable in respect of any transfer involved in the issuance or delivery of such shares to a person other than such Beneficiary or (b) shall have evidenced to the satisfaction of the Trustee, Source and Cableshare that such taxes, if any, have been paid. 5.9 NOTICE OF INSOLVENCY EVENT. Immediately upon the occurrence of an Insolvency Event or any event which with the giving of notice or the passage of time or both would be an Insolvency Event, Cableshare and 10 11 Source shall give written notice thereof to the Trustee. Immediately upon receiving notice from Cableshare and Source of the occurrence of an Insolvency Event, or upon the Trustee becoming aware of an Insolvency Event, the Trustee will mail promptly to each Beneficiary, at the expense of Source, a notice of such Insolvency Event, which notice shall contain a brief statement of the right of the Beneficiaries with respect to the Exchange Right. 5.10 QUALIFICATION OF SOURCE COMMON SHARES. Source covenants that if any Source Common Shares to be issued and delivered pursuant to the Exchange Right or the Automatic Exchange Rights require registration or qualification with or approval of or the filing of any document, including any prospectus or similar document or the taking of any proceeding with or the obtaining of any order, ruling or consent from any governmental or regulatory authority under any Canadian or United States federal, provincial or state law or regulation or pursuant to the rules and regulations of any regulatory authority or the fulfilment of any other legal requirement before such shares may be issued and delivered by Source to the initial holder thereof or in order that such shares may be freely traded thereafter (other than any restrictions on transfer by reason of a holder being a "control person" of Source for purposes of Canadian federal or provincial securities law or an "affiliate" of Source for purposes of United States federal or state securities law), Source will in good faith expeditiously take all such actions and do all such things as are necessary or desirable to cause such Source Common Shares to be and remain duly registered, qualified or approved. Source will in good faith expeditiously take all such actions and do all such things as are necessary or desirable to cause all Source Common Shares to be delivered pursuant to the Exchange Right or the Automatic Exchange Rights to be listed, quoted or posted for trading on all stock exchanges and quotation systems on which outstanding Source Common Shares are listed, quoted or posted for trading at such time. 5.11 SOURCE COMMON SHARES. Source hereby represents, warrants and covenants that the Source Common Shares issuable as described herein will be duly issued as fully paid and non-assessable and shall be free and clear of any lien, claim or encumbrance. 5.12 AUTOMATIC EXCHANGE ON LIQUIDATION OF SOURCE. (a) Source will give the Trustee notice of each of the following events at the time set forth below: (i) in the event of any determination by the Board of Directors of Source to institute voluntary liquidation, dissolution or winding-up proceedings with respect to Source or to effect any other distribution of assets of Source among its shareholders for the purpose of winding up its affairs, at least 60 days prior to the proposed effective date of such liquidation, dissolution, winding-up or other distribution; and (ii) immediately, upon the earlier of (A) receipt by Source of notice of and (B) Source otherwise becoming aware of any threatened or instituted claim, suit, petition or other proceedings with respect to the involuntary liquidation, dissolution or winding- up of Source or to effect any other distribution or winding-up of Source or to effect any other distribution of assets of Source among its shareholders for the purpose of winding up its affairs. (b) Immediately following receipt by the Trustee from Source of notice of any event (a "Liquidation Event") contemplated by section 5.12(a)(i) or 5.12(a)(ii) above, the Trustee will give notice thereof to the Beneficiaries. Such notice shall include a brief description of the automatic exchange of Exchangeable Shares for Source Common Shares provided for in section 5.12(c). (c) In order that the Beneficiaries will be able to participate on a pro rata basis with the holders of Source Common Shares in the distribution of assets of Source in connection with a Liquidation Event, on the fifth Business Day prior to the effective date (the "Liquidation Event Effective Date") of a Liquidation Event all of the then outstanding Exchangeable Shares shall be automatically exchanged for Source Common Shares. To effect such automatic exchange, Source shall purchase each Exchangeable Share outstanding on the Liquidation Event Effective Date and held by Beneficiaries, and each Beneficiary shall sell the Exchangeable Shares held by 11 12 it at such time, for a purchase price per share equal to (a) the Current Market Price of a Source Common Share on the last Business Day prior to the Liquidation Event Effective Date, which shall be satisfied in full by Source issuing to the Beneficiary one Source Common Share, and (b) an additional amount equivalent to the full amount of all dividends declared and unpaid thereon. (d) On the fifth Business Day prior to the Liquidation Event Effective Date, the closing of the transaction of purchase and sale contemplated by the automatic exchange of Exchangeable Shares for Source Common Shares shall be deemed to have occurred, and each Beneficiary of Exchangeable Shares shall be deemed to have transferred to Source all of the Beneficiary's right, title and interest in and to such Exchangeable Shares and the related interest in the Trust Estate and shall cease to be a holder of such Exchangeable Shares and Source shall issue to the Beneficiary the Source Common Shares issuable upon the automatic exchange of Exchangeable Shares for Source Common Shares and shall deliver to the Trustee for delivery to the Beneficiary a cheque for the balance, if any, of the total purchase price for such Exchangeable Shares without interest but less any amounts withheld pursuant to section 5.13 hereof. Concurrently with such Beneficiary ceasing to be a holder of Exchangeable Shares, the Beneficiary shall be considered and deemed for all purposes to be the holder of the Source Common Shares issued to it pursuant to the automatic exchange of Exchangeable Shares for Source Common Shares and the certificates held by the Beneficiary previously representing the Exchangeable Shares exchanged by the Beneficiary with Source pursuant to such automatic exchange shall thereafter be deemed to represent Source Common Shares issued to the Beneficiary by Source pursuant to such automatic exchange. Upon the request of a Beneficiary and the surrender by the Beneficiary of Exchangeable Share certificates deemed to represent Source Common Shares, duly endorsed in blank and accompanied by such instruments of transfer as Source may reasonably require, Source shall deliver or cause to be delivered to the Beneficiary certificates representing Source Common Shares of which the Beneficiary is the holder. 5.13 WITHHOLDING RIGHTS. Source and the Trustee shall be entitled to deduct and withhold from any consideration otherwise payable under this trust agreement to any holder of Exchangeable Shares such amounts as Source or the Trustee is required or permitted to deduct and withhold with respect to such payment under the Income Tax Act (Canada), the United States Internal Revenue Code of 1986 or any provision of provincial, state, local or foreign tax law, in each case as amended. To the extent that amounts are so withheld, such withheld amounts shall be treated for all purposes hereof as having been paid to the holder of the shares in respect of which such deduction and withholding was made, provided that such withheld amounts are actually remitted to the appropriate taxing authority. To the extent that the amount so required or permitted to be deducted or withheld from any payment to a holder exceeds the cash portion of the consideration otherwise payable to the holder, Source and the Trustee are hereby authorized to sell or otherwise dispose of such portion of the consideration as is necessary to provide sufficient funds to Source or the Trustee, as the case may be, to enable it to comply with such deduction or withholding requirement and Source or the Trustee shall notify the holder thereof and remit any unapplied balance of the net proceeds of such sale. ARTICLE 6 RESTRICTIONS ON ISSUE OF SOURCE SPECIAL VOTING STOCK 6.1 ISSUE OF ADDITIONAL SHARES. During the term of this trust agreement, Source will not without the consent of the holders at the relevant time of Exchangeable Shares, given in accordance with the share provisions attaching to such shares, issue any shares of its Special Voting Stock in addition to the Source Special Voting Share. 12 13 ARTICLE 7 CONCERNING THE TRUSTEE 7.1 POWERS AND DUTIES OF THE TRUSTEE. The rights, powers, duties and authorities of the Trustee under this trust agreement, in its capacity as trustee of the Trust, shall include: (a) receipt and deposit of the Source Special Voting Share from Source as trustee for and on behalf of the Beneficiaries in accordance with the provisions of this agreement; (b) granting proxies and distributing materials to Beneficiaries as provided in this trust agreement; (c) voting the Beneficiary Votes in accordance with the provisions of this trust agreement; (d) receiving the grant of the Exchange Right and the Automatic Exchange Rights from Source as trustee for and on behalf of the Beneficiaries in accordance with the provisions of this trust agreement; (e) exercising the Exchange Right and enforcing the benefit of the Automatic Exchange Rights, in each case in accordance with the provisions of this trust agreement, and in connection therewith receiving from Beneficiaries Exchangeable Shares and other requisite documents and distribution to such Beneficiaries of Source Common Shares and cheques, if any, to which such Beneficiaries are entitled upon the exercise of the Exchange Right or pursuant to the Automatic Exchange Rights, as the case may be; (f) holding title to the Trust Estate; (g) investing any moneys forming, from time to time, a part of the Trust Estate as provided in this trust agreement; (h) taking action on its own initiative or at the direction of a Beneficiary or Beneficiaries to enforce the obligations of Source under this trust agreement; and (i) taking such other actions and doing such other things as are specifically provided in this trust agreement. In the exercise of such rights, powers, duties and authorities the Trustee shall have (and is granted) such incidental and additional rights, powers, duties and authority not in conflict with any of the provisions of this trust agreement as the Trustee, acting in good faith and in the reasonable exercise of its discretion, may deem necessary, appropriate or desirable to effect the purpose of the Trust. Any exercise of such discretionary rights, powers, duties and authorities by the Trustee shall be final, conclusive and binding upon all persons. The Trustee in exercising its rights, powers, duties and authorities hereunder shall act honestly and in good faith and with a view to the best interests of the Beneficiaries and shall exercise care, diligence and skill that a reasonably prudent trustee would exercise in comparable circumstances. 7.2 NO CONFLICT OF INTEREST. The Trustee represents to Cableshare and Source that at the date of execution and delivery of this trust agreement there exists no material conflict of interest in the role of the Trustee as a fiduciary hereunder and the role of the Trustee in any other capacity. The Trustee shall, within 90 days after it becomes aware that such a material conflict of interest exists, either eliminate such material conflict of interest or resign in the manner and with the effect specified in Article 10. If, notwithstanding the foregoing provisions of this section 7.2, the Trustee has such a material conflict of interest, the validity and enforceability of this trust agreement shall not be affected in any manner whatsoever by reason only of the existence of such material conflict of interest. If the Trustee contravenes the foregoing provisions of this section 7.2, any interested party may apply to the Ontario Court of Justice for an order that the Trustee be replaced as trustee hereunder. 7.3 DEALINGS WITH TRANSFER AGENTS, REGISTRARS, ETC. Cableshare and Source irrevocably authorize the Trustee, from time to time, to: 13 14 (a) consult, communicate and otherwise deal with the respective registrars and transfer agents, and with any such subsequent registrar or transfer agent, of the Exchangeable Shares and Source Common Shares; and (b) requisition, from time to time, (i) from any such registrar or transfer agent any information readily available from the records maintained by it which the Trustee may reasonably require for the discharge of its duties and responsibilities under this trust agreement and (ii) from the transfer agent of Source Common Shares, and any subsequent transfer agent of such shares, the share certificates issuable upon the exercise from time to time of the Exchange Right and pursuant to the automatic exchange of Exchangeable Shares for Source Common Shares in the manner specified in Article 5 hereof. Cableshare and Source irrevocably authorize their respective registrars and transfer agents to comply with all such requests. Source covenants that it will supply its transfer agent with duly executed share certificates for the purpose of completing the exercise from time to time of the Exchange Right and the automatic exchange of Exchangeable Shares for Source Common Shares, in each case pursuant to Article 5 hereof. 7.4 BOOKS AND RECORDS. The Trustee shall keep available for inspection by Source and Cableshare, at the Trustee's principal corporate trust office in Toronto, Ontario, correct and complete books and records of account relating to the Trust created by this trust agreement, including without limitation, all data relating to mailings and instructions to and from Beneficiaries and all transactions pursuant to the Exchange Right and the Automatic Exchange Rights. On or before March 31, 1997, and on or before March 31 in every year thereafter, so long as the Source Special Voting Share is on deposit with the Trustee, the Trustee shall transmit to Source and Cableshare a brief report, dated as of the preceding December 31, with respect to: (a) the property and funds comprising the Trust Estate as of that date; (b) the number of exercises of the Exchange Right, if any, and the aggregate number of Exchangeable Shares received by the Trustee on behalf of Beneficiaries in consideration of the issuance by Source of Source Common Shares in connection with the Exchange Right, during the calendar year ended on such date; and (c) any action taken by the Trustee in the performance of its duties under this trust agreement which it had not previously reported and which, in the Trustee's opinion, materially affects the Trust Estate. 7.5 INCOME TAX RETURNS AND REPORTS. The Trustee shall, to the extent necessary, prepare and file on behalf of the Trust appropriate United States and Canadian income tax returns and any other returns or reports as may be required by applicable law or pursuant to the rules and regulations of any securities exchange or other trading system through which the Exchangeable Shares are traded. 7.6 INDEMNIFICATION PRIOR TO CERTAIN ACTIONS BY TRUSTEE. The Trustee shall exercise any or all of the rights, duties, powers or authorities vested in it by this trust agreement at the request, order or direction of any Beneficiary upon such Beneficiary furnishing to the Trustee reasonable security or indemnity against the costs, expenses and liabilities which may be incurred by the Trustee therein or thereby, provided that no Beneficiary shall be obligated to furnish to the Trustee any such security or indemnity in connection with the exercise by the Trustee of any of its rights, duties, powers and authorities with respect to the Source Special Voting Share pursuant to Article 4 hereof, subject to section 7.15, and with respect to the Exchange Right pursuant to Article 5 hereof, subject to section 7.15, and with respect to the Automatic Exchange Rights pursuant to Article 5 hereof. None of the provisions contained in this trust agreement shall require the Trustee to expend or risk its own funds or otherwise incur financial liability in the exercise of any of its rights, powers, duties, or authorities unless funded, given security and indemnified as aforesaid. 7.7 ACTION OF BENEFICIARIES. No Beneficiary shall have the right to institute any action, suit or proceeding or to exercise any other remedy authorized by this trust agreement for the purpose of enforcing any of its rights or for the execution of any trust or power hereunder unless the Beneficiary has requested the Trustee to take or 14 15 institute such action, suit or proceeding and furnished and Trustee with the security or indemnity referred to in section 7.6 and the Trustee shall have failed to act within a reasonable time thereafter. In such case, but not otherwise, the Beneficiary shall be entitled to take proceedings in any court of competent jurisdiction such as the Trustee might have taken; it being understood and intended that no one or more Beneficiaries shall have any right in any manner whatsoever to affect, disturb or prejudice the rights hereby created by any such action, or to enforce any right hereunder or under the Voting Rights, the Exchange Rights or the Automatic Exchange Rights except subject to the conditions and in the manner herein provided, and that all powers and trusts hereunder shall be exercised and all proceedings at law shall be instituted, had and maintained by the Trustee, except only as herein provided, and in any event for the equal benefit of all Beneficiaries. 7.8 RELIANCE UPON DECLARATIONS. The Trustee shall not be considered to be in contravention of any of its rights, powers, duties and authorities hereunder if, when required, it acts and relies in good faith upon statutory declarations, certificates, opinions or reports furnished pursuant to the provisions hereof or required by the Trustee to be furnished to it in the exercise of its rights, power, duties and authorities hereunder if such statutory declarations, certificates, opinions or reports comply with the provisions of section 7.9 hereof, if applicable, and with any other applicable provisions of this trust agreement. 7.9 EVIDENCE AND AUTHORITY TO TRUSTEE. Cableshare and/or Source shall furnish to the Trustee evidence of compliance with the conditions provided for in this trust agreement relating to any action or step required or permitted to be taken by Cableshare and/or Source or the Trustee under this trust agreement or as a result of any obligation imposed under this trust agreement, including, without limitation, in respect of the Voting Rights or the Exchange Right or the Automatic Exchange Rights and the taking of any other action to be taken by the Trustee as the request of or on the application of Cableshare and/or Source forthwith if and when: (a) such evidence is required by any other section of this trust agreement to be furnished to the Trustee in accordance with the terms of this section 7.9; or (b) the Trustee, in the exercise of its rights, powers, duties and authorities under this trust agreement, gives Cableshare and/or Source written notice requiring it to furnish such evidence in relation to any particular action or obligation specified in such notice. Such evidence shall consist of an Officer's Certificate of Cableshare and/or Source or a statutory declaration or a certificate made by persons entitled to sign an Officer's Certificate stating that any such condition has been complied with in accordance with the terms of this trust agreement. Whenever such evidence relates to a matter other than the Voting Rights or the Exchange Right or the Automatic Exchange Rights or the taking of any other action to be taken by the Trustee at the request or on the application of Cableshare and/or Source, and except as otherwise specifically provided herein, such evidence may consist of a report or opinion of any solicitor, auditor, accountant, appraiser, valuer, engineer or other expert or any other person whose qualifications give authority to a statement made by him, provided that if such report or opinion is furnished by a director, officer or employee of Cableshare and/or Source it shall be in the form of an Officer's Certificate or a statutory declaration. Each statutory declaration, certificate, opinion or report furnished to the Trustee as evidence of compliance with a condition provided for in this trust agreement shall include a statement by the person giving the evidence: (a) declaring that he has read and understands the provisions of this trust agreement relating to the condition in question; (b) describing the nature and scope of the examination or investigation upon which he based the statutory declaration, certificate, statement or opinion; and (c) declaring that he has made such examination or investigation as he believes is necessary to enable him to make the statements or give the opinions contained or expressed herein. 15 16 7.10 EXPERTS, ADVISERS AND AGENTS. The Trustee may: (a) in relation to these presents act and rely on the opinion or advice of or information obtained from any solicitor, auditor, accountant, appraiser, valuer, engineer or other expert, whether retained by the Trustee or by Cableshare and/or Source or otherwise, and may employ such assistants as may be necessary to the proper discharge of its powers and duties and determination of its rights hereunder and may pay proper and reasonable compensation for all such legal and other advice or assistance as aforesaid; and (b) employ such agents and other assistants as it may reasonably require for the proper discharge of its powers and duties hereunder, and may pay reasonable remuneration for all services performed for it (and shall be entitled to receive reasonable remuneration for all services performed by it) in the discharge of the trusts hereof and compensation for all disbursements, costs and expenses made or incurred by it in the discharge of its duties hereunder and in the management of the Trust. 7.11 INVESTMENT OF MONEYS HELD BY TRUSTEE. Unless otherwise provided in this trust agreement, any moneys held by or on behalf of the Trustee which under the terms of this trust agreement may or ought to be invested or which may be on deposit with the Trustee or which may be in the hands of the Trustee may be invested and reinvested in the name or under the control of the Trustee in securities in which, under the laws of the Province of Ontario, trustees are authorized to invest trust moneys, provided that such securities are stated to mature within two years after their purchase by the Trustee, and the Trustee shall so invest such moneys on the written direction of Cableshare. Pending the investment of any moneys as hereinbefore provided, such moneys may be deposited in the name of the Trustee in any chartered bank of Canada or, with the consent of Cableshare, in the deposit department of the Trustee or any other loan or trust company authorized to accept deposits under the laws of Canada or any provide thereof at the rate of interest then current on similar deposits. 7.12 TRUSTEE NOT REQUIRED TO GIVE SECURITY. The Trustee shall not be required to give any bond or security in respect of the execution of the trusts, rights, duties, powers and authorities of this trust agreement or otherwise in respect of the premises. 7.13 TRUSTEE NOT BOUND TO ACT ON CABLESHARE'S REQUEST. Except as in this trust agreement otherwise specifically provided, the Trustee shall not be bound to act in accordance with any direction or request of Cableshare and/or Source or of the directors thereof until a duly authenticated copy of the instrument or resolution containing such direction or request shall have been delivered to the Trustee, and the Trustee shall be empowered to act upon any such copy purporting to be authenticated and believed by the Trustee to be genuine. 7.14 AUTHORITY TO CARRY ON BUSINESS. The Trustee represents to Cableshare and Source that at the date of execution and delivery by it of this trust agreement it is authorized to carry on the business of a trust company in the Province of Ontario but if, notwithstanding the provisions of this section 7.14, it ceases to be so authorized to carry on business, the validity and enforceability of this trust agreement and the Voting Rights, the Exchange Right and the Automatic Exchange Rights shall not be affected in any manner whatsoever by reason only of such event but the Trustee shall, within 90 days after ceasing to be authorized to carry on the business of a trust company in the Province of Ontario, either become so authorized or resign in the manner and with the effect specified in Article 10. 7.15 CONFLICTING CLAIMS. If conflicting claims or demands are made or asserted with respect to any interest of any Beneficiary in any Exchangeable Shares, including any disagreement between the heirs, representatives, successors or assigns succeeding to all or any part of the interest of any Beneficiary in any Exchangeable Shares resulting in conflicting claims or demands being made in connection with such interest, then the Trustee shall be entitled, at its sole discretion, to refuse to reorganize or to comply with any such claims or demand. In so refusing, the Trustee may elect not to exercise any Voting Rights, Exchange Right or Automatic Exchange Rights subject to such conflicting claims or demands and, in so doing, the Trustee shall not be or become liable to any person on account of such election or its failure or refusal to comply with any 16 17 such conflicting claims or demands. The Trustee shall be entitled to continue to refrain from acting and to refuse to act until: (a) the rights of all adverse claimants with respect to the Voting Rights, Exchange Right or Automatic Exchange Rights subject to such conflicting claims or demands have been adjudicated by a final judgment of a court of competent jurisdiction; or (b) all differences with respect to the Voting Rights, Exchange Right or Automatic Exchange Rights subject to such conflicting claims or demands have conclusively settled by a valid written agreement binding on all such adverse claimants, and the Trustee shall have been furnished with an executed copy of such agreement. If the Trustee elects to reorganize any claim or comply with any demand made by any such adverse claimant, it may in its discretion require such claimant to furnish such surety bond or other security satisfactory to the Trustee as it shall deem appropriate fully to indemnity it as between all conflicting claims or demands. 7.16 ACCEPTANCE OF TRUST. The Trustee hereby accepts the Trust created and provided for by and in this trust agreement and agrees to perform the same upon the terms and conditions herein set forth and to hold all rights, privileges and benefits conferred hereby and by law in trust for the various persons who shall from time to time be Beneficiaries, subject to all the terms and conditions herein set forth. ARTICLE 8 COMPENSATION 8.1 FEES AND EXPENSES OF THE TRUSTEE. Source and Cableshare jointly and severally agree to pay to the Trustee reasonable compensation for all of the services rendered by it under this trust agreement and will reimburse the Trustee for all reasonable expenses (including taxes) and disbursements, including the cost and expense of any suit or litigation of any character and any proceedings before any governmental agency reasonably incurred by the Trustee in connection with its duties under this trust agreement; provided that Source and Cableshare shall have no obligation to reimburse the Trustee for any expenses or disbursements paid, incurred or suffered by the Trustee in any suit or litigation in which the Trustee is determined to have acted in bad faith or with negligence or wilful misconduct. ARTICLE 9 INDEMNIFICATION AND LIMITATION OF LIABILITY 9.1 INDEMNIFICATION OF THE TRUSTEE. Source and Cableshare jointly and severally agree to indemnify and hold harmless the Trustee and each of its directors, officers and agents appointed and acting in accordance with this trust agreement (collectively, the "Indemnified Parties") against all claims, losses, damages, costs, penalties, fines and reasonable expenses (including reasonable expenses of the Trustee's legal counsel) which, without fraud, negligence, wilful misconduct or bad faith on the part of such Indemnified Party, may be paid, incurred or suffered by the Indemnified Party by reason of or as a result of the Trustee's acceptance or administration of the Trust, its compliance with its duties set forth in this trust agreement, or any written or oral instructions delivered to the Trustee by Source or Cableshare pursuant hereto. In no case shall Source or Cableshare be liable under this indemnity for any claim against any of the Indemnified Parties unless Source and Cableshare shall be notified by the Trustee of the written assertion of a claim or of any action commenced against the Indemnified Parties, promptly after any of the Indemnified Parties shall have received any such written assertion of a claim or shall have been served with a summons or other first legal process giving information as to the nature and basis of the claim. Subject to (ii), below, Source and Cableshare shall be entitled to participate at their own expense in the defence and, if Source or Cableshare so elect at any time after receipt of such notice, either of them may assume the defence of any suit brought to enforce any such claim. The Trustee shall have the right to employ separate counsel in any such suit and participate in the defence thereof but the fees and expenses of such counsel shall be at the expense of 17 18 the Trustee unless: (i) the employment of such counsel has been authorized by Source or Cableshare; or (ii) the named parties to any such suit include both the Trustee and Source or Cableshare and the Trustee shall have been advised by counsel acceptable to Source or Cableshare that there may be one or more legal defences available to the Trustee which are different from or in addition to those available to Source or Cableshare (in which case Source and Cableshare shall not have the right to assume the defence of such suit on behalf of the Trustee but shall be liable to pay the reasonable fees and expenses of counsel for the Trustee). 9.2 LIMITATION OF LIABILITY. The Trustee shall not be held liable for any loss which may occur by reason of depreciation of the value of any part of the Trust Estate or any loss incurred on any investment of funds pursuant to this trust agreement, except to the extent that such loss is attributable to the fraud, negligence, wilful misconduct or bad faith on the part of the Trustee. ARTICLE 10 CHANGE OF TRUSTEE 10.1 RESIGNATION. The Trustee, or any trustee hereafter appointed, may at any time resign by giving written notice of such resignation to Source and Cableshare specifying the date on which it desires to resign, provided that such notice shall never be given less than one month before such desired resignation date unless Source and Cableshare otherwise agree and provided further that such resignation shall not take effect until the date of the appointment of a successor trustee and the acceptance of such appointment by the successor trustee. Upon receiving such notice of resignation, Source and Cableshare shall promptly appoint a successor trustee by written instrument in duplicate, one copy of which shall be delivered to the resigning trustee and one copy to the successor trustee. 10.2 REMOVAL. The Trustee, or any trustee hereafter appointed, may be removed at any time on 30 days' prior notice by written instrument executed by Source and Cableshare, in duplicate, one copy of which shall be delivered to the trustee so removed and one copy to the successor trustee. 10.3 SUCCESSOR TRUSTEE. Any successor trustee appointed as provided under this trust agreement shall execute, acknowledge and deliver to Source and Cableshare and to its predecessor trustee an instrument accepting such appointment. Thereupon the resignation or removal of the predecessor trustee shall become effective and such successor trustee, without any further act, deed or conveyance, shall become vested with all the rights, powers, duties and obligations of its predecessor under this trust agreement, with the like effect as if originally named as trustee in this trust agreement. However, on the written request of Source and Cableshare or of the successor trustee, the trustee ceasing to act shall, upon payment of any amounts then due it pursuant to the provisions of this trust agreement, execute and deliver an instrument transferring to such successor trustee all the rights and powers of the trustee so ceasing to act. Upon the request of any such successor trustee, Source, Cableshare and such predecessor trustee shall execute any and all instruments in writing for more fully and certainly vesting in and confirming to such successor trustee all such rights and powers. 10.4 NOTICE OF SUCCESSOR TRUSTEE. Upon acceptance of appointment by a successor trustee as provided herein, Source and Cableshare shall cause to be mailed notice of the succession of such trustee hereunder to each Beneficiary specified in a List. If Source or Cableshare shall fail to cause such notice to be mailed within 10 days after acceptance of appointment by the successor trustee, the successor trustee shall cause such notice to be mailed at the expense of Source and Cableshare. 18 19 ARTICLE 11 SOURCE SUCCESSORS 11.1 CERTAIN REQUIREMENTS IN RESPECT OF COMBINATION, ETC. Source shall not enter into any transaction (whether by way of reconstruction, reorganization, consolidation, merger, transfer, sale, lease or otherwise) whereby all or substantially all of its undertaking, property and assets would become the property of any other person or, in the case of a merger, of the continuing corporation resulting therefrom unless, but may do so if: (a) such other person or continuing corporation is a corporation (herein called the "Source Successor") incorporated under the laws of any state of the United States or the laws of Canada or any province thereof; (b) Source Successor, by operation of law, becomes, without more, bound by the terms and provisions of this trust agreement or, if not so bound, executes, prior to or contemporaneously with the consummation of such transaction a trust agreement supplemental hereto and such other instruments (if any) as are satisfactory to the Trustee and in the opinion of legal counsel to the Trustee are necessary or advisable to evidence the assumption by Source Successor of liability for all moneys payable and property deliverable hereunder and the covenant of such Source Successor to pay and deliver or cause to be delivered the same and its agreement to observe and perform all the covenants and obligations of Source under this trust agreement; and (c) such transaction shall, to the satisfaction of the Trustee and in the opinion of legal counsel to the Trustee, be upon such terms and substantially to preserve and not to impair in any material respect any of the rights, duties, powers and authorities of the Trustee or of the Beneficiaries hereunder. 11.2 VESTING OF POWERS IN SUCCESSOR. Whenever the conditions of section 11.1 hereof have been duly observed and performed, the Trustee, if required, by section 11.1 hereof, Source Successor and Cableshare shall execute and deliver the supplemental trust agreement provided for in Article 12 and thereupon Source Successor shall possess and from time to time may exercise each and every right and power of Source under this trust agreement in the name of Source or otherwise and any act or proceeding by any provision of this trust agreement required to be done or performed by the Board of Directors of Source or any officers of Source may be done and performed with like force and effect by the directors or officers of such Source Successor. 11.3 WHOLLY-OWNED SUBSIDIARIES. Nothing herein shall be construed as preventing the amalgamation or merger of any wholly-owned subsidiary of Source with or into Source or the winding-up, liquidation or dissolution of any wholly-owned subsidiary of Source provided that all of the assets of such subsidiary are transferred to Source or another wholly-owned subsidiary of Source and any such transactions are expressly permitted by this Article 11. ARTICLE 12 AMENDMENTS AND SUPPLEMENTAL TRUST AGREEMENTS 12.1 AMENDMENTS, MODIFICATIONS, ETC. This trust agreement may not be amended or modified except by an agreement in writing executed by Cableshare, Source and the Trustee and approved by the Beneficiaries in accordance with Section 10.2 of the Share Provisions. 12.2 MINISTERIAL AMENDMENTS. Notwithstanding the provisions of section 12.1 hereof, the parties to this trust agreement may in writing, at any time and from time to time, without the approval of the Beneficiaries, amend or modify this trust agreement for the purposes of: (a) adding to the covenants of either or both parties hereto for the protection of the Beneficiaries hereunder; (b) making such amendments or modifications not inconsistent with this trust agreement as may be necessary or desirable with respect to matters or questions which, in the opinion of the Board of 19 20 Directors of each of Source and Cableshare and in the opinion of the Trustee, having in mind the best interests of the Beneficiaries, it may be expedient to make, provided that such boards of directors and the Trustee shall be of the opinion that such amendments and modifications will not be prejudicial to the interests of the Beneficiaries; or (c) making such changes or corrections which, on the advice of counsel to Cableshare, Source and the Trustee, are required for the purpose of curing or correcting any ambiguity or defect or inconsistent provision or clerical omission or mistake or manifest error, provided that the Trustee and the Board of Directors of each of Cableshare and Source shall be of the opinion that such changes or corrections will not be prejudicial to the interests of the Beneficiaries. 12.3 MEETING TO CONSIDER AMENDMENTS. Cableshare, at the request of Source, shall call a meeting or meetings of the Beneficiaries for the purpose of considering any proposed amendment or modification requiring approval pursuant hereto. Any such meeting or meetings shall be called and held in accordance with the by-laws of Cableshare, the Share Provisions and all applicable laws. 12.4 CHANGES IN CAPITAL OF SOURCE AND CABLESHARE. At all times after the occurrence of any event effected pursuant to section 2.7 or 2.8 of the Support Agreement, as a result of which either Source Common Shares of the Exchangeable Shares or both are in any way changed, this trust agreement shall forthwith be amended and modified as necessary in order that it shall apply with full force and effect, mutatis mutandis, to all new securities into which Source Common Shares or the Exchangeable Shares or both are so changed and the parties hereto shall execute and deliver a supplemental trust agreement giving effect to and evidencing such necessary amendments and modifications. 12.5 EXECUTION OF SUPPLEMENTAL TRUST AGREEMENTS. No amendment to or modification or waiver of any of the provisions of this trust agreement otherwise permitted hereunder shall be effective unless made in writing and signed by all of the parties hereto. From time to time Cableshare (when authorized by a resolution of the Board of Directors), Source (when authorized by a resolution of its Board of Directors) and the Trustee may, subject to the provisions of these presents, and they shall, when so directed by these presents, execute and deliver by their proper officers, trust agreements or other instruments supplemental hereto, which thereafter shall form part hereof, for any one or more of the following purposes: (a) evidencing the succession of Source Successors to Source and the covenants of and obligations assumed by each such Source Successor in accordance with the provisions of Article 11 and the successor of any successor trustee in accordance with the provisions of Article 10; (b) making any additions to, deletions from or alterations of the provisions of this trust agreement or the Voting Rights, the Exchange Right or the Automatic Exchange Rights which, in the opinion of the Trustee, will not be prejudicial to the interests of the Beneficiaries or are in the opinion of counsel to the Trustee necessary or advisable in order to incorporate, reflect or comply with any legislation the provisions of which apply to Source, Cableshare, the Trustee or this trust agreement; and (c) for any other purposes not inconsistent with the provisions of this trust agreement, including without limitation, to make or evidence any amendment or modification to this agreement as contemplated hereby, provided that, in the opinion of the Trustee, the rights of the Trustee and the Beneficiaries will not be prejudiced thereby. 20 21 ARTICLE 13 TERMINATION 13.1 TERM. The Trust created by this trust agreement shall continue until the earliest to occur of the following events: (a) no outstanding Exchangeable Shares are held by a Beneficiary; (b) each of Cableshare and Source elects in writing to terminate the Trust and such termination is approved by the Beneficiaries of the Exchangeable Shares in accordance with Section 10.2 of the Share Provisions; and (c) 21 years after the death of the last survivor of the descendants of His Majesty King George VI of Canada and of the United Kingdom of Great Britain and Northern Ireland living on the date of the creation of the Trust. 13.2 SURVIVAL OF AGREEMENT. This trust agreement shall survive any termination of the Trust and shall continue until there are no Exchangeable Shares outstanding held by a Beneficiary; provided, however, that the provisions of Articles 9 and 10 shall survive any such termination of this trust agreement. ARTICLE 14 GENERAL 14.1 SEVERABILITY. If any provision of this trust agreement is held to be invalid, illegal or unenforceable, the validity, legality or enforceability of the remainder of this trust agreement shall not in any way be affected or impaired thereby and the agreement shall be carried out as nearly as possible in accordance with its original terms and conditions. 14.2 ENUREMENT. This trust agreement shall be binding upon and enure to the benefit of the parties hereto and their respective successors and permitted assigns and to the benefit of the Beneficiaries. 14.3 NOTICES TO PARTIES. All notices and other communications between the parties hereunder shall be in writing and shall be deemed to have been given if delivered personally or by confirmed telecopy to the parties at the following addresses (or at such other address for such party as shall be specified in like notice): 21 22 (a) if to Source at: Source Media, Inc. 8140 Walnut Hill Lane Suite 1000 Dallas, Texas 75231 U.S.A. Attention: Chairman and CEO Telecopier: (214) 890-9132 (b) if to Cableshare at: Cableshare Inc. 150 Dufferin Avenue Suite 906 London, Ontario Canada N6A 5N6 Attention: President Telecopier: (519) 663-0339 (c) if to the Trustee at: -- Attention: -- Telecopy: -- Any notice or other communication given personally shall be deemed to have been given and received upon delivery thereof and if given by telecopy shall be deemed to have been given and received on the date of receipt thereof unless such day is not a Business Day in which case it shall be deemed to have been given and received upon the immediately following Business Day. 14.4 NOTICE OF BENEFICIARIES. Any and all notices to be given and any documents to be sent to any Beneficiaries may be given or sent to the address of such holder shown on the register of holders of Exchangeable Shares in any manner permitted by the by-laws of Cableshare from time to time in force in respect of notices to shareholders and shall be deemed to be received (if given or sent in such manner) at the time specified in such by-laws, the provisions of which by-laws shall apply mutatis mutandis to notices or documents as aforesaid sent to such holders. 14.5 RISK OF PAYMENTS BY POST. Whenever payments are to be made or documents are to be sent to any Beneficiary by the Trustee or by Cableshare, or by such Beneficiary to the Trustee or to Source or Cableshare, the making of such payment or sending of such document sent through the post shall be at the risk of the party paying or sending the same. 14.6 COUNTERPARTS. This trust agreement may be executed in counterparts, each of which shall be deemed an original, but all of which taken together shall constitute one and the same instrument. 14.7 JURISDICTION. This trust agreement shall be construed and enforced in accordance with the laws of the Province of Ontario and the laws of Canada applicable therein. 14.8 ATTORNMENT. Source agrees that any action or proceeding arising out of or relating to this trust agreement may be instituted in the courts of Ontario, waives any objection which it may have now hereafter to the venue of any such action or proceeding, irrevocably submits to the jurisdiction of the said courts in any such action or proceeding, agrees to be bound by any judgment of the said courts and not to seek, and hereby waives, any review of the merits of any such judgment by the courts of any other jurisdiction and hereby appoints Cableshare at its registered office in the Province of Ontario as Source's attorney for service of process. 22 23 IN WITNESS WHEREOF, the parties hereto have caused this trust agreement to be duly executed as of the date first above written. SOURCE MEDIA, INC. by --------------------------------- C.S. -------------------------------- CABLESHARE INC. by --------------------------------- C.S. -------------------------------- -- TRUST COMPANY by --------------------------------- ----------------------------------- 23 EX-21 7 LIST OF SUBSIDIARIES 1 EXHIBIT 21 Subsidiaries ------------ IT Network, Inc., a Texas corporation Cableshare Inc., an Ontario, Canada corporation 99.7758 Ontario Inc., an Ontario, Canada corporation EX-23.1 8 CONSENT OF ERNST & YOUNG LLP 1 EXHIBIT 23.1 CONSENT OF INDEPENDENT AUDITORS We consent to the references to our firm under the captions "Experts," and "Selected Consolidated Financial Data of Source," and to the use of our report dated February 9, 1996, in the Registration Statement (Form S-1) and related Prospectus of Source Media, Inc., for the registration of shares of its common stock. /s/ ERNST & YOUNG LLP ------------------------------------ ERNST & YOUNG LLP Dallas, Texas November 22, 1996 EX-23.2 9 CONSENT OF KPMG 1 EXHIBIT 23.2 INDEPENDENT AUDITORS' CONSENT To the Board of Directors of CABLESHARE INC. We consent to the use of our report included herein, and to the reference to our firm under the heading "Experts" in the prospectus. Our report includes additional comments for U.S. readers referring to the economic dependency of Cableshare Inc. on its parent. KPMG Chartered Accountants London, Canada November 26, 1996 EX-23.5 10 CONSENT OF HEENAM BLAIKIE 1 EXHIBIT 23.5 Peter L. Clark (Toronto Office) (416) 360-3543 November 26, 1996 BY FACSIMILE Source Media, Inc. 8140 Walnut Hill Lane Suite 1000 Dallas, Texas 75231 U.S.A. c/o Bowne of Dallas (Facsimile (214) 651-1051) Attention: Maryann Walsh Dear Sirs/Madame: We have reviewed the "Canadian Federal Income Tax Considerations for Exchangeable Shareholders" section of the Registration Statement on Form S-1 of Source Media, Inc. to be filed on or about November 26, 1996. We consent to our firm being referred to under the headings "Legal Opinions" and "Canadian Federal Income Tax Considerations for Exchangeable Shareholders" in the Prospectus that is a part of the Registration Statement, relating to the Canadian Federal Income Tax Considerations for Exchangeable Shareholders. Holders of Exchangeable Shares or acquirors of Source Common Shares should not rely on Heenan Blaikie with respect to any other matters. Yours truly, HEENAN BLAIKIE /s/ PETER L. CLARK Peter L. Clark PLC/mvp -----END PRIVACY-ENHANCED MESSAGE-----